Thursday, March 12, 2009

Diversifying for Armageddon

A troubling mega-trend has me thinking about the worst-case scenario for the U.S. economy. The Federal government has been creating and borrowing money at a mind-boggling rate in a supposed attempt to revive the economy, and I fear that it will ultimately have the opposite effect. I've lost track of how much money we're on the hook for, as it's been a blur of a half-trillion dollars here, 3/4 trillion dollars there, seemingly repeating every week or two. Our capacity to borrow from ourselves and from other nations is limited, and it's possible that the limit has already been crossed, even though the fallout has yet to fully materialize. The real irony is that the subprime mortgage collapse has just provided a hard lesson in what happens when people take on too much debt. It's almost as though the folks in D.C. are living in a different universe.

The latest news is that the FDIC, the Federal Deposit Insurance Corporation, is low on funds, and has asked for a half-trillion dollar loan. The FDIC is the insurance program for our bank accounts, and with all of the recent bank failures, its cash reserves are running out. Without a loan to save the FDIC, it's possible that at some point in the near future a bank could fail and all of the savings accounts could go up in smoke along with it. I speculated earlier that foreign governments like China might not be willing to lend us money forever, so scrounging up another $500 billion at the last minute could prove difficult.

The bottom line is that something has to give eventually. The unraveling may begin with an uninsured bank failure, or with a sell-off of U.S. Treasuries by foreign governments, or by hyperinflation brought about by too many dollars being in circulation, or by outright bankruptcy of the federal government. I don't know where, when or how it will all come down, but I don't plan on being blindsided by it.

I'm spreading around my liquid savings/checking account funds to minimize the risk from any one institutional failure. I'm opening up an account with a second bank in my neighborhood, and I'm already transferring some of my savings to a third online account with yet another institution. In addition, I'm taking out a little extra cash every time I visit an ATM to stash away in case the entire banking system collapses. (That's mostly to make sure I have enough gas and food to drive to the Midwest and hook up with family.) I fully realize how insane and paranoid this sounds, but I see these as small measures which could make a big difference if things get really bad.

If it turns out that the financial system recovers without any major damage, then I'll be very happy to withstand the embarrassment of having gone overboard with my preparations. On the other hand, if a collapse is looming, then I only hope I can make sufficient preparation before it's too late.

5 comments:

Jerry A. said...

Jody

I love it. I agree 100%, a lot of these banks could be insolvent. How could any of these welfare institutions attract any new depositors?

I have had more people ask me the last couple of days if now is a good time to buy bank stocks. I try to explain to them about return on investment vs. the number of shares you can buy. I was hoping for an up open today so I could short some of them, knowing now who is on the other side of that trade.

Each month they release the Treasury International Capital (TIC) report. What is very interesting, was that in the last report CHINA held 22.3% of the Long-term treasuries among foreign treasury holders. Seems a little scarey to me when one fifth of the foreign demand for your debt is from a state run country. The next report comes out Monday 3/16.

Thanks for the great stuff.

Anonymous said...

I don't think it sounds paranoid at all. I'm doing the same thing; spreading my liquid savings/cash among several banks in the neighborhood, and keeping a good pile of it at home. I've been reading a lot about the banking system recently, and it's fascinating. My own ignorance of how it really works was alarming. It seems like the mother of all ponzi schemes that has just about reached its limit.

vv said...

It's not too paranoid. I remember one of those days back in Sep or Oct when there was that run on money market accounts. I had to visit 6 ATM machines before I could withdraw some cash. (because people panicked and withdrew all cash from the machines).

But whatever 'crisis' happens it's going to be temporary since we operate on fiat money. So stuffing mattresses with money isn't called for. Keeping a small reserve is ok for the sake of convenience. If the so called worst case scenario happens the paper money will lose its value anyway.

Fractional reserve banking is not a ponzi scheme. I, for one, don't like full-reserve banking and/or the gold standard. Hate the shiny stuff. It stifles credit, growth and innovation.

We've been through 2 world wars, a cold war where we came to the brink of nuclear war, genocides and famines this last century. No need to panic just cause some idiots thought home prices would keep on going up and leveraged themselves based on that assumption. Worst case scenario takes us to S&P 450 - 500 ish. That's still the mid - 90's.

Jody said...

Jerry,

Yes, it's troubling to consider that a country that calls itself Communist owns almost one quarter of our foreign debt. Thanks for the information.

Anonymous,

I'm afraid it may indeed be one big Ponzi scheme, the difference being that, whoever is playing the role of Ponzi this time will won't be carted off to prison.

Jody said...

VV,

I hope you're right.