Imagine yourself at the drive-thru ordering a Big Mac. At one window you order and pay, at the other – 20 feet ahead – you pick up your lunch. What if you thought that after paying at the first window, your 1000 calorie sandwich might not be waiting for you a few seconds later. You might not pay; business as usual might not take place. That is what is happening in the credit markets. They are frozen in ‘McFear.’
That’s Pimco’s attempt to explain the credit crisis to Joe Six-Pack (“Average Americans know little of the ways of Wall Street nor will they ever, I suppose”) in its latest newsletter. In this case, Lehman took the Big Mac order (promising trillions of dollars of CDS in exchange) then collapsed, rendering the Big Mac market pretty much useless, and interbank lending too.
The reluctance of banks to lend has trickled down to the commercial paper market — impacting short-term financing of your average, run-of-the-mill corporate (Main Street, not Wall Street).
Here’s what Pimco’s Managing Director Bill Gross is recommending:
A systemic delevering likely requires a systemic solution, which moves beyond cyclical interest rate cuts, liquidity provisions, or even the purchase of subprime mortgage-backed bonds. We believe that the Federal Reserve must now act as a clearing house, guaranteeing that institutional transactions clear (and investors receive) their Big Macs at the second window. They must also take another bold step: outright purchases of commercial paper. They should also cut interest rates to 1%, because we are experiencing asset deflation, and the threat of headline inflation is long past.
Of course, that’s from the man who volunteered to manage the $700bn toxic-asset sweep that is the Tarp — but only after netting $1.7bn from the US-government’s bailout of Fannie and Freddie, so you might want to take it with a grain of salt. Or fries?
Related links:
What McDonald’s can teach you about finance – FT Alphaville