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No magic wand in sight as U.S. grapples with sinking economy
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14:19, July 21, 2008

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IndyMac has failed. Fannie Mae and Freddie Mac are under attack. Stocks are floundering in a bear market.

Add to the mix a set of U.S. leaders who appear to have run out of options to rescue an economy on the brink of recession, and the situation may seem rather volatile.

The shares of Fannie and Freddie, the troubled mortgage finance giants that account for about 50 percent of the 10.6 trillion dollars of U.S. mortgage debt, have tumbled by 80 percent over the past year.

California-based IndyMac, which specialized in a type of mortgage that often required minimal documents from borrowers, became the third largest banking failure in U.S. history days ago, as a housing bust and credit crunch strain financial institutions.

"I fear that we're sitting on a financial powder keg," said Senator Richard C. Shelby of Alabama, senior Republican on the upper house's Banking Committee.

Fannie and Freddie's woes "appeared to mark a new phase in the U.S. financial crisis, with fears of a contagion effect that could yet weigh more heavily on the global economy," noted a recent report in The Washington Post.

Some analysts have called on the Federal Reserve and the Bush administration to take swift action to prevent the crisis from deteriorating, noting the tipping points of economic crises are almost always more about psychology than fundamentals, with panic over a bank's insolvency, for instance, potentially becoming a self-fulfilling prophecy.

"I think the problem now is a general confidence crisis that is complicated by some global contagion that's now spreading," said Brian Bethune, a chief economist with Global Insight at Lexington, Massachusetts.

This crisis of liquidity and capitalization of the government-sponsored enterprises is an unfortunate and potentially dangerous turn of events in the current U.S. business cycle, he added.

"It must be defused swiftly and effectively, because failure to do so would risk a further meltdown of the housing and mortgage markets of proportions not seen since the Depression era," warned Bethune.

The Bush administration has urged Congress to temporarily increase lines of credit to Fannie and Freddie and to let the government buy their stock.

Meanwhile, the Federal Reserve has offered to let the companies draw emergency loans.

But if investor jitters prevent them from being able to sell bonds to finance new mortgages, it could have far-reaching economic consequences, warns the U.S. media.

Some investors are beginning to think the U.S. leaders are running out of the ammunition they have used to support the stock markets in past months.
"Despite repeated intervention by the Fed and central banks and regulators world-wide, no one seems to be able to prevent further damage to banks and other financial institutions," said a Wall Street Journal report.

Though new government efforts to help Fannie and Freddie could temporarily give markets a boost, investors are coming to grips with the fact that the big rate cuts have been made, the market and the economy remain in trouble, and they may now have to tough it out, said the report.

"I don't think the Fed can shake its magic wand and right everything in the capital markets," said Ethan Harris, chief U.S. economist at investment bankers Lehman Brothers.

He believes that the Fed may wind up cutting rates by another half a percentage point, to 1.5 percent, but not until later this year or early next year.

"They are trying to buy time for the economy to lick its wounds and recover," he was quoted as saying by The Wall Street Journal.

Federal Reserve chief Ben Bernanke has warned that the U.S. economy continues to face "numerous difficulties", including persistent strains in financial markets, declining house prices and rising costs of oil and food.

"The U.S. economy and financial system have confronted some significant challenges thus far in 2008," said Bernanke in a written testimony to the Senate Banking Committee on Tuesday.

"Accurately assessing and appropriately balancing the risks to the outlook for growth and inflation is a significant challenge for monetary policy-makers," the central bank chairman noted.

Bruce McCain, chief investment strategist at Key Private Bank, an arm of KeyCorp in Cleveland, said the Fed does not look like they can drop interest rates much further.

"A big part of what the Fed is able to do for the economy, theyhave already done," he said.

To shore up the battered housing market, one Treasury official said they are "turning over every stone looking for incremental ways" for assistance.

At his first press conference since April, President George W. Bush on Tuesday voiced his confidence in "the long-term foundation of our economy."

"The bottom line is this: We're going through a tough time," said the president, noting he understands there is a lot of nervousness, but the U.S. economy is growing, productivity is high, trade is up, and "people are working (although) it's not as good as we'd like."

However, when questioned about the soaring fuel prices, Bush admitted his weakness.

"The president doesn't have a magic wand," he said.

Source: Xinhua

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