The delusional complacency that the “worst is behind us” is rapidly melting away…and the risk of another run against systemically important broker dealers
After the collapse in mid-March of Bear Stearns and the ensuing bailout of Bear’s creditors and the extension of the Fed’s lender of last resort support to systemically important members of the “shadow banking system” (the non-bank broker dealers that are primary dealers) a sense of delusional complacency emerged in financial markets based on fairy tales such as “the worst is behind us”, the “recession will be short and shallow”, that “housing is bottoming out” or even that “we will avoid the recession”. This chorus of cheerleaders included policy makers that had missed the incoming financial tsunami for most of 2007, CEOs and senior financial sector folks who had lost hundreds of billions of dollars with their reckless lending, and investments and a bunch of self serving spin-masters talking non-stop their long books on CNBC and other financial media. This circus of “the worst is behind us” became a pathetic and louder chorus in the two months from mid-March till the end of May. This delusion was for a short couple of months supported by rising stock prices, reduction in credit spreads and interbank spread that, however, remained very high and indicated a persistent liquidity and credit crunch.
But this delusional complacency is now rapidly collapsing as financial markets are back to panic mode. Let’s detail how…
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