The sunny side of the street

Where’s the bright side? First, the total amount of expected sub-prime mortgage default is on the order of $200 billion. This is a tiny number in the context of the U.S. economy — $13.13 trillion as of end 2006.

It’s probably not true that sub-prime mortgages are the only problem in the collateralized debt pipeline. There must be others, as the August credit crunch suggests. But surely it was an overreaction to tar all commercial paper with the sub-prime brush. Recovery will not be fast or in a straight line, but markets are accustomed to borrowing short-term and lending long-term. Banks have been doing it for centuries. This is not the problem. The problem is bundling low-class paper into something that purports to be high-class, and then overleveraging the package three or four times to poorly capitalized buyers.

This has nothing to do with the dollar per se. Foreigners were big buyers of this potentially toxic paper, too. It was a British bank (Northern Rock) that had a run on it, despite having a good balance sheet free of the toxic stuff but overreliant on commercial paper.

Also, a lower dollar means exports will continue to boom and alleviate the trade imbalance of more than $700 billion and 7.6 percent of GDP, a supposedly unsustainable level. Eventually a cheap dollar will inspire foreign direct investment (FDI), which was a key factor in the dollar’s recovery in the 1990s. Foreign direct investment covers everything from Germans building shopping centers in Cleveland to takeovers of entire companies, as long as xenophobic protectionism is kept at bay. Maybe we can sell Rockefeller Center to the Chinese this time.