Things I don't understand about the bailout

[mntetn]

1. If the problem is a shortage of credit, how does borrowing another $700B help matters?

2. Again, if there is a credit crunch, why are we lowering the cost of it? Doesn't that just make it more attractive to borrow money?

3. If interest rates are going down, shouldn't the adjustable rate mortgage/foreclosure problem go away?

[Jeemie]

1. If the problem is a shortage of credit, how does borrowing another $700B help matters?

It won't.

2. Again, if there is a credit crunch, why are we lowering the cost of it? Doesn't that just make it more attractive to borrow money?

The cost of borrowing is not going down. Look at the LIBOR. The Fed has very little power to affect rates- they are trying to pump liquidity into the market- but the problem is not liquidity as much as it is that lenders just don't trust anyone because no one knows the extent of bad debt on people's books.

3. If interest rates are going down, shouldn't the adjustable rate mortgage/foreclosure problem go away?

Again- interest rates aren't going down. The Fed's rate cuts aren't influencing the LIBOR.

But when all you've got is a hammer, everything looks like a nail.

[sunflower]

Plus with the mortgages - a lot of people did "interest only" mortgages where you pay interest only for a couple of years and then it balloons up to a higher rate AND includes principle. If you could only afford the interest when you bought the house, chances are you can't afford interest plus principle, even if the rate went way down.

[gotribego26]

This explanation is not an endorsement of what is going on. I like some of it -but not all.

1. If the problem is a shortage of credit, how does borrowing another $700B help matters?

People are willing to lend to the government - look at governemnt interest rates - they have been stable or dropping as the crisis evolves - they can borrow funds. They are hoping to buy up bad loans with the money, giving the banks good money to lend (at their normal usurious rates. The idea is to make money available without influencing the cost too much - in some cases right now you just can't borrow money at any rate.

2. Again, if there is a credit crunch, why are we lowering the cost of it? Doesn't that just make it more attractive to borrow money?

This won't lower the cost - to the extent that government borrowing crowds out other money it certainly won't lower the cost. I don't expect to see lower rates in consumer or business lending - hopefully just availability.

3. If interest rates are going down, shouldn't the adjustable rate mortgage/foreclosure problem go away?

In a few cases yes - but most are based on LIBOR - and many had teaser rates - so the elimination of the teaser is far greater than the decrease in the index if there is one.