While policy makers continue to debate what is the best way to halt the country’s financial crisis, “bond king” Bill Gross of PIMCO says it is clear what needs to be done. “The remedy for this deflationary delivering and mini-depression is simple and almost axiomatic,” Gross writes in his latest commentary on PIMCO’s web site. “Stop the decline in asset prices. If that can be done, the real economy will level out as well.”
Gross says that efforts to recapitalize banks as a way to get credit flowing and bolster asset prices have missed a key point. Drawing on data compiled by researcher Jim Bianco, Gross notes that the big banks have indeed started lending, contrary to popular belief. The problem, Gross says, is that the “shadow banking system” — hedge funds, investment banks, SIVs, and CDOs — has not. And, because this “shadow” system has become such a huge part of the credit markets in recent years, its continued delivering has kept asset prices tumbling.
That doesn’t mean the feds should bail out hedge funds and others in the shadow banking system, Gross says, adding that some of those institutions should be allowed to fail. “But in permitting failure, policymakers must still be cognizant of the need to support asset prices — hopefully by inducing confidence and trust in private investors … but if need be by the financing or purchase of assets themselves.”
“One thing is certain,” Gross says. “An economic recovery is dependent upon commercial real estate prices stabilizing and most retail stores staying open for business in the months and years ahead. … When home prices stop going down, newly created households will be more willing to take a chance on ownership as opposed to renting. If stock prices consolidate, recently burned investors will be more willing to invest, as opposed to stuffing their 401(k) mattresses with Treasury bills. Business investment , jobs, and profits should follow quickly behind.”
Rather than one-time bailouts of real estate developers, municipalities, or credit card issuers, the government needs to support prices of critical assets, like municipal bonds, commercial real estate mortgage-backed securities, and investment grade corporate bonds, Gross says, calling that “a necessary step towards eventual economic revival”.