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Fears that those weak institutions might collapse have subsided. What made the announced measure so effective even though it has yet to be approved by Congress?

The said measure is the proposal to set up a gigantic fund of US$700 billion (Bt23.8 trillion) to be used for purchasing mortgage-financing assets owned by various financial institutions. These assets should include mortgage-backed securities in which financial institutions have invested, mortgaged loans directly to home-buyers and any other type of mortgage-financing instrument.

Please understand that the root cause of the economic problems in the US this time round was the over-expansion of the real-estate business, which was booming before 2006. Americans invested in houses a great deal, some for living, some for renting and some for speculation as prices had been increasing for years. There also were a lot of investments in housing projects until the market reached a state of oversupply and the prices of real estate started to go down in the first quarter of 2006. It really was the bursting of the real-estate bubble. As house prices fell, home-buyers with weak financial positions started to default on their payments. This became commonplace, and some mortgaged loans became bad debts, as did some mortgage-backed securities. There followed up to 1 million foreclosures and houses going up for sale, which pushed real-estate prices down further.

The drop in house prices led to more defaults and more bad debts, which have amounted to hundreds of billions of dollars. The financial institutions had to write off these bad debts and also had to provide additional reserves for further loan losses as the value of collateral was decreasing. The write-offs and provisions for loan losses reaching this record high caused such substantial financial losses and a reduction of capital equity that a big increase in capital becomes necessary. But the current situation in the capital market does not support the raising of capital.

Finally, some institutions had to close down, and others had to merge with those that had stronger financial positions. Arrangements have been made to have bigger or stronger financial institutions render support by taking over, injecting capital into or providing some form of quasi-equity to those that need capital increases.

Yet these actions were not enough to convince the general public that these financial institutions would not incur further write-offs and provide more reserves for loan losses, as there had yet to be any measure implemented that would ensure that the remaining mortgaged loans or mortgage-backed securities were repaid on time as market prices have yet to recover. Therefore, despite the arrangements to help increase the needed capital, the public still fears that these financial institutions may have more write-offs on remaining mortgage-financing assets, which would cause more financial loss. As a consequence, the share prices of these financial institutions decreased further, as witnessed from September 15-18.

However, as soon as Paulson announced plans to establish a gigantic fund to buy the mortgage-financing assets of financial institutions, the general public could clearly see that there was a definite buyer that would take the distressed assets from financial institutions. There was no need to worry that these assets would result in more financial losses. Seeing this clearly, the public started buying back shares of these institutions, causing a big jump in their share price on September 19.

This measure has cut short fears that financial institutions will incur further losses from distressed mortgage assets, it has stopped the share prices of these institutions from falling as a result of this fear, and it has also cut short the panic that such falling prices would spread to other shares on the US market and other markets around the world.

However, this measure is not a cure-all. It cannot bring about the recovery of the deteriorating US economy in a short period of time. The effect of a rapid surge in oil prices in the first half of this year, which led to a higher inflation rate then, will also have a second-round effect on higher inflation in the second half, even though the price of oil has lessened somewhat in the third quarter. This rise in the inflation rate will slow down private expenditures to a certain extent. Furthermore, the relatively large reduction of share price on the US Stock Exchange affected the majority of Americans who put some of their savings into stocks. With their wealth reduced, Americans naturally spend less, especially on non-necessities. It will take quite some time before the financial strength of the average American recovers to the point that they can resume their spending habits. Imports will, therefore, be reduced, which will have an impact on the export volumes of countries around the world that ship to the US.

I have elaborated on this issue so as to make clear to readers the exact nature of the conviction that resulted from the Paulson proposal, the sectors that will benefit from his proposed measure, and the problems that will still remain unsolved, so that we won't have any wrong expectations. The outstanding character of this measure is that it rightly addresses a problem that would lead to a loss of confidence in the financial institutions as a whole. If this concern were to spread, all financial institutions would collapse, and the effect would be beyond anyone's imagining. For the time being, we can rest assured that such a catastrophic situation is not unfolding. It is believed that Congress will approve the setting up of the fund as proposed, because if it were turned down, the situation would be quickly reversed and the effect would be much more severe. Let us hope that the proposal will not be rejected.

Until next Monday.