The stock market is already zooming on today's news that the Federal Reserve will reduce the Federal Funds rate by 50 basis points. The assumption implicit in the market reaction--and in much of the commentary surrounding today’s crucial meeting of the Federal Open Market Committee--is that adjusting interest rates will solve a great many of the problems that cast a pall on the markets, and on the economy at large.

But that assumption would be mistaken. Look, all things being equal, it’s better for Wall Street, for corporate America, and for consumers, if short-term money is cheaper rather than more expensive. But many of the issues that have arisen in recent months surrounding lending-the subprime implosion, the failure of several hedge funds, the escalation in foreclosures, and the sudden skittishness of lenders about extending credit-don’t have much to do with interest rates having risen to unsustainable levels (they’re still comparatively low by historical standards). Rather, they have everything to do with the reckless extension and use of credit, the failure of borrowers to back the principal of loans (in addition to the interest) and the sudden realization among borrowers that debt can and does go bad. The persistence of low short-term and long-term interest rates spawned what I like to call the Stupid Economy, one in which borrowers and lenders believed that no amount of leverage was too excessive, that debt could always be refinanced, and that perpetually rising prices of assets like houses and stocks would always bail out the dumb money. Of course, those assumptions were no less foolish than some of the assumptions surrounding investments in dotcom stocks in the late 1990s.

Everywhere one looks in the financial press today, one can see the fallout of the end of the Stupid Economy. Foreclosures skyrocketed again in August. Companies like E-Trade are writing down the value of financial instruments. Homebuilders are holding fire sales to get rid of excess inventory. Large banks are backpedaling from commitments they have made to fund aggressive private equity deals. And so on. Reducing the Federal Funds rate by 25 basis points, or even by 75 basis points, won’t solve such problems. The credit crunch exists not because money is too expensive, but rather because it was given away too cheaply for the last several years.

What’s more, there are signs that the Stupid Economy isn’t quite over just yet. Today’s Wall Street Journal reports about the efforts of banks to sell part the $24 billion in debt needed for the private equity firm KKR to buy First Data. It includes the following nugget:

"To induce hedge funds to buy the debt, the banks involved are lending money to the buyers to amplify their returns -- as much as four or five dollars of borrowed money for every dollar the hedge funds provide, some hedge fund managers say. That can be dangerous: if prices drop, those who purchased the debt using borrowed money, will move quickly to dump the loans."

Hmmm. Big banks lending hedge funds money to buy less-than-prime interest-yielding assets. Isn’t this part of how get into this mess in the first place?

For several years, the buoyant housing market was the source of all good things: new jobs, increased wealth, and easy credit. But once a hot market goes south, so does its public image. Now that the bubble has popped, people are blaming it for all sorts of things: slowing sales at Home Depot, a credit crunch, and job losses.

Now, as New York’s WCBS-TV reports, a couple is reporting that the popped housing bubble is responsible for their suburban home being turned into a brothel:

Observers of the Bush Administration have been waiting for years--in vain, it turns out--for the president to abandon some of his policies. This morning, he offered a notable 180-degree shift. In his seven years in office, Bush has focused primarily on economic and tax policies that benefit the wealthy, blithely assuming that benefits would trickle-down to those on the lower rungs of the economic ladder. But in his remarks on the burgeoning subprime mess, Bush discovered what might be dubbed Trickle-Up Economics. He’s rolling out some modest policies to help the have-nots in the hopes that the benefits of the policies will benefit the haves. He’s apparently decided the best thing he can do for the hedge fund managers and investors who constitute a core constituency is to help working-class folks.

The rising tide of defaults on subprime mortgages--and the ensuing foreclosures on hundreds of thousands of houses--have been bad news for the affected families. But they’ve also been bad news for financial institutions, and for the capital markets at large. This summer, the stock and bond markets have suffered a series of spasms, virtually all of which were derived--directly, or indirectly--from the travails of subprime borrowers. Defaults led the bonds backed by those mortgages to become worthless, which in turn caused many of the hedge funds and banks that owned and traded those bonds to fare poorly. That caused banks and investors to grow weary of extending credit generally. And aside from causing political unrest, the increasing number of foreclosures has served to dump even more inventory onto a national housing market that already suffers from too much inventory. Oh, and it’s likely to get worse before it gets better, because billions of dollars in adjustable rate mortgages are poised to reset at sharply higher rates this fall.

President Bush’s proposals this morning were pretty thin gruel. He wants the Federal Housing Administration to expand access to its mortgage insurance program. According to the New York Times, "that would let an additional 80,000 homeowners with spotty credit records sign up, beyond the 160,000 likely to use it this year and next." That’s nice, but it’s like showing up at a sinking cruise ship with a single ten-person lifeboat. He wants to "temporarily reform" a provision of the federal tax code that treats forgiven housing debt as taxable income. (Finally, a tax cut for the poor!) And he has directed relevant federal agencies to work with non-profits and private sectors to help people avoid foreclosure. Also good.

His efforts at moral suasion were the most interesting portion of his remarks. Bush subtly used the bully pulpit to suggest that banks shouldn’t be so quick to foreclose upon struggling borrowers, that they should treat borrowers with too much debt more like banks treat companies with too much debt. When times get tough, they should renegotiate, revise the terms of the loan, perhaps get a haircut. In the corporate sector, foreclosing on a troubled borrower is frequently a last resort.

That’s also a good idea. But given the complexities of today’s mortgage market, it’s not clear this will have much effect. After all, most banks don’t hold onto the mortgages they make. They sell them to Wall Street firms, or to Fannie Mae, which then chop them up into mortgage-backed securities, which are in turn sold to hedge funds and investors, who in turn trade them. For a typical subprime borrower who wants to renegotiate his or her loan, it’s frequently difficult to identify the owner of the mortgage. Meanwhile, there are plenty of pools of capital out there seeking to buy up control of real estate assets by buying defaulted or troubled mortgages.

As was the case with Katrina, the federal relief will come much to late to help many people who have already suffered. But in this instance, helping borrowers who made poor decisions, or who were duped into assuming destructive mortgages, may be a secondary goal. The primary audience for this speech was Wall Street, where traders and investors have been looking for signs that the administration might help shore up the shaky markets. After all, every time a borrower is bailed out, a lender is bailed out, too.

Thus far, most CEOs of massive corporations have hesitated to use the “R” word, even if their results seem to indicate that their particular company is in recession. But the home-lending business is clearly in a depression. Not a recession—i.e. a few quarters of negative growth. But a depression—a multi-year, pain-filled process of retrenchment. And when your industry is in a depression, it’s hard not to imagine that the rest of the economy can be functioning properly. After all, everybody you know is doing poorly.

Countrywide Financial CEO Angelo Mozilo, speaking to Maria Bartiromo on CNBC just now said that he believes that the poor housing market will lead the U.S. economy into recession.

Retailers measure their results in part by reporting same-store sales—i.e. how much in sales the same outlet did in July 2007, or the second quarter of 2007, compared with July 2006, or the second quarter of 2006.

In theory, any positive figure should be good news. But the reported figures are real numbers—i.e. before inflation. So in order to keep up with inflation, crudely speaking, a store has to increase its salse at a rate faster than the Consumer Price Index, which rose 2.4 percent between July 2006 and July 2007. In other words, any retailer showing growth of less than 2.4 percent is in a same-store recession.

And judging by recent results, it’s a lot easier to find retailers that are in a same-store recession than ones whose same-store sales are outpacting inflation.

At Wal-Mart, the largest retailer, same-store sales were up 1.2 percent. Not surprinsingly, housing-related retailers like Home Depot, Lowe’s, and Sears have all reported shrinking same-store sales, down 5.2 percent, 2.6 percent, and 4.3 percent, respectively. At The Gap, same-store sales in July were off 7 percent.

Others reporting negative same-store sales included Macy’s. At The Limited, same-store sales are up, but only by 2 percent. 

Some retailers are showing same-store growth that exceeds the rate of inflation, among them: Costco, up 6 percent; Saks, Nordstrom, Target, and surprisingly, Barnes & Noble 

But thus far, the decliners--or those growing at slower than the rate of inflation--seem to far outnumber those growing more rapidly than inflation. And when you add in in home-building and the auto industry, two gigantic retail industries that are clearly in recession, the picture looks darker.

So, are we in a consumer/same-store recession? Ultimately, backward-looking GDP data will tell us the answer. In the meantime, monthly and quarterly sales figures from large retailers continue to provide important indicators.

Got a noteworthy retailer that is (a) stinking it up; or (b) blowing the doors off, send your nomination to: dan.gross@newsweek.com

In recent years, amid a climate of low interest rates and solid economic growth, banks have been enjoying something of a golden age: high profits and few failures. In fact, according to the Federal Deposit Insurance Corp., it's been more than three years since an American bank failed. And that was a tiny, Utah-based bank with a mere $45.2 million in assets. Could this run be coming to an end?

Maybe, but not just yet. This week, both the FDIC, which regulates banks, and the Office of Thrift Supervision, which regulates savings & loans, issued quarterly reports. What did they find? In the second quarter (which ended before the subprime/credit meltdown started in earnest), signs of trouble were apparent. 

Among the FDIC's conclusions:

The proportion of unprofitable institutions -- 9.6 percent of all insured institutions -- was the highest level for a second quarter since 1991. More than half of the unprofitable institutions (52.2 percent) were less than five years old.

Insured institutions added $11.4 billion in provisions for loan losses to their reserves during the second quarter, the largest quarterly loss provision for the industry since the fourth quarter of 2002. This was $4.9 billion (75.3 percent) more than they set aside in the second quarter of 2006. . .

The amount of loans and leases that were noncurrent (loans 90 days or more past due or in nonaccrual status) grew by $6.4 billion (10.6 percent) during the quarter. This is the largest quarterly increase in noncurrent loans since the fourth quarter of 1990, and marks the fifth consecutive quarter that the industry's inventory of noncurrent loans has grown. Almost half of the increase (48.1 percent) consisted of residential mortgage loans. . . .The industry's noncurrent loan rate, which was at an all-time low of 0.70 percent at the end of the second quarter of 2006, rose from 0.83 percent to 0.90 percent during the second quarter. This is the highest noncurrent rate for the industry in three years.

The Office of Thrift Supervision found similar issues at S&Ls:

Troubled assets—loans 90 days or more past due and loans in nonacrrual status, plus repossessed assets—were 0.95 percent of all assets during the second quarter, an increase from 0.80 in the prior quarter and 0.62 percent one year ago. The increase was primarily due to higher delinquencies for 1 to 4 family mortgages and construction loans.

OTS supervised 836 thrifts with $1.5 trillion in assets at the end of the second quarter. There were 10 problem thrifts (with composite examination ratings of 4 or 5), an increase from four a year ago.

The upshot? At both banks and S&Ls, bad loans are rising swiftly from a rather low base. As a proportion of total assets, noncurrent loans at banks rose 30 percent in the second quarter of 2007 from the second quarter of 2006, and troubled loans at S&Ls rose more than percent in the second quarter of 2007 from the second quarter of 2006.

David Cay Johnston of the New York Times crunches some IRS data and reaches one non-incendiary conclusion, and one incendiary conclusion.

The non-incendiary conclusion:

Americans earned a smaller average income in 2005 than in 2000, the fifth consecutive year that they had to make ends meet with less money than at the peak of the last economic expansion, new government data shows.

While incomes have been on the rise since 2002, the average income in 2005 was $55,238, still nearly 1 percent less than the $55,714 in 2000, after adjusting for inflation, analysis of new tax statistics show.

Reason this conclusion is non-incendiary: 2000 was a peak, the last year of a bubble. As a chart accompanying the story shows, average income fell in both 2001 and 2002, and have since recovered decently.

The incendiary conclusion:

The growth in total incomes was concentrated among those making more than $1 million. The number of such taxpayers grew by more than 26 percent, to 303,817 in 2005, from 239,685 in 2000.

These individuals, who constitute less than a quarter of 1 percent of all taxpayers, reaped almost 47 percent of the total income gains in 2005, compared with 2000.

People with incomes of more than a million dollars also received 62 percent of the savings from the reduced tax rates on long-term capital gains and dividends that President Bush signed into law in 2003, according to a separate analysis by Citizens for Tax Justice, a group that points out policies that it says favor the rich.

The group’s calculations showed that 28 percent of the investment tax cut savings went to just 11,433 of the 134 million taxpayers, those who made $10 million or more, saving them almost $1.9 million each. Over all, this small number of wealthy Americans saved $21.7 billion in taxes on their investment income as a result of the tax-cut law.

Reason this conclusion is incendiary: Even in this new Gilded Age, when evidence of income inequality is rampant, and, indeed, celebrated, the fact that 1/400th of the taxpayers took home nearly half of the economic gains between 2000 and 2005 is shocking. The data, combined with what we know about *median* income (i.e. the income of a typical American), gives the lie to the contention that the prosperity of recent years has been widely shared.

 Oh, and speaking of the rich getting richer, Harvard University's endowment gained 23 percent in the past year.

If White House glory-hogging-speechwriter-turned-Washington Post-columnist Michael Gerson wants to use his new platform to buff the tarnished image of his former colleagues, he’s going to have to do a lot better than this. In today’s column, a paean to Karl Rove, he writes:

“First, Rove argues that Republicans win as activist reformers, in the tradition of Lincoln, McKinley and Theodore Roosevelt. "We were founded as a reformist party," he said in our conversation this week, "not to be against something, but to help the little guy get ahead." The models he cites are 401(k)s and the mortgage interest deduction -- government policies that encouraged individual wealth and ownership. Then Rove spent several minutes describing, with wonkish delight, the momentum and virtues of health savings accounts, a Bush-era innovation allowing individuals to save tax-free for routine medical expenses.”

But it's worth noting, with wonkish delight, that the items cited—401(k)s, the mortgage interest deduction, and Health Savings Accounts--are transparently not vehicles to “help the little guy get ahead.” They’re vehicles to help those who are already doing well do somewhat better, and to help those doing fantastically well do much better. And in the case of 401(k)s and health savings accounts, they’re vehicles designed to push more risk off the balance sheets of corporations and onto the balance sheets of the little guys.

Taking them somewhat out of order. The home mortgage deduction, is explicitly *not* meant for the little guy. If you don’t itemize your deductions, it’s meaningless. At best, it’s an upper-middle-class entitlement. As Roger Lowenstein noted in this definitive piece in the New York Times magazine in March 2006:

More than 70 percent of tax filers don't get any benefit from the deduction at all. O.K., many of them are renters. But even among homeowners, only about half claim the deduction. And for the 37 million individuals and couples who do, the rewards, at least on average, are surprisingly modest — just under $2,000 per return. (Figure it like this: the median home, as computed by the Bureau of the Census in 2003, is valued at $140,000. If you finance 80 percent of it with a 6 percent mortgage, your interest bill is $6,720 a year. A taxpayer in the 25 percent bracket would save one quarter, or $1,680.) . . .

And the rewards are greatly skewed in favor of the moderately to the conspicuously rich. On a million-dollar mortgage (the people with those really need help, right?), the tax benefit is worth approximately $21,000 a year. And according to the Joint Committee on Taxation, a little over half of the benefit is taken by just 12 percent of taxpayers, or those with incomes of $100,000 or more.

Next, lets take 401(k)s. They have been promoted—and embraced—by corporate America as replacements for the defined-benefit pension plans, which offered guaranteed retirement income to working-class employees. 401(k)s can be a great vehicle to build wealth—if you have lots of disposable income to stash in them, and if you make sound investment decisions. But most people lack the capacity to do so. The delightful wonks at  Boston College’s Center for Retirement Research found that in 2004 the median 401(k) balance for workers aged 55-64 was $60,000--a sum that would produce less than $400 a month in annuity income.

Health Savings Accounts are in the same realm as the 401(k)s. If you have the disposable income to stow away several thousand dollars a year—after you’ve already stowed away several thousand dollars in your 401(k) and paid all your other bills--and if you're in a high tax bracket, they're a great deal. If you can’t, they're not.

In their days at the White House, I doubt Gerson or Rove ever really looked at this statistic from the White House's Website: in 2005, the  median household income was $46,326.

The rolling credit crunch continues to claim innocent victims: credit-card holders with good payment records who have seen rates jacked up; jumbo mortgage borrowers with good credit who are forced to pay higher rates; and now, aficionados of big-budget Hollywood movies.

Matthew Garrahan and James Politi have the goods in the Financial Times:

"The credit crunch shaking world markets has hit Hollywood after Goldman Sachs and Deutsche Bank, which were trying to raise up to $1bn to finance films for Metro-Goldwyn-Mayer, withdrew their commitment to underwrite the deal. Bringing in private equity, hedge fund and institutional investors to fund "slates" of several films has become a popular way for Hollywood studios to spread the risk attached to production.

But with credit markets tightening, the attempt by the banks to raise $700m-$1bn for MGM productions and co-productions has been blown off-course, according to people close to the situation.

The financing would have provided funds for films including The Hobbit, an MGM co-production with New Line Entertainment, and the fourth installment in the Terminator franchise. It's also likely that funds would have gone towards the next James Bond film, an MGM co-production with Sony."

Two and 20 -- the hugely lucrative compensation scheme whereby hedge fund managers take a 2 percent management fee and a 20 percent cut of the profits -- has been the source of thousands of fortunes in the New York area in recent years. And the persistence of this highly favorable rate in the face of intense competition for the dollars of hedge fund investors has been remarkable. Hedge fund managers never feel as if they have to compete on price.

Until now. Goldman, Sachs, recently led an opportunity for investors to put new capital into  bailed out its struggling Global Equity Opportunity fund, by putting in $2 billion of its own cash and rounding up another $1 billion or so from some heavy hitters. But as Peter Thal Larsen reports in the Financial Times, Goldman had to offer those new investors some special inducements:

"Investors who helped Goldman Sachs inject $3bn into its troubled hedge fund this week were lured with substantially lower fees than those typically charged by the Wall Street bank.

Goldman on Tuesday night said it had agreed to waive its annual management fee for the investors, who contributed $1bn in new capital to the fund. The investors will pay a performance fee of just 10 per cent on any profits the fund makes once it has achieved a 10 per cent return."

Somehow, zero and 10 doesn't have the same resonance (rhetorical or financial) as 2 and 20.

Thus far, the list of culprits who will shoulder their share of historical blame for the housing-credit and real-estate bubble of this decade bears a significant resemblance to the list of culprits who have already shouldered their share of historical blame for the dotcom/telecom bubble of the 1990s. Credulous investors? Check. Greedy investment bankers? Check. Blinkered analysts and pie-in-the-sky promoters? Check and Check. Alan Greenspan? Check.

The credit-rating agencies, which slapped dubious ratings on the bonds and bank debt of the likes of Enron, Worldcom and Global Crossing, got off relatively easy for their role in contributing to the 1990s madness. After all, the biggest debacles took place in stocks, not bonds. And when it turned out companies that had issued massive quantities of debt were cooking the books, the rating agencies could claim to have been victimized along with everybody else.

I doubt they'll get off so easy this time around. After all, credit rating agencies receive fees from the financial institutions whose products they rate. And they have played an important role in the convoluted process of alchemy through which Wall Street turned subprime and low-rated debt into "AAA"-rated debt, thus making it safe for all sorts of investors to buy.  

Jesse Eisinger has the goods in the latest issue of Portfolio.  

My latest online column, on the strange language spoken by hedge fund managers in crisis.

Sample entry:

Hedge-Fund Phrase: Challenging
Translation: Run for the hills!

We'll be adding short-hand entries as readers suggest them, such as:

Hedge-Fund Phrase: The market is repricing risk
Translation: The jig is up!

Good morning! And welcome to the soft, quiet launch of the Contrary Indicator blog.

As time goes on, I promise that this blog will be populated with content that is more original than recycled NEWSWEEK columns. (While we’re at it, my most recent NEWSWEEK column, complete with Henny Youngman one-liner, can be seen here. More Henny Youngman one-liners can be seen here.) But with all the market turmoil, things have been quite busy. Like many hedge fund managers, I had to spend much of the weekend trying to come up with a clever way of explaining to investors just why my portable-alpha-market-neutral-long-short-global-macro-fixed-income equity investing strategy resulted in losses of 80 percent on Friday.

So, what to look for? Check in regularly for links to blogs and books I like and to articles worth reading, as well as posts on my obsessions, which include, but are not limited to: the ironies of globalization, the business of alternative energy, the culture of bubbles, the interplay between business and politics, our new Gilded Age, and the massive socio-economic-cultural shift underway that I’ve dubbed the cramdown.