Neel Kashkari warns in a Washington Post column that a U.S. default could trigger a financial crisis worse than the Lehman shock.
The guy who invented TARP, now a managing director at PIMCO, says four factors help assess magnitude of the financial impact from an undermined truth: (1) How strongly is the belief held?; (2) How big an asset class does the belief support?; (3) How wrong was the belief?; (4) What is the economic context in which the shock is taking place?
The current crisis is worse than Lehman by all criteria except for number three:
“Here, Treasurys are not as bad as Lehman. Even if the U.S. credit rating is downgraded, almost no one believes we will actually default on our debt. The United States is not entering bankruptcy, and its debt is not junk. Lehman debt ultimately proved to be worth a fraction of its face value. To some, this suggests a U.S. downgrade would produce a more modest shock than Lehman. But a small deviation from a cherished belief can be as shocking as a large deviation from a weaker belief.”
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