by Calculated Risk on 8/10/2007 02:19:00 AM

Paul Krugman writes in the NYTimes: Very Scary Things

Note: the NY Post is reporting that these columns will be free in the near future. Excerpts are from Economist's View.

What’s been happening in financial markets over the past few days is something that truly scares monetary economists: liquidity has dried up. That is, markets in ... financial instruments backed by home mortgages ... have shut down because there are no buyers.

This could turn out to be nothing more than a brief scare. At worst, however, it could cause a chain reaction of debt defaults.
...
When liquidity dries up ... it can produce a chain reaction of defaults. Financial institution A can’t sell its mortgage-backed securities, so it can’t raise enough cash to make the payment it owes to institution B, which then doesn’t have the cash to pay institution C ...

And here’s the truly scary thing about liquidity crises: it’s very hard for policy makers to do anything about them.

See Economist's View for more excerpts.