Another shoe is dropping in the ongoing credit collapse here in this nation of whiners. According to the New York Times, the default rate on so-called Leveraged Loans -- (a very strange name if you ask me since a loan is leverage) that refers to loans used to finance corporate takeovers -- climbed fast from 0.24% in August 2007 to 3.3% in August 2008.

The loans that have gone bad so far are not big ones -- they are more like the canary in the coal mine -- hinting at bigger problems to come. The Times says, "the loans that have gone bad have been concentrated in two industries - real estate and auto parts. S.& P. calculates that they have accounted for almost half of this year's defaults. Gambling has also had problems, as it turns out that there are too many casinos in some places."

The biggest loans have yet to default. But their collapse is inevitable. That's because banks are scrambling to raise capital and shore up their balance sheets. And the leveraged loans were structured to benefit from a lending market in which the name of the game was to keep from losing market share by making it ever easier to borrow. Thus the terms of leveraged loans were easy -- featuring, as the Times reported, a "flood of 'covenant-lite' and 'toggle-[Payment in Kind] PIK' loans."

Some of the participants at a recent retreat of central bank governors and economists charged that the Fed did too much to help Wall Street and too little to aid taxpayers.

According to the Associated Press, "A possible bailout of Fannie Mae and Freddie Mac, on the heels of similar action involving investment firm Bear Stearns, seems to send a loud signal to financial companies that the government will clean up their messes."

The point may make seen in dollars and cents, but it fails to acknowledge that a complete collapse of the financial systems does no one any good. The Fed and Treasury have put tens of billions of dollars of liquidity into banks and brokerages, mostly in the form of low costs loans. A bail-out of Freddie Mac (NYSE: FRE) and Fannie Mae (NYSE: FNM) could cost billions more. Ultimately, taxpayers will foot the bill for those actions.

By listening to Wall Street, the Fed has helped the financial industry while ignoring other troubled sectors like automotive. But, if a large U.S. bank or brokerage firm fails, the panic could drive the markets into a flat spin and trillions of dollars in wealth would be lost.

The Fed is too close to the financial community and that is a good thing.

Douglas A. McIntyre is an editor at 247wallst.com.

The Philadelphia Fed Survey of Manufacturing in the tri-state area came in at -12.7. This was an improvement from the prior month's reading of -16.3, and slightly ahead of expectations. Initial unemployment claims were 432,000, which was also an improvement from the prior week's reading of 445,000, and better than expected.

Despite these improvements, these numbers are still quite negative. We may be in the process of forming a short-term bottom. Much of this will depend upon what happens to oil prices. If oil prices stabilize or continue to drop in the near future, this will offer some much needed relief to our consumer-driven economy. However, if the recent drop in oil is only a minor correction, the economic news will get worse.

• Even if oil stabilizes and if the economy starts to form a bottom, I do not believe that we will experience a substantial rebound. There are too many economic pressures which will not be resolved overnight:
  The housing crisis is very similar to the one experienced in the late 1980s and early 1990s. This took a decade to resolve.
• The current banking and credit crisis also resembles the Savings and Loan debacle of that earlier era. This eventually required massive intervention by the Federal government in the form of the Resolution Trust Corporation (RTC) to repair the financial system.

Those people expecting a quick recovery like 1998 will be sorely disappointed.

Doug Roberts is the Founder and Chief Investment Strategist for ChannelCapitalResearch.com, and is the author of Follow the Fed® to Investment Success: The Effortless Strategy for Beating Wall Street. He previously held executive positions at Morgan Stanley Group and Sanford C. Bernstein & Co.

It should come as no surprise that banking is a cyclical business. After the bubble bursts, there is always lots of hand wringing and vows to be more rigorous in underwriting. Then the bubble refills and people start to worry more about losing market share to companies with less disciplined underwriting approaches. This leads to a free-for-all as everybody scrambles for market share by lowering their credit standards. The bad loans don't get paid back and the cycle starts anew.

In the past, the Fed has been able to recapitalize banks during the down times by cutting interest rates. Since banks were tightening their credit terms, the interest rates on loans remained high or got even higher. But with the lower interest rates, the amount that banks paid depositors immediately dropped. As a result, the spread between loan and deposit rates widened and the resulting net interest revenue helped to replenish banks' capital.

That is sort of happening now. Since the Fed cut rates from 5.25% to 2%, banks' net interest margins have widened. A look at Citigroup Inc.'s (NYSE: C) most recent quarterly statement reveals that between Q2 2007 and Q2 2008 its net interest margin climbed from 2.41% to 3.18%. During that same time, the average amount Citi charged for loans declined slightly from 6.41% to 6.21% but the rates it paid depositors fell much more -- from 4.42% to 3.30%. Unfortunately, I said it's sort of happening now because the wider spread is not generating enough additional capital to offset Citi's writedowns.

TheStreet.com's Jim Cramer says people think the banks can't sustain the rally. Here's why they're wrong.

Sometimes, someone has to give the bullish, "On the other hand ...". There's a wide perception that the banks' good fortune of making money on the net interest margins -- the principal source of earnings besides fees this quarter -- can't last. Our old colleague Peter Eavis spells things out pretty succinctly and, shocker, bearishly in The Wall Street Journal this very morning in an article that should have you salivating for when the short-selling restrictions come off the financials and we can free-fire zone 'em again.

But how about the, "To be sure ..."? How about the, "On the other hand ..."? Or how about, "Some observers do point out ..."?

Nah, that would water down the article or even kill it outright.

Indulge me, for a second, on what I thought would have been a more provocative story for this stage in the rally, which is: Given all the bad news about earnings and losses and bad loans and auction preferreds, how the heck did the banks rally? Was it all a big joke, or is something else going on?

Then, from there, you say, "OK, what am I missing, because this net interest margin can't be banked on as people think it can be."

Republican presidential nominee-in-waiting, John McCain is going to be all smiles as we approach the November election. If you are a conspiracy theorist, or just find it a curious irony as I do, you must be noting that, just this week, the Federal Reserve decided to leave the Fed loan rate at 2%, the Iraq and U.S. governments are negotiating a withdrawal timetable for our troops, and oil prices are falling fast.

All of these headline-worthy items will benefit the Republicans more than the Democrats. Furthermore, all of these improvements will help the folks on Wall Street and Main Street. The stock market is way up today, they say on dropping oil prices: Stocks jump as oil prices fall sharply.

This has the taint of political engineering or "electioneering," even if it is just coincidence. Maybe the world is just happy to see Dubya go into retirement ... who knows?

Earlier I posted Obama's $1000 giveaway is a take away! and now it's time to rant about Dear John. He is on record as claiming he can balance the federal budget by the end of his first term without raising taxes. I think we have heard that before. It's not going to happen. Why do politicians insist on uttering such nonsense?

The Federal Reserve has rightly been worried that the economy may be both too hot and too cold at the same time. But today, the Fed leaned toward the recession side of the worry ledger and left the federal funds rate at 2%.

In a statement announcing the decision to keep rates as is, the Fed stated that "Although downside risks to growth remain, the upside risks to inflation are also of significant concern to the committee."

So both inflation and a serious recession are still cause for concern. But in leaving rates alone, the Fed announced that low or negative growth rather than an inflationary spiral is now the main problem.

There are good reasons to focus more on growth rather than inflation. The price of oil is falling and talk of a global slowdown is building. On top of that, labor is at an epic low in terms of political and economic power, so the price-wage spiral is unlikely to occur.

Today's move (or non-move) suggests that the next change in interest rates could be down.

TheStreet.com's Jim Cramer says this commodity collapse is giving the Fed room to cut.

As the Fed meets and the credit crisis still roars, it is worth assessing all of the chatter that the Fed can't do a thing and that every aspect of everything is all bad. I put it like that because it is hard to read anything without concluding that there will be high-double-digit defaults and that the credit markets haven been crushed and are not useful and the world is, well, coming to an end.

Funny thing: when the world comes to an end, you get a collapse in commodities, which is what is happening right now; it is something the Fed should keep an eye on. That's because there is suddenly more room to cut if necessary, and that matters because the banks need it -- they need more room to make money on net interest margins and playing the curve, because we all know that they need capital, and this is a good way to raise capital. It is the way that capital was raised for BankBoston and Bank of America (NYSE: BAC) (Cramer's Take) and Chase and Citigroup (NYSE: C) (Cramer's Take) in the old days, and it would be the same again if the Fed needs to help.

In other words, caught in all the gloom is the fact that the Fed is winning, and with winning comes flexibility. I expect nothing from the Fed, nothing, but I also want to remind people that the "Fed will raise soon" talk makes no sense whatsoever now, even though the drumbeat was really loud just a couple of months ago.

Inflation is roaring to levels not seen since 1981. The not-so-surprising result is that at 0.8%, according to Bloomberg News, the inflation gobbled up much of the stimulus checks that went out to consumers earlier in the year.

Economists had forecast spending would rise 0.4%, after an originally reported 0.8% increase in May -- the actual result was 0.6%. That should not have surprised policy makers. When you cut interest rates from 5.25% to 2% and then run record deficits, you are just asking for inflation. And that's what the economy delivered.

But isn't it the job of the Fed to keep inflation from getting out of control? Yes. And that's just what Paul Volcker tried to cure in the early 1980s after a decade of stagflation. He raised the Fed Funds rate to nearly 20% and that broke the inflation rate that peaked the last time it was as rampant as it was last month. And it sparked an 18 year stock market rally that took the Dow from 800 to 11,500.

It was just a matter of time. People with poor credit have been defaulting on mortgage payment in large numbers for more than a year. Now the problem has moved to homeowners with reasonably good credit.

According to The New York Times, in April "delinquencies among prime loans, which account for most of the $12 trillion market, doubled to 2.7 percent" from a year earlier.

The problem is going to get much, much worse. Many mortgages held by people with good credit have interest rates resetting at higher prices. The trouble is deeper than that. Higher energy costs and falling employments have a leveraging effect on the overall ability of many homeowners to keep up with their payments.

All of this means that write-downs of asset by big banks and brokerage firms may only be in early stages. The IMF has estimated that total write-offs among banks due to mortgage problems will hit $1 trillion. By most estimates only $400 million of that has shown up in earnings reports.

For investors in bank and brokerage stocks, the implications are that these firms will lose more money and have to raise more capital to bolster their reserves. That means more dilution.

Bank stocks have much further to fall.

Douglas A. McIntyre is an editor at 247wallst.com.

The U.S. Bureau of Labor Statistics released the July Employment Report -- it was a mixed bag. Wall Street, concerned that the report would be much worse than expected, promptly breathed a sigh of relief with equity futures rallying after the release.

July nonfarm payroll employment was down by 51,000, which was less than expected. In addition, June unemployment was revised upward from -62,000 to -51,000. However, the unemployment rate was 5.7%, rising from 5.5% and was higher than expected. Hourly earnings rose by 0.3%, which was in line with expectations. Job losses were across the board, with the exception of job increases in healthcare and mining.

There was no real indication of any improvement in the economy. Why then did Wall Street react so positively? There is a huge fear that the economy is about to crash into a deep recession. This report gave at least some short-term comfort that the economy, although deteriorating, is muddling along.

The suckers who bought into bank stocks a month ago thinking the worst of the credit crisis and financial company write-offs have mostly passed have seen much of their investment hammered.

And that is about to get worse. The easy-to-see reason is that mortgage paper is still losing value as housing prices continue to drop.

More ominous is the borrowing that banks are making at the Fed. According to Reuters, "Banks borrowed a record amount of funds from the Federal Reserve in the latest week as the year-old credit crisis took a persistent toll." That number hit $17.45 billion per day. In other words, the bank balance sheet problem is extending into the third quarter and may be getting worse.

The IMF has commented that the total write-off due to the mortgage debacle will hit $1 trillion. Only about 40% of that has been written off, which means that the next two or three quarters of earnings could be devastating.

Citigroup (NYSE: C) now trades at $18.59, against a 52-week low of $14.01. It has a market cap of $102 billion. If it has to raise another $15 billion to offset losses, especially if the stock sold to raise the money is below market, Citi's shares could move down to $12 or $13. Other large money center banks face the same trouble.

Banks will hit new lows before the end of the year.

Douglas A. McIntyre is an editor at 247wallst.com.

There have been few positive data points for the U.S. economy of late, and a modest GDP report is hardly a cause for a celebration, but all things considered, the Federal Reserve, business executives and investors will take it, mixed bag as it is.

The U.S. economy grew at a modest 1.9% pace in Q2, the U.S. Commerce Department announced Thursday, as the world's largest economy received a mild, if temporary, boost from federal tax rebate checks. Still, economists surveyed by Bloomberg News had expected the economy to grow at a 2.4% rate in Q2.

Further, revised Commerce Department data indicates the economy contracted 0.2% in Q4 2007, the first drop in real gross domestic product since the 2001-2002 recession. The U.S. economy grew 0.9% in Q1.

Economist David H. Wang, not a part of the Bloomberg News survey, told BloggingStocks Thursday the Q2 U.S. GDP report is a mixed bag, concerning overall U.S. economic health.

"On the one hand, the 1.9% figure is not that bad. I actually am a little surprised that it was that high, given high energy prices and the pullback in retail sales," Wang said. "On the other hand, you can see in the Q2 data the continued drag of the housing sector's recession, with the Commerce Department now saying the economy contracted 0.2% in Q4. Housing is taking at least 1 percentage point off GDP, probably closer to 1.2-1.3 percentage points, and it's hard to project a sustained recovery without a turnaround in housing, given the sectors it affects."

Meanwhile, inflation inched higher in Q2. The personal consumption expenditure price index increased to a 4.2% annual rate, with core prices, which exclude the often-volatile food and energy component, rising to 2.1%, slightly above the U.S. Federal Reserve's target zone. Few economists expect the the PCE data to influence the Fed at its meeting next Tuesday: the Fed is expected to keep its benchmark, short-term interest rate the same at 2%.

The Associated Press reports that mortgage rates are back up to where they were in August 2007. How can that be? After all, since then, the Fed has cut its Fed Funds rate from 5.25% to 2%. I guess Federal Reserve Chairman, Ben Bernanke's effort to forestall another Great Depression by flooding the zone with more debt has fallen victim to the law of unintended consequences.

While his efforts have not loosened the credit crunch, they have succeeded in boosting inflation to levels not seen in decades. And isn't that exactly the thing that the Fed is supposed to prevent? I was stunned to see that, as AP reported, the rate on 30-year mortgages hit 6.63% this week -- up significantly from last week's 6.26%. It hasn't been that high since August 1, 2007 -- when it hit 6.68% -- before the Fed started cutting rates.

This makes me wonder whether the Fed would have been better off leaving rates at 5.25% last fall. If so, it is likely that inflation would have remained lower instead of spiraling out of control and driving gasoline prices over $4 a gallon, tripling food prices and putting those who are paying now to heat their homes this winter into sticker shock. Simply put, the Fed rate cuts have not uncrunched credit but they have boosted inflation.

We're back to the 1970s. The Washington Post reports that the Fed's Beige Book suggests that growth is stagnant and prices are rising. That's an economic condition known as stagflation -- slow growth and high prices. That's bad news for policymakers and investors.

I first posted about Stagflation back in May 2006. What is striking to me is that the price of oil was $69 a barrel back then and it's almost double that now. Back then I noted that stagflation "prevailed in the US during the 1970s. For example, in 1979, US core inflation, excluding oil and food, rose at a 9.4% annual rate, GDP grew at roughly 3%, and unemployment averaged 6%. Furthermore, this condition was bad for stocks which rose an anemic 0.37% annual average during the decade." I also wrote about stagflation here and here.

Here are three key findings from the Beige Book:

• Weak retail spending - The Post reported that consumer spending was weak, despite the economic stimulus checks from the government that went out starting in May. There was some demand for electronics, and discount stores got a temporary boost. But discretionary spending froze on housing-related items and vacations.