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Economics correspondent discusses options aft -

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LISA MILLAR: Our economics correspondent Stephen Long joins me now to analyse the implications of
the bail-out's failure.

Stephen clearly everyone is very spooked by this but do these massive falls on the stock markets
around the world make any sense?

STEPHEN LONG: Lisa the last place you look for a rational response at times like these is the world
stock markets. The stock exchanges are manic depressive mechanisms. They tend to respond with
absurd optimism to a glimmer of hope and then bleak despair when the hope fades and it's all

What you've got to look to is the underlying dynamics and it must be said, they are bad in terms of
the US economy and emerging fallout in the world economy. But the fact is that this bail-out
package was only ever going to be a short-term fix, it was no panacea, it wasn't going to overcome
the deep-rooted problems.

The reaction is understandable in a sense given that the Federal Reserve chairman Ben Bernanke and
the US Treasury boss Hank Paulson said in effect give us the money or we'll all be ruined. But this
wasn't going to solve the problems, it was only ever a short-term solution for bank solvency.

LISA MILLAR: But why wouldn't the bail-out solve the crisis?

STEPHEN LONG: A number of reasons, first off, $US700-billion sounds like a lot of money but it is a
drop in the ocean compared to the troubled assets and the huge debt overhang we have in the world
economy. We had been through an unprecedented period where we had a massive run-up of debt around
the world on household balance sheets, on bank balance sheets, in the shadow banking world,
corporate debt all around the world.

Huge run up of debt and we now have a situation where the chickens are coming home to roost.
There's at least two trillion dollars, probably more in troubled assets, $700-billion was going to
solve an immediate problem with keeping the banks solvent but it wasn't going to work out those
broader issues.

Beyond that there's also a paradox, what gave rise to this situation was essentially that we had a
rolling bubble of excess liquidity during a historic shift in the world when China began exporting
cheap goods to the world and oil prices went to historic lows - we're a long way from that now of
course - and you had massive increases in retirement savings pumped into the world economy. All
this money and very, very low interest rates.

So you had cheap debt and rising asset prices being pushed by this overhang of excess liquidity and
what are they doing? They're pumping in liquidity and buying assets from the banks at inflated
prices. That's the essence of this plan so it's a paradox; it works in the short-run but it doesn't
overcome the long-run unwinding. There's going to be a nuclear deleveraging as the debt overhang
unwinds on balance sheets at banks and household balance sheets.

LISA MILLAR: Stephen you've been predicting this very situation for a long time, do you also have
the concerns that some economist have had that the long-term implications of the bail-out wouldn't
have been any good for the US economy anyway?

STEPHEN LONG: Yes and the problem there is that there are underlying structural imbalances in the
US economy that are being made worse. A huge current account deficit, a huge national debt which
has to be funded from overseas and inevitably as they run up more and more debt to deal with the
crisis you have a situation where it is likely to cause falls in the value of the US currency.

Now the long-run frightening thought is that you'll get to a position where China and the oil rich
nations no longer want to bailout the US by funding their massive foreign debt and current account

The US also has a massive unfunded pension liability which is another gorilla in the room, that's
going to come home and roost in the next 10 years so in the long-run the implications aren't good
at all.

LISA MILLAR: Well as we heard in Kim Lander's piece, it's a case of try, try again, but really
where do we go from here?

STEPHEN LONG: I expect that the bail-out package will be passes with some modifications but it
won't provide a long-run solution and no one really knows where we go from here beyond that other
than we're going to have an extreme time of turbulence.

One of the big risks that could possibly manifest is that there are literally hundreds and hundreds
of trillions of dollars in the credit derivatives market with people who've taken bets on all kinds
of different things and you also have this credit default swap market where people have taken out
insurance or bets on company failure. If we had people unable to pay, if you had failure in those
markets to meet, if the defaults came home to roost then we'd have a terrible situation and that's
a real possibility.

LISA MILLAR: Stephen Long economics correspondent, thank you very much.