It’s easy to overlook just how significant human psychology factors into our financial system, or perhaps put a better way, it’s easy to overlook that the entire system is fundamentally based on it… and this helps to explain why the cost of credit is in fact going up and not down despite the Federal Reserve’s historically unprecedented actions (at least they seem historically unprecedented). The globalization of financial markets has indeed created riddle wrapped in a mystery, inside an enigma.

A trillion dollars is a lot of money, but in this age of photoshop wizardry it seems that experts can make just about anyone or anything look good. Lose a trillion? Well, just write it off a little more slowly, or suggest that mark-to-market accounting is not applicable to banks and investment banks. As a matter of fact it may not be. GaveKal’s Anatole Kaletsky points out that “the whole point of a bank is to exchange short-term, liquid liabilities for long-term illiquid assets whose value is hard to gauge. This liquidity and maturity transformation, in fact is the main social function that a banking system provides.”

[From PIMCO - Investment Outlook Bill Gross Mooooooo August 2008]