Hussman: “Generally speaking, when valuations are stretched (on normalized earnings) and both market action and economic measures have turned negative (as they have now), you can expect that “buying-the-dip” will result in a brief feeling of genius and success followed by profound regret.”

The Fed’s Vice Chairman Donald Kohn reverses course and indicates that the Fed may be open to a rate cut after all (surprise!).

In my view, these uncertainties require flexible and pragmatic policymaking–nimble is the adjective I used a few weeks ago. In the conduct of monetary policy, as Chairman Bernanke has emphasized, we will act as needed to foster both price stability and full employment.

I continue to be stunned by the sheer arrogance of these guys - the Fed - in thinking that they can do anything but make things worse, as they always have. Especially now, when the juggernaut of deleveraging is rolling, crushing everything in its path, as a direct consequence of years of tinkering and distortions. The consequences of their actions - malinvestment, for example - can be deferred for years, while in the short term the psychology improves, leading them to believe that they are not responsible when bad things happen. It is the travesty of reality that is Keynesian economics, which allows people to abandon common sense and believe that there is a free lunch. There isn’t, lunch for the last twenty years or so has been charged to our account, and the bill is being presented.

Right after using the analogy of picking up a lost wallet, I find out from the NY Times that the NYPD has been running a sting operation to catch people doing just that. Perhaps they should consider the more serious frauds in future.

At first, an epidemic of absent-mindedness seemed to have broken out.

One purse was found just sitting on a display shelf in the shoe department at Macy’s. Another one turned up downstairs, in Macy’s Cellar. Yet another rested on a chair in a Midtown McDonald’s, left by a woman who had stepped into the restroom.

In fact, all three items had been planted by police officers in plainclothes during the previous six weeks. And the three people who picked them up were arrested, and now face indictment on charges that could land them in state prison.

Markets: We Are Going To Get A Rate Cut. The chart shows the market’s assessment is that a 50bps cut is the most likely outcome of the December Fed meeting.

Fed: Think again.

In a speech at the University of Rochester, Philadelphia Fed President Charles Plosser said the Fed cannot resolve the cause of the tension in financial markets, which he said was uncertainty over the value of complex securities tied to subprime and other mortgages and who holds these derivatives on their balance sheets. “It is important to recognize that the Fed cannot resolve this price discovery problem. The markets will have to figure this out, arbitrarily lowering interest rates or providing liquidity to the market does not provide the answers the market seeks. Indeed, in some circumstances, lowering interest rates may prolong the painful process of price discovery.” Plosser said.

I can’t believe he said that. Might there be intelligent life in Philadelphia?

But even if there is, it needs courage in Washington. Talking tough is a lot easier than being tough.

“Humphrey, I just want to make absolutely sure you’re not asking me to make a courageous decision,” the minister inquires with a furrowed brow.

Sir Humphrey dons a pained expression, “Well, actually, minister… ”

“Courageous, oh my God, is it?” exclaims Hacker, flecks of sweat now breaking out on his forehead.

What I don’t see in the pity pieces about the struggling borrowers and home equity locusts is the other side of the story. The losses that are being realized are not funny money - they are someone’s income-producing investment that has suddenly gone up in a puff of smoke. Maybe they are made anonymous by layers of slicing and dicing, but make no mistake, the losses are real and they are coming out of people’s savings one way or another. As far as I am concerned, the savers of this world are being worked over quite thoroughly by these borrowers and any sympathy for them is sadly misplaced.

It is no different than, when walking down the street, you see a wallet on the ground. You pick it up and it is full of money. Do you spend the money or do you return it to whoever’s ID is in the wallet? That is the moral equation. These people who say “I didn’t understand” or “the lender fooled me” or whatever, they took the money, didn’t they? Sure, the lenders were careless with their money. But that is no different than thinking it is OK to help yourself to the money out of the wallet, because the owner was careless. They picked up the wallet. They made a promise to repay the money, didn’t they? The collateral is irrelevant. They are welching on their promise. Thieves.

And from an economic point of view, there is a double whammy. Not only is the thief no longer able to consume, the disappearing asset is removed from the savings pool, limiting someone else’s ability to consume in the future. Consumption in the economy gets a double whack, as does the saver who put off consumption in the past to make an investment, and now isn’t going to be able to consume in the future because his savings have gone up in smoke.

Well, you may ask, didn’t you just discuss how much of this credit was created by banks, making money out of thin air? Yes, I did. And now, when the loan defaults, the asset disappears. But the liability - the money in the house seller’s bank account, for example, is still there and must be offset by a transfer from shareholder’s equity - the capital of the bank’s shareholders. That is when the investor, the saver, the shareholder, pays the price for the borrower’s profligacy.