This post could surprise many of my anti-Bush friends, but I claim that Bush will end the war in Iraq sooner than later.
First thing to understand is that Bush has almost no strategic politics on his own, he's left to decide only tactical questions and methods to do things. He's a puppet in fat cats hands and he's not smart for his own policies anyway. Essentially, in the first days in his office, he was visited by his fellow "Skull and Bones" friends executives of Exxon, BP and Shell and told:
Listen Bush. We need a war with Iraq and we stand for our business. You screw yourself and you do it, but keep your own fingers dirty. You can claim that Saddam has some ties with terrorists or WMD, you may let terrorists to blow up few buildings in Manhattan, but keep your ass away from us when you do that. Dismissed.
Nobody else made a sound against it, because most of other big guys are pretty neutral to war. Who cares?
Not anymore. The recent developments in interest rates and inflation point to lose-lose situation in the capital markets. Let read the good illustration of the problem:
First, suppose that Citibank gets money from its depositors at a floating rate, and lends to mortgage borrowers at a fixed 6%. Now GM issues bonds yielding 7%, and enters a swap with Citibank, in which Citibank pays GM 5% fixed in return for floating. (Specifically, both parties agree on some notional principal, say $100 million, and each makes payments to the other, determined by multiplying a fixed or floating interest rate by that principal amount. The market for this sort of transaction is huge).
Well, now GM is paying an actual interest rate of floating + 2% (pay 7% to bondholders, get 5% from Citibank, pay Citibank floating). Meanwhile, as compensation for the credit risk it has accepted all around, Citibank earns a fixed 1% margin regardless of interest rate movements (pay depositors floating, get 6% from mortgages, pay 5% to GM, get floating from GM). Neat. And since Citibank is federally insured at the depositor level, and too big to fail at the institutional level, Uncle Sam is now a counterparty that effectively shares the risk in the case that GM or homeowners default. Similar transactions serve to swap risky corporate and mortgage borrowing into safe government agency paper issued by Fannie Mae and Freddie Mac.
Now make no mistake, there is little question that bank deposits and agency debt are safely backed by the U.S. government and that this is a good commitment. However, the holders of stock in banks or mortgage companies like Fannie Mae and Freddie Mac may not be so secure. It's just excruciatingly difficult to perfectly match risky assets and liabilities at extremely high levels of leverage. Ask Long Term Capital. Indeed, were it not for accounting rules that allow Fannie Mae to keep balance sheet losses out of earnings, it would be clearer to investors that last summer's 5-month duration mismatch cost Fannie nearly a year of earnings. Similar derivatives-related issues are at the core of Freddie Mac's recent difficulties.
In short, further increase of interest rates can trigger a catastrophic reaction on financial markets, but it will be no better if the inflation starts. So, to avoid too much of economics and jump straight to conclusion, there is no other way to solve the situation than to dramatically cut federal expenses, and the simplest way to do that is to stop the war. Now we have some other (not from Skull and Bones) executives to visit Bush and say: "Mister Bush, we urge you to cut federal budget costs by huge margin. We expect you to finish deploying your solution by the time we schedule to meeting to discuss Congress campaign contributions."
After this strange things start to happen. The US withdrawal from Iraq is discussed. President is talking about alternative fuels (helps Saudi to pump more). L.A. Times Editorial calls for Cheney's ouster. Expect more like that and understand that this is very big money who are speaking. And Bush has to listen.