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By Julian D W Phillips

Since August 2007 we have watched the sub prime crisis turn into a credit crunch and from there into a liquidity crisis, writes Julian Phillips of www.GoldForecaster.com...

Like a cancer spreading through the financial system it suddenly struck a vital organ, taking the seemingly benign tumor into an illness that the doctors are fighting to defeat.

Not only has the sight of banks refusing to lend to other banks moved to a new level. Now major banking institutions are tumbling in the face of its onslaught. With the mid March rate cut on direct loans to commercial banks from the Federal Reserve, the drama had a gear shift change. The Fed lopped another quarter point off the discount rate , saying it will allow primary dealers to borrow in exchange for a broad range of investment grade collateral.

The Fed also extended the maximum term of discount window loans from 30 days to 90 days, but it still has not accepted ownership of the assets against payment, so leaving the debt crisis intact.

In the same weekend it saw Bear Sterns Collapse, and gave its hurried blessing to the deal of J.P.Morgan Chase Co. wherein JPM agreed to buy Bear Stearns for $2 a share after, down from the stock market price of one month ago above $30.

Even with JPM now offering $10, it seems the vultures are having a feast. Last week we were all aware of the threats to the money system, but now the tsunami is hitting. Is the Bear Stearns Rescue a sign that the crisis has been conquered?

Not at all! Most now doubt that it has even been contained, with some thinking it has been engineered by the Fed to get worse. The cancer that started to show up last August has now spread to the consumer from the blue collar worker through to executive level, as they are changing from their live now, pay later culture to one of pay now and live as best you can .

The checks eagerly awaited from the stimulus package from President Bush in May are now more likely to fight the fires of debt than to go on more living today . And as inflation begins to point to a higher cost of living and the oil price points to a further doubling to $200 and Gold Prices vault past the $1,000 level an awareness is dawning that the empire of debt on which the last decade of boom has grown is shrinking far faster than thought possible.

Since last August all kinds of tradable debt from dubious mortgage bonds to asset backed commercial paper made up of mortgages, credit card debt, car loans and business loans are finding it harder to stand as collateral for finance. To counter this shrinking credit, the Fed and the European central banks have pumped in billions of dollars worth of Treasury securities in the hope of stemming the atrophy. Interest rates were rapidly lowered, and they continue to drop with last week's 0.75% cut in the hope of easing credit and giving dubious debt more substance.

Meanwhile the disease has spread from collateralized debt obligations to structured investment vehicles and the more senior forms of debt they're built from. So the next step has been to make these debt instruments appear palatable to investors, by accepting them as collateral at the Fed the lender of last resort through Ben Bernanke's new Term Auction Facility .