Thursday, May 13, 2010

Capitalism Without Capital

Volatility is back and stocks have started zigzagging wildly again. This time the catalyst is Greece, but tomorrow it could be something else. The problem is there's too much leverage in the system, and that's generating uncertainty about the true condition of the economy. For a long time, leverage wasn't an issue, because there was enough liquidity to keep things bobbing along smoothly. But that changed when Lehman Bros. filed for bankruptcy and non-bank funding began to shut down. When the so-called "shadow banking" system crashed, liquidity dried up and the markets went into a nosedive. That's why Fed Chair Ben Bernanke stepped in and provided short-term loans to under-capitalized financial institutions. Bernanke's rescue operation revived the system, but it also transferred $1.7 trillion of illiquid assets and non-performing loans onto the Fed's balance sheet. So the problem really hasn't been fixed after all; the debts have just been moved from one balance sheet to another........

Nomi Prins explains it a bit differently in this month's The American Prospect. Here's an excerpt from her article "Shadow Banking":

"Between 2002 and early 2008, roughly $1.4 trillion worth of sub-prime loans were originated by now-fallen lenders like New Century Financial. If such loans were our only problem, the theoretical solution would have involved the government subsidizing these mortgages for the maximum cost of $1.4 trillion. However, according to Thomson Reuters, nearly $14 trillion worth of complex-securitized products were created, predominantly on top of them, precisely because leveraged funds abetted every step of their production and dispersion. Thus, at the height of federal payouts in July 2009, the government had put up $17.5 trillion to support Wall Street's pyramid Ponzi system, not $1.4 trillion. The destruction in the commercial lending market could spur the next implosion." ("Shadow Banking", Nomi Prins, The American Prospect)

This is a point that bears repeating: "...nearly $14 trillion worth of complex-securitized products were created" on top of just "$1.4 trillion" of subprime loans." No doubt, the investment bankers and hedge fund managers who inflated these monster balloons, knew that they were doomed from the get-go, but then, they must have also known that "I.B.G.-Y.B.G.", which in Wall Street parlance means, "I'll Be Gone and You'll Be Gone."(Read more)

Wednesday, May 12, 2010

Today's Links

1--EU imposes wage cuts on Spanish 'Protectorate', calls for budget primacy over sovereign parliaments UK Telegraph
2--Household Debt around the world--Paul Kedrosky
3--Was the euro saved by a call from Barack Obama? UK Independent
4--Shadow Banking Meltdown-- by PIMCO's McCulley
5--Eurozone's problem children-(graphs) Big Picture
6--The case for economic gloom and doom The New Republic (Today's "must read")

Quote: "Did the housing bubble cause the recession? Yes, in the same sense that a patient suffering from lung cancer finally dies as a result of pneumonia. The bursting of the bubble precipitated the recession, but the underlying condition, which made possible the financial chicanery of the last 15 years, was the global overcapacity in tradeable goods. With American firms no longer eagerly seeking funds for expansion, the banks and shadow banks had to look elsewhere for profitable outlets. And with the economy that produces tradeable goods not producing new jobs, a government that took its responsibility for maintaining employment had to look elsewhere to stimulate demand and growth. Ergo, two bubbles, and two recessions.".....

Brenner is not saying that the U.S. economy won’t “recover” from this or future recessions. What he is saying is that we and the rest of global capitalism will continue on the gradual downward slope that began in the 1970s. We will not be able to recreate the Golden Age of capitalism that lasted from 1945 to 1970 simply by applying the right mixture of spending, subsidies, re-regulation, and international negotiation. Instead, the world economy, and the U.S. economy, will resemble the post-bubble Japan of the 1990s—with its “L-shaped” recovery writ large.......And by Brenner’s logic, there is no lasting solution to global overcapacity and falling rates of profit short of the kind of depression that shook the world in the 1930s."

7--The EU's Dangerous Game NY Times Mark Weisbrot
8--Citigroup 2006: America - A Modern Day Plutonomy
9--The Community Reinvestment Act did NOT cause the subprime Meltdown Barry Ritholtz

Today's Links

1--Robust Economy, Back to Prerecession Levels, Forces Beijing Into a Balancing Act NY Times
2--The People vs. The Bankers Michael Hudson Counterpunch
3--The Second leg of the Great Depression was caused by European defaults Washington Blog
4--More Answers on Europe’s Debt Crisis NY Times
5--Banks Must Be Barred from Dealing Derivatives: It’s NOT a Normal Part of the Business of Banking: Rortybomb
6--Europe's 750 billion euro bazooka The Economist (details of Greek bailout)
7--A Primer on the Fed’s Swap Lines With Europe Wall Street Journal
8--Europe's Web of Debt NY Times (graphic)
9--"The People of Greece Are Fighting for the Whole of Europe” Democracy Now

Quote: "We have always known that heedless self-interest was bad morals; we know now that it is bad economics. Out of the collapse of a prosperity whose builders boasted their practicality has come the conviction that in the long run economic morality pays...

We are beginning to abandon our tolerance of the abuse of power by those who betray for profit the elementary decencies of life. In this process evil things formerly accepted will not be so easily condoned..." Franklin D Roosevelt, Second Inaugural Address, January 1937


Friday, May 7, 2010

Today's Links

1--U.S. Stocks Plunge Most in 14 Months as European Crisis Spreads

2--ECB to Intervene in Bond Market to Fight Euro Crisis

3--Sex & Drugs & the Spill, Paul Krugman, New York Times

Quote: "For years, the Minerals Management Service, the arm of the Interior Department that oversees drilling in the gulf, minimized the environmental risks of drilling. It failed to require a backup shutdown system that is standard in much of the rest of the world, even though its own staff declared such a system necessary. It exempted many offshore drillers from the requirement that they file plans to deal with major oil spills. And it specifically allowed BP to drill Deepwater Horizon without a detailed environmental analysis." (Summary analysis: Blame Bush)

4--Fed Hinting on Mortgage-Bond Sales Brings Bernanke Tightening Bloomberg

5--Roach Says Debt Crisis Raises Risk of ‘Double Dip’ Recession Bloomberg

Quote: "European efforts to stave off contagion will not be enough to prevent “significant” contractions in some of the affected countries, (Stephen) Roach said. Every “fix” is accompanied by “an adjustment in the real economy,” he said.

“We saw that in Asia in the late ‘90’s, we saw that in the U.S. in ‘08, ‘09, and we’re going to see that in Europe, certainly in the peripheral countries, with significant multiyear contractions in the years ahead.” Roach said the slump will probably “spill over” into the larger European countries.

6--E.U. Details $957 Billion Rescue Package New York Times

7--Some Thoughts Joe Saluzzi Themis Trading

Quote: "Not so long ago, if our markets experienced severe stress, and certainly a “fat finger”, human wisdom would intervene. Reasons for the stress would be ascertained, trading in affected stocks would be slowed or halted, stabilizing bids would be initiated as needed, and severe volatility would be dealt with in a calm and reasoned manner. Today, the human specialist model has been replaced by an automated market maker model. Our market structure has evolved. It has evolved, not by design,
or a well-thought and reasoned plan, but it has evolved to cater to masters of expensive technology, deployed unfettered by participants whose only concern is to squeeze out every last picosecond and fractional cent before they move on to other countries’ markets and asset classes. The for-profit exchange model at every chance sacrifices the protection of long term investor interests for the profitability of serving hyper-leveraged intraday speculators." Joe Saluzzi Themis Trading


In its effort to rescue the housing market, the Obama administration has created a Frankensystem which neither allows the market to clear nor solves the intractable social problems of lost equity and foreclosure. Obama needs to step back and take a look at the mess he's made by following the advice of financial industry reps and bank lobbyists. Housing is in a shambles. The market is presently stitched together with buyer-assistance programs, loan modifications programs, new homebuyer subsidies, foreclosure abatement programs, principal reduction programs, historic low interest rates, "easy-term" financing, and government-backed loans. It's a dog's breakfast of inducements, giveaways and bandaids all designed with one purpose in mind; to keep the banks from taking a bigger hit on their garbage mortgages. To get an idea of how desperate the situation really is; take a look at this article in the Wall Street Journal:

"The U.S. government's massive share of the nation's mortgage market grew even larger during the first quarter. Government-related entities backed 96.5 per cent of all home loans during the first quarter, up from 90 per cent in 2009, according to Inside Mortgage Finance. The increase was driven by a jump in the share of loans backed by Fannie Mae and Freddie Mac, the government-owned housing-finance giants....

“The collapse of the mortgage market in 2007 steered more business to the Federal Housing Administration, which insures loans, and Fannie and Freddie, which were taken over by the government in 2008 as rising losses wiped out thin capital reserves. Congress also increased the limits on the size of loans that Fannie, Freddie and the FHA can guarantee, raising the ceiling to as high as $729,750 in high-cost housing markets such as New York and California. ("U.S. Role in Mortgage Market Grows Even Larger" Nick Timiraos, Wall Street Journal)

There is no housing market in the U.S. apart from the government. The Potemkin banking system is still on the rocks, so Fannie and Freddie have been forced to pick up the slack. But if the government is going to put up all the financing, then it should have a bigger say-so on the way things are run. The emphasis should be on helping people, not on more handouts for the banks.

The first order of business should be the launching of a National Bank that would help support the privately-owned banking system. This would ensure the availability of credit for prospective homeowners and small businesses without putting more pressure on Fannie and Freddie. The National Bank would operate as a public utility run by government employees. That would help to control salaries, eliminate the problem of bloated executive compensation and incentives, and reduce the incidents of fraud.

Naturally, the banks will oppose the move tooth and nail, so it’s up to Obama to guide the legislation through the congress. This is matter of national security. The banks now pose a threat to the material well-being of everyone in the country. They're a menace. While a National Bank won't undo the massive damage that's already been done; it will put the economy on the road to recovery by creating a reliable source of credit for any future expansion without inflating another asset bubble.

As the WSJ's report reveals, the banks don't have the capital to function as banks. So, what good are they? They're merely wards of the state. Obama should bypass this sclerotic system of corruption-plagued institutions altogether and do what needs to be done while the economy is still weak. That way, the new National Bank will be up-and-running by the time economic activity begins to pick up again.

SHADOW INVENTORY--There's a 9-year backlog of distressed homes

Here's another stunner from the Wall Street Journal. The article is titled "Number of the Week: 103 Months to Clear Housing Inventory" by Mark Whitehouse. Here's an excerpt:

"How much should we worry about a new leg down in the housing market? If the number of foreclosed homes piling up at banks is any indication, there’s ample reason for concern. As of March, banks had an inventory of about 1.1 million foreclosed homes, up 20 per cent from a year earlier....

“Another 4.8 million mortgage holders were at least 60 days behind on their payments or in the foreclosure process, meaning their homes were well on their way to the inventory pile. That “shadow inventory” was up 30 per cent from a year earlier. Based on the rate at which banks have been selling those foreclosed homes over the past few months, all that inventory, real and shadow, would take 103 months to unload. That’s nearly nine years. Of course, banks could pick up the pace of sales, but the added supply of distressed homes would weigh heavily on prices — and thus boost their losses." ("Number of the Week: 103 Months to Clear Housing Inventory" Mark Whitehouse, Wall Street Journal)

Got that? There's a 9-year backlog of distressed homes. The banks are deliberately fudging the numbers to hide how bad things really are. The number of homes in late-stage foreclosure is not 1.1 million, but nearly 6 million--- 5X more than the banks are admitting. Housing will be in the doldrums for a decade or more. It's shameful that people can't get basic information like this to help them make their investment decisions. The banks couldn't pull off this type of information warfare without the help of government officials pulling strings from inside. Bernanke and Geithner must be involved.

So, what's the objective?

The banks are trying to keep prices artificially high to avoid writing-down millions of mortgages that would force them into bankruptcy. It's called "extend and pretend" and it’s poisonous for the broader economy because it distorts prices and keeps a broken banking system in place that can't perform its social purpose.

WSJ housing editor James R. Hagerty verifies Whitehouse's claims and fills in some of the blanks. Here's a clip from his article:

"To get a sense of how many more households will lose their homes to foreclosures or related actions, Barclays tallies what it calls a shadow inventory, consisting of homeowners 90 days or more overdue on mortgage payments or already in the foreclosure process. At the end of February, 4.6 million households were in that category.

Barclays expects 1.6 million "distressed sales" of homes—mainly foreclosures or sales of homes for less than the mortgage balance due—both this year and in 2011, then a slight decline to 1.5 million in 2012. Last year, Barclays estimates, such sales totaled 1.5 million. About 30 per cent of all home sales this year and next will be foreclosure-related, forecasts Robert Tayon, a mortgage analyst at Barclays, who says that would be only about 6 per cent in a normal housing market." ("Foreclosure Estimate Falls", James R. Hagerty, Wall Street Journal.)

Why would Barclays think that only 1.6 million "distressed" homes would be sold in 2010, when they openly admit that there's 4.6 million homes already in the foreclosure pipeline? What does Barclays know that the public is not supposed to know?

Clearly, the banks have worked out a deal with Geithner and Bernanke to sell distressed inventory in dribs and drabs rather than all at once. That keeps prices high and makes their losses more manageable. But isn't that collusion or, at the very least, price fixing? The government definitely HAS a role to play in helping people keep their homes or providing assistance when they lose them, but they have no right to scam the public by stealthily manipulating the market to save underwater financial institutions.

The problem is not housing. The problem is the banks. The banks do not have sufficient capital to fund the mortgage market, nor do they provide the bulk of the financing for auto loans, student loans, small business loans or credit card debt which is gathered into pools and chopped up into tranches for securities that are sold to investors. (Securitization generates wholesale funding for the credit markets.) Not only are the banks unable to fulfill their primary social purpose--which is extending credit--they're also increasingly dependent on revenue from high-risk speculation. A recent article in the Financial Times exposed the fraud behind the 12-month surge in equities pointing out that retail investors have largely stayed on the sidelines. Here's an excerpt:

"...surveys show that the usual investors in major rallies – pension funds, hedge funds and retail investors – have not been net buyers of equities…the most likely explanation for this anomaly in the biggest stock market rally since the 1930s is that major investment banks are the anxious buyers.

“Their buying would appear to be for one of two reasons. Firstly because they think the authorities will prevail in their (so far unsuccessful) efforts to inflate their way out of debt liquidation; or secondly because they are too big to fail and so can afford to take a huge gamble that enough buying will convince others to rush in and buy their inventory of risk assets at even higher prices." ("Equity Rally Not Driven by the Usual Investors", Financial Times.)

Many people already suspected that the soaring stock market had more to do with "easy money" and bubblenomics, than they did with "green shoots". Still, the FT article does help to underline the fact that the bank's business model is broken and badly in need of repair. But, what is to be done? The banks already own just about everyone on Capital Hill, and their lobbyists are now writing large sections of the reform legislation. So how can they be stopped?

The root of the problem is political, and that's the best place to start. The banks' lethal grip on government has to be broken. The rest will be easy.

Glitch in the System; Computer-driven mayhem on Wall Street

On Thursday, shares tumbled across all major indexes on fears that Greece's debt woes would spread to other vulnerable countries in the E.U.. What began as a down-day on Wall Street, quickly turned into a full-blown rout as blue chips, financials, techs and transports were all caught in a program-trading downdraft. The bloodletting was mind-numbingly swift. In one 15 minute period, stocks plunged more than 300 points (and nearly 1,000 points at their nadir) before bouncing off the bottom and clawing back some of the day's losses. For the big brokerage houses and investment banks, the massacre could not have happened at a worse time. Skittish retail investors have already been steering clear of Wall Street, convinced that the markets are rigged. Thursday's ructions are sure to keep them on the sidelines even longer.

From Reuters:

"During the sell-off, Procter & Gamble shares plummeted nearly 37 percent to $39.37... prompting the company to investigate whether any erroneous trades had occurred. The shares are listed on the New York Stock Exchange, but the significantly lower share price was recorded on a different electronic trading venue.

"We don't know what caused it," said Procter & Gamble spokeswoman Jennifer Chelune. "We know that that was an electronic trade ... and we're looking into it with Nasdaq and the other major electronic exchanges." Mathew Goldstein, Reuters)

When stocks nosedive, falling prices can trigger stop-loss orders which spark a selloff. Add high-frequency trading to the mix--which accounts for more than 70 per cent of daily volume--and a normal correction can quickly turn into a major crash. The high-speed computers make millions of trades in a flash without human intervention. The potential for a catastrophe like Thursday, is a near-certainty.


From the Wall Street Journal: "An electronic trading algorithm issued by an unknown trader caused a massive selloff in futures contracts tied to the S&P 500, according to a long-time electronic trader of the products. A mistaken order was issued to sell $16 billion, rather than $16 million, of e-mini S&P futures contracts, according to the person....

“Jay Suskind, a senior vice-president at Duncan-Williams Inc., said the combined string of negative news about Goldman Sachs Group Inc. (GS), the Greek debt crisis and the rise in Libor evoked memories of the uncertainties that plagued the markets in 2008. He said the most nervous investors on Thursday simply decided to sell, rather than wait for information.

"’It just felt like liquidation’ said Anton Schutz, manager of the Burnham Financial Services Fund. ‘This isn't profit-taking. This is guys getting taken out on stretchers.’" ("Financial Stocks Plunge On Broad Market Selloff", Wall Street Journal)

Thursday's panic reminded many of the darkest days of the financial crisis when trillions of dollars were pared from market-cap in 5 months of carnage. Now risk aversion is back; the yield on the 10-year Treasury is falling, the dollar is strengthening, Libor is on the rise, and the flight to safety is on. All of the upbeat data on manufacturing, retail sales, consumer spending and inventory restocking, won't allay the fears of jittery investors. When volatility is this extreme, animal spirits are curbed and people look for a place to hide.

Zero Hedge has railed against high-frequency trading for more than a year. Maybe now, someone will listen. Here's an excerpt from their website in 2009:

"What happens in a world where the very core of the capital markets system is gradually deleveraging to a point where maintaining a liquid and orderly market becomes impossible... When the quant deleveraging finally catches up with the market, the consequences will likely be unprecedented, with dramatic dislocations leading the market both higher and lower on record volatility... (and today) What happened today was no fat finger, it was no panic selling by one major account: it was simply the impact of everyone in the High-Frequency Trading (HFT) community going from port to starboard on the boat, at precisely the same time.....After today investors will have little if any faith left in the US stocks, assuming they had any to begin with." (zero hedge, The Day the Market Almost Died)

The Securities and Exchange Commission (SEC) knows that High-Frequency Trading (HFT) is fraught with danger, and that a drubbing like yesterday's can happen at any time. Apparently, that's a risk that SEC chair Mary Schapiro is willing to take in order to give the big financial institutions a leg-up on the little guys. But that's not the way to restore confidence or lure people back into the markets. For that, Schapiro's going to have to do her job and fix the system.

Today's Links

1--A Money Too Far Paul Krugman NY Times

2--Bloodbath Ahead for State Budgets CNN

3--It's Getting Worse: CDS Report

4--Bankers trot out tired, old arguments against financial overhaul LA Times

5--Market Plunge: What really happened Naked Capitalism

6--Deficit hawkery's harsh impact on education Wa Post

7--"What is Responsible Fiscal Policy" New economic Perspectives
Quote: A responsible government spending policy is not measured by some arbitrary accounting result called the deficit, but by the impact it has had on the real economy.

8--"A long and persistent middle-class squeeze" EPI

9--Are Freddie's Losses on Loans Purchased Since September 2008? Dean Baker blog

Quote: "... when Fannie and Freddie lose money, it means that they paid banks too much for the loans they purchased. If they paid too much for loans before they were taken over then this was preumably the result of bad business decisions. However, if they lose money on loans purchased after September of 2008, then the government is effectively subsidizing banks by paying too much money for their loans. This was the original intention of the TARP program.

Taxpayers have a right to know if Fannie and Freddie are bing used to subsidize banks by overpaying for their loans. The Post and other news outlets should be trying to answer this question." Dean Baker

Wednesday, May 5, 2010

Today's Links

Today's Links

1--"You Would Have to Be Fool to Buy a House Now"

2--Belt-tightening program for Greece sparks street violence; three dead in gov. clash

3--Consumer spending above pre-recession level

4--Can the Euro be Saved?

Quote: "The social and economic consequences of the current arrangements should be unacceptable. Those countries whose deficits have soared as a result of the global recession should not be forced into a death spiral – as Argentina was a decade ago." Joseph Stiglitz

5--National Review debunks supply-side mythsQuote: " There is no evidence that the tax cuts on net produced more revenue than the Treasury would have realized without them."

6--Public Debt and Other Issues Henry Liu

Quote: "...the danger comes not from the size of the deficits or debt, but on how the proceeds from them are used....Far from ruining the US economy, war production financed by public debt catapulted the country into the front ranks of the world’s leading economic and financial powers, because the US homeland was not affected by war damage and civilian consumption was curbed in the name of patriotism. The national debt turned out to be a blessing, because a good supply of government securities provided for a vibrant credit market and public sector spending created the rise in demand that private companies could satisfy profitably with a guaranteed market.The truth is that the positive economic functionality of the national debt rests not so much on its level, high or low, but on how the debt is expended. When the national debt is used to expand economic production with full employment and rising wages, it will produce positive economic effects. But if the national debt is used to finance speculative profits achieved through pushing down wages via cross-border wage arbitrage, or to structure ballooning interest payments to service old debts by assuming more new debts, it will eventually drag the economy to a grinding halt by a debt implosion crisis."

7--Two Different Banking Crises - 1929 and 2007 Henry Liu---Wholesale Credit Market Failure

Yet with the benefit of deposit insurance instituted during the New Deal remaining operative, the current financial crisis that began in mid-2007 was caused not by bank runs from depositors, but by a melt down of the wholesale credit market when risk-averse sophisticated institutional investors of short-term debt instruments shied away en mass.

The wholesale credit market failure left banks in a precarious state of being unable to roll over their short-term debt to support their long-term loans. Even though the market meltdown had a liquidity dimension, the real cause of system-wide counterparty default was imminent insolvency resulting from banks holding collateral whose values fell below liability levels in a matter of days. For many large, public-listed banks, proprietary trading losses also reduced their capital to insolvency levels, causing sharp falls in their share prices.

8--Greek Default Already Decided WSJ

9--Fed Faces Deflation With Few Weapons, Rosenberg Says

Today's Links

1--U.S. Faces Inflation or Default, Nouriel Roubini

2--Shadow Banking, Nomi Prins

3--U.S. Role in Mortgage Market Grows Even Larger, Wall Street Journal

4--Bad by any Measure, macroblog FRB of Atlanta

5--The Role of Fraud in the Financial Crisis, James Galbraith

6--Crisis Panel to Probe Window-Dressing at Banks, Louise story NYT--- Today's "must read"

7--Still Unbalanced, Tim Duy

8--Greek End Game, Paul Krugman NYT

9--Follow the Money, James Hamilton, Econbrowser

Monday, May 3, 2010

Bernanke's Trillion Dollar Parlor Trick

The American Enterprise Institute is helping the Federal Reserve develop a strategy to dump $1.25 trillion in mortgage-backed garbage on the U.S. taxpayer. If the plan goes forward, the losses will be greater than all of the other bailouts combined. This is big, and it will require political activism to make sure the plan fails.

There's nothing fancy about the AEI's strategy; it's a straightforward "no frills" ripoff. Bernanke buys the toxic assets and non performing loans from the banks (which he's already done) and then transfers them to the GSE's (Fannie Mae and Freddie Mac). It's that simple. The Fed merely acts as a middle man to create a paper-trail long-enough to confuse the public about what's really going on. And, what's going on is another sleazy looting operation. Here's an excerpt from the AEI's web page by the eerily-named "Shadow Financial Regulatory Committee" which explains it all:

"Freddie and Fannie have been placed in conservatorship and the Treasury has confirmed that their debt is now guaranteed by the U.S. Government. This means that their debt is essentially identical to Treasury debt. The Treasury could simply issue Treasury debt to Freddie and Fannie with the offsetting accounting transaction being an IOU to the U.S. Treasury. Freddie and Fannie could then swap the acquired Treasury debt for MBS held by the Federal Reserve. This transaction would have several desirable features. It would place housing debt on the books of Freddie and Fannie where it belongs and remove the Fed from financing U.S. housing policy, which is appropriately a fiscal policy and not a monetary policy function. This would also help to re-establish Federal Reserve independence from the Treasury and fiscal policy. Finally, it would free the Fed to device strategies to reduce its balance sheet by engaging in more traditional asset sales in the much deeper Treasury market where the pricing impacts would be smaller and would accommodate a more rapid reduction in excess reserves." ("Mortgage Backed Securities in the Federal Reserve’s Portfolio" Shadow Statement No. 294, American Enterprise Institute)

So, there it is in black and white; the committee believes that dumping the red ink on the public would have "several desirable features." Indeed. It would move the bank's private losses off the Fed's books and onto Freddie and Fannie's "where it belongs". That would remove the Fed from any further obligation.

Naturally, the Fed will need a way to cover its tracks, so the AEI recommends that they ratchet up the fear of inflation. That means we can expect the Fed to mobilize its allies in the media to launch a public relations campaign that focuses on the imminent (and imaginary) threat of hyperinflation. That will create the diversion Bernanke needs to carry out his trillion dollar sludge-dumping operation.

According to the Wall Street Journal, Fannie and Freddie's total debt outstanding, at the end of 2009, was already a whopping $8.1 trillion, which is slightly higher than "the $7.8 trillion in total marketable debt outstanding for the entire US government." The off-balance sheet debts of the GSE's have mushroomed since the beginning of the financial crisis, because the banks and other financial institutions have used the two mortgage giants as a toxic recycling center for their sour investments. Bernanke's ginormous transfer of red ink follows that same pattern.

It's a shame that congress can't figure this stuff out. As an agent of the big banks, Bernanke is merely acting as one would expect. He saved the banks from nationalization and kept their political and financial power intact. He also usurped congress's authority over the budget purse-strings by purchasing the notorious toxic assets and, thus, dabbling in fiscal policy. Now he's putting the finishing-touches on another behemoth swindle so he can clear the Fed's books and resume the arduous task of bubblemaking.

Isn't it about time that congress wake up and smell the coffee?

No Hope for Britain By Afshin Rattansi

We have generations, now, of economists who have learned their profession not in the shadow of Keynes but of towers of glass and steel in the City of London. For journalists and economics pundits, this is not the time to increase the deficit through investment in infrastructure and making things. Instead, this is the time for cuts in public expenditure because bond traders demand it – all based on mistaken algorithms and formulae about risk. If the next government actually cuts expenditure to the orders of the bankers, it will surely lead to civil unrest on the streets of Britain. And it is astounding that the party leaders do not realize that civil unrest will not impress the bond markets." (Read more)

Why a Criminal Case against Goldman Matters Pam Martens

Excerpt:--"My advice to Goldman is to throw yourself on your sword. Come clean on everything and clean house. Put a modest gym in the basement of your new digs and donate the 54,000 square foot space to charities for the struggling folks you ripped off in their pensions and 401(k)s. And maybe it’s time to apologize for what you did in 1928 and 1929 as well." (Read more)

The Return of Hooverian Economics By Anthony DiMaggio

Excerpt:--"While the virtues of Keynesian economics have been understood for decades, right-wing government officials ... have undertaken a radical campaign to sell the public on cutting social services as a solution to “balancing the budget.” ... Jobs haven’t been created despite federal stimulus spending in the hundreds of billions of dollars, in large part because states are using stimulus money to make up for their budget shortfalls, rather than raising taxes to compensate for those shortfalls. In short, stimulus money is being used to replace declining budget revenues; by elementary logic, then, there can be no stimulus if federal funds are simply filling in the holes that were already present in state deficits.

According to the Center for Economic and Policy Research (CEPR), the $787 billion federal stimulus had the effect of subsidizing states that were in the process of cutting their budgets and social services. As CEPR estimates “state and local budget deficits to the tune of $100 billion a year will offset the stimulative effect of the president’s American Recovery and Reinvestment Act. Stimulus dollars used to cover deficits will have no stimulative effect.” ....

Without stimulus money, the economic decline in 2009 to 2010 would surely have been far worse. As the Center on Budget and Policy Priorities (CBPR) explains: “Because states also face legal requirements to balance their budgets, they must enact program cuts [or] tax increases to close their budget gaps.” Budget cuts, CBPR concludes, “reduce demand for goods and services, making a weak economy even weaker. Without federal funds, states would have to take even more dramatic measures that, by reducing demand, would cost jobs and make the recession even more severe.” This last sentence should be kept in mind when we discuss the future effects of further state budget cuts. States are likely to worsen the recession if they pass draconian budget reductions. While Democratic and Republican officials promise that cutting spending will help balance the budget, the effects will likely be the opposite, with budget revenues declining even further due to large numbers of state and local employees being fired from their jobs and contributions to state tax revenues declining further because of the mass firings. This has already happened, with massive cuts in the private sector leading to huge reductions in state budgets. Such job losses will put additional strains on the public sector, and justify additional pressures for another round of budget cuts and job losses. Such practices create a cyclical process whereby budget cuts and further economic deterioration become mutually reinforcing and contribute to a greater downward spiral in reducing tax pools and increasing budget deficits." (Read more)

Cliches won't fix the financial crisis, Dean Baker, UK Guardian

Excerpt Dean Baker: "Policy that rests on unexamined assertions (that emanate from the teachings of long-dead economists) will be every bit as destructive today as it was in the first Great Depression....Contractionary moves by these governments (in Europe) will worsen the downturn in these countries and in fact, make matters worse in the sound finance countries as well. ... downward pressure on these economies will likely require a debt restructuring at some point anyhow. The debt burden grows when economies shrink and that seems to be the plan coming from the economic centre of Europe.....

There was perhaps an excuse for bad policy in the 30s; after all Keynes didn't publish the General Theory until 1937. But, there is no excuse today – the ideas of Keynes have long been known and widely disseminated. It is a tragedy and an outrage that the people deciding economic policy are mindlessly repeating tired cliches rather than seriously trying to design policies that address the crisis in front of our faces." (Read more)

Saturday, May 1, 2010

The Subprime Conspiracy: Was there a plan to blow up the economy?

Many people now believe that the financial crisis was not an accident. They think that the Bush administration and the Fed knew what Wall Street was up to and provided their support. This isn't as far fetched as it sounds. As we will show, it's clear that Bush, Greenspan and many other high-ranking officials understood the problem with subprime mortgages and knew that a huge asset bubble was emerging that threatened the economy. But while the housing bubble was more than just an innocent mistake, it doesn't rise to the level of "conspiracy" which Webster defines as "a secret agreement between two or more people to perform an unlawful act." It's actually worse than that, because bubblemaking is the dominant policy, and it's used to overcome structural problems in capitalism itself, mainly stagnation.

The whole idea of a conspiracy diverts attention from what really happened. It conjures up a comical vision of top-hat business tycoons gathered in a smoke-filled room stealthily mapping out the country's future. It ignores the fact, that the main stakeholders don't need to convene a meeting to know what they want. They already know what they want; they want a process that helps them to maintain profitability even while the "real" economy remains stuck in the mud. Historian Robert Brenner has written extensively on this topic and dispels the mistaken view that the economy is "fundamentally strong". (in the words of former Treasury secretary Henry Paulson) Here's Brenner :

"The current crisis is more serious than the worst previous recession of the postwar period, between 1979 and 1982, and could conceivably come to rival the Great Depression, though there is no way of really knowing. Economic forecasters have underestimated how bad it is because they have over-estimated the strength of the real economy and failed to take into account the extent of its dependence upon a buildup of debt that relied on asset price bubbles.

“In the U.S., during the recent business cycle of the years 2001-2007, GDP growth was by far the slowest of the postwar epoch. There was no increase in private sector employment. The increase in plants and equipment was about a third of the previous, a postwar low. Real wages were basically flat. There was no increase in median family income for the first time since World War II. Economic growth was driven entirely by personal consumption and residential investment, made possible by easy credit and rising house prices. Economic performance was weak, even despite the enormous stimulus from the housing bubble and the Bush administration's huge federal deficits. Housing by itself accounted for almost one-third of the growth of GDP and close to half of the increase in employment in the years 2001-2005. It was, therefore, to be expected that when the housing bubble burst, consumption and residential investment would fall, and the economy would plunge. " ("Overproduction not Financial Collapse is the Heart of the Crisis", Robert P. Brenner speaks with Jeong Seong-jin, Asia Pacific Journal)

What Brenner describes is an economy \that--despite unfunded tax cuts, massive military spending and gigantic asset bubbles--can barely produce positive growth. The pervasive lethargy of mature capitalist economies poses huge challenges for industry bosses who are judged solely on their ability to boost quarterly profits. Goldman's Lloyd Blankfein and JPM's Jamie Dimon could care less about economic theory, what they're interested in is making money; how to deploy their capital in a way that maximizes return on investment. "Profits", that's it. And that's much more difficult in a world that's beset by overcapacity and flagging demand. The world doesn't need more widgets or widget-makers. The only way to ensure profitability is to invent an alternate system altogether, a new universe of financial exotica (CDOs, MBSs, CDSs) that operates independent of the sluggish real economy. Financialization provides that opportunity. It allows the main players to pump-up the leverage, minimize capital-outlay, inflate asset prices, and skim off record profits even while the real economy endures severe stagnation. (Read whole article)