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The Pushback Against Bernanke

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November 30, 2009

This week brings us the confirmation hearings on President Obama’s nomination of Ben Bernanke to a second four-year term as chairman of the Federal Reserve.  The recent progress in Congressional efforts to audit the Federal Reserve will certainly spice up the confirmation hearings.  If that weren’t enough, Bernanke saw fit to write a commentary piece for Sunday’s edition of The Washington Post, expressing his opposition to any attempts to limit the Fed’s power and subject it to an audit.  Here is some of what he had to say in that column:

These measures are very much out of step with the global consensus on the appropriate role of central banks, and they would seriously impair the prospects for economic and financial stability in the United States.  The Fed played a major part in arresting the crisis, and we should be seeking to preserve, not degrade, the institution’s ability to foster financial stability and to promote economic recovery without inflation.

Well, he should have known what would be coming next  . . .  the avalanche of criticism pointing out how the Fed played a major role in causing the crisis.  As you will see below, that response was swift.  Worse yet, Bernanke’s theme of “we learned our lesson” will surely inspire harsh interrogation at the confirmation hearings:

The Federal Reserve, like other regulators around the world, did not do all that it could have to constrain excessive risk-taking in the financial sector in the period leading up to the crisis.  We have extensively reviewed our performance and moved aggressively to fix the problems.

Dean Baker did not waste any time before ripping into Bernanke’s essay.  Baker’s Beat the Press blog at The American Prospect website regularly upbraids Bernanke for his responsibility in causing the economic crisis.  Baker’s retort to the Washington Post piece was published at the Talking Points Memo website.  The final paragraph of Baker’s essay reflected his outrage that the Post would publish Bernanke’s rant without an opposing response:

The arrogance of this column is almost beyond belief.  This man is incredibly lucky to still have his job at time when millions of other workers have lost theirs as a direct result of his incompetence.  A serious news outlet would not have printed such a ridiculously self-serving piece without at least securing an opposing opinion.  Of course, Bernanke’s piece appeared in the Washington Post.

Dean Baker’s primary criticism of Bernanke is based on the Fed chair’s failure to control the 8-trillion-dollar housing bubble before it burst, nearly destroying the entire economy:

We had further losses in demand associated with the bursting of a bubble in non-residential real estate.  In total, the loss in bubble-driven demand was well over $1 trillion a year.  All of it an entirely predictable outcome of the collapse of a housing bubble.

The simple reality is that there is nothing in the Fed’s bag of tricks that will allow it to easily replace over $1 trillion in annual demand.  In short, the bubble guaranteed the economic disaster that we are now experiencing, end of story.

At the Naked Capitalism website, Yves Smith dealt a hefty load of thorough criticism on the Bernanke article.  She began with the verdict against Bernanke and built an impressive argument supporting her opinion:

What is interesting is how much the tables have turned.  The Obama effort to make the Fed into the uber bank regulator has become a rout, with decent odds that the Fed will have its powers reduced, and an increasing possibility that Bernanke might not be reconfirmed (which is frankly the right outcome, no CEO who presided over a similar disaster would still be in charge).

Smith did not restrict her criticism to the Fed’s failure to control the housing bubble.  Here are some of her points:

For instance, the Fed was the architect of the “let a thousand flowers bloom” policy towards derivatives, and made inadequate (one might say no) effort to understand new financial technology.  Bernanke himself rationalized burgeoning consumer debt, claiming that consumer balance sheets were in good shape.  Hun?  This is Japan circa 1989 thinking.

*   *   *

Yes, I am told the Fed is now making all the banks disclose their derivatives positions to them, but the Fed lacks the analytical capacity to do much with this information (and I am further told the Fed staff understands that too).  So that does not fit my notion of “tougher oversight.”  And the rest is just empty promises.

In response to Bernanke’s claim that Congressional efforts to rein-in the authority of the Fed are “very much out of step with the global consensus on the appropriate role of central banks,” Ms. Smith pounced:

Notice how Bernanke invokes a “global consensus,” which is wonderfully vague and ignores the fact that the pre-crisis “global consensus” of minimally regulated markets and financial institutions, is precisely what caused the crisis.  Moreover, even if the Fed’s mandate in theory was appropriate, its governance structure is not.  The Bank of England and the ECB are not peculiar largely private institutions, accountable to almost no one, as the Fed now is.  The Fed’s insistence on secrecy regarding many of its emergency operations is unwarranted and deeply troubling.  And “the Fed played a major role in arresting the crisis” ignores the fact that the Fed played a major role in creating it, namely, via negative real interest rates for a protracted period.  And he is declaring the Fed’s policies to be successful when the jury is still out.

Brenanke’s claim that the idiotic bank stress tests “marked a turning point in public confidence in the banking system” invited a well-deserved attack.  Here’s how Yves Smith handled it:

The worst is the folks at the Fed clearly believe the bogus stress tests were a meaningful exercise.  That alone should disqualify them from getting a bigger role in bank supervision.  And if you read their pronouncements, they plan to continue to use them, and have the process run by …  monetary economists!  Pray tell, what do they know about bank operations?  Help me!  And some of the help the Fed has enlisted in the stress test exercise includes the consulting firm McKinsey, which has the biggest banking practice in the consulting industry.  Think McKinsey is going to devise anything that might be rough on its biggest meal tickets?

Remember that these negative reactions to the Bernanke article are just what appeared on Sunday.  By the time the confirmation hearings begin on December 3, you can be sure that Bernanke’s own words from the Post column will be used against him.  We may find that his decision to write this piece was a crucial turning point leading to a decision against his confirmation.



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Compare And Contrast

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November 26, 2009

We have seen and heard so much discussion during the past week concerning the dismal performance of Treasury Secretary “Turbo” Tim Geithner while testifying before the Joint Economic Committee — I won’t repeat it.  At this point, there appears to be a consensus that Turbo Tim has to go.  The scary part comes when pundits start tossing around names for a possible replacement.  One would expect that President Obama might be wise enough to avoid the appointment of another “Wall Street insider” as Treasury Secretary.  Rumors are circulating that The Dimon Dog (Jamie Dimon, CEO of JP Morgan Chase) is being considered for the post.  This buzz gained more traction when bank analyst, Dick Bove, recently voiced support for Dimon as Treasury Secretary.  The handful of Geithner supporters deny that Turbo Tim ever was a “Wall Street insider”.  This assertion is contradicted by the fact that Geithner was the President of the New York Federal Reserve at the time of the financial crisis, when he served as architect of the more-than-generous bailouts of those “too big to fail” financial institutions — at taxpayer expense.

These days, the most vilified beneficiary of government largesse resulting from the financial crisis is the widely-despised investment bank, Goldman Sachs — often referred to as the “giant vampire squid” — thanks to Matt Taibbi’s metaphor, describing Goldman as “a great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money.”

For whatever reason, a number of commentators have chosen to help defend Goldman Sachs against what they consider to be unfair criticism.  A recent example came to us from James Stewart of The New Yorker.  Stewart had previously written a 25-page essay for that magazine, entitled “Eight Days” — a dramatic chronology of the financial crisis as it unfolded during September of 2008.  Last week, Stewart seized upon the release of the recent SIGTARP report to defend Goldman with a blog posting which characterized the report as supportive of the argument that Goldman owes the taxpayers nothing as a result of the government bailouts resulting from that near-meltdown.  (In case you don’t know, a former Assistant U.S. District Attorney from New York named Neil Barofsky was nominated by President Bush as the Special Investigator General of the TARP program.  The acronym for that job title is SIGTARP.)   In his blog posting, James Stewart began by characterizing Goldman’s detractors as “conspiracy theorists”.  That was a pretty weak start.  Stewart went on to imply that the SIGTARP report refutes the claims by critics that, despite Goldman’s repayment of the TARP bailout, it did not repay the government the billions it received as a counterparty to AIG’s collateralized debt obligations.  Stewart referred to language in the SIGTARP report to support the spin that because “Goldman was fully hedged on its exposure both to a failure by A.I.G. and to the deterioration of value in its collateralized debt obligations” and that “(i)t repaid its TARP loans with interest, bought back the government’s warrants at a nice profit to the Treasury” Goldman therefore owes the government nothing — other than “a special debt of gratitude”.  One important passage from page 22 of the SIGTARP report that Stewart conveniently ignored, concerned the money received by Goldman Sachs as an AIG counterparty by way of Maiden Lane III, at which point those credit default obligations (of questionable value) were purchased at an excessive price by the government.  Here’s that passage from the SIGTARP report:

When FRBNY authorized the creation of Maiden Lane III in November 2008, it lent approximately $24.6 billion to the newly formed limited liability company, and AIG provided Maiden Lane III approximately $5 billion in equity.  These funds were used to purchase CDOs from AIG counterparties worth an estimated fair value of $29.6 billion at the time of the purchases, which were done in three stages on November 25, 2008, December 18, 2008, and December 22, 2008.  AIGFP’s counterparties were paid $27.1 billion, and AIGFP was paid $2.5 billion per an agreement between AIGFP and FRBNY.  The $2.5 billion represented the amount of collateral that AIGFP had previously paid to the counterparties that was in excess of the actual decline in the fair value as of October 31, 2008.

FRBNY’s loan to Maiden Lane III is secured by the CDOs as the underlying assets.  After the loan has been repaid in full plus interest, and, to the extent that there are sufficient remaining cash proceeds, AIG will be entitled to repayment of the $5 billion that the company contributed in equity, plus accrued interest.  After repayment in full of the loan and the equity contribution (each including accrued interest), any remaining proceeds will be split 67 percent to FRBNY and 33 percent to AIG.

On November 21, one of my favorite reporters for The New York Times, Pulitzer Prize winner Gretchen Morgenson, wrote an informative piece concerning the recent SIGTARP Report.  Compare and contrast Ms. Morgenson’s discussion of the report’s disclosures, with the spin provided by James Stewart.  Here is some of what Ms. Morgenson had to say:

The Fed, under Mr. Geithner’s direction, caved in to A.I.G.’s counterparties, giving them 100 cents on the dollar for positions that would have been worth far less if A.I.G. had defaulted.  Goldman Sachs, Merrill Lynch, Societe Generale and other banks were in the group that got full value for their contracts when many others were accepting fire-sale prices.

On the question of whether this payout was what the report describes as a “backdoor bailout” of A.I.G.’s counterparties, Mr. Barofsky concluded:  “The very design of the federal assistance to A.I.G. was that tens of billions of dollars of government money was funneled inexorably and directly to A.I.G.’s counterparties.”  The report noted that this was money the banks might not otherwise have received had A.I.G. gone belly-up.

*   *   *

Finally, Mr. Barofsky pokes holes in arguments made repeatedly over the past 14 months by Goldman Sachs, A.I.G.’s largest trading partner and recipient of $12.9 billion in taxpayer money in the bailout, that it had faced no material risk in an A.I.G. default — that, in effect, had A.I.G. cratered, Goldman wouldn’t have suffered damage.

*   *   *

Rather than forcing the banks to accept a steep discount, or “haircut,” the Fed gave the banks $27 billion in taxpayer cash and allowed them to keep an additional $35 billion in collateral already posted by A.I.G.  That amounted to about $62 billion for the contracts, which the report describes as “far above their market value at the time.”

*   *   *

As Goldman prepares to pay out nearly $17 billion in bonuses to its employees in one of its most profitable years ever, it is important that an authoritative, independent voice like Mr. Barofsky’s reminds us how the taxpayer bailout of A.I.G. benefited Goldman.

*   *   *

The inspector noted in his report that Goldman made several arguments for why it believed it was not materially at risk in an A.I.G. default, but he is skeptical of the firm’s reasoning.

So is Janet Tavakoli, an expert in derivatives at Tavakoli Structured Finance, a consulting firm.

*   *   *

Ms. Tavakoli argues that Goldman should refund the money it received in the bailout and take back the toxic C.D.O.’s now residing on the Fed’s books — and to do so before it begins showering bonuses on its taxpayer-protected employees.

“A.I.G., a sophisticated investor, foolishly took this risk,” she said.  “But the U.S. taxpayer never agreed to be the victim of investments that should undergo a rigorous audit.”

After reading James Stewart’s November 19 blog posting and Gretchen Morgenson’s November 21 article from The New York Times, ask yourself this:  Are Gretchen Morgenson and Janet Tavakoli “conspiracy theorists”      . . .  or is James Stewart just a tool?



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The Federal Reserve Is On The Ropes

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November 23, 2009

Last February, Republican Congressman Ron Paul introduced HR 1207, the Federal Reserve Transparency Act of 2009, by which the Government Accountability Office would be granted authority to audit the Federal Reserve and present a report to Congress by the end of 2010.  On May 21, Congressman Alan Grayson, a Democrat from Florida, wrote to his Democratic colleagues in the House, asking them to co-sponsor the bill. The bill eventually gained over 300 co-sponsors.  By October 30, Congressman Mel Watt, a Democrat from North Carolina, basically “gutted” the bill according to Congressman Paul, in an interview with Bob Ivry of Bloomberg News.  Watt subsequently proposed a competing measure, which was aided by the circulation of a letter by eight academics, who were described as a “political cross-section of prominent economists”.  Ryan Grim of The Huffington Post disclosed on November 18 that the purportedly diverse, independent economists were actually paid stooges of the Federal Reserve:

But far from a broad cross-section, the “prominent economists” lobbying on behalf of the Watt bill are in fact deeply involved with the Federal Reserve.  Seven of the eight are either currently on the Fed’s payroll or have been in the past.

After HR 1207 had been undermined by Watt, an amendment calling for an audit of the Federal Reserve was added as amendment 69B to HR3996, the Financial Stability Improvement Act of 2009.  The House Finance Committee voted to approve that amendment on November 19.  This event was not only a big win for Congressmen Paul and Grayson — it also gave The Huffington Post’s Ryan Grim the opportunity for a “victory lap”:

In an unprecedented defeat for the Federal Reserve, an amendment to audit the multi-trillion dollar institution was approved by the House Finance Committee with an overwhelming and bipartisan 43-26 vote on Thursday afternoon despite harried last-minute lobbying from top Fed officials and the surprise opposition of Chairman Barney Frank (D-Mass.), who had previously been a supporter.

*   *   *

“Today was Waterloo for Fed secrecy,” a victorious Grayson said afterwards.

Scott Lanman of Bloomberg News pointed out that this battle was just one of many legislative onslaughts against the Fed:

The Fed’s powers and rate-setting independence are under threat on several fronts in Congress.  Separately yesterday, the Senate Banking Committee began debate on legislation that would strip the Fed of bank-supervision powers and give lawmakers greater say in naming the officials who vote on monetary policy.

*   *   *

Paul and other lawmakers have accused the Fed of lax oversight of banks and failing to avert the financial crisis.

Federal Reserve Chairman Ben Bernanke is feeling even more heat because the Senate Banking Committee will begin hearings concerning Bernanke’s reappointment as Fed Chair.  The hearings will begin on December 3, the same day as President Obama’s jobs summit.  Senate Banking Committee chair, Chris Dodd, revealed to videoblogger Mike Stark that Bernanke’s reappointment is “not necessarily” a foregone conclusion.

Let’s face it:  the public has finally caught on to the fact that the mission of the Fed is to protect the banking industry and if that is to be accomplished at the public’s expense — then so be it.  Back at The Huffington Post, Tom Raum explained how this heightened awareness of the Fed’s activities has resulted in some Congressional pushback:

Many lawmakers question whether the Fed’s money machine has mainly benefited financial markets and not the broader economy.  Lawmakers are also peeved that the central bank acted without congressional involvement when it brokered the 2008 sale of failed investment bank Bear Stearns and engineered the rescue of insurer American International Group.

Tom Raum echoed concern about the how the current increase in “anti-Fed” sentiment might affect the Bernanke confirmation hearings:

Should Bernanke be worried?

“Not only should be worried, he’s clearly ratcheted up his game in terms of his communications with Congress,” said Norman Ornstein, a senior fellow at the American Enterprise Institute.

Ornstein said the Fed bashing this time is different from before, with “a broader base of support.  And it’s coming from people who in the past would not have hit the Fed.  There’s a lot of populist anger out there — on the left, in the center and on the right.  And politicians are responsive to that.”

Populist anger with the Fed will certainly change the way history will regard former Fed chairman, Alan Greenspan.  Fred Sheehan’s new book:  Panderer to Power:  The True Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession, could not have been released at a better time.  At his blog, Sheehan responded to five questions about Greenspan, providing us with a taste of what to expect in the new book.  Here is one of the interesting points, demonstrating how Greenspan helped create our current crisis:

The American economy’s recovery from the early 1990s was financial.  This was a first.  The recovery was a product of banks borrowing, leveraging and lending to hedge funds.  The banks were also creating and selling complicated and very profitable derivative products.  Greenspan needed the banks to grow until they became too-big-to-fail.  It was evident the “real” economy — businesses that make tires and sell shoes — no longer drove the economy.  Thus, finance was given every advantage to expand, no matter how badly it performed.  Financial firms that should have died were revived with large injections of money pumped by the Federal Reserve into the banking system.

It’s great to see Congress step up to the task of exposing the antics of the Federal Reserve.  Let’s just hope these efforts meet with continued success.



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Preparing For The Worst

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November 19, 2009

In the November 18 edition of The Telegraph, Ambrose Evans-Pritchard revealed that the French investment bank, Societe Generale “has advised its clients to be ready for a possible ‘global economic collapse’ over the next two years, mapping a strategy of defensive investments to avoid wealth destruction”.   That gloomy outlook was the theme of a report entitled:  “Worst-case Debt Scenario” in which the bank warned that a new set of problems had been created by government rescue programs, which simply transferred private debt liabilities onto already “sagging sovereign shoulders”:

“As yet, nobody can say with any certainty whether we have in fact escaped the prospect of a global economic collapse,” said the 68-page report, headed by asset chief Daniel Fermon.  It is an exploration of the dangers, not a forecast.

Under the French bank’s “Bear Case” scenario, the dollar would slide further and global equities would retest the March lows.  Property prices would tumble again.  Oil would fall back to $50 in 2010.

*   *   *

The underlying debt burden is greater than it was after the Second World War, when nominal levels looked similar.  Ageing populations will make it harder to erode debt through growth.  “High public debt looks entirely unsustainable in the long run.  We have almost reached a point of no return for government debt,” it said.

Inflating debt away might be seen by some governments as a lesser of evils.

If so, gold would go “up, and up, and up” as the only safe haven from fiat paper money.  Private debt is also crippling.  Even if the US savings rate stabilises at 7pc, and all of it is used to pay down debt, it will still take nine years for households to reduce debt/income ratios to the safe levels of the 1980s.

To make matters worse, America still has an unemployment problem that just won’t abate.  A recent essay by Charles Hugh Smith for The Business Insider took a view beyond the “happy talk” propaganda to the actual unpleasant statistics.  Mr. Smith also called our attention to what can be seen by anyone willing to face reality, while walking around in any urban area or airport:

The divergence between the reality easily observed in the real world and the heavily touted hype that “the recession is over because GDP rose 3.5%” is growing.  It’s obvious that another 7 million jobs which are currently hanging by threads will be slashed in the next year or two.

By this point, most Americans are painfully aware of the massive bailouts afforded to those financial institutions considered “too big to fail”.  The thought of transferring private debt liabilities onto already “sagging sovereign shoulders” immediately reminds people of TARP and the as-yet-undisclosed assistance provided by the Federal Reserve to some of those same, TARP-enabled institutions.

As Kevin Drawbaugh reported for Reuters, the European Union has already taken action to break up those institutions whose failure could create a risk to the entire financial system:

EU regulators are set to turn the spotlight on 28 European banks bailed out by governments for possible mandated divestitures, officials said on Wednesday.

The EU executive has already approved restructuring plans for British lender Lloyds Banking (LLOY.L), Dutch financial group ING Groep NV (ING.AS) and Belgian group KBC (KBC.BR).

Giving break-up power to regulators would be “a good thing,” said Paul Miller, a policy analyst at investment firm FBR Capital Markets, on Wednesday.

Big banks in general are bad for the economy because they do not allocate credit well, especially to small businesses, he said. “Eventually the big banks get broken up in one way or another,” Miller said at the Reuters Global Finance Summit.

Meanwhile in the United States, the House Financial Services Committee approved a measure that would grant federal regulators the authority to break up financial institutions that would threaten the entire system if they were to fail.  Needless to say, this proposal does have its opponents, as the Reuters article pointed out:

In both the House and the Senate, “financial lobbyists will continue to try to water down this new and intrusive federal regulatory power,” said Joseph Engelhard, policy analyst at investment firm Capital Alpha Partners.

If a new break-up power does survive the legislative process, Engelhard said, it is unlikely a “council of numerous financial regulators would be able to agree on such a radical step as breaking up a large bank, except in the most unusual circumstances, and that the Treasury Secretary … would have the ability to veto any imprudent use of such power.”

When I first read this, I immediately realized that Treasury Secretary “Turbo” Tim Geithner would consider any use of such power as imprudent and he would likely veto any attempt to break up a large bank.  Nevertheless, my concerns about the “Geithner factor” began to fade after I read some other encouraging news stories.  In The Huffington Post, Sam Stein disclosed that Oregon Congressman Peter DeFazio (a Democrat) had called for the firing of White House economic advisor Larry Summers and Treasury Secretary “Timmy Geithner” during an interview with MSNBC’s Ed Schultz.  Mr. Stein provided the following recap of that discussion:

“We think it is time, maybe, that we turn our focus to Main Street — we reclaim some of the unspent [TARP] funds, we reclaim some of the funds that are being paid back, which will not be paid back in full, and we use it to put people back to work.  Rebuilding America’s infrastructure is a tried and true way to put people back to work,” said DeFazio.

“Unfortunately, the President has an adviser from Wall Street, Larry Summers, and a Treasury Secretary from Wall Street, Timmy Geithner, who don’t like that idea,” he added.  “They want to keep the TARP money either to continue to bail out Wall Street  … or to pay down the deficit.  That’s absurd.”

Asked specifically whether Geithner should stay in his job, DeFazio replied:  “No.”

“Especially if you look back at the AIG scandal,” he added, “and Goldman and others who got their bets paid off in full … with taxpayer money through AIG.  We channeled the money through them.  Geithner would not answer my question when I said, ‘Were those naked credit default swaps by Goldman or were they a counter-party?’  He would not answer that question.”

DeFazio said that among he and others in the Congressional Progressive Caucus, there was a growing consensus that Geithner needed to be removed.  He added that some lawmakers were “considering questions regarding him and other economic advisers” — though a petition calling for the Treasury Secretary’s removal had not been drafted, he said.

Another glimmer of hope for the possible removal of Turbo Tim came from Jeff Madrick at The Daily Beast.  Madrick’s piece provided us with a brief history of Geithner’s unusually fast rise to power (he was 42 when he was appointed president of the New York Federal Reserve) along with a reference to the fantastic discourse about Geithner by Jo Becker and Gretchen Morgenson, which appeared in The New York Times last April.  Mr. Madrick demonstrated that what we have learned about Geithner since April, has affirmed those early doubts:

Recall that few thought Geithner was seasoned enough to be Treasury secretary when Obama picked him.  Rubin wasn’t ready to be Treasury secretary when Clinton was elected and he had run Goldman Sachs.  Was Geithner’s main attraction that he could easily be controlled by Summers and the White House political advisers?  It’s a good bet.  A better strategy, some argued, would have been to name Paul Volcker, the former Fed chairman, for a year’s worth of service and give Geithner as his deputy time to grow.  But Volcker would have been far harder to control by the White House.

But now the president needs a Treasury Secretary who is respected enough to stand up to Wall Street, restabilize the world’s trade flows and currencies, and persuade Congress to join a battle to get the economic recovery on a strong path.  He also needs someone with enough economic understanding to be a counterweight to the White House advisers, led by Summers, who have consistently been behind the curve, except for the $800 billion stimulus.  And now that is looking like it was too little.  The best guess is that Geithner is not telling the president anything that the president does not know or doesn’t hear from someone down the hall.

The problem for Geithner and his boss, is that the stakes if anything are higher than ever.

As the rest of the world prepares for worsening economic conditions, the United States should do the same.  Keeping Tim Geithner in charge of the Treasury makes less sense than it did last April.



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Call Him The Dimon Dog

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November 16, 2009

It seems as though once an individual rises to a significant level of influence and authority, that person becomes “too big for straight talk”.  We’ve seen it happen with politicians, prominent business people and others caught-up in the “leadership” racket.  Influential people are well aware of the unforeseen consequences resulting from a candid, direct response to a simple question.  Mindful of those hazards, a rhetorical technique employing equivocation, qualification and obfuscation is cultivated in order to avoid responsibility for what could eventually become exposed as a brain fart.

Since last year’s financial crisis began, we have heard plenty of debate over the concept of “too big to fail” —  the idea that a bank is so large and interconnected with other important financial institutions that its failure could pose a threat to the entire financial system.  Recent efforts at financial reform have targeted the “too big to fail” (TBTF) concept, with differing approaches toward downsizing or breaking up those institutions with “systemic risk” potential.  Treasury Secretary “Turbo” Tim Geithner was the first to use doublespeak as a weapon against those attempting to eliminate TBTF status.  When he testified before the House Financial Services Committee on September 23 to explain his planned financial reform agenda, Geithner attempted to create the illusion that his plan would resolve the “too big to fail” problem:

First, we cannot allow firms to reap the benefits of explicit or implicit government subsidies without very strong government oversight.  We must substantially reduce the moral hazard created by the perception that these subsidies exist; address their corrosive effects on market discipline; and minimize their encouragement of risk-taking.

So, in other words … the government subsidies to those institutions will continue, but only if the recipients get “very strong government oversight”.  In his next sentence, Geithner expressed his belief that the moral hazard was created “by the perception that these subsidies exist” rather than the FACT that they exist.  At a subsequent House Financial Services Committee hearing on October 29, Geithner again tried to trick his audience into believing that the administration’s latest reform plan was opposed to TBTF status.  As Jim Kuhnhenn and Anne Flaherty reported for The Huffington Post, representatives from both sides of the isle saw right through Geithner’s smokescreen:

Others argue that by singling out financial firms important to the economy, the government could inevitably set itself up to bail them out, and that even dismantling rather than rescuing them would take taxpayer money.

“Apparently, the ‘too big to fail’ model is too hard to kill,” quipped Republican Rep. Ed Royce of California.

Rep. Brad Sherman, D-Calif., called the bill “TARP on steroids,” referring to the government’s $700 billion Wall Street rescue fund.

On Friday the 13th, Jamie Dimon, the CEO of JP Morgan Chase, stole the spotlight in this debate with an opinion piece published by The Washington Post.  Dimon pretended to be opposed to the TBTF concept and quoted from his fellow double-talker, Turbo Tim.  Dimon then made this assertion:  “The term ‘too big to fail’ must be excised from our vocabulary.”  He followed with the qualification that ending TBTF “does not mean that we must somehow cap the size of financial-services firms.”  Dimon proceeded to argue against the creation of “artificial limits” on the size of financial institutions.  In other words:  Dimon would like to see Congress enact a law that could never be applied because it would contain no metric for its own applicability.

Criticism of Dimon’s Washington Post piece was immediate and widespread, especially considering the fact that his own JP Morgan is a TBTF All Star.  David Weidner explained it for MarketWatch this way:

In other words, Dimon favors a regulatory system for unwinding failing institutions — he believes no bank should be too big to fail — but doesn’t seem to like the global effort, endorsed by the G-20, to encourage smaller, less-connected institutions.  He wants to let big institutions be big.

The best criticism of Dimon’s article came from my blogging buddy, Adrienne Gonzalez, a/k/a  Jr Deputy Accountant.  She pointed out that the report for the first quarter of 2009 by the Office of the Currency Comptroller revealed that JP Morgan Chase holds 81 trillion dollars’ worth of derivatives contracts, putting it in first place on the OCC list of what she called “derivatives offenders”.  After quoting the passage in Dimon’s piece concerning the procedure for winding-down “a large financial institution”, Adrienne made this point:

Interesting and a great read but useless in practical application.  Does Dimon really believe this?  With $81 TRILLION in notional derivatives exposure, I don’t see how an FDIC for investment banks could possibly unwind such a tangled mess in an orderly fashion.  He’s joking, right?

For an interesting portrayal of The Dimon Dog, you might want to take a look at an article by Paul Barrett, entitled “I, Banker”.   It was actually a book review Barrett wrote for The New York Times concerning a biography of Dimon by Duff McDonald, entitled The Last Man Standing.  I haven’t read the book and after reading Barrett’s review, I have no intention of doing so — since Barrett made the book appear to be the work of a fawning sycophant in awe of Dimon.  In criticizing the book, Paul Barrett gave us some of his own useful insights about Dimon:

The Dimon of  “Last Man Standing” emerges as a brilliant but flawed winner, one whose long and psychologically tangled apprenticeship to another legendary money man, Sanford Weill, helped lay the groundwork for the crisis of 2008.  In recent days, Dimon’s conduct suggests he is someone who puts the interests of his company ahead of those of society at large, which will be surprising only to those who naively look to modern Wall Street for statesmanship.

*   *   *

JPMorgan under Dimon’s leadership allowed home buyers to borrow without having to prove their income.  The bank did business with sleazy mortgage brokers who would lend to anyone with a heartbeat.  These habits ended only in 2008, when it was too late.  McDonald lauds Dimon for cleverly unloading huge volumes of the toxic subprime mortgages JPMorgan originated.  But that’s like praising a corporate polluter for trucking his poisonous sludge into the next state.  It doesn’t solve the problem; it merely moves it elsewhere.

Paul Barrett’s book review gave us a useful perspective on The Dimon Dog’s support of the administration’s financial reform agenda:

McDonald notes that the C.E.O. publicly endorses certain financial regulatory changes proposed by the Obama administration.  But critics point out that lobbyists employed by “Dimon and his team are actually stonewalling derivatives reform in order to protect the outsize margins the business generates” for JPMorgan.  The derivatives in question include “credit default swaps,” transactions akin to insurance policies that lenders can buy to buffer against loans that go bad.  In the wrong hands, credit derivatives become a form of gambling that can lead to ruin.  They need to be checked, and Dimon’s self-interested resistance isn’t helping matters.

Dimon may be the best of his breed, but when it comes to public-spirited leaders, today’s Wall Street isn’t a promising recruiting ground.

Well said!



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Awareness Abounds

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November 12, 2009

When I started this blog in April of 2008, my focus was on that year’s political campaigns and the exciting Presidential primary season.  At the time, I expressed my concern that the most prominent centrist in the race, John McCain, would continue pandering to the televangelist lobby after winning the nomination, when those efforts were no longer necessary.  He unfortunately followed that strategy and went on to say dumb things about the most pressing issue facing America in decades: the economy.  During the Presidential campaign of Bill Clinton, James Carville was credited with writing this statement on a sign in front of Clinton’s campaign headquarters in Little Rock:  “It’s the economy, stupid!”  That phrase quickly became the mantra of most politicians until the attacks of September 11, 2001 revealed that our efforts at national security were inadequate.  Since that time, we have over-compensated in that area.  Nevertheless, with the demise of Rudy Giuliani’s political career, the American public is not as jumpy about terrorism as it had been — despite the suspicious connections of the deranged psychiatrist at Fort Hood.  As the recent editorials by Steve Chapman of the Chicago Tribune and Vincent Carroll of The Denver Post demonstrate, the cerebral bat guano necessary to get the public fired-up for a vindictive rampage just isn’t there anymore.

President Obama’s failure to abide by the Carville maxim appears to be costing him points in the latest approval ratings.  The fact that the new President has surrounded himself with the same characters who helped create the financial crisis, has become a subject of criticism by commentators from across the political spectrum.  Since Obama’s Presidential campaign received nearly one million dollars in contributions from Goldman Sachs, he should have known we’d be watching.  CNBC’s Charlie Gasparino was recently interviewed by Aaron Task.  During that discussion, Gasparino explained that Jamie Dimon (the CEO of JP Morgan Chase and director of the New York Federal Reserve) has managed to dissuade the new President from paying serious attention to Paul Volcker (chairman of the Economic Recovery Advisory Board) whose ideas for financial reform would prove inconvenient for those “too big to fail” financial institutions.  As long as JP Morgan’s “Dimon Dog” and Lloyd Bankfiend of Goldman Sachs have such firm control over the puppet strings of “Turbo” Tim Geithner, Larry Summers and Ben Bernanke, why pay attention to Paul Volcker?  The voting public (as well as most politicians) can’t understand most of these economic problems, anyway.  I seriously doubt that many of our elected officials could explain the difference between a credit default swap and a wife swap.

Once again, Dan Gerstein of Forbes.com has directed a water cannon of common sense on the malaise blaze that has been fueled by a plague of ignorance.  In his latest piece, Gerstein tossed aside that tattered, obsolete handbook referred to as “conventional wisdom” to take a hard look at the reality facing all incumbent, national politicians:

It’s the stupidity about the economy in Washington and on Wall Street that’s driving most voters berserk.  Indeed, the financial system is still out of whack and tens of millions of people are (or fear they soon could be) out of work, yet every day our political and economic leaders say and do knuckleheaded things that show they are unfailingly and imperviously out of touch with those realities.

Gerstein’s short essay is essential reading for a quick understanding of how and why America can’t seem to solve many of its pressing problems these days.  Gerstein has identified the responsible culprits as three groups:  the Democrats, the Republicans and the big banks — describing them as the “axis of cluelessness”:

We have gone long past “they don’t get it” territory.  It’s now unavoidably clear that they won’t get it — and we won’t get the responsible leadership and honest capitalism we want–until (as I have suggested before) we demand it.

Surprisingly, public awareness concerning the root cause of both the financial crisis and our ongoing economic predicament has escalated to a startling degree in recent weeks.  This past spring, if you wanted to find out about the nefarious activities transpiring at Goldman Sachs, you had to be familiar with Zero Hedge or GoldmanSachs666.com.  Today, you need look no further than Maureen Dowd’s column or the most recent episode of Saturday Night Live.  Everyone knows what the problem is.  Gordon Gekko’s 1987 proclamation that “greed is good” has not only become an acceptable fact of life, it has infected our laws and the opinions rendered by our highest courts.  We are now living with the consequences.

Fortunately, there are plenty of people in the American financial sector who are concerned about the well-being of our society.  A recent study by David Weild and Edward Kim (Capital Markets Advisors at Grant Thornton LLP) entitled “A wake-up call for America” has revealed the tragic consequences resulting from the fact that the United States, when compared with other developed countries, has fallen seriously behind in the number of companies listed on our stock exchanges.  Here’s some of what they had to say:

The United States has been engaged in a longstanding experiment to cut commission and trading costs.  What is lacking in this process is the understanding that higher transaction costs actually subsidized services that supported investors.  Lower transaction costs have ushered in the age of  “Casino Capitalism” by accommodating trading interests and enabling the growth of day traders and high-frequency trading.

The Great Depression in Listings was caused by a confluence of technological, legislative and regulatory events — termed The Great Delisting Machine — that started in 1996, before the 1997 peak year for U.S. listings.  We believe cost cutting advocates have gone overboard in a misguided attempt to benefit investors.  The result — investors, issuers and the economy have all been harmed.

The Grant Thornton study illustrates how and why “as many as 22 million” jobs have been lost since 1997, not to mention the destruction of retirement savings, forcing many people to come out of retirement and back to work.  Beyond that, smaller companies have found it more difficult to survive and business loans have become harder to obtain.

Aside from all the bad news, the report does offer solutions to this crisis:

The solutions offered will help get the U.S. back on track by creating high-quality jobs, driving economic growth, improving U.S. competitiveness, increasing the tax base, and decreasing the U.S. budget deficit — all while not costing the U.S. taxpayer a dime.

These solutions are easily adopted since they:

  • create new capital markets options while preserving current options,
  • expand choice for consumers and issuers,
  • preserve SEC oversight and disclosure, including Sarbanes-Oxley, in the public market solution, and
  • reserve private market participation only to “qualified” investors, thus protecting those investors that  need protection.

These solutions would refocus a significant portion of Wall Street on rebuilding the U.S. economy.

The Grant Thornton website also has a page containing links to the appropriate legislators and a prepared message you can send, urging those legislators to take action to resolve this crisis.

Now is your chance to do something that can help address the many problems with our economy and our financial system.  The people at Grant Thornton were thoughtful enough to facilitate your participation in the resolution of this crisis.  Let the officials in Washington know what their bosses — the people — expect from them.



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Maria Cantwell In The Spotlight

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November 9, 2009

Meghan McCain’s recent lament in The Daily Beast struck me as rather strange.  She really should know better.  Ms. McCain expressed her frustration over mainstream media treatment of “two of the most prominent women in politics — Hillary Clinton and Sarah Palin”.  Ms. McCain felt the coverage received by those two politicians has been so misogynistic that she has nearly given up on the possibility that she may ever see a woman get elected to the Presidency:

It seems to me the male-dominated media suffers from a Goldilocks Syndrome that keeps women from shattering the glass ceiling.  Worse, I fear it will prevent tomorrow’s female leaders from even seeking office.

Of course, if one can see no further than Hillary Clinton or Sarah Palin when seeking female Presidential candidates, then despair is inevitable.  In the summer of 2008, after Ms.Clinton faced up to the reality that Barack Obama had won the Democratic nomination, we heard similar doubts expressed by many despondent female supporters of Hillary Clinton — that they would never see a female elected President within their own lifetimes.  At that point, I wrote apiece entitled “Women To Watch”, reminding readers that “there are a number of women presently in the Senate, who got there without having been married to a former President (whose surname could be relied upon for recognition purposes).”  One of those women, whom I discussed at that time, was Senator Maria Cantwell of Washington.  Maria Cantwell has been in the news quite a bit recently and the coverage has been favorable.  As I said in June of 2008, those holding out hope for a female Presidential candidate should keep an eye on her.

In our highly-partisan political climate, one rarely hears a national politician break from “party line” rhetoric and talking points while being interviewed by the news media or when writing commentary pieces for news publications and blogs.  Nevertheless, Senator Cantwell has taken the bold step of criticizing, not only the administration’s handling of the economic crisis, but the K Street payoff culture enlisting her fellow Democrats as enablers of the status quo.

On October 30, Senator Cantwell wrote a piece for The Huffington Post, decrying the fact that those financial institutions benefiting from the massive bailouts from TARP and the Federal Reserve “have resumed their old habit of using other people’s money to gamble with the same risky unregulated derivatives that led us into this crisis.”  The reason for the failure at every level of the federal government to even consider appropriate legislation or regulations to rein-in continuing irresponsible behavior by those institutions was candidly discussed by the Senator:

Look no further than the powerful lobbying arm of the financial services sector, which has spent at least $220 million this year lobbying Congress to stave off new rules to prevent another collapse.  That is over $500,000 in lobbying for every member of Congress, which might help explain why, to date, nothing has been fixed in our porous financial regulatory system.  Americans want to know when Congress will put an end to the Wall Street’s secret off-book gambling schemes and restore our capitalist system by requiring real transparency and true competition.

Senator Cantwell’s essay is essential reading, coming on the heels of a rebuke, by her fellow Democrats, against efforts at requiring transparency in the trading of credit default swaps:

Imposing full transparency and true competition will require moving derivative trades onto regulated exchanges.  That would mean full transparency of trading prices and volumes, reporting requirements for large trader positions, and adequate capital reserves to protect against a default.  The government needs full anti-fraud and anti-manipulation authority.  Giving regulators this power will ensure a transparent and competitive marketplace and will ensure that violators will go to jail.

On November 2, Senator Cantwell appeared on MSNBC’s Morning Meeting with Dylan Ratigan.  At that time, Mr. Ratigan had just written a piece for The Business Insider, expressing his outrage about recent statements by Treasury Secretary “Turbo” Tim Geithner, supporting House bank reform legislation allowing credit default swaps to continue being traded in secret.  Since Senator Cantwell had previously discussed that subject with him on October 16, Mr. Ratigan focused on Geithner.  Ratigan noted Geithner’s endorsement of the proposed House “banking  reform” legislation on the previous day’s broadcast of Meet The Press — despite the bill’s “massive exemptions” allowing opacity in the trading of credit default swaps.  Ratigan then asked Senator Cantwell why Tim Geithner still has a job, to which she replied:

I’m not sure because David Gregory had him almost — trying to get a straight answer out of him.  What the Treasury Secretary basically said was:  yes, banks should take more risks and we should continue the loopholes — and that is really appalling because, right now, we know that lack of transparency has caused this problem with the U.S. economy and Wall Street is continuing, one year later, continuing the same kind of loopholes.  And so if the Treasury Secretary doesn’t come down hard against these loopholes and advocate foreclosing them, then we’re going to have a tough time closing them in Congress.  So the Treasury Secretary is dodging the issue.

Senator Cantwell sure isn’t dodging any issues.  Beyond that, she is demonstrating that she has more cajones than any of her male counterparts in the Senate.  So far, all of the publicity concerning her position on financial reform has been favorable.  After all, she is boldly standing up to the lobbyists, the Congress they own and a White House that received nearly a million dollars in campaign contributions from Goldman Sachs.

Back in Senator Cantwell’s home state of Washington, The Seattle Times praised her co-sponsorship of Senate Bill 823, the Net Operating Loss Carryback Act, which has already been passed by both houses of Congress.  This bill increases the corporate income tax refunds for businesses that were making money during the pre-2008 era but now operate at a loss.  As the Seattle Times editorial explained:

The national unemployment rate is still rising.  It has just gone double-digit for the first time in 26 years, and is at 10.2 percent.

This is not recovery.

The new law does not have taxpayers underwrite credit default swaps or any of the other alchemic creations of Wall Street investment banks.  It is not more aid and comfort for the nationalized and quasi-nationalized corporate giants; it specifically exempts Fannie Mae, Freddie Mac and any company in which the Treasury has recently become an owner.

This law is for the businesses that suffer in the recession, not the ones that caused it.  It is one of the few things Congress has done that reaches directly to Main Street America. It is a big deal to many local businesses, including businesses here.

Congratulations, Senator Cantwell!

To Meghan McCain and other women remaining in doubt as to whether they will ever see a female sworn in as President:  Just keep watching Maria Cantwell as she continues to earn well-deserved respect.



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Avoiding The Kool-Aid

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November 5, 2009

Ask NOT what your country can do for you  —

But ask what your country can do for its largest banks.

—  “Turbo” Tim

All right  .  . .  “Turbo” Tim Geithner didn’t really say that (yet) but we’ve all seen how his actions affirm that doctrine.  Former federal banking regulator, Professor William Black, recently criticized Geithner for not protecting the taxpayers when Turbo Tim bailed out CIT Group to the tune of 2.4 billion dollars this past summer.  CIT has now filed for bankruptcy.  Henry Blodget of The Business Insider described Professor Black’s outrage over this situation:

The government was in no way obligated to lend the struggling CIT money and, in fact, initially refused to provide it bailout funds.  More importantly, being the lender of last resort, the government should have guaranteed we’d be the first to get paid if CIT eventually filed Chapter 11.  By failing to do so, “it’s like he [Geithner] burned billions of dollars again in government money, our money, gratuitously,” says Black.

After Tuesday’s election defeats for the Democrats in two gubernatorial races, the subject of “bailout fatigue” has been getting more attention.

Acting under the pretext of “transparency” the Obama administration has developed a strategy of holding meetings for people and groups with whom the administration knows it is losing credibility.  Jane Hamsher of FiredogLake.com has written about the Obama team’s efforts to keep the disaffected Left under control by corralling these groups into what Hamsher calls “the veal pen”.  She described one meeting wherein Rahm Emanuel used the expression “f**king stupid” in reference to the critics of those Democrats opposing the public option in proposed healthcare reform legislation.

A different format was followed at what appeared to be a “message control” conference, held on Monday at the Treasury Department.  This time, the guest list was comprised of a politically diverse group of financial bloggers.  One attendee, Yves Smith of Naked Capitalism, described the meeting as “curious”:

None of us knew in advance how many attendees there would be; there were eight of us at a two-hour session, Interfluidity, Marginal Revolution, Kid Dynamite’s World, Across the Curve, Financial Armageddon, Accrued Interest, and Aleph (and of course, others may have been invited who had scheduling conflicts).

*   *   *

It wasn’t obvious what the objective of the meeting was (aside the obvious idea that if they were nice to us we might reciprocate.  Unfortunately, some of us are not housebroken).  I will give them credit for having the session be almost entirely a Q&A, not much in the way of presentation.  One official made some remarks about the state of financial institutions; later another said a few things about regulatory reform.  The funniest moment was when, right after the spiel on regulatory reform, Steve Waldman said, “I’ve read your bill and I think it’s terrible.”  They did offer to go over it with him.  It will be interesting to see if that happens.

*   *   *

My bottom line is that the people we met are very cognitively captured, assuming one can take their remarks at face value.  Although they kept stressing all the things that had changed or they were planning to change, the polite pushback from pretty all the attendees was that what Treasury thought of as major progress was insufficient.

*   *   *

Several of us raised questions about whether what their vision for the industry’s structure was and that the objective seemed to be to restore the financial system that got us in trouble in the first place.

Michael Panzner of Financial Armageddon and When Giants Fall adopted Ms. Smith’s description of the event, adding a few observations of his own:

  • . . . it wasn’t clear that there was a “plan B” in place if things do not recover in 2010 as many mainstream analysts expect.  In fact, the suggestion from one official was that the tenure of the current crisis would likely be nearer the shorter end of expectations.
  • There was also a bit of a disconnect between the remarks various Treasury officials have made in public forums and what was said at the meeting.  … Yesterday, however, a number of those present clearly acknowledged that things could (still) go wrong and said such fears kept them awake at night.  While that is not unusual in and of itself, at the very least it adds to doubts I and others have expressed about the true state of the financial system and the economy.
  • Finally, the meeting seemed to confirm the strong grip that Wall Street has on the levers of legislative power.

The most informative rendition of the events at the conclave came from Kid Dynamite, whose two-part narrative began with a look at how Michael Panzner interrupted a Treasury official who was describing the Treasury’s current focus “on reducing the footprint of economic intervention cautiously, quickly and prudently”:

Michael Panzner jumped right in, addressing a concept I’ve written about previously – that of  “extend and pretend,” or “delay and pray” – the concept of attempting to avoid recognizing actual losses and or insolvencies, and growing out of them after enough time.  Panzner called it “fake it ‘till you make it.”  I mentioned that I felt like we were undergoing a “Ponzi scheme of confidence” – but that confidence mattered less than ever in the current environment where, contrary to perhaps the prior 10 years, confidence can no longer be “spent.”

Kid Dynamite’s report contained too many great passages for me to quote here without running on excessively.  Just be sure to read his entire report, including Part II (which should be posted by the time you read this).

David Merkel of The Aleph Blog also submitted a two-part report (so far — with more to come) although Part 2 is more informative.  Here are some highlights:

As all bloggers there will note, those from the Treasury were kind, intelligent, funny … they were real people, unlike the common tendency to demonize those in DC.

*   *   *

To the Treasury I would say, “Markets are inherently unstable, and that is a good thing.”  They often have to adjust to severe changes in the human condition, and governmental attempts to tame markets may result in calm for a time, and a tsunami thereafter.

*   *   *

As for the bank stress-testing, one can look at it two ways: 1) the way I looked at it at the time — short on details, many generalities, not trusting the results.  (Remember, I have done many such analyses myself for insurers.) or, 2) something that gave confidence to the markets when they were in an oversold state.  Duh, but I was dumb — the oversold market rallied when it learned that the Treasury had its back.

John Jansen from Across The Curve included his report on the meeting within his usual morning posting concerning the bond market on November 4.   In a subsequent posting that afternoon, he referred his readers to the Kid Dynamite report.  Here’s what Mr. Jansen did say about the event:

. . .  those officials expressed real concern about the downside risks to the economy (as did blogger Michael Panzner of Financial Armageddon) and since I think that the relationship between the Treasury and the Federal Reserve has morphed into something somewhat incestuous I suspect that the Federal Reserve will not jump off the reservation and take the first baby steps to exiting its easy money policy.

The report at the Accrued Interest blog drew some hostile comments from readers who seemed convinced that Accrued was the only blogger there who actually drank the Kool-Aid being served by the Treasury.  Their reaction was easily understandable after reading this remark (which followed a breach of protocol with the admission that Turbo Tim was there in the flesh):

It was a fascinating experience and I have to admit, it was just plain cool to be within the bowels of power like that.

Huh?  All I can say is:  If you like being in powerful bowels, just take a cruise over to duPont Circle.  Actually — it was at his next statement where he lost me:

I am also on record as saying that Geithner was a good choice for Treasury secretary.

— and then it was all downhill from there.

The administration’s “charm offensive” has moved to the dicey issue of financial reform, where it is drawing criticism from across the political spectrum.  Given the fact that they have all but admitted to a strategy of simply reading The Secret and willing everything to get better by their positive thoughts  — Michael Panzner might as well start writing Financial Armageddon — The Sequel.



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The Weakest Link

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November 2, 2009

Everything was supposed to be getting “back to normal” by now.  Since late July, we’ve been hearing that the recession is over.  When the Gross Domestic Product number for the third quarter was released on Thursday, we again heard the ejaculations of enthusiasm from those insisting that the recession has ended.  Investors were willing to overlook the most recent estimate that another 531,000 jobs were lost during the month of October, so the stock market got a boost.  Nevertheless, as was widely reported, the Cash for Clunkers program added 1.66 percent to the 3.5 percent Gross Domestic Product annualized rate increase.  Since Cash for Clunkers was a short-lived event, something else will be necessary to fill its place, stimulating economic activity.  Once that sobering aspect of the story was absorbed, Friday morning’s news informed us that consumer spending had dropped for the first time in five months.  The Associated Press provided this report:

Economists worry that the recovery could falter in coming months if households cut back on spending to cope with rising unemployment, heavy debt loads and tight credit conditions.

“With incomes so soft, increased spending will be a struggle,” Ian Shepherdson, chief U.S.economist at High Frequency Economics, wrote in a note to clients.

The Commerce Department said Friday that spending dropped 0.5% in September, the first decline in five months.  Personal incomes were unchanged as workers contend with rising unemployment.  Wages and salaries fell 0.2%, erasing a 0.2% gain in August.

Another report showed that employers face little pressure to raise pay, even as the economy recovers.  The weak labor market makes it difficult for people with jobs to demand higher pay and benefits.

*   *   *

. . .  some economists believe that consumer spending will slow sharply in the current quarter, lowering GDP growth to perhaps 1.5%.  Analysts said the risk of a double-dip recession cannot be ruled out over the next year.

With unemployment as bad as it is, those who have jobs need to be mindful of the Sword of Damocles, as it hangs perilously over their heads.  As the AP report indicated, employers are now in an ideal position to exploit their work force.  Worse yet, as Mish pointed out:

Personal income decreased $15.5 billion (0.5 percent), while real disposable personal income decreased 3.4 percent, in contrast to an increase of 3.8 percent last quarter. Those are horrible numbers.

The war on the American consumer finally bit Wall Street in the ass on Friday when the S&P 500 index took a 2.8 percent nosedive.  When mass layoffs become the magic solution to make dismal corporate earnings reports appear positive, when the consumer is treated as a chump by regulatory agencies, lobbyists and government leaders, the consumer stops fulfilling the designated role of consuming.  When that happens, the economy stands still.  As Renae Merle reported for The Washington Post:

“The government handed the ball off to the consumer and the consumer fell on it,” said Robert G. Smith, chairman of Smith Affiliated Capital in New York. “This is a function of there being no jobs and wages going lower.”

The sell-off on the stock market also reflected a report released Friday showing a decline in consumer sentiment this month, analysts said.  The Reuters/University of Michigan consumer sentiment index fell to 70.6 in October, compared with 73.5 in September.

Rich Miller of Bloomberg News discussed the resulting apprehension experienced by investors:

Only 31 percent of respondents to a poll of investors and analysts who are Bloomberg subscribers in the U.S., Europe and Asia see investment opportunities, down from 35 percent in the previous survey in July.  Almost 40 percent in the latest quarterly survey, the Bloomberg Global Poll, say they are still hunkering down.  U.S. investors are even more cautious, with more than 50 percent saying they are in a defensive crouch.

*   *   *

Worldwide, investors and analysts now view the U.S. as the weak link in the global economy, with its markets seen as among the riskiest by a plurality of those surveyed.  One in four respondents expects an unemployment rate of 11 percent or more a year from now, compared with a U.S. administration forecast of 9.7 percent.  The jobless rate now is 9.8 percent, a 26-year high.

Even before the release of “good news” on Thursday followed by Friday’s bad news, stock analysts who base their trading decisions primarily on reading charts, could detect indications of continuing market decline, as Michael Kahn explained for Barron’s last Wednesday.

Meanwhile, the Obama administration’s response to the economic crisis continues to generate criticism from across the political spectrum while breeding dissent from within.  As I said last month, the administration’s current strategy is a clear breach of candidate Obama’s campaign promise of “no more trickle-down economics”.  The widespread opposition to the administration’s proposed legislation to regulate (read that: placate) large financial companies was discussed by Stephen Labaton for The New York Times:

Senior regulators and some lawmakers clashed once again with the Obama administration on Thursday, finding fault with central elements of the White House’s latest plan to unwind large financial companies when their troubles imperil the financial system.

The Times article focused on criticism of the administration’s plan, expressed by Sheila Bair, chairwoman of the Federal Deposit Insurance Corporation.  As Mr.Labaton noted, shortly after Mr. Obama was elected President, Turbo Tim Geithner began an unsuccessful campaign to have Ms. Bair replaced.

On Friday, economist James K. Galbraith was interviewed by Bill Moyers.  Here’s what Professor Galbraith had to say about the Obama administration’s response to the economic crisis:

They made a start, and certainly in the stimulus package, there were important initiatives.  But the stimulus package is framed as a stimulus, as something which is temporary, which will go away after a couple of years.  And that is not the way to proceed here.  The overwhelming emphasis, in the administration’s program, I think, has been to return things to a condition of normalcy, to use a 1920s word, that prevailed five and ten years ago.  That is to say, we’re back to a world in which Wall Street and the major banks are leading, and setting the path–

*   *   *

. . . they’ve largely been preoccupied with keeping the existing system from collapsing.  And the government is powerful.  It has substantially succeeded at that, but you really have to think about, do you want to have a financial sector dominated by a small number of very large institutions, very difficult to manage, practically impossible to regulate, and ruled by, essentially, the same people and the same culture that caused the crisis in the first place.

BILL MOYERS:  Well, that’s what we’re getting, because after all of the mergers, shakedowns, losses of the last year, you have five monster financial institutions really driving the system, right?

JAMES GALBRAITH:  And they’re highly profitable, and they are already paying, in some cases, extraordinary bonuses.  And you have an enormous problem, as the public sees very clearly that a very small number of people really have been kept afloat by public action .  And yet there is no visible benefit to people who are looking for jobs or people who are looking to try and save their houses or to somehow get out of a catastrophic personal debt situation that they’re in.

This is just another illustration of how “trickle down economics” doesn’t work.  President Obama knows better.  He told us that he would not follow that path.  Yet, here we are:  a country viewed as the weak link in the global economy because the well-being of those institutions considered “too big to fail” is the paramount concern of this administration.



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