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Geithner Gets Bashed in New Book

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Much has been written about “Turbo” Tim Geithner since he first became Treasury Secretary on January 26, 2009.  In his book, Too Big to Fail, Andrew Ross Sorkin wrote adoringly about Geithner’s athletic expertise.  On the other hand, typing “Turbo Tim Geithner” into the space on the upper-right corner of this page and clicking on the little magnifying glass will lead you to no less than 61 essays wherein I saw fit to criticize the Treasury Secretary.  I first coined the “Turbo” nickname on February 9, 2009 and on February 16 of that year I began linking “Turbo” to an explanatory article, for those who did not understand the reference.

Geithner has never lacked defenders.  The March 10, 2010 issue of The New Yorker ran an article by John Cassidy entitled, “No Credit”.  The title was meant to imply that Getithner’s efforts to save America’s financial system were working, although he was not getting any credit for this achievement.  From the very outset, the New Yorker piece was obviously an attempt to reconstruct Geithner’s controversial public image – because he had been widely criticized as a tool of Wall Street.

Edward Harrison of Credit Writedowns dismissed the New Yorker article as “an out and out puff piece” that Geithner himself could have written:

Don’t be fooled; this is a clear plant to help bolster public opinion for a bailout and transfer of wealth, which was both unnecessary and politically damaging.

Another article on Geithner, appearing in the April 2010 issue of The Atlantic, was described by Edward Harrison as “fairly even-handed” although worthy of extensive criticism.  Nevertheless, after reading the following passage from the first page of the essay, I found it difficult to avoid using the terms “fawning and sycophantic” to describe it:

In the course of many interviews about Geithner, two qualities came up again and again.  The first was his extraordinary quickness of mind and talent for elucidating whatever issue was the preoccupying concern of the moment.  Second was his athleticism.  Unprompted by me, friends and colleagues extolled his skill and grace at windsurfing, tennis, basketball, running, snowboarding, and softball (specifying his prowess at shortstop and in center field, as well as at the plate).  He inspires an adolescent awe in male colleagues.

Gawd!  Yeech!

In November of 2008, President George W. Bush appointed Neil M. Barofsky to the newly-established position, Special Inspector General for the Troubled Asset Relief Program (SIGTARP).  Barofsky was responsible for preventing fraud, waste and abuse involving TARP operations and funds.  From his first days on that job, Neil Barofsky found Timothy Geithner to be his main opponent.  On March 31 of 2009, the Senate Finance Committee held a hearing on the oversight of TARP.  The hearing included testimony by Neil Barofsky, who explained how the Treasury Department had been interfering with his efforts to ascertain what was being done with TARP funds which had been distributed to the banks.  Matthew Jaffe of ABC News described Barofsky’s frustration in attempting to get past the Treasury Department’s roadblocks.

On the eve of his retirement from the position of Special Inspector General for TARP (SIGTARP), Neil Barofsky wrote an op-ed piece for the March 30, 2011 edition of The New York Times entitled, “Where the Bailout Went Wrong”.  Barofsky devoted a good portion of the essay to a discussion of the Obama administration’s failure to make good on its promises of “financial reform”, with a particular focus on the Treasury Department:

Worse, Treasury apparently has chosen to ignore rather than support real efforts at reform, such as those advocated by Sheila Bair, the chairwoman of the Federal Deposit Insurance Corporation, to simplify or shrink the most complex financial institutions.

In the final analysis, it has been Treasury’s broken promises that have turned TARP — which was instrumental in saving the financial system at a relatively modest cost to taxpayers — into a program commonly viewed as little more than a giveaway to Wall Street executives.

It wasn’t meant to be that.  Indeed, Treasury’s mismanagement of TARP and its disregard for TARP’s Main Street goals — whether born of incompetence, timidity in the face of a crisis or a mindset too closely aligned with the banks it was supposed to rein in — may have so damaged the credibility of the government as a whole that future policy makers may be politically unable to take the necessary steps to save the system the next time a crisis arises.  This avoidable political reality might just be TARP’s most lasting, and unfortunate, legacy.

It should come as no surprise that in Neil Barofsky’s new book, Bailout: An Inside Account of How Washington Abandoned Main Street While Rescuing Wall Street, the author pulls no punches in his criticism of Timothy Geithner.  Barofsky has been feeding us some morsels of what to expect from the book by way of some recent articles in Bloomberg News.  Here is some of what Barofsky wrote for Bloomberg on July 22:

More important, the financial markets continue to bet that the government will once again come to the big banks’ rescue.  Creditors still give the largest banks more favorable terms than their smaller counterparts — a direct subsidy to those that are already deemed too big to fail, and an incentive for others to try to join the club.  Similarly, the major banks are given better credit ratings based on the assumption that they will be bailed out.

*   *   *

The missteps by Treasury have produced a valuable byproduct: the widespread anger that may contain the only hope for meaningful reform. Americans should lose faith in their government.  They should deplore the captured politicians and regulators who distributed tax dollars to the banks without insisting that they be accountable.  The American people should be revolted by a financial system that rewards failure and protects those who drove it to the point of collapse and will undoubtedly do so again.

Only with this appropriate and justified rage can we hope for the type of reform that will one day break our system free from the corrupting grasp of the megabanks.

In his review of Barofsky’s new book, Darrell Delamaide of MarketWatch discussed the smackdown Geithner received from Barofsky:

Barofsky may have an axe to grind, but he grinds it well, portraying Geithner as a dissembling bureaucrat in thrall to the banks and reminding us all that President Barack Obama’s selection of Geithner as his top economic official may have been one of his biggest mistakes, and a major reason the White House incumbent has to fight so hard for re-election.

From his willingness to bail out the banks with virtually no accountability, to his failure to make holders of credit default swaps on AIG take a haircut, to his inability to mount any effective program for mortgage relief, Geithner systematically favored Wall Street over Main Street and created much of the public’s malaise in the aftermath of the crisis.

*    *    *

Barofsky, a former prosecutor, relates that he rooted for Geithner to get the Treasury appointment and was initially willing to give him the benefit of the doubt when it emerged that he had misreported his taxes while he worked at the International Monetary Fund.

But as more details on those unpaid taxes came out and Geithner’s explanations seemed increasingly disingenuous, Barofsky had his first doubts about the secretary-designate.

Barofsky, of course, was not alone in his skepticism, and Geithner’s credibility was damaged from the very beginning by the disclosures about his unpaid taxes.

*   *   *

Barofsky concludes his scathing condemnation of Geithner’s “bank-centric policies” by finding some silver lining in the cloud – that the very scale of the government’s failure will make people angry enough to demand reform.

Once Geithner steps down from his position at the end of the year, we may find that his legacy is defined by Neil Barofsky’s book, rather than any claimed rescue of the financial system.


 

Manifesto

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For the past few years, a central mission of this blog has been to focus on Washington’s unending efforts to protect, pamper and bail out the Wall Street megabanks at taxpayer expense.  From Maiden Lane III to TARP and through countless “backdoor bailouts”, the Federal Reserve and the Treasury Department have been pumping money into businesses which should have gone bankrupt in 2008.  Worse yet, President Obama and Attorney General Eric Hold-harmless have expressed no interest in bringing charges against those miscreants responsible for causing the financial crisis.  The Federal Reserve’s latest update to its Survey of Consumer Finances for 2010 revealed that during the period of 2007-2010, the median family net worth declined by a whopping thirty-eight percent.  Despite the massive extent of wealth destruction caused by the financial crisis, our government is doing nothing about it.

I have always been a fan of economist John Hussman of the Hussman Funds, whose Weekly Market Comment essays are frequently referenced on this website.  Professor Hussman’s most recent piece, “The Heart of the Matter” serves as a manifesto of how the financial crisis was caused, why nothing was done about it and why it is happening again both in the United States and in Europe.  Beyond that, Professor Hussman offers some suggestions for remedying this unaddressed and unresolved set of circumstances.  It is difficult to single out a passage to quote because every word of Hussman’s latest Market Comment is precious.  Be sure to read it.  What I present here are some hints as to the significance of this important essay:

The ongoing debate about the economy continues along largely partisan lines, with conservatives arguing that taxes just aren’t low enough, and the economy should be freed of regulations, while liberals argue that the economy needs larger government programs and grand stimulus initiatives.

Lost in this debate is any recognition of the problem that lies at the heart of the matter:  a warped financial system, both in the U.S. and globally, that directs scarce capital to speculative and unproductive uses, and refuses to restructure debt once that debt has gone bad.

Specifically, over the past 15 years, the global financial system – encouraged by misguided policy and short-sighted monetary interventions – has lost its function of directing scarce capital toward projects that enhance the world’s standard of living. Instead, the financial system has been transformed into a self-serving, grotesque casino that misallocates scarce savings, begs for and encourages speculative bubbles, refuses to restructure bad debt, and demands that the most reckless stewards of capital should be rewarded through bailouts that transfer bad debt from private balance sheets to the public balance sheet.

*   *   *

By our analysis, the U.S. economy is presently entering a recession.  Not next year; not later this year; but now.  We expect this to become increasingly evident in the coming months, but through a constant process of denial in which every deterioration is dismissed as transitory, and every positive outlier is celebrated as a resumption of growth.  To a large extent, this downturn is a “boomerang” from the credit crisis we experienced several years ago.  The chain of events is as follows:

Financial deregulation and monetary negligence -> Housing bubble -> Credit crisis marked by failure to restructure bad debt -> Global recession -> Government deficits in U.S. and globally -> Conflict between single currency and disparate fiscal policies in Europe -> Austerity -> European recession and credit strains -> Global recession.

In effect, we’re going into another recession because we never effectively addressed the problems that produced the first one, leaving us unusually vulnerable to aftershocks.  Our economic malaise is the result of a whole chain of bad decisions that have distorted the financial markets in ways that make recurring crisis inevitable.

*   *   *

Every major bank is funded partially by depositors, but those deposits typically represent only about 60% of the funding.  The rest is debt to the bank’s own bondholders, and equity of its stockholders.  When a country like Spain goes in to save a failing bank like Bankia – and does so by buying stock in the bank – the government is putting its citizens in a “first loss” position that protects the bondholders at public expense.  This has been called “nationalization” because Spain now owns most of the stock, but the rescue has no element of restructuring at all.  All of the bank’s liabilities – even to its own bondholders – are protected at public expense.  So in order to defend bank bondholders, Spain is increasing the public debt burden of its own citizens.  This approach is madness, because Spain’s citizens will ultimately suffer the consequences by eventual budget austerity or risk of government debt default.

The way to restructure a bank is to take it into receivership, write down the bad assets, wipe out the stockholders and much of the subordinated debt, and then recapitalize the remaining entity by selling it back into the private market.  Depositors don’t lose a dime.  While the U.S. appropriately restructured General Motors – wiping out stock, renegotiating contracts, and subjecting bondholders to haircuts – the banking system was largely untouched.

*   *   *

If it seems as if the global economy has learned nothing, it is because evidently the global economy has learned nothing.  The right thing to do, again, is to take receivership of insolvent banks and wipe out the stock and subordinated debt, using the borrowed funds to protect depositors in the event that the losses run deep enough to eat through the intervening layers of liabilities (which is doubtful), and otherwise using the borrowed funds to stimulate the economy after the restructuring occurs.  We’re going to keep having crises until global leaders recognize that short of creating hyperinflation (which also subordinates the public, in this case by destroying the value of currency), there is no substitute for debt restructuring.

For some insight as to why the American megabanks were never taken into temporary receivership, it is useful to look back to February of 2010 when Michael Shedlock (a/k/a“Mish”) provided us with a handy summary of the 224-page Quarterly Report from SIGTARP (the Special Investigator General for TARP — Neil Barofsky).  My favorite comment from Mish appeared near the conclusion of his summary:

Clearly TARP was a complete failure, that is assuming the goals of TARP were as stated.

My belief is the benefits of TARP and the entire alphabet soup of lending facilities was not as stated by Bernanke and Geithner, but rather to shift as much responsibility as quickly as possible on to the backs of taxpayers while trumping up nonsensical benefits of doing so.  This was done to bail out the banks at any and all cost to the taxpayers.

Was this a huge conspiracy by the Fed and Treasury to benefit the banks at taxpayer expense?  Of course it was, and the conspiracy is unraveling as documented in this report and as documented in AIG Coverup Conspiracy Unravels.

On January 29 2010, David Reilly wrote an article for Bloomberg BusinessWeek concerning the previous week’s hearing before the House Committee on Oversight and Government Reform.  After quoting from Reilly’s article, Mish made this observation:

Most know I am not a big believer in conspiracies.  I regularly dismiss them.  However, this one was clear from the beginning and like all massive conspiracies, it is now in the light of day.

David Reilly began the Bloomberg Business Week piece this way:

The idea of secret banking cabals that control the country and global economy are a given among conspiracy theorists who stockpile ammo, bottled water and peanut butter.  After this week’s congressional hearing into the bailout of American International Group Inc., you have to wonder if those folks are crazy after all.

Wednesday’s hearing described a secretive group deploying billions of dollars to favored banks, operating with little oversight by the public or elected officials.

That “secretive group” is The Federal Reserve of New York, whose president at the time of the AIG bailout was “Turbo” Tim Geithner.  David Reilly’s disgust at the hearing’s revelations became apparent from the tone of his article:

By pursuing this line of inquiry, the hearing revealed some of the inner workings of the New York Fed and the outsized role it plays in banking.  This insight is especially valuable given that the New York Fed is a quasi-governmental institution that isn’t subject to citizen intrusions such as freedom of information requests, unlike the Federal Reserve.

At least in the Eurozone there is fear that the taxpayers will never submit to enhanced economic austerity measures, which would force the citizenry into an impoverished existence so that their increased tax burden could pay off the debts incurred by irresponsible bankers.  In the United States there is no such concern.  The public is much more compliant.  Whether that will change is anyone’s guess.


 

Discipline Problem

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At the conclusion of a single, five-year term as Chair of the Federal Deposit Insurance Corporation (FDIC) Sheila Bair is calling it quits.  One can hardly blame her.  It must have been one hell of an experience:  Warning about the hazards of the subprime mortgage market, being ignored and watching the consequences unfold . . .  followed by a painful, weekly ritual, which gave birth to a website called Bank Fail Friday.

Bair’s tenure at the helm of the FDIC has been – and will continue to be – the subject of some great reading.  On her final day at the FDIC (July 8) The Washington Post published an opinion piece by Ms. Bair in which she warned that short-term, goal-directed thinking could bring about another financial crisis.  She also had something to brag about.  Despite the efforts of Attorney General Eric Hold-harmless and the Obama administration to ignore the malefaction which brought about the financial crisis and allowed the Wall Street villains to profiteer from that catastrophe, Bair’s FDIC actually stepped up to the plate:

This past week, the FDIC adopted a rule that allows the agency to claw back two years’ worth of compensation from senior executives and managers responsible for the collapse of a systemic, non-bank financial firm.

To date, the FDIC has authorized suits against 248 directors and officers of failed banks for shirking their fiduciary duties, seeking at least $6.8 billion in damages.  The rationales the executives come up with to try to escape accountability for their actions never cease to amaze me.  They blame the failure of their institutions on market forces, on “dead-beat borrowers,” on regulators, on space aliens.  They will reach for any excuse to avoid responsibility.

Mortgage brokers and the issuers of mortgage-based securities were typically paid based on volume, and they responded to these incentives by making millions of risky loans, then moving on to new jobs long before defaults and foreclosures reached record levels.

The difference between Sheila Bair’s approach to the financial/economic crisis and that of the Obama Administration (whose point man has been Treasury Secretary “Turbo” Tim Geithner) was analyzed in a great article by Joe Nocera of The New York Times entitled, “Sheila Bair’s Bank Shot”.  The piece was based on Nocera’s “exit interview” with the departing FDIC Chair.  Throughout that essay, Nocera underscored Bair’s emphasis on “market discipline” – which he contrasted with Geithner’s fanatic embrace of the exact opposite:  “moral hazard” (which Geithner first exhibited at the onset of the crisis while serving as President of the Federal Reserve of New York).  Nocera made this point early in the piece:

On financial matters, she seemed to have better political instincts than Obama’s Treasury Department, which of course is now headed by Geithner.  She favored “market discipline” – meaning shareholders and debt holders would take losses ahead of depositors and taxpayers – over bailouts, which she abhorred.  She didn’t spend a lot of time fretting over bank profitability; if banks had to become less profitable, postcrisis, in order to reduce the threat they posed to the system, so be it.  (“Our job is to protect bank customers, not banks,” she told me.)

Bair’s discussion of those early, panic-filled days during September 2008 is consistent with reports we have read about Geithner elsewhere.  This passage from Nocera’s article is one such example:

For instance, during the peak of the crisis, with credit markets largely frozen, banks found themselves unable to roll over their short-term debt.  This made it virtually impossible for them to function.  Geithner wanted the F.D.I.C. to guarantee literally all debt issued by the big bank-holding companies – an eye-popping request.

Bair said no.  Besides the risk it would have entailed, it would have also meant a windfall for bondholders, because much of the existing debt was trading at a steep discount.  “It was unnecessary,” she said.  Instead, Bair and Paulson worked out a deal in which the F.D.I.C. guaranteed only new debt issued by the bank-holding companies.  It was still a huge risk for the F.D.I.C. to take; Paulson says today that it was one of the most important, if underrated, actions taken by the federal government during the crisis.  “It was an extraordinary thing for us to do,” Bair acknowledged.

Back in April of 2009, the newly-appointed Treasury Secretary met with similar criticism in this great article by Jo Becker and Gretchen Morgenson at The New York Times:

Last June, with a financial hurricane gathering force, Treasury Secretary Henry M. Paulson, Jr. convened the nation’s economic stewards for a brainstorming session.  What emergency powers might the government want at its disposal to confront the crisis? he asked.

Timothy F. Geithner, who as president of the New York Federal Reserve Bank oversaw many of the nation’s most powerful financial institutions, stunned the group with the audacity of his answer.  He proposed asking Congress to give the president broad power to guarantee all the debt in the banking system, according to two participants, including Michele Davis, then an assistant Treasury secretary.

The proposal quickly died amid protests that it was politically untenable because it could put taxpayers on the hook for trillions of dollars.

“People thought, ‘Wow, that’s kind of out there,’ ” said John C. Dugan, the comptroller of the currency, who heard about the idea afterward.  Mr. Geithner says, “I don’t remember a serious discussion on that proposal then.”

But in the 10 months since then, the government has in many ways embraced his blue-sky prescription.  Step by step, through an array of new programs, the Federal Reserve and Treasury have assumed an unprecedented role in the banking system, using unprecedented amounts of taxpayer money, to try to save the nation’s financiers from their own mistakes.

Geithner’s utter contempt for market discipline again became a subject of the Nocera-Bair interview when the conversation turned to the infamous Maiden Lane III bailouts.

“I’ve always wondered why none of A.I.G.’s counterparties didn’t have to take any haircuts.  There’s no reason in the world why those swap counterparties couldn’t have taken a 10 percent haircut.  There could have at least been a little pain for them.”  (All of A.I.G.’s counterparties received 100 cents on the dollar after the government pumped billions into A.I.G.  There was a huge outcry when it was revealed that Goldman Sachs received more than $12 billion as a counterparty to A.I.G. swaps.)

Bair continued:  “They didn’t even engage in conversation about that.  You know, Wall Street barely missed a beat with their bonuses.”

“Isn’t that ridiculous?” she said.

This article by Gretchen Morgenson provides more detail about Geithner’s determination that AIG’s counterparties receive 100 cents on the dollar.  For Goldman Sachs – it amounted to $12.9 billion which was never repaid to the taxpayers.  They can brag all they want about paying back TARP – but Maiden Lane III was a gift.

I was surprised that Sheila Bair – as a Republican – would exhibit the same sort of “true believer-ism” about Barack Obama as voiced by many Democrats who blamed Rahm Emanuel for the early disappointments of the Obama administration.  Near the end of Nocera’s interview, Bair appeared taken-in by Obama’s “plausible deniability” defense:

“I think the president’s heart is in the right place,” Bair told me.  “I absolutely do.  But the dichotomy between who he selected to run his economic team and what he personally would like them to be doing – I think those are two very different things.”  What particularly galls her is that Treasury under both Paulson and Geithner has been willing to take all sorts of criticism to help the banks.  But it has been utterly unwilling to take any political heat to help homeowners.

The second key issue for Bair has been dealing with the too-big-to-fail banks. Her distaste for the idea that the systemically important banks can never be allowed to fail is visceral.  “I don’t think regulators can adequately regulate these big banks,” she told me.  “We need market discipline.  And if we don’t have that, they’re going to get us in trouble again.”

If Sheila Bair’s concern is valid, the Obama administration’s track record for market discipline has us on a certain trajectory for another financial crisis.


Another Cartoon For The Bernank To Hate

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Those of us who found it necessary to explain quantitative easing during the course of a blog posting, have struggled with creating our own definitions of the term.  On October 18, 2010, I started using this one:

Quantitative easing involves the Federal Reserve’s purchase of Treasury securities as well as mortgage-backed securities from those privileged, too-big-to-fail banks.

What I failed to include in that description was the fact that the Fed was printing money to make those purchases.  I eventually resorted to simply linking the term to the definition of quantitative easing at Wikipedia.org.

Suddenly, in November of 2010, a cartoon – posted on YouTube – became an overnight sensation.  It was a 6-minute discussion between two little bears, which explained how “The Ben Bernank” was trying to fix a broken economy by breaking it more.

We eventually learned a few things about the cartoon’s creator, Omid Malekan, who produced the clip for free on the xtranormal.com website.  Kevin Depew, the Editor-in-Chief of Minyanville, interviewed Malekan within days of the cartoon’s debut.  Malekan expressed his disgust with what he described as “the Washington-Wall Street Complex” and the revolving door between the financial industry and those agencies tasked to regulate it.  David Weigel of Slate interviewed Malekan on November 22, 2010 (eleven days after the cartoon was made).  At that point, we learned a bit about the political views of the 30-year-old, former stock trader-turned-real estate manager:

I’m all over the map.  Socially, I’m pretty liberal.  Economically, I’m fairly free-market oriented.  I generally prefer to vote third party, because it’s just good for the country if we get another voice in there.  To me none of this is really partisan because things are the same under both parties.  Ben Bernanke was appointed by Bush and re-appointed by Obama, so they both have basically the same policies.  The problem, really, is that monetary policy is now removed from people in general.  People like Bernanke don’t have to get elected.  There’s a disconnect between them and the people their decisions are affecting.

One month later, Malekan was interviewed by “Evan” of The Point Blog at the Sam Adams Alliance.  On this occasion, the animator explained his decision to put “the” in front of so many proper names, as well as his reference to Ben Bernanke as “The Bernank”.  Malekan had this to say about the popularity of the cartoon:

To be fully honest, I had no idea this would get the wide audience that it did.  Initially when I made it, it was to explain it to a select group of friends of mine.  And any other straggler that happened to see it, and I never thought that would be over 3 million people.  But, the main reason was cause I think monetary policy is important to everybody because it’s monetary policy.  Unlike fiscal policy or regulation, monetary policy, because of the way it impacts interest rates and the dollar, impacts every single person that buys and sells and earns dollars.  So I think it’s something that everybody should be paying attention to, but most people don’t because it’s not ever presented to them in a way they could hope to understand it.

Omid Malekan produced another helpful cartoon on January 28.  The new six-minute clip, “Bank Bailouts Explained” provides the viewer with an understanding of what many of us know as Maiden Lane III – as well as how the other “backdoor bailouts” work, including the true cost of Zero Interest Rate Policy (ZIRP) to the taxpayers.  This cartoon is important because it can disabuse people of the propaganda based on the claim that the Wall Street megabanks – particularly Goldman Sachs – owe the American taxpayers nothing because they repaid the TARP bailouts.  I discussed this obfuscation back on November 26, 2009:

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 refuted 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.

The end result was a $12.9 billion gift to “The Goldman Sachs”.

Thanks to Mr. Malekan, we now have a cartoon that explains how all of AIG’s counterparties were bailed out at taxpayer expense, along with an informative discourse about the other “backdoor bailouts”.

Omid Malekan has his own website here.  You should make a point of regularly checking in on it, so you can catch his next cartoon before someone takes the opportunity to spoil all of the jokes for you.  Enjoy!



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Bad Timing By The Dimon Dog At Davos

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Last week’s World Economic Forum in Davos, Switzerland turned out to be a bad time for The Dimon Dog to stage a “righteous indignation” fit.  One would expect an investment banker to have a better sense of timing than what was demonstrated by the CEO of JPMorgan Chase.  Vito Racanelli provided this report for Barron’s:

The Davos panel, called “The Next Shock, Are We Better Prepared?” proceeded at a typically low emotional decibel level until Dimon was asked about what he thought of Americans who had directed their anger against the banks for the bailout.

Dimon visibly turned more animated, replying that “it’s not fair to lump all banks together.”  The TARP program was forced on some banks, and not all of them needed it, he said.  A number of banks helped stabilize things, noting that his bank bought the failed Bear Stearns.  The idea that all banks would have failed without government intervention isn’t right, he said defensively

Dimon clearly felt aggrieved by the question and the negative banker headlines, and went on for a while.

“I don’t lump all media together… .  There’s good and there’s bad.  There’s irresponsible and ignorant and there’s really smart media.  Well, not all bankers are the same.  I just think this constant refrain [of] ‘bankers, bankers, bankers,’ – it’s just a really unproductive and unfair way of treating people…  People should just stop doing that.”

The immediate response expressed by a number of commentators was to focus on Dimon’s efforts to obstruct financial reform.  Although Dimon had frequently paid lip service to the idea that no single institution should pose a risk to the entire financial system in the event of its own collapse, he did all he could to make sure that the Dodd-Frank “financial reform” bill did nothing to overturn the “too big to fail” doctrine.  Beyond that, the post-crisis elimination of the Financial Accounting Standards Board requirement that a bank’s assets should be “marked to market” values, was the only crutch that kept JPMorgan Chase from falling into the same scrap heap of insolvent banks as the other Federal Reserve welfare queens.

Simon Johnson (former chief economist at the International Monetary Fund) obviously had some fun writing a retort – published in the Economix blog at The New York Times to The Dimon Dog’s diatribe.  Johnson began by addressing the threat voiced by Dimon and Diamond (Robert E. Diamond of Barclay’s Bank):

The newly standard line from big global banks has two components  .  .  .

First, if you regulate us, we’ll move to other countries.  And second, the public policy priority should not be banks but rather the spending cuts needed to get budget deficits under control in the United States, Britain and other industrialized countries.

This rhetoric is misleading at best.  At worst it represents a blatant attempt to shake down the public purse.

*   *   *

As we discussed at length during the Senate hearing, it is therefore not possible to discuss bringing the budget deficit under control in the foreseeable future without measuring and confronting the risks still posed by our financial system.

Neil Barofsky, the special inspector general for the Troubled Assets Relief Program, put it well in his latest quarterly report, which appeared last week: perhaps TARP’s most significant legacy is “the moral hazard and potentially disastrous consequences associated with the continued existence of financial institutions that are ‘too big to fail.’ ”

*   *   *

In this context, the idea that megabanks would move to other countries is simply ludicrous.  These behemoths need a public balance sheet to back them up, or they will not be able to borrow anywhere near their current amounts.

Whatever you think of places like Grand Cayman, the Bahamas or San Marino as offshore financial centers, there is no way that a JPMorgan Chase or a Barclays could consider moving there.  Poorly run casinos with completely messed-up incentives, these megabanks need a deep-pocketed and somewhat dumb sovereign to back them.

After Dimon’s temper tantrum, a pile-on by commentators immediately ensued.  Elinor Comlay and Matthew Goldstein of Reuters wrote an extensive report, documenting Dimon’s lobbying record and debunking a good number of public relations myths concerning Dimon’s stewardship of JPMorgan Chase:

Still, with hindsight it’s clear that Dimon’s approach to risk didn’t help him entirely avoid the financial crisis.  Even as the first rumblings of the crisis were sounding in the distance, he aggressively sought to boost Chase’s share of the U.S. mortgage business.

At the end of 2007, after JPMorgan had taken a $1.3 billion write-down on leveraged loans, Dimon told analysts the bank was planning to add as much as $20 billion in mortgages from riskier borrowers.  “We think we’d get very good spreads and … it will be a drop in the bucket for our capital ratios.”

By mid-2008, JPMorgan Chase had $95.1 billion exposure to home equity loans, almost $15 billion in subprime mortgages and a $76 billion credit card book.  Banks were not required to mark those loans at market prices, but if the loans were accounted for that way, losses could have been as painful for JPMorgan as credit derivatives were for AIG, according to former investment bank executives.

What was particularly bad about The Dimon Dog’s timing of his Davos diatribe concerned the fact that since December 2, 2010 a $6.4 billion lawsuit has been pending against JPMorgan Chase, brought by Irving H. Picard, the bankruptcy trustee responsible for recovering the losses sustained by Bernie Madoff’s Ponzi scam victims.  Did Dimon believe that the complaint would remain under seal forever?  On February 3, the complaint was unsealed by agreement of the parties, with the additional stipulation that the identities of several bank employees would remain confidential.  The New York Times provided us with some hints about how these employees were expected to testify:

On June 15, 2007, an evidently high-level risk management officer for Chase’s investment bank sent a lunchtime e-mail to colleagues to report that another bank executive “just told me that there is a well-known cloud over the head of Madoff and that his returns are speculated to be part of a Ponzi scheme.”

Even before that, a top private banking executive had been consistently steering clients away from investments linked to Mr. Madoff because his “Oz-like signals” were “too difficult to ignore.”  And the first Chase risk analyst to look at a Madoff feeder fund, in February 2006, reported to his superiors that its returns did not make sense because it did far better than the securities that were supposedly in its portfolio.

At The Daily Beast, Allan Dodds Frank began his report on the suit with questions that had to be fresh on everyone’s mind in the wake of the scrutiny The Dimon Dog had invited at Davos:

How much did JPMorgan CEO and Chairman Jamie Dimon know about his bank’s valued customer Bernie Madoff, and when did he know it?

These two crucial questions have been lingering below the surface for more than two years, even as the JPMorgan Chase leader cemented his reputation as the nation’s most important, most upright, and most highly regarded banker.

Not everyone at Davos was so impressed with The Dimon Dog.  Count me among those who were especially inspired by the upbraiding Dimon received from French President Nicolas Sarkozy:

“Don’t be accusatory of us,” Sarkozy snapped at Dimon at the World Economic Forum in Davos, Switzerland.

“The world has paid with tens of millions of unemployed, who were in no way to blame and who paid for everything.”

*   *   *
“We saw that for the last 10 years, major institutions in which we thought we could trust had done things which had nothing to do with simple common sense,” the Frenchman said.  “That’s what happened.”

Sarkozy also took direct aim at the bloated bonuses many bankers got despite the damage they did.

“When things don’t work, you can never find anyone responsible,” Sarkozy said.  “Those who got bumper bonuses for seven years should have made losses in 2008 when things collapsed.”

Why don’t we have a President like that?



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Justice Denied

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A recent article written by former New York Mayor Ed Koch began with the grim observation that no criminal charges have been brought against any of the malefactors responsible for causing the financial crisis:

Looking back on 2010 and the Great Recession, I continue to be enraged by the lack of accountability for those who wrecked our economy and brought the U.S. to its knees.  The shocking truth is that those who did the damage are still in charge.  Many who ran Wall Street before and during the debacle are either still there making millions, if not billions, of dollars, or are in charge of our country’s economic policies which led to the debacle.

Most of us assumed that the Enron scandal had set a precedent for the prosecution of corporate financial crime.  A few Enron executives received prison sentences and the CEO, Ken Lay, died while serving time.  Enron’s auditor, Arthur Andersen & Company, was forced out of business.  In the wake of the Savings and Loan Crisis of the late 1980s, Charles Keating and a few of his associates were indicted by the State of California.  Keating eventually received a ten-year prison sentence for fraud, racketeering and conspiracy.  Keating’s prosecution resulted from pressure brought by William Black, former litigation director for the Federal Home Loan Bank Board.  At one point during Black’s investigation, Keating issued a written memo to one of his minions, with this directive:  “If you can’t get Wright and Congress to get Black . . .  Kill him dead.”

These days, William Black has been doing quite a bit of speaking and writing about the need to initiate criminal proceedings against the culprits responsible for causing the financial crisis.  On December 28, Black characterized the failure to prosecute those crimes as “de facto decriminalization of elite financial fraud”:

The FBI and the DOJ remain unlikely to prosecute the elite bank officers that ran the enormous “accounting control frauds” that drove the financial crisis.  While over 1000 elites were convicted of felonies arising from the savings and loan (S&L) debacle, there are no convictions of controlling officers of the large nonprime lenders.  The only indictment of controlling officers of a far smaller nonprime lender arose not from an investigation of the nonprime loans but rather from the lender’s alleged efforts to defraud the federal government’s TARP bailout program.

What has gone so catastrophically wrong with DOJ, and why has it continued so long?  The fundamental flaw is that DOJ’s senior leadership cannot conceive of elite bankers as criminals.

*   *   *

Our best bet is to continue to win the scholarly disputes and to continue to push media representatives to take fraud seriously. If the media demands for prosecution of the elite banking frauds expand there is a chance to create a bipartisan coalition in Congress and the administration supporting prosecutions.  In the S&L debacle, Representative Annunzio was one of the leading opponents of reregulation and leading supporters of Charles Keating.  After we brought several hundred successful prosecutions he began wearing a huge button:  “Jail the S&L Crooks!”  Bringing many hundreds of enforcement actions, civil suits, and prosecutions causes huge changes in the way a crisis is perceived.  It makes tens of thousands of documents detailing the frauds public.  It generates thousands of national and local news stories discussing the nature of the frauds and how wealthy the senior officers became through the frauds.  All of this increases the saliency of fraud and increases demands for serious reforms, adequate resources for the regulators and criminal justice bodies, and makes clear that elite fraud poses a severe danger.  Collectively, this creates the political space for real reform, vigorous regulators, and real prosecutors.

Hedge fund manager, David Einhorn (author of  Fooling Some of the People All of the Time) was recently interviewed by Charlie Rose.  At one point during the interview, Charlie Rose asked Einhorn to address the argument that regulators lacked the tools necessary for preventing the financial crisis.  Mr. Einhorn gave this response:

I would actually disagree with that.  I think that the problem was that the laws were not enforced.  After Enron you had Sarbanes Oxley.  And there have been hardly any prosecutions under Sarbanes Oxley.  You put in a tough anti-fraud law.  The CEO has to sign there is no fraud.

The CFO has to sign that the financial statements are correct.  If it’s not, there are going to be criminal consequences to all of this.  And the result was that effectively you passed a law but then they didn’t enforce the law.

And once the bad guys figured out that the law wasn’t being enforced, it effectively provided cover because everybody said, look we have the tough antifraud law.  The fraud must have gone away.

We often hear the expression “crime of the century” to describe some sensational act of blood lust.  Nevertheless, keep in mind that the financial crisis resulted from a massive fraud scheme, involving the packaging and “securitization” of mortgages known to be “liars’ loans”, which were then sold to unsuspecting investors by the creators of those products — who happened to be betting against the value of those items.  In consideration of the fact that the credit crisis resulting from this scam caused fifteen million people to lose their jobs as well as an expected 8 – 12 million foreclosures by 2012, one may easily conclude that this fraud scheme should be considered the crime of both the last century as well as the current century.

While many people have been getting excited about the “insider trading” investigation currently underway, I have been sitting here, wearing my tinfoil hat, viewing the entire episode as a diversionary tactic to direct public attention away from the crimes that caused the financial crisis.  Fortunately, I am not the only cynic with such an outlook.  Jesse Eisenger recently wrote a piece for the DealBook blog at The New York Times entitled, “The Feds Stage a Sideshow While the Big Tent Sits Empty”.  Here is some of what Eisenger had to say about the “insider trading” investigation:

In fact, plenty of people on Wall Street are happy about the investigation.  The ones with clean consciences like the idea that the world of special access to favorable tips is being cleaned up.

But others are pleased for a different reason:  They realize the investigation is a sideshow.

All the hype carries an air of defensiveness.  Everyone is wondering:  Where are the investigations related to the financial crisis?

John Hueston, a former lead Enron prosecutor, wonders, “Have they committed the resources in the right place?  Do these scandals warrant apparent national priority status?”

Nobody from Lehman, Merrill Lynch or Citigroup has been charged criminally with anything.  No top executives at Bear Stearns have been indicted.  All former American International Group executives are running free.  No big mortgage company executive has had to face the law.

There’s an old saying:  “Justice delayed is justice denied.”  The government has demonstrated that it is in no hurry to bring any significant criminal charges against the perpetrators of the crimes that caused the financial crisis.  With the passing of time, it becomes increasingly obvious that those crimes will go unpunished.  The cause of justice is simply no match for the ability of certain individuals to operate “above the law”.  In fact, it never has been.



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Post-Free-Market Reality

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The problem became obvious at the onset of the financial crisis.  All of the huffing and puffing about our glorious Free Market system was a big lie.  Once the credit bubble had burst, former Treasury Secretary Hank Paulson went into panic mode – his eyes bulging outward even more than normal.  During that fateful week of September 15 2008, Paulson had 24 telephone conversations with Lloyd Blankfein, his successor CEO at Goldman Sachs.  AIG had to get bailed out at taxpayer expense.  From across the pond, the reaction was immediate.  On September 18 2008, Philip Broughton wrote an article for the Daily Mail entitled, “Free-market capitalism lies shredded … while America’s confidence is badly shaken”.  Near the outset of the piece, Broughton chronicled the ugly truth:

For years now, we have had to listen to bankers attacking Washington for imposing regulations that inhibit the free markets from making even more money.

And all the while, they took exorbitant salaries, justifying them on the grounds of their huge contribution to capitalism.

How bitterly ironic it is, then, to see these one-time freemarketeers becoming socialists overnight.

The schoolyard bullies of Wall Street have gone running to the state for help, pleading to be saved from destruction.

They deserve neither our sympathy nor the billions in taxpayer support they are now receiving.

That theme has been reverberating through commentaries ever since.

A year later, Paul Farrell of MarketWatch provided an overview of writings by Jack Bogle, Marc Faber and Thomas Moore to support his contention that “America’s Soul of Capitalism” has been lost:

You know something’s very wrong:  A year ago, too-greedy-to-fail banks were insolvent, in a near-death experience.  Now, magically, they’re back to business as usual, arrogant, pocketing outrageous bonuses while Main Street sacrifices, and unemployment and foreclosures continue rising as tight credit, inflation and skyrocketing federal debt are killing taxpayers.

Down in Australia, The Propitious Manager wrote an essay on April 4 2010, expressing his amazement that America was having so much trouble trying to stomach the idea of government-backed healthcare:

When you read President O’bama’s healthcare plan the most striking message is the failure of a free market to provide for the community. The healthcare market in the US, left unfettered to run free, just crashes into a heap of mismanagement, inefficiency and opportunism (hold on – isn’t this a familiar story).  I’ll leave you to read the script – but it isn’t a pretty picture.

*   *   *

What I like to call post free market economies, are about identifying the markets which are essential to maintaining thriving people and communities and develop the frameworks which optimize their performance.  Some require complete freedom while others require varying degrees of framework from elected governments.  Developing an increasingly sophisticated community and social framework is really the challenge of the century.  One where it doesn’t matter whether your a rubbish collector or a billionaire – if you get sick, someone will care for you and if you invest your money it will be there when you wake up in the morning.

The idea that we are now living in a post-free-market economy presents itself in a recent commentary by Veronique de Rugy for Bloomberg News, entitled “Why Businesses Can’t Stand Free Markets”.  Ms. De Rugy discussed how businesses exploit regulatory capture and use lobbyists to obtain favorable laws and regulations in order to stifle competition at the expense of consumers.  She concluded with this thought:

Let’s hope that any court ruling deals a blow to the practice of entrenched businesses using government to impose higher costs on consumers while also thwarting upstart entrepreneurs.  No one said loving free markets was easy.

On the other hand, there are many “upstart entrepreneurs” seeking government assistance to circumvent obstacles existing in the free-market system.  This has become especially apparent in the burgeoning solar power industry, where American upstarts are attempting to compete with entities which obtain government financing – not only in China but in the eurozone as well.  Martin LaMonica recently discussed this problem in an article for CNET:

Before the financial crisis, solar challengers were able to build manufacturing facilities using private money–venture capital, private equity, and hedge funds.  These sources still exist, but private investors are being pickier about how they place their bets, said Ted Sullivan, solar analyst at Lux Research.

Raising money on the public markets with an initial public offering was possible a few years ago, too, but is very difficult now, said Ethan Zindler, head of policy analysis at Bloomberg New Energy Finance.  Banks, meanwhile, are unlikely to finance the first factory for a solar company if the technology is relatively new and untested.

That leaves government programs, such as low-cost loans, and state incentives for economic development to help fill the financing gap in many cases.

*   *   *

In an effort to stimulate exports, the China Development Bank has made $40 billion in credit available to six solar companies in the past six months, said Zindler from Bloomberg New Energy Finance.  The U.S. stimulus program made billions of dollars available to stimulate clean-energy technologies, but the U.S. can’t match the amount of money China has made available through these low-cost loans, he said.

“Chinese solar companies are grinding down the cost by building plants the size the world has never seen before and deploying unbelievable amounts of capital to do it,” Zindler said.

In the U.S., the solar industry scored a victory with the passage of the tax bill last week because it included a one-year extension to a grant that replaces a tax credit subsidy.  But it’s unclear what the long-term direction on renewable energy policy is in the U.S., which creates questions over how strong demand will be for solar, Zindler said.

In our post-free-market milieu, there are many exceptions to the general rule that government assistance to business is a bad thing.  Now that people are finally facing up to the reality that many companies (some of which are Cayman Islands-based corporations) have been receiving U.S. government subsidies (of some sort) for decades, difficult decisions must be made to determine when this is appropriate and when it’s not.  American voters need to face up to the fact that many of those poseurs claiming to be champions of “American free enterprise” are nothing more than hypocritical tools for whoever is lining their pockets.  “American free enterprise” died at Maiden Lane.  Deal with it.



Fedbashing Is On The Rise

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It seems as though everyone is bashing the Federal Reserve these days.  In my last posting, I criticized the Fed’s most recent decision to create $600 billion out of thin air in order to purchase even more treasury securities and mortgage-backed securities by way of the recently-announced, second round of quantitative easing (referred to as QE2).  Since that time, I’ve seen an onslaught of outrage directed against the Fed from across the political spectrum.  Bethany McLean of Slate made a similar observation on November 9.  As the subtitle to her piece suggested, people who criticized the Fed were usually considered “oddballs”.  Ms. McLean observed that the recent Quarterly Letter by Jeremy Grantham (which I discussed here) is just another example of anti-Fed sentiment from a highly-respected authority.  Ms. McLean stratified the degrees of anti-Fed-ism this way:

If Dante had nine circles of hell, then the Fed has three circles of doubters.  The first circle is critical of the Fed’s current policies. The second circle thinks that the Fed has been a menace for a long time.  The third circle wants to seriously curtail or even get rid of the Fed.

From the conservative end of the political spectrum, the Republican-oriented Investor’s Business Daily provided an editorial on November 9 entitled, “Fighting The Fed”.  More famously, in prepared remarks to be delivered during a trade association meeting in Phoenix, Sarah Palin ordered Federal Reserve chairman Ben Bernanke to “cease and desist” his plan to proceed with QE2.  As a result of the criticism of her statement by Sudeep Reddy of The Wall Street Journal’s Real Time Economics blog, it may be a while before we hear Ms. Palin chirping about this subject again.

The disparagement directed against the Fed from the political right has been receiving widespread publicity.  I was particularly impressed by the pummeling Senator Jim Bunning gave Ben Bernanke during the Federal Reserve Chairman’s appearance before the Senate Banking Committee for Bernanke’s confirmation hearing on December 3, 2009.  Here is the most-frequently quoted portion of Bunning’s diatribe:

.   .   .   you have decided that just about every large bank, investment bank, insurance company, and even some industrial companies are too big to fail.  Rather than making management, shareholders, and debt holders feel the consequences of their risk-taking, you bailed them out. In short, you are the definition of moral hazard.

Michael Grunwald, author of Time magazine’s “Person of the Year 2009” cover story on Ben Bernanke, saw fit to write a sycophantic “puff piece” in support of Bernanke’s re-confirmation as Fed chairman.  In that essay, Grunwald attempted to marginalize Bernanke’s critics with this statement:

The mostly right-leaning (deficit) hawks rail about Helicopter Ben, Zimbabwe Ben and the Villain of the Year,   . . .

The “Helicopter Ben” piece was written by Larry Kudlow.  The “Zimbabwe Ben” and “Villain of the Year” essays were both written by Adrienne Gonzalez of the Jr. Deputy Accountant website, who saw her fanbase grow exponentially as a result of Grunwald’s remark.  The most amusing aspect of Grunwald’s essay in support of Bernanke’s confirmation was the argument that the chairman could be trusted to restrain his moneyprinting when confronted with demands for more monetary stimulus:

Still, doves want to know why he isn’t providing even more gas. Part of the answer is that he doesn’t seem to think that pouring more cash into the banking system would generate many jobs, because liquidity is not the current problem.  Banks already have reserves; they just aren’t using them to make loans and spur economic activity.  Bernanke thinks injecting even more money would be like pushing on a string.
*   *   *

To Bernanke, the benefits of additional monetary stimulus would be modest at best, while the costs could be disastrous. Reasonable economists can and do disagree.

Compare and contrast that Bernanke with the Bernanke who explained his rationale for more monetary stimulus in the November 4, 2010 edition of The Washington Post:

The FOMC decided this week that, with unemployment high and inflation very low, further support to the economy is needed.

*   *   *

But the Federal Reserve has a particular obligation to help promote increased employment and sustain price stability. Steps taken this week should help us fulfill that obligation.

Bernanke should have said:  “Pushing on a string should help us fulfill that obligation.”

Meanwhile, the Fed is getting thoroughly bashed from the political left, as well.  The AlterNet website ran the text of this roundtable discussion from the team at Democracy Now (Michael Hudson, Amy Goodman and Juan Gonzalez – with a cameo appearance by Joseph Stiglitz) focused on the question of whether QE2 will launch an “economic war on the rest of the world”.  I enjoyed this opening remark by Michael Hudson:

The head of the Fed is known as “Helicopter Ben” because he talks about dropping money into the economy.  But if you see helicopters, they’re probably not your friends.  Don’t go out and wait for them to drop the money, because the money is all going electronically into the banks.

At the progressive-leaning TruthDig website, author Nomi Prins discussed the latest achievement by that unholy alliance of Wall Street and the Federal Reserve:

The Republicans may have stormed the House, but it was Wall Street and the Fed that won the election.

*   *   *

That $600 billion figure was about twice what the proverbial “analysts” on Wall Street had predicted.  This means that, adding to the current stash, the Fed will have shifted onto its books about $1 trillion of the debt that the Treasury Department has manufactured.  That’s in addition to $1.25 trillion more in various assets backed by mortgages that the Fed is keeping in its till (not including AIG and other backing) from the 2008 crisis days.  This ongoing bailout of the financial system received not a mention in pre- or postelection talk.

*   *   *

No winning Republican mentioned repealing the financial reform bill, since it doesn’t really actually reform finance, bring back Glass-Steagall, make the big banks smaller or keep them from creating complex assets for big fees.  Score one for Wall Street.  No winning Democrat thought out loud that maybe since the Republican tea partyers were so anti-bailouts they should suggest a strategy that dials back ongoing support for the banking sector as it continues to foreclose on homes, deny consumer and small business lending restructuring despite their federal windfall, and rake in trading profits.  The Democrats couldn’t suggest that, because they were complicit.  Score two for Wall Street.

In other words, nothing will change.  And that, more than the disillusionment of his supporters who had thought he would actually stand by his campaign rhetoric, is why Obama will lose the White House in 2012.

The only thing I found objectionable in Ms. Prins’ essay was her reference to “the pro-bank center”.  Since when is the political center “pro-bank”?  Don’t blame us!

As taxpayer hostility against the Fed continues to build, expect to see this book climb up the bestseller lists:  The Creature from Jekyll Island.   It’s considered the “Fedbashers’ bible”.



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The Invisible Bank Bailout

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August 23, 2010

By now, you are probably more than familiar with the “backdoor bailouts” of the Wall Street Banks – the most infamous of which, Maiden Lane III, included a $13 billion gift to Goldman Sachs as a counterparty to AIG’s bad paper.  Despite Goldman’s claims of having repaid the money it received from TARP, the $13 billion obtained via Maiden Lane III was never repaid.  Goldman needed it for bonuses.

On August 21, my favorite reporter for The New York Times, Gretchen Morgenson, discussed another “bank bailout”:  a “secret tax” that diverts money to banks at a cost of approximately $350 billion per year to investors and savers.  Here’s how it works:

Sharply cutting interest rates vastly increases banks’ profits by widening the spread between what they pay to depositors and what they receive from borrowers.  As such, the Fed’s zero-interest-rate policy is yet another government bailout for the very industry that drove the economy to the brink.

Todd E. Petzel, chief investment officer at Offit Capital Advisors, a private wealth management concern, characterizes the Fed’s interest rate policy as an invisible tax that costs savers and investors roughly $350 billion a year.  This tax is stifling consumption, Mr. Petzel argues, and is pushing investors to reach for yields in riskier securities that they wouldn’t otherwise go near.

*   *   *

“If we thought this zero-interest-rate policy was lowering people’s credit card bills it would be one thing but it doesn’t,” he said.  Neither does it seem to be resulting in increased lending by the banks.  “It’s a policy matter that people are not focusing on,” Mr. Petzel added.

One reason it’s not a priority is that savers and people living on fixed incomes have no voice in Washington.  The banks, meanwhile, waltz around town with megaphones.

Savers aren’t the only losers in this situation; underfunded pensions and crippled endowments are as well.

Many commentators have pointed out that zero-interest-rate-policy (often referred to as “ZIRP”) was responsible for the stock market rally that began in the Spring of 2009.  Bert Dohmen made this observation for Forbes back on October 30, 2009:

There is very little, if any, investment buying.  In my view, we are seeing a mini-bubble in the stock market, fueled by ZIRP, the “zero interest rate policy” of the Fed.

At this point, retail investors (the “mom and pop” customers of discount brokerage firms) are no longer impressed.  After the “flash crash” of May 6 and the revelations about stock market manipulation by high-frequency trading (HFT), retail investors are now avoiding mutual funds.  Graham Bowley’s recent report for The New York Times has been quoted and re-published by a number of news outlets.   Here is the ugly truth:

Investors withdrew a staggering $33.12 billion from domestic stock market mutual funds in the first seven months of this year, according to the Investment Company Institute, the mutual fund industry trade group.  Now many are choosing investments they deem safer, like bonds.

The pretext of providing “liquidity” to the stock markets is no longer viable.  The only remaining reasons for continuing ZIRP are to mitigate escalating deficits and stopping the spiral of deflation.  Whether or not that strategy works, one thing is for certain:  ZIRP is enriching the banks –  at the public’s expense.




The Poisonous Bailout

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June 10, 2010

The adults in the room have spoken.  The Congressional Oversight Panel – headed by Harvard Law School professor Elizabeth Warren – created to oversee the TARP program, has just issued a report disclosing the ugly truth about the bailout of AIG:

The government’s actions in rescuing AIG continue to have a poisonous effect on the marketplace.

Note the present tense in that statement.  Not only did the bailout have a poisonous effect on the marketplace at the time –it continues to have a poisonous effect on the marketplace.  The 300-page report includes the reason why the AIG bailout continues to have this poisonous effect:

The AIG rescue demonstrated that Treasury and the Federal Reserve would commit taxpayers to pay any price and bear any burden to prevent the collapse of America‘s largest financial institutions and to assure repayment to the creditors doing business with them.

And that, dear readers, is precisely what the concept of “moral hazard” is all about.  It is the reason why we should not continue to allow financial institutions to be “too big to fail”.  Bad behavior by financial institutions is encouraged by the Federal Reserve and Treasury with assurance that any losses incurred as a result of that risky activity will be borne by the taxpayers rather than the reckless institutions.  You might remember the pummeling Senator Jim Bunning gave Ben Bernanke during the Federal Reserve Chairman’s appearance before the Senate Banking Committee for Bernanke’s confirmation hearing on December 3, 2009:

.  .  .   you have decided that just about every large bank, investment bank, insurance company, and even some industrial companies are too big to fail.  Rather than making management, shareholders, and debt holders feel the consequences of their risk-taking, you bailed them out.  In short, you are the definition of moral hazard.

With particular emphasis on the AIG bailout, this is what Senator Bunning said to Bernanke:

Even if all that were not true, the A.I.G. bailout alone is reason enough to send you back to Princeton.  First you told us A.I.G. and its creditors had to be bailed out because they posed a systemic risk, largely because of the credit default swaps portfolio.  Those credit default swaps, by the way, are over the counter derivatives that the Fed did not want regulated.  Well, according to the TARP Inspector General, it turns out the Fed was not concerned about the financial condition of the credit default swaps partners when you decided to pay them off at par.  In fact, the Inspector General makes it clear that no serious efforts were made to get the partners to take haircuts, and one bank’s offer to take a haircut was declined.  I can only think of two possible reasons you would not make then-New York Fed President Geithner try to save the taxpayers some money by seriously negotiating or at least take up U.B.S. on their offer of a haircut.  Sadly, those two reasons are incompetence or a desire to secretly funnel more money to a few select firms, most notably Goldman Sachs, Merrill Lynch, and a handful of large European banks.

Hugh Son of Bloomberg BusinessWeek explained how the Congressional Oversight Panel’s latest report does not have a particularly optimistic view of AIG’s ability to repay the bailout:

The bailout includes a $60 billion Fed credit line, an investment of as much as $69.8 billion from the Treasury Department and up to $52.5 billion to buy mortgage-linked assets owned or backed by the insurer through swaps or securities lending.

AIG owes about $26.6 billion on the credit line and $49 billion to the Treasury.  The company returned to profit in the first quarter, posting net income of $1.45 billion.

‘Strong, Vibrant Company’

“I’m confident you’ll get your money, plus a profit,” AIG Chief Executive Officer Robert Benmosche told the panel in Washington on May 26.  “We are a strong, vibrant company.”

The panel said in the report that the government’s prospects for recovering funds depends partly on the ability of AIG to find buyers for its units and on investors’ willingness to purchase shares if the Treasury Department sells its holdings.  AIG turned over a stake of almost 80 percent as part of the bailout and the Treasury holds additional preferred shares from subsequent investments.

“While the potential for the Treasury to realize a positive return on its significant assistance to AIG has improved over the past 12 months, it still appears more likely than not that some loss is inevitable,” the panel said.

Simmi Aujla of the Politico reported on Elizabeth Warren’s contention that Treasury and Federal Reserve officials should have attempted to save AIG without using taxpayer money:

“The negotiations would have been difficult and they might have failed,” she said Wednesday in a conference call with reporters.  “But the benefits of crafting a private or even a joint public-private solution were so superior to the cost of a complete government bailout that they should have been pursued as vigorously as humanly possible.”

The Treasury and Federal Reserve are now in “damage control” mode, issuing statements that basically reiterate Bernanke’s “panic” excuse referenced in the above-quoted remarks by Jim Bunning.

The release of this report is well-timed, considering the fact that the toothless, so-called “financial reform” bill is now going through the reconciliation stage.  Now that Blanche Lincoln is officially the Democratic candidate to retain her Senate seat representing Arkansas – will the derivatives reform provisions disappear from the bill?  In light of the information contained in the Congressional Oversight Panel’s report, a responsible – honest – government would not only crack down on derivatives trading but would also ban the trading of “naked” swaps.  In other words:  No betting on defaults if you don’t have a potential loss you are hedging – or as Phil Angelides explained it:  No buying fire insurance on your neighbor’s house.  Of course, we will probably never see such regulation enacted – until after he next financial crisis.