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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.


 

Scientists Bust the Top One Percent

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Ever since the Occupy Wall Street movement began last fall, we have been hearing the incessant mantra of:  Don’t blame the rich for wealth inequality.  In fact, Herman Cain’s futile bid for the Presidency was based (in part) on that very theme.  Last January, James Q. Wilson (who passed away on Friday) wrote an opinion piece for The Washington Post entitled, “Angry about inequality?  Don’t blame the rich”.  Paul Buchheit of the Common Dreams blog rebutted Wilson’s essay with this posting:  “So say the rich:  ‘Don’t blame us for having all the money!’ ”.  How often have you read and heard arguments from apologists for the Wall Street banksters, upbraiding those who dared speak ill of those sanctified “job creators” within the top one percent of America’s economic strata?

Finally, a group of scientists has intervened by conducting some research about the ethics of those at the top of America’s socioeconomic food chain.  Stéphane Côté, PhD, Associate Professor of Organizational Behavior at the University of Toronto’s Rotman School of Management, worked with a team of four psychologists from the University of California at Berkeley to conduct seven studies on this subject.  Their paper, “Higher social class predicts increased unethical behavior” was published in the February 27 issue of the Proceedings of the National Academy of Sciences (PNAS).  Here is the abstract:

Seven studies using experimental and naturalistic methods reveal that upper-class individuals behave more unethically than lower-class individuals.  In studies 1 and 2, upper-class individuals were more likely to break the law while driving, relative to lower-class individuals.  In follow-up laboratory studies, upper-class individuals were more likely to exhibit unethical decision-making tendencies (study 3), take valued goods from others (study 4), lie in a negotiation (study 5), cheat to increase their chances of winning a prize (study 6), and endorse unethical behavior at work (study 7) than were lower-class individuals.  Mediator and moderator data demonstrated that upper-class individuals’ unethical tendencies are accounted for, in part, by their more favorable attitudes toward greed.

The impact and the timing of this article, with respect to the current debate over income inequality, have resulted in quite a bit of interesting commentary.  I enjoyed the perspective of Peter Dorman at the Econospeak blog:

The tone of the first wave of commentary, as far as I can tell, is that we knew it all along – rich people are nasty.  I would like to put in a word, however, for the other direction of causality, that dishonesty and putting one’s own interests ahead of others are conducive to wealth.

*   *   *

The reason I bring this up is because there is a constant background murmur in our society that says that greater wealth has to be a reward for more talent, more effort or more contribution to society.

Most of the commentary written about the PNAS article has been relatively non-partisan.  Two-day access for reading the article on-line will cost you ten bucks.  For those of us who can’t afford that (as well as for those who can afford it – but are too greedy to pay for anything) I have assembled a number of excerpts from articles written by those who actually read the entire scientific paper.  The following passages will provide you with some interesting details about the research conducted by this group.

Christopher Shea of The Wall Street Journal gave us a brief peek at some of the specific findings of the studies conducted by this team.

It went so far as to show that higher-class people will literally take candy from the mouths of children.

An excerpt quoted by Shea illustrated how the group expanded on an observation made by French sociologist Émile Durkheim:

 “From the top to the bottom of the ladder, greed is aroused,” Durkheim famously wrote.  Although greed may indeed be a motivation all people have felt at points in their lives, we argue that greed motives are not equally prevalent across all social strata.

Brandon Keim of Wired offered us more research data from the article, while focusing on the observations of team member Paul Piff, a Berkeley psychologist:

“This work is important because it suggests that people often act unethically not because they are desperate and in the dumps, but because they feel entitled and want to get ahead,” said evolutionary psychologist and consumer researcher Vladas Griskevicius of the University of Minnesota, who was not involved in the work.  “I am especially impressed that the findings are consistent across seven different studies with varied methodologies.  This work is not just good science, but it is shows deeper insight into the reasons why people lie, cheat, and steal.”

According to Piff, unethical behavior in the study was driven both by greed, which makes people less empathic, and the nature of wealth in a highly stratified society.  It insulates people from the consequences of their actions, reduces their need for social connections and fuels feelings of entitlement, all of which become self-reinforcing cultural norms.

“When pursuit of self-interest is allowed to run unchecked, it can lead to socially pernicious outcomes,” said Piff, who noted that the findings are not politically partisan.  “The same rules apply to liberals and conservatives.  We always control for political persuasion,” he said.

For Thomas B. Edsall of The New York Times, the research performed by this group helped explain the rationale behind a bit of Republican campaign strategy:

Republicans recognize the political usefulness of objectification, capitalizing on “compassion fatigue,” or the exhaustion of empathy, among large swathes of the electorate who are already stressed by the economic collapse of 2008, high levels of unemployment, an epidemic of foreclosures, stagnant wages and a hyper-competitive business arena.

Compassion fatigue was fully evident in Rick Santelli’s 2009 rant on CNBC denouncing a federal plan to prop up “losers’ mortgages” at taxpayer expense, a rant that helped spark the formation of the Tea Party.  Republican debates provided further evidence of compassion fatigue when audiences cheered the record-setting use of the death penalty in Texas and applauded the prospect of a gravely ill pauper who, unable to pay medical fees, was allowed to die.

Jonathan Gitlin of Ars Technica reported on some of the juicy details from a few experiments.  When reading about my favorite experiment, keep in mind that the term “SES” refers to socioeconomic status.

Study number four involved participants rating themselves on the SES scale to heighten their perception of status; they were then answered a number of questions relating to unethical behavior.  At the end of the experiment, they were presented with a jar of individually wrapped candy and told that, although it was for children in a nearby lab, they could take some if they wanted.  At this point you might be able to guess what the results were.  High SES participants took more candy.

Gitlin concluded his review of the paper with this thought:

The researchers argue that “the pursuit of self-interest is a more fundamental motive among society’s elite, and the increased want associated with greater wealth and status can promote wrongdoing.”  However, they point out that their findings aren’t absolute, and that philanthropic efforts such as those of Bill Gates and Warren Buffet buck the observed trend, as does research which has shown a relationship between poverty and violent crime.

Meanwhile, the debate over economic inequality continues to rage on through the 2012 election cycle.  It will be interesting to observe whether this scientific report is exploited to bolster the argument that most of the one-percenters suffer from a character flaw, which not only got them where they are today – but which is shared by their kleptocratic comrades, who have facilitated a system of legalized predation.


 

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Disappointing Diatribe From A Disillusioned Dionne

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Poor E.J. Dionne!  He is suffering through the same transition process experienced by many Obama supporters who have been confronted with the demise of the President’s phony “populist” image.  The stages one passes through when coping with such an “image death” are identical to those described in the Model of Coping with Dying, created in 1969 by Psychiatrist, Dr. Elisabeth Kübler-Ross. For example, a few weeks ago, Bill Maher was passing through the “Bargaining” stage – at which point he suggested that if we elect Obama to a second term in the White House, the President will finally stand up for all of those abandoned principles which candidate Obama advocated during the 2008 campaign.  As we saw during Friday’s episode of Maher’s Real Time program on HBO, the comedian has now progressed to the “Acceptance” stage, as demonstrated by his abandonment of any “hope” that Obama’s pseudo-populist image might still be viable.

Meanwhile E.J. Dionne appears to be transitioning from the “Denial” stage to the “Anger” stage – as exemplified by his dwelling on the issue of who is to blame for this image death.  Dionne’s conclusion is that “Centrists” are to blame.  Dionne’s recent Washington Post column began with the premise that “centrism has become the enemy of moderation”.  While attempting to process his anger, Dionne has expounded some tortured logic, rambling through an elaborate “distinction without a difference” comparison of “Centrists” with “Moderates”, based on the notion that Moderates are good and Centrists are bad.   Dionne’s article was cross-posted at the Truthdig blog, where many commentors criticized his argument.  One reason why so many Truthdig readers had less trouble accepting the demise of Obama’s false “populist” image, could have been their exposure to the frequent criticism of Obama appearing at that website – as exemplified by this cartoon by Mr. Fish, which appeared immediately to the left of Dionne’s article on Saturday.

An easy way to make sense of Dionne’s thought process at this “Anger” stage is to replace any references to “centrists” or “centrism” by inserting Obama’s name at those points.  For example:

Because centrism Obama is reactive, you never really know what a centrist Obama believes.  Centrists are Obama is constantly packing their his bags and chasing off to find a new location as the political conversation veers one way or another.

*   *   *

Yet the center’s devotees, in politics and in the media, Obama fear(s) saying outright that by any past standards—or by the standards of any other democracy—the views of this new right wing are very, very extreme and entirely impractical.  Centrists Obama worr(ies) that saying this might make them him look “leftist” or “partisan.”

Instead, the center Obama bends.  It He concocts deficit plans that include too little new tax revenue.  It He accepts cuts in programs that would have seemed radical and draconian even a couple of years ago.  It He pretends this crisis is caused equally by conservatives and liberals when it is perfectly clear that there would be no crisis at all if the right hadn’t glommed onto the debt ceiling as the (totally inappropriate) vehicle for its anti-government dreams.

It’s time for moderates to abandon centrism Obama and stop shifting with the prevailing winds.  They need to state plainly what they’re for, stand their ground, and pull the argument their way. Yes, they would risk looking to “the left” of where the center Obama is now – but only because conservatives have pulled it him so far their way.

Toward the end of the piece we see how Dionne is getting some glimpses of the fact that Obama is the problem:

But when this ends, it’s Obama who’ll need a reset.  At heart, he’s a moderate who likes balance.  Yet Americans have lost track of what he’s really for. Occasionally you wonder if he’s lost track himself.  He needs to remind us, and perhaps himself, why he wants to be our president.

In reality, Barack Obama was able to deceive Americans by convincing them that he was for populist causes rather than corporatist goals.  The President never “lost track of what he’s really for”.  He has always been Barry O. Tool – a corporatist.

At the conclusion of Dionne’s essay we learn that – contrary to what we were told by Harry Truman – “the buck” stops at the desks of Obama’s “centrist advisers”:

His advisers are said to be obsessed with the political center, but this leads to a reactive politics that won’t motivate the hope crowd that elected Obama in the first place.  Neither will it alter a discourse whose terms were set during most of this debt fight by the right.

We’ve heard the “blame the advisers” rationale from others who passed through the Kübler-Ross phases at earlier points during the Obama Presidency:  There were those who sought to blame Rahm Emanuel when the “public option” was jettisoned from Obama’s healthcare bill.  We then heard from the “Hope fiends” who blamed Larry Summers, Tim Geithner and Peter Orszag for Obama’s refusal to seriously consider the “Swedish solution” of putting the zombie megabanks through temporary receivership.  In fact, it was Obama making those decisions all along.

I’m confident that once E.J. Dionne reaches the “Acceptance” stage, we will hear some refreshing, centered criticism of President Obama.


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Screw The People And Save The Banks

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The economic crisis in Ireland (and the rest of Europe) has resulted in a morass of published commentaries, some of which make sense and most of which don’t.  Sometimes it appears as though the writer hasn’t really formed an opinion on the issue, even though the tone of the article seems to be expressing one.  The problem experienced in Ireland is the same as it is everywhere else:  During tough economic times, governments always choose to bail out the banks regardless of the expense and suffering to be endured by the citizens.  The Pragmatic Capitalist recently upbraided the writer of one of the more poorly-thought-out essays dealing with the Irish predicament:

Sheila Bair, the head of the FDIC, has remained one of the more levelheaded and helpful leaders during the financial crisis.  But in an op-ed in the Washington Post this morning she took a decisive turn for the worse when she waded into waters that were certain to drown her.  Bair is now echoing the cries that have been heard across Ireland for the last 2 years – cries of fiscal austerity.  Of course, the USA is nothing like Ireland and has an entirely different monetary system, but Bair ignores all of this (in fact proves she is entirely ignorant of this).  What’s sad is that Bair clearly understands that this crisis is still largely hurting Main Street America   .   .   .

To the extent that the Irish situation bears any resemblance to what we are experiencing (or may soon experience) in the United States, economist John Hussman has written the best essay on this issue.  Hussman began with this point, made by another economist:

“If you have bad banks then you very urgently want to clean up your banks because bad banks go only one way:  they get worse. In the end every bank is a fiscal problem.  When you have bad banks, it is in a political environment where it is totally understood that the government is going to bail them out in the end.  And that’s why they are so bad, and that’s why they get worse.  So cleaning up the banks is an essential counterpart of any attempt to have a well functioning economy.  It is a counterpart of any attempt to have a dull, uninteresting macroeconomy.  And there is no excuse to do it slowly because it is very expensive to postpone the cleanup.  There is no technical issue in doing the cleanup.  It’s mostly to decide to start to grow up and stop the mess.”

MIT Economist Rudiger Dornbusch, November 1998

The TARP bailout was not the only time when our government chose a temporary fix (as in cure or heroin injection) at great taxpayer expense.  I’ve complained many times about President Obama’s decision to scoff at using the so-called “Swedish solution” of putting the zombie banks through temporary receivership.  John Hussman discussed the consequences:

If our policy makers had made proper decisions over the past two years to clean up banks, restructure debt, and allow irresponsible lenders to take losses on bad loans, there is no doubt in my mind that we would be quickly on the course to a sustained recovery, regardless of the extent of the downturn we have experienced.  Unfortunately, we have built our house on a ledge of ice.

*   *   *

As I’ve frequently noted, even if a bank “fails,” it doesn’t mean that depositors lose money.  It means that the stockholders and bondholders do.  So if it turns out, after all is said and done, that the bank is insolvent, the government should get its money back and the remaining entity should be taken into receivership, cut away from the stockholder liabilities, restructured as to bondholder liabilities, recapitalized, and reissued.  We did this with GM, and we can do it with banks.  I suspect that these issues will again become relevant within the next few years.

The present situation

Europe will clearly be in the spotlight early this week, as a run on Irish banks coupled with large fiscal deficits has created a solvency crisis for the Irish government itself and has been (temporarily) concluded with a bailout agreement.  Ireland’s difficulties are the result of a post-Lehman guarantee that the Irish government gave to its banking system in 2008.  The resulting strains will now result in a bailout, in return for Ireland’s agreement to slash welfare payments and other forms of spending to recipients that are evidently less valuable to society than bankers.

*   *   *

Over the short run, Ireland will promise “austerity” measures like Greece did – large cuts in government spending aimed at reducing the deficit.  Unfortunately, imposing austerity on a weak economy typically results in further economic weakness and a shortfall on the revenue side, meaning that Ireland will most probably face additional problems shortly anyway.

The “austerity” approach is more frequently being used as a dividing line to distinguish “liberal” economists from “conservative” economists.  The irony here is that many so-called liberal politicians are as deeply in the pocket of the banking lobby as their conservative counterparts.  Economist Dean Baker recently wrote an article for The Guardian, urging Ireland to follow the example of Argentina and simply default on its debt:

The failure of the ECB or IMF to take steps to rein in the bubble before the crisis has not made these international financial institutions shy about using a heavy hand in imposing conditions now.  The plan is to impose stiff austerity, requiring much of Ireland’s workforce to suffer unemployment for years to come as a result of the failure of their bankers and the ECB.

While it is often claimed that these institutions are not political, only the braindead could still believe this.  The decision to make Ireland’s workers, along with workers in Spain, Portugal, Latvia and elsewhere, pay for the recklessness of their country’s bankers is entirely a political one.  There is no economic imperative that says that workers must pay; this is a political decision being imposed by the ECB and IMF.

Bloomberg News columnist, Matthew Lynn wrote a great article for the Pittsburgh Tribune-Review, setting out five reasons why Ireland should refuse a bailout from the European Union and the International Monetary Fund to opt for default as the logical approach.

Pay close attention to how your favorite politicians weigh-in on the Irish situation.  It should give you a fairly good tip as to what actions those pols can be expected to take when the Wall Street bankers dash back to Capitol Hill for TARP 2 The Sequel.


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