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More Disaster And Dishonesty

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Unfortunately, the cynicism expressed in my last posting was well-founded.  The Japanese government has been misleading everyone about the extent of the nuclear hazards at the aptly-named Fukushima power plant.  The only remaining question is whether the Japanese government was knowingly misleading everyone or whether it was just passing along the deception generated by the Tokyo Electric Power Company (TEPCO).  If the latter is the case, the Japanese are living under a similar system of “regulatory capture” to what we have in the United States.  The frustration I expressed about the difficulty involved in attempting to obtain credible information about the Japanese nuclear crisis was experienced and discussed by a number of other commentators.  Clive Crook put it this way:

From the start of this calamity I have wanted to know, “What is the worst that can happen at these nuclear sites?  Suppose everything that could go wrong does go wrong:  what then?”  I still don’t know the answer.  In what I have read so far — dozens of articles –nobody who knows what he is talking about has spelt this out carefully.

We are now learning that in 2008, the Japanese government had been warned by the International Atomic Energy Agency (IAEA) that the nuclear reactors on the island nation could not withstand an earthquake.  Through cables obtained by WikiLeaks, The Telegraph was able to provide this report:

The document states:  “He [the IAEA official] explained that safety guides for seismic safety have only been revised three times in the last 35 years and that the IAEA is now re-examining them.

“Also, the presenter noted recent earthquakes in some cases have exceeded the design basis for some nuclear plants, and that this is a serious problem that is now driving seismic safety work.”

The cables also disclose how the Japanese government opposed a court order to shut down another nuclear power plant in western Japan because of concerns it could not withstand powerful earthquakes.

*   *   *

Another cable reported to Washington local concerns that a new generation of Japanese power stations that recycle nuclear fuel were jeopardising safety.

The cable, quoting a local newspaper, reports:  “There is something precarious about the way all electric power companies are falling in step with each other under the banner of the national policy.  We have seen too many cases of cost reduction competition through heightened efficiency jeopardizing safety.”

The cables also disclose how Taro Kono, a high-profile member of Japan’s lower house, told US diplomats in October 2008 that the government was “covering up” nuclear accidents.

The outrage expressed by Japanese citizens over their government’s handling of the entire situation – both pre-crisis and post-tsunami, is rapidly receiving more coverage.  American journalists who are covering the situation are expressing concern over their own safety.  NBC’s Lester Holt and his crew had been exposed to what was described as  “minute levels” of radiation, which was found on their shoes.

At a hearing before the House Energy and Commerce Subcommittee on March 16, Nuclear Regulatory Commission Chairman Greg Jaczko testified that despite the fact that the Japanese government had established an evacuation zone with a radius of only 12 miles from the Fukushima plant, the NRC had recommended a 50-mile evacuation zone for U.S. forces and American citizens.

ABC News quoted the reaction of an expert from Europe, who provided a harshly different message than the vague statements issued by the Japanese government:

“There is talk of an apocalypse and I think the word is particularly well chosen,” European Union’s energy commissioner Günther Oettinger said today, according to various reports.  “Practically everything is out of control.  I cannot exclude the worst in the hours and days to come.”

The coming days will reveal the extent of the misrepresentations by TEPCO and the Japanese government concerning the threat posed by the hazardous situation at the Fukushima power plant.  As I said last time:  It’s not looking good.


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EuroTARP Faces Criticism

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May 10, 2010

Who would have thought that Mother’s Day would coincide with the announcement of a 720-billion-euro bailout fund to resolve the sovereign debt crisis in the European Union?  Here’s how The New York Times broke the story:

In an extraordinary session that lasted into the early morning hours, finance ministers from the European Union agreed on a deal that would provide $560 billion in new loans and $76 billion under an existing lending program.  Elena Salgado, the Spanish finance minister, who announced the deal, also said the International Monetary Fund was prepared to give up to $321 billion separately.

Officials are hoping the size of the program — a total of $957 billion — will signal a “shock and awe” commitment that will be viewed in the same vein as the $700 billion package the United States government provided to help its own ailing financial institutions in 2008.

The package was much higher than expected, and represented an audacious step for a bloc that had been criticized for acting tentatively, and without unity, in the face of a mounting crisis.

*   *   *

Financial unease has been mounting.  Riots in Greece, ever-tightening terms of credit and the unexplained free fall in the American stock market last Thursday have compounded the sense that the European Union’s inability to address its sovereign debt crisis might lead to the type of systemic collapse that followed the fall of Lehman Brothers.

The debt crisis began with Greece teetering toward default, and fear quickly spread about other weak economies like Portugal, Spain and even Italy.  Previous efforts by the European Union to shore up investor confidence were viewed as too little, too late, with the markets making clear that they were looking for a bolder plan.

Ambrose Evans-Pritchard of The Telegraph provided us with an informative, yet critical look at the plan:

The walls of fiscal and economic sovereignty are being breached.  The creation of an EU rescue mechanism with powers to issue bonds with Europe’s AAA rating to help eurozone states in trouble — apparently €60bn, with a separate facility that may be able to lever up to €600bn — is to go far beyond the Lisbon Treaty.  This new agency is an EU Treasury in all but name, managing an EU fiscal union where liabilities become shared.  A European state is being created before our eyes.

No EMU country will be allowed to default, whatever the moral hazard.

*   *   *

For now, the world has avoided a financial cataclysm that would have been as serious and far-reaching as the collapse of Lehman Brothers, AIG, Fannie and Freddie in September 2008, and perhaps worse given the already depleted capital ratios of banks and the growing aversion to sovereign debt.

*   *   *

The answer to this — if the objective is to save EMU — is for Germany to boost its growth and tolerate higher ‘relative’ inflation.  This would allow the South to close the gap without tipping into a 1930s Fisherite death spiral.  Yet Europe will have none of it.  The weekend deal demands yet more belt-tightening from the South.  Portugal is to shelve its public works projects.  Spain has pledged further cuts.  As for Germany, it is preparing fiscal tightening to comply with the new balanced budget amendment in its Grundgesetz.

While each component makes sense in its own narrow terms, the EU policy as a whole is madness for a currency union.  Stephen Lewis from Monument Securities says Europe’s leaders have forgotten the lesson of the “Gold Bloc” in the second phase of the Great Depression, when a reactionary and over-proud Continent ground itself into slump by clinging to deflationary totemism long after the circumstances had rendered this policy suicidal.  We all know how it ended.

Back here in the United States, Karl Denninger of The Market Ticker pulled no punches in criticizing the idea of attempting to solve a debt crisis by creating more debt:

This package was calculated to bring about a market reaction similar to what our Federal Reserve and Congress did in 2008 and 2009.  The problem is that the ECB and EU are not similarly situated, in that they don’t have (in the opinion of the market) a solid balance sheet to lever up upon.  Indeed, the problem is within the sovereign balance sheets upon which the EU and ECB rest, and as such this little “program” announced this evening leads me to wonder:

Do they really think the markets are stupid enough to fall for this line of Ouroboros nonsense?

I guess we shall see if, in the coming days, the markets discern the truth of where the funding has to come from, and that in point of fact it is the very nations that are in trouble that have to – somehow – manage to both cut their fiscal deficits and sell more debt (which increases those deficits) to fund their package.

Indeed, I suspect Bernanke and his pals “re-opened” the swap lines not because of current dollar funding problems (there aren’t any) but because he knows this won’t and can’t work, as unlike in the US there is no strong balance sheet to which the debt can be transferred and then refinanced at a lower rate, unlike in the US.

Ben Bernanke would probably hate to see all his hard work at devaluing the dollar go to waste.  One of his worst nightmares would likely involve the dollar’s rise above the value of the euro.   American exports to Europe would become too expensive for those 55-year-old retirees.  Europeans wouldn’t be taking their holidays in America this summer because it would become too expensive, given the new exchange rate.  Whether or not EuroTARP really works as intended, there are plenty of people on Wall Street anticipating a huge rebound in stock prices this week.



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Doctor Doom Writes A Prescription

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May 6, 2010

As I discussed on April 26, expectations for serious financial reform are pretty low.  Worse yet, Lloyd Blankfein (CEO of Goldman Sachs) felt confident enough to make this announcement, during a conference call with private wealth management clients:

“We will be among the biggest beneficiaries of reform.”

So how effective could “financial reform” possibly be if Lloyd Bankfiend expects to benefit from it?  Allan Sloan of Fortune suggested following the old Wall Street maxim of “what they promise you isn’t necessarily what you get” when examining the plans to reform Wall Street:

President Obama talks about “a common sense, reasonable, nonideological approach to target the root problems that led to the turmoil in our financial sector and ultimately in our entire economy.”  But what we’ll get from the actual legislation isn’t necessarily what we hear from the Salesman-in-Chief.

Sloan offered an alternative by providing “Six Simple Steps” to help fix the financial system.  He wasn’t alone in providing suggestions overlooked by our legislators.

Nouriel Roubini (often referred to as “Doctor Doom” because he was one of the few economists to anticipate the scale of the financial crisis) has written a new book with Stephen Mihm entitled, Crisis Economics:  A Crash Course in the Future of Finance.  (Mihm is a professor of economic history and a New York Times Magazine writer.)  An excerpt from the book recently appeared in The Telegraph.  The idea of fixing our “sub-prime financial system” was introduced this way:

Even though they have suffered the worst financial crisis in generations, many countries have shown a remarkable reluctance to inaugurate the sort of wholesale reform necessary to bring the financial system to heel.  Instead, people talk of tinkering with the financial system, as if what just happened was caused by a few bad mortgages.

*   *   *

Since its founding, the United States has suffered from brutal banking crises and other financial disasters on a regular basis.  Throughout the 19th and early 20th centuries, crippling panics and depressions hit the nation again and again.  The crisis was less a function of sub-prime mortgages than of a sub-prime financial system.  Thanks to everything from warped compensation structures to corrupt ratings agencies, the global financial system rotted from the inside out.  The financial crisis merely ripped the sleek and shiny skin off what had become, over the years, a gangrenous mess.

Roubini and Mihm had nothing favorable to say about CDOs, which they referred to as “Chernobyl Death Obligations”.  Beyond that, the authors called for more transparency in derivatives trading:

Equally comprehensive reforms must be imposed on the kinds of deadly derivatives that blew up in the recent crisis.  So-called over-the-counter derivatives — better described as under-the-table — must be hauled into the light of day, put on central clearing houses and exchanges and registered in databases; their use must be appropriately restricted.  Moreover, the regulation of derivatives should be consolidated under a single regulator.

Although derivatives trading reform has been advanced by Senators Maria Cantwell and Blanche Lincoln, inclusion of such a proposal in the financial reform bill faces an uphill battle.  As Ezra Klein of The Washington Post reported:

The administration, the Treasury Department, the Federal Reserve, and even the FDIC are lockstep against it.

The administration, Treasury and the Fed are also fighting hard against a bipartisan effort to include an amendment in the financial reform bill that would compel a full audit of the Federal Reserve.  I’m intrigued by the possibility that President Obama could veto the financial reform bill if it includes a provision to audit the Fed.

Jordan Fabian of The Hill discussed Congressman Alan Grayson’s theory about why Treasury Secretary Tim Geithner opposes a Fed audit:

But Grayson, who is known for his tough broadsides against opponents, indicated Geithner may have had a role in enacting “secret bailouts and loan guarantees” to large corporations, while New York Fed chairman during the Bush administration.

“It’s one of the biggest conflict of interests I have ever seen,” he said.

With the Senate and the administration resisting various elements of financial reform, the recent tragedy in Nashville provides us with a reminder of how history often repeats itself.  The concluding remarks from the Roubini – Mihm piece in The Telegraph include this timely warning:

If we strengthen the levees that surround our financial system, we can weather crises in the coming years. Though the waters may rise, we will remain dry.  But if we fail to prepare for the inevitable hurricanes — if we delude ourselves, thinking that our antiquated defences will never be breached again — we face the prospect of many future floods.

The issue of whether our government will take the necessary steps to prevent another financial crisis continues to remain in doubt.



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Preparing For The Worst

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November 19, 2009

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

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

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

*   *   *

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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

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



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More Windfalls For Wall Street

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August 3, 2009

At a time when states and municipalities are going broke, foreclosures are on the rise and bankruptcies are skyrocketing, it’s nice to know that the Federal Reserve keeps coming up with new and inventive ways to enrich the investment banks on Wall Street.

I’ve often discussed the involvement of the Federal Government in “propping up” (manipulating) the stock markets since the onset of the financial crisis, nearly one year ago.  The so-called “Plunge Protection Team” or PPT was created during the Reagan administration to prevent stock market crashes after the October 19, 1987 event.  Although the PPT has been called an “urban myth” by many skeptics, there is plenty of documentation as to its existence.  Its formal name is the Working Group on Financial Markets.  It was created by Executive Order 12631 on March 18, 1988, which appears at 53 FR 9421, 3 CFR 559, 1988 Comp.  You can read the Executive Order here.  Much has been written about the PPT over the years since 1988.  Brett Fromson wrote an article about it for The Washington Post on February 23, 1997.  Here is a paragraph from that informative piece:

In the event of a financial crisis, each federal agency with a seat at the table of the Working Group has a confidential plan.  At the SEC, for example, the plan is called the “red book” because of the color of its cover.  It is officially known as the Executive Directory for Market Contingencies.  The major U.S.stock markets have copies of the commission’s plan as well as the CFTC’s.

In October of 2006, two years before the financial meltdown, Ambrose Evans-Pritchard wrote an interesting piece about the PPT for the Telegraph.  Here’s some of what he had to say:

The PPT was once the stuff of dark legends, its existence long denied.  But ex-White House strategist George Stephanopoulos admits openly that it was used to support the markets in the Russia/LTCM crisis under Bill Clinton, and almost certainly again after the 9/11 terrorist attacks.

“They have an informal agreement among major banks to come in and start to buy stock if there appears to be a problem,” he said.

“In 1998, there was the Long Term Capital crisis, a global currency crisis.  At the guidance of the Fed, all of the banks got together and propped up the currency markets.  And they have plans in place to consider that if the stock markets start to fall,” he said.

Back on September 13, 2005, The Prudent Investor website featured a comprehensive report on the PPT.  It referenced a paper by John Embry and Andrew Hepburn.  Here is an interesting passage from that essay:

A thorough examination of published information strongly suggests that since the October 1987 crash, the U.S. government has periodically intervened to prevent another destabilizing stock market fall.  And as official rhetoric continues to toe the free market line, manipulation has become increasingly apparent.  Almost every floor trader on the NYSE, NYMEX, CBOT and CME will admit to having seen the PPT in action in one form or another over the years.

The conclusion reached in The Prudent Investor‘s article raises the issue of moral hazard, which continues to be a problem:

But a policy enacted in secret and knowingly withheld from the body politic has created a huge disconnect between those knowledgeable about such activities and the majority of the public who have no clue whatsoever.  There can be no doubt that the firms responsible for implementing government interventions enjoy an enviable position unavailable to other investors.  Whether they have been indemnified against potential losses or simply made privy to non-public government policy, the major Wall Street firms evidently responsible for preventing plunges no longer must compete on anywhere near a level playing field.

That point brings us to the situation revealed in a recent article by Henny Sender for the Financial Times on August 2.  Although, the PPT’s involvement in the equities markets has been quite low-profiled, the involvement one PPT component (the Federal Reserve) in the current market for mortgage-backed securities has been quite the opposite.  In fact, the Fed has invoked “transparency” (I thought the Fed was allergic to that) as its reason for tipping off banks on its decisions to buy such securities.  As Mr. Sender explained:

The Fed has emerged as one of Wall Street’s biggest customers during the financial crisis, buying massive amounts of securities to help stabilise the markets.  In some cases, such as the market for mortgage-backed securities, the Fed buys more bonds than any other party.

However, the Fed is not a typical market player.  In the interests of transparency, it often announces its intention to buy particular securities in advance.  A former Fed official said this strategy enables banks to sell these securities to the Fed at an inflated price.

The resulting profits represent a relatively hidden form of support for banks, and Wall Street has geared up to take advantage.  Barclay’s, for example, e-mails clients with news on the Fed’s balance sheet, detailing the share of the market in particular securities held by the Fed.

“You can make big money trading with the government,” said an executive at one leading investment management firm.  “The government is a huge buyer and seller and Wall Street has all the pricing power.”

A former official of the US Treasury and the Fed said the situation had reached the point that “everyone games them.  Their transparency hurts them.  Everyone picks their pocket.”

*   *   *

Larry Fink, chief executive of money manager BlackRock, has described Wall Street’s trading profits as “luxurious”, reflecting the banks’ ability to take advantage of diminished competition.

So let’s get this straight:  When Republican Congressman Ron Paul introduced the Federal Reserve Transparency Act (HR 1207) which would give the Government Accountability Office authority to audit the Federal Reserve and its member components for a report to Congress, there was widespread opposition to the idea of transparency for the Fed.  However, when Wall Street banks are tipped off about the Fed’s plans to buy particular securities and the public objects to the opportunistic inflation of the pricing of those securities by the tipped-off banks, the Fed emphasizes a need for transparency.

Perhaps Ron Paul might have a little more luck with his bill if he could demonstrate that its enactment would be lucrative for the Wall Street banks.  HR 1207 would find its way to Barack Obama’s desk before the next issue of the President’s Daily Brief.