October 26, 2009
As the economy continues to flounder along, one need not look very far to find enthusiastic cheerleaders embracing any seemingly positive information to reinforce the belief that this catastrophic chapter in history is about to reach an end. Meanwhile, others are watching out for signs of more trouble. The recent celebrations over the return of the Dow Jones Industrial Average to the 10,000 level gave some sensible commentators the opportunity to point out that this may simply be evidence that we are experiencing an “asset bubble” which could burst at any moment.
October 21 brought the latest Quarterly Report from SIGTARP, the Special Investigator General for TARP, who is a gentleman named Neil Barofsky. Since the report is 256 pages long, it made more sense for Mr. Barofsky to submit to a few television interviews and simply explain to us, the latest results of his investigatory work. In a discussion with CNN’s Wolf Blitzer on that date, Mr. Barofsky voiced his concern about the potential consequences that could arise because those bailed-out banks, considered “too big to fail” have continued to grow, due to government-approved mergers:
“These banks that were too big to fail are now bigger,” Barofsky said. “Government has sponsored and supported several mergers that made them larger and that guarantee, that implicit guarantee of moral hazard, the idea that the government is not going to let these banks fail, which was implicit a year ago, is now explicit, we’ve said it. So if anything, not only have there not been any meaningful regulatory reform to make it less likely, in a lot of ways, the government has made such problems more likely.
“Potentially we could be in more danger now than we were a year ago,” he added.
In comparing where the economy is now, as opposed to this time last year, we haven’t seen much in the way of increased lending by the oversized banks. In fact, we’ve only seen more hubris and bullying on their part. Julian Delasantellis expressed it this way in his October 22 essay for the Asia Times:
Now, a year later, things have turned out exactly as expected – except that the roles are reversed. The rulemakers have not disciplined the corrupted; it’s more accurate to say that the corrupted have abased the rulemakers. If the intention was that the big investment banks would settle down into a sort of quiet, reserved suburban lifestyle, the reality has been that they’ve acted more like former gangsters placed into the US government’s witness protection program, taking over the numbers racket on the Saturday pee-wee soccer fields.
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Obviously, there can’t be any inflation, or any real long-term earnings growth for consumer and business-oriented banks for that matter, as long as the economic crisis continues to destroy capital faster than Obama can ask Bernanke to print it.
These issues are of little concern to operations such as Goldman and Morgan, with their trading strategies and profit profiles essentially divorced from the real economy. But down here on planetary level, as the little league baseball fields don’t get maintained because the businesses who funded the work go out of business after having their loans called, after elderly people with chest pains have to wait longer for one of the few ambulances on station after rescue service cutbacks, life is changing, changing for the long term, and it sure isn’t pretty.
“Proprietary trading” by banks such as Goldman Sachs and JP Morgan Chase, forms an important part of their business model. This practice involves trading by those banks, on their own accounts, rather than the accounts of customers. The possibility of earning lavish bonus payments helps to incentivize risk taking by the traders working on the “prop desks” of those institutions. Gillian Tett wrote a report for the Financial Times on October 22, wherein she discussed an e-mail she received from a recently-retired banker, who stays in touch with his former colleagues — all of whom remain actively trading the markets. Ms. Tett observed that this man was “feeling deeply shocked” when he shared his observations with her:
“Forget about the events of the past 12 months … the punters are back punting as aggressively as ever,” he wrote. “Highly leveraged short-term trades are back in vogue as players … jostle to load up on everything from Reits [real estate investment trusts] and commercial property, commodities, emerging markets and regular stocks and bonds.
“Oh, I am sure the banks’ public relations people will talk about the subdued atmosphere in banking, but don’t you believe it,” he continued bitterly, noting that when money is virtually free — or, at least, at 0.5 per cent — traders feel stupid if they don’t leverage up.
“Any sense of control is being chucked out of the window. After the dotcom boom and bust it took a good few years for the market to get its collective mojo back [but] this time it has taken just a few months,” he added. He finished with a despairing question: “Was October 2008 just a dress rehearsal for the crash when this latest bubble bursts?”
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Yet, if you talk at length to traders — or senior bankers — it seems that few truly believe that fundamentals alone explain this pattern. Instead, the real trigger is the amount of money that central bankers have poured into the system that is frantically seeking a home, because most banks simply do not want to use that cash to make loans. Hence, the fact that the prices of almost all risk assets are rallying — even as non-risky assets such as Treasuries bounce too.
Now, some western policymakers like to argue — or hope –that this striking rally could be beneficial, in a way, even if it is not initially based on fundamentals. After all, the argument goes, if markets rebound sharply, that should boost animal spirits in a way that could eventually seep through to the “real” economy.
On this interpretation, the current rally could turn out to be akin to the firelighter that one uses to start a blaze in a pile of damp wood.
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So I, like my e-mail correspondent, am growing uneasy. Perhaps, the optimistic “firelighter-igniting-the-damp-wood” scenario will yet come to play; but we will probably not really know whether the optimists are correct for at least another six months.
Gillian Tett’s “give it six months” approach seems much more sober and rational than what we hear from many of the exuberant commentators appearing on television. Beyond that, she reminds us that our current situation involves a more important issue than the question of whether our economy can experience sustained growth: The continued use of leveraged risk-taking by TARP beneficiaries invites the possibility of a return to last year’s crisis-level conditions. As long as those banks know that the taxpayers will be back to bail them out again, there is every reason to assume that we are all headed for more trouble.
A Look Ahead
December 7, 2009
As 2010 approaches, expect the usual bombardment of prognostications from the stars of the info-tainment industry, concerning everything from celebrity divorces to the nuclear ambitions of Iran. Meanwhile, those of us preferring quality news reporting must increasingly rely on internet-based venues to seek out the views of more trustworthy sources on the many serious subjects confronting the world. On October 29, I discussed the most recent GMO Quarterly Newsletter from financial wizard Jeremy Grantham and his expectation that the stock market will undergo a
“correction” or drop of approximately 20 percent next year. Grantham’s paper inspired others to ponder the future of the troubled American economy and the overheated stock market. Mark Hulbert, editor of The Hulbert Financial Digest, wrote a piece for the December 5 edition of The New York Times, picking up on Jeremy Grantham’s stock performance expectations. Hulbert noted Grantham’s continuing emphasis on “high-quality, blue chip” stocks as the most likely to perform well in the coming year. Grantham’s rationale is based on the fact that the recent stock market rally was excessively biased in favor of junk stocks, rather than the higher-quality “blue chips”, such as Wal-Mart. Hulbert noted how Wal-mart shares gained only 14 percent since March 9, while the shares of the debt-laden electronics services firm, Sanmina-SCI, have risen more than 600 percent during that same period. Hulbert pointed out that the conclusion to be reached from this information should be pretty obvious:
My favorite reaction to Jeremy Grantham’s newsletter came from Paul Farrell of MarketWatch, who emphasized Grantham’s broader view for the economy as a whole, rather than taking a limited focus on stock performance. Farrell targeted President Obama’s “predictably irrational” economic policies by presenting us with a handy outline of Grantham’s criticism of those policies. Farrell prefaced his outline with this statement:
At the first point in the outline, Farrell made this observation:
Farrell’s discussion included a reference to the latest article by Matt Taibbi for Rolling Stone, entitled “Obama’s Big Sellout”. The Rolling Stone website described Taibbi’s latest essay in these terms:
Since the article is not available online yet, you will have to purchase the latest issue of Rolling Stone or wait patiently for the release of their next issue, at which time “Obama’s Big Sellout” should be online. In the mean time, they have provided this brief video of Matt Taibbi’s discussion of the piece.
The new year will also bring us a new book by Danny Schecter, entitled The Crime of Our Time. Mr. Schecter recently discussed this book in a live interview with Max Keiser. (The interview begins at 16:55 into the video.) In discussing the book, Schecter explained how “the financial industry essentially de-regulated its own marketplace. They got rid of the laws that required disclosure and accountability …” and created a “shadow banking system”. Shechter’s previous book, Plunder, has now become a film that will be released soon. In Plunder, he described how the subprime mortgage crisis nearly destroyed the American economy. The interview by Max Keiser contains a short clip from the upcoming film. Danny also directed the movie based on (and named after) his 2006 book, In Debt We Trust, wherein he predicted the bursting of the credit bubble.
It was right at this point last year when Danny’s father died. The event is easy for me to remember because my own father died one week later. At that time, I was comforted by reading Danny’s eloquent piece about his father’s death. Danny was kind enough to respond to the e-mail I had sent him since, as an old fan from his days at WBCN radio in Boston, during the early 1970s, my friends and I tried our best to provide Danny with any leads we came across. These days, it’s good to see that Danny Schechter “The News Dissector” is still at it with the same vigor he demonstrated more than thirty-five years ago. I look forward to his new book and the new film.