Thursday, October 9, 2008

Debt Rattle, October 9 2008: Debts no honest man could pay

Harris & Ewing Helen Marye 1915
Washington. Future socialite Helen, daughter of George Marye, ambassador to Russia

Ilargi: Here's your casino toilet paper:

Atlantic City, Bruce Springsteen

Well they blew up the chicken man in Philly last night
now they blew up his house too
Down on the boardwalk they're gettin' ready for a fight
gonna see what them racket boys can do

Now there's trouble busin' in from outta state
and the D.A. can't get no relief
Gonna be a rumble out on the promenade
and the gamblin' commission's hangin' on by the skin of its teeth

Everything dies baby that's a fact
But maybe everything that dies someday comes back
Put your makeup on fix your hair up pretty
And meet me tonight in Atlantic City

Well I got a job and tried to put my money away
But I got debts that no honest man could pay
So I drew what I had from the Central Trust
And I bought us two tickets on that Coast City bus

Now our luck may have died and our love may be cold
but with you forever I'll stay
We're goin' out where the sand's turnin' to gold s
o put on your stockin's baby 'cause the night's getting cold
And everything dies baby that's a fact
But maybe everything that dies someday comes back

Now I been lookin' for a job but it's hard to find
Down here it's just winners and losers
and don't get caught on the wrong side of that line
Well I'm tired of comin' out on the losin' end
So honey last night I met this guy and I'm gonna do a little favor for him

Everything dies baby that's a fact
But maybe everything that dies someday comes back
Put your hair up nice and set up pretty
and meet me tonight in Atlantic City

Ilargi: Five days before Canada’s general election, with the incumbent Conservative Prime Minister in dire straits, the World Economic Forum issues a report that claims Canada has the "safest" banking system on the planet. Nice timing.

Now, for me, it would be sufficient to note that Tony Blair is on the board there, to dismiss the entire report. For others, I realize, it would take something more. So I looked it over.

Well, lo and behold, I get a free gift: Ireland is rated no. 9 in the report. A country where the government just days ago took over, nationalized, the entire banking system, by guaranteeing all deposits. A country also where housing prices increased ten-fold in the past ten years, all of it achieved through loose lending by the country’s banks.

And that country rates way ahead of Britain, which, in turn, comes in at no. 44, way behind El Salvador. The World Economic Forum has an agenda, and it wants a right-wing victory in Canada.

Slam and Dunk Ilargi. Let’s move on, shall we?

There’s something I first wrote about years ago, and have left alone most of the time since. It exposes me to conspiracy theory claims, and that just takes away from more serious issues. Today, I’ll revive it. I don’t really care much what anybody says, never have, I simply figured it’s more productive to talk about things that can actually help people. And I have, as many will confirm.

But today the New York Times comes with a comprehensive overview of Alan Greenspan’s tenure at the Fed. So here goes.

When Marion King Hubbert introduced his Peak Oil theory for the US and the world (he didn’t name it that) in 1956, the general assumption is that it was dismissed across the board, that none of the folks in charge paid much attention.

My assumption is that they did. I think they jumped on it like a bunch of pouncing tigers, because if Hubbert was right, power itself would be at stake. And power needs to look ahead, power needs to be pro-active, it can’t afford to just react to events. Power also doesn’t rhyme with visibility, so we’re not talking about the presidents et al you see, they are mere hand puppets.

If Hubbert was right 50 years ago, the wizards behind the curtain reasoned, American society would be a whole new and different game. If oil supplies were sure to go down year after year at a certain point, the whole society would change, and not just a little bit.

So, in 1987, Alaln Greenspan was brought in, with the clear and defined task to liquidate and gut the American society and economy. See, that’s where people think I’ve lost it. And I understand. All I have to defend myself with is that, so far, I have been right about economic developments as long as I’ve written about them. All of them.

I am not an economics proffessor, like Roubini, but I have consistently said the same things he has. And so has Stoneleigh. Neither of us think it’s all that hard. If you throw a boulder down a mountain slope, you kind of know that it won’t end up where it started.

If you look at things from that point of view, everything falls into place. The low interest rates, the TV appearances by Greenspan and W. cheerleading subprime mortgage loans, and the encouragement of the $1 quadrillion derivatives market. Greenspan knew, and he knew all along.

At any point, any day, in the past 20 years, he could have intervened. Not only did he not do so, he kept on pushing for more of the same. This is the guy who had more access to more data than anyone else on the planet. Honest mistake? Give me a break. No, he saw it all develop as it did, and he made it unfold.

The US is a society that cannot but fail if external energy sources dwindle. And that is why we see financial markets fail today, with 100’s of millions of people left in their wake with "debts no honest man could pay".

There are no unfortunate coincidences anywhere to be seen.

PS The Banking system in Iceland has $61 billion in liabilities, or $200.000 per capita. Anyone want to move there?

PS2 The most stunning thing today, I think, is Hank Paulson indicating that he won't use his dictator powers to bankrupt institutions at will until after the election.

ECB Offers Banks Unlimited Cash
The European Central Bank brought forward plans to lend banks unlimited cash and pumped a record $100 billion in overnight funds into the financial system after an interest-rate cut failed to soothe tensions in money markets.

The Frankfurt-based ECB lent banks an additional 24.7 billion euros for six days, filling all bids at its new benchmark rate of 3.75 percent under new auction rules it had intended to introduce next week. The Frankfurt-based central bank yesterday lowered its key rate from 4.25 percent. The U.S. Federal Reserve and the ECB led a global round of rate cuts in an effort to shore up confidence in a financial system roiled by a wave of banking collapses.

The cost of borrowing in euros for three months nevertheless held at a record high today. The "ECB looks keen to take up the fight," said Christoph Rieger, a fixed-income strategist at Dresdner Kleinwort in Frankfurt. "After cutting borrowing costs, the last thing central banks want is for market rates to remain steady or, even worse, rise further."

The rate that banks charge for three-month euro loans was unchanged at 5.39 percent, according to the British Bankers' Association. The cost of borrowing in dollars for three months jumped to the highest level since December, the BBA said. Commercial banks are refusing to lend to each other after the U.S. housing slump caused the collapse of New York-based Lehman Brothers Holdings Inc. That's pushed market interest rates to records even as the ECB and other central banks injected billions of euros and dollars into the banking system.

The ECB today raised the amount of dollars it lends banks overnight to $100 billion from $70 billion yesterday and $50 billion the day before. In changes to its auctions announced last night, the ECB said it will lend banks as much cash as they can provide collateral for at the benchmark rate, rather than at a higher rate determined by demand. The new rules were originally to be introduced on Oct. 15.

The ECB yesterday also narrowed the corridor around its key rate to 100 basis points from 200 points. That means it reduced the cost of emergency overnight cash to 4.25 percent from 4.75 percent and raised the rate it pays banks for overnight deposits to 3.25 percent from 2.75 percent. The moves by the ECB come as the 15-nation euro-region teeters on the brink of a recession and banks reel from the shortage of credit. Governments in Germany, France, Belgium, and Luxembourg have been forced to step in and rescue ailing banks.

Iceland suspends all trading as last big bank is nationalised
Iceland's stock exchange has suspended trading in all shares because of "unusual market conditions" after the country's largest bank Kaupthing was nationalised. While the chairman of Kaupthing Sigurdur Einarsson blamed the Icelandic government for ruining the island's entire financial system after his bank became the third to be taken over the state in three days.

But local businessman Jon Jonsson said: "All the people are very angry with the billionaires for living the high life, with women, Hollywood celebrities and socialising with Roman Abramovich, while they got the banks into this debt." During the global credit boom its banks expanded overseas, lending large amounts to leading businessmen. The country's banking assets amounted to about nine times its gross domestic product and its current account deficit has billowed to 16pc of GDP last year.

Earlier this week the regulator took over two other large banks – first Landsbanki on Tuesday and then Glitnir yesterday - admitting the banks' debt was overwhelming the economy. Iceland's financial woes have forced the Icelandic central bank to abandon efforts to defend the country's currency. The country has also sent a delegation to its "new friend" Russia to negotiate a £3bn capital injection.

Mr Jonsson said: "We have to blame ourselves too - we had the big cars and three or four platinum cards. Now our banks and whole society has collapsed and we will pay the price." Prime Minister Geir Haarde said Iceland was probably paying the price for punching above its weight. "What we have learned from this whole exercise over the last few years is that it is not wise for a small country to try to take a leading role in international banking," he said.

Mr Einarsson said the government's decision to buy a 75pc stake in the third-largest bank, Glitnir, started the chain of events that led to the downfall of Kaupthing, the country's largest bank. "This triggered a series of events which nobody predicted or was able to control," he said, insisting that as late as September 29 the bank had been performing very well. "Credit rating agencies downgraded their credit ratings for the Icelandic state and the Icelandic banks, and foreign investors unleashed a landslide in which they tried to get rid of Icelandic assets, regardless of how solid they were," he said.

He also blamed the mass withdrawal of funds from Kaupthing Edge for the demise of the bank in Britain, ultimately leading to the total collapse of the organisation. Kaupthing's UK division, Kaupthing, Singer and Friedlander, was put into administration yesterday, putting the jobs of 770 workers in the City, the Isle of Man, Surrey, Glasgow and Birmingham at risk. The move to put Kaupthing under state control, came hours after Icelandic Prime Minister Geir Haarde said the seizure of the bank was "unlikely" and despite Mr Einarsson's insistence yesterday that the bank would never be nationalised.

This morning, the board resigned and Kaupthing was put into receivership. Iceland's Financial Supervisory Authority (FME) said in a statement that domestic deposits at Kaupthing were fully guaranteed. "The action taken by the FME is a necessary first step in achieving the objectives of the Icelandic Government and Parliament to ensure the continued orderly operation of domestic banking and the safety of domestic deposits," the authority said.

The Stunning Collapse of Iceland
The government has seized the top banks and halted trading on the Reykjavik stock exchange. Even so, Iceland may face national bankruptcy.

Home to just 304,000 people, tiny Iceland is emerging as the biggest casualty of the global financial crisis. On Oct. 9, the government took control of the country's largest bank, Kaupthing and halted trading on the Reykjavik stock exchange until Oct. 13. Authorities also used sweeping new emergency powers to hive off most of the domestic assets of the country's second-largest bank, Landsbanki, into a separate entity to be called "New Landsbanki" that will be fully owned by the government.

In a stunning turn of events over the past week, the vast majority of Iceland's once-proud banking sector has been nationalized. The government has taken control of Kaupthing, Landsbanki, and the No. 3 bank, Glitnir. Kaupthing also was forced to take an emergency $702 million loan from Sweden to prop up its Swedish arm, while the Norwegian Banks' Guarantee Fund offered $819 million in liquidity support to the local unit of Glitnir.

Now some believe that Iceland, which has transformed itself from one of Europe's poorest countries to one of its wealthiest in the space of a generation, even may face bankruptcy (, 10/8/08). In a televised address to the nation, Prime Minister Geir Haarde conceded: "There is a very real danger, fellow citizens, that the Icelandic economy in the worst case could be sucked into the whirlpool, and the result could be national bankruptcy."

To avert financial disaster, the country—which is a founding member of NATO—may turn to Russia for help. The Russian government has said it would consider lending Iceland $5.5 billion. "We have not received the kind of support that we were requesting from our friends," Haarde said. "So in a situation like that one has to look for new friends." (Haarde was adamant, though, that any deal did not extend to military cooperation, refuting the suggestion that Russia might be given access to an airbase vacated by the U.S. Air Force in 2006.)

Haarde says the government will begin talks with Russia on Oct. 14. The loan, if secured, would be used to shore up the Icelandic krona, which tumbled by 30% on Oct. 6—and not to fix the country's now nationalized banking system. The International Monetary Fund has sent a delegation to Reykjavik, but Haarde, speaking on Icelandic radio on Oct. 9, explained that seeking help from the IMF, "is an option, but we don't think it will come to that."

How did things get so bad so fast? Blame the Icelandic banking system's heavy reliance on external financing. With the privatization of the banking sector, completed in 2000, Iceland's banks used substantial wholesale funding to finance their entry into the local mortgage market and acquire foreign financial firms, mainly in Britain and Scandinavia. The banks, in large part, were simply following the international ambitions of a new generation of Icelandic entrepreneurs who forged global empires in industries from retailing to food production to pharmaceuticals. By the end of 2006, the total assets of the three main banks were $150 billion, eight times the country's GDP.

In the space of just five years, the banks went from being almost entirely domestic lenders to becoming major international financial intermediaries. Back in 2000, says Richard Portes, a professor of economics at London Business School, two-thirds of their financing came from domestic sources and one-third from abroad. More recently—until the crisis hit—that ratio was reversed. But as wholesale funding markets seized up, Iceland's banks started to collapse under a massive mountain of foreign debt.

Now the pressure is on the government to find a lasting solution—and fast. That's because the ramifications of Iceland's meltdown extend far beyond the tiny Nordic country. Over the last decade, Icelanders have taken advantage of low interest rates offered by the country's banks to finance rapid expansion beyond the island nation, building global empires in industries ranging from retail to pharmaceuticals. Hafnarfjordur-based Actavis, for instance, is now one of the world's biggest generic drug companies.

Perhaps the best known overseas success story is Baugur Group which owns a vast swath of Britain's retail industry , and earlier this year built up an equity stake in Saks Fifth Avenue in what many figured would become a takeover attempt . Though Baugur insists its British retail interests are safe, the collapse of the Icelandic banking system puts massive pressure on already struggling British retailers.

Offering higher interest rates than their counterparts in Britain, Icelandic banks have attracted huge inflows from British investors in recent years. Since its launch in October 2006, Icelandic internet bank Icesave, owned by Landsbanki, attracted $7 billion in deposits from 300,000 British retail investors. When the bank went bust, British Chancellor of the Exchequer Alistair Darling was forced to step in. On Oct. 8, he pledged to guarantee the deposits of all British retail investors in Landsbanki and its subsidiaries. The British government says it plans to sue Iceland in order to recoup at least some part of the savings of British customers in Icesave.

While British retail depositors will be protected, others aren't so lucky. British entrepreneur Robert Tchenguiz's property empire collapsed along with Iceland's banking system. Tchenguiz managed to lose $1.7 billion in just 24 hours after Kaupthing took control of his stakes in British retailer J Sainsbury and Mitchells & Butlers as the Icelandic government forced huge sale of its banks' overseas assets.

British taxpayers could lose out, too, thanks to higher taxes. That's because local government authorities in England and Wales are believed to hold an estimated $347 million in Icelandic banks. One local government council in Kent is said to have parked $87 million of taxpayer money in Icelandic banks. With no guarantee forthcoming from the British government, the Local Government Assn. plans to ask the government for temporary tax breaks to give their members some breathing room.

Back in 2006, after a currency crisis that hammered the krona, some analysts raised concerns about the high amount of leverage in the Icelandic banking system. But many eminent economists and commentators were quick to rush to the country's defense. They noted that Iceland had strong financial regulators, a sound economic environment with low unemployment, and a fully funded pension system. And though the country had a large current account deficit, they said, comparing it to emerging economies such as Thailand or Turkey was misguided.

But as Frederic S. Mishkin, a professor at Columbia University and a former economist with the Federal Reserve noted in a 2006 report entitled Financial Stability in Iceland, "If a significant fraction of traders in international financial markets think that Iceland will be undergoing financial meltdown—even if fundamentals don't warrant it—they could create a self-fulfilling prophecy by massively pulling out of Icelandic assets." Mishkin's prophecy just came true.

Who is going to bail out the euro?
Better late than never. A half-point cut in global interest rates may not halt the slide into a debt deflation, but at least we can hope to avoid the errors of the Great Depression. The slump – remember – had little to do with the 1929 crash. What turned the mild recession of 1930 into the sweeping devastation of the early 1930s was an entirely avoidable collapse of the banking system in both the US and Europe.

The culprit was tight money, made worse by beggar-thy-neighbour policies. The key levers of power in Western finance were held by the sorts of people who now think it is a good idea to drive our banks over a cliff. Thankfully, wiser heads are in charge this time. Yesterday's move by the US Federal Reserve, the Bank of England, the European Central Bank (ECB), the Canadians, Swiss and Swedes – with Chinese help – is the first time in this sorry saga that the big guns have joined forces in monetary policy to arrest the disintegration of the credit system. The Fed and the ECB are no longer fighting. That alone is a massive change for the better.

However, the failure to offer a lifeline to distressed banks across the world earlier by cutting rates is unforgivable. The G7 bloc of economic powers is in recession or on the cusp, including Japan – where the Nikkei index fell by 10 per cent yesterday. American consumer credit is contracting at an annual rate of 7.9 per cent, the most violent squeeze on record.

The Baltic Dry Index measuring freight rates for shipping has fallen 70 per cent since May. The whole nexus of commodities except gold, now a super currency, is in freefall. Oil has fallen by 41 per cent from its peak, copper by 38 per cent, wheat by 50 per cent. Few with their finger on the pulse of global commerce now think the threat of inflation is remotely credible. Tesco's Sir Terry Leahy says food prices are now deflating at two per cent in his stores.

My view is that Washington has done what is needed to prevent the collapse of the US economy. It has taken over the entire credit system, after all, surpassing Roosevelt's New Deal. The US has guaranteed the $3.5 trillion money market funds. It has nationalised the $5.3 trillion pillars of the mortgage market, Fannie and Freddie. The Fed is accepting any junk as collateral at its lending window. This week it went the whole hog after panic hit the $1.6 trillion market for commercial paper. It is now offering loans without any security at all. The US government has become a bank. Yes, this is US socialism. What is the alternative?

The $700 billion Paulson rescue plan should put a floor under the colossal dung heap known as "structured credit". It is a bad plan, since it does not target the money on the recapitalisation of the core banking system. But it will help refloat lenders by raising the price of beaten-down securities somewhere nearer their true "hold-to-maturity" worth. An ugly recession is coming, as debt leverage kicks into reverse. The purge will be slow and punishing.

Some 12 million Americans are already trapped in negative equity, but at least they can see where this might end. After much drama, the US institutions have risen to the challenge. The Fed, the Treasury, and Congress have managed to take some sort of coherent action. The jury is out on Europe, where the hurricane is now smashing the banking system.

Those such as German finance minister Peer Steinbruck – who thought the sub?prime crisis was just an "American problem" – have had a rude shock. The collapse of Hypo Real with €400 billion of liabilities has made him face the unsettling truth that German banks have played a big part in this $10 trillion speculative venture undertaken by the whole global banking industry. Europeans borrowed vast sums in dollars in the offshore money markets when dollar credit was cheap.

This was leveraged by multiples of 50 or 60 to fund whatever craze was in fashion – Russia, Brazil, infrastructure. The credit crunch has left these banks floundering. They have to pay back a lot of dollars, yet the underlying assets are crumbling. They are caught in a self-feeding spiral of "deleveraging". Even those European banks that stuck to stodgy investments are caught in a vice, since many rely to some degree on three-month loans for funds. That market is jammed shut. They cannot roll-over their loan books. This way lies sudden death, as Hypo discovered.

Who in the eurozone can do what Alistair Darling has just done in extremis to save Britain's banks, as this $10 trillion house of cards falls down? There is no EU treasury or debt union to back up the single currency. The ECB is not allowed to launch bail-outs by EU law. Each country must save its own skin, yet none has full control of the policy instruments.

Germany has vetoed French and Italian ideas for an EU lifeboat fund. The former knows exactly where that leads. It is a Trojan horse that will be used one day to co-opt German taxpayers into rescues for less Teutonic EMU kin. One can sympathise with Berlin. But sharing debts with Italy and Spain was implicit when they agreed to launch the euro. A shared currency entails obligations. We have reached the watershed moment when Germany has to decide whether to put its full sovereign weight behind the EMU project or reveal that it is not prepared to do so in a crisis.

This is a very dangerous set of circumstances for monetary union. Will we still have a 15-member euro by Christmas?

Pressure on G7 after muted response to rate cuts
Finance ministers from the world's top economies faced calls on Thursday for united action after an emergency round of interest rate cuts and government support for ailing banks won only muted market support.

The United States signaled it could consider buying into banks to help get frozen funds flowing again and governments in Europe moved to try to restore confidence in financial firms hit by the worst crisis since the 1930s. South Korea, Hong Kong and Taiwan lowered their interest rates after coordinated cuts on Wednesday from major central banks including the U.S. Federal Reserve.

European Central Bank council member Miguel Angel Fernandez Ordonez said further coordinated rate cuts were possible. "In the short-term it seems absurd, but I don't rule anything out. I think yesterday's move was very important," Ordonez said.

The measures were designed to contain the market meltdown that has destroyed lenders from Wall Street to Iceland. People are worried about the security of their savings and jobs and much of the industrialized world is on the brink of recession. Attention was turning to a meeting in Washington on Friday of finance ministers from the Group of Seven wealthy nations.

Investors want politicians from the G7 and European Union to show they can cooperate more effectively rather than rely on piecemeal national initiatives. British Prime Minister Gordon Brown has urged the G7 and EU to guarantee lending between banks, in line with measures Britain has introduced domestically. However, EU states, criticized for their fragmented response to the crisis, remained divided over the need to set up a financial supervisor with responsibility across Europe.

European Commission President Jose Manuel Barroso said he was not satisfied by the level of cooperation among the bloc's 27 members. The Financial Times newspaper underlined the importance of the G7 gathering. "The Group of Seven meeting offers a unique and timely opportunity for policymakers to show leadership by presenting a credible and coordinated framework to solve the crisis," it wrote in an editorial.

There was little sign Wednesday's rate cuts had unlocked money markets. Three-month borrowing on interbank markets remained expensive near this week's highs across all currencies, and lending beyond a week or two remained frozen, traders said. Stock markets were mixed. Japan's Nikkei dipped to its lowest close in more than five years after a volatile day. European stocks traded around 1.5 percent higher after falling to near five-year lows on Wednesday despite the rate cuts.

U.S. shares were expected to open higher, breaking a six-day losing streak in which they have shed almost 15 percent. U.S. markets face additional uncertainty after a ban on short-selling of financial stocks expired at midnight on Wednesday. Short-sellers bet on falling stock prices and had been blamed for driving share prices lower.

The New York Times, quoting unnamed government officials, said the Treasury was considering taking ownership stakes in many U.S. banks. U.S. Treasury Secretary Henry Paulson, speaking to reporters, stressed that the recently approved $700 billion financial bailout bill gave him wide authority to inject capital into the banking system and would not rule out having Treasury take an ownership position in banks if necessary.

The bank recapitalization plan, in its preliminary stages, has emerged as one of the preferred options being discussed in Washington and on Wall Street, the New York Times said. The United States would be taking a leaf out of Britain's book. London said on Wednesday it was prepared to inject 50 billion pounds ($87 billion) of taxpayers' money into its banks and guarantee interbank lending.

Buyout Loans Fall on Speculation of Iceland Fire Sale
The value of high-risk, high-yield loans used to fund leveraged buyouts tumbled amid speculation that more than 1 billion euros ($1.4 billion) of debt is being offered for sale, including assets seized from Iceland's banks. Brokers sent details of loans for sale to investors and traders, according to four people who saw the lists, as Iceland's banking industry collapsed under the weight of its foreign debt.

"There are several bid lists of leveraged loans circulating," said Louis Gargour, chief investment officer at London-based hedge fund LNG Capital, who is setting up a distressed debt fund. "One is from an Icelandic bank and two are from leveraged hedge funds. This will affect the mark-to-market for all loans."

Iceland took control of Kaupthing Bank hf, the nation's biggest lender, in an attempt to provide a "functioning domestic banking system," the Financial Supervisory Authority said in a statement on its Web site today. Iceland's banks have about $61 billion of debt, 12 times the size of the economy, according to data compiled by Bloomberg. Landsbanki Island hf and Glitnir Bank hf, the second and third largest banks, have already collapsed.

Europe's Markit iTraxx LevX index of credit-default swaps on loans to 75 companies dropped to a record low of 87.5 from 92.75, according to Deutsche Bank AG. The current series of the index started at 99 on Sept. 29. The Markit LCDX, the benchmark U.S. loan credit-default swap index, dropped to a record 87.5 from 88.85, Goldman Sachs Group Inc. said.

The LevX Index is based on credit-default swaps linked to companies including Alliance Boots Ltd., the U.K. drugstore chain owned by Kohlberg Kravis Roberts & Co., and Expro International Group Plc, the oilfield-services company bought by Candover Partners Ltd.
Credit-default swaps are financial instruments based on bonds and loans that are used to speculate on a company's ability to repay debt. They pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements. An increase indicates a deterioration in the perception of credit quality; a decline, the opposite.

The cost of protecting corporate debt from default soared to a record today. Credit-default swaps on the benchmark Markit iTraxx Crossover index of 50 companies with mostly high-risk, high yield credit ratings rose 42 basis points to 680, according to JPMorgan Chase & Co.
High-yield, high-risk debt is rated lower than Baa3 by Moody's Investors Service and BBB- by Standard & Poor's.

Paulson Signals Treasury May Invest Capital in Banks
Treasury Secretary Henry Paulson signaled the government may invest in banks as the next step in trying to resolve the deepening credit crisis. Paulson told reporters in Washington yesterday that legislation Congress passed last week to rescue financial institutions gave him broad authority that he intends to use, beyond just buying mortgage-related assets on banks' balance sheets.

He indicated that an option available may be boosting companies' capital with cash infusions. "It is the policy of the federal government to use all resources at its disposal to make our financial system stronger," Paulson said. "We will use all of the tools we've been given to maximum effectiveness, including strengthening the capitalization of financial institutions of every size."

Banks worldwide aren't raising enough capital to offset losses: while posting $592 billion of writedowns and losses during the crisis, they have added just $442.5 billion of new capital, according to data compiled by Bloomberg. The International Monetary Fund anticipates losses will more than double to $1.4 trillion. In a sign that potential costs to taxpayers from any government aid to financial companies could be higher than at first foreseen, the Federal Reserve yesterday increased its lending to American International Group Inc.

The Fed set up a new program to extend up to $37.8 billion to AIG by borrowing securities from units of the insurer. The fresh aid comes just three weeks after the central bank took control of AIG with an $85 billion loan. Paulson spoke two days before officials from the Group of Seven industrial nations gather in Washington for their first meeting since the financial meltdown accelerated last month. Hours earlier, the Federal Reserve, European Central Bank and four other central banks lowered interest rates in an unprecedented coordinated effort to ease the economic effects of the credit freeze.

Paulson didn't rule out new programs following the meeting, while noting that it might "not make sense to have identical policies" because each countries' circumstances are different. U.K. Prime Minister Gordon Brown has suggested authorities act to guarantee lending in the interbank market. Brown also opted yesterday to spend 50 billion pounds ($87 billion) to partly nationalize at least eight British banks. Paulson stressed the U.S. rescue plan won't save all firms.

"One thing we must recognize -- even with the new Treasury authorities, some financial institutions will fail," Paulson said. Instead, regulators will take measures to limit the systemic risk from any single bank failure, he said. President George W. Bush's working group on financial markets, which is headed by Paulson and includes the Fed, Securities and Exchange Commission and Commodity Futures Trading Commission, said Oct. 6 the Treasury will move quickly to implement the financial bailout. The plan also allows for guarantees.

The law, approved by Congress Oct. 3, gives the government power to buy assets, provide guarantees and "address capital raising," the working group said. Beyond the G-7 talks, Treasury Undersecretary David McCormick said this weekend would feature a "special meeting" of finance officials from the Group of 20, which combines developed and emerging economies. "We're reflecting a reality of the global economy," he said of the talks.

President Bush signed into law on Oct. 3 a measure that gives Paulson the authority to purchase as much as $700 billion in mortgage-related assets and other securities from financial institutions saddled with illiquid debt. Since then, the Standard & Poor's 500 Index has dropped about 10 percent and credit markets have tightened further. "Patience is also needed because the turmoil will not end quickly and significant challenges remain ahead," Paulson said. "Neither passage of this new law nor the implementation of these initiatives will bring an immediate end to current difficulties."

The Treasury this week is recruiting asset managers and other staff to carry out the rescue plan, which will be administered by a newly formed Office of Financial Stability in the Treasury's headquarters in Washington. Pacific Investment Management Co. and BlackRock Inc. submitted bids to manage troubled mortgage-backed assets as part of the program, people familiar with the matter said.

Money market stress mounts
Stress across money markets intensified yesterday in spite of the unprecedented round of co-ordinated interest rate cuts by central banks aimed at helping banks gain access to funds. In recent days, central banks have pumped vast amounts of liquidity into the short-term lending markets, only for banks to hoard the cash and not lend to other banks. As well as the rate cuts, the US Treasury tried to alleviate lending problems in government bond markets by making more of its bonds available for collateral.

"The concerted central bank rate cuts should provide some relief in [Thursday's] fixings, but the funding will remain very tight, with negative effects on the economy mounting," said TJ Marta, strategist at RBC Capital Markets. The breakdown in trust between lenders and borrowers since the bankruptcy of Lehman Brothers in mid-September has paralysed short-term funding markets. Institutional investors are unwilling to risk lending unsecured funds to banks, or even buy commercial paper beyond one day issues by highly rated companies.

The reluctance to lend between banks and other investors has also created chaos in the government repurchase or repo market, another important source of short-term funds for banks. In a repo transaction, sellers of debt securities promise to buy them back later for an agreed price. Investors have stopped lending cash to banks even in return for collateral such as US Treasuries.

That has broken the chain of lending between numerous banks to such an extent that borrowed securities have not been returned. These so-called "repo fails" prompted the US Treasury yesterday to re-open various Treasury issues and sell more debt yesterday. A greater supply of Treasuries will only improve lending in the repo market once the new debt settles next week said traders.

Meanwhile, there was little sign stress was easing. The three-month dollar London Interbank Offered Rate, the rate at which banks lend to each other, rose 20 basis points to 4.52 per cent. This benchmark, which affects interest charged on loans and mortgages, has been above 4 per cent since the start of October. In New York, indications from Tullett-Prebon, an interdealer broker, suggested only slightly higher settings for US dollar Libor when they are fixed today.

Hank Paulson warns of more bank failures
More banks will fail in the weeks ahead despite dramatic moves by policymakers across the world to tackle the financial crisis, the US Treasury Secretary admitted last night. In comments which sent share prices in Wall Street tumbling, Hank Paulson warned that the crisis would claim further victims and ruled out a "grand plan" for an international bail-out of the financial system.

His comments came at the end of another fraught day in markets worldwide as investors reacted nervously to unprecedented co-ordinated interest rate cuts by central banks across the Western world. Mr Paulson, who last week successfully steered his $700bn Emergency Economic Stabilization Act (EESA) through Congress, warned that the scheme and the half percentage point interest rate cuts in countries including the UK and the US would not be enough to prevent more financial institutions from imploding.

"One thing we must recognise: even with the new Treasury authorities, some financial institutions will fail," he said. "The EESA doesn't exist to save every financial institution for its own sake." Neither should investors expect a quick recovery in the markets, he added. "It is too early to look for encouraging signs in credit markets," he said. "It's going to take a while to work through this problem."

Within minutes of the warning the Dow Jones tumbled from its afternoon peak of 9575 points to close down 2pc or 189 points at 9258.1. Meanwhile, Treasury yields had their biggest one-day rise in more than a decade. The comments come ahead of the Group of Seven meeting of finance ministers in Washington tomorrow. Markets had been bubbling with rumours that ministers would hatch a co-ordinated plan to pour public cash into struggling banks, but Mr Paulson dismissed such hopes.

"When you look at the G7 you've got very different countries' economies with different-sized financial systems and different needs so it would not make sense to have identical policies," he said. He added that the credit squeeze was likely to persevere for some time, and admitted that the Trouble Asset Relief Program (TARP), which aims to buy up the illiquid financial instruments at the heart of the sub-prime crisis, would take some time to kick into action.

"We expect it will be several weeks before our first purchase," he said. However, he did not rule out using the powers granted to the Treasury by the bill to move one step further and actively buy banks' shares in order to recapitalise their balance sheets. Such a move would mirror the dramatic £50bn bail-out confirmed by Alistair Darling for the UK yesterday. Although he insisted the creation of the TARP was going well, he admitted he had not yet found anyone to lead the project.

With a number of US and European banks having collapsed in recent weeks many investors had been hoping for a signal that policymakers would allow no more failures. As it was, Mr Paulson stood by his decision to allow Lehman Brothers to collapse, saying: "Looking back we took the right moves – there was no buyer for Lehman."

The Lehman collapse triggered a chain reaction which helped contribute to the turmoil of recent weeks. Among the victims was insurer American International Group. The Federal Reserve last night arranged a further $37.8bn injection of cash into AIG, which has been effectively nationalised after coming close to failure.

U.S. Treasury Seeks Relief in More Bonds
The Treasury Department, looking for more ways to ease the credit crunch gripping financial markets, said it would release a total of $20 billion more Treasury bonds into the market.

The move is intended to relieve some of the strain in the short-term lending markets, where investors have been unwilling to lend Treasury securities to other market participants over fears they won't be returned. Institutions such as banks, corporations and money-market funds borrow billions of dollars overnight using Treasury bonds as collateral, a vital cog of the financial system.

Treasury Secretary Henry Paulson, speaking at a news conference, didn't rule out additional moves to help stabilize the financial markets. Mr. Paulson said he would "not speculate" on additional steps the government might take, such as directly injecting capital into banks, a move announced Wednesday by the British government. "We have a broad range of authorities and tools," Mr. Paulson said. By making more securities available, Treasury hopes to jolt the markets into functioning normally again. Treasury took similar steps after the 9/11 terrorist attacks.

The additional supply of securities released Wednesday by Treasury is intended to ease the shortage in medium-term government paper. The Treasury is targeting problems in the so-called repo market, which helps to fund the daily business of the country's largest companies and banks. These institutions typically borrow Treasury securities to use as collateral for loans they need to finance their business. But currently, central banks and other lenders are holding tight to the ultra-safe Treasurys, causing bottlenecks in the repo market.

There have been an increasing number of failed transactions in that market, where borrowers fail to hand over the securities used as collateral, because they can't access the securities or because they don't want to part with them. Lou Crandall, chief economist at Wrightson ICAP, said the Treasury's move in 2001 helped to alleviate the gridlock and made market participants more willing to lend. The Treasury's move to offer four securities on Wednesday could have a similar impact, he said, though the government may ultimately have to offer more securities than it designated.

Libor Dollar Rate Jumps to Highest in Year as Credit Stays Frozen
The cost of borrowing in dollars for three months in London soared to the highest level this year as coordinated interest-rate reductions worldwide failed to revive lending among banks for any longer than a day.

Attempts by policy makers to restore confidence to money markets are being stymied by almost daily crises among financial institutions. Iceland's government took over the nation's biggest lender today to keep the country's banking system working. American International Group Inc., the insurer taken over by the U.S. government, may need $37.8 billion of extra funds, the Federal Reserve Bank of New York said yesterday.

"To see little or no reaction in the fixings is very disappointing and reinforces the fact that Libor is broken and the transmission mechanism from central banks isn't working," said Barry Moran, a currency trader in Dublin at Bank of Ireland, the country's second-biggest bank. "Things are still very stressed and we don't know what's going to fix it."

The London interbank offered rate, or Libor, for three-month loans rose to 4.75 percent today, the highest level since Dec. 28. The Libor-OIS spread, a measure of cash scarcity, widened to a record. The overnight rate fell to 5.09 percent, still 359 basis points more than the Fed's 1.5 percent target rate.

The European Central Bank today offered banks as much cash as they need for six days at its benchmark rate of 3.75 percent, bringing forward new measures to soothe money markets. It also loaned banks a record $100 billion in overnight dollar funds, allotting most of the cash at 5 percent, down from 9.5 percent yesterday.

South Korea, Taiwan and Hong Kong cut interest rates today, a day after reductions by central banks including the Federal Reserve and European Central Bank that were designed to stem damage from the global financial crisis. The U.K. government pledged yesterday to spend 50 billion pounds ($87 billion) to stave off a collapse of the British banking system. "I don't see a wave of liquidity coming into the market," said Alessandro Tentori, an interest-rate strategist in London at BNP Paribas SA. "People are still holding on to their cash because there's still a great deal of uncertainty out there."

Interbank lending rates have climbed as financial institutions stockpile cash to meet funding expectations and remain skeptical that central bank efforts to unblock markets will work. The three-month rate in euros held at a record high of 5.39 percent today. Iceland's government today seized control of Reykjavik- based Kaupthing Bank hf, completing the takeover of a banking industry that has collapsed under the weight of its foreign debt.

Late yesterday, the Fed said New York-based AIG can swap as much as $37.8 billion of its "investment-grade, fixed-income securities" for cash to "replenish liquidity." Money-market rates rose today in Hong Kong, Singapore and Japan to the highest levels in at least nine months. Hong Kong's three-month interbank offered rate jumped to 4.4 percent, a one- year high. Singapore's comparable rate for dollar loans increased to 4.51 percent, the highest level since Jan. 8.

The Libor-OIS spread, the difference between the three-month dollar Libor and the overnight indexed swap rate, climbed 23 basis points to an all-time high of 348 basis points. The average was 8 basis points in the 12 months to July 31, 2007, before the credit squeeze began. The difference between what banks and the Treasury pay to borrow money for three months, the so-called TED spread, widened 5 basis points to 410 basis points, the most since Bloomberg records began.

"Libor spreads are still wide, which suggest offshore banks are not willing to take more risks lending to other banks," said Cezar Bayonito, a liquidity trader at Allied Banking Corp. in the Philippines. "Interest-rate cuts will be of little help in the near term because the issue is trust, not rates."

Libor, set by 16 banks in a daily survey by the British Bankers' Association at about noon in London, determines rates on $360 trillion of financial products worldwide, from home loans to derivatives. Member banks provide estimates on how much it would cost to borrow in 10 currencies for periods ranging from a day to a year. Overnight rates on dealer-placed commercial paper rose 56 basis points to 3.5 percent yesterday, while investors seeking a haven for their money pushed the yield on three-month Treasury bills down 15 basis points to 0.6 percent. Bill yields rose 4 basis points today to 0.66 percent.

AIG rescue rises to $123 billion
The Federal Reserve Board said Wednesday that it would provide up to $37.8 billion to the embattled insurer the American International Group to help it deal with a rapidly dwindling supply of cash.

The additional assistance is on top of $85 billion in a bridge loan that the Federal Reserve extended to A.I.G. in September, but it will take a different form. A spokesman for A.I.G., Nicholas Ashooh, said the new assistance was intended to keep the company from having to draw down the Fed loan so quickly.

The Fed threw A.I.G. the $85 billion lifeline shortly after the collapse of Lehman Brothers, when the financial markets were reeling and there were doubts the system could weather the demise of another big financial services company. At the time, the Fed’s loan was the most radical intervention ever by the central bank in a company’s affairs.

Even as A.I.G. now works through a major overhaul, the rest of the insurance industry is still struggling with the continuing turmoil in the financial markets. Shares of MetLife, the nation’s largest life insurer, fell 27 percent on Wednesday to close at $27 a share after the company said its third-quarter earnings would be down significantly from a year ago and that it had to raise new capital.

Its earnings were hurt by lower investment returns, lower fees on variable annuities, and losses on its investments in troubled companies like Lehman Brothers, A.I.G. and Washington Mutual. MetLife offered 75 million shares at $26.50 a share on Wednesday. The Allstate Corporation’s stock fell 21 percent on Wednesday amid investor concern that it, too, would have to raise new capital. The Hartford Financial Services Group said this week that it would raise $2.5 billion.

The bailout of A.I.G. has not gone smoothly. Shares were greatly diluted by the Fed’s original move, and investors have been asking why they were not allowed to vote on the terms of the bailout. Then the company surprised analysts last week by disclosing that it had already drawn down $61 billion of the Fed loan. The speed of the drawdown led credit analysts to downgrade some of its debt and put other types of its debt on negative credit watch, signaling that other downgrades were possible.

This week, former A.I.G. executives were questioned by members of Congress, who wanted to know whether Goldman Sachs and other business partners had benefited from the bailout. Goldman Sachs has said that it had no meaningful exposure to losses from A.I.G.

A.I.G. said Wednesday that it would use the $37.8 billion from the Fed to improve the liquidity of its securities lending business, which is losing cash rapidly. By stopping that flow, A.I.G. said, it would be able to preserve more of the Fed loan and use that money more effectively to wind down the affairs of A.I.G.’s troubled structured finance division, known as the financial products unit.

Under the latest agreement, the Federal Reserve Bank of New York will accept up to $37.8 billion of fixed-income securities from A.I.G.’s regulated life insurance subsidiaries and will give the subsidiaries cash collateral in return. That will help the insurance subsidiaries to settle existing transactions in their securities lending business.

In that business, the insurers lent securities to investors, like hedge funds, and received both the value of the securities and a fee in return. The insurers then invested those funds in other instruments, such as mortgage-backed securities. But now that the value of mortgage-backed securities has plummeted, A.I.G.’s insurance subsidiaries do not have the money to repay their securities-lending partners when they bring back the securities they borrowed and want their money back.

By stepping in and permitting A.I.G. to lend the securities onward to the New York Fed, the Fed will allow A.I.G. to preserve cash. It will also keep A.I.G. from having to mark down the value of the securities at a time when their market value is constantly changing. The central bank said that the new program would help A.I.G. use cash more effectively and provide enhanced credit protection to the taxpayers, who stand behind the $85 billion loan.

AIG, Castigated for Resort Event, Plans Another One
American International Group Inc., castigated by the White House, Congress and Barack Obama for hosting a $440,000 conference days after an $85 billion federal bailout, plans to hold another gathering for brokers next week. The event, at the Ritz-Carlton in California's Half Moon Bay, aims to "motivate and educate" about 150 independent agents who sell AIG coverage to high-end clients, said spokesman Nicholas Ashooh.

White House spokeswoman Dana Perino today called "despicable" expenses from the first gathering, a weeklong conference last month at the St. Regis Resort in Monarch Beach. Those costs included $23,000 for spa services, according to Representative Henry Waxman, chairman of the Oversight and Government Reform Committee. AIG considered buying advertisements to explain its position, only to be told by public relations consultant George Sard that it would be "a really bad idea."

"To spend the taxpayer's money on an expensive ad campaign to apologize for how you used taxpayer money leaves you open to further attacks," Sard wrote in an e-mail to Ashooh. Sard, chief executive officer of New York-based Sard Verbinnen & Co., said the message was a private e-mail mistakenly sent to Bloomberg and wasn't intended to be a public statement.

President George W. Bush didn't push for the bailout "to help top executives go to a spa," Perino said today at the daily White House briefing. Hours later, the Federal Reserve agreed to loan AIG an additional $37.8 billion on top of the initial $85 billion. AIG Chief Executive Officer Edward Liddy, who replaced former CEO Robert Willumstad as a condition of the federal loan, today told Treasury Secretary Henry Paulson that the company intends to reevaluate expenses.

"We understand that our company is now facing very different challenges," Liddy wrote in a letter to Paulson. "We owe our employees and the American public new standards and approaches." Obama, the Democratic presidential nominee, said during last night's debate with Republican candidate John McCain that AIG should repay the U.S. Treasury for the costs of the event.

"AIG, a company that got a bailout, just a week after they got help, went on a $400,000 junket," Obama said. "And I tell you what: the Treasury should demand that money back and those executives should be fired." In his letter to Paulson, Liddy said the gathering was planned "many months" before the Federal Reserve's loan to AIG. Next week's meeting was also planned before the loan, AIG spokesman Nicholas Ashooh said.

"This sort of gathering has been standard practice in our industry for many years," Liddy wrote. "Let me assure you that we are reevaluating the costs of all aspects of our operations in light of the new circumstances in which we are all operating."

About 50 AIG employees will also attend the Half Moon Bay meeting. Ashooh said he didn't know the cost of the event or how long it would last. Next week's meeting has more of an educational component than the St. Regis meeting, he said. Receipts provided by Waxman for the earlier conference at the St. Regis were dated Sept. 22 through Sept. 30. AIG agreed to the $85 billion loan from the government on Sept. 16, ceding a 79.9 percent ownership interest to the U.S. government.

Iceland's Krona Currency Trading Halted
Trading in the Icelandic krona came to a halt after the government seized control of Kaupthing Bank hf, the nation's biggest lender, as the financial crisis deepens. There haven't been any so-called krona spot trades today, or transactions in which currency must be exchanged immediately, according to Stockholm-based Nordea Bank AB and TD Securities Ltd. in London.

The last spot trade was at 340 krona per euro, Nordea said. Regulators earlier this week took over Iceland's second- and third-largest lenders, Glitnir Bank hf and Landsbanki Islands hf, which acted as krona clearing houses. "Effectively the krona can't be traded at the moment because there are no more banks to clear the trade," said Mick Ankjaer, a foreign-exchange dealer in Copenhagen at Nordea, Scandinavia's biggest lender.

The bid/ask spread for the krona against the euro, or the price at which traders are willing to buy or sell, was 225 per euro to 400 per euro as of 11:52 a.m. in Reykjavik, according to Antje Praefcke, a currency analyst in Frankfurt at Commerzbank AG, Germany's second-largest lender. The krona plummeted to 350 per euro this week in trading between banks outside of Iceland, Praefcke said. Icelandic banks may still be trading with each other, she said.

"Foreign banks have cut credit lines with Icelandic banks so they can't settle trades," Praefcke said. The Reykjavik-based central bank, Sedlabanki, yesterday abandoned a peg to the euro after just a day when it became unable to defend the rate of 131 krona per euro. Fitch Ratings yesterday downgraded Iceland's foreign and local-currency debt ratings to BBB- and A-, respectively.

"Nobody wants to hold the currency unless they have to," said Beat Siegenthaler, the London-based chief strategist for emerging markets at TD Securities Ltd. "Something has to be done to restore a minimum level of confidence in the currency." Iceland will start talks with Russia on Oct. 14 to secure a loan of as much as 4 billion euros ($5.48 billion), Prime Minister Geir Haarde said yesterday. The government hasn't asked the International Monetary Fund for a standby loan or an economic program, he said. Moody's Investors Service yesterday lowered the government's credit rating three steps to A1.

Iceland Takes Over Kaupthing as Biggest Banks Fail
Iceland's government seized control of Kaupthing Bank hf, the nation's biggest bank, completing the takeover of a banking industry that collapsed under the weight of foreign debt. Iceland is guaranteeing Kaupthing's domestic deposits and taking control of banks in an attempt to provide a "functioning domestic banking system," the country's Financial Supervisory Authority said in a statement on its Web site today.

The banks are unable to finance about $61 billion of debt, 12 times the size of the economy, according to data compiled by Bloomberg. The collapses have affected 420,000 British and Dutch customers, and frozen assets held by universities, hospitals, councils and even London's police force. The government is seeking a loan from Russia and may ask for aid from the International Monetary Fund to help guarantee deposits.

"This looks like a total collapse," said Thomas Haugaard Jensen, an economist at Svenska Handelsbanken AB in Copenhagen. "It'll take several years before the economy can start to return to growth." Trading in the krona ground to a halt today after the central bank yesterday ditched an attempt to fix the exchange rate at 131 krona to the euro. Nordea Bank AB, the biggest Scandinavian lender, said the krona hadn't been traded on the spot market today, while the last quoted price was 340 per euro, compared with 122 a month ago.

Assets at Iceland's three biggest banks, Glitnir Bank hf, Landsbanki Island hf and Kaupthing, had grown five-fold since 2004 as the companies looked to expand beyond the confines of an island with a population of 320,000, half that of the city of Las Vegas. Much of that expansion was debt financed. The cost of borrowing in dollars for three months in London soared to the highest level this year today as coordinated interest-rate reductions worldwide failed to revive lending among banks for any longer than a day, partly on concern over who holds Icelandic debt.

U.K. taxpayers will probably face a bill of at least 2.4 billion pounds ($4.1 billion) to compensate about 300,000 U.K. holders of accounts at Icesave, a unit of Landsbanki, the Financial Times reported, citing unidentified U.K. officials. All trading in Iceland's equity markets is suspended until Oct. 13 due to "unusual market conditions," the country's exchange said today.

"The economy may well contract more than 10 percent between now and the end of this crisis," said Lars Christensen, chief analyst at Danske Bank A/S in Copenhagen. "Inflation will jump to at least 50 percent to 75 percent in the coming months." To avert the collapse, Iceland will start talks with Russia on Tuesday to secure a loan of as much as 4 billion euros ($5.48 billion), Prime Minister Geir Haarde said late yesterday.

He added that loans from the IMF and Russia "are not mutually exclusive," though the government hadn't, "at this point at least," asked the IMF for a standby loan or an economic program. Fitch Ratings Ltd. cut Iceland's long-term foreign currency issuer default rating to BBB- from A-. The rating remains on negative watch, Fitch said.

"Iceland faces a very severe recession which will result in a further deterioration in banks' domestic assets," Fitch said in a statement. "It remains uncertain as to the extent that the sovereign can distance itself from the foreign liabilities of failing Icelandic banks." Kaupthing's entire board of directors has resigned and the FSA has appointed a committee to wind up the lender's business, the bank said in a statement today.

"It's difficult to find any parallels to what's happening in Iceland in the industrialized world," Jensen said. "You'd have to look to emerging markets, and after the Asian crisis, for example, those economies contracted about 10 percent." The debts of the Icelandic banking system are too big for the government to repay. "There is no way that the Icelandic population can assume responsibility for the private debt" that the banks have built up, Haarde said yesterday.

Other countries are in a better situation. The U.K.'s banks will get a 50 billion-pound ($87 billion) government lifeline and emergency loans from the central bank after the freeze in credit markets threatened to bring down the financial system. The Federal Reserve, the European Central Bank and four other central banks lowered interest rates yesterday in a coordinated effort to ease the economic effects of the worst financial crisis since the Great Depression.

This year and next, Kaupthing has 5 billion euros of debt obligations maturing, according to Bloomberg data. Glitnir's debt obligations over the same period are about 4 billion euros and Landsbanki has about 2 billion euros to finance.

Ilargi: I was wondering yesterday if people who opt to take their money out of the domestic banking system should be bailed out. When you talk about local governments, I think it gets into perversity territory.

UK local authorities fear for Icelandic cash
The amount of local authority cash at risk after being deposited in Icelandic banks has now risen to more than £600m. Council leaders will meet ministers later on Thursday to push their case that the funds belonging to more than 80 authorities must be guaranteed.

The Treasury has said councils must be treated "fairly", but has so far declined to guarantee the money. The Local Government Association insisted frontline council services were not at risk despite the crisis. The total so far, with 82 councils declaring how much they have invested, is £607.4m. If deposits from public bodies, including transport and police authorities, are included the figure rises to £696.2m.

The Conservatives said the total could reach £1bn once all investments are known. The Lib Dems said a third of councils may be affected. The Treasury, which has given no guarantees over the money, said it wanted to "establish the facts" about financial exposure and was prepared to have discussions about a "way forward".

Of the councils identified by the LGA, which represents authorities in England and Wales, Kent County Council has the most invested in Iceland-based banks, with £50m. Nick Chard, cabinet member for finance, promised to "fight to get every single penny back". The LGA is still trying to work out the total sums involved but deputy chief executive John Ransford disputed the Conservative claims of the amount of money at risk.

"This is public money and we need to treat this in exactly the same way as individual investors in these banks," he told the BBC. Nottingham City Council has invested £42m, while Transport for London has £40m deposited in one of the affected banks. The next biggest known investments are Norfolk County Council's £32.5m, £30m by the Metropolitan Police, Dorset County Council's £28.1m and Hertfordshire County Council's £28m.

Treasury Ministers Stephen Timms and Ian Pearson and Local Government Minister John Healy are due to hold talks with the LGA. The Conservatives have warned that town halls could face a "massive financial shock" and be forced into council tax hikes or cuts in local services.

"They are not going to find it easy in the short term," shadow communities secretary Eric Pickles said. He added: "We need to look at the number of authorities that will be facing a cash-flow problem - some have their payroll on this, for others it's in terms of long-term investment." The Lib Dems said the money at stake was "essential" for delivering local services and urged ministers to "make clear" how such funding would be protected.

House of Commons leader Harriet Harman said it was important to remember "the resources that have been going into local government from central government have been increasing year on year". She added that "government services are very important indeed. We want to ensure they are protected." The LGA insisted all the councils involved had enough money to ensure frontline services should not be affected.

But it wants the same protection for councils as has been given to personal customers of IceSave and other failed Icelandic banks. BBC local government correspondent John Andrew said there was growing anger among local authorities, which said they had followed Treasury advice by investing surplus money in a way that would deliver the highest return for taxpayers.

He said the councils had been told by the government that the Icelandic banks had been given a "double A" rating. Gordon Brown has said legal action will be taken over Iceland's failure to guarantee compensation for UK customers in its banks. Icelandic Prime Minister Geir Haarde said his government was working to repair relations with Britain amid the crisis.

Kent County Council, £50m
Nottingham City Council, £42m
Transport for London, £40m
Norfolk County Council, £32.5m
Dorset County Council, Hertfordshire County Council, £28m
Barnet Council, £27m
Somerset County Council, £25m
Hillingdon Council, £20m
Westminster City Council, £17m
Hertfordshire County Council, £17m
Brent Council, £15m
Havering Council, £12.5m
Cheltenham Council, £11m
North Lincolnshire Council: Sutton Council, £5.5m
Buckinghamshire County Council: Cornwall County Council, £5m
Powys Council, £4m
Flintshire Council, £3.7m
Rhondda Council, £3m

Morgan Stanley Drops as Much as 25% as Short Selling Resumes
Morgan Stanley dropped as much as 25 percent in New York Stock Exchange composite trading as a ban on short selling expired and concern escalated that the company may be unable to weather the credit crisis. The stock dropped $3.97 to $12.83 at 10:58 a.m. after dropping as low as $12.59 earlier today. The New York-based company has lost 76 percent of its value this year.

Morgan Stanley transformed itself into the fifth-biggest bank-holding company and agreed to sell more than 20 percent to Japan's Mitsubishi UFJ Financial Group Inc. for $9 billion in an effort to win the confidence of investors, counterparties and clients. The bankruptcy of Lehman Brothers Holdings Inc. last month and the emergency sales of Merrill Lynch & Co. and Bear Stearns Cos. sparked concern that companies like Morgan Stanley that depend on debt markets will run out of financing.

"The stock has been under pressure because the problems that affect other brokerage firms may also impact Morgan Stanley," said Frederic Ruffy, senior options strategist at, a New York-based provider of options market analysis. "After the lift of the short-selling ban, the shorts are focused on this stock again."

John Mack, Morgan Stanley's chief executive officer, last month lobbied the Securities and Exchange Commission to ban short-selling, arguing that it was driving down the company's stock. Short sellers borrow stock and sell it, hoping to buy it back at a lower price. The temporary ban imposed by the SEC ended last night.

Mitsubishi UFJ, Japan's biggest bank, said yesterday that it won't pull out of its agreement with Morgan Stanley and said it expects the deal to close on Oct. 14. Concern the deal might fall through pushed Morgan Stanley's shares lower earlier this week.
Morgan Stanley doesn't need to borrow new money in the bond market until the third quarter of 2009, according to analysts at UBS AG and Sanford C. Bernstein & Co.

Investors paid the second-highest amount ever for options insurance against declines in Morgan Stanley shares. Implied volatility for at-the-money contracts expiring in 30 days on Morgan Stanley surged 46 percent to 295.27. The record figure of 299 was set Sept. 18. More than 96,000 puts traded as of 11:11 a.m. in New York, already 87 percent of the full-day average in the past month.

Pakistan facing bankruptcy
Pakistan's foreign exchange reserves are so low that the country can only afford one month of imports and faces possible bankruptcy. Officially, the central bank holds $8.14 billion (£4.65 billion) of foreign currency, but if forward liabilities are included, the real reserves may be only $3 billion - enough to buy about 30 days of imports like oil and food. Nine months ago, Pakistan had $16 bn in the coffers.

The government is engulfed by crises left behind by Pervez Musharraf, the military ruler who resigned the presidency in August. High oil prices have combined with endemic corruption and mismanagement to inflict huge damage on the economy. Given the country's standing as a frontline state in the US-led "war on terrorism", the economic crisis has profound consequences. Pakistan already faces worsening security as the army clashes with militants in the lawless Tribal Areas on the north-west frontier with Afghanistan.

The economic crisis has already placed the future of the new government in doubt after the transition to a civilian rule. President Asif Ali Zardari has faced numerous but unproven allegations of corruption dating from the two governments led by his wife, Benazir Bhutto, who was assassinated last December. The Wall Street Journal said that Pakistan's economic travails were "at least in part, a crisis of confidence in him".

While Mr Musharraf's prime minister, Shaukat Aziz, frequently likened Pakistan to a "Tiger economy", the former government left an economy on the brink of ruin without any durable base. The Pakistan rupee has lost more than 21 per cent of its value so far this year and inflation now runs at 25 per cent. The rise in world prices has driven up Pakistan's food and oil bill by a third since 2007.

Efforts to defer payment for 100,000 barrels of oil supplied every day by Saudi Arabia have not yet yielded results, while the government has also failed to raise loans on favourable terms from "friendly countries". Mr Zardari told the Wall Street Journal that Pakistan needed a bail out worth $100 billion from the international community. "If I can't pay my own oil bill, how am I going to increase my police?" he asked. "The oil companies are asking me to pay $135 [per barrel] of oil and at the same time they want me to keep the world peaceful and Pakistan peaceful."

The ratings agency Standard and Poor's has given Pakistan's sovereign debt a grade of CCC +, which stands only a few notches above the default level. The agency gave warning that Pakistan may be unable to cover about $3 billion in upcoming debt payments. Mr Zardari is expected to ask the international community for a rescue package at a meeting in Abu Dhabi next month. .This gathering will determine whether the West is willing to bail out Pakistan.

Pakistan rupee hits record low
Pakistan’s economic crisis deepened on Monday after the rupee sank to an all-time low and Standard & Poor’s, the global rating agency, downgraded the rating on the country’s sovereign debt to CCC-plus – a few notches above default level. Economists warned that S&P’s move underlined mounting concerns over Pakistan’s balance of payments situation in the midst of the global financial turmoil.

Pakistani bankers called for urgent central bank action to stop a liquidity crunch putting banks in jeopardy. Returning on Monday for the first full day’s trading since the Muslim festival of Eid al-Fitr, Pakistan’s illiquid money markets saw volatile call money rates surge to 40 per cent before settling back below 30 per cent. The country’s situation has been complicated by unsettled political conditions over the past 18 months. Recently held elections have seen a new civilian government installed, led by President Asif Ali Zardari.

Business confidence has also been severely hit by a growing security crisis. Last month 57 people were killed and 266 injured in a suicide bomb attack at Islamabad’s Marriott hotel. On Monday, the Pakistani rupee slumped to 78.65 to the US dollar – a fall of more than 24 per cent since the beginning of 2008. Pakistan’s own foreign currency reserves held by the central bank and commercial banks fell $690m (€510m, £400m) to $8.13bn in the week to September 27, according to economists. The country’s central bank reserves fell to $4.68bn, or equivalent to just over two months of imports.

But economists warned that the country would struggle to meet up to $3bn in debt repayments in the coming months unless it received substantial financing from the outside world. “Time is running out as things stand right now. Action has to be taken very quickly,” said Sakib Sherani, chief economist for Royal Bank of Scotland in Pakistan. Western diplomats, however, warned that such a rescue would only come once the new government delivered a credible plan for economic reform.

Data released on Monday showed government borrowing was more than 100 per cent up at $2.21bn – all of it from the central bank – in the first 11 weeks of the fiscal year. Suhail Jehangir Malik, a respected Pakistani economist, said the new government had to end internal political squabbling and present solutions to address real life challenges. Another challenge is tackling the apparent widespread problem of income tax evasion. “You are looking at maybe 1.5 per cent of Pakistanis who pay an income tax. When are the tax evaders going to be taken to task?” Mr Malik aske

U.S. in Midst of Recession as Credit Shrinks, Spending Sinks
By almost all accounts, the U.S. is now in a recession, according to economists surveyed by Bloomberg News.
The economy will shrink at a 0.2 percent annual pace in the third quarter and 0.8 percent in the last three months of 2008, according to the median estimate of 52 economists surveyed Oct. 3 to Oct. 8. The contraction would follow declines in the four monthly gauges the National Bureau of Economic Research also uses to determine recessions: payrolls, production, income and sales.

Growth will be undone by the demise of the longest expansion in consumer spending on record as Americans retrench in the face of the worst financial meltdown since the Great Depression and mounting job losses. Economists, in a follow-up survey yesterday, projected the Federal Reserve will cut interest rates again after the unprecedented coordinated action taken by central banks.

"They're responding rapidly to a rapidly changing situation," said Ken Goldstein, an economist at the Conference Board. "It's causing central banks to make it up on the fly to keep things from getting worse. As a forecaster, it's become very difficult" to gauge the economic fallout, he said. Declining output would open the way for the NBER, the arbiter of U.S. business cycles, to declare a recession.

Robert Hall, the Stanford University economist who leads the NBER panel that makes the call, this week said the group was in "waiting mode" as gross domestic product had yet to shrink significantly. The market turmoil will spark the longest and deepest recession in at least three decades, Harvard University's Martin Feldstein, another member of the group, said yesterday in an interview on Bloomberg Television.

The Cambridge, Massachusetts-based bureau defines a recession as a "significant" decrease in activity over a sustained period of time. The group does not follow the common rule of thumb of back-to-back quarterly decreases in GDP. Economists slashed growth forecasts by more than a percentage point for the third and fourth quarters of this year and for the first three months of 2009. The remaining two periods in the forecast horizon, through September 2009, were also cut.

Odds that the U.S. is, or will soon be, in a recession were 90 percent, up from 51 percent in the September survey. Consumer spending, the biggest part of the economy, will drop at a 0.9 percent annual pace this quarter after posting a 2 percent decline from July to September, the survey median showed. Purchases have been growing since 1992, the longest expansion in the post World War II era.

"The labor market is taking it on the chin, wealth is getting decimated, and when you put that together it is a pretty ugly mix for the consumer," said Michael Feroli, an economist at JPMorgan Chase & Co. in New York. "It'll be a pretty deep and somewhat long recession." The real-estate slump, which triggered the meltdown in subprime mortgages, is still causing home values to plummet. As a result, Americans can borrow less against home equity.

The jobless rate, already at a five-year high of 6.1 percent, will surge to 6.8 percent by mid-2009, according to the survey median. The jump in unemployment would be more severe than the 6.3 percent peak reached in 2003 in the aftermath of the 2001 recession.

The Fed, which slashed the benchmark rate by half a percentage point to 1.5 percent yesterday, will follow with a quarter-point reduction by year-end and another by March, bringing the rate down to 1 percent, according to the survey median. Prior to the coordinated action yesterday, economists projected the rate would remain at 1.5 percent through the third quarter of 2009.

"There will be pressure on the Fed to do more, and probably on the Treasury as well," said James O'Sullivan, a senior economist at UBS Securities LLC in Stamford, Connecticut. "For now, the economy is still weakening. It's hard to find things that are getting better." Bank of America Corp. is among companies bracing for tougher times. The Charlotte, North Carolina-based company chopped its dividend in half and raised $10 billion in a share offering to shore up capital after it reported a 68 percent plunge in third- quarter profit.

"The recession is going to be a little deeper than we thought," Chief Executive Officer Kenneth Lewis said on a conference call this week. "It's going to take some more time and some more pain." Slower growth and lower fuel costs will help check inflation. Consumer prices will rise 3.8 percent this year and moderate to a 1.9 percent gain by late 2009, according to the median.

"We're in dire straits here in terms of the financial and credit markets and the real economy," said Joshua Shapiro, chief U.S. economist at Maria Fiorini Ramirez Inc. in New York. "The consumer is up the creek without a paddle. We just don't see the economy emerging from the recession until 2010 at the earliest."

Wachovia Talks Stall Over Quality and Division of Assets
Talks between Citigroup Inc., Wells Fargo & Co. and the U.S. government over a way to divide Wachovia Corp. between its two suitors were hung up on several key issues Wednesday, according to people familiar with the situation.

The discussions, which began Sunday, have been snagged over the intricacies of carving up the Charlotte, N.C., bank, ranging from deposits to loans to securities. After burrowing deeper into Wachovia's books, Citigroup and Wells Fargo have been surprised by the concentration of assets they regard as low-quality, these people said. As a result, both banks are worried that buying even part of Wachovia could saddle them with steeper losses than previously expected.

The two would-be buyers also have been sparring over the computer system used in Wachovia's 3,348 retail branches, one person familiar with the discussions said Wednesday. Citigroup, known for its hodgepodge of technology that hasn't been fully integrated, wants full control of Wachovia's system when the deal closes. Wells Fargo has countered that the two banks should share it temporarily.

Also adding jitters to the Wachovia talks were Bank of America Corp.'s struggles on Tuesday to sell $10 billion in stock. Citigroup and Wells Fargo have said they plan to sell stock as part of their competing takeover offers for Wachovia, but that could be more difficult than they previously thought.

People close to the discussions said they remain hopeful that a deal can be reached. But the slow progress risks creating more turmoil for Wachovia, which was in danger of being seized by federal regulators less than a week ago, Wachovia Chief Executive Robert Steel has said in a court filing.

As the scramble to resolve the Wachovia situation continues, National City Corp., a Cleveland-based regional bank crippled by bad real-estate loans, is in talks with a number of banks about a possible sale, people familiar with the situation said. Among the potential buyers are PNC Financial Services Group Inc., a Pittsburgh-based lender that has dodged many of the industry's problems, and Toronto-based Bank of Nova Scotia.

Central banks all but stop lending bullion
Central banks have all but stopped lending gold to commercial and investment banks and other participants in the precious metals market, in a move that on Tuesday sent the cost of borrowing bullion for one-month to more than twenty times its usual level. The one-month gold lease rate rocketed to 2.649 per cent, its highest level since May 2001 and significantly above its five-year average of 0.12 per cent, according to data from the London Bullion Market Association.

Gold lease rates for two, three and six months and for a year also jumped to levels not seen in the last seven years. Traders said the jump reflects the fact that central banks – mostly European – have almost completely stopped lending gold in the last few days and are not rolling forward old leases after maturity. This is because of fears that some borrowers might not repay their bullion loans if they are engulfed by the financial crisis.

“A number of central banks have been cutting back on their gold lending,” said Tom Kendall, a precious metals strategist at Mitsubishi in London.
John Reade, a commodities strategist at UBS, added that there had been a lot of talk about some central banks being unwilling to lend their gold because of a redoubled focus on the risk of borrowers not returning it. “There is very little appetite for unsecured lending at the moment,” he said.

Central banks usually do not ask borrowers to post any guarantee – or collateral – to secure bullion loans. “The key word now is safety,” an official from a Europe-based central bank said. In normal circumstances, central banks lend gold into the market – providing key liquidity – to earn a small return on what otherwise is a non-yielding asset. Other factors are also pushing lease rates higher, including more investors’ positions no longer available for lending, according to Philipp Klapwijk, chairman of GFMS, the London-based precious metals consultants.

Traders said the general dysfunction in money markets, with US dollar rates significantly higher, was contributing to volatile gold lease rates. Demand for physical gold and small and medium-sized bars had been strong, removing supplies from the market that otherwise could have been lent, traders added. The US Mint onTuesday said it had run out of half-ounce and quarter-ounce American Eagle gold coins following “unprecedented” demand.

Gold prices on Tuesday rose $19.3 to $880.6 a troy ounce, having hit an intraday high of $890.6 an ounce. Bullion prices hit an all-time high of $1,030.8 in March. In euro terms, gold prices rose on Tuesday to a record high of €654.22 an ounce, above March’s all-time high of €651.24 an ounce. It also hit a record in Australian dollars. Investors are seeking refuge in actual gold coins and bars as fears about the safety of their savings increase. Some have even been selling their positions in gold futures, as this is a less tangible form of the metal. Since the collapse of Lehman Brothers three weeks ago, bullion prices have risen about 20 per cent.

Latin American Banks Use Reserves to Save Currencies
Latin American central banks are being forced to draw on record foreign reserves built up during the six-year commodities rally to stop their currencies from sinking in the worst financial crisis since the Great Depression. Brazil sold dollars for the first time in five years and Mexico sold $998 million in the spot market between yesterday and today, helping their currencies rebound. Chile may follow suit, Barclays Capital analyst Rodrigo Valdes said.

The worst currency meltdown in Latin America since the emerging-market economic crises of the 1990s is causing companies' dollar debts to swell as well as sparking derivatives losses, and may stoke inflation. The decision to intervene came after central banks in the U.S., Europe and Canada cut interest rates in a coordinated effort to boost confidence. "For a long time, these central banks said their reserve buildup strategy was like an insurance policy," said Felipe Pianetti, a strategist at the JPMorgan Emerging Markets team in New York. "Now is the time to use them."

Brazilian international reserves increased more than five- fold to a record $208 billion since January 2003, helped by rising revenue from soybeans, iron ore and sugar exports. In Mexico, Latin America's No. 2 oil producer, reserves almost doubled to $83.6 billion in the period. Chilean reserves rose to a record $22.4 billion in August, helped by copper sales.

Brazil's real gained 6.4 percent to 2.193 to the dollar at 9:39 a.m. New York time after tumbling yesterday as much as 9 percent. Yesterday's drop was the biggest since the central bank abandoned a currency peg in January 1999 after burning through more than $30 billion of reserves in nine months.

The real is down 29 percent since reaching a high of 1.5545 per dollar Aug. 1. Brazil's central bank didn't say how much it sold in the dollar auctions yesterday and today. The Mexican peso rose 2.7 percent to 11.9991 to the dollar. Yesterday the peso at one point fell the most since 1994, when President Ernesto Zedillo was forced to devalue to avoid depleting the country's reserves. The currency pared losses after the central bank auctioned dollars. The plan includes sales of $1.5 billion today, followed by $400 million in following days if the peso falls more than 2 percent.

"In extraordinary situations, Banco de Mexico has been willing to intervene in the currency market," said Gray Newman, chief Latin America economist at Morgan Stanley in New York. "This constitutes an extraordinary situation." The Chilean peso dropped yesterday the most since November 1992, plunging as much as 4 percent to 619.40 per dollar, the weakest since October 2004. Trading hadn't resumed as of 9:39 a.m. New York time.

While governments in Brazil, Mexico and Chile used the commodity boom of the past few years to reduce dollar debt, some companies are suffering as the currencies plunge. Two of Brazil's biggest exporters, Aracruz Celulose SA and Sadia SA, lost about half of their market value since saying Sept. 26 they made bad currency bets that may cost them a combined $1.2 billion.

Controladora Comercial Mexicana SAB, the owner of supermarkets and Costco stores in Mexico, fell 44 percent yesterday after saying the peso's plunge increased the cost of its foreign debt "significantly." Grupo Industrial Saltillo SAB, the Mexican auto parts and building materials company, asked the local exchange to suspend trading of its shares before announcing it will take a $48.5 million charge related to derivatives. The currency meltdown may also stoke inflation that has exceeded or is about to top targets set by policy makers in the region.

"Intervening in the currency when there is an excessive devaluation is the natural thing within an inflation-targeting system," Barclays's Valdes said. Brazil's central bank last month raised the benchmark overnight rate for a fourth time since April to rein in inflation, which quickened to 6.25 percent in September. The target is 4.5 percent plus or minus two percentage points.

Mexico and Chile already busted their targets. Chilean consumer prices rose 9.2 percent last month from a year earlier, more than triple the bank's target of 3 percent. Inflation in Mexico quickened to 5.57 percent in August, above the 4 percent upper end of the target band. Still, economists expect central bank policy makers will slow the pace of rate increases in response to sluggish global economic expansion and falling commodity prices.

The global credit crunch may put an end to Latin America's fastest economic expansion in 30 years. Morgan Stanley cut on Oct. 6 its 2009 economic growth forecast for the region by more than half to 1.5 percent, down from 3.5 percent. Brazil and Mexico join Argentina and Peru in selling dollars. Central banks in Chile and Colombia have so far used derivatives contracts to arrest the decline of their currencies, without touching reserves.

"There's a very high chance" that the Chilean central bank will intervene to strengthen the peso, said Gabriel Casillas, an economist with UBS Pactual in Mexico City. The bank "will be feeling quite uncomfortable with the peso at this level."

Taking a Hard New Look at Greenspan’s Legacy
“Not only have individual financial institutions become less vulnerable to shocks from underlying risk factors, but also the financial system as a whole has become more resilient.” — Alan Greenspan in 2004

George Soros, the prominent financier, avoids using the financial contracts known as derivatives “because we don’t really understand how they work.” Felix G. Rohatyn, the investment banker who saved New York from financial catastrophe in the 1970s, described derivatives as potential “hydrogen bombs.” And Warren E. Buffett presciently observed five years ago that derivatives were “financial weapons of mass destruction, carrying dangers that, while now latent, are potentially lethal.”

One prominent financial figure, however, has long thought otherwise. And his views held the greatest sway in debates about the regulation and use of derivatives — exotic contracts that promised to protect investors from losses, thereby stimulating riskier practices that led to the financial crisis. For more than a decade, the former Federal Reserve Chairman Alan Greenspan has fiercely objected whenever derivatives have come under scrutiny in Congress or on Wall Street.

“What we have found over the years in the marketplace is that derivatives have been an extraordinarily useful vehicle to transfer risk from those who shouldn’t be taking it to those who are willing to and are capable of doing so,” Mr. Greenspan told the Senate Banking Committee in 2003. “We think it would be a mistake” to more deeply regulate the contracts, he added.

Today, with the world caught in an economic tempest that Mr. Greenspan recently described as “the type of wrenching financial crisis that comes along only once in a century,” his faith in derivatives remains unshaken. The problem is not that the contracts failed, he says. Rather, the people using them got greedy. A lack of integrity spawned the crisis, he argued in a speech a week ago at Georgetown University, intimating that those peddling derivatives were not as reliable as “the pharmacist who fills the prescription ordered by our physician.”

But others hold a starkly different view of how global markets unwound, and the role that Mr. Greenspan played in setting up this unrest. “Clearly, derivatives are a centerpiece of the crisis, and he was the leading proponent of the deregulation of derivatives,” said Frank Partnoy, a law professor at the University of San Diego and an expert on financial regulation.
The derivatives market is $531 trillion, up from $106 trillion in 2002 and a relative pittance just two decades ago.

Theoretically intended to limit risk and ward off financial problems, the contracts instead have stoked uncertainty and actually spread risk amid doubts about how companies value them. If Mr. Greenspan had acted differently during his tenure as Federal Reserve chairman from 1987 to 2006, many economists say, the current crisis might have been averted or muted. Over the years, Mr. Greenspan helped enable an ambitious American experiment in letting market forces run free. Now, the nation is confronting the consequences.

Derivatives were created to soften — or in the argot of Wall Street, “hedge” — investment losses. For example, some of the contracts protect debt holders against losses on mortgage securities. (Their name comes from the fact that their value “derives” from underlying assets like stocks, bonds and commodities.) Many individuals own a common derivative: the insurance contract on their homes.

On a grander scale, such contracts allow financial services firms and corporations to take more complex risks that they might otherwise avoid — for example, issuing more mortgages or corporate debt. And the contracts can be traded, further limiting risk but also increasing the number of parties exposed if problems occur.

Throughout the 1990s, some argued that derivatives had become so vast, intertwined and inscrutable that they required federal oversight to protect the financial system. In meetings with federal officials, celebrated appearances on Capitol Hill and heavily attended speeches, Mr. Greenspan banked on the good will of Wall Street to self-regulate as he fended off restrictions.

Ever since housing began to collapse, Mr. Greenspan’s record has been up for revision. Economists from across the ideological spectrum have criticized his decision to let the nation’s real estate market continue to boom with cheap credit, courtesy of low interest rates, rather than snuffing out price increases with higher rates. Others have criticized Mr. Greenspan for not disciplining institutions that lent indiscriminately.

But whatever history ends up saying about those decisions, Mr. Greenspan’s legacy may ultimately rest on a more deeply embedded and much less scrutinized phenomenon: the spectacular boom and calamitous bust in derivatives trading. Some analysts say it is unfair to blame Mr. Greenspan because the crisis is so sprawling. “The notion that Greenspan could have generated a totally different outcome is naïve,” said Robert E. Hall, an economist at the conservative Hoover Institution, a research group at Stanford.

Mr. Greenspan declined requests for an interview. His spokeswoman referred questions about his record to his memoir, “The Age of Turbulence,” in which he outlines his beliefs. “It seems superfluous to constrain trading in some of the newer derivatives and other innovative financial contracts of the past decade,” Mr. Greenspan writes. “The worst have failed; investors no longer fund them and are not likely to in the future.”

In his Georgetown speech, he entertained no talk of regulation, describing the financial turmoil as the failure of Wall Street to behave honorably. “In a market system based on trust, reputation has a significant economic value,” Mr. Greenspan told the audience. “I am therefore distressed at how far we have let concerns for reputation slip in recent years.” As the long-serving chairman of the Fed, the nation’s most powerful economic policy maker, Mr. Greenspan preached the transcendent, wealth-creating powers of the market.

A professed libertarian, he counted among his formative influences the novelist Ayn Rand, who portrayed collective power as an evil force set against the enlightened self-interest of individuals. In turn, he showed a resolute faith that those participating in financial markets would act responsibly. An examination of more than two decades of Mr. Greenspan’s record on financial regulation and derivatives in particular reveals the degree to which he tethered the health of the nation’s economy to that faith.

As the nascent derivatives market took hold in the early 1990s, and in subsequent years, critics denounced an absence of rules forcing institutions to disclose their positions and set aside funds as a reserve against bad bets. mTime and again, Mr. Greenspan — a revered figure affectionately nicknamed the Oracle — proclaimed that risks could be handled by the markets themselves.

“Proposals to bring even minimalist regulation were basically rebuffed by Greenspan and various people in the Treasury,”
recalled Alan S. Blinder, a former Federal Reserve board member and an economist at Princeton University. “I think of him as consistently cheerleading on derivatives.”

Arthur Levitt Jr., a former chairman of the Securities and Exchange Commission, says Mr. Greenspan opposes regulating derivatives because of a fundamental disdain for government. Mr. Levitt said that Mr. Greenspan’s authority and grasp of global finance consistently persuaded less financially sophisticated lawmakers to follow his lead. “I always felt that the titans of our legislature didn’t want to reveal their own inability to understand some of the concepts that Mr. Greenspan was setting forth,” Mr. Levitt said. “I don’t recall anyone ever saying, ‘What do you mean by that, Alan?’ ”

Still, over a long stretch of time, some did pose questions. In 1992, Edward J. Markey, a Democrat from Massachusetts who led the House subcommittee on telecommunications and finance, asked what was then the General Accounting Office to study derivatives risks. Two years later, the office released its report, identifying “significant gaps and weaknesses” in the regulatory oversight of derivatives.

“The sudden failure or abrupt withdrawal from trading of any of these large U.S. dealers could cause liquidity problems in the markets and could also pose risks to others, including federally insured banks and the financial system as a whole,” Charles A. Bowsher, head of the accounting office, said when he testified before Mr. Markey’s committee in 1994. “In some cases intervention has and could result in a financial bailout paid for or guaranteed by taxpayers.”

In his testimony at the time, Mr. Greenspan was reassuring. “Risks in financial markets, including derivatives markets, are being regulated by private parties,” he said. “There is nothing involved in federal regulation per se which makes it superior to market regulation.” Mr. Greenspan warned that derivatives could amplify crises because they tied together the fortunes of many seemingly independent institutions. “The very efficiency that is involved here means that if a crisis were to occur, that that crisis is transmitted at a far faster pace and with some greater virulence,” he said.

But he called that possibility “extremely remote,” adding that “risk is part of life.” Later that year, Mr. Markey introduced a bill requiring greater derivatives regulation. It never passed.

In 1997, the Commodity Futures Trading Commission, a federal agency that regulates options and futures trading, began exploring derivatives regulation. The commission, then led by a lawyer named Brooksley E. Born, invited comments about how best to oversee certain derivatives. Ms. Born was concerned that unfettered, opaque trading could “threaten our regulated markets or, indeed, our economy without any federal agency knowing about it,” she said in Congressional testimony. She called for greater disclosure of trades and reserves to cushion against losses.

Ms. Born’s views incited fierce opposition from Mr. Greenspan and Robert E. Rubin, the Treasury secretary then. Treasury lawyers concluded that merely discussing new rules threatened the derivatives market. Mr. Greenspan warned that too many rules would damage Wall Street, prompting traders to take their business overseas.

“Greenspan told Brooksley that she essentially didn’t know what she was doing and she’d cause a financial crisis,” said Michael Greenberger, who was a senior director at the commission. “Brooksley was this woman who was not playing tennis with these guys and not having lunch with these guys. There was a little bit of the feeling that this woman was not of Wall Street.”

Ms. Born declined to comment. Mr. Rubin, now a senior executive at the banking giant Citigroup, says that he favored regulating derivatives — particularly increasing potential loss reserves — but that he saw no way of doing so while he was running the Treasury. “All of the forces in the system were arrayed against it,” he said. “The industry certainly didn’t want any increase in these requirements. There was no potential for mobilizing public opinion.”

Mr. Greenberger asserts that the political climate would have been different had Mr. Rubin called for regulation. In early 1998, Mr. Rubin’s deputy, Lawrence H. Summers, called Ms. Born and chastised her for taking steps he said would lead to a financial crisis, according to Mr. Greenberger. Mr. Summers said he could not recall the conversation but agreed with Mr. Greenspan and Mr. Rubin that Ms. Born’s proposal was “highly problematic.”

On April 21, 1998, senior federal financial regulators convened in a wood-paneled conference room at the Treasury to discuss Ms. Born’s proposal. Mr. Rubin and Mr. Greenspan implored her to reconsider, according to both Mr. Greenberger and Mr. Levitt. Ms. Born pushed ahead. On June 5, 1998, Mr. Greenspan, Mr. Rubin and Mr. Levitt called on Congress to prevent Ms. Born from acting until more senior regulators developed their own recommendations. Mr. Levitt says he now regrets that decision.

Mr. Greenspan and Mr. Rubin were “joined at the hip on this,” he said. “They were certainly very fiercely opposed to this and persuaded me that this would cause chaos.” Ms. Born soon gained a potent example. In the fall of 1998, the hedge fund Long Term Capital Management nearly collapsed, dragged down by disastrous bets on, among other things, derivatives. More than a dozen banks pooled $3.6 billion for a private rescue to prevent the fund from slipping into bankruptcy and endangering other firms.

Despite that event, Congress froze the Commodity Futures Trading Commission’s regulatory authority for six months. The following year, Ms. Born departed. In November 1999, senior regulators — including Mr. Greenspan and Mr. Rubin — recommended that Congress permanently strip the C.F.T.C. of regulatory authority over derivatives.

Mr. Greenspan, according to lawmakers, then used his prestige to make sure Congress followed through. “Alan was held in very high regard,” said Jim Leach, an Iowa Republican who led the House Banking and Financial Services Committee at the time. “You’ve got an area of judgment in which members of Congress have nonexistent expertise.”

As the stock market roared forward on the heels of a historic bull market, the dominant view was that the good times largely stemmed from Mr. Greenspan’s steady hand at the Fed. “You will go down as the greatest chairman in the history of the Federal Reserve Bank,” declared Senator Phil Gramm, the Texas Republican who was chairman of the Senate Banking Committee when Mr. Greenspan appeared there in February 1999.

Mr. Greenspan’s credentials and confidence reinforced his reputation — helping him to persuade Congress to repeal Depression-era laws that separated commercial and investment banking in order to reduce overall risk in the financial system. “He had a way of speaking that made you think he knew exactly what he was talking about at all times,” said Senator Tom Harkin, a Democrat from Iowa. “He was able to say things in a way that made people not want to question him on anything, like he knew it all. He was the Oracle, and who were you to question him?”

In 2000, Mr. Harkin asked what might happen if Congress weakened the C.F.T.C.’s authority. “If you have this exclusion and something unforeseen happens, who does something about it?” he asked Mr. Greenspan in a hearing. Mr. Greenspan said that Wall Street could be trusted. “There is a very fundamental trade-off of what type of economy you wish to have,” he said. “You can have huge amounts of regulation and I will guarantee nothing will go wrong, but nothing will go right either,” he said.
Later that year, at a Congressional hearing on the merger boom, he argued that Wall Street had tamed risk.

“Aren’t you concerned with such a growing concentration of wealth that if one of these huge institutions fails that it will have a horrendous impact on the national and global economy?” asked Representative Bernard Sanders, an independent from Vermont. “No, I’m not,” Mr. Greenspan replied. “I believe that the general growth in large institutions have occurred in the context of an underlying structure of markets in which many of the larger risks are dramatically — I should say, fully — hedged.”

The House overwhelmingly passed the bill that kept derivatives clear of C.F.T.C. oversight. Senator Gramm attached a rider limiting the C.F.T.C.’s authority to an 11,000-page appropriations bill. The Senate passed it. President Clinton signed it into law. Still, savvy investors like Mr. Buffett continued to raise alarms about derivatives, as he did in 2003, in his annual letter to shareholders of his company, Berkshire Hathaway.

“Large amounts of risk, particularly credit risk, have become concentrated in the hands of relatively few derivatives dealers,” he wrote. “The troubles of one could quickly infect the others.” But business continued. And when Mr. Greenspan began to hear of a housing bubble, he dismissed the threat. Wall Street was using derivatives, he said in a 2004 speech, to share risks with other firms.

Shared risk has since evolved from a source of comfort into a virus. As the housing crisis grew and mortgages went bad, derivatives actually magnified the downturn. The Wall Street debacle that swallowed firms like Bear Stearns and Lehman Brothers, and imperiled the insurance giant American International Group, has been driven by the fact that they and their customers were linked to one another by derivatives.

In recent months, as the financial crisis has gathered momentum, Mr. Greenspan’s public appearances have become less frequent. His memoir was released in the middle of 2007, as the disaster was unfolding, and his book tour suddenly became a referendum on his policies. When the paperback version came out this year, Mr. Greenspan wrote an epilogue that offers a rebuttal of sorts.

“Risk management can never achieve perfection,” he wrote. The villains, he wrote, were the bankers whose self-interest he had once bet upon. “They gambled that they could keep adding to their risky positions and still sell them out before the deluge,” he wrote. “Most were wrong.” No federal intervention was marshaled to try to stop them, but Mr. Greenspan has no regrets. “Governments and central banks,” he wrote, “could not have altered the course of the boom.”

How to Recapitalize the Financial System
There is broad agreement among economists that what the financial system needs right now is not only an injection of liquidity but also a recapitalization. The essence of the current financial crisis is that many firms bet that housing prices would not fall; the prices fell nonetheless; and now these firms have too little capital to perform the crucial function of financial intermediation.

(As an aside, one might ask, why did these firms make such bad bets? Essentially, it was a result of poor judgment among various private decisionmakers, encouraged by equally poor judgment of various public policymakers, many of whom were more interested in promoting homeownership among questionable borrowers than in the preserving the safety and soundness of the financial system. But this is not the time for recriminations. We have to face up to the problem sitting in our laps.)

The question for the moment is, How can we get capital back into the financial system? Ideally, it would be great if more Warren Buffetts would step up to the plate and recapitalize financial firms with private money. Unfortunately, that might not happen fast enough to prevent a major economic downturn.

Some economists have proposed forcing these firms to go raise more capital from private sources. But how exactly can the government do that? It is not entirely clear how, as a legal matter, that can be accomplished. Perhaps regulators can twist the arms of the financial institutions. Call it the Tony Soprano approach. “Nice bank you have here. I wouldn’t want anything bad to happen to it.”

Other economists have suggested that the government inject capital itself. That raises several questions. First, which firms? The government does not want to put taxpayer money into “zombie” firms that are in fact deeply insolvent but have not yet recognized it. Second, at what price should the government buy in? Third, isn’t this, kind of, like socialism? That is, do we really want the government to start playing a large, continuing role running Wall Street and allocating capital resources? I certainly don't.

Here is an idea that might deal with these problems: The government can stand ready to be a silent partner to future Warren Buffetts.

It could work as follows. Whenever any financial institution attracts new private capital in an arms-length transaction, it can access an equal amount of public capital. The taxpayer would get the same terms as the private investor. The only difference is that government’s shares would be nonvoting until the government sold the shares at a later date.

This plan would solve the three problems. The private sector rather than the government would weed out the zombie firms. The private sector rather than the government would set the price. And the private sector rather than the government would exercise corporate control.

Why would an undercapitalized financial firm take advantage of this offer? Because it would need to raise only half as much capital from private sources, that financing should be easier to come by. With Warren Buffetts in scarce supply, the government can in effect replicate them, by pigging backing on what they do.

I believe that Treasury has the discretion to use some of the $700 billion recently approved by Congress to make these equity injections. I would recommend that the Treasury announce an upper limit, say, $300 billion, allocated on a first-come, first-served basis. The limit would encourage financial institutions to act quickly to get in before the door closed. Given how fast matters are deteriorating, the sooner capital gets back into the financial system, the better.

Roubini was Right
I asked Nouriel Roubini this morning whether there was any way of getting institutions to start lending to each other, rather than the Fed being the only game in town. I got this in response: savor it, it's probably the shortest thing by Nouriel you'll ever read.

We are near total financial and corporate meltdown dude. At this point the ony institution able and willing to lend is the Fed. That is why I suggested last week the CPFF to avoid this meltdown.

First you avoid a systemic collapse that was literally a couple of days from occurring. Once things have calmed in a few weeks you can start thinking about ways to restore lending among private institutions. Yep we have reached the point where the Fed is the only bank in the land or, better, in the globe as the huge swap lines now allow the Fed to lend dollars to non-US banks outside the US.

That means that the Fed will now lend to banks, to non-banks in the shadow banking system, to corporations and to state and local governments. There is no one else lending now as counterparty fear is extreme. Read my February 12 steps to a financial disaster paper. We are now as I predicted at step 12 Sorry if I now say I told you so...

Feeling a little chastised for giving me so much shit on your blog for the last year and siding persistently with those who missed the boat and said all wil be fine? Should I expect a public mea culpa? It would be useful if you would publicly admit you got it totally wrong for the last year.

I'm happy to oblige: Nouriel was right, and I was wrong. The more apocalyptic you were, the more correct you were. And there were precious few people as apocalyptic as Nouriel. And so, at this point, I'm liable to trust Nouriel -- who has been right so far -- about the necessity of the CPFF, rather than trust someone like TED, who says that the non-financial CP market was just fine as of October 1, and that therefore there's nothing to worry about.

At some point, Nouriel will be too bearish. But that point hasn't arrived yet, and I'd much rather prepare for the worst and be pleasantly surprised on the upside, than hope for the best and get my legs cut out from under me. There's no doubt that Paulson and Bernanke have been consistently behind the curve so far, because they just couldn't conceive of things getting as bad as they did. So maybe it's long past time to start listening to someone who not only conceived such things, but went so far as to actually predict them.

The Top Five Financial Issues for the Coming Decades
With all the turmoil in investment markets, I have found it useful to try to estimate major financial issues that will influence the American economy over the next few years and several decades.  This will summarize my current findings ranked in order of total dollar value.  All of these problems need to be resolved for the future viability of our way of life.  I think it is obvious that if the biggest problem is not solved, what we do with the other four will be of little consequence.

Issue #5:  The estimated asset write-downs resulting from the 2007-2008 credit crisis.  The International Monetary Fund has estimated this to be $1.1 trillion.  Less than half of this has been realized to date.  The time frame for this to be totally realized is one to three years.  The potential for this estimate to be too high is limited to a couple hundred billion at the most.  The potential for this estimate to be too low depends on whether or not we see an extended downward spiral in home prices and the associated worsening of credit markets.  Worst case scenario is probably another $1 to $1.5 trillion, corresponding to defaults on 20% to 30% of home mortgages.

Issue #4:  U.S. national debt of $4.4 Trillion.  This figure is obtained from the “Long-tern Financial Outlook”, U.S. Government Accountability Office, Jan. 2008.  Government estimates envision a balanced budget by 2013.  If you believe this, I would like to sell you a well known bridge over the East River.  However, I will use that to project the national debt to grow to $5.9 Trillion in the next five years.  The probability that this is too high an estimate is extremely low.  The probability that the national debt will be larger than $5.9 Trillion in 2013 is very high.  Furthermore, I am skeptical that a balanced budget will be achieved, not only in five years, but even in 10 years.  The risk is high that the national debt will continue to grow through deficit spending for many years to come.  I do not have a rational way to estimate an upper limit for the national debt in five years or beyond.

Issue #3:  The unfunded liabilty of the Social Security System is estimated to be $6.7 Trillion (Government Accountability Office, Jan. 2008).  This number could be higher with inflation above the report estimate - approximately 3%.  The time frame for this figure is several decades.

Issue #2:  The unfunded liability of Medicare is estimated by the Government Accountability Office to be $34.1 Trillion.  Again, higher inflation could raise this estimate.  The time frame is several decades.

Issue #1:  The cost of imported oil.  Many sources have estimated the 2008 cost for imported oil to be approximately $800 Billion at an average price of $120 to $130 per barrel.  The estimate for the hidden cost of oil - added military expense, environmental expense, health care expense, infrastructure degradation, etc - was approximately $825 Billion per year in 2006.  See the following website for details on the hidden cost: 

If we assume the 2006 hidden costs and the estimated 2008 purchase cost to be applicable for the next 30 years, the cost of importing oil over that time frame is approximately $48.7 Trillion.  The likelihood that this too high an estimate is extremely small.  To lower the cost not only does the price of oil have to stay at or below current levels, the amount of oil we import must stay at or below current levels and there must be no inflation for 30 years.  With that scenario, the present value of a cash flow of $1.6 Trillion per year is $45 Trillion at a discount rate of 5%.

It is much more likely that the annual cost for imported oil will rise from the $1.6 Trillion per year.  If the cost rises by 10% per year (probably too small a figure), the present value of the cash flows over 30 years is approximately $58 Trillion.  The cost of continuing current energy policy is somewhere between $45 Trillion (an unrealistic lower bound) and something larger than $58 Trillion.  Half of this money is paid to entities outside of our economy and can only return to us by purchase of our assets.  A lot of the hidden cost remains within our economy, but none contributes to higher productivity.  The hidden costs are basically maintenance expenses.

UK uses anti terrorism sanctions to freeze Iceland assets
The UK Treasury has applied measures under The Anti-terrorism, Crime and Security Act 2001 to freeze the assets of Landsbanki, including those held by the Icelandic government. In a startling move, the UK Treasury last night issued an order freezing the assets of Landsbanki not under the powers of intervention reserved to the Financial Services Authority but under anti-terrorism legislation.

The Treasury says "The Treasury make the Order because they believe that action to the detriment of the UK’s economy (or part of it) has been or is likely to be taken by certain persons who are the government of or resident of country or territory outside the UK." The Order "gives effect to a freeze on funds owned, held or controlled by the Icelandic bank Landsbanki, including those owned held or controlled in relation to that bank by the relevant Icelandic Authorities or the Government of Iceland. For the purposes of the Order ‘Landsbanki’ means Landsbanki Island hf., a public limited company incorporated under the law of Iceland."

It "applies to banks, financial institutions, charitable organisations and non-governmental organisations in the UK or established under UK law. The Order does not apply to subsidiaries of UK companies operating wholly outside the UK and which do not have legal personality under UK law. "

Under the Order, " “funds” means financial assets and economic benefits of any kind, including (but not limited to): (i) gold, cash, cheques, claims on money, drafts, money orders and other payment instruments; (ii) deposits with relevant institutions or other persons, balances on accounts, debts and debt obligations; (iii) publicly and privately traded securities and debt instruments, including stocks and shares, certificates representing securities, bonds, notes, warrants, debentures and derivative products; (iv) interest, dividends or other income on or value accruing from or generated by assets; (v) credit, rights of set-off, guarantees, performance bonds or other financial commitments; (vi) letters of credit, bills of lading, bills of sale; and (vii) documents providing evidence of an interest in funds or financial resources. "

The frozen funds are"(a) funds owned, held or controlled by Landsbanki; and (b) funds relating to Landsbanki and owned, held or controlled by: (i) any of the Authorities;
- the Central Bank of Iceland, Kalkofnsvegi 1, 150 Reykjavik; - the Icelandic Financial Services Authority (the Fjármálaeftirliti?); and - the Landsbanki receivership committee established by the Icelandic Financial Services Authority )or
(ii) the Government of Iceland. "

As a result of the Order, those to whom it applies (which is every person, legal or natural in the UK) "must not make frozen funds available to or for the benefit of a specified person, or at the direction or instruction of a specified person, or deal with frozen funds except under the authority of a licence granted by the Treasury" and "are required to inform HM Treasury of all funds that they have frozen in accordance with the Order. They must also provide HM Treasury with all relevant information necessary for ensuring compliance with the Order. "

Similarly such persons must not deal with the funds. "Deal with" is defined by the Treasury in terms that are those used to define money laundering and the funding of future crimes including terrorism viz: "use, alter, move, allow access to or transfer, or deal with in any other way that would result in any change in volume, amount, location, ownership, possession, character or destination; or make any other change that would enable use, including portfolio management. "

Canada rated world's soundest bank system: survey
Canada has the world's soundest banking system, closely followed by Sweden, Luxembourg and Australia, a survey by the World Economic Forum has found as financial crisis and bank failures shake world markets. But Britain, which once ranked in the top five, has slipped to 44th place behind El Salvador and Peru, after a 50 billion pound ($86.5 billion) pledge this week by the government to bolster bank balance sheets.

The United States, where some of Wall Street's biggest financial names have collapsed in recent weeks, rated only 40, just behind Germany at 39, and smaller states such as Barbados, Estonia and even Namibia, in southern Africa. The United States was on Thursday considering buying a slice of debt-laden banks to inject trust back into lending between financial institutions now too wary of one another to lend.

The World Economic Forum's Global Competitiveness Report based its findings on opinions of executives, and handed banks a score between 1.0 (insolvent and possibly requiring a government bailout) and 7.0 (healthy, with sound balance sheets).
Canadian banks received 6.8, just ahead of Sweden (6.7), Luxembourg (6.7), Australia (6.7) and Denmark (6.7).

UK banks collectively scored 6.0, narrowly behind the United States, Germany and Botswana, all with 6.1. France, in 19th place, scored 6.5 for soundness, while Switzerland's banking system scored the same in 16th place, as did Singapore (13th).
The ranking index was released as central banks in Europe, the United States, China, Canada, Sweden and Switzerland slashed interest rates in a bid to end to panic selling on markets and restore trust in the shaken banking system.

The Netherlands (6.7), Belgium (6.6), New Zealand (6.6), Malta (6.6) rounded out the WEF's banking top 10 with Ireland, whose government unilaterally pledged last week to guarantee personal and corporate deposits at its six major banks. Also scoring well were Chile (6.5, 18th) and Spain, South Africa, Norway, Hong Kong and Finland all ending up in the top 20.
At the bottom of the list was Algeria in 134th place, with its banks scoring 3.9 to be just below Libya (4.0), Lesotho (4.1), the Kyrgyz Republic (4.1) and both Argentina and East Timor (4.2).

1. Canada
2. Sweden
3. Luxembourg
4. Australia
5. Denmark
6. Netherlands
7. Belgium
8. New Zealand
9. Ireland
10. Malta
11. Hong Kong
12. Finland
13. Singapore
14. Norway
15. South Africa
16. Switzerland
17. Namibia
18. Chile
19. France
20. Spain
124. Kazakhstan
125. Cambodia
126. Burundi
127. Chad
128. Ethiopia
129. Argentina
130. East Timor
131. Kyrgyz Republic
132. Lesotho
133. Libya
134. Algeria
SOURCE: World Economic Forum Global Competitiveness Report 2008-2009.

Ilargi: Always nice to see someone using my Law of Receding Horizons.

Receding Horizons for Alternative Energy Supplies
When energy optimists tout the huge supply of oil that is still available to us in the form of tar sands and oil shale, they forget to mention that costs are rising so quickly for producing that oil that these alternative sources may prove to be of limited value. The same cost problems are occurring in the renewable energy field as well. What is behind this phenomenon sometimes referred to as the problem of receding horizons?

Those who claim that we will have plenty of energy and perhaps enough oil for a hundred years or more have so far failed to understand why the rising price of oil is making it more difficult both to extract new sources of oil and to deploy renewable energy from wind and solar.

First, it is helpful to understand how complex energy systems actually work. For this task we turn to the humble tree which gathers energy in ways that are very much like those of human societies. The leaves on the top of the tree quite obviously gather more sunshine than those below. So, why do trees bother with all those leaves which only get partial sunlight? The answer is that trees are not merely trying to obtain maximum energy gain per leaf, but maximum energy gain for their whole structure. The best way to do this is for the leaves at the top to support the leaves below with an energy subsidy. The result is a total energy gain larger than that which the leaves at the top could ever achieve on their own.

This pattern is seen throughout natural systems. Those systems try to maximize their energy gain in order to increase their survivability and reproduction. So, how do human societies maximize energy gain? They diversify by providing an energy subsidy to incremental energy sources. That subsidy comes primarily from our most widely available and versatile energy source, oil.

Oil provides cheap liquid fuels used to explore for coal, natural gas and uranium. In the cases of coal and uranium, liquid petroleum fuels are essential to run the mining machinery which extracts them. These fuels are also essential for the transport of coal and uranium ore to processing facilities and finally to their places of use.

To build a power plant to burn the coal or natural gas or to use the uranium requires substantial liquid fuels for the construction machinery and for the many processes which go into making and transporting the components. There is, of course, the mining of the raw materials for the components, and this naturally requires yet more liquid fuels. (Roughly the same set of energy uses go into the construction of hydroelectric dams.)

Do renewable energy sources escape this problem? Of course, they do not. Because our society is so thoroughly dependent on liquid fuels and petrochemical feedstocks from oil, practically everything we make depends on them. And so, for now wind generators and solar panels require some inputs of oil. Even that supposedly "clean" fuel, corn ethanol, requires copious amounts of fossil fuels for making fertilizers, pesticides and herbicides; for process energy (primarily natural gas and coal); and finally for transport by tanker truck since ethanol cannot currently be moved through pipelines.

The oil optimists like to point to the success of the tar sands in Canada. They are correct that production has been ramped up quite extensively. But costs have risen very quickly as well. Not too long ago tar sands developers lamented that they would be profitable if only oil would reach $30 a barrel and stay there. Now underlying costs are estimated at $85 a barrel, up from just $65 one year ago.

Causes cited include the increased cost of capital, rising labor costs, and taxation. But all of these costs can be traced back in part to rising energy costs. Since energy projects compete for capital like other projects, all things being equal, increasing demand for energy leads to more demand for capital from the energy industry which raises the cost of capital. And, the demand for new energy projects is very much linked to the high price of oil. In the case of the tar sands, it is directly linked.

Rising labor costs have in part to do with the small size of the oil industry labor pool which shrank during a 20-year bear market that ended at the beginning of this decade. But, it is now more costly to provide basic needs for workers because of rising energy prices.

Taxation looks like it would be out of the realm of energy costs. But one reason that governments are seeking more revenues is that their energy costs are spiking.

Then, there are the direct energy inputs from oil in the form of diesel for mining machinery as well as from natural gas and electricity used to process the tar sands into something useable. Natural gas has quadrupled in price in this decade, and because fuel costs are rising for electric utilities, electricity prices are levitating as well.

Certainly, not all of the escalating costs for tar sands production are attributable to increasing energy prices. But the prices of oil and natural gas are so thoroughly intertwined with the tar sands production cycle that they are now central components of the cost structure.

Even when the optimists accept these facts, they still advance one key argument which must be taken seriously. High prices for oil and other fossil fuels will stimulate technological innovation. Humans will over time figure out how to get oil out of the tar sands using less energy and fewer resources. They will also finally figure out how to extract oil from oil shale economically when the need arises.

In making this argument they have left out one important consideration that makes it less tenable. In the past we have made transitions from energy sources of lower density and quality to energy sources of higher density and quality. Humans moved from wood to coal, and then from coal to oil. Now we are faced with moving from oil to something that isn't really oil, tar sands and oil shale. (Oil shale is a misnomer. What is really being mined is marlstone impregnated with kerogen, an immature form of oil that requires extensive processing.) And, these sources are much more diffuse than the conventional crude which flows out of the ground as a liquid. That's why currently, so much energy is required to process tar sands and oil shale. Too much energy in the case of oil shale.

Oil from tar sands is proposed as a substitute for the most widely used, most versatile and most dense energy source we have now, conventional crude oil. But it simply cannot fulfill that role. Right now, tar sands cannot be produced at a rate that will make much difference in a world where demand is projected to reach 112 million barrels per day by 2030. Even if production reaches 5 million barrels per day, five times what it is today (wishful thinking in my view), tar sands still won't be the replacement we're looking for.

Beyond this the energy returns are marginal, as low as 1.5 units of energy produced for every unit used. I've heard estimates that new technology is moving that number up to perhaps 7 to 1. But that's still a far cry from the 20 to 1 return we are currently getting with conventional oil. In addition, we need to keep in mind that the easiest, richest, most accessible resources in the tar sands are being mined first. The hard stuff which will require more and more energy to extract will come later.

So what about oil shale? Right now, oil shale is not being produced commercially. The difficulties which lie ahead for the extraction of oil from shale are so great that the U. S. Energy Information Administration forecasts only 140,000 barrels a day of production by 2030 in the United States. This is merely a trickle.

Perhaps technology will improve. A lot could happen between now and 2030. Human beings are very clever and have enormous scientific resources available to them. But the most important thing to remember about technological progress is that it is not inevitable.

First, technology runs on energy. If human societies don't figure out how to replace their main energy source, fossil fuels, with something of comparable density, versatility, and volume, society's "enormous scientific resources" will ultimately shrink. That's because science, like everything else, currently runs on fossil fuels. This predicament is often referred to as the rate-of-conversion problem.

Second, technological achievements do not necessarily follow from energy or money expended. The classic case is the extensive research focused on fusion reactors. After 50 years of work, no commercial fusion reactors exist. Scientists working on the latest international fusion project speak in terms of another 50 years before a commercial reactor is operational. But when the work on fusion reactors began, scientists were confident that all the technological hurdles could be overcome within a couple of decades and that fusion plants would be up and running by the year 2000.

Maybe we'll overcome the hurdles we face with fusion power. Maybe we will do it in time. But it's not inevitable, no matter what scientists or economists say.

Of course, discussions like this one only deal with the supply side of energy issues. There is a way to buy some more time to allow new technologies to develop. We could stretch out current supplies by making major cuts in our energy use. This would be wise for another reason. The hoped-for technological breakthroughs may not arrive. And, that would mean that we need to adapt to a lower-energy world.

But let's assume for the moment that technological breakthroughs in the near future allow us to tap, for example, both tar sands and oil shale at such high rates of production and high energy returns that the problem of fossil fuel depletion is put off for several decades. The next breakthrough we would need--and, in a hurry--is a solution for all the greenhouse gasses produced by burning the oil from these sources.

The multiple interlinked major problems we face will require quick and near simultaneous breakthroughs in many fields if we want to go on living as we have. Maybe it can happen. But, no one can be certain what the future will bring. And so, just in case, perhaps we should take out some insurance in the form of adjusting the way we live to mitigate the hazards and adapt to the limits we know we face if technology doesn't evolve the way we want it to.


Anonymous said...

We're all ears. All I know is that things don't smell right currently and we're looking for explanations (those of us paying attention, anyway). You left us with a cliff hanger, though, as Greenspan has been out of office for awhile.

rachel said...

with the clear and defined task to liquidate and gut the American society and economy

They may have succeeded in gutting our economy but good people will continue to fight and work and love and take care of each other...and even in the face of death...not become the bad. The fight between good and evil, right and wrong has been on this planet for as long as humans have.

It looks like the bad guys are winning but I know as long as I do not become them, I have won...don't get me wrong i will continue to fight them, not just passively accept their view of how our world should be, but I will never become them and that is how I win.

I thank you for your insight and advice. I hope you will continue to have courage and some delicious drinks and a little joy.

got2surf said...

The final article - on the law of receding horizons - has a dead link and I'm curious where it came from.

The rate of conversion label is a new one. Does this have to do with no matter how large a 'reserve' there may be, there is a limiting bottleneck in the conversion to usable energy? And that 'science' runs on an energy surplus unavailable at a low conversion rate?

Makes sense to me...

And, of course, thank you for sharing your expertise and your time. It is very much appreciated.

Anonymous said...

On Greenspan

In the 90's I believe he was the guy that warned about 'Irational Exuberance' in the markets (and sent thigs down if I remember right) then something happened. He bacame a cheerleader for the .com buble and the subprime frackup so what caused this change of heart is open to conjecture of all kinds.


CrystalRadio said...

Hi ilargi

I rember reading something by Chomsky about Woodrow Wilson and US machinations in the middle East concerning oil, so went looking for that article but found this one instead which covers similar points.

At the dawn of the oil age almost ninety years ago, Britain’s first lord of the admiralty Walter Hume Long explained that “if we secure the supplies of oil now available in the world we can do what we like.”8 Woodrow Wilson also understood this crucial point. Wilson expelled the British from Venezuela, which by 1928 had become the world’s leading oil exporter, with U.S. companies then placed in charge. To achieve this goal, Wilson and his successors supported the vicious and corrupt dictator of Venezuela and ensured that he would bar British concessions. Meanwhile the United States continued to demand—and secure—U.S. oil rights in the Middle East, where the British and French were in the lead"

On your :

PS2 The most stunning thing today, I think, is Hank Paulson indicating that he won't use his dictator powers to bankrupt institutions at will until after the election.

Does seem to be dragging his leg while pulling ours doesn't he. A case of 'the devils needs must, when the devil drives'?

BTW just looked up at the TV and it said DOW -643, though that is just a snapshot and may be changed by now, I dare not look up . Hmmm that reminds me of a novel, 'The Sheep Look Up'.

ric said...

Felix Salvon writes: At some point, Nouriel will be too bearish...

Most people aren't aware of how ideology forms their assumptions, so while people believe they are rational, they are anything but. What is the base of rational analysis? In the relative world, we're aware of how arithmetic cannot be complete and consistent at the same time. Pure logic can't do the trick--this is why it is so easily distracted by ideology.

I've come to "believe" that the core of rational analysis in human affairs is not "logic," but ethics (our sense of how well we socially treat other people and our will to be ethical). Logic is essential, but it's not the core. Ilargi traces the plan to economically gut the world back to TPTB's reaction to Hubbert's work. That may be--and it doesn't surprise me if it is true. Another milestone is the development of 19th century corporate law that legalizes and allows sociopathic organizations to thrive and overwhelm.

If Ilargi and Stoneleigh are so damndably clear-sighted and accurate in their analysis, I'd suggest it's because they are two of the most ethical people I've had the pleasure to read. While their analysis is not "complete," it is definitely consistent and being shown accurate.

ric said...

While their analysis is not "complete,"...

On re-reading that, I decided that was too cute and not fair. You don't try to be complete. My hat's off to you, my friends.

CR--Loved the Sheep Look Up! Stand on Zanzibar is also one of my favorites.

admin said...

Regarding Peak Oil, I recently had a similar conclusion, but it was not due to nefarious motives. I believe in the 70's, when oil peaked here in U.S., there was little other choice (or actually the choice was not to change the happy motoring American way - so if that is nefarious, ok) than to end the gold standard (and now a true fiat currency), increase imports, and run deficits. With the petro-dollar as the world reserve currency this worked for 30 years now.

But when oil went to $100 a barrel, and world peak reached, these are body punches - and an early symptom of illness - seen first in real-estate (already over inflated due to easy credit). Next, any deflation in values caused another body blow when derivative (originally used to spread risk on Ford loans) had trickled all the way down to unsavory mortgage tranches. The inter-connecting web caused all investment banks to be cusked into the vortex the first time defaults started occurring. Killing their capital positions, exacerbated by hedge funds 'piling on', many firms now have a toe tag on the body.

But peak oil, as Westexas says at TOD, means the life blood (oil) of the economy is slowly draining away. The US has benefitted from the transfusion of that lifeblood from OPEC but it fiscally cannot be sustained. Budget and trade deficits mean debt which means interest must additionally be paid.

Expensive oil (due to world peak oil) accelerated time for the day of reckoning. It is now 'peak credit' and the choice is inflation or deflation. More credit or borrowed money to 'capitalize' banks may delay the cay of reckoning but make the suffering later much more painful.

I don't think it was so much an intentional act to gut the country as it was the inevitable outcome of maintaining business as usual for the non-negotiable American lifestyle born out of the hubris of being a military superpower.


Anonymous said...

Ilargi said:

"No, he saw it all develop as it did, and he made it unfold."

"There are no unfortunate coincidences anywhere to be seen."

True. Thank you for having the courage to say it. It was well orchestrated. The same might apply to the neocons and 9/11.


rumor said...

Receding Horizons for Alternative Energy Supplies

Your friend Google sends his regards.

Anonymous said...

Dow fell 678.91 points. Scary ... I wonder if repressive emergency measures will be adopted.


dopamine said...

Hijacking the behavior of an organism is a well-known strategy employed by some microbes to further their own goals of reproduction and growth. As an example, within the brain of a rabies victim the rabies virus causes an increase in saliva production and aggressive behavior that is likely to result in transmission to the next host.

The equivalent of a brain for the United States of American and any other nation for that matter is the central government. It decides what is best for the health and well being of its citizens. What if various parasites (lobbyists) were able to influence the brain to do things detrimental to the body but very helpful to themselves? What if it were apparent that soon the nation would die on account of debts, energy deficits, foreign competition and overwhelming financial obligations?

It doesn’t make sense in most cases for a parasite to kill its host but if the host were found to be terminally ill, would it make sense to steal the last of its energy and escape to greener pastures? Maybe a ranch in Paraguay or as Jim Rogers has done by leaving for Singapore. Where will the capital go that isn’t vaporized in the near term? Will it return to fund the soup and bread lines and pay for lost pensions and medical care? Maybe our parasites will open new branches in China…..oops, I guess they already have.

It’s really too late for the U.S. in so many ways. I think the vote for the "bail-out/rescue" was the final act of capitulation.Those names (rescue/bail-out) are so appropriately Titanic; "Hey it looks like you're sinking, Paulson yells from the water to the middle class standing on deck. "Why don't you give us those life boats and we'll go for help. The middle class lowers the boats as Hank winks to Ben). Our own government even voted to cannibalize itself with an additional amount of pork added to the bill.

Will our children be spending the rest of their lives in an environment of violence, deterioration and necrosis? It's beginning to look that way.

Brian M. said...

Aw shucks
Dow at 8579.19, 1 year after its all time high, gee, its only what 60.5% of its value last year?
Thats not as bad as it fared between Sept and Oct of 1929, heck even 1932 was a worse year for stocks...

Anonymous said...

I think your views here at TAE line up with 'Disaster Capitalism' very nicely.

Naomi thinks this financial skullduggery we are witnessing was on purpose to. Milton Friedman did not miss Hubbert's little theory either.

The Powers that Be are organized to the hilt and are obsessively watching the future.

The rabid promotion of 'hyper- individualism and 'real men don't need to organize and have unions' plays into this propaganda for the masses to stay isolated and helpless.

It's a little late in the game to do much about it however.

Joe and Jane six-pack love being rugged individuals. Dismantle DuhMerika?

No shrugging allowed.

Atlas lugged out the garbage when told to do so by his Masters.

Anonymous said...

Less than one week ago, there were catastrophic messages in all newspapers, saying that DJIA broke 10 000 points. And now, it's 8579. More than -1000 a week.

Any idea?

Is there still the chance to stop the worldwide state bankrupcy?

Anonymous said...


No, no, you're not at all like Roubini. Your writing is far more colorful and memorable!

bluebird said...

ilargi says "PS2 The most stunning thing today, I think, is Hank Paulson indicating that he won't use his dictator powers to bankrupt institutions at will until after the election."

Why is he waiting until after the election?

Or has Paulson already started using his dictator powers and won't tell us until after the election?
Anonymous Reader

DrChaos said...

"So, in 1987, Alan Greenspan was brought in, with the clear and defined task to liquidate and gut the American society and economy."

I kinda like your theory Ilargi, but the question remains as to why they did this. If they knew peak oil was coming 30 years ago, a Manhattan style project could have been started to get the US out of this mess. Who gains when the states goes up in flames? What is wrong with these people?

Your blog makes compulsive, if depressing, reading. So any predictions on what's gonna happen where I am (Ireland :-( )? Everyone, except the politicians of course, is expecting the country to go down the toilet real soon.

Rototillerman said...

Lincoln, speaking on the subject of the political maneuvering in the era of the Dred Scott decision, wrote in his famous speech, A House Divided:

• "We cannot absolutely know that all these exact adaptations are the result of preconcert. But when we see a lot of framed timbers, different portions of which we know have been gotten out at different times and places and by different workmen... and when we see these timbers joined together, and see they exactly make the frame of a house or a mill, all the tenons and mortices exactly fitting, and all the lengths and proportions of the different pieces exactly adapted to their respective places, and not a piece too many or too few... in such a case, we find it impossible not to believe that [they] all understood one another from the beginning, and all worked upon a common plan or draft drawn up before the first blow was struck."

Ilargi said...


Link is fixed, rumor did it too in the comments thread. I coined the Law of Receding Horizons somewhere in 2006, and boy, does it ever stand up. Chris Nelder's book Profit from the Peak gives the proper attribution. but I've never seen this mess as something to profit from.

Come have a drink or two with me.

Yes, Irrational Excuberance is a term that Alan stole from someone else, but it doesn't clear him one inch. Go through a timeline of what he did, say at Wiki, and you'll see what I mean. I am not kidding.

Yes, I know, you can call it nefarious. My view is that the powers realized they had no other option to stay in power. A society with no energy source left is dead.

9/11 is too distorted a subject, so we leave it be here

It doesn’t make sense in most cases for a parasite to kill its host.
That is very often not true. I does make a whole lot of sense, depending on the number of potential next hosts available. Plus, many parasites heave developed the ability to lie dormant for a very long time. They don't need you to live.

No, no, you're not at all like Roubini. Your writing is far more colorful and memorable!
I have little on Nouriel, and I like him, but what I try to do is to write for normal people, and that id hard enough, it's a whole education phase people need to be willing to go through with me. I can't see a way to do it simpler than this.

Why is he waiting until after the election?
Because after November 4, we'll enter twilight land, and it's much easier to operate there.

If they knew peak oil was coming 30 years ago, a Manhattan style project could have been started to get the
No, it could not have, and they were and are very correct in that. Nothing can replace oil.

Starcade said...

Paulson won't have time. If he's not careful, to DOW will be at about 2-3K by the time the elections are scheduled to be held -- and the real question comes down to what finally just triggers "The End" and the declaration of an emergency to cancel the elections altogether.

/thehangedman/ said...

"If they knew peak oil was coming 30 years ago, a Manhattan style project could have been started"

As a boy I collected every one of the Tom Swift series of books about the youthful engineer who built rockets and ray guns and battled the Bad Guys.
No personal offence DrChaos, but your suggestion is right out of Tom Swift: "There's a problem here - let's FIX it!!".

The most bitter lesson of my life has been to learn how the few exploit the many by simply not solving their problems.
In Tom Swift's world, rising water raised all ships. In the real world, not so.
What we need to realize is that feudalism works. It works magnificently for the people who think they are the only ones who matter.

My workplace is across the street from a venerable old golf club who's members are the elite of Ottawa. The clubhouse there hosts more influential Alpha Males than any Parliamentary Committee. What's the chance that their dream world is a democracy?

bicycle mechanic said...
This comment has been removed by the author.
Anonymous said...

Rototillerman -- Thanks for the Lincoln quote! (Looks like Mr. Lincoln knew a conspiracy when he saw one...even in the absence of "proof.")


bicycle mechanic said...

I understand your theory Ilargi. I have also enjoyed several of your photos' lately, even the captions. Helen Marye, rolling something into the mix. ka bloom. I bet she was the apple of her daddy's eye. lol

FYI folks, Pika over at Dennigers has raised the klaxon alarm for Doomsday. That is correct, they are saying 24-48 hours. They have some sort of fax to send to people and Congress.

Wow, I mean the fear level is really up there on that site right now. It has spread to several other boards with a more woo woo flavor, but man do the woo woo sites have the news articles first.

Anyway, I ask each and everyone of one of you to stop, take a breath, think, observe, then react.

Rachel, another name from the past so to speak. Yes, you are correct, Time to get back to a purpose, not a party.

Ilargi, I never post as a anon.

Ilargi and Stoneleigh, you have done a great job educating your readers imo. Its not over though, its just beginning, and much more is to come in the plan.

The best place to hide the truth is in a myth.

and I will pass on a piece of advice given to me as I journey on my path with Creator.

don't worry be Hopi.

oh so true, in my opinion of course, but what the fuck do I know.

Good luck all, remember, always keep your head up and your feet on the ground, best advice I can give anyone.

Walk in peace Ilargi and Stoneleigh, and the rest of you too of course, even the serpents that walk on two legs, but that is a wasted desire.

jonboy said...

Greenspan championed the use of derivatives as a means to transfer risk from those who shouldn't be playing risky games, to those who could.
Reading between the lines, those who were playing those games wrote the derivatives and transfered the risk to us (the taxpayer) by socializing their debts. His quotes were the weasel words of the greatest con man of all time.
The problem, for those of us in supposed democracies, is that we are all surrounded and led by those who are steeped in the very same socialist dogma. One of our resident weasels, the Treasure Wayne Swann, has for the last few weeks been telling us that Australians are insulated from the turmoils of the world and that the banks in Australia are "light years removed from the issues affecting foreign banks". That flies in the face of his scurrying over to the US for a conference on the problem. What's it got to do with him if we are so insulated? Trust these guys at your peril. What a disingenuous scumbag.
Career politicians and bureaucrats are the bane of us all. A pox on them.

Starcade said...

The Nikkei was down about 1050 (yes, I did not typo -- a thousand and fifty) at 40 minutes into the open. It got back about 150 points, per CNBC.

2050 EDT: 1-Month T-Bill: 0.05%

Nikkei 225: -908.12 at 8248.

OuttaControl said...


Misery loves company. Bloomberg

/thehangedman/ said...

Since this has come up before:

HTML for Bloggers

Well presented and clear.

Anonymous said...

I can see the End of GM.

Sometime just after Jan 20, it will limp across the bankruptcy 'Finished Line'

Dead last for service, product and energy efficiency.

Mission Accomplished.

moral hazard a guess said...

Well... this is a shocker (insert heavy sarcasm here):

Ottawa admits it must act on the economy

"OTTAWA, RICHMOND, B.C. and TORONTO — The federal government is moving to backstop the Canadian banks' capacity to lend money in an acknowledgment that not even the country's sturdy banking system is immune to the global financial crisis.

A plan originally earmarked for Friday morning would see the government assume some mortgages currently held by the banks by giving them to the Canadian Mortgage and Housing Corp., a Crown corporation. In turn, the banks might receive CMHC paper – possibly bonds – against which they could use as collateral for their own loans from other banks.

In recent weeks, the big banks have faced a sharp rise in the cost of borrowing money in international markets to cover Canadian mortgages – a situation that puts them at risk of losing ever-increasing amounts of money on one of their core businesses."

CrystalRadio said...

Hi Ric I like your theory:

I've come to "believe" that the core of rational analysis in human affairs is not "logic," but ethics (our sense of how well we socially treat other people and our will to be ethical)

I got a thought too, or a "belief", which is when you come down to it, everyone can be an acquired taste. Well maybe not everyone, I am having a problem swallowing Stephan Harper:)

Anonymous said...

I see that the conspiracy thing is rearing it's head again so I repeat my quotes from the previous days thread.

1) "Never ascribe to malice, that which can be explained by incompetence."
2) "Any sufficiently advanced stupidity is indistinguishable from malice."

People believe in conspiracy theorys for many many reasons only one of which is that there are indeed conspiracys in the world.

Here is an alternate appraisal of the situation.

Many people (especially in the US) are convinced that there is some evil cabal of (your favourite here) that are out to get them, to destroy democracy, to destroy 'America', to take their freedoms, to enslave them etc. etc. For the most part this is pure BS

Lets take the destruction of democracy for example. Why in the world would TPTB want to destroy 'democracy'. It is the most profitable system in the world. It would be crazy to do away with it. Of course at one time democracy was a threat to TPTB but those days are long gone. Now it is just another way, and the most profitable way, to organize people. And of course most of the profits of 'democracy' do in fact go to a small elite. This has always been true and has accelerated tremendously in the last 30 years or so. (and this concentration of wealth is one of the real reasons for the current problems)
This is why these guys are scurrying around now.
The 'situation' is out of control.

What if things REALLY go down the tubes. Then what.
How many burgers will they be selling at Macdonald's?
How many new cars?
Who is going to buy those condos?

Business as usual is far more profitable.
They want you working.
They want you in debt.
They want you to lust over the latest and greatest whatever.
A new TV - a new car - a new iPhone.
They want you to want what they want you to want. (not a typo)
And you do.
There is no democracy,
You have no freedom.
You are already a slave.

Sweet Dreams


Anonymous said...

Ilargi invented the concetp of receding horizons. Wow I'm impressed.

team10tim said...


I have to confess that I am conflicted about your take on M. King Hubbert, peak oil, and TPTB. On the one hand I see the collapse as a systematic failure that is the predictable result of the structures our society has built and those social constructs are the logical evolution of the path that the world has been on since the industrial revolution and the rise of the corporation. On the other hand, I can't shake the feeling that whoever is at the helm is deliberately trying to sink the ship. Since I really can't elaborate on a nagging suspicion, here are the reasons I disagree.

You qualified your theory that TPTB 'jumped on it (peak oil) like a bunch of pouncing tigers' with 'There’s something I first wrote about years ago, and have left alone most of the time since. It exposes me to conspiracy theory claims' The reason that this invites claims of conspiracy is that it implies that there is a group of people at the top running the show while the people beneath them are left in the dark. Empires have been trying for literally millennia to hold on to their power and if it were actually possible for one group to retain control then we wouldn't be talking about Canada's, Germany's, and Russia's response to the credit crunch, we would be talking about Rome's or Egypt's or Summaria's.

There isn't one big plan, The Powers That Be aren't that organized. There are hundreds of separate plans by several broadly similar groups with interests that often overlap who constitute what we think of as The Powers That Be, that why powers is plural. When their interests line up the little people perceive it as The Man sticking it to them. This includes things like keeping wages stagnant and profits high, deregulating and consolidating the media, outsourcing and off shoring jobs to unregulated poor countries. It's worth noting that one, their interests don't always coincide and two, none of them individually want to wreck the whole world but that is what their collective actions result in. It's a classic tragedy of the commons. Nobody in their right mind wants peak oil, terrorists, global warming, a global depression and the like, but that is where their actions lead when taken as a whole.

Still, I can't shake the feeling.

team10tim said...


I think Ireland will do fairly well. It supported 8 million people before the potato famine and its current population is 7 million.

I've put some thought into relocation and I put Ireland, New Zealand, and Russia in the top three of places that will manage well. Let me explain.

If you view, as I do, collapse as inevitable then what you want is a country that is going to collapse early and have a soft landing. Other countries, like the USA, are going to collapse late and have a hard landing. The former is preferable.

Social resilience: Ireland has a long cultural heritage, a broadly homogeneous population, an existing rail network, and a low population density. It is an island, and thus has reliable rainfall and natural boundaries. The Irish are peak aware and motivated to seek alternatives.

Reason for an early collapse: It has essentially zero domestic oil, and an economy based on agriculture and software. and, it is in the top three of overinflated housing prices globally.

Ireland is going to get hit early, but not hard. It will be forced to reconfigure while the rest of the world is still up and running. This is a great arrangement. The rest of the world is going to be hit hard and when it falls there will be no one to call for help.

Your principle worries are climate change and immigration from England.

team10tim said...

Sorry drchaos,

I left two things out. Your country is heavily dependent on fertilizer, particularly phosphorus, for which I recommend organic farming. And Ireland needs to reforest, the forests of your country have been decimated and need to restored for long term heath.

Reinventing Collapse and Collapse: How Societies Choose to Fail or Succeed are recommended reading.

SEO Services said...

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nn said...

Behind the Panic:
Financial Warfare over Future of Global Bank Power

scandia said...

Just mulling over the comment from Anon that Greenspan has been out of office for awhile. He prepared his acolyte( Bernacke) well to continue his work. Out of office does not mean out of influence. In fact out of office gives cover to covert influence. I have sure been wondering what Rumsfeld and Cheney have been up to in the shadows.
In the meantime we need to be taking care of our own affairs as best we can with corrupt statistics and missing information such as what is in those vaults that is worse to know and experience than the decimation of the global financial system. This I long to know so I can make good decisions. I guess I'll just continue to trust my intuition and reports on TAE.

FB said...

Hello All,

Excellent comments today. Have deadlines to meet, but will comment myself as soon as possible.

Team10tim (Tim?), was fascinated by your analysis of Ireland. For months, I have been thinking about the strong and weak points of my country (France) and, all false pride aside, I think there actually are some strong points.

This thought process was started many months ago by an Australian fellow on TOD analysing his country. Very interesting.

Will be in touch later,

J Rob said...

You know Ilargi, I was inclined to dismiss your "conspiracy theory" at first. I don't think it is possible for a centralized bureau to plan every detail of history decades in advance.

But then if I put myself into a meeting of the Bilderbergers along about 1987, I can only imagine the assortment of bad outcomes that were discussed. I mean, you had the Club of Rome with a book greeted by catcalls all around. Jimmy Carter tried to be reasonable and gently introduce this concept to the public; no sale.

So faced with a one hundred percent certainty of collapse in a few decades, they would want to choose a course that minimizes their discomfort. And "Honey I Shrunk the Economy" would seem to be far better than nuclear war.

Then note how Greenspan in his memoir said, "The Iraq war is largely about oil" and was immediately shushed.

So apparently you are correct about this as well...

greg said...

"Consumers have cut back sharply on spending, in what will be the first quarterly decline in 17 years when the government tally is in for the third quarter."

"To offset this shrinkage, the Democratic leadership in Congress is "seriously considering" a large fiscal stimulus proposal, which would send a significant amount of money to states and cities. "We have to prop up consumption," Rep. Barney Frank, D-Mass., the chairman of the House Financial Services Committee, said in an interview."

Stocks are on track for their worst year since 1937

I thought that over consumption and credit expansion is the cause of the problem.

CrystalRadio said...

Hi Greg, under consumption has problems of it's own. Maybe the worry is keeping the transport system etc. running and that depends on a lot of small business people. If I were in a place dependant on one lonely trucker who can't pay for his fuel I would be stocking up on a few cans of Sardines and a sack of rice. You know proletariat consumption, no champagne and caviar I'm afraid.

Ilargi said...

I don't think it is possible for a centralized bureau to plan every detail of history decades in advance.

I think it's a mistake to talk about planning details, there is no need for that. I see this as simply pushing a boulder off a cliff.

Gravity will take care of all the rest of the work.

If both the president and the Fed head go public pushing home-ownership, while simultaneously cutting interest to zero Kelvin and flooding banks with credit, the outcome is utterly predictable.

And it's obvious that if you would want a functioning US economy, you don't do this, you don't bury the entire population in debt.

To top it off, you initiate the creation of a shadow system that leverages itself into shady deals worth hundreds of trillions of dollars.

Greenspan had all the numbers on his desk, all the time, every single day. he knew what was going on, better than anyone else. That's his job as fed head. It may surprise you or me, since we have no access to the numbers, but not him: he was watching it unfold live. And he saw it all went according to plan.

The demise of oil was always guaranteed to be the demise of the US. They decided to approach it this way: 300 million debt slaves. They are going to go to war.

greg said...

Back to basics, beans, potatoes, rice...

I just planted a clover/vetch cover crop for our garden for next year. I wish I had planted a bigger garden this last season!

Nassim said...

I did a book search in Google books for the phrase "receding horizon" oil and got 162 hits/books. The earliest books I could find were printed in the 1970's

The first one was from a book printed in 1979 "projections of future oil shortages are like a receding horizon: no matter how rapidly you move towards it, it is still the same distance away."

I greatly appreciate the information and opinions on this site and do not wish in any way to appear to be a nit-picking. :=)

FB said...

Hello Stoneleigh,

Nate Hagens just put your primer up on TOD (reprint).

With a very flattering introduction, no less.

I wonder what the old gander thinks of that?


CrystalRadio said...

ilargi said:

The demise of oil was always guaranteed to be the demise of the US. They decided to approach it this way: 300 million debt slaves. They are going to go to war.

You don't mean that: 'they have gone to war and it hasn't worked'?

To go any further in a war for oil, to my way of looking at that, would mean a draft and that land war in Asia. Possible I guess with great unemployment and hunger as a whip, but I think the bolt has been shot and has missed the mark.

/thehangedman/ said...

Guardian business blogs

"The secret that, understandably, none of the experts wants to admit to is that the heart of today's problems is human behaviour, not impersonal flows of money."

bluebird said...

@CrystalRadio - perhaps war is nuclear? If so, I hope I am already dead.

CrystalRadio said...

Sorry Blue bired Nuclear war is still not on in my opinion. If it were a factor then the bombing of Iraq with conventional wwepons would have produced better results. I would think using food as a bargaining chip for the US to use in fighting a proxy war would be more likely . But who knows what crazy stuff goes on under the label of clear thinking in the Pentagon. The mad men are running this show and us loonies will just have to take what is dealt out.

Stoneleigh said...

The primer I wrote at TOD a year ago, with a new comment thread for today's reprint, can be found here. I've been explaining how financial crisis will affect energy.

Ilargi said...

You don't mean that: 'they have gone to war and it hasn't worked'?

It has worked like a charm, all goals have been achieved. You just need to understand what those goals were. They never intended a quick victory, they wanted a huge force to stay indefinitely, and the only way to get there was to create complete mayhem. Check.

crony capitalism said...

Well, I guess it's better than nothing. Iceland just put itself up for auction on Ebay.


I can't decide if current offer is overvalued or not...

kjmclark said...

Robert Schiller warned Greenspan and anyone who would listen about both the stock bubble and the housing bubble. ("Irrational Exuberance" was Schiller's phrase.) Ned Gramlich also did his best to get the Fed to change course about the housing bubble. Prof. Gramlich also kept pointing out that we were not preparing adequately for the retirement of the baby boomers.

Ilargi, I would say that your theory only sounds like a conspiracy when you phrase it that way. Oil is the quintessential fossil fuel, and fossil fuels are the root of modern societies' energy. It would just be sensible for anyone in power in any way to pay attention to the supply of such an important resource. If someone in power had a warning that society's most critical resource was destined to decline, received a prediction of when, and saw that the initial prediction was proved correct, it would be insane for them not to prepare for the rest of the prediction.

Have they intentionally robbed the rest of us blind to prepare for the result of the rest of the prediction? I have no idea, but you really have to wonder about some of the things that have happened in the past 20 years. It just makes sense that the wealthy would take all legal (or close enough) measures to retain their wealth. No one wants to get poorer, particularly those who have gotten used to being on top.

ric said...

Krugman quotes Jansen in Faustian Bargains:

Is this the beginning of the end for the dollar and the Treasury market? Is this the first sign of the bursting of the bubble in Treasury securities? That market, in a sense, represents the ultimate bubble as it exists at the whim and caprice of foreign investors, who have as participants in a Faustian bargain, financed our war(s) and our lifestyle so generously over the last decade. Maybe even that bizarre construct is crashing about us as we speak.

Anonymous said...

Mr Moto
I agree with your analysis, too, at the same time trying hard to pay attention to what is going on, because, as Stoneleigh has repeatedly said, times such as this are great opportunities for power grabs. Another point is that most developed nations bought into the same faulty economic practices. The recent bailout package proposed by Paulson really raised the alarm bells for me. At that point, I was convinced something was really wrong behind the scenes. Was it just that Paulson's world is too small, too local, and too selfish for himself, his friends and his former bank, or was it more than that? At any rate, a few people have an enormous amount of power (money=power) during this crisis, as the power of most is dwindling.

Anonymous said...


from wikipedia:
"Irrational exuberance" is a phrase used by former Federal Reserve Board Chairman Alan Greenspan in a speech given at the American Enterprise Institute during the stock market boom of the 1990s. .....
The presence of the short comment—not repeated by Greenspan since—within a rather dry and complex speech would not normally have been so memorable; however, it was followed by immediate slumps in stock markets worldwide, provoking a strong reaction in financial circles and making its way into colloquial speech. Greenspan's comment was well remembered, although few heeded the "warning."

Shiller did indeed use it after though


Anonymous said...

Thanks for the comments - it's hard to get a conversation going in the middle of one of the worst shitstorms in history!

You say 'as Stoneleigh has repeatedly said, times such as this are great opportunities for power grabs'
Absolutely true. 9/11 being of course one of the worst and most obvious. Who knows what will come out of this. This type of thing is what Naomi Klein has written about (disaster capitalism)

I hate the now so overused expression 'perfect storm' but that is what is happening and why it is so dangerous.

As far as I&S go - these folks have been so right so far and deserve full credit for that. I've been reading their stuff faithfully since the OD and the only reason I would do that is because they have much of use to say and in fact I agree with most of their positions.


uncertain said...

George Soros had an interesting piece in the Wall Street Journal the other day:

To reconstruct our mortgage system on a sounder basis, we ought to look to the Danish model, which has withstood many tests since it was brought into existence after the great fire of Copenhagen in 1795. It remains the best performing in Europe during the current crisis. First, it is an open system in which all mortgage originators can participate on equal terms as long as they meet the rigorous regulatory requirements. There are no GSEs enjoying a quasimonopolistic position.

Second, mortgage originators are required to retain credit risk and to perform the servicing functions, thereby properly aligning the incentives. Third, the mortgage is funded by the issuance of standardized bonds, creating a large and liquid market. Indeed, the spread on Danish mortgage bonds is similar to the option-adjusted spread on bonds issued by the GSEs, although they carry no implicit government guarantees.

Finally, the asymmetric nature of American mortgages is replaced by what the Danes call the Principle of Balance. Every mortgage is instantly converted into a security of the same amount and the two remain interchangeable at all times. Homeowners can retire mortgages not only by paying them off, but also by buying an equivalent face amount of bonds at market price. Because the value of homes and the associated mortgage bonds tend to move in the same direction, homeowners should not end up with negative equity in their homes. To state it more clearly, as home prices decline, the amount that a homeowner must spend to retire his mortgage decreases because he can buy the bonds at lower prices.

The U.S. can emulate the Danish system with surprisingly few modifications from our current practices. What is required is transparent, standardized securities which create large and fungible pools. Today in the U.S., over half of all mortgages are securitized by Ginnie Mae, which issues standardized securities. All that is missing is allowing the borrowers to redeem their mortgages at the lower of par or market.

I'm sure there are new systems that can be implemented, but none can maintain the absurdly privileged position of the American finance leadership, nor the profits they have come to expect as deserved and normal which they extract from the system in the process of destroying it like a cancer.

It's also very interesting to watch the entire myth of money producing energy falling down around us as we speak, aka, techno-utopianism. IE: no matter what energy costs to extract, the world will happily continue to pay it.

Much newer oil development is now facing production at a loss at today's current price, which leaves only the older easy to extract stuff.

The more I read this stuff, the more I realize that the entire project of trying to produce any 'science' of 'economics' is doomed to failure, at least as long as that science maintains its fundamental disconnect from material reality.

The comments re: ethics are interesting. I doubt many people have a strong sense of what ethics actually refer to, it appears some posters here do, which is a very pleasant thing to see.

There's a reason Spinoza called his key work 'The Ethics', and it wasn't because he was trying to make up some new moral system.

I'd say it's in fact impossible to see clearly if you do not operate from an ethical position, no matter how much you try to delude yourself into thinking otherwise. Greenspan's libertarianism is to me a perfect example of this problem, that philosophy, in a capital based system, can lead to only one place long term, and we're now looking at it unfold. That's because that philosophy always ignores the fact that corporations are also hierarchical organizations that have power, like the Government, only with less constraints on them. So removing State controls can have only one result: increasing the power of the corporate feudal states.

The inability of Libertarians to consistently apply their analysis has always amazed me, while of course making me realize how profoundly unethical as well as sociopathic their philosophy is. I include neo-cons here since they hate government as much as any Libertarian, but they have even fewer ethics.