Migrant cherry picker in front of tent home, Berrien County, Michigan
Ilargi: I wasn't going to talk much about the Dow Jones Index anymore (or the S&P for that matter), but I can't help noticing something today, and it irks me to no end; nor will I ever get over it. The DJIA is up 0.75%, but the biggest winners in my little financials list, both up over 20%, are AIG and GM. What does that make you think of? Exactly, they are the two firms, if you leave CIti alone for a moment, that depend most for their survival on the government and the Federal Reserve, that wouldn‘t be around anymore if not for your money. It's so insanely perverted that they are both still traded on an exchange, I just can't help mentioning it one more time, as I have done many times before. Both AIG and GM should have been de-listed long ago, and for several reasons: they are no longer going concerns, that's a mere illusion brought about by public funds, and their stock has dropped so much it's below normal index standards (I know, like so many others).
The main point is that any and all gains the companies generate, in the face of the behemoth losses they have suffered, should go to you, because it's your money that's propping them up. Instead, a bunch of smart traders, perhaps even at AIG, are making a killing today on the stock of walking dead corporations, and I don't hear one voice of protest. What have we come to what have we done to ourselves. Will we allow ethics and morals to erode ever further? And if so, where will that take us? The profits in the markets today are there because of your money, but you won't see a penny of it, because the stock will plummet again soon, and then your reward will come in the shape of the losses. Man, I tell you, is capitalism dead or what? There's little wrong at face value with the idea of a free market, but at the same time there's nothing more wrong in a society than to allow a few self-declared smart guys to continually rip off the majority of the population, simply because their representatives sleep with the devil.
Again, any discussion about the value, the future and the viability of free market capitalism is way behind the curve; the whole concept has failed. Since no-one seems to be willing to admit that, your governments, which have access to your wallets, will continue to use your rapidly diminishing wealth to reinstate a hallucinatory notion that in effect passed away years ago. It's like you're making the mortgage payments every month for your grandparents’ far-away home, while they both died in 1999 and nobody told you. And somewhere in the home, likely the basement, there's a vault filled with what we've come to know as 'toxic assets', and which in reality are your grandma and grandpa's rotting corpses. Nobody ever noticed the smell, because no-one ever goes to the home anymore. They haven't for ten years.
One last addition to the theme. Bank of America comes out saying they are so happy they acquired Countrywide, and get all this profit from this utterly bankrupt lender. How, why, what, where? First, your money. Second, your money. Remember, BofA said yesterday they don't need more of your money. For now. And they don't want to be nationalized. Oh my god, no, that would kill the profit scheme. The first time your money came in handy was when Countrywide was taken over. by BofA last year, in a deal replete with government guarantees. The second time happens every single day, as every new mortgage closed with either a severely retarded first time buyer (who else buys homes) or a 'smart' investor can be directly and immediately sold off to Fannie Mae or Freddie Mac, both of which are being kept alive with your money. And yes, both GSE's are still 'companies' that sell shares. I have no words for this sort of hazard; it is beyond all definitions to include the word 'moral' anywhere in there.
It's obvious by now that fair value accounting and mark-to-market will be suspended and further perverted, which is just one more indication that morals have left the US alone, or perhaps the other way around. The country is risking killing off itself for the sake of a few handfuls of bankers. Suspension of fair value will ultimately have one effect, and one only: the rest of the world will lose even the last few remaining shreds of confidence in the American financial and industrial systems. The hundreds of billions in sovereign debt that Washington is set to release into world markets will not only smother American corporate , state, and municipal bond issuance, it will finish and kill off itself. "It's a death trap, it's a suicide rap", as Springsteen put it in 'Born To Run'.
I sincerely hope that Angela Merkel and the other European leaders stand their ground in the upcoming G20 meetings, and simply refuse to follow the spending programs the Obama administration tries to lure them into. As I wrote a few days ago, it could be a ground-shaking meeting. And I hope it will be, because it may mean a shift towrds helping people, not institutions and corporations, an emphasis much more prevalent in Europe than in North America. Call it socialism, call it what you will; I call it preventing the collapse of your societies. It would be a huge loss of face for Obama though, and Merkel et al are not waiting for that, they'd much rather keep him than face another right-wing nut. Still, any compromise I can envision looks distorted and unreal fro now. Better for Obama to throw out Summers and Geithner, listen well when Europe speaks, and install a safety net like the ones many European countries have before it's pitchforks and handguns all over this continent.
Can't get more classic than this. The 1975 version.
Born to Run Springsteen
In the day we sweat it out in the streets of a runaway American dream
At night we ride through mansions of glory in suicide machines
Sprung from cages out on highway 9,
Chrome wheeled, fuel injected and steppin out over the line
Baby this town rips the bones from your back
It's a death trap, it's a suicide rap
We gotta get out while were young
`cause tramps like us, baby we were born to run
Wendy let me in I wanna be your friend
I want to guard your dreams and visions
Just wrap your legs round these velvet rims
And strap your hands across my engines
Together we could break this trap
We'll run till we drop, baby we'll never go back
Will you walk with me out on the wire
`cause baby I'm just a scared and lonely rider
But I gotta find out how it feels
I want to know if love is wild, girl I want to know if love is real
Beyond the palace hemi-powered drones scream down the boulevard
The girls comb their hair in rearview mirrors
And the boys try to look so hard
The amusement park rises bold and stark
Kids are huddled on the beach in a mist
I wanna die with you Wendy on the streets tonight
In an everlasting kiss
The highways jammed with broken heroes on a last chance power drive
Everybodys out on the run tonight but theres no place left to hide
Together Wendy well live with the sadness
I'll love you with all the madness in my soul
Someday girl I dont know when were gonna get to that place
Where we really want to go and we'll walk in the sun
But till then tramps like us baby we were born to run
U.S. Economy: Imports, Exports Slide a Sixth Month as Global Trade Collapses
U.S. imports and exports both slumped for a sixth straight month in January in what may be the biggest collapse of world trade since the 1930s, raising the threat of protectionist measures to shield domestic industries. The U.S. trade deficit narrowed in January to $36 billion, the lowest level in six years, on tumbling American demand for everything from OPEC oil to Japanese automobiles, Commerce Department figures showed today in Washington. The Labor Department said prices of imported goods dropped for a seventh month in February, another byproduct of the global recession. American exports have slumped at a 44 percent annual pace in the most recent six months of data, with imports shrinking 51 percent, probably the most since the Great Depression, according to Morgan Stanley analysts. The figures may add to pressure on the Obama administration to rework international agreements and include protections for U.S. workers and the environment.
"The global volume of trade has collapsed," said Christopher Low, chief economist at FTN Financial in New York in an interview with Bloomberg Television. "When you add protectionism on top of that, that further reduces both the volume of trade and also efficiencies. It tends to hurt both sides." The U.S. trade deficit has narrowed as imports fall faster than exports. American consumers are reining in spending as the unemployment rate surges and household wealth evaporates at a record pace. Consumer confidence remained near a 28-year low in March, a private report showed today. The Reuters/University of Michigan preliminary index of consumer sentiment was at 56.6 in March, compared with 56.3 in February. The gauge reached 55.3 in November, the lowest level since 1980.
The trade gap with China increased to $20.6 billion from $19.9 billion in the prior month as U.S. exports to the nation dropped faster than imports. China has used some of the dollars it gets from trade surpluses with the U.S. to buy American government debt, making it the largest owner of Treasuries. Treasuries dropped today after Chinese Premier Wen Jiabao said he is "worried" about the country’s holdings of the securities and wants assurances that the investment is safe. Benchmark 10-year note yields rose to 2.89 percent at 10:51 a.m. in New York from 2.86 percent late yesterday. Finance ministers and central bankers from the Group of 20 industrial and emerging nations meet today in the U.K., where they may reiterate a commitment to avoid protectionism. Still, a decision by Switzerland’s central bank yesterday to drive down the value of its currency drew reminders of the competitive devaluations of the 1930s that worsened the Great Depression.
"It is troubling that a country with a current surplus larger than 10 percent of GDP feels compelled to depreciate its currency," Marc Chandler, a currency strategist at Brown Brothers Harriman & Co. in New York, wrote in a note. Excluding petroleum, the U.S. trade deficit was little changed at $21.3 billion in January, the Commerce Department said. The trade gap was projected to narrow to $38 billion from December’s $39.9 billion, according to the median forecast in a Bloomberg News survey of 72 economists. Projections ranged from $31 billion to $44.5 billion. The global economy is likely to shrink this year for the first time since World War II, and trade will decline by the most in 80 years, the World Bank said this week without providing a specific estimate.
The narrower gap is not good news for the U.S. economy because it mainly reflected the drop in petroleum prices. The numbers used to calculate gross domestic product, which eliminate the influence of prices, showed the trade deficit widened to $44 billion, the most since October. Imports slumped 6.7 percent to $160.9 billion, the fewest since March 2005, paced by a $4.3 billion plunge in purchases of crude oil. Demand for foreign automobiles fell by $3.3 billion. The deficit with OPEC dropped to $3.9 billion, the smallest since November 2003, and the gap with Japan shrank to the lowest level since January 1998, as U.S. imports fell to an almost 16- year low.
An even bigger concern for the U.S. economy is the slump in foreign demand for American-made goods. Exports decreased 5.7 percent to $124.9 billion, the lowest level since September 2006, as sales of automobiles, semiconductors, telecommunications gear and drilling equipment dropped, today’s report showed. National Semiconductor Corp., the maker of chips for the five largest mobile-phone makers, said it plans to cut more than 1,700 jobs, or about 25 percent of its workforce. "The worldwide recession has impacted National’s business as demand has fallen considerably," Chief Executive Officer Brian Halla said in a March 11 statement. "The actions we announced today will help us remain competitive."
Boeing Co., the world’s second-largest commercial jet-maker, said it delivered 19 aircraft to buyers abroad in January, down from 27 the previous month. U.S. gross domestic product is forecast to contract again this quarter after shrinking at a 6.2 percent annual pace from October to December, the most since 1982. A collapse in U.S. exports led to a widening in the trade gap that subtracted a half percentage point from growth last quarter. The trade gap with Canada, the U.S.’s biggest trading partner, narrowed to the lowest level since May 1999, and the deficit with Mexico was the smallest since January 2002. The shortfall with the European Union was cut in half from $7 billion in December to $3.5 billion the following month.
US trade deficit falls to $36 billion in January
The U.S. trade deficit plunged in January to the lowest level in six years as a deepening recession cut demand for imported goods. The Commerce Department said Friday the trade imbalance dropped to $36 billion in January, a decline of 9.7 percent from December and the lowest level since October 2002. The improvement was better than the $38 billion deficit that economists had expected and reflected the fact that crude oil imports dropped to the lowest point in three years and demand for a wide variety of other foreign goods from autos to heavy machinery and household appliances declined. America's deficit with many of its trading partners declined sharply although the politically sensitive imbalance with China bucked the downward trend, rising by 3.5 percent to $20.6 billion.
American exports to China plunged by 19.7 percent, a much bigger drop than the 1.3 percent decline in Chinese goods shipped to the United States. The January deficit of $36 billion, if it continued for the entire year, would result in a deficit of $432 billion for 2010, a drop of 36.5 percent from the $681.1 billion deficit recorded in 2008. That deficit represented a 2.7 percent drop from 2007, the first year that the trade gap had narrowed after setting records for five straight years. Many economists believe the improvement for this year will be sizable as the country's most severe recession in decades trims Americans' appetite for foreign goods. U.S. exports are also falling as the recession that began in the United States spreads worldwide. However, so far, the drop in imports is larger than the fall in exports, reflecting in large part the fact that oil prices have plummeted from the record levels they hit last year.
The trade deficit has now declined for a record sixth straight month, beating the prior record for declines of five straight drops set in 2007. For January, exports of goods and services dropped by 5.7 percent to $124.9 billion, the lowest level since September 2006. Demand for a wide variety of U.S.-made products from farm goods to autos to civilian aircraft all dropped in January. Imports fell even more sharply, declining by 6.7 percent to $160.9 billion, the lowest level for imported goods since March 2005. The decline in imports was led by a 25.2 percent drop in imported crude oil, which fell to $11.9 billion in January, the lowest level since February 2005. The average price for a barrel of crude dropped to $39.81, also the lowest point since February 2005.
While exports have not fallen as sharply as imports, the declines that have occurred have pinched U.S. companies. Boeing Co. and Caterpillar Inc., two of America's largest exporters, have already announced layoffs due to falling demand for their products in key export markets. Many economists are worried that the spreading global economic weakness could prompt countries to resort to raising protectionist barriers in an effort to protect their domestic industries. Treasury Secretary Timothy Geithner was meeting in Britain on Friday finance ministers from the Group of 20 countries, which include the world's wealthiest economies and major developing countries such as China, Brazil and India. The Obama administration is pushing the G-20 nations to adopt sizable economic stimulus programs to jump-start their stalled economies. The U.S. Congress recently passed a $787 billion stimulus package that had been pushed by President Barack Obama. Former Dallas mayor Ron Kirk, tapped by Obama to be the nation's top trade official, told the Senate Finance Committee at his confirmation hearing on Monday that his main objective as U.S. trade representative would be to enforce existing law and insist that U.S. trade partners play by the rules.
More to the Trade Deficit Story
The seemingly good news with the January Trade Balance report is that the deficit narrowed to $36.0 billion from $39.9 billion in December. The improvement was led by an $11.5 billion drop in imports that was partially offset by a $7.6 billion drop in exports. What the narrowing deficit really reveals, though, is that we are experiencing an overall contraction in global trade. That's not a good piece of economic news, although it will be muted to a certain extent in the current trading environment by the understanding that this is January data.
Separately, the real trade deficit (price adjusted) widened to $44.0 billion in January from $42.9 billion in December. Non-petroleum exports dropped to $69.4 billion from $76.2 billion while non-petroleum imports dipped to $102.2 billion from $107.7 billion. The real trade deficit is what counts for GDP forecasts. We don't expect economists will make any meaningful changes based on this initial number for the quarter, but it leaves Q1 GDP forecasts on track for some further downward revisions if the trend persists in February.
Canada Posts Record Trade Deficit in January on Lower Automobile Exports
Canada posted a record trade deficit in January on vanishing trade in automobiles with the U.S., signaling a deepening recession. The merchandise trade deficit was C$993 million ($775 million) in January, Statistics Canada said today. Economists surveyed by Bloomberg forecast a January deficit of C$1 billion. The Ottawa-based agency also increased its estimate for the December deficit, which was the first since 1976, to C$652 billion from an initially reported C$458 million. Canada's trade balance has swung from a surplus of C$5.3 billion in August as commodity prices dropped and U.S. consumers slowed purchases of cars and homes.
The Bank of Canada said March 3 the economy will be weaker than expected in the first half of this year, and chopped its key lending rate to a record 0.5 percent to boost demand. Automotive exports dropped 35 percent to C$3 billion, the lowest since 1992, and the industry's imports fell 23 percent to C$3.9 billion, Statistics Canada said. Overall exports fell 9 percent to C$31.7 billion, the lowest level since August 2003. Imports fell 7.9 percent to C$32.7 billion. Declining shipments of machinery and equipment also contributed to January's drop in both exports and imports. Canada's trade surplus with the U.S. narrowed to C$2.98 billion, the lowest since June 1998, from C$3.39 billion in December.
Canada's Unemployment Rate Climbs to 7.7%, Highest Since 2003
Canada lost more jobs than expected in February, led by construction, pushing the unemployment rate to the highest since 2003. Employers pared a net 82,600 workers, following January’s record decline of 129,000, Statistics Canada said today in Ottawa. The unemployment rate rose to 7.7 percent from 7.2 percent. Economists predicted total jobs would fall by 55,000 in February and the unemployment rate would be 7.4 percent, according to Bloomberg News surveys. The world’s eighth-largest economy is shrinking as a global credit crisis and a drop in commodity prices saps orders for Canada’s lumber, automobiles and metals. The jobless rate will reach 9 percent in the fourth quarter, say economists surveyed by Bloomberg News, which would be the highest since June 1997 and lower than a peak of 12.1 percent in November 1992.
"In the months ahead, we expect the deterioration in Canadian labor market conditions to continue as the ongoing domestic economic recession gathers steam," Millan Mulraine, an economics strategist at TD Securities in Toronto, wrote in a note to clients before the report. The Canadian dollar fell 0.3 percent to C$1.2819 at 7:06 a.m., from C$1.2778 late yesterday. The currency has depreciated 23 percent over the last 12 months. Employers reduced full-time payrolls by 110,900 positions in February. Part-time jobs rose by 28,300. Construction employment fell by 43,200, followed by a loss of 31,100 in professional, scientific and technical services, Statistics Canada said. Manufacturing employment rose by 24,700. Average hourly wages grew 3.9 percent from a year earlier, Statistics Canada said, slower than the 4.8 percent pace in January. Unemployment in Alberta, which had benefited from construction of new pipelines and oil sands facilities, rose to 5.4 percent, the highest in almost six years. In Ontario, the country’s manufacturing hub, the jobless rate rose to 8.7 percent, the highest since 1997.
Jobless Rate Above 10% Defines Recession Across US as Bernanke Predicted
Sergio Barreto landed his first job out of college during the recession that began in 1990, as a mechanic for United Airlines. He survived the next one a decade later, selling semiconductor materials. This time, he may be out of luck. Barreto, who has an engineering degree from San Jose State University and 12 years experience in the chip industry, has been out of work since he was laid off in December with a month’s severance pay from closely held CoorsTek Inc.’s sales office in Fremont, California. "I was very surprised because I was one of the top sellers," said Barreto, 46, whose wife gave birth to their second child in October. "I’m in survival mode."
At least 4.4 million jobs have been claimed by the U.S. recession that began in December 2007, cutting across the country and the economy. Positions have been eliminated by employers as diverse as Microsoft Corp., KB Toys Inc., Dartmouth College and the nonprofit organization that produces "Sesame Street." "This recession is incredibly broad-based," said Mark Vitner, a senior economist at Wachovia Corp. in Charlotte, North Carolina. "Parts of the country that have traditionally weathered recessions fairly well are being impacted." Contractions are usually centered in one sector or region, such as manufacturing in the Midwest in 1982, he said. This one, propelled by a credit crisis spawned by a real-estate slump, is simultaneously rooted in housing, financial services and auto manufacturing, he said.
Unemployment climbed in January in every U.S. state except Louisiana, and the decline there, to 5.1 percent from 5.5 percent in December, was due to rebuilding from Hurricane Katrina, the Labor Department said. The jobless rate topped 10 percent in four states, led by Michigan, where at 11.6 percent it was the highest since May 1984, according to data compiled by Bloomberg. South Carolina, at 10.4 percent, and California, with 10.1 percent, also saw their steepest rates in a quarter-century. Unemployment in Rhode Island was 10.3 percent, greater than since at least 1976, according to the data. Wyoming’s was the lowest in January at 3.7 percent. An average unemployment rate of 10 percent for a period of time is "certainly well within the realm of possibility," Federal Reserve Chairman Ben S. Bernanke said during congressional testimony on March 10.
While that outcome isn’t the "central tendency" of Fed forecasters, the central bank is using that level in an adverse scenario model that will determine whether banks need more capital, Bernanke said. Workers bearing the brunt span economic, social and regional lines, according to interviews conducted around the country. They include Mimi Bardet, who is losing a six-figure job this month after 23 years at Time Warner Inc.’s Warner Brothers in Burbank, California, and Tanya Jones, who moved back to subsidized housing in Trenton, New Jersey, and gave up her 2002 Ford Explorer after she lost a $1,500-a-week nursing-home job in November. "It’s like cancer -- there are so many people who know somebody going through this," said Lynne Bee, 52, of Lawrenceville, Georgia, who was fired as a dental office manager in January.
California, which led the nation in mortgage foreclosures last month, had the most job losses, with 79,300. Next were Michigan and Ohio, battered by the auto industry collapse, with 60,800 and 59,600, respectively. Southern states where the population is rapidly growing through immigration or migration have also been hard hit as their shrinking economies can no longer absorb the labor force, Vitner said. Georgia and Florida each had an 8.6 percent unemployment rate in January, and neither state topped 6 percent in 2001, according to data compiled by Bloomberg. "I’ve tried to shift around to different professions and change my work status, but it just keeps hitting different markets," said Mark Risetter, 54, a Dallas machinist laid off six weeks ago from Atco Rubber Products Inc., which makes insulated ducts for homes. For Risetter, who has leukemia that is in remission, it was the third job loss since 1982. "It’s more discouraging now than it’s been in the past," he said.
At the height of the Depression in 1933, 24.9 percent of the workforce was unemployed and shantytowns of crates and abandoned cars sprang up, according to the Franklin D. Roosevelt Presidential Library in Hyde Park, New York. In Sacramento, there’s an echo in the dirt along the American River, where more than 300 people have pitched tents. Fewer than a dozen tents were at the site a year ago, said Joan Burke, director of advocacy at Sacramento Loaves & Fishes, which provides food and medical services. "These are people that haven’t been homeless before and are shocked to find themselves in this situation," she said. At Ministry of Caring in Wilmington, Delaware, 10.4 percent more meals were served last year than in 2007, some to people who once had steady jobs, said Brother Ronald Giannone, a Capuchin Franciscan friar and the nonprofit’s executive director. "We’re seeing what I call the ‘new poor,’" he said. "The last thing in the world these people ever expected to do was to have to rely on our facilities to eat, but when it comes down to paying the utilities or buying food, they are opting to keep the lights on."
Delaware’s 6.7 percent unemployment rate is already higher than the 5.8 percent at which it peaked in the 2001 recession, said John Stapleford, a senior economist at Moody’s Economy.com who monitors mid-Atlantic states. Nationally, the jobless rate moved to a 25-year high of 8.1 percent in February. The rate will reach 9.4 percent this year and remain above last month’s rate through at least 2011, threatening the nation’s longer-term growth potential, according to the median forecast of economists surveyed by Bloomberg News. One exception to the grim data is in Washington, D.C., and neighboring Maryland and Virginia. The Obama administration may create 100,000 jobs to help administer the $787 billion economic stimulus package, said Max Stier, who runs the Partnership for Public Service, a non-profit group that monitors government employment.
With federal spending in the metro area increasing in 2009, as it has every year since 1983, that is trickling into the local economy, according to the Center for Regional Analysis at George Mason University in Fairfax, Virginia. Sales at Morton’s steakhouse in downtown Washington are up almost 3 percent from the same time a year ago, said Dan Festa, 41, the general manager. The restaurant has hired nine servers since December, he said. Business at Washington’s Ritz-Carlton hotel is comparable to two years ago, before the recession hit, said Elizabeth Mullins, who oversees four of the chain’s hotels. "So far, touch wood, we’re lucky to be in DC!" Mullins said. "I don’t want to rub it in, but I’m so glad to be here." In Atlanta, more than 15,000 people attended a job fair at the Georgia World Congress Center this week, three times the number at a similar event three years ago, said State Labor Commissioner Michael Thurmond. A workshop called "Stimulus 101: What’s in it for you?" drew the most people, he said. "There is a tremendous amount of anxiety and fear," Thurmond said. "It is a Great Recession, no question about it."
Old Europe Is Right on Stimulus
Treasury Secretary Timothy Geithner heads to Europe today to lobby for a "global stimulus" from the G-20 countries that are holding an economic summit two weeks hence. This follows White House economic czar Larry Summers's weekend call for a "global stimulus," which leaders in Europe roundly rejected Monday. They were right to do so. German Chancellor Angela Merkel and the other Europeans know whereof they speak, since a number of countries have decades of experience trying to spend in a vain attempt to boost growth. The Obama Administration came into office promising to listen to its friends and allies, so when Europe says non to gargantuan spending, maybe the President and his advisers should listen.
After a meeting of Euroland finance ministers Monday, Luxembourg's Jean-Claude Juncker delivered the Continent's verdict on global stimulus. "Recent American appeals insisting that the European make an additional budgetary effort to combat the effects of the crisis were not to our liking," he said. That's putting it nicely. When the EU established the euro in 1999, it put in place strict limits on deficit spending and debt-to-GDP ratios. Those limits have not been universally honored within the currency bloc, but there's a reason they're there. For decades, countries like Greece, Italy and Belgium had run up huge national debts trying to pay for social-welfare programs and keep their economies afloat at the same time. The chief result of these policies was a huge pile of IOUs. In Italy, the national debt stood at 107% of GDP in 1999. In Belgium and Greece it was 104%. Greece's fiscal house was so disordered that it was excluded from the first group of euro countries.
So from its founding, the euro zone insisted that countries not respond to every economic downturn by piling up debt. Budget deficits are supposed to be limited to 3% of GDP, and total debt to 60% of GDP. This has worked imperfectly, but debt ratios have for the most part come down or remained steady. Italy's debt-to-GDP ratio is now 96%. Greece is at 105%, while France and Germany have hovered around 50% and 40%, respectively. U.S. debt stood at 36% of GDP at the end of 2007 -- before the financial panic and stimulus started piling it on. (See the nearby chart.) The U.S. has run up $1 trillion in publicly held debt in the past six months alone -- that's 7% of GDP right there. Calling on Europe to follow this example is like dangling a bottle of grappa in front of a recovering alcoholic.
While he's in the U.K., perhaps Mr. Geithner should also ask his European counterparts whether any of them have ever seen a 1.5 Keynesian "multiplier" in the wild. That's the idea -- promoted by Mr. Summers -- that every $1 of deficit spending yields $1.5 in economic growth. If that were true, Italy would be the richest country in Europe, instead of merely one of the most indebted. And if the Treasury Secretary is looking for something to read on the plane, we recommend a recent paper by a trans-Atlantic team of four economists -- two Germans and two Americans. The authors -- John Cogan and John Taylor of Stanford and Tobias Cwik and Volker Wieland of Goethe University -- subject the Administration's stimulus to the most recent Keynesian scholarship.
The White House estimates of 3.6 million new jobs is based on an "Old Keynesian" model on the impact of government spending, while the new models adjust for the rational behavioral response to the stimulus by businesses and consumers. The White House figures, by economists Christina Romer and Jared Bernstein, also assume zero interest rates for a minimum of four years. The alternative assumes, more reasonably, that as growth returns interest rates will also rise. What the four economists found is that the Administration's estimates for stimulus growth were six times as high as they could produce under a modern Keynesian simulation. By their estimates, the stimulus would produce, at most, 600,000 jobs and add perhaps 0.6% to GDP at its peak. That's nowhere near a multiplier of 1.5 and suggests the $800 billion would have been better devoted to business tax cuts or fixing the financial system. That's $1.3 million in spending per job, for those keeping score at home.
Our guess is that the Administration is itself worried that its stimulus will come up short, while it fears Congress won't abide another round. Already the outside intellectual godfathers of the Obama plan are denying paternity, claiming the biggest spending bill since World War II is "too small." (Talk about lacking the courage of your convictions.) So now they and Mr. Summers want the rest of the world to ride to the rescue by repeating our mistakes. The problem isn't the size of Mr. Obama's fiscal stimulus but its design. If countries in Europe want to help the recovery, they'd do better to try marginal rate tax cuts on income and investment -- the sort of fiscal policy that actually changes incentives to work and invest. Then we could watch and see which approach encouraged recovery faster. But the last thing Europe should do is follow Larry Summers and the out-of-date Keynesians down the spending road to nowhere.
G-20 Shifts Focus Off Regulation With Global Economy 'Battling for Life'
The guardians of the world economy are finding their efforts to revamp the global financial system overwhelmed by the deepening recession and banking crisis. U.S. Treasury Secretary Timothy Geithner, Bank of England Governor Mervyn King and their Group of 20 counterparts meet near London today having originally intended to push along plans to tighten market regulation. Distracting them is a global economy in freefall, pressuring them to instead focus on ways to revive growth and tackle toxic bank assets.
"It’s like a patient battling for life in an emergency room," said Nouriel Roubini, a professor at New York University. "That’s not the time to advise about the benefits of exercise and healthy diet. You have to first make sure the patient survives." The prognosis is worsening and failure to find a cure may disappoint investors as G-20 leaders prepare for their own summit in three weeks. The International Monetary Fund expects the first global contraction in six decades and equity investors are $3 trillion poorer than a quarter ago. The cost of borrowing dollars is rising, Citigroup Inc. fell below $1 and companies from Deere & Co. to Volkswagen AG are axing jobs or investment. Goldman Sachs Group Inc. today cut its forecast for the world economy for the second time in eight days and now expects a contraction of 1 percent this year.
The G-20 remains divided as European governments rebut U.S. overtures to bolster spending, while President Barack Obama’s administration takes heat for lacking the staff to work on an international remedy. That risks an impasse when officials convene tonight and tomorrow at a luxury countryside retreat near Horsham, southern England, that counts Winston Churchill among its former guests. "The Europeans want to use this as a forum to discuss global coordination of regulation, and the Americans are more interested in global coordination of firefighting," said Randal Quarles, a former U.S. Treasury undersecretary and now a managing director at the Carlyle Group in Washington.
The conflagration of the 19-month crisis is putting policy makers under "enormous pressure" to take more action and head off further deterioration, said Marco Annunziata, chief economist at UniCredit MIB in London. The U.S. has yet to implement its plan to remove tainted assets from banks and the Federal Reserve’s $1 trillion initiative to prop up the market for consumer and business loans won’t start until later this month. The European Central Bank has lagged behind the Fed in cutting interest rates and the region’s governments have been slow to cut taxes. China, the U.S. government’s largest creditor, in turn chose to draw attention to America’s debt burden on the eve of the G-20, with Premier Wen Jiabao saying in Beijing he’s "worried" about the value of China’s Treasury holdings.
Failure by the G-20 to step up efforts to rid banks of damaged securities may delay the recovery beyond 2010, says IMF Managing Director Dominique Strauss-Kahn. "The stimulus will not work without a healthy financial sector," Strauss-Kahn said in an interview March 9. U.K. Chancellor of the Exchequer Alistair Darling argues the crisis needs to be fought with "far greater urgency" and said late yesterday the G-20 must agree on measures that will curb excessive leverage at banks. The London interbank offered rate, or Libor, that banks say they charge each other for three-month funds has climbed back to the highest since Jan. 8 as financial companies stung by almost $1.2 trillion of writedowns and losses hoard money.
Policy makers are also under pressure to coordinate their efforts more or risk diluting their individual moves. Japanese Prime Minister Taro Aso today ordered a third spending plan and in total governments and central banks have provided more than $495 billion in aid for financial companies and cut rates to record lows.
Still, their efforts have been uneven. The IMF estimates that only Saudi Arabia, Australia, China, Spain and the U.S. will introduce budget boosts worth 2 percent of gross domestic product this year -- a benchmark Geithner endorses as "reasonable." The refusal of some governments to be as generous undermines those efforts and the Fund calculates the U.S. receives twice the boost of higher government spending if it’s matched elsewhere.
European ministers argue their social safety nets are bigger than elsewhere and blowing up budgets would create future problems. "We don’t exactly have the same priorities at the same moment," French Finance Minister Christine Lagarde said on LCI television today. Lagarde and Germany’s Peer Steinbrueck instead want the G-20 to focus more on cracking down on bankers’ bonuses, hedge funds, tax havens and credit ratings companies. "All that is froth," said Richard Portes, a professor at London Business School. "The accelerating decline in economic activity has to be dealt with first."
One previous participant says the G-20 doesn’t need to decide between fighting the current crisis and unveiling a long-term solution to rewire the system.
"It’s quite possible and desirable for the G-20 to pursue both goals," said Daniel Price, President George W. Bush’s G-20 negotiator and now senior partner for global issues at Sidley Austin LLP in Washington. An overhaul of the financial system may nevertheless exceed the group’s reach in the immediate future. Obama has yet to outline a detailed program for regulation, lacks key Treasury advisers and would have to work with Congress. Nor has the European Union formed a plan to improve the rules governing its own 27 members.
The most likely outcome is that the G-20 agrees to principles on regulatory reform, said Jim O’Neill, chief economist at Goldman Sachs Group Inc. That could include an agreement that banks put away money during good times so they have a buffer to fall back on during hard times, he says. Other areas of agreement may include boosting IMF resources and warning against protectionism. G-20 members are Argentina, Australia, Brazil, Canada, China, France, Germany, India, Indonesia, Italy, Japan, South Korea, Mexico, Russia, Saudi Arabia, South Africa, Turkey, the U.S., the U.K. and the European Union. Officials from Spain and the Netherlands will also be present.
US is ready for Swedish lesson on banks
by Gillian Tett
Next week, Bo Lundgren, the head of Sweden’s debt office who played a central role in resolving his country’s banking mess in the early 1990s, will embark on a striking mission. Washington’s Congressional Oversight Panel has summoned Mr Lundgren and others to explain how they fixed Sweden’s banks – presumably to glean tips on what Washington should do next. The Nordic gods might well chuckle at this twist in the global financial saga. As recently as last autumn, the phrase turning "Swedish" was tantamount to an insult among most American politicians (and on Wall Street, the joke currently goes, Swedish models used to only attract attention when they were blonde and leggy).
But these days, as the economist Nouriel Roubini recently observed, "we are all Swedes now" – at least in the sense of using state funds to fix the banking mess. Hence Washington’s sudden invitation to Mr Lundgren and his colleagues. Whether the Americans will actually like the message that Mr Lundgren and others wish to impart, though, remains to be seen. For many Scandinavian observers are distinctly critical about what the US is currently doing with its banks. In Washington, politicians are wrapping themselves in knots about words such as "bail-out". But to the Swedes that misses the point: the really important issue is not whether state money is used, but how it is dispersed. After all, as Mr Lundgren notes, "the word nationalisation can have many meanings" – and not all are very effective.
Sweden’s own crisis bears this out. When its banking woes first erupted, Stockholm (like the US) initially responded with procrastination and denial. Eventually, however, it nationalised two banks, wiping out the shareholders, and placed toxic assets into a special "bad bank". That cost the government about SKr60bn-Skr70bn (although much of that sum was later recouped through asset disposals). To some extent, many western governments are copying elements of this approach. The UK and US, for example, have partly nationalised banks such as Citi and Royal Bank of Scotland. But, thus far, the UK and US have not ringfenced bad assets, preferring to urge the banks to deal with them while still on their books (supported with complex guarantee and financing schemes.)
Anglo-Saxon governments have also refused to wipe out shareholders in banks such as Citi and RBS, for fear of looking too "socialist". To the Swedes, though, this seems intellectually muddled. They have a point. After all, American and British politicians are still trying to exert de facto control over banks, by banning bonuses, directing lending patterns (or, at Citi, blocking an order for a corporate jet). "Sweden is less nationalised than people might think," chuckles Mr Lundgren, who notes that "socialist" Sweden – ironically – never dared "tell the banks how to lend or where to lend, because that is a management decision!" But the more serious criticism lies with what is not being done. While Stockholm was nationalising two banks in the early 1990s, it also offered a blanket guarantee to any investor holding any Swedish bank liabilities (except for shares or subordinated debt). These days, that measure is not well known outside Sweden.
But many Swedish officials and bankers consider that guarantee to have been the most crucial decision of all. "To restore confidence it is very important to extend a guarantee to bank creditors," says Mr Lundgren. "Even if you don’t issue a blanket guarantee, there have to be measures that assure creditors that they will not have to take losses, otherwise you just get more uncertainty . . . and it is very hard to get confidence back and to get stability." Thus far, that part of the Swedish package has been shunned. The UK and US have introduced schemes to guarantee some new bank debt, for a fee. But outstanding debt is being treated in a variety of ways. At Bear, creditors were saved, at Lehman Brothers, they were wiped out, while at WaMu the fate of covered bonds was initially unclear. Even today the fate of some Northern Rock debt remains contested. No wonder investors are nervous.
The Americans and British seem unlikely to change this situation soon, since they fear that extending a Swedish-style blanket guarantee would cost too much (or look too "socialist"). That is not surprising. Whereas Sweden had just five banks holding easy-to-analyse toxic property loans, the US has hundreds of banks, with complex, opaque products. But the grim truth is that, if the financial system keeps melting down, then eventually even the unfathomably large cost of a blanket guarantee might look more palatable than other options. And even before that, there is another crucial point: "What we learnt in Sweden is that you cannot solve financial crises by taking a piecemeal approach," laments Mr Lundgren, who confesses to feeling deeply worried that "there are still [so many] piecemeal approaches being used". It is a message that is needed now more than ever – not least with the G20 meeting looming.
Swiss Kick Off 'Currency War'
Switzerland's latest move to weaken the Swiss franc marks the first time in the current financial crisis that a G10 nation has intervened in forex markets to support a flagging economy. It is probably only a matter of time before others--notably Japan--follow suit. Japan and Switzerland are both export-dependent economies and fund currencies for the carry trade, which means that direct intervention to weaken the yen could follow Thursday's decision by the Swiss National Bank. Japan last used this strategy in 2004. "Japan is also facing a severe slowdown and deflationary pressure and the Swiss action has increased speculation that Japan may follow the same route again," said BNP Paribas analyst Ian Stannard. "The Japanese yen is under pressure at the moment."
The Swiss franc had another day of weakness against the euro on Friday, with the euro buying 1.5328 Swiss francs, up from 1.5308 Swiss francs on Thursday. Switzerland's currency fell as much as 3.4% on Thursday afternoon when the central bank announced a string of policies to support the Swiss economy. The Japanese yen also came under pressure Friday, falling 0.9% against the euro, which was buying 126.93 yen, from 125.77, and falling 0.8% against the dollar, to 98.295 to the greenback. The exchange traded fund, the CurrencyShares Swiss Franc Trust had fallen 2.6% on Thursday, while the CurrencyShares Japanese Yen Trust fell 0.4%.
Russia is one of the few other nations to have weakened their currencies in the current financial crisis. Earlier this year the Russian central bank managed the gradual depreciation of the ruble by widening the band within which it was prepared to defend the currency (by buying foreign currencies and selling rubles), allowing it to fall in value against a euro-dollar basket. The Swiss National Bank announced its currency intervention on Thursday as it cut interest rates to 0.25% from 0.50%. It also increased liquidity in the Swiss capital market by buying local corporate bonds, and carrying out more repo auctions for short term credit to banks.
The central bank is forecasting Swiss gross domestic product to shrink by up to 3.0% this year. The country's economy has come under pressure as leading Swiss banks like UBS and Credit Suisse have faced multi-billion dollar write-downs related to investments in toxic U.S. assets, while engineering firms such as Sulzer and pharmaceutical firms such as Roche are being hit by flagging international demand for exports. Meanwhile on Friday, the Swiss government held a meeting to tackle the other major threat to the Swiss economy: a looming global crackdown on tax evasion, which could threaten Switzerland's long tradition of bank secrecy. On Thursday, Liechtenstein said it would be dropping its distinction between tax fraud and evasion, putting pressure on Switzerland to follow suit.
Chinese PM Wen Voices Concern Over China's U.S. Treasuries
Chinese Premier Wen Jiabao expressed concern over the outlook for the U.S. government debt China holds, urging Washington to take effective policies to restore the American economy to health. Speaking at his annual news conference -- a rare opportunity for reporters to ask the premier questions directly -- Mr. Wen voiced confidence in the Chinese government's ability to keep its own economy growing, saying it is willing to do what it takes to ensure China meets its traditional growth target of around 8% this year.
He said China's existing four-trillion yuan investment program addresses "both short-term and long-term needs, and that market expectations last week of another stimulus package were based on "rumors and misunderstandings." However, China can do more if that becomes necessary, he said. "We have reserved adequate ammunition. We can at any time introduce new stimulus policies," he said. But he said the U.S. remains the world's largest economy, and said that China is closely watching the effects of policies taken by U.S. President Barack Obama.
"We have lent a huge amount of money to the U.S., so of course we are concerned about the safety of our assets. I do in fact have some worries," Mr. Wen said in response to a question. He called on the U.S. to "maintain its credibility, honor its commitments and guarantee the safety of Chinese assets." China holds the world's largest foreign-exchange reserves, reported at $1.946 trillion at the end of 2008. About two-thirds of that sum is believed to be held in U.S. dollar assets, primarily Treasury bonds. Mr. Wen repeated China's position that those investments are managed with a view to "safety, liquidity and profitability" -- in that order.
He said that while China's first priority is to protect its own interests, it will "at the same time also take international financial stability into consideration, because the two are inter-related." The generally mild-mannered Mr. Wen, who holds a news conference every year at the close of China's legislative session, spoke in an unusually forceful tone in answering a question about international concerns over the effect of China's own policies on the global economy. He said China hasn't pushed down the value of the yuan, and repeated the government's commitment to currency stability "at a reasonable and balanced level."
The yuan has hovered around 6.84 to the dollar since July 2008. Mr. Wen said China alone would decide where it goes from there. "No country can pressure us to appreciate or depreciate" the currency, he said. China has been at pains to show it is being a responsible global citizen amid the financial crisis, speaking out frequently against protectionism and taking some measures to open its own markets. Mr. Wen's comments came a day after China said it had begun to allow local authorities to approve certain foreign investments, in a move to ease foreign investment at a time when it has been declining sharply.
China's Limited Options on Treasurys
China's leaders are worrying about the country's U.S. dollar assets. That's about all they can do. Chinese Premier Wen Jiabao Friday used his annual press conference to fire a shot across Washington's bows, saying he's "worried" about the safety of China's U.S. assets. His words sent a chill through the Treasury market, and urging the U.S. government to "maintain its credibility" will ruffle feathers, too. China's central bank followed up later by raising concerns over the U.S.'s fiscal deficit. Rhetoric aside, it bears repeating that China will find it hard to make a meaningful shift out of Treasurys, the prime current channel for investment of its $1.95 trillion foreign exchange reserves.
Some say China could switch holdings into gold -- but that market's highly volatile, and not large enough to absorb more than a small proportion of China's reserves. It's not clear, meanwhile, that euro, or yen-denominated debt is any safer, more liquid, or profitable than U.S. debt -- key criteria for China's leadership. Most pertinent of all, even if China decided to sell off some of its U.S. Treasury holdings, it would scarcely be able to dump that in large blocks. And a partial selloff would surely lead to a slump in the Treasury market, eroding the remaining value of China's portfolio. For sure, China's Treasury accumulation may now start to slow, if the narrowing of its trade surplus seen in February continues. That, though, doesn't ease jitters about its current holdings. But whatever the rhetoric, Wen and his Chinese leadership colleagues, like the rest of us, can do little but watch, wait and worry about the state of the U.S. economy.
Bankers Say Rules Are the Problem
If mark-to-market accounting is to blame for the current financial crisis, then the National Weather Service is to blame for Hurricane Katrina; if it hadn’t told us the hurricane hit New Orleans, the city would never have flooded. This is the logic the bankers are using, and they are getting sympathetic ears in Congress. The bankers have gotten two members of Congress to introduce a bill to establish a new body that could suspend accounting rules for financial institutions. Edward L. Yingling, the president of the American Bankers Association, says the proposal addresses "systemic risks that accounting standards can have on the economy."
Steve Forbes, the publisher and erstwhile presidential candidate, goes even further. "Mark-to-market accounting is the principal reason why our financial system is in a meltdown," he wrote in a Wall Street Journal op-ed piece. They say the problem, in short, is not that the banks acted irresponsibly in creating financial instruments that blew up, or in making loans that could never be repaid. It is that someone is forcing them to fess up. If only the banks could pretend the assets were valuable, then the system would be safe. On Thursday, members of a House subcommittee joined in demanding that the rules be suspended. It was a bipartisan lynching of the accounting rule writers. The panel’s chairman, Representative Paul E. Kanjorski, Democrat of Pennsylvania, said the accounting rule "does provide transparency for investors," but that "strict application" of the rule had "exacerbated the ongoing economic crisis."
Then he issued the threat. "If the regulators and standard setters do not act now to improve the standards, then the Congress will have no other option than to act itself." Sadly, a victory for the bankers would not help them much. Even if it were true that banks would be held in higher regard now if they had not been forced to write down the value of their bad assets — and that is, at best, debatable — changing the rules now would be counterproductive. Would you trust banks more? Would other banks be more inclined to trust banks? It is true, as the bankers argue, that valuing illiquid instruments is tricky. And it is true that markets can overshoot. Some of these securities may well be undervalued now. But the solution is not to go to what Robert H. Herz, the chairman of the Financial Accounting Standards Board, calls "mark-to-management" accounting.
I call it "Alice in Wonderland" accounting, after Humpty Dumpty’s claim in that book that "When I use a word, it means just what I choose it to mean, neither more nor less." After Alice protests, he replies, "The question is, which is to be master — that’s all." Although you would not know it from the angry complaints, the accounting board’s Statement 157 did not require mark-to-market accounting. That was already required under earlier rules. What it did do was clarify how such values should be determined. That stopped banks from defining "market value" as meaning whatever they chose it to mean. Conrad Hewitt, who was chief accountant at the Securities and Exchange Commission when it conducted a Congressionally mandated review of the issue late last year, said at a recent Pace University accounting forum that he asked all the complainers if they had a better way to determine market value than the one prescribed by Statement 157. None did.
That statement set out procedures for dealing with illiquid markets and distress sales, and the board is now at work on setting out more guidelines on how to do that. You can bet that its efforts will not satisfy the banks. But there are three steps that could improve the situation. First, the regulators could make it clear they are committed to what is now called countercyclical regulating. They could ease capital rules when things are bad, and require more capital as the economy improves. As Ben S. Bernanke, the Federal Reserve chairman, said this week, regulations should allow capital "to serve its intended role as a buffer — one built up during good times and drawn down during bad times in a manner consistent with safety and soundness." In other words, accept that market values are low and report the facts to investors. But give the banks a break by not acting as if that will last forever. Of course, many will doubt that the regulators will really get tough when things improve. They stood by mutely while the banks went on the binge that created this crisis. But we can hope.
The second step would be to force banks to disclose — to the public and to the other banks that trade with them — just which toxic assets they own. The bankers assert that those assets are now trading for less than they will be worth at maturity. In fact that is unknowable, which is one reason we have markets. If the current deep recession turns into Great Depression II, then even today’s market values may prove to be too high. But if we knew which securities each bank owned, and where it was valuing them, we could go over each security and reach our own conclusions as to values. We could also see which banks seemed to be more or less optimistic in their estimates of market value. When I suggested that to a top official of one big bank, he dismissed the idea, saying it would damage his bank’s trading position to advertise what it had. Of course, he also complained that there was virtually no trading going on, so I’m not sure what the damage would be. But if the banks want to disclose the information with a three-month delay, so that there is no way to know if they still own the securities, that would be fine with me.
The final step would be to get the market for such securities functioning. Right now, it is largely blocked by the Obama administration’s slow efforts to design a program to stimulate such sales by offering generous financing and partial guarantees to buyers. No one wants to buy now if a much better deal might be available next week. The Treasury Department needs to get the details out, and then see who is willing to buy, and at what price. Of course, any such government-subsidized market would need to make widely available what was on offer, to assure that the price received was the best one possible. It’s not a market price if market participants cannot bid.
It is possible that there will be few trades even then. Edward J. Kane, a finance professor at Boston College, suggests that banks, particularly those that know they need a miracle to regain solvency, will be unwilling to sell.
"Cheap volatile assets with a huge upside are precisely the kinds of optionlike investments that clever zombie managers are energetically looking for," he said. If they soar, the banks’ stock may be worth something. If not, the taxpayers will take the loss. Next time you hear a banker denounce mark-to-market rules, ask if he runs his business that way. Will he offer you a mortgage loan based on what you think your home should be worth, which you can repay only if you make a lot more money than anyone will pay you? If so, then perhaps the bank should be able to use "Alice in Wonderland" accounting on its own books. Or maybe that is not such a good idea. The banks already tried that, with liars’ loans. Those loans did not work out so well.
Stiglitz Enabled Obama With Nobel Ideas Only to Ridicule President's Plans
Joseph Stiglitz’s 2003 book "The Roaring Nineties" is a cornerstone of President Barack Obama’s blueprint to reshape the U.S. economy. Yet the Nobel Prize- winning economist says "there’s no natural position for somebody like me" in the new administration. A plan Obama was considering to buy illiquid assets on banks’ balance sheets amounted to swapping taxpayers’ "cash for trash," Stiglitz, 66, said in January interviews at the World Economic Forum in Davos, Switzerland. "I’m hopefully shaping some of the debate and some of the policies and framing the discussion." Like fellow Nobel laureate Paul Krugman, who writes a column for the New York Times, Stiglitz has his own forum, contributing regularly to Vanity Fair magazine. His articles, with titles including "Capitalist Fools," are spread through the Internet via sites such as DemocraticUnderground.com and DailyKos.com.
Stiglitz’s work is cited in economic papers by more people than that of any of his peers, according to a February ranking by Research Papers in Economics, an international database. Obama adviser Lawrence Summers is 11th on the list and Federal Reserve Chairman Ben S. Bernanke 34th. While Stiglitz’s long-held views on the drawbacks of unfettered markets are proving prophetic in the global recession, his outspokenness excludes him from government, said David Ellerman, who worked with the economist at the World Bank in the 1990s. "If you’re going to function well in a big bureaucracy, you’ve got to have a sort of self-control that Joe doesn’t have," said Ellerman, a visiting scholar at the University of California, Riverside.
"The Roaring Nineties" (W.W. Norton & Company, 432 pages, $15.95) argued that the deregulation and market excesses of the 1990s laid the seeds of later crises. It inspired a speech by Obama a year ago, said a top aide from the Obama campaign, who spoke on the condition he wouldn’t be identified. The address laid out the president’s plan to reinstate and modernize regulation of Wall Street to avoid further crises. Stiglitz also mentored several members of Obama’s economic team, including budget director Peter Orszag, 40, and Jason Furman, 38, deputy director of the National Economic Council. Still, Stiglitz is critical of how the president plans to rescue the economy and questions his appointment of Summers as his top economic adviser. It’s "a real concern" that people such as Summers, "who have been openly on the side of deregulation," are back in positions of power, said Stiglitz. The presidential adviser helped secure passage of the 1999 Gramm-Leach-Bliley Act, which repealed longstanding banking regulations.
"Larry Summers has made clear that the events of the last several years make sweeping reform of our financial regulatory system absolutely necessary," said White House spokeswoman Jen Psaki. "He has been a top adviser to the president on this issue as he has repeatedly called for swift government action," she said. When Stiglitz last worked in Washington, as chief economist at the World Bank, he clashed with Summers at Treasury and with the lender’s president, James Wolfensohn, by criticizing International Monetary Fund policies. Stiglitz said the IMF was hurting poor countries by demanding they cut budgets, raise interest rates and open capital markets. When Stiglitz resigned from the bank in early 2000, his staff drew up a mock list of reasons for his departure. At the top: "Had Just Seen One Too Many Hot Summers in Washington." Another entry: "To Find a Vaccine for Foot-in-Mouth Disease."
"Remaining silent when people are pursuing wrong ideas would have been a form of complicity," the New York Times quoted Stiglitz as saying of his departure. "Rather than muzzle myself, or be muzzled, I decided to leave," he said, according to the Times. Stiglitz receives more than 50 requests from the media each week for comments, travels constantly, and delivers a speech almost every day, said his wife, Anya Schiffrin. He won the Nobel in 2001 for showing that markets are inefficient when all parties in a transaction don’t have equal access to critical information, which is most of the time. "Adam Smith’s invisible hand -- the idea that free markets lead to efficiency as if guided by unseen forces -- is invisible, at least in part, because it is not there," Stiglitz wrote in a 2002 article in The Guardian newspaper. The idea implies that there’s an important role for government to play in the economy, he wrote.
"This is Joe’s moment in time," said Jared Bernstein, chief economist for Vice President Joe Biden. Bernstein, who calls himself a Stiglitz "disciple," said the economist "understood the tendency for markets to fail in ways that nobody else did. He was way ahead of the rest of us." The son of a schoolteacher and an insurance salesman, Stiglitz grew up in Gary, Indiana, when the local steel industry was beginning to decline. He was student-government president and debate-team member in high school and went on to Amherst College and the Massachusetts Institute of Technology. At the World Bank, Stiglitz repeatedly criticized IMF handling of the financial crisis that swept Asia in the late 1990s. He claimed austerity measures the fund demanded from nations looking for help risked pushing them into severe recessions.
Stiglitz also questioned the IMF’s motives. "I worry a little bit about organizations whose function is to deal with crises," he said in September 1999. "What are their incentives?" Soon after leaving the bank, Stiglitz wrote in The New Republic magazine that fund staffers were "third-rank students from first-rate universities." "There was probably nothing worse he could have said about them," said Dean Baker, co-director of the Center for Economic Policy Research in Washington. "When he wrote about the IMF, he didn’t make any efforts to be polite," Baker said, "he was harsh." Stiglitz’s bestselling 2002 book "Globalization and Its Discontents," (W.W. Norton & Company, 304 pages, $16.95) denounced World Bank and IMF policies, along with the way trade liberalization was being pursued by Washington officials.
His writings and criticism of the IMF prompted an open letter from Kenneth Rogoff, then research director at the fund. "Joe, as an academic, you are a towering genius," Rogoff wrote. "As a policymaker, however, you were just a bit less impressive." Stiglitz, who’s been a professor at Columbia University since 2001 and chaired the Brooks World Poverty Institute at the University of Manchester in the U.K. since 2005, shows no signs of curbing his tongue. Obama graduated from Columbia in 1983 with a degree in political science. The Treasury’s program to inject capital into financial institutions in return for warrants was "not only a giveaway, but a giveaway that was designed not to work," he said. The financial industry, which has run up more than $1.2 trillion in losses and writedowns since mid-2007 and whose cooperation Obama needs to resolve the economic crisis, is "ethically challenged," he said. Stiglitz continues to win praise from his peers, however.
"Joe is just one of the most immensely popular economists," said George Akerlof, 68, a professor at the University of California, Berkeley, who shared the 2001 Nobel Prize with Stiglitz and economist Michael Spence, 65, an emeritus professor at Stanford University. "Stiglitz is tremendously generous with his ideas," said Akerlof. Stiglitz said he prefers the liberty of his current jobs to the shackles of politics. "In my position in life, it’s much better to be in academia, to be able to talk freely," he said. Even academia isn’t prepared to accept some Stiglitz habits. His first academic job offer, an assistant professorship at MIT in 1966, came with the proviso that he remember to wear shoes and not spend nights in his office, he said. It was one more position on which the economist refused to back down.
"It saved on commuting time," he said.
Summers: 'Excess of fear' must be broken
President Barack Obama's top economic adviser said Friday the nation's economic crisis has led to an "excess of fear" among Americans that must be broken to reverse the downturn. "Fear begets fear," and that "is the paradox at the heart of the financial crisis," Lawrence Summers, the president's director of the National Economic Council, told a forum. "It is this transition from an excess of greed to an excess of fear that President Roosevelt had in mind when he famously observed that the only thing we had to fear was fear itself," Summer said. "It is this transition that has happened in the United States today."
Summers spoke amid new signs of a deepening recession. The U.S. trade deficit plunged in January to the lowest level in six years as the economic downturn cut America's demand for imported goods, the Commerce Department reported Friday. The economic adviser said it's still too early to gauge the broad impact of the president's recovery program. "But it is modestly encouraging that since it began to take shape, consumer spending in the U.S., which was collapsing during the holiday season, appears, according to a number of indicators, to have stabilized," Summers told the Brookings Institution, a think tank.
Summers was asked by a member of the audience what the nation's business community could do to help speed the recovery. "What we need today is more optimism and more confidence," Summers said. "Those who have sound long-term stragegy, who have investments that they want to make, who see productive opportunities, are going to find this a very good moment to make those investments," he said. "There are a very large number of things that are on sale today. Think about the cost of doing construction today, versus the cost of doing construction two years ago. "My advice to business leaders is not to foreshorten the horizon at a moment like this."
On Wall Streets, stocks were seesawing after three straight days of gains.
The government said the U.S. trade imbalance dropped to $36 billion in January, the lowest level since October 2002. However, while America's deficit with many of its trading partners declined sharply, the politically sensitive shortfall with China bucked the trend, rising by 3.5 percent to $20.6 billion. U.S. manufacturing companies, battered by what they view as unfair competition from China, said that the continued high deficit with that nation pointed to a need for the Obama administration to take a tougher line on trade rules with the Chinese.
Summers: Obama's Plan May Have Stabilized Consumer Spending
Larry Summers, President Obama's top economic adviser, speaking to the Brookings Institution right now, said the president's stimulus plan may be working. "It is surely too early to gauge the broader economic impact of the president's program," Summers says. "But it is modestly encouraging that since it began to take shape, consumer spending in the U.S., which was collapsing during the holiday season, appears, according to a number of indicators, to have stabilized."
Summers added: "Already, [the stimulus plan's] impact is being felt by cops and teachers who would have been laid off but whose jobs have been saved¿it may retain14,000 teachers in New York alone. It will, for most American workers, be felt in the coming weeks as withholding schedules are adjusted, in continuing unemployment insurance benefits and health benefits for hundreds of thousands of workers who already would have done without, and in contracting already underway with respect to tens of billions of dollars of infrastructure projects across the country."
Summers is also is inveighing against economic bubbles. "Bubble-driven economic growth is problematic because of disruption and dislocation ¿ affecting those who took part in the bubble's excesses and those who did not," Summers's remarks read. "And, it is not entirely healthy even while it lasts." The key to limiting the boom-and-bust cycles of bubbles, Summers is saying, is smart regulation. He proposes:
- Regulatory agencies should never be placed in competition for the privilege of regulating particular financial institutions.
- Globally, the United States must lead a leveling-up of regulatory standards, not as has happened all too often in the recent past, trying to win a race to the bottom.
- No substantially interconnected institution or market on which the system depends should be free from rigorous public scrutiny.
- Required levels of capital and liquidity must be set with a view toward protecting the system, even in very difficult times.
- And there must be far more vigorous and serious efforts to discourage improper risk taking through transparency and accountability for errors."
The remainder of Summers's speech is being spent promoting Obama's economic recovery plans. Summers gave a grim accounting of the past 18 months:
- On a global basis, $50 trillion dollars in global wealth has been erased. This includes $7 trillion dollars in U.S. stock market wealth which has vanished, and $6 trillion dollars in housing wealth that has been destroyed.
- Inevitably, this has led to declining demand, with GDP and employment now shrinking at among the most rapid rates since the second World War.
- 4.4 million jobs have already been lost and the unemployment rate now exceeds 8 percent.
World Bank warns of "very dangerous" year ahead
World Bank president Robert Zoellick said Friday that 2009 was turning into "a very dangerous year" for the economy but warned G20 members against protectionist policies to fight the downturn. "2009 is shaping up to be a very dangerous year," he told reporters ahead of Saturday's G20 finance ministers meeting on how best to tackle the worst economic slowdown in decades. "I believe it will be a positive sign if the G20 supports extended IMF resources, condemns protectionism and supports practical solutions," Zoellick said. The G20 includes the Group of Seven industrialised countries -- Britain, Canada, France, Germany, Italy, Japan and the United States -- the European Union and leading developing nations including Brazil, China and India.
Finance ministers and central bank leaders from the United States and Europe go into Saturday's meeting deeply divided on whether stimulus packages or tighter regulation of the finance sector should be the way forward. Saturday's gathering in Horsham, near London, is expected to lay the groundwork for a G20 heads of state summit on April 2. "If the leaders feel they are running out of constructive tools, they might start to point fingers and take protectionist and isolationist actions and those are the negative spiral of events you saw in the (19)30s," Zoellick added on Friday. The head of the World Bank also said that governments may have to provide fiscal stimulus into 2010 but stressed that such action should come "within a framework of fiscal sustainability."
He was speaking a day after warning in an interview that growth in the world economy would likely fall by up to 2.0 percent this year -- the first contraction since World War II. Zoellick believes the outlook is worse than the International Monetary Fund (IMF) analysis of 0.5 percent growth for 2009, reported the Daily Mail newspaper, which carried an interview with him. While the United States, the world's biggest economy, wants a coordinated international stimulus to fight the slowdown, some in Europe are suspicious of such a move and favour tightening regulation of markets and institutions. In a boost for the United States -- Japan and China, the world's second and third largest economic powerhouses -- also embraced stimulus on Friday. There have been public clashes in the last week on the best way forward, suggesting progress at the G20 finance ministers' talks on Saturday could be hampered by disagreement. German Chancellor Angela Merkel reiterated Friday that she did not favour a new package of economic stimulus measures.
"We do not think much of the idea of a new package of measures" to underpin the economy, Merkel told a press conference in southern Munich after a meeting with employers. Meanwhile a US proposal to substantially raise the IMF's resources signals a strong move in Washington toward multilateralism by the Obama administration in the face of the global economic crisis. US Treasury Secretary Timothy Geithner on Wednesday said he would recommend to the Group of 20 leading nations that they support "substantially increasing emergency IMF resources" and called for them to lend to countries hit hard by the crisis. According to his proposal, the New Arrangements to Borrow (NAB) of the International Monetary Fund "could be increased by up to 500 billion dollars and membership could be enlarged to include more G20 countries."
Bank of America Says 'Thank Goodness' for Countrywide
Bank of America Corp.’s mortgage- origination business, the largest in the U.S., is booming after the purchase of Countrywide Financial Corp. and as lower loan rates push a wave of refinancing, the unit’s chief said. "Volume is good, application quality is holding up and the acquisition of Countrywide is really paying off for us with the additional capacity," Barbara Desoer, head of mortgage, home equity and insurance, said in a telephone interview yesterday. "Thank goodness we have it."
Kenneth Lewis, Bank of America’s chief executive officer, told reporters yesterday he expects the Charlotte, North Carolina-based company to make money this year after posting a profit in January and February. Last month, he said its "stars" so far in 2009 were businesses acquired with Countrywide, the largest U.S. home lender, and Merrill Lynch & Co. The average rate on a typical 30-year fixed mortgage was 5.03 percent in the week ended yesterday, according to Freddie Mac. Federal Reserve purchases of mortgage bonds helped drive rates down from 6.46 percent in late October, to a record 4.96 percent in mid-January. Bank of America isn’t yet sure exactly how much its lending will be boosted by the flexibility that the U.S. last month gave Fannie Mae and Freddie to help consumers with little or no home equity refinance, Desoer said.
Desoer, 56, also said that the bank is seeking to make more "jumbo" mortgages, which start at $417,000 in most areas and up to $729,750, the limits for now U.S.-run mortgage firms Fannie and Freddie. The company’s is offering "extremely competitive" rates on jumbo mortgages offered directly to consumers, she said.
‘Balance-Sheet Capacity’ "Bank of America has balance-sheet capacity and we’ve allocated it to jumbos given our presence in some of the states and regions where that’s important," she said. "We’re very much open for business." The bank sees an opportunity to do more of the loans with Merrill Lynch’s "mass-affluent" customers, even as it continues to integrate the acquired company, she said. Its Web site says it offers $800,000 30-year fixed-rate loans with 20 percent down payments in New York for 6 percent, versus the 6.78 percent average in the state, according to Bankrate.com.
To keep up with mortgage demand, Bank of America has added roughly 3,000 employees to its origination unit, including about 1,000 new to the company and 500 shifted from its home-equity division, as well temporary workers, Desoer said. The staff totals about 25,000, Dan Frahm, a spokesman, said. Desoer wouldn’t discuss the recent performance of home loans already on its books, saying only "you know what’s happening with" home prices and unemployment "and the potential impact those can have on borrowers being under stress. Margins on new mortgages sold off as government-supported mortgage bonds, such as those guaranteed by Fannie and Freddie, are higher than a year ago, she said. U.S. efforts to keep rates on those loans low will be an "extended event," she added. Bank of America’s mortgage-servicing business has more than doubled its staff that deals with troubled borrowers to 5,000 in the past year. Still, the company hasn’t always provided the best service, in part because of the volume of calls for help, Desoer said.
"We do not claim to be delivering the customer experience in every single case the way we would be proud of, but we are committed to getting there," she said. "On a day where there’s been something in the media and the call volume goes through the roof, we are not good. And we apologize for that." Another hindrance has been the different standards for modifying loans guaranteed by different companies, within mortgage bonds or held for investment, or HFI, at the bank, she said. A federal program announced last month may change that Having "one program will help to some degree because the staff will be more fungible," she said. "Where you need the Fannie expert for a modification, versus a Freddie expert, versus an HFI expert now, those teams become more fungible. That’s an advantage where existing staff will become more productive."
Desoer said that her bank expects to shift its reworking of loans under a settlement with more than 30 state attorneys general over charges of fraudulent lending at Countrywide, which it acquired last year, to the similar federal protocols. It hasn’t yet reached an agreement to do so, she added. Those Countrywide modifications are subject to a lawsuit by a hedge fund that alleges Bank of America is paying for the settlement with funds due to mortgage-bond investors. Desoer said that it isn’t changing loans where investors haven’t agreed to permit the modifications, and hopes bondholder objections to aspects of the federal program don’t impair it. "Clearly, the direction from Treasury in the wording of their announcement is this becomes usual and customary and that’s what we’re hoping the outcome is," she said. "And we don’t see any major obstacles. But, as you mention, there are people with perspectives that may take different actions."
The bank isn’t "going to do anything to put a contract at risk, but, at the same time, we’re thrilled that there’s a standard and we have a head start because of the AG settlement." Bank of America and its units accepted capital and guarantees from the federal rescue program of $163 billion, and the bank posted a $1.79 billion fourth-quarter loss. Its aid package was expanded in January after losses at Merrill Lynch spiraled beyond what Lewis expected. Trying to understand the long-term effects of help for homeowners is something Desoer’s team does "a lot," she said. "What’s the consumer psychology that will survive?" she said. "How impacted will the U.S. consumer be by this downturn? How much will be temporarily changed, versus how much will be permanently changed, in their view of debt?"
IMF: Trade Finance Costs Increasing, Lending Standards Tighter
The cost of financing trade through banks has risen sharply, hitting emerging markets particularly hard, a new survey from the International Monetary Fund shows. More than 70% of banks surveyed by the Fund have increased costs connected with letters of credit — bank certifications that buyers will be able to pay for shipments. About 90% of banks have increased prices of short- and medium-term loans in which goods being traded serve as collateral. Most banks blame a rising cost of funds and higher regulatory capital requirements for the increase. "The pressure of increased cost of funds to banks has outweighed the dampening price effect of sharply less restrictive monetary policies in many nations, especially the United States and other advanced economies," Thomas Dorsey, the IMF’s division chief for strategy, policy and review, writes in the March edition of the Fund’s Finance & Development magazine.
Lending standards also have tightened, particularly in Eastern Europe and Asia. The changes are especially difficult for emerging market countries, where late 2008 saw a 6% decline in trade finance transactions from the same period a year earlier. Banks in advanced countries reported roughly the same number of transactions on a comparative basis. The IMF is expecting trade finance costs will remain elevated in 2009. "The dismal near-term outlook for the world economy will place upward pressure on the cost of trade finance as banks set rates that account for the higher probabilities of defaults by importers and exporters," Dorsey wrote.
The Next Big Bailout Choice - Insurers
Ah, bailout nation beckons for yet another group - insurers. Our pockets are endless.... the Wall Street Journal takes a look at the decision ahead by government on whether to bailout insurance companies. It appears they aren't under as strict rules as the banks to mark their assets properly so a ticking time bomb sits in the closet. If/when they are required to price things "accurately" - well that's where your tax dollars might be coming in. Interestingly, this was an area where Ken Heebner of CGM Funds fame was putting his money last quarter...Anyhow, please break open your child's piggy bank - the government needs more of your money. This TARP fund appears to be endless - I thought it was $700 Billion but it seems company after company is going for the second $350 Billion - and somehow the fund never empties ;) Magic.
Since these are household names - Prudential, Hartford, Metlife - I cannot imagine the government not bailing them out because you can just imagine the panic that would ensue if average Americans started getting the feeling their insurance was not safe. But we'll see...
• The tumbling financial markets are dragging down the life-insurance industry, an important cog in the U.S. economy, as mounting losses weaken the companies' capital and erode investor confidence.
• A dozen life insurers have pending applications for aid from the government's $700 billion Troubled Asset Relief Program, and the industry is expecting an answer to its request for a bank-style bailout in the coming weeks. The government so far hasn't said whether insurers will be eligible for the program.
• Life insurers have taken a beating in recent weeks. The Dow Jones Wilshire U.S. Life Insurance Index has fallen 59% since the beginning of the year, leaving it down 82% since its May 2007 all-time high.
• Some of the hardest-hit companies are century-old names that insure the lives of millions of Americans. Shares of Hartford Financial Services Group Inc., which already received a capital injection from German insurer Allianz, are down 93% as of Wednesday's close from their 52-week high. MetLife Inc. and Prudential Financial Inc. are both suffering as the value of their vast investment portfolios declines. Some life insurers are faring better than others, and some of the nation's giants retain triple-A ratings, including Massachusetts Mutual Life Insurance Co., New York Life Insurance Co., Northwestern Mutual Life Insurance Co. and TIAA-CREF. (and we all know how accurate a triple A rating is, right?) But as the economy buckles, analysts say many insurers face losses that can eat away at the capital cushions regulators require them to maintain.
• Long-time experts say the industry is going through its most tumultuous period in recent memory. "It's a pretty scary scenario right now," said Pete Larson, an analyst at Gradient Analytics, a Scottsdale, Ariz., research group.
• Some state regulators have lately extended relief from certain capital requirements. But insurers haven't received the kind of injections banks got in recent months. That's partly because insurers didn't gobble up risky assets, and also because as long-term investors, they generally don't have to recognize on the bottom line short-term dips in values of their assets.
• Ratings agencies and stock investors are growing concerned about how long the industry can avoid reckoning with the distressed assets on their books. Rating agencies Moody's Investors Service, Standard & Poor's and A.M. Best have cut the ratings of more than a dozen insurers in recent weeks.
• Life insurers' woes have come largely from investment-grade corporate bonds, commercial real estate and mortgages, regulatory filings show. Many insurers ended 2008 with high levels of losses that, due to accounting rules, they haven't had to record on their bottom lines. (this is the key! They have losses that by accounting rules they have yet to fess up to) MetLife, the nation's biggest life insurer by assets with $380.84 billion in its general account, had $29.8 billion in unrealized losses at the end of 2008. Hartford Financial had $14.6 billion in unrealized losses at year's end. Prudential, the second-largest insurer by assets, had nearly $11.3 billion in unrealized losses, up $5.4 billion in the fourth quarter from the previous quarter.
• The ramifications of a weakened life-insurance industry for the overall economy are significant. Life insurers are among the biggest holders of the nation's corporate debt. Together, they own about 18% of all corporate bonds outstanding, according to the American Council of Life Insurers, or ACLI, an industry trade group.
• If life insurers stop buying bonds, the capital markets may not fully recover, say insurance industry representatives and analysts. Already, their buying activity has slumped.
Geithner Seen As A Mistake, Steve Rattner The Fallback Plan
A friend reports chatter within the Obama administration that Tim Geithner was a bad choice for Treasury Secretary and that Quadrangle partner Steve Rattner (currently the car czar) was brought in partly to have a good relief pitcher on hand. This doesn't surprise us: We think that, in this crisis, Tim Geithner is clearly the wrong man for the job. But this is also only unconfirmed chatter at this point.
Would Steve Rattner be a better Treasury Secretary than Tim Geithner? Our immediate reaction is yes. Steve has worked on multiple sides of the fence--as a journalist, banker, and investor--and he has a lot more experience than Tim does. Is he too close to Wall Street? Possibly. But Wall Street experience isn't bad in this case: Knowing how the game works and what the special interests are is good. The key is to not have that as your only frame of reference--as, in our opinion, both Hank Paulson and Tim Geithner do.
Switzerland, Luxembourg, Austria to Loosen Bank Secrecy Rules
Switzerland, Luxembourg and Austria said they will cooperate with foreign tax authorities by providing information in specific cases, joining Liechtenstein and Andorra in softening bank secrecy laws. Switzerland will comply with the Organization for Economic Cooperation and Development’s rules for combating tax offenses to avoid landing on the group’s "black list" of tax havens, Finance Minister Hans-Rudolf Merz said. "If Switzerland were to wind up on a black list it wouldn’t only hurt the banking sector," but also the whole economy, Merz said at a press conference in Bern today. He said he can’t say whether Switzerland is still in danger of being put on the OECD’s roster of uncooperative tax havens.
Nations are being pushed to loosen bank secrecy as the U.S. and Europe seek to protect their tax revenue amid the worst financial crisis since the Great Depression. UBS AG, Switzerland’s largest bank, last month handed over the names of about 300 customers to the U.S., the first time Swiss authorities bypassed secrecy laws introduced in 1934. Liechtenstein and Andorra, which are currently on the list of tax havens, said yesterday they would comply with OECD standards for transparency and information exchange. Luxembourg will cooperate with foreign tax authorities seeking banking information in specific cases, and will seek bilateral tax agreements with other nations. The government agreed to "exchange information on request in specific cases and on the basis of concrete proof" for probes by tax authorities, Budget Minister Luc Frieden said in Luxembourg.
Austria will renegotiate agreements with countries including Germany to help fight tax fraud and evasion, according to Finance Minister Josef Proell. Austria’s laws in the past permitted banking secrecy to be lifted only when there was a criminal investigation on matters such as tax fraud. The government has now agreed to exchange information when there is "compelling suspicion" documented by foreign authorities, Proell said today. "There won’t be an automatic exchange of information, but we will renegotiate a number of the 80 tax agreements that we have with other countries," Proell said at the briefing in Vienna. "We have been fighting tax evasion and fraud in the past, and we will continue to do so."
The nations don’t plan to abandon banking secrecy. Switzerland’s Merz said confidentiality will only be waived in individual cases where there is "concrete information," including the name of the bank and the assets involved. "It’s not an open-door policy," Merz said. "It’s a relaxation to facilitate the contact between the two countries." The nations’ pledge to cooperate may not go far enough for government leaders. "The devil is in the details," said French Finance Minister Christine Lagarde in Paris today. "We must go all the way and see if banking secrecy is sufficiently lifted." European leaders have said they plan to crack down on tax havens as they prepare for a meeting of the Group of 20 nations. Finance ministers from G-20 nations will meet tomorrow in London, followed by heads on April 2. The OECD said this week it had prepared a list of countries that don’t fully meet its standards of information disclosure on tax matters, including Austria, Luxembourg and Switzerland. The review was drawn up for the G-20 and presented to the U.K. government, which hosts the next meetings.
Switzerland breaks with tradition on tax evasion
The Swiss government said Friday it would cooperate on cases of international tax evasion, breaking with a long-standing tradition of protecting wealthy foreigners accused of hiding billions of dollars in the Alpine nation. The government insisted it would hold onto its cherished banking secrecy rules, but said other countries could now expect Swiss cooperation in cases where they provide compelling evidence of tax evasion. "We want assistance to be restricted to individual cases to prevent fishing expeditions," President Hans-Rudolf Merz told a news conference, referring to the practice of seeking information about many individuals in the hope of discovering a few tax evaders. Switzerland is hoping to avoid being blacklisted by world powers when they meet in April to discuss stepping up their fight against tax cheats. It is also embroiled in a dispute with the United States over wealthy Americans that have stashed money in its biggest bank, UBS AG. Swiss authorities have provided the U.S. with the bank details of up to 300 wealthy Americans suspected of tax fraud, but refuse to identify about 50,000 more U.S. account holders Washington wants.
The bank, and the government, have said further cooperation would violate Swiss law, which makes an unclear distinction between the serious crime of tax fraud and the minor offense of tax evasion. Merz said the country will now adopt standards set by the Paris-based Organization for Economic Cooperation and Development for countries working together against tax evasion. Switzerland had refused to commit to the standards since they were written in 2000 for fear of compromising banking secrecy rules. "Banking secrecy does not protect tax crimes," Merz said. The change, he added, "will increase the acceptance of the (Swiss) financial center and give customers greater confidence" and safeguard jobs in a sector that employs tens of thousands of people in Switzerland. He said, however, that Switzerland will maintain banking confidentiality for clients unless foreign governments produce concrete evidence of tax evasion. Switzerland's new cooperation will come into force after agreements with other governments that provide Swiss banks with new financial opportunities, he added.
Merz's announcement came a day after Switzerland's tiny neighbor Liechtenstein bowed to outside pressure by adopting the standards in a similar attempt to shed its label as a tax haven where foreigners can safely hide their money. Several others tax havens -- including Andorra, Bermuda and the islands of Jersey and Guernsey in the English Channel -- also have signaled over the past month that they would open their books to foreign tax inspectors. Switzerland has been struggling to come up with a strategy for preserving banking secrecy while satisfying the demands of the United States, France, Germany and other foreign governments looking to crack down on tax evaders. The confidentiality of bank accounts is a sacred cow in the country, comparable to its long-standing neutrality, and has helped the country become one of the world's richest. Swiss bank vaults hold an estimated $2 trillion of foreign money. The Swiss Bankers Association said it supported the decision, but now wants "an end to all improper international criticism of Switzerland and its legal system, and also an end to threats to put Switzerland on a so-called 'black list.'" The industry group said it expects all agreements to refrain from retroactively punishing banks or clients for old infractions.
Shares in UBS AG and Credit Suisse Group rose on the announcement and were both up over 5 percent for the day. The Swiss government also said Friday it would take part in a U.S. civil case against UBS, which is being accused of facilitating massive tax evasion by wealthy Americans. The Swiss will protect their "sovereign interests," according to a statement. The UBS case represents the most serious crisis in the Swiss banking community since the uproar in the 1990s over Jewish accounts left unclaimed after World War II. After reacting slowly, Swiss banks eventually agreed on a $1.25 billion out-of-court settlement with the descendants of Holocaust survivors. Switzerland passed its banking secrecy laws in 1934 during a worldwide depression and under the threat of espionage by France and Nazi Germany, which aggressively courted Swiss bank employees to divulge the names and data of customers. Strict penalties were imposed for violating bank confidentiality. Still, secrecy rules have eroded. Swiss officials have retooled the rules over the past two decades to allow cooperation with governments trying to reclaim assets stashed in Switzerland by despots before they were deposed.
The 15 Most Cash Rich Companies
In times like these, cash is king, and companies with a lot of it are set to succeed and poised to take advantage. Cash-laden companies are able to scoop up market share and increase revenues with the scarce capital it holds, whether it be through acquisitions or aggressive growth strategies via increased research and investment or updating and increasing production capabilities. Here are the top 15 companies (along with their quotes, charts, and total cash positions) that have hoarded the most cash, in that order. Financials were excluded for obvious reasons (and that includes GE):
1. Exxon Mobil - (XOM), Total Cash: $32.007 Billion
2. Cisco Systems - (CSCO), Total Cash: $29.531 Billion
3. Apple - (AAPL), Total Cash: $25.647 Billion
4. Berkshire Hathaway - (BRK.A), Total Cash: $25.539 Billion
5. Pfizer Inc - (PFE)t, Total Cash: $23.731 Billion
6. Toyota Motor - (TM), Total Cash: $23.151 Billion
7. Microsoft - (MSFT), Total Cash: $20.298 Billion
8. Google - (GOOG), Total Cash: $15.846 Billion
9. Royal Dutch Shell - (RDS.A), Total Cash: $15.188 Billion
10. Wyeth - (WYE), Total Cash: $14.54 Billion
11. IBM - (IBM), Total Cash: $12.907 Billion
12. Johnson & Johnson - (JNJ), Total Cash: $12.809 Billion
13. Intel - (INTC), Total Cash: $11.843 Billion
14. Hewlett Packard - (HPQ), Total Cash: $11.255 Billion
15. Oracle - (ORCL), Total Cash: $10.646 Billion
Four of the five companies rated AAA by Standard and Poor’s happen to be on this list. Wonder what that says about cash on the balance sheet….
Yesterday, Standard and Poor's came out and surprised no one when it lowered General Electric's credit rating one notch from 'AAA' to 'AA+'. With this downgrade, only six publicly traded US companies now hold the coveted status of a AAA rating:• Automatic Data Processing
• Berkshire Hathaway
• Exxon Mobil
• Johnson & Johnson
• General Electric
Berkshire credit costs trade like Turkey's
Credit protection costs for Warren Buffett's Berkshire Hathaway are trading on par with those of emerging market nations Turkey, Colombia and Peru. In a sign that investor perception of risk for Berkshire has fallen to levels matching developing countries, five-year credit default swaps of Berkshire Hathaway fell on Friday to 417 basis points, or $417,000 a year to protect $10 million of debt, from 438 basis points at Thursday's close, according to data from CMA DataVision. Credit protection costs for emerging markets such as the Republic of Turkey and Colombia are trading at about 438 basis points and 452 basis points, respectively, while Peru's five-year CDS trades at about 421 basis points.
Berkshire Hathaway lost its top "AAA" credit rating from Fitch Ratings barely hours after Standard & Poor's cut General Electric Co's (GE.N) top-tier rating on Thursday, marking the latest American corporate titans hurt by the global financial crisis. Berkshire still retains top ratings from the other two main rating companies. The lower cost to insure Berkshire's debt on Friday reflected market optimism that the rating cut did not go beyond one notch, even though current levels suggest the risk of default has grown over the past year.
Citing concerns about Berkshire's equity and derivatives investments, Fitch cut the insurance and investment company's issuer default rating by one notch to "AA-plus," the second-highest grade. The downgrade is another setback to Buffett, 78, coming a day after the billionaire lost his position as the world's richest man to Microsoft Inc founder Bill Gates, according to Forbes' annual list. Buffett's net worth plunged to $37 billion from $62 billion last year, according to Forbes.
Lawmakers Tell FASB to Change Fair-Value 'Quickly'
U.S. Representative Paul Kanjorski said regulators must act "quickly" to give companies more leeway in applying the fair-value accounting rule that banks blame for exacerbating the financial crisis. "If the regulators and standard setters do not act now to improve the standards, then the Congress will have no other option than to act itself," Kanjorski, the Pennsylvania Democrat who leads a House Financial Services capital markets subcommittee, said at a hearing today. Fair-value, which requires companies to mark assets to reflect market prices, has "produced numerous unintended consequences," he said. Lawmakers pressed Financial Accounting Standards Board Chairman Robert Herz and James Kroeker, the Securities and Exchange Commission’s acting chief accountant, to issue improvements to the rule as soon as possible. Herz said he would try to have a proposal ready within three weeks.
Fair-value, also known as mark-to-market accounting, requires companies to set a value for securities every quarter to market prices. Citigroup Inc. and other companies argue the rule doesn’t work when trading has dried up because banks must mark assets at fire-sale prices. Investor groups and the accounting industry say the rule forces companies to reveal their true financial health to shareholders. "We do have to have you move now," House Financial Services Committee Chairman Barney Frank told regulators at the hearing. "I do not think we’ve had enough flexibility." Kanjorski said he isn’t advocating suspending the rule, because such a move would bring back "the very kind of subjectivity and sleight of hand that made mark-to-market necessary in the first place."
Eliminating fair-value "would diminish the quality and transparency of reporting, and could adversely affect investors’ confidence in the markets," Herz said. The rule "can help to more promptly reveal underlying problems at financial institutions." Guidance being prepared by Norwalk, Connecticut-based FASB will encourage companies and auditors to use their own judgments in valuing assets, Herz said. "That had been one of the frustrating issues," he said. "The standard tells you not to look to distressed sales or forced liquidations. At some point we are just going to have to say for certain situations do not use a value. Use cash-flow predictions."
Fair-value "can be both useful during normal economic times and extremely destructive during times of great market stress," Bank of America Corp. Chief Executive Officer Kenneth Lewis said today in Boston, where he was giving a speech. Relaxing the rule would remove "the premise that debt equals death, and gives long-term buy-and-hold investors a little better chance at the future," Douglas Christopher, partner and director of research at Crowell Weeden & Co. in Los Angeles, said in an interview today. "This will reinforce capital market realities and allow the major banks to have a more realistic future." Crowell Weeden manages $6.5 billion. Kroeker, the SEC’s acting chief accountant, said his agency supports FASB’s efforts to give companies additional guidance on valuing illiquid securities. "Interruptions to financial stability caused by real economic factors should not lure us into suspending the transparency" that investors need, Kroeker said.
Kevin Bailey, deputy comptroller of the Office of the Comptroller of the Currency, said it would be "inappropriate" to suspend fair-value. Banking agencies "should continue to consider the critical need for risk sensitivity" related to capital requirements, he said. Cynthia Fornelli, executive director of the Center for Audit Quality, an accounting industry group, said regulators could have a role in addressing fair-value. "Regulators need to know the current values of loans and securities in order to make rational policy decisions," Fornelli said in prepared testimony. "Whether or how those values affect capital requirements, and whether they should result in an institution running afoul of capital requirements, is a decision to be made by regulators." SEC Chairman Mary Schapiro, testifying before a House appropriations subcommittee yesterday, said FASB plans to release its guidelines in the second quarter to help banks comply with the mark-to-market rule when assets aren’t selling. "It is not our intention that these assets be written down to zero," Schapiro said. She added that the SEC, which oversees the FASB, has no plans to put a moratorium on mark-to-market accounting.
Moody's reviews regional banks for downgrades
Moody's Investors Service said Thursday it expects the financial strength of 23 regional banks to be hurt by sharp declines in commercial real estate prices and continued poor residential loan performance and it is reviewing them for possible downgrade. The deposit and debt ratings for 17 of the same banks also is under review. Moody's changed the rating outlook to negative from stable on 19 other banks. Moody's expects to complete the reviews by mid-May, the company said in a statement. Losses are expected to accelerate for the regional banks with significant risk concentrations in commercial real estate, specifically construction and land development.
"In today's environment, it is extremely difficult for banks to generate capital, both internally through earnings and externally through private sources," said Managing Director Robert Young. "Because of this, low capital levels are an increasing threat to banks' sustainability. Therefore, capital has become more important to Moody's assessment of banks' stand-alone financial strength." The review of each bank will include a consideration of the characteristics of its investment portfolio, focusing particularly on non-agency residential mortgage-backed securities and investments in bank trust preferred securities. Moody's said it also anticipates government support for large regional banks - those with at least $100 billion in assets - to be greater than anticipated.
U.S. Bancorp, PNC Financial Services Group Inc., and SunTrust Banks Inc. previously were expected to receive government help, although at a level insufficient to impact ratings, Moody's said. Now, another five are expected to receive support including BB&T Corp., Capital One Financial Corp., KeyCorp, Fifth Third Bancorp and Regions Financial Corp. If there is a downgrade of the bank financial strength rating for those institutions, the government support could temper the downgrade of bank level deposit and debt ratings, Moody's said. During its review process, Moody's will also consider the potential for systemic support for smaller regional banks.
Eastern European Currencies Need Help Now
European Union finance ministers reiterated this week what their leaders said at the March 1 EU summit: no bailout fund for Central and Eastern European. Instead, they again emphasized that each country is a special case. This is of course true, but the regional dimension also cannot be overlooked. These countries face many similarities: a common past, growth models that to varying degrees rely on foreign capital to finance domestic investment, and banking systems that are largely owned by West European banks. They also compete for trade and foreign direct investment; hence what happens, say, with the floating Polish currency matters for Slovakia -- a euro-area member -- as well.
So everybody is at risk. The experience of currency crises -- including the Asian one of the late 1990s -- tells us that even countries with healthy fundamentals can be attacked as contagion spreads. If a currency starts sinking, this will end up affecting other neighboring currencies as well. In turn this will affect the ability of households and companies to repay their debts denominated in foreign currencies. Finally, this will hurt Western banks due to rising losses on the loan portfolios of their local subsidiaries. Markets remain worried that the EU has no real response to the crisis in the postcommunist member states. The credit default swap (CDS) -- a measure of the cost of insurance against default -- of Austrian government bonds rose further after the summit, reflecting Austrian banks' exposure to the region. The EU position that every case in Eastern Europe is different effectively spread the message that some countries are much more vulnerable than others. The Hungarian forint has further weakened while other currencies barely changed, and CDS spreads rose in the more vulnerable CEE countries.
On the plus side, the EU summit affirmed the integrity of the European banking market and stressed that support for Western European banks should not imply any restriction on the activities of their Central and Eastern European subsidiaries. However, this is not enough. Anecdotal evidence suggests that credit contraction in the region is real. This financial crisis also contains a political risk. Twenty years ago, the ex-communist countries enthusiastically embraced market capitalism and liberal democracy. About a decade ago, however, Russia took a different course after it had experienced a severe financial crisis, and ever since it has remained on its Sonderweg of economic nationalism. Clearly, the commitment to democratic values and institutions is incomparably stronger in the CEE countries, but the risks should not be underestimated.
So what can be done? In the medium term, the key challenge is to trigger a resumption of private capital flows to the CEE region while adjusting to a new world of lower leverage and higher risk premiums. The days when a country could run current account deficits in the double digits (as a proportion of GDP) are gone. Households in the region will have to stop spending their expected future income and save more. In the short run, the key is to avoid further excessive exchange-rate depreciations. Market sentiment is strongly negative against CEE countries and capital inflows are dwindling. Decisive actions are needed. First, strong and credible programs for fiscal sustainability, financial system stability and macroeconomic adjustment are needed in the vulnerable CEE countries to convince markets that their economies will adjust and resume growth in the future. Without these, any external help will have short-lived effects.
The second priority is to temporarily substitute missing private capital inflows with public capital inflows. The IMF, EU and World Bank have already granted large loans to Hungary and Latvia, and the European Investment Bank, European Bank for Restructuring and Development, and World Bank have lent to the private sector of the whole region. The EU also somewhat extended the availability of structural and cohesion funds. However, these actions had only temporary effects. As a megafund for the region is not a political reality, the way forward is to convince markets that the case-by-case approach is not a fig leaf for inaction. To this end, the EU's medium-term balance of payments facility for noneuro-area member states -- established in 2002 with a ceiling of €12 billion that was raised to €25 billion in November 2008 -- or other European resources should be increased. What's more, disclosing the conditions for disbursing the funds would increase transparency, provide clarity to the markets and decrease moral hazard. The expected increase in IMF lending will also help the region.
Third, the shift in attitudes toward euro membership, especially in Poland, signals that sharp currency depreciation is not desirable. It should be matched on the euro-area side by a willingness to make the entry criteria not softer, but economically sensible. The Maastricht Treaty requires that candidate countries' inflation should not exceed that of the three best-performing EU member states by more than 1.5 percentage points. But it does not specify how to interpret "best performance." At the moment, it is interpreted to mean the three EU countries with the lowest (but not negative) inflation levels. This practice is widely interpreted as a way to defer euro-area enlargement. Markets would consider it a positive signal if the EU were to abandon this narrow, misguided interpretation. It would make more economic sense to consider either the three countries closest to the euro-area average, or the European Central Bank's definition of price stability -- inflation rates of below but close to 2% -- which candidate countries could exceed by 1.5 percentage points.
Fourth, the ECB should go farther in recognizing the extent of its regional responsibilities. It could do this by extending currency-swap agreements -- a temporary exchange of domestic currencies into euros -- to other central banks, or by accepting government bonds denominated in local currencies of noneuro-area EU countries as collateral. Even more radically, it could offer access to its euro-refinancing facilities to banks from noneuro EU countries. Such actions should apply on a temporary basis only, in response to extraordinary circumstances. They would help directly and also have a positive effect on market sentiment. Fifth, private debt-to-wealth ratios and the ability to pay may become unmanageable in countries that experienced extraordinary credit and housing booms and now face a serious bust. Since debt is mostly private in these countries, the issue of private debt restructuring should be put on the agenda.
Last but not least, Europe must avoid displaying the lack of coordination it has openly demonstrated in recent times. To be reminded by World Bank President Robert Zoellick that the EU has regional responsibilities was embarrassing, but painless. The same could not be said of a similar reminder coming from nervous capital markets. Only coordination and solidarity can beat off the self-fulfilling prophecies in Eastern Europe.
Rising Food Prices Hit Eastern Europe
The global financial crisis that has triggered bank losses and sent currencies tumbling across Eastern Europe now is taking a toll on the region's real economy and hitting consumers with higher food prices. Food inflation in many of Europe's emerging economies accelerated this year, according to government statistics. In Hungary, monthly food inflation jumped to 2.7% in January from 0.2% in December, according to Eurostat, the statistical office of the European Commission. Food prices edged up in Poland and the Ukraine and this week the Czech Republic's central bank said overall inflation in February was higher than expected because the country's plunging currency is driving up food prices.
Plunging currencies are at the root of the problem. Currencies have declined as investors have lost confidence and moved capital elsewhere. Falling currencies mean shoppers have less purchasing power -- a handicap that hasn't been offset by falling commodity prices and cheap oil, which normally translate into benefits for consumers. In recent months, the global financial crisis has hit hard in Eastern Europe, where the economies have declined more than their weakened Western European counterparts. Abrupt currency declines have spurred calls in some Eastern European capitals to weigh adopting the euro.
Falling currencies across Eastern Europe are making it more expensive to import food and consumer goods -- and can drive up the price of locally made food. Some producers look to sell their goods abroad, where they are likely to draw higher prices. In a supermarket near Budapest's Western railroad station, Gabriella Erdélyi lamented that Hungarian produce was scarce. "You can't find Hungarian tomatoes, or good Hungarian apples," she said, complaining that much of the country's bounty is exported. Hence shoppers are stuck with imported goods -- increasingly expensive as Hungary's forint spirals down. Ms. Erdélyi fingered an orange, from Cyprus, that was going for 439 forints ($1.87) a kilo. That is twice what it was several weeks ago, she said.
Although consumers are feeling the pinch, rising food prices haven't reached a crisis point, analysts say. "Food prices globally have been falling and a lot of the impact has been put aside [in Eastern Europe] by the currency devaluation," says Ivailo Vesselinov, an economist at Dresdner Kleinwort. "The increases are not large [but] it may turn out to be a huge problem along the line." J.P. Morgan Chase food analyst Pablo Zuanic estimates the costs of commodities used by Europe's biggest food companies will fall by as much as 20% this year. Yet reductions in retail food prices are "unlikely," especially in countries with falling currencies, he says, because some food producers locked in higher costs through contracts known as hedges when prices were high.
At the same time, food-industry analysts say producers can use currency shifts as a cover for increasing prices more than costs, giving profits a boost. "Currency depreciation in emerging markets might make it easier for companies to take prices up in countries like Poland and Russia," J.P. Morgan's Mr. Zuanic said a recent report. It is too soon to tell if this is happening. The situation has prompted some consumers to change their habits. In Poland, the zloty has fallen 25% against the euro in the past four months. That has made Polish food seem inexpensive to residents of neighboring Lithuania -- where the currency is tied to the euro. Some Lithuanians have started crossing the border to buy Polish groceries, according to Frank Gill, a credit analyst at ratings agency Standard & Poor's.
Yet the same food doesn't seem a bargain to the Polish. A large Polish wholesaler, Grupa Eurocash SA, says its suppliers have started asking for price increases as high as 3% for food and drink. Toward the end of last year negotiations were starting with 0.5% or 1% increases, according to Jan Domanski, Eurocash's corporate finance manager. The situation is a conundrum for the world's biggest food producers, some of whom last year raised prices more in emerging markets than in Western Europe. In the fourth quarter, food and consumer-goods giant Unilever increased average prices in Central and Eastern Europe, Asia and Africa 13.6%. In Western Europe, it increased prices 3.1% the same quarter.
Unilever executives say they were passing on higher costs for items such as vegetable oil, tomatoes and tea. Unilever's results indicate that the company isn't making windfall profits in emerging markets: the company's Central and Eastern Europe, Asia and Africa division reported 10% profit margins in the fourth quarter, a little more than half the margins in Western Europe. Poland's declining currency is prompting another round of decisions. Unilever says it will decide in a couple of months whether to push through currency-driven price increases in the country.
Senator Takes Issue With Banks ‘Too Big to Fail’
The question of how to deal with financial institutions that are deemed "too big to fail" came up on Thursday as senators quizzed Treasury Secretary Timothy F. Geithner on the federal budget. Senator Bernard Sanders, the Vermont independent, said plainly to Mr. Geithner, "If an organization is too big to fail, it is too big to exist." "Are we starting right now investigations to say, ‘Sorry, Bank of America; sorry, Citigroup; sorry the A.I.G.’s of the world, we no longer can sustain institutions that are just so large that they can create so much damage if they failed,’" Mr. Sanders asked Mr. Geithner.
Mr. Geithner agreed with Mr. Sanders and said the government should create a system that was less vulnerable to future risk. "A critical priority of the president, working with Congress, is to put in place legislation, which will achieve that objective," Mr. Geithner said, without being specific on what exactly will be proposed. Breaking up the big banks has not been proposed by either the current or previous administration. The government’s policy so far has been the exact opposite: to make big banks even bigger. The Bush administration, with which Mr. Geithner was intimately involved as president of the New York Federal Reserve, blessed and even encouraged the mega-mergers in the financial industry last year.
The government later pumped tens of billions of dollars into the new banking behemoths and even guaranteed the losses associated with the mergers, as it did in JPMorgan Chase’s takeover of Bear Stearns and, eventually, Bank of America’s takeover of Merrill Lynch. Now the top four banks in the United States — Bank of America, JPMorgan Chase, Citigroup and Wells Fargo — represent 66 percent of the total assets and 58 percent of the total deposits among the top 50 banks and saving institutions in the country, according to SNL Financial. The four institutions have received more than $144 billion from the government’s Troubled Asset Relief Program, with Citigroup receiving more than $49 billion, Bank of America receiving $45 billion, and JPMorgan and Wells Fargo each receiving $25 billion.
Mr. Sanders believes that this concentration of wealth and power among such a small number of institutions is unacceptable. "I think we need to go back to where Teddy Roosevelt was, and start to say, ‘sorry, we are going to break them up,’" he told Mr. Geithner. In the early part of the last century, President Theodore Roosevelt emerged as a "trust buster" by using the Sherman Anti-Trust Act to break up some of the nation’s largest corporations, including J.P. Morgan’s Northern Securities Company. But President Roosevelt moved on those companies because they were so large that they were deemed anticompetitive, not "too big to fail." The question facing Congress and the Obama administration now is whether the government will accept such large institutions and how, and if, it is possible to regulate them to avoid future disruptions in the financial system.
The Congressional Oversight Panel monitoring the government’s financial bailout plan recommended the creation of a "systemic regulator," which will monitor the big banks very carefully. But adding a new layer of government oversight might not calm the fears of senators like Mr. Sanders and others who believe that the banks have become too large for even the government to regulate properly. And that could increase the likelihood that a break-up of the big banks by the government’s hand could one day be in the cards.
The Great Bond Bailout
You're ticked off about the bank bailouts. Furious. You think somebody — other than you and your fellow taxpayers — needs to pay. Let's try to work out who that somebody ought to be. The banks' shareholders don't make a promising target. The stock prices of Citigroup and Bank of America, to name two especially dramatic examples, are down more than 90% from their 2007 peaks. There are arguments, relating to incentives for executives and future shareholders, for wiping out current shareholders at the most troubled banks. But that won't pay for anything — the shareholders simply don't have much more value to cough up. Same goes for those who work in the business. Many have lost their job and life savings, and most have seen their salary cut.
Yes, there have been egregious bonuses and golden parachutes — and we ought to claw them back — but that won't pay for a trillion-dollar (or more) bailout. Which leaves ... the folks who loaned the banks money. The banks' creditors have been the clearest beneficiaries of the bailouts — leaving them with the most wherewithal to contribute. Who are these creditors? The biggest group, with outstanding loans of about $9 trillion, is depositors like you and me. When you deposit money, you're lending it to the bank. Those deposits were explicitly insured by the Federal Deposit Insurance Corporation (FDIC) up to $100,000 before the crisis, and the banks paid for that insurance (though not in full, given that FDIC coverage has been raised to $250,000 and seems effectively without limit at bigger banks) and passed the cost on in the form of lower interest rates than on, say, an uninsured money-market account.
That, plus the fear that panicked depositors could start a devastating run on the banking system, explains why we're going to continue to be protected. But banks also borrow on wholesale markets, mainly by issuing bonds. About $2.6 trillion of bank funding in the U.S., 20% of the total, comes from such debt securities, according to the FDIC. At the most troubled of the big banks, Citigroup, the figure is 27%. (Citi's domestic depositors account for just 16% — its main deposit base is overseas.) These bank bonds are mostly in the hands of large, sophisticated institutional investors — pension funds, insurance companies, mutual funds. It may be too much to ask small depositors to monitor the risks at the banks where they put their money and pay for getting it wrong.
But these bond buyers are pros. If there is to be any market discipline of risk-taking by banks, bond investors ought to be the ones who enforce it by withholding their cash from the bad apples — and paying the price for misjudgments. Plus, a few concessions from creditors could ease the burden on taxpayers dramatically. If Citi's $486 billion in wholesale debt were converted into common shares — admittedly a pretty extreme solution — the company's balance-sheet woes would evaporate. Which is why these arguments have been gaining in popularity. "I think it's very important that the creditors in this crisis take a hit," said New York University finance professor Matthew Richardson at an NYU conference in March. "We need to try to transfer some of the risk from taxpayers to the financial system."
Sounds awfully logical. So why haven't we stuck it to these guys? Because we're afraid they'll panic. "Unfortunately, we've built a system where if you hammer those guys hard, you're going to have a global credit collapse," said Simon Johnson, a former chief economist of the International Monetary Fund who teaches at the Massachusetts Institute of Technology and whose blog, Baseline Scenario, has become essential reading for crisis buffs. The Federal Reserve and Treasury left creditors at Lehman Brothers adrift in September, and the repercussions were so dire that regulators resolved not to let such a thing happen again.
The FDIC can wind down banks in a more orderly fashion than occurred at Lehman. But FDIC chairwoman Sheila Bair and Fed Chairman Ben Bernanke have both said they don't have the authority to wind down global financial conglomerates like Citi. The upshot: "If you want to have no more Lehmans, then inevitably you wind up guaranteeing the banks' debts," said John Hempton, a money manager and former Australian treasury official whose Bronte Capital blog has become another crisis must-read. That is, an orderly reorganization of the financial system in which creditors make sacrifices would be great. But it's not really an option. So we keep bailing them out.
Bailout may hit bank bondholders: congressman
Bondholders in distressed financial institutions might be next in line to take a hit in the U.S. bank bailout under a debt swap strategy that one member of Congress said on Thursday is under discussion. Rep. Brad Sherman told Reuters that bank bondholders could be asked to swap bonds that they now have for new "haircut" debt with lower interest rates or face values. "People are talking about it. It's not the first choice," said the California Democrat, who is a member of the U.S. House of Representatives Financial Services Committee. Four aides to key lawmakers in the House and Senate said they had not heard of any discussion about such a proposal and U.S. Treasury Secretary Timothy Geithner all, but dismissed the idea when asked about it in a U.S. Senate hearing on Thursday.
But Sherman said that asking bondholders to share the pain already being felt by bank stockholders and U.S. taxpayers would "make capitalism work the way it's supposed to." "The 'new socialism' is you hit the stockholders and then you hit the taxpayers. I'm not in favor of that," he said. Stockholders have been hammered by lower share prices for major banks, while taxpayers are backing a massive bailout, assisting institutions such as Citigroup, Bank of America and American International Group Inc. In contrast, investors in the debt of such institutions have suffered little, making them a tempting target for policy-makers looking for ways to spread the burden of resolving the worst U.S. financial crisis in generations.
A debt swap could help shore up banks' balance sheets, but Sherman said that powerful allies of wealthy debt-holding investors will have something to say about it. "The problem now isn't too big to fail. It's too well-connected to fail," he said. Geithner, responding to a question about the idea from a member of the Senate Budget Committee, said it would be better and cheaper for taxpayers to ensure that banks can meet their debt obligations. "It's not a close call, senator. It is necessary, to protect the financial system and get recovery back on track, for the markets to understand that we would do what's necessary to make sure that these major institutions can meet their commitments," Geithner said.
"Everything we're doing, in terms of making capital available where it's necessary, providing support in terms of liquidity funding guarantees, is to underscore that commitment to make sure our institutions can meet their commitments," he added. Many analysts blame the failure of Lehman Brothers, and its defaulting on its debt obligations, as the trigger that locked up interbank lending and nearly all other credit markets last fall, threatening the financial system with potential collapse. Geithner has vowed not to repeat that mistake. Market analysts said late last month that debtholders such as insurance companies were concerned about how far up the capital structure losses at banks might extend.
They said debtholders were worried about an equity-for-debt restructuring being used to help recapitalize the banks. In the case of Citigroup, the government recently swapped preferred stock for common equity to bolster its capital cushion. Lawmakers from both parties in Congress are suffering from bailout fatigue, making it politically difficult for the Obama administration to ask for more money to fix the financial system, although such a request is widely expected. The Treasury Department said this week it has disbursed $326.8 billion from the $700 billion financial bailout program approved by Congress in October. The Federal Reserve has also extended special assistance to many financial institutions.
Fourth Nominee Withdraws From Treasury's Roster
H. Rodgin Cohen, chairman of the New York law firm Sullivan & Cromwell, has withdrawn his name from consideration for deputy Treasury secretary, becoming the fourth pick for a prominent Treasury Department post to pull out in recent weeks. A prominent attorney who has advised many of the top Wall Street firms, Cohen dropped out after the White House found an issue during his vetting process, two sources familiar with the matter said. The sources declined to identify the reason. Cohen did not respond to messages seeking comment. Though the Treasury is filling its lower-level positions, the thin ranks on the senior levels are taking a toll on the department's ability to deal with a financial crisis that continues to deepen in scope and complexity, government and industry officials say.
Gus O'Donnell, Cabinet Secretary for the British government, was quoted this week in British news reports saying it has been "unbelievably difficult" to talk to people at the U.S. Treasury: "There is nobody there." Treasury Secretary Timothy F. Geithner said Wednesday during a briefing with reporters that he was "a little surprised" when told of the comments. He added that he has been working closely with British officials and had not heard of any communication problems. Treasury officials say the staffing shortage has not hindered their ability to address the financial crisis. In just over a month, the department has announced a "stress test" to capitalize banks in case the economy worsens, a plan to aid homeowners and an initiative to restart the consumer lending markets.
Treasury officials also played a key role on the federal budget announced last month and are working on a plan to tackle the toxic assets clogging the books of banks as well as a plan to overhaul financial regulation. Others who removed themselves from consideration in recent weeks include Annette Nazareth, an attorney who was being considered for the deputy post; Lee Sachs, a former Treasury official in the Clinton administration, who was expected to be the under secretary for domestic finance; and International Monetary Fund official Caroline Atkinson, who was in line for under secretary for international affairs. Lael Brainard, deputy national economic adviser under Clinton who was set to take a post at the State Department, instead is expected to be nominated as Treasury under secretary for international affairs, administration officials have said.
Grain Costs Down, Groceries Not
modity prices are down, but the bad news for consumers is that U.S. farmers are responding by cutting back their planting and production, reducing the chances of lower prices reaching the supermarket. Clay T. Mitchell of Buckingham, Iowa, said he will reduce his corn acreage 26% when the planting season starts in mid-April. The 930 acres of corn that the 35-year-old farmer plans to grow would be his smallest effort ever, even though corn has long been his most profitable crop. He is planting more soybeans, which don't need expensive nitrogen fertilizer. Farmers are planning to cut production of corn, shown here at harvest, and other high-cost crops as lower commodity prices squeeze the industry.
"Farming is very strange right now," said Mr. Mitchell, who had some of the best years of his farming career in 2007 and 2008 only to see the recession deflate commodity prices. Across the nation, farmers are making plans to cut their production of corn, wheat, rice, peanuts, beef, pork, poultry and milk. In addition to growing more soybeans, farmer are also planning to grow crops more cheaply, such as by using less fertilizer and pesticides. Also, some farmers plan to grow just one crop on land that normally produces two each year, and to let some land lie fallow throughout the year. Farmers are expected to plant the fewest acres of cotton since 1983, the Agriculture Department estimates. The USDA expects the production of meat from every major category of farm animal to drop for the first time since 1973.
"Farmers are very nervous," said Craig Rowles, general manager and part-owner of Elite Pork, which raises 145,000 hogs annually near Carroll, Iowa. With hog prices down 28% since the summer, he has shrunk his output about 7% and cut his feeding costs by selling his animals a week or two sooner for slaughter. The magnitude of the farming retreat won't come into focus for several weeks. The USDA releases its prospective plantings report on March 31 and the usual start of the Midwest planting season is in April, weather permitting. But orders for seed and fertilizer are already giving clues to grain traders that the acreage of some crops, including corn, might drop by a few million acres. Commodity prices dropped late last year when the thickening global recession helped to drain demand for everything from juicy steaks to the corn used to fatten the steers they come from. Prices of corn, soybeans, wheat and rice have fallen by half or more from last year's highs. The price received by dairy farmers for milk this year is heading toward the lowest levels since 1978.
The USDA is predicting that net farm income, a rough measure of profitability, will sink 20% this year to $71.2 billion. "The recession is now catching the farm sector," said Jason R. Henderson, an economist at the Federal Reserve Bank of Kansas City, which is detecting the first quarterly decline in farmland prices in a decade. The Federal Reserve Bank of Chicago said fourth-quarter farmland values in its district dropped 4% from the trailing quarter, also its first quarterly decline in a decade. Outside the farm belt, the drop in commodity prices in recent months is easing the financial pressure on food manufacturers, the biggest of which saw their input costs jump by hundreds of millions of dollars last year. However, consumers aren't seeing lower grocery prices and aren't likely to. Michael Swanson, an economist at banking giant Wells Fargo & Co., said he expects retail food prices to climb 2.5% to 3% in 2009, on top of the 5.5% rise in 2008.
The scope of the production retreat by farmers is fueling concerns among food makers that the costs of their ingredients won't fully recede to the low levels to which they had grown accustomed before 2007. After trading around $2 a bushel for a decade, the price of corn -- the nation's biggest crop -- jumped above $7 a bushel last summer, then fell by half as the recession cooled demand. "Corn is not going back" to its low levels of earlier this decade, C. Larry Pope, president and chief executive of pork producer Smithfield Foods Inc., said Thursday in a conference call with analysts after reporting a loss of $103.1 million, or 72 cents a share, for the fiscal third quarter ended Feb. 1. Corn, which is fed to hogs, is one of Smithfield's biggest expenses. In trading at the Chicago Board of Trade Thursday, the corn-futures contract for March delivery rose 20.75 cents a bushel to settle at $3.7675.
Supplies of crops such as corn and soybeans are relatively tight. Wheat farmers across the Southern Plains, in states such as Texas and Oklahoma, who planted their crop in the fall, are now beset by a drought. According to the USDA, two-thirds of the wheat crop in Texas is in very poor to poor condition. At the same time, the consumption of corn and soybeans from some quarters is continuing to grow despite the global economic slowdown. China, stung by high food prices last year, has bought 600 million bushels of U.S. soybeans since September, about one-fifth of the entire U.S. harvest, according to Dan Basse, president of Chicago commodity-forecasting concern AgResource Co.
Although hamstrung by overbuilding and bad hedging decisions by its executives, the U.S. ethanol industry will consume about 3.7 billion bushels of corn, or 30% of the fall corn harvest. Federal mandates for alternative fuels will help increase the ethanol industry's appetite to 4.1 billion bushels of corn next year, USDA economists figure. On top of this, ethanol executives are lobbying federal regulators to allow more ethanol in gasoline. Robert Moskow, a food-industry analyst at Credit Suisse Securities, is already concerned that food manufacturers will face commodity-price spikes as early as next year if the ethanol industry gets more help from Washington. "We are setting up ourselves again for unintended consequences," he said.
Kravis Losses Show Obama Fails to Close Lending Gap Raising Bankruptcies
Investment funds that purchased a majority of the lowest-rated loans during the credit boom have stopped buying, threatening to undermine President Obama’s plan to pull the economy out of the worst recession since 1982. The funds, known on Wall Street as collateralized loan obligations, provided cash to movie-rental chain Blockbuster Inc., which is now exploring a bankruptcy filing, according to a person familiar with the situation. They also helped finance the $33 billion buyout of Nashville, Tennessee-based hospital operator HCA Inc. Now, as an economic slowdown drags into the 16th month, borrowers unable to pay their debts are causing record losses for CLOs. Moody’s Investors Service put 760 of the funds, holding about $440 billion of assets, on review for downgrades on March 4.
Unless policymakers decide to earmark some of the $11.6 trillion of government programs created to combat the seizure in credit markets to support high-yield loans, defaults may soar through 2012, according to investors. "The game is over," said Ross Heller, managing director at New York-based NewOak Capital LLC, an investment and advisory firm. "There isn’t going to be money available for refinancing. Companies will have to be put into bankruptcy and the debt restructured." As credit losses have climbed, issuance of so-called leveraged loans in the U.S. plummeted to $11.7 billion in January and February from $66.3 billion in the first two months of 2008 and $158.7 billion for the same period in 2007, according to data compiled by Bloomberg. The Federal Reserve said March 3 it may include CLOs in its bailout programs, though none of the commitments for stimulus and lending is designed to deal with loans to the neediest companies.
CLOs, a type of collateralized debt obligation, pool below investment-grade loans and slice them into securities of varying risk and return. The leveraged loans are rated below BBB- by Standard & Poor’s and less than Baa3 at Moody’s and are defaulting at a 4.5 percent rate, the fastest since November 2002, according to data from S&P’s LCD. The S&P/LSTA U.S. Leveraged Loan 100 Index has fallen to 62.1 cents on the dollar from 100.3 cents in June 2007. The decline contributed to the $1.2 trillion of losses and writedowns by global financial institutions since the start of 2007. Blackstone Group LP wrote down to zero the value of billions of dollars of loans it bought last year from Deutsche Bank AG, according to a person familiar with the decision. Henry Kravis’s KKR Financial Holdings LLC, a publicly traded finance company whose shares have fallen 97 percent in the past year, reported a $1.2 billion loss on March 2. That included charges for loans held in its CLOs to bankrupt newspaper owner Tribune Co.
Lower loan prices and companies reneging on their debt agreements are causing losses on the CLO securities held by banks, insurance companies and hedge funds.
"Corporate default rates are likely to greatly exceed their historical long-term averages and reflect the heightened interdependence of credit markets in the current global economic contraction," Moody’s analysts said in a March 4 report. The New York-based ratings company said it may downgrade 3,600 portions of 760 CLOs. The action affects $100 billion of such securities and excludes only the top-ranked portions of the funds. While the Fed said its Term Asset Backed Securities Loan Facility, or TALF, may be expanded to CLOs, the program will first buy $200 billion of auto loans, credit cards, student loans and loans guaranteed by the Small Business Administration.
"CLOs should be the next focus for the TALF," said Randy Schwimmer, a senior managing director of Churchill Financial LLC in New York, a lender that also manages more than $3 billion of the debt pools. "Commercial lending needs to be supported." Without demand from CLOs, companies are paying higher rates for loans, Schwimmer said. When Sirius XM Radio Inc., the New York-based satellite broadcaster, extended the maturity of $350 million of loans due in May by one year, it agreed to pay lenders a 15 percent rate, according to a regulatory filing March 6. Sirius’s $250 million revolving credit had a maximum interest cost of 5.25 percent, and the $100 million term loan paid 5.56 percent as of Sept. 30, according to a Nov. 12 filing. Investors bought CLOs because they had higher returns than similarly rated securities. The $58 million AA ranked portion of KKR Financial CLO Ltd. sold in March 2005 offered investors interest of 45 basis points more than benchmark bank rates. That compared with a spread of as little as 36 basis points for companies of the same grade, according to Merrill Lynch & Co. indexes. A basis point is 0.01 percentage point.
As cash flowed into CLOs, the funds bought almost two-thirds of the debt that financed the record $616 billion of leveraged buyouts in the first half of 2007, S&P LCD data show. Between 2002 and 2007, they accounted for 60 percent of term loan purchases, according to S&P LCD. Until the credit markets seized up in late 2007, private equity firms, including Blackstone and Carlyle Group, formed teams to manage CLOs. They earn revenue by charging fees and buying stakes in funds they oversee. "They opened up the buyer base and enabled leveraged finance debt to be purchased by the far-larger investment-grade universe," said Chris Taggert, an analyst at debt research firm CreditSights Inc. in New York. Demand from CLOs and other credit funds helped Georgia- Pacific LLC, a unit of Koch Industries Inc., raise a $5.25 billion term loan in January 2006. The loan is the sixth most- widely held in CLOs, JPMorgan Chase & Co. data show.
The following November, Bank of America Corp., Merrill Lynch, JPMorgan and Citigroup Inc. sold an $8.8 billion term loan, the largest at the time, and the third-most included in CLOs, to back the HCA buyout. The hospital operator was sold to KKR, Bain Capital LLC, Merrill Lynch and Thomas Frist Jr., co- founder of the company.
CLO sales fell to $17 billion in 2008 from $100 billion in 2006, Moody’s data show, as investors refused to buy securitized debt. A record low in loan prepayments also means that managers are getting less cash back to reinvest in new debt. Prepayments fell to 8.8 percent last year, less than a quarter of the rate a year earlier and a fifth of the average since 1997, when S&P starting tracking the data. "The absence of new CLOs magnifies the chance companies won’t be able to refinance debt," said Kevin Cassidy, vice president and senior credit officer at Moody’s.
Blockbuster, which has a $350 million bank line maturing in August and a $352.1 million term loan due two years later, may need to file for bankruptcy, according to the person familiar with the situation. The Dallas-based company has hired law firm Kirkland & Ellis LLP for refinancing and capital-raising initiatives and doesn’t intend to file, spokeswoman Karen Raskopf said. R.H. Donnelley Corp., a yellow-pages publisher, has "large debt maturities beginning in early 2010," Steve Blondy, chief financial officer, said on a call with investors March 12. The Cary, North Carolina-based company planned to refinance the debt, "which may not be possible in the current capital markets," he said. The publisher has $2.2 billion of loans and bonds maturing through 2011, Bloomberg data show. It plans "to initiate discussions with our banks and bondholders about amending, refinancing or restructuring our debt obligations," Blondy said.
About $26 billion of bank loans and bonds come due in 2009, with a further $44 billion in 2010 and $120 billion in 2011, according to Moody’s. "The good news" is companies took advantage of cheap rates between 2004 and 2007, and that debt doesn’t need to be refinanced immediately, said Vivek Tawadey, head of credit strategy at BNP Paribas SA in London. Those risks will grow beginning in 2011, when the largest buyouts in history need to start rolling over debt, Taggert said. Georgia-Pacific has $3.1 billion of loans maturing by 2011. HCA, which has $12 billion of bank lines maturing in 2012 and 2013, may struggle to refinance in the weakened loan market, according to Lauren Coste, an analyst at Fitch Ratings in Chicago. James Malone, a spokesman for Atlanta-based Georgia-Pacific, declined to comment. HCA spokesman Ed Fishbough didn’t return calls.
A return of the CLO market is unlikely because the existing securities have lost so much value, said NewOak’s Heller, who doesn’t agree that the government should support the high-yield debt. "CLOs created the problem of too much debt at these companies," he said. "You need to get through it, not keep the patient on life support." The CLO bonds rated AA are trading at an average of 25 cents of face value, according to a March 2 report from JPMorgan. The riskiest bonds are worth less than 10 cents on the dollar as the amount of borrowers with the lowest credit grades has increased to a record 10.8 percent from 5.7 percent at the end of the year, according to S&P. That’s because CLOs can typically hold no more than 7.5 percent of assets rated below CCC+. After crossing that threshold, the fund has to value the assets at market prices.
With the average CCC ranked loan quoted at 36.5 cents on the dollar, 147 of 557 CLOs monitored by Wachovia Corp. are violating terms requiring a minimum amount of collateral. Breaking these rules may force managers to shut payments off to the riskiest portions of the fund and divert cash to repay the safest bonds, Heller said.
Four of KKR’s CLOs holding about $7 billion of loans are breaching this test and paying down senior notes, according to a regulatory filing by the New York-based firm March 2. KKR spokesman Peter McKillop declined to comment. If company downgrades to the lowest ranks reach 40 percent, managers will have to dump holdings, further depressing loan prices, according to Kyle Bass, the managing partner of Dallas- based Hayman Advisors, who made $500 million in 2007 betting on losses from subprime mortgages. "The unintended and dangerous consequence of these defaults would be an evaporation of the CLO bid," Bass wrote in a letter to investors this month. "Now is not the time to enter this space."
Citigroup Executives Scored $2.2 Million Paper Profit Betting on Own Stock
Four Citigroup Inc. executives who bought the bank’s stock last week generated a $2.2 million paper profit within nine days, regulatory filings show. The executives, including director Roberto Hernandez, benefited as the company’s stock climbed 47 percent from March 10 through yesterday’s close of markets, after Chief Executive Officer Vikram Pandit said in a memo that the bank is having the best quarter since 2007. Their buying spree was the first by bank insiders since Jan. 14, filings show. "You’re supposed to buy when everyone else is selling," said Bruce Foerster, a former Lehman Brothers Holdings Inc. managing director who now runs South Beach Capital Markets in Miami. Banks have internal systems to monitor executive trades and prevent abuses, he said.
Pandit wrote in the internal memo March 10 that the company was profitable in January and February, leaving him "encouraged with the strength of our business so far in 2009." The comments triggered Citigroup’s biggest one-day percentage gain since Nov. 24, spurring global markets. The stock had tumbled 95 percent in the previous year amid five straight quarters of losses and three government rescue attempts since October. The plunge has slashed the value of investments by the bank’s own employees, including some of the executives who purchased shares last week. Hernandez bought 6 million shares on March 2 at an average price of $1.25 apiece, regulatory filings show. The stock, which touched a record low price of 97 cents on March 5, closed at $1.52 in New York Stock Exchange composite trading yesterday, giving him a paper profit of $1.7 million.
Latin America Chief Executive Officer Manuel Medina-Mora bought 1.5 million shares on March 3 at an average price of $1.24, regulatory filings show. Other buyers last week included Vice Chairman Lewis Kaden with 100,000 shares and Controller John Gerspach with 65,000. The shares slipped 1 cent to $1.53 as of 10:37 a.m., cutting the executives’ paper gains by $77,000. Hernandez said last month he will step down from the board after Citigroup’s annual meeting in April. He plans to keep his role as non-executive chairman of the company’s Mexican bank, Banamex. Hernandez also has an interest in a Mexican mutual fund that owns 14.6 million Citigroup shares, the filings show.
South Sea Bubble Survivor Says Dismantle RBS Along With Lloyds
Henry Hoare made a 1.6 million- pound ($2.2 million) profit from the South Sea Bubble, a speculative bust that bankrupted thousands of English families in the 1720s. His great-, great-, great-, great-, great-, great-grand- nephew boosted the deposits of his family’s bank by 20 percent in the past year to come through one of the worst financial crises since then, which is why people might want to listen to him. "Keep it simple, stupid," Alexander Hoare said in an interview in his drawing room on the first floor of C. Hoare & Co.’s 180-year-old office on London’s Fleet Street. "Get the depositors in, lend to people who can afford to borrow." That’s a lesson Royal Bank of Scotland Group Plc should have learned, said Hoare, 46, whose family-owned firm started in 1672 and now has about 10,000 customers. Prime Minister Gordon Brown should now dismantle the bank, which required 20 billion pounds of taxpayers’ money to avoid collapse, Hoare said.
"Break it up into all the component parts from which it was made and have them compete freely," said Hoare, referring to his Fleet Street neighbors National Westminster Bank Plc and Coutts & Co. which are both owned by RBS. "The regional, smaller banks were much admired by their clients, they made money for their shareholders, they didn’t trouble the government." Lloyds Banking Group Plc, taken over by the government after its acquisition of Edinburgh-based HBOS Plc, should also be dismembered, Hoare said. The banks got into "all sorts of exotic alphabet soups they didn’t understand," Hoare said. "If you look for example at the crashing together of Lloyds, a good bank, with HBOS, it was bad for competition, it was bad for consumers, it was bad for shareholders, it was very bad for taxpayers," Hoare said. HBOS lost 7.5 billion pounds in 2008, while Lloyds earned 819 million pounds. RBS and Lloyds won’t be broken up soon because the government would receive "fire-sale prices," said Neil Dwane, chief investment officer for Europe at Allianz Global Investors’ RCM unit in London.
Hoare said he’s now paying for the mistakes of others. His bank and other lenders are subscribing to a government plan to insure depositors after the failure of Bradford & Bingley Plc and Iceland’s Kaupthing Bank hf and Landsbanki Islands hf. Hoare said the government’s plans put too great a burden on taxpayers and penalize banks that avoided failure. "There we were minding our own business for 300 years, and one day some Icelandic banks and Bradford & Bingley fail and we get landed with the bill," Hoare, the bank’s chief executive officer, said. "The direction we’re heading is more and more depositor insurance, more and more regulation, more and more state ownership and these are the very things which did not make London great."
Parliament passed the South Sea Act in 1720, which gave the South Sea Co. a monopoly on trade, including slavery, with South America in return for financing part of the national debt run up in the War of the Spanish Succession. The shares jumped from 128 pounds in January to 1,050 pounds in July before they tumbled to 100 pounds in December, costing clergymen, country gentlemen and even scientist Isaac Newton their savings. Chancellor of the Exchequer John Aislabie was expelled from Parliament after an inquiry found he had accepted bribes, the Postmaster General took poison, and even King George I’s two mistresses were implicated. Hoare acquired South Sea Co. stock as it rose and sold whenever it dropped. The bank made about 19,000 pounds, about 1.6 million pounds in today’s money, between February and September that year, according to the firm.
In today’s crisis, Hoare has so far benefited, lifting deposits to about 1.8 billion pounds during the last 12 months. That’s mainly because it’s an "exclusive franchise" for the rich, said Simon Maughan, a financial analyst at MF Global Securities Ltd. The bank’s history has no relevance to the wider banking market, Maughan said in an e-mail. Hoare accepts his bank serves a niche, and it has missed out on historic opportunities to expand. "We managed to miss the industrial revolution," he said. "The balance sheet didn’t grow. They were all out on their horses chasing fox hounds," he said of his forebears. Hoare & Co. is an unlimited liability partnership, which means the family’s personal wealth, including Alexander Hoare’s solar-panel-topped residence and 50-foot yacht, can be seized if the lender collapses. That gives clients confidence, Hoare said. "Everything apart from the shirt on our back is at risk," Hoare said. "It keeps you jolly nervous."
The firm hired Jeremy Marshall, former head of Credit Suisse Group AG’s U.K. private bank, to succeed Alexander Hoare over the next year. Hoare will remain a partner. That doesn’t mark a change in strategy, said Hoare, as he shows visitors through a library decked with artifacts from three centuries of banking including a safe deposit box for gold, and a letter opposing the Bank of England’s creation in 1694. "Coutts is withering and the Swiss banks are withering and we want to stay small," Hoare said. "If the business gets too big for the family to handle, we’ve failed." In the last few years, Hoare has received takeover approaches, which the family rejected at informal meetings over breakfast and lunch, Hoare said. "You think, gosh, we’d all have a lot of money in our pocket and that would be nice for an hour, and then what?" Hoare said. "My job is to keep this bank small and beautiful."
German Lawsuit Aims at Banks that Preyed on Lehman Investors
Bankers called them "OD customers" -- "old and dumb" investors who let their advisors talk them into buying Lehman Brothers securities last year. They lost their savings in the financial storm, but now the injured parties are fighting back, with help from an experienced fighter. They arrive like a flock of birds, a few minutes ahead of schedule. They laugh and hug each other, presumably pleased not to have to deal with their anger alone anymore. They wear stocking caps to ward off cold and carry signs to protest the indifference of society. The signs include slogans like "Phony Advice -- Total Loss" or "No More Money -- No More Confidence." They've come together to hold a vigil in downtown Frankfurt, and for many it's the first time they have ever demonstrated. Housewives, retirees, teachers and plumbers have gathered on this cold February afternoon in the city's Bornheim neighborhood.
They include small investors, ordinary savers, women who watch the popular "Tagesschau" TV news program. They are not speculators. They wanted their money managed conservatively. They didn't want to have to worry about their savings. They just wanted to watch their assets grow. As conservative investors, they bought securities their bank advisors had recommended -- supposedly safe proucts with relatively low yields, issued by US investment bank Lehman Brothers. But last September, far away in New York, Lehman declared bankruptcy and suddenly these German investors were part of the crisis. The certificates their banks had sold them were nothing but gambles. Some people lost only a few thousand euros, perhaps money they had set aside for their funerals. Others lost anywhere from €10,000 ($12,800) to €50,000 ($64,000) on these speculative investments. Many of the protesters in Frankfurt are between 65 and 75 years old.
A relatively young man is standing in the cold on behalf of his 89-year-old mother. She lost her savings because her investment advisor had placed her into "Risk Group 4," which is defined as "speculative." Some bought the securities in late 2007, some in February or March 2008, and some in June, when many Lehman employees had a hunch that the bank would not survive 2008 as an independent firm. Did the German investors know the securities were certificates, and that they were subject to issuer risk? No. Did they know what a certificate was? No. Did they know they could lose their money? No, they say, outraged. "If I had known," says one of the protestors, "I would never have done this." Three banks have branches on this square in Frankfurt-Bornheim: Citibank, Dresdner Bank and Frankfurter Sparkasse, the three institutions that were especially zealous about selling Lehman securities in Germany. Frankfurter Sparkasse has admitted that it sold Lehman securities to 5,000 of its customers, for a total of about €75 million ($96 million) -- securities it touted as "absolutely safe," which are absolutely worthless today.
The people picketing on this Frankfurt square know that Lehman is now being run by a bankruptcy administrator. They have read that deposits with Lehman's German subsidiary are covered by the deposit guarantee fund of the Association of German Banks (BdB), but they also know that this makes no difference in their cases, because Lehman only had institutional investors in Germany. Those investors will get their money back, but small investors will not, because the certificates they purchased were issued by the parent company in the United States. "I went to my investment advisor," says an old man. "I'd invested €50,000 ($64,000). It was everything I had. The advisor looked at his screen and said, 'Your account has been set to zero.'" In one case a bank advisor in the northern port city of Bremerhaven sold his customer a Lehman certificate for about €93,000 ($119,000) as late as Aug. 21.
According to a flyer the advisor brought to the meeting, Lehman was rated A+. But by then Standard & Poor's had downgraded Lehman to an A rating, "outlook negative." One of the Lehman casualties in Frankfurt holds a sign that reads, "A safe capital investment??? Never again!" Another sign reads, "Advised and sold by bank experts." Yet another, "Investors in the tank, robbers in the bank." That evening about 60 investors who lost their money as a result of the Lehman bankruptcy convene in Sachsenhausen, another part of Frankfurt. They've invited an attorney, Matthias Schröder, of the law firm Leonhardt Spänle Schröder, experts in investment fraud. They ask Schröder how to get their money back. He is a tall, slim, matter-of-fact man. During a bank traineeship he once worked for a few months as a customer advisor; the program included a stint in the legal department at Commerzbank, where he learned how to ward off claims for damages. Schröder understands banks. The Lehman bankruptcy has brought him hundreds of new clients. He's established himself as one of the clean-up men in this mess. His job is to examine the wreckage and make sure small investors are not lost in the fray.
According to Schröder, the average Lehman casualty is 64. Schröder will be 40 in June. The people who come to see him in his office are old enough to be his parents. They feel betrayed and ashamed, and they want to show the banks that they are not about to take this sort of treatment lying down. Of the roughly 300 clients he now has, no more than 15 are still working, says Schröder. The overwhelming majority are retirees who spent their lives saving for old age. Most were customers of the same bank for decades. They knew and trusted their advisors, which made them attractive targets for the banks' sales strategists. Two received calls from their advisors in a retirement home, says Schröder. One thought Schröder, who visited him later, was from his bank, "because you too are such a nice man." Schröder's oldest client will celebrate his 100th birthday in May.
He "survived both world wars and the Turnip Winter (1916-17, when a frost destroyed harvests)," he told Schröder, "and now Frankfurter Sparkasse is burning up the last of my money." Investment advisors referred to agreeable elderly customers as "flexible Lehman grandmas." These were people they would call when it was time to show sales results and fulfill quotas, or when they were short on time. Bankers called them "OD customers" -- O for old, D for dumb (or "AD" in German, for alt und doof). "These were conditions you would normally expect only in a gray market," says Schröder. He says there are two ways to win a lawsuit against Frankfurter Sparkasse, Dresdner Bank or Citibank. A customer can prove in court either that his bank gave him erroneous advice, or that his advisor concealed hidden commissions. Schröder has brought a file containing documents from bank employees he knows in Frankfurt. Some are confidential, marked "for internal use only," and some are evidence. He produces an email written by a bank advisor three months before the Lehman collapse.
In the message, the advisor promises "hedging of the invested capital with 100 percent protection of capital on the maturity date." The prospects for winning this particular case are good, says Schröder. Most of the customers were unaware that certificates, unlike investment funds, carry an issuer risk. If the issuer goes under, a certificate automatically becomes worthless. There is no such thing as "100 percent protection of capital," as the Lehman investors have since learned. Schröder holds up the folder and tells his audience that every issuer is required to file a detailed prospectus with the German Federal Financial Services Authority, or BaFin. "The bonds are not subject to any capital protection," is written in bold lettering on page 1 of the prospectus. "A partial or total loss of invested capital is possible." Further back, the prospectus notes that buyers of certificates should have experience with derivatives, options and warrants, and that before buying these instruments investors should "consult with their own legal and tax advisors, accountants or other advisors."
A murmuring sound passes through the room. The flyer handed to some of the Lehman casualties by their advisors makes no mention of risks. For Schröder, the methods used by banks to unload these Lehman securities on long-standing customers were nothing short of "perverse" and "unscrupulous." The sole purpose of certificates, he explains, is to let a bank make a killing without its customers noticing. "These are standard gaga products," says Schröder. "As an investor, you simply cannot make money with them, because you are betting against top professionals." His goal is to prove "that the sale of certificates in Germany was a huge scam," Schröder says in his Frankfurt office. "And I am not the least bit concerned that we will not succeed."
Ghost Towns Dot Finland as Forestry Collapse Threatens Growth
Juha Pikkarainen has been out of work since Stora Enso Oyj shuttered the world’s northernmost pulp mill last year in Finnish Lapland, heralding the end of an era. "It’s hopeless trying to get a job here now," said the 55- year-old power-station control-room operator, who followed in his father’s footsteps in 1979 when he started at the Kemijaervi mill of Europe’s largest papermaker. "We’ve lost all faith in the big companies." Finland’s forest industry -- once a pillar of the Nordic nation’s economy -- may be collapsing as the global recession stifles demand and exacerbates years of plunging prices for commodities and products.
While the nation’s telecommunications industry, led by mobile-phone company Nokia Oyj, and makers of machinery will likely recover when the economic crisis subsides, forestry may be beyond resurrection. Its decline threatens growth prospects, drives up unemployment and is creating a rust belt in rural areas that offer few alternative sources of employment. "When jobs vanish, it’s certain that those who want to work will move away," said Timo Tyrvaeinen, chief economist at Aktia Bank Oyj in Helsinki. "We have ghost towns, lost villages -- lots of them -- throughout the country." The forest industry’s share of Finland’s economy has halved in three decades to 3.8 percent as exports fell to 15 percent of total shipments from 42 percent. In January, production slumped 35 percent from the same month a year earlier, the most on record, Finland’s statistics agency said March 10.
Increased use of the Internet is cutting demand for pulp and paper, which account for about two-thirds of industry revenue, according to the Finnish Forest Research Institute. This has helped drive down the price of newsprint in Europe by 19 percent to 495 euros ($639) per ton in the seven years since December 2001. In addition, companies including Metso Oyj, the world’s biggest manufacturer of papermaking machines and rock crushers, are moving production to countries where labor and other costs are lower. Stora Enso and UPM-Kymmene Oyj, Europe’s second-largest paper company, shut five Finnish mills in the last four years, cutting their employment in the country by 28 percent since 2005. So far this year, they have temporarily laid off more than 6,500 of the remaining 22,000 workers. "Even if these companies survive, it might be that the Finnish forest industry won’t," said Markku Kuisma, a history professor at the University of Helsinki.
Pine forests cover two thirds of Finland, whose $235 billion annual gross domestic product and population of 5.3 million make it economically and demographically the size of Minnesota. In the 1950s and 1960s, the government boosted the industry by building roads, railways, ports and icebreakers, plowing paths through the frozen sea for ships to carry paper to Europe year- round, Kuisma said. By the 1960s, the government directly controlled about a fifth of forest-product exports. Communities swelled wherever the industry spread. In 1964, the government built the pulp mill in Kemijaervi, a lakeside village on the Arctic Circle that didn’t have any other manufacturing, as part of an effort to industrialize the rural north and east.
Pikkarainen’s father moved there that year to work at the mill, which employed as many as 500 people at its peak in the 1960s and three decades later became part of the newly created, publicly traded Stora Enso, a merger of Finnish and Swedish papermakers. Metso is one of many companies that grew with Finnish forestry, benefiting from years of investment and orders. It has made about half the paper machines that are still in operation around the world, and about a third of all its employees work in Finland. In January, Metso started talks on cutting as many as 1,100 of the jobs in its paper-machines unit and said new investments in pulp and paper machinery will fall by a third or more compared with the level from 2004 to 2008. Most of the new investment will be in Asia and South America, the company said.
The government last year resisted calls from unions and workers to stop the closure of Kemijaervi’s mill. The coalition, led by Prime Minister Matti Vanhanen, said it didn’t want to interfere with free markets by preventing the demise of an industry that couldn’t cope on its own. The state has since identified Kemijaervi as one of several areas of "sudden structural change" and given it 17.4 million euros ($22.2 million) to create employment opportunities and boost entrepreneurship. "When the mills are shuttered in bad times, people don’t find other jobs," said Eero Lehto, chief economist at the Labour Institute for Economic Research in Helsinki.
Finland’s economy shrank 1.3 percent in the final three months of 2008 from the previous quarter -- its biggest drop in 17 years -- pushing the Nordic nation into a recession. The government predicts the jobless rate will exceed 8 percent this year compared with 6.4 percent last year, and the economy may contract as much as 4.4 percent, Finance Minister Jyrki Katainen said Feb. 24. Economic expansion had surged as high as 6 percent just two years ago because of foreign demand for machinery such as elevators made by Kone Oyj and Nokia’s mobile phones.
As paper mills close, a growing number of young people are moving to cities from northern rural areas to find work. Kemijaervi has shrunk a third to 8,600 residents since 1981, while Helsinki has grown 17 percent to 563,000 inhabitants. The shift has left roads, bridges and other infrastructure unused in smaller towns, while new highways and homes now need to be built in the cities, said Hannu Katajamaeki, professor of human geography at the University of Vaasa. The government has had to cut services in places people are fleeing, which in turn speeds up the exodus. Last year, it closed 90 elementary schools, mostly in the north. "Small towns are very vulnerable," said Pertti Keraenen, chairman of the Lapland district of the opposition Left Alliance. "When a big employer stops operations, even decades won’t help plug that hole."
IEA Cuts Demand Forecast, Non-OPEC Supply Growth on Recession
The International Energy Agency cut its 2009 oil demand forecast for a seventh month as the global slump saps consumption. Non-OPEC supply growth has stopped as investment drops and faults close fields, it said. The Paris-based adviser to 28 nations reduced its 2009 oil demand forecast by 270,000 barrels a day to 84.4 million barrels a day. That represents a decline in demand of 1.25 million barrels a day, or 1.5 percent, from 2008. "The demand collapse has been staggering, based on the whirlwind nature of the slump in the global economy," the IEA said in its monthly oil report today. "The obvious flip-side to this is that lower prices also lead to a supply response."
The Organization of Petroleum Exporting Countries will meet in Vienna on March 15 to review production quotas as the economic crisis keeps oil below $50 a barrel. Efforts to increase prices by cutting output further pose a risk to economic recovery, the IEA’s executive director Nobuo Tanaka said last month. While the worldwide recession crimps demand, a lack of available credit to fund investment in new projects and ongoing production problems in Azerbaijan are reducing supply from outside OPEC, the IEA said. The IEA trimmed its forecast for supplies from outside the producer group next year by 360,000 barrels a day to 50.6 million barrels a day. Non-OPEC supply is now projected to be unchanged from last year.
The revision is the agency’s seventh consecutive reduction of its 2009 crude demand estimate and is driven by declines in North America, Asia and the former Soviet Union, it said. The IEA cut demand expectations in the North America by 160,000 barrels a day to 23.51 million barrels a day, implying a contraction of 780,000 barrels a day, or 3.2 percent. The estimate for oil consumption this year among developing nations was lowered by 190,000 barrels a day to 38.5 million a day. OPEC, which supplies about 40 percent of the world’s oil, is still in the process of implementing reductions agreed last year totaling 4.2 million barrels a day. Algeria said this week the group should agree to new curbs in Vienna, while members such as Qatar and Nigeria said there is no need for further action.
The group’s 12 members pumped 28 million barrels a day of crude in February, 1.1 million barrels a day less than in January, the IEA said. Saudi Arabia, OPEC’s biggest producer, cut by 150,000 barrels a day last month to 7.95 million barrels a day, according to the agency. The 11 OPEC nations bound by production quotas pumped 25.7 million barrels a day last month, the IEA said, compared with their official Jan. 1 limit of 24.845 million a day. That implies the group is complying with 80 percent of its production targets, the IEA said.
Read the big four to know capital's fate
US presidents, in confronting crises, have often let it be known that they are serious students of history and biography. George W. Bush, an unusually voracious late-night reader, devours books on the lives of Great Men, including his hero Winston Churchill, (who in turn liked to read about his illustrious ancestor, Marlborough). Barack Obama looks to biographies of Abraham Lincoln for inspiration. Given the enormity of the banking, credit and trade crisis, might it be worth suggesting to Mr Obama and his fellow leaders that they study the writings of the greatest of the world's political economists, instead? After all, we may be in such a grim economic condition that the clever direction of budgets is a greater attribute of leadership than the stout direction of battleships.
Since today's leaders cannot possibly read all the major works of political economy, let us help them by selecting four of the greatest names from Robert Heilbroner's classic collection The Worldly Philosophers : The Lives, Times, and Ideas of the Great Economic Thinkers: Adam Smith, the virtual founder of the discipline and early apostle of free trade; Karl Marx, that penetrating critic of the foibles of capitalism, and less reliable predictor of its "inevit-able" collapse; Joseph Schumpeter, the brilliant and unorthodox Austrian who was certainly no foe of the capitalist system but warned of its inherent volatilities (its "perennial gale of creative destruction"); and that great brain, John Maynard Keynes, who spent the second half of his astonishing career seeking to find policies to rescue the same temperamental free-market order from crashing to the ground.
Perhaps the supremely gifted playwright Tom Stoppard could put those four savants on stage and offer an imaginary weekend-long quadrilateral discourse among them about the future of capitalism. Failing such a creative work, what might we imagine the four great political economists would say about our present economic crisis? Smith, one imagines, would claim that he had never advocated total laissez faire, was appalled at how sub-prime loans to fiscally insecure people contradicted his devotion to moral economy, and was concerned at the deficit spending proposed by many governments. Marx would still be badly bruised by learning of Lenin and Stalin's perversion of his communistic theories, and by the post-1989 withering-away of most of the world's socialist economies; yet he might still feel pleasure at modern financial capitalism foundering on its contradictions. The austere Schumpeter, by contrast, might be lecturing us to swallow another decade of serious depression before a newer, leaner form of capitalism emerged again, though with lots of evidence of severe gale-damage (the end of the US car industry, the decline of the City of London, perhaps) in its wake. And Keynes?
My own guess is that he would not be very happy at today's state of affairs. He might (only might) regard it as fine that he was quoted or misquoted millions of times in today's media, but one suspects that he would be uneasy at parts of Mr Obama's deficit-spending scheme: at the US Treasury's proposal to allocate more money to buying bad debts and rescuing bad banks than investing in job creation; at a Washington spending spree that seems unco-ordinated with those of Britain, Japan, China and the rest; and, most unsettling of all, at the fact that no one is asking who will purchase the $1,750bn of US Treasuries to be offered to the market this year – will it be the east Asian quartet, China, Japan, Taiwan and South Korea (all with their own catastrophic collapses in production), the uneasy Arab states (yes, but to perhaps one-tenth of what is needed), or the near-bankrupt European and South American states?
Good luck! If that colossal amount of paper is bought this year, who will have ready funds to purchase the Treasury flotations of 2010, then 2011, as the US plunges into levels of indebtedness that could make Philip II of Spain's record seem austere by comparison?
In the larger sense, of course, all four of our philosophers would be correct. Capitalism – our ability to buy and sell, move money around as we wish, and to turn a profit by doing so – is in deep trouble. No doubt Smith, as he watches the collapse of Iceland and the Irish travails, is reconsidering his aphorism that little else is needed to create a prosperous state than "peace, easy taxes and tolerable administration of justice" – that did not work this time. By contrast, rumbles of satisfaction might be heard coming from Marx's grave in Highgate cemetery, causing excitement for the still-considerable numbers of Chinese visitors. Meanwhile, Schumpeter will have due cause to mutter: "This is not a surprise, really." As for Keynes, we might imagine him sipping tea with Wittgenstein at Grantchester meadows, pursing his lips at the incapacity of merely normal human beings to get things right: at our tendency to excessive optimism, our blindness to the signs of economic over-heating, our proneness to panic – and our need, every so often, to turn to clever men like himself to put the shattered Humpty-Dumpty of international capitalism back together again.
All these political economists instinctively recognised that the triumph of free-market forces – with the consequent elimination of older social contracts, the downgrading of the state over the individual, the end of restraints upon usury – would not only bring greater wealth to many but could also produce significant, possibly unintended consequences that would ripple through entire societies. Laissez faire, laissez aller was not only a call to those chafing under medieval, hierarchical constraints; it was also a call to unbind Prometheus. Logically, it both freed you from the chains of a pre-market age, and freed you to the risks of financial and social disaster. In the place of Augustinian rules came Bernie Madoff opportunities.
By the same instinctive reasoning, most sensible governments since Smith's time have taken precautions against citizens' totally unrestricted pursuit of private advantage. States have invoked the needs of national security (therefore you must protect certain industries, even if that is uneconomic), the desire for social stability (therefore do not allow 1 per cent of the population to own 99 per cent of its wealth and thus provoke civil riot), and the common sense of spending upon public goods (therefore invest in highways, schools and fire-brigades). In fact, with the exception of the few absurdly communist states such as North Korea, all of today's many political economies lie along a recognisable spectrum of more-free-market versus less-free-market arrangements.
But what has happened over the past decade or more is that many governments let down their guard and allowed nimble, profit-seeking individuals, banks, insurance companies and hedge funds much greater scope to create new investment schemes, leverage more and more capital on the basis of increasingly thin real resources and widen dramatically the pool of gullible victims (silly, under-earning individuals, hopeful not-for-profits, Jewish charities, friends of a friend of an investment manager, the list is long), thereby creating our own era's spectacular equivalent of the South Sea Bubble. As in all such gigantic credit "busts", many millions more people – the innocent as well as the foolish – will be hurt than the snake-oil salesmen and loan managers who perpetrated these so-called "wealth creation" schemes.
What, then, is capitalism's future? Our current, damaged system is not, despite Marx's hopes, to be replaced by a totally egalitarian, communist society (such arrangements might be there in life after death). Our future political economy will probably not be one in which Smith or his present-day disciples could find much comfort: there will be a higher-than-welcome degree of government interference in "the market", somewhat larger taxes and heavy public disapprobation of the profit principle in general. Schumpeter and Keynes, one suspects, will feel rather more at home with our new post-excess neocapitalist political economy. It will be a system where the animal spirits of the market will be closely watched (and tamed) by a variety of national and international zookeepers – a taming of which the great bulk of the spectators will heartily approve – but there will be no ritual murder of the free-enterprise principle, even if we have to plunge further into depression for the next years. Homus Economicus will take a horrible beating. But capitalism, in modified form, will not disappear. Like democracy, it has serious flaws – but, just as one find faults with democracy, the critics of capitalism will discover that all other systems are worse. Political economy tells us so.