Brown Pelican covered in oil on the beach at East Grand Terre Island along the Louisiana coast
Ilargi: Matt Simmons knows oil. His "Twilight in the Desert" is one of the best books on the topic, highly recommended. Simmons also knows finance; he’s, after all, an oil banker. And he insists that both the Gulf spill is in fact much worse than BP and the White House are willing to admit, and that BP's liability commitments will bankrupt it within weeks. While there will always be the notion that Simmons says what he does in order to turn a profit, I personally lend quite a bit of weight to what he's been saying since the spill started. SImmons is one of the few voices left in the drama worth listening to.
BP has now officially, as I've said was likely to happen, seamlessly moved from "just" an environmental disaster into an economic calamity as well. Don’t underestimate the impact of this. BP is the planet's fourth largest enterprise. For one thing, this means the company has vast political influence, especially in the US and UK. I saw a line today I had been waiting for for some time, in this Reuters article:
Under pressure over BP, PM Cameron says UK ready to helpBritain stands ready to help BP with its clean-up efforts following the Gulf of Mexico oil spill, Prime Minister David Cameron said on Thursday as he came under intense pressure at home to stand up for the oil giant. In his first public comments about the crisis, Cameron said he would raise it with U.S. President Obama when they next spoke. That will be a delicate balancing act between upholding British interests and nurturing a key diplomatic relationship.
BP [..] accounts for 12-13 percent of dividend payouts in Britain. Pension funds and other investors are heavily reliant on it.
The BBC has this:
Why is BP important to the UK economy?"The government must put down a marker with the US administration that the survival and long-term prosperity of BP is a vital British interest," the former British ambassador to the US, Sir Christopher Meyer, has told the BBC. He urged Prime Minister David Cameron to raise the issue in his scheduled conversation with US President Barack Obama over the weekend.[..]
"When you consider the huge exposure of British pension funds to BP it starts to become a matter of national concern if a great British company is being continually beaten up on the airwaves," [London Mayor] Boris Johnson said.
UK pension funds do indeed have big holdings of BP shares and the company says that £1 of every £7 paid in dividends to pension funds by FTSE 100 companies last year came from BP. It is estimated that about 18 million people in the UK either own BP shares or pay into a pension fund that holds BP shares.
That should put you right in line with what will be playing out now. BP's bankruptcy looks like a foregone conclusion. That is, unless the US and UK governments step in, and do so broadly and very loudly. With both money and legal changes. The former, because BP faces far more in lawsuits and damage claims than it has in liquidity (its shares are now worth less than its assets, always an alarming sign). The latter, well, for more or less the same reason.
One party you don’t want to be when BP's bankruptcy lands square squash on the table is a Louisiana fisherman or a Florida tourist operator. British pensioners first! Sure, Obama has declared that BP is liable for all damages yada yada, but there’s a long list as we speak of Gulf Coast residents who can’t hardly squeeze a penny out of the company even now, and that’s before any serious litigation has started.
It’s all just posturing. By the time the real claims arrive, BP will likely be very deeply mired in interminable Chapter 11 and/or subsequent proceedings, and the little man will be dead broke and waiting for years to see if he may ever get a single penny for what he worked long and hard to build up, whether he’s Forrest Gump in Terrebonne Parish or Mr. Bean in Coventry.
Don’t help the little man, help BP, says the British government. And that will be the political stance, though certainly not the public message, going forward, on both sides of the pond. Nothing has changed as of yet and nothing will until Gump and Bean reach for their pitchforks.
Goldman Sachs or BP, the politicians’ reaction remains the same. Screw whoever’s not in your circle, and use (your power over) their money to pay off who is. Corporations rule this planet, not the people that live on it.
BP will be a showcase for several nations at once, a shining example for how much of the political power really is in the hands of the people. I for one hold out very little hope, as long as the present corporate political systems remain in place. Britain, I bet you, will use its pensioners’ tax money to "save" BP in order to save its pensioners. And so forth. And then somewhere down the road that money will get lost. Think AIG.
All we're left with to live in is a hologram. And we can just wait and see, because the time will come, till all we’ve left to spend, grow and eat also exists only in a parallel universe.
Unless and until we find ourselves some sand, oil-stained or not, to draw a line in.
And don’t kid yourselves, it’s not about BP, one single oil company, and it’s not about Obama or Cameron, about single politicians. With perhaps slight differences, Shell and Exxon perform within the same dismal agenda's BP does, and there's no politician left in our Western hemishpere who rises to true power and has not been pre-empted by the system he or she voluntarily chooses to function in, and who doesn't voluntarily participate in perpetuating the hologram their voters long for in order to continue their feeling of comfort, so they can sit in their oversized homes and watch pictures of dying birds on oversized plasma TV's.
And please don’t be too eager to proclaim you're different, or better than that. That’s nothing but the easy way out.
Remember, you’re not watching real life with real people, you’re watching a 24/7 theater play that has no other reason to be than to provide you with what it knows beforehand you will respond positively to. Remember that, and then look at the dying pelicans. You may be running out of chances to make it right. Is that the way you want your life to be?
BP Now Worth More Dead Than ALive
The financial toll of the oil spill disaster in the Gulf of Mexico escalated Wednesday as BP's stock plummeted to a 14-year low and fishermen, businesses and property owners who have filed damage claims with the company angrily complained of delays, excessive paperwork and skimpy payments that have put them on the verge of going under. The oil company captured an ever larger-share of the crude gushing from the bottom of the sea and began bringing in more heavy equipment to help in the effort, including a production ship and a tanker from the North Sea that will allow the system to process larger quantities of oil and better withstand tropical storms.
The containment efforts played out as investors deserted BP amid fears that the company might be forced to suspend dividends, end up in bankruptcy and find itself overwhelmed by the cleanup costs, penalties, damage claims and lawsuits generated by the biggest oil spill in U.S. history. Shrimpers, oystermen, seafood businesses, out-of-work drilling crews and the tourism industry all are lining up to get paid back the billions of dollars washed away by the disaster, and tempers have flared as locals direct outrage at BP over what they see as a tangle of red tape.
"Every day we call the adjuster eight or 10 times. There's no answer, no answering machine," said Regina Shipp, who has filed $33,000 in claims for lost business at her restaurant in Alabama. "If BP doesn't pay us within two months, we'll be out of business. We've got two kids." An Alabama property owner who has lost vast sums of rental income angrily confronted a BP executive at a town meeting. The owner of a Mississippi seafood restaurant said she is desperately waiting for a check to come through because fewer customers come by for shrimp po-boys and oyster sandwiches.
Some locals see dark parallels to what happened after Hurricane Katrina, when they had to wait years to get reimbursed for losses. "It really feels like we are getting a double whammy here. When does it end?" said Mark Glago, a New Orleans lawyer who is representing a fishing boat captain in a claim against BP.
BP spokesman Mark Proegler disputed any notion that the claims process is slow or that the company is dragging its feet. Proegler said BP has cut the time to process claims and issue a check from 45 days to as little as 48 hours, provided the necessary documentation has been supplied. BP officials acknowledged that while no claims have been denied, thousands and thousands of claims had not been paid by late last week because the company required more documentation.
At the bottom of the sea, the containment cap on the ruptured well is capturing 630,000 gallons a day and pumping it to a ship at the surface, and the amount could nearly double by next week to roughly 1.17 million gallons, said Coast Guard Adm. Thad Allen, who is overseeing the crisis for the government. A second drilling vessel that will arrive within days is expected to greatly boost capacity. BP also plans to bring in the tanker from the North Sea on Monday to help transport oil and an incinerator to burn off some of the crude. The tanker is currently used to shuttle oil from North Sea rigs to the shores of Scotland, and its deployment in the Gulf has been part of the broader plan to expand the amount of crude brought to the surface once a new and improved cap-and-collection system is installed over the leaking well.
The government has estimated 600,000 to 1.2 million gallons are leaking per day, but a scientist on a task force studying the flow said the actual rate may be between 798,000 gallons and 1.8 million. Crews working at the site toiled under oppressive conditions as the heat index soared to 110 degrees and toxic vapors emanated from the depths. Fireboats were on hand to pour water on the surface to ease the fumes. Allen also confronted BP over the complaints about the claims process, warning the company in a letter: "We need complete, ongoing transparency into BP's claims process including detailed information on how claims are being evaluated, how payment amounts are being calculated and how quickly claims are being processed."
The admiral this week created a team including officials from the Federal Emergency Management Agency to help with the damage claims. It will send workers into Gulf communities to provide information about the process. He also planned to discuss the complaints with BP officials Wednesday. Under federal law, BP is required to pay for a range of damage, including property losses and lost earnings. Residents and businesses can call a telephone line to report losses, file a claim online and seek help at one of 25 claims offices around the Gulf. Deckhands and other fishermen generally need to show a photo ID and documentation such as a pay stub showing how much money they typically earn.
To jump-start the process, BP was initially offering an immediate $2,500 to deckhands and $5,000 to fishing boat owners. Workers can receive additional compensation once their paperwork and larger claims are approved. BP said it has paid 18,000 claims so far and has hired 600 adjusters and operators to handle the cases. The oil giant said it expects to spend $84 million through June alone to compensate people for lost wages and profits. That number could grow as new claims are received. When it is all over, BP could be looking at total liabilities in the billions, perhaps tens of billions, according to analysts.
BP stock dropped $5.45, or 16 percent, Wednesday - easily its worst day since the April 20 rig explosion that set off the spill. In the seven weeks since then, the company has lost half its market value. The latest slide came after Interior Secretary Ken Salazar promised a Senate energy panel to ask BP to compensate energy companies for losses if they have to lay off workers or suffer economically because of the Obama administration's six-month moratorium on deepwater drilling.
Calculating what is owed to victims of the spill has proved challenging. David Walter owns an Alabama company that makes artificial reefs that anglers buy and drop in the Gulf to attract fish, but state regulators stopped issuing permits for the reefs on May 4 because of the oil spill - effectively killing off $350,000 in expected business. When Walter called a claims adjuster working for BP, he was told to provide four years of invoices for May, June and July along with tax returns for those years. Walter said he sent the forms by overnight mail, but the adjuster assigned to his case changed offices and could not be found. The documents were lost.
After making more inquiries, Walter said, he was instructed to gather the same documents and this time go to a claims office. There, an adjuster told Walter he would be eligible for only a $5,000 payment since his tax returns showed a technical business loss when depreciation was factored in. "I said that's not fair because if you say that, then I have to go out of business and I lose everything," Walter said. He is now working with an accounting firm to calculate his losses. Not everyone had complaints about the claims process.
Bart Harrison of Clay, Ala., filed his first claim on Wednesday morning for lost rental income on his coastal property and expected to have a check for $1,010 within a few hours. The only documentation required was tax returns and rental histories for his units, which were both easy to provide. "The guy I talked to was knowledgeable and respectful. It seemed like he really wanted to write a check and please me since it was my first time in," Harrison said.
The Gulf Coast oil spill's Dr. Doom
by Nin-Hai Tseng - Fortune
As an oil and gas industry insider, Matt Simmons speaks with a bold voice and makes even bolder predictions. His 2005 book, Twilight in the Desert: The Coming Saudi Oil Shock and the World Economy, which argued that Saudi Arabia's oil supplies are way more limited than most people think, raised his profile as an authority on the industry.
For more than 35 years, Simmons has run a Texas-based boutique investment bank, Simmons & Co., which specializes in the energy industry. At times, with his somewhat doom-and -loom-like take on things, there's a hint of conspiracy theorist in his tone. But it's hard to ignore that Simmons is deeply connected and has been pretty much right on in the past: When oil was $58 a barrel the year Twilight was released, Simmons predicted prices would be at or above $100 within a few years. By 2008, when Fortune profiled Simmons, the price of crude had hit $147 a barrel.
As a big believer that wind power is the way of the future, Simmons says the era of easy oil is over and that world oil production will eventually fail to meet expected future demands.
These days, Simmons has been weighing in on BP and the worst oil spill in U.S. history, following the explosion of the Deepwater Horizon drilling rig in the Gulf of Mexico. As BP struggles to permanently stop the gush of oil, Simmons has been warning that the scale of the spill is much bigger and that there's a larger leak several miles away.
Simmons also thinks that perhaps the only way to seal the gush of oil is by doing what the Soviet Union did decades ago -- setting off a bomb deep underground so that the fiery blast will melt the surrounding rock and shut off the spill.
Fortune caught up with Simmons this week to hear his thoughts on the Gulf Coast oil spill, the future of BP and what's ahead for offshore drilling.
Experts forecast an active hurricane season this year. We know it could disrupt efforts to stop the spill, but how else do you think storms could impact the Gulf Coast?
We've got to stop the gusher first. Then we have to deal with the other issues. There's a lake at the bottom of the Gulf of Mexico that's over 100 miles wide and at least 400 to 500 feet deep of black oil. It's just staying there. And only the lightest of that is what we're seeing hitting the shores so far. If a hurricane comes and blows this to shore, it could paint the Gulf Coast black. We should have been pumping this oil out onto other tankers weeks ago.
How do you think the U.S. government should handle this disaster?
I think the government should ask BP to leave the United States and turn its operation over to the military. Put the U.S. Navy in charge. Have all the contractors report to the Navy -- the cleanup efforts, the whole nine yards. Because as long as it's in BP's hands, they're going to spin the information as long as they can.
What do you think is in store for the future of BP?
They have about a month before they declare Chapter 11. They're going to run out of cash from lawsuits, cleanup and other expenses. One really smart thing that Obama did was about three weeks ago he forced BP CEO Tony Hayward to put in writing that BP would pay for every dollar of the cleanup. But there isn't enough money in the world to clean up the Gulf of Mexico. Once BP realizes the extent of this my guess is that they'll panic and go into Chapter 11.
There's currently a ban on new deepwater oil projects for six months to prevent other disasters. What lies ahead for offshore drilling?
First of all, to the industry's credit, we went 41 years in the United States without an oil spill. In a minor sense, this is what happened to the Challenger. We had so many successful shuttle takeoffs that the space station got kind of casual about this. But this is worse. BP was so certain that there wasn't any risk that three years ago they thought the insurance industry was ripping them off, so they're self-insured on this. How stupid! It was the best thing that ever happened to the insurance industry.
How do you think the Gulf Coast oil spill will change the energy business, if at all?
Profoundly. We're going to have to go back and re-examine all of our regulatory rules and realize the easy stuff is imminent and the rest of the stuff we do is really risky. We have to start questioning whether it's worth the risk, and do we need to get really serious about developing some alternative energy sources? Now I'm working on a big project in mid-coast Maine called the Ocean Energy Institute, and we're hoping that within the next year we can actually create 50 megawatt offshore wind turbines -- one every five miles a part -- and turn that offshore electricity into desalinated sea water and liquid ammonia. It could replace motor gasoline and diesel fuel.
What are the lessons learned from this environmental disaster?
That oil peaked. The easy stuff is over. We have to continue drilling in shallow water, but we probably need to take a deep breath and step back. Until we develop a new generation of equipment that can respond to these accidents, just don't go into the ultra-deep water and deep formations because it's just too risky.
Ilargi: And everybody, and I mean all of you, should watch Jon Stewart take on Obama and BP, just so you know I'm not the only one to see what I see.
Ass Quest 2010
Under pressure over BP, PM Cameron says UK ready to help
by Adrian Croft - Reuters
Britain stands ready to help BP with its clean-up efforts following the Gulf of Mexico oil spill, Prime Minister David Cameron said on Thursday as he came under intense pressure at home to stand up for the oil giant. In his first public comments about the crisis, Cameron said he would raise it with U.S. President Obama when they next spoke. That will be a delicate balancing act between upholding British interests and nurturing a key diplomatic relationship.
"This is an environmental catastrophe. BP needs to do everything it can to deal with the situation and the UK government stands ready to help," Cameron told reporters during a visit to Afghanistan. "I completely understand the U.S. government's frustration. The most important thing is to try to mitigate the effects and get to grips with the problem. It's something I will discuss with the American president when we next talk."
Officials in London said the two men were scheduled to talk on the phone during the weekend. They last spoke directly on May 11, when Obama was the first world leader to call Cameron to congratulate him just after he became prime minister. The crisis surrounding BP is fast turning into a foreign policy headache for Cameron, his first since he took office at the head of a coalition of Conservatives and Liberal Democrats a month ago.
BP, originally a British company but now one that has global ramifications and a major presence in the United States, accounts for 12-13 percent of dividend payouts in Britain. Pension funds and other investors are heavily reliant on it. Business and shareholder groups, alarmed that Obama's anti-BP rhetoric could worsen BP's problems and fuel a backlash against other British businesses in the United States, are clamouring for Cameron to stand up for the company.
Even members of Cameron's own Conservative Party have spoken out, with London Mayor Boris Johnson calling for "cool heads" in Washington and veteran politician Norman Tebbit urging Cameron to "give a large jerk on Mr Obama's collar". The difficulty for Cameron is that even though the plunge in BP's share price has massive implications for British investors, the company is fully independent from the government and it would be awkward for him to publicly wade into its affairs.
In any case, it is doubtful that he would be able to make any impact on events unfolding across the Atlantic, with Obama under pressure from his own electorate to be tough on BP and mid-term elections coming up this year. In addition, the so-called "special relationship" between London and Washington is Britain's most important international tie and Cameron will be wary of stoking tensions with a crucial ally so early in his tenure.
"They've got too many things to be working on bilaterally, from Afghanistan to Iran, for the next four or five years to allow this issue to become publicly aired as one where the two leaders are involved, each supporting a different side of the argument," said Robin Niblett, director of the Chatham House international affairs think-tank in London. "What is said privately is different. I would be surprised if British officials were not communicating privately their concern that this could get out of hand," he told Reuters
Why is BP important to the UK economy?
by Anthony Reuben - BBC News
"The government must put down a marker with the US administration that the survival and long-term prosperity of BP is a vital British interest," the former British ambassador to the US, Sir Christopher Meyer, has told the BBC. He urged Prime Minister David Cameron to raise the issue in his scheduled conversation with US President Barack Obama over the weekend.
London Mayor Boris Johnson has expressed concern about the "anti-British rhetoric that seems to be permeating from America". Speaking on BBC Radio 4's Today programme, he said that he "would like to see a bit of cool heads rather than endlessly buck-passing and name-calling". So why is there so much concern about the effect on the British economy?
BP is a huge company, but its shares have almost halved in value since the explosion that set off the spill in the Gulf of Mexico on 20 April. Its stock market value has fallen from about £125bn to about £70bn, which may make other oil companies think about making a takeover bid, although shareholders would be unlikely to accept an offer at the current levels. There is also a chance that BP will end up not paying dividends this year and it is almost certain that the amount BP is having to pay out for the clean-up in the US will eventually affect the dividend.
"When you consider the huge exposure of British pension funds to BP it starts to become a matter of national concern if a great British company is being continually beaten up on the airwaves," Boris Johnson said. UK pension funds do indeed have big holdings of BP shares and the company says that £1 of every £7 paid in dividends to pension funds by FTSE 100 companies last year came from BP. It is estimated that about 18 million people in the UK either own BP shares or pay into a pension fund that holds BP shares.
BP paid £930m in UK tax on its profits in 2009, which was well down on the £1.7bn it had paid in each of the previous three years. The company employs 10,105 people in the UK. The employees paid £490m in income tax and National Insurance on their earnings, while BP paid £110m in employer's National Insurance contributions. If you add together the corporation tax and production tax paid by BP, together with the National Insurance and income tax paid by its employees and the VAT and fuel excise duty paid by its customers, you get £5.8bn, which is about enough to fund the entire budget of the Department for International Development. It is not just the UK economy that is vulnerable to BP's problems. The company employs 22,800 people in the US.
BBC business editor Robert Peston points out that 39% of the company's shares are held in the US, about a third of them by individuals rather than institutions. He adds that those US shareholders might not be happy that every time the US president lays into BP, they find themselves a bit poorer.
BP: 'Not aware' of reason for stock plunge
by Julianne Pepitone - CNN Money
BP, in a statement issued Thursday, said it "is not aware of any reason" for its shares' 16% plunge in U.S. trading the day before. On Day 52 of the Gulf oil spill, BP said it "faces this situation as a strong company" and it will "continue to keep the market fully informed of further developments." BP said it is "generating significant cash flow" and has a "strong and valuable" oil reserve, both of which will help it survive the response to the spill. The statement helped push BP's U.S. shares up 11% in premarket trade, but its London stock was off 5.6% in regular-hours trading.
BP's shares tumbled $5.48 to $29.20 Wednesday on volume nine times above normal. The drop came amid some speculation about the company's future -- in a Fortune interview, oil analyst Matt Simmons said BP's "lawsuits, cleanup and other expenses" will force the company into bankruptcy within the month. It's been more than seven weeks since the Deepwater Horizon rig exploded, killing 11 people and causing the oil spill. On April 19, the day before the disaster, BP shares closed at $58.86. Since that time the stock has plunged by 50.4%.
Dividend worries: In addition to the bankruptcy fears, there's concern about BP's quarterly dividend that is slated to be paid out June 21. On Tuesday, Sen. Charles Schumer, D-N.Y., and Sen. Ron Wyden, D-Ore., sent a letter to BP chief executive Tony Hayward saying it was "unfathomable that BP would pay out a dividend ... before the total cost of [the] oil spill cleanup is estimated." Schumer and Wyden cited a Credit Suisse report that said the total cleanup cost could reach $37 billion if oil continues gushing until a relief well is completed in August.
BP hit by doubts over ability to pay for costs of oil spill
by Steve Gelsi & Alistair Barr - MarketWatch
BP PLC shares slumped Wednesday, leaving its market value halved in fewer than seven weeks, while the oil giant's bonds were crushed as questions mounted over whether it can afford to clean up the worst environmental disaster in U.S. history. Oil-industry insider Matt Simmons, head of the Texas-based, energy-focused investment bank Simmons & Co., told Fortune magazine Wednesday that BP will run out of cash from lawsuits, cleanup costs and other expenses. "They have about a month before they declare Chapter 11" bankruptcy, Simmons said.
"One really smart thing that [President Barack] Obama did was about three weeks ago, he forced BP CEO Tony Hayward to put in writing that BP would pay for every dollar of the cleanup," he added. "But there isn't enough money in the world to clean up the Gulf of Mexico. Once BP realizes the extent of this, my guess is that they'll panic and go into Chapter 11." BP's U.S.-traded shares slumped 16% to close at $29.20 on heavy volume. It's the lowest level for the stock since 1996. The shares traded above $60 before April 22, the day the Deepwater Horizon drilling platform sank off the coast of Louisiana.
BP's 2013 bonds, which carry a 5.25% coupon, slumped on Wednesday, pushing the yield above 8%. BP already has spent more than $1 billion dealing with the spill, and some analysts estimate the disaster could cost up to $40 billion. The company also has said it will pay for all cleanup costs and will cover all "legitimate" claims.
Art Hogan, market strategist for Jefferies & Co., said traders at the firm cited speculation that BP was talking to bankruptcy lawyers as one instigator of the selloff on Wednesday. "It's hard to calculate the ultimate cost of the spill," Hogan commented. "No one even knows how much oil is coming out of the well and there could be more impact from a hurricane. With all the new technology nowadays with remote-controlled robots and video cameras, it's happening in real time in front of everyone all day long. It's a torrential disaster."
BP spokesman John Pack said the company remains on solid financial footing, with 18 billion barrels of proven reserves. "I have no idea where that rumor is coming from," he replied, when asked if BP was talking to bankruptcy lawyers. Pack pointed to a statement made last week by BP's chief executive. "Under the current trading environment, we are generating significant additional cash flow," Hayward said. "In addition, our gearing is currently below the targeted range, and our asset base is strong and valuable, with more than 18 billion barrels of proved reserves and 63 billion barrels of resources. All of this gives us significant flexibility in dealing with the costs of this incident."
Twelve angry jurors
Gregory Evans, a partner at Milbank Tweed Hadley McCloy LLP who has represented large corporations in environmental suits, said BP may have to pay billions of dollars in an environmental lawsuit. "The [liability] exposure is very high for BP, because there appear to be statements that would indicate this was potentially more than negligence," he commented. "As we know from Exxon Valdez and other serious catastrophic mass tort cases for environmental-damage litigation, juries can become very angry with management and express that anger in very high punitive-damages awards."
Still, punitive damages will likely be kept on par with whatever BP pays for compensatory damages, a rule laid down by the U.S. Supreme Court in its decision to reduce damages in the Exxon Valdez case, Evans noted. Those damages were awarded after many years of court battles, and also included payments from insurance companies. Evans said he had no reason to believe that BP would file for bankruptcy in the near future, but even if it did, claims against it would still be paid under a provision called the estimation process. "The estimation process in bankruptcy can be efficient and it can lead to full payment of claims," he added.
Ahead of BP's big slide on Wednesday, analysts at Tudor Pickering Holt indicated that talk had been escalating about a bankruptcy, but concluded that BP is worth more to the government and to investors if it keeps operating. "There is a frenzy for sources/experts/analysts to one-up each other on the assessment of fines and liability and talk about BP as a donut-hole stock (zero)," the Tudor analysts said. "We have a really hard time getting there from a practical perspective, as BP is worth more alive than dead to the U.S. government and all those that want milk from this future cash cow."
US new jobless claims drop by 3,000 but remain stubbornly high
New jobless claims filed last week fell by 3,000 to 456,000, another sign that unemployment remains stuck stubbornly high. The four-week moving average of new claims, which smooths out week-to-week volatility, rose by 2,500 to 463,000. The number of people receiving continuing claims -- a measure of long-term unemployment -- dropped to 4.46 million, the lowest figure since December 2008.
The national unemployment rate is 9.7 percent, down from 9.9 percent the previous month. More than 400,000 new jobs were added to the economy in May, but almost all of those were census workers, a clear sign that the private sector is still too spooked by the economy to start hiring again. Economists say that meaningful job creation by the private sector cannot occur until the weekly jobless claims number gets down into the low 400,000s or upper 300,000s and stays there.
US Debt to Rise to $19.6 Trillion by 2015
The U.S. debt will top $13.6 trillion this year and climb to an estimated $19.6 trillion by 2015, according to a Treasury Department report to Congress. The report that was sent to lawmakers Friday night with no fanfare said the ratio of debt to the gross domestic product would rise to 102 percent by 2015 from 93 percent this year.
"The president's economic experts say a 1 percent increase in GDP can create almost 1 million jobs, and that 1 percent is what experts think we are losing because of the debt's massive drag on our economy," said Republican Representative Dave Camp, who publicized the report. He was referring to recent testimony by University of Maryland Professor Carmen Reinhart to the bipartisan fiscal commission, which was created by President Barack Obama to recommend ways to reduce the deficit, which said debt topping 90 percent of GDP could slow economic growth.
The U.S. debt has grown rapidly with the economic downturn and government spending for the Wall Street bailout, the wars in Afghanistan and Iraq and the economic stimulus. The rising debt is contributing to voter unrest ahead of the November congressional elections in which Republicans hope to regain control of Congress.
The total U.S. debt includes obligations to the Social Security retirement program and other government trust funds. The amount of debt held by investors, which include China and other countries as well as individuals and pension funds, will rise to an estimated $9.1 trillion this year from $7.5 trillion last year. By 2015 the net public debt will rise to an estimated $14 trillion, with a ratio to GDP of 73 percent, the Treasury report said.
U.S. Senate Passes Amendment to Require Reports on Foreign Holdings of U.S. Debt
by Corey Boles and Greg Hitt
The U.S. Senate voted Wednesday to require the Obama administration to examine the risks associated with foreign holdings of U.S. debt, a new sign of political concern about the nation's fiscal state and China's economic influence. The Senate approved an amendment to a broader economic-recovery bill that would mandate the administration produce quarterly reports to Congress about the associated economic and national-security dangers.
The amendment would require reports on all foreign holdings of U.S. debt, both government and private, but it was targeted largely at China. The amendment warned the country's sizable holdings of U.S. debt "could give China a tool with which China can try to manipulate domestic and foreign policymaking of the United States, including the United States relationship with Taiwan." China is currently the U.S.'s largest creditor, holding 10% of the $8.577 trillion in publicly held debt, according to the Treasury Department.
"It's the worst kept secret in the world that our deficit spending is being financed by foreign investors who may not always have our nation's best interests at heart," said Sen. John Cornyn, the Texas Republican who sponsored the amendment. The amendment was approved by voice vote. Republicans and a growing number of Democrats in Congress have been raising alarms about the nation's spending binge. Just last month, several fiscally conservative Democrats in the House forced party leaders to pare back a major economic bill, amid concern about the impact of the legislation on the budget deficit. The national debt passed $13 trillion last week, while the deficit for the current fiscal year, which ends Sept. 30, is on track to reach $1.5 trillion.
Among other things, the amendment would require the administration report quarterly to Congress on foreign holdings of U.S. debt, and to make assessments of the risks posed by those holdings. The Government Accountability Office, the investigative arm of Congress, would also be directed to report annually on those risks. If the administration deemed the economic risks had reached an "unacceptable level," the president would be required to lay out for Congress a plan to bring the debt under control, including a timetable. After China, Japan is the next biggest U.S. creditor.
US Needs Austerity Too: Hedge Fund Strategist
by Antonia Oprita - CNBC.com
The United States will have to adopt austerity measures similar to the ones taken in Europe, because the problems faced are largely the same, Timothy Scala, macro-strategist at Sophis Investments, told CNBC.com. On Monday, German Chancellor Angela Merkel presented plans to save 80 billion euros ($95.2 billion) by 2014 by cutting handouts to parents, axing 15,000 government jobs and delaying some construction projects financed by the government.
European Union Economy Commissioner Olli Rehn warned on Tuesday that euro zone countries may need to prepare more budget cuts, without specifying which ones. And on Wednesday, German Chancellor Angela Merkel and French President Nicolas Sarkozy urged the EU to consider a wide ban on short selling of shares and state bonds, as speculation has intensified that some European states will eventually default on their debt.
In the US, a Treasury Department report sent to Congress shows that public debt will rise to 102 percent of gross domestic product by 2015 from 93 percent this year, to $19.6 trillion. "We can't kick this can along the road forever," Scala said about the US debt problem. "If we continue to stimulate by issuing more debt or by printing, it's going to make it worse." "This debt balloon has arrived. You will ultimately see it in the US," he said in a telephone interview.
Europeans have opted for austerity while US Treasury Secretary Timothy Geithner is still on the side of stimulating growth, and some analysts are saying that now is not the time to crush the recovery with austerity measures. "At a time like this, it's way too early in this recovery especially for Europe and especially for the UK to be talking that game," Hugh Johnson, an investment strategist at Johnson Illington Advisors, told CNBC. "It's too soon to reduce (stimulus) or to eliminate it. I agree at some point you have to do something, but it's way too early," Johnson insisted.
Scala argued that the stimulus has increased the size of the public sector and that structurally the US has "huge problems", just like the euro zone. "I don't think the government stimulus can create wealth," he said. "The public sector job growth has been enormous. The government has rapidly become the employer of last resort." Raising taxes, such as capital gains and income taxes, would add revenue to the budget, but the boost would be short-lived because this would affect the private sector, according to Scala. "We have bad choices and worse choices, because we've spent way too much," he said.
An overhaul of public spending in the US is needed, as spending on the health-care program is too high, according to Scala. President Barack Obama's health-care reform law was passed by Democrats in Congress after a protracted political fight but around 20 US states are trying to overturn the reform in court, saying it will force massive new spending. Lawmakers could choose not to fund the program and it "will wither and die," Scala said.
Apart from this, the US should reduce taxes on capital gains to stimulate investment and create tax incentives for the use of natural gas, to improve the country's trade position, he said. Scala added that another reform needed to boost the economy would be bringing back accelerated depreciation on commercial property, which is experiencing its worst liquidity challenge in almost 20 years, according to the National Association of Realtors. "Right now, if you were to do that, you'd incite a lot of investors in the commercial market," he said.
Austerity is needed to cut the debt burden because the risk is that it will be financed by more debt or by printing money, which would in turn cause inflation as investors will take refuge in commodities, Scala explained. "I'm afraid we'll see inflation like in the 70s, at some point," he said. For the moment, inflation is under control because unemployment is high and commodities are sold to pay off debt, according to Scala.
He said that the euro is likely to keep falling and reach $1.05 if problems in Europe continue. "Civil unrest is the risk. I do see unions and strikes and a very nasty summer, as people are being told they are going to lose their entitlements," Scala said. His hedge fund is selling the euro on rallies and "will continue to do so until things change," he added.
Reduce Stock Holdings Immediately: Harris' Ablin
by Patti Domm - CNBC
Harris Private Bank Chief Investment Officer Jack Ablin recommends that investors immediately reduce some of their stock market exposure. Ablin said he made the call after a key momentum indicator he follows reached its "breakdown" level, when the S&P 500 fell 5 percent below its 200-day moving average to 1051. "The last time we broke it was January 2008, and we certainly broke down then," he said.
Ablin says for some investors, a reduction of 30 percent of their stock holdings is appropriate, though the amount would vary. He recommends they shift the funds to short-term investment grade bonds or cash. But unlike 2008, Ablin said sentiment and the other indicators he watches are not as weak. So instead of spinning into the grips of a bear market, he believes the stock market is still moving sideways. The last "breakdown" signal was triggered on Jan. 18, 2008, when the S&P was at 1392, before ultimately hitting a low of 676 in March 2009. "I would say you could call it a meaningful reduction," in equities positions, he said.
"I think this is a time for caution. This isn't a fool-proof system, but in this environment if we're going to be wrong, I'd rather have too many low-risk assets in a market that's going up, than the other side of having too many risky assets in a market that's dropping," said Ablin. "The other assumption is we're still in a secular sideways market. I'm assuming that we're just cycling sideways," he said.
Ablin's momentum indicator was triggered on the upside in July 2009, when the S&P 500 rose above its 200-day moving average. At the time, the S&P was at 932 and he said there were signs it was setting up for a big move higher. Over the last 10 years, the momentum indicator signaled important turning points for the market, Ablin says. Prior to the January 2008 move, the S&P also broke down in November 2000, nearly 40 percent above its 2002 trough and 30 percent above its May 2003 "breakout" level.
Ablin also watches the economy, valuations, sentiment and liquidity. "If we strip away momentum, and look at my four other factors, it isn't like I have a compelling reason to own stocks anyway. Valuations are reasonable. It may be at fair value. The economic backdrop seems to be disappointing," he said. In terms of liquidity, "the cash stockpile is pretty good." He said that money supply isn't keeping pace because the banking system is not lending.
"We still have a very steep yield curve...I would be much more optimistic on the economy if I knew we weren't spending $1.6 trillion more than we're taking in," he said. Ablin also watches investor sentiment. "If you're in a market where investors are somewhere between skeptical and nervous, then this isn't capitulation. Investors are not panicking," he said. "For anyone looking for an extreme in investor behavior, an extreme in investor sentiment, we're not there yet," he said.
U.S. Stocks Face a World of Worries
by David Bogoslaw - Bloomberg Business Week
Two and a half years ago, before the U.S. subprime crisis went viral, many economists and market strategists were hopeful that the rest of the world would be sufficiently strong to withstand U.S. credit woes. Now that the shoe is on the other foot, with Europe's sovereign credit problems rattling markets around the globe, today's talk of the "decoupling" of world economies may prove just as foolish.
The U.S. stock market has been under severe pressure since late April, when doubts about the efficacy of a European rescue for Greece's sovereign debt crisis surfaced, but on June 4, the Standard & Poor's 500-stock index dropped 3.4 percent in response to a dismal May jobs report and words from a Hungarian government official that talk of a debt default for that nation "was not an exaggeration." A second-straight month of improvement in German factory orders, thanks to a greatly weakened euro, was reported on June 7, briefly sparking optimism in European and U.S. markets. By the close of trading, U.S. stock indices had all turned negative again: The S&P 500 suffered its worst two-day loss since March 2009.
Bruce McCain, chief market strategist at Key Private Bank in Cleveland, views the elevated volatility and 167-point loss in the S&P 500 index over the past six weeks as a short-term correction, a process that may yet inspire further conviction among investors that the bull market is sustainable. "We haven't seen market or economic evidence to [confirm] that the global expansion or global rallies are over and we're headed into a new bear market," he says. "If we solve some of the longer-term problems, there could be a continuation of the rally that began last year". If some of the problems develop to the point where they pose a threat to global growth, "we could get a failed rally that isn't very strong and [takes the market] lower and perhaps breaches [prior] lows," McCain says.
Markets Now Face U.s. Growth Problem
That's precisely the scenario that Gerry Jordan, manager of the $90 million Jordan Opportunity Fund, anticipates. Earlier this year there was a lot of optimism about growth in U.S. gross domestic product returning to levels above 4 percent. With the strength of exports in doubt, amid a 7.8 percent gain in the U.S. Dollar Index and news of slowing growth in Europe and China, the forecast for the second half of 2010 is much less rosy, he says.
Earlier this year, "people had been talking about how strong the [U.S.] economy is. That's over. It ended with [the debt crisis in] Greece in January or February, but everyone ignored it," says Jordan. "What's finally started to leach into people's [consciousness]—and the May jobs number cemented it because it was godawful—is that it's no longer just a European problem or a China-slowing-down problem. Now it's a U.S.-wasn't-as-good-as-we-thought-it-was problem." He says he thinks "economic growth rates for this year and next year have to be taken down meaningfully."
Jordan predicts that Europe will be back in recession by the second half of this year, or the first part of 2011 at the latest, as austerity programs implemented by governments in the euro zone impose a drag on those economies. He says he's stunned by arguments that the U.S. can decouple from economic ills in the rest of the world, given how intertwined the world's economies are at a fundamental level. "Europe is 30 [percent] to 40 percent of global GDP. If Europe goes into recession, you have to take a haircut to your global GDP estimates, and if European sales account for 30 [percent] to 40 percent of U.S. companies' revenue, you have to take a haircut to U.S. earnings estimates."
Jordan says he's eliminated small-caps from his portfolio and has pared his midcap exposure to from 10 percent to 15 percent, from the portfolio's prior 20 percent to 30 percent. Megacaps such as Coca Cola, General Mills, and Microsoft are by far the biggest part of his portfolio because they are generating so much revenue that it will be hard to derail their earnings, he says. "With the local economies slowing down, smaller companies will have a harder time making their way through," says Jordan. To attract investors, companies "have to have [low-leverage] or debt-free balance sheets." High-quality stocks, which trailed smaller, more speculative issues in the 2009 stock market advance, will regain favor, he says.
Where's The Drop In European Orders?
Jordan sees the negative currency-translation effect that is expected to result from a dramatically weakened euro as "a bookkeeping problem" that ultimately will be less important than a sharp decline in sales volumes resulting from decreased purchasing power in Europe. So far, however, there's scant evidence that orders from, and shipments to, Europe are down, says Hank Herrmann, chief executive officer of investment firm Waddell & Reed in Overlook Park, Kan.
The U.S. stock market seems to be acting more negatively than the underlying business fundamentals, says Herrmann, which makes him think the current decline will turn out to be a near-term correction, rather than the start of a bear market. Still, the S&P 500 index now looks quite cheap, he says, trading at 12.5 times his adjusted view of the consensus estimate for 2011 earnings among Wall Street strategists, especially given how low interest rates are. The trend is still lower, with breaches of some significant support levels on technical charts a cause for concern, he adds. "At minimum, it looks like it's going to have to go through some stabilization phase that's not showing much evidence of being in place yet," Herrmann says.
Despite improved corporate earnings, stabilizing housing prices, and a stabilizing unemployment rate in the U.S., it's not surprising that investor confidence was shaken lately, given the absence of a clear upward path in the macroeconomic data, says Steven Wood, chief market strategist at Russell Investments. "It's been a concentrated economic recovery in terms of time, rather short and rather brisk. It's not like this tide is going to lift all boats," he says.
Inventories Still Must Rebuild
Herrmann is increasingly wary of the government's jobs data, citing discrepancies between the surprisingly weak May numbers and what top managers of U.S. companies are telling people at Waddell. Business activity at agencies that assign temporary workers also suggests that there's much more hiring going on than the data reflects. While Herrmann says he's careful not to put too much stock in anecdotal evidence, the reports ring true for him because he doesn't believe that the inventory-rebuilding cycle has played out yet. "It looks like inventories would be contributing on a materially positive basis over the next couple of quarters," he says. "Our economy is doing just fine, thank you…. It's not strong enough to create 300,000 new jobs on a monthly basis, but it looks pretty good and self-sustaining."
Jack Bauer, managing director of fixed income at Manning & Napier, sees less reason to question how sustainable the recovery is and more of a need to reassess its pace. The outlook for three of the four main sources of economic growth isn't good, he says. Consumers will be constrained by their need to pay down debt and by the weak job market, decreased state and local government spending is offsetting greater federal spending, and U.S. exports are falling because the dollar strengthened. That leaves business spending as the only intact growth vehicle.
Even with earnings up and companies needing to invest in new equipment after postponing spending in recent years, "when you only have one of four cylinders [firing], it's tough to see growth as being all that impressive," he says. Bauer predicts 2 percent to 3 percent real GDP growth in 2010, with no reason for concern over consumer price inflation of 1 percent. The Chinese government's efforts to pull liquidity from the financial system since January may be putting the brakes on that country's economy faster than Beijing intended, says Key's McCain. China is so big that any sharp slowdown there could spread, weakening commodity prices as well as the economies of such Asian neighbors as Australia, which exports a lot of raw materials to China.
Time For Active Asset Management?
McCain notes that nickel prices seem to be having difficulty putting in a bottom, which suggests lack of investor confidence in China's ability to control the pace of its slowdown. Herrmann at Waddell believes recognition of China's slower growth is simply scaring financial speculators away from commodities now that they realize how much more expensive the cost of carrying large inventories will be.
With equity valuations 10 percent to 15 percent lower than they were five weeks ago, Wood considers this a good time for investors to selectively reposition their investment portfolios, moving some money from cash and Treasury bonds into riskier assets such as stocks. He also thinks the current environment argues for active asset management because index funds will have a hard time doing well.
Equity-focused investors will need some help from a moderating U.S. dollar. For now, it remains possible to view the dollar's gains as a technical rebound extended by Europe's currency crisis, says McCain. Investors are still willing to take a bit of risk, and some of the money pouring out of Europe could be lending strength to small caps, he says. If the dollar maintains its strength for the rest of this year, however, it would be suggesting a weaker global economy—and a resultant flight to safer assets by investors. That would not be good news for small-cap stocks. The contribution of consumer spending to this recovery has been only 60 percent of the average in previous recoveries, says McCain. If U.S. exports falter, "it's hard to imagine we wouldn't feel that effect with slowing growth here as well … [we're] all in the same kind of basic boat."
The market will maintain its laser-like focus on weekly jobless claims data, which haven't budged much from the 450,000 level, says Craig Peckham, equity product strategist at Jefferies & Co.. "If we see that number contract, it will make people feel more optimistic about the overall employment picture," he says. The fact that U.S. companies will start to report second-quarter results in a little over a month may limit the downside for equities, he says. Any improvement in attitude and overall tone from U.S. companies might be enough to buoy investor sentiment, which is "very poor," he adds.
Bernanke Warns Congress Not To Cut Spending, Cautions About 'Fragile' Recovery
by Shahien Nasiripour - Huffington Post
While the conventional wisdom in Washington appears to focus largely on the need to lower the federal government's budget deficit, rather than on reducing the nation's nearly 10 percent unemployment rate, Federal Reserve Chairman Ben Bernanke sent a subtle message Wednesday to lawmakers: now's not the time. "Right now I don't think is the time -- this very moment is not the time -- to radically reduce our spending or raise our taxes because the economy is still in recovery mode and needs that support," Bernanke testified before the House Budget Committee. Bernanke referred to the nascent economic recovery as "still pretty fragile" and cautioned that the economy "may need more assistance."
Though the nation's output is growing, jobs are still scarce; nearly eight million jobs have been lost as a result of the worst financial crisis since the Great Depression. Since January the private sector has created about 480,000 jobs, Labor Department data show. At that rate, the economy won't return to its pre-recession employment level of about 115.6 million jobs until about 2016. The lack of jobs accompanying the ascent out of the "Great Recession" has led economists and commentators such as regional Federal Reserve Bank presidents to term this a "jobless recovery."
Others, while not making that claim outright, worry that's what the recovery will end up being unless current stimulative measures -- such as the Fed's policy of a near-zero main interest rate -- continue. The Fed is "doing its part," Bernanke said of the central bank's "supportive monetary policy." The main interest rate stood at 0.20 percent in May, Fed data show. The nation's central banker added that government's fiscal policy, like the nearly $800 billion stimulus bill passed last year, "is helping" and that it's "needed."
Congressional Republicans have focused on reducing the federal government's budget deficit rather than on taxpayer-financed job creation efforts; Democrats have begun to follow. Bernanke, however, pushed back against House Republicans' claims that the stimulus, pushed by the Obama administration, didn't bolster the economy. He said it "did increase growth" and "add to job creation." But the economy's slow recovery has been a "disappointment," Bernanke said. He added that there wouldn't be a "V-shaped recovery," a term to describe a rapid economic expansion following a downturn.
Despite the slow recovery and potential need for additional stimulus, though, Bernanke warned Congress to develop a credible plan to deal with the government's budget deficits. Obama's 2011 budget forecasts a $1.6 trillion hole, or about 10.6 percent of the nation's total output, a post-World War II high. Bernanke said ongoing deficits of that size aren't sustainable, and called on Congress to create a plan in the "medium term" to bring deficits to a more manageable level. Economists say deficits of about 3 percent of total GDP are sustainable.
The plan, he said, needs to have the confidence of the markets. If it has that, "I think we'll be okay," Bernanke said. But if investors in U.S. debt don't find the plan "plausible," the nation faces a risk of a "potential loss of confidence" by investors. A loss of confidence could entail investors demanding higher rates of return in order to buy Treasuries, which would drive up the government's borrowing costs. Funds for government programs would instead be diverted to bondholders.
Investors are demanding about 3.3 percent interest from the U.S. government in order to buy 10-year Treasury bonds, a level near historic lows. Ten years ago, investors demanded double that rate. But it's important to note that Bernanke didn't say Congress needs to cut spending now; he simply said Congress needs to begin developing a plan in the "medium term" to bring down the government's budget deficit. In response to a question about whether Congress should focus on job creation (which would entail more spending) or reducing the deficit, Bernanke said it needs to do both.
Congress needs to "show" that it's "serious" about the deficit, he said. Meanwhile, the muscular jobs bill that progressive groups, unions, and labor economists clamor for has yet to materialize. The private sector created 20,000 jobs last month. Nearly 15 million unemployed workers continue to look for work.
U.S. Faces 'Severe' AIG Losses, Says Elizabeth Warren's Congressional Oversight Panel
by Serena Ng - Wall Street Journal
A watchdog panel reviewing the bailout of American International Group Inc. said U.S. taxpayers "remain at risk for severe losses" and that the government didn't act aggressively enough to protect U.S. taxpayers during the 2008 rescue. In a lengthy report, the bipartisan Congressional Oversight Panel concluded that the U.S. government, which owns nearly 80% of the insurance giant, is likely to "remain a significant shareholder in AIG through 2012" and it is unclear if taxpayers "will ever be repaid in full."
The report contrasted with more optimistic comments Wednesday by Federal Reserve Chairman Ben Bernanke before a U.S. House panel. Mr. Bernanke said that every major financial institution receiving government aid at the height of the financial crisis has repaid taxpayers with interest and dividends, and AIG is not expected to be any different. "AIG, I believe, will repay," he said. Since September 2008, the Federal Reserve Bank of New York and the Treasury Department have committed up to $182.3 billion to support AIG and provided roughly $132 billion of those funds so far. AIG is on the hook to repay about $101 billion mainly through asset sales and stock sales, and the rest is to be recouped from mortgage securities the New York Fed took onto its balance sheet.
The oversight panel's report noted that, while the rescue of AIG helped the financial system avert collapse, the government "failed to exhaust all options" before committing taxpayer funds to AIG. The panel argued that the government could have done more to organize a rescue effort involving private-sector funds or concessions from other financial institutions, which ended up being beneficiaries of the AIG bailout. It also said a controversial decision by the New York Fed in late 2008 to pay off AIG's trading partners in full on $62 billion in soured mortgage trades "distorted the marketplace" and protected AIG creditors at the expense of taxpayers.
"Billions of taxpayer dollars were put at risk, a marketplace was forever changed, and the confidence of the American people was badly shaken," the report said. The panel, which oversees the government's financial-bailout program, is chaired by Elizabeth Warren, a Harvard Law School professor. In a statement, Treasury spokesman Andrew Williams said the government had "only hours" to make critical decisions in September 2008 and noted that "Treasury has spent more time in meetings with [the panel] answering questions about the decisions made." He added that the panel's suggested alternatives overlook the fact that "the global economy was on the brink of collapse" at the time.
A Fed spokesman said the central bank believes the actions it took to rescue AIG in September 2008 were necessary and disagrees with "the view that there were any better alternatives that were workable in the extreme circumstances of the time. It added that policymakers need "much better tools for dealing with such situations in the future." The report, which spanned more than 300 pages, is being released about two weeks after the panel held a full-day hearing on AIG. At that hearing, AIG's chief executive Robert Benmosche said he was confident taxpayers would get their money back "plus a profit."
Days later, an AIG plan to sell its biggest Asian life insurance business to British insurer Prudential PLC for $35.5 billion was canceled, a setback to AIG's efforts to repay taxpayers. On June 2, Treasury's chief restructuring officer Jim Millstein told the panel that AIG should be able "to realize value equivalent to the $35.5 billion" price through an alternate strategy that could include an initial public offering of the overseas unit, the report said. It added that, at that meeting, Mr. Millstein also acknowledged that AIG needs to map out an updated strategy in the coming months to repay the government.
The panel said the government's exit strategy—which involves selling off its stake in AIG—is subject to substantial market risk and depends on AIG's ability to rebuild a sustainable business in the coming years. If markets or AIG's performance worsen significantly, Treasury could opt to pursue "a more aggressive break-up strategy and/or strategic bankruptcies of certain business lines," the report says.
Ms. Warren on Wednesday said the panel didn't view the Prudential deal failure as "a significant indicator of taxpayer repayment. That [depends] much more on how AIG's insurance business performs," said Ms. Warren, adding that drawing up a tight repayment timeline for AIG could be counterproduc tive. "We don't want to limit the company's ability to make money—we want a profit on behalf of the American taxpayer." An AIG spokesman reiterated earlier comments made by its CEO to the panel, saying that "we are well on our way to remaking AIG into a more streamlined and focused company" that is committed to repaying taxpayers and strengthening its units.
The panel's report also highlighted the overlapping roles of various parties that were involved the AIG bailout. It noted that people from a small group of law firms, investment banks and regulators sometimes represented conflicting interests. For example, lawyers representing a group of banks that had considered providing a rescue package to AIG ended up becoming lawyers to the Fed, while banks that were potential rescuers became the main beneficiaries of the bailout. "These entanglements created the perception that the government was quietly helping banking insiders," the report said.
The panel added, however, that after reviewing scores of documents, it found "no evidence of any...concerted effort" by regulators or government officials to orchestrate the AIG bailout to specifically benefit firms that the regulators previously worked at—a tacit acknowledgment of controversy surrounding AIG's relationship with Goldman Sachs Group Inc.
Banks in 'Downward Spiral' Buying Capital in CDOs
by Yalman Onaran and Jody Shenn - Bloomberg
U.S. banks are fighting to preserve the use of securities that help them appear better capitalized, even as their investments in each others’ notes perpetuate what one regulator calls a "downward spiral" of losses. The cross-ownership, largely unnoticed by bank supervisors who generally discourage the practice, was made possible by a Wall Street innovation like the ones that allowed subprime mortgages to flourish. Small lenders, such as Riverside National Bank of Florida, were able to sell trust-preferred securities, known as TruPS, because investment bankers packaged them with those issued by dozens of other financial institutions.
Riverside, which started in a trailer in 1982, bought collateralized debt obligations made up of TruPS as it grew to 65 branches and $4.8 billion assets. When real estate soured and lenders racked up loan losses, Riverside and about 400 of its peers suspended interest payments on their TruPS, causing the CDOs to default or lose value and inflicting more harm on an industry suffering from the worst economy since the 1930s. "The industry was self-financing, using loopholes in rules," said Joseph Mason, a professor of finance at Louisiana State University in Baton Rouge. "Regulators weren’t keeping track of ownership of the capital, which became more difficult to do with the use of CDOs. The losses fed on each other."
Riverside, based in Fort Pierce, Florida, was one of almost 1,400 U.S. lenders that had issued $149 billion of trust preferreds by the end of 2008, according to the Federal Reserve Bank of Philadelphia. About $45 billion of CDOs filled with such TruPS were created by the time the market for securitized debt shut down that year, according to PF2 Securities Evaluations, a New York-based company that helps banks and funds evaluate CDOs.
Congress may end the use of TruPS as capital, forcing banks that issued them to replenish their coffers. Banks are lobbying to remove a provision barring their use that was introduced by Maine Republican Susan Collins and included in the financial reform bill passed by the Senate last month. The Senate version is being reconciled with one passed by the House of Representatives in December that doesn’t include a ban. "We’re still working to try to minimize the damage the amendment would do to bank-holding company capital," said Mark Tenhundfeld, executive vice president of the American Bankers Association, which predicts the rule could force banks to raise as much as $130 billion of new capital or curtail lending.
Collins said today lawmakers may have to grandfather existing TruPS or implement the ban over time. "Clearly we need some sort of phase-in," she told reporters. Lobbyists for the Independent Community Bankers of America, a Washington-based group representing about 5,000 smaller lenders, have met with key lawmakers in recent weeks to discuss the capital issue. If the Collins provision survives, it will come too late to undo the damage caused to Riverside, which was shut by the Federal Deposit Insurance Corp. on April 16. The bank has sued the firms that sold the TruPS CDOs for not disclosing that they were marketed to other lenders and the rating firms for overstating the creditworthiness of the securities.
TruPS are securities issued after a bank-holding company sells debt to an off-balance-sheet trust, which then sells the notes. They’re considered a type of capital for regulatory purposes because they rank between common stock and senior debt in a bankruptcy. The notes allow a bank to defer making interest payments for up to five consecutive years. Unlike other types of preferred stock, they have fixed maturities, and missed dividends must be paid later. For tax purposes, they count as debt, and the interest paid out can be deducted like other interest expenses.
CDOs that bundled TruPS are similar to other complex products designed by Wall Street banks that pooled assets such as mortgage bonds and loans used in leveraged buyouts into new securities, with varying risks and ratings. CDOs were among the largest sources of the $1.8 trillion of losses suffered by the world’s biggest financial companies that required governments worldwide to bail out banks with taxpayer funds. While TruPS have been around since the 1980s, they gained wider acceptance when the Federal Reserve, which regulates bank- holding companies, allowed them to be treated as Tier 1 capital in 1996.
The Office of the Comptroller of the Currency, which oversees bank subsidiaries of holding companies, wasn’t happy with the rule change and never implemented it, according to three officials with knowledge of the discussions. As a result, it was Riverside’s parent company, Riverside Banking Co., which issued the trust preferreds. The FDIC has also objected to TruPS as being too weak for capital purposes, according to George French, the agency’s deputy director for policy in the division of supervision and consumer protection. The agency’s chairman, Sheila Bair, expressed support for the Collins amendment in a letter she sent the senator on May 7, the day it was introduced.
The agency’s view was confirmed during the financial crisis, French said. Banks couldn’t use their TruPS as capital because deferring the dividends would have been seen as weakness, which could have led to bank runs. When payments were deferred, they caused losses for the TruPS held by other banks. "It contributes to a downward spiral," French said. Proposals by the Basel Committee on Banking Supervision, which brings together regulators and central bankers of 27 countries, would also eliminate TruPS for use as capital. When TruPS were first introduced, only the largest U.S. banks, such as Citigroup Inc. and Bank of America Corp., could issue them. Smaller banks couldn’t sell in sizes large enough to attract investors, and fixed legal and other costs ate into the value of smaller deals for issuers.
A team at Citigroup led by Josh Siegel helped change that by coming up with the idea of pooling TruPS into CDOs and creating the first deal in 2000, convincing rating firms and investors that a diverse pool of banks across the country meant a slice of the debt could be rated AAA. First Horizon National Corp., based in Memphis, Tennessee, and KBW Inc. in New York, two investment banks that had better relationships with community lenders, followed jointly a few months later.
The introduction of CDOs helped the market explode. Almost 250 of the 459 banks whose shares were listed on major exchanges in 2002 had sold trust-preferred securities, up from about 100 in 1999, according to SNL Financial, a Charlottesville, Virginia-based financial information and research provider. It also wreaked havoc on the banking sector. The pileup of TruPS on banks’ balance sheets went unnoticed by regulators since they were grouped with other investment-grade debt, according to three banking supervisors who asked not to be identified. Only last June were banks required to disclose their holdings of TruPS CDO in regulatory filings. They still don’t have to report purchases of non-pooled TruPS.
"There wasn’t enough oversight of the systemic risks that the banks’ ownership of these securities could create," said Mark Williams, a former Fed examiner who teaches finance at Boston University. Enabling smaller banks to sell TruPS provided them with funds they used to expand into construction lending, commercial mortgages and home-equity debt, fueling a real estate bubble that burst in 2007.
"It was an extremely cheap way for the smaller banks to raise capital," said Jeffrey Caughron, an associate partner in Oklahoma City at Baker Group Ltd., which advises community banks investing $20 billion of assets. "The securitization process and the demand created by securitization, created an environment where trust-preferred issuance became very cheap." Banks also were "enticed" by the CDOs’ higher yields, Caughron said. One investment-grade TruPS CDO slice sold in December 2006 offered yields that floated 2.70 percentage points above the three-month London interbank offered rate, a borrowing benchmark, Bloomberg data show.
TruPS CDOs helped banks get around restrictions on owning equity stakes in each other. Regulations force banks to deduct from their capital the full amount of any equity holdings in other banks. Trust preferreds, since they are considered debt instruments, carry a much smaller capital charge, similar to that associated with corporate debt. The ownership of TruPS CDOs, if rated investment grade, carried even less capital cost, since securitized debt is deemed to be safer.
If a bank bought $100 of Citigroup shares, it would have to hold $100 of capital against that asset. The purchase of $100 in Citigroup TruPS would require only $8 of capital. For $100 of AAA rated CDOs that pool bank TruPS, the amount of regulatory capital to be set aside declines to $1.60. When the credit crisis hit and banks suspended payments on their TruPS to conserve cash, the value of the securities dropped, leading to losses for the holders. Zions Bancorporation, a Salt Lake City-based lender, saw its $2 billion investment in trust preferreds of other financial institutions decline by a third in value, according to regulatory filings.
John L. Skibski, chief financial officer of Monroe, Michigan-based MBT Financial Corp., the parent of Monroe Bank & Trust, bought about $20 million of TruPS CDOs, most of them before 2006. They have been marked down by about half since. "I did read through the offering statements, and thought I understood all the details on how they worked and felt that because it was the banking industry they would be good," Skibski said. "In hindsight, in seeing how the industry has gone down, I would not have bought them."
Skibski’s bank, which started in 1858, didn’t invest in other securitized debt or sell TruPS. Owning CDOs that pooled trust preferreds had another negative outcome. The suspended payments by issuers caused CDOs to be downgraded by rating firms. When the rating dropped below investment grade, as dozens of them did, the banks’ capital charges against the CDOs could multiply by 60 times.
The CDOs made it difficult for banks to negotiate with holders of their TruPS to convert them into common stock, which would have been the best way to use them as capital without being stigmatized for deferring payments. While investors in higher-rated tranches of a CDO may benefit from a conversion, holders of lower-rated slices wouldn’t, preventing an agreement, according to Andrew Silverstein, a partner at Seward & Kissel LLP law firm in New York who has worked on such deals.
More than 13 percent of TruPS within CDOs had defaulted as of April, with payments suspended on an additional 17 percent, according to Fitch Ratings. Riverside’s default on $99 million of TruPS in 10 CDOs was the largest since December, according to a report by the New York-based rating firm. The bank had halted payments in October 2008. The bank bought $211 million of TruPS CDOs, according to its lawsuit. "When the buyers and the sellers are the same, they start hurting each other," said Joel Laitman, a New York-based partner at law firm Cohen Milstein Sellers & Toll PLLC who is representing Riverside in its lawsuit.
The case, filed in New York State Supreme Court in November, was brought against the firms that sold CDOs to Riverside, including First Horizon, KBW, Citigroup, JPMorgan Chase & Co., Credit Suisse Group AG and Merrill Lynch & Co. It also named rating firms Moody’s Investors Service, Standard & Poor’s and Fitch. The FDIC was added as a plaintiff on June 3, the same day the case was moved to federal court.
In a motion to dismiss the case, the investment banks denied that they made any misleading statements and said that Riverside was a sophisticated institutional investor that should have done its homework. A separate motion by the rating firms said Riverside had failed to identify any statement by them that could be considered fraudulent. Both motions are pending. "Regional and small banks weren’t aware that these CDOs were being marketed to other banks," said Laitman. "This created a negative loop. Investment banks selling this stuff were the only ones who knew about this." Vernon D. Smith, Riverside’s founder and head until retiring in 2009, who has also owned a cattle ranch, citrus groves, radio stations and a weekly newspaper in Florida, didn’t return telephone messages left at his house.
TruPS CDOs are also at the heart of a series of lawsuits brought by the liquidation trustee for Northbrook, Illinois- based Sentinel Management Group Inc., a cash-management firm that collapsed in 2007. The trustee sued First Horizon, KBW and Cohen & Co., a Philadelphia-based securities firm affiliated with a family involved in almost half of such CDOs, saying their bankers bribed a Sentinel employee with Super Bowl tickets, strip-club visits and dinners at restaurants such as Tao in New York to get him to buy risky low-ranking slices of the CDOs.
In March, First Horizon said the Securities and Exchange Commission told it the agency might file a lawsuit against the bank over a transaction with Sentinel. Jack Bradley, a spokesman for First Horizon, Krista Eccleston, a spokeswoman for KBW, and Megan Livewell, a spokeswoman for Cohen, declined to comment. In legal responses in the cases, the three companies denied they engaged in wrongdoing and disputed some facts. The trustee also says that the banks arranged to buy back some of the older CDOs from Sentinel as they sold it new ones. The arrangement may have helped get deals done because investors in new CDOs often want to know that the junior-most pieces, also called equity, will be sold, said Howard Hill, a former Babson Capital Management LLC money manager who helped start securitization-related departments at four banks.
"When you go out on the roadshow, a question that very often comes up from potential bondholders is, ‘Have you sold the equity,’" he said. Investment bankers may have used relationships developed helping lenders issue TruPS to persuade them to buy related CDOs, said Joshua Rosner, an analyst at Graham Fisher & Co., an independent New York-based research firm, and co-author of a May 2007 report that said a collapse of mortgage-bond CDOs would roil markets. "When they didn’t find enough natural demand among only institutional investors, they could turn around and sell back to the very banks that had issued into the last one, or would be selling into the next one," Rosner said. "It created a big Ponzi scheme."
Too many banks ended up buying the mezzanine tranches of the CDOs, which went bust faster than the highest-rated ones, according to Siegel, who left Citigroup to co-found New York- based StoneCastle Partners LLC, which manages about $3.1 billion, including TruPS CDOs. He said he didn’t realize that was happening as the market grew and was "shocked" at disclosures about what banks had bought. "Smaller banks should not have been buying any kind of structured paper" except for simple government-guaranteed mortgage securities, Siegel said. "Unfortunately, too much of this paper has landed back at banks, which really wasn’t what should have happened."
Big Risk: $1.2 Quadrillion Derivatives Market Dwarfs World GDP
by Peter Cohan - Daily Finance
One of the biggest risks to the world's financial health is the $1.2 quadrillion derivatives market. It's complex, it's unregulated, and it ought to be of concern to world leaders that its notional value is 20 times the size of the world economy. But traders rule the roost -- and as much as risk managers and regulators might want to limit that risk, they lack the power or knowledge to do so.
A quadrillion is a big number: 1,000 times a trillion. Yet according to one of the world's leading derivatives experts, Paul Wilmott, who holds a doctorate in applied mathematics from Oxford University (and whose speaking voice sounds eerily like John Lennon's), $1.2 quadrillion is the so-called notional value of the worldwide derivatives market. To put that in perspective, the world's annual gross domestic product is between $50 trillion and $60 trillion.
To understand the concept of "notional value," it's useful to have an example. Let's say you borrow $1 million to buy an apartment and the interest rate on that loan gets reset every six months. Meanwhile, you turn around and rent that apartment out at a monthly fixed rate. If all your expenses including interest are less than the rent, you make money. But if the interest and expenses get bigger than the rent, you lose. You might be able to hedge this risk of a spike in interest rates by swapping that variable rate of interest for a fixed one. To do that you'd need to find a counterparty who has an asset with a fixed rate of return who believed that interest rates were going to fall and was willing to swap his fixed rate for your variable one.
The actual cash amount of the interest rates swaps might be 1% of the $1 million debt, while that $1 million is the "notional" amount. Applying that same 1% to the $1.2 quadrillion derivatives market would leave a cash amount of the derivatives market of $12 trillion -- far smaller, but still 20% of the world economy.
Getting a Handle on Derivatives Risk
How big is the risk to the world economy from these derivatives? According to Wilmott, it's impossible to know unless you understand the details of the derivatives contracts. But since they're unregulated and likely to remain so, it is hard to gauge the risk.
But Wilmott gives an example of an over-the-counter "customized" derivative that could be very risky indeed, and could also put its practitioners in a position of what he called "moral hazard." Suppose Bank 1 (B1) and Bank 2 (B2) decide to hedge against the risk that Bank 3 (B3) and Bank 4 (B4) might fail to repay their debt to B1 and B2. To guard against that, B1 and B2 might hedge the risk through derivatives.
In so doing, B1 and B2 might buy a credit default swap (CDS) on B3 and B4 debt. The CDS would pay B1 and B2 if B3 and B4 failed to repay their loan. B1 and B2 might also bet on the decline in shares of B3 and B4 through a short sale.
At that point, any action that B1 and B2 might take to boost the odds that B3 and B4 might default would increase the value of their derivatives. That possibility might tempt B1 and B2 to take actions that would boost the odds of failure for B3 and B4. As I wrote back in September 2008 on DailyFinance's sister site, BloggingStocks, this kind of behavior -- in which hedge funds pulled their money out of banks whose stock they were shorting -- may have contributed to the failures of Bear Stearns and Lehman Brothers. It's also the sort of conduct that makes it extremely difficult to estimate the risk of the derivatives market.
How Positive Feedback Loops Crash Markets
Another kind of market conduct that makes markets volatile is what Wilmott calls positive and negative feedback loops. These relatively bland-sounding terms mask some really scary behavior for investors who are not clued into it. Wilmott argues that a positive feedback loop contributed to the 22.6% crash in the Dow back in October 1987.
In the 1980s, a firm run by some former academics came up with the idea of portfolio insurance. Their idea was that if investors are worried about their assets losing value, they can buy puts -- the option to sell their investments at pre-determined prices. They can sell everything -- which would be embarrassing if the market then started to rise -- or they could sell a fixed proportion of their portfolio depending on the percentage decline in a particular stock market index.
This latter idea is portfolio insurance. If the Dow, for example, fell 3%; it might suggest that investors should sell 20% of their portfolio. And if the Dow fell 20%, it would indicate that investors should sell 100% of their portfolio. That positive feedback loop -- in which a stock price decline leads to more selling -- boosts market volatility. Portfolio insurance causes more investors to sell as the market declines by, say 3%, which causes an even deeper plunge in the value of investors' holdings. And that deeper decline leads to more selling. Before you know it, many investors are selling everything.
The portfolio insurance firm started off with $5 billion, but as its reputation spread, it ended up managing $50 billion. In 1987, that was a lot of money. So when that positive feedback loop got going, it took the Dow down 22.6% in a day. The big problem back then was the absence of a sufficient number of traders using a negative feedback loop strategy. With a negative feedback loop, a trader would sell stocks as they rose and buy them as they declined. With a negative feedback loop strategy, volatility would be far lower.
Unfortunately, data on how much money has been going into negative and positive feedback loop strategies is not available. Therefore, it's hard to know how the positive feedback loops have gained such a hold on the market. But it is not hard to imagine that if a particular investor made huge amounts of money following a positive feedback loop strategy, other investors would hear about it and copy it. Moreover, the way traders get compensated suggests that it's better for them to take more and more risk to replicate what their peers are doing.
Traders Make More Money By Following the Pack
There is a clear economic incentive for traders to follow what their peers are doing. According to Wilmott, to understand why, it helps to imagine a simplified example of a trading floor. Picture yourself as a new college graduate joining a bank's trading floor with 100 traders. Those 100 traders each trade $10 million: They "win" if a coin toss lands on heads and "lose" if it lands on tails. But now imagine you've come up with a magic coin that has a 75% chance of landing on heads -- you can make a better bet than the other 100 traders with their 50-50 coin.
You might think that the best strategy for you would be to bet your $10 million on that magic coin. But you'd be wrong. According to Wilmott, if the magic coin lands on a head but the other 100 traders flip tails, the bank loses $1 billion while you get a relatively paltry $10 million. The best possible outcome for you is a 37.5% chance that everyone makes money (the 75% chance of you tossing heads multiplied by the 50% chance of the other traders getting a head). If instead, you use the same coin as everyone else on the floor, the probability of everyone getting a bonus rises to 50%.
When Traders Say 'Jump,' Risk Managers Ask 'How High?'
Traders are a huge source of profit on Wall Street these days and they have an incentive to bet together and to bet big. According to Wilmott, traders get a bonus based on the one-year profits of those on their trading floor. If the trading floor makes big money, all the traders get a big bonus. And if it loses money, they get no bonus -- but at least they don't have to repay their capital providers for the losses.
Given that bonus structure, a trader is always better off risking $1 billion than $1 million. So if the trader, who is the king of the hill at the bank, asks a lowly risk manager to analyze how much risk the trader is taking, that risk manager is on the spot. If the risk manager comes back with a risk level that limits how big a bet the trader can take, the trader will demand that the risk manager recalculate the risk level lower so the trader can take the bigger bet.
Traders also manipulate their bonuses by assuming the existence of trading profits before they are actually realized. This happens when traders get involved with derivatives that will not unwind for 20 years.
Although the profits or losses on that trade have not been realized at the end of the first year, the bank will make an assumption about whether that trade made or lost money each year. Given the power traders wield, they can make the number come out positive so they can receive a hefty bonus -- even though it is too early to tell what the real outcome of the trade will be.
How Trader Incentives Caused the CDO Bubble
Wilmott imagines that this greater incentive to follow the pack is what happened when many traders were piling into collateralized debt obligations. In Wilmott's view, CDO risk managers who had analyzed a future scenario in which housing prices fell and interest rates rose would have concluded that the CDOs would become worthless under that scenario. He imagines that when notified of that possible outcome, CDO traders would have demanded that the risk managers shred that nasty scenario so they could keep trading more CDOs.
Incidentally, the traders who profited by going against the CDO crowd were lone wolves whose compensation did not depend on following the trading floor pack. This reinforces the idea that big bank compensation policies drive dangerous behavior that boosts market volatility.
What You Don't Understand, You Can't Properly Regulate
Wilmott believes that derivatives represent a risk of unknown proportions. But unless there is a change to trader compensation policies -- one which would force traders to put their compensation at risk for the life of the derivative -- then this risk could remain difficult to manage.
Unfortunately, he thinks that regulators aren't in a good position to assess the risks of derivatives because they don't understand them. Wilmott offers training in risk management. While traders and risk managers at banks and hedge funds have taken his course, regulators so far have not. And if regulators don't understand the risks in derivatives, chances are great that Congress does not understand them either.
Ambac Warns of Default as Bondholders Organize
Ambac Financial Group, the bond insurer whose toxic assets were seized by Wisconsin state regulators in March, said it could default on its loan obligations and was still considering filing a prepackaged bankruptcy. The company, which has had trouble writing new business since losing its 'AAA' credit rating in 2008, said in a U.S. Securities and Exchange Commission filing on Tuesday that "as early as the second quarter of 2010" it may decide not to make interest payments on its debt, which could result in a default.
Holders of some of Ambac Financial Group's $1.24 billion senior debt, have formed an ad hoc committee and will try to push the company into a prepackaged bankruptcy, people familiar with the matter told Reuters. Ambac shares fell as much as 16 percent in extended trading following the news. The bondholders' committee, which includes hedge funds Centerbridge Partners, Halcyon Capital Management, Mangrove Partners and Camden Asset Management, is looking to use a prepackaged bankruptcy to exchange their debt for equity in the company, the sources said. The sources declined to be named because the details are not public.
Such a swap could give the bondholders significant stock ownership of a reorganized Ambac and likely wipe out current equity, these people said. Ambac said in the regulatory filing that it could consider raising additional capital, restructuring through a "prepackaged bankruptcy" or filing a traditional bankruptcy without agreements from creditors.
"While management believes that the Company will have sufficient liquidity to satisfy its needs through the second quarter of 2011, no guarantee can be given that it will be able to pay all of its operating expenses and debt service obligations thereafter, and its liquidity may run out prior to the second quarter of 2011," Ambac said in the filing. The ad hoc bondholder committee has hired Morrison & Foerster as legal counsel and investment bank Lazard as financial adviser, the sources said.
Wisconsin state regulators took over roughly $64 billion of Ambac's worst assets in March. The insurer, along with rivals like MBIA, has been battling crippling losses from risky mortgage securities amid the financial crisis. Up until now Ambac's negotiations with counterparties, have largely helped it deal with liabilities of its principal operating unit, Ambac Assurance Corp. But the company has not yet formally addressed debt issues at its holding company, Ambac Financial.
Ambac said late on Monday that it has commuted its remaining $16.4 billion of exposure to collateralized debt obligations of asset-backed securities at its operating company. The company will pay $2.6 billion in cash and issue $2 billion of surplus notes, as part of an agreement with counterparties, it said. The holding company could use the bankruptcy process to resolve its debt issues, without putting the operating company into bankruptcy and without necessarily affecting any agreements made by the operating company.
Ambac said in the regulatory filing on Tuesday, that it was unlikely Ambac Assurance would be able to make dividend payments "for the foreseeable future" and that the company's liquidity and solvency are "largely dependent" on such dividend payments. A possible default or missed interest payment is often a touch-off point for companies to begin serious negotiations with bondholders and other creditors.
In order to do a prepackaged bankruptcy, the company would have to successfully negotiate agreements with a majority of its creditors, including bondholders. Prepackaged bankruptcies have become more popular in the past few years as a quicker route through the bankruptcy process. Ambac shares closed up 3.9 percent at $1.07 on the New York Stock Exchange on Tuesday, but dropped as much as 16 percent to 90 cents in after hours electronic trading.
US Home Purchase Loan Demand Slumps for 5th Week
U.S. home buying applications sank for a fifth straight week to a fresh 13-year low, the Mortgage Bankers Association said on Wednesday, suggesting that tax credits had robbed more from future sales than expected. Demand for loans to purchase houses fell 5.7 percent in the week ended June 4 to the lowest level since February 1997, even after adjusting to account for the Memorial Day holiday.
"Purchase applications are now 35 percent below their level of four weeks ago, as homebuyers have not yet returned to the market following the expiration of the homebuyer tax credit at the end of April," Michael Fratantoni, MBA's vice president of research and economics, said in a statement. Last week also included news of tepid private-sector job creation in May.
Home buyers have been on hiatus since many rushed to sign purchase contracts ahead of the April 30 deadline for up to $8,000 in federal tax credits. Refinancing activity, which had gained steam as mortgage rates flirted with record lows, also suffered a set-back last week. The MBA refinance index fell 14.3 percent after rising for four straight weeks, driving total mortgage applications down 12.2 percent in the week.
Mortgage rates remain affordable, with 30-year loans falling to an average of 4.81 percent from 4.83 percent. At their record low, according to the MBA, the rate was 4.61 percent in March 2009, but the rate is 1/2 percentage point below the recent high of 5.31 percent in April.
Despite the historically low rates, Fratantoni noted several factors that are affecting refinancings. Many homeowners have already refinanced, while others remain under water on their mortgages, have uncertain job situations, or have damaged credit and therefore may not qualify to refinance, he said. Still, with purchase demand in a post-credit trough, refinancing represented 72.2 percent of all applications last week.
Risks to global economy have 'risen significantly', top IMF official warns
The risks to a robust global recovery have 'risen significantly' as many governments struggle with debt, a leading official from the International Monetary Fund has warned. “After nearly two years of global economic and financial upheaval, shockwaves are still being felt, as we have seen with recent developments in Europe and the resulting financial market volatility,” Naoyuki Shinohara, the IMF's deputy managing director, said in Singapore on Wednesday. “The global outlook remains unusually uncertain and downside risks have risen significantly.” Countries across Europe are under pressure to tackle their deficits that were deepened by the financial crisis and governments own response to it. Some economists fear that moves by countries ranging from Britain to Spain to rein in public spending at the same time will set back a global recovery.
Stock markets have declined in the past couple of months as Europe's debt crisis and the prospect of higher interest rates in the faster-growing Asian economies cast a shadow over the recovery. “Adverse developments in Europe could disrupt global trade, with implications for Asia given the still important role of external demand,” Mr Shinohara said. “In the event of spillovers from Europe, there is ample room in most Asian economies to pause the withdrawal of fiscal stimulus.” Mr Shinohara, the former top currency official in Japan, added that "a key concern is that the room for continued policy support has become much more limited and has, in some cases, been exhausted.”
The Continuing Collapse of Ponzi Finance and the Real Economy
by Joe Costello - Archein
FUNDAMENTAL BASIS OF A CULTURE OF TRADERS. -- We have now an opportunity of watching the manifold growth of the culture of a society of which commerce is the soul, just as personal rivalry was the soul of culture among the ancient Greeks, and war, conquest, and law among the ancient Romans.Ponzi schemes are at their basis fraud, with no connection to any real value. They are exclusively money operations in need of endless streams of new money to prop-up the fraud. Once new money dries up, or a small number of people withdraw their investment, the entire scheme is in danger of collapse. While our global financial system is not entirely a Ponzi scheme, it has vast elements which are. Many of the financial innovations of the past several decades were simply money operations, making money on money two or three levels removed from any connection to the real economy. The Ponzi aspects of the system require ever more new money, or liquidity, endangering the entire system with collapse once the liquidity dries up.
The tradesman is able to value everything without producing it, and to value it according to the requirements of the consumer rather than his own personal needs. "How many and what class of people will consume this?" is his question of questions.
Hence, he instinctively and incessantly employs this mode of valuation and applies it to everything, including the productions of art and science, and of thinkers, scholars, artists, statesmen, nations, political parties, and even entire ages: with respect to everything produced or created he inquires into the supply and demand in order to estimate for himself the value of a thing.
This, when once it has been made the principle of an entire culture, worked out to its most minute and subtle details, and imposed upon every kind of will and knowledge, this is what you men of the coming century will be proud of -- if the prophets of the commercial classes are right in putting that century into your possession! But I have little belief in these prophets.
-- F. Nietzsche
Starting in the summer of 2007, liquidity began to dry up. By the fall of 2008 it had reached crisis stage, not simply damaging the Ponzi aspects of the system, but the real economy aspects too. The initial stage of the Ponzi collapse was met several ways. First, the banks and Wall Street did take some losses, but not nearly enough. Secondly, and importantly, one of the smallest elements, was the implementation of the TARP. Next was the the massive extend and pretend effort, that remains in place, allowing the banks not to account the great losses they still hold on their books, in addition to the great transference of losses onto the public ledger through the Fed and GSE's(see Gretchen Morgenson's excellent piece on Fannie and Freddie). Finally, was the Fed's massive dumping of liquidity into the system with special programs, and most importantly, its zero interest rate policies.
For a time, all these efforts arrested the collapse of the Great Global Ponzi Finance Con. The American taxpayer, worker, and saver becoming the last pigeon, allowing, funnily enough, the return to the game of so-called "sophisticated" investors. Unfortunately, the Ponzi aspect of the system remained intact, waiting to collapse with a new drying up of liquidity, seemingly now well under way in Europe. Despite the Euro bailout and the Fed's opening of "swaps", cheaply lending more of your money to "Old Europe", rates are rising and the European Central Bank is increasingly the major short-term lender, providing liquidity of last resort. Call all this saving Ponzi Finance 2.0.
To show how increasingly ludicrous this can all quickly become, financial speculator Bob Janjuah calls for the Fed to provide ten-trillion more in liquidity! That's just a joke and should be considered exactly that, especially as Mr. Janjuah prophesizes from atop the great pile of financial garbage that is the Royal Bank of Scotland, which to date has received more bailout money than any other bank in the world. That's Failure with a capital F, thus begging the question what happened to the tight-fisted noble Scots? Obviously the answer is brought down from centuries of occupation, first of bloody English barbarism, and then, and much worse, contemporary English effeteness.
The only solution is to call and end to the Ponzi scheme and that means a massive destruction of Ponzi debt. Make no mistake, that will cause a little sacrifice everywhere, but it is the only real solution and necessary to free the economy so that it can restructure for the 21st century, ending the even greater Ponzi thinking of infinite growth on a finite planet. Yves Smith has a nice piece on the necessity of our beginning to tackle this thinking. When you talk about the culture of traders, our industrial economists whether they're Keynes on one side, Friedman the other, and Krugman et al lost hopelessly in the middle, they all agree on the doctrine of Ponzi growth, and that is species' suicide. We need to restructure our culture to consume less and produce less. Just as we evolved from an agrarian society to an industrial society, we must now evolve to a design society. We need to spend more time figuring out how to do better with less stuff, understanding in doing so, we can all have better lives.
Only a fraction of Americans in need file for bankruptcy
by Christine Dugas, USA TODAY
Bankruptcy filings are nearing the record 2 million of 2005, when a new law took effect that was aimed at curbing abuse of the system. Filings could reach 1.7 million this year, says law professor Robert Lawless, but few experts believe that debtors are now gaming the system. Instead, concern exists about a growing number of Americans who need bankruptcy protection but cannot get any benefit from it or simply cannot afford to file. As their financial problems worsen, that hurts everyone because it can hinder the economic turnaround.
"It's shocking that we are back to the 2005 level," says Katherine Porter, associate professor of law at the University of Iowa. "And the filing rate doesn't even begin to count the depth of the financial pain." Bankruptcy laws changed in 2005 because filings skyrocketed and credit card companies and banks wanted to weed out deadbeat borrowers. The law made it harder — more expensive and more restrictive — for individuals to file Chapter 7 bankruptcy, which erases most debts. Instead of seeking protection from bankruptcy, a number of debt-laden Americans have gone into a "shadow economy," or informal bankruptcy, according to some experts.
The signs are there: Student loan defaults and home foreclosures are rising, and bank card loan defaults have increased from 7.7% in March to 9.1% in April, according to S&P/Experian Consumer Credit Default Indices. But during the same two months, bankruptcy filings fell by 4%. Bankruptcy is supposed to provide a fresh start to people who are in serious financial distress. But only a fraction are filing, Porter says.
'My future is gone'
Carmen Gardiner, 25, a 2007 graduate of Louisiana State University, is weighed down by her private student loans. Her debt is now about $80,000, and her monthly payments are more than $600. Gardiner's undergraduate degree is in psychology. She lives with her husband, who is still in college, and earns $13 an hour at a call center in Atlanta. They have a 6-month-old daughter. She hasn't defaulted on her student loan. But she doesn't see much hope. Bankruptcy would not discharge her debt. "I'm completely sour about the whole idea of going to college," she says. "My future is gone before I have a chance to make one. But if I could discharge this using bankruptcy, it would be better than winning the lottery."
There is little information about unregulated private student loan debt. But during an investor meeting, Sallie Mae, the USA's largest private student lender, recently projected that 40% of $6 billion in subprime private student loans will default, according to Student Lending Analytics, an independent research company. That means 360,000 to 540,000 borrowers are likely to default on their loans, SLA said. The only way that people with private student loans can get help in bankruptcy is if they can prove undue hardship. And to do that they have to go through a separate trial, which is an extra cost, involves witnesses, legal assistance and extra expertise, says Deanne Loonin, staff attorney at the National Consumer Law Center. It is a huge barrier.
But in April, both the Senate and House introduced legislation to allow for private student loans to be dischargeable in bankruptcy. Before the bankruptcy law changed in 2005, only government-issued-or-guaranteed student loans were protected during bankruptcy. "The high interest rates on private student loans have made them incredibly profitable for loan companies and saddled students with crushing debt," said Sen. Dick Durbin, D-Ill., who first introduced this legislation in June 2007.
Filers pay now or pay later
Only a fraction of those in serious financial distress are filing for bankruptcy, Porter says. In January, she and Ronald Mann, a professor of law at Columbia University, released a paper, "Saving up for Bankruptcy," that probed why that is happening. For starters, it's simply expensive to file. Attorney and filing fees have risen, and under the new law additional forms, paperwork and attorney liability have added to the cost, Porter says. In the first two years after the law changed, the attorney fees for filing Chapter 7 bankruptcy rose from $712 to $1,078, according to a study by the U.S. Government Accountability Office. And the filing fees increased from $209 to $299.
Many debtors have no choice but to delay filing for bankruptcy. Some wait until they receive a tax refund, and others cash out their retirement savings to pay for a lawyer. But postponing filing is not good for debtors. It's similar to delaying going to the doctor, because you'll just end up with more problems, says Lawless, professor of law at University of Illinois. The system is not just more costly, it is more complex. It requires pre-bankruptcy credit counseling. It requires six months of income information and two years of tax returns. And if the debtor holds off filing, a lawyer has to continue to gather new information. "The paper chase gets greater, and then the fee goes up," says William Brewer, a bankruptcy lawyer in Raleigh, N.C.
Hanging onto their homes
Another reason: Many Americans who are trying to save their homes do not file for bankruptcy. Under the bankruptcy law, filers can protect their summer home and yacht, but they can't protect their primary residence, says John Taylor, president of the National Community Reinvestment Coalition, a non-profit organization. That wasn't such a big issue when home values were rising. But during the recession, many homeowners are seeing values plummeting and their mortgage payments rising.
Home foreclosure filings have outstripped bankruptcy filings, Porter says. And foreclosure shows no sign of slowing down. In the first quarter of the year, foreclosure filings were 16% higher than the same quarter in 2009, according to RealtyTrac. And March was the highest month since RealtyTrac began issuing reports. Cordell Brooks, 47, who lives in Temple Hills, Md., may soon lose his home to foreclosure. During the recession he was laid off from his job as a graphics designer. Since then, he has worked as a substitute teacher and now is a contractor with Prince George's County Housing. "I've gone from earning $40 an hour to $17.50," he says.
Brooks, who has owned his home since 1989, applied for a federal program known as Home Affordable Modification Program (HAMP) but was turned down. He has few options. He doesn't want to file for bankruptcy. But even if he did, it wouldn't help him save his home. "Bankruptcy is not very useful at solving this particular type of financial distress," Porter says. Homeowners who applied for loan modifications could have been turned down if they also have filed for bankruptcy. But as of this month, a debtor who requests loan modification cannot be discriminated against because they have filed for bankruptcy, says John Rao, an attorney at the National Consumer Law Center, which specializes in consumer credit and bankruptcy issues. And that will help homeowners who are also overwhelmed by other debt.
Is it time for a change?
When the bankruptcy law changed in 2005, barriers were erected to prevent abuse. But it seems that many honest Americans who are in financial crisis are now running into obstacles. That raises questions about what can be done to prevent debtors from falling through the cracks. Congress is considering legislation to help college graduates weighed down by private student loan debt. If passed, the legislation could roll back the bankruptcy law so that private student loans can be discharged.
The Treasury Department has agreed to revise the federal mortgage modification program so that people can't be turned down for HAMP just because they have filed for bankruptcy. But some say that this is just a Band-Aid. And now few homeowners are getting permanent mortgage modification. The 2005 bankruptcy reform did not change mortgage debt. "Debt secured by a principal residence has not been dischargeable since 1978," says Philip Corwin, an outside bankruptcy counsel for the American Bankers Association. Recent efforts to introduce legislation to allow bankruptcy judges to modify home mortgages have failed. "If Congress had had the wisdom to pass that three years ago we would have forced all the parties to the table to work out reasonable solutions," Taylor says.
The financial industry says that the bankruptcy law is not causing the shadow economy. People can still file for it, and if they can't afford the fees at least the court filing fees can be waived, says Scott Talbott, senior vice president of the Financial Services Roundtable. And people with student loans who have undue hardship are able to get financial relief. But undue hardship is extremely hard and costly to navigate, says Lauren Asher, associate director of Project on Student Debt. There is no definition in the bankruptcy code of undue hardship, and the court decisions on it have been harsh, Corwin says.
Free legal services have been cut back during the recession and are not available for many debtors. It would help to roll back some of the changes that have increased legal paperwork and risk of personal liability, Lawless says. The bankruptcy problems are not likely to go away anytime soon. If Gardiner's career is stymied because she can't afford to go on to graduate school and is burdened with student loan debt, doors may be closed to her. "Not going on with her career and being stuck in a low-wage job hurts everyone and drags down the economy," Porter says. "It is not surprising that the bankruptcy code is not a fit for the problems of today. The 2005 amendment was a move in the wrong direction, and I think it's time to think about redesigning bankruptcy."
The Blog Prophet of Euro Zone Doom
by Landon Thomas Jr. - New York Times
For years, almost nobody paid attention to the sky-is-falling alarms of Edward Hugh, a gregarious British blogger and self-taught economist who repeatedly predicted that the euro zone could not survive. Living a largely hand-to-mouth existence here on his part-time teacher’s salary, he sent one post after another into the Internet wilderness. It was the height of policy folly, he warned, to think that aging, penny-pinching Germans could successfully coexist under one currency umbrella with the more youthful, credit-card-wielding Irish, Greeks and Spaniards who shared the euro with them.
But now that the European sovereign debt crisis is rattling world markets, driving the euro lower almost every day and raising doubts about the future of the monetary union, his voluminous musings have become a must-read for an influential and growing global audience, including policy makers in the White House. He has even been courted by the International Monetary Fund, which recently asked him to fly to Madrid to assist in its analysis of the Spanish economy.
"It’s quite nice, actually," Mr. Hugh, 61, said with amusement as he leaned back in a plush town car that was taking him to his latest speaking engagement organized by the Círculo de Economía, an influential business lobbying group in Barcelona. "I am meeting all sorts of interesting people and they are paying me to have lunch with them." But in other ways, his life has changed very little. Last week, in fact, he even had to borrow money from friends to buy clothes presentable enough to allow him to address the conference of Spanish politicians and business executives. He still mostly supports himself by teaching English to locals here, where he has lived for two decades.
"I guess I am countercyclical," he said with a laugh. "For all the years during the boom when everyone was doing well here, I wasn’t doing anything. Now I am a household name in Catalonia." Well, not quite. The idea of the economist as a pop celebrity in the mold of a Nouriel Roubini, whose early prediction that the United States housing market would collapse later brought him fame and a worldwide consulting brand, or a Paul Krugman, the Nobel-winning economist who writes an Op-Ed Page column for The New York Times, is still unformed in Europe and in particular in Spain.
But as questions rise over how European governments can escape their debt trap and resume growth, Mr. Hugh, who has been pondering this topic for years, is for the first time being turned to for insights and wisdom. His bleak message, in newspaper columns, local television and radio appearances, and in meetings with officials, is almost always the same: since Spain and other struggling countries of the euro zone like Greece, Portugal, Ireland and Italy cannot devalue their common currency unilaterally, they have little choice but to endure what would essentially be a 20 percent internal devaluation instead.
That means their public and private sector wages need to fall by roughly that amount if those countries are ever to restore competitiveness, lift exports and bring in the cash needed to pay down their debts. "Why haven’t these countries converged" with the rest of Europe? he asks. "It’s demographics. As populations age, there are fewer people in their 20s to 40s to buy new houses, so they save more. The younger a country is, the more dependent it is on credit to get growth."
Germany, where the average age is 45 and rising even as the population is beginning to shrink, is a nation of savers, and public policy has encouraged keeping wages under control and building up export industries. By contrast, the younger Greeks, Irish and Spaniards went on borrowing binges, driven in particular by rising demands for new homes and consumer goods that, in several cases, turned into housing bubbles before going bust. Wages were pushed up, encouraging spending but soon making it all but impossible for their industries to compete with the thrifty Germans, Dutch and other Northern Europeans.
Most economists, beholden as they are to their "promiscuous but essentially useless" economic models, Mr. Hugh rails, missed what he considers an easily predictable outcome. And that, he adds, "is why we are in such a big mess now." Mr. Hugh’s demographic thesis is not airtight: in fact, it was Italy, not Greece, that attracted his early attacks. But Italy, perhaps because its overall debt level was already so high and its population was older, pursued a policy of greater fiscal rectitude than its neighbors and avoided a real estate bubble.
And Mr. Hugh’s main policy proposal — that Germany leave the euro, which would almost immediately push the value of the currency down sharply, improving competitiveness for the weaker countries that remained behind — reads better as a provocative blog post than as a practical solution. Still, the sudden vulnerability of the euro zone and the search far and wide for answers by policy makers, investors and economists have caused his once obscure ramblings to go viral.
"He is an information channel that I value a lot," said Brad DeLong, an economist at the University of California, Berkeley, who was a United States Treasury official in the administration of President Bill Clinton and a prominent blogger in his own right. Mr. Hugh has also attracted a cult following among financial analysts. "Edward was writing very clearly about the imbalances in Europe and the likelihood of a crisis long before it was even on the radar screen of economists or analysts," said Jonathan Tepper of Variant Perception, a London research firm that caters to hedge funds and wealthy investors. "He is a thinking machine."
At the same time, Mr. Hugh is determined to resist some of the newfound temptations that have lately come his way. He said he had turned down lucrative offers from hedge funds to provide exclusive research because he did not want his views monopolized by any one entity — although he said he was considering an offer to join the stable of contributors who work for Mr. Roubini. And when the Michael Milken Institute — financed by Mr. Milken, a felon who managed to hang on to a fortune even after having to pay a $550 million fine for his actions during the junk-bond boom of the 1980s — paid him $3,000 for a short report he did in a day on Eastern Europe, Mr. Hugh gave the money to a friend who was having trouble paying her mortgage, he said. "I don’t want to take a check from Michael Milken, thank you very much," he said.
Born in Liverpool, Mr. Hugh studied at the London School of Economics but was drawn more to philosophy, science, sociology and literature. His eclectic intellectual pursuits kept him not only from getting his doctorate but also prevented him from landing a full-time professor’s job. "I was once described by my departmental professor as a ‘thief’ for accepting my doctoral grant while continuing to spend my time reading the books and attending the courses that I chose to read and that I chose to attend," he said.
Seeing himself more as a European than an Englishman, he moved to Barcelona in 1990. His blog posts reflect his varied interests, often citing Bob Dylan, Charles Bukowski, Jean-Paul Sartre, Friedrich Nietzsche and even the sociable behavior of his beloved bonobos, the primate species that is the closest relative to humans in the animal kingdom. Mr. Hugh cultivates the pale and shabby look of someone who has spent 12 to 14 hours a day sitting in front of a computer for the last 10 years.
But he is no recluse. His merry, convivial spirit and his religious adherence to the principles of reciprocity and exchange have made him a social networker par excellence. His embrace of the mores of Barcelona (he speaks fluent Catalan) has given him his own support network of middle-aged housewives as well, some of whom have provided him a place to live as he moves from abode to abode.
He currently lives in a farmhouse in a village of 60 people in northern Spain, where he writes for a suite of blogs — including A Fistful of Euros, Global Economy Matters and a number of country-specific blogs that focus on the Japanese, Hungarian, Latvian and Greek economies. More than anything, though, he still mostly reads and thinks. He also maintains a vibrant Facebook page "In the Middle Ages, curiosity in excess was regarded as a sin," he said with yet another laugh. "But with the Internet, I feel that I can do what I like. This makes me feel that I can really do something."
German Court Rejects Emergency Bid to Block Euro Rescue Fund
by Karin Matussek - Bloomberg BusinessWeek
Germany’s highest constitutional court rejected an attempt by a lawmaker who sought an emergency order blocking the nation from participating in the euro-area rescue fund. The emergency bid, aimed at blocking the finance minster from granting loan guarantees while the case is being reviewed, was rejected by the Federal Constitutional Court. The court said that in emergency proceedings it is allowed to base its decision on the government’s assessment of the case. “Even a temporary retreat of Germany from the rescue plan could, in the government’s view, jeopardizes the rescue fund, at least in the eyes of the financial markets,” the court said in an e-mailed statement today.
After the German parliament approved their country’s participation in the 750 billion euro ($907 billion) package on May 21, Peter Gauweiler, a lawmaker from the Bavarian wing of Chancellor Angela Merkel’s Christian Democrats, filed the suit. Gauweiler argues the bailout changes an EU treaty without proper authorization. The court will continue to review the case. Today’s case is BVerfG, 2 BvR 1099/10.
European banks struggle to sell corporate bonds
by Jennifer Hughes and Ralph Atkins - Financial Times
European banks have raised less from the mainstream capital markets in the past six weeks than in any year since 1995 as turmoil has pushed borrowing costs sharply higher. Banks sold $11.7bn of corporate bonds in the six weeks to last Friday, 15 per cent of their 10-year average for this period and far short of the $145bn they raised this time last year, according to Dealogic. The virtual closure of the primary markets has come at a crucial point in the year for financial groups, which typically tap the markets for about a fifth of their total annual borrowing during May and June.
After spending the past two years shoring up their capital bases, banks are under pressure from regulators to lengthen the average maturity of their debt – something the mainstream unsecured markets will be vital for – to lessen reliance on short-term funding markets, which froze during the financial crisis. Banks were actively raising funds in the first few months of the year, which could have put fundraising plans ahead of schedule. But the hiatus might prove troublesome if it forces groups to delay chunks of borrowing until later in the year, leaving them reliant on appetite recovering after the summer.
“If the markets do stabilise and even recover, then financials will still underperform because of fears of more huge amounts of issuance,” said Suki Mann, head of credit strategy at Société Générale. “Now, [the markets] are running scared because of the potential for a government restructuring in Europe.” Banks have been turning to other sources. Some have tapped the ultra-safe covered bond market, but many appear to have been turning to the sort of short-term money that regulators are keen to discourage. Eurozone banks have been parking record sums in the European Central Bank’s “deposit facility”. Use of the facility, which pays an interest rate of just 0.25 per cent, reached a fresh high of €364.6bn ($440bn) on Tuesday.
Highlighting the extent of the liquidity support the ECB is providing, the amount outstanding on its open market operations is approaching €850bn, also close to a record. Late last year, the ECB started a gradual “exit strategy” to unwind the exceptional measures it took after the collapse of Lehman Brothers in late 2008. But its plans were thrown into reverse by the escalation of the eurozone debt crisis, which saw the ECB re-introducing offers of unlimited three and six-month liquidity. In contrast, the ECB attracted zero demand for an offer of dollar liquidity on Wednesday, operated in conjunction with the US Federal Reserve. Banks have been deterred by the relatively high interest rate charged, which suggested the stress in the system was not acute.
Deutsche Bank shorts €2bn eurozone sovereign debt
by Harry Wilson - Telegraph
Germany’s largest bank has revealed it is currently shorting Spanish and Portuguese government bonds, despite the country’s ban on holding short positions in the debt of other European governments. Deutsche Bank said today that it has a net £900m short position on Spanish government debt and a £660m short on the Portuguese sovereign, as the German government attempts to ban all short sales in European sovereign debt. The position will be doubly embarrassing for the German government, as Deutsche Bank's own shares are currently the subject of a short trading ban imposed by the country’s authorities at the same time as sovereign ban.
Details of Deutsche Bank’s shorting came in a presentation given in at the Goldman Sachs European financials conference in Madrid today by the company’s chief risk officer Dr Hugo Banzinger. Dr Banziger described the bank’s overall exposure to Southern European government debt as “relatively small, except Italy”. Deutsche Bank’s net sovereign exposure to Italy is £2.6bn, based on a gross position of about £23bn. Germany’s unilateral ban last month on the short selling of euro-denominated government bonds, credit default swaps based on those bonds, and shares in the country’s 10 leading financial institutions initially surprised other Eurozone governments, but has since gained support.
Yesterday, German Chancellor Angela Merkel and French President Nicolas Sarkozy co-signed a letter urging the European Commission to bring forward proposals for tighter rules on financial speculation, including a ban on naked short-selling. Deutsche Bank’s revelation of its short position in European government debt shows how easy sophisticated financial institutions with trading operations located around the world have found it circumvent national bans.
One trader wrote in a note this morning: “So Frau Merkel, your flagship German bank is naked short your European partners Spain and Portugal but we can’t go naked short Deutsche Bank stock. How do we explain that to those Anglo-Saxon hedge fund locusts……??” Deutsche Bank was not immediately available to comment.
Greece is tapping China's deep pockets to help rebuild its economy
by Anthony Faiola - Washington Post
Nearly bankrupt and sullied in the eyes of foreign investors, Greece is moving to rebuild its economy by tapping the deep pockets of another ancient civilization: China. Spurred on by government incentives and bargain-basement prices, the Chinese are planning to pump hundreds of millions -- perhaps billions -- of euros into Greece even as other investors run the other way. The cornerstone of those plans is the transformation of the Mediterranean port of Piraeus into the Rotterdam of the south, creating a modern gateway linking Chinese factories with consumers across Europe and North Africa.
The port project is emerging as a bellwether for Greek plans to pay down debt and reinvent its broken economy by privatizing inefficient government-owned utilities, trains and even casinos. This week, the Chinese shipping giant Cosco assumed full control of the major container dock in Piraeus, just southwest of Athens. In return, the Chinese have pledged to spend $700 million to construct a new pier and upgrade existing docks. The Greek government, for its part, is taking on the powerful unions in a bid to ensure that the Chinese can introduce dramatic changes to increase efficiency and productivity. That effort has ironically turned the Greek Communist Party -- which is closely aligned with the labor unions -- into the fiercest critic of China's economic march on Greece.
The Greek government is also courting China for a bevy of other projects, including a sprawling new distribution center in the industrial wastelands west of Athens, a monorail line, five-star hotels and a new maritime theme park. Greek hotels, eager to fill rooms as crisis-weary Europeans cut back on travel, are also wooing Chinese tour operators as never before. The whitewashed island of Santorini has started selling itself as the ideal spot for "Big Fat Mandarin Weddings" and has seen a surge in fairytale nuptials by wealthy Chinese as a result.
"We have a saying in China, 'Construct the eagle's nest, and the eagle himself will come,' " Wei Jiafu, Cosco's charismatic chief executive, said in a televised interview in Athens this week. A high-ranking member of China's Communist Party, he is now so well-known in Greece that many here refer to him by his nickname, "Captain Wei." "We have constructed such a nest in your country to attract such Chinese eagles," he said. "This is our contribution to you."
Pattern of investing
The Chinese have plunked down billions from Angola to Peru to ensure the delivery of natural resources to feed China's red-hot economy as well as to guarantee unfettered and cost-effective shipment of its exports abroad. The investments here in Greece, analysts say, are part of China's plan to create a network of roads, pipelines, railroads and port facilities -- sort of a modern Silk Road -- to boost East-West trade. Forced in April to turn to the European Union and International Monetary Fund for a $140 billion bailout, Greece fits perfectly into China's pattern of investing in challenging environments. China is building a new commercial maritime base in Greece at a time when other European nations remain suspicious of Chinese state investment. France, citing national security risks, recently blocked a bid by China to take over a French firm.
Alarm is also growing that China's plans will flood Europe with cheap Asian imports. "There is growing unease in Europe at the extent and size of their trade imbalance with China," said Jonathan Wood, global issues analyst at Control Risks in London. "They are worried about finding themselves in the same situation as the United States, running a high trade deficit with China." Yet the Greeks see Chinese investment as nothing short of a gift from the gods. The biggest question facing the troubled European Union is how nations with uncompetitive economies such as Portugal, Spain and Greece can reinvent themselves to be more on par with the successful nations of Northern Europe. Greek officials say Chinese investment is offering a glimpse into how this nation can do just that by building on its expertise in shipping.
"The Chinese want a gateway into Europe," Theodoros Pangalos, Greece's deputy prime minister, said in an interview. "They are not like these Wall Street [expletive] pushing financial investments on paper. The Chinese deal in real things, in merchandise. And they will help the real economy in Greece." Yet the privatization of the port also shows how difficult such a transition might be, particularly as Greece tries to privatize more of its economy.
The Chinese deal for the port began to come together in 2006, with Cosco taking transitional control of the main dock at Piraeus on Oct. 1, 2009. It came in armed with a 35-year lease and a mission to whip the notoriously inefficient container docks into shape. The unloading of a mid-size cargo ship could take as long a week at Piraeus, days longer than at a modern, well-run port such as Rotterdam, now Europe's largest. Many in the shipping industry blamed Greek state workers. "The problem is, the workers were trained to make more money without working," said Nicolas Vernicos, owner of a shipping company whose tugboats have been subcontracted by the Chinese to operate at the port. "That is Greece's problem."
The unions at the port had been striking off and on for months to protest the Chinese arrival. Greece's Socialist government, which came to power in October, initially stood behind the unions, almost scuttling the Chinese deal. But as Greece's economy went into a tailspin, the government did an about-face, not only welcoming the Chinese at the container dock but also entering into new talks with them for a major shipping repair hub at the port as well as a huge new distribution center. As part of the deal, 500 union workers at the port were gradually replaced -- allowing the Chinese to bring in cheaper subcontractors. To calm the unions, the government offered 140 workers up to $2,000 a month in pension payments, while others were promised government jobs elsewhere.
The unions and the Greek Communist Party say the Chinese are hiring subcontractors with fewer than 20 workers -- putting them just below the legal threshold in Greece to form organized unions. In addition, they say, the new workers are being pushed too hard, pointing to an incident three weeks ago when two new hires were hospitalized after being injured on the job. "We are not only giving up national sovereignty but selling our workers out," said Nikos Xourafis, a labor leader with the Greek Port Workers Association. "That can't be the answer for Greece."
David Cameron invites a 'double-dip recession' if he insists on Greek medicine for Britain's deficit
by Danny Blanchflower and Elias Papaioannou - Telegraph
Prime minister David Cameron warned on Monday that "Greece stands as a warning of what happens to countries that lose their credibility, or whose governments pretend that difficult decisions can somehow be avoided". We beg to differ.
The main danger to the UK's credibility is when ministers spread fear in the markets and talk down the economy. Harsh cuts in public spending, as expected in the emergency budget on June 22, have the potential to push the UK into a double-dip recession. Over the last two years the governments have responded to the financial meltdown by loosening monetary policy, lowering interest rates, providing extra liquidity, introducing quantitative easing measures, alongside expansionary fiscal policies.
Yet a number of these countries, mostly in the euro area, are following Greece and announcing fiscal austerity measures to tackle rising public debts and lower fiscal deficits. The IMF warned against such precipitate action. Surprisingly, many economists and, most worryingly, the OECD recommend that the new British government follows Greece and the other economies by implementing fiscal adjustment programs. Mervyn King, the Governor of the Bank of England, even entered the fray, by advocating immediate public spending cuts. Interestingly, he was only speaking in a personal capacity and not for the MPC that actually sets monetary policy.
Proposing the same medicine in the UK as in Greece, though at a lower dose, seems a priori absurd, as the problems are fundamentally different because the two countries suffer from different pathologies. The Greek crisis is the result of a steady loss of competitiveness, reflected in a ballooning trade deficit and relatively high inflation, and a rapid expansion of public sector spending.
Greece is characterised by endemic tax evasion, a poor tax collection infrastructure, parochial patronage policies, corruption and huge delays in the administrative courts dealing with tax disputes. This clearly does not resemble developments in the UK. The recent increase in the debt burden of the British economy is driven not by structural inefficiencies, as in Greece, but from the 2007 financial crisis, the immediate economic contraction, and the government's expansionary response.
Public debt in Greece is the highest in the euro area at about 120pc of GDP. The country also has one of the highest fiscal deficits in the OECD, at 14pc of GDP. The UK's is 11pc. In contrast, government debt to GDP in the UK in 2009 was 68pc –much lower than the euro area average of 79pc. While UK debt/GDP has increased over the past two years by about 20 percentage points, during the past decade it fluctuated around 40pc-50pc. The recent increase mainly reflects a rational Keynesian counter-cyclical policy in response to the global economic crisis.
These differences are reflected in government bond yields. Yields on long-term UK bonds are quite low, 3.58pc, very similar to US Treasury bonds. German bund yields are lower, at 2.56pc, reflecting the lower inflation expectations on the euro area. In addition, only 20pc of UK debt matures in the next three years compared with 34pc for Greece. The ratio for the US is around 50pc and 40pc for Germany. So in contrast to Greece, the UK does not suffer at all from roll-over risk.
The forecasters' consensus suggests that Greece will suffer negative GDP growth of at least 4pc in 2010 and -1pc in 2011. So even if Greece succeeds in its fiscal consolidation plan the debt burden as a share of GDP will keep rising for the next couple of years, while the debt to GDP for the UK has already started falling. While Greece would surely benefit from the recent slide of the euro, Greece does not have control of its monetary policy, which is decided in Frankfurt. In contrast the UK has exchange rate flexibility, which could prove quite useful in the adjustment.
Greece also has deep structural problems, mostly in product markets with oligopolies in almost every industry, closed professions, administrative and bureaucratic impediments to entrepreneurship alongside barriers to trade and exporting. In contrast, the UK economy is flexible, with fewer administrative burdens. The diagnosis above suggests that the two countries are plagued with different diseases. There is zero chance that the UK will default on its debt. So each country needs a different treatment. The UK is demonstrably not Greece.
David Blanchflower is the Bruce V. Rauner Professor of Economics at Dartmouth and an ex-member of the Monetary Policy Committee at the Bank of England. Elias Papaioannou is Assistant Professor of Economics at Dartmouth and a former economist at the European Central Bank
UK corporate failures set to rise
by Financial Advice UK
Corporate insolvency specialist Begbies Traynor said today that the number of corporate insolvencies in the UK was relatively flat in the six months to the end of April 2010 compared to the previous six months. However, the company believes there are a great number of UK companies which are effectively "zombie businesses" and dead on their feet at the moment. It is these companies which are highly likely going under in the short to medium term and lead to a potentially significant rise in corporate insolvencies. This is the often unseen end of the recession where banks and supporting shareholders are often seen to withdraw their financial support just as the recession fades into the background.
By potentially waiting until the recession has ended and the UK economy is a little more buoyant this will give creditors the best chance of obtaining the best price for these failing businesses. We will likely see a similar scenario in the personal bankruptcy market with a large number of people in the UK struggling to survive on a month-to-month basis. On the surface the UK may well be waving goodbye to the recession but in reality this downturn will change the lives of thousands of businesses and thousands of individuals in the UK forever. For many people the most difficult and challenging times may still lay ahead.
Fear of the markets must not blind us to deflation's dangers
by Martin Wolf - Financial Times
A consensus is forming that policymakers should tighten fiscal policy, sharply, in countries with large fiscal deficits. Yet what makes these policymakers sure that business and consumers will spend in response to austerity? What if they find that it tips economies into recession, or even deflation?
In last weekend's communiqué of the Group of 20 leading economies, finance ministers and central bank governors stated that "countries with serious fiscal challenges need to accelerate the pace of consolidation". Yet the world economy confronts two risks, not one: the first is, indeed, that much of the developed world is going to be Greece; the second is that it will be Japan. As Adam Posen, outside member of the Bank of England's monetary policy committee, pointed out in a recent speech , fiscal contraction, along with persistent banking problems and insufficiently loose monetary policy, generated the negative shock in 1997 that entrenched deflation in Japan.* Many economic historians argue that the US made a similar mistake in 1937.
How, I wonder, will the world look back on what is now being planned? Germany's commitment to greater fiscal austerity across the eurozone is powerful, if hardly surprising. Judged by the UK prime minister's speech on Monday, the UK is on the same path. Happily, the US has not joined the consensus - as yet. Japan is stuck firmly in deflation. Germany's most recent rate of annual core inflation was just 0.3 per cent. In the US, core inflation is 0.9 per cent. Another economic shock could shift these economies into deflation, with all the attendant difficulties of trying to make monetary policy bite in a world of post-bubble deleveraging.
Moreover, despite the heroic efforts of central banks, growth of broad monetary aggregates is subdued, mainly because the transmission mechanism is impaired: over the latest 12-month period, US and eurozone M2 grew just 1.6 per cent. Monetarists should be quite relaxed about the risks of inflation. They should be concerned, instead, that central banks are failing to give the private sector the liquidity it wants.
Against this background, what would a big tightening of fiscal policy deliver? In the absence of effective monetary policy offsets, one would expect aggregate demand to weaken, possibly sharply. Some economists do believe in "Ricardian equivalence" - the notion that private spending would automatically offset fiscal tightening. But, as Mr Posen argues of Japan, "there is no good evidence . . . of strong Ricardian offsets to fiscal policy." In developed countries today, fiscal deficits are surely a consequence of post-crisis private retrenchment, not the other way round.
This is all very well, many will respond, but what about the risks of a Greek-style meltdown? A year ago, I argued (in "Rising government bond rates prove policy is working", FT 3 June 2009) - in response to a vigorous public debate between the Harvard historian, Niall Ferguson, and the Nobel-laureate economist, Paul Krugman - that the rapid rise in US long-term interest rates was no more than a return to normal, after the panic. Subsequent developments strongly support this argument.
US government 10-year bond rates are a mere 3.2 per cent, down from 3.9 per cent on June 10 2009, Germany's are 2.6 per cent, France's 3 per cent and even the UK's only 3.4 per cent. German rates are now where Japan's were in early 1997, during the long slide from 7.9 per cent in 1990 to just above 1 per cent today. What about default risk? Markets seem to view that as close to zero: interest rates on index-linked bonds in the France, Germany, the UK and US are about 1 per cent. What, for that matter, does the spread between conventional and index-linked bonds tell us about inflation expectations? We can say that these are, happily, still well anchored, at about 2 per cent in the US, Germany and France. In the UK, they are somewhat higher.
The question is whether such confidence will last. My guess - there is no certainty here - is that the US is more likely to be able to borrow for a long time, like Japan, than to be shut out of markets, like Greece, with the UK in-between.
As borrowers, the US and UK have advantages: first, their private sector surpluses cover some three-quarters and 90 per cent, respectively, of their fiscal deficits; second, many private-sector investors need assets that match liabilities in their domestic currency; third, because these countries have active central banks, bondholders suffer no significant liquidity risk; fourth, they have floating exchange rates, which take some of the strain of changes in confidence; fifth, they have policy autonomy, which gives a reasonable prospect of near-term economic growth; and, finally, the US offers the world's most credible reserve asset. That gives the US government the position vis-a-vis the world that the Japanese government possesses vis-a-vis Japanese savers.
Critics could argue that these arguments downplay the risks of a "sudden stop" in financial markets. But risks arise on both sides. When Japan - or Canada or Sweden - tightened in the 1990s, a buoyant world economy could absorb excess domestic supply. There is no world economy big enough to offset renewed contraction in Europe and the US. Concerted fiscal tightening could, in current circumstances, fail: larger cyclical deficits, as economies weaken, could offset attempts at structural fiscal tightening. For countries in southern Europe, this is already a danger. Much of the world could end up in a beggar-my-neighbour position towards an increasingly fiscally stretched US.
The G20 did stress "the need for our countries to put in place credible, growth-friendly measures, to deliver fiscal sustainability, differentiated for and tailored to national circumstances." That seems fair. In so doing, policymakers must recognise that deflation is a risk, too, and that tighter fiscal policy requires effective monetary policy offsets, which may be hard to deliver today, above all in the eurozone. Premature fiscal tightening is, warns experience, as big a danger as delayed tightening would be. There are no certainties here. The world economy - or at least that of the advanced countries - remains disturbingly fragile. Only those who believe the economy is a morality play, in which those they deem wicked should suffer punishment, would enjoy that painful result.
Unemployment Benefits Lapse Causes Panic And Confusion For The Jobless
by Arthur Delaney - Huffington Post
Robert Lovejoy and his wife are losing sleep because they're unexpectedly losing their unemployment benefits. "We get up earlier -- we can't sleep in because our minds are racing," said Lovejoy, who told HuffPost he'd received his final check on Wednesday, six months after losing his job as a video colorist for a production company in Philadelphia. "It's the difference between having health insurance, having an automobile and not being in default with my creditors."
The Lovejoys are among 42,800 long-term unemployed who will stop receiving benefits from the Pennsylvania Department of Labor & Industry by the end of this week, according to U.S. Labor Department data. Across the country, 323,400 will prematurely exhaust their benefits this week because Congress failed to reauthorize several domestic aid programs before they lapsed on June 1, after the House and Senate left Washington for a Memorial Day recess.
The House passed its version of the "tax extenders" bill to preserve the unemployment benefits -- along with money to help states administer Medicaid programs and extra reimbursement for doctors who see Medicare patients, among other things -- on May 28, after the Senate had already skipped town. Now senators are fighting over the cost of the package and will probably not get it done until next week. The stimulus and several subsequent bills have given the unemployed extra weeks of benefits on top of the standard 26 weeks made available by states. In some areas, laid-off workers can get 99 weeks of benefits.
People like the Lovejoys will get their benefits retroactively after the president signs the bill, whenever that happens. Until then, they'll have to make do. Even one missed check can make life difficult for people who have already gone six months on only $320 week, the average size of an unemployment check. "I think it's terrible that families, on top of everything else, are going through an emotional roller coaster," said Sen. Debbie Stabenow (D-Mich.) when asked by HuffPost Wednesday about the people missing checks. "Up and down. What's going to happen to them? Are they going to be able to make the house payment? Are they going to be able to put food on the table?"
"I think this is outrageous," said Sen. Jack Reed, Democrat of Rhode Island, where the unemployment rate is above 12 percent. "We have never failed to extend emergency benefits while the unemployment rate in the country is above 7.4 percent. This goes back several decades, several different administrations, it was done routinely, it was done because these people need our help."
There are fifteen states where unemployed folks receiving benefits should not be affected by the lapse. But even people in those states can become confused and panicky when they hear Congress allowed extended benefits programs to lapse. That's what happened to Stabenow constituent Erin Jones, 33, who lost her job as a civil engineer last October and thought she'd be ineligible for more unemployment benefits after her first 26 weeks ran out at the end of May. "I won't have any money coming in until the bill is passed," wrote Jones in an email to HuffPost. "My savings have been spent, I don't know where I'm going to get the money for my next mortgage payment."
But Michigan is one of the states where people who otherwise could get benefits through the federally-funded Emergency Unemployment Compensation program can instead switch over to the "Extended Benefits" program, which provides up to 20 weeks. After Jones checked back with the Michigan Unemployment Insurance Agency, she learned that she had panicked prematurely. "They were late getting my last payment out and when it didn't show up when it was supposed to, I assumed all was lost."
Up and down the roller coaster.
Jones' case shows another cost of the congressional delay: the administrative burden on state workforce agencies fielding calls from panicked layoff victims. "It certainly causes some confusion on the part of unemployed workers in this state who are receiving these benefits," said Michigan UIA spokesman Norm Isotalo. "It creates additional work for the agency." The Lovejoys, for their part, already planned to move from Cherry Hill, N.J., a Philadelphia suburb, to Sylva, N.C., where they can live for less in a trailer.
Robert Lovejoy, 63, told HuffPost they'd been unable to make the $2,700 monthly house payment when he lost his job and began drawing less than $500 a week in unemployment benefits. The money went instead to monthly payments to maintain health insurance from his former employer via the federal COBRA program, which even with a 65 percent subsidy -- a subsidy that is on the congressional chopping block -- cost more than $500, according to Lovejoy. He said his wife is a cancer survivor. "I don't want anybody to be in our situation, and we're relatively well-off," he said. "I don't think the senators are realizing how much of a personal vital link it is."
JPMorgan Especially Vulnerable to Bank Reform: Bove
Coming government regulation poses a threat to JPMorgan's future profitability because of the banks' large derivative investments, Richard Bove, a financial strategist Rochdale Financial Securities, told CNBC Tuesday. Bove reduced JPMorgan's target price Tuesday to $44 from $55, however, Bove's rating on JPMorgan remains a buy.
'We obviously don't know how the bill will finally look. But if we assume there is going to be a change in the derivative situation, think about the fact that JPMorgan might have, in a notional value, $45 trillion worth of derivatives," said Bove. "Therefore, it's a very profitable business for them, which in my estimate would be over 10 percent of their earnings, so if that business is cut back it will hurt them quite a bit...This bill is very Draconian when it comes to JPMorgan," he said.
Bove has also cut earnings estimates on banks including Bank of America, Citigroup and Bank of New York , and said "it's just a really bad environment at the moment to make money if you are in banking." Although Bove has reduced his price target for JPMorgan, he still recommends the bank as a buy on a longer time horizon. "The second quarter is going to be a very weak quarter for the banking industry and I think for JPMorgan also...But if you take a look at the book value of the company, which I think is a real number...the stock is very cheap relative to its book value, and that, therefore, makes it something that someone would want to buy at this point," said Bove.
Spain Small Lenders Frozen Out of Interbank Market
The European interbank market is not lending to smaller Spanish banks partly due to concerns the country could be heading for a debt crisis along the lines of EU partner Greece, an international bank source said on Wednesday. The restrictions did not appear to be aimed at specific institutions so much as the country, the source said, and market access could ease if Spain's Socialist government announces further austerity measures.
Another source cited by Cinco Dias paper said the bigger Spanish banks appeared to be fine. "Only the biggest Spanish banks are managing to get funding, but backed by bonds from other countries such as Germany. With our national bonds they are not managing to get anything," an executive at a Spanish savings bank was quoted as saying.
There have been signs for some weeks that Spanish banks were having to pay a premium to borrow in their domestic repo market as the broad repricing of euro zone sovereign credit risk raised lenders' concerns over the liquidity of the banking sector. A credit analyst source told Reuters the issue was not one of liquidity, as the banks have the ECB to rely on, but that it shows that in the current risk-averse climate smaller banks are being ostracized. "The markets are almost shut for Spain," the international banking source said.
Spain's 45 largely unlisted savings banks are suffering the impact of a sharp downturn in the property sector after a decade-long boom and are immersed in a government-driven consolidation process aimed at restoring the weaker banks to good health. At the end of May, Spain's credit rating was cut by Fitch to AA+ from AAA, adding to fears that Spain is heading for a debt crisis from which it will need to be bailed out. On Monday, the Treasury announced it would aim to raise between 3 and 4 billion euros on Thursday through the auction of a new benchmark, three-year bond.
Amid concerns that the auction might not be well enough bid, analysts have said they do not expect the auction to fail partly because Spanish banks such as Santander and BBVA would buy the bond if necessary because they have access to funding. Ten-year bono yield spreads hardly changed on Wednesday morning, tightening marginally to 209 bps from 212 bps.
Chinese labour unrest spreads
by Tom Mitchell and Robin Kwong - Financial Times
Chinese labour protests that have forced shutdowns at foreign factories have spread beyond south China’s industrial heartland, posing a dangerous new challenge for Beijing. Workers at a Taiwanese machinery factory outside Shanghai clashed with police on Tuesday, leaving about 50 protesters injured. The confrontation represented an escalation of recent industrial action in the country, which until this week had been largely peaceful and concentrated in the southern province of Guangdong.
The violence at KOK International in Kunshan, a factory town in southern Jiangsu province, came just a day after Honda struggled to contain the fallout from its second strike in as many weeks. That strike, at Foshan Fengfu Autoparts, a joint venture majority held by a Honda subsidiary, forced the Japanese carmaker to suspend production at its car assembly plants in nearby Guangzhou, the capital of Guangdong province.
The workers at Foshan Fengfu, which employs 492 people, appeared to have been inspired by a successful strike last week at another Honda components supplier which ended only after the company agreed to a 24-33 per cent wage hike. Honda said the strike was continuing on Wednesday morning, contradicting a report by the official Xinhua news agency that workers had "completely dispersed" after the supplier, which makes exhaust components for its parent, agreed to come back with an adjusted wage offer in ten days’ time.
The unrest in Foshan suggests that strikes are proliferating faster than local governments and the official All China Federation of Trade Unions – which workers have largely circumvented in their recent protests – can resolve them. While there is no evidence that workers at different factories are co-ordinating their activities, the success of the first Honda strike has emboldened workers by demonstrating that mass action can yield results.
In a typical example, on June 6 about 300 workers at a Taiwanese audio components factory in Shenzhen, the special economic zone bordering Hong Kong, blocked roads to protest against a change in their shift schedules. A spokesman for Merry Electronics said the situation was quickly defused. "We had decided at the beginning of the year to raise wages 10 per cent by July 1, but had never announced this to the staff," Tseng Chin-tang said. "We took advantage of Sunday’s event to let our staff know about the increase." Merry Electronics had been paying its staff Rmb950 ($140) a month, in line with regional minimum wage rates, before the increase to Rmb1,050.
Goldman unlikely to settle Timberwolf
by Steve Eder and Matthew Goldstein - Reuters
Goldman Sachs Group Inc may be looking at new legal headache, as settlement talks with an Australian hedge fund that invested $100 million in a now toxic mortgage-linked security appear to be breaking down, a source said. Lawyers working for the Basis Yield Alpha Fund could file a lawsuit against Goldman over the transaction -- called Timberwolf -- as early as Wednesday, said a person familiar with the situation. Negotiations between Goldman and Basis began months ago, but have heated up in the wake of a lawsuit filed by the Securities and Exchange Commission against Goldman over another subprime mortgage-linked security.
The hedge fund purchased a $100 million slug of the Timberwolf collateralized debt obligation in June 2007 at a time when the market for mortgage-linked securities was about to crash. The managers of the Basis fund claim Goldman's sales and trading desk misled them and the ill-timed Timberwolf purchase helped hasten the fund's demise. Peter Dobson, a director for the Basis fund, declined to comment on whether the fund's lawyers would file a lawsuit. Dobson, reached at Basis Capital Group's offices in Sydney, said managers of the one-time $500 million fund are committed to reaching the "best possible outcome" for investors. "Naturally we are pretty passionate about the events of 2007," said Dobson.
The $1 billion Timberwolf CDO was memorably described by a former Goldman executive as "one shitty deal," according to an email disclosed during a hearing in April by the Senate Permanent Subcommittee on Investigations. If Basis does sue over the Timberwolf deal, it would come less than two months after the SEC sued Goldman for civil fraud in connection with the structuring and sale of another CDO called Abacus 2007.
Fight Or Settle?
Goldman has vowed to fight the SEC charges, but there has been speculation on Wall Street that the investment firm is looking to cut a deal with regulators. Analysts estimate the cost of settling the SEC matter could cost Goldman between $500 million and $1 billion in fines and restitution. But a breakdown in the settlement talks with the Basis fund may be an indication that Goldman is no mood to roll over and reach a quick deal with the SEC either.
In fact, there are indications that Goldman's relations with regulators are becoming increasingly strained and testy. On Monday, members of a Congressional panel that's looking into the cause of the financial crisis blasted Goldman for dumping some 2.5 billion pages of digitized records on it, after initially refusing to comply with a request for information. Philip Angelides, chairman of the Financial Crisis Inquiry Commission, said it was as if Goldman pulled "a dump truck to our offices."
Goldman's decision to play hardball with the commission might make sense from a tactical point of view. But the firm's feisty approach toward dealing with regulators and politicians isn't winning over investors. Shares of Goldman are down 26 percent since the SEC filed its lawsuit on April 16. "They should be bending over backwards to cooperate and get the things taken care of so they can get people focused back on the franchise and the business," said Walter Todd, a portfolio manager with Greenwood Capital, which owns Goldman debt.
Pimco Buying Treasurys; Rodosky Says U.S. Economy to Slow Down
by Min Zeng - Wall Street Journal
The world's largest bond fund has turned more positive on Treasurys. A senior fund manager at Pacific Investment Management Co. said he has bought Treasurys in recent weeks, as have many other investors fleeing the euro zone's debt crisis. U.S. Treasurys are perceived as a haven during times of economic strains thanks to the dollar's status as the world's reserve currency.
Steve Rodosky, head of Treasury and derivatives trading at Newport Beach, Calif.-based Pimco, said he has shifted his stance on Treasurys to neutral in the short term from underweight earlier this year. "We took risk off the table, and as part of that, Treasurys got some of the flows," Mr. Rodofsky said in an interview Wednesday. "The combination of safety and yield, when you compare the U.S. [government bond] market to other markets around the globe, the U.S. market still looks appealing to global investors." Mr. Rodofsky said the U.S. economy peaked in the first quarter and will slow down in the second half of the year.
Pimco, a unit of Allianz SE, manages $1 trillion in assets world-wide and is an influential force in global financial markets, especially in the world of fixed income. Its flagship $224.5 billion Pimco Total Return Fund, managed by founder and co-chief investment officer Bill Gross, is the world's biggest bond fund by assets. Comments from top fund managers at Pimco are closely tracked by market participants. The Treasury market has rallied over much of the past month on rising worries that euro zone's sovereign-debt problems could undermine the recovery in the global economy. The benchmark 10-year yield fell more than 0.30 percentage point last month to 3.059% on May 25, its weakest since April 2009. Wednesday, the yield, which moves inversely to its price, traded at 3.217%.
Mr. Rodosky said he wouldn't rule out that the 10-year yield would move below 3% should worries over global economic growth worsen in coming months. But he still expects the trading range for the yield to remain between 3% and 4% for the rest of the year. Curtis Arledge, chief investment officer of fixed income at BlackRock Inc., Pimco's main rival, said in an interview late in May that he expects the 10-year note's yield to trade in a range of 3% to 3.5% in the next three to six months, lower than the range of 3.6% to 4% during the first quarter. While BlackRock cut its underweight positions on Treasurys significantly during the first quarter, Pimco has favored German bonds over Treasurys as Mr. Gross fretted about the U.S.'s fiscal deficit and avalanche of debt supply.
Mr. Gross has toned down his tone in recent weeks, acknowledging that Treasurys benefited from flight-to-quality demand. Mr, Gross boosted holdings of U.S. government-related debt in April, which include Treasurys, agency debt among others, to the highest level in five months in the Total Return Fund. Mr. Rodosky said the pace of the U.S. economy is likely to slow in the second half of the year, with concern focusing on a potentially disruptive handoff from growth led by government stimulus measures to growth led by the private sector.
In the euro zone, many governments will focus on fiscal austerity, which is likely to hurt the economic growth in the near term, even as such fiscal cuts may make their finances more sound in the longer term, he said. In the U.S., Mr. Rodosky noted that the economy still faces "bottlenecks" in delivering credit to small-sized businesses and home owners. With growth slowing, he said the Federal Reserve is unlikely to raise interest rates in 2010. The Fed has kept its key policy rate near zero since December 2008 to support the economic recovery and to tackle the high unemployment rate. "I would say that a rate hike is something probably a year out," said Mr. Rodosky. "I just don't see what would come together to make them feel that is what they have to do" this year.
Wall Street Still Doesn't Get It
by Steven Rattner - Wall Street Journal
A few days ago, I ventured into the belly of the beast—a mostly male, mostly young, sweaty gathering of more than a thousand turbocharged, chest-thumping hedge fund investors. The dozen orators at the Ira W. Sohn Investment Research Conference—a thoroughly estimable charitable event—chose an eclectic mix of topics. Some touted their pet stock ideas. Others deplored the dire straits of the United States and predicted economic Armageddon. All that separated some of these preachers from those on the televised Sunday morning revival meetings were periodic shouts of "Amen!"
I used my allotted 14 minutes on the stage at New York's sleek Jazz at Lincoln Center auditorium differently. Drawing on my stint in the Obama administration, I tried to offer a perspective on why the president and his advisers made the policy decisions they did as they battled the worst economic and financial crisis in 70 years. I flashed slides bubbling with wacky, heat-of-the-moment quotes from sages (including two Nobel Prize winners) to remind the audience of the administration's wisdom in resisting the many calls for ill-advised, extreme actions such as nationalizing banks.
Given my former role as lead adviser on autos, I zeroed in on the rescue of the car companies as an example of sensible policy. I noted the increasingly optimistic GDP estimates from one representative forecaster. And so on. A chilly breeze from the audience blew toward the podium. I pivoted to my next point, trying to explain that the current hostility toward Wall Street on the part of the American citizenry was both deep and understandable. But my attempt to award the administration credit for trying to manage the anger by recalling President Obama's remark a year ago to a gathering of bankers—"My administration is the only thing standing between you and the pitchforks"—was met with stony silence.
By the time I arrived at a key slide—one that ascribed the current angry mood in part to record levels of income inequality in America—at least one in the crowd could take it no more and booed loudly. I was dumbfounded. Was he seriously questioning my suggestion that 30,000 Americans should not command a full 6% of income in this country (a higher percentage than at even the end of the Roaring '20s)? I blurted out the first words that came into my stunned head: "I hope you are kidding."
Some in the audience applauded that remark but I couldn't tell if they were putting their hands together for me or for the heckler. As my speech progressed, I concluded that perhaps the protester was taking exception to my praise for Mr. Obama's balanced approach. Since returning to New York from the Auto Task Force, I have heard many financial types say that the president should have gone to the mat in defense of the banks.
Let's get real. As a long-serving veteran of Wall Street, I'm in heated agreement that the financial industry is one of the greatest success stories in U.S. business history. The vast majority of the major investment banks, private equity firms and hedge funds in the world were created in America. In an era where the competitive edge of a developed country will increasingly need to be its brains rather than its brawn, financial services hold the promise of being one of America's growth industries for the 21st century. It may not be quite God's work, but having liquid and efficient capital markets is critical for any vibrant and growing economy.
But by conveying little sympathy for the many suffering Americans and brushing off responsibility for the excesses of the last bubble, Wall Street has managed to exacerbate the public anger, which in turn has been quickly transmitted to our elected officials in Washington. Chief executives can preach all they want about the need for courageous political leadership but the cold, hard reality is that no elected official—not even the president—could survive full-throated resistance to the current tsunami of populism.
As I left, one sympathizer offered reassurance: "They're just angry because they haven't made much money this year." I thought about another of my slides, one that showed that income of the average American worker (after adjustment for inflation) was lower in 2008 (let alone 2009) than it was in 1999. How many of the attendees could say the same?
Mr. Rattner worked for 26 years as an investment banker and private equity investor before serving in the Obama administration as counselor to the secretary of the Treasury. His book, "Overhaul: An Insider's Account of the Obama Administration's Emergency Rescue of the Auto Industry," will be published by Houghton Mifflin Harcourt in October.
Credit Default Swamp
The Fed wants to give the blundering rating agencies even more power – this time over derivatives.
Could the political campaign to blame the financial panic on unregulated derivatives be losing momentum? Let's hope so, because this might save us from making new mistakes in the name of fixing the wrong problems. We now know that the predicted disaster for credit default swaps (CDS) following the Lehman Brothers bankruptcy never happened. The government also still hasn't explained how AIG's use of CDS to go long on housing would have destroyed the planet. And now the New York Federal Reserve's effort to regulate the CDS market is mired in a turf war. The Securities and Exchange Commission and the Commodity Futures Trading Commission have backed rival efforts in New York and Chicago.
But it is the New York Fed proposal that may pose the most immediate threat to taxpayers, because it is designed to include firms on at least one end of 90% of CDS contracts. After announcing its intention to begin by the end of 2008, the New York branch of the central bank is still awaiting approval from the Fed's Board of Governors to launch a central clearinghouse for CDS trades. Credit default swaps are essentially insurance against an organization defaulting on its debt, and they provide a real-time gauge of credit risk. This has proven particularly valuable because the Fed's method of judging risk -- relying on the ratings agencies S&P, Moody's and Fitch -- has been disastrous for investors.
Under pressure from the New York Fed, nine large CDS dealers -- giants like Goldman Sachs -- agreed to construct a central counterparty, which would backstop and monitor CDS trades. Called The Clearing Corp., it failed to catch on in the marketplace. So the big dealers recently gave an ownership stake to IntercontinentalExchange (ICE). In return, ICE agreed to make this government-created but privately owned institution work.
ICE has given the venture, now called ICE Trust, operational street cred, but the Fed-imposed architecture should still cause taxpayer concern. That's because it takes the widely dispersed risk in the CDS marketplace and attempts to centralize it in one institution. If not structured correctly, it may reward the participating firms with the weakest balance sheets. For this reason, some of the dealers who have resisted a central counterparty because it threatens their profits may now embrace it as a way to socialize their risks. What's more, if it allows these big Wall Street dealers to build an electronic trading platform on top of the central clearinghouse, the big banks could prevent pesky Internet start-ups from threatening their market share.
Here's how the New York Fed's central counterparty would change the market: Right now, CDS trades are conducted over-the-counter as private contracts between two parties. They are reported to the Trade Information Warehouse, so the market has some transparency, but nobody is on the hook besides the two parties to the agreement. This provides an incentive for each party to make an informed judgment on whether the counterparty can be relied upon to pay debts. The buyer of credit protection -- who is paying annual premiums for the right to be compensated if a company defaults on its bonds -- has every reason to study the balance sheet of the seller of a CDS contract.
In the New York Fed's judgment, the recent panic showed there wasn't enough transparency in CDS trades. This claim would have more credibility if the Fed would come clean about AIG. But in any case, the Fed's solution is to force CDS contracts into its central counterparty. There is a virtue here: A particular bank cannot throw out its collateral standards to please one large favored client, because the same standards apply to all participants. The nine large dealers plus perhaps four or five more participating firms would each contribute roughly $100 million to the central counterparty, and they'd have to cough up more money if failures burn through this cash reserve.
However, this system also introduces new risks, because all participants become liable for the potential failure of the weakest members. How does one appropriately judge the credit risk of a participant? ICE Trust and the Fed haven't released details. Sources tell us that participants will need to have a net worth of at least $1 billion, and, more ominously, that the Fed wants a high rating from a major credit-ratings agency as a crucial test of financial health.
If regulators learn nothing else from the housing debacle, they should recognize that their system of anointing certain firms to judge credit risk is structurally flawed and immensely expensive for investors. As Columbia's Charles Calomiris has explained on these pages, one reason the Basel II standards for bank capital failed is because they subcontracted risk assessments to the same ratings agencies that slapped AAA on dodgy mortgage paper.
Unfortunately, the Fed stubbornly refuses to learn this lesson. With its various lending facilities, the Fed continues to demand collateral rated exclusively by S&P, Moody's or Fitch. A rival ratings agency reports that the Fed recently rejected a request from a clearing bank to consider a ratings firm other than the big three. No doubt ICE Trust has a strong incentive to monitor counterparty credit risk. Our concern is that the Fed's failed policy on credit ratings will increase risks even further if it is allowed to pollute the $30 trillion CDS market. The credit raters have shown they are usually the last to know if a bank is in trouble, yet under a credit-rating seal of approval such a bank could maintain the illusion that all is well.
If you have trouble conceiving of such a scenario, reflect on the history of Enron, Bear Stearns, Lehman, Citigroup, the mortgage market, collateralized-debt obligations, etc. Now try to imagine how long it will take the Fed to commit taxpayer dollars if this central counterparty fails. Any plan that seeks to minimize marketplace risks by concentrating them in one institution deserves skepticism. Relying on ratings from the big three to assess these risks would be an outrage.
Memo to Deficit Hawks: Let’s Get the Facts Right
by Henry Liu
The sovereign debt crisis in Greece has sparked a panic wave of radical policy demands for fiscal discipline throughout the European Union from a perverse coalition of neoliberal public finance ideologues and anti-government conservatives. Proponents of fiscal discipline argue that the EMU and its common currency, the euro, would not be sustainable without the drastic restructuring of public finance in all eurozone member states through a combination of tax increases and deficit reduction through fiscal austerity. But creditors, mostly transnational banks, will be protected from having to accept “haircuts” on their holdings of sovereign debt.
Yet such harsh approaches of tight fiscal austerity at a time when the global recession of 2008 is still waiting in vain for a recovery will risk increasing the danger of a double dip recession in 2011 in a secular bear market. The alarmist voices of these fiscal deficit hawks clamor for fiscal austerity programs that are essentially punitive for eurozone workers while continuing to tolerate abusive financial market manipulation that will benefit only the financial elite as the economic pain is passed on to the general public.
Bank Creditors against Wage Earners
Fiscal deficits across the eurozone are to be reduced by cutting public sector wages and social benefit and subsidy expenditures so that transnational bank creditors will be paid in full while turning a blind eye to blatant tax evasion and avoidance by the rich with non-wage income that contribute to loss of government revenue and fiscal deficits. The dysfunctional disparity of income and polarization of wealth between the wage-earning masses and the financial elite with income from profit and capital gain, are the main causes of overcapacity in the economy. In past decades, the neoliberal response to overcapacity was to shy away from the obvious solution of raising wages, turning instead to flooding the economy with huge mountains of consumer and corporate debt that eventually resulted in a tsunami of borrower defaults that turned into a global credit crisis. Yet repeating the same response to the current crisis will lead only to another global crisis down the road.
While the culprits of the global credit meltdown of 2008 have been bailed out with the public’s future tax money, the sovereign debt crisis across the globe is blamed on innocent wage earners for receiving supposedly unsustainably high wages and excessive social benefits that allegedly threaten the competitiveness of economies in a globalized trade regime designed to push wages down everywhere.
Sovereign Debt Crisis not caused by the Welfare State
The rush by the rich and powerful to punish the trouble-causing working poor goes against strong evidence that the current sovereign debt crisis is not caused by high social welfare expenditure, but by a sudden drop in government revenue due to economic recession caused by credit market failure under fraudulent accounting allowed in structured finance for which the financial elite are directly and exclusively responsible.
Through devious “special purpose vehicles”, the sole special purpose of which is to treat proceeds from debt issuance as revenue from sales to remove financial liability from government balance sheets to present a deceptively robust picture of public finance, phantom profits are siphoned off from the general economy into the pockets of greed-infested financiers while pushing the real economy out of balance, resulting in high real public debts that inadequate aggregate worker income cannot possibly sustain. As a portion of GDP, wages and benefits have been falling in past decades while the public debt has been rising. Transnational financial institutions routinely generate profits larger than government revenue of small economies.
Despite propagandist distortion, the sovereign debt problem has not been caused by the high cost of a welfare state; it has been caused by deregulated financial markets that allowed governments to borrow huge sums against future revenue from public sector enterprises without showing the liabilities on government balance sheets. Structured finance was providing participating governments with up-front cash while hiding the sovereign debts that had to be paid back in the future. But the bulk of the borrowed money went to the pockets of dealmakers of public sector privatization while the debts were left with society at large. A large amount of the national wealth is transferred from the local economy to international speculators through legalized manipulation made possible by deregulated financial market globalization. It is a new form of synthetic financial imperialism against weak economies through a scheme of naked shorts against the currencies and equities of vulnerable nations.
Fiscal Austerity will endanger the EU
Further, such punitive fiscal austerity solutions will render the EU unsustainable as a political superstructure due to violent popular opposition in the constituent nations. Third Way centrist synthesis of free market capitalism with the social democratic welfare state has provided the enabling conditions for the current sovereign debt crisis. Market fundamentalism has been exposed by unhappy but predictable events it helped create as an exorbitant and spectacular failure. And the exorbitant cost of this spectacular failure of market fundamentalism will be put on the back of the innocent working poor.
There are strong signs that voters in countries with multiparty democratic political systems have been brainwashed into believing that free market capitalism with minimum government intervention is the only road to prosperity. Voters have been conditioned unwittingly to buy into an anti-government ideology that diametrically contradicts the public’s other demand for generous safety nets of socioeconomic security that only government can provide.
When the gullible weak is convinced by the devious strong in society that government is the problem, not the solution, the weak are inadvertently trapped into a political climate that permits the destruction of their only institutional protector, since the existential function of government, regardless of political and economic color, is to protect the weak from the strong.
Government non-interference through deregulation and privatization of the public sector leads to the law of the jungle in free markets under which the economic function of the financially weak is to serve as the food supply for the financially strong. Historically, government evolves in civilization so that the weak masses can collectively resist the oppression of the strong elite. This is the reason why the strong in society always bash popular government.
Price of Saving the Euro may be EU Dissolution
Thus the attempt to save the euro from collapsing in exchange value under the weight of aggregate eurozone member state sovereign debts through coordinated fiscal austerity in all member states of differing socio-economic legacy and conditions will incur the price of political divergence of the member states from the European Union. Member state governments are pulled apart from the union by centrifugal nationalist forces generated by separate and divergent domestic politics. Popular sentiment against local fiscal austerity for the sake of preserving the European Union is spreading like wild fire in this sovereign debt crisis of the European Union.
But a weakening of convergence toward full integration of European nation states will prolong the euro’s structural vulnerability as a common currency without a unified political structure and condemn it to remain a multi-state currency with high political risk. This internal contradiction is the Achilles’ heel of the euro, which is the legal tender of a monetary union without a political union.
Stormy Political Weather for Incumbents
Stormy political weather has recently battered incumbent centrist political leaders in several countries by holding each of them separately responsible for the austerity measures they are now forced to implement to get their different economies out of unsustainable sovereign debt.
In order to meet a 2013 deadline for compliance with EMU’s euro convergence criteria as spelled out in its Stability and Growth Pact (SGP), at the end of the preceding fiscal year, the ratio of the annual government fiscal deficit to GDP must not exceed 3% and the ratio of gross government debt to GDP must not exceed 60%. This means the eurozone governments need to slash their individual budget deficits to add up to a total of €400 billion. This huge sum will be taken primarily from the pockets of public service employees, pensioners, the unemployed and the indigent in the EU for decades to come.
Greece was forced to adopt on May 11, 2010 an austerity plan to reduce its budget deficit by €30 billion over the next three years through wage, benefit, subsidy and pension cuts, slashing social programs and an increase in VAT (value added tax).
On May 26, Spain announced cuts of €80 billion from its fiscal budget, shedding 13,000 public service jobs, reducing salaries of state employees by 5% and freezing pensions. The allowance of €2,500 for parents of a new birth to reverse declining population trends will be suspended.
Portugal has imposed a hiring and salary freeze in the public sectors and passed an increase in VAT in order to cut €20 billion from its budget deficit.
The Italian government launched measures that will result in cuts of €24 billion by 2012. They include a reduction in civil service jobs, salary cuts, raising the retirement age and cuts in the health care system.
France plans to reduce its budget deficit from 8% to 3% of GDP by 2013. This will be achieved by delaying the retirement age of public employees; cuts in housing benefits, employment compensation and museums funding; as well as a 10% cut in administrative costs.
The German government will decide upon concrete austerity measures on June 6 and 7. The so-called “debt brake”, anchored in the German federal constitution, imposes a reduction in new debt of €60 billion by 2016. Among the many measures under discussion are cuts in social programs, such as family, child, welfare and disability benefits, annuities and pensions.
Delaying Retirement Age Counterproductive
The EU Commission suggests that the retirement age in Europe should continue to rise steadily. This is to ensure that in the future, no more than a third of a person’s adult life could be spent in retirement. In the long term, this would mean raising the pension age to 70. This will add pressure on young new entrants to the job market for the next two decades, as fewer positions will be vacated by retirement of the currently employed.
The new center-right British conservative government announced immediate budget cuts of £7.2 billion, including a hiring freeze in the civil services. The new Prime Minister, David Cameron, said Britain’s budget deficit will be cut over the next four years by more than £100 billion. This will include slashing 300,000 posts in public service and a freeze on public sector pay.
For millions of workers and young graduates, the newly-adopted measures mean rising unemployment and poverty levels. In particular, old-age poverty will again become a mass phenomenon in Europe. Nothing will remain of the post-war welfare state. A study by the Carnegie Endowment for International Peace think tank in the US concludes that “the welfare states set up across Europe from the 1940s onwards with the aim of suppressing popular unrest and paying off tensions that could lead to another continental war” are “unaffordable”. What was left unsaid in the study was that it would be unaffordable only if the disparity of income and polarization of wealth were to be allowed to continue. In an overcapacity economy, the people can afford what they produce if the system does not deprive the majority of their right to the wealth they create and hands it to a controlling minority. Revolution would have to come by policy or it will come by violence.
Crisis of Maldistribution of Income and Wealth
In a fiat money regime, it is the central bank’s responsibility to ensure an adequate supply of money. The fiscal budget shortfalls that are being used to justify the dismantling of the welfare state are the result of the systematic maldistribution of income and wealth from those at the bottom of society who do the work to those at the top who do the manipulation.
For a quarter of a century since the late 1970s, both right-wing and center-left governments have reduced taxes on income and property for the rich, depressed wages through structural unemployment as a tool to fight inflation and have abdicated government responsibility in maintaining economic justice.
The concept of a living wage is regarded by new coalition as Utopian. Wages are set by their marginal utility to the return on capital in unregulated markets rather than by the economic law of demand management in a modern overcapacity economy of business cycles, the recessionary phase of which has become nearly continuous. Popular discontent is muted with unsustainable increases of the public debt. These are the main causes of the sovereign debt crisis, not over-consumption by the working poor.
Public Debt Crisis caused by Bank Bailouts
The public debt had been pushed up sharply in the last two years by the trillions that governments, run by free market policymakers, pumped into distressed banks to prevent their collapse from proprietary speculation in deregulated markets. Recent figures from the German Bundesbank showed that in 2008 and 2009, some 53% of Germany’s new public debt was used to rescue distressed financial institutions. The total new public debt rose by €183 billion in those two years; the costs involved in supporting distressed financial institutions amounted to €98 billion.
Trade Union Leaders as Hatchet Men of Neoliberalism
To push through the austerity measures against the working poor, the ruling financial elite drafted the social democrats and the trade unions as their hatchet men. In the PIIGS (Portugal, Italy, Ireland Greece and Spain) countries, social-democrat-run governments impose the austerity measures, or, as in Britain, France and Germany, the social democrats have so discredited themselves by their previous cost-cutting measures that now the right-wing parties have reaped the political benefit. In all cases, the social democrats leave no doubt that they support the cuts, telling working people that there is “no alternative”.
Trade union leaders have been willingly subscribing to the discredited “TINA” (There Is No Alternative) voodoo economics of Reagan and Thatcher, in cooperation with corporate-controlled governments to wage financial war on labor. The labor-organized demonstrations and strikes against austerity measures have all been suppressed by armed police, with the violence and deaths exploited as reasons why labor protects must cease.
Yet labor has a moral and functional obligation to force structural changes in this dysfunctional economic system, instead of continuing to remain a passive victim in the new age of wholesale anti-labor selfdom. Meanwhile, a conservative populist movement that calls itself TEA (Tax Enough Already) Party is gaining popular support and can easily be transformed into a fascist political force. Left unsaid in TEA Party rhetoric, beside protest on rising taxes, is protest on the prospect that the tax money should be spent on the poor, rather than bailing out the errant financial elite. Until labor takes the rein of reform, the EU’s trillion-dollar stabilization package will end in failure.
Please see full article: Trillion Dollar Failure
BP oil spill fears hit North Sea as Norway bans drilling
by Rowena Mason and James Quinn - Telegraph
Norway has banned new deepwater oil drilling in the North Sea amid in a sign that panic over BP's Gulf of Mexico spill is spreading. As the political fall-out moved beyond America, US President Barack Obama attacked BP chief executive Tony Hayward, saying he should have been sacked for tactless comments after the spill. Britain yesterday ruled out a moratorium "for the moment" on deep water exploration, but Norway, its North Sea neighbour, said it had sufficient concerns to halt all new drilling until a full inquiry is conducted into the cause of BP's leak.
Terje Riis-Johansen, Norway's oil minister said: "What is happening in the Gulf of Mexico is so unique, it's gone on for such a long time, the blow-out is so big, we must gather enough information from it before we move on." The move will pile pressure on the British Government to put the North Sea oil industry under more scrutiny. Charles Hendry, Britain's new energy minister, said he wanted deep drilling due to start off the Shetland Islands to go ahead, despite concerns about industry safety standards. He said yesterday that it was sufficient to increase inspections of rigs and set up a new industry body to probe safety, as new deepwater exploration gets underway.
Shares tumbled across the oil and energy services sector yesterday, amid unconfirmed reports of another Gulf of Mexico leak at a rig operated by Diamond Offshore and a fresh onslaught on BP by Mr Obama. He launched a personal attack on Mr Hayward, saying he should have been fired over ill-judged comments. The President, who has been criticised for failing to take control of the oil spill, added that he has spent so much time in the Gulf region so he "knows whose ass to kick". Speaking on the US television show Today, he lashed out Mr Hayward for saying he wanted his "life back". "He wouldn't be working for me after any of those statements," he said.
BP's share price fell a further 5pc, or 21.4, to 408.9p in London, meaning £45bn has now been wiped off its market value. Having been Britain's biggest company, worth £120bn, it is now threatening to fall into third place behind Vodafone - having already been overtaken by Royal Dutch Shell. The accident has taken 213 points off the benchmark FTSE 100 share index. Mr Hayward, who said this weekend that he had no intention of stepping down, will face the wrath of US politicians when he testifies to an inquiry on June 17 - one of 28 separate congressional hearings on the spill.
There is growing frustration in the US that BP has failed to plug its well 47 days after the Deepwater Horizon rig operated by Transocean exploded killing 11 men. The spill has so far polluted hundreds of miles of coastline. BP said last night that it is now capturing almost 15,000 barrels a day out of an estimated 20,000 coming out of the ground. But Mr Hayward's insistence that there is "no evidence" of any oil plumes beneath the ocean's surface was thrown into doubt when scientists confirmed the presence of "low concentrations of subsea oil".
BP shares under pressure as U.S. probes Gulf spill
by Anna Driver and Caroline Copley - Reuters
BP Plc's efforts to stop oil from its blown-out well gushing into the Gulf of Mexico will come under U.S. congressional scrutiny on Wednesday as the British oil company's stock price continued to fall. BP shares fell 3.2 percent in London, following a 5 percent drop on Tuesday, on worries that the energy giant will have to suspend its dividend payment under pressure from U.S. politicians who say it should go to pay for legal claims and environmental damage in the Gulf.
The cost of protecting BP debt against default also rose sharply, with the five-year credit default swap widening 55 basis points to 315 basis points, three times higher that at the end of May, a London trader said. The political drama in Washington and the containment drive in the Gulf were being keenly watched by investors who have seen recent loses erase a third of the company's value.
The disaster remains at the top of President Barack Obama's agenda, a point underscored by his strong comments and his plans to head back to the Gulf next week to inspect operations to grapple with the worst oil spill in U.S. history. Obama said on Tuesday that he would have fired BP Chief Executive Tony Hayward if he worked for him because of his statements minimizing the impact of the spill.
The slick has fouled wildlife refuges in Louisiana and barrier islands in Mississippi and Alabama and also sent tar balls ashore on beaches in Florida. One-third of the Gulf's federal waters remains closed to fishing and the toll of dead and injured birds and marine animals is climbing. In Washington on Wednesday morning, Interior Secretary Ken Salazar will testify at a Senate hearing on safety issues in off-shore oil development, a day after his department issued stronger safety requirements that companies must meet to drill in waters less than 500 feet/152 metres deep.
On the corporate front, BP shareholders would prefer to sacrifice the company's Chairman Carl-Henric Svanberg rather than CEO Hayward over the ongoing crisis, the Times reported in its Wednesday edition. Citing an unidentified person close to the British company, the Times said shareholders had more confidence in Hayward's ability to supervise BP's response to the crisis than Svanberg, who has been largely invisible.
"The mood within the company and among shareholders is clear -- they are supportive of Tony, who they feel has done his best in a very bad situation, but they are unimpressed by Svanberg," the London newspaper reported the person as saying. A BP spokesman dismissed the claims former Ericsson boss Svanberg, who took over the role of chairman in January, would consider stepping down.
All of this is taking place against the backdrop of rising public anger and an unfolding ecological catastrophe. U.S. weather forecasters gave their first confirmation on Tuesday that some of the oil leaking from BP's well has lingered beneath the surface rather than rising to the top. Undersea oil depletes the water's oxygen content and threatens marine life like mussels, clams, crabs, eels and shrimp.
It was the first government confirmation of undersea oil near BP's blown-out well a mile (1.6 km) beneath the ocean. Previously, both NOAA and BP have played down the possibility of undersea plumes. Scientists involved in the studies will testify before a House of Representatives Energy and Commerce subcommittee panel that is probing the spill -- one of the several being held on Wednesday's busy day of hearings. Meanwhile, BP will be striving to contain more of the oil spewing from the ocean floor.
BP said on Tuesday it had collected 14,800 barrels of oil from the leaking well on Monday, 33 percent more than the amount collected on Sunday and the highest capture rate since it installed a new system last week to contain the spill. The company later said it collected 7,850 barrels of oil in the 12-hour stretch ended at noon CDT (1700 GMT) on Tuesday. That brought the total collected since the cap was installed to 51,364 barrels. But the ultimate solution to the leak lies in the drilling of a relief well and that won't be completed before August, meaning there could be a long hot summer of public discontent ahead.
BP faces a criminal investigation and lawsuits over the April 20 explosion aboard the Deepwater Horizon oil rig that killed 11 workers and triggered the spill. The company has already spent more than $1 billion on the clean-up.
Feds knew of Gulf spill risks in 2000, document shows
by Shashank Bengali - McClatchy Newspapers
A decade ago, U.S. government regulators warned that a major deepwater oil spill could start with a fire on a drilling rig, prove hard to stop and cause extensive damage to fish eggs and wetlands because there were few good ways to capture oil underwater. The disaster scenario — contained in a May 2000 offshore drilling plan for the Shell oil company that McClatchy has obtained — is now a grim reality in the Gulf of Mexico. Less predictably, perhaps, the author of the document was the Interior Department's Minerals Management Service, the regulatory agency that's come under withering criticism in the wake of the BP spill for being too cozy with industries it was supposed to be regulating.
The 2000 warning, however, indicates that some federal regulators were well aware of the potential hazards of deepwater oil production in its early years, experts and former MMS officials told McClatchy. Yet over the past decade, the risks faded into the background as America thirsted for new oil sources, the energy industry mastered new drilling technologies and the number of deepwater wells in the Gulf swelled into the thousands. Then-President George W. Bush ushered in the new era with an executive order on May 18, 2001, that pushed his new administration to speed up the search for oil.
"I think it was certainly overwhelmed by the excitement of all the oil and gas that was starting to show up in the seismic studies and the technical excitement of how to drill these reservoirs," said Rick Steiner, a veteran environmental scientist who reviewed the document for McClatchy. "I think that had a way of subduing the real concern about the risk of these things." The Shell plan, which Greenwire, an environmental news service, first reported last week, described a worst-case scenario for a deepwater blowout that in several instances reads like a preview of what's happened since BP's Deepwater Horizon rig began spewing crude into the Gulf seven weeks ago.
While noting that a major blowout was very unlikely, the Shell plan said: "Regaining well control in deep water may be a problem since it could require the operator to cap and control well flow at the seabed in greater water depths . . . and could require simultaneous firefighting efforts at the surface." The BP disaster started when the drilling platform exploded, sending a towering wall of flames into the sky and killing 11 workers before it sank.
The 2000 Shell plan also cautioned that an oil gusher wouldn't behave the same way in deepwater as one would in shallow water, where most drilling to that point had been done. "Spills in deep water may be larger due to the high production rates associated with deepwater wells and the length of time it could take to stop the source of pollution," it said. Among its other warnings for a drill site less than 140 miles southwest of BP's Deepwater Horizon:
- The chemical dispersants required to clean up a major spill would expose adult birds to a combination of oil and dispersant that could "reduce chick survival."
- "Fish eggs and larvae within a potentially large area of the northern Gulf would be killed."
- In certain weather and oceanographic conditions, a large blowout could have "severe adverse impacts" for wetland areas.
- Not all the spilled oil would rise to the surface, and "there are few practical spill response options for dealing with submerged oil." It predicted that gas surging from a blowout could form hydrates and remain deep underwater, a likely cause of some toxic subsea oil "plumes" that scientists have identified in the BP spill.
"That's pretty prophetic," Steiner said.
Dennis Chew, a marine biologist who helped prepare the plan but has since retired after 21 years with the MMS, studied it again this week and said: "Bottom line, this (BP) blowout was preventable." However, he blamed the accident on human error and BP "cutting corners." The Department of Interior didn't immediately respond to requests for comment. Chew and two other members of the team that prepared the Shell plan told McClatchy that MMS scientists had analyzed the potential impact of deepwater blowouts as far back as the late 1990s. "Ten or 15 years ago, there used to be 200-page (environmental impact statements) on nothing but spills," Chew said. "It got to where people got tired of wading through them."
The 2000s, however, ushered in an era of aggressive, government-backed offshore oil production. In May 2001, Bush, acting on recommendations from the oil industry, signed an executive order that required federal agencies to expedite permits for energy projects and paved the way for greater domestic oil exploration. The rush to drill in deep water swept aside warnings from MMS scientists and others, experts said. "It's the fault of both the industry and the government," Steiner said. "If they had taken it seriously, they would have been ramping up production of safer blowout preventers and emergency procedures on board. They would have said, 'There's a 0.01 percent chance of this but that's enough for us, because this would be catastrophic.' "
As the agency that manages offshore drilling on the outer continental shelf and collects revenue from drilling leases, the MMS's regulatory failures and cozy relationship with the oil industry have been well documented. Its director, Elizabeth Birnbaum, resigned last month, and Obama administration officials have said the agency will be split into three branches to avoid conflicts of interest. McClatchy reported last week that the MMS under the Obama administration had approved dozens of deepwater exploration plans that downplayed the threat of blowouts to marine life and fisheries. After McClatchy's inquiries, the administration ordered oil companies to resubmit the plans with additional safety information before they'd be allowed to drill new wells.
Public Employees for Environmental Responsibility, a watchdog group, reported last month that BP's spill response plan erroneously listed seals and walruses as "sensitive biological resources" in the Gulf — suggesting that portions of BP's plan were cut and pasted from Arctic exploratory documents — and cited a Japanese home shopping website as one of its primary equipment providers. Steiner found flaws in the 2000 Shell plan, too. It offered optimistic projections of the possibility of a deepwater blowout being bridged, or naturally sealed by sliding rock on the seafloor. It also said that a blowout from exploratory drilling would last only two days, supposedly due to bridging. "This plan, like all of them, underestimates risk and overestimates the effectiveness of the response," Steiner said.
As Spill Missteps Mount, So Does the Backlash
by Guy Chazan and Susan Daker - Wall Street Journal
U.S. officials said Tuesday that BP PLC was collecting so much oil from its broken well a mile under the Gulf of Mexico that it didn't have a big enough boat to hold it—the latest in a series of miscalculations stoking a political backlash against BP and the global oil industry. President Barack Obama on Tuesday piled the pressure on BP and its beleaguered chief executive, Tony Hayward, telling NBC News in an interview aired Tuesday that he would have fired Mr. Hayward by now if he worked for him. The president responded to criticism that his response to the crisis has been too cool and that he shouldn't be spending time meeting with experts, saying he had been talking to experts "so I know whose ass to kick."
Mr. Obama faces rising frustration, and according to some polls, falling approval for his administration's handling of the Gulf disaster. A few weeks ago, Mr. Obama left the rhetorical flourishes to subordinates, such as Interior Secretary Ken Salazar, who said the administration would keep its "boot on the neck" of BP. But Democratic figures such as strategist and CNN pundit James Carville began taking Mr. Obama to task for not being tough enough on BP. Now, Mr. Obama himself is scolding BP, warning the company last week against "nickel and diming" Gulf residents, and using a series of televised interviews this week to say he was "furious" about the situation. More substantively, the White House is now backing a move to lift all caps on liability oil companies could face for spilling crude.
Frustration over the spill could cost BP and its oil industry rivals heavily in the years to come. The costs will come in the form of new regulations—such as those issued Tuesday by the Obama administration as the prerequisite for companies to resume offshore drilling in waters shallower than 500 feet. The new rules call for, among other things, more extensive inspection and certification of blowout preventers, the huge devices that are supposed to stanch the flow of oil from a damaged well. A failed blowout preventer is one factor in the huge BP spill.
Congressional Democrats, led by House Speaker Nancy Pelosi, met Tuesday and emerged to declare they were determined, in her words, "to exploit and enforce the laws that are there; change them if necessary; and pass others to make us stronger in terms of protecting the interest of the taxpayer, the economy, the ecology, the quality of life of the region."
The industry—or consumers—could also pay in the form of higher taxes. Legislation pending in the Senate would increase a per-barrel tax paid by oil companies to 41 cents, up from 8 cents, raising $14 billion over 10 years. The tax is supposed to support a government fund created in 1990 after the Exxon Valdez spill to help fund cleanup projects. Senate Republican Leader Mitch McConnell of Kentucky said Tuesday that Democrats were raiding the fund to pay for programs not related to oil-spill cleanup. New revenue raised by the levy "ought to be used to clean up spills," he said.
Oil companies will pay in another way: Lost or delayed opportunities to drill. The U.S. has called a six-month moratorium on new deepwater drilling and cancelled the sale of oil leases off the East Coast and Alaska. The Obama administration had also halted shallow-water drilling pending the issuance of the new rules; complying with those rules could keep rigs off the water for more days or weeks.
The new rules issued Tuesday require a company's chief executive to personally certify that the operator has complied with all regulations, that drilling equipment has been tested and that personnel are properly trained, among other things. And they require independent verification for a number of systems, particularly blowout preventers. "We are pleased that a framework is beginning to take shape to allow shallow-water drilling activity to resume," the American Petroleum Institute, a trade group for oil companies, said in a statement. The group cautioned it was studying the details of the new shallow-water rules, and said it remained concerned that the moratorium on deepwater projects would threaten jobs and oil production.
The shallow waters of the Gulf of Mexico account for about 55% of all natural gas produced in the Gulf and about 20% of all the oil. The deepwater region, where BP was drilling an exploratory well that blew up, accounts for more than 80% of the oil produced in the region. Michel Claudet, president of Terrebonne Parish, said the resumption of shallow-water drilling wouldn't help his parish. Deepwater exploration and drilling supports far more jobs. "We'll live through the seafood [collapse], even though we don't want to. But this whole moratorium will be a nail in the coffin of Terrebonne Parish," he said.
So far, the oil industry has dodged major regulatory clampdowns elsewhere in the world. Norway on Tuesday said it was "not appropriate" to allow new deepwater drilling until the Deepwater Horizon incident had been fully investigated, but the government said it would go ahead with plans to award new exploration licenses in its territorial waters next year. The U.K. said Tuesday it wouldn't halt drilling in the West of Shetland area north of Scotland, one of the most promising deepwater sites in Europe. Officials did announce plans to double the number of annual environmental inspections of drilling rigs.
In the Gulf, BP's costs for the disaster are mounting fast. Late Tuesday, the British oil giant said it would donate net revenue from the oil it is collecting from the well to organizations working on the Gulf cleanup effort. The company still faces pressure from the Obama Administration to pay more, faster, and to move more rapidly to capture oil from its well. BP, which is capturing about 15,000 barrels a day from the well now, plans in the next week or so to expand its oil-containment effort by another 5,000 barrels a day, deploying another vessel already at the site of the spill. The company is also bringing in storage vessels from elsewhere in the world, including a tanker from the North Sea.
A group of scientists working for the U.S. government is expected to release later this week a new estimate of how much oil is flowing from the well. Scientists charged with studying the flow rate are now analyzing high-resolution video of the leak using a method called particle image velocimetry, which involves observing separate features in the flow from one frame to the next to measure the velocity of the fluid.