An exhausted oil-covered brown pelican sits in a pool of oil along Queen Bess Island Pelican Rookery, 3 miles northeast of Grand Isle, Louisiana
Ilargi: The cat is out of the bag (or Schrödinger’s box, if you prefer, to add some spice). And if not the whole cat, surely its tail is. Maybe French Prime Minister François Fillon spoke out of line, or maybe it was orchestrated, we’ll probably never know for sure, but the good soul brought the Euro down on Friday while at the same time confirming what The Automatic Earth readers have been able to read from me for a long time now.
Which is: Europe has been building a concerted effort to bring down the value of the Euro since at the very least the beginning of 2010. And the effort has been remarkably successful. While Americans often tout the power of the Federal Reserve, or the US Treasury Secretary, the comparative value of the US dollar has risen hugely in the past half year, which turns President Obama's goal of doubling US exports in the next five years into a red-nosed type comic relief exercise.
Mr. Fillon's "admission" leads some pundits to suggest that France and Germany are on different sides of an imaginary divide, but they haven't been paying attention. Germany’s economy is doing -relative to others- quite well, thank you very much, and many thanks to the falling Euro, and Angela Merkel has no reason to internally contradict Fillon's intentions, even though she may not have liked these to be out in the open. At this point it’s hard to guess when certain parties would like specific details known, even if Merkel looks like a musical director no orchestra member would or should like to clash with.
Mr. Fillon goes as far as saying that the European Central Bank (re: Berlin, Paris, Amsterdam) wants the Euro to achieve or sink below parity with the US dollar. Personally, I doubt that. It may be just a statement designed to speed up the fall of the currency. I’m thinking Merkel et al are aiming for $1.10-1.15 for the Euro. But they may have decided to go for the jugular, it's possible. A strong currency is great in times of strong economies, whereas a weak one fits weak times. It all depends on how Berlin and Paris view the future, which is something they'll never ever let the public in on. Politics, after all, is about looking ahead in silence.
Not that these people have some sort of absolute control, mind you. What's happening is that they have no choice. A very similar thing as applies to currencies in weak vs strong economic times also holds true for the relative value of exports to national economies. And I’ve talked about this before: very few people seem to understand that in bad economic times, where a lot of debt is involved, the relative values of exports rises exponentially.
What you can’t sell, you have to borrow, to put it into an albeit simplified way. We now see even Nouriel Roubini, who's been hiding in a dark humid doom corner over the past year, come out and say that a weaker Euro might save the Eurozone. Which, to wit, is what I’ve been saying all along: in order for Germany to save the union, and to bail out Greece and others, it will have to sell products, it’s really as simple as that, no big major mysteries there.
US Treasury Secretary Timothy Geithner calls for the opposite of all this: more domestic demand in the main Euro countries. Still, is he really that witless, or have the banks he works for in real life made trillion dollar bets on the very outcome we’re seeing develop before our eyes today, the US dollar doing precisely what no US manufacturer wants? That one I can’t answer. Geithner may not be the brightest light of day, but to presume he’s that thick is quite a different matter altogether. Still, yes, that would mean that he is actively trying to strangle US industrial capacity. Not a trivial trifle matter either.
A Euro at $1.40 or even $1.50 as always a threat to many parties, if only because many US products are assembled in 2 cents an hour economies. Parity? Perhaps, if Merkel et al are clear enough on the depth of the -inevitable- coming downfall (we don’t know what and how much they know). There would be a huge psychological advantage to a $1.10 exchange rate, but if Merkel knows what I do, and acts on it despite potential election losses (which I have no worries about), the decision may already have been made to aim for below parity, and the US interests have no choice but to rake in the profits from the resulting short trade.
And as we saw on Friday, Europe has a seemingly endless series of aces up its sleeves to achieve what it desires. Out of the blue, Hungary, which is not even a member of the Eurozone, became a major news item because of its awful economic prospects. That's where you get to think: look, the entire world, all of it bar none, has awful economic prospects. Why Hungary? And then the Euro went to below $1.20 for the first time in over 4 years. And you go: Ahhhh, Hungary, right!!, and next week Bulgaria, Romania, Latvia. By now I’m sure you get the idea.
And Washington will come back with: but we have New Jersey, and California, and Illinois, and they’re worse off than Eastern Europe by a mile, and we want exports too. Yeah, but the US has so far kept up the apperance that its central and centralized government will make good on all debt all over the 50-odd states. And as long as it keeps up that charade, Merkel wins. Whereas once that charade can no longer be maintained, there’ll be as many valid concerns about the survival of the USA as there now are about the European Union.
We're entering the reality phase of the economic downturn. The first party to recognize that has a head start. At the same time, as I indicated earlier, the major banks that own US and -most of- Europe politics and politicians may well have realized that a long time ago, and divvied up the loot well in advance. Still, go long the Euro at this point in time? Not me.
And then again, who's thinking about money when you see an entire and fast expanding (Louisiana, Alabama, Misissippi, Florida, Georgia, Carolina's and more) local ecosystem and economy go up into less than nothingness? What are our prorities, exactly?
Ilargi: Today, as we can all see the devastation visited upon us, we need you more than ever to either donate money directly and/or visit our advertisers. We want to, and will, expand TAE to a great extent, tentatively as per July 1. Having to prepare, organize and execute that on a scrape-by budget makes it that much harder. And yes, we do know how close we may be already to the real major economic changes we've long predicted but haven't yet seen. But then, that’s exactly why we feel we have to do more, not less. Still, hard as we try, hard as we work, it’s just not going to happen without you.
French PM: ECB wants euro to fall to parity with dollar
by Nick Doms - Huliq
French Prime Minister Fillon told news reporters today that he can only see good things for the immediate future if the euro would fall further against the dollar and reach a 1:1 parity with the greenback. In the past one month the exchange rate of Euro vs Dollar was falling steadily now below 1.20 dollars for one euro. Sources in the French Finance Ministry confirmed that the ECB is seeking a weaker euro and supports the French idea of letting the euro slide versus the dollar to or even below a parity level.
Such news is a surprise and a change in monetary policy as set forth by Jean-Claude Trichet, Chairman of the ECB, who only a few weeks ago promised support for the euro and its members by agreeing to an 860 billion euro rescue package for Greece and his pledge to buy Club Med government bonds as collateral for the loans. It seems that the ECB is taking a completely different direction and one that Angela Merkel, German Chancellor, will not like nor approve of. This new announcement may very well lead to intense discussions between Nicolas Sarkozy, French President, and Mrs. Merkel during the weekend and could strengthen her position to demand a replacement of Mr. Trichet as Chairman before his term expires in 2011.
It has been widely known that Germany would prefer the reins of the ECB to be in the hands of Axel Weber, Head of the German Central Bank, which would allow Germany to steer the fiscal and monetary policy in a direction that can ultimately save Europe as well as the Eurozone. The euro continued to slide today based on the news that France may face a downgrade and Hungary may need a bailout and closed at 1.19 versus the dollar.
French PM says not concerned by euro decline
by Crispian Balmer - Reuters
French Prime Minister Francois Fillon said on Friday he was not concerned by the decline of the euro against the dollar, saying the previous higher exchange rate had damaged French exporters. "I have not changed my position for years. With the President, we were complaining about the fact that the level between the euro and dollar did not correspond to the reality of the economies and was strongly handicapping our exports," he told reporters at a news conference. "Therefore, I have no worries regarding the current rate."
Fillon's comments sent the euro to its lowest level against the dollar in more than four years, although it subsequently recovered a little. His comments reflect a longstanding position among French leaders including President Nicolas Sarkozy that the strength of the euro in past years was damaging the country's export sector. Economy Minister Christine Lagarde said this week that exporters appeared satisfied with the weaker euro, while European Central Bank governing council member Christian Noyer said that the euro was close to its long-term average.
The single currency has fallen from some $1.44 at the start of the year to just above $1.20 on Friday afternoon amid mounting worries about the stability of public finances in the 16-member monetary zone. The largest share of France's exports goes to its partners in the euro zone but one of its industrial flagships is Airbus parent company EADS , which competes primarily with U.S. aircraft maker Boeing Inc.
Geithner: Global Reliance on U.S. Consumer Will Curb Growth
by Timothy R. Homan - Bloomberg
Treasury Secretary Timothy Geithner told his Group of 20 counterparts that the pace of the global recovery depends on domestic demand in Japan and Europe, and countries shouldn’t rely on spending by U.S. consumers. “The necessary shift towards higher savings in the United States needs to be complemented by stronger domestic demand growth in Japan and in the European surplus countries, and sustained growth in private demand” and end to the yuan peg in China, Geithner wrote in a letter before a two-day G-20 meeting in Busan, South Korea that ended today.
Geithner’s remarks underscore signs of differences over how quickly to rein in public spending, with the Treasury chief warning that fiscal tightening won’t “succeed unless we are able to strengthen confidence in the global recovery.” French Finance Minister Christine Lagarde said yesterday that budget consolidation is “priority No. 1” for most G-20 members. G-20 central bankers and finance ministers agreed in a joint statement today that “within their capacity, countries will expand domestic sources of growth.” At the same time, European Central Bank President Jean-Claude Trichet told reporters that Europe’s best contribution to the global rebound is to achieve fiscal sustainability.
Geithner said at a press briefing today that “credible commitments to fiscal sustainability over the medium term” are needed to generate a durable recovery. Spain’s Finance Minister Elena Salgado said at a separate European press briefing that deficit reduction should come “no later than 2011.”
“Concerns about growth as Europe makes needed policy adjustments threaten to undercut the momentum of the recovery,” said Geithner said in the letter. He said at today’s press briefing that domestic demand in Europe and Japan remains “relatively weak.” Contents of Geithner’s letter were distributed by Andrew Williams, a Treasury Department spokesman. Concerns of Greece’s sovereign-debt crisis spreading to other European nations have pushed down the value of the euro, allowing for cheaper exports from the euro zone. The currency shared by 16 European Union members yesterday touched $1.1956, its lowest level since 2006, and has depreciated 16 percent since the year began.
“I continue to say that I see good news from the current euro-dollar rate,” French Prime Minister Francois Fillon told reporters yesterday in Paris. President Nicolas Sarkozy “and I have been saying for years that the euro-dollar rate didn’t reflect reality and was penalizing our exports,” he said. There’s been “a lot heat, a lot of heat,” in the G-20 talks, Shin Je-Yoon, deputy minister for international affairs at South Korea’s finance ministry, told reporters today.
“Many ministers discuss the importance of the fiscal consolidation issues in European countries. And then also they emphasize some, at the same time, structural policies. So we need to get some collective actions to address all these issues.” In the U.S., the Obama administration is aiming to double U.S. exports during the next five years. Geithner warned in his letter that other countries can’t rely on the U.S. consumer to propel the global economy.
“Given the broader shifts underway in the U.S. economy toward higher domestic savings, without further progress on rebalancing global demand, global growth rates will fall short of potential,” Geithner said. U.S. government figures yesterday showed that employment growth was less than economists had forecast in May, while the jobless rate was 9.7 percent. Bill Gross, co-chief investment officer and manager of the world’s biggest bond fund at Pacific Investment Management Co. said yesterday the unemployment rate may rise to 10 percent within the next several months with job growth “anemic.” “The market was assuming that the private sector was coming back, but obviously we’ve seen none of that,” Gross said in a radio interview on Bloomberg Surveillance with Tom Keene.
Geithner also singled out Europe as a region needing to push forward with financial regulation reform. “Further progress on financial repair is critical to global economic recovery,” he wrote. “This requires, particularly in parts of Europe, further efforts to restructure and recapitalize the banking system.”
The G-20 countries, which collectively account for about 85 percent of global gross domestic product, have set themselves a December deadline to agree on new rules on capital and liquidity following the worst financial crisis since the Great Depression. The International Monetary Fund in April predicted the U.S. and Canadian expansions would lead all Group of Seven industrial nations this year, with each projected to grow 3.1 percent. That’s more than the IMF’s outlook for 1 percent growth in the euro area, a 1.3 percent increase in the U.K. and a 1.9 percent gain in Japan.
In the U.S., where personal savings is increasing and Congress is close to passing legislation overhauling financial rules, “we are meeting our responsibility,” Geithner told reporters in Washington June 2. The savings rate in the U.S. climbed to 3.6 percent in April, the highest level since January, from 3.1 percent in March as incomes increased and purchases cooled, according to Commerce Department figures released May 29.
Geithner said that Europe’s policy makers also need to proceed with implementing their rescue plan for the region’s most indebted members. The EU unveiled an unprecedented loan package last month worth almost $1 trillion to stop a sovereign- debt crisis that threatened to shatter confidence in the euro. “Full implementation of those commitments will help limit the risks to global recovery,” the Treasury chief said.
Weaker Euro May Be Able to 'Save' Monetary Union, Roubini Says
by Steve Scherer - Bloomberg Business Week
The gradual weakening of the euro toward parity with the dollar over the next year may save the monetary union by helping countries such as Greece, Italy and Spain regain competitiveness, said Nouriel Roubini, the New York University economist who predicted the financial crisis. “An orderly fall in the value of the euro is the only thing that is going to prevent a breakup of the monetary union,” he said today. Over the next 12 months the euro “will go toward parity with the dollar if not weaker than that,” Roubini said in an interview at a conference in Trento, Italy.
Several factors are weighing on economic growth, such as government budget cuts and falling stock prices, and so the euro’s decline may not be enough to prevent another recession, Roubini said. Europe’s single currency plunged below $1.20 yesterday for the first time since March 2006. The euro has dropped more than 16 percent against the dollar this year. “If you want Greece, Spain, Portugal, Italy and Ireland to stay in the monetary union rather than exiting, the only way of restoring competitiveness is going to be having a weaker euro,” Roubini said.
Euro-area ministers agreed on May 2 to provide 110 billion euros ($135 billion) of aid to Greece as the country struggled to control a deficit that reached 13.6 percent of GDP last year, more than four times the EU limit. When that failed to stop the euro’s slide, the EU and International Monetary Fund offered a financial lifeline of almost $1 trillion to member states.
The 16-member euro area emerged from a five-quarter recession in the three months through September. It will grow 0.9 percent this year after contracting 4.1 percent in 2009, the European Commission estimated on May 5. Greece’s economy will contract 3 percent this year and a further 0.5 percent in 2011, the commission estimates. While countries with large debts such as Italy should trim deficits and contain wages, Germany should spend more and raise wages to help fuel demand in the euro area, Roubini said.
“Germany can afford having more stimulus not just this year but next year,” he said. “The stock of public debt is much lower” in Germany than in the euro-region’s “periphery,” the economist said. The declining euro will make Germany “hyper-competitive” and justifies wage increases, Roubini said. “Germany can afford having slightly faster growth of wages to stimulate not only exports but also domestic demand and demand for European and euro-zone goods,” he said.
Euro Zone Faces Zero Growth, US Facing Trouble: Roubini
The euro zone is facing a period of zero growth if not recession, and the United States is heading for financial trouble, U.S. economist Nouriel Roubini was quoted as saying on Saturday. There was a risk of renewed recession in Europe, Roubini said in an interview with Swiss daily Tages-Anzeiger. "There is that risk, at least for the euro zone. Growth will fall toward zero. Even if that is perhaps not a real recession, it will feel like one. Greece was just the tip of the iceberg," he said. "And the Americans too will run into the wall at some point if the carry on the way they are," he said in the interview published in German.
Roubini, known as Dr. Doom and best known for predicting the U.S. housing crisis, said there was a risk of a second financial crisis, with countries becoming insolvent and being forced out of the euro, and banks collapsing. Countries such as Spain and Greece were now under pressure to cut spending and raise taxes to retain access to the capital markets, even though they had no growth to speak of.
If governments implement austerity measures too soon they risk snuffing out demand and recovery, but delays could provoke a catastrophe with high interest burdens and inflation. "You're damned if you save and you're damned if you don't," he said. Roubini said it was "possible to square this circle" if governments committed to a credible medium-term plan to restore their budgets.
But such policies, which carry the risk of a deflationary recession, must be compensated for with a loose pan-European monetary policy to stimulate demand. Any resulting further decline in the euro would make European exports more competitive and allow Germany to raise wages and purchasing power at home to stimulate exports from other euro zone countries, he said. Roubini said that a Japanese-style period of deflation, stagnation and high unemployment was a much greater risk to Europe for the next two or three years than inflation.
City watchdog fears euro disaster
by Iain Dey - London Times
Financial Services Authority probes banks’ exposure to the eurozone as sovereign default concerns grow
The City watchdog is stress-testing Britain’s biggest banks over fears they could be hit by the growing financial problems of the eurozone. A “risk map” of Europe has been drawn up by senior officials at the Financial Services Authority, examining potential problems on a country by country basis. Banks have been asked to model a number of disaster scenarios, including Greece defaulting on its loans. Analysts estimate that British banks have a total exposure of more than £100 billion to Greece, Portugal and Spain alone. Disclosure of the stress tests underlines how serious financial regulators think the eurozone crisis could become.
On Friday, Hungary became the latest country to spread fear across Europe when the new government warned that its predecessor had “falsified data” about the country’s public finances. Although Hungary is not part of the single currency, banks across Europe would be hit by any sovereign crisis. The euro slid below $1.20 for the first time since March 2006 on the news. Analysts now expect it to hit parity with the dollar.
François Fillon, the French prime minister, said on Friday that the weakening currency was “good news” because it could boost European exports. His comments accelerated the currency’s slide and prompted selling of French government bonds. Yesterday G20 finance ministers called for governments to put their national finances in order to calm the international financial markets. Meeting in Busan, South Korea, the ministers also stepped back from plans for a global bank tax following complaints from Canada, Australia, Brazil and India. The meeting also concluded that new bank capital rules should be introduced gradually in an effort to ensure that lending to businesses is not curbed.
“The global economy continues to recover faster than anticipated, although at an uneven pace across countries and regions,” the G20 ministers said. “The recent events highlight the importance of sustainable public finances and the need for our countries to put in place credible, growth-friendly measures, to deliver fiscal sustainability, differentiated for and tailored to national circumstances.” Concerns over Greece, Portugal and Spain have dogged the eurozone for months, dragging the euro lower and raising fears that the zone may have to be broken up. Although a €750 billion (£620 billion) bailout fund has been set up by the European Union to cope with financial strains across the continent, markets remain on edge.
Savage austerity measures have been introduced by governments across Europe but that in turn has led to fears that the clampdown on public spending will derail the economic recovery. Traders have begun to raise concerns about the health of other countries, including Belgium. A research note from Capital Economics, the analyst, last week warned it could become the “Greece of the north” thanks to “persisting weaknesses in the banking sector and a renewed bout of political instability”. Fears for Ireland’s financial stability also re-emerged after the minister of finance said that the country’s banks had to refinance more than €74 billion of debt by October 1. The sum is equivalent to more than half Ireland’s annual economic output.
Stock markets also closed down on Friday, hit by weaker than expected American jobs data. The G20’s communique was intended to calm market nerves, emphasising that governments understand the need to tighten their belts but will try to do so without restricting growth. George Osborne, the chancellor, said the meeting had rubber-stamped the coalition government’s approach to the public finances. “I think we’ve achieved a significant success by getting the endorsement of the G20 for the fiscal position we adopted just three weeks ago,” he said. Plans for additional bank regulation would be introduced gradually, the ministers said, to help ensure that new capital requirements would not damage the recovery.
The finance ministers backed away from a global bank tax, but they agreed that the financial sector should make a “fair and substantial contribution” towards any future government bailouts of the industry. Osborne is expected to announce a new tax on British banks, and additional restrictions on City pay, in his emergency budget on June 22. Four members of the shadow monetary policy committee (MPC) believe that the Bank of England should raise interest rates at its next meeting, in response to inflation concerns. However, the shadow MPC, which meets under the auspices of the Institute of Economic Affairs, voted five to four to hold rates at 0.5%.
Debtors’ Prism: Who Has Europe’s Loans?
by Jack Ewing - New York Times
It’s a $2.6 trillion mystery. That’s the amount that foreign banks and other financial companies have lent to public and private institutions in Greece, Spain and Portugal, three countries so mired in economic troubles that analysts and investors assume that a significant portion of that mountain of debt may never be repaid.
The problem is, alas, that no one — not investors, not regulators, not even bankers themselves — knows exactly which banks are sitting on the biggest stockpiles of rotting loans within that pile. And doubt, as it always does during economic crises, has made Europe’s already vulnerable financial system occasionally appear to seize up. Early last month, in an indication of just how dangerous the situation had become, European banks — which appear to hold more than half of that $2.6 trillion in debt — nearly stopped lending money to one another.
Now, with government resources strained and confidence in European economies eroding, some analysts say the Continent’s banks have to come clean with a transparent and rigorous accounting of their woes. Until then, they say, nobody will be able to wrestle effectively with Europe’s mounting problems. "The marketplace knows very little about where the real risks are parked," says Nicolas Véron, an economist at Bruegel, a research organization in Brussels. "That is exactly the problem. As long as there is no semblance of clarity, trust will not return to the banking system."
Limited disclosure and possibly spotty accounting have been long-voiced concerns of analysts who follow European banks. Though most large publicly listed banks have offered information about their exposure — Deutsche Bank in Frankfurt says it holds 500 million euros in Greek government bonds and no Spanish or Portuguese sovereign debt — there has been little disclosure from the hundreds of smaller mortgage lenders, state-owned banks and thrift institutions that dominate banking in countries like Germany and Spain. Depfa, a German bank that is now based in Dublin, is one of the few second-tier European banking institutions that have offered detailed disclosures about their financial wherewithal, and its stark troubles may be emblematic of those still hidden on other banks’ books.
Despite boasting as recently as two years ago of its "very conservative lending practices," Depfa, which caters primarily to governments, has flirted with disaster. It narrowly avoided collapsing in late 2008 until the German government bailed it out, and today its books are still laden with risk. DEPFA and its parent, Hypo Real Estate Holding, a property lender outside Munich, have 80.4 billion euros in public-sector debt from Greece, Spain, Portugal, Ireland and Italy. The amount was first disclosed in March but did not draw much attention outside Germany until last month, when investors decided to finally try to tally how much cross-border lending had gone on in Europe.
Before Greece’s problems spilled into the open this year, investors paid little heed to how much lending European banks had done outside their own countries — so it came as a surprise how vulnerable they were to economies as weak as those of Greece and Portugal. "Everybody knew there was a lot of debt out there," said Nick Matthews, senior European economist at Royal Bank of Scotland and one of the authors of the report that tallied up Greek, Spanish and Portuguese debt. "But I think the extent of the exposure was a lot higher than most people had originally thought."
Concern has quickly spread beyond just the sovereign bonds issued by the three countries as well as by Italy and Ireland, which are also seriously indebted. Private-sector debt in the troubled countries is also becoming an issue, because when governments pay more for financing, so do their domestic companies. Recession, along with higher interest payments, could lead to a surge in corporate defaults, the European Central Bank warned in a report on May 31.
Hypo Real Estate has hundreds of millions in shaky real estate loans on its books, as well as toxic assets linked to the subprime crisis in the United States. In the first quarter, it set aside an additional 260 million euros to cover potential loan losses, bringing the total to 3.9 billion euros. But that amount is a drop in the bucket, a mere 1.6 percent of Hypo’s total loan portfolio. Hypo has not yet set aside anything for money lent to governments in Greece and other troubled countries, arguing that the European Union rescue plan makes defaults unlikely.
The European Central Bank estimates that the Continent’s largest banks will book 123 billion euros ($150 billion) for bad loans this year, and an additional 105 billion euros next year, though the sums will be partly offset by gains in other holdings.
Analysts at the Royal Bank of Scotland estimate that of the 2.2 trillion euros that European banks and other institutions outside Greece, Spain and Portugal may have lent to those countries, about 567 billion euros is government debt, about 534 billion euros are loans to nonbanking companies in the private sector, and about 1 trillion euros are loans to other banks. While the crisis originated in Greece, much more was borrowed by Spain and its private sector — 1.5 trillion euros, compared with Greece’s 338 billion.
Beyond such sweeping estimates, however, little other detailed information is publicly known about those loans, which are equivalent to 22 percent of European G.D.P. And the inscrutability of the problem, as serious as it is, is spawning spoofs, at least outside the euro zone. A pair of popular Australian comedians, John Clarke and Bryan Dawe, who have created a series of sketches about various aspects of the financial crisis, recently turned their attention to the bad-debt problem in Europe. After grilling Mr. Clarke about the debt crisis in a mock quiz show, Mr. Dawe tells Mr. Clarke that his prize is that he has lost a million dollars. "Well done," says Mr. Dawe. "That’s an extraordinary performance."
On a more serious front, Timothy F. Geithner, the United States Treasury secretary, visited Europe at the end of May and called on European leaders to review their banks’ portfolios, as American regulators did last year, to separate healthy banks from those that need intensive care. Others say that if such reviews do not occur, the banking sector in Europe could be crippled and the broader economy — dependent on loans for business expansions and job growth — could stall. And if that happens, says Edward Yardeni, president of Yardeni Research, the Continent’s banks could find themselves sinking even further because "European governments won’t be in a position to help them again."
Lending practices at Depfa may have seemed conservative before its 2008 meltdown, but its business model had always been based on a precarious assumption: borrowing at short-term rates to finance long-term lending, often for huge infrastructure projects. From its base in Dublin, where it moved from Germany in 2002 for tax reasons, Depfa helped raise money for the Millau Viaduct, the huge bridge in France; for refinancing the Eurotunnel between France and Britain; and for an expansion of the Capital Beltway in suburban Virginia. Depfa was also a big player in the United States in other ways, like lending to the Metropolitan Transportation Authority in New York and to schools in Wisconsin.
Before the current crisis, Depfa was proud of its engagement in Mediterranean Europe. In its 2007 annual report, the company boasted of helping to raise 200 million euros for Portugal’s public water supplier and 100 million euros for public transit in the city of Porto. In Spain, it helped cities such as Jerez refinance their debt and helped raise money for public television stations in Valencia and Catalonia as well as raise 90 million euros for a toll road in Galicia. And in Greece, Depfa raised 265 million euros for the government-owned railway and in 2007 told shareholders of a newly won mandate: providing credit advice to the city of Athens.
Depfa said it performed a rigorous analysis of the creditworthiness of its customers, including a 22-grade internal rating system in addition to outside ratings. More than a third of its buyers earned the top AAA rating, the bank said in 2008, while more than 90 percent were A or better. The public infrastructure projects in which Depfa specialized were considered low-risk, and typically generated low interest payments. Yet because long-term interest rates were typically higher than short-term rates, Depfa could collect the difference, however modest, in profit.
To outsiders, Depfa still looked like a growth story even after the subprime crisis began in the United States. Hypo Real Estate, which focused on real estate lending, acquired Depfa in 2007. After the acquisition, Depfa kept its name and its base in Dublin. But when the United States economy reached the precipice in September 2008, banks suddenly refused to make short-term loans to one another, blowing a hole in Depfa’s financing and leaving it with a loss for the year of 5.5 billion euros and dependent on the German government for a bailout. As Hypo’s 2008 annual report said of Depfa: "The business model has proved not to be robust in a crisis."
Even with Depfa’s myriad travails, most investors weren’t aware of the extent of its cross-border problems until it disclosed them this year. The question now hanging over Europe is how many other banks have problems similar to Depfa’s, but haven’t disclosed them.
On May 7, the cost of insuring against credit losses on European banks reached levels higher than in the aftermath of the Lehman Brothers collapse in the United States. Officials at the European Central Bank warned that risk premiums were soaring to levels that threatened their ability to carry out their fundamental role of controlling interest rates. Three days later, European Union governments joined with the International Monetary Fund to offer nearly $1 trillion in loan guarantees to Europe’s banks. At the same time, the European Central Bank began buying government bonds for the first time ever to prevent a sell-off of Greek, Spanish and other sovereign debt.
The measures, widely regarded as a de facto bank rescue, restored some calm to the markets, but critics said that the aid merely bought time without reducing overall debt load. Europe’s major stock indexes and the euro have continued to fall as investors remain dubious about the ability of Greece and perhaps other countries to repay their debts. Even so, figuring out which banks may be most exposed to those countries largely remains a guessing game.
Regulators in each country know what assets their domestic banks hold, but have been reluctant to share that information across borders. Lucas D. Papademos, vice president of the European Central Bank, which gets an indication of banks’ health based on which ones draw heavily on its emergency credit lines, said at a news conference Monday that a small number of banks were "overreliant" on that funding.
But Mr. Papademos, who retired last Tuesday at the end of his term, wouldn’t be more specific. He said European banks would undertake a vigorous round of stress tests by July. It’s obvious that Greek and Spanish banks hold large amounts of their own government’s bonds. Spanish banks hold 120 billion euros in sovereign debt, according to the Spanish central bank. But a central bank spokesman said that those holdings were not a problem because, thanks to the European Union’s rescue plan, the prices of Spanish bonds have recovered.
Guessing also falls heavily on public and quasipublic institutions like the German Landesbanks, which are owned by German states sometimes in conjunction with local savings banks. Five of Germany’s nine Landesbanks required federal or state government support after they loaded up on assets that later turned radioactive, ranging from subprime loans in the United States to investments in Icelandic banks that failed.
According to the Royal Bank of Scotland study, banks in France have the largest exposure to debt from Greece, Spain and Portugal, with 229 billion euros; German banks are second, with 226 billion euros. British and Dutch banks are next, at about 100 billion euros each, with American banks at 54 billion euros and Italian banks at 31 billion euros. "Banks continue to not trust each other," says Jörg Rocholl, a professor at the European School of Management and Technology in Berlin. "They know other banks are sick, but they don’t know which ones."
DEPFA and Hypo Real Estate, meanwhile, face continued setbacks as they try to steer back to health. Hypo reported a pretax loss for the group of 324 million euros in the first quarter, down from 406 million euros a year earlier. At the end of May, the German government raised its guarantees for Hypo to 103.5 billion euros from 93.4 billion. Some analysts say they think the bank may need more aid in the future. "I don’t think it’s over yet," says Robert Mazzuoli, an analyst at Landesbank Baden-Württemberg in Stuttgart.
Euro 'will be dead in five years'
by Edmund Conway - Telegraph
The euro will have broken up before the end of this Parliamentary term, according to the bulk of economists taking part in a wide-ranging economic survey for The Sunday Telegraph. The single currency is in its death throes and may not survive in its current membership for a week, let alone the next five years, according to a selection of responses to the survey – the first major wide-ranging litmus test of economic opinion in the City since the election. The findings underline suspicions that the new Chancellor, George Osborne, will have to firefight a full-blown crisis in Britain's biggest trading partner in his first years in office.
Of the 25 leading City economists who took part in the Telegraph survey, 12 predicted that the euro would not survive in its current form this Parliamentary term, compared with eight who suspected it would. Five declared themselves undecided. The finding is only one of a number of remarkable conclusions, including that:
- The economy will grow by well over a percentage point less next year than the Budget predicted in March.
- The Government will borrow almost £10bn less next year than the Treasury previously forecast, despite this weaker growth.
- Just as many economists think the Bank of England will not raise rates until 2012 or later as think it will lift borrowing costs this year.
But the conclusion on the euro is perhaps the most remarkable finding. A year ago or less, few within the City would have confidently predicted the currency's demise. But the travails of Greece, Spain and Portugal in recent weeks, plus German Chancellor Angela Merkel's acknowledgement that the currency is facing an "existential crisis", have radically shifted opinion. Two of the eight experts who predicted that the currency would survive said it would do so only at the cost of seeing at least one of its members default on its sovereign debt.
Andrew Lilico, chief economist at think tank Policy Exchange, said there was "nearly zero chance" of the euro surviving with its current membership, adding: "Greece will certainly default on its debts, and it is an open question whether Greece will experience some form of revolution or coup – I'd put the likelihood of that over the next five years as around one in four."
Douglas McWilliams of the Centre for Economics and Business Research said the single currency "may not even survive the next week", while David Blanchflower, professor at Dartmouth College and former Bank of England policymaker, added: "The political implications [of euro disintegration] are likely to be far-reaching – Germans are opposed to paying for others and may well quit." Four of the economists said that despite the wider suspicion that Greece or some of the weaker economies may be forced out of the currency, the most likely country to leave would be Germany.
Peter Warburton of consultancy Economic Perspectives said: "Possibly Germany will leave. Possibly other central and eastern European countries – plus Denmark – will have joined. Possibly, there will be a multi-tier membership of the EU and a mechanism for entering and leaving the single currency. I think the project will survive, but not in its current form." Tim Congdon of International Monetary Research said: "The eurozone will lose three or four members, Greece, Portugal, maybe Ireland, and could break up altogether because of the growing friction between France and Germany."
The recent worries about the euro's fate followed the creation last month of a $1 trillion (£691bn) bail-out fund to prevent future collapses. Although the fund boosted confidence initially, investors abandoned the euro after politicians showed reluctance to support it wholeheartedly.
Forget PIIGS, US Debt Is Out of Control
by Robert Barone - Ancora West
The markets are in turmoil because of worry about the so-called PIIGS (Portugal, Ireland, Italy, Greece, and Spain) debts. In Fiscal Crises: The Next Shoe, I opined that Greece is just the canary in the coal mine and that when we look homeward, we have our own huge debt issues, which aren't significantly different from those of the PIIGS countries. I believe that the only reason the European contagion hasn't yet spread to America is because of the dollar’s status as the world’s reserve currency. That era is coming to an end, and it would behoove America to get its house in order.
A May 14, 2010 Barron’s piece entitled We’re Not Greece -- Yet (D. Henniger) referred to a Royal Bank of Canada study that concluded that “Although the states of California, New York, New Jersey, Massachusetts, and Illinois are comparable in terms of economic output and population to Portugal, Ireland, Italy, Greece, and Spain, RBC finds that states’ debt burden are nowhere near that of the PIIGS.” This, “even after including unfunded liabilities for states’ employees’ pension and other benefits.” As you'll see below, I take issue with the above conclusion, and the first half of this piece will deal with why. Basically, citizens of each US state are responsible not only for the debt burdens of their states and localities, but they're also responsible for their proportionate share of the federal debt. As you'll see, the combination of the two produces debt ratios far in excess of those of the PIIGS.
Table 1 shows the PIIGS data that the markets are concerned with.
Table 2 shows estimates (for fiscal year 2010) of the Population (1), State GDP (2), State Debt/State GDP (3), Local Debt/State GDP (4), Unfunded Pension/State GDP (5), Other Unfunded Benefits/State GDP (6), Total Debt/State GDP (7), and Per Capita Debt (8) for the states mentioned in the Barron’s piece plus Michigan.
Using California as an example, the population is rapidly approaching 40 million, the state’s GDP is estimated at $1.87 trillion, the State Government Debt/State GDP is 7.4%, Local Government Debt/State GDP is 17.2%, Unfunded State Worker Pension Liability/State GDP is 27.8%, Unfunded Other Health and Benefit Liabilities/State GDP is 3.3% for a Total Debt/State GDP of 55.7%. Translating this into Debt Per Capita reveals that every California citizen owes $26,000 for debt or liabilities contracted by their elected officials. Looking back at Table 1, this isn’t too different than the Debt/GDP ratio of Spain. And looking down the Total Debt/State GDP column of Table 2, it becomes apparent that both New Jersey and Illinois have Debt/GDP ratios equivalent to that of Spain.
But wait! Citizens of the states in the US are also responsible for the debt piled up in Washington, DC. So, to the debt of the states and localities, one must add the national debt. The first three rows of Table 3 show an average of all State (row 1), Local (row 2), and Federal (row 3) Debt/GDP and the Per Capita dollars owed by each US citizen.
Using the table, look at the intersection of the "Cumulative (%)" column and "+Agency" row, which represents the recognized public debt of the federal government and its agencies and an average state and local burden. One can see that at 134.6% of GDP, debt burdens are higher than those of all of the PIIGS countries that have given the markets so much heartburn. Table 4 substitutes the debts of the states shown in Table 2 for the "Average State" and "Average Local" and shows the indebtedness of the citizens of these states per capita and as percentages of both State and US GDPs. All of the states shown have Debt/GDP ratios significantly higher than that of Greece.
Now, I'm not an expert on debt levels in European countries. And, it could well be that citizens of those countries have taken on public debt that would be similar to US State and Local debt that isn't in the figures shown in Table 1. But, because the absolute levels of the Debt/GDP shown for the PIIGS have been a cause for concern, then the debts of the citizens of the US, and, specifically those states shown in Table 4, should also be cause for grave concern. For the most part, the European states are at least considering austerity measures. And while some US states are being forced into austerity because of their inability to print money, the major contributor to the indebtedness, the US Congress, doesn't seem all that concerned. This is a major difference from what's occurring in Europe.
So far in this piece I've only talked about public debt. Usdebtclock.org estimates total personal debt at $16.6 trillion, mortgage debt at $14.1 trillion, consumer debt at $2.5 trillion, and credit card debt at $848 billion. (Amazingly, of the four types of private debt, only consumer debt is shown at usdebtclock.org as expanding; the other three categories of consumer debt are contracting. I wish I could say the same about public debt!) So, on top of all of the public debt, each US citizen, on average, owes privately $53,525. Adding the public and private debt together totals $117,181 per capita, or a total Debt/GDP ratio of 248% (see Table 3). Wow! Now that's a lot of debt!
Finally, the unfunded liabilities of Social Security and Medicare are nearly $109 trillion, or about $352,000 per US citizen (see usdebtclock.org). That number alone is a Debt/GDP ratio of 745% and is so outside the realm of rationality that I didn't bother to put it in the table. Clearly, the recipients of these promises can't possibly hope to receive such benefits in current dollars. Depreciation of the currency or significant cutbacks in the promises (or both) is inevitable. The recognition of the real magnitude of these irresponsible promises should be enough to cause a loss of confidence in the dollar. In my view, unless the US moves to at least begin to address these issues, that day is closer than anyone might think.
All of the public debt was originated by governments and most of the private debt by banks or other financial institutions. In feudal times, serfs owed a significant portion of their toil to their lords. Have times really changed? The lords are now the politicians and "Too Big to Fail" bankers. Many ordinary people are serfs, highly indebted either voluntarily (private debt) or involuntarily (public debt). Looking at debt in this way helps to explain the unholy alliance between Washington and Wall Street (see The Unholy Washington-Wall Street Alliance) and why the "Too Big to Fail" and Washington politicians get richer and richer at the public's expense.
While US citizens are drowning in debt, the political system appears incapable of reducing it. In fact, the politicians continue to expand it in the erroneous belief that more debt will help. There are only two ways out: years of austerity or currency devaluation/inflation. The political system won't allow the former.
US Employment Rate Falls
by Annaly Capital Management
No, that headline is not a typo.
To call today’s jobs release “highly anticipated” would be an understatement. The focus in the media was primarily on the Establishment survey’s headline nonfarm payroll number for the month of May. The range of estimates was incredibly large, from a maximum +750,000 to a minimum estimate of only +220,000 (based on a summary of 82 estimates on Bloomberg). The average of the sample was for job growth of +536,000. That the vast majority of this job creation would come from temporary Census hiring by the government was widely known. A smaller number of economists estimated the change in private sector payrolls, and the range of guesses here was wide as well, from a high of +257,000 down to a minimum of +30,000. The average private sector job growth estimate based on the 35 in the sample was +171,000.
As it turns out, the largest monthly job growth in a decade was read as a disappointment: “Only” 431,000 new jobs, of which 411,000 were temporary Census workers. Private sector job growth was fairly anemic, at +41,000 (net of ex-Census government job losses of -21,000).
The household survey contained the ostensible good news that the unemployment rate (number of unemployed divided by the number of workers in the civilian labor force) fell to 9.7% from 9.9% in the previous month. At the same time, the employment rate (number of employed divided by the civilian population) also fell, from 58.8% to 58.7%. How can this happen? As it turns out, the number of unemployed people fell by 287,000, but the number of employed people also fell, by 35,000. Obviously not all of those unemployed people found jobs, some of them simply left the labor force. Thus, the unemployment rate fell more than it otherwise would have because of the denominator effect of a falling labor force, reversing a 4-month trend of a rising participation rate (number of people in the civilian labor force divided by the civilian population). The civilian labor force fell by 322,000 in May.
Who are these people leaving the labor force? The Current Population Survey Labor Force Status Flows from the Bureau of Labor Statistics tracks the flows of workers into and out of these 3 categories:
- Not In The Labor Force
The chart that stood out the most to us is below.
The number of workers moving from the “unemployed” bucket to the “not in the labor force” bucket is at a new record during May, which tells us that potential workers are getting frustrated with their job search and giving up. Couple that with the fact that the duration of unemployment in the US has risen to a high of 34.4 weeks in May, and this is not a pretty picture.
Long-Term Unemployed Now 46% Of Unemployed, Highest Percentage On Record
by Jeannine Aversa - Huffington Post
If you lose your job these days, it's worth scrambling to find a new one fast. After six months of unemployment, your chances of landing work dwindle. The proportion of people jobless for six months or more has accelerated in the past year and now makes up 46 percent of the unemployed. That's the highest percentage on records dating to 1948. By late summer or early fall, they are expected to make up half of all jobless Americans.
Economists say those out of work for six months or more risk becoming less and less employable. Their skills can erode, their confidence falter, their contacts dry up. Their growing ranks also will keep pressure on Congress to keep extending jobless benefits, which now run for up to 99 weeks. Overall, the economy has created a net 982,000 jobs this year. But for Jeff Martinez and the record 6.76 million others who have struck out for six months or more, their struggles are getting worse, not better.
Martinez, 40, a salesman in Washington, D.C., says he's logged more than 200 interviews in the past three years. Decked out in a dark navy suit and Burberry tie, Martinez projects drive and a zest for deal-making. And yet the most urgent deal of his career – finding a job – eludes him. "You have days where you feel motivated and hopeful and optimistic," he says. "Then there are other days, you really lose the faith and think, `I'm never going to get another job. Ever.'"
What's causing the rising ranks of the long-term jobless to exceed the pace of other recessions? Mainly, it's the depth and duration of the job-slashing this time. Since the recession began in December 2007 through May this year, a net 7.4 million jobs have vanished. The unemployment rate has surged nearly 5 percentage points: From 5 percent in December 2007 to 9.7 percent in May. By contrast, in the last severe recession, the rate rose less sharply over a shorter period: From 7.2 percent in July 1981 to 10.8 percent at the end of 1982.
Lawrence Mishel, president of the Economic Policy Institute, points to the "sheer scale of the falloff in demand for workers" this time. It's left more people out of work for longer stretches. And it's intensified competition for each opening. "It's a cruel game of musical chairs," Mishel says.
To lower the unemployment rate from the current 9.7 percent to a more normal 6 percent would require roughly a net 15 million new jobs by the end of 2016, estimates Brian Bethune, chief U.S. financial economist at IHS Global Insight. Few think that's likely.
One factor behind the growing proportion of the long-term unemployed is the erosion of their workplace skills – or employers' perception of it. It's hard to find work in a tight job market when your skills are seen as stale. For some occupations in particular, such as computer technicians or accountants, people jobless for many months can lose pace with technological changes or federal rules.
Among those who fear losing their edge is Stephan Azor, 30. He's looking for information technology work, perhaps overseeing a company's computer system. He was laid off eight months ago as a system administrator for a defense contractor. "Technology changes every six months, so there are things I have to look up and learn," says Azor, who lives in Washington.
Other reasons for the growing proportion of the long-term unemployed:
- Jobs wiped out by the Great Recession that aren't coming back. In industries like home construction, manufacturing and retail, fewer workers will be needed even after the economy has fully recovered. One reason is higher productivity: Companies have managed to produce the same level of goods or services with fewer workers. Economist Marisa DiNatale of Moody's Economy.com notes that people out of work in those industries may lack the skills for other jobs that are becoming available.
- The breadth of the recession, which struck every area of the country, makes it harder for job hunters to move to another region in expectation of finding a job. Complicating the matter, the housing bust made it difficult for people to sell their homes and move elsewhere to take a job, economists say.
A study by the National Employment Law Project found that older workers – those 45 and up – make up the largest slice of the long-term unemployed. African-Americans make up 20.8 percent. And men account for six out of 10. Martinez was living in Los Angeles and pulling in $200,000 a year from a media sales job. Three years ago, he lost it. Burning through cash, Martinez had to move back home with his parents in Sterling, Va., outside Washington. He landed another media sales job in the area in 2008, at the height of the financial crisis. But four weeks later, he was laid off.
By his count, Martinez has sent out 2,500 resumes in the past year. He's researched would-be employers and written personalized cover letters. He hit a dry spell at the start of this year. Since then, Martinez says the job climate seems to have improved. He's interviewing again. But it's emotionally draining. "It's tough not to have an interview, and it's just as tough to go on five or six or seven interviews and not get hired," he says.
US Home-Sales Decline in Wake of Tax Credit Suggests Trouble
by James R. Hagerty and Nick Timiraos
The withdrawal of federal tax credits for home buyers led to a steeper-than-expected plunge in May home sales in much of the U.S., as the housing market struggles to wean itself from government support. Economists and real estate analysts expected home sales to slow after the tax credit, of as much as $8,000, expired at the end of April. But early data from real estate brokers indicate that the sales decline has been far more substantial than expected, with some markets showing declines of 25% to 30%. "Anybody who wanted to buy a house probably did" before the tax credit deadline, said Jay Brinkmann, chief economist of the Mortgage Bankers Association, a trade group.
Housing analysts say that the May slump is ominous but that it's too early to tell whether it portends another serious downward lurch in a market that has generally been leveling off over the past year. Some recent signs have been encouraging. In April, for instance, the government reported that new-home sales, spurred by the tax credit, jumped 48% from a year earlier to an annual rate of 504,000. But Ivy Zelman, chief executive of Zelman & Associates, a research firm, estimates that sales of new homes nationwide in May were down 25% to 30% from April. She warns that the weak May performance increases the chances of renewed price cuts by builders caught with too much inventory.
Lawrence Yun, chief economist for the National Association of Realtors, estimated that contracts signed for home resales in May were down 20% to 30% from a year earlier. He expects June and July to remain fairly weak and will be watching nervously for signs of a rebound in August or September. "Housing cannot just depend on [government] stimulus forever," Mr. Yun said. Now that the housing market isn't benefiting from tax-credit "steroids, we're probably going to see a sluggish second half," said Ronald Peltier, chief executive officer of real estate broker HomeServices of America Inc.
Joblessness, or the fear of losing a job, continues to deter many potential buyers, Mr. Peltier said, and the large number of homes in foreclosure or heading that way is still putting downward pressure on prices in many areas. HomeServices, which owns big real estate brokers in 21 states and is a unit of Berkshire Hathaway Inc., saw its home-purchase contracts signed in May fall nearly 20% from a year earlier, or about twice the decline it was expecting.
Home-purchase contracts signed in New Jersey last month were down 25% from a year earlier, estimates Otteau Valuation Group, an appraisal firm in East Brunswick, N.J. For all kinds of goods, including houses, "people are saying, 'If it's not a great deal, I'm not going to buy it,' " said Jeffrey Otteau, chief executive of the firm. New Jersey's state legislature is considering its own tax credit for home buyers. A California tax credit of as much as $10,000, which ends Dec. 31, has helped sustain sales there.
A national survey of real estate agents by Credit Suisse, released Friday, shows that traffic at homes for sale was down in May to its lowest level since the financial crisis of late 2008. Despite the recent drop in mortgage rates to less than 5%, applications for home-purchase mortgages in late May were down nearly 40% from a month before and have fallen to their lowest level in 13 years, according to the mortgage bankers. Though interest rates are low, many potential buyers still can't get credit because lending standards have tightened.
In the Minneapolis area, the number of newly signed home-purchase contracts in the week ended May 22 was down 30% from a year earlier, according to the Minneapolis Area Association of Realtors. "Our buyers, if they haven't purchased, have just decided to wait," said Brad Fisher, president of the local Realtor group. In the Phoenix area, contracts signed in May plunged 26% from a year earlier, local Realtor data show. In Denver, the drop was 27%.
In another sign of weak sales, the number of homes on the market is growing again. ZipRealty Inc., Emeryville, Calif., said the number of homes listed for sale in 26 major metro areas across the U.S. in May was up 1.7% from April. In a typical May, the inventory doesn't increase from April, according to Ms. Zelman. Some markets haven't suffered much from the loss of tax credits. Jonathan Miller, chief executive of Miller Samuel, a New York appraisal firm, said sales had been steady in recent weeks. Tax credits of $8,000 are tiny in comparison to typical Manhattan home prices in the millions of dollars and so had little effect there.
In Florida's Miami-Dade County, home-sale contracts signed in May were up nearly 5% from a year earlier, according to EWM Realtors. Many buyers in Miami are foreigners attracted by huge price cuts there over the past couple of years, said Patrick O'Connell, a senior vice president at EWM. Toll Brothers, which specializes in higher-priced homes, said home-shopper visits to its communities in May were up 11% from a year ago. "At our price point, the tax credit really did not affect our business," Executive Vice President Douglas Yearley Jr. said at a conference this week.
Banks Say No Fannie and Freddie, But Taxpayers Can’t
by Gretchen Morgenson - New York Times
From the earliest days of the credit crisis, the nation’s big financial institutions have been less than forthcoming about ballooning loan losses buried inside their books. To some degree this is understandable: denial is a powerful thing, after all, and writing off troubled loans during a period of severe stress is, for bankers, the equivalent of getting a root canal. As profits rebound at many of these institutions, however, artful dodging becomes more disturbing. And when disguising problems winds up harming the taxpayer — the same folks who rode to the rescue of banks with billions of dollars — the denial is downright exasperating.
Among the more glaring bookkeeping fictions on big banks’ balance sheets today are the values they assign to all of the bounteous second mortgage loans doled out during the mortgage bonanza. As any realist will attest, many of these loans are worth little, and yet there they sit, at fantasy levels, on banks’ ledgers. Refusing to face reality on second liens ultimately hurts shareholders. But taxpayers are the ones holding the bag when institutions try to avoid losses by refusing to buy back problem loans they have sold to Fannie Mae and Freddie Mac, the mortgage finance giants that are wards of the state.
Fannie and Freddie helped grease the nation’s housing machinery before and during the boom years, scooping up loans from all corners of the country. The more of these that Fannie and Freddie bought, the easier it was for banks to write new mortgages. To protect themselves from getting piles of garbage loans shoveled their way when they buy mortgages, Fannie and Freddie require lenders or loan servicers to sign contracts requiring those firms to repurchase loans that don’t meet certain standards relating to borrower incomes, job status or assets. Loans that were extended fraudulently, or deemed to have been predatory, are also candidates for buybacks.
Surprise, surprise: banks don’t want to repurchase these loans. So when Fannie or Freddie identify problem mortgages and request repayment, a battle royal begins. Banks may argue, for example, that the repayment requests have flaws of their own. But for us as taxpayers, watching this battle from the sidelines, one growing concern is how aggressively Fannie and Freddie will pursue their requests. If banks refuse to buy back flawed loans, taxpayers will have to cover more of the losses.
A lot of money is at stake here, and the figure is growing all the time. According to March 31 figures from Freddie, for instance, the amount of problem loans that it has asked other firms to buy back stood at $4.8 billion — up 26 percent from $3.8 billion just three months earlier. Freddie also said that as of the end of March, 34 percent of its buyback requests had been outstanding for 90 days or more. Three months earlier, that figure was 30 percent. That increase suggests a greater reluctance among banks to respond to Freddie’s demands.
Fannie, for its part, doesn’t disclose how much it’s asking banks to buy back. Instead, it simply reports how much banks have agreed to buy back but have yet to pay during a specific period. During the first quarter of 2010, for example, Fannie said the unpaid principal balance of loans repurchased by its servicers came in at $1.8 billion, up from $1.1 billion during the first quarter of 2009. “We expect the amount of our outstanding repurchase and reimbursement requests to remain high throughout 2010,” Fannie said in a filing.
It’s surely good news that Fannie and Freddie are trying to hold these other firms responsible for shoddy lending standards. But if those firms continue to resist paying up, that would be bad news indeed for taxpayers who would have to absorb Fannie and Freddie’s losses on the loans. “Banks have been unwilling to mark all of the bad loans they have and mortgage securities they hold to their true values because that would require a loss,” said Kurt Eggert, a professor at the Chapman University School of Law. “But this is about banks trying to avoid losses and having the taxpayers absorb them.”
Freddie does not identify the lenders or loan servicers it is asking for buybacks. Some of the difficulties it encounters with loan buybacks are, it said, the result of “potential insolvency” — that is, financial woes at companies that made or service the loans. The top three lenders or loan servicers doing business with Freddie are JPMorgan Chase, Bank of America and Wells Fargo.
In its own filings, JPMorgan said it bought back a total of $1.1 billion in loans in 2009. At the end of that year, the bank recorded $218 million in repurchased loans as nonperforming assets on its balance sheet. In the first quarter of 2010, the bank repurchased loans with an unpaid principal balance of $322 million. It had set aside $1.5 billion in reserves for repurchase requests at the end of 2009. The bank does not break out how many of these repurchases involved Fannie or Freddie.
Wells Fargo’s financial filings show that it repurchased or otherwise settled loans worth $1.3 billion last year and bought back an additional $600 million in the first quarter of 2010. Its reserves for future repurchase requests stood at $1 billion at the end of last year. Mary Eshet, a Wells Fargo spokeswoman, said the bank “continues to have a productive relationship with the agencies as we work together to mutually resolve repurchase requests in a timely manner.” “While the research involved in this process can be time-consuming,” she said, “it is Wells Fargo’s goal to complete repurchase requests as quickly as possible, and we have adjusted staffing levels appropriately to respond to current volumes.”
Thomas A. Kelly, a spokesman for JPMorgan Chase, said the bank “works consistently, loan by loan” with Fannie and Freddie. Bank of America did not respond to an e-mail message seeking comment. Michael Cosgrove, a Freddie spokesman, said that the company is aggressive about enforcing its right to recover on questionable loans because it has a duty to be a good steward of taxpayer dollars. “These reviews are more important than ever; there is no reason why taxpayers should pay for decisions that led to the sale of bad loans to Freddie Mac,” he said.
But the banks have a keen interest in minimizing their exposure to loan buybacks, and you can be sure they are asserting their rights to say no to these demands just as aggressively. “If the banks are not abiding by repurchase agreements, essentially they are saying the taxpayer should be on the hook, not them,” Mr. Eggert said. “It’s a hidden bailout.”
Throughout the credit crisis, the Obama administration has bent over backward to accommodate the nation’s large financial institutions, arguing that shoring up the banking system is in everyone’s interest. To that end, the White House has given banks a lot of carrots in this crisis. But when it comes to buying back reckless loans, banks should now get the stick.
Is Massive Refinancing During Bubble Years a Ticking Bomb?
by Keith Jurow - Real Estate Channel
During the four key years of the housing bubble - 2003-2006 - an incredible number of mortgages were refinanced. In an earlier REAL ESTATE CHANNEL article, "Investors Played a Key Role in Creating Housing Bubble," I pointed out that homeowners "cashed out" a total of $820 billion while refinancing their mortgages in 2005-2007 according to Freddie Mac figures.
This refinancing frenzy needs to be examined in more depth including the danger it might pose for the housing market down the road.
Refinancing Statistics Put Out by Financial Crisis Inquiry Commission
In April of this year, the Financial Crisis Inquiry Commission appointed by President Obama published its Preliminary Staff Report entitled "THE MORTGAGE CRISIS." In the report, the following chart on annual mortgage originations appears.
These figures are derived from data which lending institutions are required to report to the federal government under the Home Mortgage Disclosure Act (HMDA).
Notice how total refinancing soared in 2002 as the Federal Reserve drastically lowered interest rates to minimize the economic fallout from 9/11. That year, a record 10.2 million mortgages were refinanced according to HUD. Keep in mind that there are only about 55 million total mortgages outstanding. As they had done in the past, homeowners took advantage of the drop in interest rates to lock in a lower rate mortgage.
Refinancing in 2003 was simply off the charts. According to the authors of the Preliminary Staff Report cited above, more than 15 million mortgages were refinanced that year for a total of slightly more than $2.5 trillion. Remember, at the end of the year, there was a total of only $7.9 billion mortgage debt outstanding (including home equity loans). Thus nearly 1/3 of the entire outstanding mortgage debt in this country was originated as refinancings in 2003.
The next year, 2004, was when home prices really soared, by 30-40% in the hottest bubble markets. Although refinancings dropped to a mere 7.6 million originations, cash-outs began to take off. According to Freddie Mac, roughly 40% of all homeowners who refinanced that year pulled money out of their refinanced mortgages to spend as they pleased.
Interest rates had begun climbing in 2005, yet that did not prevent homeowners from using their increasingly valuable houses as a piggy bank to be tapped at will. Some 72% of all homeowners who refinanced pulled cash out of their piggy banks to the tune of $262 billion.
Although nearly all housing markets throughout the country were weakening as 2006 unfolded, homeowners were undeterred by this. Slightly more than six million mortgages were refinanced that year. According to Freddie Mac figures, roughly 86% of all homeowners who refinanced that year pulled cash out - nearly $320 billion.
The California Refinance Disaster
During 2004-2005, it was California which led the way in refinancings. Keep in mind that many of the largest unregulated mortgage lenders were headquartered in California. They were only too willing to shovel out refinance loans to practically any homeowner in California who could sign a document.
For those two years, the California numbers are simply mind-boggling. According to mortgagedataweb.com, which derives its figures from municipal recordings, slightly more than 2.6 million California mortgages were refinanced in 2004 and another 2.4 million the next year.
The average size of these refinanced mortgages was a surprisingly small $200,000. That's because most of them were second lien Home Equity Line of Credit loans (HELOCs) many of which were taken out by long-time homeowners who refinanced several times as home prices climbed seemingly toward the sky.
The following short sale situation, described in a September 2009 post in the socalbubble.com blog, was not at all uncommon in California: "The homeowner had purchased some 20+ years earlier, but had withdrawn over $500K [refis] in the last decade." He goes on to explain that "The most amazing thing to me during the housing downturn is the number and amount of refis that I have seen. It seems MOST of Southern California took out several hundred thousand dollars each from their houses; enough to buy entire houses outright in most other places in the country."
To get a sense of what really went on in southern California, here is a description of one homeowner's refinancing which was recently posted on the Irvine Housing Blog:
- The property was purchased on 11/13/1999 for $485,000.
- On 5/13/2003 they opened a HELOC for $63,400
- On 1/26/2004 they got a HELOC for $100,000.
- On 2/1/2005 they refinanced with a $634,500 Option ARM with a 1% teaser rate.
- On 3/23/2005 they obtained a $80,000 HELOC.
- On 8/10/2005 they got a HELOC for $100,000.
- On 11/3/2006 they refinanced with a $688,000 first mortgage and a $85,000 HELOC
California Jumbo Mortgage Refinancing
The real problem in California is with refinance jumbo mortgages which exceeded Fannie Mae and Freddie Mac loan limits. According to mortgagedataweb.com, roughly 385,000 jumbo mortgage refinancings were originated in 2004 with an average loan amount of $490,000. For 2005, roughly 395,000 jumbo mortgages were originated with an average loan amount of $540,000. That is a total of 780,000 jumbo refinance mortgage loans issued during these two years in California and a total debt of roughly $400 billion. If we add in the 2006 refinances, there were roughly 1.1 million jumbo refinance mortgages originated in California during 2004-2006.
To give you an idea of the magnitude of this jumbo refinancing number, there were only slightly more than 1.4 million jumbo mortgage loans originated throughout the entire nation for the purchase of homes in 2004-2006.
In the major metros such as Los Angeles, San Francisco and San Diego, four times as many refinancing loans as purchase mortgages were originated in 2004-2005. For the Los Angeles metro area alone, roughly 1.2 million mortgages were refinanced in these two years. The average L.A. jumbo mortgage during this period was approximately $530,000.
Because of the very low down payment that lenders required from borrowers during these two years, the collapse in California home prices has resulted in nearly all of the outstanding jumbo refinance mortgages originated in 2004-2005 being seriously underwater now.
Since these jumbo loan amounts exceeded the Fannie Mae and Freddie Mac limits for either purchase or guarantee, banks which originated them were forced to keep in their portfolio those loans which Wall Street could not securitize and sell to private institutional investors. As jumbo mortgage defaults skyrocketed in the last two years, banks have raised down payment requirements for new loans and sharply curtailed the total number of jumbo originations. According to Lender Processing Services, 66,000 jumbo loans were originated nationwide in March 2007. Three years later, in March of this year, a mere 13,000 were closed.
The drying up of jumbo mortgage money has made it extremely difficult to sell almost any California home which is encumbered with a jumbo mortgage. That has put tremendous downward pressure on prices for these homes.
Many of these California homeowners who have not yet defaulted are in serious danger of doing so. Fitch Ratings reported that 44% of all outstanding jumbo mortgages were originated in California. As of March, 11.8% of all prime California jumbo mortgages were more than 60 days delinquent, nearly triple the rate of a year earlier. Since the cure rate for all delinquent loans is only 10% now according to Lender Processing Services, it is very likely that as many as 90% of these California jumbo mortgages will end up in default.
If you add in the roughly 1.8 million underwater homeowners who purchased a property in 2004-2006, you can begin to see the enormity of the California mortgage disaster.
The Madness of HELOC Borrowing
The overwhelming number of jumbo mortgages originated during the bubble years of 2004-2006 were in five states - California, Florida, Virginia, New York and New Jersey. With the number of jumbo mortgages delinquent for sixty days or more having nearly tripled nationwide during 2009, the outlook for these homeowners is grim indeed. As of April 2010, more than 10% of all prime jumbo mortgages were seriously delinquent.
As bad as the situation is for underwater homeowners with jumbo mortgages, the problem with refinanced mortgages goes well beyond this. Throughout the country, homeowners used second lien home equity lines of credit (HELOCs) as another way to tap their piggy bank house during the bubble years. The use of these HELOCs was by no means limited to California.
From the beginning of 2001 to the middle of 2004, the annual growth rate of HELOCs at all FDIC-insured institutions was more than 30%. In its Winter 2004 Outlook report, the FDIC listed the numerous ways in which banks were encouraging borrowers to open new HELOCs including providing automatic credit limit increases as the property increased in value. To increase the use of existing HELOCs, banks were actually charging "nonuse fees" on lines that were open but inactive.
Although delinquency rates on HELOCs were a paltry 0.5% in mid-2004, the FDIC nevertheless warned that if home prices were to stagnate or fall, this could erode the equity of borrowers which might "reduce their incentive to repay the loan." No one paid any attention. Banks continued to hand out HELOCS to almost any homeowner throughout 2005 and into 2006. Many of these were refinances of older HELOCs with greatly increased credit limits.
Perhaps nothing can illustrate the refinancing madness that gripped the country during the bubble years better than the following example. Last year, a 63 year old widow wrote a letter to one of the major banks complaining about her treatment as she attempted to obtain a mortgage modification. The letter was posted on the website MoneyCafe.com. She lamented that she had owned the house for thirty-seven years, but financial problems stemming from the recession had caused her to miss several mortgage payments.
You are probably wondering, as I did: How much could she possibly owe on a house she had owned since 1972? The woman went on to mention that her first mortgage was $1,247,000 and her HELOC balance was another $198,000. Yes, that's right - a total of $1,445,000. You would think that most homeowners who have lived in their house for 37 years would own it outright. Not in California, though, where she resided.
What the Refinancing Frenzy Means for the Housing Market
When the housing crisis erupted in early 2007, banks began to curtail their originations of HELOCs. In spite of this, a study published by Equifax Capital Markets in October 2009 found that 45% of prime borrowers with securitized first mortgage loans that were still current in July 2009 also had a HELOC. Worse yet, the average outstanding balance on these HELOCs increased steadily from roughly $83,000 in mid-2005 to $118,000 four years later.
It is very likely that a considerable number of financially-strapped HELOC borrowers are using their line of credit to cover the first mortgage payment and avoid default. Unfortunately, banks have begun to reduce or eliminate the available line of credit in states where home prices have declined substantially.
Last September, Equifax estimated that there were roughly 13.6 million HELOCs outstanding. Nearly all of them were second or "junior" liens that stood in line behind the first lien holder in the event of a foreclosure. When added together, they pose a tremendous financial burden for the vast majority of these 13.6 million homeowners.
Several key analyses of so-called "underwater" homeowners do not include these outstanding HELOCs in determining whether a property is underwater or not. Some do not include the refinancing of first mortgages which we have looked at. To omit either or both of them will cause a real underestimation of the number of homeowners with negative equity and in serious danger of defaulting.
It is not an exaggeration to say that the massive refinancing undertaken during the bubble years of 2003-2006 is a burden that will probably push back the housing recovery well into the future.
The return of the phantom of deflation
by Todd Harrison - Minyanville
“Last dance with Mary Jane, one more time to kill the pain; I feel summer creepin’ in and I’m tired of this town again.” --Tom Petty
Albert Einstein once said that the definition of insanity is doing the same thing over and over again and expecting a different result. We've covered numerous topics in our time together, including the cumulative imbalances in the global marketplace, the shifting social mood, the sovereign sequel to the first phase of our financial crisis and the Phantom of Deflation.
That last dynamic is perhaps most daunting; between the bear market in China, uncertainty in Europe, stateside budget gaps, upward taxation and austerity measures, it would appear we're on a collision course with an inevitable destination. To that end, I will draw from three of my past columns with hopes of providing some context for our forward path. The first article was written on June 21, 2006; I was reminded of those thoughts when I picked up The Wall Street Journal last week and saw "Inflation at 44-Year Low splashed loudly across the front page. As I wrote at the time:"I won't pretend that all is well in the world or that the worst is behind us. I'm simply looking to shake shekels from the tree and pocket them before the Phantom returns to his rightful home.
Who is this Phantom I speak of and what does he want? For me, it's a simple yet unpleasant answer; the type of discussion that nobody wants to have until we actually see his shadow.
He is Deflation; painful, all-consuming, watershed Deflation. While the mainstream media continues to monitor inflationary pressures--and yes, this exists in some corners of the economy--this particular Phantom won't discriminate between victims. The weakness we've seen is the probability of this demon being priced into the collective mindset."
To be sure, after that column posted and following an additional 15% haircut for commodity prices, asset classes across the board enjoyed a spirited sprint higher. We know now that was the "blow off" phase of the rally, the "panic" portion of the denial-migration-panic continuum that defines all market moves; we all know what happened next.
On Feb. 20, 2008, we offered that policymakers were navigating the increasingly complex landscape in a manner that would further crush the middle class. And I quote,"Let's look at both sides of the great debate. To the left is the socialization of markets, nationalization by governments and a road to hyperinflation. To the right, we have asset class deflation, risk aversion and the unwinding of the debt bubble.
If the Northern Rock nationalization is the first in series of similar steps, we could conceivably see the stateside assumption of mortgage debt by the U.S government. This would hit the dollar and spike equities, at least until interest rates rose to levels deemed attractive as an alternative investment. That is the hyperinflation scenario, one that is presumably preferred by the powers that be as an alternative to watershed deflation. The "haves" would fare better than "have nots," which would include the former middle class that suffers as a result of moral hazard, as the costs of goods and services skyrocket.
The other scenario is the draining of liquidity from the system, which would ignite the fuse for a higher greenback as currency becomes scarcer. Asset classes across the board, from commodities to equities, would deflate and impact the top tier of our societal structure that is tied to the marketplace.
This is, quite obviously, problematic for many policy makers and the constituencies that bankroll them. Deflation in a fractional reserve banking system means that they have, for all intents and purposes, lost control of the economy. It is an admission of defeat, albeit one that may be unavoidable.
Last week, while dining with Minyanville sage Mr. Practical, we discussed the congressional testimony of Fed Chairman Ben Bernanke and Treasury Secretary Hank Paulson. We arrived at the conclusion that they must see what we see but their hands are tied with regard to how they publicly posture themselves.
The banking system, stymied with credit contagion, is not operating normally and the communication thereof is delicate. Hidden behind proposed bailouts, stimulus packages, super-conduits, term auction financing, mortgage rate freezes, foreclosure freezes and working groups are politicians attempting to engineer a business cycle that long ago lost its way.
As Mr. Practical observed as we surveyed the situation, "None of these plans will affect the larger deflationary credit contraction. Debt deflation is occurring outside of the Fed's control at the world's money center banks, where supply and demand for credit has undergone a rapid and significant decline." This process will take years to manifest but will ultimately yield positive results. The destruction of debt will allow world economies to build a solid foundation for future expansion that is entirely more secure than what we currently have in place.
Deflation will cause paper wealth to evaporate and rich nations will be forced to pour real money--as opposed to cheap debt--into developing economies as a redistribution mechanism. While the path might be painful, the destination will be a sustainable starting point for future generations.
There is a marked difference between taking our medicine, which is a function of time and price, and injecting the system with drugs with hopes that the pain will pass. The latter matter continues to be the diagnosis of choice, as evidenced by current events, but the patient would be well served to understand the prognosis. There are no easy answers but there are certainly simple truths. The sooner we prepare for the worst, the better we can in good conscience hope for the best."
The next vibe has been repeated many times in Minyanville through the years, most recently in last week's column. It's short and sweet but sums it up:"There are two alternative forward paths: On one side, debt destruction, asset class deflation, and an outside-in globalization once the dust settles. On the other, we continue to give the global drunk another drink with hopes he doesn't sober up. The sad truth is that he one day will and our children will be forced to pick up the bar tab if we don't change our ways and soon."
Here's the bottom line, and please don't shoot the messenger. This Grand Experiment has been 10 years in the making; it's cumulative , global and quite dangerous. It's very much the reason why Minyanville sounded the alarm with regard to the solvency of the financial industry as the banks raced to all-time highs and warned of a "prolonged period of socioeconomic malaise entirely more depressing than a recession" in the summer of 2006.
We didn't share those thoughts to scare people or make a name for ourselves; we offered them because we believed them to be true. Yes, we were -- and quite possibly may still be -- early, but a forward lens is the only lens when navigating financial markets. While our editorial mandate is "truth and trust," our stylistic approach is "where news meets opinion." I offer this through that lens, as one man's humble opinion.
There are trades, there are investments and there is financial staying power; and there will certainly be sharp rallies on the way to our final destination. One thing is for certain; by the time the deflationary dynamic is self-evident, the opportunity to proactively prepare your portfolio will have already passed.
The S&P Bottom at 400?
by Doug Short - dshort.com
The first chart below is a bit complex but worth the effort to understand. It overlays three market valuation indicators that I track at dshort.com:
- The relationship of the S&P Composite to a regression trendline (more)
- The cyclical P/E ratio using the trailing 10-year earnings as the divisor (more)
- The Q Ratio — the total price of the market divided by its replacement cost (more)
To make a precision overlay, I've adjusted all three to their arithmetic mean, represented by the value 1.00 on the vertical axis. Numbers above 1.00 indicate overvaluation, numbers below undervaluation. Based on the monthly averages of daily closes in the S&P 500 for the month of May (1125.06), the index is overvalued by 27%, 33% or 39%, depending on which of the three metrics you choose.
At current earnings and replacement costs, what price in the S&P 500 would recreate the levels of previous historic lows?
Historic lows in this S&P Composite have occurred when all three of these indicators are below 0.50 — the lows in 1921, 1932, and 1982. The low in 1949 saw two of the three below 0.50.
The next chart is identical to the one above with one number changed. I replaced the May index price with a round number that would put us in the range of those historic lows. The title of this post was a spoiler. The S&P 500 at 400 would do the trick.
I'm not offering this chart as a forecast. Perhaps the secular bull market since 1982 has forever changed market history and the lows of the past are a thing of the past. Or perhaps the decades since 1982 have been a succession of bubbles — in equities, real estate, commodities, and perhaps even gold. Time will tell.
In a future post I'll look at some of the arguments why this time is different — or not.
A Flight to Treasury Bonds That Wasn’t Supposed to Happen
by Jeff Sommer - New York Times
When Treasury bonds are hotter than stocks, it’s a sign that something is very wrong with the stock market. That has been the pattern lately, though. In a reprise of the flight to safety that occurred during the financial crisis of 2008 and early 2009, people have been parking cash in Treasuries and fleeing stocks, which, of course, have had better long-term returns historically. “It’s classic risk-aversion,” said Gregg S. Fisher, chief investment officer at Gerstein Fisher, a financial advisory firm in New York. “We’ve seen this happen before.”
This time around, the great cash migration started with the debt crisis in Greece and elsewhere in Europe, not in the United States, but the effects on the American stock and bond markets have nonetheless been severe. Last month, for example, the Standard & Poor’s 500-stock index dropped 8.2 percent. The Dow Jones industrial average fell 7.9 percent, making it the worst May for stocks, in percentage terms, since 1940.
For people holding Treasury bonds, it’s been one of the best of times. In May, long-term Treasury mutual funds outperformed every traditional category of stock fund, according to Morningstar data, returning 5 percent. Ominously, only bear market funds — those dedicated to bets on a stock market decline — fared better. They returned 8 percent. These trends continued last week, with the Dow and the S.& P. 500 each falling more than 3 percent further.
And as demand for Treasuries has risen, yields have plummeted, while prices, which move in the opposite direction, have soared. This price surge has turbocharged long-term Treasury mutual funds, despite the paltry yields of the underlying bonds. The benchmark 10-year Treasury yield dropped as low as 3.16 percent on May 25, down from 3.99 percent as recently as April 5, according to Bloomberg data. It stood at 3.20 percent on Friday.
People with cash in money market funds are getting a much, much lower yield than that — only 0.07 percent annually for the largest funds, on average, according to Peter G. Crane, the president of Crane Data of Westborough, Mass. That’s better than the 0.05 percent average of earlier this year — but not enough to make a difference. “It’s still awfully close to zero,” he said. “The amazing thing is that even at these rates, when you’re getting virtually no return on your money at all, people are still moving cash into money market funds. It’s sobering.”
It is also sobering that a vast majority of economists and market strategists were forecasting a different chain of events. Treasury yields were universally expected to be rising, not falling, as the United States recovered from a deep recession. The domestic economy is, in fact, growing, and corporate profits have been rising, but the European crisis has overturned many expectations. Barry Knapp, United States equity strategist at Barclays Capital, got some of the outlines right, if not the details. “Sometimes, you’re correct for other reasons,” he said. He had predicted that after a long run upward, the stock market would fall in the first half of the year, and it has, putting stocks in “correction” territory. So far, so good.
But Mr. Knapp had thought that the stock market decline would be set off by a tightening of monetary policy by the Federal Reserve, which has operated on an emergency basis since the onset of the financial crisis in the United States. The Fed hasn’t tightened. Instead, to keep the economy stable in the face of Europe’s problems, it has held short-term interest rates near zero. In addition, it reopened emergency swap lines with European central banks last month, to help maintain liquidity there.
Similarly, Joseph H. Davis, Vanguard’s chief economist, had said it was likely that long-term interest rates would be rising and that the Fed would be moving short-term rates up more dramatically. That will still happen eventually, he said, but the timing is far from certain. “We got it wrong,” he said cheerfully. “Of course, we did warn that there was a good chance that might happen.” In a detailed 16-page analysis of the bond market in March, Mr. Davis and several Vanguard associates deconstructed Treasury yields and projected rates using the “forward yield curve,” a standard calculation of the market’s assessment of future interest rate levels.
This kind of analysis makes use of the information embedded in prices, but it won’t tell you what will happen to the bond and stock markets if something unexpected arises — like Greece suddenly running into a credit wall. What comfort can be drawn from these uncertain markets?
First, the Vanguard study found that even a climb in Treasury yields needn’t be devastating for well-run long-term bond portfolios, because higher yields can more than compensate for lower bond prices. Such management may not be easy to do on your own, but the study found that many mutual funds have handled the transition well in past market cycles.
Second, at the moment, investment-grade bonds are very richly priced in comparison with stocks, several analysts said. Mr. Knapp says he expects that the S.& P. 500 will rise to 1,210 by the end of the year, or 13.6 percent from its current 1,064.88, and that the chances for strong longer-term stock returns are favorable. (The outlook for Treasuries is not positive, he said.)
Mr. Davis said that there is a very “strong correlation” between low Treasury yields and subsequent strong economic growth. And there is a weaker but still significant connection between low yields and high stock returns. In short, at current prices, it would appear that there is some reason for long-term optimism for stock investors. For the short run, alas, more volatility is probably in order. “The problems in Europe, for one, aren’t going away any time soon,” Mr. Knapp said. People seeking safety are likely to face very low yields for a while. Unless you’re focused on a distant horizon, it may be a difficult summer.
Fast Traders' New Edge
by Scott Patterson - Wall Street Journal
Investment Firms Grab Stock Data First, and Use It Seconds Before Others
Some fast-moving computer-driven investment firms are getting an edge by trading on market data before it gets to other investors, according to market players and researchers who have studied the trading. The firms gain that advantage by buying data from stock exchanges and feeding it into supercomputers that calculate stock prices a fraction of a second before most other investors see the numbers. That lets these traders shave pennies per share from trades, which when multiplied by thousands of trades can earn the firms big profits.
Critics call the practice the modern day equivalent of looking at share prices listed in tomorrow's newspaper stock tables today. "It is a rigged game," Sal Arnuk, co-founder of brokerage firm Themis Trading, said Wednesday at a Securities and Exchange Commission roundtable discussion in Washington, D.C., referring to the trading activity, which some call "latency arbitrage." While legal, the practice pushes the envelope of what is fair, critics say, and raises questions about the advantages some fast-moving traders are gaining in the market.
The SEC roundtable convened executives from trading centers and firms across Wall Street as the agency continues to probe high-frequency trading and the growth of dark pools, trading venues where trades take place away from the main exchanges. High-frequency trading has come under greater scrutiny since the May 6 "flash crash," when some high-frequency firms along with a number of other active traders withdrew from the market, arguably exacerbating the stocks' swift downdraft that day.
High-speed trading, now estimated to account for about two-thirds of U.S. stock market volume, takes many forms, some entirely proper. Defenders say it reduces trading costs for all investors by adding volume to the market. Latency arbitrage is a type of trading that relies on ultrahigh speeds; it's not clear which firms engage in it or how pervasive it is. Some firms pay tens of thousands of dollars a year to individual exchanges for premium access to their price feeds, industry players and exchanges say. The SEC, in a broad review of market structure earlier this year, said information from trading-center data feeds "can reach end-users faster than the consolidated data feeds."
The latency arbitrage trade aims to game the so-called national best bid and offer price on a stock, which sets the price most investors use to trade. The ability to estimate price moves ahead of the national best bid and offer price, which is consolidated electronically from exchanges, can give traders an advantage of about 100 to 200 milliseconds over investors who use standard market tools, according to a November 2009 report on such trading activities by Jefferies & Co. An advanced look at exchange data and order flow can provide firms "the ability to forecast future prices" and "make adjustments to their orders in the market or send new orders which are based on this information," the report found.
Some investors are searching for ways to protect themselves. Rich Gates, co-founder of TFS Capital LLC, started becoming concerned about latency arbitrage in early 2009 after a Wall Street bank pitched the trade to his firm. In hundreds of tests, TFS has found that some of its trades were getting picked off by firms exploiting the time-delay wrinkle. That was costing the firm money. To learn more, TFS, which manages about $1.1 billion in mutual funds and hedge funds, devised a method to essentially bait firms into engaging in the trade. In effect, TFS proved that some traders were wise to a movement in a stock's price before it happened.
On a March afternoon, a TFS trader sent an order to a broker to buy shares of Nordson Corp., a maker of fluid dispensing equipment. The trader sent an instant message to the broker: "please route to broker pool #2," a request to send the order to a specific dark pool. The trader told the broker not to pay a price higher than the midpoint between what buyers and sellers were offering, which at the time was $70.49. Several seconds after the dark pool order was placed, the market price didn't change. Then the TFS trader set a trap: he sent a separate order into the broader market to sell Nordson for a price that pushed the midpoint price down to $70.47.
Almost immediately, TFS was sold Nordson for $70.49—the old, higher midpoint—in broker pool No. 2, which didn't reflect the new sell order. TFS got stuck paying two cents more than it should have, suggesting that some seller knew the higher price was a good deal to nab quickly. Such trades are "unusually suspicious," said Mr. Gates. Most dark pool operators say they police investors for improper activities. Liquidnet, which runs a dark pool, had suspended 125 members through 2009 for suspicious trading since its launch in April 2001, the firm says.
'Go for the Jugular'
by Sebastian Mallaby - The Atlantic
The collapse of Greece's economy, and its domino effect on Spain, Portugal, and other countries in the euro currency zone, is in many ways a replay of an earlier financial crisis--the break-up of the continent's Exchange Rate Mechanism in 1992. Then, as now, Europe's policymakers showed little patience with--or understanding of--markets. Then, as now, Germany often seemed contemptuous of the less competitive economies on the periphery of Europe.
The 1992 crisis came to a head on Friday September 9, when currency speculators forced the devaluation of the Italian lira. By the following Tuesday, Britain was facing the same fate. In this excerpt from More Money Than God, his new history of hedge funds, Sebastian Mallaby tells the story of the crisis from inside the cockpit of George Soros's Quantum Fund.
On Tuesday, September 15, the pound took another beating. Spain's finance minister telephoned Norman Lamont, his British counterpart, to ask him how things were. "Awful," Lamont answered.
That evening Lamont convened a meeting with Robin Leigh-Pemberton, the governor of the Bank of England. The two men agreed that the central bank should buy the pound aggressively the next morning. As the meeting wound down, Leigh-Pemberton read out a message from his press office. Helmut Schlesinger, the president of the German Bundesbank, had given an interview to the Wall Street Journal and a German financial newspaper, Handelsblatt. According to a news agency report on his remarks, Schlesinger believed there would have to be a broad realignment of Europe's currencies.
Lamont was stunned. Schlesinger's remark was tantamount to calling for the pound to devalue. Already his public statements had triggered an assault on Italy's lira. Now the German central banker was attacking Britain. Lamont asked Leigh-Pemberton to call Schlesinger immediately, overruling Leigh-Pemberton's concern that the punctilious Bundesbanker did not like to have his dinner interrupted.
After several conversations, Leigh-Pemberton reported that Schlesinger believed there was no cause for alarm. His comments were not "authorized," and he would check the article and issue an appropriate statement when he reached his office in the morning. Lamont protested that this was a dangerously leisurely response. Schlesinger's purported comments were already on news wires; traders in New York and Asia would react overnight; Schlesinger needed to issue a denial quickly. But Germany's monetary master refused to be hurried. He was not going to adapt to a world of 24-hour trading.
That night, Lamont went to bed knowing that the next day would be difficult. But he could not imagine how difficult.
Stan Druckenmiller, the chief portfolio manager at George Soros's Quantum Fund, read Schlesinger's comments on Tuesday afternoon in New York. He didn't care whether they were "authorized;" he reacted immediately. Schlesinger had made it obvious that the Bundesbank was not going to help the pound cling onto its position inside the exchange-rate mechanism by cutting German interest rates. The devaluation of sterling was now all but inevitable.
Druckenmiller walked into Soros's office and told him it was time to move. He had held a $1.5 billion bet against the pound since August, but now the endgame was coming and he would build on the position steadily. Soros listened and looked puzzled. "That doesn't make sense," he objected. "What do you mean?" Druckenmiller asked. Well, Soros responded, if the Schlesinger quotes were accurate, why just build steadily? "Go for the jugular," Soros advised him.
Druckenmiller could see that Soros was right: Indeed, this was the man's genius. Druckenmiller had done the analysis, understood the politics, and seen the trigger for the trade; but Soros was the one who sensed that this was the moment to go nuclear. When you knew you were right, there was no such thing as betting too much. You piled on as hard as possible.
For the rest of that Tuesday, Druckenmiller and Soros sold sterling to anyone prepared to buy from them. Normally they left it to their traders to execute orders, but this time they got on the phones themselves, searching for banks that would agree to take the other side of their orders. Under the rules of the exchange-rate mechanism, the Bank of England was obliged to accept offers to sell sterling, but this requirement only held during the trading day in London. With the Bank of England closed for business, it was a scramble to find buyers, particularly once word got around that Soros and Druckenmiller were selling crazily.Late that day, the hedge-fund trader Louis Bacon called Stan Druckenmiller. The two talked about how the drama might play out, and Bacon said he was still finding ways to dump sterling.
"Really?" Druckenmiller blurted out. He told Bacon to wait, and a few seconds later Soros joined the call. "Where did you get the market?" Soros demanded furiously.
Around 2 the next morning, Druckenmiller returned to the office. He wanted to be at his desk when London trading reopened and the Bank of England would be forced to resume purchases of sterling. Before he had even taken his coat off, Soros checked in by telephone. Druckenmiller hit the speaker button, and his boss's disembodied East European accent filled the office, urging him to redouble sales of the British currency.
When the markets opened in London, the Bank of England did its best to boost sterling, acting on the plan that Lamont had authorized the previous evening. It intervened twice before 8:30 AM, each time buying £300 million. But the buying had absolutely no effect. Druckenmiller was manning his cockpit on the other side of the Atlantic, clamoring to sell sterling by the billion. The Bank of England carried on intervening, not realizing how completely it was outgunned. By 8:40 AM it had purchased a total of £1 billion, but sterling still refused to budge. Ten minutes later, Lamont told Prime Minister John Major that intervention was failing. Britain would have to raise interest rates in order to protect sterling.
To Lamont's frustration, Major refused to authorize a rate hike. He had been responsible for taking Britain into the exchange-rate mechanism. He feared that his credibility would collapse if the policy was seen to be failing; he might face a leadership challenge from a member of his own cabinet. Major pleaded that new economic data would come out later that day. He told Lamont to hang tough in the hope that the markets would subside eventually.
Every hour that went by, hedge funds and banks sold more sterling to the Bank of England, which was being forced to load up on a currency that seemed sure to be devalued. Britain was presiding over a vast financial transfer from its long-suffering taxpayers to a global army of traders. At 10:30 AM Lamont called John Major again to urge a rise in interest rates.
While Lamont was calling the prime minister, British officials did their best to project confidence. Eddie George, the number two at the Bank of England, went ahead with a long scheduled meeting with David Smick, a financial consultant who fed political intelligence to Druckenmiller and Soros. Smick showed up at the Bank of England's exquisite building on Threadneedle Street to find George in apparently fine form, decked out in a checkered shirt and striped tie in the manner of a London banker. "We have it all under control," George said cheerily; in the extreme case, which was unlikely, to be sure, the Bank of England would raise interest rates by a full percentage point to see off the speculators. Smick wondered whether George understood the weight of the hedge-fund selling that was forcing down the value of the British currency. The avalanche had begun. It might be too late to stop it.
Smick summoned up his nerve and asked George straight out: "Aren't you worried that you may have slipped too far behind the curve on this thing?" George betrayed a look of mild annoyance. He was about to respond when the telephone rang. After a minute of intense conversation, he hung up.
"I've learned we've just raised interest rates by two hundred basis points," he said softly--a full two percentage points. Then he rose and shook Smick's hand and left the room running.Lamont's plea to the prime minister had succeeded this time, and the announcement of the dramatic rate hike had been set for 11 AM. A few minutes before the appointed hour, Lamont walked over to his outer office at the Treasury to watch the Reuters screen. But when the announcement came, the pound did not respond at all. The line on the screen remained totally flat. Lamont felt like a surgeon who looks at a heart monitor and realizes that his patient has expired. All that remained was to unplug the system.
Lamont knew he had to take Britain out of the exchange-rate mechanism. But this would require the prime minister's approval, and Major was not immediately available. Lamont had his staff call Major's office repeatedly to stress the urgency of a meeting, but no audience was granted. Eventually Lamont led a team of advisers over to Admiralty House, the fine Georgian building that was serving temporarily as the prime ministerial residence; there they waited for at least another quarter of an hour before Major would see them. Lamont calculated that the nation was losing hundreds of millions of pounds every few minutes, but his boss looked annoyingly relaxed.
He began the meeting by wondering aloud whether there was room for further financial diplomacy with Germany, then added that several other government ministers would shortly be joining the meeting. A meandering discussion ensued. Could Britain withdraw from the exchange-rate mechanism without offending its European partners? If it did withdraw, would there be calls for ministers' resignations? It became clear that Major's objective was to share responsibility for the crisis with the other people in the room--"we were there to put our hands in the blood," one minister later commented. It was a shrewd maneuver, and from Major's perspective, it served to neutralize potential rivals to his throne. Meanwhile, Druckenmiller and Soros were adding to their positions.
The Admiralty House meeting broke up without the decision to quit the exchange-rate mechanism that Lamont had wanted. Instead, Major insisted on another interest rate hike--this time of three additional percentage points, effective the next day--as a last ditch effort to save sterling. Again, Lamont watched the news break on the Reuters screen. Again, there was no effect on sterling's value. At their desks on the other side of the Atlantic, Druckenmiller and Soros saw the rate hikes as an act of desperation by a dying man. They were a signal that the end was nigh--and that it was time for one last push to sell the life out of the British currency.
Lamont proceeded to warn his fellow finance ministers in Europe of sterling's plight. His Italian counterpart, Piero Barucci, suggested that, rather than quitting the exchange-rate mechanism unilaterally, Lamont suspend markets to give himself time to negotiate a realignment with other European governments. Lamont had to point out that it is not in the power of a modern finance minister to suspend currency markets that trade continuously and globally.
That evening, Lamont called a press conference in the Treasury's central courtyard. At 7:30 p.m., facing a massive battery of TV cameras from all over the world, he announced Britain's exit from the exchange-rate mechanism. The markets had won, and the government had at last recognized it.
Adapted from More Money Than God: Hedge Funds and the Making of a New Elite, to be published by the Penguin Press on June 14.
Hungary Committed To 2010 Budget Gap Goal Of 3.8% Of GDP
by Margit Feher - Dow Jones Newswires
Hungary's new government rushed to calm markets Saturday with a pledge to keep the country's official budget deficit goal for 2010 as is while stressing that the country isn't facing any sovereign credit default. An official of the new cabinet, which took office a week ago, also stressed Hungary's commitment to adopt the euro. The government's pledges will likely soothe Hungary's rattled financial markets somewhat and the Hungarian currency may return Monday to stronger levels, analysts said.
"The planned deficit target cannot be maintained without immediate action. The cabinet has been called for a three-day extraordinary meeting. We want that the planned deficit target come true," said Mihaly Varga, the head of a committee in charge of unearthing the "true" state of the budget. Hungary targets this year's budget shortfall at 3.8% of gross domestic product under its standby credit line with the International Monetary Fund and the European Union. Due to its high external debt and lax fiscal policies, Hungary was the first E.U. country that secured IMF support when hit hard by the global economic crisis in 2008.
"The prime minister [Viktor Orban] supports our proposal that in the current state of the world economy the government should aspire to deliver a budget deficit as small as possible," Varga said at a press conference presenting the initial findings of his committee. The budget deficit this year could reach as high as 7% to 7.5% of GDP without fiscal measures, the new government's officials said in the previous weeks. The National Bank of Hungary estimated in its latest policy paper May 31 that current revenue and expenditure trends will lead to a 4.5%-of-GDP budget deficit this year.
Varga declined to state how wide the 2010 budget deficit would be without the government's future measures and blamed the previous two Socialist governments for misleading the public about the true state of the budget. "In the current situation, the only target we may have is that the planned [budget deficit] goal come true, and that the government aspires to regain credibility and reach a change in the [country's] credit default swaps on international markets," he said.
Remarks Thursday by the vice president of the election-winning Fidesz party, Lajos Kosa, that Hungary is in a Greece-like sovereign credit crisis caused the Hungarian forint to tank on foreign exchange markets, where the euro was also coming under pressure. Hungary's credit default swaps, an instrument seen as a measure of how risky investing into a country's assets is, rose to a 12-month high. "The colleague's remark about the sovereign default was unfortunate. Hungary is not among the countries that face a default. Here the debate is about how to reach a 3.8% deficit and the situation is totally different from places where the deficit is over 10% [of GDP]," Varga said, adding that the remark on default was an "exaggeration."
The center-right Fidesz party won parliamentary elections in April with a landslide, unseating the minority Socialist government that implemented painful austerity measures to regain investor confidence. That hard-earned confidence evaporated Friday. The cabinet is to come up with an action plan to keep the budget on course within 72 hours, Varga said, noting, however, that plans for tax cuts are still in place. The IMF's regional representative is in Budapest "for unofficial talks to learn about the planned measures," Varga said.
"Fidesz has scored an own-goal. It has been communicating strongly how catastrophic the situation is to push the IMF and the E.U. to accept an upward revision to the 2010 budget deficit goal. Now that has backfired, and both the IMF and the E.U. are sticking to the original 3.8% target, this is what this course of events shows," ING Bank economist David Nemeth said. Nemeth still saw some moderate upward revision in the 2010 deficit goal, probably to around 4.5% of GDP, as likely acceptable for the IMF and the E.U. on condition Fidesz outlines an acceptable budget path plan for the coming years. Hungary is also committed to meet the euro adoption criteria.
"The prime minister also supported that the introduction of the euro should be an important goal [for the government], there's no other road for Hungary but the [adoption] of the euro," Varga said. Budget performance in 2010 will be key for the 2011 budget target, Varga said. Under its current targets Hungary plans to shrink its budget deficit to 2.9% of GDP in 2011, below the 3% threshold set for euro zone applicants.
Hungarian financial markets will likely calm Monday. ING's Nemeth said the forint could strengthen to HUF280 against the euro from a 12-month low of HUF288 Friday. If the government presents a credible set of fiscal measures, the forint could return to the HUF270-280 range, Nemeth added. Should the forint weaken further, above the HUF310 mark, the central bank may need to hike interest rates, Nomura economist Peter Attard Montalto said Friday. "Fidesz is playing a dangerous game and risks pushing the market too far, squandering a perfect inheritance from the previous government," Montalto said prior to Saturday's government announcement.
A Plague Upon The World: The USA is a "Failed State"
by by Dr. Paul Craig Roberts - Global Research
Interview with Dr. Paul Craig Roberts, former Assistant Secretary US Treasury, Associate Editor Wall Street Journal, Professor of Political Economy Center for Strategic and International Studies Georgetown University Washington DC.
Dr. Roberts, the United States is regarded as the most successful state in the world today. What is responsible for American success?
Dr. Roberts: Propaganda. If truth be known, the US is a failed state. More about that later. The US owes its image of success to: (1) the vast lands and mineral resources that the US “liberated” with violence from the native inhabitants, (2) Europe’s, especially Great Britain’s, self-destruction in World War I and World War II, and (3) the economic destruction of Russia and most of Asia by communism or socialism.
After World War II, the US took the reserve currency role from Great Britain. This made the US dollar the world money and permitted the US to pay its import bills in its own currency. World War II’s destruction of the other industrialized countries left the US as the only country capable of supplying products to world markets. This historical happenstance created among Americans the impression that they were a favored people. Today the militarist neoconservatives speak of the United States as “the indispensable nation.” In other words, Americans are above all others, except, of course, Israelis.
To American eyes a vague “terrorist threat,” a creation of their own government, is sufficient justification for naked aggression against Muslim peoples and for an agenda of world hegemony.
This hubristic attitude explains why among most Americans there is no remorse over the one million Iraqis killed and the four million Iraqis displaced by a US invasion and occupation that were based entirely on lies and deception. It explains why there is no remorse among most Americans for the countless numbers of Afghans who have been cavalierly murdered by the US military, or for the Pakistani civilians murdered by US drones and “soldiers” sitting in front of video screens. It explains why there is no outrage among Americans when the Israelis bomb Lebanese civilians and Gaza civilians. No one in the world will believe that Israel’s latest act of barbarity, the murderous attack on the international aid flotilla to Gaza, was not cleared with Israel’s American enabler.
You said that the US was a failed state. How can that be? What do you mean?
Roberts: The war on terror, invented by the George W. Bush/Dick Cheney regime, destroyed the US Constitution and the civil liberties that the Constitution embodies. The Bill of Rights has been eviscerated. The Obama regime has institutionalized the Bush/Cheney assault on American liberty. Today, no American has any rights if he or she is accused of “terrorist” activity. The Obama regime has expanded the vague definition of “terrorist activity” to include “domestic extremist,” another undefined and vague category subject to the government’s discretion. In short, a “terrorist” or a “domestic extremist” is anyone who dissents from a policy or a practice that the US government regards as necessary for its agenda of world hegemony.
Unlike some countries, the US is not an ethic group. It is a collection of diverse peoples united under the Constitution. When the Constitution was destroyed, the US ceased to exist. What exists today are power centers that are unaccountable. Elections mean nothing, as both parties are dependent on the same powerful interest groups for campaign funds. The most powerful interest groups are the military/security complex, which includes the Pentagon, the CIA, and the corporations that service them, the American-Israel Public Affairs Committee, the oil industry that is destroying the Gulf of Mexico, Wall Street (investment banks and hedge funds), the insurance companies, the pharmaceutical companies, and the agri-companies that produce food of questionable content.
These corporate powers comprise an oligarchy that cannot be dislodged by voting. Ever since “globalism” was enacted into law, the Democrats have been dependent on the same corporate sources of income as the Republicans, because globalism destroyed the labor unions. Consequently, there is no difference between the Republicans and Democrats, or no meaningful difference.
The “war on terror” completed the constitutional/legal failure of the US. The US has also failed economically. Under Wall Street pressure for short-term profits, US corporations have moved offshore their production for US consumer markets. The result has been to move US GDP and millions of well-paid US jobs to countries, such as China and India, where labor and professional expertise are cheap. This practice has been going on since about 1990.
After 20 years of offshoring US production, which destroyed American jobs and federal, state and local tax base, the US unemployment rate, as measured by US government methodology in 1980, is over 20 percent. The ladders of upward mobility have been dismantled. Millions of young Americans with university degrees are employed as waitresses and bartenders. Foreign enrollment comprises a larger and larger percentage of US universities as the American population finds that a university degree has been negated by the offshoring of the jobs that the graduates expected.
When US offshored production re-enters the US as imports, the trade balance deteriorates. Foreigners use their surplus dollars to purchase existing US assets.
Consequently, dividends, interest, capital gains, tolls from toll roads, rents, and profits, now flow abroad to foreign owners, thus increasing the pressure on the US dollar. The US has been able to survive the mounting claims of foreigners against US GDP because the US dollar is the reserve currency. However, the large US budget and trade deficits will put pressures on the dollar that will become too extreme for the dollar to be able to sustain this role. When the dollar fails, the US population will be impoverished.
The US is heavily indebted, both the government and the citizens. Over the last decade there has been no growth in family income. The US economy was kept going through the expansion of consumer debt. Now consumers are so heavily indebted that they cannot borrow more. This means that the main driving force of the US economy, consumer demand, cannot increase. As consumer demand comprises 70% of the economy, when consumer demand cannot increase, there can be no economic recovery.
The US is a failed state also because there is no accountability to the people by corporations or by government at any level, whether state, local, or federal. British Petroleum is destroying the Gulf of Mexico. The US government has done nothing. The Obama regime’s response to the crisis is more irresponsible than the Bush regime’s response to Hurricane Katrina. Wetlands and fisheries are being destroyed by unregulated capitalist greed and by a government that treats the environment with contempt. The tourist economy of Florida is being destroyed. The external costs of drilling in deep waters exceeds the net worth of the oil industry. As a result of the failure of the American state, the oil industry is destroying one of the world’s most valuable ecological systems.
What can be done?
Roberts: The American people are lost in la-la land. They have no idea that their civil liberties have been forfeited. They are only gradually learning that their economic future is compromised. They have little idea of the world’s growing hatred of Americans for their destruction of other peoples. In short, Americans are full of themselves. They have no idea of the disasters that their ignorance and inhumanity have brought upon themselves and upon the world.
Much of the world, looking at a country that appears both stupid and inhumane, wonders at Americans’ fine opinion of themselves. Is America the virtuous “indispensable nation” of neoconservative propaganda, or is America a plague upon the world?
Obama Knew the Spill Was Hopeless
by Richard Wolffe - Daily Beast
As the president visits the Gulf anew, Richard Wolffe reports that he was first briefed in April on how bad the spill would be. Plus: the real reason the White House is so mad at Carville—and why Obama would rather talk about the economy.
Critics have bashed President Obama for being slow to seize the political initiative in combating the BP oil spill in the Gulf Coast, now widely believed to be the worst environmental disaster in U.S. history. The White House has battled back, releasing a timeline of events showing that Obama was briefed—and deploying the Coast Guard—within 24 hours of the Deepwater Horizon blowout. What has not been previously disclosed: The president was not only briefed on the real-time events of the spill, but also on just how bad it would be—and how hard it would be to plug the hole.
Carol Browner, director of the White House Office of Energy and Climate Change Policy, told Obama at one of the earliest briefings in late April that the blowout would likely lead to an unprecedented environmental disaster, senior White House aides told The Daily Beast. Browner warned that capping a well at such depths had never been done before, and that they ought to expect an oil spill that would continue until a relief well was drilled in August, the aide said.
That early briefing on the scope of the spill—and enormous technical challenges involved in fixing it—might help explain the sense of fatalism that has infused Obama's team from the start. Little that has happened since has changed their mind-set. Now six weeks later, the president’s top advisers expect the oil spill—and the negative stories—to continue through August. The fact that Team Obama was warned of the extent of the disaster so early on suggests that White House officials were aware of the environmental challenge long before they decided to demonstrate concern via presidential visits to the Gulf.
When asked about the prospects for the new cap fitted over the leaking well earlier this week, Press Secretary Robert Gibbs voiced little optimism. "I’m long out of the prediction business on this," he told reporters on Air Force One on Friday. "Everyone is hopeful that this works." His comments were echoed by Coast Guard Admiral Thad Allen, the national incident commander for the BP spill—who warned reporters against "over-optimism."
Given the lack of technical capabilities on the sea floor, there’s not much the White House can do to plug the hole. And there are limited options for effectively preventing the oil from reaching large stretches of coastline. Instead, Obama’s team is focusing on the options at their immediate disposal—methods of news management and presidential communication. Obama’s aides have grown increasingly frustrated with the public criticism that the president has failed to express sufficient anger. As Gibbs put it at a recent briefing, "If jumping up and down and screaming were to fix a hole in the ocean, we’d have done that five or six weeks ago. We’d have done that the first night."
That frustration has boiled over in dealing with some of their most high-profile critics—especially the ones on the Democratic side. Case in point: James Carville, the Democratic strategist, whose TV eruptions have helped focus attention on the president’s response. Carville recently chanced upon Coast Guard Admiral Thad Allen eating dinner with BP CEO Tony Hayward at a New Orleans restaurant, the senior White House aide says.
Allen had called Carville after his first TV outburst to talk about the administration’s response, but Carville failed to return the call. When Allen asked why, Carville said he had been busy, the aide says (Carville did not reply to requests for comment). That does not sit well with administration officials who suggest that Carville’s readiness to go public with his criticism is not matched by his private willingness to offer concrete suggestions about what they could do differently.
Amid the frustration, the White House has taken steps to make their response more visible in recent weeks. In addition to daily briefings by Allen, the White House has staged two presidential visits to the Gulf over the last week. As they plot course, Obama’s team is determined to avoid two scenarios. They’re mindful of BP’s habit of scheduling rounds of TV interviews to tout a new development—only to discover that the news was more disappointing than expected.
And they want to avoid the perception that the president is focused exclusively on the oil spill, at a time when both public and private polling shows Americans have greater concerns—and care far more about the economy at this stage than they do about the oil spill. That, of course, could change as shocking pictures of oil-covered animals begin to surface on TV.
But for now, the latest CBS News poll—released Friday—shows that approval and disapproval ratings of Obama’s performance on the oil spill are more evenly split than expected, given the news coverage and the scale of the disaster. The poll showed 44 percent disapproval and 38 percent approval, a marginal improvement from a week earlier, when the numbers were 45 percent disapproval and 35 percent approval.
When asked about priorities in a recent Economist/YouGov poll, respondents ranked the environment in eighth position of "very important" issues, after the economy, health care, social security, the budget deficit, taxes, terrorism and education. The environment ranked "very important" with 50 percent of respondents, compared to 82 percent saying the economy.
BP chief Tony Hayward sold shares weeks before oil spill
by Jon Swaine and Robert Winnett - Telegraph
The chief executive of BP sold £1.4 million of his shares in the fuel giant weeks before the Gulf of Mexico oil spill caused its value to collapse. Tony Hayward cashed in about a third of his holding in the company one month before a well on the Deepwater Horizon rig burst, causing an environmental disaster. Mr Hayward, whose pay package is £4 million a year, then paid off the mortgage on his family’s mansion in Kent, which is estimated to be valued at more than £1.2 million.
There is no suggestion that he acted improperly or had prior knowledge that the company was to face the biggest setback in its history. His decision, however, means he avoided losing more than £423,000 when BP’s share price plunged after the oil spill began six weeks ago. Since he disposed of 223,288 shares on March 17, the company’s share price has fallen by 30 per cent. About £40 billion has been wiped off its total value. The fall has caused pain not just for BP shareholders, but also for millions of company pension funds and small investors who have money held in tracker funds.
The spill, which has still not been stemmed, has caused a serious environmental crisis and is estimated to cost BP up to £40 billion to clean up. There was growing confidence yesterday that a new cap placed over the well was stemming the oil flow. An estimated three million litres a day had been pouring into the sea off the coast of Louisiana since the April 20 explosion, damaging marine life. The crisis has enraged US politicians, with President Obama yesterday forced to cancel a trip to Indonesia amid a row over the White House’s response. Mr Hayward, whose position is thought to be under threat, risked further fury by continuing plans to pay out a dividend to investors next month.
What the Spill Will Kill
by Sharon Begley - Newsweek
Giant plumes of crude oil mixed with methane are sweeping the ocean depths with devastating consequences. 'I'm not too worried about oil on the surface,' says one scientist. 'It's the things we don't see that worry me the most.'
It was in mid-May that independent scientists—not any of the officials or researchers working for any of the government agencies on scene at the Deepwater Horizon disaster, let alone BP—first detected the vast underwater plumes of crude oil spreading like Medusa's locks from the out-of-control gusher in the Gulf of Mexico. BP immediately dismissed the reports, and in late May CEO Tony Hayward flatly declared "there aren't any plumes," stopping just short of accusing the scientists of misconduct. Federal officials called the scientists' claim "misleading, premature and, in some cases, inaccurate."
Moreover, continued a statement from the National Oceanic and Atmospheric Administration, any oxygen depletion in the surrounding waters due to plumes is not "a source of concern at this time," and critics blaming dispersants for the plumes had "no information" to stand on. NOAA administrator Jane Lubchenco, a respected oceanographer when President Obama tapped her to lead the agency, insists there are no plumes, only "anomalies"—though last week she acknowledged the possibility of oil beneath the surface.
Now it is increasingly clear that the initial reports of undersea oil were right, that life-giving oxygen in the water column is indeed being depleted, and that unless the laws of chemistry have been repealed, dispersants are likely worsening the tentacles of undersea crude. What might have been just another oil spill—albeit a bad one—has been transformed into something unprecedented.
Even if the containment dome lowered into place late last week continues to siphon off some of the leaking crude, the Deepwater Horizon disaster will enter the record books not for how much but for where: an enormous release of crude oil not only onto vulnerable shorelines and fragile marshes but into the largely unexplored depths of the sea. The consequences for the delicate balance of existence in the vulnerable ecosystems of the gulf, and for the vast cycles of nature that sustain life there and beyond, are as incalculable as they are potentially devastating.
"I'm not too worried about oil on the surface," says chemist Ed Overton of Louisiana State University. "It's going to cause very substantial and noticeable damage—marsh loss and coastal erosion and impact on fisheries, dead birds, dead turtles—but we'll know what that is. It's the things we don't see that worry me the most. What happens if you wipe out all those jellyfish down there? We don't know what their role is in the environment. But Mother Nature put them there for a reason," and many are in the plumes' paths.
Their presence has blown to smithereens the cliché that oil floats on water. That correctly describes what happens when pure crude spills into the sea from a well in shallow water or a tanker at the surface, as happened with the Exxon Valdez. But when a gusher is 5,000 feet down, consists of a mix of crude oil and dissolved methane, and is being disgorged under tremendous pressure and temperature, studies predict that the physical and chemical properties of the spill will undergo an ugly alchemy.
"The dispersants are changing the chemistry and physics of the oil," says biological oceanographer Ajit Subramaniam of Columbia University's Lamont-Doherty Earth Observatory. "They are creating microlayers of oil that are being carried by the deep currents." Even without dispersants, the crude gets broken into zillions of droplets suspended in the water column and corralled there, prevented from rising to the surface. The result is the undersea plumes that oceanographer Samantha Joye of the University of Georgia and colleagues first detected from the research vessel Pelican three weeks after the blowout. Despite years of research showing that undersea oil might form such plumes, BP's Hayward insists it cannot. "Oil floats!" he repeatedly says.
Making matters more interesting, the chemical dispersants that work fairly well on surface spills, breaking apart oil slicks into droplets that degrade more quickly than a contiguous layer, may be exacerbating the undersea-oil problem. A 2007 report by the Minerals Management Service—which OK's oil and gas leases—on the environmental consequences of oil and gas drilling on the outer continental shelf concluded that an underwater plume is a real possibility:
"The use of dispersants on oil spills … could cause these compounds to reach the deeper water reef areas." BP has pumped 185,000 gallons of dispersant onto the out-of-control wellhead (plus 800,000 on the surface). That is causing more of the gushing crude to break up into the very form unlikely to rise to the surface. There have been no suggestions that BP intended to keep the worst of the spill out of sight.
After NOAA questioned the finding of deepwater oil plumes (but now has two boats using sonar to look for plumes), the National Science Foundation stepped in with the kind of support that matters: cash. With "rapid response" grants from the foundation, scientists are searching for plumes and trying to assess their impact. As far as scientists can tell, the undersea oil is actually a witch's brew of crude mixed with dissolved methane, stretching 15 miles long, 5 miles wide, and 300 feet thick in the case of one plume detected by the Pelican, and 22 miles long, 6 miles wide, and 3,000 feet thick in the case of a plume found by University of South Florida researchers aboard the WeatherBird II last week. The latter plume reaches all the way to the surface.
NOAA's skepticism about plumes is correct on one point. Contrary to what the phrase conjures up, oil plumes are not black serpentines. The USF researchers caught one on camera last week, but in general they can be detected only by sophisticated instruments lowered into the depths. Samples hauled up do not even look black, though when they are run through a filter, black specks are revealed.
These undersea rivers of oil, though not nearly as concentrated as oil at the surface, are likely to affect the gulf through two mechanisms. The first is oxygen depletion, which has been estimated at 30 percent in the plumes. The other will be direct toxic effects of the oil and methane. Leatherback turtles and sperm whales dive to the 3,200-foot depths where plumes have now been detected, and aren't smart enough to take evasive action.
"They don't necessarily recognize the plumes as something dangerous," says marine scientist Ellycia Harrould-Kolieb, who works with the green group Oceana. Sharks, shrimp, and squid are all inhabitants of the deep, which would protect them from a Valdez-type spill on the surface, but now puts them in the crosshairs. Marlin, snapper, and grouper swim hundreds of feet down. One of the biggest losses may be bluefin tuna. Already imperiled from overfishing, the species breeds only in the Mediterranean Sea and the gulf. "This could spell the end to bluefin," says Harrould-Kolieb. Even small bits of crude, like those in the plumes, can suffocate fish by gunking up their gills.
Other species imperiled by the deep-sea plumes include those that migrate down from the surface and others that make the reverse commute. "There are plankton that go from the surface to the middle of the water column, and other things eat them and go down deeper, and other things eat them and go to the bottom," says oceanographer Lisa Levin of Scripps Institution of Oceanography. "All the zones of life interact, and now they're probably all being hammered."
The worst effect of large-scale death on the gulf floor is nothing as photogenic as dead pelicans, but much more pernicious. "The organisms most likely to be harmed by the oil plumes are those at the base of the food chain," says biological oceanographer Andrew Juhl of Lamont-Doherty. "Most of the primary producers, such as phytoplankton, live throughout the water column. Effects on them would cascade to the larger species we care about."
The deep-sea communities are also linchpins of the global carbon cycle—the ocean's garbage men and recycling centers. They eat the waste and carcasses of creatures that lived and died in higher layers of the sea, and whose bodies drift to the sea floor. "The biggest biological component of the global carbon cycle is in the deep sea," says marine biologist Jeffrey Baguley of the University of Nevada; without deep-sea organisms, dead marine creatures would accumulate like bottles and cans in places without deposit laws.
That would deprive the rest of the living seas of the nutrients they need to keep life going. If a large enough area in the depths of the gulf becomes a kill zone, organic matter would accumulate in the sediment and be cut off from the rest of the ecosystem, says marine scientist Mahlon Kennicutt of Texas A&M.
Uniquely in the crosshairs are creatures living at or near the sea floor: deep-sea corals, jellyfish, and soft-bottom fish such as Atlantic croaker, sand seatrout, Atlantic bumper, sea robin, and sand perch. Three coral reefs live in the area under the surface slick, and two are close to one plume that scientists tracked last week. Oil could be lethal to a reef. The Minerals Management Service's 2007 report concluded that "in the extremely unlikely event that oil from a subsurface spill were to reach a coral reef…in lethal concentrations," recovery could take as long as "10-20 years." "In the time scale of man, this will be a catastrophic event," says Baguley.
Of special concern are the hundreds of "seep" communities in the gulf, enclaves of crustaceans, weird tube worms, tiny fish, mussels, and crabs that live near natural gashes in the sea floor. These seeps release hydrocarbons, which might suggest that the oil-and-methane plumes are good for these creatures.
Unfortunately, the profusion of hydrocarbons is likely to be less like sitting down to a Thanksgiving feast than like being encased in marshmallowed sweet potatoes: deadly. Like Yellowstone's geysers, they support unique organisms that may have scientific and commercial uses. Bacteria from a Yellowstone geyser are the source of enzymes that power a biochemical reaction called PCR, a workhorse of the genome revolution. Marine scientists have high hopes for finding similarly valuable microbes at the seeps. Some even talk of compounds that might fight cancer, much as extracts of the rosy periwinkle fight Hodgkin's disease and childhood leukemias.
Oil on the ocean surface eventually evaporates, is degraded by sunlight, gets consumed by microbes, or washes up on beaches, where it can be collected. The fate and effects of the undersea oil are largely unknown. The Deepwater Horizon disaster is thus one big unplanned experiment. If the oil industry has its way—and with an estimated 30 billion barrels of crude-oil equivalent beneath the gulf's ultra-deep (greater than 6,000 feet) waters, it's hard to see how it won't—we may have more such unplanned experiments.
In 2008 Shell finished drilling an oil well 9,000 feet under the gulf, and BP has another well 7,000 feet down. The gulf has hundreds of other deepwater wells. In every case, the companies assured regulators, and the government agreed, that a deepwater accident that released oil onto the sea floor was exceedingly unlikely.
Transocean silent as BP bears the brunt of anger
by Philip Sherwell Telegraph
As BP bears the brunt of anger over the Gulf of Mexico oil slick, drilling company Transocean is staying out of the spotlight. They are not the usual images of a buttoned-down oil industry executive honouring employees at a corporate gathering. But in the video posted on the Transocean website, Steven Newman performs an impressive Bollywood dance routine accompanied by four scantily-clad women. The American chief executive of the world's biggest offshore oil drilling company was fulfilling a pledge to demonstrate his dance moves if the company's Indian division achieved top safety award targets.
Mr Newman and Transocean have very different safety concerns now. The firm owned operated the doomed Deepwater Horizon rig that was blown apart in April while drilling a well for BP, killing 11 workers and unleashing the disastrous Gulf of Mexico oil spill. As a result, Mr Newman seems to have lost the taste for the spotlight that he in displayed in Mumbai last year. Instead, he and his company have maintained a notably low profile, even as oil this weekend reaches the white sand beaches of Florida and grim images of seabirds coated in crude dominate front pages.
Their absence is in stark contrast to the spectacular vilification of British firm BP and its chief executive Tony Hayward, who has become public enemy number one for both Washington and the wider American public. In his latest broadside, President Barack Obama on Friday night scolded BP for spending $50 million on a television advertising campaign in which the energy giant apologised for the oil slick and explained its role in the clean-up process. He claimed the company should not be spending money on a PR offensive while allegedly "nickel-and-diming" (shortchanging) locals hit by the spill.
Yet while lambasting BP for even seeking to defend its reputation, Mr Obama has showed no apparent interest in directing similar wrath at Transocean - fuelling suggestions that as a foreign company, BP is simply a convenient whipping boy and a politically easier target. "Transocean has done a very good job of hunkering down and keeping quiet while BP takes the flak," said a US oil industry source. "BP is clearly the 'responsible party' for the response under American law. But this was Transocean equipment and workers and at some stage they are going to have to answer questions about their role."
Because it leased the rig, drew up the plans for the well and owned the oil, BP is the "responsible party" under American legislation for the leak, containment and clean-up. But as Transocean was the rig's owner and operator, its role is also under scrutiny. Both the criminal investigation by the Department of Justice and forthcoming civil compensation cases will examine the firm's actions - yet its name is rarely mentioned by US politicians or media.
Mr Hayward has certainly made several verbal blunders, most notably when he said last week that "I'd like my life back". He rapidly apologised for an off-the-cuff remark that provoked fury in the light of the 11 lives lost in the explosion and thousands of livelihoods endangered by the spill. The 53-year-old Briton has become one of the most recognisable faces on US television screens and the focus for an anti-British backlash as oil pours into the Gulf despite repeated attempts to plug the leak.
Mr Newman has avoided the media, other than being briefly forced into the spotlight for an awkward appearance before a congressional hearing in Washington. Yet the Transocean company magazine Beacon features an interview with him in its latest edition under the headline 'Ready to Roll'. "I love this business," he says. Asked to describe himself in three words, he chooses: "Perfectionist. Demanding. Ambitious." He also discloses that at the time he was reading 'How The Mighty Fall' (a book outlining why some companies go into decline and others avoid that fall).
In the interview, Mr Newman emphasised the importance of safety but also the company's "can-do" principle of challenging the boundaries of nature though innovation and new technology. Transocean - corporate motto: "we're never out of our depth" - is an industry behemoth which employs 18,000 people in 30 countries, but is based in the landlocked canton of Zug, Switzerland, for tax purposes. The firm declined to make an executive available for interview, but issued a corporate declaration about safety when contacted by The Sunday Telegraph. "Transocean's first commitment is the safety of its people," a spokesman said. "Recognition by government agencies and industry peers over the years attest to the positive impact of Transocean's safety programmes."
The investigations into the Deepwater Horizon disaster are focusing on two crucial failures - what caused the initial explosion and why the blow-out preventer (BOP) device did not then block-off the well, preventing the leak. The role of the BOP, which is supposed to operate automatically, has been at the centre of the finger-pointing between BP and Transocean after the accident. Problems have since been reported with two BOPs on Transocean drillships operating off India.
Transocean also come under fire from lawyers representing fishing and tourist businesses hit by the spill and the Department of Justice for seeking to use an 1851 law to restrict its liability for economic damages to $26.7 million. "It's just ridiculous and outrageous," said Stuart Smith, a New Orleans lawyer representing the Gulf Oil Disaster Recovery Group, an umbrella organisation, who argues that the Oil Pollution Act of 1990 supersedes the old law.
By contrast, BP said that it will not seek the protection of a cap of $75 million on economic damages offered by the 1990 Oil Pollution Act, although Gulf state officials have sharply criticised the speed of pay-outs by the company. Meanwhile, on the floor of the Gulf of Mexico, a cap installed last week over the gushing well was funnelling some oil 5,000 ft up to boats at the surface. Thad Allen, the retired coastguard commandant heading the federal response, said that the device had captured 6,000 barrels in its first 24 hours in position – equivalent to between a third and a half of the 12,000-19,0000 barrels escaping daily.
The containment rate is expected to increase as engineers slowly close vents in the cap, raising the hopes that BP is finally making significant progress in its efforts to stem the leak. But yesterday, in his weekly presidential radio address, Obama maintained his forceful tone toward BP, saying: "We will make sure they pay every single dime owed to the people along the Gulf coast."
BP Pays Google To Manipulate Public Opinion
by Jacqueline Leo - Huffington Post
Now there's another reason to hate the company that America hates most--British Petroleum. BP has not only created the worst environmental disaster in U.S. history, it's trying to manipulate and control the news. According to the news blog Powering a Nation, BP had workers sign a contract that included a gag order, preventing them from talking to the media. Even as the birds lay dying in a sea of mud and oil, BP has tweeted, claiming that the company and the U.S. Coast Guard have not muzzled their workers. But according to the blog, there was a clause "prohibiting them and their deckhands from making 'news releases, marketing presentations, or any other public statements' while working on the cleanup."
Even more important, BP is using paid search to influence public opinion as people look for information about the oil spill and its consequences. Just Google any of the common search terms related to the disaster and what pops up first? BP. Since this catastrophe is one of the hot search topics of the year, you can imagine what BP is paying for the privilege of elbowing out other news and opinion sites that would normally buy at least one of these terms. But money talks--and oil money, as slippery as it may be, talks louder than most.
According to Scott Slatin, who runs a New York-based search marketing company, "While we have seen corporations use search-engine marketing to sway opinions, most recently in the health-care debate, it is always under the cover of a non-profit or lobbying organization. This is the first time I have seen a company use this tactic on such a wide scale. And it is very effective, because BP gets its message, 'Learn more about how BP is helping' atop almost every Google search permutation related to the spill, and effectively blocks non-profits (with much smaller pockets) from getting their message across."
The strategy appears to be working, as BP's ads show up on neutral searches like "spill," "gulf oil," "offshore oil," "oil spill," "Louisiana coast spill" and "oil cleanup," but not "oil disaster." And the costs? Slatin says, "I'd estimate that BP is spending at least $7,500 a day to own the top position on searches related to the oil spill on Google, and another $3,000 a day to cover both Yahoo and MSN's Bing." In April, says Slatin, the number of searches on Google for "oil spill" was 2,240,000, versus a 12-month average of 301,000.
In a phone interview with The Fiscal Times on Thursday afternoon, a company spokesperson acknowledged purchasing the search terms but declined to discuss costs. "Yes, you're right, we have been buying up search terms," said BP spokesman Robert Wine. "We've tried to pick terms which will help the people who are most directly affected in the Gulf coast states with information about how to get in touch with us and make claims for loss of earnings."
When pressed for examples of the terms they've bought, Wine said, "Some examples would be 'oil spill' and 'claims.' The main aim is a marketing tool, to help the people who are most directly affected -- fishermen, local businesses, volunteers in the cleanup. We want people to be able to find us, so we can work out how to minimize the impact on their lives and businesses." Wine said it is the BP web teams in Houston and London, together with the company's marketing executives, who are engaged in buying search terms.
BP may have lots of experience helping people it hurts since the company accounts for 97 percent of all flagrant violations in the refining industry, according to an analysis from the Center for Public Integrity. CPI found that the firm has been under intense OSHA scrutiny following a blast in Texas City, Texas, that killed 15 workers. A total of 862 citations were issued to BP between June of 2007 and February 2010. No wonder U.S. Attorney General Eric Holder is conducting a criminal investigation into BP
Gulf oil spill damage will last 'for years if not decades'
by Joel Achenbach and David Brown - Washington Post
Snorkeling along a coral reef near Veracruz, Mexico, in 2002, Texas biologist Wes Tunnell spotted what looked like a ledge of rock covered in sand, shells, algae and hermit crabs. He knew, from years of research at the reef, that it probably wasn't a rock at all. He stabbed it with his diving knife. His blade pulled up gunk. "Sure enough, it was tar from the Ixtoc spill," Tunnell said.
Twenty-three years earlier, in 1979, an oil well named Ixtoc I had a blowout in 150 feet of water in the southern Gulf of Mexico. The Mexican national oil company Pemex tried to kill the well with drilling mud, and then with steel and lead balls dropped into the wellbore. It tried to contain the oil with a cap nicknamed The Sombrero. Finally, after 290 days, a relief well plugged the hole with cement and the spill came to an end -- but only after polluting the gulf with 138 million gallons of crude.
That remains the worst accidental oil spill in history -- but the Deepwater Horizon blowout off the Louisiana coast is rapidly gaining on it. The spill has now been partially contained with the cap that BP engineers lowered onto the mile-deep geyser Thursday night. That means roughly a quarter to half of the flow is being piped to a surface ship, the national incident commander, Coast Guard Adm. Thad Allen, said Saturday. BP hopes to improve the rate captured in coming days. If official government estimates are correct, 23 million to 47 million gallons of oil have spewed so far.
Ecosystems can survive and eventually recover from very large oil spills, even ones that are Ixtoc-sized. In most spills, the volatile compounds evaporate. The sun breaks down others. Some compounds are dissolved in water. Microbes consume the simpler, "straight chain" hydrocarbons -- and the warmer it is, the more they eat. The gulf spill has climate in its favor. Scientists agree: Horrible as the spill may be, it's not going to turn the Gulf of Mexico into another Dead Sea. But neither is this ecological crisis going to be over anytime soon. The spill will have ripple effects far into the future, scientists warn.
"This spill will be lasting for years if not decades," said Doug Inkley, senior scientist at the National Wildlife Federation. Some of the immediate effects of a spill are obvious -- witness the gut-wrenching images of soaked and suffocating seabirds in the gulf. But some types of ecological damage are hard to measure and can take years to document. Many of the creatures that die will sink to the bottom, making mortality estimates difficult. Damage to the reproduction rate of sea turtles may take years to play out.
The Exxon Valdez spill of 11 million gallons killed as many as 700,000 sea birds and 5,000 sea otters initially, but even 21 years later, populations of sea otters in areas of Prince William Sound haven't recovered. The Pacific herring population collapsed after the spill for reasons that remain in dispute among scientists. Two intensely studied pods of killer whales in the sound suffered heavy losses in the spill and have struggled since. One of the two pods has no more reproductive females. It is doomed to extinction.
And the oil? "It's still sitting there," said Stan Rice, program manager for habitat studies at the National Oceanographic and Atmospheric Administration's Auke Bay Fisheries Lab. "It's still liquid, you can still smell it and touch it." The degradation of oil slows over the years. The microbes move on, as the large and complex compounds that remain, known as the asphaltenes, are too hard to digest. What's left tends to be dense, tar-like, largely inert and attractive only to people who like to pave roads.
By 2003, there were still 21,000 gallons of oil in Prince William Sound, Rice reports in a recently published study on the lingering effects of the Exxon Valdez spill. The oil can be found by someone scraping three to six inches below the surface of the beach. Rice writes that an oil spill will be "over" when the oil itself is gone, the litigation has been settled and there are no continued negative effects in the environment. "The Exxon Valdez spill does not meet any of these three criteria," he wrote.
Limited research funding
The oil drifting north from the Ixtoc spill not only wiped out hundreds of million of crabs on Mexican beaches but, also far to the north, managed to killed 80 percent of the segmented worms and shrimp-like crustaceans that live in the sand of Texas beaches, according to Tunnell, a biologist at Texas A&M University at Corpus Christi. But the tiny animals have rapid reproductive cycles, and in about two and a half years they had recovered, he said. Poor government funding limited research on the broader ecological impact of the spill, however: "We don't have any comprehensive, good scientific studies of what happened."
There are on record since 1970 about 1,700 spills from tankers in which at least 2,100 gallons of oil were discharged into water. Scientists have been monitoring the effects of some of them for decades, including a 189,000-gallon spill that occurred off Cape Cod in September 1969. Five years after that spill, fiddler crabs in the oiled marsh were sluggish and reproduced poorly. In many cases they dug burrows too shallow to protect themselves over the winter.
Astonishingly, many of those problems remained 35 years later, when a graduate student, Jennifer Culbertson, surveyed the marsh. She found that the fiddler crabs reacted slowly to startling motions, apparently the result of a narcotic effect of oil that still formed a visible layer four inches below the marsh surface. (A similar clumsiness has been seen in juvenile spot fish when they chew on sediments contaminated with compounds from oil.) When the crabs burrowed down and hit the layer of 40-year-old oil, they veered horizontally. "The marsh is still waging chemical warfare several inches below the surface," said Christopher M. Reddy, a chemist at the Woods Hole Oceanographic Institute in Massachusetts who helped supervise Culbertson's research.
Making it worse
Beaches get scrubbed by waves and storms, but marshes can develop tar mats lasting decades, Tunnell said. He said the beaches are a 3 on a scale of 1 to 10 in terms of sensitivity to oil spills, but the marshes are a 10. Attempts to clean a marsh will backfire. After the huge Amoco Cadiz spill of 68 million gallons off Brittany in 1978, French authorities scraped the top off the oiled marshes. It was a mistake: Most never came back. Although many scientists and officials have warned that the marshes are in danger, one scientist who has studied oil spills in Louisiana marshes said that these wetlands are generally able to recover if human intervention doesn't make the situation worse.
"The vegetation itself generally recovers in a year, although sometimes it may take three or four," said Irving A. Mendelssohn, a biologist at Louisiana State University. Only if oil sinks in deep, or if repeated oilings kill off new shoots, does the marsh die, he added. That's not just a biological change but a geological one, points out LSU professor Edward Overton. "Biological stocks can be replenished a lot easier than land loss," he said.
Every oil spill has unique features, from the geography to the chemical makeup of the oil, which can vary dramatically in toxicity. The Deepwater Horizon spill has the distinction of being the deepest blowout in history. Also unique has been the huge quantity of chemical dispersants sprayed on the surface and at the leak on the seafloor. There's little scientific understanding of how the dispersants might affect the deep-water ecosystem.
Coral reefs, only recently studied, can take centuries to develop in the cold, oxygen-poor depths; there are several such reefs directly beneath the oil slick. Deep plumes of oil have been reported in preliminary research by scientists on research vessels. As bacteria feast on the oil they could deplete the oxygen levels further, creating unusually deep "dead zones." "If you're a creature that can't move, it's not good," Overton said.
In the years to come, scientists will study this spill in the same way they have studied the Exxon Valdez disaster. The gulf ecosystems may survive, but they'll likely have changed in certain details, according to LSU biologist Kevin R. Carman. "Undoubtedly, life will get a foothold," he said. "The question is how different it will be."
Slick-Coated Animals Struggle And Die As 'Wildlife Apocalypse' Becomes Reality
by Jared Flesher - Huffington Post
The wildlife apocalypse along the Gulf Coast that everyone has feared for weeks is fast becoming a terrible reality. Pelicans struggle to free themselves from oil, thick as tar, that gathers in hip-deep pools, while others stretch out useless wings, feathers dripping with crude. Dead birds and dolphins wash ashore, coated in the sludge. Seashells that once glinted pearly white under the hot June sun are stained crimson.
Scenes like this played out along miles of shoreline Saturday, nearly seven weeks after a BP rig exploded and the wellhead a mile below the surface began belching millions of gallon of oil. "These waters are my backyard, my life," said boat captain Dave Marino, a firefighter and fishing guide from Myrtle Grove. "I don't want to say heartbreaking, because that's been said. It's a nightmare. It looks like it's going to be wave after wave of it and nobody can stop it."
The oil has steadily spread east, washing up in greater quantities in recent days, even as a cap placed by BP over the blownout well began to collect some of the escaping crude. The cap, resembling an upside-down funnel, has captured about 252,000 gallons of oil, according to Coast Guard Adm. Thad Allen, the government's point man for the crisis. If earlier estimates are correct, that means the cap is capturing from a quarter to as much as half the oil spewing from the blowout each day. But that is a small fraction of the 23 million to 47 million gallons government officials estimate have leaked into the Gulf since the April 20 explosion that killed 11 workers, making it the nation's largest oil spill ever.
Allen, who said the goal is to gradually raise the amount of the oil being captured, compared the process to stopping the flow of water from a garden hose with a finger: "You don't want to put your finger down too quickly, or let it off too quickly."
BP officials are trying to capture as much oil as possible without creating too much pressure or allowing the buildup of ice-like hydrates, which form when water and natural gas combine under high pressures and low temperatures. President Barack Obama pledged Saturday in his weekly radio and Internet address to fight the spill with the people of the Gulf Coast. His words for oil giant BP PLC were stern: "We will make sure they pay every single dime owed to the people along the Gulf coast."
But his reassurances offer limited consolation to the people who live and work along the coasts of four states -- Louisiana, Mississippi, Alabama and Florida -- now confronting the oil spill firsthand. In Gulf Shores, Ala., boardwalks leading to hotels were tattooed with oil from beachgoers' feet. A slick hundreds of yards long washed ashore at a state park, coating the white sand with a thick, red stew. Cleanup workers rushed to contain it in bags, but more washed in before they could remove the first wave of debris.
The oil is showing up right at the beginning of the lucrative tourist season, and beachgoers taking to the region's beaches haven't been able to escape it. "This makes me sick," said Rebecca Thomasson of Knoxville, Tenn., her legs and feet smeared with brown streaks of crude. "We were over in Florida earlier and it was bad there, but it was nothing like this." At Pensacola Beach, Erin Tamber, who moved to the area from New Orleans after surviving Hurricane Katrina in New Orleans, inspected a beach stained orange by the retreating tide. "I feel like I've gone from owning a piece of paradise to owning a toxic waste dump," she said.
Back in Louisiana, along the beach at Queen Bess Island, oil pooled several feet deep, trapping birds against unused containment boom. The futility of their struggle was confirmed when Joe Sartore, a National Geographic photographer, sank thigh deep in oil on nearby East Grand Terre Island and had to be pulled from the tar. "I would have died if I would have been out here alone," he said.
With no oil response workers on Queen Bess, Plaquemines Parish coastal zone management director P.J. Hahn decided he could wait no longer, pulling an exhausted brown pelican from the oil, the slime dripping from its wings. "We're in the sixth week, you'd think there would be a flotilla of people out here," Hahn said. "As you can see, we're so far behind the curve in this thing."
After six weeks with one to four birds a day coming into Louisiana's rescue center for oiled birds at Fort Jackson, 53 arrived Thursday and another 13 Friday morning, with more on the way. Federal authorities say 792 dead birds, sea turtles, dolphins and other wildlife have been collected from the Gulf of Mexico and its coastline. Yet scientists say the wildlife death toll remains relatively modest, well below the tens of thousand of birds, otters and other creatures killed after the Exxon Valdez ran aground in Alaska's Prince William Sound. The numbers have stayed comparatively low because the Deepwater Horizon rig was 50 miles off the coast and most of the oil has stayed in the open sea. The Valdez ran aground on a reef close to land, in a more enclosed setting.
Experts say the Gulf's marshes, beaches and coastal waters, which nurture a dazzling array of life, could be transformed into killing fields, though the die-off could take months or years and unfold largely out of sight. The damage could be even greater beneath the water's surface, where oil and dispersants could devastate zooplankton and tiny invertebrate communities at the base of the aquatic food chain. "People naturally tend to focus on things that are most conspicuous, like oiled birds, but in my opinion the impacts on fisheries will be much more severe," said Rich Ambrose, director of the environmental science and engineering at program at UCLA.
The Gulf is also home to dolphins and species including the endangered sperm whale. A government report found that dolphins with prolonged exposure to oil in the 1990s experienced skin injuries and burns, reduced neurological functions and lower hemoglobin levels in their blood. It concluded, though, that the effects probably wouldn't be lethal because many creatures would avoid the oil. Yet dolphins in the Gulf have been spotted swimming through plumes of crude.
Gilly Llewellyn, oceans program leader with the World Wildlife Fund in Australia, said she observed the same behavior by dolphins following a 73-day spill last year in the Timor Sea. "A heartbreaking sight," Llewellyn said. "And what we managed to see on the surface was undoubtedly just a fraction of what was happening." The prospect left fishing guide Marino shaking his head, as he watched the oil washing into a marsh and over the body of a dead pelican. Species like shrimp and crab flourish here, finding protection in the grasses. Fish, birds and other creatures feed here. "It's going to break that cycle of life," Marino said. "It's like pouring gas in your aquarium. What do you think that's going to do?"
BP could face massive fines under Clean Water Act
by Les Blumenthal - McClatchy Newspapers
If the Obama administration is serious about holding BP and others responsible for the Gulf of Mexico oil spill, it can start with the federal Clean Water Act, which could allow the federal government to collect as much as $4.7 billion in civil fines just for the oil that's spilled so far. Even if the courts allow the fines, however, there are no guarantees that the money would go to the cleanup and economic recovery of the Gulf Coast, according to legal experts.
Though other laws could come into play, the Clean Water Act may provide the best avenue for legal action. After the 1989 Exxon Valdez spill in Alaska, the law was beefed up to include harsh civil and criminal penalties for oil spills. Since 1985, one general discharge permit has covered all offshore oil operations in the Gulf; individual site-by-site discharge permits aren't issued. A company that wants to operate in the Gulf applies for coverage under the general permit.
The permit covers everything from drilling fluids to bilge water, but there are only passing references to oil discharges such as those in a spill. The permit bars the discharge of "free oil," but its emphasis is on other pollutants. Even so, the permit could become the underpinning for lawsuits because, among other things, it bars discharges of benzene, naphthalene, arsenic, mercury and other toxic chemicals that could be found in the crude oil.
In addition, the permit discourages the use of dispersants because they can "disperse and emulsify oil, thereby increasing the toxicity." BP already has used thousands of gallons of dispersants. "Failure to comply with the permit is a violation of the Clean Water Act," said Tracy Hester, the director of the University of Houston's Environment, Energy and Natural Resources Center. "It would be the foundation of any enforcement action. There are tons of lawyers looking at this."
Attorney General Eric Holder visited the Gulf Coast last week and said the Obama administration was prepared to pursue legal action — civil and criminal — against those responsible for the spill. Environmental groups want to keep the pressure on Holder to act. They've notified BP that they intend to file several lawsuits under the Clean Water Act, which allows citizen lawsuits and requires 60 days' notice of the intent to sue.
In a certified letter to Andrew Inglis, the chief executive of BP Exploration and Production, three environmental groups charged that the company violated the discharge permit. "The general permit does not authorize the discharge of oil from this pipe or any other sources at the rig," Joel Waltzer, a New Orleans attorney for the Gulf Restoration Network, the Louisiana Environmental Action Network and Environment America, said in the letter to Inglis.
The groups also allege that BP violated the permit by failing to properly "operate and maintain" the rig at all times and failing to install flow measurement devices to track the flow of oil from the pipe. "Obviously this has been a violation of the permit," Waltzer said in a phone interview. Waltzer said he was surprised that a single blanket permit covered all oil drilling operations in the Gulf. "If you stuck something the size of the Deepwater Horizon on land, it would definitely require its own permit," Waltzer said, adding that even though the permit was updated regularly it didn't envision ultra-deep wells such as the one the Deepwater Horizon was drilling or the possibility of a massive oil spill.
Waltzer said he still hoped that the Environmental Protection Agency, the Coast Guard and the Justice Department would take the lead in pursing legal action. "This is a backstop," Waltzer said of the groups' notice to sue. "If they drop the ball, we will pick it up."
The Center for Biological Diversity also has notified BP and Transocean Ltd., which owned the Deepwater Horizon, of its plan to sue under the Clean Water Act. In its letter, the San Francisco-based group alleged that BP had violated the oil spill provision in the law and provisions of the discharge permit. "The government probe is a start, but it has taken far too long to get rolling," said Miyoko Sakashita, oceans director for the Center for Biological Diversity. EPA officials referred questions about possible legal action under the Clean Water Act to the Justice Department.
"We are looking for possible violations of the law," Andrew Ames, a Justice Department spokesman, said in an e-mail, adding that he couldn't discuss the timing of a possible case. "Each case is unique." The Clean Water Act allows the U.S. to seek civil fines for every drop of oil that's spilled into the nation's navigable waters. Under the act, the basic fine is $1,100 per barrel spilled. If a judge finds that the spill was a result of gross negligence, the fines can rise to $4,300 a barrel. Gross negligence has been defined as highly reckless disregard.
The civil fines would be on top of any criminal fines. BP also owes economic damages, which are capped at $75 million. The company has said it will pay all "legitimate" economic claims it receives even if they exceed the cap. Some experts have estimated that BP could face up to $10 billion in liabilities. "Who knows how this will play out?" said Oliver Houck, a Tulane University law professor who specializes in environmental law.
Houck said BP and others faced exposure from the families of the 11 oil rig workers who were killed and possible administrative, civil and criminal fines along with reimbursing the government for the cost of the response to the spill. If the government does collect civil fines, Houck said, he's not sure where the money would go. "I don't know if it goes in a compulsory fund or not," he said. "I doubt it."
The University of Houston's Hester agreed. "The question is where do the penalties go?" Hester said. "Usually they go to the Treasury. There is nothing that says they have to go to cleanup costs." Other laws that could come into play include the Oil Pollution Act, the Endangered Species Act, the Marine Mammal Protection Act and the Migratory Bird Treaty Act.
America tells Barack Obama to take control of Deepwater – and seize BP
by Andrew Clark - The Observer
Across the US, cries of "seize BP" are growing louder, putting pressure on President Barack Obama to slam his fist harder into Britain's crisis-stricken oil multinational. As gloops of oil begin to wash up on thousands of miles of beaches from Texas to the Florida Keys, and 88,000 miles of water have been declared a no-go zone for fishermen, nobody in the US seems in doubt that BP is to blame for the Deepwater Horizon oil spill. And many are calling for dramatic action.
The Answer Coalition, a campaign group that grew out of opposition to the Iraq war, has organised a week of demonstrations in 29 US cities demanding a seizure of BP's assets. And the former labour secretary Robert Reich, who served under President Clinton, wants BP's American operations to be taken into temporary government receivership. "This is a national emergency," Reich told the Observer. "It's simply untenable for a for-profit company with responsibility to its shareholders to be in charge of handling one of the worst environmental disasters in American history. At the moment, the president has no direct ability to instruct BP to do anything."
The US government, argues Reich, had few qualms about effectively taking over the troubled insurer AIG in the national interest. So it should temporarily take control of the BP's stateside operations to make sure the company is telling the truth and throwing every possible resource to tackling the Deepwater Horizon spill off the coast of Louisiana. "I don't see how anybody can consider this draconian, given the draconian measure of what's happening out there," says Reich, who says damage to Florida's beaches is as good a political incentive for Obama as any. "The Florida economy depends on tourism. Florida is a key political state."
To date, the White House has been pointed, but measured, in its attitude. In an interview with CNN's Larry King on Thursday, Obama upped the ante, declaring that he was "furious" with the spill and placing the blame squarely with BP: "BP caused this spill. We don't yet know exactly what happened. But whether it's a combination of human error, them cutting corners on safety, or a whole other variety of variables. They're responsible."
BP maintains that it is not clear who erred on the rig – itself or any of its partners including Transocean, Halliburton and Anadarko Petroleum. Following a 33% dive in BP's stock since the Deepwater rig caught fire on 20 April, there has been speculation that BP could be a takeover target – or even dissolve under the weight of billions of dollars in liabilities. Most of those who follow the company closely, however, believe BP is big enough and strong enough to survive.
Jason Kenney, an oil analyst at ING, says claims of costs running into the tens of billions are overblown; he reckons $5bn-$6bn, assuming 90 days' spill, ending when relief wells are drilled in August, plus a clean-up bill and compensation for fishermen, tourist workers and coastal property owners. "The global operations of BP still support very good cash generation. It's an economically viable company with good earnings momentum," says Kenney. "The vultures need to circle elsewhere."
Assuming Obama would take a dim view of Russian, Chinese or Middle Eastern buyers, the only plausible bidders for BP would be ExxonMobil or Shell, both of which would face challenges from competition regulators, Kenney says. Plus, "Exxon is the second largest oil spiller in US history."
Pavel Molchanov, an analyst for the US stockbroker Raymond James, sees calls for action against BP as echoes of the rhetoric against "big oil" when the price of crude sent petrol prices rocketing in 2008: "People recognise the name BP but not Transocean, Halliburton, Anadarko. When the policymakers are looking for a scapegoat, BP is the most convenient one. Is it fair? No, it's not. But it's reality." Molchanov views the idea of seizure of BP's assets as highly far-fetched: "We're not in Venezuela and we're not in Zimbabwe."
The US department of justice, which generally refuses to confirm investigations until charges are laid, took the unusual step last week of announcing a criminal inquiry into the oil spill. And the start of the hurricane season this month threw yet another risk into the maelstrom around BP. Seeking to show both willingness and confidence, BP's chief executive, Tony Hayward, declared last week that BP was not budging from the Gulf of Mexico. "We're going to be here long after the media has gone, the coastguard has gone and everybody involved in the clean-up has gone."
But Douglas Brinkley, a historian at Rice University who has written about the Gulf of Mexico coast, believes BP's early underestimates of the extent of the disaster have stained the firm as "a dishonourable company which has misled the American people as Enron and Worldcom have done". Brinkley points out that BP is a repeat offender, having pleaded guilty in 2007 to criminal offences over the explosion at its Texas City oil refinery and leaks at its pipelines in Alaska. "History will see this as the BP oil spill, not as President Obama's oil spill."
Obama and BP at Risk Over Oil Spill
by Paul M. Barrett - Bloomberg Business Week
As the Gulf spill threatens to sink BP and damage a Presidency, it's time for Obama to rally the U.S. around tough, fair regulation—for the good of capitalism
With failure heaped upon failure in the Gulf of Mexico, the environmental disaster now threatens the viability of not only a vast corporation but also a U.S. Presidency. The buck stops with both—one financially, the other politically. Can either recover? The markets sent ominous signals about BP's future once it became clear over the Memorial Day Weekend that the top-kill plugging maneuver had not worked. In the Gulf, hurricane season has arrived, bringing with it the prospect of fierce storms chasing rescue ships to shore and spreading the sickening oil slick farther along the southern coast. A long, grim summer seems all but certain.
Its shares sharply depleted, BP, the largest oil and gas producer in the U.S., suddenly seems vulnerable to a breakup or takeover. In Washington, the Obama team appears to be flailing. Trying to assert some form of authority, the President vowed to bring wrongdoers to justice. The promise seemed mostly like a distraction from frustrating reality: In the short term, President Obama can do little, if anything, to stanch the gushing well. As much as any other challenge—Wall Street, health care, Afghanistan—the oil spill may define Obama as a leader. He either will find a way to rise to this occasion and make some broader use of the crisis in the Gulf, or it will permanently taint him.
This is a moment to think big and creatively. As distant as risky drilling rigs off Louisiana may seem from the New York financial laboratories where wizard bankers synthesized subprime credit derivatives, Obama could explain the important connections: how, after decades of antiregulatory fundamentalism in Washington, the feckless Minerals Management Service became the Securities & Exchange Commission of the oil business. It is no coincidence that staff members at both agencies watched pornography on government computers when they should have been monitoring their respective beats.
Although corruption and incompetence seem to have run deeper at the soon-to-be-dismantled MMS, the zeitgeist of the two places was similar, according to investigations and congressional hearings: Industry was to be trusted, even when government overseers had no more idea what transpired on the trading floor at Lehman Brothers or Bear Stearns than they did on the ocean floor beneath the Gulf of Mexico. The question is: What will Obama do about it? One route to political rehabilitation would be to redefine how government interacts with business. The goal he should articulate is protecting capitalism—and the society it's intended to serve—from the tendency of the profit-minded to go to extremes.
Profit-minded investors, meanwhile, have soured on BP. "We are very negative on the prospects for BP, and this situation has a real possibility of breaking the company," London-based investment bank Arbuthnot Securities said in a June 1 research note. That day the British energy giant's shares dropped as much as 17 percent in London, their biggest one-day decline in 18 years. The company's stock flattened on June 2, closing down 34 percent since the Deepwater Horizon exploded Apr. 20. That erased more than $58 billion (40 billion pounds) from BP's value.
Ivor Pether, who helps manage $9.2 billion at Royal London Asset Management, including BP stock, told Bloomberg News: "We're getting into share price territory where analysts speculate about takeover possibilities, because the loss of market value is much greater than the estimated 'worst case' costs." Buyers haven't surfaced yet, he added, "because the near-term uncertainty is so high." BP spokeswoman Sheila Williams declined to comment.
The company's woes grew worse when the Obama Administration announced June 1 that it will investigate potential criminal and civil violations related to the spill. "We will prosecute to the fullest extent of the law," U.S. Attorney General Eric Holder said. While Holder didn't get into particulars, troubling facts have already surfaced. The House Energy & Commerce Committee released internal BP e-mail showing that company employees had worried six weeks before the rig explosion that workers were struggling to control the well below.
A criminal indictment of BP and other companies involved in the accident—perhaps for infractions of the Clean Water Act or other environmental laws—"is very likely," David M. Uhlmann, a former chief of the Justice Dept.'s environmental crimes section, told Bloomberg. Uhlmann, who now teaches at the University of Michigan Law School, pointed out that after the Exxon Valdez oil spill in Alaska in 1989, ExxonMobil pleaded guilty to charges of that variety.
Another potential line of prosecutorial inquiry, and one that could have more severe effects on BP, would focus on whether executives lied in formal statements to the government. Depending on how high up the chain of command the probe went, a cover-up investigation could seal the fate of Chief Executive Tony Hayward and underscore questions about BP remaining independent. The company has said it will cooperate with investigators.
White House In Control?
While the FBI explores the nuances of pollution law, the White House promises daily to stem damage to the Gulf coastline and economy. "I'm confident people are going to look back and say this Administration was on top of what was an unprecedented crisis," Obama has told reporters. That seems increasingly doubtful. However the destructive gusher is stopped, Obama will have been the man in charge when we all realized that the White House isn't "on top of" much of anything when it comes to deep-sea oil.
The federal government that Obama inherited in 2009 had been more or less uninterested in keeping up with business over the course of three decades. "Industry has developed technology the government doesn't understand," says Richard B. Stewart, a professor of environmental law at New York University Law School. As happened in the wake of the collapse of some of Wall Street's most storied investment banks, we are already beginning to learn that BP's internal communications show a reluctance to address what should have been dire warning signs.
BP e-mail obtained by the House Energy Committee reveal that anxiety about the safety and soundness of the BP well was intensifying more than a month before the Apr. 20 blowout. This evidence, while fragmentary and inconclusive, may cast doubt on BP's contention after the explosion that the company was caught entirely by surprise. A Mar. 10 e-mail from BP executive Scherie Douglas to Frank Patton, an MMS drilling engineer, said the company planned to sever the pipe connecting the well to the rig and then plug the hole. "We are in the midst of a well control situation on MC 252 #001 and we have stuck pipe," Douglas wrote, referring to the subsea area Mississippi Canyon 252.
"We are bringing out equipment to begin operations to sever the drillpipe, plugback the well and bypass." BP received verbal approval from an unnamed MMS official at 11 p.m. on Mar. 11 to insert a cement plug at a shallower depth than normally would have been required after the hole caved in on the drilling equipment, the e-mail showed. Asked about these exchanges, a company spokesman said: "We have always said it was a complex accident. We await a full report."
The Myth Of Industry Infallibility
As investigators reconstruct events leading up to Apr. 20, Sarah S. Elkind, an historian of politics and the environment at San Diego State University, warns against focusing on minutiae to the exclusion of the big picture. Within the MMS, she says, "The employees followed cues from political appointees during the Bush Administration and earlier Administrations, going back to 1980, and including Democrats as well as Republicans. The message was that government doesn't work, and industry always knows what it's doing. What did we expect the employees to do?"
Industry, of course, doesn't always know what it's doing, NYU's Stewart notes. He headed the Justice Dept.'s environmental division in March 1989, when the Exxon Valdez dumped 250,000 barrels of crude into Alaska's Prince William Sound. For 21 years, until BP, that was the record U.S. oil spill. After the Valdez ran aground, it became clear that the industry lacked the plans or equipment to contain a spill of that magnitude, Stewart says. "Government had delegated most cleanup responsibility to the oil companies, and their response capability was in mothballs."
Congress responded belatedly with legislation in 1990 that required safer supertankers and a mechanism for the U.S. Coast Guard and other agencies to coordinate a cleanup—on the water's surface. That didn't help prepare for a blowout a mile below. Once again, government had deferred to the oil industry, and the giant company in question wasn't ready for a monumental snafu. Obama has spoken expansively about restoring respect for government service. His occasionally populist rhetoric aside, he has been solicitous of corporate interests, too.
Recall the astonishing bailout of General Motors. Just three weeks before the Deepwater Horizon exploded, the President had proposed expanding offshore oil exploration, in part as a bid for Republican votes for stalled energy and climate legislation. At the time, Obama praised advances in drilling technology. "Where I was wrong," he said on May 27, "was in my belief that the oil companies had their act together when it came to worst-case scenarios." By his own admission, this product of Harvard Law School and liberal South Side Chicago politics was mesmerized, along with everyone else, by the myth of industry omnipotence.
Interior Dept. Lapses
The President also acknowledged that his Interior Secretary, Ken Salazar, who oversees the MMS, hadn't moved quickly enough to root out favoritism and laxity. In 2009, BP was granted a "categorical exclusion" that allowed the Deepwater Horizon to operate without analysis required by the National Environmental Policy Act. Obama said changes had been planned at Interior. "If they were happening fast enough, [BP's safety glitches] might have been caught."
In congressional testimony, Salazar has blamed the environmental lapse on a statutory 30-day deadline on the permitting process. The Administration says it will seek to extend that time limit to 90 days. Salazar exacerbated his department's bumbling image by repeatedly boasting about having a "boot on the neck" of BP. He even suggested that the company would be pushed "out of the way" if it didn't move faster. The tough-guy talk wasn't convincing. The government lacks the necessary engineers, undersea robots, and scientific expertise. This remains BP's show.
The director of the MMS is gone, and the agency has been divided in three, so that its collection of oil royalties won't undermine its policing function. Obama has imposed a six-month moratorium on new permits for deepwater wells. The sale of exploration leases in the Gulf of Mexico and off Virginia has been suspended. A big Arctic energy project will be delayed. The government will require tougher certification of the sort of equipment—the notorious "blowout preventer"—that failed on the Deepwater Horizon.
That's not stopping some Republicans from equating Obama's response to the crisis to President George W. Bush's lack of urgency in reacting to Hurricane Katrina in 2005. The National Republican Senatorial Committee is running a Web video juxtaposing candidate Obama's words about Katrina—"Never again"—with those of liberal commentators castigating him for acting "lackadaisical" about the Gulf crisis and seeming as ineffective as "a Vatican observer." More measured critics recognize that neither party has covered itself with glory. "The truth of the matter is nobody knows how to fix this damned thing," Senator Lindsey Graham, a South Carolina Republican, told reporters, "and if they know how, they need to step up."
The Case For Better Regulation
Until someone figures out how to fix BP's leak, the idea the President should stress is how to reframe the debate about oil, investment banking, and other technologically sophisticated industries. Obama should argue that we need better government oversight of business, not to harm it, but to nurture it. He could invoke the memory of the New Deal regulatory revolution, which shielded industry and finance from calls for socialism after the Great Depression.
He won't win over Tea Partiers who see the New Deal (and the income tax and civil rights laws) as constitutional infringements. But a majority in America may well be receptive to an appeal that Democratic pollster Douglas E. Schoen described this way in a roundtable on the politics of the spill on washingtonpost.com: "We are all in this together—not as corporations or populists, not as Democrats or Republicans, but as Americans working to solve the problem collectively." In a speech in Pittsburgh on the afternoon of June 2, Obama started in this direction, then swerved toward partisanship. The Republican agenda, he said, "basically offers two answers to every problem we face: more tax breaks for the wealthy and fewer rules for corporations."
For the foreseeable future, we need an oil industry. It should be one that worries about tough inspections so it avoids another Deepwater Horizon. For the longer term, as Obama argued in Pittsburgh, we need a comprehensive climate and energy bill that will create incentives to find alternatives to oil retrieved at great expense from the ocean depths or purchased from pernicious foreign sources.
In the same spirit, pending financial reform legislation aims to insulate Wall Street from its worst instincts and make it less of a threat to the rest of us. Bills waiting to be reconciled by the House and Senate would give regulators more authority to monitor complex securities, simple mortgages, and all manner of transactions in between.
Financial firms would come under pressure to reduce debt and hold more capital in reserve. If a financial outfit began to fail, regulators would have more tools to disassemble it before a traumatic collapse. Obama ran for President emphasizing results. Businesspeople like to talk about results, too. After a generation of operating according to a simplistic notion that defined government oversight as essentially poisonous to corporate success, now would be an opportune time to rally the country around an ideal of tough, fair regulation for the good of business and the customers it serves.