New York, Lolo (Michel) and Edmond Navratil, survivors of the Titanic disaster whose father went down with the ship. Lolo, the last remaining male survivor of the Titanic, died in 2001.
Ilargi: The European Union is home to over 500 million people. Only 4.7 million of them live in Ireland. But they have still needed massive bail-outs from the EU, and will likely need more. Greece has 11.3 million inhabitants, Portugal 10.6 million. The former has been bailed out already, the latter has now officially applied to be next in line for a bail-out.
Another small nation, Finland, with 5.3 million people (barely more than 1% of the EU population), threatens to throw a big fat monkey wrench into all the works of Brussels finance. The True Finns party is slated for a major victory in today’s elections, they may even emerge the biggest party, and their campaign was based on no more bail-outs, period.
On Friday, Britain announced it wants no part of a new European emergency facility, the European Stability Mechanism, which is supposed to be ready by 2013. These developments will make it much harder to keep Europe together. And as long as Europe has no better answers to the financial crisis than the US has, i.e. mass transfers of public funds to failed banks, all of it facilitated by fraud accounting, why should any nation volunteer to participate in any of these schemes? Not one single common citizen will emerge any the wiser or better off from them. Quite the contrary.
In America, there is a very interesting video from Eric deCarbonnel, which very clearly shows the Federal Reserve executing fraudulent actions, in this particular case by selling put options on its own debt. The Automatic Earth staff writer Ashvin Pandurangi discusses deCarbonnel's findings. Ashvin also explains why he draws different conclusions from the material presented by deCarbonnel than does Tyler Durden at Zero Hedge.
Dr. Steve Keen, the ever-insightful Australian economist who runs the Debt Deflation website, wrote an excellent piece in March of 2009 entitled Bailing out the Titanic with a Thimble. It essentially argued that the U.S. government's fiscal stimulus and the Fed's liquidity injections would be wholly insufficient to restart growth in the private credit markets, and so far this analysis has been spot on.
Ilargi and Stoneleigh, who run The Automatic Earth, have also been preaching this same message for several years now, and have repeatedly stated that the U.S. dollar and Treasury market would be the beneficiaries of the debt deflationary trend. It was most recently repeated in Ilargi's latest post, Our Prosperity is Owed Back Plus Interest.
Yet, since late 2010, it would appear on the surface that long-term Treasury rates have been inching upwards and that commodity prices have been going through the roof. This superficial trend has led many commentators to "double down" on their predictions of a Treasury market collapse and imminent hyperinflation of the dollar.
Some people point to sustained oil price increases as evidence of their predictions, but, as mentioned before, that trend has been wholly discredited as a byproduct of actual monetary inflation. It is merely a result of the Fed exporting speculative debt to investors worldwide, who fully take advantage of the "speculative" part by betting on increases in the prices of equities and commodities.
Other people have been focusing more on the Treasury market aspect, pointing to Pimco's net short position on U.S. Treasuries and the brief trend of rate increases as evidence of imminent chaos in the market. Of course, they can also point to the fact that the federal government is running record deficits to allegedly support the private economy, with no real end in sight.
As The Automatic Earth has repeatedly cautioned, however, what matters most right now are the systemic dynamics of deterioration in private finances and social mood, rather than the fundamentally unsustainable nature of deficit spending. A major component of these dynamics is the monetary objectives and policies that will be undertaken by the financial elites through their proxy, the Federal Reserve.
Last week I wrote two pieces regarding this component, Jumping the Treasury Shark and Bill Gross: Master of Monetary Psy-Ops, and, specifically, about why the elites desperately want to maintain stability in the Treasury market, and how Pimco's sharp reduction in Treasury exposure is most likely not a long-term bet against the market.
Today, we get a dose of healthy confirmation through a video report by Eric deCarbonnel at Market Skeptics, entitled:
FRAUD: Federal Reserve Is Selling Put Options On Treasury Bonds To Drive Down Yields:
It is featured in a Tyler Durden piece on Zero Hedge named Doubling Down To (DXY) Zero: Has The Fed, In Its Stealthy Synthetic Bet To Keep Long-Term Yields Low, Become The Next AIG? In essence, it reveals some strong evidence to suggest that the Federal Reserve is already, or is actively considering selling large amounts of protection against Treasury rate increases (Put Options) to various investors as a means of controlling the long end of the Treasury curve (which, as per deCarbonnel, is illegal). Indeed, the Fed actually used this shell tactic back in 2000, as explained by Vince Reinhart, who was Fed secretary and economist at the time :
The System has also been willing to put its balance sheet at risk to encourage appropriate expectations about interest rates or to calm fears about funds availability. As plotted at the top right, the Desk sold options on RPs for the weeks around the century date change that totaled nearly $0.5 trillion of notional value. Given that the Desk already operates in all segments of the Treasury market, we wouldn’t have to move up a learning curve if instructed to increase purchases of longer-dated issues.
We find out that there is, in fact, no need for the Fed to "move up the learning curve", step up its game and scale up the walls of the Treasury curve with multiple trillions worth of gross sales of interest rate swaptions. That essentially means that there is no desire on the part of financial elites to let long-term rates rise significantly or to let the Treasury market destabilize, and, on top of that, they are in the process of leveraging themselves to the point of absolutely no return.
The question then arises, however, of whether they will actually be successful in "pinning" long-term rates for a few years, or whether "Operation Swaption" is a time bomb set to detonate within the next year, when rates significantly increase in response to sovereign default and/or inflation concerns.
The analysis from Zero Hedge would suggest that the latter is a very likely possibility, as implied in the article's title. Tyler Durden suggests that the Fed may be the next AIG, except without anyone big enough waiting in background to bail them out of their misery:
Alas, that [the Fed's printing press] will have no impact whatsoever, if indeed the Fed has been reduced to finding ever fewer counterparties to a synthetic bet to keep long-term rates low, as very soon, with inflation ticking up, all hell may break loose in an identical replay of what happened to AIG once the Fed's put is called against it. .
Durden is making the assumption that there will be ever-fewer incremental buyers of Treasury bonds, and therefore fewer investors that would want to hedge their Treasury exposure by buying protection from whichever primary dealer bank (most likely JP Morgan) is acting as a front for the Fed. He is also assuming that inflation will "tick up" very soon, causing rates to increase and forcing the Fed to make good on their massive bets, which they simply cannot do, because it would expose them as being the underlying counter-party to the trade. Indeed, that would most likely trigger a self-reinforcing dumping of Treasury bonds and a set of events that would ultimately result in a full-blown currency crisis.
There are two major flaws that I perceive in these assumptions, however, with the first being that rising prices (what he calls "price inflation"), primarily for energy and food, will continue increasing as it has been over the last year or so. This argument has been addressed and largely discredited numerous times by The Automatic Earth, and even Zero Hedge itself has suggested, back in February, that the exact opposite may occur in the short-term.
This occurred in an article that was the focal point of a piece I wrote shortly after it was published, Exporting Speculative Debt. The Zero Hedge piece contained the following argument regarding a peak in total margin debt used by hedge funds, and the lowest level of free cash since 2007, when the latest credit bubble also peaked:
At ($45.9 billion) this number is just below the ($52.8) billion last seen just before the August 2007 quant wipe out which blew up Goldman's quant desk, and arguably was the catalyst for the beginning of the end. In other words, as we have shown, everyone is now purchasing on margin and the level of investor net worth is the lowest in over 3 years. Which means that should the market decline from this week persist and the Fed be unable to stop it, the margin calls will start coming in fast and furious, and unwinds in otherwise stable products like gold and silver are increasingly possible as hedge funds proceed to outright liquidations. .
That leads us to the second assumption, that the Fed will not be able to "pin" down long bond rates because there will not be enough incremental buyers of Treasuries seeking to also hedge their exposure. When global equity and commodity markets begin their downward cascade in response to the ongoing debt deflation and a temporary end to quantitative easing, margin calls will indeed be coming in fast enough to make your portfolio spin. The demand by institutional investors for a "safe haven" will emerge as quickly as the daylight descends into pitch black, and it will then become clear that the intent was never to bail out the Titanic with a thimble, but the other way around.
The bond markets of Japan and Europe simply can't make the grade, and, as referenced in Jumping the Treasury Shark, there really isn't enough gold to soak up all of that capital. Instead, the U.S. dollar and Treasury bond, because of their fundamental weakness, will be the refuge of choice and design, and this will also serve to aid the Fed's Mafioso protection scheme for controlling rates. The world has been flooded with dollar-denominated debt for decades, right up until now, and soon all of those liabilities will come pounding on the front door. And who will answer? Why, the Fed and the financial elites, of course.
They will invite the debt deflation in with open arms, because now they are holding vast sums of cash, and Treasury bonds that simply cannot go bad. It will simultaneously be used as a justification for "gradual" austerity measures targeted at the middle and lower classes, as the public deficit will remain elevated to finance further bailouts of the financial elite class and brutal military operations for resources. The insidious shell game and unprecedented transfer of wealth will continue on, at least for some significant period of time, before the fires set by the elites burn out of control and finally engulf them.
Who will save America from drowning in debt?
by Jeremy Warner - Telegraph
If you want to scare yourself with statistics, go to www.usdebtclock.org. This brilliantly conceived internet graphic engenders much the same feeling you get when watching the extortion of the meter in a London taxi; at some stage, you know you are going to have to get out and walk.
Amongst much else, what it shows is the real-time accumulation of US public debt. When I last looked, this was approaching $14.228?trillion, or around 100 per cent of GDP. Higher and higher, the big number goes. America is bankrupting itself as surely as Wilkins Micawber. So extreme is the country’s addiction to debt that if nothing is done, it will surely force the wholesale retreat from the New World’s century-old dominance of international economic and geopolitical affairs. Worse, the medicine required to correct the problem threatens to be so strong that it may force that same retreat in any case.
According to analysis this week by the IMF, US public debt will still be rising five years from now, even assuming decent economic growth and taking account of known proposals for deficit reduction. By then, it will have reached 112 per cent of GDP. By the end of the decade, the annual interest bill alone will have reached $1?trillion, or more than a quarter of all current US federal spending.
America is rushing headlong towards the precipice, but its broken political system seems incapable of achieving the bipartisan consensus necessary to get a grip on the problem. Republican proposals for correcting the debt mountain appear as unacceptably extreme as the President’s are woolly and deficient. Barack Obama’s attempt this week to break the deadlock, with poorly defined plans to cut $4?trillion from the deficit over 12 years, was condemned by Paul Ryan, chairman of the House budget committee, as "hopelessly inadequate to address our fiscal crisis".
By the same token, Ryan’s draconian proposals for reducing state spending to a bare minimum of defence, health care and welfare programmes was dismissed even by members of his own party as completely over the top. "There is nothing serious or courageous about this plan," David Stockman, Ronald Reagan’s former budget director has said.
To some extent, this polarisation of views mirrors the austerity versus jobs debate we’ve been having in the UK, only it’s much more serious. In the US, the politics seems to prevent anything at all being done about the deficit, despite universal acceptance that it has to be dealt with.
Even the IMF, well known for pulling its punches when it comes to its largest shareholder, has been stung into issuing a rebuke by the urgency of the situation. There’s no credible strategy for stabilising public debt, the organisation said this week. Despite the fact that the US economy is judged to be growing fast enough to reduce borrowing, it is the only advanced nation other than Japan still increasing its underlying fiscal deficit this year.
But the problem goes far beyond the immediate difficulty of weaning the economy off the fiscal stimulus that helped America through the financial crisis. Underlying the immediate costs of the downturn, the US is stuck with an entitlements system which the growing demands of the ageing baby boom generation have made essentially unaffordable – or in any case, not without steep rises in taxation, an outcome that would be at odds with American traditions of rugged individualism, a small state, and low taxes.
In a report, the Congressional Budget Office summed up the problem: "Spending on social security and the government’s mandatory health care programs… will increase from roughly 10 per cent of GDP today to 15 per cent 20 years from now. If revenues and federal spending apart from those programs remain near their past levels relative to GDP, the spending on social security and healthcare will lead to rapidly growing budget deficits and mounting federal debt".
America is deep in the mire, and seemingly lacks the leadership or political tools to dig itself out. Optimists point to the fact that the US has been here before. On several occasions in the past, they say, public debt has reached current levels relative to output, only eventually to be brought back under control. America can do it again.
Yet today’s borrowing is quite different from the type that has fed the debt mountains of the past. When the country was still young and filled with hope, it borrowed repeatedly and liberally from Europe to finance its railroads and other forms of infrastructure investment. The gamble paid off big time. But today, the debt is to fund private and government consumption. It’s just money down the drain.
The IMF has calculated that to bring public debt back onto a sustainable footing will require a fiscal adjustment over the next 10 years in terms of spending cuts and tax rises equivalent to a jaw-dropping 17.5 per cent of GDP. That dwarfs even the scale of the challenge faced by the UK, and America’s bipolar political system may make it impossible for agreement on such a consolidation to be reached.
Eventually, there will be an outright fiscal calamity in the US, and from that a leader will emerge with the wherewithal to lead the country back from the brink. Looking around the Washington scene today, though, it’s hard to see where that person will come from. Modern democracies seem to have become too compromised to produce saviours.
World finance chiefs chastise U.S. on budget gap
by Lesley Wroughton - Reuters
World finance leaders on Saturday chastised the United States for not doing enough to shrink its massive budget deficit and warned that fiscal strains in rich nations threaten the global recovery. Although global tensions over the possibility of currency wars and Europe's growing debt crisis continue to simmer, finance ministers in Washington for semi-annual talks also took sharp aim at the United States' $14 trillion debt.
While most of the criticism came from emerging market economies, some rich nations also joined the chorus. "The fiscal situation in the advanced economies gives us great concern, and it is in this area that we see the major risks to the global economy," Russian Finance Minister Alexei Kudrin told the International Monetary Fund's advisory panel. The IMF this week noted that the U.S. budget deficit was on course to hit 10.8 percent of nation's economic output this year, tying Ireland for the highest deficit-to-GDP ratio among advanced economies. It urged Washington to move quickly to put a credible plan in place to tighten its belt.
The Obama administration and the U.S. Congress have engaged in a big battle over how best to reduce the red ink. Republicans have sought to use the need to raise the nation's $14.3 trillion debt limit to avoid a default as a lever to extract deep spending cuts. The Republican-led House of Representatives on Friday approved a plan to slash spending by nearly $6 trillion over a decade and cut benefits for the elderly and poor.
President Barack Obama, who has offered a competing vision to curb deficits by $4 trillion over 12 years, said on Thursday the Republican plan would create "a nation of potholes." The White House has been wary about withdrawing fiscal support for the economy too quickly, and Treasury Secretary Timothy Geithner told fellow finance ministers on Saturday caution was needed. "We are committed to fiscal reforms that will restrain spending and reduce deficits while not threatening the economic recovery," he said.
But even as Geithner said the United States recognizes the need to address its budget deficit, he was quick to say that others whose practices contribute to global imbalances must also change. "However, others, especially those whose fundamentals call for greater exchange rate flexibility, must also contribute," Geithner said. The United States has repeatedly called for China to relax its limits on the yuan currency.
Dutch Finance Minister Jan Kees de Jager warned that if the United States and other advanced nations move too slowly it could undermine confidence in the global economy. "Insufficient budgetary consolidation may spark off further escalation of debt sustainability issues, with repercussions on confidence and the still fragile financial sector," de Jager said. "Debt dynamics in other advanced economies, including the United States, are of concern."
Yi Gang, a deputy governor of China's central bank, called for "more rigorous" efforts by advanced economies to tighten budgets and said the IMF needs to strengthen its monitoring of these rich nations.
Kudrin, in remarks clearly targeted at the U.S. Federal Reserve, said central banks that have purchased government debt to keep interest rates low were abetting fiscal profligacy.
The Fed is on course to complete the purchase of $600 billion in U.S. government debt by the end of June, which would take its total purchases of mortgage-related and government debt since December 2008 to near $2.3 trillion. Echoing some Fed officials and Republican lawmakers in Washington, Kudrin said those purchases blurred the line between monetary and fiscal policy in a way that could jeopardize a central bank's independence.
"We observe this process with some wonderment, since it amounts to the monetization of those countries' budget deficits," Kudrin said.
Tim Geithner Confident Congress Will Raise Debt Ceiling: Not Doing So Would Be 'Catastrophic'
by Amanda Terkel - Huffington Post
Treasury Secretary Timothy Geithner said Sunday he's certain congressional lawmakers will come together to raise the nation's debt limit and warned of dire consequences if they don't. "I want to make it perfectly clear that Congress will raise the debt ceiling," Geithner told ABC News "This Week" anchor Christiane Amanpour.
According to Geithner, members of Congress conveyed this view to President Obama on Wednesday at the White House. "I sat there with them, and they said, we recognize we have to do this. And we're not going to play around with it," Geithner said. "We know that the risk would be catastrophic. It's not something you can take too close to the edge."
This sentiment differs significantly from what some lawmakers say publicly. "I will oppose any attempt to vote to raise the limit on our $14 trillion debt until Congress passes the balanced-budget amendment," declared Sen. Jim DeMint (R-S.C.). Sen. Rand Paul (R-Ky.) has made similar statements. On NBC's "Meet the Press," Geithner said lawmakers who play politics with the debt ceiling will have to own the consequences.
"I've spent a lot of time with Republicans and Democrats on this -- I saw with the Senate Finance Committee last week -- and they absolutely understand the stakes in this, and the leadership understand that you can't play around with this," he said. "You can't take it too long. And those people up there who are telling people that you can take this to the brink because it gives them some leverage, they're going to own the responsibility for the risk that creates for the American economy."
On CNN's "State of the Union," Rep. Anthony Weiner (D-N.Y.) seemed willing to explore attaching provisions to a debt ceiling hike. When asked by host Candy Crowley whether he would consider some spending cuts, he replied, "Of course. I think that we need to have conversations about how we reduce spending. We also need to have a conversation about how we get some equality into our tax code again." Federal law currently caps the federal debt at $14.3 trillion. But sometime in the next month, the United States will inevitably surpass that amount. Congress consistently votes to raise the nation's debt ceiling, a decision it face again in the coming weeks.
Geithner outlined myriad consequences should Congress decide, for some reason, not to raise the debt ceiling by June. "What will happen is that we'd have to stop making payments to our seniors -- Medicare, Medicaid, Social Security. We'd have to stop paying veterans' benefits," he told Amanpour. "We'd have to stop paying all the other payments on all the other things the government does. And then we would risk default on our debt -- and if we did that, we'd tip the U.S. economy and the world economy back into recession -- depression."
What Europe's coming debt default will look like
by Jeremy Warner - Telegraph
I’m not sure why everyone thought comments the other day from the German Finance minister, Wolfgang Schäuble, to the effect that Greece may eventually face a sovereign debt restructuring, were such a revelation.
This is in fact only a statement of the blindingly obvious, has been apparent in the market price of Greek sovereign debt for more than a year now, and was in any case implicit in the statement issued after the European Council meeting of March 24-25, when ministers said restructuring would be a pre-condition to borrowing from the European Stability Mechanism if debt was judged to be on an unsustainable path.
Even so, combined with the latest Moody’s downgrade on Friday of Irish sovereign debt, his comments have sparked a fresh round of jitters in markets, and led some commentators to think an act of default among the peripheral eurozone economies is imminent. I don’t doubt that certainly Greece, and possibly Ireland and Portugal will eventually have to restructure, but here’s why it’s not going to happen any time soon.
First and most important, none of these countries are yet willing to contemplate such a radical course of action. It’s possible that political developments in Europe could force such an outcome on them sooner rather than later; there is every chance, for instance, that Sunday’s election in Finland could produce a government hostile to any future bailouts, and therefore scupper the proposed Portugese rescue before it’s up and running. Things might quickly unravel if Finland refuses to take part in bailouts.
But assuming that doesn’t happen, it’s most unlikely that Greece, the most vulnerable of the four PIGS, would want voluntarily to restructure before the ESM comes into existence in 2013. That’s because it is neither in Greece’s interests to restructure before then, nor in any body else’s.
Greek banks are big holders of sovereign debt; a haircut of a third to a half would immediately trigger another banking crisis in Greece and turn an already catastrophic flight of capital into a rout. The banking system would very quickly collapse. A restructuring would also collapse the country’s pensions system, as the asset of choice among Greek pension schemes is Greek sovereign debt. Pensions too would have to be cut severely.
You can see why the Greeks are so determined not to restructure. Default would also require big write offs among German and other eurozone banks, and therefore necessitate a further round of recapitalisations. The systemic consequences would be extreme, possibly worse than the Lehman’s collapse. Much the same observations can be made about Ireland and Portugal. For any country, however small, default is a non trivial event. As David Owen of Jefferies puts it: "Even Greece is too big to fail".
Yet by common agreement, Greece is already at the point of debt unsustainability; debts are so high that it’s going to prove not just difficult and painful, but virtually impossible to get them back onto a sustainable footing. The interest bill on the debt alone is just too big for the economy to be able to cope with. The point of unsustainability is generally acknowledged to be around 150pc of GDP. As you can see from the table below, drawn from the IMF’s latest Fiscal Monitor, Greece is already at that point.
On the IMF’s projections, Ireland just about avoids it, though it wouldn’t require much in the way of a shortfall in growth to put the country in the same boat. Remember, if an economy contracts, its debt to GDP ratio will rise even if nominal debt remains the same. It was just such a possibility that caused Moody’s further to downgrade Irish debt on Friday. As Moody’s points out, last week’s hike in interest rates by the European Central Bank will further hinder the country’s return to growth.
On the IMF projections, Portugal is quite unlikely to get to the tipping point, while Spain is most unlikely to reach it. That doesn’t mean it won’t happen. These are only probabilities. By the way, you should ignore Japan, which dances to its own tune. That’s another blog entirely.
Now look at the second table below, also drawn from the latest Fiscal Monitor. What this shows is the scale of the fiscal adjustment by way of tax rises and spending cuts needed to put public debt back on the path to 60pc of GDP, which was the pre-crisis average. What’s so interesting about these projections is that the biggest challenge by far, once age related spending over the next twenty years is taken into account, is faced not by Greece, Ireland or Portugal, but by the United States.
In any case, on the basis of these projections, you could argue that if Greece, Ireland and Portugal need to restructure, then so does the United States. The US, on the other hand, always has the backdoor default option of inflation, which it seems quite vigorously to be pursuing. That’s not open to the eurozone prisoners.
So not now for sovereign default, but maybe later, giving European banks time to prepare themselves for the losses. What form is that default going to take? Initially, it might be accomplished through what’s sometimes called a "soft default", where debt maturities are extended and interest payments cut. But even that may not be sufficient. David Owen’s best guess is that the eventual haircut will be a third to a half of the principal. Not pretty.
Timo Soini: The Finnish bear mauling the EU's bailout plans
by Harriet Alexander - Telegraph
As his train rolls through Finland, passing log cabins nestled among snowy pine forests, Timo Soini concludes that his country hasn't got much in common with Greece or Portugal. They might be good for sunny holidays, to escape Finland's eight weeks of solid winter darkness, but their way of life is a world away from this most northern point of the EU. And when their leaders come knocking for a bailout which could cost Finnish taxpayers a billion euros, as a result of excessive state spending, the cautious Finns feel understandably aggrieved.
Mr Soini, 48, however, is in the unusual position of being able to do something about it. As Finns go to the polls on Sunday, and the EU is debating an €80bn bailout of Portugal, Mr Soini's euro-sceptic True Finns party is promising to derail the deal if they win a stake in Finland's coalition goverment. "The party is over," he said. "Why should Finland bail anyone out? We won't allow Finnish cows to be milked by other hands."
Finland, unlike the other 16 other euro zone members, puts requests for major EU decisions - such as decisions on bailout funds - to a majority vote in parliament. And with the True Finns tipped to gain up to 20 per cent of the ballot, the small Nordic nation could become an unlikely headache for the European Union. The bailout may eventually be passed, but Mr Soini's party could certainly delay the proceedings for many months – causing further uncertaintly about the euro-project and illustrating the bitter divisions that the rescue package has exposed.
Support for Mr Soini's stance has risen four fold since the last election in 2007, when his party got just four per cent of the poll. Coupled with rising opposition to the bail-out among other Finnish minority blocs, Mr Soini could - with a spot of post-election horse-trading - make a majority vote for the bailout difficult. An aimiable, jokey figure, who is rarely spotted without his Millwall FC football scarf, he has already performed the near-miracle of making Finland's normally lacklustre elections exciting - and, in the process, has earned Helsinki the ire of Brussels' top Eurocrats.
Only a week ago, the country got a headmasterly warning from Olli Rehn, the EU's commissioner for economic and monetary affairs, and a native of Finland himself. "I trust that Finland will show its responsibility and support this conditional financial assistance programme for Portugal," scolded Mr Rehn, who is the EU's most senior economic official. Finland's backing of the bailout was essential, he argued, "for the sake of safeguarding financial stability in Europe and Finland, and for the sake of protecting the economic recovery, growth and employment."
His intervention was greeted with amusement by Mr Soini.
"That is typical Eurocrat speech," he told The Sunday Telegraph last week. "Olli Rehn should do his job in Brussels and let Finnish people vote as they like. I will go to Brussels and say 'Let's renegotiate'. We won't hand over more Finnish money to be burnt in the fire."
A thick-set bear of a man, the jovial Mr Rehn thrives on challenging the established political parties, and as an MEP has found a close ally in Nigel Farage, the leader of Britain's UKIP party. Mr Soini spoke at the UKIP conference in Southport in 2009; Mr Farage repaid the visit in February. His party, with its rejection of European integration, dislike of the euro, and anti-immigration rhetoric has certainly attracted a smattering of unsavoury hard-Right extremists.
However, he portrays himself as simply a "rank and file man from the suburbs", in contrast to the earnest, grey-suited politicians who dominate the Finnish political mainstream. "My opponents say we must be in Europe, at the big table, making those decisions," he said. "I say we must not be at that table and paying all the bills."
Since Finland joined the EU in 1995 – following a referendum, in which 57 per cent voted to join – the country has been staunchly pro-European, although its fiscally prudent politicians insisted on referring big decisions to the national parliament. With centuries of foreign domination – first by the Swedish, then the Russians - Helsinki initially relished being part of a central European group that protected it from its wild, unpredictable Russian neighbour.
But the country at the tip of Europe's far north is now realising that it has little in common with its cousins in the south. "Here in the Nordic nations we draw a line between the decent, hard-working countries of the north, and the easy-going, relaxed southern states," explained Erkki Havansi, 69, a retired law professor who is running for election for the True Finns. "For us, it is a matter of honour to pay your debts on time. When we had our own recession, from 1991-4, we suffered a lot, but we sorted out our problems ourselves. We feel very strongly against the bailout – it has been one of the most important issues in the final debates."
It is an argument that is gaining currency on the streets of Helsinki. While fresh-faced candidates in funky glasses beam from the billboards and campaigners in Converse trainers eagerly hand out fliers, the True Finns are creeping up on the established political order, dominated by the right-leaning National Coalition party, the Centre Party, and the opposition Social Democrats - all traditionally pro-European.
"I'm not ready to put my hand in my pocket and help messed-up EU countries out," said Petri Gronlund, 53, a construction firm manager, in the central shopping boulevards of Helsinki.
"We are part of the EU, and that is fine. But we shouldn't have to pay for their mistakes."
Admittedly, many younger residents of this remote corner of Europe are reluctant to support Mr Soini's anti-Brussels stance, associating it with a narrow-minded, xenophobic mindset that EU membership has done much to eradicate. "My generation is very pro-Europe," said Jaana Haurinen, 32, a medical recruitment specialist. "Helsinki is much better now that it is multicultural and open. We don't like the bailout, of course, but we just hope it won't happen again."
However, recent opinion polls suggest more than 60 per cent of Finns oppose a bail-out, and whether or not the True Finns gain a controlling seat in the new coalition, any new government will have to heed the growing sense of unease. "Even in a scenario of the current coalition continuing, the parties will need to take some note of the public mood, and so the rhetoric will probably be more prone to dissatisfaction over the bailout packages," observed Juha Jokela of the Finnish Institute of International Affairs.
It makes Finland the latest member of a growing "awkward squad" of nation states within the Brussels club, which includes both bankrollers and beneficiaries of the bail-out deals. Last year, Slovakia's government temporarily blocked aid for Greece for several weeks, relenting only after heavy diplomatic pressure.
In Dublin, meanwhile, a new administration elected in February won much of its support by promising to refuse the austerity terms dictated by Brussels for the planned Irish bail-out. Such hot-headedness does not come quickly in Finland, and both the prime minister, Mari Kiviniemi, and the finance minister, Jyrki Katainen, have warned voters that blocking a bailout could trigger a renewed financial crisis, which they say could ultimately hurt the country more than any bail-out.
For the likes of Professor Havansi, though, it is too late. Finland, he argues, could benefit from being in the bad boys' club for a while. "Finns were seen as the perfect pupils, always obeying the teacher," he said, clenching his fists. "But we want to have our own will, and rebel."
Portugal seeks international aid
by Noah Barkin - Reuters
Portugal's decision to seek international aid removes a cloud of uncertainty over the euro zone and has a good chance of ending the spread of debt market crises to fresh countries in the region. Investors had believed for months that a bailout for Portugal was almost inevitable, so the announcement by caretaker Prime Minister Jose Socrates on Wednesday is unlikely to hurt financial markets. The euro barely moved in the initial hours after the announcement.
The expected size of the bailout, 60-80 billion euros ($86 billion - $115 billion) according to a senior euro zone source, will not strain the euro zone's 440-billion euro bailout fund, especially since the International Monetary Fund is likely to be involved. Based on past bailouts, it would contribute about a third of the amount.
Many investors will see the request for aid as positive since it promises to avoid a worst-case scenario in which Portugal would have limped along under a minority government until general elections scheduled for June 5, refusing to seek help and digging an ever-bigger economic hole for itself. This would have continued to push up Portuguese bond yields and threatened a collapse of its finances that might have prompted markets to start attacking Spain, widely seen as the next potential domino in the euro zone.
Other governments in the zone have therefore been pressing Portugal to request a bailout, and Lisbon's willingness to comply — despite its bad memories of IMF-ordered austerity in the 1980s — suggests the region remains able to summon enough political unity to address its debt problems. "This is good news. We've been saying for a while that Portugal's finances were not sustainable at these rates," Erik Nielsen, chief European economist at Goldman Sachs, told Reuters. "We think the contagion stops here."
As recently as the turn of the year, it seemed likely that markets would target Spain if Portugal followed Greece and Ireland in seeking a bailout. But the government of Spanish Prime Minister Jose Luis Rodriguez Zapatero has unveiled a series of reforms of the labor market, pensions and banking sector in past months. A stabilization of Spanish bond spreads shows many investors now believe it can avoid the fate of its smaller neighbor.
Portugal will have to agree to tough austerity targets to obtain a bailout, and how quickly a deal can be negotiated is unclear. Socrates resigned abruptly last month after his latest package of austerity measures was voted down in parliament, and his caretaker government has said it lacks the authority to negotiate an economic adjustment program.
Germans plan for Greek debt shake-up
by Gerrit Wiesmann - Financial Times
Germany is drawing up plans to restructure Greece’s sovereign debt in the event that Athens’ economic reforms fail to heave the country out of its budget crisis. Its intentions fly in the face of the European Central Bank, which fears that asset write-downs could trigger a financial crisis at a time when the banking system is still bruised from the last one. But Berlin reckons it and eurozone partners could avoid such desperate straits if they persuade Athens to offer bondholders a voluntary restructuring with tools used before by the International Monetary Fund.
One idea is to encourage bondholders to swap risky Greek sovereign bonds at about market prices for safer paper guaranteed by the eurozone – akin to "Brady Bonds" issued to South American countries in the 80s. Alternatively, a eurozone trust – possibly the European financial stability facility – could buy bonds, and extend maturities or retire debt, a system used to help poor states in the IMF’s HICP programme. People briefed about Berlin’s thinking said other options were considered but chancellery and finance ministry officials had spent time analysing these "market friendly" options.
"The government has long since started preparing for a Greek restructuring," one of them told the Financial Times. "But it’s not pushing Greece into this. It knows that none of these plans will work if the Greeks don’t want them." The finance ministry said it could not comment.
George Papandreou, the Greek prime minister, announced new spending cuts and asset sales on Friday to get the country’s finances on track. He said a restructuring would not solve Greece’s problems.
Although it would profit from a debt cut, Athens, like the ECB, is wary of the damage even a voluntary scheme might do to domestic banks, which own a lot of its bonds, and to the government’s future access to markets.
But Germany has started making other noises. Werner Hoyer, deputy foreign minister, told Bloomberg News on Friday that a voluntary debt restructuring would "not be a disaster" and that Berlin was ready to back such a plan. Wolfgang Schäuble, the finance minister, talked this week of the need for "further measures" for Greece. Mr Schäuble said on Friday that it was "misguided" to think he necessarily meant a restructuring.
Mr Hoyer’s comments drove investor fears of writedowns and their consequences. The interest spread between 10-year German sovereign bonds and equivalent Greek government bonds widened to a record 1,000 basis points. The ministers’ statements suggested that a cross-party consensus was emerging in Angela Merkel’s coalition government of Christian Democrats, which includes Mr Schäuble, and Free Democrats, which counts Mr Hoyer as a member.
People briefed on the issue said it could be tricky to obtain parliamentary approval for any Greek restructuring, which could land Berlin with new financial burdens.
Greece fails to reassure markets with €76bn debt 'road-map'
by Emma Rowley - Telegraph
Greece left markets disappointed after it sketched out fresh measures to shrink its debts but put off giving detail until after Easter. Meanwhile the pressure intensified for Ireland, as credit rating agency Moody's downgraded its view of its government debt to just above "junk" status.
Politicians are fighting to contain the ongoing debt crisis in the eurozone which has seen Greece, Ireland and Portugal request bail-outs. The Greek government on Friday laid out a "roadmap" targeting €26bn (£23bn) of savings and €50bn of asset sales by 2015, as it tried to reassure investors it will not default on its debts, expected to total more than €340bn this year. "Greece's problems won't be solved by restructuring its debt but by restructuring the country," said George Papandreou, the prime minister.
However, many said the plans lacked detail and suggested the €50bn figure for potential privatisations was too optimistic. "Announcing such targets does not serve any purpose at all," said Kornelius Purps, a bond analyst at Unicredit. "I'm also telling my wife all the time we should cut spending. There is no specific information on how the Greek government will achieve this."
The yield, or return, on 10-year Greek government debt hit a new euro lifetime high of over 14pc on a second day of heavy selling, triggered on Thursday by the German finance minister, Wolfgang Schaeuble. Mr Schaeuble warned that "further measures" would be needed if Greece's debt burden was found to be unsustainable. His comments were seen by investors as signalling that a debt restructuring – effectively a default – was imminent.
The minister later said his comments had been "somewhat erroneously" interpreted. However, even as Greece was outlining its plans on Friday, Germany's deputy foreign minister Werner Hoyer was telling Bloomberg it "would not be a disaster" for the debt-laden country to restructure. Nouriel Roubini, the New York professor who predicted the global financial crisis, told a conference: "The issue of Greece is not whether there will be debt restructuring, but when it will be done."
Nonetheless, politicians across the eurozone are keen to delay what looks inevitable so that banks exposed to Greek debt are better placed to cope with potential losses. Some investors fear Ireland's struggle with poor growth means Dublin will likewise be unable to meet its debt obligations. Moody's said that was not a plausible scenario, but cited Ireland's weaker growth prospects as it cut the country's rating by two notches. "There are challenges ... that's why we went for a rating action," said Dietmar Hornung, vice president at the agency.
Officials from Brussels and the International Monetary Fund backed Ireland's austerity efforts. The euro rose slightly against the pound to 88.42p, supported by expectations that the shared currency will be strengthened by further interest rate rises.
Ireland defends low corporate tax rate
by John Murray Brown - Financial Times
Ireland’s enterprise minister has warned that France and Germany risk "putting a spoke in the wheel" of the Irish economic recovery if they insist on increases in Ireland’s corporate tax rate. Richard Bruton was responding to comments by Wolfgang Schäuble, the German finance minister, who warned that Ireland would have to make a gesture on the tax issue if it wanted to secure a reduction in the cost of its €85bn bail-out by the European Union and International Monetary Fund.
Underlining the perceived risks to Ireland’s recovery, Moody’s on Friday downgraded the country to BAA3 from BAA1, with the outlook remaining negative. The main reasons given were the expected decline in the Irish government’s financial strength, combined with weaker economic growth and the uncertainty created by the solvency test required by the new European Stability Mechanism.
In an interview with the Financial Times, Mr Bruton said an export-led recovery, driven by companies attracted to Ireland by its 12.5 per cent tax rate, was the "best chance" of Ireland meeting its debt obligations. "France, Germany and Ireland all have a common interest in driving an export-led recovery. It would not be in Europe’s interest to throw a spoke in the wheels of such a recovery. We need to persuade Europe that the best chance of a strong European Union with Ireland carrying out all its obligations is by Ireland having a successful export-led recovery," he said.
The government of the centre right Fine Gael and centre left Labour party is planning a jobs budget in May, aimed at encouraging businesses to bring forward investments to boost employment and exports. Mr Bruton, an Oxford-educated economist and Fine Gael member, said the proposals would have to be fiscally neutral in line with the EU-IMF deal But he said the plan would include reductions in employer insurance and VAT in low paid sectors. It would also scrap the practice under certain sectoral wage agreements of extra pay on Sundays, travel to work allowances and other "antiquated" work practices "that don’t fit into a modern labour market."
More controversially, Mr Bruton said the government would reverse the €1 an hour cut in the national minimum wage, implemented by the last Fianna Fail government. A reduction in the minimum wage, which at €8.60 an hour is the highest in the EU after Luxembourg, was backed by the IMF and EU as a way to support competitiveness and stimulate employment, although it only applies to some 60,000 employees.
Mr Bruton said both Fine Gael and Labour believed it was "socially unacceptable to hit the most vulnerable with an 11.5 per cent cut in their wages when the rest of the private sector are not applying any such cuts." But he believed "the IMF can be persuaded that a balanced package that can see the restoration of the national minimum wage but achieves flexibility in other wage setting mechanisms will give a positive benefit to Irish competitiveness." He was referring to joint labour committees which cover professions such as electricians and comprise 240,000 workers across the economy.
The broad outlines of Mr Bruton’s jobs initiative are expected to be among the main changes in a revised EU-IMF programme set to be published on Friday. A senior Irish official said it was important that the new government "took ownership" of the bail-out programme which both Fine Gael and Labour had strongly criticised – and voted against – when in opposition before the March general election. The announcement comes after the IMF this week cut its forecast for Irish gross domestic product for the current year from 0.9 per cent to 0.5 per cent. However its 2012 forecast of 2 per cent growth remains unchanged.
The downgrade is disappointing but Irish economists point out the markets’ real focus is on the growth projections for 2013 and subsequent years, when repayments on the €85bn EU-IMF bail out kick in. Spreads on Irish government debt compared with German Bunds have narrowed slightly since the announcement last month of bank stress tests and a further €24bn recapitalisation plan. Ministers this week have warned that public sector pay may have to be cut if unions fail to deliver promised improvements in productivity.
But Mr Bruton, whose full title is minister for enterprise, employment, jobs and innovation said: "A strategy that focused solely on fixing the banks and the public finance deficit was leaving out the key element that would make both of them soluble and that is exports and jobs growth." Longer term, he said Ireland hoped to see more indigenous exporting companies.But he acknowledged that "we haven't really cracked that yet." As if to underline the point, Mr Bruton then ended the interview to hurry to a Dublin hotel to announce 50 new graduate engineering jobs at HP's cloud computing services centre in Galway.
U.S. stocks ready for barrage of earnings
by Kate Gibson - MarketWatch
U.S. stock indexes have largely been treading water, as Wall Street preps for an onslaught of earnings that will have more than 100 S&P 500 companies reporting in the week ahead. "We’re about where we were two months ago," Stuart Freeman, chief equity strategist at Wells Fargo Advisors said of the benchmark indexes. "We’ve already seen some of the financial names coming through," said Freeman of banking giants Bank of America Corp. and J.P. Morgan Chase & Co.
The duo’s earnings and others that reported last week proved mixed, with Bank of America disappointing investors by reporting a sharper-than-anticipated drop in profit and naming a new chief financial officer. Freeman believes first-quarter results overall will prove "better than expected by the Street, but by a smaller margin." On Friday, the major indexes tallied weekly declines, with the Dow Jones Industrial Average finishing its first down week in four.
Off 0.3% from the week-earlier close, the Dow ended at 12,341.83, up 56.68 points, or 0.5%, for the day. The Standard & Poor’s 500 Index gained 5.16 points, or 0.4%, to finish at 1,319.68, off 0.6% for the week. The Nasdaq Composite Index rose 4.43 points, or 0.2%, to 2,764.65, down 0.6% from the prior Friday’s close, with the technology-weighted index managing a daily rise even as internet-search giant Google Inc. offered disappointing results.
Estimated share-weighted earnings for the S&P 500 for the first-quarter 2011 stood at $207.9 billion as of Friday, above the prior week’s $207.7 billion, according to Thomson Reuters analyst Christine Short. The estimated revenue growth rate for the S&P 500 for the first quarter is 8%, according to Short and Freeman.
The 110 S&P 500 companies slated to release results in the coming week include the first major drug company to report first-quarter earnings, with Eli Lilly and Co. slated to release its results ahead of Monday’s open. While earnings so far have proved a mixed bag, economic reports have largely bolstered the view of an economy picking up steam, albeit not at a rapid pace.
"In the last week or so you’ve seen some strategists revising down GDP (gross domestic product) estimates for the year, and the IMF (International Monetary Fund) did the same thing for the entire world and the U.S., so the market is grappling with that," said Freeman.
And, with the Federal Reserve’s policy of quantitative easing liking coming to an end at the end of June, so long as core inflation is viewed as under control, investors are trying to gauge the impact. "When the Fed takes a little capital away from the party, investors are wondering just how the economy is going to do on its own as some of the stimulus is taken away," said Freeman.
Fuel costs have risen in recent weeks as violence in the Middle East and North Africa prompted worries of supply disruptions. "If it goes too high and or core inflation moves higher, than obviously the Fed could make another move," said Freeman. While acknowledging that prices at the gasoline pumps at or near $4 a gallon could well curb consumer spending, Freeman draws a distinction between the current scenario and 2008.
"Everyone was more over-leveraged, housing was still in its bubble, and it (oil) was kind of like the last straw, and it moved a lot higher than here," said Freeman. "The expectation is this isn’t permanent," he added of the crude futures, which on Friday finished at $109.66 a barrel. The U.S. stock market will be closed on Friday for the Good Friday holiday.
The Granddaddy of All Bubbles?
by Peter Coy and Roben Farzad - BusinessWeek
It's as if 2008 never happened. Once again the world's investors are pumping up bubbles that will probably explode in their faces. After the popping of a real estate bubble led to the first global recession since the 1930s, world markets are frothing like shaken Champagne. Pundits claim to have spotted price increases that are unsupported by economic fundamentals in assets ranging from U.S. farmland to Israeli biotech to Australian housing to Chinese cemetery sites.
Commodities have soared. Global junk-bond issuance hit a record in the first three months of the year. And Yale's Robert Shiller calculates that the Standard & Poor's 500-stock index is trading at 23 times earnings normalized over the past 10 years, compared with a historical average of 16. "I fear this is the granddaddy of them all, an almost-encompassing bubble right at the heart of monetary systems," says Doug Noland, senior portfolio manager of the Federated Prudent Bear Fund.
Cassandras, pointing to the bankruptcies, taxpayer-financed bailouts, and joblessness caused by the last bubble, argue that today's bubbles need to be deflated now before they get dangerously large. Many blame the Federal Reserve for keeping interest rates too low and pumping out a flood of money in search of yield that feeds bubbles around the world. Chinese authorities want the Fed to raise rates to relieve inflation in China. On Apr. 7 the European Central Bank raised its benchmark lending rate a quarter-point, to 1.25 percent. In the U.S.,
"What we've created is beyond moral hazard," laments Brian Wesbury, chief economist at First Trust Advisors, a Wheaton (Ill.) fund shop. "People are coming to think that the market cannot go higher if the Fed isn't helping it."
Not everyone is in the grip of bubble-phobia, least of all Fed Chairman Ben Bernanke. The central bank remains committed to keeping rates ultralow until the economy shows more staying power. In an Apr. 11 speech in New York, Fed Vice-Chair Janet L. Yellen didn't say anything about bubbles. But she rejected the contention that Fed policy is responsible for commodity price inflation, blaming the runup in oil and food prices largely on "rising global demand and disruptions in global supply." She's right: Commodities aren't being hoarded, as they would be if investors were speculating on them. Inventories have fallen since last summer.
Some economists such as Jaume Ventura and Alberto Martin of Barcelona's Universitat Pompeu Fabra go so far as to argue that bubbles are the price we pay for vigorous growth. They say the optimism reflected in sharply rising prices can become a self-fulfilling prophecy: Rising prices induce more hiring and investment. That generates the growth that justifies even higher prices, and so on in a virtuous upward spiral. Of course, eventually the bubble pops and causes a mess. Yet however jarring a boom-bust economy may be, they say, it's better than an overregulated economy stuck in perpetual underperformance. "The bubble has costs. But you prefer the world with the bubble over the one without the bubble," says Ventura.
James W. Paulsen, the bullish chief investment strategist at Wells Capital Management in Minneapolis, happens to think the Fed should raise interest rates a bit now—but, he says, "It's comical that we think we can regulate away future recessions or crises. It's scary to the extent that if we do, we will crush the essence of capitalism, which is basically greed and animal spirits."
Didier Sornette, a physicist who studies finance at the Swiss Federal Institute of Technology Zurich, sketches out six stages of bubbles: 1) the appearance of a new investment opportunity; 2) the expansion of credit; 3) euphoria; 4) distress; 5) revulsion; 6) panic. Ventura and Martin don't even assume euphoria. In their "rational bubbles," investors buy into a bubbly asset because they conclude that the overpricing can last for many years, and the chance they will still be invested when the bubble bursts is small. For all the people who sell before the bust, as well as all those who earn salaries from the sector while it's still bubbling, there's no downside, they note.
One reason it's hard to pick between the bubbles-are-bad and bubbles-are-O.K. camps is that bubbles aren't all alike. The best ones create assets whose value survives the crash. The Apollo program that put people on the moon, only to lose public support in the 1970s, was a "social bubble" in which over-optimism advanced science, Sornette says. Bad bubbles generate worthless assets such as exurban housing subdivisions that are taken over by squatters and mold. Other bubbles don't produce any supply response at all. The only impact of China's new mania for old wine—one bottle went for nearly $233,000 last year—is to transfer wealth to whoever was lucky enough to own the bottles before the Chinese got interested, notes Harvard economist Edward Glaeser.
When the tech sector gets bubbly, consumers are often the biggest beneficiaries, Glaeser says, because investors fund ideas that help the general public, from wireless communications to solid-state data storage to the Internet. So it was in the 19th century with the railroad boom. Today's speculation in tech is concentrated in social networking. The question is whether the new investments will live up to the greatest hits—and productive busts—of Silicon Valley's past.
Global bull market may soon face biggest test
by Howard Gold - MarketWatch
A larger correction may be coming
After two years of rallies and only one major correction, the global bull market may soon face its biggest test. The impending end of the Federal Reserve’s latest easy money program ("quantitative easing" or QE2), along with seasonal weakness in stock markets and other events, could cause investors to doubt this bull once again. The potential turbulence could resolve the big question that has been hanging over the markets: Is a real, sustainable economic recovery driving stock prices higher or, as the bears claim, is it just an illusion pumped up by excess liquidity, especially from the U.S. government’s printing press?
Meanwhile, earnings season is upon us. The way stocks react to the good news we’ll probably hear will tell us which way the market will go in the months ahead. And some key technical indicators are at major resistance points. If they don’t break through them, then we might want to follow Mark Hulbert’s recent advice to "sell in April and go away" — at least for a while.
But let’s look at the fundamentals first. More than a year and a half after the official "end" of the 2007-2009 recession, the U.S. economy is recovering, albeit more slowly than usual. There were 216,000 new jobs in March — the most recent of several encouraging employment reports — and private-sector job growth in particular has picked up. U.S. exports set a record in January, riding the demand from China and other emerging markets for manufactured goods and food. That has helped multinational companies in the Standard & Poor’s 500 index clock huge profit gains and hoard over $2 trillion in cash.
S&P 500 companies’ earnings have topped analysts’ estimates for seven straight quarters, and in the fourth quarter of 2010, more U.S. companies beat Wall Street’s revenue growth forecasts than at any time in four years. Companies are raising dividends again, stock buyback authorizations are up nearly 40% from last year, and the US initial public offering market is off to its best start in years. All of these things, I believe, will support a better market as the year goes on.
But first there are some hurdles to clear. The biggest, of course, is the imminent conclusion of QE2. By the time the program winds down in June — and it won’t end early, that’s for sure — the central bank will have bought $600 billion in additional Treasury securities as part of its plan to support what looked like a much weaker economy last year. I don’t know if it’s worked or not, but in the ensuing months measures of consumer and business confidence have risen. (They’ve slipped again, however, in the wake of the Libyan uprising and Japanese earthquake, tsunami and nuclear accident.)
Stock and commodity prices have soared, too, although I believe the impact of QE2 has been exaggerated here: The broad measure of the money supply, M2, has risen by only 2.4% this year, and the extra money the Fed has pumped in is only about 1% of global gross domestic product in 2010.
What the end of QE2 portends
Still-strong growth in emerging markets like China, India, and Indonesia have driven demand for commodities much higher, and their growing surpluses also have added to the flood of money washing around the globe. But oil and commodities prices have eased recently from their recent highs, and I think that might keep inflation from taking off over the next few months.
So, when QE2 ends, I’m not looking for the end of the world, or even the end of the recovery — just some slowing for a quarter or two. Once investors see that, a lot of the fear looming over that event will dissipate. Surely more good earnings won’t be enough to dispel the continuing anxiety. After several quarters of shoot-the-lights-out earnings gains, the first quarter should show a more sedate 12% or so advance — good by any standard other than the ones we’ve gotten used to recently.
Meanwhile, the calendar is starting to work against us: From May to October, stocks historically perform worse than they do the other six months of the year, and we’re entering those dog days soon. But the presidential election cycle, which gave us such a great boost over the past few months, may also start to fade.
True, the third year of the four-year cycle is the best, averaging 17% annual gains since 1945, according to Sam Stovall, chief investment strategist at S&P Equity Research. But the best three quarters of the whole cycle are the fourth quarter of the second year and the first two quarters of the third year. We’ve just begun the second quarter of the third year, but the rally started last Aug. 27, before last year’s fourth quarter officially began. In the nearly six months between then and its February peak, the S&P rose 28%.
And lately, the market has looked just plain tired. The S&P 500 hit its recent high of 1,343 on Feb. 18, nearly two months ago. The sell-off after Libya and Japan drove the S&P down 6.5%, but it has not topped the previous high yet on the rebound. This is critical, as technicians see significant overhead resistance at around 1,345, and support around 1,300 to 1,315, where it hovered this week.
The S&P needs to break decisively through that 1,345 resistance for the bull to make its next big move. Another crucial barometer: the Russell 2000 Index of small-capitalization stocks. It recently came within a hair of its June 2007 record high of 855.18 and even topped that during daily trading. But it has never closed above it.
In the wake of the correction
As I wrote in January, U.S. small- and mid-cap stocks have been the "sweet spot" of the global market rally. With the "risk-on" rebound since March, they reassumed leadership. But if they can’t top the 2007 all-time high now, they may have to pass the baton during the next big move. So, in the months ahead, we may see a bigger correction than we had earlier this year, perhaps even approaching last year’s Greece-induced 16% selloff, especially if some unforeseen crisis happens. Fear and volatility will return and the bears will appear to be back in the saddle.
But then I expect stocks to make a quiet recovery, led by blue chips, as the bull market moves into its later stages. So, I’ll sit tight with the vast majority of my holdings. But I’m watching the S&P and especially the Russell 2000, to see if they top their earlier highs as earnings season evolves. If they don’t, I may take some profits in the small- and mid-cap funds I own to lock in some of my gains. If the market surges again, I’ll leave my chips on the table. So far, it’s paid big time to be bullish on this market. During the next few weeks and months, we’ll find out if that’s still the best strategy.
Why economists stubbornly stick to their guns
by John Kay - Financial Times
Last week, a group of eminent economists gathered in Bretton Woods, New Hampshire, to review responses to the financial crisis at a conference organised by the Institute for New Economic Thinking, a group founded by financier George Soros. The event led me to reflect on the phenomenon of confirmation bias, or the tendency to find evidence to support what one already believes.
Three years after it began, enemies of modern capitalism look back and perceive egregious instances of the failure of the market that they had always deplored. President Nicolas Sarkozy and Chancellor Angela Merkel see new flaws in an Anglo-American economic hegemony that they had long detested. Others on the right deplore the mistakes of inept regulation, lax monetary policy and poor policy responses.
The crash challenges established views, people will tell you, but this seems to be a recommendation to others, rather than a personal statement. Lessons have been learnt, they will say, but the lesson most people have learnt is that they were right all along. This bias receives organisational reinforcement, too. In politics and corporate life there is strong competition to support the opinions of the great leader, be it the head of the International Monetary Fund, or a major bank. Media developments also make it all-too-easy today to find information only from sources that reflect one’s existing opinions; think Fox News or the blogosphere.
In economics, the academic realm ought to be the home of pluralist discourse but the growth of peer review and journal publication has undermined this. University economists, of the sort gathered at Bretton Woods, are now under relentless pressure to conform to a narrow, established paradigm. Inexplicably most supporters of that paradigm also feel that the crisis confirmed its validity. All these factors played a part in the origins of the crisis. Within financial institutions, there was no incentive to challenge practices that appeared to be profitable. States saw little reason to question these same activities, which also contributed mightily to tax revenues. CNBC told everyone they were getting richer and the academic theory of finance reassured that all was for the best in the best of all possible worlds.
If this self-confidence was to take a knock in 2007-08, it was not for long. Alan Greenspan appeared then to partially recant when he told Congress in 2009 that he now doubted the models of rational behaviour on which he had long relied. But a recent article in this paper, criticising the Dodd-Frank Act, suggests that he has now recovered his composure. Mr Greenspan will no doubt be an enthusiastic viewer of Atlas Shrugged, the film of the novel by his mentor Ayn Rand, which is released in America this week. Many libertarians will go to cheer; a few on the left to jeer. But again no minds will be changed.
Britain’s Gordon Brown did stun the audience at Bretton Woods by seeming to admit an error in not having recognised the degree of interdependence in the global financial system. It may be churlish to criticise a man so relaxed now that the terrible burden of office has been torn from him. But his admission was but preliminary to a reminder that such interdependence reinforced the need for the much more extensive global financial regulation he had always advocated.
Mr Brown’s call will be well received at the impending annual meetings of the IMF and World Bank, as it was no doubt intended to be. If IMF head Dominique Strauss-Kahn runs for France’s presidency, there will be a vacancy to be filled by a European statesman. It is the custom at these global conclaves to conclude that the financial crisis requires that the institutions that host them should be strengthened.
In similar vein, the European Union discovered that the crisis demanded that its institutions should be proliferated and their powers enhanced. The Basel committees – which spent two decades devising complex rules on bank capital adequacy that proved perfectly useless before the crisis and damaging afterwards – quickly urged a still more extensive set of capital adequacy controls; and so on.
It was perhaps harder for banks to argue that the crisis proved how right they had been. But, as it turns out, not impossible. Here their revisionist view shifts responsibility firmly on to government – and even the public, which was guilty of robbing banks of money they never wanted to lend. "We were just the waiters at the party," I heard one executive explain, clearly in ignorance of how much waiters are paid, or that most waiters do not get to determine their own tips.
Not everyone suffers from confirmation bias. If I eschew a visit to Atlas Shrugged, it will be because the plot is silly and the prose turgid, not because of its message. I also believe, on a dispassionate view of the evidence, that the crisis shows tougher regulation of the banking industry is preferable to supervision of its conduct – a view I have always shared with Sir John Vickers.
I did misinterpret some elements of the crisis, believing that the securitisation bubble would create mayhem in the hedge fund sector rather than, as it did, in the major banks. But the outcome still provides strong support for the notion, a view I have long had, that risk capital is best provided by smaller institutions in close touch with investors, not the banks to which we entrust our savings. Funny, isn’t it, how even one’s errors confirm the power of one’s ideas?
Bank Titan BofA In Turmoil as Revival Is Elusive
by Dan Fitzpatrick - Wall Street Journal
A failure to stem nagging problems dating from the financial crisis is roiling the executive suite of the nation's biggest bank. On Friday, Bank of America Corp. Chief Executive Brian Moynihan abruptly shook up his management team and accelerated a planned exit of Chief Financial Officer Chuck Noski, who spent less than a year on the job. The move came as the bank announced a 36% drop in first-quarter earnings, reinforcing Bank of America's status as a laggard among major U.S. banks.
Mr. Moynihan, who has been on the job for just over a year, also hired a former top Securities and Exchange Commission lawyer, Gary Lynch, who is well regarded on Wall Street, to become the chief of legal, compliance and regulatory relations. In recent months, Bank of America has emerged as the weakest of the nation's big financial institutions. The 51-year-old Mr. Moynihan has been unable to put losses from bad mortgage lending behind it as the bank also struggles with new regulations and revenue losses caused in part by decisions he made before becoming CEO.
Other banks have dealt more successfully with the fallout from the financial crisis, and several passed government stress tests that allowed them to begin paying dividends again, a sign that federal regulators believe they are back in strong shape. But Bank of America effectively failed the stress test, leading Mr. Moynihan to make a surprise announcement that the U.S. had nixed the bank's request to boost dividend payments in the second half of the year.
Mr. Moynihan responded Friday in part by shaking up top management. Since December, Mr. Moynihan and Mr. Noski had been discussing a new role for the CFO, possibly to be announced as soon as Friday. But on Monday, Mr. Moynihan suddenly told Mr. Noski that he wanted to announce his transition to a vice chairman role in a matter of days, said a person familiar with the situation.
The bank's problems are evident in its quarterly earnings, released Friday. Profits dropped 36% and revenue fell 16%, just two days after rival J.P. Morgan Chase posted a 67% gain in profit. In the past year, shares of Bank of America have fallen more than 30%. The rest of the industry, according to the KBW Bank Index, has dropped 10%. Citigroup Inc., which had a brush with failure and required multiple bailouts, dropped roughly 10% in the past year. Bank of America's stock slipped another 2.3% Friday, a sharper drop than its rivals.
The challenges for Bank of America have put Mr. Moynihan in the hot seat. The sudden CFO shift is one of several recent decisions that have caused anxiety inside the bank. "All strong leaders have critics, but in a short period of time Brian has aligned the management team and the company around a clear forward-looking strategy that will pay off over time," said Bank of America spokesman James Mahoney.
At the end of 2009, when Mr. Moynihan was still running the consumer bank, he decided to forgo fees the bank collected on overdraft protection in advance of new regulations that required banks to offer the service only to customers who opt in. Other big banks never canceled their profitable overdraft program, and Bank of America expects to forfeit billions in the future. Some executives are still grumbling over the move. "We're out there hanging by ourselves," said one bank official.
Similar gripes surfaced when the bank, which like peers had asked to boost dividend payments to attract shareholders, was denied permission by the Federal Reserve. Mr. Moynihan had been hinting in recent months that a dividend increase was likely. The problem was amplified when Mr. Moynihan and other top executives left Mr. Noski out of the loop on a decision to disclose the rejection in a document filed with the U.S. Securities and Exchange Commission. Internal auditors are reviewing how Mr. Moynihan and his team handled that situation, and they are expected to recommend procedural changes. The bank has said the exclusion wasn't deliberate.
Mr. Moynihan still enjoys the support of his board. But some directors were unhappy about how the dividend disclosure was handled, said people familiar with the matter. They want Mr. Moynihan to improve his decision-making procedures and install people with experience and good judgment in key roles, these people said. The current troubles at the bank mask some underlying strengths. Its investment bank and trading operations, largely inherited with the 2009 acquisition of securities firm Merrill Lynch & Co., accounted for $2.1 billion of profit in the first quarter.
There is also good news in its consumer and credit-card franchise. Deposits were up, and account closures were down. Declining loan losses allowed the bank to release $2.2 billion in funds set aside to cover troubled loans. Overall the bank earned $2.05 billion, or 17 cents a share. That's down from $3.18 billion, or 28 cents, a year earlier. "It pays to hold your nose and be patient," said David Katz, president and chief investment officer of Matrix Asset Advisors Inc., which owns 1.5 million shares of Bank of America. The bank's attempted comeback has been "longer and cloudier" than its rivals, but he says its sprawling business positions it well.
Dragging on its profits is California lender Countrywide Financial Corp., acquired by Mr. Moynihan's predecessor in 2008. Of all the problematic acquisitions in the financial industry, few have caused their buyers as much trouble. The $4 billion deal ballooned the bank's mortgage portfolio just as the housing market crashed. More than 85% of its 1.3 million mortgage customers from Countrywide are now at least 60 days behind on payments.
Mr. Moynihan has tapped a trusted ally of two decades, Terry Laughlin, to get through those problems and serve as point man on talks with angry bondholders and public officials who want the bank to pay for past errors. The bank announced some progress Friday, with a $1.6 billion settlement with Assured Guaranty to resolve the insurer's repurchase claims.
US county can sue JP Morgan over bond deals
by Nicole Bullock - Financial Times
The Supreme Court of the state of Alabama ruled on Friday that Jefferson County can sue JPMorgan and two former employees for fraud over debt arranged to revamp the local sewers, according to court documents. Jefferson County borrowed $3.2bn of debt and derivatives that soured during the financial crisis, sent borrowing costs soaring and left the county on the brink of what could be the largest municipal bankruptcy in the US.
The home to the city of Birmingham and 665,000 people has been widely watched as an example of borrowing excess and corruption in the $3,000bn municipal bond market where states, cities and other local bodies raise money. The county’s lawsuit, which was filed in 2009, seeks to recoup damages from the bank as well as Charles LeCroy and Douglas MacFaddin, two former managing directors, for allegedly transforming the county’s obligations into risky debt and inflating their fees in part because of “bribes, kickbacks and pay-offs”. JP Morgan and the individuals sought to have the case dismissed.
In 2009, JPMorgan Chase settled a civil suit with the Securities and Exchange Commission related to allegations that the bank and the former bankers paid the friends of political officials to win municipal financing business in Alabama. Without admitting or denying the SEC’s allegations, JPMorgan agreed to pay $50m to Jefferson County to assist displaced workers, and a $25m penalty to compensate harmed investors. The bank also forfeited claims it is owed more than $647m in fees by the county.
JPMorgan execs knew about Madoff, suit says
by Aaron Smith - CNNMoney
The federal bankruptcy court judge presiding over the Bernard Madoff case has revealed the JPMorgan Chase employees who allegedly suspected they were doing business with a Ponzi schemer. JPMorgan employees John Hogan and Matt Zames suspected that Madoff was operating a scam long before his December 2008 arrest, according to a lawsuit filed by Irving Picard, the trustee appointed by U.S. Bankruptcy Court in the Southern District of New York.
The updated document opens with this quote, which is attributed to Hogan, chief risk officer for JPMorgan: "For whatever it['s] worth, I am sitting at lunch with Matt Zames who just told me that there is a well-known cloud over the head of Madoff and that his returns are speculated to be part of a [P]onzi scheme."
Hogan allegedly made this statement in June 2007, according to the documents. That's about a year and a half before Madoff was arrested for orchestrating the largest, longest-running pyramid scheme in history. Madoff pleaded guilty in 2009 and is currently serving a 150-year sentence at a federal prison in North Carolina. Hogan and Zames, a senior member of the firm, still work at JPMorgan, according to company spokesman Joe Evangelisti, who called any assertions that the executives or JPMorgan knew about the fraud "patently false."
"We are confident that we have strong defenses to the claims brought by the Madoff trustee and look forward to asserting those defenses in court," Evangelisti said in an e-mail statement. CNNMoney initially reported the Hogan quote back in February, but with the names omitted. On Thursday, the court publicized the updated documents identifying Hogan and Zames.
The release of the names is the result of an April 12 order from U.S. Bankruptcy Court Judge Burton Lifland to reveal the formerly redacted names of employees of financial firms in lawsuits related to Madoff. These firms include Citibank, which was sued for $425 million in December, as well as Tremont Group Holdings and Reliance International Research.
The trustee sued JPMorgan in December for $6.4 billion and accused the firm of profiting off Madoff's scheme. That includes nearly $1 billion in "fees and profits" and $5.4 billion in damages, according to the lawsuit, which accused JPMorgan of having a "decades-long role as [Madoff's] primary banker, aiding and abetting Madoff's fraud." The trustee has also sued HSBC for $9 billion and UBS for $2 billion.
The trustee has sued many others for allegedly profiting off the scheme, including the former chief counsel for the Securities and Exchange Commission, members of the Madoff family and the owners of the New York Mets. These investors are accused of withdrawing more from Madoff's firm than they put in, though they deny that they knowingly participated in a Ponzi scheme.
Picard considers the ultimate Madoff beneficiary to be Jeffry Picower, who died of a heart attack in 2009. Since the 1970s, Picower had invested $619 million with Madoff's firm but withdrew $7.8 billion. Picower's widow Barbara settled with the trustee and federal authorities in December, when she agreed to hand over the difference of about $7.2 billion.
This money will eventually be transferred to investors who the trustee has determined to be victims of Madoff's Ponzi scheme. The trustee said in March that he was preparing to return $2.6 billion to victims. But the rest of the funds are held up by appeals from other investors who were rejected by the trustee for profiting off the Ponzi scheme, even though they claim they didn't know it was a scam.
Picard has said that Madoff stole about $20 billion, though the lawsuits against firms and individuals accused of profiting or taking part in the scheme amount to about $100 billion. At least half of the stolen money has been recovered, much of it through the forfeiture of assets, including Madoff's Manhattan penthouse, homes in Florida and France, and his yacht. Of the 16,518 investors who filed claims with the trustee as Madoff victims, the trustee has determined that only 2,410 are "allowed," meaning that they are eligible for compensation. These victims are eligible for about $6.8 billion in total compensation, including the $793 million that they already received from the Securities Investor Protection Corp., an organization that provides protection for investors.
Well Aware Of Bubble, WaMu Boosted Bad Loans
by Chris Kirkham - Huffington Post
Top executives at Washington Mutual actively boosted sales of high-risk, toxic mortgages in the two years prior to the bank's collapse in 2008, according to emails published in a wide-ranging Senate report that contradicts previous public testimony about the meltdown. The voluminous, 639-page report on the financial crisis from the Senate Permanent Subcommittee on Investigations singles out Washington Mutual for its decision to champion its subprime lending business, even as executives privately acknowledged that a housing bubble was about to burst.
"I have never seen such a high-risk housing market," CEO Kerry Killinger wrote in a 2005 email to his chief risk officer. "This typically signifies a bubble." Nonetheless, in a series of memos over the next two years, Killinger told board members that the bank should accelerate its subprime portfolio as part of a major growth strategy. The internal memos detailed in the report are a stark contrast to Killinger's testimony last year before the same Senate subcommittee, where he said that by 2004 the company "quickly determined that the housing market was increasing in its risk, and we put most of those strategies for expansion on hold."
The report finds Washington Mutual continued its aggressive foray into high-risk lending because of the "gain on sale." When repackaged and sold to investment banks as securities, higher-risk loans would yield more profits for the bank. One chart presented to the bank's board in 2006 showed that selling subprime loans could generate eight times as much profit as lower-risk, government-backed loans.
One of the largest and most aggressive issuers of subprime mortgages in the country, Washington Mutual eventually collapsed in September 2008 -- the largest bank failure in U.S. history. It was eventually purchased by J.P. Morgan Chase as part of a deal brokered by the Federal Deposit Insurance Corporation. The FDIC last month sued Killinger and two other top executives at Washington Mutual, accusing them of reckless management of the company and seeking damages in the millions. An attorney for Killinger did not respond to an e-mail seeking comment.
The report issued by Sen. Carl Levin (D-Mich.), chairman of the subcommittee on investigations, also excoriated the Office of Thrift Supervision, the government body tasked with regulating Washington Mutual and numerous other failed lenders that aggressively pushed shoddy loans. "Over a five-year period from 2004 to 2008, the (Office of Thrift Supervision) identified over 500 serious deficiencies at WaMu, yet failed to take action to force the bank to improve its lending operations," the report noted.
In several cases, the office impeded investigations by the backup regulator, the FDIC. In one case, in 2006, numerous banking regulators had determined that adjustable-rate mortgages, which had upfront low monthly payments that eventually increased dramatically, were at major risk for default. Regulators issued new guidance to banks, saying they needed to consider the higher interest rates -- not the initial "teaser" rates -- before approving borrowers for loans.
But a summary of a meeting between Washington Mutual officials and regulators showed that the Office of Thrift Supervision viewed the rules as "flexible," and emphasized "should" instead of "must."
By late 2006, the FDIC discovered that Washington Mutual was not complying with the new standards, but the Office of Thrift Supervision blocked any further FDIC review, refusing to give access to loan files.
Using the delay to its advantage, the bank continued to issue billions of dollars of high-risk loans. A 2007 e-mail from Ron Cathcart, the bank's chief enterprise risk officer, implied that the delay was strategic: new requirements for income verification would cut the volume of new adjustable-rate mortgages by a third. "When WaMu failed in 2008, it was not a case of hidden problems coming to light," the report concludes. "The bank's examiners were well aware of and had documented the bank's high risk, poor quality loans and deficient lending practices."
Fiat Justitia Ruat Caelum (Let Justice be Done, Though the Heavens Fall)
by Bill Black - Naked Capitalism
It is one of the paradoxes of life that the most practical means to ensure that the system does not collapse is to insist on justice for all and to ignore demands for special treatment premised on claims that justice places the system at grave risk of collapse. Nietzsche argued that the ubermensch (generally translated as "Superman") transcended the normal rules.
The elites claim impunity from normal rules on the basis of their purported superiority and because they claim that they are so important that applying the normal rules to them will harm society. Some pigs are more equal than others. What any competent financial regulator learns is that the best way to destroy a financial system is to refuse to hold the elites accountable. Regulators that insist on doing justice prevent the heavens from falling.
Gretchen Morgenson and Louise Story authored a column addressing one of our national scandals – the elite banking frauds who caused the Great Recession through their looting have done so with impunity. Not a single one of them has been convicted. This is the hallmark of crony capitalism.
Gretchen and Louise’s reporting exposed for the first time two underlying scandals that produced the overall scandal. In 2008, the FBI, belatedly, realized that it had improperly targeted relatively trivial mortgage frauds while ignoring the massive lenders that specialized in making fraudulent mortgages. The FBI developed a plan to reorient its resources towards the "accounting control frauds" that always should have been its priority. We now know that the Department of Justice (DoJ) deliberately, and successfully, sabotaged this effort to investigate the major frauds. We need additional investigative reporting to discover why DoJ did so.
The second underlying scandal that their column disclosed is that two key members of what Tom Frank aptly termed Bush’s "Wrecking Crew" – Geithner and Bernanke – who President Obama chose to promote and reappoint and make his anti-regulatory leaders sought to discourage or limit federal and state prosecutions, enforcement actions, and suits. Geithner’s express rationale was that the financial system extreme fragility made vigorous investigations of the elite frauds too dangerous.
Here is how I responded to Kai Ryssdal, Marketplace’s business journalist, who asked about Geithner’s rationale:Ryssdal: What about the argument, though, that the financial system is so fragile still, and these cases so complicated, that we can’t really tear things apart with substantive investigations and prosecutions because it will all fall apart again?
Black: Yeah, that’s an excellent point. We should leave felons in charge of our largest financial institutions as a means of achieving financial stability.
Ryssdal: See, that’s funny because I was expecting you to come back with — I don’t know, JPMorgan earned $5 billion last quarter. How shaky can they be?
In retrospect, that interchange should have been a warning to me – Ryssdal actually thought Geithner’s position favoring immunity for elite felons was acceptable when financial conditions are "shaky." Sure enough, Matthew Yglesias wrote a column on April 14, 2011 embracing the Geithner immunity doctrine. He titled it: "The Fraud Free Financial Crisis" – and it proves our family rule that it is impossible to compete with unintentional self-parody.
Here is Yglesias’ position:[T]he key sentiment underlying the whole thing is that the Obama administration felt it was important to restabilize the global financial system. That meant, at the margin, shying away from anxiety-producing fraud prosecutions. And faced with a logistically difficult task, that kind of pressure at the margin seems to have made a huge difference. There simply was no appetite for the kind of intensive work that would have been necessary.
I’m not as persuaded as, say, Jamie Galbraith is that the failure to do this is a key causal element in our economic problems. Indeed, I’d say that if you look at the situation literally, Tim Geithner’s judgment was probably correct.
Yglesias believes that "Geithner’s judgment was probably correct" because investigating the accounting control frauds that caused the economic crisis would have been "anxiety-producing." Geithner’s overriding goal was to "restabilize the global financial system," so he was correct to discourage the fraud investigations of the elite bankers. Yglesias obviously believes that Geithner "restabilize[d] the global financial system."
I’ve noted the brief answer that I gave on Marketplace. Here’s the expanded answer. This was not a "fraud free financial crisis." It is a prosecution free financial crisis for the elites whose frauds caused the crisis. Historically, "control frauds" – frauds run by the senior officers who control seemingly legitimate banks and use them as "weapons" to defraud creditors and shareholders – drive serious financial crises. That was true of our two most recent financial scandals.
The national commission investigating the causes of the S&L debacle found that at the typical large failure "fraud was invariably present." The major Enron era frauds were all control frauds. This current crisis was driven by accounting control frauds. We have known, for well over a century, how to make home loans in a manner that limits fraud to negligible levels. We have known for centuries that if bankers do not underwrite the inevitable results are massive losses, endemic fraud, and failure. Honest mortgage lenders do not make liar’s loans. No one ever forced a banker to make liar’s loans. Only fraudulent mortgage lenders make material numbers of liar’s loans. My prior columns have explained that it was the lenders that overwhelmingly put the lies in liar’s loans.
The FBI warned in House testimony in September 2004 that there was an "epidemic" of mortgage fraud and predicted that it would cause a "financial crisis" if it were not stopped. It was not contained. Everyone agrees that the mortgage fraud epidemic expanded massively after the FBI warning. Here’s the four-part "recipe" for a fraudulent lender optimizing fictional accounting income and real losses:1. Grow massively
2. By making awful loans at a premium yield
3. While employing extreme leverage, and
4. Providing only grossly inadequate loss reserves
Deregulation and desupervision are more extreme in some industries and regions and certain assets provide superior "ammunition" for accounting fraud. If entry is relatively easy (and it was ridiculously easy for mortgage banking and loan brokers), then accounting control frauds will cluster in particular asset categories, industries, and regions. Clustering, extreme growth, and the fact that accounting control frauds rapidly increase their lending even when they know that they are lending into the teeth of a massive bubble are all factors that make accounting control fraud epidemics uniquely dangerous devices for hyper-inflating financial bubbles.
All other factors being held constant, the more a bubble hyper-inflates the greater the economic inefficiency and losses and the greater the risk that it will cause a severe recession. The second ingredient in the fraud recipe – lending to borrowers who will often be unable to repay their loans – also plays a major role in causing bubbles to hyper-inflate. There are tens of millions of Americans who cannot afford to purchase homes and therefore are normally unable to obtain loans to purchase homes. When accounting control frauds lend to the uncreditworthy they make it possible for millions of additional Americans to purchase homes – but not to repay their loans. In economics jargon, this shifts the demand curve to the right. Shifting the demand curve for housing to the right will increase the price of housing and hyper-inflate the bubble.
How much of the bubble was driven by the accounting control fraud? We don’t know the precise amount. Data on the frequency of liar’s loans are uncertain. The three major categories of home loans: prime, subprime, and "alt-a" (aka: "stated income" or "liar’s loans) had no formal definition and no standard reporting. The loan categories are not mutually exclusive. The best information we have is that by 2006 one-half of subprime loans were also liar’s loans. The most reliable estimates of the total number of liar’s loans made in 2006 are that they represent between 25 and 49% of home loans. That is a disturbingly wide range of estimates.
Even the lower bound estimate represents over a million loans. Independent studies of the incidence of fraud in liar’s loans run from 80 – 100%. That means that the annual number of mortgage frauds arising from liar’s loans alone is likely to be roughly one million. (Extrapolating the likely number of frauds from the number of criminal referrals leads to a similar estimate of the annual number of mortgage frauds.)
Expanding the number of home purchasers by loaning to those who would often prove unable to repay their home loans caused a major right shift in the demand curve – providing somewhere between 25 and 50% of the total home purchasers in 2006. Losses do not increase in a linear fashion when a bubble hyper-inflates. A 25% increase in the bubble could produce a 100% increase in the ultimate losses. We do not know how rapid the rise in losses will be when a bubble hyper-inflates, but our experience with the collapse of massive bubbles is generally dire.
We could have far better data if the administration heeded our requests that we sample the Fed’s and Fannie and Freddie’s massive holdings of mortgage instruments to determine the facts. Instead, the FDIC and OTS have created a "data base" of mortgages that is worse than useless. It treats prime, subprime, and alt-a as mutually exclusive categories and defines alt-a not by the lack of underwriting but rather by FICO score. Both of these practices are not only obviously wrong, but indefensibly wrong. These errors will irretrievably cripple meaningful research and fact-based policies if senior FDIC officials fail to intervene.
These facts about the current crisis and prior crises led prominent economists such as George Akerlof (Nobel Prize, 2001), Paul Romer, and James Galbraith to warn that accounting control fraud epidemics posed critical dangers to our economy. Yglesias, who is not writing in an area in which he has any experience or expertise, offers a bare conclusion – he’s "not persuaded" by the economists, criminologists, or regulators who have made a specific study of the causes of the crises. He apparently believes that the FBI’s prescient 2004 warning that the fraud epidemic would cause a financial crisis was fanciful – even though it proved correct.
Among the factors that Yglesias fails to consider is the first rule of investigating accounting control fraud – if you don’t look; you don’t find. The people that look have to understand accounting fraud mechanisms and they have to work intensively with serious commitments of expert personnel. Geithner blocked the investigations. It is clear from the FBI’s own numbers that it never provided remotely adequate staff to conduct a serious investigation of any major failed bank. We know that there were no serious investigations by the regulatory agencies. Contrast that with the S&L debacle where our regulatory investigations led the agency to make well over 10,000 criminal referrals.
It’s easy to be "not persuaded" when no one is investigating and making public the persuasive facts. We’ve had to rely on a Senate committee and the Financial Crisis Inquiry Commission to do a literal handful of investigations because the banking regulatory agencies (1) had their budgets and staff’s shredded and (2) were led by anti-regulators who ended the entire criminal referral process and institutions that we built up despite their proven success. It is bizarre that Yglesias uses the paucity of publicly available data – caused by the anti-regulators’ refusal to conduct meaningful investigations and make criminal referrals – to justify his skepticism that bankers who wear nice suits could be criminals.
Liar’s loans are not "complicated." The huge commercial real estate (CRE) loans that were the dominant "ammunition" used for accounting fraud during the S&L debacle were very complicated. We were able to get over one thousand felony convictions in "major" S&L cases (with a conviction rate of over 90%) despite the complexity of CRE deals. I end on the fundamental problems with Geithner’s immunity doctrine and Yglesias’ support for it. The policy represents the intersection of the curves of injustice and stupidity at their respective maxima. Those curves have intersected to produce Secretary Geithner’s policy of protecting from prosecution the elite C-suite criminals who caused the financial crisis and the Great Recession.
It is stupidity of truly epic proportions to leave felons in charge of banks. Doing so cannot stabilize a financial system – it is certain to cause recurrent, intensifying crises. When I was a regulator during a financial crisis our agency’s top priority was to prevent frauds from controlling S&Ls. Our second priority was to support the prosecution of those fraudulent leaders.
The injustice of Geithner’s "elite frauds go free" doctrine is every bit as extreme as the stupidity of believing that giving fraudulent CEOs de facto immunity is the road to financial stability. It is a travesty that I have to defend the importance of integrity and justice. No nation can be great if it allows its elites to loot with impunity and prosecutes its whistleblowers. Geithner is destroying the things that made America great. He did so as part of Bush’s wrecking crew and he is doing so now as part of Obama’s wrecking crew.
Geithner’s "elite frauds go free" plan is not new. Speaker Wright demanded that my colleagues and I go easy on fraudulent Texas S&Ls to save the Texas economy (which the S&L frauds were savaging – but he assumed they were salvaging). The five senators that became known as the "Keating Five" told us that Lincoln Savings was critical to the health of Arizona’s economy. In reality, it was the worst threat to Arizona’s economy. One of my agency’s presidential appointees, Bank Board member Roger Martin, argued that if Keating was a fraud and had made Lincoln Savings insolvent by looting the S&L it was all the more important to keep him in charge so that he could use his exceptional political power to get zoning changes that would reduce losses.
He opposed any closures of insolvent, fraudulent Arizona S&Ls on the grounds that the Arizona economy was fragile. Here’s the difference. We, the professional regulators, explained in excruciating detail why leaving frauds in charge of S&Ls would massively increase losses and harm regional economies. Only one of the three Board members (Larry White) listened to us – the other two (Martin and Bank Board Chairman Danny Wall) took the unprecedented action of removing our jurisdiction over Lincoln Savings because we refused to withdraw our recommendation that it be promptly taken over and Keating removed.
We told the Keating Five to their faces that they were intervening on behalf of a fraud. Even before Wall and Martin removed our jurisdiction over Lincoln Savings they expressly ordered us to cease our examination of Lincoln Savings, to cancel the upcoming examination (nominally, they ordered us to postpone it indefinitely), and ordered that the formal investigation of Lincoln Savings (which had produced the admissions of fraud) be terminated (nominally, suspended).
The result was that Lincoln Savings became the worst S&L failure. Losses increased substantially after our examination, investigation, and supervision of Lincoln Savings were halted. All of this became a national scandal when House banking chairman, Henry B. Gonzalez, over the opposition of the Democratic leadership, conducted a series of intense oversight hearings that exposed the Bank Board’s capitulation to the political extortion of the Keating Five and Speaker Wright. Danny Wall resigned in disgrace as a result of those hearings.
For those readers who doubt that regulators can ever be trusted let me note several facts about the Keating Five meeting (which occurred 24 years and one week ago). Four of the Senators were Democrats, one was a Republican. Speaker Wright was a Democrat. Four of us from the Federal Home Loan Bank of San Francisco met with the Keating Five. To this day, I have no idea what the political affiliations, if any, of my colleagues were. It was irrelevant to us. We detested the frauds and their political allies. Our job was to protect the public. We were constantly abused, sued for hundreds of millions of dollars, investigated, and threatened with being fired. We prioritized the most elite, most destructive frauds for removal from the industry, enforcement actions, civil suits, and prosecutions. We persevered.
In 1990-91, as the nation entered a recession, and the banking agencies were accused of preventing the recovery of the fragile economy through excessively strict regulation, suits, and prosecutions we ignored those accusations and used normal supervisory means to end a developing wave of nonprime lending by California S&Ls. Our supervision prevented any nonprime crisis in that era. Indeed, we were so effective that the fraudulent S&L leaders of that era "voted with their feet" and left the S&L industry to escape our supervision.
For example, the most notorious nonprime lender of that period, Roland Arnall, the head of Long Beach Savings, gave up his federal charter and created a mortgage banking firm (Ameriquest) so that he would not be subject to our supervision. One of his primary mortgage banking competitors was controlled by a married couple we removed and prohibited from a California S&L they controlled.
Competent financial regulators understand that good ethics makes for good regulation. As soon as you depart from the justice and integrity and attempt to save elite bankers from "anxiety" you become a grave threat to the public. I have no hopes about Geithner. What distresses me is Yglesias’ casual willingness to give up on justice because Geithner believed it might cause "anxiety" among his cronies. Justice must not occupy a very high position in either man’s values if they are so willing to abandon it.
Powerful bankers commonly press regulators to abandon justice as soon as we find that they have violated the law. These pleas are far more common than threats, and they are more insidious because they are far more likely than threats to be effective. A regulator who gives in to the plea can feel great – he saved the entire system. A regulator that gives in to a threat knows that he has violated his duty and exhibited cowardice.
Yglesias substitutes faux violence for integrity in his vision of how to respond to the massive frauds that caused the Great Recession and cost 10 million Americans their jobs. He muses about the desirability of Nancy Pelosi slapping a bank CEO. His every instinct is wrong. He trivializes the crimes and the concepts of justice and accountability. The web has the opposite extreme – jokes about executing the senior bank frauds. This is the not a mindset of effective regulators or white-collar criminologists. My boss, Michael Patriarca, famously directed us to "cut square corners" in all our dealings with Lincoln Savings even though we knew it be a fraudulent operation engaged in the vilest of tactics against us and the public. Justice, not punishment, is the key.
Effective regulators are the cops on the beat who are essential to defeating the Gresham’s dynamic that arises when frauds gain a competitive advantage. As regulators, we know and deal regularly with a large number of honest bankers. When we leave criminals in place as CEOs by discouraging even investigations of their fraud we endanger their honest competitors, our economy, and our democratic system. Geithner’s path is the coward’s retreat from imagined fears. If he really believes that the fraudulent bank CEOs are essential to the "success" of our economy then he must believe that our economy is fatally flawed and he should be leading the charge to radically transform it.
[Please note: my phrase about the intersection of the curves is a variant of Charles Black’s famous denunciation of a dishonest, racist statement in the infamous Supreme Court opinion in Plessy v. Ferguson upholding the constitutionality of racial segregation: "The curves of callousness and stupidity intersect at their respective maxima." I am surprised that Paul Krugman has not used Charles Black’s classic phrase (or a variant such as "callousness and mendacity") to describe Representative Ryan’s budget plan.]
IMF clashes with Britain over refusal to back eurozone bailout
by Phillip Inman - Observer
The International Monetary Fund (IMF) is on a collision course with chancellor George Osborne and Bank of England governor Mervyn King after the Washington-based agency voiced concern over Britain's refusal to support a funding package to tackle the eurozone crisis.
Dominique Strauss-Kahn, the head of the IMF, said Europe needed to come up with a more coherent plan to deal with government debt following the bailouts of Ireland and Greece. He criticised piecemeal attempts to resolve individual countries' debt problems, which critics believe leads to instability and undermines investor confidence in Europe. The likelihood of prolonged negotiations over a Portuguese bailout deal was another instance of the need for an overarching mechanism to deal with all EU countries should they get into trouble, Strauss-Kahn told the IMF's spring conference.
However, Osborne has made it clear that he believes resolving the debt problems of eurozone countries is a matter for the eurozone and not for the broader EU, which includes nations with their own currencies. The UK is expected to participate in raising €85bn-€90bn (£52bn-£55bn) to support Portugal, but Osborne has told France and Germany there will be no more cash from the UK for eurozone bailouts after the Portugal deal.
The chancellor would like to go further and repeal article 122 of the Treaty of Lisbon, which has been used to corral EU member states to bail out Ireland and Greece. The treaty says: "Where a member state is in difficulties or is seriously threatened with difficulties caused by natural disasters or exceptional occurrences beyond its control, the council, on a proposal from the commission, may grant, under certain conditions, union financial assistance to the member state concerned."
A move to amend the article is seen as essential if Britain is to avoid taking part in further bailouts. It is understood the Bank of England also views the debt problems of eurozone members as a matter for countries within the euro area.
Strauss-Kahn said that a "European deal" needs to be in place because "the piecemeal approach is not working". And Olivier Blanchard, the IMF's chief economist, said the European debt crisis was one of the most crucial issues holding back the world economy and preventing the restoration of confidence: "How Europe is going to get out of a hole is a very big issue."
The IMF is understood to want Brussels to coordinate a long-term strategy with funding facilities that indebted countries can access without the need for further negotiations. Eurozone leaders have agreed to put in place a €500bn European Stability Mechanism (ESM), but the scheme will not be ready until 2013 and relies on France and Germany as lead underwriters of the fund.
IMF officials fear that without a speedier resolution and the participation of Britain and other richer EU nations outside the eurozone, in particular Sweden and Denmark, the investor spotlight will fall on other heavily indebted countries such as Italy, Belgium, Spain and Hungary. Italy has a debt to GDP ratio of 110%, while Belgium's debts have reached 98% of GDP. Spain and Hungary have lower total debts, but remain in recession and investors are concerned these countries will find it difficult to grow and create jobs while implementing unprecedented spending cuts.
If any of these countries gets into trouble, several investor institutions have argued that the current funding mechanisms will be unable to cope, triggering another sovereign debt crisis. Earlier this month EU finance ministers, including Osborne, met in Hungary to discuss the terms of Portugal's bailout package. Osborne ruled out offering direct bilateral loans to Lisbon, but is expected to participate in an EU-wide funding package and a large slice of funding via the IMF.
The IMF has part-funded the Greek and Irish bailouts. It has become increasingly frustrated at the hardline attitude of Berlin and London to the support, which has only been offered at high interest rates and with terms that demand dramatic cuts in spending and higher taxes. The IMF recently loosened the terms of Greece's IMF loans after attempts to recoup lost taxes from the country's wealthy businesspeople failed.
Strauss-Kahn said he was anxious that weakening growth and high youth unemployment would lead to social unrest. The IMF cut its 2011 forecast for Irish GDP growth to 0.5% from 0.9% and said unemployment would hit 14.5%, from the 13.5% anticipated previously. Despite the gloomy prognosis, he said he was confident Greece and Ireland would meet their debt obligations and begin to recover, but concern remained over the protection offered by the EU for future crises.
Ireland was downgraded last week by ratings agency Moody's, which said Dublin's recovery plans were still in doubt. Moody's cited Ireland's weaker growth prospects when it cut the country's rating by two notches to the verge of junk status and kept its outlook on negative, meaning the next move could also be down. Osborne said Spain showed that eurozone countries were capable of regaining investor trust without further support from EU countries. He praised the socialist government of José Luis Rodríguez Zapatero for restoring investor trust in the country after months of speculation that it would follow Portugal in needing a bailout.
The Real Deficits of Nassau County
by Susan Berfield - BusinessWeek
The Long Island county is wealthy, heavily taxed, and financially unhinged all at once. How one of the richest communities in the U.S. went broke
Nassau is among the nation's wealthiest counties—and the richest in New York—as measured by per capita income. It has 1.3 million residents and a median household income of nearly $95,000. There are 37 private golf courses. It's the kind of place where a home might be listed for $25 million and described as "inspired by Marie Antoinette's Le Petit Trianon." Even the Garden City Water Works is housed in an elegant, medieval-looking brick building from the 1870s.
It is a generous place, too, and the salaries of its town and county workers reflect its good fortune. Two school superintendents are the best paid in the state, earning about $380,000 each. Starting salaries for public librarians are as high as $63,000. A county policeman with eight years of service earns a base salary of $108,000. The 2011 budget for the Hempstead animal shelter includes $3.25 million in salaries for 38 employees.
Not surprisingly, it is an expensive place to live. Property taxes are close to $9,000 on average, the second highest in the U.S. after New York's Westchester County. It is also broke.
On Jan. 26 the six members of the Nassau County Interim Finance Authority, or NIFA, a nonpartisan state-appointed commission, announced that, for the second time in a decade, it would take control of the county's finances. Nassau's elected officials, led by County Executive Edward P. Mangano, had insisted that everything would be just fine. "The more he did that, the more he showed people he doesn't have a grip," says E.J. McMahon, a senior fellow at the Manhattan Institute's Empire Center, a fiscally conservative think tank. "There's been too much smoke and mirrors," says George J. Marlin, a NIFA director. "The day of reckoning has finally arrived."
Nassau has its peculiarities, including a confounding tax refund system that has left it more than a billion dollars in debt. But its real deficits are easy to understand. "Nassau is an extreme example of our national problem. We want to have things and we don't want to pay for them," says Robert B. Ward, deputy director of the Rockefeller Institute of Government. Nassau isn't the first rich community to get into financial trouble, and it won't be the last. Which means that there could be other NIFAs, too—outside advisers brought in to help fix what local politicians can't or won't. "The message is: 'Watch out, this is the way it works,' " says McMahon.
In Nassau, the man elected to lead the county toward recovery has argued for the past seven months that the only problem is NIFA. "The deficit is in their minds, not in reality," he says. That puts Mangano, 49, in the unusual position of having to figure out how to close a $176 million gap he doesn't think exists. A native son, Mangano is accustomed to the contradictions of public life in Nassau. He graduated from Hofstra, a local university; owned a small printing business; and worked as an attorney for the firm Rivkin Radler, one of the largest on Long Island. He lives ten miles from where he was born.
After 14 years as the Republican legislator for the district that includes his hometown, Bethpage, he narrowly and unexpectedly won the election for county executive in November 2009. His campaign centered on one promise: He wouldn't raise taxes. That earned him the backing of Nassau County's small but energetic Tea Party and helped him unseat two-term incumbent Democrat Tom Suozzi.
Mangano's office is on the second floor of the "Suozzoleum," which is what Republicans call the Theodore Roosevelt Executive and Legislative Building in Mineola, after Suozzi, who authorized and oversaw its $63 million, six-year renovation. It's a quiet, almost sterile place. Visited on a Friday afternoon in late February, just after control of the county's money was wrested from him, Mangano wears a sweat jacket and jeans. He's graying, burly, and didn't seem entirely at ease seated behind his large wooden desk. A copy of George Washington's Rules of Civility & Decent Behavior in Company and Conversation was perched on one corner. "I shouldn't have been so cooperative," he says of his dealings with NIFA. "It's a power grab intended to discredit and embarrass the administration, the Tea Party, and the Republican Party."
Mangano spent his first day in office cutting taxes, as he had promised. He repealed a $38 million home energy tax during his inaugural address and later revoked a planned 3.9 percent increase in the property tax, which would have generated about $32 million for the county. His actions worried NIFA directors enough that they sent him a certified letter on Jan. 5 asking how he was going to replace the money.
In September 2010, Mangano presented a $2.6 billion budget for the county. He called it not only balanced but the best budget Nassau had seen in years. When it passed the legislature at the end of October, he stated: "I am proud to say we have begun to fix the fiscal damage left behind by the prior administration and the collapsed economy. We have held the line on property taxes and will continue implementing common sense solutions to fix our county's finances for years to come." "I said, 'Mineola, we have a problem,'" says Ronald A. Stack, the chairman of NIFA. "The budget was not balanced. It was way out of whack."
The members of NIFA all have day jobs, and none are paid for their work with the commission. Of the six now on the board, four live in Nassau County and a fifth runs a law firm there. Stack has been part of NIFA since it was created in 2000—when the county almost went bankrupt and received a $100 million bailout from New York State. He was deputy chief of staff for New York Governor Hugh L. Carey when the state took over New York City's finances in the 1970s. After that he managed the public finance department at Lehman Brothers, and today he is a managing director at Wells Fargo.
George J. Marlin is the other public face of NIFA. In 1994 he was appointed executive director of the Port Authority of New York & New Jersey. Now he's chairman of Philadelphia Trust, a private bank. Marlin was co-chairman of Conservatives for Mangano during the election and joined NIFA five months after Mangano took office. He described the budget as being "built on a foundation of sand."
The budget contained a number of lines that appalled the board. First, it relied on borrowing to cover $100 million worth of property tax refunds. (In Nassau County, almost one-third of homeowners and nearly every business routinely challenge their tax bill.) It included optimistic estimates of sales tax revenue and aid from the state. It counted on improbable and controversial deals. Mangano wanted to cash in long-term leases. He said he'd bring in a minor league baseball team. He expected to win a new Shinnecock Indian Nation casino, which he thought could be built near Hofstra University. "My hope had always been that the county executive would see that he had an intractable problem and call us in," says Stack. "He could have been the leader."
Marlin says he told Mangano that he could either be like New York City Mayor Abe Beame or Mayor Ed Koch, who both ran the city when its financial situation was dire. "Koch chose to work with the control board and became a national hero," says Marlin. "Mayor Beame didn't. He is a forgotten man who was thrown out of office after one term."
Under the decade-old rules, once NIFA determines there is a likely and imminent budget deficit greater than 1 percent—or about $27 million in this case—it has to take over. After months of back and forth, NIFA still didn't think the budget was any closer to being balanced. The members' vote on Jan. 26 was unanimous. With that, Nassau County gained a new notoriety for its ability to be rich, heavily taxed, and financially unhinged all at the same time.
"NIFA is looking ahead and saying to Mangano, 'You're headed irreversibly down the wrong path, and you won't admit you're going there,'" says McMahon of the Empire Center. "Nassau is not bankrupt. But NIFA is saying that they will be if they keep this up."
"I kept giving NIFA solution after solution," Mangano says in his office, pounding the desk with his fist. "And your final solutions aren't as good as your first ones. When you get to the last thing it's like, 'I'm going to sell the carpet.' We gave them a list—many of those things we don't intend to do because we don't have to. And we're never going to raise taxes. Too bad, too sad if they don't like it." The county sued NIFA in New York State Supreme Court to regain control. On Mar. 14 a judge ruled in favor of the watchdog. Mangano had been in office for 15 months.
The solution seems clear: Someone must give up a lot or everyone must give up a little. But in Nassau County no one will budge. The Patrolmen's Benevolent Assn., the most powerful union in Nassau County, was supposed to provide Mangano with one of his solutions. He expected to extract $61 million from their contracts, a doubtful assumption.
"We say no," says James Carver, the president of the 1,700-member union. "We've already done our fair share." (Union members agreed to a small pay cut and some layoffs.) On an afternoon in early March, he's sitting at a conference table in a dimly lit, chilly room in the PBA's offices in Mineola. Carver, a forceful, quick-talking former cop, has invited two off-duty police officers (and precinct delegates) to join him. Lately their six-figure salaries and generous benefits have come in for criticism. Officers here make more than police anywhere else in the country, and word had just gotten out that a few long-serving captains took early retirement offers and walked away with packages of more than $500,000.
"We provide a high level of service. If someone calls 911 because they have a bee in their kitchen, we will respond," says Mike Schmitt, a 15-year veteran who started out as a cop in New York City. "People pay more for their cable bill than they do for police taxes," says Carver. "There's something wrong here." "There is a vocal minority who don't think we deserve what we get," acknowledges Carlos Rivera, who left a job at a pharmaceutical company to join the force six years ago.
"The vocal minority are those who aren't doing well," adds Schmitt. "When they were doing well, they didn't give a crap about our salaries." "They bail out Wall Street, they bail out the auto industry. Then they come to us and say we're the problem," Carver says of government officials around the country. "We're not the problem. What's happened is that people in the private sector are pissed off, and they turn to the public sector and say, 'The government didn't protect me. It shouldn't protect you.' That's the wrong attitude." The PBA, Carver says, will not compromise.
It is not just the cops who have done well in Nassau. Pretty much everyone on the public payroll has. For decades—until its last financial crisis in 1999—Nassau's Republican leadership operated a political machine so powerful that it rivaled Mayor Richard J. Daley's in Chicago. One result is layers and layers of bureaucracy. Patrick Nicolosi, a resident of Elmont who lost the race for a seat in the state assembly in 2010, has been agitating about this for years. "It's small government," he says, "but a lot of small governments make it a massive government." Nassau has a county executive and 19 legislators, two cities, three towns, and 64 incorporated villages that all have their own officials and budgets. (There are also more than 100 unincorporated areas.)
"Most people who moved out here in the 1960s and '70s made their money in the city. Nobody paid attention to the government while these thieves were creating jobs for themselves," says Nicolosi. "Now the political establishment points to the salaries of teachers and cops. Those dirty dogs: I need the cop. I need the teacher. I don't need as many of the guys on top. They blame the workers for our problems, but it's the system of patronage."
Patronage has defeated Mangano, too, it seems. In March 2010, he told Newsday: "A cornerstone of our administration is cutting patronage." In March of this year, the paper reported that when Mangano's brother, a longtime county employee, wanted a job with more responsibility, the Nassau town of Oyster Bay hired him as a deputy public works commissioner. He took a leave of absence from the county and now earns $100,881, about $15,000 more than before. In response, Mangano issued a statement: "My brother enjoyed ... years of service with the county until I arrived as his boss. I am thrilled to reduce my relationship with him to simply brothers." Mangano also says that he's cut $10 million in "patronage expenses."
Then there is a tax system so crazy and broken that the government is more than a billion dollars in debt from assessment adjustments. Here Mangano's efforts at reform have been foiled, too. In his first year in office, Newsday reported that his Bethpage home had been under-assessed. Mangano replied that he thought he was overtaxed. "It's an error-ridden system," he told Newsday. In October, Mangano fired the head of the assessment department; a veteran of the department temporarily holds the position.
Some 50 independent consultants, who work on contingency, encourage homeowners in Nassau County to "grieve" their taxes in a special small claims court. Legislators offer free sessions to help their constituents file tax appeals. Real estate agents advertise when a tax protest is under way on homes for sale. One hundred thousand of Nassau's 360,000 homeowners challenge their taxes every year. About half of them win some kind of reduction.
The really peculiar part is what comes next. The county itself only keeps about 17 percent of everyone's tax bill. Sixty-five percent of the property taxes go to the public schools, which operate independently, setting their own tax rates, budgets, and salaries.
When a home or business owner wins a refund, though, Nassau County has to pay it in full. In other words, the school collects the money, but the county pays it back. This "county guarantee" has been in place since 1948. It leaves the county in the hole for money it never laid claim to or intended to spend. No other county in New York has this burden. For years, Nassau has been issuing bonds to finance its tax refunds, about 80 percent of which goes to commercial property owners. The interest it pays on this now $1.3 billion debt is about $146 million a year. Mangano wanted to consider the borrowing, in its entirety, as revenue.
NIFA calls it a very expensive way of doing business. "Doom is the logical consequence of this borrowing," said attorney Christopher Gunther, arguing NIFA's case in court on Feb. 18.
Fred Perry is a lawyer who specializes in tax challenges. "Yes, we encourage people to file protests, but the problem is the assessments," says Perry. He's been urging the government to sort out the system so that there are fewer refunds. "They should put me out of business," he says. "It's such an absurdity that I can make a living helping homeowners reduce their property taxes. And it's a pretty good living. No one is claiming poverty in my field."
Do homeowners know Nassau is borrowing to pay their refunds? "Most taxpayers have no idea what to make of what's going on," Perry says. "All they know is that they have to pay their bill. They just say, 'Please work it out for me.' " In November the Nassau legislature voted to repeal the county guarantee as of 2013. "The system is not working," says Mangano. "You cannot take in 17¢ and pay out a dollar. That's insane!"
The vote is a hopeful turn, if it stands. The schools' message to Mangano, though, was: "Don't use the schoolhouse to fix your house." Forty-one school districts are suing to repeal the repeal, claiming the county doesn't have the right to shift this financial obligation onto them. Earlier challenges to the guarantee didn't get far. "School boards have an obligation to bring this litigation," Nassau-Suffolk School Boards Assn. President Jay L.T. Breakstone said in a statement. "Having failed in New York's court system ... the County of Nassau has decided to simply do what it wants to do anyway."
Mangano delivered his new budget to NIFA on Mar. 22, as required. It proposed, among other things, about 200 layoffs, 13 days of furlough for all county workers (including himself), the closing of a police precinct, and the elimination of more than half the county's bus routes. He proudly announced that he did not consider raising taxes.
Two days later, and at Mangano's urging, NIFA declared a fiscal emergency. This gave them the authority to do something that Mangano could not: go back on a contract that would have raised the pay for Nassau's 9,200 full-time and part-time employees, an agreement that would have cost the county about $10 million. "In current circumstances, labor costs—a category totaling nearly half of the county's expenditures—can hardly remain untouched, much less increased," NIFA stated. The wage freeze went into effect on Apr. 1.
Union leaders immediately attacked the freeze, the furloughs, and the very suggestion that they should give up anything. "You cannot leave footprints on the backs of our heads," says Jerry Laricchiuta, president of Nassau's Civil Service Employees Assn. "We're going to fight tooth and nail. Pushback is going to be severe. What he's asking for is unattainable, unrealistic.
It cannot happen." Within a week the police unions had sued the county over the wage freeze. They're planning to go to court if the furloughs are implemented, too. Laricchiuta is adamant, though not unsympathetic. "You almost feel sorry for Mangano," he says. "He seems to be in a situation he never put in for."
Indeed, for all the attention a few unbending governors across the country have earned, it may be that Mangano is the more typical leader, denial the more typical response. "Elected officials don't want to make tough choices anymore, and they are flat-out refusing to do so," says Ward of the Rockefeller Institute of Government. "We're more and more going to turn to these unelected and arguably less accountable authorities to make the tough decisions."
"We have to solve Nassau County," says Stack. "It is not suffering economic malaise. It's not suffering massive poverty. It should be able to solve its problems. But it requires political will." Is NIFA a substitute for political will? "No, but we can provide support for the elected officials," he says. "NIFA can be unpopular. We don't care. We're not running for office."
On Apr. 11, Mangano gave his State of the County address at the Gold Coast Studios in Bethpage, where Man on a Ledge had been filmed recently. He began: "After a decade of higher taxes, lavish spending, and little reform, Nassau is now on the road to recovery because of the tough decisions made to take on the status quo." He said nothing about NIFA. He made no mention of the lawsuits. (Nor did he talk about the ongoing police search for a possible serial killer.) Instead, he finished with, "Together we are building a better Nassau."
NIFA still isn't satisfied that Mangano has made up for the $176 million deficit, though, and has expressed doubts about his plans to raise money. NIFA cannot increase taxes. And Mangano says he won't. Which means the really hard decisions still loom. "A lot of people got elected on the strength of anti-tax promises," says Matthew Gardner, the executive director of the Institute on Taxation and Economic Policy. "But they can't live up to their rhetoric. People won't accept the cuts that would be necessary."
When NIFA's directors look ahead, they are even more worried. In 2012, Mangano is counting on privatizing the sewer system, which NIFA considers a dubious proposition. He still wants to borrow to pay for the tax refunds. And pension costs will increase.
"2011 is bad," says Marlin. "2012 will be even worse."
Radioactivity Rises Near Japan's Crippled Nuclear Facility; Could Mean New Leaks
by Mari Yamaguchi - AP
Japan's prime minister, fighting criticism at home over his handling of the aftermath of last month's massive earthquake and tsunami, says he deeply regrets the crisis at a radiation-leaking nuclear plant. "I take very seriously, and deeply regret, the nuclear accidents we have had at the Fukushima Dai-ichi plant. Bringing the situation under control at the earliest possible date is my top priority," Naoto Kan said in a commentary in the weekend edition of the International Herald Tribune.
As Japan has begun planning for reconstruction and mulling how to pay for it, Kan's political opponents have resumed calls for his resignation after refraining from criticism in the immediate aftermath of the disaster. In a show of support for a staunch American ally, U.S. Secretary of State Hillary Rodham Clinton was due to visit Tokyo briefly Sunday.
Thanking the international community for its support, Kan vowed to rebuild a country "highly resistant to national disasters." "I pledge that the Japanese government will promptly and thoroughly verify the cause of this incident, as well as share information and the lessons learned with the rest of the world to help prevent such accidents in the future," he said in the commentary, which also appeared in the New York Times and Washington Post.
Frustrations have also been mounting over plant operator Tokyo Electric Power Co.'s failure so far to resolve Japan's worst-ever nuclear crisis, which began March 11 when the 46-foot (14-meter) tsunami knocked out power and cooling systems at the Fukushima Dai-ichi complex.
Explosions, fires and other malfunctions have interfered with efforts to repair the plant and stem radiation leaks, and officials reported late Saturday that levels of radioactivity had again risen sharply in seawater near the plant, signaling the possibility of new leaks. Workers have been spraying massive amounts of water on the overheated reactors. Some of that water, contaminated with radiation, has leaked into the Pacific. Plant officials said they plugged that leak on April 5 and radiation levels in the sea dropped.
But samples taken Friday showed the level of radioactive iodine-131 had spiked to 6,500 times the legal limit, up from 1,100 times the limit in samples taken the day before, nuclear safety officials said. Levels of cesium-134 and cesium-137 rose nearly fourfold. The increased levels are still far below those recorded earlier this month before the initial leak was plugged.
The new rise in radioactivity could have been caused by the installation Friday of steel panels intended to contain radiation that may have temporarily stirred up stagnant waste in the area, Hidehiko Nishiyama of the Nuclear and Industrial Safety Agency told reporters. However, the increase in iodine-131, which has a relatively short eight-day half life, could signal the possibility of a new leak, he said. "We want to determine the origin and contain the leak, but I must admit that tracking it down is difficult," he said.
Authorities have insisted the radioactivity will dissipate and poses no immediate threat to sea creatures or people who might eat them. Most experts agree. Regardless, plant workers on Saturday began dumping sandbags filled with sand and zeolite, a mineral that absorbs radioactive cesium, into the sea to combat the radiation leaks. Radiation has also leaked into the air, forcing the evacuation of tens of thousands of people and contaminating crops and sea products.
Government officials were fanned out across the affected areas seeking to explain evacuation decisions and calm nerves. Chief Cabinet Secretary Yukio Edano reportedly was meeting Sunday with the governor of Fukushima, who has vigorously protested the predicament the nuclear crisis poses for his prefecture. On Saturday, his deputy, Tetsuro Fukuyama, apologized to a gathering of residents in Iitate village, parts of which the government recommended be evacuated because of the nuclear crisis. "Everyone in the village must be extremely troubled, uncertain and worried," he said, promising to provide temporary housing and financial support.
Residents attending the meeting, many of them farmers, angrily complained, saying they could not just leave their livestock or move them elsewhere. In the city of Inawashiro, Hiroshima University Professor Kenji Kamiya, who has been appointed an adviser to Fukushima prefecture, met with about 250 education officials to explain that radiation levels in the area do not pose an immediate or significant threat to the public. "I hope people understand that the levels we are seeing are fairly low. Even in the most impacted areas, we have screened more than 1,000 children for radiation abnormalities in their thyroids and have found none at all," he said.
Kamiya has been giving almost daily lectures in an effort to prevent people from overreacting to the possible danger. "People fear things that they don't understand. We were even afraid before of the rain, because we just didn't know if it was safe," said Takaaki Kobayashi, a father of two grade-school children. "I feel more comfortable now about sending kids to school. It helps to understand."
Japan nuclear operator aims for cold shutdown in 6-9 months
by Taiga Uranaka - Reuters
Japanese nuclear power plant operator Tokyo Electric Power Co. (TEPCO) hopes it will be able to achieve cold shutdown of its crippled Fukushima Daiichi nuclear plant within six to nine months, the company said on Sunday. The firm said the first step would be cooling the reactors and spent fuel to a stable level within three months, then bringing the reactors to cold shutdown in six to nine months. That would make the plant safe and stable and end the immediate crisis, now rated on a par with the world's worst nuclear accident, the 1986 Chernobyl disaster.
TEPCO, founded 60 years ago, added it later plans to cover the reactor buildings, damaged by a massive earthquake and tsunami that struck on March 11. The latest data shows much more radiation leaked from the Daiichi plant in the early days of the crisis than first thought, prompting officials to rate it on a par with Chernobyl, although experts were quick to point out Japan's crisis was vastly different from Chernobyl in terms of radiation contamination.
TEPCO Chairman Tsunehisa Katsumata said he was considering resigning over the accident, but that he couldn't say when. "This is the biggest crisis since the founding of our company," Katsumata told a news conference at which the timetable was unveiled. "Getting the nuclear plant under control, and the financial problems associated with that... How we can overcome these problems is a difficult matter."
The toll from Japan's triple catastrophe is rising. More than 13,000 people have been confirmed dead, and on Wednesday the government cut its outlook for the economy, in deflation for almost 15 years, for the first time in six months. TEPCO and the government are under pressure to clarify when those who have had to evacuate the area around the damaged plant will be able to go home. Prime Minister Naoto Kan faced heavy criticism over comments, which he later denied making, suggesting the evacuees might not be able to return for 10 or 20 years.
"We would like to present objective facts to help the government make judgment and outlook on when those who have evacuated can come back home," TEPCO Chairman Tsunehisa Katsumata told a news conference at which the timeframe was unveiled. Katsumata also said the company was taking steps to cope with the possibility of another big tsunami. The area has been rocked by large aftershocks since the magnitude 9.0 quake struck and triggered the devastating tsunami. But he said he had no idea how much it would ultimately cost to stabilize the plant.
Japanese Nuclear Cleanup Hinges on Many Unknowns
by Hiroko Tabuchi - New York Times
Even before the troubled Fukushima Daiichi nuclear plant has been brought under control, two conglomerates vying for contracts in an eventual cleanup are estimating that the effort could take 10 years — or 30.
The widely divergent outlooks underscore the basic uncertainties clouding any forecast for Fukushima. It is far from clear when the cooling system will be restored and radiation emission halted; how soon workers can access some parts of the plant; and how bad the damage to the reactors, their fuel and nearby stored fuel turns out to be. The United States Nuclear Regulatory Commission has warned that at least one reactor’s fuel may even have leaked out of the reactor pressure vessel.
A global team led by Hitachi said Thursday that it would take at least three decades to return the site to what engineers refer to as a "green field" state, meaning within legal limits of radiation for any residents. Toshiba, Japan’s biggest supplier of nuclear reactors, said it could take as little as 10 years.
Both companies have large nuclear-related businesses and appear to be eager to speak about endgame possibilities for a crisis that has heightened global public mistrust of nuclear power. Billions of dollars are likely to be at stake in the cleanup, which could help Hitachi and Toshiba buoy their sinking bottom lines. The two said last week that annual profits would fall short of their forecasts because of the widespread disruptions in production and supply chains caused by the disaster.
At a roundtable with reporters on Thursday, Toshiba’s chief executive, Norio Sasaki, wielded an inch-thick proposal outlining the dismantlement plan submitted to the plant’s operator, Tokyo Electric Power Company, this month. Hitachi has presented a competing plan.
The scale and complexity of the challenge are unprecedented. No nuclear reactor has ever been fully decommissioned in Japan, let alone the four certain to be dismantled at Fukushima Daiichi after being flooded with seawater to avert meltdowns and after suffering explosions and other damage. The final fates of the two other reactors there have not been announced, but they, too, may need to be decommissioned.
The 1979 accident at Three Mile Island in Pennsylvania involved just one reactor, and though there was a partial meltdown of the nuclear fuel rods, the chamber holding them did not rupture. The cleanup there still took 14 years and cost about $1 billion. (Two reactors that continue to operate at the site are set to be decommissioned in 2014.)
Recovery from the 1986 disaster at Chernobyl in Ukraine, meanwhile, is an example engineers are not eager to follow. Following explosions and a fire that sent huge radioactive plumes into the atmosphere, workers covered the remains of the reactor with sand and lead and eventually entombed it with concrete to halt the release of radiation. The concrete coffin still remains at Chernobyl, and the area is uninhabitable.
For now, workers in Japan are still trying to stem leaks of highly radioactive water from the plant even as they add to the flow by continuing to pump in water — now fresh, not saltwater. They are also racing to revive the contained cooling systems that circulate water and do not bleed contaminants.
But serious challenges remain, including what Japan’s nuclear regulator said Thursday were rising temperatures at one of the units, as well as a series of strong aftershocks. Later, Hidehiko Nishiyama, the deputy director general of Japan’s Nuclear and Industrial Safety Agency, said the situation at the plant remained "difficult."
Still, Toshiba’s engineers expect the plant to stabilize "in several months," Mr. Sasaki said, and for full-scale cooling to resume. It would be five years before engineers would be able to open the pressure vessels to remove the nuclear fuel, he said, and dismantling the reactors and cleaning up radiation at the plant would take at least another five years.
Toshiba’s team includes engineers from Westinghouse, whose majority owner is Toshiba, and the Babcock & Wilcox Company, an energy technology and services company that handles the disposal of hazardous materials. The two companies helped shut down the damaged reactor at Three Mile Island.
A Hitachi spokesman in Tokyo, Yuichi Izumisawa, said that the 10-year projection was overly optimistic. He said that Hitachi’s engineers expected it to take that long just to remove the nuclear fuel rods from the plant and place them in casks to transport to a safe storage facility. Only then can the dismantling of the plant’s structures begin, he said, followed by the cleanup of the remaining radiation.
Hitachi, the country’s second biggest supplier of reactors, has a team of 50 experts working on its dismantling plan. It has a joint nuclear venture with General Electric and is also working with the American nuclear operator Exelon and Bechtel, an engineering company. "You basically need to dismantle the plant from the inside, and the inside is still very radioactive," Mr. Izumisawa said. "At Hitachi, we are baffled over what kind of technology would allow everything to be finished in 10 years."
Tetsuo Matsumoto, a professor of nuclear engineering at Tokyo City University, said that how long the decommissioning process would take depended heavily on the state of the nuclear fuel. "Will it still be shaped like rods? Or will it have melted and collapsed into a big mass?" he said. "It could be 10 years or it could be 30. You just won’t know until you open up the reactor."