Monday, June 29, 2009

June 29 2009: California tipping in the ocean

John Vachon Blowing Smoke February 1943
Camel cigarette advertisement at Times Square, New York City

Ilargi: The same US banks who, facilitated by various governments, hit the taxpayer for trillions of dollars, now have decided they don't have quite enough yet. So, again facilitated by the government, which "failed" to close the loopholes in a new bank law, they go after the taxpayer again, this time for fees on credit cards and even debit cards.

A little bit of an overdraft, and a 3000% or more interest rate will land on your doorstep. It just goes on, doesn't it, this madness? If it still hasn't been stopped yet, why would we expect it to stop at any time in the future? Usury and swindle are not accidents, they are embedded features of society.

Bernie Madoff gets 150 years, while these practices are not just allowed to continue, but are strengthened and enhanced. For the financial world, clients are cattle that exist to be milked at will and slaughtered when convenient. You need banks and their cards for some of the most basic payments in life these days, and a system organized this way can't but become a set of debt-slave shackles.

The entire system is so sick and rotten and so thoroughly geared towards a myriad forms of legal theft, that no politician would ever condone it if they were not part of it and dependent on it to sustain their particular place in the universe. It would be easy to simply ban people from using more money or credit than a mutual agreement provides them with. Easy, but much less profitable. Luring them into debt is the way to go. It's official.

These banks would not exist anymore without the money provided by payrolled politicians in name of the same people who now pay these fees which could only have been invented and approved by minds that have lost all connection to normalcy and decency. And then they all go to church on Sunday and ask for the blessings of a deity of their choice. And fool themselves and each other into thinking they've received it.

California tipping into the ocean may be a watershed moment. In two days, the first IOU's will start being handed out. Now, you may be excused for wondering what the difference is between Arnie's paper and a greenbacked IOU, but really, they are not the same.

It's hard to predict what will happen with the Terminator slips, but what seems certain is that some of the other states will be dragged down alongside Disneyland into the Pacific. Numerous counties and municipalities will then undoubtedly follow. And when a stain starts spreading in that way, who is to say where it all leads? Look downwind and follow the money.

The ratings agencies will get very busy, that much is sure. Hammering down the credit ratings of thousands of different entities and their debt is no easy matter. Still, with the speed at which tax revenues are going down in mind, down they will all go. All the way until the federal credit rating gets its turn. There is no way out of this other than severely constrained consumption patterns, which will lead to sky high unemployment rates, which will restrict consumption, which....

We can do this in a civilized way, or we can invite chaos. Those are the only two options. So far, all rich nations on the planet have chosen option number two, America first of all.

Recovery is right around the corner. And eternal growth is our divine right. Right?

Suicide in the hills above old Hollywood
Is never gonna change the world
Change the world overnight
Any more than the invention of the six-gun
Any more than the discovery of Radium,
Or California tipping in the ocean
Thomas Dolby, Screen Kiss

The Banks Heist: Sidestep New Law And Fatten Debit Card Fees
Just weeks after President Obama signed into law new rules clamping down on runaway credit card fees, banks are accelerating their push for plastic profits by making an end run around the restrictions -- that is, jacking up fees related to debit cards. Earlier this month, Bank of America announced a $35 fee for most debit-card overdrafts -- plus a second $35 fee if it isn't repaid in five days. In March, PNC Bank hiked its sustained overdraft fee by 16 percent to $7 a day.

The moves by BofA and PNC follow inflated international fees set by Citigroup and a new, 2 percent foreign fee imposed by Discover Cards. These upticks not only deftly sidestep the new credit-card law -- which does not address debit cards -- but come at exactly the time the popularity of debit cards among American consumers surpasses that of credit cards. "We've been watching these fees steadily going up," said Jean Ann Fox, director of financial services at the Consumer Federation of America. "And it stands to reason if the opportunity to gouge consumers with one product is being curtailed, banks will look for other opportunities."

In 2008, overdraft and non-sufficient funds fees ballooned to $34.7 billion, according to a new estimate by management advisory firm Bretton Woods. That's an outstanding 37 percent jump from the $25.3 billion in overdraft and NSF fees banks collected in 2006, a total pulled together by the Center for Responsible Lending. At the center of the inflated overdraft debit-card fee issue is that banks now automatically enroll customers in their overdraft program.

BofA, Citi, PNC and Discover are hardly alone. Five years ago, 80 percent of banks would decline an ATM or debit charge if the customer lacked the funds. But a scathing 2008 report from the FDIC, and a March 2009 Center for Responsible Lending study of 16 large banks show lenders are squeezing ever more revenue out of debit card users by:
  • Enrolling consumers in overdraft plans without their consent, and not allowing them to opt out
  • Charging higher initial fees on debit overdrafts. Citibank recently raised its fee to $34 from the $30 rate it had last August. The median maximum overdraft fee at big banks now totals a whopping $35
  • Employing tiered fees. Eight major banks now use them, compared with just three in 2005. Fifth Third Bank charges $25 to $37 per overdraft, while US Bank hits consumers with $19 for the initial overdraft, then $35 for the next three, and $37.50 for subsequent charges
  • Paying overdrafts at the banks' discretion, rather than chronologically, generating higher fees. Putting the bigger transactions first can drain an account, letting banks zap the consumer for each little debit for a hamburger or cup of coffee, racking up several hundred dollars in fees
  • Putting few or no limits on the number of overdraft fees consumers are hit with on a given day.

The Federal Reserve and Congress are trying to play catch-up with the banks. A bill introduced by Rep. Carolyn Maloney [D-NY] would define the overdraft coverage as a loan, and force banks to get customers to opt-in before an overdraft can happen. The Maloney bill would also bar banks from manipulating debits -- that is, clearing larger transactions first, thus raising the chance for multiple overdraft charges. The American Bankers Association's Nessa Feddis dismissed the outcry, noting: "Overdraft fees are simple to avoid by keeping track of your account, or arranging with the bank to send alerts."

The Bite of Bank Fees
Your bank wants more of your money, and it's found a way to get it: by jacking up the fees on your account. Customers are paying more to maintain a checking account and withdraw cash from an out-of-system ATM, and when they bounce a check. To make up for declining revenue, many banks are boosting fees and are requiring higher minimum balances for many accounts.

The institutions also have made it easier for customers to spend more than is in their accounts -- and then hit them with substantial fees, a practice so vexing to consumer advocates that the Federal Reserve is thinking of regulating it. Bank revenue has plummeted on the back of foreclosures and rising credit card delinquencies. Now Congress has passed a law cracking down on arbitrary and excessive credit card fees. So the banks have been fighting back. "There is an economic storm that has made revenue fall," said Michael Moebs, an economist and chief executive of Moebs Services, an economic research firm in Lake Bluff, Ill. "Fee income is basically where banks and credit unions can offset both loan- and investment-related losses."

Bank of America this year raised the maximum number of times customers can get hit with overdraft fees from five a day to 10. On top of that, it began charging a one-time fee of $35 if the account remains in the negative for more than five days. The bank also raised the monthly fee on My Access checking accounts to $8.95 from $5.95. Citigroup's Citibank last year increased its overdraft fee to $34 from $30 and its ATM fees for non-Citibank customers to $3 from $2. Wells Fargo also last year increased its maximum overdraft and insufficient funds fee to $35 from $34.

"The most consistent increases have been seen on punitive-type fees such as bounced check charges and ATM fees, and those are the two categories of fees that are easiest to avoid," said Greg McBride, senior financial analyst for, which tracks the banking industry. In a study of fees last year, found that the average bounced check fee rose 2.5 percent from 2007 to nearly $30. The average ATM surcharge in 2008 was up more than 10 percent to almost $2. To avoid monthly fees on accounts that pay interest, customers had to maintain an average of $3,461.84 in their checking accounts, up 4 percent from the year before.

Banking officials said they are simply reacting to market forces. "I think when you look at the whole -- all of the fees overall -- the landscape has changed and that has meant rising costs for our industry," said Anne Pace, a spokeswoman for Bank of America. "For the bank to continue offering competitive products and services, and making sure we are lending responsibly in the current environment, we have to adjust our prices."

She added that in some cases, the bank changes have favored consumers. For instance, she said, the bank reduced the overdraft fee to $10 an item if overdrafts in a day total $5 or less. Overdraft fees have become an important source of income for banks. Years ago, banks rarely approved point-of-sale debit transactions when the money to cover the cost was not available in the customer's account. The overdraft fee was used primarily as a penalty to keep customers from spending more than they had. Then they became too profitable for banks not to embrace. A 2008 Federal Deposit Insurance Corp. study found that insufficient funds or overdraft fees made up 74 percent of service charges on deposit accounts.

Moebs Services, which provides data to the federal government, estimates that overdraft revenue will reach $38.5 billion this year. The median overdraft fee will be $27.50 this year, up from $25 last year, Moebs said. Consumer advocates said overdraft fees are a danger because they can quickly add up and eat into people's available cash when many are mired in debt. Banks too often charge disproportionately for the service, advocates said.

"The purpose of overdraft protection or courtesy overdraft, as it's often called, is to turn something that's like a parking ticket into a profit center," said Ed Mierzwinski, consumer program director at the U.S. Public Interest Research Group. "The $4 latte becomes the $39 latte after the $35 fee. Overdraft protection is a misnomer."

Since May, Lori Harris, a Laurel resident, has been the inadvertent recipient of such protection. Early last month, she deposited money into her Bank of America checking account, but the check did not clear before several charges were posted. Each time Harris overdrew her account, she paid $35, totaling nearly $300 in fees in May. That set off a chain of events that has left her with about $600 in overdraft fees this month. She is now afraid to use her debit card and obsessively checks her account history. She is looking for another bank. "I simply can't afford that anymore," she said. "I'm going to have to go to a completely cash-based type of lifestyle."

Jean Ann Fox, director of financial services for the Consumer Federation of America, said overdraft programs are often not explained when consumers open accounts, and many don't have opt-out provisions. In a survey of the 16 largest banks, the federation found that all of them charged overdraft fees without the consumer's consent. "If I were a bank, I wouldn't want to tell you I would charge you $70 for letting you overdraw $20," Fox said.

The Federal Reserve has taken notice and is considering new rules that would crack down on automatic overdraft protection. But consumer advocates said the rules would not go far enough because, for one thing, they would not cap overdraft fees. Meanwhile, Rep. Carolyn B. Maloney (D-N.Y.), who was instrumental in getting the new credit card law passed last month, has proposed a bill that would require banks to notify customers when an ATM or debit card transaction is about to trigger an overdraft fee and give them a chance to decline the service.

But Scott E. Talbott, senior vice president of government affairs for the Financial Services Roundtable, an industry group, said consumers can avoid such fees if they are proactive. That means reading their account contracts to understand specifics of their bank's programs and fees -- and asking questions, he said. "The key is to take charge of your financial situation and eliminate any uncertainty to avoid gotcha moments," he said.

When there's a choice, advocates suggest people use traditional overdraft protection, where one account is protected by another, instead of using programs in which the bank extends a credit line to cover the overdrafts. Credit received from the bank often takes priority over other bills, because the bank repays itself first once a deposit is made. Several banks also offer to send customers e-mail and text message alerts when they are close to overdrawing their accounts. But McBride, of, said consumers can avoid crossing that line by monitoring their accounts online. "You can take a break from Facebook for five minutes and check your available account balance," he said.

As for other fees, McBride said people should shop around for banks or credit unions that do not charge checking account maintenance fees. To avoid ATM fees, they should discipline themselves to use their own banks' ATMs even if that means walking an extra block. "The bottom line here is: It's not having to cough up three or four bucks every once in a while that's the problem," he said. "It's doing it routinely week in and week out. That's the type of financial habit that will put you in the poorhouse."

Recovery threatened by toxic assets still hidden in key banks
Taxpayers around the world still face potentially large losses because governments have failed to act quickly enough to remove toxic assets from the balance sheets of key banks, the world's leading central bankers warn today. Despite months of co-ordinated action around the globe to stabilise the banking system, hidden perils still lurk in the world's financial institutions according to the Basle-based Bank of International Settlements.

"Overall, governments may not have acted quickly enough to remove problem assets from the balance sheets of key banks," the BIS says in its annual report. "At the same time, government guarantees and asset insurance have exposed taxpayers to potentially large losses." It comes as the CBI employers' organisation reports that the British banking system remains under pressure, despite tentative signs of green shoots in the financial sector.

In their latest quarterly financial services survey, the CBI and PricewaterhouseCoopers (PwC) say many parts of the sector expect business volumes to rise in the next quarter after 21 months of falls. But despite these early signs of optimism, Ian McCafferty, the CBI's chief economic adviser, cautioned that banking remains "under pressure". "Conditions remain challenging, particularly for the banks. Although demand looks like it is beginning to recover, it is doing so from a very low base. We can still expect lower profitability, significant job losses and cuts to investment in the coming months. The rising levels of bad debt are a further worry for the industry," he said.

His note of caution chimed with the warning from the BIS. As one of the few bodies consistently sounding the alarm about the build-up of risky financial assets and under-capitalised banks in the run-up to the credit crisis, the BIS's assessment will carry weight with governments. It says: "The lack of progress threatens to prolong the crisis and delay the recovery because a dysfunctional financial system reduces the ability of monetary and fiscal actions to stimulate the economy."

It also expresses concern about the dilemma facing policymakers on when to start reining in the recovery. "Tightening too early could thwart the recovery, whereas tightening too late may result in inflationary pressures from the stimulus in place, or contribute to yet another cycle of increasing leverage and bubbling asset prices. Identifying when to tighten is difficult even at the best of times, but even more so at the current stage," it says.

The CBI survey confirms there are still problems beneath the surface, despite growing optimism. Respondents said the value of non-performing loans, or "bad debt", increased at its fastest rate since the survey began in 1989 in the second quarter of the year and a similar rise is expected in the next quarter. The survey also found that banks widened lending spreads to a record degree in the three months to June. That provides some support to banks' profitability, which was broadly flat after six consecutive quarters of decline, but could choke off demand for loans from borrowers and weigh on recovery.

While optimism regarding the overall business situation remained firmly negative, according to the CBI, the rate of decline had slowed on that in recent quarters. However, business volumes fell at the fastest rate since March 1991, but are expected to start to rise over the next three months. John Hitchins, UK banking leader at PwC, said: "The UK banking industry has seen a further decline in confidence but the rate of decline is slowing." McCafferty warned the overall optimism in the financial services sector "masks" the fact that some sub-sectors, such as building societies, are still having a very tough time.

About 15,000 jobs were slashed in the financial services sector in the three months to June, compared with 17,000 in the first quarter of the year. The CBI expects a further 13,000 jobs to be chopped over the next three months. A total of 34,000 jobs were lost in the financial services sector in 2008. Nearly all respondents agreed that it will take longer than six months for normal market conditions to resume.

Nightmare on Wall Street? Upcoming Bank Earnings Could Rock World Markets
Forget the movies. Forget the roller coasters. This summer’s real excitement: the coming second quarter bank earnings announcements, and their potential effect on world stocks, currencies, and commodities markets.

Having followed all these markets for a while now, it’s a lot like any classic horror or action flick. You know the basic plot, but it can still get you sweating.

Introduction: Chronicle of a Crisis

All major market shifts since 2007 have begun with the U.S. banks. With them the crisis began, with them the rallies began. With them may come the next move down, and only from their true recovery will there arise a genuine recovery. Amen.

Their coming earnings announcements, and the ensuing government responses, are likely to be the economic event of the summer.

Let’s quickly go through a brief chronicle of the crisis:

The current world economic crisis began as a self-inflicted U.S. banking crisis.

The still-alive March rally in stocks and commodities began when the big financial institutions announced first quarter profits. As repeatedly noted by this author and others, this feat required an unprecedented collaboration/conspiracy involving Washington and Wall Street. These profits were not from genuine ongoing operating results likely to be repeated, but were rather a result of a combination of some rather irregular activities, including:

  • fabricated hyper-profitable fixed income department trades with AIG, which by themselves were large enough to outweigh the enormous real operating losses
  • overstated asset values aided and abetted by bank regulators and the suspension of market to market accounting

When that rally faltered, Washington announced more help in the form of the Public-Private Investment Program (PPIP), another thinly disguised bank welfare program, paid for by U.S. taxpayers. That maintained optimism about the banks, and thus the market, and forced the massive shorts to unwind, thus continuing the low volume meander up to 30% gains.

Within the month, the leading financial institutions on which America depends will announce second quarter earnings. For example, Citibank (C) and Goldman Sachs (GS) are scheduled to announce on July 17th. Rumors and whispered numbers may come sooner. If positive, they will almost certainly be leaked sooner.

Unemployment is already around 10%, well past the bank stress test worst case scenario of 8.9%. That means many thousands more residential and commercial mortgage defaults. Worse, those tests were before GM (GMGMQ.PK) officially rolled over into bankruptcy.

Can Team Washington & Wall Street pull it off again?

Barring some incredible surprise, luck, or creativity (all possible), we think not, and here's what that means:

Scenario 1: Banks Show Losses: Ramifications for World Stock, Commodity, and Currency Markets

Given the above history, if bank earnings disappoint, we can expect some version of the following chain of events: In essence, faith in the fragile, nascent, embryonic world recovery breaks down. From this follows:

A. U.S. stock markets plunge

We get a likely retest of March lows assuming the process hasn't already begun. A brief look at a daily S&P chart (click to enlarge) will show the March uptrend has already been decisively broken.


S&P Daily Chart (courtesy

B. World stock markets follow

They have faithfully followed each other through this crisis, and thus can be expected to continue to do so barring evidence to the contrary. After all, the U.S. is still the major customer of the big exporters, including China. Their economies depend on America. For all the talk at the first official BRICs summit, the BRICs will crack without a robust U.S. consumer market.

Think the world can roll along without a sick U.S. economy? This past week both the IMF and the Paris based Organization of Economic Development (OECD) came out with predictions about the world economic situation. The IMF said things were getting worse. The OECD disagreed. What was the basis for their difference? The OECD believed the U.S. would improve enough to make up for the continuing worsening situation in the rest of its member countries.

C. Commodities Crash Too

The ensuing gloom presumes weakened demand for industrial commodities like crude oil, at least in the short term. Deflation becomes a bigger concern than inflation, so the precious metals become less so.

D. Currencies: JPY, USD, CHF Tend to Rise Against Other Major Currencies

Paradoxically, the U.S. dollar actually becomes a short term beneficiary of the pessimism about the U.S. and world economy. For those who don't follow currencies trading, the USD is considered a safe-haven currency in times of fear or "risk aversion,” second only to the Japanese Yen (and then followed by the Swiss Franc).

For example note how the Euro-dollar currency pair EUR/USD (currencies always trade in pairs, since one currency must somehow be priced relative to something else) has behaved since stock markets were at the March 3rd lows, as depicted on the below daily EUR/USD chart (click to enlarge). Note that we read this combination to mean "Dollars per Euro." Thus the rising price of this currency pair mean more dollars per Euro, the Euro is appreciating against the dollar.


EUR/USD Daily Chart (courtesy

Note how when fear was at its highest in autumn 2008 and in early March 2009, the Euro, and all other major currencies (except the Yen), were at recent lows against the USD. As the March rally has progressed, they've generally gained (except the Yen) against the USD, as optimism fed "risk appetite" and currency traders sought higher yielding currencies.

Here's another example, a daily chart of the AUD/USD. Note a similar pattern.


AUD/USD Daily Chart (courtesy

The Australian dollar tends to behave in an especially inverse manner to the USD. Not only does its central bank pay among the very highest interest rates among the major currencies (unlike the Fed with the USD paying among the lowest), Australia is a commodity export based economy. Thus demand for its exports, and for the AUD, varies with anticipated economic growth more than the USD. So when the world economy looks bad, lower exports are anticipated and traders tend to dump the AUD in favor of the USD and JPY. Whether you agree that these are in fact safer or not, that's how traders treat them.

Scenario 2: Banks Post Positive Results: The Opposite Reaction?

Here's where it gets less clear. The short answer is, it depends how positive. If they somehow show profits from ongoing operations that are likely to continue (no, I don't see how either, but put that aside for the moment), then depending on how convincing their ongoing prosperity is, the recovery is likely to be truly under way. If however, the results are mixed, or, as is so fashionable these days "less bad than expected and thus somehow positive" then the picture is murky.

So What Do You Do?

If the banks were left to themselves, the strong likelihood would be scenario 1. But given that Washington can't let them die, the question really is, how much can Washington still do to minimize the damage?

If you believe in Scenario 1: take profits on stocks; consider some kind of short on stocks (buy puts on the S&P or other indices, Ultrashort Proshares for short term hedging (like SDS on the S&P, SDK on the financials). Currency and commodity traders should short commodities, go long USD, JPY against other major currencies, especially the CAD and AUD.

If you believe in Scenario 2: If the mood is very positive, consider buying stocks, commodities, and the higher yielding currencies (AUD, NZD) or commodity currencies (AUD, CAD) against the USD and JPY.

Disclosure: I have positions in most of the above mentioned investments.

A sound funeral plan can prolong a bank’s life
Buried within the 88-page Obama administration proposal to overhaul financial regulation is an overlooked option called a “rapid resolution plan”. It mandates that systemically important financial companies be required regularly to file a “funeral plan”: a set of instructions for how the institution could be quickly dismantled should the need to do so arise.

This simple step would have both short-run benefits if another wave of panic occurs and longer-term pay-offs that would complement other reform efforts. It could be implemented now, without the need for legislative action. Regulators should do so immediately. The first benefit is that regulators would gain a stronger negotiating position with a dying institution. Throughout this crisis the authorities have had to intervene without knowing exactly what hidden traps might emerge if a bank were to be closed down. The bankers know this and can exploit the fear of the unknown to press for bail-outs.

It is remarkable that such rules do not already exist. The hideously complex Basel II regulatory rules already force banks to describe other types of operational risk; for example, since September 11 2001 many businesses have invested heavily in planning for terrorist attacks. The crisis has shown us that the sudden unwinding of a large, complex financial institution is terrifying for the financial system. The current arrangements are akin to forcing the Pentagon to go to war without ever having been able to simulate a war game. The disclosures contained in the rapid resolution plans would make this type of planning possible. While war games are far from perfect, knowing that some had been conducted might make all market participants more willing to tolerate a failure.

A second immediate benefit would be to force bank managers to think much more carefully about the complex financial structures they have created. If bankers had to explain every single step needed (and the associated consequences) to shut down their subsidiaries in all the various jurisdictions in which they operate, they would have a big incentive to simplify their organisations. The filings might well uncover other legal nightmares. During this crisis we have found that certain contractual obligations (such as the vast web of credit default swaps) placed substantial constraints on the choices facing regulators. It is unlikely that we have discovered all of these hidden restrictions, so why not force the banks to start figuring them out?

Over the medium term, there would be additional benefits. The headline component of the plan would be the requirement for banks to estimate the number of days it would take to shut down. Banks that require longer to close would have to hold more capital. This would place management under serious pressure to improve their plans, which would be disclosed in quarterly shareholder filings. Senior members of the management team and the board would have to understand the funeral plan. Crucially, they would be forced to sign off on its accuracy. This might also lead to closer scrutiny of new products or lines of business if they jeopardised an orderly unwinding.

We would all have benefited if the largest financial firms had put better risk management systems in place. One obstacle is that within most institutions, power and authority are concentrated in the profit centres; risk management does not immediately contribute to profits. The introduction of a funeral plan would allow risk managers to make obvious contributions to profitability – because the better ones would free up capital. The systemic regulators that are on the way to being created could also scrutinise the plans to keep up with market developments and predict new risks. This process would also provide regulators with a forum for questioning banks about the risks of their new products.

This proposal is far from a cure-all. One big problem is that resolution rules themselves, especially when multiple legal systems are involved, are quite complicated. But the plan has an extremely high benefit-to-cost ratio and could be put in place right away. Once in place it might also create additional pressure to work towards harmonising bankruptcy procedures, which the Obama proposal rightly identifies as an essential, but missing, tool.

Supreme Court: State can apply some laws to national banks
The Supreme Court on Monday ruled that states can apply some of their own laws to big national banks operating within their borders, a decision proponents called a huge win for consumers and for states seeking more power to regulate financial activities. The high court ruled that a state attorney general cannot on his own issue a subpoena against a bank that has branches in that state and others. However, the court also said that national banks are subject to some state laws under the National Banking Act, and an attorney general can go to court to enforce those laws.

"What this decision today says is that states have the ability to enforce their own laws (against national banks) as long as they follow state due process procedures, which generally mean issuance of a subpoena which can be challenged in court," said lawyer John Cooney, a former assistant solicitor general and deputy general counsel at the Office of Management and Budget. Officials say the 5-4 decision opens the door for states to do their own investigations of national banks, as long as they can convince a judge that investigations are needed. New York Attorney General Andrew Cuomo called the decision "a huge win for consumers across the nation."

"I am pleased that the court has turned back efforts by the nation's largest banks to prevent the efforts of New York and other states to protect consumers from predatory financial practices," Cuomo said. "With this decision, the court has recognized that fair lending and consumer protection — the cornerstones of a sound economy — require the cooperative efforts of both the states and the federal government." The state of New York had asked the Supreme Court to overturn a federal appeals court decision that blocks states from investigating the lending practices of national banks with branches within its borders. It was supported by the other 49 states.

Eliot Spitzer, then New York's attorney general, wanted to investigate whether minorities were being charged higher interest rates on home mortgage loans, a practice that is prohibited under various state and federal laws. But federal judges said Spitzer could not enforce state fair-lending laws against national banks or their operating subsidiaries by issuing subpoenas and bringing enforcement actions against them. "Here, the threatened action was not the bringing of a civil suit, or the obtaining of a judicial search warrant based on probable cause, but rather the attorney general's issuance of subpoena on his own authority," said Justice Antonin Scalia, who wrote the opinion for the court. "That is not the exercise of the power of law enforcement 'vested in the courts of justice,'" which the National Banking Act allows.

The Clearing House Association, which represents the banks, said the attorney general was interfering with the federal government's supervisory powers. The 2nd U.S. Circuit Court of Appeals in New York City had ruled that the responsibility for such investigations rests with the Office of the Comptroller of the Currency, a part of the Treasury Department, and other federal agencies.

Comptroller of the Currency John C. Dugan said he was disappointed by the court's ruling. "I want to stress that the OCC is absolutely committed to strong oversight and enforcement of the fair lending laws, and that the OCC and the states share a common goal of ensuring fair access to financial services and fair treatment of consumers and businesses by all financial firms," Dugan said. "We look forward to working with the states to ensure that these important objectives are met."

Chief Justice John Roberts and Justices Clarence Thomas, Samuel Alito and Anthony Kennedy dissented in part, saying they would have ruled with the New York-based appeals court. "Without a uniform regulation and enforcement of the laws that apply to national banks, which often includes state law, those institutions will face a patchwork of duplicative and conflicting federal and state regulation and enforcement actions," said Edward L. Yingling, president and chief executive officer of the American Bankers Association. "This will make it difficult to serve consumers in today's hi-tech, mobile society where people and bank services move constantly across state lines." The case is Cuomo v. The Clearing House Association, 08-453.

Spitzer says chance to probe banks was lost
Former New York Governor Eliot Spitzer hailed the Supreme Court's decision on Monday that allows the state's mortgage lending probe, one initiated by Spitzer in 2005, to finally proceed after a protracted legal battle with federal regulators. Yet the former attorney general laments the lost opportunity regulators had to question and possibly halt subprime mortgage activities that ultimately caused massive damage to banks and the economy.

"This is a big win for law enforcement and for those who believe that banks need to have an appropriate level of scrutiny," said Spitzer, who launched the investigation while attorney general and resigned as governor early last year. Andrew Cuomo, the current New York attorney general, had brought the case wanting to revive Spitzer's probe into possible lending discrimination. The nation's highest court overturned an appellate court ruling that blocked the state from enforcing fair lending laws against national banks.

"The question that bothered us several years back when we began this case was whether banks were lending fairly and properly to people," Spitzer said in a telephone interview. "It was very clear people were being offered loans they were financially incapable of repaying." While initially a case into lending practices biased against minorities, investigators were concerned that loans extended to people with weak credit were becoming problematic.

By the end of 2006, mortgage losses started to weigh on banks and by 2007, the housing market had collapsed, bringing mortgage markets and eventually the entire banking system down. "We didn't quite know how much or in what form, but there was much there that was troubling," Spitzer said. "Obviously, it's a little late to forestall the cataclysm that emerged when the subprime debt fuse finally exploded."

Spitzer does not claim his mortgage probe would have prevented the credit crunch, but regulators squandered an opportunity to stop questionable lending practices, he said. Back in 2005, Spitzer's star was climbing. After taking on Wall Street conflicts of interest and mutual fund trading abuses, his prosecutors turned their sights on mortgages. The probe was stopped by a group of powerful commercial banks backed by their supervisor, the Office of the Comptroller of the Currency, who as a federal bank regulator argued states had no jurisdiction to probe national banks.

The problem, Spitzer said, is the OCC left a void when it did not ask its own questions. "The federal government under Bush, and unfortunately under President Obama as well, took the side of the banks, not only in saying states shouldn't ask these questions but then in not directing the OCC to step into the void to ask the questions." Spitzer, whose career as attorney general was marked by stepping into regulatory gaps, said it remains to be seen how the Obama's regulatory reforms turn out. For now, he contends the government is not doing enough.

"To a certain extent, I think were moving deck chairs on the Titanic. We're not really doing anything fundamental," he said. "They're too modest. They don't begin to confront the most significant issue, which is 'Too Big to Fail." Spitzer's public career came to halt early last year when he resigned after getting caught in a prostitution scandal. He has largely stayed out of the spotlight, writing articles for Slate magazine and helping run the family real estate business. But the role of states in regulation and protection offered to consumers remains an important, personal issue.

Spitzer has strong concerns about the increased power Obama's administration would thrust upon the Federal Reserve, which made its own share of mistakes ahead of and during the credit crunch. "What we shouldn't forget is the Fed has always been the systemic risk regulator. What we should be asking is 'Why didn't they get it right last time?'" he said. "Until we understand how it was so wrong about derivatives, leverage, the bubble, I don't think we can give them additional power."

Cash Best as Record Correlation Hints Herd Collapse
Investors are moving in lockstep like never before, driving up stocks, commodities and emerging markets and risking a replay of last year, when they all plunged the most since World War II. The Standard & Poor’s 500 Index, whose increase in the past three months was the steepest in seven decades, is rallying in tandem with benchmark measures for raw materials, developing- country equities and hedge funds. The so-called correlation coefficient that measures how closely markets rise and fall together has reached the highest levels ever, according to data compiled by Bloomberg.

The herd mentality threatens to leave investors with no refuge amid signs that the worst U.S. recession since 1958 isn’t abating. While bulls say it makes sense that markets climb together after the S&P 500, copper and oil lost more than 38 percent in 2008, RiverSource Investments LLC and Harris Private Bank are telling clients that diversification strategies to smooth out returns won’t work. They suggest shifting money to cash and bonds on concern gains will evaporate.

“If everything’s moving in the same direction, you can’t build a portfolio that has varying degrees of risk,” said David Joy, chief market strategist at RiverSource, which manages $125 billion in Minneapolis. “If we don’t start to see tangible evidence of economic improvement, there’s enough tentativeness among investors that they may be quick to retreat.” RiverSource is using corporate bonds rated A, BBB and BB by S&P to protect against losses in other markets, Joy said. Jack Ablin, who oversees $60 billion as chief investment officer at Harris Private Bank in Chicago, raised cash to lower risk and is shunning traditional diversification strategies such as buying Treasury bonds on concern that increased government borrowing will erode returns.

Stocks and commodities that benefit most from economic growth have climbed in concert over the past three months on speculation that the first global contraction since World War II is easing. In the U.S., the Conference Board’s measure of leading economic indicators increased in April for the first time since June 2008 and rose again last month. Analysts covering S&P 500 companies boosted 2009 profit estimates for the first time this year in May as economists predicted the U.S. economy will start to expand next quarter, weekly data compiled by Bloomberg show.

The S&P 500 has added 37 percent from a 12-year low in March, increasing on 56 percent of the days during that span. The Reuters/Jefferies CRB Index of commodities has advanced 27 percent from its trough, rising 58 percent of the time. The gains pushed correlations between the indexes to 0.74 this month, based on percentage changes over the past 60 days. That’s the highest in at least five decades, data compiled by Bloomberg show. A reading of 1 means two assets move in tandem, while zero means no relationship. The correlation never rose above 0.66 before this month.

Gains in U.S. stocks have mirrored those in crude oil as never before, with correlations above 0.7 this month, according to data compiled by Bloomberg. For the MSCI Emerging Markets Index, the relationship is the tightest since Russia defaulted on its debt in 1998. The correlation between the S&P 500 and an HFRI index of fund of hedge funds, based on percentage changes in the past 12 months, reached 0.5 in April for the first time in almost five years, monthly data compiled by Bloomberg show. “I have a lot of friends in the hedge-fund world; they talk to each other and have many of the same trades,” said Nick Sargen, chief investment officer at Fort Washington Investment Advisors in Cincinnati, which oversees $27 billion. “These are people who say, ‘I see a pattern, and I’ve got to jump on.’”

The S&P 500 plunged 57 percent from a record 1,565.15 in October 2007, while developing-nations stocks lost two-thirds of their value as the world’s largest financial companies racked up almost $1.5 trillion in losses from the collapse of the subprime mortgage market and investors sold everything but the safest assets. Oil tumbled 78 percent from a record $147.27 a barrel in July, while the CRB retreated 58 percent. Harry Markowitz, 81, who won the Nobel Prize for economics in 1990 for his work on portfolio theory, says that last year’s collapse reinforces his view that even the most unlikely outcomes are possible in any year.

“The thundering herd is still with us,” said Markowitz, a professor of finance at the Rady School of Management at the University of California, San Diego. “Nature draws into a bushel basket full of returns and finds a next return every year, and I believe there’s another 1929 somewhere in that bushel basket. 2008 was not a refutation, it was a confirmation.” For James Swanson at MFS Investment Management, the simultaneous rallies in stocks, commodities and emerging markets are a precursor to a rebound in the economy.

“These whiffs of optimism we’re getting are well founded,” said Swanson, the Boston-based chief investment strategist at MFS, which oversees $134 billion. “We’ve priced in the normal exit of a bad recession. In the U.S., there could be a new dawn of profitability.” Some investors remain skeptical the recession is about to end. The economic recovery hasn’t begun and will be a “slow process,” billionaire investor Warren Buffett said in a June 24 interview with Bloomberg Television.

The unemployment rate, which jumped to an almost 26-year high of 9.4 percent in May, will probably exceed 10 percent, said Buffett, the chairman and chief executive officer of Omaha, Nebraska-based Berkshire Hathaway Inc. Earnings for companies in the S&P 500 have declined a record seven consecutive quarters and are estimated to slide for two more, according to analysts’ estimates compiled by Bloomberg. Analysts have trimmed their projections for a fourth- quarter profit increase to 62 percent from a prediction of 95 percent growth when stocks began rallying in March.

Now, options traders are paying more to protect against a drop in the S&P 500 versus the cost to wager on gains than at any time since September, when the collapse of New York-based Lehman Brothers Holdings Inc. froze financial markets. So-called implied volatility, which measures the expected price swings of an underlying asset and is a barometer of options prices, for contracts that lock in gains should the S&P 500 fall at least 10 percent in three months rose to 30.5 percent on June 12, data compiled by Bloomberg show.

That’s 42 percent higher than call options that enable traders to profit if the index rises at least 10 percent in the same period, the steepest so-called implied volatility skew since Sept. 19, four days after Lehman’s failure. “There’s nowhere to hide,” said Joseph Mezrich, the head of quantitative research at the U.S. brokerage unit of Nomura Holdings Inc. in New York. “The problem of correlations is growing, and I don’t think it goes away.”

Ilargi: Interesting video. And it’s not as Tyler suggests a slip, Levin lays it all out for everyone to see, and there's not one voice of protest. They all know what's going on, and they all like it.

This Market Continues To Be Propped Up By Government Intervention And Manipulation
Amusing to see the biggest propaganda voice for the administration and General Electric let this one slip. At 2:22 in the video below, Larry Levin discloses the truth about ongoing flagrant market manipulation.

Bond Dealers Say Worst May Be Over as Demand Soars at Sales
Wall Street’s largest bond-trading firms say the worst may be over for investors in Treasuries after government securities posted their biggest first-half losses in at least three decades.

The 16 primary dealers, which trade directly with the Federal Reserve and are obligated to bid at Treasury auctions, forecast the benchmark 10-year note yield will finish the year little changed at 3.58 percent, after rising from 2.21 percent at the end of 2008, according to a survey by Bloomberg News. The dealers, which include JPMorgan Chase & Co. and Goldman Sachs Group Inc., say the sell-off will slow after signs emerged this month that foreign buyers are scooping up record amounts of debt being sold by the Obama administration. Plus, yields at the highest since November are luring investors speculating that the economy’s recovery may be slow.

“We have seen an incredible amount of demand,” said Richard Tang, head of fixed-income sales at primary dealer RBS Securities Inc. in Stamford, Connecticut. “A lot of it is asset reallocation, out of risk assets and commodities. It’s been significant.” The firms have been accurate so far this year. A survey in January showed they predicted Treasuries would fall as efforts to spur the economy gain traction and the flight to safety that drove the best returns in government debt since 1995 waned. Ten- year notes would lose 3.5 percent, based on the median forecast of yields in January.

The value of U.S. government debt has actually declined 4.41 percent since December, and is on a pace to post a loss for only the third time since Merrill Lynch & Co. started calculating returns with its U.S. Treasury Master index in 1978. The index rose 14 percent last year as the global economy lapsed into the worst recession in six decades. If yields stayed constant for the remainder of the year, investors would still realize a loss for 2009 even after collecting interest payments.

Bonds rallied last week as indirect bidders, a class of investors that includes foreign central banks, purchased 67.2 percent of the record $27 billion in seven-year notes sold on June 25, or double the amount of bids than at the last sale in May. The ratio was also the highest since 2004 on the sale of a $37 billion in five-year notes the day before, while the $40 billion in two-year notes auctioned on June 23 attracted the most indirect bids in at least six years. Ten-year note yields dropped 24 basis points, or 0.24 percentage point, to 3.55 percent last week, and are down from the high of 4 percent on June 11, according to BGCantor Market Data. The yield dropped six basis points to 3.47 percent at 8:15 a.m. in New York.

“There was fear about central bank selling,” said Jeffry Feigenwinter, head of Treasury trading in New York at primary dealer BNP Paribas Securities. “When they showed up at these auctions, some of those fears were put to rest.” The surge in demand can’t be ignored even with a change in a rule that went into effect this month that may have raised the levels of indirect bids by eliminating a provision allowing some customer awards to be classified as dealer bids, said William O’Donnell, head of Treasury strategy at RBS.

The Fed’s holdings of Treasuries on behalf of central banks and institutions from China to Norway rose by $257.2 billion this year, or 15 percent, according to data compiled by Bloomberg. That compares with an increase of $127.3 billion, or 10 percent, in the first half of 2008. The U.S. relies on foreign investors to finance the federal budget deficit. About 51 percent of the $6.45 trillion in marketable Treasuries are held outside the U.S., up from 35 percent in 2000, according to data compiled by the government.

Concern that international investors would pull back from American financial assets have grown as the U.S. Dollar Index weakened 9.4 percent since February after President Barack Obama and Fed Chairman Ben S. Bernanke committed $12.8 trillion to thaw frozen credit markets and snap the longest U.S. economic slump since the 1930s. New York-based Goldman Sachs, another primary dealer, estimates that the U.S. may borrow a record $3.25 trillion this fiscal year ending Sept. 30, almost four times the $892 billion in 2008, to finance the budget deficit.

“The debt is expected to explode, as we all know,” said John Spinello, chief technical strategist in New York at primary dealer Jefferies Group Inc. “Will they maintain that 50 percent share? We don’t know.” People’s Bank of China Governor Zhou Xiaochuan said the nation won’t change its currency reserve policy suddenly, speaking to reporters at a central bankers’ meeting yesterday in Basel, Switzerland. The dollar fell against most of its major counterparts on June 26 after China repeated its call for a supranational currency “delinked” from sovereign nations. The People’s Bank of China said the International Monetary Fund should manage more of members’ foreign-exchange reserves.

“To prevent the deficiencies in the main reserve currency, there’s a need to create a new currency that’s delinked from the economies of the issuers,” the People’s Bank said in its 2008 review. China is the biggest foreign holder of Treasuries, with $763.5 billion as of April. The dealers are more optimistic on bonds than most forecasters. Their 3.58 percent yield estimate compares with the average of 3.74 percent in a survey of 63 strategists and economists in a Bloomberg survey that give a higher weighting to the most recent projections.

“It feels like a recovery is getting closer,” said Brian Wesbury, an economist at First Trust Advisors LP in Lisle, Illinois. Wesbury’s forecast that the 10-year yield would rise to 3.60 percent at the end of June was the most accurate among 53 participants in a Bloomberg survey in January. Wesbury, whose forecast was higher than that of any other economist by 0.35 percentage point, said yields will rise to 4.5 percent by year-end. “It could even be higher,” he said. “The Fed is more willing to risk inflation” than to risk choking off growth and risk another period of economic contraction, he said.

Consumer spending rose in May as benefits from the Obama administration’s stimulus plan spurred a jump in American incomes. The 0.3 percent increase in purchases was the first gain in three months, the Commerce Department said June 26. Earnings climbed 1.4 percent, the most in a year, driving the savings rate to a 15-year high. Another report showed consumer sentiment rose in June to the highest level since February 2008. Bernanke and his colleagues at the central bank are betting they’ll be able to pull back the credit support programs before overheating the economy and spurring inflation, which erodes the value of the fixed payments of bonds.

Total assets on the central bank’s balance sheet grew $1.17 trillion over the past year to $2.07 trillion as the Fed loaned to banks, commercial paper issuers, and purchased bonds outright to support the flow of credit to consumers and businesses. “Substantial resource slack is likely to dampen cost pressures, and the Committee expects that inflation will remain subdued for some time,” the Federal Open Market Committee said in a statement after the two-day meeting in Washington where it also kept the benchmark interest rate between zero and 0.25 percent. The rate will stay at “exceptionally low levels” for an “extended period.”

The Labor Department said on June 18 that its consumer price index fell 1.3 percent in the year ended in May, the most since 1950. The difference between rates on 10-year notes and Treasury Inflation Protected Securities, which reflects the outlook among traders for consumer prices, narrowed to 1.70 percentage points last week, from the high this year of 2.08 percentage points on June 10. Yield estimates among the primary dealers range from a low of 2.75 percent at New York-based JPMorgan to as high as 4.3 percent at Jefferies. An investor that bought 10-year notes at the end of last week would have a return of 1.8 percent if the median estimate proves accurate.

Bonds may also get support from a strengthening dollar, bolstering the case for foreign investors to hold U.S. assets. Strategists who came closest to predicting the greenback’s value against the euro this year project the currency to appreciate as much as 17 percent in the second half as the U.S. recovers from the recession faster than Europe. CIBC World Markets Plc, Deutsche Bank AG, Bank of America Corp. and Wells Fargo & Co. estimate the dollar will gain at least 3 percent by Dec. 31.

While central bankers have indicated they accept rising Treasury yields as long as they reflect expectations for an economic recovery, further increases may put such an outcome in jeopardy. Mortgage rates have risen in tandem with yields, potentially delaying a rebound in the housing market. The average 30-year mortgage rate increased to 5.59 percent earlier this month, the highest since November, before slipping to 5.42 percent in the week ended June 25, according to Freddie Mac, the McLean, Virginia-based mortgage-finance company.

David Rosenberg, the former chief North American economist at Merrill Lynch and the current chief economist at Toronto- based wealth manager Gluskin Sheff & Associates Inc., had the lowest forecast for 30-year Treasuries among primary dealers last year. He continues to predict gains for bond investors. “The markets, rightly or wrongly, pricing out the recession as quickly as it did was a surprise to me,” Rosenberg said. “It’s one thing to price out a recession, it’s another thing to price in a vigorous recovery.”

Homeowner Delinquencies Getting Worse
Some folks out there still seem to think the housing market is bottoming or even turning around. It's not. Freddie Mac is out with its latest housing market update, with a wealth of data on the housing market from its perch. One graph that stuck out for us: total delinquencies near 2.5% are way beyond the GSE's historical norms. When the numbers for things like delinquencies or foreclosures start to flatten or turn around, we can start talking about a turnaround. Granted, like the Case-Shiller series, some will say this particular chart is 3-months old, though nothing we've heard since the end of March suggests things are much different.

Fannie portfolio jumps 35%, delinquencies mount
Fannie Mae said its gross mortgage portfolio grew at a 35.1 percent annual rate in May, after a 19.2 percent drop in April, while the serious delinquency rate on loans it guarantees accelerated. Mortgage holdings of the largest U.S. home funding company rose to $789.6 billion from $770.1 billion the prior month and from $787.3 billion at the end of last year, Fannie Mae said on Monday.

The capital-constrained company, which the government took over along with Freddie Mac in September 2008, can expand its portfolio to $900 billion before starting to reduce it next year. The rate of serious delinquent payments on single-family mortgages that Fannie Mae guarantees jumped 27 basis points to 3.42 percent in April, the latest data available. A year earlier, the rate was 1.22 percent. On the multifamily side of the business, the serious delinquency rate rose 2 basis points to 0.36 percent, four times the 0.09 rate a year earlier.

The company said its mortgage refinance volume rose to $57 billion in May and that it should stay above historical norms for the near term. Fannie Mae started accepting refinance mortgages under the government's Making Home Affordable Program in April. "We expect that the MHA Program will bolster refinance volumes over time as major lenders adopt necessary system changes and consumer awareness continues to build," the company said in its monthly summary.

Fannie Mae provided $71.6 billion of liquidity to the market in May through $67.7 billion of mortgage-backed securities issuance, excluding whole loan securitizations held in the portfolio, and $3.9 billion in net retained commitments last month. It securitized $61.4 billion of whole loans held for investment in its portfolio in May. On Friday, Freddie Mac said it reduced its mortgage investments by an annual 9.9 percent rate in May to $823.4 billion. Single-family delinquencies rose to 2.62 percent, more than triple the 0.86 percent a year earlier.

Ilargi: James Lockhart is one of the main and worst enablers of the finance industry in the US. He completely screwed up the OFHEO, only to be promoted to lead the bigger FHFA, regulator of Fannie Mae, Freddie Mac and the 12 Federal Home Loan Banks. He's served two Bush presidents Social Security Administration and has been used as Secretary to the Social Security Board of Trustees, on W’s Management Council and its Executive Committee, and as CEO of the Pension Benefit Guaranty Corporation. As their direct regulaor, he's turned Fannie and Freddie into the mess they were when they were taken over last September. His punishment for failure? Heading the next -and bigger- regulator of the same companies. If you need one reason to NOT trust the Obama administration, it’s the fact that Lockhart sits where he sits. Closing down Fannie and Freddie is the best, and down the line only, solution. But if that is too much for now, opening their books tomorrow morning is the very least that should be done.

Fixing the Mortgage Market

Wary Banks Hobble Toxic-Asset Plan
The government's plan to enable banks to dump troubled assets is facing troubles of its own. Markets initially rallied when Treasury Secretary Timothy Geithner announced in March a two-pronged plan to offer favorable government financing to entice investors to buy bad loans and toxic securities from banks. But that initiative -- called the Public-Private Investment Program, or PPIP -- has lost momentum. Big banks worried about having to sell at fire-sale prices while small banks feared they would be shut out. Potential buyers balked at the risk of doing business with the government, concerned that politicians might demonize them for making big profits.

The program's problems threaten to stymie efforts by struggling smaller banks, in particular, to clean up their balance sheets. That in turn could hinder efforts to revive the nation's economy. A look at why the program has stumbled underscores how difficult it has been to solve one of the economy's biggest problems: Mountains of bad debt sitting on the books of the nation's banks. As those loans and securities lose value, they are saddling the banks with losses and constricting their ability to lend.

U.S. officials and investors are playing down expectations for the plan -- originally billed as a $1 trillion endeavor. Some federal officials say the banking environment has improved since the program was unveiled. They assert that because a dozen or so big banks recently succeeded in raising capital, they are under less pressure to sell bad assets. Early this month, the Federal Deposit Insurance Corp. essentially shelved one arm of PPIP -- the government-financed buying of bad bank loans.

Mr. Geithner recently said the other part -- to facilitate the buying from banks of troubled securities, many backed by real-estate loans -- could be scaled back because investors are "reluctant to participate." This week, the government is expected to name investment firms to manage this securities-buying portion.\ "The fits and starts on all this stuff has added to the uncertainty that makes [investors] stay on the sidelines," says Trabo Reed, the deputy banking superintendent in Alabama, where many small and midsize banks are looking for cash infusions from investors.

Lee Sachs, counselor to the Treasury secretary, says the department remains committed to the program and has received more than 100 applications from would-be investment managers. "One of the goals of the PPIP program has been to help create liquidity in frozen markets," he says. "Some banks will sell assets. Even those that do not will benefit from the greater ability to value the assets they hold." The slimmed-down program will focus not on bad loans, but on toxic securities, which are a problem for a relatively small fraction of the nation's banks.

That is bad news for hundreds of smaller banks burdened with growing piles of defaulted loans. These banks are less able to tap capital markets than their larger rivals, so they have been eager for U.S. help unloading loans as a way to bolster their capital cushions. Many of them can face big problems if just one or two large loans go bad. Seventy banks, most of them community institutions, have failed since the start of last year. Analysts are bracing for hundreds of lenders to collapse in the next few years.

Because these lenders often play key roles supporting their local economies, taken together, they are important to the financial system and to a U.S. economic recovery, says Kenneth Segal, senior vice president at Howe Barnes Hoefer & Arnett Inc., an advisory firm for small and midsize lenders. During the last banking crisis, nearly two decades ago, the government established the Resolution Trust Corp. to sell off the bad loans and securities of banks that had failed. Many experts credit the RTC with helping defuse that crisis.

This time around, efforts to rid banks of soured assets have sputtered repeatedly. In late 2007, federal officials helped cobble together a plan for a bank-financed fund to buy securities held by bank investment funds, but the effort was aborted. In 2008, the Bush administration established a $700 billion program to buy banks' soured assets. Partly because of the complexity of valuing those assets, the U.S. abandoned that plan, instead opting to directly pump taxpayer money into banks. Scott Romanoff, a Goldman Sachs Group Inc. managing director, has referred to the current effort, PPIP, as "the greatest program that never occurred," because it "created confidence in the markets so banks can raise equity capital."

In recent weeks, markets have lost some vigor amid renewed concerns about the economy. That could make it more difficult for big banks to raise additional capital. Banks also could face further losses as bad assets decline more in value. On March 23, when Mr. Geithner unveiled PPIP, the Dow Jones Industrial Average surged nearly 500 points, or 7%, its biggest gain since October, on hopes that the program would nurse the banking industry back to health.

Many bank executives were skeptical about whether the program could succeed. Even before it was announced, some had grumbled that federal officials weren't consulting them, and instead were crafting the initiative with input from would-be investors. Some banking executives say they warned that they would be loath to sell at the kind of prices investors were likely to demand. Executives at Citigroup Inc. shared those concerns, according to people familiar with the matter. While the New York bank was sitting on at least $300 billion of risky loans and securities, selling them at discounted prices would require painful hits to its already thin capital ratios, these people say.

Some Citigroup executives had a different idea: Maybe they could turn a profit by bidding on their own toxic assets at discounted prices, using government financing, according to the people familiar with the talks. Other big banks also talked about setting up distressed-asset units to snap up troubled loans and securities, including from their parent companies, with taxpayer financing.

FDIC Chairman Sheila Bair later publicly shot down the idea. Citigroup declined to comment. Meanwhile, many small-town bankers hoped the program would help them unload the bad assets -- generally loans to finance commercial real-estate projects -- that were hurting their balance sheets. Some potential buyers had surfaced before PPIP was announced, but they were offering such low prices that few banks could afford to sell the loans without severely denting their capital cushions.

The hope was that PPIP would help narrow the gap between buyers and sellers. Investors would be able to bid more because the government would offer buyers little-money-down financing, along with some downside protection. "We have illiquid assets," says Patrick Patrick, chief executive of Towne Bancorp of Mesa, Ariz. "It would be helpful to have a vehicle where you could sell them at market and be able to restructure our balance sheet." Like many small banks, Towne Bancorp has been hurt by a handful of loans to finance real-estate projects that went belly up.

In the first quarter, the bank said two souring commercial real-estate loans caused its portfolio of loans at least 90 days past due to swell by 52%. Such loans represent more than 22% of Towne Bancorp's $143 million in assets. The company has been trying for months to sell 19 pieces of real estate -- including undeveloped land and a warehouse -- that it seized when loans went into default.

When PPIP was announced, big-name investors were intent on figuring out how to profit from it. Raymond Dalio of giant hedge-fund firm Bridgewater Associates, which oversees $72 billion in assets, initially expressed interest in participating. But within days, he was blasting it, saying buyers and sellers would have difficulty agreeing on pricing and fund managers that profited would be exposed to criticism from politicians. The way PPIP is set up "makes us not want to participate and it makes us question the breadth of interest that we will see in the program," he wrote to clients.

Lawyers for hedge funds and private-equity investors warned clients about the risks of doing business with the government. The industry was unnerved by the restrictions placed on banks participating in another federal bailout program, the Troubled Asset Relief Program. Fund managers were also bothered by President Barack Obama's criticism of the hedge funds holding Chrysler LLC debt who had refused the government's buyout offers. In conference calls with bankers and investors, FDIC officials emphasized that PPIP was critically important to cleanse banks of their bad assets. "I think you know the stakes are very high with this," Ms. Bair, the FDIC chairman, said during a March 26 call, according to a transcript. "We need this program to work."

Ms. Bair and her deputies encountered skepticism. In an April 9 conference call with the FDIC, Mark Wolf of TRI Investments LLC, described his Carlsbad, Calif., firm as a potential PPIP bidder. "Unless you've got a process that either forces banks to sell or does a better job of encouraging them to sell, we're just going to see banks sitting back and dribbling these things out through an eyedropper over the course of time," he said. Some bankers were hesitant. "If these loans are bought at a discount, we create a hole in capital," Lou Akers, executive vice president of Adams National Bank in Washington, told FDIC officials on the March 26 call. He suggested that regulators consider changing the way they calculate banks' capital in order to cushion the blow. Government officials were noncommittal, a transcript of the call indicates.

FDIC officials emphasized on the conference calls that PPIP was intended to benefit all banks, not just industry giants. But smaller banks began to worry they'd be locked out. To participate in PPIP, local lenders were told, they would have to pool their loans with other banks. The process, which the FDIC said it would facilitate, was designed to simplify the bidding process for government officials and prospective investors. The agency didn't want thousands of banks put their loan portfolios on the block separately. But the FDIC planned to require participating banks to kick in a minimum amount of assets, and some small-town bankers worried they wouldn't have enough to qualify.

Too high a minimum "will virtually eliminate all community banks from being able to participate in this program," wrote Julian L. Fruhling, president of Legacy Bank in Scottsdale, Ariz., in a letter to the FDIC. Still, some investment firms that were hoping to help manage the government's program were optimistic. Laurence Fink, chief executive of BlackRock Inc., said in mid-April during a trip to Japan that if his firm is selected as a manager, it was ready to raise $5 billion to $7 billion to buy securities through PPIP. He said he hoped to raise money from individual investors in Japan and the U.S., and that potential returns could be as high as 20%.

The FDIC and other regulatory agencies were planning to use their "stress tests" of the nation's top 19 banks to push them to sell assets via PPIP, according to people familiar with the matter. But in the weeks before the stress-test results were announced in May, market sentiment began to improve. A number of banks succeeded in raising capital by selling new shares to the public. Once the stress tests were wrapped up in May, even more banks sold shares -- a total of roughly $65 billion within a month. The capital-raising removed regulators' leverage to encourage participation in PPIP, according to government officials.

Around the same time, BlackRock reduced its goal for the size of its potential PPIP investment fund to about $1 billion, say people familiar with the matter. Earlier this month, the FDIC formally postponed the loan-buying portion of PPIP, called the Legacy Loan Program. "Banks have been able to raise capital without having to sell bad assets through the LLP, which reflects renewed investor confidence in our banking system," Ms. Bair said.

Next month, the FDIC intends to use PPIP for a far narrower purpose: to auction loans the agency has seized from failed banks. Eventually, it hopes to resuscitate the loan-buying program so that smaller banks can benefit from it. But that could be tricky. The U.S. initially justified PPIP by invoking its "systemic risk" powers, which enable regulators to step in when the financial system is at risk. Regulators have debated whether such a justification would remain if the program were geared toward smaller banks. FDIC officials doubt they will muster the necessary consensus among regulators to invoke the special powers and keep the loan program alive, according to a person familiar with the matter.

Many banking experts contend that the financial system won't fully stabilize until banks get rid of their bad assets. Mr. Segal, the bank adviser, complains that federal officials have cited recent capital raising by big banks as evidence that "the system is OK." That may be true "for the top 15 or 20 banks," he says. "But for everybody else, there really needs to be more attention paid."

China's banks are an accident waiting to happen to every one of us
China's banks are veering out of control. The half-reformed economy of the People's Republic cannot absorb the $1,000bn (£600bn) blitz of new lending issued since December. Money is leaking instead into Shanghai's stock casino, or being used to keep bankrupt builders on life support. It is doing very little to help lift the world economy out of slump.
Fitch Ratings has been warning for some time that China's lenders are wading into dangerous waters, but its latest report is even grimmer than bears had suspected. "With much of the world immersed in crisis, China appears to be one of the few countries where the financial system continues to function largely without a glitch, but Fitch is growing increasingly wary," it said. "Future losses on stimulus could turn out to be larger than expected, and it is unclear what share the central and/or local governments ultimately will be willing or able to bear."

Note the phrase "able to bear". Fitch's "macro-prudential risk" indicator for China threatens to jump from category 1 (safe) to category 3 (Iceland, et al). This is a surprise to me but Michael Pettis from Beijing University says China's public debt may be as high as 50pc-70pc of GDP when "correctly counted". The regime is so hellbent on meeting its growth target of 8pc that it has given banks an implicit guarantee for what Fitch calls a "massive lending spree". Bank exposure to corporate debt has reached $4,200bn. It is rising at a 30pc rate, even as profits contract at a 35pc rate.

Fitch traces the 2009 bubble to the central bank's decision to cut interest on reserves to 0.72pc. Bankers responded to this "margin squeeze" by ramping up the volume of lending instead. Over half the new debt is short-term. Roll-over risk is rocketing. China's monetary stimulus since November is arguably more extreme than the post-Lehman printing of the US Federal Reserve, though less obvious to the untrained eye. Under the Taylor Rule, US policy remains tight (for the US). China's policy is loose (for China). New loans doubled in May from a year earlier, almost entirely to companies.

China's Banking Regulatory Commission fired a warning shot last week. "The top priority at the moment is to stop explosive lending. Banks should carefully monitor the process of credit approval and allocation, and make sure that loans flow into the real economy," it said. Unfortunately, 40pc of the "real economy" consists of exports, mostly to the US and Europe, the consequence of a mercantilist export model that has qcrashed and burned. Chinese exports were down 26pc in May.

World trade may be stabilizing at last after contracting at faster rate than during the early Great Depression. But it will not rebound fast in a world where the US savings rate has risen to a 15-year high of 6.9pc. A trade policy based on the assumption that debtors in the Anglosphere and Europe's Club Med can ruin themselves for ever is absurd. Andy Xie, a Sino-bear and commentator for Caijing, said Western analysts are in for a rude shock if they think that China's surging demand for raw materials implies genuine recovery.

Commodity speculators have been using cheap credit to play the arbitrage spread between futures and spot on the oil markets. They have even found ways to trade lumber to iron ore by sheer scale of leverage. "They've made everything open to speculation," he said. Mr Xie thinks the spring recovery is an inventory spike, to be followed a double-dip downturn into next year as stimulus wears off. Reformers know what must be done to boost consumption. China needs a welfare revolution. But creating a social security net takes time, and right now Beijing is facing a social crisis as 20m jobless workers retreat to the rural hinterland.

So the regime is resorting to hazardous methods to keep excess factories humming: issuing a "Buy China" decree: using a plethora of export subsidies; holding down the price of coke, bauxite, zinc and other resources to lower production costs (prompting a complaint from America and Europe); and suppressing the yuan, again. Protectionism is a risky game for a country that lives off global trade and runs a surplus near 10pc of GDP. Mr Pettis said he fears China is nearing its "Smoot-Hawley moment", repeating the US tariff blunder of 1930 that brought the world crashing down on Washington's head.

Two facts stand out about China's green shoots. While the Shanghai composite index is up 70pc since November, Chinese imports are down 25pc from a year ago. China is still draining real stimulus from the global economy. If the world's biggest surplus state ($400bn) is too structurally deformed to help offset the demand shock as Western debtors retrench, we are trapped in a long deflation slump.

China's Banks Warned on Loan Risks
The People's Daily newspaper has warned China's banks about the risks of loans they are pouring into state infrastructure projects, calling into question the safety of billions of dollars of debt backed by local governments around the country. China's banks have unleashed massive credit this year following a government order to help finance public works construction aimed at pumping up the domestic economy. But banks should not assume that such loans, backed by local governments, are risk-free, the Communist Party newspaper said in a commentary on Monday.

The People's Daily has lost some of its authority in recent years, but it can still reflect the thinking of China's top leaders. Chinese banks have lent freely to state-owned enterprises and local governments, partly on expectations that the central government will ultimately underwrite the risk. Stimulus lending in the first six months of the year is likely to exceed six trillion yuan ($878 billion), more new credit issued than in any year since the People's Republic of China was founded in 1949, the paper said.

Some lenders have let credit standards slip for stimulus loans even though such loans could bear some risks in the long term, the paper said. Most of the lending goes to railroad, highway and airport building projects that eventually are handed over to local governments to manage, and it's the local authorities -- not central government -- that will guarantee loan repayments, it said. Banks often lack accurate and full information about local governments and their financial viability, increasing their credit risks, it said. Lenders' asset quality undoubtedly will suffer if local governments later find themselves in financial trouble, it said.

"In the short run, it appears that [stimulus lending] is risk-free. But in the long term, there are some local government projects that may not yield high returns and the payback could be due long into the future. Such projects may not generate enough cash flow for either the principal or interest payments," the paper said.

The commentary marks the latest sign of official concern that stimulus lending could be creating long-term problems for the economy. China's bank regulator has been urging commercial banks to step up due diligence and scrutinize borrowers more closely to ensure that loans are not misused. "China's bank lending numbers have caught the attention of many people. Banks need to realize people now regard lending risks as a social problem rather than one confined to the banking system," said Wang Zili, a vice-chairman of the graduate school of the central bank.

Financial Regulation: Industry Objections Increasing
Obama's plan for financial reform has sparked a growing chorus of protest from banks, hedge funds, and other interests. It wasn't so long ago—against the backdrop of the financial crisis and its aftershocks, amid a tide of popular anger—that financial-industry representatives took pains to acknowledge the need for financial reform, even in their own corners of the sector. That's beginning to change. While few are arguing against revamping regulation generally, lobbyists and industry trade groups are increasingly arguing that policymakers should tread lightly when it comes to their particular constituents.

The ever more vocal objections began right around the time that the Obama Administration unveiled its omnibus proposal for financial regulation, on June 17. Now banks are pushing hard to fend off a new accounting rule that would force them to put many off-balance-sheet assets back onto their books, and thrifts are fighting to keep the widely criticized Office of Thrift Supervision from being merged with other bank regulators. Hedge funds are calling for caution on rules that go beyond basic registration of the investment pools.

The derivatives industry's supporters in Washington are warning that proposals to require increased transparency and more systematic markets for the complex financial instruments could drive up costs for a variety of financial and industrial companies. And the U.S. Chamber of Commerce, which called consumer-protection improvements a key part of reform earlier this year, is fighting against the Administration's proposed Consumer Financial Protection Agency.

It amounts to a kind of regulatory NIMBYism ("not in my backyard")—predictable, perhaps, once proposals for reform began to coalesce, starting with the Administration's 80-plus-page white paper. "I think the NIMBYism started once we had something to shoot at—before that, it wasn't really real," says Scott Talbott, a lobbyist for the Financial Services Roundtable, which represents large financial companies. "Then once we have the legislative language, the real fights will begin." That could be soon. Treasury Secretary Timothy Geithner has said the agency could propose legislative language to create the new Consumer Financial Protection Agency within a few days.

But Brian Gardner, a policy analyst for Keefe Bruyette & Woods (KBW) in New York, said the new tack is to be expected—and is also driven by lessons from the push for health-care and energy legislation. "It's pretty natural that they start to try and figure out what's in their interest and how to mold it in ways that can either prevent harm or do something they can take advantage of," Gardner says. At the same time, he notes, "Washington is working quicker than people are used to, so I think people are getting attuned to working quicker."

For its part, the Chamber of Commerce says it's not opposing the idea of improving consumer protection. But the group says that creating another government agency is the wrong way to go about it. "That's precisely the type of patchwork quilt that got us into trouble in the first place," says Tom Quaadman, the group's executive director for financial reporting policy. A hedge fund industry official said fund managers are embracing registration—roughly three-quarters of funds have registered voluntarily—but remain wary of more extensive restrictions. Fund managers have had hundreds of meetings on Capitol Hill in recent months. "We're very supportive of what [the Administration is] trying to do, but the devil's in the details," says the official. Of course, industry isn't alone in getting more vocal.

Consumer and investor advocates, and political groups supporting Democratic proposals, are ratcheting up the volume as well. In an e-mail to news organizations and others, Americans United for Change—a group formed to fight Bush Administration policies that now throws its weight behind Obama's initiatives—blasted the Securities Industry & Financial Markets Assn. (SIMFA) after Bloomberg News reported the financial group was mounting a campaign against "populist" criticism of the industry. "What are they going to call their new PR campaign: The 'Thanks for the Bailout, Suckers—Now Quit Whining' Tour?" Tom McMahon, acting executive director of Americans United for Change, was quoted as saying in the e-mail.

SIFMA President Timothy Ryan told Bloomberg the group has advocated more government power to unwind financial firms that don't own banks: "This effort, which is not uncommon for a trade association, is designed to ensure our ideas for improved accountability, oversight, and transparency are heard by the widest possible audience." "It's a strategy to try to split people on Capitol Hill and try to confuse people," says Ed Mierzwinski, consumer program director for the U.S. Public Interest Research Group, a consumer advocacy organization in Washington that recently joined with dozens of others to form Americans for Financial Reform. "It's an attempt to blame it on the other guy—they're hoping to water down reform, deflect criticism of their industry."

Paper Avalanche Buries Plan to Stem Foreclosures
Somewhere on earth, there must be a more difficult task than this: persuading American mortgage companies to lower payments for homeowners who can no longer afford their loans. But as Karina Montenegro struggles to accomplish this feat for a troubled borrower, she strains to imagine a more futile pursuit. Ms. Montenegro, an intern at a local company that seeks loan modifications, dials Washington Mutual to check on the status of an application for a homeowner whose income has plummeted.

She endures a Muzak-scored purgatory while on hold. Syrupy-voiced customer service representatives chide her for landing in the wrong department. She learns that the documents her company sent in have simply vanished — for the third time since November. “I don’t know what happened,” says a customer service officer who identifies himself as Chris. “I don’t know if there was a glitch in the system, whether it was transferred from one call center to the other.”

Think of the documents as being part of a pile massing inside the bank, Chris suggests. “This pile is not going to be moved forward at any point in time.” Ms. Montenegro and her colleagues suffer these sorts of excruciating exchanges all day long. It is a potent indication of the difficulties afflicting the $75 billion taxpayer-financed program created by the Obama administration in an effort to avoid foreclosure for as many as four million distressed homeowners.

Under the plan, the government offers mortgage companies $1,000 for each loan they agree to modify, then another $1,000 a year for up to three years. Hanging in the balance is more than the fate of individual homeowners. The administration portrays its mortgage program as a crucial piece of its broader effort to restore vigor to the economy. If the effort fails, foreclosures will continue to surge and home prices will probably keep falling, sowing fresh losses in the financial system and threatening to crimp credit anew for businesses and households.

Yet in the four months since the Treasury Department announced the program, millions of new homeowners have slipped into delinquency and foreclosure. For now, progress is constrained by the limited capacities of mortgage servicing companies, said Michael S. Barr, the assistant Treasury secretary for financial institutions. He offered the first signs of the administration’s impatience with the institutions that control home loans.

“They need to do a much better job on the basic management and operational side of their firms,” Mr. Barr said. “What we’ve been pushing the servicers to do is improve their infrastructure to make sure their call centers are doing a better job. The level of training is not there yet.” The administration still does not know how many mortgages have been modified under the program. In a recent interview, Mr. Barr estimated the number at “over 50,000,” explaining that precise figures must wait for a soon-to-be-completed tracking system.

By the end of August, the program should produce 20,000 loan modifications a week, he said. Tom Kelly, a spokesman for JPMorgan Chase, which now owns Washington Mutual, affirmed the administration’s criticism. “We’ve done a lot,” he said, noting that the bank has added 950 loan counselors since the beginning of the year, bringing the total to 3,500. “But we’ve got a lot more to do.”

Two days in Los Angeles — where a loan modification company allowed a reporter to listen as its agents contacted mortgage servicers provided the firm not be named — starkly illustrated the problems. The company charges homeowners $3,000, typically upfront, as it seeks to persuade lenders to rewrite loan documents so as to lower monthly payments. The company says it refunds the money when it fails to secure a modification.

For Ms. Montenegro, a college student at the University of Southern California, her summer job makes for fitting symmetry. In high school, she worked as a clerk at a Washington Mutual branch in Downey, Calif., which specialized in mortgages that invited customers to make such tiny payments that their balances increased. Many homeowners did not understand the terms: Once they owed a lot more than their house was worth, their payments spiked. Now, that day has come, and Ms. Montenegro is working the other side. She calls WaMu, as the bank is known, trying to cut deals.

Among her clients is Vladimir Vishmid, who owes $490,000 on the mortgage for his three-bedroom home in the Sherman Oaks section of Los Angeles. Mr. Vishmid’s income as a self-employed computer engineer has plummeted, making it hard for him to make his $2,542 monthly payments. He is current on his loan, he says, but behind on his car insurance and utilities.

Software on Ms. Montenegro’s computer logs the details of the three applications her company has submitted for Mr. Vishmid. Chris, the WaMu representative, is telling her to send in No. 4. “Personally, I’d submit a new file,” Chris counsels. “I’m telling you honestly, anything over 30 days is a new submission for us.” For Ms. Montenegro, “honestly” is one of those words marinated in so much irony that her eyes roll. Two weeks earlier, she called the bank to check on the file and was told it was being reviewed. Now, it has disappeared.

“So, if I wouldn’t have called, we wouldn’t have known?” Ms. Montenegro scolds. “It would have just sat in the queue and nothing would have happened,” Chris says. “I wish I had a better explanation.” In the same office, Ms. Montenegro’s colleague, Sean Milotta, has run into a problem on a loan billed by American Home Mortgage Servicing. Though the borrower appears eligible for the Obama administration plan, the company refuses to take an application because the loan is owned by an investor who is unwilling to absorb a loss.

In another office down the hall, Ramin Lavi, 27, has picked up the file of Alice Descovich, who is seeking to shave down the $708,000 she owes on a mortgage serviced by WaMu for her home in Alameda, Calif. As the interest rates reset in coming months, it will become even harder for her to make the payments, which are now $4,400 a month. A note in the system shows that the bank confirmed receiving documents on April 29 — pay stubs, tax returns, a letter disclosing her hardship, bank statements. Since then, the company has been waiting for WaMu to review the file.

But when Mr. Lavi calls, a representative coolly discloses that the application has been rejected because one document, a proof-of-insurance form, is missing. He must start over. “The file had been submitted properly, and you didn’t put the pieces together,” Mr. Lavi says, his body quivering with anger. “I’m not going to stand in line again for another six months.” He demands to speak to a supervisor, but the representative says none is free.

He hangs up and redials, hoping to land in a different call center. Eventually, he reaches Chase’s executive offices, where Becky takes over the call. “We’re not taking cases now,” she says calmly. “Why was I transferred to you?” Mr. Lavi asks. Becky does not know. He implores her to keep the file open while he faxes in the lone missing document. “Impossible,” she says, warning of “the sheer amount of papers coming in.”

Another agent, Lee Wasser, props his feet on an adjacent desk chair as he waits on hold for more than 20 minutes to speak with GMAC Mortgage. His clients, Dean and Nancy Piercy, owe $380,000 on the loan for their home in Shasta Lake, Calif. A logger, Mr. Piercy has lost work hours, making it hard for them keep up with their $2,048 monthly payment — soon set to rise.

Mr. Wasser has already negotiated a solution: GMAC will accept only $270,000 in repayment, allowing the couple to get a fixed rate mortgage from another bank. But that suddenly is in disarray. The Piercys have been making their payments, but GMAC has been putting their checks aside, holding the money as “loss mitigation fees,” until their application is completed.

It has notified credit bureaus that their loan is more than 90 days delinquent, which has lowered their credit score, disqualifying them for the next mortgage. Mr. Wasser reaches GMAC’s loss mitigation department. He asks for the delinquency to be removed from their status. But that must be handled by a different department: customer service. He is transferred there, where Jessica picks up the call.

“We are not going to amend,” she says, after a strained back and forth. If Mr. Wasser wants it otherwise, he will have to talk to loss mitigation. “I just talked to them five minutes ago,” he tells Jessica. “No, you didn’t.” “Are you accusing me of lying?” Mr. Wasser asks for Jessica’s employee identification number, but the line goes dead. Jessica has apparently hung up.

Mounting Jobless Claims Force States To Borrow Funds
The government checks keeping Candy Czernicki afloat are fast running out. The reason? U.S. states obligated to pay benefits to the swelling ranks of jobless Americans are piling debt onto strained budgets. Fifteen states have depleted their unemployment insurance funds so far, forcing them to borrow from the U.S. Treasury. A record 30 of the country's 50 states are expected to have to borrow up to $17 billion by next year, said Rick McHugh of the National Employment Law Project, a nonpartisan advocacy group.

"We are setting the stage for big pressures for states to restrict eligibility and benefit levels," McHugh said. "Those type of restrictive actions undercut the (Depression-era program's) economic and social stability purposes." The state-run unemployment insurance programs are normally financed with payroll taxes paid by employers on each worker. But the funds' tax revenues are falling at the same time as benefit demands are rising.

Nine million Americans are receiving jobless benefits, triple the number who got checks at the beginning of the year. Experts predict the number of recipients will peak sometime this summer as long-term unemployed run out of benefits, which were recently extended and last for 59 weeks in most cases. "I believe I have two months of benefits left," said Czernicki, 44, who was laid off from her Eau Claire, Wisconsin, newspaper editing job last year.

"I am living with my sister because, after eight months of unemployment, I couldn't be living on my own any more," she said. "I don't think my sister will throw me out. I know at least that I am not going to be homeless." Jonathan Cohen was laid off by a New Jersey nonprofit a few months ago and is growing discouraged. Competition for available jobs is fierce and he fears his monthly unemployment insurance checks will stop before he lands a new position. "Once unemployment runs out then I'm 100 percent drawing down on my savings," Cohen said. "I'm hoping that as the (federal) stimulus money gets through the pipelines you'll start to see more openings."

The majority of states that did not foresee the recession's devastating impact and failed to create an adequate cushion in their unemployment insurance funds may seek to raise payroll taxes, meeting resistance from employers, experts predicted. "State unemployment taxes will have to go up, but unemployment will have to come down," said Andrew Stettner of the National Employment Law Project. The financial stress on states is only part of a larger budget debacle most face. Forty-six states have collective budget deficits totaling at least $130 billion, according to the Center on Budget and Policy Priorities, and lawmakers are having to make unpalatable choices between tax increases and spending cuts.

The $787 billion federal stimulus package offered the states $7 billion to expand who qualifies for unemployment benefits, and to extend the length of time benefits are paid to 59 weeks from 26. The package also permitted states to borrow interest-free through 2010 but the money must be repaid. The last time so many states needed to borrow because of depleted unemployment insurance funds was in the 1980s. "It's nothing new and it has been done before. So far ... not one unemployment check has bounced in this country and it just won't happen," said Diana Hinton Noel of the National Council of State Legislatures.

One difference is the current recession is broader and has spared few states. The economy shed more than 500,000 jobs in each of the first four months of the year and the U.S. jobless rate is expected to climb above 10 percent by year-end. Michigan, which of all the states had the highest unemployment rate in May at 14.1 percent, has doubled borrowings for its unemployment insurance fund to more than $2 billion since the beginning of the year. California owes the federal treasury nearly $1.5 billion and New York owes more than $1.3 billion, up from $358 million in January.

A few years ago, Texas sold up to $500 million in municipal bonds to meet its unemployment insurance obligations. Jobless benefits are typically about half the worker's last salary. European countries are more generous, paying 60 percent to 80 percent of a worker's lost wages for at least a year. A recent U.S. survey by, an online job search Website, concluded that 23 percent of jobless Americans rely on unemployment checks to get by. The checks often supplement meager earnings from part-time or temporary jobs.

"I have been taking just about anything but I don't know if I am going to be steadily employed," said Harvey, 53, a Milwaukee, Wisconsin, salesman who declined to give his last name. He was let go a year ago by a store selling recreational vehicles when customers stopped showing up. "When you lose your job, your bills don't stop, they keep coming in. It's a tough market out there. I have lowered my standards, taken odd jobs. No one wants to pay you benefits or a decent wage," he said.

California may be forced to issue IOUs starting Wednesday
California officials say they're preparing to issue IOUs to creditors this week as the state gets ready to enter the new fiscal year awash in red ink. Facing a budget deficit of $24 billion, California has the questionable distinction of having the worst credit rating in the United States, the Financial Times reported. Despite the huge cash crunch, Gov. Arnold Schwarzenegger and state lawmakers can't agree on a budget that would address the shortfall.

California's fiscal year ends Wednesday but because its cupboard is bare IOUs will be issued to a number of creditors, including contractors, and even the federal government. California contributes money for government-run programs for elderly and developmentally disabled but is considering issuing notes to cover its contributions because of the lack of cash.

Democratic and Republican lawmakers struck an agreement last week on a number of money-saving measures. However, Schwarzenegger vetoed the plan, saying it as a piecemeal solution to California's budgetary woes. "On Wednesday we start a fiscal year with a ?massively unbalanced spending plan and a cash shortfall not seen since the Great Depression," said state Controller John Chiang. "Unfortunately, the state's inability to balance its checkbook will now mean short-changing taxpayers, local governments and small businesses."

California's Ailing Economy Could Prolong US Recession
California faces a $24 billion budget shortfall, an eye-popping amount that dwarfs many states' entire annual spending plans. Beyond California's borders, why should anyone care that the home of Google and the Walt Disney Co. might stop paying its bills this week? Virtually all states are suffering in the recession, some worse than California. But none has the economic horsepower of the world's eighth-largest economy, home to one in eight Americans.

California accounts for 12 percent of the nation's gross domestic product and the largest share of retail sales of any state. It also sends far more in tax revenue to the federal government than it receives _ giving a dollar for every 80 cents it gets back _ which means Californians are keeping social programs afloat across the country. While the deficit only affects the state, California's deepening economic malaise could make it harder for the entire nation's economy to recover. When the state stumbles, its sheer size _ 38.3 million people _ creates fallout for businesses from Texas to Michigan.

"California is the key catalyst for U.S. retail sales, and if California falls further you will see the U.S. economy suffer significantly," said retail consultant Burt P. Flickinger, managing director of Strategic Resource Group. He warned of more bankruptcies of national retail chains and brand suppliers. Even if California lawmakers solve the deficit quickly, there will likely be more government furloughs and layoffs and tens of billions of dollars in spending cuts. That will ripple through the state economy, sowing fear of even more job losses.

Californians have already been scaling back for months as the state's unemployment rate has climbed to a record 11.5 percent in May. Increases to the income, sales and vehicle license taxes approved by lawmakers and Gov. Arnold Schwarzenegger in February acted as a further drag on spending. Personal income declined in California in 2008 for the first time since the Great Depression, and income tax revenue fell by 34 percent during the first five months of this year.

The decrease in spending is especially evident in automobiles. California is the nation's largest single auto market, and sales are down 40 percent from last year. Auto dealers see little hope of a quick turnaround, especially after a 1 percentage point increase in the state sales tax and hike of the vehicle license fee. State agencies also canceled contracts for hundreds of new vehicles, retroactive to March, said Brian Maas, director of government affairs for the California New Car Dealers Association.

Because California's $1.7 trillion annual economy is so important, the state's treasurer has asked for federal help _ in the form of a guarantee that would allow California and other states to take out short-term loans at lower interest rates. A federal guarantee would cut the interest rate on the state's borrowing by as much as half, saving California taxpayers hundreds of millions of dollars. "It's not that California got itself into trouble and wants the federal government to bail it out," said Rep. Brad Sherman, D-Los Angeles. "California wants the federal government to do for a fee that which Wall Street would do for a fee if Wall Street wasn't broken."

But some members of Congress worry about setting a precedent for bailing out local governments. "You've got many states throughout this country, you've got many cities that are in tough financial problems, so they will all come for help," explained Rep. Kevin McCarthy, R-Bakersfield. Any extra federal assistance is sure to be a hard sell in Washington and elsewhere because of California's free-spending image. That may have been true before the recession, but the state cut $15 billion in government spending in February and plans to solve most of the $24 billion deficit through even more cuts.

Government workers face the possibility of three-day-a-month furloughs, teachers are being laid off, lower-income college students stand to lose their grants and hundreds of thousands of poor children could go without health care. The recession is behind this fiscal turmoil. Some 1 million jobs are expected to be lost in California in two years and unemployment is estimated to peak at 12.3 percent in early 2010, said Jeff Michael, director of the Business Forecasting Center at the University of the Pacific in Stockton.

Schwarzenegger has repeatedly stressed that he hasn't asked for a bailout and doesn't want any special treatment for California _ though he likely wouldn't reject more stimulus funding if it came his way. Economist Stephen Levy, director of the Center for the Continuing Study of the California Economy in Palo Alto, has argued for another nationwide stimulus package to help all states avoid further cuts to social programs intended to help vulnerable people. "If we are the bellwether, I would have Californians reach out to other states and really make a plea for national assistance," Levy said. "The recession is not our fault."

Regulating banks calls for attack on inertia
At the Group of 20 summit in April, there was wide agreement on the main areas for regulatory reform: more and better-quality capital, countercyclical requirements, a wider regulatory net and a drive to bring more trading on to exchanges. There is less clarity on how radical those reforms need to be. Is it enough to plug these gaps, adjust the dials in the risk models and then get back to business as before? In my view, three problems do call for more fundamental changes. The first is moral hazard.

The Bank of England was criticised for worrying too much about this in 2007. Our timing was poor but the issue was real then and is much more significant now that ambiguity about the state’s willingness to let banks’ creditors suffer has been largely dispelled. Of course, banks have had a terrible shock. They do not need telling that subprime mortgages can damage their health. They know that their risk management systems prepared them only for showers, not hurricanes. If they show signs of forgetfulness, at least for the next few years, their investors will remind them.

However, markets provide banks enjoying implicit or explicit government backing with more and cheaper credit than others, enabling them to expand more quickly and take bigger risks. In the short term, of course, that is part of the cure, but it could make the next cycle even more damaging. For market pressures will push all banks, not just the reckless, to make use of easier credit. Already, investment banks are competing for staff with pre-crisis levels of guaranteed bonuses and share options.

So we need to rebuild discipline and establish a credible risk of loss, at least to institutional creditors. That means redesigning insolvency regimes so that they can be used for complex banks and conglomerates. With the new Banking Act, the UK has caught up internationally; but the US Treasury is proposing to go further and we must be ready to follow. We should also follow the US in setting higher capital and liquidity requirements for institutions that receive a “systemic” discount on market funding.

The second problem is regulatory capture and “groupthink”. It is not so much that the private sector is full of clever people who pull the wool over supervisors’ eyes – although some of that goes on – but that banks and regulators are in constant discussion and negotiation and tend to develop shared views and shared misjudgments, as they did on structured credit and wholesale funding. We need a second opinion and challenge from a body that is not involved in day-to-day supervision but can take a view of the system as a whole.

In the UK, the Bank of England already plays a role of this sort but without any formal authority to give bite to its views. If, as I favour, we introduce a power to vary capital and liquidity requirements with the economic cycle, the Bank should have the lead responsibility for making those judgments. That would put beyond doubt its central role in maintaining financial stability after some years when that role has been in question, not least inside the Bank.

The third problem is regulatory arbitrage. In my view, the European Union has identified most of the right answers here: tighter rules coupled with an effective international quality control on national implementation, an arbiter in cases of dispute and a powerful body to monitor and make recommendations on the stability of the system. But it is not sufficient and may be counterproductive to pursue these for the EU alone. They need to be at least extended to the G20. It does not make sense to look at Barclays, Santander or Deutsche Bank on an EU basis or to apply a regime to them that does not apply to their main competitors from the US or Asia.

The main risk to this programme is a loss of political focus as fears of depression recede. In my experience, inertia is a much greater risk than overreaction, especially in inter?national policy. In the 1980s, when the Basel committee of bank regulators started its work on capital, the plan was to produce liquidity guidelines too. Discussions were still preliminary when we were hit by the liquidity crisis of 2007. Again, after the failure of Long-Term Capital Management, a Basel working group reviewed the dangers from the failure of a large global institution and called for sens-ible reforms – few of which had been acted on 10 years later. We must avoid repeating such mistakes.

U.S. Companies Seek New Tax Havens
Anticipating U.S. tax-law changes for Bermuda and other standbys, Tyco and Ingersoll-Rand are among the corporations looking at Switzerland or Ireland. Ah, Bermuda. Pink sand beaches. Charming pastel cottages and kelly-green golf courses. Tiny storefront "headquarters" of major global corporations. For years the archipelago, along with its Caribbean siblings the Cayman Islands and British Virgin Islands, has played host to companies seeking favorable tax treatment.

But rising concerns about a U.S. crackdown on tax havens have a growing number of companies rolling up their beach blankets and decamping to far less sunny shores. Since October at least a half-dozen major corporations, including Tyco International (TYC), Noble (NE), and Ingersoll-Rand (IR), have proposed reincorporating in Ireland or Switzerland. The two countries may have higher tax rates than in the tropics, but both offer bigger tax savings than either the U.S. or Europe. Plus, both have well-established tax treaties, which decide which country has primary taxing rights and help avoid double taxation.

The trend comes amid increasing moves by both the Obama Administration and congressional Democrats to clamp down on corporate overseas tax maneuvering. Much attention has been given to the White House's call to end the deferral of taxes on foreign profits, but the plan will also make it harder to shift profits from one foreign subsidiary to one with tax-haven status. Meanwhile, legislation introduced by Senator Carl Levin (D-Mich.) would, among other things, tax corporations based in designated tax havens as U.S. corporations if they're managed and controlled here, too.

While it's not yet clear how the proposals for change will play out, companies that may be affected have been working to get ahead of any changes by relocating their official bases to Ireland and Switzerland. The latter country's "statutory" tax rate is 24%, says Paul Schmidt, who heads the international tax practice at law firm Baker Hostetler. But with each Swiss district offering competing rates to lure businesses to put down roots, many companies end up paying much less. "It's pretty easy to get down to a total of 8% to 10%," Schmidt says. That's a huge savings over the potential 35% federal tax rate these corporations could owe in the U.S.

Ireland, meanwhile, has a 12.5% corporate tax rate and a good working relationship with the Internal Revenue Service, says Conor Begley, an independent tax consultant and a former Dublin-based director of international tax at Grant Thornton. "What they're really betting on is that the Irish relationship with the U.S. is so strong that the Administration is not going to change the rules of engagement," he says. Still, tax experts warn that the moves aren't guaranteed to get around the potential legal tweaks. "It's not a foolproof thing by any means," says independent tax consultant Robert Willens. "It amounts to hoping this new legislation will be overwritten by the tax treaties."

To what extent executives will be downing pints of Guinness or eating Swiss chocolates after the move depends on the company. Some, such as offshore driller Transocean (RIG) and oil-services provider Weatherford (WFT), have moved or plan to move their CEOs and senior management to Switzerland. Health-care products maker Covidien (COV), on the other hand, is building out the financial staff at its Dublin location and calling it the principal office, but senior management will remain in Mansfield, Mass. "We will have a physical presence," says Eric Kraus, a Covidien spokesperson.

One thing these migrant companies are likely to have in common is a more substantial local presence than they had in the islands. "They're not going to be able to get away with just brass plates," Schmidt says. Some companies may hold their board meetings in Dublin and have some kind of manufacturing base there. Many others are likely to set up separate entities to meet any requirements. "How that's interpreted in practice is looser than one might expect," Schmidt says. Tax experts predict that the trend will continue among companies that are still incorporated in the islands—according to Capital IQ, Bermuda, the Caymans, and the British Virgin Islands are still home to 55 companies with market capitalizations over $500 million.

And insurers are likely to be the next to flee, expects Begley. Despite the potential public relations boost that might be had from leaving a so-called tax haven—Accenture (ACN) specifically noted in its proxy that "continued criticism" and "negative publicity" of Bermuda-based corporations could have adverse effects—most departees are wary of having their executives talk further about the moves. "We've already covered all the information we're going to talk about," says Ingersoll-Rand spokesman Paul Dickard.

Indeed, PR controversies are just one reason why companies currently based in the U.S. are unlikely to pull up roots in the same way. International tax experts think the exit charges—taxes based on lost revenue to the IRS for future earnings—will be so astronomical that U.S.-based multinationals are unlikely to leave. And some could be scared off from relocating by the prospect of being removed from the Standard & Poor's 500-stock index. Several companies that have "redomiciled" have been dumped from the index, so there's potential share-price pain if some mutual fund managers are forced to unload non-S&P 500 shares. Still, some U.S.-based CEOs won't rule out the possibility of pulling up stakes.

J. Erik Fyrwald, the CEO of $4.2 billion water-treatment and chemicals company Nalco (NLC), says he knows of fellow CEOs who are evaluating it. "Even though there are strict penalties, in the long run you've got to have your business competitive," Fyrwald says. While he has no interest in doing the same himself, Fyrwald worries that changes to corporate tax law could also make U.S.-based companies targets for foreign acquisition. "If it got to where we were unable to effectively compete globally, we would have to evaluate our options."

The Next Major Financial Crisis
Warren Buffett doesn't see the "green shoots" Ben Bernanke and other bullish investors have spoken of in recent months. In fact, the billionaire investor believes the economic picture will grow darker before things improve. "Everything I see about the economy is that we have had no bounce," Buffett told CNBC anchor Becky Quick in a televised interview Wednesday. "There were a lot of excesses to be wrung out and that process is still under way, and it looks to me that it will be under way for quite awhile. In the annual report, I said that the economy would be in shambles this year and probably well beyond, and I think that is true."

From our vantage point, the nearly $1 trillion in outstanding U.S. credit-card debt could be the next major crisis to roil the economy... Losses on U.S. credit cards rose above 10% of the total loans outstanding in May – a new high in the 20-year history of the Moody's Credit Card Index, and the sixth-consecutive monthly record. The mounting losses are forcing banks to bail out off-balance-sheet entities they use to package hundreds of billions of dollars of credit-card loans into securities. The total losses are very hard to estimate and most likely exceeds earlier estimates.

Citigroup, Bank of America, JPMorgan Chase, and American Express all pumped billions of dollars into these securitization pools... The firms aren't obligated to support these pools when big losses hit, but they want to ensure investors continue buying these securities. The worst-case scenario is if credit-card losses rise to a point where banks are forced to repay bondholders early... There is no possible way the banks could afford this payout without massive government loans.

Credit-card defaults and unemployment are highly correlated. People have a difficult time paying bills without a job – which is why the government is focusing so much attention on creating jobs; that and the fact that the public loves job creation. Thursday's surprise announcement from the Labor Department shows unemployment is still rising. The latest weekly statistics demonstrates that initial jobless claims for unemployment benefits rose 15,000 to 627,000 – a far cry from the expected 3,000 decline. Continuing claims – those drawn by workers for more than one week – rose 29,000 to 6,738,000, after dropping 126,000 the previous week. No wonder Mr. Buffett is so pessimistic.

Unemployment, said Buffett, will continue to drag the economy down. He told Bloomberg news that unemployment is "very likely to go above 10%." High unemployment will continue to depress consumer demand for everything from energy to cars and homes, Buffett said. Mr. Buffett himself has not been unscathed by the economic downturn. His company, Berkshire Hathaway, reported its first loss this year since 2001.

Before things get better for investors, Buffett believes the government will need to continue to take steps to reduce unemployment."It looks like we're going to need more medicine, not less," he said in an interview with Bloomberg News, adding that the country may need a second stimulus package to pull out of the current spiral. "The recovery really hasn't gotten going." Buffett cautioned that some of the "medicine," though crucial, may have adverse side effects down the road. Inflation, he believes, could become a big problem. But, it will also likely push investors to buy stocks since rising prices would erode the value of cash.

"We have done things that raise the probability of high rates of inflation at some point," he told CNBC. Although Mr. Buffett declined a chance to predict how this will play out in the stock market over the months ahead, his ominous appraisal of the immediate outlook for the economy spoke volumes. With these facts setting the stage for the next chapter of today's economic version of "The Great Contraction" I hope we all have an appropriate amount of cash and cash equivalents ready for the the unexpected pullback in all the investment markets including precious metals, the stock market and other major commodities.

There's still too much "wishful thinking" about "green shoots" and other delusions. The fact of the matter is that Mr. Buffett is right, it will get worse before it gets better. With the credit-card debt debacle playing out before our very eyes we could see the "sh-t hit the fan" in the weeks ahead which could set the stage for the next best buying opportunity.

Obama issues signing statement on $106B war bill
President Obama signed the $106 billion war-spending bill into law Friday, but not without taking a page from his predecessor and ignoring a few elements in the legislation. Obama included a five-paragraph signing statement with the bill, including a final paragraph that outlined his objections to at least four areas of the bill. President George W. Bush was heavily criticized for his use of signing statements, declaring he'd ignore some elements of legislation by invoking presidential prerogative.

The Obama administration announced in the statement it would disregard provisions of the legislation that, among other things, would compel the Obama administration to pressure the World Bank to strengthen labor and environmental standards and require the Treasury department to report to Congress on the activities of the World Bank and International Monetary Fund (IMF).

"Provisions of this bill...would interfere with my constitutional authority to conduct foreign relations by directing the Executive to take certain positions in negotiations or discussions with international organizations and foreign governments, or by requiring consultation with the Congress prior to such negotiations or discussions," Obama said in a statement. "I will not treat these provisions as limiting my ability to engage in foreign diplomacy or negotiations," he added.

The sections in question would compel the administration to direct its World Bank representatives to pressure that institution to use metrics that "fairly represent the value of internationally recognized workers' rights. Organized labor groups had pushed for a revision of those standards. The World Bank section would also push the bank to account for the costs of greenhouse gas in pricing out projects, and would require development banks to more fully disclose operating budgets.

The other section would require Treasury Secretary Tim Geithner to develop a report with the heads of the World Bank and IMF "detailing the steps taken to coordinate the activities of the World Bank and the Fund" to eliminate overlap between the two. According to the University of California at Santa Barbara's "American Presidency Project," Obama has issued five other signing statements since taking office.

The quiet Americans
Back when times were better and the newspaper industry wasn’t fighting for dear life, reporters at the Cleveland Plain Dealer would regularly grumble at the measly pay increases their union negotiated. Last month, when the union announced it had negotiated a 12% pay cut in exchange for a promise of no lay-offs, there was applause. “It took me aback,” says Harlan Spector, a medical reporter and one of the negotiators.

Like many long-standing economic relationships, “wage stickiness” is being tested by the savagery of the recession. Ordinarily, when unemployment shoots up wages do not tend to fall: they simply grow more slowly. Why the price of labour responds less to demand than that of other commodities is a bit of a puzzle. In the 1990s Truman Bewley of Yale University interviewed hundreds of employers and discovered that, faced with a slump in demand, they would rather lay some workers off than cut the pay or hours of everybody.

The sackings devastated those directly affected, but broad cuts to pay and hours hurt everybody’s morale. “The main drawback of pay cuts is that they fill the air with disappointment and an impression of breach of promise, which dissolve the glue holding the organisation together,” he wrote in 1997.

In this recession hard-pressed employers are not just laying off workers but cutting wages and implementing “furloughs”—unpaid, compulsory time off. A survey by YouGov for The Economist this week found 5% of respondents had taken a furlough this year and 13% had taken a pay cut. Watson Wyatt Worldwide, a human-resources consultancy, says the proportion of American employers implementing either wage cuts or furloughs has risen sharply since October (see chart 1).

Since September, as unemployment has jumped three percentage points, the average work week has shrunk (see chart 2) and hourly wage growth has slowed sharply to 3.1%. The slowing will be even sharper once a big fall in bonuses, especially in the finance industry, is included.

Higher inflation in the early 1980s and 1990s meant employers could simply freeze wages or raise them more slowly than prices to achieve real cuts in pay. This still dented employees’ standard of living but without the humiliation of a smaller paycheck. Now inflation is lower (in fact, negative because of a big drop in fuel costs). So, in the absence of big increases in productivity, wage cuts may be less avoidable. With households carrying big debts, falling incomes could heighten financial stress and, at worst, initiate a cycle of wage and price deflation.

Mr Bewley also found that psychological resistance to pay cuts melts when the employer’s survival is at stake. In January 40,000 members of the Teamsters Union agreed to a 10% cut by YRC Worldwide, a trucking company, which is at risk of bankruptcy. “The company needs some help,” a Teamster official said at the time.

Newspapers are also under severe pressure. The New York Times recently cut salaries temporarily by 5% in exchange for 10 additional days of leave. On June 23rd it reached an agreement with a union representing employees of the Boston Globe on a 6% pay cut. Employees had earlier voted against an 8% pay cut, but gave in when the Times threatened a 23% cut.

When the Plain Dealer first said this year it needed to reduce its labour costs by $5m, the newsroom was furious. For years the journalists had got by with wage increases of barely 1%, after higher health-care and pension contributions were subtracted. But the wave of closures and lay-offs throughout the industry was sobering. Last year 27 newsroom employees were laid off and only two have since found full-time work.

“People are a little pale thinking about how to make their personal finances work [but] …we are ahead of what we were earning if we all had to find new work,” says Karen Long, the books editor and a union negotiator. The 12% pay cut consists of an 8% cut in pay rates plus 11 furlough days. If the company lays anyone off after the one-year agreement, pay automatically jumps back to its previous level.

In a society known for competitive individualism, pay cuts and furloughs are calling forth a spirit of collectivism. Hewlett-Packard, Advanced Micro Devices and FedEx have trimmed rank-and-file pay, but their chief executives have taken 20% pay cuts, says Challenger, Gray and Christmas, an outplacement consultancy. Slumping tax collections forced city administrators in Lima, Ohio, to draw up contingencies for a 10% cut in hours for all but emergency workers. But first the city’s eight most senior administrators gave up a 2.5% pay rise.

Not all such negotiations are being welcomed, however. In California home-care workers, who look after the infirm in their own houses, have demonstrated against Governor Arnold Schwarzenegger’s proposal to cut their pay to the state minimum wage of $8 per hour. Their pay has already been reduced to $9.50 an hour from between $10 and $12 according to UDW Home Care Providers Union, one of their unions. To take another example: when the restaurant where Sandy Jaffe is a waitress near Los Angeles cut everyone’s hours in half because of slumping business, she was annoyed management didn’t trim the hours of less productive staff more.

Still, most Americans seem to be responding stoically. Signs that the recession is bottoming out means the pressure for more cuts is ebbing: this week, a report from the OECD suggested that growth in the rich countries could resume next year, albeit at an anaemic 0.7%. Although no one is happy to have their pay cut, many seem to like a brief break from the rat race. Some employers forbid employees to do anything even work related on their furloughs, such as checking voicemail or BlackBerrys. In some circumstances that could require the employer to pay the employee for the whole week.

When the teachers’ pension plan that Susan Daniel works for in California decided to furlough employees for two days each month, she welcomed the chance to spend the days at home with her husband and to get around to rebuilding the backyard deck. To cut costs, she gave up bottled water and her cable-TV service. The fact that everyone, including her boss, is getting the same treatment makes it much more bearable. “At least we have our jobs and our benefits,” she says.

IEA cuts oil demand forecasts
The International Energy Agency, the energy market’s most important forecaster, on Monday significantly cut its expectations for medium term global oil demand, saying the recession had diminished the medium-term risk of a supply crunch. The IEA, the consuming countries’ watchdog, now expects global oil demand to grow a paltry 0.6 per cent or 540,000 b/d in 2008-2014, pushing consumption from 85.8m b/d to 89m b/d. That is considerably less than the 1m b/d average yearly increase the IEA had expected last year.

If the lower-end GDP forecasts turn out to be correct, oil demand could actually contract over the period, with consumption at 84.9m b/d in 2014, the IEA said in its medium-term oil market report. This means the all-important spare supply cushion the Opec oil producers’ cartel holds is now expected to reach a healthy 7.67m b/d next year - or 8 per cent of demand - compared to last year’s forecast, which had foreseen rampant demand reducing that cushion to a mere 1.67m b/d.

After 2010, Opec’s spare capacity is expected to begin to decline again as economic activity perks up, the IEA’s data shows. But it is to remain well above last year’s forecast. For example, Opec spare capacity is expected to be 5.08m b/d in 2013, compared to last year’s forecast of 0.54m b/d. This is important because a small Opec cushion of spare capacity drives up the oil price and can create massive spikes when supply interruptions, such as the frequent attacks on Iraq and Nigeria’s oil facilities, cannot be covered because Opec has too little spare extra supply to bring onto the market.

Despite the bearishness of the report Nymex West Texas Intermediate futures for August delivery rose 0.49 cents to $69.65 on Monday, while ICE August Brent gained 40 cents to $69.32. Traders ascribed the small increase to a new attack on a Royal Dutch Shell oil platform by The Movement for the emancipation of the Niger Delta, the most active of Nigeria’s militant groups.

In its report, the IEA cautioned restrained optimism about the recent sightings of “green shoots” of economic activity that have helped the oil price recover to around $70 a barrel from half that in February. The IEA said: ”The recent resurgence in economic activity could also simply reflect the rebuilding of depleted inventories across several industries, making it arguably premature to predict an imminent and strong economic rebound, not least because the elimination of spare capacity, the deleveraging of the private sector in several highly indebted countries and the rebalancing of global demand are still at an early stage.”

But Nobuo Tanaka, the group’s managing director, added in an interview that predictions were becoming fiendishly difficult to make. “Already our assumptions, based on April IMF data, are getting old,” he said, noting that both the IMF and the OECD had recently come out with rosier growth projections. “If the economy grows much faster, the market could be much tighter and we could see much smaller spare capacity in 2014. On the other hand, another important element is structural demand,” he said, noting that recent changes in government policy, especially in the US, could lead to a scenario in which oil demand fell even as economic demand grew.

The global recession has not only hit demand. Supply, too, is being effected. ”Strikingly, compared with last year’s envisioned growth of 1.5m b/d in the medium term, total non-Opec supply is now projected to decline by 0.4m b/d from 2008 to 50.2m b/d in 2014,” the IEA said, citing as reasons deferred or cancelled oil field investments that make little profit when oil prices are relatively low, but costs of labour and equipment are still high. If global GDP disappoints the decline could be as steep as 0.9m b/d, compared to last year’s forecast that foresaw a non-Opec supply increase of 1.5m b/d. Much of the decline also comes from the production slowdowns of older fields, especially in Mexico, Russia, UK and Norway.

In Russia output is expected to fall 550,000 b/d compared to the previous forecast of a 50,000 drop, leaving various pipeline diversification routes potentially competing for oil. Meanwhile, the much newer Canada oil sands are also struggling because they are expensive to produce. There the IEA slashed its growth forecasts by 70 per cent as projects that no longer make economic sense have been cut or delayed. Opec is also feeling the consequences of the recession. Its capacity is now expected to expand 1.7m b/d to 35.8m b/d from 2008 to 2014, a downward revision of 1.5m b/d. While, Saudi Arabia and the UAE will manage big capacity expansion projects, the IEA is less optimistic about Iraq, noting that its stated aim of boosting its production capacity to 6m b/d was too optimistic.

Recapitalising the banks through enhanced credit support: quasi-fiscal shenanigans in Frankfurt
by Willem Buiter

Last week the Eurosystem performed a €442bn injection of one-year liquidity into the Euro Area banking system.  They did this at the official policy rate - the Main refinancing operations (fixed rate) - of 1.00 percent, against the usual collateral accepted for Longer Term Financing Operations, effectively anything euro-denominated, not based on derivatives and rated at least BBB-.  It was a fixed-rate tender, that is, the ECB was willing to meet any demand at the 1 percent interest rate, as long as eligible collateral was offered; 1121 banks participated in the operation.

You will not be surprised to hear that this was the largest one-day ECB/Eurosystem operation ever.  Even more remarkable than its scale are the terms on which the one-year funds were made available.  There can be no doubt that this operation represents both a subsidy and a gift from the Eurosystem to the banks that participated in the operation.  I hope to clarify the distinction between a subsidy and a gift in what follows.

First, it is clear that a 1.00  percent interest rate for collateralised borrowing at a one-year maturity is well below the cost at which the participating banks could have funded themselves at a one-year maturity. Twelve-month Euribor averaged 1.64% in May.  This is, of course, an unsecured interbank rate.  Secured rates would be lower.  On the other hand, Euribor is a ‘cheap talk rate’, based on what up to 43 panel banks believe a typical prime bank can borrow at from another prime bank.  Citing the Euribor website, “A representative panel of banks provide daily quotes of the rate, rounded to two decimal places, that each panel bank believes one prime bank is quoting to another prime bank for interbank term deposits within the euro zone.” A prime bank is a bank that is not yet insolvent.

Although the Euribor procedure is less likely to lead to an understatement of the true cost of unsecured borrowing than Libor, which, according to the Libor website “is calculated each day by asking a panel of major banks what it would cost them to borrow funds for various periods of time and in various currencies, and then creating an average of the individual bank’s figures.”, neither measure is a substitute for the only meaningful measure- one based on borrowing rates charged and paid on actual loans or deposits rather than on a panel bank’s guess at the rates at which that bank or some other bank might be able to borrow.  

Why any contracts are based on ‘cheap talk’ rates like Libor and Euribor is a mystery to me, but that is a subject for another post. Other measures of private source borrowing costs for banks include deposits.  Interest rates on new household deposits up to 1 year maturity were 2.24%, new deposits from non-financial corporations with agreed maturity up to 1 year averaged 1.39% in March 2009.  Household deposits up to the deposit insurance limit are ’safe rates’, guaranteed by the government.  The rate on German government bonds at a one-year maturity was around 0.80% at the time of the Eurosystem’s mega-operation.

You may think that this implies that the cost to the banks of borrowing from the Eurosystem for a year - 1.00% - does not imply a subsidy, as the banks’ borrowing from the Eurosystem is secured against collateral. You would be right if the collateral consisted of German government bonds. My guess (I don’t have hard information) is that this was not the case, and that instead the borrowing banks stuffed the Eurosystem with the worst quality collateral they could put their hands on, subject to the constraint that a rating agency had rated it at least BBB-.  

Given the well-established practice of Eurozone banks that are eligible counterparties of the Eurosystem in repos and at the discount window, to carefully structure collateral packages that just meet the letter of the ECB’s collateral eligibility requirements, I am happy that I am not responsible for vetting and verifying the credit risk present in the portfolio of that increasingly speculative, highly leveraged entity known as the Eurosystem.

What can the banks do with the €442 that they have borrowed at 1.00 % for up to a year from the Eurosystem?  They could invest it in secured loans to households, e.g. mortgages. New floating rate and up to one year fixed mortgages in the Eurozone paid 3.66% interest on average in March 2009.  Or they could put it into government debt.  At least as regards German one-year central government securities, there is no ‘money machine’  allowing one-year funds borrowed at 1.00% to be invested in a safe asset yielding more than 1.00 percent.

But if you are willing to bet that repo rates will not rise above above1.5% over the next year, and not above 2.5% over the next two years, you have something close to a money machine.  The Euro Area yield curves, based on AAA-rate Euro Area central government bonds showed spot rates at one year maturity of 0.93 percent, at two years maturity of 1.53 percent and at three years maturity of about 2.5% (eyeballing Chart 26 on page S45 in the ECB’s June 2009 Monthly Bulletin for this last figure). The instantaneous forward rates at one-year maturity were 1.43% in May 2009 and 2.77% at two years maturity.

When is there a subsidy?
It is possible for the ECB/Eurosystem to provide Euro Area banks with funds at a rate well below the rate at which the banks could have funded themselves elsewhere, without this implying a subsidy from the ECB/Eurosystem to the banks.  There is a subsidy only if the rate charged by the ECB to the banks is less than the ECB’s risk-adjusted opportunity cost of funds.  Let i(b) be the banks’ risk-adjusted cost of borrowing, i(l) the banks’ risk-adjusted lending rate, i(ecb)the Eurosystem’s lending rate to the banks and ithe Eurosystem’s risk-adjusted opportunity cost of funds.

Then the subsidy provided by the ECB per € lent out is i(ecb)-i .  The joy of the borrowing banks is measured by i(b) - i or by i(l) - i.  But i(b)-i- both risk-adjusted rates, is not a subsidy from the Eurosystem to the banks. It is financial manna-from-heaven, reflecting the superior risk-sharing capacities of central bank and the sovereigns behind it (one hopes).

Assume that, in May, the ECB’s opportunity cost of funds (other than through base money issuance) at a one-year maturity equals the average Eurozone AAA-rate sovereign borrowing rate - 0.93 percent.  If the banks’ collateral is safe, there is no subsidy but a slight tax, 0.93 - 1.00= -0.07  or seven cents per € borrowed. If instead the collateral offered by the banks is without value, their secured borrowing is equivalent to unsecured borrowing. The one-year Euribor rate, 1.64%, provides a lower bound on the true unsecured borrowing rate of the banks.  

I believe it is safe to assume that most of the collateral offered to the ECB in this operation was rubbish. The supply of one-year funds was open-ended (demand-determined) and it is plausible to assume that the banks did not demand more than €442bn because they ran out of collateral and exhausted their capacity to transform pig’s ear securities into silk purse collateralisable assets. The risk-adjusted rate of return to the Eurosystem on its lending to the banks can hardly be more than 0.70%, given the poor quality of the collateral offered and the dreadful state of the balance sheets of many Euro Area banks.

In that case there is a subsidy from the ECB to the banks of just over 0.25 percent, say € 1 bn.  While this is a small number, on the gargantuan scale on which bank losses and bailouts are measured these days, it is clearly inappropriate for the central bank to engage in quasi-fiscal operations of this nature.  Subsidies should be voted by the appropriate parliaments, not distributed by unelected technocrats. The total increase in profits to the Euro Area banks from this operation is a multiple of the subsidy, and can be measured by the difference between the safe lending rate of the banks and the rate charged by the ECB.  

Depending on which use of funds you consider, this could amount to 1.5% of the €442 bn (if the money is invested in 3-year government instruments and nothing too nasty happens to short rates over the next 3 years) or 2.5% (minus a discount for default risk) one-year housing loans, that is, around €6bn or €10bn. While most of that is not a subsidy, it is a gift from the Eurosystem to the banks.  If the ECB wants to play Santa Claus, I know of more deserving recipients of their largesse than the banks.

Interest subsidies and gifts are a slow, inefficient and inequitable way to recapitalise the banks.  Japan pursued this strategy and created zombie banks that brought the country a lost decade.  The right way to recapitalise banks is to have a mandatory conversion of unsecured bank debt into equity. If there is insufficient unsecured debt, the tax payer can come in as recapitalisor of last resort, but only in exchange for equity or some other claim on any future upside.

When the ECB’s enhanced credit support is mainly a slow and inefficient mechanism for recapitalising the banks - the ECB recently estimated short-term capital needs in the banking system of the Euro Area at about €280bn -  without giving the taxpayers and other citizens of the Eurozone a claim on the banks in exchange, it turns the ECB into an agent of the banks (or more precisely of those in control of the banks and of the banks’ unsecured creditors) rather than of the 340 mn citizens of the Euro Area.  The ECB should avoid such capture by narrow sectional interests and opt to act in the public interest instead.

Eurozone economic confidence rebounds
Eurozone economic confidence recovered more than expected this month, even as idle capacity in the region’s industrial sector hit a record high, according to a European Commission survey. In the latest sign that the pace of economic contraction has decelerated significantly, the Commission reported its eurozone “economic sentiment indicator” rose by 3.1 points to 73.3 in June, the highest since last November. Optimism rose among consumers, in the service sector and to a lesser extent in industry, it said.

The latest rise was the third consecutive increase from the record low reached in March, but the Commission pointed out that the indicator remained below the level reached at the end of the last trough in late 1992. “A sustained return to positive growth remains a distant prospect in the eurozone,” said Martin van Vliet at ING. Such confidence surveys are regarded as good indicators of likely trends in economic activity and economists said the latest reading pointed to a second quarter contraction in eurozone gross domestic product of about 0.5 per cent. That would follow contractions of 1.8 per cent and 2.5 per cent reported in the fourth quarter of 2008 and in the first three months of this year.

However evidence of a sustained recovery has yet to feed through convincingly into “hard” data, for instance for eurozone industrial production, raising questions about the predictive power of such surveys. Details of the Commission survey showed the deep scars left by the worst recession to hit continental Europe since the second world war. Industry has been especially badly hit by the slump in global demand, and the survey showed the rate of capacity utilisation in eurozone manufacturing in the three months to June was the lowest began since the survey started in 1990.

The estimated number of months’ production assured by orders on hand in manufacturing also fell further, to just 2.8 in the second quarter, from 3 in the first three months of the year. However, that was still higher than the record low of 2.6 reported in the third quarter of 1996. At the same time, the survey showed consumers increasingly seeing prices falling rather than rising. The indicator showing consumers’ expectations for prices in the next 12 months fell to a record low in June. Eurozone inflation data on Tuesday are expected to show the annual inflation rate turning negative for the first time.

In search of the exit
The world’s two most important central banks have lately become used to entering unexplored territory. Emergency steps taken to avert economic catastrophe since the financial crisis erupted almost two years ago were largely untested and their impact was unclear. Now, as the world economy shows signs of stabilising, the terrain is arguably as unfamiliar as ever. At both the European Central Bank, which meets this Thursday, and the US Federal Reserve there is a sense that the extraordinary easing cycle is over, though they will continue to implement and tweak announced plans.

While uncertainty remains high, external attention and internal debate has switched from what they can do to fight the crisis to one of exit strategy: when and how to unwind the measures now in place. The market pressures are arguably greatest on the Fed, which took the most radical and unorthodox steps during the easing cycle, including a programme to purchase up to $1,450bn (£877bn, €1,031bn) of mortgage-related securities and $300bn in Treasury paper.

Yet the ECB also faces a tough predicament. Last week, it extended €442bn in one-year loans to more than 1,100 eurozone banks in an effort to get credit flowing – the largest amount it had ever injected in a single operation. Like the Fed, it now has to judge when – and how – to pull back the exceptional policy measures without wreaking further economic damage. “We worked our way up the mountain without actually knowing the path we were taking in advance. Now we have to work out how to get down – and most mountaineering accidents happen on the way down,” says Julian Callow of Barclays Capital.

Since the start of the crisis, there have been clear differences between the two central banks. Ben Bernanke, the Fed chairman and an expert on the 1930s Depression, has been aggressive and experimental, in spite of concerns from some of his officials. The instinctively more conservative ECB, headed by Jean-Claude Trichet, has not been shy in adopting unconventional approaches. But it has chosen policy steps that are more in line with the operating rules it had in place before the crisis – making the extraordinary measures easier to unwind.

Rather than launching large-scale asset purchase programmes that bypass the banks as the Fed has, the ECB has focused on pumping liquidity into the banking system. “The Americans are more pragmatic – if they see something wrong they think they have to fix it. The ECB is more principles-based,” notes Jörg Krämer of Commerzbank. In coming months, transatlantic approaches to policy will again be tested under different circumstances. Below are four scenarios of how economic events could unfold – and how the two central banks would be likely to react.

Scenario one: Steady as she goes – inflation and interest rates low
This baseline scenario for both Fed and ECB involves a period of stabilisation followed, in the case of the eurozone, by a return to quarterly growth in mid-2010 and, in the US, slightly positive growth from the second half of 2009 but gaining force only some way into 2010. In this eventuality the Fed is likely to be a good deal more patient in raising rates than the market expects. Its leadership puts a lot of weight on staff estimates that a large output gap between demand and supply will provide an effective safeguard against inflation – even though many regional Fed presidents have little confidence in the projections of spare capacity, fearing that the crisis has damaged the supply potential of the economy.

Still, even the most dovish Fed officials are troubled by signs that the market is concerned about deficits and inflation, which Janet Yellen, San Francisco Fed president, recently described as “disconcerting”. Rather than accept the market’s timeframe for raising rates, Mr Bernanke will probably try to boost confidence that the Fed has a workable plan that will allow it to raise rates again when the right time comes. In this case, the Fed is likely to wind down its emergency support programmes first, before raising rates.

The next stage is likely to be a refinancing of some of its long-term assets through reverse repurchases, mopping up excess reserves, though in principle this could be done in tandem with or even after the first rate increase. The US central bank will probably end up raising rates before it has reduced the reserves all the way back to normal levels – relying on its ability to pay interest on reserve deposits to put a floor under interest rates at the desired level. So the Fed may not raise rates until late 2010, though it could be forced into an earlier boost if inflation expectations drift higher or Mr Bernanke loses confidence in the estimate of a large output gap.

For the ECB, the likely response will be to sit on its hands and not do very much. Keeping interest rates at the current 1 per cent, the lowest ever, for a considerable time is seen as a distinct possibility at the Frankfurt institution – even if its officials will not admit publicly that is its intention. Overnight interest rates are even lower than the main rate, in effect pretty near to zero, so would probably have to rise before any further cuts in the main interest rate. The ECB has started a modest asset purchase programme, announcing it will buy €60bn of covered bonds.

ut Mr Trichet makes clear this is not “quantitative easing”. The banks from which it buys the bonds will bid for less in regular liquidity operations, meaning the overall impact should not prove inflationary. There is a lot of nervousness, especially in Germany, about the long-term inflationary dangers posed by the actions central bankers have taken so far. “Even though you see all these ‘green shoots’ all over the place, they are pretty flimsy when it comes to Europe – and yet the talk about the need to have an exit strategy appears to be more prominent among European and ECB policymakers than elsewhere,” says Jim O’Neill, Goldman Sachs’ global economist.

Scenario two: The only way is up – recovery faster than expected
The policymakers’ dream – and it is not seen as impossible among central bankers. The collapse in global output after the failure of Lehman Brothers last September was so severe; maybe the rebound will also be impressive? However, the economics do not suggest it is likely. Europe’s economy will be weighed down by banks’ weakness, which will restrict the availability of credit, and by rising unemployment. Moreover, a dream scenario could quickly turn into a nightmare. It has become accepted wisdom that the Fed’s decision to keep rates low for so long after the collapse of the 1990s dotcom bubble contributed to the current crisis.

But would the ECB or Fed now really dare to raise interest rates rapidly after such a severe economic shock? “Raising interest rates pre-emptively, when middle-term inflation developments do not suggest it is necessary, would certainly create communication challenges,” admitted Axel Weber, Germany’s Bundesbank president, this month. “But that could be mastered,” he argued. ECB-watchers are sceptical. “I can’t really see that they would tighten earlier than a standard economic analysis would suggest,” says Julian Callow at Barclays Capital.

In a rapid rebound the Fed would face accusations that it is “behind the curve” with policy. Indeed, such talk is likely even if there is a false dawn with a strong single quarter of activity, for instance as the inventory cycle turns and car production picks up again. The US central bank might simply accelerate the implementation of the base case plan. However, depending on the relative strength of financial markets and the real economy, it might adopt a different exit sequence in the V-shaped recovery scenario, tightening rates before financial market support is fully withdrawn or asset purchases refinanced. The introduction of paid interest on bank reserves in theory gives the Fed latitude to do this. But there are problems, including restrictions on its ability to pay interest to some big participants in the money market and balance sheet constraints among the primary dealers with which it works.

Scenario three: Back to the pump – deflation, ongoing recession
This is the scenario that central bankers have feared for months – and few would say with any confidence that the dangers are over. The risk is that the recent rebound in confidence proves short-lived, that economic output takes another big lurch downwards and prices start to fall on a general and protracted basis – in turn wreaking further economic damage. Some think the likelihood of this happening is lower in the US than the eurozone, in part because of the more aggressive fiscal and monetary stimulus in the pipeline. But if it did, the Fed would resort to further unconventional actions including large additional asset purchases to mimic sharply negative interest rates.

If markets relapsed into dysfunctionality, it would continue to emphasise interventions in private credit markets – so-called “credit easing” – to lower private borrowing rates, probably adding more Treasury purchases as well. But if credit markets were working well, the opportunities for credit easing (which is premised on abnormal liquidity and spreads) would be limited and the Fed would shift emphasis to focus on the risk-free rate. In this scenario, as well as buying more Treasuries, the US central bank would probably overcome a reluctance to make any explicit commitment to hold its rates near zero for a very long time, to push down long-term rates.

At the ECB, a deflation scenario could change the debate completely – and see it quickly expending the remaining ammunition it believes it has. Its main interest rate could fall to zero, perhaps buttressed with an unprecedented pledge to keep interest rates at that level for a long time. Liquidity-providing operations could be expanded further. So, too, could the so far modest ECB asset purchase programme. In a deflationary scenario the ECB might quickly have to overcome the technical problems it has seen in programmes to buy corporate debt and commercial paper across 16 countries. But one taboo would remain: the ECB would almost certainly not buy government debt. That would blur the boundaries between politicians and central bankers, jeopardising its independence.

Scenario four: Burnt by hot oil – stagflation
The latest worry for some central bankers. The danger is that growth remains sluggish but soaring prices for oil and other commodities result in inflation taking off again. Instead of the current zero inflation, the ECB could see headline consumer prices rising above its target of an annual rate “below but close” to 2 per cent. The ECB could decide that the rise was temporary and that it did not therefore have to react. But there would be some nervous moments. In 2008, when soaring oil prices sent eurozone inflation to 4 per cent, the ECB feared the effects would become permanent and in July last year it raised its main interest rate to 4.25 per cent – the highest for seven years.

With hindsight, the ECB rate rise, just weeks before the Lehman collapse, appears a policy mistake. But for the ECB there is now a big advantage: few will question in the near future the priority the ECB attaches to combating inflation. “Last July’s interest rate hike was very important from the point of view of the ECB’s credibility,” argues Jörg Krämer of Commerzbank. The Fed would instinctively look through the impact of higher commodity prices on headline inflation and focus on the rate of core inflation, which it sees as the best guide to the underlying trend in overall prices.

This is what it did during the inflation scare of 2008 and policymakers believe that its approach was vindicated by events. Yet some Fed officials worry that its radical actions to combat the crisis might have lessened confidence in its commitment to low and stable inflation. This could mean it has less scope to exploit its accumulated credibility. Mr Bernanke would strenuously resist this logic – but would be in a difficult position if inflation expectations did become unmoored by a combination of high headline inflation and doubts over Fed strategy.

UK's debt will quadruple unless drastic steps are taken, says S&P
Britain's national debt will quadruple to peaks only ever seen in the wake of the Second World War unless the Government takes drastic steps to address the pensions and ageing crisis, Standard & Poor's has warned. The ratings agency has calculated privately that the UK's public sector debt could quadruple from its current level of just over 50pc of economic output to 200pc or above within the next four decades as the cost of servicing public sector pensions, ballooning social security costs and healthcare burdens becomes overwhelming, The Sunday Telegraph has learned.

The warning is doubly sobering since S&P last month placed Britain's debt on to "negative outlook" – an explicit signal that it could soon be downgraded. Although the agency calculated two years ago that the effects of an ageing population, alongside high pensions and healthcare costs could push Britain's net debt up above 150pc by 2050, it now fears the added cost of the financial crisis means the debt mountain could in fact rival that in 1945, when the cost of fighting a world war pushed debt well beyond 200pc of GDP.

The warning coincides with research showing that the true size of the UK's unfunded public sector pensions deficit, which needs to be funded through taxpayer's cash, is now £1,177bn – a staggering £20,000 for every person in the UK. A study for the highly-respected British-North American Committee, written by former Bank of England economist Neil Record, finds that the UK shortfall is far more severe than in the US or Canada.

Moritz Kraemer, head of S&P's sovereign ratings in Europe, Middle East and Africa, said Britain was facing a double challenge – first, to mend its books in the wake of the financial crisis and then to overhaul its economy drastically to stifle the pensions crisis. He said Britain was facing deficits unlike any before in peacetime history. "We don't think they are willing to look into this fiscal abyss without taking any action," he said. "Following the financial crisis, the proportion of the problem is significantly larger than we thought but the Government has time to react to address these issues." The shortfall may mean having to raise taxes, cutting public pensions or healthcare spending, he added.

The agency said that unless Britain and its fellow leading Western nations took action to stem these costs, "the ratings of the high grade sovereigns would be very different." Although the UK is the only country on so-called "negative outlook", meaning the agency is considering stripping it of its AAA rating for the first time, Mr Kraemer said the gold-plated rating could be salvaged if the next Government proves it is willing to bring the public accounts back in order. He added: "We take pre-election pledges with a pinch of salt; they don't always materialise. Actions speak louder than words. It's easy to come up with solutions on paper but difficult to make them stick."

OECD warns over UK deficit
The Government's plans to get public spending back under control are not ambitious enough, according to the economic group which includes the world's most developed nations. The Organisation for Economic Co-operation and Development's (OECD) report on the British economy called for "more explicit" spending cuts and tax rises to address a deficit expected to hit 14 per cent of GDP by 2010. The body's criticism comes just days after Bank of England Governor Mervyn King also demanded tougher targets from Alistair Darling, the Chancellor, to reduce an "extraordinary" public deficit.

The OECD's economic survey of the UK said: "The schedule for rebalancing the budget after the current economic downturn abates should be more ambitious." Britain is on course to borrow a record £175 billion this year as tax receipts are hammered by recession and spending on benefits and moves to bolster the economy soars. The OECD said value-for-money savings made in November's Pre-Budget Report and April's Budget did not go far enough. "

There should be more explicit targeting of programmes for expenditure cuts and temporary revenue raising measures should be considered to help expedite the rebalancing of the budget," it added. The think-tank forecasts debt as a proportion of national output will rise to 90 per cent in 2010, with the unemployment rate nearing 10 per cent next year. Cutting spending is likely to be the most effective way of bringing down the deficit, according to the OECD, which added that more banks may need to be nationalised to ensure a flow of lending to businesses.

UK public sector pensions burden worse than in US
Generous public sector pension promises in the UK are three times as much of a drain on the private sector than in North America, a new report shows. According to the influential British-North American Committee (BNAC), Britain’s unfunded pension liability – the retirement benefits of civil servants paid out of future taxes – amounts to 85pc of annual GDP. The ratio is 28pc and 27pc respectively in the US and Canada, “where the majority of public sector schemes are now funded”, BNAC said.

The findings lend weight to warnings from Standard & Poor’s, the ratings agency, that public debt could quadruple from current levels to twice the national economic output by 2050 unless public sector pensions are brought under control. The committee added that “in all three countries, governments are recording the annual cost at less than half the cost at market rates”. Neil Record, the former Bank of England economist who drafted the study, said: “These commitments are destined to pre-determine the use of monies from taxpayers as yet unborn.”

Germany and France need to sing in tune
by Wolfgang Münchau

I never expected a message of austerity to emerge from the Palace of Versailles, where Nicolas Sarkozy, France’s president, spoke last week to outline his economic strategy for the rest of his term. He left no doubt that he is not prepared to follow Angela Merkel, Germany’s chancellor, in the direction of a balanced budget. Instead, he distinguished between “good” and “bad” government deficits, went on to explain that a good deficit is cyclical, a bad deficit structural, and then produced yet another category: a temporary deficit that would be brought down through higher economic growth in the future.

In theory, this is all fine. In practice we have reason to doubt whether he will make an earnest effort to get rid of the deficits, good or bad. One can have endless debates about the relative benefits of Germany’s legalistic approach or Mr Sarkozy’s alternative version. Whatever side of the debate you support, you will probably agree that it is not a good idea for the two largest members of the eurozone to move in opposite directions.

In fact, it could prove highly destabilising to the eurozone. Germany, as I argued last week, is heading in the direction of a zero level of government debt in the long run as a consequence of a new constitutional balanced-budget law. It is perhaps not intuitive that a balanced budget, pursued indefinitely, would eventually lead to a complete eradication of public debt. But this is what will happen. In fact, Germany’s new law imposes an upper deficit ceiling of 0.35 per cent of gross domestic product over the economic cycle. But remember this is a ceiling.

There is no floor. If the cyclically adjusted deficit came in exactly at that ceiling, year after year, and assuming a nominal rate of output growth of 4 per cent, this would stabilise Germany’s debt-to-GDP ratio at just under 10 per cent. So if this constitutional law sticks, Germany’s debt-to-GDP ratio will settle somewhere between zero and 10 per cent in the long run.

Now, Germany is a country with a large current account surplus, or excess of domestic savings over domestic investments – 6.6 per cent of GDP in 2008 and 7.6 per cent the year before. It is no surprise therefore that German banks have been hit so heavily by the securitisation crisis. They had to channel masses of surplus savings abroad. In the event, they bought US subprime mortgages and their derivative products. They will not repeat the same mistake, but they will still be facing a problem.

If Germany’s national debt converges towards zero, Germany’s surplus savers will have to invest huge amounts of their savings outside the country, since the supply of German government bonds will diminish over time as the outstanding stock of debt is depleted.Now this is where Mr Sarkozy’s bad deficits come in. Most German savers, especially pension funds, will want to invest in euro-denominated government debt, which, for practical purposes in this scenario, means French debt, because no other domestic European bond market is sufficiently large and mature. As a result France may enjoy a version of America’s exorbitant privilege.

If Germany unilaterally goes down the road of deficit reduction, and if France unilaterally goes the opposite way, the result will be a serious imbalance. France will find it progressively easy to finance its public sector deficit, as German savers have no choice but to buy French debt instruments. They will get trapped in French debt, just as the Chinese got trapped in US debt. This means that Germany will suffer two successive blows. The first is a sacrifice of economic growth as a result of the pro-cyclical policies needed to do away with the deficits for ever.

We got a taste of that last week, when Klaus Zimmermann, president of the German Institute for Economic Research, advocated an increase in value added tax from 19 to 25 per cent. Such action would obviously be disastrous for economic growth. It would throw Germany into a full-scale depression. But he is right in a narrow technical sense. If Germany is hell-bent on eliminating its structural deficit by 2016, some drastic measures are inevitable. Ms Merkel has said she will not raise VAT, but she will either have to raise other taxes or cut spending. Politically, the first will be easier than the second.

Once budgetary balance is achieved, at huge economic cost, German savers will then suffer the second blow in the form of poor returns on investment, as their surplus savings will be financing Mr Sarkozy’s good, bad and ugly economic policies. How long can this go on? Imbalances can last a long time, but they do not last for ever. Something will have to give. It could be that future generations of German politicians find ingenious ways around the balanced budget law. Or that they find a two-thirds majority to overturn it.

Or that Mr Sarkozy or his successors follow Germany into a future of austerity. But as long as one of those three events fails to happen, Germany may discover that unilateral fiscal rigour in a monetary union could prove extremely costly. For the sustainability of the euro, you surely do not want to get into a position where a large member state has a rational economic reason to quit. So if Germany and France really do what they both promise, you may as well start the egg timer.

Merkel's Tax Cut Pledge is 'Hollow, Wrong, Implausible'
Chancellor Angela Merkel's conservatives are wooing voters by pledging tax cuts in their policy program for the September election. Commentators say that at a time of record public debt, it's an unrealistic promise that could damage her. German Chancellor Angela Merkel almost lost the 2005 election because she decided to be honest and announced she would hike the value added tax to cut the budget deficit if she got into power.

That pledge, combined with her lackluster performance in the campaign, whittled down her respectable lead in opinion polls and ended up forcing her conservatives to share power with the rival center-left Social Democrats for the last four years. Merkel has learned her lesson and is now pledging to cut taxes by €15 billion if she wins a second term in the September 27 election. Her conservative Christian Democrats (CDU) and their Bavarian sister party, the Christian Social Union (CSU), agreed on Sunday to put tax cuts in their joint campaign manifesto, and to rule out tax hikes, in a move that makes her re-election even more likely.

But media commentators say the manifesto, which is due to be passed at a joint party congress of the CDU and CSU on Monday, risks denting Merkel's credibility at a time when the federal budget deficit has ballooned to its highest level since World War II as a result of the financial crisis. The draft budget for 2010 envisages a deficit of €86.1 billion, more than twice the previous record reached in 1996, because of massive stimulus programs, bank rescue initiatives, state-sponsored corporate bailouts, falling tax revenues and surging welfare payouts in the country's deepest recession since the 1930s. But legal experts say tax cuts could be in breach of the German constitution, which sets a limit on government debt.

And economists say it will be impossible to get the burgeoning government deficit under control without hiking taxes at some stage, and that tax cuts are barely feasible. "I think what's being promised by the conservatives now is unrealistic," Stefan Homburg, an economics professor at the University of Hanover, told Deutschlandfunk radio on Monday. "We have just received a financial plan from the federal government that estimates public spending in the years through 2013 will be far higher than last year and that revenues won't rise in that period. That will result in gigantic deficits and something will have to be done to deal with those deficits."

The conservatives' 63-page manifesto says nothing about how the planned tax cuts, which include cutting the bottom level to 12 percent from 14 and lifting the tax threshold for the top tax bracket from €52,552 to €60,000, are to be financed. Merkel and CSU leader Horst Seehofer made plain at Sunday's meeting that they were prepared to run up fresh debt to ensure taxes could be cut. Merkel said economic growth mustn't be stifled and added: "There won't be a tax increase with me in the next term."

However, the conservatives have refrained from setting a date for the cuts. Merkel's comments were intended to silence recent calls for tax hikes from two senior CDU members, Baden-Württemberg state governor Günther Oettinger and Saxony-Anhalt governor Wolfgang Böhmer, who both stayed away from Sunday's meeting of the party leadership. Media commentators from left and right said on Monday that Merkel was risking her credibility with the tax cut pledge.

Center-left Süddeutsche Zeitung writes:
"She has chosen tax policy as a focus and thereby thrown the spotlight on an issue that is bound to make her look dubious. She spent more than three years opposing tax cuts by arguing that the federal budget couldn't cope with it. Consolidation became the trademark of the coalition. And now of all times, when public debt is soaring to immeasurable levels, she's promising billions in tax cuts. In the 2005 election campaign Merkel talked about hiking value added tax because she wanted to remain credible. Today she has to live with the fact that her pledge to cut taxes doesn't make her look particularly convincing.

The Americans distinguish between two types of politicians. Barack Obama is the type who takes the lead, who tries to shape the future of his country and fights to rally the majority behind his plan. The other type tests the waters -- examining the public mood and adjusting policy accordingly. Angela Merkel is that type. If the Germans remain a people of 'water testers', Merkel will have really good chances in the autumn."

Left-wing Berliner Zeitung writes:
"The tax-cutting mantra now being written into the election manifesto originates from a time before the crisis and the record debt, it now sounds hollow, wrong, implausible. What would be interesting now would be to hear creative answers to the question of how Germany can get over the crisis and emerge stronger from it, as Merkel keeps promising. But these answers aren't forthcoming."

Business daily Handelsblatt writes:
"We shouldn't pretend that the huge budget deficits will disappear of their own accord. The necessary consolidation of the state finances won't succeed without increasing the public burden either through increasing taxes or cutting public services at all levels. That's why promising general tax cuts in the coming four years seems deeply dishonest to politically aware citizens."

Conservative Frankfurter Allgemeine Zeitung writes:
"It's true that honesty didn't pay off for Angela Merkel last time around. Her announcement that she planned to hike value added tax to consolidate the budget almost cost her the election victory four years ago. But the reverse conslusion that she'll get any further with unconvincing pledges could really backfire."

Swiss declare war over tax evasion
An economic war has broken out between Switzerland and the rest of the world after the crackdown on Swiss banking secrecy, according to one of Geneva’s leading private bankers. Yves Mirabaud, a managing partner at Swiss private bank Mirabaud, told the Financial Times that nothing was easier than dodging tax in the US and UK. In rare public comments, the Swiss private banker said: “There is a feeling in the banking community, and also in the population . . . that we are in an economic war.  There is nothing easier than doing tax evasion in the US.

ook at Delaware companies or trusts in the Channel Islands.” Mr Mirabaud portrayed Switzerland as a country picked on by bigger rivals: “It is more than simply fighting against tax havens. Switzerland is a small country. It is not powerful.” Swiss private banks have come under pressure after countries, led by the US and Germany, made Switzerland agree to ease its strict bank secrecy laws this year. The situation was exacerbated by the plight of UBS, the world’s largest wealth manager, which is involved in a legal fight with US authorities over alleged assistance in tax evasion.

Mr Mirabaud said that UBS had “behaved poorly” and had not “helped the Swiss financial centre”. He added that discussions on bank secrecy had “cost us all a lot”. But Mr Mirabaud said the crackdown on bank secrecy had yet to lead to an impact on business, although it could do so in the future as it was unclear how much transparency there would be. “There is a certain uncertainty for our clients,” he said. “They have been asking questions and we don’t have all the answers. But business is good.” Swiss private banks and politicians are adamant that “fishing expeditions” from foreign countries to find out customers’ names – known as the automatic exchange of information – will not be allowed.

But it is unclear where the line will be drawn on how much evidence of possible tax evasion will be needed for disclosure of customer details to be enforced. “Privacy is very important for us in Switzerland. Automatic exchange of information is the negation of all this. In this case, we have some common interests with countries like the UK,” Mr Mirabaud said, alluding to offshore centres such as the Isle of Man and the Channel Islands. Mr Mirabaud said that the past few months had been “an unpleasant time” but that factors such as the quality of staff and the political stability of Switzerland meant the country was still an attractive destination for potential private bank customers. “We understand that we are in an economic war and we have our own weapons,” he added.

Niall Ferguson's "The Ascent Of Money"
The first episode of Niall Ferguson’s The Ascent of Money won't air on PBS until July 8. But you can watch it right here right now. The four-part series traces the rise of the modern financial system, providing a historical perspective for our current crisis. One of the lessons that is very clear is that financial crises are nothing new. In fact, they've been a feature of financial history since earliest times. And here's the good news: despite the trauma, things get better.

The first episode is particularly relevant today, given the news of Madoff’s 150-year sentence; it includes the story of John Law, a Scotsman who in the late seventeenth century devised a scheme not unlike Madoff’s that created the first stock market bubble and nearly destroyed France.  The rest of the series will air all through July on PBS, with new episodes on July 8, 15, 22 and 29 at 9 p.m.

The Source of the Economic Crisis: A Chicago State of Mind
Worried about the global economic crisis? It's all in your head, says a leading financial expert. And that's the problem, according to Jeff Gates, author of the  highly-regarded Democracy at Risk: Rescuing Main Street from Wall Street, a sequel to The Ownership Solution: Toward a Shared Capitalism for the 21st Century, which was described by one reviewer as "the best book on economics for a generation," and praised by Ralph Nader as "a Capitalist Manifesto, a blueprint for spreading the benefits of capitalism more equitably." 

In an interview with Beo!, an Irish language internet magazine, Gates, a former counsel to the U.S. Senate Committee on Finance (1980-87), identifies the source of the current economic crisis as a "shared mindset" into which we have been induced to put our faith, to the grave detriment of the majority -- but to the immense benefit of a very few. Following the September 15, 2008 collapse of Lehman Brothers the repercussions of America's banking crisis were felt worldwide, with Ireland being one of the hardest hit. In the last three months of 2008 alone, Ireland's  economy contracted by 7.5 percent, the first time the one-time Celtic Tiger had experienced a decline since 1983. And the unemployment rate reached a 13-year high of 11.8 percent in May, with the number claiming jobless benefits doubling to 397,000 over the past year.       

While the events of last September on Wall Street may have come as a shock to many -- not least those who suddenly found themselves on the dole -- they were "perfectly predictable" to a close-knit group of "financial sophisticates," Jeff Gates maintains.  "Lehman's demise traces its roots to 1982 when Reagan-era 'reform' of the Savings and Loan sector transformed a modest problem into a major disaster for mortgage markets," Gates points out. "Then Clinton-era 'reform' of investor protections, led by Treasury Secretary Bob Rubin, former co-chairman of Goldman Sachs, enabled the 'financial supermarkets' at the core of this collapse -- including Citigroup where he became a senior executive alongside CEO Sandy Weill."

These "reforms," Gates says, led to a return to the "Depression-era conflicts of interest" that characterised the financial sector up to 1933 when President Franklin D. Roosevelt signed into law the regulatory Glass-Steagall Act, which prohibited banks from owning other financial companies.  "Rubin successor Larry Summers (now Barack Obama's top economic adviser) fought for 'reforms' that de-regulated financial derivatives -- magnifying the impact of the crash as those arcane arrangements grew from $88 trillion a decade ago to a market that now represents transactions with a face value of $600 trillion," Gates says.  "Add to that toxic mix the easy credit policies of a central bank overseen by Alan Greenspan, a disciple of Ayn Rand, a Russian-Ashkenazi philosopher and market fundamentalist." 

The Fed Chairman's praise for Wall Street's financial "creativity" further "emboldened market-exploitative practices," he adds.  Gates also points to the culpability of insurance giant AIG for failing to put aside reserves to cover the hugely profitable risks they took on in the newly de-regulated market, since they were "confident that taxpayers could be forced to pick up the tab," which to date has come to $170 billion.  "Meanwhile the perpetrators -- typified by Lehman CEO Richard Fuld -- booked record profits and paid record bonuses from this multi-faceted fraud," Gates says.  "The gains were theirs; the losses ours." 

But is there any evidence that this was a deliberate fraud?  "Systems analysts offer an acronym ("POSIWID") to identify systemic flaws: the purpose of a system is what it does," Gates explains. "In financial systems, results are downstream of the 'Chicago model' -- a shared mindset from which today's results flow. Over the past  half-century, this market-fundamentalist perspective evolved into the 'Washington' consensus to emerge as the guiding principle of the World Trade Organization (WTO) now taking this model to global scale." 

What exactly does he mean by the "Chicago model"?  "At the core of this worldview lies a premise whose purpose is easily stated: 'maximize financial returns and -- trust us -- all else will be fine.' Faith in that perspective ensured today's results," Gates says.  "As this 'Chicago' frame of mind gained the force of law through the 'law and economics' movement, the result became a globalized operating system best described as 'money-on-autopilot.' There lies the blame for this collapse -- in that narrow 'consensus' perspective."

The "law and economics" movement referred to by Gates also traces its origins to the University of Chicago. As key opponents of financial regulation, this movement was heavily funded by the same Olin Foundation that also supported neoconservatism through its funding of neocon think tanks such as the American Enterprise Institute.  This "Chicago" state of mind, Gates argues, had far-reaching consequences that could have been easily foreseen by its advocates. 

"The results of this purpose-driven 'operating system' were guaranteed to concentrate wealth and income and thereby undermine both democracies and markets. By equating personal freedom with financial freedom, we were induced to freely embrace the very forces that now jeopardize freedom," Gates says.  "Nowhere in this operating system is there any provision for the values essential to the long-term health of communities: fiscal foresight, civil cohesion and environmental sustainability. Money is the only value granted a voice."

As to how they are getting away with it, Gates explains: "The source of this internalized fraud remains invisible because its operating system relies on that shared perspective. Its cause remains imperceptible because its source is a mental framework through which we were educated to filter our perception. Therein lies the blame for these fast-globalizing trends."  Education, Gates argues, played a key role in the dissemination of the "Chicago" mindset to other countries, particularly in the post-WWII period. "Since WWII, policy-makers worldwide have granted deference to the U.S. -- including an education system in which successive generations were schooled in the same consensus economic beliefs."  

These oligarch-creating forces, he points out, "are imbedded in education. Both our peoples were taught to put their faith in a consensus 'operating system' guided by a very narrow bandwidth of values (i.e., money)."

Jeff Gates' latest book, Guilt By Association: How Deception and Self-Deceit Took America to War, which traces the corruption that plagues American politics to a network who "share an ideological bias sympathetic to Israel," should be read by concerned citizens everywhere, but especially in the United States, where the "Chicago" mindset has been most deeply embedded in its economic and foreign policy-making.  Endorsed by former U.S. Ambassador Edward Peck and Illinois Congressman Paul Findley (1961-1983), Guilt By Association identifies those who have promoted aggressive economic and foreign policies that have been "ruinous" not only to America's reputation but also to "moderate and secular Jews," who, Gates points out,  are often unfairly portrayed as "guilty by association" with the behaviour of these "elites and extremists." 

Who are these "elites and extremists," and how do they make America appear "guilty by association"?  "When waging unconventional warfare, Defense Secretary Robert Gates points to the perilous role of 'the people in between.' Thus, for instance, while pro-Israelis induced the U.S. to wage war in Iraq with false and flawed intelligence, 'the people in between' created, promoted and reported intelligence 'fixed' around that pre-determined goal," Gates explains. 

"In the financial domain, 'the people in between' are securities bundlers, rating agencies and, most fundamentally, those who induce "the mark" (the public) to put their faith in the financial premise that enables this ongoing fraud. All flows downstream from a 'consensus' perspective --regardless whether the deception is a shared belief in Iraqi weapons of mass destruction or a consensus faith in the infallibility of unfettered financial markets. The modus operandi is identical -- the displacement of facts with beliefs."

Perhaps not coincidentally, the intellectual roots of neoconservatism can also be traced to Chicago, where University of Chicago Professor Albert Wohlstetter's cadre of students included Richard Perle and Paul Wolfowitz. Wohlstetter himself had been a protégé of another University of Chicago Professor, Leo Strauss, considered to be the "intellectual godfather" of the neocons, who significantly advocated a "philosophy of deception."  

Robert Zoellick, Paul Wolfowitz's successor as president of the World Bank, also typifies "the people in between," in that he too weaves together the political and economic strands of the "Chicago" state of mind. Zoellick is another ardent pro-Israeli, as signatory of the neocon Project for the New American Century, advocating in 1998 the overthrow of Saddam Hussein and the destabilization of Muslim regimes throughout the Middle East. At the World Bank, Zoellick now plays a key role in globalizing the "Chicago" economic mindset. 

In 2004, as U.S. Trade Representative, this one-time manager of Goldman Sachs, was very influential in Prime Minister Koizumi's privatization of Japan's Post Office. Postal privatization was, according to Gavan McCormack, "a further, large step in sustaining Washington's Iraq mission" - a mission for which Zoellick's neocon cronies were key instigators. Moreover, privatization allowed America's "financial supermarkets" much coveted access to "the giant Japanese pool of savings." 

Through their failure to identify the source of the problem, government responses to the ongoing economic crisis will only make matters worse, maintains Gates. He sees little difference between responses to the crisis whether crafted in Dublin or Washington. "Same pig; different lipstick," he quips, referring to A Pathway to Recovery and Renewal for the Irish Economy, a March 2009 report prepared by Ronald Greenspan for Taoiseach Brian Cowen, a former Finance Minister. A financial adviser from Los Angeles, Greenspan's firm, FTI Consulting, describes him as an "internationally renowned restructuring expert." 

"Greenspan is drawn from a global network of like-minded advisers to policymakers worldwide who propose to solve a systemic problem well downstream of its source. By piling on more interest-bearing debt without addressing the underlying problem, those who follow this traditional 'Chicago' advice are unleashing long-term financial forces destined to make a bad situation worse -- at a staggering cost," he says. "Both nations can anticipate stagnation and inflation while 'the people in between' continue to amass more assets (at distressed prices) and collect more interest on more taxpayer-secured debt. The pace is poised to quicken in this policy-enabled redistribution of wealth -- from the bottom to the top."

"The seductive allure of this flawed mindset," Gates suggests, "is evidenced by the fact that Irish taxpayers are still footing the bill for such advice." Citing the FTI report as "classic consensus-addled consulting," he notes that FTI Executive Vice President Declan Kelly proposed the restoration of confidence in Irish banks as "the way forward." Yet nowhere in this high-priced analysis was there even a hint of a systemic flaw." Gates asks, "When has redoubling efforts in the wrong direction ever solved a problem? How can restructuring mean restoring confidence in a system that must itself be restructured?"

What then would Gates, who has counselled more than 35 countries on financial policy, advise Brian Cowen to do?   "The mindset is the problem," he reiterates. "The consensus operating system includes a 'closed system of finance' guaranteed to concentrate wealth and income -- and thereby destabilized democracies and markets. Those foreseeable results are made worse by relying solely on government debt as the means for creating money -- and by depending on a one-size-fits-all national currency. With these design flaws left intact, nations are systemically unable to meet the needs of communities. To restore confidence in the banks without reforming the underlying operating system only 'resets' the economy for failure." 

So, what kind of financial system could actually meet the needs of communities?  "The solution," Gates believes, "lies in combining financing techniques that broaden ownership with monetization techniques that secure currencies with the physical capital essential to healthy communities. Local hydrogen reformers, for instance, could back currencies able to stimulate local purchasing power while also hastening the transition to the Hydrogen Age."
"Sustainable futures will be found in policies that decentralize monetization and make finance more inclusive and more accountable. That's how Ireland can begin to identify and displace 'the people in between.' And how other consensus-enamored nations can be freed of this systemic corruption." No doubt, "the people in between" wish that you had never heard of Jeff Gates, so as not to disturb your Chicago state of mind. 


Anonymous said...

U.S. ‘May Be Seeing Bottoming’ of Home Prices, Lockhart

My response to the writer of the article:
How long has this dipstick been singing that line of crap now?

Writer e-mails me back:

"LOL. I know. I wouldn't have even sent a headline if it weren't for the fact that CNBC was sending headlines at the same time and my editors were freaking out."

That's how this game is played, she new the whole thing was a bunch of crap.

One thing I'm finding as I e-mail the writers of these articles lately is they actually do e-mail me back quite often and some of them are just as pissed off about this fleecing as I am. A year ago I would never get a reply.

Anonymous said...


I am a fan, in regards to today's post, NYT had an article up yesterday on loan modifications. The last example in the article was mind-boggling kafkaesque mortgage theatre:

...Another agent, Lee Wasser, props his feet on an adjacent desk chair as he waits on hold for more than 20 minutes to speak with GMAC Mortgage.

His clients, Dean and Nancy Piercy, owe $380,000 on the loan for their home in Shasta Lake, Calif. A logger, Mr. Piercy has lost work hours, making it hard for them keep up with their $2,048 monthly payment — soon set to rise.

Mr. Wasser has already negotiated a solution: GMAC will accept only $270,000 in repayment, allowing the couple to get a fixed rate mortgage from another bank.

But that suddenly is in disarray. The Piercys have been making their payments, but GMAC has been putting their checks aside, holding the money as “loss mitigation fees,” until their application is completed. It has notified credit bureaus that their loan is more than 90 days delinquent, which has lowered their credit score, disqualifying them for the next mortgage.

Mr. Wasser reaches GMAC’s loss mitigation department. He asks for the delinquency to be removed from their status. But that must be handled by a different department: customer service. He is transferred there, where Jessica picks up the call.

“We are not going to amend,” she says, after a strained back and forth. If Mr. Wasser wants it otherwise, he will have to talk to loss mitigation.

“I just talked to them five minutes ago,” he tells Jessica.

“No, you didn’t.”

“Are you accusing me of lying?”

Mr. Wasser asks for Jessica’s employee identification number, but the line goes dead. Jessica has apparently hung up.

they will take your money in any way!

Anonymous said...

I was thinking about fractional reserve banking and realizing that it has ceased to exist. It devolved into no-reserve banking due to lethal over leveraging. By now, any 'reserves' left in the bank vaults have curled up and vaporized into thin air, like when you throw a bucket of water on the Wicked Witch of the West.

With the trial balloon sent up in Japan recently hinting (threatening) to abolish cash so that the central bank can effectively lower interest rates into the negative range, I think we can all pause a moment and stare in wonder and amazement at the dawn of the Negative Fractional Reserve Banking Era.

What a mile stone. Like a Debutante Ball for sociopathic gamblers and 'financial instrument' Pimps.

It will work out this way in the near future, you deposit $100 in the bank and a year later, you have $95. You 'get' negative interest on your money. You 'contribute' to the bank %5 of your deposits for the privilege of allowing them to use your money (and lend it back to you for a profit) and they will safely return *most of it*.

It's like they're almost guarding it or something.

Wow, it's like magic! Shezam! I get *most of my money back*. Far-out!

Gee, this is much better than Bob, my neighbor, who didn't get hardly any of his money back from his 'investments'. Poor Bob, he should have plunked down his wad at my bank.

Father Knows Best

Jim R said...


The honor of your presence is requested on planet earth. We need you because:

• Malthus -- we ridiculed him
• Darwin -- he can't be right, my preacher says he can't
• Svante Arrhenius -- who?
• M. King Hubbert -- he peaked in 1956
• Paul Ehrlich -- naaah.
• Jimmy Carter -- he wore a cardigan sweater, didn't he?

So if 200+ years of warnings weren't enough, we'll take chaos, thank you.

Anonymous said...

I think I will use my bank to cash a check,make a payment,and cut checks.Savings account?thats the "stuff"in my conex box,or bee gear.Investment?maybe more good quality,carefully stored garden seed.Retirement?That was a dream stolen a long time ago.Maybe I start taking my retirement in chunks ...NOW..when I want bees, fruit trees,kiwi vines,and garden should keep me eating,as long as I can gather fruit to dry for the winter.I thought about those high value hard to replace "Items" a while I have bought things like hardware[by the pound]at some bankruptcy sales,brass screws,latches,hinges,wedge anchors,drill bits,ect...I now rarely have to go to the store for a project
Its my intent to continue this...I want to set a good table at the farmers market in a few years.

I try not to think too much about the actions of the just makes my blood boil,and ruins my digestion and attitude when I think of the power and actions of "the Chicago school":that philosophy and outlook has caused more harm to the common folk than any form of collectivism that I have studied over the years.
I am starting to re-establish my inner "Old Hippy" from another life long ago...or maybe its a regression to childhood...I just dont look at things like "the establishment"the same way anymore...I am sure there are many more of our group who are beginning to see the same light I am...I have just had it with the way things are now and am starting to play the game by MY rules now..

time for sleep...


Anonymous said...

From today's posting:

"....And then they all go to church on Sunday and ask for the blessings of a deity of their choice. And fool themselves and each other into thinking they've received it..."

Agreed. But I'd wager some have figured out that the god of the bible (particularly the OT) is none other than Satan and therefore this hell-hole is his and their playground.

The quieter gentler NT of "love thy neighbour" and "we are all one" was written to promote One World Government. Nothing has changed down here since time immemorial. How could any book so widely distributed on this plane of deception be anything other than evil propaganda?

Many in the halls of power know exactly what they are praying to and know their evilness will be rewarded, until of course a situation like the Bernie Madoff case presents itself, when in order to keep secret the identities of those others in on the take, he becomes the fall guy.

Yep, evil ones have no qualms about eating their own when they are no longer useful.

Starcade said...

It either ends with massive printing and bailouts, or with riots.

Tick tock...

VK said...

At this point I wouldn't be surprised if the next BLS update consists of 500,000 jobs created courtesy of the Birth Death model and we see positive job growth and GDP shows an uptick! Back to growth baby, yeeeaah!

PS - why has it not been taken up by the MSM or the blogosphere that domestic activity in the US is contracting at around 12% annualized if one excludes the decline in exports. (the way GDP works is, if imports decline, it actually boosts the GDP figures)

Gravity said...

But actually, he thought as he re-adjusted the Ministry of Plenty's figures, it was not even forgery. It was merely the substitution of one piece of nonsense for another. Most of the material that you were dealing
with had no connexion with anything in the real world, not even the kind of connexion that is contained in a direct lie. Statistics were just as much a fantasy in their original version as in their rectified version. A great
deal of the time you were expected to make them up out of your head.

For example, the Ministry of Plenty's forecast had estimated the output of boots for the quarter at 145 million pairs. The actual output was given as sixty-two millions. Winston, however, in rewriting the forecast, marked the figure down to fifty-seven millions, so as to allow for the usual claim that the quota had been overfulfilled. In any case, sixty-two millions was no nearer the truth than fifty-seven millions, or than 145 millions. Very likely no boots had been produced at all. Likelier still, nobody knew how many had been produced, much less cared.

All one knew was that every quarter astronomical numbers of boots were produced on paper, while perhaps
half the population of Oceania went barefoot. And so it was with every class of recorded fact, great or small. Everything faded away into a shadow-world in which, finally,
even the date of the year had become uncertain.

Anonymous said...

Thoughts, ideas, reflections welcome:

Some weeks ago I addressed the question of paying off a mortgage now rather then later. I took Stoneleigh's advice (and Rapier's and all of the other kind souls on this sight) and am currently doing just that.
I only remain confused on one front - I have some oil stocks and some investments in gold. These are the last thing I have been hanging on to. Thinking long term - 5-10 years they might be worth holding. Is this unwise and should I get out now?


:) Thanks!

Persephone said...

Banking fees are yet another weapon in the arsenal against the middle class.
Let me guess, the banks do not even have to inform "customers" of changes to account fees?
I would feel safer going to Lucky Lefty for a loan.

Leona said...


I'm sensing the herd getting nervous, or it could just be me. I am holding some stocks to sell this summer and hoping to time it close to the "high" of around Dow 10,000. This is money I'll need to dig a well and fence in a pasture.

Do you still see the market peaking later this summer, or are you looking at this current lateral "movement" as our summer peak?

Thank you for the care and effort that you and Ilargi give to/spend on us.

Anonymous said...

There's been a bit of talk here recently about infiltration by stooges and agent provocateurs. This is often perceived as tin foil hat stuff - but I hope this anecdote gives an insight into TPTB mind games.

A few years ago, at a gathering of the great and the good, a mate who was a senior lecturer in politics sat next to a Greek chap at dinner. The chap introduced himself as 'the ex minister for misinformation'.

Most, if not every country, apparently, has a department that releases stories to obscure the truth.

He was particularly talking about Cyprus, and the Turkish - Greek skirmishes - but there were consistent themes - produce made up counter stories, refute the figures, question integrity. This goes on ad nauseum within structures desperate to cling on to power.

This is one of the reasons I love reading TAE - it's very difficult to find a motive, other than philanthropy, for I& S's writings.
The message is too unpalatable for most people to internalise, and who, other than the reader, benefits from 'buy less', 'don't believe the hype' learnt to look after yourselves - they haven't even got a book deal or water filter to promote. :)


Anonymous said...


Ditto re Leona @ 6.45 am

With gratitude.

centiare said...

@Starcade - We should be so lucky if the looming social disorder is limited to merely riots. My disagreement with I&S is that their stories tend to taper off before we get to the real ending. Where we are all collectively going will be one for the history books.

To understand this very dark vision, one must have a sense that every action the Fed & .gov are taking is going to fail miserably. To have confidence that this assessment is correct takes some experience in the open marketplace.

Bernanke's thesis regarding monetary intervention in order to prevent another GD rests upon the assumption that the underlying economy is fundamentally balanced. That is, in the GD1 and other preceding panics (1873, 1837, etc), there was a mix of production/consumption/savings and manufacturing, mining, agriculture & services. So, while certain financial activities may have temporarily corrupted efficient market operations (pricing/supply), equilibrium could be achieved once sufficient clearing actions had taken place.

The problem Ben faces is not just the total extent of the debt overhang, but that the underlying economy was comprised primarily in **the very** processing of this debt ie the FIRE economy. So the Fed is charged with not only attempting to increase liquidity in order to give the underlying economy some breathing space in which to recover, but to actually re-ignite a significant economic sector in and of itself. (One, by the way, which is dead and gone.)

What we're really dealing with here is a situation that anyone who has ever been involved in either a start-up or turn-around quickly learns: most, if not all, efforts fail. Unfortunately, my background is in acctng/finance, so I've seen way more than my fair share of failures.

In my experience, it doesn't matter how rosy the business plan is, or how well capitalized the venture is (even to the extent of VC money), or how experienced the mgmt team is, or whether you have a patent/copyright, or whether you have a lower cost of production, or whether you have orders/contracts in hand, etc, etc. The sad reality is that almost all ventures fail. Whether it is timing, luck or the gods' favor, who can tell why a friendster fails while a facebook succeeds?

That's why private, unplanned markets actually work - with 1 winner per thousands of losers, capital is efficiently dispersed and effectively prevented from concentrating in lethal doses when the inevitable failures occur. As successes emerge, capital either flows directly or finds new niches/segments in which to exploit opportunities that provide add'l value-add and/or utility.

Now contrast that with what the central government (or any planned command economy) is attempting to achieve: (a) restart a failed economic sector; and (b) attempt to start new economic/business sectors. Unfortunately, rather than produce even a spectacular $billion VC blowout like Iridium, the FedGove is committing $trillions in one last shot at red (get the pun?), ranging from re-starting FIRE to pioneering new technologies/markets.

Does anyone understand what is going to happen when our total base of collective capital goes up in one giant ball of smoke (allusion intended)? It isn't going to be deflation and people passively standing around in soup lines waiting for uncle sugar to dispense some favors.

The meaning of money, credit, contracts, inflation, deflation, etc will all prove to just be illusions - "words". The true economic picture will mirror the well trodden path of history, where might makes right. Think major turning points like 476, 1066, 1453, 1492, 1776/1789, 1917, 1945 and you'll get the basic picture of where we are heading.

Ian said...

Latest John Mauldin. His newsletter is widely circulated and really a useful read because, keen to remain within the mainstream, he covers all points of view.

This one is talking of a "20 year bear market" according to Neil Howe, author of a book called The Fourth Turning.

The summary outlook, according to Howe, is that we are in the very early stages of a 20-year period of economic and institutional upheaval – an era denominated by a crisis during which we'll likely witness the tearing down and reconstruction of many aspects of society as we know it.

As individuals, understanding Howe's views and taking some reasonable precautions makes a lot of sense. As investors, those views also have the potential to make us a lot of money.

... we are currently on the cusp of a Fourth Turning. This is a time of great turmoil, when society's basic institutions are torn down and rebuilt, and seemingly insurmountable problems are addressed. During Fourth Turnings, America engages in a struggle for its very survival and redefines its identity as a nation. Large wars are often a part of this process. The American Revolution, Civil War, Great Depression, and World War II were all features of past Fourth Turnings.

... In sum, Howe's research has shown that, with remarkable predictability, history is not a straight line extending toward a better and brighter (or increasingly awful) future, but rather a repeating cycle of the four distinct social eras.

... The world's former powerhouse economy, the U.S., is now the world's largest debtor nation – and by a wide margin. The nation has trillions in unpayable liabilities coming due on Social Security and Medicare, to name just two of many broken government programs weighing on the country. And our much vaunted democracy is increasingly dysfunctional – rotten to the core, truth be known – thanks largely to entrenched special interests and a voting public clamoring for their own piece of the pie, while trying to hand the bill off to somebody else.

... Most importantly, if Howe is right, this crisis is far from over. In fact, when I asked him where we are today on a scale from 1 to 10 -- with 10 representing as bad as the crisis will get -- he replied that we are at either 2 or 3. In other words, the worst is very much yet to come. And, per above, he expects this period of turmoil to take 20 years to play out.

... Baby Boomers will continue to be respected for their cultural achievements (it's not a fluke of history that Boomer music and other entertainments are still wildly popular among the young), but will be increasingly ignored in the political debate. The term "senior citizen," already in decline, will disappear entirely. And if push comes to shove, Boomer's financial interests – including Social Security – will be subjugated "for the greater good."

and you can also go direct to:


Jim R said...

I see that there are a few folks asking about when will the Dow hit 10,000 or the S&P hit 1100 or whatever. I'm going to go out on a limb and attempt to answer for Stoneleigh.

First of all, as I recall, Stoneleigh didn't say we "will" hit 10,000; she said she "wouldn't be surprised if" we hit 10K. Big difference.

Secondly, it isn't just a feeling. One of the articles above says the herd is getting twitchy. They are pawing the ground and their ears are down.

I have this feeling with my long positions that I'm skating out on an ephemeral scrim of hoar-frost having left the solid ice behind a while back. I will be pi55ed if the market drops 20 percent today, but I won't be destitute. And I won't be shocked either. I don't think the S&P is going to get back to 1100 any time this year.

YMMV. You pays your nickel and you takes your chances.

Anonymous said...

Ilargi --

Marc Faber was on Bloomberg yesterday and seems convinced that the March low was "the low".
He believes that the government will print money whenever the DOW falls below a certain level.

I'm surprised at his position. Could you comment?

el gallinazo said...


Why Svante Arrhenius? Are you referring to his famous equation in chemical rate reactions, or did he do something else memorable?

"I am starting to re-establish my inner "Old Hippy" from another life long ago...or maybe its a regression to childhood"

I could never really lose it. All the suits knew I was faking it. Had to go back to self-employed plumbing.

Your story about the "patriotic" Iraqi vet was really scary. The ones who don't stay in the military overseas empire **will** be in the police forces. I think it will be safer in Juarez in two years.


The human race was designed to fail. Who was the Designer? Gucci?

My local Caribbean TV news this morning (sponsored by ScotiaBank) referred to the "recovery" as something indisputably real like a plane crash.

Right now, I have decided to bet a good part of the farm shorting the Universe on September 1. If it weren't for Stoneleigh's bison herd (or is a herd of stampeding lemmings - I can hear the thunder now), I wouldn't believe the suckers' rally could last that long. I think herding is only a part of it. The PPT with GS and Morgan and their futures S&P program trading have to be a big factor. But they can only hold out so long before they pull the plug. I am a plumber - I know about these things :-) It's just a matter of roping in enough idiot pension fund managers, who are doubling down with OPM.


To paraphrase Lily Tomlin, No matter how paranoid I get, I can't keep up.

Stoneleigh said...

Anon @6:21,

Holding paper oil or gold won't help you at all, as the paper markets will be trashed long before those commodities make the moonshot they're likely to make in a few years time. Gold can be owned in physical form, but there are many other priorities to address first, and gold ownership can be a double-edged sword. You'd have to be prepared to sit on it for years, so I only recommend that you own it if everything else is taken care of and you're reasonably confident that you won't need to access that store of value for a long time. If that is the case, then gold is a good insurance policy.

Since owning oil in physical form is not a practical proposition, when it comes to energy investments you'd be better off super-insulating your home or owning something more practical like solar panels or a wind turbine (depending on location), or perhaps an electric scooter.

Stoneleigh said...


There's no guarantee we'll see DJIA 10,000. I still think we'll see a late summer high and that we're not there yet. I would expect to see a more euphoric mood at the high - more of a collective buy-in to the whole green shoots notion. I wouldn't try to hang on to the very top though. Cashing out at a top is difficult to do, as tops can be fleeting and can therefore be very easy to miss.

Bigelow said...

@anon 6:21

You can't eat gold or oil directly.

Ala Stoneleigh: if you've already covered all the rest of your needs, then hold some --for the long term (but it could be a very long time).

My latest theory is S&P should go down anytime now, till end of July, back up till late Oct. and then crash for about three more years. As one of today's articles mentions commodities are very closely correlated with stocks. On the other hand specialists like Jim Sinclair and Matt Simmons expect gold and oil to become much more dear. Never bet the farm on any one outcome. You might not be as lucky as Soros.

Above for entertainment purposes only; not to be taken as specific advise.

Jim R said...

El G,

Global Warming. Arrhenius predicted the climate in Sweden would get warmer (and he was looking forward to it).

He looked at the infrared spectrum of carbon dioxide, and at the sheer quantities of coal being burned in the late 1800s and did some calculations, concluding that it would affect the climate.

Anonymous said...

"So far prices are tracking between the two stress test scenarios.

Caculated Risk's graph seems to show there is not quite such a mighty wind as expectations have it here.

Anonymous said...

Americans have had plenty of warnings in recent decades about living within their collective and individual means. Hubbard's Oil Depletion Curve, Earth Day (1970), Oil Embargo (1973), Carter's flatout warning, all willfully ignored by the juvenile, me me me hyper-individualist narcissism of post WWII America.

Well, I've realized finally at a core level that nothing will make the diseased mindset and 'kulture' of the U.S. ever change and live within it's means, nothing, except abject poverty.

That's right, forced, dire, bare knuckle poverty instead of reason and rationality or even just plain vanilla self interest and self preservation.

The majority of citizens in the U.S., acting collectively as a big bloated garden slug, brought this whole financial mess down to this particular fork in the road.

The culture itself actively fostered, every day in every way, it's own financial disease.

The gangsters running riot through the shambles of the economy are simply an 'opportunistic infection' that exists anywhere to take advantage of an intentionally weak and flabby financial 'immune system'.

Duhmericans, as a whole, as a nation, as a culture, not only chose to become fat, dumb and lazy, they trumpeted it from the hilltops that they are the best at it!.

Here, here.

There are no solutions to this dilemma, there will only be endurance of it.

Perhaps America's first major wakeup call was Henry Thoreau.

"Our inventions are wont to be pretty toys, which distract our attention from serious things. They are but improved means to an unimproved end, an end which it was already but too easy to arrive at."
~1854~ Walden

We're there Campers.

Here's a glimpse from the Play Book of our Fate hence forth, because we chose not live within our means or to even mindfully Pay Attention to what was brewing all about us for decades on end:

"The mass of men lead lives of quiet desperation. What is called resignation is confirmed desperation." (1854)

Anonymous said...

to Stoneleigh

I follow TAE as best I can but I might have missed discussion of insurance policies. I've cashed out all the 'life' insurance I had because I don't think the insurance companies are capitalized much better than banks.

My next thought is, when do I cancel house and business insurance?

I say this because a friend recently got a notice from her house insurance company that they were sending someone out to inspect her house to see if what she described it to be was in fact the case. No harm there, I can see an insurance company wanting to verify the house it has a policy on. But the real reason seems to be to lower the amount they would pay you for 'replacement cost' if something happened to it.

It seems to me they are 'marking to market' the true value of your home, far in advance of the banks or the local property assessor, both of whom have a vested interest in stating your home value as far higher than the insurance company wants to give you for replacement cost.

Any thought?

ps what is going to happen to car insurance?

Chaos said...

@Anon 10:06

I wish you'd identify yourself...I like your posts, at least I like the ones I think are yours.

Anonymous said...

Old bird...there was a lot more went on that evening than just that encounter...Wife and I were celebrating 15TH anniversary.That young man was a good example of what our .mil consists of now.

Centiare,your dark vision is what many,including myself see.When this song and dance of the elites ends,what is left...there is no capital,only massive debt upon debt upon debt.
I think we all know it can never be repaid....just the consequence delayed as long as possible...and we seem to be near that inflection point now...

off to be productive... snuffy

Weaseldog said...

On that GMAC thing, Washington Mutual did a similar number on me.

I fell behind and they wouldn't let me catch up. They were just letting my payments sit in a desk somewhere, while late fees piled up.

I was nine months behind before that start crediting me, but they didn't remove the late fees. So I was still in arrears after paying on their schedule to catch back up.

Mortgage Corporations don't mind lying and stealing to make extra money. It's easier than working for it.

Taizui said...

El G @9:29

Can you post some specific advice for novices on how to "short the universe?" I only know "SDS" from comments here and a Google search. Is it true that SDS moves up twice as fast as SP500 moves down?

What does "Ultrashort" in its name imply?

How long can you hold this stuff and what are the risks? When SP500 goes up, do you have to keep depositing money to maintain your holdings, and does SDS go down twice as fast as SP500 goes up?

Can you buy/sell online? What brokers would you recommend?

Other shorting options for us little guys?

Thanks (and I acknowledge in advance that you're not a registered investment adviser!)

bluebird said...

Like anon@10:18, I also wonder about insurance. I don't recall having seen this discussed previously, but perhaps missed that day. I assume when we no longer are able to drive cars because lack of gas, then I'd cancel car insurance. But if my house is paid for, is house insurance still advisable to have? We are all going to die someday, so don't we need life insurance to pay for a funeral and burial? Or maybe not, for us oldsters.

Stoneleigh said...


Much to agree with there.

We should be so lucky if the looming social disorder is limited to merely riots. My disagreement with I&S is that their stories tend to taper off before we get to the real ending. Where we are all collectively going will be one for the history books.

We are trying to help people to prepare in the short term to the extent that they can. That's why we focus on finance - because the timescale is shortest, so that's what people have to address first if they're to have any chance of dealing with anything else later.

You're completely right that this will be one for the history books. The largest bubble in history is bursting, and even much smaller previous bubbles didn't go quietly.

To understand this very dark vision, one must have a sense that every action the Fed & .gov are taking is going to fail miserably.


Bernanke's thesis regarding monetary intervention in order to prevent another GD rests upon the assumption that the underlying economy is fundamentally balanced. That is, in the GD1 and other preceding panics (1873, 1837, etc), there was a mix of production/consumption/savings and manufacturing, mining, agriculture & services. So, while certain financial activities may have temporarily corrupted efficient market operations (pricing/supply), equilibrium could be achieved once sufficient clearing actions had taken place.

The problem Ben faces is not just the total extent of the debt overhang, but that the underlying economy was comprised primarily in **the very** processing of this debt ie the FIRE economy. So the Fed is charged with not only attempting to increase liquidity in order to give the underlying economy some breathing space in which to recover, but to actually re-ignite a significant economic sector in and of itself. (One, by the way, which is dead and gone.)

Bernanke is labouring under the mistaken assumption that markets are objective and efficient judges of value and that economies are like machines - if you pull this lever then that will happen. He doesn't understand that markets and economies are human constructs - messy and subjective constructs suffering from an acute deficit of real information and based on collective emotional herding behaviour. Since his model is wrong, his prescriptions do not even begin to address the real problems.

Stoneleigh said...

Centiare (continued),

Unfortunately, rather than produce even a spectacular $billion VC blowout like Iridium, the FedGove is committing $trillions in one last shot at red (get the pun?), ranging from re-starting FIRE to pioneering new technologies/markets.

Agreed. It's one last desperate gamble that confidence will come back if they can only keep things from imploding for long enough. It isn't going to work.

Does anyone understand what is going to happen when our total base of collective capital goes up in one giant ball of smoke (allusion intended)? It isn't going to be deflation and people passively standing around in soup lines waiting for uncle sugar to dispense some favors.

It is going to be deflation, as deveveraging from these stratospheric heights is unavoidable, but it isn't going to be neat and tidy or peaceful. We're looking at a giant free-for-all wealth grab as the vast number of excess claims to underlying real wealth is extinguished. Once this gets going it will be rapid. Legal niceties will not be observed, to put it mildly.

I don't expect this to be met with passivity, at least not initially when people still have something to lose, and are not yet hungry and destitute. I expect the same kind of social eruptions that Argentina saw in 2001, when they went through five governments in a matter of months.There won't be anything like the recovery that followed though, as that was grounded on exports to a functioning world economy and functioning global capital markets. There'll be no export-led recoveries for anyone this time.

Passivity comes later, once most people have lost everything and have been thoroughly intimidated. That's not to say that passivity or submission will happen everywhere. There will certainly be areas that will be 'beyond the pale' (an expression from Ireland relating to the area beyond the reach of central authority control). We only have to look at Afganistan, where Karzai is little more than the mayor of Kabul, to see how the reach of central authority can be limited in practice. Where it reaches it will repress IMO.

The meaning of money, credit, contracts, inflation, deflation, etc will all prove to just be illusions - "words".

Deflation is the collapse in the supply of money and credit, and that is not avoidable. I agree that contracts will be rewritten or torn up or widely ignored, and all manner of property rights will be extinguished.

The true economic picture will mirror the well trodden path of history, where might makes right. Think major turning points like 476, 1066, 1453, 1492, 1776/1789, 1917, 1945 and you'll get the basic picture of where we are heading.

The bubble began to burst in 2000 IMO, with the tech-wreck being the first large leg down. We had a long rally (2003-2007), just as they did in the 1930s (1933-1937), which saw a recovery in nominal terms only. In real terms the DJIA fell throughout this period, as the money supply (measured in conventional terms) doubled since 2000, and the explosive expansion of credit in the shadow banking actually means that the effective money supply expanded by far more than that.

If that parallel hold, we are now in the equivalent of 1939. Everyone should think about the implications of that.

Anonymous said...

el gallinazo,

I don't know, but shouldn't we keep an eye on how the banks do in their next report. That will be before September and your planned day to be a market plunger (no not a handy helper but more like this guy If you haven't read the series, it is shallow stuff but good rollicking fun.)

Back to banks, do you or anyone know of any definite reporting dates? If they bomb I will short too but if they lie so will I ... lie low, that is, till next time. I have been waiting for the end of it all since the early 80's and I will not be denied! Huzzah!!! (or for the more hirsute types Keegrah Kill!!!)

-drool for dollars-

Stoneleigh said...

Anon @10:18,

I wouldn't cancel home or business insurance just yet, and car insurance is compulsory. IMO they won't pay out down the line, but they still would in the short term. I agree that life insurance, especially whole life, is very much a losing proposition, unless you're about 95 years old already. Insurance companies are indeed as badly off as banks. Their investments will be toast.

Car insurance will eventually disappear, so the risk of motoring will will skyrocket, for those who can still afford to drive (or have jobs to drive to).

Weaseldog said...

Bernanke's acitons remind me of Cargo Cults.

When the US military left some of the Pacific Islands, the natives built wooden mockups of airplanes, radios, and control towers in hopes that these would bring the real thing. They wanted the wealth associated with the totems to return.

DFD, maybe the banks could start reporting like the EIA? Simply report the financials that we'd like to see, then amend the report under the radar a few months later.

jal said...

Re: house insurance

I just renewed mine. I always have the reverse experience. They always want to increase the coverage and the premiums. I tell them that I'm over insured and to lower it. It’s the same fight every year.
Re: Again … Capitalism vs Socialism

It’s a Pot calling the kettle black.

It the old argument my theory works and yours does not.

It’s long past the time to forget the theoretical argument. Look around you, It’s time to swim or sink.

When this depression is wound down you will end up with millions of surplus labor that cannot be employed.

What will capitalism do with those people. Kill them or let them starve?

What will socialism do? How long can a “Robinhood” approach work?

Both camp are saying that the “robinhood” approach cannot be sustainable and that there must be an exit strategy from deficit spending.

At the end of the day ... the sun goes down.

Weaseldog said...

OT: U.S. Congresswoman Cynthia McKinney was removed by the Israeli Military from a ship carrying aid supplies to the Palestinians.

She is being held against her will, and there is no word yet whether Israel will press charges against her or release her.


And back to 'Michael Jackson: A Retrospective in Song and Dance' as Performed by the US Postal Service Ballet Troop.

Brian M. said...

May not be relevant anymore, but the bug I saw yesterday, I saw on Internet Explorer on a IBM Thinkpad running Windows 2003. I use another browser/platform at home, but didn't get to check it.

Ilargi said...

Thanks, Brian

The piece of code that caused it was [/span?] (and ] is >), where ? is obviously the culprit. There are more tags the Blogger platform doesn't close, or require you to, like [/p], [/li] and others. Apparently most platforms accept this, but not all.

VK said...

Green shoots!

"Since Federal Reserve Chairman Ben S. Bernanke first uttered the words almost four months ago to describe signs of a thaw in frozen credit markets, instances of the botanical metaphor in the press have climbed sevenfold. A Google search for “green shoots” returns 4.86 million hits."

Anonymous said...

People who 'time the market' with hopes of extracting every last ounce of maximum profit in order to build a "safety net' will get exactly what they deserve when their timing is off.

Meanwhile, keep on lamenting the decadent state of affairs--and forgetting the lesson of last fall-- while simultaneously groping for one last ring of the BINGO bell.


Market players are the soft underbelly, the something for nothing crowd, the rotten watermelon rhine stinking up the trash can, the pus ooozing out of an infected wound....and 'Father Millet' would agree.

Ahimsa said...

Carpe Diem (yesterday),

Thanks for the link to the Vermont herbalist. Yes, we might need her expertise, especially in the coming years.

I've used herbs for healing myself and my family for the last thirty years. They are effective and easily obtained and do not poison one's body the way Big Pharma drugs do.

ric said...

...the bug I saw yesterday, I saw on Internet Explorer on a IBM Thinkpad running Windows 2003

Also saw it using IE8 on Windows Vista 64-bit.

centiare said...

@Stoneleigh "It is going to be deflation ... Passivity comes later, once most people have lost everything and have been thoroughly intimidated."

Thanx for the input; my comment regarding deflation should have emphasized "what the meaning of is, is". That is, in times of social crisis, like war, what do terms like deflation, inflation, contracts, etc, actually mean? They are just words. Money, value, exchange can mean anything the strong want them to mean.

Regarding passivity, I can tell we're never going to agree, so I'll once again point out some of the differences which shape our respective viewpoints to further entertain your readers:
* You're female
* You're a subject
* You live in the N east
* You live in a notoriously passive country

The first 3 are pretty straightforward, whereas your non-American readers may be puzzled as to the last comment.

What many people don't seem to realize is that the USA was founded on the premise of territorial conquest. Somehow we've managed to whitewash our history, but in reality we successfully executed a strategy that wasn't much different from lebensraum. After all, what's the difference between Slavs and Indians? Concentration camps & reservations? We took their property, packed them up, shipped them off, and that's that.

But the real point of this observation is not to bemoan our "evil" forefathers. After all, they were merely products of their times, which is that might made right. The main point is that American's have been both genetically & environmentally/culturally shaped by these experiences.

Think about it for a moment: Who the heck left Europe and moved to the US in the first place? The educated, comfortable middle-class? No, it was the brawling, dysfunctional losers, that's who. Secondly, our legal system is based on free speech, assembly & the right of maximum self-defense ie 2nd amendment.

Add it up, and there is no way in h@ll Americans are going to accept anything less than a manic, most likely violent, effort directed towards reclaiming what most believe is our collective birthright. I'm not claiming we'll be successful (even though I do believe we will be); I'm claiming that the attempt will be the outcome.

el gallinazo said...


"I only know "SDS" from comments here and a Google search. Is it true that SDS moves up twice as fast as SP500 moves down? "

That's what the rocket scientist try to do, and they are pretty good at it. Of course it is on a percentage basis. It is also true that it moves down twice as fast as the S&P500 moves up.

Ultrashort just means that it is leveraged short. ProShare Ultras try to leverage two to one. They do not offer anything leveraged more than that. I wouldn't be interested anyway.

It is an ETF which trades like a stock. You can hold it forever or until the final meltdown, assuming you don't need the money for something else. All my trades have been accomplished in seconds from when I entered them - usually two to three seconds - very liquid. Only gamble with money you do not need. I started out with 8% of my liquid assets about 18 months ago. Had it up to about 18% in March. Down to about 14% now and totally in cash.

I recommend dealing through a reputable computer broker. I use TD Ameritrade. They charge $10 a trade for an ETF regardless of the monetary size.


First that you are wrong and the index goes in the opposite direction. Second, that your broker or ProShares goes belly up. In theory neither should wipe you out, but you can't buy bread with a theory. That the SEC outlaws shorting again except for Morgan and GS. However, I was surprised to find that when the SEC did it in September my ultrashorts, after the initial panic, were far less susceptible to this than I thought. I was holding some SKF then (financial index), so it was totally affected by the SEC ban.

The whole market is rigged anyway. The only way you can make money is to figure out what the riggers are doing and going to do and go along for the ride. I refer to it as a louse on the butt of a tyrannosaurus (Goldman Sachs).

This, of course, is gambling, so if you are morally opposed to gambling, don't get involved. While your potential winnings will be at the ultimate expense of the krill, the velociraptors would have wound up with it anyway.

There are no margin calls. The worst case scenario is losing 100%, which in the case of SDS would be essentially the S&P500 doubling from from when you cash in.

You can short individual stocks but you really need a lot of expertise to do this. I would recommend against it unless you want to start studying it 8 hours a day.

As I said before, never gamble with money you can't afford to lose easily. I am retiring from productive work and expatriating, and I see the coming meltdown as my last shot to make some money. I am getting enough SS that I could live on it modestly in South America, but that is completely dependent of Forex, and I don't give SS more than 2-3 years. The SS budget surplus was suppose to last another ten years, but I think it will go into deficit next year, which means the SSA will have to start selling off its T-Bonds, and they will slaughter it. A large percentage of the national debt is in SSA T-Bonds.

I certainly couldn't live on the 0.16% that I am getting on my 13 week treasuries.

Anonymous said...


19(3)9 ... ?

Frank said...

@Anon 12:43 She meant 1939 all right, counting from the dot com collapse.

I see what she's getting at, but see two differences: 03-07 were better economically for the man in the street (if not for the stock market) than 33-37, and two, we've not had the build up for war that happened in the '30s. (Please skip the obligatory America bash -- by the start of 1939 all the world powers and most of the Europe only powers were seriously building up their armed forces.

The ongoing Russian and Chinese modernizations aren't in the same league.

Stoneleigh said...

Anon @12:43,

Yes, 1939. We are 10 years into the bursting of the bubble. In the 1930s we had downturns in 1929-1932 and 1937-1942, and the first was the largest. There was a reflation 1933-1937. This time we saw a downturn 2000-2002, a reflation from 2003-2007 and the next phase of the downturn beginning in 2007. We are now 18 months into that second downturn, and this time that second decline should be by far the worst. That puts us in the equivalent of 1939, the implication being that conflict is relatively close at hand. What is coming will be large enough that politicians are going to want to place the blame on others, and will seek to act on that blame in order to distract the populace from domestic woes.

el gallinazo said...

@Anon 12:12

"People who 'time the market' with hopes of extracting every last ounce of maximum profit in order to build a "safety net' will get exactly what they deserve when their timing is off."

Get thee behind me Satan.

But I can't argue with your statement. I guess the converse is true also that people who time the market right will also get exactly what they deserve.

I have lived my life by the Boy Scout Code (except for the clean and reverent) so I deserve a lot.

Unless one is in the middle of one of the world's last vestiges of a giant rain forest, we are all either playing or being played by the market.

I&S's purpose for this blog, as she just restated in the last hour, is to help people who are willing to listen and think, to make fiscal moves that might enable them to survive phase one of the apocalypse. At this point, selling your house could be viewed as unethical, as anyone on this blog knows, its value will plummet for the new owner. What the classical economists refer to as finding a greater fool.

As far as I am concerned, shorting the market (as long as one is not a giant investment bank, Fed, or PPT manipulating the market) is no more unethical as selling a house right now, but admittedly more risky.


Cynthia certainly has a stainless steel set. Got to admire her.

jal said...

When this depression is wound down you will end up with millions of surplus labor that cannot be employed.

If you get rid of those millions of people then the economy/business will have less buyers, if there are less buyers then you create more surplus labor. Where is the bottom?

You will not be able to get China to fund a US war against China.

Then again ... it's a crazy world.

Mike said...

In Regards to 1939 and being on the cusp...

I don't know how many of you subscribe to George Ure's "Urban Survival", an official Link of TAE, but he's a friend and associate and the official outlet to Clif High's "HalfPastHuman". The software program site that has been developing "predictive linguistics" software, for the past 10 years or so.

Or as George Ure likes to call it a "rickety time machine", that can take a peek into the future based on culling chatter on the net.

At any rate, according to Clif, things look to get very "warlike" in the fall, circling October 26th as a key action date, Israel, Iran, and North Korea are involved with serious wartone implications.

Some say Tinfoil hat stuff, I thoroughly enjoy Clif's work, Tinfoil hat and all.

I highly recommend trying to listen to his explanations, incarnations of past interviews (inlcuding one most recent last week) can be found at

Much of what Clif has to say in regards to upcoming events predicted by his linguistics software lines up very much so with what I&S have been saying for some time.

Entertaining stuff, that is both fascinating and frightening.

gregfb said...


When you say one would have to sit on gold for many years, what length of time are you thinking? Thank you.

Ahimsa said...

I admire Cynthia McKinney's courage. A few years ago, she was the only politician in Washington who attended a hearing questioning the official 9/11 conspiracy theory.

el gallinazo said...


"You will not be able to get China to fund a US war against China."

Well, of course you can. At least until it actually starts. That's why China is desperate to stop funding the US Treasury and thus the US war machine. (Sorry Frank - not really).

Anonymous said...

Stoneleigh @ 9.34

Many thanks again for your thoughts.

I'm up in the alps but not in a situation where I could adopt solar panels, turbine etc. Electric scooter maybe in the summer! I will though give up the oil and gold and apply those funds to the mortgage. I already took your advice on the bond situation. I feel better already.

Thanks again and remember to eat your good carbs!!


Anonymous said...


Hope you looked at the websight ( I thought of you because of the 'nature lover's paradise' and land that is up for grabs in the N. Kingdom...Looks VERY interesting.

Good luck with everything.

Carpe Diem

Anonymous said...


thanks to all the others as well who advised on the oil and gold conundrum.

Anonymous said...

jal said...
Re: house insurance

I use to battle the insurance companies about valuing me too high, but no more. They have gone quiet.

Paying out $200,000 is worse than paying out a devalued property at $100,000. They can charge the same amount, as Lily Tomlin said as the Ma Bell Phone Lady,"we don't care, we don't have to."

el gallinazo said...

I haven't owned a house since I lost what the lawyers referred to as the "marital dwelling" 30 years ago. So how do you get billed for insurance now? Is it a certain amount per thousand dollars of appraised value, other factors like wood or brick, etc. being equal?

If so, the insurance companies have no advantage in dropping appraised values, assuming that they are making a profit on their basic rates, as it would simply lower their gross receipts. Now, if they could cut your appraisal and keep the old yearly charge, then that's another story.

Anonymous said...

"You will not be able to get China to fund a US war against China."

The day Jacko died (Peter Pan Hit the Fan) the website for the Chinese central bank pretty much officially stated the the dollar should no longer be the world reserve currency. It's wasn't really very subtle or coy, it was 'in your face'.

Of course, the Ministry of Propaganda here ordered a immediate 24/7 shock and awe coverage of Peter Pan Hit the Fan to, once again, divert the small squirrel like attention span of the U.S.A. Sheeple to a bright shiny spinning object like Jackson's sequined jock strap.

Max K just said that the decision to put it up on the official Chinese bank site was a military decision, that the Chinese military have drawn the line on any more financing of their own opponent, period.

From here on out, they have made the choice to take the hit on their dollar holdings, they're hoarding mountains and mountains of commodities as their hedge.

Anyone betting against them better show them the beef, cause they have real stuff, we have mountains and mountains of Debt, not quite the same thing as useful stuff.

The IMF drawing rights will be converted to a basket of currencies and exports will be payed via that basket unit.

The Chinese political leaders and military are not the f*cktards that U.S. political and military leaders are.

They're not playing their hand according to US armchair 'magical' thinkers. They're playing for the cookie jar.

The whole announcement went basically unreported here, figures. The U.S. is allergic to the truth at this point in history and does not dare clue the Prole to the Big Change coming their way.

The Day the Music Died was the day the U.S. got news of it's impending 'currency castration'. How fittingly symbolic.

Everyone seems to be taking it very calmly.

We'll all be sings the high notes from here on out as a tip of the hat to our deceased Demi-god Jacko.

Ilargi said...

For the foreseeable future, China will make an announcement a week or more on the currency topic. Did we all notice the US Treasuries sale went slick and smooth yesterday? China's intention is to sow doubt and confusion, not to get rid of the US dollar. That sort of policy would fail on the one point the Chinese are the best in the world at: practicality. They're going for jabs, not knock-outs. Time enough for that later.

el gallinazo said...

I have a question for everyone's potential input, and being that it deals with the intricacies of US income tax, Stoneleigh might be at a disadvantage.

I have a close friend here who is 66 years old, a retired school teacher. Her assets are as follows:

About $300k in her IRA
About $130K outside her IRA
A house in STJ which would have been worth about $450k in the bubble. Values here are really hard to fix now.
Two houses being rented in the Southwest. One may go under contract for about $150k next week. The other is worth about $100k.
She gets $22k per year from her state teachers pension and $14k from Social Security.

Her earned income will be cut way back this year due to arthritic work issues as well as the general turndown.

The question is about pulling her money out of the IRA. I am of the opinion that the government may soon try to "temporarily" seize that money in the next year or two, or at best allow very small disbursements. Additional, income tax rates may be increased in the near future. The O-man has reneged on every campaign promise he has made so far. Big surprise.

So I told her to call up her tax man and find out what the total hit would be if she pulled it all out this year, and what the total hit would be if she pulled a third out over three successive years, assuming there are not major tax changes in that period.

Obviously the hit would be bigger to do it tomorrow as a higher percentage would be in the top bracket. This discussion just took place today, so we won't have those requested numbers for a while.

Right now she has most of the IRA money in 13 week T-Bills through a broker. If she pulled it out of the IRA, she put it in the same place through

But what are people's attitude in general?

Anonymous said...

1939!... Okay Stoneleigh you may be right about the interesting times, I read that:

"In the first 5 months of 2008, the number of U.S. troops in Afghanistan increased by over 80% with a surge of 21,643 more troops, bringing the total number of U.S troops in Afghanistan from 26,607 in January to 48,250 in June.

and then I see that:

"Under a U.S.-Iraqi security agreement, U.S. combat forces to leave Iraq by Aug. 31, 2010, and all U.S. troops are to be out by the end of 2011."

Now I don't think they are going to want these guys out and about and gumbooting it around the US of A totally unemployed and all and I think after Iraq these fellows would bite any government hand that says they will feed them to go about beating up mom, pop, sis and bro. So by my reasoning it looks like the lads in Iraq are up for a route march to meet up with their Afghanistan compares in Tehran. Maybe spend some time relaxing on the shores of the Caspian Sea (Telmarines?), take a second job working on a pipeline, do a bit of oil trading ?

But where do you place your best bet in the 'Dreaming-world-war-three-blues' department, I got a feeling the replacement tin foil I bought lately is substandard

-drooling for dollars-

el gal gallinazo, maybe she could make up for any losses by cutting back on her charitable donations.

Ahimsa said...

Carpe Diem,

Yes, I browsed at the great website and was happy to learn that such a knowledgeable herbalist practices in Vermont. The "nature lover's paradise" is beautiful, but too pricey for us. Thank you for thinking of us. Good luck to you as well.

Frank said...


You might seriously consider enlarging your search area. There are many places in NY state where you can get better land for less money. State taxes are high, but if you're farming it won't be an issue. Don't know about the people.

Or you can get similar land and similar neighbors on the New Hampshire side of the Connecticut river, without paying the (often stiff) premium for the Vermont brand.

I know, I've had the sun come out as I cross the Vermont state line many a time, but still...

el gallinazo said...

I guess my real question about my retired school teacher friend is:

What do you think the US government is going to do about:

1) IRA's
2) Income tax rates

when the SHTF for real:

A lot of people here have iRA's, so I guess this is an important issue to this site. Mine got closed out the minute I hit 59.5.

VK said...

Stoneleigh touched on a HUGE topic today, the possibility of conflicts occuring much much sooner then we are comfortable with.

I can certainly imagine a scenario a few years down the line, when 100mn + chinese could be unemployed that the Govt decides to launch a nationalist movement eg Strong China Policy.

Whereby the military is beefed up and the anger of millions of angry, hungry, jobless and sexless men (given China's male female ratio) is diverted towards the wider region, especially Japan and Taiwan.

The only short term possibility of immediate conflict I see are in two regions;

1) Iran - Israel
2) India - Pakistan

Any other hotspots?

jal said...

@ VK
Instead of China initiating a conflict, Have you considered that all of those "extra highly educated unemployed" could be used to run/operate all of the oversea assets that they have been acquiring. Something similar that the Europeans did -- take over the Americas. They could take over Africa.

Anonymous said...

No, you can't eat gold. But my friend from Cambodia, who owns a donut shop, said that gold saved her life...she cut off increments of her gold bracelets to buy BREAD when the currency collapsed

Anonymous said...


Happy you saw the sight. Rosemary is an extraordinary person. She started out in the 60s working in the back of a health food store in Marin County packaging herbal teas. She ended up starting the 'Traditional Medicinal' Tea company which she later sold. Her place and land is worth seeing -acres and acres of edible plants and herbs for her tinctures.

Also a beautiful area for consideration is the Berkshire Mountains in Mass. Lots of farmland and cooperatives, Kripalu center for yoga and health and generally a big alternative movement in the region and strong community. One hour south of Vermont border. If you are closer to Williamstown you are right on the border with V.

My 3 cents.

c d

Col Klink said...

VK Jal

I am a faceless blogger, so take what i say as you see fit, but watch pakistan. And if you are curious as to why the foundation of the coming pakistan mess is largely of our own making, then read up on operation cyclone.

Iran and North Korea are little more then distractions at this point even though Iran has some potential for a medium term conflict.

Right now pakistan is starting to look like an asian version of Austria, 1914

VK said...

@ Col Klink

Via Wikipedia

"Operation Cyclone was the code name for the United States Central Intelligence Agency program to arm the Afghan mujahideen during the Soviet war in Afghanistan, 1979 to 1989.[1] Operation Cyclone is one of the longest and most expensive covert CIA operations ever undertaken;[2] funding began with $20-30 million per year in 1980 and rose to $630 million per year in 1987.[3]"

So basically the US funded the Afhan Mujahadeen to take out the Soviets and in the process ended up creating and funding their 'main enemy' today. One that threatens to topple the Pakistani regime and in the process ignite a nuclear war with India that would leave a global f*ck up of epic proportions...? Am I reading that right?

Kettle said...
This comment has been removed by the author.
Col Kilink said...



Yes. But, we also used the ISI (pakistan intelligence service) to funnel huge amounts of money to the region, up until the late 90's. Part of their task was to set up training camp and train what today we call extremists and what yesterday we called "freedom fighters".

The ISI and their split loyalties are one of the key players in this mess. We created them, trianed them, and funded them. Actually we still fund them.

One way or another we had a hand in creating a significant portion of the extremism and instability in the region.

It was a benefit when the soviets where in Afghanistan but it has now come home to roost

Col Klink said...


The war may not be directly with India. There is a very real chance of pakistan breaking up, and it would be a disaster for the region. Any such conflict would likely be a regional conflict involving south east asia as well as india. China could also quickly become involved, as it see's india as a regional conduit of western influence and could interceded in any such conflict if it felt that things were developing in a manner that would spread western influence or diminish its own.

There are segments of the ISI that side with the extremist groups and also have access to pakistani nukes. It makes for a very touchy situation.

Anonymous said...

There he goes again, Centiare as George C Scott in an ‘America loves to kick-ass’ Patton preamble. Centiare envisions the modern day Davy Crockett and Daniel Boone imposing a genetic echo of Scots-Irish pugnacious frontier spirit on the rest of the world. All in the cause of resurrecting the sky-blue purity of unpolluted free-market capitalism. But down here in the real world--“on the heath’ as Vincent was so fond of writing-- people have seen and felt this this pie-in -the-sky reflection in muddied and duplicitous waters, in the pnnd scum of greed., corruption and economic stratification. Dirty, lying waters, reflectors of the free-market myth in the sky, have nourished and propagated the weeds and jungles that have suffocated and entangled working men and women for at least the last thirty years, and well before that previous to the middle-class elevation ushered in during FDR reign and beyond.

Somehow, some way, those entangled down in the jungles of the free -market myth will be willing to turn a blind eye and deaf ear to the injustice of the American medical system, and forget about the loved relation who was shafted health coverage by some free-market insurance company perched in the lofty skies of denial. Yes, these victims of social injustice will don the machete and clear away the jungle of oppression and systematic stratification in order to liberate this same free-market.

Not a chance. First of all America really has changed and continues to change in terms of demographics. In case you haven’t noticed, a good many people will become new American citizens sometime in the relatively near future. And many of these new citizens will have had descendents whose land was stolen from them all in the name of “ that’s way things were done then.” Or rather, that’s how those who were ‘ genetically predisposed’ did them.

Davy Crocket and Daniel Boone, the legendary frontier spirit as epitomized by the Scots-Irish, have in reality, more in common with the defeated and downtrodden peoples of old Ulster, than the wild woodsmen peering out over the virgin forests of what is now West Virginia in the year 1778.

The real clearing of confining jungles in the name of revealing sky-blues skies will only succeed if the intent is look into clear waters of honesty and integrity. Channeling the barbaric injustice of the conqueror as the rationale that will allow history and a blood thirsty jingoism a repeat on the theme of manifest destiny seems more than a bit absurd this time around.

This time around the “do-nothing” crowd will win the day. As in one step back, and two steps sideways, just to watch it all collapse. And when those with violence in their eyes come around with a false flag rallying cry , let them be compassionated irrelevant into the far distances of the horizon via the mechanics of neglect.

Sweet Taoism, so many years available, so many lessons not learned., your day is coming

VK said...

@ Col Klink


I can see Pakistan destabilizing the entire region. If Pakistan goes, then I can certainly see increased instability in Afghanistan. An India vs China standoff could occur.

What about Turkey going after the Kurds in Iraq? Iran using Hezbollah to stir up trouble in Lebanon, Israel and Iraq. If the straight of Hormuz is closed we have the world's biggest shipping routes and oil routes shut off. Chaos all round.

The Pak ISI is like it's own Government within Government, the shadow faces behind the country.

Anonymous said...

seems the trolls have temporarily vanished....:)


VK said...

Via Barry Ritholtz

“How bad is this recession? Even sex doesn’t sell.

That’s the glum assessment of those in the adult entertainment industry, hundreds of whom gathered last week for the annual Cybernet Expo conference in San Francisco. The industry, now a multibillion-dollar online business, has discovered that people just aren’t willing to click-to-pay for vice the way they once did . . .

A lot of companies have been bouncing checks,” performer Annie Cruz said. “Some people have quit the business. A lot of companies have cut back shooting. There are a lot of girls who have not worked in a month.”

I guess you could say this is the biggest indicator of a flaccid economy, the recession has laid off porn stars due to it's hard and deep effects. Talk about deflation! not even the money shots by Ben and Timmy into the economy have helped the sagging of the industry (Sorry couldn't resist! ROFL)

Farmerod said...

Four misc thoughts.

1. Well said, 5:34.

2. Careful with ETFs. You can lose your shirt even when you're right. Use them only for short term speculation since they are prone to decay. Take USO for instance. It started out at the same front month price of oil in mid-06. It is now roughly $40 while oil is ~$70. I believe I read once that it has to do with futures roll-over but, in any case, it's not a long-term investment unless you are shorting them but I'm not sure that that's allowed. Take any long ETF and compare it to its matching short and you will see the pattern. The 1 year return on UYG is -80% while its converse, SKF, is -70%. This will probably one day be exposed as a big scam but I have no sympathy for myself or others who have played in the ETF casino. In the past, instead of buying an ultrashort ETF when the prediction on this blog was a downturn, I instead bought medium duration way out of the money puts on the ultralong, thinking that, if nothing happens to the underlying price, the decay of the ETF will at least partially compensate for the option's decaying time value. Of course, professional option traders probably figured that out eons ago.

Two other points: I send a portion of any net winnings to our gracious T/A, Stoneleigh. Finally, yes, I feel dirty talking about this stuff.

3. Gold was previously declared illegal for use as currency. Back in the day, you could probably get away with using it that way anyway; you just had to be careful where you spent it. These days, gold purchases are recorded so if it were once again deemed illegal, you would have a hard time hiding it. They would find you and make you dig it up. Examples of metals precious to me: tools, tractor, implements etc.

4. Stoneleigh, you have said before that you expect DOW <5000 by year's end but that, eventually, DOW <500. Was your reference to 1939 more the military aspect? Because, although the DOW lost ~50% between 37 and 42, it climbed thereafter. And a follow up: do you do your own T/A or are you getting your predictions from Prechter or someone else?

thethirdcoast said...

@ VK-

After, uh, years of, uh, in-depth research on the Internet I can assure you that anyone who still pays for, uh, "adult" materials is an out and out fool.


Also, please pray for Matt Taibbi's safety, as Gollum Sachs has taken notice of his outstanding Rolling Stone piece:

Frank said...

Col Klink,

We did pay and train the ISI. We did not create them. The army as a state within the state goes back to the founding of the country.

Nor are their loyalties really divided. The Pakistani army including the ISI is loyal to itself. Once the Taliban became an actual threat to them, they called timeout on their sitzkrieg with India and actually started fighting.

Anonymous said...

el gallinaz, a little unthinking maybe but I don't mean you are unfeeling, if you want to see unfeeling get a load of Melissa in conversation with David Rosenberg, (about 1 min 30 seconds in.

-drool for dollars-

Anonymous said...

When have we ever had a truly free market?

Inquiring minds would like to know.

Ilargi said...

"I send a portion of any net winnings to our gracious T/A, Stoneleigh. Finally, yes, I feel dirty talking about this stuff."

Thanks for that. That must be the funniest comment I've ever read here.

VK said...

When have we ever had a truly free market?

The fact that we have never had one shows that it can not exist. Human relationships are based on politics and influence. Somehow 20% of society always accumulates 80% of it's wealth. Wealth concentrates, power concentrates and influence concentrates.

A free market depends on people being rational and just. No such person exists, free markets are a failure as people are the problem, they will always try and game the system their way by any means possible to gain an advantage.

It is only possible to have semi free markets. Markets should be based on human nature NOT ideology that sounds great but in reality can not be implemented.

jal said...

Here we go again …
When have we ever had a truly free market?
Before EVE.
Before you wanted something from someone.
Before trading.

When you will be the last remaining living thing.

ric2 said...

Iʻve seen people here complain about Starcadeʻs over-the-top predictions of Californiaʻs rapidly approaching demise. I usually agree with them and say to myself that Starcade needs to chill, but then I read something like this (from The Exiled, where Matt Taibbi got his start . . .):


Anonymous said...

So if we never had a free market, and we cannot really have a free market, why do people blame free markets for our problems?

I think the meaning and understanding of the term free market has been completely tarnished by its enemies. Much like the word liberal.

Anonymous said...

Weasledog - 11:19

That's interesting.


Anonymous said...

About once a year or so I have posted this bit of Dickens and maybe it fits again here with the talk of free markets:

"'It was a fundamental principle of the Gradgrind philosophy that everything was to be paid for. Nobody was ever on any account to give anybody anything, or render anybody help without purchase. Gratitude was to be abolished, and the virtues springing from it were not to be. Every inch of the existence of mankind, from birth to death, was to be a bargain across a counter. And if we didn’t get to Heaven that way, it was not a politico-economical place, and we had no business there.

Hard Times by Charles Dicken

-drool for dollars-

Anonymous said...

"So if we never had a free market, and we cannot really have a free market, why do people blame free markets for our problems?"

Because the people who championed the theory of a 'free market' were liars and con artist hucksters.

They wanted to sucker the Proles into believing the fairy tale confidence game of 'a free market', but in fact it's always been rigged to a large degree to favor the insiders, insider trading, insider information, etc... It was a Ponzi from day one.

People weren't blaming 'the free market', that was a fantasy for the fool hardy, they were blaming the Potemkin construct of "the free market" pawned off on DuhMerica by the snake oil salesmen of the Chicago School of Disaster Crony Capitalism.

P.T. Barnum's 'free market' anthem:

"There's a sucker born every minute"

Anonymous said...

free markets as interpreted by the League of Darwinists Kurt & Dieter

Persephone said... Great Depression vs. Now

This site has alot of great info and charts without much chit chat

Starcade said...

ric2: I understand why people would say it (and you would believe it) at first glance.

But I have seen what is probably about to happen here -- it probably won't happen here 7/1 (although 10/1 might be a better idea of when it might happen!) -- because of what I have experienced.

I have experienced countless Californians who, without any real degree of employability or hope, will simply destroy anything they can find. They'll break in to cars to steal iPods to sell for $20 (and, when asked by me "Where'd you steal it?", give an answer which indicates that they aren't happy that I know they did), they'll smash down windows deliberately to go to jail for three hots and a cot, etc.

I've seen this. I've heard stories of this from therapists I've worked with. This is real.

The moment the checks stop, the game is over. You won't be able to get to work without the help of the Army, there'll be tens of thousands in every city with abjectly nothing to lose.

I've been there, I've seen it on smaller scales (and the police where I came from can't handle it at those levels). That's why I don't have much hope for the future, and leaving California won't help, after long...

Starcade said...

Re: Victorville

And that's just the "exurbs". Consider what happens when that becomes the inner cities and they begin to explode outward.

Starcade said...

VK Re: Internet porn:

The Internet is no longer for porn.

(It's for stolen anime, but that's another rant.)

Facts are facts: The money's not there to sustain the population -- for much of anything anymore.

Anonymous said... Great Depression vs. Now

looks like a site that's trying hard to 'whistle pass the graveyard'

Everything about today is far, far worse than the 30's.

The federal government is dead broke, we got no oil reserves, we got no factories or trained people who know how to actually make useful stuff, we just have a F.I.R.E. economy that run out of capital and credit and confidence and courage and vision.

Other than that, no problemo.

Starcade said...


That's the thing. The fact is, though, that what you state:

We should be so lucky if the looming social disorder is limited to merely riots.

is exactly correct, because of the dynamics in play.

You remember that Journey song with the lyric: "Paying anything to roll the dice just one more time"? That's where we are headed. The first wave will be the killing and looting to still have the trappings of the "free credit" times. Then it becomes the fight for food.

THEN the snapback.

That's why I make predictions many see as over the top. Remember: One dollar of every six in income is now government benefits. The moment those stop, lop the appropriate number from the population -- and California is just Act One.

The reason all these actions are going to fail miserably is that they believe we are not past TEOTWAWKI.

That point has already passed us. Now TSHTF is roughly inevitable. And the only reason, factually, I don't just jump and end it is that I want to sound the horn to tell people what is really going on, whether they believe it or not.

The entire population, economy, society, culture, and political entity was built on these Ponzi schemes. Call them derivatives, TARPs, whatever you want. Without them, we cannot have 305 million legals. It is not feasibly possible.

Debt is the only reason we live.

Credit is the only reason we've survived. (And you can take that a whole ton of directions.)

And once it goes away, then what are people going to have to live _for_ (much less _with_)?