Thursday, April 8, 2010

April 8 2010: Angela Merkel: Money, She Wrote

Harris & Ewing Girl Power 1918
"Marjorie Stinson, aviatrix, Packard LePere plane, Washington, D.C."

Ilargi: Naomi Tajitsu at Reuters reports: Stronger yuan may deal another blow to euro. That one line there should be about all you need to know to agree with me that German Chancellor Angela Merkel is the smartest politician today in the western world, and perhaps the whole world. If it doesn't, please allow me to explain.

Merkel has long since recognized that a weaker euro vis-à-vis the US dollar, and thus the yuan/renminbi, which is pegged to it, is vital for Germany’s future. At one point in November 2009, the euro traded at $1.52 . It had come from $1.26 in February '09, and from $1.19 in February '06. The Germans had let the US devalue the dollar for quite a while, even to reach $1.59 in July '08, but it was in November '09 that they decided they'd had enough. They'd bought all the US Treasuries they'd want to buy on the cheap with the strong euro. It was time to start selling German products again.

It's vital to understand that in times of economic downturn, in which after all everybody has to borrow far more money than usual, exports become a far more important part of a national economy than they already are in good times. They become a life and death matter, the one single and crucial wheel in the machine that may decide between bankruptcy and recovery.

Of course, in November '09 the US economy was still in a deep ditch, clear for everyone to see, so it took some preparing, beyond your run of the mill selling of euro's into the market, to get the project going. Sometime late last year, Merkel and her crew chose the weapon they would use in the battle to make the euro look weak, wounded and vulnerable. That weapon was Greece.

The strategy must have been clear from the outset: expose Greece's financial flaws to the markets, and make them think Berlin would not step in and rescue Athens. Bring in the IMF to paint the picture of a Third World problem, and appear hesitant, let them all keep guessing. Yes, this would mean more trouble for Greece, especially in the debt markets, but in German eyes, that was nothing the Greeks didn’t deserve.

A few weeks ago, John Mauldin in his newsletter had a brilliantly great stat, which I think will stick in my head for the rest of my life. Out of the 10 million or so Greek population, how many would you have guessed filed income tax returns of over €1 million? The answer is 6. Look, your average Greek resort island has more than 6 people who make more than €1 million. They just don't pay taxes in Greece. Nobody does. And while this may be a longtime tradition that stems from protesting many occupations of their land through the ages, you can't do that as a EU member.

So Berlin doesn't feel much pity if Greek borrowing costs rise. After all, they know they'll probably have to bail out the country anyway down the line, and they will, Germany won’t let the EU fail, or at least not for a long time. Therefore, teaching Athens a lesson first seems quite appropriate. Plus, the uncertainty surrounding Greece remains the main tool to bring down the euro.

Germany needs a -much- lower euro because it's geared almost exclusively towards exporting. Domestic consumption is much lower than for example in the US. The Germans need markets abroad. And here it gets interesting, because so does China. And since the yuan is pegged to the US dollar, Chinese products had become much cheaper in European markets. The Germans didn't mind that too much as long as it was all about trinkets, that not their field. When it comes to high-end products though, they're, let's say, touchy. And since China is increasingly moving into that market segment, Merkel needed to figure a way to lower the euro versus the yuan as well.

But that's not an easy topic to broach with the Chinese. And here’s where Merkel's brilliance shines through. Enter Tim Geithner, stage left.

In the US Congress and Senate, there's long been resentment again Beijing's monetary policies. Capitol Hill was very close to officially branding China a currency manipulator. Geithner this week flew to Beijing to, or so he thought, beg the Chinese to do at least something, widen the floating range by half a percentage point, anything, so the embarrassing motion wouldn't pass the House.

China had made up its mind long before Timmy got there. They just enjoyed making him kow-tow. And a yuan that’s a bit stronger won't hurt China all that much. In their calculation, what they lose in Wal-Mart sales will be more than made up for in relatively lower prices for commodities denominated in US dollars. Still, worth the price of seeing Geithner grovel. But not of an escalating war of words with the US. Not now, anyway.

Merkel? She’s laughing all the way to the bank. A stronger yuan means something Americans may not fully understand: it will make the dollar stronger versus the euro. Hence, Angela has all she wants, a boost to the yuan, and a boost to the dollar, all without having to lift much of a finger, let alone kow-tow. That's what Timmy does for her.

If the US might think of any new tricks to lower the greenback, Angela will swing the Greek threat as long as she can, and when that threat has lost its luster, she’ll come back swinging Portugal, and then some other country in the Eurozone "periphery". What is Obama going to come back with? California? Illinois? The EU structure allows Merkel to play market games that the US doesn’t have at its disposition. Washington can't even pretend it'll let states fail, let alone actually execute such a scheme. Berlin can.

Whether Angela can outsmart Beijing as well is up in the air. If Jim Chanos is only half right with his assertion that China is on a "treadmill to hell", she probably would.

All this makes Angela Merkel, who happens to have a doctorate in quantum chemistry, a formidable force. That and the relative health of the German economy. Mind you, it's all literally relative. If you focus on one country's troubles, it's easy to think that things are awful. Thing is, they all are in -deep- trouble, from Germany to the US to China. The question is how they're coming out of it, how apt they are at solving the riddle and the crime.

And that's why, for the moment, I put my money on Angela Merkel.

Money, she wrote.

The Crisis of Wealth Destruction
by Henry Liu

The financial crisis that first broke out in the US around the summer of 2007 and crested around the autumn of 2008 had destroyed $34.4 trillion of wealth globally by March 2009, when the equity markets hit their lowest points. On October 31, 2007, the total market value of publicly-traded companies around the world reached a high of $63 trillion.  A year and four months later, by early March 2009, the value had dropped more than half to $28.6 trillion. 

The lost wealth, $34.4 trillion, is more than the 2008 annual gross domestic product (GDP) of the US, the European Union and Japan combined. This wealth deficit effect would take at least a decade to replenish even if these advanced economies were to grow at mid single digit rate after inflation and only if no double dip materializes in the markets.  At an optimistic componded annual growth rate of 5%, it would take over 10 years to replenish the lost wealth in the US economy.

In the US where the crisis originated in mid-2007 after two decades of monetary excess that encouraged serial debt bubbles, the NYSE Euronext (US) market capitalization was $16.6 trillion in June 2007, more than concurrent US GDP of $13.8 trillion. The market cap fell by almost half to $7.9 trillion by March 2009. US households lost almost $8 trillion of wealth in the stock market on top of the $6 trillion loss in the market value of their homes. The total wealth loss of $14 trillion by US households in 2009 was equal to the entire 2008 US GDP.

As the financial crisis broke out first in the US in July 2007, world market capitalization took some time to feel the full impact of contagion radiating from New York which did not register fully globally until after October 2007. In 2008 alone, market capitalization in EAME (Europe – Africa – Middle East) economies lost $10 trillion and Asian shares lost around $9.6 trillion.

Government Bailouts, Stimulus Packages and Jobless Recovery

As a result of over $20 trillion of government bailout/stimulus commitments/spending that began in 2008 worldwide, the critically impaired global equity markets finally began to show tenuous signs of stabilization only two years later by the end of 2009. Yet total world market capitalization was still only $46.6 trillion by the end of January 2010, $16.4 trillion below its peak in October 2007. The amount of wealth lost worldwide in 2009 still exceeded 2009 US GDP of $14.2 trillion by $2.2 trillion. The NYSE Euronext (US) market capitalization was $12.2 trillion in January 2010, recovering from its low at $7.9 trillion in March 2009, but still $4.4 trillion below its peak at $16.6 trillion in June 2007.

US GDP in first quarter 2009 fell 6.3% annualized rate while fourth quarter of 2009 surged 5.7% mostly as a result of public sector spending equaling over 60% of annual GDP. The US government bailout and stimulus package to respond to the financial crisis added up to $9.7 trillion, enough to pay off more than 90% of the nation’s home mortgages, calculated at $10.5 trillion by the Federal Reserve. Yet home foreclosure rate continued to climb because only distressed financial institutions were bailed out, but not distressed homeowners. Take away public sector spending, US GDP would fall by over 50%. This is the reason why no exit strategy can be expected to be implemented soon in the US.

It took $20 trillion of public funds over a period of two and a half years to lift the total world market capitalization of listed companies by $16.4 trillion. This means some $3.6 trillion, or 17.5%, had been burned up by transmission friction. Government intervention failed to produce a dollar-for-dollar break-even impact on battered markets, let alone generating any multiplier effect which in normal time could be expected to generate a multiplying effect of between 9 and 11 times. In the mean time, the real global economy, detached from the equity markets, with the exception of China’s, continues to slide downward, with rising unemployment and underemployment.

This massive government injection of new money managed to stabilize world equity markets by January 2010, but only at 73.5% of its peak value in October 2007. Still it left the credit markets around the world dangerously anemic and the real economy operating on intensive care and life support measures from government. This is because the bailout and stimulus money failed to land on the demand side of the economy which has been plagued by overcapacity fueled by inadequate workers income masked by excessive debt, and by a drastic reversal of the wealth effect on consumer demand from the bursting of the debt bubble. The burst of the debt bubble had destroyed the wealth it buoyed, but it left the debt that had fueled the bubble standing as liability in the economy.

Much of the new government money came from adding to the national debt, for which taxpayers would still have to pay back in future years. This money went to bail out distressed banks and financial institutions which used it to profit from global "carry trade" speculation, as hot money that exploited interest rate arbitrage trades between economies. The toxic debts have remained in the global economy at face value, having only been transformed from private debts to public debts to prevent total collapse of the private sector. The debt bubble has been turned into a dense debt black hole of intense financial gravity the traps all lights from appearing at the end of the recovery tunnel.

Much criticism by mainstream economists in the US has been focused on the controversial bailout of "too-big-to-fail" financial institutions that have continued to effectively resist critically needed regulatory reform by holding the seriously impaired economy hostage. Some critics have complained that government stimulus packages are too small for the task at hand. Only a few lonely voices have focused on public spending being directed at wrong targets. Yet such massive public spending has left many economies around the world with looming sovereign debt crises.

Ilargi: Dylan Ratigan, with Bill Fleckenstein and Rep. Alan Grayson as side-kicks, lays down a very strong case. Must see.

The Great Con Job: Regulating Wall Street and the Economy

Dylan Ratigan sought to explain the causes and scope of the of the financial crisis Wednesday with guests Bill Fleckenstein and Rep. Alan Grayson. Calling it a "con job," Ratigan identified former Federal Reserve Chairman Alan Greenspan as a godfather-like figure at the helm of the alleged scam. Ratigan argued that Greenspan's decisions to keep interest rates at low levels benefitted banks who used the low borrowning rates to lure Americans into taking out more and more loans. Banks didn't maintain enough capital, but that didn't matter, Ratigan said, because--thanks to the government's support of too-big-to-fail banks--the system was rigged and they stood to gain no matter what happened to the loans that they made. Ratigan blamed Congress for "feeding the money" to banks and not looking out for Americans

China Is On 'Treadmill to Hell' as Property Prices Will Burst, Chanos Says
by Shiyin Chen

China’s property market is a bubble that may burst by as early as this year, according to hedge fund manager James Chanos. The world’s third-biggest economy may need to keep up the pace of property investment because up to 60 percent of its gross domestic product relies on construction, said Chanos. The bubble may begin to "run its course" in late-2010 or 2011, he said in an interview on "The Charlie Rose Show" that will air on PBS and Bloomberg TV.

China is "on a treadmill to hell," said Chanos, who said in January the nation is Dubai times a thousand. "They can’t afford to get off this heroin of property development. It is the only thing keeping the economic growth numbers growing." Property prices in China rose at the fastest pace in almost two years in February even after officials this year re-imposed a tax on homes sold within five years of their purchase to curb speculation and ordered banks to set aside more funds as reserves to cool lending. The boom in China’s real estate has fueled concern that China may face a collapse seen in Dubai that has hurt the ability of some of its companies to repay debt.

Since his January prediction, Chanos, the founder of Kynikos Associates Ltd, has been joined by Gloom, Doom & Boom publisher Marc Faber and Harvard University professor Kenneth Rogoff in warning of a potential crash in China’s property market. Chinese state and local governments are among the most leveraged to property-related borrowings and the nation will "ultimately" have to nationalize a lot of the bad loans that will arise from the end of the bubble, Chanos said.

China’s foreign currency reserves will be "one asset" that can be used to fund a cleanup of the banking system, he said. The country has accumulated a record $2.4 trillion of reserves, and $889 billion of U.S. government debt, partly a consequence of its exchange-rate policy. Chanos was one of the first investors to foresee the 2001 collapse of Houston-based energy company Enron Corp. The investor said he is short-selling Chinese developers as well as companies supplying building-related materials to the country, without identifying any stocks. In a short sale, investors bet on declines in securities by borrowing stock to sell on the expectation it can be purchased at a lower price before handing it back.

China lays ground for yuan shift
by Jamil Anderlin

China has begun to prepare the ground publicly for a shift in exchange rate policy, days after the US Treasury said it would postpone a decision on whether to name China a "currency manipulator".
A senior government economist told reporters in Beijing on Tuesday China could widen the daily trading band for the renminbi and allow it to resume the gradual appreciation it halted in July 2008 in response to the global credit crisis.

Ba Shusong, deputy director-general of the Financial Research Institute at the Development Research Center, the cabinet’s think-tank, said the timing of any shift depended on the pace of economic recovery in both the US and China. Speaking at a press briefing organised by the Foreign Ministry, Mr Ba said the current peg was a temporary emergency measure that would be abolished at some point.

In recent months, Wen Jiabao, China’s premier, and other senior officials have repeatedly said the renminbi was not undervalued and China would not bow to foreign pressure over its value. But the official tone has moderated, with Chinese officials suggesting privately that a proposal to adjust currency policy had already been submitted to the cabinet for approval. Both sides have made conciliatory gestures following months of strained relations, with the US delaying a decison on China as a "currency manipulator" and Beijing moving diplomatically in tandem with Washington on Iran and nuclear security. "Some grand bargain between the US and Beijing appears to be in the works if it hasn’t already been struck," said Stephen Green, an economist at Standard Chartered in Shanghai.

Tim Geithner, the US Treasury secretary, told India’s NTV in New Delhi on Tuseday that it was "China’s choice" whether to revalue the renminbi and he was confident Beijing would see a more flexible currency was in its own interest. Goldman Sachs predicts Beijing will soon widen the daily trading band within which the renminbi fluctuates against the dollar from plus or minus 0.5 per cent to plus or minus 1 per cent and then allow it to gradually rise.

"Outside this base case, a relatively small and symbolic one-off revaluation remains possible but the likelihood of a more sizeable move remains negligible," Goldman Sachs economists Helen Qiao and Yu Song said in a report. The Chinese foreign ministry said China would adhere to three principles on currency policy: any change must be controlled, it must be Beijing’s own initiative and any shift must be gradual. Despite repeated official assertions that the renminbi is not undervalued, most Chinese economists and economic officials acknowledge it is likely to strengthen over the long term.

Stronger yuan may deal another blow to euro
by Naomi Tajitsu

A loosening in China's yuan policy that lets the currency rise while keeping it pegged to the dollar may deal another blow to the battered euro as such a move is seen slowing China's accumulation of foreign reserves. The euro has weakened about 7 percent versus the dollar and the yen this year on concerns Greece may face problems servicing its debts, and demand for euro assets will shrink further if a possible yuan move results in less euro buying by China.

Market speculation is growing that China may soon allow the yuan to strengthen against the dollar from the level at which it has been effectively pegged since mid-2008, and allow it to appreciate by around 5 percent by year-end to slow inflation. Beijing has tethered the yuan to the dollar's exchange rate, keeping it weak to boost its exports. This has drawn complaints from Washington that the yuan is seriously undervalued and offers Chinese firms an unfair trade advantage.

A yuan appreciation could slow the pace of China's foreign reserve accumulation as there would be less need to buy overseas assets to keep the domestic currency weak. Chinese reserves, the world's largest, stand at $2.4 trillion and grew at the rate of more than $50 million an hour last year. With reserves believed to be held primarily in dollars, analysts say Beijing has sought to diversify its holdings by increasing assets in euros and other currencies.

"The euro will be more vulnerable from the perspective that the People's Bank of China in the past diversified away from Treasuries to buy euro zone bonds," said Monica Fan, senior currency product engineer at State Street Global Advisors. "Given the depreciation of euro zone bonds and a more modest pace of accumulation in currency reserves, euro zone securities are not going to be as attractive as before." Fan added that given broad euro weakness at the moment, a slide in the euro to a one-year low of $1.30 by mid-year was a possibility. On Thursday it traded at $1.3290.

The euro has tended to benefit from talk of diversification as its liquidity and the depth of euro financial markets has made it the only serious competitor to the U.S. currency. The euro's share of global reserves was 27.4 percent by the end of 2009, up from 26.4 percent in 2008, International Monetary Fund data showed. Dollars accounted for 62.1 percent last year and have been declining. However, the euro might be less attractive as a reserve currency as concerns about sovereign debt uncover weakness in the euro zone framework. Moreover, a looser yuan policy could give euro bears a chance to pile more selling pressure on to the euro.

"I would imagine that some fund managers would consider a yuan revaluation as a good opportunity to reduce euro exposure," said Kenneth Broux, market economist at Lloyd's TSB. Many analysts believe China may soon loosen its grip on the yuan as tensions between Washington and Beijing over the matter seem to have subsided and some Chinese policymakers hint at their readiness to let the currency rise. Some Chinese officials have said Beijing could give a basket of currencies a greater role in yuan policy in the future.

U.S. Treasury Secretary Timothy Geithner will meet Chinese Vice Premier Wang Qishan on Thursday, while Washington has delayed the release of report that could have branded China a currency manipulator, before a Group of 20 summit this month. Analysts say a yuan move could spark initial dollar selling and a rise in Asian currencies, while benefiting the currencies of big exporters to China, including Japan and Switzerland.

In the longer run, some analysts say any impact on the euro from a stronger yuan would depend on whether China's currency reserves do indeed fall after Beijing lets the yuan appreciate. John Normand, head of global currency strategy at JP Morgan, reckons China's reserves could rise even after a policy change if its balance of payments surplus rises due to global expansion or structural capital inflows. China's reserves have more than tripled since the last revaluation in July 2005, when a growing trade surplus prompted the PBoC to reset the yuan rate to 8.11 per dollar from 8.28. "Reserve diversification renders the euro most vulnerable to a revaluation, but only if a stronger yuan reduced China's reserve build-up," Normand said in a note to clients.

Geithner Says He’s Confident China Will Move to Strengthen Yuan
by Rebecca Christie and Peter Cook

Treasury Secretary Timothy F. Geithner expressed confidence China will decide that a stronger currency is in the country’s interest, saying the U.S. is trying to "maximize the chance that they move quickly" on the yuan. China needs an economy that is driven more by domestic demand and less by exports to the U.S., Geithner said in an interview yesterday on Bloomberg Television. His comments follow President Barack Obama’s hour-long conversation with President Hu Jintao urging Asia’s second-largest economy to help balance global growth.

"Our strategy is going to be designed to increase the odds that China does decide to do what’s in their interest, which is to let their currency start to move up again, and that’ll be part of making sure we have a more healthy global recovery in place," Geithner said in New York. Hu’s decision to visit Washington this month increases the likelihood his nation will escape being branded a currency manipulator by the U.S., strategists said. Ties between the two countries may be mending after a year marked by disagreements over the yuan’s value, U.S. arms sales to Taiwan and Google Inc.’s decision to pull out of China.

"It is probably true that Washington and Beijing have an agreement: the U.S. will not label China a currency manipulator and China will make some sort of yuan policy change at or before the end of the bilateral Strategic and Economic Dialogue in late May," said Derek Scissors, a Washington-based research fellow for Asia economic policy at the Heritage Foundation.

The U.S. Treasury chief declined to say how the U.S. approach will affect the Obama administration’s next foreign- exchange report to Congress, due April 15. He repeated his view that China will allow the yuan to rise in support of its own economic goals. "Their stated policy is they want to move over time to a more flexible exchange rate," Geithner said in New York. "It’s good for the world that they’re going to do that. And I’m confident they’re going to decide it’s in their interest to move."

Yang Yuanqing, chief executive officer of Beijing-based computer maker Lenovo Group Ltd., said gains would boost consumers’ purchasing power. Qin Xiao, chairman of China Merchants Bank Co., said an end to the yuan’s 20-month peg to the dollar would let lenders set market-based interest rates. Chen Daifu, chairman of Hunan Lengshuijiang Iron & Steel Group Co., said a stronger currency would cut import costs.

Geithner said the Obama administration wants to make sure U.S. companies have a "level playing field" as part of its strategy for dealing with China and assuaging concerns that the currency peg provides an unfair advantage. The U.S. and China share common national security interests in Iran and North Korea, as well as a shared commitment to the economic rebalancing effort driven by the Group of 20 nations, he said. "What we want to do is make sure China is growing, they’re buying more from America, more of their growth comes from domestic consumption, less from exports, and that U.S. firms are able to compete," he said.

Yuan forwards posted their biggest weekly gain in almost three months on mounting speculation China will loosen its grip on the currency after data showed an economic recovery is gathering pace. Twelve-month non-deliverable forwards advanced 0.2 percent to 6.6491 per dollar as of 5:30 p.m. yesterday in Hong Kong, reflecting bets the currency will strengthen 2.7 percent from the spot rate of 6.8256, according to Bloomberg data.

"The latest development should make it more likely for Beijing to start moving away from the renminbi’s current de facto peg within the next few months, if not weeks," Qu Hongbin, chief China economist at HSBC Holdings Plc in Hong Kong, wrote in a report. "Since China is growing much faster than most of its trading partners, keeping the de facto peg for too long will only invite more protectionism." White House Press Secretary Robert Gibbs, speaking in Washington yesterday, said no formal decision has been made about whether to delay the Treasury Department’s biannual currency report. The Treasury hasn’t labeled any country a currency manipulator since 1994.

"You’ve heard the president say both publicly as well as to Chinese leaders that their currency has to be market-based," Gibbs said. Hu’s visit to Washington this month does not have any effect on the currency decision, Gibbs said. "We’re obviously pleased that he is attending something that the president believes is so vitally important to our national security and to international security," Gibbs said.

Any delay in the report would not be rare given Democratic and Republican Treasury departments historically have released it at their convenience. In January 1999, President Bill Clinton’s Treasury even published a compendium of those that had been due in 1997 and 1998 and President George W. Bush’s administration also repeatedly missed the deadline. China’s central bank said this week that asset bubbles are emerging in parts of the world and in certain industries that may burst unless supported by real economic recovery. Chinese growth in the fourth quarter reached 10.7 percent from the same time the prior year.

Rapid asset-price increases in major markets since 2009 have been pushed by "ultra-loose" monetary policies by governments around the world and "don’t mean real economies have recovered or will recover strongly," the People’s Bank of China said in a report posted on its Web site yesterday. China pegged the yuan at about 8.3 per dollar from 1995 until July 2005, when the government shifted policy and allowed some fluctuation by managing its exchange rate against an undisclosed basket of currencies. After a 21 percent gain that hurt its exporters, China in July 2008 began restraining the yuan’s value.

If China doesn’t change tack it may face broader pressure to do so after French President Nicolas Sarkozy and U.K. Prime Minister Gordon Brown this week joined Obama in saying the G-20 should take currencies into account in efforts to deliver balanced global growth. G-20 finance ministers and central bankers are also scheduled to meet in Washington this month before a June summit of leaders in Toronto.

Only question left is whether Merkel wanted Greek failure
by Steve Goldstein

As Greek bonds drop to new record lows, failure is moving more from the theoretical to the probable. The joint European Union-International Monetary Fund not-really-support package had always left too many questions to be answered. The plan provided unspecified levels of loans (20 billion euros?) at unspecified rates (4%? 6%? 8%?) triggered at an unspecified time (when European leaders said so) on unspecified terms.

As high as the Greek 10-year yields have climbed, the Greek two-year yields have surged to even more unseemly levels -- some seven percentage points above the German equivalents. As Greece's seven-year offering received little demand from anything but Greek banks -- who now seem to be bleeding deposits -- the dollar-denominated Greek bond offering seems destined for failure. So the broader question isn't so much, whether Greece will need the money. And it's not whether European Central Bank President Jean-Claude Trichet's statement that "Greek default is not an issue" will go down in annals the same way as Federal Reserve Chairman Ben Bernanke's insistence that the subprime meltdown wasn't going to impact the broader economy.

It's whether European leaders -- and namely German Chancellor Angela Merkel -- actually designed the plan to fail. The evidence runs both ways. Merkel certainly squashed a tentative plan to have a full-fledged European Union guarantee for Greek debt -- which certainly would have prevented the run-up in yields seen now. With a German electorate in full opposition to any Greek support, and with the euro in rapid decline, the Greek problems win votes, make the German exporters more competitive and maybe even increase the deposit base of German lenders in one fell swoop.

And the grudging aid sends a clear message to Spain, Portugal, Ireland and Italy -- you're on your own, euro zone or no euro zone. The flip side, of course, is the unworkable package will inevitably force Greece to tap the aid -- so it will cost actual German euros, whereas a guarantee of debt may not have forced any money to actually change hands. Like a modern day Zeus, it's Merkel who seems to be pulling the strings -- and by design or by accident, she's sending Greece to Hades.

Greek banks seek more aid as savers withdraw €10bn deposits
by Kerin Hope

Greece's four biggest banks are seeking help from the government after savers took €10bn (£8.8bn) of deposits out of the nation's financial system. The flight of money from domestic deposits reflects growing anxiety among wealthy Greeks about keeping their assets in the country as its debt crisis has escalated. In the first two months of the year, local savers transferred out of Greece deposits equal to about 4.5 per cent of the total in the banking system, the central bank said.

George Papaconstantinou, finance minister, said yesterday that the banks had now asked for access to the remaining funds of a €28bn government support plan. Greece's four biggest lenders - National Bank of Greece, EFG Eurobank, Alpha Bank and Piraeus Bank - have requested access to about €14bn in loan guarantees and €3bn of special bonds that could be used as collateral to borrow from the European Central Bank. The banks' request came as interest rate yields on 10-year government bonds rose to a fresh record.

Share prices of Greek banks on the Athens stock exchange fell by more than 4 per cent yesterday, following a 3 per cent decline on Tuesday. The decline was triggered by news that the banks had resorted to applying for the remainder of the state package, analysts said. Many savers chose to move funds to their banks' subsidiaries outside Greece - including Cyprus and Luxembourg - rather than switch to foreign institutions, said one Athens-based private banker. Others transferred funds to local subsidiaries of foreign banks.

The transfers reflected "anxiety among wealthy Greeks about keeping assets here given the increasing uncertainty", said the banker. "We expect the funds to return swiftly once the crisis is resolved." Another banker said sizeable deposit sums had been withdrawn to buy high-yielding Greek government debt and companies had used cash held on deposit to pay for imports. But several dismissed rumours of savers withdrawing cash in large-denomination notes to put in safe deposit boxes. ECB funding for Greek banks rose from €40bn to €65bn in the first quarter, according to IOBE, an economic think-tank.

Greece steps in to shore up banks
by Ambrose Evans-Pritchard

Greece's debt markets were battered for a second day as investors sought clarity on whether Athens was attempting to secure better terms for an EU rescue package or trying to exclude the International Monetary Fund from any bail-out operation. The yields on 10-year Greek bonds rose to 409 basis points above German Bunds, a level that threatens to cripple Greece as it struggles to raise or roll over about €20bn in debt over the next two months. Credit default swaps on Greek debt rose above Icelandic debt on Wednesday and are now far higher than those of Hungary and other states in IMF care.

The move to support the banks came after it emerged that Greek citizens had shifted €10bn abroad in the first two months of the year, a pattern that replicates the build-up to Argentina's default in 2002. There are reports that Commerzbank and other eurozone banks have begun to pull credit lines to Greece, starving the system of liquidity. "Greece's weak fundamentals are being rudely exposed," said Stephen Jen, of BlueGold Capital. "I'm afraid there will not be enough time for Greece to appease impatient investors. I think the probability is high that Greece eventually defaults."

He said the country needs many times the €25bn package being touted, and even then it may only delay the day of reckoning. He demanded a "mea culpa from the EMU zealots" who placed Greece in an untenable position, saying they should admit their errors, "just as the managers from Toyota apologised for their mistakes". Investors are mystified by conflicting stories from Greece over the role of the IMF which give the impression that Athens is bitterly divided over austerity demands.

Meanwhile, Spain announced a €17bn blitz on railways and infrastructure to fight unemployment, which now stands at 19pc. Madrid said this would not clash with plans to cut the budget deficit from 11.4pc to 3pc of GDP because it would not have to put up funds directly until 2014. Part of the money will come from state entities such as the Instituto de Credito Oficial. The outlays are likely to be examined closely by rating agencies.

Eastern Europe won't pay what it can't pay
by Michael Hudson

Greece is just the first in a series of European debt bombs about to go off. Mortgage debts in the post-communist economies and Iceland are more explosive. Although most of these countries are not in the eurozone, their debts are largely denominated in euros. Some 87 per cent of Latvia's debts are in euros or other foreign currencies, and are owed mainly to Swedish banks, while Hungary and Romania owe euro-debts mainly to Austrian banks. These governments have been borrowing not to finance a budget deficit, as in Greece, but to support their exchange rates and thereby prevent a private-sector default to foreign banks.

All these debts are unpayably high because most of these countries are running deepening trade deficits and are sinking into depression. Now that property prices are plunging, trade deficits are no longer financed by an inflow of foreign-currency mortgage lending. For the past year, these countries have supported their exchange rates by borrowing from the European Union and the International Monetary Fund. The terms of this borrowing are politically unsustainable: sharp public sector budget cuts, higher tax rates on already over-taxed labour, and austerity plans that shrink economies and drive more workers to emigrate.

Bankers in Sweden and Austria, Germany and Britain are about to discover that extending credit to nations that cannot (or will not) pay may be their problem, not that of their debtors. No one wants to accept the fact that debts that cannot be paid, will not be. Someone must bear the cost as debts go into default or are written down, to be paid in sharply depreciated currencies, and many legal experts find debt agreements calling for repayment in euros unenforceable. Every sovereign nation has the right to legislate its own debt terms, and the coming currency re-alignments and debt write-downs will be much more than mere "haircuts".

There is no point in devaluing, unless "to excess" - that is, by enough to actually change trade and production patterns. That is why Franklin Roosevelt devalued the US dollar by 75 per cent against gold in 1933, raising the metal's official price from $20 to $35 an ounce. To avoid raising the US debt burden proportionally, he annulled the "gold clause" indexing payment of bank loans to the price of gold. This is where the political fight will occur today - over the payment of debt in currencies that are devalued.

Another by-product of the Great Depression in the US and Canada was to free mortgage debtors from personal liability, making it possible to recover from bankruptcy. Foreclosing banks can take possession of collateral property, but do not have any further claim on the mortgagees. This practice - grounded in common law - shows how North America has freed itself from the legacy of feudal-style creditor power and the debtors' prisons that made earlier European debt laws so harsh.

The question is, who will bear the loss? Keeping debts denominated in euros would bankrupt much local business. Conversely, re-denominating these debts in local depreciated currency would wipe out the capital of many euro-based banks. But these banks are foreigners, after all - and in the end, governments must represent their own home electorates. Foreign banks do not vote. There is growing recognition that the post-communist economies were structured from the start to benefit foreign interests, not local economies.

For example, Latvian labour is taxed at more than 50 per cent (labour, employer, and social tax) - so high as to make it non-competitive, while property taxes are less than 1 per cent, providing an incentive towards speculation. This skewed tax philosophy made the "Baltic tigers" and central Europe prime loan markets for Swedish and Austrian banks, even as domestic labour struggled to find well-paying work. Nothing like this (or their abysmal workplace protection laws) is found in western Europe or North America.

It seems unreasonable and unrealistic to expect that large sectors of the new European population can be made subject to salary garnishment throughout their lives, reducing them to a lifetime of debt peonage. Future relations between Old and New Europe will depend on the eurozone's willingness to redesign the post-communist economies on more solvent lines - with more productive credit and a less rentier-biased tax system that promotes employment rather than asset-price inflation. In addition to currency realignments to deal with unaffordable debt, the solution for these countries is a major shift of taxes from labour to land. There is no just alternative. Otherwise, the age-old conflict between creditors and debtors threatens to split Europe into opposing camps, with Iceland the dress rehearsal.

Sovereign debt crisis at 'boiling point', warns Bank for International Settlements
by Ambrose Evans-Pritchard

The Bank for International Settlements does not mince words. Sovereign debt is already starting to cross the danger threshold in the United States, Japan, Britain, and most of Western Europe, threatening to set off a bond crisis at the heart of the global economy. "The aftermath of the financial crisis is poised to bring a simmering fiscal problem in industrial economies to the boiling point", said the Swiss-based bank for central bankers -- the oldest and most venerable of the world's financial watchdogs. Drastic austerity measures will be needed to head off a compound interest spiral, if it is not already too late for some.

The risk is an "abrupt rise in government bond yields" as investors choke on a surfeit of public debt. "Bond traders are notoriously short-sighted, assuming they can get out before the storm hits: their time horizons are days or weeks, not years or decade. We take a longer and less benign view of current developments," said the study, entitled "The Future of Public Debt", by the bank's chief economist Stephen Cecchetti. "The question is when markets will start putting pressure on governments, not if. When will investors start demanding a much higher compensation for holding increasingly large amounts of public debt? In some countries, unstable debt dynamics -- in which higher debt levels lead to higher interest rates, which then lead to even higher debt levels -- are already clearly on the horizon."

Official debt figures in the West are "very misleading" since they fail to take in account the contingent liabilities and pension debts that have mushroomed over recent years. "Rapidly ageing populations present a number of countries with the prospect of enormous future costs that are not wholly recognised in current budget projections. The size of these future obligations is anybody's guess," said the report. The BIS lamented the lack of any systematic data on the scale of unfunded IOUs that care-free politicians have handed out like confetti.

Britain emerges in the BIS paper as an arch-sinner. The country may have entered the crisis with a low public debt but this shock absorber has already been used up, exposing the underlying rot in the UK's public accounts. Tucked away in the BIS report are charts and tables showing that Britain faces the highest structural deficit in the OECD club of rich states, with a mounting risk that public debt will explode out of control.
Interest payments on the UK's public debt will double from 5pc of GDP to 10pc within a decade under the bank's 'baseline scenario' before spiralling upwards to 27pc by 2040, the highest in the industrial world. Greece fares better, and Italy looks saintly by comparison.

The BIS said the UK's structural budget deficit will be 9pc of GDP next year, the highest in the advanced world. A primary surplus of 3.5pc of GDP will be required for the next twenty years just to stabilize the debt at the pre-crisis level. The paper said that Labour's plan to consolidate the budget deficit by 1.3pc of GDP annually for the next three years is not nearly enough. Such a gentle squeeze will let public debt climb to 160pc of GDP by the end of the decade, accelerating to 350pc over the following twenty years as the compound interest trap closes in. "Consolidations along the lines currently being discussed will not be sufficient to ensure that debt levels remain within reasonable bounds", said the bank. While the comment covers a group of countries, it is clearly aimed at Britain.

The analysis bolsters claims by the Tories that markets will not wait patiently as Britain draws up leisurely plans for austerity-lite, relying on implausible turbo-growth to do the hard work of cutting the deficit. Fitch Ratings has made the same point, asking why the UK thinks it has a longer grace period than peers in Europe. Spain has pledged to cut its deficit from 11.4pc to 3pc in three years in line with Maastricht rules. Perhaps the most shocking detail in the BIS paper is that the UK's debt will rise to 300pc of GDP by 2040 under this moderate fiscal squeeze even if it is accompanied by a freeze on age-related spending. Britain -- unlike Greece -- can no longer rely on soft measures to cut the structural deficit, such as increasing the share of women in the work force. Such low-hanging fruit has mostly been picked already.

The BIS, in charge of monitoring global capital flows, said public debt has risen by 20pc to 30pc of GDP across the advanced economies over the last three years. Semi-permanent structural deficits have taken root. "Current fiscal policy is unsustainable in every country (in its study). Drastic improvements in the structural primary balance will be necessary to prevent debt ratios from exploding." Average debts will exceed 100pc of GDP by the end of next year. The level was briefly higher in the US and the UK after World War Two. Japan is currently able to raise money cheaply at even higher debt levels thanks to its captive savings pool. However, the BIS said it would be foolhardy to assume that debt markets will tolerate this for long.

The BIS said the usual cure for budget deficits is a return to robust grown and lower nominal rates. Neither are likely for OECD economies this time. The West has slipped to a lower growth trajectory. Historical data shows that once public debts near 100pc of GDP they act as a ball and chain on wealth creation. If countries do not retrench quickly, they will create a market fear of "monetization" that becomes self-fulfilling. "Monetary policy may ultimately become impotent to control inflation, regardless of the fighting credentials of the central bank" it said.

Some states may be tempted to carry out a creeping default by stoking inflation. "The payoff to do this rises the bigger the debt, the longer its average maturity, the bigger the fraction held by foreigners." The BIS said the danger that any government would consciously take this path is "not insignificant" in the longer run. Of course, a brutal fiscal purge in every major country at once itself poses a danger. The result would be to crush recovery and tip the world economy back into crisis, making deficits worse again. Countries are damned if they do, and damned if they don't. The BIS skips nimbly over this dilemma. Nobody has yet mastered our horrible Hobson's Choice.

Bubbles lurk in government debt
by Kenneth Rogoff

As the global economy reflates, many people are asking: "Is the next bubble in gold? Is it in Chinese real estate? Emerging market stocks? Or something else?" A short answer is "no, yes, no, government debt". In my work on the history of financial crises with Carmen Reinhart , we find that debt-fuelled real estate price explosions are a frequent precursor to financial crises. A prolonged explosion of government debt is, in turn, an exceedingly common characteristic of the aftermath of crises. As for the probable non-bubbles, most emerging markets face better prospects in the decade ahead than does the developed world, and their central banks will probably want to continue diversifying their reserve holdings. Of course, huge volatility and corrections along the way are normal.

But a deeper question is whether economists really have any handle on ferreting out dangerous price bubbles. There is much literature devoted to asking whether price bubbles are possible in theory. I should know, I contributed to it early in my career. In the classic bubble, an asset (say, a house) can have a price far above its "fundamentals" (say, the present value of imputed rents) as long as it is expected to rise even higher in the future. But as prices soar ever higher above fundamentals, investors have to expect they will rise at ever faster rates to make sense of ever crazier prices. In theory, "rational" investors should realise that no matter how many suckers are born every minute, it will be game over when house prices exceed world income.

Working backwards from the inevitable collapse, investors should realise that the chain of expectations driving the bubble is illogical and therefore it can never happen. Are you reassured? Back in my days as a graduate student, I know I was. But then along came some rather clever theorists who noticed that bubbles might still be possible (in theory), if we lived in a world where the long-run risk-adjusted real rate of interest is less than the trend growth rate of the economy. Basically, this condition raised the possibility that the bubble might grow slowly enough that houses would never cost more than world gross domestic product. Oh, no! But there soon followed empirical research reassuring us that we did not live in such a bizarre land. Science moves on.

Eventually, economists realised that in a real-world setting replete with non-linearities and imperfect markets, the same set of fundamentals can, in principle, support entirely different classes of equilibria. It all depends on how market participants co-ordinate their expectations. In principle, prices can jump suddenly and randomly from one equilibrium to another as if driven by sunspots. (I believe this notion of self-fulfulling multiple equilibria is quite closely related to George Soros’s notion of "reflexivity".)

The problem of reflexive bubbles turns out to be even more acute when the government’s policy objectives are inconsistent, as they so often are. For example, Maurice Obstfeld famously demonstrated how self-fulfilling investor expectations can bring down a fixed exchange rate. If investors gather with enough sustained force, and if the central bank lacks sufficient resilience and resources, investors can blow out a fixed exchange rate regime that might otherwise have lasted quite a while longer. The real issue is not whether conventional economic theory can rationalise bubbles. The real challenge for investors and policymakers is to detect large, systemically dangerous departures from economic fundamentals that pose threats to economic stability beyond mere price volatility.

The answer, as Carmen Reinhart and I demonstrate drawing on centuries of financial crises, is to look particularly for situations with large rapid surges in leverage and asset prices, surges that can suddenly implode if confidence fades. When equity bubbles burst, investors who made money in the boom typically swallow their losses and the world trudges on, for example after the bursting of the technology bubble in 2001. But when debt markets collapse, there inevitably follows a long, drawn-out conversation about who should bear the losses. Unfortunately, all too often the size of debts, especially government debts, is hidden from investors until it comes jumping out of the woodwork after a crisis.

In China today, the real problem is that no one seems to have very good data on how debt is distributed, much less an understanding of the web of implicit and explicit guarantees underlying it. But this is hardly a problem unique to China. Even as published official government debt soars, huge off-balance-sheet guarantees and borrowings remain hidden for political expedience around the world. The timing is very difficult to call, as always, but even as global markets continue to trend up, it is not so hard to guess where bubbles might be lurking.

UK needs 'drastic austerity measures' to prevent debt explosion
by Ambrose Evans-Pritchard

Britain will need "drastic" austerity measures to prevent public debt exploding out of control, the Bank for International Settlements (BIS), has declared. Interest payments on the UK's public debt will double from 5pc of GDP to 10pc within a decade under the bank's "baseline scenario" before spiralling upwards to 27pc by 2040 – by far the highest among the OECD club of developed countries. Greece fares better, while Britain's interest burden is far worse than Italy's. The BIS said that Labour's plan to consolidate the budget deficit by 1.3pc of GDP annually for the next three years did not go far enough.

Philip Hammond, shadow chief secretary to the Treasury, said: "The BIS just reinforces the warnings that Conservatives have been giving about the debt trap Britain now faces unless we take action: how risky debt means a growing proportion of our national income is going to be taken up by interest payments rather than financing public services." The Organisation for Economic Co-operation and Development (OECD) dealt a further blow to Gordon Brown, cutting its UK growth forecast for the first quarter. The organisation predicted the UK economy grew by 0.5pc in the first three months of the year compared with the fourth quarter of 2009, downgrading its earlier forecast of 0.6pc growth.

The OECD added that improvements in the G7 economies in the final three months of 2009 would ease in the first half of this year. "Although we are seeing some encouraging signs of stronger activity, the fragility of the recovery, a frail labour market and possible headwinds coming from financial markets underscore the need for caution in the removal of policy support," said Pier Carlo Padoan, the OECD's chief economist.
The organisation predicted growth in the US, France and Canada would out-pace that of the UK in the first quarter, though the UK is expected to outperform the G7 as a whole.

These latest economic forecasts coincided with an intensifying row with business over the Government's planned National Insurance hike – and an intervention from Sir Bill Castell over the nation's stifling tax regime.
Mr Castell, the head of the Wellcome Trust and a former adviser to the Prime Minister, caught the mood of many businessmen, saying: "The UK is no longer the natural home for global business. Our taxes are too high."

There was better news for the Prime Minister in a respected survey showing a fair performance from Britain's key services sector – even though growth slowed last month. The services purchasing managers' index (PMI) dipped to 56.5 in March from 58.4 in February, where anything above 50 signals expansion. The number of jobs in the sector increased for the first time in almost two years, with the PMI employment measure rising to 50.3 from 48.8. The services sector accounts for three-quarters of the economy, and the PMI implied services growth of around 0.5pc in the first quarter.

Economists have predicted the economy overall grew by about 0.5pc in the first quarter, in line with the OECD's forecast. That would spare the Prime Minister the economic and political nightmare of a double-dip recession when the official figures are published on April 23, just two weeks before the general election on May 6.

Moody’s downgrades 18 RMBS tranches worth $1,826 trillion
by Diana Golobay

Moody’s Investors Service downgraded nearly $39bn of subprime residential mortgage-backed securities (RMBS). The downgrades come this week as a series of hearings on the origins of the subprime mortgage market crisis are underway at the Financial Crisis Inquiry Commission (FCIC) beginning today. Moody’s downgraded the ratings of 18 RMBS tranches worth $1.826bn, and confirmed the ratings of an additional three tranches from within five RMBS deals issued by BNC Mortgage Loan Trust, the credit-rating agency announced Tuesday. The collateral involved in the round of downgrades includes first lien fixed and adjustable rate subprime RMBS.

Moody’s downgraded the ratings of 151 RMBS tranches worth $13.2bn within 39 transactions issued by First Franklin. It also downgraded 125 tranches worth$8bn, confirmed ratings of 23 tranches and upgraded the ratings of another six tranches within 29 RMBS deals issued by Citigroup Mortgage Loan Trust. Moody’s downgraded 209 tranches worth $7.6bn within 43 RMBS deals issued by RASC. It also downgraded 130 tranches worth $5.2bn within 30 RMBS deals issued by RAMP.

It downgraded the ratings of 46 tranches worth $2.1bn, and confirmed the ratings of an additional 21 tranches within 8 RMBS deals issued by Park Place. The credit-rating agency downgraded the ratings of 27 tranches worth $814m within five RMBS transactions issued by First NLC. Moody’s said the actions are a result of the continued performance deterioration in subprime pools in conjunction with home price and unemployment conditions that remain under duress. The actions reflect Moody’s updated loss expectations on subprime pools issued from 2005 to 2007.

Bank of America to Increase Foreclosure Rate by 600% in 2010
by IrvineRenter

Bank of America made headlines with its principal forgiveness program. The real news is that they are preparing to blast debtors out of their bunkers of entitlement.

Lenders are trying to figure out how their massive Ponzi Scheme collapsed. They are relearning lending again because everything they thought they knew was wrong. When you get down to the heart of the matter, borrowers are carrying too much debt which is killing them financially and emotionally. It is about forgiveness. Even if it means debtors don't pay anymore.

Forgiveness never comes easy, and in lending it never comes cheap. These debts will be forgiven, and the toxic loans that spawned them will be cleansed from the system -- mostly through foreclosure. Home debtors are hoping for principal forgiveness without consequence. That isn't going to happen. Lenders only forgive as a last resort, and there are consequences for the borrower. When it's done, lenders turn to the US taxpayer to make them whole again. 

A 600% increase in foreclosures 

I attended a local Building Industry Association conference on Friday 26 March 2010. The west coast manager of real estate owned, Senior Vice President Ken Gaitan, stated that Bank of America, which currently forecloses on 7,500 homes a month nationally, will increase that number to 45,000 homes per month by December of 2010.

After his surprising statement, two questioners from the audience asked questions to verify the numbers.

Bank of America is projecting a 600% increase in its already large number of monthly foreclosures.

This isn't unsubstantiated rumor; this comes straight from one of the most powerful men in Bank of America's OREO department (yes, that really is what they call it). It appears they have too many properties already.

Perhaps this is a good time to start a Trustee Sale service.... One of the panelists who works for a building company said he was flipping houses with his personal money. He noted that in some markets, he can buy a house at auction for less money than builders are paying for finished lots. That is a bit crazy.

There was encouraging news from some in the reality-based community at the conference. Builders are buying up projects in Southern California, so the land market has found a bottom. Prices are still speculative, but the builders are buying to have buildable inventory, so in select markets real demand exists for finished lots and properties with partial improvements. 

There was a certain amount of positive spin at the event, which is natural given the beleaguered stated of the Southern California building industry. Jeff Collins at the OC Register covered the more bullish opinions.

It is still not enough

Last week I noted that Lenders Start More Foreclosures to Catch Up with Delinquencies. Consider the size of the problem: 1.2 million Bank of America homeowners are in default. Even if they forclosed on 45,000 a month for a full year, that is only 540,000 foreclosures. What about the other 660,000 people in default? I think their number -- large as it may seem -- is actually wishful thinking. It is worse than that. (thanks jules)

Principal reductions are a public relations diversion

Everyone is abuzz with the news that Bank of America is forgiving principal. As you might imagine, many will apply and few will be helped. Moral hazard dictates that irresponsible borrowing that results in free money will cause more irresponsible borrowing; after all, it isn't borrowing, it's a gift. If banks start giving away money, everyone will do whatever is necessary to obtain it.

I contend the principal reduction program is a public relations diversion. Let's look at the numbers. By Bank of America's own admission, the program will assist 45,000 customers -- a sum equal to the monthly foreclosure rates they are anticipating by the end of the year. If they are foreclosing on more people each month than would be helped by the principal reduction program, then the program is merely a pleasant facade intended to divert attention from the huge volume of foreclosures they will push through.

Bank of America to Reduce Mortgage Balances

Published: March 24, 2010
Bank of America said on Wednesday that it would begin forgiving some mortgage debt in an effort to keep distressed borrowers from losing their homes.

The program, while limited in scope and available by invitation only, signals a significant shift in efforts to deal with the millions of homeowners who are facing foreclosure. It comes as banks are being urged by the White House, members of Congress and community groups to do more to stem the tide.

The Obama administration is also studying whether to provide more help to people who owe more on their mortgages than their homes are worth.

Bank of America’s program may increase the pressure on other big banks to offer more help for delinquent borrowers, while potentially angering homeowners who have kept up their payments and are not getting such aid.

You think? Responsible borrowers should be pissed. The more irresponsible and foolish borrowers were, the greater their principal forgiveness.

As the housing market shows signs of possibly entering another downturn, worries about foreclosure are growing. With the volume of sales falling, prices are sliding again. When the gap increases between the size of a mortgage and the value that the home could fetch in a sale, owners tend to give up.

Cutting the size of the debt over a period of years, however, might encourage people to stick around. That could save homes from foreclosure and stabilize neighborhoods.

“Banks are willing to take some losses now to avoid much greater losses later if the housing market continues to spiral, and that’s a sea change from where they were a year ago,” said Howard Glaser, a housing consultant in Washington and former government regulator.

The threat of a stick may be helping banks to realize that principal write-downs are in their ultimate self-interest. The Bank of America program was announced simultaneously with the news that the lender had reached a settlement with the state of Massachusetts over claims of predatory lending.

The program is aimed at borrowers who received subprime or other high-risk loans from Countrywide Financial, the biggest and one of the most aggressive lenders during the housing boom. Bank of America bought Countrywide in 2008.

Bank of America is trying this principal reduction program with Option ARM holders because they know these people are all going to default. Anything they can do to minimize the losses on these properties, including delaying foreclosure and hoping for appreciation, is preferred to absorbing these losses when prices are very low. Of course, it will not work, but it it worth a shot. They have little to lose by trying.

Borrowers have nothing to lose either. The Bank of America program is an attempt to stop the hopelessly underwater from strategically defaulting. It is their only hope.

The devil is in the details

Bank of America officials said the maximum reduction would be 30 percent of the value of the loan.

Those people who are more than 30% underwater are considered the walking dead. They should default. If you don't qualify for this program because you are too far underwater, what hope do you have?

I heard recently that Hemet, California, has a significant number of borrowers more than 50% underwater. Back in 2006-2007, I was involved with the Valley Economic Development Corporation working to bring business to Hemet and San Jacinto. I remember a brochure we created touting the relative affordability of local housing. At the time, the median income was $45,000 per year, and the median home price was $405,000.

Most who paid $405,000 for a house back then used Option ARMs because they could leverage nine-times their income to obtain a property. Now that the median home price is around $175,000 -- which is close to four-times income -- many residents owe more than double what their house is worth.
They said the program would work this way: A borrower might owe, say, $250,000 on a house whose value has fallen to $200,000. Fifty thousand dollars of that balance would be moved into a special interest-free account.

As long as the owner continued to make payments on the $200,000, $10,000 in the special account would be forgiven each year until either the balance was zero or the housing market had recovered and the borrower once again had positive equity.

Let's see how a Southern California borrower would be effected by this program. Let's assume a $500,000 house price and a $400,000 first mortgage with a $100,000 second. The second is not subject to this agreement, so we already have our first major hurdle to overcome. When Bank of America lowers the value of its first mortgage, are they taking into account the indebtedness of the second? If they don't, payments are still not affordable.

Assume the borrower received $200,000 in potential principal reduction. Now they are paying on a $200,000 first and a $100,000 second which brings their combined loan-to-value under 100%. The $200,000 of deferred principal gets reduced by $10,000 a year until values increase. Absent appreciation, it will take 20 years to dig out. That is a long time to rent their home from the bank with zero equity. 

Here is where it gets fuzzy -- on purpose I'm sure -- Let's say the borrower stays with the program for ten years. The deferred principal is now $100,000, and the total indebtedness is $400,000 minus amortization. Let's further assume that prices have appreciated, and the property is now worth $400,000. What happens?
  1. Does the principal forgiveness end and the account with the principal deferment is permanently fixed at the point of crossover? How do we know when this occurs? Is Bank of America going to order yearly appraisals just prior to forgiving the debt to make sure the owner is still underwater?
  2. Once Bank of America discovers the borrower is no longer underwater, can they recapture forgiven principal if the borrower continues to live in the property? In short, does the bank get the appreciation to recover the forgiven debt, or does the borrower get to keep it?
  3. How is this deferred principal paid off? Is this a permanent zero-interest loan paid off when the property is sold? Does the deferred principal get added back to the original mortgage once the borrower is no longer underwater?  What happens to the borrower's payment?

If those questions are resolved in favor of borrowers, I would be surprised. To the degree that the borrower benefits is the degree to which moral hazard is encouraged. 

Too little too late
Bank of America said its new program would initially help about 45,000 Countrywide borrowers — a fraction of the 1.2 million Bank of America homeowners who are in default. The total amount of principal reduced, it estimated, would be $3 billion.

The bank said it would reach out to delinquent borrowers whose mortgage balance was at least 20 percent greater than the value of the house. These people would then have to demonstrate a hardship like a loss of income.

These requirements will, the bank hopes, restrain any notion that it is offering easy bailouts to those who might otherwise be able to pay. “The customers who will get this offer really can’t afford their mortgage,” Mr. Schakett said.

LOL! Every borrower in Bank of America's books is going to seek a bailout. That is moral hazard! That is why you don't bail people out. The only way to discourage this is to create a program nobody qualifies for... I guess they did that, didn't they?
But Steve Walsh, a mortgage broker [LOL!] in Scottsdale, Ariz., who said he had just abandoned his house and several rental properties, called the program “another Band-Aid. It probably would not have prevented me from walking away.”

That is the other problem Bank of America must contend with. Many of the people who took out these loans were speculators who are going to walk no matter the terms because their speculative venture did not turn out as planned.

... Reducing principal is widely endorsed, in theory, as a cure for foreclosures. The trouble is, no one wants to absorb the costs. [No kidding?]

When the administration announced a housing assistance program in the five hardest-hit states last month, officials explicitly opened the door to principal forgiveness. Despite reservations expressed by the Treasury, the White House and Housing and Urban Development officials have continued to study debt forgiveness in areas with lots of so-called underwater homes, according to two people with knowledge of the matter.

"Continued study" is code for "we are not going to do anything, but we want you to think that we might." It is part of the dangling-carrot policy designed only to keep debtors paying.

On a national scale, such a program risks a political firestorm if the banks are unable to finance all the losses themselves. Regulators like the comptroller of the currency and the Federal Reserve have been focused on maintaining the banks’ capital levels, which could be hurt by large-scale debt forgiveness.

You have to be very careful not to design a program that would change people’s fundamental behavior across the country in a destabilizing way or would be widely perceived as unfair to people who are continuing to pay,” Michael S. Barr, an assistant secretary of the Treasury, said early this year.

Moral Hazard can't be avoided

No program exists, nor can one be designed, that does not create moral hazard and gross unfairness. That is why this issue is so difficult.

This process must be allowed to run its course. Bank of America will manage its public relations and try to look like they are working to prevent foreclosures.

In reality, Bank of America is gearing up to remove the loan owners and squatters. Expect to see a steady increase in foreclosures all year continuing for the foreseeable future.

Empty Commercial Real Estate Owners Have No Idea How Worthless Their Properties Are
by Vincent Fernando

As commercial real estate values are highly dependent on the income they generate (they aren't too productive as empty shells), vacant complexes are shocking their owners right now with selling prices far below what people thought were worth not too long ago.

Thus it's probably a great time to buy empty commercial real estate disasters... if you somehow can also bring in tenants as well, or be the tenant.

Case in point, the 100,000 square-foot ghost building just snatched up by the University of New Mexico:


The University of New Mexico has a contract to buy the empty, 99,033-squarefoot building at 1650 University NE for $4.6 million, a steep 44 percent discount from the asking price of $8,250,000 just one-and-a-half years ago. The property had gone into foreclosure.

"We think it's a pretty fair deal," said Tom Neale, associate director of real estate at UNM. "We're really focusing on the building and what it will take for us to renovate and upgrade the (building) systems."

UNM's purchase of the building is not a done deal. "We still need to go to the regents for approval of the transaction," Neale said. "We'll do that when we're satisfied with our building assessment."

Yet it's not just the owner of the building above who'll be disappointed by this transaction, other owners of other empty distressed properties will shocked as well given that transactions set benchmark prices for others in the market. Thus empty properties drag each other down, and what the guy next door got is a bad sign for what you're going to get.

According to the Moody's/REAL All Property Type Aggregate Index, commercial property prices are down 40.2% since their October 2007 peak, yet have rebounded moderately from their recent low point in October 2009. Yet it's key to highlight that there's reportedly a stark difference in performance between the tenant-haves and the tenant-have-nots. If you've kept your tenants, prices may have only dropped 10% on average.

For the vacant properties, transactions such as above suggest there are a lot of owners out there who haven't fully come to terms with just how little their properties would go for, if sold today.

US Consumer Credit Declined in February
by Jeff Bater

More consumers are keeping up with payments on their credit cards and other loans. But that's coming at a cost: They're cutting back sharply on borrowing as they pare back debt. While that's good for the long-term financial health of households, the development could slow spending and the overall economic recovery.

Consumer borrowing declined at a 5.6% annual rate in February to $2.45 trillion, the Federal Reserve said Wednesday. Consumer borrowing which includes most loans outside of real estate, had increased 2.1% in January. Borrowers typically slow payments after running up card balances over the December holidays. Revolving credit, largely credit-card borrowing, declined at a 13.1% annual pace in February. Nonrevolving credit—including loans for cars, boats and education—fell at a 1.6% annual rate that month.

Consumer spending has improved in recent months, but the latest report "does point to a lack of confidence on the part of consumers and their caution may well mean this recovery is still a fragile one," said Chris Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi in New York. The fall in credit-card borrowing comes as consumers are increasingly paying their bills on time. In a survey released Wednesday, the American Bankers Association said consumer loan defaults fell broadly in the fourth quarter. Loans that were overdue 30 days or more fell in most categories—though a handful of areas, such as home-equity loans—worsened. Bank card defaults fell to 4.39% in the fourth quarter from 4.77% in the prior quarter, dropping below the five-year average of 4.52%.

Credit-card executives are expressing cautious optimism about early-stage delinquency trends in recent months, but they also say it's too soon to declare the worst is over for the business, as defaults remain at historical highs. J.P. Morgan Chase & Co.'s credit-card business is losing money and expects to operate in the red all year. As a result, card issuers are continuing to prune their portfolios by reducing credit lines, cutting off risky customers and terminating unprofitable cards. Bank of America Corp. recently pared its offering of so-called affinity card programs, pitched through college alumni associations, social groups and charities, by 12% to about 4,400. Banks across the industry are writing off more credit-card debt as the economy struggles, as they have done with mortgage debt due to foreclosures and declining home values.

Slower spending by households could limit the vigor of the economic recovery and put a greater burden on businesses and government spending to drive a rebound.Lower consumer borrowing carries both benefits and risks for the economy. It can relieve the debt burden on many households, but it also means less consumer spending, which accounts for about 70% of the economy. Loan defaults are highly dependent on the labor market and overall economy. While the job market has started to stabilize, it's expected to improve only slowly for much of the year.

A survey of chief executives by the Business Roundtable released Wednesday showed that 29% expected employment at their companies to rise in the next six months, up from 19% when they were surveyed in the fourth quarter. About 21% of CEOs said they expected their firm's employment to decline in the next six months, fewer than the 31% in the prior quarter. "Most people are kind of steady, which I think is good news in this regard," Ivan Seidenberg, chairman of the roundtable, an association of CEOs, and the chief executive of Verizon Communications. He said some sectors, such as retail, were adding more jobs than others. "I would read this as a good thing, but I don't think it's across the board."

Employment gains will lag behind sales, he said. The survey, involving 105 executives in the second half of March, found that three-fourths of chief executives expected their sales to rise in the next six months. Only 5% expected a decrease, far better than the 17% expecting declining sales in the fourth-quarter survey. The report marked the first time since the first quarter of 2008 when more employers projected higher employment than lower employment over the next six months. In the first quarter of 2009, 71% of CEOs said they expected lower employment over the following six months, while just 7% expected employment to rise.

Volcker on the VAT
The middle class is where the money is.

Kudos for candor to Paul Volcker, the former Federal Reserve Chairman and current White House economic adviser, for admitting what other Democrats also know but don't want to admit until after the November election: The political class is preparing to pass a European-style value-added tax. Answering a question at the New York Historical Society on Tuesday, Mr. Volcker said that a VAT—a consumption tax levied along stages of production—"was not as toxic an idea" as it has been, and that both a VAT and some kind of tax on energy need to be on the table. "If at the end of the day we need to raise taxes, we should raise taxes," he said.

We've long predicted that this would be the White House fiscal strategy, and its new deficit commission is bound to propose something along these lines. In Europe, a VAT rate that reaches 20% in some countries applies to countless products and services, so the middle class would be hit especially hard. Though Mr. Volcker didn't say this, he is acknowledging that taxes on the rich can't begin to finance the levels of new spending that the current government has unleashed. Even the expiration of the Bush tax rates next January and the new taxes in the health-care bill won't be enough.

In recent decades, the current tax code has yielded revenue on average of 18.5% or so of GDP, whether tax rates go up or down. The wealthy adjust their behavior or shield more income via loopholes, so income-tax increases never gain as much revenue as politicians claim. With spending as a share of GDP now at 25%, Democrats have to soak the middle class because that's where the real money is. Look for media Democrats to begin explaining why a VAT is essential to U.S. well-being, even as they fail to recall Mr. Obama's 2008 pledge not to raise taxes on the middle class. We told you that the U.S. can't have a European welfare state without European tax rates, and so France, here we come.

S.E.C. Moves to Tighten Rules on Bonds Backed by Consumer Loans
by Edward Wyatt

Credit rating agencies would lose their formal role in evaluating certain bonds backed by consumer loans, like home mortgages, under rules proposed on Wednesday by the Securities and Exchange Commission. Instead, the companies issuing these bonds would have to vouch for their soundness. The bond issuers would also be required to keep a chunk of the securities in their own portfolios so that they retain some of the bonds’ risk, under the S.E.C.’s plan.

The proposed changes, approved in a 5-0 vote despite misgivings expressed by two commissioners, now enter a 90-day period for public comment before coming back to the commission for revision and final approval. The changes would "represent a fundamental revision to the way in which the asset-backed securities market would be regulated," the S.E.C.’s chairwoman, Mary L. Schapiro, said. "I think changes are both necessary and critical components of restoring investor confidence."

The asset-backed securities that would be affected by the new rules are bundles of loans, like residential mortgages, student loans or automobile loans. They are converted to bonds for sale to investors, whose returns are generated from the payments on the loans. Many such bonds sold in the years leading up to the financial crisis were backed by home loans made to unqualified borrowers. Regulators say the financial companies that created the bonds had little incentive to ensure that the bonds were backed by reliable loans. When large portions of the borrowers began to default on the loans, the holders of the securities had big losses.

The proposed rules, which would affect a large portion of new offerings in the $9.5 trillion market for securities backed by consumer loans, would in many cases require financial companies to retain 5 percent of each offering, a move that Ms. Schapiro said would "better align" the interests of investors and the securities firms. Financial reform bills winding their way through Congress contain similar requirements that financial companies "keep skin in the game," as the commission put it. So does a proposal by the Federal Deposit Insurance Corporation, which regulates some asset-backed securities originated by banks.

Also on Wednesday, the commission proposed removing a requirement that securities offered through an expedited process, known as a shelf offering, be rated as investment grade by a credit rating agency. The move is part of the S.E.C.’s effort, it said, to "eliminate the appearance of an imprimatur" that a mandatory credit rating might create. The changes could amount to a significant blow to the credit rating agencies, which generated large fees from rating asset-backed securities before the housing crisis all but killed the market for the bonds. The commission noted that there were 87 registered offerings in 2009, down from 1,306 in 2004.

Under the new rules, bond underwriters would not be required to receive a credit rating; rather, the chief executive of the bond issuer would have to certify that the assets were likely to produce the expected cash flows. Asked about the impact of the change, the Standard & Poor’s credit rating agency said it was still studying the commission’s 667-page proposal. "We will examine the proposed changes by the S.E.C. and will update the market following our review of the proposed rules," the company said in a statement. Moody’s, in a statement, said, "We believe the market benefits when ratings agencies compete on the basis of the quality of their credit analysis, and we have long supported the removal of ratings from regulation."

The companies selling the bonds would also have to give the government extensive information, in a form that is easily searchable, on all of the individual loans that make up the portfolio behind the bond offering, and update it on a continuing basis. Previously, reports were required only on the overall credit quality of the pool of loans, and for some bonds, updates were suspended after about a year. Two commissioners expressed misgivings about the proposed rules, despite their votes to release the proposals for public comment.

One of them, Troy A. Paredes, said he had "significant reservations" about some of the proposals and cautioned that the S.E.C. must be "mindful of the adverse impact the agency’s actions could have on the real economy if the commission does not properly calibrate these reforms." The other, Kathleen L. Casey, said she feared that instituting strict new disclosure requirements for securities that were already aimed at sophisticated investors could cause the agency to "regulate to the lowest common denominator and eviscerate the market for asset-backed securities."

Ms. Casey also expressed concerns about the impact of the rules on personal privacy, asking whether "data miners" might be able to use the information on individual loans to determine the identification of loan holders. And she criticized the exemption of asset-backed bonds issued by government-sponsored entities, like Fannie Mae and Freddie Mac, from the proposed requirements.

Many of the new disclosure rules would extend not only to securities registered with the S.E.C. but also to private placements of bonds, which are sold only to large institutional investors. Tom Deutsch, executive director of the American Securitization Forum, a trade group, said those rules could alter the economics of private-placement transactions to the point of destroying the market. "Do very large institutional investors need investor protection from other financial institutions that sell them securities?" he asked, implying that the answer was no.

Joblessness: The Kids Are Not Alright
by Daniel Henninger

Unemployment today doesn't look like any unemployment in the recent American experience. We have the astonishing and dispiriting new reality that the "long-term jobless"—people out of work more than six months (27 weeks)—was about 44% of all people unemployed in February. A year ago that number was 24.6%.

This is not normal joblessness. As The Wall Street Journal reported in January, even when the recovery comes, some jobs will never return. But the aspect of this mess I find more disturbing is the numbers around what economists call "youth unemployment." The U.S. unemployment rate for workers under 25 years old is about 20%. "Youth unemployment" isn't just a descriptor used by the Bureau of Labor Statistics. It's virtually an entire field of study in the economics profession. That's because in Europe, "youth unemployment" has become part of the permanent landscape, something that somehow never goes away.

Is the U.S. there yet? No public figure has ever taken more flak for a comment than former Defense Secretary Donald Rumsfeld for "old Europe." These are the Western European nations that spent the postwar period free of Soviet domination. With that freedom they designed what came to be called the "social-market economy," a kind of Utopia where a job exists to be protected and the private sector exists mainly to pay for the state's welfare plans.

Alas for Utopia it came to pass that the marginal cost of adding employees increased so much around Europe that private-sector hiring of new workers slowed and "youth unemployment" rose. And stayed. Eight years ago, a bittersweet movie about this tragedy of fallen expectations for Europe's young, "L'Auberge Espagnole," ends with a bright young Frenchman getting a "job" at a public ministry, where on the first day his co-workers explain the path to retirement. He runs from the building.

In the final month of 2009, these were European unemployment rates for people under 25: Belgium, 22.6; Spain, 44.5; France, 25.2; Italy, 26.2; the U.K., 19; Sweden, 26.9; Finland, 23.5. Germany, at 10% uses an "apprentice" system to bring young people into the work force, though that system has come under stress for a most relevant reason: a shortage in Germany of private-sector jobs. In the U.S., we've always assumed that we're not them, that America has this terrific, unstoppable job-creation machine. And that during a "cyclical downturn," all the U.S. Congress or the states have to do is keep unemployment benefits flowing and retraining programs running until the American jobs machine kicks in and sops up the unemployed. But what if this time the new-jobs machine doesn't start?

In the U.S., we've thought of youth unemployment as mainly about minority status linked to poor education. Not in Europe. German TV recently broadcast a sad piece on Finland, which has the continent's most admired school system. It showed an alert, vivacious young woman—she looked like someone out of an upper-middle-class U.S. high school—roaming Helsinki's streets begging waitress jobs, without success. It was during the Reagan presidency's years of strong new-job growth, with an expansion that lasted 92 months between 1983 and 1990, that Europeans began to envy the employment prospects for American graduates. The envy continued through the boom of the Clinton years. Some of Europe's most ambitious young workers emigrated to the U.S.

Which brings us to the current American presidency. Last March, its admirers proclaimed that the Obama budget drove "a nail in the coffin of Reaganomics." And replaced it with what? Mr. Obama spent his first year saving the public economy (the stimulus's money mainly protected public-sector jobs) and designing a U.S. health-care system led, if not run, by the public sector. The year's most significant U.S. fiscal policies created an array of new taxes to finance the congressionally designed health system, and raised federal spending to 25% of GDP. Another broad tax increase begins Jan. 1.

The only new-jobs idea the philosopher kings around Mr. Obama have had is the "green economy." No doubt it will create some jobs. But an idea so dependent on subsidy economics is not going to deliver strong-form employment for the best, brightest or willing and able in the next American generation. The path we're on is toward a flatter, gentler U.S. economy.

This is not the way forward to the next version of an American economy that once created Microsoft, Intel, MCI, Oracle, Google or even Twitter. The United States needs tremendous economic forces to lift its huge work force. Since 1990, roughly 80 million Americans have been born. They can't all be organic farmers or write scripts for "30 Rock." Many upscale American parents somehow think jobs like their own are part of the nation's natural order. They are not. In Europe, they have already discovered that, and many there have accepted the new small-growth, small-jobs reality. Will we?

The Born Ultimatum
by Tim Iacono

Wow. The former Fed chairman’s hindquarters must still be smarting after the tongue-lashing that Brooksley Born delivered about an hour ago at the Financial Crisis Inquiry Commission hearing (see here for other details of the meeting).

Brooksley Born: In your recent book you describe yourself as an outlier in your libertarian opposition to most regulation. Your ideology has essentially been that financial markets, like the OTC derivatives market, are self regulatory and that government regulation is either unnecessary or harmful. You’ve also stated that, as a result of the financial crisis, you have now found a flaw in that ideology.

You served as chairman of the Federal Reserve Board for more than 18 years, retiring in 2006, and became, during that period, the most respected sage on financial markets in the world. I wonder if your belief in deregulation had any impact on the level of regulation over the financial markets in the United States and in the world. You said that the mandates of the Federal Reserve were monetary policy, supervision and regulation of banks and bank holding companies, and systemic risk. You appropriately argued that the role of regulation is preventative.

But, the Fed utterly failed to prevent the financial crisis.

The Fed and the banking regulators failed to prevent the housing bubble. They failed to prevent the predatory lending scandal. They failed to prevent our biggest banks and bank holding companies from engaging in activities that would bring them to the verge of collapse, without massive taxpayer bailouts. They failed to recognize the systemic risk posed by an unregulated over-the-counter derivatives market and they permitted the financial system and the economy to reach the brink of disaster.

You also failed to prevent many of our banks from consolidating and growing into gigantic institutions that are now today too big and/or too interconnected to fail. Didn’t the Federal Reserve system fail to meet its responsibilities – failed to carry its mandate?

Alan Greenspan: First of all, the flaw in the system that I acknowledged was an inability to fully understand the state and extent of potential risks that were as yet untested…

Recall that Born was the former head of the CFTC whose quest to regulate over-the-counter derivatives in the late-1990s was thwarted by Alan Greenspan, former Treasury Secretary Robert Rubin, and current White House economic adviser Larry Summers.

Lowenstein: Thanks to Greenspan and Bernanke, The Next Crisis Could Be "Even Scarier"
by Peter Gorenstein

Alan Greenspan is on Capitol Hill this week testifying in front of the Financial Crisis Inquiry Commission. The former Federal Reserve Chairman Alan Greenspan has come under increased scrutiny for his failure to anticipate the housing bubble. Roger Lowenstein, author of The End of Wall Street, says the criticism is deserved. In Lowenstein’s view Greenspan made several key mistakes.
  • Too Low for Too Long: "He never said 'gee maybe we shouldn’t have left rates at 1% three years into a recovery' when housing is rising at double digit rates."
  • Missed the Bubble: "This idea that you should prick a bubble before it gets too big just totally ran against his grain."
  • The Market is Always Right: The root of the problem is that Greenspan "believed deeply in the philosophy that if markets do it, it's right," Lowenstein says. Current Federal Reserve Chair Ben Bernanke deserves some blame for continuing Greenspan’s policies, he says. "Ben Bernanke is absolutely Greenspan light."

What's even more troubling is that the solution to the crisis, engineered by Washington, may be even more catastrophic, Lowenstein says. "What the government may have done is not solve the Wall Street crisis but may have just assumed Wall Street's debt." Which brings up the real possibility "the next [crisis] could be centered right in Washington [and] could be even scarier," Lowenstein warns.

Greenspan Warns of Future Financial Crises
by Michael R. Crittenden

Former Federal Reserve Chairman Alan Greenspan urged U.S. policy makers on Wednesday to place significantly higher capital and collateral requirements on the financial-services industry, warning of the likelihood of future financial crises if steps aren't taken to address "too big to fail" firms and the inability of the private market and regulators to predict major risks.

Mr. Greenspan, appearing before the Financial Crisis Inquiry Commission on Capitol Hill, said in prepared remarks that the events of the last few years are likely to be viewed "as the most virulent global financial crisis ever." Putting in place new standards to make the financial system more resilient is necessary, he said, because future financial crises are likely and will involve financial products "which no one has heard of before, and which no one can forecast today."

"But if capital and collateral are adequate...losses will be restricted to equity shareholders who seek abnormal returns," Mr. Greenspan said. "Taxpayers will not be at risk. Financial institutions will no longer be capable of privatizing profit and socializing losses."

Mr. Greenspan also endorsed efforts to eliminate the concept that any firm is too big, or too interconnected, to not be liquidated or allowed to fail, a concept he said "cannot be allowed to stand."

Though he acknowledged that there are few good solutions in dealing with firms that pose a systemic risk, expressing doubt that risks can be identified in time for the government to react proactively, Mr. Greenspan said market participants must be convinced that the bailouts of the last two years won't occur in the future.

"The productive employment of the nation's scarce saving is being threatened by financial firms at the edge of failure, supported with taxpayer funds, designated as systemically important institutions," he said.

Mr. Greenspan's testimony before the bipartisan commission has been highly anticipated, in part because of the criticism that has been heaped on him and the Fed under his tenure for their role in setting the stage for the financial tumult that occurred after he left the central bank in 2006. Lawmakers on both sides of the aisle, including those intimately involved in efforts to overhaul regulation of U.S. financial markets, have blamed the Greenspan-era Fed for not doing enough to protect consumers and identifying potential risks to the economy from the booming mortgage market.

"Why does the Fed deserve more authority when it failed to prevent the current crisis?" Sen. Christopher Dodd (D., Conn.) asked at a hearing last July with Mr. Greenspan's successor, current Chairman Ben Bernanke.

Mr. Greenspan on Wednesday defended his legacy on consumer-protection matters, arguing that subprime mortgages were not a "significant cause" of the financial crisis, and that the Fed under his watch "was quite active in pursuing consumer protections for mortgage borrowers."

"I consistently voted in favor of consumer protection initiatives when they were brought before the Board, and support the positions reflected in the various guidelines we issued over the past decade," Mr. Greenspan said.

The Fed has come under specific criticism for its slow pace in implementing protections for homeowners passed by Congress in 1994 to address "unfair" and "abusive" lending practices. Mr. Greenspan said the central bank took the steps necessary to make sure the law was "faithfully implemented," and that the Fed and other federal regulators carefully monitored the growth of subprime lending.

"The Federal Reserve engaged in real-time assessment of developing risks in the subprime and nontraditional mortgage sectors, and endeavored to adjust to ever-evolving market behavior," he said.

Mr. Greenspan's support of more stringent capital and collateral requirements could boost efforts by the Obama administration and congressional lawmakers wrestling with legislation to overhaul U.S. financial markets. Members of both the House and Senate have favored various efforts to require financial firms to better insure against potential risks, and Mr. Greenspan said such requirements might have helped slow the market panic of late 2008.

"I believe that during the past 18 months, there were very few instances of serial default and contagion that could have not been contained by adequate risk-based capital and liquidity," he said, noting that higher capital requirements would likely result in smaller executive pay at financial firms.

He also supported an idea to require banks and some other financial firms to hold a special type of "contingent capital bond" to help address "too big to fail" situations. Firms could hold the debt, and in the event their equity capital fell below a certain trigger it would automatically be converted to equity. If that wasn't enough to stabilize a firm, Mr. Greenspan said, Congress should consider a special bankruptcy mechanism to unwind major financial institutions that wouldn't be able to fail quickly.

Addressing the causes of the financial crisis, Mr. Greenspan laid the blame on financial firms, the credit-rating agencies they depended on to offer positive assessments of risky products and regulators. Firms that were increasingly undercapitalized thought they would be able to predict any market problems with enough time to prepare themselves, but "they were mistaken," he said. Regulators likewise were unable to mitigate against the cascading defaults and liquidity crunch, he added.

"Even with the breakdown of private risk-management and the collapse of private counterparty credit surveillance, the financial system would have held together had the second bulwark against crisis—our regulatory system—functioned effectively," Mr. Greenspan said. "But, under crisis pressure, it too failed."

Blame Europe, former Federal Reserve boss Alan Greenspan tells US inquiry into financial crisis
by Phillip Inman

Former Federal Reserve chairman Alan Greenspan blamed much of the credit crunch and resulting financial crisis today on rampant demand from Europe for exotic financial derivatives based on the sale of US sub-prime mortgages. Greenspan, who ran the US central bank for almost 20 years until 2006, said demand from Europeans for property investments that paid high rates of interest encouraged them to buy mortgage-backed securities that were tagged by credit-rating agencies as low risk. Without the huge demand for exotic derivatives and the "dubious" participation of credit-rating agencies, along with investment banks, hundreds of small-time fraudulent mortgage lenders and a government bent on encouraging wider home ownership across the US, the crisis could have been avoided.

In testimony before the Financial Crisis Inquiry Commission, Greenspan said securitised sub-prime mortgages were the cause of the crisis, based on huge demand from US and European investors, and ratings agencies that applied AAA ratings to packages of sub-prime mortgages that were more likely BBB. He contradicted several members of the commission, which is drawn from Congress and the business community, who accused him of failing to monitor developments in the sale of sub-prime mortgages and the way they were packaged into collateralised debt obligations without sufficient capital to support them. Greenspan argued that no regulator could take action to prevent unforeseen events and only regulations forcing banks to maintain larger amounts of capital could save the world from a repeat of the crisis.

The commission chairman, Phil Angelides, a former treasurer of California, accused Greenspan of avoiding responsibility for presiding over a property asset boom, much of it fuelled by an epidemic in mortgage fraud, and failing to stop banks such as Citigroup adopting risky practices. Angelides, a Democrat, said the Fed failed to take action to prevent or mitigate the housing bubble or tackle the growing market in mortgage-backed securities. "You could've, you should've, but you didn't," he said. The Democratic congressman Bill Thomas asked why Greenspan kept interest rates low during the first half of the decade when it was obvious property prices were soaring and an asset bubble was getting out of control.

Greenspan told the committee that the Fed was unable to influence long-term interest rates, which govern mortgage rates. He said keeping base rates low was crucial to businesses affected by the US recession in 2003 but it had lost its power to dampen housing speculation. The influx of foreign funds was a bigger influence on long-term rates, he argued. He admitted, as he did before a congressional committee last year, that the Fed was partially to blame for the crisis, but only because it was in tune with mainstream academic and financial assessments that it was not in the interests of banks to take unnecessary or life-threatening risks. "We had a 70% success rate, and if you get it right 70% of the time that is exceptionally good," he said.

Bigger factors in the crisis were the government's encouragement of home ownership and a lack of enforcement by other agencies against mortgage brokers selling fraudulent loans, he claimed. Greenspan also took a swipe at accounting regulations that allowed banks to "sell" securities known as collateralised debt obligations (CDOs) to off-balance-sheet vehicles. "It is not that they sold them to off-balance-sheet vehicles, it is that they subsequently were forced to buy them back. It was dubious in accounting terms," Greenspan said. Angelides asked why the Fed had ignored repeated warnings from consumer groups and the FBI that fraud was rife in the home-buying industry and prices were artificially inflated. Greenspan answered that the majority of poor practices were in the unregulated shadow banking industry beyond the view of the Fed.

Goldman Sachs denies 'betting against clients'
by Graeme Wearden

Nine months after being labelled "a great vampire squid wrapped around the face of humanity", Goldman Sachs has issued a wide-ranging justification of its conduct before, during and after the financial crisis. In a letter to shareholders issued alongside Goldman's 2009 annual report, the Wall Street bank denied that it "bet against its clients" when it changed its position in the housing market in 2007, shortly before prices began to collapse.

The eight-page letter, signed by chief executive Lloyd Blankfein and president Gary Cohn, also contained a detailed defence of the $12.9bn (£8.5bn) payout which Goldman received from AIG after the failed insurance giant was bailed out by the US government. The letter appears to be a detailed response to some of the allegations made nine months ago by Rolling Stone journalist Matt Taibbi. His article, which argued that Goldman had repeatedly profited by inflating unsustainable financial bubbles, received widespread coverage. It included the claim that the company was "a great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money".

One of Taibbi's key charges was that Goldman had helped to fuel the housing boom during the last decade by packaging hundreds of millions of dollars worth of housing loans into complicated financial products such as collateralised debt obligations (CDOs). These CDOs were sold on to other banks and investors such as pension funds, who suffered big losses when the sub-prime housing bubble burst. Goldman, though, actually profited from the fiasco by short-selling the market before the credit crunch struck in summer 2007.

In the letter, which includes the word "clients" 56 times, Blankfein and Cohn attempt to rebut this charge. They admit that Goldman "went short" in the housing market while simultaneously continuing to trade mortgage-backed securities to its clients. They deny, though, that this was wrong, arguing that various sophisticated investors simply took differing views. "We certainly did not know the future of the residential housing market in the first half of 2007 any more than we can predict the future of markets today.

We also did not know whether the value of the instruments we sold would increase or decrease. It was well known that housing prices were weakening in early 2007, but no one – including Goldman Sachs – knew whether they would continue to fall or to stabilise at levels where purchasers of residential mortgage-related securities would have received their full interest and principal payments," they wrote. "Although Goldman Sachs held various positions in residential mortgage-related products in 2007, our short positions were not a 'bet against our clients'. Rather, they served to offset our long positions. Our goal was, and is, to be in a position to make markets for our clients while managing our risk within prescribed limits."

'An inside job'

Goldman was the biggest beneficiary from the US government's bailout of AIG in autumn 2008. Goldman claimed at the time that its exposure to AIG was "immaterial", but in March 2009 it emerged that it actually received $12.9bn of the $44bn handed to various counterparties who had taken out insurance contracts with AIG. Some critics have questioned whether then-Treasury secretary Hank Paulson – who was Blankfein's predecessor at Goldman – acted properly by authorising the payment of an estimated $90bn of taxpayer funds to various banks. The rescue came just a few weeks after the US government allowed Lehman Brothers – a key Goldman rival – to fail.

Today's letter lays out in some detail why Goldman received so much from the collapse of AIG. They said that $4.8bn of the money was paid in return for securities which could otherwise have been sold for the same price, while $2.5bn covered existing debts owed because of the deteriorating market. Another $5.8bn was handed over to settle credit default swaps, or insurance contracts, on the CDOs that had helped to create the crisis. These CDS contracts were settled at face value, rather than at a discount to reflect the fact that the counterparties could have faced a lengthy wait to recover any money if AIG had simply gone bust.

Eliot Spitzer, the former governor of New York, called Paulson's decision to fulfil AIG's CDO contracts in full a "disgrace". "The appearance that this was all an inside job is overwhelming. AIG was nothing more than a conduit for huge capital flows to the same old suspects, with no reason or explanation," Spitzer wrote last year. Blankfein and Cohn insisted that "the vast majority of the money we received" was used to buy back the underlying bonds. They admitted, though, that they and the rest of the financial system benefited significantly from the rescue of AIG. "Although it is difficult to determine what the exact systemic implications would have been had AIG failed, it would have been extremely disruptive to the world's already turbulent financial markets," they wrote.

Goldman Sachs: Spinning Gold
by Janet Tavakoli

Goldman Sachs claims great risk management skills, while it shirks responsibility for its role in the near collapse of the U.S. economy. The former is a myth, and the latter is a dodge. [1] As taxpayer wealth was destroyed, Goldman exploited the financial crisis it helped cause, while the U.S. was (and remains) at war.

Goldman Sachs released its 2009 annual report today showing it made net revenues of $45.17 billion with net earnings of $13.39 billion. In its shareholder letter, Goldman says it repaid TARP money, but did not mention the massive new taxpayer subsidies it continues to enjoy.
"Goldman did not and does not operate or manage our risk with any expectation of outside assistance."

Yet due to the influence of highly placed Goldman Sachs former officers, Goldman received--and continues to receive--enormous assistance from taxpayers.

Goldman cleaned up at the expense of average citizens. For example, hard-working U.S. taxpayers bailed out Goldman Sachs, Goldman's trading partners, and AIG. Goldman grabbed new status as a financial holding company, FDIC debt guarantees, access to near zero-cost taxpayer-subsidized borrowing, new lax accounting standards, and more. Now Goldman is making a killing as the Federal Reserve keeps interest rates near zero. Goldman reaped windfall profits to replenish its capital, and paid bonuses of over $16 billion to its employees.

Goldman's Cover Story

Goldman claims it did nothing wrong. ("Goldman Sachs: Don't Blame Us," Business Week cover story, April 14, 2010.) There is a lot to discuss about Goldman's actions prior to the financial meltdown, but this commentary will focus only on the largest part of the U.S. economy, the housing market.

When Goldman created collateralized debt obligations (CDOs), it was obliged to perform thorough due diligence. Previous securities frauds (unrelated to Goldman) were public knowledge, and there were multiple multi-year reports of predatory lending and fraudulent loans (Ameriquest, FAMCO, and many more). Despite self-serving denials by former Fed Chairman Alan Greenspan, there were many studies in the public domain that showed that even new non-fraudulent loans had a higher likelihood of default when zero or slim down payments were made, including a March 2005 report from the St. Louis Fed. Separate from this, lending standards slid, which made the problem even worse. In addition to that, newly created loan products posed greater risk to borrowers, even when other factors such as lower lending standards and fraud were absent.

Goldman failed in its duties as a creator (underwriter) of these CDOs. Goldman's excuses that others were doing it or that Goldman was only providing a "customer" service do not relieve Goldman of its own responsibility.

Goldman tries an evasive maneuver when it says it sold CDOs to "sophisticated," investors. The damage was so pervasive that retail investors were caught in the web. Moreover, taxpayer money bailed out the financial system and bailed out investors in Goldman's CDOs. Caveat emptor no longer apples. The unsophisticated public ended up being an unwilling investor.

Built to Fail

There was fraud by borrowers and speculation, but there was also massive widespread predatory lending. Most victims were the least sophisticated borrowers. Mortgage lenders engaged in a variety of frauds including phony appraisals, altered documents, hidden fees, lies about the type of loan, and lies about the maximum payments. As for CDOs, the SEC dropped seminal investigations.

Many of Goldman's "investments" crashed like an airplane made from faulty components. Some of the CDOs Goldman created--including some sold to French banks that traded with AIG--ended up in money market funds (as asset backed commercial paper) bought by retail investors.

Imagine that Goldman packaged a herd of cattle for sale. Industry standards require it to investigate the herd. (Rating agencies do not perform the inspections; it was Goldman's responsibility.) Cattle had a history of health problems, so Goldman had all the more reason to perform thorough due diligence on each herd. A sample would have revealed that, say, 60% of the healthy-looking herd tested positive for hoof-and-mouth disease, and the disease could possibly infect the others.

Goldman claims it did nothing wrong when it slapped good labels--via complicit rating agencies--on its loan packages, and then sold them. Goldman claims to be good at risk management, yet despite public red flags, it now claims it didn't know any better.

Beyond the original problems with Goldman's CDOs, some appear "built to fail." ("Congress Exposes Potential Profiteering in AIG's Deals." - Huffington Post, January 28, 2010.) I wrote about the danger of these types of structures in a book published in 2003. Goldman cannot claim competence and also claim it didn't know any better.

(See also "Wall Street Wizardry Amplified the Crisis," WSJ, December 27, 2007, "Goldman Pays Junior CDOs Before 'Junk' Senior Classes," Bloomberg News, Nov 12, 2009, "Goldman Fueled AIG's Gambles, WSJ, December 12, 2009, and "Banks Bundled Bad Debt, Bet Against It and Won," New York Times, December 23, 2009.)

Billions of Taxpayer Dollars for Corrupt Finance

The Fed abused the taxpayers' trust when it bailed out AIG's trades for 100 cents on the dollar. The Fed claims its loan for purchases of the CDOs may be paid back, but that is only 40% of what taxpayers are owed. The loan was only for the 40 cents on the dollar that remained after Goldman (and others) already took billions out of AIG. The purchases should be reversed, and taxpayers should be paid 100 cents on the dollar--the original principal amount (less interim principal payments). [2] The proceeds can be used to pay down AIG's public debt.

Goldman's CEO, Lloyd Blankfein, quipped to a reporter that he is doing "God's work," yet Goldman participated in the transfer of wealth from hard-working taxpayers to fee-seeking agents of corrupt finance. Then Goldman accessed taxpayers' funds to protect and enrich itself, as did other banks. That's not only a self-serving interpretation of "God's work," it's a perversion of capitalism. Goldman Sachs has become a symbol of the aristocratic tyranny from which our Founding Fathers sought to protect our Republic.

The following video (C-Span, April 2009) explains how cheap money, wide-spread bad (often predatory) lending, phony securities, credit derivatives, and Wall Street banks' massive over-borrowing led to our current financial crisis. Yet there is still no meaningful reform.

Detroit bankruptcy looms without drastic change
by Leonard N. Fleming

Mayor Dave Bing and the City Council must reduce the size of government and slash the city's budget deficit to stave off bankruptcy or state receivership, according to a report released Monday. Without draconian cuts and changes aimed at downsizing government, the city could end up with a "possible" general fund deficit between $446 million and $466 million to its $1.6 billion budget. "Detroit city government must be restructured," according to the report from the Citizens Research Council of Michigan, a nonprofit that has studied Detroit finances for decades. "The new structure must reflect both the reduced tax base and the limited ability of state government to provide shared revenues."

The report, titled "The Fiscal Condition of the City of Detroit," was prepared at the request of Business Leaders for Michigan, a statewide coalition. The 60-plus page report outlines much of what officials know: The city's dramatic population loss, high unemployment and other ills have had adverse effects on the city. And now government must respond in a dramatic way to downsize and make sound budget choices, the report argues.

Report author Bettie Buss, a senior research associate for the council, said her charge was to look at the underlying economy of the city and relate it to the budget challenges. "It is certainly true that the new administration has huge financial and operational challenges ahead," Buss said. "What this study does is confirm what the mayor has been saying all along." Buss said the report also shows that bad budget decisions can have dire consequences for a city.

For example, the City Council adopted a budget last year with $275 million in "revenues unlikely to materialize," such as the sale of the Detroit-Windsor Tunnel and the Public Lighting Department. These decisions, she said, force the city to face tough choices. "They are damned a whole lot more if they put it off," she said. "It's like living off your credit cards. Eventually, you're going to have to pay them off," she said.

The report, which is posted at, was released as the mayor is slated to give his budget proposal to the council. Karen Dumas, director of communications for the mayor, said the report's recommendations warrant closer review. "While we recognize our compromised tax base and need for restructuring city government," Dumas said, "we are confident that this administration will be able to do so implementing structural changes, which require time to both implement and realize results."

Americans’ faith in homeownership drops, Fannie Mae poll shows
by Renee Merle

Despite turbulence in the housing market during the past three years, most people still think homeownership is important and preferable to renting, but many remain skeptical that home prices will rebound soon, according to a survey by Fannie Mae to be released Tuesday. The survey is Fannie Mae's first attempt to gauge how the foreclosure crisis has affected public attitudes about homeownership. The crisis was unprecedented in many aspects, including the widespread decline in home values and the prevalence of risky subprime loans, company officials said.

With some homeowners feeling burned by the housing crisis, the survey found that many people are less likely to take risks related to buying a home. "We have been through a serious dislocation of the housing market," said Mike Williams, Fannie Mae's chief executive. "What we're trying to determine is what are the effects for consumers."

Among the major shifts the survey found is that the public is less likely to view a home as a safe investment. In 2003, 83 percent of those interviewed in a similar study by Fannie Mae said real estate was a safe investment, compared with about 70 percent in the most recent survey. "That is one of the big changes we have seen in attitudes. We need to figure out whether this is a sustainable shift," said Doug Duncan, Fannie Mae's vice president and chief economist.

The survey was conducted this winter on Fannie's behalf by research firms Oliver Wyman and Penn Schoen Berland and included interviews with more than 3,000 people, most of them homeowners. About 48 percent of those surveyed said that banks should foreclose on people who are unable to pay their mortgages. A softer attitude was reflected if the homeowners in trouble owed more than their home was worth, a situation known as being underwater. But most of those surveyed, 53 percent, blamed homeowners, not mortgage lenders, for taking out loans they could not afford, the survey shows.

However, lenders should bear a significant portion of the blame for the housing crisis, according to the Center for Responsible Lending. The group has compiled data showing that most homeowners with subprime loans could have qualified for more traditional mortgages but were steered toward riskier and more expensive products by brokers who got paid more to do so. "It's the job of lenders to assess whether a borrower can afford the loan, and while people may make mistakes in assessing their ability to afford a loan, the responsibility and knowledge lay with the lender," said Julia Gordon, a senior policy council at the center. "Lenders make loans every day. Lenders know how to underwrite a loan. People buy a house only a couple of times in their life."

More than a third of homeowners surveyed said they were concerned about their ability to pay all of their debts, and most thought they had not saved enough money. A quarter of homeowners surveyed listed other debts, including utility bills and car loans, as priorities over paying mortgages. That challenges the conventional wisdom that says homeowners will skip a credit card or car payment before becoming delinquent on a mortgage, Duncan said.

The survey also tried to measure public attitudes about the growing number of underwater homeowners, whose higher risk for foreclosure has worried the banking industry. Most people do not think it is acceptable for borrowers to walk away from a home simply because they are underwater. But respondents' views softened if the homeowner was facing a financial hardship, the survey shows. About 15 percent of respondents said it is acceptable for underwater owners to walk away from their home if they are in financial distress, compared with 8 percent in general. Borrowers delinquent on their mortgage are the most likely to be sympathetic to underwater borrowers walking away from their home.

"Why so little sympathy for their struggling neighbor, who may have lost a job and be faced with the gut-wrenching reality that they can no longer afford their mortgage?" said Brent T. White, a University of Arizona law school professor who has studied underwater borrowers. "The double standard could not be clearer: When corporations walk away from a bad investment, it is called a good business decision. But when homeowners do the same thing, they are seen as immoral."

U.S. Apartment Rents Decline as Vacancies at Recordy
by Oshrat Carmiel

U.S. apartment rents dropped in the first quarter and the vacancy rate remained at a record as unemployment near a 26-year high limited tenant demand. Actual rents paid by tenants, known as effective rents, declined 1.5 percent from a year earlier, Reis Inc. said in a report today. Asking rents fell 1.6 percent, according to the New York-based property research firm. Vacancies were unchanged at 8 percent, the highest level since 1980, when Reis began tracking the number, said Victor Calanog, director of research.

U.S. rental demand has slumped as employers cut 8.4 million jobs since the start of the recession in December 2007. The bigger drop in asking rents than effective rents in the first quarter signals that landlords are pricing their properties lower at the outset and minimizing concessions, Calanog said. "Landlords are saying: ‘Even before we talk about the free month off, and even before we talk about the free gym, we want to lower the asking rents to get you through the door,’" he said in a telephone interview.

The U.S. unemployment rate was 9.7 percent for the third straight month in March, the Labor Department said April 2. The economy added 162,000 jobs in the month, a sign the labor market may be recovering. Actual rents fell year over year to an average of $967 in the first quarter, Reis said. Asking rents dropped to $1,027. Rent rates rose less than half a percent from the previous quarter, the first sequential growth since the three-month period when Lehman Brothers Holdings Inc. filed for bankruptcy. The net change in occupied space, a measure of leasing known as absorption, grew by 20,424 units, the most for the first quarter since 2000, according to Calanog. "The perception that labor markets are stabilizing is probably enough to tip the demand for apartments," he said.

Effective rents fell the most, year over year, in Las Vegas; San Jose, California; Phoenix; Seattle; and San Francisco, according to Reis. Rents paid by tenants climbed the most in Colorado Springs, Colorado; Washington, D.C.; San Antonio; and Dayton, Ohio.

Vancouver real estate hits million-dollar milestone
Lower Mainland real estate west of the Fraser Valley hit a new money milestone in March -- for the first time, the average price for a single detached home hit $1 million. "If you look at our market in the last 12 months, [it's] probably the hottest real estate market in the world," realtor Paul Eviston told CTV News. According to the B.C. Real Estate Association, there were 1,344 single detached homes sold in greater Vancouver last month, at a total cost of nearly $1.35 billion.

"When we look at the price of a single detached home, in March it was the first month ever that we saw that price crest a million dollars," the association's Cameron Muir told CTV News. The March sales included many high end homes, but even a standard single detached house in greater Vancouver will now cost more than $800,000. A year ago, a similar house would have cost $650,000. Prices have climbed 23.3 per cent in just 12 months, and are now nearly three per cent higher than they were before the housing market crashed.

Muir called it, "the most significant rebound I've seen in the market since 1970." Other Canadian markets are recovering, but not as quickly as Vancouver's. Eviston said the Olympic Games might have spurred interest in housing here. The warm winter could also take some of the credit. "You can't underestimate how weather affects people's buying patterns, and that's a huge part of it," Eviston said.

Of cows, communities and credit default swaps
by John Kay

The French economist and businessman Michel Albert described two historical traditions from which the modern insurance industry originated. In London, English gentlemen would gather in Lloyd’s coffee house to speculate on the state of the world and the weather. They would gamble on the fate of ships. Meanwhile, in Swiss mountain villages, farmers might agree that if one of their cows died, the whole community would contribute to provide a replacement.

Although this is a caricature, it contains a large element of truth. Insurance is partly a market in securities, partly a mechanism for collective action; a means by which risks are traded, but also a means by which risks are socialised. Even today, mutual organisation is much more common in insurance than in most business activities, especially in continental Europe: the recent decline of mutuality is linked to the global spread of Anglo-American financial institutions.

The 18th century saw a degree of convergence between the traditions of market and mutuality. The development of the theory of probability and the construction of mortality tables were critical. These innovations allowed a more scientific approach to risk assessment; the actuarial profession came into being. Life assurance could be based on objectively calculated premiums.

Yet it was still amusing, and for some profitable, to gamble on the life of particular individuals. King George III, who reigned for 60 years despite his uncertain health, was a favourite subject. A book was established on the fate of Admiral John Byng, the hapless British seaman who failed to relieve Minorca and was controversially shot, as Voltaire put it, "pour encourager les autres". But such wagers came to be seen not only as distasteful, but also dangerous. If large sums were riding on the death of Sir Hugh Walpole, someone might be tempted to hasten the outcome. Legislation established the concept of "insurable interest". One could take out a contract of insurance only if one would suffer identifiable loss from the occurrence of the insured event.

Life assurance today is a more respectable business (although if you want to bet on the health of Kirk Douglas or Pope Benedict, you can do so online). But the underlying issue is topical again: the subject is not the death of individuals but the death of corporations. A credit default swap is, in a sense, an insurance policy on a company.

The growth of the market for credit default swaps after 1997 relies on a legal opinion by Robin Potts QC. In Mr Potts’ view of English law, such contracts are neither insurance (in which case purchases by traders who did not hold the relevant debt would have been illegal) nor gambling (in which case the contracts would, at least until the law changed in 2005, have been unenforceable).

Whatever the legal authority for Mr Potts’ view, it makes little commercial or economic sense. If someone who buys a CDS is neither insuring – protecting himself against possible losses from the borrower’s default – nor wagering – judging that the probability of default is greater than the odds implied by the market rate for a CDS contract – then what is the nature of the transaction?

Yet traders trade for no better reason than that is what traders do. It is difficult to believe that those who buy CDS protection on US Treasuries really imagine that the rate accurately reflects the probability of anything. They would have to believe not simply that the American government will default, but that when it does walk away from its liabilities, their counterparty will pay. Like the people who bought dotcom stocks or Florida property developments off plan, the purchasers are trading a security of uncertain and probably negligible fundamental value in the hope that they will be able to sell it on to someone else at a higher price.

Such asset bubbles generally collapse, although there are a few commodities – such as gold and Old Master paintings – for which dissociation of price and value seems permanent, with prices influenced only by sentiment and expectations about future prices. Holding these items is part insurance – the buyer hopes the asset may be worth something even in an apocalypse – and partly a means of attesting to one’s great wealth.

But it strains language to breaking point to describe CDS transactions as anything but gambling. The traders in AIG’s financial products division were inheritors of the amusements of Edward Lloyd’s coffee shop rather than the values of Swiss farmers. With short sales of equities, the need to borrow stock limits positions to the extent of insurable interest. But not in the CDS market. This observation leads directly to the increasingly widely held view – most recently expressed in this paper by my colleague Wolfgang Münchau – that CDS transactions should be permitted if they are insurance but not if they are gambling. The argument is in essence identical to that which led to the establishment of the doctrine of insurable interest in 1745: "It hath been found by experience, that the making of insurances, interest or no interest, or without further proof of interest than the policy, hath been productive of many pernicious practices." Many things have changed since the 18th century, but many others have remained the same.

Tanker Rates Seen Sinking 35% Amid Refinery Cutbacks
by Alaric Nightingale and Alistair Holloway

The most profitable supertanker market in more than a year is heading for a 35 percent slump as oil refineries from Japan to the U.K. shut for maintenance and leave a surplus of vessels. Shipping costs will fall to an average of $28,758 a day this quarter from $44,576 on April 1, according to the median estimate in a Bloomberg survey of 13 analysts, traders and shipbrokers. Rates to hire the ships, each bigger than the Chrysler Building, averaged $49,908 a day in the first quarter, the most since the last three months of 2008.

The most extensive shipbuilding program in three decades is adding supplies and fewer tankers are being used to store crude, swelling the number of available vessels just as global oil demand drops for the first time in a year. Frontline Ltd., the world’s biggest operator of supertankers, would lose money on any ship it hired out at the survey’s median forecast. "Refineries are slowing and shutting down and they’ve already imported crude," said Andreas Vergottis, the Hong Kong- based research director at Tufton Oceanic Ltd., which manages the world’s largest shipping hedge fund. "Crude inventories are high and getting higher. The entire second quarter tends to be soft for tankers."

Global oil demand will slip about 0.5 percent to 85.9 million barrels a day this quarter, down from 86.3 million barrels in the previous three months, according to the Paris- based International Energy Agency. Japanese refiners including Japan Energy Corp. plan to cut oil processing by as much as 17 percent this quarter, according to company announcements. The slowdown will weigh on shipping because the Far East and Southeast Asia represents 62 percent of demand for supertankers, according to McQuilling Services LLC. Rates along the Saudi Arabia-to-Japan route set a global benchmark for supertankers and form the basis of the forecasts in the Bloomberg survey.

"Asia would be one of the markets where we would expect some kind of flagging demand," said Mark Jenkins, a London- based analyst at Simpson, Spence & Young Ltd., the world’s second-largest shipbroker. "Asia’s role as a generator of tanker employment has grown substantially." ConocoPhillips and Ineos Group Holdings Plc plan to shut or partially close refineries in the U.K. this quarter, data compiled by Bloomberg show. U.S. plants are running at 82.6 percent capacity compared with a 10-year average of 89.3 percent, data from the Department of Energy show.

Shipping rates may also drop as traders use fewer vessels to store crude and refined products. The number of tankers tied up in storage reached a record 168 in November and fell to 104 by February, according to Simpson, Spence & Young. As an oil glut formed during the recession, traders could profit by purchasing crude, storing it on tankers and selling the barrels for delivery in the months ahead. Those trades unwound after the premium for later delivery evaporated, especially for products such as gasoil.

The number of available ships may also expand as the northern hemisphere’s winter ends, said Jonathan Chappell, an analyst at JPMorgan Chase & Co. in New York. "Refinery maintenance in Asia will have an impact but an equally big issue is that the fleet runs far more efficiently in summer than in winter," he said. The drop in charter rates may not last long. The IEA forecasts a rebound in oil demand in the third quarter and the Organization of Petroleum Exporting Countries, accounting for about 40 percent of oil supply, increased output for six consecutive months through February. Non-OPEC supply will expand about 0.6 percent this year, the IEA says. The additional supply spurs demand for tankers.

"Normal seasonal trends argue for decreasing rates but not as much as normal," said Ole-Rikard Hammer, a senior analyst at Oslo-based Pareto Securities ASA, who has tracked tanker markets for more than two decades. "The risk really is on the upside." Ship owners may also get help from the scrapping of single- hulled tankers after a global ban began to take hold this year. Single-hulled tankers account for about 12 percent of the fleet, according to Lloyd’s Register-Fairplay. Their scrapping will contribute to an overall 4.2 percent decline in the fleet this year, according to Clarkson Research Services Ltd., a unit of the world’s biggest shipbroker.

The six-member Bloomberg Tanker Index of shipping stocks advanced 7.5 percent this year, more than the 4.2 percent gain in the MSCI World Index of stocks. Frontline added 19 percent in Oslo trading and the Hamilton, Bermuda-based firm is expected to earn $2.33 a share this year, compared with $1.32 last year, analysts’ estimates compiled by Bloomberg show. Frontline said in February it needs $30,800 a day to break even on its supertankers. Ship owners hire their vessels out in the spot market and on longer rentals at fixed prices.

The median of $28,758 in the Bloomberg survey of rates would still be 24 percent more than the full-year average of $23,130 in 2009. Rates fell so low at some points last year that ship owners were effectively subsidizing their clients by having to pay toward fuel costs. Global oil demand will rebound in the third quarter to 86.8 million barrels a day, its highest level since the first three months of 2008, the IEA estimates. The world economy will expand 2.7 percent this year, the fastest pace since 2007, according to the World Bank.

Ship owners are counting on higher consumption to fill new vessels joining the fleet. Shipping lines ordered the largest number of supertankers since the 1970s after rates rose as high as $177,000 a day in 2008. Fifty-four carriers were delivered from yards last year, the largest number since 1976, according to Clarkson. A further 71 will be added this year. Refineries ran below capacity during the global recession, potentially allowing them to carry out early maintenance, said Jens Martin Jensen, Singapore-based chief executive officer of Frontline’s management unit. "Short term, the rates have dropped but I think they will bounce back," he said.

The Latest Gold Fraud Bombshell: Canada's Only Bullion Bank Gold Vault Is Practically Empty
by Tyler Durden

Continuing on the trail of exposing what is rapidly becoming one of the largest frauds in commodity markets history is the most recent interview by Eric King with GATA's Adrian Douglas, Harvey Orgen (who recently testified before the CFTC hearing) and his son, Lenny, in which the two discuss their visit to the only bullion bank vault in Canada, that of ScotiaMocatta, located at 40 King Street West in Toronto, and find the vault is practically empty.

This is a relevant segue to a class action lawsuit filed against Morgan Stanley, which was settled out of court, in which it was alleged that Morgan Stanley told clients it was selling them precious metals that they would own in full and that the company would store, yet even despite charging storage fees was not in actual possession of the bullion. It appears that this kind of lack of physical holdings by all who claim to have gold in storage, is pervasive as the actual gold globally is held primarily in paper or electronic form.

Lenny Organ who was the person to enter the vault of ScotiaMocatta, says "What shocked me was how little gold and silver they actually had." Lenny describes exactly how much (or little as the case may be) silver was available - roughly 60,000 ounces. As for gold - 210 400 oz bars, 4,000 maples, 500 eagles, 10 kilo bars, 10 one kilogram pieces of gold nugget form, which Adrian Douglas calculates as being $100 million worth, which is just one tenth of what the Royal Mint of Canada sold in 2008, or over $1 billion worth of gold. As Orgen concludes: "The game ends when the people who own all these paper obligations say enough and take physical delivery, and that's when the mess will occur."

Also note the interesting detour into what Stephan Spicer of the Central Fund Of Canada, said regarding his friend at a major bank, who wanted access to his 15,000 oz of silver, and had to wait 6-8 weeks for its to be flown in from Hong Kong.

It is funny that central bankers thought they could take the ponzi mentality of infinite dilution of all assets coupled with infinite debt issuance, as they have done to fiat money, and apply it to gold, in essence piling leverage upon leverage. They underestimated gold holders' willingness to be diluted into perpetuity - when the realization that gold owned is just 1% of what is physically deliverable, you will see the biggest bank run in history.

Link to full Eric King interview.

Pulling Hungary back from the precipice
by Marloes de Koning

When he entered office, his country was on the brink of bankruptcy. A year later, Hungarian prime minister Gordon Bajnai’s job is done. Sitting in his Budapest office, the Hungarian prime minister, Gordon Bajnai (42), looked like a Wall Street yuppie lost in a baroque costume drama. The business-like prime minister, sporting short-cropped blond hair, receives his guests in a stately chamber filled with dark tables and heavy chairs under a richly decorated ceiling. Outside the building, which also houses the country’s parliament tourist were dazed by Budapest’s splendour. Inside, Bajnai, who amassed his fortune as an investment and market analyst before coming to highest office, was busy implementing some very austere policies. In his words: "A life-saving operation."

The free fall of the Hungarian currency, a staggering budget deficit and rapid loss of faith in the country’s ability to repay its loans, incited fears that Hungary could become the first EU country to be bankrupted by the credit crisis. In October 2008, it was spared that fate when the IMF, EU and World Bank lent the country 20 billion euros. It was evident there would be no escaping cutbacks and reform. But the country’s politicians were divided and unable to take decisive action. Bajnai rose to the occasion. He became prime minister for one year, for the symbolic salary of a single forint. This month, the country will elect a new parliament and his job will be done. Bajnai is not a member of any party and he will not be a candidate. The millionaire was able to deliver some real results. Even though the Hungarian economy is expected to shrink somewhat this year, following the 6.7 percent decrease in 2009, growth rates of 3 to 4 percent have been predicted for 2011. This is considerably higher than the lacklustre growth the country knew before the crisis.

Bajnai’s worked by the book. "Most of the painful decisions were taken during the first 100 days of my government," Bajnai said. The measures included raising taxes, reducing benefits and welfare payments and raising the state pension eligibility age. Within six months, he managed to present a new budget, that reduced government spending by five percent. Bajnai only assumed office in April 2009 after a majority of parliamentarians had signed a declaration he had drafted, listing the most important changes he wanted to implement. The document contained "all the things you know you should have voted for a long time ago, but didn’t," he said laughing. He was able to remain blissfully unaware of party politics and the upcoming elections. "I could only be successful by keeping a long term view and not looking at opinion polls," Bajnai said.

It sounds like you where the executive director of a country that was practically run by the IMF.
"No," Bajnai sighed. "The lay out was done by us. The IMF was the jury, along with the EU, that decided whether our programme was sustainable and credible enough."

Were you free to spend more if you had wanted to?
"It was clear what Hungary had to do, even if it was not easy politically. The country was on the edge of the abyss. We had to avert bankruptcy or a depreciation of the Hungarian currency that would have left hundreds of thousands on the streets because they had foreign currency mortgages. Ten thousands of small and medium sized businesses would have gone bankrupt, and we would have had a serious banking problem. This required painful adjustments from the people. Our challenge was keeping things bearable while simultaneously creating better conditions for stable and sustainable development. We have accomplished that goal. Been there, done that, got the lousy T-shirt," is what Bajnai told his Greek colleague George Papandreou who recently visited to learn how to deal with scrutiny from both the EU and the IMF. "Confidence in the financial markets is like air. As long as it’s there you don’t realise how important it is. Once it becomes scarce, you start to choke," Bajnai said.

Bailouts by the international community have given both Hungary and Greece some room to breathe. Bajnai’s encouraging message to Papandreou was: if you use that time properly, the confidence will return. You have emphasised the similarities between your country and Greece, but there are also many differences between the two. Greece is a euro country and therefore cannot depreciate its currency or turn to the IMF that easily.
"A big difference is that Hungary still has its own currency, not the euro, and there are 1.7 million people who have outstanding debts denominated in foreign currencies. It was very tangible to the population of Hungary what the weakening of the currency meant. Their instalments went up by 10 to 20 percent in one month."

Did that ensure support for your reforms?
"Understanding. Support is probably a strong word in the case of Hungary. It was clear to a vast majority of the population this would be a very difficult and painful job, but that the alternative would be much worse than the austerity programme itself. This realisation is partially missing in Greece. To the man in the street, who doesn’t understand macro-economic data, these problems are not so evident."

The Greek crisis has brought the eurozone’s weak spots to light. Does Hungary still want to join?
"I am convinced Hungary should aim to join the eurozone as soon as possible. The euro provides a safety net, stability. Last year, Hungarian families learned the hard way how extremely exposed they are without it. The euro is a long term project. The euro has been a fundamental step towards establishing an efficient internal market. That we neglected to set up certain institutions when we established the euro doesn’t mean the euro project is wrong. It should not be stopped or reduced. It should be extended. Another lesson of the euro project: countries that join the euro without having the necessary competitive environment will suffer after introducing it, because they will lose one of their most important economic tools: the currency exchange rate. Therefore it only makes sense for us to join if we continue our structural reforms."

What would be a realistic timetable for Hungary to join the euro?
"That is up to the new government to decide. It would require self discipline and a social pact, but I think 2014 is possible. If we continue on the road we have already taken."

The two parties currently doing best in the polls are talking about raising government spending and renegotiating terms with the IMF.
"This is part of the election campaign, which features all kinds of big promises. In reality there is very little room to manoeuvre. Hungary is under both IMF and EU scrutiny. Most importantly, Hungary still has 1.7 million families with loans in foreign currency that have yet to be repaid. There has never been such a short distance between stupid political statements and the man on the street’s pockets. Before, it may have taken two, three, or even four years before a bad economic policy was felt. Now, it can be only a month before almost half of Hungarian families would start feeling that something has gone wrong, because of the currency."

Do you see a correlation between the country being under IMF scrutiny and the popularity of the extreme-right Jobbik party?
"No, I think that problem started much earlier. The IMF had little to do with it. Besides, the IMF programme is only a consequence of crisis the country ended up in because of this deep political division. That left Hungary paralysed for ten years."

You want the euro here by 2014. That is only four years from now. A short time for a country that has yet to mentally prepare for capitalism.
"It is still four years from now. Do not forget that Hungary was the leading economy of the region in the second half of the 1990s. We lost our lead to Poland, the Czech Republic and Slovakia, but I think the tide is turning. Perhaps it was because we had no choice, but still. Hungary has already done what any European government will have to do in the following years: reduce its staggering budget deficit. The European Commission has predicted that if the European countries continue the way they are they will have an average debt of 100 percent of GDP by 2014. We are at 78 percent now and going down. We can focus on stimulating growth. We paid a high price to obtain it, but right now, Hungary has the advantage."


$$$Dollar$$$ said...

China is going to be the next superpower though Ilargi. Neither Germany will be, nor will the US continue.

baroto said...

If this has been such a great strategy, one would think German exports would have increased as of lately. They have not(chart coming). They have been falling steadily. The demand for German exports from those "periphery" EU countries has fallen because of the downfall in their economies. I actually think the sooner Germany helps stabilize those countries and their economies, the sooner their economy(exports) would start growing again.

Greenpa said...

From the previous thread, particularly because of the prescient comment on "risk analysis" ("management")-

For those wishing to understand why people freeze in the headlights, often saying "ooo, look at the pretty light!" -

The comments are the most educational part; the vast majority are of the "oh, it's the same everywhere." type, breezily equating living in tornado country with living on top of the San Andreas.

Some use of "statistics" too, to prove that rare earthquakes are much less deadly than snakes- over time.

This is partly an offshoot of "risk analysis" - the new science developed by economists (you should be rolling of the floor for that one) to justify undertaking wildly profitable projects which are definitely going to kill many people- just probably not before they get their profits out.


And just think of the trillions to be made in scrapping out, and rebuilding, LA.

jal- :-)

Rumor - oh yeah? oh yeah? wanna make sumpinofit? hah?

sigh. Another childhood illusion shattered. Right up there with the carol about the round young virgin.

Greenpa said...

I would like to know WHO is buying all the homes in Vancouver. A relevant question. Greek millionaires? Hong Kong millionaires with huge family businesses in Mainland China? Dimwitted speculators? In choiring mines.

jal said...

The main stream medias are very busy with covering Tiger.

Its unbelievable at the amount of news, which you dug up, that is so much more more important which will affect our lives and yet is being totally ignored.

I love a strong $C for more reasons that I could list.
As a dumb primate, I love cheap bananas and I am willing to trade expensive oil for it.

Come back in a few years and I'll trade some hemp twine, cloth etc. so that I can get some shelter from the rain.

Ilargi said...

"If this has been such a great strategy, one would think German exports would have increased as of lately. They have not. They have been falling steadily.

Everybody's exports have been falling, and not just steadily either.

The demand for German exports from those "periphery" EU countries has fallen because of the downfall in their economies. I actually think the sooner Germany helps stabilize those countries and their economies, the sooner their economy (exports) would start growing again.

The lower the euro vs the dollar and yuan, the more they will buy German products. That's the Econ 101 point. Stabilize, and you lift the euro. Not good.


EconomicDisconnect said...

I agree this is a smart use of the tools available to help her country. It does put me in mind of Billy Conn when he fist fought Joe Louis for the title. Leading on all cards by an unbeatable margin, Conn tried to knock Lewis out and was KO'd himself. He said after:
"I had a lot to win for tonight and I tried to knock him out. Otherwise, I'd a won easy".

You can get too cute by half.

Brunswickian said...

B2s, you just don't have it.

Use lube.

Anonymous said...

your good, real good, inspector clouseau. may i call you clueso?
i thought you cracked this nut a while back, while you where writing and traveling in france? but i have a lot of senior moments lately.

EconomicDisconnect said...

My comment should read "First Fought" not "fist fought", it was the gloved era!

Sonoma potter said...

The relation between the stock market and treasury bond yields today was a good indication of what is in store for the market without the FED Q&E activity. In order to pump the market today treasury bonds sold off as the recent FED money flood was no longer available. While these back and forth money movements can try and maintain the 10 year below 4% and continue the market illusion above 10K sooner or later the stock market will take the hit for Uncle Sam.

Ric said...

Among other things (including interviewing Black Elk's family) I moved to Brazil, learned another language, and now work as a freelance translator.

What a beautiful story--you walked away from Omelas! A rare pilgrim.... My story is similar. All my friends were getting doctorates and their eyes went blank when they got them. As a youngster, I wasn't interested in getting a doctorate until I had completed my own research and finished writing a book on it. By the time I'd finished, I realized there wasn't a grad program on earth interested in what I was doing--so it was easy to drop out, as I'd never dropped in.

As far as the full-timers not being interested in part-timers for their faculty--this too struck me as another reason I didn't want to join their club. Because of a series of textbooks I'd written freelance in a field I had no interest in (to pay the bills) I was able to continue my own work. To my surprise, I found I was able to teach classes in a department that had nothing to do with what I was doing, which was great because I could pay the bills (living like a grad student), provide something the students had never conceived before, and continue doing real work with complete freedom. (Most academics believe they have turned a wrong corner somewhere--doctoral committees destroy people.)

Sometimes I wonder how people are so easily sucked into the system, but then it occurs to me that if my work had been recognized, I would have become a much bigger jerk than I am already am. ;-) So it works. My wife also has been a part-timer in her profession for the past 20 years and her experience is the same as mine--as part-timers we're treated better by management because they have no hold on us. We have more options, and a lightness of being most full-timers only dream about. I think people become "full-time professionals" because they've no idea who they are or how to live well--just my 2 cents. Being thrown out of the liferaft does not mean much because there are jobs elsewhere. As students, we don't need much--there will always be jobs, even if they don't pay. It's just another waystation till you reach the last one.

baroto said...

Weaker euro is definitely better for German exports. But you also need demand for those goods from within the euro zone. After all that's a big reason why the EU expended as much. I just don't see anybody "laughing all the way to the bank" after seeing all that demand disappear. That's why in my opinion it is in their best interest to "stabilize".

baroto said...

I am short the EUR and have been for a while. As you have pointed out I wouldn't be surprised if the EUR goes to parity with $. I just don't think its as positive for Germany or the EU as you do.

Erin Winthrope said...


With your post today, I sense a moderation in your tone with respect to the time frame in which the financial crisis will bring society to its knees. In previous posts, I generally came away with the impression that we'd see blood flowing in the streets of the developed world's cities within a year or so. Today, you suggest the European Union will be around for many more years. I realize these conditions (bloody social unrest and the existence of multi-national governing bodies)are not mutually exclusive; nevertheless, the tone of the commentary here doesn't seem consistent.

Ilargi said:
"So Berlin doesn't feel much pity if Greek borrowing costs rise. After all, they know they'll probably have to bail out the country anyway down the line, and they will, Germany won’t let the EU fail, or at least not for a long time."

My reply:
When you say long time, what time frame do you mean?

This notion that multi-national governing structures can be preserved for a long time is not consistent with the dire short-term predictions that you and Stoneleigh have made previously. Stoneleigh is on record predicting that Obama won't finish his term and that the S&P 500 will be at 100 (more than 90% lower) by the end of 2010. It is hard to imagine that a multi-national governing structure like the EU would still exist under those types of global economic and political conditions.

Could you clarify your vision for where Western society will be 1 year from today and 3 years from today. Do you think the EU will still exist 1 year from today or 3 years from today? One day your writing gives a very clear impression of absolute calamity in the very near term, and the next day your writing seems more sanguine. I find this shifting tone a bit jarring.

Unknown said...

I do not believe that Merkel has played some great well thought out long term strategy.

She has been dealt some cards like everyone else and has used those cards to the best of her advantage, which is pretty easy, one just needs a firm will.

What would be the point of creating such a strategy while knowing that Germany must bail out Greece, and by your logic Portugal, Spain, Ireland etc in the future?

So, by your reckoning Germany will continue to work hard, save money, continue exporting, but all those long hours and sacrifice will just be used to bail out the laggards.

Sorry Illargi, it just doesn't make sense, you're wrong to give too much credit to Merkel, she is hostage to events just as everyone else is.

Ilargi said...

"So, by your reckoning Germany will continue to work hard, save money, continue exporting, but all those long hours and sacrifice will just be used to bail out the laggards."

Obviously, that's not what I said, and it's futile at best to put words like that in my mouth.

Apparently, it's not easy to grasp how important exports are for all countries today, and for the main exporters in particular. It's the only money that comes without interest due, which will become far more of an issue going forward, something you need to prepare for now. Hence. the euro must come down.

Germany won't let the EU implode, but that's not the same as saying they're planning to foot the bill. Simon Johnson earlier this week stated that the US will have to jump in, for one thing because it's the US banks that are largely responsible for the Greek problems through their swaps programs. Count on Merkel to agree with him.


scandia said...

A friend and I have been discussing an article in to-day's Globe and Mail( Cdn) about the cover-up of abuse in the Cdn Catholic Church.
He sent the following limerick...
" There was a young pastor named Bings
Who would talk about God and such things
But his secret desire
Was a boy in the choir
With a bottom like jelly on springs."
lol...but the cover-up designed by the Vatican and the Cdn Church leadership is not so amusing...

Ilargi said...


We've been through that multiple times already, it's not like there's anything new in what you say.

Things would have gone as we said and when we said if not for the one factor that even Gerald Celente and his Trend Forecaster firm said could not have been foreseen. I'm talking about the utterly insane policy to try and hide all applicable corporate financial losses with an approximate $1 trillion per month in money borrowed on the full faith and credit of the American taxpayer.

We didn't think Washington was that crazy, and neither did Celente.

And because this policy continues to be executed to date and beyond, there's only one party left that can stop it: the bond markets. After all, the American people haven't stopped it so far, and are not likely to do so anytime soon. They are too happy believing the crisis is over to see we're only digging deeper.

A crucial factor is and will be that the US ultimately depends on foreign capital when it comes to selling its debt, if illegal purchases by the Fed and Treasury themselves are discounted for a moment.

The US will issue unprecedented record amounts of debt this year and next, and so will the rest of the world. The US can purchase its own debt through Wall Street banks as well, and it undoubtedly does, but somewhere sometime that will have to stop.

I think it's far more important and useful for us to report on what goes on behind the curtain than on what goes on in front of it. Everybody may be fascinated by the head-fake, But they should realize that it's their own money, and theirs alone, that props up stock markets, housing markets and the entire economy.

It would surprise me if this takes another 3 years, or even 1 year, but that doesn't mean the EU has to dissolve tomorrow morning, or the US. There'll just be a few poor countries in the one union, and states in the other. They will be the warning sign for what will come to us all: relentlessly rising interest rates. Can the Fed lend out your money to banks at 0.25%, who then lend it back to you at 6%, for all eternity? No, that can’t happen. But they’ll put in their best efforts, for sure. Who can resist free money?

Rumor said...

Oops, actual link is here.

Rumor said...

There is a good breakdown of the latest Canadian unemployment numbers available: in short, while U3* is trending slightly up lately, this masks a large transition from full-time to part-time employment - full-time positions are still falling off. The post goes into detail on regional breakdown. Long-term (6+ mos.) unemployment hasn't improved at all. So, not surprisingly, despite rebounding GDP and markets, employment is not improving. The high dollar is unlikely to help us in terms of exports, so that leaves the housing bubble and government spending as our major sources of GDP growth, I guess.

Anonymous said...

Bernanke and friends just bitch-slapped Angela Merkel. She better do something quick because the Euro is on a tear now that the IMF is talking a Greek bailout at SDR+300bp+50bp service fee (basically at 3.76% given SDR rate of 0.26% at the moment). That means the US taxpayer is going to bail out Greece, which should strengthen the Euro (and it went vertical a bit ago).

Bernanke and friends just hit a zinger and the ball is in Angela's court. Can she save? Jawboning now won't help her one bit. The last ace she has looks to be threatening to throw Greece out of the EMU. And yet Bernanke and pals know she can't do that without killing the Euro and throwing her back on the Deutsch Mark.

Time for Angela to get creative or fold.

P.S. China had a FAILED bond auction yesterday. The yuan is NOT going to strengthen against the Euro with that sort of nonsense going on. So China's in the game too.

jal said...

Rumor said...
"The high dollar is unlikely to help us in terms of exports, ..."

I would prefer to rephrase ...
"Increasing of exports is unlikely to occur, therefore, getting more $ for your exports is the only alternative. As a result a stronger $C is helpful in maintaining your lifestyle."

My example, a few days ago, was...

My barber is increasing the price of a haircut because of the decrease of customers and he does not want to change his lifestyle because of the drop of his income. Eventhough his customers are retirees on fixed income, he does not care if the retirees must change their lifestyle.
The result is that he forgot that he will lose more customers.

The customers have alternatives ... shave their own head, cut their own hair, or go to a cheaper competitor.

Now, those resource and oil producing nations can and will make adjustments which will be hard to do. (just like my barber)
However, the buying nations are going to have to do even more drastic cuts to their lifestyle, (just like me as a customer for my barber), they do not have an alternative to their oil needs and wants.


Ric said...

Sarah. Devoted feline companion of 22 years passed away this morning at 9:22 PST. Services at noon. Formal dress required.

Rumor said...

Good point, Jal.

Stoneleigh said...


Bernanke and friends just bitch-slapped Angela Merkel. She better do something quick because the Euro is on a tear now that the IMF is talking a Greek bailout at SDR+300bp+50bp service fee (basically at 3.76% given SDR rate of 0.26% at the moment). That means the US taxpayer is going to bail out Greece, which should strengthen the Euro (and it went vertical a bit ago).

Indeed the euro is likely to experience a significant counter-trend rally in its larger decline, while the dollar sees a consolidation in its larger rise. Such a move has been approaching for a while, as no market ever moves uniformly in one direction.

I do not think politicians or central bankers are in control of these fluctuations, for better or worse. While they may occasionally have influence, I would disagree that would ever amount to control.

IMO the Greek bailout will fail, albeit not necessarily immediately. I think the next phase of the decline will involve a wave of sovereign debt contagion, where countries are picked off one by one.

I do see this as a serious threat to the eurozone, but by no means only to them. I think the regional disparities in Europe are simply too large to maintain a single currency throughout the current block. I can see the eurozone shrinking significantly over the next few years as internal tensions increase.

Some parts of Europe will be thrust into abject poverty while other regions far much better. This is not a recipe for sociopolitical stability. Even within a single country such disparities can pose problems (eg the UK in the 1980s/90s, where the north-south divide was enormous). Where those same economic tensions are imposed on a cultural patchwork, where old grudges will flourish during hard times, the effects will be considerably magnified.

Stoneleigh said...


This is partly an offshoot of "risk analysis" - the new science developed by economists (you should be rolling of the floor for that one) to justify undertaking wildly profitable projects which are definitely going to kill many people- just probably not before they get their profits out.

Risk analysis is a field of particular interest to me, for very much the reasons you mention. You might be interested in this piece (from 1999)on eastern European nuclear reactors. The section on risk assessment begins on page 38.

Anonymous said...


@ Baroto
Concerning German exports, I suggest you see this:,1518,688011,00.html

Exports up 5.1% in February.


baroto said...


Yes, German exports were up 5.1% in Feb compared to Jan. I traded the data at 1am CT. Thx for the "pointed" critisizm :)

Stoneleigh said...

Ric and Umaperegrina,

I also walked away from academia. I found it stifling. There was far too much emphasis on received wisdom, and the publish or perish dynamic led to people having to crank out far too much low quality material without having the time to read or think.

I prefer to be independent and forward-looking, even if it means no salary, as it shortly will once my current job and I part company at the end of this month. I couldn't do both my day job and TAE, and I chose TAE. Now my 'job' will be writing, traveling round warning anyone who will listen, and trying to turn virtual communities into real ones.

Bigelow said...


It is a mystery to me why you posted that murderous picture of Lansbury. She was nowhere near the scene of the crime. As you will detect here she is in a much earlier role: Picture of Dorian Gray

scandia said...

@ sorry to hear about Sarah's passing...

@ Stoneleigh I admire you and your intentions! You have my support and, I hope, the support of many.

umaperegrina said...

Thank you for the response. Most interesting story, and I applaud your choices.

Stoneleigh (and Ric),
I feel just a bit wiser knowing the wise company I am in. Good luck with the "parting of the ways." I do not take lightly all that you and Ilargi contribute here at TAE.

Ric said...

I couldn't do both my day job and TAE, and I chose TAE.

Time for another donation.

Bigelow said...

“But stay clear of public debt at state and muni levels and Fed debt keep in T-bills --real short.”
A Quick Overview of Key Markets 4-7-10 Martin Armstrong

Erasmus said...

Stoneleigh can you weigh in on China, as was mentioned at the top, regarding the rule of law? How can China become a world super power without the rule of law and rampant, top to bottom corruption?

Erasmus said...

Stoneleigh what do you see happening to Spain in the relative scheme of things? Do you see Spain being among the impoverished nations in Europe? Italy?

Anonymous said...

"It is a mystery to me why you posted that murderous picture of Lansbury."

At around the pictured age she starred in a television drama called "Murder She Wrote", off which Ilargi riffed "Money, She Wrote."

"China is going to be the next superpower [...] nor will the US continue."

China isn't going to be a superpower in the 21st century - maybe later...

Their demographic, social, political, energy and agricultural situations are all aligned against such a move. Even now, with nukes and medium-range ICBMs, submarines and millions of people under arms, they still can't successfully invade Taiwan. (They could destroy it, but not take it.)

They have no blue-water navy, and their air force is absolutely helpless against the American F - 22 Raptor. These are GIANT problems for any nation which dares grasp for martial glory.

None of the above means that the PRC won't gain in relative military power, or that the U.S. won't experience relative decline - in fact, the latter is a given.

But China won't become a "superpower" in the foreseeable future. Instead, the world may return to a dynamic of multiple Great Powers, a pre-WW I type world, and China certainly seems destined to be one of those Great Powers.

Bigelow said...


Lansbury acted in that series for over twelve seasons before it was canceled. We used to joke that no one wants to come within arm’s length of Jessica Fletcher because they are likely to be murdered.

thethirdcoast said...

@ veryruffdahead:

Please recall that only 187 Raptors have been produced with no plans for follow-on or export production.

F-22 Raptor: Procurement and Events

"The RAND Corporation’s famous “Pacific Vision 08” study did echo Sprey and Stevenson regarding limited expectations for the performance of air-air missiles. That has implications for the ability of a small force to beat a large one, and its most telling point also traced back to the numbers equation. RAND’s Taiwan Strait scenario assumed perfect combat defense by the F-22s, and 100% kill ratios for every missile an F-22 launched. Assumptions that RAND itself acknowledges as wildly unrealistic, but which are used to make their central point: every F-22 still died, due to their limited numbers. The available Raptors on station ran out of missiles before the Chinese ran out of planes, whereupon the Chinese fighters simply shot down the aerial tankers that the F-22s needed, preventing the F-22s’ safe return to Guam."

Several of the technical criticisms the Raptor also bear weight, but I have errands to run.

Similar arguments apply to the idea that China is hamstrung by a non-competitive blue water navy. In today's world it is far more cost-effective to field quiet submarines and advanced anti-ship missiles, and all signs indicate our friends in Beijing are hard at work on developing both capabilities.

Ilargi said...

New post up.

The Dorothy Theory: Bonds run amok


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