Bailed out with what!

"The Federal Reserve System was the crucial anomaly at the very core of representative democracy, an uncomfortable contradiction with the civic mythology of self-government."

This is what William Greider wrote in the first chapter of his book 'Secrets of the Temple - how the Federal Reserve runs the country." His book arrived yesterday in the mail. Here's a quick summary - and my extrapolation from - the first 6 pages.

The western capitalist system depends on 'deeper transactions' than elections. Central banks are inconsistent with representative forms of government. They are, in fact, more powerful than elected governments because they possess the power to answer the main questions of political economy - who shall fail and who shall prosper. Central banks are both directors of the private economy and the protector of the most powerful players within it.

The co-emergence of concentrated political and economic power in the hands of the modern global corporation has meant that these entities have been able to accumulate profits at a greater rate than the development of wealth on the planet. As a result, inflation became a permanent feature of the world economy. If the central banks had implemented policy to put the breaks on this dangerous development it would have worked against the narrow self-interest of these multinationals. Inflation was, instead, addressed by increasing dangerous forms of 'productivity'. Forests were no longer given time to regenerate. People in third world nations (in particular) were forcibly evicted from their lands and conscripted into low-wage manufacture for TNCs. Environmental regulation was dismantled and dangerous forms of industrial agriculture were expanded everywhere. Wages were kept low across the globe.

Profits for the global corporation continued to expand at an even faster rate and now exceeded any relation to real wealth. It became truly fictional. Having brought the planet beyond the brink of reversible climate change and increasing impoverishment of humanity everywhere there is now very few places left to 'invest'.

The role of the US Fed had been to ensure that debtors would be rewarded over savers because such action was the corollary of ensuring the profits continued to flow to big business.

In 2008 the debtors can no longer pay their installments. It should be game over but the global corporations want to be bailed out yet again. Bailed out with what?!

Term Auction Facility - TAF

[Readers' comments would be most helpful here. I'm not at all sure whether I've missed detail or misrepresented some facts relating to the Term Auction Facility. Here's what I've pieced together today.]

The Term Auction Facility is an emergency provision implemented by the US Federal Reserve last December to address the freezing up of interbank lending during the so-called 'credit crisis'. The banks weren't - and aren't - using the existing 'discount window', which is the emergency facility traditionally provided. This was happening even after the Fed had dropped the rate charged. There was a lack of liquidity and something had to be done quickly.

"Lenders [were] hoarding cash and shunning their peers as if they were all lepers." [1] Banks had failed to mark their securities to market and there didn't appear to be any practical way to assess the real value of their assets and liabilities. Suspicions were very high after many years of unregulated/deregulated and lax lending practices. At that stage it appeared that all the good collateral of the banks had been pledged and what was left to lend against wasn't worth having.

"In the Federal Funds market the Fed, along with the Bank of Canada, Bank of England, the European Central Bank and the Swiss National Bank, decided to implement a new monetary instrument.... This program, known in the US as the Term Auction Facility, enables the Fed to auction a set amount of funds to depository institutions, against a wide range of collateral."[2] The financial press reassured the public that the 'collateral' was of good quality and had triple A ratings from respectable firms such as Standard and Poors and Moodys. The trouble was that the rating agencies themselves had given over to the free-for-all spirit and their standards had plummeted also.

In the middle of February this year - for the first time ever - "the banking system showed negative net non-borrowed reserves" in the US [3]. The banks were exploiting the Term Auction Facility as much as they could for a range of reasons. This was a sign of continuing distress in the financial market. The funding was cheaper than elsewhere provided. There were continuing difficulties raising funds from other sources. The collateral problems were bad and appeared to be getting worse under this new program. The bankers' greater reliance on government support resulted in the central banks increasing the amount of money they were using to fund the facility to the tune of hundreds of billions of dollars. The system lacks transparency. The public don't know who submitted the collateral. The banks are distorting their behaviour; they appear to have long begun to create Residential Mortgage-Backed Securities "and keeping them on the banks books as a quick way, in another liquidity squeeze like August [2007], to access ECB/FED liquidity." [4]

The trouble is that the assets involved in these auctions have still not been appropriately valued. The solvency of the institutions involved is unknown. The true situation appears to be coming to light only after the bank is formally declared bankrupt. The public are left liable and extremely vulnerable as the Fed and other central banks accrue more and more worthless or low-value collateral.

Last night the US Fed announced that TAF "will expand by $300 billion to $450 billion." [5] Under the circumstances described above this is, in effect, a massive bailout of these institutions by stealth.


“If all the bank loans were paid up, no one would have a bank deposit, and there would not be a dollar of currency or coin in circulation. This is a staggering thought. We are completely dependent on the commercial banks for our money. Someone has to borrow every dollar we have in circulation, cash or credit. If the banks create ample synthetic money, we are prosperous; if not, we starve. We are absolutely without a permanent money system. When one gets a complete grasp upon the picture, the tragic absurdity of our hopeless position is almost incredible - but there it is. It (the banking problem) is the most important subject intelligent persons can investigate and reflect upon. It is so important that our present civilization may collapse unless it is widely understood and the defects remedied very soon.” - Robert H. Hemphill, Credit Manager of the Federal Reserve Bank of Atlanta



[1] Crisis may make 1929 look a 'walk in the park'. By Ambrose Evans-Pritchard. Last Updated: 11:02pm GMT 23/12/2007. http://www.telegraph.co.uk

[2] Term auction facility
From Wikipedia, on 29th September 2008
http://en.wikipedia.org/wiki/Term_auction_facility

[3] Term Auction Facility: Confirmation of Financial Stress? Tuesday, February 19, 2008. http://www.nakedcapitalism.com/2008/02/term-auction-facility-confirmation-of.html

[4] [3] A resonder to 'Term Auction Facility: Confirmation of Financial Stress?' Naked Capitalism. Tuesday, February 19, 2008. http://www.nakedcapitalism.com/2008/02/term-auction-facility-confirmation-of.html

[5] Fed Pumps Further $630 Billion Into Financial System (Update2)
By Scott Lanman and Craig Torres. 29th September 2008
http://www.bloomberg.com/apps/news?pid=20601087&sid=ahwz_k5JvuB8&refer=home

Crisis Commentary: Second Installment

I just posted the second installment on my crisis commentary. Again, I would appreciate any comments, since it still needs more work.

Thanks.

http://michaelperelman.wordpress.com/2008/09/30/crisis-commentary-second-installment/

What was it about 1995 and the US Federal Reserve?

1990 – 1992 era. The changes began then that led to the elimination of the reserve requirement.

1992 The Fed Reserve ratios were lowered.

1995 – The US Federal Reserve effectively eliminated the fractional reserve ratio. Banks were no longer required to back assets that largely corresponded with “broad money” (M3) with cash reserves. The consequence was that banks could effectively create money without limitation. From early 1994 to late 1996, most of the remaining reserve deposits disappeared. "This transformation of banking practices seems to have started small, but really picked up steam by 1996 and 1997, likely due to competitive pressures among banks; those banks that used these methods could easily out-compete those that did not."[1]

1995 – US Fed and other central banks printing money like confetti….It is reasonable to suppose that such a gigantic increase in money supply would produce price rises in assets, housing and commodities BUT consumer price inflation remained under control. Why? Rapid growth of India and China (source of cheap labour)? Internet and telecommunications revolution rapidly improved the cost structures of existing products? Labour-free productivity of manufacturing. The stepping up of the rate of environmental rape (mining of raw materials and forests) associated with industrial production? The WTO established.

1995 Dow First close above 5000. Stock Market Keynesianism. Never before had a US economic expansion become so dependent on the ascent of the stockmarket.

Mid 1990s – the collapse of the First Italian Republic. It involved large-scale criminal influence in government and originated as an American parapolitical operation.

1995 – 1999 – The vice president of the Bank of New York sets up illegal accounts to facilitate the movement of funds into and out of Russia. Her crimes of money laundering did not result in a sentencing for her.

1995 – 2001 – the dot com speculative bubble.

1990 – 2005 – doubling of the global workforce

1995 – 2005 – about 3.2 million US homeowners bought houses on the basis of subprime mortgages or similar credit terms

1995 – 2005 Global ‘Savings’?? Glut. “..a remarkable reversal in the flows of credit to developing and emerging-market economies, a shift that has transformed those economies from borrowers on international capital markets to large net lenders…” (Ben Bernanke in 2005)

[1] What (Really) Happened in 1995? How the Greenspan Fed Screwed Up in the Mid-90s and set the stage for the Greatest Financial Bubble in the History of the World. By Aaron Krowne

Also see: ‘Made in U.S.A. 1995’ by Eric Janszen. March 22, 2006
http://www.itulip.com/forums/showthread.php?p=1495

Bailout can WORSEN things: top US budget director.

The Washington Post reported the following a few days ago.

A financial bailout could worsen the crisis, be insufficient to restore trust and cost ‘a few’ billion dollars a year to administer said Peter R Orszag, US Congressional Budget Office Director, in his testimony before the House Budget Committee. The key question he said what “What are we buying and what are we paying for it?" Orszag feared that the bailout as it stands might reveal that the large financial corporations are inflating prices of assets on their books. “Suppose a company has Asset X, whose value is recorded on the books as $100. Because of the current economic decline, Asset X's real value has dropped to $50. If the company takes part in the government bailout and sells Asset X for $50, the company has to report a $50 loss on its books. On a scale of millions of dollars, such write-downs could ruin a company.” Such corporations "look solvent today only because it's kind of hidden” [but they] “actually are insolvent".

Here's what I don't understand: Because short-term lending by the banks had almost completely shut down Treasury is acting as a go-between in short-term lending between banks. "Instead of Bank A lending directly to Bank B, as is customary, Bank A [purportedly] no longer had confidence that Bank B could repay the loan. So Bank A would give the money to the Treasury, which issued a security that was put into the Federal Reserve, which then issued the cash to Bank B." [That action implies that the US Government is already guaranteeing the debt of insolvent firms; already bailing them out. Is that correct?]

Bailout Could Deepen Crisis, CBO Chief Says
Asset Sales May Lead to Write-Downs, Insolvencies, Orszag Tells Congress
By Frank Ahrens, Washington Post Staff Writer. Thursday, September 25, 2008; D04
http://www.washingtonpost.com/wp-dyn/content/article/2008/09/24/AR2008092402799_pf.html

How to afford a new pair of trousers

No need to scrimp when money is short. Just grab a piece of grandma's quilt, cut out a rectangle, double it over and sew up the seams. Viola! A new pair of trousers.



Takes about half an hour on the sewing machine.

Debate Post-Mortem: The Limits of Framelessness

Both McCain and Obama are effectively running against Bush, but neither is able to frame his argument in a coherent way. That is, we have criticisms of this policy or that one, but no general position that ties them together and makes them look like anything more than random corrections. McCain’s problem is obvious—he’s really running against his party (the “maverick” trope)—but what about Obama?

Republicans have put forward different frames over recent years, but two are central to actual policy: free-market economics and the unrestricted, hegemonic use of police and military power (“standing tall”, “keeping us safe”). You could say that the current financial crisis blows away the first and that Iraq discredited the second. So this is an opportunity for the Democrats to engage in a little frame replacement to their own advantage. Instead, what do we get?



Obama talks about the Iraq disaster in an apolitical fashion, as a simple error in judgment. As one who saw through the bs from the beginning, he claims to have superior judgment compared to someone like McCain. What’s missing, however, is how his rejection of Bush’s war reflects a broader position on military and foreign policy. No doubt he is afraid of being labeled “soft”, and this explains his reckless belligerence regarding Pakistan. Yet it would not be very difficult to construct a politically saleable alternative to the shoot’em up philosophy of Bush/McCain.

You’d think he would do better on the economic side. The lessons of the financial mess are straightforward and lend themselves to a reframing of the public role in directing the economy. Still, Obama goes only halfway. He talks repeatedly of the “failed philosophy of the last eight years”, but he says nothing about what the new philosophy should be.

A failure to frame is politically disabling on multiple levels. It cedes too much of the political turf from the outset, and does nothing to predispose the voters to support you. It means that every policy initiative has to start from zero, with no ideological headstart. Above all, it represents an abandonment of the leadership role of politics, the struggle to change the political center of gravity. If one side hammers relentlessly on its frames and the other talks about competence and judgment—well, we know what you get.

There is no evidence at this point that the Democrats are prepared to conduct a political fight in broad daylight to change the direction of this country.

The Bailout and the Deficit Recycling Loop

I’ve been thinking mostly about the global portion of the loop—how the dollars we send abroad on the current account (and now, just a bit, on net private capital outflows) are returned to us—and its operation under the Paulson plan. The Fed/Treasury team is proposing to allow this recycling to proceed under an asset cleansing program: the Fed removes the bad assets from our creditors’ portfolios while the Treasury replaces them with nice, reliable T-bills. (Metaphor: TARP as a giant mollusk in the sea of finance.) So far so good.

But this is only part of the picture. The other part is the domestic sector. Our current account deficit says that, as a country, we consume about 6% more than we produce, where “consume” in this context means total demand and not just the household piece of it. So the recycling process has to actually get the money into the hands of those who will spend it. This means credit expansion of some form. To be more specific, capital spending is very weak at present, and households are now holding up the tent. They have been borrowing against largely fictitious real estate equity and, to a lesser extent, running up credit cards and drawing down savings. If the popping of the housing bubble and the retrenchment of consumer credit mean that these channels are no longer available, how do we keep the engines running?

Basically, there are two channels still open: fiscal deficits and further drawdowns of savings. In the case of the former, it is important to be able to identify how the deficits will enter the spending stream. I worry that much of the eleven-figure disbursement will simply keep financial institutions, now highly risk-averse, afloat. This maintains existing wealth for the small minority that holds most of it, but it doesn’t translate into effective demand. And eating up savings can go only so far. Say what you want, the asset bubble(s) promulgated by earlier rounds of recycling at least propped up domestic spending. I worry that, even if the bailout keeps the global loop in operation, it will not be able to reconnect it to the domestic loop. The result will be a monster recession.

“Something suspe[ct] ... uhhh, SUBSTANTIAL, must be done."

(Quote from President George Bush this week.[1])

Non-financial blue chip corporations are having difficulties raising money in the commercial paper market, along with their financial counterparts. They are now borrowing from banks at higher rates. Of course, many banks have high levels of investment in these same corporations and this suggests that, in reality, corporations outside of the large global conglomerates are the ones left without any real defence.

Interbank lending has shut down. Oligopoly banks with interlocking directorates and interlocking ownerships with the big 500 are not trading with each other. Are they also refusing to trade with their own global financial subsidiaries? If the latter statement is true the irony is stark, along with the economic repercussions. Intracorporate trade now makes up such a huge percentage of global economic transactions and this fact makes the unfolding crisis without modern historical precedent.[2]

Privately-owned central banks and public treasury officials have not been prepared to seize and shut down insolvent firms. The emphasis has been on financial bailouts rather than control of the outcome. It’s a panic and the risk has increased. Large private lenders with significant control in the overnight market are demanding higher compensation. (A billion dollars lent overnight at the US Fed rate (2%) yields only about $55,000, an amount deemed insufficient in today’s risky environment)[3].

In 1930 the private central banks increased the monetary base but with these same banks being insolvent and funds being withdrawn by worried depositors, money supply contracted regardless. ($16 billion was withdrawn from WaMu before it went down, according to Bloomberg [4].) What percentage of deposits went out of the banking system? How much was converted to cash and gold and how much was capital flight? What research has been done on this?

The determinants of how the crisis plays out go beyond the actions of financial and political authorities. Investor and consumer action will shape its evolution as well.


If central banks (i.e. the conglomerate of major private banking firms accessing taxpayer funds) continue to lend below-market rate (to themselves) the taxpayer will remain the only source of capital.

The taxpayer needs to insist that their lending is backed up by equity in these ‘private’ firms and be prepared shut them down quickly if they are now insolvent. The transition from publicly-funded ‘private’ banks to publicly-funded ‘public’ banks is not a big one.

[1] As cited by Juan Falcone on Naked Capitalism's "Europe Opens Ugly" as published on 26th September 2008.

[2] "Giant multinational corporations dominate the area of international exchange and a very large share of world ‘trade’ is actually between branches of these same corporations. In North America trade associated with U.S. parent multinationals or their foreign affiliates accounted for 54 percent of U.S. exports of goods and 36 percent of imports.[2] Forty percent of trade between the US and Canada in 1998 was intra-corporate.[3]. “Forty percent of the US-Europe trade is between parent firms and their affiliates, and in respect of Japan and Europe, it is 55 per cent; with regard to US-Japan trade, it is 80 %.”
From 'General Concept of Transfer Pricing'.By Khurram Khan. [t-price.pdf]
http://www.hmaconsultants.com/pdf/t-price.pdf
As cited in 'It's not international trade. Don't be fooled', Brenda Rosser. 24th July 2008

[3] Juan Falcone on Naked Capitalism's "Europe Opens Ugly" as published on 26th September 2008.

[4] Juan Falcone on Naked Capitalism's "Europe Opens Ugly" as published on 26th September 2008.

Why has interbank lending shut down?

3 reasons. Are there more?

(i) Banks are terrified of not getting their money back due to bankruptcy and not being able to access funds if they need them.

(ii) Why borrow and lend to your fellow banks if you can get plenty of cheap funding from your central bank.

(iii) Lending is dead because interest rates are too low to reflect 11% inflation and the existing default risk.

HUSTLER

by the Sandwichman

Wikipedia: Hustling is the deceptive act of disguising one's skill in a sport or game with the intent of luring someone of probably lesser skill into gambling (or gambling for higher than current stakes) with the hustler, as a form of confidence trick.... A skilled hustler may pretend to be intoxicated, unintelligent, or otherwise impaired (that is, until it is time to run the table or make a game-winning shot).

What if Governor Palin has been coached to deliberately low-ball her interview performances with Charlie Gibson and Katie Couric so that she can pull a stunning reversal during the vice-presidential debate and come off as (comparatively) sharp, knowledgeable and articulate?

Bets?

George Bush solves the immigration crisis

Give George Bush credit. He is managing to shut down the flow of illegal immigration. Of course, he did it by trashing the economy, but now people are not as enthusiastic about coming to work in the United States.

The Financial Crisis Goes Beyond Finance

I just dashed off the first draft of a discussion of the financial crisis to be published in a South Asian publication. It is very preliminary. I could appreciate any pointers. Thanks.

Financial-Crisis

Is the bailout for China?

A RUMOUR: Chinese regulators have told domestic banks to stop interbank lending to U.S. financial institutions to prevent possible losses during the financial crisis. [1] There's talk that Chinese authorities have since denied this claim.

China is worried about the default risk on its loans to the US. The nation is also losing on the principal value of its borrowings to the US because of the steady revaluation of the Yuan. (This revaluation has been done, whether justified or not, as a result of pressure from the US).

The Paulson plan is expected to inject $700 billion into (private) banks. This financial capital is then expected to be used by (for profit) banks to create up to 14 trillion dollars credit to buy the quantity of extra treasuries that will go onto the market. I don't see why a nationalised bank can't perform this function?

Some leading financial authorities in China want the Asian nations to agree to refrain from panic selling of US treasury securities in order to prevent a free-fall in their value. Such an agreement is unlikely given the history of wars and antagonism between the various nations.

Whatever the outcome of this immediate saga it is almost certain (IMHO) that China's 'export-growth strategy' will come to an end. That will be a day for the forests and planet earth to celebrate!

[1] http://www.reuters.com/article/companyNewsAndPR/idUSPEK16693720080925

Crazy Like Foxes

Now it all makes sense. From the incomparable Josh Marshall:

Saving Sarah!

These guys are just digging into such depths of nonsense and desperation that pretty soon they're going to pop out in China, which will be helpful since they can ask the Chinese for the trillion dollars it'll take to bail out McCain's pals on Wall Street for the mess his economics advisor Phil Gramm made possible. Here's the latest attempt to exploit the financial market crisis for political ends (from CNN)...

McCain supporter Sen. Lindsey Graham tells CNN the McCain campaign is proposing to the Presidential Debate Commission and the Obama camp that if there's no bailout deal by Friday, the first presidential debate should take the place of the VP debate, currently scheduled for next Thursday, October 2 in St. Louis.

So we need to put the country first and cancel the vice presidential debate.