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Bernanke and Paulson turn
to G-7 for ideas to stem global financial meltdown
Mike Whitney
Online
Journal
Wednesday, April 9, 2008
In a recent interview with the New York Times, former Secretary
of the Treasury Paul O' Neill, was asked how the problems with
subprime mortgages could lead to a financial crisis of global
proportions. O' Neill said, “If you have 10 bottles of water,
and one bottle has poison in it, and you don't know which one,
you probably won’t drink out of any of the 10 bottles; that’s
basically what we’ve got here.”
Bull's-eye. O' Neill's answer is the best yet for explaining
a complex situation in simple terms. The term “subprime”
is a red herring; it is used by the media to minimize what is
really going on. The meltdown in financing extends across the
entire range of mortgage-security products. No loan type has been
spared. The wholesale market for anything connected to mortgages
is frozen and the details are being intentionally withheld from
the public.
Two years ago, more than 65 percent of all mortgages were converted
into securities and sold off to Wall Street. No more. That scam
unraveled in July when two Bear Stearns' hedge funds blew up and
there were no takers for billions of dollars of mortgage-backed
junk. Since then, bankers and hedge fund managers have been scrambling
to conceal the facts about what mortgage-backed securities (MBS)
are really worth: nothing. The fear is that when the public finds
out what is really going on, they'll draw the logical conclusion
that the banking system is insolvent, which it probably is. Just
look at these eye-popping losses which appeared in Bloomberg News
on April 1 The financial ship is listing, and the corporate media
is doing its best to keep the public in the dark.
(Article continues below)
So for the last eight months, a simple matter of “price
discovery” on publicly traded securities has been a nonstop
game of hide-and-seek. That's no way to run a free market. The
recent collapses of Bear Stearns and Carlye Capital are just the
latest additions to this ongoing farce. Carlyle was a $22 billion
hedge fund that couldn't scrape together a measly $400 billion
to meet a margin call. Why? Every analyst who wrote on the topic
noted that the fund was loaded up with high-quality Triple-A and
GSE (Fannie Mae) bonds. So what were they offered for their MBS?
That question was never answered because Fed chief Ben Bernanke
rode to the rescue and created a new $200 billion auction facility
and -- whoosh -- Carlyle's mortgage-backed junk disappeared down
a black hole. How convenient; another Fed bailout to hide the
damning evidence that trillions of dollars of MBSs are utterly
worthless and devouring the financial system from the inside out.
Bernanke's myriad auction facilities (four, so far) are ostensibly
designed to remove these mortgage-backed stinkers from the banks'
balance sheets so they can start lending again. But there's another
reason, too. The Fed thinks they can simply put these MBSs in
cold storage for a while and then re-thaw them when the market
bounces back. But the market for MBSs won't bounce back. This
is the biggest housing bust in US history and prices have a long
way to go. Who is going to invest in mortgage-backed bonds when
the underlying asset is losing value every day? Besides, as Paul
O' Neill points out; one of the bottles contains poison and investors
don't like poison. So, Bernanke is stuck trying to treat the symptoms
rather than the disease. As a scholar of the Great Depression,
he's been rifling through his bag of tricks to mitigate the damage,
but without success. The rate cuts and auction facilities have
been a complete flop. The situation is worse now than it was in
July, much worse.
In fact, the deleveraging of financial institutions is accelerating
at a pace that no one expected, threatening some of Wall Streets'
biggest players and putting $500 trillion in counterparty agreements
at risk. And it all began with eliminating the basic standards
for issuing loans to credit-worthy applicants -- the straw that
broke the camel's back. Now the whole system is crumbling and
an ominous sense of doom pervades trading floors across the planet.
Everyone is just waiting for the next shoe to drop.
Pimco's Bill Gross said, “What we are seeing is the collapse
of the modern day banking system.” American-style capitalism
is in crisis mode and the outcome is far from certain. The Fed's
interventions show that the long held belief that markets are
self-correcting has vanished. Laissez-faire is out; regulation
is in.
Bloomberg News summed it up like this: “It is no coincidence
that the crisis of 2007 and 2008 had its origin in unregulated
financial products traded in unregulated markets. Ever since the
Great Depression, the government has tried to limit the leverage
available to the public in the American stock market. But regulators,
led by Alan Greenspan, the former chairman of the Federal Reserve,
thought it would hamper innovation, and drive financial activity
overseas, if there were any attempts to impose limits on leverage
in the unregulated markets.
"To avoid a super-bubble in the future, [the] banks must
control their own borrowing. They must also curtail lending to
clients such as hedge funds by demanding greater collateral and
margin requirements on loans.” [Bloomberg News]
In Henry Liu's latest article in Asia Times, “A Panic-stricken
Federal Reserve,” Liu makes this observation on the Fed's
auction facilities, which provide hundreds of billions of dollars
in 28-day loans in exchange for dubious mortgage-backed collateral:
"Since the Fed cannot retire loans made via TAF and its repo
program without adding to those 'elevated pressures', the loans
should be considered an equity infusion, because they’ll
be repaid at the convenience of the borrower rather than on a
schedule agreed with the lender." What Waldman did not say
was that the Fed had ventured into a broad nationalization of
the prime dealers on Wall Street by being an equity investor.
[Quote, Steve Randy Waldman of Interfluidity; Henry Liu, “A
Panic-stricken Federal Reserve”]
Does the Fed realize that it is effectively monetizing the debt
by issuing loans that may not be repaid or is this just a clever
way to trick foreign investors into believing that the Fed won't
print its way out of a crisis? The bottom line is, whether the
nation is headed into a deflationary spiral or not, all the Fed's
tools are inflationary. Rate cuts, auction facilities or covert
monetization all weaken the currency and levy an unfair tax on
savers and people on fixed incomes. Unfortunately, these people
have no voice in government, so we can't expect their interests
to be fairly represented.
Since housing peaked in 2005, 240 independently-owned mortgage
lenders have filed for bankruptcy. Wholesale funding sources have
dried up and foreclosures are on the rise. Now, more than 75 percent
of mortgages are funded by Fannie Mae or Freddie Mac while another
10 percent are underwritten by FHA. The real estate industry has
been nationalized, another knock-on effect of Greenspan's low
interest monetary policy.
Presently, the Fed and Secretary of the Treasury Henry Paulson
are pushing to expand Fannie's and Freddie's balance sheets so
they can absorb bigger and riskier mortgages. This is lunacy.
Fannie Mae is already perilously undercapitalized and, if it defaults,
taxpayers will be on the hook for $2.2 trillion. That doesn't
seem to bother Paulson who is determined to reflate the equity
bubble so the profits keep rolling in to Wall Street's coffers.
Still, even if the plan goes forward, it's unlikely that Paulson
and Bernanke will be able to re-energize the real estate market
or ignite another housing boom. Public attitudes have changed
dramatically in the last few months. The myth that “housing
prices never go down” has been dispelled and high levels
of personal debt have forced many to reassess their spending priorities.
The American consumer has never been so over-extended.
According to Bloomberg, "Consumers fell behind on car, credit-card
and home-equity loans at the highest level in 15 years, another
sign the U.S. economy is slowing, according to the American Bankers
Association's quarterly survey. Payments at least 30 days past
due increased across all eight categories of loans tracked during
the fourth quarter, the Washington-based group said today in a
statement. Late loans in the quarter climbed 21 basis points to
2.65 percent of all accounts in a consumer-loan index created
by the group."
The American consumer is tapped-out. What he needs is a raise,
not another loan. Bush's $300-600 per person Stimulus Package
will do nothing to reverse the effects of 30 years of anti-labor
legislation and class-oriented monetary policy.
Another indication that attitudes towards spending have changed,
showed up in a survey conducted two weeks ago by USA Today/Gallup.
The poll released showed that 76 percent of Americans believe
that the country is now in recession and 59 percent think the
US will slide into a depression that will last for several years.
Despite the media's attempts to convince us that these are “the
best of times,” the public knows otherwise. Their pessimism
is expressing itself through curtailed spending. There's nothing
the Fed can do to change the prevailing mood of the country. Working
people are hurting. The spending spree is over.
The housing market will be dead for a generation. (Comparative
studies show the housing slump will last eight to 10 years) That
means the MBS market will falter and the multi-trillion dollar
derivatives monolith will continue to unwind. It will take emergency
measures to address the credit avalanche which is just now hitting
the broader economy.
The Bear Stearns bailout is a prime example of the extent to
which the Fed is willing to go to stop a meltdown. By approving
the $30 billion dollar deal with JP Morgan, the Fed arbitrarily
went beyond its mandate of providing liquidity to the markets
and usurped Congress' authority to appropriate funds. It was a
power-grab engineered under shaky pretenses. The Fed isn't authorized
to prevent privately-owned businesses that are recklessly leveraged
at 30 to 1 from defaulting. More importantly, the Federal Reserve
is not Congress, although they have now assumed those constitutional
duties. Speaker of the House Pelosi has said nothing so far.
Paulson has used the Bear fiasco as a platform for his blueprint
for “broad market reforms,” a 200-plus page document
that removes Congress from its role of overseeing the financial
markets.
According to the New York Times: “President Bush was preparing
to issue an executive order soon to expand the membership and
reach of an interagency committee called the President’s
Working Group on Financial Markets [aka; The Plunge Protection
Team]. The group was created after the stock market plummeted
in 1987. The group is also expected to consider ways to broaden
the authority of the Federal Reserve to lend money to nonbanks
as needs arise. [Ed. note: To authorize more Bear Stearns type
bailouts without consulting Congress] . . . Elements of the plan
are clearly deregulatory. The plan proposes, for instance, to
reduce the enforcement authority of the S.E.C. in a variety of
ways and hand that authority instead to industry groups. The plan
recommends that investment advisers no longer be directly regulated
by the commission, but instead be supervised by an industry regulatory
organization.
"'The Treasury Department’s blueprint is designed
to boost Wall Street’s competitiveness, not Main Street
investor protection,' said Karen Tyler, president of the North
American Securities Administrators Association and the securities
commissioner of North Dakota.” [New York Times]
Congress is being muscled out of financial market supervision
by a troop of venal banksters and corporate picaroons who are
threatening to finish off the already defanged SEC. That will
put the Fed in the driver's seat for good. Paulson wants to police
the world's most complex markets on the “honor system.”
It's crazy. His blueprint is an obvious attempt to consolidate
market-related functions under a central authority that is accountable
to private industry alone. That way, the Fed can bailout whomever
it chooses without congressional approval. Paulson's press conference
was just a polite way of informing the American people that the
seat of power has shifted from Washington to Wall Street. It's
a banker's coup.
So, where do we go from here? Pimco's Bill Gross gives us some
indication in this recent quote: "In my opinion, the private
credit markets have forfeited their privileged right to operate
relatively autonomously because of incompetence, excessive greed,
and in minor instances, fraudulent activities. As a result, the
deflating private market’s balance sheet is being re-nationalized
in some cases with increased regulation, in others with outright
guarantees and agency lending. Ultimately government programs
which support private credit market assets may be required in
order to prevent an asset deflation of significant proportions.
Authorities must act quickly, with a shot of adrenalin straight
to the heart of the problem: home prices. Since homes are the
most highly levered and monetarily significant asset that American
consumers own, if they decline much further they will drag the
rest of the economy with them."
“Re-nationalized,” is that what it is? No one authorized
the Fed or Paulson to re-nationalize anything. These overleveraged
banking behemoths need to fail. Let the market work. Twenty-eight
million Americans are on food stamps; tent cities are sprouting
up across the country; discretionary spending is down; food and
energy prices are skyrocketing, and wages have been frozen for
a generation. Where's the bailout for the working man? Instead,
the government's largess is showered on a throng of unctuous fat-cat
banksters so they can keep the larder on Martha's Vineyard topped
off with Godiva truffles and Cuban cigars. Paulson has to go.
Bernanke too.
An article in last week's New York Times, “Leveraged Planet,”
provides a great description of the Fed's activities during the
weekend of the Bear Stearns fiasco. Journalist Andrew Sorkin recreates
the frantic phone calls and panicky deal making that went on behind
the scenes while the stock market was preparing for a Monday morning
blowout: “Just before JP Morgan-Chase announced its initial
$2-a-share deal to buy Bear Stearns, Ben Bernanke, the chairman
of the Federal Reserve, held an extraordinary impromptu conference
call. The participants on the Sunday night call, who got a preview
of the deal, were Wall Street’s biggest power brokers: Lloyd
Blankfein of Goldman Sachs dialed in from home. John Mack of Morgan
Stanley rushed to the office to listen on speakerphone. Richard
Fuld of Lehmann Brothers, who had been directed to return home
from a business trip in New Delhi by none other than Henry Paulson,
the Treasury secretary, was patched in, too, among others.
"The half-hour call was a rallying cry for support of Bear
Stearns -- and more broadly, the financial markets, which, as
it was described on the call, were on the verge of a major meltdown
if not for the preemptive steps that the Fed and JP Morgan took.
'It was much worse than anyone realized; the markets were on the
precipice of a real crisis,' said one participant. Given that
Bear held trading contracts with an outstanding value of $2.5
trillion with firms around the world, 'we were talking about the
possibility of a global run on the bank.'” [Andrew Sorkin,
“Leveraged Planet” New York Times]
Typical of the Times, the reader is left feeling that the wild
and destabilizing activities of one unregulated market participant,
like Bear, is as natural as a spring rain. There's not the slightest
hint that Bear's transgressions may have emerged from years of
kicking down regulatory doors and feeding campaign contributions
into a corrupt political system. That's way beyond the Times'
range of analysis. Instead, the heroes of this financial kabuki
are none other than the ashen-faced palatines at the Fed and the
Treasury, who deftly donned their Hazmat suits long enough to
battle the flames of the banking inferno with a stream of taxpayer
money. So much for moral hazard.
If Bear had been properly policed, it would have been better
capitalized with considerably less leverage. Its $2.5 trillion
of derivatives contracts would have been regulated by government
officials to make sure that they posed no threat to the broader
system. Sorkin's recap just proves that the present stewards of
the system are bunglers who are out of their depth. After years
of serial bubble-making, they are finally beginnig to realize
that their neoliberal Golden Calf was built on a foundation of
pure quicksand. In fact, the sirens are already wailing as the
yields on three-month Treasuries continue to plummet, which is
the bond market's way of perching itself atop the highest building
in downtown Manhattan and screaming, “FIRE!” There's
no telling when the stock market will get the message, but it
shouldn't be too long.
CODE RED: Emergency planning now underway
So, what is to be done? New York Fed chief Timothy Geithner says
that capital markets are still “substantially impaired”
and policy makers and financial industry leaders must “act
forcefully” to stem the crisis.
"'What we were observing in U.S. and global financial markets
was similar to the classic pattern in financial crises,' Geithner
said in his prepared testimony to the Senate Banking Committee.
He cited 'a self-reinforcing downward spiral' of asset sales,
'higher volatility, and still lower prices.'" [Bloomberg
News]
If Geithner's predictions of “a self-reinforcing downward
spiral'' sound scary, so do the remedies. The Financial Times
outlined the radical strategies that are now under consideration
by the G-7 powers for dealing with challenges of the rapidly expanding
credit crisis. These include “the temporary suspension of
capital requirements, taxpayer-funded recapitalisation of banks
and outright public purchase of mortgage-backed securities.”
Everything is on the table.
Representatives from the main western central banks are also
discussing whether to force a number of the larger banks to disclose
their financial positions so they can objectively determine the
weaknesses on their balance sheets.
Other recommendations include boosting capital requirements,
“conserving financial resources,” and utilizing public
funds. The group is also deciding whether to “suspend capital
and reporting rules that tie prudential requirements to market
values of securities.” That way the banks can avoid letting
shareholders know the true downgraded value of their assets. This
is clearly an attempt to deceive the public about the real financial
condition of the banks.
“Emergency liquidity support,” reductions in capital
requirements, concealing the true value of collateral, relaxing
regulations, suspending accounting rules for assets; it sounds
a lot like panic. These are the signs of a system that is so dilapidated
that the pilings shake and the scaffolding wobbles with even the
slightest breeze. Strike a match and the whole thing will go up
like a Roman candle.
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INFOWARS:
BECAUSE THERE'S A WAR ON FOR YOUR MIND
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