VOLCKER WARNS AGAINST FUTURE BAILOUTS

The former head of the Federal Reserve, Paul Volcker - the man who tamed inflation in the 1980s, and then voted against some of the deregulation stupidity that allowed the morons on Wall Street to bring down our financial system - is sharing his wisdom with us again.

In today's NY Times Volcker warns that the Obama administration’s proposals, to overhaul the financial system's rules, would actually preserve our “too big to fail” policy. He argues that they will also lead to future banking bailouts. I couldn't agree more. Specifically,Volcker told Congress,

... that by designating some companies as critical to the broader financial system, the administration’s plans would create an expectation that those companies enjoy government backing in tough times. That implies those financial companies “will be sheltered by access to a federal safety net.”

Volcker is criticizing developments that have expanded the government safety net to include insurance companies, investment banks, and the auto industry. Let's call a spade a spade. What Volcker is really criticizing is the evolution of Corporate Welfarism.

What we need to do is pretty simple.

If a business is so big that it's "too big to fail" by definition it is a domestic and national security risk. Domestically, too-big-to-fail induced meltdowns cause unemployment and destroys lives. Internationally these meltdowns are contagious and convince leaders to blindly march their unemployed and (largely) clueless citizens past economic warfare and into all out warfare (see the 1930s).


These considerations alone mandate regulation.

Permitting "too big to fail" to continue unabated also undermines the democratic impulse in America. It grants certain financial institutions "poaching" rights on state perogatives (like taxation) and state resources (our money). No "private" institution should be allowed to hijack and siphon off state resources with impunity simply because they're so big and incompetent that we can't control them.

This can be addressed with a break up of the financial instituions, like we saw with Standard Oil and Ma Bell.



Either way we look at it, it's clear that the state needs to heavily regulate and/or break up the "too big to fail" financial institutions. Otherwise, we're simply misleading ourselves, and throwing our money and efforts into a giant Black Hole (again).



We can start, as I pointed out almost 9 months ago, by unwinding the deregulation policies that were enacted over the past thirty years. Then we compliment it with a new set of rules to account for our recent market stupidity. The break up of the larger institutions can follow.

It's really not that difficult.

- Mark

"TOO BIG TO FAIL" & BAILOUTS

Here we go again …

According to an April 14th Standard & Poor’s Report, two enterprises with nominally public missions, Freddie Mac (the Federal Home Loan and Mortgage Corporation) and Fannie Mae (Federal National Mortgage Association) may have to be bailed out to the tune of roughly $5 trillion if the economy slides into a deep recession. The rationale is that these for-profit enterprises are seen as too big to fail because of their potential impact on the national economy.

Let’s make this real simple. “Too Big to Fail” is slowly becoming a nice prelude, and euphemism, for industry bailouts. In a darker corner some might call it what it looks like – another form of corporate welfare.

So, the question remains, How did two for-profit enterprises like Freddie Mac and Fannie Mae get into the position where the feds (i.e. you and me) may have to bail them out in the future?

Real simple (actually, I'm oversimplifying here). Both enterprises purchase a bundle of home loans and use the proceeds, plus fees, to guarantee that home loans will be processed and made in a timely manner. They then sell these products to others, who like to be called "investors" (I say this because the "investors" will be at the forefront demanding a bailout should everything fall apart). Freddie Mac and Fannie Mae then use the proceeds to buy more mortgages from the mortgage industry. In doing so Freddie and Fannie (1) create a new class of “mortgage backed securities” that (2) returns money to mortgage lenders, who then (3) make more loans to consumers.

This arrangement facilitates a transfer of funds from Wall Street to Main Street. But it also allows Wall Street and unscrupulous lenders to get off the hook when they push products they know are shady. You know, the "no doc" loans, the Ninja (no income, no job, no assets) loans, and the "liar" loans we saw over the past 5 years. Why worry about them when everyone's bought into the cycle of deception?

Problems also arise when you have companies like Countrywide Financial who go to Freddie Mac for more than $50 billion in loans, and then put up virtually worthless (or soon to be worthless) subprime loan contracts as collateral. This helps to explain why Freddie Mac and Fannie find themselves in trouble today. They’ve gotten wrapped up in a lot of “toxic” loan contracts.

There’s more to this story, but I’ll make this simple: This is what happens when government enterprises, with legitimate public missions (homeownership), underwrite an industry that then gets caught up in a euphoric web of deregulation, easy money, and greed. The taxpayer picks up the tab, while the "investors" lose little to nothing.

These dynamics not only gives legitimate government activities a bad name, but undermines the integrity of the market.

- Mark

FINANCIAL TYRANTS AND SOCIAL PARASITES

I wanted to post on "Americans Have Been Taken Hostage" last week but got caught up with the beginning of the school year and other posts. The article is written by Dylan Ratigan, host of MSNBC's Morning Meeting. In a few words he argues - and I agree - that America's financial interests have been hijacked and taken hostage by well-heeled and powerful interests on Wall Street.

Their power is made evident by two developments. First, virtually no one on Wall Street has had to pay for their stupidity and greed, even though their actions spiked unemployment, destroyed retirement wealth, collapsed home values, and brought us the worst recession since the Great Depression. Second, nothing has been done to change the status quo, which means it's all going to happen again. With reference to the former, Ratigan asks:

Why did we pay Goldman Sachs and all the other banks 100 cents on the dollar for their contracts with AIG, using taxpayer money, while we forced GM and others to take massive payment cuts?

Why hasn't any of the bonus money paid to the CEOs that built this financial nuclear bomb been clawed back?

... why does the US Congress refuse to outlaw the most anti-competitive structure known to our economy, one summed up as TOO BIG TOO FAIL?

These are good questions that I think any member of Congress would be hard-pressed to address. To be sure, we might hear the usual "We need to do something about _________" which would be followed by "blah, blah, blah." And that that would be the end of it.

For those of us who live in the real world, where corporate donations for the next election cycle aren't our lifeblood, the proper response would be (or would have been) to allow bankruptcies in the financial market, nationalization of the failed institutions, and the settling of contracts at par value - even if it was five cents on the dollar. In my view, if the U.S. taxpayer is paying for the bailout, we should own the institutions. The idiots who got us into this mess shouldn't be allowed to continue running things, with bonuses, as if they were victims of unforeseen forces.

We also should have followed this up with retroactive taxes on the CEOs and other executives of the bankrupt financial institutions who received bonuses and other pay benefits for their "sterling" performances over the previous five years. At the end of the day these people did not create wealth. They sucked it up and then destroyed it for others. A "failed corporation" tax clawback would go a long way in sending a message about accountability and personal responsibility. Seeing a few CEOs file for bankruptcy would help middle class morale too.

Finally, why don't we break up the financial institutions like we broke up Ma Bell and John D. Rockefeller's Standard Oil? No financial institution should be so large that it can call on and confiscate the resources of the state simply because it's considered too big to fail. As I wrote in my book, when I discussed the dangers of "too big to fail":

When the state allows the private sector to draw on the public treasury when market break down, it also allows the private sector to act like history's tyrants, who placed their needs above those of the public (p. 244).

Much needs to be done (which is why I like this observation from Sonia Sotomayor). Think about it. Together, Bank of America, JP Morgan Chase and Wells Fargo have more than one third of all deposits in the United States. If we throw Citibank and Merrill Lynch into this group these five corporations represent almost two out of every three credit card issuers in the country.

At the end of the day, as Dylan Ratigan tells us, we can't continue calling those who built and ran the failed financial institutions capitalists. They are, as I point out in my book, financial tyrants and social parasites. The sooner Congress recognizes this, and begins regulating them as such, the better off all of us will be.

More importantly, it could also mark the beginning of the long hard slog that will be our recovery.

- Mark

WHY THE FINANCIAL REFORM BILL(S) SUCK

Yesterday I wrote about President Obama's Wall Street speech. In his talk he tried to make it look like he's confronting Wall Street when, in fact, he's doing little more than trying to make them feel better about "the mob" on Main Street.  At a time when the nation is looking toward their government to do something about Wall Street's gambling, their social indifference, and their undeserved rewards, President Obama pretty much told Wall Street's speculators and profiteers, "Go ahead and keep the loot ... but be warned, we're turning our home alarms on this time."

That ought to scare them.

Compare that with what Franklin D. Roosevelt did in 1936. As the Huffington Post pointed out, back then Franklin D. Roosevelt raised the ire of Wall Street's biggest financiers when he told America, "We know now that government by organized money is just as dangerous as government by organized mob." Telling Wall Street that their actions before 1929 were akin to unruly mob rule set the tone for this classic from FDR:

"Never before in all our history have these forces been so united against one candidate as they've been today. They are unanimous in their hatred for me and I welcome their hatred."

President Obama, for his part, asked "organized money" on Wall Street to join him in supporting reform because it's not only "in the best interest of our country, but in the best interest of the financial sector.”

Woh. Slow down there Mr. President. We all know how much Wall Street's sociopaths like being lectured to, and how they respect the common good. If he continue along these lines President Obama might even get Wall Street to voluntarily give up their hard earned bonuses (not). Count me as unimpressed.

The primary problem I have with President Obama's approach yesterday is that, as Paul Krugman put it, "Mr. Obama should be trying to do what’s right for the country — full stop. If doing so hurts the bankers, that’s O.K. ... More than that, reform actually should hurt the bankers."

I agree. But what's worse is what the proposed legislation isn't going to do.

Les Leopold, author of The Looting of America: How Wall Street's Game of Fantasy Finance Destroyed Our Jobs, Pensions, and Prosperity—and What We Can Do About It, offers some insight. In this Huffington Post piece, he lists six things we need to watch out for. 

1. TOO BIG TO FAIL CONTINUES: Too Big to Fail (or is that Too Big to Care?) financial institutions will not be broken up.

2. BETTING WITH YOUR MONEY CONTINUES: Speculating with bank - and FDIC backed - money will not stop as long as there is no separation between commercial and investment banks.

3. TOOTH FAIRY BETTING CONTINUES: Fantasy finance products, like CDOs & CDSs, will continue to be traded with few, or very weak, oversights.

4. CEO / EXECUTIVE'S BONUSES CONTINUE: Obscene executive compensation will continue because there are no provisions for reining in or taxing unearned bonuses, especially in the trade and "capital gains" area. So guess which kind of economic transactions will continue?

5. CONSUMER PROTECTIONS BURIED: The idea that the Federal Reserve is supposed to become the new protector of consumers is ridiculous. The Fed didn't say a peep about banks ripping off each other and state pension funds with fantasy bets. What makes anyone think they're going to watch out for consumers now? This kind of thinking is akin to a church placing Charlie Manson in charge of Bible & Family Values Night. This one's still being discussed.

6. THE JOBS MIRAGE: The notion that creating wealth (for a few) will eventually lead to jobs should have died when Ronald Reagan left office. It should have had a stake put through it's black heart when George W. Bush left. Still, people in Washington want to believe that if we let Wall Street steal and manke money as their "free marketeers" see fit that jobs will miraculously appear. What a bunch of idiots.

 There's more. But you get the picture. It's not good.

- Mark

UNDERSTANDING OUR EPIC FOOLISHNESS

This article on "our epic foolishness" from the NY Times' Bob Herbert really captures how "our failure to master the challenges confronting us" has been going on for some time now. It might make the Republicans feel good that President Obama may be facing his Katrina in the Gulf Coast (ignore, for the moment, how they're finally admitting Bush's actions were epic failures), but the reality is that our national "hubris and ignorance" are finally "threatening to destroy us."

What Herbert is referring to is how our short-sighted actions and false bravado no longer match our long-term abilities. From epic failure in the Middle East, to our technological inability to cap a well, to our explosive and failed financial institutions, America has arrived at the point where our policies are held hostage by a bumper sticker mentality that feeds on crazy people shouting empty slogans.

Budget surpluses in 2000? Tax cuts! Economy slows down after 9/11? Deregulation, and tax cuts! Economy recovering? More deregulation, and tax cuts! Economy collapses after 2008? Deepen deregulation ... and more tax cuts! Need an energy plan? Drill, baby, drill! How do we fix Wall Street after 2008? More deregulation! Trouble in the economy? Damn illegals! And the list goes on ...

Whatever ails our society, and economy, Congress has arrived at the point where good policy has been abandoned in the name of empty sloganeering. If it can't fit on a bumper sticker, it's not good policy. Is this any way to run a country? Is this any way to run the United States of America? It is if you're a member of Congress.

But this didn't happen over night.

Roots of our Epic Foolishness, Favorable Legislation
One of the key developments over the past thirty years is how favorable legislation for America's financial institutions has made them so damn lazy. Stuffed with one legislative gift after another, our nation's financial institutions have gone from watching their money and making prudent business decisions in the 1950s and 1960s to having Uncle Sam rewrite the laws that allowed them to become reckless, and helped them develop a sense of business entitlement.

For example, back in the 1970s and early 1980s we were confronted with corporate bankruptcies (Boeing and Chrysler) and the Savings & Loan debacle. A combination of high interest rates and, then, some really stupid loans, combined to drive the Savings & Loan industry into the ground. Congress responded by bailing out corporate America and rewriting the laws so that banks could sell their money losing loans (often to one another), with the losses of the S&Ls being picked up by the American taxpayer.

The bankers, as you might expect, fared very well. Worse, the stage was set for "secondary" markets to grow, which have helped banks find a place to take their failed loans and dump them off on other market players. The financialization of the American economy, built on a pile of debt, was right around the corner.

Later, in the 1980s and 1990s, when banks were threatened with bankruptcy because of the loans they made to developing nations, Uncle Sam (and the IMF) stepped in to save the banks from their reckless stupidity (over and over). It was also at this time that Congress began rewriting the laws so that America's financial institutions could bundle up their crappy loans, label them collateralized debt obligations (CDOs), and dump them on other unsuspecting market players.

The lesson that America's financial titans took away from these experiences was classic. They decided that they would lend even more money! And why not? It was clear that Uncle Sam would fix whatever their reckless decisions brought down on the economy. 

Epic Foolishness ... Blowback
Now, here we are, a decade into the 21st century and we're seeing the results of our nation's decades long decision to fawn over corporate American and Wall Street's bankers. Only this time, after bailing out Wall Street, and simply rolling with the punches - as we've done in the past - it appears that many regular Americans have had enough.

Those caught in the middle of corporate America's favorable legislation orgy with Congress appear to be fighting back against the schemes that brought us no doc loans, adjustable rate contracts, foreclosures, forced bankruptcy, higher interest rates and record pay and bonuses.



It turns out that many ordinary Americans aren't paying the bills any longer. And they're doing it in droves. In this article from the NY Times it turns out that more and more Americans have stopped paying their mortgages. With foreclosure proceedings initiated against 1.7 million of our nation’s households, over 650,000 mortgage holders haven't paid in 18 months. According to those who have stopped paying, it's not their fault that the market and the economy tanked.

Moreover, they argue that it's also not their fault that the banks made no doc and adjustable rate loans (and credit cards) available to people with debt-to-equity ratios that didn't make historical sense. In the eyes of those who are losing their homes, and find themselves with excessive debt, expecting favorable legislation, new laws, and waiting for the American taxpayer to pick up the pieces for their stupid business decisions shouldn't be corporate America's business model.

But it is.

Today, as this NY Times article points out, we find that Wall Street's biggest banks were essentially providing "no doc" loans to students because they understood that laws on the books would not allow student loans to be discharged in normal bankruptcy proceedings. Put another way, loans weren't made based on the consumers ability to pay, they were based on laws that said borrowers couldn't discharge the loan. This encouraged banks to rmake more loans, which they repackaged or bundled up into CDOs, which they sold in secondary markets (and then recklessly insured with CDSs).

Again, why take the time to conduct basic due diligence when you have Uncle Sam around to rewrite the laws, and make your loan department profitable, whether you make prudent business decisions or not?

Undermining the Moral Justification of Capitalism
Of all the failures that have occurred over the past thirty years perhaps the greatest one has been how corporate America has begun to slowly rob America of the moral justification of capitalism that once made this country great. By pursuing favorable legislation that saves them the trouble of making sound business decisions, America's financial mandarins not only think they're living on Easy Street, but they are slowly robbing our nation of the spirit that told us "If you work hard you will get ahead."

Favorable legislation, get-rich-quick schemes, unwarranted subsidies, bailouts, etc. all work against the spirit that made this nation great, and the moral justification of capitalism. Too big to fail banks, too big to cap oil spills, and too big to catch jihadists all point to a nation that embraces the false bravado of nationalism, while ignoring the spirit behind the moral justification of capitalism.

These developments, as Bob Herbert suggest, are the essence behind our epic foolishness.

- Mark

TRULY PATHETIC

In this NY Times' article, "Trying to Rein In ‘Too Big to Fail’ Institutions," K. Tarullo, an appointee of President Obama’s, is quoted saying that breaking up big the banks is “more a provocative idea than a proposal.” Why would he say this? Because any talk of doing anything that might upset market players "has provoked fears on Wall Street."

Simply put, Wall Street is afraid of how reforms would both regulate them and strip away bankruptcy protections now available to the "too big to fail" institutions.


Imagine that. Wall Street collapses the American economy ... then they tap into a taxpayer funded bailout to the tune of $23.7 trillion ... and policymakers are afraid of upsetting them by taking away their market guarantees?

Does this make sense to anyone? While it does here, apparently it doesn't in Europe.

The Europeans are moving to deal with their market meltdown - which was intricately woven into ours - by mandating and provoking changes like splitting ING, the Dutch insurance and banking firm, into two companies. One firm would focus on banking, the other would focus on insurance. The rationale is simple: Having two big like-minded firms under one roof can create a group-think environment that is both incestuous and uncompetitive.

The incredible thing is that we learned this lesson after 1929, when we saw how large financial firms had taken depositor, investor, and insurance funds and dumped them into markets with little or no concern for their clients. Disregard for client interests was encouraged by the immediate and reckless drive for more fees, commissions, market share, and profits. This is what brought us the Glass-Steagall Act in 1933.


In a few words, Glass-Steagall was the cornerstone of a larger regulatory wall that kept insurance, banking, and investment houses separated and regulated. What followed after WWII was the largest growth and wealth creation spurt in human history. This regulatory regime started to unravel in the 1970s, and was dragged down when Ronald Reagan became president. It was dismantled completely in 1999 by President Clinton (notice, no smiles in the FDR photo).


Mervyn King, governor of the Bank of England, argues that we need to bring these Depression-era common sense policies back to America. In a speech last week he said:

There are those who claim that such proposals [like Glass-Steagall] are impractical. It is hard to see why ... What does seem impractical, however, are the current arrangements. Anyone who proposed giving government guarantees to retail depositors and other creditors, and then suggested that such funding could be used to finance highly risky and speculative activities, would be thought rather unworldly. But that is where we now are.

What we have today is an Alice in Wonderland approach to markets that includes massive market guarantees, record bonuses to the executives of collapsed institutions, strangled credit for small business, government-sanctioned credit card rip-offs, the continued arrogance of Wall Street, and Wall Street fears that they will not have bankruptcy protections.

This is truly pathetic.

- Mark

AND YOU THOUGHT PUBLIC WELFARE WAS EXPENSIVE BEFORE ...

I know this post is a bit long. But not understanding these issues is exactly why we get screwed out of our hard earned dollars. Conservatives like to complain about giving their money to the poor when it's stuff like this that drains our tax coffers, and has the potential for collapsing our system.

Below is an e-mail that was sent to me from one of our local politicos. It was sent to him from a local conservative politician, who I have had several ("collegial") conversations over other issues in the past.

In a few words what's posted below is an argument designed to get congress, and the American public, to legislate market prices out of the market. The writer is arguing that we need to suspend Mark-to-Market, which is little more than a scam to inflate portfolios and bonuses in the financial sector.

Because of bailout guarantees taken on by the Federal Reserve you and I will eventually pay for inflated portfolios and bonuses (in the form of higher taxes or inflation). Simply put, professional market players are banking on our congressional representatives, and the American public, being too stupid to figure this stuff out. My response to this argument follows. If you can't follow the logic of the argument (you're not alone) just jump to my response, which explains what these people are really trying to do.

Here's the argument as it was sent to me ...

Apparently, public policy hath no fury like a CPA scorned.

In late 2007, the Financial Accounting Standards Board (FASB) imposed mark-to-market accounting on the US financial industry. This required financial firms to value securities at market prices, and then account for any gain or loss as a change in regulatory capital. Within a year, the US was in the middle of the worst pure financial panic in a hundred years. Coincidence? We think not.

On its surface, market-to-market or "fair value" accounting makes some superficial sense. Markets usually provide transparent and verifiable prices, so companies can't just contrive numbers to make their earnings look good.

The problem with mark-to-market (MTM) is that it makes no accommodation for the fact that market prices for securities often deviate - sometimes substantially, but always ultimately temporarily - from the underlying fundamental value of the assets. Since markets are forward looking, MTM forces financial firms to take hits to capital over something that "might" happen in the future, but has not happened yet. It's like forcing homeowners to come up with more capital when a hurricane approaches because their house might be destroyed.

This, in turn, creates a vicious downward cycle as capital constraints hurt banks, undermine the economy and drive prices lower, and then destroy more capital. In 2008, when markets for mortgage-backed securities became extremely illiquid, the financial crisis intensified. This drove away private capital and enticed government to flood the system with liquidity. This government activity helped cause panic and a recession. But all of these government programs were just a way to work around the accounting rules.

As former FDIC chairman William Isaac has repeatedly said, if mark-to-market rules had been in place in the early 1980s, the Latin America debt crisis would have destroyed every money center bank in the US. Thank goodness that did not happen. Instead, the system was given time to heal. That's what should have happened in 2008. Instead, FASB stubbornly stuck to its guns over MTM accounting.

Finally, in mid-March 2009, with stocks at new lows, Congress started to twist arms on the issue. FASB was forced to loosen up its rules and allow cash flow to be used when markets were illiquid. Just this small change did the trick. Banks were finally able to raise new capital, $100 billion or so, and the stock market surged. In fact, things have improved so much that the Federal Reserve and Treasury are finding less and less interest in the programs they designed to "save" the financial system.

But now, like a horror flick monster that just won't stay dead, FASB's accountants are proposing to expand the application of mark-to-market accounting rules across the board, to include all financial assets, including regular loans. The outcome of this debate is extremely important.

MTM accounting, because it ties the balance sheet of an institution to its income statement, and then its capital accounts, creates unnecessary volatility. There is no real market for bank loans and the value of any loan is always in the eye of the beholder. As a result, "who" is doing the beholding determines the viability of an institution and maybe even the health of the economy.

If that power is given to accountants, who have no actual responsibility for running financial institutions, but can be tarred with some of the liability (think Arthur Andersen), the result will be a more tentative banking system that takes less risk. That may sound good these days, but imagine watching a football game played by accountants who stop running because they might get a broken leg when tackled. Fair value accounting needs to be fully suspended - now.

The following is my response to this nonsense. And, yes, it really is nonsense.

... Thanks for sending me this. Let me start with this: Suspending MTM does little more than legislate the market price out of the market. It's a bad idea ...

What I see in the piece you sent me ... is terribly slanted and bereft of any real understanding of how markets are supposed to work. Mark-to-market (MTM) is what helped blow the lid off of the incredibly stupid things that some of the financial institutions were doing. Suspending MTM until "market" prices recover in a heavily bailed out and subsidized economy is a bad idea. That's like asking a bookie to suspend the debts owed until the bettor can find enough money from his rich uncle to cover his old bets, so he can start anew.

Look, good market players know how to (or should know how to) account for "temporary" deviations in prices. The reason the U.S. financial system collapsed was not because MTM exposed temporary deviations. The financial system collapsed because derivative, CDO, and CDS markets had grown so large that they dwarfed the entire value of the stock and housing market. The nonsense had to stop some time. The CDS and CDO market were badly inflated, poorly capitalized (as to their ability to pay out), and dependent on bad debts in the housing markets. These contracts - good and bad - were then bundled together and sold as a "new" investment instrument. We knew this wasn't good stuff 10 years ago (see the intro of chp. 12 in my book) and eventually became exposed because of MTM, which is a good thing.

The piece also makes reference to how the market for mortgage backed securities (MBS) became "illiquid". Look, the MBS market became "illiquid" because the market was inflated and based on faulty-bad assumptions from the beginning (artificially low interest rates, No Doc loans, NINJA loans, poorly vetted CDO-CDS market instruments, etc.). Once market players saw the lid blown off they became spooked. Lending stopped because banks and other investors didn't trust one another, or what they had on the books (which they now want to reinflate). This was compounded by the fact that many of those who were putting money into the market were "bad" debtors that Hyman Minsky would have categorized as Ponzi-scheme investors. As we saw during the market collapse, these CDO-CDS-MBS market players were not hedged, or even good speculators (see p. 207-208 in my book).

Also, I find it interesting that the author would reference former FDIC chairman William Isaac and the Latin American debt crisis (which came to light in 1982). Several U.S. banks had lent Latin America (but in this case especially Mexico) so much money that it exceeded total bank assets. How smart was that? This was not a Latin American debt crisis. It was a Western lending debacle (we could get into the flow of Petrodollars, and corruption levels, but I'll leave that for another day). The system was given "time to heal" during the debt-loan crisis because people needed time to digest the incredible stupidity of lending so much money to corrupt regimes because of false assumptions. Keep in mind that his government-escorted bailout occurred under Ronald Reagan.

The result? "Too big to fail" entered our political and financial language permanently. We saw banks "recover" under a U.S.-escorted recovery program that led to an explosion in the secondary market (for debt securities) that, in many respects, helped create the conditions for the CDO-CDS market we have today.

Finally, I'm not sure what to do with this comment: "... in mid-March 2009, with stocks at new lows, Congress started to twist arms on the issue. FASB was forced to loosen up its rules and allow cash flow to be used when markets were illiquid. Just this small change did the trick. Banks were finally able to raise new capital, $100 billion or so, and the stock market surged." Cause and effect is assumed and, more to the point, aren't substantiated here. Look, more money became available because of political pressure and because the Federal Reserve created so many programs, and encumbered so many financial obligations, that the U.S. taxpayer is now on the hook for anywhere between $7-9 trillion dollars (more if you look at other areas). Freeing up $100 billion is a drop in the bucket when you've got access to trillions that's backed by Fed guarantees.

At the end of the day, suspending MTM is a bailout gimick designed to perpetuate "too big to fail" long into the future. It's a market subsidy that Lenin would have embraced when he introduced NEP. In this case, the American taxpayer ("the peasants") retain commercial autonomy while the "commanding heights" of the economy (war, banking, etc) remain dependent on the state for favorable legislation and "centralized allocations" of resources when necessary (again, see what the Fed has encumbered). And, was the case under Lenin's NEP, while financial institutions are instructed (allowed) to operate commercially, they are not expected to deliver output according to state mandated quotas.

There's more, but the piece you sent me is really little more than a Wall Street apologists attempt to perpetuate what got us into this mess. The increasing use of the state for favorable legislation and to achieve market goals says much about the chasm that exists between the theory and reality of today's free market proponents. These guys are on no firmer intellectual ground than Lenin or Stalin.

There's more to the argument which I didn't address, but I'm sure this is enough for now. My sense is that congress will cave and give the financial institutions what they want. I hope not. Because of the collapsed CDO-CDS markets the costs could potentially reach into the trillions.

And you thought public welfare was expensive before the meltdown.

- Mark

AMERICA'S DEBT-DRENCHED FUTURE AND THE PATH TO PARISH SERFDOM

Many Russian peasants weren't much better off than the Russian serfs who came before them.

In September I wrote about the return of parish serfdom. At issue is how corporate giants, like Wal-Mart, depend on the state to pick up the general welfare tab for employees who don't make enough money to make ends meet, which incldues eating full meals or paying for personal health insurance.

So, yeah, we might have a welfare state that many people despise. And we might even enjoy pointing fingers at those who must apply for indivdual welfare benefits (I don't, but those who do know who you are). But the reality is that in many ways segments of corporate America are paving the way for the return of parish serfdom by paying miserly wages, and then expecting the state to pick up the tab for keeping their employees healthy and fed. This has allowed a small segment of society - like Wal-Mart's Walton family - to become multi-billionaires.

But wait. There's more.

There are deep rooted structural conditions that are working to bring parish serfdom back to our world. And it's all built around false choices tied to debt.

Looking at wealth inequality Charles Smith tells us that we are living in a neofeudal society that is ruled by the New Nobility of aristocratic financiers and bankers. Their goal is to extract wealth rather than to help you build it. The neofeudal financial system that's emerged is largely a product of three interconnected developments:


1. THE FALSE CHOICES OF DEBT:
As the Roman Empire crumbled people were presented with two false choices. Pay increasingly exorbitant taxes to Rome, or become a lowly serf toiling on the land of a feudal lord who offered protection (and demanded much).

Today we have similar false choices. In a world where wages have stagnated or fallen most of us have no choice but to take on debt if we want to survive, or have any hope of getting ahead. For example:

You have the choice of ignorance, or going into debt for an education (I paid $5 per semester at my local junior college when I first started college).  

Can't keep up because your job pays near minimum wage, or less? Then credit card debt servitude is your freedom granting option. 

Don't earn enough to save for a house (or even a down payment)? Then mortgage servitude is for you.  

The American Dream that we all idealize today was built around a middle-class in the post-war era that could afford to send their kids to public colleges because it was virtually free (by today's standards). Part of that dream was made possible by car and home loans that were funded and managed by local community banks, who worked with you when things got tight.

This kind of arrangement was too much for the New Nobility. They had no claim to your wealth producing life. Today, the New Nobility has a financial claim on your wealth through a financial structure built around debt, derivative products, and a shadow banking system that overshadows much of our mega-banking structure.


2. THE COMMODIFICATION OF DEBT:
If you have a mortgage, a student loan, credit card balance, car loan, etc. you are obligated to fund the rentier income of the New Nobility. Who are the New Nobility? They are the financial masters on Wall Street and the people running the nation's Too Big to Fail banks.

What makes debt peonage today possible is the commodification of assets and debt. Your debt (and assets) becomes commodified when your debt contract is bought, sold, and bet on in a seemingly never ending system of debt-filled pyramid schemes that have no connection to you, or your community (go ahead, try finding who has the note on your home or your second mortgage).

Today, most commercial loans are funded, sold, and traded by people you will never know, or meet. A chain of claims to your payments is the only connection you have to this system. Debt has become the new Philosopher's Stone, and is now courted and encouraged because of the financial products that can be created off of them.

Our political class only feeds this mess with calls for more deregulation.


3. THE NEOCOLONIAL "COMPANY STORE":
For Charles Smith the essence of neocolonialism is the company store that extends credit that can never be paid (which I write about in my book, p 39-42). The neocolonial company store today is our Too Big To Fail Banking structure.

The TBTF banking system has been doing especially well since wages have stagnated for the better part of 45 years. This has forced more and more people to borrow and go into debt.

When only the top 10 percent have seen their income and wealth expand over the past 40 years - while America's debt-serfs have become increasingly debt drenched - something is wrong in the land of Oz.

Total debt, as a percentage of GDP, that is held by people, states, and the federal government.

- Mark


For those of you wondering where the vast majority of income gains have gone over the past 30 years here's a chart. If you're chart-challenged know that over half of all income gains in our nation are going to the top 10 percent (again).

But wait, it gets worse. It's the top .01 percent who have been raking in the real money ...

BLACK HOLE FOR DERIVATIVE MARKETS GETTING BIGGER

One of the financial sites I like to follow is Money Morning. Sure it's designed to attract investors. And, yes, they want to make money from you by placing investments on your behalf. Finally, there's no doubt that they can drift slightly towards political hackery with their criticism of President Obama and his policies. However, they also regularly provide good clean real time information, and offer good analysis of developing events. It's one of the reasons I cited several Money Morning articles in my book, and continue to read their newsletters over other market "news" sources.

This helps to explain why I've posted the article, "The Most Dangerous Financial Headline I've Seen Since 2008," below. It might be a bit long for some, but it's worth the read.

In a few words, the chief investment strategist for Money Morning, Keith Fitz-Gerald, explains how a small bank in Germany might just be our canary in the mine when it comes to warning us about derivatives, and the next market collapse (derivatives explained here). His argument? Derivatives are little more than market bets, and not really based on sound market principles.

Specifically, Fitz-Gerald writes, "Contrary to what Wall Street wants you to believe, derivatives aren't investments ... in anything. Not stocks, not bonds, not currencies." After running us through the many trillions of dollars in derivative bets that swirl around the banks and our financial sector, Fitz-Gerald makes it clear that the world's largest banks are in way too deep.

In a few words, the banks don't have enough to clear out the bets they've placed in our derivative markets when the next market collapse hits.

Fitz-Gerald ends by noting that the financial sector is not healthy, and that anyone who claims that derivatives are part of a healthy investment portfolio is nuts because they're only making our markets less healthy. I agree.

So, yeah, if you have the time, read the article, which I've posted below.

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The Most Dangerous Financial Headline I’ve Seen Since 2008
By KEITH FITZ-GERALD, Chief Investment Strategist, Money Morning

In my capacity as Chief Investment Strategist, I read news feeds from more than 100 sources every day. That helps me keep tabs on the Unstoppable Trends we follow here, what’s going on around the world, and, more importantly, discover opportunities for you that others don’t yet understand or even recognize.Given everything going on – ISIS, Russia, Washington, fabricated economic numbers, earnings… you name it – it takes a lot to surprise me. I’m pretty jaded.But a headline I recently came across stopped me in my tracks. Cold.

It was, by far, the single most dangerous story I’ve seen since the Financial Crisis began in 2008. Worse, it merited only a passing mention on Bloomberg. Not a single major U.S. network I’m aware of paid it any meaningful attention.

They should have.

What I am about to tell you is proof positive that big banks are not the bastions of stability and financial prowess many believe them to be at this stage of the “recovery.”

More to the point, big banks may harbor hidden risks and are not, as many analysts believe, the bright spot in this otherwise potentially disappointing earnings season.

Here’s that headline… and what it means for four bank stocks you may own.

This Small German Bank Just Put Up a Huge Red Flag

Last month, according to Bloomberg, the Association of German Banks (BdB for short) had to bail out German-based Duesseldorfer Hypothekenbank AG (DuessHyp).

Never heard of it? I hadn’t either… but here’s what you need to know.

Like many banks around the world that have made questionable investments, DuessHyp was facing write downs on debt it held. In this case, some €348 million (approximately $375 million) issued by Austria’s Heta Asset Resolution AG, which “blew up” – a banking term meaning failed – because of bad loans.

Theoretically, this isn’t a big deal. Every bank maintains reserves sufficient to deal with this kind of situation. Or at least they’re supposed to.

But, also like many banks, DuessHyp had been trading highly leveraged swaps, and that meant the Heta failure caused a hit to the bank’s reserves. Consequently, DuessHyp would have to post additional margin to maintain the highly leveraged trading positions on Eurex, Europe’s largest derivatives markets.

Only DuessHyp didn’t have it. So DuessHyp was forced to seek a rescue, lest the damage caused by Heta’s failure cause the bank to fail and the damage to spread throughout the European banking system.

I realize that all this can be hard to follow, so let me cut right to the chase:

1. A bank almost nobody’s ever heard of before with a total capitalization of under €15 billion in assets and just 52 employees is suddenly deemed “too big to fail” and has to be rescued when it’s unable to post additional collateral on a mere €348 million in bad debt.
2. The total notional value of derivatives exposure by U.S. banks was $240 trillion according to the Office of the Comptroller of the Currency (OCC) as of Q4/2014.

Contrary to what Wall Street wants you to believe, derivatives are not investments… in anything. Not stocks, not bonds, not currencies.

They are nothing more than legalized gambling, because they are wagers on the expected outcomes of specific events like the failure of Greece to secure sovereign financing and what happens to its national debt when that comes to pass.

It was the same thing for Ireland, Portugal, Italy, and several other countries during the depths of the Financial Crisis – bad debt and a lack of collateral to cover it when it went bad caused regulators and central banks to “rescue the system.”

So this begs the question. Why? Big banks make big bucks from trading this schlock. Meanwhile, everybody pretends like everything is okay.

Here’s where it matters to you and your money.

Derivatives Trading Is Not Only Still Happening… It’s Growing

Many analysts are expecting the “undervalued” financial sector to post positive profits this earnings season at a time when there will be otherwise disappointing earnings ahead.

Much of that will come from a “surprisingly robust mortgage business that bolsters earnings,” notes Paul Vigna of the Wall Street Journal. John Butters of FactSet observes that the financials may report positive earnings results reflecting as much as 8.4% growth.

At the same time, banks are planning billions in stock buybacks and raising dividends as a means of enticing skittish investors.

I think they ought to have their heads examined because the highly leveraged derivatives trading that got them into this mess is still out there… and growing.

Goldman Sachs, JPMorgan Chase, and Morgan Stanley had to alter their dividend payouts to pass the Fed’s (questionable) “stress tests.” Bank of America passed only provisionally.

Any big bank, no matter how tempting, is truly a case of “buyer beware.” Especially now.

Ironically, only one man on Wall Street seems to get this, and it’s somebody you’d least expect to raise the flag of caution. None other than JPMorgan’s CEO Jamie Dimon.

In a March 2015 letter to shareholders, he noted that the U.S. Treasury market’s freakish behavior last fall – which included a decline of 40 basis points, which is so many standard deviations from the norm that it should happen approximately once every three billion years – was the result of a foreseeable liquidity crunch. “We need to be mindful,” he wrote, “of the consequences of the myriad new regulations and current monetary policy on the money markets and liquidity in the marketplace – particularly if we enter a highly stressed environment.”

Many people think Dimon is the financial equivalent of Darth Vader. But I believe he may be the ONLY banker on Wall Street who fully understands the big picture. As such, he gives JPMorgan a decisive edge over the other big banks, many of which could be brought to the brink of collapse when the next bubble bursts.

Here are four banks that will learn the hard way – perhaps not tomorrow, or even next quarter, but sooner than most people think.

Banking Stock to Drop #1:

Deutsche Bank (NYSE:DB)

In the 2008-2009 crisis, Deutsche Bank stock lost 64% of its value. It’s seen an explosion of toxic derivatives since, becoming the most overleveraged holder of these “financial weapons of mass destruction” in late 2013. The bank’s total derivatives exposure is now greater than €52 trillion – or five times greater than the GDP of Europe, according to the company’s 2014 Annual Report, published March 2015.

Despite this massive undertaking of risk and exposure, DB ended 2014 without a lot to show for it. The company reported net revenues of €31.94 billion in 2014, up just 0.07% from the €31.91 billion achieved in 2013.

Banking Stock to Drop #2:

The Goldman Sachs Group Inc. (NYSE:GS)

A lot of people feel comfortable investing in Goldman because of the (not unfounded) perception that that the bank has U.S. legislators wrapped around its trading finger. After all, Goldman received $10 billion from taxpayers in the last crisis.

But GS shares still fell by 55% in that time period, despite the cash infusion. You may remember that its slide was arrested by none other than Warren Buffett, who pledged a $5 billion infusion in GS stock in return for a hefty 10% dividend yield on his preferred shares. Despite that big vote of confidence, it took the stock more than six years (until September 2014) to recover from the crash and reach its old July 2008 price.

Goldman Sachs has been secretive about the exact extent of its derivatives holdings, but the bank was reported to have derivatives exposure of $48 trillion by late 2013, and Bloomberg Businessweek reported that the bank plans to acquire derivatives even more aggressively going forward.

With its enormous derivatives exposure and extremely anemic stock performance in the midst of a historic bull market, Goldman Sachs is a banking stock to avoid.

Banking Stock to Drop #3:

HSBC Holdings plc (NYSE:HSBC)

Research shows that HSBC has $4.75 trillion in derivatives exposure as of December 31, 2014, according to the OCC. For a bank with $170 billion in market capitalization, that’s a staggering amount.

And the company’s leadership doesn’t inspire confidence, either. The London-based bank was ordered by French authorities yesterday to pay $1.07 billion in restitution following the investigation of alleged tax evasion in Switzerland.

The bank is appealing the ruling – and shares rallied 1.5% in the wake of the news. That’s a short-sighted rally, considering that the bank’s stock has shown itself to be especially vulnerable to crises that are becoming inevitable in the wake of the derivatives explosion. HSBC stock lost 65% of its value between September 2008 and March 2009 – and next time could be even more painful.

Banking Stock to Drop #4:

Citigroup Inc. (NYSE:C)

If you thought that the other three banks proved themselves to be vulnerable in the last financial crisis, just look at how the bubble ravaged Citigroup.

From July 2008 to January 2009, Citigroup lost 87% of its value, going from $205.10/share on July 1, 2008, to $25.30/share on January 1, 2009. In the six years since, it’s more than doubled from its 2009 nadir, but it’s still underperformed the gains of the markets.

This underperformance might be a key reason that Citigroup was ranked dead last in a comprehensive investing report released yesterday. The J.D. Power 2015 U.S. Full Service Investor Satisfaction Study surveyed 5,300 investors who have relied on guidance of advisory firms, ranking their satisfaction levels on a 1,000-point scale. The industry score average was 807; Citigroup came in last at 738.

Besides scoring low in its advisory service department, Citigroup comes up short in returning capital to investors, even compared with its notorious colleagues. Its 0.10% dividend yield is paltry compared to HSBC’s (9.90%) and even Goldman Sachs’ (1.30%).

One thing the company does have in spades is risk. With just under $2 trillion in assets, Citigroup has approximately $59 trillion in derivatives exposure, according to the OCC report.

In closing, I realize that I am bucking Wall Street here. But I’m okay with that because we’ve had a terrific run together making calls that they can’t fathom.

Remember, the banks, the regulators, our leaders, and the world’s central bankers want you to believe the financial sector is in good health because they want you to buy their shares and, by implication, reward their risky behavior. They hope that you will sign off on the fact that you can “safely” have a derivatives portfolio that’s hundreds of times bigger than actual total assets.

Fat chance.

Best regards for great investing,

Keith Fitz-Gerald

___________________________

- Mark

NASCAR & SPEED RACER HELP EXPLAIN HOW FINANCIAL REFORM FALLS SHORT

It's no secret that NASCAR got it's start back in the days of prohibition. Illegal moonshiners and whiskey runners, trying to outrun the law, would find ways to make their cars faster than those of the local police. And they did. Today's NASCARs are marvels in mechanical engineering.

While the cars have gotten faster, the vehicles used on the NASCAR circuit aren't allowed on our public streets for a reason. They're too damn fast, and they aren't up to code (though they can withstand a crash better than the average car). In fact, laws on the books prohibit you and I from tampering with our cars in ways that would make them too big or too fast for public roadways because of the temptations and affiliated dangers that come with having access to all that speed and power.

It doesn't matter if you are a professional racer, over time even the best can crash and burn. Worse, they will take even good drivers out with them.

When you do get car that can outrun the police speeding laws, the highway patrol, the flow of traffic, etc. all work to keep you in check. Put another way, as much as Americans love NASCAR and going fast, we all understand that you can't have people running around driving like NASCAR drivers in suped up automobiles. Even Germany's famous autobahn has 'coercion' and other rules that are enforced by the autobahn police.

This is what makes the current financial reform legislation so frustrating. We know that having "too big to fail" (TBTF) financial firms isn't good for the nation. We saw this in 2008. We saw variants of this in 1987 and in 1929. Yet the current financial reform bill being discussed in Congress does little to nothing to rein in the stupidity and greed we saw before 2008 by the TBTF banks. Indeed, private bank analysts are even suggesting that the financial reform bill won't have any teeth at the end of the day.

It's as if, after causing a series of epic crashes on our nation's highways, we said ...

... "No problem, let's allow the NASCARs, the muscle cars, and other Speed Racer wannabes out on the public road ways. They're good 'ol boys anyways. Nothing's going to happen. We can trust them, this time."

Then we have the fact that the financial reform bill does little to nothing to stop the big banks from trading in highly speculative derivative products, with taxpayer backed (FDIC) money. In a few words, banks can continue using your money deposits - which are government insured - to make market bets that only the banks profit from. If the market tanks, and the banks go under again (and they will), it's you and me the FDIC who has to come in and save the TBTF banks, again (under the guise of insuring your money, of course).

And, No, the provision in the finance reform law that says banks will be liquidated and the executives will be fired if they go belly up (again) is no real safeguard. There were already provisions for this to happen. We didn't use the law in 2008 because ___________________ (fill in blank). What makes us think we'll use it the next time? Because we learned our lesson after 2008? Give me a break.

The financial reform bill currently making it's way through Congress essentially tells all the financial Speed Racer wannabes, "Don't worry. If you crash, or make other people crash, we'll pick up the tab through our 'Speed Racer Wannabe' insurance program" (otherwise known as FDIC).

Look, at the end of the day, if you want to supercharge a car and race it you can always go to a local speedway on the weekend, or beome a professional and join the circuit. The point is, you're the one on the hook for your need for speed. Similarly, if you want to claim to be a super capitalist because you make supercharged market bets you're supposed to use your own damn money. And then you're supposed make market bets in a way that affects only you when your bets don't pay off.

Is this really hard to understand?

- Mark