problems we face today cannot be solved by the minds that created them� -- Albert
Obama hasn�t even been sworn in yet, and already the Wall
Street cheerleaders are celebrating his first great triumph. According the
pundits, the stock market staged a surprise 494 point rally last Friday because
-- get this -- it was announced that Timothy Geithner would be appointed Obama�s
What nonsense. The sudden turn-around in stocks had a lot
more to do with short-covering than anything else, but don�t let that get in
the way of a good story. Even so, the last minute surge on the NYSE couldn�t
stop another week-long bloodbath that ended with the Dow and S&P 500
tumbling another 5 percent. That�s not to say that Geithner is not bright and
talented guy. He is; and so is his White House counterpart, Lawrence Summers.
But the media hype is way overdone.
Geithner doesn�t drive the markets and he isn�t �change you
can believe in.� In fact, he�s a prot�g� of Henry Kissinger, a member of the
Council on Foreign Relations and the Bilderberg Group, and has the same
political pedigree as his predecessor, Henry Paulson. They�re both part of the
ruling fraternity and their views of the world are nearly identical. There�s no
doubt that Geithner will be more competent and effective than Paulson but, then
again, who wouldn�t be?
Paulson may be the biggest flop at Treasury since Andrew
Mellon steered the country onto the reef during the Great Depression. The
recent flap over the Troubled Assets Relief Program (TARP) just proves the
point. After convincing Congress to pass a $700 billion bailout plan -- by
invoking the specter of economic Armageddon and martial law -- the former Goldman
Sachs chairman proceeded to set up a program for buying back mortgage-backed
securities (MBS) and other junk paper from his banking buddies. Paulson argued
that removing the crappy loans would help the banks get back on their feet and
start lending again. Of course, no one could really figure out how the process
was going to be executed, but maybe that�s just nitpicking. Fortunately,
Paulson never got a chance carry out his plan. He was torpedoed by the stock
market which plunged seven days in a row, losing nearly 20 percent of its value
until Paulson threw in the towel and did what 200 economists had suggested from
the very beginning -- -buy preferred shares in the banks so they could rev-up
their credit engines again.
Will Geithner be that stubborn? Not likely. And Paulson is a
hard-nosed class warrior, too. Notice how every dime of the bailout has gone to
banksters while all the efforts to provide relief to autoworkers, consumers or
struggling homeowners have been blocked. Anyone who isn�t in the upper 1 percent
income bracket can forget about getting a helping hand.
Paulson shoveled $25 billion to Citigroup without even
sending in the regulators to see if they were solvent or not. How smart was
that? Citi�s stock has dropped 93 percent from its all-time high in May 2007
and ended Friday at a measly $3.77 per share. Its market cap has gone from $280
billion to a skinny $20 billion in less than a year. Without a lifeline from
the government, they won�t make it through December; the short-sellers will
carve them up like a smoked ham. Will Paulson come to Citi�s rescue with more
public cash? Absolutely. So why won�t he support a similar bailout for the Big
Three automakers who employ nearly a million people?
There was a clue in Sunday�s paper as to why Paulson is stiffing
the car companies.
According to UPI, �GMAC Financial Services said Thursday it
had applied to the U.S. Federal Reserve for bank holding company status, a step
toward securing federal aid. The auto and home financing company said it had
also submitted an application to the U.S. Treasury to participate in the
Capital Purchase Program set up in the $700 billion financial firm bailout
program known as the Emergency Economic Stabilization Act.
��As a bank holding company, GMAC would obtain increased flexibility
and stability,� the company said in a statement.� (UPI)
So why would GMAC want to become a bank holding company if
General Motors is headed for the chopping block? Could it be that the
government is working out a secret deal with management to put the company
through Chapter 11 (reorganization) just so it can crush the union and
eliminate their pension and health care benefits in one fell swoop?
You bet. Car workers will be reduced to slave wages just
like they are in sunny Alabama where sharecropping has moved indoors. And -- no
surprise -- the Democrats are right on board with this labor-busting charade.
The auto industry isn�t going to be shut down. That�s just more fear mongering
like the blather about martial law and WMD. Detroit is going to be transformed
into a workers� gulag -- Siberia on Lake Michigan -- which is why Paulson is
withholding the $25 billion. It�s plain old class warfare.
Paulson has tried to spread the myth that his bailout eased
the credit crunch, but it�s not true. The stress in the credit markets was
caused by very precise factors (Libor, the TED Spread, OIS-Libor) which were
intentionally allowed to rise to perilous levels so Paulson could coerce
Congress into giving him his bailout loot. It wasn�t until Congress caved in
that the Fed addressed those market indicators by (setting up a new facility
and) providing an explicit government guarantee on commercial paper and money
markets. That�s what made Libor go down, not Paulson�s misguided TARP program
which did absolutely nothing.
So yes, the banks do need to be recapitalized. But no, TARP
did not address the specific conditions in the credit markets which were
causing the problems. And yes, Congress is too blind to see that they were
duped by a top-hat Wall Street land-shark who pulled the wool over their eyes
and made off with $350 billion.
Geithner will never engage in the same cynical antics as
Paulson. It was Paulson who set up the Super SIV (Structured Investment
Vehicle) after two Bear Stearns hedge funds blew up, so he could help Citigroup
and other financial institutions pawn off their off-balance sheets garbage to
investors by placing the US treasury�s seal of approval on the rotten paper;
another shameless ripoff shrink-wrapped in the Stars and Stripes.
Paulson�s �Hope Now� (1-888-995-HOPE) was another scam that
was supposed to help banks and homeowners work out the details for a rate
freeze on mortgage resets. Paulson assured the public that 500,000 homeowners
would take advantage of the program which would dramatically reduce the rate of
foreclosures. As it stands, the Hope Now hotline has provided counseling to
just 36,000 borrowers. Representatives have suggested loan workouts for fewer
than 10,000 of them, a small fraction of borrowers in need.� (Earlier Subprime
Rescue Falters; Wall Street Journal)
�Only 10,000 homeowners� and Paulson promised 500,000?
Another slight miscalculation. The real purpose of Hope Now
was to derail Sheila Bair�s FDIC from enacting a program that has a real chance
of helping people stay in their homes. Paulson doesn�t like that idea; after
all, there�s still plenty of freeway overpasses for people to sleep under.
Paulson also initiated �Project Lifeline,� which targeted
homeowners who were delinquent 90 days or more on their mortgages. Here�s the
run-down of how it works:
�Project Lifeline involves servicers sending letters to
borrowers -- prime, Alt-A, or subprime, we�re past pretense on that part -- who
are very seriously delinquent (90 days or three payments down or more). The
letter says that if the borrower contacts the servicer within ten days, agrees
to homeowner counseling, and provides sufficient financial documentation that
the servicer can consider a case-by-case, deep-analysis style modification of
the mortgage terms, the servicer will agree to put the foreclosure process on
hold for 30 days while the workout is considered. If the borrower fails to
respond to the letter, foreclosure proceeds.�
Ever heard of Project Lifeline? No one else has either. That�s
because it was just another one of Paulson�s PR chimeras that passed into
oblivion as soon as it served its purpose of making it look like the
administration really gives a damn. That�s a laugh.
Geithner is nothing like Paulson. He�s discreet, practical,
non-ideological and diplomatic. His job is to find a way to plug the holes in a
banking system that is undercapitalized by a whopping $2 trillion dollars while
trying to keep the broader economy from crashing to earth. He�s already
concocted a stimulus plan (with Summers help) that should be big enough to get
the country through the first quarter of �09 ($700 billion), but it will take
sustained government spending via infrastructure and green technologies
programs to make up for the staggering losses to consumer spending. Expect the
red ink to flow knee-deep from the purple mountains majesty all across the
fruited plains, and pray that China and Japan keep buying US Treasuries or the
country will face historic hyperinflation.
Geithner knows that his mandate far exceeds his job
description. Consumer confidence is at record lows because the public has lost
faith in their institutions. The fear mongering and the deception of the last eight
years have taken their toll; the pessimism is palpable. But market-based
systems require confidence to function properly, otherwise people withdraw
their savings and hoard their money. And that is exactly what is happening. We
have entered a period of extreme risk aversion where there�s been a steady run
on the financial system; investors have pulled their money out of commercial
paper, structured investments, money markets, corporate bonds, and securities.
The markets are in a state of panic. Investors are moving into safe havens like
Treasuries while consumers are cutting back on spending. The whole system is
contracting. The same thing happened during the Great Depression. The
similarities are stunning.
In Jason Zweig�s �1931 and 2008: Will Market History Repeat
Itself� the author says, �Over the two weeks ended Nov. 20, 2008, the Dow Jones
Industrial Average fell 16 percent. Over the two weeks ended Nov. 20, 1931, the
Dow fell 16 percent.
�If you think that is scary, consider this: In the final
five weeks of 1931, the Dow fell 20 percent further. Then it went on to lose
yet another 47 percent before it finally hit rock-bottom on July 8, 1932
�It is vital to realize that markets are never under some
obligation to stop falling merely because they have already fallen by an
ungodly amount. It also is vital to explore how bad the worst-case scenario can
get and to think about how you would respond if it comes to pass.
�When it comes to worst-case scenarios, 1931-1932 is it.
When the Dow finally stopped going down, in July 1932, it had lost 88 percent
in 36 months. At that point, only five of the roughly 800 companies that still
survived on the New York Stock Exchange had lost less than two-thirds of their
value from their peak in 1929.� (Wall Street Journal)
Geithner�s job is to restore confidence through transparency
and consistency. No more lying. No more fudging the numbers to keep the public
in the dark. Investors are already voting with their feet. It will take trust
to get them to come back. Geithner has a clean slate to work with, but if he
chooses Paulson�s route -- the path of deception -- he�ll fail, too. He�s got
one chance to make good; otherwise . . . To his credit, he has made statements
confirming his determination to reform the system.
This is what he said to Congress in recent hearings, �The
United States will have to have to undertake substantial reforms to our
financial system. There was a strong case for reform before this crisis, our
system was designed in a different era for a different set of challenges. But
the case for reform is stronger today. Reform is important because a strong and
resilient financial system is integral to the performance of any economy. . . .
I think the severity and complexity of this crisis makes a very compelling case
for a broad and comprehensive reassessment of how we use regulation to achieve
an appropriate balance between efficiency and civility. This is extremely
complicated both in terms of the tradeoffs involved but also in terms of
building the necessary consensus involved both here in the United States and
around the world. It is going to require significant changes in the way we
regulate and supervise financial securities; changes that in my view, need to
go well-beyond modest adjustments to some of the specific capital charges in
the existing capital regime as it applies to banks.�
Good. Investors want rules, guidelines, supervision,
regulations and most of all accountability. Justice should be the organizing
principle in the financial system just as it is in the legal system. That means
securities fraud has to be investigated and prosecuted. No free passes for
banking mandarins and toffee-nose fund managers. Break the law and go to jail,
just like Jeffrey Skilling. This is the biggest financial meltdown in US
history and not one CEO or CFO has even been indicted. Instead, the SEC wastes
its time harassing Dallas Maverick�s owner Mark Cuban in a politically motivated
witch-hunt. What a fiasco. Why not clean up the cesspool on Wall Street first.
That�s where the problem is and that�s how one reestablishes credibility.
Then there�s the heavy lifting of rebuilding financial
markets while hedge fund redemptions are approaching 50 percent, corporate
bonds have dropped by nearly half, commercial property is tanking, consumer
spending is in the dumps, and the housing market continues to crumble. That�s
not an easy task. And, at the same time, banking behemoth Citigroup needs an
immediate injection of capital just to maintain operations. Once again, the
Treasury will assume a gigantic liability to avoid wider damage to the system.
According to the Wall Street Journal, �The federal
government agreed Sunday to take unprecedented steps to stabilize Citigroup
Inc. by moving to guarantee close to $300 billion in troubled assets weighing
on the bank�s books, according to people familiar with details of the plan.
Treasury has agreed to inject an additional $20 billion in
capital into Citigroup under terms of the deal hashed out between the bank, the
Treasury Department, the Federal Reserve, and the Federal Deposit Insurance
Corp. . . .
In addition to the capital, Citigroup will have an extremely
unusual arrangement in which the government agrees to backstop a roughly $300
billion pool of its assets, containing mortgage-backed securities among other
things. Citigroup must absorb the first $37 billion to $40 billion in losses
from these assets. If losses extend beyond that level, Treasury will absorb the
next $5 billion in losses, followed by the FDIC taking on the next $10 billion
in losses. Any losses on these assets beyond that level would be taken by the
What a nightmare. In a conference call held last Friday,
Citi�s chief executive Vikram Pandit boasted that Citi �had a fantastic
business model� and that �we are one of the best counterparties in the world
based on our capital, and based on our liquidity.� Indeed, Pandit can count on
virtually limitless liquidity from this point on.
Also, keep in mind, that when two Bear Stearns hedge funds
went belly up in July 2007, the experts all agreed that there were probably
only $200 billion to $300 billion mortgage backed securities (MBS) in the whole
system. Now we find out that there are $300 billion on Citi�s balance sheet
alone! More lies. In truth, there were more than $5 trillion in MBS created
between 2000 and 2006. A large portion of those are held by banks. That means
more trouble ahead.
You ain�t seen
So how will Geithner and Summers deal with the problems they�ll
be facing just two months from now?
They�ll do whatever they need to do to stabilize the
financial system and to get consumers spending again. That means at least
another $2 trillion added to the ballooning national debt and some extremely
dodgy ways of getting liquidity into the system. (With the Fed Funds rate
already at 1 percent, monetary policy is limited)
Larry Summers, who will serve as Obama�s chief economics
advisor, summed up his plan like this to Bloomberg News, �At first I believed
that any stimulus package should be timely, targeted, and temporary. But the
situation has deteriorated so significantly from that point that I would now go
for speedy, substantial, and sustained over a several year interval.�
But how will Summers get money into the system if monetary
policy has been ineffective and the banks are not providing sufficient credit?
Economist Nouriel Roubini answers that question in his
latest blog entry on Global EconoMonitor website: �The Fed [will] directly
purchase long-term government bonds as a way of pushing downward their yield
and thus reduce the yield curve spread. But even such action may not be very
successful in a world where such long rates depend as much as anything else on
the global supply of savings relative to investment. Thus, even radical action
such as outright Fed purchases of 10- or 30-year US Treasury bonds may not work
as much as desired.� (MW: In other words, the Fed will buy its own debt to
control long-term rates)
Next, the Fed could make �outright purchases of corporate
bonds (high yield and high grade); outright purchases of mortgages and private
and agency MBS as well as agency debt; forcing Fannie and Freddie to vastly
expand their portfolios by buying and/or guaranteeing more mortgages and
bundles of mortgages; one could decide to directly subsidize mortgages with
fiscal resources; the Fed (or Treasury) could even go as far as directly
intervening in the stock market via direct purchases of equities as a way to
boost falling equity prices. Some of such policy actions seem extreme but they
were in the playbook that Governor Bernanke described in his 2002 speech on how
to avoid deflation. They all imply serious risks for the Fed and concerns about
�Finally, the Fed could try to follow aggressive policies to
attempt to prevent deflation from setting in: massive quantitative easing; such
as letting the dollar weaken sharply, flooding markets with unlimited
unsterilized liquidity; talking down the value of the dollar; direct and
massive intervention in the forex to weaken the dollar.� (MW: Intentionally
weakening the dollar to spur consumer spending and exports)
The bottom line is that Geithner and Summers will have to
recapitalize the banks and deal with the massive corporate defaults at the same
time they initiate their strategy for pumping liquidity into the system to keep
the economy limping along. It�s a tall order and there�s no guarantee of
Whitney lives in Washington state. He can be reached at firstname.lastname@example.org.