I will be on the FOX business channel this evening. 7-8. This is different from regular Fox cable.
This blog got me that opportunity. Thanks to you all.
bk
Friday, February 27, 2009
Thursday, February 26, 2009
Bernanke - What he said
He said:
We came close to a financial melt down last fall – only the coordinated global response avoided collapse.
I for one am glad he put it that way. I thought at the time we might be in a global meltdown. But everything was still working. The banks were open, the stores had lots of stuff. There were no lines or violence. The roads were full of cars. There was no evidence of a meltdown.
If we were melting down in the fall what are we doing today? Things have gotten much much worse. The slow down is rapidly affecting every segment of our society. The S&P just went through last falls lows. We are close to losing the essence of two of our largest banks. Are we still melting down?
Capital given banks has slowed down the de-leveraging pace.
Fiddle sticks. Lending has fallen by $8 Trillion from the collapse of the shadow banking system in just the last year. You slowed that down?
It may be worth looking at re-instating the up-tick rule.
What?? We have lost 10 Trillion in market cap since you eliminated the up-tick rule. It was a dumb rule for sure, but it had been there for 60 years so the market was used to it. The VIX started climbing as soon as you took it off. The S&P is at 750 for a lot of reasons. But, it would look different today if the up-tick rule had not been eliminated. The outcome of both Bear and Lehman would have been different.
Just a question. Did you share your thoughts on this matter with Cox at SEC when the debate on this was raging five months ago? I thought we were ‘melting down’.
The FED will provide up to 1 Trillion for TALF. The credit risks would be quite low.
TALF is going to buy up those “safe’ credit card and auto receivables. Student loans as well. These are low credit risks? Ben, you need to get out of DC. The talk in America is about debt repudiation. These are bad credits you are buying. Even worse, because you wear a red, white and blue suit you will never be able to collect on those IOU’s.
We are on the ‘right track’ in dealing with the financial crisis.
I might sleep better after reading these words. Lets see, so far you are spending 3 Trillion of borrowed money to fix this. You have brought 6-7 Trillion on the public sector balance sheet, and to top it off you are monetizing debt through the purchase of Agency and Treasury paper. Twenty years from now the economists at Princeton will study this period. They will opine on whether we are on the right track. It’s a little early for us to conclude that today. It narrows the options.
The Government may take sizable minority positions in several banks.
Sizable minority. Nice use of words. How about Big but not Too Big. That would be politically correct. In this case he means 40%. That is Big. Too Big would 51% and then we have socialism. We do not want Too Big do we?
40% of Citi is worth $5 billion today. The tape says so. There was $40 Billion of TARP Preff. Are we taking a loss here? Do you have a mark to market problem? You are not going to get a lot of slack on this. We all hate it. But mark to market will not go away.
Entities that “need assistance” should pay little or no dividends.
Just a clarifying question. GE did $15 Billion of term notes with FDIC backing. Is that assistance? When you said that about dividends you were talking about those folks at Citi, Not GE. Right? Tell me that is right.
Home prices will get to “fundamental” levels.
What does that mean? This is eco speak at its worst. Give us some guidance Ben. We need some visibility.
How about this equation: Fundamental value is equal to 15X the annual rent. The problem with that is that if you applied that formula you would wipe out 1/3 of the real estate values on both the East and West coasts of the United States. Let’s not get too fundamental.
No plans for anything like Nationalizing Citi.
That is not true. You have lawyers working for you and at Treasury who are burning the midnight oil coming up with contingency options for you to consider if things get tougher. We are at war Ben. Nothing is off the table.
We came close to a financial melt down last fall – only the coordinated global response avoided collapse.
I for one am glad he put it that way. I thought at the time we might be in a global meltdown. But everything was still working. The banks were open, the stores had lots of stuff. There were no lines or violence. The roads were full of cars. There was no evidence of a meltdown.
If we were melting down in the fall what are we doing today? Things have gotten much much worse. The slow down is rapidly affecting every segment of our society. The S&P just went through last falls lows. We are close to losing the essence of two of our largest banks. Are we still melting down?
Capital given banks has slowed down the de-leveraging pace.
Fiddle sticks. Lending has fallen by $8 Trillion from the collapse of the shadow banking system in just the last year. You slowed that down?
It may be worth looking at re-instating the up-tick rule.
What?? We have lost 10 Trillion in market cap since you eliminated the up-tick rule. It was a dumb rule for sure, but it had been there for 60 years so the market was used to it. The VIX started climbing as soon as you took it off. The S&P is at 750 for a lot of reasons. But, it would look different today if the up-tick rule had not been eliminated. The outcome of both Bear and Lehman would have been different.
Just a question. Did you share your thoughts on this matter with Cox at SEC when the debate on this was raging five months ago? I thought we were ‘melting down’.
The FED will provide up to 1 Trillion for TALF. The credit risks would be quite low.
TALF is going to buy up those “safe’ credit card and auto receivables. Student loans as well. These are low credit risks? Ben, you need to get out of DC. The talk in America is about debt repudiation. These are bad credits you are buying. Even worse, because you wear a red, white and blue suit you will never be able to collect on those IOU’s.
We are on the ‘right track’ in dealing with the financial crisis.
I might sleep better after reading these words. Lets see, so far you are spending 3 Trillion of borrowed money to fix this. You have brought 6-7 Trillion on the public sector balance sheet, and to top it off you are monetizing debt through the purchase of Agency and Treasury paper. Twenty years from now the economists at Princeton will study this period. They will opine on whether we are on the right track. It’s a little early for us to conclude that today. It narrows the options.
The Government may take sizable minority positions in several banks.
Sizable minority. Nice use of words. How about Big but not Too Big. That would be politically correct. In this case he means 40%. That is Big. Too Big would 51% and then we have socialism. We do not want Too Big do we?
40% of Citi is worth $5 billion today. The tape says so. There was $40 Billion of TARP Preff. Are we taking a loss here? Do you have a mark to market problem? You are not going to get a lot of slack on this. We all hate it. But mark to market will not go away.
Entities that “need assistance” should pay little or no dividends.
Just a clarifying question. GE did $15 Billion of term notes with FDIC backing. Is that assistance? When you said that about dividends you were talking about those folks at Citi, Not GE. Right? Tell me that is right.
Home prices will get to “fundamental” levels.
What does that mean? This is eco speak at its worst. Give us some guidance Ben. We need some visibility.
How about this equation: Fundamental value is equal to 15X the annual rent. The problem with that is that if you applied that formula you would wipe out 1/3 of the real estate values on both the East and West coasts of the United States. Let’s not get too fundamental.
No plans for anything like Nationalizing Citi.
That is not true. You have lawyers working for you and at Treasury who are burning the midnight oil coming up with contingency options for you to consider if things get tougher. We are at war Ben. Nothing is off the table.
GE - A fastball is coming
It looked for a bit today that GE was going to trade at 10. Round numbers do not mean a lot but GE with a sub 10 handle makes me nervous. No such luck.
At 9 bucks they have a market cap loss of $400 billion in under two years. The press is still making a big stink about Madoff and a measly $50bil. This is serious money. Citicorp is trading a couple of bucks from the Pinks. The worst case for C is a total wipe out. That would mean a peak to trough in market cap of $300 billion. GE has that beat already.
At 9$ a share it is unlikely that they can do a secondary or rights offering to shore up a weak balance sheet. At $7 there is no market solution available. Below $5 implies a market/economic environment that is pretty dark.
What is wrong with this dog? Why does everyone hate GE? My thoughts:
-GE has $530 billion of debt on its balance sheet. In 2009 debt = death. Too much of this debt is short-term. $65 billion is coming due in the next year. Without government guarantees this is going to be a tough nut to crack. Just the empirical size of this makes it strike one.
-When you own the bonds you have to look at what is ‘underneath ‘you. How much equity is there to shelter these poor bondholders? It is very difficult to put values on businesses these days. Ask AIG, there are no buyers of big strategic assets. Not for cash, anyway.
GE reports tangible book value of $1.40 a share. That comes to about $8 billion. 8 into 530 is a big scary number. That may not be a popular methodology for determining GE’s debt ratio. Unfortunately, it happens to be the one the market is looking at. Strike two.
-A reader reminds me that the $15+ billion of Level Three assets that GE has on the books is a valuation risk. The following definition of Level Three assets does not give me the warm and fuzzy feeling I was hoping for.
Level 3 assets trade infrequently, as a result there are not many reliable market prices for them. Valuations of these assets are typically based on management assumptions or expectations.
A working estimate for level three assets is 50%. Maybe GE has only the ‘good’ stuff. My guess is that if it were worth par they would have sold it. If you mark those level threes to 50 you push that tangible book to a very low number and that leverage ratio just gets silly. Foul tip?
-There are some incredibly smart folks at GECC. For the past decade they have perfected the art of off balance sheet financing. You have to assume they were successful. For sure some of those assets and liabilities are a hidden risk to the balance sheet. There are a lot of nervous creditors out there today. If there were any chance you might get a GECC guarantee back on the table you would try. These deals have all manner of covenants. Material Adverse Change, Net Worth covenants, default covenants tied to GE’s eligibility for margin stock, cross defaults. Because of all that talent in Stamford I’ll give this just another foul tip. But you can bet there are lawyers out there looking at all those deals, and they are sharp too.
-Jeff Immelt is GE’s best asset and worst liability. No one knows GE like he does. He has the support of the troops. But Jeff made a pact with the devil. He promised “Institutional Investors” that he would keep the dividend, hell or high water. Well, we are in hell and the water is rising.
Face it Jeff, those institutional investors hate you already. It can’t get worse, as far as that goes. The dividend is only $1.25; the stock is down $20 in a year. You were trying to protect the wrong thing. The dividend /strong balance sheet issue should have been a lay up choice for you. Strong balance sheets are in these days. You need to fix yours. It starts with the dividend cut that is already six months over due. You want to see the stock with a 10+ handle? Cut the dividend. It is the right thing to do.
It’s a fastball that’s coming. It is in the zone. What are you going to do Jeff? Hit it or whiff?
At 9 bucks they have a market cap loss of $400 billion in under two years. The press is still making a big stink about Madoff and a measly $50bil. This is serious money. Citicorp is trading a couple of bucks from the Pinks. The worst case for C is a total wipe out. That would mean a peak to trough in market cap of $300 billion. GE has that beat already.
At 9$ a share it is unlikely that they can do a secondary or rights offering to shore up a weak balance sheet. At $7 there is no market solution available. Below $5 implies a market/economic environment that is pretty dark.
What is wrong with this dog? Why does everyone hate GE? My thoughts:
-GE has $530 billion of debt on its balance sheet. In 2009 debt = death. Too much of this debt is short-term. $65 billion is coming due in the next year. Without government guarantees this is going to be a tough nut to crack. Just the empirical size of this makes it strike one.
-When you own the bonds you have to look at what is ‘underneath ‘you. How much equity is there to shelter these poor bondholders? It is very difficult to put values on businesses these days. Ask AIG, there are no buyers of big strategic assets. Not for cash, anyway.
GE reports tangible book value of $1.40 a share. That comes to about $8 billion. 8 into 530 is a big scary number. That may not be a popular methodology for determining GE’s debt ratio. Unfortunately, it happens to be the one the market is looking at. Strike two.
-A reader reminds me that the $15+ billion of Level Three assets that GE has on the books is a valuation risk. The following definition of Level Three assets does not give me the warm and fuzzy feeling I was hoping for.
Level 3 assets trade infrequently, as a result there are not many reliable market prices for them. Valuations of these assets are typically based on management assumptions or expectations.
A working estimate for level three assets is 50%. Maybe GE has only the ‘good’ stuff. My guess is that if it were worth par they would have sold it. If you mark those level threes to 50 you push that tangible book to a very low number and that leverage ratio just gets silly. Foul tip?
-There are some incredibly smart folks at GECC. For the past decade they have perfected the art of off balance sheet financing. You have to assume they were successful. For sure some of those assets and liabilities are a hidden risk to the balance sheet. There are a lot of nervous creditors out there today. If there were any chance you might get a GECC guarantee back on the table you would try. These deals have all manner of covenants. Material Adverse Change, Net Worth covenants, default covenants tied to GE’s eligibility for margin stock, cross defaults. Because of all that talent in Stamford I’ll give this just another foul tip. But you can bet there are lawyers out there looking at all those deals, and they are sharp too.
-Jeff Immelt is GE’s best asset and worst liability. No one knows GE like he does. He has the support of the troops. But Jeff made a pact with the devil. He promised “Institutional Investors” that he would keep the dividend, hell or high water. Well, we are in hell and the water is rising.
Face it Jeff, those institutional investors hate you already. It can’t get worse, as far as that goes. The dividend is only $1.25; the stock is down $20 in a year. You were trying to protect the wrong thing. The dividend /strong balance sheet issue should have been a lay up choice for you. Strong balance sheets are in these days. You need to fix yours. It starts with the dividend cut that is already six months over due. You want to see the stock with a 10+ handle? Cut the dividend. It is the right thing to do.
It’s a fastball that’s coming. It is in the zone. What are you going to do Jeff? Hit it or whiff?
Tuesday, February 24, 2009
Bernanke - the pot calls the kettle black
Bernanke laid it on the line today. I heard him say that the Fed and Treasury were going to provide debt and equity capital to many of the Nation's banks. Failure to do so was not an option. He pledged that the Risky Lending Standards of the past would be eliminated. He promised to ‘fix’ the errors that had been made by the misguided bankers.
It sure sounded good. The market even liked it. It is bunk. The following is an example of how Lending Standards are set in DC. You decide. Are these good lending standards? Is this good business practice? The following is happening on a very regular basis. The numbers are big.
Fannie Mae and Freddie Mac have always had terms for a Conforming mortgage. A Conforming mortgage requires 20% equity from the buyer. That makes for a good borrower. That is a ‘good’ lending standard.
Many years ago the Agencies and the insurance industry created a carve-out to the Conforming mortgage definition. If an 'approved’ insurance company was willing to take a first loss on the loan portion that was in excess of 80% then the Agencies would buy the mortgages. No more 20% down.
This practice morphed. It started with 10% equity, 10% mortgage insurance. It ended with –3% equity, 23% insurance. These are terrible lending standards. The borrowers have no risk. Fannie Mae and Freddie Mac bought as much of this “enhanced” paper that they could. The yields were great and how could they lose if the likes of AIG were going to guarantee the first loss?
This of course ended very badly. The insurers got crushed. It is not clear what their claims paying ability is any longer. Fannie and Freddie are big losers on the enhanced book of business as well. The losses on the enhanced mortgages far exceeded the 10–20% that was insured. The only ones who made out were the regional banks that originated and sold the risky loans to the Agencies. FNM recently reported that its default rate on enhanced loans was 5 X’s larger than on loans that had the traditional 20% down. Bad lending standards make for bad loans.
These questionable standards are business as usual today at Fannie and Freddie. They continue to buy pools of mortgages where the required equity of a borrower has been replaced with an insurance company promise to pay. The incredible part is that one of those “approved’ insurers continues to be AIG.
22% of Fannie's 08 business was enhanced. AIG was one of the biggest providers of the PMI coverage.
AIG owes its existence to the taxpayers. Yet they are writing first loss insurance on high risk mortgages. With this questionable promise to pay attached, the loans can be sold to another ward of the state, FNM. These are terrible lending standards and it is bad business practice. The taxpayers are at risk to both sides of this transaction. If history is a guide 'we' will ultimately suffer losses from both AIG and FNM on this business.
The PMI/AIG/FNM connection is understood by Geithner. Lockhart and Bernanke. They are aware of the entire PMI time bomb within the Agencies. That they are allowing this to continue today does not evoke much confidence in Bernanke’s claim to end the Reckless Lending Standards of the past.
It sure sounded good. The market even liked it. It is bunk. The following is an example of how Lending Standards are set in DC. You decide. Are these good lending standards? Is this good business practice? The following is happening on a very regular basis. The numbers are big.
Fannie Mae and Freddie Mac have always had terms for a Conforming mortgage. A Conforming mortgage requires 20% equity from the buyer. That makes for a good borrower. That is a ‘good’ lending standard.
Many years ago the Agencies and the insurance industry created a carve-out to the Conforming mortgage definition. If an 'approved’ insurance company was willing to take a first loss on the loan portion that was in excess of 80% then the Agencies would buy the mortgages. No more 20% down.
This practice morphed. It started with 10% equity, 10% mortgage insurance. It ended with –3% equity, 23% insurance. These are terrible lending standards. The borrowers have no risk. Fannie Mae and Freddie Mac bought as much of this “enhanced” paper that they could. The yields were great and how could they lose if the likes of AIG were going to guarantee the first loss?
This of course ended very badly. The insurers got crushed. It is not clear what their claims paying ability is any longer. Fannie and Freddie are big losers on the enhanced book of business as well. The losses on the enhanced mortgages far exceeded the 10–20% that was insured. The only ones who made out were the regional banks that originated and sold the risky loans to the Agencies. FNM recently reported that its default rate on enhanced loans was 5 X’s larger than on loans that had the traditional 20% down. Bad lending standards make for bad loans.
These questionable standards are business as usual today at Fannie and Freddie. They continue to buy pools of mortgages where the required equity of a borrower has been replaced with an insurance company promise to pay. The incredible part is that one of those “approved’ insurers continues to be AIG.
22% of Fannie's 08 business was enhanced. AIG was one of the biggest providers of the PMI coverage.
AIG owes its existence to the taxpayers. Yet they are writing first loss insurance on high risk mortgages. With this questionable promise to pay attached, the loans can be sold to another ward of the state, FNM. These are terrible lending standards and it is bad business practice. The taxpayers are at risk to both sides of this transaction. If history is a guide 'we' will ultimately suffer losses from both AIG and FNM on this business.
The PMI/AIG/FNM connection is understood by Geithner. Lockhart and Bernanke. They are aware of the entire PMI time bomb within the Agencies. That they are allowing this to continue today does not evoke much confidence in Bernanke’s claim to end the Reckless Lending Standards of the past.
Sunday, February 22, 2009
Lockhart’s Fibs and the US AAA
James B. Lockhart was appointed as the Director of OFHEO in June of 2006. He was the chief regulator, the top cop, and the buck stops here guy for both Fannie Mae and Freddie Mac. He is currently the Director of FHFA; he therefore continues to be the ‘go to guy’, when it comes to America’s mortgage crisis. Talk about Change.
Mr. Lockhart is reported to be one of the nicest guys in Washington. He appears soft-spoken, honest, and hard working. He is clearly uncomfortable in the public eye. He somehow evokes both compassion and confidence. You want Lockhart to run the Boy Scouts of America or be the pilot of your next flight. “Don’t worry. Capt. James B. will get you home safe tonight”. Clearly the mortgage crisis has taken a toll on him.
Unfortunately Mr. Lockhart has lied to us in the past and he is lying to us today.
For example:
July 8, 2008
“Mortgage financiers Fannie Mae and Freddie Mac are adequately capitalized said James Lockhart, director of the Office of Federal Housing Enterprise, which regulates the two enterprises. “
That was the first big lie. At the time he still had credibility. Important people relied on him.
July 10,2008
"Their regulator has made clear that they are adequately capitalized,” Treasury Secretary Paulson said.
A biblical pass of the buck. Two months later:
September 7,2008
U.S. seizes Fannie and Freddie. Treasury chief Paulson unveils historic government takeover of twin mortgage buyers.
In this last week of February 2009 there are two kinds of credits, Sovereign and Non-sovereign. Fannie and Freddie are still bastards. No one wants to really “own” them. Mr. Lockhart is relying on half-truths to obfuscate the problem.
Mr. Lockhart attempted once again to ‘fool’ the markets as to the Agencies status in a recent television interview. He described U.S. backing of the Agencies as “effective,” though not “explicit.”
Sorry Mr. Lockhart, in this matter Effective sounds an awful lot like your promise of Adequate. You fooled the market once. Shame on you. You won’t fool the market twice.
Foreign investors sold $170 billion of agency debt and securities in the second half of 2008, the largest amount since the Treasury began tracking sales in 1977. Asians, the biggest non-U.S. block of owners in the category, unloaded $70 billion worth from July through December. That is just what they sold. They are not renewing any old bonds as they come due. $800 billion of Agency paper is coming due this year. Clearly the effective guarantee is ineffective.
Given that the market does not trust Mr. Lockhart there are only two paths ahead. They both lead to the same end. If the guarantee is limited to being ‘effective’ then the Fed will be forced to buy all of the Agency debt in order to provide some glimmer of hope to the US housing market by keeping mortgage rates down. If the guarantee is made 'explicit' then the Agencies will be able to self-finance at a small premium to Treasuries.
Either way the debt of the Agencies is coming onto the Federal balance sheet. This assumption must include the Agencies $3 Trillion in funded indebtedness and all of the $4 Trillion of existing guarantees on outstanding RMBS paper. Those RMBS securities are not money good at this point. Failure to stand behind those Agency guarantees would be a financial lights out event, and therefore not an option.
This $7 Trillion, together with the existing debt and the 09 deficits comes to close to $14 Trillion. Given the expected drop in US GDP this year America’s Public Sector Indebtedness could exceed 100% of GDP. A terrible state of affairs. By comparison:
(08 numbers, source: CIA fact book, in % of GDP)
China 16%
South Korea 27%
Brazil 41%
Germany 62%
France 64%
USA 100% (Pro-forma)
Japan 170%
Japan lost its AAA rating some years ago over its aggregate indebtedness. In Japan’s credit defense is the fact that they have an enormous pool of domestic savings. This moderates the effect of the government debt. By comparison America has a negative savings rate.
It will be a long time before the credit rating agencies drop the US AAA. It doesn’t matter. The rating agencies have been discredited. No one believes them anymore. The market is it’s own determinant of credit worthiness and relative pricing.
We created the market economy and prospered from it. The markets are now eating us alive. We can’t control them. Markets have controlled the regulators, politicians and bankers at every turn these past nine months. They will continue to do so in the future.
At some point the unending flight to safety issue will abate. When/if that happens US Treasuries are going to look more like an A then what we used to call a AAA. It is difficult to imagine how to finance $14 Trillion with that in mind.
Mr. Lockhart is reported to be one of the nicest guys in Washington. He appears soft-spoken, honest, and hard working. He is clearly uncomfortable in the public eye. He somehow evokes both compassion and confidence. You want Lockhart to run the Boy Scouts of America or be the pilot of your next flight. “Don’t worry. Capt. James B. will get you home safe tonight”. Clearly the mortgage crisis has taken a toll on him.
Unfortunately Mr. Lockhart has lied to us in the past and he is lying to us today.
For example:
July 8, 2008
“Mortgage financiers Fannie Mae and Freddie Mac are adequately capitalized said James Lockhart, director of the Office of Federal Housing Enterprise, which regulates the two enterprises. “
That was the first big lie. At the time he still had credibility. Important people relied on him.
July 10,2008
"Their regulator has made clear that they are adequately capitalized,” Treasury Secretary Paulson said.
A biblical pass of the buck. Two months later:
September 7,2008
U.S. seizes Fannie and Freddie. Treasury chief Paulson unveils historic government takeover of twin mortgage buyers.
In this last week of February 2009 there are two kinds of credits, Sovereign and Non-sovereign. Fannie and Freddie are still bastards. No one wants to really “own” them. Mr. Lockhart is relying on half-truths to obfuscate the problem.
Mr. Lockhart attempted once again to ‘fool’ the markets as to the Agencies status in a recent television interview. He described U.S. backing of the Agencies as “effective,” though not “explicit.”
Sorry Mr. Lockhart, in this matter Effective sounds an awful lot like your promise of Adequate. You fooled the market once. Shame on you. You won’t fool the market twice.
Foreign investors sold $170 billion of agency debt and securities in the second half of 2008, the largest amount since the Treasury began tracking sales in 1977. Asians, the biggest non-U.S. block of owners in the category, unloaded $70 billion worth from July through December. That is just what they sold. They are not renewing any old bonds as they come due. $800 billion of Agency paper is coming due this year. Clearly the effective guarantee is ineffective.
Given that the market does not trust Mr. Lockhart there are only two paths ahead. They both lead to the same end. If the guarantee is limited to being ‘effective’ then the Fed will be forced to buy all of the Agency debt in order to provide some glimmer of hope to the US housing market by keeping mortgage rates down. If the guarantee is made 'explicit' then the Agencies will be able to self-finance at a small premium to Treasuries.
Either way the debt of the Agencies is coming onto the Federal balance sheet. This assumption must include the Agencies $3 Trillion in funded indebtedness and all of the $4 Trillion of existing guarantees on outstanding RMBS paper. Those RMBS securities are not money good at this point. Failure to stand behind those Agency guarantees would be a financial lights out event, and therefore not an option.
This $7 Trillion, together with the existing debt and the 09 deficits comes to close to $14 Trillion. Given the expected drop in US GDP this year America’s Public Sector Indebtedness could exceed 100% of GDP. A terrible state of affairs. By comparison:
(08 numbers, source: CIA fact book, in % of GDP)
China 16%
South Korea 27%
Brazil 41%
Germany 62%
France 64%
USA 100% (Pro-forma)
Japan 170%
Japan lost its AAA rating some years ago over its aggregate indebtedness. In Japan’s credit defense is the fact that they have an enormous pool of domestic savings. This moderates the effect of the government debt. By comparison America has a negative savings rate.
It will be a long time before the credit rating agencies drop the US AAA. It doesn’t matter. The rating agencies have been discredited. No one believes them anymore. The market is it’s own determinant of credit worthiness and relative pricing.
We created the market economy and prospered from it. The markets are now eating us alive. We can’t control them. Markets have controlled the regulators, politicians and bankers at every turn these past nine months. They will continue to do so in the future.
At some point the unending flight to safety issue will abate. When/if that happens US Treasuries are going to look more like an A then what we used to call a AAA. It is difficult to imagine how to finance $14 Trillion with that in mind.
Thursday, February 19, 2009
2/19/2009
Meredith Whitney was on TV this afternoon. This woman has called the developments perfectly. She has been way ahead of the tape. When she speaks the markets listen. She is the new oracle. She has achieved a status not seen since Abby Joseph Cohen was making a case for NASDAQ 20,000.
Meredith said today that her best short idea was Citibank. The stock is at $2.50 down 95% and it is still her best bet. Stunning. Pandit must be pleased.
We are in trouble. C can go to zero tomorrow and it will just mean a couple of points on the S&P. But, does anyone believe that the stimulus has a chance of success if C is trading in the Pink Sheets?
GE is trading at 10. That is a $400 billion drop in market cap. The dividend is at 11.5% at the current price. 150mm shares traded today. The options market is putting a big bet on that the stock is going below $7.50. Even the folks at CNBC can’t find anything favorable to say. Imelt takes a $12mm pay cut and he is still at risk of losing his job.
Bank of America closed below 4 bucks. The market cap is now less than $20 bil. They can’t maneuver. BAC is joining the ‘dead money’ list. Sorry Ken. How much pain is out there for the folks who converted their Merrill shares for the shares of BAC? Some White Knight they turned out to be. More like a white tornado that sucked up a lot of wealth.
Crude spiked 14% on an inventory report. The other day the contango was at record levels. This implies that there is not much capital around to finance crude and there was too much spot inventory. Inventories are being run down as the economy deflates. There is no clarity as to where crude prices are headed. It is much easier to predict from the facts at hand that distillate inventories are going to be a global problem before the end of the year.
The Japanese market is in the crapper too. Down 80% in 19 years. If someone ever mentions the buy and hold to me again I will kill them.
UBS folded like a cheap suit in the rain. So much for You and Us. It was just Us all along. This afternoon the Feds announced they were going after another 52,000 names. The minimum balance on these accounts was $250,000 the average closer to a million. The good news is that this is going to mean 15 to 20 Bil of revenue for Treasury. They are pulling out all of the stops in DC these days. The other piece of good news is that 52,000 lawyers are going to get paid before this story is over. Is that really good news?
The Swiss Franc has been in an uptrend against just about every currency since WWII. You have to wonder if today’s developments might change the way that money has moved for the past sixty years. A sure bet is that the hotels, restaurants and luxury goods stores on the Bahnhofstrasse are going to feel the pinch. Grumpy gnomes, there is something to that.
Meredith said today that her best short idea was Citibank. The stock is at $2.50 down 95% and it is still her best bet. Stunning. Pandit must be pleased.
We are in trouble. C can go to zero tomorrow and it will just mean a couple of points on the S&P. But, does anyone believe that the stimulus has a chance of success if C is trading in the Pink Sheets?
GE is trading at 10. That is a $400 billion drop in market cap. The dividend is at 11.5% at the current price. 150mm shares traded today. The options market is putting a big bet on that the stock is going below $7.50. Even the folks at CNBC can’t find anything favorable to say. Imelt takes a $12mm pay cut and he is still at risk of losing his job.
Bank of America closed below 4 bucks. The market cap is now less than $20 bil. They can’t maneuver. BAC is joining the ‘dead money’ list. Sorry Ken. How much pain is out there for the folks who converted their Merrill shares for the shares of BAC? Some White Knight they turned out to be. More like a white tornado that sucked up a lot of wealth.
Crude spiked 14% on an inventory report. The other day the contango was at record levels. This implies that there is not much capital around to finance crude and there was too much spot inventory. Inventories are being run down as the economy deflates. There is no clarity as to where crude prices are headed. It is much easier to predict from the facts at hand that distillate inventories are going to be a global problem before the end of the year.
The Japanese market is in the crapper too. Down 80% in 19 years. If someone ever mentions the buy and hold to me again I will kill them.
UBS folded like a cheap suit in the rain. So much for You and Us. It was just Us all along. This afternoon the Feds announced they were going after another 52,000 names. The minimum balance on these accounts was $250,000 the average closer to a million. The good news is that this is going to mean 15 to 20 Bil of revenue for Treasury. They are pulling out all of the stops in DC these days. The other piece of good news is that 52,000 lawyers are going to get paid before this story is over. Is that really good news?
The Swiss Franc has been in an uptrend against just about every currency since WWII. You have to wonder if today’s developments might change the way that money has moved for the past sixty years. A sure bet is that the hotels, restaurants and luxury goods stores on the Bahnhofstrasse are going to feel the pinch. Grumpy gnomes, there is something to that.
Tuesday, February 17, 2009
A Proposal to Stimulate the US Housing Market
In order to stimulate demand for residential housing the United States expands the existing EB-5 visa program to include immigrant investors who purchase a home in the US with a value of not less than $250,000.
The demand for this type of visa from non-residents could be substantial. It could exceed 100,000 per year. The current volume of unsold homes is in the range of 2,000,000. Therefore this proposal will address 5% of the problem per year. This by itself would be a significant source of stability for housing prices. Stability must come before recovery.
The following is a description of the existing EB-5 visa program.
Congress created the EB-5 immigrant investor visa category in the Immigration Act of 1990 in the hopes of attracting foreign capital to the US and creating jobs for American workers in the process.
There are three basic requirements as follows:
• First, the alien must establish a business or invest in an existing business that was created or restructured after November 19,1990
• Second, the alien must have invested $1 million ($500,000 in some cases) in the business
• Third, the business must create full-time employment for at least 10 US workers
This language could easily be amended/expanded to create demand for housing. The framework is there. This proposal re-directs the objectives but not the intent of Congress.
The devil will be in the details. If there was a will in Congress it could be done in a week. These laws already exist. We do not need a new Bill to do this. This proposal only addresses legal immigration.
There is another advantage to this approach. This proposal will not cost us a cent. That would be a first.
The demand for this type of visa from non-residents could be substantial. It could exceed 100,000 per year. The current volume of unsold homes is in the range of 2,000,000. Therefore this proposal will address 5% of the problem per year. This by itself would be a significant source of stability for housing prices. Stability must come before recovery.
The following is a description of the existing EB-5 visa program.
Congress created the EB-5 immigrant investor visa category in the Immigration Act of 1990 in the hopes of attracting foreign capital to the US and creating jobs for American workers in the process.
There are three basic requirements as follows:
• First, the alien must establish a business or invest in an existing business that was created or restructured after November 19,1990
• Second, the alien must have invested $1 million ($500,000 in some cases) in the business
• Third, the business must create full-time employment for at least 10 US workers
This language could easily be amended/expanded to create demand for housing. The framework is there. This proposal re-directs the objectives but not the intent of Congress.
The devil will be in the details. If there was a will in Congress it could be done in a week. These laws already exist. We do not need a new Bill to do this. This proposal only addresses legal immigration.
There is another advantage to this approach. This proposal will not cost us a cent. That would be a first.
Thursday, February 12, 2009
An Alternate Solution to the Bad Bank Problem
The fundamental issues that must be addressed include:
-The total size of the US banks asset problem is $2 Trillion. (See Goldman Sachs report today) A much larger amount than the Geithner plan addresses. In addition, there are foreign banks that hold $1 Trillion of troubled US assets. The market knows this and that is why the Geithner plan fell so flat.
-There is no way to fairly value the problem assets. Either you kill the banks or you cheat the taxpayers. This has always been a fatal flaw of the Bad Bank approach.
-The $800 billion Stimulus program has little chance of success unless the banking sector has been stabilized and made viable.
-America has limited financial resources to deal with this problem in the year 2009.
The following is an outline of an alternate plan. It address all of the issues identified above. This approach relies on techniques that have been used in the past. It is not free. But it is clean.
-Congress authorizes a new Resolution Trust “RTCII”.
-Congress authorizes RTCII to borrow money. Up to a face amount of $2 Trillion.
-Congress Authorizes Treasury to Guarantee the Obligations of RTCII
-RTCII issues $2 Trillion of zero coupon bonds due in twenty years. The implicit coupon on the bond is set at 10%.
Note: Yes I said 10%. The proper market coupon for this would be 3.5%. Therefore these zero coupon bonds would be priced to yield 6.5% higher than comparable Treasuries. I said there was a cost. The 6.5% premium is a cost that would be born by the taxpayers. There will be potential offsetting gains, but that can’t be predicted. I will provide details on the costs to the public of this proposal at the end of the discussion.
At a rate of 10% the price today of the 2 Trillion of zero coupon bonds is $300 billion. That is the dramatic effect of compound interest over twenty years. The cash cost is 15% of par.
$300 billion is equal to what Treasury gave to the banks in TARP I. That is important because A) the banks have the money, and B) in this transaction they will use that money to buy the RTCII zero coupon bonds. This returns the TARP money back to the Treasury.
There are many strings attached to allowing a bank to acquire the RTCII bonds. The following is a discussion as to how it could work with a fictitious bank: Gotham Bank or “G”.
Assume that G is very big and important. G has already taken $45 Billion of TARP money. G has a mountain of questionable loans. These bad loans come from all segments of its loan/investment portfolio. A total of 1/4 ($300 Billion) of its book is tainted. There is no way to value this at this time. To liquidate the portfolio at current market levels would wipe G out.
-G takes the $45 Billion of TARP money and buys $300 Billion (45/15%=300) of RTCII Zero’s.
Again, this process returns the TARP money back to Treasury. This transaction is a swap of the TARP funds for a like amount of cash value RTCII zeros. It eliminates the taxpayer exposure and replaces it with an obligation due in 20 years.
G bank Takes the $300mm of face value zeros and the $300mm of questionable loans and separates them from its remaining core activities. It is both a good bank and a bad bank.
To do this and balance the books G must take a one time, non-cash write off of as much as $45 Billion. As this is a non-cash loss it will not impair G.
As part of the transaction G will give common shares to RTCII. In addition the TARP Preferred stock will be converted to common equity. The banks need to have common equity, not preferred, if they are to survive and have strong balance sheets.
The payment outcome of the questionable assets is now certain. They will be worth their full value in 20 years because they are 100% secured by the RTCII Zero coupon bonds. Because principal payment is now certain, the accountants, AICPA and FASB will all sign off. No need for mark to market any longer. There is precedent for this. The necessary favorable accounting treatment was granted to the banks in the mid 1980’s when the Brady Plan was introduced to save the banks from soured loans to developing countries. This is a bigger scale, but the principal is the same.
In future periods G would benefit from collections made from the assets in the bad bank. It could be a source of significant income over time. It can no longer produce a loss. G bank has been saved. What is good for G bank is also good for US taxpayers going forward.
G Bank, all the other banks, Treasury and the Fed would love this. It will work. The question is how much will it cost. And how will that cost be felt over time.
There is no cash cost to this solution for twenty years. That is very favorable. However there is an effective cost of $700 billion to the taxpayers over the 20-year life of the transaction. That means that it will cost us $35 billion a year for 20 years. Over the life of this proposal this will average about 5 Basis Points of GDP. A manageable annual cost.
The $700 Billion is a very big number. But look again at what has been done. The first step of this is that the $350 Billion of TARP money is returned to the Treasury. In addition, there will be no need to spend the remaining $350 Billion of Tarp money.
There is an additional potential benefit from this approach. There are many foreign banks that do business in the US that have their own problem loans to US borrowers. These banks play an important role in our economy. They would love to be in this plan as well. The plan can be easily expanded to include foreign banks. However the cost of this would not be born by US taxpayers. If a UK bank wanted to participate, then the UK taxpayers would have to subsidize that cost. The cost to the US taxpayers would be zero.
The foreign banks that would want to participate in this program would require subsidies from their central banks. This would therefore be similar to our TARP program. All of the relevant central banks have enormous swap lines with the NY FED. Therefore the subsidized amount could be funded with no capital market consequence. This is another key benefit.
There is nothing in this proposal that requires any current funding. There would be a favorable cash flow to Treasury of $350 Billion. In 2009 this is a very important consequence. There is already a risk that the US has crowded itself out of the debt market. Future issuance of Treasury debt is staggering. This proposal reverses $700 billion of current year financing requirements into future years. This solves almost 1/3 of the current year funding requirement. By itself, this makes for a compelling argument in favor of this approach to the problem.
This plan would have a carrot and a stick to it. The structure of the transaction eliminates the risk of principal loss to the bank. Therefore they will have a tremendous incentive to renegotiate problem loans. They would have the capacity to reduce both principal and interest on existing loans without loss. This is what has to be done to clear the logjam.
In exchange for the privilege of buying the RTCII zero’s the banks agree to use this as a way of absorbing the losses over twenty years. This takes the necessary restructuring of the loans away from the public sector and leaves the problem where it belongs, between borrower, lender and if necessary a court. The amount of Government money required to restructure mortgage and credit card debt to more manageable levels would be greatly reduced by this proposal. All the parties would have a motivation to restructure and move on.
This approach would create an incentive for the banks to restructure credit card debt. Assume that there is a borrower who is seriously delinquent on $20,000 in CC debt. The bank can now say, “pay me $50 per month for the next twenty years. “ The borrower would love that. It would solve their problem.
For the bank it means that over the next twenty years they will collect $12,000 (50*12*20) plus they will collect the $20,000 at maturity from the zero. Today they are sitting with a bad loan. Using this approach they will collect their full principal and a reasonable return. The borrower will be able to restructure under manageable terms.
Assume that a borrower had a $200,000 mortgage on a home worth only $120,000 today. The bank could write the mortgage down to $100,000 (half!) and reduce the remaining interest to a 4% fixed rate for twenty years. A tremendous improvement in terms for the borrower. The bank would receive $80,000 (4% for 20 years) plus $100,000 (principal) plus $200,000 (proceeds from the RTC zero). A total of $380,000 over the twenty-year period. Again, a reasonable return for the bank.
We must create the capacity to absorb the losses and restructure the debt in a way that preserves the viability of the financial system.
I would appreciate any comments, thoughts, ideas, rage or enthusiasm that this outline may evoke.
http://brucekrasting.blogspot.com
-The total size of the US banks asset problem is $2 Trillion. (See Goldman Sachs report today) A much larger amount than the Geithner plan addresses. In addition, there are foreign banks that hold $1 Trillion of troubled US assets. The market knows this and that is why the Geithner plan fell so flat.
-There is no way to fairly value the problem assets. Either you kill the banks or you cheat the taxpayers. This has always been a fatal flaw of the Bad Bank approach.
-The $800 billion Stimulus program has little chance of success unless the banking sector has been stabilized and made viable.
-America has limited financial resources to deal with this problem in the year 2009.
The following is an outline of an alternate plan. It address all of the issues identified above. This approach relies on techniques that have been used in the past. It is not free. But it is clean.
-Congress authorizes a new Resolution Trust “RTCII”.
-Congress authorizes RTCII to borrow money. Up to a face amount of $2 Trillion.
-Congress Authorizes Treasury to Guarantee the Obligations of RTCII
-RTCII issues $2 Trillion of zero coupon bonds due in twenty years. The implicit coupon on the bond is set at 10%.
Note: Yes I said 10%. The proper market coupon for this would be 3.5%. Therefore these zero coupon bonds would be priced to yield 6.5% higher than comparable Treasuries. I said there was a cost. The 6.5% premium is a cost that would be born by the taxpayers. There will be potential offsetting gains, but that can’t be predicted. I will provide details on the costs to the public of this proposal at the end of the discussion.
At a rate of 10% the price today of the 2 Trillion of zero coupon bonds is $300 billion. That is the dramatic effect of compound interest over twenty years. The cash cost is 15% of par.
$300 billion is equal to what Treasury gave to the banks in TARP I. That is important because A) the banks have the money, and B) in this transaction they will use that money to buy the RTCII zero coupon bonds. This returns the TARP money back to the Treasury.
There are many strings attached to allowing a bank to acquire the RTCII bonds. The following is a discussion as to how it could work with a fictitious bank: Gotham Bank or “G”.
Assume that G is very big and important. G has already taken $45 Billion of TARP money. G has a mountain of questionable loans. These bad loans come from all segments of its loan/investment portfolio. A total of 1/4 ($300 Billion) of its book is tainted. There is no way to value this at this time. To liquidate the portfolio at current market levels would wipe G out.
-G takes the $45 Billion of TARP money and buys $300 Billion (45/15%=300) of RTCII Zero’s.
Again, this process returns the TARP money back to Treasury. This transaction is a swap of the TARP funds for a like amount of cash value RTCII zeros. It eliminates the taxpayer exposure and replaces it with an obligation due in 20 years.
G bank Takes the $300mm of face value zeros and the $300mm of questionable loans and separates them from its remaining core activities. It is both a good bank and a bad bank.
To do this and balance the books G must take a one time, non-cash write off of as much as $45 Billion. As this is a non-cash loss it will not impair G.
As part of the transaction G will give common shares to RTCII. In addition the TARP Preferred stock will be converted to common equity. The banks need to have common equity, not preferred, if they are to survive and have strong balance sheets.
The payment outcome of the questionable assets is now certain. They will be worth their full value in 20 years because they are 100% secured by the RTCII Zero coupon bonds. Because principal payment is now certain, the accountants, AICPA and FASB will all sign off. No need for mark to market any longer. There is precedent for this. The necessary favorable accounting treatment was granted to the banks in the mid 1980’s when the Brady Plan was introduced to save the banks from soured loans to developing countries. This is a bigger scale, but the principal is the same.
In future periods G would benefit from collections made from the assets in the bad bank. It could be a source of significant income over time. It can no longer produce a loss. G bank has been saved. What is good for G bank is also good for US taxpayers going forward.
G Bank, all the other banks, Treasury and the Fed would love this. It will work. The question is how much will it cost. And how will that cost be felt over time.
There is no cash cost to this solution for twenty years. That is very favorable. However there is an effective cost of $700 billion to the taxpayers over the 20-year life of the transaction. That means that it will cost us $35 billion a year for 20 years. Over the life of this proposal this will average about 5 Basis Points of GDP. A manageable annual cost.
The $700 Billion is a very big number. But look again at what has been done. The first step of this is that the $350 Billion of TARP money is returned to the Treasury. In addition, there will be no need to spend the remaining $350 Billion of Tarp money.
There is an additional potential benefit from this approach. There are many foreign banks that do business in the US that have their own problem loans to US borrowers. These banks play an important role in our economy. They would love to be in this plan as well. The plan can be easily expanded to include foreign banks. However the cost of this would not be born by US taxpayers. If a UK bank wanted to participate, then the UK taxpayers would have to subsidize that cost. The cost to the US taxpayers would be zero.
The foreign banks that would want to participate in this program would require subsidies from their central banks. This would therefore be similar to our TARP program. All of the relevant central banks have enormous swap lines with the NY FED. Therefore the subsidized amount could be funded with no capital market consequence. This is another key benefit.
There is nothing in this proposal that requires any current funding. There would be a favorable cash flow to Treasury of $350 Billion. In 2009 this is a very important consequence. There is already a risk that the US has crowded itself out of the debt market. Future issuance of Treasury debt is staggering. This proposal reverses $700 billion of current year financing requirements into future years. This solves almost 1/3 of the current year funding requirement. By itself, this makes for a compelling argument in favor of this approach to the problem.
This plan would have a carrot and a stick to it. The structure of the transaction eliminates the risk of principal loss to the bank. Therefore they will have a tremendous incentive to renegotiate problem loans. They would have the capacity to reduce both principal and interest on existing loans without loss. This is what has to be done to clear the logjam.
In exchange for the privilege of buying the RTCII zero’s the banks agree to use this as a way of absorbing the losses over twenty years. This takes the necessary restructuring of the loans away from the public sector and leaves the problem where it belongs, between borrower, lender and if necessary a court. The amount of Government money required to restructure mortgage and credit card debt to more manageable levels would be greatly reduced by this proposal. All the parties would have a motivation to restructure and move on.
This approach would create an incentive for the banks to restructure credit card debt. Assume that there is a borrower who is seriously delinquent on $20,000 in CC debt. The bank can now say, “pay me $50 per month for the next twenty years. “ The borrower would love that. It would solve their problem.
For the bank it means that over the next twenty years they will collect $12,000 (50*12*20) plus they will collect the $20,000 at maturity from the zero. Today they are sitting with a bad loan. Using this approach they will collect their full principal and a reasonable return. The borrower will be able to restructure under manageable terms.
Assume that a borrower had a $200,000 mortgage on a home worth only $120,000 today. The bank could write the mortgage down to $100,000 (half!) and reduce the remaining interest to a 4% fixed rate for twenty years. A tremendous improvement in terms for the borrower. The bank would receive $80,000 (4% for 20 years) plus $100,000 (principal) plus $200,000 (proceeds from the RTC zero). A total of $380,000 over the twenty-year period. Again, a reasonable return for the bank.
We must create the capacity to absorb the losses and restructure the debt in a way that preserves the viability of the financial system.
I would appreciate any comments, thoughts, ideas, rage or enthusiasm that this outline may evoke.
http://brucekrasting.blogspot.com
Monday, February 9, 2009
Transcript of Conversation between Geithner and Volker 2/9
Transcript of phone conversation between Paul Volker (“BIG PAULIE’) and Tim Geithner (“TIMMY”)
BIG PAULIE: Good afternoon Tim. Are you ready for your big day tomorrow?
TIMMY: Well, to be honest I am nervous about this. It is a really big deal. I am not sure that we have a good plan. I am not sure that we have any plan.
BIG PAULIE: Did you outline the plan like I told you?
TIMMY: Yes, Sheila and I did what you told us to do. But I must tell you that neither she nor I agree with this proposal. We want more money to really fix things. We want to follow the Paulson Plan. He got a bazooka. And I want one too.
BIG PAULIE: There is no bazooka for you. There is no money for a bazooka. We are spending all the money on the stimulus plan.
TIMMY: I am also worried about the bond market. This is a really, really big week for Treasury. We have $67 billion of bonds for sale. The market is soft. We broke 3% on the ten year today. I am really worried. This could be a terrible week for me. And it is only my second week. I haven’t slept for days. If the market does not like my bailout plan the stock market could start crashing again. It is so much to worry about.
BIG PAULIE: Timmy, you have to calm down. We need you looking confident. You sound like you have lost before you even start. Do not sweat this stuff. I have it all fixed.
TIMMY: What do you mean fixed? What is fixed?
BIG PAULIE: Well first of all don’t worry about this week’s auction. I have that covered. If need be there will be a stealth bid.
TIMMY: A who bid?
BIG PAULIE: Stealth. Get it? Like secret? Bernanke is going to be bidding. He will be a phantom bidder. He is going to bid for size under the market to make the bid to cover ratio look good. And he is is going to be bidding aggressively on top of that for good-sized chunks. When word gets out he is on the bid the shorts are going to drop dead and run. Heh, heh.
TIMMY: Bernake is going to do that? He is going to be the stealth buyer? When I ran the New York Fed we never did anything like that. That sounds like you are monetizing the debt. That would be bad. How did you get him to do that?
BIG PAULIE: Monetize, smonetize. Do not use that word. Ever. Got that? These are Open Market purchases. That is what we are going to call them. Hold on I gotta do something. (Sounds of a cigar being lit is heard)
BIG PAULIE: About the hearing tomorrow. We are going with the shotgun approach I told you about right?
TIMMY: Yes but I really do not think that we have a big enough package. We can’t fool people with your plan. Your plan takes up maybe $500 billion of problems. That does not get it done. The problem is much bigger and the market knows it. The Sub Prime and Alt A are 1.5 Trillion. There are problems with A paper too. Then we have credit cards and auto loans. And corporate loans too. The market is going to laugh at this. I will look silly.
BIG PAULIE: We are going to have a half dozen sawed off shotguns when we are done. We will have some guarantees, We will have some insurance, we will have auctions to buy some of this stuff, we are going to partner up with some private equity guys and create a humongous leveraged CDO funded by Uncle SAM, the FDIC has deep pockets and of course I own Fannie and Freddie. And the rest of the TARP. So we have some ammo.
And by the way, have you ever been in a room where a couple a 12 gauges go off? I won’t kill anyone., but I will scare them to death. Watch them lawyer’s come. Bang! They are gone. I will keep the lawyers and the shorts at bay.Bang!
TIMMY: But that will not solve the problem. It will only delay it.
BIG PAULIE: Listen kid, I saved the financial system once before. I will do it again. But it has to be done my way. Last time I raised interest rates so high that it killed inflation. This time I am going to keep them near zero to beat back deflation. It is all about controlling the bond market. Puff, Puff, Puff And of course controlling the banks.
TIMMY: I don’t get it. Am I missing something?
BIG PAULIE: We own Fannie and Freddie. That is $2 Trillion in assets. Then we own the banks. They do not know it yet. But we own them and they will do what I tell them to do. So that is another $10 Trillion. The banks are paying 1/4 percent for money. They are earning 5% on their book. You know how much money that is?
TIMMY: Okay, hold on. Okay I got it. That comes to $570 billion a year. Wow! That is a lot of money! How did you do that? Two years of that and maybe the banks just might make it. That is another stealth move. You subsidize the banks without anyone knowing there is a subsidy. 1.2 Trillion over two years plus our measly $500mm. That might do it.
BIG PAULIE: I got Bernake to sign up for it. I told him he had to get short term rates to zero. And keep them there until I say so. And he had to be the stealth buyer at the auctions.
TIMMY: Boy that is asking a lot. You must be a good negotiator.
BIG PAULIE: I made him an offer he couldn't refuse. Either Buy or, Bye Bye.
TIMMY: Ouch! Well I am still worried about the stock markets reaction. You can fool the bond market, but not the stock market.
BIG PAULIE:I have that covered too. We are putting out a feeler along the lines of the Social Security Trust fund buying some common stock. We are going to call it the Buffett plan. Everybody loves this guy. It is a very credible story.
TIMMY: Hold on. I writing this down. This part about Social Security. Is that true? Are we talking about this? Because this is the first I have heard of it. This is big news..
BIG PAULIE: Do not call it news. Call it a rumor of news. That is different. That way if it doesn’t happen we can just say that we discussed it. We just did. Get it? So maybe you can tell that to someone. Get it?
TIMMY: Uh huh. I see. Rumor of news. I like that.
TIMMY: I am thinking. What you said. What you are doing. You’re controlling the bond market, the stock market, the Federal Reserve, the Treasury and Congress and the press. Have I got that right?
BIG PAULIE: That’s why they call me Big Paulie. Gotta go.
CLICK
Heard from BIG PAULIE: Puff, Wimp, Puff
Heard from TIMMY: Oh. Oh, my sphincter. Where is the number of that lady from the Times?
BIG PAULIE: Good afternoon Tim. Are you ready for your big day tomorrow?
TIMMY: Well, to be honest I am nervous about this. It is a really big deal. I am not sure that we have a good plan. I am not sure that we have any plan.
BIG PAULIE: Did you outline the plan like I told you?
TIMMY: Yes, Sheila and I did what you told us to do. But I must tell you that neither she nor I agree with this proposal. We want more money to really fix things. We want to follow the Paulson Plan. He got a bazooka. And I want one too.
BIG PAULIE: There is no bazooka for you. There is no money for a bazooka. We are spending all the money on the stimulus plan.
TIMMY: I am also worried about the bond market. This is a really, really big week for Treasury. We have $67 billion of bonds for sale. The market is soft. We broke 3% on the ten year today. I am really worried. This could be a terrible week for me. And it is only my second week. I haven’t slept for days. If the market does not like my bailout plan the stock market could start crashing again. It is so much to worry about.
BIG PAULIE: Timmy, you have to calm down. We need you looking confident. You sound like you have lost before you even start. Do not sweat this stuff. I have it all fixed.
TIMMY: What do you mean fixed? What is fixed?
BIG PAULIE: Well first of all don’t worry about this week’s auction. I have that covered. If need be there will be a stealth bid.
TIMMY: A who bid?
BIG PAULIE: Stealth. Get it? Like secret? Bernanke is going to be bidding. He will be a phantom bidder. He is going to bid for size under the market to make the bid to cover ratio look good. And he is is going to be bidding aggressively on top of that for good-sized chunks. When word gets out he is on the bid the shorts are going to drop dead and run. Heh, heh.
TIMMY: Bernake is going to do that? He is going to be the stealth buyer? When I ran the New York Fed we never did anything like that. That sounds like you are monetizing the debt. That would be bad. How did you get him to do that?
BIG PAULIE: Monetize, smonetize. Do not use that word. Ever. Got that? These are Open Market purchases. That is what we are going to call them. Hold on I gotta do something. (Sounds of a cigar being lit is heard)
BIG PAULIE: About the hearing tomorrow. We are going with the shotgun approach I told you about right?
TIMMY: Yes but I really do not think that we have a big enough package. We can’t fool people with your plan. Your plan takes up maybe $500 billion of problems. That does not get it done. The problem is much bigger and the market knows it. The Sub Prime and Alt A are 1.5 Trillion. There are problems with A paper too. Then we have credit cards and auto loans. And corporate loans too. The market is going to laugh at this. I will look silly.
BIG PAULIE: We are going to have a half dozen sawed off shotguns when we are done. We will have some guarantees, We will have some insurance, we will have auctions to buy some of this stuff, we are going to partner up with some private equity guys and create a humongous leveraged CDO funded by Uncle SAM, the FDIC has deep pockets and of course I own Fannie and Freddie. And the rest of the TARP. So we have some ammo.
And by the way, have you ever been in a room where a couple a 12 gauges go off? I won’t kill anyone., but I will scare them to death. Watch them lawyer’s come. Bang! They are gone. I will keep the lawyers and the shorts at bay.Bang!
TIMMY: But that will not solve the problem. It will only delay it.
BIG PAULIE: Listen kid, I saved the financial system once before. I will do it again. But it has to be done my way. Last time I raised interest rates so high that it killed inflation. This time I am going to keep them near zero to beat back deflation. It is all about controlling the bond market. Puff, Puff, Puff And of course controlling the banks.
TIMMY: I don’t get it. Am I missing something?
BIG PAULIE: We own Fannie and Freddie. That is $2 Trillion in assets. Then we own the banks. They do not know it yet. But we own them and they will do what I tell them to do. So that is another $10 Trillion. The banks are paying 1/4 percent for money. They are earning 5% on their book. You know how much money that is?
TIMMY: Okay, hold on. Okay I got it. That comes to $570 billion a year. Wow! That is a lot of money! How did you do that? Two years of that and maybe the banks just might make it. That is another stealth move. You subsidize the banks without anyone knowing there is a subsidy. 1.2 Trillion over two years plus our measly $500mm. That might do it.
BIG PAULIE: I got Bernake to sign up for it. I told him he had to get short term rates to zero. And keep them there until I say so. And he had to be the stealth buyer at the auctions.
TIMMY: Boy that is asking a lot. You must be a good negotiator.
BIG PAULIE: I made him an offer he couldn't refuse. Either Buy or, Bye Bye.
TIMMY: Ouch! Well I am still worried about the stock markets reaction. You can fool the bond market, but not the stock market.
BIG PAULIE:I have that covered too. We are putting out a feeler along the lines of the Social Security Trust fund buying some common stock. We are going to call it the Buffett plan. Everybody loves this guy. It is a very credible story.
TIMMY: Hold on. I writing this down. This part about Social Security. Is that true? Are we talking about this? Because this is the first I have heard of it. This is big news..
BIG PAULIE: Do not call it news. Call it a rumor of news. That is different. That way if it doesn’t happen we can just say that we discussed it. We just did. Get it? So maybe you can tell that to someone. Get it?
TIMMY: Uh huh. I see. Rumor of news. I like that.
TIMMY: I am thinking. What you said. What you are doing. You’re controlling the bond market, the stock market, the Federal Reserve, the Treasury and Congress and the press. Have I got that right?
BIG PAULIE: That’s why they call me Big Paulie. Gotta go.
CLICK
Heard from BIG PAULIE: Puff, Wimp, Puff
Heard from TIMMY: Oh. Oh, my sphincter. Where is the number of that lady from the Times?
Sunday, February 8, 2009
Letter to Ben Stein 2/8/2009
Dear Mr. Stein,
I am not sure what the point of your piece in the NY Times this morning was.
http://www.nytimes.com/2009/02/08/business/08every.html?ref=business
My take on it was that you feel that unemployment is really not that big a deal and that the real problem we have to address is the fact that our banks are in trouble.
Ben, the problem is that unemployment and the weak economy have been a major factor in the decline of housing values. You think that all we have to do is prop up a few banks and we will back to the good old days. You could not be more wrong.
I think you are talking your book. You are an investor. You are a property owner. I can understand why you want to believe that we are going to magically revert to the way things were four years ago. That is not in the cards. If you believe that Citi and BoA can be ‘fixed’ you are wrong. They will be wards of the state for a very long time.
You played loose with the facts to make your point. You said the RTC made money for the taxpayers. I do not think so. The General Accounting Office reported in July of 1996 that total losses were$87.9 Billion. Refer to document GAO/AIMD-96-123.
In the 1989 to 92 period the RTC did acquire lots of toxic loans. They did it because the banks that made the loans went bust. The banks were shuttered and the existing management was fired. The stockholders were wiped out.
The FDIC was then, as it is today obligated to make depositors whole. When a bank was seized back then the depositors got their money back and the RTC got all of the assets for free. Taxpayers did not shell out money to buy assets. They shelled out money to make good on the FDIC obligations.
You admit that there is no fair way to evaluate these assets. May I remind you that three months after TARP spent $350 buying assets we find out that those assets are worth $78 billion less than we paid. Do you really think that this buying you want can be done at a “fair” price given that as an example?
If you want to hold up the RTC as road map for what we should be doing in 2009 then I would agree with you. Lets do it the way we did it then. Let the banks that made the mistakes fail. The New RTC will acquire the assets from the FDIC. Ben, failure has to be part of this process. If there is no penalty this is going to happen again.
You touched on this important point but missed the proper conclusion by a mile. Let me quote from your article:
“Yes, they will do stupid, immoral, evil things with some of the money. They are humans and that’s what humans do. We’re sloppy and often dishonest.”
Are you kidding with this? You acknowledge that the same folks that got us into this mess will do stupid, immoral and evil things in the future. Why on earth would you allow/encourage that to happen?
And as for being sloppy and dishonest, speak for yourself and the bankers and politicians that got us here. There are a lot of folks out there that do not live their lives in a sloppy and dishonest way. Some of them are even bankers.
You have written on several occasions as to what a mistake it was to have Lehman Brothers fail. I am sorry that Lehman is gone too. It was a great shop with great people. But they screwed up. They built an over leveraged balance sheet that had too much risk. They had to fail. I am sorry that you lost money in that one. But do not let your personal losses cloud your judgment. The risk of failure must be part of the solution. That is the way it has always been.
I am glad that you are doing so well Ben. You are a successful actor, writer and businessman. Your commercials are everywhere. I am sure that Clear Eyes is doing great business thanks to your ads and all the crying that is going on these days. But you do not know anything about what it is like to be unemployed. For you, that is something that happens to those ‘other’ people. You have your priorities backward. Saving Citi is less important than saving the workers who are now out of work.
The word is hubris Ben. Get some.
I am not sure what the point of your piece in the NY Times this morning was.
http://www.nytimes.com/2009/02/08/business/08every.html?ref=business
My take on it was that you feel that unemployment is really not that big a deal and that the real problem we have to address is the fact that our banks are in trouble.
Ben, the problem is that unemployment and the weak economy have been a major factor in the decline of housing values. You think that all we have to do is prop up a few banks and we will back to the good old days. You could not be more wrong.
I think you are talking your book. You are an investor. You are a property owner. I can understand why you want to believe that we are going to magically revert to the way things were four years ago. That is not in the cards. If you believe that Citi and BoA can be ‘fixed’ you are wrong. They will be wards of the state for a very long time.
You played loose with the facts to make your point. You said the RTC made money for the taxpayers. I do not think so. The General Accounting Office reported in July of 1996 that total losses were$87.9 Billion. Refer to document GAO/AIMD-96-123.
In the 1989 to 92 period the RTC did acquire lots of toxic loans. They did it because the banks that made the loans went bust. The banks were shuttered and the existing management was fired. The stockholders were wiped out.
The FDIC was then, as it is today obligated to make depositors whole. When a bank was seized back then the depositors got their money back and the RTC got all of the assets for free. Taxpayers did not shell out money to buy assets. They shelled out money to make good on the FDIC obligations.
You admit that there is no fair way to evaluate these assets. May I remind you that three months after TARP spent $350 buying assets we find out that those assets are worth $78 billion less than we paid. Do you really think that this buying you want can be done at a “fair” price given that as an example?
If you want to hold up the RTC as road map for what we should be doing in 2009 then I would agree with you. Lets do it the way we did it then. Let the banks that made the mistakes fail. The New RTC will acquire the assets from the FDIC. Ben, failure has to be part of this process. If there is no penalty this is going to happen again.
You touched on this important point but missed the proper conclusion by a mile. Let me quote from your article:
“Yes, they will do stupid, immoral, evil things with some of the money. They are humans and that’s what humans do. We’re sloppy and often dishonest.”
Are you kidding with this? You acknowledge that the same folks that got us into this mess will do stupid, immoral and evil things in the future. Why on earth would you allow/encourage that to happen?
And as for being sloppy and dishonest, speak for yourself and the bankers and politicians that got us here. There are a lot of folks out there that do not live their lives in a sloppy and dishonest way. Some of them are even bankers.
You have written on several occasions as to what a mistake it was to have Lehman Brothers fail. I am sorry that Lehman is gone too. It was a great shop with great people. But they screwed up. They built an over leveraged balance sheet that had too much risk. They had to fail. I am sorry that you lost money in that one. But do not let your personal losses cloud your judgment. The risk of failure must be part of the solution. That is the way it has always been.
I am glad that you are doing so well Ben. You are a successful actor, writer and businessman. Your commercials are everywhere. I am sure that Clear Eyes is doing great business thanks to your ads and all the crying that is going on these days. But you do not know anything about what it is like to be unemployed. For you, that is something that happens to those ‘other’ people. You have your priorities backward. Saving Citi is less important than saving the workers who are now out of work.
The word is hubris Ben. Get some.
Friday, February 6, 2009
Shadow Banking- Who Knew?
Our entire banking system is heavily regulated. That has been the case since 1933. A cornerstone of this regulatory structure is the requirement that banks set aside reserves when they make a loan. The amount they have to set aside varies with the perceived risk of the underlying loan. On average this comes to 5%. It is referred to as Tier One Capital.
This was intended to preserve the soundness of the banking system. By and large, it worked pretty well over the years.
Simply put this means that when a bank makes a loan it has to put up 5% of the loan in equity, the balance of the loan could be borrowed money from depositors. This means that the maximum leverage ration of a bank should not exceed 20 to 1. (5x20=100).
If these simple rules had been adhered to we would not be in the trouble we are in today. The problem was that banks could not earn enough money to satisfy shareholders. They needed at least 30 to 1 leverage ratio.
Ever since the reserve requirements were established banks have been trying to find ways to expand their balance sheets and at the same time avoid the need for reserves. In the 1970’s they stumbled onto the perfect solution. They would sell the loans to third parties. Get them off their books. Absolutely brilliant. A bank could make a loan. Package it up. Take a front-end fee and a rake of future income. Then sell it. No reserve requirement necessary thank you, and here is a nice bonus to boot.
The problem at first was that there were not many buyers of the loans. All of the effort was driven to find/create demand. There was an unlimited supply of loans. Then another brilliant development. Merrill Lynch invented the Money Market fund. It was an overnight success. Money Market funds were not insured by the FDIC so no reserve requirements.
Loans could now be sold to Money Market funds. The Shadow Banking System was born.
Banks spent the next thirty-five years perfecting and expanding this business model of creating and then selling loans. They were extraordinarily successful.
By June of 2007 the unregulated Shadow Banking System had grown to 10.5 Trillion dollars. Staggering! At that time the regulated banking system was less than 10 Trillion. The Shadow Banking System was larger than the regulated system. In 2007 it was an accident waiting to happen. In 2008 the accident happened.
A relatively minor problem, sub prime debt, surfaced as an issue. The size of this segment of the debt market should have been absorbable if those loans were held by the banks. But they were in the Shadow system. It just happened that this was the straw that broke camels back.
The Shadow System has gone into a death spiral since June of 07. The collapse of the Shadow system is why there is a global credit crunch. I believe that it is has imploded by at least half. A drop in liquidity of 5 Trillion. At least one quarter of global liquidity has dried up in less than a year.
Some thoughts on this:
-There is no way that the regulated banks can replace the $5T in lost liquidity. Congress can beat them with a stick or give them TARP money. The banks can’t put a dent into this shortfall. It’s too big.
-To get back to where we were 18 months ago the FEDS would have to create the $5T. They are doing their best, but they are still at least $3T short. What does that mean? It means get your seat belts on.
-This is not a regulatory oversight issue. This thing was 10T in size. It was a big elephant in a small bedroom. Everyone knew about it. Greenspan spoke of it often. The conscious decision was made by DC to ignore this growing time bomb. The Shadow industry had very powerful voices in DC.
-Treasury Secretary Geithner and Fed President Bernanke and Congressman Barney Frank were very well aware of the scope of this problem. They both have testified and written on the subject. I am not blaming them for this problem. However I do wonder if the guys who were a part of the problem should be a part of the solution.
This was intended to preserve the soundness of the banking system. By and large, it worked pretty well over the years.
Simply put this means that when a bank makes a loan it has to put up 5% of the loan in equity, the balance of the loan could be borrowed money from depositors. This means that the maximum leverage ration of a bank should not exceed 20 to 1. (5x20=100).
If these simple rules had been adhered to we would not be in the trouble we are in today. The problem was that banks could not earn enough money to satisfy shareholders. They needed at least 30 to 1 leverage ratio.
Ever since the reserve requirements were established banks have been trying to find ways to expand their balance sheets and at the same time avoid the need for reserves. In the 1970’s they stumbled onto the perfect solution. They would sell the loans to third parties. Get them off their books. Absolutely brilliant. A bank could make a loan. Package it up. Take a front-end fee and a rake of future income. Then sell it. No reserve requirement necessary thank you, and here is a nice bonus to boot.
The problem at first was that there were not many buyers of the loans. All of the effort was driven to find/create demand. There was an unlimited supply of loans. Then another brilliant development. Merrill Lynch invented the Money Market fund. It was an overnight success. Money Market funds were not insured by the FDIC so no reserve requirements.
Loans could now be sold to Money Market funds. The Shadow Banking System was born.
Banks spent the next thirty-five years perfecting and expanding this business model of creating and then selling loans. They were extraordinarily successful.
By June of 2007 the unregulated Shadow Banking System had grown to 10.5 Trillion dollars. Staggering! At that time the regulated banking system was less than 10 Trillion. The Shadow Banking System was larger than the regulated system. In 2007 it was an accident waiting to happen. In 2008 the accident happened.
A relatively minor problem, sub prime debt, surfaced as an issue. The size of this segment of the debt market should have been absorbable if those loans were held by the banks. But they were in the Shadow system. It just happened that this was the straw that broke camels back.
The Shadow System has gone into a death spiral since June of 07. The collapse of the Shadow system is why there is a global credit crunch. I believe that it is has imploded by at least half. A drop in liquidity of 5 Trillion. At least one quarter of global liquidity has dried up in less than a year.
Some thoughts on this:
-There is no way that the regulated banks can replace the $5T in lost liquidity. Congress can beat them with a stick or give them TARP money. The banks can’t put a dent into this shortfall. It’s too big.
-To get back to where we were 18 months ago the FEDS would have to create the $5T. They are doing their best, but they are still at least $3T short. What does that mean? It means get your seat belts on.
-This is not a regulatory oversight issue. This thing was 10T in size. It was a big elephant in a small bedroom. Everyone knew about it. Greenspan spoke of it often. The conscious decision was made by DC to ignore this growing time bomb. The Shadow industry had very powerful voices in DC.
-Treasury Secretary Geithner and Fed President Bernanke and Congressman Barney Frank were very well aware of the scope of this problem. They both have testified and written on the subject. I am not blaming them for this problem. However I do wonder if the guys who were a part of the problem should be a part of the solution.
Thursday, February 5, 2009
A View of the Dark Side
I am very happy to see that there is such across the board opposition to the Bailout mentality. We simply can’t bailout everything. But we need to think a bit about what life might be like if we did not intervene to save this patient.
The things that I describe below are not things that I think will happen. They are things that might have happened if we had not taken the steps that have been taken. They are things that still might happen if we do not continue to act.
On the day after “we” announce that we are turning back the bailout clock the following things will happen:
The things that I describe below are not things that I think will happen. They are things that might have happened if we had not taken the steps that have been taken. They are things that still might happen if we do not continue to act.
On the day after “we” announce that we are turning back the bailout clock the following things will happen:
-There would be an overnight closing of a substantial number of our nations banks. That is not to say that your money in your account s will be lost. You just will not be able to get your hands on it.
-The vast majority of credit cards would be cancelled. This has nothing to do with your credit score or your payment history. They just would not work.
-The global stock markets would collapse by an additional 50%. The value of all ‘paper assets’ would be wiped out. Wealth destruction.
-The shut down in credit would affect everything. Go into a grocery store. Look at all the products to choose from. Everything that you are looking at has been financed. The absence of credit would mean that inventories would disappear. Within a week the shelves would be depleted. There would be long lines for anything that was available. A food rationing distribution system will be hard to implement. People would go hungry as a result.
-Gas stations would close. They too are dependant on credit to fill their storage tanks. Long lines and panic buying would follow for those stations that remained open.
-The private economy would collapse. Consumer spending would fall by 30-40 percent. Far in excess of the drop in aggregate demand in the 1929-34 period.
-All manner of retailers would just close their stores. Without credit cards for their customers and no inventory to sell they would be forced to lock their doors. Most of the malls would be closed.
-The unemployment rate would jump to levels never seen before. Who knows how high it could go? 30-40 percent would be possible. The only stable job would be for Federal workers. That would not do us much good. The economy can’t be sustained on Federal expenditures alone. The Post Office would only deliver three days a week.
-Real Estate values would collapse. Values would fall until they reach the level where rent income supports the value. Because of the number of vacant homes that will result, rental income will plummet. And with that so will all RE values. It will be a continuation of the vicious cycle we have seen for the past 18 months. But this time it will happen almost overnight.
-Commercial aviation will come to a halt. No customers, no fuel. The ability to fly anywhere will be limited. The cost of travel will be prohibitive.
-There would be a breakdown of the medical industry. Insurance companies would be unable to pay claims. If you broke your leg you would get treatment. If you needed a liver transplant or a complicated chemotherapy you would be out of luck.
-All manner of sports franchises would just close. Some teams might survive for a while. But they would have no one to play with and the stadiums would be empty. No one would have $50 to go see a game. NASCAR would not exist.
-Advertising revenues would collapse. With that, all types of media would stop producing content. Only re-runs of Lost, sorry. No new episodes of anything. Newspapers would stop printing.
-State and Municipal governments would quickly fall victims of the financial collapse. They would have no revenues. They would have no access to debt. They are bound to have a stable budget. Therefore all manner of public services would be eliminated or curtailed. No garbage pick up, snow plowing, libraries, public transit, police. The list of cut backs would be endless.
-Public schools would be faced with acute budget shortages. Many schools would be forced to close or merge with other districts. Half of all teachers would be laid off.
-Utilities would be affected. They are huge users of borrowed capital. They are dependant on their customers paying them every month. Problems would emerge in various regions. Shortages and brownouts would be the result.
-Arson would become the “solution’ to the excess of housing. Our cities will burn.
-Lawlessness would take over. I think that we have no idea what hungry people will do to feed themselves and their children.
-This horrible picture will look good as compared to what would be happening outside of our borders. In the heavily populated countries there could be complete chaos.
-Once the downward spiral is allowed to start it becomes a self-fulfilling prophecy. It will continue for a very long time. A lost decade will be the result.
Again, these are not things that I think will happen. I think they are things that could happen. We are playing with fire.
-The vast majority of credit cards would be cancelled. This has nothing to do with your credit score or your payment history. They just would not work.
-The global stock markets would collapse by an additional 50%. The value of all ‘paper assets’ would be wiped out. Wealth destruction.
-The shut down in credit would affect everything. Go into a grocery store. Look at all the products to choose from. Everything that you are looking at has been financed. The absence of credit would mean that inventories would disappear. Within a week the shelves would be depleted. There would be long lines for anything that was available. A food rationing distribution system will be hard to implement. People would go hungry as a result.
-Gas stations would close. They too are dependant on credit to fill their storage tanks. Long lines and panic buying would follow for those stations that remained open.
-The private economy would collapse. Consumer spending would fall by 30-40 percent. Far in excess of the drop in aggregate demand in the 1929-34 period.
-All manner of retailers would just close their stores. Without credit cards for their customers and no inventory to sell they would be forced to lock their doors. Most of the malls would be closed.
-The unemployment rate would jump to levels never seen before. Who knows how high it could go? 30-40 percent would be possible. The only stable job would be for Federal workers. That would not do us much good. The economy can’t be sustained on Federal expenditures alone. The Post Office would only deliver three days a week.
-Real Estate values would collapse. Values would fall until they reach the level where rent income supports the value. Because of the number of vacant homes that will result, rental income will plummet. And with that so will all RE values. It will be a continuation of the vicious cycle we have seen for the past 18 months. But this time it will happen almost overnight.
-Commercial aviation will come to a halt. No customers, no fuel. The ability to fly anywhere will be limited. The cost of travel will be prohibitive.
-There would be a breakdown of the medical industry. Insurance companies would be unable to pay claims. If you broke your leg you would get treatment. If you needed a liver transplant or a complicated chemotherapy you would be out of luck.
-All manner of sports franchises would just close. Some teams might survive for a while. But they would have no one to play with and the stadiums would be empty. No one would have $50 to go see a game. NASCAR would not exist.
-Advertising revenues would collapse. With that, all types of media would stop producing content. Only re-runs of Lost, sorry. No new episodes of anything. Newspapers would stop printing.
-State and Municipal governments would quickly fall victims of the financial collapse. They would have no revenues. They would have no access to debt. They are bound to have a stable budget. Therefore all manner of public services would be eliminated or curtailed. No garbage pick up, snow plowing, libraries, public transit, police. The list of cut backs would be endless.
-Public schools would be faced with acute budget shortages. Many schools would be forced to close or merge with other districts. Half of all teachers would be laid off.
-Utilities would be affected. They are huge users of borrowed capital. They are dependant on their customers paying them every month. Problems would emerge in various regions. Shortages and brownouts would be the result.
-Arson would become the “solution’ to the excess of housing. Our cities will burn.
-Lawlessness would take over. I think that we have no idea what hungry people will do to feed themselves and their children.
-This horrible picture will look good as compared to what would be happening outside of our borders. In the heavily populated countries there could be complete chaos.
-Once the downward spiral is allowed to start it becomes a self-fulfilling prophecy. It will continue for a very long time. A lost decade will be the result.
Again, these are not things that I think will happen. I think they are things that could happen. We are playing with fire.
Wednesday, February 4, 2009
Fannie and the Emperor
Fannie Mae announced last evening that they had completed a financing of $7 billion of five-year notes.
They paid 93 Basis Points over Treasuries.
What this means is that they are paying $63,000,000 a year more than the Treasury for this financing. Over the five years, that comes to more than $300mm.
Come on guys. Fannie is Treasury. The taxpayers already own Fannie. We have functionally guaranteed their debt obligations.
There is a solution. Treasury could have issued the $7bil. They could have then lent it to Fannie. The lending facilities necessary to allow this to happen are already in place. In all manner and respects Fannie =Treasury= Taxpayer.
This is being done to maintain the facade that Fannie is some form of independent company. It is not. We own it. I wish that were not the case. But these cards have been dealt.
$300mm is big bucks these days. We could do a lot with that. Every month Fannie will be doing this. Freddie Mac is doing the same. So in the aggregate the numbers are enormous. My estimate is that this will cost us $10billion in 2009. That is serious money.
We are struggling with the notion that the financial system is being socialized. In the case of Fannie and Freddie there is no debate. They have been socialized. And that will be the case for at least a decade.
We are going to pay for that. But there is no reason we have to pay twice.
Here is a simple rule: If the Market cost of debt capital for the Agencies is greater than 25 bp's over the prevailing Treasury yield for similar maturities, then Treasury will fund the Agencies and issue the debt.
That would save us at least $6 billion a year. To achieve that all we have to do is recognize that this Emperor has no clothes. He is naked.
They paid 93 Basis Points over Treasuries.
What this means is that they are paying $63,000,000 a year more than the Treasury for this financing. Over the five years, that comes to more than $300mm.
Come on guys. Fannie is Treasury. The taxpayers already own Fannie. We have functionally guaranteed their debt obligations.
There is a solution. Treasury could have issued the $7bil. They could have then lent it to Fannie. The lending facilities necessary to allow this to happen are already in place. In all manner and respects Fannie =Treasury= Taxpayer.
This is being done to maintain the facade that Fannie is some form of independent company. It is not. We own it. I wish that were not the case. But these cards have been dealt.
$300mm is big bucks these days. We could do a lot with that. Every month Fannie will be doing this. Freddie Mac is doing the same. So in the aggregate the numbers are enormous. My estimate is that this will cost us $10billion in 2009. That is serious money.
We are struggling with the notion that the financial system is being socialized. In the case of Fannie and Freddie there is no debate. They have been socialized. And that will be the case for at least a decade.
We are going to pay for that. But there is no reason we have to pay twice.
Here is a simple rule: If the Market cost of debt capital for the Agencies is greater than 25 bp's over the prevailing Treasury yield for similar maturities, then Treasury will fund the Agencies and issue the debt.
That would save us at least $6 billion a year. To achieve that all we have to do is recognize that this Emperor has no clothes. He is naked.
Monday, February 2, 2009
Will YOU pay for the solution?
In the 1980’s I was part of a large group of people in the banking world who created a few100 billion dollars of bad loans. We made loans to Brazil, Mexico and Argentina. We thought those were good loans. We also made loans to the likes of Peru and Nicaragua. We should have known better. Others in the financial world copied what we were doing and made loans to Eastern Europe and developing countries in Asia. There was some silly stuff. Countries like Zaire got a $100mm.
The prevailing mindset that allowed this all to happen within the course of a decade is the subject of a separate blog. The short story is that we created a Bubble of credit for developing countries.
Of course it all blew up. By 1985 virtually every loan that we made was in default. It was devastating for the countries that were the debtors. It caused currency devaluations and severe economic hardships.
The banks that were the holders of this debt were also crippled. A secondary market for the loans quickly emerged. Brazil was 20 cents on the dollar. Mexico was 35. Peru and Nicaragua were trading hands at 5 cents on the dollar. The amounts of the debts that were trading in the market was a fraction of the total that was outstanding. But it was the only market out there. It became the basis of a debate on how banks should ‘mark to market’ their Less Developed Country (“LDC”) debt. If, back then, a bank like Citi or Chase used the market prices as the basis for valuing their book of LDC loans they would have been out of business.
Sound familiar??
In many ways it is. There are significant differences as well. This problem was solved with some smart thinking by then Treasury Secretary Nicholas Brady and some Sneaky Pete accounting by the FASB (Financial Accounting Standards Board). It worked then. The solution to that credit bubble could be a cornerstone for a solution to today’s problems.
To consider any of the solutions that are out there we must first make a basic conclusion. We must ask and answer the question, “Should the Public Sector (a.k.a the taxpayer) assume the cost of a portion of the Bailout?”
My answer is yes. I know a lot of people are going to disagree with that. I wish it were not true. But the fact is we can’t get out of this mess without recognition that society has to pay for the sins of the past. If we do not, all of society will suffer. Sorry.
If we can get past the debate on ‘should we pay’ the question is ‘how much should we pay’?
My answer to this question is $400,000,000,000. Nearly a half a Trillion. However in my plan this cost would be spread out over 30 years. In my plan the cost would be about $13 billion a year. That comes to about one tenth of one percent of current GDP. Over the next thirty years the average cost would be about 5 basis points of GDP. That is nothing in the scheme of things. The net present value of this expense would be about $250 billion. Big bucks. But keep in mind that we spent $350billion in the past three months on this. What is another $250 billion if it gets you through the problem?
So that is the question to the audience. Should “we” commit about 5 cents of every 100 dollars of GDP to put this mess behind us?
There are two doors to choose from. Door #1 is an expensive social intervention. Door # 2 is financial anarchy. I wish there were a third door. There is not.
http://brucekrasting.blogspot.com/
Sunday, February 1, 2009
Where is the ICE??
In this case I mean ICE as in the US Immigration and Customs Enforcement. Not that horrible stuff that is gripping Kentucky and coming to NY on Tuesday.
ICE has a very good web sight. http://www.ice.gov/index.htm
There is all sorts of useful information. Their Most Wanted list has some nice photos. I found the tab for News interesting. They provide a brief description of the actions they have taken. It is organized by month so it is pretty easy to look back over time to see what these folks have been doing.
ICE has a very good web sight. http://www.ice.gov/index.htm
There is all sorts of useful information. Their Most Wanted list has some nice photos. I found the tab for News interesting. They provide a brief description of the actions they have taken. It is organized by month so it is pretty easy to look back over time to see what these folks have been doing.
I am assuming that what they are telling us they are doing is just a part of what is actually going on. Looking at it I had two observations.
I) There are some very bad motorcycles out there. Gangs, thieves, smugglers of all kinds. You name it. These ICE guys are busting illegals that are involved with crimes of all sorts. And they are doing it all over the Country.
II) Going back over a year you can see how the “mission” has changed for ICE. They have always been chasing down felons and rings of criminals. But for awhile they were raising hell busting all manner of US companies that were large employers of illegals. It seemed that they were taking on the meat packing industry. That died down before the election.
That the raids would stop prior to the election is not a surprise. Who needs those headlines? But now it is February. ICE is of course Home Land Security so policy matters on this come from the President.
This is a dilemma. It will be interesting to see how this plays out.
The Administration could elect to continue a policy of law enforcement but not labor enforcement. I was never sure of the benefits of those raids. They were economically disruptive. We all know there are 10+ million illegals living here. That they are working should not come as a surprise.
On the other hand, the Administration must confront the tide of layoffs that is ripping the economy and the country apart. You want to create 4 million new jobs? That is easy. Fire four million illegal aliens. Of course it is not that easy. But as things get worse this argument is going to be heard over and over.
If you read in the newspaper about an ICE bust of some meat packer in Ohio where 350 illegals get led away you will know which way the policy decision went. My guess is that there will not be the big raids of a year ago. At least for a while. When the unemployment rate goes over 8% this summer the pressure to act on this will be compelling.
I live in area where there are illegals everywhere. I know a few. Nice folks. The ICE raids a year ago nearly scared them to death. The absence of jobs in 2009 is killing them. They are leaving. By the millions. Reverse immigration is happening.
It amazes me to see the depth and breadth of this recession.
II) Going back over a year you can see how the “mission” has changed for ICE. They have always been chasing down felons and rings of criminals. But for awhile they were raising hell busting all manner of US companies that were large employers of illegals. It seemed that they were taking on the meat packing industry. That died down before the election.
That the raids would stop prior to the election is not a surprise. Who needs those headlines? But now it is February. ICE is of course Home Land Security so policy matters on this come from the President.
This is a dilemma. It will be interesting to see how this plays out.
The Administration could elect to continue a policy of law enforcement but not labor enforcement. I was never sure of the benefits of those raids. They were economically disruptive. We all know there are 10+ million illegals living here. That they are working should not come as a surprise.
On the other hand, the Administration must confront the tide of layoffs that is ripping the economy and the country apart. You want to create 4 million new jobs? That is easy. Fire four million illegal aliens. Of course it is not that easy. But as things get worse this argument is going to be heard over and over.
If you read in the newspaper about an ICE bust of some meat packer in Ohio where 350 illegals get led away you will know which way the policy decision went. My guess is that there will not be the big raids of a year ago. At least for a while. When the unemployment rate goes over 8% this summer the pressure to act on this will be compelling.
I live in area where there are illegals everywhere. I know a few. Nice folks. The ICE raids a year ago nearly scared them to death. The absence of jobs in 2009 is killing them. They are leaving. By the millions. Reverse immigration is happening.
It amazes me to see the depth and breadth of this recession.
Secret conversations between Volker, Bernanke and Geithner
Secret Conversations between Paul Volker (“Big Paulie”), Tim Geithner (“Timmy”) and Ben Benanke (“Little Ben”)
Conversation between BIG PAULIE and TIMMY February 1, 2009. 9 AM.
BIG PAULIE: Morning Tim, it’s me, Paul Volker.
TIMMY: Good morning Mr. Volker could you call me Mr. Secretary please? I am the Treasury Secretary now and I like it when people call me by that.
BIG PAULIE: Forget that Tim. I could be your grandfather. I will call you Tim and you will call me Paul. Got that?
TIMMY: Well, okay Paul. What can I do for you?
BIG PAULIE: Hold on a sec. I have to light a cigar.
TIMMY: Aren’t you calling from a government office?
BIG PAULIE: Yeah so?
TIMMY: Well, you are not supposed to smoke in Government offices.
BIG PAULIE: Rules are made to be broken. I always smoke when I do a deal and we are doing a deal this morning. Man this Cohiba tastes good!
TIMMY: Oh, speaking of doing a deal I have a deal for you. I have a plan for a Bad Bank. I want to save the entire American banking system. I want to finish the work of Hank Paulson. I want the history books to say that Tim Geithner saved the financial system!
BIG PAULIE: Forget that. You are not saving anything. I am going to do that.
TIMMY: But I am the Secretary of the Treasury. Saving the financial system is a job for me not you!
BIG PAULIE: Get real Tim. You are a tax cheat. Are you reading what they are saying about you in the Blogs? No one is going to have any faith in plan from a tax cheat. You are in no position to save anything. I have the age and stature to do this job. Plus I am tough. I will beat these banks with a stick. When I am done with them they will be dancing on my string. The big bank CEO”S Pandit, Lewis, Dimon will be eating out my hands. Do you think you could do that? These guys would eat you for lunch. I am going to beat them with a stick.
TIMMY: But if you are going to fix the financial system what am I going to do? I really really think this is a job for the Treasury Secretary.
BIG PAULIE: The Boss has decided. You get to play Treasury Secretary, but you do not get to engineer the financial bailout. We have plans for you.
TIMMY: What are those plans?
BIG PAULIE: First you are going to go to a pubic speaking course. You are going to be spending most of your time on the Hill explaining to Senators and Congressmen what we will be doing and getting them to write the checks that we have to write. Those will be very big bucks so you have an important job. And by the way when you are up on the Hill you have to wipe that smirk off of your face. Do you think this stuff is funny? It is not. There are people suffering out there and you have a smirk on your face and you are cracking wise about Turbo Tax.
TIMMY: Okay. I am writing this down. No smirking, speaking classes and get the bucks. I got that. So I will be on the team, right?
BIG PAULIE: You are not on the team. You are lucky you have a job. You will do what I tell you. Got it?
TIMMY: Well, I guess so. But, I really want to be on the team. Why can’t I be on the team?
BIG PAULIE: You look like a kid. If you are not 60 you do not have a vote in this. This is a job for adults. Anyway we have something else for you to do. We want you to be the point man for beating up China.
TIMMY: Beating up on China? I do not want to do that. That would mean that I have to fly there all the time. I want to be in DC. I have a great new office. I bought some things from John Thain that I want to put in the office. He sold them to me on the cheap.
BIG PAULIE: You are going to be on the road all the time. That is the plan. China, Russia Europe. Get used to the idea that you are going to be living on a plane. So do not get too excited about decorating your new office.
TIMMY: Well I have to think about all of this. It is not at all what I expected.
BIG PAULIE: There is nothing to think about. It is my way or the highway. Now I have to go and make a call to your pal Bernanke. Start those speech classes this week, Okay?
TIMMY: Yes, Okay. I will do that.
BIG PAULIE: And do not forget about that smirk.
TIMMY: CLICK
BIG PAULIE: CLICK
Heard from BIG PAULIE: “Wimp”.
Heard from TIMMY: “Pushy old man”.
Twenty minutes later. Transcript of phone conversation between TIMMY and LITTLE BEN.
TIMMY: Hello Ben. I have been trying to call you. Were you on the phone just now with Volker??
LITTLE BEN: Yes. It was terrible. He was yelling at me. Like I was working for him. He was very rude. And he was smoking a cigar in a public office. Disgusting. I do not like him at all. He thinks that he is the only FRB President to face a difficult challenge. So what if he cured America’s inflation problem twenty years ago. That does not mean he can solve the problems of today!
TIMMY: Well, what did he say?
LITTLE BEN: He said that he was going to be the one to engineer a bailout of the financial system. He said that I was not going to be involved with that. We argued. It was very upsetting. At one point I had that feeling that I could not breathe. That happens when I am under stress. My Doctor said that I should take pills and change my job.
TIMMY: That is what Volker told me too. He said that I was not going to be involved either. He wants me to go to China. He wants me to fight them on the value of the Yuan. I do not want to do that. I do not like Chinese food.
LITTLE BEN: I stood up to him. I told him that I was a scholar on the matters of the Great Depression. I told him that made me the best candidate to be the leader in forging a plan to deal with the financial crisis. I was very forceful.
TIMMY: Okay. Good. What did he say to that?
LITTLE BEN: It was terrible. He used dirty words. Basically he said that either I play ball or I go back to Princeton. To be honest with you I have been thinking of doing just that. I miss academia. Life was simple and there. I got treated like the important person that I am. In DC I get dumped on almost every day. Today that looser Forbes was saying bad things about me. It is very depressing for me.
TIMMY: You have to suck it up Ben. We are in this together. We have to stick up against Volker. We have to do that together. If we don't then our legacies will be toast. That would be a disaster. I want to run Goldman after Treasury. I need to make some bucks. I have kids. I have to save for college.
LITTLE BEN: Okay. This is early days on this. What we have to do is work together and undermine Volker. We have to convince everyone that we are the guys for the job. That Volker is too old. Maybe we can get the Bankers to support us. I think they are afraid of Volker too. We need to get some pictures of him smoking in his office. I know some people at the Times. They will run the picture if I promise them a scoop later on.
TIMMY: Okay. That would be great. I did not know that you could manipulate the press like that. Can I do that too?
LITTLE BEN: Oh yeah. You have to learn how to use the press. I can get a leak into the Wall Street Journal anytime I like. I will get to work on that. Volker’s going to get some heat.
TIMMY: I like the sound of that. But listen. We are in this together right? We have to work together to undermine Volker. That way we can re-establish our selves as the ones who will guide the country through the financial crisis. So let’s agree. We are in this together. I will watch your back and you will watch mine. Okay?
LITTLE BEN: Right. We are one. We will beat back Volker. We will do that together.
TIMMY: Neato: Okay we will talk soon.
LITTLE BEN: Bye bye.
Click
Click
Heard from TIMMY: “I do not trust him”.
Heard from LITTLE BEN: “I do not trust him”.
Conversation between BIG PAULIE and TIMMY February 1, 2009. 9 AM.
BIG PAULIE: Morning Tim, it’s me, Paul Volker.
TIMMY: Good morning Mr. Volker could you call me Mr. Secretary please? I am the Treasury Secretary now and I like it when people call me by that.
BIG PAULIE: Forget that Tim. I could be your grandfather. I will call you Tim and you will call me Paul. Got that?
TIMMY: Well, okay Paul. What can I do for you?
BIG PAULIE: Hold on a sec. I have to light a cigar.
TIMMY: Aren’t you calling from a government office?
BIG PAULIE: Yeah so?
TIMMY: Well, you are not supposed to smoke in Government offices.
BIG PAULIE: Rules are made to be broken. I always smoke when I do a deal and we are doing a deal this morning. Man this Cohiba tastes good!
TIMMY: Oh, speaking of doing a deal I have a deal for you. I have a plan for a Bad Bank. I want to save the entire American banking system. I want to finish the work of Hank Paulson. I want the history books to say that Tim Geithner saved the financial system!
BIG PAULIE: Forget that. You are not saving anything. I am going to do that.
TIMMY: But I am the Secretary of the Treasury. Saving the financial system is a job for me not you!
BIG PAULIE: Get real Tim. You are a tax cheat. Are you reading what they are saying about you in the Blogs? No one is going to have any faith in plan from a tax cheat. You are in no position to save anything. I have the age and stature to do this job. Plus I am tough. I will beat these banks with a stick. When I am done with them they will be dancing on my string. The big bank CEO”S Pandit, Lewis, Dimon will be eating out my hands. Do you think you could do that? These guys would eat you for lunch. I am going to beat them with a stick.
TIMMY: But if you are going to fix the financial system what am I going to do? I really really think this is a job for the Treasury Secretary.
BIG PAULIE: The Boss has decided. You get to play Treasury Secretary, but you do not get to engineer the financial bailout. We have plans for you.
TIMMY: What are those plans?
BIG PAULIE: First you are going to go to a pubic speaking course. You are going to be spending most of your time on the Hill explaining to Senators and Congressmen what we will be doing and getting them to write the checks that we have to write. Those will be very big bucks so you have an important job. And by the way when you are up on the Hill you have to wipe that smirk off of your face. Do you think this stuff is funny? It is not. There are people suffering out there and you have a smirk on your face and you are cracking wise about Turbo Tax.
TIMMY: Okay. I am writing this down. No smirking, speaking classes and get the bucks. I got that. So I will be on the team, right?
BIG PAULIE: You are not on the team. You are lucky you have a job. You will do what I tell you. Got it?
TIMMY: Well, I guess so. But, I really want to be on the team. Why can’t I be on the team?
BIG PAULIE: You look like a kid. If you are not 60 you do not have a vote in this. This is a job for adults. Anyway we have something else for you to do. We want you to be the point man for beating up China.
TIMMY: Beating up on China? I do not want to do that. That would mean that I have to fly there all the time. I want to be in DC. I have a great new office. I bought some things from John Thain that I want to put in the office. He sold them to me on the cheap.
BIG PAULIE: You are going to be on the road all the time. That is the plan. China, Russia Europe. Get used to the idea that you are going to be living on a plane. So do not get too excited about decorating your new office.
TIMMY: Well I have to think about all of this. It is not at all what I expected.
BIG PAULIE: There is nothing to think about. It is my way or the highway. Now I have to go and make a call to your pal Bernanke. Start those speech classes this week, Okay?
TIMMY: Yes, Okay. I will do that.
BIG PAULIE: And do not forget about that smirk.
TIMMY: CLICK
BIG PAULIE: CLICK
Heard from BIG PAULIE: “Wimp”.
Heard from TIMMY: “Pushy old man”.
Twenty minutes later. Transcript of phone conversation between TIMMY and LITTLE BEN.
TIMMY: Hello Ben. I have been trying to call you. Were you on the phone just now with Volker??
LITTLE BEN: Yes. It was terrible. He was yelling at me. Like I was working for him. He was very rude. And he was smoking a cigar in a public office. Disgusting. I do not like him at all. He thinks that he is the only FRB President to face a difficult challenge. So what if he cured America’s inflation problem twenty years ago. That does not mean he can solve the problems of today!
TIMMY: Well, what did he say?
LITTLE BEN: He said that he was going to be the one to engineer a bailout of the financial system. He said that I was not going to be involved with that. We argued. It was very upsetting. At one point I had that feeling that I could not breathe. That happens when I am under stress. My Doctor said that I should take pills and change my job.
TIMMY: That is what Volker told me too. He said that I was not going to be involved either. He wants me to go to China. He wants me to fight them on the value of the Yuan. I do not want to do that. I do not like Chinese food.
LITTLE BEN: I stood up to him. I told him that I was a scholar on the matters of the Great Depression. I told him that made me the best candidate to be the leader in forging a plan to deal with the financial crisis. I was very forceful.
TIMMY: Okay. Good. What did he say to that?
LITTLE BEN: It was terrible. He used dirty words. Basically he said that either I play ball or I go back to Princeton. To be honest with you I have been thinking of doing just that. I miss academia. Life was simple and there. I got treated like the important person that I am. In DC I get dumped on almost every day. Today that looser Forbes was saying bad things about me. It is very depressing for me.
TIMMY: You have to suck it up Ben. We are in this together. We have to stick up against Volker. We have to do that together. If we don't then our legacies will be toast. That would be a disaster. I want to run Goldman after Treasury. I need to make some bucks. I have kids. I have to save for college.
LITTLE BEN: Okay. This is early days on this. What we have to do is work together and undermine Volker. We have to convince everyone that we are the guys for the job. That Volker is too old. Maybe we can get the Bankers to support us. I think they are afraid of Volker too. We need to get some pictures of him smoking in his office. I know some people at the Times. They will run the picture if I promise them a scoop later on.
TIMMY: Okay. That would be great. I did not know that you could manipulate the press like that. Can I do that too?
LITTLE BEN: Oh yeah. You have to learn how to use the press. I can get a leak into the Wall Street Journal anytime I like. I will get to work on that. Volker’s going to get some heat.
TIMMY: I like the sound of that. But listen. We are in this together right? We have to work together to undermine Volker. That way we can re-establish our selves as the ones who will guide the country through the financial crisis. So let’s agree. We are in this together. I will watch your back and you will watch mine. Okay?
LITTLE BEN: Right. We are one. We will beat back Volker. We will do that together.
TIMMY: Neato: Okay we will talk soon.
LITTLE BEN: Bye bye.
Click
Click
Heard from TIMMY: “I do not trust him”.
Heard from LITTLE BEN: “I do not trust him”.
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