Wednesday, March 23, 2011

The Pervasive Stupidity

Decisions are being made that are wrecking US infrastructure.  Expert warnings are everywhere.  Decisionmakers remain oblivious.  People are drawing the obvious conclusions, and are hearing the voice of doom.  Charles Simic starts a recent essay by saying, "I can’t remember when I last heard someone genuinely optimistic about the future of this country."

A large number of financial experts are beside themselves.  There's Charles Johnson, former IMF official, professor of finance, co-author of 13 Bankers, in congressional testimony on TARP a couple of weeks ago:
the financial crisis produced a pattern of rapid economic decline and slow employment recovery quite unlike any post-war recession – it looks much more like a mini-depression of the kind the US economy used to experience in the 19th century.  In addition, the fiscal costs of the disaster in our banking system so far amount to roughly a 40 percentage point increase in net federal government debt held by the private sector, i.e., roughly a doubling of outstanding debt.
 Adjustments to our regulatory framework, including the Dodd-Frank financial reform legislation, have not fixed the core problems that brought us to bring of complete catastrophe in fall 2008.  Powerful people at the heart of our financial system still have the incentive and ability to take on large amounts of reckless risk – through borrowing large amounts relative to their equity.  When things go well, a few CEOs and a small number of others get huge upside.

When things go badly, society, ordinary citizens, and taxpayers get the downside.  This is a classic recipe for financial instability. . . .

With assets ranging from around $800 billion to nearly $2.5 trillion, these bank holding companies are perceived by the market as “too big to fail,” meaning that they are implicitly backed by the full faith and credit of the US government.  They can borrow more cheaply than their competitors and hence become larger.

In public statements, top executives in these very large banks discuss their plans for further global expansion – presumably increasing their assets further while continuing to be highly leveraged. . . .

Even more disappointing is the failure of the official sector to engage with its expert critics on the issue of capital requirements.  This certainly conveys the impression that the regulatory capture of the past 30 years . . .  continues today – and may even have become more entrenched.

There is an insularity and arrogance to policymakers around capital requirements that is distinctly reminiscent of the Treasury-Fed-Wall Street consensus regarding derivatives in the late 1990s – i.e., officials are so convinced by the arguments of big banks that they dismiss out of hand any attempt to even open a serious debate.

Next time, when our largest banks get into trouble, they may be beyond “too big to fail”.  As seen recently in Ireland, banks that are very big relative to an economy can become “too big to save” – meaning that while senior creditors may still receive full protection (so far in the Irish case), the fiscal costs overwhelm the government and push it to the brink of default.

The fiscal damage to the United States in that scenario would be immense, including through the effect of much higher long term real interest rates.  It remains to be seen if the dollar could continue to be the world’s major reserve currency under such circumstances.  The loss to our prestige, national security, and ability to influence the world in any positive way would presumably be commensurate. . .

In 2007-08, our largest banks – with the structures they had lobbied for and built – brought us to the verge of disaster.  TARP and other government actions helped avert the worst possible outcome, but only by providing unlimited and unconditional implicit guarantees to the core of our financial system.  This can only lead to further instability in what the Bank of England refers to as a "doom loop”.

Then there's Yves Smith at Naked Capitalism, concluding a review of a piece on yet another bunch of hidden losses and sanctioned fraud with this:
I’ve said it repeatedly, but it seems I can never say it enough: the financial power that be have long ago ceased being in the business of anything remotely connected with reality. They honestly seem to believe if they can get enough people to believe their propaganda, reality will come to conform to it.

In my entryway, I have some Rockwell Kent prints, namely, his Apocalypse series, on display (yes, I’m sure readers will regard that as fitting). One, which didn’t strike me as particularly apocalyptic when I bought them, is called “Degravitation” and shows Wall Street people flying to the sky. Maybe I can sell copies to the Fed and Treasury as motivational pictures, since it does seem to depict the business they are really in.

These are financial professionals that are saying this.  Which brings me to the Angry Trader himself, Phillip Davis, who starts his report yesterday with this:
Yes, the dollar CAN go even lower - now 75.53 as the Euro tests $1.425 and the Pound blasts off to $1.64.  Amazingly the Yen is at 81.07 so apparently the BOJ is supporting the Pound and Euro while letting the Dollar die.  Makes sense, our consumers don't have enough money left to buy Japanese goods anyway. 

What does he mean? The American middle class is completely broke, has been robbed blind, and has no more money.   Here is one of Davis's typical explanations from earlier in the year:
I will never forget my meeting at Treasury when I said (and I was joking) to Geithner "So, does the US still have a strong dollar policy?" and the Secretary of the Treasury laughed so hard he almost fell off his chair. We are not allowed to quote people directly so I’ll just leave Tim’s answer at the time (Aug 16th) as "no comment." The Rich (who control this country) do not want a strong dollar – only people who get paychecks in dollars want them to be strong, but the people handing them out in exchange for labor are perfectly happy if Treasury Notes are as worthless as toilet paper because they generally run their businesses with debt financing anyway and at no time do they have significant cash assets.
It’s very hard for workers to get their head around this concept. In grade school, we all laughed at the silly Indians who traded Manhattan Island for about $24 worth of beads and trinkets but, like US Dollars, they were plentiful and easy to get for the Dutch traders but very difficult to obtain for the Indians as the Bedazzler had still not been invented. Of course the Indians also had no concept of land ownership so the whole contract was a sham, but that’s an essay for another day. Getting back to US workers – they exchange their valuable labor for essentially worthless bits of paper that are relatively easy for their employers to obtain – as long as we have a weak dollar, of course.
What else do the top 1% want? They want commodity prices to rise. That may seem counter-intuitive as they should be input costs but, in practice, consumers are charged on a "mark-up" pricing system and companies make a percentage of profits on sales so, if input costs go up, they simply raise prices and rising prices mean rising profits as long as they avoid margin compression – that’s why "slightly" rising commodities are preferred as sharp rises can cause dislocations in pricing.
The top 1% don’t want GDP to grow too fast (although at their outsourced factories in China, they seem to do quite well with 10% growth) and they don’t want Unemployment to come down too quickly – otherwise the workers may get uppity and ask for higher wages! They want inflation but not too much and they want higher borrowing rates which again is based on the fact that they have easy access to money and they don’t want the bottom 99% (which includes smaller businesses) playing on a level field. So that sums up very nicely what will make the markets happy in 2011 – the question is – how likely are these things to happen?
Very likely, actually.  Wisconsin protests notwithstanding, the middle-class isn't even in the game, is not part of the conversation about how to run its economy.  That would make the markets unhappy in 2011. How likely is that to happen?

1 comment:

Gerry Barnett said...

And that's the big puzzle of the present administration. All the talk of change, and it appears it is same as it ever was. Where's the grassroots party of the middle class? Seems there's a huge unmet need.

How does one break the government guarantees to the banks? We need FDIC reform.