Category: Economy

It’s the Moral Hazard, Stupid

No Comments

CNN has an article on the mess that Bear Stearns has Found themselves*.

They go into a number of reasons, but at its core, Bear Stearns*, and the rest of Wall Street have fallen victim to one of the favorite bogeymen of the right wing, moral hazard.

The right wing insists that things like minimum wage laws make us lazy, and public health care delivery makes us hypochondriacs.

While it is certain that minimum wage laws raise the cost of low value employees, and that there would be more use of the healthcare system if it were sane, the most extreme case illustrating the risks moral hazard is in the financial markets.

It turns out that Alan “Bubbles” Greenspan did the same with financial markets: There was never a market failure that he would not bail out over the past. As a result, people have become far more accepting of risk in the pursuit of greater return.

Whether it be the bailout of LTCM, or the floodgates being opened after the crash of 1987, or the dotbombs, Alan Greenspan has insulated people from the consequences of their decisions, and so we have people loaning dogs money to buy a house.

FWIW, I do not think that this serves as a good argument against socialized healthcare, which I support (I support a NHS over a single payer), but it is a good argument against socialized capitalism.

*Just to remind you, I have predicted that Bear Stearns cease to exist as an independent entity sometime before August 2, 2008.

And the Winner in the “So Stupid They Can’t Cut Thier Own Meat” Category

No Comments

Rich Karlgaard, who thinks that comparing a Democratic candidate with Franklin Delano Roosevelt is somehow a slur.

It isn’t, not in the general election, and particularly not in the Democratic primary.

It’s easy to see why he’s so profoundly misinformed, as he tells us with self assurance that only comes from being an economic knuckle dragger, who are in no short supply at Fortune magazine, that the investment class “went on strike” in 1937*.

I guess that would explain the soaring mattress sales at the beginning of that year, they had to put their money somewhere.

While it is clear that criminals bury their money in low return investment when the heat is on, most investors are law abiding and moral individuals, who continue to invest. Tax and regulatory policy can determine where they invest, but not how much.

*In reality based economics, what happened was that Roosevelt thought that the depression was over and he backed off the new deal, for example cutting the WPA funding by half.

Debt Resellers Knew That They Were Buying and Selling Bad Paper

No Comments

This should surpirse no one, that the big CDO (Collateral Debt Obligation) resellers knew that they were passing bad paper.

Why, you ask, would professional traders do this?

The answer is quite simple: DEAL FEES. I gotta keep buying collateral, in order to keep issuing these transactions as a CDO manager. Its my job: I gotta keep accumulating collateral, and I gotta issue the liability against that collateral.

Welcome to 3rd world Klepto-Capitalism, Wall Street style.

In Which I Disagree With Brad Delong

No Comments

Brad Delong quotes Lawrence Summers, who asks “Why Haven’t the Conforming Mortgage Cap Amounts Been Raised?”, and Mr. Delong further says, “These are wise questions. I don’t understand why the conforming mortgage dollar caps have not already been raised substantially.”

Let’s be clear here. They are probably both smarter than I am. They definitely both have far more training in economics.

That being said, I think that, in a world where economic policy is run by sane competent men*, that any sort of recovery should answer some questions first:

  • Who is the target of the bailout. I would argue that distressed homeowners are the target, in which case it’s necessary to derive a targeted solution which maximizes the homeowners relief, and minimizes the amoung to which we indemnify the investors, loan companies, etc. Capitalism must allow for failure to be capitalism.
  • What regulatory changes must be made in order to prevent this from recurring, seeing as how any bailout increases the belief in further bailouts, and hence destructive risk taking. I think that much of this problem has its roots in the deregulation from the late 1970s through to the present day, so I recommend re-adoption of New Deal era regulations.

In terms of what I would suggest for initial steps:

  • An aggressive push to allow borrowers to negate loans due to violations of the truth in lending act, which allows buyers to rescind the loans and void the mortgages. (they still owe the money, but it becomes an unsecured loan, and the debtors have far more rights in terms or restructuring in bankruptcy).
  • A law invalidating all pre-payment penalties.
  • Reregulation of the lending industries to prevent further abuses.

*Yes, I know, that’s not the case right as long as Bush is in office.

This is bad…This VERY VERY Bad.

No Comments

The Federal Reserve is allowing CitiGroup and Bank of America to make massive transfers to their brokerage sides.

Jesus H. Christ on Toast!!! Doesn’t anyone remember what happened during the depression???? It’s why, until the mid 1990s, banks were forbidden to own brokerage houses.

This unusual move by the Fed shows that the largest Wall Street firms are continuing to have problems funding operations during the current market difficulties, according to banking industry skeptics. The Fed’s move appears to support the view that even the biggest brokerages have been caught off guard by the credit crunch and don’t have financing to deal with the resulting dislocation in the markets. The opposing, less negative view is that the Fed has taken this step merely to increase the speed with which the funds recently borrowed at the Fed’s discount window can flow through to the bond markets, where the mortgage mess has caused a drying up of liquidity.

These rules are not for good times, they are for times like now. They are there to prevent the financial system from going down the drain as good money follows bad.

Helicopter Ben has made a very bad move.

Gambling Dispute With a Tiny Country Puts U.S. in a Bind – New York Times

No Comments

The US-Antigua dispute over Net gambling is escalating, and it’s hit the NY Times, which means that it’s really hit the mainstream, but before I get into that, I have to acknowledge Dean Bakers incisive analaysis, and the magnificent snark therein, where he says “Antigua Threatens the United States with Free Trade“, which is absolutely true. IP restrictions are restrictions on trade through exclusive licensing.

A brief recap on the whole Internet gambling business, the US implemented an internet casino gambling ban. It still allows for other internet gambling, “including the online purchase of lottery tickets*, participation in Web-based pro sports fantasy leagues and off-track wagering on horse racing.”

Online casinos are a big part of the Antiguan economy. It’s the 2nd largest employer on the Island.

So Antigua takes it to the WTO, Antigua wins. Big whoop. Really….Who cares. If they are allowed to place tarrifs on US cars, or toothpaste, what difference does it make? Their population is around 70,000, so it’s a negligible impact, right?

Wrong

What the Antigua asked for, and received as a sanction was the right to ignore US IP restrictions, and to distribute US IP protected products without restriction.

While the drug manufacturers have nothing to fear, it’s not like they are going to become a Viagra® manufacturing powerhouse, the makers of non-tangible items, like movies, music, software, etc. are in the process of freaking out, which looks something like this: , because the island is well wired (from the online Casinos), and can set up an operation that would make AllofMP3.com look like a Sunday social.

Truth be told, the consequences will not be as dire as IP companies will make out. I expect that very few people who would otherwise pay for these products will download them, and my guess is that these companies know that.

The reason that they are concerned is that if I am right, and the consequences will be minor, then you will see another argument against draconian IP restrictions, because the sky did not fall.

This may be of particular interest to the Chinese too, as this ruling could be extended to the “Great Firewall of China.

*On the matter of state lottery tickets, I believe that they should be treated differently, being a state run activity and a revenue generator, but when we signed onto the WTO, it specifically forbade this.

How To Get Out of a Deceptive Mortgage

No Comments

(Via the Big Picture)It appears that failure to disclose loan terms according to the Truth-in-Lending laws can change the loan status.

It turns out that there is a provision in the Truth-in-Lending Act that allows debtors to rescind their loan and void their mortgages if the terms of the loan are not clearly spelled out.
You still owe the money, but they are now just another creditor, at the back of the line, and protections from homestead provisions and bankruptcy would still apply.

One wonders how *chough* Alan Greenspan ignoring the Fed’s role in mortgage lending *cough* the lenders could have screwed up so badly on something that was both cheap and easy.

Job Cuts Surge in Financial Industry

No Comments

There is a report from Challenger, Gray & Christmas showing job cuts in the financial industry skyrocketing this year. There have been about 88K redundancies so far this year, as versus about 50K for all of last year. Extending the numbers out, it looks like there will be 104+K job losses this year in the industry.

The question of course is, now that we don’t actually make anything here, what are we going to do when people cannot get jobs selling houses or financial instruments to outselves?

Foreclosures Rise, and Business Can’t Get Cash to Run or Expand

No Comments

Well, here’s a quick lowdown on financial news.Foreclosures in the US rise 9% June to July, and 93% YoY. House prices are no longer rising, so people cannot sell to get out from under.

This has put a more general squeeze on credit, so companies are increasingly unable to get credit for expansion or even normal operations. Commercial paper, and the bond markets are moving less than George Bush after eating a pretzel, with results like this:

  • Hertz isl struggling to get low-rate loans for rental-fleet purchases.
  • Deere is “putting the brakes” on production of construction vehicles.
  • Countrywide Financial on Thursday had to tap its entire $11.3 billion emergency funding line.
  • Home Depot is rethinking a plan to borrow money for a stock buyback, and the debt shutdown may stop the sale of its wholesale supply business.
  • Media giant Quebecor canceled a $750 million debt offering.

The money quote here is, “The market for investment-grade bonds — or money lent to companies with great credit — has virtually stopped for the past few weeks“.

Good Writing on the Insolvency Mess

No Comments

I have to say, this is a damn find lede.

Blowing up the Lab on Wall Street
By Richard Bookstaber

Looks like Wall Street’s mad scientists have blown up the lab again. The subprime mess that is cutting so wide a swath through financial markets can be traced to the alchemy of creating collateralized debt obligations (CDOs) compounded by the enormous amount of leverage applied by big hedge funds. CDOs are derivatives — synthetic financial instruments derived from another asset.

His point is that Wall Street has created instruments so leveraged, and so removed from reality that people are literally spending billions on nothing at all.

The cause for this, to me anyway, Mr. Bookstaber* does not make this point, is that the systematic dismantling of the FDR era banking and securities regulations have allowed this to happen.

It’s human nature to go for a quick buck, and to believe that the good times never end, and the deregulation of banking and securities has had this predictable result.

*Isn’t that name almost Dickensian in character?

Subprime mortgage crisis spreads to high-end homes – Aug. 20, 2007

No Comments

CNN has a story on how the Subprime* meltdown is Subprime hitting high-end homes.

I think that the story is fairly “cry me a river”, for rich people, but there is an interesting graphic.

The idea here is that Fannie Mae and Freddy Mac cannot fund home loans over $417K, so these so-called “Jumbo” loans carry a larger interest rate.

While Fannie Mae and Freddy Mac are the largest mortgage resellers, it’s not their size, or their ability to negotiate a good deal that gets the lower rate (at least not most of it).

It’s that both of them are GSE (Government Sponsored Entities), chartered by the federal government.

What this means is that while they are private corporations, and owned by shareholders, and both have publicly traded shares, there is the implication, and only the implication, that in the event that they were to become insolvent, then the government would bail them out.

Most of the difference in rates between conforming and jumbo loans is simply this fact, and all of the change relative to one another in the past few months is due to this implicit government guarantee of payment.

This gap has gone from about 0.2% to about 0.7% because people have little confidence in private financial markets, and this appears to be continuing and accellerating.

*As I’ve said before, it’s not just Subprime

Inflation for the Rest of Us

No Comments

Ben Bernanke has now said that his concern is market stability, and not inflation.

It happens that it looks like the inflation numbers that he works with are completely bogus:

One of the “secrets” to Alan “Bubbles” Greenspan’s success as Fed chairman, was that he successfully pushed for adjustments to the consumer price index (CPI) to lower the reported inflation rate.

Right now, we are generally reporting an inflation rate of less than 3%.

There has been an agreement between the Fed and the government to understate inflation for some time. The justification is that it makes everyone look good, and allows for stealth cuts for entitlements.

Allan Sloan Gets It.

No Comments

The Fortune magazine editor at large asks the question that we should all be asking, “Why does Wall Street always get bailed out?“

His answer is I think in some ways inadequate. It’s more than protecting the financial system. After all, if it were just about that, some of the people behind this debacle would be kicked off Wall Street for life.

It’s about the fact that central bankers feel a need to protect “people like us”.

The subprime-mortgage-market meltdown is a classic example of the way small fry get devoured, but the whales of Wall Street get rescued. Here’s the deal: People with crummy credit who took out mortgages are being allowed to fail in record numbers. The mortgage companies that made those loans are being allowed to fail.

…

But the world’s central banks aren’t letting the big guys fail. Think of it as the Escape of the Enablers. The reason this is happening, of course, is the same reason that the Fed orchestrated a bailout of the infamous Long-Term Capital Management hedge fund a decade ago-and about 20 years ago didn’t close some of the nation’s biggest banks, even though they were effectively insolvent because unrealized losses had wiped out their capital.

It’s the “too big to fail” syndrome. In a world in which big players make incredibly large and complex deals with one another – that’s what derivatives are – regulators don’t dare let a big or important institution fail for fear that the collapse of one would lead to “cascading failures,” and other institutions wouldn’t be able to collect what the collapsed institution owed them.

….

Sure, we know that Ben and the boys will always bail out the biggies. And none of us – I think, anyway – wants the world’s financial system to implode. But I’d feel a lot better if the Street had to pay a serious price to its rescuers–say, having to fork over a big equity stake and pay a loan-shark interest rate. That way taxpayers, who are picking up the tab for the rescue, would get paid bigtime for taking on bigtime risk.

More on Yesterday’s Stock Meltdown

No Comments

I commented on it briefly, and the stocks recovered, the Murdoch Dow ending down only 15 points, after being down more than 300 points.

Well, now I know why: the Fed cut the discount rate by 50 basis points. An surprise half a percent rate cut has a way of getting people to buy stocks.

I don’t think that it will mean much in the long term. As Nouriel Roubini says, “Given the serious insolvency – rather than just illiquidity– among many economic agents (many mortgage-burdened households, dozens of mortgage lenders, homebuilders, some hedge funds and financial institutions, some distressed corporates) a formal 25bps cut will not make much of the difference as you cannot solve an insolvency problem by throwing liquidity at it.“

The Press is Still Clueless About the Credit Crunch

No Comments

Dean Baker has a good take on the general cluelessness of NPR’s financial correspondent Adam Davidson about the credit crunch. They seem to think that it’s all the “subprime meltdown”, when it’s a more systemic problem.

I would generalize further regarding the press.

At this point in time, almost all of the Financial reporters are well behind the curve. We don’t have a problem with a small segment of the home mortgage market. We have a situation where credit is drying up because people cannot determine risk in any meaningful way.

Wall Street Investment Banks to Create System to Hide Insider Trades

No Comments

Seriously. Notwithstanding protestations to the contrary, this is what a private bourse like this is for.

Banks to start trading platform
Citigroup, Lehman Brothers, Merrill Lynch and others are setting up a private system to trade stocks of companies looking to avoid public scrutiny.
August 14 2007: 1:34 PM EDT

NEW YORK (Reuters) — Five of Wall Street’s biggest banks, including Citigroup, Lehman Brothers, and Merrill Lynch, said on Tuesday they were setting up a private system to trade stocks of companies eager to avoid the scrutiny of public markets.

The group, which also includes underwriter Morgan Stanley and Bank of New York Mellon, said the new platform is designed to ease trading for privately sold securities. It will target companies looking to raise capital while avoiding the rules imposed on publicly listed shares.

…

If the SEC were really concerned about healthy markets, it would take steps to prevent secret transactions by actors who are likely to have inside information.