Thought For The Day
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The longer an elected official remains in the swamp of Washington, D.C., the farther he drifts from mainstream Americans. Recycle Congress in 2010 - No exceptions
If you’re still skeptical that we’re sinking into America’s Second Great Depression, you don’t have to believe Alan Greenspan, who says we’re already experiencing the worst financial crisis in a hundred years. Nor need you heed the news that the economy just lost a half-million more jobs or that retail sales have just suffered their worst plunge in 35 years. All you have to do is get up from your chair, open the door and take a walk outside.
Nearly everything you see and hear will clue you in to the true plight of our time — one out of 10 households delinquent or foreclosed on their mortgage, one out of 10 using food stamps, four out of 10 upside down on their home equity, eight out of 10 fearful of the future, and rightfully so.
From the manuscripts and reports Dad has left behind, here’s his answer:
“Some people of my generation have fond memories of the family fellowship and sacrifice of the Great Depression, and I do too. But I also cannot forget the numbers or the suffering they implied. In just three short years between the peak of the stock market boom in 1929 and the bottom in 1932, it felt like the entire world was falling apart. The financial bubble burst. Big companies failed. America lost 13 million jobs. Unemployment surged to 25%. American industry cut its production nearly in half. Home construction plunged by more than four-fifths. Deflation — falling prices — drove the value of almost everything into the gutter. Over 5,000 banks failed and ultimately disappeared.
“And yet, despite it all, there was one all-important investment that not only survived, but actually thrived: The United States dollar. Because of deflation, prices fell on virtually everything — commodities, farm land, homes, automobiles, consumer goods, even labor. And because of fear, investors shunned risk, seeking the safety of cash. Result: The dollar’s purchasing power and value surged.”
Now, here we are once again, witnessing with our own eyes in our own generation how financial bubbles are bursting all around us. We see America’s largest companies — Merrill Lynch, General Motors, AIG, Fannie Mae and Citigroup — bankrupt, bailed out or bought out. We have bursting bubbles in housing, commercial real estate, stock markets and commodities. We see busted booms throughout the Americas, Europe and Asia.
Even economies thought to be immune, like China or Australia, are impacted. Even investments said to be safe, like corporate bonds, municipal bonds, certain money markets and large government-sponsored companies, are sinking.
Our leaders themselves are sounding the alarm. Unless they act swiftly, they say, the world as we know it today will fall apart. Thus, to avert what they fear could be the ultimate disaster, the governments of the richest countries have embarked on the most expensive financial rescue operations of all time. The U.S. government alone has spent, lent, committed or guaranteed $7.8 trillion, fourteen times its biggest-ever federal deficit. European governments have jumped in with another $2 trillion; China, $586 billion.
They’re bailing out bankrupt banks, broken brokerage firms, insolvent insurers and any company they deem essential to the economy. They’re pumping resources into mortgage markets, consumer credit markets and stock markets. They’re prodding lenders to lend, consumers to consume and investors to invest. They’re doing everything in their power to prevent a Second Great Depression.
But will they succeed in this endeavor?
A not-so-long time ago, while Dad and I reviewed the historical charts and data, here’s the answer he gave me to a similar question.
“In the 1930s, I was tracking the numbers as they were being released — to figure out what might happen next. I was an analyst and that was my job. That’s why I remember them well.
“Years later, economists like Milton Friedman and my young friend Alan Greenspan looked back at those days to decipher what went wrong. They concluded that it was mostly the government’s fault, especially the Federal Reserve’s. They developed the theory that the next time we’re on the brink of a depression, the government has got to step in and nip it in the bud.
“Bah! Those guys weren’t there back then. When I first went to Wall Street, Friedman was in junior high and Greenspan was in diapers.
“I saw exactly what the Fed was doing in the 1930s: They did everything in their power to stop the panic. They coddled the banks. They pumped in billions of dollars. But it was no use. They eventually figured out they were just throwing good money after bad.
“The real roots of the 1930s bust were in the 1920s boom. That’s when the Fed gave cheap money to the banks like there was no tomorrow. That’s why the banks loaned the money to the brokers, the brokers loaned it to speculators, and the speculation created the stock market bubble. That was the true cause of the Crash and the Depression! Not the government’s ‘inaction’ in the 1930s!
“In 1929, our economy was a house of cards. It didn’t matter which cards we propped up or which ones we let fall. We obviously couldn’t save them all. So no matter what we did, it was going to come down anyway. The longer we denied that reality and tried to fight it, the worse it was for everyone. The sooner we accepted it, the sooner we could get started on a real recovery.”
Today, however, it seems the governments of the world have yet to learn the lesson Dad had learned from real experience. They’re still trying to bail out nearly every major institution and market on the planet. Again, the big question: Will they succeed?
The quick answer: Yes, for a while, perhaps. They can kick the can down the road. They can buy time and postpone the day of reckoning. They can stimulate stock market rallies and even flurries of economic recovery. But that’s not the same as assuming responsibility for our future. It doesn’t resolve the next crisis and the one after that. It does little for you and me; even less for our children or theirs.
The better answer is contained in the white paper Mike Larson and I submitted to the U.S. Congress on September 25: The government bailouts are too little, too late to end the debt crisis; too much, too soon for those who will have to foot the bill.
Even as the government sweeps piles of bad debts under the carpet, mountains of new debts go bad — another flood of mortgages that can’t be paid, a new raft of credit cards falling behind, a new line-up of big companies on the verge of bankruptcy.
Even as the government commits new billions to be spent on financial rescues, trillions in wealth are wiped out in sinking real estate, stocks, bonds and commodities.
Even as the government promises prosperity around the corner, we see more factories closing, more jobs lost.
The primary reason is simple and quite obvious: Our society is addicted to debt.
As long as government could keep the credit flowing — and as long as borrowers could get their regular debt fix — everyone continued to spend to their heart’s content. But now that credit has stopped flowing, the American economy is sinking rapidly into depression.
The Threshold of the Absurd
We saw the first telltale warning of America’s Second Great Depression when a credit crunch hit in full force in August 2007. Banks all over the world announced multibillion losses in subprime (high-risk) mortgages. Investors recoiled in horror. And it looked like the world’s financial markets were about to collapse.
They didn’t, but only because the U.S. Federal Reserve and European central banks intervened. They injected unprecedented amounts of cash into the world’s largest banks; the credit crunch subsided; and everyone breathed a great sigh of relief. But in early 2008, the crunch struck anew — this time in a more virulent and violent form, this time impacting a much wider range of players.
Now, the big question was no longer: Which big Wall Street firm will post the worst losses? It was: Which big firm will be the first to go bankrupt? The answer: Bear Stearns, one of the largest investment banks in the world.
Again, the folks at the Fed intervened. Not only did they finance a giant buyout for Bear Stearns, but for the first time in history, they also decided to lend hundreds of billions to any other major Wall Street firm that needed the money. Again, the crisis subsided temporarily. Again, Wall Street cheered and the authorities won their battle.
But the war continued. Despite all the Fed’s special lending operations, another Wall Street firm — almost three times larger than Bear Stearns — was going down. Its name: Lehman Brothers.
Over a single weekend in mid-September 2008, the Fed Chairman, the Treasury Secretary and other high officials huddled at the New York Fed’s offices in downtown Manhattan. They seriously considered bailing out Lehman, but they ran into two serious hurdles: First, Lehman’s assets were too sick — so diseased, in fact, even the federal government didn’t want to touch them with a ten-foot pole. Second, there was a new sentiment on Wall Street that was previously unheard of. A small, but vocal minority was getting sick and tired of bailouts. “Let them fail,” they said. “Teach those bastards a lesson!” was the new rallying cry.
For the Fed Chairman and Treasury Secretary, it was the long-dreaded day of reckoning. It was the fateful moment in history that demanded a life-or-death decision regarding one of the biggest financial institutions in the world — bigger than General Motors, Ford and Chrysler put together. Should they save it? Or should they let it fail? Their decision: To do something they had never done before. They let Lehman fail.
“Here’s what you’re going to do,” was the basic message from the federal authorities to Lehman’s highest officials. “Tomorrow morning, you’re going to take a trip down to the U.S. Bankruptcy Court at One Bowling Green. You’re going to file for Chapter 11. Then you’re going to fire your staff. And before the end of the day, you’re going to pack up your own boxes and clear out.”
It was the financial earthquake that changed the financial world.
Until that day, nearly everyone assumed that giant firms like Lehman were “too big to fail,” that the government would always step in to save them. That myth was shattered on the late summer weekend when the U.S. government decided to abandon its long tradition of largesse and let Lehman go under.
All over the world, bank lending froze. Borrowing costs went through the roof. Global stock markets collapsed. Corporate bonds tanked. The entire global banking system seemed like it was coming unglued.
“I guess we goofed!” were, in essence, the words of admission heard at the Fed and Treasury. “Now, instead of just a bailout for Lehman, what we’re really going to need is the Mother of All Bailouts — for the entire financial system.” The U.S. government immediately complied, delivering precisely what they asked for — a $700 billion Troubled Asset Relief Program (TARP), rushed through Congress and signed into law by the president in record time.
In addition, the U.S. government has loaned, invested or committed $200 billion to nationalize the world’s two largest mortgage companies, Fannie Mae and Freddie Mac … $25 billion for the Big Three auto manufacturers … $29 billion for Bear Stearns, $150 billion for AIG and $350 billion for Citigroup … $300 billion for the Federal Housing Administration Rescue Bill to refinance bad mortgages … $87 billion to pay back JPMorgan Chase for bad Lehman Brothers trades … $200 billion in loans to banks under the Fed’s Reserve Term Auction Facility (TAF) … $50 billion to support short-term corporate IOUs held by money market mutual funds … $500 billion to rescue various credit markets … $620 billion for industrial nations, including the Bank of Canada, Bank of England, Bank of Japan, National Bank of Denmark, European Central Bank, Bank of Norway, Reserve Bank of Australia, Bank of Sweden and the Swiss National Bank … $120 billion in aid for emerging markets, including the central banks of Brazil, Mexico, South Korea and Singapore … trillions to guarantee the FDIC’s new, expanded bank deposit insurance coverage from $100,000 to $250,000 … plus trillions more for other sweeping guarantees.
Grand total: $7.8 trillion and counting, eleven times more than the hotly debated and widely opposed $700 billion bailout package passed just 66 days ago. And that excludes a new bailout for Detroit in the works, a new $500 billion stimulus package expected early next year, plus hundreds of billions for at least 19 states running out of money for unemployment benefits.
Washington says it’s all for a good cause — to save the world from depression. But it is obviously reaching a level that’s beyond the threshold of the absurd.
Here’s why it will fail …
Reason #1 - Too Much Debt
By mid-year 2008, there were $52 trillion in interest-bearing debts in the United States, including mortgage loans, credit cards, corporate debt, municipal debt and federal debt; the federal government needed about $50 trillion for Social Security, Medicare and other commitments kicking in at a quickening pace; and U.S. commercial banks held another $182.1 trillion in side bets called “derivatives.” Grand total in the U.S. alone: $282 trillion.
The numbers are not directly comparable, but just to give you a sense of the magnitude of the problem, that’s 402 times more than the $700 billion bailout package.
If, along with their big debts, Americans at least had plenty of cash, it would not be such a problem. But, alas, nothing could be further from the truth. Americans have saved less than ever before in history and less than their counterparts in almost every other industrial country on Earth.
Reason #2 - Nobody Wants to Pick Up the Tab
In the rush to spend the trillions of dollars, no one has bothered to seriously consider this simple question: “Who’s going to pay for it all? Where are we going to get all that money?”
With the economy already weak, it certainly isn’t going to come through higher taxes. And with unemployment and welfare expenses surging, cutting the budget wasn’t going to yield very much either. The government had only one choice: To borrow the money.
More big debts!
Sure enough, last month, the U.S. Treasury Department announced that it would have to borrow $550 billion in the fourth quarter, more than the total budget deficit for the entire year. At the same time, Goldman Sachs estimated that the upcoming borrowing needs of the U.S. Treasury would be a shocking $2 trillion — to pay for the bailouts, to finance the existing deficit and to refund debts coming due. That was about four times the size of the entire yearly deficit. This meant that, to raise the money, the government will have shove aside consumers, businesses and other borrowers; hog most of the available credit for itself; and then, to add insult injury, bid up interest rates for everyone. As Mike Larson explained Friday, it’s the biggest bubble of all.
Some people hoped the government’s resources, by some feat of magic, might be unlimited. But the reality is that there is no free lunch, someone has to raise the money and pick up the tab. And as soon as they try to do that, the pain will strike swiftly — in the form of steeper mortgage rates, higher credit card rates or, worse, virtually no credit at all.
Reason #3 - Sinking Confidence
Like in the 1930s, money alone, no matter how lavishly dished out, cannot restore public confidence. While it may buy some reprieve for large banks, it does little to help thousands of smaller banks. While it helps some percentage of consumers some of the time, it cannot help the majority most of the time. That’s why consumer confidence has plunged to the lowest level in recorded history, consumer spending collapsed and Corporate America is responding with huge cutbacks. This story Dad told me about 1930 shows some interesting similarities:
“After the Crash, President Hoover was worried about the sinking U.S. economy. So he called the leaders of major U.S. corporations down to Washington — auto executives from Detroit, steel executives from Pittsburgh, banking executives from New York. He said, in effect:
“‘Gentlemen, when you go back home to your factories and your offices, here’s what I want you to do. I want you to keep all your workers. Don’t lay any off! I want you to keep your factories going. Don’t shut any down! I want you to invest more, spend more, even borrow more if you have to. Just don’t do any cutting. It’s for a good cause — so we can keep this economy going.’
“That may have sounded like a good idea at first. But then the executives went back to their factories and offices and said to their associates: ‘If the president himself had to call us down to Washington to lecture us on how to run our business, then the economy must be in even worse shape than we thought it was.’
“They promptly proceeded to do precisely the opposite of what Hoover had asked: They laid off workers by the thousands. They shut down factories. They slashed spending to the bone. They cut back.”
Now, history is repeating itself, albeit on a much grander scale with a more ambitious government. As before, each new government bailout is initially greeted with some enthusiasm on Wall Street. But as the crowd of wannabe bailout candidates swells, and as people recognize the desperation of authorities to satisfy them all, confidence sinks even further.
Washington tries to encourage consumers and businesses to borrow more, spend more and save less, but they do precisely the opposite.
Washington prods bankers to dish out more credit, but the Fed’s own surveys show that banks all over the country do precisely the opposite, sharply tightening their lending standards.
Government officials give frequent pep talks to inspire investors to take the risk of investing more, but most investors would prefer to slash their risk — or even their wrists.
In each case, folks realize that it was too much borrowing, too much spending and too much risk-taking that got them into so much trouble in the first place. So they just do what comes naturally: They cut back.
Reason #4 - The Vicious Cycle of Debt and Deflation
Debt alone is usually tolerable. People can pile up debts year after year, and as long as borrowers have the income — or as long as they can borrow from Peter to pay Paul — they continue making their payments. Life goes on.
Deflation — falling prices and income — is also not all bad. It makes homes more affordable, college education more achievable, a tank of gas easier to fill.
It’s when the debts and deflation come together that the wheels are set into motion down the path to depression. That’s what happened in the 1930s; and that’s what began to happen this time as well.
In the housing market, Americans abandon their homes or are forced into foreclosure. The foreclosures precipitate distress selling. The distress selling causes price declines. And the price declines, in turn, prompt more people to abandon their homes or let them slide into foreclosure.
On Wall Street, we have a similar cycle: Big companies and banks run out of capital, cannot pay their debts and go bankrupt. The bankruptcies — and the fear of more to come — drive investors to sell their shares, forcing stock prices lower. With lower stock prices, corporations and banks cannot raise capital, and more go bankrupt.
Consumers, small and medium-sized businesses, city and state governments, hospitals and schools, even entire countries are caught up in a similar downward spiral — slashing their spending, laying off workers, dumping assets, losing revenues, and slashing their spending still more.
These vicious cycles are in full motion and gaining momentum. It’s too late for any government to stop them. Now that the speculative bubbles have burst, all the king’s men cannot put them back together again.
The government’s rescue efforts will fail. America’s Second Great Depression will strike swiftly and take no prisoners. You must be ready.
Time to Sell
The government-inspired rally on Wall Street is your signal. It’s now time to sell ALL vulnerable assets that you do not need or you cannot hedge against. That includes …
• Second homes, rental properties and commercial real estate;
• Common and preferred shares, regardless of your profit or loss;
• Corporate and municipal debt of all maturities, regardless of their rating;
• Long-term Treasury bonds and government-guaranteed bonds (including Ginnie Mae, Fannie Mae and Freddie Mac); and
• Collectibles, including art, antiques, rare coins and stamps.
But do not sell the U.S. dollar! Quite the contrary, the U.S. dollar, stashed in short-term Treasury securities, is now your single best safe haven for most of your money.
Due to deflation, the dollar’s purchasing power is improving rapidly with each day that passes. Due to a global flight to quality, the dollar’s exchange rate is rising sharply against nearly every currency in the world. And due to the massive deflation and capital flight still ahead, this massive bull market in the dollar is just beginning!
Indeed, for the long-term future of our country, it is the one, outstanding silver lining of this crisis.
Be Bold AND Prudent
You need not sell your shares indiscriminately regardless of market conditions. Thanks to the government-inspired rally in the stock market, you have a short time window to get out with relatively normal market conditions.
You also need not dump your real estate properties on the market at crazy fire-sale prices. To set your price, just be sure to check prices of actual sales (not bids) that are truly recent (within the last 30 or 60 days) and that are really comparable. Then offer the very best possible discount you can (at least 10%, possibly more) right from the very first day.
But you must not delay. Act boldly and prudently.
If you work with a money manager, before liquidating assets, ask if they have programs specifically designed to hedge and profit in a depression. If not, move your money to one who does. If your realtor or broker is unwilling to help you sell, find one who is. If you find that you or your family are still uncertain, consider Dad’s recommendations:
“One of the greatest blunders people made in the 1930s was to blindly assume that prices were already so low, they couldn’t possibly go any lower. In reality, the value of their real estate, stocks, commodities and virtually every other asset didn’t stop going down at some particular level that appeared to be ‘cheap.’ Nor did it stop falling just because it matched some historical price that was considered low. The end of the price declines came only when buyers, investors and lenders capitulated; when most of the bad debts were liquidated; and when the powerful vicious cycles were exhausted. Until then, huge losses were still possible and you needed to sell. Only AFTER we saw those climactic conditions was it time to buy or hold.”
In America’s Second Great Depression, the same will be true, with one key addition:
The most aggressive buyer, investor and lender of all is Uncle Sam; the decline cannot truly end until he abandons his efforts to stop it.
How did these comedians in 2007 see it coming when the financial reporters, bankers, and political hacks could not?
How is it that huge central banks and Wall Street intellects could not recognize one big casino when they were working in one? The reality is that Congress has taken your money, used it to engage in reckless socialist engineering - socialized housing (Fannie Mae and Freddie Mac), and mandated exorbitant risk taking by lending institutions. Now Congress wants you to cover the losses they’ve created. How can any reasonable person conclude otherwise? Where’s Congress's fiduciary responsibility to the American people? I suspect losing someone's money, and then raising their taxes to cover the losses, would not be considered exercising exemplary, let alone reasonable, fiduciary responsibility.
Think of all those trusting saps, the moms and dads, grandmas and grandpas, with their savings and retirement accounts tucked away ‘safely’ in pension funds and savings and loans institutions, but whose funds were actually being used to finance the game as long as it lasted. Some knew what was going on; most didn’t. Some knew the bottom would fall out someday; most didn’t. But nobody complained as long as their account values kept going up. In the meantime, political hacks were skimming hundreds of millions of dollars from the pot as they administered the game.
Now the saps are being asked to pick up the tab for the losses – no, forced involuntarily to cover the losses. It’s the American way - pay for someone else’s house but loose your own. Obviously, nobody is going to cover your loss in the market value of your home, and surely not your pension fund losses. Is socialism a great political system or what!
Every individual congressman who voted for the bailout package would seem complicit in the willful fraud of every American citizen, extending multiple generations into the future. First Congress built the casino and made the gambling rules. Then the investment banks lost your money, and now you, and your children, and your grandchildren, will be expected to forgive their greed and cover their losses. Think about it. How many people, from the self-anointed East and West Coast metropolitan elites to Mr. and Mrs. Joe Six-pack have been harmed? How severely, and for how long? For the rest of their lives?
Comments are welcome at redstatepatriot@hughes.net. Please include the title of the article as your subject line. Selected responses, in whole or part, may be published (appended to the article).
With a $700 billion mortgage bailout package on the table, Wall Street investment bank Lehman Brothers in bankruptcy, brokerage giant Merrill Lynch sold and the appearance of economic chaos on at least three continents - North America, Europe and Asia - gold has moved to the forefront and with it issues that parallel 1933-1934, the time of the Great Depression.
The question fairly rises as to whether or not the U.S. government is moving to consolidate its economic power by an outright gold seizure or whether they are prepared to allow the free gold market to speak about the dollar bill and a gaggle of other foreign currencies. Some wonder if they are willing to let the dollar's purchasing power slip away entirely.
Cause of the initial crisis: bad bank loans. RealtyTrac® (realtytrac.com), a leading online marketplace for foreclosure properties, released its second quarter 2008 U.S. Foreclosure Market Report", which shows foreclosure filings were reported on 739,714 U.S. properties during the second quarter. The report also shows that one in every 171 U.S. households received a foreclosure filing during the quarter.
If the typical home owner has a $300,000 mortgage, the rescue package Congress will be asked to look at and approve virtually at the same time - unprecedented since the banking crisis of 1933 - would cover 2.1 million homes.
From March 14-18, 2008, gold topped $1,000 an ounce; then it began a slow settled decline into the $700s - still high by contemporary standards. As the evolving national financial crisis began around Sept. 11, 2008 - the seventh anniversary of the attack that took down the twin towers of the World Trade Center in New York gold started at $740, went to $750, then to $775, $779 and it was off to the races.
The change from Sept. 12 ($750) to Sept. 19 ($869) the rate of change was 15.8 percent - in just a week. Meanwhile, Lehman Brothers stock, which was $67 a year ago, was trading at 18.99 cents a share. Five thousand shares, which a year earlier had a value of $335,000 could be purchased for a mere $1,000.
Prior to 1933, "gold seizure" in the New York Times historical data base, yields six news stories all of which are parts of wars in South Africa and elsewhere. The story is different by early 1934 when President Franklin D. Roosevelt used executive orders - without congressional approval - to claim the nation's gold stock, including its coinage. (There were some exceptions).
The Jan. 13, 1934, New York Times had a series of articles whose headlines and sub-heads that tell the central points of the dispute. "Roosevelt Claims Power to Capture Reserve Bank Gold," the first headline began. The sub-point: "Believes He Has Ample Authority, but Does Not Disclose His Intentions."
How was this accomplished: with the connivance of the attorney general. Again the Times headlines: "Cummings Gives Ruling But Definite Word on the Attorney General's Conclusions Is Withheld." There is more to the headlines: "No Central Bank Plan," followed by "Roosevelt Declares That Such Reports of Aims Are Only Very Bad Guesses" and goes on to make the summary point: "President Claims He Can Seize Gold".
Over the next few weeks, there is more drama, more headlines: "Gold Bill Constitutional, Cummings Tells Senate; Early Passage Expected" is one thought. But there are those who claim that the seizure contemplated is unconstitutional - which headlines address, too.
"Committee Gets Ruling Eminent Domain Applies to Bank Gold, Says the Attorney General." Still, there was opposition. Sen. Carter Glass of Virginia was opposed, as the headlines of the day disclose. Says the Times: "Held for 'Public Service' Glass Is Not Convinced While Reserve Board Is Inclined to Give Up Profit Only. House Group Scores Point Beats Rival Committee to Floor with Bill - Stabilization Reports Persist. Reports Gold Bill Is Constitutional"
Carter Glass, Woodrow Wilson's Secretary of the Treasury, and also FDR's choice (he declined) had been U.S. senator from Virginia since 1920 when he did battle with FDR over gold seizure. Again, the Times summarizes in its headlines the problems of the day: "Glass Denounces Aims of Gold Bill; Silver Men Rally."
Glass's principal objection was taking gold from the Federal Reserve. He charged that Britain and Germany did not cripple their central banks when they went off the gold standard. That would be changed in the final executive order and the eventual custodian, which was the Fed.
Citizens once had the right to deposit silver or gold bullion with the Mint and receive, in return, a full measure of precious metal coinage, less the cost of coining. (The specifics are found in the original Mint Act of April 2, 1792, sections 14-15) The government and the population could thus control currency supplies.
The right to deposit these metals was called "free coinage," though this was hardly so since there was a modest charge by the Mint for the service. Free coinage of silver ended with passage of the Coinage Act of 1873; general circulation gold coinage itself was halted in 1933, when FDR acted on his announcement discussed above and created the first modern government regulatory function: controlling those numismatic coins that were exempted from an otherwise nation-wide recall of gold coins.
The Trading with the Enemy Act of 1917 authorized the President to regulate, investigate and prohibit "under such rules and regulations as he may prescribe ... any transactions in foreign exchange, export or earmarkings of gold or silver coin or bullion or currency ... by any person within the United States ..."
Prof. Henry Mark Holzer, in a 1973 article in the Brooklyn Law Review entitled, "How Americans lost the right to own gold and became criminals in the process" wrote, "The war emergency and the President's duty to fight the war provided Congress with a convenient rationale for the Act.
The fact is, however, that the Constitution nowhere empowers Congress to prohibit dealing in gold-much less authorizes Congress to delegate that power to a coordinate branch of government."
First came Presidential Proclamation No. 2038 (48 Stat. 1689 (1933)) whose prefatory language sets up the explanation of national calamity.
"Whereas there have been heavy and unwarranted withdrawals of gold and currency from our banking institutions for the purpose of hoarding; and "Whereas continuous and increasingly extensive speculative activity abroad in foreign exchange has resulted in severe drains on the Nation's stocks of gold; and "Whereas these conditions have created a national emergency; * * * [and a banking holiday would be in the national interest] ...
"Now, THEREFORE, I, Franklin D. Roosevelt, President of the United States of America, in view of such national emergency and by virtue of the authority vested in me by said Act and in order to prevent the export, hoarding, or earmarking of gold or silver coin or bullion or currency, do hereby proclaim, order, direct and declare that from Monday, the sixth day of March, to Thursday, the ninth day of March, Nineteen Hundred and Thirty Three, both dates inclusive, there shall be maintained and observed by all banking institutions and all branches thereof located in the United States of America, including the territories and insular possessions, a bank holiday, and that during said period all banking transactions shall be suspended."
The order was then specific about coins and other items: "During such holiday, excepting as hereinafter provided, no such banking institution or branch shall pay out, export, earmark, or permit the withdrawal or transfer in any manner or by any device whatsoever, of any gold or silver coin or bullion or currency or take any other action which might facilitate the hoarding thereof; nor shall any such banking institution or branch pay out deposits, make loans or discounts, deal in foreign exchange, transfer credits from the United States to any place abroad, or transact any other banking business whatsoever."
A generation after World War I and a few months after the initial shot across-the-bow, FDR issued Executive Order 6260 of Aug. 28, 1933, which recalled all gold coins, but exempted "rare and unusual gold coins." What was rare, or unusual, constituted a regulatory function of the Treasury Department in succeeding years. Millions of coins were melted.
With the 1933 gold recall, all but rare and unusual coins were required by law to be turned in to the government in exchange for paper currency. Executive Order 6260 provided in pertinent part that "no return ... [is required of](b) gold coins having a recognized special value to collectors of rare and unusual coin..."
There were other limitations. Because more than $1.5 billion in coins were melted, calculated at their face value, millions of coins were forever destroyed.
Collectors knew, of course, that by virtue of their status as a collector, they were able to continue to hold gold coins, even quarter eagles (though no more than four of each date and mintmark) while other citizens were forced to surrender their coins. Each of these pieces had been produced at a time when gold was valued at $20.67, and a $20 gold piece contained $19.99 worth of gold.
Simultaneous with the recall came a devaluation of the dollar, which meant that the price of gold was raised from $20.67 and ounce to $35. Since each $20 gold piece now contained $33.86 worth of gold, a significant advantage was attained by those collectors who retained their coins over those who patriotically turned them in as directed. (Actually, 1934 Proc. No. 2072, Jan. 31, 1934, 48 Stat. 1730 revalued the dollar to $35 an ounce (15-5/21 grains of .900 fine gold).
There are a host of laws that govern today's national banking and economic emergencies. Among them: title 12 of the U.S. Code (banking), section 4407 (national emergencies), which notes as a cross-reference: "The provisions of this chapter may not be construed to limit the authority of the President under the Trading With the Enemy Act (50 App. U.S.C.A. § 1 et seq.) or the International Emergency Economic Powers Act (50 U.S.C.A. § 1701 et seq.)."
The law lives on today as 50 App. USCA §5 (subsection (b)(1)) which still says that, "During the time of war, the President may, through any agency that he may designate, and under such rules and regulations as he may prescribe, by means of instructions, licenses, or otherwise:
(A) investigate, regulate, or prohibit, any transactions in foreign exchange, transfers of credit or payments between, by, through, or to any banking institution, and the importing, exporting, hoarding, melting, or earmarking of gold or silver coin or bullion, currency or securities ..."
If this sounds like something forgotten 90 years ago, be aware that the legislative history tells another tale: it was most recently amended by Congress in 1977, 1988 and 1994. As the headlines play out, and begin to sound eerily repetitive with the 1930s, it is worthy of remembering that Americans were able to own gold abroad until the Kennedy Administration prohibited it - also by executive order.
By Dec. 31, 1974, Americans regained the right to own gold as Congress repudiated the declaration of national emergency - but none of that precludes a Presidential finding of an emergency that is obvious from reading the newspapers - even if it can be reversed by another executive order or congressional action. Put differently, gold seizure could happen again and it could happen to you.
By David L. Ganz, Numismatic News
October 02, 2008
Comments are welcome at redstatepatriot@hughes.net. Please include the title of the article as your subject line. Selected responses, in whole or part, may be published (appended to the article).
In the wake of Lehman's demise, Fed Chairman Bernanke and Treasury Secretary Paulson will try to put out the word that it's no great trauma.
But it's a bluff and they know it. If they openly admitted that the Lehman collapse will paralyze Wall Street, torpedo the stock market and sink economy, they'd have to pony up $100 billion or more to support it. Instead, their agenda has been to push big banks to put up the money.
Either way, there's no denying that the Lehman debacle is a massive and immediate threat to U.S. and global markets. At the latest reckoning, Lehman had $691 billion in assets. That makes it bigger than Wachovia, twice as big as Washington Mutual, and over sixteen times larger than Schwab.
Lehman's debts, at $668.6 billion, are also enormous. Even if you added together all the debts of TD Ameritrade, E-Trade and Schwab, you'd still have only $108.5 billion, or less than one-sixth the total debts which Lehman reports.
In fact, among brokers, there are only two other U.S. firms that beat Lehman in the debt category: Morgan Stanley, with $1 trillion, and Merrill Lynch, with $988 billion.
Can you imagine anyone in his right mind making the argument that a Merrill Lynch downfall would be "no great trauma to investors and financial markets"? Of course not.
The reality: The collapse of America's third-largest brokerage operation is very serious business with equally serious consequences. The primary concern ...
Defaults on Derivatives
We've lost count of how many times the authorities have virtually sworn on a stack of Bibles that "our financial system is fundamentally sound."
But no one could possibly lose count of their recent desperate efforts to prevent the system's collapse - actions which directly belie their words:
One - the coordinated efforts by central banks to flood the global economy with liquidity in the summer of 2007.
Two - the hasty bailout of Bear Stearns in March of this year.
Three - the giant Fannie and Freddie rescue announced just eight days ago.
Each time they intervene, they say "we must not reward CEOs who deceive the public and walk off with multibillion dollar bonus checks." And each time they say it's the "last time we'll make an exception to that rule."
But then they go ahead and do it anyhow, not only breaking their own word ... but also trashing the long tradition of restraint established by their predecessors since the Great Depression.
Why? Because they had neither the courage nor the audacity to confront Wall Street's ultimate nightmare: A collapse in the giant mountain of derivatives.
Derivatives are essentially bets on interest rates, foreign currencies, stocks or specific events like the bankruptcy of a particular company. The interest rate-related bets are by far the biggest. But the bets on bankruptcies - called credit default swaps - are the fastest growing and the most volatile.
These derivatives were originally designed to help hedge investments reduce risk, like insurance policies. But in practice, they've been increasingly used to leverage investments, increasing the risks of participants.
Here are some essential facts that illustrate the enormity of the problem ...
* The amounts are absurdly large. The total "notional," or face value, of derivatives held by U.S. banks is $180 trillion, and it's three times that much globally. This figure is said to overstate the actual market risk. But it does not overstate the risk of defaults such as those that could be triggered by the failure of a company the size of Lehman Brothers.
* Over 90% of all derivatives are traded outside of regulated exchanges. Consequently, other than very general information, the authorities have no mechanism for keeping track let alone efficiently cleaning up the mess in the wake of a giant failure.
* Off the balance sheets. Some companies report nothing more than the total value of their derivatives in footnotes to their financial statements. Others don't report at all. Consequently, the actual risk, amounts and even the very existence of derivatives is often poorly disclosed to investors.
* Disclosure in the brokerage industry is especially bad. Many brokerages are private and do not disclose more than their rank and serial number. The SEC collects sparse data and does not publish it. So if you want to figure out how much derivates risk your broker is exposed to, good luck! Getting the information can be like pulling teeth.
* Concentrated in the hands of five major players. Nearly 97% of all U.S. bank-held derivatives are concentrated in the hands of just five major U.S. banks JPMorgan Chase, Citibank, Bank of America, Wachovia and HSBC.
* Far larger than assets. As you can see in the chart to the left, the pile-up of derivatives greatly exceeds the total assets of the firms. At the same time, in most cases, the default risk related to these holdings greatly exceed the banks' capital.
* Big brokers are also loaded with derivatives. Merrill Lynch has $4.2 trillion. Morgan Stanley has $7.1 trillion. As best we can determine, Lehman Brothers has significantly less $729 billion. But in proportion to its dwindling capital, its exposure seems to be among the worst.
* The capital of major firms has been further weakened by recent losses and the failure to raise enough capital to cover them. The chart below tells the story in a nutshell:
Consistently, in bank after bank, the losses suffered from the mortgage and credit crisis have exceeded the amount of new capital they could raise. This was true when investors still had confidence in their ability to overcome the difficulties. It's even more true today.
Here's the great dilemma: The tangled web of bets and debts linking each of these giant players to the other is so complex and so difficult to unravel, it may be impossible for the Fed to protect the financial system from paralysis if just one major player defaults. And if Lehman is not that player, the next one will be.
To understand why, put yourself in the shoes of a senior derivatives trader at a big firm like Morgan Stanley (which has $7.1 trillion in derivatives on its books and about $10 billion in capital).
Let's say you're personally responsible for $500 billion in derivatives contracts with Bank A, essentially betting that interest rates will decline.
By itself, that would be a huge risk. But you're not worried because you have a similar bet with Bank B that interest rates will go up.
It's like playing roulette, betting on both black and red at the same time. One bet cancels the other, and you figure you can't lose.
Here's what happens next ...
* Interest rates go up, reflecting a 2% decline in bond prices.
* You lose your bet with Bank A.
* But, simultaneously, you win your bet with Bank B.
* So, in normal circumstances, you'd just take the winnings from one to pay off the losses with the other - a non-event.
But here's where the whole scheme blows up and the drama begins: Bank B suffers large mortgage-related losses. It runs out of capital. It can't raise additional capital from investors. So it can't pay off its bet. Suddenly and unexpectedly ...
You're on the hook for your losing bet.
But you can't collect on your winning bet.
You grab a calculator to estimate the damage. But you don't need one - 2% of $500 billion is $10 billion. Simple.
Bottom line: In what appeared to be an everyday, supposedly "normal" set of transactions ... in a market that has moved by a meager 2% ... you've just suffered a loss of ten billion dollars, wiping out all of your firm's capital.
Now, you can't pay off your bet with Bank A - or any other losing bet, for that matter.
Bank A, thrown into a similar predicament, defaults on its bets with Bank C, which, in turn, defaults on bets with Bank D. Bank D has bets with you as well ... it defaults on every single one ... and it throws your firm even deeper into the hole.
So now do you understand why bookies belong to the Mafia and why gamblers who welsh on their debts wind up at the bottom of the East River? It's because defaulting gamblers are a grave threat to the entire system, just like Lehman Brothers is today.
Now do you see why the $180 trillion in U.S. derivatives, supposedly overstating the true risk, is actually a lot riskier than almost everyone cares to admit? It's because defaulting banks or brokerage firms are also a grave threat to the entire system.
And now do you understand why Mr. Bernanke and Mr. Paulson are probably bluffing?
Don't let them fool you. The Lehman Brothers debacle is a far greater threat than anyone has dared tell you.
Liberals are not ignorant, just anti-American – but that’s speculating. Neoconservatives, i.e., liberals who hold relatively few conservative views, such as Newt Gingrich, are simply badly uninformed about some of the issues they publicly address. Because they call themselves conservatives, but in reality are not, conservatives tend to listen to them. As a result, neoconservatives often get elected with the conservative vote. Unfortunately, while well intentioned in many cases, liberals disguised as conservatives do a lot of harm due to their profound ignorance on many subjects. Senator John McCain and President George W. Bush are two prime examples that will resonate in history and folklore forever.
Why is this important? You’ve had questions about rising energy prices, and record oil profits have been brought into question. You've listened to what the politicians and main-stream-media are telling you. You know intuitively that their commentary is sound – all sound. So, what is the truth? First of all, not attempting to be profound, the truth simply is.
Democrats want to implement windfall profit taxes, which ultimately will be passed on to the consumer at the gas pump and raise prices ever higher – significantly higher. The outcome is a foregone conclusion, i.e., politicians cynically win, having found a way to take even more of your money, and citizens lose. Republicans, i.e., neoconservatives, knowing that raising taxes would be a national economic disaster, want instead to punish the speculators who they choose to scapegoat for the rising prices. The similarity between the Democrats and Republicans (neither of whom are conservatives) is their propensity for shifting the blame for their own congressional malfeasance to anyone but themselves, refusing defiantly to take responsibility for the on-going energy debacle. ‘Shifting the blame’ is the single most common character trait of a liberal – every liberal. They, being the typical congressmen they are, would sacrifice their relatives before accepting accountability, even their grandmother.
The energy crisis we face as a nation due to lack of oil, nuclear, coal, refineries, and absence of exploration will never be their fault, just as the loss of jobs and outsourcing of entire industries is not their fault, just as the drunken overspending with earmarks and entitlements is not their fault, just as the abysmal failure of our nation’s public schools is not their fault, nor the open borders, nor the failing Social Security and Medicare systems.
Here is everything you need to know in two articles. The first appeared in the Wall Street Journal in February, 1989 and the second in Investor’s Business Daily on June 23, 2008
Red State Patriot
----------------
The Speculator as Hero
Wall Street Journal
February 10, 1989
This is not a good time for speculators. Last month the FBI and the Chicago U.S. Attorney's office accused more than 100 traders on the Chicago commodities exchanges of systematically cheating investors and the government out of millions of dollars. Lawyers in Chicago have been besieged by floor traders wishing to plead guilty to the charges.
Coming on the heels of the October 1987 stock market crash, popularly thought to be the fault of program traders and portfolio insurers, and amid the popular furor over insider trading, the speculator's stock may be at an all-time low. Even fictional speculators are in trouble. In Tom Wolfe's best seller "Bonfire of the Vanities," bond trader Sherman McCoy is ridiculed by his wife, and is unable to explain what he does for a living to his young daughter. In real life, noted currency trader Andy Krieger, in a widely reported incident in 1987, quit his job after he found himself unable to supply a satisfactory answer to his eight-year-old son's question about what good his job did.
Like Sherman McCoy and Andy Krieger, I am a speculator. I own seats on the Chicago Board of Trade and Chicago Mercantile Exchange. But when my daughters ask me if my job is as important as the butcher's, the doctor's or the scientist's, I answer that the speculator is a hero, and has been throughout history.
Some speculators are discoverers like Christopher Columbus, creators like Henry Ford, or inventors like Thomas Edison. Their job is easy to place on a high plane. My role in the grander order is indirect, relatively invisible and unplanned. The only discoveries I make are the routes that prices will travel. Like hundreds of thousands of other traders, I try to predict the prices of common goods a day or two or a few months in the future. If I think the price of an item will go up, I buy today and sell later. If I think the price is going down, I'll sell at today's higher price. The miracle is that in taking care of ourselves, we speculators somehow ensure that producers all over the world will provide the right quantity and quality of goods at the proper time, without undue waste, and that this meshes with what people want and the money they have available.
Politicians eager to "do something" about high prices often make laws to punish the speculator. A representative incident occurred during the reign of Emperor Diocletian in Rome in A.D. 300. Speculators were withholding scarce provisions from the hordes, hoping to unload when the demand was even more intense. To remedy this, Diocletian set the highest price for beef, grains, clothing and several hundred other items. Anyone who sold at a higher price would be put to death.
The result? As reported by Lactantius in A.D. 314: "Much blood was shed upon slight and trifling accounts. The people brought no more provisions to the markets, since they could not get a reasonable price for them, and this increased the dearth so much that at last after many had died by it, the law itself was laid aside."
Another representative incident occurred during the siege of Antwerp by the Spanish in 1585. Antwerp was then the leading commercial town of Europe. The Spanish decided to blockade the port to force surrender when supplies gave out. Knowing this, Antwerp farmers and bakers produced large amounts of bread. Privateers ran the blockade at great peril to provide needed supplies. Prices began to rise. Speculators, guessing that bread was going to be scarce, contributed to further price rises through shrewd purchases.
But Antwerp politicians thought it wrong for greedy speculators to profit from war. The politicians fixed a very low maximum price to everything that could be eaten, and prescribed severe penalties for violators. The consequence was inevitable. Privateers stopped running the blockades and the supply of grain dried up. Consumers had no incentive to economize. The citizens ran out of all their provisions after six months of the siege and the Antwerpers starved. They surrendered and were quickly annexed.
Let's consider some of the principles that explain the causes of shortages and surpluses and the role of speculators.
When a harvest is too small to satisfy consumption at its normal rate, speculators come in, hoping to profit from the scarcity by buying. Their purchases raise the price, thereby checking consumption so that the smaller supply will last longer. Producers encouraged by the high price further lessen the shortage by growing or importing to reduce the shortage. On the other side, when the price is higher than the speculators think the facts warrant, they sell. This reduces prices, encouraging consumption and exports and helping to reduce the surplus.
Of course, speculators aren't always correct. When they are wrong, their actions contribute to shortages or gluts. Manias such as the Tulipmania, the South Sea Bubble, the Mississippi Bubble, gold panics, stock market crashes, and violent swings in the value of the dollar are frequently cited as examples of occasions when speculators contributed to instability and imbalance. But who could do the job better?
Bureaucrats have little incentive to improve, invest or innovate. When speculators are wrong, however, they are punished severely for their mistakes by losses of their own money. If left unchecked, the tendencies of our modern kings (read: government – emphasis added) to interfere with the natural working of the marketplace would lead to destruction. But speculators, searching for profit, send signals to producers and consumers as to the forces of destruction and good.
Traders sent such a signal on October 19, 1987, when they dropped the wealth of the non-Japanese-speaking world by 10% in one day when a modern-day king tried to interfere with the natural order by driving the dollar down one last 5% or so.
Perhaps the most positive impact of our current-day speculators is to check at inception governmental activities that would have an inflationary impact. Governments are prone to spend more money on their activities than they take in through taxes. The consequence often has been substantial inflation, followed by war, revolution and destruction of civilization. Nowadays, however, bond traders are so alert to the long-term consequences of such activities that they immediately send debt yields up significantly at the first sign of inflation.
The increased yields have such a negative and immediate impact on government revenue, business activity, and consumer spending that governments have all but given up trying to sneak increased spending past the market. As a result, the rate of inflation slowed markedly throughout the Western world during the 1980s. At the end of last year the long-term yield on a 30-year U.S. Treasury bond was 8.8% vs. 14.4% on the day after President Reagan was first elected. The great era of prosperity that has accompanied this reduced inflation adds a feather to the speculator's cap.
Granted, speculators are not angels; many are motivated by gambling and greed, and when given the chance will take advantage of the public as much as the next person.
What is the net effect of such evilness? Consider the purchase of one Treasury bond futures contract, the most actively traded futures contract. This is where the U.S. Attorney apparently focused his investigation after the undercover agents suffered huge losses for the government's account in stock market futures during the October 1987 crash.
To buy the equivalent of $100,000 in bonds, an average customer might pay $17.50 in commission (half of a typical $35 commission for one contract's purchase and sale) and $31.25 (one "tick"), the usual spread between the bid price and the ask price. This adds up to a $48.75 transaction cost for each $100,000 purchase.
Compare this with the "gentlemanly" New York Stock Exchange, where market-making speculators have a monopoly on trading in individual stocks. To purchase $100,000 of IBM stock (about 800 shares), the most actively traded Big Board issue, an average customer might pay 40 cents a share in commission costs and a 25-cent-a-share bid-ask spread. This $520 transaction cost is more than 10 times the cost to trade the same dollar amount of futures contracts.
Much of the suspected wrongdoing in Chicago apparently involved unscrupulous futures brokers who misreported customer transactions or gave customers unfavorable prices. But even if a bond-futures broker, for example, stole an additional $31.25 tick on every customer order, the liquidity of the market would still be far greater than that of the less-competitive Big Board. The customer would still be paying only one-sixth of the cost of the same trade in IBM stock.
This example serves not to exonerate crooked futures brokers, but to demonstrate the efficiency of a competitive market. Despite the overwhelming evidence that the speculator gets the job done, governments have attempted to bypass speculators in the name of a higher good.
The intellectual raises his eyebrows at the economic and historical analysis and contemptuously says, "Man cannot live by bread alone." To this I respond that without us, there would be no bread.
I am proud to be a speculator. I am proud that my humble attempts to predict Tuesday's prices on Monday are an indispensable component of our society. By buying low and selling high, I create harmony and freedom.
Mr. Niederhoffer is chairman of NCZ Commodities. This article appeared in the February 10, 1989, issue of The Wall Street Journal. Dow Jones and Co., Inc., 1989.
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Just Speculating
Investor's Business Daily
June 23, 2008
Energy: Democrats, in their never-ending search for scapegoats, have had a go at oil company CEOs, industry profits and now oil "speculators." They've looked everywhere but where they should — in the mirror.
The congressional hearings that kicked off Monday to look into speculative behavior in the markets produced all the usual finger-pointing about the doubling in oil prices over the past year to nearly $137 a barrel.
Meanwhile, Barack Obama, seeking to catch a political wave he can ride all the way to the presidency, has announced he'll "crack down" on oil speculation by imposing new limits and regulations on oil traders in the futures markets.
But as emotionally satisfying as going after speculators sounds, this will only make our current oil problem much worse.
Its true there's speculation in the oil market. But then again, there's speculation in virtually every exchange-traded good — from oil and gold to corn and pork bellies. This isn't just acceptable, it's healthy.
Speculators aren't evil. They ensure a liquid market for the commodities we need most. They make money by buying low, when the product is in low demand, and selling high, when demand has grown.
It has been pretty easy for them to make money recently, because speculation in oil has become a one-way bet.
Global oil demand has been growing by about a million barrels a day each year — thanks to surging use in fast-growing China, India, the Middle East and parts of Eastern Europe. Supply hasn't kept pace. In fact, it's falling at key suppliers including Mexico, Venezuela, Nigeria and Russia. So the price rises.
The logical answer to any question about speculation in a market is: What are you doing to boost supply? In the case of Congress and the solution offered by Obama, the answer is nothing.
They would punish people who do economically useful work, but wouldn't add a drop to our oil supply. If they really wanted to break the back of speculation, they should signal that they intend to use every means at their disposal to bring energy markets back in line.
High prices already have curbed demand here in the U.S., the latest data show. What's left is to drill for the literally hundreds of billions of barrels of oil we have here in this country locked up offshore, in Alaska and in vast shale-oil reserves.
Instead, the Democrat-led Congress has pursued foolish energy policies that lead inevitably to higher prices, less supply and declining standards of living for all Americans.
As for speculation, one tell-tale sign of market manipulation is a buildup of inventories kept off the market to keep prices high. That is, as the price runs up, the speculators pull supply off the market.
Is that happening? No. Oil inventories, in the most recent data, are down year over year. No one's hoarding oil.
Claims of surging speculation likewise fall apart on closer examination. It's true that speculative positions in oil have jumped from 37% of all oil traded in 2000 to 70% now. But much of that trading involves commercial hedging and risk-management — not speculation by people out to make a killing.
As the Commodity Futures Trading Commission notes: "There are almost as many short speculative positions as there are long positions." In other words, speculators are betting as much that prices will drop as they will rise.
In short, there's no real evidence that speculators are driving energy prices up. But there's plenty of evidence that Congress' refusal to permit drilling is a big factor keeping supplies down.
By INVESTOR'S BUSINESS DAILY
June 23, 2008
Comments are welcome at redstatepatriot@hughes.net. Please include the title of the article as your subject line. Selected responses, in whole or part, may be published (appended to the article).
Can't Grasp Credit Crisis? Join the Club
New York Times
Raise your hand if you don't quite understand this whole financial crisis.
It has been going on for seven months now, and many people probably feel as if they should understand it. But they don't, not really. The part about the housing crash seems simple enough. With banks whispering sweet encouragement, people bought homes they couldn't afford, and now they are falling behind on their mortgages.
But the overwhelming majority of homeowners are doing just fine. So how is it that a mess concentrated in one part of the mortgage business -- subprime loans -- has frozen the credit markets, sent stock markets gyrating, caused the collapse of Bear Stearns, left the economy on the brink of the worst recession in a generation and forced the Federal Reserve to take its boldest action since the Depression?
I'm here to urge you not to feel sheepish. This may not be entirely comforting, but your confusion is shared by many people who are in the middle of the crisis.
''We're exposing parts of the capital markets that most of us had never heard of,'' Ethan Harris, a top Lehman Brothers economist, said last week. Robert Rubin, the former Treasury secretary and current Citigroup executive, has said that he hadn't heard of ''liquidity puts,'' an obscure kind of financial contract, until they started causing big problems for Citigroup.
I spent a good part of the last few days calling people on Wall Street and in the government to ask one question, ''Can you try to explain this to me?'' When they finished, I often had a highly sophisticated follow-up question: ''Can you try again?''
I emerged thinking that all the uncertainty has created a panic that is partly unfounded. That said, the crisis isn't close to ending, either. Ben Bernanke, the Federal Reserve chairman, won't be able to wave a magic wand and make everything better, no matter how many more times he cuts rates. As Mr. Bernanke himself has suggested, the only thing that will end the crisis is the end of the housing bust.
So let's go back to the beginning of the boom.
It really started in 1998, when large numbers of people decided that real estate, which still hadn't recovered from the early 1990s slump, had become a bargain. At the same time, Wall Street was making it easier for buyers to get loans. It was transforming the mortgage business from a local one, centered around banks, to a global one, in which investors from almost anywhere could pool money to lend.
The new competition brought down mortgage fees and spurred some useful innovation. Why, after all, should someone who knows that she's going to move after just a few years have no choice but to take out a 30-year fixed-rate mortgage?
As is often the case with innovations, though, there was soon too much of a good thing. Those same global investors, flush with cash from Asia's boom or rising oil prices, demanded good returns. Wall Street had an answer: subprime mortgages.
Because these loans go to people stretching to afford a house, they come with higher interest rates -- even if they're disguised by low initial rates -- and thus higher returns. The mortgages were then sliced into pieces and bundled into investments, often known as collateralized debt obligations, or C.D.O.'s (a term that appeared in this newspaper only three times before 2005, but almost every week since last summer). Once bundled, different types of mortgages could be sold to different groups of investors.
Investors then goosed their returns through leverage, the oldest strategy around. They made $100 million bets with only $1 million of their own money and $99 million in debt. If the value of the investment rose to just $101 million, the investors would double their money. Home buyers did the same thing, by putting little money down on new houses, notes Mark Zandi of Moody'sEconomy.com. The Fed under Alan Greenspan helped make it all possible, sharply reducing interest rates, to prevent a double-dip recession after the technology bust of 2000, and then keeping them low for several years.
All these investments, of course, were highly risky. Higher returns almost always come with greater risk. But people -- by ''people,'' I'm referring here to Mr. Greenspan, Mr. Bernanke, the top executives of almost every Wall Street firm and a majority of American homeowners -- decided that the usual rules didn't apply because home prices nationwide had never fallen before. Based on that idea, prices rose ever higher -- so high, says Robert Barbera of ITG, an investment firm, that they were destined to fall. It was a self-defeating prophecy.
And it largely explains why the mortgage mess has had such ripple effects. The American home seemed like such a sure bet that a huge portion of the global financial system ended up owning a piece of it. Last summer, many policy makers were hoping that the crisis wouldn't spread to traditional banks, like Citibank, because they had sold off the underlying mortgages to investors. But it turned out that many banks had also sold complex insurance policies on the mortgage debt. That left them on the hook when homeowners who had taken out a wishful-thinking mortgage could no longer get out of it by flipping their house for a profit.
Many of these bets were not huge, but were so highly leveraged that any losses became magnified. If that $100 million investment I described above were to lose just $1 million of its value, the investor who put up only $1 million would lose everything. That's why a hedge fund associated with the prestigious Carlyle Group collapsed last week.
''If anything goes awry, these dominos fall very fast,'' said Charles R. Morris, a former banker who tells the story of the crisis in a new book, ''The Trillion Dollar Meltdown.''
This toxic combination -- the ubiquity of bad investments and their potential to mushroom -- has shocked Wall Street into a state of deep conservatism. The soundness of any investment firm depends largely on other firms having confidence that it has real assets standing behind its bets. So firms are now hoarding cash instead of lending it, until they understand how bad the housing crash will become and how exposed to it they are. Any institution that seems to have a high-risk portfolio, regardless of whether it has enough assets to support the portfolio, faces the double whammy of investors demanding their money back and lenders shutting the door in their face. Goodbye, Bear Stearns.
The conservatism has gone so far that it's affecting many solid would-be borrowers, which, in turn, is hurting the broader economy and aggravating Wall Streets fears. A recession could cause credit card loans and other forms of debt, some of which were also based on overexuberance, to start going bad as well.
Many economists, on the right and the left, now argue that the only solution is for the federal government to step in and buy some of the unwanted debt, as the Fed began doing last weekend. This is called a bailout, and there is no doubt that giving a handout to Wall Street lenders or foolish home buyers -- as opposed to, say, laid-off factory workers -- is deeply distasteful. At this point, though, the alternative may be worse.
Bubbles lead to busts. Busts lead to panics. And panics can lead to long, deep economic downturns, which is why the Fed has been taking unprecedented actions to restore confidence.
''You say, my goodness, how could subprime mortgage loans take out the whole global financial system?'' Mr. Zandi said. ''That's how.''
March 19, 2008, Wednesday Late Edition - Final
Hat tip: Dave Cogburn
Comments are welcome at redstatepatriot@hughes.net. Please include the title of the article as your subject line. Selected responses, in whole or part, may be published (appended to the article).
Tardive Diskinesia is a condition caused by long-term use of antipsychotic medications, usually in the treatment of schizophrenia. Diskinesia refers to "an impairment of voluntary movement," usually tics of the face, but other extremities can be affected as well. Tardive refers to the fact that the tics usually persist long after the drugs are no longer taken.
Haldol (Haloperidol) was hailed as a miracle drug in the sixties for patients with schizophrenia. It was the first drug truly effective in controlling psychotic episodes. But sadly, after years of use, many schizophrenics developed Tardive Diskinesia - which doesn't go away. Some Benzodiazepines, such as Valium, Ativan, or Klonopin may improve the situation, but Benzodiazepines have their own set of issues.
Having been gone last week (on vacation in the Islands), I sort of feel like the guy that walks in on the middle of a conversation (about the current market action) and thinks he knows what everyone is talking about. After a few minutes, I can't help but observe that the Federal Reserve is acting to forestall any further damage from an unwind of a speculation that occurred partly as a result of Fed action taken in 2002, which was taken to forestall any further damage from an unwind of a speculation that occurred partly as a result of Fed action taken in 1998. Et cetera.
The Fed, as an institution, is lost. They are not hawks. They are chicken hawks.
But God bless Cramer, by the way. The man has a right to his opinion. And I love it when opinions are expressed passionately. Lord knows I get a little animated myself from time to time. But I disagree with him wholeheartedly.
What is the role of the Fed? Easy - inflation and employment. That is what it says in black and white. But the one thing that separates us from a banana republic is the Fed's independent authority in protecting the purchasing power of the currency in your wallet. That unspoken doctrine is the one link between today's economy and the past.
What does a Fed-free world look like? You have panics. The panic of 1819. The panic of 1873. The panic of 1907. Some people lose everything. Some other people, prudent people, do not. Panics are good. They punish the losers and reward the winners. But somewhere, in the interest of the collective, the idea permeated that one could prevent financial panics by, simplistically, printing more money.
In the movie "Dave," Kevin Kline, as President, announces that, by fiat, all Americans will have a job. There is a cost to providing everyone with a job. And there is a cost with providing everyone with a market safety net. It does not come out of nowhere. It comes out of your wallet and mine. Building more and more houses makes existing houses worth less. Printing more and more dollars makes existing dollars worth less. Am I some wild-eyed Libertarian gold bug? Yes, I want to buy gold more than ever, though I try to resist classification.
Without losers, there can be no winners. If you keep bailing out jerks, then it should not surprise you if you breed more jerks. If you keep administering drugs, it should not surprise you if your patient twitches uncontrollably.
Bring back "debtor's prison" and see how many credit problems you have.
A Market Professional
August 20, 2007
Red State Patriot commentary: Without winners, there can be no losers - the central thesis of liberalism, and the antithesis of liberty and a market economy.
REITS rocket, Asia up, market unchanged, VOL unchanged. Sweet.
For three years I have tried to keep politics out of my commentary. To the extent that it affects the dollar, I can’t – I apologize in advance.
You might have heard about the “IPOD law” on the news yesterday. For the benefit of readers overseas, a New York State lawmaker has proposed banning the use of IPODs, cell phones, or Blackberrys while crossing the street.
I have been walking to work for years while listening to music without getting doused by a New York City bus, dragging my lifeless limbs down Eighth Avenue. So how does my listening to Intergalactic by the Beastie Boys on the way to work affect anyone else? It doesn’t. This is a matter of the state telling you what to do for your own good (and if you know what’s good for you).
First cell phones in cars. Fine. Then trans fats. I read one yesterday about criminalizing not going to parent-teacher conferences. Now this.
We know what a totalitarian society look like because we have Charles Jenkins. In 1965, as an American soldier, he walked across the border to North Korea and defected. He was young and impetuous. He spent 40 years there. As an old man, he was released and now we have his stories to help us understand what pure Statism looks like. He was told what to eat, when to sleep, and when to perform an intimate act (twice a month). Albany is slouching toward Pyongyang.
Most people think their politics lies along a Democratic-Republican axis. This has absolutely nothing to do with Democrats and Republicans. There is another axis, the Statist-Libertarian axis that currencies care about, that the dollar cares about, that markets care about. Democrats and Republicans both have elements of Statism and Libertarianism. But since September 2001, both political parties have abandoned any libertarian thought and have embraced the idea that only government can save us all. People don’t flee countries to escape liberals or conservatives – they flee to escape Statists.
If you make it illegal to listen to IPODs outside, you make it more likely that entrepreneurial people like me are going to get fed up and try to get out of the country before the barbed-wire fences and watch towers go up. For the people that are left behind (including the Mexicans who foolishly thought coming to the USA was a good idea), they will have little ability, incentive or desire to produce anything.
The Dollar is intrinsically worth nothing now, so it is a paper promise of value. U.S. Treasury debt instruments are promises to pay you back in more paper. Underlying the whole system is confidence that the dollar actually means something. Not just that the United States is productive today, but that it will be productive tomorrow - that its educated people won’t pull the ripcord – that people will still have incentive to innovate and work.
Why does the market go up every day? Some imply that a Plunge Protection Team (PPT) is at work behind the scenes, manipulating the market in advance of the elections. Instead, I suggest a reason called “Flat Covering.”
This isn’t because shorts are getting squeezed; this is not “short covering.” It is people who are flat getting squeezed because they’re not fully invested and they’re tired of running alongside a moving market.
After surviving the dump in May/June/July, they distrusted the bounce and decided it was safer to have net flat exposure. But now long/short guys are watching their short book get crushed every day and are gradually getting sucked into the long side. Dare I say it? The market sticks to your ribs like a nice warm plate of Shepherd’s Pie.
Just in time for the elections. It is my strongly held belief that the mid-term elections will be a disaster for the Republicans. This outcome is definitely not my wish, just the highest probability outcome. All extreme liberal Democrats will vote Democratic. All liberal Republicans will vote Republican. Disgusted conservatives will stay home, refusing to vote for a liberal Republican.
The outcome will become dire for this Administration and the nation, and predictably the markets will react accordingly.
The smart money has already evaluated possible sector trades that would work best with a Democratic victory, directionally speaking. However, with especially strong Democratic gains, the broad market likely gets hit for three or four percent. The bigger question is: sell now and lock it in, or hang on and buy more on the flush?
For the record, this could be the biggest Chicken Little call ever.
There is a lot of schadenfreude floating around out there lately. I caution that it could happen to you. It nearly happened to me, in a completely different context, back in 1998.
I was the First Lieutenant on the Coast Guard Cutter “Active,” a 210-foot medium endurance cutter home-ported in Port Angeles, Washington. We were assigned the task of towing a decommissioned 180 ft. Coast Guard Buoy Tender from Astoria, Oregon to Alameda, California. This was kind of a big deal. The class of ship I was on wasn’t really meant for towing, and a major towing evolution was not something we did very often. Nonetheless, we had about six weeks to prepare, so we went about getting the equipment we would need (a new 8-inch towing hawser and a wire bridle) and making what we thought were meticulous plans.
The most dangerous part of the evolution would be “picking up the tow.”
On the way in the Columbia River (Passing Cape Disappointment) the water was flat calm, but there was a ton of fog. This complicated the maneuver, because we had to back down on the buoy tender to pass the tow line. We had a shoulder-fired line-throwing gun for the purpose, but we had to get so close just to see the vessel that in the end we wound up passing the bridle and line by hand.
Once we had the wire bridle hooked up we started heading out, paying out the towing hawser as we went. First 100 feet. Then 200 feet. We had 1200 feet of towing hawser on deck and the goal was to get it out to about 1000 feet. I was on the fantail with most of the Deck Force. We had greased the rail with Crisco to prevent chafing and we put a piece of leather in the towing bitt so that any metal burrs or imperfections on the bitt didn’t damage the hawser.
Halfway out the river the fog started to lift. Sun started beating down on all of us and in our “float coats” we were getting a little warm. I was starting to relax – the tough part of the evolution seemed over, so my attention started to wander a little.
Then I noticed that the leather we put in the towing bitt was starting to work its way out. I figured, “Oh well, the towing hawser has to bet banged up eventually someday.” The problem was, once the leather was free, the tow line started to “run.” My guys were leaping away, trying not to step in the bight of the line. If they had been, they would have been sucked with the towing hawser through a space about the size of a volleyball in a split-second.
It was chaos. Actually, pandemonium. Then, to my horror, I noticed that nobody had secured the bitter end of the towing hawser to anything. The towline could fly right overboard and we could lose the tow. If we lost the tow in the Columbia River, surely the buoy tender would drift onto the shoals within minutes and go aground. I would be responsible for sinking a decommissioned Coast Guard Cutter. All this passed through my mind in those split-seconds.
The First Class Petty Officer noticed it too, and just before he would have been pulled overboard, he threw the line around one of the mooring bitts. At 1200 feet, the line shock-loaded, tensed, but held. If we had lost the tow, I would not be sitting here tapping out this story out to you. I would be flipping burgers (not that there is anything wrong that), or even worse, turning big rocks into little rocks at a vacation destination called Leavenworth. But I am blessed to have had this happen, and grateful that nobody was hurt, and because I learned at a young age a couple very important things about life, markets and trading - before I ever got to the trading job.
#1. Things can and will happen a lot faster, and with a lot more force, than you can even conceive.
#2. Therefore, you always need to secure the bitter end of that line, and have a “stop.”
Dramatic growth slowdown looming for the US economy?
It may be too early to say the Weekly Leading Index (WLI) is pointing toward a recession because the downturn in growth is supposed to be "persistent, pronounced, and pervasive" to indicate a recession is coming. But this is what the early warning signs would look like. Looking closely, you can see both the beginnings of a downward trend and an apparent acceleration of the downward trend. The numbers give every appearance of being an especially significant downturn. One of the seven components of the Weekly Leading Index is equity prices, which conventional wisdom tells us are a great leading economic indicator. When the WLI goes down while equities are going higher, does the divergence tell you something big could be developing. If you think you have a particularly good insight, one way or the other, this would be a good time to position yourself financially.
I'm sure you’ve heard the smart-aleck answer to the question: “Why is the market going down?” Some self-anointed expert calls out, “More sellers than buyers.”
Factually this is incorrect as are so many other things you’ve been told. Markets move not because of the quantity of buyers or sellers, but the urgency with which buyers or sellers adjust the price at which they are willing to buy or sell.
The best example of this is today’s housing market. It is not a housing bear market (yet). Prices are not significantly going down (yet). They are mostly going sideways, having leveled off after a remarkable price appreciation. There is, however, way more sellers than buyers if you believe the inventory numbers, and length of time on the market, of unsold properties. Since home owners are not motivated sellers (yet), they are staying on their offer and the price has stayed relatively unchanged – a few reductions here and there. Often such conditions can work themselves out over time if buyers gradually take up the excess supply (even if it takes years).
This is still a nightmare scenario for the homebuilding industry, but there’s no escape for them anyway. The big question for the economy is what makes people content with “hanging out” on their offer, without feeling the need to hit the “sell now button?”
As long as there is no perceived urgency to turn the house or property into cash, which can then be turned into food, or fund other perceived necessities that refinancing will no longer accomplish, most people will keep their hands away from the “sell now button.”
If consumers start having liquidity problems, then it could be lights out for second home prices, which in turn would be damaging to primary residence prices and slam the door on land speculation – not to mention a lot of other things associated with the “wealth effect.” I don’t know what would tip us in that direction, but I’m not excited to find out.
Keep in mind that a large portion of the current economic recovery has been funded by “found money” from mortgage refinancing - money (untaxed disposable income) that was not earned. With interest rates rising, flat-to-slightly declining real estate prices, speculators less confident of their ability to “flip” properties, and mortgage refinancing reduced to a trickle, personal consumption expenditures should begin to slow measurably by the end of the year and through 2007. There is even a chance that real estate speculators will become the first domino to fall as they hit the “sell now button” in order to cover their leveraged indebtedness.
We may be in the final three minutes of the fourth quarter of the championship game. I’m glad I’m in the bleachers and not betting on the outcome.
What follows is not market trading advice. It is my personal diary, nothing more. Why keep a diary? Because it enforces my personal discipline, prevents equivocation, and forces me to document both good and bad investment decisions. Absolutely, do not use this website for trading advice. Consult a trained and licensed market professional and/or Investment Advisor before making any investment decisions.
Market signals are 'End of the Day', typically in the 15 minutes before the close of the market, unless otherwise indicated, and are applicable only to the broader market, leveraged funds or ETFs, not to individual equities. Chronologically, the most recent market transaction is listed immediately below.
Cover Short - March 5, 2009 DJI 6786 step aside
Profit or Loss + 1487 points on trade
Anticipating a trend change anticipated the last week of Feb or possibly first week of March
Sell Short - November 17, 2008 DJI 8273
Cover Short - November 6, 2008 DJI 8695 step aside
Profit or Loss +895 DJI points on trade 2, +625 DJI points trade 1
I expect a rally and expect it will be short lived which will provide another entry point for short positions. It has the appearances of a technical rally as opposed to a rally coupled with positive economic psychology. It may generate 900 Dow points with a tailwind and some good economic news. I don't believe we have seen the final low. This rally looks like the prelude to beginning the final descent into that low, at whatever level that turns out to be. One day at a time. Looking two days out is an eternity.
There should be a major turning point sometime later this month, maybe around the 20th. At this point it looks like that turning point will be a low. It is my expectation that the market will turn upwards, maybe for several months, from a low around Dow 7800 (most optimistic case), 7200 (the indicated case), 6000 (the worst case). After that we'll have to wait and see.
Sell Short (trade 2) - November 4, 2008 DJI 9585 (adding to October 14th short position)
Sell Short (trade 1) - October 14, 2008 DJI 9320
Sell Short - October 13, 2008 2:00 pm DJI 8980 (position closed - stopped out) Profit or Loss -55 DJI points
Exit Long - October 13, 2008, 09:50 am (closed long position, step aside) DJI 8950 Profit or Loss +849 DJI points
Cover Short, Buy Long - October 10, 2008, 2:00 pm DJI 8111 Profit or Loss +3301 DJI points
September 11, 2008
I’m not trying to be a sensationalist here. My study tells me we should expect a crash-like decline in stocks sometime over the next four to six weeks, starting at any time. Maybe now, maybe in a week, maybe two. Everyone else will probably disagree. The economy and institutions are unraveling fast. Volume is up on stock market declines, shrinks on rallies, and is coupled with lower highs in both the averages and individual stocks. Watch for a lower low which I think is coming.
This coming decline will be very deflationary (housing for example), and if I’m right, wipe out trillions in wealth stashed in hard assets. What then? A massive government stimulus package and hyperinflation policy, which could be the catalyst for a turnaround in declining precious metals and commodities. If they (our brilliant master planners) fail to kick-start the credit creation function at the consumer level real soon, instead of just protecting the banks and financial institutions as the Fed has been doing, I think we’re headed into an economic black hole not unlike the 1930s. Protect yourself my friends. I’m short the market.
That having been said, on a monthly chart of the DJI, I can see 6500-7000 in our future, finding a bottom sometime after August of 2010. In the meantime there could be any number of tradeable corrections in addition to the primary trend. I am expecting a market bounce of tradeable proportions around 10500-9800 and again around 8700, and again in the low 7000s, and again around 6000 (rough estimates from this far away).
There will be any number of daily or weekly market bounces before those numbers, and if I am reading the big picture correctly, they will be short-lived. Nobody knows where the bottom is. The bottom has to confirm itself. Trying to pick the bottom is like trying to catch a falling knife dropped from the roof of a 30-story building. The numbers are my worst case estimates at this early stage. DO NOT RELY ON ANY OF THESE NUMBERS. Instead, laugh out loud. I will probably change my mind by tomorrow morning when I think I have found some evidence that the world's psychology may be changing direction.
Think about the statement we get from the media: "This is basically a market correction."
Everyone thinks/wants divergence from the previous profitable trend to be a correction. Even Lehman's fall was a correction, a severe correction that reflected the magnitude of the excesses in risk assumption that permeate the rest of our society, our federal government, our municipalities, corporations, small business and family units. Lehman corrected to zero, the correct valuation, and took a lot of people with them, including employees, stockholders, pensioners and creditors. The rest of the economy has only begun its correction (if it is only a correction rather than continuation of the longer trend).
Pause for just a moment. Slowly look at the bigger picture and reflect on reality. What product, technology, goods, foodstuff or service does the United States have that it can sell to the rest of the world, something the world wants very badly? Whatever it is, it has to be the source of American jobs, tens of thousands of jobs, in every state. On top of that, what source of energy is the United States developing that will power future industry, plus municipal and domestic uses, at a low price, that will enable an entire nation’s technology, manufacturing and transportation - also the source of tens of thousands of jobs, in every state? What will salvage the East Coast States that will transform millions of minorities and the "disadvantaged" into productive citizens?
Instead, the United States is foolishly turning their own food, having once been the bread basket of the world, such as corn and grain, the only real cash-cow for the last century, into energy, instead of selling their foodstuffs to the rest of the world for a huge profit. On top of that, the US has abandoned its maritime fleet needed to transport goods. Not only are we not growing our own (we import food), we're not making our own (we import our consumer products), and we're not capable of transporting our own (we've abandoned our maritime industry and we're selling our infrastructure, corporations, buildings, highways and seaports to foreign entities), and we’ve abandoned our national sovereignty.
If you are willing to hurt your own mind, try to imagine deflation in all hard assets worldwide, commodities off 50% from their highs, e.g., gold in the $500s, and simultaneously a decrease in the value of the US Dollar to roughly $0.45 over the years ahead. Most people don't think it’s possible. You probably can't find one acquaintance of yours that will agree, which is why I don't publish my views. They probably also don't think 30-year T'Bills will get to 3.5% or lower. I do - lower than 3.5%. Also know that in my experience, housing typically bottoms 12-18 months AFTER the stock market bottoms. Think about that for a minute ..... and for the next three or four years as the commerical and residential housing market continues to decline.
There are always opportunities if you are not standing on the train tracks and refuse to get off and step aside when you hear a train coming. If you are not already debt-free, attempt to get there and keep some cash at home - enough for a couple of month's expenses. I sincerely suspect we may only be in the eye of the hurricane with more yet to come. Don't keep more than $100K in any single bank or securities account. It took us since 2000 to move from the front wall of the hurricane into the eye. Soon we will be forced out the backside by McCain or back into the NE quadrant by Obama.
Market pundits are lining up anticipating a market bounce from what people will "hope" is a bottom, maybe around election time when the outcome becomes clearer. The market will tell us if we have a bottom, and it may take months to be sure that it's more than temporary.
Sell Long, Sell Short - August 26, 2008 DJI 11412
Profit or Loss + 173 DJI points
Cover Short, Buy Long - July 16, 2008 DJI 11239
Profit or Loss +1068 DJI points
Sell Short - June 13, 2008 DJI 12307
Everything before June 1, 2008 has been removed from online and archived
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