Kimball Corson
03/09/2010, Neiafu, Vava'u. Tonga

From The Huffington Post, we get this:

"For those rich enough to have debated between buying both an island and a yacht, the good news is the need to choose may no longer be necessary.

At the Abu Dhabi Yacht Show last week, design plans were unveiled for a so-called "moving island" yacht called the WHY 58x38. Price tag: $160 million.

The boat's specifications are impressive - at 190 feet long, guest areas reach 36,000 square feet. The three floors have space for 12 guests and 20 crew members, and the boat features a 426-feet long promenade, a spa, a library, a 'beach,' an 82-meter swimming pool, and a helipad.

The ship is a collaboration between Monaco-based yacht brand Wally and Parisian fashion empire Hermès, hence the "W" and "H" of the WHY. The boat is designed to be environmentally friendly, using far less fuel that other yachts of a similar size, in part thanks to wide use of solar panels on the ship.

On the promotional website for the ship, Wally's president Luca Bassani Antivari writes 'Everybody's dream is to live on an island, in complete freedom, without constraint, with the independence that only self-sufficiency can provide.'

Pierre-Alexis Dumas, creative director, of Hermes also manages to avoid hyperbole, writing, 'From the invention of the compass to block capitals, from the rudder to the first steps on the moon, man discovers and pursues his dreams.'"
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Those white strips in pairs are deck or lawn chairs, folded back. Now this is a bit bigger than my boat. Notice the lack of sails. I wonder what its power plant is like and what kind of speed it can make. Can it carry enough fuel to cross the Pacific from the Galapagoes to the Marquesas -- the longest, direct stretch of open ocean? I would have to check the website and I haven't done that yet. To my practiced eye, the boat looks a tad beamy.

photograph not mine.
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On Many Americans Being Scientifically Illiterate and Daft

"An Agence France-Press report estimates that some 40 percent of the United States believe in creationism, which holds that the Earth was created by God only several thousand years ago. Students are flocking to Liberty University [a religious college] to study this literal interpretation of the Bible, much to the dismay of scientists." from HuffPo

How can we progress with this foolishness? How can we have an informed electorate? How can the complex issues of the day be understood by such simpletons? How can they vote sensibly? How limited is their capacity to read and assimilate information? What can our future be with these people?
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Comments [3]

Kimball Corson
02/25/2010, Near Neiafu, Vava'u, Tonga

Getting my windvane steering repaired from the damage to it by the tsunami in American Samoa. We rebuilt it at the same time, from my spare parts kit, installing new key pieces and new bearings. The metal work was done by a resident Australian here who cannot believe that a country as strong and powerful as our does have a national health care system. I explained to him that our defense budget for the year is about $663 billion, but the Senate Health Care bill would cost us $87 billion a year. He was flabbergasted.

Note, I still have not put my dodger and bimini back on since the cyclone.

Also, Arizonans should note the hailing port written on my stern: "Lake Pleasant, AZ," a location to carry around the world!

Here, a "local" is diving for a dropped part which he easily found. My keel was in about 9 feet of water further out and I draw six feet. He was in about 4.5 feet of water.
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America Needs to Raise Taxes on the Rich and Redistribute Income

Les Leopold, author of the book, The Looting of America, has written an interesting article. His core argument is we need to more heavily tax the rich to equalize the income distribution, a point I have been arguing for on Seeking Alpha for some time, generating considerable controversy, but not much by way of coherent and articulate responses.

As Les Leopold contends:

"We are told that we're already living well beyond our means -- that entitlement programs like Medicare and Social Security will bankrupt us. Forget the solar panels, the smaller classes and the new jobs -- we've got to cut back on government programs. . ."

This is the favored pitch of the rich and wealthy. The middle and lower classes should tighten their belts as the time is here to shrink the entitlement and benefits programs and thereby make government smaller. This is the big pitch the wealthy and their lobbyists sing as a chorus.

But currently, at their end, the inside song is much different. As Les puts it:

"Meanwhile, the super-rich are still having a ball. In his annual shareholder letter, mega-investor Warren Buffett wrote, 'We've put a lot of money to work during the chaos of the last two years. When it's raining gold, reach for a bucket, not a thimble.' And Forbes Magazine adds, 'Many plutocrats did just that. Indeed, last year's wealth wasteland has become a billionaire bonanza. Most of the richest people on the planet have seen their fortunes soar in the past year.'"

So what is going on here? The answer in a nutshell is massive income and wealth is being transferred from the middle and lower classes to the wealthy, while government benefit bones are being tossed to the rest of us with the admonition that they will soon be cut off. But lets put the situation in perspective. As Les writes:

"In the 1950s the marginal tax rate on those earning more than $3 million a year (in today's dollars) was 91 percent. By 1990 it was 28 percent. The IRS says that the top 400 richest tax filers actually paid a rate of just 16 percent in 2007 (the latest numbers we have). Yep, the richest earners -- people who took in an average of $343 million each -- probably paid a lower rate than you did. Something to consider as you sign your 2009 return. By the way, those 400 people who do so well on tax day have a combined net worth of nearly $1.37 trillion. (According to Forbes Magazine their wealth has gone up on average by more than 16 percent over the past year -- the worst economic year since the Great Depression during which 29 million Americans are without work or forced into part-time jobs.)"

The obvious resolution to this problem, in light of these numbers and the increasingly bad distribution of income and wealth, is to raise taxes on the rich and lower them on the poor. As matters stand, 22% of all income goes to the lower 59% and 6% goes just to the top 1/10 of 1% and it is estimated that more than 80% of all wealth is concentrated in the top 10% or so. Too, we are just about to all but do entirely away with the federal estate tax, another crime in the making.

So why are we so hesitant about taxing the super-rich?

First, they have a huge and effective mega group of highly paid lobbyists who would try to block such efforts and, following Bush, contend that even more tax cuts for the rich are needed, to have the economy recover well, of course. Beyond that they have a set of intellectual arguments with which to defend themselves against higher taxes. They are, succinctly put:

1. We've earned it.

The concept of "earned" it here has obviously shifted. This is especially true in light of the low tax rates for the wealthy, the bailout of the big banks, AIG, GM and others, too largely at taxpayer expense, the tax breaks for the wealthy and the million and one ways the rich and wealthy, with their lobbyists, have figured out for looting government. The successful urge most government functions or activities to be outsourced, to their own companies of course and they turn around and charge the government outrageous prices that the GAO cannot stop talking and writing about.

Government subsidies to farmers, often for not growing anything, is another example of how they have "earned it." In 2009, the Wall Street wizards collected about $150 billion in bonuses - a reward for crashing our economy no doubt, instead of losing their jobs, as they should have. Yeah, they earned it alright, like hell. Or we have Warren Buffett buying options for Goldman Sachs preferred stock big time just before the rest of us learned that Uncle Sam was going to bail out AIG so it could make good on all Goldman's CDSs and have the company do well. Yeah, Warren earned it alright, the new fashioned way: by looting government, directly or indirectly.

As Les writes, "You'd think we'd be crying out for a windfall profits tax to reclaim our money. But no." I suggest that we are being sucker punched here. Just like America was sucker punched by Carl Rove into voting against their economic interests big time and in favor of sillier things like no abortions, down with gays, family values, etc. Great distractions to the looting of America at their expense which has been going on.

2. Redistribution of Income is Un-American.

I catch this one all the time. I am a communist. I'm a Marxist. I don't know what I am talking about. I have never earned big money (not true). I don't understand. The rich will quit work if their taxes go up. Raising their taxes is unfair because they have earned it. But the interesting things is no one opposing me ever addresses the facts or arguments I raise, especially this one which I have repeated several times:

The US economy is being damaged by the maldistribution of income because the rich have a lower average propensity to consume goods and services and a higher average propensity to buy financial assets, especially on secondary markets. Therefore, aggregate demand and GDP is relatively depressed and financial asset prices are relatively inflated. This is injurious to the national economy because GDP is lowered permanently relative to where it would have been with a more optimal distribution of income.

After WWII, our economy boomed with a marginal tax rate of 92% on the rich. At the time, we had one of the fairest income distributions in the world. Our economy did real well. Not anymore. Today the gap between rich and poor is wider than at any time in U.S. history. A key sign of the times is this: in 1970, the compensation ratio of the top 100 CEOs compared to the average worker was 45 to one. In 2008 it was 1,071 to one. What did those CEOs do to be compensated so much more highly: give us the Great Recession with their shenanigans? Are we daft or what?

Silence is all I ever hear regarding the economic arguments. Instead, I am just called a Marxist and told the government should not take the money of the rich, because they have earned it.

Yet the fact is, while the naysayers say no to income redistribution, income redistribution is going on right under their very noses and they have no problem with that. I guess it depends on whose ox is getting gored. As Les explains:

"Just think of all the scams corporations and the rich are running: ever-rising credit card fees, predatory mortgages, usurious interest rates, check cashing ripoffs, monopoly pricing. They turn income into lower taxed capital gains, find offshore tax shelters, collect subsidies for their runaway shops. And then they netted the big one: Wall Street bailouts. Post-bailout, these too-big-to fail companies are getting even bigger. It all adds up to a major redistribution plan -- from the many to the few."

3. If we tax the wealthy, we'll hinder investment and kill jobs.

This is nonsense. The rich have worked much more honestly and harder under higher taxes in the past than they are now, acting to loot America and get something for nothing or too little. As Warren Buffett has said repeatedly, if you tax the rich more, from all he has seen and knows, they will simply work harder.

Being at or near the top is not just about compensation as any idiot knows. Too many other factors, prerogatives and social aspects attend such positions. Indeed, studies show it is relative income that matters most: how is your compensation relative to your nominal peers? But this foolish goes on and we daft believe that if the rich are taxed more they will quit work. Indeed, look what has happened after we cut taxes on the rich under the Bush administration. As Les explains it:

" When we cut taxes on the super-rich, we got a different kind of investment boom than the politicians and economists had promised. The wealthy literally ran out of investments in factories, equipment and even services. So they flocked to financial investments -- which were supposedly safer and more profitable anyway. The super-rich laid their money down in the Wall Street casino, and helped puff up bubble after bubble. Profits in the financial sector soared. In 1960, the sector accounted for about 15 per cent of all corporate profits. By 2008 (before the crash, that is), it was almost 40 percent. The financial sector crashed as the direct result of tax cuts for the super-rich and Wall Street deregulation."

4. Government's too big already. We should be cutting the public sector, not raising taxes to expand it.

This is disingenuous. What is in fact being said is we want entitlements and benefits cut, but never the defense budget. That is one of the key ways we can we sell government overpriced products and services and get rich. No one rich ever mentions cutting the defense budget of $663 billion this year.
No, they attack the senate Health Care bill which puts everyone under coverage for a relatively cheap $87 billion a year and which the CBO estimates will actually reduce the deficit in time.

Again, are we daft or what? We believe these foolish arguments, just like Rove persuaded the American public apple pie, Mom and family values were more important than their own economic interests. America was induced to actually vote against its own economic interest. Not too smart, I say.
Government has largely expanded in response to the efforts of the well-to-do and their lobbyists to add government outsourced and in house programs and enlarge certain budgets so as to enable them to better loot our government in more and different ways.

We need to understand that. It has been going on since Eisenhower warned of us the military and industrial complex and yet, somehow, we seem too daft to see or understand it. In that sense, we are getting just what we deserve. But we should understand better and fair better too, I believe.

America needs to wake up, understand well what is going on and demand in a loud and clear voice that the taxes on the rich be raised to sensible historical levels and that income in America must be more equally and fairly distributed, again, so the economy and middle class can revive.
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Comments [0]

Kimball Corson
02/20/2010, Neiafu, Vava'u, Tonga

About two feet plus across.
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The Problem of Reverse Moral Hazard from Government Inaction

Comments to a recent article brought to mind an underlying conflict among many about how to view a recession or depression. One view is to argue that an unrestrained down turn, performs a useful, necessary and inevitable function because it (1) cuts back on excesses, (2) prunes the "dead wood," out of the economy, putting lesser companies and people out of work, and (3) corrects imbalances in and between markets. I call this the "let's have the worst recession at all costs" viewpoint, or for short, the moral retribution approach.

The problem of reverse moral hazard

Others, while agreeing that a down turn can do these things, argue (1) the costs are too high from that approach and (2) too many companies are destroyed and people, thrown out of work, who essentially did nothing wrong, except get caught up in the national economic tail spin. The analogy is a good, well-valued stock that goes down with the rest of the market. I call the second problem here for those injured the one of reverse moral hazard. Companies and employment are lost in great quantities by people who did nothing seriously wrong and injured no one. That is the core problem with the retribution approach and the reason governments should act and intervene.

Fortunately, good public policy, while certainly not perfect, seeks to avoid reverse moral hazard problem and is more neutral, not seeking to injure and being less imbued with a sense of retribution. It provides general stimulus programs for interim help -- to provided time for hopefully successful readjustment by companies and employees in less precarious economic positions, recognizing that the worst companies and employees are going to be - what is the word - "pruned" away by the down turn. Obviously, this is a more effective and less costly approach to do what often paniced markets are trying to do with an indiscriminate sledge hammer.

Understand well that, although I am a Chicagoan, markets often do badly, overact and much of the time get things wrong, from the vantage of hindsight. Markets are only truly efficient at getting the net results of what people mistakenly or correctly think. In a panic, you get panic market results.

The special case of too big to fail

Too big to fail is an exception which raises the problem of moral hazard. Here direct aid to specific companies is provided, over and above general stimulus aid. In such situations, managements may stay or go, depending what government decides. In the case of GM, they went; in the case of Goldman Sachs, they stayed. The assumption behind too big to fail, which is correct, is that if those companies went under, the consequences for others would be too broadly dire and the costs to them, too high. The reverse moral hazard, if you will.

Big banks, for example, got direct help: the benefit of Fed MBS purchases, TARP I and II, super cheap loans from the Fed and the ability to park their reserves with the Fed and earn interest on them. This, along with the abandonment of the M2M rule, affords them even more time to readjust, to use profits to repair their balance sheets and emerge whole.

One difficulty, of course, is direct aid is very expense and the burden this time around was far too much on present and future taxpayers, creating again the problem of reverse moral hazard. There is a net income and wealth transfer from taxpayers to big banks, their officers and their shareholders that cannot be morally justified, especially in light of the banks economic misbehavior and their moral hazard problem. It did not have to be this way, however.

Looking back, with the advantage of hindsight, the officers of the big banks should have been replaced, TARP I and II funds should have been provided, upon that condition, in exchange for equivalent stock back, thereby diluting existing shareholders, and the TARP funds provided should have been in a sufficient amount to just allow the big banks to survive and then clean up their balance sheets from subsequent profits. Also, acceptance of serious regulations established as positive law, leaving no discretion with regulators to be "influenced," should also have been a precondition for help, but unfortunately no one thought that far ahead. Sonnets are not written while the ship is sinking.

The problem with letting the big banks fail

Consider, realistically, what would have been the consequences for most good businesses if we had taken the market orientated, moral retribution approach regarding just the big banks and let them fail almost all at once, as Lehman brothers did, even if we had had a general stimulus program in place. In other words, reject the idea that they were too big to fail and let them sink or swim like other companies. Too be sure, we would be rid of Blankfien and his ilk doing God's work, but what would have been (1) the impact on the economy and (2) what would have occurred in the banking industry?

The economy would clearly have gone into a serious tail spin that probably would have reached depression proportions. Many, many good businesses would have failed. Many more people would have become unemployed. A near term massive credit crunch and crash in the financial markets would have been much greater, longer, larger in scope and worse than any we have ever experienced. The stock market would have collapsed, destroying a lot of good "value." Banks would have been shoved through FDIC insolvency proceedings and smaller, cleaned up banks would have emerged -- after the officers and share and bond holders had been largely scraped off -- to be sold to the public, but could anyone afford to buy them?

This outcome over time would have been more optimal for the banking system alone, but at what price to everyone else? The reverse moral hazard problem, again.

The reverse moral hazard conclusion

Recessions and depressions do not simply "prune the dead branches." Instead too many good businesses and good workers have their economic existences destroyed as well. Too many are rendered unemployed or thrown out of business who in fact were doing well or at least well enough. The moral retribution approach overlooks far too much and allows too many to be injured. There is simply no good reason why so many more people who don't deserve it should have their economic lives destroyed. The moral retribution argument of keep government out of it and let the recession or depression happen is unthinkingly fraught with serious reverse moral hazard problems. It is too short sighted and simply wrong.

That we have not handled the banking situation optimally or the stimulus program optimally is not an argument in favor of moral retribution. It is an argument that government action should have done much better.
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Comments [0]

Kimball Corson
02/20/2010, Neiafu, Vava'u, Tonga

Sort of an orgy.
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Why Our Present Economy Is Not Sustainable

Most of us are not going to like to read what I write here, but, after careful consideration, I believe it is the truth, whether we like it or not. However, I doubt that we will be able to face up to the problem and fix it. Succinctly put, the problem is this--

Within the U.S and some other nations, the levels of consumption required to sustain our existing economic and productive arrangements are inconsistent with our present distribution of income.

We cannot maintain our expected, post recovery social and economic arrangements with the present distribution of income in the US. Given our trade deficit and increasing productivity in manufacturing, and in light of that maldistribution, aggregate demand will continue to be deficient, even if consumers dropped their savings rate to zero and had minimal debt to service.

With only 21% or 22% of all income going to 59% of households, and the rest to the top 41%, with the very top 1/10 of 1% getting 6% of all income, the prospect for aggregate demand, because of the income class differentials in the propensity to consume, is simply too low to generate full employment or use up our existing excess manufacturing capacity.

Savvy economists who have thought about this and studied the numbers realize this is true but are not willing to raise or discuss it, given the sources of their or their institutions grant support. It is a secret that needs to be put on the table.

As one economist, who will remain nameless, has put it:

"Social and economic stability, therefore, depend upon redistribution for which there is no overt legal framework or political consensus."

In an effort to try for sustainability, ever greater government consumption expenditure or transfer payments to the poor are needed and occurring to partially make up for the deficit in consumption by the middle and lower income classes. This increases our federal deficit unsustainably and induces increases in the money supply to finance that deficit.

At the same time, government is using all available means to redistribute income from government revenues to the higher income households, while enriching governmental participants in the process along the way. The system may be thought of as one for looting the government and the middle and lower income households by the well to do or rich. None of it is sustainable in the longer term.

Rerouting so much income to the higher income households causes the average propensity to consume to drop, aggregate demand to drop and increases the demand for financial investments. Secondary financial markets become overvalued relative to the economy. Booms are fueled to induce greater private consumption, but they invariably result in messy busts. The Fed goes along with the need for the moment, not realizing what is going on at the macro level. The stock market largely stays up because there is so much wealth and so many wealthy supporting it.

But the core proposition is that the economic system as we know it is not sustainable, with the present resulting maldistribution of income and what is going on that will worsen it and damage the government, already very badly in debt. Things simply cannot stay this way. The economic system will eventually collapse and indeed, I submit, it is already starting to so.

Most people do not have a clue about what is going on. All they know is the US government is a mess and it has let them down relative to their expectations and the economy is not recovering too well, while the wealthy seem to be doing fine and getting wealthier. They see the results, but not the mechanism. I call it "the looting of America by the rich." There are limits to how far it can go on before government, the economy or both collapse or fail badly.

Support programs for bad economic times, such as unemployment benefits, and some entitlement programs are the countervailing band-aids being used to literally maintain social stability at the price of ever increasing deficits. Without them, the economic system would sink altogether and social unrest would quickly move toward revolution. While funds for these purposes are borrowed or money printed to maintain this end game, the shoveling of revenue and income toward the wealthy by government continues largely unabated, with government employees taking their cut along the way, in one form or another. Witness the revolving door between government employment and employment in the industrial complex that lives off Washington.

Production and consumption in America are too badly out of whack. Government is shoveling funds as fast as it can in both directions, but the effort is not sustainable. Funds for the bottom end are too largely borrowed. Government cannot handle the ensuing debt load and the longer run prospect of inflation. On the other hand, not to provide those funds, such as unemployment benefits, is to court social disaster. The looting of the middle and lower classes and of the government by the wealthy likewise continues unabated.

The on-going maldistribution of income must stop if we are to have any chance to rebalance and save the economic system, the less fortunate and our government. However, too many seem absolutely clueless or too badly caught up in ideology over the matter or worse, unmitigated greed, to the extent they do realize what is going on. The situation developing longer term is therefore increasingly hopeless, in my view.
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Comments [3]

Kimball Corson
02/20/2010, Niafu, Vava'u, Tonga

A major pod of these showed up near to my boat. They were too engaging not to study.
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Medical Tourism Is Taking A Hold Big Time

Medical tourism (also called medical travel, health tourism or global healthcare), is what it is called: going abroad for elective or major surgery or medical treatment.

A forecast by Deloitte Consulting published in August 2008 projected that medical tourism originating in the US could jump by a factor of ten over the... next decade. The report estimated that a 1.5 million Americans would seek treatment or surgery outside the US in 2008. The growth by a factor of ten would have the figure at 15 million by 2018. The growth in medical tourism has the potential to cost US health care providers billions of dollars in lost revenue. The industry is already at $40 billion a year now.

A Univ. of Delaware publication writes, "The cost of surgery in India, Thailand or South Africa can be one-tenth of what it is in the United States or Western Europe, and sometimes even less. A heart-valve replacement that would cost $200,000 or more in the US, for example, goes for $10,000 in India--and that includes round-trip airfare and a brief vacation package. Similarly, a metal-free dental bridge worth $5,500 in the US costs $500 in India, a knee replacement in Thailand with six days of physical therapy costs about one-fifth of what it would in the States, and Lasik eye surgery worth $3,700 in the US is available in many other countries for only $730. Cosmetic surgery savings are even greater: A full facelift that would cost $20,000 in the US runs about $1,250 in South Africa." Other figures from Forbes magazine in 2007: bone marrow transplant, $400,000 in U.S.; $30,000 in India. Liver transplant, $500,000 in U.S., $40,000 in India.

Hospitals and doctors doing the surgery abroad are often as good or better than typically found in the U.S. Many doctors are US trained or actually Americans. Many hospitals are newer and have the latest equipment.

Isn't competition wonderful?
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Comments [1]

Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

Abandoned dock of closed-down Paradise Hotel after big restaurant fire.
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New Forecasting Index Predicts Economic and Stock Market Decline

Economists have long sought an effective financial indicator that gives us an accurate forecast on where the economy is going. Results have been mixed. Examples here are plentiful. One is to look at the term structure of interest rates and gauge the spread between short and long term bond yields.

Another is to look at stock prices and yield spreads as in the Conference Board's Index of Leading Economic Indicators. Bloomberg also has its Financial Conditions Index and others have similar indices. Many prefer to look at the spread between riskier yields and safer yields to estimate where the economy is headed.

The more technically minded have looked at measures of financial stress as a leading economic indicator, such as the difference between actual and predicted yields from various interest rate models or, more simply, the LIBOR-OIS spread.

However, rarely are these measures very successful when applied retroactively against actual historical data, especially in predicting amounts of future change. That is the rub.

Recently, however, a team of economists -- Jan Hatzius, from Goldman Sachs, Peter Hooper, from Deutsche Bank, Rick Mishkin, from Columbia, Kermit Schoenholtz from New York University and Mark Watson, from Princeton - have worked hard to develop a financial conditions index which does just that and it does it pretty well, too. The work behind it and the index itself have recently been presented with explanations to top Fed officials who are said to have listened with considerable interest.

To develop their financial conditions index, which I have mentioned here on Seeking Alpha before in passing, they have developed an integrated formulation of some 44 separate time series of data, including, predictably enough, many of those identified above.

The goal was to develop not only a good gauge to show us where we stand in regard to our financial sector, but also one which tells us in which direction the economy is headed. They have done so by a major effort to isolate the relevant data from the general underlying business cycle, with the goal being to predict real GDP growth from the financial index they have developed.

Applied against historical data, the formulation does better in some periods than others. But that is more in predicting actual GDP than it is in gauging the direction of GDP movement relative to the present, where the index fairs much better and exceptionally well compared to most.

So what does the new index show us for the here and now? The results are not as encouraging as we would like. The indication is, as I have been arguing, that we are having a contraction in the financial sector that portends the possibility of a double dip recession at worst and a mild mid-recovery dip, at best. Chartists will undoubtedly notice the trend of lower highs since about 1992 or indeed, with some slippage, all the way back to 1970.

[Chart of the index cannot be reproduced here, but shows a marked, serious and recent drop.]

This result obtains, notwithstanding an expanding stock market, a steep yield curve and other favorable variables. But contrary indicators include declining M2 and M3, a falling monetary multiplier, a decline of issued and outstanding commercial paper and a decline in the issuance of mortgage backed securities. All signs of contraction in the latter category.

Although we seem to be fine for now, this is a forward looking, predictive indicator. In part, it is based on the deviation of various financial indicators from what is predicted for those indicators from recent economic conditions. Some indicators have not improved much, in light of our recent GDP growth. That is a bad sign. Secondly, the index uses not only flow variables, but also underlying stock variables and many of the latter are relatively stagnant, too.

It is clear that we are not out of the woods, by any means and likely will be headed toward worse times.
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Comments [2]

Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

Tool shed guard pig. A real assault porker. Bacon protection.
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The Financial Condition of Big Banks

Study of the consolidated and dummied up bank balance sheets for all large American banks in the US, not seasonally adjusted, shows several things. See here, H.8, Page 11 as of March 5, 2010. These data are published by the Board of Governors of the Federal Reserve System. They are an embarrassment to the government and to the basic principles of bookkeeping.

As note 19 explains, prior to July 1, 2009, the components of assets and liabilities do not sum to the totals of assets and liabilities by the amounts of data in items or entries not previously published, until now. In fact, they still don't. Therefore, I have used the non-seasonally adjusted data and have done the totals myself with the new included data. What a pain.

Imagine, double entry bookkeeping that fails the double entry requirement for the totals of assets and liabilities. But as we shall see, this problem is the least of it. The big banks, it turns out, are using a loss or write down figure on booked loans and MBS of only about 1.3% of face value. Greater disingenuousness is hard to find. Leave it to the bankers.

Looking at the reconstructed balance sheets indicated, several things can be observed or deduced. First, since the end of December 2009, bank credit has fallen slightly and all of the following figures are also down slightly, continuing a trend that started in about mid 2009.

Loans
Commercial and Industrial Loans
Real Estate Loans
Home Equity Loans
Commercial Real Estate Loans
Consumer Loans,
Credit Card Loans, and
Mortgage Back Securities ("MBS")

On the other hand, Treasuries held is slightly up and trading operations are substantially up. We are not talking about marked changes in most cases here, but slow and incremental ones consistently moving in the same trend direction since about mid 2009. This is a part of the monetary contraction I have written about on Seeking Alpha.

When MBS are combined with the foregoing listed categories of loans, they make up about 55.0 % of big banks' total assets, aside from interbank loans, trading operations, cash on hand, derivative valuations and the like which are categorized differently on the consolidated balance sheets for the big banks as published by the Fed.

The real shocker to emerge here is that, when we pull out assets such as the interbank loans and the others I have noted above which are categorized differently, banks' own allowance for loan losses and bad debt comes to only 1.32% of the remaining assets, mostly their total loan and MBS portfolios and deposits. More realistic current guesstimates range from 25% to 50% on those portfolios. Games are definitely being played here under the M2M rule. 1.32% is laughable.

Using the big banks 1.32% loan and MBS loss figure, total big bank assets come to $20,369 billion and total liabilities come to $16,652 billion. Shareholders, whose equity appears nowhere on these balance sheets, seem still have their heads above water. But now let us change the assumptions regarding loan and MBS losses to more likely figures.

Creating the new totals of assets and liabilities, as above, with all the omitted data now included and using more realistic percentage estimates of losses on the loans and MBS portfolios, we get the following results:

The difference between Assets minus Liabilities in billions then comes to --

$1,043 billion, with about 13.7% of total assets reduced, with a 25% write down on the loan and MBS portfolios,
($235) billion, with about 19.4% of total assets reduced, with a 35% write down on the loan and MBS portfolios,
($651) billion, with about 22.0% of total assets reduced, with a 40% write down on the loan and MBS portfolios, and
($1781) billion, with about 27.5% of total assets reduced, with a 50% write down on the loan and MBS portfolios.
Some observations

1. Big banks loss estimates are a joke.

2. Big banks have vamped up other parts of their balance sheets, such as trading operations, to reduce the impact of their losses on their balance sheets,

3. Some big banks seem not to know what their "true" or "shadow" balance sheets might look like, except perhaps for some rough figures on a napkin.

4. Shareholder equity is not so impaired as some of us thought.

5. Shareholder equity has been material aided by the following Fed and government policies:
----massive purchases by the Fed of MBS and impaired RE loans
----a zero interest rate policy to support stock and other equity prices
----first time home owner purchase credits
----TARP I and II
----Abandonment of the M2M rule

6. With 700 banks on the FDIC's unofficial troubled bank list, the big banks are well positioned to take over much territory and many customers of medium and smaller banks in the future with the net effect being the creation of a stronger oligopoly in banking with higher market share concentration in the big banks.

7. The obvious game plan here of the Fed and government is to keep suspension of the M2M rule in place and allow banks to use their earnings especially from trading to whittle down their loan and MBS losses over time,

8. Banks are fighting proposed federal bank regulations that would impair or compromise their ability to trade in a riskier fashion for profits that can be earned more quickly than by traditional banking operations.
______

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Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

Checking out a new place.
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Will Banks and their Bad Debt Recover?

It is unclear what federal policy is regarding the bad debt on banks' books. Aside from shuffling some of it from certain banks to the Federal Reserve banks, not much has been done, except to abandon that effort.

As I have written recently, one approach would be to have bankruptcy-like bank reorganizations presumably in the form of FDIC proceedings to
scrape the bad debt off, along with the stockholders and managements of the banks, and sell the reorganized and smaller banks back to the public. No moral hazard attends this solution. Yet if deeds and actions could speak, it seems this alternative is not acceptable to our government, probably because of the politics of it -banks want their cake and to eat it too.

Many other options entail much moral hazard and they are certainly not on the table. They would too much rile the public, which is growing sensitive to being gouged.

My preferred solution is to have the Fed buy the bad debt of banks at face value with newly created money and take equivalent stock back for the difference between face value and market value, diluting existing shareholders. The new money, when deposited in the banking system, could then be mopped up using a higher reserve requirement. Some bad debt could be sold at market and some held. The government might actually make some money here if bank stock later appreciated. The real losers under this option are the shareholders.

However, the government and the Fed have not shown any recent interest in any option like this one either, probably again for political reasons. Those associated with banks may not be harmed unless they are solely depositors who can recover.

The Fed's and government's approach seems most benign, not wanting to injury anyone associated with banks, except perhaps the taxpayers in passing. This interpretation is consistent with the observed political lay of the land. It also comports with the reasons for setting aside the mark to market rule.

So what is federal policy here? My take, based on what is being done or not done is that the unexpressed policy has two components. The first is to let the housing market reach what we can agree is the bottom and have it settle out. The other component is to then assess is what I will call the "Latin America default" model, to gauge whether it could then be a workable solution in that situation. I explain.

Consistent with the thoughts under lying suspension of the market to market rule, the implicit view here is that the housing market is out of whack and does not provide fair valuations for the debt on banks' books. Once that market stabilizes and the economy recovers, we can then gauge the situation and determine whether the Latin American default model is workable and if so, use it. What is that model? Let me explain.

The relevant history in a nutshell is as follows:

Beginning in the late 1960s and through most of the 1970s, many Latin American countries, notably Brazil, Argentina and Mexico, borrowed huge sums of money from international creditors and U.S banks for industrialization, especially for infrastructure programs. These countries had rapidly growing economies at the time and the banks were happy to continue to provide loans.

Between 1975 and 1982, Latin American debt to commercial banks increased at a cumulative annual rate of 20.4 percent. Latin America quadrupled its external debt from $75 billion in 1975 to more than $315 billion in 1983, or about 50 percent of local GDP.

Then the world economy went into recession in the late 1970s and early 1980s with oil prices skyrocketing, and the debtor Latin American countries found themselves found themselves in a real liquidity crunch. At first, the oil exporting nations financed some of the Latin American debt interest, but as interest rates rose, the Latin American countries could not repay their debt when much of it came due and they defaulted.

U.S. banks, which held much such debt, were basically rendered insolvent over night. The question was what to do. The answer was essentially nothing -- just to sit on the situation. By later in the 1980s, many Latin American countries had recovered and were experiencing strong economic growth and much development. Under pressure to do so, they initiated debt management, repayment and rescheduling programs. The net effect was essentially to make good on enough of the Latin American debt held by US banks to bring their insolvency down to manageable levels which could be eliminated over time from profits.

It seems as though the Fed and government have adopted the Latin American default model for the current insolvency crisis of banks. But the question is, is that reasonable? I suggest it is not.

Defaulting countries in a recession differ markedly from defaulting home buyers who have already gone through foreclosure or repossession, especially in states with anti-deficiency laws. As the economies pick up in both situations, the public debt of foreign countries can be repaid and rescheduled, but not the debt of defaulted home buyers who have long since left their homes. This difference is enormous.

Too, while it is reasonable to expect an entire economy to recover to previous or better levels, it is patently absurd to expect the housing market in the US to recover to its former bubbled up condition, with such high and unsustainable prices and attending mortgage levels. For these reasons, I submit the Latin American default model is not a good federal policy for the U.S.

That leaves us only waiting for the housing market to level and bottom out to decide what we should do about the insolvency problem with our banks. There is no silver bullet here. A perpetual stall mode will not work. A recovery is not going to increase banks profits sufficiently to let them dig out over time by themselves. Not even mega trading profits will permit that. At some point, our government is going to be forced back into one of the options I have outlined here or earlier.

Stalling may help a bit and clarify the situation, but there is no way out along the present path, though many might wish that were so.
_______

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Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

A bit baren and oddly stark.
_____

The Ineffectiveness of Federal Economic Policy

The public believes that politicians in our nation's capital are responsible for holding back and damaging the economy. That is a pretty harsh indictment, but many would argue it is true. It has serious implications for the upcoming elections. Many incumbents just might, and perhaps should, be shown the door.

Washington's ineffectiveness and economic inaction

The problem, as the public see it, is gross inaction on economic problems and excessive infighting among Washington politicians. It has resulted in a loss of confidence among consumers and small businesses. That loss of confidence is likely, according to several economists, to translate into restrained consumer spending with more savings and a reluctance to hire new employees and expand small businesses, not good prospects, indeed.

The public is likewise concerned that the stimulus bill did not keep unemployment from reaching 10%, that a health care bill has not passed, for all the fuss over one, and that financial regulations are bogged down with bickering among politicians in the Senate, which has been too much bought off by the financial industry. Consumers and small businesses are seriously exasperated.

Consumers are really fed up with Congress arguing and no effective action on unemployment, according to a survey of the Pew Research Center taken in February. That is the real problem, as the public sees it.

In one shocking result, 27% of the public thought President Obama's policies have made the economy worse, while only 24% thought they had made the economy better. This is not a good split for the Administration. Half of those surveyed thought the Administration should be doing more.

The failure to implement much of the stimulus bill to "Rebuild America," which has been opposed by Larry Summers and many on Wall Street as diverting funds away from their bailiwick, was behind 50% of those surveyed who claimed the White House should be doing more to improve the economy. This figure is up from 30% last March.

Washington's sleaziness bothers many

The sleaze factor among politicians is also bothering the public. A house ethics panel cleared six in Congress for steering unbid contracts toward campaign contributors seeking them. Is this selling votes or what?

Sen. Jim Bunning (R.Ky) blocked an unemployment benefits extension bill for over one million unemployed workers, while complaining that the extended debate in the Senate on that topic was causing him to miss an important basketball game on T.V. Sen. Kyl (R.Az), number two Republican in the Senate, argued during that debate that providing such benefits would encourage people not to get jobs and that extending COBRA was a mistake for the same reason.

Meanwhile, Rep. Charles Rangle (D. NY) has stepped down from the chairmanship of the powerful House Way and Means Committee because of ethical breaches and a failure to pay his taxes. People don't like this behavior on the part of their elected representatives, especially when they are not doing their job.

Small businesses have no confidence in Washington

Small businesses are upset as well. 76% of them are "not very confident" or "not at all confident" that the federal government or Congress can address the needs of small companies. That's up from 62% in February 2009, according to another February survey, this one by Discover Financial Services.

The same survey concluded that small businesses do not see government working to improve their situation or the economy. Small business owners "see no help from the government and don't expect any help," says Ryan Scully, director of Discover business credit cards.

Consequently, "they're not doing anything. They are very cautious."
The Pew Research poll also found worries about jobs holding consumer spending back on big ticket items such as houses and cars. People worry about how secure their paychecks are.

And serious economic problems are on the horizon

Actually, things may be developing into a worse situation than consumers and small businesses realize. As I have written, the financial sector in the U.S. is now actually contracting. M2 and M3 are dropping; the monetary multiplier is sinking; short terming commercial paper, used to finance day-to-day operations by larger companies is contracting in volume. The volume of CDO's are down. It started in the last half of 2009 and the situation worsened in January.

Now, on top of this, the concern is that we may be in for a second major credit crunch. For those of us concerned about the importance of getting credit moving again for the economic recovery, this is particularly bad news and the Treasury and Fed seem ill disposed to first, recognize the problem or second, do anything about it. With the financial sector contracting, we may be headed for a disaster if corrective action is not timely taken because massive efforts to refinance corporate debt coming due could well fail within expected parameters.

Part of the concern here arises from the contraction of the financial sector and part from the fact so many businesses have borrowed so heavily with bond sales and yield spreads (between their borrowing rates and Treasuries) are so wide, 6.6 percentage points now vs. 19 at their peak in 2009 during the credit crunch. Many smaller businesses refinanced later last year and have a lot of due dates, that have been already pushed out, coming up in 2012 to 2014.

Fitch Ratings concludes the credit structures of many of these medium and larger sized businesses are too heavy with debt. Too many have higher ratios of secured to total debt and secured debt to cash flow that will limit their ability to issue additional secured or unsecured debt, according to Fitch, even if we do not have a second credit crunch and the fiancial sector does not contract further.

"There is a real risk of a second peak in the default rate in 2011 or 2012, [if the economy slips] or if companies don't proactively refinance their bank loans well in advance of the 2013-2014 mountain" coming due, says Wesley Sparks, head of U.S. fixed income at Schroder Investment Management N.A. That's because investors expect demand for high-yield bonds to remain strong enough to allow issuers to continue selling or refinancing their bonds, Sparks says. Moreover, he says, "many speculative-grade borrowers--such as automotive or airline companies--have high operational leverage and thus can benefit strongly from just a moderate uptick in revenues."

Unless our financial sector is stopped from contracting and unless the Fed acts timely to assuage the possible credit crunch then and get the financial sector expanding again, the recovery could well be seriously jeopardized. The insolvency of our banking system is yet a third factor weighing the situation down in this scenario.

Is Washington running blind?

Consumers and small businesses genuinely do not realize how bad the situation might well become if government does not get focused on these problems and have actions planned to address them effectively. They simply don't realize the perils ahead or know about the dangers at hand. The press and other media are of no real help here either.

Too few understand the aggregate situation and Congress is simply out to lunch. The Fed and Treasury are busy planning their exit strategies and are likewise not well tuned into these problems. There is simply not many who are looking ahead in a useful way. It is almost as though there is no one manning the helm to our ship of state.
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Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

Abandoned for years and closed up.
______

Stupidity or Malfeasance in Governement: Which Is It?

Again, I would urge readers to step back and take a broader view; a bird's eye or arch-macro view, if you will. What is seen is not too pleasant. Consider the following.

The Fed's Big Mistake

To look at what it has done, you would think the Fed has been battling a major on-going liquidity crisis. While we did have a bit of a squeeze once along the way, that clearly has not been the major problem. Our big problem which the Fed and the Treasury have not really addressed is the insolvency crisis. It is on-going, but with the help of suspension of the mark to market rule, it is being too largely ignored.

The consequences are the financial system remains in the hole, with the Treasury holding its finger in the dike. Liquidity is no solution for insolvency. In fact, it induces the very problems which have led to insolvency. Too, as I have explained earlier, the Fed's mortgage debt purchases have only shuffled a small portion of the bad debt from the balance sheets of the banking system to the balance sheets of the Federal Reserve Banks. This is no solution at all.

Several smart people agree, including Anna Schwartz, co-author of the monumental work, A Monetary History of the United States, Paul Krugman, a Nobel Laureate economist and James Galbraith, also an economist. Efforts to prop up the price of toxic assets and shuffle them between institutions is not helpful they contend. I agree.

Covering up the real problem

Too, the Bank for International Settlements -- the banker for central banks -- has been highly critical of the approach taken by the Fed, claiming the real failure earlier on was not to better regulate Wall Street and mortgage brokers and by the Fed making easy credit too available. The BIS argues that the Fed is now just using "gimmicks and palliatives" to mask over the problem. Such were the bailouts as well; they were largely band-aids for the officers of those banks.

The Fed and Treasury have done considerable damage by acting as they have. First, they have not addressed the insolvency crisis. Second, they have diverted attention away from the problem. Third, they have cost present and future taxpayers megabucks without delivering a solution. Fourth, they have drowned the banking system in liquidity, creating a huge asset bubble and the need for a messy and crucial exit strategy.

Fifth, they have loaded the Federal Reserve banks down with bad debt. Sixth, they have done little to aid or even recognize that the lack of Fed and Treasury regulations for mortgage brokers and Wall Street is a key reason for the mess we are in. Seventh, they have created a bad vulnerability for the U.S. economy, according to Reinhart and Rogoff, who explain the difficulties and potential instabilities an economy faces when it is loaded down with debt.

Creating a new bank oligopoly

This laundry list is not much for the Fed and Treasury to write home about. In fact, it is an embarrassment, in further part for a reason most have not addressed; it is this. Many, many smaller and medium sized banks are going to go under before this escapade is over. About 700 banks are now on the FDIC's troubled bank list. To whom will their market share and customers go? The large and favored banks, of course.

The Fed and Treasury are building an oligopoly of big banks here, in case no one has noticed. Blankfein or his successor and his counterparts can then go for even higher salaries and bonuses. Fees to customers will then be more easily controlled and increased. We are buying buckets of headaches we haven't even thought about publically yet.

Stupidity or malfeasance?

So what do you get if you are a public official in America and you have been getting it wrong? Usually reelected, I am sorry to say. The electorate simply is not well enough informed to know better and keys too much on charisma, ad campaigns and code word sound bites. This is a sorry situation. And to talk about people not listening, consider this.

Nobel Laureate George Akerlof predicted in 1993 that credit default swaps would produce a major crash in financial markets and, further, that future crashes are guaranteed unless the government stopped letting Wall Street place bets that they can never pay off if there is a systemic collapse. Even now, with Congressional Republicans fighting tooth and nail against regulation, we are not listening to Akerlof. Not to smart, I say. Or is it stupidity?

Worse than not listening, William K Black, a professor of economics and law and a former bank regulator, argues that the government's current strategy "is to keep people from finding out the facts." In other words, we have a cover-up. Black argues that here has been no honest examination of the crash because it would embarrass too many C.E.O.s and politicians. Instead, the Treasury and the Fed are urging us not to examine the crisis and to believe that all will soon be well.

As economist Dean Baker argues, "Instead of striving to uncover the truth, [Congress] may seek to conceal it" and tell banksters they're free to steal again."

As a recent front-page story on ABC explained:

"Even as many Americans still struggle to recover from the country's worst economic downturn since the Great Depression, another crisis - one that will be even worse than the current one - is looming, according to a new report from a group of leading economists, financiers, and former federal regulators.

"In the report, the panel, that includes Rob Johnson of the United Nations Commission of Experts on Finance and bailout watchdog Elizabeth Warren, warns that financial regulatory reform measures proposed by the Obama administration and Congress must be beefed up to prevent banks from continuing to engage in high risk investing that precipitated the near collapse of the U.S. economy in 2008.

"The report warns that the country is now immersed in a "doomsday cycle" wherein banks use borrowed money to take massive risks in an attempt to pay big dividends to shareholders and big bonuses to management - and when the risks go wrong, the banks receive taxpayer bailouts from the government.

"Risk-taking at banks," the report cautions, "will soon be larger than ever.
"Without more stringent reforms, "another crisis - a bigger crisis that weakens both our financial sector and our larger economy - is more than predictable, it is inevitable," the report says. The report was commissioned by the nonpartisan Roosevelt Institute."

"The institute's chief economist, Nobel Prize-winner Joseph Stiglitz, calls the report "an important point of departure for a debate on where we are on the road to regulatory reform."

"The report blasts some of Washington's key players. The story also explained, "Our government leaders have shown little capacity to fix the flaws in our market system. Two other panelists, Simon Johnson, a professor at MIT, and Peter Boone of the Centre for Economic Performance, voiced similar criticisms."

Moving beyond doubt

Nobel Laureate Joseph Stiglitz is much too charitable, I think. My take is we are slipping from misfeasance into overt malfeasance, especially in the Senate Republicans, among many behind the scenes people and by the leaders on Wall Street.

This is not a good situation.
_______

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Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

In a tree with pine needles in the background, blurred.
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The Greek Crisis Is Coming to a Head

A bailout plan is afoot for Greece. It is being lead by France and Germany, but there is much squabbling between Athens and Berlin over its terms and timing. Germany is reluctant, but recognizes the need.

Without help and facing EU central bank austerity programs, the Greeks and the other PIGS might well decide they need out, not only from the Euro zone, but perhaps from the EU itself, although the latter is much less probable. However, wanting to take their economic policy fate into their own hands would clearly undermine their plea and need for bailout help.

The PIGS therefore face a quandary and are waiting to see what will happen. For now, all eyes are on Greece and the negotiations. The situation is being studied carefully.

Where there's Goldman, there's trouble

As matters stand, a bailout to the tune of up to $30 billion Euros (=$42 billion USD) is developing and the Greeks hope to have a final deal by this Friday when the Greek Prime Minister is due in Berlin to meet with German Chancellor Merkel.

German officials insist that an immediate deal is not in the offing. They are particularly piqued by the Goldman Sachs (GS) ruse used to pile up billions of Greece's public debt, but keep it off the books and out of sight of the EU's central bank. Deceitful is the word for it. And while the scheme comes directly from Goldman's best and brightest, Greece did its part to hide the matter from the EU's central bank as well. However, inside banking sources knew notwithstanding.

Ironically enough, Goldman now realizes it has a new "risk" - bad press! The press is the problem, apparently and according to Goldman. I suggest that it is not the press that is the problem, but it is Goldman Sachs' bad behavior that is being reported in the press that is the problem. But, hey, get a high priced PR team in there and tell the world again that Goldman is doing "God's work" and all will be well.

In these kinds of matters Goldman is a dumb babe in the woods and clearly more transparent than in its financial dealings with others. Warren Buffett, who has options on much Goldman preferred stock, should talk to the company about its problem. Better yet, Goldman officers and employees might do well to take an in-house ethics course or several of them.

Germany doth protest too much

The denial of any bailout deal for the Greeks by the Germans is viewed as gamesmanship to avoid losing any leverage in on-going negotiations with Greece. "There is definitely no such plan," said Ulrich Wilhelm, a high level German official. The comment brings to mind Milton Friedman's dictum that when the central bank of a country repeatedly claims there will be no devaluation of the currency of the country, devaluation is truly imminent. I think the same is true here as well. We will get a deal.

Germany it seems is either waiting for or requiring Greece to rein in its deficit which is expected to reach 13% of GPD this year. Germany is the key to negotiations because, unlike France, it would have to bear the larger burden of any bailout because its economy is the strongest by far within the Euro zone. The French are simply going along and will do less.

Washington wants the matter done with and the bailout in place to remove the financial uncertainty that plagues domestic markets and policy makers. U.S. officials have publicly backed the EU's efforts to keep Greece afloat, but privately worry that Germany's fiscal demands on Greece may be too severe. Being deceived can make a country feel a bit vindictive. Whether German negotiators will overreach remains to be seen. If they do, I think Germany will back off at the last minute.

Bonds and Brinkmanship

Germany is smart enough to know that there is a real threat to the EU and the Euro zone if Greece or others bolt, so it is playing a sort of brinksmanship here and pushing negotiations hard, seeking to get as much as possible. It's a game of chicken of sorts and odds now favor the Germans, especially with the Greeks having taken the moral low road with the help of Goldman Sachs. Meanwhile the U.S. worries.

The bailout under negotiation, according to inside sources, would entail the sale of Greek debt to French and German banks and investors in the range of $25 to 30 billion Euros. The Germans hope to structure the deal so the banks actually earn some money in the refinancing process. The French will go along with whatever deal the Germans can get, according to a French spokesman.

Meanwhile, Germany is publicly pounding up on Greece for its mismanagement and not now doing enough. Germany wants Greece's deficit cut to 9% of its GDP this year and the Greeks say they are doing all they can. March 16 is the drop dead date to show progress on Greece's program, but third parties like the U.S. want the deal done sooner. Perhaps Goldman Sachs can be brought in to paste over Greece's problems and present a smiley face to the Germans. As I have said before, "Where there's trouble, there's Goldman."

The deal will get done

Meanwhile, Spain and Portugal are watching this process with considerable interest, trying to gauge how they might fare in any bailout negotiations and what Germany might request of them by way of austerity targets.

According to one news source:

Greece needs to borrow around $54 billion Euros this year. It so far has raised $13 billion Euros. Greece has about $23 billion Euros in debt payments to make in April and May. Greece had been considering a debt sale of between $3 billion and $5 billion Euros, with hopes of selling the debt within the next week. Athens is still planning to pursue that sale, a Greek official said. A final decision is expected within several days.

Even if the French and Germans bought $30 billion Euros in bonds, that still would leave a massive amount of debt to be absorbed elsewhere. The U.S. is not jumping to the rescue and so far, neither is Goldman Sachs. The hope is high yields will attract enough foreign investors. At some level, even Goldman might become interested. For now, therefore, much is up in the air.

My take is the deal will get done. Greece will claim Germany was too harsh. Germany will claim Greece did not do enough to put its house in order. The U.S. will sigh with relief and Goldman Sachs will study the situation carefully to see where and how it can make some more money off Greece.
________

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Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

Looking in an abandoned house.
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The Struggle for Financial Reform in the Senate

While Congress prepares for an up or down vote on what amounts to the Senate Health Care Bill, financial regulatory reform is running into flack on all sides in the Senate. Republicans oppose much reform and virtually anything the Obama Administration proposes, while too many Democrats waver like reeds in the wind.

The House version for financial reform was much along the line of what the Obama Administration has requested but, after top Republicans met in December with bank lobbyists to coordinate their campaign against financial reform, it has been tough sledding in the Senate.

Where matters stand now is Senator Dodd is about to reach a break-through deal with Sen. Bob Corker (R.-Tenn.) representing the Republicans, to propose the creation of a new consumer protection authority to be housed inside the Federal Reserve, according to three sources familiar with the negotiations.

Under the tentative deal, the proposed protection agency's members would be appointed by the president, with a dedicated source of funding and the power to write rules, but enforcement of those rules would remain the responsibility of banking regulators. No surprise there on the latter point.
Paul Krugman has argued that without a new and strong agency to protect consumers from Wall Street financial predators, it is better to have no such agency at all. As he puts it:

"There are times when even a highly imperfect reform is much better than nothing; this is very much the case for health care. But financial reform is different. An imperfect health care bill can be revised in the light of experience, and if Democrats pass the current plan there will be steady pressure to make it better. A weak financial reform, by contrast, wouldn't be tested until the next big crisis. All it would do is create a false sense of security and a fig leaf for politicians opposed to any serious action ��" then fail in the clinch."

I agree. Consumers need real financial protection. As the late Edward Gramlich explained in back in 2007 when Greenspan was blocking regulations, "Why are the most risky loan products sold to the least sophisticated borrowers? The question answers itself ��" the least sophisticated borrowers are probably duped into taking these products."

But is an agency in the Fed insulation enough from lobbyists and naysayers? I suspect not, with the likes of a Greenspan at the helm. If the Fed would protect the prerogatives of such an internal agency, that is another matter. Krugman disagrees here, arguing the agency must be wholly independent of the Fed or the Treasury. I disagree.

A wholly independent agency is more apt than any to be bought off or unduly influenced than one inside of the Fed, I would think, where lobbyists' access might be more limited. An independent agency in the Fed seems to be the best option to me, but the emphasis is on the independence of the agency - no reporting to or under the thumb of the Fed per se. But that is what the new deal proposes here, if it can be finalized.

The problem of no black letter law passed by Congress and rule making authority vested in men who can be unduly influenced and bought off remains. But that fight seems to have a foregone conclusion, in my view. We are not going in with bright red letter law by Congress by using such an agency.

We proceed much more by touch and feel. This remains a problem in my view, but no one is seriously addressing it. Hopefully, the agency itself will be quick to establish clear and concise rules and regulations that are needed to be enforced and not fumble around waiting for the immediate need to arise to enact one or another regulation.
______

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Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

Trees children will remember.
_____

The Fed's Big Mistake and Its Core Problem

Most succinctly, what the Fed has done, after the collapse in housing prices, in regard to the bad mortgage debt in the financial system - its core problem, is take some of it off the books of banks, directly or indirectly, and put it on the books of Federal Reserve Banks. This approach has not removed most of the bad debt from the system and in that regard has been largely ineffective.

A hugely expanded version of this approach would have had the Reserve Banks acquire all bad mortgage loans and then die on the cross for all the other banks in a bankruptcy-like reorganization of the Federal Reserve banks, a result that some who do not like the Fed might well approve, given the Fed's history of devaluing our currency since its inception.

The best that can be said in the Fed's defense is that the scope of the problem is difficult to know until the housing market has largely bottomed out. But the counter to that is so what, we are going to have to address the problem sooner or later anyway and perhaps we should get on with it before the financial sector drags the fledgling recovery down. This huge volume of debt is not going to evaporate. That it is mostly long term debt assures that. We cannot continue to keep our head in the sand here.

The core problem, however, is that the bad mortgage debt still sits on banks' books. It is with us still, destroying solvency left and right and impairing the function of banks. Institutions are kept afloat only by the suspension of the mark to market rule. What could we have done or should we do in the future to get rid of this bad debt problem?

The problem is not going away on its own or soon. Although this type of discussion has waned recently, the problem is still there and it needs to be addressed anew. We need to consider the broad alternatives and what to do now or when the housing market bottoms out, so we better know how to address the problem. The economic recovery needs a properly functioning banking system.

I see four basic categories of choice, with many variations possible for each. One is to run the medium sized and larger banks, in an orderly fashion, through FDIC- like bankruptcy reorganizations that would scrape off the bad debt, the share and bond holders and also the managements and then sell the cleaned up, smaller banks to the public.

Blankfien and his ilk have the political muscle to block this route, but perhaps they could be bought off in this regard with giga-buck golden parachute packages. They do respond to money and they are holding the banking system hostage for their personal interests. This is still an option, if we can solve the political problems and the housing market has bottomed out.

Second, the Fed and government could set up public-private partnerships to buy the bad debt at a slight discount on face value to get it out of the banking system, with the government guaranteeing the difference between face value and assessed fair market values, starting at some point in the future. We have tried something like this but by and large it did not fly in the volumes necessary to be a significant solution for want of public participation. Too much uncertainly is involved and the economy was still sinking at the time. This approach would give banks a windfall and entail the moral hazard problem in spades.

Third, set up a resolution trust type of entity and have it buy, using Fed created new money, the bad debt out of the banking system, paying a price equal to a discount on the face value of the debt so that the banks have to cover at least that much of the losses. The debt could then be held or sold off as deemed appropriate by the trust at prices deemed appropriate to the trust. The bad debt would then be out of the system and the resolution trust could be exempted from solvency requirements. It would work the back log of bad debt down over time. This too would give the banks a windfall and entail much moral hazard.

Finally, and the choice I prefer, is to have the Fed buy banks' bad debt with newly created money at face value and take stock back in the banks equal in value to 1.2 x (face value -market value) of the debt acquired, but also require the banks to accept a thorough system of regulation to be established as a matter of law and not left to the discretion of someone, a commission or an agency that can be "influenced" or "had."

The 1.2 instead of 1 figure is to capture some of the banks' new going concern value and more profits. This way, the moral hazard problem is reduced and bank shareholders are seriously diluted. Shareholders can then deal with managements as they choose. The Fed can later liquidate its bank stock if and when it chooses.

Obviously, variations on these themes are possible. The key to any viable system as I see it is (1) to have a sense of when the housing market has bottomed, (2) get the bad debt off the books of the banks, (3) use newly created Fed money to buy the bad debt out of the banking system, (4) take new stock, preferably preferred voting stock, back from the banks to dilute existing shareholders and give the Fed a quid pro quo for its money and (5) use the reserves requirement to mop excess high power money in the banking system after the acquisitions and the new money has entered the banking system.

Because new money is being put into the system, to prevent inflation it must be mopped up in large measure by increasing the reserve requirements of the banks to the extent necessary to accomplish that result. The new funds to the banks would have to be deposited and that would increase bank reserves, necessitating the mop up. This approach would also require (6) that the mark to market rule be reinstated to force the issue for the banks, leaving FDIC proceedings as the banks' alternative.

The point is we are going to have to do something to get the debt out of the system and restore some integrity to banks balance sheets. Banks will remain in a bind until that happens. This could take some time otherwise because most of the debt is long term and we cannot wait until it either matures or falls totally into default. Our banking system is too much impaired in its present state and the Fed's effort has been only to reshuffle ownership of some of the debt. It has been wholly inadequate.

We need to address these issues once the housing market has bottomed a bit more and the recovery takes better hold, but we need to start thinking about them now.
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Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

Kids stop to pose.
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OP-ED CONTRIBUTOR
And the Orchestra Played On

By JOANNE LIPMAN
Published: February 27, 2010 in the N.Y.Times

The other day, I found myself rummaging through a closet, searching for my old viola. This wasn't how I'd planned to spend the afternoon. I hadn't given a thought to the instrument in years. I barely remembered where it was, much less how to play it. But I had just gotten word that my childhood music teacher, Jerry Kupchynsky, "Mr. K." to his students, had died.

In East Brunswick, N.J., where I grew up, nobody was feared more than Mr. K. He ran the town's music department with a ferocity never before seen in our quiet corner of suburbia. In his impenetrably thick Ukrainian accent, he would berate us for being out of tune, our elbows in the wrong position, our counting out of sync.

"Cellos sound like hippopotamus rising from bottom of river," he would yell during orchestra rehearsals. Wayward violinists played "like mahnyiak," while hapless gum chewers "look like cow chewing cud." He would rehearse us until our fingers were callused, then interrupt us with "Stop that cheekin plocking!"

Mr. K. pushed us harder than our parents, harder than our other teachers, and through sheer force of will made us better than we had any right to be. He scared the daylight out of us.

I doubt any of us realized how much we loved him for it.

Which is why, decades later, I was frantically searching for an instrument whose case still bore the address of my college dorm. After almost a half-century of teaching, at the age of 81, Mr. K. had died of Parkinson's disease. And across the generations, through Facebook and e-mail messages and Web sites, came the call: it was time for one last concert for "Mr. K." performed by us, his old students and friends.

Now, I used to be a serious student. I played for years in a string quartet with Mr. K.'s violin-prodigy daughters, Melanie and Stephanie. One of my first stories as a Wall Street Journal reporter was a first-person account of being a street musician.

But I had given it up 20 years ago. Work and motherhood intervened; with two children and long hours as an editor, there wasn't time for music any more. It seemed kind of frivolous. Besides, I wasn't even sure I would know how.

The hinges creaked when I opened the decrepit case. I was greeted by a cascade of loose horsehair, my bow a victim of mites, the repairman later explained. It was pure agony to twist my fingers into position. But to my astonishment and that of my teenage children, who had never heard me play, I could still manage a sound.

It turned out, a few days later, that there were 100 people just like me. When I showed up at a local school for rehearsal, there they were: five decades worth of former students. There were doctors and accountants, engineers and college professors. There were people who hadn't played in decades, sitting alongside professionals like Mr. K.'s daughter Melanie, now a violinist with the Chicago Symphony Orchestra. There were generations of music teachers.

They flew in from California and Oregon, from Virginia and Boston. They came with siblings and children; our old quartet's cellist, Miriam, took her seat with 13 other family members.

They came because Mr. K. understood better than anyone the bond music creates among people who play it together. Behind his bluster, and behind his wicked sense of humor and taste for Black Russians, that was his lesson all along.

He certainly learned it the hard way. As a teenager during World War II, he endured two years in a German internment camp. His wife died after a long battle with multiple sclerosis. All those years while we whined that he was riding us too hard, he was raising his daughters and caring for his sick wife on his own. Then his younger daughter Stephanie, a violin teacher, was murdered. After she vanished in 1991, he spent seven years searching for her, never giving up hope until the day her remains were found.

Yet the legacy he had left behind was pure joy. You could see it in the faces of the audience when the curtain rose for the performance that afternoon. You could hear it as his older daughter Melanie, her husband and their violinist children performed as a family. You could feel it when the full orchestra, led by one of Mr. K.'s protégés, poured itself into Tchaikovsky and Bach. It powered us through the lost years, the lack of rehearsal time, less than two hours, and the stray notes from us rustier alums.

Afterward, Melanie took the stage to describe the proud father who waved like a maniac from a balcony in Carnegie Hall the first time she played there. At the end of his life, when he was too ill to talk, she would bring her violin to his bedside and play for hours, letting the melodies speak for them both. The bonds of music were as strong as ever.

In a way, this was Mr. K.'s most enduring lesson, and one he had been teaching us since we were children. Back when we were in high school, Mr. K. had arranged for Melanie and our quartet to play at the funeral of a classmate killed in a horrific car crash. The boy had doted on his little sister, a violinist. We were a reminder of how much he loved to listen to her play.

As the far-flung orchestra members arrived for Mr. K.'s final concert, suddenly we saw her, that little girl, now grown, a professional musician herself. She had never stopped thinking about her brother's funeral, she told me, and when she heard about this concert, she flew from Denver in the hope that she might find the musicians who played in his honor. For 30 years, she had just wanted the chance to say, "Thank you."

As did we all.
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Comments [1]

Kimball Corson
02/17/2010, Neiafu, Vava'u, Tonga

Notice panel alignment. Pure Tongan.
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Aphorisms

What is life? Life is our pathway through the grand biological realm to our death. It's a romp in a three dimensional garden. Sort of like a big afternoon outing, as I see it.

Old age sneaks up stealthfully on cat's paws and rarely lunges far, but simply stalks us ever closer without our knowing it until we try to run up a mountain or look in a mirror.
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U.S. Financial and Housing Markets Face Growing Trouble

To look at the balance sheets of the larger banks is to give one a very misleading financial picture of what is going on. First, there is the problem of abandonment of the mark to market rule for bad loans. Second, banks are engaging in substantial off-balance sheet activity. Third, banks balance sheets are shrinking by and large, and they are trying rather unsuccessfully to hide that fact.

Beyond that, loans outstanding are falling, M2 and M3 are dropping, the monetary multiplier is sinking, Fanny Mae is still in big trouble, Goldman Sachs is still playing games, banks are expected to fail at a higher rate in the near future and worst of all the Fed is largely finished with its debt purchase programs and it has raised the discount rate. It is beginning its exit strategy far too soon. I address these points in what follows.

First, abandonment of the mark to market rule essentially allows bankers to largely write their own balance sheets. With their own internal lights to guide them, they decide how much and when to write which bad loans down. A less transparent system is hard to imagine. Abandonment of the rule has taken big banks out from under the gun to largely do what they want in the meantime, which is certainly not to make loans or rush to clean up their balance sheets.

In fact, aggregate loan volume is shrinking. Since the beginning of the credit crisis, lending has fallen by almost $750 billion, or about 10%. Lending has dropped by $100 billion since the beginning of January, or a 16% annualized pace. The problem is that the Fed has already completed its main liquidity buys of about $1.6 trillion and is essentially now just sitting on the sidelines in these regards.

Banks blame the higher capital ratio requirements, but what is really going on is deleveraging is working against them with a vengeance, just as leveraging works so well in a rising market. It becomes a nightmare of deflation, siphoning off capital at a fast rate, in a down market.

More troublesome perhaps is the off-balance sheet activities of the big banks. Here the salient example is Goldman Sachs hiding Greek debt from the EU and Euro zone. It seems that for the last ten years, Goldman has helped the Greeks borrow billions which show up on the income statements of Greek banks as gains from currency trading, but not on balances sheets as debt. Goldman provided upfront cash in exchange for future payments from the Greek government not carried on the proper balance sheets.

The thinking seemed to be if you don't write the dollars received down as debt, then they don't really exist as debt. The EU and its central bank are now horrified to lean what has happened. Goldman once again emerges as the sleaze ball par excellence, the arch villain, if you will. to coin a phrase, "Where there is trouble, there's Goldman Sachs."

We can only wonder what is buried in Goldman's own balance sheet and the balance sheets of the other big banks that follow Goldman's activities. More esoteric trading practices and other activities invite considerably more creative bookkeeping, which usually deceptive bookkeeping.

It is something of an old corporate game however to carry inter country loans or profits on the books as current balances from currency trading operations, with an off balance sheet running tab. But the problem is it makes understanding of the company financial statements more difficult.

Scuttlebutt is that the big banks are doing entirely too much activity off- balance sheet. There is no one to put the arm on them against it who will.
Banks are also manipulating the housing market by controlling their inventories of houses and colluding to keep many off the market when prices are soft. For that reason we have a shadow inventory of homes that is very large. Often, the maintenance and repair expenses of the shadow and market inventory are spun off to a side maintenance company that might not be a subsidiary per se but is usually a controlled company incurring losses.

The central point very largely is that, with Goldman Sachs at the forefront, you cannot believe what comes out of the mouths and off the pens of the big bankers and the same is true of their agents and auditors. Anyone who deals with them should beware. They are walking, breathing and dangerous life forms.

But the real problem of the banks, aside from the fact that some 644 of them are now on the FDIC's unofficial watch list, is that bank loans are falling. Also, M3, the broad money supply, has contracted at a 5.6% pace over the past 3 months and the Fed's monetary multiplier has hit a record low of 0.81, indicating that credit is contracting or if not nearly frozen. And M2 has also dropped by almost 1% more recently. These developments push banks all the harder to engage in risky trades and practices, along with creative booking, to earn income.

Against the distressing backdrop of these developments, we have the Fed now raising the discount rate, after largely finishing with its planned debt purchases, signaling that it is about to begin its exit strategy and abandonment of quantitative easing. Fears are fast developing that the Fed is acting prematurely and credit could again be choked off. The situation for the banking industry is not good. The housing and related industries are still in the doldrums.

The Unofficial Problem Bank List underwent major changes during the week as aggregate assets for all institutions were updated to 2009 Q4 from 2009 Q3 and the FDIC finally released its enforcement actions issued during January 2010. As one commentator reports, from publicly available information:

"The list now includes 644 institutions, up from 617 last week, as 33 institutions with assets of $12 billion were added while 6 with assets of $1.3 billion were deleted. Despite the additions, aggregate assets fell from $329 billion to $326 billion. For the 616 institutions that stayed on the list from last week, their aggregate assets dropped $13.8 billion during the fourth quarter.

"Only 154 institutions increased their assets during the quarter with the largest balance sheet increase at West Coast Bank ($80 million). Balance sheet downsizing happened at 462 institutions with the largest decrease at Westernbank Puerto Rico ($1.5 billion) and Sterling Savings Bank ($1 billion)."

FDIC Chief Sheila Bair says the pace of bank failures likely will pick up this year and more banks are facing greater problems.

Meanwhile, Fannie Mae has reported a Q4 net loss of 15.2 billion and full-year 2009 loss of a staggering $72 billion. Worse, the Q4 figure takes into account certain unrealized gains on available-for-sale securities during the fourth quarter. As a result, Fannie Mae has just submitted a request for $15.3 billion from Treasury on the company's behalf. FHFA has requested that Treasury provide the funds on or prior to March 31, 2010.

This situation in our financial markets is dire. The Fed does not seem to be getting the message. We are more vulnerable in the housing and housing related sectors and the financial sector involved with housing than many think. Our problem of deleveraging has not gone away. In fact, we have made too little progress on it and our opportunity to do so seems to be waning. We desperately need some good macro thinking here but no one appears to be doing it.
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