- Carnage Continues: European Equity Futures Crash 7% At Open, Bund Yields Plunge 20bps
It appears Greece matters after all – US futures are tumbling, Japanese stocks are tanking (as JPY is bid on mass carry unwinds), Chinese stocks are limit down and collapsing.. and now European equity futures are open and in free-fall. Bunds are well bid, down 20bps to 72bps.
- *EURO STOXX 50 FUTURES FALL 7% AT MARKET OPEN
DAX is down over 5%…
*GERMAN BONDS SURGE AT OPEN, 10-YEAR YIELD FALLS 20 BPS TO 0.72%
We await the hand of God Draghi…
Charts: Bloomberg
- Chinese Stocks Crash Most In 19 Years, Re-Open Limit Down (Despite PBOC Hail Mary)
Carnage…
- *CHINA STOCK PANIC SELLING TO CONTINUE, CENTRAL CHINA ZHANG SAYS
This leave China's CSI-300 broad stock index futures up just 7% year-to-date…
- *CHINA CSI 500 STOCK-INDEX FUTURES FALL BY MAXIMUM 10% LIMIT
- *CHINA CSI 500 STOCK-INDEX FUTURES FALL BY LIMIT FOR 2ND DAY
- *HKEX DROPS AS MUCH AS 7.3%, MOST SINCE SEPT. 2011
- *SHANGHAI COMPOSITE INDEX EXTENDS DROP TO 7.5%
- *SHANGHAI COMPOSITE HEADS FOR BIGGEST 3-DAY DROP SINCE 1996
Carnage-er…
- *CHINA'S CSI 300 INDEX FALLS 3.4% TO 4,190.3 AT BREAK
- *CHINA'S SHANGHAI COMPOSITE FALLS 3.8% TO 4,035.48 AT BREAK
- *CHINA'S CSI 500 STOCK INDEX FUTURES EXTEND LOSSES TO 5.7%
- *CHINEXT INDEX PLUNGES 7.8% FOR 3-DAY 20% SLIDE
After The People's Daily proclaimed… "investors were moved to tears" thanks to the PBOC's actions…
- *FOUNDATIONS FOR A-SHARES ARE `SOLID': CHINA SECURITIES JOURNAL
- *CHINA STOCK MARKET TO HAVE 30 YEARS `GOLDEN AGE': SEC. JOURNAL
The bounce is dead. CHINEXT – China's tech-heavy high beta 'Nasdaq' – is down 5-6% today, 19% in 3 days, and 33% from highs in early June…!
In 3 weeks, it has given up half its gain of the year…
* * *
All that pent-up demand to be ignited among the farmers and housewives of China thanks to a double rate cut (RRR and benchmark) enabled a mere 2.5% bounce in Chinese stocks at the open which has now completely been erased as Shanghai enters a bear market. As The South China Morning Post's George Chen notes, the most dangerous idea gaining traction in the Chinese stock market is the naïve consensus among ordinary investors that no matter how bad the market gets, the Communist Party will eventually rescue everyone. If not them then, as Chen concludes, "It's time to wake up."
Spot the double-rate cut 'bounce'…
- *SHANGHAI COMPOSITE SET FOR BEAR MARKET AFTER 20% DROP FROM HIGH
Decidely not what the doctor ordered… and as The South China Morning exclaims, many Chinese investors who have a planned economy mindset, believing government should help them, may well have a surprise coming…
The most dangerous idea gaining traction in the Chinese stock market is the naïve consensus among ordinary investors that no matter how bad the market gets, the Communist Party will eventually rescue everyone.
The central bank surprised everyone with its announcement on Saturday that it will cut its benchmark deposit and lending rates by 25 basis points – the fourth reduction since November.
Meanwhile, it also decided to reduce the reserve requirement ratio at selected banks to further ease liquidity in the banking system.
The unusual "double cut" move came just 24 hours after more than US$760 billion was wiped off the value of mainland stocks – equivalent to the market capitalisation of US technology giant Apple. The reasons for the market crash are complicated, including margin calls, tight liquidity at the end of the month, and panic. Afterwards, the most frequently heard question was, what will the government do to rescue the market. Rescue? Is this really government's responsibility?
China has been through the planned economy model for decades. This is especially ingrained in the generation of my parents, who make up the bulk of individual investors. Just as everything once belonged to the government, many of these people believe the stock market should also belong to the government. So it's the job of the government – in other words, the Communist Party – to rescue the market.
Unfortunately, many Chinese experts and professors are also promoting this naïve view of the relationship between domestic investors and the government.
After the central bank's moves on Saturday, many experts told state media that they believed the central bank acted mainly to rescue the stock market, given the timing of the decision.
Suddenly, investors who felt that Friday was the end of the world – with more than 2,000 stocks sinking – began to talk about what stocks they should buy on Monday morning.
"You still don't get it? It's now like the government policy that the stock market must go up. Otherwise, why bother asking the central bank to rescue the market?" said one investor in a post on Weibo. Many others echoed his views on the social media network.
Beijing has been talking about how to do a better job with so-called investor education for years. Unless the government corrects an impression that it is a last-resort market rescuer, risks will grow in the market and sooner or later the bubble will burst.
It's time to wake up. Beijing has faced more serious challenges than a stock market that is becoming more risky. If you want to rely on President Xi Jinping for everything, then your thinking may just be too simple and too naïve.
* * *
With Central Bank bazookas seemingly un-omnipotent, the fate of the world is in the hands of illiterate Chinese farmers and Greek grannies.
- The NATO Buildup On Russia's Border – Groundless Pretext For Cold War Revival
Submitted by Patrick Smith via Salon.com,
Have you picked up on the new trope du jour? We are all encouraged to bask in our innocence as we lament the advent of a new Cold War. The thought has been in the wind for more than a year, of course, at least among some of us. But we witness a significant turn, and I hope this same some of us are paying attention.
As of this week, leaders who know nothing about leading, thinkers who do not think and opinion-shaping poseurs such as Tom Friedman are confident enough in their case to sally forth with it: The Cold War returns, the Russians have restarted it and we must do the right thing – the right thing being to bring NATO troops and materiel up to Russia’s borders, pandering to the paranoia of the former Soviet satellites as if they alone have access to some truth not available to the rest of us.
James Stavridis, the former admiral and NATO commander, quoted in Wednesday’s New York Times: “I don’t think we’re in the Cold War again—yet. I can kind of see it from here.”
I can kind of see it, too, Admiral, and cannot be surprised: NATO has missed the Cold War since the Wall came down and the Pentagon’s creature in Europe commenced a quarter-century of wandering in search of useful enemies. At last, the very best of them is back.
The inimitable (thank goodness) Tom Friedman on the same day’s opinion page: “This time it seems like the Cold War without the fun—that is, without James Bond, Smersh, ‘Get Smart’ Agent 86’s shoe phone,” and so on.
Leave it to Tom to recall the single most consequentially corrosive period in American history by way of its infantile frivolities. He is paid, after all, to make sure Americans understand events cartoonishly rather than as historical phenomena with chronology, causality and responsibility attaching to them.
You have here a classic one-two. Stavridis’ successors in the military get on with the business of aggressing abroad and trapping Russia in a frame-up J. Edgar Hoover would admire, while Friedman buries us in marshmallow fluff sandwiches.
A couple of columns back I wondered aloud as to what all the talk of renewed Russian aggression, begun in mid-April, was all about. It certainly had nothing to do with Russian aggression for the simple reason there was none. If you saw any, please tell us all about it in the comment box.
A couple of columns earlier I questioned why John Kerry met Vladimir Putin and Sergei Lavrov, his foreign minister, in Sochi. Altogether weirdly, the secretary of state suddenly appeared to make common cause with the Russian president.
My worst predictions are now realities. We have just been subjected to a tried-and-sometimes-true campaign preparing us for a Cold War reprise—begun, like the original, by spooks and Pentagon planners ever eager to escalate unnecessary tensions in the direction of unnecessary conflict.
Think with history, readers. We are now back in the mid-1950s by my reckoning, when the template at work today was perfected in places such as Guatemala. The Dulles brothers double-handedly transformed Jacobo Árbenz, offspring of a Swiss druggist and Guatemala’s second properly elected president, into an agent of “Communist aggression,” as the Times helpfully described him at the time. Árbenz was deposed in 1954, of course, and most Americans were obediently relieved that another “threat” had been countered. (I have always loved the purely American thought of an aggressive Guatemala.)
On through the decades, from Ho to Lumumba to Allende to the Sandinistas—every single case falsely cast as a Moscow-inspired challenge to the “free world,” every case in truth reflecting America’s ambition to global dominance. There is a golden rule at work here, so do not miss it: Americans never act but in response to a threat to human freedom originating among the mal-intended elsewhere.
Any good historian—and stop being so negative, you find good ones here and there—will tell you that the golden rule has applied without exception since the 18th century. It applied to the Mexicans in the 1840s, the Spanish in the 1890s, and countless times during the century we call American.
Even now, the golden rule is inscribed in any American history text you may pick up. It is integral to Americans’ consciousness of themselves. And in consequence it is near to impossible for most of us to grasp our role in events as they unfold before our eyes, never mind our true place in history.
So long as the rule applies, all notions of causality and responsibility are erased from the story. This reality is very close to the root of the American crisis, if you accept the thought that we are amid one.
I view the marked deterioration of the West’s relations with Russia since April in precisely this historically informed light. We have entered upon a new Cold War, all right, and its similarity to the last one lies in one aspect more important than any other: Washington instigated this one just as Truman set the first in motion when he armed the Greek monarchy—fascist by his own ambassador’s description—against a popular revolt in 1947.
You would think it something close to a magician’s trickery to conduct a century and more’s worth of coups, political subterfuge and military interventions and keep Americans convinced that all done in their names is done in the name of good. But we live through a case in point. We now witness an aggressive military advance toward Russia’s borders on a nearly astonishing scale, yet very few Americans are able to see it for what it is.
Such is the power of our golden rule.
The theme of new Russian aggression sounded over the past couple of months reeked of orchestration from the first, as suggested in this space when it was first sounded. It was too consistent in language, tone and implication, whether it came from the Pentagon, NATO or Times news reports—which are, naturally, based on Pentagon and NATO sources.
Anything counted: Russia’s military exercises within its own borders were aggressive. Russian air defense systems on its borders were aggressive. Russia’s military presence in Kaliningrad, Russian territory lying between Lithuania and Poland, was an aggressive threat.
The caker came 10 days ago, when Putin promised his generals 40 new intercontinental ballistic missiles. Aggressive times 10, we heard over and over. “Loose rhetoric” was the incessantly repeated phrase.
In this connection I loved Ashton Carter in an exclusive interview on CBS Tuesday morning. Announcing NATO’s new plans for deployments in Eastern Europe and the Baltics, the defense secretary cited Putin’s “loose rhetoric.” The correspondent must have lost the playbook and had the temerity to ask him to explain. Whereupon the wrong-footed Carter mumbled, “Well, it’s… it’s… it’s loose rhetoric, that’s what it is.”
Got it, Ash. Loose rhetoric.
Does the secretary mind if we spend a few minutes in the forbidden kingdom known as historical reality?
Putin has not uttered a syllable of rhetoric—no need of it—since the Bush II White House floored him with its 2002 announcement that it would unilaterally abandon Nixon’s 1972 Anti-Ballistic Missile Treaty. “This, in fact, pushes us to a new round of the arms race, because it changes the global security system,” the Russian leader said subsequently. Whereupon Russia set about rebuilding its greatly reduced nuclear arsenal, of which the 40 new ICBMs are an exceedingly small addition.
There are no secrets here—only chronology and causality. In the context, I view the 40 new missiles as a very measured message—and of little consequence in themselves—in reply to the immodest lunge into frontline nations Carter disclosed in Estonia this week.
- Here Comes "Prexit": Puerto Rico In "Death Spiral", Debts Are "Not Payable", Governor Refuses To "Kick The Can"
As we noted last night, for a whole lot of time nothing at all can happen under the guise of “containment”… and then everything happens all at once. Because not even two full days after Greece activated the “Grexit” emergency protocol, leading to capital controls, and a frozen banking system and stock market, moments ago the NYT reported that the default wave has jumped the Atlantic and has hit Puerto Rico whose governor Alejandro García Padilla, saying he needs to pull the island out of a “death spiral,” has concluded that the commonwealth cannot pay its roughly $72 billion in debts, an admission that will probably have wide-reaching financial repercussions.
In other words, first Greece, and now Puerto Rico may be in a state of Schrodingerian default. Why the ambiguity? Because while Greece is not technically in default until July 1, Puerto Rico does not even have an option to declare outright default. But that doesn’t mean that the commonwealth will service it. Quoted by the NYT, García Padilla said “The debt is not payable.” He added that “there is no other option. I would love to have an easier option. This is not politics, this is math.”
Funny: math went out the window in 2009 when central bank “faith” took over. The problem is that faith has run out, as has the “political capital” to keep an insolvent global system running, and first Greece now Puerto Rico are finally realizing it.
As the NYT adds, this is “a startling admission from the governor of an island of 3.6 million people, which has piled on more municipal bond debt per capita than any American state.”
More:
A broad restructuring by Puerto Rico sets the stage for an unprecedented test of the United States municipal bond market, which cities and states rely on to pay for their most basic needs, like road construction and public hospitals.
That market has already been shaken by municipal bankruptcies in Detroit; Stockton, Calif.; and elsewhere, which undercut assumptions that local governments in the United States would always pay back their debt.
The immediate implication, as accurately presented by the NYT, is that Puerto Rico’s call for debt relief on such a vast scale could raise borrowing costs for other local governments as investors become more wary of lending. Indicatively, Puerto Rico’s bonds have a face value roughly eight times that of Detroit’s bonds.
What is worse for the illusions that is US “capital markets” is that virtually all the same hedge funds who are long Greece on hopes of some central bank bailout, are also long Puerto Rico. As such, while tomorrow most will be spared…
… some of the most “respected” US hedge funds will suffer a gruesome bloodbath.
What happens next is unclear: “Puerto Rico, as a commonwealth, does not have the option of bankruptcy. A default on its debts would most likely leave the island, its creditors and its residents in a legal and financial limbo that, like the debt crisis in Greece, could take years to sort out.”
So without the “luxury” of default, what is PR to do? Why petition to be allowed to file Chapter 9 naturally: after all everyone is doing it.
In Washington, the García Padilla administration has been pushing for a bill that would allow the island’s public corporations, like its electrical power authority and water agency, to declare bankruptcy. Of Puerto Rico’s $72 billion in bonds, roughly $25 billion were issued by the public corporations.
Some officials and advisers say Congress needs to go further and permit Puerto Rico’s central government to file for bankruptcy — or risk chaos.
“There are way too many creditors and way too many kinds of debt,” Mr. Rhodes said in an interview. “They need Chapter 9 for the whole commonwealth.”
García Padilla said that his government could not continue to borrow money to address budget deficits while asking its residents, already struggling with high rates of poverty and crime, to shoulder most of the burden through tax increases and pension cuts. Where have we heard that before…
He said creditors must now “share the sacrifices” that he has imposed on the island’s residents.
“If they don’t come to the table, it will be bad for them,” said Mr. García Padilla, who plans to speak about the fiscal crisis in a televised address to Puerto Rico residents on Monday evening. “What will happen is that our economy will get into a worse situation and we’ll have less money to pay them. They will be shooting themselves in the foot.”
And the punchline:
“My administration is doing everything not to default,” Mr. García Padilla said. “But we have to make the economy grow,” he added. “If not, we will be in a death spiral.”
And this one: any deal with hedge funds, who are desperate to inject more capital in PR so they can avoid writing down their bond exposure in case of a default, “would only postpone Puerto Rico’s inevitable reckoning. “It will kick the can,” Mr. García Padilla said. “I am not kicking the can.”
We wonder how long before Tsipras, who earlier was quoting FDR, steals this line too.
And speaking of Prexit, how long before Puerto Rico exits the Dollarzone… and will there be a Preferendum first or will the governor, in his can kick-less stampede, just make a unilateral decision to join Greece, Ukraine, Venezuela and countless other soon to be broke countries in the twilight zone of Keynesian sovereign failures?
- Artist's Impression Of This Week In America
- "Contained" Greek Contagion Smashes Japanese Banks Lower
Despite all the ‘smartest men in the room’ proclaiming that Greece doesn’t matter, and Greek risks are “contained”, Japanese stocks are tumbling led by bank stocks. Topix Banks Index has plunged the most since Feb 2014 (and 2nd most since the Taper Tantrum in 2013).
“Contained”… Japanese banks down 3.5% – the most in 18 months
It appears – just as we have said over and over – in the interconnected world of repo, ZIRP, and rehypothecation – size doesn’t matter, it’s collateral chains that matter… and shit’s breaking.
* * *
We await the BoJ’s decision on how much Japanese bank stocks to load on the back of Japanese taxpayers before we proclaim this a problem.
Charts: Bloomberg
- The Bush Family Goes "All In" For Number Three (With The Help Of Its Bankers)
Submitted by Nomi Prins via TomDispatch.com,
Money, they say, makes the world go round. So how’s $10 billion for you? That’s a top-end estimate for the record-breaking spending in this 1% presidential election campaign season. But is “season” even the right word, now that such campaigns are essentially four-year events that seem always to be underway? In a political world stuffed with money, it’s little wonder that the campaign season floats on a sea of donations. In the case of Jeb Bush, he and his advisers have so far had a laser-focus on the electorate they felt mattered most: big donors. They held off the announcement of his candidacy until last week (though he clearly long knew he was running) so that they could blast out of the gates, dollars-wise, leaving the competition in their financial dust, before the exceedingly modest limits to non-super PAC campaign fundraising kicked in.
And give Jeb credit — or rather consider him a credit to his father (the 41st president) and his brother (the 43rd), who had Iraq eternally on their minds. It wasn’t just that Jeb flubbed the Iraq Question when a reporter asked him recently (yes, he would do it all over again; no, he wouldn’t… well, hmmm…), but that Iraq is deeply embedded in the minds of his campaign team, too. His advisers dubbed the pre-announcement campaign they were going to launch to pull in the dollars a “shock-and-awe” operation in the spirit of the invasion of Iraq. Now, having sent in the ground troops, they clearly consider themselves at war. As the New York Times reported recently, the group's top strategist told donors that his super PAC "hopes to 'weaponize' its fund-raising total for the first six months of the year."
The money being talked about: $80-$100 million raised in the first quarter of 2015 and $500 million by June. If reached, these figures would indeed represent shock-and-awe fundraising in the Republican presidential race. As of now, there’s no way of knowing whether they’re fantasy figures or not, but here's a clue to Jeb’s money-raising powers: according to the Washington Post, his advisers have been asking donors not to give more than a million dollars now; they are, that is, trying to cap donations for the moment. (As the Post's Chris Cillizza wrote,“The move reflects concerns among Bush advisers that accepting massive sums from a handful of uber-rich supporters could fuel a perception that the former governor is in their debt.”) And having spent just about every pre-announcement day for months doing fundraisers and scouring the country for money, while preserving the fiction that he might not be interested in the presidency, Jeb, according to the New York Times, bragged to a group of donors that “he believed his political action committee had raised more money in 100 days than any other modern Republican political operation.”
Let’s not forget, of course, that we’re not talking about anyone; we're talking about a Bush. We’re talking about the possibility of becoming number three (or rather Bush 45) in the Oval Office. We’re talking about what is, by now, a fabled money-shaking, money-making, money-raising machine of a family. We’re talking dynasty and when it comes to money and the Bushes (as with money and that other potential dynasty of our moment), no one knows more on the subject than Nomi Prins, former Wall Street exec and author of All the Presidents' Bankers: The Hidden Alliances That Drive American Power. In her now ongoing TomDispatch series on the political dynasties of our moment, fundraising, and the Big Banks, think of her latest post as an essential backgrounder on the election you have less and less to do with, in which Wall Street, the Koch brothers, Sheldon Adelson, and the rest of the crew do most of the essential voting with their wallets.
All In
The Bush Family Goes for Number Three (With the Help of Its Bankers)
By Nomi Prins[This piece has been adapted and updated by Nomi Prins from her book All the Presidents' Bankers: The Hidden Alliances That Drive American Power, recently out in paperback (Nation Books).]
It’s happening. As expected, dynastic politics is prevailing in campaign 2016. After a tease about as long as Hillary’s, Jeb Bush (aka Jeb!) officially announced his presidential bid last week. Ultimately, the two of them will fight it out for the White House, while the nation’s wealthiest influencers will back their ludicrously expensive gambit.
And here’s a hint: don’t bet on Jeb not to make it through the Republican gauntlet of 12 candidates (so far). After all, the really big money’s behind him. Last December, even though out of public office since 2007, he had captured the support of 73% of the Wall Street Journal’s “richest CEOs.” Though some have as yet sidestepped declarations of fealty, count on one thing: the big guns will fall into line. They know that, given his family connections, Jeb is their best path to the White House and they’re not going to blow that by propping up some Republican lightweight whose father and brother weren’t president, not when Hillary, with all her connections and dynastic power, will be the opponent. That said, in the Bush-Clinton battle to come, no matter who wins, the bankers and billionaires will emerge victorious.
The issue of political blood and family lines in Washington is not new. There have been four instances in our history in which presidents have been bonded by blood. Our second president John Adams and eighth president John Quincy Adams were father and son. Our ninth president William Henry Harrison and our 23rd president Benjamin Harrison were grandfather and grandson. Theodore and Franklin Delano Roosevelt were cousins. And then, of course, there were our 41st and 43rd presidents, George H.W. and George W.
If Jeb becomes the 45th president, it will be the first time that three administrations share the same blood and “dynastic” will have a new meaning in America.
The Bush Legacy
The Bush political-financial legacy began when President Ronald Reagan chose Jeb’s father, George H.W., as his vice president. Reagan was also the first president to choose a Wall Street CEO, Donald Regan, as Treasury secretary. Then-CEO of Merrill Lynch, he happened to be a Bush family friend. And talk about family tradition: once upon a time (in 1900, to be exact), Jeb’s great-grandfather, George Herbert Walker, founded G.W. Walker & Company. It was eventually acquired by — you guessed it! — Merrill Lynch, which was consumed by Bank of America at the height of the 2008 financial crisis.
That merger was pressed by, among others, George W. Bush’s Treasury Secretary (and former Goldman Sachs chairman and CEO), Hank Paulson. It helped John Thain, Paulson’s former number two at Goldman Sachs, who was by then Merrill Lynch’s CEO, out of a tight spot. Now chairman and CEO of CIT Group, Thain is also a prominent member of the Republican Party who sponsored high-ticket fundraisers for John McCain during his 2008 campaign. Expect him to be there for Jeb. Paulson endorsed Jeb for president on April 15th. That’s how these loops go.
As vice president, George H.W. co-ran a task force with Donald Regan dedicated to breaking down the constraints of the 1933 Glass-Steagall Act, so that Wall Street banks could become ever bigger and more complex. Once president, Bush promoted deregulation, while reconfirming Alan Greenspan, who did the same, as the chairman of the Federal Reserve. In 1999, after President Bill Clinton (Hillary!) finished the job that Bush had started by overseeing the repeal of Glass-Steagall, banks began merging like mad and engaging in increasingly risky and opaque practices that led to the financial crisis that came to a head in George W.’s presidency. In other words, it’s a small world at the top.
The meaning of all this: no other GOP candidate has Jeb's kind of legacy political-financial power. Period. To grasp the interconnections between the Bush family and Wall Street that will put heft and piles of money behind his candidacy, however, it’s necessary to step back in time and see just how his family helped lead us to this moment of his.
Bush Wins
By the time George H.W. Bush became president on January 20, 1989, the economy was limping. Federal debt stood at $2.8 trillion. The savings and loan crisis had escalated. Still, his deregulatory financial policies remained in sync with those of the period’s most powerful bankers, notably Citicorp chairman John Reed, Chase (now JPMorgan Chase) Chairman Willard Butcher, JPMorgan chief Dennis Weatherstone, and Bank of America Chairman Tom Clausen.
With the economic odds stacked against him, Bush also remained surrounded by his most loyal, business-friendly companions in Washington, who either had tight relationships with Wall Street or came directly from there. In a preordained arrangement with President Reagan, Bush retained Nicholas Brady, the former chairman of the board of the blue-blood Wall Street investment bank Dillon, Read & Co., as Treasury secretary.
Their ties, first established on a tennis court, extended to Wall Street and back again. In 1977, after Bush had left the directorship of the CIA, Brady even offered him a position at Dillon, Read & Co. Though he didn’t accept, Bush later enlisted Brady to run his 1980 presidential campaign and suggested him as interim senator for New Jersey in 1982. The press dubbed Brady Bush’s “official confidant.”
The new president appointed another of his right-hand men, Richard Breeden (who had drafted a “Blueprint for Reform” of the banking industry as directed by a task force co-headed by Bush), as his assistant for issues analysis and later as head of the Securities and Exchange Commission (SEC). Then, on February 6, 1989, Bush unveiled his plan to rescue the ailing savings and loan (S&L) banks. Initial bailout estimates for 223 firms were put at $40 billion. It only took the Bush administration two weeks to raise that figure to $157 billion. On the offensive, Brady stressed that this proposal wasn’t a bailout. Instead, it represented “the fulfillment of the Federal Government’s commitment to depositors.”
A few months later, under Alan Greenspan’s Fed, JPMorgan Securities, the investment banking subsidiary of JPMorgan Chase, became the first bank subsidiary since the Great Depression to lead a corporate bond underwriting. Over the next decade, commercial banks would issue billions of dollars of corporate debt on behalf of energy and public utility companies as a result of Greenspan’s decision to open that door and Bush’s deregulatory stance in general. A chunk of it would implode in fraud and default after Bush’s son became president in 2001.
The S&L Blowout
The deregulation of the S&L industry between 1980 and 1982 had enabled those smaller banks, or thrifts — focused on taking deposits and providing mortgages — to compete with commercial banks for depositors and to invest that money (and money borrowed against it) in more speculative real estate ventures and junk bond securities. When those bets soured, the industry tanked. Between 1986 and 1989, 296 thrifts failed. An additional 747 would shut down between 1989 and 1995.
Among those, Silverado Banking went bankrupt in December 1988, costing taxpayers $1.3 billion. Neil Bush, George H.W.’s son, was on the board of directors at the time. He was accused of giving himself a loan from Silverado, but denied all wrongdoing.
George H.W.'s second son, Jeb Bush, had already been dragged through the headlines in late 1988 for his real estate relationship with Miguel Recarey Jr., a Cuban-American mogul who had been indicted on one charge of fraud and was suspected of racking up to $100 million worth of Medicare-related fraud charges.
Meanwhile, the president was crafting his bailout plan to stop the S&L bloodletting. On August 9, 1989, he signed the Financial Institution Reform, Recovery, and Enforcement Act, which proved a backdoor boon for the big commercial banks. Having helped stuff the S&Ls with toxic real estate products, they could now profit by selling the bonds that were constructed as part of the bailout plan, while the government subsidized the entire project. Within six years, the Resolution Trust Corporation and the Federal Savings and Loan Insurance Corporation had sold $519 billion worth of assets for 1,043 thrifts that had gone belly up. Key Wall Street banks were involved in distributing those assets and so made money on financial destruction once again. Washington left the public on the hook for $124 billion in losses.
The Bush administration and the Fed’s response to the S&L crisis (as well as to a concurrent third-world debt crisis) was to subsidize the banking system with federal and multinational money. In this way, a policy of privatizing bank profits and socializing their losses and risks became embedded in the American political system.
The New Banking Game in Town: “Modernization”
The S&L trouble sparked a broader credit crisis and recession. Congress was, by then, debating the “modernization” of the financial services industry, which in practice meant breaking down remaining barriers within institutions that had separated deposits and loans from securities creation and trading activities. This also meant allowing commercial banks to expand into nontraditional banking activities, including insurance provision and fund management.
The Bush administration aided the bankers by advocating the repeal of key elements of the Glass-Steagall Act. Related bills to dismantle that Depression-era act won the support of the House and Senate banking committees in the fall of 1991, though they were defeated in the House in a full vote. Still, the writing was on the wall. What a Republican president had started, a Democratic one would soon complete.
In the meantime, the Bush administration was covering all the bases when it came to the repeal of Glass-Steagall, which would be the nail in the coffin of decades of banking constraint. As commercial bankers pushed to enter non-banking businesses, Richard Breeden, Bush’s SEC chairman, began championing the other side of the Glass-Steagall divide — fighting, that is, for the rights of investment banks to own commercial banks. And little wonder, since such a deregulation of the financial system meant a potential expansion of Breeden’s power: the SEC would be tasked with monitoring the growing number of businesses that banks could enter.
Meanwhile, Wendy Gramm, head of the Commodity Futures Trading Commission (CFTC), promoted another goal the bankers wanted: unconstrained derivatives trading. Gramm had first been appointed chair of the CFTC in 1988 by Reagan (who called her his “favorite economist”) and was then reappointed by Bush. She was determined to push for unregulated commodity futures and swaps — in part in response to lobbying from a Texas-based energy trading company, Enron, whose name would grow far more familiar to Americans in the years to come. While awaiting legislative approval, bankers started sending their trading exemption requests to Gramm and she began granting them.
9/11 Overshadows Enron
In early 2001, in the fading light of the rosy Clinton economy and an election result validated by the Supreme Court, the second President Bush entered the White House. A combination of Glass-Steagall repeal and the deregulation of the energy and telecom sectors under Clinton catalyzed a slew of mergers that consolidated companies and power in those industries upon fabricated books. The true state of the economy, however, remained well hidden, even as it teetered on a flimsy base of fraud, inflated stocks, and bank-created debt. In those years, the corporate and banking world still appeared glorious amid so many mergers. But the bankers’ efforts to support those transactions would soon give way to a spate of corporate bankruptcies.
It was the Texas-based energy-turned-trading company Enron that would emerge as the poster child for financial fraud in the early 2000s. It had used the unregulated derivatives markets and colluded with bankers to create a slew of colorfully named offshore entities through which the company piled up debt, shirked taxes, and hid losses. The true status of Enron’s fictitious books and those of other corporate fraudsters nonetheless remained unexamined in part because another crisis garnered all the attention. The 9/11 attacks at the World Trade Center, blocks away from where many of Enron’s trading partners were headquartered (including Goldman Sachs, where I was working that day), provided the banking industry with a reprieve from probes. The president instead called on bankers to uphold national stability in the face of terrorism.
On September 16, 2001, George W. famously merged financial and foreign policy. “The markets open tomorrow,” he said. “People go back to work and we’ll show the world.” To assist the bankers in this mission, Bush-appointed SEC chairman Harvey Pitt waived certain regulations, allowing corporate executives to prop up their share prices as part of a plan to demonstrate national strength by elevating market levels.
That worked — for about a minute. On October 16, 2001, Enron posted a $681 million third-quarter loss and announced a $1.2 billion hit to shareholders' equity. The reason: an imploding pyramid of fraudulent transactions crafted with banks like Merrill Lynch. The bankers were now potentially on the hook for billions of dollars, thanks to Enron, a client that had been bulked up through the years with bipartisan support.
Amid this financial turmoil, Bush was focused on retaliation for 9/11. On January 10, 2002, he signed a $317.2 billion defense bill. In his State of the Union address, he spoke of an “Axis of Evil,” of fighting both the terrorists and a strengthening recession, but not of Enron or the dangers of Wall Street chicanery.
In 2001 and again in 2002, however, corporate bankruptcies would hit new records, with fraud playing a central role in most of them. Telecom giant WorldCom, for instance, was found to have embellished $11 billion worth of earnings. It would soon supplant Enron as America’s biggest fraud of the moment.
Bush Takes Action
On July 9th, George W. finally unveiled a plan to “curb” corporate crime in a speech given in the heart of New York’s financial district. Taking the barest of swipes at his Wall Street friends, he urged bankers to provide honest information to investors. The signals were now clear: bankers had nothing to fear from their commander in chief. That Merrill Lynch, for example, was embroiled in the Enron scandal was something the president would ignore — hardly a surprise, since the company’s alliances with the Bush family stretched back decades.
Three weeks later, he would sign the Sarbanes-Oxley Act, purportedly ensuring that CEOs and CFOs would confirm that the information in their SEC filings had been presented truthfully. It would prove a toothless and useless deterrent to fraud.
And then the president acted: on March 19, 2003, he launched the invasion of Iraq with a shock-and-awe shower of cruise missiles into the Iraqi night sky. Two days later, by a vote of 215 to 212, the House approved his $2.2 trillion budget, including $726 billion in tax cuts. Shortly thereafter — a signal to the banking industry if there ever was one — he appointed former Goldman Sachs Chairman Stephen Friedman director of the National Economic Council, the same role another Goldman Sachs alumnus, former co-Chairman Robert Rubin, had played for Bill Clinton.
By the end of 2003, grateful bankers were already amassing funds for Bush’s 2004 reelection campaign. A bevy of Wall Street Republicans, including Goldman Sachs Chairman and CEO Henry Paulson, Bear Stearns CEO James Cayne, and Goldman Sachs executive George Herbert Walker IV (the president’s second cousin), became Bush “Pioneers” by raising at least $100,000 each.
The top seven financial firms officially raised nearly three million dollars for George W.’s campaign. Merrill Lynch emerged as his second biggest corporate contributor (after Morgan Stanley), providing more than $586,254. The firm’s enthusiasm wasn’t surprising. Donald Regan had been its chairman and the Bush-founded investment bank G.H. Walker and Company, which employed members of the family over the decades, had been absorbed into Merrill in 1978. Merrill Lynch CEO Earnest “Stanley” O’Neal received the distinguished label of “Ranger” for raising more than $200,000 for Bush’s reelection campaign. It was a sign of the times that O’Neal and Cayne hosted Bush’s first New York City reelection fundraiser in July 2003.
Government by Goldman Sachs for Goldman Sachs
The bankers helped tip the scales in Bush’s favor. On November 3, 2004, he won his second term in a tight election. By now, bankers from Goldman Sachs had saturated Washington. New Jersey Democrat Jon Corzine, a former Goldman Sachs chairman and CEO, was on the Senate Banking Committee. Joshua Bolten, a former executive director at the Goldman Sachs office in London, was director of the Office of Management and Budget. Stephen Friedman, former Goldman Sachs chairman, was one of George W.’s chief economic advisers as the director of the National Economic Council. (He would later become chairman of the New York Federal Reserve Board, only to resign in May 2009 amid conflict of interest charges concerning the pile of Goldman Sachs shares he held while using his post to aid the company during the financial crisis.)
Meanwhile, from 2002 to 2007, under George W.’s watch, the biggest U.S. banks would fashion nearly 80% of the approximately $14 trillion worth of global mortgage-backed securities (MBS), asset-backed securities, collateralized debt obligations, and other kinds of packaged assets created in those years. And subprime loan packages would soon become the fastest-growing segment of the MBS market. In other words, the financial products exhibiting the most growth would be the ones containing the most risk.
George W. would also pick Ben Bernanke to replace Alan Greenspan as chairman of the Federal Reserve. Bernanke made it immediately clear where his loyalties lay, stating, “My first priority will be to maintain continuity with the policies and policy strategies during the Greenspan years.”
In 2006, two years after persuading the SEC to adopt rules that enabled many of the “assets” being created to be undercapitalized and underscrutinized, the president selected former Goldman Sachs CEO Henry Paulson to be his third Treasury secretary. Joshua Bolten, who had by then had become White House Chief of Staff, arranged the pivotal White House meeting between the two men that sealed the deal. As Bush wrote in his memoir, Decision Points, “Hank was slow to warm to the idea of joining my cabinet. Josh eventually persuaded Hank to visit with me in the White House. Hank radiated energy and confidence. Hank understood the globalization of finance, and his name commanded respect at home and abroad.”
Under Bush, Paulson, and Bernanke, the banking sector would buckle and take the global economy down with it.
Goldman Trumps AIG
Insurance goliath AIG stood at the epicenter of an increasingly interconnected financial world deluged with junky subprime assets wrapped up with derivatives. When rating agencies Fitch, S&P, and Moody’s downgraded the company’s credit worthiness on September 15, 2008, they catalyzed $85 billion worth of margin calls. If AIG couldn’t find that money, Paulson warned the president, the firm would not only fail, but “bring down major financial institutions and international investors with it.” According to Bush’s memoir , Paulson convinced him. “There was only one way to keep the firm alive,” he wrote. “The federal government would have to step in.”
The main American recipients of AIG’s bailout would, in fact, be legacy Bush-allied firms: Goldman Sachs ($12.9 billion), Merrill Lynch ($6.8 billion), Bank of America ($5.2 billion), and Citigroup ($2.3 billion). Lehman crashed, but Merrill Lynch and AIG were saved. The bankers with the strongest alliances to the Bush family (and the White House in general) needed AIG to survive. And it did. But the bloodletting wasn’t over.
On September 18, 2008, George W. would tell Paulson, “Let’s figure out the right thing to do and do it.” He would later write, “I had made up my mind: the U.S. government was going all in.” And he meant it. During his last months in office, the Big Six banks (and marginally other institutions) would thus be subsidized by an “all-in” program designed by Bernanke, Paulson, and Geithner — and later endorsed by President Barack Obama.
The bankers’ unruliness had, however, already crippled the real economy. Over the next few months, Bank of America, Citigroup, and AIG all needed more assistance. And in that year, the Dow Jones Industrial Average would lose nearly half its value. At the height of the bailout period, $19.3 trillion in subsidies were made available to keep (mostly) American bankers going, as well as government-sponsored enterprises like Fannie Mae and Freddie Mac.
As George W. headed back to Texas, the economy and markets went into free fall.
The Money Behind Jeb
Jump seven years ahead and, with the next Bush on the rise and the money once again flowing in, it’s still the age of bankers. Jeb already has three mega super PACs — Millennials for Jeb, Right to Rise, and Vamos for Jeb 2016 — under his belt. His Right to Rise Policy Solutions group, which, as a 501(c)(4) nonprofit, is not even required to disclose the names of its donors, no less the size of their contributions, is lifting his contribution tally even higher. None of these groups have to adhere to contribution limits and the elite donors who contribute to them often prove highly influential. After all, that’s where the money really is. In the 2012 presidential election, the top 100 individual contributors to super PACs and their spouses represented just 1% of all donors, but gave a staggering 67% of the money.
Of those, Republican billionaire Sheldon Adelson and his wife, Miriam, donated $92.8 million to conservative groups, largely through “outside donor groups” like super PACs that have no contribution limits. Texas billionaire banker mogul Harold Simmons and his wife, Annette, gave $26.9 million, and Texas billionaire homebuilder Robert Perry coughed up $23.95 million. Nebraska billionaire (and founder of the global discount brokerage TD Ameritrade) John Joe Ricketts dished out $13.05 million. Despite some early posturing around other candidates with fewer legacy ties, these heavy hitters could all end up behind Bush 45. Dynasties, after all, establish the sort of connections that lie in wait for the next moment of opportune mobilization.
“All in for Jeb” is the mantra on Jeb’s official website and in a sense “all in,” especially when it comes to national bankers, has been something of a mantra for the Bush family for decades. With a nod to his two-term record as Florida governor, Jeb put it this way: “We will take command of our future once again in this country. I know we can fix this. Because I've done it.”
Based on Bush family history, by “we” he effectively meant the family’s billionaire and millionaire donors and its cavalcade of friendly bankers. Topping that list, though as yet undeclared — give him a minute — sits Adelson, who is personally and ideologically close to George W. In April, the former president was paid a Clintonian speaking fee of $250,00 for a keynote talk before the Republican Jewish Coalition meeting at Adelson’s Las Vegas resort. While Adelson has expressed concerns about Jeb’s lack of hawkishness on Israel when compared to his brother, that in the end is unlikely to prove an impediment. Jeb is making sure of that. He recently told a gathering of wealthy New York donors that, when it came to Israel, his top adviser is his brother. (“If you want to know who I listen to for advice, it’s him.”)
Let’s be clear. The Bush family is all in on Jeb and its traditional banking allies are not likely to be far behind. There is tradition, there are ties, there is a dynasty to protect. They are not planning to lose this election or leave the family with a mere two presidents to its name.
The Wall Street crowd began rallying behind Jeb well before his candidacy was official. Private equity titan Henry Kravis hosted a 25-guest $100,000-per-head gathering at his Park Avenue abode in February, one of six events with the same entry fee. In March, Jeb had his first Goldman Sachs $5,000-per-person event at the Ritz Carlton in New York City, organized by Dina Powell, Goldman Sachs Foundation head and George W. Bush appointee for assistant secretary of state. A more exclusive $50,000 per head event was organized by Goldman Sachs exec, Jim Donovan, a key fundraiser and adviser for Mitt Romney who is now doing the same for Jeb.
And then there’s the list of moneyed financiers with fat wallets still to get behind Jeb. New York hedge fund billionaire Paul Singer, who donated more than any other conservative in the 2014 election, has yet to swoop in. Given the alignment of his foreign financial policy views and the Bush family’s, however, it’s just a matter of time.
With the latest total super PAC figures still to be disclosed, we do know that Jeb’s Right to Rise super PAC claims to have raised $17 million from the tri-state (New York, New Jersey, and Connecticut) area alone so far. Its head, Mike Murphy, referred to its donors in a call last week as “killers” he was about to “set loose.” He intimated that the July disclosures would give opponents “heart attacks.” Those are fighting words.
Sure, all dynasties end, but don’t count on the Bush-Banker alliance going belly up any time soon. Things happen in this country when mountains of money begin to pile up. This time around, the Bush patriarchy will call in every chip. And know this: Wall Street will be going “all in” for this election, too. Jeb(!) and Hillary(!) will likely split that difference in the primaries, then duke it out in 2016. Along the way, every pretense of mixing it up with the little people will be matched by a million-dollar check to a super PAC. The cash thrown about in this election will be epic. It’s not the fate of two parties but of two dynasties that’s at stake.
- H-OPA!
An ode to a Grecian contagion
Austerity victims are ragin’
These debts can’t be paid
It’s a Klepto charade
And soon WWIII we’ll be wagon’
The Limerick King
- How Could The "Greek Experts" Be So Wrong?
With Greece disintegrating before our very eyes, here are some recent blasts from the recent and not so recent past, showing just how clueless some of the most and least respected, strategists, bureucrats, drama majors, and former Goldman employees have been when it comes to Greece.
First, here is Tom Lee, best known for predicting in August 2008 that stocks will rise “much higher” by the end of 2008, with the S&P expected to rise to 1450, instead of plunging some 40% lower and wiping out countless people who listened to Lee. From June 23, 2015:
The Greek debt drama is a “sideshow” for U.S. investors, who should be encouraged by signs of a stronger American economy, longtime stock market bull Thomas Lee said Tuesday.
“Greece isn’t the systemic risk that it was three years ago,” he told CNBC’s”
“Focus on U.S. fundamentals, which have been really good.”
Then here is Dennis Gartman, telling what little viewers CNBC has left, that he wants to be a “buyer of European stocks.”
Going further back in time, how can one possibly forget Jean-Claude “When it is serious you have to lie” Juncker’s premature victory lap from October 2014, best summarized in the tweet below:
I say to all those who bet against Greece and against Europe: You lost and Greece won. You lost and Europe won. http://t.co/F3EtHLG3km
— Jean-Claude Juncker (@JunckerEU) May 19, 2014
Oops.
There was, of course, this humorous interlude:
Congrats to Greece on its triumphant return.
— Joseph Weisenthal (@TheStalwart) April 10, 2014
But the single, most glorious example of clueless punditry comes from none other than Mario Draghi himself who back on April 4, 2013 lied to everyone’s face with the following:
Scott Solano, DPA: Mr Draghi, I’ve got a couple of question from the viewers at Zero Hedge, and one of them goes like this: say the situation in Greece or Spain deteriorates even further, and they want to or are forced to step out of the Eurozone, is there a plan in place so that the markets don’t basically collapse? Is there some kind of structural system, structural safety net, especially in the area of derivatives? And the second questions is: you spoke earlier about the Emergency Liquidity Assistance, and what would have happened to the ELA in Cyprus, the approximately €10 billion, if the country had decided to leave the Eurozone?
Mario Draghi, ECB: Well you really are asking questions that are so hypothetical that I don’t have an answer to them. Well, I may have a partial answer. These questions are formulated by people who vastly underestimate what the Euro means for the Europeans, for the Euro area. They vastly underestimate the amount of political capital that has been invested in the Euro. And so they keep on asking questions like: “If the Euro breaks down, and if a country leaves the Euro, it’s not like a sliding door. It’s a very important thing. It’s a project in the European Union. That’s why you have a very hard time asking people like me “what would happened if.” No Plan B.
Yes, they “really” are asking questions like “if a country leaves the Euro” because someone had to. Perhaps the fate of millions of Greeks would have been different if more had the balls to ask just this one most crucial question.
As for the Euro’s “political capital“, it just ran out.
But fear not: as Goldman laid out the script last week, and as we warned all readers, the political capital is about to be replenished with a boost to the ECB’s QE. And all that will take to send European stocks in one last gasp surge higher, is the sacrifice of several million Greek pensioners, coming to a PIIG country near you next.
- The War On Some Drugs
Submitted by Doug Casey via InternationalMan.com,
Drugs are a charged subject everywhere. Longtime readers know that although I personally abstain from drugs and generally eschew the company of users, I think they should be 100% legal.
Few people consider how arbitrary the current prohibition is; up until the 1920s, heroin and cocaine were both perfectly legal and easily obtainable over the counter. Some people “abused” them, just like some today “abuse” fat and sugar (because they’re enjoyable).
But drugs are no more of a problem than anything else; life is full of problems. In fact, life isn’t just full of problems; life is problems. What is a problem? It’s simply the situation of having to choose between two or more alternatives. Personally, I believe in people being free to choose, and I rigorously shun the company of people who don’t.
Hysteria and propaganda aside, the fact is that most recreational drugs pose less of a health problem than alcohol, nicotine, or simple lack of exercise.
Conan Doyle’s Sherlock Holmes (of whom I’m a great fan) was an aficionado of opium products. Sigmund Freud enjoyed cocaine. Churchill is supposed to have drunk a quart of whiskey daily. Dr. William Halstead, father of modern surgery and cofounder of Johns Hopkins University, was a regular user throughout his long and illustrious career, which included inventing local anesthesia after injecting cocaine into his skin.
Insofar as recreational drugs present a problem, it arises partly from overuse, which is not only arbitrary, but can be true of absolutely anything. The problem comes, however, mainly from the fact that they’re illegal.
Alcohol provides the classic example. It wasn’t much of a problem in the US before the enactment of Prohibition in 1920, and it hasn’t been one since its repeal in 1933. Making a product illegal artificially and unnecessarily turns both users and suppliers into criminals.
Because illegality makes any product vastly more expensive than it would be in a free market, some users resort to crime to finance their habits. Because of the risks and artificially reduced supply, the profits to the suppliers are necessarily huge – not the simple businessman’s returns to be had from legal products.
Just as Prohibition of the ’20s turned the Mafia from a small underground group of thugs into big business, the War on Drugs has done precisely the same thing for drug dealers. It’s completely insane and totally counterproductive.
Frankly, if you want to worry about drugs, it would be more appropriate to be concerned about the scores of potent psychiatric drugs from Ritalin to Prozac that are actively pushed in the US, often turning users into anything from zombies, to space cadets, to walking time bombs. But that’s another story more relevant to address at some point – likely years in the future, when it’s again time to consider whether US drug stocks are buys.
The whole drill impresses me as being so perversely stupid as to border on the surreal. Insofar as the Drug War diminishes supply of product, it raises prices. The higher the prices, the higher the profits. And the higher the profits, the greater the inducement to youngsters anxious to get into the game. The more successful it is in imprisoning people, the more people it draws into the business.
Meanwhile, a trumpeted “success” tends to increase funding from the US government. Some of that money succeeds in driving up prices to the benefit of producers, but a lot of it finds its way into the pockets of officials. That further entrenches corruption at all levels.
The only answer to the War on Drugs is the same as that to the equally stupid and destructive War on Demon Rum fought during the ’20s – a repeal of prohibition.
These are arguments entirely apart from the most important one, which deals with ethics. The question is really whether you have a right to control your own body and what you ingest. There’s little question that caffeine, cocaine, nicotine, heroin, alcohol, marijuana, sugar, and a thousand other things aren’t good for you, at least not in quantity. But I can’t see how that’s anybody’s business but your own. Once it becomes a matter of state concern, then everything becomes an equally legitimate subject of state attention. Which is pretty much where we are today – well on the way to a police state.
- Keynes, The Great Depression And The Coming Great Default
Submitted by Gary North via Gary North's Specific Answers,
Ideas have consequences, but not in a social vacuum. There are no social vacuums.
Ideas that are held by a minority of fringe academics or polemicists sometimes become the foundations of victorious social movements after existing social institutions are undermined by a social crisis.
OPTIMISM AND SOCIAL REVOLUTION
There seems to be an inherent optimism in the thinking of most members of the human race. It is the source of men's sacrifice in the present for the sake of the future. We think the future is going to get better, and therefore it is worth sacrificing present consumption for the sake of future consumption. This is the basis of thrift. This is the basis of expanded capital in our society.
Basic to the success of every social revolution in the West since 1640 has been the doctrine of progress. Each revolution offers hope for the future. Usually, these have been short on details of the transition between now and the new utopia, but there is hope.
The free market was such an idea. Adam Smith was the major promoter. His disciples extended his vision of the wealth of nations. The timing was perfect: 1776. That was about the time that the Industrial Revolution began its transformation of the West and then the world.
Beginning around 1800, and limited to the Eastern shore of the United States and the British Isles, compound economic growth began. By 1820, the economic transformation was leaving irrefutable historical evidence of this transformation. Economic historians debate as to the causes of this growth, but it had never been seen before. By 1850, the world was very different. A series of inventions transformed modern agriculture, modern transportation, and communications. This was visible to everybody by 1851. That was the year of the great London exhibition. Anyone who attended that exhibition realized that the world had fundamentally changed since 1800.
We are now over two centuries into this process. It is almost impossible for us to think of a society made up of human beings who are systematically pessimistic about the future. What began in the English-speaking world of the Atlantic Coast has now spread into the villages of India and China. There is almost nowhere left on earth in which optimism regarding the economic future is not a fundamental presupposition of every village, every tribe, and every family. Economic reality finally caught up with human optimism, and then raced ahead.
There has been only one period in which economic growth has stagnated for more than a decade since 1800. That was the Great Depression, which was followed by World War II. Output of almost all goods and services declined in the 1930's, and then the war destroyed much of the output of the first half of the 1940's. This destruction was systematic: bombs, armies, and battles destroyed the output of military factories. Both sides were committed to the destruction of any economic growth on the other side. With the exception of the United States, all nations that were involved in the conflict suffered direct economic contraction as a result of the war. But there was full employment for the survivors — at below-market wages. There was central planning on an unprecedented scale: the ration-book economy.
THE KEYNESIAN REVOLUTION
What was most significant about the 1930's was not the fact that there was economic stagnation for a decade. What was most significant was the transformation of the thinking of Western civilization. The intellectuals changed their minds; the voters changed their minds.
In Nazi Germany and Fascist Italy, in Great Britain, in Japan, and in the United States, there was a shift of opinion away from the free market in favor of government economic planning. The supreme mark of this transformation was the acceptance of John Maynard Keynes' unreadable book, The General Theory of Employment, Interest, and Money, which was published in 1936. A new generation of younger economists adopted this book and its outlook, which prevails today. The fascist economic idea of an alliance between government and business became almost universally accepted.
There had always been a tendency for special-interest groups to seek government subsidies. Mercantilism, 1550-1800, was a manifestation of this worldview. But, from an academic point view, economists after Adam Smith were generally not committed to anything like mercantilism. There were some who were, but they were not dominant.
There was always an appeal in the United States for federal finances and subsidies, and the mark of this was Sen. Henry Clay's so-called American system. Abraham Lincoln was an early convert. But the size of the federal government in the overall economy was so small that these interventions were mainly limited to roads, canals, and transportation projects. In other words, there was a commitment to the government-business alliance, but there was not much government to be allied to. This changed in the 1930's.
I am probably the only person who has ever noticed the following, but it bears repeating. The Macmillan publishing company in Great Britain published three books analyzing the causes of the Great Depression. The first one was written by a disciple of Ludwig von Mises, Lionel Robbins. He was probably the most prominent British economist favoring the free market in the 1930's. He was a colleague of F. A. Hayek at the London School of Economics, who was also a defender of the free market, but who was an Austrian. Both of them at the time were followers of Mises. Robbins' book was titled simply, The Great Depression. It was published in 1934. One year after Keynes's book, in 1937, Macmillan published another economic analysis of the depression, which was also basically a defensive of the Austrian theory of the business cycle. That book was titled, Banking and the Business Cycle. Both of these books are available for downloading or purchase on the website of the Mises Institute. They are both quite readable. Keynes' book was not readable. Yet so devastated was Robbins by the depression that he repudiated his own book in the 1940's. It is Keynes' book that remains in print. The other two books were essentially forgotten by 1940.
The modern fascist economy that dominates the West, meaning an economy sustained by central bank counterfeiting and central government fiscal deficits, was born during the Great Depression. It was conceived much earlier, but it took the Great Depression to provide what we can legitimately call labor pains. Most people today cannot conceive of a world without government intervention, central banking, government guarantees of all kind, and so forth. The Federal Register turns out approximately 80,000 pages of fine print regulations every year. This regulatory order is cumulative. Most of these regulations stay on the books. They are not repealed by the bureaucrats; they are amplified by new rules.
Despite the fact that most economists say they are free marketers, only a handful of Austrian economists favor the shutting down of the Federal Reserve System. Yet in 1900, most economists in the United States were not in favor of a central bank. Institution by institution, crisis by crisis, fascist economics increases its support among academics, and it increases its support among the masses. Social Security and Medicare are simply the most visible manifestations of this outlook. The public is completely in favor of both programs.
I am arguing here that a sustained economic crisis always calls forth radical new ways of explaining the crisis. These new ways are always extensions of previous opinions. But a new generation of economists will adopt the new format of the previous opinions, including errors in some cases. That is the lesson of the Great Depression. Keynes simply baptized what politicians and central bankers were already doing.
Keynesian economics is incoherent. That is our great advantage. The defenders of Keynesian economics, when standing in front of a crowd to explain the system, proclaim its goals and describe its interventions, but they cannot explain how these interventions have in fact created wealth. The system is incoherent. This is why The General Theory is invoked but never assigned. Austrian School economists still assign Mises' 1920 essay, "Economic Calculation in the Socialist Commonwealth." It is readable.
The great advantage Keynesians they have is this: people find it difficult to believe in the theory first proclaimed in the 18th century, namely, that social evolution, including economic progress, is based on individual decision-making within a free market setting. The idea that coherence grows out of individual decisions, and that there is no central organizing entity, is difficult for people to believe. Adam Smith correctly named this system of unplanned providence: the invisible hand.
On the one hand, most people believe in God. On the other hand, most people believe in free will. They trust in God's providence, but they also want personal liberty. They want to believe in the free market, but they also want to believe that there is an overarching coherence to it that is supplied by God. Economists don't believe this, but most people are not economists. Economists believe, as Adam Smith believed and Adam Ferguson believed, that society is the result of human action, but not the result of human design. It takes enormous faith to believe this, and most people are not capable of enormous faith. They want to believe in God, but they don't quite believe that the free market is God's way of bringing coherence to the world. It is easier for most people to believe that politicians and bureaucrats provide this social and economic coherence in general, despite repeated failures of such planning in specific cases. It is hard to believe in the coherence provided by the invisible hand of the free market's profit-and-loss system. People want to see a more visible hand. This has been true down through the ages, from Pharaoh's pyramids to Washington's pyramids.
This quest for a visible hand initially favored faith in socialism, but now that the socialist faith has collapsed, as a result of the collapse of the Soviet Union in 1991, this leaves only Keynesianism. Keynesianism is in fact incoherent, and nobody can really explain it, but that is true of every doctrine of God. It is a question of how much mystery most people can tolerate. At some point, this issue will arise: how much economic pain they are willing to tolerate.
It is easier to believe in the free market than in Keynesianism, but only if you understand economic logic — causation through competitive bidding. But most people do not understand economic logic. This is why they support tariffs and other interventions by the state into the market.
So, in the back of most people's minds in 1929 was faith in some kind of god. As long as the money kept flowing, and economy kept growing, people believed that the boom would last forever. This was basic to their optimism. They weren't sure exactly why the boom was taking place, but they figured that it was forever. They wanted to believe that good times would last. But good times did not last.
The Great Depression was the great stumbling block for optimism. It undermined faith in Western political liberty and Western economic liberty. The Fascists and the National Socialists took advantage of this. The Fabian socialist movement took advantage of this in Great Britain. The New Deal took advantage of this in the United States. Lenin (Ulyanov) had already taken advantage of this from 1917 to 1924, and Stalin (Djugishvili) was taking advantage of it.
CONCLUSIONS
New ideas alone do not change the minds of most people. This includes intellectuals. There is usually a crisis that serves as a catalyst for changing the minds of millions of people. Ideas that had been floating around in the world of intellectuals then get applied by a new generation of intellectuals, and simultaneously they are also applied by politicians. This is what creates revolutions.
It is the job of those intellectuals who favor a new outlook to work on the details of this outlook until such time as a revolutionary figure gains political support, and some new apologist for the revolutionary worldview comes to the forefront and begins to gain disciples. The power of ideas alone does not produce revolutions. There has to be a social setting to allow the catalyst of revolutionary ideas to produce a social and political transformation.
This is why the Great Default of all of the Western welfare states is going to create tremendous opportunities for new ideas to come to the forefront. It is going to undermine and ultimately destroy the Keynesian worldview. This is a great opportunity for younger anti-Keynesians to stake their claims to what appears to be a played-out mine. That is why I outlined my Keynes project.
The body of intellectual materials favoring the free market is vastly larger today than it was in 1940, 1950, or 1960. These older materials went out of print. But today, because of PDF page images and the World Wide Web, the Mises Institute has posted hundreds of volumes. In addition, there is a constant stream of new materials being produced online. We await only the catalyst of the Great Default to produce conditions necessary for the transformation of these academic ideas into effective political programs, especially at the local level. Decentralization is the wave of the future. True Free trade and the World Wide Web will supply the benefits of internationalism. The global bureaucrats will not.
When the Keynesian medicine cabinet is visibly bare, people will want explanations of why it is bare and why the economy is sick. Most of all, people will want suggestions for how the cupboard can be filled up with something that heals sickness. I am working on this. So are thousands of other writers. It is not 1970 any longer. The print publishing oligopoly is dying.
Ideas have consequences, but not in a social vacuum.
- Pension Funds Are "Compromising Their Solvency" OECD Warns
Four months ago in “The Global War On Pensioners”, we highlighted the impact perpetually suppressed risk-free rates are having on pension funds. The critical point is this: the lower the investment return assumption (the assumed discount rate), the higher the present value of pension liabilities, meaning funds must either concede that liabilities have ballooned in the low yield environment, or take greater risks to justify elevated investment return assumptions.
This state of affairs has exacerbated an already bad situation for many public sector pension funds in the US and has helped fuel a shift towards “alternatives” by funds determined to maintain investment return assumptions despite the fact that ZIRP and NIRP are making those assumptions more unrealistic by the day. For a detailed recap, see the following:
- The Global War On Pensioners
- Junk Rated Chicago Has A Billion Dollar Pension Problem
- Almost Half Of US States Are Officially Broke
- States Turn To Pension Ponzi Scheme To Close Funding Gaps
For more on the risks posed by the intersection of pension funding gaps and persistently low rates, we go to the OECD’s Business and Finance Outlook (first discussed here in the context of bond market liquidity last week):
The relationship between the liabilities of pension funds and annuity providers and the assets backing those liabilities (i.e. the funding ratio) determines the financial situation of these institutions, including their solvency. Interest rates play a role for both the asset and the liability side of the balance sheet of these institutions and understanding how interest rates affect both is essential to understanding the potential impact of low interest rates.
Low interest rates affect the liabilities of pension funds and annuity providers because the liabilities depend on the discount rate used to calculate the present value of future promises. The discount rate used to calculate the net present value is generally assumed to be the risk-free rate, usually the long-term government bond yield (e.g. the 10-year government bond yield). Other things equal, when government bond yields decline, the estimated value of future liabilities increases.
The impace of a reduction in interest rates on the value of the assets backing the liabilities of these investors depends not only on the proportion of the portfolio invested in fixed income securities, but also on the valuation methods, and the maturity of those securities.. To the extent that interest rates remain low into the future and the fixed income securities in the portfolio reach maturity, reinvestments into new fixed income securities carrying lower yields would reduce the future value of assets, in proportion with the share of the portfolio invested in fixed income securities. As a result of this lower future value of assets, pension funds’ and insurance companies’ assets might not be sufficient to back up their promises, unless the pension orpayment promise is adjusted to the new environment of low interest rates, low inflation, and growth..
The extent to which pension funds and insurance companies engage in a ‘search for yield’ is the main concern for their outlook. Pension funds may shift their portfolio allocation towards investments that could potentially fetch higher returns but in exchange for an increased overall risk profile for their investment portfolio. As pension funds move into riskier investments in search of higher returns to fulfil their pension promises, they may be seriously compromising their solvency situation in the event of a negative shock (e.g. liquidity freeze).
As you can see from the above, pension funds in the US, Canada, and the UK have moved increasingly into “other” assets over the course of the last decade.
What does the OECD define as “other” assets you ask? Here’s the list: “loans, land, unallocated insurance contracts, hedge funds, private equity funds, other mutual funds, and other investments.”
If that sounds risky to you, or if you have doubts about whether pensioners would knowingly stake their retirements on the performance of alternative assets that probably have no place in a conservative portfolio, just know that you’re not alone. We’ll leave you with the following warning from OECD Secretary General Angel Gurría:
“Pension funds and life insurers are feeling the pressure to chase yield and to pursue higher-risk investment strategies that could ultimately undermine their solvency. This not only poses financial sector risks but potentially jeopardizes the secure retirement of our citizens.”
- Why We're Headed Toward A "Cashless Society"
Submitted by Bill Bonner via Bonner & Partners (annotated by Acting-Man's Pater Tenebrarum),
Don’t Count on Your ATM Cards
Yesterday, came a report that the prime minister of Poland, Ewa Kopacz, has urged Poles traveling to Greece to take “a larger amount of cash” with them. Why? Because the situation could be “very dynamic,” she says. “Please do not count only on your ATM cards and on ATMs, but take a larger amount of cash with you.”
Queues are forming at ATMs in Greece of late. These ATMs will keep working as long as the ECB provides ELA financing to Greek banks. Unfortunately, the latter are beginning to run out of collateral. We are guessing they are probably giving the Bank of Greece IOUs now that they are issuing themselves. Yes, the situation is “dynamic”.
Photo credit: Simela Pantzartzi / EPA
It’s not the dynamic situation that would worry us. It’s the dynamite that lies beneath the whole world’s money system. It is a system that is fundamentally flawed. It depends on the intelligence and integrity of its custodians. Not that we think Madame Yellen is dumb. Nor do we doubt her honesty. But she is, after all, only human.
And centrally planning an $18 trillion economy – by manipulating asset prices and interest rates – is a super-human undertaking. The odds that something will go wrong? 100% …
It’s all data-dependent …
Cartoon by B. Rich
Controls on Cash
A reader asks a good question:
“I have a question about the recommendation to hold cash. If countries are putting controls on real cash and banking, in what form should a person hold cash? U.S. dollars or some other currency. If we truly go to a “cashless society” what good would having a hoard of cash do?”
We would like to have a better answer, but we only have the one we have. Money is always a convention. It is an understanding. People recognize money as a stand-in for wealth.
Since the beginning of civilization, people have experimented with different kinds of money. They ended up – almost always and almost everywhere – with gold and silver. Why?
Because they were handy. And because they were hard to produce. They were cash that governments could not easily control. No super-humans were needed to manage them.
Governments – the people who are able to boss other people around – always want to control money. They put their faces on it. They mint it. They clip coins. And they print pieces of paper and call it money.
But they could never completely control cash. People hoarded gold. They hid it. They ran away with it. They used it to make trades between themselves… regardless of what the feds said. And when the feds’ money went kaput – which it always did – they turned back to gold, because they knew they could trust it.
And now, the feds are making a new attempt to bring money totally under their control. For example, under the pretext of cutting funding for terrorists, the French government already has a law in the pipeline banning cash transactions of over €1,000 ($1,120).
There’s nothing stopping governments from banning cash transactions altogether… and ending the usage of paper money. Economists pretend it is a matter of convenience to the consumer (no more waiting for the clerk to make change for the fellow in front of you).
… or they try to sell it as a useful macro tool for central planners (they will be able to stimulate demand by imposing negative interest rates)…
… or they say a cashless world will be safer – you won’t be held up at gunpoint, and terrorists will find it harder to get financing.
But the real reason is control. If governments can eliminate cash, they can easily track, tax, and confiscate your money.
Bank robberies of the future
Cartoon via armstrongeconomics.com
When You Need a Stash of Cash
And if the feds can control your money, they will be able to control you. Do you voice an opinion they don’t want to hear? Do you belong to a group they want to get rid of? Do you want to know what happened to your tax money? Watch out… With a keystroke, you could be “disappeared.”
“Sometimes, when the government tells you to do something, it’s best to do the opposite,” says a French neighbor. In 1944, her father was the adjutant mayor of a small town in southwestern France. The Allies had landed in Normandy and the Germans were pulling their forces back to the Rhine. Our friend tells the story:
“Someone had blown up a German truck as it went through town. People were doing that. Taking pot shots at the Germans. The SS didn’t like it. They would gather up the mayor and a few other people. If they didn’t turn over the guilty person, they would kill the mayor. Or sometimes the whole town.
My father got a message that told him he was supposed to go to the town square. Instead, he went into the woods. It’s a good thing he did. Otherwise, I wouldn’t be here.”
When do you need a stash of cash? When the feds try to outlaw it. Hold some dollars. And some gold. We realize that our answer to the reader’s question is insufficient. After all, what good will cash be after it is declared illegal?
We’re not sure. Maybe we’ve spent too much time in Argentina, where people have more supple and more subtle attitudes to monetary regulations. Trading pesos for dollars, on the black market, is illegal. Do it and they take you for a scofflaw. Don’t do it and they take you for a fool.
More to come on this in future updates. Stay tuned …
What not to be in Argentina
- A Helpless China Tips Its Hand: A Market Crash "Poses Great Danger To Social Stability"
While Greece has understandably been the focal news event over the weekend – after all it has been 5 years in the making – let’s not forget that in another massive move, one geared squarely to prevent a market collapse and to avoid even further panic, the Chinese central bank cut both its policy rate and the reserve rate in a dramatic push to calm down markets after a 10% crash in just two trading days.
Which, incidentally, shows that after the Fed, the BOE, the SNB, the BOJ and the ECB, the PBOC is the latest bank to have cornered itself in a world where it must inflate the bubble at all costs or face the dire consequences. What consequences? Nomura explains:
The policy easing should be viewed as a measure to contain the risk of a hard landing or systemic crisis rather than one to achieve faster growth. In this case, the stronger-than-expected monetary easing may help stem the decline in the equity market following a 10.6% drop over the past two trading days. The positive wealth effect of the equity market on consumption or aggregate demand is limited in China, but an equity market collapse would hurt millions of mid-class households and pose great danger to the economy and social stability.
And there you have it: just like all other central banks, the opportunity cost to markets returning to fair value is nothing short of social conflict (as admirably displayed with every passing day in the US) and even, perhaps, civil war.
Which means that unlike before, when the bursting of the bubble would merely lead to a few high flying 1%-ers literally flying from the top floor having lost everything, this time the gamble could not have been higher, and when the central banks finally lose control the outcome will be nothing short of war… just as Paul Tudor Jones, Kyle Bass and countless others have warned before.
- Dow Futures Open Down 300 Points, 10Y Yield Tumbles 20bps As EURUSD Plunges Over 200 Pips
Buy-The-Dipping, "Greece doesn't matter", Escape-velocity-forecasting, QE-front-running, Central-Bank-believing asset gatherers everywhere must be salivating at this 'healthy correction' opportunity…
As Jonathan Krinsky ( @jkrinskygpa ) noted, this is the world's equity traders right now…
With EURUSD making fresh lows at 1.0955… as more FX broker platforms come online. EURCHF is down over 1%
US equity futures open down hard…
Here's a nice closeup view of $ES_F right before and during US open at 18:00 ET "falling cliff + stairs" pattern pic.twitter.com/AbdBMdHU2o
— rockhowse (@rockhowse) June 28, 2015
But Greece was rescued, right?
- *TREASURY 10-YEAR FUTURES RISE 1 1/2 TO 126 17/32
Which implies a 20bps plunge in yields!
This might have something to do that that collapse…
- *WTI OIL OPENS 79 CENTS LOWER AT $58.84 A BARREL IN NEW YORK
- *GOLD FUTURES CLIMB 1% TO $1,184.60/OZ IN NEW YORK
Unleash The Bullard
Charts: Bloomberg
- Ignoring Tsipras Plea For Calm, Greeks Storm ATMs, Stores, Gas Stations
Just a few hours ago Greek PM Tsipras addressed his nation imploring then to "remain calm" and reassuring them that their "deposits were safe." It appears the Greeks did not believe him. Many were wondering where the Greek bank lines were for the past several months. Turns out the local depositors were merely waiting until just after the last minute to withdraw their funds… horde gas… and stack food. Greece, it appears is Venezuela – the new socialist paradise.
Tsipras implored: "Keep Calm…."
They did not listen…
Call that an ATM line…
Now THIS is an ATM line…
This ia an ATM queue in the centre of Athens now #Greece #Greferendum pic.twitter.com/lx12DYnJIW
— Loukia Gyftopoulou (@loukia_g) June 28, 2015
??????? ????????????. ??????. pic.twitter.com/pPy1HT5LaP
— Kosmas Themelis (@kosmasthem) June 28, 2015
How Greece looks like after capital control announcement by SYRIZA-ANEL #europe #euro #Eurozone #EuropeanUnion pic.twitter.com/x6nK9951H1
— Poseidon (@Kons_u) June 28, 2015
#ATM#thessaloniki#greece#krisis pic.twitter.com/Ly4g8B0Paj
— ????? ? (@sissy_mitr) June 28, 2015
Lines outside ATM in #Thessaloniki this evening via @gatosg. #greece #athens #Greferendum #dimopsifisma pic.twitter.com/phf1050KMG
— Omaira Gill (@OmairaGill) June 28, 2015
ATM queues growing by the hour in #Greece. #euro #GreeceCrisis pic.twitter.com/IYx9KAyr2n
— New Europe Investor (@neweuropeinvest) June 28, 2015
Even at the airports…
Resending this as there is at least one other ATM with cash at athens airport out of shot. I've joined the line. pic.twitter.com/EuoIcj9afb
— Elliott Gotkine (@ElliottGotkine) June 28, 2015
And gas stations are overwhelmed…
Scene at the petrol station near my hotel. Busy, certainly. but not manic. #Greece #euro pic.twitter.com/zEODyhbkHk
— John Hooper (@john_hooper) June 27, 2015
As grocery stores and general appliance stores come under seige…
???????? ??????? ???????, ????. ???? ??? ???? ?????????… pic.twitter.com/mWU7DHkl99
— ???????????????????? (@LPapastergiou) June 28, 2015
We have seen this before – in Russia recently as the Ruble collapsed and citizens spent any and every piece of currency they had on 'assets'.
The great news for Greece is that GDP for Q2 will be sent soaring.
Simply put – it's all about inflation expectations. And unlike The Fed or The BoJ, who keep trying to jawbone higher expectations into their citizens' minds, the Greek government may have achieved it implicitly through devaluation expectations and with it – a spending spree before things get more expensive and implicitly a surge in GDP. Of course, however, the spending surge can only be short-term and will stop as soon as there are no more euros to spend.
- Top German Politician Blasts Nuland & Carter: "F##k US Imperialism"
With intra-Europe relations hitting a new all-time low; and, having already been busted spying on Merkel, Obama got caught with his hand in Hollande’s cookie jar this week, the following exultation from one of Germany’s top politicians will hardly help Washington-Brussells relations. As Russia Insider notes, Oskar Lafontaine is a major force in German politics so it caught people’s attention when he excoriated Ash Carter and Victoria Nuland on his Facebook page yesterday… “Nuland says ‘F*ck the EU’. We need need an EU foreign policy that stops warmongering US imperialism… F*ck US imperialism!”
Here is the Facebook post (in German):
Lafontaine has been an outsized figure in German politics since the mid-70s. He was chairman of the SPD (one of Germany’s two main parties) for four years, the SPD’s candidate for chancellor in 1990, minister of finance for two years, and then chairman of the Left party in the 2000s. He is married to Sarah Wagenknecht, political heavyweight, who is currently co-chairman of Left party.
Lafontaine’s outburst came a day after his wife, Sarah Wagenknecht, blasted Merkel’s Russia policy in an interview on RT.
Here is the full translation of the post:
“The US ‘Defense’ secretary, i.e., war minister is in Berlin. He called on Europe to counter Russian ‘aggression’. But in fact, it is US aggression which Europeans should be opposing.
“The Grandmaster of US diplomacy, George Kennan described the eastward expansion of NATO as the biggest US foreign policy mistake since WW2, because it will lead to a new cold war.
“The US diplomat Victoria Nuland said we have spent $5 billion to destabilize the Ukraine. They stoke the flames ever higher, and Europe pays for it with lower trade and lost jobs.
“Nuland says ‘F*ck the EU’. We need need an EU foreign policy that stops warmongering US imperialism.
“F*ck US imperialism!”
* * *
When he comes out swinging this way, you know something is changing.
* * *
America – making friends and influencing people for 238 years…
- Collapsing CDS Market Will Lead To Global Bond Market Margin Call
Submitted by Daniel Drew via Dark-Bid.com,
As Zero Hedge previously noted, liquidity is there when you don't need it, and it promptly disappears once it is in demand. Consider it "cocktease capitalism." If liquidity lasts longer than 4 hours, call the CFTC because you may be experiencing a spoof. Right now, the ultimate spoof is setting up as the credit default swap market collapses, and a global bond market margin call is just around the corner.
The most serious risk at the moment is the lack of bond market liquidity. This problem was created by the Federal Reserve. By flooding the market with liquidity, the Federal Reserve paradoxically destroyed the liquidity it sought to create. Initially, the Federal Reserve's actions helped stem the panic selling when it stepped in as the buyer of last resort. However, the Fed is quickly becoming the buyer of first resort. The CME even has a Central Bank Incentive Program to encourage foreign central banks to buy S&P 500 futures. It's not a stretch of the imagination to presume the Federal Reserve is buying S&P 500 futures alongside the foreign banks.
As the Fed's balance sheet expanded ever larger, they transformed from being a mere market participant to becoming the market itself. The Federal Reserve, along with the rest of the world's central banks, are essentially engaging in a multi-year effort to corner the global bond market. As we have seen in every case, no one has ever successfully cornered a market indefinitely. From the Hunt Brothers in the 1980 silver market to the Saudi royal family in the modern fractured oil market to the Duke brothers in the frozen concentrated orange juice market, it simply has not worked. Running a monopoly is an uphill battle that eventually results in a spectacular blowup. Why would the central banks be any different?
As Zero Hedge pointed out recently, the run on the central banks has already begun. For the first time ever, QE failed. The first casualty was the Riksbank in Sweden.
The Swedes have shown there is a limit on how low interest rates can go. The limit may be different for every country, but it does exist. Investors will eventually revolt against the post-crash Bizarro bond markets that dot the global landscape.
The same problem that brought Long-Term Capital Management to its knees is what will bring down the central bankers: liquidity. They seem to have forgotten that without liquidity, there are no markets. You can't be the only player in the game. It is often said that cash is king, but what that really means is liquidity is king. In the capital markets, investors will pay a premium for liquidity. Right now, liquidity trumps credit ratings in the bond market. As liquidity thins out dramatically, that premium is becoming smaller and smaller. One day, every central bank will have their Riksbank moment when, despite their best efforts, it all blows up.
In one of the largest ironies in regulatory history, the crackdown on the CDS market may ultimately exacerbate the inevitable bond market crash. A credit default swap allows someone to speculate on or hedge against the risk of a credit default. The outrage behind credit default swaps was not actually about the swaps themselves; it was about the leverage. AIG was just in over its head. Leverage is power, and like an amateur gun enthusiast, AIG couldn't handle the recoil on the trillion dollar caliber CDS market. However, used properly, credit default swaps can function effectively – particularly when the underlying markets have been squeezed dry of every last drop of liquidity by the bond market monopolists at the Fed. If the bonds themselves freeze up, perhaps the CDS market will continue trading.
This kind of derivative-driven salvation was one of the defining legacies of the stock market crash of 1987. When the market was at its lows and the stock exchanges considered closing, Karsten "Cash" Mahlmann, Chairman of the Chicago Board of Trade, decided to continue trading the Major Market Index (MMI) futures contract when virtually all other trading was at a standstill. A large rally in the MMI futures eventually led to a rally in the Dow Jones, proving once again that the futures market is the tail that wags the dog. In a moment of crisis, Wall Street took a back seat to Chicago.
All of this points to the power of the derivative to bolster confidence during a crash. As we have seen, the derivative market is many times larger than the actual underlying securities they represent. This is due to the nearly infinite amount of side bets that can be created. Even a casual investor can see this aspect in the proliferation of ETFs. However, the CDS market has been in a state of deleveraging and decline since the 2008 crash as a result of risk mitigation and new regulations.
Initially, this was a positive development, but now, the CDS market is slowly disappearing altogether. Last year, Deutsche Bank dropped out of the "single name" CDS market, which means less liquidity for anyone who has a legitimate need to hedge risk in particular entities. Without "single name" credit default swaps, hedgers and speculators alike are left with imprecise index swaps, such as the 10-year Markit CDX North America Investment Grade Index Series 9, the contract that cost JPMorgan $5.8 billion in 2012.
The central bankers are already anticipating the collapse of quantitative easing. They meet in Basel every other month at the Bank for International Settlements. A year ago, they met to attend a workshop called "Re-thinking the lender of last resort." One of the papers discussed was written by Perry Mehrling. It is called "Why central banking should be re-imagined." Mehrling said,
A market-based credit system requires market pricing of capital assets as a prerequisite for market funding. The assets are collateral for the funding, and if the market does not believe the asset prices then it's going to be pretty hard to get the funding, and if the private sector won't fund private holding of the Fed's asset positions then exit is de facto impossible.
When the bond market collapses, no one will be able to sell. And if they can't hedge, their hands are tied.
- Ahead Of The Open: Deer In Headlight "Traders" Pray For The Plunge Protection Team To Arrive
Some thoughts from Bloomberg’s Richard Breslow, author of “trader’s notes” on what is going through panicked traders’ heads, who writes that “well before any markets open, the minds of traders are racing furiously. What do I do with my positions? Arguments can be made for most outcomes, and commentary will follow price action, not the other way around.” Yes, because chasing momentum up for 7 years obivious of reality and ignorant of a $22 trillion central bank balance sheet led the “deer in headlights” to profitable utopiua.
Bashing of idiot momos aside, those who have had the “commentary” right every day since 2009 only to get steamrolled by central banks who have injected countless funny money into so-called “markets” to preserve the illusion of the status quo may be about to get their day in the sun… unless the central banks lob every last bazooka they have to prevent what could well be an epic carry-unwind bloodbath, and the beginning of the end of “faith-based” “markets.”
Here are some more thoughts from Breslow:
Reasoned market analysis will have to allow for stop losses getting off-side — or panic-struck or trying to be prudent — traders back to neutral, the potential consequences of the markets desks of every major central bank being on high alert and prepared to act (“plunge protection teams,” to use the vernacular of the financial crisis), as well as the frustrating reality of it being Sunday evening, which means markets will open ad seriatim and only slowly.
Those that are open will have to bear the brunt of whatever imperfect hedging can be done, while opportunity-seeking will only come as the day progresses. For now, all one can look to is the tiny Auckland FX market. Any headlines from there will signify nothing as Monday unfolds.
The reality is that the price of playing poker has just gone up considerably. Greece is counting on the referendum ploy to both win a little time and shock the negotiators into compromise. Their banks can’t open tomorrow. They have added their banking sector to the pot. The ECB has frozen ELA financing. Merkel, Hollande, and presumably most others will hold emergency cabinet meetings Monday.
The IMF has perhaps provided the most interesting tell when Managing Director Lagarde said that negotiations could be revived if Greek voters show they want to stay in the euro area
“If there was a resounding ‘yes, we want to stay in the euro for good, we want to be part of that, we want to restore the status of the economy, we want to be sustainable in the long run,’’ there would be a resounding ’let us try’”
That is why some resolution still remains the base case; but that will provide little solace to those who have to trade in a few hours.
So where does that leave us? CFTC data, a very imperfect gauge, tells us that if anything, speculative positions (long USD, short bonds) have been pared back. My working assumption, based on market movement, is that this crept back up over the course of last week, and those new positions, at the worst prices, will be most vulnerable.
Bund and UST futures closed Friday on the week’s low. Will people feel good about being short bunds that dropped almost 2 points from last Monday’s high? Unlikely. But bund futures open 8 hours after electronic trading in the U.S. 10Y future. My guess is the 10Y can get to last Monday’s high (1 1/2 big figures from here) before you take a stab at fading. I’d rather sell a new low. But I still don’t like bonds, and if they get silly toward the June 19 high, the charts say, yoo-hoo Fed watchers.
When FX markets open in Auckland, for all practical purposes only EUR, JPY, AUD and NZD will trade against the USD. Again positions will trump logic. That means JPY should do well; watch multiple June post-Kuroda USD/JPY lows circa 122.50
Carry trades being covered aside, the argument for a sustained higher EUR/USD is tenuous at best. “Whatever it takes” does not include tightening and the interest differential between bunds and USTs is not going to narrow
The top side has loads of resistance, 1.1250 to start; through 1.1050 and the technicians will be crying out for a retest of the May 27, 1.0850 low
E-Minis will also need to bear the brunt of any hedging needs from a European equity market that saw Euro Stoxx 50 futures rise over 100 points last week. It may well require seeing how Chinese stocks open, oh so many hours from now, to judge where this asset class is going. But I assume we are in for a period of relative underperformance of European stocks so I wouldn’t get too carried away selling U.S. equities. On the wide, technically, E-Minis look well supported just above 2070. The Hang Seng CEI opens at 9:15pm ET. After this weekend’s PBOC rate move, the gap from April 2 should hold as a good indicator of the next period in Chinese equities.
Markets haven’t opened yet. Just some thoughts before they do. This is why traders get paid the big bucks.
* * *
Yes, “big bucks”, no pun intended, until the light shines on them and there is no plunge protection team to bail them out.
And, incidentally, those certain that the ECB will preserve control, such as Goldman and now JPM, may want to refresh what happened on Black Wednesday 1992, when the Bank of England’s defense of the Pound failed in just about 45 minutes.
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