Reader Saboor pointed to a BBC report on grim words from IMF chief Dominique Strauss-Kahn about the state of the global financial system; reader Dwight later sent a link to a bit more detailed Reuters report.
First from the BBC, “IMF in global ‘meltdown’ warning“:
The world financial system is teetering on the “brink of systemic meltdown”, the head of the International Monetary Fund (IMF) has warned in Washington.
Dominique Strauss-Kahn said rich nations had so far failed to restore confidence, but he endorsed a new action plan by the G7 group.
He also said the IMF was ready to lend to countries in dire need of capital.
Mr Strauss-Kahn spoke after talks with US President George W Bush, G7 finance ministers and the World Bank.
On Friday in the US capital, the G7 group of most industralised nations released a five-point plan to free up the flow of credit, back efforts by banks to raise money and revive the mortgage market.Speaking in Washington on Saturday, Mr Strauss-Kahn said: “Intensifying solvency concerns about a number of the largest US-based and European financial institutions have pushed the global financial system to the brink of systemic meltdown.”
BBC made it sound as if he later retreated from his assessment:
He later told a news conference: “The first co-ordination between advanced countries and the rest of the world is now on track.”
Further comments from Reuters:
The IMF warned on Saturday that the global financial system was on the brink of meltdown, while France and Germany pushed ahead with a pan-European crisis response to try to prevent the worst global downturn in decades.
At a joint news conference, French President Nicolas Sarkozy and German Chancellor Angela Merkel said they had “prepared a certain number of decisions” to present at a Sunday meeting of European leaders as they work feverishly to restore blocked credit markets to working order.
The United States appealed for patience, but the International Monetary Fund stressed that time was running short after leading industrialized nations failed to agree on concrete measures to end the crisis at a meeting on Friday.
57 comments
Comments are closed.
I never thought I’d be reduced to rooting for the IMF over the US, but… go team. Interesting times, interesting times.
Agreed – Go IMF
But, it looks like we need to take some additional measures like:
1. Guarantee LIBOR (interbank) lending worldwide. The LIBOR market remains frozen. This needs to be a coordinated effort. If we wait, the problems will continue to grow. Businesses have to have the ability to trade across borders using letters of credit.
2. All bank deposits in the US must be guaranteed.
3. Mark-to-market rules must be relaxed.
If we add these tools the credit markets should start to improve rapidly.
“3. Mark-to-market rules must be relaxed.”
Eliminating mark to market will make things worse. We need more disclosure, not less. The problem is that people thing the banks have assets worth zero or negative being carried at inflated values. Hiding asset values by suspending mark to market, and gaming mark to market by government purchases at inflated prices make people trust the market less, and be less willing to invest in banks or trade with them.
I use IMF as my contrarian indicator. They practically DEFINE what it means to be WRONG.
As I wrote at bsetser’s:
There’s only one policy action I can think of that could be planned, decided and announced before Monday: reducing the haircut on the Lehman CDS underwriters.
(For those who don’t know: on Friday, Lehman’s assets sold for *under nine cents* on the dollar. Lehman was not just insolvent. It was insolvent by an order of magnitude. Vaporized, basically. According to its old risk models this was surely an event of infinite improbability, rather as if spontaneous quantum tunneling turned the Queen of England into a Bolivian anteater.)
The result is that a few hundred billion dollars of financial assets will need to be liquidated. Promptly. Moreover, the withdrawal is one-way: the people who receive those dollars will almost certainly keep them in cash or Treasuries. Are MS and GS next? Who can know? Who wants to lend to an anteater?
Treasury should step in, cancel the auction, and buy the whole Lehman portfolio. For at least fifty cents on the dollar. Probably more like eighty. Maybe even a hundred. Do this now, or at least before the market opens Monday.
It’s one thing to say you’re not going to allow any more bank failures. Reversing the results of the last one would send a somewhat stronger message. It’s a kind of helicopter strike the rebels have not yet seen, and it should give the Empire at least a day or two to refuel, repair and rearm the rotary-wing attack squadrons.
Yes, do keep screaming fire in the movie theatre. With some luck you may get your stampede as you stand at the ready with ambulances outside. Not unlike a pyromaniac that works for the fire department.
Just remember folks, while you may be standing on a breadline–crashes don’t cause depressions, plans do!
As an aside what a pathetic bunch of losers. It’s embarrassing.
“Treasury should step in, cancel the auction, and buy the whole Lehman portfolio. For at least fifty cents on the dollar. Probably more like eighty. Maybe even a hundred. Do this now, or at least before the market opens Monday.”
Buying up providing a liquidity put to holders of any bond with a dangerous level of CDSes will prevent payouts to protection buyers. However, it will nuke the leveraged hedge funds that bought up the protection, and nuke the lenders that loaned to the hedge funds.
There is no free lunch. Someone eats losses, stakeholders in people that bought CDS protection, shareholders in financial inst, bondholders of financial inst, taxpayers, etc.
Patrick,
The authorities are well aware of the dangers of creating panic, above all the IMF which has plenty of experience in mopping up after financial collapses.
Trying to shoot the messenger does not change the underlying reality. Your attack is ad hominem, you provide not a single shred of evidence to counter the information presented on this blog, both in the posts and in comments. The professional investors who correspond with me privately have been worried about the potential for disaster for months. If you want to labor under the delusion that yelling a a tsunami will stop its course, be my guest.
It may be possible to avert disaster, but the longer it goes on, the thinner the odds become.
Mencius,
We are well past the point where the action you recommend could be taken, independent of whether it might work. The settlement process is underway and is independent of the actual payout in bankruptcy, which will not be determined for quite some time, so buying the bonds would have no effect.
In Delphi, the last big settlement where there was a bankruptcy, the settlement price was well above what the likely bankruptcy payout appeared to be (ie, the bondholders who bought CDS as hedges appeared to come out losers).
Treasury has no legal standing to cancel the auction. The participants are under disparate regulatory regimes, some like hedge funds unregulated, so they cannot be stopped through regulatory channels. CDS contracts are governed by state laws. and the Federal government has no legal standing to void those agreements, Any effort to do so would raise Constitutional issues and be contested, creating chaos not just with the Lehman settlement but for the uncertainty about what it would mean for the CDS market overall and where else the Feds might try to shred private contracts.
I came across this somewhat related nakedcapitalism story regarding unregulated rating agencies — who actively helped engineer and model this unregulated Trillion dollar global systemic crisis — and IMF should be obviously aware of rating agency collusion and corruption, because IMF, like FASB, like G7, SIFMA, SEC are all in the same lobby pools that have made hay while the sun was shining!
FYI:
http://www.nakedcapitalism.com/2…ius- pilate.html
SEC Takes Chapter From Pontius Pilate on Rating Agency Regulation
Rosner: Next is the issue of liability. Where a rating agency knowingly rates a security which they helped to structure and were aware of — or should have been aware — of potential fraud in the collateral pool, then they should lose their current regulatory liability exemptions.
The IRA: Haven’t the courts in the Southern District of New York already done that?
Rosner: No, they have only ruled on the claim of journalistic privilege in the context of discovery. The courts have ruled that the ratings agencies cannot hide behind a claim of journalistic privilege for advisory activities. In the American Savings Banks v. UBS litigation, the Court in May of 2003 ruled that the rating agency personnel were not acting as journalists but instead were acting as advisors and therefore could not assert their journalistic privilege. The exemption from liability has not yet been defeated but it really hasn’t yet been tested in the wake of the structured securities scandals.
“buying the bonds would have no effect.”
Yes, conceptually, buying the debt is irrelevant, the government would have to guarantee it or otherwise ensure full payment to bondholders.
“CDS contracts are governed by state laws. and the Federal government has no legal standing to void those agreements, Any effort to do so would raise Constitutional issues and be contested”
The federal government has strong authority to bust up contracts. The supreme court, under liberal justices over time, has given the feds power under the commerce clause to regulate almost any conduct on the theory that the conduct indirectly affects interstate commerce.
State governments couldn’t void pre-existing CDSs with new laws because the constitution would prevent that under the contracts clause. However, the contract clause only applies to state governments, not the federal government.
Also, the takings clause in the constitution doesn’t prevent the Feds from voiding CDSs. Conservatives kept fighting for contracts to be treated as property, so if the feds modified them or voided them, that would be viewed as a taking for which the feds would owe compensation. However, the liberal justices on the Supreme Court put the kibosh on that.
The constitutional issues are just a distration. There is authority to deal with the issues; there isn’t yet political will to decite whose oxen will be slaughtered to feed the village.
Mencius – I saw your comment there as well as the earlier one recommending the feds assume *all* bank liabilities to be followed by a rethink of central banking.
No cigar. Not even close.
*All* liabilities includes the many trillions of derivatives. Only *some* of those offset and that market is so opaque that there is no way to know. So, such a move not only *may* be inflationary in the long run without a rethink of central banking (aka “pie in the sky”) it likely *will* be hyperinflationary, unleashing a whole new and even bigger crisis.
If radical measures have to be taken, how about instituting a special bankruptcy process to quarantine all of those toxic derivatives. Then how about earnest attempts at clawbacks from the many crooks that profited. Etc and so forth.
As far as that “rethink of central banking”, there is no basis to believe that they will pay us tuesday for a burger today.
I don’t know how many crises it will take until voters finally dump the current awful system ( was it about 150 years ago that Lord Acton declared the inevitability of such a battle?) but in the mean time, let’s not make things worse than they otherwise have to be by transferring even more (*much* more) of the world’s truly productive assets to insatiable crooks.
A small point regarding LEH CDS: Friday was the pricing, but the actual cash settlement won’t occur until 10/21. We’ll probably see more forced liquidation of HF collateral before then, with the possibility of unpleasant announcements by prime brokers as early as Tuesday. A lot depends on what the PBs have been taking for collateral, what margin ratios they’ve allowed, and how much of the collateral is puttable to the Fed.
In the 2003 IMF annual there was a very nice piece on the effect of real estate crashes versus equity crashes on the business cycle.
I took its publication (in 2003) as being somewhat of a warning shot across the bow: an ignored one.
2003 seems from my fuzzy memory to be the year that people first warned that the housing bubble was going to pop. Of course it took two more years, but I don’t think you could argue that the IMF was clueless in all ways prior to the current predicament.
12:06, The Supreme Court and much of the Federal bench is conservative. I would expect any move like this to be challenged and I would not be as confident as you are re outcomes. And the cost of the cure, the uncertainty while the fight was on, would probably be at least as bad as the disease.
Since CDS are a global product, I would anticipate agreements were also written on Lehman outside the US, but may have been purchased by US users, particularly banks to hedge CDS they had written. The Federal government cannot intervene in those cases. To have some swaps voided and others not, even if this could take place, might in fact undermine organization that might otherwise come out close to flat by virtue of buying protection on Lehman to hedge contracts written.
As someone said earlier, no free lunches here.
Yves, of course everything you say is right. But I assume you’re an admirer of FDR. Think of it this way: what would FDR do? How much respect for legal process did his people have during the Hundred Days? Or imagine that W resigned now in favor of Obama, a course I’d find quite statesmanlike.
Anon, there are two kinds of derivatives: those held by banks, and those held by non-banks. Nationalize all the banks – and all the bank-like things – and the first class net out by definition.
What are you left with? Genuine hedges, basically, like currency derivatives for internal hedging by big multinationals. If those hedges are valued at a gazillion dollars, some corporation is worth a gazillion dollars. You’d think its stock price would be going up.
I think governments are starting to realize that main street is on the cusp too. At a weekend gathering of west coast business execs I heard a lot of candid discussions of problems being experienced by different sectors. Most was 2nd and 3rd hand information, which in its own right is newsworthy. These are not folks used to working with rumors, but hungry for data points.
The industrial/manufacturing sectors seemed to be spiraling into disarray the fastest. Orders for big ticket goods have stopped for weeks, and production is down (one estimate I heard was down 25%). The manufacturing sector is bracing itself for supply chain disruptions, and expecting more spot shortages.
Venture capital has stopped, funds are hoarding cash to support their most promising companies, but are not funding new ones.
High tech hiring is getting much easier, as many high tech companies have informally slowed activity. attrition has fallen significantly.
I am also hearing that banks are putting out word that they will consider below market short sale offers on bank own properties.
Level headed people who thought a crisis unlikely month ago, are now talking what a 21st century depression looks like.
The common theme of the discussions were that deleveraging has started, and fixing the banking system was no longer enough.
And yes, all the other process-based objections are valid. I’m sure there are no free lunches here.
That’s what was so great about Secretary Paulson’s request for emergency plenipotentiary powers. The credit crisis is an almost impossible problem to solve within the bounds of the present political and legal framework. With emergency powers, it’s not hard at all. But Washington isn’t exactly set up to grant emergency powers.
“The constitutional issues are just a distraction. There is authority to deal with the issues; there isn’t yet political will to decide whose oxen will be slaughtered to feed the village.”
Exactly. This is perhaps the most perspicacious paragraph on the crisis I’ve seen yet.
Mencius,
You make assumptions about my views with no basis for doing so. I suggest you refrain from that, since I do not take well to having positions incorrectly attributed to me. Frankly, it is presumptuous and insulting.
I am VERY serious about the rule of law. I do not believe in and do not support the notion of riding roughshod over laws and regulations. Similarly, I believe in checks and balances. The whittling away of them is a very big factor in our current mess. I wrote particularly vociferously against the Treasury secretary being put outside any legal review by the bailout bill, for instance.
I refer you to the Robert Bolt’s A Man for All Seasons:
More: Yes. What would you do? Cut a great road through the law to get at the Devil?
Roper: I`d cut down every law in England to do that.
More: Oh! (advances on Roper) And when the last law was down, and the Devil turned round on you –where would you hide, Roper, the laws all being flat? (He leaves him) This country’s planted thick with laws –man’s laws, not God’s –and if you cut them down –and you’re just the man to do it –d`you really think you could stand upright in the winds that would blow then? (Quietly) Yes, I`d give the Devil benefit of law, for my own safety`s sake.
Yves, you should not let people who come here to fight or fruitlessly attempt to prove their superiority, like Patrick and Mencius, get to you. Most of your readers can see through them. Patrick in particular is out of line. Even Bloomberg has “Europe’s Leaders, Threatened With `Disaster,’ Set New Strategy” as its top story.
And I thought I was the only one still awake.
Keep up the good work Yves.
I just have to wonder at the stubborness of the authorities. The officers at the banks are on strike, and the strike needs to be broken at once and in the flesh. If this was, oh, say a railroad workers’ strike the troops would have gone in within hours.
Nationalization, the Paul De Grouwe variant, or just a state agent standing by each bank officers’ desk, tapping his or her toe as the hourly memos are changed from “do not lend to X” to “lend to X”. Simple enough as an emergency measure.
But these are not convenient ideas, they are not even polite inasmuch as bank offices would need to be entered and any resistance overcome quickly. Something like a large drug bust or medium immigration raid in terms of scale.
So the world tilts and perhaps one day soon will fall. Contraction of money supply and demand is all too easy if conditions are right. Each institutional failure today being the equivalent of several hundred in 1930, it only takes a few each quarter.
Yves,
You make assumptions about my views with no basis for doing so. I suggest you refrain from that, since I do not take well to having positions incorrectly attributed to me. Frankly, it is presumptuous and insulting.
I apologize. As a regular reader, however, I should say that I find your disapproval of FDR surprising. I assumed you approved not because the implication strikes me as insulting, but because it strikes me as obvious. I also assume you approve of labor unions, child-labor laws and the eight-hour day.
At present it is obviously not a priority, but if you have critical views on the First New Deal and in particular its handling of the crisis, it would certainly interest me to hear them.
I admire the Robert Bolt quote, and I agree with the sentiment: law is civilization. The history of civilizations, however, presents many examples of transitions between legal regimes. We no longer live in the Roman Republic.
Law, like anything else, exists to serve a purpose, and when it is counterproductive it must be replaced. And if I may be frank, it is surprising to find a believer in the Progressive Era tradition of American government – the tradition which gave us the Legal Realism movement, for example – sounding so much like Justice McReynolds.
One of the reasons I want Obama to be President, now, is that his accession will remove any conceivable incentive for progressives to take a worse-is-better line on this crisis. I know that you personally do not have this attitude, because I’ve seen you reprimand people for taking it, but others do.
One can be liberal or conservative without subscribing to “the ends justify the means” approaches.
Mencius – what basis do you have for your conclusions about the various and sundry derivatives? One of the few undisputed statements I observed are about the opacity of that market.
It appears to me from all of the reporting, that quite a few financial institutions wrote contracts with seeming certainty that they would never have to pay out. The buyers assumed that those institutions were too big to fail (perhaps some hedge funds too following the LTCM semi-private bailout) so they were similarly unconcerned.
With such gross sloppiness, likely induced by the belief in bailouts, I think assumptions about derivatives are dubious. With so much at stake it’s best to exercise caution.
While we don’t know, I wouldn’t be surprised if the capital injections currently under consideration will be eaten up in no time. An ounce of prevention…
Indirectly related, I simply don’t see how the crew that screwed up so badly (both in and out of government) can fix anything. The less authority they have until they are replaced, the better.
As scary as a complete meltdown of the financial system is, the planet will not suddenly explode. With full mobilization and competent leadership new institutions can quickly be set up on a sound basis and we can proceed to pick up the pieces. Giving the current crew more and more money and power will only make things worse, IMHO.
Yves, I agree. I should have been clearer in pointing out that I don’t think USG should be taking any single harebrained deviation from legality. Any such deviation needs to be part of an overall plan that ends up with stronger, simpler, better laws than the ones we have now.
Anon, the derivatives market is just as opaque to me as to anyone else, if not more so. Fortunately, the conclusion that a derivative is either held by a bank or a non-bank is purely a-priori :-)
I agree with everything else you say. In particular, I agree on the inadequacy of the recapitalization efforts now being discussed. How much capital do you need to put into a bank to make it solvent, if its assets fetch 9c on the dollar?
The problem is that we’re currently scheduled to get new leadership on January 20, a long way away. I’d love to think that W would resign and McCain (as I have suggested on my own blog) suspend his campaign, but I doubt it’ll happen.
Stop it — all of you, go to bed and shut the lights out!
doc, I wonder if you were talking to yourself there. Heh.
Good night!
I’m a little late to the game here, but I’m always a bit rankled by the indiscriminate use of the phrase “liberal justices” without any attempt to justify its use. Many justices, appointed to bench under presidents of disparate viewpoints, have all seen fit to determine that the Constitutional authority to regulate “interstate commerce” is quite broad. Yes, the real tipping point in the interstate commerce debate came after FDR’s court packing debacle, but enough with the broad (and frankly, almost totally useless) generalizations about liberal and conservatives justices. As an aside, I am not opposed to states’ rights in many areas, but the clear progression from local economies to state economies to a federal economy and now to a global economy (mostly based on the huge efficiency gains in transportation and communication over the last 220+ year) would seem to be quite enough reason to finally let rest the debate over federal powers to regulate interstate commerce.
NZ has just guaranteed all bank deposits, even foreign currency, to any amount.
You can all come down here and join Julian Robertson :-)
Anon @2:50 – I don’t think the issue is federal powers to regulate interstate commerce. Rather, use of the commerce clause to give the feds virtually unlimited authority to grossly interfere in any and all *intra* state commerce with the flimsiest of excuses is what many find problematic.
Something to think about; Is the IMF, intentionally or not, putting the US in a corner? Is this a good idea? Can forcing the US govt’s hand to do what it clearly does not want to do, be a problem? Just a thought.
anon, I hate to encourage digression – but do you really think no general pattern of right-left power transition is visible in 20th-century US jurisprudence?
There are other sorts of broad generalizations, such as “the Allies won WWII,” which on examination turn out to be perfectly sound. And the mind rather boggles to imagine McReynolds on the same court as, say, Ruth Bader Ginsburg.
As far as I can tell, international commerce was considerably healthier in the 1850s than in the 1950s, let alone now. At least if you believe that a good proxy for the health of industry is the number of independent firms in the trade.
Your explanation of the need for more and more centralized – or, as a 19th-century American would have said, “consolidated” – is a spurious association, I think, of a malignant trend with a benign one.
If anything, you’d think advances in coms and transports would increase the flexibility of governments to apply what’s called “subsidiarity” – the principle that the best government to act on a problem is almost always the most local government. Note that if you present this principle to young progressives these days, 95% of them will endorse it instantly.
Yet the converse, the better-newer-bigger theory, your theory, is the one on which their Progressive Era namesake rose to power. See, eg, Herbert Croly. What are we to make of it all?
JS Wishing on a STAR !!!!!
Paul Volker says the best plan as
far as his economist friends are concerned is to recapitalize banks by GOV buying PREFFERED SHARES in
banks to jumpstart lending per-se .
The GOV also needs to re- announce that all deposits are insured .
I repeat if market does not rebound show confidence by 12:00pm
eastern time Tue OCT 14 2008
The system will be forced to issue an ultimatum stateing that regardless who the next President will take office in Jan. 2009 that incomes and assets on Wallstreet recognized as received from 2002-2008 will have Govt authority to be confiscated if renumerated from
mortage securities,cdo’s siv’s and like leverageing .To the tune of
of 75%.A sham is a sham=fake castles in the sky
The confidence in markets then will be restored only by execut
ive order by President
Bush —Paulson will be pardoned as he should be —
otherwise GRAND TSUNAMAI MELTDOWN would hit THURSDAY OCT.16,2008
So Mencius, look your selective use of historical instances and sweeping (but inaccurate) generalizations do no credit to the occasional substantive points you advance. International trade in 1850 . . . hmmm. Well as _I_ recall looking at the 19th century, what really stands out are the number and depth of financial panics and crashes in the nominally developed economies. The US had repeated crashes. The invention of central banks as formal institutions was designed to reduce the frequency of such crashes and their depth when they occurred. My reading of the historical contexts suggests that the CBs were relatively effective at this _when and where they had tight, ‘best practices,’ regulatory regimes. The present failures of CBs in the last generation have as much to do with the systematic gaming of CB regulation in favor of big money than with the fact of CB interventions per se: The _way_ in which CBs intervene in the economy varies with time, and the results vary also. Sweeping generalizations of CBs as ipso facto ‘bad’ are not credible, and suggest a desire to subtract facts inconvenient to ideology.
Personally, I’m more an anarchist then anything, but I’m supportive of the idea of central banking regulation in principle: If you have banks, they have to be operated so as to minimize systemic risks. Period. I think the banking system should have different components than it does, and that debt as a way of life is inconsistent with healthy minds and societies. But others will have their say on this.
I flatly disagree with your assertions that 95% of young progressives supporting local [fill in the blank]. I’m not even going to go into detail on this, but bogus, unsubstantiated statements of this kind ruin what points you might choose to make by showing that you really don’t _care_ about the substance of your point, you just want to win. Now I, personally, have been known to throw out a bit of heated rhetoric in comments; we all go there. When it comes to the arguments themselves, though, one has to square up and reason fairly. A better understanding has to matter more then whose understanding that is: I don’t see that perspective much in evidence in your remarks.
<< The federal government has strong authority to bust up contracts. The supreme court, under liberal justices over time, has given the feds power under the commerce clause to regulate almost any conduct on the theory that the conduct indirectly affects interstate commerce. >>
This is correct and seminal. I suppose it doesn't matter any more, because the USG will seize powers without much deliberation, and the Bush Administration has a long track record of trashing the constitution to justify torture.
Putting Federal agents in a bank, to make sure loans are approved, if that incredible scenario played out in reality, would signal Get Of Town loud and clear.
Smart cookies should have a piggy bank with specie, portraits of Ben Franklin, and a valid passport.
“I just read about the revolving-credit loan-covenant issue. Christ. This whole thing makes Chernobyl look like a masterpiece. Everyone will insist on payment up front in Krugerrands for the next 30,000 years.” (moldbug comment, lifted from Setser’s blog)
This is one of the few articles I have come across where they say that this time it is different and that following the same prescription used in the 1930’s is the wrong approach:
===========================
Businessweek
News October 8, 2008
Financial Crisis: How to Stop the Panic
It is possible to calm the waters, but it’ll mean unlearning our post-Depression lessons
by Peter Coy and Stanley Reed
The world’s governments are shocked and dismayed by their inability to stop the increasingly grave financial crisis. Nothing they have attempted has gotten lending flowing normally. Profitable companies are cut off from borrowing. Confidence is shot. Through Oct. 7 the U.S. stock market had its worst five-day performance since 1932 on fears of a severe economic downturn. Says Stephen Jen, currency economist at Morgan Stanley (MS) in London: “The choices for the real economy are between a recession and a depression.”
Can anything be done to halt this panic? As a matter of fact, yes. It won’t be quick or easy. But the prerequisite for a new approach is unlearning doctrines that were developed in the aftermath of the Great Depression, the last time financial conditions were worse than this. The world has changed in the intervening seven decades, and what worked to quell the financial crisis then may not work now—as anyone trying to borrow money can see.
Full article
============================
Maybe the government made a mistake in letting Lehman “twist in the wind”? Sounds like one big morass based on this article:
=========================
Lehman: One Big Derivatives Mess
Enron may look tame compared with this: a fight over billions of dollars posted as collateral, then used in a tangled web of deals
Article
========================
Richard,
Well as _I_ recall looking at the 19th century, what really stands out are the number and depth of financial panics and crashes in the nominally developed economies. The US had repeated crashes. The invention of central banks as formal institutions was designed to reduce the frequency of such crashes and their depth when they occurred.
In the 19th century, the US was a backwater and a Third World country. Its banking system went through a number of phases, all of which were ugly and none of which are really worth talking about. The financial center of the world was, of course, England, which has had central banking on basically the Bagehotian model since 1694.
I flatly disagree with your assertions that 95% of young progressives supporting local [fill in the blank].
What zip code are you in? I’m in 94114. Perhaps our regional subspecies of progressive vary. I admit that I have performed no such formal survey, however, and I’ll fall back on the obvious contextual meaning of “almost all.”
Suffice it to say that at my sampling location, trap counters show a very high rate of Slow Food and a very low rate of World Government. Perhaps it’s a bait discrimination issue, though.
As John Kenneth Galbraith pointed out ‘Finance does not easily lend itself to innovation’.
When one stops to think about what is going on now, it is obvious that ‘financial innovation’ is at a frenzied peak in an effort to avert a crash of the world economy, but there is absolutely no guarantee that any innovation in an attempt to avert a crash will work.
Some steps toward prevention a few years ago would have probably averted the worst of what we are facing today.
I remain unconvinced that any actions that may be taken now will be more beneficial than that prescribed by Mellon during the great depression…Let them all fail and a good cleansing of the economy will take place. Although this course might be more painfull for some, the pain would probably last a shorter time.
Of course, since allowing collapse without attempts at rescue would be politically unsavory, we will be travelling the ‘innovation’ road.
“Anon @2:50 – I don’t think the issue is federal powers to regulate interstate commerce. Rather, use of the commerce clause to give the feds virtually unlimited authority to grossly interfere in any and all *intra* state commerce with the flimsiest of excuses is what many find problematic.”
No, the Supreme Court and lower courts have decided that the commerce clause of the US constition allows Congress to pass laws regulating INTRAstate commerce (eg, intrastate sales of wheat) because they indirectly impact INTERstate commerce.
We can have a debate on constitutional law, and I can start breaking out citations to cases. However, I think most people will get bored or annoyed by that.
I think the ONLY point on which the Supreme Court might feel comfortable changing the law to prevent Congress from passing laws voiding or modifying pre-existing CDSs would be under the takings clause of the US Constitution. If the Supreme Court decided that contracts were protected “property”, and that regulations passed voiding or modifying them was a “taking” by the USG, then the Feds would have to compensate CDS holders.
However, given that we are talking about old and cold Supreme Court precedent, I consider there to be less than a 5% probability that an appellate court would prevent Congress from passing laws voiding or modifying pre-existing CDSs.
Furthermore, if CDSs were void under law regarding gambling contracts, insurance by unauthorized insurers, or some other law that pre-dated the CDSs, then states would have authority to void CDSs. Regulators in NY and in London previously decided that CDSs were not insurance contracts. And those regulatory decisions generally prevent the regulators from making retroactive changes in the law. However, other states aren’t bound by that.
Furthermore, as to the cross-border consequences of the US voiding CDSs, if the US persons are physically inside the US and all their assets are inside the US, then no foreign person would have the power to force enforcement inside the US. The only legal constraint on this would be if the US had a treaty in force with another country preventing this. I haven’t heard of any such treaty doing that. Finally, even if there is such a treaty, generally the USG has authority to void treaties if they are abused. The big daddy of conservativism, Ronald Reagan, had his administration tear up the US treaty with Netherlands Antilles when it was being abused. So there is precedent for that. But I doubt it is necessary.
As I said before, Congress has Constitutional authority to resolve all the issues involved in the crisis, it just hasn’t had the political will to decide whose oxen get gored to feed the village. But if the village gets hungry enough, Congress will be pressured into deciding how people share the losses, be it directly through default, or indirectly through taxes or inflation.
“The issue is a closed one. It was fought out long ago. When money is spent to promote the general welfare, the concept of welfare or the opposite is shaped by Congress.” Helvering v Davis, 301 U.S. 619
Any questions?
Yves said, “One can be liberal or conservative without subscribing to ‘the ends justify the means’ approaches.”
Please don’t take offense, but I have a hard time understanding how someone can take this position. Consequences DO matter. Principles are fine and dandy, but if adhering to them means the end of our existence, what’s the point? After all, the fringe libertarian position is that property and contracts must trump all other considerations, come what may and let the heavens fall. That’s just another way of saying that the ends never justify the means, which IMO is an untenable position. The rule of law is certainly an important institution, and has served us well, but like any other human institution it is imperfect and subject to manipulation. If one were to take it to its logical conclusion, one could not, for example, justify civil disobedience with regard to the racist laws of the past.
Again, no offense or disrespect intended. I just can’t resist whipping out a reductio whenever someone takes an absolutist stance.
Thanks Steve,
For the heads up on the Oct 21 LEH CDS settlement date. That is probably no small point to consider. As a matter of course, they have been collecting premiums on contracts which they are not sufficiently capitalized to honor. While I am sure PB would accept swine and cattle as collateral from HF’s, they will not have enough swine to bring to the table.
You are right, then to point out we will see further forced liquidation s of hedge funds this week ~ beyond the forced liquidations of hedge funds who, one reader here related, had received margin calls from banks on Oct3. According to the reader, those margin calls are due on Monday Oct 13. There was unusually heavy selling in treasuries on Wed-Friday related to the global rate cuts. These margin calls could have contributed to some of that selling pressure.
These types of hedge funds that sold cds’ insofar as they have any collateral, probably keep some of it in the treasury markets. This could have further short term bearish implications for treasuries beyond the Oct 13 margin call date.
Normally, when stock markets crash or are correcting, excepting 1987, treasuries go bid. So, the unwind on Wednesday was noteworthy for it being a tad premature.
The very nice thing about the LEH CDS settlement is that it will hopefully serves an important and legitimate function towards the necessary cleansing process in the shadow-banking system. Anything that can contribute towards the cleansing process of this total financial quagmire is a good thing.
Consider if you will the alternative. Imagine the toxic qualities of the unregulated shadow-banking system as having sticky gum-like attributes. And let’s say, this financial tsunami that is washing over our financial markets wipes out everything but those toxic qualities possessing those sticky gum like attributes.
Anything that contributes to saving the toxic attributes is an undesirable good (evil). Much in the way that throwing all the troubled assets under the TARP is an undesirable evil.
Yves,
"Trying to shoot the messenger does not change the underlying reality. Your attack is ad hominem, you provide not a single shred of evidence to counter the information presented on this blog, both in the posts and in comments. The professional investors who correspond with me privately have been worried about the potential for disaster for months. If you want to labor under the delusion that yelling a a tsunami will stop its course, be my guest." Yves Smith
Shoot the messengers? Perhaps a viewer might see it that way. But that's not my intent. I have said and will continue say they know not a thing. I said it from the first day of the "Plan". Proof will be a new plan everyday until at long last some wild ass guess will coincide with the market bottoming on its own and like the rooster they will convince themselves that they brought the sun up. What has been clear from the very beginning of this necessary contraction is that they are not messengers. They are screamers in a movie theatre because someone lit a match–admittedly a very large match. Its blackmail–either do it or this will happen. Paulson on day one. Hobgoblins everywhere.
My intent has never been to counter any information on this blog. Clearly this is one of the best out there. My ad hominen attacks, as you characterize them, are directed at only the authorities. They are to be scorned and mocked in the public square as far as I'm concerned and they will be. You on the other hand are to be admired, trying to make sense out of the senseless providing immense info on a day to day basis, I can't say enough. However what I find sad is no one is even discussing the possible virtues of doing nothing. I know the voices are out there. Sadly no one trusts the marketplace in crisis when at this very moment it needs to be trusted the most.
As to your professional investors I have made these similar warnings for several years. I have posted charts and bubble analysis on other sites. I have shouted from the rooftops the massive housing bubble we are still in. But that said I have also said to the very few that would listen that there is absolutely no plan that can prevent the outcome that is coming. That is why I mock the authorities and will continue to as they ignore the lessons of history. All plans just make it worse by retarding the remedy, whatever it ultimately proves to be. The fact that these cretins of commerce then continue to scream fire in a theatre is despicable. Let it never be forgotten that they got us into this mess and now they propose to get us out of it.
On a positive note, despite their continued panic shrieking, I still think this is 1974 with a touch of 1907 thrown in. We shall find out very soon. Price and time equaling psychology, pattern recognition blah,blah, we have been here before.
http://www.paradigmbook.com/assets/DowHistory1970to1974.jpg
http://www.djindexes.com/mdsidx/index.cfm?event=showavgDecades&decade=1970
I leave you with Jimmy Rogers recent advice–"These folks should just go the corner bar and leave the market alone." The sad truth is everybody likes the free market until it extracts its pound of flesh for the prior excess.
In closing, I have to say it again, that I never have nor would I direct any of my outrage against you or your esteemed blog. That said however, my thirty years as a broker/trader through thick and thin from the 70's on give me some bona fides to rage against the incompetence I see around me. There's academia and then there's the Market.
Im stunned. Its clear that our political leaders need to guarantee the solvency of systemically important institutes. But I dont hear about any efforts to reduce our systemically dependency. Every important institute getting fresh equity by state or unloading their toxic assets to the taxpayer, should be break apart. The biggest lbo the world has seen so far should provide us with a far lower systemic risk.
So Mencius,
Your statements regarding the US in the 19th century are uninformed. US external trade was less than the largest European countries, and the government was deliberately starved of fiscal power and influence. In consequence, the geopolitical imprint of the US was small. The US economy, by contrast was comparable to any in Europe by the 1850s. By the 1870s, it was larger, and easily so in iron, oil, and mechanical innovation, and the saturation of those components in the larger economy. By 1900, the US was appreciably the largest, best integrated, most liquid, and most rapidly expanding economy in the world; you have to look at production as well as trade. Moreover, the US was a major destination for European investment capital which disconfirms your ‘backwater’ assertion: Where do you think the venture money came from for all that expansion? The backbone of the money that built the US rail systems was from Europe. The severe global recession of the 1870s, in both Europe and the US, started in Austria, but turned into a crash when Europeans tried to cash out American rail shares but couldn’t because the companies were Enron-like. A direct comparable to that experience is the 1997 crash in East Asia. No global recession followed; why? Central bank intervention (for better and worse).
I chose to comment on this issue specifically because you have a perspective, expressed in this comment thread, on actions which public banking authorities should and should not take at present. You chose not to take that up, but to redefine the issue, and inaccurately so. That tells me most of what I need to know.
Regarding progressives and their inclinations, if you were as shrewd as you take yourself to be, you really wouldn’t have gone on with this one. One of the two had to be a deadfall, right? But since you asked, let’s take inventory.
It’s hard to get up-liberal of Twin Peaks-Noe Valley unless one is in the Inner Mission or Berkeley Hills. I live in 98121 and work in 98112, for a start. I grew up a Quaker, and the folks a few years older went to prison resisting the draft. I was involved for years with a treatment and advocacy organization for the mentally ill where my foster father worked; we were beyond radical, and very good. I’m a graduate of The Evergreen State College; I think you will have difficulty finding a more ‘progressive’ venue. I worked for going on three years as a political canvasser for an activist organization, which I may say was the best job I ever had though the hardest. I canvassed your neighborhood, amongst many others. I read multiple progressive websites and a few blogs on a daily basis; I find them tiresome, but it’s one way to keep ones ear to the ground. I’ve voted Green since you could, and will again this year since the other two are Republicrats. What was I doing during the Battle in Seattle?: going to work, I didn’t feel like being tear-gassed, and I’m for the amount of economic globalization it takes to get labor unionization going in emerging economies. Starting to get a little traction there now, and a major, major development right now is the peasant land reform which is imminent in China. (Anyone arguing for domestic Chinese economic stimulus, this is The One.) My friends on an off have been the folks who go off on peace marches in countries at war, who did human shield work before it made the headlines, who, yes, act locally in a big way but are smart enough to know that the big picture can hurt them or help them. My good friends now many of them do community organizing for sexual minorities. I have friends and acquaintances who are far from liberal; I don’t limit my intake to what I know. My best friend is a private contractor whose business model depended upon home equity withdrawals though he wouldn’t put it that way; he’s probably going to end up bankrupt, though he’s a nimble bloke so i wouldn’t bet money against him. I rub shoulders with affluent conservatives at my gym which is as upscale as a public facility is going to be, because it is the only place in range where I can play squash (badly).
With that background, I can say conclusively that in their best wet dream, ALL the ‘progressives’ I know and attend to hope for nothing better than the Federal government to adopt a democratic socialist reform program post haste. Your assertions to the contrary only indicate that you don’t know what the Hell you are talking about. Or more accurately, to me, that you do but misrepresent the issue for a rhetorical talking point. Command of the facts not facility with the arguments counts in the end, friend. I’ll settle for an audience vote on this one.
You have content if you choose to use it, Mencius; it is less evident that you have character, far from evident in your style of argument. I weighed in to see what you had for a reason; that reason is now expensed. So here’s something you probably haven’t thought much about but I know I have: I don’t spend time on intellectual tar babies. Bye now.
Back to Rome burning, or Keep Your Eye on the Ball
this morning’s NY Times encapsulates Paulson’s dilemma conflict (of interest? delaying tactics?) between preserving incomes of finance players and rescuing the real economy -banks, increasing with every moment of delay the real problem in the real economy: crises of confidence.
The best he can do is propose buying equities, but only non-voting shares for us. Thanks.
Richard Kline said “Command of the facts not facility with the arguments counts in the end, friend.”
Richard, this point has been discussed very nicely in Plato’ s Gorgias. Read it, if you have not already done so, and I think that you will find it very relevant to current events. Plato does not give a definite answer but, then as now, all evidence shows that
For large groups, it is facility with the arguments and not command of the facts that matters.
The US economy, by contrast was comparable to any in Europe by the 1850s. By the 1870s, it was larger, and easily so in iron, oil, and mechanical innovation, and the saturation of those components in the larger economy. By 1900, the US was appreciably the largest, best integrated, most liquid, and most rapidly expanding economy in the world; you have to look at production as well as trade. Moreover, the US was a major destination for European investment capital which disconfirms your ‘backwater’ assertion: Where do you think the venture money came from for all that expansion?
You are not contradicting anything I said. In the 19th century, the US was an emerging market – much like China today. Its promise was obvious. Its sheer physical size was massive.
And, at least until late in the century, its institutions were generally considered contemptible and unworthy of emulation. The financial capital of the world was London, which invented central banking since 1694.
Moreover, the US never had anything like the 100%-reserve narrow banking which Austrians recommend. The last financial system which was free of credit expansion’s was, as you may know, Amsterdam’s. All the US’s 19th-century financial systems were extremely shady, and they all expanded credit maniacally. They never had anything as clean as the Bank of England. Both the BUSes and the state-chartered banks had a strong Third World flavor.
ALL the ‘progressives’ I know and attend to hope for nothing better than the Federal government to adopt a democratic socialist reform program post haste.
One, I said “young progressives.” No offense, but I think you have a little more wisdom and experience than me.
Two, this is hardly a surprise: it is the progressive program by definition. What I was pointing out is that (a) there no longer exists the kind of excitement about global institutions that there was in the ’40s and ’50s, and (b) most San Francisco progressives would be very happy to turn the Bay Area into a democratic socialist state and let the flyover rednecks stew in their own juices.
So here’s something you probably haven’t thought much about but I know I have: I don’t spend time on intellectual tar babies. Bye now.
Your appreciation for the ol’ marketplace of ideas certainly does shine through.
You know, I used to know some old progressives as well – my father’s parents. Or at least, “progressive” is always the word they used for themselves. They were, however, lifelong CPUSA members. And wonderful people whom I loved dearly, but their fondness for discussion was not unreminiscent of yours.
While the CDS market is ostensibly a zero sum game, if settling $60 trillion in directional bets deeply impairs the financial system, perhaps the counterparties should declare force majeure rather than wait for the Fed to force the setting up of a clearinghouse, after the fact. Is that what all of your free marketeers/libertarians would like to see? These were, after all, deregulated markets. The participants in them viciously defended that status, and Chairman Greenspan ran interference for them whenever they were challenged. These were markets made up of consenting adults who knew they were buying the equivalent of insurance policies, except with no reserves set aside to cover policy claims. The Great Unwind in OTC markets cannot, under any circumstances, be allowed to usher in the next Great Depression.
Here is how they get the money of the public all the time (we are now in point 2. below):
1. at market tops they will say “the world is flush with cash”. Joe buys!
2. At bottoms: “..system on edge of collapse”. Joe sells!
Now, facts and truth about “..system on edge of collapse” is at article below. Make sure you read about the market bottom as well.
http://marketwarnings.blogspot.com/2008/10/financial-crisis-ifm-warns-system-on.html
I really hate to see yor great site hi-jacked by jack asses. Don’t let it happen; the info and perspective you provide is far too important.
Patrick Neid,
I agree that Paulson and Bernanke went running to capitol hill to decry the “sky is falling” to W and to all of W’s men.
You may enjoy this blog post that portrays Hank Paulson H.P. as Henny Penny H.P.
http://www.financialfuturesandequitymarketanalysis.com/?p=538
Karstens,
I think we all share the unspoken angst that neither Paulson or Bernanke has ever uttered one word in any of their plans to culling the hopelessly toxic financial institutions from the ones that are salvageable.
Decapping the hopeless firms and recapping the remainder is very important to do. But have they ever said they would send their bank examiners in to review the books of each firm to determine whether they are worth saving or not? No, instead they encourage any troubled firms to come to mama and papa for indiscriminate handouts.
If it were up to me, I’d make em both go to Sunday school today and take a biblical lesson on how to separate the wheat from the chaff.
John,
a nice idea how the market could decide which institutes are worth to be rescued. Its an elegant idea from Luigi Zingales at the cost of the stock holders. but there is no free lunch!
http://faculty.chicagogsb.edu/luigi.zingales/research/PSpapers/plan_b.pdf