Sunday, December 28, 2008

Book 'em, Greenspan

Alan Greenspan wrote a guest piece in the Economist magazine this month. He paints a rather grim picture which, from the perspective of political economy, there seems no way out.

Book equity is the amount of money banks have in reserves. Book assets basically the asset value of the loans they have made. The ratio of book equity to book assets basically tells the percentage of loans outstanding versus cash on hand. This is called "book capital".

As can be seen from the chart to the right, the current average book capital for US banks is around 10%. This means for every $1 in cash, the bank has $10 in asset liens secured by loans made. This is different than the value of the loans because the value of the assets fluctuate over time whereas the value of the loan is fixed at the time the loan was made. This is called "mark-to-market" valuation (Fair Value Accounting Standards, US SEC).

For instance, if a home mortgage loan is made for $50,000 and the home (asset) goes up in value to $55,000, the asset value is $55,000. If the value of the home declines to $45,000, the asset value is $45,000.

It is not difficult to see the problem we currently face. Banks have loaned at a ratio of 10:1, the housing market valuations have declined by 20%, the stock market by 35% and the bond market has also tanked. So, in essence, the assets of many banks have declined not only below the value of the original loans, but have even declined more than the amount of cash they have on hand.

For instance, Joe the Plumber Bank (JP Bank) has $100 in cash and $1,000 loans backed by assets at the beginning of 2007. JP borrowed $500 from Lenny Bruce Bank (LB Bank) to make some of those loans, and another $300 from the Fed. JP assets decline by 20%, leaving him with $100 in cash, $800 in assets and $800 in debt, with $1,000 in loans outstanding. JP Bank has $200 in losses to write-off. This is double the cash on hand. JP is therefore insolvent.

From the Greenspan article:
To avoid this scenario, many banks are holding onto cash so they can pay their creditors and prevent losses. They are afraid to invest money in assets which show no sign of a rebound.

How much extra capital, both private and sovereign, will investors require of banks and other intermediaries to conclude that they are not at significant risk in holding financial institutions’ deposits or debt, a precondition to solving the crisis?

The insertion, last month, of $250 billion of equity into American banks through TARP (a two-percentage-point addition to capital-asset ratios) halved the post-Lehman surge of the LIBOR/OIS spread. Assuming modest further write-offs, simple linear extrapolation would suggest that another $250 billion would bring the spread back to near its pre-crisis norm. This arithmetic would imply that investors now require 14% capital rather than the 10% of mid-2006. Such linear calculations, of course, can only be very rough approximations. But recent data do suggest that, while helpful, the Treasury’s $250 billion goes only partway towards the levels required to support renewed lending.

Government credit has in effect acted as counterparty to a large segment of the financial intermediary system. But for reasons that go beyond the scope of this note, I strongly believe that the use of government credit must be temporary. What, then, will be the source of the new private capital that allows sovereign lending to be withdrawn? Eventually, the most credible source is a partial restoration of the $30 trillion of global stockmarket value wiped out this year, which would enable banks to raise the needed equity.


Even before the market linkages among banks, other financial institutions and non-financial businesses are fully re-established, we will need to start unwinding the massive sovereign credit and guarantees put in place during the crisis, now estimated at $7 trillion. The economics of such a course are fairly clear. The politics of draining off that much credit support in a timely way is quite another matter.

18-Dec-2008. Greenspan, Alan. Banks need more capital. The Economist.
So what is Greenspan saying here?

First, banks need to be better capitalized, in other words, have more money in the bank. Since US Federal Reserve chairman Ben Bernanke is a follower of Greenspan, literally and figuratively, this explains why the TARP money was basically given to the banks to hoard in their vaults.

Second, confidence in the solvency of banks needs to be restored in order to 1) ensure they lend to each other, and 2) the interest rates they charge do not make the cost of borrowing so expensive that it would drive up rates across the board, or be too costly, thereby freezing borrowing. If it costs banks more to borrow than they will make on the spread, they will loose money on the transaction.

Third, the government, e.g. the Federal Reserve and the US Treasury, are acting as lenders of last resort. This is what is meant by "counter party". Basically, its the same as a parent co-signing for a car loan for his teenager. This gives the lender confidence that, in the event the primary borrower cannot pay, the loan doesn't go into default because daddy will pay the bills. Only in this case, the government doesn't have money in the bank, but it does have the power of taxation.

Fourth, and almost unbelievably, Greenspan says that the credit crisis can only be resolved by recapitalizing assets via a stock market increase of over $30 trillion plus an "unwinding" of over $7 trillion in "sovereign credit" (the $7 trillion is the money provided by the US and other governments via the TARP and other, similar vehicles - Greenspan seems to be somewhat re-defining "sovereign credit" here). Greenspan is basically saying forget the real economy, forget about stagnation in capital investment, the financial sector fueled by Friedman monetary policy must be relied upon to bring us out of this mess.

Rest assured that this kind of thinking is not very different from that which guided the policies of the Hoover administration. Although Greenspan aggressively decreased interest rates in the run-up to the current speculative bubble (something 1930s Fed policy attempted to prevent), the idea that we need to drain credit support as soon as possible is very much in line with the orthodox economic ideology that guided both the Hoover administration and the Greenspan gang. Undoubtedly this thinking will result in massive resistance to government investments in non-defense spending, such as Obama's public works initiative.

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Wednesday, December 24, 2008

Financial Implosion

Anyone who has read my blog for several years will have seen that I've covered the financial markets regularly and based on a socialist analysis of the finanicalized capitalists system, was able to provide arguments for what we now see unfolding.

John Bellamy Foster and Fred Magdoff have written an excellent summary in the current issue of the Monthly Review. I've included an excerpt below and encourage all to visit the link and read the whole article.

Again, if you have any money in a retirement account and have the ability to choose your investment plan, you should seriously consider putting it in something as close to cash as possible, such as a money market fund, TIPS fund or REIT fund. Bond funds are risky but better than equities. Real estate is also a huge risk.

Good luck and Merry Christmas! Remember, Jesus was the original Communist, or so I've heard. Throw the moneychangers out of the temple! :)
Financial Implosion and Stagnation
Back To The Real Economy

But, you may ask, won’t the powers that be step into the breach again and abort the crisis before it gets a chance to run its course? Yes, certainly. That, by now, is standard operating procedure, and it cannot be excluded that it will succeed in the same ambiguous sense that it did after the 1987 stock market crash. If so, we will have the whole process to go through again on a more elevated and more precarious level. But sooner or later, next time or further down the road, it will not succeed… We will then be in a new situation as unprecedented as the conditions from which it will have emerged.
—Harry Magdoff and Paul Sweezy (1988) 1

“The first rule of central banking,” economist James K. Galbraith wrote recently, is that “when the ship starts to sink, central bankers must bail like hell.”2 In response to a financial crisis of a magnitude not seen since the Great Depression, the Federal Reserve and other central banks, backed by their treasury departments, have been “bailing like hell” for more than a year. Beginning in July 2007 when the collapse of two Bear Stearns hedge funds that had speculated heavily in mortgage-backed securities signaled the onset of a major credit crunch, the Federal Reserve Board and the U.S. Treasury Department have pulled out all the stops as finance has imploded. They have flooded the financial sector with hundreds of billions of dollars and have promised to pour in trillions more if necessary—operating on a scale and with an array of tools that is unprecedented.

In an act of high drama, Federal Reserve Board Chairman Ben Bernanke and Secretary of the Treasury Henry Paulson appeared before Congress on the evening of September 18, 2008, during which the stunned lawmakers were told, in the words of Senator Christopher Dodd, “that we’re literally days away from a complete meltdown of our financial system, with all the implications here at home and globally.” This was immediately followed by Paulson’s presentation of an emergency plan for a $700 billion bailout of the financial structure, in which government funds would be used to buy up virtually worthless mortgage-backed securities (referred to as “toxic waste”) held by financial institutions. 3

The outburst of grassroots anger and dissent, following the Treasury secretary’s proposal, led to an unexpected revolt in the U.S. House of Representatives, which voted down the bailout plan. Nevertheless, within a few days Paulson’s original plan (with some additions intended to provide political cover for representatives changing their votes) made its way through Congress. However, once the bailout plan passed financial panic spread globally with stocks plummeting in every part of the world—as traders grasped the seriousness of the crisis. The Federal Reserve responded by literally deluging the economy with money, issuing a statement that it was ready to be the buyer of last resort for the entire commercial paper market (short-term debt issued by corporations), potentially to the tune of $1.3 trillion.

Yet, despite the attempt to pour money into the system to effect the resumption of the most basic operations of credit, the economy found itself in liquidity trap territory, resulting in a hoarding of cash and a cessation of inter-bank loans as too risky for the banks compared to just holding money. A liquidity trap threatens when nominal interest rates fall close to zero. The usual monetary tool of lowering interest rates loses its effectiveness because of the inability to push interest rates below zero. In this situation the economy is beset by a sharp increase in what Keynes called the “propensity to hoard” cash or cash-like assets such as Treasury securities.

Fear for the future given what was happening in the deepening crisis meant that banks and other market participants sought the safety of cash, so whatever the Fed pumped in failed to stimulate lending. The drive to liquidity, partly reflected in purchases of Treasuries, pushed the interest rate on Treasuries down to a fraction of 1 percent, i.e., deeper into liquidity trap territory. 4

Facing what Business Week called a “financial ice age,” as lending ceased, the financial authorities in the United States and Britain, followed by the G-7 powers as a whole, announced that they would buy ownership shares in the major banks, in order to inject capital directly, recapitalizing the banks—a kind of partial nationalization. Meanwhile, they expanded deposit insurance. In the United States the government offered to guarantee $1.5 trillion in new senior debt issued by banks. “All told,” as the New York Times stated on October 15, 2008, only a month after the Lehman Brothers collapse that set off the banking crisis, “the potential cost to the government of the latest bailout package comes to $2.25 trillion, triple the size of the original $700 billion rescue package, which centered on buying distressed assets from banks.”5 But only a few days later the same paper ratcheted up its estimates of the potential costs of the bailouts overall, declaring: “In theory, the funds committed for everything from the bailouts of Fannie Mae and Freddie Mac and those of Wall Street firm Bear Stearns and the insurer American International Group, to the financial rescue package approved by Congress, to providing guarantees to backstop selected financial markets [such as commercial paper] is a very big number indeed: an estimated $5.1 trillion.”6

Despite all of this, the financial implosion has continued to widen and deepen, while sharp contractions in the “real economy” are everywhere to be seen. The major U.S. automakers are experiencing serious economic shortfalls, even after Washington agreed in September 2008 to provide the industry with $25 billion in low interest loans. Single-family home construction has fallen to a twenty-six-year low. Consumption is expected to experience record declines. Jobs are rapidly vanishing. 7 Given the severity of the financial and economic shock, there are now widespread fears among those at the center of corporate power that the financial implosion, even if stabilized enough to permit the orderly unwinding and settlement of the multiple insolvencies, will lead to a deep and lasting stagnation, such as hit Japan in the 1990s, or even a new Great Depression.

24-Dec-2008. Foster, John Bellamy. Financial Implosion and Stagnation. Monthly Review.

Tuesday, December 09, 2008

Dreams of Red Havana

From an op-ed piece by Roger Cohen:

Since visiting Cuba a few weeks ago, I’ve been thinking about the visual assault on our lives. Climb in a New York taxi these days and a TV comes on with its bombardment of news and ads. It’s become passé to gaze out the window, watch the sunlight on a wall, a child’s smile, the city breathing.

In Havana, I’d spend long hours contemplating a single street. Nothing — not a brand, an advertisement or a neon sign — distracted me from the city’s sunlit surrender to time passing. At a colossal price, Fidel Castro’s pursuit of socialism has forged a unique aesthetic, freed from agitation, caught in a haunting equilibrium of stillness and decay.

Such empty spaces, away from the assault of marketing, beyond every form of message (e-mail, text, twitter), erode in the modern world, to the point that silence provokes a why-am-I-not-in-demand anxiety. Technology induces ever more subtle forms of addiction, to products, but also to agitation itself. The global mall reproduces itself, its bright and air-conditioned sterility extinguishing every distinctive germ.


Roger goes on to describe how Paris has succumbed to the modern spectacle, something that his visit to Havana made quite clear to him. I've often heard the same said about New York City, that since the 1980s it has become just facade of its former unique "city-ness", and now just another billboard for the same retail culture that dominates American suburbia.

Roger is also right in highlighting the addictive nature of what he calls agitation - whether it be in the form of computers, IM, cell phones, blackberries, iPods, television, radio, road-rage or what-have-you.

I think the agitation comes from the dual alienation these technologies, activites and public spaces foster, alienation from other humans as well as alienation from oneself. Though much modern technology, from the cell phone to automobiles and blogs, promise to bring people together and foster communication, they in fact cause a profound alienation between people. All communication becomes mediated communication, a non-physical, disconnected and ultimately unsatisfying communication that does little to reify our identity nor foster a true sense of connectedness or community with those around us.

This is what we want and need, it is a physical and emotional need intrinsic to the human condition. We become agitated because it is impossible to attain via these forms. Just as consuming products or eating fast-food does not "fill us up" - nor do these commiditized forms of communication fill us up. They promise to fill us up, but leave us empty, making us crave more, while at the same time making us afraid to forge real connections.

Ultimately we are left empty, afraid and alone; impotent to change because we are not even concious that another world is possible; until we see that one is, like Roger did.

Monday, December 08, 2008

Worker's Anger in Chicago Strike

As the economy worsens, American workers begin find their voice.
CHICAGO — The scene inside a long, low-slung factory on this city’s North Side this weekend offered a glimpse at how the nation’s loss of more than 600,000 manufacturing jobs in a year of recession is boiling over.

Workers laid off Friday from Republic Windows and Doors, who for years assembled vinyl windows and sliding doors here, said they would not leave, even after company officials announced that the factory was closing.

Some of the plant’s 250 workers stayed all night, all weekend, in what they were calling an occupation of the factory. Their sharpest criticisms were aimed at their former bosses, who they said gave them only three days’ notice of the closing, and the company’s creditors. But their anger stretched broadly to the government’s costly corporate bailout plans, which, they argued, had forgotten about regular workers.

“They want the poor person to stay down,” said Silvia Mazon, 47, a mother of two who worked as an assembler here for 13 years and said she had never before been the sort to march in protests or make a fuss. “We’re here, and we’re not going anywhere until we get what’s fair and what’s ours. They thought they would get rid of us easily, but if we have to be here for Christmas, it doesn’t matter.”

The workers, members of Local 1110 of the United Electrical, Radio and Machine Workers of America, said they were owed vacation and severance pay and were not given the 60 days of notice generally required by federal law when companies make layoffs. Lisa Madigan, the attorney general of Illinois, said her office was investigating, and representatives from her office interviewed workers at the plant on Sunday.

08-Dec-2008. Davey, Monica. In Factory Sit-In, an Anger Spread Wide. New York Times.

Wednesday, December 03, 2008

Obama's Team of Rivals

So much for change? I guess we shouldn't be surprised. However, with the right-leaning group he's putting in place, is the world really better off than it would have been with McCain? Perhaps in the short run, but certainly not in the long run if one is looking for an end to the dictatorship of capital.

From MRZine (Jeremy Scahill):
As Barack Obama's opus, Team of Rivals, continues its rolling debut, the early reviews are in and the "critics" are full of praise for the cast:

"[T]he new administration is off to a good start."
-- Senate Republican leader, Mitch McConnell

"[S]uperb . . . the best of the Washington insiders . . . this will be a valedictocracy -- rule by those who graduate first in their high school classes."
-- David Brooks, conservative New York Times columnist

"[J]ust about perfect. . . ."
-- Senator Joe Lieberman, former Democrat and John McCain's top surrogate in the 2008 campaign.

-- Karl Rove, "Bush's brain"

"I am gobsmacked by these appointments, most of which could just as easily have come from a President McCain . . . this all but puts an end to the 16-month timetable for withdrawal from Iraq, the unconditional summits with dictators, and other foolishness that once emanated from the Obama campaign . . . [Hillary] Clinton and [James] Steinberg at State should be powerful voices for 'neo-liberalism' which is not so different in many respects from 'neo-conservativism.'"
-- Max Boot, neoconservative activist, former McCain staffer.

"I see them as being sort of center-right of the Democratic party."
-- James Baker, former Secretary of State and the man who led the theft of the 2000 election.

"[S]urprising continuity on foreign policy between President Bush's second term and the incoming administration . . . certainly nothing that represents a drastic change in how Washington does business. The expectation is that Obama is set to continue the course set by Bush. . . ."
-- Michael Goldfarb of the neoconservative Weekly Standard

"I certainly applaud many of the appointments. . . ."
-- Senator John McCain

"So far, so good."
-- Senator Lamar Alexander, senior Republican Congressional leader.

Hillary Clinton will be "outstanding" as Secretary of State
-- Henry Kissinger, war criminal

Rahm Emanuel is "a wise choice" in the role of Chief of Staff
-- Republican Senator Lindsey Graham, John McCain's best friend

Obama's team shows "Our foreign policy historically is not partisan."
-- Ed Rollins, top Republican strategist and Mike Huckabee's 2008 campaign manager

"The country will be in good hands."
-- Condoleezza Rice, George W. Bush's Secretary of State