Banks at risk of collapse

Interesting how insights eventually stream through from the blogosphere to the mainstream media, where there dispensed weeks or months later as "news." It's news simply because the establishment/consensus view hasn't embraced a reality--like for instance that the banks are still in trouble.

When facts like these emerge, it's hardly news to me, or any avid Internet readers. As a matter of fact, if you'd devoted just a little time to websites like mine, you'd probably have known that the problem was far worse than previously disclosed in the mass media, the bottom perhaps father out than was admitted in the zeal to re-establish confidence.

I'm proud to use the Internet for information because it's given me far more unbiased raw content, and far clearer analysis and commentary than is available in corporate news. Readers here would find themselves inoculated from the lies and glaring omissions which characterize mass media today. Clearly one of the greatest distortion occurs in the field of financial journalism.

This afternoon at 3:30 PM EST Meredith Whitney appeared on CNBC to shred the bank stocks. The stress tests revealed huge persistent liabilities, she said. Their earnings are "manufactured" and they're "sitting on rotting assets," she said.

The CNBC interviewer, Maria Baritromo, expressed her surprise at Whitney's comments, saying they were the first she'd heard of the kind. Baritromo then appeared on the verge of editorializing, saying something about the "results out of Washington," then held back. The confidence thing--a main selling point for CNBC--was surely out the window if their star reporter admitted that perhaps the crisis wasn't over.

If viewers caught on to the strong likelihood that the financial sector was still inherently unstable, CNBC's credibility might be at stake, considering its weeks-long prattle about how we'd moved into the recovery phase. "Come on in the water's fine" doesn't sound so good when the water's full of piranhas that CNBC neglected to tell us about. And no industry is as important in a recovery as the banks since we're an economy that apparently only grows on credit.

Earlier today on CNBC I saw Elizabeth Warren and Larry Kudlow actually agree that more oversight of TARP was needed. Nice it would be to think that political opposites on the right and left might actually agree that the granting of funds through TARP has been a flawed process. Now whether something is actually done to hold those responsible to account remains uncertain.

Warren is the chairman of the the Congressional Oversight Committee which seeks to hold recipients of the TARP funds accountable. Eloquent, the Obama appointee is a professor at Harvard with a recently published book on poverty in America. Warren's a can-do-type person who won't let banking executives redirect criticism or dodge their responsibilities.

Kudlow comes from the neo-conservative school of laissez faire regulation which embraced behaviors which led to the crisis. Odd it is that he'd find himself allied with a champion of middle class rights.

Member of the privileged uber-capitalist class, Kudlow is inherently anti-tax. He's apparently caught the whiff of what will be the most injurious outcome of overspending: higher taxes down the road.

Kudlow's rally to the regulatory banner might signify the acquiescence of the investor class to the reality that inadequate regulation will eventually impact them, their profits, and prospects of growth. Also, there might be a stubborn albeit dated notion that companies should have to actually raise their own capital, rather than just accept government handouts.

TARP intervention and their even larger Federal Reserve programs may have been effective in stopping a broader collapse that Geithner and Obama have warned about. Then again, the massive increase in government aid to corporations signals a new era of huge government, a sort of bailout state that George Will rails against.

Writing in a May 11th editorial about government control over the private sector, Will laments, "New York...is no longer the financial capital of the United States, Washington is."

Now I haven't been a huge fan of Will's, despite my considerable respect for his writing skills, ever since he joined in on the post-9/11, pro-Iraq War bandwagon. I guess that orientation was a requirement imposed on all writers by the mass media being that antiwar perspectives were and have been shutdown by corporate media moguls.

George Will may have struck a common chord among advocates of small government and crusaders against government waste, two areas of traditional conservatism abandoned by the GOP. No fiscal conservatives--nor anyone concerned with how tax money is being spent--likes to see waste and fraud on a scale like that seen in Washington. Still, the larger population--"sheople," they've been referred to--may just look at the TARP story as just one more entertainment option on the media smorgasbord, an item to be added to the plate, or casually discarded along with all the other stories that don't stimulate more base instincts.

The notion of actually getting involved with the problem--as active citizenry--has sadly become obsolete. Jefferson's call for eternal vigilance has given way to a world of dual incomes, long hours, and conflicting priorities. Few Americans have the time and energy to follow the bailout story. While they might cringe and protest, few really know enough about how our financial system works to know that banks rely on government funds for their profits.

In reality, we have a system that requires ever larger sums of government-granted capital to stay afloat. If for whatever reason we should not borrow as much, the real economy will collapse. In such a system, growth is in itself a misnomer.

Banks create nothing. Rather than represent the creation of capital from scratch, revenues come from lending which in turn generates business activity, but only if it's invested in production. If they're used for speculation, lending only redirects piles of paper.

If loans are spent on consumer purchases, they'll ultimately end up in foreign hands as we buy so many imports. The borrower benefits only from his purchase-little benefit comes to the economy on which he's dependent to pay off the debt and seek employment. In this sense, the US consumer has become a bad bet, one requiring ever more lending by foreigners, whose goods we buy, in order to repay.

The mortgage markets in the mid-00s epitomize the borrowing craze, with their loose regulatory climate and securitization of debt. Million dollar homes were sold to waiters, with so-called no-doc loans. Eager to grow their portfolios, lending companies hired only the appraisers who'd jack up home values, according to a now-famous 2006 address by Peter Schiff that I've cited previously.

Follow the money: the banks were able to loan not because they'd built up profits over the years, but because they had the ability to borrow more. Until their reserves became threatened by losses, they were eager to lend more, and could do so without immediate consequence. Then as the values of their mortgage portfolios tanked, they went back to the government to shore up their reserves and according to the stress tests, still need even more capital from government.

The recent stress tests showed that banks needed about $75 billion in immediate assistance, with a minimum of another $750 billion or so in the event of a deteriorating credit environment--i.e. more borrowers becoming unable to pay.

I bet you didn't read that part in your newspaper! Instead, you were probably told that Geithner and the banks were confident. The whole stress test was stage-managed out of Washington. No numbers could ever be allowed to emerge that would show the true extent of the derivatives mess, estimated at over $100 trillion. Worst of all, there's no way to value those derivatives which means they're illiquid and therefore can't be treated as an asset, since the Credit Default Swaps (themselves a form of derivative) would likely not pay off in the event of a market-wide collapse in valuations. Therefore--no surprise--the stress test results are softened so as to keep the public unaware as to the real extent of the problem.

Confidence is a concept crucial to any confidence game, and a con is just what lenders and the Fed offer. It's no coincidence we hear constant reassurances in the mass media; confidence encourages those with money to lend it out to banks or to invest it by purchasing corporate stock, which decreases the cost of capital.

Naturally the organs of state media, operating translucently as objective and arbitrary dispensaries of the news, talk about the impending bottom and subsequent rebound. As perennial optimists, we Americans take heart in hearing how it will get better, even if the current economic conditions are quite dicey. Sensitive to the attitudinal climate, the media masters of smoke and mirror encourage entire line-ups of guests to preach positively. Lost in this discourse is any sense of balance or objectivity, any hope that the integrity of the news might actually matter more than fulfilling any missionary purpose, however noble and well-intentioned it might be.

The media plays its role according to formula: if it's raining, things are looking up. If the weather's bad in one place, it's not in another. If the snowfall is intense, it's not as intense as it was back in 1874, etc.. Particularly since 9/11, the media sees its primary task as an applier of salve, a pacifier for the shock that greets us all just beyond the doorstep.

While Americans might not know much about how our financial system works, they can rely on their media to make them feel less bad about how things are going. And in a world when vital news elements are casually littering the media-scape, ignoring the primary issues becomes far easier when we're led to believe 1) we can do little about it and 2) things are getting better anyway.

Socialism or fascism

Recently I've been contemplating the concept of political economy, a term I loosely define as the connection between political power and behavior and the economy. In studying Marxism as I did, including variants of Eastern Europe socialism in the late 80's, political economy became a central area of focus, because socialism made economic variables paramount. In its essence, these political philosophies were driven by concepts of economic justice.

Another prominent theme in socialism is the idea that a society has to progress past industrialization in order to embrace government controls, and an emphasis on full employment. In this sense, socialism was poised as a utopian counterweight to the dog-eat-dog world of free market capitalism. The idea, first emerging in the 1930's, was that the pain of economic hardship and inequity could be levelled out by a political system bent on maintaining a minimum standard of living. The curse, as Winston Churchill said, was that socialism's "inherent virtue is the equal sharing of misery." In other words, sure, some people aren't as impoverished, but everyone's standard of living will drop.

In the long term, the huge expenditures will have to be repaid, either by raising taxes or inflation--the hidden tax. Kudlows and even the recipients of bailout money understand this. At some point, all the Federal Reserve's largesse will become a liability, if not for the huge sums that must be repaid, then for the higher corporate taxes that will come, which will in turn reduce profitability and share prices. It's awfully hard to stump for lower taxes when the government has no money to spend, a situation that's becoming more and more likely as overseas creditors turn their backs. Eventually, there will be no one to buy our debt, and the Fed will have to resort to buying it with freshly printed bills.

Now in the past we've been blessed with creditors like the oil sheikhs, whose Petrodollars sat in huge depositories, unspent save for military hardware languishing in the desert, unused. And the Japanese, largest foreign holders of US government debt, bought American real estate and launched production ventures here. These kinds of investments weren't inflationary. If the Fed keeps buying our Treasuries, eventually the overabundance of liquidity (capital) will flow through to the economy. If too much is spent, prices will rise. Even if consumers never touch the money, the overabundance of capital will likely result in a marked decrease in purchasing power over time.

Financial firms now compromise 40% of GDP, a term which is inherently a misnomer because financial entities don't really produce much of anything. They simply lend based on their ability to borrow, passing off the government's credit as their own. Much of what they lend is simply a ledger entry--no real assets in the vault must be subtracted. Instead, a set amount of deposits must be set aside.

As pushing piles of paper around is invariably easier than making something, it's no surprise that the banks' corresponding level of political influence has risen in proportion to their wealth. In the political economy, through the effect of corporate donations, lobbying influence translates into economic reassurances and support from government. In this respect the entire crisis itself is nothing more than an opportunity for banks to shore up balance sheets weakened by a long-anticipated decline in the real estate markets.

The suddenness of the collapse likely surprised many people, and came largely as the consequence of financial entities successful efforts to deregulate, culminating in the Gramm Leach bill ending Glass Steagal and the Commodities Futures Modernization Act, another Gramm creation which greatly reduced margin requirements, so banks could speculate on mortgage-backed securities and other derivatives.

Political influence exerted by corporations contributed to the severity of the collapse, as inadequate government oversight opened the door to speculation and higher profits, which soared during the Bush years. Campaign donations came back in the form of deregulatory assistance, at least with Enron, the number one corporate giver to the Bush campaign in 2000. We all know how that story ended.

Obama's campaign was supported heavily by the financial industry--questions about why that industry
was so eager were certainly answered when Obama came to their rescue, appointing industry insider Geithner to more or less continue Bush-era policies, albeit with the resurgence of regulatory reorganization in the likes of Elizabeth Warren, although just how much the administration is doing to prevent over-leverage and risky speculation remains unclear, as the buck has largely been passed to Congress. Perhaps a repeal of Gramm Leach and restoration of Glass Steagal is in the works, more likely not.

Rather than confront the corporations whose behavior has led to the credit crisis, easier it is for the politicians to shower them with loans. And the majority of these come not through Congress--which has approved the $750 billion TARP--but through the Federal Reserve which has offered "cash-for-trash" through numerous discount windows since last fall. It's total lending, non-transparent and beyond any Congressional control, is in the neighborhood of $11 trillion.

The Federal Reserve is run through the White House, and it shows. One of Obama's largest corporate donors was AIG, from whom he received in excess of $100,000. AIG was one of the first miscreants to face the consequences of their behavior, yet the company found itself the recipient of over $100 billion in aid. Lest it fail, we were told, and its defaults cascade throughout the system.

In the end AIG will fail, unless of course it is maintained on life support. Like Enron, we see the quid pro quo in effect; for the companies who wield the most political influence, the most support will be forthcoming. Rather than contribute assistance in deregulating the energy markets--so Enron could make more--the Obama administration is providing direct financial assistance.

AIG aside, many financial services companies had a very good first quarter. The stock prices of many banks have risen close to pre-crisis levels. The real economy, on the other hand, isn't doing as well. Millions are unemployed, though the rate of contraction has slowed.

Naomi Klein has summarized the way crisis capitalism works, and it fits the recent credit crisis. Lobby relentlessly for lower regulatory thresholds, then wait for the inevitable breakdown, which becomes a justification for government intervention. Government tries to solve the crisis, in the financial case by extending credit to banks, but eventually it cannot resolve the underlying systemic issues which caused the crisis or prolonged its resolution. The lack of resolution of course encourages a privatization of the response to the crisis under the grounds that the private sector can do a better job.

We have yet to see how the response to the financial crisis will play out. Rest assured, the taxpayer will emerge burdened with higher debt, taxes, and inflation. Buoyed with all their help from the Treasury, and freed of much of their toxic debt, financial corporations meanwhile will show amazing resiliency. As they've always done, they're making profits from their privileged place as lenders of the people's money, at interest.

The more things seem to change, the less they really do. Increasingly America has become a country where the interests of corporation and the State are merging ever closer, every day. The only difference between ruling parties appears to be which industries profit, meaning our two-party duopoly offers little more than a preference between corporate constituencies, like energy and hedge funds for the Republicans, education and banking for the Obamacrats.

While the Democratic and Republic methods differ, the former favoring spending and the latter deregulation, both philosophies aim to leverage political influence to achieve the narrow economic interests of specific industries and their investors. The public interest remains secondary, more of a murky backdrop upon which the political and investment classes paint their vision.

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