The economy - don't drink the Kool-Aid

I've posted on more than a few occasions about the state of the economy. It's no surprise to me that while I've been in hospital, things have been continuing much as I (and others) have predicted . . . and that the mainstream media and spokesmen for Government and 'big business' are as mendacious as usual in discussing them.

For those of you taking a real interest in your financial future, here are a few points to ponder from just the last week or so.


1. The Dow Jones Industrial Average has just reached 10,000, for the first time in several years. (It first reached that level a decade ago.) Good news, right? Er . . . uh-uh. In fact, "Not just 'No', but 'Hell, no'!"

As Zero Hedge points out:

... over the past 10 years (the first time the DJIA was at 10,000) the dollar has lost 25% of its value. Therefore, we present the Dow over the last decade indexed for the DXY, which has dropped from 100 to about 75. (Click here to view their graph - I don't have copyright permission to reproduce it locally, I'm afraid.) On a real basis (not nominal) the Dow at 10,000 ten years ago is equivalent to 7,537 today! In other words, not only have we had a lost decade for all those who focus on the absolute flatness of the DJIA, but it is also a decade where the US Consumer has lost 25% of purchasing power from the perspective of stocks! You won't hear this fact on the MSM.

And if you want to be really scared, here is the comparable representation for the DJIA in ounces of gold. (Click here to view their graph.) It cost about 30 ounces to buy the 10,000 Dow last time. Now it costs less than 10.

There's more at the link. Bold print is my emphasis.


2. US credit card defaults are soaring. Reuters reports:

In a regulatory filing on Thursday, Capital One said the annualized net charge-off rate -- debts the company believes it will never collect -- for U.S. credit cards had risen to 9.77 percent in September from 9.32 percent in August.

Accounts at least 30 days delinquent -- an indicator of future loan losses -- increased to 5.38 percent from 5.09 percent.

JPMorgan Chase & Co (JPM.N), Bank of America Corp (BAC.N), Citigroup Inc (C.N), American Express Co (AXP.N) and Discover Financial Services (DFS.N) plan to report the monthly performance of their credit card portfolios later on Thursday.

Credit card defaults usually track unemployment, which rose to a 26-year high of 9.8 percent in September. The jobless rate is expected to peak at more than 10 percent by year-end.

Considering the trend of unemployment and the increase in delinquencies, analysts have estimated credit card losses will keep rising in coming months.

There's more at the link. Bold print is my emphasis.

Total US credit card debt alone (excluding all other forms of consumer debt) is close to $1 trillion. According to Creditcards.com:

• At the end of 2008, Americans' credit card debt reached $972.73 billion, up 1.12% from 2007. That number includes both general purpose credit cards and private label credit cards that aren't owned by a bank. (Source: Nilson Report, April 2009)
• Average credit card debt per household -- regardless of whether they have a credit card or not -- was $8,329 at the end of 2008. (Source: Nilson Report, April 2009)

If up to one hundred billion dollars or so of current US credit card debt is regarded as a write-off by card issuers (who are typically among the larger US financial institutions in other sectors as well), what does this do for their bottom line? Yep - it sinks most of them without trace . . . unless Uncle Sam steps in with another bailout, robbing you and I of our tax money to do so, and ignoring our frequently and vehemently expressed opposition to any more such financial exposure. We don't count, you see, because -


3. We, the people, don't have enough money or financial 'clout' to really interest our politicians. Commerce and industry do, and they're dispensing it hand over fist to get what they want out of Washington, irrespective of any damage their perceived 'needs' may do to our nation's economy, or you and I as voters, consumers, citizens and residents. As Robert Borosage points out:

Even as the health insurance companies draw down on health care reform, another showdown is just beginning in Washington. On Wednesday, the House Financial Services Committee will begin marking up the first legislation to try to curb Wall Street's casino. And if you think the health insurance companies are packing heat, wait till you see the firepower the banks will unleash to frustrate reform.

The Committee will focus on two core reform measures. The first, the regulation of derivatives, goes to the heart of the current collapse. Derivatives are the exotic instruments that Warren Buffett warned were "weapons of financial mass destruction." Derivatives have been traded with little regulation, over the counter, in private deals. This allowed companies like AIG essentially to open a casino on top of an insurance company, and take bets without the prudence required of a Las Vegas bookie. When AIG went belly up and threatened to bring down the entire financial house of cards, taxpayers ended up with a bill totaling over $180 billion and counting.

The reforms call for standardizing derivatives, trading them on a public exchange, with transparency, so prices can be compared and holdings regulated. Common sense, one would think. (for a good summary, see the estimable Harold Meyerson's piece)

But the five largest American banks -- in rough order of declining solvency: Goldman Sachs, Morgan Stanley, JP Morgan Chase, Bank of America and Citigroup -- hold fully 95% of derivatives -- with a notional value of over $290 trillion. In the first six months of the year, they made about $15 billion trading in these things. Not surprisingly, they have leveled their guns at the very notion of a public exchange. They enlisted companies that use derivatives to hedge against foreign exchange risks and the like, arguing that the reforms would raise costs all around. They have largely succeeded in the congressional cloakrooms.

So the bill that the House will consider on Wednesday creates a clearinghouse, not a publicly managed exchange. It also allows banks to decide that a deal is so unique that it needn't be posted on the clearinghouse. The best experts in the field -- like Michael Greenberger of the University of Maryland -- warn that the legislation might end up WEAKENING current law. That is no small achievement, because, as we saw in the collapse of AIG, current law is toothless.

The second basic reform to be considered is a Consumer Protection Finance Agency to protect consumers from getting gouged or defrauded by lenders on the whole range of consumer loans -- mortgages, car loans, payday lending, credit cards. The regulators who currently have some police power failed to use it before the crash -- as exemplified by the systematic fraud practiced in peddling complex subprime mortgages to people who could not hope to pay them back. And after claiming to be born again cops on the beat, the same regulators have failed to do much since the crash -- as exemplified by the record fees banks are exacting from depositors, or by hiking interest rates on credit card holders. The reasons for their failure are both ideological -- the abiding conservative belief that markets are self-regulating and regulation is costly, and institutional -- the regulators' first duty is to insure the health of the banks. If the banks are getting healthy by gouging their customers, the regulators turn their heads.

So the CPFA is designed to create an independent cop on the beat to protect consumers and police the banks and credit card companies. Needless to say, the banks don't like this idea. Already they've succeeded in delaying and diluting the administration's proposal. The current draft strips out the mandate that banks offer customers "plain vanilla" alternatives -- a clean 30 year, fixed rate mortgage, for example, when peddling exotic ARMS with balloon payments. Worse, it now suggests vesting enforcement power in a council of the very same regulators that have failed so miserably in the past and present.

But that's not all. The banking lobby is nothing if not shameless. They hope to use the reforms to WEAKEN current law. They are pushing to make the federal standard the ceiling on reform, stripping the power of states to have higher standards. Basically, they are hoping to find a way to shut down the independent investigations of state attorneys general like New York's Eliot Spitzer and Andrew Cuomo or Illinois' Lisa Madigan. (for a good summary of this see Dave Johnson's blog here)

How do the banks fend off needed reform? Follow the money. A recent report by Paul Blumenthal of the Sunlight Foundation shows that the 27 members of the House Financial Services Committee have received over one-fourth of their contributions from the FIRE (Finance, insurance and real estate sector). Ranking Republican Spencer Baucus from Alabama opposes the CFPA, arguing that we don't need "more regulation," we just need "smart regulation." He received a staggering 71% of his contributions from the finance sector over the first six months of this year (and 45% of his total contributions over his career). Democrat Melissa Bean who leads the effort to gut state regulatory authority over the banks has received fully 42% of her contributions for the first six months from the banking sector. Not surprisingly, the champions of reform like Rep. Alan Grayson, Maxine Waters, Keith Ellison, Adam Putman, and Carolyn McCarthy all pull in the lowest percentage from the sector.

Historically, the banks, as Senator Dick Durbin decried in disgust, "own the place." And they've succeeded thus far in frustrating reform, even while pocketing literally hundreds of billions in support from taxpayers.

There's more at the link. Again, bold print is my emphasis.

Dave Johnson quotes Elizabeth Warren, who first mooted the idea of a strong Financial Product Safety Commission, as follows:

Look at how credit card business models have shifted. The old model was a you getting a card based on your good credit, if you qualified. But now they hold up low interest or a free gift or say it is a cool card to have, and you get the card, and then they make their money from the traps and tricks in the fine print that people just do not know about. Lenders hide costs and prey on customers. So no one can compare the cards. It is a market driven by the tricks and traps they can hide.

We have the FDA. In the 1920s anyone with a box of chemicals and a bathtub could start a pharmaceutical company. How many people are alive today because now we have basic safety protections on drugs. And this makes it safe to invest in good products and good companies.

Look at the Consumer Product Safety Commission – the agency sets standards, and child car seats are safer etc.

Safety works.

The David and Gioliath nature of this story shows up in multiple ways. Lawyers that create these deceptive and dangerous products – come in well-funded teams. These companies use these teams of lawyers and sociologists and psychologists, and find as many ways as they can to trick people.

In contract law an equal contract is both sides have good knowledge and that is basis of legal binding in contracts. Both sides have an understanding of what they are agreeing to. But here we have had large financial institutions writing contracts no one understands and writing the regulatory rules over the last 15 years, and that is what got us into this mess. Then they turned to the taxpayer and said, "Bail us out."

They have survived because of that taxpayer bailout and their response is to turn around and fight to continue to be the ones who write the rules so they can do it all again.

This is about survival of families but also fundamentally a question of where our country and economy goes.

There's more at the link. Bold print is original author's emphasis.

There's now infighting within Democratic Party ranks over which lobby will control financial regulation - the financial industry itself, which is trying to obtain the services of the best legislators money can buy, or the needs of the people, who don't have anything like such deep pockets, and must rely on the honesty, ethics and morals of their elected representatives. (Was that hollow laughter I just heard from your direction, friend?)


4. As the indispensable Karl Denninger points out:

The banks are STILL insolvent.

They are sitting on over a trillion of dollars of this paper (about $1.1 trillion to be exact) and several hundred billion is severely impaired or even worthless. Wells Fargo, just as one example, has (as of its last 10Q) $106 billion of second lines outstanding on balance sheet, and God only knows how much in SPVs (Wells is known to have significant off-sheet exposure "inherited" from Wachovia.) Let me put this in perspective for everyone.

* Essentially all of the first mortgage loans written in California and Florida after 2003 are underwater. Even in parts of the state (such as my area of Florida) that have been "relatively" untouched (compared to, for example, Naples) homes are below 2003 prices. In "bubble" areas prices have in many cases returned to levels such that anything purchased before 1995 or thereabouts is underwater. In some parts of SW Florida you can buy a home that sold for $500,000 for $50-75,000, cash, right now. Those are 1970s and early 1980s prices.

* Many of the homes in these areas, especially in Florida, that have undergone this sort of collapse in price have a literal negative value. That's because the former owner has departed and the power was shut off for non-payment; the banks have constructively abandoned these homes. In Florida if you do this within a reasonably short period of time mold will become established inside the sheetrock. Once that happens the home must be gutted to the studs or razed, and the cost of doing so exceeds the value of the bare lot. Then there are the delinquent property taxes, frequently in arrears for two years or more at this point. Many people have said that "oh there's a decent recovery" on all this paper. No, in many cases, there is is in fact no recovery at all, and that's a fact.

* In essentially every case a 2nd Line (HELOC [Home Equity Line Of Credit] or "Silent Second") behind a first in Florida and California taken out since 2003 is worthless if the primary note goes into foreclosure. That's because such a second is a subordinate lien and entitled to nothing until the first is fully satisfied. But the first can't be fully satisfied as the home's value is less than the first line's balance. As a consequence these loans are worth zero - literal zero. Wells may have as much as $25 billion of this worthless paper on balance sheet all on its own and Bank America may have as much as $30-50 billion. (Pinning down the exact amounts is impossible as the companies do not disclose geographic concentration metrics necessary to do so.) It is not unreasonable to believe that $200 billion in junior lien losses are being hidden - right here and now - which is sufficient to detonate these institutions even without the primary mortgage losses being counted!

This is the truth behind the housing mess and our government and banking regulators are engaged in an active cover-up to prevent recognition of the truth. Banks were given the ability to do other than "mark to market" earlier this year, and they have roundly abused this privilege to hold both first and second lines at ridiculously above market value.

There's more at the link. Bold print is Mr. Denninger's emphasis.


5. The authorities are conniving with the financial industry to actively conceal the root causes of the current crisis, and prevent anyone being held accountable for them. Zero Hedge points out that if continued, this may merely precipitate another, perhaps worse crash.

Why should we care if there has been a cover up?

Well, initially, if there has been activity which is harmful to the economy and may lead to another financial crisis, wouldn't we want to know about it, so that we prevent it from happening again?

The answer is obviously yes.

But if the government, Wall Street, and the media are all in cover-up mode, then independent auditors, financial analysts and economists cannot shine a light into financial practices to find out what really went wrong.

In addition, if we don't know what's really going on, we can't gauge whether the government's economic policies are working. For example, Time Magazine called Tim Geithner a "con man" and the stress tests a "confidence game" because those tests were so inaccurate.

William Black said: "How do you think we did the stress tests? Like doing a stress test on an airplane wing, but you don’t actually have [the] airplane wing. And [you] don’t know what [an] airplane wing is made out of. It’s a farce."

I agree.

Without accurate information, we will not know if we're heading in the right or the wrong direction.

Fraud

One of the foremost experts on structured finance and derivatives - Janet Tavakoli - says that rampant fraud and Ponzi schemes caused the financial crisis.

University of Texas economics professor James K. Galbraith agrees: "You had fraud in the origination of the mortgages, fraud in the underwriting, fraud in the ratings agencies."

Congress woman Marcy Kaptur says that there was rampant fraud leading up to the crash.

According to economist Max Wolff: "The securitization process worked by 'packag(ing), sell(ing), repack(aging) and resell(ing) mortages making what was a small housing bubble, a gigantic (one) and making what became an American financial problem very much a global' one by selling mortgage bundles worldwide 'without full disclosure of the lack of underlying assets or risks'. Buyers accepted them on good faith, failed in their due diligence, and rating agencies were negligent, even criminal, in overvaluing and endorsing junk assets that they knew were high-risk or toxic. "The whole process was corrupt at its core."

. . .

Indeed, as I have previously noted, the giant ratings agencies have a culture of covering up improper ratings (and they essentially took bribes for giving higher ratings).

. . .

The Economy Won't Recover Until We Prosecute

So there was a little fraud, no big deal, right?

Wouldn't looking backwards at fraudulent conduct be distracting for the people, the government, and the economy? Shouldn't we look forward so we can recover?

No.

Specifically, the Wharton School of Business has written an essay stating that restoring trust is the key to recovery, and that trust cannot be restored until wrongdoers are held accountable.

The Wharton paper states: "The public will need to 'hold the perpetrators of the economic disaster responsible and take what actions they can to prevent them from harming the economy again.' In addition, the public will have to see proof that government and business leaders can behave responsibly before they will trust them again..."

. . .

The stakes are high. As Pam Martens, who worked on Wall Street for 21 years, writes: "The massive losses by big Wall Street firms, now topping those of the Great Depression in relative terms, have yet to be adequately explained. Wall Street power players are obfuscating and Congress is too embarrassed or frightened to ask, preferring to just throw money at the problem and hope it goes away. But as job losses and foreclosures mount and pensions and 401(k)s shrink, public policy measures to address the economic stresses require a full set of unembellished facts...

"It was four years after the crash of 1929 before the major titans of Wall Street were forced to give testimony under oath to Congress and the full magnitude of the fraud emerged. That delay may well have contributed to the depth and duration of the Great Depression. The modern-day Wall Street corruption hearings in Congress ... must now resume in earnest and with sworn testimony if we are to escape a similar fate."

There's more at the link.

Friends, read Item 5 again. Then, read Item 3. Having done that, tell me: are you prepared to bet that our elected Representatives and Senators are collectively honest enough to resist the torrent of money that's being thrown at them, in an effort to prevent precisely such an investigation?

Uh-huh. Me neither. And that's why our economy continues to sink deeper into the toilet . . . because it's founded on fundamental, systemic dishonesty, from big business right through the legislative and executive branches of Government (and sometimes I wonder about the judicial arm, too!).

Keep your powder dry, friends. The storm's nowhere near over, and I have a feeling we're going to need it.

Peter