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  • Economic Perspective

    interesting perspective.... (hat tip Rickk)



    Oct 21, 2008

    Monetary despotism
    By Hossein Askari and Noureddine Krichene

    The combined recent liquidity injection by Western central banks could exceed US$4 trillion, yet that vast amount has created nothing real, not even one grain of corn.

    To summarize, continental Europeans a week ago, on October 13, following the British plan for UK bank recapitalization, unveiled a plan requiring $2.55 trillion to recapitalize their banks, at the same time promising unlimited dollar funding in coordinated action with the US Federal Reserve.

    The Fed, meanwhile, has injected $1.3 trillion in liquidity into the banking system and has decided to bypass banks and extend directly lending to borrowers. These sums certainly dwarf the $700 billion Troubled Assets Relief Plan (TARP) of US Treasury Secretary Henry Paulson and Federal Reserve chairman Ben Bernanke. If recent bailouts and liquidity injection are added together, the price tag could easily amount to 70% of US gross domestic product in 2008.

    Certainly, Western central banks have not injected this much in real gross domestic product, that is, in millions of tons of commodities (rice, corn, milk, oil, vegetables, clothing). If they had done so, their action would have been most beneficial. They have only created money out of nothing. Some call it legal robbery, others call legal counterfeiting.

    Their action has amounted only to a redistribution of real GDP and real wealth among two groups: the winners (bankers, debtors) and the losers (workers, taxpayers, pensioners, creditors). How will this redistribution take place? The answer is forced inflation.


    Bailouts schemes on such a scale have no precedent. They are the outcome of cheap money policy followed in the past decade and the sophisticated speculation, call it financial engineering or exotic finance, which developed complex derivatives, proliferating fictitious credit to gain abnormal returns.

    The speculative exponentiation of fictitious assets on the top of each other has made most banks over leveraged in ratios of 1 to 40. In a credit system devoid of securitization, the credit multiplier is finite and cannot exceed six or seven. In a system with securitization, the credit multiplier is theoretically infinite and in practice could reach 50. Certainly, these giant bailouts have changed the rules of the game. Speculators, that is asset funds managers, are now secured by central banks; it is a case of if heads, they win; if tails, taxpayers loose.

    The credit to be bailed out, or, if you will, the capital to be recapitalized, is not money that has been channeled to agriculture, industry, commerce, or infrastructure. These sectors rely on long-term capital, financed essentially through equities, or corporate, government or municipal bonds. All productive loans are fully performing and have negligible default.

    All the bailouts by central banks and governments are purely for replacing losses of short-term speculative capital that has caused the present financial trauma. Only speculative capital causes financial instability; such was indeed the cause of the Great Depression, brought about by default on speculative loans in stock markets.
    The bailouts are primarily intended to write off bad debts, so that borrowers can walk free of their debt obligations and enjoy the wealth they had acquired earlier on.

    Of course, in this new system of free lunch, everyone would like to become a borrower, as borrowing is the easiest way for acquiring free wealth in form of houses, cars, stocks, appliances and goods. Bailouts are meant to replenish liquidity of asset funds (such as hedge funds, equity funds and so forth) so their skilled managers can keep inventing complex products and earning high financial profits. Bailouts are also intended to buy intoxicated assets (identified in the alphabet soup of MBSs, CDSs, CDOs, and so on). Being free money, some of this money will be used for celebration and retreats in luxurious hotels.

    The banking and political establishment would have us believe that these bailouts are meant to save the banking system and allow the economy to borrow, credit markets to unfreeze, and economic prosperity to prevail.

    Academics, media and politicians have welcomed with applause the recapitalization of banks. Many have already declared victory, saying the worst is over and the crisis, thanks to this giant recapitalization, is fully resolved. Markets rebounded on the first day in a most spectacular way. Of course, and to be expected, the market then gave up more than its gain in the next two trading days. However, the biggest surprise was that banks unanimously rejected recapitalization but were forced to sign on. They wanted the TARP. This again shows that policy making is in a vacuum of factual data, sound economic analysis, and only follows political pressure or market hiccups.

    Economic uncertainty has never been as high. Has the crisis been correctly tackled or has it only been made worse? In view of incredibly huge liquidity injection by major central banks, has money supply become out of control? In view of the incredibly huge bailouts and recapitalization by governments, how will the fiscal deficit will be financed? How long will the crisis last? Which sectors and countries will it affect? What will be its impact on growth and employment? What will be its fiscal and inflationary cost? Will inflation finally run out of control? How soon will another, and far bigger, come due once speculation resurges again? What will be the social consequences among workers?

    Western central banks and political leaders, like ostriches, have decided to ignore these questions and perpetuate their misguided policies.

    While precise answers to these crucial questions are not possible, it is quite irresponsible not to assess the implications of such monumental bailouts. Absent economic modeling, assessing the macroeconomic consequences of these gigantic bailouts over the short-and-medium-term can only be based on economic theory, extrapolation of recent trends, and empirical experience.

    Many scenarios of economic and social chaos are possible, with intensity and duration that cannot easily be predicted. The most feared scenario would be forcefully maintaining unsustainable and overly expansionary fiscal and monetary policies that will rapidly erode real savings and investment, and ignite a runaway inflation and unemployment.

    This scenario will be in essence similar to Bernanke's aggressive expansionary policy since August 2007, which set off speculation in commodities markets, triggering food riots and sending food and energy prices to levels that finally disrupted transport sectors, brought world economic growth to a remarkable slowdown and triggered rising unemployment.

    Under this scenario, fiscal deficits will soar to unprecedented levels, public debt will rise rapidly, real savings and investment will decline, external deficits will widen, currency will depreciate, real incomes of workers will fall sharply, and real spending will sharply decline, causing unemployment to increase even more rapidly.

    As under former Fed chairman Alan Greenspan's credit boom, overabundance of liquidity combined with negative real interest does not help productive sectors; it only fuels speculation by asset funds, Ponzi financing, and deteriorating creditworthiness. Speculators will take advantage again of real negative interest rates and abundant liquidity to re-engage in asset and commodities speculation.

    On October 11, the Group of Seven leading industrialized nations stated in a communique that "Crisis Requires Urgent and Exceptional Action. We agree to: Take decisive action and use all available tools to support systemically important financial institutions and prevent their failure. Take all necessary steps to unfreeze credit and money markets and ensure that banks and other financial institutions have broad access to liquidity and funding. The actions should be taken in ways that protect taxpayers and avoid potentially damaging effects on other countries. We will use macroeconomic policy tools as necessary and appropriate."

    However, in of spite their declaration, Western central banks continue to reject adamantly the most important tools for stabilizing monetary policy, and only want to perpetuate, at any cost for the economy, the unsustainable monetary policy that brought about the present financial and fiscal chaos.

    It is not understood why Western central banks insist on a cheap money policy and on forcing negative real interest rates, despite the disastrous consequences. Bernanke wants to solve the financial crisis by still reducing the federal funds rate from its present 1.5%. What did he achieve with previous cuts? In an environment where many leading banks are overly leveraged and their assets are impaired, is 1.5% an equilibrium rate for interbank loans? Although the market mechanism is disrupted, could the equilibrium rate be 20% or 30% instead of 1.5%?

    The only plausible explanation for such negative real interest rates and massive bailouts is to force speculative losses on taxpayers and workers. Banks are forced into a loss-making situation under the threat of nationalization.

    The US and the European economies are recognized as the world's most advanced. Unfortunately, they have in the past decade suffered from central banking despotism. Greenspan ignored criticism for bailing out hedge funds such as LTCM as well as warnings regarding housing speculation. Bernanke and Paulson have only been aggravating financial instability and crippling economic growth.

    An economy cannot operate optimally or grow with such immense price distortions or inflationary price pressure. The G-7 has to have a coordinated approach for reining in money supply, re-introducing money and credit targets, and totally freeing interest rates and housing prices. The faster an economy returns to equilibrium prices, the faster recovery will be. In a context of supply-oriented and employment-promoting strategy, credit has to be selectively oriented to productive sectors and much less to speculation. The health of each bank has to be dealt on a case-by-case basis and over a long span of time.

    The credit crunch appeared only in speculative financing. If recapitalization is used to fuel speculative credit, then it will be too damaging for economic growth, as seen in the past year. The answer to the present crisis is how to reduce the speculative component of credit without reducing the circulating media (that is, protecting deposits) and how to reallocate credit to non-speculative and growth-generating sectors. These aspects have not been addressed by Western central banks.

    It would appear that the Fed and the European central banks have not learned the real lessons of the Great Depression. But they had better start soon.

    Hossein Askari is professor of international business and international affairs at George Washington University. Noureddine Krichene is an economist at the International Monetary Fund and a former advisor, Islamic Development Bank, Jeddah.

  • #2
    Re: Economic Perspective

    Question: What do you get when you put 4 economists in one room?

    Answer: 5 Opinions.


    I think that the banking system had to be stabilized as Step One. Without a semi-stable banking system, the rest of the economy would have been propelled into a depression tr?s rapidement. Many do not realize what the global impact of the bankruptcy of AIG would have been. Does this mean that the executives at AIG should conduct expensive meetings at spas? Absolutely not!

    The question is now - What is an effective Step Two?

    Comment


    • #3
      Re: Economic Perspective

      Bernanke: Congress Should Consider Stimulus <small>10/20/2008</small>

      Fed Chairman Ben Bernanke says lawmakers should consider a second stimulus package to limit the risk of a "protracted" slowdown in the economy. Video courtesy of Fox News. (Oct. 20)



      video -




      "..Testifying before the House Budget Committee, Mr. Bernanke called the outlook “exceptionally uncertain” and said the economy is “likely to be weak for several quarters.” As a result, he said a fiscal stimulus package by Congress “seems appropriate” and he raised the same timely-temporary-targeted criteria.

      Mr. Bernanke said an “ideal” package would not only boost spending and economic activity but would also offset the severe credit tightening, which has “the potential to extend or deepen” the slowdown. “If the Congress proceeds with a fiscal package, it should consider including measures to help improve access to credit by consumers, homebuyers, businesses, and other borrowers,” he said. “Such actions might be particularly effective at promoting economic growth and job creation.”



      Comment


      • #4
        Re: Economic Perspective

        Bernanke proposes another stimulus package...

        And what is the plan exactly for getting the country out from under this crushing load of debt? These people are behaving as if money was some abstract concept.

        We are going to have to scale back our quality of life significantly in order for any newly created wealth to pay for our basic needs PLUS this ever expanding debt load.

        Add a pandemic on top of that burden? It will not be pretty, folks.
        Separate the wheat from the chaff

        Comment


        • #5
          Re: Economic Perspective

          I can't keep track of all these billions of dollars being handed out.

          Someone may have to refresh my memory: what has been done with the first stimulus package so far?

          Or is this for part 2 of the CDS mess; the one where involved entities are supposed to come forward by tomorrow? (see the Black Swan thread).
          The salvage of human life ought to be placed above barter and exchange ~ Louis Harris, 1918

          Comment


          • #6
            Re: Economic Perspective

            It's hard to keep up with all this but I think at least a third of the first $700 billion bailout is being used to buy stakes in the banks to try and encourage them to lend. This was thought to be better than buying the toxic assests as was first proposed. I think it's thought that at least another third may need to be put toward increasing this stake in the banks...

            Apparently additional available fed money has been pumped into the banks to help with liquidity.

            The currently proposed stimulus package I think is directed more to the consumer to help stimulate the economy and possibly to help slow down the foreclosure rate. If the foreclosure rate could be tempered in a reasonable manner that would likely be positive overall for the economy although in the end housing prices and lending need to stablilize in a reasonable manner.

            It all seems to be a tight wire act with trying to not throw out the baby with the bathwater. Eventually interest rates will probably have to go up once inflation gets worse..

            And part of this is a moral dilemma developing around the huge sums of money in the cds market which is still a wild card (who is hoping to be paid and who owes them the money seems to still be pretty opaque at this point) (the unraveling of all this may lead to more bankruptcies which is contributing to everyone hoarding money) Just my understanding so far...

            Comment


            • #7
              Re: Economic Perspective

              Thanks Kent. You're doing a fine job of keeping up
              The salvage of human life ought to be placed above barter and exchange ~ Louis Harris, 1918

              Comment


              • #8
                Re: Economic Perspective

                I finally got around to reading this thread today and something I posted a little while back on another site sprang to mind so I have reposted below.

                Driving in the car I was listening to a rather strange BBC religious program about the ethical challenges faced by panelists of different faiths while working in the City of London’s financial markets (most gave up and took other jobs). The comment that stuck with me was by one panelist who had started in 1973 at which time, he said, the ratio of capital invested in industry (i.e. it was going to be used in the building of something tangible) to speculative investment (i.e. it was being put in to a vehicle whose sole purpose was to play the markets to turn a profit) was 9:1. He said the ratio was still 9:1 but the other way around.

                Quo Vadimus?

                Comment


                • #9
                  Re: Economic Perspective

                  Originally posted by kent nickell View Post
                  It's hard to keep up with all this but I think at least a third of the first $700 billion bailout is being used to buy stakes in the banks to try and encourage them to lend. This was thought to be better than buying the toxic assests as was first proposed. I think it's thought that at least another third may need to be put toward increasing this stake in the banks...

                  Apparently additional available fed money has been pumped into the banks to help with liquidity.

                  The currently proposed stimulus package I think is directed more to the consumer to help stimulate the economy and possibly to help slow down the foreclosure rate. If the foreclosure rate could be tempered in a reasonable manner that would likely be positive overall for the economy although in the end housing prices and lending need to stablilize in a reasonable manner.

                  It all seems to be a tight wire act with trying to not throw out the baby with the bathwater. Eventually interest rates will probably have to go up once inflation gets worse..

                  And part of this is a moral dilemma developing around the huge sums of money in the cds market which is still a wild card (who is hoping to be paid and who owes them the money seems to still be pretty opaque at this point) (the unraveling of all this may lead to more bankruptcies which is contributing to everyone hoarding money) Just my understanding so far...

                  This is my understanding too.

                  Comment


                  • #10
                    Re: Economic Perspective

                    WASHINGTON, DC-

                    The Treasury Department has released more details about its capital purchase program--the $250-billion capital injection it revealed last week. Some $125 billion is being made available to banks and financial institutions beyond the top nine institutions that initially signed on. Secretary Henry Paulson is urging all of the participating institutions to “deploy” the capital--i.e. lend it instead of using it to shore up balance sheets. Qualifying institutions can apply now; the deadline is Nov. 14.

                    The minimum subscription amount available is 1&#37; of risk-weighted assets; the maximum subscription amount is the lesser of $25 billion or 3% of risk-weighted assets. Treasury will fund the senior preferred shares purchased under the program by year-end 2008. These senior preferred shares will qualify as Tier 1 capital and will rank senior to common stock and pari passu. They will pay a cumulative dividend rate of 5% per annum for the first five years and will reset to a rate of 9% per annum after year five. They will be non-voting and callable at par after three years.

                    Prior to the end of three years, the senior preferred may be redeemed with the proceeds from an offering of any Tier 1 perpetual preferred or common stock. Treasury may also transfer the senior preferred shares to a third party at any time.

                    snip

                    Foreign-owned banks or to non-bank financial firms such as insurance companies or hedge funds are not eligible for the program – but they can still take part in other elements of the Treasury's Troubled Asset Relief Program. The newly created Office of Financial Stability will decide which eligible banks that apply ultimately get the cash infusions; considerable weight given to the recommendations of bank regulators, according to Paulson.


                    more..



                    Comment


                    • #11
                      Re: Economic Perspective

                      Two big accounting firms chosen for rescue program

                      By MARTIN CRUTSINGER ? 3 hours ago
                      WASHINGTON (AP) ? The government has selected two major accounting firms to help it manage the $700 billion rescue program for the financial system.


                      The Treasury Department said Tuesday it had chosen PricewaterhouseCoopers to be the auditor for the program. Ernst & Young will provide general accounting support.

                      The two firms will work on the part of the rescue program that is handling the purchase of troubled assets from banks as a way of encouraging them to resume more normal lending.


                      Treasury said that Ernst & Young will be paid $492,006.95 initially while Pricewaterhouse Coopers will be paid $191,469.27 for its services initially. The two contracts last until Sept. 30, 2011.


                      In a statement, Treasury said that the two firms will help the department with accounting and internal control services that will be needed "to administer the complex portfolio of troubled assets the department will purchase, including whole loans and mortgage-backed securities."
                      The govenrment still must select the five to 10 asset management firms that will actually run the program. Those selections could come as soon as this week.


                      Last week, Treasury Secretary Henry Paulson announced that the government would use $250 billion of the $700 billion rescue program to make direct purchases of bank stock as a way of boosting the banks' capital reserves. That will leave $100 billion of the initial $350 billion in the first phase of the program to purchase troubled assets.



                      Comment


                      • #12
                        Re: Economic Perspective

                        If the people who are not making payments get a re-negotiated mortgage, what about those who are making their payments?

                        "....Then Steve Sherman Sr. spoke. "I am one of those troubled borrowers not making any mortgage payments," Mr. Sherman said. The 61-year-old shipping and warehouse supervisor refinanced his house in Los Banos two years ago for $365,000, spending much of the new loan on home renovations. Now, he figures, the house is worth $140,000.

                        Mr. Sherman said that while he can afford his payments, he had planned to sell the house in a year or so to supplement his retirement income. But now, he figures, he couldn't afford to live there as a retiree. So four months ago he stopped writing mortgage checks, setting the cash aside in his retirement savings. He says he's waiting for his lender to kick him out or to reduce his loan amount. He'd also be happy for the government to modify his loan.

                        "I don't deserve a bailout," Mr. Sherman said. "Will I take one? You are darned right I will."....



                        more....

                        Comment


                        • #13
                          Re: Economic Perspective

                          not the martial-law Sherman from Congress, I assume.


                          USA tried to raise her estates from $7T to 20T so to cover her public debt of $10T

                          But her creditors no longer buy it

                          can I have a chart of US-soil (without buildings) vs. US-debt
                          I'm interested in expert panflu damage estimates
                          my current links: http://bit.ly/hFI7H ILI-charts: http://bit.ly/CcRgT

                          Comment


                          • #14
                            Re: Economic Perspective

                            Gsgs - I am not sure what you are asking for. Here is a site that will provide data on the U.S. economy to chart:

                            U.S. Department Chamber of Commerce - Bureau of Economic Analysis

                            Comment


                            • #15
                              Re: Economic Perspective

                              #14,
                              #13:
                              "... can I have a chart of US-soil (without buildings) vs. US-debt ..."

                              gsgs would speak for himself and explain it better, but from the above text seems that the meaning maybe was:
                              the value of all US terrain particles without buildings
                              versus
                              the whole present US deficit.

                              ___
                              Those were days when the money were gold and silver, or at least a bunch of paper couverted by an equal value in golden/.../ bars at gov. depots, instead of an virtual market voluble value ...

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