by Alex Evans | Feb 11, 2008 | Global system
Time to remind ourselves that while we’ve all been cooing over Obama and fretting over NATO cohesion, the small matter of the security of the world’s financial system has continued to smoulder. At dinner with a group of hedge fund analysts last week, it was abundantly clear that just because the issue has disappeared from the front pages for a time doesn’t mean it’s gone away: au contraire, one analyst was bluntly stating that all we’ve seen so far has been no more than the trailer.
Nouriel Roubini, bearish as ever (though let’s remember that he’s been consistently right so far), asks the big question:
Why did the Fed ease the Fed Funds rate by a whopping 125bps in eight days this past January? It is true that most macro indicators are heading south and suggesting a deep and severe recession that has already started. But the flow of bad macro news in mid-January did not justify, by itself, such a radical inter-meeting emergency Fed action followed by another cut at the formal FOMC meeting.
To understand the Fed actions one has to realize that there is now a rising probability of a “catastrophic” financial and economic outcome, i.e. a vicious circle where a deep recession makes the financial losses more severe and where, in turn, large and growing financial losses and a financial meltdown make the recession even more severe. The Fed is seriously worried about this vicious circle and about the risks of a systemic financial meltdown.
So to cheer you on your way on a foggy London morning in February, here’s Roubini’s 12-step “‘nightmare’ or ‘catastrophic’ scenario that the Fed and financial officials around the world are now worried about” – which “has a rising and significant probability of occurring”. Here’s the executive summary for those of you too lazy to set up a free subscription to read the whole thing:
1. This is already the worst housing recession in US history; prices will fall 20-30% from their peak. That would imply about 10 million homes in negative equity.
2. Financial system subprime losses are now estimated at $250 to $300 billion; and now spreading to near-prime and prime, through the same lax lending criteria: “this is a generalized mortgage crisis and meltdown, not just a subprime one”. And don’t forget all the off-balance sheet Structured Investment Vehicles etc., and the fact that “because of securitization the securitized toxic waste has been spread from banks to capital markets and their investors in the US and abroad, thus increasing – rather than reducing systemic risk – and making the credit crunch global”.
3. “The recession will lead – as it is already doing – to a sharp increase in defaults on other forms of unsecured consumer debt: credit cards, auto loans, student loans.” All of which makes the credit crunch even more severe – and takes it from large banks through to smaller banks. [Loan companies are already scrambling to tighten up lending criteria in the UK, as the FT set out over the weekend.]
4. “While there is serious uncertainty about the losses that monolines will undertake on their insurance of RMBS, CDO and other toxic ABS products, it is now clear that such losses are much higher than the $10-15 billion rescue package that regulators are trying to patch up.” As a result, their debt rating will probably get downgraded; which will lead to large losses for funds that invested in them, and another sharp drop in US equity markets. [For more background, here’s a story about monolines from last week that made the front page of the FT.]
5. Next, “the commercial real estate loan market will soon enter into a meltdown similar to the subprime one”, thanks to – guess what? – similarly reckless lending criteria. So, “the housing crisis will lead – with a short lag – to a bust in non-residential construction as no one will want to build offices, stores, shopping malls/centers in ghost towns”. [FT last week: outflows from UK commercial property up 76 per cent from third quarter.]
6. It’s entirely possible that a large regional or even national bank will go bust. “The Fed will have to reaffirm the implicit doctrine that some banks are too big to be allowed to fail. But these bank bankruptcies will lead to severe fiscal losses of bank bailout and effective nationalization of the affected institutions.” [Sound familiar?]
7. Bank losses on leveraged loans are already large, and rising – “leading to a freezing up of the CDO market and to growing losses for financial institutions”.
8. “Once a severe recession is underway a massive wave of corporate defaults will take place.” Roubini adds, “in a typical year US corporate default rates are about 3.8% (average for 1971-2007); in 2006 and 2007 this figure was a puny 0.6%. And in a typical US recession such default rates surge above 10%.”
9. The “shadow financial system” – non-bank financial institutions – will shortly get into serious trouble. And unlike proper banks, “these non-bank financial institutions don’t have direct or indirect access to the central bank’s lender of last resort support as they are not depository institutions”.
10. Stock markets in the US and abroad will start pricing in a severe recession rather than just a slowdown. Roubini notes that “in a typical US recession the S&P 500 falls by about 28%”.
11. Liquidity in financial markets will dry up all over again; the easing pf the liquidity crunch after central banks’ massive interventions in December and January will reverse.
12. “A vicious circle of losses, capital reduction, credit contraction, forced liquidation and fire sales of assets at below fundamental prices will ensue leading to a cascading and mounting cycle of losses and further credit contraction”.
All in all:
A near global economic recession will ensue as the financial and credit losses and the credit crunch spread around the world. Panic, fire sales, cascading fall in asset prices will exacerbate the financial and real economic distress as a number of large and systemically important financial institutions go bankrupt. A 1987 style stock market crash could occur leading to further panic and severe financial and economic distress. Monetary and fiscal easing will not be able to prevent a systemic financial meltdown as credit and insolvency problems trump illiquidity problems. The lack of trust in counterparties – driven by the opacity and lack of transparency in financial markets, and uncertainty about the size of the losses and who is holding the toxic waste securities – will add to the impotence of monetary policy and lead to massive hoarding of liquidity that will exacerbates the liquidity and credit crunch…
Can the Fed and other financial officials avoid this nightmare scenario that keeps them awake at night? The answer to this question – to be detailed in a follow-up article [here] – is twofold: first, it is not easy to manage and control such a contagious financial crisis that is more severe and dangerous than any faced by the US in a quarter of a century; second, the extent and severity of this financial crisis will depend on whether the policy response – monetary, fiscal, regulatory, financial and otherwise – is coherent, timely and credible. I will argue – in my next article – that one should be pessimistic about the ability of policy and financial authorities to manage and contain a crisis of this magnitude; thus, one should be prepared for the worst, i.e. a systemic financial crisis.
by Richard Gowan | Jan 30, 2008 | North America
Kurt Andersen of New York nicely sums up the growing sense that the last nine months of American politics may actually have been a farrago of nonsense:
Giuliani can never win; he’s the huge favorite; he’s nearly a goner. McCain’s the front-runner; he’s imploded; he’s the presumptive nominee. Obama is exciting; he has no traction; he’s unstoppable; he’s in tough shape. Huckabee’s a joke; he’s caught fire; he’s out of it. Clinton is inevitable; she’s over; she’s inevitable. And so on. Each of these statements has been the conventional wisdom, serially uttered with conviction. But is the status quo ante now finally and irrevocably reasserting itself? A year ago, McCain polled between 25 and 30 percent among Republicans, and was considered the likely nominee—but Romney also had a chance. Today, McCain is polling between 25 and 30 percent and is considered the likely nominee—but Romney may have a chance. A year ago, Clinton was the Democratic front-runner, polling as high as 41 percent—although Obama had a shot. Today, once again, she’s the favorite, with poll numbers averaging 41.7 percent—although Obama still has a shot. All the twists and turns notwithstanding, it seems that we’re in a closed loop, where at the end we find ourselves exactly where we started.
That’s probably not much comfort to the last man to endorse Rudy Giuliani.
by Alex Evans | Jan 19, 2008 | North America, Off topic
Matt Yglesias finds Barack Obama charming voters in Nevada:
“Because I’m like, an ordinary person, I thought that they meant what’s your biggest weakness?” Mr. Obama said. “So I said, ‘Well, I don’t handle paper that well. You know, my desk is a mess. I need somebody to help me file and stuff all the time.’ So the other two they say uh, they say well my biggest weakness is ‘I’m just too passionate about helping poor people. I am just too impatient to bring about change in America.”
As the room erupts in laughter, he continues: “If I had gone last I would have known what the game was. I could have said, ‘Well you know, I like to help old ladies across the street. Sometimes they don’t want to be helped. It’s terrible.’”
It brings to mind the old favourite about a hapless British Ambassador to Washington many years ago:
The British Ambassador was in Washington some years back. About a fortnight before Christmas he was rung up by the local T.V. Station. “Ambassador,” said the caller, “What would you like for Christmas?” “I shouldn’t dream of accepting anything.” “Seriously, we would like to know and don’t be stuffy. You have after all been very kind to us during the year.” “Oh well, if you absolutely must, I would like a small box of crystallised fruits.”
He thought no more about it until Christmas Eve when he switched on the T.V. “We have had a little Christmas survey all of our own,” said the announcer. “We asked three visiting Ambassadors what they would like for Christmas. The French Ambassador said: ‘Peace on earth, a great interest in human literature and understanding, and an end to war and strife.’ Then we asked the German Ambassador and he said: ‘A great upsurge in international trade, ensuring growth and prosperity, particularly in the underdeveloped countries. That is what I wish for Christmas.’ And then we asked the British Ambassador and he said he would like a small box of crystallised fruits.”
by Alex Evans | Jan 11, 2008 | Influence and networks, North America
As Steve Benen noted yesterday on The Carpetbagger Report, “it’s become a little too common for Republicans to use torture techniques as a litmus test for Republican fealty”. Here, for instance, is the National Review’s Kathryn Jean Lopez, quoted in Benen’s post:
I don’t see how [John McCain] wins the Republican nomination. I’m second to none in praising him on his surge leadership. But on a whole host of issues — including water boarding, tax cuts, and the freedom of speech — he’s not one of us.
All of which raises the question – how on earth did torture become a key component of serious GOP credentials? Prior to September 11, it would have been bizarre for even heavily hawkish Republicans to come out openly in favour of torture; it would have been fundamentally at odds with the basic ‘land of the free’ frame of reference that tended to accompany such politics during the Cold War and thereafter. Sure, hard-edged hawks might tacitly have supported torture in some circumstances – but openly? Not a chance.
Nor do I think that the fact of 9/11 itself really explains why Republicans would start to support torture openly as a qualification for being ‘one of us’. Yes, the attack gave America a shock; yes, it lit the touchpaper of a politics of fear, and of retribution towards ‘America’s enemies’. But remember the widespread narrative of ‘they hate us because of our freedoms’ (questionable, but leave that aside). In that light, it’s still hard to see why even tough hawks would want to be seen to be supporting torture.
No, I think the real answer lies instead in the astonishing polarisation of US politics – the roots of which lie much further back than 9/11. My hunch is that open Republican support for torture has grown in direct proportion to open Democrat opposition to it – because if the Democrats get this fired up about it, then it must be the right thing to do.
I suspect that there’s some kind of law of political system dynamics here, whereby if a political system has moved from a centrist consensus to a bifurcated / polarised system, then a force on one wing will naturally lead to a countervailing force on the other – with an attendant risk of positive feedbacks / amplified extremism on both wings. (In this sense, the red / blue divide in the US can absolutely be compared to the ideological divide between sacred and secular worldviews – look at the Danish cartoons episode.)
In such a system, it’s easy for a few key dividing lines to become generally agreed on by both sides as an efficient tool for differentiating ‘one of us’ from ‘one of them’. In other words: how did torture become a key identification issue for Republicans? Because the Democrats championed it first as a dividing line.
Of course, I’m a hundred per cent with the Democrats (and John McCain) on the issue of torture. I just think that opposition to it would have been more effective had it come from a centrist institution, respected by both red and blue, rather than from one wing of a system at war with itself. The most worrying thing about the US is that it seems – from this side of the Atlantic, at least – to suffer from a deficit of such centrist institutions.
And that’s why John McCain is a valuable candidate. It may be pushing it to call him ‘centrist’ – but he blurs the red / blue battle lines, and he’s perceived by both sides as having integrity. In their different ways, John McCain and Barack Obama – with his language of ‘hope’ and ‘change’ – both represent an acknowledgement of the need for some kind of rapprochement between red and blue America. But out of the two, it’s John McCain who currently looks the more credible prospect for achieving that goal.
by David Steven | Jan 9, 2008 | North America
While you’re all focused on the important political issues – Clinton/Obama; McCain/Huckabee/Romney – I have continued to enjoy the Ron Paul insurgency, which now appears to be entering its final phase.
Paul, you will remember, built a fanatic online following, raised oodles of money (over $6m in just one day), but failed to build much real world support (8% in New Hampshire, just behind Rudy Giuliani).
Now the New Republic has really put the boot in with a devastating article on the skeletons in Paul’s (seemingly capacious) closet. Sample extract from an eight-page Paul fund raising letter sent out during the presidency of Bush-the-elder:
I have unmasked the plot for world government, world money, and world central banking. Planned exchange controls to hold you hostage…while the dollar drops down a hole…
I revealed the Red debt bomb set to explode in your bank account…The real, financial reasons Bush invaded Panama. The nightmare of a ‘cashless society’ (watch out for it, if they get away with the New Money)…
I’ve been told not to talk, but these stooges don’t scare me. Threats or not threats, I’ve laid bare the coming race war in our big cities. The federal-homosexual cover-up on AIDS (my training as a physician helps me see through this one.)
The Bohemian Grove – perverted, pagan playground of the powerful Skull & Bones: the demonic fraternity that includes George Bush and leftist Senator John Kerry, Congress’s Mr New Money. The Israeli lobby, which plays Congress like a cheap harmonica. And the Soviet-style ‘smartcard’ the Justice Department has in mind for you.
Paul’s reaction? He didn’t write any of the offending letters or newsletters, but takes “moral responsibility for not paying closer attention to what went out under my name.”
Lew Rockwell, a key Paul supporter, has an even-more amusing take. Paul’s opponents are now ‘scared and desperate’:
I think that what people should take from this is the obvious: this story appeared at this point and time, using this very “hot” theme, because the old media establishment that tries its best to support the Washington DC political establishment is darn near spooked by the power wielded by a bunch of grassroots Moms, Dads, college kids, Grandmas, and blue-collar Joes who have had enough of the current system and its choke hold on their ability to live their lives unencumbered.
Freedom has gained some popularity in the heartland and in the home, thanks to Dr. Paul, and that won’t be tolerated by the controlling bastards in power or the inconsequential media hacks like Kirchick and the New Republic.
Of course, there’s a small grain of truth in what Rockwell says. The ‘controlling bastards’ probably have got what matters to them most. A near-certainty that Paul won’t now run as an independent, siphoning off a small, but potentially critical, protest vote…
