- The point is, Bernanke's latest scheme is not a remedy
for the tribulations of the dollar and the unwinding of bad bets. It
is merely a quick-fix to avoid a bloody stock market crash brought on by
prevailing conditions in the credit markets.
-
- Bernanke coordinated the action with the other members
of the global banking cartel-The Bank of Canada, the Bank of England, the
European Central Bank, the Federal Reserve, and the Swiss National Bank-and
cobbled together the new Term Securities Lending Facility (TSLF), which
"will lend up to $200 billion of Treasury securities to primary dealers
secured for a term of 28 days (rather than overnight, as in the existing
program) by a pledge of other securities, including federal agency debt,
federal agency residential-mortgage-backed securities (MBS), and non-agency
AAA/Aaa-rated private-label residential MBS. The TSLF is intended to promote
liquidity in the financing markets for Treasury and other collateral and
thus to foster the functioning of financial markets more generally."
(Fed statement)
-
- The plan, of course, is wildly inflationary and will
put additional downward pressure on the anemic dollar. No matter. All of
the Fed's tools are implicitly inflationary anyway, but they'll all be
put to use before the current crisis is over.
-
- The Fed's statement continues: "The Federal Open
Market Committee has authorized increases in its existing temporary reciprocal
currency arrangements (swap lines) with the European Central Bank (ECB)
and the Swiss National Bank (SNB). These arrangements will now provide
dollars in amounts of up to $30 billion and $6 billion to the ECB and the
SNB, respectively, representing increases of $10 billion and $2 billion.
The FOMC extended the term of these swap lines through September 30, 2008."
-
- So, why is the Fed issuing loans to foreign banks? Isn't
that a tacit admission of its guilt in the trillion dollar subprime swindle?
Or is it simply a way of warding off litigation from angry foreign investors
who know they were cheated with worthless toxic bonds? In any event, the
Fed's largess proves that the G-10 operates as de facto cartel determining
monetary policy for much of the world. (The G-10 represents roughly 85%
of global GDP)
-
- As for Bernanke's Term Securities Lending Facility (TSLF)
it is intentionally designed to circumvent the Fed's mandate to only take
top-grade collateral in exchange for loans. No one believes that these
triple A mortgage-backed securities are worth more than $.70 on the dollar.
In fact, according to a report in Bloomberg News yesterday: "AAA debt
fell as low as 61 cents on the dollar after record home foreclosures and
a decline to AA may push the value of the debt to 26 cents, according to
Credit Suisse Group.
-
- "The fact that they've kept those ratings where
they are is laughable," said Kyle Bass, chief executive officer of
Hayman Capital Partners, a Dallas-based hedge fund that made $500 million
last year betting lower-rated subprime-mortgage bonds would decline in
value. "Downgrades of AAA and AA bonds are imminent, and they're going
to be significant." Bass estimates most of AAA subprime bonds in the
ABX indexes will be cut by an average of six or seven levels within six
weeks." (Bloomberg News) The Fed is accepting these garbage bonds
at nearly full-value. Another gift from Santa Bernanke.
-
- Additionally, the Fed is offering 28 day repos which
- if this auction works like the Fed's other facility, the TAF - the loans
can be rolled over free of charge for another 28 days. Yippee. The Fed
found a way to recapitalize the banks with permanent rotating loans and
the public is none the wiser. The capital-starved banksters at Citi and
Merrill must feel like they just won the lottery. Unfortunately, Bernanke's
move effectively nationalizes the banks and makes them entirely dependent
on the Fed's fickle generosity.
-
- The New York Times` Floyd Norris sums up Bernanke's efforts
like this:
-
- The Fed's moves today and last Friday are a direct effort
to counter a loss of liquidity in mortgage-backed securities, including
those backed by Fannie Mae and Freddie Mac. Given the implied government
guarantee of Freddie and Fannie, rising yields in their paper served as
a warning sign that the crunch was worsening and investor confidence was
waning. On Oct. 30, the day before the Fed cut the Fed funds rate from
4.75 percent to 4.5 percent, the yield on Fannie Mae securities was 5.75
percent. Today the Fed Funds rate is 3 percent, and the Fannie Mae rate
is 5.71 percent, virtually the same as in October A sign of the Fed's success,
or lack of same, will be visible in that rate. It needs to come down sharply,
in line with Treasury bond rates. Today, the rate was up for most of the
day, but it did fall back at the end of the day. Watch that rate for the
rest of the week to see indications of whether the Fed's move is really
working to restore confidence.
-
- Norris is right; it all depends on whether rates go down
and whether that will rev-up the moribund housing market again. Of course,
that is predicated on the false assumption that consumers are too stupid
to know that housing is in its biggest decline since the Great Depression.
This is just another slight miscalculation by the blinkered Fed. Housing
will not be resuscitated anytime in the near future, no matter what the
conditions; and you can bet on that. The last time Bernanke cut interest
rates by 75 basis points mortgage rates on the 30-year fixed actually went
up a full percentage point. This had a negative affect on refinancing as
well as new home purchases. The cuts were a total bust in terms of home
sales.
-
- Still, equities traders love Bernanke's antics and, for
the next 24 hours or so, he'll be praised for acting decisively. But as
more people reflect on this latest manuver, they'll see it for what it
really is; a sign of panic. Even more worrisome is the fact that Bernanke
is quickly using every arrow in his quiver. Despite the mistaken belief
that the Fed can print money whenever it chooses; there are balance sheets
constraints; the Fed's largess is finite. According to MarketWatch:
-
- Counting the currency swaps with the foreign central
banks, the Fed has now committed more than half of its combined securities
and loan portfolio of $832 billion, Lou Crandall, chief economist for Wrightson
ICAP noted. The Fed won't have run completely out of ammunition after these
operations, but it is reaching deeper into its balance sheet than before.
-
- Steve Waldman at interfluidity draws the same conclusion
in his latest post:
-
- "After the FAF expansion, repo program, and TSLF,
the Fed will have between $300B and $400B in remaining sterilization capacity,
unless it issues bonds directly." (Calculated Risk)
-
- So, Bernanke is running short of ammo and the housing
bust has just begun. That's bad. As the wave of foreclosures, credit card
defaults and commercial real estate bankruptcies continue to mount; Bernanke's
bag o' tricks will be near empty having frittered most of his capital away
on his Beluga-munching buddies at the investment banks.
-
- But that's only half the story. Bernanke and Co. are
already working on a new list of hyper-inflationary remedies once the credit
troubles pop up again. According to the Wall Street Journal, the Fed has
other economy-busting scams up its sleeve:
-
- With worsening strains in credit market threatening to
deepen and prolong an incipient recession, analysts are speculating that
the Federal Reserve may be forced to consider more innovative responses
- perhaps buying mortgage-backed securities directly.
-
- As credit stresses intensify, the possibility of unconventional
policy options by the Fed has gained considerable interest, said Michael
Feroli of J.P. Morgan Chase. He said two options are garnering particular
attention on Wall Street: Direct Fed lending to financial institutions
other than banks and direct Fed purchases of debt of Fannie Mae and Freddie
Mac or mortgage-backed securities guaranteed by the two shareholder-owned,
government-sponsored mortgage companies. ( "Rate Cuts may not be Enough",
David Wessel, Wall Street Journal)
-
- Wonderful. So now the Fed is planning to expand its mandate
and bail out investment banks, hedge funds, brokerage houses and probably
every other brandy-swilling Harvard grad who got caught-short in the subprime
mousetrap. Ain't the "free market" great?
-
- But none of Bernanke's bailout schemes will succeed.
In fact, all he's doing is destroying the currency by trying to reflate
the equity bubble. And how much damage is he inflicting on the dollar?
According to Bloomberg, "the risk of losses on US Treasury notes exceeded
German bunds for the first time ever amid investor concern the subprime
mortgage crisis is sapping government reserves Support for troubled financial
institutions in the U.S. will be perceived as a weakening of U.S. sovereign
credit."
-
- America is going broke and the rest of the world knows
it. Bernanke is just speeding the country along the ever-steepening downward
trajectory.
-
- Timothy Geithner, President of the New York Fed put it
like this:
-
- The self-reinforcing dynamic within financial markets
has intensified the downside risks to growth for an economy that is already
confronting a very substantial adjustment in housing and the possibility
of a significant rise in household savings. The intensity of the crisis
is in part a function of the size of the preceding financial boom, but
also of the speed of the deterioration in confidence about the prospects
for growth and in some of the basic features of our financial markets.
The damage to confidence-confidence in ratings, in valuation tools, in
the capacity of investors to evaluate risk-will prolong the process of
adjustment in markets. This process carries with it risks to the broader
economy.
-
- Without a hint of irony, Geithner talks about the importance
of building confidence on a day when the Fed has deliberately distorted
the market by injecting $200 billion in the banking system and sending
the flagging stock market into a steroid-induced rapture. Astonishing.
-
- The stock market was headed for a crash this week, but
Bernanke managed to swerve off the road and avoid a head-on collision.
But nothing has changed. Foreclosures are still soaring, the credit markets
are still frozen, and capital is being destroyed at a faster pace than
any time in history. The economic situation continues to deteriorate and
even unrelated parts of the markets have now been infected with subprime
contagion. The massive deleveraging of the banks and hedge funds is beginning
to intensify and will continue to accelerate until a bottom is found. That's
a long way off and the road ahead is full of potholes.
-
- "In the United States, a new tipping point will
translate into a collapse of the real economy, final socio-economic stage
of the serial bursting of the housing and financial bubbles and of the
pursuance of the US dollar fall. The collapse of US real economy means
the virtual freeze of the American economic machinery: private and public
bankruptcies in large numbers, companies and public services closing down
massively." (Statement from The Global Europe Anticipation Bulletin
(GEAB)
-
- Is that too gloomy? Then take a look at these eye-popping
charts which show the extent of the Fed's lending operations via the Temporary
Auction Facility. The loans have helped to make the insolvent banks look
healthy, but at great cost to the country's economic welfare.
-
- The Fed established the TAF in the first place; to put
a floor under mortgage-backed securities and other subprime junk so the
banks wouldn't have to try to sell them into an illiquid market at fire-sale
prices. But the plan has backfired and now the Fed feels compelled to contribute
$200 billion to a losing cause. It's a waste of time.
-
- UBS puts the banks total losses from the subprime fiasco
at $600 billion. If that's true, (and we expect it is) then the Fed is
out of luck because, at some point, Bernanke will have to throw in the
towel and let some of the bigger banks fail. And when that happens, the
stock market will start lurching downward in 400 and 500 point increments.
But what else can be done? Solvency can only be feigned for so long. Eventually,
losses have to be accounted for and businesses have to fail. It's that
simple.
-
- So far, the Fed's actions have had only a marginal affect.
The system is grinding to a standstill. The country's two largest GSEs,
Fannie Mae and Freddie Mac, which are presently carrying $4.5 trillion
of loans on their books, are teetering towards bankruptcy. Both are gravely
under-capitalized and (as a recent article in Barron's shows) Fannies equity
is mostly smoke and mirrors. No wonder investors are shunning their bonds.
Additionally, the cost of corporate bond insurance is now higher than anytime
in history, which makes funding for business expansion or new projects
nearly impossible. The wheels have come of the cart. The debt markets are
upside-down, consumer confidence is drooping and, as the Financial Times
states, "A palpable sense of crisis pervades global trading floors."
It's all pretty grim.
-
- The banks are facing a "systemic margin call"
which is leaving them capital-depleted and unwilling to lend. Thus, the
credit markets are shutting down and there's a stampede for the exits by
the big players. Bernanke's chances of reversing the trend are nil. The
cash-strapped banks are calling in loans from the hedge funds which is
causing massive deleveraging. That, in turn, is triggering a disorderly
unwind of trillions of dollars of credit default swaps and other leveraged
bets. Its a disaster. Economist Nouriel Roubini predicted the whole sequence
of events six months before the credit markets seized and the Great Unwind
began". Here's a sampling of his recent testimony before Congress:
-
- Roubini's Testimony before Congress:
-
- There is now a rising probability of a "catastrophic"
financial and economic outcome; 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 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. In illiquid market actual market prices are now even
lower than the lower fundamental value that they now have given the credit
problems in the economy. Market prices include a large illiquidity discount
on top of the discount due to the credit and fundamental problems of the
underlying assets that are backing the distressed financial assets. Capital
losses will lead to margin calls and further reduction of risk taking by
a variety of financial institutions that are now forced to mark to market
their positions. Such a forced fire sale of assets in illiquid markets
will lead to further losses that will further contract credit and trigger
further margin calls and disintermediation of credit.
-
- To understand the risks that the financial system is
facing today I present the "nightmare" or "catastrophic"
scenario that the Fed and financial officials around the world are now
worried about. Such a scenario - however extreme - has a rising and significant
probability of occurring. Thus, it does not describe a very low probability
event but rather an outcome that is quite possible.
-
- Roubini has been right from the very beginning, and he
is right again now. Bernanke can place himself at the water's edge and
lift his hands in defiance, but the tide will come in and wash him out
to sea anyway. The market is correcting and nothing is going to stop it.
-
-
- Roubini's Nightmare Scenario: A Vicious Circle Ending
In A Systemic Financial Meltdown
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