The Price Of ‘Confidence’
Article By: John Schettler

Wall Street bounded back on sheer hope that the G-7 would finally fix the problem. But by my count we’re waking up some $7 trillion poorer than we were before the banks threw their panic tantrum. And this is just the down payment on the new trick mortgage they’re selling America. Wait until you hear what they plan  to do with the free money from Uncle Sam...

George Orwell is smiling from his grave. Now we have yet another government minister added to the pantheon—the Secretary of Financial Stability. His Job? Supervise the largest tax hike ever seen in the history of the world to repay insolvent banks for the appalling losses they gambled away with irresponsible lending, and massively over leveraged derivatives schemes. The first hundred billion gets doled out to the top four US banks. BofA, Morgan Chase, CitiGroup, and Wells Fargo each get a nice piece of candy in their trick or treat bag this October--a cool $25 billion. Where does this money come from? You and me…the fabled “Joe Sixpacks” and the “Hockey Moms” Sarah Palin was flirtatiously winking and nodding at all through her storied debate. (Could any male VP candidate get away with those sexy little smiles and winks in a national election?)

Governments get money in one of two ways: 1) by mandating and collecting taxes, or 2) by simply printing it on a printing press, though in our case congress assigned that task to “the Federal Reserve.” Either way, we pay. Once upon a time the amount they could print was limited by the amount of gold they could keep in reserve, but those days are long gone. The only thing we have in reserve now to back our money is the “Fed,”  a conglomeration of private banks that were empowered by congress to print and distribute the nation’s currency. That’s why your dollars all read “Federal Reserve Note.” When the banking system needs money, these private banks simply crank up the printing presses and  create it. What an enormous privilege! You would think that remarkable power would satisfy the greediest of all banker’s hearts. But no—the Fed wasn’t quite happy with that. They decided, like all bankers must, that after they printed this money out of thin air, the price for their management of its timely and orderly circulation through our economy would be a nice little six percent interest fee. So for every dollar the Fed prints, it pockets six cents in interest. Nice work, when you can get it, eh?

The banks also have a nice little game going called “fractional reserve lending.” Joe Sixpack thinks of the bank as a place where he deposits his meager paycheck to keep it safe so he can write checks to pay his rent, utilities and credit card bills. He thinks the banks then help keep the economy growing by lending some of that money out  to people who need cars and homes and business inventory. He’s very, very wrong about this. The banks don’t lend just some of that money out, they lend it all out, and then some. In fact, they lend out ten times the amount they actually have in reserve in their vaults. (Their reserve is just a fraction of what they lend). Not only that…they also “invest” money in a whole range of financial schemes that people have vaguely become familiar with in recent days, things like CDOs, (Collateralized Debt Obligations), SIVs (Structured Investment Vehicles) and those shadowy “Derivatives” we keep hearing about like “Credit Default Swaps.”

Before the 1929 stock market crash, people used to buy stocks on “margin.” This meant you could take ten bucks and get ten times that amount in stock. If your stock went up, you could sell and make big profits from that tiny ten dollar investment. If your stock went down, you would be hit with a “margin call.” The broker would call you and say that stock you bought at $1 a share is now only worth fifty cents. Since you bought on margin, and received 100 shares, we’re now calling in that debt. You owe us a hundred bucks—now. You could try selling your 100 shares to raise fifty bucks of that, but there are no buyers, and the price keeps falling. That’s what prompted folks to jump from the highest building they could find. They were wiped out overnight.

This is, in effect, what has happened to all the world’s major banks, including the lion’s share of all banks in the United States. Buying on margin is leveraged investment, and the banks used all these crazy schemes to leverage themselves at ratios of 30 to 1 or higher. (Fannie & Freddie were leveraged much higher, as much as 200-1 !!!) A lot of their bets were collateralized by the artificially engineered “housing boom” here in the US. The mortgages were issued to anyone with a pulse and then used  as collateral for the sale of “securities”… things that are supposed to be secure and safe. Since they designed the mortgages to explode with skyrocketing payment schedules that would easily break borrower’s ability to repay, they were far from secure.

The bankers knew this from the very first, but they didn’t care. They used that most sacred commodity of “trust and confidence in the system” as a way to dupe someone into buying their securities and, in a nice little gentlemen’s agreement, they began trading them all over the world. Ratings agencies got into the game, just like housing appraisers, and rated them all “AAA.” Insurance companies got into the game and “guaranteed” them. Confidence boomed, securities ballooned to countless trillions of dollars, more than the total combined assets of all banks and nations on earth by a factor of ten! Enormous profits were made and paid to brokers, bankers, CEOs who took a little slice of each transaction in commissions, points, fees and interest. Even when the firms went bust they jumped to safety with huge golden parachutes. Did you know that some $70 billion is going to be paid out to executives in these failed institutions as bonus money this year? A relatively small group of people got enormously wealthy. They bought real estate, art, gold, and hired private security firms to guard it for them.

Then the game went bust. The broken borrowers stopped paying, the mortgages defaulted, the houses depreciated, the collateral eroded away to a negative asset, and the banks, insurance companies, municipalities, pension funds, state issued bonds and sovereign nations that bought all these “securities” suddenly realized they were holding worthless paper. The wan smiles of bankers, as they realized the scam had been uncovered, were soothed by accounting tricks. They created a special place in their books to write down all these bad investments, and pretended they weren’t really there. In effect, bank after bank was actually insolvent, just like that guy who bought 100 shares for ten bucks. As housing values plummeted, and because banks lent out ten times the money they actually had, and further leveraged that at 30 to 1, they were all in deep the red. So they asked the “Fed” to lend them more money to try and fill up the massive debt hole they created, and to make their point, the banks just stopped lending to anyone else until they got their money.

Which reminds me of a good joke I heard once about an argument the body was having with itself over who was in charge. The brain laughed and stated that it was obvious it was in charge, regulating everything else from its lofty position at the top, just like our government. But the heart came back and said that without its steady beat the brain would soon have no oxygen, and so it was really in charge, just like ‘we the people.’ Then the stomach pointed out that it was the one that supplied all the nutrients that allowed the heart and brain to function, so it was the boss, like the real economy working its will through ‘free markets.’ These three argued back and forth for hours, not even noticing the plaintive cry from below, as the asshole claimed that, because it accounted for all the body’s toxic waste, it was actually in charge. All the other body systems heard this and broke into raucous laughter. So the asshole decided to prove its point and clamped shut tighter than a clam. A few days later the stomach was sick and the heart faltering and the brain in a feverish fit of panic. And they all gave up their argument and admitted it—that sometimes the boss can be a real asshole.

This is what the banks just pulled. They decided to stop lending—clamped shut tighter than a clam, and it was only a matter of weeks before the rest of the national body was in a feverish panic and giving them exactly what they wanted: money—lots and lots of new money to pay off all their bad debts.

The Fed asked Congress for permission to start shoveling money into that massive black hole like horse manure. Paulson and Bernanke went to Congress with words like “panic” and “meltdown” and “martial law” on their lips. The Government authorized $700 billion, and that was added to the bailouts they had already authorized for Fannie & Freddie, Bear Stearns, AIG, GM & Chrysler and others. The US committed well over a trillion dollars to rescue the banks. The Fed opened its window and accepted the banks’ toxic junk for treasury certificates, allowing another cool trillion in short term bank borrowing—that’s a lot of six packs, Joe. But it wasn’t enough. The bankers cry became more shrill: “Pay up—or we’ll panic!” So the G7 had a secret meeting and Europe chipped in a combined bailout package exceeding two trillion, with a good chunk earmarked to buy equity positions in major banks through stock purchases. The latest new “program” is a $540 billion Fed backstop for short term Money Market accounts--another half trillion quietly lost in the gobbeldygook media stream about all of this. These numbers are enormous!

We have just seen the de-facto nationalization of huge segments of what was once the private banking industry. That’s one way to look at it. In my view, I see it a different way—we have just seen the banks demonstrate the awesome nature of their power to control governments. It’s not that the government is taking over the banks, but the other way around. Don’t like the fact that your Collateralized Debt Obligations are now just debt without collateral? No problem: you just suspend the “Mark to Market” accounting rules so you don’t have to value these CDOs at their current worthless state. Tired of watching private investors shun your stock offering? No problem: first get the regulators to prohibit shorts on your stock, then get the government to force all of us taxpayers to buy it!

Michael Hudson illustrated just how anemic the supposed government hold on the banks is in this deal: “Treasury Secretary Henry Paulson’s first option was to buy packages of junk mortgages (collateralized debt obligations, CDOs) to save the wealthiest institutional investors from having to take a loss on their bad bets. When this was not enough, he came up with “Plan B,” to give money to banks. But whereas Britain and European countries talked of nationalizing banks or at least taking a controlling interest, Mr. Paulson gave in to his Wall Street cronies and promised that the government’s stock purchases would not be real. There would be no dilution of existing shareholders, and the government’s investment would be non-voting. To cap the giveaway to his cronies, Mr. Paulson even agreed not to ask executives to give up their golden parachutes, exorbitant annual bonuses or salaries.”

The Western industrialized nations have now been forced to levy a three trillion dollar tax on their citizenry to pay off the bankers’ collective bad debt so they can “recapitalize” and start the game over again. And believe me, with $600 + trillion in derivatives out there, this is just the down payment. That was the price of restoring “confidence” in our financial system. That’s what it will take to get the assholes to start lending again. Or will they? Read on to see what else they have planned for the free handout from the government.

Joe Nocera of the New York Times shined a little light on the new plans being hatched in the boardrooms of big banks who received a free check for $25 billion from Paulson to “recapitalize”  so they can start lending again. “In point of fact, the dirty little secret of the banking industry is that it has no intention of using the money to make new loans.,” Nocera reported. After obtaining a copy of a conference call made by JP Morgan Chase executives. The call was very revealing of the bank’s real intentions for using the $25 billion it just received from taxpayers: “What we do think it will help us do is perhaps be a little bit more active on the acquisition side or opportunistic side for some banks who are still struggling... and I think we have an opportunity to use that $25 billion in that way ...We would think that loan volume will continue to go down as we continue to tighten credit to fully reflect the high cost of pricing on the loan side.” Nocera concluded: “Read that answer as many times as you want — you are not going to find a single word in there about making loans to help the American economy. In other words JPMorgan has no intention of turning on the lending spigot.”

We’ve seen this before, as F. William Engdahl recounts it in an article for Financial Sense: “In every major US financial panic since at least the Panic of 1835, the titans of Wall Street—most especially until 1929, the House of JP Morgan—have deliberately triggered bank panics behind the scenes in order to consolidate their grip on US banking. The private banks used the panics to control Washington policy including the exact definition of the private ownership of the new Federal Reserve in 1913, and to consolidate their control over industry such as US Steel, Caterpillar, Westinghouse and the like. They are, in short, old hands at such financial warfare to increase their power.” I guess we have only to note the persistent success of the firms that survive to eventually find the real den of thieves behind it all.

Naomi Klein of the UK Guardian had this assessment: “Meanwhile, every day it becomes clearer that the bail-out was sold to the public on false pretenses. Clearly, it was never really about getting loans flowing. It was always about doing what it is doing: turning the state into a giant insurance agency for Wall Street, a safety net for the people who need it least, subsidized by the people who will most need state protections in the economic storms ahead.”

Times reporter Nocera went to Finance Committee Chair Senator Dodd and asked him what would happen if the banks just sit on their free government cash. According to Nocera, Dodd seemed to echo the quote I presented from Henry Ford and replied: “If it turns out that they are hoarding, you’ll have a revolution on your hands. People will be so livid and furious that their tax money is going to line their pockets instead of doing the right thing. There will be hell to pay.” The gist of the Nocera article was that Paulson may have actually intended the banks to use the money for new acquisitions, so they can continue gobbling up weaker institutions and take that problem off the FDIC balance sheet. WaMu, for example, could have wiped out the FDIC had it not been gobbled up by JP Morgan/Chase. Analyst Mike Shedlock disagrees with this conclusion, and to him it is this simple: “The economic constraints and poor policy decisions by the Fed and Treasury make mergers a better alternative than lending money or sitting in cash.” But the point remains--the banks take public money and do what is in their best interest with it. They do not do what is in the nation’s best interest, or the people’s best interest, and the government got very little in return for the cash. Stock? We paid $125 billion for stock that we could have bought for less than half that at current prices. All the stock Uncle Sam got could have been purchased for $62 billion.

Aldous Huxley predicted the consequences of this upward movement of wealth and power in his book Brave New World Revisited: “Democracy” argued Huxley, “can hardly be expected to flourish in societies where political and economic power is being progressively concentrated and centralized…Big Man gobbles up Little Man…and as Little Men disappear, more and more economic power comes to be wielded by fewer and fewer people. The Power Elite of the Brave New World directly employs millions of the country’s working force in its factories, offices and stores, controls many millions more by lending them the money to buy its products, and through ownership of the media of mass communication, influences the thoughts, the feelings and the actions of virtually everybody.” Those words were written in the 1950s.

Now to restore “confidence in the markets,” the price will be enormously high, but I’m inclined to think the effort is more to restore the same old game that relied on that confidence. Bernanke and Paulson are trying to fight fire with fire. The problem before us now was created by loose credit policies that led to a wild spate of irresponsible lending by the banks. In short, the problem was too much credit posing as real wealth and creating the illusion that we were in a productive, growing economy. When you simply create money and credit from thin air, as opposed to basing it on something real produced and saved in the economy, you get this fantasy of pixelated wealth that has been driving the nation for the last decade. Once that broke down, as it simply had to break down, the Fed launched itself on a mission to restore the status quo by pumping out more and more artificially created dollars into the system. They want the banks to lend again, or so they say, and to continue shoveling out credit, (which is really just debt), to try and restart the game.

Steve Saville put it this way in a recent article You Can’t Get Something For Nothing,: - “Now that the investment boom has gone bust and the necessary adjustment process has begun, we are being told incessantly that the solution to the problems caused by massive increases in the supplies of money and credit is additional massive increases in the supplies of money and credit.”

Runaway consumption based on easy credit was the problem. How can it be corrected by trying to stimulate yet more consumption based on credit? Americans were spending 125% of their annual income each year! They were pulling massive chunks of phantom “equity” out of  homes that were outrageously overvalued by pure speculation and loose lending. The rest was being spent on rivers of revolving credit. The real savings rate of Americans is now negative. Saville concludes that: “an increase in production must precede a sustained increase in consumption; that saving is the basis of long-term economic growth; that no individual can become rich by spending more than he earns; and that no country can become wealthy, or recover from a recession, by consuming more than it produces. And yet, most commentators have deluded themselves into believing that you can get around the problem of inadequate real savings by simply increasing the supply of the medium of exchange, (printed dollars),  and that you can bypass the need for increased consumption to be funded by increased production by simply getting the government to spend like a drunken sailor.”

Nothing is really being done to correct the core problem, which lies in the creation of the Fed, its fiat currency, and the whole system of fractional reserve lending and leveraged securities trading. The only real medicine for the crisis at hand is to suffer the pain of deleveraging and down-scaling to a sustainable life style. People have to stop heedless spending. They have to start living within their means and building real savings. The country has to transition from phantom digital wealth back to wealth based on production of real things. The factories have to start being built here instead of in China and Mexico. The jobs have to return to American shores, providing real productive economic activity to this nation, not a game of guess the new price on “Flip That House.”

Yet all Bernanke and Paulson are trying to do now is fill the vast negative hole of eroding confidence and evaporating equity with more printed money. Confidence is required if the old scam is ever to work again, because confidence in the system is nothing more than getting people to believe this fraudulent activity is legitimate. It is a distracting sleight of hand while the financial magicians steal the public deaf, dumb and blind...and it has to be paid for. That is the great sadness in all of this--in spite of the catastrophic news that has shaken our system to its foundation, we seem to have learned nothing. The effort now is not to reform, renew and rebuild, but to simply restore the old status quo and keep the gambling game going. The house is simply doling out stacks of new chips and changing the rules at the gambling tables to make them more attractive. Worse than this is the simple fact that the banks will just use the bailout money to fatten their acquisitions schedule. It will only postpone the real “crisis” a few years. Eventually all books, in both accounting and in nature, must be balanced.

The Hidden Price of “Confidence”

The gentlemen in their suits wanted more money. They will get more money, one way or another, and Joe Sixpack and all the Hockey Moms will pay for it in two ways—the same ways that governments get their money—through taxes and printing, which will eventually debase the currency. Initially the cash will be raised by the sale of Treasuries, which is just more government debt. But what happens when the buyers thin out? The printing press is standing by for heavy action.

How does the Fed simply printing money cost Joe more for his sixpack? That’s an easy one. The more dollars they print, the less each one is worth. So in addition to using our tax dollars to bail out the banks, they will print any shortfall, massively, and all our dollars will be worth less and less over time. We are, on this crisp October morning, a much poorer society than we were before this all started. On top of the three trillion in collective bailout money, the stock market lost a couple trillion in equity last week, (even after the big ‘hope rally’ on the 13th), and pension funds for imminent retirees lost another two trillion in value. By my count the pain totals out somewhere north of seven trillion dollars now, and we’re just getting started. As the president said, the bailout will take time to work. Yes indeed, for it is only a matter of time before all these new dollars begin to debase our currency and dilute our spending power. I would venture a guess that we have at least 6 months left where our dollars will retain some semblance of their current buying power. After that they will begin to erode. It will take at least that long for all this newly minted cash to start circulating in our ‘real economy,’ though the pace depends on what the banks decide to do now. The black hole of debt is annihilating capital as fast as it can be created. If they keep credit tight, like JP Morgan Chase seems to suggest is the real intent, then deflation will continue and dollars will buy more--for those who have them. Paulson has seen to it that the wealthy will have money in abundance, and the little guy will provide it, then wait in a long, long line for a loan before it is turned down. That’s what our capitalism has become, and we are all poorer for it.

James Kunstler put our situation this way: “The G-7 world, the club of ‘developed’ western nations plus Japan, has commenced an ordeal of suddenly waking up much poorer. All the desperate work-arounds being engineered by governments and central banks on an al fresco basis are intended to overcome this stunning basic fact, and none of them will. The benchmarks of everything are in flux -- stocks, bond values and yields, commodity prices, most especially currencies -- but these tend to disguise the basic fact of growing and spreading impoverishment.”

Another astute web guru, Mike Shedlock described it this way: “To stimulate lending, the bailout plan will attempt to recapitalize banks. The method of recapitalization is best described as robbing Taxpayer Pete to pay Wall Street Paul. In essence, money is taken from the poor (via taxes, printing, and weakening of the dollar) and given to the wealthy so the wealthy supposedly will have enough money to lend back (at interest) to those who have just been robbed.”

We have been sitting by, idly worrying and wondering what will happen next as we watch the final act of the Bush Cheney administration—the fleecing of America. Paulson and Bernanke look like a couple of choir boys caught in the sacristy doing something bad in this photo, don’t they? That was the price of confidence, a multi-trillion dollar tax hike and debasement of our currency--all masqueraded this October as a “rescue” plan. Talk about Trick or treat! If you want to know what comes next, just visit Iceland.  Their banks all went bust, and their currency is now worthless, not a good situation for an island nation that must import virtually everything it needs. The market shelves are now being stripped bare in a spate of panic buying. Deliveries from overseas have stopped, because suppliers will no longer accept the Islandic krona in payment and foreign currency cannot be obtained either. It’s a question of “no confidence.” In short, it’s going to be a very hard winter in Iceland this year. The grocery stores may have about two weeks stores of food on hand. Can you imagine this happening in the US? Believe it or not, we are headed down this same path. We are an island nation too, for we must import virtually everything we need, from oil and gas to the goods that stock the shelves of our big box stores.

Who’s going to restore our confidence? Who is really going to help all the Joe Sixpacks and Soccer Moms, all the pensioners and retirees that have yet to fully realize they are 30% poorer now than they were just a few months ago? We got a break in gasoline prices in recent months, just like we always do before an election, but all the other price hikes are taking some time to cool off. Are rents coming down? Have they ever come down? Are medical costs coming down? Not only is the Bernanke/Paulson plan of reinflating credit wrong, its aimed at the wrong end of the system. You want to kick the economy into high gear? Take the trillions now being thrown into the derivatives black hole and distribute it to the people instead. The money just vanishes into a digital balance sheet when given away at the top. Give it to Main Street and people will spend again in no time flat. Not a paltry $300 check either--the trillions involved would give every American family at least $10,000, and a nice fat check for ten grand would make a huge difference in most family budgets. It would wipe out most of their credit card debt, for starters. But don’t expect Paulson and Bernanke to advocate that any time soon. (Credit card debt is the #1 profit center in any bank.) Nope. That money, all nice and clean and freshly minted, goes to the bankers. You wait in line and see how hard it’s going to be to wrangle for a loan in the years ahead. Believe me, you will soon agree with the rest of the ever sickening national body…Sometimes the bank can be a real asshole.

But realistically, we cannot spend our way out of this problem any more than we can drill our way out of our energy situation. Each dollar created lessens the value of every other dollar in circulation. That’s simple math. So Paulson and Bernanke should not be cutting those $10,000 checks to all the Joe Sixpacks out there--but neither should they be doling it out to the banks! Bloomberg ran this incredibly stupid headline on Oct 22nd: “Turmoil May Make Americans Savers, Worsening Nasty Recession.”

The point of the article was that the businesses that depend upon the rapacious American consumer were going to have to down-size now, or go under. Yes. They will. It’s time we admitted it. We have to face it: time to deleverage our lives at every level, from the bank balance sheets, to corporate books, to the daily budgets of Joe Sixpack. Time to take our medicine now. It will all come back to us again when we start spending money on real things that matter in this country. We need a new rail system, and light rail for public transport in every major population center. We don’t need more Wal-Marts, Home Depots, and strip malls selling landfill fodder. We need a massive investment in alternative energy systems aimed at decentralizing energy production and distribution. We need real affordable medical care for our rapidly aging population. Will President Obama be able to actually turn the rudder on this sinking ship when he gets his hand on the wheel? (And it will be President Obama, without question.)

For a brief recap, Obama is extending his lead to 10% nationally and will win by a landslide. In battleground states he leads 53-42 in Colorado, 54-38 in Michigan, 51-40 in Minnesota, 54-37 in Wisconsin. Pennsylvania is now a lock. Ohio is moving to Obama. Even Florida, Virginia and North Carolina show Obama inching ahead. Obama will easily secure 300 or more electoral votes. (270 needed to win).

The mud slinging Republican campaign, fired by the largely conservative radio talk shows, would have us believe that by voting Obama we will actually be electing the Reverend Jeremiah as the featured guest singer with Ayers and his Weatherman as a backup band, (forgetting Obama was a teenager when Ayers last made any news). They would have us believe Obama is more loyal to Kenya than the US, that his middle name is Hussein, which means he’s an Arab terrorist. One right wing blog ran an article that he was secretly using waking hypnosis techniques in his speech patterns. And the radio hosts like Rusty Humphry and others are all starting to play their last desperate card now, claiming that “new evidence” has emerged to prove Obama wasn’t born in the US and is not actually a citizen--forgetting the fact that his mother was a US citizen, so that makes him a US citizen no matter where he was born.. Gawd...  Note to deluded, uninformed, easily duped, and incredibly naive would be voters who believe any of this nonsense—the only terrorists we have ever had in the White House are there now, and thank god the eviction notice is finally being nailed to the door.

The saddest thing about this election is that Obama will now preside over the smoking ruins of a once grand nation that Bush and Cheney took a wrecking ball to in just eight short years. And it will take us a long, long time to recover from what they have done. Don’t look for miracles. The damage runs too deep for any single president to fix. We’ll just have to join him, roll up our sleeves, and fix it ourselves. Good bye, Dick, enjoy your next hunting trip.

Article by: John Schettler – Oct, 2008
 

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