tag:blogger.com,1999:blog-9121076985477476132024-03-23T10:14:30.515+00:00London BankerLondon Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.comBlogger79125tag:blogger.com,1999:blog-912107698547747613.post-53126485676077925512013-03-20T06:57:00.001+00:002013-03-20T10:26:35.196+00:00Chop Off Their Hands . . .President Truman famously called for a one handed economist. The Carolingian kings of France would have accommodated him. They realised that a kingdom required a common currency under the control of the king and well regulated markets to sustain the confidence of the people. <BR><BR>
At first mints were established widely, spread across the kingdom. Local barons began to profit from debasing the coinage, undermining confidence in the monetary system. So <a href="http://www.fordham.edu/Halsall/source/864charlesbald-pistes.asp">Charles the Bald</a> established mints under his direct control and regulated the issue of coins:
<blockquote>C.12. Following the custom of our predecessors, just as it is found in their capitularies, we decree that in no other place in all our kingdom shall money be made except in our palace, and in St. Josse and Rouen, which right in the past belonged to St. Josse, and in Rheims, Sens, Paris, Orleans, Chalon-sur-Saone, Melle, and Narbonne.<BR><BR>
C.13. And those who have control of the money, with no desire for favor or gain, should select faithful coiners, as if they were seeking our favor and the grace of God. And the coiners should themselves take oaths that they will perform their office faithfully, as well as they know how. <b>And they should not coin a denarius of mixed metal nor one of light weight, nor should they consent to such a thing.</b> And, without any deception or evil disposition towards those whose silver they accept for purifying, they should cleanse the silver, and without practicing any deception in weighing it, they should change the purified silver into denarii. If it be reported that any one has acted contrary to his oath, he will be tried by the judgment of God; and if it be proved that he acted contrary to his oath <b>he will lose his hand</b> just as was decreed for false coiners in book four of the capitularies, chapter thirty-three, and as a sacrilegious person and despoiler of the poor he will be subjected to public penance by order of the bishop;---<b>for he committed no greater fraud if he coined a denarius of mixed metal or of light weight than he would have done by taking the silver of the State, or of the Church, or of the poor,</b> in purging and coining silver with evil intent. In those regions where trials are conducted according to Roman law, he will be tried in accordance with that law.<BR><BR>
C.18. And if a false coiner from those places, in which we have decreed that money shall be made, stamps money secretly or offers a false denarius in a business transaction, so that he cannot be caught and punished; he will be seized by our minister, just as has been decreed, if he seeks refuge in our fisc, in any privileged place, or on the estate of any powerful person whatsoever.<BR><BR>
C.19. In order that this provision for the non-rejection of good denarii, and concerning the making of false denarii, might be better observed, we wish that every overseer cause the markets of his district to be catalogued, that he report to us what markets there were in the time of our grandfather, and what new ones began in the time of our father, and what were established by his authority, and what markets began to come into existence in our own time, which of them remained in their ancient locations, and, if they had been changed, by whose authority they had been changed. </blockquote>
Modern states gave control of monetary policy and markets to the barons of global finance. The experiment has resulted in the same disasterous outcomes as before. The barons have debased the coinage and corrupted the markets.
The state lost control of the currency as central banks allowed the barons in banks and shadow banks to "create" money from securitisation and quantitative easing. The state lost control of markets as the SEC, FSA and others allowed those same barons to set up alternative trading platforms beyond any public scrutiny and to bastardise public exchanges with algorithmic trading and synthetic instruments priced against fraudulent reference rates.<BR><BR>
Now that the whole system is falling apart, banks and bondholders - the robber barons and false coiners of our times - want to take more money from depositors and taxpayers to prop it up. The state, the taxpayers and the depositors should not be compelled to <a href="http://londonbanker.blogspot.co.uk/2011/06/protect-bondholders.html">protect bank bondholders</a>. Central bankers and market regulators should stop being complicit in debasement of the currency and corruption of the markets - taking the silver of the state and of the poor.<BR><BR>
Enough already. Chop off their hands.
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London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com11tag:blogger.com,1999:blog-912107698547747613.post-19690960030540913752012-07-20T22:11:00.000+01:002012-07-20T22:37:47.651+01:00For Want of a Nail, the Ship Was Lost<div dir="ltr" style="text-align: left;" trbidi="on">
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Imagine a great ship dominating the skyline on a distant sea. Imagine the complexity of that ship: keel, ribs, planks, masts, spars, and an infinite number of less readily named components. Each component was hand-crafted by a craftsman skilled in his trade, to precise requirements, and secured in position to take the stress and strain of a life at sea.</br>
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Now imagine a crew. They didn't build the ship. The crew are told that the one and only purpose of the ship is to realise a profit for every man jack aboard. Any hand not contributing a profit will be turned ashore.
Down below in the ship are nails. Thousands and thousands of nails. Nails are useful. Nails are much sought after in every port the ship enters. Nails can be readily sold and never traced.</br></br>
The crew has been told that their purpose is profit. They have taken the lesson to heart. In every port they assess the value of the nails, and compare it to their function in the ship.
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They tell themselves that the lubbers at Admiralty have no idea of ships. They specified too many nails in the regulations for ship procurement and licensing. The ship will be just fine with fewer nails.
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So the crew below starts sneaking out the nails and selling them in the ports. They self-certify to their warrant officer, who self-certifies to the midshipman, who self-certifies to the lieutenant, who self-certifies to the captain, who self-certifies to the admiral, who self-certifies to the Sea Lords that every nail is where it should be and the supply of surplus nails remains adequate to meet unexpected reverses. And they turn a profit, so everyone is happy and the crew are given bonuses.
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Until there is a leak, no one bothers to check the inventory of nails still in the woodwork. And when there is a leak, it is taken by all involved to be a localised problem that can be solved with a local solution, stemming the flow into the bilges from that one leak.
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No broader inventory of nails is ever suggested. The crew are asked to conduct a stress test scenario that confronts a gale, or an enemy warship, and they self-certify that they would remain sound.
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When RMBS valuations and ratings were questioned in 2007, it was taken to be a localised leak. Bear Stearns, Lehman and Northern Rock were sunk, but surely the rest of the fleet was still sound with a bit of extra liquidity to keep them afloat.
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But a crew that is accustomed to enriching itself selling nails is unlikely to stop just because the Admiralty takes an interest and orders more nails be provided to shore up the creaking woodwork. They will take all the nails Admiralty is generous enough to provide and keep selling them in every port. Their purpose is profit, and profit they must. The ships still creak, the water gets deeper in the well each watch, but the self-reporting of the ships' condition improves in every dispatch to the Admiralty.
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This is where we are, and this is what the LIBOR scandal reveals. Self-certified valuations of fixed income, OTC derivatives and other instruments not traded and valued on exchanges should all be suspect. Even the exchange valuations should be suspect, as they are influenced by the OTC positions. Some of those ships are being held together by the collective greed of the crews, unwilling to lose the means of profit at the Admiralty's (and taxpayers') expense.
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No one suggests that we can let them all sink to the bottom as a lesson to seamen who follow. The navy is critical to our image of ourselves as strong and resilient. The navy must be saved. But how, when every nail that is sent aboard is sold in the next port to the profit of a man with no loyalty to the crown or the ship?London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com17tag:blogger.com,1999:blog-912107698547747613.post-7373139227424962262012-07-10T10:16:00.001+01:002012-07-11T18:23:18.274+01:00Lies, Damn Lies and LIBORI've been hesitant to write about the LIBOR scandal because what I want to say goes so much further. We now know that Barclays and other major global banks have been manipulating the calculation of LIBOR through the quotation data they provided to the British Bankers Association. What I suspect is that this is not a flaw but a feature of modern financial markets. And if it was happening in LIBOR for between 5 and 15 years, then the business model has been profitably replicated to many other quotation-based reference prices.<br>
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Price discovery is not a sexy function of markets, but it is critical to the efficient allocation of scarce capital and resources, and to the preservation of the long term wealth of investors and the economy as a whole. If price discovery is compromised by manipulation, then we will all be gradually impoverished and the economy will be imbalanced and unstable.<br>
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Over the past 25 years the forces of regulatory liberalisation and demutualisation of markets have allowed the largest global banks to set the rules, processes and infrastructure of global markets to their own self-interested requirements. Regulatory complexity and harmonisation benefit the biggest banks disproportionately, eroding the competitive stance of smaller, local banks and market participants. This has led to a very high degree of concentration in a very few banks in most markets that determine global reference rates for interest rates, currencies, commodities and investments. If those few collude with each other - as <a href="http://londonbanker.blogspot.co.uk/2011/05/concentration-manipulation-and-margin.html">Adam Smith warned was always the result</a> - then they impoverish us all.<br>
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We have allowed markets to evolve in ways that make supervision of markets almost impossible. Many instruments trade off-exchange or in multiple venues, making it nearly impossible for any single investor or regulator to supervise trading to prevent or detect manipulation or abuse. Many financial instruments are now synthetic compilations of underlying assets and derivatives, with multiple pricing components determined by reference to other prices or rates. Demutualisation and regualtory reforms stripped exchanges of the self-regulating interest in preventing manipulation and abuse by their members as mergers, profits and market share came to dominate governance objectives. <br>
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Off-exchange trading has been allowed to proliferate, creating massive ill-transparent and largely illiquid markets in almost every sector of finance. Pricing in these markets is based around calculated reference rates which, like LIBOR, are open to abusive quotation and data input practices. Many OTC derivatives are priced and margined using reference rates calculated against quotations unrelated to actual reported transactions. Synthetic securities such as ETFs are another example of an instrument that prices off a reference rate rather than the actual contents of an underlying asset portfolio. These instruments are open to consistent abusive pricing as a means of incrementally impoverishing those market participants who are the krill on which the global banks thrive.<br>
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How has it been possible for banks to grow from less than 4 per cent of the global economy to more than 12 per cent of the global economy without impoverishing others? How has it been possible for profits in the financial sector to be consistently higher than profits from other human endeavors with more tangible products or impacts on our daily lives - such as agriculture, transport, health care or utilities? How has it been possible that banks derive their profits not from the protected and regulated activities of deposit-taking and lending, but from the unsupervised and often unknowable escalation of off-balance sheet assets and liabilities? How has it been possible that pension savings have increased while pension returns have declined to the point where only bankers can expect a comfortable old age? Global banks have built the casinos and tilted the odds in the house's favour by rigging the data that determines the outcomes of most of the bets on the table. Every one of us that sits at the table long enough - whether saver, investor, borrower, taxpayer or pensioner - will be a loser. It is not a flaw; it is a feature.<br>
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There is a reason that financial infrastructure used to be dominated by mutuals. Mutual gain and mutual liability created a natural discipline on excess and on rogue elements that would impoverish their peers. <br>
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There is a reason why trading was restricted to exchanges, and exchanges and clearing houses used to be self-regulating, and even had responsibility for resolution and liquidation of their members. Direct responsibility, authority and financial control meant that they could exert very powerful and immediate consequences on those members identified as abusing the market or investors.<br>
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The investigations into market rigging are just beginning. Paul Tucker opened the box yesterday when he admitted that <a href="http://www.telegraph.co.uk/finance/newsbysector/banksandfinance/9377503/Paul-Tucker-Libor-scandal-hearing-as-it-happened-July-9-2012.html">he could not know whether the abuses discovered in setting LIBOR had spread to other synthetically calculated reference rates</a>. As events unfold, it may be that we begin to appreciate just how deeply vulnerable we have become to predation by bankers with no stake in a local economy or in the local quality of life of the people they impoverish. A reckoning is needed, and then a rebalancing toward more local and mutual provision of essential services and market infrastructure that serves markets rather than those few bankers on the board. <br>
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As a start, regulators should consider punitive restrictions on the sale of instruments which price on reference rates unrelated to reported market transactions or underlying asset portfolios. Pricing should reflect real market transactions rather than guesstimates talking the banker's book. <br>
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We need to rethink as a society what banks are for, what exchanges are for, and what clearing houses are for. If they are for the profit of the few at the expense of the many now, that is because it is the business model we have permitted. If banks, markets and clearing are protected because they have a social function, we should make certain that social function is adding value. If it isn't, then we need some new models and some new rules.<br>London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com35tag:blogger.com,1999:blog-912107698547747613.post-88216887399442549522012-05-29T07:23:00.000+01:002012-05-29T11:16:30.127+01:00"Heads I win, tails you lose."I was at a private lunch in the City some 15 years ago discussing whether hedge fund investments should be considered a new and distinct asset class. A very prominent hedge fund trader was asked his opinion. Surprisingly, he said that hedge funds were less a new method for investment, than a new method for higher remuneration. The appeal of hedge funds was in the outsize fees rewarding the fund managers rather than any superior returns for investors.<br>
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I was reminded of that lunch again this morning by two pieces in my inbox. The first referenced a paper from the Bank of England <a href="http://www.bankofengland.co.uk/publications/Documents/fsr/fs_paper15.pdf">estimating the public subsidy</a> of the UK's largest banks at more than £220 billion during the past couple years. These banks secure a funding premium in wholesale and deposit markets from the implicit state guarantee of obligations attaching to their too big to fail status. The subsidy distorts competition and risk taking, storing up even more future draws on beleaguered taxpayers. The second was a <a href="http://thefinanser.co.uk/fsclub/2012/05/banks-take-it-efficiency-gains-in-bonus-payments.html">blogpost</a> summarising recent comments of a Bank of England executive to the effect that all the cost savings generated by technology advances and automation in the banking sector had been paid away in increased bonuses and remuneration. <a href="http://thefinanser.co.uk/fsclub/2012/05/banks-take-it-efficiency-gains-in-bonus-payments.html">IT efficiency gains fund bonus payments.</a> The financial sector's appetite for technology investment is not driven by a desire to provide more efficient services, but to secure ever larger remuneration packages. In fact, rapid financial innovation and technology transformation has led to less efficient intermediation if evaluated on a cost basis.<br>
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Regulation has had a pernicious effect in driving technology and complexity. As Chris Skinner observes,
<blockquote>Put another way, in the first iteration of the Basel Accord there were seven risk metrics requiring seven calculations; by the time we get around to implementing Basel III, over 200,000 risk categories will require over 200 million calculations.</blockquote>
At some point policy makers will need to turn their efforts from reinforcing and bailing out the bankers who use any and every opportunity to take public support as private bonuses and instead evaluate much simpler, lower cost models of financial intermediation likely to yield domestic investment in domestic businesses and assets. <br>
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I can almost hear the shouts of "socialist" from the usual defenders of banks and markets. I am not advocating state nationalistion of banks, but state withdrawal of explicit and implicit bank subsidies. <br>
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It is a conservative principle that the state should intervene when markets fail. If the banking system has failed (and it has) and requires a taxpayer subsidy to continue to operate (which it does), then conservative principles dictate that the state must intervene to secure a resolution in the public interest. More of the same is not a conservative policy, but social welfare for bankers. <br>
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We currently have a system of excess regulatory complexity, hidden market distortions and public subsidies. Moving away from the <i>status quo</i> requires state action to identify and reduce subsidy through promotion of business models that are simpler, more transparent and more directly aimed at securing public benefit.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com9tag:blogger.com,1999:blog-912107698547747613.post-4118974692428410942012-03-13T07:06:00.002+00:002012-03-14T14:42:17.105+00:00Your Bank: Fiduciary or Predator?In the old days when banks were local, and owned either as partnerships or mutuals, bankers had a stake in promoting the prosperity of their clients. They wanted to see their clients do well so that savings in the bank would increase, and then the banker could lend more and do better too. Bankers were meticulous in evaluating the credit quality of local borrowers, because a loss hit their own capital and equity in the business. <br />
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Largely as a result of this happy local alignment of depositor/banker/borrower interests, bankers came to be regarded as trusted fiduciaries. Depositors expected the banker to exercise discretion in the lending of capital. Borrowers expected the banker to provide loans on fair and reasonable terms which would help the borrower's business to grow and perform on repayment obligations.<br />
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As we know, those days are long past. Banks are rarely partnerships or mutuals. Remuneration models that promote fierce competition and short term bonus mania are unlikely to leave much scope for ethical reflection on the promotion of either depositor protection or borrower prosperity. Modern bank funding models are focused on money markets and shadow banking conduits rather than making depositors secure long term. Their lending models are seeking ever higher margins on <a href="http://www.telegraph.co.uk/finance/newsbysector/banksandfinance/9135986/Bank-mis-selling-victims-from-the-chippy-to-the-small-hotel.html">transactional speculation, cross-selling and hidden fees</a>. They seek opportunities globally rather than the long duration lending that sustained growth of local businesses. Banks are no longer geographically dependent on the local community for either deposits or borrowers.<br />
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We are now forced to re-evaluate the role of banks. They clearly have little interest in performing as fiduciaries. They have a powerful interest in becoming predators. <br />
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But if banks are predators, then their beneficial social functions are undermined, and indeed, they become a threat to social welfare, economic growth and non-bank prosperity. If that is true, then they no longer warrant state protections. <br />
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It is the depositors and borrowers who now need the protection.<br />
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In the UK some banks have threatened to leave if the successor to Mervyn King is not less <a href="http://www.telegraph.co.uk/finance/newsbysector/banksandfinance/9138630/Banks-warn-hostility-will-push-us-abroad-after-King-attack.html">"hostile"</a> to their predations. <br />
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This is like a fox threatening to go elsewhere unless the farmer makes the chicken coop more accessible. Worrying.<br />
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UPDATE: Today Greg Smith, head of equity derivatives at Goldman Sachs, very <a href="http://www.nytimes.com/2012/03/14/opinion/why-i-am-leaving-goldman-sachs.html?pagewanted=1&_r=2&hp">publicly resigned in the pages of the New York Times</a>. It sums up his resignation to say that he preferred the days when he could be a fiduciary to the firm's clients rather than their predator.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com22tag:blogger.com,1999:blog-912107698547747613.post-12717721626025427242012-03-06T10:36:00.000+00:002012-03-06T10:36:09.272+00:00Complexity CostsI have had to deal with the idiocy of modern financial regulation rather more than I would like lately. The issue involves FSA regulations which create a bias in favour of the TBTF banks. (As almost all FSA regulation is biased in favour of TBTF banks, this isn't much of a clue.) The FSA acknowledges that their rule creates a bias. They acknowledge that the bias was created in error, without principled justification. (They allowed outside counsel retained by the big banks to write the rule for them.) They acknowledge that the restrictive rule is inconsistent with European Union directives on the subject matter, and inconsistent also with UK government objectives of reducing the implicit subsidy to TBTF banks and reintroducing competition to financial services. They acknowledge that a change to the rule could improve sector competition, consumer choice and reduce costs.<br />
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Will they change the rule? No. Changing the rule would require an expensive public consultantion and cost-benefit impact assessment that hasn't been budgeted by the relevant division of the FSA for this fiscal year. Additionally, there is no proof of a market demand for the benefits of the rule change, as the existing users of the rule - the TBTF banks - are telling the FSA that existing customers aren't asking for a rule change.<br />
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It's a good thing that this is a marginal issue for the business. If it were serious, I'd have to advise doing business elsewhere than the UK. It might be wise to do that anyway, as being subject to a regulator like the FSA will be such a miserable experience based on current observation that locating a business somewhere more sensible would probably help ensure the business succeeds longer term.<br />
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The frustration of this one case raises a broader issue. Is it possible to reform a failed regulatory system sufficiently to restore a functioning market? <br />
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Regulators operate monopolies and are virtually impossible to discipline for their errors. Being bureaucrats, most regulators do not really have a stake in whether their rules do more harm than good. No one outside the regulator knows or cares who had responsibility for crafting a particular regulation, much less how it promoted or restrained market efficiency in the long run. It's almost always easier and less risky to do what they are asked by powerful incumbents than to attempt to level the playing field in favour of consumer protection or increased competition. Fifteen years of the FSA pretty much proves this point, as complaints to the financial ombudsman were at record levels last year and financial services concentration is consolidating at a very rapid clip leaving consumers very little real choice.<br />
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And then there is the complexity of modern regulation. Changing any regulation requires a publication of proposals, a consultation period, a cost-benefit impact assessment, legal consultation to ensure compatibility with EU directives, etc. Consultation responses are more likely to be from TBTF incumbents with a stake in bad regulation, and very unlikely to be from ill-informed consumers or would-be market entrants who might benefit from good regulation. <br />
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The FSA is being disbanded for its failure to properly regulate UK banks in the run up to crisis. It will be split into three, with some functions going to the Bank of England, some to a new Prudential Regulatory Authority and some to a new Financial Conduct Authority. A change in structure does not necessarily yield a change in ethos or policy. Sadly, the same bureaucrats will turn up at the same desks and largely follow the same courses that led to failure of the old system. If anything, the added complexity of co-ordinating among the three new regulators will be an additional incentive to make as few changes as possible to regulations going forward.<br />
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I am reminded of a friend who went to Eastern Europe just after the Berlin Wall came down in hopes of investing there to modernise the economy. He came back determined never to venture an investment because the same bureaucrats as held office under Communism were still showing up to work in the ministries every day and following the same rules as before.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com7tag:blogger.com,1999:blog-912107698547747613.post-59530240253051161682012-02-07T10:18:00.003+00:002012-02-07T11:02:48.484+00:00Greece - Cutting out the Middle ManIt seems that central bankers and politicians are endlessly resourceful when it comes to innovating ways to profit themselves and bankers at everyone else's expense. Where I had thought Greek default inevitable <a href="http://londonbanker.blogspot.com/2012/01/hell-handbaskets-and-hellenic-default.html">just two weeks ago</a>, I no longer think so today. It appears that Sarkozy, Merkel and the Troika have decided to prevent a default regardless of what Greek politicians or citizens may choose to do. <br />
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<a href="http://www.ft.com/cms/s/0/35bd53aa-50ef-11e1-939d-00144feabdc0.html#axzz1lXbvL7cZ">The new plan</a> is to take the EUR 130 billion that would have gone to Greece in the second bailout, and put it in an escrow account. The account may be labelled "Greek Government", but Greek politicians will not have any authority over the funds. The funds will be disbursed by a non-Greek overseer to pay holders of Greek debt. Official creditors will receive full payment. Private creditors will receive the new discounted rates agreed with the IIF for restructured debt. I am not sure what private creditors who reject the IIF proposal might receive, but it will not much matter as ISDA will find there is no credit event regardless. <br />
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The fear among the creditor states of the eurozone was that irresponsible Greek politicians might use any new money to pay civil servants and pensioners rather than bankers and hedge funds. With funds held in escrow and disbursed by a non-Greek overseer, they needn't worry about such excesses of sovereign generosity.<br />
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This plan amounts to cutting out the middle man - the debtor. Bailout funds are used to bail out Greek creditors, without ever passing through Greek hands. <br />
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Athens is left with uncertainty about whether any further funding will be forthcoming for actual Greek state expenses. This is intentional. The escrow overseer may withhold funding if Greek politicians do not live up to creditors' reform requirements. As Greece may have run <a href="http://www.bbc.co.uk/news/business-16746455">a primary surplus</a> in the fourth quarter of 2011, it is just possible that Greece may be able to manage on its austerity budget if the economy doesn't contract too harshly going forward.<br />
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More from the <a href="http://www.ft.com/cms/s/0/c327afb8-50e7-11e1-939d-00144feabdc0.html#axzz1lcMbeA1m">FT's Greek team</a>:<br />
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<blockquote>If Greece agrees to the new programme, all the elements agreed in a high-drama October European Union summit will finally be in place: a debt restructuring that will see private bondholders lose half their holdings; €130bn in new bail-out funding; and tough new controls officials hope will ensure Greek reforms are forthcoming.<br />
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The question remains whether the restructuring of private debt will achieve the ultimate goal of getting Greece’s debt level down to 120 per cent of economic output by 2020, without calling for bigger public sector contributions.</blockquote><br />
While this plan solves the immediate problem of a March 20th Greek default, what this means for future repayments of sovereign debt is less clear. Despite never having access to the funds, the Greek government and Greek taxpayers will presumably be obligated to repay their Troika creditors at some point. And the EUR 130 billion will not cover debt payments for ever.<br />
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If I were a Greek politician, I could probably live with this deal. While it is humiliating to have the money held and distributed elsewhere, it is still money that forestalls an otherwise certain default. And Greece can always default later anyway, should that prove convenient to avoid repayment of the now even larger debts.<br />
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The can is kicked down the road for another quarter, and the bankers can pay themselves their 2011 bonuses. <br />
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After all, innovation is the driving force of economic growth, and deserves to be generously remunerated.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com17tag:blogger.com,1999:blog-912107698547747613.post-58213370813874225762012-01-22T13:13:00.001+00:002012-01-22T14:34:06.363+00:00Hell, Handbaskets and Hellenic DefaultRegardless of what the IIF and the Greek government may announce, Greece is heading inevitably for a destabilising default to some or all of its bond creditors. The most articulate and comprehensive account of the reasons why this must be so are documented in the ZeroHedge masterclass on <a href="http://www.zerohedge.com/news/subordination-101-walkthru-sovereign-bond-markets-post-greek-default-world">Subordination 101: A walk thru sovereign bond markets in a post-Greek default world</a>. Roubini <a href="http://www.creditwritedowns.com/2012/01/roubini-greece-credit-event.html">concurs</a>.<br />
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I've <a href="http://londonbanker.blogspot.com/2010/12/truth-about-sovereign-defaults-and-bank.html">written before</a> about what this implies for the financial system:<br />
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<blockquote>If any OECD state were to default there would be very serious implications:<br />
- The Basel Accord zero risk weight of government debt would be proved fanciful;<br />
- The assumption of government debt as a liquid asset suitable for bank Tier 1 reserves to meet unanticipated and sudden cash demands will become unsustainable;<br />
- Banks would be forced to recapitalise at much higher levels, forcing even sharper deleveraging and contraction of lending;<br />
- Governments would lose the captive, uncritical investor base they have relied on to finance excess public expenditure for the past 30 years;<br />
- Central banks could be forced to suddenly monetise even more government debt if required to meet the cash demands of a run on their undercapitalised banks.</blockquote><br />
Worrying, but not unexpected. A few of us predicted back in 2008 that the implosion of RMBS and bank capital, leading to central bank and sovereign bailouts, would fuel a central bank balance sheet and sovereign debt bubble. The central bank balance sheets have since balooned to 20 percent of GDP for the Fed and Bank of England, and 30 percent of eurozone GDP for the ECB. Deficits have spiraled everywhere, despite promises of austerity. Now the sovereign bubble too may burst.<br />
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From <a href="http://londonbanker.blogspot.com/2008/12/deflation-has-become-inevitable.html">Deflation Has Become Inevitable</a> in December 2008:<br />
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<blockquote>In <a href="http://www.econlib.org/library/Bagehot/bagLom10.html">Lombard Street</a>, Bagehot’s seminal tome on fractional reserve central banking, Bagehot advises any central bank facing a simultaneous credit crisis and currency crisis to raise interest rates. By raising rates they will ensure that foreign creditors remain incentivised to maintain the general level of credit available while the central bank resolves the local liquidity crisis through liquidation of failed banks and temporary liquidity support of stressed banks.<br />
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The very opposite policies have been pursued by central banks in the US, Europe and UK since the beginning of the sub-prime crisis in August 2007. They have cut policy rates drastically, and as the crisis escalated and spread, the yield on government debt has dropped to negative territory. Meanwhile they have shielded those responsible for the creation of record levels of bad debt from any regulatory accountability, relaxed transparency of accounts, and provided massive taxpayer-funded financial infusions to prevent failure and liquidation.<br />
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While in the short term these policies have expediency and the maintenance of market “confidence” on their side, in the longer term these policies must undermine any confidence a rational and objective saver or investor might have that savings or investment in the US, EU or UK will be fairly remunerated at an above-inflation rate, or that savings and investments will be protected by effective oversight and regulation from the sorts of executive debasement and outright misappropriation and fraud that are beginning to colour our perceptions of the past decade.<br />
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Anyone sitting on a pile of cash now is unlikely to want to either (a) place it in a bank, or (b) invest it in the stock market. As a result, the implosion of the financial and real economy must continue no matter how big the central bank’s aspirations for its balance sheet or the treasury’s aspirations for its deficit.<br />
</blockquote><br />
I'm sorry I was right. (<i>sigh</i>)London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com10tag:blogger.com,1999:blog-912107698547747613.post-63825115468934027132012-01-21T14:13:00.003+00:002012-01-22T10:16:55.397+00:00Survivor Bias and TBTF TyrannyIt's time to write again about insolvency, as the MF Global failure and the Greek debacle raise new troubling concerns.<br />
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As I wrote in <a href="http://londonbanker.blogspot.com/2008/09/ring-fences-rustlers-and-global-bank.html">Ring Fences and Rustlers</a> before Lehman failed in 2008:<br />
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<blockquote>The key to having a happy insolvency, if such a thing exists, lies in ensuring that when a globalised bank goes bust, all the best assets are inside your borders and subject to seizure by [your banks or] your liquidators on behalf of your creditors. <br />
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If one were cynical, and one believed that Lehman was going to be allowed to fail <i>pour encouragement les autres</i> one might wonder if Lehman was quietly bidden – or even explicitly ordered – to sell off its foreign holdings and repatriate the proceeds to asset classes within the US ring fence. This would ensure that US creditors of Lehman received a satisfactory recovery at the expense of foreign creditors. It would also contribute to a nice pre-election illusion of a “flight to quality” as US dollar and assets strengthened on the direction of flow.<br />
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If one were really cynical, one might even think that a wily bank supervisor might arrange to ensure 100 percent recovery for its creditors with a bit of creative misappropriation thrown in the mix. Broker dealers normally hold securities and other assets in nominee name on behalf of their investor clients. Under modern market regulation, these nominee assets are supposed to be held separately from a firm’s own assets so that they can be protected in an insolvency and restored to the clients with minimal loss and inconvenience. Liberalisations and financial innovations have undermined the segregation principle by promoting much more intensive use of client assets for leverage (prime brokerage and margin lending) and alternative income streams (securities lending). As a result, it is often very difficult to discern in a failed broker who has the better claim to assets which were held to a client account but reused for finance and/or trading purposes. The main source of evidence is the books of the failed broker.<br />
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On the wholesale side, margin and collateralisation in connection with derivatives and securities finance arrangements mean that creditors under these arrangements should have good delivery and secure legal claims to assets provided under market standard agreements. As a result, preferred wholesale creditors could have been streamed the choicest assets under arrangements that will look above suspicion on review as being consistent with market best practice.</blockquote><br />
The <a href="http://lehmanreport.jenner.com/">official report</a> of the court appointed examiner confirmed my worst suspicions. We now know that the Federal Reserve Bank of New York and the SEC co-located staff inside Lehman from March 2008 to oversee the global repatriation of assets and cash in the run up to the insolvency in September. The Fed kept Lehman on life support during this period with more than $20 billion of liquidity which it paid back to itself from Lehman cash on the day Lehman filed for liquidation. In the meanwhile, from March 2008, Lehman looted its affiliates and client accounts worldwide by using prime broker and securities lending mandates to lend assets to the US affiliate which were sold (hence the sharp fall in Eastern Europe and Asian markets and growing volatility eleswhere from March 2008) and the proceeds streamed to US creditors as margin payments on derivatives and other obligations. The official receiver elected not to challenge the cash transfer to the Federal Reserve or any of the transfers of cash or securities made to major Lehman counterparties and creditors. <br />
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Those following the MF Global failure have noted a strikingly similar pattern of conduct by JP Morgan in advance of failure as occurred with Lehman, although without obvious official mandate. Yves at Naked Capital has been <a href="http://www.nakedcapitalism.com/2012/01/more-evidence-that-jp-morgan-stuck-the-knife-in-mf-global.html">covering the parallels</a> admirably. Carrick Mollenkamp, Lauren Tara LaCapra and Matthew Goldstein at Reuters have provided a <a href="http://www.reuters.com/article/2012/01/19/us-mfglobal-jpmorgan-idUSTRE80I02520120119">very substantive story</a> of how JP Morgan used its superior knowledge of MF Global's trading and credit position to enrich itself at the expense of MF Global and its clients before precipitating the MF Global failure.<br />
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I am concerned that MF Global demonstrates that the too-big-to-bail banks have found a new and almost riskless way to make outsize profits. Because derivatives, repo and liquidity are so very highly concentrated now, and leverage is at pre-crisis levels again, these few players can rig the markets and liquidity to choose when and how their clients fail. Their top down view of clients' trading and custody portfolios and cash positions and flows puts them in a position to exercise tyranny. They can game their clients, taking advantage of superior information, credit and liquidity to ramp or crash targeted markets as needed to precipitate a crisis. They can demand the choicest assets as collateral, setting very high over-collateralisation thresholds, and then exercise during post-failure turmoil to retain everything they hold at rock-bottom prices. <br />
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In today's low volume markets, a crash or squeeze is even cheaper and less risky than ever before. Instead of working for their clients' success, an unscrupulous clearing bank - or several operating in collusion - can profit on engineering market instability or turmoil. <br />
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If one were a conspiracy theorist, one might suspect that such games were being played now in global markets. Perhaps gold is being used as collateral for margin and cash liquidity, sold by counterparties to bring the price lower, leading to margin calls for even more. A crisis arising from a major default (Greece, Portugal, a huge bank) would force the price lower still, when the collateral would be exercised on default. Following on, the price might rocket again to enable the conspirators to seize outsize profits. Just a scenario, mind you! (Although, I note that Lehman's counterparties reported record profits through much of 2009.)<br />
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What is left of the global markets becomes a game of engineered survivor bias. Only those operating outside the law and with unlimited regulatory forbearance can win while the rest of us lose. As I noted in 2008, after Lehman failed, in <a href="http://londonbanker.blogspot.com/2008/10/financial-eugenics-paulson-plan-for.html">Financial Eugenics</a>, "It's not your survival they're engineering."<br />
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I don't say absolutely that what I describe is actually happening. But it may be. Certainly market conditions are ripe for it, and MF Global reinforces the pattern.<br />
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Now over to Greece. I find the PSI (private sector involvement) negotiations for Greece's restructuring of its debts troubling because it shows the same determination to engineer survivor bias. One of the core principles of insolvency law is that all creditors of like standing should be treated equally in the resolution. The PSI approach is starkly contrary to this principle, despite the evidence that Greece is well and truly insolvent. First, the official bond holders (central banks, supranationals, governments and the ECB) are excluded from mark-downs of their debts, preferring to impose the burden of capital losses entirely on the private sector bond holders. Second, the private sector bond holders are divided between those with an interest in preventing a declaration of default (either unhedged or have written credit default swaps) and those who will profit from a default through claims on credit default swaps. Rather than being represented equally in the negotiations through a creditors' committee, the negotiations are being driven by the <a href="http://www.iif.com/">Institute of International Finance</a>, a trade lobby of just the biggest banks. Why the IIF should have credence as representing hedge funds, pension funds and insurance companies holding Greek debt is beyond me.<br />
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Once again we see centuries of jurisprudence and decades of statutory law and market practice cast aside for the convenience of a handful of big banks. They argue that abandoning our principles is desirable to prevent destabilisation of the financial system - again. I am wondering if a system that requires constant sacrifice of all the principles of market price discovery, rule of law and equitable treatment of like behaviours is worth stabilising.<br />
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If the Greece negotiations fall apart, and Greece defaults, is it likely that the banks will embrace the rule of law and let their contracts stand? Or will they try to "reinterpret" their obligations or once again seek taxpayer reimbursement for their losses?<br />
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Tyranny takes many forms, but the essence is arbitrary exercise of power or despotic use of authority. Given their willingness to throw principles out the window whenever profits are threatened, it seems we are confronting a tyranny by a handful of bankers. Perhaps we should embrace some sacrifice of stability to forestall a more stable and much more dangerous tyranny.<br />
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<b>UPDATE:</b> Excellent, thorough analysis of the Greek debt situation is up on ZeroHedge: <a href="http://www.zerohedge.com/news/subordination-101-walkthru-sovereign-bond-markets-post-greek-default-world#comments">Subordination 101: A Walk Thru For Sovereign Bond Markets in a Post-Greek Default World</a>. Well worth your time to read the whole thing as a primer on the potential pitfalls of all outcomes of the Greek debacle for global sovereign bond markets. Conclusion about the high stakes of the current standoff reads:<br />
<blockquote>Finally, while we have no prediction of whether or not any of the above happens, one thing we are sure of: if the runaway central planners of the world believe they can legislate their way into an upper hand over the bond market, in ever more desperate attempts to avoid the day of reckoning, they will fail without any shadow of a doubt. Because demand for risk comes first and foremost from a sense of stability, of fair and efficient markets, and equitability: something which has long been missing in the stock market, and which may very soon be taken away, by force, from the bond market as well.</blockquote>London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com9tag:blogger.com,1999:blog-912107698547747613.post-37091149708272560252011-12-13T10:30:00.005+00:002011-12-14T10:19:50.043+00:00Banks are lawless dictators? Whose side are the police on?First, hat tip to <a href="http://www.ritholtz.com/blog/2011/12/monday-pm-reads-5/">Barry Ritholtz</a> for the articles linked here. I read two of the articles, written on opposite sides of the planet, one after another, and suddenly the dangers confronting us in political instability were much clearer. <br />
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<a href="http://londonbanker.blogspot.com/2011/06/protect-bondholders.html">Back in June</a> I wrote:<br />
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<blockquote>It used to be that the role of the state in financial market regulation was to ensure efficient market operations, promote transparency of prices and liquidity, protect consumers from abusive practices, and to resolve failed companies according to principles of equitable distribution of assets among like classes of creditors. If the role of the state now is to shield HFT, dark pool and OTC markets from transparency, provide liquidity where the market fails, oversee the orderly fleecing of consumers, and to ensure that some creditors of failing firms always win while others always lose, then we no longer have a market economy. And as virtually all these regulatory policies have evolved in the absence of public debate and legislative scrutiny, we also no longer have democratic governance of markets.<br />
</blockquote><br />
The deficit that worries me most in terms of the future of our civilisation is the legal accountability deficit - or <a href="http://londonbanker.blogspot.com/2011/06/anomie.html">anomie</a> as I use it here. This deficit is huge and still growing rapidly as decisions are taken behind closed doors to shield lawless bankers from taxes or criminal sanctions and dedicate more and more public funds and/or monetary expansion to the same lawless bankers with too little public accounting, scrutiny or recourse.<br />
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This morning a commentary by Robert Fisk crystalised this concern as a political crisis in the offing: <a href="http://www.independent.co.uk/opinion/commentators/fisk/robert-fisk-bankers-are-the-dictators-of-the-west-6275084.html">Bankers are the dictators of the West</a>.<br />
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<blockquote>Let's kick off with the "Arab Spring" – in itself a grotesque verbal distortion of the great Arab/Muslim awakening which is shaking the Middle East – and the trashy parallels with the social protests in Western capitals. We've been deluged with reports of how the poor or the disadvantaged in the West have "taken a leaf" out of the "Arab spring" book, how demonstrators in America, Canada, Britain, Spain and Greece have been "inspired" by the huge demonstrations that brought down the regimes in Egypt, Tunisia and – up to a point – Libya. But this is nonsense.<br />
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The real comparison, needless to say, has been dodged by Western reporters, so keen to extol the anti-dictator rebellions of the Arabs, so anxious to ignore protests against "democratic" Western governments, so desperate to disparage these demonstrations, to suggest that they are merely picking up on the latest fad in the Arab world. The truth is somewhat different. What drove the Arabs in their tens of thousands and then their millions on to the streets of Middle East capitals was a demand for dignity and a refusal to accept that the local family-ruled dictators actually owned their countries. The Mubaraks and the Ben Alis and the Gaddafis and the kings and emirs of the Gulf (and Jordan) and the Assads all believed that they had property rights to their entire nations. Egypt belonged to Mubarak Inc, Tunisia to Ben Ali Inc (and the Traboulsi family), Libya to Gaddafi Inc. And so on. The Arab martyrs against dictatorship died to prove that their countries belonged to their own people.<br />
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And that is the true parallel in the West. The protest movements are indeed against Big Business – a perfectly justified cause – and against "governments". What they have really divined, however, albeit a bit late in the day, is that they have for decades bought into a fraudulent democracy: they dutifully vote for political parties – which then hand their democratic mandate and people's power to the banks and the derivative traders and the rating agencies, all three backed up by the slovenly and dishonest coterie of "experts" from America's top universities and "think tanks", who maintain the fiction that this is a crisis of globalisation rather than a massive financial con trick foisted on the voters.<br />
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The banks and the rating agencies have become the dictators of the West. </blockquote><br />
The banks as dictators makes sense to me. In thinking about my dissatisfaction with financial regulation for much of the past decade, I see that a great deal of it is attributable to who the regulators see as their polity. Their idea of consultation on regulations is to ask the bankers, traders and rating agencies whether they approve. The idea of making public policy in the public interest if the bankers disapprove is unimaginable to them. And so the banks get the regulations they prefer - or at least did so until the crisis. <br />
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And my queasiness about David Cameron's behaviour in Brussels on Friday stems from the same concern. He threw his toys out of the pram and turned his back on the EU because they wouldn't guarantee to preserve the City from further taxation, regulation and scrutiny. It's very clear that the polity he was serving was not the United Kingdom's 62,300,000 people - but the one per cent that make their living in the City of London. <br />
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Immediately after reading the Fisk piece, I read the moving statement of Patrick Meighan, <a href="http://myoccupylaarrest.blogspot.com/2011/12/my-occupy-la-arrest-by-patrick-meighan.html?m=1">My Occupy LA Arrest</a>.<br />
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<blockquote>My name is Patrick Meighan, and I’m a husband, a father, a writer on the Fox animated sitcom “Family Guy”, and a member of the Unitarian Universalist Community Church of Santa Monica.<br />
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I was arrested at about 1 a.m. Wednesday morning with 291 other people at Occupy LA. I was sitting in City Hall Park with a pillow, a blanket, and a copy of Thich Nhat Hanh’s “Being Peace” when 1,400 heavily-armed LAPD officers in paramilitary SWAT gear streamed in. I was in a group of about 50 peaceful protestors who sat Indian-style, arms interlocked, around a tent (the symbolic image of the Occupy movement). The LAPD officers encircled us, weapons drawn, while we chanted “We Are Peaceful” and “We Are Nonviolent” and “Join Us.”<br />
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As we sat there, encircled, a separate team of LAPD officers used knives to slice open every personal tent in the park. They forcibly removed anyone sleeping inside, and then yanked out and destroyed any personal property inside those tents, scattering the contents across the park. They then did the same with the communal property of the Occupy LA movement. For example, I watched as the LAPD destroyed a pop-up canopy tent that, until that moment, had been serving as Occupy LA’s First Aid and Wellness tent, in which volunteer health professionals gave free medical care to absolutely anyone who requested it. As it happens, my family had personally contributed that exact canopy tent to Occupy LA, at a cost of several hundred of my family’s dollars. As I watched, the LAPD sliced that canopy tent to shreds, broke the telescoping poles into pieces and scattered the detritus across the park. Note that these were the objects described in subsequent mainstream press reports as “30 tons of garbage” that was “abandoned” by Occupy LA: personal property forcibly stolen from us, destroyed in front of our eyes and then left for maintenance workers to dispose of while we were sent to prison.<br />
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When the LAPD finally began arresting those of us interlocked around the symbolic tent, we were all ordered by the LAPD to unlink from each other (in order to facilitate the arrests). Each seated, nonviolent protester beside me who refused to cooperate by unlinking his arms had the following done to him: an LAPD officer would forcibly extend the protestor’s legs, grab his left foot, twist it all the way around and then stomp his boot on the insole, pinning the protestor’s left foot to the pavement, twisted backwards. Then the LAPD officer would grab the protestor’s right foot and twist it all the way the other direction until the non-violent protestor, in incredible agony, would shriek in pain and unlink from his neighbor.<br />
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It was horrible to watch, and apparently designed to terrorize the rest of us. At least I was sufficiently terrorized. I unlinked my arms voluntarily and informed the LAPD officers that I would go peacefully and cooperatively. I stood as instructed, and then I had my arms wrenched behind my back, and an officer hyperextended my wrists into my inner arms. It was super violent, it hurt really really bad, and he was doing it on purpose. When I involuntarily recoiled from the pain, the LAPD officer threw me face-first to the pavement. He had my hands behind my back, so I landed right on my face. The officer dropped with his knee on my back and ground my face into the pavement. It really, really hurt and my face started bleeding and I was very scared. I begged for mercy and I promised that I was honestly not resisting and would not resist.<br />
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My hands were then zipcuffed very tightly behind my back, where they turned blue. I am now suffering nerve damage in my right thumb and palm.<br />
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I was put on a paddywagon with other nonviolent protestors and taken to a parking garage in Parker Center. They forced us to kneel (and sit--SEE UPDATE) on the hard pavement of that parking garage for seven straight hours with our hands still tightly zipcuffed behind our backs. Some began to pass out. One man rolled to the ground and vomited for a long, long time before falling unconscious. The LAPD officers watched and did nothing.</blockquote><br />
This account turned my stomach, as it demonstrates all too clearly that the sympathies of the state are with lawbreaking bankers and not the victimised masses bailing them out. <br />
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<blockquote>So that’s what happened to the 292 women and men were arrested last Wednesday. Now let’s talk about a man who was not arrested last Wednesday. He is former Citigroup CEO Charles Prince. Under Charles Prince, Citigroup was guilty of massive, coordinated securities fraud.<br />
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Citigroup spent years intentionally buying up every bad mortgage loan it could find, creating bad securities out of those bad loans and then selling shares in those bad securities to duped investors. And then they sometimes secretly bet *against* their *own* bad securities to make even more money. For one such bad Citigroup security, Citigroup executives were internally calling it, quote, “a collection of dogshit”. To investors, however, they called it, quote, “an attractive investment rigorously selected by an independent investment adviser”.<br />
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This is fraud, and it’s a felony, and the Charles Princes of the world spent several years doing it again and again: knowingly writing bad mortgages, and then packaging them into fraudulent securities which they then sold to suckers and then repeating the process. This is a big part of why your property values went up so fast. But then the bubble burst, and that’s why our economy is now shattered for a generation, and it’s also why your home is now underwater. Or at least mine is.<br />
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Anyway, if your retirement fund lost a decade’s-worth of gains overnight, this is why.<br />
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If your son’s middle school has added furlough days because the school district can’t afford to keep its doors open for a full school year, this is why.<br />
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If your daughter has come out of college with a degree only to discover that there are no jobs for her, this is why.<br />
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But back to Charles Prince. For his four years of in charge of massive, repeated fraud at Citigroup, he received fifty-three million dollars in salary and also received another ninety-four million dollars in stock holdings. What Charles Prince has *not* received is a pair of zipcuffs. The nerves in his thumb are fine. No cop has thrown Charles Prince into the pavement, face-first. Each and every peaceful, nonviolent Occupy LA protester arrested last week has has spent more time sleeping on a jail floor than every single Charles Prince on Wall Street, combined.</blockquote><br />
A deflationary collapse will lead to political instability. It always does, because deflation destroys the value of paper assets which are mostly held by the most wealthy - the 1 per cent. And when deflation destroys their assets, it destroys their power and creates a vacuum. We need to be very clear in such a case that the enemy of the people is not the state, because if the state uses its police powers to protect the guilty and punish the innocent, then <a href="http://londonbanker.blogspot.com/2011/10/dexia-mafia-and-revolution.html">popular resistance and revolt become all too probable</a>. <br />
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In Europe, the politicians know this. Even the police know this. No matter what I think of any British government, the conduct of the LA Police would be inconceivable here. The police <a href="http://www.london24.com/news/london_riots_suggestion_police_planted_gun_near_mark_duggan_report_1_1151629">killing just one career criminal</a> this summer sparked nationwide riots. Brutalising non-violent protestors would have all of us on the streets.<br />
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There are values which are independent of financial assets. Those of us concerned to retain those values as a legacy for our children need to be vigilant as the bankers are only concerned with the values they can cash short term. <br />
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Thomas Jefferson wrote, "When the people fear their government, there is tyranny; when the government fears the people, there is liberty." <br />
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Fisk and Meighan remind us that the people are sovereign. The protests are because our sovereignty is undermined when it is disrespected by bankers buying lawlessness or by the police or financial regulators using state powers against the public interest. We have a right as a free people to self-governance under the rule of law. We as a free people have a right to regulate financial services to ensure that it serves a socially constructive function in the economy. Applying the rule of law to bankers reinforces the principles of justice essential to capitalism and the preservation of private property. The banks are not sovereign, and do not have a right to laws, regulators and police that protect them and them alone. There's some work to do here, of course, but having the issue crystallised helps a lot.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com33tag:blogger.com,1999:blog-912107698547747613.post-4578734869116627322011-12-08T10:34:00.007+00:002011-12-08T16:09:16.815+00:00Why I oppose Financial StabilityFinancial Stability became a topic in the late 1990s, at a time of peak laxity in international financial supervision. The same minds which promoted the Financial Stability Forum (now the <a href="http://www.financialstabilityboard.org/">Financial Stability Board</a>) also crafted the deeply flawed and destructive Basel II.<br />
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I have never understood why Financial Stability should be an objective of public policy. Desirable, measurable outcomes of benefit to the public should be the objectives of public policy. Stability is a silly and impractical goal in a capitalist economy. Success and failure of competitive firms are the basis for economic progress, capital allocation and market pricing. Capitalism requires recognition of failure, and failure always causes economic loss and some instability as past assumptions are re-examined and re-assessed more objectively in light of current painful reality. <br />
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The management of failure can contribute to better future outcomes, but only if the costs of failure are born by those who caused the failure and not by those innocent of it. The 1990s policies promoted by regulators during the Great Moderation aimed to forestall failure by disguising it, delaying it, and subsidising it. Since the collapse of securitisation and inter-bank credit markets in 2008, governments have been too willing to socialise the costs of failure (by then magnified with leverage) to taxpayers through serial bailouts.<br />
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One strength of the US banking system from the 1930s to the 1980s was that failures were dealt with quickly and certainly. Foreclosed properties had to be sold by banks within two years of repossession, leading to a quick and certain reallocation of assets from failed borrowers to new owners. The FDIC swiftly and mercilessly shut down failed banks. New owners - often buying at distressed prices - were encouraged to invest in making the assets productive and profitable. It was this simple recycling from failed managers to better managers that was largely behind the short recessions and strong recoveries during this period of American economic history. With forbearance now institutionalised at all levels of the US economy, we are seeing Japanification instead of recovery. And it is even worse just about everywhere else where dominant banks are much more influential.<br />
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Financial Stability - like national security - can never be objectively confirmed as achieved. It is more often used to disguise the ulterior aims of its proponents, or to misdirect attention in aid of bad public policy that harms rather than promotes the public interest. For example, the Greenspan Put was a brilliant mechanism for ensuring financial stability by preventing any adjustment of the markets in response to the S&L crisis or dot-com bust. The Bernanke Put and Paulson Plan were financial stability solutions to the securitisation fraud crisis that revealed the undercapitalisation of global banks and over-leveraging of real estate. Bank bailouts and special liquidity facilities were financial stability innovations to prevent mark downs of mis-priced and illiquid capital assets. <br />
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Rather than review whether massive financial deregulation and promoting concentration in a few incumbents was in the public interest, the Greenspan Put, Bernanke Put, liquidity facility innovations and public bailouts have disguised misallocation of capital by pumping the markets with taxpayer funds and monetary laxity whenever they began to flag. Financial Stability initiatives have therefore taught incumbent bankers that any disruption is an excuse to double down on bad bets as the central banks and state treasuries would flood enough cash to make bad bets come good. MF Global <a href="http://newsandinsight.thomsonreuters.com/Securities/Insight/2011/12_-_December/MF_Global_and_the_great_Wall_St_re-hypothecation_scandal/">made this bet</a>, and although it (and its clients) won't be collecting, I expect the creditors/counterparties that seized all its collateral assets expect to come out way ahead.<br />
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I oppose Financial Stability because it is the most misleading banner for a set of bad, harmful and expensive public policies protecting bad executive management and preventing recognition of realistic market outcomes. <br />
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So what would I promote instead? Resiliency and resolution. Resiliency means the ability to withstand stresses and shocks which will unavoidably arise in global, competitive markets. Resolution means the dispersion of assets to creditors - and competitors - when banks fail, in hopes the assets and enterprises will be better managed by other managers than the same ones that led the bank to failure. Together these two principles - if made the basis for public policy - would do more to restore sanity to global banking than anything else I can think of. Resiliency will favour more and better capitalisation, with a focus on marketable assets with transparent price discovery (e.g., traded on transparent markets and recorded on balance sheet). Speedy and certain resolution of failed banks will make management and shareholders conscious of the risks of failure falling first on them, then on unsecured creditors and bondholders, and never on the taxpayer.<br />
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We are a long way from adopting principles of resiliency and resolution, as demonstrated by the EU's continued efforts to forestall defaults while protecting incumbent managements and bondholders. Our policy makers continue to chase the <a href="http://en.wikipedia.org/wiki/Chimera_%28mythology%29">chimera</a> of financial stability, and make bad policies worse along the way.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com30tag:blogger.com,1999:blog-912107698547747613.post-85495809782497687132011-10-12T12:56:00.007+01:002011-10-12T16:22:17.017+01:00Anomie Watch: EFSF and bailout lawlessness<i>Anomie</i> literally means lawlessness. Although banks are burdened with many, many rules, they are seldom obeyed and largely unenforceable against the most powerful. Central banks are even more likely to ignore their enabling statutes and applicable regulations in innovating "financial stability" solutions. It is this lawlessness that was brought to the fore this week by a vote to reject the EFSF in Slovakia.<br />
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My <a href="http://londonbanker.blogspot.com/2011/10/dexia-mafia-and-revolution.html">post earlier this week</a> coincided with a furore in Slovakia over approval of the European Financial Stability Facility. The EFSF is yet another mechanism for ill-transparently transferring taxpayer funds via governments and central banks to bankers, bondholders and bank shareholders.<br />
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An obscure leader, Richard Sulik, of an obscure minority party, SaS, objected to impoverishing his already poor countrymen to enrich foreign bankers. Under the terms of EFSF financing, taxpayers in Slovakia - the second poorest nation in the EU - would bear a disproportionate share of the EFSF burden relative to the size of the economy. <br />
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When the prime minister made support for the EFSF a vote of confidence, Sulik and his party brought down the government. The EFSF is likely to pass following a reorganisation of the coalition government, but in the meanwhile we have a teaching moment of real value.<br />
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I respect any politician who acts out of principle rather than self interest. Since the occurence is relatively rare, I was prompted to take a closer look at Mr Richard Sulik and his views on the EFSF. Fortunately he has documented his objections fully in a paper available online:<br />
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<blockquote><a href="http://strana-sas.sk/file/579/ESFS-a_road_to_socialism.pdf">European Financial Stability Facility: A Road to Socialism</a><br />
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Just like it is impossible to extinguish fire with a fan, it is equally impossible to solve the debt crisis with new debts. The only thing that will help is to face the truth. Greece must declare bankruptcy, Italy must start saving and the rules set up by the eurozone upon its establishment must finally start being observed. It will hurt, but it is the only solution. . .<br />
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I would like to point out that this is not the same eurozone we entered in 2009. There are rules that should have been observed but all of them have been violated. Temporary EFSF and permanent EFSF will cost us 1 to 1.5 the amount of our annual state budget! Moreover, there is no guarantee that the attempts for the EFSF increase are over. . . . <br />
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EFSF ratification by the National Council will be a decision that will harm the citizens of Slovakia in the long run and to a great extent.<br />
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SaS will simply not sign up for something like this.</blockquote><br />
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Whether you are for or against the EU, for or against the Eurozone, for or against bailouts, this is an important document to read. It catalogues the lawlessness and lack of accountability that made a bad financial crisis into a bad banking crisis then worse sovereign debt crisis and an even worse currency crisis.<br />
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I wish Mr Sulik had a career ahead of him in central banking or EU public policy. I fear after this week, he may once again be relegated to obscurity. His fellow Slovakians should be grateful for his principled stance and his foresight, and perhaps return him and his party to government when the costs of the betrayal of other parties become all too clear.<br />
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UPDATE:</b> This just in! Berlusconi must face a <a href="http://www.ft.com/cms/s/0/9ae90522-f4be-11e0-a286-00144feab49a.html">vote of confidence tomorrow</a> in the Italian parliament after defeat in a routine vote on government budget and accounts yesterday. Perhaps the Slovakian teaching moment will last longer than one day?<br />
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<b>UPDATE (2):</b> The three outgoing coalition parties have agreed with the opposition SMER party to <a href="http://www.forbes.com/feeds/ap/2011/10/12/general-eu-slovakia-financial-crisis_8730371.html">pass the EFSF</a> in a further vote to be scheduled before the end of the week. An election will be held on 10 March 2012. I hope the Slovakian voters remember then that the party that did not betray them to Brussels and the banksters was SaS.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com8tag:blogger.com,1999:blog-912107698547747613.post-48276273487790446532011-10-10T11:24:00.004+01:002011-12-14T10:07:45.862+00:00Dexia, Mafia and Revolution<div class="separator" style="clear: both; text-align: center;"><a 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" 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" 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I knew I had seen the script we're living <a href="http://www.imdb.com/title/tt0071562/">somewhere</a>:<br />
<br />
<blockquote><i><b>What I am saying is, we have now what we have always needed, real partnership with the government.</b></i> </blockquote><br />
And this is what follows: <a href="http://www.youtube.com/watch?v=53K0d3Pdl9I">Revolution!</a><br />
<br />
What does that tell you? It tells me that when predatory bankers and their complicit government cronies cannibalise the real economy to the tipping point, then regime change is just a matter of time. Politicians are acting like bankers are their only paymasters. In reality the bankers are just the noisiest and most demanding paymasters - until the people rise up in anger.<br />
<br />
This morning the 11 million people of Belgium have woken to find themselves the 100 percent owners of a bankrupt and unprofitable retail bank at a cost of 4 billion euros, and guarantors of a further joint 122 billion euros in liabilities with France and Luxembourg. The shareholders and bondholders will be grateful, and the markets are accordingly delighted, but pity the poor Belgian taxpayer. The CEO and Chairman of Dexia have admitted that the bank operated as a <a href="http://www.bloomberg.com/news/2011-10-10/dexia-in-2008-operated-as-hedge-fund-chairman-says.html">hedge fund</a>, and yet they are given serial bailouts at the taxpayers' expense. The Belgians have already thrown out their government, so now what do they do?<br />
<br />
UPDATE: Ironically, after putting up this post about how crony accommodation of the banksters can lead to revolution, the reality is unfolding even now in Slovakia. Slovakia was the last country required for unanimous consent to the extension of the powers of European Financial Stability Fund. The prime minister made the vote on the EFSF a vote of confidence in the government. Ooops. Looks like she loses her post and the government tonight, as one of the smaller parties took offense at the blackmail against the national interest. <br />
<br />
My new hero is Richard Sulik, leader of the coalition's SaS party, who is willing to take down the government rather than betray his country's taxpayers. The vote, which has had the market on edge all day, has now been indefinitely postponed. Even if the EFSF vote passes this week, when the fecal matter hits the ventilator in the not distant future, the voters will remember that Mr Sulik tried to do the right thing.<br />
<br />
<blockquote><a href="http://www.ft.com/cms/s/0/2da60a78-f428-11e0-bdea-00144feab49a.html?ftcamp=rss">FT.com</a>:<br />
“I'd rather be a paraiah in Brussels than have to feel ashamed before my children, who would be deeper in debt should I back raising the volume of funding in the EFSF bail-out mechanism,” Mr Sulik told parliament.<br />
<br />
Mr Sulik resisted the entreaties of Ms Radicova and other officials, who stressed that Slovakia's credibility as a responsible member of the eurozone was on the line.<br />
<br />
While the trials of countries such as Portugal and Ireland do find sympathy in Slovakia, which is the second-poorest member of the eurozone, there is very little feeling for Greece, which is seen by many Slovaks as having caused its own problems.<br />
<br />
“Extending the EFSF is mainly for saving foreign banks, and it will be expensive for Slovakia,” said Mr Sulik.</blockquote><br />
Zerohedge is <a href="http://www.zerohedge.com/news/liveblogging-slovakian-parliamentaryefsf-vote-session">liveblogging the Slovakian Parliament</a> for those who like their crony capitalism raw and in colour.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com35tag:blogger.com,1999:blog-912107698547747613.post-21194810836769203072011-09-29T09:30:00.003+01:002011-09-29T19:19:48.054+01:00Transaction Taxes and TransparencyThe City of London is in a stir over the EU proposal of a financial transactions tax. The<a href="http://www.ft.com/cms/s/0/47d4d53c-e9c4-11e0-bb3e-00144feab49a.html"> great</a> and the <a href="http://blogs.ft.com/the-a-list/2011/09/29/a-tobin-tax-is-a-leap-in-the-wrong-direction/">good</a> are uniformly arrayed against such a tax. I am not so sure that it wouldn't be a good thing.<br />
<br />
Here in Britain we now pay 20 per cent Value Added Tax on virtually everything we buy, except food, medicines and children's clothing. Yet the financial sector is exempt of any similar tax on transactions. This is patently unfair since approximately 5 pence of the 20 is required to finance the state bailouts of the financial sector. As a regressive and unfair tax, that is hard to beat.<br />
<br />
In addition to raising revenues from an investment banking sector which has decimated public finances for a generation to come, a transaction tax might be a very good thing from an accountability and transparency perspective. <br />
<br />
Those opposing say it would be anti-markets and drive trading offshore. Markets clearly do not work properly anymore at price discovery, liquidity aggregation or trade transparency. I rather think markets would work better if those participating had an economic stake in the transaction longer than a nanosecond, and a trading objective more durable than front-running real investors with HFT gaming. <br />
<br />
More than that, a transaction tax would recognise that the state adds value to the market and deserves to be recompensed for that value. A huge part of the operational value of developed markets is derived from the rule of law. Taxing transactions would be recognising that each transaction benefits from the legal system which makes such a transaction valid and enforceable.<br />
<br />
In my view, the way to make the transaction tax workable and cost-effective is to incentivise the reporting of transactions and the payment of tax. The way to do this is to legislate that transactions themselves will only be legally enforceable if there is a record that the tax has been paid. Anyone might choose not to pay the tax, but if they want to enforce a trade or debt obligation they are on their own. If they want recourse to the courts, rights to exercise on margin/collateral or a valid claim in insolvency, then they pay the tax as their ticket to rely on the legal system.<br />
<br />
In the United States we see that the <a href="http://foreclosuredefensenationwide.com/?p=175">MERS scandal</a> boils down to the wholesale attempt by US banks to avoid paying the transaction taxes on land mortgage registrations with local counties and states. As a result, the very enforceability of millions of mortgages is being thrown into doubt as a matter of law.<br />
<br />
Had originators, banks, investment banks and investors been forced to register interests in mortgages in compliance with the law, some of the great abuses of securitisation would have become much more difficult to sustain for so long. In that sense, transparency would have promoted greater accountability and helped curb abuse.<br />
<br />
The public has an interest in the integrity of markets. That integrity has been undermined horribly over the past 25 years by demutualisation of exchanges and clearing houses, fragmentation of markets to off-exchange systems and derivatives, leveraged shadow banking, and information assymetries between highly concentrated market insiders and everyone else. We now don't know who owns what and who owes what, and that means that economies are operating with dangerous blind spots. Relaxed accounting rules and forbearance on capital mean that mis-pricing and mis-allocation of capital are endemic and worsening, making any recovery even more doubtful. <br />
<br />
A transaction tax on trades, as a pre-condition to legal enforceability, might restore some integrity to markets. That would help restore more efficient functioning to economies with much greater promise than further bailouts to banks.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com11tag:blogger.com,1999:blog-912107698547747613.post-16011098198837576302011-09-24T17:37:00.002+01:002011-09-25T18:36:44.824+01:00Testimony of Marriner Eccles to the Committee on the Investigation of Economic Problems in 1933Below are excerpts from the <a href="http://fraser.stlouisfed.org/docs/meltzer/ecctes33.pdf">testimony of Marriner Eccles</a> to the Senate Committee on the Investigation of Economic Problems in 1933. It is an historic document – laying out the future terms of the Federal Deposit Insurance Corporation, the management of money supply nationally through open market operations, the Bretton Woods Accord on currency stability, mortgage refinancing as monetary stimulus, and reforms of the Federal Reserve System to eradicate the excesses of untamed capitalism and financial dominance of Wall Street. He proposes higher income and inheritance taxes as essential to promote economic growth, curb inequality and forestall political instability. He encourages federal regulation of child labor, unemployment insurance, social security and other farsighted reforms. And he avows himself a capitalist throughout.<br />
<br />
Although he was a titan of industry - with banks, railroads and corporations spanning the American west - Eccles was born the son of an illiterate, bigamist, Mormon, Scottish immigrant. He was about as far as you could get from the Eastern elite ranks that ran US banking on Wall Street. But he sure understood money, economics and trade, and had the personal drive and charisma to carry his point with the president and with Congress.<br />
<br />
Following his testimony, the Utah banker was invited by Franklin Roosevelt to come to Washington to spearhead legislation to enact his proposed reforms. Within two years he had drafted and enacted the Securities Act of 1933 and the Banking Act of 1933(a.k.a., The Glass-Steagall Act, which separated investment and commercial banking and established the FDIC) and the Banking Act of 1935 (which created the modern Board of Governors of the Federal Reserve System and Federal Open Market Committee). He served as Chairman of the Board of Governors of the Federal Reserve System from 1934 until 1951.<br />
<br />
Read this and know that just one person, with vision and principles, can make a difference to the world in a time of crisis, establishing the basis for decades of prosperity and growth.<br />
<br />
<br />
<blockquote>[page 8]<br />
<br />
Before effective action can be taken to stop the devastating effects of the depression, it must be recognised that the breakdown of our present economic system is due to the failure of our political and financial leadership to intelligently deal with the money problem. In the real world there is no cause nor reason for the unemployment with its resultant dsestitution and suffering of fully one-third of our entire population. We have all and more of the material wealth which we had at the peak of our prosperity in the year 1929. Our people need and want everything which our abundant facilities and resources are able to provide for them. The problem of production has been solved, and we need no further capital accumulation for the present, which could only be utilised in further increasing our productive facilities or extending further foreign credits. We have a complete economic plant able to supply a superabundance of not only all the necessities of our people, but the comforts and luxuries as well. Our problem, then, becomes one purely of distribution. This can only be brought about by providing purchasing power sufficiently adequate to enable the people to obtain the consumption goods which we, as a nation, are able to produce. The economic system can serve no other purpose and expect to survive.<br />
<br />
If our problem is then the result of the failure of our money system to properly function, which today is generally recognised, we then must turn to the consideration of the necessary corrective measures to be brought about in that field; otherwise, we can only expect to sink deeper in our dilemma and distress, with possible revolution, with social disintegration, with the world in ruins, the network of its financial obligations in shreds, with the very basis of law and order shattered. Under such a condition nothing but a primitive society is possible. Difficult and slow would then be the process of rebuilding and it could only then be brought about on a basis of a new political, economic and social system. Why risk such a catastrophe when it can be averted by aggressive measures in the right direction on the part of the Government?<br />
<br />
* * *<br />
<br />
[page 9]<br />
<br />
We could do business on the basis of any dollar value as long as we have a reasonable balance between the value of all goods and services if it were not for the debt structure. The debt structure has obtained its present astronomical proportions due to an unbalanced distribution of wealth production as measured in buying power during our years of prosperity. Too much of the product of labor was diverted into capital goods, and as a result what seemed to be our prosperity was maintained on a basis of abnormal credit both at home and abroad. The time came when we seemed to reach a point of saturation in the credit structure where, generally speaking, additional credi was no longer available, with the result that debtors were forced to curtail their consumption in an effort to create a margin to apply on the reduction of debts. This naturally reduced the demand for goods of all kinds, bringing about what appeared to be overproduction, but what in reality was underconsumption measured in terms of the real world and not the money world. This naturally brought about a falling in prices and unemployment. Unemployment further decreased the consumption of goods, which further increased unemployment, thus bringing about a continuing decline in prices. Earnings began to disappear, requiring economies of all kinds – decreases in wages, salaries, and time of those employed.<br />
<br />
[page 10]<br />
<br />
The debt structure, in spite of the great amount of liquidation during the past three years, is rapidly becoming unsupportable, with the result that foreclosures, receiverships and bankruptcies are increasing in every field; delinquent taxes are mounting and forcing the closing of schools, thus breaking down our educational system, and moratoriums of all kinds are being resorted to – all this resulting in a steady and gradual breaking down of our entire credit structure, which can only bring additional distress, fear, rebellion, and chaos.<br />
<br />
* * *<br />
<br />
As an example of Government control and operation of the economic system look to the period of the war, at which time, under Government direction, we were able to produce enough and support not only our entire civilian population on a standard of living far higher than at present, but an immense army of our most productive workers engaged in the business of war, parasites on the economic system, consuming and destroying vast quantities produced by our civilian population; we also provided allies with an endless stream of war materials and consumption goods of all kinds. It seemed as though we were enriched by the waste and destruction of war. Certainly we were not impoverished, because we did not consume and waste except that which we produced. As a matter of fact we consumed and wasted less than we produced as evidenced by the additions to our plant and facilities during the war and the goods which we furnished to our allies. The debt incurred by the Government during the war represents the profit which accrued to certain portions of our population through the operation of our economic system. No Government debt would have been necessary and no great price inflation would have resulted if we had drawn back into the Federal Treasury through taxation all of the profits and savings accumulated during the war. <br />
<br />
* * *<br />
<br />
[page 11]<br />
<br />
How was it that during the period of the prosperity after the war we were able in spite of what is termed our extravagance – which was not extravagance at all; we saved too much and consumed too little – how was it we were able to balance a $4,000,000,000 annual Budget, to pay off ten billion of the Government debt, to make four major reductions in our income tax rates (otherwise all of the Government debt would have been paid), to extend $10,000,000,000 credit to foreign countries represented by our surplus production which we shipped abroad, and add approximately $100,000,000,000 by capital accumulation to our national wealth, represented by plants, equipment, buildings, and construction of all kinds? In the light of this record, is it consistent for our political and financial leadership to demand at this time a balanced Budget by the inauguration of a general sales tax, further reducing the buying power of our people? Is it necessary to conserve Government credit to the point of providing a starvation existence for millions of our people in a land of superabundance? Is the universal demand for Government economy consistent at this time? Is the present lack of confidence due to an unbalanced Budget?<br />
<br />
What the public and the business men of this country are interested in is a revival of employment and purchasing power. This would automatically restore confidence and increase profits to a point where the Budget would automatically be balanced in just the same manner as the individual, corporation, State, and city budget would be balanced. <br />
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[page 12]<br />
<br />
During the past three years there has been such tremendous liquidation and scaling down of debts that extraordinary measures have had to be taken to prevent a general collapse of the credit structure. If such a policy is continued what assurance is there that the influences radiating from a marking down of the claims of creditors will not result in a further decline of prices? In other words, after we have reduced all debts through a basis of scaling down 25 per cent to 50 per cent, what reason have we to expect that prices will not have a further decline by like amount? And then again, the practical difficulties of bringing about such a adjustment on a broad scale seem to be insurmountable.<br />
<br />
The time element required would indefinitely prolong the depression; such a policy would necessitate the further liquidation of banks, insurance companies, and all credit institutions, for if the obligations of public bodies, corporations, and individuals were appreciably reduced the assets of such institutions would diminish correspondingly, forcing their liquidation on a large scale. Nothing would so hinder any possibility of recovery. Bank and insurance failures destroy confidence and spread disaster and fear throughout the economic world. The present volume of money would diminish with increased hoarding and decreased credit and velocity, making for further deflation and requiring increased Government support without beneficial results until we would be forced from the gold standard in spite of our 40 per cent of the world’s gold, and, at that point, an undesirable and possibly an uncontrolled inflation with all its attendant evils would likely result, and thus the very action designed to preserve the gold standard and re-establish confidence would destroy both.<br />
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[page 13]<br />
<br />
We have nearly one and a half billion currency more in circulation at the present time than we had at the peak of 1929, and under our present money system we are able to increase this by several billion more without resorting to any of the three inflationary measures popularly advocated. There is sufficient money available in our present system to adequately adjust our present price structure. Our price structure depends more upon the velocity of money than it does upon its volume.<br />
<br />
* * *<br />
<br />
In 1929 the high level of prices was supported by a corresponding velocity of credit. The last Federal Reserve Bulletin gives an illuminating picture of this relationship as shown by figures of all member banks. From 1923 to 1925 the turnover of deposits fluctuated from 26 to 32 times per year. From the autumn of 1925 to 1929 the turnover rose to 45 times per year. In 1930, with deposits still increasing, the turnover declined at the year end to 26 times. During the last quarter of 1932 the turnover dropped to 16 times per year. Note that from the high price level of 1929 to the low level of the present this turnover has declined from 45 to 16, or 64 per cent. <br />
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[page 14]<br />
<br />
I repeat there is plenty of money today to bring about a restoration of prices, but the chief trouble is that it is in the wrong place; it is concentrated in the larger financial centers of the country, the creditor sections, leaving a great portion of the back country, or the debtor sections, drained dry and making it appear that there is a great shortage of money and that it is, therefore, necessary for the Government to print more. This maldistribution of our money supply is the result of the relationship between debtor and creditor sections – just the same as the realtion between this as a creditor nation and another nation as a debtor nation – and the development of our industries into vast systems concentrated in the larger centers. During the period of the depression the creditor sections have acted on our system like a great suction pump, drawing a large portion of the available income and deposits in payment of interest, debts, insurance and dividends as well as in the transfer of balances by the larger corporations normally carried throughout the country. <br />
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[page 15]<br />
<br />
The maladjustment referred to must be corrected before there can be the necessary velocity of money. I see no way of correcting this situation except through Government action.<br />
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[page 21]<br />
<br />
Mr Eccles: Of course, the way I look at this matter is that we have the power to produce, just as in the period of prosperity after the war demonstrated when we had a standard of living for a period from 1921 to 1929 which, of course, was far in excess of what it is now. Yet in spite of that standard of living we saved too much a I have previously tried to show.<br />
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Senator Gore: You have got Foster in the back of your head?<br />
<br />
Mr Eccles: I only wish there were more who had. We saved too much in this regard, that we added too much to our capital equipment. Creating overproduction in one case and underconsumption in the other because of an uneconomic distribution of wealth production. . . . Of course, we are losing $2,000,000,000 per month in unemployment. I can conceive of no greater waste than the waste of reducing our national income about half of what it was. I can not conceive of any waste as great as that. Labor, after all, is our only source of wealth. <br />
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[page 22]<br />
<br />
There could be no waste in post offices or in roads or in schools. You would have something to show for it. With war all you have left is the expense of taking care of maimed and crippled and sick veterans. That is what is left from war. And it is all wastage.<br />
<br />
Senator Gore: You have touched the point. The real cause of the existing trouble was the war, with destruction of over 300 billion dollars of wealth in four years. We are paying the price now. The boys paid the price in blood on the field. We are paying the economic price today. And you may just as well pass a resolution to raise the dead that fell in France as to try to pass laws to avert the inevitable consequences of that war. <br />
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Mr Eccles: It is true we are suffering the consequences of the war, but there is no reason why we should be suffering from the consequences of the war if it had not been for the international or the interallied debt that resulted from it. WE are suffering from a debt structure. We are not suffering from the waste, because after all, we know today that we have the power and the facilities to produce certainly all that the people of this country need and want.<br />
<br />
* * *<br />
<br />
We now see, after nearly four years of depression, that private capital will not go into public works or self-liquidating projects except through government and that if we leave our “rugged individual” to follow his own interest under these conditions he does precisely the wrong thing. Each corporation for its own protection discharges men, reduces pay rolls, curtails its orders for raw materials, postpones construction of new plants and pays off bank loans, adding to the surplus of unusable funds. Every single thing it does to reduce the flow of money makes the situation worse for business as a whole. <br />
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[page 24]<br />
<br />
I am talking about private credit. If it is credit we need why do not say 200 of our great corporations controlling 40 per cent of our industrial output that are in such shape that they do not need credit – they have great amounts of surplus funds – if it is credit that is needed why do they not put men to work? For the very reason that there is not a demand for goods, that we have destroyed the ability to buy at the source through the operation of our capitalistic system, which has brought about such a maldistribution of wealth production that it has gravitated and gravitated into the hands of – well, comparatively few. Maybe several millions of people. We have still got the unemployment and have got no buying power as a result. <br />
<br />
[page 25 – proposal of bank deposit insurance and failed bank resolution]<br />
<br />
[page 27 – laying out the basis for what was later to be the FDIC]<br />
<br />
However, there is always this danger about that class of thing [Government guarantee of bank deposits]. It encourages bad practices and bad management. It may put a premium on them, which of course we do not want to do, and if it is done there must be rules and regulations for the proper conduct of banks requiring eligibility, and if they fail to meet the eligibility they would be suspended after so much notice, and the fund would be drawn upon to take care of any loss.<br />
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[page 31]<br />
<br />
Farm mortgages at present are possibly the most undesirable and frozen of all loans, and frozen loans are preventing, to some extent, the necessary expansion of credit. The plan I have proposed [to refinance existing farm mortgages at new lower rates] will very effectively and immediately make liquid billions of dollars of assets for which there is no market today, while at the same time it will bring about a reduction of at least one-third of the average annual payments on the farm debt now required to be made by farm mortgage debtors without requiring any financing or loss by the Federal Government, thus bringing about the necessary relief in the farm mortgage field. This plan has the advantage, as a result of the Government guarantee of the Federal land bank bonds, of diverting surplus funds carried in the great creditor sections into the indirect financing of farm mortgages where it is impossible even at a high rate of interest, which farmers can not pay, to attract those funds directly.<br />
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* * *<br />
<br />
No program designed to bring this country out of the depression can be considered apart from the relations of this country to the rest of the world unless a policy of complete isolation is adopted and an embargo put on gold exports and our domestic economy adjusted to meet such a condition.<br />
<br />
Our international problems are far more difficult and will be slower to work out because of our inability to control the action of other nations. These problems can be met only through international conferences over a period of time. The most important of these problems and the one which must be settled before any progress can be made in the meeting of our domestic or other foreign problems is the problem of interallied debts.<br />
<br />
There is a great demand on the part of the public and most of the press of this country that these debts be paid. It seems to me that our political leaders have lacked the courage to face this problem in a realistic manner. This has greatly contributed to prolonging the depression. The public, generally speaking, is not fully informed as to the impossibility of our foreign debtors complying with these demands, which cn only be complied with at the expense of our own people. <br />
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[page 32]<br />
<br />
It is elementary that debts between nations can ultimately be paid only in goods, gold, or services, or a combination of the three. We already have over 40 per cent of the gold supply of the world – that is not true; it is between 35 and 40 per cent – and as a result most of the former gold standard countries have been forced to leave that standard and currency inflation has been the result. This has greatly reduced the cost of producing foreign goods in terms of our dollar and has made it almost impossible for foreign countries to buy American goods because of the high price of our dollar measured in the depreciated value of their money. This naturally has resulted in debtors trying to meet their obligations by producing and selling more than they buy, thus enabling them to have a favourable balance of trade necessary to meet their obligations to us. If this country is to receive payment of foreign debts, it must buy and consume more than it produces, thus creating a trade balance favourable to our debtors. <br />
<br />
* * *<br />
<br />
We must choose either between accepting sufficient foreign goods to pay the foreign debts owing to this country, or cancel the debts. This is not a moral problem, but a mathematical one. <br />
<br />
[page 33 – the outline of what later became the Bretton Woods Accord]<br />
<br />
Cancellation, or a settlement of the debts on a basis which would practically amount to cancellation, in exchange for stabilisation of the currency of the debtors, together with certain trade concessions and an agreement to reduce armaments would be a small price for this country to pay as compared with the great benefits which the entire world, including ourselves, would derive therefrom. Without a stabilisation of foreign currencies it will be difficult, if not impossible, in my opinion, to substantially raise the price level in this country as long as we stay on a gold basis. Our debtors will default and we will likely be forced to abandon gold and depreciate our currency in relation to that of other countries in order to raise our price level in this country and to meet foreign competition unless we are instrumental in inducing foreign countries to stabilise their currencies on a gold basis, or gold and silver basis if action is taken internationally to remonetise silver. <br />
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[page 33]<br />
<br />
Senator Shortridge: Then I take it you would have the tariffs reduced?<br />
<br />
Mr Eccles: No. Debts cancelled. Then I think with the prosperity that you would get in this country you can collect more than that in income and inheritance taxes when you stop this loss of $2,000,000,000 a month through unemployment. You start the process of wealth, and even a capitalist is far better off. I am a capitalist.<br />
<br />
* * *<br />
<br />
The program which I have proposed is largely of an emergency nature designed to bring rapid economic recovery. However, when recovery is restored, I believe that in order to avoid future disastrous depressions and sustain a balanced prosperity, it will be necessary during the next few years for the Government to assume a greater control and regulation of our entire economic system. There must be a more equitable distribution of wealth production in order to keep purchasing power in a more even balance with production. <br />
<br />
If this is to be accomplished there should be a unification of our banking system under the supervision of the Federal Reserve Bank in order to more effectively control our entire money and credit system; a high income and inheritance tax is essential in order to control capital accumulations (this diversion of taxes should be left solely to the central government – the real property and sales tax left to the States); there should be national child labor, minimum wage, unemployment insurance and old age pension laws (such laws left up to the States only create confusion and can not meet the situation nationally unless similar and uniform laws are passed by all States at the same time, which is improbable); all new capital issues offered to the public and all foreign financing should receive the approval of an agency of the Federal Government; this control should also extend to all means of transportation and communication so as to ensure their operation in the public interest. A national planning board, similar to the industries board during the war, is necessary to the proper coordination of public and private activities of the economic world.<br />
<br />
Such measures as I have proposed may frighten those of our people who possess wealth. However, they should feel reassured in reflecting upon the following quotation from one of our leading economists:<br />
<br />
<blockquote><b>It is utterly impossible, as this country has demonstrated again and again, for the rich to save as much as they have been trying to save, and save anything that is worth saving. They can save idle factories and useless railroad coaches; they can save empty office buildings and closed banks; they can save paper evidences of foreign loans; but as a class they can not save anything that is worth saving, above and beyond the amount that is made profitable by the increase of consumer buying. It is for the interests of the well to do – to protect them from the results of their own folly – that we should take from them a sufficient amount of their surplus to enable consumers to consume and business to operate at a profit. This is not “soaking the rich”; it is saving the rich. Incidentally, it is the only way to assure them the serenity and security which they do not have at the present moment.</b></blockquote><br />
[page 35]<br />
I feel that one of two things is inevitable: That either we have got to take a chance on meeting this unemployment problem and this low-price problem or we are going to get a collapse of our credit structure, which means a collapse of our capitalistic system, and we will then start over. And I therefore would like to see us attempt to regulate and operate our economy which today requires more action from the top due to our entire interdependency than it did in our earlier days. </blockquote><br />
The quote I have bolded is my favorite part of this testimony, though it is not Eccles' own words. I would be grateful for anyone who can track down a proper citation for the quote. Eccles thought it was either <a href="http://en.wikipedia.org/wiki/Stuart_Chase">Stuart Chase</a> or <a href="http://en.wikipedia.org/wiki/William_Trufant_Foster">William Trufant Foster</a>.<br />
<br />
If you've made it this far, you might also enjoy: <a href="http://londonbanker.blogspot.com/2008/07/fishers-debt-deflation-theory-of-great.html">Fisher's Debt Deflation Theory of Great Depressions and a possible revision</a>London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com23tag:blogger.com,1999:blog-912107698547747613.post-40759629609658105192011-09-18T13:21:00.002+01:002011-09-19T09:29:07.457+01:00"Deficit Attention Disorder"I must admit to being delighted that the EU finance ministers have found unity on one point: dismissal of Tim Geithner as<a href="http://blogs.reuters.com/felix-salmon/2011/09/16/the-euro-zone-shuns-geithner/"> officious, ignorant and unaccountable</a>. He is an example, right up there with George W. Bush, of the privileged American elite who "fail upwards" throughout a career. <br />
<br />
Europe's nations may have an escalating debt crisis, but they have been addressing it sensibly and cautiously by trying to rein in further debt through reductions in government spending.<br />
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The perfect example from the meeting logistics: EU finance ministers shared a bus to the meeting, while Tim Geithner insisted on a private car.<br />
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Geithner seems to abhor austerity and sacrifice, preferring any strategy which keeps debt growing to fund the investment banking, security, prisons and war industries on which the American economy now depends for so much of its GDP. (2 percent of Americans are in prison, while 1 percent work for the Department of Defense.) <br />
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He encouraged a ten-fold increase in leverage of the EFSF to create a massive new debt overhang. Madness. The cure for a refinancing crisis is not more leverage to be later refinanced.<br />
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Europe has its problems, but one thing I know is that the default setting for Europe is cooperation where the default setting for America is conflict. If Tim Geithner's objective in coming to Poland was to stimulate consensus among European finance ministers, then he can go home happy. He succeeded. They are unified in finding him and his policies discredited. They will work together from that consensus to find a more workable solution for Europe than could ever be conceived in Washington, precisely because they will work together in recognition of mutuality of interest.<br />
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UPDATE: As this is being linked elsewhere, I'll add a suggestion about what I would advise the eurozone finance ministers. I would advise them to have every EU state with off balance sheet, hidden liabilities on derivatives - whether undertaken for window dressing to gain admission to the eurozone or any other purpose - to default on any further margin or resettlement payments. The <a href="https://secure.wikimedia.org/wikipedia/en/wiki/Interest_rate_swap#British_local_authorities">Hammersmith and Fulham defaults</a> of the late 1980s proved a wonderful discipline on the investment banks, schooling them in the limits of preying on local governments. It might be time for another lesson at the national level.<br />
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Each of the defaulted derivatives contracts could be referred to an EU committee to determine whether the contract had any legitimate rationale beyond disguising the financial condition or otherwise deceiving the public or other EU governments. If there was no legitimate rationale which served the public interest, then the contract would be declared unenforceable. <br />
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This wouldn't address decades of deficit spending, but it would provide a popular demonstration of resolve to shaft Wall Street rather than the taxpayer, at least in the first instance. The politicians should then have enough breathing room to reach a more resilient agreement on fiscal policy and funding going forward.<br />
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I appreciate that questioning the validity and enforceability of derivatives contracts might be "extra-legal" in the sense that it would be contrary to accepted legal norms. But since virtually every intervention and liquidity programme innovated by a central bank since 2007 has been without legal or statutory basis, despite the huge redistributions of national wealth, I hardly consider that a sticking point.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com36tag:blogger.com,1999:blog-912107698547747613.post-17322865882771680192011-09-02T12:36:00.000+01:002011-09-02T12:48:37.392+01:00Liquidity, Bank Capital and Market ReformA friend forwarded some thoughts on liquidity that are worth sharing here, as liquidity is central to the utility of assets as bank capital and to stabilising markets under stress. My friend's points are in bold, with my commentary below.<br />
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Central bankers and securities regulators lost sight of liquidity over the past decade or two in permitting reforms which compromised the health of the financial system. Thanks to the Greenspan and Bernanke puts, and to surplus recycling by Asian economies, many took liquidity - like oxygen - for granted. Like oxygen, you only realise how critical liquidity is when its absence becomes noticeable.<br />
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Now that bank regulators have rediscovered liquidity as an essential attribute of healthy banks and healthy markets, it is important to reinforce some key qualities.<br />
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<blockquote><b>Liquidity means you can generate cash from a physical asset or paper claim.</b></blockquote>If you can't exchange the asset for a major currency to meet a sudden funding need, then the asset shouldn't be permitted as regulatory capital. Basel II and Basel III have generated hundreds of pages around credit scoring and asset type while ignoring the fact that most of what banks are attributing as capital cannot be turned into cash on demand.<br />
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<blockquote><b>Liquidity can be gained by sale or repo of an asset, preferably in a transparent market. Where no market exists or the market has become illiquid, then liquidity must be gained through a central bank.</b></blockquote>Virtually all RMBS markets failed under stress in 2008 and 2009, with failures spreading to other asset classes as investors grew wary of dealer spreads and perceived shallow dealer commitment levels. As the scope of funding problems grew, illiquidity spread to sovereign debt for troubled countries such as Greece and Portugal. Few OTC asset markets have recovered sufficient liquidity for dealing in size. <br />
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When the public markets will not price an asset in size without a large spread, then the central banks become the market makers of last resort. Without central bank repo of illiquid RMBS and sovereign debt, virtually every major bank in the OECD would have failed.<br />
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Because they now have the role of market maker of last resort, central banks should become much more active in ensuring that any asset permitted to be classed as capital by a bank can be liquidated on demand in a public market. Rather than leaving market structure to the investment banks and their tame securities regulators, the central banks should be driving forward reforms to ensure that capital assets are issued in fungible series, in size, and traded in transparent exchange markets with committed market makers.<br />
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This will require a major policy reversal on exchange regulation. Securities regulators have been under pressure for several decades to liberalise OTC markets, permit fragmentation to off-exchange trading systems, and turn a blind eye to issuance of securities in small, idiosyncratic offerings that will never liquidly trade except back through the offering investment banks. The quality assurance and market conduct functions of exchanges have been eroded following demutualisation, and exchanges now are run for profit of their highly concentrated owners rather than in the public interest. <br />
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Markets are at the heart of successful civilisations. Markets require quality norms, information publication, and price transparency to operate effectively. Regulators and investors allowed credit ratings to substitute for exchange listing rules and reporting requirements during the liquidity boom. Ratings were gamed by the banks until they were meaningless. We should now be forcing assets back onto exchanges and force the exchanges to regulate quality and information norms in the public interest. If this requires re-mutualising the exchanges, or public ownership of exchanges, then that should be on the agenda. Letting the exchanges be run by the thugs who gamed the markets and the rating agencies isn't healthy.<br />
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<blockquote><b>Liquidity means that proceeds of sale will be paid as funds to your account in a currency you can use widely to meet obligations.</b></blockquote>If you can only sell your asset into a market denominated in a currency which itself is not liquid and not legal tender for meeting your obligations, then you haven't got liquidity vested in the asset. A lot of investors in emerging markets are probably going to find that liquidity in those markets is a lot less than they might think, despite advances in exchange trading of emerging market assets, and the currencies might be less liquid too in a falling market. If they require funding in their home currency, they risk taking a big hit on sale and FX spreads when they realise the asset under stress.<br />
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<blockquote><b>Liquidity is measured by size, speed and spread - not by price levels.</b> </blockquote>Whatever the market price, a market isn't liquid if those holding assets in size cannot deal in size. A market is not liquid if those holding assets cannot sell at the time the sell decision is made, but must wait to identify or attract sufficient buyers. A market is not liquid if the spread between the bid and ask is so wide that buyers will be deterred from the market by the risk of never recovering the spread in appreciation or returns. The way that markets have levitated on minimal volumes in 2010 and 2011 is no indication that the markets are liquid. As we've seen in August, even mild selling can have a massive effect on prices in an illiquid market.<br />
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<blockquote><b>Short sales are an attribute of liquid markets. If a market can't be shorted, then the market will fail as prices fall.</b></blockquote>Short sellers will come in to buy assets in a falling market to realise a profit. They provide liquidity when everyone else is too scared to deal.<br />
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Securities markets regulators and central bankers need to think through liquidity as an attribute of market structure in the public interest. Idiosyncratic, illiquid, ill-transparent deals and instruments which have dominated market growth for the past two decades are behind the weakness of bank capital and market recovery. The regulatory incentives should be toward standardisation of securities terms and offering documents, much larger issues of securities and series of bonds, and fungibility of asset types within a class. Exchange trading should be encouraged, fragmentation discouraged. Exchanges should provide rigorous listing rules, timely reporting of market relevant information, full price transparency and two-way quote obligations on market makers. If we got that right, then much of the misrepresentation, mispricing, inefficiency and fraud of the past would become impossible in future.<br />
London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com10tag:blogger.com,1999:blog-912107698547747613.post-54039355518871416652011-07-13T13:24:00.000+01:002011-07-14T11:34:03.988+01:00Basel Accords: "Tissue paper over a mountain range"In 1987 I used the title of this post to describe the brand new Basel Capital Accords. I was a young and novice central banker, but as soon as I looked at the proposed accords, I knew they were sowing the seeds of a great misallocation of capital. The principal flaw was the uniform weighting of assets: <br />
- zero weight for OECD government debt and all other government debt with less than one year maturity;<br />
- 20 percent weight for debt of OECD banks;<br />
- 50 percent weight for mortgage debt.<br />
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Young as I was, I had the confidence to express to my elders and betters that they were making a mistake treating a French bank - with unlimited state support - exactly the same as a Italian bank - where state support would be subject to greater political and currency risk. Given the massive differences in yield and liquidity, how could an Italian government bond be just as good as a US Treasury held as bank capital?<br />
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The enthusiasm of my colleagues did not convince me. I knew that by drawing these clumsy rules we were telling banks that they no longer had individual, direct responsibility for assessment of the creditworthiness of their assets or their bank counterparties. The banks could use the uniform weightings of Basel to justify bad judgement and lend to Italian banks just as if they were French. Worse, the zero weighting of all OECD government debt would make Italian bonds just as good as Gilts or Treasuries as capital assets, despite more volatile liquidity and the obvious credit risks. [Italian governments changed almost weekly back then.] If the bank regulators slapped a label of capital adequacy on a bank, they would keep on lending unto disaster.<br />
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"But no!", my colleagues declaimed, "We are making the world safe for capitalism. With level playing fields from here to West Germany, American and British banks can grow internationally in every market because competition will favour more efficient international banks." [At the time the Soviet Union was still a bar to capitalist extremism in Eastern Europe and we were all devoted to Chicago School free markets elsewhere.]<br />
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Basel Capital Accords did promote global competition, and so the concentration of global banking into a very few global banks by punishing smaller banks with higher capital requirements. And to that extent, the plan worked to favour Wall Street and the City. The plan also worked in favour of the Italians, who could issue copious government debt to capitalise their banks at the zero risk weighting and flog that debt to American, British and German banks who carried it at zero risk too. <br />
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But as the American, British and German banks were relieved of the onerous responsibility for due diligence, they took sillier and sillier risks. For example, they bought lots of Italian government bonds. They spread the emergent model of securitisation far past any productive reinvestment of capital to the point of wasting each nation's decades of accumulated wealth to finance excess consumption. They bought ratings from willing rating agencies to justify more and more leverage with less and less capital. They used derivatives to make their balance sheets and accounting impenetrable and misleading, and then got governments to adopt the same techniques in the public sector to support increasing government debt. And all the time the bias of Basel made them more and more powerful.<br />
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Basel II cemented big banks' control of both regulators and markets. They could use ratings to justify investments in structured products that seemed to have no economic rationale for either investors or intermediaries, but were magically profitable for everyone in theory. They could use internal models to book profits now and defer losses indefinitely, so ensuring wonderful bonus growth. Ah, glory days!<br />
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It is all starting to unravel now. Despite a commitment to Basel III - to be implemented far in the future - I doubt Basel II will last much longer. This week saw Portugese and Irish government bonds downrated to junk. Even the mighty US Treasury is on creditwatch for downrating given the rising risk of default. <br />
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Junk rating means risk. Recognition of an asset as capital implies that it can be priced in a liquid market when cash is required. When sovereign debt is junk rated and only good for collateral at the ECB or Fed, then it should not be eligible for bank capital. And so, zero weighting of these bonds as bank capital assets is no longer defensible. The banks holding Irish and Portugese debt as zero weighted for regulatory capital will have to supplement their capital at a time when bond markets are already dysfunctional and becoming downright illiquid for new issues. Huge maturity mismatch and refinancing overhangs were already threatening banks over the next few years, and now it will be much, much worse.<br />
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The ECB has ripped up its liquidity facilities rulebook this week to permit Portugese government debt to remain eligible as collateral despite the downgrades. That just tells the banks that there is no longer any rulebook that will not be ripped up as the occasion requires. And that inevitably includes Basel II and Basel III. The ECB has doubled down on moral hazard.<br />
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Watch the banks use the next crisis to ensure that no rules apply to them at all. Basel II will be suspended as regulators come under pressure to agree to continue to zero weight even junk bonds, despite high risks of sovereign defaults. You won't hear the Portugese, Irish, Italians or Spanish - or likely even the Germans - object to that when the time comes and the alternative is recognition of widespread capital deficits and bank failures.<br />
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But if the Basel II rulebook gets ripped up, that will also destroy the means by which the banks suborned regulators, central banks and governments to their service, chasing ever higher yields and ever bigger marketshare. I'm not sure what will come after that, but it probably won't have zero weight and certainly not zero risk.<br />
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Related posts:<br />
<a href="http://londonbanker.blogspot.com/2010/12/more-on-lunacy-of-basle-accords.html">More on the lunacy of the Basel Accords</a><br />
<a href="http://www.londonbanker.blogspot.com/2010/12/truth-about-sovereign-defaults-and-bank.html">Basel Faulty: Sovereign defaults and bank capital</a>London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com19tag:blogger.com,1999:blog-912107698547747613.post-74294520591987870372011-06-23T03:09:00.000+01:002011-06-23T10:37:00.174+01:00Protect the Bondholders?The latest <a href="http://blogs.ft.com/the-a-list/2011/06/17/only-a-totally-new-greek-approach-can-save-europe-now/">twists and turns in the Greek bailout fiasco</a> have combined with a disturbing insight into FSA attitudes here in the UK to make me concerned that the system may now be distorted beyond peaceful reform. In fact, the danger of harmful destabilisation may be much worse because supervisor actions reinforce poor outcomes.<br />
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I am told that the primary objective of the ECB in Greece and the FSA in the UK is the same: <i><b>Protect the bondholders</b></i>. <br />
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Perhaps I am naive, but I did not realise that the FSA saw this as its primary mission until someone at the FSA bluntly told me so and someone in the markets confirmed it independently as only just and proper that this should be so.<br />
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If protecting bondholders from bad debt really is the primary objective of the supervisors, then the supervisors have become the problem. Capitalism does not work when capitalists are shielded from the economic risks that they freely undertake for profit when they enter into private contracts for debt finance. If bondholders know that they can get the ECB and the FSA to tilt the field in their direction, they have no incentive to balance yield against risk. They should just go for yield wherever they find it, and trust the ECB and FSA to ensure that they get their money whatever happens to the company, the depositor, the employee or the taxpayer who foots the ultimate bill for their yield. <br />
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If the objective of current official interaction with the markets is to prevent market determined outcomes, then we are in for a very ugly period of instability. The market is going to force a market outcome. The officials standing in the way can influence who profits from the market clearing, but the market is going to clear. If the officials have decided that the bondholders always win, then the rest of us will always lose. And once the rest of us - the companies, depositors, employees and taxpayers - remember that we have political power, then we will change the system.<br />
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This is what we are seeing in Greece on the streets. The Greek people have realised that the government works for the bondholders; the ECB works for the bondholders; the IMF works for the bondholders. They now understand what was not clear before: No one works for the people. <br />
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Strangely, this is also the realisation taking hold in Germany too. People are waking up to the fact that their national economic self-interest is subordinate to the claims of the bondholders. The German government's priority is to protect the bondholders. Germans should know better than most that stuffing the bondholders is sometimes the best policy - having <a href="http://www.spiegel.de/international/germany/0,1518,769703,00.html">defaulted three times</a> in the last century to lay the ground in each case for economic resurgence.<br />
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What scares me is that I naively believed the UK was different. I believed that the FSA was a market regulator that understood market operations. I am now under no such illusion. They have told me their job is to protect the bondholders. If that is true, then the UK is no different than Greece, just slightly behind Greece on the arc of history. <br />
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It used to be that the role of the state in financial market regulation was to ensure efficient market operations, promote transparency of prices and liquidity, protect consumers from abusive practices, and to resolve failed companies according to principles of equitable distribution of assets among like classes of creditors. If the role of the state now is to shield HFT, dark pool and OTC markets from transparency, provide liquidity where the market fails, oversee the orderly fleecing of consumers, and to ensure that some creditors of failing firms always win while others always lose, then we no longer have a market economy. And as virtually all these regulatory policies have evolved in the absence of public debate and legislative scrutiny, we also no longer have democratic governance of markets.<br />
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Perhaps this is what tiny Iceland realised when it determined that it would default rather than protect the bondholders. Perhaps in a small country in a big ocean it is easier to perceive a common interest in economic and political adaptation to protect the future of your children and your neighbours, rejecting the claims of the faceless, pitiless and stateless bondholders. <br />
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I suddenly have a lot more sympathy for the Greek people than I did a fortnight ago. Come the revolution here, I may be in the streets too. <br />
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Some will say that the Greeks are hard line communists pining for generous state benefits and pensions they haven't earned. Maybe so. But there is more economic justice in such a system with such objectives determined in a democratic process than in any system with a secret primary imperative to <b><i>Protect the Bondholders</i></b>.<br />
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The FSA is being broken up as institutional punishment for its many failings in the run up to the financial crisis. I was skeptical of breaking the FSA along prudential supervision and consumer protection lines, but now think that may be a good thing. It may draw a sharp distinction between maintaining resilient banks and tilting the playing field toward institutional players like bondholders. A consumer protection authority will have a more direct interest in countering the <b><i>Protect the Bondholders</i></b> mindset where it robs the consumers or risks the taxpayers to achieve its ends.<br />
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As many long time readers know, I try to remain optimistic. There is hard work to be done, but the ground is fertile for those who will make the effort to seed and nurture the reforms required. The Vickers/Indepdendent Commission on Banking review and various efforts by HM Treasury and the Bank of England are all moving in the right direction: toward getting the state out of private financial transactions except as regards the setting and enforcing of reasonable rules. Hopefully they will succeed and the bondholder bias will be curbed with the break up of the FSA and long before we Britons hit the streets under the weight of an unsustainable debt.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com36tag:blogger.com,1999:blog-912107698547747613.post-45311154782634055152011-06-13T20:48:00.000+01:002011-06-14T11:01:54.049+01:00AnomieI came across a new word today playing Scrabble: <br />
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<blockquote><i>Anomie</i>: a collapse of the social structures governing a given society.</blockquote><br />
Now that is one very useful word! It could usefully describe the slow motion collapse of the financial markets as investors and consumers realise that their interests are no longer protected by fiduciary, exchange, monetary and regulatory structures that once engendered confidence. Or maybe it captures the loss of patriotism and social cohesion in a globalised economy dominated by stateless corporations, their executive elites and their political puppets who are all determined to loot the public treasury while paying no taxes.<br />
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One word. So much potential. I will be finding all kinds of appropriate contexts to use it, I expect.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com9tag:blogger.com,1999:blog-912107698547747613.post-54134724129919780492011-05-26T11:19:00.000+01:002011-05-27T09:09:55.893+01:00Concentration, Manipulation and Margin CallsOver the past 25 years the financial markets of the world have become highly concentrated in the intermediation of a handful of firms, and regulation has been harmonised in the interests of these few firms. As Adam Smith - that great proponent of free markets - cogently observed:<br />
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<blockquote>“People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.”</blockquote><br />
Sadly, these few global firms have been for some time in "a conspiracy against the public", and have subverted the organs of public governance and the infrastructure of the financial markets to their purposes. Regulators and legislatures have done what they were asked to do in rubber stamping the policies that promoted further concentration, assured the whole time that it would result in "efficient markets", when the reality has been entirely otherwise. Exchanges were demutualised, and their new owners installed electronic trading systems to a common design, with provision for co-located HFT servers right next to the exchange's boxes to better front run their client orders. Clearinghouses were demutualised, and their new owners installed common margin algorithms and collateral rules that created a liquidity bias in their favour, reinforcing their control of global liquidity. Regulators liberalised over-the-counter markets, off-exchange trading and shadow banking so that the real trade flows that drive global markets occur well out of sight or supervision.<br />
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Four global banks are intermediaries in 85 percent of OTC derivatives transactions. The same banks dominate prime brokerage. The same banks own large equity interests in the now demutualised exchanges, clearinghouses and even warehouses of the global markets. Naturally, the same banks dominated underwriting of securitised assets. The implications have scarcely been grasped of what this portends in terms of the information asymmetries and the opportunity to manipulate markets without risk.<br />
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Each of these roles gives these few banks a view into the positions of market investors. They know who owns what, using what leverage, under what terms, and trading in which markets. Knowing that, the manipulation of prices to impoverish investors and enrich the ruling banks is child's play with a bit of ill-transparent HFT through proprietary dealing desks and connected hedge funds aligned with the firms. <br />
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These banks will protest that there are <a href="http://www.iii.co.uk/news/?type=reutersnews&articleid=TRE74N3HB&feed=Bus&action=article">Chinese walls</a> between their trading desks and the market infrastructure they own. The problem with Chinese walls is that they have chinks in them. (Apologies to PC crowd, but it is an old Wall Street joke I'm quoting.) We have seen from what is now reported about securitisations, that these banks structured products to trade against their clients, often colluding with hedge funds to share the profits. Is it likely that when they balance the public interest in market integrity against next year's bonus they become much more altruistic?<br />
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In October 2008 the global financial markets crashed. The story in the media is that it was a panic caused by the insolvency of Lehman Brothers. This is not the truth - or at least not all of it. The crash actually followed a $2 trillion margin call by these four global banks on their prime brokerage clients and OTC counterparties - effectively a 30 per cent increase in required margin. It was the margin call that forced liquidation of global portfolios of all asset classes - and particularly the high quality, most liquid asset classes.<br />
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Eligible margin is defined by bilateral agreement for both prime brokerage and OTC derivatives. According to the <a href="http://www2.isda.org/attachment/MTY1MQ==/ISDA-Margin-Survey-2009.pdf">ISDA Margin Survey for 2009</a>, the eligible collateral at the time of the crash was predominantly US dollar cash, euro cash and US Treasury securities. <br />
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Bilateral agreements are not made public, and neither are the margin calls. This is why the $2 trillion dollar margin call did not make the news. Each prime brokerge client and each OTC counterparty dealt with their margin call as a bilateral obligation, despite it being systemically the most important event in the history of financial markets.<br />
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As the markets crashed, the US Congress was threatened with chaos and martial law if it did not pass the Paulson Plan to grant $700 billion to Wall Street banks without any formal process or review. The Federal Reserve in parallel innovated a series of secret, extra-legal measures to give money to the same banks in exchange for assets which would never be disclosed, publicly valued or audited. The need to raise dollar liquidity globally to meet margin calls in US dollar led to the innovation of central bank dollar swaps - to preferred central banks only, of course.<br />
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After all the global liquidity had been sucked into the hands of these few global banks, and the dollar surged to strength along with US Treasuries, the game of increasing leverage started all over. The firms sitting on all the margin cash and global liquidity bought up all the quality assets lying about the crashed global markets at deep discount, then they started lending again. They have been reporting huge profits consistently ever since as their clients and counterparties take the assets and exposures in this "recovery" on terms very profitable to those running the markets and liqudity business. <br />
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And remember, these few firms see all your positions and know all your clearing balances better than you can. And they chair all the margin committees at all your clearinghouses and exchanges too. And they even own the warehouses where you believe your gold, silver and other hedges against financial chaos are supposed to be stored.<br />
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We are now nearing the same global levels of leverage as prevailed in summer 2008. The political situations in the US and in Europe are unstable, and China is slowing. There is money to be made in instability. <br />
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It isn't the leverage that causes a crisis, but the margin call.<br />
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In the past few months we have seen a pattern of increased margin calls in exchange traded derivatives. It makes me wonder what is happening unseen in the OTC markets. The dollar is strengthening from its lows, indicating flows back to US counterparties. Perhaps another round in the game of liquidity manipulation has begun.<br />
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Leaving that aside, how would Adam Smith recommend that we protect ourselves from the well-entrenched tyranny of a global elite of manipulators? The only resilient solution is local, transparent markets with disintermediation of the controlling banks. Eliminating the information asymetries which allow them to see everyone's positions, leverage and trading activity - and trade and ration liquidity accordingly - would go a long way to preventing further concentration. <br />
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How to do this? Would the co-opted regulators allow markets that disintermediated reliable paymasters? Those are the questions we will grapple with after the next crash I suppose.<br />
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UPDATE:</b> A timely example of the public spirit of exchange executives:<br />
<blockquote><a href="http://www.sec.gov/news/press/2011/2011-117.htm">SEC</a> -- Antonia Chion, Associate Director of the SEC’s Division of Enforcement, added, “Johnson brazenly stole nonpublic information from NASDAQ and its listed companies in breach of his duties of confidentiality to his employer and clients. Johnson assured at least one corporate official that she could share material nonpublic information with him because he was obligated as a NASDAQ employee to hold such information in confidence, and then he illegally traded on it.”</blockquote>London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com28tag:blogger.com,1999:blog-912107698547747613.post-37275861753208518102011-03-21T16:56:00.000+00:002011-03-21T16:56:35.200+00:00Quote of the Day: Greenspan's reputation dead as a parrot<blockquote>“Greenspan is an ex-Maestro; his reputation is <a href="http://www.youtube.com/watch?v=npjOSLCR2hE">pushing up the daisies, it’s gone to meet its maker, it’s joined the choir invisible.</a><br />
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He’s no longer the Man Who Knows; he’s the man who presided over an economy careening to the worst economic crisis since the Great Depression — and who saw no evil, heard no evil, refused to do anything about subprime, insisted that derivatives made the financial system more stable, denied not only that there was a national housing bubble but that such a bubble was even possible.”<br />
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- <a href="http://krugman.blogs.nytimes.com/2011/03/20/rantings-of-an-ex-maestro/">Paul Krugman</a></blockquote><br />
Hat tip: <a href="http://www.ritholtz.com/blog/2011/03/ex-maestro/">Barry Ritholtz</a>London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com26tag:blogger.com,1999:blog-912107698547747613.post-75396065511297122632011-03-21T04:38:00.000+00:002011-03-21T11:57:21.677+00:00"You can't build a car with 97% of the parts"The title statement summarises the <a href="http://www.investmentnews.com/article/20110320/REG/303209967">challenge for the global manufacturing sector</a> with Japan's industry and logistics disrupted for an unknown span of time. <br />
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<blockquote><b><a href="http://www.investmentnews.com/article/20110320/REG/303209967">Power shortages threaten global supply chain</a></b><br />
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Ford Motor Co., Samsung and The Boeing Co. are waiting for suppliers in quake-stricken Japan to increase one key export: information.<br />
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A top supplier of high-end components for the global technology and auto industries, Japan may need weeks to recover output lost as a result of the country's strongest earthquake on record, according to a forecast by Barclays Capital. . . .<br />
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“Our production won't be affected this week, but then we'll see,” Volvo spokesman Per-Ake Froberg said.<br />
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Supply of batteries, Blu-ray compact discs and magnetic heads used in hard drives also may be affected by the quake and power shortages, according to a report by Taipei research company TrendForce Corp.<br />
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“The reality is, the companies don't know the full extent of what's happened,” said economist Kim Hill at the Center for Automotive Research. “You can't build a car with 97% of the parts.” </blockquote><br />
Damage to ports, railroads, and factories in northern Japan has yet to be fully assessed - not least because engineers, corporate management and insurance claims adjusters have been kept at bay by radiation leaks from the Fukushima crisis-hit nuclear complex. Fuel shortages, power blackouts and disrupted land and mobile communications further stymie any effort to document damage or predict reopening schedules for stalled manufacturing plants. Rolling blackouts occasioned by damage to power generation and electricity grids mean even undamaged industries across the nation are producing less than expected. The scale of human tragedy - with half a million displaced refugees and 21,000 lives lost - mean many workers will be unable to report to work, or too concerned with rebuilding their homes and comforting their families to work more than regular shifts.<br />
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We have a highly interdependent, global manufacturing sector for modern goods, particularly high end electronics and automobiles. Japan may only account for 3 percent of the modern product, but it is usually the high value components that will be very difficult to source elsewhere. And as the title suggests, a failure to supply the 3 percent might result in halting production for the rest of the supply chain.<br />
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As this week rolls on, and the scale of disruption becomes better understood, I expect a lot of companies worldwide will start evaluating the implications for their operations of a disrupted supply chain. Without more precise information from Japanese suppliers on the expected scale of the disruption, few businesses elsewhere have been able to issue statements on the implications. As the information begins to flow, we can expect more than a few negative shocks about Q2 and Q3 earnings as inventories of parts run down globally.<br />
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So far as the media has noticed the issue, concern has been limited to <a href="http://www.metro.co.uk/tech/858553-japan-earthquake-may-disrupt-apples-ipad-2-production">supplies of the iPad 2</a>. We may find that the implications are more serious for our economies than delayed gratification of Apple fans.<br />
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Intererestingly, the Japanese companies most directly affected are the only ones likely to be able to claim insurance for business interruption. Companies elsewhere reliant on Japanese-sourced components might have comparable losses, or even greater losses, but have no recourse except their reserves and such corporate finance as might be available in already tight markets.<br />
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<blockquote><a href="http://www.smh.com.au/business/magnitude-of-insurance-claims-still-almost-impossible-to-measure-20110320-1c27a.html"><b>Magnitude of insurance claims still almost impossible to measure</b></a><br />
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While analysts and risk modellers are daily raising their estimates of the economic damage, with the latest Barclays Capital estimate coming in at $US185 billion, many insurance experts believe it will be well over $US200 billion.<br />
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In terms of insured losses, risk modeller AIR Worldwide estimates it at $US15 billion to $US35 billion.<br />
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But some big-name brokers are quietly suggesting it could be $US70 billion, making it one of the biggest losses to the insurance and reinsurance industry.<br />
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Claims adjusters have poured into Japan in the past few days trying to grapple with the size of the damages and their clients' exposure, but cannot get near the radiation-affected area. Japanese insurance companies are also being hampered by power cuts in Tokyo that make it virtually impossible for them to appraise the damage.<br />
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A growing concern is how the tsunami is covered by general insurance policies. For example, AIR's estimates for insured losses do not factor in tsunami-related damage, business interruption costs or potential losses from nuclear damage.<br />
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Adding to the uncertainty of losses and disruption is the likelihood that insurers may contest coverage for some damage or disruption. After Katrina, many hurricane insurers asserted that their policies did not cover flood damage to properties. Similar disputes may arise in Japan where a trifecta of catastrophe has complicated claims assessment. The longer companies are kept from rebuilding and restarting production, the longer and deeper will be the losses for the industries dependent on them for their own operations, production lines and profits.London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com5tag:blogger.com,1999:blog-912107698547747613.post-14777841797516031322011-03-18T14:56:00.000+00:002011-03-20T09:13:24.052+00:00Inflation and Deflation revisitedIn December 2008 I came off the fence and plumped for <a href="http://londonbanker.blogspot.com/2008/12/deflation-has-become-inevitable.html">deflation as inevitable</a>. Mostly I reasoned that debasement of accounting practice, mismanagement of financial intermediaries, captured regulators that collaborated in perpetuating failure, and extremely poor market pricing of risks and fundamentals meant that there was litte incentive to save and no place safe to invest. I predicted that when the last great bubble in sovereign debt popped, deflation would work its cleansing power to restore fundamentals.<br />
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<blockquote>It is now clear to me that policy makers in the West are determined to apply every available resource to underpinning failure, misallocation and executive excess. As this discourages the honest saver from parting with cash, policy makers are ensuring that deflation will wreak its havoc on the financial and real economies of the world. Only when that deflation has played out and rational policies that reward market-based management and returns are restored will it be worthwhile to invest again. </blockquote><br />
The Fed <a href="http://www.ft.com/cms/s/0/3052d090-5170-11e0-a9c6-00144feab49a,s01=1.html?ftcamp=rss">permitting dividend hikes</a> at bailed out banks only deepens my cynicism about the poor quality of regulation and the inadequacy of management controls. <br />
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Obviously, I was premature about deflation as events in 2009 and 2010 proved, but I am not convinced I was wrong in the longer term. Events this week in Japan, and political upheavals this year elsewhere, have me thinking that we are at a turning point in many ways. When the numbness that follows such a mammoth series of tragedies wears off, the public in Japan is going to be very angry. They have suffered three great catastrophes in one week: the 8.9 earthquake, the tsunami that swiftly followed, and the failure of safety controls at six nuclear reactors. We still don't know the scale of the final disaster, or what it will mean for the country or the world.<br />
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The Japanese state is to be congratulated that strict building codes preserved much of the physical infrastructure from the earthquake, and regular tsunami drills doubtless saved tens of thousands of lives during the tsunami. The most serious failure was in management, risk assessment and regulation of the nuclear industry. The anger will be that an industry critical to the economy, with powerful lobbyists close to government, was able to capture its regulators and erode safety standards until a crisis revealed the tragic short-termism. The anger will increase when the Japanese come to appreciate that the serial depredations of the banking industry have left them over-exposed with few fiscal policy options to meet the financial challenge of rebuilding and resettlement of refugees. <br />
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If the government and institutions of Japan are forced to liquidate and repatriate foreign assets, then fears of rising Yen and destabilisation of G7 economies are well founded. I believe it was the collective self-interest in preserving stability that motivated today's <a href="http://www.bloomberg.com/news/2011-03-18/clout-of-g-7-validated-as-yen-selloff-bolsters-its-relevance-against-g-20.html">central bank interventions</a>. The Yen appreciated 20 percent in the three months following the Kobi earthquake, and the scale of the current disaster - particularly with the risk of nuclear contamination of some part of the country - is likely to dwarf the Kobi effect.<br />
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As radiation reaches California from Fukushima today, we might all consider that regulatory capture places us all at some degree of risk. The crisis in California sub-prime real estate was borne by the currents of international finance to the pension funds of Norway and the savings banks of Germany. Both the nuclear energy industry and the banking industry had parallel patterns of political influence leading to regulatory capture and debasement of best practice, and ultimately ruination for a suffering public. It will be interesting to see how much accountability is demanded of management and regulators in the nuclear industry in Japan, and compare this with the lack of accountabiity for serial financial failures and bailouts. <br />
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Japan has 20 years more experience of financial sector accounting abuse and bailouts than the rest of us. And the result has been almost continuous deflation - even in the face of mounting deficits, ZIRP and quantitative easing. <br />
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Another factor that leads me to fear deflation over inflation is the risk of popping of the great China bubble. My view is that the Chinese economy slowed markedly in Q4 2010 as monetary tightening and administrative regulation of bank lending began to bite, and that the slowing has accelerated in 2011. This view has been confirmed by <a href="http://blogs.ft.com/gavyndavies/2011/03/13/a-week-in-which-china-slowed/">Gavyn Davies</a> on his FT blog. With another <a href="http://www.reuters.com/article/2011/03/18/cp-china-economy-rrr-markets-idUSTOE72H03420110318">rate rise today by the PBOC</a>, and the <a href="http://londonbanker.blogspot.com/">supply chain shock </a>of Japan's industrial disruption and power shortages, we could be in for a sharp, deflationary global contraction in the next few months.<br />
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UPDATE 20/03/11: <a href="http://www.deccanchronicle.com/channels/world/asia/days-quake-plant-operator-admitted-oversight-393">Days before quake, plant operator admitted oversight</a><br />
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<blockquote>Days before Japan plunged into an atomic crisis after a giant earthquake and tsunami knocked out power at the ageing Fukushima nuclear plant, its operator had admitted faking repair records.<br />
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The revelation raises fresh questions about both Tokyo Electric Power Co (TEPCO)'s scandal-tainted past and the government's perceived soft regulation of a key industry.<br />
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The operator of the Fukushima No. 1 plant submitted a report to the country's nuclear watchdog ten days before the quake hit on March 11, admitting it had failed to inspect 33 pieces of equipment in its six reactors there.<br />
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<b>A power board distributing electricity to a reactor's temperature control valves was not examined for 11 years, and inspectors faked records, pretending to make thorough inspections when in fact they were only cursory, TEPCO said.</b><br />
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It also said that inspections, which are voluntary, did not cover other devices related to cooling systems including water pump motors and diesel generators.<br />
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The report was submitted after the regulator ordered operators to examine whether inspections were suitably thorough.</blockquote>London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com1tag:blogger.com,1999:blog-912107698547747613.post-30342225279002735272011-03-15T12:50:00.001+00:002011-03-15T12:50:45.095+00:00Sympathy and concern for JapanChildren of Adam all come from the same source,<br />
When one is wounded, all share the pain,<br />
He who cannot feel the pain of others,<br />
Cannot call himself Son of Man.<br />
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- <a href="http://en.wikipedia.org/wiki/Saadi_%28poet%29">Saadi</a>London Bankerhttp://www.blogger.com/profile/13358082683340132378noreply@blogger.com4