Re:We're Fucked - The Coming Economic Crisis
« Reply #136 on: 2009-11-10 01:22:13 »
Thank-you for the link to the Taibbi article. It is definitely worth study - I think that he has once again hit the nail on the head, particularly as far as the Obama administration's enablement of fraud goes and gaining a context for the scope of the scams. I'm posting the article here in toto to make it easier to follow in the context of the other things discussed on this thread, and in case it vanishes from the Rolling Stones Web site.
All the praise aside, I do think this article has failed on two scores. The first and maybe less significant is that it doesn't sufficiently emphasise that the regulators are now operated by managers who report to appointees who used to work for the largest financial houses, remain friends with their co-workers, expect to rejoin them after their term in public office and now, as we have seen in Berneke, even survive changes in administration. This should frighten anybody who cares about responsible governance. THe second weakness in this article is that, at least in my eyes, I don't think it places nearly enough emphasis on the reality that the astounding "growth" achieved in US market value has come as US production and agriculture has all but collapsed and thus any growth or recovery is merely pandering to a larger bubble that has survived the initial market faltering.
Hermit & Co Wall Street's Naked Swindle
A scheme to flood the market with counterfeit stocks helped kill Bear Stearns and Lehman Brothers — and the feds have yet to bust the culprits
On Tuesday, March 11th, 2008, somebody — nobody knows who — made one of the craziest bets Wall Street has ever seen. The mystery figure spent $1.7 million on a series of options, gambling that shares in the venerable investment bank Bear Stearns would lose more than half their value in nine days or less. It was madness — "like buying 1.7 million lottery tickets," according to one financial analyst.
But what's even crazier is that the bet paid.
At the close of business that afternoon, Bear Stearns was trading at $62.97. At that point, whoever made the gamble owned the right to sell huge bundles of Bear stock, at $30 and $25, on or before March 20th. In order for the bet to pay, Bear would have to fall harder and faster than any Wall Street brokerage in history.
The very next day, March 12th, Bear went into free fall. By the end of the week, the firm had lost virtually all of its cash and was clinging to promises of state aid; by the weekend, it was being knocked to its knees by the Fed and the Treasury, and forced at the barrel of a shotgun to sell itself to JPMorgan Chase (which had been given $29 billion in public money to marry its hunchbacked new bride) at the humiliating price of … $2 a share. Whoever bought those options on March 11th woke up on the morning of March 17th having made 159 times his money, or roughly $270 million. This trader was either the luckiest guy in the world, the smartest son of a bitch ever or…
Or what? That this was a brazen case of insider manipulation was so obvious that even Sen. Chris Dodd, chairman of the pillow-soft-touch Senate Banking Committee, couldn't help but remark on it a few weeks later, when questioning Christopher Cox, the then-chief of the Securities and Exchange Commission. "I would hope that you're looking at this," Dodd said. "This kind of spike must have triggered some sort of bells and whistles at the SEC. This goes beyond rumors."
Cox nodded sternly and promised, yes, he would look into it. What actually happened is another matter. Although the SEC issued more than 50 subpoenas to Wall Street firms, it has yet to identify the mysterious trader who somehow seemed to know in advance that one of the five largest investment banks in America was going to completely tank in a matter of days. "I've seen the SEC send agents overseas in a simple insider-trading case to investigate profits of maybe $2,000," says Brent Baker, a former senior counsel for the commission. "But they did nothing to stop this."
The SEC's halfhearted oversight didn't go unnoticed by the market. Six months after Bear was eaten by predators, virtually the same scenario repeated itself in the case of Lehman Brothers — another top-five investment bank that in September 2008 was vaporized in an obvious case of market manipulation. From there, the financial crisis was on, and the global economy went into full-blown crater mode.
Like all the great merchants of the bubble economy, Bear and Lehman were leveraged to the hilt and vulnerable to collapse. Many of the methods that outsiders used to knock them over were mostly legal: Credit markers were pulled, rumors were spread through the media, and legitimate short-sellers pressured the stock price down. But when Bear and Lehman made their final leap off the cliff of history, both undeniably got a push — especially in the form of a flat-out counterfeiting scheme called naked short-selling.
That this particular scam played such a prominent role in the demise of the two firms was supremely ironic. After all, the boom that had ballooned both companies to fantastic heights was basically a counterfeit economy, a mountain of paste that Wall Street had built to replace the legitimate business it no longer had. By the middle of the Bush years, the great investment banks like Bear and Lehman no longer made their money financing real businesses and creating jobs. Instead, Wall Street now serves, in the words of one former investment executive, as "Lucy to America's Charlie Brown," endlessly creating new products to lure the great herd of unwitting investors into whatever tawdry greed-bubble is being spun at the moment: Come kick the football again, only this time we'll call it the Internet, real estate, oil futures. Wall Street has turned the economy into a giant asset-stripping scheme, one whose purpose is to suck the last bits of meat from the carcass of the middle class.
What really happened to Bear and Lehman is that an economic drought temporarily left the hyenas without any more middle-class victims — and so they started eating each other, using the exact same schemes they had been using for years to fleece the rest of the country. And in the forensic footprint left by those kills, we can see for the first time exactly how the scam worked — and how completely even the government regulators who are supposed to protect us have given up trying to stop it.
This was a brokered bloodletting, one in which the power of the state was used to help effect a monstrous consolidation of financial and political power. Heading into 2008, there were five major investment banks in the United States: Bear, Lehman, Merrill Lynch, Morgan Stanley and Goldman Sachs. Today only Morgan Stanley and Goldman survive as independent firms, perched atop a restructured Wall Street hierarchy. And while the rest of the civilized world responded to last year's catastrophes with sweeping measures to rein in the corruption in their financial sectors, the United States invited the wolves into the government, with the popular new president, Barack Obama — elected amid promises to clean up the mess — filling his administration with Bear's and Lehman's conquerors, bestowing his papal blessing on a new era of robbery.
To the rest of the world, the brazenness of the theft — coupled with the conspicuousness of the government's inaction — clearly demonstrates that the American capital markets are a crime in progress. To those of us who actually live here, however, the news is even worse. We're in a place we haven't been since the Depression: Our economy is so completely fucked, the rich are running out of things to steal.
If you squint hard enough, you can see that the derivative-driven economy of the past decade has always, in a way, been about counterfeiting. At their most basic level, innovations like the ones that triggered the global collapse — credit-default swaps and collateralized debt obligations — were employed for the primary purpose of synthesizing out of thin air those revenue flows that our dying industrial economy was no longer pumping into the financial bloodstream. The basic concept in almost every case was the same: replacing hard assets with complex formulas that, once unwound, would prove to be backed by promises and IOUs instead of real stuff. Credit-default swaps enabled banks to lend more money without having the cash to cover potential defaults; one type of CDO let Wall Street issue mortgage-backed bonds that were backed not by actual monthly mortgage payments made by real human beings, but by the wild promises of other irresponsible lenders. They even called the thing a synthetic CDO — a derivative contract filled with derivative contracts — and nobody laughed. The whole economy was a fake.
For most of this decade, nobody rocked that fake economy — especially the faux housing market — better than Bear Stearns. In 2004, Bear had been one of five investment banks to ask the SEC for a relaxation of lending restrictions that required it to possess $1 for every $12 it lent out; as a result, Bear's debt-to-equity ratio soared to a staggering 33-1. The bank used much of that leverage to issue mountains of mortgage-backed securities, essentially borrowing its way to a booming mortgage business that helped drive its share price to a high of $172 in early 2007.
But that summer, Bear started to crater. Two of its hedge funds that were heavily invested in mortgage-backed deals imploded in June and July, forcing the credit-raters at Standard & Poor's to cut its outlook on Bear from stable to negative. The company survived through the winter — in part by jettisoning its dipshit CEO, Jimmy Cayne, a dithering, weed-smoking septuagenarian who was spotted at a bridge tournament during the crisis — but by March 2008, it was almost wholly dependent on a network of creditors who supplied it with billions in rolling daily loans to keep its doors open. If ever there was a major company ripe to be assassinated by market manipulators, it was Bear Stearns in 2008.
Then, on March 11th — around the same time that mystery Nostradamus was betting $1.7 million that Bear was about to collapse — a curious thing happened that attracted virtually no notice on Wall Street. On that day, a meeting was held at the Federal Reserve Bank of New York that was brokered by Fed chief Ben Bernanke and then-New York Fed president Timothy Geithner. The luncheon included virtually everyone who was anyone on Wall Street — except for Bear Stearns.
Bear, in fact, was the only major investment bank not represented at the meeting, whose list of participants reads like a Barzini-Tattaglia meeting of the Five Families. In attendance were Jamie Dimon from JPMorgan Chase, Lloyd Blankfein from Goldman Sachs, James Gorman from Morgan Stanley, Richard Fuld from Lehman Brothers and John Thain, the big-spending office redecorator still heading the not-yet-fully-destroyed Merrill Lynch. Also present were old Clinton hand Robert Rubin, who represented Citigroup; Stephen Schwarzman of the Blackstone Group; and several hedge-fund chiefs, including Kenneth Griffin of Citadel Investment Group.
The meeting was never announced publicly. In fact, it was discovered only by accident, when a reporter from Bloomberg filed a request under the Freedom of Information Act and came across a mention of it in Bernanke's schedule. Rolling Stone has since contacted every major attendee, and all declined to comment on what was discussed at the meeting. "The ground rules of the lunch were of confidentiality," says a spokesman for Morgan Stanley. "Blackstone has no comment," says a spokesman for Schwarzman. Rubin declined a request for an interview, Fuld's people didn't return calls, and Goldman refused to talk about the closed-door session. The New York Fed said the meeting, which had been scheduled weeks earlier, was simply business as usual: "Such informal, small group sessions can provide a valuable means to learn about market functioning from people with firsthand knowledge."
So what did happen at that meeting? There's no evidence that Bernanke and Geithner called the confidential session to discuss Bear's troubles, let alone how to carve up the bank's spoils. It's possible that one of them made an impolitic comment about Bear during a meeting held for other reasons, inadvertently fueling a run on the bank. What's impossible to believe is the bullshit version that Geithner and Bernanke later told Congress. The month after Bear's collapse, both men testified before the Senate that they only learned how dire the firm's liquidity problems were on Thursday, March 13th — despite the fact that rumors of Bear's troubles had begun as early as that Monday and both men had met in person with every key player on Wall Street that Tuesday. This is a little like saying you spent the afternoon of September 12th, 2001, in the Oval Office, but didn't hear about the Twin Towers falling until September 14th.
Given the Fed's cloak of confidentiality, we simply don't know what happened at the meeting. But what we do know is that from the moment it ended, the run on Bear was on, and every major player on Wall Street with ties to Bear started pulling IV tubes out of the patient's arm. Banks, brokers and hedge funds that held cash in Bear's accounts yanked it out in mass quantities (making it harder for the firm to meet its credit payments) and took out credit- default swaps against Bear (making public bets that the firm was going to tank). At the same time, Bear was blindsided by an avalanche of "novation requests" — efforts by worried creditors to sell off the debts that Bear owed them to other Wall Street firms, who would then be responsible for collecting the money. By the afternoon of March 11th, two rival investment firms — Credit Suisse and Goldman Sachs — were so swamped by novation requests for Bear's debt that they temporarily stopped accepting them, signaling the market that they had grave doubts about Bear.
All of these tactics were elements that had often been seen in a kind of scam known as a "bear raid" that small-scale stock manipulators had been using against smaller companies for years. But the most damning thing the attack on Bear had in common with these earlier manipulations was the employment of a type of counterfeiting scheme called naked short-selling. From the moment the confidential meeting at the Fed ended on March 11th, Bear became the target of this ostensibly illegal practice — and the companies widely rumored to be behind the assault were in that room. Given that the SEC has failed to identify who was behind the raid, Wall Street insiders were left with nothing to trade but gossip. According to the former head of Bear's mortgage business, Tom Marano, the rumors within Bear itself that week centered around Citadel and Goldman. Both firms were later subpoenaed by the SEC as part of its investigation into market manipulation — and the CEOs of both Bear and Lehman were so suspicious that they reportedly contacted Blankfein to ask whether his firm was involved in the scam. (A Goldman spokesman denied any wrongdoing, telling reporters it was "rigorous about conducting business as usual.")
The roots of short-selling date back to 1973, when Wall Street went to a virtually paperless system for trading stocks. Before then, if you wanted to sell shares you owned in Awesome Company X, you and the buyer would verbally agree to the deal through a broker. The buyer would take legal ownership of the shares, but only later would the broker deliver the actual, physical shares to the buyer, using an absurd, Brazil-style network of runners who carried paper shares from one place to another — a preposterous system that threatened to cripple trading altogether.
To deal with the problem, Wall Street established a kind of giant financial septic tank called the Depository Trust Company. Privately owned by a consortium of brokers and banks, the DTC centralizes and maintains all records of stock transactions. Now, instead of being schlepped back and forth across Manhattan by messengers on bikes, almost all physical shares of stock remain permanently at the DTC. When one broker sells shares to another, the trust company "delivers" the shares simply by making a change in its records.
Watch Matt Taibbi break down short-selling vs. naked short-selling on his blog, Taibblog.
This new electronic system spurred an explosion of financial innovation. One practice that had been little used before but now began to be employed with great popularity was short- selling, a perfectly legal type of transaction that allows investors to bet against a stock. The basic premise of a normal short sale is easy to follow. Say you're a hedge-fund manager, and you want to bet against the stock of a company — let's call it Wounded Gazelle International (WGI). What you do is go out on the market and find someone — often a brokerage house like Goldman Sachs — who has shares in that stock and is willing to lend you some. So you go to Goldman on a Monday morning, and you borrow 1,000 shares in Wounded Gazelle, which that day happens to be trading at $10.
Now you take those 1,000 borrowed shares, and you sell them on the open market at $10, which leaves you with $10,000 in cash. You then take that $10,000, and you wait. A week later, surveillance tapes of Wounded's CEO having sex with a woodchuck in a Burger King bathroom appear on CNBC. Awash in scandal, the firm's share price tumbles to 3½. So you go out on the market and buy back those 1,000 shares of WGI — only now it costs you only $3,500 to do so. You then return the shares to Goldman Sachs, at which point your interest in WGI ends. By betting against or "shorting" the company, you've made a profit of $6,500.
It's important to point out that not only is normal short-selling completely legal, it can also be socially beneficial. By incentivizing Wall Street players to sniff out inefficient or corrupt companies and bet against them, short-selling acts as a sort of policing system; legal short- sellers have been instrumental in helping expose firms like Enron and WorldCom. The problem is, the new paperless system instituted by the DTC opened up a giant loophole for those eager to game the market. Under the old system, would-be short-sellers had to physically borrow actual paper shares before they could execute a short sale. In other words, you had to actually have stock before you could sell it. But under the new system, a short-seller only had to make a good-faith effort to "locate" the stock he wanted to borrow, which usually amounts to little more than a conversation with a broker:
Evil Hedge Fund: I want to short IBM. Do you have a million shares I can borrow?
Corrupt Broker [not checking, playing Tetris]: Uh, yeah, whatever. Go ahead and sell.
There was nothing to prevent that broker — let's say he has only a million shares of IBM total — from making the same promise to five different hedge funds. And not only could brokers lend stocks they never had, another loophole in the system allowed hedge funds to sell those stocks and deliver a kind of IOU instead of the actual share to the buyer. When a share of stock is sold but never delivered, it's called a "fail" or a "fail to deliver" — and there was no law or regulation in place that prevented it. It's exactly what it sounds like: a loophole legalizing the counterfeiting of stock. In place of real stock, the system could become infected with "fails" — phantom IOU shares — instead of real assets.
If you own stock that pays a dividend, you can even look at your dividend check to see if your shares are real. If you see a line that says "PIL" — meaning "Payment in Lieu" of dividends — your shares were never actually delivered to you when you bought the stock. The mere fact that you're even getting this money is evidence of the crime: This counterfeiting scheme is so profitable for the hedge funds, banks and brokers involved that they are willing to pay "dividends" for shares that do not exist. "They're making the payments without complaint," says Susanne Trimbath, an economist who worked at the Depository Trust Company. "So they're making the money somewhere else."
Trimbath was one of the first people to notice the problem. In 1993, she was approached by a group of corporate transfer agents who had a complaint. Transfer agents are the people who keep track of who owns shares in corporations, for the purposes of voting in corporate elections. "What the transfer agents saw, when corporate votes came up, was that they were getting more votes than there were shares," says Trimbath. In other words, transfer agents representing a corporation that had, say, 1 million shares outstanding would report a vote on new board members in which 1.3 million votes were cast — a seeming impossibility.
Analyzing the problem, Trimbath came to an ugly conclusion: The fact that short-sellers do not have to deliver their shares made it possible for two people at once to think they own a stock. Evil Hedge Fund X borrows 100 shares from Unwitting Schmuck A, and sells them to Unwitting Schmuck B, who never actually receives that stock: In this scenario, both Schmucks will appear to have full voting rights. "There's no accounting for share ownership around short sales," Trimbath says. "And because of that, there are multiple owners assigned to one share."
Trimbath's observation would prove prophetic. In 2005, a trade group called the Securities Transfer Association analyzed 341 shareholder votes taken that year — and found evidence of over-voting in every single one. Experts in the field complain that the system makes corporate-election fraud a comically simple thing to achieve: In a process known as "empty voting," anyone can influence any corporate election simply by borrowing great masses of shares shortly before an important merger or board election, exercising their voting rights, then returning the shares right after the vote is over. Hilariously, because you're only borrowing the shares and not buying them, you can effectively "buy" a corporate election for free.
Back in 1993, over-voting might have seemed a mere curiosity, the result not of fraud but of innocent bookkeeping errors. But Trimbath realized the broader implication: Just as the lack of hard rules forcing short-sellers to deliver shares makes it possible for unscrupulous traders to manipulate a corporate vote, it could also enable them to manipulate the price of a stock by selling large quantities of shares they didn't possess. She warned her bosses that this crack in the system made the specter of organized counterfeiting a real possibility.
"I personally went to senior management at DTC in 1993 and presented them with this issue," she recalls. "And their attitude was, 'We spill more than that.'" In other words, the problem represented such a small percentage of the assets handled annually by the DTC — as much as $1.8 quadrillion in any given year, roughly 30 times the GDP of the entire planet — that it wasn't worth worrying about.
It wasn't until 10 years later, when Trimbath had a chance meeting with a lawyer representing a company that had been battered by short-sellers, that she realized someone outside the DTC had seized control of a financial weapon of mass destruction. "It was like someone figured out how to aim and fire the Death Star in Star Wars," she says. What they "figured out," Trimbath realized, was an early version of the naked-shorting scam that would help take down Bear and Lehman.
Here's how naked short-selling works: Imagine you travel to a small foreign island on vacation. Instead of going to an exchange office in your hotel to turn your dollars into Island Rubles, the country instead gives you a small printing press and makes you a deal: Print as many Island Rubles as you like, then on the way out of the country you can settle your account. So you take your printing press, print out gigantic quantities of Rubles and start buying goods and services. Before long, the cash you've churned out floods the market, and the currency's value plummets. Do this long enough and you'll crack the currency entirely; the loaf of bread that cost the equivalent of one American dollar the day you arrived now costs less than a cent.
With prices completely depressed, you keep printing money and buy everything of value — homes, cars, priceless works of art. You then load it all into a cargo ship and head home. On the way out of the country, you have to settle your account with the currency office. But the Island Rubles you printed are now worthless, so it takes just a handful of U.S. dollars to settle your debt. Arriving home with your cargo ship, you sell all the island riches you bought at a discount and make a fortune.
This is the basic outline for how to seize the assets of a publicly traded company using counterfeit stock. What naked short-sellers do is sell large quantities of stock they don't actually have, flooding the market with "phantom" shares that, just like those Island Rubles, depress a company's share price by making the shares less scarce and therefore less valuable.
The first documented cases of this scam involved small-time boiler-room grifters. In the late 1990s, not long after Trimbath warned her bosses about the problem, a trader named John Fiero executed a series of "bear raids" on small companies. First he sold shares he didn't possess in huge quantities and fomented negative rumors about a company; then, in a classic shakedown, he approached the firm with offers to desist — if they'd sell him stock at a discount. "He would press a button and enter a trade for half a million shares," says Brent Baker, the SEC official who busted Fiero. "He didn't have the stock to cover that — but the price of the stock would drop to a penny."
In 2005, complaints from investors about naked short-selling finally prompted the SEC to try to curb the scam. A new rule called Regulation SHO, known as "Reg SHO" for short, established a series of guidelines designed, in theory, to prevent traders from selling stock and then failing to deliver it to the buyer. "Intentionally failing to deliver stock," then-SEC chief Christopher Cox noted, "is market manipulation that is clearly violative of the federal securities laws." But thanks to lobbying by hedge funds and brokers, the new rule included no financial penalties for violators and no real enforcement mechanism. Instead, it merely created a thing called the "threshold list," requiring short-sellers to close out their positions in any company where the amount of "fails to deliver" exceeded 10,000 shares for more than 13 days. In other words, if counterfeiters got caught selling a chunk of phantom shares in a firm for two straight weeks, they were no longer allowed to counterfeit the stock.
A nice, if timid idea — except that it's completely meaningless. Not only has there been virtually no enforcement of the rule, but the SEC doesn't even bother to track who is targeting companies with failed trades. As a result, many stocks attacked by naked short-sellers spent years on the threshold list, including Krispy Kreme, Martha Stewart and Overstock.com.
"We were actually on it for 668 consecutive days," says Patrick Byrne, the CEO of Overstock, who became a much-ridiculed pariah on Wall Street for his lobbying against naked short-selling. At one point, investors claimed ownership of nearly 42 million shares in Overstock — even though fewer than 24 million shares in the company had actually been issued.
Byrne is not an easy person for anyone with any kind of achievement neuroses to like. He is young, good-looking, has shitloads of money, speaks fluent Chinese, holds a doctorate in philosophy and spent his youth playing hooky from high school and getting business tips from the likes of Warren Buffett. But because of his fight against naked short-selling, he has been turbofragged by the mainstream media as a tinfoil-hat lunatic; one story in the New York Post featured a picture of Byrne with a flying saucer coming out of his head.
Nonetheless, Byrne's howlings about naked short-selling look extremely prescient in light of what happened to Bear and Lehman. Over the past four years, Byrne has outlined the parameters of a naked-shorting scam that always includes some combination of the following elements: negative rumors planted in the financial press, the flooding of the market with enormous quantities of undelivered shares, absurdly high trading volumes and the prolonged appearance of the targeted company on the Reg SHO list.
In January 2005 — at the exact moment Reg SHO was launched — Byrne's own company was trading above $65 a share, and the number of failed trades in circulation was virtually nil. By March 2006, however, Overstock was down to $28 a share, and Reg SHO data indicated an explosion of failed trades — nearly 4 million undelivered shares on some days. At those moments, in other words, nearly a fifth of all Overstock shares were fake.
"This really isn't about my company," Byrne says. "I mean, I've made my money. My initial concern, of course, was with Overstock. But the more I learned about this, the more my real worry became 'Jesus, what are the implications for the system?' And given what happened to Bear and Lehman last year, I think we ended up seeing what some of those implications are."
Bear Stearns wasn't the kind of company that had a problem with naked short-selling. Before March 11th, 2008, there had never been a period in which significant quantities of Bear stock had been sold and then not delivered, and the company had never shown up on the Reg SHO list. But beginning on March 12th — the day after the Fed meeting that failed to include Bear, and the mysterious purchase of the options betting on the firm's imminent collapse — the number of counterfeit shares in Bear skyrocketed.
The best way to grasp what happened is to look at the data: On Tuesday, March 11th, there were 201,768 shares of Bear that had failed to deliver. The very next day, the number of phantom shares leaped to 1.2 million. By the close of trading that Friday, the number passed 2 million — and when the market reopened the following Monday, it soared to 13.7 million. In less than a week, the number of counterfeit shares in Bear had jumped nearly seventyfold.
The giant numbers of undelivered shares over the course of that week amounted to one of the most blatant cases of stock manipulation in Wall Street history. "There is not a doubt in my mind, not a single doubt" that naked short-selling helped destroy Bear, says Sen. Ted Kaufman, a Democrat from Delaware who has introduced legislation to curb such financial fraud. Asked to rate how obvious a case of naked short-selling Bear is, on a scale of one to 10, former SEC counsel Brent Baker doesn't hesitate. "Easily a 10," he says.
At the same time that naked short- sellers were counterfeiting Bear's stock, the firm was being hit by another classic tactic of bear raids: negative rumors in the media. Tipped off by a source, CNBC reporter David Faber reported on March 12th that Goldman Sachs had held up a trade with Bear because it was worried about the firm's creditworthiness. Faber noted that the hold was temporary — the deal had gone through that morning. But the damage was done; inside Bear, Faber's report was blamed for much of the subsequent panic.
"I like Faber, he's a good guy," a Bear executive later said. "But I wonder if he ever asked himself, 'Why is someone telling me this?' There was a reason this was leaked, and the reason is simple: Someone wanted us to go down, and go down hard."
At first, the full-blown speculative attack on Bear seemed to be working. Thanks to the media-fueled rumors and the mounting anxiety over the company's ability to make its payments, Bear's share price plummeted seven percent on March 13th, to $57. It still had a ways to go for the mysterious short-seller to make a profit on his bet against the firm, but it was headed in the right direction. But then, early on the morning of Friday, March 14th, Bear's CEO, Alan Schwartz, struck a deal with the Fed and JPMorgan to provide an emergency loan to keep the company's doors open. When the news hit the street that morning, Bear's stock rallied, gaining more than nine percent and climbing back to $62.
The sudden and unexpected rally prompted celebrations inside Bear's offices. "We're alive!" someone on the company's trading floor reportedly shouted, and employees greeted the news by high-fiving each other. Many gleefully believed that the short-sellers targeting the firm would get "squeezed" — in other words, if the share price kept going up, the bets against Bear would blow up in the attackers' faces.
The rally proved short-lived — Bear ended the day at $30 — but it suggested that all was not lost. Then a strange thing happened. As Bear understood it, the emergency credit line that the Fed had arranged was originally supposed to last for 28 days. But that Friday, despite the rally, Geithner and then-Treasury secretary Hank Paulson — the former head of Goldman Sachs, one of the firms rumored to be shorting Bear — had a sudden change of heart. When the market closed for the weekend, Paulson called Schwartz and told him that the rescue timeline had to be accelerated. Paulson wouldn't stay up another night worrying about Bear Stearns, he reportedly told Schwartz. Bear had until Sunday night to find a buyer or it could go fuck itself.
Bear was out of options. Over the course of that weekend, the firm opened its books to JPMorgan, the only realistic potential buyer. But upon seeing all the "shit" on Bear's books, as one source privy to the negotiations put it — including great gobs of toxic investments in the subprime markets — JPMorgan hedged. It wouldn't do the deal, it announced, unless it got two things: a huge bargain on the sale price, and a lot of public money to wipe out the "shit."
So the Fed — on whose New York board sits JPMorgan chief Jamie Dimon — immediately agreed to accommodate the new buyers, forking over $29 billion in public funds to buy up the yucky parts of Bear. Paulson, meanwhile, took care of the bargain issue, putting the government's gun to Schwartz's head and telling him he had to sell low. Really low.
On Saturday night, March 15th, Schwartz and Dimon had discussed a deal for JPMorgan to buy Bear at $8 to $12 a share. By Sunday afternoon, however, Geithner reported that the price had plunged even further. "Shareholders are going to get between $3 and $5 a share," he told Paulson.
But Paulson pissed on even that price from a great height. "I can't see why they're getting anything," he told Dimon that afternoon from Washington, via speakerphone. "I could see something nominal, like $1 or $2 per share."
Just like that, with a slight nod of Paulson's big shiny head, Bear was vaporized. This, remember, all took place while Bear's stock was still selling at $30. By knocking the share price down 28 bucks, Paulson ensured that the manipulators who were illegally counterfeiting Bear's shares would make an awesome fortune.
Although we don't know who was behind the naked short-selling that targeted Bear — short-traders aren't required to reveal their stake in a company — the scam wasn't just a fetish crime for small-time financial swindlers. On the contrary, the widespread selling of shares without delivering them translated into an enormously profitable business for the biggest companies on Wall Street, fueling the growth of a booming sector in the financial-services industry called Prime Brokerage.
As with other Wall Street abuses, the lucrative business in counterfeiting stock got its start with a semisecret surrender of regulatory authority by the government. In 1989, a group of prominent Wall Street broker-dealers — led, ironically, by Bear Stearns — asked the SEC for permission to manage the accounts of hedge funds engaged in short-selling, assuming responsibility for locating, lending and transferring shares of stock. In 1994, federal regulators agreed, allowing the nation's biggest investment banks to serve as Prime Brokers. Think of them as the house in a casino: They provide a gambler with markers to play and to manage his winnings.
Under the original concept, a hedge fund that wanted to short a stock like Bear Stearns would first "locate" the stock with his Prime Broker, then would do the trade with a so-called Executing Broker. But as time passed, Prime Brokers increasingly allowed their hedge-fund customers to use automated systems and "locate" the stock themselves. Now the conversation went something like this:
Evil Hedge Fund: I just sold a million shares of Bear Stearns. Here, hold this shitload of money for me.
Prime Broker: Awesome! Where did you borrow the shares from?
Evil Hedge Fund: Oh, from Corrupt Broker. You know, Vinnie.
Prime Broker: Oh, OK. Is he sure he can find those shares? Because, you know, there are rules.
Evil Hedge Fund: Oh, yeah. You know Vinnie. He's good for it.
Prime Broker: Sweet!
Following the SEC's approval of this cozy relationship, Prime Brokers boomed. Indeed, with the rise of discount brokers online and the collapse of IPOs and corporate mergers, Prime Brokerage — in essence, the service end of the short- selling business — is now one of the most profitable sectors that big Wall Street firms have left. Last year, Goldman Sachs netted $3.4 billion providing "securities services" — the lion's share of it from Prime Brokerage.
When one considers how easy it is for short-sellers to sell stock without delivering, it's not hard to see how this can be such a profitable business for Prime Brokers. It's really a license to print money, almost in the literal sense. As such, Prime Brokers have tended to be lax about making sure that their customers actually possess, or can even realistically find, the stock they've sold. That point is made abundantly clear by tapes obtained by Rolling Stone of recent meetings held by the compliance officers for big Prime Brokers like Goldman Sachs, Morgan Stanley and Deutsche Bank. Compliance officers are supposed to make sure that traders at their firms follow the rules — but in the tapes, they talk about how they routinely greenlight transactions they know are dicey.
In a conference held at the JW Marriott Desert Ridge Resort in Phoenix in May 2008 — just over a month after Bear collapsed — a compliance officer for Goldman Sachs named Jonathan Breckenridge talks with his colleagues about how the firm's customers use an automated program to report where they borrowed their stock from. The problem, he says, is the system allows short-sellers to enter anything they want in the text field, no matter how nonsensical — or even leave the field blank. "You can enter ABC, you can enter Go, you can enter Locate Goldman, you can enter whatever you want," he says. "Three dots — I've actually seen that."
The room erupts with laughter.
After making this admission, Breckenridge asks officials from the Securities Industry and Financial Markets Association, the trade group representing Wall Street broker-dealers, for guidance in how to make this appear less blatantly improper. "How do you have in place a process," he wonders, "and make sure that it looks legit?"
The funny thing is that Prime Brokers didn't even need to fudge the rules. They could counterfeit stocks legally, thanks to yet another loophole — this one involving key players known as "market makers." When a customer wants to buy options and no one is lining up to sell them, the market maker steps in and sells those options out of his own portfolio. In market terms, he "provides liquidity," making sure you can always buy or sell the options you want.
Under what became known as the "options market maker exception," the SEC permitted a market maker to sell shares whether or not he had them or could find them right away. In theory, this made sense, since delaying the market maker from selling to offset a big buy order could dry up liquidity and slow down trading. But it also created a loophole for naked short-sellers to kill stocks easily — and legally. Take Bear Stearns, for example. Say the stock is trading at $62, as it was on March 11th, and someone buys put options from the market maker to sell $1.7 million in Bear stock nine days later at $30. To offset that big trade, the market maker might try to keep his own portfolio balanced by selling off shares in the company, whether or not he can locate them.
But here's the catch: The market maker often sells those phantom shares to the same person who bought the put options. That buyer, after all, would love to snap up a bunch of counterfeit Bear stock, since he can drive the company's price down by reselling those fake shares. In fact, the shares you buy from a market maker via the SEC-sanctioned loophole are sometimes called "bullets," because when you pump these counterfeit IOUs into the market, it's like firing bullets into the company — it kills the price, just like printing more Island Rubles kills a currency.
Which, it appears, is exactly what happened to Bear Stearns. Someone bought a shitload of puts in Bear, and then someone sold a shitload of Bear shares that never got delivered. Bear then staggered forward, bleeding from every internal organ, and fell on its face. "It looks to me like Bear Stearns got riddled with bullets," John Welborn, an economist with an investment firm called the Haverford Group, later observed.
So who conducted the naked short- selling against Bear? We don't know — but we do know that, thanks to the free pass the SEC gave them, Prime Brokers stood to profit from the transactions. And the confidential meeting at the Fed on March 11th included all the major Prime Brokers on Wall Street — as well as many of the biggest hedge funds, who also happen to be some of the biggest short-sellers on Wall Street.
The economy's financial woes might have ended there — leaving behind an unsolved murder in which many of the prime suspects profited handsomely. But three months later, the killers struck again. On June 27th, 2008, an avalanche of undelivered shares in Lehman Brothers started piling up in the market. June 27th: 705,103 fails. June 30th: 814,870 fails. July 1st: 1,556,301 fails.
Then the rumors started. A story circulated on June 30th about Barclays buying Lehman for 25 percent less than the share price. The tale was quickly debunked, but the attacks continued, with hundreds of thousands of failed trades every day for more than a week — during which time Lehman lost 44 percent of its share price. The major players on Wall Street, who for years had confined this unseemly sort of insider rape to smaller companies, had begun to eat each other alive.
It made great capitalist sense to attack these giant firms — they were easy targets, after all, hideously mismanaged and engorged with debt — but an all-out shooting war of this magnitude posed a risk to everyone. And so a cease-fire was declared. In a remarkable order issued on July 15th, Cox dictated that short-sellers must actually pre-borrow shares before they sell them. But in a hilarious catch, the order only covered shares of the 19 biggest firms on Wall Street, including Morgan Stanley and Goldman Sachs, and would last only a month.
This was one of the most amazing regulatory actions ever: It essentially told Wall Street that it was enjoined from counterfeiting stock — but only temporarily, and only the stock of the 19 of the richest companies on Wall Street. Not surprisingly, the share price for Lehman and some of the other lucky robber barons surged on the news.
But the relief was short-lived. On August 12th, 2008, the Cox order expired — and fails in Lehman stock quickly started mounting. The attack spiked on September 9th, when there were over 1 million undelivered shares in Lehman. On September 10th, there were 5,877,649 failed trades. The day after, there were an astonishing 22,625,385 fails. The next day: 32,877,794. Then, on September 15th, the price of Lehman Brothers stock fell to 21 cents, and the company declared bankruptcy.
That naked shorting was the tool used to kill the company — which was, like Bear, a giant bursting sausage of deadly subprime deals that didn't need much of a push off the cliff — was obvious to everyone. Lehman CEO Richard Fuld, admittedly one of the biggest assholes of the 21st century, said as much a month later. "The naked shorts and rumormongers succeeded in bringing down Bear Stearns," Fuld told Congress. "And I believe that unsubstantiated rumors in the marketplace caused significant harm to Lehman Brothers."
The methods used to destroy these companies pointed to widespread and extravagant market manipulation, and the death of Lehman should have instigated a full-bore investigation. "This isn't a trail of bread crumbs," former SEC enforcement director Irving Pollack has pointed out. "This audit trail is lit up like an airport runway. You can see it a mile off. Subpoena e-mails. Find out who spread false rumors and also shorted the stock, and you've got your manipulators."
It would be an easy matter for the SEC to determine who killed Bear and Lehman, if it wanted to — all it has to do is look at the trading data maintained by the stock exchanges. But 18 months after the widespread market manipulation, the federal government's cop on the financial beat has barely lifted a finger to solve the two biggest murders in Wall Street history. The SEC refuses to comment on what, if anything, it is doing to identify the wrongdoers, saying only that "investigations related to the financial crisis are a priority."
The commission did repeal the preposterous "market maker" loophole on September 18th, 2008, forbidding market makers from selling phantom shares. But that same day, the SEC also introduced a comical agreement called "Rule 10b-21," which makes it illegal for an Evil Hedge Fund to lie to a Prime Broker about where he borrowed his stock. Basically, this new rule formally exempted Wall Street's biggest players from any blame for naked short-selling, putting it all on the backs of their short-seller clients. Which was good news for firms like Goldman Sachs, which only a year earlier had been fined $2 million for repeatedly turning a blind eye to clients engaged in illegal short-selling. Instead of tracking down the murderers of Bear and Lehman, the SEC simply eliminated the law against aiding and abetting murder. "The new rule just exempted the Prime Brokers from legal responsibility," says a financial player who attended closed-door discussions about the regulation. "It's a joke."
But the SEC didn't stop there — it also went out of its way to protect the survivors from the normal functioning of the marketplace. On September 15th, the same day that Lehman declared bankruptcy, the share price of Goldman and Morgan Stanley began to plummet sharply. There was little evidence of phantom shares being sold — in Goldman's case, fewer than .02 percent of all trades failed. Whoever was attacking Goldman and Morgan Stanley — if anyone was — was for the most part doing it legally, through legitimate short-selling. As a result, when the SEC imposed yet another order on September 17th curbing naked short-selling, it did nothing to help either firm, whose share prices failed to recover.
Then something extraordinary happened. Morgan Stanley lobbied the SEC for a ban on legitimate short-selling of financial stocks — a thing not even the most ardent crusaders against naked short- selling, not even tinfoil-hat-wearing Patrick Byrne, had ever favored. "I spent years just trying to get the SEC to listen to a request that they stop people from rampant illegal counterfeiting of my company's stock," says Byrne. "But when Morgan Stanley asks for a ban on legal short-selling, they get it literally overnight."
Indeed, on September 19th, Cox imposed a temporary ban on legitimate short- selling of all financial stocks. The stock price of both Goldman and Morgan Stanley quickly rebounded. The companies were also bailed out by an instant designation as bank holding companies, which made them eligible for a boatload of emergency federal aid. The law required a five-day wait for such a conversion, but Geithner and the Fed granted Goldman and Morgan Stanley their new status overnight.
So who killed Bear Stearns and Lehman Brothers? Without a bust by the SEC, all that's left is means and motive. Everyone in Washington and on Wall Street understood what it meant when Lehman, for years the hated rival of Goldman Sachs, was chosen by Treasury Secretary Hank Paulson — the former Goldman CEO — to be the one firm that didn't get a federal bailout. "When Paulson, a former Goldman guy, chose to sacrifice Lehman, that's when you knew the whole fucking thing was dirty," says one Democratic Party operative. "That's like the Yankees not bailing out the Mets. It was just obvious."
The day of Lehman's collapse, Paulson also bullied Bank of America into buying Merrill Lynch — which left Goldman Sachs and Morgan Stanley as the only broker-teens left unaxed in the Camp Crystal Lake known as the American economy. Before they were hacked to bits, Merrill, Bear and Lehman all nurtured booming businesses as Prime Brokers. All that lucrative work had to go somewhere. So guess which firms made the most money in Prime Brokerage this year? According to a leading industry source, the top three were Goldman, JPMorgan and Morgan Stanley.
We may never know who killed Bear and Lehman. But it sure isn't hard to figure out who's left.
While naked short-selling was the weapon used to bring down both Bear and Lehman, it would be preposterous to argue that the practice caused the financial crisis. The most serious problems in this economy were the result of other, broader classes of financial misdeed: corruption of the ratings agencies, the use of smoke-and-mirrors like derivatives, an epidemic tulipomania called the housing boom and the overall decline of American industry, which pushed Wall Street to synthesize growth where none existed.
But the "phantom" shares produced by naked short-sellers are symptomatic of a problem that goes far beyond the stock market. "The only reason people talk about naked shorting so much is that stock is sexy and so much attention is paid to the stock market," says a former investment executive. "This goes on in all the markets."
Take the commodities markets, where most of those betting on the prices of things like oil, wheat and soybeans have no product to actually deliver. "All speculative selling of commodity futures is 'naked' short selling," says Adam White, director of research at White Knight Research and Trading. While buying things that don't actually exist isn't always harmful, it can help fuel speculative manias, like the oil bubble of last summer. "The world consumes 85 million barrels of oil per day, but it's not uncommon to trade 1 billion barrels per day on the various commodities exchanges," says White. "So you've got 12 paper barrels trading for every physical barrel."
The same is true for mortgages. When lenders couldn't find enough dope addicts to lend mansions to, some simply went ahead and started selling the same mortgages over and over to different investors. There are now a growing number of cases of such double-selling of mortgages: "It makes Bernie Madoff seem like chump change," says April Charney, a legal-aid attorney based in Florida. Just like in the stock market, where short-sellers delivered IOUs instead of real shares, traders of mortgage-backed securities sometimes conclude deals by transferring "lost-note affidavits" — basically a "my dog ate the mortgage" note — instead of the actual mortgage. A paper presented at the American Bankruptcy Institute earlier this year reports that up to a third of all notes for mortgage-backed securities may have been "misplaced or lost" — meaning they're backed by IOUs instead of actual mortgages.
How about bonds? "Naked short-selling of stocks is nothing compared to what goes on in the bond market," says Trimbath, the former DTC staffer. Indeed, the practice of selling bonds without delivering them is so rampant it has even infected the market for U.S. Treasury notes. That's right — Wall Street has actually been brazen enough to counterfeit the debt of the United States government right under the eyes of regulators, in the middle of a historic series of government bailouts! In fact, the amount of failed trades in Treasury bonds — the equivalent of "phantom" stocks — has doubled since 2007. In a single week last July, some $250 billion worth of U.S. Treasury bonds were sold and not delivered.
The counterfeit nature of our economy is troubling enough, given that financial power is concentrated in the hands of a few key players — "300 white guys in Manhattan," as a former high-placed executive puts it. But over the course of the past year, that group of insiders has also proved itself brilliantly capable of enlisting the power of the state to help along the process of concentrating economic might — making it less and less likely that the financial markets will ever be policed, since the state is increasingly the captive of these interests.
The new president for whom we all had such high hopes went and hired Michael Froman, a Citigroup executive who accepted a $2.2 million bonus after he joined the White House, to serve on his economic transition team — at the same time the government was giving Citigroup a massive bailout. Then, after promising to curb the influence of lobbyists, Obama hired a former Goldman Sachs lobbyist, Mark Patterson, as chief of staff at the Treasury. He hired another Goldmanite, Gary Gensler, to police the commodities markets. He handed control of the Treasury and Federal Reserve over to Geithner and Bernanke, a pair of stooges who spent their whole careers being bellhops for New York bankers. And on the first anniversary of the collapse of Lehman Brothers, when he finally came to Wall Street to promote "serious financial reform," his plan proved to be so completely absent of balls that the share prices of the major banks soared at the news.
The nation's largest financial players are able to write the rules for own their businesses and brazenly steal billions under the noses of regulators, and nothing is done about it. A thing so fundamental to civilized society as the integrity of a stock, or a mortgage note, or even a U.S. Treasury bond, can no longer be protected, not even in a crisis, and a crime as vulgar and conspicuous as counterfeiting can take place on a systematic level for years without being stopped, even after it begins to affect the modern-day equivalents of the Rockefellers and the Carnegies. What 10 years ago was a cheap stock-fraud scheme for second-rate grifters in Brooklyn has become a major profit center for Wall Street. Our burglar class now rules the national economy. And no one is trying to stop them.
Earlier this month, I detailed 25 US commercial banks that had trillions (with a “T”) of dollars’ worth of exposure to derivatives on their balance sheets. At the time, I stated that even if 4% of the notional value of these derivatives was “at risk” and only 10% of that 4% went bad, that you would wipe out the total equity at the five large US banks.
Given how mortgage backed securities turned out (and those securities WERE regulated, unlike derivatives), I believe that most, if not ALL major banks in this country are insolvent or would be recognized as such if you marked the assets on their balance sheets at anything resembling market values.
As a review, here’s the chart I presented revealing the banks and their derivative exposure:
Paints quite a picture, doesn’t it?
This alone, explains in no uncertain terms that the Financial Crisis is anything but over. Sure the Federal Reserve may have pumped $800+ billion into the financial system, yes the Fed is buying some $1.2 trillion in mortgage-backed securities, and of course there are the Fed’s off balance sheet arrangements, which we cannot even begin to quantify.
But ALL OF THESE efforts amount to diddily-squat in the face of TRILLIONS and TRILLIONS in potential losses in the derivatives market.
Sure, the banks may not publicly state how much of their derivatives are “at risk” but when you’re talking about $200+ TRILLION (an amount equal to four times GLOBAL GDP) it doesn’t really matter how much is “at risk.” As I said before, if even 4% of this is “at risk” and 10% of that 4% goes bad, you’re talking $800 billion in equity wiped out (that’s the entire equity of the five largest commercial banks).
I know this… as does anyone who does a little homework on the banking industry. Including… THE BANKS THEMSELVES.
Goldman Sachs recently published its 13F, a quarterly filing in which all asset managers reveal their largest holdings. In it, Goldman’s asset management group reveals their largest long positions and their largest short positions.
Now, Goldie is widely held to be the “smartest” guys on Wall Street (not my opinion) so their net shorts (the stocks or companies they’re betting AGAINST) were particularly interesting to me:
The above positions combine Goldman’s long and shorts (stock and option based positions) for the NET short positions. In simple terms, Goldman MAY be long these companies, but because the bank is ALSO shorting them (and shorting more shares than it is going long) it has NET short positions. Put another way, these are the companies or positions that Goldman is betting the most money on falling in the future.
For starters, FOUR of the top 10 are financial companies. The largest financial short is Wells Fargo, which Goldman has committed $289 million to betting against. After that it’s Mastercard ($266 million), then PNC ($202 million), and finally AIG ($152 million).
Looking at Goldman’s positions, it’s plain as day that Wall Street’s “finest” do NOT believe the financial crisis is over (why are they betting against the banks if they do?). It’s also clear that Goldman’s analysts have noted as I have that both Wells Fargo and PNC both have massive exposure to the derivatives market (the fact that Goldman ALSO has massive derivative exposure is beyond ironic).
However, where things get absolutely absurd is Goldman’s short position of AIG. Goldman, as has been widely documented, was one of the largest benefactors of AIG’s bailout (the then investment bank had MASSIVE counter party exposure to AIG’s toxic balance sheet). To see Goldman now betting AGAINST AIG after receiving $13 billion in tax payer money to insure the former didn’t go under along with the latter is outrageous (if not infuriating) to say the least.
On a final note, I wanted to point out Goldman is also shorting a Euro index (betting against that currency) as well as two gold mining companies (Barrick and Agnico Eagle Mines). This indicates that Goldie is bearish on both the euro and gold which hints that Wall Street’s finest are likely betting on a US Dollar rally (that would, after all, be the most obvious catalyst for a correction in gold and the euro).
To be blunt, it’s clear that Goldman (like me) believes the financial crisis is nowhere near over: four of its top ten largest shorts are financial companies. It’s also worth noting that Goldman is betting against gold and the euro. Given Goldman’s incredible access to and close relationship with the regulators and federal government, I see this as further proof that we may be seeing another stock crisis triggered by a Dollar rally in the near future.
I’m currently preparing readers of my Private Wealth Advisory for this eventuality. We’ve already opened five positions in preparation for the coming Crash. And we’ve got another three positions “on deck” for when the real fireworks begin. Looking at the charts and signs beneath the surface, I believe this could start as early as the next few days. Goldman’s current shorts only confirms my suspicions.
Re:We're Fucked - The Coming Economic Crisis
« Reply #138 on: 2009-11-21 22:31:31 »
Detroit - An American Catastrophe
[ Hermit : I thought I'd post this before Walter got around to it, even though it comes from that bastion of corporatism, the NY Times. :-P ]
Source: NY Times Authors: Bob Herbert Dated: 2009-11-20
In many ways, it’s like a ghost town. It’s eerily quiet. Driving around in the middle of the afternoon, in a city that once was among the most productive on the planet, you see very little traffic, minimal commercial activity, hardly any pedestrians.
What you’ll see are endless acres of urban ruin, block after block and mile after mile of empty and rotting office buildings, storefronts, hotels, apartment buildings and private homes. It’s a scene of devastation and disintegration that stuns the mind, a major American city that still is home to 900,0000 people but which looks at times like a cross between postwar Berlin and the ruin of an ancient civilization.
Detroit was the arsenal of democracy in World War II and the incubator of the American middle class. It was the city that taught mass production to the rest of the world. It was a place that made cars, trucks and other tangible products, not derivatives. And it was the architect of the quintessentially American idea of putting people to work and paying them a decent wage. It’s frightening to think seriously about what we’ve allowed to happen to this city and what is now happening to the middle class and the American economy as a whole.
I was in Detroit with Harley Shaiken, a professor at the University of California, Berkeley, who specializes in labor issues. He grew up in Detroit and his love for the city and its people are palpable, as is his grief for the horrors the city has endured.
The popular narrative of what happened to Detroit contains a great deal of truth but its focus is too narrow to account for the astonishing decline of this former industrial colossus. Yes, there were the riots of 1967, and white flight; and political leadership that was not just shortsighted but at times embarrassingly incompetent and corrupt. And, yes, the auto industry was a case study in self-destruction.
But as Mr. Shaiken points out, Detroit was still viable enough for the Republican Party to hold its convention here in 1980, when it nominated Ronald Reagan. And it was not the riots, but the devastating recession of the early ’80s that really knocked the city senseless. “That’s when the place really cracked,” said Mr. Shaiken, “and that was about aggressive globalization and the lack of an industrial policy, not the riots.”
Detroit and its environs are suffering the agonies of the economic damned because of policies, crafted at the highest national and corporate levels, that resulted in the implosion of crucially important components of America’s manufacturing base. Those decisions have had a profound effect on the fortunes not just of Detroit, or even Michigan, but the entire U.S. economy.
“We’ve been living with the illusion that manufacturing — making things — is so 20th century,” said Mr. Shaiken, “and that we could succeed by concentrating, for example, on complex financial instruments while abandoning the industrial base that sustained so many American families.”
The idea that the fallout from the wrongheaded economic concepts of the past 30 or 40 years could be contained, with the damage limited to the increasingly troubled urban areas while sparing prosperous suburbia, has now proved as phony as Bernie Madoff’s fortune. Americans, whether they live in big cities, suburban towns or rural areas, need jobs, and when those jobs are eliminated (for whatever reasons — technological advances, globalization) without being replaced, the national economy is guaranteed at some point to hit a wall.
Professor Shaiken and I drove past vast lots filled with rubble and garbage and weeds, past the old Michigan Central Terminal, which was once Detroit’s answer to New York’s Grand Central Terminal but which has long since been abandoned; past a onetime Cadillac manufacturing plant that is now an empty lot.
We stopped at an old Ford plant and stood in a stiff, cold wind, reading a plaque put up by the Michigan Historical Commission: “Here at his Highland Park plant, Henry Ford began the mass production of automobiles on a moving assembly line. By 1915 Ford built a million Model T’s. In 1925 over 9,000 were assembled in a single day. Mass production soon moved from here to all phases of American industry and set the pattern of abundance for 20th century living.”
Professor Shaiken’s grandfather, Philip Chapman, took a job at the Highland Park plant in 1914, earning five dollars a day, and worked on production at Ford until his retirement in the mid-1950s.
We’re at a period no less significant to the U.S. than Mr. Chapman’s early years at Ford. We need a revitalized industrial policy, including the creation of whole new industries, if American families are to prosper in the coming decades. If there is any sense of urgency about this in the hearts and minds of our corporate and government leaders, I’ve missed it.
Unless Akio Toyoda can find an answer to Toyota’s problems, the Japanese company’s reign as the world’s biggest carmaker may be brief
IT IS not unusual in Japan for corporate leaders to make semi-ritualised displays of humility. But when Akio Toyoda, president of Toyota Motor Corporation since June and grandson of the firm’s founder, addressed an audience of Japanese journalists in October his words shocked the world’s car industry.
Mr Toyoda had been reading “How the Mighty Fall”, a book by Jim Collins, an American management guru. In it, Mr Collins (best known for an earlier, more upbeat work, “Good to Great”) describes the five stages through which a proud and thriving company passes on its way to becoming a basket-case. First comes hubris born of success; second, the undisciplined pursuit of more; third, denial of risk and peril; fourth, grasping for salvation; and last, capitulation to irrelevance or death.
Only 18 months ago Toyota displaced General Motors (GM), a fallen icon if ever there was one, as the world’s biggest carmaker. But Mr Toyoda claimed that the book described his own company’s position. Toyota, he reckoned, had already passed through the first three stages of corporate decline and had reached the critical fourth. According to Mr Collins, fourth-stage companies that react frantically to their plight in the belief that salvation lies in revolutionary change usually only hasten their demise. Instead they need calmness, focus and deliberate action.
Is Toyota really in such dire straits? And if it is, can a company that for decades has been the yardstick for manufacturing excellence turn itself around in time? A reliable engine stalls
In many ways, Mr Toyoda is right to sound the alarm. Toyota could not have been expected to shrug off the storm that swept through the car industry after the collapse of Lehman Brothers in September last year; but rivals, notably Volkswagen (VW) of Germany and Hyundai Kia of South Korea, have weathered it far better. In the past Toyota went on racking up profits in booms and recessions alike. Not this time.
In the financial year that ended in March, amid admittedly the worst sales slump in the industry’s modern history, Toyota made a net loss of ¥437 billion ($4.3 billion), its first since 1950. Even more startling, the former cash machine (it had rung up a record profit of ¥1.7 trillion the year before) managed to lose ¥766 billion in the three months to March alone—the equivalent of $2.5 billion more than GM did in the same period as it hurtled towards bankruptcy. Toyota expects to lose ¥200 billion this year. But for belated cost-cutting measures and falls in raw-material prices, the forecast would be worse.
Some analysts think that is conservative, because sales in America and Japan appear to be recovering slowly and costs are being slashed further (the company says it is shooting for “emergency profit improvements” of around ¥1.25 trillion). In the most recent quarter Toyota made a surprise net profit of ¥58 billion. It also raised its sales forecast for the year from 6.6m units to 7m. Much, however, depends on the yen-dollar exchange rate. The yen has been climbing, and a rise of ¥1 can subtract ¥30 billion from Toyota’s bottom line.
What should be worrying Mr Toyoda more than the firm’s short-term financial position—its cash pile is an enviable ¥2.65 trillion—is the loss of its once seemingly unstoppable market-share momentum. In 2002 the then president, Fujio Cho, declared that Toyota was aiming for 15% of the global market by 2010. It chased volume at almost any price. By 2007 Toyota’s sales had reached nearly 9m cars, 13.1% of the world total. Last year that share was stable, but this year it seems likely to fall to 11.8% (see chart 1). It has been flat or falling in every important region except Japan, where it has benefited from generous tax breaks on hybrid vehicles, in which it is stronger than its domestic rivals.
In America, Toyota’s largest and hitherto most profitable market, its share has stayed at around 16.5%, hardly a brilliant performance given Detroit’s long, dark night of the soul. So far this year its sales are down by nearly a quarter—a figure not as dreadful as GM’s, but much worse than VW’s and worse even than Ford’s. Hyundai’s sales went up (see chart 2).
In Europe, Toyota’s share was the lowest since 2005. Most worrying, after several good years it fell back in China, not only the world’s fastest-growing car market but now also its biggest. Toyota lost more than two points of market share, the worst performance of the 24 brands on sale in the country (see chart 3). In Brazil and India, Toyota scraped along with little more than 2% of either market. Toyoda’s to-do list
There is plenty here to concern Mr Toyoda. The first is that for a global carmaker Toyota has been slow off the mark in several emerging markets that are likely to provide nearly all the growth in sales when the mature markets of America, western Europe and Japan have recovered to something like normality. VW is far ahead of Toyota in China and out of sight in Brazil. GM, for all its difficulties, is still doing better than Toyota in China and sells nearly ten times as many vehicles in Brazil. Hyundai almost overtook Toyota in China this year and is the biggest foreign car brand in India. Toyota’s first low-cost car designed especially for the price-sensitive Indian market is still a year away.
The second thing that Mr Toyoda should reflect upon is that Toyota is sluggish for different reasons in different markets. This may make answers harder to find. In China, it took longer than rivals to respond to tax breaks for vehicles with smaller engines and it has made less effort to develop cars specifically for the Chinese market. In Europe, the solid but ageing Yaris and the dull Auris left it poorly placed to exploit the scrappage schemes that boosted sales, and its lack of a full range of competitive diesels continues to hinder it.
In America, Toyota is still hugely powerful. It sells more cars there than anyone (the Detroit Three remain highly dependent on big pickups and sport-utility vehicles), it leads in small trucks and it has the bestselling luxury brand in Lexus. But it has also been clobbered by an avalanche of bad publicity, after the recall of 3.8m Toyota and Lexus vehicles. The recall was prompted by the crash of a Lexus saloon in which a California Highway Patrol officer and his family were killed. The apparent cause was “unintended acceleration”.
At first the National Highway Traffic Safety Administration (NHTSA) and Toyota thought that a badly fitting floor mat could have jammed the accelerator open. Both still think that probable. But the NHTSA is continuing its investigation, having received more than 400 complaints about acceleration problems that appear to have been responsible for several fatal accidents. It is now focusing on possible problems with the design of the throttle pedal and the vehicles’ electronics. On November 25th Toyota announced that it would reshape the suspect pedals or fit redesigned ones in 4.26m vehicles. Some will also get reshaped floor-pans and a brake-override system.
America’s ever-eager plaintiff lawyers already have Toyota in their sights. A Californian law firm specialising in customer class-action suits, McCuneWright, filed a suit on November 5th. Citing 16 known deaths and hundreds of injuries, it alleged that “neither driver error nor floor mats can explain away many other frightening instances of runaway Toyotas.”
Almost every carmaker has had to contend with recalls and ambulance-chasing lawyers, but in a place as litigious as America the reputational damage can be severe. Audi (part of the VW Group) has taken more than 20 years to recover from reports of unintended-acceleration allegations that ultimately proved to be groundless.
In another class-action suit, triggered by a former employee, a corporate lawyer named Dimitrios Biller, Toyota is accused of trying to cover up evidence that it knew some of its vehicles could be deadly in rollover accidents. These were not high-sided SUVs, which are prone to rolling over, but its bestselling Camry and Corolla saloons. The company has raised questions about Mr Biller’s veracity and employment record, but the allegations have not gone away. The suggestion that squeaky-clean Toyota’s behaviour may have resembled that of Ford and GM, which in the distant past covered up problems with the Pinto and the Corvair, is especially wounding.
Last month Toyota’s standing was dealt a further blow. The Insurance Institute for Highway Safety, a car-safety research group funded by insurers, announced its highest-rated cars and SUVs for 2010, having added a rollover roof-strength test this year. Not one of the 27 vehicles it chose was a Toyota. The company called this finding “extreme and misleading”.
The danger in all of this for Toyota is that its loyal (and mostly satisfied) customers in America have long believed that the firm was different from others and thus hold it to a higher standard. The moment that Toyota is seen as just another big carmaker, a vital part of the mystique that has surrounded the brand will have been rubbed away.
Another part of that mystique has also suffered some scratches. Just as Cadillac used to be synonymous with luxury and BMW with sportiness, Toyota was a byword for quality and reliability. A few years ago its crown slipped when a number of quality problems surfaced. In July 2006, after a spate of well-publicised recalls, Katsuaki Watanabe, Mr Toyoda’s immediate predecessor, bowed in apology and promised to fix things with a “customer first” programme that would redirect engineering resources and, if necessary, lengthen development times.
However, the recalls continued and Toyota started slipping in consumer-quality surveys. A year later Consumer Reports, an influential magazine, dropped three Toyota models from its recommended list. The magazine added that it would “no longer recommend any new or redesigned Toyota-built models without reliability data on a specific design”.
People within the company believe these quality problems were caused by the strain put on the fabled Toyota Production System by the headlong pursuit of growth. Toyota now looks as though it has been largely successful in solving them. In the latest annual reliability study published by Consumer Reports, Toyota boasted 18 of the 48 leading vehicles. Honda, the next best, had only eight.
The report, however, also contained less welcome news. Ford vehicles, long among the also-rans, are now showing “world-class reliability”. To back up the claim, Ford’s highly praised new Fusion beat not only the Camry but also its main rival, the Honda Accord, as the best in the hugely important mid-size segment. In an annual study of the dependability of three-year-old vehicles, J.D. Power, an automotive consultancy, placed Buick (a GM brand) and Jaguar joint first, ahead of both Lexus and Toyota.
For years Toyota has been the quality benchmark for every carmaker, but at the very moment it faltered, others were finally catching up. The truth is that although a few fail to make the grade—Chrysler still has a lot of catching-up to do—most cars these days are extraordinarily well-made. The quality surveys by which buyers used to set such store are now based on minute differences. This is the main reason why the manufacturers’ positions in the league tables have become increasingly volatile.
If Toyota can no longer rely on its superior quality to give it an edge, its vehicles will inevitably be judged increasingly on more emotional criteria, such as styling, ride, handling and cabin design. In America, Toyota is likely to face much more consistent competition from at least two of Detroit’s Big Three, while both Hyundai and VW are starting to snap at its heels. The South Korean company has put on an astonishing spurt this year, adding about two points of market share to take it to 7.2%. Its Lexus-rivalling Genesis saloon was named North American car of the year. In 2010 it will start selling the new Sonata, which looks like being a great improvement over the old model, aiming it squarely at the Camry.
And whereas Toyota’s sales have fallen by 23.8% in America so far this year, VW’s sales have dropped by only 6.6%. In 2011 VW will start making cars in America after a break of more than 20 years. The first car out of the factory in Chattanooga, Tennessee, will be a saloon specially designed for the American market. It too will take on the Camry. VW is planning to double its sales in America by 2018, to around 800,000. Though far short of the record 2.6m vehicles Toyota sold in America in 2007, this is a sign of the German group’s intent.
The relentless pace at which VW continues to churn out an unending succession of new models across its unmatched stable of brands, each one keenly priced and brimming with showroom appeal, has shaken the rest of the industry, Toyota included. VW is laying plans that it believes will sweep it past Toyota to become the world’s biggest carmaker within a decade. Even now, it is not far behind, although this year it has been helped by its geographic sales pattern compared with Toyota’s. This week VW said it would buy a stake of 19.9% in Suzuki, a Japanese car- and motorcycle-maker that dominates the Indian market through Maruti, its local subsidiary (see article). Pizzazz, please
How will Toyota respond? Publicity-shy Toyota executives hate announcing detailed strategies to the outside world. Nor have many of them yet come to terms with Mr Toyoda’s urgency and appalling frankness. Uniformly they spout that his words about the firm “grasping for salvation” were widely misunderstood. But for all that, there is plenty going on behind the scenes beyond ferocious cost-cutting. Upon seizing the reins in June, Mr Toyoda immediately ordered a back-to-basics overhaul of product development across the firm’s global operations.
One conclusion was that Toyota should be more ruthless in exploiting its early leadership in commercialising hybrid systems and electric-vehicle technology. Although every other big carmaker is launching new hybrids (including plug-ins) and purely battery-powered vehicles, or is preparing to, Toyota is convinced that it is still ahead of the pack. Within a few years there will be a hybrid version of every car Toyota makes and there are plans to extend the Prius brand to cover a range of innovative low- and zero-emission vehicles.
Another conclusion—and possibly a more radical notion—was that Toyota must stop making so many dull cars with all the appeal of household appliances. Importantly, Mr Toyoda is what is known as a “car guy”, a part-time racer and an enthusiast for cars that are designed with passion to engage the right-side as much as the left-side of the customer’s brain. At the Tokyo motor show in October he said pointedly: “I want to see Toyota build cars that are fun and exciting to drive.”
Bloomberg Morizo in a suit
As Morizo, the alter ego under which he blogs, Mr Toyoda went further. He said of the cars at the show: “It was all green. But I wonder how many inspired people to get excited. Eco-friendly cars are a prerequisite for the future, but there must be more than that.” After trying VW’s hot Scirocco coupé in July, he blogged: “I’m jealous! Morizo cannot afford to lose. I will tackle the challenge of creating a car with even more splendid flavour than the Scirocco.” His favourite metaphor is that Toyota’s engineers should be like chefs, seasoning their cars with tantalising flavours.
He still has some way to go. As Car magazine observed recently: “Excepting the small cars and the Prius, Toyota’s European range is as appetising as an all-you-can eat tofu buffet.” Strategic Vision, a market-research firm based in San Diego that studies the factors that drive both the choices car-buyers make and subsequent owner satisfaction, publishes an annual “Total Value Index” covering 23 different categories of vehicle. In this year’s study, which was based on feedback from 48,000 buyers, for the first time Toyota had no winners at all. The authors of the study concluded that other carmakers had caught up with Toyota on quality while offering products that inspired greater “love”.
There is also only so much that one man can do to shift the culture of a vast organisation. But there is nothing engineers like more than to be challenged, and Toyota employs many of the world’s finest. The latest, third-generation Prius and the brilliant little iQ city car show what they are capable of. So, in a very different way, does the 202mph (325kph) Lexus LFA. Kaizen, the pursuit of continuous improvement, is, after all, embedded deep in Toyota’s DNA and only needs prodding.
The test will be to keep the ingredients that have made Toyota great—the dependability and affordability—while adding the spice and the flavours that customers now demand. It will not be easy, and the competition has never looked more formidable. But by recognising the scale of Toyota’s problems, by proclaiming their urgency and then by drawing on the firm’s strengths to fix them, Mr Toyoda has already taken the first, vitally important, step towards salvation.
IT is normally assumed (especially in financial models) that government debt is "risk-free". But in fact sovereign debt defaults are quite common through history.
Take Greece, currently under suspicion (and downgraded today by Standard & Poor's). As the excellent book This Time is Different (by Carmen Reinhart and Kenneth Rogoff) shows, Greece followed its independence from the Ottoman empire by defaulting four times in the 19th century and then again in 1932. Spain defaulted eight times in the 19th century and Portugal six. European nations (inlcuding Russia) managed 16 defaults in the 20th century.
The fact that nations can manage multiple defaults shows that creditors are always willing to trust them one more time. That might turn out to be a big theme in 2010.
And on that note, I bid farewell for the holidays. My column will not appear in the Christmas double issue but will be back in the issue of January 2nd, and the blog will resume on January 4th. Merry Christmas and happy new year to all.
In the current hodge podge of abstract finance, it is easy to get lost in the numbers and lose sight of the forest for the trees. Which is why we provide the ultimate simplification: In calendar (not fiscal) 2009, the US grew its budget deficit by $1.47 trillion . In the same time, the Federal Reserve grew its securities holdings from $500 billion to $1.85 trillion, a $1.34 trillion increase. Keeping it simple: 91% of the budget deficit increase in 2009, under the authority of President Obama, was funded by the... United States.
* Budget Deficit * Federal Reserve * President Obama
IT SOUNDS distinctly unpromising. A nine-volume, 2,200-page report by a court-appointed examiner into the causes of Lehman Brothers’ bankruptcy, published on Thursday March 11th, has a table of contents that lasts for 38 pages. Its most exciting finding relates to an off-balance-sheet accounting gimmick. But the work of Anton Valukas, the chairman of Jenner & Block, a law firm, is crisp, clear and explosive.
Mr Valukas and his team took more than a year to research their report. They collected more than 5m documents and reviewed an estimated 34m pages of information. Looking at Lehman’s IT systems was a particular challenge. The firm had a rat’s nest of more than 2,600 systems and applications at the time it went bust; Mr Valukas boiled that down to the 96 most relevant ones, some of which are now operated by Barclays (the buyer of Lehman’s American arm after the holding company failed). He also conducted more than 250 informal interviews, many of them with Lehman’s directors and most senior executives.
The report’s juiciest finding relates to Lehman’s use of an accounting device called Repo 105, which allowed the bank to bring down its quarter-end leverage temporarily. Repurchase (“repo”) agreements, whereby borrowers swap collateral for cash and agree to buy the collateral back later at a small premium, are a very common form of short-term financing. They normally have no effect on a firm’s overall leverage: the borrowed cash and the obligation to repurchase the collateral balance each other out.
But Repo 105 took advantage of an accounting rule called SFAS 140, which enabled Lehman to reclassify such borrowing as a sale. Lehman would give collateral to its counterparty and receive cash in return. Because the deal was being recorded as a sale, the collateral disappeared from Lehman’s balance-sheet and the bank used the cash it generated to pay down debt. To outsiders, it looked as though Lehman had reduced its leverage. In fact, the obligation to buy back the collateral remained. Once the quarter-end had come and gone, Lehman borrowed money to repay the cash and buy back the collateral, and its leverage spiked back up again.
Mr Valukas marshals plenty of evidence to back up his claim that “Lehman painted a misleading picture of its financial condition”. The effect of Repo 105 was material: the firm temporarily removed around $50 billion-worth of assets at the end of the first and second quarters of 2008, a time when market jitters about its leverage were pervasive (see table below). Mr Valukas can see no legitimate business reason to undertake the transaction, which was more expensive than a normal repo financing and had to be done through its London-based arm because Lehman was unable to get an American lawyer to agree that Repo 105 involved a true sale of assets.
He also uncovers all sorts of unguarded e-mail traffic about the practice, which employees variously described as “window-dressing” and an “accounting gimmick”. Bart McDade, who became president of Lehman in June 2008 and tried to stop the bank from being so aggressive in its use of Repo 105, described it in April of that year as “another drug we r [sic] on”. Mr Valukas believes that “colourable claims”—meaning a plausible legal claim for damages—could be brought against Dick Fuld, the firm’s boss, and three of Lehman’s chief financial officers for filing “materially misleading” quarterly reports. He also thinks that Ernst & Young, Lehman’s auditor, has a case to answer for allowing these reports to go unchallenged.
Whether the report will actually lead to lawsuits remains to be seen. Mr Fuld says he did not know about the Repo 105 transactions; Ernst & Young says that Lehman’s reporting was in line with accounting principles. But even if executives were not breaching their fiduciary duties, the examiner’s report gives Lehman’s creditors and shareholders an awful lot of other reasons to feel aggrieved. Lehman's liquidity pool was not that liquid, after all
As well as his findings on Repo 105, Mr Valukas describes how Lehman’s liquidity pool, which was designed to allow the bank to survive in stressed financial conditions for 12 months, contained cash and securities that had been assigned as collateral to its clearing banks, which grew increasingly nervous about doing business with Lehman. On September 10th 2008, just five days before it filed for bankruptcy, Ian Lowitt, the bank’s chief financial officer at the time, told investors that its liquidity pool remained strong at $42 billion. Yet an internal document from September 9th showed that it had a “low ability to monetise” almost 40% of the assets involved. The liquidity pool was not that liquid, after all.
Mr Valukas also draws back the curtain on the decisions that led Lehman into trouble in the first place. Lehman’s chiefs signally failed to see the potential contagion from the subprime implosion. In its pursuit of growth, the firm’s overall risk appetite was repeatedly increased and limits on the size of single leveraged-loan transactions were routinely ignored. Incredibly, stress tests failed to include many of Lehman’s most illiquid assets. Even when executives began to understand the scale of the risks they were taking, they kept taking on business rather than walk away from deals. Board directors were unaware for several months in 2007 that Lehman had breached its risk-appetite limit. They also did not know that executives had used a new methodology, based on aggressive revenue projections, to increase that risk-appetite threshold again in January 2008. And so on, for page after damning page.
Mr Valukas’s conclusion is that Lehman’s aggressive growth strategy and its approach to risk reflected “serious but non-culpable errors of business judgment” rather than any breach of fiduciary duties. But the stain on the reputation of the bank’s executives and directors has grown even larger.
Re:We're Fucked - The Coming Economic Crisis
« Reply #143 on: 2010-03-31 14:06:27 »
A sober view of how the west still doesn't get it; and maybe doing without has one at an advantage when it all goes pear shaped.
Source: The Economoist Author: The Economist print edition Date: Mar 18th 2010
Eastern Europe's economies : What went right
If Spain, Portugal, Italy and Greece want a lesson in how to take hard decisions, they should look eastward
IN THE depths of the financial crisis a year ago, it was easy to see how the woes of the ex-communist economies could cause huge problems for the rest of Europe. Western banks had lent recklessly in foreign currency to firms and households stricken by the downturn. If they all fled for the exit at once, dumping assets and stopping lending, the result would be carnage both at home and abroad. Also scary was the prospect of a currency crisis. If Latvia were forced off its peg with the euro, its Baltic neighbours might topple too. A combination of weak governments and angry voters looked ominous enough for some commentators, including this newspaper, to fret that the bill for bailing out new members from the east could be big enough to threaten the European Union.
In the event, the ex-communist economies have so far ridden out the storm (see article). Ex-communist Europe still has to grapple with its share of problems: an ageing workforce, bossy officials and poor infrastructure. But nobody has defaulted and nobody has rioted. Something went right—and it holds lessons for troubled countries in western Europe.
As easy as jeden, dwa, trzy One reason for the ex-communist countries’ relative fortune is that they are not a homogenous block all of which is suffering in the same way. Few other countries had the huge debts that made Hungary so wobbly, or the gaping current-account deficit that made Latvia so vulnerable. Slovenia and Slovakia were shielded from currency speculators by being in the euro area. Poland, by far the biggest of the new EU countries, is in a category of its own: thanks to good government and good luck, it was the only European economy to boast economic growth in 2009. In short, Poland, Estonia and Bulgaria are as different in their way as are France, Finland and Greece.
International organisations also deserve some praise. The European Bank for Reconstruction and Development helped stabilise the region’s banks, bringing foreign lenders together to ensure an orderly deleveraging instead of a rout. Both the European Commission and the European Central Bank realised that problems beyond the euro area could create headaches inside it. Their cheap loans helped foreign creditors and countries alike. And the IMF showed itself to be a collegial and flexible organisation, not the aloof, rigid outfit that EU leaders have foolishly rejected as a source of help for Greece and other troubled members of the euro.
Yet the greatest credit should go to the resilience and level-headedness of the region’s own politicians and citizens. Seemingly weak minority governments in places like Hungary and Latvia proved capable of making enormous fiscal adjustments. The east European economies, for all their faults, have shown more flexibility in both labour markets and in what they produce than have many older EU members. Moreover, the cuts in spending and increases in taxes and the retirement age that some ex-communist countries have imposed over the past year were much more savage than anything that Greece or Spain have so far contemplated.
That is salutary for the many countries that have yet to change public expectations enough to make big, painful structural changes more acceptable. Greece and the other Mediterranean countries in the euro area—Spain, Portugal and even Italy—nowadays seem to be sicker than ex-communist Europe. They should look east for a cure.
The Greek debt crisis is spreading. Europe needs a bolder, broader solution—and quickly
THERE comes a moment in many debt crises when events spiral out of control. As panic sets in, bond yields lurch sickeningly upwards and fear spreads to shares and currencies. In September 2008 the failure of once-stellar Lehman Brothers almost brought down the world’s banking system. A decade earlier, Russia’s chaotic default on its sovereign debt rocked the credit markets, felling Long Term Capital Management, a hugely profitable American hedge fund. When the unthinkable suddenly becomes the inevitable, without pausing in the realm of the improbable, then you have contagion.
The Greek crisis—or more properly Europe’s sovereign-debt crisis—looks dangerously close to that (see article). Even as negotiators from the European Union and the IMF are haggling with the Greek government over an ever-growing bail-out package, the yield on Greek debt has ballooned: two-year bonds soared towards 20% this week. Portugal’s borrowing costs jumped. Spain’s debt was downgraded, along with Portugal’s and Greece’s, and Italy came worryingly close to a failed debt auction. European stockmarkets have slumped and the euro itself fell to its lowest level in a year against the dollar.
The road into Hades… It will strike some as mystifying that a small, peripheral economy should suddenly threaten the world’s biggest economic area. Yet, though it is only 2.6% of euro-zone GDP, Greece sounds three warnings that reach far beyond its borders.
The first is economic. Greece has become a symbol of government indebtedness. This crisis began last October when its new government admitted that its predecessor had falsified the national accounts. It is labouring under a budget deficit of 13.6% and a stock of debt equal to 115% of GDP. It cannot grow out of trouble because of fiscal retrenchment and its lack of export prowess. It cannot devalue, because it is in the euro zone. And yet its people seem unwilling to endure the cuts in wages and services needed to make the economy competitive. In short, Greece looks bust.
Few, if any, European countries suffer from all of Greece’s ills, but many scare investors. Portugal has a high budget deficit and is chronically uncompetitive. Spain has a low stock of debt, but it seems unable to restructure its economy. So too Italy, which is heavily indebted to boot. Non-euro-zone Britain has let its currency fall, but its budget deficit is unnerving.
The second lesson is political. Two weeks ago, having concluded that an eventual Greek restructuring was all but inevitable, we said Europe’s leaders had “three years to save the euro”. We presumed that they would quickly get a proposed €45 billion ($60 billion) deal to stave off an imminent and chaotic Greek default, buying time for an orderly rescheduling and for the other weak economies to begin overdue structural reforms. We overestimated their common sense.
The chief culprit is Germany. All along, it has tried to have it every way—to back Greece, but to punish it for its mistakes; to support the Greek economy, but not to spend any money doing so; to treat this as just a Greek problem, when German banks and German citizens, who lend to Greece, stand to lose money too. German voters do not favour aiding Greece. But rather than explain to them why it is in Germany’s interest, the chancellor, Angela Merkel, has run scared of upsetting them before a big regional election on May 9th.
Playing for time has backfired. Now the mooted rescue plan has climbed above €100 billion because no private money is available. The longer euro-zone governments dither, the more lenders doubt whether their promises to save Greece are worth anything. Each time politicians blame “speculators” (see article), investors wonder if they understand how bad things are (or indeed that investors have a choice). Euro-zone leaders initially refused to seek IMF help because it would be humiliating. Their ineptitude has done far more than their eventual decision to call in the IMF to damage the euro.
This political and economic failure leads to the third Greek warning: that contagion can spread through a large number of routes. A run on Greek banks is possible. So is a “sudden stop” of capital to other weaker euro-zone countries. Firms and banks in Spain and Portugal could find themselves shut out of global capital markets, as investors’ jitters spread from sovereign debt. Europe’s inter-bank market could seize up, unsure which banks would be hit by sovereign defaults. Even Britain could suffer, especially if the May 6th election is indecisive.
What then is to be done? The mounting crisis—and the fact that Greece will almost certainly not pay everybody back on time—will renew some calls to abandon it. That would spell chaos for Greece, European banks and other European countries: the effect would indeed be Lehman-like. Hence the necessity, even at this stage, of a show of financial force, linked to the construction of a stronger firewall between Greece and Europe’s other shaky countries. The priority for European policymakers is to do the same as governments eventually did with the banks: to get ahead of the crisis and to convince investors that they will spend whatever is necessary.
…and the expensive way back The economics starts with the politics. Europe will not stem this crisis unless its decision-making apparatus is overhauled and Germany radically changes its tune. Mrs Merkel needs to go on German television and explain to her people what is at stake—laying out how much Germany has gained from the euro and what it has to lose from a cascade of chaotic sovereign defaults. Germans need to understand the risks to their banking system and their prosperity. They need to understand that stemming Greece’s debt crisis is less an act of charity than of self-interest. However unfair it seems—and the frugal Germans are as furious about the profligate Greeks as the rest of the world was about bankers—a bail-out is justifiable on the same logic: doing nothing would cost them even more.
The resolve cannot stop at Germany’s borders. Financial markets have no idea who is in charge. Europe’s Byzantine decision-making structure does not help but Germany needs to ensure that decisions are reached fast, that Europe speaks with one voice—and that co-ordination with the IMF is smooth. As a way to convince financial markets that the political weather has changed, the euro zone should set up a single crisis-management committee, with the power to take decisions.
Political resolve won’t work unless the underlying economics make sense. The first test of this is the Greek package. In return for fiscal and structural adjustments that give the economy a hope of stabilising its debts, this must provide enough money to prevent a forced default. Up to €150 billion may be needed over the next three years—better to err by offering too much. But the firebreak between Greece and the other embattled sovereigns of the euro zone is even more important. In economic terms, that should not be too hard to justify. Despite their problems, no country other than Greece is manifestly bust. Portugal is in the greatest danger, but it has a better history of fiscal adjustment which, under plausible assumptions, could allow its debt to stabilise at a manageable level. Spain and Italy could be made insolvent by a long period of high interest rates. But none has the near-inevitability of Greece.
Europe’s policymakers must make those distinctions clearer. The vulnerable economies must step up the reforms they need to rein in deficits and boost growth. Portugal, especially, needs action. The European Central Bank should demonstrate that it has the tools to maintain liquidity even if there is panic. Euro-zone governments should pre-emptively create inter-governmental liquidity lines. Thanks to extraordinary incompetence, Europe’s leaders have almost ensured that the Greek rescue failed before it began. They are paying for that today.
Re:We're Fucked - The Coming Economic Crisis
« Reply #147 on: 2010-05-18 12:54:53 »
This idea is oozing out of a number of media pores.
The breakdown and breakup of Europe
Source: Business Mirror Author: John Mangun / Outside the Box Date: MONDAY, 17 MAY 2010 21:17
The conception of the European Union (EU) happened in 1957 with the Treaties of Rome. The birth of the EU came with the formation of what is now known as the ‘Eurozone’ with 16 countries joining completely in a common currency on January 1, 2002. After a gestation period of more than 50 years, we may be witnessing the demise of both the euro and the Eurozone after less of decade of life.
More than $1 trillion is allocated to support the EU economic structure by, in effect, guaranteeing the debt of its economically weakest members, beginning with Greece. Two important conditions were a part of the series of agreements that formed the EU. The first was the member-states had to keep their financial affairs in order. Strict fiscal policy guidelines were established that both the “good” economies and the “bad” economies ignored. The second critical provision was that no member-state would be responsible for the debts of another. Because the first rule was ignored, the second rule had to be broken in trying to save the EU and the euro.
Guarantees of any sort are supposed to give credibility and inspire confidence. The economic ministers of Germany and France along with the US and the International Monetary Fund believed that their guarantee would do the job.
But like all guarantees backing a faulty product, this past week, many holders of the debt obligations of Greece and the other weak economies decided to take advantage of the EU guarantee. They sold their government debt and then immediately sold the euro that they received for these government bonds and went into the US dollar, Japanese yen, and gold.
As a result of this action, the euro went from 1.30 to the dollar to 1.23. The guarantee did not increase confidence because investors are so pessimistic about these economies defaulting on their debt or that the debt might be restructured forcing them to lose principle value.
Despite the $1 trillion being put on the table, no one wants most European government debt and no one wants the euro. There is talk that the euro will drop and trade one-to-one against the dollar. And if that happens, it will be the end of the European Union.
The inflationary effects of a devalued currency are unstoppable in this world where every developed nation is dependant on imports.
The developed world is being closed in on from all sides. It cannot keep its economic growth going without debt and more debt is impossible. It is printing money in massive quantities to give the illusion of economic growth but all that printing is inflationary. Currencies are being devalued as a desperate measure to pay off old debt as there is no real wealth left to pay these obligations.
And in Europe, the stronger economies like Germany will be brought down as they suffer because of the common euro currency.
At some point, perhaps before the end of the year if things continue as they are, countries such as Germany, France and others will be forced to abandon the euro to avoid going down with the sinking ship.
If the euro fails, then the US dollar will not be far behind.
Quoting one currency expert, “If you have the emergence of national European currencies as a result of the failure of the union, the mirror image strength of the dollar would instantaneously disappear.”
The euro and dollar are mirrors of each other. This means that selling the euro supports the value of the dollar. One goes up, the other goes down, creating a balance and equilibrium. Most dollar trading in the financial markets is through the US Dollar Index (USDX) which values the dollar against a basket of major currencies heavily weighted by the euro. Because the euro represents an economic system larger than that of the US dollar, the two currencies are said to mirror each other.
Quoting the currency expert again, “If the EU fails so does the USDX. With no mirror image to hold up the dollar artificially, the US dollar will fall faster than Greece’s credit.”
If the euro goes, so does this Dollar Index. If that happens, there is nothing to prevent a run against the dollar. Currently, if the Dollar Index goes too low, selling comes with profit taking, allowing the dollar to appreciate. If the dollar index disappears with the euro, then there is no counter force. If your favorite blue-chip stock goes way up, you sell, taking a profit and move into another blue chip that has not gone up. Or if that stock goes down, you sell out and move into another. But if there is only one stock, it could theoretically go up forever, or go down to zero.
After nearly a decade of the euro, there is no other currency to balance the dollar. Potentially, the Chinese renminbi could replace the euro in the world markets, but there is no way that the Chinese would ever allow their currency to be subject to pricing by the market and speculative forces.
If Europe goes back to individual national currencies, the weak ones will devalue to unheard of low prices causing even more economic and debt failures. The stronger ones like the deutschmark and the Swiss franc could be supported by their governments which would cause even more dollar problems.
Speculators would focus on the dollar because of the liquidity in the trading markets and the fact that it would be nearly impossible for the US to impose any kind of currency/capital controls like the Philippines did to protect the peso after Edsa 1. This is because there is almost as much US dollars held outside the US as there is within the US economic system.
This current European episode only accelerates the transfer of economic power and influence to the Chinese, Indians, and others in the developing world.
The Latest US Taxpayer Bill To Save Europe, And Specifically The French Banks: $57 Billion Courtesy of Tyler Durden
The latest (and certainly not last) IMF portion of the European bail out is E220 billion, or $287 billion at today’s exchange rate. As the US and its taxpayers represent roughly 20% of total IMF funding, today’s 3% loss in dollar purchasing power to the middle class will cost the middle class $57 billion. Paying for the privilege of being able to purchase less sure sounds like a squid-pro-quo type of deal for us here. Politicians everywhere applaud this most recent rape of America’s working class, even as communism is now the global ideology. Who needs TheOnion.com when reality is now 10 times more surreal. And the direct recipients of taxpayer generosity: SocGen, AXA, Dexia, CA and all other French and German banks, which right now are all up ~20%.
<snip> ————————————————- My brother visited Argentina a few weeks ago. He’s been living in Spain for a few years now. Within the first week, he got sick, some kind of strong flu, even though climate isn’t that cold and he took care of himself. Without a doubt he got sick because there are lots of new viruses in my country that can’t be found in 1st world countries. The misery and famine lead us to a situation where, even though you have food, shelter and health care, most of others don’t, and therefore they get sick and spread the diseases all over the region.
What got me started on this post is the fact that I actually saw this coming, and posted on the subject here at Frugal’s, months before the new viruses spread over the country and the news started talking about this new, health emergency, which proves that talking, thinking and sharing ideas with like minded people (you guys), does help to see things coming and prepare for them with enough time. So I started thinking about several issues, what I learned (either the hard way or thanks to this forum) after all these years of living in a collapsed country that is trying to get out an economical disaster and everything that comes along with it. Though my English is limited, I hope I’m able to transmit the main ideas and concepts, giving you a better image of what you may have to deal with some day, if the economy collapses in your country. Here is what I have so far:
URBAN OR COUNTRY?
Someone once asked me how did those that live in the country fare. If they were better off than city dwellers. As always there are no simple answers. Wish I could say country good, city bad, but I can’t, because if I have to be completely honest, and I intend to be so, there are some issues that have to be analyzed, especially security. Of course that those that live in the country and have some land and animals were better prepared food-wise. No need to have several acres full of crops. A few fruit trees, some animals, such as chickens, cows and rabbits, and a small orchard was enough to be light years ahead of those in the cities. Chickens, eggs and rabbits would provide the proteins, a cow or two for milk and cheese, some vegetables and fruit plants covered the vegetable diet, and some eggs or a rabbit could be traded for flower to make bread and pasta or sugar and salt.
Of course that there are exceptions, for example, some provinces up north have desert climate and it almost never rains. It is almost impossible to live of the land, and animals require food and water you have to buy. Those guys had it bad; no wonder the Northern provinces suffer the most in my country. Those that live in cities, well they have to manage as they can. Since food prices went up about 200%-300%. People would cut expenses wherever they could so they could buy food. Some ate whatever they could; they hunted birds or ate street dogs and cats, others starved. When it comes to food, cities suck in a crisis. It is usually the lack of food or the impossibility to acquire it that starts the rioting and looting when TSHTF.
When it comes to security things get even more complicated. Forget about shooting those that mean you harm from 300 yards away with your MBR. Leave that notion to armchair commandos and 12 year old kids that pretend to be grown ups on the internet.
1) Those that want to harm you/steal from you don’t come with a pirate flag waving over their heads.
2) Neither do they start shooting at you 200 yards away.
3) They won’t come riding loud bikes or dressed with their orange, convict just escaped from prison jump suits, so that you can identify them the better. Nor do they all wear chains around their necks and leather jackets. If I had a dollar for each time a person that got robbed told me “They looked like NORMAL people, dressed better than we are”, honestly, I would have enough money for a nice gun. There are exceptions, but don’t expect them to dress like in the movies.
4) A man with a wife and two or three kids can’t set up a watch. I don’t care if you are SEAL, SWAT or John Freaking Rambo, no 6th sense is going to tell you that there is a guy pointing a gun at your back when you are trying to fix the water pump that just broke, or carrying a big heavy bag of dried beans you bought that morning.
The best alarm system anyone can have in a farm are dogs. But dogs can get killed and poisoned. A friend of mine had all four dogs poisoned on his farm one night, they all died. After all these years I learned that even though the person that lives out in the country is safer when it comes to small time robberies, that same person is more exposed to extremely violent home robberies. Criminals know that they are isolated and their feeling of invulnerability is boosted. When they assault a country home or farm, they will usually stay there for hours or days torturing the owners. I heard it all: women and children getting raped, people tied to the beds and tortured with electricity, beatings, burned with acetylene torches. Big cities aren’t much safer for the survivalist that decides to stay in the city. He will have to face express kidnappings, robberies, and pretty much risking getting shot for what’s in his pockets or even his clothes.
So, where to go? The concrete jungle is dangerous and so is living away from it all, on your own. The solution is to stay away from the cities but in groups, either by living in a small town-community or sub division, or if you have friends or family that think as you do, form your own small community. Some may think that having neighbors within “shouting” distance means loosing your privacy and freedom, but it’s a price that you have to pay if you want to have someone to help you if you ever need it. To those that believe that they will never need help from anyone because they will always have their rifle at hand, checking the horizon with their scope every five minutes and a first aid kit on their back packs at all times…. Grow up.
What ever sort of scenario you are dealing with, services are more than likely to either suffer in quality or disappear all together. Think ahead of time; analyze possible SHTF scenarios and which service should be affected by it in your area. Think about the most likely scenario but also think outside the box. What’s more likely? A tornado? But a terrorist attack isn’t as crazy as you though it would be a few years ago, isn’t it? Also analyze the consequences of those services going down. If there is no power then you need to do something about all that meat you have in the fridge, you can dry it or can it. Think about the supplies you would need for these tasks before you actually need them. You have a complete guide on how to prepare the meat on you computer… how will you get it out of there if there is no power? Print everything that you consider important.
No one can last too long without water. The urban survivalist may find that the water is of poor quality, in which case he can make good use of a water filter, or that there is no water available at all. When this happens, a large city were millions live will run out of bottled water within minutes. In my case, tap water isn’t very good. I can see black little particles and some other stuff that looks like dead algae. Taste isn’t that bad. Not good but I know that there are parts of the country where it is much worse. To be honest, a high percentage of the country has no potable water at all.
If you can build a well, do so, set it as your top of the list priority as a survivalist. Water comes before firearms, medicines and even food. Save as much water as you can. Use plastic bottles, refill soda bottles and place them in a cool place, preferably inside a black garbage bag to protect it from sun light. The water will pick some plastic taste after a few months, but water that tastes a little like plastic is far way better than no water at all. What ever the kind of SHTF scenario you are dealing with, water will suffer. In my case the economical crash created problems with the water company, that reduces the maintenance and quality in order to reduce costs and keep their income in spite of the high prices they have to pay for supplies and equipment, most of which comes from abroad, and after the 2001 crash, costs 3 times more. As always, the little guy gets to pay for it. Same would go for floods or chemical or biological attacks. Water requires delicate care and it will suffer when TSHTF in one way or another. In this case, when you still have tap water, a quality filter is in order, as well as a pump if you can have one. A manual pump would be ideal as well if possible. Estimate that you need approximately a gallon per person per day. Try to have at least two-four weeks worth of water. More would be preferable.
I spent WAY to much time without power for my own taste. Power has always been a problem in my country, even before the 2001 crisis. The real problem starts when you spend more than just a few hours without light. Just after the SHTF in 2001 half the country went without power for 3 days. Buenos Aires was one big dark grave. People got caught on elevators, food rots; hospitals that only had a few hours worth of fuel for their generators ran out of power. Without power, days get to be a lot shorter. Once the sun sets there is not much you can do. I read under candle light and flashlight light and your head starts to hurt after a while. You can work around the house a little bit but only as long as you don’t need power tools. Crime also increases once the lights go out, so whenever you have to go somewhere in a black out, carry the flashlight on one hand and a handgun on the other.
Summarizing, being in a city without light turn to be depressing after a while. I spent my share of nights, alone, listening to the radio, eating canned food and cleaning my guns under the light of my LED head lamp. Then I got married, had a son, and found out that when you have loved ones around you black outs are not as bad. The point is that family helps morale on these situations.
A note on flashlights. Have two or three head LED lights. They are not expensive and are worth their weight in gold. A powerful flashlight is necessary, something like a big Maglite or better yet a SureFire, especially when you have to check your property for intruders. But for more mundane stuff like preparing food, going to the toilet or doing stuff around the house, the LED headlamp is priceless. Try washing the dishes on the dark while holding a 60 lumen flashlight on one hand and you’ll know what I mean. LEDs also have the advantage of lasting for almost an entire week of continuous use and the light bulb lasts forever. Rechargeable batteries are a must or else you’ll end up broke if lights go out often. Have a healthy amount of spare quality batteries and try to standardize as much as you can. I have 12 Samsung NM 2500Mh AA and 8 AAA 800mh for the headlamps. I use D cell plastic adaptors in order to use AA batteries on my 3 D cell Maglite. This turned out to work quite well, better than I expected. I also keep about 2 or 3 packs of regular, Duracell batteries just in case. These are supposed to expire around 2012, so I can forget about them until I need them. Rechargeable NM batteries have the disadvantage of loosing power after a period of time, so keep regular batteries as well and check the rechargeable ones every once in a while.
After all these years of problems with power, what two items I would love to have?
1) The obvious. A generator. I carried my fridge food to my parent’s house way to many times on the past. Too bad I can’t afford one right now.
2) A battery charger that has both solar panel and a small crank. They are not available here. I saw that they are relatively inexpensive in USA. Do yourself a favor and get one or two of these. Even if they don’t charge as well as regular ones, I’m sure it will put out enough power to charge batteries for LED lamps at least.
Gas has decreased in quality as well, there is little gas. Try to have an electric oven in case you have to do without it. If both electricity and gas go down, one of those camping stoves can work as well, if you keep a good supply of gas cans. The ones that work with liquid fuel seem to be better on the long run, since they can use different types of fuel. You can only store a limited amount of compressed gas and once you ran out of it, you are on your own if stores are closed of they sold them out. Anyway, a city that goes without gas and light for more than two weeks is a death trap, get out of there before it’s too late.
A DIFFERENT MENTALITY.
I was watching the People & Art channel with my wife the other night. It was a show where they film a couple for a given period of time and some people vote on who is the one with the worst habits, the one they find more annoying. We were in our bed, and this is when I usually fall asleep but since the guy was a firearms police instructor I was interested and managed to stay awake. At one point the guy’s wife said that she found annoying that her husband spent 500 dollars a month on beauty products for himself. 500 USD on facial cream, special shampoo and conditioner, as well as having his nails polished! If you are that guy and happen to be reading this, or if you know him, I’m sorry, but what an idiot!! “500 USD, that’s a small generator or a gun and a few boxes of ammo” I told my wife. “That’s two months worth of food” she said. We were each thinking of a practical use for that money, the money this guy was practically throwing away. Once the SHTF, money is no longer measured in money, but you start seeing it as the necessary goods it can buy. Stuff like food, medicine, gas, or the private medical service bill. To me, spending 500 dollars on beauty products, and to make it worse, on a guy? That’s simply not acceptable. The way I see it, someone with that mentality can’t survive a week without a credit card, no use in even considering a SHTF scenario. And this guy is a firearms instructor?… probably the kind of guy that will say that a handgun is only used to fight his way to his rifle… and his facial night cream…
Once you experience the lack of stuff you took for granted, like food, medicines, your set of priorities change all of a sudden. For example, I had two wisdom tooth removed last year. On both occasions I was prescribed with antibiotics and strong Ibuprofen for the pain. I took the antibiotics (though I did buy two boxes with the same recipe just to keep one box just in case) but I didn’t use the Ibuprofen, I added it to my pile of medicines. Why? Because medicines are not always available and I’m not sure if they will be available in the future. Sure, it hurt like hell, but pain alone isn’t going to kill you, so I sucked it up. Good for building up character if you ask me.
Make sacrifices so as to ensure a better future, that’s the mentality you should have if you want to be prepared. There’s stuff that is “nice to have” that has to be sacrificed to get the indispensable stuff. There’s stuff that is not “basic need stuff” but it’s also important in one way or another. My wife goes to the hairdresser once every month or two. It’s not life or death, but it does make her feel better and it boosts her morale. I buy a game for the Xbox or a movie to watch with my wife every once in awhile, just to relax. 7 or 10 dollars a month are not going to burn a hole in my pocket. Addictions such as alcohol, drugs or even cigarettes should be avoided by the survivalist. They are bad for your health; cost a lot of money that could be much better spent, and create an addiction to something that may not be available in the future. Who will have to tolerate your grouchy mood when your brand of smokes is no longer imported after TSHTF?
Speculators set up a casino where the chips were the stomachs of millions. What does it say about our system that we can so casually inflict so much pain?
By now, you probably think your opinion of Goldman Sachs and its swarm of Wall Street allies has rock-bottomed at raw loathing. You're wrong. There's more. It turns out that the most destructive of all their recent acts has barely been discussed at all. Here's the rest. This is the story of how some of the richest people in the world – Goldman, Deutsche Bank, the traders at Merrill Lynch, and more – have caused the starvation of some of the poorest people in the world.
It starts with an apparent mystery. At the end of 2006, food prices across the world started to rise, suddenly and stratospherically. Within a year, the price of wheat had shot up by 80 per cent, maize by 90 per cent, rice by 320 per cent. In a global jolt of hunger, 200 million people – mostly children – couldn't afford to get food any more, and sank into malnutrition or starvation. There were riots in more than 30 countries, and at least one government was violently overthrown. Then, in spring 2008, prices just as mysteriously fell back to their previous level. Jean Ziegler, the UN Special Rapporteur on the Right to Food, calls it "a silent mass murder", entirely due to "man-made actions."
Related articles Goldman denies its collateral demands led to collapse of insurance giant AIG Search the news archive for more stories Earlier this year I was in Ethiopia, one of the worst-hit countries, and people there remember the food crisis as if they had been struck by a tsunami. "My children stopped growing," a woman my age called Abiba Getaneh, told me. "I felt like battery acid had been poured into my stomach as I starved. I took my two daughters out of school and got into debt. If it had gone on much longer, I think my baby would have died."
Most of the explanations we were given at the time have turned out to be false. It didn't happen because supply fell: the International Grain Council says global production of wheat actually increased during that period, for example. It isn't because demand grew either: as Professor Jayati Ghosh of the Centre for Economic Studies in New Delhi has shown, demand actually fell by 3 per cent. Other factors – like the rise of biofuels, and the spike in the oil price – made a contribution, but they aren't enough on their own to explain such a violent shift.
To understand the biggest cause, you have to plough through some concepts that will make your head ache – but not half as much as they made the poor world's stomachs ache.
For over a century, farmers in wealthy countries have been able to engage in a process where they protect themselves against risk. Farmer Giles can agree in January to sell his crop to a trader in August at a fixed price. If he has a great summer, he'll lose some cash, but if there's a lousy summer or the global price collapses, he'll do well from the deal. When this process was tightly regulated and only companies with a direct interest in the field could get involved, it worked.
Then, through the 1990s, Goldman Sachs and others lobbied hard and the regulations were abolished. Suddenly, these contracts were turned into "derivatives" that could be bought and sold among traders who had nothing to do with agriculture. A market in "food speculation" was born.
So Farmer Giles still agrees to sell his crop in advance to a trader for £10,000. But now, that contract can be sold on to speculators, who treat the contract itself as an object of potential wealth. Goldman Sachs can buy it and sell it on for £20,000 to Deutsche Bank, who sell it on for £30,000 to Merrill Lynch – and on and on until it seems to bear almost no relationship to Farmer Giles's crop at all.
If this seems mystifying, it is. John Lanchester, in his superb guide to the world of finance, Whoops! Why Everybody Owes Everyone and No One Can Pay, explains: "Finance, like other forms of human behaviour, underwent a change in the 20th century, a shift equivalent to the emergence of modernism in the arts – a break with common sense, a turn towards self-referentiality and abstraction and notions that couldn't be explained in workaday English." Poetry found its break with realism when T S Eliot wrote "The Wasteland". Finance found its Wasteland moment in the 1970s, when it began to be dominated by complex financial instruments that even the people selling them didn't fully understand.
So what has this got to do with the bread on Abiba's plate? Until deregulation, the price for food was set by the forces of supply and demand for food itself. (This was already deeply imperfect: it left a billion people hungry.) But after deregulation, it was no longer just a market in food. It became, at the same time, a market in food contracts based on theoretical future crops – and the speculators drove the price through the roof.
Here's how it happened. In 2006, financial speculators like Goldmans pulled out of the collapsing US real estate market. They reckoned food prices would stay steady or rise while the rest of the economy tanked, so they switched their funds there. Suddenly, the world's frightened investors stampeded on to this ground.
So while the supply and demand of food stayed pretty much the same, the supply and demand for derivatives based on food massively rose – which meant the all-rolled-into-one price shot up, and the starvation began. The bubble only burst in March 2008 when the situation got so bad in the US that the speculators had to slash their spending to cover their losses back home.
When I asked Merrill Lynch's spokesman to comment on the charge of causing mass hunger, he said: "Huh. I didn't know about that." He later emailed to say: "I am going to decline comment." Deutsche Bank also refused to comment. Goldman Sachs were more detailed, saying they sold their index in early 2007 and pointing out that "serious analyses ... have concluded index funds did not cause a bubble in commodity futures prices", offering as evidence a statement by the OECD.
How do we know this is wrong? As Professor Ghosh points out, some vital crops are not traded on the futures markets, including millet, cassava, and potatoes. Their price rose a little during this period – but only a fraction as much as the ones affected by speculation. Her research shows that speculation was "the main cause" of the rise.
So it has come to this. The world's wealthiest speculators set up a casino where the chips were the stomachs of hundreds of millions of innocent people. They gambled on increasing starvation, and won. Their Wasteland moment created a real wasteland. What does it say about our political and economic system that we can so casually inflict so much pain?
If we don't re-regulate, it is only a matter of time before this all happens again. How many people would it kill next time? The moves to restore the pre-1990s rules on commodities trading have been stunningly sluggish. In the US, the House has passed some regulation, but there are fears that the Senate – drenched in speculator-donations – may dilute it into meaninglessness. The EU is lagging far behind even this, while in Britain, where most of this "trade" takes place, advocacy groups are worried that David Cameron's government will block reform entirely to please his own friends and donors in the City.
Only one force can stop another speculation-starvation-bubble. The decent people in developed countries need to shout louder than the lobbyists from Goldman Sachs. The World Development Movement is launching a week of pressure this summer as crucial decisions on this are taken: text WDM to 82055 to find out what you can do.
The last time I spoke to her, Abiba said: "We can't go through that another time. Please – make sure they never, never do that to us again."