The Great Depression on Steroids
I'd like to tie two things together that truly spell out where we are going. The G20 this week is placing all of their eggs in hopes that the IMF and World Bank can juggle .1 trillion dollars in bail out money that they don't have and probably will never see more than a third of that amount. I've said, the G20 was nothing more than a love-fest full of nonsensical chatter playing to constituents at home.
Simon Johnson was the Chief Economist at the IMF in 2007 and 2008. He recently published a very detailed piece in The Atlantic that should be required reading for everyone in Washington. In fact, the best thing we could do right now, would be to can Geithner, Bernanke and Summers, replacing them with Simon Johnson and a team he builds. Here are a few words of wisdom from Johnson's article in The Atlantic.
Living Within Our Means - Here's what Johnson had to say about how the IMF looked at countries in crisis. "Each country, of course, needed a loan, but more than that, each needed to make big changes so that the loan could really work. Almost always, countries in crisis need to learn to live within their means after a period of excess . . . "
Unfortunately for us, we have not only failed to learn to live within our means, but our solution to the problem is to spend more!
Goldman Sachs and the Economic Royalists – Johnson has this to say about who really runs the USA . . . and the world. " . . . the American financial industry gained political power by amassing a kind of cultural capital—a belief system. . . . One channel of influence was, of course, the flow of individuals between Wall Street and Washington. Robert Rubin, once the co-chairman of Goldman Sachs, served in Washington as Treasury secretary under Clinton, and later became chairman of Citigroup's executive committee. Henry Paulson, CEO of Goldman Sachs during the long boom, became Treasury secretary under George W.Bush. John Snow, Paulson's predecessor, left to become chairman of Cerberus Capital Management, a large private-equity firm that also counts Dan Quayle among its executives. Alan Greenspan, after leaving the Federal Reserve, became a consultant to Pimco, perhaps the biggest player in international bond markets.
These personal connections were multiplied many times over at the lower levels of the past three presidential administrations, strengthening the ties between Washington and Wall Street. It has become something of a tradition for Goldman Sachs employees to go into public service after they leave the firm. The flow of Goldman alumni—including Jon Corzine, now the governor of New Jersey, along with Rubin and Paulson—not only placed people with Wall Street's worldview in the halls of power; it also helped create an image of Goldman (inside the Beltway, at least) as an institution that was itself almost a form of public service.
Wall Street is a very seductive place, imbued with an air of power. Its executives truly believe that they control the levers that make the world go round. A civil servant from Washington invited into their conference rooms, even if just for a meeting, could be forgiven for falling under their sway. Throughout my time at the IMF, I was struck by the easy access of leading financiers to the highest U.S. government officials, and the interweaving of the two career tracks. I vividly remember a meeting in early 2008—attended by top policy makers from a handful of rich countries—at which the chair casually proclaimed, to the room's general approval, that the best preparation for becoming a central-bank governor was to work first as an investment banker.
A whole generation of policy makers has been mesmerized by Wall Street, always and utterly convinced that whatever the banks said was true. Alan Greenspan's pronouncements in favor of unregulated financial markets are well known. Yet Greenspan was hardly alone. This is what Ben Bernanke, the man who succeeded him, said in 2006: "The management of market risk and credit risk has become increasingly sophisticated. … Banking organizations of all sizes have made substantial strides over the past two decades in their ability to measure and manage risks."
Doubling Down on Stupid – Despite all of the warnings and obvious problems, governments continue to bow down to the Economic Royalists. At this point, there is NO way out of this mess without dire consequences that become more dire by the day. So here's how Johnson introduces his section on "The Way Out." "Looking just at the financial crisis (and leaving aside some problems of the larger economy), we face at least two major, interrelated problems. The first is a desperately ill banking sector that threatens to choke off any incipient recovery that the fiscal stimulus might generate. The second is a political balance of power that gives the financial sector a veto over public policy, even as that sector loses popular support."
We have double-trouble staring at us, and it gets worse, because this week the government caved into allowing the banks to mark-to-myth, so assets that are worthless are now on the books at prices the banks have made up to pump up their balance sheets. Simon Johnson minces no words in addressing this problem . . . "At the root of the banks' problems are the large losses they have undoubtedly taken on their securities and loan portfolios. But they don't want to recognize the full extent of their losses, because that would likely expose them as insolvent."
In essence, we have Doubled Down on Stupid.
Worse Than the Great Depression – Johnson closes with this . . . "The conventional wisdom among the elite is still that the current slump "cannot be as bad as the Great Depression." This view is wrong. What we face now could, in fact, be worse than the Great Depression—because the world is now so much more interconnected and because the banking sector is now so big. We face a synchronized downturn in almost all countries, a weakening of confidence among individuals and firms, and major problems for government finances. If our leadership wakes up to the potential consequences, we may yet see dramatic action on the banking system and a breaking of the old elite. Let us hope it is not then too late."
It Gets Worse – One things Johnson has not discussed is the level of derivatives still in the system. Goldman Sachs leads the way with five times the exposure to toxic derivatives as any other bank. The Office of the Comptroller of the Currency (OCC) just included information about Goldman Sachs in their most recent report that seems to have gone unnoticed by the media. Yes, Goldman Sachs is now a commercial bank, so if we want to look, we can. But it seems like nobody wants to look. It seems like none cares that Goldman Sachs leads the pack in exposure to risk. They are not alone. And I will close with this. It get worse, because we did not have toxic and highly leveraged derivatives in the 1930's. This Depression is truly on steroids.
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