It is now clear that we are again –
as we were in mid- March at the time of the Bear Stearns collapse – an epsilon away from a generalized run on most of
the shadow banking system, especially the other major independent broker dealers (Lehman, Merrill Lynch, Morgan Stanley, Goldman
Sachs). If Lehman does not find a buyer over the weekend and the counterparties of Lehman withdraw their credit lines on Monday
(as they all will in the absence of a deal) you will have not only a collapse of Lehman but also the beginning of a run on
the other independent broker dealers (Merrill Lynch first but also in sequence Goldman Sachs and Morgan Stanley and possibly
even those broker dealers that are part of a larger commercial bank, I.e. JP Morgan and Citigroup). Then this run would lead
to a massive systemic meltdown of the financial system. That is the reason why the Fed has convened in emergency meetings
the heads of all major Wall Street firms on Friday and again today to convince them not to pull the plug on Lehman and maintain
their exposure to this distressed broker dealer.
Let me elaborate in much detail on these issues…
bail-in of investors is the opposite of a bailout of investors like the one that was done in the case of Bear Stearns and
Fannie and Freddie. It is thus akin to the bail-in of investors that was done in the case of LTCM in the summer of 1998 and
the bail-in of the interbank creditors of Korean banks in the winter of 1997. I wrote in 2004 with Brad Setser an entire book
titled “Bailouts versus Bailins: Responding to Financial Crises in Emerging Markets” that discusses these policy
tradeoffs in financial crises where you have runs on the liquid liabilities of either illiquid and/or insolvent countries.
Those were the international equivalent of the banks runs and financial crises that we are now seeing in the cases of Bear
Stearns, Lehman and Fannie and Freddie.
Since government bailouts put at risk public money and create moral hazard
Treasury and the Fed decided that they need to draw a line somewhere after the bailouts of Bear Stearns creditors, of Fannie
and Freddie and all the other actions aimed at backstopping the financial system. These actions have included the creation
of the TAF, TSLF, PDCF, the use of the FHLBs to provide liquidity to distressed mortgage lenders, the provision of Treasury
liquidity to the FHLBs, the outright purchase of agency MBS by the Treasury, the swapping of two thirds of the safe Treasuries
of the Fed for toxic illiquid securities of banks and non banks, etc. So after having created the mother of all moral hazard
with their actions (including the biggest bailout of all, i.e. the rescue of Fannie and Freddie) the Fed and Treasury are
playing a chicken game with the financial system. Tim Geithner told clearly to the heads of all the major Wall Street firms
that if they pull the plug on Lehman and Lehman collapses they are next in line for a run on their institutions. So if a buyer
for Lehman is not found (or even if it is found and the counterparty lines are still pulled) not only Lehman will collapse
but the run will extend to all of the other major broker dealers and banks that are the counterparties of Lehman.
Fed may delude itself in thinking – as its stress models suggest – that the systemic risk of a collapse of Lehman
are less serious than those of Bear Stearns: afterall Lehman is less involved into CDSs than Bear was and now both Lehman
and the other major broker dealers have access to the discount window with the PDCF. A collapse of Lehman instead will have
as much of a systemic effect as the collapse of Bear for many reasons: Lehman is larger
than Bear was; Lehman is a major player in a variety of key financial markets; all the other major Wall Street institutions
are interconnected with Lehman in dozens of different types of counterparty activities; the PDCF support of the Fed is neither
unlimited nor unconditional, i.e. investors cannot assume that Lehman or any other broker dealer can borrow unlimited amounts
with no conditions from the discount window. Thus, a collapse of Lehman would trigger a panic and a potential run on all sort
of other broker dealers and also on other distressed financial institutions like banks (WaMu) and insurance companies (AIG) and smaller member
of the shadow financial system (distressed and highly leveraged hedge funds, etc.).
The reason why Lehman is having
a hard time to find a buyer is that it is most likely insolvent. If you had to mark to market the value of it illiquid and
toxic assets (the $40 billion of commercial real estate assets, its remaining residential MBS and CDOs, its holdings of real
estate private equity funds) Lehman is most likely insolvent (i.e. has negative net
worth with liabilities well above its impaired assets). So leaving aside the potential and now dubious value of its franchise
(an option to the value of a much slimmed down financial institution) no financial institution should be paying even a single
penny to buy an insolvent firm. That is why all the potential suitors of Lehman (such as Bank of America and others) are waiting
for the government to provide another sleazy Bear Stearns deal where the government would buy at higher than market value
the toxic assets of Lehman (the commercial real estate assets for example) so as to make the net worth of the remaining institution
positive and worth buying. But such action – borderline illegal in the case of Bear as pointed out by Paul Volcker –
would be a scandal in the case of Lehman and severely exacerbate the moral hazard problem.
But here lies the conundrum
of this Lehman crisis: no one seems to want to buy for a positive price Lehman unless there is a public subsidy (taking off
their toxic assets off the firms' balance sheet). The government cannot afford to provide the subsidy as the moral hazard
problems are becoming severe. But then if on Monday no deal is done Lehman collapses and goes into Chapter 11 court and you
have the beginning of a systemic financial meltdown as the run on the other broker dealers will start. Thus, what Fed and
Treasury are trying to do this weekend is another 1998 LTCM bailin or Korea 1997 bailin, i.e. trying to convince all the major
institutions to either support a purchase of Lehman or maintain their exposure to Lehman if no buyers is found. Can this bail-in
work? It is not clear as there is a major collective action problem: you can't only convince half a dozen major Wall Street
firms to maintain their exposure to Lehman. You need also to convince all the other counterparties of Lehman (including the
hedge funds and the other broker dealers and banks) not to roll off their claims and credit to Lehman. This is a much more
messy collective action problem and coordination game than in the case of LTCM and Korea
where the number of involved counterparties was more limited (less than 20 in each case).
Paulson and Bernanke and
Geithner (the troika managing this financial crisis) have all made public statements in the last few month to the necessity
of finding an orderly way to close down – rather than bailout – a major and systemically important non bank financial
institutions: the embarrassment and losses for the Fed that the bailout of the creditors of Bear led made it paramount to
avoid another Bear like bailout. That is why they are now playing tough with Lehman and its creditors. But in this game of
chicken the Fed and the Treasury may end up being the ones to blink. Faced with the risk of a generalized run on the other
broker dealers they may decide that greasing again a deal for the purchase of Lehman may be less costly and less risky than
testing whether the system can orderly work out a collapse of Lehman (something that is highly uncertain). Even in the case
of the Bank of America purchase of Countrywide such public subsidy was significant (the FHLB of Atlanta lent to Countrywide
over $50 billion and Bank of America has most likely received plenty of tacit forbearance from the Fed to support its takeover
of an insolvent Countrywide). So implicitly or explicitly the Fed and the Treasury may decide – however reckless and
moral hazard laden that choice may be – to provide some explicit or implicit subsidy to a private purchase of Lehman.
trouble is that, in spite of all public statements regarding the need to provide an orderly demise of large broker dealers,
the Fed and the Treasury have done nothing to create such insolvency regime for such broker dealers. So the only option for
Lehman – if a buyer is not found - will be the one of ending up in Chapter 11 and trigger massive losses on its counterparties
that will in turn trigger a run on such counterparties.
In February of 2008 I predicted – in my “12 Steps
to a Financial Disaster” – that one or two major broker dealers would go bankrupt. A month later Bear Stearns
went bust and the collapse of the other ones was avoided for a time by the most radical change in monetary policy since the
Great Depression, i.e. the creation of the PDCF that extended the lender of last resort (LOLR) role of the Fed to non-bank
systemically important broker dealers (i.e. all of the bank and non bank primary dealers of the Fed).
I next argued
in June that such action would not prevent a run on other broker dealers such Lehman as to avoid a run you need both deposit
insurance and unlimited and unconditional access to the Fed LOLR support. I also discussed why Lehman was next in line for
a collapse and why the PDCF would not prevent a run on Lehman.
I also argued in follow-up pieces that, in a matter
of two years, no one of the remaining independent broker dealers (Lehman, Merrill Lynch, Morgan Stanley and Goldman Sachs)
would survive as: 1. their business model is now impaired (securitization is semi-dead); 2. they will need to be regulated
like banks given the PDCF support and thus have lower leverage, higher liquidity and more capital that will erode their profitability;
3. Their severe maturity mismatch – borrowing very short term and liquid, leveraging a lot and lending and investing
in more long term and illiquid ways – makes them very fragile – in the absence of deposit insurance and in the
presence of only limited LOLR support by a central bank – to bank like run that are destructive even of illiquid but
otherwise solvent institutions. Thus all such broker dealers need to merge with larger financial institutions that have a
commercial banking arm and thus access to stable and insured deposits and to true LOLR Fed support. That process of unraveling
of independent broker dealers started with Bear Stearns; now it is moved to Lehman; tomorrow Merrill Lynch will be on line;
and Morgan Stanley and Goldman Sachs will be next. No one of them can and will survive as independent entities. So, the Fed
and Treasury should advise them all to start finding a large international partner (international as almost no domestic partner
is now sound to take them over) and merge with such partner before we get another Bear or Lehman disaster.
by step, ad hoc and non-holistic approach of Fed and Treasury to crisis management has been a failure so far as plugging and
filling one hole at the time is useless when the entire system of levies is collapsing in the perfect financial storm of the
century. A much more radical, holistic and systemic approach to crisis management is now necessary.
What we are facing now if the beginning of the unraveling and collapse of the entire shadow financial system, a system
of institutions (broker dealers, hedge funds, private equity funds, SIVs, conduits, etc.) that look like banks (as they borrow
short, are highly leveraged and lend and invest long and in illiquid ways) and thus are highly vulnerable to bank like runs;
but unlike banks they are not properly regulated and supervised, they don't have access to deposit insurance and don't have
access to the lender of last resort support of the central bank (with now only a small group of them having access to the
limited and conditional and thus fragile support of the Fed). So no wonder that this shadow banking system is now collapsing.
The entire conduits/SIV system has already collapsed with the roll-off of their ABCP financing; next is the collapse of
the broker dealers (Bear, Lehman and soon enough the other ones) that rely mostly on unstable overnight repos and other very
short term funding for their financing; next will be hundreds of poorly managed hedge funds that will face a tsunami of redemptions;
and finally runs on money market funds that are not supported by a large financial institutions or other smaller member of
the shadow banking system as well as highly leveraged and distressed private equity funds cannot be ruled out either.
is indeed the most severe financial crisis since the Great Depression and occurring at a time when the US
is falling in a now severe consumer led recession. The vicious interaction between a systemic financial and banking crisis
and a severe economic contraction will get much worse before there is any bottom to it. We are only in the third inning of
a nine innings economic and financial crisis. And the only light at the end of the tunnel is the one of the incoming train
best account of the Federal Reserve (http://www.freedocumentaries.org/film.php?id=214). One cannot understand U.S. politics, U.S. foreign
policy, or the world-wide economic crisis unless one understands the role of the Federal Reserve Bank and its role in the
financialization phenomena. The same sort of national-banking relationships as
in our country also exists in Japan and most of Europe.
A democracy exists whenever those who are free and poor are in sovereign
control of the government; an oligarchy when the control lies in the hands of the rich and better born.”—Aristotle
“All for ourselves, and nothing for anybody else,” Adam Smith called this the vile maximum of the
masters of mankind. Neoliberals call it, “trickle-down
John F. Kennedy issued Executive Order 11110 which would have removed the power of money creation from all US private
banks, including the privately-owned Federal Reserve, and invested that power in the US Government. Unfortunately, Kennedy
died suddenly a few weeks later and his plans died with him.
The Problems of Debt
In the USA 100% of the money supply is created by the private banks.
In Britain the figure is over 97%. In the rest of the
world, the figure is estimated to be over 95%. All this money is created as a debt. It is created when people borrow money,
as banks do not lend existing money; they just create new money out of thin air to lend.
Money created as a debt by the banks bears a charge of interest. This increases the amount of money that the economy
owes by an amount greater than the amount in existence. This means that the economy is a saddled with a debt that can never
be paid off, merely passed around like a game of Pass-the-Parcel in a Belfast pub. It
is like a game of musical chairs, where someone has to lose out.
Money does not have to be based on debt, nor indeed does it have to be based on precious metals. Real wealth is the
goods and services that people create for each other. Money is merely a means of exchange. It could be created by HM Treasury
and spent on providing public services, saving us all a modicum of taxation, and then the economy would not have to be saddled
with large debts.
Executive Order 11110 issued by John F. Kennedy on June 4th 1963,
This executive order allows the U.S. Secretary of the Treasury to issue $4.29 billion in silver certificates ($2 and $5 Notes) against silver bullion based on authority delegated by the President to the Secretary under the Thomas Amendment
to the Agricultural Adjustment Act.
Silver certificates were printed without
interest. The Order was for the Treasury to issue silver certificates against all silver held by the government which did
not already have certificates against it. The Order was needed due to the passage of Public Law 88-36 which repealed the Silver
Purchase Act and other related monetary measures. One result was that after the repeals, only the President could issue new
silver certificates. The Federal Reserve System could replace the certificates, but only in larger denominations. The thrust of the Order returned the authority to issue new silver certificates (and specify
denominations) back to the U.S. Treasury.
This theory was further explored by U.S.
Marine sniper and veteran police officer Craig Roberts in the 1994 book, Kill Zone. Roberts theorized that the Executive Order was the beginning of a plan by Kennedy whose ultimate goal was to permanently
do away with the United States Federal Reserve, and that Kennedy was murdered by a cabal of international bankers determined
to foil this plan. [jk finds this the most plausible of a dozen theories. Kennedy had expressed extreme frustration of the Bay of Pigs
failure and other issues with the CIA. But
it is hard to believe that the CIA would on its own, for to protect its power structure,
kill the President.]
This executive order allowed for the Federal Reserve System to distribute and exchange
currency at lower denominations that met the growing economic need. The authoritative basis for the Order was substantially
nullified in 1982 with the passage of Public Law 97-258. The Order was never directly reversed, but in 1987, Executive Order
12608 [by Ronald Reagan] revoked the section that added by Executive Order 11110, essentially nullifying it.
Kennedy was killed by more than one shooter, and from 2 directions.
See Wikipedia Kennedy assassination conspiracy theories.
1) Former U.S. Marine sniper Craig Roberts and Gunnery Sergeant Carlos Hathcock, who was the senior instructor for the U.S. Marine Corps Sniper Instructor School at
Marine Corps Base Quantico in Quantico, Virginia, both said it could not be done as described by the FBI investigators. “Let
me tell you what we did at Quantico,” Hathcock said. “We reconstructed
the whole thing: the angle, the range, the moving target, the time limit, the obstacles, everything. I don’t know how
many times we tried it, but we couldn’t duplicate what the Warren Commission said Oswald did. Now if I can’t do
it, how in the world could a guy who was a non-qual on the rifle range and later only qualified 'marksman' do it?”
2) Robert McClelland, a physician in the
emergency room who observed the head wound, testified that the back right part of the head was blown out with posterior cerebral tissue and some of the cerebellar tissue was missing. The size of the back head wound, according to his description,
indicated it was an exit wound, and that a second shooter from the front delivered the fatal head shot.
3) Kennedy's death certificate located
the bullet at the third thoracic vertebra — which is too low to have exited his throat. Moreover, the bullet was traveling downward, since the shooter was by a sixth floor window. The autopsy cover sheet
had a diagram of a body showing this same low placement at the third thoracic vertebra. The hole in back of Kennedy's shirt
and jacket are also claimed to support a wound too low to be consistent with the Single Bullet Theory.
These three facts are sufficient to prove that the Warren commission was a high-level cover-up
Teddy Roosevelt's advice that, "We must drive the special interests out of politics.
The citizens of the United States must effectively control the mighty commercial forces which they have themselves called
into being. There can be no effective control of corporations while their political activity remains."