FedUpUSA

Archive for December 7th, 2009

I have written hundreds of articles documenting that unregulated, speculative derivatives (especially credit default swaps) are a primary cause of the economic crisis.

And I have pointed out that (1) the giant banks will make a killing on carbon trading, (2) while the leading scientist
crusading against global warming says it won’t work, and (3) there is a
very high probability of massive fraud and insider trading in the
carbon trading markets.

Now, Bloomberg notes that the carbon trading scheme will be centered around derivatives:

The
banks are preparing to do with carbon what they’ve done before: design
and market derivatives contracts that will help client companies hedge
their price risk over the long term. They’re also ready to sell
carbon-related financial products to outside investors.

 

[Blythe]
Masters says banks must be allowed to lead the way if a mandatory
carbon-trading system is going to help save the planet at the lowest
possible cost. And derivatives related to carbon must be part of the
mix, she says. Derivatives are securities whose value is derived from
the value of an underlying commodity — in this case, CO2 and other
greenhouse gases…

 

 

Who is Blythe Masters?

She is the JP Morgan employee who invented credit
default swaps, and is now heading JPM’s carbon trading efforts. As
Bloomberg notes (this and all remaining quotes are from the
above-linked Bloomberg article):

Masters, 40, oversees the New York bank’s environmental businesses as the firm’s global head of commodities…

 

As
a young London banker in the early 1990s, Masters was part of
JPMorgan’s team developing ideas for transferring risk to third
parties. She went on to manage credit risk for JPMorgan’s investment
bank.

Among the credit derivatives that grew from the bank’s early efforts was the credit-default swap.

Some in congress are fighting against carbon derivatives:

“People
are going to be cutting up carbon futures, and we’ll be in trouble,”
says Maria Cantwell, a Democratic senator from Washington state. “You
can’t stay ahead of the next tool they’re going to create.”

 

Cantwell,
51, proposed in November that U.S. state governments be given the right
to ban unregulated financial products. “The derivatives market has done
so much damage to our economy and is nothing more than a
very-high-stakes casino — except that casinos have to abide by
regulations,” she wrote in a press release…

However, Congress may cave in to industry pressure to let carbon derivatives trade over-the-counter:

The
House cap-and-trade bill bans OTC derivatives, requiring that all
carbon trading be done on exchanges…The bankers say such a ban would
be a mistake…The banks and companies may get their way on carbon
derivatives in separate legislation now being worked out in Congress…

Financial experts are also opposed to cap and trade:

Even
George Soros, the billionaire hedge fund operator, says money managers
would find ways to manipulate cap-and-trade markets. “The system can be
gamed,” Soros, 79, remarked at a London School of Economics seminar in
July. “That’s why financial types like me like it — because there are
financial opportunities”…

 

Hedge fund manager Michael Masters,
founder of Masters Capital Management LLC, based in St. Croix, U.S.
Virgin Islands [and unrelated to Blythe Masters] says speculators will
end up controlling U.S. carbon prices, and their participation could
trigger the same type of boom-and-bust cycles that have buffeted other
commodities…

 

The hedge fund manager says that banks will
attempt to inflate the carbon market by recruiting investors from hedge
funds and pension funds.

 

“Wall Street is going to
sell it as an investment product to people that have nothing to do with
carbon,” he says. “Then suddenly investment managers are dominating the
asset class, and nothing is related to actual supply and demand. We
have seen this movie before.”

Indeed, as I have previously pointed out, many environmentalists are opposed to cap and trade as well. For example:

Michelle Chan, a senior policy analyst in San Francisco for Friends of the Earth, isn’t convinced.

 

“Should
we really create a new $2 trillion market when we haven’t yet finished
the job of revamping and testing new financial regulation?” she asks.
Chan says that, given their recent history, the banks’ ability to turn
climate change into a new commodities market should be curbed…

 

“What
we have just been woken up to in the credit crisis — to a jarring and
shocking degree — is what happens in the real world,” she says…

 

Friends
of the Earth’s Chan is working hard to prevent the banks from adding
carbon to their repertoire. She titled a March FOE report “Subprime
Carbon?” In testimony on Capitol Hill, she warned, “Wall Street won’t
just be brokering in plain carbon derivatives — they’ll get creative.”

Yes,
they’ll get creative, and we have seen this movie before …an
inadequately-regulated carbon derivatives boom will destabilize the
economy and lead to another crash.

In what is the start of the biggest uphill battle in D.C., arguably even bigger than deposing the printing press leprechaun, five democrats are proposing an amendment to reinstate Glass-Steagal, whose repeal, through the Larry Summers orchestrated Gramm-Leach-Bliley Act, in 1999 set the economy on the collision course that culminated with the implosion of every single Goldman Sachs FICC competitor in 2008. The five Democrats who have undertaken the sisyphean task of taking on both Wall Street and their direct boss, are Maurice Hinchey of New York, John
Conyers of Michigan, Peter DeFazio of Oregon, Jay Inslee of Washington,
and John Tierney of Massachusetts.

If adopted, the measure would give banks one year to choose between
being commercial banks or investment banks. The nation’s biggest –
those now commonly referred to as “too big to fail” — would be broken
up. The Obama administration opposes the measure.

Obama, presumably a Democrat, continues to persist in endorsing each and every Republican legacy when it comes to Wall Street’s landed interests (and risk “management” practices). Of course, the last thing the administration needs is for the populace to comprehend the chameleonic nature of the administration’s action.

More from HuffPo:

The act was repealed in 1999 at the urging of, among others, Larry
Summers, now President Barack Obama’s chief economic adviser.

The five congressman all voted against the repeal then — and now they want it back.

Former Federal Reserve Chairman Paul Volcker is one of a number of
financial luminaries calling for at least a partial return to
Glass-Steagall. The Wall Street Journal’s
editorial page also endorsed the concept in a recent editorial as a way
to “reduce moral hazard” and “limit certain kinds of risk-taking by
institutions that hold taxpayer-insured deposits.”

The law’s repeal ushered in an era marked by big banks getting even
bigger. The country’s four largest — Bank of America, JPMorgan Chase,
Citigroup and Wells Fargo – now control more than half of the nation’s
mortgages, two-thirds of credit cards and two-fifths of all bank
deposits.

And because their deposits are taxpayer-insured, there’s a growing
concern that they will feel overly confident about making risky bets
through their investment arms because they know that should they suffer
huge losses, taxpayers will ultimately be there to bail them out.

The five Democrats face big obstacles, including their own leadership and the Obama administration.

At this point the whole systemic regulation debate is getting glaringly amusing. At the core of every conflict are proposed reforms that are so obvious from a risk mitigation debate: audited Fed, split up banks which are now bigger than ever before, propping a bankrupt FDIC, which in turn is backing up bankrupt institutions, and a bankrupt country which is trying to fool the world into a game of M.A.D. knowing full well if the US taxpayer goes down directly or indirectly, the world, and the proverbial flood, follow after. And the only sensible reforms are those getting the biggest push back from Obama, and of course, Wall Street. How these two seemingly traditional opponents have ended up on the same side of the page is testament enough to the cataclysmic legacy of Bernanke and Summers. Of course, nothing will be done about anything, in tried and true American fashion, until it is too late, and Main Street is left sorting through the rubble of Goldman’s new glass-plated headquarters, even as all inhabitants have long-ago departed the country and left the U.S. with a few quadrillion in I.O.U.’s. At this juncture the best option before politicians is to simply delay for one year until mid-term elections provoke some vestige of sensibility in the ruling class.

From Diana Olick at CNBC: Bank of America: 2/3 of Borrowers May Lose Mods (ht montas ankle)

[Jack Schakett, credit loss mitigation strategies executive at B of A.] told me that of the 65 thousand trial modifications set to expire Dec. 31st with B of A, a full two thirds of the borrowers, while current on their payments, have not submitted the full documentation required to turn a trial mod permanent under the HAMP guidelines.

“We don’t really know the major reason why the customers are not returning the documentation,” Schakett claims.

Borrowers are complaining that the banks are losing documentation and that they have to submit it multiple times. Ms. Olick also suggests the possibility that some borrowers can’t document their income.

BofA’s Mr. Schakett said it was too soon to know why the documentation is incomplete, but this suggests that the number of permanent modifications announced this week will be very low (in the 10s of thousands).

“If all human activity were to disappear tomorrow, the atmosphere wouldn’t even notice…”

Actually no, Obama won’t regulate oceans and forrests. Instead, he will try to chop a part of the 3% of CO2 production that is said to be produced by human activity (and absorbed by vegetation by the way). It is a scientific fact that all known greenhouse gases comprise only about 2% of our atmosphere (the majority of our atmosphere is oxygen and nitrogen). Out of all the greenhouse gases, water vapor is more than 90% of that 2%, while CO2 is is only about 3.6% of that. Out of all the CO2, 96% is produced naturally (oceans, forrests, etc), while only 3.4% is man-made. So mankind is responsible for only 3.4% of CO2, which is only 3.6% of greenhouse gases, which are only 3% of our atmosphere. So 3.4% of 3.6% of 2% is… well – not much. (.002% of CO2 and 0.28% overall)

Just so you know what a small percentage of our atmosphere is comprised of CO2, the compound is measured in units of parts per million! So if you gather 1 million people and pick out 385 of them, you have jack squat of the whole, and that jack squat represents the CO2 proportion.

Now keep in mind that detailed CO2 records have only been kept since — wait for it — 1999! All of 10 years! Such was admitted even by the state-run Obama AP (AP: The Earth Is Doomed Because CO2 Increased Greenhouse Gasses By 0.02% Or Something). Any small increases thus must be questioned on a much larger temporal scale where no detailed measurements exist and the data must be reconstructed indirectly. The AP in that article was in a tizzy because of an apparent increase of 2 parts per million! As a scientist, my first question would be one of accuracy. For one thing, every measurement has uncertainty. For instance, lets say you weight around 385 pounds and step on ascale that reads 385.2 lbs, then step on another scale. What would you guess the other scale would read. Very likely, it won’t be 385.2. It might be 384 or 386.1. Fact is, each scientific measurement has an uncertainty to it. Most scales are accurate to +-2 lbs. So if you step on it and it says 200, you could really weight 202 or 198 or somewhere in between. The AP, of course, doesn’t say a darned thing about the uncertainty, even though they claim a significant rise of just 2 out of 385 parts per million! Are such devices that accurate? And is the CO2 concentration uniform over the entire globe. And if not, how many measurements around the planet were taken to get an average? With those considerations, their number means nothing. Yet, they are being used in part to form damaging economic policy.

Be that as it may, Obama is set to unilaterally list CO2 as a danger to public health. Even though human influence is negligible in regards to atmospheric CO2. From teh Washington Post via memeorandum: Obama administration will formally declare danger of carbon emissions

The Obama administration will formally declare Monday that carbon dioxide and other greenhouse gas emissions pose a danger to the public’s health and welfare, a move that lays the groundwork for an economy-wide carbon cap even if Congress fails to enact climate legislation, sources familiar with the process said.

CO2 doesn’t pose a danger to the public’s health and welfare, it is rather government that does.

The move, which Environmental Protection Agency administrator Lisa P. Jackson will announce at an afternoon press conference, comes as the largest climate change conference in history gets underway in Copenhagen. It will finalize an initial “endangerment finding” by the government in April.

The endangerment finding stems from a 2007 Supreme Court decision in which the court ordered the EPA to determine whether greenhouse gases qualify as a pollutant under the Clean Air Act. It could trigger a series of federal regulations affecting polluters, from vehicles to coal-fired power plants.

And how may I ask will the government regulate nature that is responsible for 98% of greenhouse gasses and almost 97% of CO2???

“An endangerment finding from the EPA could result in a top-down command-and-control regime that will choke off growth by adding new mandates to virtually every major construction and renovation project,” Thomas Donohue, president and CEO of the U.S. Chamber of Commerce, said in a statement. “The devil will be in the details, and we look forward to working with the government to ensure we don’t stifle our economic recovery.”

“This action poses a threat to every American family and business if it leads to regulation of greenhouse gases under the Clean Air Act. Such regulation would be intrusive, inefficient, and excessively costly,” said the American Petroleum Institute president Jack Gerard in a statement. …

Not to mention that it is based on garbage substituting for science. This whole endeavor is predicated on on a phenomenon, man-made global warming, that DOESN’T EXIST! CRU email leaks? Collusion? Scientific fraud? Hide the decline? Hello???

In the wake of last Friday’s miracle job performance with unemployment dropping by .2% (see Jobs Contract 23rd Straight Month; Unemployment Rate Drop to 10.0%) let’s take a look at unemployment scenarios offered by the Fed to see how realistic they are.

Dave Rosenberg mentioned those scenarios in Breakfast with Dave on November 30, 2009.

Range OF Macro Outcomes is Extremely Wide

All you need to do is go to the Federal Open Market Committee (FOMC) minutes and see the wide divergence of views over the macro outlook, and this is coming from 17 of the nation’s top policymakers who also ostensibly keep in touch with each other. The range on 2010 GDP estimates is: 2.0% to 4.0%; for 2010, 2.5% to 4.6% for 2011, and 2.8% to 5.0% for 2012. These two percentage points are huge for a $14 trillion economy — we’re talking about differences that amount to $300 billion! The range on the unemployment rate forecast for 2010 is 8.6% to 10.2%; for 2011 it is 7.2% to 8.7%; and for 2012, the band is 6.1% to 7.6%. These ranges are massive. And, for the inflation rate, the range for 2010 is 1.1% to

So consider that at the Fed, there is one official that sees the potential for a return to full employment by 2012; and another that sees the prospect of deflation. These views are worlds apart and attest to our assertion that the band around any particular forecast in a post-bubble credit collapse is huge.

Fed’s 2012 Forecast

Let’s start with a look at the Fed’s 2012 forecast where the band is 6.1% to 7.6%.

Using Bernanke’s estimate that it takes 100,000 jobs a month to keep up with birthrate and demographics, the economy will have to create 260,000 jobs every month in 2010, 2011, and 2012 to hit an unemployment rate of 6.17% by the end of 2012.

To get to 7.6% by the end of 2012, the economy would have to average 200,000 jobs a month for the next three years.

2000-2009 Perspective

• At the height of the internet bubble with a nonsensical Y2K scare on top of that, the economy managed to gain 264,000 jobs a month.
• At the height of the housing bubble in 2005, the economy added 212,000 jobs a month.
• At the height of the commercial real estate bubble with massive store expansion, the economy added somewhere between 96,000 and 178,000 jobs per month depending on where you mark the peak.

Neither the housing boom, nor the commercial real estate boom is coming back. Nor is there going to be another internet revolution. If anything, outsourcing of internet jobs to Asia is likely to remain intense.

No Genuine Driver For Jobs.

• The retail sector has massive overcapacity. We do not need more Home Depots, WalMarts, Lowes, Sears, Pizza Huts, Targets, Safeways, etc etc.
• Commercial real estate is flooded with vacant offices and plagued by falling rents.
• Housing inventory is enormous.
• Boomers will be looking to downsize their lifestyles.
• There is not going to be another internet boom.

It is well beyond absurd to expect the economy to average even 200,000 jobs a month, let alone 260,000 jobs a month when neither the housing boom nor the commercial real estate boom could manage those numbers over a sustained period.

In short, the Fed’s unemployment projections must be for some other planet or for some other alternate universe somewhere because they do not reflect reality here.

My Baseline Scenario

That is what my baseline scenario looks like (revised today to reflect November job numbers).

Extremely Generous Assumptions

• I am assuming there will be job gains (on average) in 2010 even though history suggests otherwise.
• I have the number of jobs gained per month increasing to 170,000 jobs per month for 2013 even though I think 150,000 is a more realistic maximum target for an entire year.
• I have +150,000 jobs for 4 consecutive years through 2016.
• I have the Labor Pool decreasing dramatically as a result of boomer demographics starting in 2014.This acts to lower the unemployment rate.
• I have the participation rate falling every year, accelerating rapidly starting in 2014 all the way through 2020.

I used a labor pool increase of 120,000 a month rather than Bernanke’s 100,000 a month to accommodate re-entry of marginally attached workers into the job force (people start looking for jobs because they think they may be available).

Moreover, I assume there will not be a double dip recession or any recession of any kind for a decade.

Note the first box on the chart contains a one month projections (for December 2009), while all the rest of the numbers are for full years.

Download The Spreadsheet

Click here for a downloadable spreadsheet where you can enter your own assumptions and create a graph for your assumptions.

For details on how to use the spreadsheet and more details on my assumptions please see Mish Unemployment Projections Through 2020.

For John Mauldin’s assumptions please see Mapping Unemployment – You Make The Call – Downloadable Spreadsheet

Mike “Mish” Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Mike “Mish” Shedlock is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction.
Visit http://www.sitkapacific.com/account_management.html  to learn more about wealth management and capital preservation strategies of Sitka Pacific.

Ben Bernanke spewed forth:

It is a pleasure to speak once again before the Economic Club of Washington. Having faced the most serious financial crisis and the worst recession since the Great Depression, our economy has made important progress during the past year. Although the economic stress faced by many families and businesses remains intense, with job openings scarce and credit still hard to come by, the financial system and the economy have moved back from the brink of collapse, economic growth has returned, and the signs of recovery have become more widespread.

We printed up $12 trillion in “freebie” credit, manipulated the MBS market (and in doing so have fomented and created an accounting fraud for all of those entities that hold said paper) and have purchased alleged “assets” at vastly over their actual value on purpose.  This has allowed financial institutions to claim to be solvent when in fact they are bankrupt several times over.

Understandably, in a situation as complicated as this one, people have many questions about the current situation and the path forward. Accordingly, taking inspiration from the ubiquitous frequently-asked-questions lists, or FAQs, on Internet websites, in my remarks today I’d like to address four important FAQs about the economy and the Federal Reserve. They are:

1. Where is the economy headed?
2. What has the Federal Reserve been doing to support the economy and the financial system?
3. Will the Federal Reserve’s actions lead to higher inflation down the road?
4. How can we avoid a similar crisis in the future?

Where Is the Economy Headed?
First, to understand where the economy might be headed, we should take a look at where it has been recently.¹ A year ago, our economy–indeed, all of the world’s major economies–were reeling from the effects of a devastating financial crisis.

We created this mess through malfeasance and misfeasance.  In combination with other central banks around the world we pumped into the economy tremendous amounts of liquidity that should not have existed.  This in turn created tremendous instability and asset bubbles throughout the economy, most particularly in housing.

Policymakers here and abroad had undertaken an extraordinary series of actions aimed at stabilizing the financial system and cushioning the economic impact of the crisis.

We cut off our Pinocchio nose.  Repeatedly.  The damn thing keeps wedging in the door when I try to go take a leak!

Critically, these policy interventions succeeded in averting a global financial meltdown that could have plunged the world into a second Great Depression. But although a global economic cataclysm was avoided, the crisis nevertheless had widespread and severe economic consequences, including deep recessions in most of the world’s major economies. In the United States, the unemployment rate, which was as low as 4.4 percent in March 2007, currently stands at 10 percent.

We created it on purpose and through willful neglect, you ate it.  Aren’t we special?

Recently we have seen some pickup in economic activity, reflecting, in part, the waning of some forces that had been restraining the economy during the preceding several quarters. The collapse of final demand that accelerated in the latter part of 2008 left many firms with excessive inventories of unsold goods, which in turn led them to cut production and employment aggressively. This phenomenon was especially evident in the motor vehicle industry, where automakers, a number of whom were facing severe financial pressures, temporarily suspended production at many plants. By the middle of this year, however, inventories had been sufficiently reduced to encourage firms in a wide range of industries to begin increasing output again, contributing to the recent upturn in the nation’s gross domestic product (GDP).² 

That which you can’t buy the government will simply sell more Treasuries to fund the purchase of, handing out money to special favored groups – especially labor unions.  We won’t talk about them billing you for the cost (snicker)

Although the working down of inventories has encouraged production, a sustainable recovery requires renewed growth in final sales. It is encouraging that we have begun to see some evidence of stronger demand for homes and consumer goods and services. In the housing sector, sales of new and existing homes have moved up appreciably over the course of this year, and prices have firmed a bit. Meanwhile, the inventory of unsold new homes has been shrinking. Reflecting these developments, homebuilders have somewhat increased the rate of new construction–a marked change from the steep declines that have characterized the past few years.

Again, the government is borrowing ’cause you’re broke and can’t.  Heh, $8,000 per house, where many first-time buyers are in fact cats, dogs, and 3 year old children, we believe this could be tremendously stimulative.

(To your prostate, when you see how much this is all going to cost your children and grandchildren.)

Consumer spending also has been rising since midyear. Part of this increase reflected a temporary surge in auto purchases that resulted from the “cash for clunkers” program, but spending in categories other than motor vehicles has increased as well. In the business sector, outlays for new equipment and software are showing tentative signs of stabilizing, and improving economic conditions abroad have buoyed the demand for U.S. exports.

This is why port traffic and rail traffic, especially intermodal (that which moves things you buy) is down annualized of course.  Oh, and so are sales tax receipts.

Though we have begun to see some improvement in economic activity, we still have some way to go before we can be assured that the recovery will be self-sustaining. Also at issue is whether the recovery will be strong enough to create the large number of jobs that will be needed to materially bring down the unemployment rate. Economic forecasts are subject to great uncertainty, but my best guess at this point is that we will continue to see modest economic growth next year–sufficient to bring down the unemployment rate, but at a pace slower than we would like.

The jobs all went over to China.  Say “hi” to $2/day wages.  We’ll get to that one in a minute.

A number of factors support the view that the recovery will continue next year. Importantly, financial conditions continue to improve: Corporations are having relatively little difficulty raising funds in the bond and stock markets, stock prices and other asset values have recovered significantly from their lows, and a variety of indicators suggest that fears of systemic collapse have receded substantially. Monetary and fiscal policies are supportive. And I have already mentioned what appear to be improving conditions in housing, consumer expenditure, business investment, and global economic activity.

Banks can borrow at 0%, but you borrow at 29.9%.  When I said “businesses” in regard to credit, I was speaking specifically of Government Sachs.  Everyone else: Bend over.

On the other hand, the economy confronts some formidable headwinds that seem likely to keep the pace of expansion moderate. Despite the general improvement in financial conditions, credit remains tight for many borrowers, particularly bank-dependent borrowers such as households and small businesses. And the job market, though no longer contracting at the pace we saw in 2008 and earlier this year, remains weak. Household spending is unlikely to grow rapidly when people remain worried about job security and have limited access to credit.

No loan for you!

Inflation is affected by a number of crosscurrents. High rates of resource slack are contributing to a slowing in underlying wage and price trends, and longer-run inflation expectations are stable. Commodities prices have risen lately, likely reflecting the pickup in global economic activity and the depreciation of the dollar. Although we will continue to monitor inflation closely, on net it appears likely to remain subdued for some time.

You know that $2/day salary?  Yes, well, the good news is that your salary will remain at $20/hour.

The bad news is that we’re going to depreciate the dollar by 100:1 just as they did in North Korea. 

And no, we won’t tell you in advance before we do it.

What Has the Federal Reserve Been Doing to Support the Economy and the Financial System?

The discussion of where the economy is headed brings us to our second question: What has the Federal Reserve been doing to support the economy and the financial system?

I have this sock in my office…..

The Federal Reserve has been, and still is, doing a great deal to foster financial stability and to spur recovery in jobs and economic activity.³ Notably, we began the process of easing monetary policy in September 2007, shortly after the crisis began. By mid-December 2008, our target rate was effectively as low as it could go–within a range of 0 to 1/4 percent, compared with 5-1/4 percent before the crisis–and we have maintained that very low rate for the past year.

It is very important to make sure that the big banks can run carry trades and other non-productive means of siphoning off what little money remains for themselves.

Our efforts to support the economy have gone well beyond conventional monetary policy, however. I have already alluded to the Federal Reserve’s close cooperation with the Treasury, the Federal Deposit Insurance Corporation (FDIC), and other domestic and foreign authorities in a concerted and ultimately successful effort to stabilize the global banking system, which verged on collapse following the extraordinary events of September and October 2008. We subsequently took strong measures, independently or in conjunction with other agencies, to help normalize key financial institutions and credit markets disrupted by the crisis. Among these were the money market mutual fund industry, in which large numbers of American households, businesses, and municipalities make short-term investments; and the commercial paper market, which many firms tap to finance their day-to-day operations. We also established and subsequently expanded special arrangements with other central banks to provide dollars to global funding markets, as we found that disruptions in dollar-based markets abroad were spilling over to our own markets.

Distorting markets and enabling fantasy accounting is very important to market confidence.  Never mind that pesky thing called “the law”; we’ve been ignoring it for so long we don’t even bother pretending any more.

More recently, we have played an important part in helping to re-start the markets for asset-backed securities that finance auto loans, credit card loans, small business loans, student loans, loans to finance commercial real estate, and other types of credit. By working to revive these markets, which allow banks to tap the broader securities markets to finance their lending, we have helped banks make room on their balance sheets for new credit to households and businesses. In addition, we have supported the overall functioning of private credit markets and helped to lower interest rates on bonds, mortgages, and other loans by purchasing unprecedented volumes of mortgage-related securities and Treasury debt.

Again: accounting fictions (that is, accounting fraud and lies) are great tools.  We use them liberally.  Their impact on you as a consumer is also applied ”liberally” – dry, raw and hard.

In all of these efforts, our objective has not been to support specific financial institutions or markets for their own sake. Rather, recognizing that a healthy economy requires well-functioning financial markets, we have moved always with the single aim of promoting economic recovery and economic opportunity. In that respect, our means and goals have been fully consistent with the traditional functions of a central bank and with the mandate given to the Federal Reserve by the Congress to promote price stability and maximum employment.

Yes, we have done a great job over the last 20 years, as evidenced by this chart showing that we have held credit growth to that which can be funded by GDP expansion.

Oh wait – it doesn’t show that?  Got a black sharpie marker somewhere?  Let me go diddle our Z1 and fix that – hang on a second….

In addition to easing monetary policy and acting to stabilize financial markets, we have worked in our role as a bank supervisor to encourage bank lending. In November 2008 we joined with other banking regulators to urge banks to continue lending to creditworthy borrowers–to the benefit of both the economy and the banks–and we have recently provided guidelines to banks for working constructively with troubled commercial real estate loans.⁴ This spring, we led a coordinated, comprehensive examination of 19 of the country’s largest banks, an exercise formally known as the Supervisory Capital Assessment Program, or SCAP, but more informally as the “stress test.” This assessment was designed to ensure that these banks, which collectively hold about two-thirds of the assets of the banking system, would remain well capitalized and able to lend to creditworthy borrowers even if economic conditions turned out to be even worse than expected. The release of the assessment results in May provided sorely needed clarity about the banks’ condition and marked a turning point in the restoration of confidence in our banking system.⁵ In the months since then, and with the strong encouragement of the federal banking supervisors, many of these largest institutions have raised billions of dollars in new capital, improving their ability to withstand possible future losses and to extend loans as demand for credit recovers. Meanwhile, we have also continued our efforts to ensure fair treatment for the customers of financial firms. During the past year and a half, we have comprehensively overhauled the regulations protecting mortgage borrowers, credit card holders, and users of overdraft protection plans, among others.

29.9% is a great interest rate.  Really.  So are layered bounce charges when your bank claims you have money in your account that hasn’t cleared yet, thereby encouraging you to overdraw two, three, four, or ten times in an afternoon buying a Starbucks coffee and a pair of pants.

Paying $41.25 for a cup of coffee is tremendously stimulative to the economy, don’t you think?

In navigating through the crisis, the Federal Reserve has been greatly aided by the regional structure established by the Congress when it created the Federal Reserve in 1913. The more than 270 business people, bankers, nonprofit executives, academics, and community, agricultural, and labor leaders who serve on the boards of the 12 Reserve Banks and their 24 Branches provide valuable insights into current economic and financial conditions that statistics alone cannot. Thus, the structure of the Federal Reserve ensures that our policymaking is informed not just by a Washington perspective, or a Wall Street perspective, but also a Main Street perspective. Indeed, our Reserve Banks and Branches have deep roots in the nation’s communities and do much good work there. They have, to give just a couple of examples, assisted organizations specializing in foreclosure mitigation and worked with nonprofit groups to help stabilize neighborhoods hit by high rates of foreclosure. They (as well as the Board) are also much involved in financial and economic education, helping people to make better financial decisions and to better understand how the economy works.

The Creature from Jekyll Island is alive and well – and like a vampire squid it’s damn hungry. 

For blood.

Yours.

All told, the Federal Reserve’s actions–in combination with those of other policymakers here and abroad–have helped restore financial stability and pull the economy back from the brink. Because of our programs, auto buyers have obtained loans they would not have otherwise obtained, college students are financing their educations through credit they otherwise likely would not have received, and home buyers have secured mortgages on more affordable and sustainable terms than they would have otherwise. These improvements in credit conditions in turn are supporting a broader economic recovery.

We encouraged people to trade in perfectly good cars with no loan for one with lots of debt.  These will all be repo’d next year, but heh, that doesn’t count, right? 

The bankruptcy line forms right over there – bring your first-born, that’s the current charge for having your debt discharged.  I love leg meat!

Will the Federal Reserve’s Actions Lead to Higher Inflation Down the Road?
The scope and scale of our actions, however, while necessary and helpful in my view, have left some uneasy. In all, our asset purchases and lending have caused the Federal Reserve’s balance sheet to more than double, from less than $900 billion before the crisis began to about $2.2 trillion today. Unprecedented balance sheet expansion and near-zero overnight interest rates raise our third frequently asked question: Will the Federal Reserve’s actions to combat the crisis lead to higher inflation down the road?

The answer is no; the Federal Reserve is committed to keeping inflation low and will be able to do so. In the near term, elevated unemployment and stable inflation expectations should keep inflation subdued, and indeed, inflation could move lower from here. However, as the recovery strengthens, the time will come when it is appropriate to begin withdrawing the unprecedented monetary stimulus that is helping to support economic activity. For that reason, we have been giving careful thought to our exit strategy. We are confident that we have all the tools necessary to withdraw monetary stimulus in a timely and effective way.⁶ 

This chart does not suggest anything is wrong with our monetary policy or inflation expectations.  Really.

Oh, and when inflation is zero but “could move downward from here”, that is commonly called DEFLATION.  We don’t use that word around The Fed though – nor do we ever use the word DEPRESSION, although that’s what we’re in (and it’s going to get a lot worse!)

Indeed, our balance sheet is already beginning to adjust, because improving financial conditions are leading to substantially reduced use of our lending facilities. The balance sheet will also shrink over time as the mortgage-backed securities and other assets we hold mature or are prepaid. However, even if our balance sheet stays large for a while, we will be able to raise our target short-term interest rate–which is the rate at which banks lend to each other overnight–and thus tighten financial conditions appropriately.

We’re sitting on a metric ton of crap that is worth a lot less than we paid for it, but we’re not going to tell you that.  Remember the accounting lies?  We’re doing it too.

Operationally, an important tool for adjusting the stance of monetary policy will be the authority, granted to us by the Congress last year, to pay banks interest on balances they hold at the Federal Reserve. When the time comes to raise short-term interest rates and thereby tighten policy, we can do so by raising the rate that we offer banks on their balances with us. Banks will be unwilling to make overnight loans to each other at a rate lower than the rate that they can earn risk-free from the Fed, and so the interest rate we pay on banks’ balances will tend to set a floor below our target overnight loan rate and other short-term interest rates.

We can’t tighten policy and we know it.  If we do government interest rates skyrocket and with the government having to roll over $5 trillion in debt this coming year that can and might force interest expense beyond tax revenues.  If it does, well, we get this:

Additional upward pressure on short-term interest rates can be achieved by measures to reduce the supply of funds that banks have available to lend to each other. We have a number of tools to accomplish this. For example, through the use of a short-term funding method known as reverse repurchase agreements, we can act directly to reduce the quantity of reserves held by the banking system. By paying a slightly higher rate of interest, we could induce banks to lock up their balances in longer-term accounts with us, making those balances unavailable for lending in the overnight market. And, if necessary, we always have the option of reducing the size of our balance sheet by selling some of our securities holdings on the open market.

We can’t sell a damn thing and we know it.  That will mark it all to the market and the result will be an instantaneous implosion in the dollar and bond market.  Didn’t you hear me the first time?  Yes, I know my nose is getting longer.  Again.

As always, the most difficult challenge for the Federal Open Market Committee will not be devising the technical means of unwinding monetary stimulus. Rather, it will be the challenge that faces central banks in every economic recovery, which is correctly judging the best time to tighten policy. Because monetary policy affects the economy with a lag, we will need to base our decision on our best forecast of how the economy will develop. As I said a few moments ago, we currently expect inflation to remain subdued for some time. It is also reassuring that longer-term inflation expectations appear stable. Nevertheless, we will keep a close eye on inflation risks and will do whatever is necessary to meet our mandate to foster both price stability and maximum employment.

My head is in the sand too.  Can I borrow your toothbrush?

How Can We Avoid a Similar Crisis in the Future?
As we at the Federal Reserve and others work to build on the progress already made toward securing a sustained economic recovery with price stability, we must also continue to address the weaknesses that led to the current crisis. Thus, our final question this afternoon is: How can we avoid a similar crisis in the future?⁷ 

Although the sources of the crisis were extraordinarily complex and numerous, a fundamental cause was that many financial firms simply did not appreciate the risks they were taking. Their risk-management systems were inadequate and their capital and liquidity buffers insufficient. Unfortunately, neither the firms nor the regulators identified and remedied many of the weaknesses soon enough. Thus, all financial regulators, including the Federal Reserve, must undertake unsparing self-assessments. At the Federal Reserve, we have extensively reviewed our performance and moved to strengthen our oversight of banks. Working cooperatively with other agencies, we are toughening our banking regulations to help constrain excessive risk-taking and enhance the ability of banks to withstand financial stress. For example, we have been among the leaders of international efforts, through organizations such as the Basel Committee on Bank Supervision, to increase the quantities of capital and liquidity that banks must hold. At home, we are implementing standards that require banking organizations to adopt compensation policies that link pay to the institutions’ long-term performance and avoid encouraging excessive risk-taking.

We don’t mind speculation at all, even with your money, so long as you pay for it as a taxpayer.  We cannot allow a bank like Government Sachs to lose money when they screw up however.  Toward this end we make sure we tell them in advance before we do anything, so they’re sure to be on the right side of the trade – and you’re on the wrong side.

I mentioned the SCAP, otherwise known as the stress tests. We are applying the lessons learned in that exercise to reorient our approach to the supervision of large, interconnected banking organizations that are critical to the stability of the financial system. In particular, we are taking a more “macroprudential” approach, one that goes beyond supervisors’ traditional focus on the health of individual institutions and scrutinizes the interrelationships among firms and markets to better anticipate sources of financial contagion. To do that, we are expanding our use of the kind of simultaneous and comparative cross-firm examinations that we used to such good effect in the SCAP. The Federal Reserve’s ability to draw on a range of disciplines–using economists, market experts, accountants, and lawyers, in addition to bank examiners–was essential to the success of the SCAP, and a multidisciplinary approach will be a central feature of our supervision in the future. For example, we are complementing our traditional onsite examinations with enhanced off-site surveillance programs, under which multidisciplinary teams will combine supervisory information, firm-specific data analysis, and market-based indicators to identify problems that may affect one or more banking institutions.

I can make 2 + 2 = 5 if you ask nicely.

Although regulators can do a great deal on their own to improve financial oversight, the Congress also must act to fix gaps and weaknesses in the structure of the regulatory system and, in so doing, address the very serious problem posed by firms perceived as “too big to fail.” No firm, by virtue of its size and complexity, should be permitted to hold the financial system, the economy, or the American taxpayer hostage. To eliminate that possibility, a number of steps are required.

Congress has an audit bill out there that we really don’t like.  We created “too big to fail” and we like it – gimme the button on that financial nuke you proles!  Congress MUST NOT take that back from us!

First, all systemically important financial institutions, not only banks, should be subject to strong and comprehensive supervision on a consolidated, or firmwide, basis. Such institutions should be subject to tougher capital, liquidity, and risk-management requirements than other firms–both to reduce their chance of failing and to remove their incentive to grow simply in order to be perceived as too big to fail. Neither AIG, an insurance company, nor Bear Stearns, an investment firm, was subject to strong consolidated supervision. The Federal Reserve, as the regulator of bank holding companies, already supervises many of the largest and most complex institutions in the world. That experience, together with our broad knowledge of the financial markets, makes us well suited to serve as the consolidated supervisor for systemically important nonbank institutions as well. In addition, our involvement in supervision is critical for ensuring that we have the necessary expertise, information, and authorities to carry out our essential functions of promoting financial stability and making monetary policy.

Of course we won’t mention that we could have prohibited every bank under our supervision from trading in CDS with AIG since they had no money to pay – but we willfully and intentionally allowed them to buy “insurance” from someone with no money to the tune of hundreds of billions of dollars.

We haven’t fixed that either – please don’t tell anyone.

Second, when a systemically important institution does approach failure, government policymakers must have an option other than a bailout or a disorderly, confidence-shattering bankruptcy. The Congress should create a new resolution regime, analogous to the regime currently used by the FDIC for failing banks, that would permit the government to wind down a troubled systemically important firm in a way that protects financial stability but that also imposes losses on shareholders and creditors of the failed firm, without costs to the taxpayer. Imposing losses on creditors of troubled, systemically critical firms would help address the too-big-to-fail problem by restoring market discipline and leveling the playing field for smaller firms, while minimizing the disruptive effects of a failure on the financial system and the economy.

This is why we did that in the case of Bear, Lehman, AIG, WaMu and Wachovia. 

Oh wait – we didn’t even though we could have??   Aw crap you caught me lying again!  Now I need a chainsaw for this nose…..

Third, our regulatory structure requires a better mechanism for monitoring and addressing emerging risks to the financial system as a whole. Because of the size, diversity, and complexity of our financial system, that task may exceed the capacity of any individual agency. The Federal Reserve therefore supports the creation of a systemic oversight council, made up of the principal financial regulators, to identify developments that may pose systemic risks, recommend approaches for dealing with them, and coordinate the responses of its member agencies.

The more people that lie the more convincing it is.

Conclusion
In closing, I will again note that in the fall of last year, the United States, indeed the world, confronted a financial crisis of a magnitude unseen for generations. Concerted actions by the Federal Reserve and other policymakers here and abroad helped avoid the worst outcomes. Nevertheless, the turmoil dealt a severe blow to our economy from which we have only recently begun to recover. The improvement in financial conditions this year and the resumption of growth over the summer offer the hope and expectation of continued recovery in the new year. However, significant headwinds remain, including tight credit conditions and a weak job market.

The jobs are gone but we’ll fix that – really – with a 100:1 currency devaluation. 

The Federal Reserve has been aggressive in its efforts to stabilize our financial system and to support economic activity. At some point, however, we will need to unwind our accommodative policies in order to avoid higher inflation in the future. I am confident we have both the tools and the commitment to make that adjustment when it is needed and in a manner consistent with our mandate to foster employment and price stability.

The more we wave our arms the harder it is to see through them.

In the meantime, financial firms must do a better job of managing the risks of their business, regulators–the Federal Reserve included–must complete a thoroughgoing overhaul of their approach to supervision, and the Congress should move forward in making needed changes to our system of financial regulation to avoid a similar crisis in the future. In particular, we must solve the problem of “too big to fail.”

Psst: We already have – it’s called accounting fraud, currency debasement and lies.

In sum, we have come a long way from the darkest period of the crisis, but we have some distance yet to go. In the midst of some of the toughest days, in October 2008, I said in a speech that I was confident that the American economy, with its great intrinsic vitality, would emerge from that period with renewed vigor.⁸ I remain equally confident today.

I’m confident you won’t bring back the Coinage Act of 1792 – I really don’t like that one.

Please?