FedUpUSA

Archive for January 2nd, 2012

This fool continues to prove that having a Nobel is actually a sign of stupidity rather than intelligence:

In 2011, as in 2010, America was in a technical recovery but continued to suffer from disastrously high unemployment. And through most of 2011, as in 2010, almost all the conversation in Washington was about something else: the allegedly urgent issue of reducing the budget deficit.

Oh, you mean you’ve found a way to repeal the laws of mathematics?  You mean exponential curves really don’t run away from each other in a hyperbolic blowoff in each and every case, and that this outcome isn’t guaranteed by literal middle-school mathematics?

Well I’ll be damned.

Perhaps most obviously, the economic “experts” on whom much of Congress relies have been repeatedly, utterly wrong about the short-run effects of budget deficits. People who get their economic analysis from the likes of the Heritage Foundation have been waiting ever since President Obama took office for budget deficits to send interest rates soaring. Any day now!

And while they’ve been waiting, those rates have dropped to historical lows. You might think that this would make politicians question their choice of experts — that is, you might think that if you didn’t know anything about our postmodern, fact-free politics.

So let’s see if I can put this into stark relief.

There is this general economic principle called “a balance sheet.”  It’s called that because surprise, surprise, it always balances.  For every debit there is a credit, you know.

Now here’s what Krugman says:

First, families have to pay back their debt. Governments don’t — all they need to do is ensure that debt grows more slowly than their tax base. The debt from World War II was never repaid; it just became increasingly irrelevant as the U.S. economy grew, and with it the income subject to taxation.

Oh well, how’s that worked out in point of fact?

Let’s remember the premise, and let’s in fact expand that: So long as your debt grows slower than your improvement in output it’s not a problem. 

This is a postulate.  It is true for a family, it is true for a company, and it is true for a nation.  It is always true because so long as you grow debt slower than you grow production your “coverage” improves no matter how you look at it.  Improving coverage tends to lead to lower rates over time, absent intentional manipulation and fraud, because lenders see that you’re becoming more able over time to pay down your debt.  This induces them to charge you less, all things being equal, as it’s less likely you will default.

Now why were we able to grow output faster than debt for a while after WWII?  That’s pretty simple, actually: We literally bombed into dust the production capacity of virtually the entire civilized world, except for our factories and facilities.  We also managed to kill a hell of a lot of competitors for jobs.  This is not the “broken window” fallacy, which puts forward the (easily demonstrable as false) claim that breaking “things” means more work — it is the axiomatic fact that destruction of productive capacity elsewhere leads you to have the best competitive position for a while until your former competitors can come back online.

But eventually they do come back online and then the game is over. Attempting to act as if that didn’t happen leads to an ugly outcome.

Remember my wee chart?  You know, my favorite one?  Let’s look at how things have been in the economy as a whole over the last 30 years:

Oh darn.  Up until the crash there was not one single three month period where GDP (output) grew faster than outstanding debt did in the economy as a whole.  In other words Krugman’s claim that we can do this today is a outrageously false statement, as he cannot point to one single three month period from 1980 to 2009 where what he claims is “good debt” — by his own definition — actually happened in the economy as a whole.  His “example” cited, WWII, is one that left America as virtually the only industrial nation on the planet through literal carpetbombing of the entire European continent and the dropping of two nuclear bombs in Japan!

You want to know why that feat post-WWII hasn’t happened again since?  Because we have replaced capital with lending.  Capital is the surplus from what you produce.  When you have an excess of capital it is formed into new ventures covered with the fruits of previous labor.  This improves debt coverage as output increases with the new industry but debt does not change — as a consequence output rises but debt does not.  That’s economically positive.

On the other hand when you borrow more than output increases that’s economically negative.  Debt coverage deteriorates and eventually you reach a point where people discern that you’ll never pay them back in good value.  This is why people tend to say that “I went broke slowly, then all at once.”  They did — they were accumulating more and more negative debt coverage right up until lenders concluded they would not pay, at which the roof caved in “all at once.”

Greece anyone?

Second — and this is the point almost nobody seems to get — an over-borrowed family owes money to someone else; U.S. debt is, to a large extent, money we owe to ourselves.

Immaterial.  If you owe debt to yourself you still have to pay, and further the compounding still happens.  The only way to escape this is to “print money”, which sounds like a panacea.  It is not, as I will demonstrate.

Krugman follows with this:

Now, the fact that federal debt isn’t at all like a mortgage on America’s future doesn’t mean that the debt is harmless. Taxes must be levied to pay the interest, and you don’t have to be a right-wing ideologue to concede that taxes impose some cost on the economy, if nothing else by causing a diversion of resources away from productive activities into tax avoidance and evasion.

Ah, but you see there are only three possible ways to pay that interest, right?

1. Increase taxes.  This sounds like a great idea, but it contracts GDP.  Why?  Because GDP is mathematically “C” (Consumption) + “I” (Net private Investment, which includes savings) + “G” (Government Spending) + “x – i” (Net exports).  When you increase taxes you are covering “G” (interest payments by government) with money that the taxed would either put into “C” or “I”.  Therefore GDP must fall by one dollar for every dollar of increased taxation to cover the debt service.  Remember, Krugman’s thesis and the entire premise of his argument is that so long as debt grows slower than does GDP it’s all ok.  But when you increases taxes GDP will go down, ergo you must also decrease the amount of debt.  This means you must decrease “G” as well.  The next year you are thus compelled to increase taxes more, and decrease “G” more.  Eventually you tax literally everything that the people make and they either riot or refuse to work for nothing, at which point the tax base collapses and the government ceases to exist.
2. Spend less so you can cover the interest.  This decreases “G” directly.  GDP decreases and if you pay down no principal then coverage gets worse, since the debt level remains the same but GDP is decreased.  Not so good either as this is a downward spiral — next year you must spend even less to restore the previous coverage, which decreases GDP even more.  Eventually you’re spending all government revenue on interest at which point the government ceases to exist.
3. Print money.  This looks like a “freebie” way out.  It’s not.  Increasing the denominator simply makes each unit of currency worth less.  So you still get a $50,000 a year salary but unfortunately all the things you wish to buy go up in price.  Due to economic inefficiency (all transference of things is inefficient to some degree) the common man sees his purchasing power destroyed by this process.  That is, in REAL terms “C” decreases.  But wait!  This means GDP (in real terms) decreases which means that debt must decrease in real terms too according to Krugman!  Now we’re back to the same spiral downward that inevitably leads the government to cease to exist!

There’s no way out of the box by “increasing spending”, “increasing taxes” or “printing money”; as the chart above shows Krugman’s claims may be correct but his implementation has never worked — not then, not now, not ever and it won’t this time either.  Shifting money from one pocket to another does nothing and increasing the debt load means that more and more of the tax revenues go to interest instead of government spending on programs.

This inevitably leads to either collapse or devaluation and in either case the citizens and government ultimately get screwed.

The good news is that the premise of “devaluation” is out the window because banks don’t like this idea very much.  They’re very uninterested in lending you $500,000 to buy a house and getting back that $500,000, plus another $250,000 in interest over some period of time, but having those repaid funds buy a toaster oven when they get them back!

That, I assure you, is not part of their business plan.

The only solution is to stop the compounding and accept the economic damage that we have accumulated by being serially stupid through our listening, as people and as government officials, to people like Krugman.

This means no more deficit spending and a tax structure sufficient to actually pay down the national debt to extinction over time.  That, in turn, means accepting both a major contraction in the size of government and, temporarily, GDP so as to clear that debt or defaulting it.  Since defaulting it is impermissible under The Constitution without an amendment this leaves us with paying it down, unless you think you can get the States to ratify a change to Amendment XIV.

At the same time we must realign our economy to address the other distortions we have taken on in our attempt to hide the economic damage.  Tax, trade, immigration, medical care, education and energy policy are the big ones, all of which I’ve covered in detail both here and in Leverage.

It would be nice if Krugman, before shooting off his mouth with statements that have a basis in fact (you’re fine so long as you increase output more than you increase debt) would actually look to see whether the nation has managed to do this at any time in the last 30 years on an aggregate basis.  If he had, he would have recognized, using nothing other than the Fed Z1 and BEA GDP series, that it had not and thus his claimed tonic was a crock.

And so, once again, is Krugman.

I have just one question: Why does Paul Krugman hate poor people so much? The mathematical facts are quite clear that the very policies for which Krugman advocates do the most damage to those who are poorest and at the same time, further enriches the wealthy. Isn’t this precisely what Occupy Wall Street is railing against? Well, there’s your answer as to why Obama and his liberal cronies like Krugman keep stabbing you all in the back while claiming to be for ‘the little person.’

On December 13, 2011, the Wall Street Journal published an article entitled “Banks in Push for Pact.” It was an obscure article buried in the real estate section.  The article contained this clause:  “Under the proposal, banks would be released from legal claims tied to servicing delinquent mortgages as well as certain mortgage-origination practices….”  Opponents of this proposed amnesty for mortgage-origination fraud have charged repeatedly that the federal government and Tom Miller, the Attorney General of Iowa, who is leading the settlement negotiations, support the amnesty.  Previously, Miller’s key lieutenant, but not the Obama administration, angrily denounced the charge.

The Four Levels of Control Fraud Involving Mortgages

Home lenders, particularly those making liar’s loans, typically committed endemic “accounting control fraud” on multiple levels.  Control fraud occurs when the persons controlling a seemingly legitimate entity use it as a “weapon” to defraud.  Accounting is the “weapon of choice” for financial control frauds.  Mortgage frauds can be grouped into four levels, each of them exceptionally widespread:  loan origination fraud by the lenders and their agents, the fraudulent sale of fraudulent mortgages, the fraudulent pooling and sale of collateralized debt obligations (CDOs) in which the underlying was largely fraudulent mortgages, and foreclosure fraud.

Loan Origination Fraud

The classic economics article describing such frauds is George Akerlof and Paul Romer’s “Looting: the Economic Underworld of Bankruptcy for Profit” (1993).  The recipe” for accounting control fraud by a lender (or purchaser) has four ingredients.

1. Extreme growth by making (or purchasing)
2. Loans of extremely poor quality at a premium yield
3. While employing extreme leverage, and
4. Providing grossly inadequate allowances for loan and lease losses (ALLL)

Origination fraud involved a series of mutually supportive frauds: inflating the borrower’s income, inflating the appraised value of the home, providing grossly inadequate allowances for loan and lease losses (ALLL), and failing to recognize losses on fraudulent loans held in portfolio.  It was also common for federally insured lenders to file false reports with and make false statements to the regulators.  Lenders that made liar’s loans were “accounting control frauds.”  Their CEOs cause them to create perverse incentives to suborn the supposedly independent experts to provide opinions that inflate values and understate risk in order to aid and abet the underlying accounting fraud.  These perverse incentives create a “Gresham’s” dynamic in which bad ethics drives good ethics out of the marketplace.  The result is “echo” fraud epidemics.  Each of these frauds constitutes a federal felony.  Most of the frauds I have described are also felonies under state law.  Collectively, there were millions of origination frauds with a total dollar amount of fraudulent originations well in excess of $1 trillion.

The Fraudulent Sale of Fraudulent Loans

The second level of fraud is the fraudulent sale by the lenders of the fraudulent loans.   This form of fraud required endemic false “reps and warranties.”  Roughly 90 percent of liar’s loans were sold, so this second level of fraud also constitutes millions of federal and state felonies and roughly $1 trillion in fraudulent sales.

The Frauds involved in Pooling Fraudulent Loans to Create and Sell Fraudulent CDOs

The third level of fraud is the sale of collateralized debt obligations (CDOs) “backed” by fraudulent liar’s loans through false disclosures.  This level of fraud constitutes tens of thousands of federal felonies and roughly $1 trillion in fraudulent sales.

Foreclosure Fraud

The fourth level of fraud is foreclosure fraud.  The best known of these frauds involved the commission of hundreds of thousands of felonies through the filing of false affidavits to secure foreclosures (inaptly called “robo signing”).

Massive Foreclosure Fraud Generated the Global Settlement Discussions

It was this last level of fraud that prompted the settlement discussions.  What one must keep constantly in mind when dealing with lenders that are control frauds is that they and their senior officers will be represented by the best criminal defense lawyers.  America still does many things superbly, and we do lawyers really well.  The fraudulent officers who control banks engaged in control fraud will spend bank funds like water for their defense lawyers.  The old joke is that when one is dealt lemons one should make lemonade.  In law school, however, we consider that the “C minus” answer.  When dealt lemons; the best lawyers seek to make Dom Perignon.

Consider the setting – you represent a systemically dangerous institution (SDI) that was the beneficiary of a federal bailout.  Your client has made hundreds of thousands of fraudulent liar’s loans and fraudulently sold the great bulk of them.  If your client is held responsible for these frauds it will have to reveal that it is massively insolvent and face receivership.  Your client is also one of the largest mortgage loan servicers in the world.  A small law firm representing a borrower has taken the deposition of one of your client’s key employees who signed the affidavits necessary to support roughly ten thousand foreclosures a month – and admitted that the key statements she has made in each of those affidavits is false.  The somnolent federal government had finally been forced to admit that the banks have engaged in endemic foreclosure fraud.  The states are also involved.  This would be a nightmare scenario for any normal client.  For an SDI, however, it was an opportunity.

L’audace, encore l’audace, toujours l’audace!

(Audacity, more audacity, always audacity: the white collar defense lawyer’s creed)

One of the secrets to being an extraordinarily effective elite criminal is also true of their lawyers – audacity.  Elite white-collar criminals can frequently get away with grotesque criminal conduct if they use their exceptional advantages provided by wealth, privilege, and seeming legitimacy.   Even within the ranks of elite white-collar criminals, however, the CEOs who control SDIs – particularly during a financial crisis that they caused – are unique in their power to commit crimes with impunity.  They hold the national, even global, economy hostage.  Treasury Secretary Geithner has made this strategy simple by displaying the “Stockholm Syndrome.”  He has fallen in love with the criminals that are holding our economy hostage.  Geithner claims that the fraudulent SDIs are so fragile that they would collapse if they were even investigated seriously for fraud.  He conveniently ignores the fact that the primary reason for the SDIs’ fragility is that their CEOs looted the banks.

They can also use “their” bank to buy the modern equivalent of indulgences for even the most destructive frauds.  There are two non-exclusive means of buying indulgences.  The most obvious means is political contributions.  The finance industry is the leading funder of both political parties. The less obvious means of buying immunity arises from the dysfunctional nature of DOJ policies for (not) prosecuting major firms for serious felonies and the ability of the CEO to use corporate funds to purchase personal immunity from criminal prosecutions.  Five facts about the criminal defense of large firms must be kept prominently in mind when considering the defense of banksters.  First, the CEO will gladly trade off billions of dollars in payments by the bank and its liability insurers in order to secure immunity from criminal charges against the CEO and the senior officers who could implicate the CEO.

Second, the Department of Justice (DOJ) has essentially ceased to prosecute large firms for serious felonies.  DOJ was so traumatized by the consequences of prosecuting Arthur Andersen that it has decided to allow large firms to enter into “deferred prosecution” agreements (in which prosecution is, in reality, perpetually deferred).  Arthur Andersen had entered into two deferred prosecution agreements, and DOJ offered it a third, when AA refused the agreement and went to trial.

Third, while I have referred to the firm as the “client” and the firm and its insurers typically pay for the attorney fees and fines, it is the CEO that can hire and fire outside counsel.  Outside counsel, therefore, are chosen by fraudulent CEOs because they are willing to aid and abet the CEO in looting the real client (the firm).  This is a classic example of the fraudulent bank CEO deliberately creating a Gresham’s dynamic in which the least ethical members of the “independent” profession drive the most ethical out of lucrative representations.  In criminology jargon, control frauds are criminogenic.  Fraudulent CEOs use their ability to make compensation for officers, employees, and independent professionals perverse in order to create environments that cause widespread frauds that aid and abet the lender’s fraud scheme.  To put it in plainer, biblical English:  fraud begets fraud.

Fourth, the settlement payments are typically deductible from taxes.  This means that the defendant’s actual burden of paying the fine is much smaller than the announced amount of the fine.

Fifth, defense counsel typically promise to pay some portion of the fines to the victims of the fraud.  This is a brilliant tactic.  It makes the government attorneys feel good about the settlement and it allows them to bash opponents of the settlement as blocking relief for the victims.  The tactic, of course, is cynical and dishonest.  The weak settlement is what prevents a far greater recovery for the victims of the fraud.  The government does not have to wait for a settlement to aid the victims of foreclosure fraud.

Settlement discussions by counsel for control frauds with the government and shareholders are all about exceptionally able and zealous legal representation of the CEO at the expense of the client, its shareholders, and the public.  Only vigorous regulators and prosecutors can protect the firm, shareholders, and public from looting by these CEOs and the allies they generate.

The Proposed Deal: The $1 Trillion Lagniappe

The obvious deal that criminal defense counsel for banks always seek is to trade a showy amount of fines for de facto or even formal immunity for the CEO and other senior officers who led the frauds and became wealthy through the frauds.  Here, the defense counsel were far more audacious – they are demanding immunity not only from prosecution, but even from investigation, and they are demanding immunity for crimes they committed that have never been investigated by the state and local prosecutors.  The foreclosure fraud cases, while enormous, are by far the least of the banksters’ worries.  The potential loss exposure from the foreclosure fraud is measured in the tens of billions of dollars.  The potential loss exposure from fraudulent home loan originations is in the trillions of dollars – and a trillion is a thousand billion.  The banks’ CEOs are demanding, for a puny $25 billion, a release from liability for foreclosure fraud.  That is obscene on multiple levels.  Even President Obama concedes that the banks treat such fines as a mere “cost of doing business” (by which he means the “small tax on the wealth obtained by elites through doing fraudulent business”).  The senior officers involved in the fraud should be imprisoned.  Giving them immunity, allowing them to keep their bonuses “earned” through fraud, and keeping them in leadership roles are all despicable acts that should be anathema to every prosecutor.

But what came next went beyond scandal as usual.  The banks then demanded a lagniappe – a little something extra, for free, in a New Orleans restaurant – they wanted immunity for loan origination fraud.  The slight difference is that this lagniappe is worth trillions of dollars to the frauds.  It sickens me to inform the reader that the Obama administration is eager to provide the frauds with this lagniappe.  The Department of Housing and Urban Development (HUD), led by Secretary Shaun Donovan, is actively pushing this scandalous deal, with strong support in the background from Treasury Secretary Geithner.  The silence of Attorney General Holder, and President Obama, on this travesty is exceptional.

Worse, the banks are seeking immunity even from investigation of the over trillion dollars in mortgage origination fraud – and the Obama and Bush administrations’ supposed “investigations” of mortgage origination fraud by the large lenders that made the mass of liar’s loans are all unworthy of the word “investigations.”  It would take roughly 100 investigators, working for years, to do a serious investigation of any of the largest liar’s loan lenders.  There has never been, remotely, such an investigation by the federal government of the any large liar’s loan lender.  The Obama administration is reported to support the fraudulent financial CEOs’ dearest dream – de facto immunity even from investigation of over a trillion dollars in fraudulent liar’s loans origination.

The Republican Party and its candidates for the Party’s presidential nomination are not criticizing Obama’s proposed formal surrender to crony capitalism.  They only wish they were in complete power and could cash in even more heavily on the tidal bore of campaign contributions flowing out of the finance industry.

Miller, and everyone involved, knows there was endemic origination fraud

Miller no longer denies that he has joined the administration in favoring the banks’ most cherished dream – amnesty for originating a trillion dollars in fraudulent home loans.   Indeed, the settlement is designed to prevent even investigations of the mortgage origination fraud.

I confess that I am so naïve that I would have believed it impossible that any federal or state governmental entity would enter into such an abject surrender to crony capitalism.  Once I learned that they were seriously contemplating such a travesty I could not believe that Miller would support it.  I believed his lieutenant’s (Mr. Madigan’s) denunciation of criticism of the proposed amnesty.  (I have reviewed Madigan’s comments in preparing this piece and I see that they were artfully crafted to be disingenuous.) The testimony of Thomas J. Miller, Attorney General of Iowa, at a 2007 Federal Reserve Board hearing shows that he knows that the lenders engaged in massive origination fraud.

Over the last several years, the subprime market has created a race to the bottom in which unethical actors have been handsomely rewarded for their misdeeds and ethical actors have lost market share…. The market incentives rewarded irresponsible lending and made it more difficult for responsible lenders to compete. Strong regulations will create an even playing field in which ethical actors are no longer punished.

Despite the well documented performance struggles of 2006 vintage loans, originators continued to use products with the same characteristics in 2007.

Miller, T.  2007.  “Comments to the Federal Reserve Board ofGovernors on Adopting Regulations to Prohibit Unfair and Deceptive Acts andPractices under the Home Ownership and Equity Protection Act (HOEPA).” (August 14).  Miller was correct. We know that it was overwhelmingly lenders and their agents that put the lies in “liar’s” loans.  We know that 90 percent of liar’s loans were fraudulent.  We know that the industry massively increased the number of liar’s loans after warnings that the loans were endemically fraudulent.  The growth rate of liar’s loans was so rapid (over 500% from 2003-2006) that these fraudulent loans caused the housing bubble to hyper-inflate.  We know that no government entity ever caused any entity to make or purchase (and that includes Fannie and Freddie) liar’s loans.  Indeed, the government repeatedly warned of the dangers of liar’s loans.  We know that by 2006 roughly one-third of all home loans made that year were liar’s loans – which means there were millions of fraudulent loans made annually and, collectively, trillions of dollars in fraudulently originated home loans.

What must be done

Our economy and our democracy cannot succeed under crony capitalism.  Please join me in writing to Congress, the administration, your state attorney general, the media, and any court that must approve this proposed settlement.  It is a disgrace.  President Obama is, of course, correct that some actions can be illegal but exceptionally unethical and damaging.  He is about to take precisely such an action in derogation of his oath of office to defend and protect the constitution of the United States of America.  The fraudulent CEOs of the banks that became wealthy by causing the financial crisis and the Great Recession are treating us as fools who will give trillion dollar plus gifts to the least deserving, most arrogant, and least ethical elites.  Have we fallen so low as a people that we will allow this to happen?

Please join me in supporting the Attorney Generals of New York, Delaware, and California who have opposed this settlement.  As for President Obama, I hope that he will make this New Year’s resolution:  “I resolve to honor my oath of office and faithfully execute the laws of the United States and defend its constitution, which is premised on justice and the rule of law.  No person, no matter how elite, is above that law.  I have today asked Messrs. Bernanke, Geithner, and Donovan for their resignations because of their support for bailing out the elite banks and granting de facto amnesty to fraudulent financial CEOs.  I, and my new Attorney General and new Secretary of the Treasury, have mutually resolved to make the vigorous prosecution of the elite financial frauds that drove the ongoing crisis our mission. ”

William K. Black – New Economic Perspectives