Tuesday, October 16, 2007

Disaster capitalism, the new Manifest Destiny, by gimleteye

The New York Times reports that Treasury Secretary Henry Paulson will speak tomorrow about the intervention of the US government in crumbling credit markets. According to the Times, Mr. Paulson will say, “This is not about finger-pointing, it is about putting an aggressive plan together and moving forward.”

What was the first plan? An ill-founded scheme to demonstrate how mercenaries supporting aspirants to the Junior Chamber of Commerce could secure a US beachhead in the Middle East? Or, how historic low interest rates set by the Federal Reserve coupled with the crippling of regulatory authority for land use and natural resource decisions could trigger vast societal benefits through a boom in housing markets?

In any case, we are nearing the end of the Bush presidency whose legacy is as described in a 2002 conversation between a senior administration official, probably Karl Rove, with Times' writer Ron Suskind: “We’re history’s actors… and you, all of you, will be left to just study what we do.”

Please, God, that we should be left only with that.

Three weeks ago major US banking institutions, represented by Citigroup Inc. and JPMorgan Chase & Co., began meeting with the former Goldman Sachs chief, now Treasury Secretary. The topic of conversation: a plan to revive the asset-backed commercial paper market.

In so far as the “reality-based community” is concerned, people who “believe that solutions emerge from your judicious study of discernable reality”, investors aren't wasting time cogitating: they're well along the process of turning the US dollar into garden mulch.

In an exceedingly carefully phrased roll-out in major newspapers, details are beginning to emerge of the new discernable reality: its essential features are bribery papering over fraud.

The fraud, as defined by cratering secondary markets for mortgage backed securities, is exactly as Warren Buffett predicted of financial derivatives: they are proving to be “weapons of mass financial destruction.”

The bribery appears to be in the creation of a new, multi hundred billion dollar fund--the result of the meeting between the big banks and the US Treasury-- for which fees will be paid to Wall Street executives and lawyers in order to dispose in “an orderly way” off-book assets that are worth far less than banks have told their investors.

Cynics, gather 'round: it’s nearly fascinating as watching the Greenland ice sheet melt. Both are happening slowly but with a fair degree of certainty that the end of the day is a big stinking mess we lack tools to clean up. The reality-based community of investors are not going to take this well.

This is not how disaster capitalism is supposed to work (read Naomi Klein's, 'Shock Doctrine, the rise of disaster capitalism'), but it does appear to be the new Manifest Destiny.

In so far as immediate finger pointing is concerned, this past July Wall Street executives told the public that problem in debt markets were contained to the subprime sector for mortgage backed securities. In other words, poor homeowners in Dearborn and Detroit. That little fiction didn’t sell through.

Throughout the late summer and fall, banking committees in Congress have been spinning themselves into a fine fettle, mixing Democrats and Republican indistinguishably, seeking solutions to the millions of homeowners at risk of foreclosure. The main event appears to be simply loosening the bridle that had been put on Fannie Mae and Freddie Mac for financial misdeeds.

Let them loan more. Let them loan more freely. Having finished, apparently, the finger pointing at the greed that had marred Fannie Mae and its quasi-public mission only a few years ago.

As much as network news likes to feature stories of foreclosed homeowners, the real meat is Wall Street whose executives became addicted to the profits from financial derivatives.

Now, the banks themselves have to be rescued to restore “free markets” to normal operation. In 1998, it only took four billion and the cooperation of the Treasury Department with the big banks to bail out the private hedge fund, Long Term Capital Management.

Today the mainstream media shies from reporting the extent of what is unfolding: a few hundred billion is a drop in the bucket compared to the total market for of asset backed securities at risk that underwrote the late, great building boom.

There are two reasons the mainstream media has lagged behind the story.

First, the blizzard of profits from the housing boom obliterated depth perception as it might be applied by a critical analysis of how corporate America and government is organized: to keep consumers passive, dumb, and happy.

Second, the proliferation of financial derivatives—intended to diversify risk—has the collateral benefit of distributing the fantasy of asset values in slow motion.

Trillions of asset-backed securities are floating around the globe on digital pulses through fiber optic cables, but no major financial institution wants to be the first to re-price assets to market.

They will hold these on the books or off the books as long as possible, at inflated values that don’t connect in any appreciable way to reality.

How odd that Wall Street lives and dies by quarterly profit reports from publicly traded corporations yet have been sitting on a toxic financial dump in credit markets for years with not even a whisper of complaint.

In the New York Times, Paulson’s efforts are described as “a delicate balancing act between two very different goals.” Those goals are: maintaining the confidence in financial markets and also, keep the game going for the housing industry and mortgage bankers who chafe at the notion of additional regulation.

Today, there is no will on the part of Congress to put the regulatory harnesses to a source of campaign cash that derives from a market that is essentially unregulated: financial derivatives.

Wall Street doesn’t want it. The home builders don’t want it. Why tamper with what your biggest campaign donors want? On the other hand, the version of disaster capitalism that is emerging is what only the short-sellers want.

The creators of asset backed mortgages take ordinary mortgages and package them into pools. The derivatives created from these packages of mortgages are sold to investors: they are sliced, diced, and reformulated in many different ways—but each time they are slightly changed, they create a rain of bonuses, fees, and commissions.

In recent years, mortgage backed securities were generated in the hundreds of billions by persuading consumers to take on more debt than they could reasonably afford. It was almost like spontaneous generation.

Take your ordinary suburban tract housing in Florida, for instance. In the past decade, production home building on cheap outlying land metastasized throughout the state of Florida.

During this time, environmentalists chewed mostly on each other over compromises to slow the pace of housing and commercial development in former wetlands and wildlife habitat. While most environmental organizations were distracted by divide and conquer and diversionary tactics, the building lobby converted the purposes of local government to zoning and permitting—doing battle with local regulations against the nation’s premier environmental laws meant to protect the air and water and natural resources we share.

In some cases, these were outright assaults that ended up in federal court challenges. But the worst damage, during this time of ascendancy in real estate speculation, was the domination of and appointment by local elected officials of lobbyists to local boards charged with “protecting the environment”.

In Florida, for instance, these environmental review boards worked with state agencies, like the Florida Department of Environmental Protection, to control water quality issues that had been abandoned by the federal EPA under duress of scientists. The legal term is “delegation”.

Once upon a time, suburban sprawl and all its accoutrements—from hollowed out urban cores to scary strip mall culture—were sold to the public as what the market wants. Every single day, that myth is played out in the halls of local government as though the crisis in the greater world of debt has no bearing whatsoever on reality.

The very nature of derivatives is meant to disperse risk: what they really disperse is accountability. The delegation of accountability so that it disappears is an essential feature of disaster capitalism.

Its manifest destiny has defined the problem as government itself—leading in the direction of divesting authority from federal to state, and from state to locally elected officials who live, virtually, in the pocket of the growth machine. Its result is exactly the sprawl-ridden, unsustainable landscape of Florida.

Today owners of asset backed securities are in the dark about the value of their investments. It is so distressing that hundreds of billions of asset backed securities cannot find buyers in the secondary markets, or, only at distressed prices.

That is what happens to junk when it is fairly valued.

Bloomberg reports, “Nothing in free-market theology says markets always work properly,'' said J.D. Foster, a senior fellow at the Heritage Foundation in Washington and former Bush administration official. ``If there's something that can be done of a temporary nature to help markets, then that seems perfectly appropriate.''

What nonsense: a fairy tale from the party of “fiscal conservatives.”

Mispricing the true costs and accounting for growth is another way that asset back mortgages were able to deliver higher rates of return than baseline government debt.

To be purposeful and clear, means having a vision to protect and conserve—using regulations as a way to guide investment. It means wringing the speculators from the housing markets and from land development.

The solution is reformulating the system of packaging mortgages and their ratings. The new formula needs to be based on a clear and rational way to allocate development rights at the local level; in other words, integrating community design with long-term financing from private investors.

Intrusive? No more intrusive than disaster capitalism as it now exists for Americans, who appear to live on a giant set of a colossal Budweiser TV commercial, from sea to shining sea filled with intelligent Clydesdale horses, talking frogs and happy dumb us.


Anonymous said...

When I heard this story on the news this morning I thought you would be writing about it. I’ve read some articles and seen some graphs but still find it hard to wrap my mind about this entirely. (Maybe Michael Moore should do an economics for dummies movie called Foreclosed…see New Yorker cartoon, Sept. 24, p 86).
If a mortgage is sliced and diced, bundled and dealt out among various players, how is it foreclosed on? It would certainly be scary to find one’s mortgage is the equivalent of the woman being sawed in three. Investors (and even the financial managers) don’t know themselves what amount of their funds are in these “vehicles,” but how can something in fragments be serviced anyway, even if the owner were paying?
We don’t save, we don’t plan, we don’t get it, but does Congress?

Anonymous said...

I being a old country boy it is sometimes difficult to follow all the label's attached to our generation. However I can say this , "The study" mentioned by Ron Suskind will show that we've did great damage in the last 30 odd years .

It's affect will touch our great great grand childern. It will be blamed for setting back the age clock,our care free lives will kill us faster.We're over weight, legally drugged out, inverted, and conceeded. Life has crapped out "Wal-Mart" and "Gas Grumb and Go's". We've turned into "one-uppers "and slaves to over time.

We have forgotten our way, simple things like changing a flat tire or growing vegs has been erased from our DNA. I think our manifest-o was more like the Rome's ,Treated like King's but without the sweat. Moral'ss have been replaced with the internet, not to mention the Oil problems we seem to be having. It reminds me of a movie I once watched "Car's".

I'm not sure I fulling understand what your article was about,finace is alien to me. However your point came across load and clear "gimleteye." Your words are eco's of the nation. Its a sad sight, and only time will heal this land. I just hope more have the brass, like you, to spread this news.

Boy we are just numb and dumb?



MichaelSchn said...

When the Fed reduced interest rates, effectively devaluing $US, stock market jumped up. News were full with excitement but also with oil above $82/bl.
But in reality energy prices don't change. It's $US at the slow crush. Oil prices are the same, $US went to less than 1/82 of an oil barrel on that day. It also hit the record low against other currencies, and it has only one way to go -- down.
The process continued since than. $US is less than 1/89 of an oil barrel today.
When housing bailout really hits, dollar will crush like crazy. There is only one meaning of Fanni Mae / Freddy Mac cup adjustment: devaluation of $US from 1/427000 of the top insured mortgage to 1/625000 of the same real thing. This is a value inflation of 46.3%. Price inflation of other real things will quickly catch up.
No doubt we are heading into hyper-inflation even without all these interventions. Looks like both the Fed and the Government do whatever they can to speed up the process. When hyper-inflation will fully develop it will be a real disaster, because at some point all collectors of worthless $US will try to dump it ASAP.
Free market is gone with our other freedoms. The government constantly manipulates markets, creating bubbles and bailing out those who are "more equals than others". During the Cold War era there was a saying: "There are only two political systems: one in which money gives you power, and one, in which those in power give you money." We entered the second system without even noticing it.
We actually have no money any more but credit and credit scores. Our dollars value depends on our credit scores, fixed by non-transparent agencies. At any time the government may influence it, giving or taking our money as it wishes.
This deterioration of free market mechanisms is crucial. Unlike any other civilization, American civilization is built on the free market principle. That’s how it can get away with it’s overblown Positive thinking and the total degradation of critical thinking. In other cultures companies and other organizations need to be able to do intelligent analysis of their inefficient practices. In American culture it used to be unnecessary. Incompetence is not supposed to be corrected, but it supposed to go out of business. Inefficient company should not be fixed but replaced by an efficient one. What we see now – suppressing of the free market mechanisms, - is a disaster in this system.
The results are easily seen. All we produce is toxic credit, for which we get poisonous goods from China - an even exchange. But it won't remain even for long. China is building higher quality stuff, while American credit can only further deteriorate.
Face it, we can't have it both ways, either we have the credit bubbles pop, live though a recession and go back to real economy (a normal free market correction); or we'll keep going with the current reckless financial policies through endless bail-outs of worthless assets into hyper-inflation, lose our national (and world) currency, and we'll end up in a depression Greater than the Great one.
Any hope for the first scenario? Nope, Americans are to greedy, stupid, arrogant, and ignorant to make a responsible decision (not that other nations are much better, but Americans are still powerful enough to force their way in the short run).
On the other hand, this is our only hope. We live in a system that can't be fixed, but it may crush and it will. America is not a superpower it used to be in 2000. Neither economically, nor military, nor politically. (Thanks to Bush)
Quite soon China will recognize it does not need USA. A new consumer nation is building in India. Russia is already not scared of our force as it used to be in 1990s. Brazil is quietly working on its own nuclear program, even Iran does not take USA too seriously. (It knows, it can be badly damaged by American aggression, but it also knows, this will destroy American power completely.)
So, as soon as all of them will dump worthless dollars it will be over. But America as a country will have a fresh start - one bad for speculators but very good for working people, bad for burocrats and MBAs but excellent for entrepreneurs and innovators.
The collapse will be painful, but there is no way around. American people are not capable to make the change, but the change will come nevertheless and will revive the people. The Greater Depression will take care of it. Let's hope it won't be much more painful than the collapse of the Communist system was for people there.

Let’s, hope that at the end we'll see a fresh start.

Unknown said...

Outside Sarasota there's a modest little town named Arcadia. We were looking around (as northern 'wide eyed' artists do ) and found some giant two story 'Italianette' type design structures...aka "Wedding Cake" facades. Lots of detail.Built in the 1920's boom.

Funny thing is that the red-hot market of the last few years
'pushed them' back onto the market
as 'red hot investments' Bear this in mind:after they were built, no cash was spent to maintain them.
They were never able to function as practical structures, and
thus failed to attract investment through the 40's 50's and beyond.

Ah, the cycle of hubris.
It never ends. I'll post the
loopnet listing number if I find it. Great Site Gimlet Eye ;)

Anonymous said...

Thanks for the comments, all. Interesting.

World credit markets will not buy the SIV "solution", for the very reason it does not answer the question of S., at the top: what happens to the mortgage backed securities when the individual pieces can't be resold except at a great loss.

In Miami-Dade County, today, banks are buying back deeds at a furious clip through foreclosure proceedings, instead of letting them go to the highest bidder-- the amount of real estate inventory must be swelling at a terrific pace.

The banks are hoping that an "orderly process" emerges through which it can sell these assets, without resorting to a firesale, or, creating more havoc in the mortgage backed security markets.

Personally, I don't think it can be done without going through the painful process of reverting to mean-- and what that means, is that individual financial institutions will have to take massive hits.

And over the past few days, the stock markets seem to be waking up.

Unknown said...

Hello every(any)one,

I have been following a lot of thes messages and blogs. I find it verty interesting and good that a lot of americans are waking up (in my opinion (as humble as i can be)) but (mostly anonymous) responds have been only in american interest. I would like to laugh now at most americans and others that found it funny to make fun of, for example, africans that could not make ends meet. The same is happening to you right now. No I am not even laughing because I now europeans did the same. I am no just worry what your exceses will do to the world today. I am still young and hope to live a little bit longer without having to cope with WW3 and the great depression 2 (wich will spread around the world) and so forth.
thanks, Peter Boons.

Ps. I will propably now not be admitted into the USA without and orifice exemination

Pps. I would't even think of trying since most underdevelopped countries at the moment are more worth of a visit.