Fun week... learn about economics, Part II! by gimleteye

Yesterday, in Part 1, I showed a graph predicting trouble for the US in adapting to the opportunities of a global economy. The bright fact is that US educational standards are far below that of many of our trading partners. This is relevant in Florida, where the Republican legislature has slashed funds for public education and has put all its eggs in the basket of standardized testing, the FCAT, that reinforces low educational standards.

Today's lesson is about trusting the kindness of strangers to underwrite our economy. For more than a century, US power and authority was projected through our economic strength. We are the world's largest economy, fueled by consumer demand. But our growth is fueled by borrowing; borrowing surplus dollars generated by low cost labor nations that supply our goods and oil-rich nations that feed our insatiable desire for energy.


Today, Bloomberg reports (Rubenstein Says `Enormous' Bank Losses Unrecognized), "U.S. and European banks and financial institutions have ``enormous losses'' from bad loans they haven't yet recognized and may have a harder time wooing sovereign-fund rescuers, Carlyle Group Chairman David Rubenstein said."

What this means is that the foreign nations that have been funding our debt, accepting the cost of a devalued dollar as a necessary evil, are retreating from the "necessary" part of the equation. It started with the subprime crisis, triggered by the massive overdevelopment of the housing and construction sector and the radical mispricing of assets. And it also has to do with the massive political instability in the Middle East, where there is significant pressure to diversify from the US dollar.

Argue as we will on the legacy of Bush policies, one thing we can agree about, of the nations that have pulled up their own economic fortunes by tapping the wealth of the American middle class: they are not dumb.

Carlysle Group's Rubenstein tells Bloomberg, with the understatement characteristic of financial titans who make money on both sides of the trade; ``sovereign wealth funds are becoming wary after losing $25 billion on their investments in struggling banks and securities firms worldwide. Financial institutions worldwide have recorded $329.2 billion in credit losses and writedowns and raised $246.6 billion in capital since the beginning of 2007. Rubenstein said about $60 billion of that capital was provided by sovereign funds last fall, and their investments today are worth about $35 billion."



Rubenstein says, "Based on information I see, it will take at least a year before all losses are realized, and some financial institutions may fail... He didn't name any companies. ``The sovereign wealth funds are not likely to jump into the fray again to bail out these institutions,'' Rubenstein said. ``Many financial institutions aren't going to be able to survive as independent institutions.''

There is a problem with Rubenstein's scenario: financial executives were wrong, except for a talented few, in anticipating the crisis as it evolved. (Take BankUnited, for instance, the local publicly traded entity that was once a sweetheart of the mortgage and construction industries, and is now fighting for its life-- as reported in The Miami Herald today.)

Our so-called financial gurus are wrong to believe or to mis-state the problems we face as short-term. The structural deficits in the US economy have come home to roost, and the need for reform is more pressing than at any time since the Great Depression.