Temperate Question

A spot of temperance in the holiday conviviality may be appropriate.

So what?

So, we have the following American phenomena that are indisputable.

1. Housing prices are in freefall. Disputes center on whether the decline will abate in late 2009 or sometime in 2010.

2. Through mismanagement, our money center banks have decapitalized themselves and are insolvent. Okay, this is slightly arguable, apologists would prefer to talk about perfect storms, risk management failures, bailouts, restructurings, etc. Fact of the matter, the banking system is not currently functional.

3. The general economy is, and has been for a year, in a recession. Thank you, NBER.

4. The pattern this recession will take is, at present, unknowable. Pretty clearly, the following are in serious trouble: anyone dependent on consumer spending, the real estate sector, the auto sector, any heavily leveraged organization. It's probably safe to assume that trouble in on its way for anyone whose principle customers fall into any of those catagories, and also for any public sector entity dependent on property or sales tax revenues.

How this will play out is anybody's guess. Typically, a stable banking sector would buffer the healthier parts of the economy from the troubled part. But, basically, the financial services sector is where the whole mess started (yes, subprime lending and a residential real estate bubble were the triggers, but a healthy financial services sector would have buffered the general economy from, rather than amplified and transmitted those problems to, the general economy.

We got a Christmas Card a few days ago wishing us a healthy and a happy 2009, and noting that a prosperous 2009 did not appear to be in the cards. I wish you the same.

Zombie Banks

Death to financial institutions!

The only justification for the extraordinary privileges enjoyed by lightly regulated banks, the extraordinary leverage available to essentially unregulated hedge funds and the mere existence of the so-called shadow banking system was that they served a greater social purpose than the personal enrichment of the participants.

It turns out that they do not.

So they should, collectively, exit the scene. Their corporate existence should be terminated. Whether the institutions are regulated out of existence, their activities are taxed to destruction or their leaders taken out and summarily shot is a matter of national taste, cultural and legal tradition.

Let's face it. Collectively, the major banks are zombies, as in, walking dead. Their problems simply overwhelm their capitalization, currently--and with any conceivable level of government support. One can argue specific cases, but there are also a couple of inarguable cases, starting with Citi.

You can't bring a zombie back to life. You can bury it.

And once buried, before the stench of the corpse has fouled the entire community, you can approach the next step of the dialectic. The resources currently being put at risk to salvage of the current system should be allocated with a strategy that will assure that, rather than being frittered away in a futile exercise, their placement will facilitate that next stage in the dialectic.

Houses in Richistan

The market for houses financed by jumbo mortgages is about to enter a death spiral. There are four reasons:
1. Jumbo financing has died up. The government efforts to get mortgage lending moving again are focused on conforming loans. The interest rate relief that has driven down the price of a conforming mortgage has opened up historically unprecedented spreads between conventional and jumbo financing.
2. Houses north of, say $500,000, are move up houses. The whole idea of moving up has been one of the prime casualties of the current housing crisis. Extracting one's equity from a middle class residence to apply towards the down payment on a larger home is harder than it's ever been.
3. The more affluent families that are the principal purchasers of these houses tend to have more financial assets than the general public. They have, therefore, felt more severely the impact of the collapse of the financial markets. They have less in the retirement plans, less in their brokerage accounts and, even if still employed in high paying jobs, are far poorer than they were a year ago.
4. The decision to buy a house has also been an odd decision--one part an investment decision, one part of matter of personal consumption. The more expensive the house, the bigger the investment component. The idea that rich people are different, and are indifferent to losses on their real estate, is ridiculous, and piously repeating it as part of the wealth worship liturgy, doesn't make it any less ridiculous. In any event, to the extent that buying a house is an big investment decision, the willingness to go long an expensive house in a declining real estate market, is markedly diminished.

And that's the mumbo jumbo.

Madoff

A spectacular crime.

A rich tapestry.

I like the thread woven by those who, believing Madoff to be a crook, nonetheless entrusted him with their money because they thought he was stealing for them, not stealing from them (i.e., front running, not running a Ponzi scheme).

I like the three-person accounting firm's ability to evade peer review by certifying every year for 30 years that it was conducting no audits. The cool thing about the certification is that, at least as far as the books, records and financial statements of the Madoff organization are concerned, it was true.

I love the masters of Hedgistan (fund of fund variety) whining that this was a failure of governmental regulation, losing sight the the fundamental point that hedges funds are definitionally lightly regulated investment pools, and that half the justification for the fees of the fund of funds managers was their careful scrutiny and sophisticated monitoring of the managers into which they fed their investors capital.

Will the Madoff Affair have consequences? Quite possibly. He fleeced enough of the right people. In tandem with Mr. Dreier they are extremely attractive poster children for the proposition that the whole game was a crooked business, and needs to be shut down.

So shut it down. Start with the bonus culture. Turn the banks into public utilities every bit as exciting as Con Ed. Tax the investment pools out of existence. Then move onto exemplary justice. Executions at midfield in the Yale Bowl aren't part of the American Tradition. Not yet.

A commercial real estate bust . . .

is a short term non-event, as far as the level of general economic activity, once you absorb the cost of a slow down in construction and development activity.

Last time I checked, the wind down in construction started late in 2007, and has continued progressively through 2008. Because it only makes sense in extreme circumstances to leave a building under construction unfinished, there is a bit of a lag between the recognition of a problem and the winding down of activity. But existing projects are finished and new ones are cancelled, and, voila, the slow down is underway.

I think that's already happened, for the most part. I'd be willing to venture that larger projects with longer lead times are still under way, but those, too, will wind to a conclusion--frequently in hands of whoever financed their initial stages. And all of the smaller stuff has ground already ground to a halt.

The event, in terms of the economy and the policy response, is the constuction slow down, not the real estate bust. And all the talk about 'shovel ready' infrastructure spending is a pretty good sign that the road map to a resolution of that slowdown is well accepted.

But a real estate bust itself, in the sense of declining property values, decline rents, rising vacancies, foreclosures and involuntary ownership shifts, and workouts and restructurings of existing financing packages is not, in itself, of much concern to nayone except the developers, investors and their professionals. Remember, commercial mortgages don't have to be marked to market (though CMBS are another matter entirely). A real estate loan that is performing, or has gone non-accrual, or is impaired, held in a financial institution's portfolio is subject to an entirely different set of accounting rules (which is not to say that real estate chargeoffs can't swamp the boat and cause the institution to fail--remember the S&L crisis?).

In that dynamic, the question becomes, just how lax and bad loan underwriting became in the insurance companies, pension funds and other institutional lenders to commercial property developers. If the news out of Calpers and the behavior of a couple of major insurance company stocks recently are any indication, underwritings standards did deteriorate. They almost had to, given the availability of alternative source of credit from those originating and packaging CMBS.

If that's the case, it could get interesting. There is something about real estate, its documentation and its culture that seems to lead to more fraud than is typical of the securities markets. That's right, more not less, fraud. We could all speculate on why.

Retail Travails

Expect the retail sector to enter the chute.

The American consumer (remember him/her?) is tapped out. A big chunk of the decline in consumer spending can be traced to collapsing auto sales. Another big chunk can be traced to a falling consumer durables--not being purchased because people are buying appliances for the new houses they aren't buying. Throw in a shortened, weather-impaired holiday season undermined by declining consumer confidence, and there's a recipe for retail catastrophe.

This is probably a good holiday season to spend those gift cards as soon as you get them, and not save them for a big purchase down the road.

We Are Flying Blind

Last week, an editorial leader in The Financial Times started with a simple declarative sentence: We are flying blind. Last month, Krugman, I believe, observed that, given all the attempts to draw lessons from past financial crisis, the way in which this current situation resembles the Great Depression is that the last time our policymakers didn't know what to do and our economists didn't understand what was going on, was the Great Depression.

Between the ink stained wretch's simple declarative sentence and the Nobel Laureate's nuanced observation expressed in a complex tense, the most important aspect of the current situation is nicely captured.

We'll know what happened when it's all over. We'll understand what happened a good while after that. And that's the way it is. Perhaps the best response would be, not analytical, but liturgical.

Pity about Dreier . . . how about the other 249?

. . . completely overshadowed by Madoff.

But consider, Marc Dreier, Yale College, Harvard Law School, head of litigation in New York for Colonel Jaworski's old law firm, founder and proprietor of his own 250 lawyer litigation shop. Apparently he had the lifestyle of a Russian billionaire (and the scruples, as well), and nobody ever accused him of being the nicest guy in the room.

Admittedly, his $380-million fraud was peanuts compared to Madoff. But there is something over the top about being arrested in two different countries, and in the only picture in the media so far he looks like an unshaven, slightly crazed proprietor of a meth lab. Unlike the Madoff situation, there is some color here, folks, there is entertainment value.

Not that revenues of the docu-drama are likely to be captured for the benefit of the bankruptcy estate.

And I have to feel sorry for the other 249 lawyers. Back in the 70s I knew a decent guy on The Columbia Law Review who fell under the spell of a criminal asshole named Harvey Meyerson, got implicated in a billing fraud and ended up disbarred. Right now, the other 249 lawyers have problems, all right, starting with a looted $38-million trust account. Of course, there's the receivables run-off, but I wouldn't count on that to cover everything. Not by a longshot.

Car Wars

Chrysler has closed its plants for a month. At least that's the announcement. I'm not sure if that's its assembly lines, or if that's all its operations. If you want to minimize that speak of merely extending the customary holiday shutdown of assembly lines by a couple of weeks. If you want to play it for impact, couple a total shutdown of operations with its dealers pulling $60-million a day out of the company for fear of bankruptcy

It's all in the wrist.

Chrysler is an interesting case because it's owned by Cerebus, a much more vigorous version of the Ford family and far better connected politically, with more ability than GM to play its cards close to the vest because neither Chrysler not Cerebus are publicly held. And before that it was owned by Daimler for a decade, long enough to shift its corporate culture. If there was ever a group of people where it's a good idea to watch what they do, and not what they say, its Team Chrysler.

Meanwhile, the single issue Johnnies are making hay with the situation. I'm not sure whether they are an impediment to, or merely a distraction from, resolving the situation. The Republican Senators from states with foreign assembly plants are clearly in the first catagory. Those guys hate unions. The appalling effort on NPR by Senator DeMint (R., S.C.) to sound like he knew what he was talking about revealed an insane anti-union bias (or perhaps an insane hostility to health insurance for old people, or perhaps simple, blissful stupidity). Greenies looking for an environmentally sensitive auto industry building hybrid vehicles that nobody will buy unless gasoline climbs back to $4/gallon, are probably in the second catagory.

Then there is the 800 pound gorilla. Bankruptcy or bailout, on a go-forward basis the American auto industry will soon be a shadow of its former self. Rather like the steel industry in the 1970s, what emerges from all this will have been diminished in the transition. We're going to have to find a new and different way to add value in the global economy. Better crank up Tom Russell singing about the Homestead works.

Top of the Second Inning

. . . listening and not talking for a month is a good thing to do. One problem with this blog format is that, in the absence of deadlines and a publication rhythm, bloggers tend to spew continuously. And, gotta be careful when the better half sends you to Koch's to buy a seersucker suit, or when in a New Orleans oyster bar and the shucker has an intestinal disorder.

That said, after a period of watching and taking a deep breath, I'd say we've reached the top of the second. Hopefully, this is a play in three acts and not a nine-inning ball game. If the former, civil society and the political order as we know them emerge intact. If the latter, all bets are off.

Assuming a play in three acts. The Annus Horribilis of the financial markets has come to an end. The Annus Horribilis for the general economy will be 2009. Give the dialectic another year for the feedback loop, wherein 2010 the financial sector in its present form is finished off by the consequences of the state of the general economy at the end of 2009, and in the second decade of the third millenium, well, community banks, like small mammals after the asteroid finished off the dinosaurs, will rule the earth (if by rule the earth, you mean not being squished by a passing thunder lizard).

If a game in nine innings, the outcomes are likely to be far more unpleasant for those of us who enjoy provincial prosperity and tranquility. The social fabric will tear cloth. Exemplary justice will come into fashion. Pity Mrs. Madoff, with her master's in nutrition, who apparently made the phase shift from writing cook books to cooking books . . .

Enough Innovation, Creativity and Compensation

If progress and innovation are good, then more progress and faster innovation are better, right? This is a popular line of bullshit. Sure, there are fields of human endeavor in which progress can't come fast enough--Race for the Cure and all that. But even in cancer research, clincial trials, refereed journals, and peer review regulate and govern the pace of progress and the revision of treatment regimes.

Finance isn't one of those fields where more, faster innovation is necessarily an uanalloyed good. Innovation and creativity are, at best, a mixed blessing. In the last quarter of a century, we may very well have had enough innovation and progress in the vineyards of finance, if you can call it that, to last the Western World another half century. In other words, to take Gen X from nappies to Depends.

So much for the hand wringing about the need for care not to impose an undue regulatory regime that might disrupt the flow of creative juices fostering so much innovation in the fields of finance. Might I suggest that there has been quite enough innovation, and that we are now entering a period of culling, discarding, editing, revising and discarding the fruits of several decades of unrestrained innovation.

And the editorial hand shouldn't be invisible. It shouldn't be based on a market mechanism. The market has a place, but it is, ultimately, a legal construct based on the raw power of the state. Power has been the missing ingredient in the fear greed matrix for a decade or more.

The time has come to crush the innovative and entrepeneurial spirit of the capital markets, to subject them to strict regulatory discipline so that the activities in them are limited to meeting the needs of the general economy. We can only hope that a new era of dull reliability, diminished profitability and boring predictability is dawning . . .

Phase Change

As vapor, water and ice, the H2O molecule behaves differently and is subject to different rules.

For the last few years, the global economy has been in a phase change. The biggest theme has been the tilt East and South, or at least East. While that theme is investible (recently taking a strong stomach for the volatility), of more immediate importance has been the efforts of the developed West to carry on at ever increasing levels of prosperity, and the recent unravelling of that effort.

Unfortunately, our mojo is no mo'. Well-intentioned efforts to recapture the way were we, or keep us out of the ditch, are premised on the ditch running parallel alongside the road, and not cutting across it. Sometimes I feel that all the efforts to date of all the governments that have made an effort make one big bridge to nowhere. We are in a mess, and it's not really investible.

If we are in a phase change, it stands to reason that the old rules are shifting, so the old relationships between policies and results are called into question. This is not an excuse to do nothing. It is a caution not to be particularly confident about the outcome of any particular initiative. In that respect, Paulson is right to pull the plug on TARP's original approach.

In any event, the glaring problem with the original approach was that a market price (even one elevated by favoritism) would have completed those who did not sell their positions to the U.S. Treasury to mark the value of the holdings to that market price, with a resulting dramatic impairment of capital. Transparency is all well and good, but a little bit of mark to model for the next few quarters is just what the doctor ordered. So, unless TARP was going to cover the whole mess, the awful markdowns on the stuff left out in the cold would probably have sufficed to swamp quite a few currently listing financial battleships.

A spot of good luck sure would be useful right about now.

Right twice

People who are right once, particularly on a big call, get a lot of attention, rightly or wrongly.

So Prof. Rubini is currently Central Casting's wet dream for Dr. Doom.

When not bed wrestling with her pro, Meredith Whitney has the financial services sector nailed.

But the guy to note is the nasal Yalie. Robert Shiller has been right on the big call twice. He nailed the Dow 36000 nonsense a decade ago, and called the dotcom bubble. Then he turned around and did it again, with residential housing.

It's awful to hear him say he wish he could be more optimistic, but . . .

kudos.

Capitulation of the American Consumer

Where are All the Shoppers?

My daughter was in town this weekend, home from college, and we took her shopping for all the various stuff college kids expect their parents to fork over for. It was pleasant and lowkey and we were, ah, rather alone in our purchases of winter clothes, laser printers, kitchen staples and the like. Then I went to Home Depot to buy a grate for the fireplace (that time of year) and I'd guess that the clerk to customer ratio was around two clerks to a customer.

Mind you, this was not recreational shopping. This was all Man on a Mission type errands. But it is November. It should take a few minutes for the credit card to clear, because the system is taxed to capacity by transaction volumes. That was not a problem on this, the first weekend in November.

Combine this kind of annecdotal experience with the hard numbers that are beginning to come in, and a pattern emerges. Between the retail numbers being reported (which in a sense are annecdotal, as they relate to specific chains, or whatever) and the macro statistics that are beginning to come out, and the Capitulation of the American Consumer can safely be called.

Synthetic Lehman

We're living life after Lehman. Consider the doctrine of unintended consequences, or maybe simply unforeseen outcomes. Thank God it's Friday and before climbing into the weekend, take a moment to reflect.

Who would have thought, that merely because the principles-based UK regulatory scheme differed from the rules-based US approach, that hedge funds using the New York office for their prime brokerage needs would skate through intact, while those using the London office would become general creditors in the bankruptcy administration, dying at cents of the dollar (pence on the pound?) and of a long wait to get anything at all?

Oh well. Live and learn. Nothing like experiencing a risk to bring it into focus. And a string of hedge fund failures doesn't clog the plumbing or involve systemic risk, right? We can all live the market volatility, right? Something tells me we all have a lot more living, and a lot more learning, ahead of us.Before we move on to more living and learning, though, the Lehman scorpion's tail has one more sting. In some murky backwater, we're having the settlements of the synthetic CDS exposures referenced to Lehman credit but not part of the CDS settlement of CDS written on the bonds themselves at .0841 or whatever it was. Apparently the the notional amounts of the synthetics was about 4x that of the stuff that has been run through the system. Of course, the ISDA assures us that those positions are continuously marked. I guess that means that this is only a liquidity problem and doesn't raise systemic solvency concerns? Very reassuring, that.

But, for the survivors, on to Iceland. Then, coming up soon on a screen near you, General Motors.

Here comes Quantitative Easing . . .

and there go the American automakers.

The Fed has to give the quantitative easing a shot. It didn't work in Japan, and it probably won't work here, but kid yourself not, they've got to give it a shot. No arrow left quivered.

The endgame, though, remains unchanged. The financial services sector in the developed world has decapitalized itself in the last five years. Mark to market accounting may be delivering the bad news, the bad news itself is simply the consequence of having gutted the credit culture of lender-borrower relationships and replaced it with a transactional focus (and a compensation structure based on transactional activity). Incidentally, that is eerily similar to the Enron fiasco--replete with a cast of characters all vying the be recognised as the smartest guy in the room.

Once through a patch of quantitative easing, but fairly early in the next administration, I think we'll see an unbelievable expansion of the current pilot program in the commercial paper market. In other words, if the private sector continues its failure to deliver the financial services required by the general economy, public entities will step in the fill the void. How and in what form remains to be seen.

Meanwhile, the endgame for the American automakers is even closer in time. The next hundred days, according the a senior executive at GM. I wonder if he's a finance guy or a car guy (to use the Detroit vernacular)? That comment was a little forceful for a finance guy. With the orphaned retiree medical benefits of several million voters mired in a bankruptcy reorganization, in about 101 days that should provide the dynamite charge required to pass healthcare reform approximating universal coverage.

In terms of the general economy, I'm not sure what happens if General Motors and Chrysler fail. I assume the initial reaction would be denial and an opportunity to reorganize under current management (as opposed to going straight into liquidation a la Lehman Brothers). If not, it's one thing to buy toxic assets, and another entirely to start stockpiling the output of original equipment manufacturers who've lost their biggest customer to bankruptcy. Where do you store all the cylinder heads, leather upholstery, and fender panels?

Prediction Markets

Economic impact of an Obama victory: too early to tell.

But pragmatism and expertise will be the principal ingredients of the government's policies, flavored with egalitarian anger and populist desire for revenge. On the whole, better than the stew of ideology and grandstanding, similarly flavored (perhaps substituting xenophobic paranoia for egalitarian anger), that would have come from McCain and his crowd. On the whole, I'd rather have Volker, Geithner, Summers and Krugman taking the hand off from Paulson et al. than Phil Gramm, Carly Fiorina and the B list academics in the McCain Palin camp.

Since the entire blogosphere is obsessing on the election, I get to comment, too, off the economic topic. Here you are:

A. Prediction Markets: 1; Bradley Effect: 0.

B. A couple of years ago U.S. military recruiters were given a hypothetical choice between doubling of their recruiting budgets and having the example of the Bush twins enlist in the military. Overwhelmingly, they responded that the example of the Bush daughters in the service would be more help to them in their recruiting efforts than doubling their budgets. Of course, those children of privilege were never at risk of facing the rigors of basic training, much less harm's way.

In terms of its effect on the Arab street, a President Obama is tantamount to the nuclear option.

Black Swans and Factoids

For the last month, I've been wandering around noticing the absence of new car tags on the road--those paper temporary tags the dealer gives you to drive off the lot and keep your car legal for the 30 days or so it takes to get the permanent plates. Then, over the weekend, in Parking Structure 3 in downtown Portland, Oregon, I spotted paper tags on a brand new Subaru Forester. So much for that particular Black Swan.

Yesterday car sales numbers came out. Today the analysts are parsing the numbers, making sense of a situation that can only honestly be summed up as, 'it's really bad for anybody in that business, but who in their right mind would buy a new car today?"

So, I guess I stop going around telling people I haven't seen any new car tags since I can remember, and start going around quoting the reported numbers and using my annecdotal evidence (a single new car tag) to buttress my point. It's no longer a Black Swan, but it's a factoid. (That in itself may be the problem with Taleb's commercially very successful molehill).

Absence of evidence is not evidence of absence. On the other hand, evidence itself doesn't mean much without taking into account measurement error, calibration assumptions and equipment design tolerances.

Jekyll and Hyde

After tomorrow, the howling from Washington should get louder. Frustrated congressmen, told by policymakers they trusted, that Wall Street needed a bailout to keep lending and keep the economy out of the ditch are now finding that the banks have taken the money, and, well, that's about it. They've taken the money.

And they haven't resumed lending, and the economy still appears to be headed for the ditch. Worst auto sales since 1945, according to General Motors. So Barney Frank plans hearings.

In a nutshell, the problem with the banking system is that it has two sides. One is the predatory trading culture of the proprietary desk, the hedge funds, the sharks and their lumbering prey--family offices skinned through fund of fund managers, yield chasing brain dormant European institutions whose managers' knowledge of English didn't make it past the letter A, repeated three times, and such. That world is blowing up. But it's social utility, even in good times, is obscure.

The other side of the banking system is the prosaic, utility like servicing of the needs of individuals, consumers and savers, or businesses, whether large or small. That's the side that we need. For individuals, it's providing car loans to school teachers, insurance policies to young families, and the like. For companies large and small, it's providing cash management services, export/import letters of credit, working capital lines and such.

Imperfectly, the Glass Steagall Act segregated the two activities. Glass Steagall was out of date. There was inevitably a certain amount of mixing things up. But since regulation really took hold in what the convicted felon Conrad Black used to describe to Bush 43 as the 'Anglosphere', those activities have become hopelessly intertwined. The very idea of an 'originate to distribute' business model blended the two. Haven't heard much about originate to distribute since the distribution end of things got all gummed up and the originators turned out not to have the, er, capital, to hold what they had in the pipeline.

Haven't heard much from Lord Black since his conviction, either. I wonder where in the Anglosphere he'll serve his sentence. A Canadian national, who surrendered that citizenship for British peerage, convicted in a United States court. Perhaps Gitmo?

In any event, for his howling hearings, Congressman Frank's first witness should be Phil Gramm.

Liability Structure

Ah, for, a block of prepaid, noncancellable term life policies!

A great deal of ink has been bled expressing angst at the bad loans, dubious securizations, toxic assets and so on currently clogging the financial system. Not as much attention has been paid to the liability side of the balance sheet.

Well, the liability structure of a typical investment banking operation vs. a traditional insurance company is why the crash of the former resembles a plane crash and the failure of the latter resembles a train wreck. (The AIG debacle is such a surprise because it was a capital markets player operating in the sheep's clothing of an insurance company--and now, six weeks on, those involved are still reasonably clinging to the value of the insurance operations as the way over the ever deepening abyss of its capital markets liabilities).

Liability structures are important. By focusing on liquidity instead of solvency issues for the first year of the financial crisis, the regulatory community has radically transformed the liability structures of many regulated institutions. The extent of this transformation isn't fully known and certainly isn't fully appreciated. How it play out remains to be seen. My suspicion is that this development may, in the intermediate term, be more important than the current round of capital injections, particularly in terms of its political ramifications.

Incidentally, the reason the liability associated with a block of prepaid term life insurance is so attractive is that the only way you have to pay anything out is when somebody dies. Unless you've insured a bunch of lemmings (a definite possibility nowadays, given underwriting standards), you don't have to worry about a run on the bank, as it were. One, two, altogether now, over the cliff . . .

Bradley Effect

A generation ago Tom Bradley, charismatic black mayor of Los Angeles, lost a California gubernatorial race despite a ten point lead in the polls. Conventional wisdom is that racial attitudes among poll respondents embarassed by their own prejudice led to that outcome. Something similiar is about the best the McCain Palin crowd can hope for in the current presidential race. It's not a nice strategy, but it's about all they've got at this point.

I think it's a possibility. But I don't it will happen.

Here are three pieces of Texas trivia that suggest not. First, for most of the year my son was a 'closet Obama supporter' down in the Rio Grande Valley. In the last month or so, Obama has been doing well enough on the Border that he decided to come out of that particular closet. Second, my mother-on-law, who has lived her life according to the gospel of Nieman-Marcus for the last half century, claims that she voted for Obama (she's already voted since she and a girlfriend headed out to La Jolla for November). I'm not sure if I believe that, or not,but it's the fashionable claim to make. Finally, the local newspaper in Bryan College Station, home town the Texas Aggies, home base of Professor (before Congressman or Senator) Phil Gramm, and site of the presidential library of Bush 41, has endorsed Obama. He's the first the first Democrat the paper has endorsed since the 1950s.

I'm not saying Texas is in play. I'm just asking, as if I were a Republican riposte to Thomas Frank, 'what's the matter with Texas?'

Richistan doesn't get it

The world has changed.

The good burghers of Richistan don't understand that.

The key to understanding is stolen money, a/k/a executive compensation.

If institutions receiving, say, $125-billion in federal assistance, pay out, say $109-billion in executive compensation, the recipients will be regarded by the taxpaying public and treated by the criminal justice system, as common criminals.

This is not a public relations problem, it is a paradym shift. And people who miss paradigm shifts get squished.

Maybe this isn't fair. Sure, there are contractual rights, and compensation in private organizations isn't a public concern. But once public money has been taken, game, set and match, Waxman.

Submarine Races

Last week, the Russians were making noise about lending to Iceland to see that country through its currency crisis. Of course, Iceland was a huge Cold War base for the United States, linchpin to the logistics of supplying Europe in the event of some kind of protracted crisis with the potential to segue into WW3 (20th century version). Meanwhile, in the Eastern Hemisphere, the Pakistanis propositioned the Chinese about a bailout, though nothing came of that, either.

This week the Japanese were expressing concern that the Chinese and the Russians might use the current financial unpleasantness to extent bilateral loans to troubled emerging market economies to see those countries through their times of trials. A sensible strategy for the Russians and the Chinese (whose principal motivations aren't financial, in the traditions of the Anglosphere), and a sensible concern for the Japanese, who motives, recently, have been.

And so, yesterday, the US Treasury announced unconditional swap lines along the lines of those previously made available to the G7 countries, and the IMF creates a $100-billion liquidity facility that won't carry the traditionally racist and onerous conditions the imperialists have historically imposed on little brown brother.

This, brother, is progress. Just a straw in the wind, so far, but you can safely bet that the Chinese, in particular, will cautiously assess and act on the opportunities created by the crisis.

Buying time

is the core strategy that the world's public authorities have developed to deal with the global financial crisis. Call it a liquidity issue for as long as possible, then admit it's a solvency problem only when smacked by the dead fish of a school of floundering institutions too big to fail. Now that those institutions stopped serving the social purposes that entitled them to preferential treatment, step in and do the job for them, to keep the wheels from coming off.

But that's all it does. It keeps the wheels on, but they're spinning, losing traction, and the jalopy is skidding into the ditch.

The bedrock problem is that the financial institutions of the Western world are collectively insolvent. Yes, there are sound insurance companies, and leasing operations, and community banks, and so on. But the institutions that molded and drove the capital markets are, as a group, insolvent. That isn't the end of the world--Japanese banks stayed insolvent for a decade and it's an open secret that most Chinese lenders are sitting on mountains of bad domestic loans made under political duress (maybe duress is not even the right concept, the loans were extended at the direction of governmental authorities--not necessarily the central government, either--to further political and social developmental goals). An insolvent global financial system is not the end of the world, but it's a new problem for the world. Who issues letters of credit to finance trade if everyone is insolvent? For that matter, who honors them?

Buying time is probably the best of a set of bad alternatives. But don't call it a policy.

New light

Two very interesting little facts from September came out this week. The first was that Morgan Stanley was forced to inject $23-billion into its money market funds to keep them liquid and avoid breaking the buck. All by itself, that pretty much explains the sudden Federal guarantees of the money market funds. The second was that Goldman approached Citicorp about a link up. A move like that has only one explanation, and it speaks volumes for just how dicey things have gotten. There are times you want to win the race, and there are times you just want to get off the horse.

Information in real time vs. information with a lag. In happier days long ago (well, a year or so) the Fed's pressing issue was transparancy and self-regulation in principles-based regulatory schema were argued as a legitimate alternative to groady rules-based compliance. And now a decent cloak of obscurity is pretty useful when nasty things need to be done to keep the sun shining.

That all seems like a long time ago. But it's still interesting how the passage of a little time and a little more information can put things in a new light.

New Snouts at the Trough

Three new snouts at the trough. Insurance companies. Hedge funds. Auto companies. Yes, no and maybe. Not surprising. $700-billion is going to attract flies.

Insurance companies. They are regulated financial institutions providing a utility-like function to the general public. The AIG rescue amply demonstrates that an insurance company collapse can have systemic repercussions. As financial institutions, they are in the general scope of the problem the bailout, er, rescue package was intended for. Yes, though, as always, the devil is in the details.

Hedge Funds. Let's see, hedge funds are unregulated pools of capital contributed by sophistical investors and run by the most arrogant and avaricious group of people this side of the Russian oligarchs. Unlike, say, a venture capital firm or a postal savings system, they have no redeeming social purpose, but exist, like a drug cartel, solely to enrich the participants. I'd say no space at the trough. If hedge fund failures create systemic issues, address them in the institutions burned by those collapses, and create a conduit with plenty of bandwidth to the criminal justice system.

Auto companies. Hmm. They really weren't part of the original problem. But they are a problem. I'm old enough to remember the Chrysler bailout. That had a mixed outcome. It kept the company afloat (good), allowed the ossified culture of the auto industry to be perpetuated for another generation and delaying the day of reckoning (with additional accrued interest) for a quarter century (bad) and inflicted Lee Iacocca on the public consciousness for a decade (the price you pay, I guess). A toss up. Maybe the next Congress should deal with it as part of a general industrial policy, a la francaise?

Chinese Gambit

The Chinese are making a move. No doubt about it. It's more a gambit than a committed offensive. Think of it as a test for weakness, easily abandoned if it fails in the first couple of steps, or reinforced with additional commitment and resources if it's initially successful.

I don't think they have a strategy. It more opportunistic.

Many, many words are being devoted to analyzing it. But the conceptual framework for that discussion is unfortunately economic, rather than drawn from game theory.

Hate to say it, guys, but this is more about game theory than anything else. Temporary positional advantage than can be permanently solidified given a favorable correlation of forces (that's a midtwentieth century Soviet construct). If things turn against them, abandon the gambit, publicly disgrace its advocates, and resume play, next inning.

Ah, the new entrant's freedom to manoever . . .

Wanted--Inarticulate CEO

Was anyone else disconcerted by this guy Pandit (CEO of Citicorp) describing his company's chance to buy Wachovia for a song, and with heavy duty taxpayer support, as a winning lottery ticket? In this atmosphere, it's a horrible metaphor, what with the Wall Street casino becoming daily more detestable to the public on whose indifference its continued existence depends. (Pandit made the comment while he was whining about Wells Fargo coming in grabbing Wachovia by outbidding Citi after Wachovia and Citi had struck a deal--basically, there is something called a fiduciary out, which let Wachovia renege on its first bargain, but that's neither here nor there).

I believe last year his predecessor, the Prince formerly known as CEO, described Citi's (non)risk management policy with words to the effect that Citi intended to keep on dancing til the music stopped. They've been paying the piper ever since.

If ever there was a group that need dour rather than glib leadership, I believe it can be found on East 53rd Street.

two little factoids

one, two, three little injuns . . .
how about two factoids?
in the B of A earnings release some Ken Lewis minion mentioned that mortgage loans out of Socal were at 65% loan to value. You want to borrow money from Bank of America to buy a house in a Southern California neighborhood? Not a problem. The bank expects a 20% down payment. Oh, wait a minute, that doesn't mean you can borrow 80% of what the property is worth today. You can borrow 80% of what their model says it will be worth next year. Factor in a 20% decline in real estate values, and, well, we'll lend you 80% of 80%, or, in the interest of customer good will, 65%.
Ouch, and good luck Hank Paulson.
Double ouch. A high end real estate agent in Manhattan reported in the blogosphere as commenting that the better stuff was down a quarter since the middle of summer. Nobody is buying . . .
not sure exactly what the better stuff is, but I imagine its the kind of property that would interest somebody who's gotten a seven figure bonus more than once.