UBS, BNP Paribas reveal fresh hits from credit crisis

LONDON (MarketWatch) -- Two of Europe's largest banks revealed fresh problems stemming from the U.S. housing downturn Wednesday. Swiss banking giant UBS extended its latest write-down to $14 billion and France's BNP Paribas said its quarterly profit will slump over 40%.

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Forex Market Update - 29/01/2008 - FOMC Outlook (2)

FX Insights Moderator,

Just a quick update on some things as we head in to the FOMC...

My short @ 4794 was closed @ 4793 this morning and I've not re-entered the market with any new shorts and will not re-enter with any new shorts at this point... at least not until I see what the Fed does...

I only have 1 open short and that is at 4714 and I will keep this short open for the time being... my overal bias remains euro long -- cautiously long -- I'm not adding any new longs at these levels and not adding any trades at all this close to the rate decision...

This morning's GDP data can certainly lend some credence to the possibility of at least a 50bps cut, as GDP had slowed considerably during Q4 and is presently showing signs of complete stagnation during this first quarter of 2008.

I'd like to caution against jumping into the market as soon as the rate decision is released... we could see a pull back on the EUR/USD when the decision hits the wires...

The pull back can occur as banks are either taking losses, taking profits, and or adding new long positions, which will be based on exactly what the Fed comes out with today...

Sometimes it's best to wait between 4-12 minutes to get a feel for how the price action will play out and to see how the banks will decide to respond and move the market... just some food for thought on that...

Please practice extreme risk and money management today... do not make a knee jerk trade on any of the pairs, especially the yen crosses... formulate a gameplan and stay consistent during these potentially volatile days ahead...

FX Insights

The Failure of Inflation Targeting

By Axel Merk, January 30, 2008

Inflation targeting is yet to be formally adopted by the Federal Reserve (Fed), but recent market and Fed actions already prove that it is a failure. At the whim of trouble in the markets, Fed Chairman Bernanke has made it clear that he is inclined to flood the markets with liquidity at any cost; he said: “We stand ready to take substantive additional action as needed to support growth and to provide adequate insurance against downside risks.”

Contrast that with John-Claude Trichet’s comments: the head of the European Central Bank (ECB) recently said that during times of financial turmoil, it is imperative that inflationary expectations remain firmly anchored. The Fed’s increasing isolation is also apparent from recent comments by Mervyn King, the governor of the Bank of England who said that investors had been mispricing risk for far too long and that “the repricing of that risk … is not a process that we should try to reverse.”

Let me be clear: we have no problem with a central bank to switch into emergency mode per se. But the way the Fed has wobbled into emergency mode, claiming to be vigilant on inflation while debasing the dollar in the process smells of hypocrisy. A central bank’s role is to keep the financial system running, not to run the financial system. Ben Bernanke has very clear views on how the financial system ought to be running. In February 2004, when he was freshly sworn in as a Fed Governor, Ben Bernanke published a report called “The Great Moderation.” In this report, he praised how monetary policy has contributed to a reduction in volatility of output and inflation since the mid 1980s. At first sight, it seems difficult to argue with such analysis; this work may have contributed to his appointment as President Bush’s Chief Economic Advisor, and subsequently to his current role as Chairman of the Federal Reserve.

While we do not deny that low volatility has positive implications, where there is sunshine, there is shadow: in our assessment, the seeds of the current crisis have been planted in the process. Even if you are not an economics Ph.D., you may recall the saying “if there is one thing the market does not like, it is uncertainty.” The less uncertain the world is, the more daring speculators become. Homeowners believing their jobs are secure, or their wages will rise, are more likely to take out a high mortgage. Any speculator is willing to take out more leverage when the future seems certain. Financial institutions have become increasingly “sophisticated” over the past decade and introduced widely acclaimed Value At Risk (VaR) models; these models assess the risk of loss given different scenarios. Put simply, the less volatility, the less uncertainty there is, the more capital may be put at risk. In recent days, there has been talk that banks may require over hundred billion in additional capital should mortgage insurers be downgraded. That’s because the banks’ models suggest that less capital is required for assets classified as safe; however, if someone spoils the party and says the world is a risky place, banks suddenly have a greater portion of their capital at risk, requiring them to either sell off risky assets on their balance sheets, or to raise more capital.

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Forex Market Update - 29/01/2008 - FOMC Outlook

FX Insights Moderator,

Because of the Fed's emergency rate cut last week, the market analysts and economists have been thrown for a loop as to what Bernanke will pull out of his bag of tricks tomorrow... I will not offer any speculations on what Bernanke will do, but I've been preparing accordingly and have tried to position my accounts for the "worst case scenario.

"Now, the "worst case scenario" can certainly carry different meanings to different traders, but to me, whatever the Fed does tomorrow is the worst case scenario, of which I see three worst case scenarios... so, lets take a look at each one...

And just as an aside... you might be wondering why I have three possible worst case scenarios... well, as a trader, economist, and a taxpaying U.S. citizen, the only best case scenario for the U.S. economic situation is for the Fed to begin raising rates, for the gov't to begin reducing the deficit, and for our trade balance to shrink and our GDP to expand, but this is a different conversation for a different time...

Worst case scenario #1:

25bps interest rate cut -- a cut of just 25bps would be just half of what the market is forecasting, and this would be slightly shocking to all markets, including our market... the equities market will likely take a hit and not only see stock sell-offs, but would also see less money flow into stocks, which would turn the USD supportive against the EUR. I think the dollar would actually gain some ground back on the EUR should the Fed only cut by 25bps.

Worst case scenario #2:

50bps interest rate cut -- all markets are forecasting and expecting a full 50bps cut from the Fed. Should the Fed come through with what the markets want and expect, I believe the equities markets all around the world would react very favoribly to this move, more specifically, the Dow and S & P would respond with upward gains and momentum, which would then correlate into the EUR gaining against the USD. In addition, should the Fed cut by 50bps, the interest rate differentials would then turn into 100bps in favor of the euro vs. the dollar... this cut would bring the Fed's rate to 3.00% against the ECB's rate of 4.00%... I think it's quite significant to have a full 100bps interest rate differential between the EUR and the USD...

As you know, bank money flows to the nation that offers the higher rate of return, so I believe would could see renewed upward momentum and upward gains for the euro vs. the dollar. I really cannot imagine why banks would buy up dollars and sell-off euros with a 100bps interest rate differential... of course, we can't always depend on logic in the spot FX market, but the Eurozone now offers a better rate of return and it actually pays to hold euro longs, which is something traders look upon with favor.

Worst case scenario #3:

No interest rate cut -- yes, I absolutely believe there's a reasonable probability that the Fed will keep rates on hold tomorrow. I think it's a distinct possibility because of the emergency actions the Fed took last week... Bernanke's move, in my mind, diminishes some of the need to hack up rates any further tomorrow...

I believe a no cut would be tremendously supportive of the dollar vs. the euro... you see, concensus continues to grow that the ECB will eventually have to cut rates later this year and I am one of those that feels this way... M3 money supply is falling in the Eurozone and that will put less inflation pressure on the ECB... plus, I think we'll see the Eurozone's CPI come down from the highs of 3.1%, but lets not get off track here...

Should Bernanke hold rates steady, this would be a tremendous shock to all markets... our market does not handle shocking interest rate policy with any degree of emotional stability... a no cut could easily send the EUR/USD falling back to support levels between 1.45 and 1.43 in the near-term...

If the Fed were to hold rates tomorrow, global equity indicies would take a hit and I think we'd see some intense sell-offs and losses, which would naturally lead to the euro dropping against the dollar, due to the correlation between the EUR/USD, the Dow, the S&P/500, the S&P/500 and Dow futures, and the EUR/JPY (yes, the connection can run that deep). Then, we'd see traders begin to liquidate gold and oil positions, and possibly take short positions on those commodities to catch the down move, and those short positions in gold and oil would basically equate to taking long USD positions, which would then correlate into more USD support vs. the EUR...

A no cut would lead to some big, nasty crap hitting the fan in all markets, and ultimately I could see the dollar coming out of this smelling like a rose...

Fed psychology:

First, there's quite a bit of speculation that Bernanke made a knee-jerk reaction to last week's global equities sell-off, which was triggered by the nutjob trader from SocGen in France. So, to save face on his move to do an emergency rate cut Bernanke could certainly give the markets the 50bps cut they want, and this would be his way of saying, "last week's cut had nothing to do with the equities issues."

If Bernanke wants to send the markets the message that his biggest concerns are the U.S. economic situation and the issues within the credit markets and with the bond insurers/bond rating agencies, the FOMC will likely "vote" in favor of the 50bps cut. Of course, that cut will do zero to stimulate the economy nor will it offer much relief to the credit market and the banks, again, that's another issue for another time... but at least it would help Bernanke and the Fed save some face...

A 25bps cut or a no-cut could and probably would send our market the message that the Fed is growing more and more concerned with U.S. inflation and less concerned about what's happening on Wall St. This perceived concern about inflation would be very supportive of the dollar vs. the euro. You see, much of the euro's strength against the dollar is due to the fact that the ECB is so hell-bent on keeping inflation under 2%, which equates to tight monetary policy and hawkishness on interest rate policy...

The Fed and the ECB operate on opposite ends of the spectrum... Bernanke and his henchmen at the Fed are nothing more than subservient slaves to Wall St. and the trillion-dollar banking conglomerate that basically control governments and world markets, and because the U.S. still has the most powerful influence over the global markets and global economies, the subservient slaves at the Fed must do two things:

1. Manipulate markets

2. Price fix

Market manipulation and price fixing is accomplished through the Fed's monetary policy... if you want a good example of what price fixing is, look at what happened when Bernanke cut rates by 75bps last week... that move "fixed" prices on all of the equities markets and kept them from continuing to sell-off... I could give hundreds of examples, but you get the idea...

Now, the ECB has a totally different mission and mandate, which is ensuring price stability -- Trichet is almost to the point of being neurotic when it comes to inflation and price stability, but you have to understand why... the German Bundesbank is very influential, and Europeans, especially Germans still remember the days of having to cart in heaps of cash to buy milk and bread... so because the ECB is coming from that angle, they are naturally going to be very tight on monetary policy and less likely to ease on rates even when growth begins to suffer, which is and will be the case this year... so as I said earlier, this is one of the main reasons why the euro has been so strong against the dollar for the past few years...

EUR/USD trading:

All possible scenarios for what could happen are stated above... now, how this translates into trading is a different story because no one truly knows what the Fed is going to slap us with tomorrow...

On last Friday's and this Sunday's updates, we gave the key level, on the downside of 4680 - 4660... it hit 4660 right on the dot on Sunday and has since move towards the top of the range, but unable to breach the 4800 level...

Clearly the market has fallen into a "wait and see" trading range because the banks are speculating just as much as the rest of us and will likely need to see what the Fed decides tomorrow...

It would not surprise me to see some movement out of this range as we draw closer to tomorrow's decision... don't forget that we have key GDP data tomorrow morning, plus, some banks may try to square positions ahead of the FOMC decision and these money flows could cause some movement...

As far as trading goes, I grabbed a 4794 euro short yesterday and will certainly hold this trade, unless of course the market moves against me, in which case the trade will be closed for +1 pips and I may look to re-enter short at a higher position...

On the long side, I am still long from 4385 and will hold all longs that are still in profit below the 4700 level... other than that, I've spent this week trying to flatten out and free up margin just to protect against the unknowns... this is not a situation where I really want to get caught going the wrong way because tomorrow could be monumental...

I'd really like to grab some better euro shorts should the market go up and give an opportunity to do so... as mentioned above, I think in the end of all this the dollar could come out smelling like a rose, even though fundamentally and logically it shouldn't be that way...

I encourage you to do your own analysis of the market and weigh each possibility against the other... I could be way out in left field, but I wanted to at least give you my view on things...

FX Insights

The Future Imperfect?

Waving Goodbye to Hegemony

By Parag Khanna

Turn on the TV today, and you could be forgiven for thinking it’s 1999. Democrats and Republicans are bickering about where and how to intervene, whether to do it alone or with allies and what kind of world America should lead. Democrats believe they can hit a reset button, and Republicans believe muscular moralism is the way to go. It’s as if the first decade of the 21st century didn’t happen — and almost as if history itself doesn’t happen. But the distribution of power in the world has fundamentally altered over the two presidential terms of George W. Bush, both because of his policies and, more significant, despite them. Maybe the best way to understand how quickly history happens is to look just a bit ahead.

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The Business of Walking Away

By Mike "Mish" Shedlock

Previously I discussed the psychology of walking away in 60 Minutes Legitimizes Walking Away, Changing Social Attitudes About Debt, and a Crash Course For Bernanke.

This post will address the business of walking away.

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Inflation Warning

The Financial Times reports the following story:

IMF head in shock fiscal warning

The intensifying credit crunch is so severe that lower interest rates alone will not be enough “to get out of the turmoil we are in”, Dominique Strauss-Kahn, the managing director of the International Monetary Fund, warned at the weekend.

In a dramatic volte face for an international body that as recently as the autumn called for “continued fiscal consolidation” in the US, Dominique Strauss-Kahn, the new IMF head, gave a green light for the proposed US fiscal stimulus package and called for other countries to follow suit. “I don’t think we would get rid of the crisis with just monetary tools,” he said, adding “a new fiscal policy is probably today an accurate way to answer the crisis”.

My comment: The "shocking" part for me in this article is that the IMF MD is calling for defecit spending, interest rate cuts and more monetary inflation. This is what got the global economic landscape into the trouble it is in today! Watch your local Central Bank for rate cuts when it is actually supposed to be increasing rates. Deja vu anyone?

It's like a Doctor prescribing IcyHot/Deep Heat for Jock-Itch !

Zimbabwe Economics

by Bill Bonner

Bill Clinton should have gone to the Alps. Instead, the poor man went to the piedmont...to the aid of his wife in South Carolina.

At the annual Davos, Switzerland, conference of celebs, power-brokers, and do-gooders, Clinton was always a hit. In Carolina, he was a flop.

If he’d been in Davos, he might have given the meeting some of the magic of the old days. Every year, the movers and shakers gather to tell each other how to make a better world. Most just blather in a way that began naïvely, early in their careers, soured into cynicism in middle age, and finally becomes merely stupid. Some probably still think they can improve things. A few probably succeed.

But this year’s meeting seems to have had a defeatist tone to it. Probably because the news was bad.

Last Sunday, it was discovered that a young man at an old bank had managed to get himself into $50 billion worth of positions – most of them losing positions. This was more than half of the value of all of France’s gold and currency reserves. It was more than the entire value that had been built up by the bank over decades. How could it happen? What was wrong? How could banks be so fragile...and what could you think of the whole world’s financial system when it was built with bricks that cracked up so readily?

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War vs. Peace

By Lew Rockwell,

There are many reasons why Ron Paul is a great hero, from his leadership against the recession-causing Fed to his opposition to income-tax theft. But this illustration, and thanks to David Kramer for sending it, sums up the most important reason we love and admire Ron, and despise his neocon opponents.

Money and the Economic Crisis

Money: Pathology and Reality

Recent daily articles on Mises.org and LewRockwell.com have addressed the economic downturn, and the unbearably bad response from Washington and the Fed. These people have learned all the wrong lessons from the Great Depression. There is nothing that the planners won't consider at this point: wage and price controls, floods of new money, exchange controls, protectionism, hundreds of billions in public works – you name it.

The good news is that all the literature necessary to combat this nonsense is in print. The Austrian perspective is there to make sense of the current economic mess.

HERE ARE ALL THE RECOMMEND BOOKS

(NB: I'll be making an effort to add as many of these books listed to my list of E-Books, which can be downloaded in PDF format) Note: DONE !!! :-)

Economic Stimulus Concerns

By Ron Paul,

This past week in Washington there has been much talk about the economy. It seems by their actions the leadership and the Fed is finally willing to admit we have a problem, and we need to do something about the economic mess we are in. This is a good thing. However, they are still not being honest about the root cause of our impending crisis and want to deal only with symptoms, not the disease.

There are some positive aspects of the highly lauded economic stimulus package that has been negotiated. I am in favor of taxpayers getting some of their money back, however temporary tax cuts and one-time rebates will not “fix” the economy. What we desperately need right now is real deep significant tax cuts that are enabled by big spending cuts and reduction of government waste that is so rampant. Unfortunately, too many in Washington still believe we can spend our way into prosperity, which does not work and never has.

Countries build wealth through robust economic environments, in which jobs are created and businesses can operate at a profit and grow. When taxes bleed away profits and burdensome regulation hamstrings operations, our businesses and our jobs go overseas. The United States must foster a competitive business environment once again.

There are a few ideas out there for economic stimulus that I do support, such as making permanent President Bush’s tax cuts. I have also signed on as one of 49 original cosponsors of the Economic Growth Act of 2008 which will provide actual economic stimulus through private sector tax relief and job-creating business incentives. This plan features :

• Full immediate expensing for major business asset investments
  


• Reducing the top corporate tax rate from 35% to 25% to be aligned with average rates in Europe
  


• Indexing the capital gains tax for inflation
  


• Cutting and simplifying the corporate capital gains rate
  
  

Enactment of these dramatic tax cuts will free up money so employers can start hiring again. I would like for the unemployed to have the satisfaction of having a job again so the standard of living of the American family will go up. And even more than a one-time miniscule rebate check, I want you to keep more of your own money in the first place.

Sending out checks and cutting interest rates yet again is merely a shot in the arm when in actuality, the economy needs major surgery. I look forward to working with my colleagues in Congress to provide major tax relief to the American people.

What You Should Know About Inflation

I have added "What You Should Know About Inflation" by Henry Hazlitt to the list of Educational Economic E-Books, which you can download in PDF format.

Just right-click on the link and "Save Target As..."

A quick overview of the book and what it's about:

The book's title—What You Should Know About Inflation—only hints at the extent of the issues that Hazlitt addresses. He presents the Austrian theory of money in the clearest possible terms, and contrasts it with the fallacies of government management. He takes on not only the Keynesians but also the monetarists, as well as anyone who believes that government debt accumulation and manipulation of interest rates are harmless.


So this book is about far more than inflation. He touches on a wide variety of macroeconomic topics, any area of economic policy that is related to the monetary regime, including budget and trade issues, as well has the economic history of inflation.


Neither does he neglect the moral cost of inflation:


It is not merely that inflation breeds dishonesty in a nation. Inflation is itself a dishonest act on the part of government, and sets the example for private citizens. When modern governments inflate by increasing the paper-money supply, directly or indirectly, they do in principle what kings once did when they clipped coins. Diluting the money supply with paper is the moral equivalent of diluting the milk supply with water. Notwithstanding all the pious pretenses of governments that inflation is some evil visitation from without, inflation is practically always the result of deliberate governmental policy.


Particularly interesting is the final section of the book in which Hazlitt critiques various proposals for monetary reform and then presents his view.


What is Hazlitt's own idea for monetary reform? He wants competitive monies, which he believes will be based in precious metal. He doesn't demand that governments get out of the monetary business altogether but merely that government permit everyone to choose to use any money and make any form of contract.


Hazlitt lays out a scenario that he believes will lead to a 100 percent gold standard rooted in private coinage. In effect, he argues that private markets can do for money what private services have done to a whole host of government ones: outcompete and displace them. It is a challenging thesis, particularly because it doesn't depend on any reform other than freeing the market.

• What Inflation is
• Some Qualifications
• Some Popular Fallacies
• A Twenty-Year Record
• False Remedy: Price Fixing
• The Cure for Inflation
• Inflation Has Two Faces
• What 'Monetary Management' Means
• Gold Goes With Inflation
• In Dispraise of PAper
• The Cure for Inflation
• Inflation and High Costs
• Is Inflation a Blessing?
• Why Return to Gold
• Gold Means Good Faith
• What Price for Gold?
• The Dollar-Gold Ratio
• Lessons of the Greenbacks
• The Black Market Test
• How to Return to Gold
• Some Errors of Inflationists
• Selective Credit Control
• Must We Ration Credit?
• Money and Goods
• The Great Swindle
• Easy Money = Inflation
• Cost-Push Inflation?
• Contradictory Goals
• Administered Inflation
• Easy Money has an End
• Can Inflation Merely Creep?
• How to Wipe Out Debt
• The Cost-Price Squeeze
• The Employment Act of 1946
• Inflate? Or Adjust?
• Deficits vs. Jobs
• Why Cheap Money Fails
• How to Control Credit
• Who Makes Inflation?
• Inflation as a Policy
• The Open Conspiracy
• How the Spiral Spins
• Inflation vs. Morality
• How Can You Beat Inflation?
• The ABC of Inflation

You can also purchase the paperback version here.

Enjoy!!!

The great fiscal stimulus package ... of 1929

Stephen W. Carson

Is the myth of the "do nothing" Herbert Hoover dying? Michael Kitchen at MarketWatch writes:

...Herbert Hoover -- only nine months into his presidency -- assembled leaders from the public and private sectors to create an economic-stimulus package. Among the measures, Time magazine reported at the time, was a promise from Congress to offer bipartisan support for a tax-cut package. The proposal called for $160 million in tax relief -- only about $22 billion if adjusted against the gross domestic product at the time, and therefore much smaller than the plan under consideration here in 2008. Read Time's original coverage of the plan.

Also on the table was an assurance from the Federal Reserve that it would provide cheaper credit.

Has someone been reading Rothbard? [Thanks Digg]

Ron Paul... Dirty Secrets from the Past !

Fiscal Follies

Christopher Westley

Years of spending, inflating, taxing, and redistributing has left the US economy teetering on a recession that our best and brightest -- meaning the ones who created this mess -- claim requires a multibillion-dollar economic-relief package to quell fears, promote confidence, and spur recovery.

And, one might add, to keep things calm past election time, which is the real purpose of this bipartisan proposal.

It leaves you wondering about what happened to the 1990s boom, a credit-fueled expansion also influenced by a peace dividend. The end of the Cold War produced a floundering federal government that lost its rationalization to grow and found itself unsure of its purpose, thus promoting an era of relative peace and prosperity.

Oh, how things changed in the 2000s, with new monsters to destroy and new justifications for centralized power! FULL ARTICLE

The 'big' house price slump may be upon us

By Angela Monaghan

Roger Bootle, economic adviser to Deloitte and a Telegraph columnist has warned that the "big one", referring to a sharp fall in house prices, may be upon us and that there is a risk the economy will slip into a full-blown recession.

The UK is facing its bleakest period of growth since the recession of the early 1990s. Mr Bootle, who is also managing director of Capital Economics, said that a "prolonged" economic downturn of more than a year may force employers to "wield the axe more sharply than in briefer downturns."

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Government the Destroyer: The Broken Window Fallacy

by Llewellyn H. Rockwell, Jr.

[This talk was delivered at the 2008 Mises Circle in Houston.]

The claim of the Austrian School that has scandalized members of other schools for 150 years is the following. The propositions of economics are universal. The principles apply in all times and all places, because they derive from the structure of reality and human action.

What brought about economic growth, inflation, or the business cycle in China in 300 BC are the same institutions that drive phenomena in the United States in AD 2008. The circumstances of time and place change, but the underlying economic reality is identical.

That claim has made other economists — to say nothing of sociologists, historians, and politicians — scatter like pigeons. The Historical School poured scorn on this idea, and Carl Menger, the founder of the Austrian School, fought them tooth and nail. The Chicago School of positivists found the claim preposterous, and Mises and Hayek and Rothbard battled them.

The Keynesians have long been outraged, and the postwar Austrian generation reasserted the truth. The socialists, who posit that rearranging property titles will transform all of reality, say that the claim is absurd, capitalistic nonsense.

But there it stands. No matter where or when, the essential prerequisite for economic growth is capital accumulation in a framework of freedom and sound money. The consequence of price control is shortage and surplus. The effect of money expansion is inflation and the business cycle.

The effect of every form of intervention is to make society less prosperous than it would otherwise be. The list of universals is endless, which is why every age needs good economists to explain and articulate the truth.

Well, I would like to add that there are universal fallacies too.

Frederic Bastiat pointed to one: the belief that the destruction of wealth fuels its creation. He explains this by means of an allegory that has come to be known as the story of the broken window. Most famously it was retold as the opening of Henry Hazlitt's Economics in One Lesson, which is probably the bestselling economics book of all time.

A kid throws a rock at a window and breaks it, and everyone standing around regrets the unfortunate state of affairs. But then up walks a man who purports to be wise and all knowing. He points out that this is not a bad thing after all. The man fixing the window will get money for doing so. This will then be spent on a new suit, and the tailor too will get money. The tailor will spend money on other items, and the circle of rising prosperity will expand without end.

What's wrong with this scenario? As Bastiat put it, "It is not seen that as our shopkeeper has spent six francs upon one thing, he cannot spend them upon another. It is not seen that if he had not had a window to replace, he would, perhaps, have replaced his old shoes, or added another book to his library. In short, he would have employed his six francs in some way which this accident has prevented."

You can see the absurdity of the position of the wise commentator when you take it to absurd extremes. If the broken window really produces wealth, why not break all windows up and down the whole city block? Indeed, why not break doors and walls? Why not tear down all houses so that they can be rebuilt? Why not bomb whole cities so construction firms can get busy rebuilding?

It is not a good thing to destroy wealth. Bastiat puts it this way: "Society loses the value of things which are uselessly destroyed."

It sounds like an unexceptional claim. But herein rests the core case against everything the government does. Perhaps, then, we can see why the allegory is not better known. If we took it seriously, we would dismantle the whole apparatus of American economic intervention.

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Countrywide Financial Corporation and the Failure of Mortgage Socialism

by Eric Englund

Angelo Mozilo is the Chairman, President, and Chief Executive Officer of the failed Countrywide Financial Corporation. Mr. Mozilo co-founded this company, nearly 40 years ago, in 1969. To be in business for almost forty years, and to become America’s top private home-mortgage lender, are testimonies to genuine business acumen. However, success can breed arrogance, and a sense of supreme power, to the point where a corporate chieftain believes his personal will can override the free market and reshape society according to a grand vision – which, for Angelo Mozilo, entailed making America a better country by bringing home ownership within reach of all and sundry. For Countrywide Financial, unfortunately, Mr. Mozilo’s dream of social engineering demanded that sound credit-underwriting principles be abandoned. And now, Countrywide Financial Corporation’s failure stands as a monument as to how integrating egalitarianism and political correctness, into a business plan, is downright poisonous.

February 4, 2003 marks the day when Countrywide Financial’s shareholders should have dumped every last share of their stock. For on this day Angelo Mozilo made a presentation, at The Joint Center for Housing Studies of Harvard University, titled The American Dream of Homeownership: From Cliché to Mission. This is the day that Mr. Mozilo revealed to the world that political correctness had infected his mind. He openly declared that sound credit underwriting was tantamount to judgmentalism and, therefore, anti-egalitarian. How dare anyone judge anyone else – credit standards be damned. Subprime mortgages, accordingly, were going to be a blessing for America since everyone deserves a house. Oh how political correctness feels so good. He worshiped the mortgage socialism hatched in the New Deal along with every federal-housing program introduced in the succeeding decades. A true credit professional would have been horrified by this speech; which indubitably was met with approving applause by the pseudo-intellectual, limousine liberals populating Harvard University. February 4, 2003 is the day Countrywide Financial’s Board of Directors should have fired Mr. Mozilo.

Over the years, Angelo Mozilo has been handsomely rewarded by Uncle Sam’s mortgage socialism. Here’s how it works. Countrywide Financial makes a conforming home loan, sells it to Fannie Mae or Freddie Mac (both are government sponsored enterprises), and has its coffers replenished in doing so; hence, allowing Countrywide to keep churning out loans. Countrywide, in turn, remains the mortgage servicer on each loan and earns a fee for doing so. These fees most certainly add up when you are servicing $1.5 trillion in home loans (not all of which are Fannie and Freddie loans). Needless to say, Countrywide had other sources of revenues but mortgage servicing was top-shelf when it came to profitability.

Thus, it is no wonder why Mr. Mozilo waxed fondly, in his Harvard speech, regarding America’s foray into mortgage socialism. After all, it made him very wealthy. Here is an excerpt:

Our Nation took another important step in 1938 – in fact, 65 years ago this week – when Fannie Mae was created to buy those FHA loans, and as a result, the secondary mortgage market was born. We took a few more giant steps in the 1940s with the G.I. Bill in 1944 and the Housing Act of 1949, which stated the goal of "a decent home and a suitable living environment for every American family." We witnessed the Fair Housing Act in the 60s, the creation of Freddie Mac in 1970, the expansion of Fannie Mae’s activities, the Community Reinvestment Act in the 70s, the introduction of adjustable-rate mortgages in the 80s, and more recently, the National Affordable Housing Act of 1990.

We have traveled so far – thanks to a mortgage-finance system that remains the envy of the world; thanks to a constant stream of creative and innovative mortgage products, and efforts directed at encouraging the offering of loans to those who have been previously shut out; and simply put, thanks to housing being an enduring public policy objective and the lasting commitment to that objective symbolized by our partnership.

We have transformed from a Nation of renters to a Nation of homeowners. The overall U.S. homeownership rate, which was at 44 percent in 1940, hit 68 percent by the end of the third quarter of 2002.

One can only imagine Mr. Mozilo’s broad smile as he delivered these words. Between his compensation and stock sales, Angelo has made hundreds of millions of dollars. Socialism certainly can be beneficial for an elite few.

Do you remember President George W. Bush’s initiatives to increase homeownership in the United States? His administration definitely played a role in creating America’s housing bubble. When speaking about housing assistance, President Bush evoked the emotion of envy and declared that the U.S. had a "homeownership gap." Angelo Mozilo, being a kingpin of political correctness, couldn’t resist playing the envy-card to an approving Harvard audience. He stated:

It started with the New Deal, and now, we’re in a new century. But through it all, one thing has remained, more or less, constant. This constant is our challenge. And this challenge is to increase the access to affordable housing. And in order to do this, we must close the homeownership gap that still exists.

As President Bush said last October:

"Two thirds of all Americans own their homes, yet we have a problem here in America because fewer than half of the Hispanics and half of the African Americans own their home. That’s a homeownership gap. It’s a gap that we’ve got to work together to close for the good of our Country, for the sake of a more hopeful future. We’ve got to work to knock down the barriers..."

While the number of minority homeowners has advanced recently, climbing from 9.5 million in 1994 to 13.3 million in 2001 – an increase of 40 percent – the fact remains that it is still not at a level equal to that of white homeownership. And as President Bush pointed out, the homeownership rate for African Americans is 47 percent and for Hispanic Americans it is 48 percent, a stark contrast to the homeownership rate of 75 percent for white American households. That means there is currently a homeownership gap of over 25 points when comparing white households with African Americans and Hispanics. My friends, that gap is obviously far too wide. It has been far too wide for far too long. And when adding new factors into the equation – like an influx of new immigrants or continued reduction in the supply of affordable housing – it has the potential to become far worse.

Credit underwriting has nothing to do with race, creed, skin color, gender, or religion. Sound credit underwriting has everything to do with the "Five Cs" of credit – i.e., character, capacity, capital, collateral, and conditions. Under pure capitalism, a credit underwriter is not concerned about making people happy by lending money regardless of a person’s creditworthiness. An underwriter’s primary objective is to make profitable loans and this demands nothing less than effectively assessing risk on a case-by-case basis. This, undeniably, requires underwriters to exercise learned judgment. Ah, but to say this in the cradle of political correctness (Harvard) would have been met with resounding "boos."

To be sure, Mr. Mozilo did not disappoint his fellow limousine liberals. He goes on the attack and smears credit underwriters as being judgmental – the antithesis of political correctness. Considering that Countrywide had become the largest private mortgage lender in the U.S., the following words depict a man who had taken leave of his senses:

I have two issues with our industry’s current underwriting methodology. The first is that the automated underwriting systems kick far too many applicants down to the manual underwriting process, thereby implying these borrowers are not creditworthy; and the second issue is that once arriving in the hands of a manual underwriter, the applicant is subject to basic human judgment that can be influenced by the level of a borrower’s credit score.

Let’s address my first issue. I acknowledge that credit scoring uses proven statistical methods to provide lenders with the ability to quantify the risk of extending credit. And there is little question that the technique effectively and efficiently separates those with very good credit from those with questionable credit.

However, far too many borrowers are being referred to an arduous manual and cumbersome underwriting process. To me, that is clear proof that the level deemed to be an acceptable risk by our automated underwriting systems is much too high. While many of these borrowers may ultimately be approved, it is because the manual process, or human underwriter, has analyzed non-traditional factors such as the borrower’s rent and utility payment history, which should be imbedded in the automated underwriting process.

Now, let me address my second issue, and that is the manual underwriting process itself. While Countrywide’s own internal evidence supports the notion that manual underwriters are approving a good majority of the loan applications that get referred, the fact of the matter remains that a human is involved in this step of the process thereby creating the possibility that a decision is made based upon the level of the borrower’s FICO score.

Thus, the current protocol intentionally creates an environment where borrowers with lower FICO scores are subject to being disproportionately affected by the manual underwriting process. I say we need to amend these systems to do more than just approve the "cream of the crop," by creating a system that says "no" only to those deemed unwilling to make their mortgage payments.

We must understand that the credit scoring system we have built is still imperfect, and that if we are to have any chance at closing the homeownership gap, we must make a serious investment in improving its capacity and capabilities. We must do this through improved automated underwriting models that take into account more variables, and measure true indicators of risk and willingness to pay. We need an ongoing educational process, not only at the primary market level, but also in the secondary markets and with mortgage insurers to help lead this effort to recalibrate the scoring system. And finally, it must be recognized that borrowers with credit scores below what is currently defined as "creditworthy" levels can still be acceptable credit risks. Thus, the credit score bar dividing creditworthy from high-risk borrowers, must be substantially lowered by the GSEs, the secondary market in general, and with bank regulators. The GSEs have made good progress over the last few years in expanding their credit criteria, but I encourage them to become much more aggressive in this regard.

What Angelo Mozilo desires to accomplish is to replace human underwriters with computers. He never mentions the Five Cs of credit because sound credit underwriting requires human judgment; which can be aided with, yet never replaced by, technology. In Mr. Mozilo’s daffy world of credit progressivism, he may as well distill the mortgage application down to a one-page document containing a single question: Are you willing to make your mortgage payment? If the answer is "yes" then the loan is approved and if the answer is "no" then it is declined. Under such circumstances, a computer would work perfectly.

As I have asserted before, political correctness is an enfeebling infection of the mind. Mr. Mozilo’s vision of politically-correct, and "enlightened," credit underwriting was nothing short of daffy. Yet, one can only imagine how approvingly this pabulum was met by his Harvard chums.

Angelo Mozilo had no intention of disappointing his fellow travelers. There was hope as to closing the homeownership gap. It was something called the subprime mortgage. In his bizarre mind, the more subprime mortgage originations there were, the better off America would be. To wit:

Historically low interest rates along with new, creative and flexible underwriting techniques are continuing to fuel a record period of growth for our industry. According to the Federal Reserve, the amount of overall mortgage debt outstanding is nearly $6 trillion. And, increasingly, the sub-prime market is boosting that number and the industry as a whole. During the first nine months of 2002, sub-prime originations rose an estimated 26 percent over the same period in 2001 – outpacing the overall market.

Had Mr. Mozilo delivered this speech today, he would have immediately been fitted into a straightjacket and then driven to the nearest loony bin.

Countrywide Financial and many other financial institutions ended up throwing all credit standards out the window in order to package and sell as many subprime mortgage-backed securities as possible. To be sure, many did not do so sharing Mozilo’s politically-correct and egalitarian hallucination – they just wanted to make a fast buck.

An important distinction to convey here pertains to the fact that Countrywide and others were not selling all of their loans to Freddie and Fannie. The aforementioned mortgage-backed securities were purely packaged and sold under private labels. When America’s housing bubble was expanding, buyers of such subprime securities obviously felt there was no downside. Such are the delusions that materialize when central bankers flood the world with the opiates of easy money and credit.

Regrettably, by completely ignoring underwriting fundamentals, Countrywide and its ilk have set up so many borrowers for failure (as have the king and queen of mortgage socialism, Freddie Mac and Fannie Mae; both of whom, by the way, may be on the brink of their own financial meltdowns). The pain and anguish of losing a home, and having one’s family displaced, will be visited upon countless families. Of course, such borrowers must look in the mirror when the urge, to pass around the blame, emerges. Nonetheless, Angelo Mozilo’s dream has transmuted into a nightmare for millions.

My, oh my, aren’t political correctness, egalitarianism, and social engineering wonderful? You be the judge.

January 28, 2008

Eric Englund has an MBA from Boise State University and lives in the state of Oregon. He is the publisher of The Hyperinflation Survival Guide by Dr. Gerald Swanson. You are invited to visit his website.

The Crash of the Bank of United States

By Benjamin M. Anderson*

By the fourth quarter of 1930 the trouble with the Bank of United States gave occasion to grave concern.

The Bank of United States was a bank which ought never to have existed, and which certainly ought never to have had the name it had. One leading banker of New York went personally to Albany to protest against the giving of such a name to that bank or to any other bank, and was told that there was a political debt to pay.

In the period 1924 to 1929, with excess reserves and rapid bank expansion, it was easy for plungers and speculators to grow rapidly. There was a heavy discount on sound banking, and a high premium on reckless plunging. One watched it with apprehension, afraid not merely that bankers would lose their judgment but also that in many cases moral standards would crack. In many cases judgment went bad, and in more cases traditional practices, sound and tested, turned out to be bad practices in such an abnormal money markets as then existed. But the great majority of American bankers kept their integrity and tried to adhere to established and approved banking practices. However, it was an era in which the bold speculator and promoter could gain ground rapidly at the expense of the conservative banker, and it was a period in which departures from convention and approved banking practices would seem to be brilliant strokes of genius ― while the new era lasted.

The Bank of United States grew very rapidly down to 1929. The name itself meant, as it was designed to mean, to many of the ignorant people of Europe, that this was the national bank, the state bank, the official bank of the United States. Deposits came to it from a great many of those people and from a great many of the ignorant poor on the East Side of New York. And a great deal of business was brought to it, too, by men engaging in speculative activities who could get the desired accommodation from this bank which other banks of New York would not give.

Loans against mortgages were generally looked upon at askance by great New York banks. The first principle of commercial banking is to know “the difference between a bill of exchange and a mortgage”. Second mortgages and third mortgages were notoriously improper documents in a bank’s portfolio or as a collateral to its loans. But the Bank of United States went in heavily for these. It had an affiliate also ― the Bankus Corporation. This was engaged in many yet more questionable transactions, including manipulation of the stock of the bank and loans against the stock of the bank. In addition to the utterly unsound banking practices, there were definitely criminal acts for which the head of the bank subsequently went to prison ― not unaccompanied.

READ THE REST

Financial Crisis Poised To Hit Europe

From Mish's Global Economic Trend Analysis

Financial Crisis Poised To Hit Europe

Three more nails in the were driven into the European decoupling myth coffin this past weekend. Let's take a look.Reuters is reporting Financial crisis to hit 20,000 London jobs.

"As many as 20,000 jobs in London's financial district are likely to be wiped out due to the financial crisis, a survey showed on Sunday.

The Sunday Telegraph reported that Experian, which provides data and forecasts to government and private bodies, had slashed its predictions for job growth in the City of London and Canary Wharf to a fall of up to 5 percent from its previous forecast of flat net employment this year.

Experian expects between 10,000 and 20,000 jobs to be lost over the year, with the majority going from the financial sector.

With up to 400,000 people employed in London's financial district, a fall of this scale could severely affect the economy, dragging commercial property prices down and hitting related industries such as IT and telecoms, it said. READ THE REST