Saturday, January 31, 2009

How Bad Is It?

The Wall Street Journal reports that we just experienced the Worst January on Record for Stocks .

Calculated Risk has posted a series of graphs that depict just how bad various aspects of the economy are. See January Economic Summary in Graphs. Things are bad indeed -- many indicators are the worst on record.

But some of my friends in the banking industry tell me that they see a dim light at the end of the tunnel. Big bankers are looking favorably at the Obama administration's rescue plan insofar as it would decouple the fortunes of the housing market from the assets of the banks.

The plan to take the bad assets off the books of the banks supposedly would diminish the banks' exposure to the unknown risks of many mortgages, mortgage backed securities, and their derivatives, removing some of the uncertainty about the viability of the banks. Conceivably, the same would apply to credit cards, student loans and the rest of the toxic fallout from the credit bubble. What, then, will be left of the banks' portfolios of business (which, when all is said and done, is lending)? And how will the banks rebuild that business? Unemployment above 8% would be bad news for the banks and the rest of us. See Bankers' Fear of Unemployment.

The government's solutions are designed to restart lending. But what they really want is to restart borrowing. But with 40% of the world's wealth having vanished and unemployment rising, the attempts to get people to releverage will not work. Few want to crawl back up that slippery slope.

Thursday, January 29, 2009

Look Who's Blaming Capitalism!

On January 29 the Wall Street Journal Online published an article by Marc Champion in Davos, Switzerland, and Andrew Batson in Bejing entitled "Russia, China Blame Woes on Capitalism." The article and the full text of the speeches of Vladimir Putin and Premier Wen, which are linked in the article, make interesting reading.

One thing you might overlook is that the word "capitalism" does not appear in the remarks of either Mr. Wen or Mr. Putin. Nor does it appear in the text of the article itself. The application of the word to the title of the article was no doubt the figment of the imagination of the Wall Street Journal's editorial staff. The word no doubt was selected as a headline shorthand for the U.S. economic system but it is a misnomer. The U.S. economic system is not capitalism. It is "state corporatism," economic fascism or a "mixed economy." They are all a mixture of government ownership of enterprise and privately owned enterprise that is government controlled. Capitalism, by contrast, is an economic system in which private enterprise is neither owned nor controlled by government -- i.e., laissez faire. See The Myth That Laissez Faire is Responsible for Our Financial Crisis . Also see The Credit Crisis and Moral Hazards.

The main stream press, yes even the Wall Street Journal, wittingly or not, continue to poison the public mind by corrupting definitions and equating the concepts of freedom with the concepts of slavery. George Orwell is spinning in his grave.

The remarks by the two world leaders exhibit a deeper understanding of the current worldwide economic crisis than most leaders in the U.S. exhibit, and possibly have a some decent advice to offer. Consider the following remarks of Mr. Putin --
There is a certain concept, called the perfect storm, which denotes a situation when Nature's forces converge in one point of the ocean and increase their destructive potential many times over. It appears that the present-day crisis resembles such a perfect storm.

Responsible and knowledgeable people must prepare for it. Nevertheless, it always flares up unexpectedly.

The current situation is no exception either. Although the crisis was simply hanging in the air, the majority strove to get their share of the pie, be it one dollar or a billion, and did not want to notice the rising wave.

In the last few months, virtually every speech on this subject started with criticism of the United States. But I will do nothing of the kind.

I just want to remind you that, just a year ago, American delegates speaking from this rostrum emphasised the US economy's fundamental stability and its cloudless prospects. Today, investment banks, the pride of Wall Street, have virtually ceased to exist. In just 12 months, they have posted losses exceeding the profits they made in the last 25 years. This example alone reflects the real situation better than any criticism.

The time for enlightenment has come. We must calmly, and without gloating, assess the root causes of this situation and try to peek into the future.

* * *

Esteemed colleagues, one is sorely tempted to make simple and popular decisions in times of crisis. However, we could face far greater complications if we merely treat the symptoms of the disease.

Naturally, all national governments and business leaders must take resolute actions. Nevertheless, it is important to avoid making decisions, even in such force majeure circumstances, that we will regret in the future.

This is why I would first like to mention specific measures which should be avoided and which will not be implemented by Russia.

We must not revert to isolationism and unrestrained economic egotism. The leaders of the world's largest economies agreed during the November 2008 G20 summit not to create barriers hindering global trade and capital flows. Russia shares these principles.

Although additional protectionism will prove inevitable during the crisis, all of us must display a sense of proportion.

Excessive intervention in economic activity and blind faith in the state's omnipotence is another possible mistake.

True, the state's increased role in times of crisis is a natural reaction to market setbacks. Instead of streamlining market mechanisms, some are tempted to expand state economic intervention to the greatest possible extent.

The concentration of surplus assets in the hands of the state is a negative aspect of anti-crisis measures in virtually every nation.

In the 20th century, the Soviet Union made the state's role absolute. In the long run, this made the Soviet economy totally uncompetitive. This lesson cost us dearly. I am sure nobody wants to see it repeated.

Nor should we turn a blind eye to the fact that the spirit of free enterprise, including the principle of personal responsibility of businesspeople, investors and shareholders for their decisions, is being eroded in the last few months. There is no reason to believe that we can achieve better results by shifting responsibility onto the state.

And one more point: anti-crisis measures should not escalate into financial populism and a refusal to implement responsible macroeconomic policies. The unjustified swelling of the budgetary deficit and the accumulation of public debts are just as destructive as adventurous stock-jobbing.

* * *

Ladies and gentlemen, unfortunately, we have so far failed to comprehend the true scale of the ongoing crisis. But one thing is obvious: the extent of the recession and its scale will largely depend on specific high-precision measures, due to be charted by governments and business communities and on our coordinated and professional efforts.

In our opinion, we must first atone for the past and open our cards, so to speak.

This means we must assess the real situation and write off all hopeless debts and "bad" assets.

True, this will be an extremely painful and unpleasant process. Far from everyone can accept such measures, fearing for their capitalisation, bonuses or reputation. However, we would "conserve" and prolong the crisis, unless we clean up our balance sheets. I believe financial authorities must work out the required mechanism for writing off debts that corresponds to today's needs.

Second. Apart from cleaning up our balance sheets, it is high time we got rid of virtual money, exaggerated reports and dubious ratings. We must not harbour any illusions while assessing the state of the global economy and the real corporate standing, even if such assessments are made by major auditors and analysts.

In effect, our proposal implies that the audit, accounting and ratings system reform must be based on a reversion to the fundamental asset value concept. In other words, assessments of each individual business must be based on its ability to generate added value, rather than on subjective concepts. In our opinion, the economy of the future must become an economy of real values. How to achieve this is not so clear-cut. Let us think about it together.

Third. Excessive dependence on a single reserve currency is dangerous for the global economy. Consequently, it would be sensible to encourage the objective process of creating several strong reserve currencies in the future. It is high time we launched a detailed discussion of methods to facilitate a smooth and irreversible switchover to the new model.

Fourth. Most nations convert their international reserves into foreign currencies and must therefore be convinced that they are reliable. Those issuing reserve and accounting currencies are objectively interested in their use by other states.

This highlights mutual interests and interdependence.

Consequently, it is important that reserve currency issuers must implement more open monetary policies. Moreover, these nations must pledge to abide by internationally recognised rules of macroeconomic and financial discipline. In our opinion, this demand is not excessive.
Clearly, Mr. Putin is no capitalist. But having read that, ask yourself, who is closer to being a capitalist - the people who presume to be controlling the U.S. economy, or Mr. Putin?

Wednesday, January 14, 2009

Scientology, Seizures and Science

Dr. Edward L. Hudgins has posted an insightful editorial entitled, Scientology, Seizures and Science. While taking care not to suggest that the Travolta's tragedy can be laid at the feet of Scientology, he takes the occasion to shine the light of day on one of the more bizzare "religions." For those who have never been exposed to the "theology" underlying Scientology, the editorial is educational and worthy of your consideration. Hudgins continues to illustrate how social commentary can be forthright but civil, rather than nasty and strident. The approach is a good way to persuade people to want to listen to what else you have to say.

Saturday, January 10, 2009

The Prescience of Ayn Rand

Yesterday, Stephen Moore, economics editor for the Wall Street Journal, published an editorial entitled, "'Atlas Shrugged': From Fiction to Fact in 52 Years." At the end of the piece, he addressed the planned movie of this cautionary tale by Ayn Rand:
David Kelley, the president of the Atlas Society, which is dedicated to promoting Rand's ideas, explains that "the older the book gets, the more timely its message." He tells me that there are plans to make "Atlas Shrugged" into a major motion picture -- it is the only classic novel of recent decades that was never made into a movie. "We don't need to make a movie out of the book," Mr. Kelley jokes. "We are living it right now."
Those of you who are having trouble understanding why "what you are living right now" is incomprehensible should read the book.

(Update 1/21/08) The Journal editorial has been wildly popular. Watch the video interview of its author.

Wednesday, January 7, 2009

Are We There Yet?

In a word, no.

There is no point in repeating what qualified and proven analysts such as Meredith Whitney and Nouriel Roubini have said and is obvious from the news, some of which is linked below. Roubini, known for his accurate predictions, thinks the contraction will be global and will last two years or longer. See Warning: More Doom Ahead

The Obama administration will be counting on consumer spending to again elevate us from a recession. Consumers’ $10 trillion in annual spending currently represents 70% of the GDP. Government deficit spending will be added to the $3 trillion in current government spending, which represents 20% of GDP. While the government might follow through on its promises to increase spending by $1-3 trillion, from the economy’s greater dependence on consumer spending it is apparent that the key to any recovery will turn on consumer confidence and whether consumers will spend the new-found money they will enjoy from a promised 3 million new jobs and a revived economy. But it will take quite some time from the passage of a new stimulus package and federal programs to “create” those jobs and for any money from them to filter into the economy. We have learned that putting cash directly into consumer pockets might provide some immediate but little long term effect on the economy.

Consumer confidence is not high at the moment and it is hard to see it improving significantly until the economic fundamentals improve generally – certainly not while unemployment is rising at an unexpectedly greater pace.

Additionally, the solutions offered by the Federal Reserve are based on the assumptions that if everyone borrowed more, they would spend more. That is not happening. And it may never happen. The economy will have to adapt to a paradigm shift. See Op-Ed: Social Mood Changes Forever

The credit crisis among the large financial institutions continues to serve as the core drag on the economy. The huge volume of over-the-counter credit default swaps outstanding represent contingent liabilities that are, as a group, three to four times the GDP and ten times the size of their underlying credit obligations. And many remain undisclosed on the books of banks, investment houses, hedge funds, insurance companies and others who sold or bought that form of insurance, which was backed by nothing but promises and the financial wherewithal of the counterparties. The downgrading of financial instruments and institutions will continue to grow the counter-party risk in the financial system.

A counterparty default would mean that an obligation, such as paying interest and principal on a bond, would no longer be insured – so that if a municipality or homeowner, for example, defaulted on bond or mortgage payments, the municipal bonds or mortgage-backed securities, and other financial instruments derived from them, would lose significant market value. That could cascade into downgrades of corporate or bank assets that would affect the creditworthiness of the institutions and their ability to raise capital. To date the solution has been for the Fed to take some of the assets at risk onto its own balance sheet and to conceal and minimize the extent of the problem in the hope that no one will see that the emperor has no clothes and the counterparties will come through when called-upon. The Fed has not explained adequately why they think that this will work – they apparently have no hard data on how many credit default swaps are backed by counterparties who have the financial wherewithal to deliver on their promises. That has contributed to a credibility problem among the banks themselves. No one knows who is really solvent.

The only permanent solution to this impasse is a level of forthrightness and transparency that would inspire confidence in the soundness of the financial institutions. But the largest banks are not sound and many suspect that public knowledge of the full extent of their exposure would crash the entire financial system. See Reggie Middleton’s analysis at The banks are going to need more investment capital, period. And few are willing to invest in them. See

There is not a way to reverse the damage to banks’ balance sheets caused by the bursting of the housing bubble except to run the movie backwards – undoing defaults and foreclosures, reflating the value of each house mortgaged, fulfilling the unrealistic expectations of defrauded consumers, assuring that housing values will keep going up forever, and fixing it so that no one will ever need to call upon a counterparty in a credit default swap. It just ain’t gonna happen, folks. Moreover, the potential remains for still more mortgage defaults and foreclosures. See
And home sales are not likely to rise until the employment picture improves – not any time soon.{7FDA1504-8F8D-4795-B8F0-B4EA17FDDFF4}

The War of All Against All -- Reductio ad absurdum


Michael Shedlock reports that the porn industry is seeking a $ 5 billion bailout. While they are not losing money, they point out that their social value is essential as it serves a vital public health function.

Listen to me people. A whole host of supplicants can propose to serve socially useful functions with your money. While the porn industry might argue that it is socially useful, some might disagree; and the same reasoning could apply to others who want to tap into your taxpayer money. Who should decide? If your money is taken from you by force (taxation) or stealth (inflation), the decision is not yours. It is the decision of central planners and politicians, the same people who have led us to our present circumstances.

Larry Flynt and Joe Francis, with tongue in cheek, are emphasizing the absurdity of what Dr. Edward Hudgins has regularly termed the "war of all against all." To make government and its coercive powers the ultimate arbiter of what ought to be a free market decision is to create a vicious scramble for an access to your pocketbook that is beyond your control. You then become a resource, a slave to whatever objective that the politicians deem socially useful, or worse, in their own political interest. The answer to this very dark prospect is limited government and a monetary system that is beyond political control.

Aside from the subject matter in which he deals, Larry Flynt has proved himself to be a pioneer in staking out the boundaries of our First Amendment rights. Boundaries are important to our protections. Even though we might not go there, those boundaries keep the forces of government coercion far away from our private lives and assure that we need never worry that the government will storm our bedrooms.