Archive for October, 2011

Are the Big Banks Insolvent?

L. Randall Wray | October 6, 2011

Let’s look at the reasons to doubt that the big six are solvent.

1.The economy is tanking. Real estate prices are not recovering, indeed, they continue to fall on trend. No jobs are being created. Defaults and delinquencies are not improving. GDP growth is falling. Isn’t it strange that Wall Street has managed to remain largely unaffected? Finance is an intermediate good. It is like the tire that goes on a new Ford automobile. Auto sales are collapsing but somehow tire sales to auto manufacturers are doing just fine? Does that make sense? Banks are making no loans, yet, they remain profitable?

2.Not only are the financial institutions NOT doing any of the traditional commercial banking business—lending—they aren’t doing much of the investment banking business either (remember that the last two remaining investment banks were handed bank charters so that they could scoop up insured deposits as a cheap way to finance their business). How many IPOs have been floated? Corporate debt? Trading? Well, one of the two investment banks that survived, Morgan Stanley (the sixth largest bank—barely squeaking into my “dirty half dozen” biggest banks), just released a pretty poor trading outlook—blamed on “high costs, historically low interest rates and market volatility that has pushed clients to the sidelines”. (Reuters Global Wealth Management Summit News).

3.Europe is toast. US bank exposure to Euroland is huge. But US banks are doing just fine, thank you? Hello?

4.Commodities are tanking. Equities markets are at best horizontal. Other than making profits by cooking their books, these were areas open to banks to make profits. And, yes, both commodities and equities had been doing quite well—climbing back up from the depths of the crisis. This should be put in perspective, however, because at best they only recouped losses. Still, those bubbles are now history. Losses are going to pile up. Yes, I know financial institutions hedge their long positions in commodities with some shorts—but who do you short with? Does anyone remember AIG—the insurer of first and last resort? Hedges are only as good as counter-parties, and counter-parties are no better than you are when markets collapse. In a crisis, correlations reach 100%.

5.Hedge funds have not done particularly well over the past couple of years. And yet banks have? Even though all they are doing is trading (plus cooking books and reducing loan loss reserves), the banks are far more successful than hedge fund managers at picking winners? Does that make a lot of sense?

6.And, as mentioned above, they’ve got all these lawsuits—which requires hiring lawyers, paying fees and fines, and employing Burger King kids to falsify documents. The document shredding services alone must be crimping net returns.

Ok, is there any evidence that might cause one to question bank solvency? Real hard stuff? continue reading…


Bernanke Scraps Bold Congress Testimony for Lukewarm Version

Pavlina Tcherneva | October 5, 2011

By Gal Noir*

In his Congressional testimony on October 4th, Federal Reserve Chairman Bernanke uncharacteristically praised the benefits of fiscal policy, calling it “of critical importance” and conveying concerns with the looming deficit reductions. He cautioned: “an important objective is to avoid fiscal actions that could impede the ongoing economic recovery.”

Many economists expressed worry that such advocacy of fiscal policy will erode America’s (already) wavering confidence in the Fed and will further weaken their support for austerity measures. More troubling still, the economists said, was the possibility that the public may follow suit and start demanding from Congress bolder government action on the jobs front.

A few dissenting scholars thought that it was high time for Bernanke to put his money where his mouth was, so to speak. Among them was Dr. Tcherneva, who had studied Bernanke’s academic proposals for government action during crises and his actual policy moves as Fed Chairman during the Great Recession (2011).**   “I am not at all surprised that Chairman Bernanke is making the case for fiscal policy” Tcherneva said. “I am only astonished that it took him so long. After studying his policy prescriptions for the case of Japan, I am left with the nagging conclusion that Bernanke actually favors fiscal policy over monetary policy. And while the reasons for this position are tucked away in his 2000 paper,***  they were nowhere to be found in his testimony before Congress. This too was very surprising. Considering his scholarship, I was expecting a very different speech today” Tcherneva said.

And indeed Tcherneva may have been right. In a breaking development, housekeeping personnel at the Federal Reserve Board building in D.C. have found a crumpled draft of what appears to be the original speech Chairman Bernanke had intended to deliver. In an exclusive, we reprint the original draft below. Paragraphs in bold are the only ones that made it into the final version.
continue reading…


Beyond Tweedledum and Tweedledee Economics

Michael Stephens |

James Galbraith talks about the mechanisms by which obstacles are placed in the way of dissenting and original voices in economics, as well as the failure of most in the forefront of the profession to see the global financial crisis coming (via INET):

Galbraith has written about this before; surveying the work of those who got it right, as well as the narrow parameters of prevailing doctrine:  “This is the extraordinary thing. Economics was not riven by a feud between Pangloss and Cassandra. It was all a chummy conversation between Tweedledum and Tweedledee. And if you didn’t think either Tweedle was worth much—well then, you weren’t really an economist, were you?” (read it here).


The Most Subversive Sign Seen at the “Occupy Wall Street” Protest

L. Randall Wray | October 4, 2011

(continued at EconoMonitor)


Tabula Rasa

Michael Stephens |

“We’ve put this off for too long.  We need debt relief and jobs and until we get these two things, I think recovery is impossible”—Randall Wray, quoted in a Reuters article examining the possibility of negotiating massive consumer debt relief.

Although household borrowing has been declining, debt burdens remain sky high:

(from the latest Levy Institute Strategic Analysis)


Flirting with MMT in the Financial Times

Michael Stephens | October 3, 2011

Martin Wolf, in the Financial Times last week, “thinks the unthinkable” and inches toward what sounds distinctly like a Modern Money Theory approach:  “Alternatively, the government could fund itself from the central bank, directly. Better still, the government could increase its deficits, perhaps by slashing taxes, and taking needed funds from the central bank. Under any of these alternatives, the central bank would be behaving like any other bank, creating money in the act of lending.”

Wolf goes on to argue that such a policy needn’t be inflationary, insisting on the absence of a necessary and immediate linkage between central bank money and the overall money supply:  “…the policy would be inflationary only if it led to chronic excess demand. So long as the central bank retains the right to call a halt, that need be no serious danger.”

To learn more about MMT and its policy implications, this short working paper by Randall Wray is a good place to start.  Wray is also putting together an MMT primer over at New Economic Perspectives.

Beyond the particulars of Modern Money Theory, would it be too naive to expect that the latest crises, convulsions, and lingering stagnation would prompt more economists and economic thinkers to move beyond “normal science” and begin, in a more general sense, thinking the unthinkable?


Ponzi Encore

Michael Stephens |

“It may come as a surprise to some, but the original scheme by Charles Ponzi did not make its money by providing seven decades of benefits to retirees before folding up shop and leaving town with a suitcase full of cash,” writes Benjy Sarlin.  In a new One-Pager Greg Hannsgen and Dimitri Papadimitriou display just how loopy it really is to compare Social Security to a Ponzi scheme.  The authors produce a graph tracing the long history of new taxpayers (“investors”), new beneficiaries, and those leaving the program (and this mortal plane); the picture that emerges is not one of a fraudulent money-making venture that is about to sneak out the back door with your savings.

But let’s leave Charles Ponzi alone for the moment.  What about the looming shortfall in the program, you ask?  Citing testimony delivered last year by their Levy Institute colleague James Galbraith, the authors suggest that there are reasons to be skeptical of these projections.  To see why, have a look at this critique by Galbraith, Wray, and Mosler of the intergenerational accounting methods used to forecast fiscal doom in programs like Social Security (highlights here).

I can tell by that glazed look in your eye that you’re still not convinced.  Alright:  even if the official projections pan out (and there is, as the authors point out, reason enough to be distrustful of them), Social Security would supposedly see a difference between what it takes in and what it puts out that amounts to about 0.6 percent of GDP.  That’s not nothing, but it’s manageable enough that no one should have any doubts that “investors” will be paid off.  Put aside trust funds and lock boxes.  The key point is this:  the solvency of Social Security is ultimately dependent on the solvency of the US government.  And as long as Social Security benefits are owed in US dollars, there is no reason to believe that the US government must default on its commitments to future beneficiaries.

Whether it will is, of course, another question.  Ultimately, in what is something of a depressing trend these days, the real problem, the real source of uncertainty, lies not in the fundamentals of the program, but with the potential decisions of political authorities.  As Papadimitriou and Hannsgen conclude:  “Looking at the figure, one begins to draw the conclusion that it would take an act of legislation—and a very foolish one indeed—to create a “Ponzi” generation of ordinary elderly people with virtually no retirement income.”  You can read the One-Pager here.