More: The market took heart from JP Morgan's revised offer for the carcass of Bear Sterns. Instead of a paltry $2.00/share, the banker of last resort upped it's offer to $10.00/share. WHOO HOO! Bear was selling not to long ago for over $160/share and the revised price is still a small fraction of its supposed book value--$84/share. Market optimists are running out of feel good news. Bernacke is throwing in everything but the kitchen sink to rescue the Street of Broken Dreams, but the drip, drip of toxic debt keeps on running. And you have the financial raptors, the short sellers, to deal with too--perched on the crumbling edifices of finance capitalism just waiting to swoop down and pick the bones of dead or dying funds and banks. Another victim was uncovered this weekend, HBOS, Britain's biggest mortgage lender. HBOS recently disclosed a £7.1bn exposure to US Alt-A mortgages, classified as one notch above sub-prime. HBOS's exposure to sub-prime, collateralized debt obligations and Alt-A amounts to 66% of its tangible book value. There was a run on it's stock last week, apparently based on rumors that it was headed the way of Northern Rock which was nationalized. At one point the bank's stock price was down 17%, but managed to recover. The Bank of England was forced to step in with a £5 billion loan injection to steady the city market.Whether our fourth branch of government--the Federal Reserve--has enough resources to prevent the Street from going down the drain a la 1930 is an unanswered question. Nouriel Roubini, professor of economics at Stern Business School says, "This is the most radical change and expansion of Fed powers and functions since the Great Depression: essentially it now can lend unlimited amounts to non-bank, highly leveraged institutions that it does not regulate.... the Fed is taking serious financial risks." The $330 billion term-action market for loans has frozen. Next in line is the $45 trillion derivatives market for credit default swaps. And US home prices--the plug in the drain--keep falling at an annualized 18% rate in the fourth quarter. Many professional speculators thought a 225 basis point rate cut would normalize the market. But noooo: the market is too overleveraged and capital is too depleted. 'Plumber' Bernake has his finger up the drain, but the entire sink is cracked. Stay tuned.
So the federal government is bailing out another corporate victim of greed lying gutted in the Street of Broken Dreams with your tax dollars (actually fiat dollars backed by the power to tax you).Bear Sterns, an investment bank institution and an icon of finance capitalism, had to ask Uncle Sugar for an emergency bailout on Friday. The Federal Reserve has not been done since the Depression and the Fed's handout shows the extent of fear that a tsunami of bank closures could follow unless there is direct government intervention to prevent a financial Armageddon. However, experts at the World Bank have studied the actual cost of direct government intervention in banking crises around the world. A January 2002 study[1] of thirty years of systemic banking crises across 94 countries came to a simple but disconcerting conclusion: Doing nothing saves money in the long run. Think about it. Buying a consumer good on sale is cheaper than buying it at full price. But not buying it all is even cheaper. As one economist put it in more professional terms, "we find no evidence that accommodating policies reduce fiscal costs." The World Bank study elaborated,"Indeed, each of the accommodating measures examined-- open ended liquidity support, blanket deposit guarantees, regulatory forbearance, repeated recapitalization...and debtor bailout schemes–- appears to significantly increase the costs of banking crises." Without bailout programs in the sample studied, the actual fiscal cost borne by taxpayers of a banking crisis would be less than 1% of GDP. The S&L crisis in the 80's destroyed some 1400 institutions and 1300 banks. The direct cost to the US taxpayer of the federal bailout program was an estimated $180 billion or 3% of our annual economic output. The current toxic debt crisis is much larger. Swiss bank estimates US bank loses in the range of $600 billion. Bloomberg News puts the total count of losses and write-downs related to the crisis so far at $188 billion. More firms and funds will collapse like Carlyle Capital Corp. did last week. It defaulted on $16.6 billion in debt because it could not meet margin calls on rapidly depreciating mortgage backed securities (MBS) used as collateral. Barron's ominously reported that two government chartered mortgage institutions--FreddieMac and FannieMae--may not have enough money to cover losses on $5 trillion in loans they insure. To put it bluntly, nobody who knows the value of a buck believes Standard&Poor's blue sky claim that write downs are done.But besides the sheer magnitude of the bailout needed to re-inflate the market, there is another danger. You do not have to be a financial capitalist in line for a handout to understand that throwing good money after bad is hazardous to the health of your nation's economy. The bare facts are that banks created trillions of dollars in credit through various securitized debt instruments like MBSs, collateralized debt obligations (CDOs) and structured investment vehicles (SIVs) without maintaining proportionate reserves. These obligations were not carried on their books, but sold to non-bank financial intermediaries. So the creation of more credit was driven solely by the desire to generate more profit by making more bad loans. Since the banks do not have the power to print money, they are now caught in a liquidity squeeze as the bad loans default in massive numbers and investors refuse to accept securities related to mortgages or real estate. Financial companies owning structured investments are being forced to write down their value or meet margin calls if they are leveraged.
Alan Greenspan ignited the credit frenzy with his very low (1%) Federal funds rate policy for 31 strait months to cushion the impact of the tech bubble collapse. But the policy also resulted in cheap adjustable rate mortgages (ARMs) and real estate price hyperinflation. Now, Bernacke and company appear willing to sacrifice the nation's currency by recapitalizing failed investment firms and accepting near worthless mortgage backed securities in exchange for valuable treasury instruments (TSLF). The World Bank economists warn: "Fiscal outlays are not the only economic costs of bank collapses. The losses covered [by taxpayers] reflect wasted resources. Furthermore, a government's assumption of large, unforeseen bailout costs can destabilize fiscal accounts, triggering high inflation and a currency collapse–costly in themselves–as well as adding to the dead weight cost of taxation." Now that we have financial "socialism" on the Street of Broken Dreams, perhaps we could have a little of the bourgeois variety for a change. Uncle, can you spare some health insurance?Update: Before posting this entry, JP Morgan agreed to buy Bear Sterns for a bargain basement price of $2.00 per share to avert the insolvent investment bank declaring bankruptcy. Morgan got a $30 billion credit line from Bernacke and friends. Goldman Sachs, the world's biggest investment bank announced it will write down $3 billion in bad debt.
[1] http://marketoracle.net/Article3990.htm