The Ben Franklin Report: Pessimism Abounds

With renowned economist Nouriel Roubini of NYU predicting the worst economic contraction in more than 40 years, author Bill Bonner predicting the Dow Jones will fall to 5,000, and some very interesting analysis about the role of credit default swaps in creating some of the worst excesses of the real estate market, it's easy to understand why investors would want to avoid assets in the United States. What's particularly important about the aforementioned analysis, is that it reports that there is a provision in the recently approved $700 billion bailout that allows the Federal Reserve to pay interest on collateral held in exchange for loans. Under this scenario, the financial institutions can give take a loan out at the Fed, offering equity or some of the worst financial derivatives that mathematicians can imagine supported by some of the worst lending since the 1920's as collateral. Then, with the Treasuries or cash that the institution has borrowed, earn profit, and also earn more in interest than the derivative might be worth, thanks to the end of mark-to-market accounting. Which, in summation, amounts to one of the subtlest giveaways in an era of high-priced socialization. 

However, one doesn't need to be an investor to feel worried about the economy. Simply talk to state and local employees and the citizens who rely on their services, in places such as Chicago; King County, WA; Iowa; Maryland; and Massachusetts. In other news, the federal government announced a $455 billion budget deficit for Fiscal Year '08, which doesn't count Treasurer Hank Paulson's commitments to the financial industry, which will push the deficit in '09 even higher, in addition to whatever additional economic stimulus is passed in the coming months. 

There's even more pessimism in whether the announced $250 billion equity binge on nine of the largest financial institutions in America will have any effect on their behavior whatsoever. Despite the investments, up to $25 billion in some cases, the Treasury didn't receive the right to make policy decisions, such as board appointments. So other than hold more meetings and perhaps more begging on one knee, the Treasury's hands are tied.

The Ben Franklin Report: Leave the Spigot Open

While workers in GM's Janesville, Wisconsin SUV plant are getting a lesson in freemarket economics, Ron Paul is trying to spread the word about an economic malady of a slightly different nature: the ballooning and out of control federal debt that we've been covering here on the Fringe Element. As if the near vertical climb that is growth in the monetary base weren't already enough, the Federal Reserve is going to go ahead and provide unlimited amounts of funding in return for collateral to central banks from around the world. One could say that this is a very selfless act of a benevolent and intelligent Chairman, but more likely, this is an effort to return monetize US Government debt as Dr. Paul points out in the above article. This move by the Federal Reserve will have, perhaps, unintended consequences, as Central Banks return bonds originating in the United States, such as those issued by Fannie Mae and Freddie Mac, to our shores. After all, in a liquidity crisis, why would an institution choose to hold onto assets that are, at best, potentially troublesome?

The rest of the world is also responding to the crisis in ways similar to the United States. After weekend meetings of the IMF and World Bank in Washington, D.C., financial leaders from around the world agreed to initiate a coordinated response, and the markets seem to be enjoying the show. In Japan, the Central Bank is ready to assist any effort negotiated by the IMF, but has so far not announced any support of particular amount of money to domestic banks and financial institutions. In Europe, markets surged amid a flurry of announcements from various national governments laying out plans to guarantee their financial sectors in various degrees, ranging from total guarantees of interbank lending and capital infusions in Germany to bond lending programs in Portugal. In China, the weather is a little less rough, with currency reserves recently surpassing $1.9 trillion in value, the People's Bank's chief Yi Gong, while promising cooperation with the other members of the IMF,  has expressed full confidence that China will weather the financial turmoil. Perhaps not coincidentally, the central government in the same weekend announced plans to double rural disposable income by 2020 to create a domestic consumption base as a way to offset falling exports to the U.S.

While some lament the appearance that Capitalism has become the newest whipping boy in the arena of economic philosophies, Treasurer Henry Paulson took bold steps in ushering in a whole new era of American socialism, essentially seizing portions of the nine largest lending houses in the United States.

Victory for the American People

It hasn't been often in the last 7 plus years of the Bush Administration when one could truly say that the power of people defeated the people of power. When special interests took a back seat to those who really run the country, Mr. and Ms. Average. Since the bailout was originally announced, there have been numerous campaigns to stop it, academic disputes, and even the rarest of the rare, a public battle among the normally tightly disciplined Republican party. But, in the end, those who have to face up to the voters on November 4th realized that voting yes was potentially one of the biggest threats to their political careers, regardless of party. If you look at the list of how people voted in this historic vote, those on the 'yes' side will probably have a rough time of it, if not lose their seats to those who chose not to approve the still horrible re-negotiated version of the bailout proposal. In particular, I'm sure Dennis Kucinich (OH-10th) is feeling a little smug, knowing that he predicted the outcome of the vote.

On a slightly different note, I'm not sure why everyone in the world of pundits is characterizing this rejection of the bailout proposal a failure of governance. In common parlance, bills are said to have failed, but that is almost a bureaucratic term. In real terms, this bailout was an ideological battle between those who are in favor of and those who are against nationalization and similar bailouts in the United States. Moreover, this is not a vacuum of leadership in which the U.S. government is flying down a country road like a  '62 Corsair without a driver., as that has been happening for the last 7 years. 

Of course, in a vacuum, comes the punditry. Perhaps the most offensive piece I've read thus far about the political process that brought about this conclusion comes from Rupert Cornwell from the U.K.'s Independent. My favorite metaphor in the article compares the mechanisms of American democracy to Alice Through the Looking Glass. Putting that aside, though, the author clearly doesn't understand the huge popular backlash against the bailout. Sure, in the U.K. and other parliamentary democracies, the Prime Minister isn't approved by the people at large, but in the U.S. the leaders need to be especially accountable. And to say that the bill died in partisan sniveling is obviously disregarding what was essentially a bipartisan effort to keep the American people from having to shovel out $700 Billion or more on a plan that was only designed to correct the dangerous excesses of the richest segments of society. Perhaps, too, the American people have become wary of those who warn about apocalyptic disaster and offer a solution that meets a certain biased politican agenda. 

Kevin Connolly from the BBC, in looking at the reasons behind the bailouts defeat in the House of Representatives, expresses a strange sentiment, that after this bill's defeat and the sense of crisis that it engenders will offer a way out for the bailout proposal, that Main Street hasn't suffered yet. Unfortunately, the people of the United States have been suffering, which is the underlying cause for this economic crisis. With the inflationary impact of cheap money, combined with tepid job growth, primarily in the services sector since the recession of 2001, people were forced to choose between living and surviving, which meant that the mortgage had to go unpaid. Thus, in a trickle up fashion, the banks and other financial institutions, who were holders of arcane financial securities into which these poorly written mortgages were conglomerated, began to suffer the counsequences of their poor lending practices. I think Mr. Connolly underestimates the intelligence of Mr. and Ms. Average and their understanding of this situation, as Mr. or Ms. Average are probably already unemployed, underemployed, or facing the prospect of losing their job in the failing economy. 

From the campaign trail in Iowa, Sen. John McCain who, infamously, suspended his campaign to not show up in Washington for negotiations, has called upon Congress to return to the drawing board and to get back to work right away. Sen. Barack Obama, from a rally outside of Denver, called for calm, saying that things in Congress are never smooth, and instead of imploring or demanding that his colleagues work on the proposal to shore up the wealth of the financial sector, he used a baseball metaphor.  

So panic thus gripped the financial markets, and the Dow Jones suffered its worst lost ever in terms of points. But, have no fear for liquidity, because Helicopter Ben Bernanke has come to the rescue, increasing the amount of dollars in the global financial system by a whopping $630 Billion dollars. To show you a frightening graph that indicates inflation, perhaps even hyperinflation, is just around the corner, here is the Adjusted Monetary Base, courtesy of the St. Louis Federal Reserve. The highlight of a series of moves in the banking industry, Citigroup has purchased Wachovia, after the stock lost more than 80% in trading on Monday. 

Ben Franklin Report: Warning Signs

Parroting the same policy as many previous Treasury Secretaries before him, Sec. Henry Paulson has come in favor of a 'strong dollar.' Of much more interest, though, is his sound byte saying that the government will not step in to intervene in the market on behalf of investors who made poor decisions and took on way too much of the worst kind of risk. Federal Reserve Chairman Ben Bernanke, in some of the most constructive testimony of his tenure thus far, indicated without words that the U.S. economy is probably already in a recession, that there will be bank failures in the near future, and yet he does not anticipate stagflation in the near-term.

In other pressures on the U.S. Dollar, OPEC has agreed to not lift output, which has pushed crude oil to a new record close, even further exasperating the oil standard. Pricing barrels of oil in euros is undoubtedly just around the corner. Expect to see oil ministers from the various OPEC countries begin speaking about it openly before their next production meeting.

As municipal bond markets continued to deteriorate, forcing yields up on long-term bonds, the city of Vallejo becomes the largest city in California to look bankruptcy square in the eye. This probably is the beginning of the trend, rather than the end of it, especially as houses will continue to have their values reappraised downward.

As an interesting aside, Fannie Mae paid $200K to lobby those who decide upon its workings. FNM's $2.1 billion loss on the year announced yesterday could put pressure on the ability of the mortgage giant to tap into credit pools, as Moody's announced that Fannie Mae's B+ rating is under review.

If you're wondering tomorrow morning why your wallet feels lighter, it's because it probably is. As of publishing the dollar was at a new record low against the Euro, weaker than the Canadian Dollar, and near a 4-year low with the Yen.