Links 1/7/09

Dear readers, I know dealing with page proofs must sound like a tired excuse, but this process is like the final section of a Romantic symphony, where the music swells to a climax, then the music starts to fade…and then takes off again! Palgrave with no warning sent me the page proofs AGAIN to look at late Wednesday afternoon, due in Thursday PM…and I did have other stuff on my calendar. But this really is the last time, it will finally go to the printer.

Time for Fed to disprove PPT conspiracy theory MarketWatch. Missed pointing to this yesterday. The head of TrimTabs says $600 billion of new funds into the market cannot be accounted for. But other analysts disputed his idea (and I have heard some investors say they take TrimTabs’ analysis with a handful of salt)

Treasurers Embrace Pay-in-Kind Bonds as Ghost of Lehman Fading Bloomberg (hat tip reader j). More signs of bubble behavior.

Spanish unemployment at new records: 19.3% and 40% for the young Merco (hat tip Michael T)

Ben Pavone On MSNBC: ‘Somebody’s Got To Take A Stand’ Huffington Post (hat tip Andrew U). One man is protesting high credit card interest rates.

FDIC eyes linking levies to bank pay Financial Times

Did Demand for Credit Really Fall? James Kwak, Baseline Scenario

Antidote du jour:

More On China’s Frothy-Looking Housing Market

We put up a post in late December which keyed off a discussion by Patrick Chovanec . Chovanec argued that real estate was increasingly serving as a vehicle for speculation, with many units kept vacant by investors:

In China, however, “flipping” is not the problem. Some people may be engaged in short-term ”flipping,” but as I’ve described in my FEER article “China’s Real Estate Riddle,” a lot more are buying residences — in many cases multiple units — and holding them vacant indefinitely as an unproductive ”store of value,” like gold. As I mentioned in my article, the Financial Times estimates that there are 587 million meters of apartment space that buyers have purchased over the past five years only to leave lying empty (for a concrete notion of what this statistic means, take a look at Al Jazeera’s report on Ordos). This puzzling phenomemon is due to the fact that Chinese citizens have relatively few investment options, and China’s real estate sector (unlike its stock market) has never experienced a sustained downturn since the country converted to private home ownership in the mid-1990s. The fact that China has no annual holding tax on property means there is little penalty for letting property lie idle, in the hope that it will appreciate or at least retain its value. The result is an inflated market where the demand for property as a pure investment vehicle far outstrips the demand for affordable, usable space.

If people were trying to “flip” their properties, that might actually be a good thing. At the very least, it would mean those residences would have to be brought onto the secondary market and priced. What we see in China, though, is an extremely weak secondary market. In the U.S., the ratio of secondary to primary residential property transactions for the first half of 2009 was 13.45; in Hong Kong it was 7.25. In China as a whole, that ratio was 0.26 (four times as many new home purchases as secondary sales). Even in China’s most developed markets the ratios were just 1.30 for Beijing, 1.56 for Shanghai, and 1.35 for Shenzhen. [Keep in mind that an immense quantity of existing housing stock was privatized in the 1990s, at nominal prices, so the explanation cannot be simply that China is a "new" market -- China actually has a higher rate of established home ownership (80%) than the U.S. (70%)].

Chovanec got some pushback, and has offered some further commentary on his blog (hat tip reader Michael):

One of the comments posted on SeekingAlpha framed the first argument, about leverage (or lack thereof), quite well:

If they are buying and holding long term without using it (as a store of value), then they must not be taking on loans to do so.

If that is the case, then it is not an asset bubble. Bubbles are fueled by cheap debt. If they are paying in full, then they can just sit on them forever without problem, if that is their preference. They aren’t hurting anyone by doing so. Eventually, their economy will grow to the point that they will sell their holdings (so long as their government continues to liberalize their economy). Until then, there isn’t really a problem.

I don’t mean to pick on the reader by citing him here — quite the contrary, he offered a very succinct and articulate summation of an argument I hear quite a lot, both outside and inside China.

Yves here. The idea that asset bubbles depend on leverage is inaccurate. In the dot-com mania in the US, borrowing played a trivial role (there was an increase in margin debt, which occurs in most bull markets, but it remained a very small percentage of market capitalization). Cheap lending makes asset bubbles more likely, and also makes their unwind fare more destructive (as in not only does the investor/borrower lose, but in many cases the lender loses too, and since most lenders are pretty highly geared, the damage can blow back and impair the banking sector. Chovanec, addresses this longer-form, with more examples and more detail, but the premise hold. His discussion of how leverage works in the Chinese real estate market was very interesting:

China’s property markets are leveraged….

Chinese developers must use their own capital to secure land. Once they do so, banks will lend them 65% of the money they need for construction and related development costs, with the land pledged as collateral. But saying developers must use “their own capital” to buy the land is a bit misleading…. By taking on loans at multiple layers of holding companies, a developer can leverage up considerably to cover his “capital” commitment to the banks.

In today’s hot residential property market, developers usually pre-sell all their units well before they complete the project. …..there’s a huge pipeline of residential projects for which land has been purchased or construction is underway but pre-sale proceeds have yet to exceed construction loans. If a crash were to take place, the junior creditors would be left holding the bag. It’s very hard to quantify the extent of this exposure, due to the indirect way many of these loans were raised and channeled into real estate.

According to the latest statistics I’ve seen, approximately 50% of all residential purchases in China today are financed with mortgages, which are mainly provided by the big state banks. That’s a sharp increase from just a few years ago, when nearly all such purchases were made in cash. In theory, the rules allow 30-year mortgages, but anything longer than 20 years is rare, and the presence of high prepayment penalties tend to push buyers towards mortgages with even shorter terms (our own mortgage was, believe it or not, 3 years, which is more like an installment plan!). The terms for buying a second or third place are much steeper than buying a first home, and my impression is that the vast majority of mortgages being issued are going to people who actually intend to live in their unit, whereas people buying multiple units as investments are mostly paying cash. And by the way, the banks don’t securitize the mortgages (at least not yet, there’s some talk of pilot projects in this regard), but hold them on their balance sheets.

Obviously the investors paying cash don’t present a credit risk — in that sense, the people using real estate as a store of value, a place to stash their cash, are helping to deleverage the developers. And to the extent they’re buying units pre-sale, it’s a pretty rapid deleveraging process (of course, in this market, the developers are just releveraging back up again to build the next project). So what about the mortgaged buyers? Well, the fact that they live in their units reduces the risk — they’re likely to pay up to avoid losing their homes. But the fact that they’re stretching themselves so thin to buy into such a high-flying market, in competition with investors, on accelerated repayment terms is some cause for concern. In the TV show “Dwelling Narrowness” — which encapsulated middle-class distress at rising housing prices in China — the main characters’ mortgage payments end up amounting to 2/3 of their combined monthly income. That may be on the high side, but it’s not too far outside the mainstream. ….The good news, however, is that China’s mortgage market is relatively small — about 10% of GDP, compared to 48% for Hong Kong. But it is growing rapidly, and the second half of 2009 saw a big push in mortgage lending from the banks, as part of the stimulus effort.

Ahem, this does not look pretty….

Roubini v. Gross on Outlook for 2010

I saw this item on RGE Monitor (Nouriel Roubini’s blog/economic analysis website) and was gobsmacked:

Greetings from RGE!

A couple months ago, in a widely read FT op-ed, Nouriel Roubini warned that the “mother of all carry trades,” one funded in U.S. dollar denominated debt, could pump up asset bubbles around the world…

When uncovered interest rate parities break, investors can borrow money in a low interest rate currency (like the U.S. dollar), then loan it out again in a currency with higher interest rates. The “carry,” or the return from this investment, equals the difference in yield between the funding currency instrument and the destination currency instrument. “Positive carry” occurs when the interest rate received surpasses the interest rate paid to fund the investment. “Negative carry” is the opposite. Because the carry from a single trade is often small, carry trades are usually conducted in large volumes through leverage or are held for relatively long periods of time (months or years) so that the small amount of rollover interest collected on a daily basis can add up to a worthwhile amount of passive income.

As both new RGE reports highlight, we expect the carry trade to heat up as 2010 progresses, as policymakers hold rates at zero or low levels in many advanced economies, while inflation leads to further rate hikes in emerging market and commodity-driven economies. We encourage clients to examine these papers for more details on hot carry trade destinations for 201

Yves here. Ahem, this sounds like a pretty aggressive call to follow a global momentum trade fuelled by cheap liquidity. Roubini was on the opposite side of this call last time. He now argues for riding the bubble and (presumably) plans to people when to get out. The problem is that a lot of investors in 2007 knew the markets were overheated, yet were confident they could get out in time. And we know how that movie ended. Chuck Prince couldn’t get to the exit fast enough when the music stopped. Why should this time be any different?

Reader Gary sent a copy of Bill Gross’ January newsletter, which is not yet on line. Gross also sees the markets as liquidity driven, and reaches a conclusion that differs from RGE Monitor’s:

….the shifting of private investment dollars to more fiscally responsible government bond markets may make for a very real outcome in 2010 and beyond. Additionally, if exit strategies proceed as planned, all U.S. and U.K. asset markets may suffer from the absence of the near $2 trillion of government checks written in 2009. It seems no coincidence that stocks, high yield bonds, and other risk assets have thrived since early March, just as this “juice” was being squeezed into financial markets. If so, then most “carry” trades in credit, duration, and currency space may be at risk in the first half of 2010 as the markets readjust to the absence of their “sugar daddy.” There’s no tellin’ where the money went? Not exactly, but it’s left a suspicious trail. Market returns may not be “so fine” in 2010. [boldface his]

The way to square the circle is that RGE believes the generous liquidity support will continue:

But we expect carry trades to resume in 2010 as policy rates stay at or near zero in the major economies and inflation leads to further EM and commodity-country rate hikes….We expect the Fed to stay on hold throughout 2010 at this writing, but the pricing of Fed hikes will remain volatile, driven by the data flow.

Gross, by contrast argues that if the powers that be stick to their plans (note the if), risk-seeking trades will suffer.

Now there is a complicating factor in all this. Remember the commodities bubble of 2008. Commodities markets are not that deep, relative to the financial markets. And they are a favorite place to try to hedge against inflation, and lotsa liquidity makes investors worry about inflation, even if it has not shown up in the data or consumer/business expectations. But commodity price increases blow back fast to the real economy in very disruptive ways, particularly via energy prices. Jim Hamilton has argued, for instance, that the oil price increases of early 2008 were what pushed overextended US borrowers over the edge. Frail economies similarly cannot take too much in the way of energy input price rises. So even if the RGE crowd is right, that the Fed will lose its nerve and not withdraw liquidity support, we could still see the bubble implode. As Keynes pointed out, all it takes is a change in investor liquidity preferences, meaning investor attitudes towards risk, to precipitate a contraction. And that can occur independent of the price and amount of funding on offer.

Links 1/6/09

Dear readers, sorry for thin posts, but truth be told, the news pickings looked thin to me tonight!

China’s netizens pressure Beijing Al Jazeera (hat tip Michael T)

Two killer whale types found in UK waters BBC. The article suggests they may be on the way to becoming two species. When I was in Alaska (summer 2008) a marine biologist said there were two types of orcas, transients (which eat whales) and residents (which do not travel much and do not eat whales, even though they can). They also do not interbreed. So I said, “Well, are they not two species, then?” and was treated as an idiot for asking the question.

Obesity is now just as much of a drag on health as smoking Scientific American (hat tip Michael T)

Television Begins a Push Into the 3rd Dimension New York Times. What about those of us who don’t see in 3-D?

Bankers are as valuable as film stars or athletes, insists Goldman Sachs director Andrew Clark Guardian. Make me barf. I briefly worked for Goldman when the firm was more selective (as in it limited itself to higher percentiles of applicants from various fancy-dancy schools) and no one would have believed or tried to sell tripe like this. Having access to more concentrated capital flows is NOT the same as talent.

Now, that chart looks familiar… Tim Iacono

Silicon Valley ‘Bloodbath’ Leaves Buildings Empty Bloomberg

Peak Oil Believers Wonder Why Every Government Ignores Them, Conclude It’s Due To A Giant Cover Up Clusterstock. The tone is unduly gleeful, but there is a serious point: if peak oil is here, or not too far off, pray tell why are not the most obvious beneficiaries, namely the integrated oil producers and OPEC, not screaming it from the housetops? Higher oil prices would boost their bottom lines, and also greatly lower the cost of investing in more extreme extractive technologies and other projects (which many of them are already investing in…)

Capital City Kevin Drum, Mother Jones (hat tip reader Kendall)

Antidote du jour (hat tip reader Barbara):


Let Them Eat Lobster!

This may seem sorta silly, but I come from a long line of Maine sea cooks and captains (each of whom got an extra share of the catch of the fishing ships they worked on, so one can romanticize it as being entrepreneurial, but if you have ever spent any time on the Maine coast, it is still a hard way to earn a living). Lobster catches in the North Atlantic spiked up and stayed high relative to previous norms post WWII for reason not well understood (but my great uncle, the biggest lobster broker in Maine, and therefore presumably presumably the US for many years, benefitted. My uncle, who at the age of 74 got a PhD in lobsters, ahem, marine biology [he hauled lobsters for many years after losing his job as a teacher, major shaggy dog story], failed to find a good explanation). Longwinded way of saying I take more interest than I ought to in the health of the lobster business.

Bottom line: Lobsters were cheap last summer. But because they are perceived as a luxury good (which strikes me as funny, there are a lot of coastal Maine residents who regard them as the functional equivalent of garbage fish), people are reflexively shunning them. So they are even cheaper now. And the exit of Icelandic banks as financiers had had a big impact. From the Financial Times:

[Lobster} Prices have sunk so far over the past two years that some mass-market restaurant chains have added lobster to their menus. Tennessee-based Ruby Tuesday, with about 850 outlets in the US, offers lobster tails, as well as lobster carbonara and lobster macaroni and cheese.

Hannaford Supermarkets, a New England chain in the heart of the US lobster industry, has the crustacean on special this week at $4.99 a pound, half the price of halibut.

The lobster fishery’s woes are closely tied to the global financial crisis, which has shrunk demand for a delicacy long associated with celebration.

Yves here. Ahem, this account misses two issues. First, most restaurants treat lobster as a high end item, which deters most people from ordering it. But lobster is very ill suited to eating in a formal setting (if a whole lobster), since it’s messy. The diner has to pick out a lot of body parts (which usually involves putting your hands on the carcass and using crackers and picks). Lobsters are best eaten on a picnic table with beer and a bib. And lobsters ex lobster rolls are seldom used in other dishes (lobster cakes? fried lobster? Lobster Rockefeller?)

Lobster is now so cheap that cooking it at home is attractive. But how many people know how to cook lobster? It’s easy but disagreeable (throw them in a pot with a about an inch of boiling water and leave the room while they scrabble around trying to escape). And eating them is a bit of work, particularly if you don’t know the tricks for tackling them (especially the late in season “hard shells” which are tough to get into but have much more meat). Back to the story:

The credit crunch has also deprived North American and European processors of working capital. Icelandic banks, among the most prominent casualties of the meltdown in the markets, were big lenders to the seafood industry.

Bank of Montreal, a big lender to Canada’s east coast fishery, urged Canadians this week to make lobster part of their New Year festivities.

“Canadian lobster fishers need your support,” the bank said. “You’ll be having a treat and helping out your fellow Canadians at the same time.”…

Boat foreclosures have driven some fishermen out of business..

The gap left by the Icelandic banks is being filled by institutions such as GE Capital and the Canadian government’s Farm Credit Corporation and Export Development Corporation.

Low prices have boosted supermarket sales, but restaurant orders are in the doldrums.

“The problem now is that the stock market is picking up, but casual dining is most affected because people are still losing their jobs,” said Michael Tourkistas, chief executive of a large Maine-based distributor. “We’re not out of the woods yet.”

Limiting the destruction wrought by irrational exuberance in a one-party state

By Edward Harrison of Credit Writedowns

As a writer, Matt Taibbi is a lot more vitriolic than I am. He curses, makes some pretty over-the-top personal attacks, and divines a policymaker’s intent where I don’t think he can. But, this goes mostly to style.  Substantively speaking, he has a lot to say and we should take notice. 

I wanted to highlight a piece he wrote yesterday called Fannie, Freddie, and the New Red and Blue. The crux of his argument is this: The partisan rhetoric is on full display in the dust-up over the unlimited liabilities coming from Fannie and Freddie thrust upon taxpayers on Christmas Eve. This rhetoric is not just beside the point, it is specifically designed to obscure the point, namely that both Democrats and Republicans, private industry and the government are culpable in the shambles our economic system has become.

Taibbi says:

Over the Christmas holiday a nasty thing happened: Tim Geithner’s Treasury Department decided to lift the cap on aid to the Government-Sponsored Entities, Fannie Mae and Freddie Mac, apparently in response to Obama administration fears that the two agencies would become insolvent. The cap was raised from $200 billion on each and government backstopping of the mortgage market will apparently now extend into infinity for at least three years, through 2012.

The move has already inspired a mini-firestorm, with several outlets delving deeply into the recent history of the GSEs and uncovering some disturbing new facts…

Sometimes I’m amazed at the speed with which highly provocative information like this GSE business can be converted into distracting propaganda in this country…

What worries me is that we’re… starting to see fault lines develop, where one side blames the government while another side blames Wall Street for the messes of the last two decades…

Everyone was involved in the mortgage scam. At the lender level the deceptions were myriad; liar’s loans, fraudulent income documentation, negative amortization loans, HELOCs, etc. The rush to get as many loans written as possible and then get those hot potatoes moved to the next sucker in the line was furious and extended from coast to coast, sinking one lender after another in Ponzoid debt and indictments….

Everyone had a hand in the bubble, from the congressmen who killed regulatory initiatives to the regulators who snoozed at the wheel to the GSEs to the Fed to the banks to the ratings agencies to the lenders. I don’t think it’s really controversial to say that, but it does seem like there’s an argument brewing about what that across-the-board complicity means.

This is kleptocracy, of course. Crony capitalism. And by that I mean the system Taibbi lucidly breaks down for us is one of privatized gains and socialized losses. Incumbent politicians and policymakers retain power by looking the other way and allowing special interests an unfair profit advantage. Usually, this goes to excess. Irrational exuberance takes over and losses ensue – losses which are not borne by the economic actors but taxpayers. That is how it always happens, but in this case it happened on a grander scale. And both Democrats and Republicans were complicit.

The question is: what can be done?  Can we really spot this kind of ‘irrational exuberance” when it permeates the entirety of the social fabric? Barring another Great Depression, I don’t think any one President or one party is going to be the agent of change – Barack Obama has demonstrated this quite effectively. Both major political parties have too much at stake in the status quo. So, if the question goes to the whole Red/Blue partisan back and forth, Taibbi is right that this is a side-show. We effectively have a one-party system when it comes to investment in the present economic, power, and wealth structure.

But, the question also goes to Greenspan’s argument about not spotting bubbles, but cleaning up after the mess. Greenspan feels the Fed’s job is not to regulate and not to target asset prices as a bubble forms. Rather, the Greenspan view has the Fed acting asymmetrically by raising rates slowly so as not to cut off a boom, but cutting them quickly to forestall depression – something I see as hopelessly blinkered and outright dangerous.  Greenspan, in his ideological fervor, is presenting an extreme form of an argument that has some basic merit.

Mark Thoma presents a much more sensible argument based on this same we-can’t-stop-bubbles view. In reviewing Bernanke’s recent defense of Fed policy, Thoma says the following (emphasis added):

there is blame to be placed, plenty of it, but I don’t think it should be concentrated as much as it is on Bernanke and the Fed (Greenspan may be a different story, but he was also going along with the majority of the profession, or at least the powerful voices in the profession at that time). The blame is on the entire profession, and those who study the structure of the banking industry and regulation in particular. Many of the economists who are the most critical today were among those supporting deregulation (or they said little or nothing about it).

Finally, as I’ve noted before, I have come to the same conclusion that Krugman states today, that the most important thing we can do is to reduce the effects that bubbles have when they pop. We may never be able to prevent all bubbles or other problems in the financial sector, but we can do a better job of making sure that the effects of these problems are minimized. I’d start with limiting leverage ratios, the 30 or more to 1 we saw prior to the crisis is much too high and dangerous to unwind when problems hit, and I’d also restrict the other side of that coin and increase capital requirements. The system was far too fragile before the crisis, and that’s something that we need to fix.

The key in what Thoma says – and what connects it to Taibbi’s polemic is that the blame for this bubble and collapse is widely dispersed. That should give you pause as to whether any specific policy remedies are going to prevent a recurrence of the same in future. I certainly see the boom-bust cycle as endogenous to the capitalist system in a way that is unrelated to the Federal Reserve. Remember we had the panics of 1837, 1857, 1873, 1893 and 1907 before the Fed even existed.

So, Greenspan, Bernanke, and Thoma are asking the right question. Where I disagree most with Greenspan and agree most with Thoma is in the remedy. In making a remedy one has to first diagnose the problem, prioritize goals of remedial action and affect a decent plan of implementation.

  • The diagnosis seems correct: Irrational exuberance infects the very fabric of society in a way that makes boom-bust cycles impossible to prevent and little effort should be made to do so. 
  • The goal, in my view, should be to devise a way to prevent contagion when individual companies, sectors of the economy, or regions collapse without having a significantly negative effect on long-term growth or income and wealth distribution.
  • The implementation is the tricky part.
    1. Commercial banks as utilities model. One view says to firewall sectors of the economy, particularly the financial sector in a way that maintains its core function but allows peripheral ‘innovative’ functions to suffer with the swings in the economy. This is the Paul Volcker view.
    2. Regulation-Heavy model. Another view says to forget about the firewalls as they will be ineffective at best and retarding to growth at worst. Regulate the heck out of all actors and constrain their ability to be reckless.  This is the Geithner view.
    3. Regulatory and Resolution model. A third view says we should allow the actors to do as they wish but set up robust bankruptcy resolution process for all private sector companies, especially in the financial sector and including hedge funds and too-big-to-fail institutions.

I lean heavily toward the third view, but see a lot of merit in the first.  My bias is toward a relatively free market buttressed with adequate rules as a regulatory framework and sufficient regulation of those rules.  Clearly, existing rules on bank size as percentage of the deposit base and leverage would need to be enforced. But, I don’t see a need to create more rules. That would just retard growth and wouldn’t alleviate the problem of irrational exuberance. Certainly, bringing all financial agents (money market funds, insurance companies, derivatives and hedge funds) under a comprehensive regulatory umbrella is a priority but this can be done in a way that is consistent with the existing structure.  Why burden the system with a system risk regulator as another layer of oversight? Better to just hive off the essential bits into a tightly regulated oasis, de-coupled from the rest as Volcker suggests.

One last note, this time on Bernanke’s views.  I was struck by how much Bernanke tried to ‘defend’ Fed policy. His was not an objective assessment of a disinterested party in why we got to where we are and what we can do to fix it. It was a defense of his institution and his own role in it.  No good can come of such an analysis.

Update 2100ET: A reader chastised me for not being more explicit about the Geithner proposal’s loopholes. Just to be clear about choice number two, the regulation-heavy one, just because I am labeling the Geithner approach regulation-heavy doesn’t mean I think these regulations will be substantive. They will add a layer of regulation to seem substantive but will be filled with loopholes in order to allow business as usual. An example is the loophole in derivative regulation that allows for off-exchange customized derivatives. Everyone knows that means actors will gravitate to just those products. When Byron Wien predicts that regulation will be industry friendly, that’s what he means. Also note his discovery of Barack Obama by early 2007 from this post. Obama had strong Wall Street ties from the start.


Fannie, Freddie, and the New Red and Blue – Matt Taibbi

Did the Fed Cause the Recession? – Mark Thoma

Kleptocracy definition – Wikipedia

Links 1/5/09

Astonishing pictures show how a Devon kayaker got up close and personal with a humpback whale feeding frenzy Daily Mail (hat tip reader Steve L)

The resurrection of Howard Dean Politico (hat tip Ed Harrison)

Working people’s blood for sale — prices lower than ever! Workers (hat tip reader Warren C). From last year, but this story does not seem to be making the rounds.

17,000 potentially harmful chemicals kept secret under obscure law Raw Story (hat tip reader John D)

SS Trust Fund – 2009 Full Year Results – Ugh Bruce Krasting

Sovereign Debt, Hither and Yon – You Know, Like Japan Paul Kedrosky

Carnage Continues: PHK (Who Smells Smoke?) Karl Denninger (hat tip reader Scott)

Personal Bankruptcy Filings Rising Fast Wall Street Journal

America is losing the free world Gideon Rachman, Financial Times

Levin apologises for ‘worst deal of century’ Financial Times. A call by the former CEO of Time Warner for the big banksters to join him in ‘fessing up to their sins. Think it will happen? Nah. But good for Levin, he singled out the self serving Sandy Weill piece in the NY Times as an example of what chief executives should not be doing.

And a tidbit: McKinsey pushed hard for the disastrous deal with AOL to go through. It brought the transaction idea to the board five times, and unfortunately, the board turned it down only four times.

Accuracy and Truth Douglas Smith. This is old, but the distinction he makes is important….and notice the implication: “truth” is a collective construct, and not the same as what is factually correct. It highlights that our modern Ministries of Truth are so effective that the word “truth” has been debased.

Fannie, Freddie, and the New Red and Blue Matt Taibbi

Antidote du jour:

Guest Post: Recent Lehman MD Reviews “The Murder of Lehman Brothers”

By Arthur Doyle, a former managing director of Lehman Brothers who now manages a hedge fund.

I didn’t come to Joseph Tibman’s The Murder of Lehman Brothers expecting a blow-by-blow insider’s account of the financial meltdown of 2008. That ground has been covered adequately by, among others, Andrew Ross Sorkin in Too Big To Fail.

Frankly, I didn’t really even expect a blow-by-blow of what led Lehman to fail. That may seem a surprisingly low expectation for a book subtitled “An Insider’s Look at the Global Meltdown,” which has been authored by a senior banker who spent his career at the firm. But I myself was a managing director at Lehman Brothers until the summer of 2008, and yet if you asked me to tell you what really happened, I couldn’t.

Of course, plenty of people at Lehman, if you asked them “what happened?” would give you an answer. They’d say, “Paulson hated Fuld’s guts,” or “Fuld ran the company into the wall,” or “Mark Walsh made a bad real estate bet.”

But while each of those statements may be true, none of them, at least to me, really answers the question: “What happened?” Or, at least, what I mean when I ask the question, which is really: “Trace for me the series of events that led a profitable investment banking and trading franchise to become so overleveraged and loaded with bad assets that, at the end, the bankruptcy specialists estimate that it had a negative net worth far in excess of $100 billion. Who OK’d the decisions that led to that outcome? How many people were privy to the bank’s disastrous situation, and what did they do once they learned of it? Who was complicit in the decisions that were made in Lehman’s final months regarding the representation of the company’s financial position to investors, regulators and trading partners, some of which (given the disparity between the firm’s published statements and ultimate worth in liquidation) surely amounted to outright fraud?

I was pretty senior at Lehman, and yet I have no idea how to even begin to answer any of these questions. And neither does Mr. Tibman, who, unlike me, worked in investment banking rather than trading. Nor would I expect him to.

What I did expect to find in Mr. Tibman’s narrative was a human drama, an account of how it felt to work at Lehman as the unthinkable happened. Mr. Tibman, at Lehman since the dark days under ownership by American Express, and through the harrowing days following 9/11, seemed well positioned to tell that story.

Unfortunately, except for a few brief glimpses, that is not the story we get. Tibman, with the innate caution of a veteran I-banker, feels that “maintaining his viability for future employment” requires him to use a pseudonym. It also requires him to omit most of the personal details of the people with whom he worked and what, if anything, he witnessed personally of the events related to Lehman’s fall

Of course, this is Tibman’s prerogative, and you can’t blame a man for trying to avoid pissing off people who might be future employers. But you have to ask yourself… why exactly did Tibman choose to write this book? It certainly wasn’t to settle any scores. With a (very) few exceptions, Tibman treats all the principal characters in the drama with kid gloves. The shots he takes (at Fuld, for being out of touch; at COO Gregory, for being obsessed with growth; at Paulson, for being inconsistent in his bailout strategy) are gentle, and have been, by now, taken by dozens of others. Girl-wonder Erin Callan is revealed to be, though brilliant, perhaps a tad out of her depth as CFO. Gee, d’ya think? More than a year after hedge fund manager David Einhorn turned Callan into mincemeat over discrepancies between statements she made in the March 2008 conference and details which appeared weeks later in the firm’s 10-Q, this hardly counts as news.

Tibman does seem interested in making sure we know that Lehman’s investment banking division was, and I’m paraphrasing here, “totally awesome.” They were smarter and more creative and faster and harder working than everyone else’s investment banking division. And, unlike their competitors, they had high ethical standards. Sure, Tibman knows that he and his colleagues weren’t performing charity work, but “Lehman was not Bear. Bear (were) aggressive, messy bankers without any sort of standard. All investment bankers are whores. But they were the cheapest of streetwalkers…when we poached Bear bankers, well, we had to bring them to heel like junkyard dogs that did not know how to behave.” In contrast, at Lehman, “at least in the context of investment banking, we wanted…to behave with a meaningful semblance of ethics and good corporate citizenship.”

Cue the gag reflex, though I’ve never worked in investment banking so for all I know this could be true. And Tibman seems genuine, on this one subject. In a passage describing that awful weekend when it became clear that Lehman was going to file for bankruptcy, he conveys a sliver of what it must have felt like to walk in his wing-tipped shoes. Speaking to those of us who think of investment bankers as “a hoard of spoiled, greedy assholes,” he asks us to suspend all predispositions and “think only of what it means to be marginalized, a laughed-about underdog…then you experience something of great magnitude, like 9/11…and from that experience a bond develops that propels you with purpose. You (then) succeed beyond all expectation. Once maligned, you are now…surpassing all goals that you have set for yourselves. And then a very few make some very poor decisions, and the glorious landscape that…you have worked at for a very many years simply falls like light timber through a backyard chipper.”

OK, so now that I read the last bit over, it is perhaps a bit more cringe-worthy than it originally seemed, particularly the part about the transformative effect of 9/11 on Lehman’s place in the I-banking Lead Tables. Then again, as Tibman says, if you weren’t there, you couldn’t possibly understand.

My real objection to Mr. Tibman’s line of thinking—and this applies equally to the thinking of Lawrence McDonald, whose book, A Colossal Failure of Common Sense, I reviewed several months ago—is that the idea that Lehman was made up of a great collection of businesses but was ruined by a few stupid actors is nonsense. You cannot separate one part from the whole. Without Lehman’s highly leveraged, hugely risk-taking trading operation, Mr. Tibman’s investment banking business could never have existed—certainly not on the scale it grew to in its last several years of existence. Leaving aside the fact that Lehman’s costly distribution (trading) and research operations was a primary reason Tibman and his friends were able to win so much business, there’s also the fact that without the profits from the trading business (well over $4 billion per year in LEH’s last several years, more than 5x the profits of the investment banking business), the company couldn’t have gone on the spending spree which enabled it to poach top bankers from its competition.

And where did the trading operation’s huge profits come from? Was it from brokerage commissions on stock and bond trades executed on behalf of customers? Ha. Principal transactions (aka “proprietary trading”), that is, trading for the firm’s own account, accounted for nearly 75% of the trading division’s revenues during the firm’s last three full years of operation. Brokerage commissions accounted for just over 12%, while net interest margin accounted for the rest.

So Lehman Brothers, with a $691 billion balance sheet, sitting atop a $22.5 billion capital base (both figures from the 2007 10-K) was essentially running a giant proprietary trading operation with a decent-sized investment banking operation attached. I’ll resist the easy comparison to the Soprano family’s use of Satrialli’s Pork Store to distract attention from where the real action was, but you get the point. You could call Lehman a $22.5 billion hedge fund, except that very few hedge funds of that size (or any size) operate at a leverage ratio of greater than 30-1—and certainly not hedge funds whose balance sheets were loaded with massive, risky and illiquid assets.

So, yes, it is unfortunate that Mssrs. Fuld & Gregory, who were the primary managers of the Lehman hedge fund, made so many bets that turned sour in 2008. But those bets weren’t some afterthought that ruined an otherwise great firm. By 2008 (actually, by several years earlier than 2008), those bets essentially WERE the firm. They were the life blood that generated the revenue for the $9 billion of annual compensation that Lehman paid out to its professionals. And, like any hedge fund, the managers took their cut (49.3% of revenue went toward compensation, typical for Wall Street) every year—but never had to pay any back in years when returns when negative. At least traditional hedge funds have high water marks (provisions that require managers to earn back any losses from prior years for limited partners before paying incentive fees to themselves). On Wall Street, after a bad year, the firm starts fresh. In fact, it pays out billions in bonuses even in a losing year, so as not to “lose talent to the competition.”

It has now been over a year since the Lehman implosion. In the intervening period, the capital markets have come roaring back. Meanwhile, the real economy, though it is getting worse at a slower pace, is still in its worst shape in a generation. The economic and psychic toll on the country from the crisis has been vast. The recapitalization of the financial system, whose costs are being overwhelmingly borne by the public through bailouts as well as by the steepest yield curve in decades, will take years and extract a continued price from consumers and businesses throughout the economy. Despite this, it appears increasingly unlikely as time goes on that any meaningful reform will be instituted to protect the public from what Simon Johnson so aptly refers to as the “rent-seeking behavior of the financial sector.”

Mr. Tibman’s book, like so many of the books written about the crisis in 2009, bears its share of responsibility for this state of affairs. By spinning narratives that deflect attention from the activities and circumstances most responsible for the crisis, and by indulging the human instinct to blame the failure of complex systems on individual bad actors rather than on the rottenness of the whole, we increase the likelihood that similar crises will return sooner and with greater severity than would otherwise be the case.

On Visa’s Anticompetitive Practices (They Cost You More Than You Think!)

Most of the time, I try to stick to writing up the worst abuses in the generally corrupt realm of financial services, but it’s important not to overlook the nickel and diming. First, if done on a big enough scale, it adds up to lots of money, and the amounts at issue are so small that it isn’t worth the trouble to buck the system, even if the practice or the level of charges is extortionate. Second, in the case of Visa and Mastercard isn’t simply the abuse a cozy dupoly (and where is the Department of Justice, pray tell? In Australia, the government has been all over the credit card industry, although some of its measures appear to have backfired). This is an excessively high frictional cost on commerce. Now how come when any brings up Tobin taxes (small charges on every trade) as a way to pay for the bailout and discourage speculation, the financial services industry becomes utterly apoplectic. You can’t interfere in “free markets” (as if licensed and government backstopped capital markets casinos bear any resemblance to fantasized “free markets”). You’ll hurt liquidity (and who benefits from all this slushy liquidity? Higher transaction costs might make fund managers think twice before buying and selling. OMG, they might start acting like investors again! Can’t have that, now can we?). You’ll raise the cost of borrowing (please, this is a real stretch, the spreads on new issues, which is where funds are raised, are much bigger than in secondary trading or derivatives markets, where taxes like this would bite).

Yet here in our very midst, we have a Tobin tax equivalent on a very high proportion of retail trade, in that you can think of the rapacious Visa and Mastercharge charges for debit transactions (disclosure: I’ve done a bit of work in credit cards, and trust me, the charges are egregious) as having two components: the fee they’d be able to charge if they faced some competition, and the premium they extract by controlling the market and refusing to compete on price. In terms of its effect on commerce, this premium is worse than a Tobin tax. Remember, with a Tobin tax, the intent is to throw sand into the gears to dampen speculation. Here, no one is arguing that we should be increasing transaction costs across the board to discourage spending or lower the volume of transactions to merchants, yet it has the same effect.

If you think I am caviling about something trivial, consider this bit from today’s New York Times:
some merchants are infuriated by a separate, larger fee, called interchange, that Visa makes them pay

….each time a debit or credit card is swiped. The fees, roughly 1 to 3 percent of each purchase, are forwarded to the cardholder’s bank to cover costs and promote the issuance of more Visa cards…

Some merchants say there should be no interchange fees on debit purchases, because the money comes directly out of a checking account and does not include the risks and losses associated with credit cards. Regardless, merchants say they inevitably pass on that cost to consumers; the National Retail Federation says the interchange fees cost households an average of $427 in 2008.

Yves here. Now I am a Luddite, I refuse to own a signature debit card and carry only ATM cards (why would anyone carry a piece of plastic that provides direct, unlimited access to your checking account? Have you never had your wallet stolen?) The article details the ways Visa steers customers to simply swipe and sign, rather than punch in a PIN:

When you sign a debit card receipt at a large retailer, the store pays your bank an average of 75 cents for every $100 spent, more than twice as much as when you punch in a four-digit code.

The difference is so large that Costco will not allow you to sign for your debit purchase in its checkout lines. Wal-Mart and Home Depot steer customers to use a PIN, the debit card norm outside the United States.

Despite all this, signature debit cards dominate debit use in this country, accounting for 61 percent of all such transactions, even though PIN debit cards are less expensive and less vulnerable to fraud.

How this came to be is largely a result of a successful if controversial strategy hatched decades ago by Visa, the dominant payment network for credit and debit cards. It is an approach that has benefited Visa and the nation’s banks at the expense of merchants and, some argue, consumers.

Competition, of course, usually forces prices lower. But for payment networks like Visa and MasterCard, competition in the card business is more about winning over banks that actually issue the cards than consumers who use them. Visa and MasterCard set the fees that merchants must pay the cardholder’s bank. And higher fees mean higher profits for banks, even if it means that merchants shift the cost to consumers.

Yves again. So we see the same story here as elsewhere: the financial services industry successfully leeching as much as it can out of the real economy.

And take note of this part:

Merchants said they had no choice but to continue taking the debit cards, despite the higher fees, because Visa’s rules required them to honor its debit cards if they chose to accept Visa’s credit cards.

Yves again. I’m no lawyer, but this looks like a cut and dried case of tying, which is an anti-trust violation. Here is a basic outline:

Illegal tying is one of the most common antitrust claims…Tying arrangements are often considered per se illegal. The basic requirements that must be met for tying to be per se illegal are as follows:

1. There must be two separate products or services.

2. There must be a sale or an agreement to sell one product (or service) on the condition that the buyer purchase another product or service (or the buyer agrees not to purchase the product or service from another supplier).

3. The seller must have sufficient economic power with respect to the tying product to appreciably restrain free competition in the market for the tied product.

4. The tying arrangement must affect a “not insubstantial” amount of commerce.

Yves here. Sure looks like those conditions apply. But wait a sec, this matter was litigated, and a settlement was reached…..and the charges still look awfully rich. The result was NOT an end of the tying arrangement, merely the payment of fines, a reduction in fees, and only an end to the requirement that merchants who take credit cards be required to accept debit cards at credit card fee levels. Looks like the class action attorneys chose to max out the cash value of the settlement (on which their fees were based) at the expense of the back end arrangement.

52% of Small Businesses See Conditions Worsening in Next Six Months

The headline gives one of the results of a Rasmussen survey of small businesses commissioned by Discover (hat tip DoctoRx). Note only 22% expect improvement, with the rest either foreseeing no change or not volunteering a view.

Small businesses are the engine of hiring, and as we noted earlier, they have cut back severely on their hiring plans. The current survey shows only marginal improvement from a depressed level. The most troubling finding is the majority of small businesses plan to cut spending further:

The number of small business owners who think the economy is getting worse was down to 49 percent from 53 percent in November; while 24 percent of small business owners see the economy staying the same, up from 16 percent in November; 25 percent see the economy getting better, down from 28 percent in November; and 2 percent are not sure…

35 percent rate the current economy as fair, up from 30 percent in November; while 61 percent rate it as poor, and 4 percent rate it as good or excellent.

18 percent of owners say they will increase spending on business development activities such as advertising, inventories and capital expenditures in the next six months, 26 percent will make no changes, 51 percent plan to decrease spending, and 5 percent are not sure.

51 percent of owners have experienced cash flow issues in the past 90 days, down one percentage point from last month; 45 percent of owners have not experienced cash flow issues, and 4 percent aren’t sure.

“Robert Rubin’s absurd economic recommendations”

I should not be surprised to see that Robert Rubin, having been one of the single most destructive forces over the last two decades (Greenspan gets more heat because he was more visible, but Rubin has long had enormous sway) continues to have influence, not simply through his large network of well placed proteges (Larry Summers and Timothy Geithner as the most visible examples), but his ability to command attention (an article by him in Newsweek as the latest example).

Marshall Auerback, an investment manager and strategist and longstanding Rubin watcher/critic, below takes on the latest bit of Rubin self congratulation masquerading as wisdom (cross posted from Ed Harrison’s blog). Marshall has tastefully omitted some of his spurious arguments to focus on the central flaw of the piece, but let me give you one example:

The question of which economic model works best was recently subjected to rigorous analysis by a task force called the Commission on Growth and Development, established by the World Bank and other sponsors in April 2006….While the specifics differed from country to country, the commission concluded that these highly successful economies shared a set of common characteristics: sustained movement toward market-based economics; governments that effectively provided sound fiscal and monetary policy, substantial public investment, and increasing integration with the global economy; high savings and investment rates; political stability and the rule of law; and considerable focus on widening the distribution of income. The commission also found that no economy anywhere in the world had been successful with largely state-directed activities and high walls against global integration.

Yves here. First, China is on the list. So is Japan. China liberalized its markets, but retained substantial state direction. Anyone attempt to indicate otherwise is a gross distortion. Ditto Japan. I’d need to read the report, but this smacks of a hugely biased reading of the data. Both countries pursued openly mercantialist policies, with substantial barriers against imports, which raises serious questions about the practical meaning of “global integration.” When the Plaza Accord nearly doubled the price of the yen in dollar terms, Japanese imports of US goods barely budget. Japan was found to have “structural” barriers, a combination of consumer attitudes but also very cleverly designed trade impediments (trust me, the Japanese are masters of this, I can bore you with details). And China has has a substantially undervalued currency for the last, what, at least six years? An undervalued currency is tantamount to a massive export subsidy. To suggest these countries are operating with a neoliberal, largely open market model is utter bunk.

Now to Auerback:

As we all know, during his tenure as Treasury Secretary, Robert Rubin laid the groundwork for today’s crisis through his aggressive championing of financial deregulation. Had he at least acknowledged some remorse or recognition of error, he would be more appropriately suited for an advisory role on how to fix the global economy, much as a reformed criminal often has useful insights on penal. No such luck here. This neo-liberal zealot reiterates the usual self-serving nonsense how ‘NOBODY’ could have possibly foreseen the magnitude of the problem. Being one of the worst Treasury Secretary’s of the 20th century was clearly not enough.

Post the Clinton Administration, Rubin was a senior advisor of Citigroup after he quit the Treasury. He left just before its near collapse amidst criticism of his performance. In 2001, he got hold of Peter Fisher in the US Treasury Department to try to put pressure on the bond-rating agencies to avoid downgrading Enron’s debt which was a debtor of Citigroup.

In January 2009, he was named by MarketWatch as one of the “10 most unethical people in business”.

Letting him publicly expound on getting the global economy back on track is akin to providing Kim Il Jong-il a public platform on human rights. Unlike Greenspan, who at least has had the decency to admit mistakes, Rubin still expects to be taken seriously as a policy maker. This is truly disgusting considering the millions of Americans who are without work now and heading south into poverty, not to mention the millions of workers around the world that have lost their jobs and savings and more largely thanks to the policies championed by this misguided deficit warrior.

And the article clearly establishes that the man is a deficit terrorist who understands nothing about reserve accounting and bonds. This is a classic illustration of the idiocy:

The United States faces projected 10-year federal budget deficits that seriously threaten its bond market, exchange rate, economy, and the economic future of every American worker and family. Those risks are exacerbated by the context of those deficits: a low household-savings rate, even after recent increases; large funding requirements for federal debt maturities every year; heavy overweighting of dollar-denominated assets in foreign portfolios; worsened fiscal prospects in the decades after the current 10-year budget period; and competing claims for capital to fund deficits in other countries.

Bonds don’t “fund” anything and certainly don’t create competition for “funding requirements” on the basis of a silly “crowding out” theory.

Here Rubin assumes that government deficits increase the claim on saving and reduce the “loanable funds” available for investors. Does the competition for saving push up the interest rates?

Yves here. The “loanable funds” theory was discredited back in the thirties, which is why Auerback slips in the reference. Back to him:

No, for two reasons: First, budget deficits build productive infrastructure which exerts a positive influence on economic growth.

Second, budget deficits typically help stimulate investment because they keep aggregate demand from plummeting.

Bond sales do play an important role in managing aggregate bank reserves and in the administration of overnight interbank interest rates, but Rubin clearly does not understand this, despite years on Wall Street. When government spends, recipients of Treasury checks deposit them into banks, which adds reserves to the banking system. In effect, government spending actually lowers interest rates.

By contrast, budget surpluses are not even remotely like private saving. They actually destroy liquidity in the non-government sector (by destroying net financial assets held by that sector). They squeeze the capacity of the non-government sector to spend and save. If there are no other behavioural changes in the economy to accompany the pursuit of budget surpluses, then the private sector is forced to increase its private debt levels to sustain demand and then when this option is exhausted, aggregate demand falls and consequently wipes out non-government saving.

Pro-active fiscal policy will allow the private sector to have healthier finances by providing spending stimulus over time to generate income growth (and private saving) when it is targeted toward creating full employment, not bank bailouts. Bad fiscal policy, by contrast, simply reflects a collapse in private spending and correspondingly lower tax revenues, and the concomitant failure of governments to act so as to prevent increased social welfare payments (such as unemployment insurance or food stamps) from coming into play as a result of this declining economic activity.

It is clear that if resources are fully utilised then choices have to be made on appropriate use. These choices will be political in nature. That is the only constraint which exists. Rubin clearly doesn’t understand this, so he is in no way suited to offer any kind of advice (other than how to blow up an economy via reckless banking practices).

These people are never shamed by their actions. Fortunately, society was spared their advice for several months – but now they are back, akin to the bad aftertaste of greasy pizza that one belches out after a particularly gruesome serving. I’m just waiting for the day when Bernie Madoff will be writing an article for Newsweek, expounding on how we can improve financial regulation.

Also see my related post at New Deal 2.0 “Deficit Hawking: A New Year Opens with the Same Bad Old Ideas.

Links 1/4/09

Scientists say dolphins should be treated as ‘non-human persons’ Times Online (hat tip reader John D)

To the head of the class: 2009’s cleverest creatures show off BBC

Stunning Statistics About the War That Everyone Should Know Jeremy Scahill, CounterPunch. The US has 189,000 people in Afghanistan.

Good year for management guff Lucy Kellaway, Financial Times

A “Tell” from Bernanke? Bruce Krasting. Only one quibble: this isn’t a “tell”, it’s a telegraph.

Pessimistic into 2010 Eurointelligence

Google’s evil policy on shutting down blogs Felix Salmon. Felix’s post seemed to have made a big difference in getting Hempton operational again. Hempton says he will put a post up on his travails (not up as of this writing) and also says that he was shut down as a spam blog (same thing happened to me in 2008) and that it only takes two or three complaints to Google to get a blog on Blogger shut down (for the record, probably not the reason I was shut down, I had not annoyed much of anyone back then. I had just started Links, and the a lot of links are a flag for a spam blog, and the “naked” name I am sure did not help). An easy way to silence critics, needless to say.

Is 2010 The Year of Odious Sovereign Defaults? The Faculty Lounge (hat tip Conglomerate)

Prescription: more doctors Baltimore Sun (hat tip DoctoRx)

Environmental Refugees Unable to Return Home New York Times

Is The U.S. Government Buying Stocks? George Washington

Does the left want to Impeach Obama too? ImpeachObamaCampaign and What to Expect While We’re Expecting: Politics in the Time of Obama (hat tip Ed Harrison). These are must reads. The first article has been making the rounds and is painfully funny and accurate. The second is to show to those few who continue to defend Obama how badly he has blown his presidency. And they were both written by the same writer, David Michael Green. Obama is over and will probably be the last to figure it out.

Antidote du jour. What I should be doing:

“The Once and Future Fed Policy Error?”

By Richard Alford, a former economist at the New York Fed. Since then, he has worked in the financial industry as a trading floor economist and strategist on both the sell side and the buy side.

Monetary policy is center stage as the Fed pursues highly accommodative policies in order to generate a recovery and rebuild the financial system. However, some market participants are questioning the Fed’s ability and willingness to exit the current highly accommodative stance in a timely manner. Unfortunately, the market skeptics have history on their side.


Three important points about the Fed’s ability and willingness to adjust policy in a timely fashion can be gleaned from the chart (Courtesy of the St. Louis Fed) of the Fed Funds rate and the 10 year (constant maturity) Treasury yield with recessions indicated by the vertical gray bars.

Point #1

Prior to the recession that started in 1980, the Fed was still raising the Fed funds target at or close to the cycle peaks (left side of the gray bars). Given the lags (“long and variable”) inherent in monetary policy, it appears that the Fed tightened too much and for too long.

Point #2

Prior to the trough of 1980, the Fed was still cutting rates at or past the cycle troughs (right side of vertical grey bars). Given the lags (“long and variable”) inherent in monetary policy, it appears that the Fed eased too much and for too long.

Point #3

For the period prior to 1980, the amplitude of the interest rate cycles was getting progressively larger.

Lessons Learned

Given that the Fed targeted the Fed funds rate during the period (till October 1979), it is clear that the Fed policy, centered on targeting the Fed funds rate, contributed to progressively larger swings- anti-dampened cycles- in the Fed funds rate, 10 year yields and presumably contributed to progressively larger cyclical swings in real economic activity and inflation. (This type of phenomenon -over correction due to lagged responses- is referred to as “instrument instability”). The Fed was aware of this in the early 1990s and set about trying to prevent a recurrence.

In Chapter 1 of Blinder’s 1997 “Central Banking In Theory and Practice”, he argues that in the early 1990s, the Fed decided that it had to move preemptively to dampen cycles. Blinder cites the preemptive tightening cycle that began in February 1994 and the subsequent realization of a “soft landing” as supporting the view that preemptive policy is required to dampen cycles and produce soft landings.
While Blinder did not mention it, the first step to end the pattern of “too much too long” occurred earlier.

In 1992, the Fed stopped easing before the Fed funds rate became negative in real terms. The Fed funds rate had been negative at earlier cycle lows. The Fed stopped sooner and eased less than history had led many in the market to expect. The tightening in February 1994 was earlier than virtually anyone expected. The 300 basis points that the Fed tightened starting in February was also less than the average in earlier post-war cycles.

The Fed had adjusted. It moved preemptively and it moved by less than it did on average in earlier years. The changes are consistent with an effort to end the pro-cyclical aspect of monetary policy.
In “Central Banking In Theory and Practice”, Blinder also made a number of points about the challenges in designing and implementing monetary policy as well as a very brief summary of how he chose to address them when he was on the FOMC. He cited “lags” and “uncertainty” as two of the challenges in designing and implementing monetary policy.

Blinder pointed out that the lags require preemptive policy. Furthermore, he noted moving preemptively requires some faith in the forecast and the willingness to act when the future course of the economy or chosen target variables remains uncertain. Blinder characterized the alternative – responding to problems after they manifest themselves – rather derisively as a “putting out fires” strategy.

Given the uncertainties and the potential for instrument instability problems, Blinder argues that policymakers should adjust policy by less than they would if they were certain about exactly how policy worked. Over time, the policymakers could re-evaluate earlier policy decisions in light of new information. If the new information supports the original forecast, policymakers should further adjust policy in the direction initially indicated. If the new developments were unexpected, then policymakers should revise the forecast and their policy prescription. Again, they should adjust policy by less than they would have if they were certain about policy and future developments.

Lesson Forgotten?

What can be said about the current (post-1996) Fed? Again, the Fed appears locked in to a fire-fighting mode. It has not adjusted policy preemptively. It eased dramatically post the Tech bust in 2000. At the trough, Fed funds rate was negative once again. The Fed kept the Fed funds rate “too low for too long” while credit growth contributed to asset price bubbles, including the housing bubble, excessive leverage in the financial sector ultimately and the financial crisis of 2007.

However, it is difficult to argue that the Fed tightened too much for too long prior to the downturn that started in December 2007. The peak rate was in the neighborhood of the level that most version of the Taylor Rule associated with a “neutral” policy stance. While the Fed didn’t start to ease until 3 months before the cycle peak, it had ceased tightening 18 months before the peak.

Are rates too low now? Unfortunately, there isn’t a simple, straightforward answer to this simple question. Two possible paths of development must be explored in answering the question.
It is possible that short-term rates are not so low as to generate a normal recovery and maintain a pattern of anti-dampened cycles in interest rates, economic growth, etc. If that is the case, then the current Fed has solved the problem of instrument instability.

Unfortunately, it will have done so at the cost of a severe recession coupled with a crippling of monetary policy. It would also imply that at best that US will experience a Japan-like at-or-below trend recovery. In this case, while interest rates would not be “too low” in the sense that they will drive a pattern of progressively larger cycles, it is possible that they could lead to further distortions the capital markets and the re-distribution of income from savers to financial institutions, especially the TBTF institutions, which can safely lever up.

It is also possible that the current interest rate policy in conjunction with the unconventional monetary policy and the stimulative fiscal policy will contribute to a normal V-shaped recovery. Assuming that the current stance of monetary policy is appropriate and a normal recovery will take hold, the question remains will the current stimulative policy stance become too loose over time as it is pursued “too long.”

Given the current willingness to provide counter-cyclical fiscal stimulus and likely growth in the structural fiscal deficits, it seems that it would incumbent on the Fed to remove the monetary stimulus not only faster than it has in the past, but faster than it should have in the past.

However, the Fed is now committed to keeping rates low for an extended period of time. The Fed has signaled the market that it will not commence tightening until the economy has achieved a self-reinforcing recovery. The statement is aimed at reassuring the household and political sectors and may be supportive of asset prices. However, assuming a recovery and given the long and variable lags, it will have committed to remaining easy for too long-especially given the likely course of fiscal policy. It has also implicitly stated that it does not have sufficient faith in its own forecast to use it for policy purposes.

Consequently bouts of optimism about the recovery and the bias inherent in the Fed committing to keep short-term rates low are contributing to concerns that have been reflected in the fixed income, currency and commodities markets.

In response, the Fed is attempting to reassure the markets that it has the tools to drain the reserves that it has recently pumped in to the system. However, the markets’ concern has not been “does the Fed have the tools to drain the reserves”, but rather does the increasingly politicized Fed have the confidence, the will, the confidence in its forecast and the fortitude to take the politically unpopular step and begin to drain in a timely fashion. Fed officials assert that they will, but the open-ended commitment to maintain a highly accommodative stance for an extended period of time, i.e. until after the recovery is assured, strongly suggests that the Fed will again remain too loose for too long.

The current Fed has behaved much as the pre-Volcker Fed behaved and it has indicated that it intends to continue to do so. It is small wonder that many in the markets do not have confidence in this Fed?

Yves here. This is a very good summary and assessment, but it has one important omission. Alford praises the Fed’s “early and less” tightening in 1994. He also notes that the tightening was unexpected That’s an understatement. This was the first time credit derivatives were in use on a widespread basis (the bets were often embedded in bonds, so that folks like pension fund managers and insurance portfolio managers who weren’t allowed to use derivatives were nevertheless playing). And just about everyone had bet, often on a levered basis, that the Fed would continue to cut. The result was $1.5 trillion in losses, a bigger wipeout than the 1987 crash (but not a one-day event). There were also lots of hearing into derivatives, with the predictable lack of action.

That debacle led to the restoration of the old policy, plus asymmetrical responses: the Fed telegraphing well in advance any intention of raising rates, and then doing so cautiously, and being quick to ease.

Ambrose Evans-Pritchard: Apocalypse 2010

Ambrose Evans-Pritchard is nothing if not decisive in his views, and has a undisguised fondness for the bearish perspective. But he was correct on the 2008 inflation/commodities headfake, saying repeatedly that deflationary forces would prevail when that was decidedly a minority view. He is also a Euro-skeptic, and I’m less comfortable with that position. The EU is due to come under strain, but that does not mean it will shatter (in fact, for any country to exit is probably more difficult and traumatic than for the powers that be to come up with a muddle-through. But the period while fixes are being devised could be fraught indeed (and that seems to be his current position, BTW).

If things work out badly (and I see the odds of that as reasonably high; China is looking more and more like late 1980s Japan), they will work out very badly, markets are highly connected and if the right dominoes fall, many others go down in fast sequence. So the idea that the amplitude on the downside is likely to be extreme is very plausible. But he has also made a timing as well as a depth call, and sees things unravelling pretty soon. That could prove to be correct, but one thing shorts know all too well is that obvious-seeming outcomes can take much longer to come to pass than they ever thought.

Some of his observations seem spot on, in particular, that the Fed will lose its nerve and abandon its efforts to withdraw from quantitative easing, despite noises now to the contrary, that the dollar will rally near-term, and the yen will break.

From the Telegraph:

The contraction of M3 money in the US and Europe over the last six months will slowly puncture economic recovery as 2010 unfolds, with the time-honoured lag of a year or so. Ben Bernanke will be caught off guard, just as he was in mid-2008 when the Fed drove straight through a red warning light with talk of imminent rate rises – the final error that triggered the implosion of Lehman, AIG, and the Western banking system.

As the great bear rally of 2009 runs into the greater Chinese Wall of excess global capacity, it will become clear that we are in the grip of a 21st Century Depression – more akin to Japan’s Lost Decade than the 1840s or 1930s, but nothing like the normal cycles of the post-War era. …The vast East-West imbalances that caused the credit crisis are no better a year later, and perhaps worse. Household debt as a share of GDP sits near record levels in two-fifths of the world economy. Our long purge has barely begun. That is the elephant in the global tent….

Yields on AAA German, French, US, and Canadian bonds will slither back down for a while in a fresh deflation scare. Exit strategies will go back into the deep freeze. Far from ending QE, the Fed will step up bond purchases. Bernanke will get religion again and ram down 10-year Treasury yields, quietly targeting 2.5pc. The funds will try to play the liquidity game yet again, piling into crude, gold, and Russian equities, but this time returns will be meagre. They will learn to respect secular deflation.

Weak sovereigns will buckle. The shocker will be Japan, our Weimar-in-waiting…The Bank of Japan will pull the emergency lever on QE. The country will flip from deflation to incipient hyperinflation. The yen will fall out of bed, outdoing China’s yuan in the beggar-thy-neighbour race to the bottom. By then China too will be in a quandary. Wild credit growth can mask the weakness of its mercantilist export model for a while, but only at the price of an asset bubble. Beijing must hit the brakes this year, or store up serious trouble. It will make as big a hash of this as Western central banks did in 2007-2008.

The European Central Bank will stick to its Wagnerian course, standing aloof as ugly loan books set off wave two of Europe’s banking woes. The Bundesbank will veto proper QE until it is too late, deeming it an implicit German bail-out for Club Med.

More hedge funds will join the EMU divergence play, betting that the North-South split has gone beyond the point of no return for a currency union. This will enrage the Eurogroup. Brussels will dust down its paper exploring the legal basis for capital controls. Italy’s Giulio Tremonti will suggest using EU terror legislation against “speculators”.

Wage cuts will prove a self-defeating policy for Club Med, trapping them in textbook debt-deflation. The victims will start to notice this…

Greece’s Prime Minister Papandréou will balk at EMU immolation. The Hellenic Socialists will call Europe’s bluff, extracting loans that gain time but solve nothing. Berlin will climb down and pay, but only once: thereafter, Zum Teufel.

In the end, the Euro’s fate will be decided by strikes, street protest, and car bombs as the primacy of politics returns…the mood music will be bad enough to knock the euro off its stilts.

The dollar rally will gather pace. America’s economy – though sick – will shine within the even sicker OECD club….Mervyn King’s pre-emptive QE and timely devaluation will bear fruit this year, sparing us the worst.

By mid to late 2010, we will have lanced the biggest boils of the global system. Only then, amid fear and investor revulsion, will we touch bottom. That will be the buying opportunity of our lives.

“WWKD – What Would Keynes Do”

By Satyajit Das, a risk consultant and author of Traders, Guns & Money: Knowns and Unknowns in the Dazzling World of Derivatives

Keynes: The Return of the Master By Robert Skidelsky (2009)

John Maynard Keynes is having an excellent crisis. Dead for over a half a century, the British economist is enjoying a comeback as desperate governments and even more desperate economists adopt massive and dramatic fiscal stimulus to prevent the current crisis developing into a depression.

Renewed interest in Keynes is evident in the rash of new books re-examining his work and legacy. There can be, of course, no suggestion that authors and publishers are merely cashing in on the opportunity.

Mr. Robert Skidelsky is recognised as an authority on Keynes, based on his peerless three-volume biography of the man. The Return of the Master tries to reposition the economist’s work and insights in the light of recent events. It is an interesting and eminently readable overview of some themes that can be found in Keynes’ work.

Drawing, at times heavily, on the biography (authors must be allowed the license to ‘self refer’), Mr. Skidelsky’s central theme appears to be that most post Keynesian economics is problematic and the great man’s insights are ‘misunderstood’. Specifically, Keynes’ thought on “radical” or “irreducible uncertainty” as a primary cause of economic instability is not given enough recognition or prominence. Mr Skidelsky argues that in ignoring uncertainty, modern economics makes a serious intellectual error. Some of the criticisms are entertaining and also valid.

The book probably overstates its case. It is a bit like Nostradamus’ prophecies – followers see in the elliptical words what they wish to see.

The modern world is fundamentally different to that which Keynes inhabited and analysed. The insights gleaned from Keynes are ambiguous when viewed from the viewpoint of the economies and markets of 2009. There is selective resort to specific dictum to justify any specific course of desired action. There is sometimes insufficient acknowledgement of the complexity and ambiguity of Keynes’s own views on economic theory and its practice.

In the run-up to the 1929 election, Keynes discovered a seminal political truth about deficit spending. Lloyd George, an economically challenged politician, was delighted when Keynes provided the rationale for spending taxpayers’ money on social programs to bribe voters. Keynes absorbed this lesson well and maintained a constructive ambiguity throughout his life allowing him to appeal to politicians who favoured government spending and those who favoured middle-class tax cuts.

Economics is, at best, an inexact, inadequate and evolving set of theories seeking to explain complex relationships in a constantly changing world. The major insight that Keynes offered was regarding the inability of theories to explain actual events and how any attempt to apply the theory had unintended consequences. In an essay titled “The Great Slump of 1930,” published in December of that year, Keynes acknowledged: “We have involved ourselves in a colossal muddle, having blundered in the control of a delicate machine, the working of which we do not understand.”

Writing in the Financial Times (5 February 2009) Benn Steil, Director of International Economics at the Council on Foreign Relations, succinctly set out the background to the return of Keynes: “when the facts are on our side, we pound the facts; when theory is on our side, we pound theory; and when neither the facts nor theory are on our side, we pound Keynes.” The Return of the Master and the many other titles appearing about Keynes are testament to this tendency rather than the validity or otherwise of his nostrums.

When an author or thinker’s own published total output is exceeded in a single year by that of writers writing about his ideas, it is a fair assumption that there is a ‘bubble’ in his or her stock.

Tainted Burgers Show That Corporate Profits Trump Public Safety (Cargill and McDonalds Edition)

Reader Crocodile Chuck pointed out a set of articles at the New York Times that illustrates how skewed priorities in America have become. They also reveal how little public ire there is in the face of large-scale abuses that affect the average Joe. If corporate prerogatives cannot be reined in when personal safety is at stake, how will they be curbed when the chicanery and looting is harder to pin down? The public just isn’t exercised about it.

The object lesson is America’s addiction to hamburgers versus E coli. E coli gets into the food chain when feces get into the meat. Period. It’s a very straightforward contamination mechanism. And in this case, the party fighting for the right to eat contaminated food is Cargill, and one of its major suppliers in its burger business, a company called Beef Products.

If you think I am overstating the case, let’s go back first to an October New York Times article:

Stephanie Smith, a children’s dance instructor, thought she had a stomach virus…

Then her diarrhea turned bloody. Her kidneys shut down. Seizures knocked her unconscious. The convulsions grew so relentless that doctors had to put her in a coma for nine weeks. When she emerged, she could no longer walk. The affliction had ravaged her nervous system and left her paralyzed.

Ms. Smith, 22, was found to have a severe form of food-borne illness caused by E. coli, which Minnesota officials traced to the hamburger that her mother had grilled for their Sunday dinner in early fall 2007…

Meat companies and grocers have been barred from selling ground beef tainted by the virulent strain of E. coli known as O157:H7 since 1994, after an outbreak at Jack in the Box restaurants left four children dead. Yet tens of thousands of people are still sickened annually by this pathogen, federal health officials estimate, with hamburger being the biggest culprit…This summer, contamination led to the recall of beef from nearly 3,000 grocers in 41 states.

Yves here. Now Smith’s reaction was unusually severe, but the point is with the 1994 rule this should not be happening at all, and it still is. Why? The big reason is enforcement is a joke. Grinders are not required to test for the pathogen, and the inspections are rare and even then, an imperfect control mechanism:

The frozen hamburgers that the Smiths ate, which were made by the food giant Cargill, were labeled “American Chef’s Selection Angus Beef Patties.”….ingredients came from slaughterhouses in Nebraska, Texas and Uruguay, and from a South Dakota company that processes fatty trimmings and treats them with ammonia to kill bacteria.

Using a combination of sources — a practice followed by most large producers of fresh and packaged hamburger — allowed Cargill to spend about 25 percent less than it would have for cuts of whole meat.

Those low-grade ingredients are cut from areas of the cow that are more likely to have had contact with feces, which carries E. coli, industry research shows. Yet Cargill, like most meat companies, relies on its suppliers to check for the bacteria and does its own testing only after the ingredients are ground together. The United States Department of Agriculture, which allows grinders to devise their own safety plans, has encouraged them to test ingredients first as a way of increasing the chance of finding contamination.

Yves here. Did you catch that? to the extent the burgers are tested, it’s only after the meat has been ground, and hence impossible to tell what the source might be. Does that look like a serious effort to assure safety? But it gets better:

Unwritten agreements between some companies appear to stand in the way of ingredient testing. Many big slaughterhouses will sell only to grinders who agree not to test their shipments for E. coli, according to officials at two large grinding companies. Slaughterhouses fear that one grinder’s discovery of E. coli will set off a recall of ingredients they sold to others.

Yves again. So there is active, widespread collusion to undermine safe practices. Back to the article:

Food scientists have registered increasing concern about the virulence of this pathogen since only a few stray cells can make someone sick, and they warn that federal guidance to cook meat thoroughly and to wash up afterward is not sufficient. A test by The Times found that the safe handling instructions are not enough to prevent the bacteria from spreading in the kitchen.

Yves here. The New York Times describes in some detail how feces can and do enter the food production process. Then it turns to Cargill’s intransigence. Cargill was the target of inspections is 2007; spot checks found that nearly 25% had “serious problems” safety-wise. In addition:

In the weeks before Ms. Smith’s patty was made, federal inspectors had repeatedly found that Cargill was violating its own safety procedures in handling ground beef, but they imposed no fines or sanctions…

When Cargill defended its safety system and initially resisted making some changes, an agency official wrote back: “How is food safety not the ultimate issue?”

Yves again. The article had a long, informative description of the hamburger business system, how feces can and do enter burger production, how profit and output pressures make that more likely.

The article in particular discusses one process used by suppliers of fatty meat, ahem, “trim”, which may have been a culprit in the Smith poisoning:

Cargill’s final source was a supplier that turns fatty trimmings into what it calls “fine lean textured beef.” The company, Beef Products Inc., said it bought meat that averages between 50 percent and 70 percent fat, including “any small pieces of fat derived from the normal breakdown of the beef carcass.” It warms the trimmings, removes the fat in a centrifuge and treats the remaining product with ammonia to kill E. coli….

An Iowa State University study financed by Beef Products found that ammonia reduces E. coli to levels that cannot be detected. The Department of Agriculture accepted the research as proof that the treatment was effective and safe. And Cargill told the agency after the outbreak that it had ruled out Beef Products as the possible source of contamination. [emphasis ours]

But federal school lunch officials found E. coli in Beef Products material in 2006 and 2008 and again in August, and stopped it from going to schools, according to Agriculture Department records and interviews.

Yves here. So the faith in efficacy of this ammonia-washing process is based on a single study, funded by a company that uses it to reduce costs. Would you rely on it?

Beef Products is a major player:

With seven million pounds produced each week, the company’s product is widely used in hamburger meat sold by grocers and fast-food restaurants and served in the federal school lunch program. Ten percent of Ms. Smith’s burger came from Beef Products, which charged Cargill about $1.20 per pound, or 20 cents less than the lean trimmings in the burger, billing records show.

Yves here. Do the math. Seven million pounds a week. Assume a half a pound a burger. That is 14 million burger equivalents (remember this product gets mixed in with other beef scraps). McDonalds has been a buyer of Beef Products’ “product” since 2004.

Now we get to the curious part. The Times had an article yesterday about that very same dubious feces removal process, and does not connect the dots back to the earlier article, and in particular, the connections to Cargill. Key bits:

Beef Products Inc., had been looking to expand into the hamburger business with a product made from beef that included fatty trimmings the industry once relegated to pet food and cooking oil. The trimmings were particularly susceptible to contamination, but a study commissioned by the company showed that the ammonia process would kill E. coli as well as salmonella.

Officials at the United States Department of Agriculture endorsed the company’s ammonia treatment, and have said it destroys E. coli “to an undetectable level.” They decided it was so effective that in 2007, when the department began routine testing of meat used in hamburger sold to the general public, they exempted Beef Products…

With the U.S.D.A.’s stamp of approval, the company’s processed beef has become a mainstay in America’s hamburgers. McDonald’s, Burger King and other fast-food giants use it as a component in ground beef, as do grocery chains. The federal school lunch program used an estimated 5.5 million pounds of the processed beef last year alone.

But government and industry records obtained by The New York Times show that in testing for the school lunch program, E. coli and salmonella pathogens have been found dozens of times in Beef Products meat, challenging claims by the company and the U.S.D.A. about the effectiveness of the treatment…..

In July, school lunch officials temporarily banned their hamburger makers from using meat from a Beef Products facility in Kansas because of salmonella — the third suspension in three years, records show. Yet the facility remained approved by the U.S.D.A. for other customers.

Presented by The Times with the school lunch test results, top department officials said they were not aware of what their colleagues in the lunch program had been finding for years.

The Beef Products case reveals a schism between the main Department of Agriculture and its division that oversees the school lunch program…Within the U.S.D.A., the treated beef has been a source of friction for years. The department accepted the company’s own study as evidence that the treatment was effective. School lunch officials, who had some doubts about its effectiveness, required that Beef Products meat be tested, as they do all beef used by the program.

School lunch officials said that in some years Beef Products testing results were worse than many of the program’s two dozen other suppliers, which use traditional meat processing methods.

Yves here. There is also a VERY long discussion of how the product’s ammonia smell elicited customer complaints, and this scrap product has an alkalinity well beyond the range of most foods.

Now consider this part:

Cargill, one of the nation’s largest hamburger makers, is a big buyer of Beef Products’ ammoniated trimmings for its patties. Company records show that Beef Products, like other suppliers, has periodically exceeded Cargill’s limits on acceptable bacteria levels. That led Cargill to stop buying meat from two Beef Products plants for several months in 2006 after company tests showed excessive levels of salmonella.

But the following year, when Cargill faced an E. coli outbreak, it ruled out Beef Products as a possible culprit, citing the U.S.D.A.’s view that the ammonia treatment provided a “lethality step” for the pathogen. In addition, Cargill officials said recently, they suspect that another supplier, not Beef Products, was the problem. As a result, Beef Products did not face as wide a recall as other Cargill suppliers.

Yves here. Now see what this says. Cargill admits to having had salmonella problems with Beef Products, but argues that it isn’t an E coli problem, backing the company’s claims that its ammonia washing process is effective, when there is ample evidence that it isn’t.

So why is Cargill defending Beef Products? The October story had the goods. Beef Products provided 10% of the “meat” in the burger that ruined Stephanie Smith’s health. Beef Products is a very significant supplier to Cargill overall. Its “product” is 5/6 the cost of ground beef. So if we assume that that 10% is representative across all of Cargill’s hamburger products (a big if; my bet is, given Beef Products’ huge weekly output, it is a higher percent of Cargill’s typical burger), then Cargill is defending a dubious producer and process that saves it 1.6% of a typical burger. While that is a big number in a thin margin business like food, why are we discussing tradeoffs like this at all? That sort of calculus was deemed completely unacceptable with the Pinto, a car that would turn into a fireball on a rear-end impact. What indicted Ford, its manufacturer, in the court of public opinion when Mother Jones Magazine obtained a memo that showed that Ford was aware of the problem, and decided it was not worth its while to incur an extra $11 per vehicle in costs to prevent an expected 180 deaths per year.

Yes, meat inspection in the US is a horrorshow (a much bigger topic) but the Cargill/Beef Products case is straightforward. This sort of contamination has been illegal since 1994. Yet (outside the school lunch program), greedy companies who have and continue to hurt consumers to bolster their bottom lines get their regulators to give them a free pass. And unless consumers take action that hits the companies’ bottom lines directly, like boycotting mass produced burgers, these dangerous practices are certain to continue.


Are Airport Full Body Scanners A Health Menace?

Dear readers, the headline may seem alarmist, so let’s work though the claims and counter claims:

Full body scanning involves radiation. The medical profession has been pretty remiss about pointing out the dangers of radiation, even though radiation can cause cancer. That’s probably because a quite a few diagnostic tests involve the use of radiation, and they are too often cavalier about it (has any doctor about to give you an X-ray bothered asking how many you’ve had over your lifetime?) Yes, we’ve had some exceptions, like doctors arguing against the recent fad of annual full body CT scans because the dose is equal to that of several years of background radiation, but that posture is comparatively rare (one of my pet beefs has long been the until recent recommendation to get annual mammograms starting at age 40. Mammograms are a terrible test, with a high level of false positives and false negatives; a manual exam by an experienced practitioner has a much higher success rate of catching the fast-growing, dangerous cancers, but doesn’t fit the modern idea of what a test should look like. Oh, and all those radiologists have an installed base of equipment they need to pay off. Think that might have an effect on their view of the situation?)

The writing here (from NoWorldSystem) is sensationalistic. While it does cite medical experts, but does not provide data about the doses involved:

TSA Security Laboratory Director Susan Hallowell recently announced the agency’s intent to use back-scatter X-ray machines for passenger surveillance. These hugely expensive, closet-sized zappers can find the plastic bombs hidden in grandma’s underpants, while delivering a smacking dose of ionizing radiation to her breasts and thyroid gland.

Yves here. I hate to sound heartless, but I wouldn’t get too wound up about zapping older people. Unless they are aging jet-setters, they won’t get too many doses in what is left of their life. It’s younger people, particularly corporate road warriors and airline staff, who are at the most risk. Back to the details:

Virtually all passengers and airline crews who pass through airport screening checkpoints in the U.S. may soon be forced to submit to compulsory, whole-body X-ray exposure…

Officials must naturally defend compulsory passenger X-rays as harmless. But they are signing no guarantees because ionizing radiation in the X-ray spectrum damages and mutates both chromosomal DNA and structural proteins in human cells. If this damage is not repaired, it can lead to cancer. New research shows that even very low doses of X-ray can delay or prevent cellular repair of damaged DNA, raising questions about the safety of routine medical X-rays. Unborn babies can become grotesquely disfigured if their mothers are irradiated during pregnancy. Heavily X- rayed persons of childbearing age can sustain chromosomal damage, endangering offspring. Radiation damage is cumulative and each successive dose builds upon the cellular mutation caused by the last. It can take years for radiation damage to manifest pathology.

A leading U.S. expert on the biological effects of X-radiation is Dr. John Gofman, Professor Emeritus of Molecular and Cell Biology, University of California, Berkeley. Dr. Gofman’s exhaustive research leads him to conclude that there is NO SAFE DOSE-LEVEL of ionizing radiation. His studies indicate that radiation from medical diagnostics and treatment is a causal co-factor in 50 percent of America’s cancers and 60 percent of our ischemic (blood flow blockage) heart disease. He stresses that the frequency with which Americans are medically X-rayed “makes for a significant radiological impact.”

This highly credentialed nuclear physicist states: “The fact, that X-ray doses are so seldom measured, reflects the false assumption that doses do not matter…[but] they do matter enormously. And each bit of additional dose matters, because any X-ray photon may be the one which sets in motion the high-speed, high energy electron which causes a carcinogenic or atherogenic [smooth muscle] mutation. Such mutations rarely disappear. The higher their accumulated number in a population, the higher will be the population’s mortality rates from radiation-induced cancer and ischemic heart disease.”

A report in the British medical journal Lancet noted that after breast mammograms were introduced in 1983, the incidence of ductal carcinoma (12 percent of breast cancer) increased by 328 percent, of which 200 percent was due to the use of mammography itself. A Lawrence Berkeley National Lab study has demonstrated that breast tissue is extremely susceptible to radiation-induced cancer, confirming warnings by numerous experts that mammograms can initiate the very cancers they may later identify. Dr. Gofman believes that medical radiation is a co-factor in 75 percent of breast cancer cases. So why would girls and women want their breast tissues irradiated every time they take a commercial flight?…

Airline pilots and cabin crews suffer a significant incidence of leukemia, skin and breast cancer due to chromosomal damage from ionizing cosmic radiation encountered during years of flying at high altitudes.

Dr. Gofman’s research reveals a dose-response relationship between medical X-rays and fatal heart disease, the number one killer of Americans. He found that X-radiation is a powerful atherogen, causing mutations in smooth muscle cells of coronary arteries. These radiation damaged cells are unable to process lipoproteins correctly, resulting in atherosclerotic plaques and mini tumors in the arteries. Radiation used to treat breast cancer can badly damage the heart.

As Dr. Gofman and other experts argue for improved diagnostic techniques and equipment to reduce medically necessary X-ray exposure, TSA gears up to impose frivolous, nonmusical exposure, even though conventional airline security measures have proven adequate since 9/11. To date, the National Institutes of Health, the American Cancer Society and the American Heart Association have been silent about TSA’s sinister plan to deliver unlimited doses of carcinogenic, mutagenic, heart damaging radiation to the flying public. No health studies are planned to gauge short and long-term effects of the radiation TSA will deliver to inspect our innards

Yves here. Now the claim is made elsewhere that the radiation level is no biggie because the dose is lower than that needed to penetrate tissue:

The amount of radiation used during this scan is equal to 15 minutes of exposure to natural background radiation such as the sun’s rays. One scan emits less than 10 microrem, the unit used to measure radiation. Comparably, an hour on an airplane at a high altitude exposes a passenger to 300 microrem, and the average person is exposed to 1,000 microrem of radiation over the course of a normal day.

Yves here. Note that even with this cheery info, the doctors asked about it were not fully on board with the “no risk” posture:

Dr. Albert J. Fornace Jr., an expert in molecular oncology at Georgetown University Medical Center, said such a low dose was inconsequential, even for pregnant women. “Obviously, no radiation is even better than even a very low level,” Dr. Fornace said. “But this is trivial.” But David J. Brenner, a professor of radiation oncology at Columbia University, said that even though the risk for any individual was extremely low, he would still avoid it.

Yves here. One concern is the almost certain lack of monitoring of the output of these machines once installed (as in it could wind up being much in a malfunctioning machine). And for frequent fliers and airline crew, I’m not sure any additional radiation, even a seemingly small amount, is a good idea. The radiation exposures that crews and passengers get is worst at high latitudes (I understand NY-London is worst than most). And they get a fair amount to begin with. The WHO gives some parameters:

The overall effect for flight crew and travellers is an increased radiation exposure during flights as compared to staying on the ground. Flight crew passes up to 1000 hours per year on board of flying planes, which leads to annual effective radiation doses in the range of 2 to 5 milliSievert (mSv) for most crew. Occasional travellers obtain a fraction of this value through less frequent leisure or occupational flights. In comparison, the natural background radiation amounts to 2 to 3 mSv per year at most geographical locations worldwide.

Yves again. And yet again, the government-private sector revolving door means that the makers of scanners have the former head of Homeland Security making their case (hat tip reader I on the Ball Patriot). So whether these scanners are a plus or not, we seem destined to get them:

Since the attempted bombing of a U.S. airliner on Christmas Day, former Homeland Security secretary Michael Chertoff has given dozens of media interviews touting the need for the federal government to buy more full-body scanners for airports.

Michael Chertoff, former Secretary of the Department of Homeland Security, speaks at the ceremonial swearing-in of Paul J. Fishman, US Attorney for the District of New Jersey at Rutgers Law School in Newark, N.J., Monday, Dec. 14, 2009.

What he has made little mention of is that the Chertoff Group, his security consulting agency, includes a client that manufactures the machines. The relationship drew attention after Chertoff disclosed it on a CNN program Wednesday, in response to a question.

An airport passengers’ rights group on Thursday criticized Chertoff, who left office less than a year ago, for using his former government credentials to advocate for a product that benefits his clients.

“Mr. Chertoff should not be allowed to abuse the trust the public has placed in him as a former public servant to privately gain from the sale of full-body scanners under the pretense that the scanners would have detected this particular type of explosive,” said Kate Hanni, founder of, which opposes the use of the scanners.

Chertoff’s advocacy for the technology dates back to his time in the Bush administration. In 2005, Homeland Security ordered the government’s first batch of the scanners — five from California-based Rapiscan Systems.

Yves again. Frankly, health issue or no, I find these ever escalating encroachments on my person to be unwarranted, but don’t get me started on the civil liberties issues.


Links 1/3/09

Missing San Francisco sea lions ‘off Oregon‘ BBC

Tom Gregory: Goldman Sachs To Launch New HQ! Huffington Post

Get a Dog James Kwak

World Gone Mad Matthew Yglesias

The TSA’s Intimidation Of Bloggers Over Leaked Security Rules Is A Disgrace Clusterstock and Blogging and the tyranny of government Ed Harrison. See, this is the first step towards bloggers being declared suspected enemy combatants and disappeared!

A quote from Amartya Sen, and my New Year’s Tax Resolutions (for Congress and the Obama Administration) Linda Beale. I like her list, particularly #5.

Mainstream Economists Unable To Discuss Economics Robert Vinneau

Americans Doing More, Buying Less, a Poll Finds New York Times. A positive development indeed.

”Scientists Need to Speak Up’‘ Mark Thoma

Another Reason to Keep the Estate Tax: It Will Save Baby Seals Economists for Firing Larry Summers

Email From Afghanistan on “Waste of War” Michael Shedlock.

Failings at the banks to be laid bare Times Online. And why no investigations here?

Antidote du jour (hat tip reader Garrett):

Scary Shadow Inventory Numbers

OK, this factoid is just San Diego, one of the epicenters of the housing implosion. But the flip side is conventional wisdom is that the worst hit locales are bottoming first….right?

Maybe not. Again, generalizing based on one data point is not advisable, but this one is so striking that I can’t help but think that even a much lesser version of this pattern elsewhere would mean housing has a ways to go on the downside. That would be consistent with historic norms, since per Carmen Reinhart and Kenneth Rogoff, in severe financial crises, real estate takes over five years from its peak (which in our case was 2Q 2006) to hit the trough.

And this is the year when Option ARMs hit the wall in a big way too…

From Rich Toscano:

….there were 19,453 San Diego homes that were in foreclosure but that were not yet listed for sale….

There are currently 11,976 homes listed for sale in San Diego. If all the shadow inventory were to hit the market, inventory would increase by 162 percent to 31,429.

The 11,976 figure in the prior bullet includes active inventory as well as inventory that is marked “contingent,” meaning that the property is a short sale or the like that has an accepted offer that is awaiting lender approval (thus, the property is not really available for sale). Using only the active inventory of 7,964 homes, shadow inventory would swell the number of homes for sale by 244 percent.

Using the average number of sales over the past year, releasing the shadow inventory into the wild would add 7.3 months’ worth of inventory. By comparison, in November there were 4.6 months of inventory if you count both active and contingent homes, and only 3.0 months if you count just active listings. So adding all that shadow inventory would increase the number of homes actively for sale from 3 months’ worth to 10.3 months’ worth — more than a three-fold increase.

Yves here. So it may be that the working of the excesses in the worst hit markets is considerably overstated.

Sandy Weill’s Je Ne Regrette Rien at the NYT Falls Very Flat

Sandy Weill, former chief poohbah of Citigroup, tells us that he had nothing to do with the implosion of the sprawling behemoth. Everything he did was right, it was his successor, Chuck Prince, who screwed up (well maybe he was an itty bitty bit responsible by virtue of recommending Prince). Oh, and it’s Jamie Dimon fault too for being so pushy about succession.

Now in fairness, the story about Weill at the New York Times does give a bit of color to the problems Citi has had, and why they might indeed be attributable to Weill. But this is still a case example of the dangers of the Times’ notion of “fairness”. “Fair” in American media means you tell both sides of the story. But what if some of the arguments made on one side are rubbish? Yes, both sides no doubt have a case to make, but don’t media outlets like the Times at least have a duty to make sure that the arguments presented are valid?

First object lesson:

“Sandy will forever be identified with Citigroup,” says Michael Armstrong, a Citi board member and a former chief of AT&T. “He put everything he had into its creation.”

Yves here. Lordie. Anyone with an operating brain cell will hopefully know to discount the praise of a former board member (translation: someone who got cash and perks directly from Sandy and is thus hardly objective). But Armstrong is a special case. Michael Armstrong was one of the most overrated CEOs in the history of America, and that takes some doing. He was straight out of central casting. He did $105 billion of cable acquisitions, and the only way the math would work was if you delivered telephony via the acquired cable operations. He had committed to doing it in two years, when the needed technology (voice over internet protocol) at that juncture had never been deployed outside a lab. Oh, and if you did somehow figure out how to scale the technology, you’d also need to increase the number of installation staff (and I don’t mean those call center people, I mean the kind who come to your house with equipment attached to their belt) by 50% in that timeframe. My moles (professionals serving AT&T top brass who are on a first name basis with corporate psychopathy) told me that the backstabbing and intrigue at AT&T corporate made the French court look good. I told everyone I knew in May 1999 to sell AT&T. No one listened.

That is a long-winded way of saying an endorsement from Armstrong isn’t just meaningless, it’s a negative indicator.

But this is the part that frosts my cake, where the Times itself repeats Weill PR uncritically:

Mr. Weill built his wealth, status and power by creating what was once the world’s largest bank

The headline picks up that theme: “Citi’s Creator, Alone With His Regrets.” And as we will see later, his regrets are very thin indeed.

Even though this is merely the subtext of the article, it positions Weill. And various studies have found that the more importance you ascribe to someone’s role, the more favorably they are judged (people correctly allow for a degree of difficulty factor).

This is utter bullshit, and I am tired of corporate conglomerateurs being called “creators” or “builders”. You may not like what Sam Walton or Bill Gates created, but their achievements are of a completely different order and have held up better as companies than those of Weill.

And most important, he is inaccurately being given credit for Citibank, later Citicorp, which at the time of the Citigroup-Travelers deal, came out on top, and John Reed rather than Weill was presumed to be the eventual chairman. But Weil mounted a successful coup.

I had Citibank as a client in the 1980s, and even though it was a mess even then, it was an impressive and intriguing mess, like an extremely accomplished actor that regularly goes on binges and tears up hotel rooms. The bank had people who were on average considerable brighter and more energetic than the the commercial banking norm, and also pretty meritocratic by the standards of that era (if you were a minority, a foreign national, or female, Citi was a better career bet than most other places). It was reflexively innovative (not that that made an ounce of strategic sense, Citi would spend the time and money to innovate, and in particular, break new paths on the regulatory front, and the fast followers would get much of the advantage of Citi’s efforts at a fraction of the cost). Citi created the interest rate and FX swaps businesses, and John Reed came to prominence by computerizing Citi’s operations, a massive task (and Citi was a path-breaker again, well ahead of its peers). But the place was freewheeling for a bank and thus in a good bit of disarray. The fact that it reorganized every two years or so was no help (one of the side effects was that it was in many cases well nigh impossible to track the performance of businesses and products over time).

And it was Walter Wriston, not Weill, who had the vision of the Citi that eventually came to be. Wriston saw Citi as a globe-spanning enterprise, with a bank offering financial products of every type to every imaginable customer. His early 1980s strategy was “Five Is”: Institutional Banking, Individual Banking, Investment Banking, Insurance, and Information. Even then, he wanted to be not just in insurance and investment banking, but information based services (and not just Bloomberg imitators; one would have restructured the international trade business, but politics within McKinsey undermined it when the folks at Citi were keen to move it forward).

In other words, Weill and his backers exaggerate his role considerably. Weil was a very talented deal guy, with a real nose for value, a tough negotiator who was far more disciplined than most in his field. He developed a detailed protocol for integrating acquired companies, a critical task that eludes most buyers. So his accomplishments within that field were quite impressive, and he should be given his due there (reader no doubt know that every study every done has found most acquisitions fail, as in destroy value).

Now despite puffing Weill up more than he deserves, the piece reads like an artfully drafted reference letter, where the writer actually is not that keen about the candidate, but uses a deliberate disconnect (say enthusiastic tone versus little substance) to signal his ambivalence. Thus Sandy fans may think the piece was pretty favorable, while a more detached reader could come away with a different take.

Let’s look at some of the substance:

“The dream, the mirage has always been the global supermarket, but the reality is that it was a shopping mall,” says Chris Whalen, editor of The Institutional Risk Analyst, of Citi’s evolution over the last decade. “You can talk about synergies all day long. It never happened.”

Citi’s troubles are well chronicled: a failure to integrate its disparate parts worldwide or to keep tabs on risky investments and free-wheeling operations.

Yves here. These problems were intrinsic to Wriston’s vision, but they got worse and worse as the bank got bigger and bigger. Back to the piece:
And Mr. Weill vigorously defends his record, rebutting critics who say that Citi was an unstable creation.

Judah Kraushaar, a hedge fund manager and former banking analyst who worked with Mr. Weill on his autobiography, said that Citi’s problem wasn’t that it was unmanageable, but that it lacked enough good managers — and that Mr. Weill was a good manager.

“When he left, the company had all the hallmarks of how Sandy ran a business: it was lean; it didn’t have a bloated balance sheet,” says Mr. Kraushaar. “Had he picked a different successor things could have turned out very differently.”

Yves here. The use of this quote, in context, comes off as a subtle bit of hatchet work, since it creates the impression that it is hard to come up with objective sourcesthat are positive about Weill’s record. Note the first was Armstrong, who is beholden to Weill. Kraushaar is also in his orbit.

The article does have lots of sympathy building patter:

One wall is devoted to framed magazine and newspaper articles chronicling his career. A Fortune magazine clipping from 2001 declares Citi one of its “10 Most Admired Companies.”

On another wall hangs a hunk of wood — at least 4 feet wide — etched with his portrait and the words “The Shatterer of Glass-Steagall.” The memento is a reference to the repeal in 1999 of Depression-era legislation; the repeal overturned core financial regulations, allowed for the creation of Citi and helped feed the Wall Street boom.

Elsewhere in Mr. Weill’s office, a bust honors him as Chief Executive magazine’s “C.E.O. of the Year” in 2002. There are pictures of him with world leaders like Nelson Mandela, Bill Clinton, Vladimir Putin and Fidel Castro. There is also one of his humble childhood home in Brooklyn — a reminder of how far he has come.Elsewhere in Mr. Weill’s office, a bust honors him as Chief Executive magazine’s “C.E.O. of the Year” in 2002. There are pictures of him with world leaders like Nelson Mandela, Bill Clinton, Vladimir Putin and Fidel Castro. There is also one of his humble childhood home in Brooklyn — a reminder of how far he has come.

Yves here. This sort of thing puts me off, but I imagine some take it at face value. And we have this:

Starting in late 2007, he began approaching some members of Citi’s board about returning to help with its recovery. He tried first when the board was looking to replace Mr. Prince as C.E.O., and later after Vikram Pandit got the job. At the time, Mr. Weill imagined that he would be welcomed. “I had 50 years of experience,” he says. “I think I was a pretty good student of the markets, and the business. I had a good feel of things. I felt that just because I retired didn’t mean my brain went to mush. Maybe I could help.”

No one responded to his offers.

The rejection stung. Citigroup had for so long been central to his life. It was hard to accept that he had no control or influence over it anymore. “It’s very hurtful. Even though he says, ‘No, no, it’s fine,’ ”says Joan Weill, his wife of 54 years. “I know him. The company means so much to him. It was his baby.”

Yves here. The idea that he’d be welcomed back when the bank was in crisis strikes me as delusional, since the story gives no indication that he was still close to the movers and shakers at the bank (that sort of thing happens seldom, most often when board members are still in close contact with the old CEO) but again, there could be more to this that the NYT presents.

The story also gives his defense of his use of a Cit private plane to go on vacation in Mexico (he was permitted use as part of a deal to terminate a consulting contract). He was unhappy at being depicted as an out-of-touch banker…but this is a man worth hundreds of millions of dollars who IS an out of touch banker! Even though he was entitled to use the plane, this was a tone deaf move. And per our opening comment, Weill does not admit error:

Mr. Weill says that the model on which he built the company was not at fault, that it was the management that failed. For this, he accepts partial responsibility.

“One of the major mistakes that I made was my recommending Chuck Prince,” he says of his handpicked successor, who ran the company from 2003 to 2007. Mr. Weill blames Mr. Prince for letting Citi’s balance sheet balloon and taking on huge risks.

Yves here. Please, this is NOT taking responsibility. This is the BS that MBAs are taught to dole out. “Tell me your biggest fault.” Standard reply; “I am too competitive.” Even better: “I am too hard on myself.” Earth to base, or in this case, New York Times: Blaming Chuck Prince and claiming that it is “a major mistake” is NOT accepting responsibility, it is an acceptable way to assign blame. Back to the story:

In addition to initially supporting Mr. Prince as C.E.O. — even though Mr. Prince had never run a bank — Mr. Weill also pushed out Jamie Dimon, a well-regarded banker who now runs JPMorgan Chase. And Mr. Weill personally recruited Robert Rubin to Citi after Mr. Rubin stepped down as Treasury secretary. Mr. Rubin, who has since left Citi and declined to comment about his tenure there, has been criticized as failing to help rein in the bank’s excesses.

Mr. Weill says he has no regrets about hiring Mr. Rubin and wishes that things with Mr. Dimon had worked out differently.

The story ends on a mixed note:

Analysts say that managerial problems plagued the Citi empire and that its board, which might have imposed some order, became little more than a rubber stamp during the Weill era. “Sandy surrounded himself with yes men,” says Mr. Whalen. “He never wanted anyone second-guessing him.”

THESE days, Mr. Weill keeps busy with charities and his personal investments…

Such giving shows that Mr. Weill remains in far better shape than most other Citi investors. Although Forbes bounced him from its list of the 400 wealthiest Americans — the magazine once estimated his net worth at $1.5 billion — he still lives regally: a $42 million apartment in Manhattan; homes in Greenwich, Conn., and the Adirondacks; and a yacht.

Citi, meanwhile, has recently shown some signs of improvement….But for so many who depended on Citi, the bank has caused irreversible damage. It’s a reality that Mr. Weill says pains him.

“Look what it’s done,” he says. “It’s hurt the dreams of so many people.”

Notice the distancing: “it’s done…it’s hurt”. It must be nice never to have to say you were one of the perps.