|This article appears in the November 2, 2007 issue of Executive Intelligence Review.
How Long Can Congress Deny
The Depression Crash?
by Paul Gallagher
Over the two weeks, between U.S. Treasury Secretary Paulson's strange Oct. 15 announcement about a mysterious "Master Liquidity" scheme to save huge banks from huge losses, and Moody's Investors Service's Oct. 26 move to a massive international downgrade of bonds collateralized by mortgage securities, every economic sign has flashed the raw red of depression collapse underway.
The U.S. dollar, after Paulson's giveaway announcement that the fear of bank collapses is abroad in his high financial circles, rapidly sank by another 5% against the euro (for example) within ten days. The Treasury's Oct. 16 report of net investments into/out of U.S. securities in August (Treasury International Capital Statistics, or TICS) was a shock that opened a view of the financial crash underway. One Royal Bank of Scotland economist quoted by the Financial Times called the report "a truly stunning TICS number, the likes of which I have never seen." The Treasury reported that there was a huge net outflow of $163 billion from U.S. securities in August, as everything but short-term U.S. T-bills (the flight to safety) was massively dumped. The U.S. mortgage-based bubble was where the junk, subprime, high-interest action was for banks and funds worldwide, blowing that bubble to $20 trillion proportions until it collapsedand everybody had to dump the toxic crap.
Central banks of Asia and other countries holding major dollar reserves, dumped U.S. government securities to the tune of nearly $80 billion in the past six months, according to Treasury reports; only the Bank of England and British investors bought them on a large scale, masking the effect until now. According to China Daily, Chinese and Japanese sales of U.S. Treasuries grew in August, "at a pace unprecedented in the last five years, as the U.S. subprime mortgage crisis triggered the biggest sell-off of dollar assets since Russia's 1998 default,." China cut its holdings of U.S. treasuries by 2.2% or $9 billion, to $400 billion, while Japan dumped 4% of its total holdings [or $24 billion], the most since March 2000. Taiwan's ownership of U.S. government bonds fell sharply by 8.9% to $52 billion.
The sales of homes in the United States during the July-September period was revealed, by official reports, to have sunk to the rock-bottom rate of 5.5-5.7 million per yearwhen 6 million sales a year was typical three decades ago. Median home sale pricesof new homes and resaleswere shown by the same reports to have fallen by 8-10% during 2007, a drop unique to the Great Depression, but only just accelerating now. Medium-sized homebuilders like Neumann Homes in Chicago are following mortgage lenders into bankruptcy, and the biggest builders spent the last two weeks reporting multi-hundred million dollar losses. 100,000 construction jobs, net, have disappeared this year. Home ownership has fallen from 69% to 68% of American households over the past year, and is back to the level of 2000.
That two million or more households could lose their homes to foreclosure next year, after 500,000 this year, is agreed by every report of the situation.
No Action on Industrial Collapse
Despite $700 billion in defense spending, orders for durable goods in the U.S. economy have fallen by 6% over the past twelve months, from $223 billion in September 2006, to $211 at latest, including drops in June, August, and September 2007, according to Commerce Department reports. Sales of autos in 2007 are heading for a total below 16 millionback to the level of 1994-5, and a level after which at least one of the big automakers will go into bankruptcy during 2008. Auto plants continue to be closed down, and some 150,000 U.S. manufacturing jobs have been lost in the first three quarters of the year.
In a sad drama enacted throughout the auto shops during September-October, 250,000 unionized auto workers are being forced to accept new contracts under which the average auto industry wage is falling to $15-18/hour, wiping out the largest remaining source of middle-class incomes in the United States. This is a major factor in the explosion of home foreclosures across the Midwest and Mid-Atlantic states.
Banks and other financial corporations have announced, or carried out, about 100,000 layoffs during 2007 as they are hit by mounting losses in the mortgage-bubble meltdown. Another 30-40,000 have been laid off by exploding mortgage lending companies, from New Century Financial to Countrywide.
U.S. non-financial corporations, according to Federal Reserve reports, continue to spend more than their total net profits in dividends and similar payoutsin other words, they are not investing.
Just what "economic fundamental" is it, that remains strong?
Has Congress enacted a halt to foreclosures to prevent social chaos and impoverishment? So far, it has refused to do so. Has it lifted a finger to stop three years of collapse of the auto/machine tool sector? It has not. Has it issued credit for investments in economic infrastructure to reverse this collapse? That is "off the table" in Nancy Pelosi's Congress. Would President Bush allow any such investments by Congress? Not if he can stop them by veto, as he has shown with Congress' one attempt, the Water Resources Development Act.
Outrageous and Desperate Fed
At the time of publication of this issue of EIR, the Federal Reserve board will likely be cutting short-term interest rates by another one-half percent, in a worried attempt to keep Countrywide Financial Corp., Citicorp, Merrill Lynch and other banks, mortgage lenders and insurers, and brokerages from failure. The broad U.S. money supply, what was called "M3" until the Fed suppressed reports on it last year, is estimated by private economists to be growing at a nearly 15% annual rate as of Octoberan absolute flood of Fed money-printing. As the dollar sank after Paulson's Oct. 15 forced blunder, an explosion of hedge fund speculation and hyperinflation hit oil, energy commodities, metals, agricultural commodities. This will accelerate further, at another "emergency" rate cut by the Fed.
Most outrageously, EIR learned that on Oct. 12, the Fed agreed to extend huge lines of credit to two British banks$10 billion to the Royal Bank of Scotland (RBS), and $20 billion to Barclays, two of Britain's Big Four banksto cover their "need of short-term liquidity to finance their holdings of securities and certain other assets," including "residential and commercial mortgage loans and mortgage-backed securities, asset-backed securities, commercial paper and structured products."
These mortgage-backed securities (MBS)as shown in a sale of them just made by bankrupt American Home Mortgage Holdingsare sellable at best for 80 cents on the dollar, where the underlying mortgages are being paid completely up to date, and for no more than 55-60 cents on the dollar when any of the underlying mortgages are delinquent. Thus the structured investment vehicles (SIVs) that hold them, and the banks that are on the hook for them, want at all costs to avoid their sale, and instead to repurchase them internally,and hold them off their books. For that, they want huge bailouts from the central banks.
In a signal of desperate bailout, the Fed explicitly authorized RBS and Barclays to extend these entire credit lines from the Fed, totalling $30 billion, to their "affiliated broker-dealers," which would then extend the funds to the two banks' collapsing structured investment vehicles (SIVs). RBS did so immediately, with the failed Cheyne Finance, a $6-7 billion SIV of London-headquartered Cheyne (that's pronounced "Cheney") Capital.
Thus the Fed is creating hyperinflationary funds for multi-billion dollar, super-leveraged instruments designed in London for speculation in the $20 trillion U.S. mortgage bubble, registered in offshore British protectorates to avoid taxes and regulation, and now at the center of the global banking crisis.
On Oct. 25, the Bank of England (BoE)'s desperation cash infusions to Northern Rock bank officially reached $40 billion; this big mortgage bank was hit by huge runs by depositors in September and is headed for failure.
All of the hedge fund-designed special investment vehicles supposed to spread the risk of huge losses away from the big banks in a bubble implosion and credit crisis, are now coming back to hit ... the banks.
In September, bank analysts estimated publicly that $1.3 trillion in losses had occurred in the August-September crisis. But a very knowledgeable European banker consulted by EIR in late October, estimated that at least $2.4 trillion in unrealized lossesthat is, losses unacknowledged, so far, in the collapse of mortgage and mortgage-securities bubblesremain on and off the books of U.S. and European banks and financial institutions. In the next several months, the banker estimated, those losses will have to be acknowledged and taken. The "super-conduit bailout" Paulson had talked up, of somewhere between $80 billion and $200 billion, might bail out the dead assets of Citicorp alone, the banker saidnot the losses of the system.
All of the desperation money-printing of central banks, epitomized in the actions of the Federal Reserve described above, are an attempt to postpone those losses, liquify those dead, illiquid assetswhose only effect is to collapse the dollar, create hyperinflation and financial markets chaos.
Yet the banks could take those losses and survive, under new policies by the most important governments, to create "national firewalls" protecting both essential economic sectors and chartered banks from the unstoppable collapse of the rotten financial and monetary system.
The Merrill Lynch Revelation
The fact that Merrill Lynch's estimate of the mortgage-bubble losses it would have to write off, slid rapidly from $4.5 billion on Oct. 10, to $7.9 billion in its Oct. 24 third-quarter report, exposed the entire banking system, in the United States and Europe, as sitting on the kind of losses indicated to EIR by the European banker. "A couple of weeks ago, we thought the line had been drawn under the losses [of the mortgage bubble collapse]and it hasn't," said a scared London securities dealer to Reuters on Oct. 25. Some estimates were that Merrill Lynch would soon have to 'fess up to, and write off, $20 billion more, which could easily sink it for good.
Many money-center banks, and nationally chartered banks, have just reported big write-downs, and in some cases large net losses overall, in their third-quarter reports. Bank of America immediately cut 3,000 jobs, and National City Bank in Ohio, the ninth-largest U.S. bank, cut 2,500, in a parade of layoffs of hundreds to thousands of employees.
But, Reuters quoted a Bear Stearns banker, "The Merrill result means all bets are off." The banks have only been showing the tail of the dog of what their real losses are, denying the illiquidity of the assets in all their "special investment vehicles" and so forth, for as long as possible. "We are somewhat nervous" about European announcements about to come, said a bank analyst for Royal Bank of Scotland.
On Oct. 26, Moody's, having just downgraded $33 billion in mortgage-backed securities (MBS) in one fell swoop, downgraded an even bigger mass of collateralized debt obligations (CDOs) tied to $52 billion of downgraded mortgage bonds. The widely watched index of value on these securities dropped to about 82 cents on the dollar. This shock began to collapse the stocks of large insurance companies that insure mortgage securitiesmost notably Hank Greenberg's AIG Corp., and also MBIA, Ambac Insurance, Radian Group, and other insurance giantswhich also insure municipal bonds and mutual funds.
The credit collapse of July-Augustafter roughly $1.5 trillion in liquidity injections has been thrown at it by the Fed, BoE, and European Central Bank through Octoberis back on again going into November, and on a bigger scale.
The financial system is collapsing. Congress must act to put a "firewall"a Homeowner and Bank Protection Actbetween the financial collapse, and real households and the real economy. That opens the door to other emergency actions to invest in a new national economic infrastructure, to revive the industrial economy. Congressional leaders who are denying this systemic collapse, and basing their response to the foreclosure crisis on that denial, will have to eat their wordsand soon.