Ian Leslie, a loyal MR reader, asks a perceptive question:

Does anybody have a theory about the length of questions during the Q&A sessions that follow lectures/talks? Is there a relationship between length of question and age, gender, status, place in queue? Why do some people make rambling statements disguised as "questions"? How can moderators avoid such abuse of the process (pleas to keep questions short don't seem to have any effect)?

I see a few uses for public questions:

1. The "make a public statement and show them" motive.

2. The "somehow feel a need to void" motive.

3. The "signal intelligence" motive.

The "really want to know" motive is not absent altogether but I doubt if it is primary.

Anecdotally, I have found that men wearing suspenders are most likely to ask longish, rambling questions.

I am not sure moderators wish to avoid "abuse" of the question and answer process.  Perhaps the process is part of what draws people to the talk.

It matters a great deal if people have to write out questions in advance, or during the talk, and a moderator then reads out the question.  That mechanism improves question quality and cuts down on the first three motives cited.  Yet it is rarely used.  In part we wish to experience the contrast between the speaker and the erratic questioners and the resulting drama. 

My favorite method for giving "talks" is to offer no formal material but to respond to pre-written questions, which are presented and read off as the "talk" proceeds.

Fake businesses are to be used to lessen the impact of the recession on high streets in North Tyneside.

With 140 empty shops in the borough, council bosses think they have come up with a unique way of ensuring shopping areas remain as vibrant as possible.

The rest of the story is here.  For the pointer I thank Bob Cottrell, at The Browser.

Reaching for yield almost always ends badly.  (Big Picture also FT Alphaville)

Ten years later, “It’s tempting, but wrong, to write off the tech mania as mass insanity by the ignorant and ill-informed.”  (WSJ)

“Misallocation of capital is everywhere and anywhere a fallout of bad government policy.”  (Andy Kessler)

Small cap outperformance isn’t a new phenomenon.  It has been going on for ten years now.  (Bespoke, ibid)

Options traders, as measured by the put/call ratio, have gotten a bit too complacent.  (Quantifiable Edges, Trader’s Narrative)

What does the RVX/VIX ratio tell us about market turning points? (Investing With Options)

Deep value opportunities in insurance stocks.  (Street Capitalist)

Hedge funds love high quality growth stocks.  (market folly)

Regulators are misguided in preventing banks from paying dividends.  (Clusterstock)

Pre-holiday trading has lost its edge.  (MarketSci Blog)

Speculation about what bank should Barclays (BCS) buy?  (Deal Journal, MarketBeat)

The Russian ruble (and bonds) are  on quite a run of late.  (FT Alphaville, WSJ also BusinessWeek)

What Tilson and Tongue are buying.  (Tech Ticker)

An interview with microcap investor (and professor) Paul Sonkin.  (Value Walk)

Wall Street is cleaning up on Build America Bonds.  Should you?  (WSJ also IndexUniverse)

Coming soon an international, investment grade corporate bond fund, the Barclays Capital International Corporate Bond (IBND).  (ETF Trends)

Big pharma is increasingly relying on their animal health businesses to weather drug patent expirations.  (Minyanville)

Let’s end the debate over the tax treatment of carried interest once and for all.  (peHUB, Clusterstock)

How to regulate CDS.  (Felix Salmon)

David Merkel, “Unless there is a natural purchaser of an exposure that one is trying to hedge, someone must speculate to a degree to allow you to hedge.  If the speculator is undercapitalized, risks to the financial system rise.”  (Aleph Blog)

Why the SEC’s Chief Economist really quit.  (Dealbreaker)

Economists should focus on the lead up to the housing bubble as the popping of the bubble.  (Econbrowser)

The Federal Reserve needs more governors with expertise in financial markets.  (Mark Thoma)

What the tick up in tax withholdings is saying about the health of the economy.  (Big Picture)

A notable tick up in job openings.  (EconomPic Data, Calculated Risk)

The A.D.S. Business Conditions Index is indicating slower growth ahead.  (The Pragmatic Capitalist)

First the Olympic hockey gold medal and now this:  Canada’s economic growth is better balanced.  (Economist’s View)

Has nuclear energy missed its chance?  (Gregor Macdonald also Humble Student)

Why the new Cisco (CSCO) router won’t make your Internet experience any faster.  (Silicon Alley Insider also Seeking Alpha)

Quantifying the benefit of free content to Seeking Alpha.  (World Beta)

An in depth piece on the ugly TCW-Jeffrey Grundlach breakup.  (Fortune)

Newspapers need to a better job of engaging their readers.  (GigaOM)

On the value of interaction:  StockTwits vs. CNBC.  (ValuePlays)

Why we fixate on enemies and inflate their perceived power.  (Marginal Revolution)

Abnormal Returns Now is the real-time component of this site.  Check it out.

Andrew has a post titled "Reality and the Wall Street Journal" in which he lays into Scott Rasmussen for daring to claim, in the Wall Street Journal, that health care reform is unpopular:
And yet the latest YouGov poll, reflecting the direction of many others, now shows a majority favoring reform, 53 - 47, as I noted yesterday. And Pollster's poll of polls, excluding Rasmussen's outlier numbers, favoring the old, white and Republican, show a dramatic rise in support this past month, as the consequences of getting nothing at all begin to sink in:

Even if you include Rasmussen's consistently outlier polling, as Chait notes, you get this:

Okay, first off: Rasmussen is an outlier on presidential approval, not on health care, where it has always been pretty much solidly middle of the pack, and occasionally kinder to the Democrats.  The YouGov poll is an outlier.  YouGov polls approval higher because it doesn't offer a "don't know" option, and people tend to be biased towards affirmative answers when they're being polled.  (Pollsters like to say that you can get 110-5% to support just about anything).  YouGov's current results are probably an outlier even for YouGov's polls, though I agree with Andrew that the polls have definitely trended less negative on reform in the past few weeks.  Taking Rasmussen out skews the results so much because YouGov and Rasmussen poll much more frequently than most of the other organizations on the Pollster.com list.

The fact is, the public is still opposed.  We're in the middle of a natural cycle where more optimistic polls are dominating--AFP/GFK is just about exactly where it was before, but where it was before is less negative than, say, CNN or Marist.  Maybe the public will cross the finish line over the next few weeks; on the other hand, maybe we're seeing a bump from Obama's roundtable that will abate the same way his September speech did, replaced by the unfavorable coverage that is about to follow constituent meetings in various districts. Either way, Rasmussen is not wrong:  more people have opposed this bill than favored it since July, and that is still the case today.

Andrew has a post titled "Reality and the Wall Street Journal" in which he lays into Scott Rasmussen for daring to claim, in the Wall Street Journal, that health care reform is unpopular:
And yet the latest YouGov poll, reflecting the direction of many others, now shows a majority favoring reform, 53 - 47. And Pollster's poll of polls, excluding Rasmussen's outlier numbers, favoring the old, white and Republican, show a dramatic rise in support this past month, as the consequences of getting nothing at all begin to sink in:

Even if you include Rasmussen's consistently outlier polling, as Chait notes, you get this:

Okay, first off: Rasmussen is an outlier on presidential approval, not on health care, where it has always been pretty much solidly middle of the pack, and occasionally kinder to the Democrats.  The YouGov poll is an outlier.  YouGov polls approval higher because it doesn't offer a "don't know" option, and people tend to be biased towards affirmative answers when they're being polled.  (Pollsters like to say that you can get 110-5% to support just about anything).  YouGov's current results are probably an outlier even for YouGov's polls, though I agree with Andrew that the polls have definitely trended less negative on reform in the past few weeks.  Taking Rasmussen out skews the results so much because YouGov and Rasmussen poll much more frequently than most of the other organizations on the Pollster.com list.
The fact is, the public is still opposed.  We're in the middle of a natural cycle where more optimistic polls are dominating--AFP/GFK is just about exactly where it was before, but where it was before is less negative than, say, CNN or Marist.  Maybe the public will cross the finish line over the next few weeks; on the other hand, maybe we're seeing a bump from Obama's roundtable that will abate the same way his September speech did, replaced by the unfavorable coverage that is about to follow constituent meetings in various districts. Either way, Rasmussen is not wrong:  more people have opposed this bill than favored it since July, and that is still the case today.

David Leonhardt has a column today entitled "Health Care's Obstacle: No Will to Cut."  Unlike many headlines, this accurately sums up the thrust of the piece.  Leonhardt complains, with justification, that alternative plans also have big holes: Paul Ryan's plan is all well and good, but it would never get through Congress intact.
But I don't think, as Leonhardt seems to think, that this particularly weakens the case of reform's opponents; after all, proponents have the same problem.  Proponents of reform have been acting as if the fact that various Democrat plans have been scored by the Congressional Budget Office as "deficit neutral" somehow means that they couldn't possibly be worse than the status quo.  This is extraordinarily wishful thinking.  For one thing, as Greg Mankiw points out today (and I have previously argued), even a success will leave us worse off in one key respect: we'll have used up the easiest, most obvious cuts that otherwise would have been used to deal with our rapidly growing Medicare problem.  
The best answer that proponents have to this is that we are dealing with our Medicare problem by "bending the cost curve."  But such "bending" through the excise tax on high cost plans is highly speculative: it's not all that likely to ever happen. (Notice how many times it has already been amended and pushed back just to pass the bill?) If it does happen, it might not much alter private health care spending. Even if it did push down the rate of health care inflation in the private sector, that doesn't necessarily mean that this would translate into lower government spending.
But that's not the only reason to worry.  If the cost controls fail, we aren't just right back where we started: we're much, much worse off.  As you may have noticed, broad-based entitlements are nearly impossible to cut, much less repeal, which is why so many progressives are willing to sacrifice the current majority on the pyre of national health care.  So there's a not-insignificant chance that we'll end up with a broad-based entitlement that we can't cut and can't pay for.  Hello, budget crisis.
Of course, if we can't cut Medicare, we'll end up there anyway.  But with a budget crisis, "getting it over with as quickly as possible" is not the best strategy.  Moreover, the new entitlement probably makes it harder to reform either Medicare, or health care spending as a whole.  It adds new interest groups to the mix, which always makes reform harder.  Especially in this case, where seniors will resist any cuts that aren't matched in the under-65 program, and vice versa.
Leonhardt closes his column thusly: 
Beyond these last-minute improvements, I see only two good options for anyone who wants to be fiscally conservative. 
The first is to say we cannot afford to cover the uninsured. Our health care efforts should instead start with building support for specific measures that can be shown to save costs. Who are the members of Congress who will support these measures, and how soon can they be passed? 
The second option is to say that expanding insurance would bring enormous benefits. It would allow people to get treatments -- diabetes care, dialysis, chemotherapy, you name it -- that they are now skipping. According to one conservative estimate, universal coverage would save "probably thousands if not tens of thousands" of lives a year. 
Yet we can't afford simply to expand insurance. We also need to pay for the expansion -- and to pay for the health system we already have. Some attempts at cost control will make us uncomfortable, because we can't be sure that they will cut back only on wasteful care. All attempts will involve uncertainty.I'm interested to know who's skipping dialysis because they can't afford it, given that this is the one piece of medical care that is guaranteed by the United States government.  But this is quibbling.  Why can't fiscal conservatives say that if we want to have the entitlement, we should first make sure the cuts we're proposing work?  Why can't they say that we can't afford this particular expansion, and that it's time to go back to the drawing board?  "The fierce urgency of now" is obviously totally compelling to those who think nothing can go wrong, but for the rest of us, it's not a good reason to commit ourselves to a very risky course of action.

It's time that again.  What would you like to hear about?  Comments are open...

Okay, here is tonight’s rule:

The assumption of normality for asset price changes is wrong in virtually every financial market setting.  The proper distributions are fatter tailed and more negatively skewed.

Normality allows researchers to publish, regardless of the truth.

Normality allows risk managers and regulators to pretend that adequate reserves are held against disaster.  It also allows businessmen to achieve acceptable ROEs, while accepting a probability of ruin far in excess of what is prudent.

The normal distribution is a wonderful creation, because it is so simple.  All we need to know is the mean and the variance, which are very simple to calculate.  And… it seems close to fitting a large number of phenomena in nature where the behavior of one party does not affect the behavior of others.

But in economics and finance, the assumption of normality is perpetually violated.  I would guess that it is wrong more often than it is right.  Academics continue to drag out studies assuming normality because it allows them to publish.  academics get statistically significant results more often than they should, because they pursue specification searches, and get to results that they can publish via data mining (and ARIMA error terms — unless there is an a priori reason them, they facilitate specification searches).

And, lest I be accused of being merely biased against academics, this biases me against many businessmen as well.  Many bankers looked at their loss distributions over the prior 25 years in 2007, and assumed that risks were minuscule.  Yes, there were bad periods, but the Fed always rode to the rescue, and losses were low, aside from a few egregious offenders.

Bankers concluded that they could do no wrong, and underwriting suffered.  Rather than looking at more objective measures of risk, bank managements looked at the need to hit their earnings estimates.  Losses had not been large in the past, so the future should be equally good.

When I was a risk manager, I would look at the level of surplus, and would compare it to expected normalized annual losses — if I didn’t have at least 15x normalized annual losses, then I knew I could not survive a reasonably normal spike in defaults at the bottom of the credit cycle, though an assumption of normality, where losses don’t come in bunches, would have allowed me to lever up more.

And I have known my share of management teams that pushed at the risk manager, telling him he was too conservative.  The company couldn’t earn an adequate return on capital at such low levels of leverage.  Equity analysts expected constant growth out of financial stocks, which sadly are cyclical stocks — it is a mature industry, and mature industries are cyclical by nature.  So they added more leverage, and things worked well for a while, until things blew up.

So long as consumers felt that they could add more debt, the bet could go on, with occasional minor interruptions while the Fed mopped up the damage.  But that stopped when the Fed could not drop rates below zero.  Still, the Fed found new ways to subsidize the debts of privileged parties, by buying up their long term debts and holding them.

Look, if you want to regulate properly, you can’t rely on normality.  It does not work in finance and economics.  When looking at loss statistics, don’t look at the mean or the variance.  Instead look at the maximum 3-year loss, and gross it up by 20%.  The surplus of a company should be able to absorb the maximum amount of losses from 3 years, and then some.  I use this as an example rule; tailor it to your needs as you see best.  I used 3 years because the bust phase of when the credit cycle is rarely severe for more than 3 years in a row.

If you want to manage risk internally properly you should think similarly — look at the outliers, and ask whether you can survive something worse than that.  Here’s a personal example: if someone had come to me two months ago and asked me how likely it would be that my area near Baltimore could get 60+ inches of snow in a one week time span, I would have said, “That’s not impossible, but that is way beyond the prior record, which I think is around 30+ inches.  Very unlikely.”  Well, it happened, and five weeks of warmer weather later, my backyard is still half covered by snow.

Markets, like the weather, are far more variable than we would like to admit, and attempts to tame them often lead to suppressed volatility for a time, but with explosions of volatility later, as economic actors begin to presume upon the low volatility as their birthright, and begin to speculate more aggressively, building up progressively more leverage as they go.

So when analyzing risk look at the worst possible outcomes, and build a plan that can handle that.  Size your leverage to reflect that; in a really risky business, you might have no leverage, and extra bits of slack capital in high-quality short-term debt claims.

Finally, remember my analogy of bicycle versus table stability.  A bicycle has to keep on moving to stay upright. A table does not have to move to stay upright, and only a severe event will upend a large table.

I developed this analogy back when I was a corporate bond manager, because there were some companies that would only stay afloat if they kept moving, i.e., if operating cash flow continued at its projected pace. That is bicycle stability; they have to keep pedaling. There were other companies that could survive a setback in earnings, and even lose money for a time, and the debt would still be good. That is table stability.

This is why stress-testing beats value-at-risk in a crisis, and why the insurers came through the crisis so much better than the banks.  When liquidity disappears, strategies that require continued liquidity can cause their companies to disappear.

Better safe than sorry.  Banks should run their businesses using stress tests that will cause them to have lower ROEs because of the additional capital needed to assure solvency.  The regulations have been too loose for too long.

I went to a Center for American Progress press event showcasing the Greek prime minister this morning, and one of the slightly improbable ways he showcased to deal with his country's crisis was . . . American financial regulation. I mean, our debt problem is bad, as discussed yesterday. But I don't think it's actually infectious.
Of course, what he meant was that he didn't want "speculation" undermining his country's fiscal recovery. The recent Greek foray into the private debt markets was a success in that it was actually oversubscribed, and the interest rates were down from where they had been, indicating some level of confidence in the fiscal future of the Greek government. But the interest rates still reflected a hefty risk premium, and over the long run, the prime minister says that's unsustainable.
Unfortunately, I expect that Greek debt will be carrying a substantial risk premium for quite some time, reflecting the fact that the debt is, well, riskier than the debt of bigger and richer nations. The Greek economy remains quite dependent on tourism and agriculture, both of which are subject to rather sudden shocks. Its institutions are often quite weak, and corruption and tax evasion remain serious problems. Mr. Papandreou says that higher interest rates for some members of the euro-zone means that the countries paying the higher rates will be strongly disadvantaged. But given the economic and political realities, paying interest rates on par with Germany, or even Ireland, is not likely in the cards.
Thankfully, Mr. Papandreou stopped short of actually claiming that speculators were the main reason for his country's debt problems; he emphasized that he just wants to make sure that speculation doesn't undermine all his good work in getting the budget under control. But if he actually gets the budget under control, and keeps it there, he won't have to worry about speculation, because people will start betting on Greece's success.

Martin Wolf says no.  For instance:

But Germany can be Germany – an economy with fiscal discipline, feeble domestic demand and a huge export surplus – only because others are not.

To be sure, Greece is unlikely to end up as "like Germany."  But in this argument -- which I'm seeing pop up in many places -- I think there is a slight conflation between absolute and relative market shares.

Say that Portugal, Italy, and Greece were more like Germany, economically speaking that is.  Toss in Albania to make the contrast starker.  They would have higher productivity and higher output.  They would export more.  But with their higher wealth, they would import more too.  That includes more imports from Germany, most likely.  German *net exports* might well decline, as Germans buy more olive oil and high-powered computer software from Albania.  But German exports need not decline *on net* (over a longer run of continuing global growth they certainly will not decline) and that should prove good enough for the German model to sustain itself.

No economist thinks that being wealthy is a zero-sum game.  "Being like Germany" isn't exactly the same as being wealthy, but the German model succeeds (in large part) because of its high absolute level of exports.  "Net exports" is a zero-sum game at any single point in time, but when it comes to secular growth that's also not the variable which matters.

The bottom line is that people are blaming Germany (and China) a bit too much here.

Corey Haim was just found dead.

1. Silly chess sets (supposedly artistic).

2. Compare different pianists playing Schubert.

3. Are gay rights winning in Uganda?

4. Alex Ross lecture on when you should applaud.

5. John Nye on the New Deal.

6. Virginia to return government spending to 2006 levels.

New research supports the notion that we fixate on enemies, and inflate their power, as a defense mechanism against generalized anxiety.

The longer article is here.  This is another way of putting the point:

According to one school of thought, this tendency to exaggerate the strength of our adversaries serves a specific psychological function. It is less scary to place all our fears on a single, strong enemy than to accept the fact our well-being is largely based on factors beyond our control. An enemy, after all, can be defined, analyzed and perhaps even defeated.

Manpacks.com.

Their motto is:

Get a subscription service for your socks, t-shirts, and underwear. Starting at just $7. Delivered to your door every 3 months.

One of their slogans is: "Free Your Mind."

For the pointer I thank Kathleen Fasanella.

Researchers back cancer-fighting properties of papaya Associated Press

Sports Enhancement and Life Enhancement: Different Rules Apply h+ (hat tip reader David C)

Unionists make citizens’ arrest of insurance CEOs People’s World (hat tip reader John D)

Barney Eats Seconds – Or Blows Smoke – Or Both Bruce Krasting

Grayson Offers Medicare Buy-In Bill, Makes Impassioned Speech Huffington Post

Germany’s eurozone crisis nightmare Martin Wolf, Financial Times. One reader thinks the part of the article that discusses “the balance between income and expenditure in the private, government and foreign sectors must sum to zero” looks awfully similar to recent posts on NC, particularly one (here and here) by Rob Parenteau.

Alpert: Two years until we see market-clearing prices in housing market Ed Harrison

Econobloggers need their crisis back Ultimi Barbarorum. Whoops, this was on deck but didn’t make it into Links on a timely basis….still worth reading.

Why Is The Pentagon Worried About Consumer Protection? The Atlantic (hat tip reader John D). This post adopting a puzzled stance strike me as odd. It’s pretty well known that auto dealers get kickbacks, um, fees on loans they sell to car buyers. It is also a pretty good bet that most members of the armed forces are not very sophisticated financially, and hence could be steered into products that are not favorable to them. This isn’t the first time the Pentagon has intervened to protect its staff from predatory financial practices, see here for more background.

It looks like they might really ban naked CDS Eurointelligence

FDIC wants pension funds to prop up failed banks Raw Story

Goldman Sued for Overpaying Executives CBS (hat tip reader John D)

Also, per Lambert Strether, Change.org is running a poll on “ideas for change in America”. He points out, correctly, that single payer is on the list (as in, if you want to remind Team Obama that they blew it, this is one way to quickly register your unhappiness). The other one on the list I am keen about is “Move to Amend: Constitutional Rights for People, Not for Corporations – Abolish Corporate Personhood”. Vote here.

Antidote du jour:

A bonus, hat tip Richard Smith:

I’ve seldom seen so much rubbish written by people who ought to know better in a single day. Many able people have heaped the scorn and incredulity on three articles, one a piece on Rahm Emanuel slotted to run in the Sunday New York Times Magazine, another an artfully packed laudatory piece on Timothy Geithner by John Cassidy in the New Yorker and a more even handed looking one (I stress “looking”) in the Atlantic.

Ed Harrison has skillfully shredded parsed the Geithner pieces . Simon Johnson thrashed the New Yorker story. A key paragraph below:

The main feature of the plan, of course, was – following the stress tests – to communicate effectively that there was a government guarantee behind every major bank or quasi-bank in the United States. Of course this works in the short-term – investors like such guarantees. But there’s a good reason we usually don’t guarantee all financial institutions – or act happy when other countries do the same. Unconditional bailouts lead to trouble, encouraging reckless risk-taking and undermining responsible governance. You can’t run any form of reasonable market system when some big players hold “get out of bankruptcy free” cards.

Banking expert Chris Whalen was so disturbed by the numerous distortions in the New Yorker piece that he had already fired off a long letter to the editor by the time I pinged him, with these starting paragraphs:

Jack Cassidy tells us that “Timothy Geithner’s financial plan is working—and making him very unpopular.” Unfortunately this is completely wrong. Cassidy’s comment just illustrates why the New Yorker has fallen into such obscurity, namely because it is more Vanity Fair than its vivacious sibling and unable to perform critical journalism.

In fact, the banking system is continuing to sink under bad loans and even worse securities losses. Telling the public that the banks are “fixed” is irresponsible. Unfortunately this false perception is widespread, including among major media such as CNBC and also with a number of my clients in the hedge fund world.

And from Marshall Auerback, who had a ringside view of the aftermath of the Japanese bubble:

Cassidy’s article brings to mind a retort by Chou En Lai when he was asked about the success of the French Revolution. He said, “It’s too early to tell”. Yet here we have John Cassidy from the New Yorker and Joshua Green from The Atlantic both making the assumption that the Geithner plan “worked”. This whole line about “taxpayers to recover bailout money” is based on an accounting fraud, because accounting abuses are the primary means by which TARP recipients have repaid bailout money — putting us at greater risk. That may seem paradoxical, but the rush to repay is driven by a desire to have unrestrained executive bonuses (a very bad thing associated with far greater accounting fraud and failures — requiring future, larger taxpayer bailouts) and accounting abuses produce the (fictional) ability to repay the United States (primarily by failing to recognize existing losses). The TARP recipients weakened their financial condition, and increased moral hazard, when they rushed to repay the TARP funds. Both factors increase the risk of making more expensive future bailouts more likely.

Yves here. The reason that people who can discern clearly what is afoot are so deeply disturbed is simple, and all the comments touch on it. The campaign to defend Geithner and Emanuel, both architects of the administration’s finance friendly policies has gone beyond what most people would see as spin into such an aggressive effort to manipulate popular perceptions that it is not a stretch to call it propaganda.

This strategy, of relying on propaganda to mask their true intent, has become inevitable, given the strategic corner the Obama Adminstration has painted itself in. And this campaign has become increasingly desperate as the inconsistency between the Adminsitration’s “product positioning” and observable reality become increasingly evident.

Recall how we got here. Early in 2009, the banking industry was on the ropes. Both the stock and the credit default swaps markets said that many of the big players were at serious risk of failure. Commentators debated whether to nationalize Citibank, Bank of America, and other large, floundering institutions.

The case for bold action was sound. The history of financial crises showed that the least costly approach is to resolve mortally wounded organizations, install new management, set strict guidelines, and separate out the bad loans and investments in order to restructure and sell them. An IMF study of 124 banking crises concluded that regulatory forbearance, the term of art for letting impaired banks soldier on, found:

The typical result of forbearance is a deeper hole in the net worth of banks, crippling tax burdens to finance bank bailouts, and even more severe credit supply contraction and economic decline than would have occurred…

Shuttering sick banks is hardly a radical idea; the FDIC does it on a routine basis. So the difference here was not in the nature of the exercise, but its operational complexity.

This juncture was a crucial window of opportunity. The financial services industry had become systematically predatory. Its victims now extended well beyond precarious, clueless, and sometimes undisciplined consumers who took on too much debt via credit cards with gotcha features that successfully enticed into a treadmill of chronic debt, or now infamous subprime and option-ARM mortgages.

Over twenty years of malfeasance, from the savings and loan crisis (where fraud was a leading cause of bank failures) to a catastrophic set of blow-ups in over the counter derivatives in 1994, which produced total losses of $1.5 trillion, the biggest wipeout since the 1929 crash, through a 1990s subprime meltdown, dot com chicanery, Enron and other accounting scandals, and now the global financial crisis, the industry each time had been able to beat neuter meaningful reform. But this time, the scale of the damage was so great that it extended beyond investors to hapless bystanders, ordinary citizens who were also paying via their taxes and job losses. And unlike the past, where news of financial blow-ups was largely confined to the business section, the public could not miss the scale of the damage and how it came about, and was outraged.

The widespread, vocal opposition to the TARP was evidence that a once complacent populace had been roused. Reform, if proposed with energy and confidence, wasn’t a risk; not only was it badly needed, it was just what voters wanted.

But incoming president Obama failed to act. Whether he failed to see the opportunity, didn’t understand it, or was simply not interested is moot. Rather than bring vested banking interests to heel, the Obama administration instead chose to reconstitute, as much as possible, the very same industry whose reckless pursuit of profit had thrown the world economy off the cliff. There would be no Nixon goes to China moment from the architects of the policies that created the crisis, namely Treasury Secretary Timothy Geithner, Federal Reserve Chairman Ben Bernanke, and Director of the National Economic Council Larry Summers.

Defenders of the administration no doubt will content that the public was not ready for measures like the putting large banks like Citigroup into receivership. Even if that were true (and the current widespread outrage against banks says otherwise), that view assumes that the executive branch is a mere spectator, when it has the most powerful bully pulpit in the nation. Other leaders have taken unpopular moves and still maintained public support.

Obama’s repudiation of his campaign promise of change, by turning his back on meaningful reform of the financial services industry, in turn locked his Administration into a course of action. The new administration would have no choice other that working fist in glove with the banksters, supporting and amplifying their own, well established, propaganda efforts.

Thus Obama’s incentives are to come up with “solutions” that paper over problems, avoid meaningful conflict with the industry, minimize complaints, and restore the old practice of using leverage and investment gains to cover up stagnation in worker incomes. Potemkin reforms dovetail with the financial service industry’s goal of forestalling any measures that would interfere with its looting. So the only problem with this picture was how to fool the now-impoverished public into thinking a program of Mussolini-style corporatism represented progress.

How did the Administration and financial services message control teams work together?

The first was the refusal to consider investigations of any kind. Obama is widely reported to have studied the early days of Franklin Delano Roosevelt’s administration for inspiration; it would be impossible for him to miss the dramatic steps FDR took, including supporting the continuation of a Senate Banking Committee investigation into the misdeeds of the Roaring Twenties, the Pecora Commission. The Pecora Commission not only kept the bankers on the defensive, but it also did the forensic work into the abuses. It was critical to bring the nefarious practices to light to devise durable and lasting reforms.

Why were there no inquiries into how the firms that needed bailouts got themselves into a mess? This was an obvious and comparatively easy avenue of inquiry which would make a great deal of useful background accessible and identified issues for further examination. For instance, after the rescue of UBS, the Swiss Federal Banking Commission required UBS to provide an extensive report of what went wrong, and also had the bank make considerable portions of that information public, via a special report to its shareholders. Yet no US firm has been asked to make any explanation of how it managed its affairs so badly as to require extensive public support to keep from failing.

The choice here was obvious. A refusal to investigate was tantamount to a refusal to reform. A good understanding of what had happened was essential, not merely to develop sound new rules, but also to keep the industry from muddying the waters, which would be easy to do, given how complex and opaque many of the products are

More compelling evidence of the Administration’s lack of interest in reining in the money-changers came via Treasury Secretary Timothy Geithner’s first presentation on his reform plan, which was more accurately a plan to have a plan. It was widely criticized for its sketchiness, but most observers missed the true significance. Had the Obama transition team done any serious thinking about the financial crisis? Obviously not, because you don’t need to think too hard if the game plan is to go back to business as usual to the extent possible. Geither’s presentation came nearly three weeks after Obama was sworn in, and all its initiatives were Bush/Paulson wine in new bottles: a new go at the failed idea of having the government overpay for bad bank assets; “stress tests” to put more discipline around the process of handing out TARP funds to the needy; and a mortgage modification program which pretended to be able to square the circle of saving borrowers without taking on investors in mortgage securitizations.

Geithner’s not-much-of-a-plan exemplified the second tool in the Obama campaign to sell doing as little as possible to the financiers: the Theory of Positive Thinking.
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That notion has a proud tradition in America and was much in evidence in the run-up to the crisis. It promises that the economy will be fine as long as everyone thinks happy thoughts about it. For instance, I noted in a March 2007 blog post that while the tone of the Financial Times as of March 2007 had become generally grim, the US had become a Tinkerbell market, where valuations are held aloft by faith, and participants conspire to stoke true belief. And as the crisis wore on, other magical personages intervened. As a hedge fund manager who writes as Augustus Melmotte noted,

The market responded with enthusiasm to reports that the Tooth Fairy has agreed to acquire Lehman. The purchase price has not yet been determined and will be set by Dick Fuld wishing upon a star, clicking his heels three times, and being transported back to that magical place where Lehman still sells for over $70 per share….. Meanwhile, the SEC has announced an investigation of mean, evil, bad short-seller David Einhorn. …. Einhorn reportedly suggested that the Tooth Fairy does not exist and that wishing upon a star is not a wholly reliable price discovery mechanism. Christopher Cox, chairman of the SEC, said, “Vicious rumors attacking the Tooth Fairy will not be tolerated. Our entire financial system and indeed the American way of life depend on the Tooth Fairy and wishing upon a star…” The SEC is reportedly planning to set up re-education camps for short-sellers.

Remember that the US has an entire cable channel devoted to the Theory of Positive Thinking, namely CNBC, and a goodly portion of the financial media falls into CNBC-style cheerleading with more than occasional abandon.

Now it is true that this idea has a kernel of truth. John Maynard Keynes attributed the Depression to a change in investor “liquidity preferences,” which meant they had suddenly become very risk averse and preferred to hold cash until they felt conditions had improved, with devastating consequences for economic activity. Uncertainty can morph into a self-reinforcing downcycle. But it is one thing to use confidence boosting as a tool, quite another to regard it as a magic bullet. Merely clapping our hands all together will not cure the long-standing ailments in the economy.

Moreover, the Theory of Positive Thinking has been used, upon occasion, to suggest that conditions will only deteriorate if the public examines the financial services industry critically. It isn’t hard to see whose interests benefit from that posture.

Now it is hard to prove in a tidy way that the tone of financial press coverage had shifted suddenly, and decisively, to optimism as of early March. But many professional investors in my circle started regularly talking of cheerleading. Two Wall Street veterans, Sandy Lewis and William Cohan, weighed in on this pattern at the New York Times:

Whether at a fund-raising dinner for wealthy supporters in Beverly Hills, or at an Air Force base in Nevada, or at Charlie Rose’s table in New York City, President Obama is conducting an all-out campaign to try to make us feel a whole lot better about the economy as quickly as possible… We’re concerned that nothing has really been fixed. We’re doubly concerned that people appear to feel the worst of the storm is over — and in this, they are aided and abetted by a hugely popular and charismatic president and by the fact that the Dow has increased by 35 percent or so since Mr. Obama started to lay out his economic plans in March.

This result relied on more than mere dint of personality. A Pew Research Center study found that roughly government and businesses originated over half the economics-related news after the crisis. Obama himself “dominated” the key images and ideas. The reporting had a clear arc. The early coverage focused on the struggles over the stimulus plan and the banking industry plans, and as those faded, so did coverage of the crisis in any form. The tacit assumption was that the crisis was over, and the performance of the supposedly forward looking stock market was proof. But as anyone with a modicum of detachment could see, the market was a false positive, treating an aversion of utter disaster as an imminent return to normalcy.

The stock market has rallied over 60% from its early March lows, enabling the wounded banks to sell new equity to the public and avoid further contentious taxpayer-funded rescue measures. But the justification for the soft glove treatment of the banking classes, that what was good for them would prove to be good for everyone else, has proven to be wildly false. When the Dow levitated over 10,000, mainstream news outlets celebrated the event, with nary a mention of the continued train wreck in the real economy. As Matt Taibbi observed, “the dichotomy between the economic health of ordinary people and the traditional ‘market indicators’ is not merely a non-story, it is a sort of taboo — unmentionable in major news coverage.”

But banking boosterism has succeeded all too well, allowing Team Obama to fantasize that it can get away with creating Potemkin prosperity in lieu of waging the pitched battles needed to lay the groundwork for the real thing.

Indeed, the adoption of the Theory of Positive Thinking has virtually guaranteed that nothing will change, unless there is sufficient deterioration in the real economy or the financial markets to provide compelling counter-evidence. One example is the “paying back the TARP” charade. As the banks continued to post improved earnings, no matter how phony they were, they argued that they were now healthy and should be allowed to pay back the TARP funding that had been crucial to their survival. The reason they were so keenly motivated to do should have been reason enough to deny their request: namely, that they wanted to escape restraints on executive compensation, virtually the only demand that the government had made. But overpaying staff and keeping too little in the way of risk reserves was precisely the behavior that led to the near collapse of the financial system. Going back to business as usual would virtually guarantee more looting of major financial firm and another series of collapses.

But the Obama administration miscalculated badly. First, it bought the financiers’ false promise that massive subsidies to them would kick start a economy. But economists are now estimating that it is likely to take five years to return to pre-crisis levels of unemployment. Obama took his eye off the ball. A Democratic President’s most important responsibility is job creation. It is simply unacceptable to most Americans for Wall Street to be reaping record profits and bonuses while the rest of the country is suffering. Second, it assumed finance was too complicated to hold the attention of most citizens, and so the (non) initiatives under way now would attract comparatively little scrutiny. But as public ire remains high, the press coverage has become almost schizophrenic. Obvious public relations plants, like Ben Bernanke designation as Time Magazine’s Man of the Year (precisely when his confirmation is running into unexpected opposition) and stories in the New York Times that incorrectly reported some Goldman executive bonus cosmetics as meaningful concessions have co-existed with reports on the abject failure of Geithner’s mortgage modification program. While mainstream press coverage is still largely flattering, the desperation of the recent PR moves versus the continued public ire and recognition of where the Adminsitrations’s priorities truly lie means the fissures are becoming a gaping chasm.

So with Obama’s popularity falling sharply, it should be no surprise that the Administration is resorting to more concerted propaganda efforts. It may have no choice. Having ceded so much ground to the financiers, it has lost control of the battlefield. The banking lobbyists have perfected their tactics for blocking reform over the last two decades. Team Obama naively cast its lot with an industry that is vastly more skilled in the the dark art of the manufacture of consent than it is.

By John Ryskamp, an attorney and author of The Eminent Domain Revolt

Why, in their article on Latvia’s austerity budget, are Marshall Auerback and Robert Parenteau giving Latvia credit for warm, fuzzy feelings? Especially in the context of Draconian cuts? It’s because Auerback and Parenteau don’t know what they want—their emotions are not grounded in any articulated policies. So they sound friendly. But are they friendly?

Let’s take a look. Maybe they just haven’t got their terms straight. For example, they say: “Mainstream economics insists that one path to full employment is via lower wages.” No, that’s not mainstream economics—that’s police state economics. That’s simply liquidation. They seem blithely unaware that since the power structure in America decided the suburbanization binge was over—that our suburban cow had ceased to be a profit center and had turned into a cash guzzler—America is no longer a paying proposition. So power is taking its flunkey, Uncle Sam, out of government.

That’s liquidation: power is withdrawing government from American society—and right on cue, the rest of the world is following suit, including Latvia.

Memories are short—and sometimes, even truncated. Just because World War II cut short Mellonesque liquidation, don’t for a minute buy the argument that somehow it wasn’t still policy right through the Roosevelt Administration—or that it isn’t always waiting in the wings, asserting itself all the time against countervailing forces (we shall return to those forces).

Liquidation is what is going on in Latvia. There is no attempt to achieve full employment or any other level of employment. Check out liquidation’s repertoire of techniques:

1. monetization
2. cartelization
3. currency race to the bottom gambits
4. credit contraction
5. induced supply chain collapse

and that’s just a very few of them—including, of course, shrinking the budget. The problem is that we don’t have a SINGLE academic study of liquidation as a sociopathology. When and why is each technique picked up and put down by liquidation? We just don’t know. Indeed, according to a supply chain management professor in the UK, to whom I put this question, there is no academic study of supply chain deterioration.

Power goes to power. Power is the assumption AND deduction of power. Power is the means AND the end of power. So Andrew Mellon would have had us believe, and when the going gets tough guess what? We believe it. They seem to have swallowed it in Latvia, and in the United States. I see no evidence of tax strikes, uprisings or any organization revolutionary movement, calling liquidation what it is. The protests are as vague and helpless as the implied protests of Auerback and Parenteau. We must toughen our minds.

Look what Auerback and Parenteau say is the motive of the powerful in Latvia (and their superiors elsewhere). They say the policy of power is to “internally deflate.” This is imprecise. Latvia is liquidating, but also somehow the policy is to maintain full employment. Huh? For them, Latvia is acting “under the mistaken assumption that the [currency peg] was inviolable,” and then they go on to cite the numerous problems with a currency peg.

But it’s not a problem if liquidation is your goal, and looting the population is one way you go about it. I don’t think the powerful in Latvia were under any assumption, mistaken or otherwise, about a currency peg. It is a liquidation technique, a technique for looting—it is not tenable to believe it is invoked without knowing why it exists and what it does.

They call a “hidden assumption”—unknown to the powers in Latvia which provoked collapsing labor costs and prices—the idea that “a debt deflation spiral does not do the host country in as domestic private incomes are deflated.” It is not credible that anyone in a position to invoke a collapse in income, demand and prices, does not know the point of these gambits. It is liquidation. Nor do Auerback and Parenteau show any evidence that the powerful in Latvia share their concerns and are simply naïve, or wrongheaded.

Look at the other thoughts they put in the heads of the powerful in Latvia: “Policy makers have tied both their hands and their feet behind their backs so that markets could work their self-adjusting magic.” Where is the evidence that the powerful in Latvia believe there is such a thing as a market, much less that it is self-adjusting? There is none. Indeed, all the evidence Auerback and Parenteau put forward is that the powerful in Latvia are putting forward all the liquidationist tricks put forward under any police state, Mussolini, Hitler, Stalin—you name it.

There is nothing magical, and no mystery, about a police state. What is mysterious is constantly imputing benign motives to people when the evidence shows they are carrying out police state acts.

Here’s another one: “In each of these nations, if the private sector is retrenching already, and the public sector tries to retrench on top of that, unless a massive swing in foreign trade can be accomplished, policy makers are unwittingly inviting falling private nominal incomes and private debt distress into the picture as they reverse fiscal stimulus.” Perhaps the problem with this notion is that Auerback and Parenteau regard as stimulus, bailing out bankrupt Ponzi schemes. Co-conspiring is stimulus? A new definition of the word “stimulus,” to quote the guy in Rules of the Game. But then, I guess if you believe it isn’t, then the logical conclusion is that those who promote “stimulus” are capable of doing things “unwittingly.”

In short, Auerback and Parenteau impute good faith where all the evidence shows there is only liquidation. Why? Because they’re soft on rights. Almost everyone else is, too. The day we gave the political system near absolute power over facts (we did it here in 1937 with West Coast Hotel v. Parrish), and thereby denied ourselves any rights, we let the political system define all the terms. In return for a middle class existence, we surrendered our right to find out the facts. It’s called “health and welfare.” We let the political system decide that. We are not allowed to intervene as individuals.

So we haven’t really inquired into the facts, and we’ve sort of lost the ability to inquire into the facts. Auerback and Parenteau are examples of this. It sounds like their approach tolerates “some” liquidation, “some” level of unemployment. They don’t really understand that the countervailing force to power, is rights. For example, the authors of the U.S. Constitution see only two forces. They see the police state (which wanted to hang them all), and important facts.

Important facts are unchanging facts of human experience, facts which history has demonstrated, are robust and resilient in the face of attempts to affect them. For the Founders, these facts included protected speech. For us—or at any rate, for those of us who have persisted in factual investigations—these facts also include housing, liberty, maintenance, education and medical care.

When important facts are defended, power weakens; when important facts are not defended, power strengthens. That’s the sum total of the Constitution. How can you defend important facts against assault, when you can’t provide the evidence that they are important, because you don’t know that the issue is importance?

Police states know perfectly what important facts are—and they hate them. Does that put you, reader, in the crosshairs? Gee, d’ya think?

It would clarify the thinking of Auerback and Parenteau, and clarify our response to what they write, if they could tell us with regard to two facts they consider so important in their article—income and employment—whether they think those are important facts as defined above.

I think they are indicia or aspects of maintenance, and I think maintenance turns back attacks by interrelating maintenance with income and employment—and also with housing! And also with protected speech! The maintenance of important facts—which, according to this analysis, is what the law does, and only what it does—is a complex, ongoing venture which requires vigilance—political, and intellectual and observational vigilance.

If you practice this vigilance, you really see what Latvia is doing, even according to the generous (naïve?) interpretation of Auerback and Parenteau. It is saying that income and employment are goals, not facts. It is saying that income is maintained by destroying income, and employment is maintained by destroying income. In short, complete nonsense. The evidence shows that income and employment ARE facts, are important facts, not goals, and not policy.

This is why I say that the only response to liquidation, is individually enforceable rights. And that’s why I wrote the New Bill of Rights. It says:

No individual shall be involuntarily deprived of liberty;
No individual shall be involuntarily deprived of housing;
No individual shall be involuntarily deprived of maintenance;
No individual shall be involuntarily deprived of medical care;
No individual shall be involuntarily deprived of education.

If this was the law in Latvia, could the cuts described by Auerback and Parenteau, occur? No.

Is this a laundry list of worthy goals, a grab bag of ideals? No. It is the progress we have made—exercising the individually enforceable rights we have—toward investigating the facts of human experience. We have pretty conclusively demonstrated, with regard to the facts above, that they are important facts.

You only have to understand the issue, to find that this process of evaluation is continually going on. For example, is property an important fact. It may interest you to know that the investigation is inconclusive so far. Also, we are revisiting the settled principle that an exercise of religion is an important fact. Who knew?

If you want to see a perfect example of this investigation going on with respect to a fact—from an initial point of view that it should be left to politics, to a point of view that individuals have control over it—look at the new right to education in the state of New Jersey. I suggest you go to www.edlawcenter.org, to understand the exacting—but exactly vital—process we have to go through, in order to fight liquidation.

We’ve had (depending on when you define the starting point) at least two decades of a concerted push by the US towards more open capital markets (no doubt based not simply on the belief that the Anglo/Saxon model was superior, but also on the notion that US financial firms would come out on top).

Many orthodox economists will concede that restrictions on capital flows and trade can be beneficial for developing economies, but would not endorse them for mature ones. Yet the Panglossian faith in wide open capital markets airbrushes out a few inconvenient considerations. One is that the extensive historical dataset constructed by Carmen Reinhard and Kenneth Rogoff shows a strong correlation between high levels of cross border capital flows and bank crises. Two is that high levels of international money flows poses more than a wee problem of national sovereignity. How do nationaly based financial regimes regulate firms with global operations?

The Financial Times reports on a move afoot in the EU that will restrict investors in the EU from putting funds in private equity firms outside the EU, and also restricting the ability of foreign investors to buy European companies (frankly, as someone who has worked on more than a few cross border deals, a good business generally has no trouble finding domestic buyers. If local/regional players, who presumably have an information advantage by knowing the local market, won’t stump up for a particularly business, why should an offshore investor do better? Yes, there are always exceptions, but one needs to be plenty wary).

Reader Swedish Lex noted:

In parallel with the Greece/Goldman/default swaps/hedge fund vampire night dinners, etc., the EU is slowly advancing on the proposal to regulate hedge funds and private equity firms (and their managers).

The industry has spent vast recources over the past year in trying to water down the draft legislation, which was not entirely brilliant to start with. What seems to elude the industry is that all the bad press feeds back into the legislative process. Most of the 736 Members of the European Parliament had a vague understanding of this aspect of the financial industry to start with and, probably, believe that it has significantly contributed to the financial crisis. The very bad PR for hedge funds and over-leveraged and job slashing PE firms over the past weeks are hardly helping the industry.

What I find silly is that the Industry, in its efforts to convince the Parlamentarians, and the other relevant EU Institutions, are using the same bad old arguments like if you regulate in Europe, it will scare off investment and the pensions of ordinary people are jeopardized. Well yes, the EU does not welcome trashy short-term cancerogenus cash spreading from Cayman funds run by math nerds that design real nukes one day and their financial equivalent the next.

There will be a compromise in the end, but it is too early to say what it will be. Greece etc. could continue to have an interesting influence on the debate.

From the Financial Times:

Europe risks building a protectionist wall between itself and the global private equity industry if plans for a sweeping overhaul of regulation in the sector go ahead, some of the world’s biggest institutional investors have warned.

The warning from the International Limited Partners Association, representing 220 of the biggest pension funds, endowments and sovereign wealth funds, comes at a sensitive time with European Union lawmakers and member states close to agreeing new rules

Investors based in the EU could be barred from investing in private equity funds based outside the 27-country bloc, said the ILPA, whose members have more than $1,000bn (£667bn) invested in private equity worldwide.

In addition, the proposed regulation could “severely disturb” many of the world’s biggest private equity groups by depriving them of access to EU investors, while in turn reducing foreign investment into EU companies.

“Not only will EU investors have reduced access to non-EU private equity managers, there exists a real concern that the proposal will effectively close Europe off from the capital solutions . . . that comprise the global private equity industry,” it said.

Yves here. The chutzpah is breathtaking. Foreign firms are trying to bully EU officials? This is a great way to win friends and influence people. So what if they are severely disturbed? Europe functioned before there ever was a PE industry, and from what I can tell, its hotbed of innovation, the German Mittelstand, does not have much traffic with PE investors.

The idea that what is good for the private equity industry may not be good for the average citizen appears not to have occurred to these operators. Tone-deaf behavior like this ILPA letter is only good to feed the already high suspicions of about whether financiers have any social conscience.

A post by Edward Harrison

About a month ago I wrote a post called “The coming wave of second mortgage writedowns” the gist of which was that the big four banks (Citi, JP, BofA, and Wells) had a shed load of exposure to now worthless second mortgages. With many first mortgages now hopelessly underwater, it stands to reason that second mortgages on those same properties have zero value.

The big four are certainly well aware of this problem and are looking for ways to extend the wherewithal of underwater borrowers and pretend they don’t need to take losses on these loans. On paper, these companies are very well capitalized. However, in the real world, the likely losses they must eventually take on loans already on their books would probably render them insolvent. This is what I hinted yesterday in my post on the stress tests.

I said:

I would say the stress tests were a mock exercise to instil confidence in the capital markets. This was important first and foremost because it would induce private investors to pay for bank recapitalization instead of taxpayers. But it was also important for the economy as a whole as the sick banking sector was dragging the whole economy down. The key, however, is that the tests were a mock exercise. Despite the additional capital, banks are still hiding hundreds of billions of dollars in losses in level three, hold to maturity, and off balance sheet asset pools. If asset prices fall and/or the economy weakens, all of this subterfuge would be for nought.

-Geithner: jusqu’ici tout va bien

And when I use the phrase ‘mock exercise,’ by mock, I mean fake. Mike Konczal has done a remarkable job of putting these two concepts – the worthless second mortgages and the stress tests – together.

He writes in a recent post:

Let’s talk specifics: Last June I made a DIY Stress Test, using values reversed-engineered from the public documents, where you could play around with the values online or download an excel spreadsheet yourself (it’s still one of my favorite blogging items). The backbone of the overview of results, page 9 from the Federal Reserve’s document, looks like this:

I’m going to isolate the four largest banks Frank questioned about second-liens, along with their loses as they’ve legally sworn to being accurate during the stress test:

Again, this is data as reported to the government by the major banks during the stress test of 2009. So what’s going on here? The four major banks have about $477 billion in junior liens, either in the form of a second mortgage or a home equity line of credit. If you go to the Fed Funds data online, you’d see that there’s about a trillion dollars of 2nd/Juniors out there, so the four major players have about half the market.

The four major players each report that they expect to have a 13-14% loss on these items under an “adverse scenario”, with Citi reporting a 20% loss under an adverse scenario. That means of the $477bn, $68.4 bn is junk that’ll never be collected on. This, combined with all the other expected losses (see the link to the stress test for the rest) meant that the four biggest players needed around $53bn to be raised.

Notice how Frank’s letter, and pretty much anyone you’d speak to who isn’t working for the four largest banks, assume that second liens in the country aren’t worth 86% of their value (for a 14% loss). You see in Frank’s letter “no economic value.” Huh. Well, that’s a problem.

Let’s look at these values again, assuming that the expected total loss would be 40%, and then 60%.

So the original loss from second-liens, as reported by the stress tests, was $68.4 billion for the four largest banks. If you look at those numbers again, and assume a loss of 40% to 60%, numbers that are not absurd by any means, you suddenly are talking a loss of between $190 billion and $285 billion. Which means if the stress tests were done with terrible 2nd lien performance in mind, there would have been an extra $150 billion dollar hole in the balance sheet of the four largest banks. Major action would have been taken against the four largest banks if this was the case.

See what I mean by fake?  The point is this whole charade is transparent to anyone who actually runs the numbers. Yet, you have people like John Cassidy spreading disinformation in the New Yorker, writing puff pieces of zero negative value with drivel like this:

Other critics dismissed the tests as a sham, arguing that the economic assumptions underpinning them were too benign. As the tests unfolded, however, it became evident that the government’s loss projections were quite high, and that many banks would be forced to raise considerable sums of money—in some cases, more than ten billion dollars.

Baloney. Run the numbers like Mike did, John; and then you wouldn’t make such asinine comments. Of course the stress tests were a sham.  They were a confidence trick to raise more capital and buy time for the banks to earn yet more still. The point was to allow the banks to ease into their losses. And that’s exactly what’s been happening for the past year.

The problem with the stress tests, however, is they gave the banks a way to get from under the yoke of the government’s TARP program. The banks said, “look, we are now well-capitalized even in the worst case scenario of the stress test. We want out of TARP.”

This is bad for three reasons.

• The big banks all paid back $25 billion in TARP funds. Smaller banks like Northern Trust paid back $10 billion or less. That’s hundreds of billions of capital that they all could have as a buffer against losses. Some of them raised additional capital to replenish the coffers. Nevertheless, net-net, we had less banking capital in the system after the repayments than before.
• Banks free of TARP paid out a lot of cash in bonuses that could have gone to shoring up their capital base.  Every dollar paid in cash compensation to staff is a dollar less of capital.  Had these banks been under TARP, they would have been forced to pay lower bonuses – if only for this year.
• The lower capital – and the fact that banks know that having renewed capital problems would mean the end of the line for them – means that banks are less likely to lend freely.  They understand that now is the time to husband capital. Heads would roll if a big bank or super regional which had repaid TARP had another capital shortfall.

The real question is: why is the Obama Administration running victory laps, unrolling the ‘Mission Accomplished’ banner on the credit crisis, as Mike Konczal describes it? I suspect this is just a political stunt to provide cover in the mid-term elections to somehow demonstrate that the Democrats fixed the problem which the Republicans created. 

I think it could backfire if only because the underemployment rate is still 17%. Nobody wants to hear the “I saved the economy routine” when they’re unemployed and losing their home.

Well, here we are again: on one side, a rapidly growing contingent of optimists; on the other, a shrinking cadre of pessimists. According to USA Today's Adam Shell, writing in "As Bull Market Turns 1, Is it Time to Party, or Worry?" below are just a few of the reasons why now is the time to buy stocks.

•Major roadblocks still absent. Two of the biggest rally killers — interest rate hikes by the Federal Reserve and a big spike in inflation — "simply are not present yet," says James Paulsen, chief investment strategist at Wells Capital Management.

Many investors are worried that the Fed's so-called exit strategy, in which the U.S. central bank drains cheap money from the financial system and boosts borrowing costs in an effort to stave off inflation, will put what Bernanke dubs the nascent economic recovery in jeopardy. But Paulsen argues that even if the Fed starts to raise short-term interest rates, currently near 0%, it won't spell the end of the stock rally. The rally is not at risk, he argues, until sometime after the Fed begins to raise rates.

•Investor fear still present. Typically, stock rallies run into trouble when investors get too optimistic, too complacent and too convinced that profiting in the stock market is a sure thing. But despite the big gains in the first year of the bull, sentiment is anything but ebullient.

And from a contrarian standpoint, that is bullish.

Not only are stocks climbing the "Wall of Worry," they are also dealing with more daunting "Cliffs of Concern," says Citi's Levkovich.

"There is all this stuff to worry about," Levkovich says. "Debt problems in Greece. China tightening its monetary policy (or its property bubble bursting). Commercial real estate woes. What about the banking sector? What about jobs? What about underfunded pension plans? It goes on and on.

"I am not saying these problems are not out there, or that they are irrelevant," Levkovich says. "We do have reason to worry."

But investors must recognize, Levkovich adds, that all these risks get priced into the market. More important, investors must realize that if any better- than-expected news surfaces, the markets have room to go higher.

•Earnings power is underappreciated. Optimists such as Federated's Auth are betting that the economic recovery will be stronger and last longer than the current consensus opinion on Wall Street. Most economists are calling for a subpar recovery due to banks cutting back on credit and the ongoing process of individuals paying down debt after years of spending beyond their means.

If Auth is right, and manufacturing is in the early stages of recovery, and job growth is about to turn positive and U.S. companies with major foreign operations continue to reap big profits in faster- growing emerging markets, corporate profitability should be better than analysts are now predicting.

Profits will also benefit from the fact that most companies prepared for a depression that never happened by cutting costs and headcounts. So when sales pick up, the profits will pile up more quickly on the bottom line.

"We have earnings rebounding substantially in the next couple of years," Auth says.

How big a rebound? Analysts' consensus estimate for 2010 earnings for S&P 500 companies is roughly $76 per share,and Auth is estimating closer to $85 to $90, which puts the current market price-to-earnings ratio at around 12.7, which is below the long-term average of 15.

•Cash on sidelines still piling up. "We still have a ton of sidelined cash, or dry powder, sitting on the sidelines," says Paulsen. By his estimates households have upwards of $7 trillion sitting in cash or cash equivalents. Because most of Americans have bought into the "new normal" thesis of less spending, less risk-taking and lower returns, Paulsen says there could be a lot of "potential converts" who might have to switch to a more aggressive strategy and buy stocks if the recovery is better than economists think.

Ever since the financial crisis began, money flows into domestic stock funds have been woefully small, as investors have flocked to the perceived safety of bond funds.

That trend continued in the week ended Feb. 24, the most recent data available, as domestic stock funds had inflows of just $151 million, vs. nearly $8 billion going into bond funds, according to the Investment Company Institute.

Some would disagree with the bullish case, of course, including yours truly:

But bears such as Michael Panzner, who writes the blog Financial Armageddon, say bulls are "blind to the worsening economic reality all around them," and in danger of getting hurt again by falling asset prices.

Headwinds are plentiful, Panzner says.

There has been little improvement in bank lending or credit availability, he says. The "long-term unemployment situation is getting worse" and economic data, which had been pointing up, have flattened out recently, suggesting a growing risk of a double dip, or economic relapse, he says.

The banking system also remains weak, as is the financial position of sovereign states such as Greece as well as states such as California.

He predicts a not-too-pretty fallout.

"In my view, the effect will be, at the least, a retest of what we saw last March," Panzner says. "At worst, much lower lows. It may not happen in 2010. However, it could be over the next couple of years."

Who do you believe?

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