NightBlogger

Ilargi
The Automatic Earth
US home prices have a record drop, and foreclosure filings have a record surge, to 10.000 every day. James Lockhart says the Freddie and Fannie debt is explicitly guaranteed by the US government, while the September 7 legal document that outlines the takeover of Fannie and Freddie explicitly denies any such guarantee. Meanwhile, the FDIC claims that the US government will start guaranteeing bad mortgages. That may seem nice and all, but is it really such a great idea for the US taxpayer to start buying up grossly overvalued real estate, that will keep on losing value regardless?

Bond markets are busy preparing for a collapse by Argentina, Pakistan, Hungary or another country on a by now long list of crash candidates. Belarus was added to the list today, and filed for IMF funds. Depending on which country falls first, and on the size of its economy, a sovereign debt default event could lead to unpredictable panic.

Hedge funds as an industry may be a relic of the past, but they will not go quietly. On the one hand to need to get rid of leverage, and therefore sell their assets, including lots of gold. That’s why the demand for gold soars, while its price plummets. On the other hand, the funds are circling above countries in distress. Betting against the Hungarian forint looks like a money maker. And Pakistan may have more people than Russia, it still is a small enough economy to make shorting it attractive.

Alan Greenspan needs to be arrested, for fraud and treason. The fact that this man, who has deliberately gutted the US economy over the past 20 years, is hardly under any sort of serious scrutiny, and is not only allowed to remain out of prison, but gets the chance to go public with ever more lies about his actions, points to troublesome inadequacies in the political system that some still refer to as a democracy. The same goes for Hank Paulson, who can’t just walk free, but was even appointed dictator over Washington.

And that is why Nouriel Roubini predicts war. More

Financial Times
In the case of the Fortunate Nine, the injection of capital is through (non-voting) preference shares yielding a ridiculously low interest rate (5 percent as opposed to the 10 percent obtained by Warren Buffett for his capital injection into Goldman Sachs). Without voting shares, the government has no voice in the running of these banks. It also has no seats on their boards. By contrast, in the Netherlands, the injection of €10bn worth of subordinated debt into ING bank comes with a price tag that includes two government directors on the board and a government veto over all strategic decisions by the bank.

In addition, in the case of the Fortunate Nine, there are no attractively valued warrants (options to convert, at some future time, the preference shares into ordinary shares at a set price or at a price determined by some known formula). Quite the opposite, the preference shares purchased by the US state, can be repurchased after three years, at the banks’ discretion, on terms that are highly attractive to the banks. The US tax payer is not only getting a lousy deal compared to private US investors like Buffett, (s)he is also doing much worse than the British tax payer in the UK version of Paulson’s capital injection (£37 bn so far out of provisional budget of £50bn). The UK preference shares have a 12 percent yield and come with government-appointed board members.

Even in the cases of AIG, Fannie and Freddie, unsecured senior creditors did not have to take an up-front haircut. Worse than that, even holders of junior debt and subordinated debt could come out of this exercise whole. There were no up-front haircuts, charges or mandatory debt-to-equity conversions.

That, I would argue, is scandalous, both from a fairness perspective and from the point of view of the moral hazard this creates, by boosting the incentives for future reckless lending to elephantesquely large financial enterprises. Unless not only the existing shareholders of the banks benefiting from these capital injections but also the holders of the banks’ unsecured debt (junior and senior) and all other creditors of the bank (with the possible exception of retail depositors up to some appropriate limit) are made to pay a painful penalty for investing in excessively risky if not outright dodgy ventures, we are laying the foundations of the next systemic crisis, even as we are struggling to escape from the current one. More

The Market Ticker

First, this is a de-facto nationalization of the entire banking, insurance, and related financial system. Specifically:

“(3) designating financial institutions as financial agents of the Government, and they shall perform all such reasonable duties related to this Act as financial agents of the Government as may be required of them;”

That’s right - every bank and other financial institution in the United States has just become a de-facto organ of the United States Government, if Hank Paulson thinks they should be, and he may order them to do virtually anything that he claims is in furtherance of this act.

This might include things like demanding that a bank or other financial institution sell him its paper, even if it forces that firm to collapse and be assumed by the FDIC!

You didn’t buy any bank stocks last week did you?

“(a) Authority to Purchase.—The Secretary is authorized to purchase, and to make and fund commitments to purchase, on such terms and conditions as determined by the Secretary, mortgage-related assets from any financial institution having its headquarters in the United States.”

This, at first blush, would seem to indicate that only American firms would be covered. Nothing is further from the truth. If the Chinese wish to unload some of their purchased toxic sludge they merely sell it to, oh, Goldman Sachs for 40 cents on the dollar and then Goldman sells it to the Treasury for 50. This, under the black letter of the law here, is perfectly legal, which means that one must assume that Paulson will in fact foist off all the bad paper on world markets that was originally based on a mortgage in the United States, while allowing his banker buddies here to loot the taxpayer by acting as an intermediary in the transaction!

“(2) entering into contracts, including contracts for services authorized by section 3109 of title 5, United States Code, without regard to any other provision of law regarding public contracts;”

Contracts can (and presumably will) be “no bid, no solicitation” and given to whomever Secretary Paulson favors, without regard to the public interest or normal competitive bidding processes. Must be nice to be a “Friend of Hank.”

“In exercising the authorities granted in this Act, the Secretary shall take into consideration means for—

(1) providing stability or preventing disruption to the financial markets or banking system; and

(2) protecting the taxpayer.”

Notice which comes first.

“(c) Sale of Mortgage-Related Assets.—The Secretary may, at any time, upon terms and conditions and at prices determined by the Secretary, sell, or enter into securities loans, repurchase transactions or other financial transactions in regard to, any mortgage-related asset purchased under this Act.”

Having bought these securities for any price Mr. Paulson would like (and he can compel institutions to sell at his demanded price as noted above!) he can then sell those assets at any price he wishes, to anyone he wishes. It certainly is nice to be a “Friend of Hank”, and it most certainly sucks if you’re not.

“The Secretarys authority to purchase mortgage-related assets under this Act shall be limited to $700,000,000,000 outstanding at any one time”

This is clever and nobody in the mainstream media has figured it out.

If you think the cost of this bill is $700 billion, you’re wrong. The cost is actually infinite and the entire bill constitutes a giant money-laundering scheme.

Paulson can (and presumably will) buy up to $700 billion of these “assets”, then sell them. Let’s say he decides to buy them at 60 cents on the dollar and sell them for 10. You, the taxpayer, will eat the fifty cents, for an immediate cost of $350 billion dollars.

Having done so, he is then authorized to do so again, since the $700 billion is no longer on the government’s balance sheet.

In fact, he can do this without limit, other than possibly due to the federal debt ceiling, which of course Congress will raise any time we get close to it. Oh yeah, this bill does that right up front too. No need to bother with it the first time around.

Folks, $700 billion isn’t even close to the total cost of this monster.

If Paulson and his successor decide to, they could literally cycle all $5.3 trillion of Fannie and Freddie’s debt through this scheme, potentially sticking the taxpayer for 20% or more of the total, plus as much private debt on various bank balance sheets as they can manage to nationalize until (and possibly beyond) the point where the bond market tells him to go to hell.

Bottom line: This bill gives Paulson the ability to nationalize an UNLIMITED amount of private debt and force YOU AND YOUR CHILDREN to pay for it. More

Peter Schiff
By nationalizing nearly 80% of AIG for $85 billion, the Fed is doing a lot more than simply flushing taxpayer money down the toilet. The greater wrong is allowing the agency that has the power to print money to take control of a private enterprise, especially without the approval of the company’s shareholders. The move represents the largest lurch toward socialism that this country has ever seen, and signals the end of the vibrancy of America’s once vaunted free market economy. Since there is no limit to the amount of money the Fed can create, there is no limit to the number of assets they can acquire.

The “line in the sand” that the Government seemed to draw by refusing to bail out Lehman Brothers was erased in just two days by the very next wave of financial panic.

While Fannie and Freddie were arguably quasi-government agencies that deserved special protection, no such status exists with AIG. Where does the Fed get the authority to use the money it prints to take over private companies? Congress never gave such authority and, even if it had, it would be unconstitutional, as Congress itself has no such authority to delegate. What about the shareholders? Why didn’t they get to vote on this acquisition? Whatever happened to private property rights?

Where does this stop? What other troubled companies will the Fed nationalize, and how much will it cost? Why stop at troubled companies? If the Fed can buy into a sick company, why not a healthy one? Now that we have allowed the Fed to take over any asset it wants, private property rights are meaningless. When oil prices get really high, why bother with a windfall profits tax when the Fed can simply nationalize Exxon-Mobil with a few cranks on its printing press. Who needs Bolsheviks when you have the Fed?

AIG is not a bank; it is not even an investment bank. The “lender of last resort” power was supposed to apply only to banks, to prevent runs. It was not meant to apply to any company that had been declared “too big to fail”.

I suppose the Fed is trying to get around some of the more obvious illegalities by having the new AIG shares issued on behalf of the Treasury. What happened to the concept of an independent Fed? Here you have the Fed seizing a private company and ceding control to the U.S. Treasury. Rather then acting independently, the Fed and the Government are merely partners in crime.

On the economic side, the Fed expects us to believe this is a smart investment. Does anyone really think that officials at the Fed and Treasury are suddenly private equity experts? These are the guys who missed both the tech and housing bubbles, and who assured us that subprime problems were contained. I would not trust them to run a lemonade stand, let alone one of the largest insurance companies in the world.

The idea that this bailout was necessary given that the alternative would be worse should by now be fully discredited. All of today’s financial problems are the direct consequence of Fed policy that was designed to weaken the recession that followed the bursting of the tech bubble and the shock of September 11th. Of course, the tech bubble itself resulted from the Fed’s actions to sooth the pain following the collapse of LTCM, the Russian debt default, the Asian crisis, and Y2K.

I suppose the precedent for all of these actions was established back in 1979 when the government guaranteed Chrysler’s debt. It sure would have been a lot better and a whole lot cheaper if we had simply let Chrysler fail. The road to financial hell, or in this case socialism, is certainly paved with “good” intentions. Today’s historic surge in the price of gold shows that at least a few investors are refusing to march in the parade.

For a more in depth analysis of our financial problems and the inherent dangers they pose for the U.S. economy and U.S. dollar denominated investments, read my new book “Crash Proof: How to Profit from the Coming Economic Collapse.”

Patrick Barron
Forget all the pronouncements from Treasury Secretary Henry Paulson and Federal Reserve Board Chairman Ben Bernanke. Their attempts to explain how monetary expansion in the form of a government bailout of Fannie and Freddie will cure the subprime lending crisis is as scientific as a witchdoctor’s explanation of how his chants and powders will chase away demons. The government is following the same monetary policies it pursued to such horrific ends during the Great Depression of the 1930s. At that time of falling prices in general, not just housing prices as now, the government passed the Wagner Act, granting special privileges to labor unions which forced major unionized industries to negotiate with them. This had the effect of raising the cost of labor in the face of a general fall in the price level. Like any other overpriced good, the demand for labor shrank dramatically. But rather than rescind the Wagner Act, which was one of the major causes of massive unemployment, British economist John Maynard Keynes convinced governments around the world to inflate their currencies. This had the effect over a very long period of time of causing all other prices to rise, as the market attempted to restore the relationship of the cost of labor to all other prices within the market. Overpriced labor’s purchasing power was gradually sapped away. Wages weren’t reduced, but all other prices rose, which had the same effect.

That will be the result of the present administration’s monetary stimulus efforts. It will not allow housing prices to fall, so that the market can re-establish the proper relationship between the cost of housing and all other goods in the market. That would cause pain in the politically connected businesses that benefited for so many years from the boom in real estate. Instead it will create the conditions for rising prices generally over the next several years. Already this process has started, with energy and food prices leading the way. Austrian school economists know that the price level is not a pond that rises and falls in a uniform manner. Excess money enters the market at certain points, causing prices to rise in certain industries and certain parts of the country. Plus, all other factors affecting an economy are still at work. But over time all prices will be higher than they would have been in an uninhibited market. Then we will have become inured to high priced housing because the prices of everything else will be much higher too. More

Don A. Rich
The announcement by the FDIC that it might have to “temporarily” borrow money from the Treasury, i.e., the taxpayers, is the latest squawking canary that the dollar-centric global-fiat-money and regulatory era in place since WWII is approaching a final ugly dénouement. The FDIC now fails to meet its required statutory minimum of 1.15% of capital per insured dollar in deposits due to the ongoing mortgage and credit market carnage; hence the hint for the life preserver thrown out by the FDIC to the Treasury Department the last week of August 2008.

The FDIC, like Fannie and Freddie, says, “Of course we will pay this loan back when everything returns to normal.” The accounting “profession” and “civil servants” at the CBO et al. are likely to give their seal of approval to an FDIC bailout with the assurance that “all is well” in the short run. In fact, the bailouts of Fannie, Freddie, and the FDIC in the long run by themselves are likely to be as effective as the Niedermeyer character from the movie Animal House was in attempting to stop the John Belushi–triggered stampeding crowd at the end, pitifully screaming, “Remain calm, all is well.” More

Bob Chapman
The International Forecaster
The Treasury will purchase a billion worth of senior preferred stock in each of Fannie and Freddie, with authorization to acquire up to $100 billion a piece of such senior preferred stock, to ensure that a positive net worth is maintained. Is this some sort of a joke, because it is certainly laughable? You might wish to note that one out of every four new foreclosures is a prime ARM loan. Fannie and Freddie now own, or have guaranteed, over five trillion dollars worth of mortgage loans, and a good chunk of that is not only toxic waste, but prime loans waiting to go bad as people lose their jobs, as borrowers get upside down in their homes, as ARM’s reset and as the largest and deadliest of all mortgage loans, known as Option ARM loans, go into thermonuclear meltdown. And then there are all the many hundreds of billions in toxic waste that will be added over the next couple of years, either by direct ownership or by guarantees. HELLO!!! We could be looking at losses from Fannie and Freddie of one trillion - EACH!!! Put that in your pipe and smoke it! Do you suppose the bonds we have to create out of nothing for the Fed to monetize in order to pay for the upcoming Fannie-Freddie-Fiasco is going to stoke inflation? Ya think!

The big losers in the Fannie/Freddie bailout, besides the taxpayers, are the various common and preferred shareholders, who have all just been vaporized. There will not be any profits for anyone, including the senior preferred shareholders who are now the US taxpayers. Only stupendous losses are on the way for all but the GSE bondholders as Wall Street continues to buy time so they can continue their rampant system of real estate derivative fraud and keep rates from going up for a little while longer. Next come the bank failures and the resulting under-funded pensions which were foolish enough to get involved with these investments. Those losses will go to the under-funded FDIC and PBGC, who the taxpayers will also get to bail out. As you may recall, the bail pumps on the Titanic did not quite cut it. And so it will be with the Fannie and Freddie bailouts. We have to wonder if the fired CEO’s will be given, severance pay and bonuses for their outstanding management of Scylla and Charybdis?

As usual, we saw the PPT’s manipulative hand, spinning the government’s decision to nationalize Fannie and Freddie by boosting markets to make it look like everyone thought it was a great idea, when no one in their right mind, especially the pros, could possibly think that this is some sort of a magic bullet. Many did not notice it, but the yen had weakened substantially on Monday against the euro, with the yen going from about 151 yen per euro this past Friday to almost 157 in the early hours on Monday, and then strengthening again back down to about 151 gradually near midday before weakening again to almost 154 in the later afternoon. The yen also weakened against the dollar, moving from about 107 to 108 yen per dollar. This was done to support the PPT intervention in the markets to put a good face on the gargantuan bailouts. We have seen them do this over and over again, especially when the Fed makes a decision concerning its funds rates at an FOMC meeting. The Dow gained about 290 points on Monday, only to lose virtually all of it the next day, showing you that the rally on Monday was bogus. Everyone knows we are headed for big trouble and the de-leveraging is relentless. The fane-stream media used Lehman for the excuse on Tuesday’s big drop, but little more changed for Lehman other than the fact that someone let slip that the South Koreans were no longer interested in bailing them out, a wise move on their part if that is what they decided. We all know Lehman is toast, and no one but our corrupt government, through its ever-more-screwed taxpayers, are going to end up bailing them out. Lehman’s situation was hardly a big market-mover, although there is some fear that they could take the whole system down due to the many entanglements they have with many of the big players. But let’s face it, our corrupt government will give them a free meal ticket in the end, because they are an Illuminist company, so what’s all the fuss about. Yellow fever also accounted for some of Tuesday’s big drop in the stock markets, as the yen was strengthened once again to keep pressure on gold and silver.

Based on the estimated losses projected thus far for troubled bank failures, that being 78 billion in losses for 117 troubled banks, and based on the fact that there will be some 700 or so total failures, not just the 117 banks our lying government officials have discussed, we project total losses for bank failures at one half of one trillion dollars, which is on par with the subprime derivative losses that have been recognized thus far. So much for an economic recovery in the financial sector. Hail, hyper-inflation and treasury monetization.

Well, gold and silver are under pressure from falling oil prices, and by the perception of support that the Fannie/Freddie bailout will give to the dollar by preventing a GSE bond sell-off and by improving certain aspects of the real estate markets. And never mind the trillions in sheople bailout money, the monetizations of Treasuries to keep the trillions in deficits and bailouts funded, the hyper-stagflation, the double-digit interest rates that will soon follow, the real estate markets which will continue to tank despite Paulson’s bazooka, the negative rates of return on treasuries, the rapidly declining corporate earnings on account of a tapped-out US consumer, the frozen worldwide financial and credit system, rampant worldwide inflation, nations disgusted with dollar pegs, the high likelihood of wars and conflicts, shortages of physical gold and silver, heavy jewelry and investment demand for gold and silver and the likelihood of a lower Fed funds rate that will be implemented to push up bond values and increase bank spreads in a vain attempt to prevent the insolvency of the fraudsters. Heck, other than such unimportant issues, why buy gold and silver?

Also powering the dollar rally is the manipulation of the USDX futures market. Open interest on Tuesday exploded to a new all-time high of 67,239 contracts, shattering the previous record by over 8,000 contracts. As this transpired, oil hit a low of 101.74 while the USDX moved to a high of just under 80. The manipulation is almost complete now, as we predicted that a push below 100 on oil and a rise above 80 on the USDX would signal a reversal in gold and silver in a matter of days, or perhaps in a week or two. With this kind of open interest on the USDX, you can expect to see some dollar support in the coming days. The dollar shorts are being papered to death just like the gold and silver longs. We believe that the dollar is being pushed up, and that the precious metals are being pushed down, to raise and to lower the bar, respectively, in preparation for a big Fed cut. The fraudsters are on the ropes, despite profligate Fed money and credit, and we see the Fed moving M3 up to well over 20% soon. If they don’t, the system will collapse. The losses are mounting faster than the fraudsters can recover them, and they still aren’t lending to one another, so the fractional reserve leverage is not working. This is a big reason for the Fannie/Freddie bailout also, to stop the bleeding in the real estate markets, and therefore on fraudster balance sheets, not to mention the credit default swaps on Fannie and Freddie that might have imploded as a result. We wonder what may have happened to the counterparties on swaps written on the Fannie/Freddie stock that just got vaporized. And all that mark-to-model stuff is about to implode. Wait until you see what will eventually happen to JP Morgan Chase and their almost $100 trillion in mostly marked-to-model derivative notional value. It will rock your world! Meanwhile, the blue light specials are still on for gold, silver and their related shares - SO LOAD UP!!

In order to understand what is transpiring in today’s financial world you have to understand financial history. What you are seeing and experiencing has happened many times in the last thousand years. The upheaval we are in today could well be as bad if not worse than those of the collapse of the Lombard System in 1348 and the fall of the Hanseatic League in the 1600s.

Few want to know what is going on because human nature is opposed to change. Unfortunately those who do not listen will pay in a way they never imagined possible. The failure of a fiat money system is accompanied by extreme social upheaval and eventual economic collapse. What is unique is that this event we are facing is going to be worse than anything experienced in the past.

What is interesting is that economic and financial writers and academics threat these problems in isolation, just studying the corpus. They fail to connect the people and events and why such events occur. They cannot believe people act in concert to bring about such events in order to continue in power and wealth. They so often do not understand the real reason for events. More

Ilargi
TheAutomaticEarth.blogspot.com
Looking at the fall-out from the Fannie and Freddie bottomless pit bail-out, I can’t help combining in my head the financial news with reports on the Hadron particle accelerator. Protesters claim it could create black holes. And I’m thinking: guys, if black holes are your thing, you should be watching Wall Street. After yesterday’s market losses, it’s obvious that hardly anybody was fooled for more than 24 hours into thinking that the unlimited bail-out would calm investors, or stabilze mortgage rates, or anything of that sort. And I’ll repeat once again that it can’t. Calling a bottom in this market is a very simple thing to do, it’s just that no-one wants to do it, for good reasons perhaps (fear). The mayhem hasn’t even started for real yet: the problems will be solved when both of the following issues have been fully addressed. First, home prices will have to go down to trendline levels; to do so, they will need to lose around 65% of their 2005-6 peak levels. They are down about 20% today, according to Robert Shiller. Because swings of this magnitude are always intensified by sheer momentum, the losses, as I have said 1000 times, will be close to 80%.

Second, the securities, derivatives and other casino toilet paper that reside in the vaults of banks, pension funds, money funds and elsewhere, will have to be exposed to daylight and valued at the market price of the day, not that of 10 years ago or 10 years in the future. This is called mark-to-market, and it gets harder to avoid it, try as they all might. Until these two conditions have been met, the only result of actions such as the Treasury “rescue” of Fannie and Freddie will be one, and one only: the transfer of public funds, revenue drawn from taxpayers past, present, and future, into private coffers. And no, I do not believe that is an unintended consequence.

The news of the day: everyone’s eyes are fixed on Lehman, which lost 44.95% yesterday. Today, Lehman faces failed take-over talks with suitors like the Korean Development Bank. Ostensibly over the price it asks for itself, but I bet you that in reality it’s over the “assets”, the toilet paper, that Lehman holds. The bank is now trying to sell its asset-management division, Neuberger, but that only reveals the next problem: investors value Lehman at the same price as Neuberger. So if they sell it, Lehman has ZERO value. Expect another rescue from Paulson and the Fed very soon, if Lehman keeps plunging. Interestingly, as Lehman is up a few points this morning, its holding company scrapes the bottom of the barrel. It’s like the Russian dolls.

More fall-out. The Fannie and Freddie purchase by the American public included a sucker punch hit for holders of preferred shares. Many of those holders were smaller US banks. The halt in dividend pay-out on the shares is bad enough for many of them. But that’s not all: to (re-) finance their debt, they would like to (as usual) issue shares, including preferred shares. But who now is still nuts enough to buy that stuff? It could be wiped out tomorrow morning, if the Treasury pulls the same stunt again. Talk about a double whammy! And that’s not all (nothing is these days, it seems). Banks have to write down an estimated $30 billion on the preferred shares boondoggle. Which, in fractional banking terms, means that another $300+ billion in credit leaves the country. As a result of a bail-out promoted as intended to make credit (mortgage loans) more accessible.

So look beyond Lehman. Watch what happens to Fifth Third, Key Corp, Wachovia. They are all bleeding now. What really scares me today, though, is Washington Mutual. Down 20% yesterday, and the same today. WaMu is the United States’ largest savings and loan association, with 2600 offices, the third largest mortgage lender (!!), and 9th largest credit card company. If WaMu fails, we will see the Treasury need to bail out the FDIC soon, just because of its size. And then there’s no telling how other commercial banks will fare. Or your allegedly “guaranteed” deposits. WaMu is the proverbial big fish. Make that BIG FISH. A fuzzier subject when it comes to the infamous biggest bail-out in history (until the next one) is the effect it has on credit default swaps and, with it, the entire derivatives market. Most of it is too opaque to call, but we know there are hedge funds deep in Fannie and Freddie swaps, for whom things changed a lot overnight.

CDS are nothing but bookie bets with a glamorous and legal veneer. Their estimated total is $62 trillion, and it’s very hard to estimate what part of that would have to be paid out. But don’t be surprised if it turns out to be 10%, or even more likely 20%. We haven’t even started yet on the way down, this is just the engines warming up. Lots of noise, but no movement. Home prices down 80%, and toilet paper out in the open. Those are your clues. Any claim until then is fake. More

Source: Dateline
Interview Producer/Researcher
JANE WORTHINGTON
See Video
George Negus speaks with Dr Doom - author and president of Euro Pacific Capital Inc - Peter Schiff and Professor Steve Keen about America’s failing housing market. This week Dateline asks the pair what caused this week’s turn of events and what are the implications for the Australian economy. On Monday, Treasury Secretary Henry Paulson announced the US regulator was seizing control of the government-chartered, shareholder-owned firms underpinning trillions of dollars of home loans and a global financial imprint. The move constitutes a massive government intervention to contain the damage from the worst housing slump in decades, which has rippled through the banking system and led to multibillion-dollar losses for Fannie and Freddie.

New chief executives have been installed as part of the action that Mr Paulson said was needed in view of “the inherent conflict and flawed business model” embedded in the structures of the two companies. Departing CEOs Dan Mudd of Fannie Mae and Dick Syron of Freddie Mac “have agreed to stay on for a period to help with the transition,” Mr Paulson says. The announcement came ahead of the opening of financial markets in Asia and amid ongoing turmoil in markets in response to the housing and finance crisis.

TRANSCRIPT
Fannie Mae and Freddie Mac, they’ve got to be the two most cartoon names in corporate history, but the US Treasury clearly believes their fall to earth last week could send a wrecking ball through the entire global financial system. Now, the unprecedented move to bail out Fred and Fan has been labelled “the most dramatic market intervention in decades”. In one swift, gigantic gamble, the government - well, the American taxpayer, really - has taken on an unimaginable $5.4 trillion in potential home loan liabilities - equivalent to the entire US federal debt. Will it work? And what are the repercussions for not just the US economy but indeed world money markets in general, including backyards here in Australia?

Earlier, George Negus spoke from Connecticut with Peter Schiff, a leading share broker - regarded in the US as a doomsayer - and Steven Keen, Associate Professor of Economics and Finance at the University of Western Sydney, a long-time critic of what he sees as this country’s addiction to debt.

GEORGE NEGUS: Thanks for joining us to talk about Fannie Mae and Freddie Mac. Peter, can I start with you? Is this capitalism in crisis, because you’ve been howling for quite some time that this could be the beginning of the end of the Western capitalist system as we know it, including the American economy and all that goes with it.

PETER SCHIFF, ANALYST AND BROKER, EURO PACIFIC CAPITAL: It’s really socialism in crisis, because that’s what we have. Remember, the reason we had the problem with Freddie and Fannie was because of the implicit government guarantee. If the government wasn’t guaranteeing their debt, they never would have been allowed to borrow so much money, so basically what happened was you had American citizens were basically able to buy houses, not on their own credit, but on the credit of the US Government. And we had this huge bubble that was inflated that never would have been inflated had we been on a free market economy.

The two biggest creators of the mortgage bubble were the Federal Reserve, which kept interest rates too low, which is a creature of government, not the free market, and Freddie and Fannie, which again were created by government. Absent government in a free market economy, none of these misallocations of resources ever would have taken place.

GEORGE NEGUS: So at this point you’re not surprised at what’s happened in the last few days, this so-called bail-out, these so-called conservatorship which is in place, which sounds like a fancy word for bankruptcy to me - you’re not surprised by what happened?

PETER SCHIFF: I had been forecasting the bankruptcy for Freddie and Fannie for years. I wrote about it in my book ‘Crash-proof’, which came out in early 2007. I always said the stocks we going to zero, that they would go bankrupt. Now Paulson is try to pretend that this conservatorship is not going to cost US taxpayers any money because there’s a guarantee. There’s no guarantee at all. All that happens is that if Fannie and Freddie ever have any profits in the future the US Government is the head of common shareholders to receive those profits. But there aren’t going to be any profits. There’s going to be hundreds of billions of dollars, maybe even over $1 trillion of losses. And they’re going to be borne, not just by the US taxpayer, but by anyone anywhere in the world who’s unfortunate enough to own US dollars.

GEORGE NEGUS: I have to admit I’m finding it difficult to get my mind around something called Freddie and Fannie being so important to the world’s economy. You mention the fact there’s this international flow-on. Steve Keen what about this country? Do you think Australians are going to suffer? They’re saying in America everybody will be hurt by this. Does that include Australia?

PROFESSOR STEVEN KEEN, ECONOMIST, UNIVERSITY OF WESTERN SYDNEY: It does include Australia and it’s not just Australia that’s suffering courtesy of America. We have our own bubble over here. And we don’t have anything like Fannie and Freddie to explain why we have got a bubble, so it’s something which I think goes beyond market socialism. It’s actually built into the nature of a financial system that encourages speculation.

The scale of this bubble is twice as big as any previous bubble back when we did have an unregulated financial system, so if you look at the level of debt America got itself into in the Great Depression that was bad enough to cause the biggest economic catastrophe in history. We now have twice as much debt as we had back then. And I think what has happened with the Fannies and Freddies and the US Federal Reserve, it encouraged the financial system to go to twice the level of speculation it would have done without them being there, and that’s what I really see is the contribution they have made.

PETER SCHIFF: Also, when you’re talking about all the problems around the world, remember, the global problems are the result of America borrowing so much money and not being able to pay it back. The credit crunch is that we’ve being borrowing money - hundred of billions, trillions of dollars from the rest of the world - and now the world is finally beginning to realise that we’re not good for the money. We can’t pay it back because we have been borrowing to consume. Nobody has loaned us money to build factories, to build infrastructure. We have nothing to show for the trillions of dollars the world has loaned us except empty houses, plasma TVs, SUVS. We’ve blown the money on consumption and this is the problem. Ultimately the solution for the rest of the world is to stop lending us money, let the dollar collapse, let the US economy implode, and the rest of the world just goes about its business.

GEORGE NEGUS: Peter, that must be heresy to so many people in America, to suggest that the so-called the strongest and biggest economy in the world is to blame for this.

PETER SCHIFF: Our economy is no sounder than a dotcom stock was or a subprime mortgage. It’s all an illusion. We’re flooding the world with our IOUs. We are borrowing from everybody in the world and we’re sucking up resources and consumer goods that we can’t afford.

GEORGE NEGUS: Steve Keen, Peter is actually living up to his name as ‘Dr Doom’, a doomsayer, but is the picture is bleak as Peter is painting it?

PROFESSOR STEVEN KEEN: I think his nickname is ‘Dr Gloom’ and it’s not quite as bad as Dr Doom but, yes, the picture is in that direction. I certainly think that the idea that America has been living on IOUs is valid. Part of the American arrogance and the end of Second World War was to say we are the biggest, toughest, strongest country on the planet. You’re going to use American dollars for international exchange. What that meant was when other countries ran out of American dollars when there are running a trade deficit, particularly back when exchange rates were fixed, there were forced to devalue. They had to do something serious. When America ran out of American dollars, it printed more.

GEORGE NEGUS: So we don’t sound like a mutual admiration society here, what’s the solution than? If you guys are both convinced the Americans have created their own problem and now it’s flowing on to the rest of us, including Australia, Steve, what should they be doing?

PETER SCHIFF: I think the solution - the world needs to recognise that America is not the engine of the global economy. We are the caboose. Anybody can consume. Little children can consume. The key is to produce. The key is to save, not to borrow. And if America stops consuming and stopped borrowing, that’s not going to hurt the global economy, that’s going to help the global economy. The rest of the world has been living beneath their means so we can live beyond ours.

PROFESSOR STEVEN KEEN: I wish that were true.

PETER SCHIFF: I think for the world the solution is to write off the US.

PROFESSOR STEVEN KEEN: I wish Peter were right that the rest of the world had its act in order. The rest of the OECD doesn’t. It isn’t just America that been borrowing more money than it’s been earning - the whole of the OECD bar one country, which has France, has been having an increase in ratio of its debt to GDP for the last 30 years. So we’re all in the borrowing game. We’ve all made the mistake of confusing money generated by real production with money you can borrow from a bank. And that’s kept on going for so long that it’s reached the point now where that game is over. If you like, it’s the old “greater fool” philosophy. You make money if you find a greater fool who borrows more money than you did to buy the same asset off you and you get away rich and they end up with even more

GEORGE NEGUS: What do we do, Peter? If you are running either the Fed in America or the Treasury, if you had all the power that comes with the stroke of a pen or hitting a computer key, what would you do right now to make sure this situation didn’t get a lot, lot worse before it gets better?

PETER SCHIFF: There is nothing I can do. It’s got to get worse before it gets better. Unfortunately for America the only way to cure these imbalances is to suffer a severe recession. There’s no way round it. All the government is doing is trying to make the situation worse in the long run by postponing it. We need to stop all this reckless consumption. We need to have much higher interest rates in the United States and we will need to allow companies to go bankrupt. We need to allow real estate prices to collapse, we need to rebalance our economy. That can’t be done without a lot of pain.

But the rest of the world - somebody is saving, somebody is loaning us this money and there are a lot of consumer goods all around America. There are factories somewhere in the world that are producing this stuff. That’s real wealth and the world has that - we don’t.

GEORGE NEGUS: Meanwhile, the upshot of all of this, of course, is people, whether it’s in Australia with the flow-on to this country, or in America, where people are losing their homes, losing their life savings, losing everything that matters to them, the whole core of their existence. It’s a very human problem in the long run, we’re talking high finance here.

PETER SCHIFF: But they never had any life savings. It was an illusion to begin with. And they’re not losing places to live. The one problem we don’t have in America is housing. We’ve got so many houses that are empty. Nobody is on the street. They are losing the fantasy of home equity. So you move out of one house and you rent another one. Nobody is going homeless.

GEORGE NEGUS: Peter mentioned the Americans should in fact raise interest rates. We have just had a lowering of interest rates in this country. Are we heading the wrong direction?

PROFESSOR STEVEN KEEN: No, no, no. The whole belief that you can manipulate the economy using interest rates has been fallacious. It’s been focusing on the rate of inflation, and believing there’s a simple inverse relationship between the rate of inflation and the rate of interest that means you can fine-tune the economy, totally ignoring in the background the explosion in private debt that’s the thing both Peter and I are focusing on.

GEORGE NEGUS: So, lower interest rates or not, are people going to lose their homes in this country?

PROFESSOR STEVEN KEEN: Yes. The scale of debt is so enormous there isn’t the physical production to back it. It’s even worse in Australia than in America - the de-industrialisation of our society in the last two decades.

GEORGE NEGUS: Are we talking here, Peter, of people’s expectations just being too high altogether because of the ready access to loan money? People think they can afford to live in ways that they can’t live.

PETER SCHIFF: People think the government has real wealth, the government can help solve problems. They can’t. All they have is a printing press. They can debase money, they can rearrange the losses, but they can’t make them go away and they can’t produce anything. And the problem on interest rates is we shouldn’t have governments setting interest rates, just as we don’t have governments setting the price of anything. They’re going to do it wrong and of course when it comes to inflation our government lies about inflation. They claim our inflation is non-existent. In the GDP deflator, where they tried to manufacture a 3% growth, the government claimed inflation in America is running at a 1.2% annual rate - the lowest in 10 years. Our inflation is over 10% a year. The government cooks the books. If the free market set interest rates, they would be much higher because nobody would loan money for below the rate of inflation.

GEORGE NEGUS: At least in this country we can say that the government are not lying about inflation. They’re actually blaming it for all the problems we have. But are they missing the point as well when they keep harping on the way they do about inflation and in fact we don’t hear much about this enormous public and private debt?

PROFESSOR STEVEN KEEN: The central banks of the world, including our Reserve Bank, and certainly the American FRB, they have forgotten the reason they were created was to some extent to prevent an occurrence like the Great Depression. They have ignored debt completely and in the meantime focused on inflation. Debt has gone through the roof. We have gone back to twice as much debt as we had before the Great Depression began and inflation, which is low, they are trying

GEORGE NEGUS: Running out of time, unfortunately, gentlemen. If I can put this to you in conclusion - would you like to be either John McCain or Barack Obama inheriting this situation as president of the United States of America in a few months time?

PETER SCHIFF: I would like to have the job, but neither one of them is up to it. They’re going to walk into a landmine and they’re going to step on every one. It’s going to be a complete disaster whoever is president and our country is in serious, serious trouble. Other countries have smaller problems but nothing like the United States. It’s a real mess and all I can say is, anybody who’s watching this in Australia, if you’ve got any money invested in any US dollar-denominated equities or debt, just sell the first chance you get.

Jim Rogers interview with Bloomberg: “…government has no authority to buy Fannie and Freddie stocks and should have allowed them to go under.” He claims Paulson bails out Wall Street at the expense of fueling inflation and ignoring Americans.

Peter Schiff
There is absolutely no substance to Paulson’s insistence that based on the government’s first claim on the future profits of Fannie and Freddie, the plan offers protection for taxpayers. There will be no future profits, just more heavy losses. Americans will now have unlimited ability to continue to overpay for houses and commit to mortgages they can’t afford. In fact, the plan insures that eventual public sector losses will vastly exceed those that would have befallen the private sector in a free-market resolution.

Paulson claims that his goal is to stabilize the mortgage market. But the best way to do so would be to allow housing prices to fall to a market clearing level. As long as home prices remain artificially high, the risks of mortgage lending will keep credit tight, and the high costs of mortgage payments will keep potential buyers on the side-lines. With private lenders justly cautious, the government intends to hold open the lending spigots, without the pesky concerns over losses or financial risk. The hope is that the new lending will prevent home prices from falling further. It won’t work. The government “solution” will simply delay the fall of artificially high home valuations and temporarily preserve the illusion of prosperity.

In order to preserve current home prices, the government will be forced to maintain the lax lending standards that got us into this mess in the first place. Since all the losses will now be borne by taxpayers, those lax standards will be much more problematic. The moral hazard that existed prior to this bailout has become that much more hazardous. Every mortgage now insured by Fannie and Freddie is the equivalent of a U.S. Treasury bond. This allows anyone to borrow on the full faith and credit of the U.S. government so long has the money is used to buy a house. In addition, mortgage lending will now be a government function, run with Post Office-like efficiency. More

Ilargi
The Automatic Earth
I thought I’d open today with a look at the New York Stock Exchange. This is the portrait of little people losing big money. When it comes to economic reality nowadays, and especially media coverage of it, 99% of the population seems to be made up of two kinds of people: Those who don’t know, and those who don’t want to know. They are the ones still buying cars and houses -or at least trying to-, and they are the ones investing in the stock market. These days, that means they are being fattened to get plucked of all their feathers, and then slaughtered, like so many chickens.

Bill Gross is not one of them.

Bill Gross has a pretty good idea of what is good for Bill Gross. But “opening up the balance sheet of the U.S. Treasury”, as he insists is needed, is not so good for those of us who are not Bill Gross. His warnings are right on the money, very much so; his solutions are self-serving. He even wants to set up a -new- way to subsidize home loans, pretending it would be good for buyers. First off, that would require putting Fannie and Freddie’s $9 trillion in debt on the Treasury’s books, though. Those books are backed by taxpayers. A new home-loan scheme would then add more of the same, i.e. losses.

Well, been there done that. That is exactly what Fannie and Freddie have done. And look at the result. And now he wants more of the same under a different name? There would be no US housing industry left to speak of if these two wouldn’t have bought 80% of all mortgages in the past two years.

So did it help? It only helped putting US taxpayers deeper into the gutter. Homes are hugely overpriced, and it’s crazy to want to keep that scam going. The last ones that is good for are the very homebuyers that all these schemes are supposed to benefit.

Basically, what he says is that US taxpayers should now buy up all the assets -not just mortgage related ones- that nobody else wants to touch anymore. And that is really the way Bulgaria used to run its economy. Perhaps still is. The difference is that Bulgaria’s finances were in much better shape that the US today.

Bill Gross extends a sort of open invitation to move from Bulgaria to Weimar. And I’m sure he’s figured out a way to do well even there. Well, Bill, it’s not going to happen. We’re too far gone. More

The Automatic Earth
Ilargi: Oh, they’ll keep spouting bits of nonsense for a long time to come, it’s like a genetic reflex. Economists are selected for their ability to lie straight-faced.

But cracks are showing. After Willem Buiter told the Fed to get its head out of the Wall Street bankers’ asses - as if he doesn’t know it was born that way-, Israel central banker Stanley Fisher left Jackson Hole saying problems wouldn’t be fixed by next year this time, at the next meeting.

Which is a bit of a new take for Da Boyz. That’s why Bernanke doesn’t say it himself, but gets someone else to do it for him. Always safe in case of later reminders.

Forward Libor rates tell the story a lot clearer. No positives until at least after June 2010. And since anything beyond that would be too much of a gamble to be a valuable compass, don’t count on a recovery even then.

The trust is gone, everybody knows that all the others are hiding behemoth size additional losses; they know because they also hide them themselves.

And it’s now crystal obvious that Fannie and Freddie will need propping up. The only imaginable way this time is through -senior-preferred stock purchases by the Treasury. Little bitty problem there: it will wipe out what’s left in shaky not-marked-to-market reserves for an untold number of small US banks, who are all skull-deep in F&F paper.

By saving Big Mac and Mae West, the Treasury will blow away the available funds at the FDIC, which will then have to be bailed out in turn. That’s not problem solving, that’s problem shifting.

And what’s worse, that alone will get them close to the point where a $100.000 deposit guarantee is no longer feasible. That is one that they’ll prefer to leave until after the election. Just too messy.

Which leaves the urgent problem of Lehman and the inability to sell it, or give it away even when they throw in granite counter tops and a swimming pool.

They’ve always known the solution: in both Lehman’s and Fannie and Freddie’s case, they will pull down the share prices till there’s so little left, they’re literally no longer going concerns. Anyone still holding shares by then, Americans or foreigners, is too stupid to claim the right to anything at all.

What everybody still keeps missing is that the power the Fed and the Treasury have over the US financial system grows by the day, and has now reached historically unprecedented levels.

They alone decide who gets a bail-out and lives, or who gets shrunk and shriveled till death follows. More

GERALD P. O’DRISCOLL JR.
The markets have long assessed the debt of Fannie and Freddie at AAA because of the Treasury’s guarantee, now explicit. But no one has ever seriously assessed the Treasury’s creditworthiness with Fannie and Freddie on its books. The public guarantee is entirely open-ended and unbounded. The appetite of the two companies to balloon their balance sheets and take on risk has not been curtailed. Meanwhile, Congress spends apace with new programs for constituents in an election year.

We are at a Smithian moment, in which the temptation for the Fed to spend its last dime of credibility may prove irresistible. Investors are already being taxed by inflation and can rationally expect that tax rate (the inflation rate) to be raised going forward. Wages are not keeping up. Main Street is being taxed to fund Wall Street excess. Anyone who works, saves and invests is exposed to confiscation of his capital and earnings through inflation. More

Mr Mortgage
The smell of ‘bailout’ is in the air. Like Pavlov’s dog, stocks are keying off the potential collapse of the nation’s two largest mortgage players who control about 75% of the market currently, looking for a bailout and subsequent rally. At any other time in history, this sort of event would have caused ripples through the financial markets. But in this new age of ‘moral hazard’ brought about by Heli-Ben’s easy checkbook in which bailouts are great for stocks, anything goes and is a buying opportunity.

What will Paulson do? That is the question. Does he throw the US Government, tax payer and Treasury Bond yields under the bus with an open-ended, retroactive bailout? A bailout designed to save the debt holders and/or the MBS holders such as China, Russia, Bill Gross and other rich investors who knew what they were buying? Does he throw the investors under the bus in favor of the US Government’s and tax payer’s balance sheets? Or, does he do a combination of both?

It is of little question whether Fannie and Freddie will have to be bailed out. But, how do they do it? Many, including myself, think that nationalizing these firms and running them like FHA going forward is the least painful for everyone.

Arguably, the Agencies are making some of the best loans ever that should actually be profitable. Therefore, an ‘explicit’ guaranty going FORWARD would not be a horrible thing. With an explicit guaranty going forward and likely higher mortgage rates and spreads over Treasuries, investors should have no problem buying up the issues. They would be in such hot demand that it could conceivably make actual mortgage rates cheaper on the front end than they are today. This sounds great, right! Not so fast. The foreigners and rich investors want their bailout too.

It is not about how this will operate going forward so much as it is about the $5.2 TRILLION in debt and mortgage-backed debt outstanding that has everyone in a tizzy. The majority of outstanding Agency RMBS’s are owned by foreign governments such as China and Russia, investors such as PIMCO (Bill Gross), mutual funds, banks and pension funds. These are the smartest guys in the room and if they would have even glanced the way of an Agency RMBS prospectus, they would have seen it said this security is not backed by the US Government but rather the full faith and credit of two run-away, over-leveraged, quasi-Government, failing hedge funds.

Without an explicit RETROACTIVE bailout that saddles the US tax payer with $5.2 TRILLION in liability, people are worried that these players, especially foreigners, will quit buying US Treasuries. Well, that’s the risk you take. But at this point in time that is just speculation. Many of these investors have already significantly lightened their US Treasury exposure. Strangely enough, even more so around the time the news began to broke that the Government was considering retroactively backing $5.2 Trillion in Agency debt and RMBS’s.

What do you think happens to Treasuries if you do put the US at that great of a risk? US Treasuries will still get hit but by a much larger pupulation of owners and for a much longer period of time. If you saddle the US with an open ended, retroactive bailout of the Agencies for some of the worst loans ever made from 2002-2007, a disaster will ensue. We already know that GSE’s have significant subprime and Alt-A holding and much of their Prime paper is closer to Alt-A. Defaults are soaring across all paper types. Foreclosures could continue for years.

Just think about it for a minute. If we back all of this, much of it toxic, there is the chance that every time a negative piece of housing data comes out in the future, Treasuries could actually sell off vs. rally because that’s more bad paper that the US Gov’t must make good, guaranteeing payments to these investors. If we are in the early innings of this housing meltdown like many including myself think we are, then get ready for sky-high Bond yields because the only way to cover all of investors around the world will be through the sale of new Bonds.

We are in a ‘damned if we do and damned if we don’t’ situation. But, I see signs of hope. Take the New FHA Bailout law for example. It requires banks to significantly write down the value of their mortgage notes to 90% of the new value and get nothing in return. That is the investor sharing the responsibility.

The same thing should happen here. These wealthy, global investors knew what they were buying and taking a haircut on their Agency MBS holdings is not the end of the world. The US Gov’t and tax payer retroactively backing mortgage paper that never had a guaranty in the first place without any idea of when this housing and credit crisis will be over would do much long-term damage and force higher mortgage rates in the US and interest rates across the globe.

If we leave older vintage Agency securities to trade without a guaranty, investors would take losses because all older mortgage-backed debt has fallen in value given what has happened to the housing and credit markets over the past year and a half. But, these losses would not be massive and could be mitigated with ownership or warrants in the new and improved Fannie Mae and Freddie Mac that would be very valuable in the future, as the companies did well.

Activist hedge fund manager Bill Ackman talked about the bailout and a plan he has for the GSE’s. I like it. Below are the links. -Best, Mr Mortgage

The Automatic Earth
I’m convinced that whatever anybody says to the contrary, Fannie and Freddie have been used for at least 2 years to dump losses incurred by Wall Street’s largest lenders, including Countrywide. I’m equally convinced that the Treasury and the Federal Reserve knew about this, and gave their permission. Perhaps the scheme even originated there. The key line in the Washington Post article is this one: “Fannie Mae Executive Vice President Thomas A. Lund said the company pursued the purchase of subprime loans in 2006 and 2007 at the request of lenders, who wanted Fannie Mae to take the loans off their books.”. They don’t even try to hide it much. And why should they? After all, they can continue to claim, as the Post quotes from an internal Fannie document, that “The company recognized the already weak performance of subprime loans but predicted that they would get better in 2007″. More

An extraordinary Treasury capital infusion may be needed to restore faltering foreign demand for debt issued by Fannie Mae and Freddie Mac, the two top home funding sources that the government is willing to rescue to save the housing market. The companies rely heavily on overseas investment, often up to two-thirds of each new multibillion-dollar note offering, to help pare funding costs and keep mortgage rates low. But foreign central banks have dumped nearly $11 billion (5.9 billion pounds) from their record holdings of this debt in four weeks, to $975 billion (522 billion pounds), and won’t return in force before it’s clear if — and how — the government will back Fannie and Freddie, some analysts say. More

Source: The Automatic Earth
In a CBNC interview, analyst Meredith Whitney gives her view of the credit and housing crisis, touching on a wide range of aspects. I think this is an important interview, because she makes a number of statements that contradict many claims and predictions published by the “respected” media on a daily basis. Even so, she very clearly looks to be holding back in what she says.

Still, while blogs may not always be taken seriously, an attitude that increasingly proves to be just plain wrong, Meredith Whitney cannot just as easily be shoved aside. It’s hard to name a high-level analyst on Wall Street with more credibilty than she has.

Here are some of the things she says:

* Merrill Lynch’s sale of $30.6 billion of its CDO’s will be a blueprint for all other financial institutions that own such instruments.

* 25 financial institutions will need to raise additional capital at some point this year.

* All the equity raised presently just serves to plug holes; it doesn’t improve banks’ financial positions.

* Stocks in financials will not rebound for at least 3 years.

* Fannie and Freddie are in the same quagmire as all the rest, they’re just bigger.

While, as Whitney says, the Case/Shiller index predicts a 33% drop in residential real estate prices, and most other predictions claim an even - often much- smaller decline, she is sure it will be worse than 33%. She doesn’t say how much worse, but calls lesser claims “bad math”.

Her reasoning is as follows:

* Since 2000, 85% of the liquidity in the US housing market has come from securitization. From 2005-2007, $2.5 trilllion worth of mortgages was securitized.

* Today, obviously, mortgage backed securities hardly find buyers. That is, except for Fannie and Freddie.

* A 33% drop in home prices would lead us back to the price level of 2002-2003. However, homeownership was higher then, and the securities trade was blooming.

* Today, banks have less capital, since their shares have lost 50% or more of their value. This will inevitable lead to less lending, which leads to less buyers, which results in lower housing prices.

Whitney therefore states that a drop in prices of 33% or less is not just unlikely, it is mathematically impossible. Keep that in mind the next time you hear or read claims to the contrary: home prices will fall by more than 33%, and shares in financials won’t bounce back until 2012 at the earliest. If you must, feel free to ignore my prediction for a drop in real estate prices by 80% or more; until it happens, that is. You will see.

Ignore Whitney at your own peril. See Video

Thomas Tan
Safe Haven
Last Wednesday, WSJ had a great article called “The Fannie Mae Gang” by Paul A. Gigot…

It had good discussion of another aspects of the current mortgage crisis and roles and responsibilities of many players dated back many years ago. It showed the public the inner circle of the secret “Skull and Bones” society around Fannie Mae (FNM) and Freddie Mac (FRE). It detailed among, for example, former Fannie Mae Chairman Franklin Raines, former Countrywide Financial CEO Angelo Mozilo and House Financial Services Committee Chairman Barney Frank that have helped create the monsters called Fan and Fred.

It wrote, “I recount all this now because it illustrates the perverse nature of Fannie and Freddie that has made them such a relentless and untouchable political force….. The abiding lesson here is what happens when you combine private property with government power. You create political monsters that are protected both by journalists on the left and pseudo capitalists on Wall Street, by liberal Democrats and country club Republicans. Even now, after all the dishonesty and failure, Fannie and Freddie could emerge from this taxpayer rescue more powerful than ever.”

There are probably few things more disturbing and scary than this.

Back in 2002, WSJ had an article called “Fannie Mae Enron?”, questioning their shaky derivatives accounting. And the person who was angry about this article, obviously besides the then-CEO of Fannie, Mr. Raines, was surprisingly the then-CEO of Countrywide, Mr. Mozilo. Mr. Mozilo loudly insulted Paul by stating he knew nothing about accounting or mortgage markets, among other things. Apparently Mr. Mozilo and Mr. Raines were partners, with Countrywide feeding mortgages to Fannie to make Mr. Mozilo very rich. Of course, he got to protect his most valuable customer.

Thanks to its quasi-public and quasi-private dual status, with implicit but correct assumption of government guarantees, Fan and Fred can borrow from financial markets at super low interest rate, enjoyed the spread between such low borrowing rates and much higher mortgage rates in their portfolio from Mr. Mozilo and other originators. If that is not enough, Fannie was creating shaking derivatives from these mortgages to generate more profits, which brought the above WSJ article that compared Fannie to Enron. No wonder Mr. Mozilo was angry, so was Mr. Raines, since regulator James Lockhart later on discovered that Fannie had rigged its earnings in a way that allowed it to pay huge bonuses to their executives, especially Mr. Raines who was forced to resign.

Then the famous FOM (friends of Mozilo) in Congress quickly came over to rescue. First, Republican Rep Cliff Stearns of Florida was stripped of his subcommittee of jurisdiction over Fan and Fred’s accounting by House Speaker Dennis Hastert. Then Barney Frank was taking over the whole show to protect Fan and Fred from stronger regulatory oversight. When Wisconsin Rep. Paul Ryan advocated more supervision for Fan and Fred, Fannie played hardball by calling every mortgage holder in his district, claiming that Mr. Ryan wanted to raise the cost of their mortgage, resulting Mr. Ryan receiving 6,000 telegrams. He left Financial Services for a seat on Ways and Means which of course doesn’t oversee Fannie anymore.

In addition, the “Fannie Mae Gang” article wrote, “Fan and Fred also couldn’t prosper for as long as they have without the support of the political left, both in Congress and the intellectual class. This includes Mr. Frank and Sen. Chuck Schumer (D., N.Y.) on Capitol Hill, as well as Mr. Krugman and the Washington Post’s Steven Pearlstein in the press…….Yet as studies have shown, about half of the implicit taxpayer subsidy for Fan and Fred is pocketed by shareholders and management. According to the Federal Reserve, the half that goes to homeowners adds up to a mere seven basis points on mortgages. In return for this, Fannie was able to pay no fewer than 21 of its executives more than $1 million in 2002, and in 2003 Mr. Raines pocketed more than $20 million. Fannie’s left-wing defenders are underwriters of crony capitalism, not affordable housing.”

This is similar to some charity organizations that use half of the donations for their “expenses” and only pay out half to the claimed causes.

Fast forward to today, taxpayers not only have paid so much and so dearly to support this crony capitalism and so many friends of Mozilo, but also have to inject more capital in the companies, in addition to guaranteeing their trillions of bonds issued in the past, many of which should not have been issued and are now held by foreign governments of our trade partners in their currency reserves. Talking about global crony capitalism among many governments which U.S. taxpayers have to cover all their losses. This is really the beauty of quasi-private and quasi-public dual structures. Profits go to the few Skull & Bones members, while the losses are dumped to the whole society, and all is done in the name of “helping poor people to own houses”.

The best part of this WSJ article is that one analyst at Sanford C. Bernstein, wrote in 2002 about the “Fannie Mae Enron?” article, “Taxpayer Are on The Hook: This is incorrect. The agencies’ debt is not guaranteed by the U.S. Treasury or any agency of the Federal government.” We should all hope his great insight from 6 years ago was correct, so that U.S. taxpayers don’t need to pay for all these huge losses, since we are quickly going down a slippery path from “too big to fail” to now “too big to be guaranteed”.

Back in Savings & Loan crisis, we had the Keating Five. Today in home mortgages, we have the Fannie Mae Gang. Some things never change.

JOHN HEINZL
When CNBC or Fox needs a guest who can be counted on to deliver a thoroughly gloomy outlook for the U.S. economy, they call on “Dr. Doom.” To say Peter Schiff is bearish is like saying Tiger Woods is an okay golfer, or China has a small problem with air quality. The president of Connecticut-based Euro Pacific Capital Inc. is so pessimistic about the U.S. economy that he lives in a rented house and keeps the vast majority of his and his clients’ money outside the country, a healthy chunk of it in gold and energy stocks. “America is finished. We are going to destroy this country. Our economy is just going to unravel,” he told me yesterday. “The question is how much money is the world going to lose before it writes us off?” Apocalyptic forecasts are a dime a dozen these days, so why should anyone pay attention to Mr. Schiff? Because his past predictions have proved uncannily accurate.

When dot-com stocks with no earnings were shooting skyward in the late nineties, he was advising clients to stay away and instead putting money into the unloved energy sector, just in time for the great oil bull market. A few years later, when the housing bubble was inflating, he was warning about the dangers of reckless mortgage lending and the precarious state of Fannie Mae and Freddie Mac. “If it looks like a bubble, walks like a bubble and quacks like a bubble, it’s a bubble,” he wrote. That was in 2004, when speculators were still lining up to buy investment properties in Las Vegas. Ever the contrarian, Mr. Schiff made a bundle shorting the subprime mortgage sector. So, one year into the credit crunch and with more than $400-billion (U.S.) of mortgage losses piling up on company books, where does Dr. Doom see the U.S. economy heading now? Unfortunately, into an even deeper hole, one from which it could take years to emerge.

Far from rescuing the economy from the housing debacle, the government’s efforts to prop up Fannie and Freddie - which own or guarantee nearly half of the $12-trillion in outstanding U.S. mortgage debt - will only compound the problem by delaying the inevitable day of reckoning. The same goes for plans to help hundreds of thousands of homeowners refinance into more affordable mortgages. Apart from encouraging the very moral hazard that got the U.S. into this mess in the first place, the government bailout will come with an enormous price tag in the form of soaring inflation, Mr. Schiff argues. He believes government figures vastly understate the true rate of inflation, which he estimates is now running at 10 to 12 per cent. Before long, it could be north of 20 per cent.

“The government doesn’t have the balls to raise taxes. It’s going to print the money. It’s going to destroy the currency,” he says. During the Depression of the 1930s, at least people who held cash made out okay. Because prices were falling, their money actually bought more. But if Mr. Schiff is right and the U.S. is heading into a period of hyperinflation, then even the most prudent savers will see their wealth eviscerated. With the walls closing in on the U.S. economy, where is an investor to turn? Apart from gold and energy producers, which benefit from a plunging U.S. dollar, Mr. Schiff likes conservative, dividend-paying stocks such as pipelines and utilities. He’s especially fond of Europe, Asia, Australia and Canada, where his holdings include Barrick Gold Corp., Goldcorp Inc., Crescent Point Energy Trust, Baytex Energy Trust and Pembina Pipeline Income Fund. He has two words for Canadian investors thinking now is a good time to shop for bargain-priced U.S. stocks: “Stay away.”

You have heard that Fannie and Freddie, their gentle names notwithstanding, may cripple the financial system without a large infusion of taxpayer money. You have gleaned that jobs are disappearing, housing prices are plummeting, and paychecks are effectively shrinking as food and energy prices soar. You have noted the disturbing talk of crisis hovering over Wall Street. Something has clearly gone wrong with the economy. But how bad are things, really? And how bad might they get before better days return? Even to many economists who recently thought the gloom was overblown, the situation looks grim. The economy is in the midst of a very rough patch. The worst is probably still ahead. Job losses will probably accelerate through this year and into 2009, and the job market will probably stay weak even longer. Home prices will probably keep falling, shrinking household wealth and eroding spending power. “The open question is whether we’re in for a bad couple of years, or a bad decade,” said Kenneth S. Rogoff, a former chief economist at the International Monetary Fund, now a professor at Harvard. More