Over the past few years we’ve chronicled the build and unwind of the greatest credit bubble in history while most market observers continued to embrace the almighty central planners. Time and time again either the Federal Reserve or the US Treasury appeared on the crime scene with extraordinary measures all fraught with precarious unintendid consequences.
First, the countless interventions involving GSEs, money center banks and AIG all had one common denominator: “save the bondholder.” In all cases the US government stepped into various private sector businesses, took a significant equity ownership interest alongside the prior destroyers of capital, and preserved bondholders, consequently crowding out the future investment capacity of remaining and prospective entrepreneurs. For example, AIG is now 79.9% owned by the US taxpayer thanks to over $180 billion in bailout funds, some of which found their way into the hands of multiple Wall Street beneficiaries, namely Goldman Sachs and Deutsche Bank. Fannie Mae and Freddie Mac are categorized as “works in progress” courtesy of ex-Treasury Secretary Hank Paulson’s “conservatorship” scheme while the Obama administration tinkers with alternative strategies. Meanwhile, these propped-up entities are classified as off balance sheet budget items requiring over $100 billion in bailout funds since last fall with projections of another $300 billion before year end!
Second, the money center banks, specifically Citigroup and Bank of America, are ridiculously insolvent yet the Bush/Obama triage unit remains hell bent on emulating the Japanese model of keeping the zombies alive at any cost. Most of the life support was provided by the $700 billion TARP boondoggle.
Third, FDIC debt guarantees enabled additional dead men walking, such as Morgan Stanley, Goldman Sachs, JP Morgan and countless others, the opportunity to sell debt at below-market interest rates in the hope of recapitalizing the murky lenders during the recovery process.
Finally, the Federal Reserve – under fearless leader Ben Bernanke – has assured the American people that his science project, a.k.a. Shadow Banking II, will revitalize the private sector credit machine since over 60% of all US lending the past decade took place in the toxic off balance sheet world (Shadow Banking I). Predictably, his reliance on the same incompetent rating agencies and questionable collateral never comes up when presenting his plan. One simple question comes to mind regarding the Fed’s current balance sheet vs. several years ago: “How will the Fed remove all of this temporary liquidity when the balance sheet two years ago was primarily short term T-bills vs. longer-term structured finance instruments today?” Of course the answer is they won’t be able to remove any of it without creating hyperinflation.
In summary, the US government, in cahoots with the privately-owned Federal Reserve, intervened in an unprecedented fashion in order to preserve the US dollar fiat monetary system. It took conservatorship of Fannie and Freddie, the Bear Stearns bailout, TARP, FDIC guaranteed debt, and a plethora of “temporary” Federal Reserve credit facilities as well as permanent government credit backstops totaling $12.7 trillion to prevent the mother of all bank runs.
Until now the economic and investment minyans have applauded the work of Alan Greenspan’s worthy successor, but what lies ahead should make any supporter of central planning awfully concerned. Ladies and gentlemen, the dollar reserve currency system is now teetering on the edge thanks to the latest decisions by the Obama/Bernanke administration. Instead of allowing bank receivership or worthy bankruptcy law to remove the misallocated private sector debt in our lopsided system, team Obama has created additional bailouts resulting in a projected record budget deficit of $2.2 trillion for 2009 (an unprecedented 20% of GDP). This year alone sends over $1 trillion to the Wall Street dealers who created the fiasco with no mention whatsoever of the epic fraud from various participants, some now on the Obama team roster (Rubin, Geithner, et al.). The $1 trillion happens to be roughly 8 years of productivity in this country so expect government handouts to crowd out potentially thousands of new businesses and related jobs. (Despite the current government-created economic drought, the public sector parasite must be well-fed.) On cue, team Obama – literally televised daily – continues to tell the American people not to worry since his recent stimulus plan will create thousands of new government jobs similar to FDR’s New Deal.
By 2011 some economists project another several trillion in borrowing needs, taking the national debt above $15 trillion with an economy contracting by another 10%. This begs the question: “Who will lend us money to operate the USS of A?” Clearly scientist-in-chief Bernanke is now in the final phase of his lab experiment since earlier test results have all been negative. Showing signs of desperation, beginning in December of last year Bernanke discussed the possibility of extraordinary measures by the Fed, specifically buying mortgage-backed securities and longer-term Treasuries in hopes of controlling the long end of the yield curve. Germany tried this in the ’20s and we all know how that ended up. Since Bernanke’s trial balloon in December, the 10-year Treasury yield has climbed from 2.28% to over 3.45% as of Friday’s close. Subsequent to the December speech Bernanke has implemented his quantitative easing experiment as the Fed announced in March it would buy $750 billion in mortgage-backed securities and $300 billion in Treasury notes and bonds. $113 billion has been committed to buying Treasuries year-to-date. Not only has the yield spiked on the 10-year, but the US dollar index has declined by approximately 11%! Note to Bernanke: your experiment is an unmitigated disaster; please refrain from any more of this economic insanity! (Fortunately, Dr. Ron Paul has now garnered momentum in his quest to strip Mr. Bernanke of these insidious actions.)
It is said the road to hell is paved with good intentions. In this case, the perpetrators of the crime of the century are simply motivated by saving their own bacon.