Quantum Pranx


Wall Street and politicians still don’t get it

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by Bill Fleckenstein
Contrarian Chronicles January 8, 2010

THE GAMBLERS AND THE CLUELESS ARE LEADING this nation into the abyss. If only we could throw out all of them. There were many lists made of the “best” and “worst” of 2009. List-makers did themselves proud ticking off item after item.

But – understandably, because it’s a nonfinancial crowd – one item got away from them: The 30-year Treasury bond turned in its worst performance in 40 years, as the yield rose from about 2.7% to about 4.6%. (For the layman, yields rise as bond prices fall.) Given all the deflation fears and all the money that has poured into the Treasury market, that factoid may come as a surprise.

We’re facing a protracted period when bonds deliver nothing but losses for folks – just as the funding crisis I’ve written about before (read “The next crisis has already begun“) is due to make itself visible this year. The only question is whether problems will erupt first in the bond market or the currency market. We’ll probably learn a lot more on that score between now and March, when Federal Reserve chief Ben Bernanke is expected to end quantitative easing, by which the Fed has pumped money into the financial system.

Of course, the fact that we’re going to have a funding crisis is a function of the Fed’s activities. And, wouldn’t you know it, the central bank’s chief gave a speech last week that Bloomberg covered under the headline “Bernanke says low rates didn’t cause housing bubble.” The fact that Bernanke is so deeply in denial shows that he really doesn’t understand the risks of printing money.

He is not alone on that score. It seems that all of those folks who inhabit Wall Street these days, as well as nearly all of our politicians, want to get back to business as it was and are trying to pretend 2008 never happened. If the Fed, in the form of Bernanke, cannot admit its mistakes, it is due to continue making them, exactly as his predecessor, Alan Greenspan, always did.

Regarding the Fed, 2008 and the financial crisis, I’ve recently read almost all of the books released in the past year on that subject. I found Rep. Ron Paul’s “End the Fed” terrific. I have always agreed with the Texas Republican’s major points, except his tolerance for certain conspiracy theories, but before reading his book I had thought of him as a bit of a gadfly. I had not appreciated his true grasp of the underlying fundamentals of economics and money printing, and how “it all works.”

Paul’s book is mandatory reading for anyone wishing to understand how money printing makes the country worse off. (On the other hand, David Wessel’s “In Fed We Trust” struck me as essentially a waste of time.)

Meantime, while my book “Greenspan’s Bubbles: The Age of Recklessness at the Federal Reserve” and Barry Ritholtz’s “Bailout Nation” were early explanations of the problems created by the Fed and what’s evolved in the wake of its policies, most of the books written since then have focused on Wall Street. On that score, I enjoyed William Cohan’s “House of Cards: A Tale of Hubris and Wretched Excess on Wall Street” and Patrick Robinson’s “A Colossal Failure of Common Sense:The Inside Story of the Collapse of Lehman Brothers.

But the book I found most illuminating — almost shocking — and that made me quite angry was “The Sellout: How Three Decades of Wall Street Greed and Government Mismanagement Destroyed the Global Financial System” by Charles Gasparino.

This is another mandatory read. (Andrew Sorkin’s “Too Big to Fail” runs along a similar line, but in my opinion is quite inferior.)

What Gasparino does so well is to describe the system that evolved in part due to — this is my opinion — the Fed “put,” meaning its policy (and the belief in that policy) of always bailing out those with financial troubles. What evolved was the leveraged beast, thought to be too big to fail but in fact too big to bail out without trillions of dollars of newly printed government paper.

Gamblers — some call them bankers — made leveraged bets on whatever interested them. For a few years, what interested them most was mortgage debt of all flavors and stripes, though they also got excited by leveraged-buyout debt and commercial-real-estate debt.

For them, it was a wonderful system, one in which gamblers collectively made hundreds of billions and individually made tens of millions. But when the system blew up, it cost the country trillions in obligations to be paid by the taxpayer or printed by the Fed.

What I find particularly outrageous is that even after the bailout of these entities, we aren’t yet seriously forcing them to skinny down, and they’re back to paying out bonuses of nearly the same magnitude as those in 2007.

Heads they win, tails we lose
I am a staunch advocate of capitalism, free enterprise and folks being able to make whatever they can by being honest and clever. But it seems to me that so much of the money the bankers “earned” was primarily a function of the massive leverage wielded by the institutions they worked for, rather than the result of any great decision making on their parts. (That’s not to say there weren’t certain guys and gals inside these institutions making brilliant decisions, but in the aggregate it was all about leverage.) And the money the institutions made last year was all about the government bailout.

Thus they got paid for taking excessive risk and then paid again when that risk taking ended with the massive bailouts we’ve witnessed. I don’t know what the solution is, but I know that what has occurred is outrageous and that there’s going to be a huge backlash at some point. Most likely, that backlash will be unfairly delivered. I just don’t know how it will be unfairly delivered.

Meanwhile, the optimist in me (even folks with a bearish outlook are optimists; it’s just that we’re in denial less often than those in the perma-bull camp) found some hope in a Dec. 30 New York Times editorial headlined “Failed state,” which made the following case for throwing out the New York Legislature:

“New Yorkers should be appalled at their failed state government, particularly their corrupt and clueless Legislature. Scandal and irresponsibility have been Albany’s creed for decades. This year, the gang added another outrage to the list: complete fiscal incompetence. The only solace is this: The entire Legislature is up for re-election in 2010. And unless there is a sudden turnaround – and, so far, we see few signs of it –New Yorkers have no choice but to vote out all the lawmakers and start over.”

Now the only suggestion I would make to The Times is that they need to write that editorial about the U.S. government. We need to throw out all the bums. No exceptions, not even Ron Paul. I’m sure he wouldn’t mind leaving, if it meant the 534 other career politicians in Congress have to leave as well. That would be a sacrifice I’m sure he would gladly make.

My hope is that as we continue on this path of irresponsibility and business as usual, perhaps we’ll get to the point where people become angry enough to throw out all the bums and try to start over — and clean up the mess so our kids and grandkids have half the chance that we did.


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