At the Crossroads of the Packaged Debt Financial Crisis

"I went down to the crossroad
fell down on my knees
I went down to the crossroad
fell down on my knees
Asked the lord above "Have mercy now
save poor Bob if you please...

Early this mornin'
when you knocked upon my door
Early this mornin', oh
when you knocked upon my door
And I said, 'Hello, Satan,'
I believe it's time to go."
Robert Johnson, Crossroads and Me and the Devil Blues

Steve Waldman writes an brief but excellent analysis of the Fed's recent actions in his Interfluidity blog here:
Repurchase agreements and covert nationalization

We like it, not just because most of the points agree with the same ones which we have. Its nicely written, compact, concise and to the point. We like his analysis, and found his summation to be exceptionally insightful. We learned a new slant on things from it.

You may object, and I'm sure many of you will, that our little thought experiment is bunk, debt is debt and equity is equity, these are 28-day loans, and that's that. But notionally collateralized "term" loans that won't ever be redeemed unless and until it is convenient for borrowers are an odd sort of liability. Central banks are very familiar with the ruse of disguising equity as liability. Currency itself is formally a liability of the central bank, but in every meaningful sense fiat money is closer to equity.

I do not, by the way, object to nationalizing failing banks. There are (unfortunately) banks that are "too big to fail", whose abrupt disappearance could cause widespread disruption and harm. These should be nationalized when they fall to the brink. But they should be nationalized overtly, their equity written to zero, and their executives shamed. That sounds harsh. It is harsh. One hates to see bad things happen to nice people, and these are mostly nice people. But running institutions with trillion-dollar balance sheets is a serious business. Accountability matters. These people were not stupid. They knew, in Chuck Prince's now infamous words, that "when the music stops... things will be complicated.", and they kept dancing anyway.

But accountability has gone out of style. The Federal Reserve is injecting equity into failing banks while calling it debt. Citibank is paying 11% to Abu Dhabi for ADIA's small preferred equity stake, while the US Fed gets under 3% now for the "collateralized 28-day loans" it makes to Citi. Pace Accrued Interest (whom I much admire), I still think this all amounts to a gigantic bail-out. And that it is a brilliantly bad idea from which financial capitalism may have a hard time recovering. Like a well-meaning surgeon slicing up arteries to salvage the appendix, the Federal Reserve is only trying to help."

We're not so concerned with the nationalization of the banks, as we are with the monetization of more bad debt as the result of the wealth gained by a relatively few insiders through reckless mismanagement and fraud. Although it will be presented as just a small amount for everyone to pay, just the price of a discount coupon, we've learned through the latest debt fraud in Iraq that 100 billion quickly grows to a trillion.

Yes, the world is still willing to take our dollars, our markers, our IOUs. And yes, we can keep pushing the envelope of integrity to see how long they will keep taking it. But like a good reputation, once pushed to the breaking point by serial deceit, our national currency will not keep taking this unscathed, and there is likely a point of no return.

So what ought to be done? By all means, let us continue to mitigate the collateral damage to the innocent that the banks have caused.

But let us also take counsel from the recent words of Tom Hoenig, Kansas City Federal Bank President:

"In conclusion, let me stress again my belief that the response to this crisis should be fundamental reform, not Band-Aids and tourniquets. "

The only way to resolve this is that any government intervention to resolve this must include:

1. A formal reinstatement of the Glass-Steagall restrictions on ALL banks doing business in the US including multinationals. A revocation of 23A exemptions and removal of the Fed's latitude to overrule any written law on their own volition. An end to self-regulation and revolving door government regulation by non-civil service political appointees.

2. A return to the concept of regional and local banks through a reinstatement of laws limiting bank ownership across state lines

3. A national usury ceiling for all interest rates and fees on all debt, both revolving and non-revolving, to prevent banks from perpetuating predatory interest rate schemes based on extending individual state laws.

4. A significant set of Congressional hearings and the appointment of a special prosecutor assigned to investigate, with FBI support, the pervasive frauds in the US financial industry from Enron to Tech to Subprime, with special attention to RICO statutes and individuals as well as corporations. The insiders will seek to offer up some designated patsies. We have to try and go beyond that and strike the root and not just the branches.

The last point deals not with retribution, but restoring accountability and deterrence on this happening again in five or ten years with some new Ponzi scheme. If we take no action it will happen again.

"If the American people ever allow private banks to control the issue of their currency, first by inflation, then by deflation, the banks and corporations that will grow up around [the banks] will deprive the people of all property until their children wake-up homeless on the continent their fathers conquered."

Thomas Jefferson, Letter to the Secretary of the Treasury Albert Gallatin (1802)