The Warning Part II: Financial Armageddon, Again - Blood Moon - Trump Trade Policy the Patsy?

"Ultimately, the same financial architecture that surrounded the housing mortgage crisis (almost certainly including 'naked' credit default swaps) has been replicated in the three key areas where debt is growing at a troubling rate: defaults in student loans, auto loans, and credit card debt...

Thus, as the tenth anniversary of the Lehman failure approaches, there is an understanding among many market regulators and swaps trading experts that large portions of the swaps market have moved from U.S. bank holding company swaps dealers to their newly deguaranteed foreign affiliates.  ['off balance sheet' part deux]

But, what has not moved abroad is the very real obligation of the lender of last resort to rescue these U.S. swaps dealer bank holding companies if they fail because of poorly regulated swaps in their deguaranteed foreign subsidiaries, i.e., the U.S. taxpayer.

While relief is unlikely to be forthcoming from either the Trump Administration or a Republican-controlled Congress, some other means will have to be found to avert another multitrillion dollar bank bailout and/or financial calamity caused by poorly regulated swaps on the books of big U.S. banks...

By their own design, large U.S. bank holding company swaps [derivatives] dealers and their representatives have crafted their own massive loopholes from Dodd-Frank swaps regulations, which they can exercise at their own will.

By arranging, negotiating and executing swaps in the U.S. with U.S. personnel and then ‘assigning’ them to their ‘foreign’ newly ‘deguaranteed’ subsidiaries, these swaps dealers have the best of both worlds: swaps execution in the U.S. under the parent bank holding companies’ direct control, but the ability to move the swaps abroad out from under Dodd-Frank.

As history has demonstrated all too well, unregulated swaps dealing almost always ultimately leads to extreme economic suffering and then too often to systemic breaks in the world economy, thereby putting U.S. taxpayers, who suffer all the economic distress that recessions bring, in the position of once again being the lender of last resort to these huge U.S. institutions.

The Obama CFTC tried to put an end to these loopholes through a proposed rule and interpretations in October 2016.  However, those efforts were never finalized
before Donald Trump assumed the Presidency.  There will almost certainly be no relief from these dysfunctions from the Trump Administration or Congress.

However, state attorneys general and various state financial regulators have the statutory legal tools to enjoin these loopholes and save the world’s economy and U.S. taxpayers from once again suffering a massive bailout burden and an economic Armageddon."

Michael Greenberger, Too Big to Fail U.S. Banks’ Regulatory Alchemy


"'We didn't truly know the dangers of the market, because it was a dark market,' says Brooksley Born, the head of an obscure federal regulatory agency -- the Commodity Futures Trading Commission [CFTC] -- who not only warned of the potential for economic meltdown in the late 1990s, but also tried to convince the country's key economic powerbrokers to take actions that could have helped avert the crisis. 'They were totally opposed to it,' Born says. 'That puzzled me. What was it that was in this market that had to be hidden?'...

'It'll happen again if we don't take the appropriate steps,' Born warns. 'There will be significant financial downturns and disasters attributed to this regulatory gap over and over until we learn from experience.'"

PBS Frontline, The Warning

While the mainstream media says 'Russia, Russia, Russia' and the Administration says 'Immigrants, Trade, and Deregulate' the Banks may be setting up the US taxpayer for another taste of Financial Armageddon and a multi-trillion dollar bailout under duress.

As Trumpolini says, the US Taxpayer is 'the piggy bank' that is going to be robbed.  But it may not be at the hands of foreign mercantilists, but by domestic predators, wrapping themselves in the Constitution and the flag.

Or perhaps Michael Greenberger and Brooksley Born are just alarmists that don't really understand modern finance.

But maybe, just maybe, the Fed and the regulators are conveniently asleep at the switch, again.  And we are going to be forced to go through that whole, horrible episode of hidden leverage and multi-tiered frauds for the great benefit of a very few and their enablers in the professions and the government again.

Do they really know?  Are the people charged with protecting the public sure?  Will we even care until its too late?  Is all this fear-mongering hoopla about external threats just another misdirection, a distraction from the real crisis unfolding?  Is Trump, and his trade policy, being set up as a patsy for the next crash?

I would say that the probabilities are unacceptably high that another black swan may be coming home to roost.  And that the beneficiaries of this rotten system will do nothing to stop it, again.


Related and h/t for link to this paper:  Wall Street’s Derivatives Nightmare: New York Times Does a Shallow [CYA] Dive

JPMorgan Used Political Influence With Fed and Treasury to Create London Loss Loophole In Volcker Rule

"It is impossible to calculate the moral mischief, if I may so express it, that mental lying has produced in society. When a man has so far corrupted and prostituted the chastity of his mind as to subscribe his professional belief to things he does not believe, he has prepared himself for the commission of every other crime."

Thomas Paine

Using political influence with the Fed and the Treasury, JP Morgan overrode concerns at the SEC and CFTC to create a broad loophole in the Volcker Rule which was designed to allow them to continue risky and highly leveraged 'prop trading' in their CIO unit under the phony rationale of 'portfolio hedging.'   This is the backstory on the antics of the 'London Whale' and quite likely their rationale of 'hedging' to justify enormous and manipulative positions in other markets.

Throughout the lead up to the financial crisis, banking lobbyists used their friends at the Fed and the Treasury to suppress the warnings of regulators and undermine reforms to protect the public interest.

One of the most infamous instances was the bullying of Brooksley Born and the silencing of her warning as chairman of the CFTC by Alan Greenspan, Robert Rubin, and Larry Summers.   PBS Frontline: The Warning.

This crony capitalism is one of the reasons why the financial system collapsed, and why the markets are still so dangerously unstable, despite the determined efforts to disguise it with liquidity and lax regulation. The responsibility for this goes back to the Clinton and Bush Administrations at least.

Obama was elected with a mandate to reform, but instead packed his Administration with Wall Street figures. He has one of the worst records for pursuing financial frauds in the last twenty years.

It is time to stop apologizing for and tolerating the soft corruption that has characterized the Obama Administration's policy on the financial sector since day one. The price of giving him a pass on this failure to do his job and making excuses for him is too high.    The excuse that Romney will be worse is not acceptable.

The Banks must be restrained, and the financial system reformed, with balance restored to the economy, before there can be any sustained growth and recovery.

NY Times
JPMorgan Sought Loophole on Risky Trading
By Edward Wyatt
May 12, 2012

WASHINGTON — Soon after lawmakers finished work on the nation’s new financial regulatory law, a team of JPMorgan Chase lobbyists descended on Washington. Their goal was to obtain special breaks that would allow banks to make big bets in their portfolios, including some of the types of trading that led to the $2 billion loss now rocking the bank.

Several visits over months by the bank’s well-connected chief executive, Jamie Dimon, and his top aides were aimed at persuading regulators to create a loophole in the law, known as the Volcker Rule. The rule was designed by Congress to limit the very kind of proprietary trading that JPMorgan was seeking.

Even after the official draft of the Volcker Rule regulations was released last October, JPMorgan and other banks continued their full-court press to avoid limits.

In early February, a group of JPMorgan executives met with Federal Reserve officials and warned that anything but a loose interpretation of the trading ban would hurt the bank’s hedging activities, according to a person with knowledge of the meeting. In the past, the bank argued that it needed to hedge risk stemming from its large retail banking business, but it has also said that it supported portions of the Volcker Rule.

In the February meeting was Ina Drew, the head of JPMorgan’s chief investment office, the unit that suffered the $2 billion loss...

JPMorgan wasn’t the only large institution making a special plea, but it stood out because of Mr. Dimon’s prominence as a skilled Washington operator and because of his bank’s nearly unblemished record during the financial crisis.

“JPMorgan was the one that made the strongest arguments to allow hedging, and specifically to allow this type of portfolio hedging,” said a former Treasury official who was present during the Dodd-Frank debates.

Those efforts produced “a big enough loophole that a Mack truck could drive right through it,” Senator Carl Levin, the Michigan Democrat who co-wrote the legislation that led to the Volcker Rule, said Friday after the disclosure of the JPMorgan loss.

The loophole is known as portfolio hedging, a strategy that essentially allows banks to view an investment portfolio as a whole and take actions to offset the risks of the entire portfolio. That contrasts with the traditional definition of hedging, which matches an individual security or trading position with an inversely related investment — so when one goes up, the other goes down.

Portfolio hedging “is a license to do pretty much anything,” Mr. Levin said. He and Senator Jeff Merkley, an Oregon Democrat who worked on the law with Mr. Levin, sent a letter to regulators in February, making clear that hedging on that scale was not their intention.

“There is no statutory basis to support the proposed portfolio hedging language,” they wrote, “nor is there anything in the legislative history to suggest that it should be allowed.”

While the banks lobbied furiously, they were in some ways pushing on an open door. Officials at the Treasury Department and the Federal Reserve, the main overseer of the banks, as well as the Comptroller of the Currency, also wanted a loose set of restrictions, according to people who took part in the drafting of the Volcker Rule who spoke on the condition of anonymity because no regulatory agencies would officially talk about the rule on Friday.

The Fed and the Treasury’s views prevailed in the face of opposition from both the Securities and Exchange Commission and the Commodity Futures Trading Commission, which regulate markets and companies’ reporting of their financial positions. Both commissions and the Federal Deposit Insurance Corporation, which insures bank deposits, pushed for tighter restrictions, the people said...

Read the rest here.

A Study On Speculation in the OIl Market For Those Economists Who Have Apparently Not Seen It

Here is a study from the St. Louis Fed on Speculation in the Oil Market that indicates that speculation contributed about fifteen percent to the increase in prices in the oil market during a recent price increase.

Anyone who trades these markets and follows the real economy does not require such a study to tell them what is plainly visible to their own eyes, especially when the studies always seem to come out five years after the fact, in the manner of regulatory actions against market manipulation.

The markets have become deregulated to the point where hot money from big hands can push prices around at will, especially using large positional advantage and High Frequency Trading.    And even if traders are caught blatantly rigging the markets and painting the tape bringing in hundreds of millions in profits, they will only be chastised, make a hollow promise to do better, and endure a wristslap fine that is a very modest cost of doing business.

Granted, the larger markets cannot be moved for long against the primary trend, and the trend in oil has been higher for any number of long term fundamental reasons.    But traders feed on volatility, both up and down. And they introduce faux inefficiencies to take profits for themselves, adding no value, as a tax on the real economy.

And of course no financial engineer wants to discuss the effects of money printing on the price of real goods and services.

In the smaller commodity markets the scams can go on for longer periods of time creating more substantial damage to fundamentals of the related industry. I would love to show you the CFTC report on the effect of absurdly large positions in the silver market, but it has been sitting on that report for four years.

We have to ask ourselves, what are markets for? Are they fulfilling that function honestly and efficiently? What is the benefit of speculation and what are its limits?

Even Bernanke has seen the effects of speculation in the markets, and this from a man who ordinarily could not find a bubble with both hands as he expels it.

It is harder to get an answer to this now, because like some periods in history prior to this, the markets and the public are awash in hot money looking for an easy path to enormous returns as quickly as is possible. And that money flows through the avenues of Washington and Wall Street, and the media, and the universities and think tanks, distorting perception and public policy discussions.

And that is the danger of speculative excess, against which we have been warned time and time again.

Now the Fed will likely point to ETFs and blame investors who flocked to commodities to protect themselves from money printing. But that is only part of the story.

If you want to know who is benefiting from this, follow the profits. Look at the big trading desks who are gaming the system, and not at the small fry trying to find some investment haven in the storm of paper games.   And the reason they are so desperate is because of the reckless and irresponsible actions of the government in allowing the overturn of Glass-Steagall and the unbelievable growth in the unregulated derivatives market which even now poses a clear and present danger to the financial system.

And if you want to know who is to blame for that, skip the study, and go ask Brooksley Born.

"The increase in [oil] prices has not been driven by supply and demand." — Lord Browne, Group Chief Executive of British Petroleum (2006)

"The sharp increases and extreme volatility of oil prices have led observers to suggest that some part of the rise in prices re‡ects a speculative component arising from the activities of traders in the oil markets. " — Ben S. Bernanke (2004)


The run-up in oil prices since 2004 coincided with growing investment in commodity markets and increased price comovement among different commodities. We assess whether speculation in the oil market played a key role in driving this salient empirical pattern.

We identify oil shocks from a large dataset using a factor-augmented autoregressive (FAVAR) model. This method is motivated by the fact that the small scale VARs are not infomationally sufficient to identify the
shocks.

The main results are as follows:

i) While global demand shocks account for the largest share of oil price ‡uctuations, speculative shocks are the second most important driver.

(ii) The comovement between oil prices and the prices of other commodities is explained by global demand and speculative shocks.

(iii) The increase in oil prices over the last decade is mainly driven by the strength of global demand. However, speculation played a significant role in the oil price increase between 2004 and 2008 and its subsequent collapse.

Our results support the view that the financialization process of commodity markets explains part of the recent increase in oil prices.

Speculation in the Oil Market - St. Louis Federal Reserve, January 2012

And I have to offer a bit of an apology to Paul Krugman. As you may recall, I have taken issue with his absurdly incorrect description of the relationship between spot prices, inventories and the futures markets in the past when he stated emphatically that he saw no speculation in the oil markets.

Apparently he did see speculation and admitted it later on. He just didn't think it was a problem.

NYT
Oil speculation
By Paul Krugman
July 8, 2009

Oil speculation is back in the news. Last year I was skeptical about claims that speculation was central to the price rise, because what I considered the essential signature of a speculative price rise — physical withholding of oil from the market, in the form of high inventories — just wasn’t showing.

This time, however, oil inventories are bulging, with huge amounts held in offshore tankers as well as in conventional storage. So this time there’s no question: speculation has been driving prices up.

Now, “speculation” isn’t a synonym for “bad”. If the underlying assumptions that seem to have been driving oil markets were right — namely, that a vigorous recovery is just around the corner, and demand will shoot up soon — then it would be perfectly reasonable to accumulate oil inventories right now. But those assumptions are looking less reasonable by the day.

Anyway, the moral of this post is that the oil story this time looks very different: this time, the signature of large-scale speculation is clearly visible.

Paul Krugman saw no issue with it because he wanted to see a recovery in the economy at that time, to prove in the benefits of the financial engineering being done by the Treasury and the Fed. Alas, it was a phantom.

Hey Paul given this admission, that 'withholding' is a signature of speculation to the upside, would you consider creating 'phantom inventory' and 100:1 leverage of existing inventory to be evidence of speculation and manipulation to the downside?  And brazenly bombing quiet markets with enormous sell orders that crush price lower without even the appearance of legitimate price seeking?

If so, you may wish to talk with Bart Chilton about the silver market. That is, if you were interested in reform and not just proving some economic theory about stimulus.

Few care about genuine reform of the financial system and the markets, caught as we are in a credibility trap. But that is the only path to sustainable recovery. And therein lies a tragedy.

PBS Frontline Presents: The Warning - Roots of the Financial Crisis

It will be worth watching if we can see the role that the Fed under Alan Greenpsan played, during the Clinton Administration, to set the US on the road to financial crisis. This was done in concert with Bob Rubin, Larry Summers and Tim Geithner, representing the vested interests of the Wall Street banks.

Many of the same players that were involved in this have been brought back to Washington under the Obama Administration. This is the source of our initial disillusion with Obama as a 'reformer.' He was reforming nothing, just bringing back the crew that started the ball rolling.

Several Republicans played a key role in this sabotage of sound regulation even during the Clinton Administration, including Phil Gramm's crippling of the regulatory process. What was started under Clinton reached its fruition, if not a generalized looting, under the free market ideologues in the Bush Administration and in particular with Treasury Secretary Henry Paulson.

We have not seen it yet, but it is a story that deserves to be told. We hope that Frontline does it justice.

We hope that this is not the phase of the financial crisis when they start trotting out patsies and scapegoats to be thrown under the bus for the amusement and diversion of the crowd from the serious work before us. The US financial system needs a thorough investigation and substantial reform, not more headlines and high profile perp walks. Or we will be back at the brink most assuredly, if we are not there already. It will happen again.

PBS FRONTLINE Presents
The Warning
Tuesday, October 20, 2009, at 9 P.M. ET on PBS

The Warning (Video Preview)

"We didn't truly know the dangers of the market, because it was a dark market," says Brooksley Born, the head of an obscure federal regulatory agency -- the Commodity Futures Trading Commission (CFTC) -- who not only warned of the potential for economic meltdown in the late 1990s, but also tried to convince the country's key economic powerbrokers to take actions that could have helped avert the crisis. "They were totally opposed to it," Born says. "That puzzled me. What was it that was in this market that had to be hidden?"

In The Warning, airing Tuesday, Oct. 20, 2009, at 9 P.M. ET on PBS (check local listings), veteran FRONTLINE producer Michael Kirk (Inside the Meltdown, Breaking the Bank) unearths the hidden history of the nation's worst financial crisis since the Great Depression. At the center of it all he finds Brooksley Born, who speaks for the first time on television about her failed campaign to regulate the secretive, multitrillion-dollar derivatives market whose crash helped trigger the financial collapse in the fall of 2008.

"I didn't know Brooksley Born," says former SEC Chairman Arthur Levitt, a member of President Clinton's powerful Working Group on Financial Markets. "I was told that she was irascible, difficult, stubborn, unreasonable." Levitt explains how the other principals of the Working Group -- former Fed Chairman Alan Greenspan and former Treasury Secretary Robert Rubin -- convinced him that Born's attempt to regulate the risky derivatives market could lead to financial turmoil, a conclusion he now believes was "clearly a mistake."

Born's battle behind closed doors was epic, Kirk finds. The members of the President's Working Group vehemently opposed regulation -- especially when proposed by a Washington outsider like Born.

"I walk into Brooksley's office one day; the blood has drained from her face," says Michael Greenberger, a former top official at the CFTC who worked closely with Born. "She's hanging up the telephone; she says to me: 'That was [former Assistant Treasury Secretary] Larry Summers. He says, "You're going to cause the worst financial crisis since the end of World War II."... [He says he has] 13 bankers in his office who informed him of this. Stop, right away. No more.'"

Greenspan, Rubin and Summers ultimately prevailed on Congress to stop Born and limit future regulation of derivatives. "Born faced a formidable struggle pushing for regulation at a time when the stock market was booming," Kirk says. "Alan Greenspan was the maestro, and both parties in Washington were united in a belief that the markets would take care of themselves."

Now, with many of the same men who shut down Born in key positions in the Obama administration, The Warning reveals the complicated politics that led to this crisis and what it may say about current attempts to prevent the next one.

"It'll happen again if we don't take the appropriate steps," Born warns. "There will be significant financial downturns and disasters attributed to this regulatory gap over and over until we learn from experience..."