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Guest Post: The Global Carry Trade And The Crimes Of Patriots
Submitted by Chris Whalen of Institutional Risk Analytics
Guest Post: The Global Carry Trade And The Crimes Of Patriots
"In a government of laws, the existence of the government will be imperiled if it fails to observe the law scrupulously. Our government is the potent, the omnipotent teacher. For good or ill, it teaches the whole people by its example. If government becomes a lawbreaker it breeds contempt for law: it invites every man to become a law unto himself. It invites anarchy."
Justice Louis Brandeis
From inside cover of The Crimes of Patriots
Jonathan Kwitny
WW Norton (1987)
Our trip to Chicago last week to participate in "The International Financial Crisis" conference sponsored by the Federal Reserve Bank of Chicago and the World Bank was instructive in several ways. First and foremost, it confirmed that the US economics profession is still trying to defend the old ways and means in terms of analytical methods for bank safety and soundness.
While there were many calls for "reform" of regulation, we heard nary a suggestion that the mish-mash of quantitative methods that currently comprise the framework for assessing the safety and soundness of banks needs to be set aside and a new approach defined. Indeed, the foreign participants in the two-days of presentations seem to be far more advanced in their thinking about bank safety and soundness than their counterparts from the US.
Andrew Sheng of the China Banking Regulatory Commission, reproached us for thinking that throwing debt at a global problem of insolvency will be successful. We have created the world's largest ever carry trade, Sheng noted, and suggested that the approach of exchanging a bank solvency problem for a sovereign debt problem could effectively replicate the lost decade of Japan on an international scale. He also wondered how any nation will be able to raise interest rates when vast sums of cash (i.e. fiat paper dollars) are ready to immediately pounce on any carry trade opportunities that arise.
Charles Goodhart of the London School of Economics provided a sobering reminder about the situation facing global banks and regulators when it comes to regulatory reform: "So the outcome of current (international) efforts to re-regulate remains obscure. The most likely outcome will be a generalized introduction of a leverage ratio, adjustable at local discretion, the promulgation of some form of (internationally agreed) liquidity ratio, and a tightening of capital adequacy requirements, though whether with, or without, counter-cyclical characteristics remains to be seen."
Goodhart reminded the audience that whereas Americans still debate the merits of regulation vs. innovation, in the EU the political class has already decided the robust regulation of banks is a necessary condition for stability. He also dismissed the idea that you can separate the "utility" bank from "the casino," again suggesting that the EU view of regulation of banks is comprehensive and should be emulated by the US.
We later reminded the audience that while the EU may think they have thoroughly regulated their markets, bad acts still flourish in public sector banks! In Germany, for example, a coalition has just been elected that plans to make the Bundesbank the sole bank regulator, ensuring that the government will not need to restrict spending to deal with the banking crisis. The head of the Bundesbank has just agreed to a heinous proposal of a leverage ratio limit that will severely damage European banks and revive securitization, arbitrage-style, in a way that can only make the EU's bank capital deficit worse.
The EU also has killed any entrepreneurial activity in private banking as well. There is virtually no private capital inflows into the EU banking sector and, in many markets, private and public sector EU banks mostly are insolvent. The EU member states now are the last redoubt for entire nations when it comes to credit. One wonders how the EU will participate in the stated intention of the G-20 to raise bank capital for riskier activities when many EU banks cannot meet current capital requirements and are facing losses that are equally as large as those unrealized losses facing US banks.
We also asked the audience whether they believe, as we asked in an earlier comment ("Systemic Risk: Is it Black Swans or Market Innovations?"), whether in the current crisis we are dealing with Black Swans or a collective failure to manage risk. The vote from this collection of high powered economists and regulators was unanimous for the latter.
In our comments, we focused on the lack of an objective basis for many new securities and derivatives, and asked why it is that virtually no one in the regulatory community, even now, who is willing to call these "innovative" securities what they are, namely unsafe and unsound. If you are going to pollute the marketplace with securities that are entirely subjective and thus entirely speculative, then effective bank supervision becomes impossible.
We also suggested that regulators must come up with their own metrics for measuring bank safety and soundness and stop the discredited practice of imitating the internal systems of the banks which we are supposed to regulate! Regulation, after all, assumes that regulators are actually able to measure something objectively and use these observations to ensure that banks are operating within the law. The current Basel II framework is a bad joke in this regard and we suspect that it will be replaced with a regime that looks very much like the description by Charles Goodhart.
While the members of our panel suggested various ways to restore balance and even virtue to the regulatory process, we suggested that Washington does not need another oversight agency or more platonic guardians. Rather, we need to address the problem where it truly resides, first with the debt issuance of our profligate government and second with the accommodative monetary policy of our central bank. As one participant noted, there is no longer any distinction between fiscal and monetary policy in the US.
Though there were many insightful and interesting comments made at the two-day conference in the FRB Chicago, the one thing that we heard virtually no one say is that the current financial crisis stems from irresponsible monetary and fiscal policies. Many participants talked about the role of "global capital flows" in fueling the crisis, but none made the basic statement that having printed this money to pay for imports and fund domestic deficit spending, the US was bound to see the dollars eventually come home in the form of a credit bubble.
Since the October 1987 financial crisis, the Federal Reserve System has not denied the Street either liquidity or collateral. The objective goal of policy, it seems, has been to keep the ability of Congress to issue debt intact all the while keeping the casino part of the banking system operating at full steam regardless of the impact on inflation and, more important, investor behavior. Seen in this light, the proliferation of hedge funds and OTC securities is the natural response of investors to inflationary fiscal and monetary policies in Washington, a city where income and the proceeds of borrowing are seen as being equivalent.
Today the amount of debt and fiat money issued by the US government is threatening not only the solvency of private financial institutions and companies, but the stability of the entire global economy. Yet virtually no observers make the connection between the reality of secular inflation in the US and the bad outcomes in the financial markets, and in the global economy, where trade flows continue to shrink. Indeed, if members of Congress ever wanted a reason not to give the Fed more power as a regulator of financial institutions, they should start with an investigation of the Fed's conduct of monetary policy, not bank regulation. Just imagine how the US economy would look several decades from now were the Congress to give the Fed hegemony over bank supervision via the rubric of "systemic risk" even as the central bank continues its reckless policies with respect to monetary policy and its accommodation of US debt issuance.
Systemic risk, it seems, is not the result of bad regulatory policies, but the natural outcome of a system where income from productive economic activities is being increasingly supplemented with debt and inflation. Our political leaders say that such policies are meant to help the American people, but we've heard such empty justifications before. Call the policies of borrow and spend and print the "crimes of patriots," a powerful metaphor used by author Jonathan Kwitny to describe the bad acts of the CIA in the banking world decades ago. Since then, the money game and the role of government in our financial markets has only grown larger.
If the American people want to get the US financial system under control, then the first areas of investigation, we submit, must be fiscal and monetary policies. And if Americans do not soon get control over the habit of borrow and spend practiced by the Congress and facilitated by the Fed, then end result must be a populist backlash against Washington and incumbents in politics and the corporate world. As Congressman Ron Paul (R-TX) writes in his latest book, End the Fed: "Nothing good can come from the Federal Reserve… It's immoral, unconstitutional, impractical, promotes bad economics, and undermines liberty."
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Andy
Whats the catalyst today? Merger monday? I dont see any reason for the run-up
I will tell you what the catalyst is, we left the goy in charge of the markets for one day, and this is what they do.....
yes saw it.
for those who may be unaware, today is yom kippur, so the majority of new yorkers (i jest, sort of....) are not at their desks.
Another possible reason is for quarterend window dressing....I surmise that we may have another couple of days of these meaningless run-ups on low volume being buoyed by fund managers who are late in the game.
US Govt. end of fiscal year on the 30th?
"The ideal tyranny is that which is ignorantly self-administered by its victims. The most perfect slaves are, therefore, those which blissfully and unawaredly enslave themselves."
Dresden James
Just say "No" to incumbents.
Anyone in Congress who voted for TARP can be hounded into oblivion when he or she hits the stump again. An organized electorate can crash every fundraiser and every speech and every rubber chicken dog and pony show and demand an answer as to why the incumbent voted to give Goldman Sachs $56.7 billion in bailout funds so that the firm could pay all time record bonuses.
Be relentless. Don't let any of them change the subject.
Begin to organize right now. By the time these clowns hit the campaign circuit, they'll have nowhere to hide.
absolutely....
and it wouldn't hurt my feelings any to see those
crooks lynched....followed by burning...
well spoken article....without restraints a people will demolish themselves...americans have voted themselves a heard of elephant programs over the past 80 years and are finding that mouse food is not enough to keep them fed....
or the amoeba analogy of programs starting small but growing two to the nth power they eat you out of house and home.....stupid people....
all of this because the usd is the world's reserve currency and because there is no restraint on monetary policy - i.e. gold....
when you grow credit larger than the ability to service it and pay it back, you are going to create a huge crater into which a lot folks will fall...
leaving reform to the people who casued the problems is not reform...
To Tyler and ZH staff: We cannot tell you enough how so many of us in the investment community compliment your insight and discussion into matters such as the above. A tip of a hat to you. Keep up the great work and thank you... Like you, many of us are equally concerned and troubled by the country's current affairs.
No insult intended towards ZH but many of the subjects ZH has brought to light are/were highlighted elsewhere, either before or concurrent to ZH.
The genius of ZH is the format stressing anonymity, which allows the message to get across rather than the personality, thus making who wrote the piece a non-issue, at least to the truth.
When other named blogs speak about these subjects, they are clobbered and dismissed and the subject is rendered impotent. This is the classic art of dis-information and cointelpro. Kill the messenger which mutes the message.
Not on ZH.
Plus, it appears there is a well organized group of people who use the name Tyler Durden, thus ensuring a steady drum beat of "breaking news" which is something no one person can maintain for any length of time.
Just when the attackers think they see an opening, ZH comes back with a right cross and an upper cut.
Bravo ZH and Tyler!
Whalen,
It's all about SDRs and the globalist agenda. Nothing else matters. The Fed knows exactly where it is taking us. What some might see as criminal negligence I understand to be the murder of a nation.
The Fed exists to keep people taxed to death, through debt.
I think once that sinks in to someone, they begin to see things a lot more clearly (instead of trying to figure out just how in the **** these officals can keep doing such destructive things over and over).
WOW! Well said!
An incredible article by Whalen, providing The Powers That Don’t Be (me and thee), a seat at the conference table so to speak.
Ron Paul’s book,“End the Fed,” is quoted as identifying the Fed as….”immoral, unconstitutional, impractical, promotes bad economics, and undermines liberty." To that we would respectifully add that it’s totally secret, one hundred percent private with absolutely no public access to the truth of any of its transactions, and it is a continuous source of misleading information designed to protect the banking cartel’s privacy and market manipulation.
As Whalen says, “Indeed, if members of Congress ever wanted a reason not to give the Fed more power as a regulator of financial institutions, they should start with an investigation of the Fed's conduct of monetary policy, not bank regulation.”
Its always struck me as odd that multi-billion dollar decisions, oops, multi trillion dollar decisions can be made by academics and politicians with the very little knowledge that is always a dangerous thing. Given that these guys have as much chance of making the right call as a dumster divers, why aren't they graded according to what they have done in the past that has actually achieved an objective? I guess that would require measurable objective setting and transparency. Anyway..back to my watching the four horseman riding the transition to the "proper" normal..in case you guys didn't see them, they are
1. There is no longer a time value of money (beggaring the next generation)
2. Risk no longer expects a return (misallocating resources so the next generation can't make money)
3. Markets now are emotional (scream and bawl about losses or crow about profits and the market will reward you)
4. Markets now have memory (what worked last, will work next - that is of course til it doesnt work!)
I think I will call the horse zero, sum, gain and forever!
horses..my bad, the four horses of the apoxonlips!
Ah. You have found the soul of the horses while others see only the form and heart of them.
..vast sums of cash (i.e. fiat paper dollars) are ready to immediately pounce on any carry trade opportunities that arise.
Brazil 8.75%
India 4.75%
Turkey 7.25
http://www.fxstreet.com/fundamental/interest-rates-table/
Adam Smith, "Wealth of Nations"
"The balance of produce and consumption may be constantly in favor of a nation, though what is called the balance of trade be generally against it. A nation may import a greater value than it exports for half a century, perhaps, together; the gold and silver which comes into it during this time may be all immediately sent out of it; its circulating coin may gradually decay, different sorts of paper money being substituted in its place, and even the debts too which it contracts in the principal nations with whom it deals, may be gradually increasing; and yet its real wealth, the exchangeable value of the annual produce of its lands and labour, may, during the same period, have been increasing in a much greater proportion."
Y + T = C + I + G + NX
Y + T is the gross domestic production (national income plus taxes), C is
private domestic consumption, I is private domestic investment, G is government
expenditures and NX is net exports (exports - imports)
First substract T from both sides
Y = C + I + (G - T) + NX
or
Y = C + I + DEF + NX
with DEF the government deficit. Then substract C from both sides
Y - C = I + DEF + NX
Y-C is national saving (S):
S = I + DEF + NX
Rearrange to get the identity
(S - I) + SURP - NX = 0
S-I is the PDFB (net saving by the private sector), SURP (government surplus, or
net saving by the government) is GFB and -NX is the RWFB (the net saving of the
rest of the world):
PDFB + GFB + RWFB = 0
As RWFB = 0 in the global economy
PDFB = -GFB or
Private Sector Savings = Government Deficit
If there is any part of this algebra you do not understand please let us know.
"As RWFB = 0 in the global economy"
There can be no savings in a global economy?
How do derivatives factor into this?
(notional derivatives)/(world's GDP) ~=10-20
Sorry was unclear.
RWFB means "rest of the world fiscal balance". If we are talking about a global economy, there is no outside, or "rest of the world" of the system for these savings or deficit.
On your question of the derivatives, leverage is another level on top of this equation. This is a proprietary analysis that I do so can't share it.
From the aurthor;
"If the American people want to get the US financial system under control, then the first areas of investigation, we submit, must be fiscal and monetary policies. And if Americans do not soon get control over the habit of borrow and spend practiced by the Congress and facilitated by the Fed, then end result must be a populist backlash against Washington and incumbents in politics and the corporate world."
I would submit to the author that the American people are not the problem. The political and financial elite have created the problems we have in the US. The elites are US citizens, but not patroits. They are not our leaders, they are not our protectors, and they are not our friends.
Their actions over the past 30 years reveal their true intentions. They have violated the peoples trust, and impoverished a once great nation.
Government wastes tax revenue fighting needless wars, while our homeless starve and die. Their policies gladly outsource jobs to foriegn lands, and talk about jobless recoveries.
The american people want justice, and the politicians do not even read the legislation before them. Are they motivated by greed, or just ignorant. Is not the oath they take plain in its meaning and importance.
So I say, no, you do not understand us. More than ever since the revolutionary war, the people are not the Government.