Bank of New York

There was a time when getting a stable, lucrative financial job meant working for a hedge fund, preferably in the risk department. It still does: the biggest and most profitable hedge fund of all - the Federal Reserve - as well as its various adjunct "all P no L" offices, and judging by the spike in recent job wanted posting by said hedge fund et al, things are looking up for those who want to manage taxpayer funded "risk." For the job seekers our there disillusioned with a 2 and 20 model that no longer works in the new central planning normal, get involved. As for why the Fed would suddenly be fascinated with risk now, after its DV01 is well over $2 billion, we have no ready answers.

Traditional legal principles are seemingly pretty clear and straightforward on how a good faith acquisition of stolen goods is to be treated: the buyer, even though he is not criminally liable, can not acquire title to stolen property. The failed futures brokerage Sentinel Management Group lost the money of its clients in when it went into bankruptcy in 2007. According to the SEC, the firm misappropriated the funds belonging to its clients. Since then, creditors of the company have been fighting over who has title to certain assets. On the one side are the customers of Sentinel, whose funds and accounts were supposed to have been segregated from the company's assets. On the other side there is New York Mellon Bank, which lent Sentinel $312 million that were secured with collateral mainly consisting of said – allegedly 'segregated' – customer funds. The result: 'Banks that received what were essentially misappropriated goods as collateral do not have to return them to their original owners as long as they are deemed to have acted in good faith'. Legal questions aside, one thing is already certain: customers of futures brokerages can no longer have faith that their assets are in any way segregated or protected. This is yet another chink in the 'confidence armor' that has propped up the financial system to date.

Structural problems in state and local budgets were exacerbated by the recession and are likely to further restrain the sector’s growth for years to come. As the NY Fed notes, the last couple of years have witnessed threatened or actual defaults in a diversity of places, ranging from Jefferson County, Alabama, to Harrisburg, Pennsylvania, to Stockton, California. But do these events point to a wave of future defaults by municipal borrowers? History - at least the history that most of us know - would seem to say no. But the municipal bond market is complex and defaults happen much more frequently than most casual observers are aware. As the NY Fed points out "the untold story of municipal bonds is that default frequencies are far greater than reported by the major rating agencies" but, until recently, investors could take some comfort from the fact that many municipal bonds - both rated and unrated - carried insurance that paid investors in the event of a default. But now that bond insurers have lost their AAA ratings, they no longer play a significant role in the municipal bond market, increasing the risks associated with certain classes and certain issuers of municipal debt.

While endless jawboning and threats of more free (and even paid for those close to the discount window) money can do miracles for markets, if only for a day or two, by spooking every new incremental layer of shorts into covering, there is one problem with this strategy: the "flow" pathway is about to run out of purchasing power. Recall that Goldman finally admitted that when it comes to monetary policy, it really is all about the flow, just as we have been claiming for years. What does this mean - simple: the Fed needs to constantly infuse the financial system with new, unsterilized reserves in order to provide bank traders with the dry powder needed to ramp risk higher. Logically, this makes intuitive sense: if talking the market up was all that was needed, Ben would simply say he would like to see the Dow at 36,000 and leave it at that. That's great, but unless the Fed is the one doing the actual buying, those who wish to take advantage of the Fed's jawboning need to have access to reserves, which via Shadow banking conduits, i.e., repos, can be converted to fungible cash, which can then be used to ramp up ES, SPY and other risk aggregates (just like JPM was doing by selling IG9 and becoming the market in that axe). As it turns out, today we may have just hit the limit on how much banks can do without an actual injection of new reserves by the Fed. Read: a new unsterilized QE program.

Just when you thought the Li(e)bor scandal had jumped the shark, Germany's Spiegel brings it back front-and-center with a detailed and critical insight into the 'organized fraud' and emergence of the cartel of 'bottom of the food chain' money market traders. "The trick is that you can't do it alone" one of the 'chosen' pointed out, but regulators have noiw spoken "mechanisms are now taking effect that I only knew of from mafia films." RICO anyone? "This is a real zinger," says an insider. In the past, bank manager lapses resulted from their stupidity for having bought securities without understanding them. "Now that was bad enough. But manipulating a market rate is criminal." A portion of the industry, adds the insider, apparently doesn't realize that the writing is on the wall.

Those who Benefited from Wall Street Fraud Must be Prosecuted … Including Rogue Government Officials who Aided and Abetted the Crimes

Independent from Congress … or from the American People?

• Greece now in "Great Depression", PM says (Reuters)
• Geithner "Washington must act to avoid damaging economy" (Reuters)
• Moody’s warns eurozone core (FT)
• Germany Pushes Back After Moody’s Lowers Rating Outlook (Bloomberg)
• Austria's Fekter says Greek euro exit not discussed (Reuters)
• In Greek crisis, lessons in a shrimp farm's travails (Reuters)
• Fed's Raskin: No government backstop for banks that do prop trading (Reuters)
• Campbell Chases Millennials With Lentils Madras Curry (Bloomberg)

Too Big Leads To Destruction of the Rule of Law

Two years ago, in January 2010, Zero Hedge wrote "This Is The Government: Your Legal Right To Redeem Your Money Market Account Has Been Denied" which became one of our most read stories of the year. The reason? Perhaps something to do with an implicit attempt at capital controls by the government on one of the primary forms of cash aggregation available: $2.7 trillion in US money market funds. The proximal catalyst back then were new proposed regulations seeking to pull one of these three core pillars (these being no volatility, instantaneous liquidity, and redeemability) from the foundation of the entire money market industry, by changing the primary assumptions of the key Money Market Rule 2a-7. A key proposal would give money market fund managers the option to "suspend redemptions to allow for the orderly liquidation of fund assets." In other words: an attempt to prevent money market runs (the same thing that crushed Lehman when the Reserve Fund broke the buck). This idea, which previously had been implicitly backed by the all important Group of 30 which is basically the shadow central planners of the world (don't believe us? check out the roster of current members), did not get too far, and was quickly forgotten. Until today, when the New York Fed decided to bring it back from the dead by publishing "The Minimum Balance At Risk: A Proposal to Mitigate the Systemic Risks Posed by Money Market FUnds". Now it is well known that any attempt to prevent a bank runs achieves nothing but merely accelerating just that (as Europe recently learned). But this coming from central planners - who never can accurately predict a rational response - is not surprising. What is surprising is that this proposal is reincarnated now. The question becomes: why now? What does the Fed know about market liquidity conditions that it does not want to share, and more importantly, is the Fed seeing a rapid deterioration in liquidity conditions in the future, that may and/or will prompt retail investors to pull their money in another Lehman-like bank run repeat?

Stunned at the sheer ineptness and lack of due diligence in the Libor-rigging details that are being uncovered specific to Geithner's Treasury and Bernanke's Fed, CNBC's Rick Santelli reflects on just how unbelievable TARP was in this context. "Hurry up, let's spend three quarters of a trillion dollars; how much due diligence did they do for our role as taxpayers in basically bailing out the banking system? Obviously zero!" and this as they knew these very-same banks were manipulating rates. Opining on the un-Americanism of jet-skis and outsourcing, Rick states unequivocally "what's un-American is we now have the Federal Reserve Bank of New York and Treasury taking heightened importance in regulating us in the future through Dodd/Frank. Shame on their legislation!" Meanwhile, those very same un-American Treasury staff (who we are supposed to trust with the future of our banking system and implicitly the economy we pre-suppose) have just been caught soliciting prostitutes and breaking conflict-of-interest rules.

The market's hopes and dreams for the next LSAP remain high. As gold inches higher, tail-risks priced out (expectations for extreme FX moves are considerably lower than sentiment would suggest), and US equity vol expectations (and put skews) are crushed; the equity market clearly remains 'at a premium' in its notional indices given what is sheer lunacy in earnings expectations going forward. The question every investor should be asking is not when QE or even if QE, but so-what-QE? As Credit Suisse notes, given the deterioration in US economic activity (and the extension of Operation Twist) the FOMC will probably wait until its September meeting (and remember the trigger for further pure QE is a long way off for now). The most critical question remains, will additional QE work? After all, few would argue that US interest rates are too high or that banks in the US need still more excess reserves. Two things stand out in their analysis of how QE is supposed to work (transmission mechanisms) and its results to date: QE1 was more effective than QE2, and it's easier to find QE's effect on Treasury yields than on real economic performance. Perhaps more concerning is that the potential negative effects of such unconventional monetary policy has received little attention (aside from at fringe blogs here and here).

In a few moments we will post a critical analysis by David Korowicz, titled Trade-Off: Financial System Supply-Chain Cross- Contagion: a study in global systemic collapse, arguably one of the best big picture overviews of the New Normal in systemic complexity, which considers the "relationship between a global systemic banking, monetary and solvency crisis and its implications for the real-time flow of goods and services in the globalised economy" and specifically looks at how various "what if" scenarios can propagate through a Just In Time world in which virtually everything is connected, and in which even a modest breakdown in one daisy-chain can lead to uncontrolled systemic collapse via the trade pathways more than ever reliant on solvency, sound money and bank intermediation.To wit: "For example, when the Federal Reserve Bank of New York commissioned a study of the structure of the inter-bank payment flows within the US Fedwire system they found remarkable levels of concentration. Looking at 7,000 transfers between 5,000 banks on an average day, they found 75% of payment flows involved less than 0.1% of the banks and 0.3% of linkages."

The Fed has released the first of its Lieborgate treasure trove: "Attached are materials related to the actions of the Federal Reserve Bank of New York (“New York Fed”) in connection with the Barclays-LIBOR matter.  These include documents requested by Chairman Neugebauer of the U.S. House of Representatives, Committee on Financial Services, Subcommittee on Oversight and Investigations. Chairman Neugebauer requested all transcripts that relate to communications with Barclays regarding the setting of interbank offered rates from August 2007 to November 2009. Please note that the transcript of conversations between the New York Fed and Barclays was provided by Barclays pursuant to recent regulatory actions, and the New York Fed cannot attest to the accuracy of these records. The packet also includes additional materials that document our efforts in 2008 to highlight problems with LIBOR and press for reform. We will continue to review our records and actions and will provide updated information as warranted."

• If Hilsenrath leaks a Fed party line and nobody cares, does Hilsenrath exist? Fed Weighs More Stimulus (WSJ)
• Clock Is Ticking on Crisis Charges (WSJ)
• South Korea in first rate cut since 2009 (FT)
• Shake-Up at New York Fed Is Said to Cloud View of Risk at JPMorgan (NYT)
• Italy stats office threatens to stop issuing data (Reuters)... because Italy is "out of money"
• China New Yuan Loans Top Forecasts; Forex Reserves Decline (Bloomberg).. and here are Chinese gold imports
• Italy Faces 'War' in Economic Revamp, Monti Warns (WSJ)... says Mario Monti from Sun Valley, cause Italy is "out of money"
• NY Fed to release Libor documents Friday (Reuters)
• U.S. House Again Votes to Repeal Obama’s Health Care Law (Bloomberg)
• Germany May Turn to Labor Programs as Crisis Worsens, Union Says (Bloomberg)
• Ireland to unveil stimulus package (FT)