All You Really Need to Know About Credit Based Expansion

The following lines from Bill Black's prepared testimony to the House Financial Services Committee really are all you need to know. Lifted from Tim Iacono's site:

Lehman’s principal source of (fictional) income and real losses was making (and selling) what the trade accurately called “liar’s loans” through its subsidiary, Aurora … The FBI began warning publicly about the epidemic of mortgage fraud in 2004 (CNN).
…
That loss, however, may not be recognized for many years – particularly if the liar’s loans become so large that they help hyper-inflate a financial bubble. In the near-term, making massive amounts of liar’s losses loans creates a mathematical guarantee of producing record (albeit fictional) accounting income. As long as the bubble inflates, the liar’s loans can be refinanced – creating additional fictional income and delaying (but increasing) the eventual loss. The industry saying for this during the S&L debacle was: “a rolling loan gathers no loss.”

"Young fool, only now, at the end, do you understand!" - Darth Sidious to Luke Skywalker

Extend and Pretend is option one, and it still is.

Jesse has the video embedded here.

Have a good night.

"Pretend and Extend", Meet Brick Wall

I have had the last two Monday's off from work so today reminded me that Monday's are not really fun at all. It was a bit warm here today but that was just a tease as 4 days of rain, ice, and snow are on tap this week.

Is This a Defense?
Senator John McCain was quoted to have said that he was misled on the details of the TARP plan:

In response to criticism from opponents seeking to defeat him in the Aug. 24 Republican primary, the four-term senator says he was misled by then-Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke. McCain said the pair assured him that the $700 billion Troubled Asset Relief Program would focus on what was seen as the cause of the financial crisis, the housing meltdown.
"Obviously, that didn't happen," McCain said in a meeting Thursday with The Republic's Editorial Board, recounting his decision-making during the critical initial days of the fiscal crisis. "They decided to stabilize the Wall Street institutions, bail out (insurance giant) AIG, bail out Chrysler, bail out General Motors. . . . What they figured was that if they stabilized Wall Street - I guess it was trickle-down economics - that therefore Main Street would be fine."

The TARP was indeed a bait and switch, but is this McCain' defense? If he was misled (among others I imagine) then where is the corrective action? Why have the makers of TARP not been held to account? How is it that banking bailouts are still going on? This defense is an easy way to say "It's not my fault!" but I think it falls flat. The lack of action on the part of McCain and others speaks to the point that if they felt misled they certainly seem to be ok with that judging by their actions since that time.

"Pretend and Extend", Meet Brick Wall
It has long been a central belief of mine that "Pretend and Extend" was policy choice number one for the US government. It has worked well for some past events; the 1987 market crash and the fall of Long Term Capital Management (LTCM). I think the idea was that a temporary dislocation could be waited out and things would turn back to normal. I think this plan was based largely on those two examples but both are poor models for the current credit debacle. This has serious implications going forward.

In the case of the 1987 market crash and the collapse of LTCM the underlying pressures were indeed of the short lived variety. No need to rehash all the details; the point is that buying time was a viable (process wise anyway) way to side step a larger mess gaining steam. In both cases things cleared up quickly.

The current crisis has deep roots and had refused to even make any headway back towards nirvana, never mind a complete recovery. After two long years it should be clear that the "Extend" part of the plan will have become quite a bit longer than many had thought at the onset. In this way the repeated application of this national policy is both destructive and useless.

Case in point; US States themselves have played "Extend and Pretend" (E&P) in regards to public finances for some time. Add to this the looming funding shortfalls on public worker pensions and tax revenue that has remained stubbornly low (no jobs = no taxes) and how long any state can continue the show is now hitting a brick wall. Just one example of many that can be used was over at Mish's site today:

'Doomsday is here for the state of Illinois'
It will take a massive tax increase -- and $2 billion more in cuts -- to reach solvency, group says

Mish post can be seen here.
Key take away point from the Suntimes piece:

To become solvent, the state must enact the largest tax-increase package in Illinois history, whack another $2 billion from already starved government programs and wrest major financial concessions from the state's unionized work force, a nonpartisan government watchdog contends.

Yeah, good luck with that.

Illinois, California, you name the state and there is a good chance they are in trouble. The US Government will be hard pressed not to join in and help either by direct assistance or some kind of municipal bond backstop, but neither effort gets to the root of the problem which remains too much spending and no fiscal discipline. The states can extend their run at appearing solvent, but no real progress can be made this way.

More banging heads against walls? No problem!

In what can only be described as lunacy, the government refuses to face reality and instead continues to pretend that home mortgages can be modified for "owners" that cannot afford their home. Newest HAMP story line (via Calculated Risk):
WSJ: Treasury Considering Appeal Process for HAMP
Boils down to another 30 day extension period. CR notes:

Probably the main impact of HAMP has been to keep the supply of distressed properties down by delaying the inevitable. In most cases, this would just be another delay ...

Consider the 3 main reasons a home mortgage cannot be modified:
-Incomplete or missing documentation
-Owner cannot meet income requirements
-Mortgage too far underwater to qualify
Which of these 3 items will change in 30 days? 60 days? Maybe one could locate the needed paperwork with an extension but the culprit is more so missing paperwork because the borrower cannot furnish the information due to a variety of reasons and I think prior fraud is one such reason.

Again, yet another E&P game done for show and in the hope that a miracle turn around occurs, like soon. I would add this program, and all housing support programs, are slaps in the face to borrowers that are paying their notes on time and in full sometimes at great hardship to themselves. The animosity this must be generating in neighborhoods is hard to quantify.

At what point will those running this game start to understand that a Plan B is needed? I know that Tim Giethner thinks no Plan B is needed, but I tend to not think the way he does. I think it fair to the US taxpayer to at least get a time frame or general idea as to how long and how far the government will go to delay recognition of these structural issues. Seeing that is has not been working that discussion needs to happen soon.

Have a good night.

Pretend and Just Forget the Extend

Plenty of news out there. I thought the year end was supposed to be quiet? First real snow storm here today and it was so much fun shoveling and clearing the roof ledges.

People Ask Me Why I am Dizzy, and I tell Them It's Because I Cannot Stop Spinning Around
I love it when you get two items that are about the very same thing yet are polar opposites. Consider:
BofA Prices $460M CMBS Issue
HousingWire recounts BAC's sale of CMBS (only the years 2nd!) with no government support. At $460 million, not too bad. And it's in Florida which is amazing.

or try

Deal That Was Supposed To Mark Renaissance Of New York Commercial Real Estate Market Collapses
Zero Hedge covers the failure of a major New York Commercial deal.

So which way is up? Who really cares. I know CMBS cannot be good right now, I can see with my own eyes all the empty commercial property up here, but as it does not matter anymore to anyone so flip a coin.

More on the Jobs Numbers
Now that TARP will be redeployed (forever?) as a jobs program cash cow, try and remember how much all the incentive programs cost. Cash for Clunkers was a terrible waste, and the home buyer tax credit is another loser. Ilargi, of The Automatic Earth, pens this thought on the jobs spending thus far and going forward:

If we would look at more realistic job numbers, we see for example that the Economic Policy Institute puts the total number of under- and unemployed, marginally attached and involuntary part-time workers at 26.9 million. If we follow John Williams' SGS data, which include even more workers the government prefers not to count, we see that 22% of the non-institutionalized working-age population, some 33.9 million people, cannot find a job, or at least not a satisfactory one.

And, to take this one step further, if we assume that $700 billion of the original stimulus plan was intended for job creation, and the goal was 3.5 million jobs, we may also assume that it takes $200,000 to create one job. So in Obama's idea to use TARP funds for the purpose now, it would take $70 billion to make 350,000 jobs, and $150 billion to make 750,000. Creating satisfactory jobs for everybody on John Williams’ SGS list would cost $6.78 trillion.

I actually wish Ilargi had not thrown out that $6.8 Trillion number as I think Paul Krugman will argue that kind of spending is just what we need.

If You Lie Down with Dogs You Get Fleas as Well as Hair All Over Your Black Clothing
The very first question Ben Bernanke, Tim Geithner, or any official that matters should be made to answer in no uncertain terms is why the same kind of reckless lending and speculative behavior is happening again while they watch. What do I mean? Housing Doom has the goods:
Flippers Going Wild Again
Check it out.

More on Mortgage Rate Suppression
An anonymous commenter noted that Calculated Risk had another item up tonight about mortgage rates. CR adjusts his position slightly here:
Expected Mortgage Rates
CR moves from a firm "minor" effect of 30-35bps to a target range of 30-50 bps as of now.

I covered this in detail here.

My own call is for a move up in the 100-200bps range minimum. This assumes of course that the FED actually stops buying MBS in the spring. This also assumes the MBS suppliers/buyers really take such a stop seriously. They may well know that any trouble will be supported by renewed FED MBS buying so the move up may not materialize. I meant in a real world scenario, which clearly we are not in.

Pretend and Just Forget the Extend
While almost everything I covered so far can appear under this banner, I split things up because I like to do that.

I will now present the easiest financial call of all time:
Administration extends $700B bailout until Oct.
TARP will never die! Available money has a way of staying available in Washington, so this should be no surprise.

Just as a quick recap, here is the Wiki entry for TARP and it's initial mandate:

TARP allows the United States Department of the Treasury to purchase or insure up to $700 billion of "troubled" assets. "Troubled assets" are defined as "(A) residential or commercial mortgages and any securities, obligations, or other instruments that are based on or related to such mortgages, that in each case was originated or issued on or before March 14, 2008, the purchase of which the Secretary determines promotes financial market stability; and (B) any other financial instrument that the Secretary, after consultation with the Chairman of the Board of Governors of the Federal Reserve System, determines the purchase of which is necessary to promote financial market stability, but only upon transmittal of such determination, in writing, to the appropriate committees of Congress."[1]

In short, this allows the Treasury to purchase illiquid, difficult-to-value assets from banks and other financial institutions. The targeted assets can be collateralized debt obligations, which were sold in a booming market until 2007 when they were hit by widespread foreclosures on the underlying loans. TARP is intended to improve the liquidity of these assets by purchasing them using secondary market mechanisms, thus allowing participating institutions to stabilize their balance sheets and avoid further losses.

Of course TARP became an AIG crutch, an automaker bailout fund, and well whatever else anyone felt like. Here is the free roll:

On December 19, 2008, President Bush used his executive authority to declare that TARP funds may be spent on any program he personally deems necessary to avert the financial crisis. This has allowed President Bush to extend the use of TARP funds to support the auto industry, a move supported by the United Auto Workers.

And by "He" i really do not think the president had much input on what or how TARP would be used. He was too dumb for that, remember?

Just like in The Usual Suspects, we need an all star line up for the best of pretend. In no particular order:
-Pretend banks are solvent
-Pretend home prices do not need to fall another 30% (in most areas) to become affordable
-Pretend jobs are not really needed in this new economy
-Pretend you can create said unneeded jobs anyway
-Pretend support will be withdrawn "in a timely manner" so that you can...
-..Pretend the US is not behaving like a third world banana republic as it relates to spending
-Pretend commercial real estate is no big deal
-Pretend that Dubai is no big deal
-Pretend that Greece/Spain/Ukraine are just like Iceland; not meaningful
-Pretend California is meeting budgets without US Federal support via "other" mechanisms

I could go on, and you should add to this in the comments.

Have a good night.