Leftovers -- Radio Show 2/27/2010

Tyler Cowan and Felix Salmon both commented on Gary Gorton's new paper, "Questions and Answers about the Financial Crisis", with regard to the use of repos creating fragilities in the banking system.  Banks no longer just use deposits as funding sources.  The use of repos as funding sources creates a systemic risk, because the bond market depends on the denial of risk and when risk becomes questioned, the bond market comes to a grinding halt.  We should not try to guarantee repos as we guarantee deposits, but all systemic risks should be regulated and decisions made on how commercial banks function and investment/trading banks function.

China's banking regulator told commercial banks to restrict new lending to local governments and stop lending to those projects backed only by expected fiscal revenues.

China has performed some stress tests of potential yuan appreciation.  The tests which concentrated on the textile, shoe, garment, and toy exporters found that every percentage point of yuan appreciation would erode one percentage point of their profit.

While derivatives traders are still betting the euro will continue to slump, any speculation that the euro is doomed or will fade away is misplaced.  It is here to stay, although the EMU needs to restructure its trade and monetary policies, as well as how it applies the Stability and Growth Pact.

The Greek central bank governor said the Greek balance of payments gap is unsustainable.  As we have been saying, a crucial part of the current problem is the fixed trade exchange rates between the Eurozone countries, which create competitiveness gaps.  The Greek central bank governor said, "The balance of payments deficit is not sustainable. A policy mix which will bring back the macroeconomic and microeconomic imbalance and improve the economy's competitiveness and productivity is needed to restore sustainability."

The economist, Carlo Bastasin, has written that the IMF cannot help Greece, because it is less able to address the problem of restoring equilibrium  in the current account balances within the Eurozone.  The Greek fiscal deficit and the loss of competitiveness are connected, because a current account deficit (imports over exports) will make it more difficult for the Greek government to raise taxes to cover the public deficit.  "...If Greece's growth prospects are more limited, its existing debt burden is more onerous."  To avoid this, the domestic demand of Greece's trade partners needs to increase.  "In other words, the Greek problem is the mirror image of the 'hidden' German problem", which needs to increase domestic demand and lower labor costs.  You cannot solve the Greek imbalances without correcting the German imbalances.

The role of large banks and hedge funds in threatening the survival of Greece and the value of the euro in order to make short term derivative trading profits is drawing the attention of other European countries and there is a growing consensus that regulatory action may be necessary as the credit default swaps are increasing systemic risk. 

The ECB refuses to release information as to how many Greek bonds are on its balance sheet as the results of its repo operations.  It is speculated that many of the Greek bonds, of which there are approximately 270 billion euro total, which were held by European banks are now in the possession of the ECB and 37 billion held by Greek banks.

After the EU commission visit, the Greek prime minister said that the worst fears of the Greek economy had been confirmed and the Greece would miss its deficit reduction efforts if it did not carry out more spending cuts which have already sparked demonstrations.  The EU commission indicated that Greece may be able to cut its deficit by 2% rather than the 4% goal. There is increased antipathy between Germany and Greece, which will hinder Greece's ability to obtain EU support for its deficit reduction program.

Portugal has said it is under no pressure to speed up bond sales as 20% of its financing needs have been met for the year.  Portuguese bonds are the worst performing in the region.

The Bank of Spain is considering raising the minimum amount banks must hold in provisions of potential losses in property assets.  Many experts believe Spanish banks will face a new housing crisis in the coming months.  They may have to absorb between 100,000 and 150,000 homes immersed in foreclosure cases.

The Irish government is being forced by the EU to take a 15.7% stake in the Bank of Ireland PLC in lieu of a 250 million euro cash dividend due the government despite the need to contain government deficits.  The government holds 25% preference shares in both the Bank of Ireland PLC and Allied Irish Banks.

Italy has the second largest debt and is considered to the economy of the Eurozone according to the economist Robert Mundell, who won the Nobel prize in 1999 for research which lead to the creation of the euro.  Italy's economy contracted .2% in Q4 and risks falling back into recession.  It has 1.8 trillion euro in debt, which is five times that of Greece and one-quarter of the Eurozone debt.

US Treasury auctions: 
30 year TIPS, $8 billion, yield 2.229%, bid-to-cover 3.33, foreign 42.4%, direct 15.1 in what was seen as a weak, soft demand.
2 year Treasury, $44 billion, yield .895%, bid-to-cover 3.33, foreign 53.6% (high) and 100% filled, direct 8.2%.
5 year Treasury, $42 billion, yield 2.395, bid-to-cover 2.75, foreign 40.3%, direct 12.8%.
7 year Treasury, $32 billion, yield 3.078%, bid-to-cover 2.98%, foreign 40.3%, direct 17.2%.



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Argentina, Oh, Argentina: Playing With Fire

While the world watches Greece, Argentina is burning.  Because both countries have debt problems and endemic private and public corruption, some commentators have tried to draw parallels between the two.  In fact they are two very different situations.  In 2002, Argentina defaulted on $95 billion of debt internationally.  Greece is not in jeopardy of default and will not default.  While both countries are still emerging from dictatorship, the level of private (including tax evasion), public, and political corruption is far more invasive in Argentina with its peronista culture.  While Greece has a competitiveness problem within the Eurozone as the result of fixed trade exchange rates, the euro is not a pegged currency.  The Argentine peso maintained a fixed peg with the US dollar for 11 years until 2002 which increased its dependence on US dollars and foreign debt leading to the 2002 default.  Beginning in 2002 with the rescinding of the currency peg, inflation broke out and has continued to the present as a virtual way of life and may approach 20% this year.

In 2001, de la Rua resigned the presidency and Duhalde, an economically center left Peronist, became interim president with unemployment at 25% and capital fleeing the country.  Despite intense social protests, the country used the currency devaluation to re-industrialize, increase internal demand and exports leading to fiscal and trade surpluses.  In 2003, Kirchner, a social democratic Peronist, was elected president and Argentina paid off its IMF loans, restructured its defaulted debt at a 66% discount, renegotiated utility contracts, began nationalizing privatized businesses, applied price controls, and engaged in a sweeping public works investment program.  Kirchner's approach to inflation was to remove those in charge of studying and issuing inflation statistics with his own people; consequently, "official" inflation statistics are less than one-half of reality.  In 2007, Kirchner "stepped" aside to let his wife run and be elected president and she has continued his policies, which aggravate and continue the inflation.  In 2009, the Kirchner's political party lost control of the Argentine Senate, which is leading to a potential political confrontation.  The emergence of major bribery and corruption scandals from Nestor Kirchner's administration are continuing and will not die away.

In 2008, Fernandez de Kirchner had a law passed allowing the government to seize all private pension funds allowing the government to invest the pension funds in government bonds, which were used to make international debt payments.  If Argentina is going to be able to borrow internationally, it must continue to repay its re-structured default debt.  Despite the Argentine central bank being a political extension of the government, Fernandez de Kirchner fired its president Redrado, when he refused to transfer central bank foreign currency reserves to the Treasury, and replaced him with a political ally, Mercedes Marco del Pont, who will guide the central bank consistent with the economic policies of the government and who transferred $4.2 billion to the Treasury without the necessary legislative approval.  These foreign currency reserves will be used to pay international debt.

The transportation monopolies, which accept only coins, are so corrupt that the country as a whole has a shortage of coins as these companies hoard the coins and charge exorbitant fees for paper currency exchanges.  Regular businesses and individuals would rather give excess change in paper currency than part with a coin.  Beef prices, as the result of production and export taxes (which effect supply) as well as inflation, are up 25% in this beef eating country.  Argentina's budget deficit to GDP will double this and the country faces an inflation-wage price spiral as Fernandez de Kirchner aggressively seeks to appropriate money from whatever sources to pay international debt and continue an aggressive public works program in defiance of Argentina's Congress.

Is Argentina so systematically corrupt that its citizenry cannot demand a free society and have grown to expect the choices to be one type of corruption or another?  At what point does this out of control inflation, which has been accompanied by growth, become socially intolerable?  Is the massive public works program keeping enough people employed and fueling enough future growth?  Will increased political confrontation require public diversions?  Oil has been discovered in the Falkland Islands (Malvinas) and Argentina and the United Kingdom are butting heads.  Both countries have economic difficulties, with Greece debt problems focusing a lot of analytical attention on the United Kingdom, and both could politically benefit internally from an international confrontation involving sovereignty and oil.  Posturing rather than actual military confrontation is the most likely scenario, particularly since Argentina has cut military spending by 50%.  Argentina has gone to the UN and the United States is not supporting the United Kingdom.  The United States Supreme Court also allowed Argentina private pension money in the United States to be turned over to Argentina.  While trying to mitigate Venezuela's, and its allies Iran and Russia, influence as well as China, the United States may be playing into their hands if the UK redeploys troops from Afghanistan to the Falklands in a demonstration of strength that could bolster Gordon Brown.  The current situation could strengthen the Rio Group at the expense of the Organization of American States as well as the commercial-strategic position of China, Russia, and Iran in Central and South America.

Argentina's central bank has consistently failed to promote price stability and monetary policy and has been unable or unwilling to divorce itself from fiscal policy.  It is a perfect example of the failure of a corrupt central banking system tied to a corrupt political system.  Unfortunately, Argentina's inflation problem has geopolitical consequences.

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Economic Warfare: China & the United States

A book, "The China Dream", written by a senior Chinese Army officer, Liu Mingfu, who is a professor at their National Defense University, has recently been published.  This is the second book recently published by senior Chinese Army officers on China's relationship with the United States, as Colonel Dai Xu also published a book in which he argues that China is surrounded by countries largely influenced by the United States.  Senior Colonel Liu Mingfu argues that China will become the number 1 economic power in the world within the next few years and this will involve economic warfare with the United States which could escalate into military warfare in ten to twenty years.

While the Chinese Army has been upset over military sales to the Taiwan government and the reception of the Dalai Lama by President Obama to the extent the Chinese Army has suggested China should start selling US debt, the Chinese government does have significant global economic power which is growing.  Economic warfare is not new.  The CIA has had an active economic warfare operation from almost the beginning of its existence.

A 2007 paper published by the United States Army School of Advanced Military Studies very conservatively predicted China would become the number 1 economic power by 2025 and argues that America's economic assets must be utilized in economic warfare strategy.  It quotes extensively from the 2002 book "Unrestricted Warfare: China's Master Plan to Destroy America" written by Chinese Army Colonels Qiao Liang and Wang Xiangsui.  Unrestricted Warfare concentrated on economic warfare, the use of trade, and the effect of revaluation and devaluation of currency and its effect on target countries.

While the United States needs China to buy US treasuries, China does not publish a breakdown of its foreign asset holdings and there has been recent controversy whether Japan has displaced China as the largest holder of US debt.  This could easily be just a temporary re-balancing of China's central bank's foreign investments and currency holdings.  There has been some speculation that China may be buying IMF gold, but this does make a lot of sense unless China is using the carry trade on the US dollar to divest itself of US dollars as one can presently obtain more value by buying gold with the euro.

The United States has repeatedly indicated China needs to appreciate the value of the renminbi which is tightly pegged by the Chinese government to the US dollar.  The United States has also predicated its economic recovery on export growth and has advocated an unrealistic doubling of exports within five years.  This can only be done at the expense of other countries, such as China.

We have seen oil used by the Arab countries in the 1970's as a form of limited economic warfare.  While it has been obvious from 2007 to the present that oil futures prices are driven by speculators with futures contracts far exceeding actual delivery, to the point where oil prices make the refining of oil unprofitable in the United States despite a staggering over supply of oil.  In James Norman's book, "The Oil Card", he argues that oil could be used as economic warfare against China by keeping the price high.  The problem with keeping oil prices high is that it significantly impairs economic recovery in the United States and globally.

In 2009, the Pentagon held a war game which involved economic warfare only among five teams: China, Russia, United States, East Asia, and All Others.  China won.  The United States was second.

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Dysfunctional Governance

The subtitle of this post is: Or why Elizabeth Warren should be the first female Secretary of the Treasury Now.

In my prior post, Corporate Socialism vs Regulatory Reform, I made the case that the need for meaningful financial regulatory reform is crucial to the maintenance of democracy.  Capitalism is not the privatization of profit and the socialization of risks and losses further enriching an elite group of profiteers at the expense of the common citizen.  When corporation governance has become so corrupt that corporations are run for the benefit of the managers at the expense of the shareholders, there is something more than fundamentally wrong.

When Brooksley Born sought to have derivatives regulated in 1998, during the Clinton administration, and was crushed by Bob Rubin, Larry Summers, Alan Greenspan, and Arthur Levitt, the current global financial crisis was born and began to grow.  With the financial crisis threatening to bring down banks worldwide and hurl the world into financial oblivion, the opportunity of crisis to provide decisive regulatory reform was decapitated by Tim Geithner, Hank Paulson, and the heads of the very banks and shadow banks which had perpetrated the crisis.

While the regulators and the government should have followed the successful Swedish example from the 1990's and seized the banks and shadow banks, stripped the toxic assets out and placed them in a resolution authority as had been done in the savings and loan crisis, dismissed the management, and then, after proper capital ratio improvements, spun the banks back into the private sector as financially stronger financial institutions, the American Congress was, instead, deceived into appropriating bailout money which was then used not as legislated but rather to fund the very banks and management which had caused the crisis.  As a result the largest US banks have grown from 55% of GDP, pre-crisis, to 63% of GDP.  Their concentration of the financial market has grown to the point where four banks have half the market in mortgages and two-thirds of the market for credit cards.  Five banks control 95% of the derivatives market.  Three US banks have over 40% of the global market for stock underwriting.

The very financial institutions which, by their risky conduct, created this global financial crisis have been allowed to become more powerful and more systemically dangerous, when they should have been broken up with a modern Glass-Steagall division between retail and investment banking, a transparent and regulated derivatives market should have been created, mark-to-market rules enforced, off balance sheet SIVs either prohibited or properly included in balance sheets, management and directors replaced, shareholder ownership reinforced, a consumer protection agency created, bank capital ratios raised, shadow banks formally identified and regulated as systemically dangerous financial institutions without respect to their original business structure,  and systemically dangerous business and investment practices, including disproportionate salaries and bonuses not in the best interests of shareholders, penalized by transaction taxes on the business and the individual (with respect to salaries and bonuses).

As it is, the balance sheets of banks are not financially accurate, because they have been exempted from proper accounting rules.  Citigroup wrote the new credit card "reforms" which became law and raised interest rates to 29.9% prior to its implementation and sent letters to its demand deposit account holders informing them the bank reserved the right to require seven days prior written notice of any withdrawal from a checking, savings, or money market account, while still being majority own by the United States government.

The Federal Reserve has failed to get banks, insurance companies, and hedge funds to agree on what derivatives should be transparently traded through a clearinghouse with proper collateral.  The Administration has failed to decisively create proper regulations and a transparent market.

Purposefully complex and overly complicated mortgage loan, credit card, and other consumer loan agreements have been buried as a cause of the current crisis under the lobbyist's rosy picture of free market buyer beware fairy tales in which the wolves are victims.  The unethical practices of banks, such as Goldman Sachs and J. P. Morgan have been increasingly chronicled and complex financial instruments and practices explained again and again only to have the PR people and lobbyists insist the public is not smart enough to understand finance. While Matt Taibbi has rigorously documented past Goldman Sachs and AIG dubious transactions and activities, some might think his recent article in which he uses the literary metaphor of different criminal con games to describe financial business practices was too factually loose, but the power of literature to transform truth into a universal visualization is not to be derided, as Emile Zola proved.  Is an article any less powerful in its message against the spin of hundreds of lobbyists and the inaction of government just because it is published in Rolling Stone rather than the New Yorker?   When elected officials fail to act and protect the citizenry, should public mockery of the obvious not be expected and escalated?

The recent announcement of a proposed Volcker rules which would limit the size of banks and a proposed ban on proprietary trading was seen as a ray of hope, although it left the banks as is without any reduction or limitations other than proprietary trading.  The issue is really not size, as we have repeatedly said, it is systemically dangerous conduct and activities.  Yet, Geithner has being preaching financial reform this week while recanting on proprietary trading saying it should be limited not banned.  Fixing banks has become a question of power and the banks have been given more power by the very government which should be minimalizing their power through regulation. Protecting the banks has become more important than putting America to work and growing the economy, because the toxic assets were not stripped from the banks and the next financial crisis is peering around the corner at us.

Elizabeth Warren has been one of the few public officials focused and committed to financial regulatory reform and consumer protection.  Canada has had a consumer protection agency for years and banking regulations in place which allowed it to weather this global financial crisis better than the United States and other countries.  Yet, in the United States lobbyists have killed the proposed Consumer Financial Protection Agency and continue to dance on the grave of its aborted fetus with a "just another bloated government bureaucracy" headstone as testament to the power of money to create acceptable lies.  The financial predators do not want anyone protecting the public; it is not profitable.  Elizabeth Warren continues to promote the need of a CFPA as necessary to preserve the middle class which is growing smaller every day as the financial elite become even richer.   She has made it perfectly clear that the battle has come down to the lobbyists versus American families and the lobbyists are winning.

The lobbyists are winning, because people, like Larry Summers and Tim Geithner among others, are helping the financial lobbyists to win.  While Paul Volcker continues to be optimistic about the Volcker Rule while being marginalized again, he still is adamant that the real crisis facing the American people is the present bipartisan dysfunctional governance in which nothing gets done for the people.  What chances of regulatory reform are there if it is completely acceptable for financial institutions to purposefully mislead investors and deceive markets while being paid a great deal of money to mislead people?  What chances do we have that banks will be required to control leverage, improve their capital ratios, and operate with accurate balance sheets if the banks are allowed to be more powerful than the government?  This should be an obvious need in any free society and should not require the financial innovation of more investment products, such as hybrid securities for contingent capital.  All risks should be properly collateralized and proper capital ratios maintained.  The Fed, the SEC, FDIC, OCC, and Treasury Department failed to do their jobs preferring to defer to their financial constituents. 

President Obama was given and took advice to make Larry Summers his chief economic adviser, to make Tim Geithner his Secretary of the Treasury, and to make Rahm Emanuel his chief of staff.  None of these individuals were a part of his campaign nor, by their actions, do they believe in what his campaign said to the American people.  They support the financial interests, with which they have been intimately involved, and nothing is going to change.  If there is going to be corrective action and if President Obama is going to be true to his beliefs, there need to be decisive changes that send a clear message to the the lobbyists and the American people.  The President needs to replace Larry Summers with Christina Romer, Tim Geithner with Elizabeth Warren, and Rahm Emanuel with Evan Bayh.

I must admit that I knew Rahm Emanuel when he was still a college student and working in the Congressional campaign of a high school friend of mind.  I am disappointed, but I wonder if he might be better suited to be the President's lobbyist.

This would be a clear message that shakes the walls of money.  Otherwise, the corporate socialists love dysfunctional governance, not just in the United States, but worldwide in any country.  Will their corporate flags become feudal flags?


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Fed Exiting & Supplementary Financing

Recently, we talked about the possible scenario of the Fed exiting its MBS positions by transferring them over an extended period to Fannie May and Freddie Mac with the assistance of Treasury support of Fannie and Freddie. We have seen the Discount Rate increase as an exiting return to normal lending programs by the Fed.

Now, we have been quietly presented with the resumption of the Treasury's Supplementary Financing Program which was initiated in 2008 and shrunk in 2009 with the intent to unwind it.  In the words of the Fed, the purpose of the Treasury Supplementary Financing Program was to create deposits at the Fed which would "serve to drain reserves from the banking system, and will therefore offset the reserve impact of recent Federal Reserve lending and liquidity initiatives."  The resumption announced yesterday will increase the current $5 billion level to $200 billion and the first of 8 weekly $25 billion 56-day SFP bill auctions will begin today.

This will restore the SFP to the level maintained between February and September 2009.  This again raises the question of does the Federal Reserve intend to exit its enormous balance sheet positions by selling them in an orderly fashion in the future or does it have more creative plans in mind?  The Econobrowser correctly points out that the Fed could drain its reserves by selling MBAs, doing reverse repos, selling T-bills, or with the Term Deposit Facility.  Supposedly, the Fed wants more flexibility in managing its balance sheet.  This announcement comes at the same time the Fed is making its final MBA purchases for a total of $1.25 trillion and ceasing future purchases. The addition of $200 billion in deposits would certainly improve the Fed's balance sheet.  Or will it?

As the Econobrowser reports, there is a discrepancy in the the purchases of MBAs reported by the New York Federal Reserve and  the Atlanta Federal Reserve, which is reporting them at $152 billion more than New York.  Is this significant and a factor in the decision to re-expand the Supplementary Financing Program or is the SFP renewal just providing improved balance sheet flexibility to the Fed.  If the later, why are all comments anonymous and for background only?



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Leftovers --- Radio Show 2/20/2010

In the show we covered the Fed's Federal Open Market Committee minutes from January in which it was apparent the Fed is struggling with the meaning and economic impact of currently high unemployment, despite employment being one of the two mandates of the Federal Reserve.  One quandary they were having is whether extended unemployment benefits were "... encouraging some who have lost their jobs to remain in the labor force."  I found this whole paragraph to discouraging in that it tends to validate my long voiced opinion that the Fed is using unemployment to hold inflation down as the the banks recapitalize and adjust their balance sheets.

The whole paragraph is as follows:  "Though participants agreed there was considerable slack in resource utilization, their judgments about the degree of slack varied. The several extensions of emergency unemployment insurance benefits appeared to have raised the measured unemployment rate, relative to levels recorded in past downturns, by encouraging some who have lost their jobs to remain in the labor force. If that effect were large—some estimates suggested it could account for 1 percentage point or  more of the increase in the unemployment rate during this recession—then the reported unemployment rate might be overstating the amount of slack in resource utilization relative to past periods of high unemployment. Several participants observed that the necessity of reallocating labor across sectors as the recovery proceeds, as well as the loss of skills caused by high levels of long-term unemployment and permanent separations, could reduce the economy’s potential output, at least temporarily; historical experience following large adverse financial shocks suggests such an effect. On the other hand, if recent productivity gains were to be sustained, as some business contacts indicated they would be, potential output currently could be higher than standard measures suggested, and the high level of the unemployment rate could be a more accurate indication of slack in resource utilization than usual measures of the output gap."

In conjunction with those passages, we also noted that a recent speech by the Minneapolis Fed President Kocherlakota included the statement: "The point, though, is that the fall is not spread uniformly across all people. Some workers—those who lose their jobs—suffer much bigger falls in income. For this reason, many macroeconomists now believe that the true cost of a recession is not the fall in GDP per se, but the associated increase in the risk of people becoming, and staying, unemployed. "  I have been saying this for over a year in trying to explain how serious the high unemployment rate and the fact that 21.5 - 22% (if you use the formula from the 1990's for determining discouraged workers) of the population is unemployed is in determining if this technical "jobless" recovery is sustainable and how destructive a long, slow growth recovery will be to the structure and membership of the American middle class while income inequality will continue to grow at the benefit of the top 1%.

In that Kocherlakota's speech devolved into a defense of the Fed's role as a necessary regulator of the banking system, it is unfortunate that the Fed did not get the job done.  My opinion is that the Fed needs to continue having that responsibility as a member of a council of regulators.

Greece may (it has not been formally announced) attempt a bond auction this coming week.  The EU has provided no commitments of assistance preferring to ratchet demands for austerity program plans and reports by March 16 and May 1.  The Greek PM has indicated they are ahead of schedule.  They have raised taxes, but they also have an aging population with a low birth rate.  I pointed out that the EU rules for determining debt to GDP ratios is not based on national debt but also includes local government debt.  The causes of the problems in Greece, Spain, Italy, and Portugal, if not Ireland also, goes directly to the formation of the euro, the exchange rates, low ECB interest rates, competitiveness gaps between Eurozone nations, and trade imbalances within a single monetary union of sovereign nations.  If the EU refuses to deal with the problems of the euro and the lack of appropriate tools for the ECB and attempts to ignore the problems with political compromises and hard line positions, the economic consequences could snow ball from country to country.  If the political compromise approach stimulates social protest and disruption in Eurozone countries, who have not enjoyed the benefits of the economic trade imbalances as Germany has, the question could devolve into one of sovereignty.  How much sovereignty must EU nations, who have economically suffered from the adoption of the euro, surrender to please the more economically dominate EU member nations?

Interestingly, the Greek PM made a public statement that Greece did not need assistance from the EU and could handle the problem itself.  He also indicated that if Greece did want help it may seek it directly from the IMF without the cooperation of the EU.  I was struck by how much this was similar to the recent suggestion of Simon Johnson that Greece bypass the EU and approach the IMF for assistance unilaterally and in so ding put immense political pressure on the EU and particularly France, because French President Sarkozy sees the head of the IMF, Strauss-Kahn, as a potential political opponent for president of France.

Spain, which is seen by some as a potentially larger problem than Greece as it has a much larger economy, is struggling with growing unemployment and a EU imposed austerity program, but this last week it had a bond auction in which it offered 5 billion euro 15 year bonds which priced at a 12 basis points premium and an over subscribed book of 12 billion euro orders.  Over all, it was an encouraging auction.

Iceland will hold its Icesave referendum on March 6tt.  We have documented the Iceland, UK, and Netherlands dispute and various proposals for resolution.  The question is not should Iceland make payments, but what constitutes fair payment under EU law and when payments should be made.  The interest rate of 5.55% has already been denounced by many commentators as excessive and unfair.  Anna Sibert of Birkbeck College, London, and a member of the Monetary Policy Committee of the Central Bank of Iceland has published an article on the legal background of the debate and posits that, if the likely recovery of Landsbanki's assets is close to 90%, it will not be crippling to Iceland's taxpayer's who have already experienced an unprecedented fall in disposable income at 3600 euro per capita or 14% of Iceland's GDP at end of 2015 with the average payment burden from 2016 to 2024 less than 1% of GDP per year.

The economist Thorvaldur Gylfason has written "Eleven lessons from Iceland", in which he lays down eight lessons requiring financial regulatory reform, a tenth that government needs to protect jobs and incomes in such financial crises, and an eleventh that the need for financial regulation and separation of government and private banking does not negate a capitalist approach.

Philly Fed business activity index up to 17.6 January from 15.2 (expected 17.0); new orders up to 22.3 from 3.0; inventory up 5 points.

Citibank, whose majority shareholder is the United States government, which has sent letters in the recent past jacking credit card rates up to 29%, has sent letters to deposit account holders in Texas that Citibank reserves the right to demand 7 days notice in writing before money could be withdrawn from checking accounts, money markets, or savings accounts, which are demand deposit accounts.  While they insist this applies to Texas only, the actual disclosure statement is not limited in its application. 

Remember, Citigroup also wrote the new credit card federal legislation which just took effect.  You will find going forward that the fees, increased minimum payments, and lack of any prohibition of usury will not be the informative disclosure and consumer protection promised.

Capital One annualized credit card write offs rose to 10.41% in January from 10.14% and 30 day delinquent only increased to 5.8% from 5.78%.

Humana will reduce its workforce by 5%.

Morgan Stanley may hand over its $2.4 billion investment in a Japanese hotel chain it bought in 2007 to creditors when debt comes due in April.

AIG has said it plans to keep 25% of its derivatives portfolio, with a notional value of $300-500 billion, as its Financial Products unit winds down saying the derivatives have been "derisked" and have upside potential.

Japan Q4 GDP was 1.1%.

All UK MPC members voted not to expand QE citing the likelihood that inflation will be below target for the next 3 years (below 2% medium term) and further QE might increase asset prices (bubble).

Barclays allocated more in pay bonuses as a percent of revenue than Goldman Sachs by setting aside 38%.

Walmart sales disappointed but were up 4.6% to $112.82 billion (expected $114.36 billion) and profit was $1.21/share vs 96 cents/share a year ago.  EPS, after exclusions and tax benefits, was $1.17/share (expected $1.12).

Simon Property made a hostile offer of $10 million for bankrupt General Growth after a private offer was ignored and is promising that $7 million of that will pay in full unsecured creditors.

RIM (makes Blackberry) warned of a bandwidth crisis in urban areas which requires software developers to come up with better applications and efficient services to conserve bandwidth.

Kraft posted 48 cents/share Q4 profit, which is up 12 cents vs year ago.

Merck, which has merged with Schering Plough, had $2.34/share Q4 profit vs 78 cents year ago.

Abercrombie posted 53 cents/share Q4 profit which is down from 79 cents; revenue fell 4.6%; sales fell 13% down 12% in the US but up 86% internationally.

UK consumer prices were up 3.5% January -- a 14 month high -- supposedly from the implementation of VAT and will fall to normal later this year.

Kansas City Fed President Hoenig said, if interest rates are kept low, major inflation could ensue.  While arguing the Fed needs to remain independent of political pressure, he then ventured into the government's fiscal policy and asserted that the politicians should cut spending and increase revenue (taxes?).

Eurozone trade surplus was $6 billion in December, because exports contracted less than imports.

US gasoline demand is down 1.3% vs year ago.  Refinery capacity is 79.8%

UK business loans fell 8.1% in December vs year ago in the sharpest drop since records began in 1999.

UK retail sales fell 1.8% in January but it is up nine tenths vs year ago.

Spain estimates its economy will contract 5 tenths in 2010.  GDP fell 3.6% in 2009.

Russia cut its interest rate for the 11th time in less than a year by 25 basis points to 8.5%.




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Normalization and Transfer Exiting

In our last post in which we discussed the Discount Rate, we indicated this was not monetary tightening but just another step in the Fed's announced actions to normalize liquidity and lending programs.  Econobrowser has succinctly summarized the probable meaning of the 25 basis point hike in the Discount Rate with no hike in the Fed Funds Rate, which is unlikely to happen anytime soon.  I do know if there is any significance in the fact the last time the Fed raised the Discount Rate after 24 months of unemployment was 1931; this could be just interesting rather than profound.

In discussing the Fed exit strategy in our last post, I asked who would buy the Mortgages Backed Assets on the balance sheet of the Fed once the Fed is ready to sell.  John Hussman in his last Monday commentary suggested the possible scenario that the US Treasury could issue another $1.5 trillion in debt over the next few years (matching the amount of purchases on the Fed balance sheet) and periodically transfer the proceeds to Fannie May and Freddie Mac to cover continuing balance sheet losses enabling Fannie and Freddie to "redeem" the mortgage securities from the Fed without the need for liquidation or any other unwinding operation.  This would make the securities disappear from the Fed and reappear as an obligation of the American people while protecting the lenders.

This would not be right, but it is almost beautiful in its logical plausibility.

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