Automaticearth World View

Posted on April 14, 2014 by

Here is an updated distillation of our worldview.

The Resurgence of Risk, which appeared at The Oil Drum Canada in August 2007 provides the background to how we came to be in our present predicament. It is by far the longest of the primers, and its purpose is to explain in some depth the nature of our credit bubble, the role of ‘financial innovation’, the distinction between currency inflation and credit hyper-expansion and the mechanism by which value disappears as a bubble deflates.

For further explanation of the ponzi nature of bubbles, the spectrum of ponzi dynamics underlying many economic phenomena and the implications of this for where we are headed, see From the Top of the Great Pyramid.

This ties in with an earlier piece from The Oil Drum Canada, Entropy and Empire , detailing the progression of hegemonic power from empire to empire, as each rises, over-reaches, falls and passes the mantle on to its successor.

The political picture is further developed in Economics and the Nature of Political Crisis, with a more specific look at Europe in The Imperial Eurozone (With all That Implies).

When bubbles reach their maximum extent, they invariably deflate. Our explanation as to why this is inevitable can be found in Inflation Deflated, followed by, The Unbearable Mightiness of Deflation, a rebuttal to inflationist Gary North. An Interview with Stoneleigh provides a more recent and more comprehensive piece on deflation and its consequences.

We dispute classical economic theory and the received wisdom as to the nature of markets. Markets are not objective, mechanical and rational as the Efficient Market Hypothesis would have you believe. Our explanation of markets as human phenomena grounded in destabilizing positive feedback can be found in Markets and the Lemming Factor (with kudos to Robert Prechter, who has been developing the hugely important theory of socionomics for many years).

We have a number of articles on specific aspects of our current crisis. Our view of real estate can be found in Welcome to the Gingerbread Hotel. Employment is covered in War in the Labour Markets.

The Special Relativity of Currencies and Dollar-Denominated Debt Deflation address our view of currency inter-relationships and the value of currency relative to available goods and services.

Our view of the intersection between peak oil and finance can be found in Energy, Finance and Hegemonic Power  and Oil, Credit and the Velocity of Money Revisited, and our view of the future of power systems is explained in Renewable Power? Not in Your Lifetime  and A Green Energy Revolution?.

Our take on the future for gold can be found in A Golden Double-Edged Sword, and our view of -global- trade is covered in The Rise and Fall of Trade.

Our predictions for the future in a nutshell are available in point form in 40 Ways to Lose Your Future .

Our prescription for facing the future is presented in How to Build a Lifeboat .

This is our attempt to convey what we as individuals can hope to do about it for ourselves, our families and friends. We cannot avoid living through a Greater Depression, but we can take action, and, being forewarned, we can hopefully avoid many pitfalls. We can attempt to avoid becoming part of the herd that is determined to throw itself off a cliff.

Finally, our most theoretical piece, Fractal Adaptive Cycles in Natural and Human Systems, connects ecological and socioeconomic cycles through an analogous framework, drawing together the work of CS Holling, Robert Prechter and Joseph Tainter. The big picture is of crucial importance as we have reached, and passed, the pinnacle of a golden age. We are moving into an era of uncertainty and upheaval such as none of us have hitherto experienced but all of us must try to navigate successfully.

We at The Automatic Earth will continue to provide what assistance we can with that process. The TAE world tour continues, with a view to turning virtual communities into real ones. By popular demand, we will shortly be making available a recording of one of these presentations. Watch this space.

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Ashvin Pandurangi on social disorder and the military

Posted on April 14, 2014 by

The Debt-Dollar Discipline: Part III – Future Reorganization

Dec 13, 2010. Ashvin Pandurangi

[giant snips and rearrangement of material]

Machines of societal oppression, whether they are equipment or computerized devices, cannot continue to function at their current rates of activity without access to increasing amounts of net energy. Currently, there are no forms of renewable energy or technologies of energy efficiency in place which could realistically offset the terminal declines in net energy faced by global society. The time after which a wide-scale implementation of such energy infrastructure becomes impossible is approaching very soon, if it has not already passed.

It is significantly likely that developed societies will re-organize at much smaller scales of economic and political activity, in which states, cities and local communities become more important to the “individual” than regional blocs or even nations. People will be forced to rely on their immediate environments as a means of acquiring basic goods and services. The mechanisms of discipline and control, if they exist at all, will only be able to operate within a localized range for limited purposes.

This scenario should not be taken lightly, however, because it will certainly involve a transitional period rife with disorder and violence. These symptoms are especially likely if there is an initial period of physical conflict between governmental power structures and their resistant populations, which should be expected. Although the increasingly impoverished citizenry of the world obviously outnumber the disciplinary elites by a large factor, these elites have a not-so-secret weapon to combat many of the obstacles mentioned above.

The roots of discipline can be traced back to the army, which, throughout history, has disciplined its soldiers to be obedient, self-regulating and deadly efficient by implementing strict restrictions on their movement through time and space. Everything about a soldier’s existence in the barracks is tightly controlled through confined quarters, strict daily schedules, drill exercises, required conduct, etc. Although modern global society is publicly characterized as a place of diplomacy and peaceful negotiation, it has actually retained the most deadly military forces with the most deadly weaponry to match.

The U.S. military, for example, may eventually face a legitimacy crisis of its own, but the unwavering loyalty of its commanders and soldiers should not be underestimated. The structures of command within the military are kept almost entirely under the purview of the executive branch, and this design will make it difficult for elements of popular dissent to infiltrate its operations. After all, it is only natural that the institution to first, and most powerfully, implement disciplinary principles within human civilization should be the last to lose that disciplinary character.

In this sense, military institutions and arsenals provide the last line of “defense” for desperate power structures battling the scarcity of vital resources and the chaos of popular dissent.

The U.S. has already strategically positioned its military throughout the Middle East, which is obviously the most oil-rich region in the world. When availability and expense begin threatening the U.S. share of global oil production, these forces can be readily mobilized to secure production facilities and trade routes.

It is also most likely the case that detailed plans are already in place to institute martial law on the American population in the event of disciplinary break down. A program called “Unified Quest 2011”, consisting of war games, seminars, workshops and conferences, is self-described as being “the Army Chief of Staff’s primary mechanism to explore enduring challenges and the conduct of operations in a future operational environment”. It would be naive to assume that American states and cities are not some of the “future operational environments” that they are preparing to conduct operations in. The government, of course, will insist that it is simply maintaining stability and doing what’s best for its citizens, but the crucial question is whether the masses will voluntarily submit.

The U.S. citizenry is the most heavily armed in the world (90 guns per 100 people, and they may refuse to submit without a fight. The American people were more than willing to relinquish many of their Constitutional rights after 9/11 for the sake of perceived security, but this time the circumstances will be drastically different. There will be millions of painfully destitute people, who possess rapidly diminishing faith in their government’s ability to aid or protect them, and have precious little to lose from active resistance. During the chaotic, unpredictable release of a complex system, even the best laid schemes of disciplinary governments and their military forces could go awry.

Posted in By People, Social Disorder | Comments Off on Ashvin Pandurangi on social disorder and the military

Why do people fall for Ponzi and other schemes?

Posted on April 14, 2014 by

Fooled by Ponzi (and Madoff). How Bernard Madoff Made Off with My Money 

Dec 23, 2008. Stephen Greenspan. Skeptic.com

There are few areas of functioning where skepticism is more important than how one invests one’s life savings. Yet intelligent and educated people, some of them naïve about finance and others quite knowledgeable, have been ruined by schemes that turned out to be highly dubious and quite often fraudulent. The most dramatic example of this in American history is the recent announcement that Bernard Madoff, a highly-regarded hedge fund manager and a former president of NASDAQ, has for several years been running a very sophisticated Ponzi scheme which by his own admission has defrauded wealthy investors, charities and other funds, of at least 50 billion dollars.

In my new book Annals of Gullibility1, I analyze the topic of financial scams, along with a great number of other forms of human gullibility, including war (the Trojan Horse), politics (WMDs in Iraq), relationships (sexual seduction), pathological science (cold fusion), religion (Christian Science), human services (Facilitated Communication), medical fads (homeopathy), etc. Although gullibility has long been of interest in works of fiction (Othello, Pinnochio), religious documents (Adam and Eve, Samson) and folk tales (Emperor’s New Clothes, Little Riding Hood), it has been almost completely ignored by social scientists. There have been a few books that have focused on narrow aspects of gullibility, including Charles Mackey’s classic 19th century book, Extraordinary Popular Delusion and the Madness of Crowds (most notably on investment follies such as Tulipimania, in which rich Dutch people traded their houses for one or two tulip bulbs).2 In Annals of Gullibility I propose a multi-dimensional theory that would explain why so many people behave in a manner which exposes them to severe and predictable risks. This includes myself — I lost a good chunk of my retirement savings to Mr. Madoff, so I know of what I write on the most personal level.

Ponzi Schemes & Other Investment Manias & Frauds

Although my focus here is on Ponzi schemes, I shall also briefly address the topic of investment manias (such as the dot.com bubble) and other forms of financial fraud (such as various inheritance scams). That is because they all involve exploitation of investor gullibility and can all be explained by the same theoretical framework.

A Ponzi scheme is a fraud where invested money is pocketed by the schemer and investors who wish to redeem their money are actually paid out of proceeds from new investors. As long as new investments are expanding at a healthy rate, the schemer is able to keep the fraud going. Once investments begin to contract, as through a run on the company, then the house of cards quickly collapses. That is what happened with the Madoff scam when too many investors — needing cash because of the general U.S. financial meltdown in late 2008 — tried to redeem their funds. Madoff could not meet these demands and the scam was exposed.

The scheme gets its name from Charles Ponzi,3 an Italian immigrant to Boston, who in 1920 came up with the idea of promising huge returns (50% in 45 days) supposedly based on an arbitrage plan (buying in one market and selling in another) involving international postal reply coupons. The profits allegedly came from differences in exchange rates between the selling and the receiving country (where they could be cashed in). A craze ensued, and Ponzi pocketed many millions of dollars, most from poor and unsophisticated Italian immigrants in New England and New Jersey. The scheme collapsed when newspaper articles began to raise questions about it (pointing out, for example, that there were not nearly enough such coupons in circulation) and a run occurred.

The basic mechanism explaining the success of Ponzi schemes is the tendency of humans to model their actions (especially when dealing with matters they don’t fully understand) on the behavior of other humans. This mechanism has been termed “irrational exuberance,” a phrase attributed to former fed chairman Alan Greenspan (no relation), but actually coined by another economist, Robert J. Schiller in a book with that title. Schiller employs a social psychological explanation that he terms the “feedback loop theory of investor bubbles.” Simply stated, the fact that so many people seem to be making big profits on the investment, and telling others about their good fortune, makes the investment seem safe and too good to pass up. In Schiller’s words, the fact “that others have made a lot of money appears to many people as the most persuasive evidence in support of the investment story associated with the Ponzi scheme — evidence that outweighs even the most carefully reasoned argument against the story.”4

In Schiller’s view, all investment crazes, even ones that are not fraudulent, can be explained by this theory. Two modern examples of that phenomenon are the Japanese real estate bubble of the 1980s and the American dot.com bubble of the 1990s. Two 18th century predecessors were the Mississippi Mania in France and the South Sea Bubble in England (so much for the idea of human progress). In all of these cases, the thing that kept the mania going was the thought “when so many leading members of society believe in and seem to profit from a course of action, how can it possibly be risky or dangerous?”

A form of investment fraud that has structural similarities to a Ponzi scheme is an inheritance scam, in which a purported heir to a huge fortune is asking for a short-term investment in order to clear up some legal difficulties involving the inheritance. In return for this short-term investment, the investor is promised enormous returns. The best-known modern version of this fraud involves use of the internet, and is known as a “419 scam,” so named because that is the penal code number covering the scam in Nigeria, the country from which most of these internet messages originate. The 419 scam differs from a Ponzi scheme in that there is no social pressure brought by having friends who are getting rich. Instead, the only social pressure comes from an unknown correspondent, who undoubtedly is using an alias. Thus, in a 419 scam, other factors, such as psychopathology or extreme naïvete, likely explain the gullible behavior, as seen in a profile of such a highly-trusting victim, nicknamed “the perfect mark,” by Mitchell Zuckoff.5

Two historic versions of the inheritance fraud that are equal to the Madoff scandal in their widespread public success, and that relied equally on social feedback processes, occurred in France in the 1880s and 1890s, and in the American Midwest in the 1920s and 1930s. The French scam was perpetrated by a talented French hustler named Therese Humbert, who claimed to be the heir to the fortune of a rich American, Robert Henry Crawford, whose bequest reflected gratitude for her nursing him back to health after he suffered a heart attack on a train. The will had to be locked in a safe for a few years until Humbert’s youngest sister was old enough to marry one of Crawford’s nephews. In the meantime, leaders of French society were eager to get in on this deal, and their investments (including by one countess, who donated her chateau) made it possible for Humbert — who milked this thing for 20 years — to live in a high style. Success of this fraud, which in France was described as “the greatest scandal of the century” was kept going by the fact that Humbert’s father-in-law was a respected jurist and politician in France’s Third Republic and he publicly reassured investors, who included the cream of French society.6

The American version of the inheritance scam was perpetrated by a former Illinois farm boy named Oscar Hartzell. While Therese Humbert’s victims were a few dozen extremely wealthy and worldly French aristocrats, Hartzell swindled over 100,000 relatively unworldly farmers and shopkeepers throughout the American heartland. The basic claim — as described by Jay Robert Nash7 and Richard Rayner8 — was that the English seafarer, Sir Francis Drake, had died without any children, but that a will had been recently located (in one version, in a church belfry). The heir to the estate, which was now said to be worth billions (from compounding of the value of loot accumulated when Drake was a privateer plundering the Spanish Main), was a colonel Drexel Drake in London. As the colonel was about to marry his extremely wealthy niece, he wasn’t interested in the estate, which needed some adjudication, and turned his interest over to Hartzell, who now referred to himself as “Baron Buckland.” The Drake scheme became a social movement, known as “the Drakers” (later changed to “the Donators”) and whole churches and groups of friends — some of whom planned to found a utopian commune with the expected proceeds — would gather to read the latest Hartzell letters from London. Hartzell was eventually indicted for fraud and brought to trial in Iowa, over great protest by his thousands of loyal investors. Rayner noted that what “had begun as a speculation had turned into a holy cause.”

A Multidimensional Theory of Investment & Other Forms of Gullibility

While social feedback loops are an obvious contributor to understanding the success of Ponzi and other mass financial manias, one needs to also look at factors located in the dupes themselves that might help to explain why they fell prey to the social pressure while others did not. There are four factors in my explanatory model, which can be used to understand acts of gullibility but also other forms of what I term “foolish action.”9 A foolish (or stupid) act is one where someone goes ahead with a socially or physically risky behavior in spite of danger signs, or unresolved questions, which should have been a source of concern for the actor. Gullibility is a sub-type of foolish action, which might be termed “induced-social.” It is induced because it always occurs in the presence of pressure or deception by one or more other people. Social foolishness can also take a non-induced form, as when someone tells a very inappropriate joke that causes a job interview or sales meeting to end unsuccessfully. Foolishness can also take a “practical” (physical) form, as when someone lights up a cigarette in a closed car with a gas can in the back seat and ends up incinerating himself. As noted, the same four factors can be used to explain all foolish acts, but in the remainder of this paper I shall use them to explain Ponzi schemes, particularly the Madoff debacle.

The four factors are situation, cognition, personality and emotion. Obviously, individuals differ in the weights affecting any given gullible act. While I believe that all four factors contributed to most decisions to invest in the Madoff scheme, in some cases personality should be given more weight while in other cases emotion should be given more weight, and so on. As mentioned, I was a participant — and victim — of the Madoff scam, and have a pretty good understanding of the factors that caused me to behave foolishly. So I shall use myself as a case study to illustrate how even a well-educated (I’m a college professor) and relatively intelligent person, and an expert on gullibility and financial scams to boot, could fall prey to a hustler such as Madoff.

Situations

Every gullible act occurs in a particular micro-context, in which an individual is presented with a social challenge that he has to solve. In the case of a financial decision, the challenge is typically whether to agree to an investment decision that is being presented to you as benign but that may pose severe risks or otherwise not be in one’s best interest. Assuming (as with the Madoff scam) that the decision to proceed would be a very risky and thus foolish act, a gullible behavior is more likely to occur if the social and other situational pressures are strong and less likely to occur if the social and other situational pressures are weak, or balanced by countervailing pressures (such as having wise heads around to warn you against taking the plunge).

The Madoff scam had social feedback pressures that were very strong, almost rising to the level of the “Donators” cult around the Drake inheritance fraud. A December 15, 2008 New York Times article described how wealthy retirees in Florida joined Madoff’s country club for the sole reason of having an opportunity to meet him socially and be invited to invest directly with him.10 Most of these investors, as well as Madoff’s sales representatives, were Jewish, and it appears that the Madoff scheme was seen as a safe haven for well-off Jews to park their nest eggs. The fact that Madoff was a prominent Jewish philanthropist was undoubtedly another situational contributor, as it likely was seen as highly unlikely that such a person would be scamming fellow Jews (which included many prominent Jewish charities, some of them now forced to close their doors).

A non-social situational aspect that contributed to a gullible investment decision was, paradoxically, that Madoff promised modest rather than spectacular gains. Sophisticated investors would have been highly suspicious of a promise of gains as spectacular as those promised almost 100 years earlier by Charles Ponzi. Thus, a big part of Madoff’s success came from his recognition that wealthy investors were looking for small but steady returns, high enough to be attractive but not so high as to arouse suspicion. This was certainly one of the things that attracted me to the Madoff scheme, as I was looking for a non-volatile investment that would enable me to preserve and gradually build wealth in down as well as up markets.

Another situational factor that pulled me in was the fact that I, along with most Madoff investors (except for the super-rich) did not invest directly with Madoff but went through one of 15 “feeder” hedge funds that then turned all of their assets over to Madoff to manage. In fact, I am not certain if Madoff’s name was even mentioned (and certainly, I would not have recognized it) when I was considering investing in the (three billion dollar) “Rye Prime Bond Fund” that was part of the respected Tremont family of funds, which is itself a subsidiary of insurance giant Mass Mutual Life. Thus, I was dealing with some very reputable financial firms, which created the strong impression that this investment had been well-researched and posed acceptable risks.

The micro social context in which I made the decision to invest in the Rye fund came about when I was visiting my sister and brother-in-law in Boca Raton, Florida and met a close friend of theirs who is a financial adviser who was authorized to sign people up to participate in the Rye (Madoff-managed) fund. I genuinely liked and trusted this man, and was persuaded by his claim that he had put all of his own (very substantial) assets in the fund, and had even refinanced his house and placed all of the proceeds in the fund. I later met many friends of my sister who were participating in the fund. The very successful experience they had over a period of several years convinced me that I would be foolish not to take advantage of this opportunity. My belief in the wisdom of this course of action was so strong that when a skeptical (and financially savvy) friend back in Colorado warned me against the investment, I chalked the warning up to his sometime tendency towards knee-jerk cynicism.

Cognition

Gullibility can be considered a form of stupidity, so it is safe to assume that deficiencies in knowledge and/or clear thinking often are implicated in a gullible act. By terming this factor “cognition” rather than intelligence, I mean to indicate that one can have a high IQ and still prove gullible. There is a large literature, by scholars such as Michael Shermer11 and Massimo Piattelli-Palmarini12 that show how often people of average and above-average intelligence fail to use their intelligence fully or efficiently when addressing everyday decisions. Keith Stanovich makes a distinction between intelligence (the possession of cognitive schemas) and rationality (the actual application of those schemas).13 The “pump” that drives irrational decisions (many of them gullible), according to Stanovich, is the use of intuitive, impulsive and non-reflective cognitive styles, often driven by emotion.

In my own case, the decision to invest in the Rye fund reflected both my profound ignorance of finance, and my somewhat lazy unwillingness to remedy that ignorance. To get around my lack of financial knowledge and my lazy cognitive style around finance, I had come up with the heuristic of identifying more financially knowledgeable advisers and trusting in their judgment and recommendations. This heuristic had worked for me in the past and I had no reason to doubt that it would work for me in this case.

The real mystery in the Madoff story is not how naïve individual investors such as myself would think the investment safe, but how the risks and warning signs could have been ignored by so many financially knowledgeable people, ranging from the adviser who sold me and my sister (and himself) on the investment, to the highly compensated executives who ran the various feeder funds that kept the Madoff ship afloat. The partial answer is that Madoff’s investment algorithm (along with other aspects of his organization) was a closely guarded secret difficult to penetrate, and partly (as in all cases of gullibility) that strong affective and self-deception processes were at work. In other words, they had too good a thing going, for themselves and their clients, to entertain the idea that it might all be about to crumble.

Personality

Gullibility is sometimes equated with trust, but the late psychologist Julian Rotter showed that not all highly trusting people are gullible.14 The key to survival in a world filled with fakers (Madoff) or unintended misleaders who were themselves gulls (my adviser and the managers of the Rye fund) is to know when to be trusting and when not to be. I happen to be a highly trusting person who also doesn’t like to say “no” (such as to a sales person who had given me an hour or two of his time). The need to be a nice guy who always says “yes” is, unfortunately, not usually a good basis for making a decision that could jeopardize one’s financial security. In my own case, trust and niceness were also accompanied by an occasional tendency towards risk-taking and impulsive decision-making, personality traits that can also get one in trouble.

Emotion

Emotion enters into virtually every gullible act. In the case of investment in a Ponzi scheme, the emotion that motivates gullible behavior is a strong wish to increase and protect one’s wealth. In some individuals, this undoubtedly takes the form of greed, but I think that truly greedy individuals would likely not have been interested in the slow but steady returns posted by the Madoff-run funds. I know that in my case, I was excited not by the prospect of striking it rich but by the prospect of having found an investment that promised me the opportunity to build and maintain enough wealth to have a secure and happy retirement. My sister, a big victim of the scam, put it well when she wrote that “I suppose it was greed on some level. I could have bought CDs or municipal bonds and played it safer for less returns. The problem today is there doesn’t seem to be a whole lot one can rely on, so you gravitate towards the thing that in your experience has been the safest. I know somebody who put all his money in Freddie Macs and Fannie Maes. After the fact he said he knew the government would bail them out if anything happened. Lucky or smart? He’s a retired securities attorney. I should have followed his lead, but what did I know?”15

Conclusion

I suspect that one reason why psychologists and other social scientists have avoided studying gullibility is because it is affected by so many factors, and is so micro-context dependent that it is impossible to predict whether and under what circumstances a person will behave gullibly. A related problem is that the most catastrophic examples of gullibility (such as losing one’s life savings in a scam) are low frequency behaviors that may only happen once or twice in one’s lifetime. While as a rule I tend to be a skeptic about claims that seem too good to be true, the chance to invest in a Madoff-run fund was one case where a host of factors — situational, cognitive, personality and emotional — came together to cause me to put my critical faculties on the shelf.

Skepticism is generally discussed as protection against beliefs (UFOs) or practices (Feng Shui) that are irrational but not necessarily harmful. Occasionally, one runs across a situation where skepticism can help you to avoid a disaster as major as losing one’s life (being sucked into a crime) or one’s life savings (being suckered into a risky investment). Survival in the world requires one to be able to recognize, analyze, and escape from those highly dangerous situations.

So should one feel pity or blame towards those who were insufficiently skeptical about Madoff and his scheme? A problem here is that the lie perpetrated by Madoff was not all that obvious or easy to recognize (in fact, it is very likely that Madoff’s operation was legitimate initially but took the Ponzi route when he began to suffer losses that he was too proud to acknowledge). Virtually 100% of the people who turned their hard-earned money (or charity endowments) over to Madoff would have had a good laugh if contacted by someone pitching a Nigerian inheritance investment or the chance to buy Florida swampland. Being non-gullible ultimately boils down to an ability to recognize hidden social (or in this case, economic) risks, but some risks are more hidden and, thus, trickier to recognize than others. Very few people possess the knowledge or inclination to perform an in-depth analysis of every investment opportunity they are considering. It is for this reason that we rely on others to help make such decisions, whether it be an adviser we consider competent or the fund managers who are supposed to oversee the investment.

I think it would be too easy to say that a skeptical person would and should have avoided investing in a Madoff fund. The big mistake here was in throwing all caution to the wind, as in the stories of many people (some quite elderly) who invested every last dollar with Madoff or one of his feeder funds. Such blind faith in one person, or investment scheme, has something of a religious quality to it, not unlike the continued faith that many of the “Drakers” continued to have in Oscar Hartzell even after the fraudulent nature of his scheme began to become very evident. So the skeptical course of action would have been not to avoid a Madoff investment entirely but to ensure that one maintained a sufficient safety net in the event (however low a probability it might have seemed) that Madoff turned out to be not the Messiah but Satan. As I avoided drinking a full glass of Madoff Kool-aid, maybe I’m not as lacking in wisdom as I thought.

Stephen Greenspan is a psychologist who is Clinical Professor of Psychiatry at the University of Colorado. His website is www.stephen-greenspan.com.

References
  1. Greenspan, S. 2009. Annals of Gullibility: Why We are Duped and How to Avoid it. Westport, CT: Praeger.
  2. Mackey, C. 1841. Extraordinary Popular Delusions and the Madness of Crowds. London: Richard Bentley.
  3. Zuckoff, M. 2005. Ponzi’s Scheme: The True Story of a Financial Legend. Random House: New York.
  4. Schiller, R. J. 2000. Irrational Exuberance. Princeton, NJ: Princeton University Press, p. 66.
  5. Zuckoff, M. 2006. “The Perfect Mark: How a Massachusetts Psychotherapist Fell for a Nigerian e-mail Scam.” New Yorker, p. 6.
  6. Spurling, H. 2000. La grande Therese: The Greatest Scandal of the Century. New York: HarperCollins.
  7. Nash, J. R. 1976. Hustlers and Con Men: An Anecdotal History of the Confidence Man and His Games. New York: M. Evans & Co.
  8. Rayner, R. 2002. “The Admiral and the Con Man.” New Yorker, April 22 & 29, pp. 150-161.
  9. Greenspan, S. 2009. “Foolish Action in Adults with Intellectual Disabilities: The Forgotten Problem of Risk-Unawareness.” In L. M. Glidden (Ed.), International Review of Research in Mental Retardation. Vol. 36 (pp. 147–194). NY: Elsevier.
  10. Urbina, I. 2008. “A Palm Beach enclave stunned by an inside job. The New York Times, December 15, pp. B1, B3.
  11. Shermer, M. 1997. Why People Believe Weird Things: Pseudoscience, Superstition, and Other Confusions of Our Time. New York: W.H. Freeman.
  12. Piattelli-Palmarini, M. 1994. Inevitable Illusions: How Mistakes of Reason Rule Our Minds. New York: Wiley.
  13. Stanovich, K. E. 1999. Who is Rational? Studies of Individual Differences in Reasoning. Mahwah, NJ: Erlbaum.
  14. Rotter, J. B. 1980. “Interpersonal Trust, Trustworthiness and Gullibility.” American Psychologist, 35, 1–7.
  15. Zitrin, P. S. 2008. E-mail communication. Boca Raton, FL, December 15.
Posted in Ponzi Schemes | Comments Off on Why do people fall for Ponzi and other schemes?

Sovereign Default predictions

Posted on April 14, 2014 by

Martin Weiss on why there will be a sovereign default someday:

Diversification across asset classes didn’t help in the 2008 crash. Stocks fell. Most bonds fell. Real estate fell. Commodities fell. And most currencies fell, with only risk-aversion trades working. all those obligations were simply transferred from PRIVATE balance sheets to PUBLIC ones. So now, instead of private institutions like Citigroup or Bank of America at risk of failure, entire SOVEREIGN COUNTRIES are tumbling towards bankruptcy! And this time, there’s no institution or government on the planet big enough to bail them out!

Now here’s the kicker: I believe Phase I was just a dress rehearsal — a prelude to an even deeper financial crisis! I say that because the private market credit crisis wasn’t allowed to play out fully. Governments the world over stepped in, backstopping, guaranteeing, propping up, and otherwise bailing out private institutions that should have collapsed.

The Pattern

  1. Government spends everything it has
  2. Government borrows all it can from its people
  3. Government borrows still more from foreign countries & banks
  4. Government debt so high panicky political leaders turn on their own people. They confiscate wealth

Matt Mushalik: Links Between Peak Oil and Financial Crisis; also Updated Graphs

Feb 1, 2009. A comment by WNC Observer on this post. theoildrum.com

My guess is that a US sovereign default is probably not in the cards anytime before 2015, and may not be avoidable anytime much past 2025 or so because:

1. I’ve long felt that 2012/13 was going to be a time period when something pretty serious happens. It is pretty obvious from the present megaproject data that by then, new capacity coming on line starts to fall significantly behind what is needed to replace depletion. Given present oil prices and economic conditions, it is also very likely that we are not going to be seeing a lot more megaprojects entering the pipeline in time to make much of a difference in this. SO, by around 2012, there should be a pretty substantial supply shortage, even if demand continues to be constrained.
2. Based on some of the Export Land Model (ELM) analyses it looks to me that 20 years out (2029) for zero US imports is  probably about the best case  (although the US might still be getting a trickle from Canada then). I’m more inclined to think that China and Japan will use their massive accumulation of US $ and treasuries to lock in long-term supply contracts, thus shutting the US out earlier rather than later.  As for the US using its military to acquire by force what it cannot acquire through legitimate commerce, that is likely to destroy as much or more supply than it will secure.

or

Having to make huge cuts or even eliminating altogether Social Security and Medicare obligations?

or

Having to eliminate almost all other federal government programs?

or

Having to raise federal income taxes or implement at VAT, raising the AVERAGE tax burden to 50% or more?

We are probably less than 4-8 years away – and maybe sooner – from having no choice but to face up to one of these fundamental, painful tradeoff decisions. Maybe we’ll have to accept all of the above in order to keep making payments on our national debt. Are we willing to do that? At what point does sovereign default start to look not quite so painful or unthinkable after all?

Of course, once The Powers That Be finally realize that we’ve only got a few more years of imports coming in any case, and once they’ve finally come clean with the general public about this, then a lot of the downsides of sovereign default start looking a lot less painful.

What you can do to protect yourself

There’s a lot on the web written about this — how to get foreign bank accounts, stash 1/10th gold coins here and abroad, Swiss annuities, foreign real estate, a foreign LLC for investments and/or business, establish your own international trust, or be the beneficiary of an international trust someone else established, and so on.

But this is the biggest crash in the history of mankind.  It’s silly to think you can use business-as-usual financial trickery.  How are you going to get to that foreign home once oil shortages strike and its rationed to agriculture and the military? It may appear to be a financial crash, but it’s actually a Malthusian die-off of 5 to 6.5 billion people, the worst calamity that has ever happened to homo sapiens.  The only way to survive an ecological crash is to have the necessary skills, friends, community, and above all, to live in the best areas of the country, and hope that climate change doesn’t drive us extinct.

Posted in Sovereign Default | Comments Off on Sovereign Default predictions

One year Moratorium on Mortgages

Posted on April 14, 2014 by

Ilargi Feb 2, 2009   http://www.theautomaticearth.com/

[As Dmitry Orlov points out in Dmitry Orlov: How Russians survived the collapse of the Soviet Union “In the Soviet Union, nobody owned their place of residence. What this meant is that the economy could collapse without causing homelessness: just about everyone went on living in the same place as before. There were no evictions or foreclosures. Everyone stayed put, and this prevented society from disintegrating. One more difference: the place where they stayed put was generally accessible by public transportation, which continued to run during the worst of times. Most of the Soviet-era developments were centrally planned, and central planners do not like sprawl: it is too difficult and expensive to service. Few people owned cars, and even fewer depended on cars for getting around.”]

Here’s an idea I’ve been toying with lately: A 1 year moratorium on mortgages, in the US, EU and UK. That’s right, no new mortgages would be written for the next 12 months. I am fully aware of the weight of the voice of established banks, and what that means for the chances of an idea like this. But please bear with me.

My idea would mean the end for the best part of an entire industry, I know. But then, that industry is only alive because of government support. Fannie and Freddie should be dead entities, but nothing is ever truly dead that feeds on the public vein. What you can do with the $10.6 trillion in Fannie&Freddie mortgage holdings in this: any foreclosure-worthy loan is donated by the federal government to the municipality the home is in. In other words, the community now owns the home, and can decide to leave the occupants in the home. Or not. yes, this will devalue all homes in the community. But that will happen anyway. the advantage is that people can be kept in their homes.

If you have a 1 year mortgage moratorium, you’ll effectively steer yourselves towards a situation in which people cannot buy homes, they can only rent them. But increasingly, they will then rent from the community they are part of. And that harks back to the principle that communities need to keep control of their citizens’ basic needs as much as possible. We are talking, in that sense, about the best or all worlds. Why should homes by private property that only enriches bankers and carries the risk the owners treat their properties in ways that hurt the community. I know that Americans will cry “Socialism” now, but that’s fine by me. Americans have no idea what socialism means anyway.

There are huge advantages for everyone in a system where basic needs are property of the community, not individuals. The biggest advantages, ironically, are for the individual. In our present system, paying off a $100k mortgage in full costs you $300-400k. And that is money that leaves your community, since the main lenders are not local. If you can pay much less per month, and the money you do pay stays inside your community, you have a situation in which everyone wins except for the fat cat bankers.

Anyway, I should let go of the stream of consciousness for now and start posting this. I’ll get back to it one of these days. The British notion of establishing a national bank that belongs to the people, if combined with a way to keep people in their homes that does not hurt their own neighbors, looks to me to be the only way forward. Unfortunately, what I see in the US, and across the board, is only concerned with raising the dead (banks). That will not work. My ideas are far more promising than Obama’s so far. So there you are and here you go.

Feb 19, 2009

The president’s $275 billion plans to halt foreclosures are even more twisted. If you can afford your mortgage, or if you rent, you are now a sucker all of a sudden. The real suckers who are presently underwater or close to eviction are elevated to worthy of saving status. There is, however, not a word about what happens to the worthy former suckers when home values keep going down. And they will. What are we going to do, renegotiate every year?

The fact of the matter, of course, is that the $275 billion will not, and are not meant to, benefit the homeowners. They are provided for the benefit of the lenders, the banks. They are meant to guarantee an ongoing flow of funds towards the vaults replete with toxic debts based on the very homes the government now showers with cash. They are meant to artificially continue to prop up US real estate values, which, if they were allowed to simply follow the course of the markets, would bankrupt not only the owners, for which Washington cares preciously little, but also the banks, for which Washington will bend over backwards any time of day. The main problem is that it’s way too late. The banks will drown, and everybody knows it. So the only real purpose served by these measures is to transfer ever more of the public’s funds to the banking sector. It’ll go on until the nation itself is completely broke and broken.

What would be in the real interest of the people is to let the banks fail, and use these funds to set up a new banking system. There are various ways to do this. Nationalizing the banks is not one of them, because it would transfer the toxic debts to the people. Who are already poor and getting much poorer even without those “assets”. It can’t be done. There is no way. Tim Geithner couldn’t do it after 19 months of thinking, and nobody else can. The banks must be made to fail. But they won’t be, because the main shareholders, who are among the richest people on the planet, would never allow it. At least not now. They prefer opening the public spigot more and more, until it breaks. Since they own Washington, that is what will happen.

Another hypothetical -since it won’t be accepted- issue that would be in the public’s interest is that Fannie and Freddie should be liquidated. Not made even bigger, as Obama is set to do. Fannie and Freddie are both perverted and perverting institutions. They keep home prices artificially high, which is good for banks, and banks only. All homes in foreclosure process that the two GSE’s hold should be handed over to the communities they are located in. Nationalize those properties, not the banks. Under very strict regulations, which are necessary to prevent them from turning into objects of political power ploys, the homes, in which the former owners can stay, would be properly assessed and the rent the occupants will be forced to pay, if they choose to stay, can flow into the communities they live in. This is the proper and probably only way, not only to keep people in their homes, but also to prevent thousands upon thousands of US communities from going bankrupt.

But it will not come to pass. It would take money away from the owners of the chilled corpses called banks that guide the politics of the nation.

Posted in Mortgages | Comments Off on One year Moratorium on Mortgages

Let banks fail, says Nobel economist Joseph Stiglitz

Posted on April 14, 2014 by

Haidar, Suhasini. Jan 29, 2017. Trump makes sense to a grocery store owner. thehindu.com

Economist-mathematician Nassim Nicholas Taleb is seen as something of an oracle, given that he saw the 2008 economic crash coming, predicted the Brexit vote, and the outcome of the Syrian crisis. Do you see another crisis coming?

Oh, absolutely! The last crisis [2008] hasn’t ended yet because they just delayed it. Obama… didn’t fix the economic system, he put Novocain in the system. He delayed the problem by working with the bankers whom he should have prosecuted. And now we have double the deficit to create six million jobs, with a massive debt and the system isn’t cured. We retained zero interest rates, and that hasn’t helped. Basically we shifted the problem from the private corporates to the government in the U.S. So, the system remains very fragile.  People don’t realize that Obama created inequalities when he distorted the system. You can only get rich if you have assets. 

Feb 2, 2009 www.telegraph.co.uk/finance/

The Government should allow every distressed bank to go bankrupt and set up a fresh banking system under temporary state control rather than cripple the country by propping up a corrupt edifice, according to Joseph Stiglitz, the Nobel Prize-winning economist. Professor Stiglitz, the former chair of the White House Council of Economic Advisers, told The Daily Telegraph that Britain should let the banks default on their vast foreign operations and start afresh with new set of healthy banks.

“The UK has been hit hard because the banks took on enormously large liabilities in foreign currencies. Should the British taxpayers have to lower their standard of living for 20 years to pay off mistakes that benefited a small elite?” he said. “There is an argument for letting the banks go bust. It may cause turmoil but it will be a cheaper way to deal with this in the end. The British Parliament never offered a blanket guarantee for all liabilities and derivative positions of these banks,” he said. Mr Stiglitz said the Government should underwrite all deposits to protect the UK’s domestic credit system and safeguard money markets that lubricate lending. It should use the skeletons of the old banks to build a healthier structure. “The new banks will be more credible once they no longer have these liabilities on their back.”

Mr Stiglitz said the City of London would survive the shock of such a default because it would uphold the principle of free market responsibility. “Counter-parties entered into voluntary agreements with the banks and they must accept the consequences,” he said. Such a drastic course of action would be fraught with difficulties and risks, however. It would leave healthy banks in an untenable position since they would have to compete for funds in the markets with state-run entities. Mr Stiglitz’s radical proposal is a “Chapter 11” scheme for households to allow them to bring their debts under control without having to go into bankruptcy. “Families matter just as much as firms. The US government can borrow at 1pc so why can’t it lend directly to poor people for mortgages at 4pc. ,” he said.

Feb 3, 2009 German news service Deutsche Welle asks Stiglitz:

Q: Economists Nouriel Roubini and Nassim Taleb, who predicted the global economic downturn, have called for a nationalization of banks in order to stop the financial meltdown. Do you agree?

A: The fact of the matter is, the banks are in very bad shape. The U.S. government has poured in hundreds of billions of dollars to very little effect. It is very clear that the banks have failed. American citizens have become majority owners in a very large number of the major banks. But they have no control. Any system where there is a separation of ownership and control is a recipe for disaster. Nationalization is the only answer. These banks are effectively bankrupt.

In 2010 Stiglitz said “What is needed is a quick write-down of the value of the mortgages. Banks will have to recognise the losses and, if necessary, find the additional capital to meet reserve requirements. This, of course, will be painful for banks , but their pain will be nothing in comparison to the suffering they have inflicted on people throughout the rest of the global economy.”

Ilargi at theautomaticearth replies “The reality is though, and it’s hard to believe Stiglitz doesn’t see this, that if mortgage values are written down to realistic levels, i.e. levels that a nation of debt ridden consumers could buy a home at, it wouldn’t just be painful to the banks, it would kill them outright. As it would the US government, which has untold trillions in both mortgages and securities bet on the notion that it can keep those levels up. Neither the government nor the banks, have any intention of letting that happen, unless it becomes inevitable. By which time they wager they’ll have secured as much and as many of their own interests at the cost of the American people as they possibly can.”

Posted in Banking | Comments Off on Let banks fail, says Nobel economist Joseph Stiglitz

What derivatives are and why you’re screwed

Posted on April 14, 2014 by

You are the Crisis

Feb 2, 2009 by Ilargi at theautomaticearth

Oh no, we’re not rid of the bad bank drivel yet, are we? I started out trying to make a point about the character of the paper a bad bank, wherever on the planet, would be set up to buy. And I wrote this:

It may well be wise, just so everyone gets a clearer picture of what we are talking about, to stop referring to all this paper as “assets” or “investments”. In this case, these are misleading terms. An asset is something that exists in the real world. A derivative, on the other hand, can best be compared to the paper slip you receive at the racetrack when you place a bet on a horse. That paper slip doesn’t buy you a part of the horse, it buys you the chance of winning an X amount of money if the horse wins the race you’re betting on. When that race is run, you have either won that X amount or you have lost the money the wager has cost you.

Now, that took me back to something I wrote on September 29, 2008, the day the original TARP bail-out was defeated in the House, and the Dow fell 777 points. It was called: Monday at the Racetrack. Allow me please to quote myself, taking into consideration that the big Dow drop came after I wrote it.

(Sep 29 2008) If you go to the racetrack and bet on a horse, you receive a piece of paper that confirms the bet you made. There are many different varieties of bets possible; for now, let’s say you simply bet on one specific horse to win the race. After the race is over, you have either won your bet or lost it. There’s nothing difficult about the process, anyone can -learn to- understand it, and everyone, except in very rare circumstances, accepts it, both the winners and the losers.

What is happening in world finance these days is that a group of very heavy betters have become very heavy losers, and they have done so with borrowed money. In the past few years, in order to hide their losses, they have turned to a very clever little trick: they want to make us believe that the race is not over, even though we can all see that it is. In fact, if they have their way, the race will never be over, unless and until their horse wins.

The US government has joined the argument on the side of the losing betters. They have allowed the losers – who are their friends-, for years, to hide their predicament, their losing tickets, through Level 3 and off-balance sheet “creative accounting”. Now that the government’s betting buddies’ creditors are losing patience, and demand their money back, which the buddies don’t have, the Fed and Treasury want to buy all those losing tickets, with money that belongs to the taxpayers whose best interests they are presumed to represent.

And they up the ante today: the president declares that this will cost the taxpayer nothing; and if you believe that one, you’ll like the guys who claim that there are profits to be made on this avalanche of losing bets. Now there’ll be plenty of “experts” who are more than willing to tell you that comparing mortgage-backed securities –to take just one sort of bet–  with horse racing is inherently flawed. Their argument will be that there is true value behind the securities: the homes that were purchased with the underlying mortgages.

At first glance, that may look plausible: it seems clear that the homes are not all of a sudden worthless, so how could the mortgages and securities be? My first thought is that the horse you bet on is not worthless either just because it lost one race. But that doesn’t make you win your bet, does it? And the horse is still tired. There are deeper problems with the “the home still has value” argument. The most flagrant is the actual purchase prices, which doubled or tripled in a decade, while no value was added to the home itself. From that follows that many homes were sold at prices that people couldn’t truly afford. The US has for that reason already seen millions of foreclosures, with many more inevitably to come. And the elevated prices, of course. are also the ones the securities are based on.

So perhaps at some time in the future your losing horse might win a race, and perhaps at one point some money can be made on a new mortgage for a foreclosed home. But that makes no difference for your losing bet, and neither does it make the securities valuable again. Both races are over. For good. Which makes it impossible for the US taxpayer to play even on the losing betting tickets their government is about to buy with their money, while making a profit on them is too ridiculous to seriously discuss.

If home sales ever recover to any kind of extent, it will be at prices that are far lower than they have been so far in this millenium. That is the only way to make them affordable. And even if it happens, it is going to take years. In the meantime, the gambling losses will have to be paid. Your government tries to convince you that your life will be miserable without their losing betting buddies. If you ask me, it will be much worse with them, because if you want to keep them around, you’ll have to pay their debts. And they’ll just use the money to go bet on the next race. Maybe you should keep the money and buy your own tickets. That way you get to keep the profits too, if there are any.

But if I were you, I’d lay off the gambling for a while. It looks to me like a sure bet that you’re going to need every penny you have just to feed your children.

Back to today: I know the above is not perfect, but it still works for me. I must admit, as I read back, I’m sort of surprised myself how little has changed since then, with all the things that have happened, including of course the new US president. Who now is discussing doing the same thing: buying leftover paperslips from bets lost long ago. And doing so with your money. But that’s not the only thing wrong with this.

Buying $1 trillion worth of toxic assets is nowhere near enough, it doesn’t even begin make a dent in the mess. And if too much of the soiled casino bathroom tissue is left behind in the banks’ vaults, two things inevitably will happen. First, no confidence is restored. None. And second, banks will have to keep hoarding cash to provide for the additional writedowns on the remaining assets, writedowns everybody knows (but doesn’t tell) that are sure to come. The report from the Office of the Comptroller of the currency we discussed last week states that just the three biggest US banks have over $170 trillion “worth” in derivatives positions. Their real assets are stated as just over $5 trillion, and even then we have to look at how real these are.

What lies in the vaults of the remaining 8500 US banks “insured” by the FDIC is an open question. Let’s assume it’s another $170 trillion when all is added up. There are scores of institutional investors, insurance companies, pension funds, hedge funds, mutual funds, etc., that have positions in these wagers. The essential point in all of it, I think, is that the bets have already been lost. That is, the paper is worth close to zero. You’re about to just about literally purchase the emperor’s clothes. As much as people like Tim Geithner, last week before the Senate Finance Committee, and the CEO’s of the banks involved, shout at the top of their lungs that it’s oh-so hard to value the paper, it’s simply not. Just lay it out on the table, and you’ll know.

Thing is, if it were on that table for everyone to see, it would have to be marked to a market value of pennies on the buck, simply because that is the market value. Thing is also that as long as it’s not on the table, it will be politically palatable to to shove additional trillions of dollars that belong to people not yet born, towards institutions whose “leaders” have amassed hundreds of millions for their individual selves, by cashing in on the 1-in-10 bets that won, while offloading the 9-in-10 that lost, onto the public coffer.

Today, your new president and his team are trying hard to find a way to make you believe the races haven’t been run yet. But they have. And that’s why it takes so long to get a bad bank plan together: They need to find the words and reasoning and excuses to make it politically palatable. That is what’s hard, that is what’s making it take so long. It’s not about applying valuations to toilet paper. We all know what that’s worth. It’s about making you believe that the valuation is indeed difficult. Because if you believe that, more of your money, and that of your children, can be stolen from you. Geithner last week talked about computer models putting values on the paper, and about independent (yeah, right!) institutions doing so. Both have failed miserably. All that’s left is a market that will slaughter the entire thing. And that’s not what they want. And that’s what makes it take so long. Nothing has changed since September 29.

Every single day, every single move by our governments dig us into ever deeper holes. Maybe you remember, or at least can imagine, how it was when you were five years old, and tried to cover a lie with another lie, and then another, and all the time you were afraid your mother would see right through you. See? That’s the essence of the emperor’s new clothes, an dof our new-fanged government policies.

Anyway, I’m just trying to tell you, once more, that assets are not necessarily assets, even if your president tries to make you believe that they are, or can be, or might be sometime in the future. So there you have it: if only 15% of the paper slips of only the 3 biggest US banks goes stale and stinky, there is a loss risk of over $25 trillion, roughly twice the annual US GDP. This is not a secret in banking circles. Therefore, $1 trillion will do nothing towards restoring confidence. It’s like the emperor in his new clothes plays hide and seek. And you’re it.

Posted in Derivatives | Comments Off on What derivatives are and why you’re screwed

Wall Street’s version of capitalism is a fraud wrapped inside a delusion

Posted on April 14, 2014 by

Demerit-Based Pay

Feb 5, 2009. Eric J. Fry. Rude Awakening

Russia, according to Winston Churchill, was a “riddle wrapped inside an enigma.” Wall Street’s version of capitalism, according to us, is a fraud wrapped inside a delusion.

The fraud is that merit-based pay is always meritorious; the delusion is that capitalist enterprises are always capitalistic.

When you combine these two deceptions, you find lots and lots of people defending the right of incompetent corporate executives to receive multi-million-dollar paychecks…even after the companies that employ these executives receive multi-billion bailouts from the U.S. government.

Sadly, mass deceptions tend to maintain their grip on the public imagination for destructively long periods of time. The executive compensation deception is no different. During the many years that stocks priced trudged from their 1982 lows to their 2007 highs, the merit-based pay deception advanced from benign heresy to malignant gospel.

A series of warped deductions about cause and effect led America to embrace one of the greatest financial frauds of all time. Here’s how the rationale for merit-based pay mutated over time:

A CEO who increases shareholder value is a good CEO; and if a company’s shareholder value is increasing, its share price will also increase over time. And if a company’s share price increases over time, shareholder wealth increases. Therefore, to the extent that a company’s share price is rising, the company’s CEO is a good CEO who deserves hefty compensation.

Unfortunately, dear investor, “rising share price” is not a synonym for “shareholder value”…and every merit-based CEO in America understands the difference. Indeed, some of America’s worst CEOs deliberately and methodically erode shareholder value, solely for the sake of boosting their company’s share price and – oh by the way – their own “merit-based pay.”

One of the most popular tactics is called the “option grant,” whereby a company dispenses massive amounts of stock options to its executive team, in addition to traditional cash compensation. The stated rationale for these option grants (often stated by a grant recipient) is to incentive executives to focus their efforts on activities that will produce a rising share price. But of course, most executives exercise about as much influence over their companies’ share prices as a starfish over a tsunami.

By contrast, the option grant compensation mechanism itself CAN influence the share price. Back in the go-go days of the dot.com era, lots of tech companies doled out lots of stock options. And since these option grants did not show up in the income statements as a compensation expense, the companies that dispensed the grants were able to report much higher earnings than if they had paid equivalent amounts of compensation in cash. This practice provided no small benefit in the dot.com days, when “beating the estimate by a penny” could goose a stock by 30% or 40% in a single day.

As long as share prices were rising, no one cared that the expense of option grants landed squarely on the backs of common shareholders as a reduction of “shareholder equity.” But they should have. To satisfy the option grants, companies issued new shares. If the share count goes up without any underlying change to the balance sheet, each share of stock outstanding represents a smaller piece of the company and, therefore, is worth less than before.

Favored tactic #2: The share buy-back. This tactic is a very simple, and effective, executive-enrichment tool, especially when used in concert with tactic #1, the option grant. The share buy-back is exactly that, buying shares of the company with cash from the corporate treasury.

Not all buy-backs are bad, of course, but many are. A good buy-back uses corporate cash to buy the DEPRESSED shares of a company – e.g., buying one dollar of assets for fifty cents. A bad buyback does the opposite. But for some corporate insiders, nothing feels quite as good as a buyback that is bad…very, very bad.

An option-laden executive loves the buyback for two reasons: 1) It contributes some marginal buying interest to the marketplace, thereby helping to boost the share price and; 2) It reduces the number of shares outstanding, which helps to produce a more flattering earnings per share result.

Are you confused yet? You should be; Tactic #1 increases the share count. Tactic #2 DECREASES the share count.

The sinister nature of coordinated option grants and share buybacks becomes painfully clear when you realize that many, many American companies simply churn the number of share outstanding without producing a net benefit for the common shareholder. The churning activity does, however, produce an enormous benefit for company insiders.

Many, many other tactics – both legally fraudulent and overtly criminal – can combine to produce simultaneous wealth creation for management and wealth destruction for shareholders. Few played this game with greater audacity than the federally coddled GSEs, Fannie Mae and Freddie Mac.

In July 2003, my former colleagues at Apogee Research, led by a brilliant forensic accountant named Robert Tracy, observed, “For the two years ended December 2002, Fannie [Mae] lost $11.8 billion of asset value that was never reflected in its GAAP [accounting] calculations, while simultaneously reporting GAAP earnings of $10.5 billion. Had the lost asset value been included in Fannie’s GAAP net income, it would have booked losses for both years.”

Obviously, the difference between a profit of $10.5 billion and a loss of more than $1 billion during the years 2001 and 2002 would have seemed material to some investors – material enough to have kicked Fannie’s share price into cellar.

The list of abuses committed in the name of merit-based pay does not end with option grants and buybacks. Indeed, many of the merit-based compensation schemes do not erode shareholder value methodically. Instead, they place shareholder capital in extreme peril, solely for the sake of a rising share price. Let’s call this the “Wall Street Model.”

The main advantage of this tactic, from a CEO’s standpoint, is that criminal intent is much harder to prove. A CEO who causes his company to leverage up the balance sheet 45-to-1 and uses the leverage to buy risky securities that no pawnbroker would buy at any price can say, “Hey, it seemed like a good idea. Everyone else was doing it. Besides, it wasn’t even our fault. It was those damn short sellers that caused the problem!”

And if you believe that, then you might also believe that nominally capitalist enterprises always behave capitalistically. But they don’t. And neither does the American capitalistic system.

The “capitalists” on Wall Street probably imagine that their DNA descends from the likes of Henry Ford, Sam Walton, Bill Gates or some other legendary entrepreneur. But under the microscope of honest examination, Wall Street’s DNA appears almost identical to that of most DMV workers.

Like their DMV counterparts, Wall Street’s chieftains punch a clock each day, devise ways to work as little as possible, provide as little assistance to clients as possible, and periodically tabulate the value of their entitlements.

Stated simply, CEOs are not entrepreneurs. They are stewards of the owners’ capital. A good steward deserves a good reward…after the fact. A bad steward deserves a pink slip, and two weeks severance. A very bad steward deserves litigation.

But American capitalism has strayed very far from these simple precepts of appropriate compensation. Miserable CEOs make spectacular amounts of money. And recent attempts to bring compensation back into line with actual merit must face an indignant chorus of apologists who complain that government-mandated pay is anti-capitalist and interferes with the free market.

Really? Don’t trillion-dollar bailouts interfere just a little bit with the free market?

Wall Street’s version of “capitalism” seems to distinguish between different parts of a corporate balance sheet. Assets and revenues belong to the “capitalists;” liabilities and expenses belong to the government. I’ve got a four-letter word for that: Balderdash.

A capitalist takes responsibility for every part of the balance sheet and a truly free market treats assets and liabilities with ambivalence. A free market does not care if the assets belong to a sinner or a saint, or if the liabilities belong to high school dropout or a PhD in Economics. And a free market doesn’t give a hoot if the victims of financial mismanagement belong to a country club or a bowling league.

So if the truly free markets don’t care about these considerations, why should anyone else?

To conclude, we would like to issue both a word of caution and an apology. First, the word of caution: The fact that obscenely large executive compensation packages can still claim legions of defenders and apologists suggests that the financial crisis has not yet run its course. When merit-based compensation features more prison bracelets than option grants, the crisis may be drawing to a close…but not until then.

And now for our apology: We admit that comparing a Wall Street CEO to a DMV employee is neither exactly fair, nor exactly kind. We apologize, therefore, to all employees of the DMV.

Posted in Distribution of Wealth | Comments Off on Wall Street’s version of capitalism is a fraud wrapped inside a delusion

Your Bank is NOT Safe

Posted on April 14, 2014 by

PublicBankingTV : Your Money Is Not Safe in the Big Banks

August 25, 2013 by Ellen Brown

This 13 minute video explains the situation well, a couple of points made:

  • In 2014 the FDIC can only cover .25% of deposits and .008% of derivatives now.
  • Dodd-Frank assigns losses to unsecured creditors if there is another banking crash.  You are an unsecured creditor, so that means your money will be confiscated.
  • Solutions: a state-level public bank like North Dakota’s which treats funds as a utility and invests in local priorities, completely independent of risky wall street gambling tactics and not at risk of confiscation like the big banks.

How Safe is My FDIC-Insured Bank Account?

2008. Chris Martenson.  marketoracle.co.uk

Why cash is better than gold

 

How to preserve your wealth in the worst depression ever

 

Think Your Money is Safe in an Insured Bank Account? Think Again.

July 5, 2013 by Ellen Brown

Some excerpts:

A trend to shift responsibility for bank losses onto blameless depositors lets banks gamble away your money.

Who should bear the loss in the event of systemic collapse? The choices currently on the table are limited to taxpayers and bank creditors, including the largest class of creditor, the depositors. Imposing the losses on the profligate banks themselves would be more equitable , but if they have gambled away the money, they simply won’t have the funds.

The solution:

Real nationalization occurs when governments act in the public interest to take over private property. . . . Nationalizing the banks along these lines would mean that the government would supply the nation’s credit needs. The Treasury would become the source of new money, replacing commercial bank credit. Presumably this credit would be lent out for economically and socially productive purposes, not merely to inflate asset prices while loading down households and business with debt as has occurred under today’s commercial bank lending policies. 

Anne Sibert proposes another solution along those lines. Rather than imposing losses on either the taxpayers or the depositors, they could be absorbed by the central bank, which would have the power to simply write them off. As lender of last resort, the central bank (the ECB or the Federal Reserve) can create money with computer entries, without drawing it from elsewhere or paying it back to anyone.

That solution would allow the depositors to keep their deposits and would save the taxpayers from having to pay for a banking crisis they did not create. But there would remain the problem of “moral hazard” – the temptation of banks to take even greater risks when they know they can dodge responsibility for them. That problem could be avoided, however, by making the banks public utilities, mandated to operate in the public interest. And if they had been public utilities in the first place, the problems of bail-outs, bail-ins, and banking crises might have been averted altogether.

Winner Takes All: The Super-priority Status of Derivatives

April 9, 2013 by Ellen Brown

Derivatives have “super-priority” status in bankruptcy, and Dodd Frank precludes further taxpayer bailouts. In a big derivatives bust, there may be no collateral left for the creditors who are next in line.  

When governments are no longer willing to use taxpayer money to bail out banks that have gambled away their capital, the banks are now being instructed to “recapitalize” themselves by confiscating the funds of their creditors, turning debt into equity, or stock; and the “creditors” include the depositors who put their money in the bank thinking it was a secure place to store their savings. The Cyprus bail-in was not a one-off emergency measure but was consistent with similar policies already in the works for the US, UK, EU, Canada, New Zealand, and Australia, as detailed in my earlier articles here and here.  “Too big to fail” now trumps all.  Rather than banks being put into bankruptcy to salvage the deposits of their customers, the customers will be put into bankruptcy to save the banks.

Why Derivatives Threaten Your Bank Account

The big risk behind all this is the massive $230 trillion derivatives boondoggle managed by US banks. Derivatives are sold as a kind of insurance for managing profits and risk; but as Satyajit Das points out in Extreme Money, they actually increase risk to the system as a whole.

In the US after the Glass-Steagall Act was implemented in 1933, a bank could not gamble with depositor funds for its own account; but in 1999, that barrier was removed. Recent congressional investigations have revealed that in the biggest derivative banks, JPMorgan and Bank of America, massive commingling has occurred between their depository arms and their unregulated and highly vulnerable derivatives arms. Under both the Dodd Frank Act and the 2005 Bankruptcy Act, derivative claims have super-priority over all other claims, secured and unsecured, insured and uninsured. In a major derivatives fiasco, derivative claimants could well grab all the collateral, leaving other claimants, public and private, holding the bag.

The tab for the 2008 bailout was $700 billion in taxpayer funds, and that was just to start. Another $700 billion disaster could easily wipe out all the money in the FDIC insurance fund, which has only about $25 billion in it.  Both JPMorgan and Bank of America have over $1 trillion in deposits, and total deposits covered by FDIC insurance are about $9 trillion. According to an article on Bloomberg in November 2011, Bank of America’s holding company then had almost $75 trillion in derivatives, and 71% were held in its depository arm; while J.P. Morgan had $79 trillion in derivatives, and 99% were in its depository arm. Those whole mega-sums are not actually at risk, but the cash calculated to be at risk from derivatives from all sources is at least $12 trillion; and JPM is the biggest player, with 30% of the market.

It used to be that the government would backstop the FDIC if it ran out of money. But section 716 of the Dodd Frank Act now precludes the payment of further taxpayer funds to bail out a bank from a bad derivatives gamble. As summarized in a letter from Americans for Financial Reform quoted by Yves Smith:

Section 716 bans taxpayer bailouts of a broad range of derivatives dealing and speculative derivatives activities. Section 716 does not in any way limit the swaps activities which banks or other financial institutions may engage in. It simply prohibits public support for such activities.

There will be no more $700 billion taxpayer bailouts. So where will the banks get the money in the next crisis? It seems the plan has just been revealed in the new bail-in policies.

All Depositors, Secured and Unsecured, May Be at Risk

The bail-in policy for the US and UK is set forth in a document put out jointly by the Federal Deposit Insurance Corporation (FDIC) and the Bank of England (BOE) in December 2012, titled Resolving Globally Active, Systemically Important, Financial Institutions.

In an April 4th article in Financial Sense, John Butler points out that the directive does not explicitly refer to “depositors.”  It refers only to “unsecured creditors.”  But the effective meaning of the term, says Butler, is belied by the fact that the FDIC has been put on the job. The FDIC has direct responsibility only for depositors, not for the bondholders who are wholesale non-depositor sources of bank credit. Butler comments:

Do you see the sleight-of-hand at work here? Under the guise of protecting taxpayers, depositors of failing institutions are to be arbitrarily, de-facto subordinated to interbank claims, when in fact they are legally senior to those claims!

The FDIC was set up to ensure the safety of deposits. Now it, it seems, its function will be the confiscation of deposits to save Wall Street. In the only mention of “depositors” in the FDIC-BOE directive as it pertains to US policy, paragraph 47 says that “the authorities recognize the need for effective communication to depositors, making it clear that their deposits will be protected.” But protected with what? As with MF Global, the pot will already have been gambled away. From whom will the bank get it back? Not the derivatives claimants, who are first in line to be paid; not the taxpayers, since Congress has sealed the vault; not the FDIC insurance fund, which has a paltry $25 billion in it. As long as the derivatives counterparties have super-priority status, the claims of all other parties are in jeopardy.

That could mean not just the “unsecured creditors” but the “secured creditors,” including state and local governments. Local governments keep a significant portion of their revenues in Wall Street banks because smaller local banks lack the capacity to handle their complex business. In the US, banks taking deposits of public funds are required to pledge collateral against any funds exceeding the deposit insurance limit of $250,000. But derivative claims are also secured with collateral, and they have super-priority over all other claimants, including other secured creditors. The vault may be empty by the time local government officials get to the teller’s window. Main Street will again have been plundered by Wall Street.

Super-priority Status for Derivatives Increases Rather than Decreases Risk 

Harvard Law Professor Mark Row maintains that the super-priority status of derivatives needs to be repealed. He writes:

. . . [D]erivatives counterparties, . . . unlike most other secured creditors, can seize and immediately liquidate collateral, readily net out gains and losses in their dealings with the bankrupt, terminate their contracts with the bankrupt, and keep both preferential eve-of-bankruptcy payments and fraudulent conveyances they obtained from the debtor, all in ways that favor them over the bankrupt’s other creditors.

. . . [W]hen we subsidize derivatives and similar financial activity via bankruptcy benefits unavailable to other creditors, we get more of the activity than we otherwise would. Repeal would induce these burgeoning financial markets to better recognize the risks of counterparty financial failure, which in turn should dampen the possibility of another AIG-, Bear Stearns-, or Lehman Brothers-style financial meltdown, thereby helping to maintain systemic financial stability.

In The New Financial Deal: Understanding the Dodd-Frank Act and Its (Unintended) Consequences, David Skeel agrees. He calls the Dodd-Frank policy approach “corporatism” – a partnership between government and corporations. Congress has made no attempt in the legislation to reduce the size of the big banks or to undermine the implicit subsidy provided by the knowledge that they will be bailed out in the event of trouble.

Undergirding this approach is what Skeel calls “the Lehman myth,” which blames the 2008 banking collapse on the decision to allow Lehman Brothers to fail. Skeel counters that the Lehman bankruptcy was actually orderly, and the derivatives were unwound relatively quickly. Rather than preventing the Lehman collapse, the bankruptcy exemption for derivatives may have helped precipitate it.  When the bank appeared to be on shaky ground, the derivatives players all rushed to put in their claims, in a run on the collateral before it ran out. Skeel says the problem could be resolved by eliminating the derivatives exemption from the stay of proceedings that a bankruptcy court applies to other contracts to prevent this sort of run.

Putting the Brakes on the Wall Street End Game

Besides eliminating the super-priority of derivatives, here are some other ways to block the Wall Street asset grab:

(1) Restore the Glass-Steagall Act separating depository banking from investment banking. Support Marcy Kaptur’s H.R. 129.

(2) Break up the giant derivatives banks.  Support Bernie Sanders’ “too big to jail” legislation.

(3) Alternatively, nationalize the TBTFs, as advised in the New York Times by Gar Alperovitz.  If taxpayer bailouts to save the TBTFs are unacceptable, depositor bailouts are even more unacceptable.

(4) Make derivatives illegal, as they were between 1936 and 1982 under the Commodities Exchange Act. They can be unwound by simply netting them out, declaring them null and void.  As noted by Paul Craig Roberts, “the only major effect of closing out or netting all the swaps (mostly over-the-counter contracts between counter-parties) would be to take $230 trillion of leveraged risk out of the financial system.”

(5) Support the Harkin-Whitehouse bill to impose a financial transactions tax on Wall Street trading.  Among other uses, a tax on all trades might supplement the FDIC insurance fund to cover another derivatives disaster.

(5) Establish postal savings banks as government-guaranteed depositories for individual savings. Many countries have public savings banks, which became particularly popular after savings in private banks were wiped out in the banking crisis of the late 1990s.

(6) Establish publicly-owned banks to be depositories of public monies, following the lead of North Dakota, the only state to completely escape the 2008 banking crisis. North Dakota does not keep its revenues in Wall Street banks but deposits them in the state-owned Bank of North Dakota by law.  The bank has a mandate to serve the public, and it does not gamble in derivatives.

A motivated state legislature could set up a publicly-owned bank very quickly. Having its own bank would allow the state to protect both its own revenues and those of its citizens while generating the credit needed to support local business and restore prosperity to Main Street.

 

Europe Considers Wholesale Savings Confiscation, Enforced Redistribution

At first we thought Reuters had been punk’d in its article titled “EU executive sees personal savings used to plug long-term financing gap” which disclosed the latest leaked proposal by the European Commission, but after several hours without a retraction, we realized that the story is sadly true. Sadly, because everything that we warned about in “There May Be Only Painful Ways Out Of The Crisis” back in September of 2011, and everything that the depositors and citizens of Cyprus had to live through, seems on the verge of going continental. In a nutshell, and in Reuters’ own words, “the savings of the European Union’s 500 million citizens could be used to fund long-term investments to boost the economy and help plug the gap left by banks since the financial crisis, an EU document says.” What is left unsaid is that the “usage” will be on a purely involuntary basis, at the discretion of the “union”, and can thus best be described as confiscation.

The source of this stunner is a document seen be Reuters, which describes how the EU is looking for ways to “wean” the 28-country bloc from its heavy reliance on bank financing and find other means of funding small companies, infrastructure projects and other investment. So as Europe finally admits that the ECB has failed to unclog its broken monetary pipelines for the past five years – something we highlight every month (most recently in No Waking From Draghi’s Monetary Nightmare: Eurozone Credit Creation Tumbles To New All Time Low), the commissions report finally admits that “the economic and financial crisis has impaired the ability of the financial sector to channel funds to the real economy, in particular long-term investment.”

The solution? “The Commission will ask the bloc’s insurance watchdog in the second half of this year for advice on a possible draft law “to mobilize more personal pension savings for long-term financing”, the document said.”

Mobilize, once again, is a more palatable word than, say, confiscate.

And yet this is precisely what Europe is contemplating:

Banks have complained they are hindered from lending to the economy by post-crisis rules forcing them to hold much larger safety cushions of capital and liquidity.

The document said the “appropriateness” of the EU capital and liquidity rules for long-term financing will be reviewed over the next two years, a process likely to be scrutinized in the United States and elsewhere to head off any risk of EU banks gaining an unfair advantage.

But wait: there’s more!

Inspired by the recently introduced “no risk, guaranteed return” collectivized savings instrument in the US better known as MyRA, Europe will also complete a study by the end of this year on the feasibility of introducing an EU savings account, open to individuals whose funds could be pooled and invested in small companies.

Because when corporations refuse to invest money in Capex, who will invest? Why you, dear Europeans. Whether you like it or not.

But wait, there is still more!

Additionally, Europe is seeking to restore the primary reason why Europe’s banks are as insolvent as they are: securitizations, which the persuasive salesmen and sexy saleswomen of Goldman et al sold to idiot European bankers, who in turn invested the money or widows and orphans only to see all of it disappear.

It is also seeking to revive the securitization market, which pools loans like mortgages into bonds that banks can sell to raise funding for themselves or companies. The market was tarnished by the financial crisis when bonds linked to U.S. home loans began defaulting in 2007, sparking the broader global markets meltdown over the ensuing two years.

The document says the Commission will “take into account possible future increases in the liquidity of a number of securitization products” when it comes to finalizing a new rule on what assets banks can place in their new liquidity buffers. This signals a possible loosening of the definition of eligible assets from the bloc’s banking watchdog.

Because there is nothing quite like securitizing feta cheese-backed securities and selling it to a whole new batch of widows and orphans.

And topping it all off is a proposal to address a global change in accounting principles that will make sure that an accurate representation of any bank’s balance sheet becomes a distant memory:

More controversially, the Commission will consider whether the use of fair value or pricing assets at the going rate in a new globally agreed accounting rule “is appropriate, in particular regarding long-term investing business models”.

To summarize: forced savings “mobilization”, the introduction of a collective and involuntary CapEx funding “savings” account, the return and expansion of securitization, and finally, tying it all together, is a change to accounting rules that will make the entire inevitable catastrophe smells like roses until it all comes crashing down.

So, aside from all this, Europe is “fixed.”

The only remaining question is: why leak this now? Perhaps it’s simply because the reallocation of “cash on the savings account sidelines” in the aftermath of the Cyprus deposit confiscation, into risk assets was not forceful enough? What better way to give it a much needed boost than to leak that everyone’s cash savings are suddenly fair game in Europe’s next great wealth redistribution strategy.

 

 

Posted in Banking | Comments Off on Your Bank is NOT Safe

Ellen Brown’s Web of Debt blog

Posted on April 14, 2014 by

Brown’s Web of Debt blog and books are well researched and worthwhile reading, but she isn’t aware of the energy and resource crises, so her work isn’t fully informed.  But still, you can see that even without those larger issues, the financial system is so corrupt that it could easily topple on its own before energy and resource shortages force the system to collapse from ecological reasons.

Why Do Banks Want Our Deposits? Hint: It’s Not to Make Loans.

Oct 28, 2014 by Ellen Brown

Many authorities have said it: banks do not lend their deposits. They create the money they lend on their books.  Robert B. Anderson, Treasury Secretary under Eisenhower, said it in 1959:

When a bank makes a loan, it simply adds to the borrower’s deposit account in the bank by the amount of the loan. The money is not taken from anyone else’s deposits; it was not previously paid in to the bank by anyone. It’s new money, created by the bank for the use of the borrower.

The Bank of England said it in the spring of 2014, writing in its quarterly bulletin:

The reality of how money is created today differs from the description found in some economics textbooks: Rather than banks receiving deposits when households save and then lending them out, bank lending creates deposits. . . . Whenever a bank makes a loan, it simultaneously creates a matching deposit in the borrower’s bank account, thereby creating new money.

All of which leaves us to wonder: If banks do not lend their depositors’ money, why are they always scrambling to get it? Banks advertise to attract depositors, and they pay interest on the funds. What good are our deposits to the bank?

The answer is that while banks do not need the deposits to create loans, they do need to balance their books; and attracting customer deposits is usually the cheapest way to do it.

Reckoning with the Fed

Ever since the Federal Reserve Act was passed in 1913, banks have been required to clear their outgoing checks through the Fed or another clearinghouse. Banks keep reserves in reserve accounts at the Fed for this purpose, and they usually hold the minimum required reserve. Attracting customer deposits, called “retail deposits,” is a cheap way to do it. But if the bank lacks retail deposits, it can borrow in the money markets, typically the Fed funds market where banks sell their “excess reserves” to other banks. These purchased deposits are called “wholesale deposits.” Borrowing from the Fed funds market is pretty inexpensive – a mere 0.25% interest yearly for overnight loans. But it’s still more expensive than borrowing from the bank’s own depositors.

That is one reason banks try to attract depositors, but there is another, more controversial reason. In response to the 2008 credit crisis, the Bank for International Settlements (Basel III), the Dodd-Frank Act, and the Federal Reserve have limited the amount of wholesale deposits banks can borrow.

 

Usurious Returns on Phantom Money: The Credit Card Gravy Train

February 14, 2014 by Ellen Brown

The credit card business is now the banking industry’s biggest cash cow, and it’s largely due to lucrative hidden fees. 

You pay off your credit card balance every month, thinking you are taking advantage of the “interest-free grace period” and getting free credit. You may even use your credit card when you could have used cash, just to get the free frequent flier or cash-back rewards. But those popular features are misleading. Even when the balance is paid on time every month, credit card use imposes a huge hidden cost on users—hidden because the cost is deducted from what the merchant receives, then passed on to you in the form of higher prices.

Visa and MasterCard charge merchants about 2% of the value of every credit card transaction, and American Express charges even more. That may not sound like much. But consider that for balances that are paid off monthly (meaning most of them), the banks make 2% or more on a loan averaging only about 25 days (depending on when in the month the charge was made and when in the grace period it was paid). Two percent interest for 25 days works out to a 33.5% return annually (1.02^(365/25) – 1), and that figure may be conservative.

Merchant fees were originally designed as a way to avoid usury and Truth-in-Lending laws. Visa and MasterCard are independent entities, but they were set up by big Wall Street banks, and the card-issuing banks get about 80% of the fees. The annual returns not only fall in the usurious category, but they are returns on other people’s money – usually the borrower’s own money!  Here is how it works . . . .

Winner Takes All: The Super-priority Status of Derivatives

Posted on April 9, 2013 by Ellen Brown

The Global Banking Game Is Rigged, and the FDIC Is Suing

April 13, 2014 by Ellen Brown

Taxpayers are paying billions of dollars for a swindle pulled off by the world’s biggest banks, using a form of derivative called interest-rate swaps; and the Federal Deposit Insurance Corporation has now joined a chorus of litigants suing over it. According to an SEIU report:

Derivatives . . . have turned into a windfall for banks and a nightmare for taxpayers. . . . While banks are still collecting fixed rates of 3 to 6 percent, they are now regularly paying public entities as little as a tenth of one percent on the outstanding bonds, with rates expected to remain low in the future. Over the life of the deals, banks are now projected to collect billions more than they pay state and local governments – an outcome which amounts to a second bailout for banks, this one paid directly out of state and local budgets.

It is not just that local governments, universities and pension funds made a bad bet on these swaps. The game itself was rigged, as explained below. The FDIC is now suing in civil court for damages and punitive damages, a lead that other injured local governments and agencies would be well-advised to follow. But they need to hurry, because time on the statute of limitations is running out. Continue reading →

Usurious Returns on Phantom Money: The Credit Card Gravy Train

February 14, 2014 by Ellen Brown

The credit card business is now the banking industry’s biggest cash cow, and it’s largely due to lucrative hidden fees. 

You pay off your credit card balance every month, thinking you are taking advantage of the “interest-free grace period” and getting free credit. You may even use your credit card when you could have used cash, just to get the free frequent flier or cash-back rewards. But those popular features are misleading. Even when the balance is paid on time every month, credit card use imposes a huge hidden cost on users—hidden because the cost is deducted from what the merchant receives, then passed on to you in the form of higher prices. Continue reading →

Prosperity For Main Street, Not Wall Street

February 4, 2014

Enough Is Enough: Fraud-ridden Banks Are Not L.A.’s Only Option

January 29, 2014 by Ellen Brown

“Epic in scale, unprecedented in world history.” That is how William K. Black, professor of law and economics and former bank fraud investigator, describes the frauds in which JPMorgan Chase (JPM) has now been implicated. They involve more than a dozen felonies, including bid-rigging on municipal bond debt; colluding to rig interest rates on hundreds of trillions of dollars in mortgages, derivatives and other contracts; exposing investors to excessive risk; failing to disclose known risks, including those in the Bernie Madoff scandal; and engaging in multiple forms of mortgage fraud.

So why, asks Chicago Alderwoman Leslie Hairston, are we still doing business with them? Continue reading →

From Austerity to Abundance: Why I Am Running for California Treasurer

 January 15, 2014 by Ellen Brown

100 Years Is Enough: Time to Make the Fed a Public Utility

 December 22, 2013 by Ellen Brown

Amend the Fed: We Need a Central Bank that Serves Main Street

 December 7, 2013 by Ellen Brown

December 23rd marks the 100th anniversary of the Federal Reserve. Dissatisfaction with its track record has prompted calls to audit the Fed and end the Fed. At the least, Congress needs to amend the Fed, modifying the Federal Reserve Act to give the central bank the tools necessary to carry out its mandates.

The Federal Reserve is the only central bank with a dual mandate. It is charged not only with maintaining low, stable inflation but with promoting maximum sustainable employment. Yet unemployment remains stubbornly high, despite four years of radical tinkering with interest rates and quantitative easing (creating money on the Fed’s books). After pushing interest rates as low as they can go, the Fed has admitted that it has run out of tools. Continue reading →

What We Could Do with a Postal Savings Bank: Infrastructure that Doesn’t Cost Taxpayers a Dime

September 23, 2013 by Ellen Brown

The U.S. Postal Service (USPS) is the nation’s second largest civilian employer after WalMart. Although successfully self-funded throughout its long history, it is currently struggling to stay afloat. This is not, as sometimes asserted, because it has been made obsolete by the Internet. In fact the post office has gotten more business from Internet orders than it has lost to electronic email. What has pushed the USPS into insolvency is an oppressive 2006 congressional mandate that it prefund healthcare for its workers 75 years into the future. No other entity, public or private, has the burden of funding multiple generations of employees who have not yet even been born.

The Carper-Coburn bill (S. 1486) is the subject of congressional hearings this week. It threatens to make the situation worse, by eliminating Saturday mail service and door-to-door delivery and laying off more than 100,000 workers over several years.

The Postal Service Modernization Bills brought by Peter DeFazio and Bernie Sanders, on the other hand, would allow the post office to recapitalize itself by diversifying its range of services to meet unmet public needs.

Needs that the post office might diversify into include (1) funding the rebuilding of our crumbling national infrastructure; (2) servicing the massive market of the “unbanked” and “underbanked” who lack access to basic banking services; and (3) providing a safe place to save our money, in the face of Wall Street’s new “bail in” policies for confiscating depositor funds. All these needs could be met at a stroke by some simple legislation authorizing the post office to revive the banking services it efficiently performed in the past. Continue reading →

The Armageddon Looting Machine: The Looming Mass Destruction from Derivatives

September 17, 2013 by Ellen Brown

Increased regulation and low interest rates are driving lending from the regulated commercial banking system into the unregulated shadow banking system. The shadow banks, although free of government regulation, are propped up by a hidden government guarantee in the form of safe harbor status under the 2005 Bankruptcy Reform Act pushed through by Wall Street. The result is to create perverse incentives for the financial system to self-destruct.

Five years after the financial collapse precipitated by the Lehman Brothers bankruptcy on September 15, 2008, the risk of another full-blown financial panic is still looming large, despite the Dodd Frank legislation designed to contain it. As noted in a recent Reuters article, the risk has just moved into the shadows:

[B]anks are pulling back their balance sheets from the fringes of the credit markets, with more and more risk being driven to unregulated lenders that comprise the $60 trillion “shadow-banking” sector. Continue reading →

The Leveraged Buyout of America

August 26, 2013 by Ellen Brown

Giant bank holding companies now own airports, toll roads, and ports; control power plants; and store and hoard vast quantities of commodities of all sorts. They are systematically buying up or gaining control of the essential lifelines of the economy. How have they pulled this off, and where have they gotten the money?

In a letter to Federal Reserve Chairman Ben Bernanke dated June 27, 2013, US Representative Alan Grayson and three co-signers expressed concern about the expansion of large banks into what have traditionally been non-financial commercial spheres. Specifically:

[W]e are concerned about how large banks have recently expanded their businesses into such fields as electric power production, oil refining and distribution, owning and operating of public assets such as ports and airports, and even uranium mining. Continue reading →

PublicBankingTV : Your Money Is Not Safe in the Big Banks

August 25, 2013 by Ellen Brown

Not Too Big to Jail: Why Eliot Spitzer Is Wall Street’s Worst Nightmare

August 19, 2013 by Ellen Brown

Before Eliot Spitzer’s infamous resignation as governor of New York in March 2008, he was one of our fiercest champions against Wall Street corruption, in a state that had some of the toughest legislation for controlling the banks. It may not be a coincidence that the revelation of his indiscretions with a high-priced call girl came less than a month after he published a bold editorial in the Washington Post titled “Predatory Lenders’ Partner in Crime: How the Bush Administration Stopped the States from Stepping in to Help Consumers.”  The editorial exposed the collusion between the Treasury, the Federal Reserve and Wall Street in deregulating the banks in the guise of regulating them, by taking regulatory power away from the states. It was an issue of the federal government versus the states, with the Feds representing the banks and the states representing consumers.

The Detroit Bail-In Template: Fleecing Pensioners to Save the Banks

August 5, 2013 by Ellen Brown

The Detroit bankruptcy is looking suspiciously like the bail-in template originated by the G20’s Financial Stability Board in 2011, which exploded on the scene in Cyprus in 2013 and is now becoming the model globally. In Cyprus, the depositors were “bailed in” (stripped of a major portion of their deposits) to re-capitalize the banks. In Detroit, it is the municipal workers who are being bailed in, stripped of a major portion of their pensions to save the banks.

Collateral Damage: QE3 and the Shadow Banking System

July 22, 2013 by Ellen Brown

Rather than expanding the money supply, quantitative easing (QE) has actually caused it to shrink by sucking up the collateral needed by the shadow banking system to create credit. The “failure” of QE has prompted the Bank for International Settlements to urge the Fed to shirk its mandate to pursue full employment, but the sort of QE that could fulfill that mandate has not yet been tried.

Think Your Money is Safe in an Insured Bank Account? Think Again.

 July 5, 2013 by Ellen Brown

A trend to shift responsibility for bank losses onto blameless depositors lets banks gamble away your money.

Elizabeth Warren’s QE for Students: Populist Demagoguery or Economic Breakthrough?

June 14, 2013 by Ellen Brown

On July 1, interest rates will double for millions of students – from 3.4% to 6.8% – unless Congress acts; and the legislative fixes on the table are largely just compromises. Only one proposal promises real relief – Sen. Elizabeth Warren’s “Bank on Students Loan Fairness Act.” This bill has been dismissed out of hand as “shameless populist demagoguery” and “a cheap political gimmick,” but is it? Or could Warren’s outside-the-box bill represent the sort of game-changing thinking sorely needed to turn the economy around?

Bail-out Is Out, Bail-in Is In: Time for Some Publicly-Owned Banks

April 29, 2013 by Ellen Brown

“[W]ith Cyprus . . . the game itself changed. By raiding the depositors’ accounts, a major central bank has gone where they would not previously have dared. The Rubicon has been crossed.”  —Eric Sprott, Shree Kargutkar, “Caveat Depositor”

The crossing of the Rubicon into the confiscation of depositor funds was not a one-off emergency measure limited to Cyprus.  Similar “bail-in” policies are now appearing in multiple countries.  (See my earlier articles here.)  What triggered the new rules may have been a series of game-changing events including the refusal of Iceland to bail out its banks and their depositors; Bank of America’s commingling of its ominously risky derivatives arm with its depository arm over the objections of the FDIC; and the fact that most EU banks are now insolvent.  A crisis in a major nation such as Spain or Italy could lead to a chain of defaults beyond anyone’s control, and beyond the ability of federal deposit insurance schemes to reimburse depositors.

Winner Takes All: The Super-priority Status of Derivatives

April 9, 2013 by Ellen Brown

Cyprus-style confiscation of depositor funds has been called the “new normal.”  Bail-in policies are appearing in multiple countries directing failing TBTF banks to convert the funds of “unsecured creditors” into capital; and those creditors, it turns out, include ordinary depositors. Even “secured” creditors, including state and local governments, may be at risk.  Derivatives have “super-priority” status in bankruptcy, and Dodd Frank precludes further taxpayer bailouts. In a big derivatives bust, there may be no collateral left for the creditors who are next in line.  

It Can Happen Here: The Confiscation Scheme Planned for US and UK Depositors

March 28, 2013 by Ellen Brown

Confiscating the customer deposits in Cyprus banks, it seems, was not a one-off, desperate idea of a few Eurozone “troika” officials scrambling to salvage their balance sheets. A joint paper by the US Federal Deposit Insurance Corporation and the Bank of England dated December 10, 2012, shows that these plans have been long in the making; that they originated with the G20 Financial Stability Board in Basel, Switzerland (discussed earlier here); and that the result will be to deliver clear title to the banks of depositor funds.

How the Fed Could Fix the Economy—and Why It Hasn’t

February 24, 2013 by Ellen Brown

It’s the Interest, Stupid! Why Bankers Rule the World

November 8, 2012 by Ellen Brown

QE Infinity: What Is It Really About?

October 3, 2012 by Ellen Brown

Catherine Austin Fitts recently posted a revealing article on that enigma.  She says the true goal of QE Infinity is to unwind the toxic mortgage debacle, in a way that won’t bankrupt pensioners or start another war:

The challenge for Ben Bernanke and the Fed governors since the 2008 bailouts has been how to deal with the backlog of fraud – not just fraudulent mortgages and fraudulent mortgage securities but the derivatives piled on top and the politics of who owns them, such as sovereign nations with nuclear arsenals, and how they feel about taking massive losses on AAA paper purchased in good faith.

On one hand, you could let them all default. The problem is the criminal liabilities would drive the global and national leadership into factionalism that could turn violent, not to mention what such defaults would do to liquidity in the financial system. Then there is the fact that a great deal of the fraudulent paper has been purchased by pension funds. So the mark down would hit the retirement savings of the people who have now also lost their homes or equity in their homes. The politics of this in an election year are terrifying for the Administration to contemplate.

How can the Fed make the investors whole without wreaking havoc on the economy?  Using its QE tool, it can quietly buy up toxic mortgage-backed securities (MBS) with money created on a computer screen.

 

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