What A Bailout Is And Is Not: Or Why You Should Run Away From Your Debt

There is a fundamental disconnect among many people about what they think is a “bailout,” and what a bailout actually is.  This disconnect is well represented by the bumper sticker off to the right.  The simple fact is that, with the exception of a couple people who had their notes canceled by the courts due to fraud, bad faith, a lack of standing, or other misconduct, no mortgage holder anywhere in the United States have ever received a government bailout. Period.

Rather, bailouts are all about protecting creditors, or the bondholders of creditors, by protecting their payment stream.  For example, Fannie and Freddie’s exist to buy up so-called “conforming” mortgages, and then they securitize them and sell them to large institutional investors, such as pension funds, university endowments, etc.  These investors are not, however, true investors because they are not adopting the risk of default.  If a large group of mortgages in the securitization pool default, i.e. the people stop making the payment, the investors still get paid.

Now, the mortgage holder (homedebtor, “homeowner,” whatever you want to call them) still loses the house.  Same with student loans, the securitized student loan is guaranteed by the government, so when the grad school grad can’t make the payments, it doesn’t matter to the “investor.”  But the graduate still goes into default, has his or her wages garnished, gets hit with tens of thousands in fees and collection costs, and has to leave the county to have any chance of a normal life.

The bailouts are a one-way ratchet in favor of the creditors.  They do not help the debtor at all – in fact because everything is guaranteed, it creates a perverse incentive for banks and finance companies to push ever-increasing levels of leverage (aka debt) onto those too stupid, too young, too desperate, or too optimistic to really understand what they’re getting themselves into.

For the most part, the bailouts simply make the rest of the outstanding credit markets work like the mortgage and student loan markets.  Have Greek debt?  No worries, slick, the ECB will make the payments and impose austerity on the Greek population!  Own securitized car loans?  Not a problem, it’s all on the Fed’s balance sheet now!  But this does the debtor precisely zero good.

Instead, the guarantees and the bailouts have driven the level of household leverage from 40% 50 years ago to more than 110% of household income today.  The only other time in American history where household debt levels were anywhere close to where they are today was right before the Great Depression struck in the late 1920s.

You can guarantee the debt from now until pigs take wing, and it does absolutely nothing to reduce the level of debt.  In fact, a “bailout” often just makes things worse, while giving the creditors free rein of the public fisc.  For example, take this interview with the former head of the German Central Bank, or Bundesbank:

Pöhl: All the same, it was a mistake. That much is completely clear. I would also have expected the (European) Commission and the ECB to intervene far earlier. They must have realized that a small, indeed a tiny, country like Greece, one with no industrial base, would never be in a position to pay back €300 billion worth of debt.

SPIEGEL: According to the rescue plan, it’s actually €350 billion …

Pöhl: … which that country has even less chance of paying back. Without a “haircut,” a partial debt waiver, it cannot and will not ever happen. So why not immediately? That would have been one alternative. The European Union should have declared half a year ago — or even earlier — that Greek debt needed restructuring.

SPIEGEL: But according to Chancellor Angela Merkel, that would have led to a domino effect, with repercussions for other European states facing debt crises of their own.

Pöhl: I do not believe that. I think it was about something altogether different.

SPIEGEL: Such as?

Pöhl: It was about protecting German banks, but especially the French banks, from debt write offs. On the day that the rescue package was agreed on, shares of French banks rose by up to 24 percent. Looking at that, you can see what this was really about — namely, rescuing the banks and the rich Greeks.

SPIEGEL: In the current crisis situation, and with all the turbulence in the markets, has there really been any opportunity to share the costs of the rescue plan with creditors?

Pöhl: I believe so. They could have slashed the debts by one-third. The banks would then have had to write off a third of their securities.

SPIEGEL: There was fear that investors would not have touched Greek government bonds for years, nor would they have touched the bonds of any other southern European countries.

Pöhl: I believe the opposite would have happened. Investors would quickly have seen that Greece could get a handle on its debt problems. And for that reason, trust would quickly have been restored. But that moment has passed. Now we have this mess.

That excerpt is worth reading twice.  First, recognize that the Greek bailout is not a bailout of Greece at all, it merely protects the large banks and rich Greeks that are holders of the sovereign debt.  But more importantly, Pohl argues that the best thing you can do to restore fiscal confidence is not to layer on even more debt to pay off prior debt, which is a type of greater fool theory (with the other Eurozone governments, the IMF, and ECB being the greater fool).  Rather, the way to restore confidence and fiscal sanity to slash the amount of debt owed by the debtor.

Now, we over here at AFEP, would call that a “duh,” but it’s nice to see that those with some skin in the game are starting to get a clue about that reality.  On Saturday, we praised the Anecdotal Economist for recognizing the wisdom of walking from debt.

And today, Yves Smith over at Naked Capitalism has a guest post similarly discussing the wisdom, even necessity, or default – mass default!

What we are experiencing is called the global credit crisis for a reason. There is too much debt in the world. More and more economists are talking about the threat of a deflationary crisis ahead. What does this mean for you? Well, if you have a house that is under water, or more debt than you can reasonably hope to repay, your best options may be the unthinkable. But it really should not be unthinkable to default on a loan or even to declare bankruptcy.

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When debt exceeds a certain level it becomes a cancer on society. Easy credit fuels speculation which triggers bubbles. These bubbles lead to a temporary lift in apparent wealth, which increases economic activity beyond its sustainable level. But eventually more and more debt triggers economic decline with the inevitable glut of goods produced by an overheated economy.

What people are discovering too late is that their debt is not repayable. Ever. They once had a hope they could wait out their bad times. This is true of many homeowners, many businesses and many governmental bodies. The “great unwind” is going to be deflationary. Prices and salaries will decline, jobs will become more scarce, and debt will continue to increase.

The earlier you pull the rip cord the better off you will be later.

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There should no longer be any moral question about whether it is wrong to walk away from debt legally. The advent of limited liability corporations and the legal ‘personhood’ of corporate shells have allowed business to create one sided bets for years, and they happily walk away when the tide shifts. This is the calculus of 21st century finance, and you are a bit player in this game.
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The economy will continue to stagnate, and unemployment will increase. Asset values will continue to decrease until the defaults begin. When the rot is finally purged from our system, the great American wealth machine will start anew. It is time to party like its 1454. Start your own personal debt jubilee.

This is exactly right.  Exactly.  The amount of debt sloshing around American households, companies, and governments at every level (not to mention the rest of the world!) is a giant sinkhole that will swallow the economy for decades or more unless we get rid of it.

I’ve said many times that the most profound political statement that you can make is not to just walk away from your debt, but to run.  Send Sallie Mae a photocopy of your ass and hop a flight to Brazil, stop paying your mortgage and enjoy the year+ before they kick you out, make a youtube of you setting your bills on fire, or choose your own form of protest.

Just do it!  It’s the right thing to do!

Hic Sunt Dracones: Here Be Dragons

European cartographers in the middle ages often represented far away lands or distant oceans as inhabited by strange and terrifying creatures.  Dragons worked as a convenient shorthand for the fear and anxiety of the unknown.  While there are few truly unexplored and unmapped geographical areas anymore – the ocean deeps being about the only real example I can think of – that doesn’t mean there’s nothing new under the sun.

Of course, history is replete with speculative bubbles, global recessions, deflation, international trade collapses, and heavily indebted households.  But those periods have always passed, indeed our political and economic betters are almost sanguine about the great recession because, hey, deeper the recession the faster the bounce back.  But they’re wrong, and as anyone who has read this blog knows I don’t think much of the economic “recovery,” not only are the GDP and employment numbers truly pathetic for any kind of v-shaped recovery, but the stimulus – primarily in the form of attempting to artificially prop up financial asset prices – means that the price signals have become totally disconnected from reality.

Put simply, what we have never before seen is a globally-interconnected financial system and financial elite, where even relatively small fluctuations in prices can set off global panics, turbocharged with HFT systems and their triggers amplifying what historically might have been localized financial panics.  Because of the globally-interconnected financial system, and the same small group pulling the levers of political power in just about every economically relevant country in the world, we end up with a massive and globally coordinated effort to 1) minimize wage inflation everywhere, while simultaneously 2) prop up financial asset prices.  That’s why Wall Street and the global elites are back in the game, while everyone else suffers from declining wages, increasingly harsh limitations on bankruptcy, and price increases on commodities that are widely traded in financial circles, e.g. oil, food, precious metals, etc.

And a situation like this is unique in history.  Wage inflation is being throttled to prevent even a minimal decline in the value of financial assets, which means debts can’t be paid back, except through government guarantees.  But the government guarantees and the “liquidity support” initiatives kill any actual and accurate realignment of prices between what people can afford to pay in a declining wage environment, and what the commodities are worth to traders playing with government money.

China is building empty cities, here in the U.S. the government is giving people money to buy cars and houses and guaranteeing everything under the sun rather than letting prices fall to a more natural level, Europe is about to bail out Greece’s creditors (not, actually, Greece, natch) with the rest of Club Med on the horizon.  Thrice screwed is the taxpaying wage slave – once by their declining income (thanks to the Fed defining inflation primarily in terms of wages), twice by bailing out creditors whenever something goes wrong, and yet again by the persistence and increasing value of their debt obligations in real terms.  If you can think of a historical analogue to this state of affairs globally, I’d love to hear it – even the great depression really only lasted from 1929-1933, with a with a relapse from 1938 until WWII kicked into gear.

So here we are, in uncharted territory.  Even leaving aside wildcards like peak oil, global warming, nuclear terrorism, or a host of other possible black swans, the question is: is there a way out?  And, if there is, I don’t see it.  The amount of debt at all levels sloshing around the world, household, small business, sovereign, is astronomical, and can only, only be paid back through massive inflation.  But inflation is not some magical pony, it actually needs to pass through to wage earners and small businesses before they can pay off their debt, and pay taxes on it to relieve sovereign debt burdens, but that is not being permitted.

In fact, we’re possibly only months away from wage deflation at the average level, and are likely already there at the median level:

And outside the financial sector, pricing power is a complete joke:

As David Rosenberg put it:

Moreover, the price deflator for the corporate sector was a mere +0.6% at annual rate in Q1 and +0.1% on a YoY basis.  In other words, the corporate sector, notwithstanding the profits rebound, which has been centered more in financials than in industrials, is 10 basis points shy of outright deflation.

The inflation is limited to the financial elites and their financial market speculations.  It is not only not doing real people any good, it is actually harming them by driving up commodity prices.  Economics is not driving this.  This is an economic nightmare of epic proportions, because the governments of the world have been completely captured by a small and incredibly powerful economic elite that that is pulling the levers of governmental power to enrich themselves, and screw you.

I’m not one for conspiracy theories, but we’re seeing it happen in real time.  It should not be permitted to continue.

People Are Stupid, Part CMLXXXVII – Learn It, Live It, Love It

Complexity is the handmaiden of failure, especially when it comes to public policy.  Long lasting and popular programs, like Medicare and Social Security, are relatively straightforward at the individual level.  Basically, in programs done right – the government just says, “you’re in” sends you are card – or something – and then takes some of your money, and when you need the program it’s there.

Poorly designed programs are a clusterfuck of requirements and mandates and traps for the unwary, that cause massive confusion, they don’t wok very well, and are set up to fail on a massive scale.

WASHINGTON — Two weeks after President Barack Obama signed the big health care overhaul into law, Americans are struggling to understand how — and when — the sweeping measure will affect them.

Questions reflecting confusion have flooded insurance companies, doctors’ offices, human resources departments and business groups.

“They’re saying, ‘Where do we get the free Obama care, and how do I sign up for that?’ ” said Carrie McLean, a licensed agent for eHealthInsurance.com. The California-based company sells coverage from 185 health insurance carriers in 50 states.

McLean said the call center had been inundated by uninsured consumers who were hoping that the overhaul would translate into instant, affordable coverage. That widespread misconception may have originated in part from distorted rhetoric about the legislation bubbling up from the hyper-partisan debate about it in Washington and some media outlets, such as when opponents denounced it as socialism.

The root problem here isn’t scare mongering and misinformation, it’s the human condition and the fucked up nature of the program itself.  People are busy and distracted, and plenty more are simply lazy and stupid.  So it has always been, and so it will always be.  Setting up a program that is a clusterfuck of requirements, with certain benefits showing up now, and others showing up later, and forcing people to choose between paying off Capital One and hopping on the exchange to buy insurance, and similarly forcing people to apply for subsidies to buy the insurance on the exchange is utterly insane.

You may as well send out the Blue Angels to skywrite, YOU WILL NEVER FIGURE OUT HOW TO USE THE HEALTH CARE PROGRAM, SO YOUR LIFE IS STILL GOING TO SUCK!!!

The Obama administration is embarking on a years-long public education campaign about the overhaul, including a Web component. However, much of the guidance will depend on Department of Health and Human Services regulations that are still being developed.

Yup, good luck with that.  On a somewhat brighter note, my mission to encourage default on a massive scale is, at least getting a few legs.  Matt Taibbi takes a look at Max Keiser’s call for Greece to simply default on the Goldman bonds that fucked up its public accounts, and notes:

But I think Keiser’s idea does underline an important point about the situation, which is that as powerful as these Wall Street banks may seem, they are also exquisitely vulnerable. Right now virtually all of them are dependent upon the government keeping accounting standards lax enough for all of them to claim to be functional businesses. It is generally accepted that if the major banks on Wall Street were forced to mark all of their assets to market tomorrow, they would all be either insolvent or close to it.

Thus their “healthy” financial status is already illusory. So imagine what would happen if large numbers of those dubious loans on their balance sheets that they have marked down  as “performing” were suddenly pushed ahead of time into the default column. What if Greece, and the Pennsylvania school system, and Jefferson County, Alabama, and the countless other municipalities and states that are wrapped up in these corrupt deals just decided to declare their debts illegitimate and back out?

That is exactly what needs to happen.  We can’t have any sort of real economic recovery until the stock of debt is gone.  Look, all those nimrods out there that are saying that we’ve accomplished tremendous deleveraging in just a couple years are fucking idiots.  All that’s happened is that small amounts of debt has been written off of the balance sheets of some of the banks – let me emphasize that it is a small amount of the debt that will never be paid back – and has simply been bought up by collection agencies, who are going around giving people huge paycuts that accomplish little in terms of actually resolving the situation.

Debt counseling or consolidation, IBR, or other such bullshit is just fucking useless.  It’s the same sort of complicated nonsense that destines the health care plan to be an complete failure. Our problems (debt being the most serious, but health care is on the list) are deep, structural, and severe.  We need blunt instruments to wipe the slate clean, so we can start rebuilding a real economy and a health care system that is something other than a Rube Goldberg machine.

Nothing else will even begin to work – nothing.

Bomb Explodes At JP Morgan Chase In Athens

There is a limit to how hard and how far you can push people.  Don’t hate me, I’m just the messenger:

Police in the Greek capital say a bomb has exploded at the offices of American financial services firm J.P. Morgan Chase Co., causing no injuries.

Dear PTB, get out in front of this, and that means reducing debt.  Nothing else matters nearly as much.

This is likely just the beginning.

Volcker Says ATMs a Useful Financial Innovation – I Say Banksters Have Been Forcing Us to go ATM for Years

In today’s edition of the what-the-fuck chronicles, it turns out that the Greek sovereign debt, you know the debt that threatens to bring down the Eurozone, was manipulated with the help of the finest Wall Street banksters.  Most prominently Goldman Sachs (don’t forget to take the poll in this post) and JP Morgan Chase (home of my two bestest buddies Jamie Dimon and Lloyd Blankfein):

Wall Street tactics akin to the ones that fostered subprime mortgages in America have worsened the financial crisis shaking Greece and undermining the euro by enabling European governments to hide their mounting debts.

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Even as the crisis was nearing the flashpoint, banks were searching for ways to help Greece forestall the day of reckoning. In early November — three months before Athens became the epicenter of global financial anxiety — a team from Goldman Sachs arrived in the ancient city with a very modern proposition for a government struggling to pay its bills, according to two people who were briefed on the meeting.

The bankers, led by Goldman’s president, Gary D. Cohn, held out a financing instrument that would have pushed debt from Greece’s health care system far into the future, much as when strapped homeowners take out second mortgages to pay off their credit cards.

It had worked before. In 2001, just after Greece was admitted to Europe’s monetary union, Goldman helped the government quietly borrow billions, people familiar with the transaction said. That deal, hidden from public view because it was treated as a currency trade rather than a loan, helped Athens to meet Europe’s deficit rules while continuing to spend beyond its means.

Ha!  This is just fucking amazing.  I guess the thinking goes, it’s a currency trade, so it won’t affect the deficit, which could undermine the currency union.  Brilliant!  This is exactly the kind of financial innovation that earns folks like Blankfein and Dimon the big bucks.  Though I’ll give Paul Volcker some credit for pointing out that most financial innovation is horseshit:

Volcker, a veteran of the financial world and currently chairman of President Obama’s Economic Recovery Advisory Board, spoke on Tuesday at the Future of Finance Initiative conference, organized by the Wall Street Journal.

Amid throngs of bankers arguing that new regulations should not impede on financial “innovation,” Volcker pushed back, blasting Wall Street’s increasingly complex financial products as useless to economic growth. In what seems to have been a shot at exotic securities, he named the ATM cash machine as the most successful financial innovation in the past 20 years, the Times reported.

I like big Paul well enough, and his ATM comment was a cute dig against the alphabet soup of exotic shitpaper that brought the global economy to its knees.  But it’s another kind of ATM that more accurately describes the relationship between the Wall Street banksters and the governments and people of the world.  They’ve got us bent over and on our knees.

Want your life back?  Then stop paying the motherfuckers.

Update: Simon Johnson is reporting some good news.  The Europeans may conduct an audit of Goldman’s European activities:

We now learn – from Der Spiegel last week and today’s NYT – that Goldman Sachs has not only helped or encouraged some European governments to hide a large part of their debts, but it also endeavored to do so for Greece as recently as last November.  These actions are fundamentally destabilizing to the global financial system, as they undermine: the eurozone area; all attempts to bring greater transparency to government accounting; and the most basic principles that underlie well-functioning markets.  When the data are all lies, the outcomes are all bad – see the subprime mortgage crisis for further detail.

A single rogue trader can bring down a bank – remember the case of Barings.  But a single rogue bank can bring down the world’s financial system.

Goldman will dismiss this as “business as usual” and, to be sure, a few phone calls around Washington will help ensure that Goldman’s primary supervisor – now the Fed – looks the other way.

But the affair is now out of Ben Bernanke’s hands, and quite far from people who are easily swayed by the White House.  It goes immediately to the European Commission, which has jurisdiction over eurozone budget issues.  Faced with enormous pressure from those eurozone countries now on the hook for saving Greece, the Commission will surely launch a special audit of Goldman and all its European clients.

But you have to read a little further for the really good news:

Instead, Goldman will probably be blacklisted from working with eurozone governments for the foreseeable future; as was the case with Salomon Brothers 20 years ago, Goldman may be on its way to be banned from some government securities markets altogether.

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The credibility of the Federal Reserve, already at an all-time low, has just suffered another crippling blow; the ECB is also now in the line of fire.  Goldman Sachs has a lot to answer for.

Emphasis mine.  Ha Ha Ha Ha Ha Ha Ha!!!!!!!!!!

Suck. On. This. Blankfein.