What’s A Strategic Default Anyway?

As strong advocates of default (strategic, non-strategic, for political reasons, for political economy reasons, or just for the hell of it), we took it as a good sign that a PR push against strategic default has been launched.  It means our message is getting through (or people are wising up, but either way).  But over here at AFEP, we’ve always wondered just what a strategic default is.

I mean, hell, when I burned my bills and stopped sending those jackals any money, I had 20k in fully accessible credit to play with – I could have kept the game going for another 4-6 months if I’d thought it would make a difference.  Did I strategically default?  I had, and still have, substantial assets in my retirement account that I could have drained to continue making my payments.  Strategic default?  I might even be able to go get a full-time job that would pay me enough to make some payments, but would rather work on some business opportunities.  Am I strategically defaulting?

Beats the shit out of me.  But what about these people:

Scenario A: A very attractive, intelligent, and well-spoken 27-year old woman stops paying on her 250k in college and grad school debt, but she could almost certainly earn 5k a week as a call girl.  She defaults on her student loans and moves to Chile.

Strategic default?

Scenario B: A couple, both aged 58 bought a $900,000 house on a 300k combined salary in 2006.  The house is now worth 450k, and one of them lost their job, so the income is cut in half.  They have approximately 750k in retirement savings.  They struggle to make the payments on the remaining 800k of the mortgage while beefing up their somewhat inadequate retirement savings.  They default.

Strategic default?

Scenario C: A family with two young children and a combined 120k income, cannot pay the mortgage, save for retirement, put money in a college saving account, unless they cut down everything else to the bone – no cable, few decent meals (think ramen and peanut butter), and no safe car (think 1998 Civic).  The house is worth half the balance on the mortgage.  They default.

Strategic default?

Scenario D: A company buys 5 commercial properties for 8 billion in 2006.  They are now worth 4 billion, so they return the buildings to the lender in exchange for cancellation of loan under threat of default.

Strategic default?

In a sense, all of these are strategic defaults.  But any rational person reading these facts would have to agree that in each case, the defaulter made a reasonable choice based on their own financial and non-financial circumstances.  The idea that there is this army of people with a million dollars in spare money in the bank  stiffing their credit unions and cell-phone companies for a few hundred bucks is almost laughably stupid, but that’s what you need to believe to think that there is appropriately some moral component to the “decision” to default.

Another one of my buddy Pete Peterson’s flunkies seems to think that the best way to deal with this is to turn the United States into Dubai:

He’s criticizing the use of bankruptcy as an “exit option.”  That’s what bankruptcy is, and that’s what it is for, asshole.  Disabling people from moving on from their mistakes – no matter how stupid – is the single most inconsistent position you can take with allowing people to search out and find their comparative advantage.  If people don’t have the room to fail, move on, and find what they are (relatively) best at, you don’t have a well-functioning economy.  That’s why Dubai is a cesspool (literally and figuratively) and why the United States with its secondary and tertiary collection markets, and various bankruptcy “reforms,” isn’t far behind.

Yves Smith (as always) says it well:

There is a wee problem with the “blame the ruthless borrower” narrative. Banks who acted in a ruthless manner have trained their customers to behave the same way. This shift in prevailing attitudes is the logical and inevitable result of financial firms taking an increasingly predatory posture toward their customers. Borrowers are responding in kind, by taking a cold-blooded and legalistic look at their agreements with lenders.

Or to translate this into AFEP-speak: You fucked us for 30 years straight banksters, and now you’re going to try to lay a guilt trip on us?  Go fuck yourselves!

From The Department Of People Who Know What The Fuck Is Going On: Haiku Edition

A survey released by the National Federation of Independent Business (“The Voice of Small Business”), showed that optimism among small business owners declined in March (h/t Financial Armageddon).  Bloomberg covered the survey’s release and it ain’t a pretty picture:

The National Federation of Independent Business’s optimism index dropped to 86.8 last month from 88 in February, the Washington-based group said today. Seven of the index’s 10 components declined last month and two were unchanged from February.

“Usually we see the small businesses leading the way out since they’re the first ones to see the consumer come back, but what’s happened this time is the consumer didn’t come back,” William Dunkelberg, the group’s chief economist, said today in a Bloomberg Radio interview. While purchases have increased, “there’s not enough sales to go around to make the whole population of small businesses very healthy,” he said.

A gauge of expectations for business conditions six months from now was the sole component that improved from the prior month, rising one point. The report also showed that while workforce reductions may be over, small businesses weren’t ready to add workers or spend more on new equipment.

I prefer to summarize the survey findings utilizing Haiku:

Small business owner

Really talks to customers

Knows they are fucked

The reason isn’t some huge mystery.  Too much debt (whether charged off or not) coupled with declining incomes.  Individuals facing these constraints simply don’t open their wallets, so it’s no surprise that:

The measure of earnings expectations showed the biggest decline in March, falling 4 points to minus 43 percent. Thirty- four percent of respondents cited “poor sales” as the top business concern, the same as in February, and the net percent of owners projecting higher sales, adjusting for inflation, fell to minus 3 percent.

Or to put in Haiku form:

Credit card, car debt

Student loans, mortgages, and more

We’re fucking doomed

The survey also bodes poorly for the chances of a drop in unemployment since small businesses represent 99% of employers and create 64% of all jobs.

A net minus 2 percent of respondents plan to hire over the next three months, down one point from February. Nine percent of firms said they currently had job openings that were hard to fill, compared with 11 percent a month earlier, a “negative” for hope that the unemployment rate will drop, Dunkelberg said.

Or to put it in Haiku form:

No recovery

Cap One, Chase, collection cos

Kiss my expat ass

Yo, Ben! Where’s Your Fucking Helicopter? I Needs Me Some Inflation

Those who believe that hyperinflation is in the immediate future may be right, really!, I mean the chances are like 1 in a billion, but at least it’s a non-zero probability.  The banks don’t want inflation because it means they get paid back in devalued dollars.  I and (I believe) W.C. Varones want inflation so that we can pay back the banks in devalued dollars.  And some, like Michael Kinsey, have no basis or interest whatsoever and are just, well, apparently mentally retarded.

Now, as much as I would like to see inflation, and a lot of it (right kind of inflation only, please!), I just don’t see it happening.  From downsizing boomers, to 20% un/underemployment, to weak labor laws, to massive amounts of debt at the household level, to the need to work off resource misallocations, there just isn’t anything out there that could drive it.  But I’m a charitable sort, and am willing to forgive the occasional moron that stops by to say that any time the government is running a deficit, it’s printing money, and therefore inflation is imminent – uh huh.

But, really, some people should know better:

The watchdog group, in existence since the early 1970s, serves as a vehicle to criticize Federal Reserve policy making. Its members are frequently luminaries of the economics profession. Some past members, like current Philadelphia Fed president Charles Plosser, have even gotten called to the big league, getting the chance to set policy for themselves.

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They’re concerned the Fed, having more than doubled its balance sheet, is risking a big breakout in inflation if it doesn’t get to the business of raising interest rate relatively soon.

Channeling my inner 16-year-old girl, Whatevs!  The Dallas Fed just released the Trimmed mean PCE inflation calculations (basically a measure of core inflation), and I charted the monthly annual inflation rate over the past 24 months.  For fun, I added in the key dates relating to the failure of my small business:

Not gonna lie to ya, the trend doesn’t seem to be pointing in the direct of hyperinflation, or even inflation, or even price stability.  Looks like deflation – or more accurately core price deflation – will be showing up soon.  But Ben Bernake has a plan to deal with that, right?  I mean, the guy gave a speech 8 years ago about how to ensure that “it” (deflation) doesn’t show up in the U.S.:

Even if households decided not to increase consumption but instead re-balanced their portfolios by using their extra cash to acquire real and financial assets, the resulting increase in asset values would lower the cost of capital and improve the balance sheet positions of potential borrowers. A money-financed tax cut is essentially equivalent to Milton Friedman’s famous “helicopter drop” of money.¹⁸

Yo, Ben, we’re ready for that helicopter drop!  What you’ve been doing to hold back the deflationary tsunami is all well and good, but it really doesn’t get us an answer for the single most important question – courtesy of Paul Krugman:

What is it about the United States now that looks different to you from Japan in say, 2000? Big budget deficits and high debt? Check. Huge expansion in the monetary base? Check. And yet Japan’s GDP deflator has fallen 9 percent since 2000.

Anyone, anyone, Bueller, Bueller?

Fasten those seatbelts, it’s gonna be a bumpy (deflationary) ride.

Johnson and Boone Agree that Timmeh Sucks

Ok, that’s not quite what they wrote, but it is the implication of the piece.  The basic premise is the the governments of the world have entered into a thieves bargain with the finance sector and have generated a negative feedback loop of increasingly severe financial crises.  Because U.S. and European governments (Don’t forget about Japan guys!) have been so willing to bail out large financial institutions every time they have gotten into trouble by blowing ever-larger asset bubbles rather than forcing these institutions to deleverage, we are now on the verge of seeing the entire system collapse.

At the root of their theory is the relationship between the enormous increase in private sector debt relative to GDP (in the U.S. in their example) and Fed rate cutting designed to bail out the masters of the universe each time they fuck up and trigger a crisis:

Indeed, Uncle Alan Greenspan’s “put” seems to have been played repeatedly since the mid-1980s, or as my good buddy Jamie Dimon put it, “every five to seven years.”  Johnson and Boone set out a “doomsday cycle” over explicit and implicit government backing, risk taking, losses, regulatory capture, and bailouts reflected in this image:

Timmeh!, of course, is set out as the poster boy for regulatory capture.  As the Wall Street journal reported yesterday:

Interviews with dozens of government officials show that Mr. Geithner has acted as a brake on administration officials seeking punitive action against big financial firms.

Thanks Timmeh!

Back to Johnson & Boone, they argue that:

We must stop sending the message to our bankers that they can win on the rise and also survive the downside. This requires legislation that recoups past earnings and bonuses from employees of banks that require bailouts.

Yes, that would be terrific.  Except for the fact that the banksters have so deeply intertwined themselves with the government and political process that even after a bankster-induced clusterfuck of epic proportions:

Goldman Sachs was lucky to gain access to the Fed’s “discount window”, so averting potential collapse.

Yup, it sure was “lucky” that they installed their former chairman as Treasury Secretary at exactly the right moment.  But it’s not just the great vampire squid:

Bankruptcy reform lost because twelve Democrats joined the Republicans to vote for bankers and against embattled families. Senators Baucus, Bennet, Byrd, Carper, Dorgan, Johnson, Landrieu, Lincoln, Ben Nelson, Pryor, Specter, Tester.

Dick Durbin could not conceal the bitter aftertaste. He told a hometown radio interviewer: “Hard to believe in a time when we’re facing a banking crisis that many of the banks created–they are still the most powerful lobby on Capitol Hill. And frankly, they own the place.”

But here’s where we start getting to the nub of the issue.  Johnson & Boone are the good guys.  They’re the ones who want to reform the system to bring it under control, but in the doomsday cycle, they don’t seem alert to the real problem with why there are “too many loss making bets.”  Here’s a hint, it has to do with the GDP to credit relationship reflected in their first chart.  Once debt reaches levels like, well, like today, the winning bets are few and far between, because income cannot support the kind of debt levels that exist in the United States. Or to put it in equation form (since they’re economists):

ΔX/ΔY = ΔZ

X is private debt stock

Y is income

Z is fragility of the financial system

This is intuitive to individuals, but for some reason most economists don’t get it.  Of course, what individuals and households really understand – and they get it at the most fundamental level – is this:

Smaller institutions are naturally easier to let fail, and this will make creditors nervous when lending to them, so we can have more confidence that creditors will not lend to highly risky small institutions.

Now, Johnson & Boone are talking about small finance companies, but it’s a principle that people know applies to them.  Individuals and small businesses are simply left to fend for themselves.  They just don’t matter.  Hey you, go fight for your life in bankruptcy court, dodge the collection calls, sleep on your buddy’s couch, go find a shelter and a food shelf!  Real people? Fuck ‘em!  After all, “smaller institutions are easier to let fail.”

On that note, file this one under the least surprising news of 2010.

One gauge, measuring consumers’ assessment of current conditions, dropped to 19.4 from 25.2, the lowest level since 1983. The other barometer, which measures their outlook over the next six months and had been rising since October 2009, fell to 63.8 from 77.3.

It’s easy to let small institutions fail, and the people know it.  Big-time investors know it too:

Today, Bank of America and the Royal Bank of Scotland are each priced to have just 0.5% annual risk of default above their sovereigns during the next five years in credit markets. This is a remarkably low implied risk considering that both banks were near to collapse just a few months ago. Creditors are clearly very confident that they will be bailed out again if necessary.

Now, if only ordinary people could do something that would force our betters to give us a bailout…

Update: This doesn’t warrant its own post, but apparently 3.6 percent of people in the consumer confidence survey said jobs are plentiful.  That’s low, but still, who are these people?  Lobbyists, Goldman Sachs employees, residents of asylums ?  I don’t see how anyone could believe that, and yet, apparently some do.  Strange stuff.

Debtor’s Revolt!

Maybe we will or maybe we won’t.  But we should.

As Bill Murray put it in Groundhog Day, “I’ve come to the end of me.”  Now, I have no interest in suicide (What Bill M. was talking about), but I have come to the end of my tolerance for the crony capitalist banana republic ripoff that is now the United States of America.

A couple months ago I made a decision – or perhaps I should say a decision was thrust upon me.  I ran out of money, despite having some success at earlier times in my life.  Beginning in late 2008 when business tanked I began dipping into my personal assets (such as they were) to keep the business afloat.  That didn’t work out so well as business somehow, and unlike anything I’d seen before, stayed bad – it even got worse.  Well my business is gone, and I simply can not and will not pay the motherfuckers back.

So I burned my bills and recorded it for posterity (watch with closed captioning on).

The day I get my first lawsuit filed against me by Chase, Capital One, Wells Fargo, BofA, or any of the other useless, skimming pieces of shit that have left me in the financial equivalent of prison, I’m gone.

This blog will last until that day.  ENJOY!