Fiscal Bulimia, and Other Rants

Lots to talk about, so let's get to it. First, the Fed's unprecedented rate cut - unprecedented in that they cut the funds target to the lowest level in history, and unprecedented in that they targeted a range, from zero to a quarter of a point, rather than a specific rate.

An unintended consequence is that, in an environment where financials are struggling to price assets they own, now they're in a quandary over how to price loans based on Fed funds. Price it off zero? Off a quarter-point? Off something in between? Can we charge a range of interest?

Another unintended consequence is that the dollar is now tanking again, just when we were beginning to see some relief. The Fed is creating inflation once again. So much for that trip to Europe. But the dollar's now rebounding vs. the euro, since the ECB cut its rates today. So there's still hope.

The intended consequence - the stated one, anyway - was to spur borrowing. Indeed, mortgage rates fell, and people are looking to refi in droves, reportedly.

Here's the problem: what our government wants is to stimulate buying - houses, cars, Christmas presents, you name it. And that ain't happening.

Why? It's simple. We were a bulimic nation, binging on credit. And now we want to purge. At all levels: corporations, households ... well, okay, maybe not at the federal level (more on that later). We don't want to buy cars - sorry, Chrysler and GM. We don't want to buy houses - sorry, builders (by the way, did anyone notice that housing starts and building permits fell to the lowest levels in at least 50 years last month? The Dow apparently didn't). We don't want to go hog-wild this Christmas - sorry, Macy's and Best Buy (but maybe we'll be a little more mindful of the reason for the season).

And banks don't want to lend. They want to purge themselves of all the bad credit they've already got, not take on more. They don't want to feed the gluttonous pigs anymore.

As I've said before, that's all good. We need to purge, and get back to living within our means.

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On to the federal debt. Ecuador recently defaulted on its government bonds, but that was political. Its extreme leftist president decided that, even though the government has the cash to make the next coupon payment, the interest on the bonds - which were issued under the previous regime - is illegal.

But, the consequence was the same as if Ecuador was out of cash: its borrowing rates skyrocketed. There's a lesson in that, but let's go a step further before we present it.

Italy could be facing the same peril. Its public debt - third-largest in the world - amounts to 104% of its output. Italy's finance minister is proposing heavy stimulus spending, but the nation's welfare minister dug in his heels, saying, "I am too constrained by public debt. And I too am worried by the risk of default. There is something worse than recession, and that's state bankruptcy: an improbable, but nevertheless possible, hypothesis."

US public debt is currently 91% of GDP. GDP is expected to contract 4-6% in the current quarter, and about 2.5% in the first quarter of 2009. Holding public debt constant, we'll be at 98% of GDP. But does anyone really believe we'll hold public debt constant? If so, I've got some Alt-A mortgage-backed bonds to sell you, at par.

President-elect Obama wants to spend $850 billion to stimulate the economy. Add that to the debt load, and we're at 106% of GDP. Granted, he wants to do it over two years, but even the first half of that will take us to 102% of GDP. Goodbye, low interest rates. Obama and incoming Treasury chief Geithner would do well to heed the cautions of the Italian welfare minister.

As for the current Treasury Secretary, Paulson has done yet another about-face (nimble little minx, isn't he?). Just days ago he said he wouldn't ask Congress for the second $350 billion of TARP money. Now, he's said to be ready to request it. Why?

I suspect it's to prop up the stock market. There seems to be a lot of that these days. About a month ago, Bernanke, wanting to keep some arrows in the quiver, subtly warned the markets that he preferred a smaller rate cut than was being priced in, saying there were other things the Fed could do besides a big rate cut. Then, on Tuesday, with a hopeful rally already underway, he capitulated. I had read an article suggesting that he might stand up to the markets, but I knew he didn't have the resolve. He never has.

I think Washington really wants to prevent a test of the recent market lows, and they're doing everything they can to effect that. Even Bush has been hinting that he'd bail out Detroit, but now it sounds like a managed bankruptcy is in the cards. He says he doesn't want to throw bad money after good. Should've thought about that before he pushed for the TARP's passage.

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On to Bernie Madoff-with-your-money. I won't elaborate on how despicable is the man who bilked charitable trusts and retirees (and big banks like HSBC) out of billions. Others have covered that quite well.

I will, however, identify his accomplice in this scheme: the SEC. Chairman Chris Cox should share a cell with Bernie. How, in more than a decade of examining Bernie's firm, did the SEC miss this one? I'll bet I could have uncovered his little scheme.

But the SEC doesn't look into things like that, except after the fact. They primarily concern themselves with whether the I's are dotted and the T's crossed. They sent three examiners for a week-long visit to my little 13-employee firm this year, and what were their findings?

We don't keep a stock record book, a manual record of all transactions. But see, we don't sell stocks - just bonds. And every transaction is recorded electronically, and archived forever. Gee, it would seem that manual records could be doctored. Hmmm ...

And second, we claimed on our website to be "a leading provider of financial services to credit unions nationwide." We based that on a broad survey of credit unions that we commissioned in 2003. Yes, that was five years ago, but there have been no meaningful new entrants into this market space in that span. And yes, we paid for the survey, but we didn't pay people to say they use our firm. The results showed that more credit unions use our brokerage services than any other firm, and more credit unions use our advisory services than any other firm but one. Sounds like a "leading provider" to me. But the SEC would only let us make the claims if we disclosed that we paid for the survey, and that it was five years old. Not wanting a two-page disclaimer to accompany a one-line statement, we opted to scratch it altogether.

Don't get me wrong, I don't begrudge the findings. We now keep a securities record book manually, and we changed the website hype.

What galls me is that the SEC comes in and burdens us with this trivial crap while a Bernie Madoff makes off with his investors' money, to the tune of $50 billion, and three of the five largest securities firms on Wall Street go belly-up (with the other two not far behind).

Nero fiddles while Rome burns.

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Want a peek at how the Fed is being a responsible steward of your money? From Bloomberg:

"Federal Reserve Chairman Ben S. Bernanke is basing hundreds of billions in emergency lending on credit ratings from companies that gave AAA grades to toxic securities."

That's right, boys and girls, the Fed is relying on Fitch, Moody's and S&P, the same clowns that brought us the subprime and Alt-A meltdown. Bloomberg goes on:

"The Fed has purchased $308.5 billion in commercial paper and lent $631.8 billion under eight credit programs, most of which require appraisals of short-term debt and loan collateral by 'major nationally recognized statistical ratings organizations.'" Bloomberg tried to get a list of whom the Fed has lent to, and the collateral for the borrowings, even going so far as to sue the Fed under the Freedom of Information Act. But the Fed is hiding behind the "trade secrets" barrier.

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Here's my take on Obama's appointment of FINRA head Mary Schapiro to be the next SEC chair.

Here's her resume:

1988: appointed by Reagan as a commissioner of the SEC, re-appointed by Bush I, named acting chair by Clinton
1994: appointed to the Commodity Futures Trading Commission by Clinton.
1996: appointed to the National Association of Securities Dealers - Regulation by Clinton
2006: became chair and CEO of NASD, which merged with the NY Stock Exchange to become FINRA

During her tenure in these roles, we had the explosive growth of unregulated and impossible to value financial derivatives; the dot-com bubble and the housing bubble; the financial accounting scandals of the dot-com era (think Enron, WorldCom, et al), and the nightmare of the last year or so. And, like the SEC, FINRA waltzes into our firm looking for the most trivial arcane silliness, while Wall Street melts down.

Just another more-of-the-same selection. Old-school politics as usual inside the beltway. We are doomed.

PS. She's also a lifetime bureaucrat, like most of the other cabinet picks. She has a law degree, for pity's sake. For this role you need finance guy, not a lawyer.

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Finally, I'll weigh in on Caroline Kennedy vying for Hillary Clinton's Senate seat.

I'm growing weary of the same names in seats of power in Washington: Clinton, Kennedy, Bush ... where has it all gotten us? We need change - meaningful change. We need some true representatives of the people, not old-school power-mongers. Let's have term limits and campaign finance reform, and bring in some new blood.