Wall Street's Day of Reckoning
The speculation did not just begin yesterday. It began with the technology stocks in the 1990s, turned to real estate, commodities, and private equity buyouts in this past decade, and then took over many other financial markets. Now, a significant fraction of the speculative loans that banks made during the boom years are underwater, and the risk of these losses will overwhelm banks that have limited capital to absorb them.
Investors including sovereign-wealth funds have put billions into Citigroup, Merrill , Lehman, and others, only to suffer mammoth losses on these investments, which in turn is causing them to balk at any future flow of equity capital. This raises the prospect that other banks, especially regional and community banks, might fail.
We are into the second year of this credit crisis, triggered by the subprime mortgage disaster. Why hasn't the healing begun? The answer lies in the way leverage works. Banks are not only providing loans to customers, they also use leverage themselves. When they make profits, they borrow more money to make more loans and book still more profits. But for every dollar of bank wealth that they lose, government-regulated commercial banks must eliminate $10 of lending, and for investment banks, the figure may be as high as $30. If the total losses across the credit markets exceed $1 trillion—and some think they will go to $2 trillion—then you have to put on a leverage multiplier of 10 or 15. This kind of gigantic number of more than $10 trillion poses a systemic risk that could drag many financial institutions down and take years to work through the system.
The problem is the financial markets and firms are interconnected with increasingly complicated securities such as credit default swaps and money market instruments such as repos. The failure of one firm can send ripple effects through the whole system, but the market and regulators have limited experience in how to handle such a crisis.
Credit drought. Today, the challenge is to build a new sense of trust in finance, as well as to rebuild equity. That makes it hard to predict when the credit crunch will end and how big the losses may be. This crunch is much more serious than in 1987, when the crash was confined to the equity markets and over within a few weeks. This one has greater scope to harm the real economy: Without credit, business dries up.
Lower economic growth in turn makes things worse in the financial markets. It is affecting not only housing but autos, credit cards, commercial mortgages, commercial and industrial activities, and the leveraged buyout loan markets. Without credit, the domestic private economy cannot generate profits, and without solid profits the health of lenders and the availability of credit will deteriorate even further.
The fear stalking the financial world is a counterpoint to the downright greed that produced it. The corporate leadership of Fannie and Freddie clearly inflated the value of their equity base by treating possible tax credits as assets, by extending delinquent loans from 90 days to two years so they wouldn't have to write down tens of thousands of them, and by refusing to mark some of their paper to market but keeping it at par value. They did this to avoid falling below the financial regulatory requirements they should have met. The result was to dramatically expand the exposure of the taxpayers to their losses. Management took on excessive and unnecessary risks because it focused on profits and bonuses and failed to protect adequately against potential mortgage defaults. How else to explain they had $65 of debt for every dollar of equity? How else to justify taking on $600 billion in subprime mortgages, or in securities backed by those mortgages, over the past half dozen years? These included many 100 percent mortgages to borrowers whose incomes were insufficient to cover the debt payments. Meantime Fannie and Freddie were dispensing vast rewards to their private management along the way. Outrageous!
Reader Comments
Wall Street's Day of Reckoning
As promised.
The Great Wall Against Wall Street -- How To Prevent The American Depression From Reaching China?
PART II. How Great Wall of China can be used to defend against failing Wall Street & its ideology?
Jordan C. Fan
(1) The Chinese government should nationalized or expel foreign companies such as Walmart. The business and employment practice of those companies must be frown upon by the Chinese government and people. The products & services of some of those companies must be boycotted by Chinese.
(2) All non-Chinese foreigners must be restricted or expelled from China because they are false indoctrinating the Chinese people. The main purpose of those foreigners were to mislead Chinese to prevent them from success and getting wealthy. Many foreigner are trying to create Chinese minorities uprising such as Tibetans to destabilized the government and take advantage of their crisis. Others are simply spies from other nations. Yet many simply trying to take away the already limited jobs from hardworking Chinese.
(3) The Chinese government must now redeem their enormous holding of U. S. Treasury Bonds and Bills because the American dollars are falling very quickly against the yuan due to inflation and economic downturn in the United States. The alternate investment for the government should be valuable and collectable items such as gold/silver coins, precious metal ingots, old currencies, antiques, historical objects & documents, books, postage stamps, designer jewelry, and furniture. Most importantly hire highly intelligent people with special talent and abilities. After cataloging and arranging those collectable items the government can then auction & sell them to the Chinese people to generate cash for more purchases.
(4) The Chinese economy should begin to slow down gradually without causing drastic downturns. Their exports should be concentrated on newly developed Asian, Australian, European and South American countries. Especially those petroleum, metal and other natural resources producing nations such as Russia. Chinese should avoid doing business or depending economically on the United States.
(5) The Chinese government should devote most of its money and resources in educating their people. The world’s most intelligent scientists & teachers in the world must be seek out, to become professors and teachers in universities & local schools.
(6) China should now demand foreign countries to return all archaeological, antiques & other valuable items which were stolen or acquired illegal/unfairly from China especially those before Liberation. Cash and gold/silver that were paid by Chinese during the nineteenth & early illegal & unequal treaties during twentieth century must be repaid back to China with interest.
(7) Environment Conservation. Since there are little wilderness or natural resources left in China and the world. China should again slow down its industries & construction of manufacturing facilities. Wildlife and plants must be strictly protected turned into Chinese national parks.
The Great Wall Against Wall Street -- How To Prevent The American Depression From Reaching China? PART II
The Great Wall Against Wall Street -- How To Prevent The American Depression From Reaching China?
By: Jordan C. Fan, Prophet Of Environment.
PART II. How the Great Wall of China can be used to defend against the failing Wall Street and American ideology?
(1) The Chinese government should nationalized or expel foreign companies such as Walmart. The business and employment practice of those companies must be frown upon by the Chinese government and people. The products and services of some of those companies must be boycotted by Chinese.
(2) All non-Chinese foreigners must be restricted or expelled from China because they are false indoctrinating the Chinese people. The main purpose of those foreigners were to mislead Chinese to prevent them from success and getting wealthy. Many foreigner are trying to create Chinese minorities uprising such as Tibetans to destabilized the government and take advantage of their crisis. Others are simply spies from other nations. Yet many simply trying to take away the already limited jobs from hardworking Chinese. Regardless of what their actual purpose, most are in China for false intentions.
(3) The Chinese government must now redeem their enormous holding of U. S. Treasury Bonds and Bills because the American dollars are falling very quickly against the yuan due to inflation and economic downturn in the United States. The alternate investment for the government should be valuable and collectable items such as gold/silver coins, precious metal ingots, old currencies, antiques, historical objects and documents, books, postage stamps, designer jewelry, and furniture. Most importantly hire highly intelligent people with special talent and abilities. To facilitate the collection and authentication of such collectable items the government should recruit large numbers of connoisseur and auction experts from shops worldwide and in on-line auction and sale groups. After cataloging and arranging those collectable items the government can then auction and sell them to the Chinese people to generate cash for more purchases.
(4) The Chinese economy should begin to slow down gradually without causing drastic downturns. Their exports should be concentrated on newly developed Asian, Australian, European and South American countries. Especially those petroleum, metal and other natural resources producing nations such as Russia. Chinese should avoid doing business or depending economically on the United States.
(5) The Chinese government should devote most of its money and resources in educating their people. The world’s most intelligent scientists and teachers in the world must be seek out, head hunter style, to become professors and teachers in universities and local schools.
(6) China should now demand foreign countries to return all archaeological, antiques and other valuable items which were stolen or acquired illegal/unfairly from China especially those before the Liberation. Cash and gold/silver that were paid by Chinese during the nineteenth and early illegal and unequal treaties during twentieth century must be repaid back to China with interest.
Any refusal should result in arm confrontation.
(7) Environmental protection and resource conservation. Since there are little or no wilderness or natural resources left in China and the world. China should again slow down its industries and construction of manufacturing facilities. Wildlife and plants must be strictly protect. Many scenic or wildlife area should be protect and turned into Chinese National Parks for our next generations and children to enjoy.
If all my recommendations and theories are put into practice, China and people will enjoy safety and prosperities in the 21 Century.
advertisement
