The Baddest Bank in the West


Give us Madoff! Give us Madoff!

“Oil rises to $39 on Bernanke comments…”

“Asian stocks rise after Bernanke remarks…”

When they turned out the lights and closed the doors in New York last night, the Dow had lost 25 points and oil had gone down to $37.

But this morning, investors seem to be feeling better about things. What did Bernanke say to bring about the turnaround?

We find the report on the front page of the International Herald Tribune:

“More capital injections and guarantees may become necessary to ensure stability and the normalization of credit markers,” said the main man at the Fed, speaking to an audience at the London School of Economics.

He went on to say that he didn’t necessarily like bailing out Wall Street, but it “appears unavoidable.”

Nothing particularly exciting about that. But then we turn to page 12:

“Bernanke warns that bigger bailouts needed around the world,” is the money headline.

And then, the report gets down to business. The world economy is dangerously ill, says Dr. Bernanke, or words to that effect. We’re going to have to try some experimental drugs to rescue it.

“Beyond buying troubled assets from banks, Bernanke said, another option was to provide asset guarantees under which the government would absorb part of the banks’ losses in exchange for warrants and other forms of compensation. [Of course, if the banks had any means of compensating investors they wouldn’t be in this fix.]…

“Bernanke also expressed support for the idea of creating a so-called bad bank that would allow the government to buy financial assets in exchange for cash or equity.”

Here is where we laughed so hard we thought we might damage our midriff.

Create a ‘bad bank?’ Is he kidding? The world’s full of bad banks already – banks that did just what Bernanke is proposing to do; they bought financial assets, notably mortgage market derivatives, for cash. Now, they turn to the taxpayer, desperate for a handout to keep them from going under.

And the baddest bank of all? Next to the Central Bank of Zimbabwe it’s the U.S. Fed. What’s it doing? It’s buying trash and paying cash. In this way, the mistakes of rich bankers are transferred to the people…via the people’s bank – the Fed. Of course, the people don’t know what’s going on. And they won’t notice either when the Fed eventually unloads these toxic assets – in the dark of night.

We have not checked the gold market this morning. Yesterday, gold held steady at $820 and appeared ready to drop into the $700 range. If gold doesn’t go up this morning investors are not paying attention.

Let’s go back over the fundamentals. The world economy is correcting. The feds are trying to stop it. They tried their Friedmanite monetary stimulation – cutting rates to zero. And they’re sweating like Sisyphus, trying to make Keynes’ fiscal stimulus work too.

Both will fail – for the reasons we explained in these Daily Reckonings. You can’t help an alcoholic by giving him free hooch. And you don’t do a fat man any good by offering him another dessert.

If America’s leaders are going to have any success at all, they have to understand the game they’re playing…and turn to someone for leadership who knows a queen from a one-eyed jack…someone who keeps an ace up his sleeve, just in case. America needs better leadership; not these clueless jokers – Bernanke and Paulson. America is blowing up a bubble in public finance; it needs someone who understands how the public finance system works.

America needs Bernie Madoff. Reports tell us that Madoff has not been arrested. He is at home, apparently watching the news on TV and waiting to hear from the gendarmes.

Why not take advantage of his free time? Why not ask him to do some community service?

*** Colleague Chris Mayer sends us this note about what has already been penned the “Indian Enron”:

“Turns out Satyam Computer cooked its books. (Satyam, ironically, means ‘truth’ in Sanskrit). That $1.1 billion in cash on the balance sheet? Well, it really turned out to be $66 million. Those operating profits of $133 million? Uh…make that $12.6 million.

“When it rains, it pours. Another blow to the already bludgeoned Indian market.

“I visited Satyam in Hyderabad during my trip in India in 2007. Nice campus. Business seemed OK. But I never like those sorts of things for investing. Basically, they provide people on the cheap. I don’t know. It’s my own bias, but I like to own stuff. Where is the copper mine?

“I remember one of the executives complimented my sunglasses. ‘I admire your choice in sunglasses,’ he said to me. ‘Wayfarers. Once you have them, you can never go back to anything else.’ I smiled politely. Mine were knockoffs. Maybe his comment was a red flag of some kind.

“What is disturbing about Satyam is the main perpetrator was the founder of the company. B. Ramalinga Raju founded Satyam in 1987. He had many admirers. And PricewaterhouseCoopers audited the books. How could it miss $1 billion in cash that wasn’t there?

“Unfortunately, there was not much investors could’ve done in this instance. This one fooled everybody. When I was in banking, we put a lot of stock in the character of the borrower. And as an investor, I value a good owner-operator. Satyam is a reminder that there is no bulletproof way to avoid occasionally finding a bad egg.

“Having said that, I wouldn’t let the Satyam affair tarnish the whole Indian market. There are still good opportunities there, as I wrote about in my last letter to my Capital & Crisis subscribers.”

*** In a broad sense, the social welfare economies of all the advanced Western nations are nothing more than Ponzi schemes. Typical is the Social Security system of the United States of America. It survives only as long as there are enough new contributors to cover the promises made to the old ones. As in any Ponzi scheme, the first ones into the system do very well. The very first beneficiaries put in little and got a lot out – depending on how long they lived. But as time goes by, the deal goes bad. Middle-aged people today would be better off with a private pension system…and the young are unlikely to see any benefits at all.

John Law never lived to see America’s system of public finance at work. Nor did Charles Ponzi. But even without a paternity test, each would have recognized it as his own.

Bernie Madoff is still alive as of this writing. He is the world’s reigning champion…title holder in the Ponzi league. Yet, compared to America’s system of public finance, his scheme was penny ante…chickenfeed. Madoff’s swindle cost investors only about $50 billion. America’s dollar swindle will cost them trillions.

The nature of the scheme is most easily understood by looking forward rather than backward. President Obama announced last week that Americans faced “trillion dollar deficits for years to come.” Already, the estimate of the deficit for 2009 was $1.18 trillion. Some experts predict a deficit over $2 trillion. At least one guesses that it will come in over $3 trillion, if not in 2009 then the following year.

These huge deficits do not seem to disturb the sleep of the homeland bound citizens. A trillion-dollar annual deficit, over 5 years, would add about $50,000 to each family’s burden of debt. But some intuition assures Americans that they will never have to pay it. By instinct alone, they know it’s a Ponzi scheme.

The day is long past when Americans could say “we owe it to ourselves.” A large part of U.S. borrowing is taken up foreigners. There is no way these enormous deficits could be financed by domestic savings. The foreigners have to pony up the dough, or the United States will run out of money. They do so in the hope of getting the money back – with interest. But how can the United States pay back the money it borrows? It has no earnings. It has no surpluses. Instead, it must borrow more to service past borrowings. It must depend on bad money to come in so the good money can go back out. It is a scheme John Law would love; Ponzi would be proud of; and Bernie Madoff can operate.

As we write nothing is more remarkable than the credulity and gullibility of the world’s patsies. Bernie Madoff’s oldest friends would come up to him and practically beg him to take their trust funds. People joined his Palm Beach country club just so to get close enough so he could separate them from their money.

And now, investors practically stumble over one another in their eagerness to lend money to world’s biggest debtor. In all the astonishing figures now crossing the big board probably none is more amazing that the current yield on U.S. Treasury paper. At barely over 2% yield on 10-year notes, investors lend money to the feds and ask nothing in return…except their money back.

Of course, every Ponzi scheme must end. And the scheme of U.S. public finance is already reaching its conclusion. As we write, lenders have still not wised up. But they’ve gotten poorer.

Two of today’s headlines from Bloomberg tell the tale:

“China’s exports decline most in a decade…”

“Trade deficit narrows…”

Trenton no longer takes. So Tianjin no longer makes. And Tianjin’s entrepreneurs no longer turn up at the central bank with piles of dollars to exchange for yuan. Which leaves China’s central bank with fewer dollars to buy up U.S. Treasury debt.

The whole system is breaking down. Most likely, it cannot be repaired. But at least Bernie Madoff will know what to do when the end comes.

Bill Bonner
for The Daily Reckoning Australia

Bill Bonner

Bill Bonner

Best-selling investment author Bill Bonner is the founder and president of Agora Publishing, one of the world's most successful consumer newsletter companies. Owner of both Fleet Street Publications and MoneyWeek magazine in the UK, he is also author of the free daily e-mail The Daily Reckoning.
Bill Bonner

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2 Comments on "The Baddest Bank in the West"

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Coffee Addict
Coffee Addict
7 years 9 months ago

Bill and colleagues.

I agree that the taxation / social welfare loop is nothing a giant ponzi scheme. With the demographic tables in developed countries as they are, the services (including medical interventions) that our parents now enjoy will be completly unaffordable (to our kids) in a few years time. In such circumstances, I fully expect governments to get their mits into private superannuation & pension fund balances.

7 years 9 months ago
I agree coffee addict. Not too long ago Argentina got its mits on private pension funds. But people still put their heads in the sand. I was talking to some workmates about superannuation and how it can’t be trusted (projecting 20 years in the future is ridulous as far as I am concerned). They looked at me as if I was mad. All it takes is a little stroke of a legislative change and hey presto baby, you don’t get what you thought you’d get. Politically unpallatable but nonetheless possible. When the Australian Government changed the super rules to benefit… Read more »
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