Financial topics

[Gordo]

I really hope you guys aren't encouraging people to make a "run on their banks" - this is just silly talk. If people start withdrawing lots of cash, it is likely to get stolen, or even put their lives in danger, and its value will be destroyed by inflation (if there is any).

Before the '29 crash and during the depression, we were on the gold standard - this is vastly different than the fiat system we have today. Currently our debt to GDP ratio is just 50% (compared to 60% being typical for many European countries). We could write off the ENTIRE value of ALL FDIC insured funds in every bank in the entire country, which by the way is just $4.3 trillion, and we STILL WOULD BE WAY below the 150% debt to GDP ratio that Japan CURRENTLY has.

There is absolutely NO RISK whatsoever to your FDIC insured funds. Anyone who tells you otherwise simply does not know what they are talking about.

Plan for realities, not fantasies. And if you find yourself thriving on attention or sensationalization because otherwise nothing interesting is happening in your life, I suggest taking up a new and more constructive hobby.

In my opinion, high unemployment (like the 30's) is very UNlikely, and therefore, a complete collapse of the system is essentially impossible. People will not stop paying their mortgages as long as they have jobs. Look to Japan for precedent on what is likely to happen in the US over the next 10 years. Japan had a MASSIVE stock market plunge (80%+) and real estate collapse coupled with deflation (credit crisis and contraction). And yet unemployment never rose above 6%. A total system collapse is not in the cards because we can do exactly what Japan did, which is borrow massive amounts of money to ensure that credit remains available and that there is no prolonged lock up like we experienced during the great depression. Stockholders and bondholders may very well get wiped out, and that is something you should be concerned about. However as Japan demonstrated, this does not have to lead to massive unemployment.

[John]

I agree that people should not run out today and withdraw their
deposits from FDIC-insured accounts. As I've said many times in the
web log, just make sure you follow all the rules if you have more
than $100,000 in your account.

However, this web site is all about preparation, and you should be
prepared to act quickly if banks start failing. You should be
prepared at any time to withdraw your money, and have your mattress
all picked out.

Your "new and more constructive hobby" is to be a Boy Scout and to be
prepared for what's coming, and to be prepared at all times.

John

[Gordo]

...you should be prepared to act quickly if banks start failing. You should be
prepared at any time to withdraw your money, and have your mattress all picked out.

Haven't banks ALREADY started failing? You sound like you want people to panic just when things look worst, and go out and cause runs on banks. This is exactly what I'm talking about - bad advice. You sound like you are trying to promote a collapse.

First order of business would be to actually verify that your funds ARE FDIC insured:
http://www.fdic.gov/EDIE/

Next - do NOT panic if or when things look bad (don't they already?). Breaking CDs can cost you big penalties, and money in mattresses losses its value over time and puts you at risk of theft and even personal injury. Instead of being the panicked looking angry guy waiting in line for 48 hours at a failed bank (like we have actually seen this year) you should be the guy quietly buying insured CDs (if that's how you want to invest) wherever they are paying the highest rates (including banks like Indymac that have already been taken over by FDIC!).

The government is talking about basically $1 trillion bailout of wall street right now, President Bush addresses the nation TONIGHT on this. There is so much taxpayer anger about this bill that it probably won't pass without massive revisions & restrictions. But do you really think they won't come up with the funds for FDIC if and when they are needed? An absolute but still possible, worst case scenario would be the need to pump about $2 trillion into FDIC - this would be extremely unlikely though. EVERYONE in congress knows that if FDIC were to fail, the entire country would be doomed. Believe me, congress will not hesitate at all (UNLIKE with the current bailout proposal) to shore up FDIC, its not even worth thinking about, certainly not worth worrying about. I reiterate that anyone who thinks FDIC insured funds are seriously at risk does not know what they are talking about.

The people that should be panicking are the ones still heavily long stocks. If things are really as bad as it looks, the stock market should get battered before anything. Looking to the long term, if the government is going to inflate away the credit crisis, then you probably want some gold exposure, personally I like GDX but fully recognize as John points out, that even the stocks of gold miners can fall in a market crash. Indeed the price of gold itself will fall if deflation becomes a reality. In fact those juicy 5% CDs might outperform almost everything.

[John]

This is a historic day that will be remembered in history. Things
have been said that will be repeated over and over, like Herbert
Hoover's "Prosperity is just around the corner."

Ben Bernanke made a desperate plea to the Joint Economic Committee.

http://www.federalreserve.gov/newsevent ... 80924a.htm

I've criticized the many foolish things that he's said before --
especially that the 1930s Great Depression could have been avoided if
the Fed had lowered interest rates sooner.

I believe that Bernanke now knows that he was very wrong.

The failure of Bernanke's Great Historic Experiment is now apparent
even to him.

** Fed Chairman Ben Bernanke defends his Great Historic Experiment before Congress
** http://www.generationaldynamics.com/cgi ... 07#e080407

** A historic day in Ben Bernanke's Great Historic Experiment
** http://www.generationaldynamics.com/cgi ... 15#e080315

** Bernanke's historic experiment takes center stage
** http://www.generationaldynamics.com/cgi ... 27#e070827

** Ben Bernanke's Great Historic Experiment
** http://www.generationaldynamics.com/cgi ... 18#e070818

The plea he made to Congress today was an act of desperation, on two
levels:

• He's now aware that his proposed Bailout of the World (BOTW) is
  not likely to succeed. He's pushing it only because he hopes that if
  it passes, and if he crosses his fingers, then it will prevent an
  international financial calamity (which it can't do anyway).
• He's now seeing that it's probably not going to pass, anyway.
  Congressmen are saying that the calls they're receiving are 99 to 1
  opposed to the BOTW of the world.

He enjoys at least the consolation that he'll be able to blame
Congress for the disaster.

One more thing:

When I wrote my book, "Generational Dynamics: Forecasting America's
Destiny,"I never really understood how Congress could have passed the
Smoot-Hawley Tariff Act in June 1930. The law was opposed by the
Hoover administration and by numerous economists. But it was several
months after the 1929 stock market crash, and Americans were blaming
high unemployment on foreigners stealing jobs away from Americans.
The Smoot-Hawley act didn't didn't help the American economy, but it
crippled imports from other countries, especially silk from Japan.
Japan was already suffering economically anyway, but this act shut
down silk industry. It infuriated the Japanese, who invaded
Manchuria and China in subsequent years, and bombed Pearl Harbor a
few years after that.

Assuming that the current political trend continues -- if the BOTW
bill will be delayed or watered down -- it will be seen as a
disastrous move by Congress, and may even be seen as the CAUSE of the
crash, just as many people see the Smoot-Hawley Tariff Act as the
CAUSE of much of the misery of the Great Depression.

From the point of view of Generational Dynamics, of course, the BOTW
bill won't have any effect one way or the other, whether it's passed
or not. The financial calamity is coming.

Incidentally, there may be a major bank panic beginning in Asia.

http://www.nytimes.com/2008/09/25/busin ... rging.html

I guess I must have caused the Asian bank panic, huh Gordo? Damn! I
didn't realize so many thousands of Asians read my web site!

Sincerely,

John

John J. Xenakis
E-mail: john@GenerationalDynamics.com
Web site: http://www.GenerationalDynamics.com
Forum: http://www.GenerationalDynamics.com/forum

[catfishncod]

What we DO know is that pretty much EVERY financial institution
failed during the crash. That's the historical comparison to use, and
it indicates that the FDIC will fail.

The Fed existed before the last crash. The Fed continued to exist. Therefore your first statement is soft at best. There are only a few financial institutions connected to the Federal Government that existed before 1929, so the sample size is low; but the ones I know of survived. The historical comparison could therefore just as easily be used to argue that the historical record suggests that government protection is helpful in surviving a crisis -- a notion that passes the basic smell test. This is the basis of my statement -- which, I will reiterate, did not say that the FDIC was guaranteed not to fail. I said that the FDIC would not fall until the Government does, because it is unquestioned that the Government will recapitalize the FDIC -- running the presses if necessary. (This is more like the Fed than like Fannie Mae or Freddic Mac, for whom there was some question as to whether the Government would inject funds.) It is possible that the Government will fail to raise new funds and be forced to run presses; it is possible that the US will experience hyperinflation. It is NOT possible that the FDIC will be allowed to fail, causing a cascade of runs on commercial banks, while the Federal Government can do anything about it.

We are about to see if you really can learn from history.

What you see going on in Washington is "actors" making things worse than they have to be. As for your last statement, the answer is "no."

100%, eh? So certain? I'll grant it's a slow process, but if we really never learned anything, why aren't we still serfs?

My counter-exhibit A is that everyone, and I mean EVERYONE, immediately rejected Paulson's financial dictatorship plan. If we really had no historical memory, we'd have said "sure, bub!" and handed him a loaded gun to hold at our heads.

First off, yes they are real.

How real is "real"? If they're completely illiquid, such that they can't be sold; and if they're just pieces of paper; and if no one pays the interest or other increases on them; if the issuers and holders would both rather pretend they never existed... then do they?

Are Confederate dollars "real"? The Federal dollars, gold, and real and chattel assets (including slaves) that were exchanged for them certainly were; and every last bit of that wealth was lost when the Confederate dollar was declared worthless at the end of the War Between the States. Now let's say that there was a huge bubble in Arizona (a territory claimed by the CSA) in Confederate currency in 1864. Is that additional lost wealth?

Second, one quadrillion is such a large number that you can't even grasp it.

I have a degree in physics; you deal with insanely large or small numbers all the time in physics. There are a quadrillion femtoseconds in a single second. A quadrillion kilometers would take you a little ways past Sirius. The English Channel contains about four quadrillion liters of seawater. It's a big damn number, but it's not quite out of control.

You assume that someone will demand payment for these insane "assets", "loans", and "losses" at some point. What I am suggesting is that no one will ever see those quadrillion dollars again; that the "owners" and "sellers" thereof would much rather pretend none of them ever existed, lest this "quadrillion" destroy themselves and the entire world economy. The world economy was estimated to make $66T in the year 2006; a "quadrillion" would be over twenty times the entire planet's economic output. The total worth of every economic asset on the globe might sum to a quadrillion. Maybe. Possibly. But it's just flat impossible to collect any such sum, and after the last few weeks, who would even try? No one will ever believe in these sorts of "markets" until everyone over five years old today is dead or in a nursing home. Any capital invested in derivatives is gone; any rent accruing from derivatives is gone; but the paper wealth from the immense expansion of the derivatives market mostly exists only on paper and in computer memory. It can disappear with few ties to anything else in the economy. That's very different from the stock market or the real estate market, which are tied to quite tangible assets.

Now if these derivatives were woven into the markets more tightly than I understand they were -- if they compose parts of the holdings of major mutual funds, for instance -- then they are a bigger problem than I am claiming. But I don't think they were; I think only the financial firms made major trades in these markets, and our losses are confined to the implosions made when these firms collapse. The same BIS report that claimed a $600T notional value for the derivatives market also stated a "gross market value" of $15T. THAT is how much money actually changes hands, and that is how much money could be lost... probably $20T by the time all hell broke loose. And only a fraction of that is really in danger, which is where I got my otherwise out-of-my-ass $1-2T number. Is that bad? Damn straight it is. But it's not this "quadrillion" you keep trying to scare us with.

[Witchiepoo]

I agree that people should not run out today and withdraw their
deposits from FDIC-insured accounts. As I've said many times in the
web log, just make sure you follow all the rules if you have more
than $100,000 in your account.

However, this web site is all about preparation, and you should be
prepared to act quickly if banks start failing. You should be
prepared at any time to withdraw your money, and have your mattress
all picked out.

Your "new and more constructive hobby" is to be a Boy Scout and to be
prepared for what's coming, and to be prepared at all times.

John

Boomer, calm thyself!

I'm not sure what your "rules" are, for having over $100K per deposit, but if you have megabucks like that hanging around it's not that hard to spread it around across several banks.

If the FDIC "fails," that will mean that our government has collapsed, and all that cash in our mattresses will be about as worthless as civil war bonds. Buying gold? I dunno, in a scenario like that food would be the most valuable commodity, not gold. Again, I think that learning a useful trade where your skills are in demand is the best bet. They used to pay doctors with chickens, back in the depression. Maybe now I could get some tofu?

[Higgenbotham]

How real is "real"? If they're completely illiquid, such that they can't be sold; and if they're just pieces of paper; and if no one pays the interest or other increases on them; if the issuers and holders would both rather pretend they never existed... then do they?

Referring to your statement about derivatives, they are real.

Some are exchange traded, some are not. For example, we can take one slice of the exchange traded derivatives market as an example. How about put options on the S&P 500 Index traded at the CME? On the CME website, at the close of each trading day, there is a list of all the put option contracts currently existing on the S&P 500 index as of the close of trading for that day. The open interest is stated for each month and strike, followed by the settlement price that day. The settlement price corresponds to the estimated value based on how the various put option contracts actually traded that day. To get the value of these put option contracts, you would take the settlement price and multiply by the contract size (in this case the contract size is 250 times the index) and open interest (for each month and strike) and sum them.

If a bank, hedge fund, or other entity has purchased put option contracts on the S&P 500 index, then the value of those contracts will be marked to market at the close of each trading day, and that value will be shown on their brokerage statement as a credit. Exchange traded derivative contracts do exist, and they are legally binding. They are a large percentage of the approximately 1 quadrillion notional value of derivatives, if I recall correctly from reading the BIS reports.

Over the counter derivatives contracts, while unregulated, also exist and, as I understand it, are also legally binding. Since they are more opaque and thinly traded, they tend to be marked to model rather than marked to market. This has created some problems regarding how to estimate the real value of these derivatives and you may have heard Bernanke and Paulson discuss how the bailout they are proposing may help create a price discovery mechanism for some of these derivatives. So I don't really think anyone is trying to pretend that these derivatives never existed, but rather trying to establish their value since the market has been unable to adequately accomplish that.

[Higgenbotham]

Now if these derivatives were woven into the markets more tightly than I understand they were -- if they compose parts of the holdings of major mutual funds, for instance -- then they are a bigger problem than I am claiming. But I don't think they were; I think only the financial firms made major trades in these markets, and our losses are confined to the implosions made when these firms collapse.

The three largest holders of derivatives are:

1. Citigroup
2. JP Morgan Chase
3. Bank of America

You may want to check me on that, but I am almost positive that this is correct.

[Higgenbotham]

Look to Japan for precedent on what is likely to happen in the US over the next 10 years. Japan had a MASSIVE stock market plunge (80%+) and real estate collapse coupled with deflation (credit crisis and contraction). And yet unemployment never rose above 6%. A total system collapse is not in the cards because we can do exactly what Japan did, which is borrow massive amounts of money to ensure that credit remains available and that there is no prolonged lock up like we experienced during the great depression. Stockholders and bondholders may very well get wiped out, and that is something you should be concerned about. However as Japan demonstrated, this does not have to lead to massive unemployment.

There is one similarity between Japan circa 1994 and the US circa 2008 and that is demographics. If I recall correctly, Japan's birthrate peaked around 1947, and the US birthrate peaked around 1961 or so.

There are some differences, though. One is that Japan went into depression while the rest of the G-7 (clarification on terminology--Russia was not part of the G-8 yet, I don't believe) economies boomed. That is not likely to be the case this time, as the whole world is likely to get dragged down at the same time. Another is that Japan had a trade surplus in the 90's, while the US does not and is not likely to. Another is the 1 quadrillion notional value derivatives problem, all denominated in US dollars, the world reserve currency. The unwinding of the derivatives bubble is likely to feed deflation and credit contraction/aversion, and so is a factor that Japan did not have to contend with. The last difference I can think of is that Japanese households were, I believe, net savers all the way through the 80's and much better positioned to weather a depression than US households are today. All of these differences will influence our ability to borrow massive amounts of money like Japan did, if that is what they did. I didn't even know they did that.

[Higgenbotham]

I agree that people should not run out today and withdraw their
deposits from FDIC-insured accounts. As I've said many times in the
web log, just make sure you follow all the rules if you have more
than $100,000 in your account.

However, this web site is all about preparation, and you should be
prepared to act quickly if banks start failing. You should be
prepared at any time to withdraw your money, and have your mattress
all picked out.

Your "new and more constructive hobby" is to be a Boy Scout and to be
prepared for what's coming, and to be prepared at all times.

John

I don't know if this is apparent to people or not, but when deflation hits (interest rates go to zero), there is almost no logical incentive to keep money in a bank if the following conditions hold:

1. The bank cannot afford to pay interest on your balance, and
2. There is the slightest risk of failure of the bank.

Bernanke knows this, Paulson knows this, and the banking industry knows this. Further, if an economy is in deflation, many credit lines will be pulled, credit cards will not be offered, and therefore many people will be forced to pay in cash anyway. In addition, many merchants will be happy to receive cash and may even offer discounts for cash transactions or refuse credit cards in order to avoid credit card transaction fees. This will force banks to lower credit card transaction fees, further reducing income and increasing the likelihood of failure.