Friday, May 31, 2013

"A" for Conduct. "F" for Guts.

Frederick J. Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession  (McGraw-Hill, 2009) and "The Coming Collapse of the Municipal Bond Market" (, 2009)

"You are lucky, if I may say so, that I'm the one who's standing here and not the ghost of Sen. Carter Glass. One hesitates to speak for the dead, but I am reasonably sure that the Virginia Democrat, who regarded himself as father of the Fed, would skewer you."

-James Grant, addressing the staff of the New York Federal Reserve, March 12, 2012

            Once upon a time (but not so long ago), the New York paper-pushers who deem which textbooks public-school children will read fell upon a history book that posited some fashionable minority had broken bread during an important historical event. It was pointed out there was no evidence of such, to which the paper-pushers agreed: "We know they weren't there, but it's a good idea."

            In this spirit, Craig Torres at Bloomberg wrote, or was handed, a historical account of the Fed's founding that is a "good idea," according to the Fed. (See: " Fed's 100-year Roots Grew From Virginia Congressman.")

            The article is wrong throughout, although, the first sentence may be true: "As Carter Glass began to sketch out plans for a central bank in 1913, all the U.S. representative from Virginia had to do was read his mail to know he had nationwide support." The gist of Torres' reconstruction is the mailbag in Carter Glass' office, from which the little people (a converter of cotton goods, a hardware proprietor, a butcher, and a candlestick maker) urged the Senator to pass a currency reform bill. The Federal Reserve Act became law on December 22, 1913.

            Skipping over Torres' study of why we needed the Fed ("America's strong growth potential was hobbled by a banking system that Glass called 'a rank panic breeder'"), one is left thinking Senator Glass went to his grave pleased with his accomplishment. Towards the end of the reporter's interpretation, we read: "For his part, Glass continued to defend the Fed during its early years. Speaking in the Senate, where he represented Virginia from 1920 to his death in 1946, he assailed the old system as 'bank reserve evil' and called the rigid currency and lack of flexible reserves 'the Siamese Twins of disorder.'"

            "Early years" may be taken to mean 1946, still early, from the vantage point of 2013. By 1917, Senator Glass was distressed with Fed's unaccountable usurpation.

The Federal Reserve Act of 1913 did not permit the bank to buy or hold government securities. The Federal Reserve Bank was formed to serve the needs of its constituent commercial banks. Commercial banks dealt in commercial receivables. Economists were not needed.

            H. Parker Willis was Senator Glass' aide-de-camp when the Act was negotiated. In 1936, he wrote The Theory and Practice of Central Banking. Willis fumed: "Central banks will do wisely to lay aside their inexpert ventures in half-baked monetary theory, meretricious statistical measures of trade, and hasty grindings of the axes of speculative interests with their suggestion that by doing so they are achieving some sort of 'vague' stabilization, that will, in the long run be for the better good."

            Torres writes the Federal Reserve System would "provide backup currency and credit - in effect creating a liquid market for the assets held by banks when they needed money." The system of semi-autonomous regional banks was funneled into a national bureaucracy. The centralized, open-market operations of the 1920s spawned the illiquid banking system of the early 1930s. Willis (1936) explained the inevitable consequence of having turned commercial banks into casinos. In the words of James Grant: "The idea of liquidity, too, had a hard time of it in the 1920s. A liquid asset, as Willis and his peers defined it, was a short dated commercial IOU - a money-good industrial purchase order, for example. Banks had no business owning any asset that did not, upon its maturity, generate a cash payment. Leave bonds, mortgages, and other long-lived capital instruments to the savings banks and insurance companies, Willis preached. Commercial banks were put on this earth to facilitate the exchange of goods, not to 'create' credit or finance speculation."

            Putting oneself in Craig Torres' shoes, what might he write in an unauthorized, Fed Centennial piece? It might not be much different. Where would he look? The current "literature" (per Ben S. Bernanke, ad nauseam) of economic "science" (BB, ad etc.) has blotted history. In Federal Reserve Chairman Ben S. Bernanke's Essays on the Great Depression, neither Glass' nor Willis' names are in the index. This is quite a feat, given that Carter Glass was co-author of the Glass-Steagall Act of 1933. The World's Greatest Authority on the Great Depression missed the most important bank reform of the Great Depression. Banking is central to his blunderbuss theories.

Bernanke is not atypical. The seventh-grade spelling bee champion from South Carolina undoubtedly received an "A" in conduct from romper room until he received Stanley Fischer's thumbs-up at M.I.T. It is not an accident that almost all Bernanke's academic references (the 'literature") are post-1980 academic papers written in the sandbox of such power-seekers as Professor Stanley Fischer, who has since gone on to destabilize banks and central banks on two continents. (Now heading the Israeli central bank, he is buying up the U.S. stock market.)

            It might not be literally incorrect, but worth extrapolating the proposition, that Ben S. Bernanke has never asked a question in his life. He may have asked if he could go the bathroom or if he could decant extra-credit projects at Harvard, but he would never put one of his betters on the spot. He pontificates among a generation of economists who all received an "A" in conduct. (What is worse, so an insider informs, the next generation of students that has studied under Bernanke is even more faint-hearted. They are now filling the Fed and Berkeley faculty ranks.)

            This is the way of the world, spinning east, now, to the People's Republic of China. On the same day Torres' history lesson was released, Bloomberg published: "China Credit-Bubble Call Pits Fitch's Chu Against S&P." Charlene Chu, at Fitch Ratings in Beijing, had the nerve to publish some unseemly ratios. Total lending from Chinese banks and financial institutions rose from 125% of GDP in 2008 to 198% in 2012.

Chu explained: "You just don't see that magnitude of increase" in the ratio of credit to GDP. "It's usually one of the most reliable predictors for a financial crisis." To ensure there was no question of her forecast, Chu told an interviewer: "There is just no way to grow out of a debt problem when credit is already twice as large as GDP and growing nearly twice as fast"

S&P and Moody's do not, and will not, mention "no way out" assessments for U.S. Treasury bonds. Until they default, that is. Even then, they hedge and haw, the unvarying unlanguage within large bureaucracies. (A sample: March 14, 2008 (Bloomberg) - "Bear Stearns Cos.'s credit rating was reduced three levels to BBB [still investment grade - FJS] by Standard & Poor's after the securities firm was forced to seek emergency financing from JPMorgan Chase & Co. and the New York Federal Reserve.... 'Although we view the liquidity support to Bear as positive, we consider it a short-term solution to a longer term issue,' S&P analyst Diane Hinton said.") [My bold - FJS]

Other headlines drummed home the presumptuousness of Fitch's analyst: "A China Credit crisis? Yes, Says a Lonely Fitch analyst" "Fitch Defies S&P on China's Credit Bubble" [My italics - FJS] Channels that fear losing government "access" bear the state's message. There is Hilsenrath at the Wall Street Journal. America's most notable business-news channel suspends appearances by analysts who are unconscionably bearish. Hitler was asked when he would nationalize industries. Herr Schicklgruber responded he had no intention of doing so; He would nationalize the people instead.

Bloomberg TV interviewed S&P's leading light on Chinese credit: concerning Chinese banks, the pop-eyed fellow earned an "A" in conduct: "This is a good story unfolding here." When he was asked about Charlene Chu's forecast, the rising star at S&P spoke with the timidity we've come to expect from government-aligned corporations: "We will not be the one who will be giving those scare signals."

Shifting continents, a May 25, 2013, Economist editorial certainly went down well in Brussels and Strasbourg, but did its readers no good. It should be remembered the European media operates under the fist of ECB President Mario Draghi, a good reason to find a "good story unfolding here," no matter how improbable.

The opening paragraph of the Economist's latest Euro assessment: "You may have missed it, but the European Union held a summit this week. Taking in a nutritious working lunch, Europe's prime ministers, presidents and chancellors devoted half of Wednesday to weighty issues of energy and taxation. Gone are the panic-stricken sessions of last year, dogged by talk of the euro's imminent failure. Today, Europe's leaders note, reform is under way across most of the euro zone and some southern European countries are regaining their competitiveness. The government-debt market is back in its box, where it belongs. And over the past year share prices are up by a quarter. Nobody could pretend that life is easy; Europeans understand that hard work and sacrifices lie ahead. But the worst of the crisis is now safely in the past."

European banks are using toilet-trained, beanie babies for collateral, but the magazine wins an "A" for good conduct. Hot off the press, a headline: "Spain's Bankia Decimates Savers As Stock Plummets; Police Officer Stabs Banker Who Sold Him Shares" The story opens: "While investors across the globe applaud Bernanke and other central bankers for pushing stock markets to record highs, retail investors and savers in Spain are facing massive losses. Markets appear to have forgotten Europe's sovereign debt crisis and the woes in Spain." (Forbes)


           There are consequences to running a world with the self-appointed best and brightest.