naked capitalism

SalvatoreM says:

Whitney makes very thoughtful comments in the article. I recall about 2 years ago, Bernanke saying that this would be contained to subprime and be in the 125 billion range. Roubini upped that to 1 trillion, then two trillion. It went to 3 trillion almost overnight, and now the cost looks to be around 8 trillion. WW-II cost about 3.6 trillion in adjusted terms according to Ritholz.

At some point, taxes must rise to pay for this mess. After WW-II, top marginal tax rates went to 90%, and were 70% when Reagan took office. I am afraid that we are going to see those kinds of rates again in the near future.

Anonymous says:

“reliance on FICO scores has proven to be a disaster”

Thank heavens this is finally beginning to be recognized. The only thing these ever measured was the willingness to pay on time. They are a device to justify charging outrageous fees and make the consumer feel like they deserved it.

Without any component measuring ability to pay, they couldn’t possibly have been good for anything else.

m

Yves Smith says:

veerar,

Did I say subprime? I was talking about the more general issue of using FICO as a proxy for borrower creditworthiness. I know of people who are money good and sloppy about paying on the due date. Borrower commitment and stability of employment (which generally means stability of employer) are big issues in judging creditworthiness; FICO gives you zero insight here.

And check out the Alt-A pool Mish has been following Dreadful defaults, even though the FICO scores were good (over 700 if memory serves me right).

Anonymous says:

SalvatoreMA said (in part) at some point, taxes must rise to pay for this mess.

I’m afraid the only tax that can be imposed will be on the value of the dollar itself. The only way to settle this debt will be monetization. I think this has begun in earnest, with the FED buying debt from Fannie Mae, etc.

tyaresun says:

I work in the industry that generates FICO and would like to respond. The FICO score has played a tremendous role in the last three-four decades to democratize credit. I would urge you to read the history of what has been achieved by the FICO score.

There are a number of reasons why the FICO score was not enough to prevent bad loans. Most of the reasons can be traced back to the origination system of which the FICO score was a small part. For example, the loan originator has to verify employment, bank balances, and income in addition to the FICO score. All of these other requirements were eliminated or ignored over time (e.g. NINJA loans) and that is what contributed to the problem significantly.

Yves and Mish are right in showing highly delinquent pools with a 700 FICO score. This happened because these subprime borrowers could refinance before going delinquent on their mortgage or any other loans and hence could keep their FICO score high. If the other checks and balances were still in place, these borrowers would not have been able to keep a FICO score of 700.

Anonymous says:

Tyaresun,

If you are a lender in a far flung location relying upon Fico as the driving force behind the creditworthiness of a borrower, how do you differentiate a 720 borrower with managable debts and a decent history of employment against someone who has a 600 score with minimal debts, sizable assets, and a long record of employment? Would it not be more prudent for a local banker to interviewed these potential borrowers as well as reviewing the employment and/or future prospect for employment in the region? How about the ways to cheat by free-riding by using Authorized user accounts? I agreed with MISH/Yves and many who advocate the return to local lending with bankers who have vested interest in seeing good quality borrower get credit extended. FICO just got lucky during a hot streak in the credit bubble….

fresno dan says:

Large Bank Efficiency: not paying for all that useless checking of income, employment, and apparently, criminal record, as well as accepting anyone’s appraisal.
And FICO!!! I have never, ever, been late on a credit card payment! or any other payment for anything – EVER, no defaults, no late payments – EVER!. Employeed as a gubermint weenie, so you know I’m gonna have a job. And yet my FICO score is mediocre. I used to think there was something wrong with me – now i realize these finance guys really have no clue what they are doing.

roger says:

I don’t understand Whitney’s recommendations, frankly. I’d like to know why, at this time, we have a financial system in private hands using public money. We are getting the worst of both worlds by not nationalizing the biggest banks, for dumb ideological reasons. Thus, we are simply triaging a financial sector that is destined to shrink dramatically. And this shrunken sector is then supposed to take up its obligations to the government, which, what with loans and the assets it has taken as collateral, is up to the mid trillions point. That’s crazy. The sector will either be smaller but healthy – that is, its obligations will be eaten by the gov – or smaller and convulsive – as attempts to pay back the government prove worse than the disease they were supposed to cure.

The answer to the credit card crunch is not to allow the credit card industry, yet again, to bleed its customer base in the name of (oh laughable term) ‘democratizing’ credit. A nationalized bank could actually loan at a much more reasonable rate, thus forcing competitors to actually align their rates with the reasonable return that comes from their ability to borrow at superlow rates and lend at superhigh ones. And a nationalized bank might be just the thing to deal with the kind of loans that GM will need to survive. It is way past time to do this.

Anonymous says:

Whitney is lame-brained about recommendation number 4.

I’m more concerned about the comsumer’s solvency than the consumer’s liquidity. People aren’t just underwater on their houses, their underwater on the lives. Too many owe more than they can earn in the next 3 years, giving those teetering on the brink of insolvency a better chance at becoming insolvent accomplishes the exact opposite of what it intended.

The only exception to that may be student loans – a bet that the student will be able to increase earning power more than they could without the loan. And even then I’m skeptical – if people aren’t studying in a field with occupations that pay significant wages above median (at least 30%) then the loan is a bad bet.

ndk says:

But stag-deflation would call precisely for conventional Keynesian remedies, at least by the old school books.

I think we would be very wise to look at primary causes and not secondary effects. This wasn’t originally a liquidity trap, and there are plenty of borrowers desperate for money. Nobody’s willing to lend to them at reasonable interest rates, true, but there can be a lot of different reasons for that.

I think we’re seeing a national solvency crisis. My thinking is in a comment here.

If I’m right, the interventions by the government are likely to exacerbate the problem until something snaps.

Anonymous says:

The sooner the better on the graduated income tax Salvatore.

Shareholders will do the rest by quitting the equity markets and significantly lowering P/E for the next decade at least.

So what has been the real impetus behind bank consolidation? Bank CEO pay is highly correlated with the size of the bank

And watch the bust coming at the end of the executive pay boom. You can help by discouraging the use of the word “earnings” as in, from today’s Reuters on Huff Post,

“Instead, people with knowledge of Ford’s strategy say the automaker is considering more symbolic moves, including reducing the pay of its chief executive, Alan R. Mulally, who EARNED more than $21 million last year.”

EARNED?

He had been a top executive of Boeing, where he had worked for 37 years, and had no previous experience in the auto industry …Mr. Mulally had risen as far as he was bound to at Boeing. He was passed over twice this decade for the chief executive’s job.

Losing a total of $15.3 billion in 2006 and 2007, Ford fell to No. 3 in 2007. It surprised Wall Street by earning $100 million in the first quarter 2008…But Mr. Mulally acknowledged that Ford still expected to lose money in the second quarter and in 2008 over all, and that it still had too many workers in proportion to the number of cars and trucks it could sell. The company said that its automotive operations lost $2.9 billion in the third quarter.

In November 2008, Mr. Mulally said that his company was working hard to “transform our business” into a more profitable one that meets 21st century demands for fuel-efficient vehicles.

Following Paulson’s rhetoric who with every other sentence is always “working hard,” Mr. Mulally says “we’re working hard–” –$500,000,000 hard? $21,000,000 hard?

doc holiday says:

I’m alarmed over, CHICKENS

Pilgrim’s Pride Corp., the nation’s largest chicken producer, filed for Chapter 11 bankruptcy protection on Monday, hobbled by its debt load and volatile feed prices.
The Pittsburg, Texas-based company sought bankruptcy protection in a filing with the U.S. Bankruptcy Court for the Northern District of Texas on Monday, saying that as of Sept. 27 it had $3.75 billion in assets and $2.72 billion in debt.

See Also: CHICKENS & Profit Margins

Bill Lapp, principal at Advanced Economic Solutions in Omaha, said he anticipated that food prices would increase between 7 percent and 9 percent next year. He explained that the cost of ingredients like corn and soybean oil remained well above historical averages, even as they have come down from the highs of earlier this year.

“For the last 21 months, food manufacturers, restaurants and livestock producers have been absorbing significant costs that, in my view, are likely to be passed on to consumers in 2009 and beyond,” said Lapp, a former chief economist at ConAgra Foods.

Knute K Knutson says:

The IRA reports that the EU is fixing to declare a moratorium on CDS payouts.

http://us1.institutionalriskanalytics.com/pub/IRAMain.asp
We hear from a very well placed Buy Side investor with extensive business interests in the US and EU that three primary banking institutions in Europe, two French and one German, have such significant CDS exposure and other problems that they cannot even begin to fund the payouts anticipated over the next quarter.

The IRA was not able to obtain a comment from EU officials over the weekend about these allegations. We’ll be making some calls Sunday night and Monday. But if this unconfirmed report turns out the be true, then the beginning of the end of the CDS market as we have known it will be at hand. And ironically, the catalyst for the final solution will come not from the failure of a US dealer, but instead by a moratorium on CDS payments by an EU bank.

donna says:

FICO doesn’t even know my husband changed jobs five years ago.

Idiots.

Anonymous says:

The financial ruling class is forcefully, financially raping America under the guise of saving us. We have the worst of two worlds, a private Federal Reserve unilaterally spends three trillion dollars of public money to ensure that the banking crooks who got us into this mess don’t go bankrupt. This is allowed to happen in broad daylight because the financial sector pays huge campaign contributions to the slimy politicians. The ineffectual Federal Reserve should be disbanded and the banks nationalized.

buzz kill says:

It’s not about efficiency, it’s about bailouts. All the pig men are welfare queens.

tompain says:

Angeleno, the answer to your question is easy: cash, by definition, increases in value during deflation.

Now ask yourself this question: given the way the government is throwing money around, does it really seem plausible that the best asset to hold is a dollar bill?

As soon as commodity prices bottom and the deflationary impact of their decline is removed, it will start to become apparent that inflation is a much bigger threat than deflation. Posters here continually confuse currency strength with economic strength. We can and probably will have shrinking real GDP coincident with a decline in the real value of a dollar. Real wages and real spending power will be under pressure, but that’s not deflation, that’s a crappy economy.

The commodity bubble that just burst had its roots in a belief that commodities are an effective hedge against inflation. Most commodities are not, simply because when the price goes up, more can be produced. There is a lag, which helps convince people that the commodity is a good hedge, but ultimately commodity prices are set by the marginal cost of production. The best you can hope for is to keep up with inflation but to do that you cannot pay a price over the marginal cost.

If you insist on using commodities to hedge, focus on ones whose production cannot easily increase. Some would say gold fits the bill. I do not agree, because there is so much gold floating around in the world that the marginal unit of supply usually does not come from a mine but from a vault or a jewelry drawer, and there is no way of knowing what price people will require to part with their gold – for most people, it has no intrinsic utility.

Basically we have learned – once again – that the world is not in fact running out of corn, copper, oil, and gold coincidentally at the same time. Next time everyone is saying that we are running out of oil, check the price of copper – if it is also through the roof, you will know that the high price is cyclical rather than a sign of depletion.

Over long periods of time, equities are the best way to combat inflation’s effect on your wealth. That’s your trade right now: buy equities. They will almost certainly do better than bonds, cash, gold, or any other asset class over the next 10 yrs.

joebhed says:

I agree with Carlos.
Time to start thinking about what comes next.
Google the treasury System versus the federal reserve System.
It’s a four pager that could be two.
Old as the hills and I don’t know much about the author.
Monetary reform.
The end of debt-money creation by the private bankers, who instead lend real money after it has been created.
100 percent reserve banking.
Another, and maybe the best, of those Friedman views.
Also, the Chicago Plan.
Monetary reform.

joebhed says:

I agree with anonymous at 4:04.
Abolish the federal reserve system of today and absorb all of its branch banks, but not its member banks, into Treasury.
Rather than nationalizing the banks, we need to nationalize the nation’s money.
And put the people back in charge of their economy.
It is time once and for all in this country to put an end to the insane practice of the taxpayers going to the bankers to borrow money that the bankers do not have.
And then have to pay that money back, with interest.
This, when the government could create all the new money in the first place.
Debt-free, at no interest.
United States Dollars.
Or would we rather keep paying three times for every bag of groceries that we buy.

Anonymous says:

She says some good things but a couple stand out. One is the comment that the law restricting credit card companies to holding their promises, i.e. their rates, at the levels they offered them is “restrictive” and will “evaporate $2 billion in consumer spending.”

A number of thoughts on this:

1. They will offer money if they can make money on it. If rates shoot up to 29% and creditees cannot pay them back, then we’re right back to square 1.

2. She sounds like she’s hedging her bets and is looking to work for credit card companies.

3. The government cannot pickup the pieces after more irresponsible lending. We taxpayers shouldn’t bail out the credit card companies.