We’ve been writing off and on about how the sudden fall in gas prices has been expected to put a lot of shale gas development on hold. In fact, quite a few analysts believe that one of the big Saudi aims in refusing to support oil prices was to dent the prospects for competitive energy sources, not just renewables like wind and hydro power, but shale gas.
Even though OilPrice reported that US rig count had indeed fallen as oil prices plunged, John Dizard at the Financial Times (hat tip Scott) gives a more intriguing piece of the puzzle: the degree to which production is still chugging along despite it being uneconomical. The oil majors have been criticized for levering up to continue developing when it is cash-flow negative; they are presumably betting that prices will be much higher in short order.
But the same thing is happening further down the food chain, among players that don’t begin to have the deep pockets of the industry behemoths: many of them are still in “drill baby, drill” mode.
William Dudley, the President of the New York Fed, is not a stupid man. He is, however, wholly unfit to be a regulator. He has now admitted that publicly. It is time for him to return to Goldman Sachs so that he can be replaced by someone expressly chosen to be a vigorous regulator who will embrace the most critical function of a financial regulator – to be the tough “regulatory cop on the beat.”
This Elizabeth Warren grilling of New York Fed William Dudley over the revelations in tapes made by ex-New York Fed employee Carmen Segarra, is a bit more Socratic than her normal approach, presumably because she has more than the typical five minutes for questions. Don’t be deceived by her pacing.
Yves here. Readers may recall that we criticized the New York Times’ reporting on an important story on a criminal investigation underway involving both Goldman and New York Fed employees. A Goldman employee who had worked at the New York Fed and his boss were fired because the ex-Fed staffer allegedly had obtained confidential bank supervisory information. A New York Fed employee was also fired immediately after the Goldman terminations. The piece was composed as if the intent was to be as uninformative as possible and still meet the Grey Lady’s writing standards. Readers were left in the dark as to where the two Goldman employees fit in the organization and what the sensitive information was.
Bill Black dug through later news reports, did some additional sleuthing, and based on is experience as a regulator, concluded that there is no way the Goldman employee, Rohit Bansal, didn’t recognize that he was misusing confidential bank supervisory information. That matters because whether or not breach is criminal hinges on whether he “willfully” broke the law.
What is striking about the New York Times expose is how tortuous the writing is, and how it takes (and I am not exaggerating) three times as many words as necessary to finally describe what happened. For instance, it isn’t until the 9th paragraph that the article mentions that this sharing of confidential information can be a crime and the authorities are giving a serious look into that very question.
But the really damaging part is it looks as if Goldman waited to take action on its having obtained impermissible information until the Carmen Segarra story with secret tapes of how the New York Fed toadied to Goldman broke when they could finally see how damaging it actually was. And Goldman and the Fed clearly knew that story was coming weeks in advance.
As someone old enough to have done finance in the Paleolithic pre-personal computer era (yes, I did financial analysis using a calculator and green accountant’s ledger paper as a newbie associate at Goldman), investor expectations that market liquidity should ever and always be there seem bizarre, as well as ahistorical. Yet over the past month or two, there has been an unseemly amount of hand-wringing about liquidity in the bond market, both corporate bonds, and today, in a Financial Times story we’ll use as a point of departure, Treasuries.
These concerns appear to be prompted by worries about what happens if (as in when) bond investors get freaked out by the Fed finally signaling it is really, no really, now serious about tightening and many rush for the exits at once. The taper tantrum of summer 2013 was a not-pretty early warning and the central bank quickly lost nerve. The worry is that there might be other complicating events, like geopolitical concerns, that will impede the Fed’s efforts at soothing rattled nerves, or worse, that the bond market will gap down before the Fed can intercede (as if investors have a right to orderly price moves!).
Let’s provide some context to make sense of these pleas for ever-on liquidity.
I’m still hugely behind on the AIG bailout trial, and hope to show a ton more progress in the next week. I’m posting the transcript for days three the trial; you can find the first two days here and other key documents here.
The first week was consumed with the testimony of the painfully uncooperative Scott Alvarez, the general counsel of the Board of Governors, who Matt Stoller argued needs to be fired, and the cagier-seeming general counsel of the New York Fed, Tom Baxter. Unlike Alvarez, Baxter at least in text seemed to be far more forthcoming than Alvarez and more strategic in where he dug in his heels. But the revelations about the Morgan Stanley rescue alone are juicy. The main actors have sold a carefully concocted story for years.
In real estate, particularly in housing, national averages elegantly paper over the gritty details on the ground in specific metro areas and neighborhoods. When a new trend starts in some locations, it’s neutered by data from other locations. Blips and squiggles are averaged out of the picture. But by the time changes consistently show up in national averages, they’ve taken on serious weight on the ground. And now the “smart money” – smart because it has access to the Fed’s free moolah – is abandoning the housing market.
Due to the hour, and the fact that I want to work up the argument longer-form over a series of posts, I’ll give only an overview now as to why the popular handicapping on the AIG bailout trial, that the suit is ridiculous and not worthy of attention, is wrong.
While this case by any logic should be ridiculous, the Fed so egregiously overstepped its authority in the way it handled AIG (and for that matter, its other bailouts) that they handed Greenberg a decent legal argument. And to add to the government’s self-inflicted woes, all of its bailout cheerleading also plays straight into Greenberg’s hands.
Probably the biggest relief to the government so far is that the media has virtually ignored the trial. The only major news organization that has a reporter there daily is Bloomberg. Their reporter, Andrew Zajac, concurs with our view (and quoted us) that David Boies, the Greenberg attorney, has decent odds of winning the case. If Boies does prevail, you can expect an Administration-led firestorm of outrage, with the arguments previewed in a Steve Rattner op-ed in the New York Times.
But the grandstanding serves to obscure the legal argument, which when you get past the technicalities, has real significance politically. That is why the officialdom would rather distract the public by hammering on “That ungrateful deadbeat Greenberg. Who is he to want more money when by all rights he should have been wiped out?” If anyone bothered to look at what is really at stake here, it is that the Fed, with the help of the Paulson Treasury, greatly abused its powers. And that matters because as a practical matter, the Fed is unaccountable for its actions.
Yves here. Readers will take issue with some of former Fed staffer and banking expert Walker Todd’s comments on monetarism and Fed policy, but he nevertheless reaches the right general conclusions. The monetarist orientation of his post is a bit more understandable when you keep in mind that the central bank is run by monetary economists.
Todd treats quantitative easing as “money printing”. That sounds appealing but isn’t quite apt. The Fed was swapping assets, in this case cash for Treasury bonds or mortgage backed securities held by the public. The central bank seemed to think this would be useful due to its belief in the discredited but nevertheless very much alive “loanable funds” theory. In simple terms, if you make interest rates low enough, people will save less and spend more, and businesses will borrow and invest more because money is on sale.
In fact, what has happened is that many of those people who swapped bonds for cash went out and bought other financial assets, goosing stock prices, lowering yields on risky debt, and sending money sloshing into emerging economies. There appears to have been a modest amount of economic lift from that due to wealth effect among the rich. But big companies for the most part didn’t invest. They borrowed cheaply and are holding wads of cash that they can use to keep propping up their stock prices. Similarly, banks haven’t done much small business lending, in part because institutionally many have exited that business, and smaller enterprises themselves haven’t been too keen to borrow because in most regions and sectors, the recovery isn’t all that robust.
The Fed appears to have recognized that QE was largely a failed experiment before it announced the taper last year, but the market reaction was so lousy that it backed off and then tried again with lots more “we’re watching the market’s back” assurances. Cynics among my readers contend that the GDP figures today benefitted unduly from a 0.9% reduction in the GDP deflator, which would provide financial markets with a tailwind when QE was being halted officially.
Given that we’ve had three QEs so far, Todd has reason to argue against repeating this experiment. Another thread of his argument echoes that of Audit the Fed, which was the product of a left-right alliance, that the Fed never gave Congress an adequate explanation of the logic and expected effects of QE so it could be held accountable for this experiment.
Last week, New York Fed President William Dudley gave a speech on remedying cultural problems in financial services firms, meaning the tendency of employees to loot them and leave the mess in taxpayers’ laps. It caught pretty much everyone by surprise because it contained two sensible and effective reform ideas, namely, that of putting compensation measures in place that would have the effect of rolling them a long way back towards the partnership model, as well as making it harder for bad apples to find happy homes in other firms.
My sources are of the view that Dudley was browbeaten into taking a tougher line by the Federal Reserve Board of Governors, specifically Danny Tarullo, rather than being keen to be more aggressive himself. Nevertheless, the fact that Dudley is pushing some tough ideas is an important shift, even if the New York Fed president was under pressure to look serious.
Yves here. Richard Alford, a former New York Fed economist, provides his assessment of the AIG bailout in light of some of the revelations in the AIG bailout trial. While many of his arguments have merit, I want to quibble with a couple of them.
The first is the size of the actual amount taken by AIG and the reason for the drawdowns. At the time AIG hit the wall, the amount it needed was first estimated at $50 billion to cover its credit default swaps portfolio and $20 billion for its securities lending. The Maiden Lane III vehicle that the Fed created to take the CDOs has a $62.9 billion face value, so we can use that as a rough and ready value, and the securities lending bailout costs rose to roughly $50 billion. But consider: those two together get you to only a bit over $110 billion versus the peak lending amount reported as just shy of $185 billion. And some of that ~$110 billion includes laundering a bank bailout through AIG, by not obtaining haircuts on the CDS on the Maiden Lane CDOs. So where did that say $80 billion go? It might be commercial paper or medium term notes during the very worst of the crisis, although with the Fed supporting AIG, you’d think investors would be see its paper as fine. We’re conferring with some close AIG watchers and may write up a discussion of what that AIG black hole consisted of.
Second is that at the end, Alford adopts a “what matters is looking forward,” as in preventing future crises. Yes, but we are great believers in post-mortems, particularly in light of the George Santayana saying, “Those who do not remember the past are condemned to repeat it.”
Yves here. This important post explains why Scott Alvarez, the general counsel of the Federal Reserve Board of Governors, needs to be fired. His responses to the plaintiffs’ questions at the AIG bailout trial weren’t simply evasive; they reveal a deep, almost visceral, dedication to defending the very policies that nearly destroyed the world economy as well as a salvage operation that favored financial firms over the real economy. We have embedded the transcripts from the first three days of the AIG bailout trial, which cover Alvarez’s performance on the stand, at the end of this post.
Alvarez was brought to the Fed by Alan Greenspan. As a staff lawyer, he helped implement bank deregulation policies such as ending supervision of primary dealers in 1992, refusing to regulate derivatives in 1996 (I recall gasping out loud when I first read about the Fed’s hands off policy), and implementing the rules that shot holes through Glass Stegall before it was formally repealed in 1999. Among those measures was giving a commercial bank, Credit Suisse, waivers to take a 44% stake one of the biggest investment banks, First Boston, in 1988 and assume control in 1990.
Alvarez also has a poor record as far as representing broad public interest in his tenure as General Counsel, which started in 2004. The Fed did an even worse job than the bank-cronyistic Office of the Comptroller of the Currency in enforcing Home Ownership and Equity Protection Act, a law that put restrictions on high-cost mortgage lenders. The Fed was also one of the two major moving forces behind the disastrous Independent Foreclosure Review, an exercise that promised borrowers who were foreclosed on in 2009 and 2010. The result instead was a fee orgy by the supposedly independent consultants, capricious and inadequate payments to former homeowners, and virtually no disclosure of what was unearthed during the reviews.
It’s remarkable that this Goldman report, and its writeup on Business Insider, is being treated with a straight face. The short version is current stock price levels are dependent on continued stock buybacks. Key sections of the story: