Bubble Economy 2.0: The Financial Recovery Plan from Hell

By Michael Hudson
Global Research, February 11, 2009

  Martin Wolf started off his Financial Times column today (February 11)
with the bold question: “Has Barack Obama’s presidency already failed?”[1]
The stock market had a similar opinion, plunging 382 points. Having promised
“change,” Mr. Obama is giving us more Clinton-Bush via Robert Rubin’s
protégé, Tim Geithner. Tuesday’s $2.5 trillion Financial Stabilization Plan
to re-inflate the Bubble Economy is basically an extension of the
Bush-Paulson giveaway – yet more Rubinomics for financial insiders in the
emerging Wall Street trusts.

The financial system is to be concentrated into a cartel of just a few giant
conglomerates to act as the economy’s central planners and resource
allocators. This makes banks the big winners in the game of “chicken”
they’ve been playing with Washington, a shakedown holding the economy
hostage. “Give us what we want or we’ll plunge the economy into financial
crisis.” Washington has given them $9 trillion so far, with promises now of
another $2 trillion– and still counting.

  A true reform – one designed to undo the systemic market distortions that
led to the real estate bubble – would have set out to reverse the
Clinton-Rubin repeal of the Glass-Steagall Act so as to prevent the
corrupting conflicts of interest that have resulted in vertical trusts such
as Citibank and Bank of America/Countrywide/Merrill Lynch. By unleashing
these conglomerate grupos (to use the term popularized under Pinochet with
Chicago Boy direction – a dress rehearsal of the mass financial bankruptcies
they caused in Chile by the end of the 1970s) The Clinton administration
enabled banks to merge with junk mortgage companies, junk-money managers,
fictitious property appraisal companies, and law-evasion firms all designed
to package debts to investors who trusted them enough to let them rake off
enough commissions and capital gains to make their managers the world’s
highest-paid economic planners.

  Today’s economic collapse is the direct result of their planning
philosophy. It actually was taught

as “wealth creation” and still is, as supposedly more productive than the
public regulation and over-

sight so detested by Wall Street and its Chicago School aficionados. The
financial powerhouses

created by this “free market” philosophy span the entire FIRE sector –
finance, insurance and real estate, “financializing” housing and commercial
property markets in ways guaranteed to make money by creating and selling
debt. Mr. Obama’s advisors are precisely those of the Clinton Administration
who supported trustification of the FIRE sector. This is the broad
deregulatory medium in which today’s bad-debt disaster has been able to
spread so much more rapidly than at any time since the 1920s.

 The commercial banks have used their credit-creating power not to expand
the production of goods and services or raise living standards but simply to
inflate prices for real estate (making fortunes for their brokerage,
property appraisal and insurance affiliates), stocks and bonds (making more
fortunes for their investment bank subsidiaries), fine arts (whose demand is
now essentially for trophies, degrading the idea of art accordingly) and
other assets already in place.

  The resulting dot.com and real estate bubbles were not inevitable, not
economically necessary. They were financially engineered by the political
deregulatory power acquired by banks corrupting Congress through campaign
contributions and public relations “think tanks” (more in the character

of Orwellian doublethink tanks) to promote the perverse fiction that Wall
Street can be and indeed

is automatically self-regulating. This is a travesty of Adam Smith’s
“Invisible Hand.” This hand is

better thought of as covert. The myth of “free markets” is now supposed to
consist of governments withdrawing from planning and taxing wealth, so as to
leave resource allocation and the economic surplus to bankers rather than
elected public representatives. This is what classically is called oli-

garchy, not democracy.

This centralization of planning, debt creation and revenue-extracting power
is defended as the alternative to Hayek’s road to serfdom. But it is itself
the road to debt peonage, a.k.a. the post-industrial economy or “Information
Economy.” The latter term is another euphemistic travesty in

view of the kind of information the banking system has promoted in the junk
accounting crafted

by their accounting firms and tax lawyers (off-balance-sheet entities
registered on offshore tax-avoidance islands), the AAA applause provided as
“information” to investors by the bond-rating

cartel, and indeed the national income and product accounts that depict the
FIRE sector as being

part of the “real” economy, not as an institutional wrapping of special
interests and government-sanctioned privilege acting in an extractive rather
than a productive way.

  “Thanks for the bonuses,” bankers in the United States and England
testified this week before Congress and Parliament. “We’ll keep the money,
but rest assured that we are truly sorry for

having to ask you for another few trillion dollars. At least you should
remember our theme song:

We are still better managers than the government, and the bulwark against
government bureau-

cratic resource allocation.” This is the ideological Big Lie sold by the
Chicago School “free market” celebration of dismantling government power
over finance, all defended by complex math rivaling

that of nuclear physics that the financial sector is part of the “real”
economy automatically pro-

ducing a fair and equitable equilibrium.

  This is not bad news for stockholders of more local and relatively healthy
banks (healthy in the

sense of avoiding negative equity). Their stocks soared and were by far the
major gainers on

Tuesday’s stock market, while Wall Street’s large Bad Banks plunged to new
lows. Solvent local banks are the sort that were normal prior to repeal of
Glass Steagall. They are to be bought by

the large “troubled” banks, whose “toxic loans” reflect a basically toxic
operating philosophy. In

other words, small banks who have made loans carefully will be sucked into
Citibank, Bank

of America, JP Morgan Chase and Wells Fargo – the Big Four or Five where the
junk mortgages, junk CDOs and junk derivatives are concentrated, and have
used Treasury money from the past bailout to buy out smaller banks that were
not infected with such reckless financial opportunism.

Even the Wall Street Journal editorialized regarding the Obama Treasury’s
new “Public-Private Investment Fund” to pump a trillion dollars into this
mess: “Mr. Geithner would be wise to put

someone strong and independent in charge of this fund – someone who can say
no to Congress

and has no ties to Citigroup, Robert Rubin or Wall Street.”[2]

  None of this can solve today’s financial problem. The debt overhead far
exceeds the economy’s ability to pay. If the banks would indeed do what
Pres. Obama’s appointees are begging them to do and lend more, the debt
burden would become even heavier and buying access to housing even more
costly. When the banks look back fondly on what Alan Greenspan called
“wealth creation,” we can see today that the less euphemistic terminology
would be “debt creation..” This is the objective of the new bank giveaway.
It threatens to spread the distortions that the large banks have introduced
until the entire system presumably looks like Citibank, long the number-one
offender of “stretching the envelope,” its euphemism for breaking the law
bit by bit and daring government regulators and prosecutors to try and stop
it and thereby plunging the U.S. financial system into crisis. This is the
shakedown that is being played out this week. And the Obama administration
blinked – as these same regulators did when they were in charge of the
Clinton administration’s bank policy. So much for the promised change!

  The three-pronged Treasury program seems to be only Stage One of a
two-stage “dream recovery plan” for Wall Street. Enough hints have trickled
out for the past three months in Wall Street Journal op-eds to tip the hand
for what may be in store. Watch for the magic phrase “equity kicker,” first
heard in the S&L mortgage crisis of the 1980s. It refers to the banker’s
share of capital gains, that is, asset price inflation in Bubble #2 that the
Recovery Program hopes to sponsor.

  The first question to ask about any Recovery Program is, “Recovery for
whom?” The answer

given on Tuesday is, “For the people who design the Program and their
constituency” – in this case,

the bank lobby. The second question is, “Just what is it they want to
‘recover’?” The answer is, the Bubble Economy. For the financial sector it
was a golden age. Having enjoyed the Greenspan Bubble that made them so
rich, its managers would love to create yet more wealth for themselves by
in-

debting the “real” economy yet further while inflating prices all over again
to make new capital gains.

  The problem for today’s financial elites is that it is not possible to
inflate another bubble from today’s debt levels, widespread negative equity,
and still-high level of real estate, stock and bond prices. No amount of new
capital will induce banks to provide credit to real estate already
over-mortgaged or to individuals and corporations already over-indebted.
Moody’s and other leading professional observers have forecast property
prices to keep on plunging for at least the next year, which is as far as
the eye can see in today’s unstable conditions. So the smartest money is
still waiting like vultures in the wings – waiting for government guarantees
that toxic loans will pay off. Another no-risk private profit to be
subsidized by public-sector losses.

  While the Obama administration’s financial planners wring their hands in
public and say “We feel your pain” to debtors at large, they know that the
past ten years have been a golden age for the banking system and the rest of
Wall Street. Like feudal lord claiming the economic surplus for themselves
while administering austerity for the population at large, the wealthiest 1%
of the population has raised their appropriation of the nationwide returns
to wealth – dividends, interest, rent and capital gains – from 37% of the
total ten years ago to 57% five years ago and it seems nearly 70% today.
This is the highest proportion since records have been kept. We are
approaching Russian kleptocratic levels.

  The officials drawn from Wall Street who now control of the Treasury and
Federal Reserve repeat the right-wing Big Lie: Poor “subprime families” have
brought the system down, exploiting the rich by trying to ape their betters
and live beyond their means. Taking out subprime loans and not revealing
their actual ability to pay, the NINJA poor (no income, no job, no audit)
signed up to obtain “liars’ loans” as no-documentation Alt-A loans are
called in the financial junk-paper trade.

  I learned the reality a few years ago in London, talking to a commercial
banker. “We’ve had an intellectual breakthrough,” he said. “It’s changed our
credit philosophy.”

  “What is it?” I asked, imagining that he was about to come out with yet a
new magical mathematics formula?

  “The poor are honest,” he said, accompanying his words with his jaw
dropping open as if to say, “Who would have guessed?”

  The meaning was clear enough. The poor pay their debts as a matter of
honor, even at great personal sacrifice and what today’s neoliberal Chicago
School language would call uneconomic behavior. Unlike Donald Trump, they
are less likely to walk away from their homes when market prices sink below
the mortgage level. This sociological gullibility does not make economic
sense, but reflects a group morality that has made them rich pickings for
predatory lenders such as Countrywide, Wachovia and Citibank. So it’s not
the “lying poor.” It’s the banksters’ fault after all!

  For this elite the Bubble Economy was a deliberate policy they would love
to recover. The problem is how to start a new bubble to make yet another
fortune? The alternative is not so bad – to keep the bonuses, capital gains
and golden parachutes they have given themselves, and run. But perhaps they
can improve in Bubble Economy #2.

  The Treasury’s newest Financial Stability Plan (Bailout 2.0) is only the
first step. It aims at putting in place enough new bank-lending capacity to
start inflating prices on credit all over again. But a new bubble can’t be
started from today’s asset-price levels. How can the $10 to $20 trillion
capital-gain run-up of the Greenspan years been repeated in an economy that
is “all loaned up”?

  One thing Wall Street knows is that in order to make money, asset prices
not only need to rise, they have to go down again. Without going down, after
all, how can they rise up? Without a crucifixion for the economy, how can
there be a resurrection? The more frenetic the price fibrillation, the
easier it is for computerized buy-and-sell programs to make money on options
and derivatives.

  So here’s the situation as I see it. The first objective is to preserve
the wealth of the creditor class – Wall Street, the banks and the other
financial vehicles that enrich the wealthiest 1% and, to be fair within
America’s emerging new financial oligarchy, the richest 10% of the
population. Stage One involves buying out their bad loans at a price that
saves them from taking a loss. The money will be depicted to voters as a
“loan,” to be repaid by banks extracting enough new debt charges in the new
rigged game the Treasury is setting up. The current loss will be shifted the
onto “taxpayers” and made up by new debtors – in both cases labor, onto
whose shoulders the tax burden has been shifted steadily, step by step since
1980.

  An “aggregator” bank (sounds like “alligator,” from the swamps of toxic
waste) will buy the bad debts and put them in a public agency. The
government calls this the “bad” bank. (This is Geithner’s first point.) But
it does good for Wall Street – by buying loans that have gone bad, along
with loans and derivative guarantees and swaps that never were good in the
first place. If the private sector refuses to buy these bad loans at prices
the banks are asking for, why should the government pretend that these debt
claims are worth more. Vulture funds are said to be offering about what they
were when Lehman Brothers went bankrupt: about 22 cents on the dollar. The
banks are asking for 75 cents on the dollar. What will the government offer?

  Perhaps the worst alternative is that is now being promoted by the banks
and vulture investors in tandem: the government will guarantee the price at
which private investors buy toxic financial waste from the banks. A vulture
fund would be happy enough to pay 75 cents on the dollar for worthless junk
if the government were to provide a guarantee. The Treasury and Federal
Reserve pretend that they simply would be “providing liquidity” to “frozen
markets.” But the problem is not liquidity and it is not subjective “market
psychology.” It is “solvency,” that is, a realistic awareness that toxic
waste and bad derivatives gambles are junk. Mr. Geithner has not been able
to come to terms with how to value this – without bringing the Obama
administration down in a wave of populist protest – any more than Mr.
Paulson was able to carry out his original Tarp proposal along these lines.

  The hardest task for today’s banksters is to revive opportunities for
creditors to make a new killing. (It’s the economy that’s being killed, of
course.) This seems to be the aim of the Public/Private investment company
that Mr. Geithner is establishing as the second element in his plan. The
easiest free lunch is to ride the wave of a new bubble – a fresh wave of
asset-price inflation to be introduced to “cure” the problem of debt
deflation.

  Here’s how I imagine the ploy might work. Suppose a hapless family has
bought a home for $500,000, with a full 100% $500,000 adjustable-rate
mortgage scheduled to reset this year at 8%. Suppose too that the current
market price will fall to $250,000, a loss of 50% by yearend 2009. Sometime
in mid 2010 would seem to be long enough for prices to decline by enough to
make “recovery” possible – Bubble Economy 2.0. Without such a plunge, there
will be no economy to “rescue,” no opportunity for Tim Geithner and Laurence
Summers to “feel your pain” and pull out of their pocket the following
package – a variant on the “cash for trash” swap, a public agency to acquire
the $500,000 mortgage that is going bad, heading toward only a $250,000
market price.

  The “bad bank” was not quite ready to be created this week, but the embryo
is there. It will take

the form of a public/private partnership (PPP) of the sort that Tony Blair
made so notorious in Britain. And speaking of Mr. Blair, I am writing this
from England, where almost every America-watcher I

talk to has expressed amazement at Obama’s performance last week idealizing
England’s counterpart to George Bush when it comes to unpopularity contests.
Blair’s tenure in office was a horror story,

not something to be congratulated for. He privatized the railroads and
entering into the disastrous public/private partnership that doubled,
tripled or quadrupled the cost of public projects by adding

on a heavy financial overhead. If Obama does not realize how he shocked
Britain and much of Europe with his praise, then he is in danger of foisting
a similar public/private financialized “partnership” on the United States

  The new public/private institution will be financed with private funds –
in fact, with the money now being given to re-capitalize America’s banks
(headed by the Wall St. bank’s that have done so bad). Banks will use the
Treasury money they have received by “borrowing” against their junk
mortgages at or near par to buy shares in a new $5 trillion institution
created along the lines of the unfortunate Fanny Mae and Freddie Mac. Its
bonds will be guaranteed. (That’s the “public” part – “socializing” the
risk.) The PPP institution will have the power to buy and renegotiate the
mortgages that have passed into the hands of the government and other
holders. This “Homeowner Rescue Trust” will use its private funding for the
“socially responsible” purpose of “saving the taxpayer” and middle class
homeowners by renegotiating the mortgage down from its original $500,000 to
the new $250,000 market price.

  Here’s the patter talk you can expect, with the usual Orwellian
euphemisms. The Homeowners Rescue PPP will appear as a veritable Savior Bank
resurrected from the wreckage of Bubble #1. Its clients will be families
strapped by their mortgage debt and feeling more and more desperate as the
price of their major asset plummets more deeply into Negative Equity
territory. To them, the new PPP will say: “We’ve got a deal to save you.
We’ll renegotiate your mortgage down to the current market price, $250,000,
and we’ll also lower your interest rate to just 5.50%, the new rate. This
will cut your monthly debt charges by nearly two thirds. Not only can you
afford to stay in your home, you will escape from your negative equity.”

  The family probably will say, “Great.” But they will have to make a
concession. That’s where

the new public/private partnership makes its killing. Funded with private
money that will take the “risk” (and also reap the rewards), the Savior Bank
will say to the family that agrees to renegotiate

its mortgage: “Now that the government has absorbed a loss (in today’s
travesty of “socializing” the financial system) while letting let you stay
in your home, we need to recover the money that’s been lost. If we make you
whole, we want to be made whole too. So when the time comes for you to sell
your home or renegotiate your mortgage, our Homeowners Rescue PPP will
receive the capital gain

up to the original amount written off.”

  In other words, if the homeowner sells the property for $400,000, the
Homeowners Rescue PPP will get $150,000 of the capital gain. If the home
sells for $500,000, the bank will get $250,000. And if it sells for more,
thanks to some new clone of Alan Greenspan acting as bubblemeister, the
capital gain will be split in some way. If the split is 50/50 and the home
sells for $600,000, the owner will split the $100,000 further capital gain
with the Homeowners Rescue PPP. It thus will make much more through its
appropriation of capital gains (the new debt-fueled asset-price inflation
being put in place) than it extracts in interest!

  This would make Bubble 2.0 even richer for Wall Street than the Greenspan
bubble! Last time around, it was the middle class that got the gains – even
if new buyers had to enter a lifetime of debt peonage to buy higher-priced
homes. It really was the bank that got the gains, of course, because
mortgage interest charges absorbed the entire rental value and even the
hoped-for price gain. But homeowners at least had a chance at the free ride,
if they didn’t squander their money in refinancing their mortgages to “cash
out” on their equity to support their living standards in a generation whose
wage levels had stagnated since 1979. As Mr. Greenspan observed in testimony
before Congress, a major reason why wages have not risen is that workers are
afraid to strike or even to complain about being worked harder and harder
for longer and longer hours (“raising productivity”), because they are one
paycheck away from missing their mortgage payment – or, if renters, one
paycheck or two away from homelessness.

  This is the happy condition of normalcy that Wall Street’s financial
planners would like to re-

cover. This time around, they may not be obliged to make their gains in a
way that also makes

middle class homeowners rich. In the wake of Bubble Economy #1, today’s
debt-strapped homeowners are willing to settle merely for a plan that leaves
them in their homes! The

Homeowners Rescue PPP can appropriate for its stockholder banks and other
large investors

the capital gains that have been the driving force of U.S. “wealth
creation,” bubble-style. That is

what the term “equity kicker” means.

  This situation confronts the economy with a dilemma. The only policies
deemed politically correct these days are those that make the situation
worse: yet more government money in the hope that

banks will create yet more credit/debt to raise house prices and make them
even more unaffordable; credit/debt to inflate a new Bubble Economy #2.

  Lobbyists for Wall Street’s enormous Bad Bank conglomerates are screaming
that all real solutions to today’s debt problem and tax shift onto labor are
politically incorrect, above all the time-honored debt write-downs to bring
the debt burden within the ability to pay. That is what the market is
supposed to do, after all, by bankruptcy in an anarchic collapse if not by
more deliberate and targeted government policy. The Bad Banks, having
demanded “free markets” all these years, fear a really free market when it
threatens their bonuses and other takings. For Wall Street, free markets are
“free” of public regulation against predatory lending; “free” of taxing the
wealthy so as to shift the bur- den onto labor; “free” for the financial
sector to wrap itself around the “real” economy like parasitic ivy around a
tree to extract the surplus.

  This is a travesty of freedom. As the putative neoliberal Adam Smith
explained, “The government of an exclusive company of merchants, is,
perhaps, the worst of all governments.” But worst of all is the “freedom” of
today’s economic discussion from the wisdom of classical political economy
and from historical experience regarding how societies through the ages have
coped with the debt overhead.

How to save the economy from Wall Street

  There is an alternative to ward all this off, and it is the classic
definition of freedom from debt peonage and predatory credit. The only real
solution to today’s debt overhang is a debt write-down. Until this occurs,
debt service will crowd out spending on goods and services and there will be
no recovery. Debt deflation will drag the economy down while assets are
transferred further into the hands of the wealthiest 10 percent of the
population, operating via the financial sector.

  If Obama means what he says, he would use his office as a bully pulpit to
urge repeal the present harsh creditor-oriented bankruptcy law sponsored by
the banks and credit-card companies. He would campaign to restore the
long-term trend of laws favoring debtors rather than creditors, and
introduce legislation to restore the practice of writing down debts to
reflect the debtor’s ability to pay, imposing market reality to debts that
are far in excess of realistic valuations.

  A second policy would be to restore the power of state attorneys general
to bring financial fraud charges against the most egregious mortgage lenders
– the prosecutions that the Bush Administration got thrown out of court by
claiming that under an 1864 National Bank Act clause, the federal govern-
ment had the right to override state prosecutions of national banks – and
then appointing a non-prosecutor to this enforcement position.

  On the basis of reinstated fraud charges, the government might claw back
the bank bonuses, salaries and bank earnings that represented the profits
from America’s greatest financial and real estate fraud

in history. And to prevent repetition of the past decade’s experience, the
Obama Administration might help popularize a new psychology of debt. The
government could encourage “the poor” to act as “economically” as Donald
Trumps or Angelo Mozilo’s would do, making it clear that debt write-downs
are a right.

  Also to ward off repetition of the Bubble Economy, the Treasury could
impose the “Tobin tax” of

1% on purchases and options for stocks, bonds and foreign currency. Critics
of this tax point out

that it can be evaded by speculators trading offshore in the rights to
securities held in U.S. accounts.

But the government could simply refuse to provide deposit insurance and
other support to institutions trading offshore, or simply could announce
that trades in such “deposit receipts” for shares would

not have legal standing. As for trades in derivatives, depository
institutions – including conglomerates owning such banks – can simply be
banned as inherently unsafe. If foreigners wish to speculate on financial
horse races, let them.

  Financial policy ultimately rests on tax policy. It is the ability to levy
taxes, after all, that gives value

to Treasury money (just as it is the inability to collect on debts that has
depreciated the value of commercial bank deposits). It is easy enough for
fiscal policy to prevent a new real estate bubble. Simply shift the tax
system back to where it originally was, on the land’s site-rental value. The
“free lunch” (what John Stuart Mill called the “unearned increment” of
rising land prices, a gain that land-

lords made “in their sleep”) would serve as the tax base instead of
burdening labor and industry with income taxes and sales taxes. This would
achieve the kind of free market that Adam Smith, John

Stuart Mill and Alfred Marshall described, and which the Progressive Era
aimed to achieve with America’s first income tax in 1913. It would be a
market free of the free lunch that Chicago Boys

insist does not exist. But the recent Bubble Economy and today’s Bailout
Sequel have been all about getting a free lunch.

  A land tax would prevent housing prices from rising again. It is the most
hated tax in America

today, largely because of the disinformation campaign that has been mounted
by the real estate

interests and amplified by the banks that stand behind them. The reality is
that taxing land appre-

ciation rather than wages or corporate profits would save homeowners from
having to take on

so much debt in order to obtain housing.. It would save the economy from
seeing “wealth crea-

tion” take the form of the “unearned increment” being capitalized into
higher bank loans with their associated carrying charges (interest and
amortization).

  The wealth tax originally fell mainly on real estate. The most immediate
and politically feasible priority of the Obama Administration thus should be
to repeal the Bush Administration’s drastic tax cuts for the top brackets
and its moratorium on the estate tax. The aim should be to bring down the
polarization between creditors and debtors that has concentrated over
two-thirds of the returns to wealth in the richest 1% of the population.

  If alternatives to the Bubble Economy such as these are not promoted, we
will know that promises of change were mere rhetoric, Tony Blair style.
_____________

[1] Martin Wolf, “Why Obama’s new Tarp will fail to rescue the banks,”
Financial Times, Feb. 11, 2009.

[2] “Geithner at the Improv,” Wall Street Journal editorial, February 11,
2009.

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used to promote the dehumanization of the victims of predatory
aggressions;spread the truth;free your mind from being a Zioncon occupied
territory of the neo-feudal lords by rejecting the mainstream news
propaganda. Caution: real news may induce a kind of schizophrenia because it
provides a true vision of reality which is so different from the one we are
presented by the mass media spins. Latest real infonews available at
alternate news. ***** Check whatreallyhappened.com, inforwars.com, whtt.org,
savethemales.ca  & other alternative news sites for latest news flashes. In
Truth We Trust! The opinions expressed herein contain positions and
viewpoints that are not necessarily those of the recipient, disseminator or
others mentioned in the information. These are offered as a means to
stimulate dialogue and discussion.

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Notice: This post & all my past & future posts represent parody & satire &
are all intended for entertainment and amusement only.

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