If we don’t get our political-economic house in order very soon, America will soon be reduced the the level of “a banana republic with nukes.”

The following is the full text of a speech given by Iranian President Ahmadinejad to the United Nations General Assembly early Wednesday morning, September 24, 2008 as translated by the Presidency of the Islamic Republic of Iran News Service. The speech is reposted here to share his perspective with my readers. You can judge the merits of his words for yourselves. … The speech in PDF format was downloaded from the United Nations.

A Proper Share

Mahmoud Ahmadinejad

Reposted from The New York Times.

Green the Bailout

Thomas L. Friedman

Many things make me weep about the current economic crisis, but none more than this brief economic history: In the 19th century, America had a railroad boom, bubble and bust. Some people made money; many lost money. But even when that bubble burst, it left America with an infrastructure of railroads that made transcontinental travel and shipping dramatically easier and cheaper.

Read Friedman’s new book Hot, Flat, and Crowded: Why We Need a Green Revolution.

Main Street Before Wall Street

David Korten

Events of the past few weeks have exposed the danger of a financial system devoted to reckless speculation that produces nothing of real value and, as we are now being told, presents a risk to the whole global economy. The Bush administration proposes handing $700 billion to Treasury Secretary Paulson to disburse–without oversight or review–to those who created the current mess. Spending what many analysts believe will grow to at least a trillion dollars to prop up this predatory system for a few more months, or even years, seems less than a great idea, which hopefully makes this a teachable moment.

We might start with the lesson that there is an essential role for government. Market fundamentalists have long argued that markets freed from governmental interference self-correct. We can now see clearly that the more Wall Street freed itself from regulatory oversight, the more its most powerful players manipulated markets and politics to their personal benefit. The more reckless their risk taking became, the greater the instability of the financial system, and the greater the threat to the rest of the economy.

So what would a healthy financial system look like? Let´s start with the relationship between Main Street and Wall Street. Main Street is the world of local businesses and working people engaged in producing and exchanging real goods and services–a world of real wealth. Wall Street as it now exists is a world of pure money in which the sole game is to use money to make money for people who have money–a world of speculative gains and unearned claims against the real wealth of Main Street.

Money, an essential medium of exchange, makes modern economic life possible. In our current money system, the money that Main Street depends on to facilitate productive economic exchange and investment is created when Wall Street´s private banks issue loans. You might say that the business of Wall Street is creating money. This does not in itself create wealth. Money is only an accounting chit useful as a medium of exchange. Wealth creation is the business of Main Street. This suggests that the only legitimate reason for the existence of Wall Street is to provide an orderly flow of money to meet the needs of Main Street.

Wall Street performed its appropriate tasks reasonably well so long as public regulatory authorities put in place subsequent to the financial crash of 1929 held it accountable to Main Street interests. As it liberated itself from public oversight, however, Wall Street turned from serving Main Street to preying on it to generate outsized financial rewards for its biggest players. It created a mind boggling variety of ìheads I win, tails you lose” financial games.

It used deceptive practices to encourage people to run up credit card and mortgage debts far beyond their means to repay, and then hit the victims with special fees and usurious interest rates as they inevitably fell behind in their payments. To get the high risk mortgages off their balance sheets, the banks sold them to brokers who packaged them into tradable securities with inflated quality ratings. The banks that made the decision to extend the bad credit collected their fees and passed the risk on to others. Proceeds from the sale of the overrated securities were used to finance more lending to unqualified borrowers. Many of these overrated securities ultimately ended up in the portfolios of retirement funds, passing the risk back to Main Street workers and pensioners who had no voice in any of the decisions involved.

Wall Street also found it profitable to merge regulated banks with unregulated investment houses to facilitate insider dealing and finance a proliferation of highly leveraged hedge funds and private equity funds that specialize in gambling with other people´s money using exotic financial instruments no one fully understands.

The players and their apologists claimed they were creating wealth, providing market liquidity, increasing economic efficiency, and stabilizing markets. In fact, they created and profited from financial and real estate bubbles and debt pyramids that used borrowed money to create paper assets that became collateral for more borrowing to create more paper assets to justify compensation packages for themselves in the hundreds of millions of dollars. It may be legal, but it is not wealth creation. It is an act of theft made possible by abuse of the legally sanctioned power of a private banking system to create money out of nothing and direct it to use by financial predators engaged in expropriating the real wealth of Main Street for exorbitant fees.

In 2007, the fifty highest paid private investment fund managers, averaged $588 million in compensation–19,000 times as much as average worker pay. They said they were worth it because they were so smart and productive. Now that their bets don’t look so good, they think Main Street taxpayers should pony up to cover the losses of the firms they created to generate these handsome management fees.

Rather than seeking to restore the health of Wall Street´s predatory private institutions, a proper plan would seek to rid Wall Street of its purely predatory elements while dismantling and reassembling its useable institutions to create a new system accountable to the needs of Main Street. Here are some of the basics.

Hedge funds and private equity funds pose great risks to society while performing no beneficial function. They should be dismantled.

As Rep. Bernie Sanders has recently said, ìIf a company is too big to fail, it is too big to exist.” Adam Smith, revered by many as the founding prophet of capitalism, cautioned against any concentration of economic power that might be used to avoid market discipline, manipulate market prices, and extract unearned profits. He had a very good idea. It´s an important market principle.

It is time to revive anti-trust to break up all excessive concentrations of corporate power and particularly the banking conglomerates that have been fueling speculation in global financial markets. To meet the financial needs of Main Street create a system of federally regulated, community banks that fulfill the classic textbook function of acting as intermediaries between local people looking for a secure place for their savings and local people who need a loan to buy a home or finance a business.

Proceeds from taxes on the ill-gotten gains of those who created the financial mess can be used to make whole the pensioners, home owners, and credit card holders the system victimized.

I grew up believing that a strong middle class is a foundation of democracy and the American ideal. This would be a great time to get serious about a broader legislative agenda to restore the middle class by restoring a progressive tax system, raising the minimum wage, and assuring every American has access to the basics of a decent life. And while we are creating a tax code to favor Main Street over Wall Street we should include provisions to discourage absentee ownership and speculation by making them unprofitable.

Perhaps the most important of all the needed reform measures is to make money creation a public function and strip private banks of their ability to create money out of nothing by issuing loans at interest against unsecured demand deposits.

These are not small steps. Their implementation would likely cause significant temporary disruption, but no more than the disruption that inevitably lies ahead if the current system of predatory finance remains in place. Use the trillion dollars to help the people who are creating real wealth and let the fat cat speculators take their lumps. Only a thoroughgoing redesign of Wall Street offers prospect of a real solution. Anything else is only a costly temporary band-aid.

Global Collapse

Theedrich Yeat
Brian (Tacoma)

Tom Robertson on Energy Resources Group wrote:

“The main implication of these tendencies [from high to low net energy ratios] will be a warning; both of what is being lost as conventional energies decline in availability and the need to be very careful in the development of alternatives, so where possible the replacements for conventional energies are as beneficial as possible and the full consequences of such changes are as well anticipated as possible, thus reducing shocks due to negative shifts in energy-related social capability.”

After reading carefully Tom Robertson’s definition of net energy analysis it came to me that it might help to detail more explicitly the alternative implied in the warning he mentions: what will happen if we are NOT “very careful in the development of alternatives”.

The main thesis of Joseph Tainter’s work, “The Collapse of Complex Societies,”is that such societies collapse as a result of Declining Marginal Returns (DMR).  Whether a society uses its energy subsidies wisely or foolishly, parsimoniously or profligately, the tendency toward such decline is almost as inherent in all human societal energy use as it is in the bacterium’s petri dish.

We are very near the DMR breaking point both nationally (in the U.S.) and globally.  And not at all because of oil depletion alone.  Consider the situation in America:

• Exhaustion, damaging and poisoning of undergound aquifers almost everywhere.

• Massive topsoil erosion, which precludes future soil fecundity.
• The incapacity or unwillingness of Americans to farm, and the replacement of farms by gigantic agribusinesses employing millions of Mexican serfs, whose dependents overload the social supports in the U.S. (an overload viewed as an “externality” by the agribusinesses).
• Massive megalopolises whose populations depend on diabolically complex systems of import and export, trade and business – at a time when the general educational level is stagnant or even falling.
• Millions of feral semi-literates in the urban slums whose jobs, if they have any, are often either make-work (another form of welfare) or (as in construction) a serious net drain on the civilization’s energy subsidy.
• Millions of high-tech jobs, once the pride of America, have followed much of manufacturing to Second-World countries such as Taiwan or Second-and-a-Half-World Japan, where wages are much lower than in overpriced America.  Increasingly, only the paperwork is done in the U.S.
• There is no more surplus money in the national budget, nor will there ever be again.  The widely expected multi-trillion-dollar budget surplus has evaporated in the twinkling of an eye.  And by the way, moon landings are over forever.  All the attempts by the U.S. to achieve yet another scope enlargement of international trade have fallen short of their goal.  Liebig’s law of the minimum (i.e., whatever necessity is least abundantly available [relative to per capita requirements] sets an environment’s carrying capacity) is now about to be felt on the international scale.
• Every observer in his right mind recognizes that both America and the world are seriously overpopulated and growing more so each day, putting stress on every resource available.  Population growth alone puts increasingly greater strains on infrastructure, steadily reducing the benefit each individual can receive.  At some point the benefit per capita will fall below a critical threshold, and the system will collapse.

I am sure others can add to this list.  I have purposely excluded oil and transportation from it in order to emphasize that, even in sectors not directly connected with oil, the U.S. is moving into the region of DMR nationwide.  And this means it is nearing collapse, which could come without warning.  And when America goes, the rest of global civilization will follow.

The reader may draw his or her own conclusion from this.  Which conclusion will be drawn will normally be based upon the individual’s a priori personal decision to join those now blasphemed as “mean-spirited,” or the Camp of the Saints:  that is, to survive or not to survive.

It’s the Derivatives, Stupid!

Ellen Brown

Something extraordinary is going on with these government bailouts.  In March 2008, the Federal Reserve extended a $55 billion loan to JPMorgan to
“rescue” investment bank Bear Stearns from bankruptcy, a highly controversial move that tested the limits of the Federal Reserve Act.  On September 7, 2008, the U.S. government seized private mortgage giants Fannie Mae and Freddie Mac and imposed a conservatorship, a form of bankruptcy; but rather than let the bankruptcy court sort out the assets among the claimants, the Treasury extended an unlimited credit line to the insolvent corporations and said it would exercise its authority to buy their stock, effectively nationalizing them.  Now the Federal Reserve has announced that it is giving an $85 billion loan to American International Group (AIG), the world’s largest insurance company, in exchange for a nearly 80% stake in the insurer . . . .

The Fed is buying an insurance company?  Where exactly is that covered in the Federal Reserve Act?  The Associated Press calls it a “government takeover,” but this is not your ordinary
“nationalization” like the purchase of Fannie/Freddie stock by the U.S. Treasury.  The Federal Reserve has the power to print the national money supply, but it is not actually a part of the U.S. government.  It is a private banking corporation owned by a consortium of private banks.  The banking industry just bought the world’s largest insurance company, and they used federal money to do it.  Yahoo Finance reported on September 17:

Treasury bills are the I.O.U.s of the federal government.  We the taxpayers are on the hook for the Fed’s
“enhanced liquidity facilities,” meaning the loans it has been making to everyone in sight, bank or non-bank, exercising obscure provisions in the Federal Reserve Act that may or may not say they can do it.  What’s going on here?  Why not let the free market work?  Bankruptcy courts know how to sort out assets and reorganize companies so they can operate again.  Why the extraordinary measures for Fannie, Freddie and AIG?

The answer may have less to do with saving the insurance business, the housing market, or the Chinese investors clamoring for a bailout than with the greatest Ponzi scheme in history, one that is holding up the entire private global banking system.  What had to be saved at all costs was not housing or the dollar but the financial derivatives industry; and the precipice from which it had to be saved was an “event of default” that could have collapsed a quadrillion dollar derivatives bubble, a collapse that could take the entire global banking system down with it.

The Anatomy of a Bubble

Until recently, most people had never even heard of derivatives; but in terms of money traded, these investments represent the biggest financial market in the world.  Derivatives are financial instruments that have no intrinsic value but derive their value from something else.  Basically, they are just bets.  You can “hedge your bet” that something you own will go up by placing a side bet that it will go down.  “Hedge funds” hedge bets in the derivatives market.  Bets can be placed on anything, from the price of tea in China to the movements of specific markets.

“The point everyone misses,” wrote economist Robert Chapman a decade ago, “is that buying derivatives is not investing.  It is gambling, insurance and high stakes bookmaking.  Derivatives create nothing.”1  They not only create nothing, but they serve to enrich non-producers at the expense of the people who do create real goods and services.  In congressional hearings in the early 1990s, derivatives trading was challenged as being an illegal form of gambling.  But the practice was legitimized by Fed Chairman Alan Greenspan, who not only lent legal and regulatory support to the trade but actively promoted derivatives as a way to improve “risk management.”  Partly, this was to boost the flagging profits of the banks; and at the larger banks and dealers, it worked.  But the cost was an increase in risk to the financial system as a whole.2

Since then, derivative trades have grown exponentially, until now they are larger than the entire global economy.  The Bank for International Settlements recently reported that total derivatives trades exceeded one quadrillion dollars — that’s 1,000 trillion dollars.3  How is that figure even possible?  The gross domestic product of all the countries in the world is only about 60 trillion dollars.  The answer is that gamblers can bet as much as they want.  They can bet money they don’t have, and that is where the huge increase in risk comes in.

Credit default swaps (CDS) are the most widely traded form of credit derivative.  CDS are bets between two parties on whether or not a company will default on its bonds.  In a typical default swap, the “protection buyer” gets a large payoff from the “protection seller”if the company defaults within a certain period of time, while the
“protection seller” collects periodic payments from the “protection buyer” for assuming the risk of default.  CDS thus resemble insurance policies, but there is no requirement to actually hold any asset or suffer any loss, so CDS are widely used just to increase profits by gambling on market changes.  In one blogger’s example, a hedge fund could sit back and collect $320,000 a year in premiums just for selling
“protection” on a risky BBB junk bond. The premiums are “free” money — free until the bond actually goes into default, when the hedge fund could be on the hook for $100 million in claims.

And there’s the catch: what if the hedge fund doesn’t have the $100 million?  The fund’s corporate shell or limited partnership is put into bankruptcy; but both parties are claiming the derivative as an asset on their books, which they now have to write down.  Players who have “hedged their bets” by betting both ways cannot collect on their winning bets; and that means they cannot afford to pay their losing bets, causing other players to also default on their bets.

The dominos go down in a cascade of cross-defaults that infects the whole banking industry and jeopardizes the global pyramid scheme.  The potential for this sort of nuclear reaction was what prompted billionaire investor Warren Buffett to call derivatives “weapons of financial mass destruction.”  It is also why the banking system cannot let a major derivatives player go down, and it is the banking system that calls the shots.  The Federal Reserve is literally owned by a conglomerate of banks; and Hank Paulson, who heads the U.S. Treasury, entered that position through the revolving door of investment bank Goldman Sachs, where he was formerly CEO.

The Best Game in Town

In an article on FinancialSense.com on September 9, Daniel Amerman maintains that the government’s takeover of Fannie Mae and Freddie Mac was not actually a bailout of the mortgage giants.  It was a bailout of the financial derivatives industry, which was faced with a $1.4 trillion “event of default” that could have bankrupted Wall Street and much of the rest of the financial world.  To explain the enormous risk involved, Amerman posits a scenario in which the mortgage giants are not bailed out by the government.  When they default on the $5 trillion in bonds and mortgage-backed securities they own or guarantee, settlements are immediately triggered on $1.4 trillion in credit default swaps entered into by major financial firms, which have promised to make good on Fannie/Freddie defaulted bonds in return for very lucrative fee income and multi-million dollar bonuses.  The value of the vulnerable bonds plummets by 70%, causing $1 trillion (70% of $1.4 trillion) to be due to the “protection buyers.”  This is more money, however, than the already-strapped financial institutions have to spare.  The CDS sellers are highly leveraged themselves, which means they depend on huge day-to-day lines of credit just to stay afloat.  When their creditors see the trillion dollar hit coming, they pull their financing, leaving the strapped institutions with massive portfolios of illiquid assets.  The dreaded cascade of cross-defaults begins, until nearly every major investment bank and commercial bank is unable to meet its obligations.  This triggers another massive round of CDS events, going to $10 trillion, then $20 trillion.  The financial centers become insolvent, the markets have to be shut down, and when they open months later, the stock market has been crushed.  The federal government and the financiers pulling its strings naturally feel compelled to step in to prevent such a disaster, even though this rewards the profligate speculators at the expense of the Fannie/Freddie shareholders who will get wiped out.  Amerman concludes:

Desperate Measures for Desperate Times

It was the best game in town until September 14, when Treasury Secretary Paulson, Fed Chairman Ben Bernanke, and New York Fed Head Tim Geithner closed the bailout window to Lehman Brothers, a 158-year-old Wall Street investment firm and major derivatives player.  Why?  “There is no political will for a federal bailout,” said Geithner.  Bailing out Fannie and Freddie had created a furor of protest, and the taxpayers could not afford to underwrite the whole quadrillion dollar derivatives bubble.  The line had to be drawn somewhere, and this was apparently it.

Or was the Fed just saving its ammunition for AIG?  Recent downgrades in AIG’s ratings  meant that the counterparties to its massive derivatives contracts could force it to come up with $10.5 billion in additional capital reserves immediately or file for bankruptcy.  Treasury Secretary Paulson resisted advancing taxpayer money; but on Monday, September 15, stock trading was ugly, with the S & P 500 registering the largest one-day percent drop since September 11, 2001.  Alan Kohler wrote in the Australian Business Spectator:

Kohler quoted the September 14 newsletter of Professor Nouriel Roubini, who has a popular website called Global EconoMonitor.  Roubini warned:

The risk posed to the system was evidently too great.  On September 16, while Barclay’s Bank was offering to buy the banking divisions of Lehman Brothers, the Federal Reserve agreed to bail out AIG in return for 80% of its stock.  Why the Federal Reserve instead of the U.S. Treasury?  Perhaps because the Treasury would take too much heat for putting yet more taxpayer money on the line.  The Federal Reserve could do it quietly through its “Open Market Operations,” the ruse by which it “monetizes” government debt, turning Treasury bills (government I.O.U.s) into dollars.  The taxpayers would still have to pick up the tab, but the Federal Reserve would not have to get approval from Congress first.

Time for a 21st Century New Deal?

Another hole has been plugged in a very leaky boat, keeping it afloat another day; but how long can these stopgap measures be sustained?  Professor Roubini maintains:

We may soon hear that “the credit market is frozen” — that there is no money to keep homeowners in their homes, workers gainfully employed, or infrastructure maintained.  But this is not true.  The underlying source of all money is government credit — our own public credit.  We don’t need to borrow it from the Chinese or the Saudis or private banks.  The government can issue its own credit — the “full faith and credit of the United States.”  That was the model followed by the Pennsylvania colonists in the eighteenth century, and it worked brilliantly well.  Before the provincial government came up with this plan, the Pennsylvania economy was languishing.  There was little gold to conduct trade, and the British bankers were charging 8% interest to borrow what was available.  The government solved the credit problem by issuing and lending its own paper scrip.  A publicly-owned bank lent the money to farmers at 5% interest.  The money was returned to the government, preventing inflation; and the interest paid the government’s expenses, replacing taxes.  During the period the system was in place, the economy flourished, prices remained stable, and the Pennsylvania colonists paid no taxes at all.  (For more on this, see E. Brown, “Sustainable Energy Development: How Costs Can Be Cut in Half,”webofdebt.com/articles, November 5, 2007.)

Today’s credit crisis is very similar to that facing Herbert Hoover and Franklin Roosevelt in the 1930s.  In 1932, President Hoover set up the Reconstruction Finance Corporation (RFC) as a federally-owned bank that would bail out commercial banks by extending loans to them, much as the privately-owned Federal Reserve is doing today.  But like today, Hoover’s ploy failed.  The banks did not need more loans; they were already drowning in debt.  They needed customers with money to spend and invest.  President Roosevelt used Hoover’s new government-owned lending facility to extend loans where they were needed most — for housing, agriculture and industry.  Many new federal agencies were set up and funded by the RFC, including the HOLC (Home Owners Loan Corporation) and Fannie Mae (the Federal National Mortgage Association, which was then a government-owned agency).  In the 1940s, the RFC went into overdrive funding the infrastructure necessary for the U.S. to participate in World War II, setting the country up with the infrastructure it needed to become the world’s industrial leader after the war.

The RFC was a government-owned bank that sidestepped the privately-owned Federal Reserve; but unlike the Pennsylvania provincial government, which originated the money it lent, the RFC had to borrow the money first.  The RFC was funded by issuing government bonds and relending the proceeds.  Then as now, new money entered the money supply chiefly in the form of private bank loans.  In a
“fractional reserve” banking system, banks are allowed to lend their
“reserves” many times over, effectively multiplying the amount of money in circulation.  Today a system of public banks might be set up on the model of the RFC to fund productive endeavors — industry, agriculture, housing, energy — but we could go a step further than the RFC and give the new public banks the power to create credit themselves, just as the Pennsylvania government did and as private banks do now.  At the rate banks are going into FDIC receivership, the federal government will soon own a string of banks, which it might as well put to productive use.  Establishing a new RFC might be an easier move politically than trying to nationalize the Federal Reserve, but that is what should properly, logically be done.  If we the taxpayers are putting up the money for the Fed to own the world’s largest insurance company, we should own the Fed.

Proposals for reforming the banking system are not even on the radar screen of Prime Time politics today; but the current system is collapsing at train-wreck speed, and the “change”called for in Washington may soon be taking a direction undreamt of a few years ago.  We need to stop funding the culprits who brought us this debacle at our expense.  We need a public banking system that makes a cost-effective credit mechanism available for homeowners, manufacturing, renewable energy, and infrastructure; and the first step to making it cost-effective is to strip out the swarms of gamblers, fraudsters and profiteers now gaming the system.