Smiling All The Way To The Banks or Precipice

Reihan Salam makes the point I have always expressed - public confidence in government is critical. Therefore, since government, empirically speaking, generally fails at virtually everything it undertakes, when measured against promises and expectations, growth and expanded intrusion of government only sets us up for more disappointment and therefore, eventually greater distrust. Failure and distrust work hand in hand and the boomerang effect could eventually tar Obama. (See 1 below.)

More commentary on Geithner's bank bail out plan. Geithner's plan turns the government into the largest hedge fund around.(See 2 and 2a below.)

Pros and cons regarding whether the market bottomed? We have at least moved from all negative to split viewpoints. (See 3 below.)

Ettinger argues Iran wants control of the region and thus the U.S. is its main target not Israel. He then argues for joint pre-emption.

I do not envision an Obama pre-emptive strike resides in his strategy bag of options. Pre-emption would leave him naked before his Far Left, it would run counter to everything he espouses, it would make our nation a world pariah yet, if he did so and was successful it would ensure his re-election so on that basis alone it probably should not be dismissed. (See 4 below.)

Obama has been in charge for three months and the public is increasingly confused and getting angrier. What is one of the stickiest point is the amount of fire retardant this administration has thrown on the financial flames.

Are we experiencing another adminisitration that will flop because the best and the brightest are in charge? Everyone tells me how brilliant this president is and what an equally brilliant group of re-treads he has brought into our government. Brilliance is usually trumped by common sense.

On the other hand, from Obama's perspective, he is accomplishing his liberal agenda so why should he be concerned. Government is growing in size, wealth distribution is occuring by making the wealthy poorer and the Democrat Congress is virtually in control of all the power levers. Pelosi will soon attempt to pass a budget that is out of control and which will finance Obama's agenda to take over more of our nation's health care, education and energy dependency. Therefore, why should Obama worry about public opinion and poll ratings. Things are moving in his direction.

Pelosi, on the other hand, could soon be in a position to shove the budget through without much voting fanfare so again, why should Obama be concerned about public opinion. If Obama can get his agenda passed he will have moved us so far in the direction he has arrogantly has chosen to impose on us it will take generations to reverse the damage if it even can be.

A side issue is a trade war and our increasingly unstable borders with Mexico but that is a flea bite compared to what is happening with the nation's financial plight.
And I have not even mentioned Obama's foreign policy initiatives the seeds of which have just begun to be planted. Only time will tell where that will lead but for sure the war in Afghanistan is likely to be expanded.

Obama, the healer, presides over a nation more divided, surly and full of discontent with the passing of each day. He has gone on Jay Leno and 60 Minutes to throw oil on the troubled waters in order and to deflect attention from his own actions which have brought us to where we now find ourselves. I also suspect his next 'pinata' will have Cheney's name on it because Obama need an antagonist to lead.

A most interesting three months of turbulence and turmoil. I suspect we will experience many more such months, and Obama will be smiling all the way to the banks or precipice.


Dick




1) Our Government: Too Opaque, Too Powerful
By Reihan Salam


How can Americans increase their own freedom?

We are at a dangerous moment in our public life, one that reflects fundamental failures of our democracy. To many if not most Americans, the evaporation of the last decade's worth of economic growth looks like a plot orchestrated by the army of unscrupulous millionaires and billionaires. And now it looks as though the same people who manufactured vast sums of pseudo-wealth for their own enjoyment are now demanding the tax dollars of an anxious middle class. I'd be shocked if we didn't see the equivalent of the Whiskey Rebellion break out in the next several months, and President Obama, a man who has grown accustomed to praise, will, fairly or otherwise, bear the brunt of it.

After Larry Summers halting performance as the defender of Obama's economic policy on the Sunday chat shows last week, one senses that Democratic centrists, particularly centrists with close ties to Wall Street, are losing influence to the left. The revolt against the rich could very well change the politics of health care, for example.

MoveOn.org is running a brilliant advertisement on the familiar fact that private health insurers see patients as a moneymaking opportunity, thus suggesting that the profit motive itself has fallen into disrepute. Inevitably, savvy political entrepreneurs will find a way to make this new political environment work for them. In the medium term, my guess is that government as a result will grow more powerful, and that this will delight many progressives. Unfortunately, this increase in government power will ultimately exacerbate our mistrust of government.

Democrats have long taken comfort in the notion that the spectacular explosion in mistrust of government in recent years had everything to do with the incompetence of the Bush White House. But the roots of this mistrust run much deeper, and this represents an opportunity for conservatives. Obama's most inspiring quality is his conviction that government can remake America as a more prosperous, inclusive and sustainable society. The trouble is that government is an extremely blunt instrument, one that is incapable of seeing the particular circumstances of individuals and families and neighborhoods in a fine-grained way.

And it is extremely difficult for citizens to monitor the inner workings of the government that demands their allegiance and their taxes. Obama has championed government transparency. But by its nature, government is opaque. Seeing spreadsheets is very useful--but seeing the handshakes, the side deals, the job offers and the petty rivalries that actually drive decisions is essentially impossible.

The same is true of the private sector, of course, but the theory is that in a decentralized marketplace, no firm is too big to fail, a theory that has been sorely tested over the last few months. This doesn't mean that efforts to improve government will always fail. Rather, it means that the expansion of government power will tend to engender mistrust, because it will tend to privilege well-placed insiders.

There are exceptions to this rule. Consider Social Security, a program that has drawn considerable criticism from the political right and praise from the left. The irony is that Social Security is, as Irving Kristol argued decades ago, a deeply conservative program. Because there is virtually no discretion involved in administering Social Security, it is very cheap to run and essentially incorruptible. Money is vacuumed up through taxes and then spat out in the form of checks, which are distributed in such a way as to reward marriage and work.

Comment On This Story

The idea behind Social Security is radically different from the idea behind industrial policy, in which the government chooses firms and sectors and technologies to champion and subsidize, a process that inevitably involves a great deal of discretion. It is no coincidence that Social Security is one of the most beloved and most trusted government programs. Retirees are given money that they, in notional terms at least, paid for through many decades of work, and they are allowed to do with it as they please. In a way, the creation of Social Security expanded government without expanding the power of government to control our lives--as Kristol suggested, it actually increased the freedom of a large class of elderly people.

So how else can we increase freedom and make government more accountable? That needs to be the focus of conservatives and libertarians over the next few years, particularly those working at the state and local level. Transparency is vital, as Obama has argued, but it is only a first step. We also need to give citizens the means of using information to better their lives and their communities. Very briefly, here are three key ideas that can do just that.

--Tim Kane of the Kauffman Foundation has floated a promising and deceptively simple notion: Why not allow parents to choose their child's teacher? School vouchers have proved extremely controversial and ideologically charged. So has the idea of merit pay for teachers. Teacher choice promises to address both sets of concerns: With their local knowledge, and with their strong incentive for getting the right answer, parental preferences would quickly reveal which teachers are doing the best job of educating--and managing--their pupils.

--As the FDA remains hamstrung by a combination of underfunding and an extreme and understandable aversion to risk, UCLA law professor Eugene Volokh's call for a right to medical self-defense, which would allow patients diagnosed with terminal illnesses to use experimental therapies, is extremely attractive. To improve the quality of medical knowledge, we could also ask that patients who embrace this approach provide information to the FDA regarding the success or failure of the treatments. The determination of terminally ill patients to survive could benefit us all.

--And then there is Harvard law professor William J. Stuntz's call for a "police surge," a dramatic increase in the number of police officers in American cities that would deter crime and thus reduce the number of young men warehoused in our prisons.

All of these ideas skirt traditional ideological divides, yet they directly address the feeling of powerlessness that many of us feel when faced with an over mighty government that can't understand our particular needs and concerns.

2) How Treasury's Bank Bailout Could Make Things Worse

An anonymous commenter makes an excellent point this morning about banks' willingness to participate in Treasury's bailout scheme:

Isn't the big hurdle getting the banks to offer up their assets to the auction process by FDIC? Once they do that, whether they accept the bid or not, it seems hard to imagine they would be able to value the assets very much above the highest bid offered. For example, if the assets are valued on their books at 50% of face value, they offer them in the auction process and the highest bid is 30%, I would think it would require a little chutzpah to decline the bid and go back to valuing these assets significantly above what has been shown as a market price.

To put it another way, far from making things better, the Geithner plan runs a serious risk of actually making them worse.

The status quo, absent any Treasury proposal, is basically the Hempton plan: let profitable-but-insolvent banks work their way slowly back to solvency by making large operating profits and not paying dividends. But the problem with the Hempton plan is that it only works on a kind of don't-ask-don't-tell basis: the banks can't be publicly insolvent, since then they need to be taken over by the government.

The minute the Treasury plan is put into action, we'll have a lot of public price discovery for the banks' bad assets. And if the prices don't clear -- if the minimum price the banks will accept is higher than the maximum price that the public-private partnerships are willing to pay -- then no one will any longer be able to perpetuate the fiction that America's banks are solvent. And without that fiction, the Hempton plan -- the muddle-through status quo -- is toast.

The big hope of the Treasury plan is that the private sector will be willing to pay a higher price for leveraged assets than it would for unleveraged assets. The returns on private capital are being leveraged by five or six to one in this scheme, if not more, which means a high chance of them making lots of money, and also a high chance of the capital being wiped out entirely. During boom years, that was a wager that many investors were willing to take. But now? I'm not sure. Chalk it up as yet another thing-which-has-to-go-right in order for this scheme to work. There are far too many of those for comfort.

2a) The Geithner Plan FAQ

Q: What is the Geithner Plan?

A: The Geithner Plan is a trillion-dollar operation by which the U.S. acts as the world's largest hedge fund investor, committing its money to funds to buy up risky and distressed but probably fundamentally undervalued assets and, as patient capital, holding them either until maturity or until markets recover so that risk discounts are normal and it can sell them off--in either case at an immense profit.

Q: What if markets never recover, the assets are not fundamentally undervalued, and even when held to maturity the government doesn't make back its money?

A: Then we have worse things to worry about than government losses on TARP-program money--for we are then in a world in which the only things that have value are bottled water, sewing needles, and ammunition.

Q: Where does the trillion dollars come from?

A: $150 billion comes from the TARP in the form of equity, $820 billion from the FDIC in the form of debt, and $30 billion from the hedge fund and pension fund managers who will be hired to make the investments and run the program's operations.

Q: Why is the government making hedge and pension fund managers kick in $30 billion?

A: So that they have skin in the game, and so do not take excessive risks with the taxpayers' money because their own money is on the line as well.

Q: Why then should hedge and pension fund managers agree to run this?

A: Because they stand to make a fortune when markets recover or when the acquired toxic assets are held to maturity: they make the full equity returns on their $30 billion invested--which is leveraged up to $1 trillion with government money.

Q: Why isn't this just a massive giveaway to yet another set of financiers?

A: The private managers put in $30 billion and the government puts in $970 billion. If we were investing in a normal hedge fund, we would have to pay the managers 2% of the capital and 20% of the profits every year. In this case, the private managers' returns can be thought of as (a) a share of the portfolio's total return proportional to their 3% contribution, plus (b) a "management incentive fee" of (i) 0% of the capital value and (ii) between 0% (if the portfolio returns 3% per year) and 9% (if the portfolio returns 10% per year)--much less than hedge-fund managers typically charge. the Treasury is only paying 0% of the capital value and 17% of the profits every year.[1]

Q: Why do we think that the government will get value from its hiring these hedge and pension fund managers to operate this program?

A: They do get 17% of the equity return. 17% of the return on equity on a $1 trillion portfolio that is leveraged 5-1 is incentive.

Q: So the Treasury is doing this to make money?

A: No: making money is a sidelight. The Treasury is doing this to reduce unemployment.

Q: How does having the U.S. government invest $1 trillion in the world's largest hedge fund operations reduce unemployment?

A: At the moment, those businesses that ought to be expanding and hiring cannot profitably expand and hire because the terms on which they can finance expansion are so lousy. The terms on which they can finance expansion are lousy because existing financial asset prices are so low. Existing financial asset prices are so low because risk and information discounts have soared. Risk and information discounts have collapsed because the supply of assets is high and the tolerance of financial intermediaries for holding assets that are risky or that might have information-revelation problems are low.

Q: So?

A: So if we are going to boost asset prices to levels at which those firms that ought to be expanding can get finance, we are going to have to shrink the supply of risky assets that our private-sector financial intermediaries have to hold. The government buys up $1 trillion of financial assets, and lo and behold the private sector has to hold $1 trillion less of risky and information-impacted assets. Their price goes up. Supply and demand.

Q: And firms that ought to be expanding can then get financing on good terms again, and so they hire, and unemployment drops?

A: No. Our guess is that we would need to take $4 trillion out of the market and off the supply that private financial intermediaries must hold in order to move financial asset prices to where they need to be in order to unfreeze credit markets, and make it profitable for those businesses that should be hiring and expanding to actually hire and expand.

Q: Oh.

A: But all is not lost. This is not all the administration is doing. This plan consumes $150 billion of second-tranche TARP money and leverages it to take $1 trillion in risky assets off the private sector's books. And the Federal Reserve is taking an additional $1 trillion of risky debt off the private sector's books and replacing it with cash through its program of quantitative easing. And there is the fiscal boost program. And there is a potential second-round stimulus in September. And there is still $200 billion more left in the TARP to be used in other ways.

Think of it this way: the Fed's and the Treasury's announcements in the past week are what we think will be half of what we need to do the job. And if it turns out that we are right, more programs and plans will be on the way.

Q: This sounds very different from the headline of the Andrews, Dash, and Bowley article in the New York Times this morning: "Toxic Asset Plan Foresees Big Subsidies for Investors."

A: You are surprised, after the past decade, to see a New York Times story with a misleading headline?

Q: No.

A: The plan I have just described to you is the plan that was described to Andrews, Dash, and Bowley. They write of "coax[ing] investors to form partnerships with the government" and "taxpayers... would pay for the bulk of the purchases..."--that's the $30 billion from the private managers and the $150 billion from the TARP that makes up the equity tranche of the program. They write "the Federal Deposit Insurance Corporation will set up special-purpose investment partnerships and lend about 85 percent of the money..."--that's the debt slice of the program. They write "the government will provide the overwhelming bulk of the money — possibly more than 95 percent..."--that is true, but they don't say that the government gets 80% of the equity profits and what it is owed the FDIC on the debt tranche. That what Andrews, Dash, and Bowley say sounds different is a big problem: they did not explain the plan very well. Deborah Solomon in the Wall Street Journal does, I think, much better. David Cho in tomorrow morning's Washington Post is in the middle.

3)Stocks: Is the Worst Over? Some analysts believe the recent rally is a sign that equities hit bottom in early March. But other pros think there are still too many uncertainties
By Ben Steverman

Nobody is dancing in the street, but Wall Street is a considerably cheerier place lately. Moods have been lifted by a strong stock market rally, sparked when stocks in early March hit their lowest prices since the mid-1990s. Stifel Nicolaus (SF) market strategist Barry Bannister went so far as to declare: "Mar. 6, 2009 was probably the equity bottom for 2009."

By Mar. 6, when the broad Standard & Poor's 500 index hit an intraday low of 666, stocks had finally deflated a decade-old bubble, he believes. "We appear to have unwound the entire U.S. equity bubble phase that commenced in 1995," he wrote Mar. 18

The actions of Washington policymakers have helped raise investors' hopes. On Monday, Mar. 23, stocks jumped more than 4% in morning trading on the Treasury Department's rollout of its bank-rescue plan. Stocks also shot up Mar. 18 when the Federal Reserve said it would spend more than $1 trillion extra to buy up debt, an aggressive effort to unclog credit markets and revive lending to students, buyers of homes and autos and others in need of financing. To end the financial crisis and revive the economy, "you've got the federal government pulling every trick out of their book bag," says Mark Travis, chief executive of Intrepid Capital Management.

The Turning Point?
Professional investors know that calling a stock market bottom is very difficult and can be a fool's game. "You never really know you hit bottom until way after the fact," says Wasif Latif, an equity manager at USAA.

But that doesn't mean market participants don't try to identify and profit from the big market turning points. The S&P 500 is up 14% since the Mar. 6 low. So if investors can hold onto those gains, a lot of money will have been made.

Bear Losing His Grip
Peter Cardillo, chief market economist at Avalon Partners is reasonably optimistic. The market may re-test March's lows, or even dip a little lower, but not by a wide margin. "The tight bear grip on the market has weakened considerably," Cardillo says. One sign of "a better frame of mind" on Wall Street is investors seem to be reacting favorably to good news, which has included some positive talk from bank CEOs and some better-than-expected economic data.

Market pros often cite the conventional widsom that stocks move higher six months before the economy does. Fed Chairman Ben Bernanke has predicted that the recession will end this year and a recovery will begin next year. Yes, the job market continues to worsen, but, Cardillo says of the economy, "the fear of a total collapse has all but dissipated."

Michele Gambera, chief economist at Ibbotson Associates, a subsidiary of Morningstar (MORN), looks at leading economic indicators and also sees some faint signs of hope. "It has stopped getting worse," he says.

Data Revisions Possible
Some retail sales numbers and consumer confidence measures haven't been as bad as expected. However, Gambera admits these data points can be revised in the future, and plenty of other economic measures look terrible. Those include the unemployment rate and new jobless claims, though labor figures are often a lagging indicator, one of the last to show improvement.

Others aren't buying into the optimistic mood. "It's premature to definitively call the bottom," says Doug Peta, an independent market strategist. "I don't think we can see a sign yet that the economy is out of the woods."

The "incredible" and "really unprecedented" loss of jobs in the U.S. is a big problem for an economy still so reliant on consumer spending, Peta says. "If Americans are losing their jobs, they have to spend less," he says. Because of tightening credit conditions, Americans can't borrow to finance purchases. "You can't spend above your income anymore," he says.

"Too Many Unknowns"
John Merrill, chief investment officer at Tanglewood Wealth Management in Houston, thinks there is less than a 50% chance that stocks have hit bottom. However, he bought stocks this month. For a long-term investors, prices were so low that "you'd really taken a lot of risk off the table," he says. As stocks continued to rally, however, he stopped buying.

The stock market's ultimate low depends on how much the U.S. economy contracts, and that's very hard to predict. "There's too many unknowns," Merrill says. "Nobody can know."

Several fundamental measures on the horizon could help investors decide whether the stock market rally can continue. Kalivas of MF Global Research is watching three factors that could weigh on stocks: increasing unemployment, problems for commercial real estate, and higher commodity prices that could hurt corporate profits.

Waiting for First-Quarter Numbers
A key test of the economy comes on Mar. 25, when data on durable goods orders is released. Economists are expecting a 2% decline. If orders stopped their slide with a flat reading, Gambera says, "there would be people dancing in the streets."

First-quarter earnings figures will begin arriving in April, and could be a "good litmus test," Latif says. Many are wondering if the upbeat tone from some bank CEOs will be matched by reality.

Investors will also keep an eye on Washington's actions, which can sometimes put a damper on the markets. Stocks plunged after a key Geithner speech on Feb. 10 that investors criticized as short on details.

Plenty of Thrills and Chills
One thing is certain: the debate about whether stocks have really hit bottom this month will continue. If the past year has demonstrated anything, it is that this is a stock market prone to unexpected twists and turns.

4) Iran targets the US
By YORAM ETTINGER

The prevention of a nuclear Iran constitutes a top US national security priority. It sheds light on a special aspect of US-Israel relationship: defiance of mutual threats.


Iran pursues nuclear capabilities to advance strategic goals, which are led by the super-goal: hegemony over the Persian Gulf and its natural resources. Those who undermine the super-goal are considered super-enemies, targeted by super-capabilities. Hence, Teheran would use its nuclear power/threat, first and foremost, to force the US and NATO out of the Gulf and the Indian Ocean. It would then turn it against Iraq - its arch rival since the seventh century - and against Saudi Arabia, which is considered an apostate regime. All Gulf states are perceived by Iran as a key prize, required in order to control the flow and the price of oil and to bankroll its megalomaniac regional and global aspirations (e.g. leading Islam's drive to dominate the globe).

The Jewish state constitutes a non-Gulf basin target for Iran, not a primary target. Moreover, Israel is expected to retaliate in a traumatic manner, which would paralyze much of Iran's military and civilian infrastructure. Therefore, Iran would not sacrifice its super-goal (forcing the US out of the Gulf and subjugating the Gulf states) on the altar of a secondary-goal (obliterating the Jewish state).

FOR THE US AND ISRAEL, the preferred option against Iran is preemption rather than retaliation. Recent precedents suggest that the two countries benefit from leveraging each other's unique experience, as well as from bold unilateral military action against rogue threats.

In September 2007, the IAF destroyed a Syrian-North Korean nuclear plant, extending the US's strategic arm. It provided the US with vital information on Russian air defense systems, which are also employed by Iran. It bolstered the US posture of deterrence and refuted the claim that US-Israel relations have been shaped by political expediency.

In 1981, Israel destroyed Iraq's nuclear reactor, providing the US with a conventional option in 1991 and 2003, preventing a mega-billion dollar, mega-casualty nuclear war. In 1970, while the US was bogged down in Vietnam, Cambodia and Laos, Israel forced the rollback of a pro-Soviet Syrian invasion of pro-US Jordan. It prevented a pro-Soviet "domino effect" into the Persian Gulf, which would have shattered US economy.


In 2009, Israel shares with the US its battle-tested experience in combating Palestinian and Hizbullah terrorism, which are the role model of anti-US Islamic terrorism in Iraq and Afghanistan. US GIs benefit from Israel's battle tactics against car bombs, improvised explosive devices and homicide bombing. An Israel-like ally in the Persian Gulf would have spared the need to dispatch US troops to Iraq, Kuwait and Saudi Arabia.

FORMER SECRETARY OF STATE and NATO commander Alexander Haig refers to the Jewish state as the largest cost-effective, combat-experienced US aircraft carrier that does not require US personnel, cannot be sunk and is located in a most critical region for US national security interests.

While the US has been Israel's indispensable ally, Israel's battle experience has been integrated into the US defense industry. For example, the F-16 includes more than 600 Israeli modifications, sparing the US a mega-billion dollar and a multi-year research and development budget. A litany of state-of-the-art US military systems have been upgraded in a similar manner, enhancing US national and homeland security and expanding US employment and exports.

Iran's nuclear threat is a symptom of endemic Middle East violent unpredictability and Muslim hostility toward Western democracies. It calls for an upgraded US-Israel win-win relationship, which requires a strong Israel as a national security producer. A weak Israel, pushed into a nine-15 mile sliver along the Mediterranean, pressured to concede the mountain ridges of Judea, Samaria and the Golan Heights, relying on foreign troops and guarantees, would become a national security consumer. It would be a burden rather than an asset to the US in a bad neighborhood, which is crucial for vital US interests.

Iran would benefit from an ineffective Israel. However, the US would have to deploy to the eastern flank of the Mediterranean real aircraft carriers and tens of thousands of US servicemen, costing scores of billions of dollars annually, denied the benefits of Israel - the largest US aircraft carrier, which does not require a single US sailor.