A Peripheral Question

When the banks on the euro zone's fringes
Must be rescued from too many binges,
There's something to lose
And the rescuers choose
The party on whom it impinges.

When the eurozone finally begins
To determine who loses and wins,
Will the outcome be fair
To depositors there
Or the wishes of Germans and Finns?

Overheard on Maiden Lane

"When the market was in its last throes,
We bought AIG CDOs.
With the passage of time
Their value did climb,
So gainfully we may dispose."

With the sale of $3.4 billion of toxic mortgage debt, the role of the New York Fed in the $182 billion rescue of AIG came to an end last week. As Maiden Lane III LLC repaid the last of its $24.3 billion loan from the Federal Reserve Bank of New York, the Fed could celebrate a $6.6 billion gain to the public from this rescue program. Created during the dark days of 2008, the three Maiden Lane limited liability companies were set up by the Fed to stabilize the derivative markets in which AIG was a major player, as well as facilitate the takeover of Bear Stearns by JP Morgan.

According to Bloomberg, "AIG’s rescue in 2008 swelled to include a $60 billion credit line from the New York Fed, as much as $52.5 billion for two Maiden Lane programs and a Treasury investment of up to $69.8 billion." Maiden Lane III LLC combined the New York Fed's $24.3 billion loan with $5 billion of equity from AIG, to buy $29.3 billion of collateralized debt obligations (CDOs) on which the insurer had written credit default swaps. At a time when the CDOs' values were plummeting, this allowed the swaps to be canceled, thus stabilizing AIG's potential liabilities. It also bought the luxury of time for the mortgage market to recover before selling the CDOs. Over the ensuing four years, the market recovered enough to close out the Maiden Lane programs gainfully.

Acquirer's Remorse

A dealmaker second to none
Out of many firms, brought about one;
When it nearly collapsed,
He allowed that, perhaps,
What he did would be better undone.

Sandy Weill, former chairman of Citigroup, stunned the finance world when he opined during a CNBC interview that commercial and investment banks should be split up. Weill, of course, was the serial dealmaker whose entire career was dedicated to creating a bigger and more diversified "Financial Supermarket," culminating in the $70 billion merger of Travelers and Citicorp to form Citigroup in 1999. Not yet legal at the time it was agreed, this merger required a waiver from the Fed as well as the ultimate overturning of the Glass-Steagall Act through the Gramm-Leach-Bliley Act in order to be consummated. Weill retired before the financial crisis, in which his financial supermarket became the largest of the "too big to fail" banks to require a federal bailout. "I think the earlier model was right for that time," he said on CNBC. "I don't think it's right anymore."

Credit Watch on the Rhine

Said Moody's: "In pondering whether
We ought to rate Germany nether,
We considered the cost
If the euro is lost,
As well as to hold it together."

"In view of Berlin's liability
To backstop the euro's fragility,
We regard it as likely
Madrid really might be
Too much for their funding ability."

Moody's Investors Service has announced that it sees a negative outlook for its Aaa credit rating of Germany. Though the nation remains one of the strongest in Europe, its vast liability for potential bailouts of Spain and Italy, as well as the exposure of its banks to euro zone's weaker economies, would make for a severe test of Germany's financial resources. With negative outlooks also placed on the Netherlands and Luxembourg, this leaves only Finland - which has fewer foreign financial entanglements - as a solid triple-A, according to Moody's (S&P and Fitch have made no such changes). The critical issue now is to maintain the ability of the Spanish government to finance its deficits, without which a fresh round of public (primarily German) support will be required.

Spanish Bank Bailout

The ECB, EU and Spain
Gave a lesson in legerdemain,
In pledging a sum,
Knowing not where it's from,
Or where it would end up a-gain.

A €100 billion "bailout" of Spanish banks announced on the weekend turned out to be less than meets the eye. Global equity markets tumbled and Spanish government bond yields jumped to 6.521% as investors considered the unresolved issues in the European initiative. For starters, nobody knows yet where the money will come from - the old European Financial Stability Facility, or the new European Stabilization Mechanism. If the latter, the "aid" will comprise a loan to the Spanish government, the proceeds of which will be invested in Spanish banks. This government loan, equal to 10% of existing government debt, would be senior to that existing debt. This means that a short-term fix for the banks would end up damaging the attractiveness of Spanish government bonds, the core holders of which are...Spanish banks.

Bernanke's Debt Crisis Lecture

"Calamitous circumstance thrust me
Into coping with crisis robustly,
And in daring to bail
The Too Big To Fail,
I rescued your tail, you can trust me."

Federal Reserve Chairman Ben Bernanke, in the third of his four lectures at George Washington University on the Fed and the financial crisis, told his students that the Fed's extraordinary 2008 actions prevented a "total meltdown". Said the Chairman, "I think the view is increasingly gaining acceptance that without the forceful policy response that stabilized the financial system in 2008 and early 2009, we could've had a much worse outcome in the economy." One of Mr. Bernanke's key slides, shown at right, compares the trend of industrial production in the periods beginning in 1929 (blue line) and 2008 (red line); by comparison with the Great Depression, the Chairman tells us, it's clear that things could have gone much worse this time.

Overheard Somewhere in Rome

"The euro zone debt crisis, gen'rally,
Is more easily overcome fed'rally,
If those on the Rhine
Would say "Ja" and not "Nein"
To issuance jointly and sev'rally."

As the European debt crisis drags on with no end in sight, some trial balloonists at the European Commission are set to come out with a paper that explores the potential of bonds issued or guaranteed by all of the 17 euro zone members. One immediate obstacle is the resolute opposition of the Germans, who fear liability for the debts of spendthrift neighbors such as Italy. However, combined euro zone debt issuance would carry much more weight in the market than the European Financial Stability Facility (EFSF), which does not appear up to the task of stabilizing the market for Italian treasury bonds.

Overheard at the G-20 in Cannes

"Monsieur Président," said Premier Hu,
"If the Greeks carry on as they do,
We would scarcely esteem
Your stability scheme,
Or the chance of financing it, too."

When President Nicolas Sarkozy, host of this week's G-20 summit in Cannes, met Premier Hu Jintao for dinner, he would have hoped to wine and dine the Chinese leader into backing the European Financial Stability Facility (EFSF) with some of his country's $3 trillion in foreign reserves. Instead, the entire project has been thrown into doubt by Prime Minister George Papandreou's call for a Greek referendum on his country's bailout. Alarmed that the referendum is likely to fail, European leaders have responded with an ultimatum, in the words of Chancellor Angela Merkel: "Does Greece want to remain part of the euro zone or not?"

A Greek Bondholder's New Haircut

To lessen the shame and defeat in it,
A bailout's got something to sweeten it,
So there's little regret
To sign away debt,
If, in any case, one would have eaten it.

Led by France and Germany, the euro zone has crafted the framework of an agreement to avoid a Greek default and provide a mechanism to stabilize the finances of its other overly indebted members. The announcement was greeted favorably by global equity markets, in spite of the provision that writes off 50% of Greece's foreign debt; proof that a certain loss is preferred to a general uncertainty. The "sweetener" in this case is an expanded European Financial Stability Facility, which is to be leveraged from €446 billion to €1 trillion. Such leverage would eventually require the participation of cash-rich outsiders such as China, but that is a crisis for another day.

Atlas Shrunk

If the strong want to lift up the weak,
As the Germans and French would the Greek,
It is best if such acts
Do not overly tax
The Teutonic or Gallic physique.

Plans to support the public finances of Europe's peripheral nations have been thrown into fresh doubt by the news that France's Aaa rating from Moody's is under pressure.  The rating agency's French analyst, Alexander Kockerbeck, noted that France has "a lot of additional risks we did not have in the past," pointing to "developments in the euro zone."  The €440 billion European Financial Stability Facility is designed to let the triple-A countries guarantee some of the debts of the shakier ones.  If France is downgraded, then the EFSF must either do without the €158 billion French participation, or accept a double-A rating.  Germany may be bracing for a heavier burden.

Overheard at the IMF Meeting

"I conclude, after carefully thinking,
That the options for action are shrinking;
If we take evr'y pail out
We still cannot bail out
The deadbeats whose dinghies are sinking."

This weekend was the annual meeting of the International Monetary Fund member states. No doubt many are asking the urgent question: could the IMF take bold action to save the troubled economies of Europe? Simon Johnson, in his Baseline Scenario blog, puts it in perspective: the IMF's entire lending capacity equals only 15% of the public debt of Italy. Says Johnson: "The world does not really need saving, at least in a short-term macroeconomic sense.  If the problems do escalate, the IMF does not have enough money to make a difference."

L'Affaire DSK

A maid whose hotel greatly trusted her
Once confronted a sight that disgusted her,
And beat a retreat
From a luxury suite,
When an IMF package was thrust at her.

In a case that recalls the feudal practice of droit de seigneur, in which the lord of the manor was entitled to the favors of his female serfs, the worlds of politics and finance were rocked on the weekend by the news that Dominique Strauss-Kahn, head of the International Monetary Fund and a front-runner in the upcoming French presidential race, was arrested in the first class cabin of an Air France jet at JFK airport for the attempted rape of a chambermaid at the Sofitel New York. In a stroke, this development has roiled not only French politics, but also the negotiations over the bailouts of Greece and Ireland as well as the leadership of the IMF itself.

@StephenKinsella Recites Dr. Goose

[Audio] Stephen Kinsella, Lecturer in Economics at the University of Limerick, recites Dr. Goose's two-verse poem entitled "Dublin vs. Limerick Economist," proving that economists are good sports.  The verses are based on Dr. Kinsella's debate with Morgan Kelly of University College Dublin over the best way out of Ireland's financial crisis.




For background:

• here is Dr. Kelly's polemic in the Irish Times that started it all; 
• here are parts one and two of Dr. Kinsella's response.

Detroit Phoenix

In the black again, General Motors,
Still one-quarter owned by the voters,
Has seized on the chance
Of expanding its plants
With the market it took from Toyoters.

Those who recall when, just two years ago, GM was rescued from certain death by a $50 billion taxpayer bailout, must be pleasantly surprised at the automaker's recent developments. Having increased its domestic market share from 18.7% to 19.6% over the last year, a newly profitable GM is investing $2 billion in US factories and creating or saving 4,000 American jobs. There's a catch: the new factory jobs, at an hourly wage of $14, pay half the going rate of existing jobs and add to the pressure on UAW president Bob King to take back some of the concessions made during the crisis.

Erin Go Broke?

Said Noonan: "We'd like to inject less
In these albatross banks on our necklace,
For we've already blown
So much cash of our own
To atone for when lenders were reckless."  

Irish Finance Minister Michael Noonan would like the EU and the European Central Bank to agree on a longer timetable for the deleveraging of its banking sector. After the banking collapse brought on by overly aggressive property lending, the Irish government has injected €46 billion, or 29% of GDP, into the country's banks, and could evidently use a breather.

Dublin Down on Taxes

Said the Irish Prime Minister Kenny:
"I'd be glad of a bailout, if any."
"'Til you tax as we do,"
Replied the EU,
"For you we'll accrue not a penny."    

Irish eyes will be smilin' this St. Patrick's Day, if Dublin can secure an EU financing package to cover its deficits.  However, the 12.5% Irish corporate tax rate, an irritant to the other EU member states, has disrupted the negotiations.  France and Germany particularly would prefer that newly elected Prime Minister Enda Kenny move to end the tax disparity, which would  reduce the fiscal deficit as well as the perceived unfair competition for corporate locations.  For this latter reason of course, Ireland is most reluctant to comply.

Too Big to Save?

Those banks that were too big to founder
Have grown bigger without growing sounder;
So, what to do then,
If they founder again,
As sooner or later they're bound ter?  

The top five US banks now comprise 13.3% of the nation's financial firms' assets, as Real Time Economics points out in its Number of the Week. This is up from 11.8% in 2007, when Bank of America, JP Morgan Chase, Citi, Wells Fargo and Goldman Sachs were all considered too big to fail. In a comment echoed by MIT economist Simon Johnson, RTE's Mark Whitehouse wonders if these banks, in comparison with the federal government's strapped resources, are now too big to save.

Financial Crisis Post-Mortem

Economists noted the fact
That the big banks continue intact
By taking on debt,
Which, lest we forget,
Is implicitly government-backed.

At the 2011 American Economic Association annual meeting, leading economists - including MIT's Simon Johnson, co-author of "13 Bankers" - opined that financial reform had not done much to reduce the dangers posed by "too big to fail" banks.  Such banks maximize the amount of their debt financing because, due to the market's inference of a government guarantee, it is unnaturally cheap.  Similarly threatening are Fannie Mae and Freddie Mac which, Johnson said, "should be euthanized as soon as possible."

State of Despair

Said an expert in public finances,
When asked for his view of the chances
If, for federal largesse,
California would press:
"Uncle Sam's no more likely than France is."  

Here we take poetic license with the words of Dr. Alan Auerbach, professor of economics and law at UC Berkeley, who spoke at a panel discussion on the US federal deficit at the American Economic Association annual meeting.  Dr. Auerbach actually said that "Germany is more likely to bail out Greece than the US is to bail out any of the states."  He went on to note that the federal government could help the states by reducing unfunded healthcare mandates.

At the Irish Bailout Talks

Said Frau Merkel, "Now that we've shown 'em
All the euros we're willing to loan 'em,
Will all the E.U.
Come to do as we do,
Or 'e pluribus confusionem'?"


The European Union agreed on an $89 billion financial rescue package for Ireland, but the markets have not been calmed, fearing that questions of fiscal uniformity and further defaults in the Union have been left unanswered.