Tag Archives: Barack Obama

Report: Financial Crisis Could Have Been Avoided

While the riots in Egypt dominate the news flow, one of the most important reports on the financial crisis is slipping through the cracks. Earlier this week, the US Financial Crisis Inquiry Commission released their final report, following the review of millions of documents, interviews with more than 700 witnesses, in addition to 19 days of public hearings. However, the conclusions are exactly the same as the Econotwist’s and many others have figured out a long time ago – the point of origin is not to be found amongst greedy bankers, compulsive-gambling-derivative-traders with unpredictable computer systems and faulty risk calculation formulas – because the policy makers and regulators knew all along perfectly well what was going on. Yet, they did nothing.

“The greatest tragedy would be to accept the refrain that no one could have seen this coming and thus nothing could have been done. If we accept this notion, it will happen again.”

Phil Angelides


The report by the Financial Crisis Inquiry Commission was handed over to US president Barack Obama last Monday. “Despite the expressed view of many on Wall Street and in Washington that the crisis could not have been foreseen or avoided, there were warning signs. The greatest tragedy would be to accept the refrain that no one could have seen this coming and thus nothing could have been done. If we accept this notion, it will happen again”  Chairman of the Commission, Phil Angelides, says in a formal statement.

The Commission’s main concluded is that the global financial crisis could have been avoided, and points out the following reasons to why we now are experiencing one of the worst economic crisis’ ever:

1. Widespread failures in financial regulation, including the Federal Reserve’s failure to stem the tide of toxic mortgages.

2. Dramatic breakdowns in corporate governance including too many financial firms acting recklessly and taking on too much risk.

3. An explosive mix of excessive borrowing and risk by households and Wall Street that put the financial system on a collision course with crisis.

4. Key policy makers ill prepared for the crisis, lacking a full understanding of the financial system they oversaw.

5. And systemic breaches in accountability and ethics at all levels.

I should, however, also be pointed out that not everyone in the Commission stands by the report.

These statements of dissent have been published along with the report:

Dissent Joined by Keith Hennessey, Douglas Holtz-Eakin, and Bill Thomas

Dissent by Peter J. Wallison

The FCI Commission concludes that the collapsing mortgage-lending standards and the mortgage securitization pipeline lit and spread the flame of contagion and crisis.

Over-the-counter derivatives contributed significantly to this crisis, and the failures of credit rating agencies were essential cogs in the wheel of financial destruction.

The Commission have also examined the role of government sponsored enterprises (GSEs), with Fannie Mae serving as the case study.

The Commission have found that the GSEs contributed to the crisis but were not a primary cause.

They had a deeply flawed business model and suffered from many of the same failures of corporate governance and risk management seen in other financial firms but ultimately followed rather than led Wall Street and other lenders in purchasing subprime and other risky mortgages.

According to the Inquiry commission, this is the reasons for the whole bloody mess:

“We conclude this financial crisis was avoidable”

“The captains of finance and the public stewards of our financial system ignored warnings and failed to question, understand, and manage evolving risks within a system essential to the well-being of the American public. Theirs was a big miss, not a stumble. While the business cycle cannot be repealed, a crisis of this magnitude need not have occurred. To paraphrase Shakespeare, the fault lies not in the stars, but in us.”

“Despite the expressed view of many on Wall Street and in Washington that the crisis could not have been foreseen or avoided, there were warning signs. The tragedy was that they were ignored or discounted. There was an explosion in risky subprime lending and securitization, an unsustainable rise in housing prices, widespread reports of egregious and predatory lending practices, dramatic increases in household mortgage debt, and exponential growth in financial firms’ trading activities, unregulated derivatives, and short-term “repo” lending markets, among many other red flags. Yet there was pervasive permissiveness; little meaningful action was taken to quell the threats in a timely manner. The prime example is the Federal Reserve’s pivotal failure to stem the flow of toxic mortgages, which it could have done by setting prudent mortgage-lending standards.”

“The Federal Reserve was the one entity empowered to do so and it did not. The record of our examination is replete with evidence of other failures: financial institutions made, bought, and sold mortgage securities they never examined, did not care to examine, or knew to be defective; firms depended on tens of billions of dollars of borrowing that had to be renewed each and every night, secured by subprime mortgage securities; and major firms and investors blindly relied on credit rating agencies as their arbiters of risk. What else could one expect on a highway where there were neither speed limits nor neatly painted lines?”

“We conclude widespread failures in financial regulation and supervision proved devastating to the stability of the nation’s financial markets”

“The sentries were not at their posts, in no small part due to the widely accepted faith in the self-correcting nature of the markets and the ability of financial institutions to effectively police themselves. More than 30 years of deregulation and reliance on self-regulation by financial institutions, championed by former Federal Reserve chairman Alan Greenspan and others, supported by successive administrations and Congresses, and actively pushed by the powerful financial industry at every turn, had stripped away key safeguards, which could have helped avoid catastrophe. This approach had opened up gaps in oversight of critical areas with trillions of dollars at risk, such as the shadow banking system and over-the-counter derivatives markets. In addition, the government permitted financial firms to pick their preferred regulators in what became a race to the weakest supervisor.”

“The Securities and Exchange Commission could have required more capital and halted risky practices at the big investment banks. It did not. The Federal Reserve Bank of New York and other regulators could have clamped down on Citigroup’s excesses in the run-up to the crisis. They did not. Policy makers and regulators could have stopped the runaway mortgage securitization train. They did not.”

“Yet we do not accept the view that regulators lacked the power to protect the financial system. They had ample power in many arenas and they chose not to use it. To give just three examples: the Securities and Exchange Commission could have required more capital and halted risky practices at the big investment banks. It did not. The Federal Reserve Bank of New York and other regulators could have clamped down on Citigroup’s excesses in the run-up to the crisis. They did not. Policy makers and regulators could have stopped the runaway mortgage securitization train. They did not.”

“We conclude dramatic failures of corporate governance and risk management at many systemically important financial institutions were a key cause of this crisis”

“There was a view that instincts for self-preservation inside major financial firms would shield them from fatal risk-taking without the need for a steady regulatory hand, which, the firms argued, would stifle innovation. Too many of these institutions acted recklessly, taking on too much risk, with too little capital, and with too much dependence on short-term funding. In many respects, this reflected a fundamental change in these institutions, particularly the large investment banks and bank holding companies, which focused their activities increasingly on risky trading activities that produced hefty profits. They took on enormous exposures in acquiring and supporting subprime lenders and creating, packaging, repackaging, and selling trillions of dollars in mortgage-related securities, including synthetic financial products. Like Icarus, they never feared flying ever closer to the sun.”

And for the conclusive remarks:

“The Commission’s statutory instructions set out 22 specific topics for inquiry and called for the examination of the collapse of major financial institutions that failed or would have failed if not for exceptional assistance from the government. This report fulfills that mandate. In addition, The Commission was instructed to refer to the attorney general of the United States and any appropriate state attorney general any person that the Commission found may have violated the laws of the United States in relation to the crisis. Where the Commission found such potential violations, it referred those matters to the appropriate authorities.”

 

But don’t think for a second that this is over. The healing process have just begun.

And – as I also have been emphasizing – it could take many years.

Now, back to Europe.

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Copy of the report: “CONCLUSIONS OF THE FINANCIAL CRISIS INQUIRY COMMISSION”

Copy of press release.

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EU, IMF, ECB In Talks About New Greek Rescue Pacage

According to several European media, the EU, IMF and the ECB have reached a basic agreement that a debt restructuring for Greece is inevitable, and that they’re currently discussing the details in a new financial rescue package for the practically insolvent Mediterranean nation. The options on the table is said to be a 35% haircut on Greek bonds, swapping the existing 3-year bonds into 30-years and an increase of the total emergency package with 25% – another 50 billion euro.

“Europe is testing the limits of reactive incremental strategy … The laws of economics, like the laws of physics, do not respect political constraints.”

Larry Summers


According to British newspaper Financial Times, the talks with Greece on the EU to get a loan of 50 billion. euros from the European Financial Stability Fund (ETCHS) to buy back debt at around 75% of the nominal value and to prolong the loan repayment of 110 billion.

Now, that’s a really beautiful arrangement: borrowing more money from the EU to pay back (or restructure) loans at 65 – 75 percent of their original value.

The article in the Greek newspaper To Vima, Monday, contains many details on the new “Brady Plan” for Greece.

The paper says that the EU, IMF and the ECB have reached basic agreement that a debt restructuring for Greece is inevitable, with the following concrete options being discussed.

  • A haircut of 35%. Technically, this will be an exchange of existing bonds with bonds of 65% of their value.
  • A bond swap to 30-year bonds with low interest rates.
  • A new loan package of 25% of the previous volume.

To Vima also recalls the “Brady Plan,” under which the US organized a similar debt swap for Latin American debt, with the help of a FED guarantee.

The paper also quotes Greek sources as confirming that they no longer expect the rebound of growth to happen immediately.

According to British newspaper Financial Times, the talks with Greece on the EU to get another loan of 50 billion euros from the European Financial Stability Fund (ETCHS) to buy back debt at around 75% of the nominal value, in addition to prolong the loan repayment of 110 billion euro up to 30 years and reduce its interest rate.

The relevant post, signed the newspaper’s correspondent in Athens, relies on sources with knowledge of the discussions.

According to Reuters, a similar deal is discussed for Ireland.

The Greek newspaper writes that the German central bank governor, Axel Weber, support the idea, and believe that the displacement of debt repayment over a long time in conjunction, with the gradual reduction of debt of Member States under Constitution provision, would give the governments of Greece and Ireland had time to make their debt sustainable.

The funding mechanism to support Greece originally provided a three-year grace period for each installment of the loan and repayment period of two years, that payment of the total 110 billion euros by 2018.

In November Eurogroup decided to grant four-year grace period for each tranche of the loan and a seven-year repayment period, that repayment of 110 billion euros by 2024.

If finally adopted, the repayment of 110 billion will be completed in 2043.

Regarding the lending rate, this would not change significantly as 30 years in the lending rate of developed countries ranges between 3.5% – 5%.

By today’s standards that Greece borrowed from the support mechanism with a floating interest rate of around 4%, which if converted into constant is 5.5%. Ireland borrow at a fixed rate of 5.8%.

If extension of time to repay loans in 30 years, the most likely scenario would be to establish the interest rate at 1.5% higher than the German equivalent – at  4.8% to 5%.

According to the schedule of debt maturities by the central government, bonds of 21 billion expires in the period 2034 to 2057.

Even if  Greece manages to drastically reduce lending and record constantly primary surpluses by 2024, the debt will still be unsustainable.

According to the news reports. the EU, IMF, ECB and Greece are expected to reach an agreement by Friday.

The financial markets may have offered a recent respite to highly indebted euro zone members, but they will still be forced into early sovereign restructuring, leading economists at the World Economic Forum in Davos said on Friday.

Their warnings come as political leaders and central bankers pledged cast-iron support for the euro but stopped short of spelling out the reforms that will be necessary to stabilize the single currency.

Speaking on Thursday, Carmen Reinhart of Maryland University who has examined centuries of sovereign debt crises, said: “It is very difficult for me to look at the [euro zone] debt numbers and say a restructuring is going to be avoided.”

Her comments were echoed by Larry Summers, until recently chief economic adviser to President Barack Obama. Commenting on the step-by-step nature of the euro zone response to its sovereign debt crisis, he told the Financial Times: “Europe is testing the limits of reactive incremental strategy … The laws of economics, like the laws of physics, do not respect political constraints.”

Okay- let’s check out the sovereign CDS market…here.

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EU-US Summit:The Official Statements

Here are the official statements following Saturday’s top meeting in Lisbon between the leaders of the European Union and the US leaders president Barack Obama and secretary of state Hillary Clinton. In addition to president Obama, president of the EU Council Herman Van Rompuy and EU president Jose Manuel Barosso made their “preliminary remarks”.

“As regards the EU’s own economic situation, I underline here, as I did earlier to President Obama, that the fundamentals of our economy are sound.”

Herman Van Rompuy


Obama, Barosso and Van Rompuy – perhaps the three most influential people in the world right now. The president of the EU council started the press briefing by stating the “fundamentals” of the European economy is “sound”. Well, here are the reassuring remarks by the world leaders. However, note that the statements are all labeled “preliminary”.


First: the so.called “preliminary remarks” by Herman Van Rompuy, President of the European Council following the EU-US Summit 2010 in Lisbon, Saturday afternoon.

Besides from the uplifting statement about the fundamentals of the European economy, Mr. Van Rompuy informed about the following issue:

Cyber security – as also stated earlier at the NATO summit – is a threat with an immense impact. EU-US cooperation in this field can contribute to protect ourselves against it. I am therefore happy to announce that the EU and the US will enhance their cooperation, by creating a EU-US Working Group on Cyber security. The Working Group will report progress within a year.”
“Furthermore, speedy compromise on a comprehensive EU-US data protection agreement will significantly facilitate all negotiations between the EU and US on Passenger Name Records, cyber security, fight against terrorism and transnational organised crime.”

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Here’s a transcript of Mr. Van Rompuy’s speech.

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Then, the “preliminary remarks” by José Manuel Barroso, President of the European Commission following the EU-US Summit:

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And last, but not least,  Barack Obama, President of the United States. Here’s Mr. Obama’s “preliminary remarks”:

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(Source: The Council of The European Union)

Just gotta love the expression “preliminary remarks” – what it really means is that if what they’re saying turns out to be wrong, they can retract the statements as they’re only preliminary. On the other hand; if they get it right, they can hold up the transcripts and say: “See, I told you so!”

I think it’s even better than the recent change in banking terminology – from “too-big-to-fail” to “systemically important”.


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