Separate names with a comma.
Discussion in 'Chit-Chat' started by silentheart, Aug 10, 2007.
By the way, AIG sold the CDS for the Drinkbond, Alkibond and Pukebond.
US expats give up passports over tax fears
Updated on May 25, 2009
The US government's decision to crack down on its citizens who fail to report their foreign bank accounts has been widely condemned as being discriminatory and anti-competitive by many expatriate Americans, and some have given up their US passports as a result.
The disclosure requirement, which is not new but has not been strictly enforced until now, applies to personal and company bank accounts with a total combined value of at least US$10,000 at anytime last year, including those over which the US taxpayer has control but no financial interest.
This means a local company with an American chief financial officer who can sign cheques will have to reveal its bank account details to the US government. The bank details must be filed with the US Department of the Treasury by June 30 or the taxpayer may be liable to a maximum fine of US$500,000 and up to five years behind bars.
"The US Congress and the president are trying to collect tax wherever they can," said Alan Seigrist, vice-chairman of the Hong Kong chapter of Republicans Abroad. "Overseas Americans and businesses are an easy target as these taxes won't affect the domestic voter base.
"This is a very cynical grab for cash. It will result in the effective destruction of competitiveness of American companies doing business overseas. They will never collect the money they think they will, and American influence abroad will be whittled away."
The US Internal Revenue Service recently told members of Congress that about US$300 billion was not being collected from cash businesses in the US, and overseas Americans who were not paying taxes on their investments and other income.
Representatives of both Republicans Abroad and Democrats Abroad plan to raise the issue with House Speaker Nancy Pelosi when she visits Hong Kong this week.
Glenn Berkey, chairman of the local chapter of Democrats Abroad, said: "Needless to say, Democrats Abroad is not real happy with any idea that might make a company reluctant to hire an American for any job. Another danger is that it will make law-abiding Americans less likely to volunteer to serve as anything that would give them signing rights - say, treasurer of AmCham, head of their child's school's parent-teacher association or a person responsible for office petty cash - because of the added burden it places on them when they file their returns."
Evan Blanco, who chairs AmCham's tax committee, said the tough stance by the US government was unlikely to persuade Americans with something to hide to come clean but would probably catch many law-abiding taxpayers who might be unaware of the disclosure requirement. Even a tax adviser Mr Blanco spoke to was unaware that Mandatory Provident Fund accounts should be disclosed under the requirement.
The aim of the policy was to identify those taxpayers using undisclosed foreign bank accounts to avoid paying taxes, a US consulate spokesman said.
But under US tax law, a taxpayer who surrenders his US passport can still be taxed on any unrealised gain if his net assets, including property, were worth more than US$2 million, said Berin Chan Ding-bong, a partner at PricewaterhouseCoopers International Assignment Services (Hong Kong).
The decline in asset values because of the global crisis and recent slide in stock prices had convinced a number of Americans to give up their US passports, Mr Chan said.
AIG chief stepping down from stimulating but thankless job
Bloomberg in New York
Updated on May 23, 2009
American International Group, seeking its fifth leader since 2005, needs an executive who can solve a problem that stymied Edward Liddy: How to stem an exodus of customers and repay loans in a US$182.5 billion bailout while balancing the demands of the US Congress and the Treasury.
Whoever replaces the chief executive will also have to endure the public scrutiny that made Mr Liddy wonder aloud about potential damage to his reputation. Mr Liddy, who is also chairman of the New York-based firm, said on Thursday he was stepping down from both roles as soon as the board can replace him.
Lawmakers including Representative Elijah Cummings grew frustrated with the costs to prop up AIG and the rescue funds that flowed to banks that did business with it.
The Treasury and the Federal Reserve have said AIG, the insurer of 100,000 companies, municipalities and retirement plans with ties to the world's largest financial firms, is too big to fail. "It is extremely important to get this right," said Mr Cummings, the Maryland Democrat who had lambasted Mr Liddy over bonuses to staff at the unit that made bad bets on subprime mortgages. "The American people are getting sick and tired of seeing all of their money flow to the banks without them benefiting."
Candidates for chief executive may include some of the six new director nominees named on Thursday in AIG's proxy statement, said Donald Light, an analyst at consulting firm Celent. "Boards have been known to pick successors from their own ranks, most especially when they have trouble finding an outside candidate," he said.
At least five of the newcomers, including Delphi Corp chairman Steve Miller and ex-Northwest Airlines chief executive Douglas Steenland, have the approval of the trustees overseeing the government's majority stake, and the panel considered turnaround experience in picking executives.
Paula Reynolds, the AIG restructuring chief who led insurer Safeco Corp and arranged for the company's sale last year to Liberty Mutual Group for US$6.2 billion, may be a candidate for chief executive, said CreditSights analyst Robert Haines.
Mr Liddy, 63, had signalled for several months to people close to AIG that he may step down. Appointed in September, he came out of retirement to salvage the insurer and was paid US$1 a year. "My only stake is my reputation," he wrote to Treasury Secretary Timothy Geithner in March.
The company has capable internal candidates and will also look outside, said Mr Liddy, who asked that the chairman and chief executive jobs be split after he steps down.
Mr Haines said: "It really is a terrible job, I'm not sure who would really want it. There is so much political baggage that whoever takes over the company is going to find it an extremely difficult and thankless job."
Mr Liddy said yesterday in an interview that his position was "the most intellectually stimulating job in America", involving "the largest restructuring probably ever done by any corporation".
"If you think about what Citigroup is going through or Bank of America, " said Mr Liddy, " I'm sure they're going through the exact same thing."
Taken for a ride: the man who sparked the meltdown
Joseph Cassano has been accused of single-handedly bringing down insurance giant AIG, but the inherent rot in the derivatives market reveals levels of greed, fraud and entitlement that demand scrutiny in much higher places
Updated on May 24, 2009
They were frightened for a long time, then suddenly they were angry. For millions of Americans, anxiety about a jobless, debt-laden future turned to disbelief when it emerged that AIG, the company at the centre of the world financial crisis, was handing out US$455 million in bonuses. The threats came soon after. "I want them dead!" said one of a stream of messages that caused AIG staff to travel in pairs, park in well-lit areas and dial 911 if followed. "I want their spouses dead! I want their children dead!"
This was one of the greatest bailouts in history, during the biggest challenge to world stability since the 1962 Cuban missile crisis. And AIG was paying bonuses to the very people who engineered the catastrophe.
Protesters walked the upmarket streets of Long Island Sound, an estuary northeast of New York City, in the United States, with letters for AIG executives describing the plight of homeowners. But they were in the wrong place. Because the man who knows the most about AIG's troubles is Joseph Cassano, the son of a New York City cop who lives in London, Britain. Some call Cassano "Patient Zero" and the deadly virus that he spread was incubated in a genteel square of stucco-fronted houses near Harrods department store. You can see him in Knightsbridge and he appears not to be a risk-taking type. He puts on his crash helmet and cycles off. He does not look like a person with reason to fear the arrival of the FBI.
Can one man really be to blame for killing off unfettered capitalism when it was in its prime?
Until now, the economic crisis has been seen as a giant intellectual error and AIG's multimillionaire employees were simply the people who made the biggest mistakes. There is, however, an alternative reading. This says that the furore over AIG and its bloated bonuses is a convenient distraction from the real causes of the crisis, which go to the heart of how the world is run. There is dishonesty in this collapse, on a scale almost too vast to comprehend. There are conflicts of interest in American finance and politics that make the corrupt local councillors of the mainland look like beginners. There are frauds so large and so long-standing, it is hard to see them for what they are. This reading is optimistic for those who believe in free markets, even if it is pessimistic for the US. "Capitalism has not failed," says Bernard-Henri Levy, the French philosopher. "We have failed capitalism."
Cassano, who ran AIG's financial-products division in London, "almost single-handedly is responsible for bringing AIG down and by reference the economy of this country", says Jackie Speier, a US congresswoman. "They basically took people's hard-earned money, gambled it and lost everything. I don't think the American people will be content, nor will I, until we hear the click of the handcuffs on his wrists."
This account is as satisfying as it is easy to understand. It treats the blowing up of the world financial system like a global version of Barings, the British bank that collapsed in 1995, with Cassano playing Singapore-based fraudster Nick Leeson. Cassano's unit sold billions of dollars of derivatives called credit-default swaps (CDS), allowing banks to buy risky debt without attracting the attention of regulators. AIG took the fees but didn't have the money to pay up if the loans went bad. By the time the music stopped, European banks had protected more than US$300 billion of debt with AIG's worthless "insurance". In a 21-page paper known as the "mutually assured destruction" memo, AIG claims that if the bailouts stop and the company is allowed to go bust, it will take the world with it.
But the official version overlooks many things, including episodes of fraud at AIG that go back at least 15 years. It fails to explain why Cassano left the company with a retainer of US$1 million a month and US$34 million in bonuses. And it doesn't tell us why other big companies, whose profits looked as smooth and certain as AIG's in the good times, are also fighting for survival. When Forbes published its first list of the world's biggest companies in 2004, AIG ranked third, after Citigroup, the dying bank, and General Electric, the industrial giant now drowning in its own debt. If you could think of a risk to insure, AIG was there: the company even made plans to survive a nuclear holocaust. It was built into a behemoth by one of the 20th century's corporate titans, Hank Greenberg. Less famous than the other insurance legend, Warren Buffett, Greenberg gave shareholders a return of 14 per cent a year and was equally loved.
But Greenberg faced a problem. Insurance is not like iPods, where if you invent the market, growth comes fast. Over time, it performs in line with the economy. In 1987 he found an answer: AIG would enter a joint venture with Howard Sosin, a pioneer in the new "Frankenstein finance" of derivatives trading. You can thank Isaac Newton for Frankenstein finance. By showing in the 17th century that the universe conforms to natural laws, he encouraged our age to see money as a branch of physics. Starting in 1952, two generations of economists worked to show that people are like molecules, whose behaviour can be predicted in ways that are stable over time. Science then infected everything, from how much capital banks need to protect themselves against insolvency, to the risk in derivatives. But there was a flaw: the City's faux physicists never went back far enough in their analysis because the data on the Bloomberg terminal covers only a tiny period of history.
"Real scientists tend to be much more sceptical about their data and their models," says William Janeway, from the private-equity firm Warburg Pincus and a Cambridge University lecturer. "The [economists] had all of the maths but none of the instincts of good scientists."
To start with, AIG trod carefully. Sosin's idea was to buy financial risk from people who did not want it, then sell the risk to others in a series of "hedges" so that AIG kept the fees but not the risk. If a big organisation wanted to lock in an interest rate, for example, AIG would promise to pay the difference in costs if rates rose, then pass the risk to other parties in separate contracts. Sosin supplied the mathematicians and the models, AIG supplied the reassurance of its AAA rating, and for a long time the alchemy worked. AIG Financial Products (AIGFP), a unit with 0.3 per cent of AIG's 116,000 employees, made more than US$1 billion in profits between 1987 and 1992, a vast sum at the time. But Sosin left. As did his successor, a mathematician named Tom Savage. When Savage departed in 2001, Greenberg put in charge a man he saw as "smart, tough and aggressive": the unit's chief operating officer, Joseph Cassano. The new boss had no background in Frankenstein finance; his degree, from Brooklyn College, was in political science. His expertise was in supervising contracts and managing the lawyers and accountants. This did not matter, Greenberg thought. The London team would be scrutinised.
There were plenty of warnings that the system AIG and others were building was fatally flawed and one US regulator tried to act, but she was silenced. Brooksley Born, who monitored the futures markets, tried to extend her brief to include unregulated derivatives. Alan Greenspan and Robert Rubin, the then chairman of the Federal Reserve and Treasury secretary, respectively, persuaded Congress to freeze her already limited power, forcing her departure. Rubin had come into government from Goldman Sachs; when he left he went back to banking and pushed for Citigroup to step up trading in risky, mortgage-related investments. For his advice, he earned more than US$126 million and as Citigroup collapsed, he became an adviser to US President Barack Obama.
The absence of regulation reached a level that defies belief. The US has an Office of Risk Assessment, set up in 2004 to co-ordinate risk management for the regulator, the Securities and Exchange Commission (SEC). By early last year, this office was reduced to a staff of one.
"When that gentleman would go home at night," says Lynn Turner, the SEC's former chief accountant, "he could turn the lights out. We had gotten down to just one person at the SEC responsible for identifying the risk at all the institutions." The US$596 trillion market in unregulated derivatives, including US$58 trillion in CDS, was being watched by one person. That's when he wasn't looking at the rest of the corporate world, of course.
Was Cassano's team simply the dumbest in a casino largely ignored by regulators, betting on an ever-rising housing market against the likes of Goldman Sachs? Or was the world financial system brought down by fraud - made possible by the gradual but relentless takeover of public life by an insiders' club of finance subjected to minimal supervision?
In 2001, with AIG shares trading at US$85 apiece on the New York Stock Exchange (NYSE), The Economist commissioned research into its true value and chose the little-known Seabury Analytic to do it. This was a deliberate move.
The magazine's New York bureau chief, Tom Easton, had been around long enough to know that nobody on Wall Street ever says "sell", except when a market is about to go up, and the big firms could not be trusted to give a candid view of AIG.
The research, which took five months, was the work of a team led by Tim Freestone. Most analysts are upbeat: their colleagues' bonuses depend on fees from the company under scrutiny. But Freestone's company (now called Crisis Economics) is independent. He judged that AIG was highly overvalued and he would later realise its shares were supported by an ability to stifle criticism. In his report for The Economist, however, he was tactful. To justify the share price, he said, "it would have to grow about 63 per cent faster than [its] peers for the next 25 years. If investors believe that AIG can sustain this type of performance for that period of time, then AIG is properly valued". Any investor who believed that would probably be certifiably insane.
After the article came out, researchers from the big banks contacted him, incredulous that he had dug deeper than the industry norm and dared to release the findings. They seemed to be in awe and at the same time jealous; nobody breaks the rules like this - not without paying a price. A delegation from AIG arrived at his office and presented him with a letter that renounced the story and condemned its "distortion of his research". He was intrigued to see the name of the author at the end of the letter - it was his and the AIG people were awaiting his signature. The company also sent its executives on a private plane to The Economist headquarters in London to demand a retraction. Legal threats followed.
"I assumed AIG was attempting to railroad us out of business," says Freestone, who didn't sign.
Greenberg was forceful when it came to his share price. He was often on the phone to Richard Grasso, head of the NYSE, with expletive-laden threats to move AIG to the smaller Nasdaq market unless the exchange did a better job. Grasso would then be seen on the floor of the exchange, talking to the market-maker for the stock. Grasso says he never asked the market-maker to bid the shares higher, which is just as well: both men could have gone to jail.
What does it have to do with Joseph Cassano? Seabury Analytic's research suggests that when Cassano took over the Frankenstein finance unit, the parent company was already in trouble. "Its `distance to default' was much closer than anyone thought," says Freestone. His models would later identify AIG and three peers - Lehman Brothers, Merrill Lynch and Bear Stearns - as insolvent when the markets thought they were fine.
Another authority believes that as Cassano wrote his CDS, AIG was already doomed.
"AIG's foray into CDS was really the grand finale," says Christopher Whalen, managing director of Institutional Risk Analytics and an expert on banking who has testified before Congress. Near the end, it looked like a Ponzi scheme, "yet the Obama administration still thinks of AIG as a real company that simply took excessive risks". In other words, there was never a chance AIG would honour its contracts: its income was nowhere near enough to cover the payouts.
His assertion is not an impulse. It comes from months of talking to forensic specialists such as Freestone, insurance regulators "and members of law-enforcement focused on financial fraud".
Whalen points to AIG's occasional habit of using secret agreements to falsify financial statements - either its own or those of other companies. In 2005, John Houldsworth, a former senior executive at the insurer General Re, pleaded guilty to conspiring to misstate AIG's finances after General Re paid US$500 million in premiums for AIG to reinsure a nonexistent US$500 million risk. The transaction was a sham; the only benefit to either party was the US$5.2 million fee paid by AIG for General Re's help.
When the US$500 million in loss reserves were added to AIG's balance sheet in 2000 and 2001, Greenberg was able to claim an increase in reserves, when in fact they had declined. "They'll find ways to cook the books, won't they?" said Houldsworth in a recorded phone conversation with Elizabeth Monrad, his chief financial officer. She observed that "these deals are a little bit like morphine; it's very hard to come off of them".
Whalen believes that at some point between 2002 and 2004, AIG concluded the game was up for secret agreements and that other methods to enhance revenue were needed. "The thing I haven't answered," Whalen adds, "is whether AIG was so unstable coming out of 2000, 2001, that Cassano was trying to cover up a dying beast. Was he doubling up, to try and hit a home run and save the house? It looks like it, because otherwise it was just greed on his part and he was writing as much of this crap as he could to inflate his bonus."
If he is right, the implications are profound. Any bank that thought it was protected by CDS with AIG would have been exposed from the start, putting taxpayers at risk. It would be like a doctor telling patients they were being immunised with a vaccine when in fact they were being injected with live virus.
"The key point that neither the public, the Fed nor the Treasury seems to understand," says Whalen, "is that the CDS contracts written by AIG were shams, with no correlation between fees paid and the risk assumed. These were not valid contracts but acts to manipulate the capital positions and earnings of financial companies around the world."
The investigation into the General Re affair prompted AIG to oust Greenberg in 2005. He has always denied any wrongdoing. In fact, he is suing AIG, claiming his successors abandoned risk controls and destroyed the firm.
The old man's departure meant the brakes were off for Cassano; the new chief executive, Martin Sullivan, had risen through the "property and casualty" side of the business. As he is fond of pointing out, he is not an accountant. Who would scrutinise the financial-products team now? The pace of CDS deals suddenly accelerated. He had realised that subprime mortgages accounted for an increasing proportion of his trades and that the standards of underwriting were shockingly lax. No model, however carefully constructed, can protect you from that. It was too late: the bomb on AIG's books was ticking. Alpha males such as Cassano push at boundaries. You could say it is their evolutionary purpose. That is one reason we need governments, to protect us when male ambition reaches too far. But our governments were mesmerised by people such as Cassano.
"From 1973 to 1985," says Simon Johnson, a former chief economist at the International Monetary Fund, "the financial sector never earned more than 16 per cent of [US] corporate profits. This decade, it reached 41 per cent." The whole point of financial companies is to allocate your savings to those who can use the money best. If they are taking 41 per cent of the profit in an economy, something is out of balance. These figures reveal an enormous transfer of wealth.
Which brings us back to bonuses. In August 2007, as the financial crisis broke, Cassano claimed everything was fine. "It is hard for us, and without being flippant, to even see a scenario, within any kind of realm or reason, that would see us losing US$1 in any of those transactions," he told investors, as his chief executive listened in on the call. But it seemed to be a different story inside AIG. The company had hired Joseph St Denis, a former SEC official, as part of an effort to improve its internal controls. Cassano shut him out. "I have deliberately excluded you from the valuation of the super seniors [debt products] because I was concerned that you would pollute the process," St Denis recalls Cassano saying. The auditor resigned in protest, yet the minutes of AIG's audit committee show no sign of concern.
In the final three months of 2007, AIG lost more than US$5 billion. Under the terms of the bonus scheme, top executives should have had their pay cut for poor performance. When the compensation committee met in March last year to award bonuses, however, Sullivan urged it to ignore the losses. The board approved, even though losses were growing monthly, and Sullivan pocketed US$5.4 million. He was also awarded a golden parachute worth US$15 million. He was out of the company three months later with a severance package worth US$47 million. That is US$39,500 for every day he was in charge. Pension funds and other savers holding AIG shares lost US$58.4 million a day during his tenure.
In seven years, the 400 employees in Cassano's division were paid US$3.5 billion. Cassano received US$280 million. When the losses became public, AIG parted company with him. But he wasn't fired: he "retired", with a contract to pay him US$1 million a month for nine months and protect his right to more bonus payments.
Cassano's division then imploded. As house prices fell, credit ratings were cut and bankers began to panic, AIG posted the biggest quarterly loss in corporate history: US$61.7 billion. This is equivalent to losing US$28 million an hour, every hour, for the final three months of 2008. But by now, the company's problems were the property of the American taxpayer, creating extraordinary new conflicts of interest. Hank Paulson, the Treasury secretary in the outgoing Bush administration, was an ex-chief executive of Goldman Sachs. He received tax benefits of about US$200 million for taking on a government role. When the US decided to bail out AIG, the chief beneficiary of the rescue was Goldman Sachs, which received US$12.9 billion of public funds via the insurer.
AIG tried to hide its payments to Goldman Sachs and others, somehow imagining you could have US$182.5 billion of taxpayers' money and not say how you were using it.
The task facing Obama is even greater than we imagine. Intellectually, the president might see what is required but execution still depends on the bankers club that helped bring about the collapse in the first place.
"It is not outright fraud that has caused the most damage to the market," says Freestone, the analyst who first saw problems at AIG. "It is the suppression of information, wittingly or unwittingly, by most of the market's players." Although AIG's early trades showed genuine brilliance, their later CDS deals, many of which were not even hedged, were as foolish as can be. Was it fraud? Yes, in the widest sense - but it was fraud as wilful ignorance, in which an industry is based on false assumptions and each participant has little reason to question the system as long as it continues to make him rich.
"There is no need for an overt conspiracy, or to be incompetent," says an internet poster called Anonymous Jones. "When there are enormous incentives for each participant to cheat, the efficiency of any market breaks down."
In recent weeks, Cassano has grown a beard and changed his crash helmet, which is no longer red but silver. The disguise might not be enough; prosecutors are said to be close to criminal charges. They think he misled investors, an easier case to make than that of knowingly risking the financial system. "To date, neither AIG nor AIGFP is aware of any fraud or malfeasance in connection with the underwriting and creation of the multisector CDS portfolio," says AIG, referring to the trades under scrutiny, "as opposed to what, with hindsight, turned out to be bad business decisions."
If they were bad decisions, they had a context. "Once people who push boundaries realise that the police don't want to issue tickets," says Charles Ortel, managing director of Newport Value Partners, a firm that provides research to investors, "they start pushing. `If you're not going to arrest me for going 10mph over the speed limit, well, I'll try 20. If I can do 20, I'll try 30. And then I'll try flying a plane down the road.'"
The Sunday Times
Welcome to Chimerica
In this exclusive serialisation from his new book, the Harvard historian charts how the relationship between China and America has shaped the world of finance
Updated on Nov 18, 2008
To many, financial history is just so much water under the bridge â€“ ancient history, like the history of imperial China. Markets have short memories. Many young traders today did not even experience the Asian crisis of 1997-8. Those who went into finance after 2000 lived through seven heady years. Stock markets the world over boomed. So did bond markets, commodity markets and derivatives markets. In fact, so did all asset classes â€“ not to mention those that benefit when bonuses are big, from vintage Bordeaux to luxury yachts. But these boom years were also mystery years, when markets soared at a time of rising short-term interest rates, glaring trade imbalances and soaring political risk, particularly in the economically crucial oil-exporting regions of the world. The key to this seeming paradox lay in China.
Chongqing, on the undulating banks of the mighty earth-brown River Yangtze, is deep in the heart of the Middle Kingdom, over a thousand miles away from the coastal enterprise zones most Westerners visit. Yet the municipality's 32 million inhabitants are as caught up in today's economic miracle as those in Hong Kong or Shanghai. At one level, the breakneck industrialisation and urbanisation going on in Chongqing are the last and greatest feat of the Communist, planned economy. The 30 bridges, the 10 light railways, the countless tower blocks all appear through the smog like monuments to the power of the centralised one-party state. Yet the growth of Chongqing is also the result of unfettered private enterprise. In many ways, Wu Yajun is the personification of China's newfound wealth. As one of Chongqing's leading property developers, she is among the wealthiest women in China, worth over US$9 billion â€“ the living antithesis of those Scotsmen who made their fortunes in Hong Kong a century ago. Or take Yin Mingshan. Imprisoned during the Cultural Revolution, Mr Yin discovered his true vocation in the early 1990s, after the liberalisation of the Chinese economy. In just 15 years he has built up a US$900 million business. Last year his Lifan company sold more than 1.5 million motorcycle engines and bikes; now he is exporting to the United States and Europe. Wu and Yin are just two of more than 345,000 dollar-millionaires who now live in China.
Not only has China left its imperial past far behind. So far, the fastest growing economy in the world has managed to avoid the kind of crisis that has periodically blown up other emerging markets. Having already devalued the renminbi in 1994, and having retained capital controls throughout the period of economic reform, China suffered no currency crisis in 1997-8. When the Chinese wanted to attract foreign capital, they insisted that it take the form of direct investment. That meant that instead of borrowing from Western banks to finance their industrial development, as many other emerging markets did, they got foreigners to build factories in Chinese enterprise zones â€“ large, lumpy assets that could not be withdrawn in a crisis. The crucial point, though, is that the bulk of Chinese investment has been financed from China's own savings (and from the overseas Chinese diaspora). Cautious after years of instability and unused to the panoply of credit facilities in the West, Chinese households save an unusually high proportion of their rising incomes, in marked contrast to Americans, who in recent years have saved almost none at all. Chinese corporations save an even larger proportion of their soaring profits. So plentiful are savings that, for the first time in centuries, the direction of capital flow is now not from West to East, but from East to West. And it is a mighty flow. In 2007, the United States needed to borrow around US$800 billion from the rest of the world; more than US$4 billion every working day. China, by contrast, ran a current account surplus of US$262 billion, equivalent to more than a quarter of the US deficit. And a remarkably large proportion of that surplus has ended up being lent to the United States. In effect, the People's Republic of China has become banker to the United States of America.
At first sight, it may seem bizarre. Today the average American earns more than US$34,000 a year. Despite the wealth of people like Wu Yajun and Yin Mingshan, the average Chinese lives on less than US$2,000. Why would the latter want, in effect, to lend to the former, who is 22 times richer? The answer is that, until recently, the best way for China to employ its vast population was through exporting manufactures to the insatiably spendthrift US consumer. To ensure that those exports were irresistibly cheap, China had to fight the tendency for the Chinese currency to strengthen against the dollar by literally buying billions of dollars on world markets â€“ part of the system of Asian currency pegs that some commentators dubbed Bretton Woods II. In 2006 Chinese holdings of dollars almost certainly passed the trillion-dollar mark. (Significantly, the net increase of China's exchange reserves almost exactly matched the net issuance of US Treasury and government agency bonds.) From America's point of view, meanwhile, the best way of keeping the good times rolling in recent years has been to import cheap Chinese goods. Moreover, by outsourcing manufacturing to China, US corporations have been able to reap the benefits of cheap labour too. And, crucially, by selling billions of dollars of bonds to the People's Bank of China, the United States has been able to enjoy significantly lower interest rates than would otherwise have been the case.
Welcome to the wonderful dual country of “Chimerica”â€“ China plus Americaâ€“ which accounts for just over a tenth of the world's land surface, a quarter of its population, a third of its economic output and more than half of global economic growth in the past eight years. For a time it seemed like a marriage made in heaven. The East Chimericans did the saving. The West Chimericans did the spending. Chinese imports kept down US interest rates. Chinese labour kept down US wage costs. As a result, it was remarkably cheap to borrow money and remarkably profitable to run a corporation. Thanks to Chimerica, global real rates â€“ the cost of borrowing, after inflation â€“ sank by more than a third below their average over the past 15 years. Thanks to Chimerica, US corporate profits in 2006 rose by about the same proportion above their average share of GDP. But there was a catch. The more America was willing to lend to the United States, the more Americans were willing to borrow. Chimerica, in other words, was the underlying cause of the surge in bank lending, bond issuance and new derivative contracts that Planet Finance witnessed after 2000. It was the underlying cause of the hedge fund population explosion. It was the underlying reason why private equity partnerships were able to borrow money left, right and centre to finance leveraged buyouts. And Chimerica â€“ or the Asian “savings glut”, as Federal Reserve chairman Ben Bernanke called it â€“ was the underlying reason why the US mortgage market was so awash with cash in 2006 that you could get a 100 per cent mortgage with no income, no job or assets.
The subprime mortgage crisis of 2007 was not so difficult to predict. What was much harder to predict was the way a tremor caused by a spate of mortgage defaults in America's very own, home-grown emerging market would cause a financial earthquake right across the Western financial system. Not many people understood that defaults on subprime mortgages would destroy the value of exotic new asset-backed instruments like collateralised debt obligations. Not many people saw that, as the magnitude of these losses soared, interbank lending would simply seize up, and that interest rates charged to issuers of short-term commercial paper and corporate bonds would leap upwards, leading to a painful squeeze for all kinds of private sector borrowers. Not many people foresaw that this credit crunch would cause a British bank to suffer the first run since 1866 and end up being nationalised. Back in July 2007, before the trouble started, one American hedge fund manager bet me 7 to 1 that there would be no recession in the next five years. “I bet that the world wasn't going to come to an end,” he admitted six months later. “We lost.” Certainly, by the end of May 2008, a US recession seemed already to have begun. But the end of the world?
True, it seemed unlikely in May 2008 that China (to say nothing of Brazil, Russia and India) would be left wholly unscathed by an American recession. The United States remains China's biggest partner, accounting for around a fifth of Chinese exports. On the one hand, the importance of net exports to Chinese growth has declined considerably in recent years. Moreover, Chinese reserve accumulation has put Beijing in the powerful position of being able to offer capital injections to struggling American banks. The rise of the hedge funds was only a part of the story of the post-1998 reorientation of global finance. Even more important was the growth of sovereign wealth funds, entities created by countries running large trade surpluses to manage their accumulating wealth. By the end of 2007 sovereign wealth funds had around US$2.6 trillion under management, more than all the world's hedge funds, and not far behind the government pension funds and central bank reserves. According to a forecast by Morgan Stanley, within 15 years they could end up with assets of US$27 trillion â€“ just over 9 per cent of total global financial assets. Already in 2007, Asian and Middle Eastern sovereign wealth funds had moved to invest in Western financial companies, including Barclays, Bear Stearns, Citigroup, Merrill Lynch, Morgan Stanley, UBS and the private equity firms Blackstone and Carlyle. For a time it seemed as if the sovereign wealth funds might orchestrate a global bailout of Western finance; the ultimate role reversal in financial history. For the proponents of what George Soros has disparaged as “market fundamentalism”, here was a painful anomaly: among the biggest winners of the latest crisis were state-owned entities.
And yet there are reasons why this seemingly elegant, and quintessentially Chimerican”, resolution of the American crisis has failed to happen. Part of the reason is simply that the initial forays into US financial stocks have produced less than stellar results. There are justifiable fears in Beijing that the worst may be yet to come for Western banks, especially given the unknowable impact of a US recession on outstanding credit default swaps with a notional value of US$62 trillion. But there is also a serious political tension now detectable at the very heart of Chimerica. For some time, concern has been mounting in the US Congress about what is seen as unfair competition and currency manipulation by China, and the worse the recession gets in the United States, the louder the complaints are likely to grow. Yet US monetary loosening since August 2007 â€“ the steep cuts in the federal funds and discount rates, the various auction and lending “facilities” that have directed US$150 billion to the banking system, the underwriting of J P Morgan's acquisition of Bear Stearns â€“ has amounted to an American version of currency manipulation. Since the onset of the American crisis., the dollar has depreciated roughly 25 per cent against the currencies of its major trading partners, including 9 per cent against the renminbi. Because this has coincided with simultaneous demand and supply pressures in nearly all markets for commodities, the result has been a significant spike in the prices of food, fuel and raw materials. Rising commodity prices, in turn, are intensifying inflationary pressures for China, necessitating the imposition of rice controls and export prohibitions and encouraging an extraordinary scramble for natural resources in Africa and elsewhere that, to Western eyes, has an unnervingly imperial undertone. Maybe, as its name was always intended to hint, Chimerica is nothing more than a chimera â€“ the mythical beast of ancient legend that was part lion, part goat, part dragon.
Perhaps, on reflection, we have been here before. A hundred years ago, in the first age of globalisation, many investors thought there was a similarly symbiotic relationship between the world's financial centre, Britain, and continental Europe's most dynamic industrial economy. That economy was Germany's. Then, as today, there was a fine line between symbiosis and rivalry. The obvious answer is a deterioration of political relations between the United States and China, whether over trade, Taiwan, Tibet or some other as yet subliminal issue. The scenario may seem implausible. Yet it is easy to see how future historians could retrospectively construct plausible chains of causation to explain such a turn of events. The advocates of “war guilt” would blame a more assertive China, leaving others to lament the sins of omission of a weary American titan. Scholars of international relations would no doubt identify the systemic origins of the war in the breakdown of free trade, the competition for natural resources or the clash of civilisations. Couched in the language of historical explanation, a major conflagration can start to seem unnervingly probable in our time, just as it turned out to be in 1914. Some may even say that the surge in commodity prices in the period from 2003 until 2008 reflected some unconscious market anticipation of the coming conflict.
One important lesson of history is that major wars can arise even when economic globalisation is very far advanced and the hegemonic position of an English-speaking empire seems fairly secure. A second important lesson is that the longer the world goes without a major conflict, the harder one becomes to imagine (and, perhaps, the easier one becomes to start). A third and final lesson is that when a crisis strikes complacent investors it causes much more disruption than when it strikes battle-scarred ones. As we have seen repeatedly, the really big crises come just seldom enough to be beyond the living memory of today's bank executives, fund managers and traders. The average career of a Wall Street CEO is just over 25 years, which means that first-hand memories at the top of the US banking system do not extend back beyond 1983 â€“ 10 years after the beginning of the last great surge in oil and gold prices. That fact alone provides a powerful justification for the study of financial history.
The Ascent of Money, A Financial History of the World is published by Allen Lane, The Penguin Press Ltd.
US considers stripping SEC of some powers
Bloomberg in Washington
Updated on May 21, 2009
The Obama administration might call for stripping the Securities and Exchange Commission of some of its powers under a regulatory reorganisation that could be unveiled as soon as next week, sources said.
The proposal, still being drafted, is likely to give the United States Federal Reserve more authority to supervise financial companies deemed too big to fail.
The Fed might inherit some SEC functions, with others going to other agencies, the sources said.
On the table: giving oversight of mutual funds to a bank regulator or a new agency to police consumer-finance products, two sources said.
The SEC, chartered to oversee Wall Street and safeguard investors, has seen its reputation tarnished as some lawmakers blamed it for missing the incipient financial crisis and failing to detect Bernard Madoff's US$65 billion Ponzi scheme.
Any move to rein in the agency is likely to provoke a battle in Congress, which would need to approve the changes, and draw the ire of union pension funds and other advocates for shareholders.
"It would be a terrible mistake," said Stanley Sporkin, a former federal judge and enforcement chief at the SEC. "Whatever the SEC has done or didn't do, it is still the premier investor protection agency around."
The commission has been mostly absent from negotiations within the administration on the regulatory overhaul and its chairman, Mary Schapiro, has expressed frustration about not being consulted, according to sources.
Ms Schapiro had pledged to fight any attempt to diminish the commission, the sources said.
Secretary of the Treasury Timothy Geithner and National Economic Council director Lawrence Summers are leading the Obama administration's effort to redraw the lines of authority for policing the financial system.
"We're going to have to bring about a lot of changes to the basic framework of oversight, so there's better enforcement," Mr Geithner said on Monday.
"That's going to require simplifying, consolidating this enormously complicated, segmented structure," he said.
President Barack Obama has said he wants to sign legislation on regulatory changes by the end of the year.
House Financial Services Committee chairman Barney Frank is planning hearings with the aim of drafting a bill on regulatory changes by the end of next month.
The SEC's job is to regulate stock markets, police securities sales and make sure public companies make adequate disclosures to investors about their finances.
Inflation worries drive dollar to 5-month low
Demand for flood of Treasury debt starting to ebb
The New York Times
Updated on May 25, 2009
The United States dollar was on a roll just a few months ago, bounding higher against foreign currencies as investors sought a safe haven for their money amid a global downturn.
But now, many are rethinking their decision to buy American.
The dollar fell to its lowest point in five months last week, battered by fears Washington's costly efforts to stimulate the economy were growing harder to finance and might set off an unwelcome bout of inflation.
Analysts are increasingly concerned that a rise in prices could hurt consumer spending, deepening the recession.
Experts said the flight to quality that made US Treasury debt and dollar holdings so valuable at the height of the financial crisis was heading for a rough landing.
"Those little footsteps coming down the hallway have begun to frighten many people," said David Darst, the chief investment strategist at Morgan Stanley.
"The dollar has sold off inexorably, slowly but surely. The key thing driving it is psychology."
Federal Reserve chairman Ben Bernanke is printing money from thin air, and the government is issuing trillions of dollars in debt as it tries to spend its way out of the recession with a huge stimulus package, lending programmes, health-care reforms and carmaker rescues.
Experts warned there might not be enough demand to sop up all those new dollars and dollar-denominated Treasury securities. That led investors to fret about the sustainability of the US government's AAA sovereign credit rating after ratings agency Standard & Poor's warned last week that the sovereign rating of Britain was under threat.
The dollar's slide has renewed fears investors worldwide were starting to favour other currencies, foreign stocks and commodities such as oil and metals. Demand for longer-term Treasury debt has ebbed, pushing the yield on the benchmark 10-year note on Friday to 3.44 per cent, its highest in six months.
Crude oil futures have risen above US$60 a barrel and the price of gold - a hedge against inflation - has risen to almost US$960 an ounce, its highest in two months. Investors have also raised the prices of copper, wheat and corn.
US is now real trouble. The Fed is not exactly a government institution. It's just like any other commercial bank.
oh... shine flu landed in singapore. stock still up up and away...
Thats the way the market welcome them.
the federal reserve was never was a gov't institution, it has always been since day 1, a private firm. 99% of people dont know that.
to prevent USD from falling too much, US might have to start another...war.
Not true. It's the other way around. Only less than 1% knows.
yaaa, load up those cheap houses.
1 in 8 US homeowners late paying or in foreclosure
Thu May 28, 2009 10:39am EDT
By Lynn Adler
NEW YORK, May 28 (Reuters) - One of eight U.S. households with a mortgage ended the first quarter late on loan payments or in the foreclosure process in a crisis that will persist for at least another year until unemployment peaks, the Mortgage Bankers Association said on Thursday.
U.S. unemployment in April reached its highest rate in more than a quarter century and is still rising, helping propel mortgage delinquencies and foreclosures to record highs.
Such economic conditions drove up foreclosures of prime fixed-rate mortgages, which represented the largest share of new foreclosures for the first time since the rapid growth and the ensuing collapse of the subprime loan market.
"We clearly haven't hit the top yet in terms of delinquencies or the bottom of the housing market," Jay Brinkmann, the association's chief economist, said in an interview.
'The same things that got us into this mess'
U.S. is dooming economy to prolonged pain by repeating errors that caused collapse, Brookings economist says
00:00 EDT Friday, May 29, 2009
TORONTO -- The recession ends - the crisis continues. That's the warning from U.S. economist William Gale, who is emerging as one of the strong voices on the dark side of the forecasting divide.
The important thing is not when the global recession ends; that could happen within six months, said Mr. Gale, who heads economic studies at the Brookings Institution think tank in Washington.
The key is what happens afterward, said Mr. Gale, speaking yesterday at an economic outlook event in Toronto sponsored by Wilfrid Laurier University. He is pessimistic about the sustainability and health of any upturn in the face of rapidly mounting U.S. public debt.
The United States is not fixing its basic economic and structural problems - it is merely shifting them around, he said. The primary enemy has been - and remains - excessive spending and borrowing, leading to overleveraging.
The culprit used to be consumer and mortgage debt, but the onus is now shifting to U.S. fiscal stimulus in the trillions of dollars. "We are doing the same things that got us into this mess," Mr. Gale said. "We got into it by spending too much and borrowing too much."
Even with the examples of recent history, "we are trying to build a quote-unquote strong economy on what is increasingly a large house of cards of unsustainable debt."
In an interview, he likened the U.S. leverage excesses to a bag of garbage that a householder moves to the bin, to the street, to a truck and then to some landfill site - but it never really goes away.
His critique focused on U.S. public policy, which seems to be repeating errors of the past. The current proposal for getting toxic assets out of the banking system is to create "securitized pools financed by leveraging and backed by government. You couldn't create a better caricature of what got us into this."
He predicted that the next investment bubble will be U.S. government debt, projecting a sharp rise in U.S. Treasury rates to the end of this decade.
As long as the underlying instability persists, Mr. Gale is skeptical about the ability of economists to create credible models of the recovery. "We don't actually know everything we would like to know," he said, emphasizing the challenge of understanding an economic collapse that lacks clear prior models in its breadth, speed and depth of decline.
Mr. Gale was more downbeat than Sherry Cooper, chief economist for BMO Nesbitt Burns Inc., whose message at the event was that, in terms of the credit crisis, "the worst is behind us." What's more, "there are signs that the economies of the world are bottoming."
She forecast at least a modest economic up-tick by the end of the year, adding that it could be surprisingly strong. Canada should outperform, as its commodity sectors benefit from the general surge in global demand for industrial goods and food. But Ms. Cooper focused on one underlying cause of global instability: the fact that consumer spending accounts for about 70 per cent of U.S. gross domestic product, compared with 35 per cent in China.
This imbalance is fundamental to all the major distortions in the global economy, and it cannot be sustained, she said.
With American consumers now on their knees, it raises fears that worsening U.S. unemployment, which is cutting deeply into professional and blue-collar jobs alike, will not be a temporary phenomenon, she said.
Mr. Gale agreed that Canada is weathering the recession much better than the United States. He referred to the current uproar over the rising Canadian budget deficit, now forecast to reach 3 per cent of gross domestic product this year.
Such levels would cause Americans to hold a party (LOL), he said, pointing out that the current U.S. federal deficit is 13 per cent of GDP and the post-recession outlook is for 5 to 6 per cent.
He warned that "getting out of the recession is the easy part." As Washington makes the transition to an age of constrained households and huge fiscal needs, it needs to tackle fundamental restructuring. That would include health care, the personal savings rate, tax reform, fiscal and trade deficits, and other key areas.
"health care, the personal savings rate, tax reform, fiscal and trade deficits, and other key areas"
It will take a decade to get most of those things right . . . Time is running out.
Tax Reform - rip the whole 2,000 + pages of the US income tax codes apart and burn them. Start from scratch
how many pages of the canada's tax code?
About the same at 2,000 + pages.
US taxation is in fact even more complicated than Canada's . US has short-term and long-term capital gains.
i heard the supposed saving grace for the US's AAA credit rating is to increase taxes to haul the slide in the USD. With that, i doubt obama is gonna rip up their tax bible
Is it time to revert to goon squads going door to door with clubs to extract feudal rents in bushels and chickens from us peasants?
It's time to reduce something that wastes so much time, labour and expenses so as to free up a nation's productivity.