How it all went Pete Tong


by Kulvinder
9th October, 2008 at 3:33 pm    

I thought I’d write a brief history of what went wrong in the banking industry. It should be noted that this is essentially an introduction to the current crisis in the financial sector, my article isn’t meant to present a comprehensive version of events but a core narrative that helps explain the problems to someone with no prior knowledge.

The most fundamental misconception people make when asked about the banking industry is the idea that if you deposit £1 into an account the bank will loan out £1 to someone else.

If this were the case wealth would be a zero-sum game.

Banks occupy a unique position in society they are risk managers and, fundamentally, wealth creators; the reality is for every £1 you put in a bank the bank is allowed to loan out a multiple of that core amount, for the sake of argument for every £1 you put in the bank lends out £9. The first reaction of anyone who hears this is horror; after all how can banks simply be allowed to ‘create’ money.

The reality is the idea of fractional reserve banking (as its called) is very intuitive.

If you’re constructing a new building the only money you need is for the day to day cash flow of actual construction – you may not have the absolute amount the building will finally be worth, but as long as you can incrementally fund the construction, and as long as the final value of the building is worth more than the sum of its building materials; you’ll have created wealth.

Banks only need to lend out the amount that is needed at a particular moment in time for a particular investment; that allows them to fund more than one investment with a limited amount of money and crucially it allows them to operate on a basis that isn’t quid pro quo. Its a crude analogy but think of that core money that ‘actually exists’ acting as the ‘incremental cash flow’ for multiple investments. The banks lend out more than they have, but as long as they manage the risk carefully and keep a very careful eye on the flow of money they help society by amplifying wealth creation.

That core money that the banks multiply their lending from is called the core capital and its divided into different tiers, as an example tier 1 capital would essentially consist of the hard cash that shareholders put in, whilst tier 2 capital is capital that is less reliable than the hard cash (this covers a wide variety of things). The types of capital allowed in either tier as well as the ratios allowed between tiers varies from country to country depending on the regulator, banks and governments have been trying to standardise this via agreements called the Basel accords. The act of lending out more than the core capital is called leveraging up.

The fundamental concept to understand is that banks take a finite amount of money and through careful control are able to invest it in projects or schemes whose worth is far in excess of the bank’s core capital.

About 20 years ago bankers realised that a new type of tier 2 capital could be used; Collateralized debt obligations (CDOs). Hundreds of thousands of mortgages were taken and packaged together. The idea was that by lumping these mortgages together the combined probability of failure was reduced; they could aggregate the risk across the entire package. Whilst some mortgages would fail most wouldn’t and as such the income from those mortgages would be relatively stable. This also worked in favour of the consumer, banks could be more lenient with the mortgages they loaned out because again the risk could be averaged out across the package. You may default on your mortgage but they were willing to offset the risk of you doing so across their entire package of mortgages.

The result was cheaper loans.

Because the income from these CDOs were meant to be relatively stable the banks included them in their tier 2 capital as something called subordinated debt.

The key concept I want you to clarify in your minds is that those CDOs were counted as part of the core capital and were then ‘multiplied’ (leveraged) up.

The largest source of these mortgage CDOs was the United States, and this is where the nature of government interference of the markets comes in. Fannie Mae and later Freddie Mac were government mortgage companies that were quasi-privatised. They were the biggest providers of mortgages in the US and they had implicit government backing which ultimately allowed them to skew the markets. The exact way they skewed the markets is hotly debated, the US government on both sides used them to make housing more affordable – both parties did this. There is a somewhat ugly argument now being made that this quest for affordable housing is what led to the downfall; what’s ugly about it is most of the people mentioned as examples of this need for affordable housing aren’t white – this pretty much ignores the fact that until about 6 to 8 years ago Fannie Mae and Freddie Mac weren’t really in the so called ‘subprime’ sector. Another argument being made is that both companies acted as gorillas that drove the private sector in a particular direction and led to the private companies going a bit mad and essentially paying no attention to their own screening processes simply because they were trying to compete on an uneven footing with a quasi-government agency.

Regardless of how it happened a lot of people were not only given mortgages when they shouldn’t have been; they were given mortgages in the midst of a property bubble.

In a paragraph the current financial crisis is caused by the banks suddenly realising that part of the core capital that they leveraged from – these CDOs – are haemorrhaging value, and because they multiply up their core capital the affects on the leveraged investments is multiplied; a small variation in their core capital leads to an amplified variation in their leveraged investments.

The banks are now in a mad rush to deleverage as fast as they possible can because their core capital has shrunk. As an example the Icelandic banks are getting rid of large swathes of their foreign investments in British businesses at dirt cheap prices because they’ve suddenly realised their core capital has shrunk and as such the ‘multiplication’ they used to invest in those businesses simply does not exist.

Whats called the ‘liquidity crisis’ (liquidity is like money in a till, its a short term flow of cash that that allows transactions to be completed) is caused in part by banks deleveraging and hence not having the ability to lend out even temporarily and in part by banks not trusting one another about the amount of these toxic CDOs they have.

The result of these banks not lending to each other as they concentrate on their own problems is an absolute collapse in banks which depended on interbank funding. Investment banks are a particular type of anglo-american bank that aren’t allowed to take deposits from the public or in the way conventional banks are, instead they borrow money just like any other businesses would from ‘conventional’ banks (or they go to their shareholders); in return they’re allowed to take much greater risks and leverage their capital far in excess of banks they borrow from.

The investment banks weren’t only exposed to these CDOs as other banks were but when what were really little more than businesses loans dried up because of the liquidity crisis they found themselves exposed in a manner they have never been; the net result is they’ve been wiped out. Massive wall street investment banking names have either been put through a government assisted and controlled suicide (Bear Stearns), or driven to the wall (Lehman Brothers), or merged with big retail banks (Merrill Lynch) or they’ve given up on the investment banking model (Goldman Sachs).

In the course of six months a business model that had existed for over sixty years was eviscerated.

As I said the investment banks essentially relied on businesses loans from other banks, their inability to get those loans as a result of the liquidity crisis as well as their problems with CDOs meant they were wiped out. The danger now is every other type of businesses that relies on loans and credit are in equal danger; some massive American companies – the automotive manufacturers in particular are almost completely dependant on credit, are heavily in debt and have virtually no cash cushion whatsoever. GM and Ford are teetering, and if companies like them collapse it’ll reinforce the cascade of failed mortgages as their workers are made redundant.

And important side issue to this crisis, and potentially the most serious issue of all are so called Credit Default Swaps, its a type of pseudo-insurance. When the banks bought CDOs they decided they needed to offset the risk just incase they failed so they took out CDSs. These aren’t insurance in the manner you’d normally think of them rather its a type of bet. As the name suggests its literally a swap on the risk of a credit default. The banks would pay a premium to someone else to hold the risk of failure, the counter party to the bank would be betting that no default (no failure) would occur and as such the banks would be paying them regularly at no risk to themselves.

Well obviously the CDOs did fail and when everyone went to claim the CDSs from American Insurance Group (AIG) one of the major companies signing off on them, AIG simply couldn’t pay up. They went cap in hand to the ‘fed, and basically blew their corporate brains out. The company was transferred to the control of the US government.

So how the hell do we get out of this and what were the major blame areas?

Well the US bailout is intended to buy back the toxic CDOs at their maturity level. The important point of that is it would buy back those CDOs without leaving a hole in the core capital – otherwise there’s really no point, they’d still have to deleverage and the problems would continue. What governments and central banks are trying to do is cut out the CDOs but simultaneously recapitalise the hole left when they’re taken out. The banks can then leverage up on the now secure core capital and everyone can focus on the economy (which is a completely separate issue).

The only problem is the US congress has a way of really making everything worse and the sorts of preconditions and nannying that they’re planning on implementing with any bank that takes part in the bailout is putting a lot of people off. Personally I think the government here should try setting up a special purpose vehicle, buy back the CDOs, then flog them back to the yanks via their own bailout plan. That way the banks don’t have to deal with hassle.

As for where to focus on making changes; traders at banks bought CDOs even if their own risk assessment colleagues advised against it. The important point for the trader was the rating agencies gave them AA or AAA status.

They were never that good an investment.

The relationship between the rating agencies (which have to be recognised i.e. authorised by the SEC) and the issuers of these debt instruments (as well as a whole host of other relationships) would be called corrupt were it to occur in any other industry.


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  1. Katy Newton — on 9th October, 2008 at 4:34 pm  

    Thanks, Kulvinder, for taking the time to explain the technical side of it. This is a really good bracket to El Cid’s earlier post.

  2. El Cid — on 9th October, 2008 at 5:18 pm  

    That’s very good Kulvinder!

    One minor point — very very minor point — is be careful with throwing around the term CDOs, as the nature of these can vary and can refer to repackaged corporate debt and default swaps as well as mortgage-backed debt.
    This article might be useful:
    http://www.reuters.com/article/governmentFilingsNews/idUSL0161391420080401

  3. Refresh — on 9th October, 2008 at 7:14 pm  

    Thanks Kulvinder, even I understood it.

    A bit of insider trading is needed for the next project, how do we force the government to nationalise the energy, water and rail companies?

    I think my idea of ‘can pay, won’t pay’ may not be enough.

  4. MaidMarian — on 9th October, 2008 at 7:18 pm  

    ‘Hundreds of thousands of mortgages were taken and packaged together. The idea was that by lumping these mortgages together the combined probability of failure was reduced; they could aggregate the risk across the entire package. Whilst some mortgages would fail most wouldn’t and as such the income from those mortgages would be relatively stable. This also worked in favour of the consumer, banks could be more lenient with the mortgages they loaned out because again the risk could be averaged out across the package. You may default on your mortgage but they were willing to offset the risk of you doing so across their entire package of mortgages.’

    This did not work for the consumer as such.

    This worked very well for buy to let landlords for a relatively long period of time. The consumer in this context surely has a very idiosyncratic meaning.

    The net effect was a reckless explosion in house prices that played into the hands of the BTL crowd and banks, the consumer in the sense of The Great British Public won very little.

    The truth is that banks were playing with some pretty serious gearing (I think I read that Northern Rock was at 8:1) and they started to stretch as far as 125% mortgages. I almost fell on the floor when I saw that when my wife and I were buying in 2005.

    The result has been a housing market inflated to joke levels and a property ladder where the second and third rungs have disappeared for most.

    The banks may well have liked buy to let, but the idea that the consumer in the widest sense gained is a real stretch in my view.

  5. Refresh — on 9th October, 2008 at 7:28 pm  

    Maidmarian,

    I agree, I would be very interested to see how the buy to let market operated; how people were lured into the sector, for some in lieu of private pensions; and how the pension industry behaves.

    In fact lets get rid of the lot and start again. Or is that what’s going on?

  6. Bert Rustle — on 9th October, 2008 at 7:40 pm  

    Kulvinder, do you have any comments on an earlier comment http://www.pickledpolitics.com/archives/2373#comment-131344

    “How AIG’s Collapse Began a Global Run on the Banks”

  7. douglas clark — on 9th October, 2008 at 8:55 pm  

    Kulvinder,

    Thanks for that. It is really very good, and very clear.

  8. MaidMarian — on 9th October, 2008 at 9:10 pm  

    Refresh (5) – Yes.

    I suspect that BTL was effectively perceived as little more than a quick buck on the parts of banks and landlords. In fairness to government, it is difficult to see exaclty what could have been done to prevent it.

    Of course, BTL is not an ‘investment’ in any real sense of the word. It produces the sum total of nothing for the benefit of UK plc, no real jobs, products to export etc. It is paper income. Indeed, this is one of the (very few) quibbles I have with the article.

    ‘If you’re constructing a new building the only money you need is for the day to day cash flow of actual construction – you may not have the absolute amount the building will finally be worth, but as long as you can incrementally fund the construction, and as long as the final value of the building is worth more than the sum of its building materials; you’ll have created wealth.’

    That is wealth creation on the assumption, some would say gamble, on what the building will be worth. In turn the buyer of the building assumes what rent s/he will get but that in and of itself is not wealth creation. Indeed, if the building remains unused or is unprofitable and the land could have been put to better use when wealth has been destroyed hasn’t it?

    In America, the idea of ‘sub prime’ mortgages has been at the centre of this debate as I understand it. It is curious and telling that, even with NR, the UK debate has been very unwilling to look at how individuals have gambled on housing.

  9. Laban — on 9th October, 2008 at 9:34 pm  

    Kulvinder, that’s an excellent explanation.

    Only one teensy wingette.

    “There is a somewhat ugly argument now being made that this quest for affordable housing is what led to the downfall; what’s ugly about it is most of the people mentioned as examples of this need for affordable housing aren’t white”

    Come on. There’s a good reason for that. The whole point of Jimmy Carter’s Community Reinvestment Act – and the amendments which the Clinton administration made to it – was to help black and Hispanic people get mortgages, following complaints that banks were ‘redlining’ inner city neighbourhoods. Read the Howard Husock piece in City Journal – written eight years ago.

    http://www.city-journal.org/html/10_1_the_trillion_dollar.html

    “Looking into the future gives further cause for concern: “The bulk of these loans,” notes a Federal Reserve economist, “have been made during a period in which we have not experienced an economic downturn.”"

  10. Laban — on 9th October, 2008 at 9:45 pm  

    I forgot to say. On Monday the Fannie Mae credit default swap auction took place, and the sellers of the credit default protection didn’t do to badly – the debt being valued at about 90% of the contract value – i.e. the sellers of the “default insurance” didn’t take too big a hit on the default.

    (That’s my understanding, though I may have got this all base over apex)

    Tomorrow the same thing happens for Lehman CDS and the sellers are expected to lose maybe 90% – a total of several hundred billions.

  11. Sid — on 9th October, 2008 at 9:57 pm  

    outstanding article Kulvester.

    does this mean we’ll be seeing branches of Goldman Sachs Building Society sprouting up on high streets soon? sweet.

  12. Refresh — on 9th October, 2008 at 10:07 pm  

    ‘Goldman Sachs Building Society’

    I would think just the name Goldman Sachs is enough for everyone to run in the opposite direction.

    Kulvinder, given Brown has now turned his attention to the executives running these systems, what’s your view on forcing them to pay back-tax on all the bonuses they have received over the last 10 years?

    Love Brown’s move on Iceland! Maybe we will eventually get to extradite the stateless billionaires, for unpaid taxes of course. Oh and think of all the tax havens. Maybe the taxpayer shouldn’t be too worried, perhaps even be wringing their hands!!

  13. El Cid — on 9th October, 2008 at 10:17 pm  

    MaidMarian, I think you are right to an extent. BTL represents about one tenth of all mortgages and a biggesr proportion of mortgages taken out more recently. Northern Rock and B&B specialised in them too. It became a runaway train built on expectations of capital growth rather than steady rental income. So it should have been checked somehow.

    However, there is little doubt that owner occupiers also benefitted from easier mortgage terms. BTL arrears historically also tend to be lower than owner occupier arrears, so in that sense — from a creditor’s point of view — they are lower risk. It would also be downright stupid to argue that there is no room for a professionally run private rented housing sector when the supply of housing is short. I mean surely the choice cannot be between just council homes and owner occupancy? Or can it?

    Footnote: Attention could begin to switch to the non-financial sector soon, I fear. There are one or two other iconaclastic corporate names teetering on the brink. They have been for a while. What you reckon?

  14. Kulvinder — on 9th October, 2008 at 11:28 pm  

    Cid, i was aware of other asset backed securities, as well as the CDO2s, 3s etc but for the sake of simplicity i limited the article to home equity CDOs as they’re the toxic assets.

    Bert, regarding CDSs they’re almost certainly #1 on the list of things to sort out probably via a ‘Basel 3′ (they were just finishing implementing Basel 2 as the everything collapsed, which is kind of funny); Credit Default Swaps were the things Warren Buffet referred to as ‘financial weapons of mass destruction’ (though media reports don’t make this clear) and you can see the point, though they didn’t trigger the crisis they enable the crisis to spread. The IBs failed because of a lack of liquidity and the CDOs; AIG failed because it took on the default risk of those CDOs.

    If you don’t think the product is safe why buy it? – whats the point in putting the default risk on someone else?

    I don’t think we’ll see the end of them though; they’re just hyped up puts on bonds; what’ll probably happen is the implementation of massive massive regulation to control them.

  15. Kulvinder — on 9th October, 2008 at 11:46 pm  

    Come on. There’s a good reason for that. The whole point of Jimmy Carter’s Community Reinvestment Act – and the amendments which the Clinton administration made to it – was to help black and Hispanic people get mortgages, following complaints that banks were ‘redlining’ inner city neighbourhoods. Read the Howard Husock piece in City Journal – written eight years ago.

    FanM and FredM didn’t seriously get into sub-prime mortgages until AFTER the Bush adminsitration came to power, they only started looking at them 2000ish and getting seriously involved a couple of years later. I’m more than willing to accept the US government as a whole is to blame but singling out one party makes no sense. The Republicans used those two organisations for their own goals just like the Democrats did, historically they focussed on making prime morgages more affordable.

    That was the Republican ideal.

    That in turn pushed the private sector to seek out sub-prime as it simple couldn’t compete. When FanM and FredM then entered sub-prime the private sector completely lost its head and allowed in mortgages in sub prime that it wouldn’t have done simply because it was now trying to compete with the government gorillas again. And all that was right in the middle of a housing bubble that pushed up prices.

    The idea that ‘the ghetto pimp’ brought the entire global capitalist system to its knees is utterly utterly laughable.

  16. Refresh — on 9th October, 2008 at 11:53 pm  

    ‘Attention could begin to switch to the non-financial sector soon, I fear.’

    This should not be something to fear. I would like to see Facebook, MySpace, Google, Yahoo and ebay valuations to drop to real world levels.

    Similarly I would like to see Chelsea, Man U. (amongst others) get to a point where they have to turn to their fans and away from the big investors.

    Sky and Virgin should also worry.

    I would like to see brands diminish, and the factories (here and in the developing nations) getting greater recognition. Value them for their skills and capacity.

    Kulvinder feel free to share your list.

  17. Kulvinder — on 10th October, 2008 at 12:01 am  

    Kulvinder, given Brown has now turned his attention to the executives running these systems, what’s your view on forcing them to pay back-tax on all the bonuses they have received over the last 10 years?

    Somewhere near the probability of him allowing Tony Blair to become PM again! Those people earned their wages legitimately and legally according to the laws of the time.

    Government interference in private sector wages is a very dangerous area. You have to remember there is no moral hazard anymore, no bank is too small to fail. Lehman Brother’s death was partly intended to be a sacrifice that put fear into the markets; its demise has caused so many more problems that no government wants to risk any other banks – look at the pain in the arse tiny Iceland is becoming. Its incredibly unfortunate but the banks hold the cards and simply saying you will be paid less will lead to them reacting against the government and causing more problems. They know they won’t be allowed to fail.

    What the government – all major governments – will do instead is regulate them to within an inch of their lives for the next 20 years, and that inability to operate as freely will mean bonuses (which is where most people in the city make real money) will come down.

  18. Refresh — on 10th October, 2008 at 12:22 am  

    Lets not tinker.

    I think it wouldn’t be too difficult to make the bankers public enemy no.1, and instructing Inland Revenue to find all the taxes they may or may not have avoided would lift the status of politicians. That’s phase 1. Phase 2 would be naming and shaming (as they have already started doing in the US), followed by full scale nationalisation and a greater commitment to third sector of the economy eg Building Societies.

    Perhaps we can resurrect the charge of ‘economic crime’ and place it a modern setting. We could also make it retroactive.

  19. Katy Newton — on 10th October, 2008 at 1:05 am  

    A friend of mine in NYC, who is a financial journalist and has forgotten more about the financial system generally than I will ever know, recommends this slideshow primer as a concise summary of how we ended up where we are.

    Basically, it’s what Kulvinder said, with stick figures.

  20. Rob — on 10th October, 2008 at 5:11 am  

    If you’re constructing a new building the only money you need is for the day to day cash flow of actual construction – you may not have the absolute amount the building will finally be worth, but as long as you can incrementally fund the construction, and as long as the final value of the building is worth more than the sum of its building materials; you’ll have created wealth.

  21. Bert Rustle — on 10th October, 2008 at 7:18 am  

    Kulvinder 14 wrote … Basel 3 … Yet more regulations designed to avoid the results of market participants shenanigans to circumvent restrictions of Basel 2 which in turn were partially motivated by regulations designed to circumvent the results of previous regulatory restrictions.

    Kulvinder 15 wrote … I’m more than willing to accept the US government as a whole is to blame but singling out one party makes no sense. The Republicans used those two organisations for their own goals just like the Democrats did …

    In my opinion, those who took loans, the mandated availability of which was motivated by the egalitarian ideology of the Ruling Class, are an order of magnitude less culpable than the legislators, regulators and providers of such loans.

    For example, these http://www.youtube.com/watch?v=vLUbb2DUYGk aggregated clips of George W Bush on the promotion of minority home ownership in the USA. Ignoring the intermittent partisan titles in this link, it clearly demonstrates that George W Bush was as much on-board as the Democrats. I would hazard a guess that similar videos of Clinon(s), McCain and O’Bama exist.

    It appears to me that the three most obvious legs to this stool are Kulvinder’s original post above, the article http://www.pickledpolitics.com/archives/2373#comment-131344

    “How AIG’s Collapse Began a Global Run on the Banks” by Porter Stansberry and the articles below by Stan J Liebowitz http://www.utdallas.edu/~liebowit/ professor of Economics in the Business School at the University of Texas at Dallas has addressed this topic.
    http://www.nypost.com/seven/02052008/postopinion/opedcolumnists/the_real_scandal_243911.htm?page=0 “The Real Scandal”

    “…the mortgage crisis is that it is a direct result of an intentional loosening of underwriting standards – done in the name of ending discrimination, despite warnings that it could lead to wide-scale defaults. … In the 1980s … activists [claimed] … that banks discriminated against minorities in mortgage lending. In 1989, sympathetic members of Congress got the Home Mortgage Disclosure Act amended to force banks to collect racial data on mortgage applicants; this allowed various studies to be ginned up that seemed to validate the original accusation. … the Boston Fed [stated] “discrimination may be observed when a lender’s underwriting policies contain arbitrary or outdated criteria that effectively disqualify many urban or lower-income minority applicants.” … Some of these “outdated” criteria included the size of the mortgage payment relative to income, credit history, savings history and income verification. Instead, the Boston Fed ruled that participation in a credit-counseling program should be taken as evidence of an applicant’s ability to manage debt. …”

    An early paper of his on this topic is http://www.utdallas.edu/~liebowit/mortgage/mortgages.pdf “Mortgage Discrimination in Boston: Where’s the Bias?”

    His latest paper is downloadable at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1211822 “Anatomy of a Train Wreck: Causes of the Mortgage Meltdown” “… Why did the mortgage market melt-down so badly? Why were there so many defaults when the economy was not particularly weak? Why were the securities based upon these mortgages not considered anywhere as risky as they actually turned out to be? It is the thesis of this paper that, in an attempt to increase homeownership, particularly by minorities and the less affluent, an attack on underwriting standards was undertaken by virtually every branch of the government since the early 1990s. The decline in mortgage underwriting standards was universally praised as an ‘innovation’ in mortgage lending by regulators, academic specialists, GSEs, and housing activists. This weakening of underwriting standards succeeded in increasing home ownership and also the price of housing, helping to lead to a housing price bubble. The bubble increased the number of housing speculators with estimates indicating that one quarter of all home sales were speculative sales prior to the bubble bursting. The recent rise in foreclosures is not related to the subprime/prime distinction since both markets had similar size increases in foreclosures that occurred at exactly the same time. Instead, the adjustable-rate/fixed-rate distinction is the key to understanding the rise in foreclosures. This is consistent with speculators turning and running when housing prices stopped rising. It is not consistent with the nasty-subprime-lender hypothesis currently considered to be the cause of the mortgage meltdown. …”

    The Boston Fed. Boston Fed – Equal Opportunity Lending manual can be found at http://www.bos.frb.org/commdev/commaff/closingt.pdf

  22. Bert Rustle — on 10th October, 2008 at 7:38 am  

    Katy Newton 19 wrote … this slideshow primer as a concise summary of how we ended up where we are. …

    From the slideshow, it appears that the crucial point was the creation of what was effectively default insurance on the senior tranches of the CDO, thus enabling them to be sold as AAA securities.

    Has anyone seen an explanation of how such insurers hedged such liabilities or made provisions for them? I would hazard a guess that on the balance of probabilities the providers of said insurance and AAA ratings were negligent, but not beyond a reasonable doubt.

    As apparently regulators and politicians appear culpable, I would hazard a guess that Basel 4 will be introduced by these players so as to deflect attention from themselves.

  23. billericaydicky — on 10th October, 2008 at 8:04 am  

    Having actually put up buildings and financed the process I am a little puzzled as to how the builder needs only the day to day costs of the work.

    Somewhere the developer/builder has to have access to the whole cost of the project, notnecessarily in one lump but it has to be within easy reach.

    The usual way for the small developer is remortgaging already owned property, getting the new one up as quickly as possible and sold to pay off the debts. The increase in value is in the future and all the time there is a rising property market there is no problem.

    I have lived and worked through three of these crashes and stopped buying property three years ago. I new that it would go pear shaped sooner or later but not to the extent it has. The property crash has this time been followed by a much wider general crisis in the capital markets which was kicked off by the American sub prime.

    I bought my first property in 1969 for three thousand quid. I had to put a thousand deposit which I had saved over two years with the Haywards Heath Building Society in Sussex. Building societies were strictly regulated as to their liquidity and the regulator could order them to stop lending until more deposits had been received.

    When Thatcher deregulated they became in effect just like any other financial institution able to borrow money on the open market and instead of knowing their customers in the way that the old societies did they began to lend through a wide range of brokers who basically told lies in order to get their clients money and themselves commissions.

    It is interesting how a housing crisis in the States has now had a knock on effect across the world. The biggest drops in Europe are in Ireland and Spain and the latter market will have repercussions in the UK. There are at least nine hundred thousand and possibly as many as a million and a half Brits living more or less permenantly in Spain.

    A very high proportion are owner occupiers some with businesses which have been bought with second mortgages on UK properties. There have been spectacular drops in prices in a market that was putting eight hundred thousand new residential units onto the market every year. That is the output of the UK, Germany and France combined. Coupled with illegal construction and Russian and Columbian mafia money has made the market the most unstable in Europe.

    Many Brits bought with the idea of letting throughout the season and using the place for the winter months. There are several million unsalable or unletable properties out there and a huge amount of Brit owned debt. One of John Major’s favourite slogans was “the trickle down of wealth” from one generation to the next. I think that this crisis is going to be a trickledown of debt for at least one and maybe two generations here.

    And now some Tower Hamlets news. The BNP are severely embarrased by getting turned over by Antifa on Sunday, They claimed on their website that they had finished their meeting and were leaving but the East London quotes the Vicar as saying he called the police and had them removed. They have now taken their post down.

    Tower Hamlets have changed tack on the Islamic mosaic to cost fifty grand outside the Fieldgate St synagogue. They had originally said that the Jewish congregation would not be consulted but at a late night cabinet meeting that has been reversed. One in the eye for Islamic Forum Europe which now effectively controls the Labour Party.

    A white Labour councillor has just resigned over what he sees as the Islamisisation of the party and politics in the borough and IFE are trying to get one of their chumchas selected. Maybe it’s time for an article on this subject.

  24. El Cid — on 10th October, 2008 at 9:04 am  

    “Cid, i was aware of other asset backed securities, as well as the CDO2s, 3s etc but for the sake of simplicity i limited the article to home equity CDOs as they’re the toxic assets.”

    Don’t be fricking stubborn Kulvinder. As I’ve already said, it’s a very good article. However, you don’t want to be misleading the reader now just for the sake of simplicity. It’s not what you know that matters but what people take away. (In the same way dumbed down TV refers simply to derivatives, full stop).

    As an addendum to Kulvinder’s very good article (did I say it was a very good article?) I would like to point out two things which have contributed to the ballooning of debt and to the perfect storm we now face.

    1) The lending of money not in order to create assets on bank balance sheets but expressly to sell on to investors (funds, funds, private equity, etc).
    The originate-to-distribute model is particularly pertinent to the (*jargon alert*) residential mortgage-backed securities’ and commercial mortgage-backed securities’ markets (aka RMBS and CMBS — both types of asset-backed securities or ABS). It was one embraced by the new kids on the block, the investment banks, who muscled in on commercial bank territory and competed very aggressively to get new business. There’s nothing wrong in principle with securing a loan against reliable cashflow streams in order to borrow more cheaply. What this business model did was to misalign bank and investor interests as invesment banks through their conduits originated and repackaged billions in debt simply to sell on to investors who relied execssively on rating agencies for their credit checks.

    2) We are potentially facing the first ever — and I mean EVER — GLOBAL recession. All the developed world is staring blankly at a dire few years, and emerging markets could be dragged down with them.

  25. El Cid — on 10th October, 2008 at 9:12 am  

    in #13 i said “iconaclastic” when I meant “iconic”. I woke up in a cold sweat in the middle of the night realising my dumkopf error.

    No Refresh, I was thinking Inner City, Eminem, Marvin Gaye…

  26. justforfun — on 10th October, 2008 at 10:07 am  

    Refresh – you’re saving me alot of time having to post on this thread ;-)

    I’ll be with you in the front row knitting , when they get the guillotine out.

    Kulvinder – I think I get the gist of it. Is there no way we can pin this on the American ( and West in general) trade deficit with the Chinese? Where does all that money go? I’m sure it does not just pile up up somewhere in China. So is it a mountain of cash needing find a ‘home’ and earn some interest? If so which ‘home’? and how would one faciltiate that money finding a home and getting the interest?

    Bankers are shit shovellers. They shovel shit where ever they are ordered to, and being closest to the shit, they let a little stick to them. A perk of the job. Who produces the shit and who needs it for fertilizer is not really of concern to them. As long as some of it sticks to them they are happy.

    justforfun

  27. Innocent Abroad — on 10th October, 2008 at 10:24 am  

    I was really looking forward to reading this till I got to paragraph 6.

    as long as the final value of the building is worth more than the sum of its building materials; you’ll have created wealth.

    My dear old thing, I think you have to pay the workers too. Now I will try to calm down and read the rest of the article.

  28. Jai — on 10th October, 2008 at 10:33 am  

    Absolutely brilliant article, Kulvinder. Acts as an excellent sequel to El Cid’s earlier post, as Katy said in #1. I’m very impressed.

    ******************

    does this mean we’ll be seeing branches of Goldman Sachs Building Society sprouting up on high streets soon? sweet.

    Knowing Goldmans, it would mean that Jenny from Dagenham would probably still have to go through 20 interview rounds just to get a job as a cashier behind one of the gold-plated counters ;)

    ********************

    The following is a very good article from FT’s website, published yesterday evening. It discusses how the current crisis really does mark the beginning of the end of the West’s economic, political and cultural dominance over the rest of the world, and the subsequently accelerating shift in global power eastwards and towards other so-called “Emerging Markets”.

    http://www.ft.com/cms/s/0/0ed4a750-961e-11dd-9dce-000077b07658.html?nclick_check=1

    I particularly recommend the last couple of paragraphs. Times are definitely changing.

    It would also make a good topic for a separate PP thread, if Rumbold or one of the other members of the inner circle wanted to write such an article. I’m sure it would provoke a lively discussion.

  29. Innocent Abroad — on 10th October, 2008 at 10:38 am  

    Right, now I’ve calmed down and read the rest of the piece. Excellent summary.

    Your final comment implies that credit rating should be a function of central bankers.

  30. Sid — on 10th October, 2008 at 10:39 am  

    A white Labour councillor has just resigned over what he sees as the Islamisisation of the party and politics in the borough and IFE are trying to get one of their chumchas selected. Maybe it’s time for an article on this subject.

    would love to.
    Bill, can you please contact me on email:
    golmalster at gmail dot com

    would like to get more insight from you.
    thanks

  31. Kulvinder — on 10th October, 2008 at 10:42 am  

    Is there no way we can pin this on the American ( and West in general) trade deficit with the Chinese?

    Thats to do with the economy whereas this problem is about a fundamental failure within the banking industry, the issues are obviously linked – people couldn’t keep up repayments because they didn’t have jobs. But solving the problems in the banking industry won’t – in a fundamental way – do anything about the American economy. They’ll still have to deal with that after sorting all this out.

    nb bankers are lovely people

  32. El Cid — on 10th October, 2008 at 11:26 am  

    This seems to be the latest major installment of this great comic-tragedy:
    http://www.breakingviews.com/2008/10/08/Lehman%20CDS.aspx?sg=breakingstories

    Refresh/Justforfun,

    Your political schadenfreude is understandable, even amusing, but you don’t half come across as archaic.
    Capitalism may never be the same, but hell would have to freeze over before someone with your frame of mind would be allowed to drive the car.
    Let me put it this way: if you don’t win the argument in the next 5 years, say, when will you ever? I think you should mobilise now. Go on, get out there! Strike at the heart of the establishment, put up the barricades! Brothers and sisters unite; you have nothing to lose but your debt. The system is tottering. World revolution is imminent!

  33. Refresh — on 10th October, 2008 at 1:15 pm  

    El Cid

    No, not schadenfreude. Just the recognition that politically we got it wrong. If we had worked to accelerate the free market, perhaps we would have got here sooner. Even now, the mischievous part of me says lets deregulate further and watch the fireworks.

  34. Refresh — on 10th October, 2008 at 2:18 pm  

    My starting point was always philosophical:

    What is work?

    and

    How does society attach value to it?

  35. Shamit — on 10th October, 2008 at 2:20 pm  

    I dont think we got it politically wrong — I think we failed to regulate things properly — that is not a matter of politics but one of administration and effective implementation of legislation.

    That is not politics.

    Refresh, I wonder whether you want us to go back to the late 1970s where nothing worked in this country. We were the sick child of Europe and there was no electricity, or heating and bodies in the morgue or garbage in hospitals were not removed.

    Thats the dreamland you want back — for crying out loud why do you always have to rant about either Iraq or that capitalism as a concept has failed. Look at bloody statistics– people all around the world are better off than were or would have been under so called socialism.

    Global capitalism, I would be the first to accept, has not benefitted everyone but has benefitted a hell of a lot more people than the super left policies you continue to sprout has ever done.

    Countries such as China and India haven’t become economic superpowers based on command and control economies that you continue to suggest on every post — along with Iraq war. Get over it, we have new challenges and we need to come up with new ideas to resolve them. Maybe even learn from New Labour whom you so hate — and I am not even going to Blair.

    For example, I am no major fan of Gordon Brown, but when he is PM, the credit should go to him for what the Government has done. The toxic loans in British Banks are according to most reliable statistics are not more than 20% (and in most cases they are less than 15%) and what the Government did was ensure the confidence of the Banks in restarting the credit cycle. And it will work because Banks now are giving risk free (ie to them) loans.

    And, also, the Government & the tax payers usually never get returns of 10% on any investments they make — but on this one, most likely we would.

    So rather than putting the nail in capitalism’s coffin, the Government enabled it to function properly which in turn could revitalise the economy much quicker than any other option. And, thats what Government’s should do. Government’s should not be runninng companies but should be creating an enabling atmosphere for market to thrive and it must regulate the market and its behaviour.

    Just like there are ethics for doctors and lawyers there must be similar ones for those who deal with other people’s money. I for one would hate to see anyone trying to turn the clock back to the 1970′s when everything was nationalised and we were becoming a joke.

    This ranting about how capitalism is dead is hollow. Anyone who reads your post know that your intellect is far superior to most people and I wonder why use that formidabble intellect to sell us “false bill of goods”.

    Lets work on the solutions and lets accept boom and bust are here to stay but lets find out ways of how we can better anticipate and better manage the hyper confidence so that stability is maintained over a long period.

    Btw, I have no problems that CEOs and Boards who have failed to protect the interest of the shareholders should be held to account. And, so should the regulators who have been there to ensure the market plays by some fundamental rules. But then what if the market was forced to some extent to act that way — so, I think in a crisis while its easy to get angry and point fingers — its important to look for solutions and accepting that capitalism has served us well and has given most people in the world a better quality of life.

    Ranting is dead easy and there are way too many idiots out there doing that. But when someone with a formidable intellect does it — it hurts.

  36. Refresh — on 10th October, 2008 at 3:01 pm  

    Come on guys can’t we issue ASBOs and tag a few of them – you know set an example?

    Why can’t we pursue them on the understanding that they are likely to be either non-doms, or tax-avoiders and start clawing back unpaid tax?

    How does Cameron’s call not to pay them bonus for one year work? Just this year? What’s wrong with the years they were ‘falsifying’ their successes?

    No I am not sure about command and control (although there is/was a considerable element of that in China and India), but I am certain about the 3rd sector: cooperatives, credit unions and building societies. I might add family-run businesses to that.

    We’ve had the Third Way, time now for the Only Way.

  37. halima — on 10th October, 2008 at 7:08 pm  
  38. halima — on 10th October, 2008 at 7:14 pm  

    “Countries such as China and India haven’t become economic superpowers based on command and control economies”

    Shamit, Refresh

    China’s rise and what we learn from it is THE issue, no? I am interested in this. It turns out I am hearing lots about what they ( economists ) call the Beijing Consensus on economic development and what works – based on, for obvious reasons, on China’s growth experience. The Beijing consensus is aparently the opposite to the Washington consensus, based on the US model of economic development. Whether the Beijing Consensus is a model for replication for the rest of the world, particularly poorer countries is exercising policy analysts across the world. It hasn’t been tested yet.

    I’ve been thinking about China a little bit, trying to figure things out in my own head and asked a friend to clarify things for me – which means I don’t understand much beyond what i am about to write. Two things seem worthy of highlighting:

    Despite all the headlines about China’s double-digit GDP growth, the economic boom has mainly been confined to a handful of coastal cities, such as Shanghai. There living standards have indeed been transformed over the past two decades or so. But in the interior much of the population still lives in poverty.

    2. China’s economic success is sometimes presented as the result of the success of free-market capitalist economic reforms over the previous socialist command economy. However, it should be remembered that part of China’s economic success is the direct result of continued official intervention in the economy, especially over the exchange rate, with the central bank’s dollar purchases ensuring that the yuan (local currency) remains undervalued against the currencies of its main trading partners. In other words, Chinese officials intervene to ensure that exports are more competitive than they would otherwise be. This is not a free-market policy; it’s the opposite.

  39. halima — on 10th October, 2008 at 7:22 pm  

    Kulvinder …Thanks for a clear analysis … really helpful.

  40. Trofim — on 10th October, 2008 at 7:22 pm  

    I definitely think there is something in this:

    http://women.timesonline.co.uk/tol/life_and_style/women/the_way_we_live/article4848188.ece

    “. . . the reason why confidence in the banking system collapsed was too much testosterone. With more women on the trading floor, risk-taking would be a saner business”.

    And I also believe that if the city had more mature people – that is, 40+ – people, as it used to, tempered by age and experience, less impulsive, these problems would have been far less severe, if they had happened at all.
    Remember the old Bradford and Bingly logo – silhouette of two gentlemen in bowler hats?

  41. Shamit — on 10th October, 2008 at 7:23 pm  

    The Think Tank Reform has identified David Crasswell MP (Conservative) as the Reformer of the Week because of his candid blog about the crisis

    truth about the crisis.

    A must read I think

  42. Shamit — on 10th October, 2008 at 7:38 pm  

    China is not the ideal example by a long shot in any ways but its definitely not command and control economy. And, also the currency valuation is changing as well.

    The problem with both the Chinese and the Indian model is it leaves behind millions of people who still lack two square meals a day or opportunity to succeed.

    But Deng Xiaoping, (whom I rate in someways while detesting many of his policies) and Lee Kwan Yew (another authoritarian bloke I rate while detesting many of his policies) – realised that the quickest way to bring people out of poverty is a thriving economy which comes from having a competitive economic market place. That is hard to argue with — and economists of all schools have accepted that now.

    China and India moved away from command control economy because that was driving them to more poverty than less. And therefore, moving backwards to a command control economy would not be the best solution.

    The American economic model was the first model of its kind which developed a safety net called social security and welfare benefits far before Europe did. Most analysis of American Economy fails to accept that. Providing a safety net and trying to provide a ladder for those who are least fortunate has been an American invention — and more or less, the American economic model provided benefits to most of its citizens. Something China and India have long to go before they can even aspire to do so.

    Look at the historic per capita income in the US in the 20th century. Every 20 – 25 years, people in American doubled their wealth across the board. It has happened for the first time now in a long long time.

    That does not mean that US got everything right but got more right than wrong and despite its sometimes ludicrous foreign policies have been a force of good in the World.

  43. halima — on 10th October, 2008 at 7:50 pm  

    Shamit

    What do you think of my last point?

    “…Chinese officials intervene to ensure that exports are more competitive than they would otherwise be. This is not a free-market policy; it’s the opposite.”

    I don’t think economists have got the verdict right on China – the jury is still out as I understand it – and though it’s not the ideal model, for sure, the reason why we might look at it now is because Chinese are making huge inroads into supporting development in Africa etc ( yes, mixed motives involved) but there’s quite a big trend internationally on south-south learning which is why the China ( or India ) model appeals to other parts of the world.

    Perhaps it’s a mixture of command and control and free market at different times – depending on trade/econmic needs.

    Also remittance was another big reason for China’s growth – the overseas Chinese ‘community’ and its contribution to China etc in the 70s and 80s pretty much made sure that even though China was isolated from the rest of the world in the past – it didn’t matter, coz plenty of money was poured into the country via remittance channels. Imagine that – the US doesn’t have diplimatic relations with China for a long period but growth didn’t suffer as much we thought it might.

  44. halima — on 10th October, 2008 at 8:15 pm  

    PS.. Can you explain a little more?

    “The American economic model was the first model of its kind which developed a safety net called social security and welfare benefits far before Europe did. Most analysis of American Economy fails to accept that.”

    How? Do you mean the New Deal? Or Progressivism before that? Or do you mean way back after the ending of the US civil war and the reconstruction period?

    Or do you mean the NHS only came into play after World War II? I thought the US has a far stronger model of philanthropy than say, social security.

  45. Shamit — on 10th October, 2008 at 11:36 pm  

    Perhaps it’s a mixture of command and control and free market at different times – depending on trade/economic needs.

    Halima – Your assessment is correct but that is not unique to China. Most countries including the US create a wider construct of their national interest and they often determine what is in the best interest of their economy through that prism.

    The construct is often flawed such as providing massive subsidies for ethanol production in the US or protecting rich farmers in the European Union. Because while these are supposedly for national interests, it is quite often for domestic political vote bank interests.

    Two good recent examples would be the Pentagon Deal that Airbus won which was rescinded by the US Congress until the new President takes over as well as the spat between Sarkozy and Mandelson. US and Western Europe would be considered to be the bastions of capitalism yet there are clear instances of command and control in case of economic decisions.

    What China is currently doing is undertaking exactly similar economic decisions which you refer to as command and control. They too have domestic compulsions — they are trying their best to avoid a social implosion in their midst and therefore using artificial economic tools.

    I will respond to the US question later

  46. The Dude — on 11th October, 2008 at 12:28 am  

    So let’s get this right……

    Is this all a case of the Emperor with invisible clothes trying to put his (invisible) hat where his hand couldn’t reach?

    Thanks Katy, for giving me the heads and what the fuck was the Metropolitan Police thinking when they sunk 40 million of OUR money into a a dodgy market?

  47. halima — on 11th October, 2008 at 4:46 am  

    Hi Shamit…

    Yes – perhaps this is the point that we miss when we talk about US being a model of free market capitalism and China being a model of command and controal: in reality it’s always a mixture – and in Europe and US we find protectionism that historically benefits their national interests against fair competition rules. This is what I find most difficult to absorb – the fact that we don’t actually have free market capitalism in the so-called ‘West’, but say we do, and put up huge trade barriers and tarrifs (depending on where you sit in the world trading regime as a country).

    And we dress up our concerns with rights in the developing world as though it’s all concerned with poverty and welfare when much of these motives are economic and relating to national self interest. The US trade unions/farmers for instance, oppose child labour in developing countries, not based on concern for children’s rights it would seem, but because child labour equates to cheap labour and competition.

    Let me know if you’ve come across the relative merits of the Washingon Consensus (which many of the big NGOs of the world say hasn’t been helpful for the rest of the world) and the emerging Beijing Consensus which appears to provide an alternative model. Here’s a link from the Foreign Policy Centre.

    http://fpc.org.uk/publications/123

    There’s a lot of talk about this in policy circles internationally – and in my opinion this issue and its relevance will take on significance in the way that Fukuyama’s book on the End of History did in the early 1990s (proposing the Triumph of Capitalism after the collapse of the Soviet U).

    On the US point , if you mean the New Deal and Roosevelt’s quest to secure minimum welfare rights and safety nets, then yes, I’d agree – certainly the famous NHS compact in the UK came along a lot later. And even then it came after the nation forged a unity from the the ravages of war – never again sentitment. At least in the US it didn’t come immediately after a war so to speak – but the great depression.

    Speaking of the Great Depression.. None of us were probably around at the time… Wall Street Crash etc is preying on my mind – and I wonder when someone will do a stock take of how significant this crisis is compared with the earlier crash in the 20th century. Maybe some one has and I haven’t seen it yet – out of the loop being in Nepal. Or perhaps the comparative sweep isn’t relevant and raise different issues entirely… I don’t know, am thinking out aloud here.

  48. El Cid — on 11th October, 2008 at 12:45 pm  
  49. Shamit — on 11th October, 2008 at 2:37 pm  

    Hi Halima

    You were right I was pointing at the New Deal under Roosevelt as the prime foundation of the Government providing a safety net — which was further developed in the Great Society model under Johnson.

    Sadly, for Obama, Johnson is not the model but Kennedy who was big on rhetoric short on achievements or even intent. Making a black celebrity walk through the back door of the White House because he had a white wife was Kennedy reality and was far different from his rhetoric. Apologies, I digress again.

    But, to me I think the foundation of the American Economic Model is the notion of equal opportunity to succeed. No other country came up with the concept of free and required education before the United States and that has reaped dividends. Similarly, the concept of Pell Grants and other financial tools to ensure higher education was for the many and not for the few have solidified the basis of the American Economic Model. There is no excuse how minorities especially the African Americans have been treated – but less than 50 years after the Equal Opportunities Act we have a Black Man as almost the New President Elect of the United States.

    Without a strong governmental framework of opportunities, niether Harry Truman, Ronald Reagan, Bill Clinton or Barrack Obama would have been anywhere near the Presidency of the United States and that speaks volume about a nation. These are all true American dream stories — think about the Kennedys. From bootlegger to President of the United States in one generation — (well I guess with dodgy Chicaogo support again) but still its still inconceivable in most other countries on the planet.

    So, to me the American Model has always been far more than the free market. There has been always a strong social safety net and ladder for those who were not born with silver spoons. Still today, most of the Ivy League Insitutions, get most of their students from the American Public School System ie the comprehensive system. That tells me a lot about a country.

    The first Afircan American to head the US Armed Forces Colin Powell – went to a comprehensive so did Condoleeza Rice and these were during what I call the apartheid era in the US. This fundamental belief in ability rather than heritage says something about their economic success and model. So just defining American capitalism as free market running wild is not only flawed but does not do justice to any serious analysis of the US model.

  50. Nyrone — on 11th October, 2008 at 7:40 pm  

    Superb summary Kulvinder…

  51. Refresh — on 12th October, 2008 at 2:57 am  

    Shamit

    This from Andrew Rawnsley

    ‘As well as giving the Prime Minister a new sense of purpose, the crisis has also lifted the morale of his party. Though Labour’s electoral successes owed quite a lot to the debt-fuelled boom years, the party is in an emotionally happier place when financiers are going bust and it can talk about skinning fat cats, taking over banks and regulating markets.

    Conversely, this huge market failure poses acute intellectual and political questions for the Tories, the instinctive champions of minimal regulation. They are palpably divided about whether to be the defenders of capitalism or to join in the cry to lynch the bankers.’

    http://www.guardian.co.uk/commentisfree/2008/oct/12/gordonbrown-labour

    Hopefully soon we shall get David S. article on alternatives and then we can debate the issues you raised in #35. We may even be able to question some of the presumptions of poverty reduction, distribution of wealth and distribution of power, amongst very many other things.

    One thing we should never forget, and its very important not to tune out when it is mentioned is Iraq. I used to believe defeat at the hands of the Vietnamese was a deterrent for the US, but hadn’t accounted for the neo-cons who thought they wouldn’t have lost Vietnam if it hadn’t been for the media and those home-grown ‘commies’. The Media being a component in a regulatory framework.

    The time to move on is when those responsible have been held to account. Therefore one important reason we should never forget Iraq is deterrence. Another of course is we are still there, and could have easily been in Syria and Iran.

    So no apologies whatsoever if from time to time debate has to be reminded of inconvenient facts.

    As for finding solutions, I am all for it. My proposed medication for bankers and the City are not a rant, its part of the solution. Trust me, you are not going to get ‘ethical’ behaviour from CEOs and Traders without it. In fact observe over the next few weeks, how many fresh voices join in. From pensioners, those approaching pensionable age, taxpayer organisations, Small Business Federation, Chambers of Commerce, Trade Unions etc. This will be a formidable coalition. Financiers will shortly have no friends, and be left with plenty of time on their hands to finally go seek the fathers they never knew.

    And I do believe you will see it translate to other sectors and rather quickly. The windfall taxes on energy companies (for example) will be resurrected, when people realise they will see cutbacks because all the money that should go into their schools is being given to the fatcats on top of the $67bn over 7 years in bonuses.

  52. Rob — on 12th October, 2008 at 12:51 pm  

    The time to move on is when those responsible have been held to account. Therefore one important reason we should never forget Iraq is deterrence. Another of course is we are still there, and could have easily been in Syria and Iran.

  53. Refresh — on 12th October, 2008 at 12:57 pm  

    ‘Debt repackaging and subprime crisis
    High-yield bonds can also be repackaged into collateralized debt obligations (CDO), thereby raising the credit rating of the senior tranches above the rating of the original debt. The senior tranches of high-yield CDOs can thus meet the minimum credit rating requirements of pension funds and other institutional investors despite the significant risk in the original high-yield debt.

    When such CDOs are backed by assets of dubious value, such as subprime mortgage loans, and lose market liquidity, the bonds and their derivatives are also referred to as toxic debt. Holding such “toxic” assets has led to the demise of several investment banks and other financial institutions during the subprime mortgage crisis of 2007-08 and led the US Treasury to offer to buy those assets in September 2008 to prevent a systemic crisis.’

    From a Wikipedia search for Junk Bonds.

    I thought we’d been here before, and perhaps rather than accept the slap on the wrist, the bankers renamed their shady dealings. Raises more questions about Standard and Poor and other rating agencies.

    see also http://en.wikipedia.org/wiki/Michael_Milken

  54. halima — on 12th October, 2008 at 1:47 pm  

    Hi Shamit

    Thanks for the cxplanation. I guess there are many good things about America that we tend to forget in the current climate … And yes, for all Johnson’s faults on Vietnam, he was a great architect for domestic US policies on health, education and employment. I think perhaps also the quest for civil rights in the US was also missed in the period after the ending of the US civil war when much more could’ve been achieved with the right political will. Instead we had to wait until the civil rights movement again in the 20th century. And I’d agree that the New deal era was a good moment in US history for social change.

    I’d be interested in checking up the stats on how the Ivy League colleges take in young people from comprehensives because that would be a good indicator of equality across the board.

    For me, though, equality is also a relative concept with wealth and income in a country – and so I have higher expectations of equality in a country with higher economic growth.

    Which is why we might expect more from America … I haven’t done the research but my gut instincts tell me that US doesn’t measure up well on equality compared with other strong economies in Europe. Now, you point to success in African-American, and indeed, the whole discourse about Obama has been , oh look how well he is doing, being an African-American. My reaction is that why are we suprised? I don’t expect anything less in a country where the history of African American participation has been as long as other Americans. Let’s not forget that African Americans have been in the United States as long as ‘white’ Americans, as America was a new country for everyone, apart from the native Americans.

    I don’t take the success of high powered people to be a success of a country or organisation in respect of equalty – when one asks the question we don’t have enough equality in organisation/country – the stock answer is .. oh, but look at so and so individual. It’s not about individuals, it’s about trends and levels of inclusion in proportion to population sizes – and the access and opporunities available for any population. I take your point that you are not excusing the levels of social exclusion we find in many African-American communities in the US.

    It’s Black History Month so it might be worth Picklers initiatiing a thread around this.

  55. Shamit — on 12th October, 2008 at 10:06 pm  

    Refresh

    I am all for these so called `know it all` financial engineers to be taken to task and publicly so. I have no sympathies for Hedge Fund Managers who were not interested in creating wealth through job creation and value addition but depended on creating money from nothing but debt.

    I have also no problem with legislation being brought in where a small percentage of the hyper -inflated profits of utility companies are directly utilised to bring the demise of fuel poverty in this country. I am, however, against creating a windfall tax category which goes into the Treasury Coffers and very little part of that actually goes to addressing the actual problem.

    I have always argued for a fairer tax code. A tax code that is truly fair and is based on true earnings and disposable incomes. A tax code which derives its strengths from reducing indirect taxation burden on those on low and middle income. And, we need political will to do so. I have no problems raising taxes a few percentage points on income over say 150K (based on a family of four).

    And, for that we need a vibrant free market economy and not a nationalised industry model. And, I believe the Government and the regulatory authorities have failed in their responsibilities — so I dont see how we can point fingers at the Bankers when we have the same Government who encouraged this stupendous level of unsustainable debt.

    But first to fix our economy, we need to reduce our deficit and reduce our 2.5 trillion pounds worth of debt which far surpasses our total GDP. Now that happened because of Government and Bank of England Policy – and so if we ask for prosecution of bankers and hedge fund managers we might have to also hold our elected leaders to account.

    The Labour Government which I support have been largely responsible for this mess and they dont deserve any kudos. And definitely not Brown. All this talk of Brown being in a better shape is very short term — as if the debts were called in today — we do not have the money as a nation to pay it off and Gordon Brown has been managing the Treasury one way or the other for 11 years.

    I think we agree on major points but I wont say that this is the end of capitalism — I would say this is the end of irresponsible and unaccountable monopoly capitalism that we have developed over the past 20 odd years.

  56. Shamit — on 12th October, 2008 at 10:49 pm  

    Halima

    Historically, in the US, 90% of the wealth has been always been concentrated within the top 2% of the population. But usually there is no resentment for that – rather people like to emulate them. Until now. But still people like Bill Gates, Warren Buffett are widely respected and revered. No one puts down the Kennedy`s for their wealth. And that is a key difference between us in Europe and the USA.

    I just checked about 60% of Ivy League Freshmen come from comprehensives. And that tells me a lot but it also tells me the importance of personal responsibility.

    Something new Democrats have been talking about and so has recently Obama. (funny, every stump speech of Obama is now how great Clinton was) — But lack of personal responsibility and parental responsibility has harmed generations of African Americans and its not me saying that its African American Leaders saying that.

    Personal responsibility and taking advantage of the opportunity has been a cornerstone of American ethos. Government or public policy cannot replace parents or even communities. It takes a village said Hillary Clinton in a book and it does and Government must do its part but it cannot replace personal responsibility.

    In the 1990`s when the question of should Bill Clinton continue with the Johnson Executive Order for Affirmative Action or rescind it — he gave a speech headlined `Righteous yet Rocky Journey`and he explained on these particular themes far better than I ever could or for that matter Obama has so far been able to do.

    And despite the imperfect union speech, I think I rate Clinton`s affirmative action speech the best one I have heard on race relations and its impact on public policy. He decided that one affirmative action one day must go but explained why that day hasn`t come yet. And the clinching argument was that American Society has failed to help those children who have been left behind not because of any fault of their own but of others. In my last post, I talked about Colin Powell and Condi Rice, and if you look deeper they had strong families and parents who wanted them to achieve and aspire to be something better.

    Its a same story we see in many parts of London today. Where parents are involved and wish their children to achieve and aspire for better things, the children tend to do better. Can Government lend a better helping hand – of course. But can government or public policy provide the guidance and support that a child needs in his or her journey towards adulthood. The answer is no and that is where family and communities need to play a big role.

    We talk about African Americans and why not Asians both here and in US. People who were cab drivers ensured their children went to Uni — people who work in restaurants as cooks ensured their children went into Uni for a better life — and those children got their through the tools provided by the State — so the State is not always to blame.

    Anyway, I am bit tired today so sorry for this long convoluted post. But I think I make my points coherently — I guess so at least

  57. Shamit — on 12th October, 2008 at 11:08 pm  

    The Media being a component in a regulatory framework.

    Refresh

    This is one point I can`t agree with. Traditional Media is biased and has less credibility than politicians. We only refer to media when it supports our personal biases. And media do not report news they highlight their views.

    An interesting point: Cameron was attacked for being the man with a plan without the plan. But the Tories did release a 23 page document during their conference which not a single newspaper or News channel actually covered. Whether you agree with it or not, they have a responsibility to report news — which they dont.

    Traditional media has actually lost its credibility especially with today`s generation. They want narratives and they want it from the horse`s mouth and without the media editing it – - and they should openly present all sides of the story and from their respective representatives.

    And, on this one I should know, because thats exactly the model we are following in Policy Dialogue and its working because most people don`t like pontification, or views apparently coming from an unbiased source.

    If they want views they want from the horse`s mouth and the audience is smart enough to judge the validity of their claims. And, BBC refused for a long time to use the word terrorist — for God`s sake and this is an institution that is recognised worldwide as one of the best places to get your news.

    Every poll taken in recent times show media ranking below politicians on trust — and you want them to be part of a regulatory framework. Sorry can`t agree with thaté

    And Iraq war was the wrong war at the wrong time but it was a just war. Or I guess the left values Rwandan lives more than they value lives of Kurdish children being gassed to death. Morally we were right, strategically we were wrong. But when we talk about how immoral it was — I say it was hogwash. When people say Saddam could have been removed by other means, read up folks because we have trying for a bloody long time. And come on, we got rid of a genocidal dictator and 70% of Iraqi population voted even under death threats. So, the moral argument and trying to equate it with Vietnam is simply wrong. Vietnam was morally wrong — no denying it. But Iraq was morally right.

  58. Refresh — on 12th October, 2008 at 11:52 pm  

    I think we can agree about the media, its not what it should be. Thank goodness the internet has widened the franchise.

    But Iraq? More deaths than Rwanda? I think you make a big mistake to suggest the left was ever supportive of Saddam – that’s an old one which I thought had run its course.

  59. douglas clark — on 12th October, 2008 at 11:59 pm  

    Shamit,

    I always like the stuff you write here. So, if I can criticise something you said without throwing the baby out with the bathwater, as it were, I’d like to press you on this:

    And Iraq war was the wrong war at the wrong time but it was a just war. Or I guess the left values Rwandan lives more than they value lives of Kurdish children being gassed to death. Morally we were right, strategically we were wrong. But when we talk about how immoral it was — I say it was hogwash. When people say Saddam could have been removed by other means, read up folks because we have trying for a bloody long time.

    No. That, sir is revisionism of the first order. Subsequent to Gulf War One, the US and the UK set up no-fly zones over both the North and South of Iraq. These zones were more successful in the North than the South. Where, essentially, the Kurds were able to establish a seperate identity. So, no more gassing.

    Where it all went arse over elbow, morally speaking, was in the call by the CIA. for rebellion in the South, with promises of support that were never forthcoming. That rebellion was crushed. See here:

    http://www.usip.org/newsmedia/releases/2002/nb20021125.html

    and, perhaps more importantly, here:

    http://en.wikipedia.org/wiki/1991_uprisings_in_Iraq

    It is quite clear, to me at least, that was when the West betrayed both the Kurds and the Marsh Arabs, any prospect of democratisation of Iraq. Frankly, the words ‘missed opportunity’ do not do it justice. It was a complete betrayal of any sort of decent liberal, or in it’s best sense libertarian, values. It was a treason to any principles of self determination.

    It is not, sir, hogwash to say that it is reminiscent of the Soviets’ call for uprisings in Warsaw, complicit with their then standing on the sidelines.

    Well, that’s what I think.

  60. Shamit — on 13th October, 2008 at 12:43 am  

    I think you make a big mistake to suggest the left was ever supportive of Saddam – that’s an old one which I thought had run its course.

    Refresh – apologies I did not mean to insinuate that. I am truly sorry

    *********

    Douglas

    I do respect your views as well. But I think you inadvertently proved me right. When you say-when the West betrayed both the Kurds and the Marsh Arabs, any prospect of democratisation of Iraq – I cannot agree more. We acted cowardly with the Kurds and the Marsh Arabs without doubt.

    It was sad and it was hypocritical — it reminds me of our inaction in 1956 when students in Budapest rose up against Soviet Union. Again we fired them up but we did not give them any support. Eisenhower played golf while students who trusted him died in front of tanks.

    Going back to Iraq, even then if we pressed forward in 1991 we would have had to deal with an armed conflict and the Gulf War 91 coalition would have fallen apart- and it probably would have been us and the US. And, probably would have won Bush senior the second election. And the Al-Qaeda element would still have been in play there. So, the situation would probably have not been much different on the ground but we probably would have had better post war management from Bush Senior Administration than we got from Bush 43.`

    But we failed to act – we failed to act when he authorised rape and pillage and torture and indiscriminate killing of those he was supposed to be protecting.

    But we let him get away with genocide and thats why the second Iraq war was just in my opinion.

    We screwed up big time on post war management and following a neo con agenda and destroying Iraqi civilian and military administration. If I am correct Blair was against the post war management plan — even his critics agree.

    But I think we were right to get rid of Saddam — it was a strategic mistake but morally right. Better late than never.

  61. Dave S — on 13th October, 2008 at 1:19 am  

    Just my 2p (soon I’ll require a wheelbarrow to carry the equivalent value) to say thanks for an excellent piece Kulvinder.

    Also, if I could recommend a video on the same subject: Money As Debt is well worth watching, and explains fractional reserve banking and it’s flaws in a way almost anybody could understand.

  62. douglas clark — on 13th October, 2008 at 2:10 am  

    Shamit,

    It is a tactic of those that would choose to divide and conquer us, to get us riled up against a common enemy and then abandon us.

    You only have to look at the complete disaster that the anti-war movement proved to be. With decent leadership, I’d suggest, they could have made a difference.

    But the fact that lots of, frankly, non political folk were angry about what was being proposed, was subverted by nutters calling for a ‘rising of the proletariat’ or some such nonsense.

    It killed it, and it is probably why, when actually given the opportunity to make a difference, the left fucked up.

    They assume too much. They have no concept of right (as in correct) – independent of left – and wrong.

    Still and all, what is this about?

    Going back to Iraq, even then if we pressed forward in 1991 we would have had to deal with an armed conflict and the Gulf War 91 coalition would have fallen apart- and it probably would have been us and the US. And, probably would have won Bush senior the second election. And the Al-Qaeda element would still have been in play there. So, the situation would probably have not been much different on the ground but we probably would have had better post war management from Bush Senior Administration than we got from Bush 43.

    I, personally would have taken Saddam down in 1991. I’d not have stopped the Force du Frappe from going the last leg. I’d have taken Baghdad, right then and there. We had moral authority back then. He’d invaded Kuwait and upset Sonia. What better reason for finishing it right then?

    Frankly, fuck the Arab street, we had right on our side back then, and then we blew it big time. I think you’ll find that Saddam was a bit if a bitch, even prior to Gulf War One, such as making a complete utter tit of himself over Iran? Maybe?

    What is your evidence for Al-Quaida in Iraq in 1991?

    I don’t think it was on the radar, back then.

  63. halima — on 13th October, 2008 at 8:28 am  

    Shamit

    Thanks again. For sure, parental responsibility goes hand in hand with other forms of interventions, I’d agree. That’s why we might talk about the ‘state’ as one enabler, and say, the ‘market’ as another, and the third area would be ‘civil society’ which encompasses the family, too.

    I would agree that some populations have more parental involvement/responsibility ethos than others, and perhaps that’s one of the more interesting parts of the debate when we look at the East Asia model.

    I’d say here is a model (I am speaking in lay terms) where you have strong regulation fromt the state, as well as a strong tradition of family and broader community support – so linking civil soceity bit of the state-society-market dynamics I described above.

    I don’t know how we got into the discussion about African-Americans, but I guess wearing a british hat here, October is the month where we have Black History Month, so just would be interesting to discuss this.

    Thanks for the stats on state school participation in Ivy League colleges, I’ll comment later if I find the research stats for Europe to compare, but my comment here was that the Ivy League colleagues on the whole do drive harder to push for more inclusive participation. This is true of Oxbridge and Cambrige – but the barriers to educational participation persists.
    It’s perhaps the middle ranking universities across the countries where you might find more homogenous balance of students. Again – my benchmarks for assessing inclusion is to look at the middle (average) level organisations. Not say, Margeret Thatcher as an example of gender equality in the UK.

    Can’t argue with your point about respect for self-made millionnaires, but would be interested in the ‘self-made’ bit of the equation… How self-made are the captians of industry across the board – instead of one or two of the islands of success at the top we continue to hold up as beacons.

  64. El Cid — on 15th October, 2008 at 4:25 pm  
  65. Refresh — on 15th October, 2008 at 4:57 pm  

    Thanks El Cid,

    precisely why you should never trust bankers. He and others should (and I am sure will) take out a class action against all the executives – I beleive that could mean their personal assets will be at risk.

    If there is any political organising to be done then it makes sense that we should also be giving legal assistance to all those that have lost everything.

    And, I repeat, we need a blacklist of these bankers so they do not pollute the rest of the economy. Let them go run antique shops, or whatever else failed bankers do.

  66. El Cid — on 15th October, 2008 at 5:07 pm  

    In that case, this one is also for you (and that class action):

    http://www.reuters.com/article/marketsNews/idUSLE36034520081014

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