The Economy: Is the plug about to be pulled?


I’ve been watching both the Occupy Wall Street (OWS) movement and the overall economic situation very closely.  I was going to devote this post to my thoughts on OWS, but will have to come back to that topic later as there’s something far more urgent afoot that will drive this movement and others.

We need to be clear about what the problem is with the economy.  Stated simply, it’s debt and tons of bad loans that have been passed throughout the world by the Wall Street crowd in their mad rush for profits.  (Closely related to this is fraudulent activity for which no one has been brought to justice).  This is creating a crisis that is becoming acute in Europe and soon to leap across the pond to these shores.  The short of this is that when a bank has issued loans that have soured, those with deposits in those institutions are at risk.  This is what occurred during the Great Depression and many institutions wound up getting shuttered with depositors losing life savings.  It was this experience that spurred the creation of  the Federal Deposit Insurance Corporation (FDIC) and other similar agencies to provide deposit insurance for people with savings in banks, credit unions and brokerage houses.  This is also why the level of deposit insurance was doubled in 2008.

The strength of any banking system revolves around the soundness of its lending and that’s what really protects deposits.  When people fear the safety of their money, they tend to withdraw it en masse as they lose confidence.  A bank run is a problem for a few reasons; the main one being that your typical bank doesn’t have sufficient currency on hand to handle that.  Bank runs during the Great Depression usually resulted in bank closures while placing the entire system under stress.  Because many of banks have interlocking financial arrangements involving loans among each other, problems tend to spread quickly and otherwise healthy banks wind up being brought under depending upon the nature of the systemic problem.  Essentially, no bank is an island and systemic problems affecting a few banks can quickly spread.  This is what makes the situation in Europe very problematic.

But the problems of Europe aren’t the only headwind, I ran across this headline today that I found simply astounding.  Here’s a very brief excerpt:

Fitch Predicts Half of All US Prime Mortgages Will be Underwater

The sputtering U.S. housing market will result in more prime borrowers being pushed further underwater on their mortgages, according to Fitch Ratings in a new report. Recent analysis by Fitch shows that more than 30 percent of all prime borrowers in private-label securitizations are currently in a negative equity position on their mortgages.
“With home prices likely to decline another 10 percent, roughly half of prime borrowers will wind up underwater on their mortgage,” said Managing Director Grant Bailey. Fitch also found over 12 percent of all prime borrowers are seriously delinquent on their mortgages. “Prime mortgage default rates will stay elevated as home prices fall further and unemployment remains high,” said Bailey.

Allow me to translate.  First, Fitch is a bond rating agency and their job is to rate bonds based on risk of default or non payment. What does this have to do with mortgages?  Most of them are repackaged as bonds and purchased by insurance agencies, pensions and etc.  So, Fitch’s role is to provide a rating so these guys can assess risk.  In other words, it’s like a FICO score for you and I.  If your FICO is poor, you’re going to be charged a higher interest rate because you represent a higher risk for defaulting and not paying.  It works the same way here except that Fitch is looking at broad classes of securities and their makeup. 

A prime borrower is someone who had a top tier FICO score at the time their loan was taken out, so these borrowers are the crème de le crème and aren’t expected to have problems, but they are.  The main problem they face is being “underwater” or being in a situation where the mortgage outstanding is greater than the value of the property.  The problem with this is that many people who are in this situation simply default.  The thing that’s significant about this is that Fitch is saying that  it believes that 50% of all prime mortgages will be “underwater”.  What we don’t know is what percentage of the sub-prime mortgages that are in the same condition.  I’d hazard to guess that the percentage is at least comparable, if not higher, based on the abuse that was heaped on sub prime borrowers.   There will be massive defaults still yet to come from housing that will put the banking system under severe stress without even considering the situation abroad.  A jobs program or any other program short of a massive debt restructuring isn’t going to stem this tide.

If that’s not bad enough, we’ve got the quickly unfolding situation in Europe.  In the clip below, we’ve got a IMF advisor quietly suggesting that we face a near term banking meltdown, but it seems like they’re being very careful to not sound the alarm, but instead are couching the solution to the problem as one of “bank recapitalization”.  That’s a fancy term for a bailout and the only way these institutions will be “recapitalized” is either via using the public purse, seizing depositor’s savings or both.  Since the banking system is interlocked globally, this will effectively be a backdoor bailout of US banks as well.  This will most certainly be done at the risk of peace and tranquility on that continent and the political dithering is simply about trying to find a sleight of hand way to pull this off.  That will be next to impossible as the people aren’t stupid.

Generally, the only real solution to this mess is to make the banks eat those losses, but you’ll notice that’s not mentioned. Instead they’re planning to grab all the lifeboats and jump ship. 


  • Anonymous

    This is manageable. This can be averted. This can be restructured.

    All we need is for one, Greece, Italy, or Spain, to default on their loans, creating that dreaded ripple effect throughout various banking systems (including the United States), whether these sovereignties are protected with credit default swaps or not–which more than likely don’t have sufficient capital reserve to pay claims–and we’re back where we started: staring into the face of “too big to fail,” and taxpayers forced to rescue the financial sector, or succumb to a debilitating economic depression.

    Let’s hope that the people will get behind the Occupy Wall Street Movement, and insist on changes (a break up of mega-banks, forcing them to set aside adequate capital reserve, and regulating the derivative market for starters, if not abroad, at least here at home. Otherwise, we’re flirting with a doomsday scenario that will have tragic, economic ramifications worldwide, and could last for decades.

    • Please accept my apologies for the delayed response my friend.  A lot has been going on with OWS that worthy of comment and I’ll address here shortly.  Much of this reminds me of your  excellent post on the Bonus Army and I’m afraid that the response from the authorities will be similar.  OWS is in many ways the Bonus Army scenario redux.

      • Anonymous

        “OWS is in many ways the Bonus Army scenario redux.”

        Good to have you back. Needless to say, I was worried. I believe that my blog entry preceded the  OWS movement, but given the conditions that were mounting here in the U.S., our American spring was inevitable, and only a matter of time.

        In this country, the wealthy class, and monied interest, will  be protected at all cost. Blacks learned this lesson years ago. It’s a new lesson for whites, but they, too, will learn, that here in the “land of the free and home of the brave” the plutocrats rule.

        Nevertheless, I believe that this is all about to change: The people (the 99 percenters) will flex their consumer muscle, and threaten to bring the country to its economic knees with general strikes unless their demands are met. The movement is now calling for the reinstatement of Glass-Steagall, and the imposition of a transaction tax on Wall Street. Already Bank America is  feeling the pressure: The bank has cancelled its new-year plan to charge a fee for the use of its debit cards.

        And this is only the beginning.

        As with the Bonus Army, harsh police tactics will only fuel the fire of this movement, and attract more protester. I only wish that I could join them.

        Tonight, I’m a proud American–and never in my adult life have I been prouder of my fellow country men and women, especially those on the front line of this new movement.

        • >>>In this country, the wealthy class, and monied interest,
          will  be protected at all cost. Blacks learned this lesson years ago.
          It’s a new lesson for whites, but  they, too, will learn, that here in
          the “land of the free and home of the brave” the plutocrats

          You know, I've been thinking about this a lot; that's to say I've been thinking a lot about what Black folks and third world peoples have had to endure as canon fodder for an
          economic system that has exploited them.  Many whites were sort of a buffer in the sense that the spoils from this system used to be shared more broadly and now many find themselves being subject to the same exploitation.  A classic case is Greece
          where the IMF and others are imposing austerity while they rape the country of anything of value.  This has been done for years in Africa and Latin America—the same exact thing, yet everyone was silent having been bought off by the spoils from this system.  Now, there are not only no spoils to share, but millions are about to join the ranks of those who've been exploited all along.  This is a very apt observation.

          Having said that, I support 100% the efforts of OWS and you're right, harsh police tactics will only fuel this movement.  One of the things I've noticed is that OWS is very hesitant to identify its leadership—and it definitely has a leadership as someone is managing and directing the effort.  One of the things that they've apparently studied was the FBI's
          co-intelpro efforts of the 1960's and there's no doubt that this could be dusted off and applied again.  One of the things that OWS must be very careful of is attempts to discredit the movement via the use of agent provocateurs and others to position them negatively.  At this point, that will be challenging as there are many people who support them even if they're not necessarily on the front lines with them, but this can not be excluded.

          • Anonymous

            “One of the things I’ve noticed is that OWS is very hesitant to identify its leadership—and it definitely has a leadership as someone is managing and directing the effort.”

            It’s good they’re staying in the shadows for now. We’ve already seen what Fox News can do to those they don’t like–Van Jones, ACORN, Shirley Sherrod, the New Black Panther Party, Barack Obama, just to name a few.

            “One of the things that OWS must be very careful of is attempts to discredit the movement via the use of agent provocateurs and others to position them negatively.”

            Fox News is already taking the lead. James O’Keefe, the videographer, and film maker that brought down ACORN, has been seen recently prowling around Zuccotti Park, the home of the Occupy Wall Street Movement.

            Dirty Tricksters from the Republican Party (aren’t they all!), will stop at nothing to discredit this movement–not unlike what they have done, and are now doing, to suppress the vote in 2012.

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