News to expect in the coming days and weeks:
- Greece defaults
- Germany protects German banks but other countries cannot do the same thus quickly provoking multiple sovereign defaults and or bank failures, all of which may easily lead to a payments crisis in the global banking system. Derivatives are particularly at risk in terms of operation and execution.
- The Euro falls in value especially against the US dollar
- The Germans announce they are re-introducing the Deutschmark. They have already ordered the new currency and asked that the printers hurry up.
- The Euro falls even more on any news that Germany is withdrawing from the Euro.
- Legal wrangling begins as to the legality of Germany’s decision. Resolution takes years.
- Germany insists that the Euro continues to exist even they do not use it any longer. They emphasize that European unification will continue and suggest new legal instruments to strengthen European Unification including new EU Treaties.
The Germans have already concluded that if they are going to write any further checks then they are going to write them to their domestic institutions and protect their domestic investors. Necessarily, this means that many Eurozone countries will default on their debt. It now seems this will happen within a matter of days. Germany has, therefore, already announced its intention to ring-fence and support their own banks and only their own. This may ultimately involve the nationalization of some or even all the German banks. This is necessary because a falling Euro will further weaken the ability of the other Eurozone members to meet their commitments and thus increases the risk of multiple sovereign defaults. Eurozone countries that are going to default will do so virtually simultaneously rather than sequentially._Eurozone countries may or may not have the resources to nationalize their banks. Therefore, we have to expect that bank failures are a real possibility. Apparently, the Europeans are warning the US to come up with a plan to nationalize Bank of America given that it is already in a precarious position, despite the injection of capital from Warren Buffet. The multiple lawsuits against Bofa and other banks alone will render the US banking system vulnerable to any dramatic announcement out of Europe. But, no doubt US banks have immense exposures to European institutions and some may even have sovereign credit risk directly on their balance sheets._It is hard to overestimate the shock that this will bring to the financial markets. Risk aversion will set in quickly as people start to consider the multiple possible consequences, some unintended, of such a decision. Huge fortunes will be made and lost in this moment in history._It is worth providing a review of the evidence that led me to this conclusion.
Christine Lagarde’s speech at Jackson Hole revealed the recognition that there was a risk that Germany might not “write a check” to bailout the Eurozone members. She said, to paraphrase, “somebody needs to write a check or we are going to have historic multiple bank failures.” Everyone in the audience understood that no check is coming. The ESFS is not yet funded and a number of the contributors will not hand over cash if there is no collateral.
The Federal Constitutional Court Press Release[viii] has also been misinterpreted by those who want to believe that bailouts will occur. The FT reported that the court ruled in favor of Chancellor Merkel. But, the reality is that the court took the authority to decide away from the Chancellor and gave it to the Budget Committee in the Bundestag. This committee has 48 members and each is certainly driven by the polls and cares about re-election. The Budget Committee is deeply likely to oppose any bailouts that will cost German taxpayers, just as Dr. Issing says.
If any doubts remain about the German inclination to return to the DMark then consider these announcements. Switzerland announces a peg to the Euro. It was crystal clear at Jackson that the Swiss leadership expected an historic event to occur which would culminate in a rush into Swiss Francs. They tested the water by announcing a “fee” which would be applied to all non-Swiss purchasers of their currency. Within a few days they announce the peg. In short, Switzerland knows what is coming and has just barred the door to anyone who might try to escape the demise of the Euro by leaping into Swiss Francs.
The statement by the central bank in Canada is similar. I happened to be in Canada when the statement was made. Canadians were deeply confused. After all, to paraphrase, the central bank said, “all the bad things we thought might happen, are now happening, so we are going to maintain a highly defensive position”. In other words, Canada is also gently warning the markets that it will do what it has to do to prevent the currency from suddenly accelerating in the event of a European currency implosion. The Japanese are hinting at this as well. According to Reuters the Finance Minister, “Azumi also said he was ready to step into the currency market to counter speculative moves, although Japan would likely struggle to gain G7 support for intervention.”[xi]
It therefore seems likely the US Dollar and US Treasuries will be a major net beneficiary of any failure to bailout Europe. As an aside, this means the market would undertake QE3 as it were. The Fed won’t have to do “operation twist” or consider QE3. [This was written before the September 21, 2011 FOMC meeting, in which OT was announced, but no balance sheet expansion (QE3).] They will be able to focus their attention on the inflation “target” and finding ways to justify letting it rise.
It is fascinating that Jurgen Stark’s resignation[xii] has caused people to think the chances of a bailout are increased when in fact his resignation signals that the risk is increased that no bailout will occur AND Germany will withdraw from the Euro. Stark has been a board member at the ECB until his resignation....
But, that was not enough to stop Stark’s resignation. When we look back in history we will see that all the important German policymakers resigned from the ECB before Germany formally returned to Deutschemarks, just as one would expect. It also seems too much of a coincidence to my mind that former Head of the Deutcshe Bundesbank and ECB board member Axel Weber leaves the ECB just before all the proverbial starts hitting the fan, goes to UBS as Chairman, and the next thing you know that describes the ways in which countries could leave the Euro including the potential costs if Germany left.
The Federal Reserve will have no choice but to make unlimited liquidity available to the market. They won’t need to announce QE3. The market will do it for them. But, the Chairman really wants to announce QE3 and may use these events as a reason to do so. [Oh, does he ever.]
Gold, diamonds, agricultural assets, energy prices and mined asset prices will rise. Default reduces the debt burden and allows growth and inflation to return. If central banks (other than the ECB) throw huge liquidity out into the market because of this event then the liquidity is going to lean away from paper financial assets other than the most trusted and liquid (US Treasuries), and lean toward hard assets.
The world is about to experience deeper stagflation. The cost of living will now rise even more but growth remains stunted. Policymakers will start to veer back and forth between dealing with unemployment and dealing with inflation. The years ahead will be referred to as “stop go” years because policy will at times try to stop price hikes and at other times policy will try to push growth. Luckily, the world has seen this movie before in the 1970’s. Hopefully, we have learned something from the past and it ends rather more quickly this time around.
...The reference to DeMarco is regards his willingness to support the object of the [Soros-]Boyce-Hubbard-Mayer paper on widespad home refinance. We seem to recall a jazz band with a similar name. Actually it is streamlined home refinance. Read the BHM paper and you will understand why the economy is foundering and why the Obama/Geithner binary consciousness won't ever get it.
While the Fed can make a great fuss about intervening in the long end of the government bond market, the central bank cannot get liquidity into the consumer sector unless and until we restructure BAC and other large lenders. Our view is that "twist" by the FOMC is a response to the unwillingness of the Obama White House to embrace mass refinancing of performing mortgages a la BHM. Remember, psident Obama is the puppet and Wall Street as personified by Robert Rubin is pulling the strings.
BAC, Wells Fargo ("WFC"/Q2 2011 Stress Rating: "A") and other large servicers are not going to allow loans in portfolio or owned by investors ppay if they can at all avoid it. Fannie Mae and Freddie Mac, both big owners of high SATO paper, likewise are dragging their feet on refinancing. But the impending insolvency of BAC provides a catalyst to begin the restructuring of the US housing sector and the economic recovery. And yes it is very doable.
On the restructuring:
The answer is that consumer payments, swaps, taxes, interest and principal, FX and all of the other financial operations of BAC will continue uninterrupted. The banks, broker dealers and other operating affiliates of BAC do not file bankruptcy, but the debtor parent does ask for the court to protect the operations of the entire group. We've got some of our cash sitting in the El Segundo branch of Bank of America, N.A., BTW. We aren't moving.
So long as the subsidiary banks of BAC are book solvent and stable, these businesses can continue to operate and, most important, contribute income to the parent. Regulators led by the FDIC and Fed are going to support the restructuring because a commercial reorganization is clearly pferable to a Dodd-Frank resolution, for reasons we have discussed pviously.
...
Taking an aggressive approach to cleaning-up the subsidiaries of BAC could yield enormous operational savings and leave the restructured bank vastly more liquid and profitable. Let’s assume for this discussion that we write-down the bank level TCE and intangibles, and an additional $100 billion in parent equity downstreamed to banks, for $250 billion total bank level asset reductions/cleanup. We then recap the banks with new debt and equity raised by the parent.
Once these tasks are done, we can move to Pro-forma 2, which is BAC on exit from bankruptcy. In the table we show $1.4 trillion in total consolidated assets on exit, including some $1 trillion in bank assets, $200 billion in parent level TCE, no intangibles and $100 billion in new debt. This works with or without Merrill, which is said to be worth in the $30 billion range and could be sold during the restructuring.
BAC management then does the biggest IPO in US history for the most profitable and liquid large bank in the world. BAC's peers would be forced to restructure more rapidly just to remain competitive, but probably via debt conversion and without a bankruptcy. Credit creation in the US economy again becomes positive. Mission accomplished.
- Borrowers must document an eligible hardship that is causing or expected to cause a permanent or long-term increase in expenses or decrease in income. (Unemployment and other temporary hardships are not eligible hardships.)
- Borrowers must have verified income available to make the modified mortgage payment. (Unemployment benefits are not an acceptable source of income.)
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