from the hip

The purchase of Wachovia is turning out to be quite costly for Wells Fargo, most likely much more so than the bank anticipated.

Wells Fargo will take a $40 billion charge in the fourth quarter for the Wachovia purchase, according to a report from Richard Bove, an analyst in Lutz, Fla., for Ladenburg Thalmann.

Wells Fargo is planning to take care of this by some smart balance sheet adjustments. However, Wells Fargo also has another $10-11 billion in charge due to write downs. That essentially means losses on their own load portfolio.

To fix the capitalization problem that arises, Wells Fargo intends to do a $12.6 billion equity offering and take $25 billion from the government’s troubled assets relief program, among other benefits. However, Wells Fargo is also required to close the $ 15.1 Wachovia deal by the end of the year.

I have a strong feeling Wells Fargo is entering a rough week with on Wall Street!

Also, I am certain there are more skeletons still hiding in the banks’ closets.

In a previous post I pointed out that the Citigroup bailout, viewed in light of the previous US bailouts, seemed to indicate a clear lack of principle and consistency in the US bailouts that we have seen so far. Every time there is a problem, US government comes running to fill coffers that needs filling or shore up towers about to topple, but the underlying principles with regard to how to spend taxpayers money seem to be lacking. As well, there is no consistency in the methods employed.

In one instance, a bank is more or less given to another bank (Lehman), with a promise of public money if the deal is bad. In another case, the government hands out tax payers’ money, but takes a dominant position, so that the tax payers at least get stock in return (AIG). In a third instance, a badly performing bank (in reality, its stockholders) is given a huge cash gift, again from the taxpayers, but with little to show for it in terms of stocks (Citigroup).

Now the new head of the Congressional panel monitoring the bailouts, expresses concerns about the bailouts as well. Lacking strategy is the major concern. New York Times writes:

The head of a new Congressional panel set up to monitor the gigantic federal bailout says the government still does not seem to have a coherent strategy for easing the financial crisis, despite the billions it has already spent in that effort.

Elizabeth Warren, the chairwoman of the oversight panel, said in an interview Monday that the government instead seemed to be lurching from one tactic to the next without clarifying how each step fits into an overall plan.

“You can’t just say, ‘Credit isn’t moving through the system,’ ” she said in her first public comments since being named to the panel. “You have to ask why.”

It is surprising that more critical questions have not been raised so far. There ought to be a set of principles guiding the handing over of public money to the private sector. Those principles ought to say something about when to do it, what the government should get in return, how assets acquired this way is to be handled, and so forth. As well, there must be consistency from case to case. If these two elements are lacking, government bailouts will sooner or later be challenged, and many will view then as illegitimate. Handing over public funds, giving some companies competitive advantages over others, and so forth, can easily be viewed as highly unfair and inequitable – both by voters and tax payers, as well as by competitors in business – unless the underlying principles are widely accepted and the actions taken are  viewed as being according to and consistent with the principles.

As well, unless the US government figures it has unlimited funds – which is not a reasonable assumption given its staggering debt – there ought to be a larger plan, a strategy, behind the interventions. Even the government may not be able to fill all the holes that needs filling in the next year or two.

So far, the bailouts have some pretty serious shortcomings from these points of view. In my opinion, that is.

I was stunned by the Citigroup bailout. That is, not by the fact that the US government chose to do it, that was as I expected, even thought I thought and still think it was wrong (see my earlier post on this). But what stunned me was the terms of the bailout. Then, later, I have been stunned by the total lack of critical discussions of the terms of the bailout deal. That, more than anything about the Citigroup story, still amazes me.

My understanding is that the government has agreed to pump 20 billion US dollars into a company that that had a market cap of less than $21b on the Friday before the deal, and then only getting a single digit share of its stocks? That really has to be the worst deal for the taxpayers ever, and a clean gift of tax money to Citigroup’s shareholders? I mean, they could have bought a larger share cheaper on the market? At least 5 times bigger?

Second, for guaranteeing $250 billion of risky assets the government acquired the right to buy C stocks – that is, warranties – for 280 mill dollars at a price of USD 10.64. But the stock price was 4 dollars. Who else would want to buy warranties, linked, as in this case, with the risks associated with 250 billion of bad loans, at a strike price 2.5 times the price of the stocks in the free market? That, to me, seems simply wild. It really means the bad loan insurance if for free, and that the government has acquired some badly priced warranties.

Thirdly, by insuring the bad debt of Citigroup, the government also has created a competitive situation where C can now borrow money at lower rates than its competitors. That is, in competitive terms, the better performing banks have been twice punished – first by not getting the same gift and then by having to compete unfavorably by a bank they outperform every day of the week.

All this seems to me to indicate a level of unprincipled thinking by the government and its negotiators almost beyond my grasp. I totally understand Citigroup. They mucked it up, but then made a good save. Well done boys, I say to them! You rock! But the government, they are harder to understand. Their solution is bad and does not follow the pattern of earlier bailouts. And clearly, this also is a type of operation that can’t be repeated over and over, which means others can’t expect similar treatment in the future. So, we can’t expect this to be a new type solution that will be followed consistently in future cases.

So – lack of principled thinking and consistency in the government’s policies (compare it to the AIG bailout), giving tax money to shareholders, creating a competitive advantage for a bank that frankly has performed among the worst in its class, and giving one bank among the thousands of US banks something others do not get.

Spending tens of billions of taxpayer money and seemingly giving it away, and without any tracy of consistency in the behavior underlying the actions nor any traces or principled thinking. That is a tall order. And yet – there is hardly one – I repeat ONE – critical voice in the media. Not in Wall Street Journal, not in New York Times, not in Washington Post. So what is happening? All they all scared stiff by the recession? They too?

PS (12/04/08): New York Times today  wrote an article entitled Vikram Pandit Scores a Great Deal for Citigroup. They write:

as further details emerge on Citi’s government bailout, Mr. Pandit seems to have pulled off a truly fantastic deal.

Some details still haven’t been disclosed, and some haven’t even been entirely nailed down. So piecing together what is going on is a bit like solving a Rubik’s cube with some squares missing, Breakingviews notes. But judging from what has been made public, Mr. Pandit has shuffled off to Uncle Sam much of the downside in Citigroup’s $306 billion portfolio of riskier assets for what looks to be a low insurance premium, according to the publication.

See the story at The Daily Beast! It is pretty outrageous, actually. A commenter on the NYT article writes:

Inside sources have the value of Citi’s $306 billion portfolio at closer to $230 billion. That means taxpayers are locked in for a transfer of wealth of (306-230) x 90% (Citi takes 10% haircut – $29 (Citi takes first $29bn) = $42.3 billion. Taxpayers because of the incestuous Goldman Sachs relationship between Paulson and Rubin have forked over $42.3bn!!! to Citi shareholders. This is highway robbery and should be investigated at the highest authorities and be ultimately rescinded.

See also: Time Magazine: Why Government Intervention Won’t Last

Citibank (or Citigroup Inc.) is in trouble. Over the last year, its stock price has dropped from above 30 dollars to less than 4 dollars (3.77 at the close of NYSE today). Its value has been in free fall the the whole week, despite attempts by the bank to shore up it stock prices by asserting its value. Times writes:

Citigroup was the world’s biggest bank until February, when it was overtaken by the Industrial and Commercial Bank of China. Citigroup is now only the fifth-biggest in America, after falling behind US Bancorp, a Midwestern commercial bank, this week. Bank of America is the largest bank in the United States.

By now, this kind of rapid decline in value is a story we have seen before. We saw it with Lehman Brothers. We’re seeing it with GM and Chrysler. And others. in fact, in quite a few other cases.

And now the question is: Should government bail out Citibank or let it slide? The proponents of a rescue operation say that Citibank it too big, one can not let it fall. And they point out that if Citibank goes, the banking system will fall. And we have heard all those arguments before. We have, in fact, heard them every time there is a government bailout. As well, we have heard them repeated over and over by lobbyists for all those industries allegedly needing a bailout. (Just so that it is said, I have nothing against Citigroup, nor do I own or have traded its stock. And the argument I am trying to make is more general and applied to a large number of corporations, and not only to Citibank.)

But does that make the statement true? I think not. First, there is a difference between a bank and a system of banks. Letting a bank fail (Citibank has a positive cash flow, so it may not fall, but that’s not the point here) may actually strengthen the system of banks, as the bankruptcy process will weed out the gold from the dirt and clean the system of debris. As well, three Detroit car manufacturers, unable to cope with competition and having lost marked shares for 20 years, do not constitute the car industry – not in the world, not in America.

All those attempts to equate individual members of industries with the industries themselves are seeking to establish false identities between entities that simply are not identical.

The real question, to my mind is: If this depression is as deep as or deeper than the crisis in 1929, does the American government – or any government for that matter – really have the resources it takes to bail out every business deemed to be strategically important over the duration of this crisis? I think not. Not if government is also to continue to attend to its (their) core business – to provide regulation, defense, social services, health care, and all those other businesses.

This, I think, is likely to be the right perspective in which to view government intervention at this stage. And, if I am right, shelling out huge sums on failing businesses may reduce the ability to act in the future, possibly for greater benefits and facing even tougher challenges. And maybe, just maybe, the crisis is as much a political crisis – involving politicians and regulators in panic, deepening the crisis with every move they make – as a financial and banking crisis.

American newspapers, most notably New York Times, have now started to wonder why American consumers aren’t spending. And in the financial sector, stock brokers and real estate agents seem to expect that it will happen next week or so, judging from the advise they are giving. That really doesn’t seem very likely at this point.

Why do American consumers spend less?

Well. The financial system in the US is still not completely shored up. AIG just reported a loss of 25 billion dollars for the third quarter and will be receiving a 150 billion aid package. Fannie Mae lost 29 billion dollars. Circuit City is going down. Airlines are in trouble. GM and the whole American car industry is in deep trouble.

As for the overseas markets, most indicators are down there as well. Every time the numbers are revised, they get worse. Right now, according to Wall Street Journal, they indicate a deep recession in Europe as well. IMF (see figure) now assumes that 2009 will be worse than 2008 for the world as a whole.  For 2009   IMF predicts a decline in GDP in the advanced economies of 0.3 percent. If this happens, it will be the first time during the periode following the Second World War.  For the US IMF predicts a decline of  0.8 percent, and for the Euro-area 0.7 percent for 2009. So there will be little pull from overseas markets for American businesses.

Now, add to this that the banking system isn’t working, loans are hard to get, unemployment is on the rise and millions of jobs are threatened.  Consumer confidence is at the lowest ever.

Also, factor in a negative wealth effect. The positive wealth effects, the effect of people getting richer on paper when housing prices were rising, were key to the growth the last 5-7 years. Now this operates exactly in the opposite direction, and serves to limit peoples spending up and above the effects of other factors.

So, what does it mean?

So how likely is it that consumers will start spending in the near future? Not very. Let’s assume for a moment that consumer spending will continue as today for a while.

Consumer spending is down 30 percent on cars, and 3 percent on the average across all sectors. Consumer spending appears likely to fall next year for the first time since 1980. Perhaps by the largest amount since 1942.

If it stays the way it has been for the last three months for a full year, that means demand for goods and services from consumers in America will be down about 1200 billions. And, spending is still dropping. As well, demand from businesses is dropping. And, as I wrote above, demand from abroad is falling as well. And right now, American businesses have just barely started to adjust to these new numbers and levels. And this adjustment will mean more lay offs and more negative earnings reports. That is simply how it works. And it is hard to see any “quick fixes” that can act as a miracle cure and lift us out of this situation in the short term. Rather, the adjustments will have to work their way through the system.

As far as American consumers are concerned, I notice people using words like “lacking trust” or “fear” as reasons for the decline in consumption. These words suggest that consumers are driven by psychological factors, emotions, beliefs and sentiments. Such words, I think, are the wrong ones in this case. Right now, I think American consumers act very rational – markets are turbulent, times are getting harder, uncertainty is high, so the rational response is to buckle down, sit still and wait for the fog to clear up.

So, for the moment, and for a while, it is just going down, I think. We are nowhere near the bottom. I don’t think we will see new growth for at least 18 months.

That’s what I think.

See also:

• Yahoo Finance: Home values drop for 7th straight quarter
• New York Times: Best Buy Lowers Its Outlook for 2009
• Washington Post: Why GM Stalled
• Washington Post: Obama Asks Bush to Back Rescue of Automakers
• New York Times: A Town Drowns in Debt as Home Values Plunge
• Wall Street Journal: Indicators Across Europe Point to Deeper Recession
• New York Times: Jobless Rate at 14-Year High After Big October Losses
• Times:First full-year slump since 1940s, says IMF

When Saul A. Kripke published his thought in Naming and Necessity everybody was either furious, or exhilarated, or thoroughly perplexed (see also The New Theory of Reference – Kripke, Marcus, and Its Origins (Synthese Library) ). Naming and Necessity laid out a new way of thinking about the relation between language and the world. Kripke proposed the theory of direct reference, where a name “rigidly designates” its referent. That is, a name is a “tag” attached to its referent, with no descriptive content. Kripke also proposed an alternative theory for how names are transmitted, the causal theory of names.

It is somewhat interesting to view the words (names or tags) that are used on the current international crisis from such a perspective. Doing that, is becomes remarkable how the names used to denote this beast have changed over time.

It started out as the US sub-prime mortgage crisis. Then as is spread, it became simply the mortgage crisis, as it was now international. Then the credit crisis and the credit crunch. Then that changed into the banking crisis, and to underscore the fact that it is indeed international, the international banking crisis. Then, as other types of international financial institutions, eg. AIG, started to feel its impact visibly, it became the financial crisis.

Now, the naming used implies it has become an even more general crisis, affecting even more sectors of the economy. Thus, now we call it the recession. Some have even started to use the word depression, and started to build connotations linking it phenomenologically to the great depression.

See also: New York Times (December 11, 2008): No Question We’re in a Financial Pickle. What Do We Call It?

It goes on and on – the financial crisis. Now Bank of England slashes interest rates to a 53-year low. The Independent writes:

Interest rates were today slashed to a 53-year low to fight off recession – but fears were growing that hard-pressed homeowners would fail to reap the benefit.

The shock 1.5 per cent cut by the Bank of England’s Monetary Policy Committee (MPC) is the biggest move since March 1981 and brings rates to 3 per cent – last seen in 1955.

Stock markets were stunned by the size of the cut and experts predicted rates could reach an all-time low of 1.5 per cent by mid-2009 as the Bank desperately bids to ward off a prolonged slump.

Also, the European Central Bank cut interest rates by 50 basis points today and signaled another reduction was possible later this year. In Germany the no. 2 bank has decided to tap into the government rescue plan, and the government will propose tax breaks on car purchases to stimulate spending!

The bottom still seems distant.

See also:

• New York Times: European Banks Reduce Rates, Some Sharply
• Guardian: Shock as Bank of England slashes rates to 3%
• New York Times: Bleak Reports Keep Markets in Free Fall
• Guardian: Wall Street and London shares plunge

The US believes itself to be a – or perhaps even the most – technologically advanced country in the world. This is a myth, blatantly false. Internet usage, Internet speed, mobile telephone use, Internet phone speeds, and so on, are all among the many areas where the US is increasingly lagging behind the most advanced countries in the world. So is banking and financial services.

I am astonished by the lack of efficiency and the poor customer service of American banks. Here are some real life stories that really shock me, from banks that are all among the top 5 US banks. Here are the cases:

1. Electronic transfer between two customers in the same bank

A friend transferred 1200 dollar to my account. In Scandinavia, the money would have been on my account instantly, as it is a within-bank transaction. Here the bank took 24 to take the money out of my friends’ account, then printed a check and mailed it to me. So, 3 days instead of instantaneously. And unnecessary paper and mail service and postage, all of which, I am sure, customers pay for.

2. Electronic transfer between banks

I paid for something using Paypal. And there wasn’t enough money in my Paypal account, so Paypal withdrew money from my banking account, as they should. However, it took 4 days for this to be processed by the bank. Again, I guess, a check. In Scandinavia this would have taken 1-4 hours, as it is an interbank transfer.

3. Deposit lost by the bank

A friend of mine deposited 800 dollars in her bank. She got a receipt. After a few days she noticed the money weren’t there. She calls the bank. They could not find the deposit, but would investigate. Six weeks 5 long calls, talking usually to two or more people each time, she finally gets the 800 into her account. Now she finds that in two separate cases the bank had given her overdraft fees of 35 dollars that she would not have gotten had the money been where they should. Again she calls. Two calls later the fees are dropped. During this ordeal, the bank never contacted her – she always had to initiate contact.

Now – how it is possible to lose a deposit? How is it possible to not honor a customer’s receipt immediately? Why didn’t be bank get back to her quickly and fix it all? Who made the mistake here – the bank or the customer? It is simply the worst customer service I have ever heard about!

These tales, and others, are so shocking that I wonder how US banks can get away with it? Are American banking customers totally undemanding? Or are they ignorant – don’t know how things are done outside the US and what they should rightfully demand from a modern bank? Do regulatory agencies and consumer organizations not care? Are American businesses unconcerned with banking efficiency? And especially about the banks – do they not care about efficiency? Do they not care about customer service?

It’s easy to fix! Send some guys on a plane to study how it’s done overseas. Buy the software. Do the changes. Get with it! You are lagging by at least a decade!

Or do you just not give a shit?

The international credit crisis is bad news, of course. And bad for a lot of people. Still, there are some amusing things taking place as well. Like the story about the HUGE bank robbery that took place on Monday in the US, in Washington DC. Quite possibly the biggest bank robbery ever!!

When I first read the story of exactly how the US injected 250 billion dollars into the biggest American banks, I was stunned. Then, when I reread the story I started to laugh. I found it hilarious! What a move by the government. From one perspective a much needed infusion of capital, yet from another a highway robbery!

So here is the story, simply to good not to be distributed, courtesy of The New York Times:

Drama Behind a $250 Billion Banking Deal

The chief executives of the nine largest banks in the United States trooped into a gilded conference room at the Treasury Department at 3 p.m. Monday. To their astonishment, they were each handed a one-page document that said they agreed to sell shares to the government, then Treasury Secretary Henry M. Paulson Jr. said they must sign it before they left.

The chairman of JPMorgan Chase, Jamie Dimon, was receptive, saying he thought the deal looked pretty good once he ran the numbers through his head. The chairman of Wells Fargo, Richard M. Kovacevich, protested strongly that, unlike his New York rivals, his bank was not in trouble because of investments in exotic mortgages, and did not need a bailout, according to people briefed on the meeting.

But by 6:30, all nine chief executives had signed — setting in motion the largest government intervention in the American banking system since the Depression and retreating from the rescue plan Mr. Paulson had fought so hard to get through Congress only two weeks earlier.

What happened during those three and a half hours is a story of high drama and brief conflict, followed by acquiescence by the bankers, who felt they had little choice but to go along with the Treasury plan to inject $250 billion of capital into thousands of banks — starting with theirs.

What a story! Has anything like this ever happened before? This must be the biggest tale in the modern history of banking!

Iceland, which is currently in an economic meltdown, will be getting  help from its Nordic neighbors. The Danish newspaper Politiken writes that:

Iceland’s Prime Minister has been in contact with his Nordic counterparts ‘for some time now’, according to Prime Minister Anders Fogh Rasmussen, and Nordic help may be on the way to the beleaguered Icelanders.
The prime minister’s comments came as the benchmark Icelandic index, which has been closed for business for some days, reopened and plummeted a full 76 percent. Trade in Iceland’s three largest banks, which have been taken over by the state, remain suspended.

Elsewhere in the paper, Politiken reports that Iceland will be receiving a borrowing facility for 500 mill. Euro from the Danish national bank. The Norwegian newspaper Dagbladet, on the other hand, reports that the loan is 400 mill Euro, and that the borrowers are Denmark and Norway, both with 200 mill.

See also:

• Times – Iceland secures €200m from Norway, Denmark
• New York Times – Iceland Turns to Neighbors to Prevent a Collapse