Haircut time for bondholders

Linked with Mike Whitney- USA (the American writer), and with Eastern Europe is about to Blow.

Published on Online Journal, by Mike Whitney, March 13, 2009.

When George Soros recently said that the financial system had “effectively disintegrated,” it caused quite a flap. But Soros was not exaggerating. The financial system has disintegrated …

take a look at this chart: …

… “Nothing remotely comparable has ever happened before – not even in the Great Depression of the 1930s.

“This is a body blow to an already staggering U.S. economy. U.S. exports in the fourth quarter of last year fell by more than 25 percent in constant dollars. California is being hit especially hard: outbound container traffic from the Ports of Long Beach and Los Angeles was down 30 percent in December 2008 from a year earlier.

“It’s not surprising that when global growth slows, trade growth slows. But this trade implosion is unprecedented even for a major recession. (Barry Eichengreen San Francisco Chronicle: “We must keep Trade from falling off a cliff”).

Trade credit has dried up and reversed capital flows; another casualty of the credit market crackup. Globalization has returned to the realm of (corporate) wishful thinking; look for it in the “fiction” section of the library. No sandal-clad, fist-waving anarchist put the torch to global trade (regrettably) it was crushed by a poorly-designed financial system that split into matchwood at the first strong breeze. So, how in the world are Bernanke and Geithner going to recapitalize the banks and “keep them in private hands” in the most hostile economic environment in memory?

The only hope is to do the unthinkable: dispatch the FDIC storm troopers to the teetering banks on Friday night and shut down the biggest offenders pronto. Don’t wait another minute. The real reason Geithner is stalling is because he’s afraid that foreign bondholders will cut him off at the knees and stop purchasing US debt. That’s a threat that has to be taken seriously, but it shouldn’t stop him from doing his job.

John Hussman explains it all in his weekly comment “Buckle Up”: “The misguided policy response from Washington has focused almost exclusively on squandering public money and burdening our children with indebtedness in order to defend the bondholders of mismanaged financial institutions …

“Make no mistake. Buying up ‘troubled assets’ will not materially ease this crisis, nor will it even improve the capital position of financial institutions. Homeowners will continue to default because their payment obligations have not been restructured to any meaningful extent. We are simply protecting the bondholders of mismanaged financial institutions, even though that bondholder capital is more than sufficient to cover the losses without harm to customers. Institutions that cannot survive without continual provision of public funds should be taken into receivership, their assets should be restructured to better ensure repayment, their stockholders should be wiped out, bondholders should take a major haircut, customer assets should (and will) be fully protected, and these institutions should be re-issued to the markets when the economy stabilizes.” (John P. Hussman Ph.D., Hussman Funds, Buckle Up.)

Bondholders own everything and they shouldn’t be trifled with. They represent foreign banks, governments, sovereign wealth funds, and industry giants. They can afford the losses better than the taxpayer, but they won’t be happy about it. There’s bound to be retaliation and gnashing of teeth. It will require a carefully executed strategy to avoid a bloodbath, a surprise incision with a razor-sharp scalpel followed by an Obama-led public relations campaign to placate the enraged bondholders. It won’t be easy, but it has to be done, and fast. Unfortunately, we are nowhere near the point where anyone at Treasury or the Fed will set aside the corporate agenda long enough to do the people’s work. That’s why Geithner will have to go. Bernanke, too. (full long text).

(Mike Whitney lives in Washington state. He can be reached by e-mail).

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