Trumped! A Nation on the Brink of Ruin... And How to Bring It Back

by David Stockman

  The next graph, therefore, has nothing to do with a “savings glut.” Had China’s currency been linked to gold in 1994, the dollar’s exchange rate against the renminbi would have collapsed long ago. America’s ability to live beyond its means for decades by swapping Treasury debt for Chinese exports would have been stopped dead in its tracks.

  At the end of the day, central banker palaver about the world’s alleged “savings glut” refers to nothing more than the inherent accounting identity in world trade. Mercantilist policy makers that choose to swap the sweat of their workers’ brows (China and East Asia) and the bounty of nature buried in their energy and mineral resources (the petro-states) for paper IOUs end up with current-account surpluses; the net issuers of these paper debts accumulate the net deficits.

  It has nothing whatsoever to do with too much savings from real incomes. It’s a consequence of the rampant money printing that has saddled the world economy with $225 trillion of unrepayable debt and massive excess production capacity that will result in deflationary pressures and low growth for years to come.

  Indeed, the world’s 200 central bankers have wandered so deep into the rabbit hole of monetary crankery that they no longer even know the difference between honest savings from household incomes, business profits and government surpluses and fiat credits generated ex nihilo by central banks and the financial institutions that they enable.

  Accordingly, the global economy has been saddled with a historically aberrational run of malinvestments and surplus capital expenditure (CapEx) that at length has now triggered a sweeping global deflation and collapse of profits in the primary industries and capital goods.

  Stated differently, lunatic levels of CapEx in China and its supply-chain satellites during the last two decades were not a function of workers’ coming out of the rice paddies in their hundreds of millions and saving too much from the 60 cents per hour they were paid in wages. Instead, the economic insanity displayed in the following chart is on central bankers and their foolish $20 trillion emission of fiat credit over this period.

  And that gets us to the endgame mendacity of Bernanke, Yellen and most especially Draghi. The blithering fool Draghi answered the valid German complaints about his savage war on European savers with this gem:

  “there is simply not enough demand for capital elsewhere in the world to absorb that excess saving without declining returns,” Mr. Draghi said . . . In such an environment, low central bank interest rates were not the enemy, but exactly what was needed to boost demand for investment. “If central banks did not do this, investing would be unattractive,” Mr. Draghi said. “So the economy would stay in recession.”

  What absolute tommyrot!

  If there is “not enough demand for capital,” then why did the European Central Bank find it necessary to finance the Eurozone governments’ borrowing needs through the backdoor or QE? By scarfing up $1 trillion of government and business debt during the last 14 months it was actually supplanting private demand for investment securities.

  But then again, the European Central Bank’s purpose all along was to suppress yields and the cost of borrowing in pursuit of the hoary Keynesian theory that the debt-saturated Eurozone can borrow its way to prosperity. That is, by punishing savers and rewarding debtors through falsification of interest rates, Draghi claims central banks can magically generate growth and wealth.

  As The Donald might say, not a chance!

  In fact, the world is likely to face a CapEx depression during the years ahead owing to the massive overhang of excess capacity that has resulted from the cheap-credit boom of the last two decades.

  But that baleful condition was caused by central bankers and is baked into the cake of the global economy. It means that no imaginable amount of additional zero-cost credit will generate productive investments in the face of that profit-killing overhang.

  So the Big Lie about the “savings glut” is especially heinous. Central bankers are using it as a pretext to brutally punish savers for the consequences of their own epic errors.

  CHAPTER 17

  Fannie Mae’s Swell New Palace—Why the Imperial City Must Be Sacked

  TO HEAR THE ESTABLISHMENT MEDIA TELL IT, YOU WOULD THINK THAT Attila the Hun was fixing to sack the Imperial City. Would that Donald Trump were that bold or dangerous.

  Then again, he is a showman of no mean talents. So if there is a ma-quette of Fannie Mae’s planned new $770 million headquarters somewhere around Washington, D.C., he could start the sacking right there. Hopefully, he would not hesitate to shatter it with a fusillade of tweets—or even take a jackhammer to it while wearing a Trump hard hat.

  Fannie Mae is surely a monument to crony-capitalist corruption, and living proof that massive state intervention in credit markets is a recipe for disaster. But rather than shut it down after it helped bring the nation’s financial system to the edge of ruin, the Beltway pols have come up with an altogether-different idea.

  To wit, they plan to move Fannie from her already-luxurious Northwest Washington headquarters to this hideous new glass palace to be built in the heart of Washington, D.C. Could there be a bigger insult than this to the 15 million families who lost their homes to foreclosure owing to the crash of the giant housing bubble that Fannie Mae and the crony-capitalist crooks who ran it helped perpetuate?

  And that’s to say nothing of the $180 billion of taxpayer money that was pumped into Fannie Mae and the other government-sponsored enterprises (GSEs) after the house of cards came tumbling down in August 2008. In fact, while the politicians on Capitol Hill have dawdled for eight years without any statutory changes or mandates for even minor reforms, Fannie Mae’s management and its phalanx of K Street lobbies showed exactly who rules in the Imperial City.

  It is the larcenous rule of these syndicates of Beltway racketeers, in fact, that has put Donald Trump’s name on the presidential ballot.

  So let it be granted that his manners and policy knowledge often appear to be on the meager side. Yet it is malodorous tales like that of Fannie Mae’s swank new palace and the crony-capitalist history of plunder behind it that demonstrate why a disrupter on horseback is exactly what the Imperial City deserves.

  FREDDIE AND FANNIE—CRONY-CAPITALIST FRAUDS FROM THE BEGINNING

  In truth, the government housing-guarantee programs at Fannie Mae and Freddie Mac have been an abomination from the very beginning.

  Not only did they inappropriately subsidize home mortgages by upward of $60 billion annually—most of which went to affluent middle class households not entitled to taxpayer help in the first place—but they were also based on the kind of Washington artifice upon which today’s rampant crony capitalism thrives.

  Namely, the specious claim is that the GSEs are unique, creative “public-private partnerships” that enable a “secondary market” for home mortgages, and thereby remedy the alleged failure of the free market to provide cheap 30-year housing loans to the public.

  In fact, the so-called secondary market for mortgages was no such thing. Freddie and Fannie have always been a de facto branch office of the U.S. Treasury, and their securities have been just another variant of Treasury bonds. That finally became official when the U.S. Treasury threw them a $180 billion lifeline on the eve of the 2008 financial crisis.

  The reason that became necessary, of course, is that the GSEs had been minting fabulous book profits over several decades by drastically under-reserving for losses, confident that Uncle Sam would bail them out if a crisis ever came.

  In fact, when the mortgage meltdown did come, Freddie and Fannie had virtually no accumulated reserves and capital and would have exposed investors to tens of billions of losses.

  Needless to say, the implicit “call” on the U.S. Treasury that had always been embedded in the below-market rates on Freddie/Fannie paper was instantly exercised by Wall Street’s then plenipotentiary in Washington, former Goldman CEO and U.S. Treasury Secretary Hank Paulson.

  To be sure, the proper course would ha
ve been to force investors ranging from the sovereign wealth fund of China to Norwegian fishing villages and Wall Street hedge funds to take their lumps for not reading the indentures, which contained no U.S. legal guarantee. And the next order of business would have been to prosecute Freddie and Fannie and their executives for blatant and monumental accounting fraud.

  But the accounting fraud was never even acknowledged, let alone prosecuted, owing to the Beltway fiction that the GSEs are “off-budget” public-private partnerships.

  This convenient scam was first invented by Lyndon Johnson to magically shrink his “guns and butter” fiscal deficits. But since then it has metastasized into a giant business fairy tale—namely, that behind the imposing brick façade of Fannie Mae’s soon-to-be-superseded headquarters, there is a real company generating value-added services that are the source of its reported profits.

  In fact, there is nothing behind those walls except a stamping machine that embosses the signature of the American taxpayer on every billion-dollar package of securitized mortgages it guarantees and on all the bonds it issues to fund a giant portfolio of mortgages and securities from which it strips the interest.

  That’s right. It is the unwitting taxpayers of Flyover America who underwrite Fannie’s balance sheet and enable the racketeers who run it and feed off its massive money-shuffling operations to live high on the hog.

  Here’s how the scam works. Fannie and Freddie typically book upward of 90% gross profit margins owing to the fact that they have essentially no cost of production beyond the trivial expenses of their automated underwriting systems and highly computerized back-office operations. Their true cost of goods would be the large accounting charges for future losses that would be required were they not wholly guaranteed by the U.S. Treasury.

  Indeed, the pointlessness of their faux financial statements can be easily demonstrated by the countrafactual. That is, if we wanted to have honest socialist mortgage finance, a handful of GS-14-level civil servants could run Freddie and Fannie out of a small corner of the U.S. Treasury building.

  Civil servants could emboss the taxpayers’ guarantee on every family’s home mortgage just as proficiently as the make-believe business executives who populate Fannie Mae and the other GSEs today; and in the process we could dispense with the sheer waste involved in applying GAAP accounting to the operations of a mere government bureau.

  THE POST-CRISIS HEDGE FUND SCAM

  We laid this out more fully in The Great Deformation: The Corruption of Capitalism in America. Yet the mythology about Fannie and Freddie is virtually immune to these obvious truths. Indeed, the Beltway discourse has been so corrupted that a whole new crony-capitalist scam has been launched by speculators who bought up their worthless securities after the 2008 collapse and subsequent bailout.

  What happened was that a passel of hucksters led by hedge fund operatives Bruce Berkowitz, Bill Ackman, Perry Capital and others attempted to pilfer upward of $40 billion from U.S. taxpayers via a raid on Fannie Mae’s busted preferred stock.

  These were the securities issued at $25 per share to shore up the tottering housing-finance agencies just before Hank Paulson’s “bazooka” sputtered in August 2008.

  Not inappropriately, when the Republican White House nationalized Freddie and Fannie shortly thereafter these preferred shares plunged to 25 cents—their true value all along.

  Like in so many other cases during the post-crisis aftermath, however, these hedge funds scooped up the worthless Fannie stock at pennies on the dollar, expecting it to soar as the Fed’s tsunami of liquidity rekindled speculative appetites and its free carry-trade financing buoyed the markets for risk assets.

  In this particular case, the potential jackpot was to be powerfully augmented by an expected legislative or judicial ruling that owners of these beaten-down equities were entitled to their pro rata share of the surging but entirely phony accounting “profits” of Fannie and Freddie.

  So three years ago came the patented crony-capitalist rush. At the peak of the speculation in early 2014, the equity shares of Freddie and Fannie had risen from 10 cents to $6, and the preferreds had erupted from $0.25 per share to $12, meaning that some speculators had garnered paper returns of 4,500–6,000%!

  And why did this revival miracle transpire?

  Quite simply because Berkowitz’s Fairholme Capital and his posse of punters had taken turns bidding up the paper, and then laying the legal and political groundwork for overturning the Obama Administration’s correct decision to ensure that these bogus securities should remain worthless.

  Indeed, in short order Berkowitz and company were in full-on Washington-lobby mode, pounding the table for a bailout of the remnants of the last bailout!

  To its credit, the Obama Administration had previously recognized that absent Uncle Sam’s bailout of the roughly $6 trillion of Freddie/Fannie mortgage guarantees and debentures, the junior-equity securities in their capital structures (preferred and common stock) would have been worthless.

  In fact, at the time the GSEs were essentially nationalized by the Bush Administration in September 2008, the thin layer of equity represented by these shares had been leveraged at approximately 100X. They would have been obliterated in a proper bankruptcy.

  Accordingly, the Obama folks had simply decided to treat the remnants of Freddie/Fannie as a wholly owned government investment fund, and sweep back to the U.S. Treasury 100% of the phony “book profits” posted each quarter.

  To be sure, the White House wasn’t so righteous, either. After all, the Freddie/Fannie profits sweep to the U.S. Treasury itself amounted to an off-budget accounting scam.

  What happened is that the U.S. Treasury rented its credit card to Fannie and Freddie for a pittance and then booked the resulting “profits” as government revenue. That is only a tiny step removed from issuing Treasury bonds, and then booking the proceeds minus a modest service charge as income!

  Needless to say, the Treasury Department did not enter any offsetting debit for the risk being incurred down the road when the next mortgage crisis inexorably comes. Consequently, this classic Beltway budgetary scam has permitted the Obama Administration to book more than $200 billion of phony deficit reductions since 2009—even as it has attempted to fight off the hedge fund raiders who wanted the loot for their own accounts.

  The whole thing stunk to high heaven, but it did not slow down the crony-capitalist hucksters by one whit. During the peak of their lobbying campaign, they even postured themselves as the benefactor of America’s middle class homeowners.

  “There is no viable alternative,” to Fannie Mae and Freddie Mac, Ackman said today in a Bloomberg Television interview with Stephanie Ruhle after the Sohn presentation. “Preserving the 30-year prepayable fixed-rate mortgage—it’s like the bedrock of the housing system—is critical. We think the only way to do it is by preserving Fannie and Freddie . . . Ackman said mortgage rates would jump without the government-sponsored enterprises.

  Oh, c’mon!

  If evidence was ever needed that massive statist interventions like Washington’s subventions for homeownership end up generating random income distributions and windfalls to the politically mobilized, the recent hedge fund campaign to “rescue” Fannie and Freddie is surely it.

  WHY FREDDIE AND FANNIE ARE NOT NEEDED

  In an alternative political universe not corrupted by crony-capitalist mythology about the elixir of homeownership, of course, there would be no need for a Treasury Bureau of Home Mortgage Finance. The decision to own or rent would be made by 115 million American households based on their best lights, not the inducements and favors of the state.

  Markets would clear the interest price of mortgage debt and set credit terms and maturities consistent with the risks involved. Undoubtedly, rates would be a few hundred basis points higher and 30-year fixed-rate mortgages quite rare.

  Likewise, homeownership rates might end up far different than the 69% level reached during the heyday of the mortgage boom or even th
e current postcrisis level of 63%. In fact, in the prosperous land of Germany homeownership currently stands at just 53%, and in the equally affluent precincts of Hong Kong and Switzerland it is 51% and 44%, respectively.

  So what? The true wealth and prosperity of society is not a function of the homeownership rate, and especially not one selected by pandering politicians of the type who pinned the disastrous 70% ownership goal on the wall during the Clinton-Bush era.

  At the end of the day, having 40 million renter households and 25 million mortgage-free owner households provide (in their capacity as taxpayers) trillions of subsidized credit to upward of 50 million mortgage-encumbered households is unfair and arbitrary in the extreme.

  To be sure, this perverse arrangement could be dismissed as just another expression of the capricious and random shuffling of income among American citizens that is the tradecraft of the Washington puzzle palace.

  Unfortunately, as underscored by this latest attempted hedge fund raid on the Treasury, the reality is not so anodyne. In order to hide this random-redistribution mischief, what amounts to the Treasury Bureau of Home Mortgage Finance has been gussied up to form the simulacrum of a profit-making enterprise.

  In that posture, the GSEs have been repeatedly plundered by insiders like Franklin Rains, the $90 million CEO who drove Fannie off the cliff.

  Likewise, fast-money stock speculators during the halcyon days at the turn of the century piled into the stock of both companies, driving the combined market cap of Freddie and Fannie to the lunatic level of $140 billion.

  These punters took their profits and ran, of course, long before the stocks went to zero. In a similar manner, Wall Street dealers and so-called fund managers milked tens of billions from the spread on GSE securities. That is, they inventoried billions of GSE securities, and then essentially scalped profits from the economically pointless spread between regular Treasury bond yields and the slightly higher GSE variant of the same thing.