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

by David Stockman

  All of these hundreds of billions were pocketed by adept cronies and speculators in the various debt, equity and preferred securities of the GSEs during the decades culminating in the 2008 financial crisis. Given the trauma of those events, Secretary Paulson’s desperate and ill-disguised nationalization of Freddie and Fannie should have put an end to the plunder.

  But it hasn’t because there is no end to the zero-cost-of-goods carry trades by which speculators scoop up and fund financial assets—busted and not—during the Fed’s money-printing marathons. That’s what has been happening since the Fed went all-in on ZIRP and QE in 2009, and this play on the busted securities of Fannie and Freddie is a perfect example.

  Likewise, there is also no end to crony-capitalist marauders like Berkowitz, who have the temerity to demand make-wholes from the state. Nor is there any shortage of K Street hirelings—lawyers, accountants and consultants—who are skilled at the manufacture of specious public policy rationalizations for outright thievery.

  FIG LEAF OF RATIONALIZATION FOR RAIDING THE TAXPAYERS

  Yes, they had a fig leaf of rationalization for their raid on the Treasury. Berkowitz and his sharpies blathered that Freddie and Fannie have now returned $230 billion to the U.S. Treasury, thereby repaying the original $180 billion drawdown, with some change to spare.

  But what hay wagon do they think even the clueless officialdom of Washington rides upon?

  Roughly $50 billion of that was for writing up a “tax asset” that had earlier been written down eight years ago, owing to the fact that absent nationalization the GSEs had no prospect of booking even accounting income in the future.

  And the remaining $170 billion represents dividends paid to the Treasury since 2009 based on the accounting scam described above—that is, using Uncle Sam’s credit card to issue the bonds and guarantees that fund the assets from which these so-called GSE profits and dividends are scalped.

  Fortunately, a courageous U.S. district judge recently threw a monkey wrench into the works—at least on the judicial front. But the hedge funds are not done, and will now surely revive a legislative drive to accomplish their egregious plunder of America’s innocent and unaware taxpayers.

  During the peak of their campaign to fleece the nation’s taxpayers for the second time around, the leader of the hedge fund gang, Bruce Berkowitz, appeared on CNBC demanding that Washington exercise its “fiduciary responsibility” to distribute to him and his cronies billions in paper profits that have not been earned and are not owed.

  Indeed, so shameless are Wall Street’s princes of plunder that Berkowitz told a skeptical CNBC questioner that “we’ve helped before with AIG” and that he now merely sought a “win-win” to “help with jobs, help with the economy, help with the dream of homeownership”!

  In short, the purportedly well-mannered and knowledgeable politicians of the Beltway have sat on their hands for eight years while Wall Street bandits have been launching the blatant raid described above, and while Fannie’s management has been fixing to build and occupy the glass palace also shown above.

  Hopefully, someone will sack the Imperial City, mannered or not.

  Donald Trump might just be the one.

  CHAPTER 18

  Red Ponzi Ticking—China and the Dark Side of Bubble Finance

  DONALD TRUMP IS ABSOLUTELY CORRECT THAT CHINA IS A GREAT economic menace. But that’s not owing to incompetence at the State and Commerce Departments or the U.S. Trade Representative in cutting bad trade deals.

  Nor is it even primarily due to the fact that China egregiously manipulates its currency, massively subsidizes its exports, wantonly steals technology, chronically infringes patents and hacks proprietary business information like there is no tomorrow.

  If that were the extent of China’s sins, a new sheriff in the White House wielding a big stick and possessing a steely backbone—attributes loudly claimed by The Donald—might be able to reset the game. After hard-nosed negotiations, he might even obtain a more level and transparent playing field, thereby eventually reducing our current debilitating $500 billion import flow from China and retrieving at least some of the millions of jobs that have been offshored to the far side of the planet.

  But as we demonstrated in Chapter 5, the world fundamentally changed in the early 1990s when Mr. Deng and Chairman Greenspan jointly initiated the present era of Bubble Finance. The latter elected to inflate rather than deflate the domestic U.S. economy and to thereby export dollar liabilities in their trillions to the rest of the world.

  At the same time, having depreciated the yuan by 60%, Mr. Deng’s discovered that to keep China’s nascent export machine booming he needed to run the printing presses in the basement of the People’s Bank of China (PBOC) red hot, thereby sopping up the massive inflow of Greenspan’s dollars and keeping China’s exchange rate pegged to the greenback.

  In so doing, Beijing kept domestic wages and prices cheap and turned China into an export powerhouse by draining its vast rice paddies of history’s greatest warehouse of untapped industrial labor. In fact, in less than two decades it mobilized more new industrial workers than had existed in the United States, Europe and Japan combined at the time in the early 1990s when Mr. Deng proclaimed that it was glorious to be rich.

  Unfortunately, that wasn’t the half of it. Greenspan’s dollar profligacy was inherently contagious. By the 1990s, the governments of most of the developed world were run by statists and socialists who were loath to see their exchange rates soar in the face of Greenspan’s epic flood of surplus dollars.

  So rather than harvesting social gains from the cheap American exports Greenspan had on offer, the new European Central Bank and the Bank of Japan reciprocated with monetary expansion designed to keep their exchange rates down and protect domestic industries and labor.

  Old-fashioned economists were wont to call this a race to the currency bottom, and surely it was that. But what it really did was unleash a global tsunami of credit expansion and an economic race of another sort—namely, to today’s nearly universal malady of Peak Debt.

  As we documented earlier, the combined central banks of the world have expanded their balance sheets from $2 trillion to $21 trillion, or by 10X during the past two decades. In so doing they drove the price of credit and capital to the subterranean zones of economic history and rationality, but they did not abolish the laws of economics entirely.

  To wit, the more you subsidize an economic resource, the more of it you get. That’s what happened with credit and capital when China and its global supply chain ran their printing presses fast enough to keep up with the Fed and its developed-world counterparts.

  Accordingly, and as we documented previously, in less than two decades, public and private debt outstanding in the world rose sixfold—from $40 trillion to $225 trillion. On paper that represented a gain that was nearly 4X greater than the global GDP expansion during that period, but in fact it was far worse.

  That’s because as the global credit spree reached its apogee in recent years, malinvestment and wasteful, inefficient fixed-asset investment became rampant. In effect, the central banks of the world were enabling the “printing” of GDP that wasn’t wealth, wasn’t sustainable and wasn’t the fruit of genuine capitalist enterprise; it was only transient GDP ledger entries destined to become future year write-offs, losses and white elephants.

  The world’s central bank–driven credit binge had a dual impact. In the developed world and especially the United States it resulted in a vast inflation of household debt and leverage—or the equivalent of an internal leveraged buyout as we saw in Chapter 6. Accordingly, the aging households of the developed world were able to live beyond their means or level of current production and income for nearly two decades, boosting mightily the call on exports from China and its emergent supply chain from South Korea and Taiwan to the Persian Gulf and Brazil.

  At the same time, booming global trade and export demand in combination with red hot central bank printing presses in China a
nd the emerging markets engendered the greatest capital-expenditure (CapEx) boom in world history. Much of it occurred in China, but also in its satellite resource and mining colonies such as Australia and Brazil and in the global shipping and materials-processing industries, most especially energy.

  Needless to say, there is no possible scenario in which global CapEx could have grown from an already-elevated $1 trillion annual rate in the year 2000 to $3 trillion barely a decade later in a world of honest money and market-priced capital. Instead, the world’s central banks enabled what old-fashioned liberal economics a century ago called a crack-up boom.

  As is evident from the chart, rampant gains in global CapEx are now over and done, and a long era of falling investment and payback has begun. In the interim, however, there is relentless deflation—the natural consequence of massive excess capacity and the lapse into variable-cost pricing by firms desperately seeking cash flow to service their gargantuan debts.

  Needless to say, China was the epicenter of this global crack-up boom. Unrestrained by any traditions of sound money or even vestigial mechanisms of market discipline and financial controls, the Communist Party apparatchiks who inherited Mr. Mao’s epic mess let loose a credit-driven construction and investment mania like the world has never before seen.

  But as we document below, it amounted to a veritable Red Ponzi. That’s the real menace.

  If a prospective President Trump wants to shut it down, he need not appoint Carl Icahn as the nation’s chief trade negotiator or even bother with dumping the TPP or reforming the WTO (World Trade Organization). He only needs to tell the Fed to get its foot off the neck of U.S. savers and retirees and allow U.S. dollar interest rates to rise to market-clearing levels.

  That would also clear out the Red Ponzi in a New York minute, and start the world on the long path back to capitalist prosperity.

  SOMETHING ROTTEN IN THE STATE OF DENMARK

  But as of now, there is something really rotten in the state of Denmark. And we are not talking just about the hapless socialist utopia on the Jutland Peninsula—even if it does strip assets from homeless refugees, charge savers 75 basis points for the deposit privilege and allocate nearly 60% of its GDP to the welfare state and its untoward ministrations.

  In fact, the rot is planetary owing to the crack-up boom described above. At this late stage of the great credit deformation there is unaccountable, implausible, wacko-world stuff going on everywhere, but the frightful part is that most of it goes unremarked or is viewed as par for the course by the mainstream narrative.

  The topic at hand, therefore, is the looming implosion of China’s Red Ponzi, and, more specifically, the preposterous Wall Street and Washington presumption that it’s just another really big economy that overdid the “growth” thing and is now looking to Beijing’s firm hand to effect a smooth transition. That is, an orderly migration from a manufacturing, export and fixed-investment boom land to a pleasant new regime of shopping, motoring and mass consumption.

  Would that it could. But China is not a $10 trillion growth miracle with transition challenges; it is a quasi-totalitarian nation gone mad digging, building, borrowing, spending and speculating in a magnitude that has no historical parallel.

  In so doing, It has fashioned itself into an incendiary volcano of unpayable debt and wasteful, crazy-ass overinvestment in everything. It cannot be slowed, stabilized or transitioned by edicts and new plans from the comrades in Beijing. It is the greatest economic train wreck in human history barreling toward a bridgeless chasm.

  And that proposition makes all the difference in the world. If China goes down hard the global economy cannot avoid a thundering financial and macroeconomic dislocation—and not just because China accounts for 17% of the world’s $80 trillion of GDP or because it has been the planet’s growth engine most of this century.

  In fact, China is the rotten epicenter of the world’s two-decade-long plunge into an immense central bank–fostered monetary fraud and credit explosion that has deformed and destabilized the very warp and woof of the global economy.

  But in China the financial madness has gone to a unfathomable extreme because in the early 1990s a desperate oligarchy of despots who ruled with machine guns discovered a better means to stay in power: that is, the printing press in the basement of the PBOC—and just in the nick of time (for them).

  Print they did. As indicated above, they bought in dollars, euros and other currencies hand over fist in order to peg their own money and lubricate Mr. Deng’s export factories.

  In so doing, the PBOC expanded its balance sheet from $40 billion to $4 trillion during the course of a mere two decades. That’s a 100X gain. There is nothing like that in the history of central banking—nor even in economists’ most febrile imaginings about its possibilities.

  The PBOC’s red-hot printing press, in turn, emitted high-powered credit fuel. In the mid-1990s China had about $500 billion of public and private credit outstanding—hardly 1X its rickety GDP. Today that number is $30 trillion or even more, and 3X the size of its vastly inflated GDP accounts.

  Yet nothing in this economic world, or the next, can grow at 60X in only 20 years and live to tell about it—and most especially not that treacherous economic commodity called debt. And even more especially, not in a system built on a tissue of top-down edicts, illusions, lies and impossibilities, and which sports not even a semblance of financial discipline, political accountability or free public speech.

  THE RED PONZI—A WITCH’S BREW OF KEYNES AND LENIN

  In short, China is a witch’s brew of Keynes and Lenin. It’s the financial tempest that will slam the world’s great bloated edifice of central bank–fostered faux prosperity.

  So the right approach to the horrible danger at hand is not to dissect the pronouncements of Beijing in the manner of the old Kremlinologists. The occupants of the Kremlin were destined to fail in the long run, but they at least knew what they were doing tactically in the here and now. So it was worth the time to parse their word clouds and seating arrangements at state parades.

  By contrast, and not to mix a metaphor, the Red suzerains of Beijing have built a Potemkin village economy. But they actually believe it’s legitimate because they do not have even a passing acquaintanceship with the requisites and routines of a real capitalist economy.

  Ever since the aging oligarchs who run China were delivered from Mao’s hideous dystopia by Mr. Deng’s chance discovery of printing press prosperity, they have lived in an ever-expanding bubble that is so economically unreal that it would make “The Truman Show” envious. Any rulers with even a modicum of economic literacy would have recognized long ago that the Chinese economy is booby-trapped everywhere with waste, excess and unsustainability.

  Here is but one example. Somewhere near Shanghai, credit-crazed developers built a replica of the Pentagon on 100 acres of land. This was not intended as a build-to-lease deal with the People’s Liberation Army. It’s a shopping mall that apparently has no tenants and no customers!

  One of the more accurate things I have ever said is that the United States’ Pentagon was built on a swampland of waste. That is, I do take my antistatist viewpoint seriously and therefore firmly believe that the warfare state is every bit as prone to mission creep and the prodigious waste of societal resources as is the welfare state and the bailout-breeding backrooms of Washington.

  But America’s Pentagon at least has a public purpose and would return some benefit to society were its mission to be shrunk to honestly defend the homeland. By contrast, China’s “Pentagon” gives waste an altogether-new definition.

  Projects like the above—and China is crawling with them—are a screaming marker of an economic doomsday machine. They bespeak an inherently unsustainable and unstable simulacrum of capitalism where the purpose of credit is to fund state-mandated GDP quotas, not finance efficient investments with calculable risks and returns.

  Accordingly, the outward forms of capitalism are belied by the substance of stati
st control and central planning. For example, there is no legitimate banking system in China—just giant state bureaus posing as super-banks that are effectively run by party operatives.

  Their modus operandi amounts to parceling out quotas for national GDP and credit growth from the top, and then water falling them down a vast chain of command to the counties, townships and villages below.

  There have never been any legitimate financial prices in China. All interest rates and foreign exchange (FX) rates have been pegged and regulated to the decimal point; nor has there ever been any honest financial accounting either—bank loans have been perpetual options to extend and pretend.

  And needless to say, there is no system of financial discipline based on contract law. China’s GDP has grown by $10 trillion dollars during this century alone—that is, there has been a boom across the land that makes the California gold rush appear pastoral by comparison.

  Yet in all that frenzied prospecting there have allegedly been almost no mistakes, busted camps, empty pans or even personal bankruptcies. When something has occasionally gone wrong with an “investment,” the prospectors have gathered in noisy crowds on the streets and pounded their pans for relief—a courtesy that the regime has invariably granted.

  Indeed, the Red Ponzi makes Wall Street look like an ethical-improvement society. Developers there built an entire $50 billion replica of Manhattan Island near the port city of Tianjin—complete with its own Rockefeller Center and Twin Towers.

  But the developers of this marvel neglected to tell their lenders and investors that no one lives there. Not even bankers!