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What President Obama Ought To Say In His State Of The Union Address

By L. Randall Wray

President Obama: Over the past year it has become amply clear that targeting most of the Federal Government’s assistance toward Wall Street rather than Main Street has done nothing to help pull our economy out of the deepest downturn since the Great Depression. I have become convinced that the single most important thing Washington can do to help America is to create jobs–and to create them on an unprecedented scale. I am talking about millions of jobs, maybe tens of millions.

So here is what I propose to do. I am directing my administration to come up with a plan that will guarantee a decent job at decent pay for any American who wants to work–regardless of race, regardless of gender, regardless of education or training, and regardless of previous work experience. I want these to be productive jobs–jobs that will enhance the well-being of everyone in our country. Among the areas that ought to be targeted I would include education, care for our aging population, cleaning up our environment and retrofitting buildings to make them energy efficient, and repairing and improving our nation’s infrastructure.

It is time that we take seriously the United Nation’s Universal Declaration of Human Rights, which guarantees the right to a job–which was actually one of the key components of the Second Bill of Rights proposed by my predecessor, Franklin Roosevelt more than 65 years ago. I am ashamed that our nation has not lived up to its commitment to human rights, and I aim to change that.

This program will be permanent, and it will ensure that from this day forward, the United States economy will operate with true, full employment. We will look to the New Deal job creation programs for inspiration, but we will go further because we will end forever the horror of involuntary unemployment. Eliminating the scourge of unemployment is good politics, it is good social policy, and it is good economics.

Now, I am not an expert in esoteric economic theories that are common in the ivory towers of some universities. But I can tell what is nonsense. And any economist who tells you that it makes sense to keep tens of millions of people unemployed is spouting nonsense.

Our nation faces many challenges, today and in the years to come. But we can solve these by working together–and it will take all of us, working, together, to meet those challenges. The truth is that we can no longer afford to keep people out of work. The job is too big. So I ask my administration, and I ask you, the American people, to put our minds together to create those jobs and I will commit the Federal Government budget to provision of decent wages for all of those who want to fill them.

Thank you.

“Giving up on the Fed”

By Warren Mosler

We’re getting closer to the point discussed a few weeks ago about markets giving up on the Fed.

At the time the 10 year was maybe 3.75-3.80, gold had gone about 1,200, the dollar was near the lows, crude was back over 80, stocks were up, all based on the belief the Fed had the power to ‘reflate’ and was ‘printing money’ through trillions of ‘quantitative easing’ which was, sooner or later, hyper inflationary, along with 0 interest rates and ‘record deficits’ which would drive up interest rates, risk default and a sudden breakdown of the $US, all contributing to the same inflationary collapse.

Now that the bets have been placed, and none of that is happening, it’s all starting to erode. Crude is back below 75 (the Saudis’ actual target/range?), gold is selling off, the dollar is edging higher, the 10 year just traded at 3.57, stocks are selling off, etc.

The next step is for first markets and then policy makers to realize the Fed has no tools to inflate. That 0 rates and qe don’t cut it. Nor are deficits large enough to reflate. Bernanke was asked by Time magazine late last year if he had any tools left. He said yes. When asked what they were, he had no specific answer. Well, if he does have more tools, with 10% unemployment and weak prices and a dual mandate for full employment and price stability, what’s he waiting for?

Should market psychology turn to the notion that the Fed has no tools to inflate, and we have a Congress dead set against larger deficits, it can all get very ugly very quickly in the race to the exit from the inflation plays (including steepeners) currently on the books.

State of the Union Rhetoric, 2010: Part II Euphemisms, oxymorons and internal contradictions

Euphemisms, oxymorons and internal contradictions
By Michael Hudson

The State of the Union address is in danger of purveying the usual euphemisms. I expect Mr. Obama to brag that he has overseen a recovery. But can there be any such thing as a jobless recovery? What has recovered are stock market averages and Wall Street bonuses, not disposable personal income or discretionary spending after paying debt service.

There is a dream that what can be “recovered” is something so idyllic as to be mythical: a Bubble Economy enabling people to make money without actually working, by borrowing and riding the tide of asset-price inflation to make capital gains. Corporate Democrat Harold Ford Jr. writes nostalgically that Bill Clinton’s eight years in office created 22 million jobs, “balanced the budget and left his successor with a surplus. This can be done again,” if only Mr. Obama moves further to the right (which Mr. Ford calls the center, meaning the Bayhs and Republicans).

Well, no it can’t be done again. Pres. Clinton’s administration balanced the budget by “welfare reform” to cut back public spending. This would be lethal today. Meanwhile, his explosion of bank credit and the dot.com boom (rising stock prices and bonuses without any earnings) fueled the early stages of the Greenspan bubble. It was a debt-leveraged illusion. Instead of the government running budget deficits to expand domestic demand, Mr. Clinton left it to banks to extend interest-bearing credit – debt pollution that we are still struggling to clean up.

The danger is that when Mr. Obama speaks of “stabilizing the economy,” he means trying to sustain the rise in compound interest and debt. This mathematical financial dynamic is autonomous from the “real” industrial economy, overwhelming it economically. That is what makes the present economic road to debt peonage so self-defeating.

Debts that can’t be paid, won’t be. So defaults are rising. The question that Mr. Obama should be addressing is how to deal with the excess of debt above the ability to pay – and of negative equity for the one-quarter of U.S. real estate that has a higher mortgage debt than the market price is worth. If the hope is still to “borrow our way out of debt” by getting the banks to start lending again, then listeners on Wednesday will know that Mr. Obama’s second year in office will be worse for the economy than his first.

How realistic is it to expect the speech to make clear that “we can’t go home again”? Mr. Obama promised change. “We simply cannot return to business as usual,” he said on Jan. 21, introducing the “Volcker plan.” But how can there be meaningful structural change if the plan is to return to an idealized dynamic that enriched Wall Street but not the rest of the economy?

The word “recession” implies that economic trends will return to normal almost naturally

Any dream of “recovery” in today’s debt-leveraged economy is a false hope. Yet high financial circles expect Mr. Obama to insist that the economy cannot recover without first reimbursing and enriching Wall Street. To re-inflate asset prices, Mr. Obama’s team looks to Japan’s post-1990 model. A compliant Federal Reserve is to flood the credit markets to lower interest rates to revive bank lending –interest-bearing debt borrowed to buy real estate already in place (and stocks and bonds already issued), enabling banks to work out of their negative equity position by inflating asset prices relative to wages.

The promise is that re-inflating prices will help the “real” economy. But what will “recover” is the rising trend of consumer and homeowner debt responsible for stifling the economy with debt deflation in the first place. This end-result of the Clinton-Bush bubble economy is still being applauded as a model for recovery.

We are not really emerging from a “recession.” The word means literally a falling below a trend line. The economy cannot “recover” its past exponential growth, because it was not really normal. GDP is rising mainly for the FIRE sector – finance, insurance and real estate – not the “real economy.” Financial and corporate managers are paying themselves more for their success in paying their employees less.
This is the antithesis of recovery for Main Street. That is what makes the FIRE sector so self-destructive, and what has ended America’s great post-1945 upswing.

There are two economies – and the extractive FIRE sector dominates the “real” economy

When listening to the State of the Union speech, one should ask just which economy Mr. Obama means when he talks about recovery. Most wage earners and taxpayers will think of the “real” economy of production and consumption. But Mr. Obama believes that this “Economy #1” is dependent on that of Wall Street. His major campaign contributors and “wealth creators” in the FIRE sector – Economy #2, wrapped around the “real” Economy #1.

Economy #2 is the “balance sheet” economy of property and debt. The wealthiest 10% lend out their savings to become debts owed by the bottom 90%. A rising share of gains are made in extractive ways, by charging rent and interest, by financial speculation (“capital gains”), and by shifting taxes off itself onto the “real” Economy #1.

John Edwards talked about “the two economies,” but never explained what he meant operationally. Back in the 1960s when Michael Harrington wrote The Other America, the term meant affluent vs. poor America. For 19th-century novelists such as Charles Dickens and Benjamin Disraeli, it referred to property owners vs. renters. Today, it is finance vs. debtors. Any discussion of economic polarization betweens rich and poor must focus on the deepening indebtedness of most families, companies, real estate, cities and states to an emerging financial oligarchy.

Financial oligarchy is antithetical to democracy. That is what the political fight in Washington is all about today. The Corporate Democrats are trying to get democratically elected to bring about oligarchy. I hope that this is a political oxymoron, but I worry about how many people but into the idea that “wealth creation” requires debt creation. While wealth gushes upward through the Wall Street financial siphon, trickle-down economic ideology to fuel a Bubble Economy via debt-leveraged asset-price inflation.

The role of public spending – and hence budget deficits – no longer means taxing citizens to spend on improving their well-being within Economy #1. Since the 2008 financial meltdown the enormous rise in national debt has resulted from reimbursing Wall Street for its bad gambles on derivatives, collateralized debt obligations and credit default swaps that had little to do with the “real” economy. They could have been wiped out without bringing down the economy. That was an idle threat. A.I.G.’s swap insurance department could have collapsed (it was largely in London anyway) while keeping its normal insurance activities unscathed. But the government paid off the financial sector’s bad speculative debts by taking them onto the public balance sheet.

The economy is best viewed as the FIRE sector wrapped around the production and consumption core, extracting financial and rent charges that are not technologically or economically necessary costs.
Say’s Law of markets, taught to every economics student, states that workers and their employers use their wages and profits to buy what they produce (consumer goods and capital goods). Profits are earned by employing labor to produce goods and services to sell at a markup. (M – C – M’ to the initiated.)

The financial and property sector is wrapped around this core, siphoning off revenue from this circular flow. This FIRE sector is extractive. Its revenue takes the form of what classical economists called “economic rent,” a broad category that includes interest, monopoly super-profits (price gouging) and land rent, as well as “capital” gains. (These are mainly land-price gains and stock-market gains, not gains from industrial capital as such.) Economic rent and capital gains are income without a corresponding necessary cost of production (M – M’ to the initiated). “Banks have lent increasingly to buy up these rentier rights to extract interest, and less and less to promote industrial capital formation. Wealth creation” FIRE-style consists most easily of privatizing the public domain and erecting tollbooths to charge access fees for basic necessities such as health insurance, land sites, home ownership, the communication spectrum (cable and phone rights), patent medicine, water and electricity, and other public utilities, including the use of convenient money (credit cards), or the credit needed to get by. This kind of wealth is not what Adam Smith described in The Wealth of Nations. It is a form of overhead, not a means of production. The revenue it extracts is a zero-sum economic activity, meaning that one party’s gain (that of Wall Street usually) is another’s loss.

Debt deflation resulting from a distorted “financialized” economy

The problem that Mr. Obama faces is one that he cannot voice politically without offending his political constituency. The Bubble Economy has left families, companies, real estate and government so heavily indebted that they must use current income to pay banks and bondholders. The U.S. economy is in a debt deflation. The debt service they pay is not available for spending on goods and services. This is why sales are falling, shops are closing down and employment continues to be cut back.

Banks evidently do not believe that the debt problem can be solved. That is why they have taken the $13 trillion in bailout money and run – by it out in bonuses, or buying other banks and foreign affiliates. They see the domestic economy as being all loaned up. The game is over. Why would they make yet more loans against real estate already in negative equity, with mortgage debt in excess of the market price that can be recovered? Banks are not writing more “equity lines of credit” against homes or making second mortgages in today’s market, so consumers cannot use rising mortgage debt to fuel their spending.

Banks also are cutting back their credit card limits. They are “earning their way out of debt,” making up for the bad gambles they have taken with depositor funds, by raising interest rates, penalties and fees, by borrowing low-interest credit from the Federal Reserve and investing it abroad – preferably in currencies rising against the dollar. This is what Japan did in the “carry trade.” It kept the yen’s exchange rate down, and it is lowering the dollar’s exchange rate today. This threatens to raise prices for imports, on which domestic consumer prices are based. So easy credit for Wall Street means a cost squeeze for consumers.
The President needs a better set of advisors. But Wall Street has obtained veto power over just who they should be. Control over the President’s ear time has been part of the financial sector’s takeover of government. Wall Street has threatened that the stock market will plunge if oligarch-friendly Fed Chairman Bernanke is not reappointed. Mr. Obama insists on keeping him on board, in the belief that what’s good for Wall Street is good for the economy at large.

But what’s good for the banks is a larger market for their credit – more debt for the families and companies that are their customers, higher fees and penalties, no truth-in-lending laws, harsher bankruptcy terms, and further deregulation and bailouts.

This is the program that Mr. Bernanke has advised Washington to follow. Wall Street hopes that he will be kept on board. Mr. Bernanke’s advice has helped bolster that of Tim Geithner at Treasury and Larry Summers as chief advisor to convince Pres. Obama that “recovery” requires more credit.

Going down this road will make the debt overhead heavier, raising the cost of living and doing business. So we must beware of the President using the term “recovery” in his State of the Union speech to mean a recovery of debt and giving more money to Wall Street Jobs cannot revive without consumers having more to spend. And consumer demand (I don’t like this jargon word, because only Wall Street and the Pentagon’s military-industrial complex really make demands) cannot be revived without reducing the debt burden. Bankers are refusing to write down mortgages and other debts to reflect the ability to pay. That act of economic realism would mean taking a loss on their bad debts. So they have asked the government to lend new buyers enough credit to re-inflate housing prices. This is the aim of the housing subsidy to new homebuyers. It leaves more revenue to be capitalized into higher mortgage loans to support prices for real estate fallen into negative equity.

The pretense is that this is subsidizing the middle class, but homebuyers are only the intermediaries for government credit (debt to be paid off by taxpayers) to mortgage bankers. Nearly 90 percent of new home mortgages are being funded or guaranteed by the FHA, Fannie Mae and Freddie Mac – all providing a concealed subsidy to Wall Street.

Mr. Obama’s most dangerous belief is the myth that the economy needs the financial sector to lead its recovery by providing credit. Every economy needs a means of payment, which is why Wall Street has been able to threaten to wreck the economy if the government does not give in to its demands. But the monetary function should not be confused with predatory lending and casino gambling, not to mention Wall Street’s use of bailout funds on lobbying efforts to spread its gospel.

Deficit reduction

It seems absurd for politicians to worry that running a deficit from health care or Social Security can cause serious economic problems, after having given away $13 trillion to Wall Street and a blank check to the Pentagon. The “stimulus package” was only about 5 percent of this amount. But Mr. Obama has announced that he intends on Tuesday to close the barn door by proposing a bipartisan Senate Budget Commission to recommend how to limit future deficits – now that Congress is unwilling to give away any more money to Wall Street.

Republican approval would set the stage for Wednesday’s State of the Union message promising to press for “fiscal responsibility,” as if a lower deficit will help recovery. I suspect that Republicans will have little interest in joining. They see the aim as being to co-opt their criticism of Democratic spending plans. But in view of the rising and well-subsidized efforts of Harold Ford and his fellow Corporate Democrats, the actual “bipartisan” aim seems to be to provide political cover for cutting spending on labor and on social services. Mr. Obama already has sent up trial balloons about needing to address the Social Security and Medicare deficits, as if they should not be financed out of the general budget by taxpayers including the higher brackets (presently exempted from FICA paycheck withholding).

Traditionally, running deficits is supposed to help pull economies out of recession. But today, spending money on public services is deemed “bad,” because it may be “inflationary” – that is, threatening to raise wages. Talk of cutting deficits thus is class-war talk – on behalf of the FIRE sector.

The economy needs deficit spending to avoid unemployment and poverty, to increase social spending to deal with the present economic shrinkage, and to maintain their capital infrastructure. The federal government also needs to increase revenue sharing with states forced to slash their budgets in response to falling tax revenue and rising unemployment insurance.

But the deficits that the Bush-Obama administration have run are nothing like the familiar old Keynesian-style deficits to help the economy recover. Running up public debt to pay Wall Street in the hope that much of this credit will be lent out to inflate asset prices is deemed good. This belief will form the context for Wednesday’s State of the Union speech. So we are brought back to the idea of economic recovery and just what is to be recovered.

Financial lobbyists are hoping to get the government to fill the gap in domestic demand below full-employment levels by providing bank credit. When governments spend money to help increase economic activity, this does not help the banks sell more interest bearing debt. Wall Street’s golden age occurred under Bill Clinton, whose budget surplus was more than offset by an explosion of commercial bank lending.

The pro-financial mass media reiterate that deficits are inflationary and bankrupt economies. The reality is that Keynesian-style deficits raise wage levels relative to the price of property (the cost of obtaining housing, and of buying stocks and bonds to yield a retirement income). The aim of running a “Wall Street deficit” is just the reverse: It is to re-inflate property prices relative to wages.

A generation of financial “ideological engineering” has told people to welcome asset-price inflation (the Bubble Economy). People became accustomed to imagine that they were getting richer when the price of their homes rose. The problem is that real estate is worth what banks will lend – and mortgage loans are a form of debt, which needs to be repaid.

I worry that Wednesday’s address will celebrate this failed era.

Will Bernanke Be Reappointed? Does It Matter?

By L. Randall Wray

There is a lot of speculation over the reappointment of Ben Bernanke to continue to head the Fed, with the Obama Administration pushing hard. Of course, Wall Street is also calling in its favors. It looks like a done deal. The Administration has probably got the 60 votes required in the Senate to remove the hold, and the 51 votes needed for confirmation.

Does it matter? Well, on one level, this is a reward for incompetence—something that is never a good idea. Chairman Bernanke never saw “it” (the great financial crisis) coming, and indeed, actively promoted practices that made the crisis inevitable. However, on that score he is not nearly as guilty as his predecessor—Greenspan–who ruled monetary policy from 1987 to 2005. Poor Bernanke was left to clean up the mess, while Greenspan got to retire to great acclaim (that did not last long!). As the crisis unfolded, Bernanke had to learn on the job. While he was supposedly a student of the Great Depression and thus should have known what to do, in truth, he had always misunderstood the crisis of the 1930s. Hence, he has taken many half-steps and made many mis-steps over the past three years that made matters worse. Yet, if we look at where the Fed stands now, it has finally got to the position it should have immediately taken. It has satisfied the liquidity desires of the private financial system by expanding its own balance sheet to $2 trillion, and it is paying interest on reserves (reducing the “tax” on banks and simplifying interest rate targeting procedure). It took some time, but Bernanke finally figured out how to deal with the crisis. The liquidity crisis is over (at least for now). Banks are still insolvent—but that is a matter mostly for the FDIC, not for the Fed.

Here are my fears should Bernanke be reappointed.

1. He does not understand that “unwinding” the Fed’s balance sheet is nothing to be concerned about. As I have written previously, this will occur naturally as banks pay-off their loans that the Fed extended in the crisis, and as banks repurchase the assets they sold to the Fed to obtain reserves. However, Bernanke still seems to believe in the discredited “deposit multiplier” and believes the Fed will have to take action to drain reserves (“reverse the quantitative easing”) to prevent excess reserves from fueling inflation. This is nonsense. Banks do not lend reserves and existence of excess reserves does not make them more willing to lend. The Fed does not need to do anything more than to accommodate banks—no concerted action is required. Still, even in the worst case, the Fed will not be able to create a huge mess. Since it operates with an overnight interest rate target, if it tries to remove reserves that the banks want to hold, it will drive rates above the target—so will have to add back the reserves. This could create some uncertainty but it is not likely to generate any crisis.

2. Bernanke might appear to be a “born again” regulator, but that is highly doubtful. The Fed will never take regulation seriously because it is captured by Wall Street. So the important thing is to ensure that the Fed does not become the “super duper systemic regulator” that many are now proposing. This job needs to go to the FDIC, which has in the past actually done some regulating.

3. A win for Bernanke might energize the forces that want to keep Timmy Geithner and Larry Summers in their jobs. In truth, it is far more important to remove Timmy and Larry (and to remove Robert Rubin from his position as advisor to the administration). I have not seen any evidence that Bernanke has been corrupted by Wall Street. Unfortunately, the same cannot be said of Geithner and Summers—where apparent conflicts of interest abound, and questionable decisions have been taken that favor Wall Street institutions. And the Treasury is far more important than the Fed. If we are going to reregulate financial institutions (as Obama now seems inclined to do), we have got to have real regulators at the Treasury. Neither Timmy nor Larry has ever indicated any interest in “interfering” with Wall Street. Indeed, Geithner seems to have been leaking to the press his dissatisfaction with Obama’s recent proposals. Perhaps he is already angling for his Wall Street rewards—seeking a well-compensated position in a financial institution should he be fired.

To be clear, I would prefer to replace Bernanke with someone who actually understands monetary policy and who advocates regulation and supervision of financial institutions. Unfortunately, that looks unlikely. We need to turn our attention to Rubin, Geithner and Summers. Obama does not need any action by Congress to rid himself of these anchors that are dragging down his administration, as well as the Democratic party.

State of the Union Junk Economics, 2010: How Much More “Debt Recovery” can the Economy Take?

By Michael Hudson

It’s make or break time for Democrats since last Tuesday’s defeat in Massachusetts. At stake is Mr. Obama’s credibility as an agent for change. Exit polls show that voters see his main change to be favoritism to Wall Street, to a degree that the “old Democrats” would not have let a Republican administration get away with. Rivalry over just what party is more Wall Street friendly prompted Jay Leno to joke that Mr. Obama has done the impossible: resurrected the seemingly dying Republican Party and given it the coveted label of the “Party of Change” running against Wall Street.

Some politicians are hoping that the effect of Massachusetts has been an oxymoron, a “fortuitous calamity” in the form of a wake-up call to Washington. The question is, will the party be able to drag Mr. Obama away from the Corporate Democrats? This is the setting for what must certainly be a hastily rewritten State of the Union message. Instead of celebrating a Republican- and Lieberman-approved health care bill, Mr. Obama finds himself obliged to respond to voters who celebrated his first anniversary in office by choosing a Republican as their designated voice for change. That was supposed to be his line.

My reading of last week’s election is that voters who felt duped by Mr. Obama’s promise as a reform candidate did not really turn Republican, but at least they could throw out the Democrats for failing to make a credible start fixing the debt-strapped economy. The President has begged the banks to start lending again. But this means loading the economy down with yet more debt. The $13 trillion bailout was supposed to help them do this, but they have simply taken the money and run, paying it out in bonuses and salaries, stepping up their lobbying efforts to buy Congress, and buying out other banks to grow larger and increase their monopoly power.

The contrast between Wall Street’s recovery and the failure of the “real” economy to recover its employment and consumption levels has enabled Republicans to depict Mr. Obama and his party as stalling against financial reform. Instead of fulfilling his election promise to become an agent of change, the past year has seen a continuity with the widely rejected Bush policies. Even the personnel remain the same. Over the weekend, Mr. Obama reiterated his endorsement for reappointing Helicopter Ben Bernanke as Federal Reserve Chairman.

As ex officio lobbyist for high finance, Mr. Bernanke’s money drop seemed to land only on Wall Street. Now that it has emptied out the government’s credit in an unparalleled deficit, Mr. Obama is saying, “No more. I’m drawing the line. No further deficit.” There goes any hope for stimulating the “real” economy. Treasury apparatchik Tim Geithner, backed with his armada of administrators on loan from Goldman Sachs, is unlikely to support indebted labor, consumers or their companies in any way that does not benefit Wall Street first.

Even worse has been Mr. Obama’s rehabilitation of Clinton Rubinomics deregulator Larry Summers as chief advisor, sidelining Paul Volcker until he was hurriedly flown back from political Siberia, as if to soften the leak by the Wall Street Journal on January 15 that Mr. Obama and the Democrats were not unhappy to see Elizabeth Warren’s Consumer Financial Products Agency die stillborn, despite Mr. Obama promise that the agency was “non-negotiable.”

Democrats insist that politics had nothing to do with the timing of Mr. Obama’s 180-degree turn and sudden infusion of passion for the “Volcker rule” to re-separate commercial banking from its casino capitalist outgrowth. The photo-op with Mr. Volcker was intended to provide at least a semblance of regulation of the sort that was normal before Mr. Summers and other Clinton-Gore era “Democratic Leadership Committee” operatives had backed Republicans to repeal Glass-Steagall. They are now back in the White House, and the Democrats have failed every litmus test involving finance, insurance and real estate – the FIRE sector, which remains the major campaign contributor and lobbyist for both parties.

Democrats up for re-election this November are jumping ship. On Friday, within just 72 hours of the Massachusetts vote, Barbara Boxer and other Democrats on the Senate Finance Committee came out against reappointing Mr. Bernanke. Republican leaders already had taken a head start on opposing him. Still, many Democrats have found enough born-again populism to sacrifice Mr. Bernanke, and perhaps Messrs. Summers and Geithner as well.

It is bad enough that Mr. Obama has not joined in the criticism of Mr. Bernanke for having refused to regulate mortgage fraud or slow the bubble economy even when the law required him to do so. And it is bad enough that Mr. Bernanke has been so willfully blind as to deny that the Fed was fueling the Bubble with low interest rates and a refusal to regulate fraud. What he calls the “free market” is what many consider to be consumer fraud.

The widening public perception of Mr. Obama’s first year as being a Great Continuity with the Bush Administration has enabled Republicans to position themselves for this year’s mid-term elections – and 2012 – by reminding voters how they opposed the bank bailout back in September 2008, when Mr. Obama supported it. Now that support for Wall Street has become the third rail in American politics, they may appoint a standard bearer who voted against the bailout.

This is ironic. George W. Bush ran for president saying: “I’m a uniter, not a divider,” and proceeded to divide the country (needing only 50 Senate votes plus the Vice Presidential tie-breaker to do it). Mr. Obama promised change, but then decided that he wants to be bipartisan (and insisting that he needs 60 votes; many are asking whether, if he had them, he then would say that he needed 90 votes to get the Baucuses and Bayhs, Liebermans and Boehners on board for his promised change). On Tuesday he is scheduled to invite Republicans to participate in a joint committee on the budget deficit – to get Republicans on board for tax increases to finance future giveaways to their mutual Wall Street constituency. They probably will say “no.” This should enable him to make a clean break. But then he would not be who he is.

For opportunists in both parties, the trick is how to wrap pro-Wall Street policies in enough populist rhetoric to win re-election, given that the FIRE sector remains the key source of funding for most political campaigns. The contrast between rhetoric and policy reality is the basic set of forces pulling Wednesday’s State of the Union address this Wednesday – and for the next two years. The real question is thus whether Mr. Obama’s promise to make an about-face and back financial reform will remain merely rhetorical, or actually be substantive?

Putting Mr. Obama’s speech in perspective

Spending a year hoping to get Republicans to sign onto health care almost seems to have been a tactic to give Mr. Obama a plausible excuse for stalling rather than to address what most voters are mainly concerned about: the economy. Subsidizing the debt overhead and the debt deflation that is shrinking markets and causing unemployment, home foreclosures and a capital flight out of the dollar has cost $13 trillion in just over a year – more than ten times the anticipated shortfall of any public health insurance reform or an entire decade of the anticipated Social Security shortfall.

Not only are voters angry, so are the community organizers and Mr. Obama’s former Harvard Law School colleagues with whom I have spoken. Instead of providing help in slowing the foreclosure process or pressuring banks to renegotiate, his solution is for the Fed to flood the banking system with enough money at low enough interest rates to re-inflate housing prices. What Mr. Obama seems to mean by “recovery” is that consumers once again will be extended Bubble-era levels of debt to afford housing at prices that will rescue bank balance sheets.

It is an impossible dream. American workers now pay about 40% of their take-home pay on housing, and another 15% on debt service – even before buying goods and services. No wonder our economy has lost its export markets! Debts that can’t be paid, won’t be.

The moral is that the solution to any given problem – in this case, how to make Wall Street richer by debt leveraging – creates a new problem, in this case bankruptcy for high-priced American industry. The cost of living and doing business is inflated by high financial charges, HMO and insurance charges, and debt-inflated real estate prices. This has made Mr. Obama’s Wall Street constituency richer, but as the Chinese proverb expresses the problem: “He who tries to go two roads at once will get a broken hip joint.”

Banks have not paid much attention to Mr. Obama’s urging them to renegotiate bad mortgages. Their profits lie in driving homeowners out of their homes if they do not stay and fight. What is needed is to help debtors fight against junk mortgages issued irresponsibly beyond their reasonable means to pay.

When homeowners do fight, they win. In Cambridge, Massachusetts, I spoke to community leaders who organized neighborhood protests blocking evictions from being carried out. I spoke to lawyers advising that victims of predatory mortgages insist that the foreclosing parties produce the physical mortgages in court. (They rarely are able to do this.) These people feel they are getting little help from Washington.

And last Friday, Nomi Prins, Bob Johnson and other financial insiders voiced fears that the “Volcker Rule” separating commercial banking from casino derivatives gambling will end up being gutted by so many loopholes (such as letting banks to write their contracts out of their London branches) that it will end up merely rhetorical, not substantive. Financial lobbyists have the upper hand in detoothing and disabling attempts to reduce their power or even to enact simple truth-in-lending laws.

Two opposing lines of advice to Mr. Obama

Over the weekend Sen. John McCain suggested that Mr. Obama should reach out to Republicans in his State of the Union address. Bush advisor Karl Rove advised him to move to “the center” – what most people used to call the right wing of the spectrum. The Republicans blame Mr. Obama’s deepening unpopularity on his alleged move to the left.

It is more realistic to say that he has been perceived as being too little for change, too centrist while the economy is polarizing. It certainly seems unlikely that he will now turn on his FIRE-sector backers. His plan is that real estate prices can be re-inflated on enough credit – that is, enough more mortgage debt – to enable the banks to work out of the negative equity position into which their loan portfolios and investments have fallen.

The inherent impossibility of this plan succeeding is the main problem that we may expect from this Wednesday’s State of the Union address. Mr. Obama will promise to cut taxes further for working Americans, but his financial policy aims to raise the cost of their housing, their debt service and the cost of buying pensions. Some trade-off!

America’s debt overhead exceeds the means to pay. Rhetoric alone cannot solve this problem, even when delivered with Mr. Obama’s rhetorical élan. Its solution requires a policy alternative more radical than his current advisors are willing to accept, because the inevitable solution must be to write down debts to reflect the capacity to pay under today’s market conditions. This means that some banks and creditors must take a loss.

In the 2008 election campaign, Rep. Dennis Kucinich kept spelling out precisely what law he had introduced to Congress to effect each change he proposed. Mr. Obama never descended to this concrete level. But after spending a year treading water, he now must be asked to do so.

For starters, the litmus test for commitment to change should be to rapidly push through the Consumer Finance Protection Agency while the Democrats still have their political Viagra fillip from last Tuesday – and before Wall Street lobbyists wield their bankrolls.

There is talk in the press about the Democrats not even pressing forward with the Consumer Financial Protection Agency. The argument is that if they can’t get their health care plan by the Senate in the face of HMO and drug company lobbyists, what chance do they have when it comes on to taking on predatory Wall Street lenders?

It is a false worry – or even worse, an excuse to continue doing nothing. Republicans were able to mobilize populist opposition to the health-care bill by representing it as adding to the cost of relatively healthy young adults forced into the arms of the HMO monopolies. But it is much harder for the Republicans to buck financial reform and still strike their pose as opposing Wall Street. Proposing strong legislation against Wall Street will force politicians of both parties to show their true colors. If they don’t jump on board the best and most popular law the Democrats can draw up, they will lose their ability to pose. And what is populist politics these days without such a pose?

If the Democrats do not force the debt reform issue, we must conclude that they don’t really want financial restructuring. This is what Celinda Lake, pollster for the losing Democratic senate candidate last Tuesday, found that most voters believed to be the case: “When six times more people think that the banks benefited from the stimulus than working families, you’ve got a problem. And it’s not just a problem with what Martha Coakley did in her campaign” she wrote in her day-after report. “Voters are still voting for the change they voted for in 2008, but they want to see it. And right now they think they’ve got economic policies for Washington that are delivering more for banks than Main Street.”

Mr. Obama needs to signal a change of heart by replacing his failed deregulatory-era trio of Summers, Bernanke and Geithner with advisors who will focus more on the “real” economy than on Wall Street’s shadow economy.

I don’t see him doing this. I will discuss how to pierce what I expect to be Wednesday evening’s rhetorical fog in Part II of this article tomorrow.

“Obama Takes a Baby Step in the Right Direction”

By L. Randall Wray*

Today, President Obama finally took meaningful action toward financial reform, apparently prodded by his disaster in Massachusetts. Heck, if the Democrats cannot retain Teddy’s seat, there is no safe refuge. The Republicans and Tea Partiers will take the next election in a landslide unless Obama changes course, and fast.

Briefly, here is what he announced. Government spent a huge bundle trying to rescue Wall Street, and while that was distasteful, it was necessary, for otherwise the economy would have slipped into a second great depression. The financial system is now stronger than it was when he took office, but Wall Street continues to engage in its antisocial practices, Hoovering all the nation’s profits, paying huge bonuses, and trading rather than lending.

According to Obama, the root of the problem is that these institutions take advantage of their government guarantees (deposit insurance and bail-outs when things go bad) to gamble with house money. He says the root of the crisis was that these government-protected institutions engaged in proprietary trading and created their own hedge funds and private equity firms. The access to insured deposits gave them low cost funds with which they took huge risks at taxpayer expense. Further, they have sent an army of lobbyists to Washington to prevent financial reform. Hence, he proposes a new “Volcker Rule” that would prohibit these regulated financial institutions from operating hedge funds, private equity funds, or proprietary trading. And the government will prevent further consolidation of the financial sector.

The reforms sound good. It is always too easy to criticize reform for not going far enough. However, the nature of this proposal seems to indicate that Obama still does not understand the scope of the problem. Let me provide what I believe to be more than mere quibbles:

1. The financial bail-out was not needed and would do nothing to prevent another great depression. We had a liquidity crisis that could have been resolved in the normal way, through lending by the Fed without limit, to all financial institutions, and without collateral. That is how you end a liquidity crisis. But that has nothing to do with the Paulson/Rubin/Geithner plans that variously bought bad assets, injected capital, and provided guarantees — in an amount estimated above $20 trillion. None of that was necessary and none of it prevented collapse of the economic system. Banks are still massively insolvent. If we wanted to leave insolvent institutions open, all we had to do was to use forbearance. And, in truth, that is the only reason they are still open for business.

2. And of course, none of that had any benefit at all for Main Street. Indeed, we could have closed down the top 20 banks (responsible for almost all of the mess) with no impact on the economy. The only thing that has helped was the fiscal stimulus package. That will soon run out, and although it helped it was far too small. Obama has zero chance of getting more money for Main Street unless he can convince Congress and the public that he has changed his ways. The reforms he has announced fall short.

3. The financial system is not healthier today. Indeed, it is much more dangerous. The Bush and Obama administrations reacted to the crisis by encouraging and subsidizing consolidation of the sector in the hands of gargantuan and dangerously insolvent institutions. The sector is essentially run by a handful of rapacious institutions that have made out like bandits because of the crisis: Goldman, JP Morgan, Citi, Chase and Bank of America. All of these are systemically dangerous. All should be closed. Today.

4. Yes, the lobbyists are a problem. What do you expect when you operate a revolving door between Wall Street and the administration? Goldman essentially runs the Treasury. The lobbyists are in Washington to meet with their former colleagues, and to oil that revolving door. There is only one solution: ban all former employees of the financial sector from government employment (including roles as advisors), and prohibit all government employees from ever working for a Wall Street firm.

5. It is not enough to subject banks to the requirements of the Volcker Rule. Any institution that has access to the Fed and to the FDIC should be prohibited from making ANY KINDS OF TRADES. They should make loans, and purchase securities, and then hold them. (An exception can be made for government debt.) They should perform underwriting and due diligence to ensure that the assets they hold meet appropriate standards of risk. And then they should bear all the risk through maturity of the assets. They should not be allowed to offload assets, much less to short assets that they sell, while knowing they are trash (Goldman’s favorite strategy). They should not be able to hedge risks through derivatives. They should not be allowed to purchase credit default “insurance” to protect themselves. They should not be allowed to move risk off balance sheet. They should not be involved in equities markets. Any behemoth that does not like these conditions can hand back its bank charter and become an unprotected financial institution. Those that retain their charters will be treated as public-private partnerships, which is what banks are. They put up $5 of their own money, then gamble with $95 of government (guaranteed) money. The only public purpose they serve is underwriting-and that only works if they hold all the risks.

6. Obama ignores fraud. It is rampant in the financial sector. Indeed, it has no doubt increased since the crisis. Where do you think all of those record profits come from? It is a massive control fraud, based on Ponzi (or Bernie Madoff) schemes. This must be investigated. Fraudulent institutions must be shut down. Management must be prosecuted and jailed. Only if Obama is willing to take on fraud will we know that he really is about hope and change. He has got to start with the Rubin, Geithner and Summers team. Fire them, then investigate them. That is change I can believe in-and an end to “business as usual”, as Obama put it.

*This post was first published on New Deal 2.0

“US Is on Right Path to Banking Reform”

By James K. Galbraith [via The Sphere]

President Barack Obama took an important step in the right direction Thursday. How can one tell? Bank stocks fell. And on Bloomberg just afterward, the industry’s top lobbyist stated that the big bankers want “a civil, adult conversation” about reform. Great. They must be worried.

Oh, and there’s a third reason. Paul Volcker was there. He’s not corrupt. He’s not ambitious. He’s been around the political track a few times. If Volcker shows up to back the president on this one, that’s got to be a good sign.

The president’s speech established some important principles. First, size matters. We should not allow banks — or any other type of financial firm — to become “too big to fail.” A bank that big is too big to regulate, and too big for its own leadership to manage safely and effectively even if they want to. It is a “systemically dangerous institution.” It should not be allowed to grow, because as it becomes bigger, it becomes more dangerous still.

Second, proprietary trading is dangerous. Leveraged proprietary trading is a highly profitable, but exceptionally risky, form of gambling. It should not be done by institutions whose downside risk is publicly insured — either directly or indirectly — because they can blackmail the country when they go down. Get rid of it. John Reed, the former CEO of Citibank, agrees: In the 1980s and 1990s they didn’t do it, and they don’t need to do it now.

Third, the financial sector must be restructured. We have many viable small and medium-sized banks that didn’t get burned by the sub-prime debacle. They should grow and help rebuild America. The big banks right now are, largely, zombies. They are serving no public purpose, yet they remain dangerous. The “Volcker Rule” can help protect us, restoring something like the protections that helped keep us safe for a half century under Glass-Steagall.

The plan doesn’t do enough. But now that the president has set a direction, he can do more. To begin, he should use regulatory powers he already has. Last year’s stress tests were a farce, a public relations exercise to convey a simple message: that the government was going to back the banks, no matter what. That strategy didn’t work. And that’s no longer the message the government should want to send.

So let’s do those stress tests again. This time let the real regulators — the FDIC and not the Fed or Treasury — take the lead. Let’s have clean audits of the toxic assets at their market values, public exposure of the AIG e-mails — which are public property — and a serious review of the documents underlying all those bad mortgages and mortgage-backed-securities. The big banks should be made to shrink, under FDIC supervision. Outright bans and high taxes are the right deterrent for unsafe practices. And prosecution is the remedy for fraud.

Somehow I doubt that our big bankers want to go through this. Maybe they’ll simply retire, removing at a stroke the biggest eyesore on the American political scene — and a big obstacle to both financial reform and an effective economic recovery program.

Another good sign emerged today. According to The Washington Post, Treasury Secretary Timothy Geithner opposed Volcker’s approach, and he got beaten. This sentence is telling: “Industry officials … said they were startled and disheartened that Geithner was overruled, in part because they supported the more moderate approach Geithner proposed last year.”

“Startled” and “disheartened” are good signs. Even better, we have headlines this morning that the secretary is fighting back behind the scenes. ABC News reports: “Treasury Secretary Tim Geithner has reservations about President Obama’s new proposal to limit the size and scope of the nation’s banks, sources tell ABC News. Specifically, the sources say, Geithner is worried that the proposed limits could damage the competitiveness of U.S. firms with their global competitors.”

Competitiveness? That bit of malarkey is a big-bank lobby talking point, nothing more. Its use here reveals precisely the problem that has faced Team Obama from the beginning: They gave the Treasury to a close ally of the biggest banks.

With today’s news, Geithner’s loyalties are completely clear. The next step, in that matter, is up to the president.

So now the ball is rolling, at last, toward real financial reform. Keep it rolling, Mr. President; you’re on the right road now.

“Deficit Terrorism Could Kill the Euro”

By Marshall Auerback *
Marshall Auerback has a proposal for how to save the euro – before it’s too late.

On more than a few occasions, we have discussed the insanity of self-imposed political constraints which limit the range of fiscal policy. As well as imparting a deflationary bias to an economy (and thereby preventing full employment), these kinds of constraints preclude the adoption of prompt counter-cyclical policy, which would otherwise cushion an economy when confronted with a genuine financial crisis, as we are experiencing today.

The constraints under which the US operates are more apparent than real. As we have discussed before, these constraints are largely based on 19th century gold standard concepts, which have no applicability in a fiat currency world. Tomorrow, if the US wanted to run a budget deficit equivalent to 20 per cent of GDP, it could do so, politics and demagoguery aside.

Such is clearly not the case in the euro zone.

There, countries like Spain, that have 20 per cent unemployment are being forced into further belt tightening. And the news just keeps getting worse: Expansion in Europe’s service and manufacturing industries unexpectedly slowed in January, adding to signs the pace of the economy’s recovery may weaken.

A composite index based on a survey of purchasing managers in both industries in the 16-nation euro region fell to 53.6 from 54.2 in December, London-based Markit Economics said today in an initial estimate. Economists expected an increase to 54.4, according to the median of 15 estimates in a Bloomberg survey. A reading above 50 indicates expansion.

The euro-region economy may lose momentum as the effect of government stimulus measures tapers off and rising unemployment erodes consumers’ willingness to spend. More significantly, the very viability of the currency is now being called into question even within the councils of the European Monetary Union (EMU), where fears of a euro breakup have reached the point where the European Central Bank (ECB) itself feels compelled to issue a legal analysis of what would happen if a country tried to leave monetary union.

A currency vaporizing before our very eyes! All for what? Some misguided anti-inflation fear? A desire to maintain the euro as a “store of value”? What’s the point of having a “store of value” in your pocket when you don’t have enough of it to buy anything because you’re unemployed?

We have long viewed the principles underlying Europe’s monetary union as profoundly misconceived. In particular, the so-called Stability and Growth Pact is economically flawed and politically illegitimate, given the power of unelected bureaucrats within the euro zone to ride roughshod over the clearly expressed preferences of national electorates. A law that governs economic decisions — yet is economically illiterate — cannot stand for long. It merely invites non-compliance and worse, as we are witnessing today. And the problem is not restricted to the so-called “PIIGS” countries (Portugal, Ireland, Italy, Greece and Spain). The larger — and wealthier — European economies however have never reduced their unemployment rates below 6 per cent and the average for the EMU since inception is 8.5 per cent (as at July 2009) and rising since. The average for the EMU nations from July 1990 to December 1998 (earliest MEI data for the EMU block available) was 9.7 per cent but that included the very drawn out 1991 recession. Underemployment throughout the EMU area is also rising , reaching 20% in Spain and double digits in Portugal, Italy, Ireland, and Greece.

Until now, the Eurocrats have either remained in denial about the mounting stress fractures within the system, or forced weaker countries to impose even greater fiscal austerity on their suffering populations, which has exacerbated the problems further. And there has been a complete lack of consistency of principle. When larger countries such as Germany and France routinely violated spending limits a few years ago, this was conveniently ignored (or papered over), in contrast to the vituperative criticism now being hurled at Greece. The EU’s repeated tendency to make ad hoc improvisations of EMU’s treaty provisions, rather than engaging in the hard job of reforming its flawed arrangements, are a function of a silly ideology which is neither grounded in political reality, nor economic logic. As a result, a political firestorm, which completely undermines the euro’s credibility, is potentially in the offing.

So what are the alternatives? Exit from the currency union would be the most logical, but also potentially the most economically and politically disruptive. As Professor Bill Mitchell notes, to exit the EMU a nation and regain currency sovereignty, the following changes would occur:

• The nation would have to introduce a new/old currency unit under monopoly issue. Within this currency the national government could purchase anything that was for sale in that currency including domestic unemployed labour.

• The central bank of the nation would receive a refund of the capital it contributed to the ECB.

• The central bank would also get all the foreign currency reserves that it moved over into the EMU system.

• The nation’s central bank would then regain control of monetary policy, which means it could set the interest rates along the yield curve and also add to bank reserves if needed.

There is clearly the additional problem of debt which is now denominated in euros, because, as Mitchell notes, the problem exists because the nation that wanted to exit would have to deal with a foreign currency debt burden, and might find itself involved in a painful adjustment process in which the departing nation is forced to experience a punitive negotiated settlement (unless of course it was able to engineer payment in the new local currency).

Personally, we think the whole euro zone system is an abomination and would prefer to see all euro zone states go back to national currencies and thereby get their respective economies back on track with renewed fiscal capacity. But there is also a short term expedient which might prove minimally disruptive to the European Monetary Union’s current political and institutional arrangements, but could well succeed in restoring growth and employment in the euro zone.

Within the euro zone, short of leaving, the most elegant adjustment mechanism is for the ECB to distribute 1 trillion euro to the national governments on a per capita basis, as our friend, Warren Mosler , has suggested. This proposal would operate along the lines of the revenue sharing proposals we recently advocated for the American states. The nation states of the euro zone would the instructions from European Council of Finance Minister (ECOFIN) and the ECB would then change the balances in all of the national member bank accounts, in effect increasing their assets, and thereby reducing debt as a percentage of GDP.

Within the euro zone, this sort of a proposal would likely give the respective EMU nations more bang for their respective euros, given the more elaborate social welfare programs in the EU. There would be less pressure to “reform” them (i.e., cut them back) if the EU nation states debt ratios are correspondingly lower and “compliant” within the bounds of the SGP.

The per capita criteria deployed here means that we are neither discussing a bailout per se of one individual country, and nor a ‘reward for bad behavior.’ All countries would receive funds from the ECB on a per capita basis, which means that Germany would, in fact, become the biggest beneficiary. The fact that all countries are in the euro zone means there’s no possibility of Germany losing competitive ground to Spain or other low wage countries. It would immediately adjust national govt. debt ratios substantially downward and ease credit fears.

If there is no undesired effect on aggregate demand/inflation/etc., which there should not be, given the prevailing high levels of unemployment in the euro zone, it can be repeated as desired until national government finances are enhanced to the point where they can all take local action to support aggregate demand as desired.

The proposal advanced is the most institutionally elegant solution because it maintains the current arrangements, as flawed as they are, and preserves the euro. Yes, a weaker euro would almost certainly result from this action. However, as “national solvency” is an issue for the euro countries (in a way that it is not for the US or Japan or the UK, given that the euro zone nation states are functionally more like American states than independent countries with their own freely floating non-convertible currencies), the resultant higher export growth that comes from a weaker euro is actually benign for everybody, as it minimizes the markets’ solvency concerns.

The formation of the European Union has been largely driven by the extremism of inter-European conflicts that caused millions of people to be slaughtered during two disastrous world wars. Ironically, the political and economic arrangements that have arisen in response to these horrors are creating a different kind of social devastation which is both wholly self-inflicted and profoundly misconceived. Europe’s very currency could well blow up. The US might well preserve its currency, but the EU’s current situation provides a salutary warning of what can happen in a system that prevents individual member’s from using fiscal policy to improve the circumstances of their citizens.

*This post was first published on New Dew 2.0

President Obama: It’s Not Just The Words!

By Marshall Auerback

The post-mortems following the Massachusetts Senate by-election are coming in fast and furiously, but by far the most instructive remarks come from the President himself. He clearly doesn’t get it.

A majority of Obama voters who switched to Brown said that “Democratic policies were doing more to help Wall Street than Main Street.” A full 95 percent said the economy was important or very important when it came to deciding their vote. Surprise, surprise, policies do matter.

But what was the President’s reaction? ABC News reported, “President Obama said today that he feels he lost a direct connection to the American people in his first year in office because he focused too heavily on policy-making.”

“If there’s one thing that I regret this year is that we were so busy just getting stuff done and dealing with the immediate crises that were in front of us that I think we lost some of that sense of speaking directly to the American people about what their core values are and why we have to make sure those institutions are matching up with those values,” Obama told ABC News’ George Stephanopoulos in an exclusive interview at the White House.

The arrogance and presumption of the statement is remarkable. Mr. President, the American people have core values, and they don’t encompass political cronyism and tolerance of fraud and corruption. And they go beyond mere reminders that “change takes time”.

Having persuaded himself that his powers of oratory can solve any problem (even minus the teleprompter?), the President patronizingly suggests that his “change” policies were not the problem, but that he failed in the presentation of them. It’s more likely that people were profoundly upset that with the “stuff” that the President and Congress were getting done, and his failure adequately to address the immediate crises that he faced in his first year in office.

When Obama continued the Bush/Paulson moves on the bank bailouts, that was the beginning of the end of his “change” Presidency. Health care was simply the confirmation as large proportion of his base was prepared to cut him slack waiting to see what he would do with the issue. In the end, we got a terrible bill, and no amount of salesmanship or nice speeches will change the substance. It does not even deliver on the promise that got most people prepared to hold their collective noses and vote for it, that of eliminating the practice of rescinding policies on the basis of “pre-existing condition”. Read the bill.  As Yves Smith has highlighted, it allows an out for fraud. Guess what? Not telling your insurer of a preexisting condition, EVEN ONE YOU DID NOT KNOW ABOUT, is fraud! Unbeknownst to most, fraud is the means under current law that insurers deny coverage. The bill preserves the status quo here. A nursing organization with 150,000 members opposed the bill for this very reason.
We have major problems in this country: rising unemployment, a stagnating economy, overly expensive health care and a large group of uninsured, which adds to the costs of the latter. How is further enriching insurers and Big Pharma (which the bill does) going to solve the cost problem? Similarly, how has throwing ample financial subsidies at Wall Street, helped the average citizen on Main Street?

The President expended so much political capital and goodwill placating the likes of Jamie Dimon and Lloyd Blankfein. Now that they’ve got their government checks, they can do whatever they like and continue to poison the polity. The health insurance and pharmaceutical industries have followed the playbook, and used the political process the same way.

I am sure there are some people angered by too much government spending (aka, “socialism”) and others who are genuinely peeved that Obama is not spending enough. But more than that, there remains a profound sense of anger, mixed with helplessness amongst most people. The only means by which these people can manifest this anger (without resorting to riots and burning buildings) is via the ballot box. They will likely continue to take it out on people perceived to be the “ins”, the main feeders at the trough, versus the “outs”, who have got nothing, but the promise of a lot more economic misery. Massachusetts was the first significant political manifestation of this trend, and if his immediate comments are anything to go by, I doubt Obama will interpret the election result correctly, since his faux populism and reliance on “speaking directly to the American people” merely shows how contrived his Administration has become.

President Obama is providing increasingly disturbing parallels with one of Robert Redford’s memorable characters, Bill McKay, from “The Candidate”. If you recall how that movie ended, McKay escapes the victory party and pulls Lucas into a room while throngs of journalists clamor outside. McKay then asks his political spin doctor, Marvin Lucas, who engineered the victory: “Marvin … What do we do now?” The media throng arrives to drag them out at that moment and McKay never receives an answer. Today’s electorate is waiting for an answer from the President which encapsulates something beyond a mere “change” slogan. Judging from the policies, they’ve been getting, they aren’t happy with the answers.

Mosler on Today’s Monetary Arrangements

Reader Note: This is the second entry from Warren Mosler in a debate with Jim Rickards about how to fix the economy. More on the authors here. This is a response to Rickards first piece. Mosler’s first piece is here.*

by Warren Mosler

Jim’s recommendations are “sound money, lower taxes, and light regulation.”

We do agree on lower taxes. My proposals include a full payroll tax holiday to support demand. And while Jim suggests a return to Glass-Steagall, my banking proposals are even more narrow and dramatically reduce the need for regulation. I also support price stability.

We also agree that the Monetarist concept of “velocity” is flawed, but our reasons differ. Jim’s derive from the long-dead gold standard where velocity is a calculation of how many times the given amount of money (gold) is used to buy and sell goods and services. Today, however, monetary expansion has nothing to do with money supply like it used to under the gold standard. The reason banks aren’t lending isn’t because they don’t have money to lend. Lending is constrained only by bank capital and the creditworthiness of willing borrowers, not by gold or any other concept of bank reserves. That’s why quantitative easing – i.e. the Fed printing money to buy securities – has no effect on bank lending.

Interest rate cuts transfer income from savers to banks, reducing overall spending. So while interest on savings dropped from over 5% to near 0%, borrower’s rates fell little if any. The wide yield curve means banks’ profit margins widened.

New Keynesian thought is also flawed, because it too presumes gold standard constraints. Today government never actually has nor doesn’t have dollars, and spends, taxes, and borrows simply by changing numbers in bank accounts at the Fed.

When it comes to the dollar, the US government is the scorekeeper. Unlike the gold standard days, the government can’t run out of money. Nor is it dependent on China to fund spending.

Under the old gold standard, taxes and borrowing did fund spending. Today taxes function only to regulate aggregate demand and to control prices. The federal deficit is merely the difference between the numbers changed upward when the government spends, and the numbers changed downward when it taxes. Taxes therefore function to regulate aggregate demand, not to raise revenue, per se. Tax cuts increase our spending power, tax hikes lower it. This is indisputable operational fact, not theory or philosophy.

Jim’s general warning is that too much spending or monetary stimulus might lead us to cross a “critical threshold where diverse actors reject dollars in a cascading collapse.” But this only applies to fixed exchange rate regimes such as the gold standard, where a weak currency results in gold outflows.

Today the dollar is a non-convertible currency. The exchange rate continually adjusts, always representing indifference levels with no gain or loss of gold reserves. I would note too that the U.S. is actively seeking to weaken the dollar vis-à-vis the Chinese yuan. Would Jim want the reverse?

Jim’s arguments are as good as gold. However, we are not on a gold standard, so they don’t apply. Today’s monetary arrangements call for my solutions to restore output, employment, and price stability.

* This post was first published on Rolfe Winkler’s blog.