Bloomberg reports:

Treasury Secretary Timothy Geithner committed to cutting the budget deficit as concern about deteriorating U.S. creditworthiness deepened, and ascribed a sell-off in Treasuries to prospects for an economic recovery.

“It’s very important that this Congress and this president put in place policies that will bring those deficits down to a sustainable level over the medium term,” Geithner said in an interview with Bloomberg Television yesterday. He added that the target is reducing the gap to about 3 percent of gross domestic product, from a projected 12.9 percent this year.

These are wonderful promises, but we see little substance to back up Geithner’s “targets”.   More concerning was the sell-off in bonds yesterday indicating that foreign central banks may be anticipating a ratings cut in the U.S.A itself and are selling on the rumor.  While concerns over inflation through quantitive-easing have risen over the past weeks, the far greater concern is the threat of a serious bond-market meltdown should Bernanke’s dreams of low interest rates crash against the rocks of inflationary fears  — forcing rates ever higher.

What then of our “green shoots”?   With America’s deficit exploding almost 30% to over $2 trillion in a matter of months, America’s circle of creditors are sure to be casting nervous sideways glances at one another.  Growing international concern that the US may not be a reliable debtor were hightened yesterday, as Britain’s AAA rating was called into question by Standard & Poors, who lowered the nation’s outlook to “negative”.  (It does not take a particularly keen observer to note that the USA may be next in line.)

Also concerning is the “rot within”, as municipal defaults around the USA threaten to place an impossible burden on the shoulders of the Federal government.  One must concede that the concept of “too big to fail” has not yet been truly considered until one grapples with the issue of defaulting state and local governments.    There exists no framework, or precedence for these massive stormclouds forming on the US horizon.  Policy makers everywhere are deeply troubled with the prospective issue of whether the federal government should run to the rescue of state and local budgetary fiascos:  Fiascos brought about by irresponsibility, fraud and the very same ingredients that made up the subprime scandal itself.   To take on these burdens at the federal level would seriously call into question the financial health of the USA itself, and yet allowing local governments collapse under their own financial burdens will have deep and extraordinarily painful repurcussions.

Bloomberg reports:

Also yesterday, Geithner said the U.S.’s $700 billion financial rescue package can’t be used to aid cities and states facing budget crises.

The law “does not appear to us to provide a viable way of responding to that challenge,” Geithner told a House Appropriations subcommittee in Washington. Among the hurdles: money from the Troubled Asset Relief Program was designed for financial companies, he said.

Geithner said he will work with Congress to help states such as California that have been battered by the credit crunch and are struggling to arrange backing for municipal bonds and short-term debt.

The municipal bond markets are “starting to find some new balance and equilibrium,” he said.

No, Mr. Geithner, they are not.  But while Treasury is correct in not extending TARP support at this time — Geithner’s promise to “work with Congress” hardly sounds like restraint.  The US is sailing swiftly into a scenario which will demand significantly higher interest rates.  While we are fuly cognisant of the pain and hardship that accompany a laissez-faire response to corporate and municipal financial failures — such pain is deeply preferable to the broad systemic collapse that will follow if the federal government tries to backstop our entire bathtub of bursting bubbles.

Brazil’s central bank announced today that transactions between China and the South American nation will increasingly use their own currencies rather than use the US dollar.   Rumors of a Chinese/Brazilian move to break away from USD hegemony first surfaced at the G20 meeting in London last month.  This week, with Brazil’s president Luiz Inaςiao Lula Da Silva involved in high level economic talks in Beijing,  it seems the rumors are swiftly turning into actual policy initiatives.

SKY reports:

The move is significant for two reasons: not only is it a direct challenge to the dollar as the world’s transaction currency of choice but it is coming from two countries with some of the world’s largest foreign-exchange reserves—most of which are held in (yes, you’ve guessed it) dollars.

…

It’s not the first time we’ve heard such posturing. A year ago China – the world’s largest consumer of U.S. government debt – warned it could move those assets into better performing currencies like the euro and as recently as March, the country’s central bank governor pondered replacing those dollar holdings with a standard reserve such as the one used by the IMF. Such words have in the past seemed idle threats but with the prospects of countries like Brazil, Russia, India and China (the so called ‘BRICS’) outpacing shrinking markets in West, a currency agreement between such emerging market titans could challenge the monetary status quo.

We’re still extremely curious as to the specifics of this somewhat “apples and oranges” agreement between the two currencies.  Brazil’s currency floats like any other major currency on world FX markets, while the Chinese renminbi is carefully managed by Beijing at just under 7 per dollar.   It is also interesting that the arrangement is not exclusive and still allows either nation to use USD as a matter of choice — a flexibility which doesn’t exactly ring of confidence in either one of the competing currencies.

The Financial Times reports:

An official at Brazil’s central bank stressed that talks were at an early stage. He also said that what was under discussion was not a currency swap of the kind China recently agreed with Argentina and which the US had agreed with several countries, including Brazil.

“Currency swaps are not necessarily trade related,” the official said. “The funds can be drawn down for any use. What we are talking about now is Brazil paying for Chinese goods with reals and China paying for Brazilian goods with renminbi.”

An aide to Mr Lula da Silva on his visit to Beijing said the political will to enact a similar deal with China was clearly present. “Something that would have been unthinkable 10 years ago is a real possibility today,” he said. “Strong currencies like the real and the renminbi are perfectly capable of being used as trade currencies, as is the case between Brazil and Argentina.”

While many economists scoff at the relative strength of both the Renminbi and the Real — and point out that a real shift away from USD hegemony would take decades to occur, we must point out the following 3 facts which are inescapably true:

1. The United States has a massive debt which is growing larger.
2. The trade deficit in the United States continues unabated.
3. The Federal Reserve has shown that it is willing to “print” dollars as a response to liquidity issues within the US banking system.

We continue to watch with concern as the Federal Reserve continues to throw money at the weakest parts of the US economy, tarnishing the dollar and preserving those parts of our economy which should be allowed to fail.  If Ben Bernanke believes that such actions won’t ultimately destroy the privileged role of the US dollar — he is seriously mistaken.

In a televised speech by Thomas Woods,  author of the New York Times bestseller “Meltdown: A Free-Market Look at Why the Stock Market Collapsed, the Economy Tanked, and Government Bailouts Will Make Things Worse“, had some gems of concise insight that we thought we’d echo here:

“The recession is just the economy trying to re-adjust after all the mal-investment and misdirected resources caused by the Fed in the first place.”

“When you’re the “Soviet commisar” in charge of money and interest rates, when you’re Alan Greenspan, you can create money out of thin air and now the banks have a ton to lend and can keep the illusion going.  But it’s an illusion all the same.”

“This is not just a matter of “We need a little more regulation”.  That is the most irresponsible, intellectual laziness imaginable.  …  If the institutional structure gives rise to this [boom bust cycle], ecourages excessive risks by making credit artificially cheap — you can have all the regulation you want …

…  It is the institutions that are giving rise to this.  It is the money itself.”

And our favorite summary of where things are today:

“What we have here is a slow-motion train wreck as we watch Washington and the Fed trying to put everything back together.  … Who is being held up to us as the people we should listen to?  First let’s talk about Ben Bernanke…  Why be awed by a man whose investigators examined the mortgage market a couple years ago and found that it was healthy as ever?  Why should we listen to a guy who said the housing bust will be over by December 2008?   Why should we have listened to Hank Paulson, who told us in 2007, the world economy was in the ‘best shape’ he had ever seen it?   These are the people we are supposed to care about?  Seriously, you should want to do the exact opposite of what these people recommend.”

“Instead of listening to [Bernanke, Paulson, et al], who have been wrong for years, who have given us the wrong advice, who have contributed to the largest asset bubble in the history of mankind… Instead of listening to them, let’s listen to the people who saw it coming.  … Why don’t we listen to them?  Their phones are not exactly ringing off the hook from the Obama administration.  The Obama administration seems to be of the opinon that the bigger blockhead you were, the more surpised you were by the crisis, the less sensible advice you have — well, the more we want to hear you.   But if you saw this coming?  Forget about it.”

The complete speech (via C-Span) is available here, and is well worth listening to:

http://www.booktv.org/watch.aspx?ProgramId=PC-10285

On Wednesday, Treasury Secretary Timothy Geithner wrote a brief letter outlining proposed regulation of the enormous $600 trillion derivatives market.  In it, he calls “for federal regulators to be given comprehensive authority, for the first time, to police all derivative markets and derivative dealers; for the establishment of clearing, margin, and capital requirements to reduce risk; and for authority to impose position limits on over-the-counter derivatives to prevent market manipulation and excessive speculation. The letter also proposed important derivative reporting and recordkeeping requirements that could be satisfied in part by clearinghouse or regulated trade repository records.”

While most market observers agree that regulation of this market is essential for reducing systemic risk to our economy, many disagree as to the forms these reforms should take and fear that the Geithner proposal will leave dangerous loopholes that will leave us exposed to further danger.

The New York Times reports:

Mr. Geithner suggested that derivatives should be split between standardized instruments, which would be traded on regulated exchanges, and privately negotiated contracts, customized deals (often called “swaps”) that are made between two financial organizations and would not be publicly traded or regulated. Rather, such transactions would be reported privately to a “trade repository,” which apparently would make only limited aggregate data available to the public.

The problem with this, according to critics, is the danger that “today’s exception could become tomorrow’s rule.”  Derivatives have proved an extremely useful tool to investment banks and counterparties seeking shelter in the opacity of lax or non-existing oversight and disclosure requirements.  Should new regulations leave a gaping loophole that would allow these banks to continue pushing risks off their balance sheets or into offshore jurisdictions, the fear is that the banks will exploit it.

This criticism certainly has merit, and we hope that it will find a receptive audience with legislators and the Treasury Department alike.   Still, we are encouraged with this first step down the road to greater accountability and transparency for banks in the operation of this enormous market.  Here is a chance for Timothy Geithner to put his stamp on the future of US financial regulation.  Properly executed, these reforms have the potential of going a long way towards re-establishing trust in our badly shaken banking system.

It’s a rare thing when insiders speak their minds publicly against the powers-that-be.   Today in a global investment conference held in Qatar,  an insider accused the entire US bank bailout of being a “sham”, and said it publicly at a global conference of his peers.   Meet Mark Patterson, chairman of MattlinPatterson advisers, a firm which utilized the TARP program’s ‘matching funds’ to buy Flagstar Bancorp in Michigan.   Patterson certainly didn’t pull any punches in blasting US Treasury Secretary, Tim Geithner’s bailout as being a deeply flawed plan which will not only ultimately fail, but is enriching Wall Street insiders in the process.

The Telegraph UK reports:

Mr Patterson said the US Treasury is out of its depth and seems to be trying to put off drastic action by pretending that the banking system is still viable.

“It’s a sham. The banks are insolvent. The US government is trying to sedate the public because they are down to the last $100bn (£66bn) of the $700bn TARP funds. They think they’re doing this for the greater good of society,” he said, speaking at the Qatar Global Investment Forum.

Mr Patterson said it would be better for the US to bite the bullet as Britain has done, accepting that crippled lenders must be nationalised. “At least the British are not hiding the bail-out,” he said.

Well said indeed, Mr. Patterson.  We’d love to hear Mr. Geithner respond, but he’s off skipping through fields of green shoots, and worse yet, seems blissfully unaware that the US taxpayer is bearing most of the cost while seeing precious little of the upside.  Perhaps when the last $100 billion of TARP funds has been magically transferred into private coffers, Mr. Geithner will make the hard choices we’re hoping for.

More from the Telegraph UK:

“This is not a normal recession and there will be no V-shaped recovery. The crisis has destroyed leveraged companies. We’re going to see a catastrophic increase in the number of LBO’s (leveraged buyouts) going into default because they’re knee-deep in debt and no solution exists since they can’t refinance,” he said.

“Alfa hedge funds have been making their money by gambling with excessive leverage, so the knife that cuts off leverage is going to cut off their heads as well,” he said.

Like many bears, Mr Patterson expects the great crunch to end in deliberate inflation, deemed a lesser evil than outright depression.

“The US government has thrown 29pc of GDP at this crisis compared to 8pc in the early 1930s. The Fed’s balance sheet has risen from $900bn to $2.7 trillion to bail out the system. America has to do it because the only way out is to debase the currency, but that is going to lead to some very high inflation three years down the road,” he said.

We couldn’t agree more with Mr. Patterson, and he has our sympathies for exercising good judgment, but bad luck in choosing to short this rally from the start.    As our colleague Tyler Durden at Zero Hedge once said, “Anyone with any common sense is losing money in this market”.   Our only hope is that more insiders speak up like Mark Patterson did before the situation gets any worse than it already is.

Although the Senate already passed an earlier version of the Fraud Enforcement and Recovery Act, on May 6 the U.S. House of Representatives passed its own (and in our opinion, far more complete) version of the bill.

As it stands now, the Senate has to take up the House version of the bill and either accept their changes or elect to appoint a conference committee to work out differences between the two bills. However, the Senate does not have this bill on their calendar yet, nor have they appointed a conference committee.  It is still unclear if or when the Senate might take up the House-amended version of the measure.

Both versions of the bills would increase funding by over $500 million in aggregate over a two year period for certain law enforcement agencies, including U.S. Attorneys Offices, DOJ, FBI, U.S. Postal Inspectors, HUD and the Secret Service.

Currently, only the House bill also includes additional funding for the SEC.

Perhaps most significantly, the bill would provide for the creation of a Financial Crisis Inquiry Commission.

According to the House version of the bill, The FCIC would be charged with:

“examin[ing] the causes of the current financial and economic crisis in the United States, specifically the role of–
(A) fraud and abuse in the financial sector, including fraud and abuse towards consumers in the mortgage sector;
(B) Federal and State financial regulators, including the extent to which they enforced, or failed to enforce statutory, regulatory, or supervisory requirements;
(C) the global imbalance of savings, international capital flows, and fiscal imbalances of various governments;
(D) monetary policy and the availability and terms of credit;
(E) accounting practices, including, mark-to-market and fair value rules, and treatment of off-balance sheet vehicles;
(F) tax treatment of financial products and investments;
(G) capital requirements and regulations on leverage and liquidity, including the capital structures of regulated and non-regulated financial entities;
(H) credit rating agencies in the financial system, including, reliance on credit ratings by financial institutions and Federal financial regulators, the use of credit ratings in financial regulation, and the use of credit ratings in the securitization markets;
(I) lending practices and securitization, including the originate-to-distribute model for extending credit and transferring risk;
(J) affiliations between insured depository institutions and securities, insurance, and other types of nonbanking companies;
(K) the concept that certain institutions are `too-big-to-fail’ and its impact on market expectations;
(L) corporate governance, including the impact of company conversions from partnerships to corporations;
(M) compensation structures;
(N) changes in compensation for employees of financial companies, as compared to compensation for others with similar skill sets in the labor market;
(O) the legal and regulatory structure of the United States housing market;
(P) derivatives and unregulated financial products and practices, including credit default swaps;
(Q) short-selling;
(R) financial institution reliance on numerical models, including risk models and credit ratings;
(S) the legal and regulatory structure governing financial institutions, including the extent to which the structure creates the opportunity for financial institutions to engage in regulatory arbitrage;
(T) the legal and regulatory structure governing investor and mortrgagor protection;
(U) financial institutions and government-sponsored enterprises; and
(V) the quality of due diligence undertaken by financial institutions;

Additionally, the bill specifies the FCIC would be required to:
- examine the causes of the collapse of each major financial institution that failed
- submit a report,
- refer potential violations of the law to the U.S. Attorney General and State attorney generals, and
- build upon (but not duplicate)the work of other entities (such as congressional committees, GAO, other agencies) to avoid duplication in conducting its examination of these matters.

The commission would have 10 members, six chosen by congressional Democrats and four by Republicans. No elected officials could serve on the panel, which would have subpoena power.

We can only hope that the Commission is not made up of banking industry insiders.  We at the Analytic certainly have a number of questions regarding banking policies and activities that led us into this crisis as well as the Fed’s policies in reaction to it.

As William K. Black pointed out in The Huffington Post:

Whatever happened to the law (Title 12, Sec. 1831o) mandating that banking regulators take “prompt corrective action” to resolve any troubled bank? The law mandates that the administration place troubled banks, well before they become insolvent, in receivership, appoint competent managers, and restrain senior executive compensation (i.e., no bonuses and no raises may be paid to them). The law does not provide that the taxpayers are to bail out troubled banks.

US law also states that “no bank may make a capital distribution (pay a dividend) or pay a management bonus if before or after doing so it would be undercapitalized.”

Clearly, there are questions that need to be answered.  We at The Analytic sincerely hope that our legislative branch finds the time in its schedule to pass this important bill.

To date, no equivalent of the US Treasury’s so-called “Stress Tests” has been conducted on Europe’s also troubled banking system.  The lack of similar tests is spawning concerns throughout the sector, and in the European media — that the European banking system may not meet the U.S. standards of banking “readiness”.

The Wall Street Journal reports:

Unlike in the U.S., there has been no major policy initiative to force banks in Europe to increase capital cushions, and governments have intervened only on a piecemeal basis. Meanwhile, as U.S. banks pile in with efforts to raise capital from investors, European banks aren’t taking advantage of a stock rally to do the same.

The IMF estimates that European banks have approximately 40% of the suggested $1 trillion needed to protect against any potential bout of economic flu.   By contrast, US banks have roughly 66% of the $666 billion cushion they require.

While stated levels of capital reserves may differ, a 1:1 comparison with the European and American banking systems based upon capital cushions is difficult to make.

We have already discussed the silliness of the Stress Tests in a previous post, but it should be re-stated that U.S. measurements of capital reserves should be treated as highly suspect.  Considering that the American banking system has abandoned accounting best-practices, thrown GAAP to the wind, and encouraged our banks to creatively portray their financial health — we are forced to wonder which data the IMF is using to compare the relative health of US and European banks.  One must also remember that the amount “needed” by US banks was originally estimated at over $1 trillion — but was adjusted down to $666 billion due to “push back” from the US banks themselves.  (If we adhere to Treasury’s original reserve requirement of $1 trillion, US banks also have just over 40% of what is required).

Ultimately, a comparison of systemic health between European and U.S. economies is an apples-to-oranges comparison, and cannot easily be made using the simple statistic of banking reserve ratios.   As the WSJ notes:

Weakened banks in Europe have a potentially bigger economic impact than U.S. financial institutions do, since some 80% of lending to companies in Europe is through banks, compared with only one-fifth in the U.S. If replenishing capital levels causes European banks to pull back on lending, it could slow economic recovery.

Particularly troubling for European banks are investments in Eastern Europe — a region undergoing an extremely serious recession.   We expect losses in Eastern Europe to exceed losses experienced even in the most highly distressed areas of the United States.  Unlike U.S. “Stress Tests” however,  don’t expect the results of a European equivalent to be made public.  Then again, if Europe’s tests are a mere public relations stunt like those in the U.S. — we won’t be placing much faith in the results anyway.

The Office of Management and Budget (OMB) dropped a few bombshells in their announcement today.  First and foremost was the news that after receiving an already mammoth $78.8 billion handout from American taxpayers, Fannie Mae and Freddie Mac would require an additional $92.2 billion in 2010.

We’d like to believe that 2010 will mark the end of taxpayer handouts for the massive failed companies — but somehow we’re not comfortable predicting recovery for these two behemoths whose pain only seems to go from intense to more-intense.

Perhaps more telling than the horrifying 2010 budget requirements was the OMB’s bombshell number two:  One prescription being considered for both GSE’s includes a liquidation of all assets and a “wind down” of the entities.  In other words:  Shut them down?

Bloomberg reports:

Alternatives range from “a gradual wind-down of their operations and liquidation of their assets,” to returning the two companies to their previous status as government-sponsored enterprises that seek to maximize shareholder returns while pursuing public-policy goals, according to OMB’s analysis of President Barack Obama’s proposed federal budget.

…

The companies are coming under increasing strain as the Obama administration leans on them to help refinance and modify loans at risk of foreclosure amid the worst housing market since the Great Depression, Fannie Mae and Freddie Mac have said in securities filings. The government-sponsored enterprises pose a risk to the economy, though the federal takeover and Treasury backing have “substantially reduced” that threat, OMB said.

‘Vital Parts’ of Economy

“The GSEs borrow huge amounts from various types of investors, and the health of the housing market critically affects the overall economic activity,” the budget office said. “Thus, financial trouble at one or more of the GSEs could unsettle not only the mortgage finance markets but also other vital parts of the financial system and economy.”

Fannie Mae and Freddie Mac may be nationalized, dissolved and broken up into several smaller companies, revamped as public utilities with the full faith and credit of the U.S. government or converted into insurers for covered bonds backed by U.S. mortgages, OMB said.

Washington-based Fannie Mae has booked seven consecutive quarters of losses totaling $86.8 billion as of March 31. McLean, Virginia-based Freddie Mac, which is expected to report its first-quarter results this week, has reported six straight quarters of losses totaling $53.8 billion as of Dec. 31.

Like many other U.S. financial institutions, Fannie Mae and Freddie Mac face “market risk, credit risk and operational risk,” according to the budget office.

Forgetting for a moment that we were told repeatedly that the bailout of Fannie and Freddie would ‘not cost the taxpayer a thing’ because their enormous portfolio of assets would cover the cost of the bailout, we at The Analytic think shuttering the companies is the first good idea sprouting from the dimly lit halls of the OMB in many a month.   Not only have these entities failed at their core mission to make housing ‘more affordable’, but they have failed as viable business entities and endangered the overall economic security of the United States.

It has long been our opinion that preserving (let alone rewarding) failures of such historic proportion should only be considered by a people whose goal is to financially immolate themselves. While there will certainly be enormous logistical issues associated with any such “wind down” — these issues should be addressed quickly and confronted head on.  In short — these enterprises are dangerous and will continue to be dangerous if they are allowed to survive intact.

It has been said that any corporation that is not required to undergo regular financial audits, is almost certainly crooked. Considering that the Federal Reserve has never once in its entire history been audited, and given that the central bank is actively exchanging trillions of dollars of “good money” for the toxic waste of bad bank debt — many economists question whether or not the bank’s books would pass muster under any traditional financial audit.

Now a Congressional bill (H.R. 1207), “The Federal Reserve Transparency Act” is demanding a full audit of the books of the Federal Reserve. In our opinion this act is long overdue. While the Federal Reserve may claim that it is our nation’s best interest to be kept in the dark, these claims seem particularly disingenuous given the growing understanding that it was Greenspan’s Federal Reserve policies of low-interest rates and excessive financial de-regulation which led to the crisis in the first place.

Unfortunately, we also recognize that any “audit” conducted on the Federal Reserve would likely be as un-reliable as that highly publicized, cakewalk otherwise known as the “Stress Tests” which Treasury performed on our nations biggest banks.

Congressman Ron Paul introduced bill HR 1207, which now has swelling support from over 140 Congressional leaders.   His introduction included this somewhat disturbing insight:

The Federal Reserve can enter into agreements with foreign central banks and foreign governments, and the GAO is prohibited from auditing or even seeing these agreements. Why should a government-established agency, whose police force has federal law enforcement powers, and whose notes have legal tender status in this country, be allowed to enter into agreements with foreign powers and foreign banking institutions with no oversight? Particularly when hundreds of billions of dollars of currency swaps have been announced and implemented, the Fed’s negotiations with the European Central Bank, the Bank of International Settlements, and other institutions should face increased scrutiny, most especially because of their significant effect on foreign policy. If the State Department were able to do this, it would be characterized as a rogue agency and brought to heel, and if a private individual did this he might face prosecution under the Logan Act, yet the Fed avoids both fates.

Well said indeed, Mr. Paul.  We  support this bill wholeheartedly, and we hope our readers will encourage their representatives to do the same.

Here is the full text of H.R. 1207:

111th Congress – 1st Session

H.R. 1207

A BILL

To amend title 31, United States Code, to reform the manner in which the Board of Governors of the Federal Reserve System is audited by the Comptroller General of the United States and the manner in which such audits are reported, and for other purposes.

1. Be it enacted by the Senate and House of Representatives of the United States of America in Congress assembled,

SECTION 1. SHORT TITLE.

This Act may be cited as the Federal Reserve Transparency Act of 2009.
SEC. 2. AUDIT REFORM AND TRANSPARENCY FOR THE BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM.

(a) IN GENERAL. – Subsection (b) of section 714 of title 31, United States Code, is amended by striking all after ’shall audit an agency’ and inserting a period.

(b) AUDIT. – Section 714 of title 31, United States Code, is amended by adding at the end the following new subsection:

(e) AUDIT AND REPORT OF THE FEDERAL RESERVE SYSTEM. -
(1) IN GENERAL. – The audit of the Board of Governors of the Federal Reserve System and the Federal reserve banks under subsection (b) shall be completed before the end of 2010.

(2) REPORT -

(A) REQUIRED. – A report on the audit referred to in paragraph (1) shall be submitted by the Comptroller General to the Congress before the end of the 90-day period beginning on the date on which such audit is completed and made available to the Speaker of the House, the majority and minority leaders of the House of Representatives, the majority and minority leaders of the Senate, the Chairman and Ranking Member of the committee and each sub-committee of jurisdiction in the House of Representatives and the Senate, and any other Member of Congress who requests it.

(B) CONTENTS. – The report under subparagraph (A) shall include a detailed description of the findings and conclusion of the Comptroller General with respect to the audit that is the subject of the report, together with such recommendations for legislative or administrative action as the Comptroller General may determine to be appropriate.

Sponsor
Rep. Ronald Paul [R-TX]
46 Cosponsors [as of 3/27/2009]
Rep Abercrombie, Neil [HI-1] – 2/26/2009
Rep Akin, W. Todd [MO-2] – 3/19/2009
Rep Alexander, Rodney [LA-5] – 3/10/2009
Rep Bachmann, Michele [MN-6] – 2/26/2009
Rep Bartlett, Roscoe G. [MD-6] – 2/26/2009
Rep Blackburn, Marsha [TN-7] – 3/16/2009
Rep Blunt, Roy [MO-7] – 3/24/2009
Rep Broun, Paul C. [GA-10] – 2/26/2009
Rep Buchanan, Vern [FL-13] – 3/17/2009
Rep Burgess, Michael C. [TX-26] – 3/19/2009
Rep Burton, Dan [IN-5] – 2/26/2009
Rep Castle, Michael N. [DE] – 3/17/2009
Rep Chaffetz, Jason [UT-3] – 3/6/2009
Rep Culberson, John Abney [TX-7] – 3/26/2009
Rep Deal, Nathan [GA-9] – 3/23/2009
Rep DeFazio, Peter A. [OR-4] – 3/9/2009
Rep Duncan, John J., Jr. [TN-2] – 3/6/2009
Rep Fleming, John [LA-4] – 3/18/2009
Rep Foxx, Virginia [NC-5] – 3/10/2009
Rep Franks, Trent [AZ-2] – 3/23/2009
Rep Garrett, Scott [NJ-5] – 3/5/2009
Rep Grayson, Alan [FL-8] – 3/11/2009
Rep Heller, Dean [NV-2] – 3/6/2009
Rep Jones, Walter B., Jr. [NC-3] – 2/26/2009
Rep Kagen, Steve [WI-8] – 2/26/2009
Rep Kingston, Jack [GA-1] – 3/6/2009
Rep Lummis, Cynthia M. [WY] – 3/19/2009
Rep Marchant, Kenny [TX-24] – 3/11/2009
Rep McClintock, Tom [CA-4] – 3/6/2009
Rep McCotter, Thaddeus G. [MI-11] – 3/19/2009
Rep Miller, Jeff [FL-1] – 3/24/2009
Rep Peterson, Collin C. [MN-7] – 3/19/2009
Rep Petri, Thomas E. [WI-6] – 3/10/2009
Rep Platts, Todd Russell [PA-19] – 3/19/2009
Rep Poe, Ted [TX-2] – 2/26/2009
Rep Posey, Bill [FL-15] – 2/26/2009
Rep Price, Tom [GA-6] – 3/10/2009
Rep Rehberg, Denny [MT] – 2/26/2009
Rep Rohrabacher, Dana [CA-46] – 3/6/2009
Rep Sessions, Pete [TX-32] – 3/23/2009
Rep Stark, Fortney Pete [CA-13] – 3/26/2009
Rep Stearns, Cliff [FL-6] – 3/6/2009
Rep Taylor, Gene [MS-4] – 3/6/2009
Rep Wamp, Zach [TN-3] – 3/16/2009
Rep Woolsey, Lynn C. [CA-6] – 2/26/2009
Rep Young, Don [AK] – 3/6/2009

We finally got to see the results of the so called “Stress Tests” which were conducted on America’s banking system. As expected the tests marked all participants to be “solvent”, but in need of additional capital in the event that financial conditions deteriorate more severely in the future.   On the very same day that these results were released to great public applause and an enthusiastic equity market,  a largely ignored Fannie Mae press release hit the newswires which conclusively shows the Stress Test assumptions to be grossly inaccurate and dangerously unstressful.

The results of the stress tests are as follows:

_Bank of America Corp. must raise $33.9 billion. It would lose $43.5 billion on home mortgages and $24.1 billion on complex securities and derivatives deals.

_Citigroup Inc. must raise $5.5 billion. It would lose $27.5 billion on home mortgages and $22.4 billion on complex securities and derivatives deals.

_Fifth Third Bancorp must raise $1.1 billion. It would lose $2.9 billion on commercial real estate loans and $2.8 billion on other business loans.

_GMAC LLC must raise $11.5 billion. It would lose $3.1 billion on home mortgages and $1 billion on business loans.

_KeyCorp must raise $1.8 billion. It would lose $2.3 billion on commercial real estate loans and $1.7 billion on other business loans.

_Morgan Stanley must raise $1.8 billion. It would lose $18.7 billion on complex securities and derivatives deals, and $600 million on commercial real estate loans.

_PNC Financial Services Group Inc. must raise $600 million. It would lose $7 billion on home mortgages and $4.5 billion on commercial real estate loans.

_Regions Financial Corp. must raise $2.5 billion. It would lose $4.9 billion on commercial real estate loans and $2.1 billion on home mortgages.

_SunTrust Banks Inc. must raise $2.2 billion. It would lose $5.3 billion on home mortgages and $2.8 billion on commercial real estate loans.

_Wells Fargo & Co. must raise $13.7 billion. It would lose $47.1 billion on home mortgages and $9 billion on business loans.

_ Nine banks were told they do not need to raise more capital. They are: JPMorgan Chase & Co., Goldman Sachs Group Inc., MetLife Inc., U.S. Bancorp, Bank of New York Mellon Corp., State Street Corp., Capital One Financial Corp., BB&T Corp. and American Express Co.

_ The banks that need more capital have until June 8 to come up with a plan to raise the additional resources and have the plan approved by their regulators.

As an aside, we sincerely hope the efforts to raise capital include a wipe-out of shareholder equity and a transferral of common shares to bond holders.  But such justice may be too much to ask for in an environment which has grown more unjust (and un-capitalist) by the day.

Almost universally ignored by the media was an almost simultaneous announcement from Fannie Mae which gives lie to the primary assumptions made by the so-called Stress Tests, and shows the tests to be dangerously flimsy and unrealistic:

Today we learned that Fannie Mae has requested an additional $19 Billion from Treasury.  This alone would be bad enough, as it is a clear indication that with every assumption of FNM losses there seems to come an  inevitable revision to the downside.  Fannie Mae management has even come forward with an admission that their endless revisions are due to their total inability to estimate losses accurately:

“Because of the existing stress in the housing and credit markets, and the speed and extent to which these markets have deteriorated, our process for determining the adequacy of our loss reserves has become more complex and involves a greater degree of management judgment. The current state of the housing and mortgage markets is unprecedented in many respects, greatly reducing the usefulness of relying on our historical loan performance data in estimating our loss reserves.”

But the most alarming part of Fannie’s admissions is that management cannot see FNM as a profitable entity “for the forseeable future”.

Now let’s look at Fannie’s losses within the framework of the Stress Test assumptions:  The level of debt default being experienced by Fannie Mae at this time is already as bad as the Fed’s “Worst Case” scenario (twice the level of it’s “base line” or expected scenario), and includes an alarming level of defaults in “Prime” mortgages.

Since we are already at the worst-case scenario, it should be noted that there is no provision in the above capital recommendations for any scenario that gets worse from this point forward.   Remember that the banks listed above have been advised to raise capital for a hypothetical possibility that we reach the worst case scenario.   But we are already here, now. Given that we have, after only a few short weeks arrived at the supposed worst case scenario, it does not take a great mathematician to arrive at the conclusion that the worst case scenario was hardly realistic, that the banking system is currently insolvent, and that no contingency plan for a scenario worse than worst-case (ie: worse than now) exists.

Clearly these so-called “Stress Tests” were not stressful at all, and worse yet:  The recommendations listed above, which are intended to provide cushion against future defaults, barely serve to make the system solvent at this very moment, and provide zero safety margin for any increased rate of deliquency.

In our opinion, anyone who thinks that the “worst” has been priced in is dreaming.