Economic genius required---to explain these?

[Whiskers]

(2) Where does this money go ---who gets it---who benefits---how is it used---

Apparently the US has roughly done something similar early last century, ie nationalising a lot of debt and floated it off to the public at a later stage.

Likewise not an expert at the fine detail, but since the basic differance between accounting in private enterprise v accounting in gov is the former account for profit and the later account for the value of expenditure/consumption (of taxes and other national assets), the aim is to get it out of the profit and loss cycle of accounting where it keeps appearing as a liability and stow it away in some entity as a 'national asset' where it may only need to be accounted for in terms of a (future) value.

(3) Does the Government now own the companies bailed out? and
(4) OK so now the American government is in deeper and deeper debt---TO WHO? Whats to stop a never ending increase in debt?

It looks like the congress is demanding something of a mortgage on the company and some sort of a position/role in the senior management of those companies. I guess the best likeness would be something of a voluntary receivership and potential eventual liquidation.



But, while they may hope to recycle it all again, inevetably the more you recylce things the lower the quality of the end product.

The challenge is managing an orderly decline of the USD and orderly inflation - highly unlikely to be achieved imo unless they step in and regulate.

I agree, they have no choice but to regulate more heavily... if only to minimise the wrath of the rest of the world and hope that they can maintain the USD as an international standard.

 

[awg]

Thanks Blue Ive actually sat through it a very good work.
But like most of these articles raise more questions than answers.
These are indeed very interesting times
and

This time IS different.

i cant answer q2, perhaps this bloke can. This is an interesting little watch all the way though either way.

http://www.chrismartenson.com/crashcourse

there is a part on debt, and inflation that should help a bit....maybe...




If this guy is right, there are no answers!

chapter 20 will be very interesting

(the 2nd para is also a quote from a previous post, i am too stupid to work out the multi quote function)

 

[Temjin]

Posted this on another forum but seems there are no geniuses--

Genius's.
While I understand the basics of these economic problems and how governments (Abolition of the Gold Standard---introduction of the FIAT policy) have arrived at the point there are some specifics I cant get a grip of.

So I need some genius Economic help to these specific questions.

(1) Where does all this money required to bail out these Companies come from---I believe its just printed and isn't actually a "surplus" as such.So wheres it come from?

(2) Where does this money go ---who gets it---who benefits---how is it used---what actually IS the debt being paid out?

(3) OK so these debts are paid out---who owes who for what?
Does the Government now own the companies bailed out? Do they have to pay back the debt---ever?

(4) OK so now the American government is in deeper and deeper debt---TO WHO? Whats to stop a never ending increase in debt?
How would this debt be paid back? Who would pay it back? If its never paid back then what.

(5) I understand that hyper inflation will devalue the monetary system of the country involved.At that point of collapse what happens to start it up again as Germany did?
Whats the process?

I cant find the answers hopefully here!

Really great questions you got there Tech/A.

I suggest signing up for http://bigpicture.typepad.com/ (free) and http://www.rgemonitor.com/ on Nouriel Roubini's commentary. (free to register now and free access to premium content TEMPORARY during the credit crisis) I get a lot of my mixed and bits information from these two places, plus others like dailyreckoning.com.au and marketoracle.co.uk, plus www.safehaven.com.

You should find answers to your questions from there.

Regardless, let me try to answer some of those questions, not exactly sure if I am right though.

(1) Where does all this money required to bail out these Companies come from---I believe its just printed and isn't actually a "surplus" as such.So wheres it come from?

This is quite complex and I still have not fully understand the "details" on where they get the money from. I have read several articles that only briefly hinted where they are getting the money from. In theory, there is no "surplus". The money are pretty much "authorised" by the government by simplying increasing the amount of debt that they can "borrow" from the treasury. It's like, I need to borrow $700 billion, so let's type in the computer for that money and set it so I will need to repay it with this much interest over the terms I will set. Of course, there are rules behind the rates and terms and conditions of the "borrowing". But the government simply increased the threshold they could borrow by asking the congress to approve it.

It's like you own your bank and freely create money and promise to pay back yourself overtime, with interest that the federal reserve have set.

It's more complicated than this of course, but this is how i come to understand so far.

(2) Where does this money go ---who gets it---who benefits---how is it used---what actually IS the debt being paid out?

This depends on which "bail out" you are taking about. The latest $700 billion (in theory, it's unlimited, blank cheque type bail out) would be used to purchase the "level 3 assets" off distressed financial insituations and dump it aside in another entity controlled by the government. Of course, the price of these "junks" would be ABOVE what the market would be willing to pay for them. The financial insituations will instantly get a fresh injection of cash from selling these junk to the government and get full benefits from it.

For AIG type bail out, the money is simply "given" to AIG to build up their capital base to prevent insolvency. For return, the government get 79.9% control of the company, have total rights over who to fire and when or how much dividends should be paid, and that money need to be returned in 2 years time plus 700 basis points (or so) over treasury rate. (which is actually quite high) By doing this, it allows AIG to sell their assets in time to repay the government plus any interest owned. The government will get benefit from the deal if AIG do manage to turn around over time.

I guess it's different for every case on how the money is used.

(3) OK so these debts are paid out---who owes who for what?
Does the Government now own the companies bailed out? Do they have to pay back the debt---ever?

I don't think these debts are really being "paid" out. The government simply took control of the companies (nationalised them) and make the companies "solvent" again by buying them out at an inflated price. Effectively, the US taxpayers are forced to write a cheque of, as an example, $1000 to pay for an asset that only worth $100 to the market.

The US government is now owner of the largest mortgage broker and the largest insurance company in the world.

(4) OK so now the American government is in deeper and deeper debt---TO WHO? Whats to stop a never ending increase in debt?
How would this debt be paid back? Who would pay it back? If its never paid back then what.

To themselves. They are just borrowing the money from their own and as long as "Congress" approve it, no one can stop them from increasing it. Of course, there are huge implications on maintaining a huge budget deficit.You know the rest about the devaluation of US dollars and what foreign owners of treasury bonds would do.

The US Taxpayers will pay it back through tax revenues, over time.

In theory, if they set their interest rate to 0%, it gives them an almost unlimited ability to increase as much debt as they want, depending on the lending terms and conditions set by the Treasury. Of course, this cause a lost of confidences in their dollar value and again, you know what will happen over time.

(5) I understand that hyper inflation will devalue the monetary system of the country involved.At that point of collapse what happens to start it up again as Germany did?
Whats the process?

Not sure on this one. It would BE A WHILE though before US would end up in a hyper inflation due to the size of their economy.

These are my understanding only, so correct me if I'm wrong. But I would like to know the answers to these too. I will ask the editor from http://cij.inspiriting.com/ on this, he seems to know pretty much about anything.

 

[Calliope]

Anybody interested in the true story behind the subprime mortgage debacle should look up Bird and Fortune on Google.

 

[tech/a]

Thanks Temjin a little clearer.
Like you I will persue the answers and I'm sure there are various takes and scenarios.

 

[Temjin]

Thanks Temjin a little clearer.
Like you I will persue the answers and I'm sure there are various takes and scenarios.

Sure man. Let us know if you can find clearer answers.

 

[refined silver]

Most people are pretty right, and most sites are decent too. My 2c worth.

1) Where does all this money required to bail out these Companies come from---I believe its just printed and isn't actually a "surplus" as such.So wheres it come from?
US Treasury creates bonds from nothing, loans them to Fed Reserve who loans to an ever expanding list of appoved borrowers.(Thats why Goldman Sachs and Morgan Stanley both changed their status yesterday, pure investment banks aren't allowed at the Fed's begging bowl.)

(2) Where does this money go ---who gets it---who benefits--- Paulson wants it all for Wall St, Congress is debating who else should get some how is it used to buy worthless **** on bank balance sheets that they can't sell anywhere else ---what actually IS the debt being paid out? very complex non-exchange derivatives which have a variety of euphemisms - "mortgage securities," "troubled assets," etc which have lost massive value, while some are swaps which have been triggered due to Lehmans bankrupcy which means counterparties have promised a truckload of money in case of default, but don't have.

(3) OK so these debts are paid out---who owes who for what? If the govt buys the toxic paper, the banks owe nothing, they have just "sold" the govt something. transaction finished.
Does the Government now own the companies bailed out? Only those they've injected capital into in exchange for equity such as 80% AIG and in effect Fannie and Freddie Do they have to pay back the debt---ever? Debt thats written off, or bought at reduced rates doesn't have to be paid back, but someone has to take the hit on the balance sheet

(4) OK so now the American government is in deeper and deeper debt---TO WHO? To whoever buys the bonds, up to now, to many foreign govts, but if foreigners don't buy, they print money themselves and owe it to themselves - national debt Whats to stop a never ending increase in debt? Nothing. Thats what will happen.
How would this debt be paid back? It can't. Theoretically it could, like Australia has, by running govt budget surpluses until its all paid back, but the US is way too deep in debt to do that. Also its obligations are rising - medicare, social security, this etc, while its tax base drastically shrinks with a recession Who would pay it back? The loans from the Fed window will never be paid back, just rolled over forever If its never paid back then what. The Fed has a horribly impaired balance sheet which for which its had to print money to cover. The USD drops.

(5) I understand that hyper inflation will devalue the monetary system of the country involved. Yes, thats whats coming, very serious inflation At that point of collapse what happens to start it up again as Germany did? Yes, exactly same situation - massive, unrepayable debts, lead to printing money to pay, which devalues the currency at an everincreasing rate.
Whats the process? To start over? Same as Germany, issue a new currency. Or same as Russia and many others, keep the old one and lop 3 zeroes off every so often, shafting anyone holding bank accounts with the old currency instead of hard assets at that time.

6. You didn't ask this, but I will. Will it work?No, the problem is way too big. The OTC derivs which are starting to unwind and fall over are 1.1 quadrillion dollars now. 1300 times bigger than the proposed bailout.

 

[MrBurns]

Most people are pretty right, and most sites are decent too. My 2c worth.

1) Where does all this money required to bail out these Companies come from---I believe its just printed and isn't actually a "surplus" as such.So wheres it come from?
US Treasury creates bonds from nothing, loans them to Fed Reserve who loans to an ever expanding list of appoved borrowers.(Thats why Goldman Sachs and Morgan Stanley both changed their status yesterday, pure investment banks aren't allowed at the Fed's begging bowl.)

(2) Where does this money go ---who gets it---who benefits--- Paulson wants it all for Wall St, Congress is debating who else should get some how is it used to buy worthless **** on bank balance sheets that they can't sell anywhere else ---what actually IS the debt being paid out? very complex non-exchange derivatives which have a variety of euphemisms - "mortgage securities," "troubled assets," etc which have lost massive value, while some are swaps which have been triggered due to Lehmans bankrupcy which means counterparties have promised a truckload of money in case of default, but don't have.

(3) OK so these debts are paid out---who owes who for what? If the govt buys the toxic paper, the banks owe nothing, they have just "sold" the govt something. transaction finished.
Does the Government now own the companies bailed out? Only those they've injected capital into in exchange for equity such as 80% AIG and in effect Fannie and Freddie Do they have to pay back the debt---ever? Debt thats written off, or bought at reduced rates doesn't have to be paid back, but someone has to take the hit on the balance sheet

(4) OK so now the American government is in deeper and deeper debt---TO WHO? To whoever buys the bonds, up to now, to many foreign govts, but if foreigners don't buy, they print money themselves and owe it to themselves - national debt Whats to stop a never ending increase in debt? Nothing. Thats what will happen.
How would this debt be paid back? It can't. Theoretically it could, like Australia has, by running govt budget surpluses until its all paid back, but the US is way too deep in debt to do that. Also its obligations are rising - medicare, social security, this etc, while its tax base drastically shrinks with a recession Who would pay it back? The loans from the Fed window will never be paid back, just rolled over forever If its never paid back then what. The Fed has a horribly impaired balance sheet which for which its had to print money to cover. The USD drops.

(5) I understand that hyper inflation will devalue the monetary system of the country involved. Yes, thats whats coming, very serious inflation At that point of collapse what happens to start it up again as Germany did? Yes, exactly same situation - massive, unrepayable debts, lead to printing money to pay, which devalues the currency at an everincreasing rate.
Whats the process? To start over? Same as Germany, issue a new currency. Or same as Russia and many others, keep the old one and lop 3 zeroes off every so often, shafting anyone holding bank accounts with the old currency instead of hard assets at that time.

6. You didn't ask this, but I will. Will it work?No, the problem is way too big. The OTC derivs which are starting to unwind and fall over are 1.1 quadrillion dollars now. 1300 times bigger than the proposed bailout.

Thanks for that, truly great post.

 

[Trembling Hand]

6. You didn't ask this, but I will. Will it work?No, the problem is way too big. The OTC derivs which are starting to unwind and fall over are 1.1 quadrillion dollars now. 1300 times bigger than the proposed bailout.

Refined Silver just on the Dervis sums (yeah again). Just bear() with me. I know you know what you are talking about but that figure may need some teasing out.

1. Where did it come from. I suspect is adding the total exposure from balance sheets, bank reporting authority etc?? The problem with that is that would make it 1/2 the amount. Like this... Bank A reports $100 worth of derivatives on its balance sheet and Bank B reports $100 worth of derivatives on its balance sheet. that makes $100 worth of derivatives as there is two parties to every 1 transaction. I bet that is a total sum and therefore probably half the amount.

2. If one side defaults, without including the flow on and implosion after that, the ACTUAL value lost would be ONLY the margin put up. Not the nominal value of the derivative. So whats at risk is probably 5% or less of that figure. A simple example to explain what I am getting at. There is about 300,000 SPI contracts open at the moment. The value of them is 300,000 X $125,000 = $37,500,000,000 (37 trill ??)
Lets say all the longs default the amount actually lost would "only" be 3.6, Trill that is the margin put up by the other party.

Yes either way its still a Sh*t storm in the making but suspect we can knock a few 00 off

 

[brty]

TH,

That is billion not trillion.

And you know as well as I that if one side was placed in 'administration' the administrator would close the contracts. The loss is not necessarily the full amount of the margin, which has already been placed with the clearing house.

brty

 

[Trembling Hand]

TH,

That is billion not trillion.

And you know as well as I that if one side was placed in 'administration' the administrator would close the contracts. The loss is not necessarily the full amount of the margin, which has already been placed with the clearing house.

brty

Oh did I fail to mention that the SPI is know OTC

Bill, Trill, Squillion... to many hours looking at numbers

 

[chops_a_must]

(5) I understand that hyper inflation will devalue the monetary system of the country involved. Yes, thats whats coming, very serious inflation At that point of collapse what happens to start it up again as Germany did? Yes, exactly same situation - massive, unrepayable debts, lead to printing money to pay, which devalues the currency at an everincreasing rate.
Whats the process? To start over? Same as Germany, issue a new currency. Or same as Russia and many others, keep the old one and lop 3 zeroes off every so often, shafting anyone holding bank accounts with the old currency instead of hard assets at that time.

Awesome post RS.

Just one point. Germany is still paying their debt off to some extent, yes? Because of the East half?

 

[refined silver]

Refined Silver just on the Dervis sums (yeah again). Just bear() with me. I know you know what you are talking about but that figure may need some teasing out.

1. Where did it come from... I bet that is a total sum and therefore probably half the amount.

2. If one side defaults, without including the flow on and implosion after that, the ACTUAL value lost would be ONLY the margin put up. Not the nominal value of the derivative. So whats at risk is probably 5% or less of that figure.

Yes either way its still a Sh*t storm in the making but suspect we can knock a few 00 off

TH,

1.the figures are from the Bank of International Settlements (BIS) who collate and report them. Yep, you're right in one sense about halving it, that its two sides of one contract, but that's still total exposure.

2. The problem is that in bankrupcy notional value becomes real value, as the party who is owed, must write off the full value of what they expected to get paid. Most of the OTC derivs are swaps. CDSs, Forex and Interest rate swaps. I don't think OTC derivs use margin, they are basically privately negotiated contracts, all different, with no standards and therefore no exchange and no clearinghouse to pay up in case of default. (Not like the usual futures and options traded on exchanges)

You're right though, that we won't go down for the total full value of all contracts. The $700b is an attempt to buy as many as possible that can be washed against each other.

I wouldn't have a clue what the bottom line figure is for a unwind but when you look at most financial institutions balance sheets, and combine it big derivative losses, then add that credit has dried up, (if a bank loans at 10:1 against its assets, keeping 10% on hand for withdrawals, (called its Prime Assets Ratio - more like 2-4% now) it means if it takes a $1b loss, thats a $10b reduction in what it can loan out -thats why real estate is toast also.), then add in hedge funds, money mkt funds, brokerages etc starting to go broke, and panicked withdrawals from everything and we're still contemplating financial armageddon.

Mr Burns - Ta!

Chops - Ta also, although I hope you realise thats very out of character

I was talking about Weimar Germany and WWI repayments, that was hyperinflated away and then currency default. Today's debt from integrating East Germany is way less, although it still knocked them about for a fair few years. I think they're on top of it now.

 

[chops_a_must]

Chops - Ta also, although I hope you realise thats very out of character

I was talking about Weimar Germany and WWI repayments, that was hyperinflated away and then currency default. Today's debt from integrating East Germany is way less, although it still knocked them about for a fair few years. I think they're on top of it now.

I call spades spades and spuds spuds.

I know they halted repayments of the debt for a long time after the currency collapse and other dramas, but it was only in reading about this again the other day that I found they seem to still be paying off that same debt to some extent.

 

[tech/a]

R/S thanks for the reply---making even more sense now.

Is it THIS thats coming home to roost NOW?

http://www.cornerstoneri.com/comments/TrillionDollarSecret.htm

 

[Temjin]

Thanks R/S, great post too!

Editor of CIJ just released this article today, it seem to fit the topic of this thread really well.

http://cij.inspiriting.com/?p=548

When ‘cash’ becomes confetti, inflation/deflation becomes irrelevant

The financial and economic events of this month is amazing and history will one day judge September 2008 as one of the major turning points.
Today, if you follow the inflation/deflation debate on the Internet forums, blogsphere, etc, you will find this issue to be a highly divisive, polarising and at times, rather emotional debate. No wonder it is a highly confusing time for investors and traders.

For investors, it will be a big mistake to take sides in this debate. You may have certain inclination towards one or the other side of the fence, but do not dig in and get permanently committed to an opinion/idea. From our observations, some people have become too religious and emotionally involved to one side of the debate. They have become so religious that whoever belongs to the other side is regarded as an infidel. Such loss of objectivity will cloud your judgement.

First, for our newer readers, please take a read at What is inflation and deflation? for our definitions of inflation or deflation. They are not the mainstream idea of price rise/falls.

So, will hyper-inflation or severe deflation be the endgame of this financial crisis?

We don’t know which one will be. But our guess is that it is probably the former. But that does not mean we are loyally committed to that position and bet our entire life and wealth on that. After all, life is more subtle than that either black or white. Because we cannot know with certainty what the future will hold until time has passed, it becomes a game of probability for the present.

Now, take a read at Understanding the big picture in the inflation-deflation debate,

So, the world’s fiat money system works under the ‘mechanism’ of credit. Because money has to be returned, it acts, in theory, as a check against abuse and rampant monetary inflation.
…
The fact that the global financial system is facing acute deflation threat shows that this credit-system ‘mechanism’ is working to protect the integrity of fiat money!
​

At the root of the deflation argument is the fact that we live in a credit-based economy. As long as this credit-based system is in place, any inflationary bubble will be ultimately deflationary. Please note that the word “ultimately” in the previous sentence is bold. The word, “ultimately,” is a very important qualifier. This implies that before the ‘ultimate’ deflation, we can have inflation in the interim.

So, to illustrate the point of this qualifier, let us conduct a thought experiment. For the purpose of argument, let’s assume that the credit mechanism is firmly in place.

Say, the US nationalisation of its financial sector transfers most of these toxic private sector debt into the public debt. Given that the US government already has a huge amount of debt, this means they have to raise even more debt. The only way for the US government to issue more debt is to issue government bonds, which is still borrowed money that has to be returned. We can see why this is still ultimately deflationary because no matter how much the US government borrows, it has to return them eventually (e.g. by raising taxes).

Now, let’s take a step further and say that the US government monetises its debt by selling the newly issued government bonds to the Federal Reserve. That’s in effect printing of money. Even then, some will argue it is still ultimately deflationary because it is still credit i.e. the government has to eventually buy back the bond from Federal Reserve.

Let’s take a step even further. Let’s say the government pays off that expired monetised debt by monetising even more debt. That’s like an individual borrowing from one credit card to pay off another credit card. Imagine what will happen if the government do that! Its debt will grow exponentially, which is hyper-inflationary. Still, it can be argued that it is still ultimately deflationary because all these government debt has to be returned.

At this point, let’s pause and think.

In such hyper-inflationary environment, it’s doubtful whether people will see government legal tender ‘cash’ as money any more. In Zimbabwe, during an auction of a car, ‘cash’ no longer function as money. Instead, petrol vouchers (denominated in litres of petrol) were used as a unit of account for the bids. In Vietnam, the recent high inflation of the Vietnamese currency leads to some instances whereby people no longer uses legal tender ‘cash’ as money in buying/selling land.

The point we are trying to make is that by the time the situation becomes that bad, all talks about inflation or deflation is irrelevant because, ‘cash’ no longer function as money for practical purposes. They become as good as confetti. Who cares about the inflation or deflation in the supply of confetti?

Please note that the purpose of this article is not to make an inflation/deflation forecasts in the prediction sense. Its purpose is to show you how dragging an idea to the extreme can lead to erroneous thinking. In this example, while it is true that deflation will ultimately happen theoretically in the context of a credit-based system, it is pragmatically irrelevant.

In effect, they rollover their debt over again and again and again forever.

Is it THIS thats coming home to roost NOW?

http://www.cornerstoneri.com/comment...llarSecret.htm

This is what Warren Buffet had been calling thosecomplex dervatives as the "Financial Weapon of Mass Destructions". Who knows how it will turn out, such a scary thought already.

http://news.bbc.co.uk/2/hi/business/2817995.stm (this is back in 2003 too!)

And I always enjoyed reading cornerstoneri, one of the best financial advisory firm around in my opinion.

 

[tech/a]

To my next questions.

So there is a real chance that we will firstly see an increase in inflation as the US (And in the US) attempt to keep up the ---print money---expand wealth to pay it back scenario.

(1) Whats this going to do to the US $.
and importantly as Gold/Oil and just about everything else is valued against US$s
We will be pulled along by their economic armageddon.

(2) Eventually there will be a real devaluation of the $ as it becomes so diluted in terms of buying power---and again commodities linked by the value of the USD will I presume become vastly cheaper as strong currencies can buy much more V the USD.

(3) The US would eventually become a place of interest in which to invest---imagine AUD being valued at 3X the USD.

In summary its this link between the USD and its use as the base currency and the fluctuations within it in the longterm which have me raising the questions above.

(4) In the end is this not pulling us into a WORLD economy ?
The new order.

 

[Junior]

(3) The US would eventually become a place of interest in which to invest---imagine AUD being valued at 3X the USD.

A place of interest in which to invest AND TRAVEL. I'll be snowboarding in Colorado every year if this scenario eventuates.

 

[Trembling Hand]

A place of interest in which to invest AND TRAVEL. I'll be snowboarding in Colorado every year if this scenario eventuates.

Just like NZ

 

[theasxgorilla]

To my next questions.

So there is a real chance that we will firstly see an increase in inflation as the US (And in the US) attempt to keep up the ---print money---expand wealth to pay it back scenario.

(1) Whats this going to do to the US $.
and importantly as Gold/Oil and just about everything else is valued against US$s
We will be pulled along by their economic armageddon.

(2) Eventually there will be a real devaluation of the $ as it becomes so diluted in terms of buying power---and again commodities linked by the value of the USD will I presume become vastly cheaper as strong currencies can buy much more V the USD.

(3) The US would eventually become a place of interest in which to invest---imagine AUD being valued at 3X the USD.

In summary its this link between the USD and its use as the base currency and the fluctuations within it in the longterm which have me raising the questions above.

(4) In the end is this not pulling us into a WORLD economy ?
The new order.

Where is the Euro in these scenarios? Are there are other scenarios involving commodities priced in another currency like the Euro?