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The Real Power in Pakistan

Fri, 20 Nov 2009 10:38:24 -0800

Interesting take from Sabrina Tavernise in the NYT:

The military and intelligence establishment remains unassailable. It is both revered and feared by Pakistanis, who suspect its nationalist fringes of maneuvering behind the scenes, with help from allies in the news media, to keep civilian governments off balance.

At the same time, the news media today need little prodding, and are more diverse, powerful and nationalistic of their own accord than at any other point in the nation’s history.

“The media has a larger-than-life role,” said Maleeha Lodhi, a former Pakistani ambassador to the United States. “It’s been setting the agenda for the country.”

Pakistanis themselves are not entirely comfortable with that development. In a Gallup Pakistan poll released last Friday, nearly one-third of 2,765 Pakistanis surveyed blamed the media for political instability in the country, according to the Gilani Research Foundation, which released it.

The anti-Americanism is part of that new media explosion. “It reached a fever pitch,” said Madiha Sattar, a journalist with the monthly magazine The Herald, who wrote a cover article on the topic in October.

Pakistanis have reason to mistrust the U.S. of course. Most notably our backing of the military dictator Zia who crushed dissent and executed the elected president. That was followed by ignoring the region once the Cold War ended. Now we're suddenly concerned again. It's no wonder the local Rupert Murdochs see a play in fomenting against the Great American Satan.

TGIF!!

Fri, 20 Nov 2009 08:59:15 -0800

I wish I had the weekend off

Can Nuclear Terrorists Be Deterred?

Fri, 20 Nov 2009 03:39:18 -0800

THE DEPROLIFERATOR -- As you no doubt know, deterrence is the product of a balance of power -- nuclear arsenals, in other words, that are roughly equal. Constrained by the eye-for-an-eye principle, but to the umpteenth power, states armed with nuclear weapons, such as the United States and the Soviet Union during the Cold War, and India and Pakistan today, keep their nukes holstered.

But terrorists, according to conventional thinking, are immune to deterrence. If they ever obtained nuclear weapons, they'd suffer few qualms about using them. First, they're secure in the knowledge that they're ostensibly stateless. It's unlikely that the state which they've attacked with nuclear weapons, such as the United States, would retaliate against the state which served as their command center for the attack. (Can't speak for another possible target, Israel, though.)

Second, not only don't they fear retaliation, were it to occur they'd welcome it. To terrorists, runs this line of thinking, an apocalypse is just an expressway to heaven for their martyred souls. Thus, according to these scenarios, turning their back on deterrence and mounting a nuclear attack is a win-win proposition for terrorists.

More likely, if terrorists were to obtain nuclear weapons, they would be as domesticated by their acquisition as states are that develop them. The better part of the power of nuclear weapons lies in their potential, not their kinetic energy. Intact, they can be used to bargain for goods, respect, and security.

For instance, Islamic terrorists might offer to turn over their nuclear weapons if Israel turned over its half of Jerusalem. Of course, when they're inevitably denied, they'll find themselves painted into a corner as sure as the United States and the Soviet Union did during the Cuban Missile Crisis.

We in the West think of terrorists, especially Islamic, as a homogeneous mass. But as with any such group, there are those on the margins of, say, al Qaeda or maybe Lashkar-e-Taiba (the Mumbai attackers), who are almost as crucial to their operations as those on the inside. Among them are individuals who provide transport and shelter; nuclear scientists and technicians, should their services be sought, fall under the same category. Since any ideological motivations on the part of the outsiders may be secondary to the financial, they may be more vulnerable to deterrence that threatens their families and people.

In fact, some believe, a deterrent to the command structures of terrorist groups does exist -- and it's self-imposed. . .

For terrorist organizations that would want to take credit for a nuclear event, failure, not discovery, is likely to be the main deterrent. … Present evidence shows that [they] prefer to carry out actions where the odds of success are high even if those actions are less destructive than they might prefer. [Emphasis added.]

That's from Nuclear Forensics: Role, State of the Art, and Program Needs, an undated (most likely 2007 or 2008) report by the Joint Working Group of the American Physical Society and the American Association for the Advancement of Science. Wait, what does forensics have to do with a nuclear attack? Setting off a nuclear weapon isn't like stabbing a stranger in an alley. Isn't the perp even more self-evident than a criminal who has an ongoing beef with someone who turns up dead?

While that's true of a state, what makes a nuclear attack by terrorists unique is not that we wouldn't know who pulled it off or why. Chances are they'd be willing to be the bearer of both those glad tidings. Instead, the question becomes: "Who supplied them with the weapon?"

CSI: Ground Zero

Nuclear differs from criminal forensics in not only its emphasis on the chemical, but in that it's working for much higher stakes: attempting to prevent or solve the greatest mass murder in history. Specifically, according to the Joint Working Group paper, it determines questions such as:

Was the event really a nuclear explosion? What was the yield. … Were [substances] present, which would denote the presence of [shudder -- RW] thermonuclear reactions? … What can be inferred about provenance and history? … What was the most probable device design?

Much of this, the paper explains, depends on the creation of a "comprehensive international database of nuclear material fingerprints." Even better would be an international program for making "the nuclear materials more easily identifiable by tagging them with distinctive markers."

It's not easy to convince states that are understandably "hesitant to internationalize the most sensitive parts of their nuclear infrastructure" to take part in these programs. But those that don't would be the first towards which suspicious eyes were cast in the event of an incident.

An alternative means of encouraging reluctant states to cooperate could be the implementation of a "negligence" doctrine. In another work on the subject, "Nuclear Attribution as Deterrence" (not online) in the March 2007 Nonproliferation Review, Michael Miller reports on a writer named Anders Corr. He argues that the U.S. Cooperative Threat (Nunn-Lugar) program, which helps secure loose nukes in Russia, as well as dismantle designated Soviet era nuclear weapons, is a double-edged sword.

Some of its funding, Corr believes, is siphoned off for corruption. Thus, lest the flow dry up, Miller writes:

. . . there is very little incentive within [Russia] to actually secure material. [Corr advocates] a harsh form of deterrence where those who permit nuclear theft, especially the leaders of the state, would be held completely accountable. … A negligence doctrine dealing with nuclear weapons material is necessary for deterrence [lest] a negligent state. . . think that it will pay only a small price for 50 kg of lost HEU.

But, with a ploy straight out of a spy thriller, nuclear forensics could conceivably be thwarted. Here's the Joint Working Group on what it refers to as "spoof," though the term hardly does justice to its gravity:

States or terrorist organizations, for reasons that might range from protecting secrets to preventing attribution, may attempt to spoof any later investigation by mixing material from different sources.

Also, as Steve Hynd of Newshoggers points out, a spoof could conceivably by used by one state, such as Pakistan, to frame another, such as India (or vice versa), in order to invite retaliation against its enemy. Miller again:

How easily could [nuclear] signatures be falsified? It would be relatively simple for an expert nuclear weapons designer to create a weapon that looked improvised or that was made of reactor fuel instead of an alloy designed for weapons. The tradeoff would be settling for a larger chance of failure and a smaller yield.

Finally, to improve the odds that "the perpetrators of a nuclear terrorist act will fail and be apprehended and prosecuted," the Joint Working Group writes, credible forensic capability must be "demonstrated by successful attribution of intercepted materials." [Emphasis added.]

In other words, proving the provenance of interdicted nuclear materials can serve as a trial run that demonstrates how nuclear forensics might succeed in the event of a nuclear explosion. It's true that nuclear forensics suffers from staffing and funding problems. But the greatest obstacle to its effectiveness deterring states that are either careless about their nuclear materials and know-how or that are willing to trade them with terrorist groups may be a simple lack of publicity. Miller writes:

While recent academic treatments have begun to explore the technology, few government documents describe any of the specifics of post-explosion attribution. This may be intentional, to make the attribution more difficult to spoof, but it can also give the impression that the technology is less-than-ready. [But attribution capabilities] are probably good enough to publicize the technology with the aim of deterring state leaders.

Besides, "More important than technology [is its] perception. … Thus, rather than worry that the technology will not be successful, the United States should fear that it has not been demonstrated well enough."

In the long run, in tandem with international cooperation and spelling out exactly what retribution awaits the offending state, nothing is more critical than advertising the capabilities of nuclear forensics to determine the origins of a nuclear bomb.

The emergence of a sophisticated form of deterrence that doesn't rely on that most blunt of all forces -- "mutual assured destruction" -- is a hopeful development for the future of humankind. But, however encouraging nuclear forensics is, the sheer bulk of the infrastructure and apparatus dedicated to deterring or determining a perpetrator has come to resemble those surrounding domestic crime, which costs the United States over $100 billion a year.

Some day we may learn that it's a lot cheaper to make humankind economically and, thus, psychically secure. Perhaps then we'll stop looking for security in all the wrong places -- such as in weapon systems poised to blow up in our faces at a moment's notice.

First posted at the Faster Times.

'Unreasonable' to Expect al Qaeda to Ignore Success of Somali Pirates

Thu, 19 Nov 2009 12:48:19 -0800

In charting how far afield (or a'sea) that Somali pirates are venturing into the Indian Ocean, Gadahn at maritime blog Information Dissemination also points out. . .

With Army Generals in Afghanistan now pointing out that Al Qaeda has almost entirely shifted out of Afghanistan to Pakistan and Somalia, Somalia should be treated as an emerging asylum for the global jihad with intent to attack the United States. It is unreasonable to suspect Al Qaeda movement and activity in Somalia only to additionally assume they will ignore the incredible effectiveness of piracy originating from Somalia. The tactics, training, technology, and revenue streams surrounding the Somali piracy problem suggests an ideal environment for further expansion of Al Qaeda capabilities and techniques, and the absence of any containment off the coast of Somalia is an invitation to future disaster for western nations that depend on trade at sea. The ranges involved in recent attacks highlight that containment must be examined as the next step, because if the global community does not move to contain the expanding problem of piracy in the Indian Ocean, we are playing with gasoline in one hand, and a flamethrower in the other.

Do Agonist readers think al Qaeda would attempt to take over from the pirates or initiate copycat operations?

Thanks to Eric Martin at Progressive Realist for the link.

http://www.informationdissemination.net/2009/11/somali-piracy-continues-expanding.html

Exhibit 1,231 In Our Creaking Infrastructure

Thu, 19 Nov 2009 08:55:34 -0800

Flying is the pits, especially in America. It's also getting worse:

A failure early Thursday morning of a system that feeds flight plans to air traffic controllers snarled thousands of flights in the eastern United States. By mid-morning the system was working again, but the backlog caused wide airport delays.

The same system failed in August 2008, but it was not clear if the cause was the same this time. The system, the National Airspace Data Interchange Network, situated in Atlanta with a backup in Salt Lake City, was a casualty of another failure in the tightly linked [system], one official at the Federal Aviation Administration said. Technicians were still trying to determine the cause of the glitch.

This is just another argument for a better, more comprehensive and expanded rail system in the United States. Sure, it's not a 'shovel-ready' infrastructure project, but it is one that will help grow the economy, create jobs and increase the quality of life for many Americans.

The airlines would surely lobby against such a thing, however, just like Southwest lobbied heavily against a high-speed regional Texas rail system several years ago.

What Really Happened with the AIG Swaps? It's Not What You Think

Thu, 19 Nov 2009 08:01:11 -0800

By now most people who follow Goldman Sachs in the news know that it received $13 billion from the Federal Reserve to liquidate its portfolio of derivatives with AIG. Because the Fed was willing to pay Goldman par value on these derivatives, even though the market valued them at about 48 cents on the dollar, Goldman walked away with no loss whatever from the AIG collapse. This has been described as a great gift for Goldman and all the other banks who dealt with AIG and who were treated the same way. Many others have described this as a colossal rip-off of the taxpayers.

How did this come about? We know a lot more this week about these transactions because of a report that has been issued by Neil Barofsky, the Special Inspector General for the bank bailout programs. The press has described this report as particularly damning of the NY Federal Reserve which negotiated these deals with the banks, and which was led at the time by Timothy Geithner, the current Treasury Secretary. These press reports, however, have mischaracterized what happened and what went wrong. The NY Fed acted properly and entirely as one would expect under the circumstances when they negotiated these contract abrogations. To see what really went wrong, follow along on the details below.

The AIG Transactions

First, a little bit of background on what got AIG into trouble. The insurance giant had a subsidiary in London called AIG Financial Products (AIGFP). This company developed a business that offered customers financial protection on a derivatives contract known as a Collateralized Debt Obligation (CDO). These derivatives packaged together various debt instruments, such as loans, bonds, mortgage-backed securities, even other CDOs, into a single security. When you bought the security, you received a regularly scheduled set of cash flows generated by these debt instruments as interest payments were made. You paid an up-front premium for these cash flows, which usually took place over a three to five year period during the life of the security.

It is interesting to note that the buyer of the security, and for that matter the seller/creator of the security, had no legal interest in the debt instruments. The bonds or loans could be any debt of this nature where public information was known about the interest rate, and whether or not a default had occurred by the debtor. There could be dozens, or even hundreds of different debt instruments bundled into one security.

These CDOs carried a public rating from Moody’s or S&P or Fitch, any of the three big ratings agencies. Also, you could get a daily price on the CDOs from a third party pricing agent located in London. If the price was 100, the security traded at its par value, meaning all payments were highly likely to take place over the life of the security as required by the contract. If the price was 48, on the other hand, it meant the market believed the security was seriously impaired due to defaults occurring on some of the debt instruments in the security.

Big banks loved to create CDOs up until the market crashed in 2007. CDOs were very lucrative. Banks had loan books that gave them a natural portfolio of debt as a start in creating a CDO, but there also was the booming housing market bubble that allowed for the creation of mortgage-backed securities. A huge amount of CDOs were created based on these mortgage instruments. Banks also realized that when they created and sold these securities to earn the profitable premiums involved, they were still on the hook in case any of the debt instruments in a security experienced a default. They wanted to get rid of this risk as much as possible, and pay away a little bit of their lucrative premiums for the privilege.

Here is where AIGFP comes in. AIGFP invented a derivative that acted like an insurance contract. Banks would pay AIGFP a premium, and AIGFP would promise to indemnify the banks in the event they experienced any losses on a specified CDO. The company used a derivative called a Credit Default Swap (CDS, unfortunately easy to confuse with a CDO) to structure this insurance product.

AIGFP was not regulated by any financial oversight agency. It didn’t even have to keep reserves on potential payouts on these CDSs, and even if it did, it has stated that the reserve amount would have been very small because it did not anticipate significant losses on the underlying debt instruments it was insuring. What AIGFP had going for it, and what the banks liked, was that it was a wholly-owned subsidiary of AIG, which carried a Aaa rating in its own name for everything it did. By virtue of this rating, AIG was viewed as one of the highest quality companies in the financial world – almost as safe and sound as a government.

The most common type of CDOs brought to AIGFP were called multi-sector: they had a little bit of everything mixed into them – loans, bonds, mortgage-backed securities on sub-prime mortgages as well as higher-quality instruments like prime mortgages. As long as none of these different types of instruments experienced unusual rates of default, the entire CDO would be traded on the market at a price close to par, and the ratings agencies would have no cause to downgrade the security.

What began to cause AIGFP trouble with its portfolio of credit default swaps backing up about $72 billion of multi-sector CDOs, was not that there were so many defaults on the CDOS that AIGFP had to make large payments under the swaps. The real problem was a series of collateral obligations AIGFP undertook every time it entered into a CDS, and the collateral conditions varied from one swap to the next.

There were three possible triggers for a collateral payment from AIGFP to the banks that bought insurance in the form of CDSs. The first occurred if the underlying CDOs being insured in the swap experienced a drop in price on the market – say from par value to 48 cents. The second occurred if the ratings given by Moody’s or some other agency on the CDOs were downgraded. The third occurred if AIG’s Aaa rating itself was downgraded.

You can now begin to see the sequence of liquidity disasters that befell AIGFP, and soon engulfed its parent AIG, starting in the summer of 2007 and extending until September 16, 2008 when AIG was near death. First, as the market realized that the US sub-prime mortgage business was experiencing very high and unexpected defaults, everyone looked at multi-sector CDOs that carried a significant percentage of these debt instruments in the security. These CDOs began to trade at lower and lower levels in the market as no one was sure just how impaired they would become.

Second, the ratings agencies began to downgrade dozens of CDOs because of the heightened default risk, and the lower prices in the market.

Third, the ratings agencies realized by 2008 that AIG stood behind the CDO market as insurer for the tune of $72 billion. At first, the long term rating of AIG was lowered, and this began a series of collateral calls from AIGFP’s swap customers. Then, by the summer of 2008, the ratings agencies were looking at downgrading AIG’s short term ratings, and doing so by several notches, which brought into question whether AIG could meet all of its obligations under these swaps. This accelerated the demands for collateral on AIG, which was experiencing a very unexpected triple whammy of collateral calls. By September, 2008, AIG had already coughed up an astounding $30 billion in collateral, and was really only half way through what ultimately it would need to satisfy contractual demands for collateral from the market. It simply ran out of resources to raise any more liquidity, and it faced inevitable default under its swap contracts, which would have led to bankruptcy.

This was the situation facing the Fed by the second week of September, 2008.

The Fed Steps In

The Fed already had its hands full in the summer and fall of 2008. First, Bear Stearns collapsed and was thrown into the arms of JP Morgan Chase, but only after the Fed agreed to take over the Bear Stearns real estate portfolio worth $30 billion in dodgy real estate assets. The quasi-government giants Fannie Mae and Freddie Mac had to be taken over by the government, then Countrywide Financial collapsed and also was pushed into a forced sale to a bank.

There was so much criticism directed at the government for the way in which these rescues were being done, and the amount of taxpayer money spent in the process, that when it came time to deal with the collapse of Lehman Brothers, the Treasury and the Fed threw this firm to the wolves on September 15, 2008. It received no help from the government and was thrown into the bankruptcy courts. This precipitated a global market meltdown.

The trigger for this meltdown occurred at the oldest mutual fund in the US, American Reserve Fund, which took a writedown of $785 million on Lehman Bros. bonds it held in its money market fund. This was announced on the afternoon of September 15, and by the close of business that day massive amounts of withdrawals were taking place at American Reserve since no money market fund had ever experienced such a loss (money market funds were supposed to be as safe as checking accounts).

When the market opened the next morning, mutual funds everywhere couldn’t cope with the withdrawals. The commercial paper market ground to a halt, as did the Eurodollar market for short term loans in London. Stock markets around the globe tanked. The global financial system was nearly paralyzed.

The US government stepped in and guaranteed the safety of all money market funds. It allowed Goldman Sachs and Morgan Stanley, the last two surviving old-line investment banks, to become commercial banks and enjoy the benefits of Fed liquidity. The Fed had been working since the previous week on the dire liquidity situation at AIG, and it had asked JP Morgan Chase and Goldman Sachs to form a bank syndicate to provide AIG with a massive $75 billion loan to solve its liquidity problem.

JP Morgan Chase came up with a package that charged AIG an onerous 11.3% on the $75 billion loan – a full $9 billion a year in interest alone. The banks would take an 80% ownership interest in AIG’s assets. This loan package was also intended to stop the ratings agencies from yet again lowering AIG’s ratings, which would have cost the company yet another round of collateral calls from the market.

There was one big problem, though. When the banks looked at AIGFP’s portfolio of swaps, and the potential collateral demands that could still occur, they realized that AIG, if it could sell all of its assets at decent market prices, still wouldn’t be able to meet the liquidity demands. In other words, the way the market was developing, AIG was headed straight towards default and the bankruptcy courts. Making this situation even worse was the global market collapse occurring at the same time as the result of the Lehman bankruptcy. The banks told the Fed that the loan package had collapsed. The banks effectively threw the AIG problem on to the laps of the regulators, none of whom by the way had any legal responsibility, regulatory oversight, or historical familiarity with AIG. It was an insurance company that had somehow become bigger and more important than even the biggest banks.

In deciding what to do, the Fed had about 24 hours from September 15 to 16 to analyze with the Treasury the AIG situation. They discovered that AIG would default on $103 billion in loans from state and local governments, $50 billion in bank loans and derivatives, $20 billion in commercial paper, and $40 billion in insurance covering 401k retirement packages across the US. The problems ranged from the horrendous to the horrific. The municipal bond market stood to be devastated by state and municipal loan losses. The Lehman bankruptcy involved $8 billion in commercial paper losses, which led to the Reserve Primary Fund disaster, but AIG’s commercial paper losses were much bigger at $20 billion. The 401k losses would affect tens of millions of Americans. AIG’s loan losses spread to banks all around the world.

The Fed and Treasury, standing in the middle of a global financial collapse the day after the Lehman Brothers bankruptcy, felt they had no choice but to save AIG, a much bigger player with far greater reach and implications for economic and financial disaster. The Treasury authorized an $85 billion line of credit at the Federal Reserve NY for the purpose of lending to AIG the amounts needed to post collateral behind its swaps at AIGFP. The Fed had no plan in place on how to do this, so it simply lifted the term sheet conditions from the JP Morgan failed loan package, and used those terms to lend to AIG.

From September 16 through October, the Fed lent $61 billion to AIG, over half of which found its way into the market as collateral to support its swaps. At the same time, AIG was instructed to begin reducing its swap book. This required AIG to turn to all the big banks with which it had a swap portfolio, and ask to close out, or abrogate the swap contracts. The banks would consider doing this, but would not want to be then left with the CDO risk that caused it to enter into the swaps in the first place. There was some talk of AIG therefore taking over the CDOs as well, which had sunk substantially in value because of the default risk, but it was very difficult to agree with each bank on what these CDOs were worth. In fact, the banks weren’t willing to sell these CDOs at any discount whatsoever, despite what the market said they were worth, so AIG turned to the Fed for help, and authorized the Fed to negotiate on their behalf.

Here is where we come to the gist of the Barofsky report and the criticisms of the Fed. But let us recap two critical facts up to this point. As of September 15, AIG was certainly heading for bankruptcy, within a manner of days. The banks stood to lose billions on their swaps with AIG, because they would be under-collateralized if the CDOs fell further in value, and because they could not easily all at once get replacement CDS coverage for their CDOs.

Second, shortly after September 16, the banks began receiving collateral from AIG, courtesy of the Fed via the $85 billion loan authorization. For the next two months, the banks were made whole as necessary whenever their CDOs fell in value. The banks could look at their portfolio with AIGFP and consider it safe and secure because of the collateral, and as important, because of the guaranty of more collateral to come as necessary, courtesy of the federal government.

The Fed Tries Its Hand at Negotiating

In early November the Fed assigned a team of managers to begin negotiating for the abrogation of the CDSs. They chose the eight largest bank counterparties to talk to, including Goldman Sachs, BOA, JP Morgan Chase, Deutsche Bank, UBS, and top of the list was Societe Generale in Paris. The plan was to ask the banks to tear up the CDS contracts through a legal abrogation agreement. It was common for banks to do this in the derivatives market from time to time, though never before on a large scale. The banks always required the customer to pay them for any potential real market losses they may incur in abrogating the contract, plus interest and a bit of a fee for all the trouble. Abrogations have never been cheap, especially if the customer was desperate to get out of a deal.

What would the banks want? Collectively, they held CDOs worth a face value of $62.1 billion, and these were the underlying CDOs behind the swaps bought from AIGFP. The banks wanted to give these over to the Fed and get $62.1 billion back, because otherwise the banks would be stuck with CDOs that were unhedged for further default problems.

The market price for this collective group of CDOs was in early November $29.6 billion, which tells you just how badly the market had trashed these instruments. But the banks held cash collateral of $35.0 billion to protect against just this contingency, and if you add the two numbers up, you come to a bit over the $62.1 billion in face value. In other words, the banks were sitting pretty. They were 100% covered for the existing market losses on these CDOs, and the market pricing was beginning to stabilize.

Remember that all this collateral came from the Fed on behalf of the now moribund AIG. The banks wanted to do a simple deal. They would give the Fed all the CDOs in exchange for $29.6 billion in cash – their current market value. They would keep all the existing cash collateral, so they would be perfectly whole. They would then abrogate the CDSs and have no further claim on AIGFP, as if the whole mess never occurred. The Fed, meaning the taxpayers, would be out $62.1 billion in cash to clean this mess up.

In preparing talking points for the negotiations, the Fed reminded each bank that it would be appropriate to give back some of the collateral to the Fed rather than keep it all. The Fed, by stepping in a month earlier, had saved the banks from billions of losses had AIG gone into bankruptcy, and these losses might have included a systemic crisis in which a few other banks went under and couldn’t pay their obligations as well. “”Be nice to us, given all that we have done for you,” was the Fed motto.

The Fed then tied the hands of their negotiators in several ways. First, the Fed would not threaten to throw AIG into bankruptcy if they didn’t get a “haircut” on the $35 billion in collateral. This would be unethical because the Fed had no plan to put AIG into bankruptcy and everybody knew it. Second, the Fed negotiators would have to do the same haircut deal with everybody. If Goldman Sachs agreed to return 30% of the collateral, JP Morgan Chase would have to agree to the same thing. Third, the banks were told up front that their participation in the negotiations was entirely “voluntary”; nobody was going to be forced to do anything or accept any haircut.

You should not be surprised that seven of the eight banks refused to take any haircut on the collateral and would therefore return none of it. They argued the cash was theirs, not the Fed’s, and they owned it by the sanctity of a legal contract that the Fed was proposing to violate. Second, AIGFP was not in default and there was no bankruptcy, and there wouldn’t be any, so giving back collateral when there was no legal requirement would constitute a breach of fiduciary duty that the banks had to their shareholders. Unstated in all this was the fact that the Fed wasn’t threatening any consequences if the banks refused to give back any of the collateral.

The kicker that destroyed any possibility of the Fed getting some of the collateral back occurred with the French bank. They told the Fed that it was not simply a fiduciary responsibility they had to follow in keeping cash that was rightfully theirs – it was decidedly against French law to give back the collateral because there was no bankruptcy. The French regulators confirmed this in no uncertain terms to the Fed, with the implication that if the Fed pushed on this point relationships with the French government would be damaged. Remember that all the banks had to agree to the same deal, so each bank had a veto power over any deal, and the French bank had the ultimate veto – it was illegal for them to give back the collateral.

The negotiating team reported all this back to Timothy Geithner, and recommended that the Fed settle all the swap abrogations by allowing the banks to keep all the collateral and thereby effectively receive par value on contracts that in the market were worth less than half that. Geithner agreed and the deal was done. The Fed then promptly kept all these details secret, including the names of the banks involved, and even went to court to maintain this secrecy under the financial equivalent of a “state secret” argument. They recently lost this argument on appeal to a higher court, and the Barofsky report severely berated the Fed for this because no terrible consequences have occurred now that the details are known.

What Went Wrong Here?

The Barofsky report lays a pretty heavy blanket of criticism on the Fed for not just the secrecy of their actions, but the actions themselves. The Fed didn’t have to treat everyone all the same. It could have accepted different levels of haircuts. It didn’t have to put so much faith in the sanctity of contracts when AIG was in virtual suspended animation – bankruptcy in all but name.

These criticisms do not show an understanding of how the Fed works. Like any large American organization, it pays considerable attention to the law. Timothy Geithner had a high powered, high-priced General Counsel sitting as his right side all the way. Geithner was told clearly that as long as AIG was not in bankruptcy, the Fed might damage its reputation by violating the terms of perfectly sound legal contracts and insisting on repayment of collateral when it was not legally required. He was also told the Fed had no ethical right to threaten bankruptcy when the threat could not be backed up later in court with proof it was real. He was probably told – though there is no proof of this in the report – that giving any bank preferential treatment on haircuts exposed the Fed later to lawsuits of unfair treatment.

Timothy Geithner is like most American executives – he is a technocrat. He respects technical advice, especially of the legal kind, and he abides by it. Past presidents of the NY Fed might be different – Gerald Corrigan comes to mind during the Drexel Burnham bankruptcy. He would bang some heads together to get an outcome that satisfied the political pressure on the Fed, even if it meant overriding legal advice. Gerald Corrigan, by the way, now works for Goldman Sachs. He might have in this situation taken Goldman Sachs and JP Morgan Chase aside and said, “I want you guys to get your consortium of banks to agree on a haircut – something like 30% would be nice – and I want all of you to come back and voluntarily request that the CDS collateral provisions be waived in favor of paying back to the Fed some amount of the collateral. I don’t care how you do this, and it is not going to be the Fed asking for it – it is going to be voluntarily offered to us.” The banks would not need to be told that there was a steel hand underneath the Fed’s velvet glove.

Maybe Timothy Geithner would have done this, technocrat though he is, if there were enough political pressure on him to save the taxpayers billions of dollars, but there wasn’t. No one in the Bush administration – certainly not Henry Paulson at Treasury – was demanding fairness for the taxpayers. There was public disgust over the whole bailout process, but this disgust got bottled up in a Congress paid for by the financial industry. Barofsky might have mentioned that lack of political pressure, and the consequent insensitivity to taxpayer needs that the Fed and the Treasury displayed, but he didn’t, maybe because his current paymaster, the Obama administration, isn’t showing any such sensitivity either.

Which brings us to the crux of the problem, only hinted at in the Barofsky report. The real problem for the taxpayers didn’t occur when the NY Fed failed to negotiate the return of some of the collateral in November, 2008. The problem occurred on September 16, when the Fed and the Treasury were suddenly faced with a collapsing AIG. Had there been any forethought and planning for such an event, the reaction could have been very different and far less panicky.

The first response should have been: ”Financial markets worldwide are frozen, and they are going to stay frozen for a long time no matter what we do with AIG." In hindsight, this is exactly what happened. The commercial paper market has taken nearly a year to recover a fraction of its previous activity, and this was only after the Fed had to guarantee transactions. Credit spreads took nine months to begin coming down to normal levels. Banks are lending to each other only because governments around the world now guarantee their bank activity, but banks are still not lending to corporations, small businesses, or individuals. The housing market in the US exists entirely on the generosity of Federally-managed firms like Fannie Mae, Freddie Mac, and FHA. In other words, the disaster that the Fed faced on September 16 rolled on despite the rescue of AIG.

If AIG had been allowed to fail, the market would have learned a serious lesson about dealing with companies that act like banks but really have no controls or regulatory oversight like banks. The pain would have been greatest at the banks themselves. Some banks like Citigroup and Bank of America would have been even more crippled than they are now, but their current status as zombie banks would not be any different. The damage done to 401ks could have been mitigated by additional federal government guaranties, but even here the cost while enormous would have been less than what was spent paying off AIGFP’s credit default swaps at par.

Suppose you say that it is impossible to expect government bureaucrats to react on September 16 in any different manner. You can argue that any normal person would have panicked too, and that tough-nosed regulators like Gerald Corrigan don’t come around all that often – in fact these days they are all working for Goldman Sachs. Fine. Where, then, was the prudential planning for this catastrophe. All it would have taken is someone in advance of the crisis – a clever lawyer for example – inserting one clause in the agreements with banks before any collateral was posted with them. It would have said “The Federal Reserve Bank of New York reserves the right at any time to demand immediate repayment of any or all amounts of collateral posted with Bank X, with no compensation required to be paid to Bank X in any form by the Federal Reserve Bank of New York, and Bank X hereby waives all rights to petition for a legal stay of said repayment.” If the banks didn’t like this clause, they wouldn’t get their collateral. They could go ahead and sue the government for breach of contract, but in the meantime they would be experiencing real pain with their CDO portfolio and the pressure would be on them to settle. Once the collateral was out the door, the Fed lost all leverage with the banks, and this is why the November negotiations were a foregone conclusion and a waste of time.

Finally, what is fundamentally missing at the Fed and the Treasury, and certainly now with two successive administrations and almost all 535 public servants in Congress, is the sense that the big financial institutions which have created this monstrous mess are dispensible. The problems that have arisen due to their avarice and misjudgments are only going to be solved over time, and are best solved in bankruptcy courts or through FDIC closure processes, not by making these institutions wards of the state until 10 or so years later they are nursed back to health. The public can and has been protected through deposit insurance, but the collapse of lending and credit in general has not been mitigated one whit by anything done so far to rescue these institutions. Let them die a merciful, quick death if death is their fate anyway. We will all of us individually benefit from such mercy as well.

Christian Charity in Our Times

Thu, 19 Nov 2009 07:34:59 -0800

And people wonder why I am not a Christian anymore:

Posters to various message boards tell stories of seeing bumper stickers with the message “Pray for Obama – Psalm 109:8” on the highway, only to look up the verse and find, “Let his days be few; and let another take his office.” …

Anyway, now it’s a real thing: CafePress is selling T-shirts and bumper stickers . . .

However, as a number of commentators have noted, the wording that follows this bumper-sticker appeal is somewhat more disturbing:

Let his days be few; and let another take his office.
Let his children be fatherless, and his wife a widow.
Let his children be continually vagabonds, and beg: let them seek their bread also out of their desolate places.
Let the extortioner catch all that he hath; and let the strangers spoil his labor.
Let there be none to extend mercy unto him: neither let there be any to favor his fatherless children.
Let his posterity be cut off; and in the generation following let their name be blotted out.
Let the iniquity of his fathers be remembered with the LORD; and let not the sin of his mother be blotted out.
Let them be before the LORD continually, that he may cut off the memory of them from the earth.

Love thy neighbor, indeed.

US ARMY GUIDE: Hand To Hand Combat With Zombies

Thu, 19 Nov 2009 07:04:32 -0800

Just because I'm on a zombie kick (I watched Zombieland last night, Fun movie):

Never underestimate the zombie

Zombies are not mindless hunters. They are swifter and craftier than one might expect. A lone zombie can burst out of hiding and take a chunk out of you in the blink of an eye.

Never engage a zombie if you can avoid it

Though zombies are surprisingly quick in confined spaces, they are not swift runners. Engage the zombie only when you are trapped, and escape is not an option.

Focus on the task; keep fear out of your head

No one, no matter what their powers of description, can fully prepare you for your first encounter with a zombie. Their grotesque appearance and smell, along with the inhuman noises they emit, can induce a level of fear and terror that precludes rational response and causes one to freeze. You must not react to the zombie's appearance. Focus instead on delivering a combination of offensive and defensive strikes that will buy you enough time to escape.

Journalistic Malpractice

Thu, 19 Nov 2009 06:14:26 -0800

I'm a frequent critic of President Obama, but sometimes it's really important to read between the lines. Yesterday the AP posted this story. In it the writer reports that the upcoming 'jobs summit' at the White House isn't about jobs:

President Barack Obama says creating jobs isn't the goal of a coming White House forum on jobs and economic growth.

And the headline reinforces the lede:

Obama: Job creation not goal of Dec. 3 jobs forum

However, a close reading of the story in question would leave the reader confused:

More after the jump.

The president told NBC News on Wednesday that the purpose of the Dec. 3 summit is to figure out how to encourage hiring by businesses still reluctant to do so.

Confused? Well, after taking a look at the transcript of the interview with NBC's Chuck Todd its pretty clear what happened. Todd was looking for a 'gotcha' moment:

Q Right before you left for this trip in Asia, you announced that you were going to convene a jobs summit. This smacks of one of those classic Washington answers to a tough problem: convene a commission, convene a summit. How is this going to create a job?

Obama didn't take the bait. Here's his answer:

Well, that's not the goal. We're doing all kinds of things to make sure that employment is accelerated. Our first job was to make sure that economic growth was happening -- and we're starting to see that now. As I said even when we first passed the stimulus package, job growth tends to lag, it tends to happen after. So what we're seeing now is businesses are starting to invest again, they're starting to be profitable again, but they haven't started hiring again.

He answers Todd's question about the whole 'convening a summit' trope in the negative. And then goes on to very clearly state the jobs are the priority.

And so now a new meme might be floating out there, a la Gore invented the internet, etc. . . that Obama isn't trying to create jobs. Great work AP.

HHS Task Force Mammogram Recs Slammed

Thu, 19 Nov 2009 04:53:20 -0800

"The (task force) recommends against routine screening mammography in women aged 40 to 49 years." U.S. Preventative Services Task Force, Nov. 17, 2009

"My message to women is simple. Mammograms have always been an important life-saving tool in the fight against breast cancer and they still are today. Keep doing what you have been doing for years - talk to your doctor about your individual history, ask questions, and make the decision that is right for you." Kathleen Sebelius, Health and Human Services Secretary, Nov. 18.

Talk about a short news cycle. A Department of Health and Human Services (HHS) appointed "best practices" task force dismissed the value of "routine" mammograms as a cancer prevention technique for women 40 to 49 years on Tuesday, November 17.

More after the jump.

A day later, Wednesday, Nov. 18, HHS Secretary Kathleen Sebelius issued a statement dismissing the committee recommendations.

'The U.S. Preventive Task Force is an outside independent panel of doctors and scientists who make recommendations.

"They do not set federal policy and they don't determine what services are covered by the federal government." Kathleen Sebelius, Nov. 18.

The committee is made up of independent practitioners but operates under the sponsorship of the Agency for Healthcare Research and Quality, HHS. The agency states that their task force "recommendations have formed the basis of the clinical standards for many professional societies, health organizations, and medical quality review groups."

Sebelius didn't care. Amidst Republican outcries that this was the way Democratic sponsored health reform would operate, she issued her terse statement dismissing the dismissal of mammography for women 40 to 49.

The DC flap started when had task force member Dr. Diane Pettiti, MD on her show yesterday, Nov. 18. She asked the doctor for the name of one cancer specialist on the task force. Petitti was unable to answer (video 1:53). The doctor also told Rehm that "Cost effectiveness was not a part of the discussion. Cost was not uttered in the room."

Dr. Rebecca Zurrbier, MD, Chief of Breast Imaging at Sibley Memorial Hospital in Washington, DC was listening to the Rehm show and became incensed. She pointed out that no one on the committee had either a clinical specialty or indicated any direct experience in treating cancer in a WUSA, Channel 9 special news feature (video). Zurrbier's WUSA critique was a devastating counterpoint to Rehm's skilful questioning on her radio show earlier in the day.

The HHS sponsored task force had 16 members. These members issued a statement on cancer treatment. There is not one oncologist on the panel nor is there a radiologist. The specialties of task force physicians consist of: Family Medcine (4 members); Pediatrics (2); Obstetrics and Gynecology (2); Internal Medicine (2); Geriatrics (1); Epidemiology (1); Primary Care (1). The non MD's had these specialties: Nurse Practitioner - Psychiatry (1); Nurse Practitioner - Family Medicine (1); and, PhD researcher (1).

If you were seeking treatment for cancer or consultation on current treatment, would you consult anyone with the specialties listed? Not if you're concerned about your health. Cancer is not what these doctors treat. Dr. Zurrbier's point was so obvious, she seemed amazed that this kind of finding could even occur. So should we.

WUSA's did an on-the-spot review of task force member affiliations. They came up with three members tied to HMO's or health insurance companies. Dr. George Isham, MD is the Chief Health Officer for a major health care provider, Health Partners. Dr. David Grossman, MD, is an investigator a research division of the Group Health Cooperative health care network in the Seattle area. Dr. J. Sanford Schwartz, MD, is the past executive director of the Leonard Davis Institute of Health Economics at the University of Pennsylvania. He's also on the Blue Shield Medical Advisory Panel.

There are three other affiliations that deserve note.

Task force Chairman, Bruce Nedrow Calonge, MD, is a Colorado physician who is the Chairman of the Colorado Foundation for Medical Care, a major advisor on "quality improvement" in care for the state and other health care organizations. Dr. Pettiti, who said the recommendations would have no influence on insurance coverage, is a health policy and medical advisor for Kaiser Permanente of Southern California. Joy Melnikow, MD is the associate medical advisers for Healthwise, a medical knowledgebase company serving health providers, insurance companies, and government entities. The firm also provides software for patient information.

Thanks to the incisive questioning of NPR syndicated radio host Diane Rehm and the quick and clear response of cancer specialist, Dr. Zurrbier on WUSA, the issue hit the public airwaves and was quickly resolved with the rapid response of HHS Secretary Sebelius.

Now it's time to find out how this HHS research organization could impanel a group of experts to recommend cancer treatment protocols when none of the physicians on the panel were oncologists and none had any identified clinical experience treating cancer. It's also a good time for those on the task force to examine why they chose to issue this guideline without cancer researchers and clinicians on the committee?

Why were the deficiencies in this process, so obvious to us, too difficult for the HHS administrators to grasp?

END

This article may be reproduced in whole or in part with attribution of authorship and a link to this article.

A Tale of Two Belles

Wed, 18 Nov 2009 14:42:28 -0800

I'm going to say right up front that I don't come to any conclusions in this post. I was simply struck the contrasting outcomes in these otherwise very similar stories.

First there is the news that the pseudonymous call-girl and author "Belle Du Jour" has revealed her true identity, as a PhD level cancer researcher named Brooke Magnanti. Check out how her illicit activities have paid off for Dr. Magnanti:

The Belle du Jour blog became a hot media property, spurring speculation about the true author, a lucrative book deal. The book was serialized on UK prime time television in 2007’s “Secret Diary of a Call Girl,” starring actress of Billie Piper, and eventually played on pay cable in the US.

When I read this story, I couldn't help but recall the sad story of Brandy Britton, an American college professor who similarly dabbled in prostitution, but with a very different outcome:

More after the jump.

With Brandy Britton's trial planned to start next week, the former University of Maryland Baltimore County professor apparently took her own life over the weekend, hanging herself in her living room, Howard County police say. A family member found the body Saturday afternoon. Police say they do not suspect foul play.

It was a grievous end to a life that friends and colleagues say was once filled with remarkable promise and ambition.

Britton, 43, was the first in her family to go to college, double-majoring in biology and sociology. Her first sociology professor, Sheila Cordray, told The Washington Post last year that Britton was "one of the brightest students I've ever had."

I'm not even going to raise the fact that Britton was swept up in the D.C. Madam scandal (which also ended with the principle, Deborah Jeane Palfrey, committing suicide) or the likelihood that both cases were related to the Bush administration crack down on high end prostitution that also brought down New York Governor Elliot Spitzer.

Admittedly, Dr Magnanti plied her trade in the UK where prostitution is not quite illegal so she didn't have to face the criminal prosecutions that destroyed Britton and Palfrey, but our societies aren't so very different. There are numerous educated American women who have worked as prostitutes, written about their experiences and profited while facing no legal consequences.

It seems to me that there is a tacit approval in our society for any kind of criminal conduct that is gotten away with and used to produce a series of media properties.

Britton and Palfrey had the misfortune to have powerful Washington D.C. political figures on their client lists which dramatically changed the tenor of their cases, but I still can't help having the nagging feeling that had they had the presence of mind and chutzpah necessary to transform their experiences into something the media-industrial complex could promote and profit from they might have survived.

This feeling is dramatically intensified by watching the documentary "Very Young Girls" whose central dilemma is summarized in this NY Sun review:

"Very Young Girls" explores a loophole in the justice system that is frequently exploited for profit. According to the law, underage girls are protected from adult men trying to have sex with them; but if money is exchanged, they are held quite accountable.

In "Very Young Girls," one mother's complaint gets to the heart of the matter: "Instead of taking her to the hospital," she laments, "they took her to the jailhouse." After her child was kidnapped and forced into prostitution, she escaped the control of her pimp only to be taken into police custody and charged with prostitution.

Our pop culture currently lionizes pimps as the apex of shrewd capitalist masculinity. But watching "Very Young Girls" exposed just what a horrifying trade pimping really is. I was first struck by the psychological brutality of pimping when I read Pimp by Iceberg Slim. I'm a certifiable crime buff who's read hundreds of true crime books at every level from pulp trash to academic studies on every aspect of crime from pick pocketing to serial murder, and I have to say that Iceberg Slim's memoir is the most chilling I've ever read.

The recent case of Jaycee Dugard, kidnapped by Phillip Garrido in 1991 and forced to endure 19 years of sexual slavery provides an interesting contrast. Garrido is rightly reviled as the most loathed kind of criminal -- a child molester. But if he had followed the much more common practice of the pimp and forced the underage Dugard into prostitution rather than simply tormenting her for his own pleasure, she would instantly have partaken of his criminality. Had she been sold to other men by her kidnapper, she would have been subject to arrest and prosecution just like the girls in "Very Young Girls". And Garrido would have instantly transformed himself from the lowest on the criminal hierarchy to the highest. No longer a child molester and pedophile he would instead be a pimp and a playa, the category of criminal whose feats are celebrated in story and song.

It reminds me of the old Cyndi Lauper song, "Money Changes Everything". If you're a call girl, you can transform the social stigma into social and financial capital by turning yourself into a media property. If you're a sexual sadist with a taste for young women, you can transform yourself into the toast of criminal and pop culture by selling your victims to others.

Tea Baggers Target Al Gore

Wed, 18 Nov 2009 12:35:01 -0800

First they organize a tea bagging of a speech by Al Gore, then they vandalize the venue. I wonder if Koch Industries $ paid for the spray paint?

Full Disclosure: While I am not involved with this speech, I do consult for the Alliance for Climate Protection

Make The Rich Pay?

Wed, 18 Nov 2009 11:44:38 -0800

The results of this poll are pretty interesting:

Americans don't want to shoulder the cost of President Barack Obama's health care overhaul themselves. They think the rich should pay for it.

I don't think it will happen that way, however. As a matter of fact, I know it won't. At least not yet. But it's another indication that Americans are much more progressive, especially when it comes to taxation, than politicians realize--I also think it is an indicator of just how pissed the middle class is with the wealthy in this country.

As I have noted many times here, I am in favor of a return to golden-era Eisenhower-like taxation, but I'm not holding my breath. If the Democrats really wanted a decent health-care plan, one that creates real health-care cost savings across the board, however, they could push one through. Instead we'll get a mushy-halfway plan that will be more of regressive tax on the middle class. But we all knew that, didn't we?

Because I Am Feeling Whimsical: Would You Rather Fight An Army Of

Wed, 18 Nov 2009 09:37:54 -0800

Obama At The Wall

Wed, 18 Nov 2009 08:46:39 -0800

President Obama visited the Great Wall of China yesterday. Having seen the Wall in many different places in China, from the Badaling, where Obama visited, to the perilous angles and heights of Simitai and then all the way out in the West at the Jade Gate where the Han and T'ang walls peter out into the sand I can attest to its hold on the imagination. I've seen some amazing places in my travels but my first experience with the Wall stands head and shoulders above any other experience in China. The Great Wall is one of those places that is both cliche and profoundly impressing. It lives up to the hype.

If you are inclined to learn more about the Great Wall, its provenance and history I highly recommend this book by Julia Lowell. It is an insightful narrative history of the 'Long Wall,' its place in the Chinese psyche and that of the West. From the first tentative tamped earth ramparts built to keep out the marauding Rong and Di tribes to the massive Qing Walls that President Obama visited yesterday it is a wonderful, easy to read romp through Chinese history.