Full story here. From Asia Times by Antal Fekete, who could be described as radical merely for holding the belief that gold could be used as a currency and for pointing out balance sheet idiocies. Oh well, can’t please everyone. If you want less scholarly and more cheeky, you can go here.
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“Our title is borrowed from a caption of the Chicago economist and monetary scientist Melchior Palyi (1892-1970) writing on the fiscal and monetary legerdemain of the US government in his Bulletin #401, dated February 27, 1960, as follows:
Faking balance sheets legalized
A corporation publishing faked balance sheets would be barred from every stock exchange. It may even face criminal prosecution. The objective is to protect the public against fraud. But exactly the same fraudulent practice has been legalized in so far as commercial and savings banks, and life insurance companies are concerned.
They can carry government bonds on their books at par value. A $1,000 bond may be quoted in the market at $800 or less; the balance sheet of your bank will still show it at $1,000. The purpose of this regulation, adopted by all federal and state supervisory agencies and by the Securities Exchange Commission as well, is to give those bonds a sacrosanct status and guarantee against paper losses. Thereby they are promoted to an absolutely safe and “liquid” status. The bank examiners count the bonds of the federal government, whatever their maturity and actual market price may be, as prime liquid assets, just like cash. The more bonds in the portfolio, the more liquid is the bank by the examiners’ standards – never mind the paper losses.
It is small wonder that the banks purchase long-term federal obligations, thereby creating a market for them. The result is that with rising interest rates and declining values of medium- and long-term securities, the modest capital and undivided surplus of the banks – reserves against losses – are impaired. In the case of quite a few banks, the entire capital and all reserves have been lost. In some cases, even a part of the deposits has been wiped out.
Silence of the Sea
But the public knows nothing about this sad situation. No newspaper dares to discuss it, or the preposterous practices of the government at the root of it. The “Silence of the Sea” covers them up. Those on the inside (and insight) hope and pray that a recession will reduce the pressures on the capital market, lower interest rates, raise bond prices, and wipe out the losses. Very likely it will; but what about the next cycle? And, above all, for how long, or how many times, will the depositors and savers permit themselves to be fooled and victimized? Sooner or later every legerdemain, however clever or subtle, is exposed – and backfires.
A further consequence is that the bond portfolio of the banks “freezes up”. By selling bonds, the bank would convert paper losses into real losses, which would skyrocket if major amounts were liquidated. While the boom and high interest rates obtain, the “prime liquidity” turns out to be the very opposite, unless the bonds are monetized at, and the losses shifted onto, the Federal Reserve. But the central bank can be relied upon to resist the “temptation” to absorb either or both.
The above was written in 1960. In 2009, we are wondering what has hit our banks. No mystery there. It was not subprime mortgages nor other loose lending practices. The banking crisis is entirely self-inflicted or, more precisely, government-inflicted, the origins of which – faking balance sheets – go back almost 90 years. (more…)