You are here: Home » Articles » Another Day, Another Bail-Out

Another Day, Another Bail-Out

by John Rubino on February 9, 2010

With a bail-out of Greece apparently imminent and everyone drawing parallels between the PIGS countries and the Wall Street firms that nearly cratered the global economy in 2008, this might be a good time to ask why each year seems to bring a new set of financial basket cases requiring taxpayer cash.

The answer, of course, is easy money. When governments create too much credit, borrowing gets easier at the margins and the less intelligent, moral, and wise end up borrowing far more than they would normally be able to. When they inevitably implode, the world gets another chance to behave rationally by letting them go, accepting the resulting short-term pain, and learning the relevant lessons. But beginning in the 1990s with the Mexican and Russian defaults and the self-destruction of Long Term Capital Management, the strong economies have chosen to avoid the pain and bail out the losers.

This lack of adult supervision produces two results:

First, the credit created by each new bail-out finds its way into other weak hands, further impairing their balance sheets and requiring more bail-outs. Now we’ve graduated from banks to governments, and apparently a borrower as inconsequential as Greece (with foreign debt of less than $400 billion) can bring down the entire global financial system.

Second, the balance sheets of the strong countries get progressively weaker. As the U.S. took on Fannie and Freddie’s trillions, so will Germany absorb Greece’s billions. And the new wave is just getting started. Greece is the worst case, but just barely. Portugal, Spain, California and Illinois all owe more than they can ever hope to pay, and will, by the current standard of everything being too big to fail, have to be bailed out in the coming year. Their debts won’t be wiped out, but will migrate to Germany, France, or Washington. At some point those countries’ rock-solid bond ratings, already fictitious, will start to drop, making future bail-outs both harder and more necessary.

So 2010 will be the year of sovereign bail-outs at the periphery, which is bad enough. But next year, once several trillion more dollars and euros have been loaded onto large country balance sheets, the bailout profile will ratchet up to the next level, with one of the superpowers finding it impossible to roll over its debt. Japan looks like the best first-domino bet at this point, but as someone said not long ago, every debt auction is now an event risk. So it could easily be the U.S. which sees Treasury demand evaporate, followed by a spike in rates and a plunging dollar.

Putting it another way, bail-outs require strong currencies. As long as someone can borrow enough to defuse the latest time bomb the party will go on. When the bond or currency markets say no more, the party will end. Then we’ll see who’s really too big to fail.

Tagged as: Dollar, Economy

{ 14 comments… read them below or add one }

Bruce C. February 9, 2010 at 11:50 am: Absolutely love this article. I agree with all of it. “…lack of adult supervision …” – that’s priceless! I just hope the stock market jumps up each time another bailout takes place so I can short it. The way I see things playing out will, ironically, both prolong the charades and make the denouement in the US even worse. (Hate to sound so negative but I didn’t start this train nor ever supported it.) The 2010 and 2011 budgets will be funded more easily than otherwise because so many foreign investors (mostly European) will pile in to Treasuries as each new socialist/loser country comes to the trough. That will make the Obama administration’s progressive political agenda seem more palatable/possible/harmless than it really is. Even California or Illinois can be bailed out when most of the Western economies will be inadvertently funding it through Treasury purchases. Consequently, the dollar index will rise (the dollar being the best of a bad bunch) and interest rates will stay low (because of the Treasury demand), which will give the appearance of stability but also prolong the inevitable deleveraging necessary in real estate especially. Eventually there will be no more buyers of Treasuries and the Fed will have to take up more of the slack again, if we get that far – which I doubt. I just hope that this time around even the most inveterate ignoramus’s get some balls and come to appreciate the wisdom of the US Constitution.
Doug Phelan February 9, 2010 at 12:39 pm: This is a great post.

I wonder how many bond auctions already have officials or surrogates from foreign and domestic central banks buying up all the extra bonds. If central banks are explicitly holding down short-term rates and implicitly holding down long-term rates, I’ll bet this could continue for a while. Debt traps can be avoided if interest rates are held down for a prolonged period of time.

The real question is not when the bond market rebels, because central banks will simply buy up all the debt that is sold by private sellers. The real inflection point will be when commodity prices start going through the roof and monetary velocity picks up. Even then, the fed will start paying interest to banks on their reserves so that the liquidity does not get multiplied by lending.

The longer this goes on though, the more catastrophic the result will be. Hopefully they are developing a new monetary regime while they are busy printing money to buy time before the collapse of the current system.
Brad Thrasher February 9, 2010 at 1:12 pm: Kind of comical how the banker sympathizers always blame the “less intelligent, moral, and wise” borrowers.

‘Splain to me again how it is an $11.00 per hour wage earner is permitted to make a million dollar mistake.
John Rubino February 9, 2010 at 1:20 pm: Brad, the “less intelligent, moral, and wise” line refers to Citigroup, California, and Greece, though you have to admit that if a guy making $11 an hour takes on a big mortgage or maxes out a bunch of credit cards, he’s not displaying much wisdom (or intelligence) either.
Brad Thrasher February 9, 2010 at 8:08 pm: I’ll give you the benefit of the doubt considering the ambiguity of the line in question.

Actually, Mr. Rubino the $11.00 an hour worker is a woman not a man. She was featured on the Handel on the Law radio show from KFI-AM, Los Angeles. Her California home was nearly paid off. On a trip to Las Vegas she bit on an offer to visit the Trump condominiums. The sales people sold her on the idea that she could sell the condo in six months for $100k profit, and “How could she lose? She was about to go into business with Donald Trump.”

She protested that she couldn’t afford the payments. ‘No problem, we’ll help you rent it” they claimed

I’m sure you can guess the rest. They and she cross-collateralized her Cali home with the condo and she lost both. The bankers of course received their commissions, Trump got his money and the lenders no doubt received a bailout and their bonuses.

And the best you can offer the woman is caveat emptor? Of course fraudulent inducement doesn’t apply. Shame on you Mr. Rubino.

Rob a bank with a gun and you get a minimum 5 years in a federal prison. Rob a bank using a computer and you’ll likely get a job as a security consultant. Own a bank and rob everybody and you get a bailout and a bonus.
BlackVoid February 10, 2010 at 1:14 am: “So it could easily be the U.S. which sees Treasury demand evaporate, followed by a spike in rates and a plunging dollar.”

No, that will never happen. They will just print money and buy up the bonds.
BlackVoid February 10, 2010 at 1:15 am: They are actually doing that already. Geithner was not kidding when he said US will keep AAA rating. No credit agency would dare to lower it.
Nelson February 10, 2010 at 8:03 am: Thrasher, I think you just made Rubino’s point. Unless you’re suggesting the $11/hr woman had a gun to her head to make her sign that deal, or unless the lender committed fraud, then she must not have had the intelligence to say no to the condo deal. Or if she knew it was a bad deal, she didn’t have the courage of her convictions to say no.
She apparently decided to trust someone who was not trustworthy; oh well, live and learn. Like Dave Ramsey would say, she now gets to pay her “stupid tax”.
All she had to do was tell those condo guys “NO!”, walk out of the room and get on with her nice life. Not to say that you or I would have done better or worse in that particular situation, but the borrowers must take responsibility for their actions.
Brad Thrasher February 10, 2010 at 10:45 pm: Oh come on Nelson. You’ve never taken a contracts class? Fraudulent inducement and fraud are not the same tort. Secondly, you paper money boy sympathizers all whistle the same tune. You apply buyer beware standard shall to the little guy who gets ripped off. You support bailouts and bonuses for the white collar crooks.

That wasn’t even a good try Nelson. I didn’t make Mr. Rubino’s point. I pointed out his double standard.
Jason C. February 11, 2010 at 5:44 pm: Won’t the bond market impose austerity once the Maginot line on bail-outs is crossed? Bill Gross’ peeps estimate that 80% of U.S. bonds are purchased by the Fed using back-door monetization already. I think the ire of what’s left of middle class America will be raised toward politicians if a few more big bail-outs come down the pike that somehow never trickle down past the politically well connected.
Brad Thrasher February 11, 2010 at 9:14 pm: Agreed Jason C. Additionally, the ire of what’s left of the middle class will boil over when the paper money boys’ President and Congress confiscate our pensions and convert them into annuities via Treasury notes or savings bonds.

We are sadly, no longer a republic but a plutocracy, plutarchy or corporatocracy.
Paul February 12, 2010 at 11:46 pm: Brad Thrasher :
Rob a bank with a gun and you get a minimum 5 years in a federal prison. Rob a bank using a computer and you’ll likely get a job as a security consultant. Own a bank and rob everybody and you get a bailout and a bonus.

PRICELESS!
Brad Thrasher February 14, 2010 at 9:48 pm: “The money powers prey upon the nation in times of peace, and conspire against it in times of adversity. The banking powers are more despotic than a monarchy, more insolent than autocracy, more selfish than bureaucracy. They denounce as public enemies, all who question their methods or throw light upon their crimes.”

Abraham Lincoln.
KevinE February 17, 2010 at 4:47 am: Isn’t the ultimate ‘truth’ of all this; that none of the participants will allow the music to stop playing (this is a game of musical chairs, or maybe hot potato)? Each time the debt moves farther from the periphery towards the center, it grows through accumulation, but also comes into stronger hands capable of doing something with it (i.e. settlement). As long as someone/thing can absorb it, or at the least hold it on or off balance sheet, no panic ensues. Losses are surely being taken by the weakest holders as they pass it along to stronger ones. There is no incentive for anyone who matters (the big folks) to make the call on the notes. Ultimately they need only let the toxic garbage degrade over time hidden away off balance sheet, and it will be as if a slow motion Jubilee had taken place.