David Stockman on the Coming European Train Wreck
David Stockman, former Director of the White House Office of Management and Budget during the Reagan Administration, has in recent years become a prominent and outspoken critic of the Fed, central banking policies generally, government finance schemes, and other aspects of the world's screwed up financial regimes. Mr. Stockman's perspective on these issues is unique. He played an integral role in government in the early days of the long running credit and government finance bubble which led to the mushrooming multifaceted financial crisis now engulfing the world.
Mr. Stockman subsequently spent many years on Wall Street in the investment banking and private equity arenas, as well as the corporate world, where he gained a perspective on the impacts of government policies on the financial system, and the perverse behaviors that result from bad policy. He has been a proponent of fiscal sanity for decades, even during a time when many politicians and economists believed that deficits didn't matter. He issued stern warnings about runaway deficits 25 years ago which ring all too true today. We now face the dire consequences of the practices he warned against.
After leaving the Reagan Administration Mr. Stockman wrote frankly and critically about his role and experiences in the Administration in his book, The Triumph of Politics. The book is still relevant today as an historical study of the origins of the economic philosophies and government processes that led to the ever worsening mess in government finance.
As an important sidelight, I also found in the book fascinating insights into the psychology and personalities of not only members of the Reagan Administration, including the President, but of politicians in general. In many ways, the book confirmed my view that politicians have personality "issues" (OK, I am being more polite than usual).
Recently I had the privilege and the pleasure of meeting David Stockman at his home in Greenwich, for lunch and an afternoon of conversation. We were joined by Bruce Krasting, another veteran of Wall Street and the hedge fund world, and an insightful observer and commentator on the current scene (who also has graciously permitted The Wall Street Examiner to repost his commentaries).
The 3 of us, joined by Mrs. Stockman and Mrs. Adler, had a lively and fascinating discussion over the course of nearly 4 hours. At my age it's impossible for me to recall all the specifics, and I wouldn't want to run the risk of paraphrasing and misrepresenting the thoughts of others. However, I continue to correspond with Mr. Stockman and he has been kind enough to allow me to share some of his thoughts with you. He is currently writing a book on the financial crisis which I am looking forward to reading. Some of the thoughts he expresses in our exchanges he relates to the ideas he is developing in the book.
In his most recent email to me, Mr. Stockman expounds on some things that illustrate why the European banking system is on the verge of collapse:
The real story of the present is the shadow banking system, the unstable and massive repo market, and the apparent daisy chain of hyper-rehypothecated collateral. It looks like the sound bite version amounts to the fact that the European banking system is on the leading edge of collapse for the whole system. These institutions are by all evidence now badly deficient of the three hallmarks of real banks—deposits, capital and collateral.
BNP-Paribas is the classic example: $2.5 trillion of asset footings vs. $80 billion of tangible common equity (TCE) or 31X leverage; it has only $730 billion of deposits or just 29% of its asset footings compared to about 50% at big U.S. banks like JPM; is teetering on $500 billion of mostly unsecured long-term debt that will have to be rolled at higher and higher rates; and all the rest of its funding is from the wholesale money market , which is fast drying up, and from repo where it is obviously running out of collateral.
Looked at another way, the three big French banks have combined footings of about $6 trillion compared to France's GDP of $2.2 trillion. So the Big Three french banks are 3X their dirigisme-ridden GDP. Good luck with that! No wonder Sarkozy is retreating on France's AAA and was trying so hard to get Euro bonds. He already knows he is going to be the French Nixon, and be forced to nationalize the French banks in order to save his re-election.
By contrast, the top three U.S. banks which are no paragon of financial virtue—JPM, BAC, and C—have combined footings of $6 trillion or 40% of GDP. The French equivalent of that number would be $45 trillion. Can you say train wreck!
It is only a matter of time before these French and other European banks, which are stuffed with sovereign debt backed by no capital due to the zero risk weighting of the Basel lunacy, topple into the abyss of the shadow banking system where they have funded their elephantine balance sheets. And that includes Germany, too. The German banks are as bad or worse than the French. Did you know that Deutsche Bank is levered 60:1 on a TCE/assets basis, and that its Basel "risk-weighted" assets are only $450 billion, but actual balance sheet assets are $3 trillion? In other words, due to the Basel standards, which count sovereign and other AAA assets as risk free, DB has $2.5 trillion of assets with zero capital backing!
This is all a product of the deformation of central banking and monetary policy over the last four decades and the destruction of honest capital markets by the monetary central planners who run the printing presses. Furthermore, this has fostered monumental fiscal profligacy among politicians who have been told for years now that the carry cost of public debt is negligible and that there would always be a central bank bid for government paper. Perhaps we are now hearing the sound of some chickens coming home to roost.
The facts speak for themselves. Thanks to David Stockman for sharing these insights.
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