You know that the 12 Federal Reserve Banks are owned by private banksters.
And you've heard of the Bank of International Settlements (BIS), which is the "Central Banks' Central Bank".
But you probably don't know who owns BIS or how it is regulated.
Spiegel provided the answer last month:
The BIS is a closed organization owned by the 55 central banks. The heads of these central banks travel to the Basel headquarters once every two months, and the General Meeting, the BIS's supreme executive body, takes place once a year.
So the private banks own the Fed (and other central banks), and the central banks, in turn, own BIS.
Interestingly, Spiegel points out that BIS is largely immune from regulation, oversight or taxes:
Formally registered as a stock corporation, it is recognized as an international organization and, therefore, is not subject to any jurisdiction other than international law.
It does not need to pay tax, and its members and employees enjoy extensive immunity. No other institution regulates the BIS, despite the fact that it manages about 4 percent of the world's total currency reserves, or .217 trillion ($304 trillion), as well as 120 tons of gold...
Central bankers are not elected by the people but are appointed by their governments. Nevertheless, they wield power that exceeds that of many political leaders. Their decisions affect entire economies, and a single word from their lips is capable of moving financial markets. They set interest rates, thereby determining the cost of borrowing and the speed of global financial currents.
The World needs a breather from the US. And they'll get it sooner than many think
We're making this way too complicated. It's simple really.
The Fed has only one tool at its disposal; to create more money. Typically, the way the Fed adds to the money supply is by lowering interest rates. When the Fed lowers rates below the rate of inflation; they're basically selling dollars for under a buck. That's a good deal, so, naturally, speculators jump on it and trigger a credit expansion. What follows is a frenzy of market activity that ends in a housing, credit, tech or equity bubble. Eventually, the bubble bursts and the economy goes into a tailspin. Then, after a period of digging-out, the process resumes again. Wash, rinse, repeat. It's always the same. The moral is: Cheap money creates bubbles; and bubbles move wealth from workers to rich motherporkers. It's as simple as that. That's why the wealth gap is wider now than anytime since the Gilded Age. The rich own everything.
The Federal Reserve is the policy arm of the big banks and brokerage houses. Period. Ostensibly, its mandate is to maintain "price stability and full employment". Right. Anyone notice how many jobs the Fed has created lately? How about the dollar? Is it really supposed to zig-zag like it has been for the last decade? The central task of the Fed is to shift wealth from one class to another. And it succeeds at that task admirably. The Fed's "mandate" is public relations claptrap. Bernanke hasn't lifted a finger for homeowners, consumers or ordinary working stiffs. "Yer on yer own. Just don't expect a handout. That's socialism!" All the doe is flowing upwards...according to plan. The Fed is a social engineering agency designed to serve as the de facto government behind the smokescreen of democratic institutions. Did you really think a black, two year senator with no background in foreign policy or economics was calling the shots?
Puh-leeese! Obama is a public relations invention who's used to cut ribbons, console the unemployed, and convince Americans they live in a "post racial" society. Right. (Just take a look at the footage from Katrina again) The Fed has complete control over monetary policy and, thus, the country's economic future. Bernanke doesn't even pretend to defer to Congress anymore. Why bother? After Lehman caved in, Bernanke invoked the "unusual and exigent" clause in the Fed's charter and declared himself czar. Now he has absolute power over the nation's purse-strings.
The $13 trillion the Fed has committed to the financial system since the beginning of the crisis --via loans and outright purchases of mortgage-backed garbage and US sovereign debt--was never authorized by Congress. In fact, the Fed stubbornly refuses to even identify which institutions got the "loans", how much the loans were worth, what kind of collateral was accepted for the loans, or when the loans have to be repaid.
In truth, the loans are not loans at all, but gifts to the industry to keep asset prices artificially high so that the entire financial system does not come crashing down. Check this out:
"In an analysis written by economist Gary Gorton for the Federal Reserve Bank of Atlanta.s 2009 Financial Markets Conference titled, "Slapped in the Face by the Invisible Hand; Banking and the Panic of 2007", the author shows that mortgage-related securities ballooned from $492.6 billion in 1996 to $3,071.1 in 2003, while asset backed securities (ABS) jumped from $168.4 billion in 1996 to $1,253.1 in 2006. All told, more than $20 trillion in securitized debt was sold between 1997 to 2007. "
$20 trillion! How much of that feces paper--which is worth just pennies on the dollar-- is sitting on the balance sheets of banks and other financial institutions just waiting to blow up as soon as the Fed asks for its money back? And the Fed will never get its money back because the prices of complex securities and derivatives will never regain their pre-crisis values. Why? Because these derivatives are linked to underlying collateral (mortgages) which have already declined 33% from their peak and are headed lower still. Also, these toxic assets were sold as risk-free (many of them were rated triple A) and have now been exposed as extremely risky or fraudulent. Because these assets were heaped together in bundles to strip out their interest rates, they cannot be easily separated which means that they are worth considerably less than the 33% that has been lost on the underlying collateral (mortgages) The securitization markets are not expected to rebound for a decade or more, which means that the Fed will have to find other more-creative way to goose the credit system to avoid a downward spiral.
Zero percent interest rates haven't worked because qualified borrowers are cutting spending and saving their disposable income, while people who need to borrow, no longer meet the banks' tougher lending standards. Bank credit is shrinking even though excess bank reserves are nearly $900 billion. When banks stop lending, the economy contracts, business activity slows, unemployment soars and growth sputters. Presently, the economy is still contracting, but at a slower pace than before. "Less bad" is the new "good". All the recession indicators are still blinking red--income, employment, sales, and production--all down big! But it doesn't matter because it's a "Green Shoots" rally; plenty of cheap liquidity for the markets and a freeway off-ramp (for sleeping) for the unemployed.
The Fed's lending facilities are designed to pump liquidity into the system and inflate another bubble by generating more debt. Unfortunately, most people accept Bernanke's feeble defense of these corporate-welfare programs and fail to see their real purpose. An example may help to explain how they really work:
Say you bought a house at the peak of the bubble in 2005 and paid $500,000. Then prices dropped 40% (as they have in Calif) and your house is now worth $300,000. If you only put 5% down, ($25,000) then you are underwater by $175,000. Which means that you own more on the mortgage than your house is currently worth. (This is essentially what has happened to the entire financial system. The equity has vaporized, so institutions are using dodgy accounting tricks instead of reporting their real losses.) So Bernanke comes along and gives you $175,000 no interest, rotating loan to you so that no one knows that you are really busted and you can continue spending just as you had before. Not bad, eh? This is what the lending facilities are all about. It is a charade to conceal the fact that a large portion of the nation's financial institutions are insolvent and propped up by state largess.
But there's more, too.
Now that Bernanke has given you $175,000 no interest, rotating loan; you expect that eventually he will ask for his money back. Right? So your only hope of saving your home, in the long run, is to engage in risky behavior, like dabbling the stock market. It's like playing roulette, except you have nothing to lose since you are underwater anyway.
This is exactly what the financial institutions are doing with the Fed's loans. They're betting on equities and hoping they can avoid the Grim Reaper.
Here's how former hedge fund manager Andy Kessler summed it up last week in the Wall Street Journal: "By buying U.S. Treasuries and mortgages to increase the monetary base by $1 trillion, Fed Chairman Ben Bernanke didn't put money directly into the stock market but he didn't have to. With nowhere else to go, except maybe commodities, inflows into the stock market have been on a tear. Stock and bond funds saw net inflows of close to $150 billion since January. The dollars he cranked out didn't go into the hard economy, but instead into tradable assets. In other words, Ben Bernanke has been the market." (Andy Kessler, "The Bernanke Market" Wall Street Journal)
Only a small portion of the money that has gone into the stock market in the last 6 months (since the March lows) has come from money markets. The fed's loans are being laundered into stocks via financial institutions that are rolling the dice for their own survival. The uptick in the markets has helped insolvent banks raise equity in the capital markets so they don't have to grovel to Congress for another TARP bailout. Everybody's elated with Bernanke's latest bubble except working people who have seen their wages slashed by 4.5%, their credit lines cut, the home values plunge, and their living standards sink to third world levels. And the Fed's spending-spree is not over yet; not by a long shot. The next wave of home foreclosures (already 1.9 million in the first half of 2009) is just around the corner--the Alt-As, option arms, prime loans. The $3.5 trillion commercial real estate market is capsizing. The under-capitalized banking system will need assistance. And there will have to be another round of fiscal stimulus for ailing consumers. Otherwise, foreign holders of US Treasurys will see that the US can no longer provide 25% of global demand and head for the exits.
Bernanke's back is against the wall. The only thing he can do is print more money, shove it though the back door of the stock exchange and keep his fingers crossed. The rest is up to CNBC and the small army of media cheerleaders.
There is some truth to the theory that Bernanke saved the financial system from a Chernobyl-type meltdown. But that doesn't change the facts. Accounts must be balanced; debts must be paid. The Fed chief has committed $13 trillion to maintain the appearance of solvency. But the system is bankrupt. The commercial paper market, money markets, trillions of dollars of toxic debt instruments, and myriad shyster investment banks and insurance companies are now backed by the "full faith and credit" of the US Treasury. The financial system is now a ward of the state. The "free market" has deteriorated into state capitalism; a centralized system where all the levers of power are controlled by the Central Bank. If Bernanke's Politburo withdraws its loans--or even if he raises interest rates too soon-- the whole system will collapse.
The economy is now balanced on the rickety scaffolding of the dollar. As the Obama stimulus wears off, the rot in the economy will become more apparent. Household red ink is at record highs, so personal consumption will not rebound. That means US assets and US sovereign debt will become less attractive. Foreign capital will flee. The dollar will fall.
The world needs a breather from the US. And they'll get it sooner than many think.
Tent cities springing up all over America are filling with the homeless unemployed from the worst economy since the 1930s. While Americans live in tents, the Obama government has embarked on a $1 billion crash program to build a mega-embassy in Islamabad, Pakistan, to rival the one the Bush government built in Baghdad, Iraq.
Hard times have now afflicted Americans for so long that even the extension of unemployment benefits from 6 months to 18 months for 24 high unemployment states, and to 46 - 72 weeks in other states, is beginning to run out. By Christmas 1.5 million Americans will have exhausted unemployment benefits while unemployment rolls continue to rise.
Amidst this worsening economic crisis, the House of Representatives just passed a $636 billion "defense" bill.
Who is the United States defending against? Americans have no enemies except those that the US government goes out of its way to create by bombing and invading countries that comprise no threat whatsoever to the US and by encircling others.Russia for example.with threatening military bases.
America.s wars are contrived affairs to serve the money laundering machine: from the taxpayers and money borrowed from foreign creditors to the armaments industry to the political contributions that ensure $636 billion "defense" bills.
President George W. Bush gave us wars in Iraq and Afghanistan that are entirely based on lies and misrepresentations. But Obama has done Bush one better. Obama has started a war in Pakistan with no explanation whatsoever.
If the armaments industry and the neoconservative brownshirts have their way, the US will also be at war with Iran, Russia, Sudan and North Korea.
Meanwhile, America continues to be overrun, as it has been for decades, not by armed foreign enemies but by illegal immigrants across America.s porous and undefended borders.
It is more proof of the Orwellian time in which we live that $636 billion appropriated for wars of aggression is called a "defense bill."
Who is going to pay for all of this? When foreign countries have spent their trade surpluses and have no more dollars to recycle into the purchase of Treasury bonds, when US banks have used up their "bailout" money by purchasing Treasury bonds, and when the Federal Reserve cannot print any more money to keep the government going without pushing up inflation and interest rates, the taxpayer will be all that is left. Already Obama.s two top economic advisors, Treasury Secretary Timothy Geithner and director of the National Economic Council Larry Summers, are floating the prospect of a middle class tax increase. Will Obama be maneuvered away from his promise just as Bush Sr. was?
Will Americans see the disconnect between their interests and the interests of "their" government? In the small town of Vassalboro, Maine, a few topless waitress jobs in a coffee house drew 150 applicants. Women in this small town are so desperate for jobs that they are reduced to undressing for their neighbors. amusement.
Meanwhile, the Obama government is going to straighten out Afghanistan and Pakistan and build marble palaces to awe the locals half way around the world.
The US government keeps hyping "recovery" the way Bush hyped "terrorist threat" and "weapons of mass destruction." The recovery is no more real than the threats. Indeed, it is possible that the economic collapse has hardly begun. Let.s look at what might await us here at home while the US government pursues hegemony abroad.
The real estate crisis is not over. More home foreclosures await as unemployment rises and unemployment benefits are exhausted. The commercial real estate crisis is yet to hit. More bailouts are coming, and they will have to be financed by more debt or money creation. If there are not sufficient purchasers for the Treasury bonds, the Federal Reserve will have to purchase them by creating checking accounts for the Treasury, that is, by debt monetization or the printing of money.
More debt and money creation will put more pressure on the US dollar.s exchange value. At some point import prices, which include offshored goods and services of US corporations, will rise, adding to the inflation fueled by domestic money creation. The Federal Reserve will be unable to hold down interest rates by buying bonds.
No part of US economic policy addresses the systemic crisis in American incomes. For most Americans real income ceased to grow some years ago. Americans have substituted second jobs and debt accumulation for the missing growth in real wages. With most households maxed out on debt and jobs disappearing, these substitutes for real income growth no longer exist.
The Bush-Obama economic policy actually worsens the systemic crisis that the US dollar faces as reserve currency. The fact that there might be no alternative to the dollar as reserve currency does not guarantee that the dollar will continue in this role. Countries might find it less risky to settle trade transactions in their own currencies.
How does an economy based heavily on consumer spending recover when so many high-value-added jobs, and the GDP and payroll tax revenues associated with them, have been moved offshore and when consumers have no more assets to leverage in order to increase their spending?
How does the US pay for its imports if the dollar is no longer used as reserve currency?
These are the unanswered questions.
Paul Craig Roberts was Assistant Secretary of the Treasury during President Reagan.s first term. He was Associate Editor of the Wall Street Journal.
William White predicted the approaching financial crisis years before 2007's subprime meltdown. But central bankers preferred to listen to his great rival Alan Greenspan instead, with devastating consequences for the global economy.
William White had a pretty clear idea of what he wanted to do with his life after shedding his pinstriped suit and entering retirement.
White, a Canadian, worked for various central banks for 39 years, most recently serving as chief economist for the central bank for all central bankers, the Bank for International Settlements (BIS), headquartered in Basel, Switzerland.
Then, after 15 years in the world's most secretive gentlemen's club, White decided it was time to step down. The 66-year-old approached retirement in his adopted country the way a true Swiss national would. He took his money to the local bank, bought a piece of property in the Bernese Highlands and began building a chalet. There, in the mountains between cow pastures and ski resorts, he and his wife planned to relax and enjoy their retirement, and to live a peaceful existence punctuated only by the occasional vacation trip. That was the plan in June 2008.
And now this.
White is wearing his pinstriped suits again. He has just returned from California, where he gave a talk at a large mutual fund company. Then he packed his bags again and jetted to London, where he consulted with the Treasury. After that, he returned to Switzerland to speak at the University of Basel, and then went on to Frankfurt to present a paper at the Center for Financial Studies. From there, White traveled to Paris to attend a meeting at the Organization for Economic Cooperation and Development (OECD). Finally, he flew back across the Atlantic to Canada. White is clearly in demand, including in North America.
Since the economy went up in flames, the wiry retiree has been jetting around the globe like a paramedic for the world of high finance. He shows no signs of exhaustion, despite his rigorous schedule. In fact, White, with his gray head of hair, is literally beaming with energy, so much so that he seems to glow.
Perhaps it is because someone, finally, is listening to him.
Listening to him, that is, and not to his rival of many years, the once-powerful former chairman of the US Federal Reserve Bank, Alan Greenspan. Greenspan, who was reverentially known as "The Maestro," was celebrated as the greatest central banker of all time -- until the US real estate bubble burst and the crash began.
Before then, no one in the world of central banks would have dared to openly criticize Greenspan's successful policy of cheap money. No one except White, that is.
'A Disorderly Unwinding of Current Excesses'
White recognized the brewing disaster. The analysis department at the BIS has a collection of data from every bank around the globe, considered the most impressive in the world. It enabled the economists working in this nerve center of high finance to look on, practically in real time, as a poisonous concoction began to brew in the international financial system.
White and his team of experts observed the real estate bubble developing in the United States. They criticized the increasingly impenetrable securitization business, vehemently pointed out the perils of risky loans and provided evidence of the lack of credibility of the rating agencies. In their view, the reason for the lack of restraint in the financial markets was that there was simply too much cheap money available on the market. To give all this money somewhere to go, investment bankers invented new financial products that were increasingly sophisticated, imaginative -- and hazardous.
As far back as 2003, White implored central bankers to rethink their strategies, noting that instability in the financial markets had triggered inflation, the "villain" in the global economy. "One hopes that it will not require a disorderly unwinding of current excesses to prove convincingly that we have indeed been on a dangerous path," White wrote in 2006.
In the restrained world of central bankers, it would have been difficult for White to express himself more clearly.
Now White has been proved right -- to an almost apocalyptical degree. And yet gloating is the last thing on his mind. He, the chief economist at the central bank for central banks, predicted the disaster, and yet not even his own clientele was willing to believe him. It was probably the biggest failure of the world's central bankers since the founding of the BIS in 1930. They knew everything and did nothing. Their gigantic machinery of analysis kept spitting out new scenarios of doom, but they might as well have been transmitted directly into space.
For years, the regulators of the global money supply ignored the advice of their top experts, probably because it would require them to do something unheard of, namely embark on a fundamental change in direction.
The prevailing model was banal: no inflation, no problem. But White wanted central bankers to take things a step further by preventing the development of bubbles and taking corrective action. He believed that interest rates ought to be raised in good times, even when there is no risk of inflation. This, he argued, counteracts bubbles and makes it possible to lower interest rates in bad times. He also advised the banks to beef up their reserves during a recovery so that they would be in a position to lend money in a downturn.
If White's model had been applied, it might have been possible to avoid the collapse of the financial system -- or at least soften the fall. But there was simply no support for his ideas in the singular, and highly secretive, world of central bankers.
Prima Donnas of the Banking World
The BIS is a closed organization owned by the 55 central banks. The heads of these central banks travel to the Basel headquarters once every two months, and the General Meeting, the BIS's supreme executive body, takes place once a year. The central bankers -- from Alan Greenspan and his successor Ben Bernanke, to German Bundesbank President Axel Weber and Jean-Claude Trichet, the head of the European Central Bank (ECB) -- are fond of the Basel meetings. When they arrive, the BIS's dark office building at Centralbahnhof 2 in Basel suddenly comes alive. Secretaries inhabit the otherwise deserted offices of the governors, stenographers and chauffeurs stand at the ready and dark limousines wait outside.
The penthouse at the top of the building, with its magnificent view of Basel, is decorated for the annual dinner, the nuclear shelter in the basement is swept out and the wine cellar is restocked with the best wines. At the BIS's private country club, gardeners prepare the tennis courts as if a Grand Slam tournament were about to be held there. The losers of matches can find comfort in the clubhouse, where the Indonesian guest chef serves up Asian delicacies à la carte.
"Central bankers can sometimes be prima donnas," says former BIS Secretary General Gunter Baer. He remembers the commotion that erupted at one of the annual events when it became known that a certain vintage of Mouton Rothschild was unavailable.
The corridors of the BIS headquarters buildings are lined with retro white leather chairs and sofas from the 1970s. The round table where the delegates address the problems of the global economy is polished to a high gloss. But the most impressive space of all is the auditorium, with its modern armchairs in white leather and chrome, the thousands of tiny LED lights, the booths in the back where the interpreters sit behind one-way glass, and the console where the financial masters of the world do their work, centrally positioned at the front of the room. The room is evocative of the control room in "Star Trek." It was supposed to be the hub from which the financial world was to be guided through every possible hazard.
Naturally, the building is largely bugproof, the goal being to prevent anything from leaking to the outside and any unauthorized individuals from penetrating into its interior. There are no public minutes of the meetings. Everything that is discussed there is confidential. The word transparency is unknown at the BIS, where nothing is considered more despicable than an indiscreet central banker.
Central bankers, proud of their independence, are intent on holding themselves above all partisan influences while taking all necessary measures to keep the global economy healthy.
These traits make the BIS one of the world's most exclusive and influential clubs, a sort of Vatican of high finance. Formally registered as a stock corporation, it is recognized as an international organization and, therefore, is not subject to any jurisdiction other than international law.
It does not need to pay tax, and its members and employees enjoy extensive immunity. No other institution regulates the BIS, despite the fact that it manages about 4 percent of the world's total currency reserves, or .217 trillion ($304 trillion), as well as 120 tons of gold.
"Our strength is that we have no power," says BIS Secretary General Peter Dittus. "Our meetings are generally not oriented toward decision-making. Instead, their value consists in the exchange of views." There are no across-the-board agreements on the order of: "Let's raise the prime rate by a point." Opinions take shape in a much more subtle fashion, through something resembling osmosis.
Central bankers are not elected by the people but are appointed by their governments. Nevertheless, they wield power that exceeds that of many political leaders. Their decisions affect entire economies, and a single word from their lips is capable of moving financial markets. They set interest rates, thereby determining the cost of borrowing and the speed of global financial currents.
Their greatest responsibility is to prevent a bank or market crash from jeopardizing the viability of the financial system and, with it, the real economy. It is no accident that central bankers are also in charge of bank supervision in most countries.
But this time they failed miserably. How could this community of central bankers, despite its access to insider information, have so seriously underestimated the dangers? And why on earth did it not intervene?
"Somehow everybody was hoping that it won't go down as long as you don't look at the downside," William White told SPIEGEL. "Similar to the comic figure Wile E. Coyote, who rushes over a cliff, keeps running and only falls when he looks into the depth. Of course, this is nonsense. One falls, because there is an abyss."
But why did they all refuse to recognize the abyss? Why did the central bankers, of all people -- those whose actions are above profit expectations, shareholder pressure and the need to please voters -- keep their eyes tightly shut? Did they too succumb to the general herd instinct?
"As long as everything goes well, there is a great reluctance to (make) any kind of change," says White. "This behavior is deeply rooted in the human mind."
White calls it the human factor. And that factor had a name: Alan Greenspan.
The Killjoy Vs. the Party Animal
Greenspan was long a member of the BIS board of directors and was effectively White's superior. As a fervent champion of the free market, he advocated the model of minimal intervention. In his view, the role of central banks was to control inflation and price stability, as well as to clean up after burst bubbles. Because no one can know when bubbles are about to burst, he argued, it would be impossible to intervene at the right moment.
In his eyes, the instrument of sharply raising interest rates to counteract market excesses routinely failed. Leaning "into the wind," he argued, was pointless. He could even cite historical proof for his thesis. Between the beginning of 1988 and the spring of 1989, the Fed raised the prime rate by three percentage points, the goal being to curtail lending by raising the cost of borrowing. The textbook conclusion was that this would be toxic to the markets, but precisely the opposite occurred: Prices continued to rise.
This supposed paradox repeated itself five years later. Once again, the Fed raised interest rates and, again, the market shot up.
These experiences only strengthened Greenspan's conviction that raising interest rates was an ineffective tool to counteract bubbles. However he never tried raising interest rates to a significantly greater degree than had previously been done, to see what would happen.
The question of who was right, Greenspan or White, didn't exactly lead to a power struggle in Basel. The forces were too unevenly distributed for that. On the one side was the admonishing chief economist, with his seemingly antiquated model that advocated the establishment of reserves, and on the other side was the glamorous central banker, under whose aegis the economy was booming -- the killjoy vs. the party animal.
The central bankers certainly discussed the competing models. But most of them were behind Greenspan, because his system was what they had studied at their elite universities. They refused to accept White's objections that the economy is not a science. There was no way of verifying his model, they said.
Besides, who was about to question success? Greenspan was their superstar, the inviolable master, a living legend. "Greenspan always demanded respect," White recalls, referring to the Maestro's appearances. Hardly anyone dared to contradict the oracular grand master.
And why should they have contradicted Greenspan? "When you are inside the bubble, everybody feels fine. Nobody wants to believe that it can burst," says White. "Nobody is asking the right questions."
He even defends his erstwhile rival. "Greenspan is not the only one to blame. We all played the same game. Japan as well as Europe followed the low interest policy, almost everybody did."
Meanwhile, White noted with concern what the central bankers were triggering as a result. Their policy of cheap money led to the Asian financial crisis in 1997. When the debt that banks had accumulated went into default, the International Monetary Fund (IMF) and other donors had to inject more than $100 billion (.71 billion) to rescue the world economy.
In describing the failure of the markets as far back as 1998, White wrote that it is naïve to assume that markets behave in a disciplined way.
But Greenspan, the champion of free markets, remained impassive.
Graphic: The curse of cheap money
Graphic: The curse of cheap money
A few weeks later, the market demonstrated its destructive power once again, when Russia plunged into a financial crisis, bringing down the New York hedge fund Long Term Capital Management (LTCM) along with it. The New York Fed hurriedly convened a meeting of the heads of international banks, initiating a bailout that remains unprecedented to this day. The global economy was saved from a systemic crisis -- at a cost of $3.6 billion (.2.6 billion).
And what did Greenspan do? He lowered interest rates. Then the next bubble, the so-called New Economy, began to grow in Silicon Valley. It burst in the spring of 2000. What did Greenspan do? He lowered interest rates. This time the reduction was massive, with the benchmark rate dropping from 6 percent to 1 percent within three years. This, according to White, was the cardinal error. "After the 2001 crash, interest rates were lowered very aggressively and left too low for too long," he says.
While the economy was recovering from the demise of the dotcom sector and from the terrorist attacks of Sept. 11, 2001, cheap money was already on its way to triggering the next excess. This time it took place in the housing market, and this time it would be far more devastating.
White was losing his patience. Was there no other option than to regularly allow the economy to collapse? Didn't the policy of operating without a safety net border on stupidity? And wasn't it written, in both the Bible and the Koran, that it was important to provide for seven years of famine during seven good years?
This time, White didn't just want to discuss his views behind closed doors. This time, he decided to seek a broader audience.
One Villain Replaced by Another
His destination was Jackson Hole in Wyoming, a kind of Mecca for financial experts. It was August 2003.
Once a year, the Federal Reserve Bank of Kansas City invites leading economists and central bankers to a symposium in Jackson Hole. Against the magnificent backdrop of the Grand Teton National Park, the world's financial elite spends its time unwinding on hiking trails and in canoes, before retreating into conference rooms to discuss the state of the global economy. Only those who can hold their own in front of this audience are considered important in the industry.
"This is an opportunity we can't afford to miss," BIS economist Claudio Borio told his boss, White, as he wrote himself a few last-minute notes in his room at the Jackson Lake Lodge in preparation for his speech to the symposium.
Greenspan was in the audience when Borio and White presented their theories -- theories that had absolutely nothing in common with the powerful Fed chairman's worldview, or that of most of his colleagues.
White and Borio described the dramatic changes that had taken place since deregulation of the financial markets in the 1980s. Price stability was no longer the problem, they argued, but rather the development of imbalances in the financial markets, which were increasingly causing earthquake-like tremors. "It is as if one villain had gradually left the stage only to be replaced by another," White and Borio wrote in the paper they presented at Jackson Hole. As it turned out, it was a villain with the ability to unleash devastatingly destructive forces.
It was created by what the two BIS economists called the "inherently procyclical" nature of the financial system. What they meant is that perceptions of value and risk develop in parallel. People suffer from a blindness to future dangers that is intrinsic to the system. The better the economy is doing, the higher the ratings issued by the rating agencies, the laxer the guidelines for approving credit, the easier it becomes to borrow money and the greater the willingness to assume risk.
A bubble develops. When it bursts, the results can be devastating. "In extreme cases, broader financial crises can arise and exacerbate the downturn further," White wrote in his analysis. The consequences, according to White, are high costs to the real economy: unemployment, a credit crunch and bankruptcies.
All it takes to predict such imbalances, White argued, is to monitor "excessive credit expansion and asset price increases," and to take corrective action early on, even without a pending threat of inflation.
This task, the authors concluded, must be performed by monetary policy, among other things. The central banks, according to White and Borio, could limit credit expansion and thus avoid adverse effects on the global economy.
The Jackson Hole paper was an assault on everything Greenspan had preached and, as everyone knew, he was not fond of being contradicted. Other members of the audience glanced surreptitiously at the Maestro to gauge his reaction. Greenspan remained impassive, his face expressionless behind his large spectacles, as he listened to White. Later, during a more relaxed get-together, he refused to even look at White.
White suspected he had failed to convince his audience.
"You can lead a horse to water, but you can't make it drink," he says.
'All We Could Do Was to Present our Expertise'
Now that the US prime rate is bobbing up and down between zero and 0.25 percent, and the Fed is pumping hundreds of billions of dollars into the market, White's words at the 2003 conference have undoubtedly come back to haunt many a central banker.
In that speech, White had prophesied that if the "worst scenario materializes, central banks may need to push policy rates to zero and resort to less conventional measures, whose efficacy is less certain."
He warned that the money supply could dry up. Markets, he wrote, "can freeze under stress, as liquidity evaporates." He also identified -- a full four years before the bursting of the real estate bubble -- the disturbing developments in the US real estate market as a consequence of lax monetary policy.
"Further stimulus has not come free of charge and has raised questions about the sustainability of the recovery," he warned. From today's perspective, White's predictions are almost frightening in their accuracy.
But when push came to shove, he was unable to overturn the prevailing ideology. "We were staff," he says. "All we could do was to present our expertise. It was not within our power how it was used."
Despite the disappointment at Jackson Hole, White didn't give up on supplying data, facts and analyses. Perhaps, he reasoned, this constant flow of information could help to break through mental barriers.
He would repeatedly refer to the "Credit Risk Transfer" report published by the BIS's Committee on the Global Financial System in 2003. The publication describes how loans were packaged into tranches using so-called collateralized debt obligations and then marketed worldwide. For banks, the experts wrote, "CRT instruments may reduce banks' incentives to monitor their borrowers and alter their treatment of distressed borrowers."
That, in a nutshell, was the underlying problem that would eventually trigger the mother of all crises. Many US bankers lowered their guard when it came to issuing subprime mortgages, because they could be repackaged and quickly resold, for example to unsophisticated bankers at German state-owned Landesbanken in places like Dresden, Hamburg and Munich.
The central bankers were also not exactly taken by surprise by the failure of the rating agencies. In their report, the BIS experts derisively described the techniques of rating agencies like Moody's and Standard & Poor's as "relatively crude" and noted that "some caution is in order in relation to the reliability of the results."
But nothing happened.
A Greek Tragedy in the Making
In the 2004 BIS annual report, White was unusually frank in criticizing the Fed's lax monetary policy. Although Greenspan sat on the bank's board of directors at the time, the board never sought to influence the analyses of its experts. But neither did it take them seriously.
In January 2005, the BIS's Committee on the Global Financial System sounded the alarm once again, noting that the risks associated with structured financial products were not being "fully appreciated by market participants." Extreme market events, the experts argued, could "have unanticipated systemic consequences."
Graphic: The curse of cheap money
Graphic: The curse of cheap money
They also cautioned against putting too much faith in the rating agencies, which suffered from a fatal flaw. Because the rating agencies were being paid by the companies they rated, the committee argued, there was a risk that they might rate some companies too highly and be reluctant to lower the ratings of others that should have been downgraded.
These comments show that the central bankers knew exactly what was going on, a full two-and-a-half years before the big bang. All the ingredients of the looming disaster had been neatly laid out on the table in front of them: defective rating agencies, loans repackaged to the point of being unrecognizable, dubious practices of American mortgage lenders, the risks of low-interest policies. But no action was taken. Meanwhile, the Fed continued to raise interest rates in nothing more than tiny increments.
"You can see all the ingredients of a Greek tragedy," says White. The downfall was in sight, and yet no one dared disrupt the party, no one except White, the lone BIS economist, who says: "If returns are too good to be true, then it's too good to be true."
And yet the economy was humming along, and billions in bonuses were being handed out like candy on Wall Street. Who would be willing to put an end to the orgy?
Clearly not Greenspan.
'I Asked Myself: Is This the Big One?'
The Fed chairman was not even impressed by a letter the Mortgage Insurance Companies of America (MICA), a trade association of US mortgage providers, sent to the Fed on Sept. 23, 2005. In the letter, MICA warned that it was "very concerned" about some of the risky lending practices being applied in the US real estate market. The experts even speculated that the Fed might be operating on the basis of incorrect data. Despite a sharp increase in mortgages being approved for low-income borrowers, most banks were reporting to the Fed that they had not lowered their lending standards. According to a study MICA cited entitled "This Powder Keg Is Going to Blow," there was no secondary market for these "nuclear mortgages."
Three days later, Greenspan addressed the annual meeting of the American Bankers Association in Palm Desert, California, via satellite. He conceded that there had been "local excesses" in real estate prices, but assured his audience that "the vast majority of homeowners have a sizable equity cushion with which to absorb a potential decline in house prices."
The Maestro had spoken -- and the party could continue.
William White and his Basel team were dumbstruck. The central bankers were simply ignoring their warnings. Didn't they understand what they were being told? Or was it that they simply didn't want to understand?
In the March 2006 BIS quarterly report, the Basel analysts described, once again, the grave risks of the subprime market. "Foreign investment in these securities has soared," they wrote. They also cautioned that there were "signs that the US housing market is cooling" and warned that investors "may be exposed to losses in excess of what they had anticipated."
A short time later, White argued for his model once again in a working paper titled "Is Price Stability Enough?" Low inflation rates are not a sign of normalcy, he warned, and central banks should not allow themselves to be led astray by low rates. Both the LTCM bankruptcy and the collapse of the stock markets in 2001 occurred "in an environment of effective price stability."
It was a waste of time and effort. Roger Ferguson, the then-deputy Fed chairman, ironically started to refer to the BIS's Cassandra-like chief economist as "Merry Sunshine."
"There are limits to pressing your argument," White says. "If you keep repeating your point over and over again, nobody will listen anymore."
A Loss of Confidence
Ben Bernanke, who succeeded Greenspan as Fed chief in early 2006, was especially deaf to White's warnings. When he presented his biannual report on the state of the economy to the US Congress on July 19, 2006, he made no mention whatsoever of the subprime risk.
A few months later, in December, the BIS reported that the index for securitized US subprime mortgages had fallen sharply in the fourth quarter of the year. A loss of confidence began to take shape.
The first casualties began surfacing a few weeks later. On Feb. 8, 2007, HSBC, the world's third-largest bank at the time, issued the first profit warning in its history. On April 2, the US mortgage lender New Century Financial filed for bankruptcy.
Bernanke remained unimpressed. "The troubles in the subprime sector seem unlikely to seriously spill over to the broader economy or the financial system," he said. It was June 5, 2007.
White made one last, desperate attempt to bring the central bankers to their senses. "Virtually no one foresaw the Great Depression of the 1930s, or the crises which affected Japan and Southeast Asia in the early and late 1990s, respectively. In fact, each downturn was preceded by a period of non-inflationary growth exuberant enough to lead many commentators to suggest that a 'new era' had arrived," he wrote in June 2007 in the BIS annual report.
But even if Bernanke had listened, it would have been too late by then. On June 22, the US investment bank Bear Stearns announced that it needed $3 billion (.2.1 billion) to bail out two of its hedge funds, which had suffered heavy losses during the course of the US real estate crisis. In Germany, entire banks were soon seeking government bailout funds. Banks increasingly lost trust in one another, and the money markets gradually dried up.
It was the beginning of the end. "When the crisis started, I asked myself: Is this the big one?" White recalls. "The answer was: Yes, this is the big one."
Just as Predicted
Meanwhile, the global economy is on the brink of disaster, as it faces the most devastating and brutal crisis in a century. The only reason the financial system is still intact is that governments are spending billions to support it. Central bankers have been forced to abandon their air of sophisticated aloofness and to try, together with politicians, to save what can be saved. Nowadays no one is talking about the free market's ability to heal itself.
And everything happened just the way White predicted it would.
This is visibly unpleasant for officials at the BIS. Even though they can pride themselves for having provided the best analyses, they have also been forced to admit that their central bankers failed miserably. "We had the right nose, but we didn't know how to use it," says BIS Secretary General Dittus. "We didn't manage to portray the global and financial imbalances in a convincing fashion."
Did White express himself unclearly? No, it was more that he represented a system that only questioned the prevailing view. "Ultimately, an economic model can only be defeated by an opposing model," says BIS Chief Economist Stephen Cecchetti, White's successor. "Unfortunately, we don't have a generally recognized model yet. Perhaps this partly explains why our warnings were less effective than would have been desirable."
The group of the 20 most important industrialized and emerging nations, which is now left with the task of cleaning up the wreckage of the crisis, apparently faces less academic problems. At the London G-20 summit in April, the group decided to promote a crisis-prevention model based on White's theories.
They want to introduce what might be called his hoarding model, which calls for banks to build up reserves in good times so that they can be more flexible in bad times. The central banks, according to White, must actively counteract bubbles and exert stronger control over the financial industry, including hedge funds and insurance companies.
As an adviser to German Chancellor Angela Merkel's group of experts, White helped to shape the basic tenets of the new order. And the 79th annual report of the BIS, published in Basel last week, also reads like pure White. It lists, as the causes of the crisis, extensive global imbalances, a lengthy phase of low real interest rates, distorted incentive systems and underestimated risks. In addition to improved regulation, the BIS argues that "asset prices and credit growth must be more directly integrated into monetary policy frameworks."
Simply Part of Life
Even though this is what he has been saying for more than 10 years, White, a passionate financial professional, is the last person to show signs of bitterness. During a conversation in his Paris office at the OECD, he has no harsh words for those who had long dismissed him as an alarmist. For White, the BIS will always be the greatest experience for an economist. The errors made by central bankers, politicians and business executives, he says, are simply part of life.
"Take the Enron example," he says. "We analyzed the disaster and found that 12 different levels of the government malfunctioned. This is part of human nature."
He is familiar with human nature, and he knows how to handle it. White is more concerned about the things he doesn't understand. New Zealand is a case in point. Interest rates were raised early in the crisis there, and yet the central bank was unable to come to grips with the credit bubble. Investors were apparently borrowing cheap money from foreign lenders.
This is the sort of thing that worries him. "That's when you have to ask yourself: Who exactly is controlling the whole thing anymore?"
Perhaps his model has a flaw in that regard. Could it be possible that central bankers today have far less influence than he assumes?
The thought causes him to wrinkle his brow for a moment. Then he smiles, says his goodbyes and quickly disappears into a Paris Metro station.
He knows that he is needed.
Translated from the German by Christopher Sultan