In case you had any doubts about what the mortgage settlement was really about and why banks that were so keenly opposed to it are now willing to go ahead, the news of the last two days should settle any doubts.

As we had indicated earlier, one of the many leaks about the settlement showed that there had been a major shift its parameters. Of the $25 billion that has been bandied about as a settlement total for the biggest banks, comparatively little (less than $5 billion) is in cash. The rest comes in the form of credits for principal modifications of mortgages.

Originally, that was to come only from mortgages held by banks, meaning they would bear the costs. The fact that this meant that whether a homeowner might benefit would be random (were you one of the lucky ones whose mortgage had not been securitized?) was apparently used as an excuse to morph the deal into a huge win for them: allowing the banks to get credit for modifying mortgages that they don’t own.

The first rule of finance (well, maybe second, “fees are not negotiable” might be number one) is always use other people’s money before your own. So giving the banks permission to modify loans they don’t own guarantees that that is where the overwhelming majority of mortgage modifications will take place, ex those the banks would have done anyhow on their own loans. And the design of the program, that securitized loans will be given only half the credit towards the total, versus 100% for loans the banks own, merely assures that even more damage will be done to investors to pay for the servicers’ misdeeds.

Let me stress: this is a huge bailout for the banks. The settlement amounts to a transfer from retirement accounts (pension funds, 401 (k)s) and insurers to the banks. And without this subsidy, the biggest banks would be in serious trouble

Why? As leading mortgage analyst Laurie Goodman pointed out in a late 2010 presentation, just over half of the private label (non Fannie/Freddie) securitizations have second liens behind them (overwhelmingly home equity lines of credit). Moreover, homes with first liens only have far lower delinquency rates than homes with both first and second liens. Separately, various studies have found that defaults are also correlated with how far underwater a borrower is. If a borrower is too far in negative equity territory, it makes less sense for them to struggle to stay current, no matter how much they love their home.

The second liens pose a huge problem to the banks. Courtesy Josh Rosner, this is data as of September 30 for Citi, Bank of America, JP Morgan, and Wells, respectively:

Compare these totals with the book value of their equity as of the same date: $42 billion in seconds for Citi versus $177 billion in equity; BofA, $121 billion in seconds versus $230 billion in equity: JP Morgan, $97 billion in seconds versus $182 billion in equity; Well, $109 billion in seconds versus $139 billion in equity. One of my mortgage investor mavens says that BofA’s seconds should bve written down by about $100 billion and JP Morgan’s by $60 billion. That writeoff would exceed BofA’s market cap and would make a major dent in Jamie Dimon’s touted “fortress balance sheet.” And a similar magnitude of haircut to Wells would expose it as being grossly undercapitalized.

Now the banks contend that the seconds are current or not all that delinquent, and hence no writeoffs are warranted. Please. Banks are doing everything in their power to preserve that fiction. First, they are engaging in far more aggressive debt collection against seconds than firsts, even though they service both. In addition, they can and do make insolvent borrowers look whole. They will reduce the minimum payment due when a borrower is close to being officially delinquent, and tell them to send a small amount and declare the loan current. Or they simply increase the credit line on the home equity line and let the borrower pay them with new funds lent to them. Neat, eh?

Finally, they also have been modifying first liens to preserve their second liens. If you reduce the payments on the first mortgage, the borrower has more money left to pay the second lien. From the transcript of Goodman’s 2010 presentation:

Clearly there’s a differential standard of managing second liens and securitizations versus second liens in bank portfolios. It’s very clear banks are doing all they can to get the, to keep, to get the first lien modified in order to keep the second intact, and that is just a huge conflict of interest.

Legally, the hierarchy of payment OUGHT to be clear: a second should be wiped out before a first lien is touched. That’s how it works in a foreclosure or a bankruptcy: only after the first lien was paid in full would a second lien get anything. But that isn’t what is happening now.

An important post by Dave Dayen, “HUD Secretary Expects “Substantial” Payment of Foreclosure Fraud Settlement with MBS Investor Money,” on a small group interview of Shaun Donovan, makes it clear that the Administration is well aware of, indeed almost giddy, about the way investor oxen are about to be gored. Guess they haven’t given enough to Obama to save their hides.

Per Dayen:

Donovan claimed that the money available in the settlement for principal reduction for underwater borrowers would actually come to $35-$40 billion, over double the $17 billion in nominal principal reduction that has been widely reported…

But how exactly does Donovan get to $35-$40 billion when the reports all claim $17 billion (as well as $8 billion in various penalties and checks for wrongful foreclosures, adding up to a $25 billion settlement)? He said that the topline numbers have always reflected the settlement with the five largest servicers. When you throw in the other 9 servicers who have been in discussions on the settlement, the level rises to more like $30 billion. Furthermore, “not all write-downs are created equal” in the settlement, Donovan said. The $17 billion on principal reduction always reflected “credits,” a number that the servicers would have to hit to comply with the settlement terms. Some of the credits are not dollar-for-dollar. For instance, principal reduction on loans that are over 175% LTV (loan-to-value ratio) would not get full credit because it would be a “reduction” on a house that will probably go into foreclosure anyway. “If a servicer is writing down a current first-lien mortgage, that has more value than a second lien 180 days delinquent,” Donovan gave by way of a separate example.

When you add all this up, Donovan asserted, “For every dollar of credit, we’ll be getting on average $2 or more of principal reduction. That’s how you get from $17 billion to $35-$40 billion.”

Notice that Donovan skips over the biggest item that will lead to bigger reductions than the nominal amount: the 50% credit that we noted above and in earlier posts, per a report by Shahien Nasiripour of the Financial Times, for modifications of loans that the banks don’t own.

Donovan tried to tell the journalists that there would be no problem with banks modifying these loans. That seems like a big stretch. The Pooling and Servicing Agreements all have a provision that says that the servicer is required to service the loan in the best interest of the certificateholders, meaning the investors. Modifying first liens owned by those investors pursuant to a settlement of legal and regulatory violations would not seem to pass muster. In addition, as we have reported earlier, a “safe harbor” provision, which was intended to provide air cover for banks to make mods as part of HAMP, was removed during reconciliation even though it had passed both houses. Why? Some investors had said that that provision amounted to a 5th Amendment violation, since it was taking property from private investors without providing compensation (note this is arguably a taking by government because preventing losses at BofA and Wells, which would be next in line if BofA were revealed to be insolvent, has the effect of benefitting the FDIC).

How does the Schneiderman MERS suit play into this? The consensus reaction to his Friday filing of a suit on MERS abuses seemed to be that he had at a minimum redeemed himself for taking the wind out of the dissenting AG effort by joining a Federal task force that looks likely to produce little and becoming coy on where he stood on the settlement deal. After Friday’s filing, some even thought he had outplayed Obama, by getting him to commit in a very public way to investigations and then filing a suit that put robosigning and other foreclosure abuses front and center. It looked as if he had gotten to have his cake and eat it too.

I’m skeptical of this cheery view. As readers know, I doubt that this investigation will produce much except some suits against small or at best medium fry. As Charles Ferguson of Inside Job put it, “Let Them Eat Task Forces.” There is a well established art form to stymieing people like Schneiderman: do the least important 60% of what they asked you to do, slowly.

Schneiderman got to be on a not-likely-to-do-much task force. What did he get? He allegedly gets more resources, and he might get more information, but the Administration scored a huge win by dragging out the settlement talks over a year and running out the statute of limitations on some of the best legal theories. I have to admit I was snookered. I thought the ongoing joke of the Tom Miller “we’re gonna have a deal any day now” was an embarrassing bug, but it was a feature. The AGs were being strung along as long as possible to keep them from filing suits. A few like Beau Biden, Martha Coakley, and Catherine Cortez Masto still did, but not soon enough or in enough numbers to embarrass some of the other fence-sitters into action (Lisa Madigan is an exception that proves the rule).

So what does his MERS suit mean? I’m mainly focusing on how it relates to the bigger game of the settlement, but let me make a few observations about his filing qua filing. It is gratifying to see a long form description of the MERS horrorshow. And this suit could be used to shift focus back to an issue that everyone in the mortgage industrial complex seems to want to push aside: servicers seem unable to foreclose legally and chain of title is a mess. Settlement deals and compensation to abused homeowners could be useful, but they don’t address the underlying mess (and neither do phony baloney OCC consent decrees).

And the media keeps taking the industry line on foreclosure problems. It keeps touting how long it takes to foreclose in New York as if this is the fault of the borrowers and the courts. In fact, it is the fault of the industry. In October 2010, New York implemented a requirement that all attorneys in residential foreclosures certify that they take “reasonable” measures to verify the accuracy of documents submitted to the court. From a formal standpoint, all this did was reaffirm existing law, but procedurally, it makes it much easier for borrower’s counsel to get attorneys who play fast and loose sanctioned.

Look what has happened to foreclosure activity before the requirement was put in place versus this past October:

So foreclosures had already effectively stopped because there are now real consequences to submitting bogus documentation. The Schneiderman filing ups the ante by telling servicers that they are subject to fines of $5,000 per violation (arguably, per each piece of improper paperwork submitted).

But how does this suit move forward in practice? Even though the filing mentioned $2 billion lost recording fees, his filing does not seek any damages for that. Readers are invited to chime in, but I see that he has two big hurdles. The first is pinning liability on the banks, as opposed to MERS. MERS has fewer than 50 employees and I guarantee its only meaningful asset is its screwed-up database. It can’t pay any meaningful damages or do much of anything to fix the mess it created. The banks will seek to argue that any liability sits with MERS, LPS and its ilk, and the foreclosure mills. It will probably take some doing to establish bank culpability.

Second is establishing the number of violations per bank. In aggregate, it looks to be massive, but the AG needs to come up with some basis for arguing at least roughly how many violations took place. That probably means establishing how many foreclosures in the relevant time frame had liens recorded in the MERS system and coming up with a solid minimum number of violations per foreclosure. How do you do that? Maybe sampling 100 foreclosures with MERS assignments per bank? The only good news is the foreclosure procedures were so awful that the banks would be hard pressed to find any foreclosures that didn’t have document problems.

Let’s do some rough math. The chart above shows 153 foreclosures a day for September 2010. Let’s assume an average of 150 a day for 2008-2010 and half that for 2007, with 250 work days a year (the court calendar does drop to nada in late August and December). Further assume that the three big banks listed accounted for 30% of the foreclosure filings, and half of those used MERS. That’s roughly 20,000 foreclosures. Assume 2 violations per foreclosure, which is $10,000, plus the $2,000 in expenses per homeowner (this was a separate claim in the filing). $12,000 X 20,000 is $240 million, or $80 million per bank. If you think I’ve been conservative, double that. The point is you don’t get to bank-crippling numbers from this suit. And remember, this litigation will probably be settled, and settlements are for less that the full value of what the plaintiff might win (there’s no reason to settle if the defendant has to pay out the full amount he’s exposed to if he loses in court).

That means it might be better for Schneiderman to use this suit to keep the negative PR about the banks coming (the reputational damage is likely to sting more than the amount they’d need to pay to make the case go away) and to press for real solutions to servicing and foreclosure practices. That has FAR more value than what he looks likely to recover.

This is a long-winded digression. Back to the settlement jousting. Obama succeeded in getting Schneiderman on the sidelines as a leader of the dissenting AGs as the Administration mounted a final push. That destablized the opposition and fed the now widespread impression that the settlement is inevitable (remember, before the Schneiderman announcement, it looked like the Administration would have significant defections of Democratic AGs. At least one AG who had met with the dissenters, Oregon’s John Kroger, has now joined the settlement).

But does the Schneiderman MERS suit hinder or help the settlement effort? Perversely, it may help the Administration push it over the line. If the leak about the scope of the release via Mike Lux is to be believed, MERS-related liability is excluded from the waiver. Schneiderman has just demonstrated you can file what amounts to a robosigning lawsuit using the MERS exclusion. You won’t get the securitizations outside of MERS where the notes weren’t transferred properly, but you’ll get a large proportion of the defective securitizations.

Now why should the banks sign onto a deal to settle robosigning claims that leaves them exposed in a big way to robosiging claims? If they thought the Schneiderman suit revealed a problem in the release, you’d expect them to demand that the negotiations be reopened. It may be too soon to tell, but I’ve seen no sign of bank pushback, and this deal has been so heavily lawyered I am sure the banks were well aware of this issue. Similarly, as reader Pwelder pointed out, all the banks that were targeted in the suit were up on Friday markedly more than the market overall, indicating that investors do not see this suit as threatening.

So the fact that they seem so keen to go ahead on a deal that does not very much to shield them from attorney general suits on robosigning confirms our suspicions: the banks are willing to pay several billion of hard cash among themselves to create the impression that they are Doing Something for Homeowners as cover for a bailout. Nicely played all around.

And Donovon’s cheerleading confirms the Administration’s sense of priorities. He regards robo-signing, foreclosure fraud, and making a mess of title as unimportant, and applauds the this settlement as a way to get principal reductions and allow the banks to escape any meaningful liability or responsibility.

The Obama Administration may have decided that investors have acted enough like patsies, given how they have failed to react to rampant servicer abuses, that they judge the risk of investor litigation and a related PR embarrassment to be small. But this battle is not yet over. The rumblings I am hearing from investor-land remind of the sections of the Lord of the Rings when the Ents were finally roused. It isn’t yet clear that investors will act, but if they do, the Administration will be unprepared for the vehemence of their response.

Puppy Bowl VIII: The ultimate puppy showdown CBS (hat tip Lambert). OMG, cute overload.

Spam maker Hormel to treat its pigs better Los Angeles Times (hat tip reader Lambert)

Largest optical telescope created BBC

Researchers feel pressure to cite superfluous papers Nature (hat tip reader Lambert)

Who really benefits from putting high-tech gadgets in classrooms? Los Angeles Times

Arizona GOP Lawmaker Wants A State Holiday To Celebrate White People ThinkProgress (hat tip reader furzy mouse). Lonely white people can always go to Maine or the Upper Peninsula of Michigan.

Greece on ‘Razor’s Edge’ as Debt Talks Drag On Bloomberg

Another tiny detail from Switzerland Golem XIV

Tens of thousands protest against Putin Financial Times

Driven Away by a War, Now Stalked by Winter’s Cold New York Times

Indian Military Goes French The Diplomat

Is US democracy being bought and sold? Aljazeera (hat tip reader May S). They have to ask?

Agribusiness Fights to Allow Children to Work in Manure Pits Matt Stoller, Republic Reports

Denver Health Becomes Profitable After Using Toyota as a Template Governing (hat tip reader May S)

Homeless Families, Cloaked in Normality New York Times

Charles Biderman on the US Non-Farm Payrolls Report Jesse

Do Manufacturers Need Special Treatment? New York Times

Why Do Dangerous Financial Criminals Roam Free? Alternet (hat tip reader May S)

California’s Solo Mortgage Probe Complicated by 2008 Deal Bloomberg (hat tip reader Deontos)

Why Does Our Infrastructure Resemble a Third World Country’s? Governing (hat tip reader May S)

Armchair Activist (hat tip Lambert)

Antidote du jour (hat tip George Washington):

Gretchen Morgenson of the New York Times reports on an ugly bit of mortgage market history: that Fannie Mae was told in 2006 to address the derelict behavior of its servicers and foreclosure mills yet chose to do pretty much nothing about it.

Morgenson tells the story of one Nye Lavalle, a Florida businessman who stumbled into the mortgage mess by accident. He sought to pay off a mortgage on a house he owned, and discovered that the payoff amount was inflated by $18,000 due to bogus late charges and force placed insurance. He refused to pay and the bank would not reverse the charges. The bank added more fees to the loan as Lavalle entered into a protracted court battle, which he ultimately lost.

Morgenson does not say exactly when Lavalle lost his fight or started his mission of investigating bad foreclosure and servicing practices, but by 1996 (!) he had already found evidence of the sort of chicanery that has been revealed as common, if not endemic as of 2004: apparent forged signatures, across a range of servicers: Banc One, Bear Stearns, Countrywide Financial, Freddie Mac, JPMorgan, Washington Mutual. Most ignored him, a few brushed off his charges. In 2003, he had created a compendium of abuses at Freddie and tried getting the attention of management. It did, sort of. They hired an outside law firm to investigate, which issued a detailed report which despite taking a rather dismissive tone towards Lavalle in its early pages, corroborated many of this charges, and recommended that the GSE take some corrective measures and it was firm on some basic issues:

“It is axiomatic that the practice of submitting false pleadings and affidavits is unlawful,” said the report…“With his complaint, Mr. Lavalle has identified an issue that Fannie Mae needs to address promptly.”

The Times indicates it does not know whether the report went to the board or its regulator, OFHEO, but the comment from the officialdom was not encouraging:

James B. Lockhart III, who headed that regulator in 2006, said he did not recall reading the report. “I probably did not see it as back then foreclosures were not a very big deal,” he said.

Notice the attitude, which seems to be at the root of why we got here. Abuses were seen as OK as long as they affected only a few, powerless people. There was no apparent concern that this was an unambiguous legal abuse, and that it might be a symptom of other, even more serious problems. Why would you create false documents unless there was a problem with the real ones?

Notice how the spokesman shifts the issue. The stance taken is that the borrower is presumed to be in trouble due to an inability to pay, when Lavalle, a wealthy man, discovered significant, false charges, including late fees when he had always been current. Even he was not able to prevail when he tried challenging the servicer.

The report, while confirming Lavalle’s reading of the law and finding even more extensive abuses by foreclosure mills than he cited (he fingered only the now-shuttered Stern law firm in Florida; they found similar problems in Connecticut, Georgia, New York, Illinois, Louisiana, Kentucky and Ohio) disagreed with him on the consequences. He thought foreclosures could be unwound, they pooh poohed the idea (narrowly, that is correct: the legal system is set up to treat sales out of bankruptcy and foreclosures as final, but wronged borrowers in certain states could conceivably recover under “wrongful foreclosure” statues, which provide for damages as a multiple of the value of the house). The Times flagged this comment:

“Courts are unlikely to unwind foreclosures unless borrowers can demonstrate that the foreclosure would not have gone forward with the correct pleadings, which is a difficult burden for most borrowers to meet,” the report said. “Nevertheless, the issues Mr. Lavalle raises should be addressed promptly in order to mitigate the risk of exposure to lawsuits and some degree of liability.”

Translation: you really aren’t at risk here, but it would be kinda nice if you cleaned this up.

Even in the wake of the robosigning scandal, it appears Fannie’s attitude has not changed, although it tries to claim it took matters seriously:

A spokesman for Fannie Mae said in a statement last week that the company quickly addressed several issues that were raised in the 2006 report and that it took action on other issues associated with foreclosures in 2010. “We want to prevent foreclosure whenever possible, but when foreclosures cannot be avoided they must move forward in a timely, appropriate fashion,” he said.

The “they must move forward in a timely, appropriate manner” (notice the lack of agency?) is a might makes right statement: Fannie will foreclose when it, in its imperial wisdom, thinks a foreclosure is warranted.

My perception is that attitude is widely shared in the servicing industry. As I wrote longer form last fall, after speaking at a conference, members of the industry rejected, with obvious hostility, the notion that there was something wrong with how they conducted their business. And as long as the industry is so steadfast in its denial, from the low to apparently the senior levels, I fear nothing will change absent major changes in personnel.

Update: It turns out that Carrick Mollencamp and Nick Timaros of the Wall Street Journal had a story on the Fannie internal investigation in March of 2011. It appears the Journal also was able to get a copy (the tone of the article suggests a full reading) but did not put it on line as Morgenson did. And it highlighted this tidbit:

Fannie officials also told investigators that the company had opted against performing regular reviews of its foreclosure attorneys because the company’s lawyers felt the firm would be better insulated from responsibility for misconduct. The report said the approach was under review at the time.

This sort of conduct has become endemic in the mortgage industrial complex, and is all too common in Corporate America generally. Rather than trying to do things right, and fix problems when they occur, the priority now is to make sure someone else is the bagholder. No wonder this country is falling apart.

A ton of today’s links come from Lambert, including the antidote. If it’s interesting and not attributed to a reader, assume it was due to Lambert.

Yes you were right Charles: Plants really can communicate with one another In the Stone Age, when the Wall Street Journal was available only in print, in one section, and had its center column devoted to human interest stories, it has a story on a scientist measuring plant reactions (I don’t remember how, but this was a real study). Someone came in the room and shredded up one plant in front of the others. They “fainted.” Every time he came in the room after that, they all “fainted” again.

Vermont inmates hide pig in official police car decal Reuters

How Globalization Nearly Exterminated the Buffalo Conservable Economist

Rare snowfall blankets Rome Associated Press. The pictures are cool.

Drug addiction ‘may be hereditary’ Daily Mail (hat tip reader May S)

FBI probes Anonymous intercept of US-UK hacking call BBC

High-Tech US Corporations Deny Skilled American Workers Jobs Through Abuse of Visa Loophole BuzzFlash (hat tip reader May S)

‘The vice president of the U.S. is… Bill Clinton!’ Shocking video shows high school students are woefully uninformed Daily Mail (hat tip reader May S). To quote David Einhorn: No matter how bad you think it is, it’s worse.

Khmer Rouge jail chief gets life for his ‘factory of death‘ Independent

Yakuza labor structure formed base of nuclear industry Asahi Shimbun

Bird numbers plummet around stricken Fukushima plant Independent :-(

Church of England doubles hedge fund investments Financial Times

Syria Live Blog Aljazeera

Bradley Manning Case: Army Officer Orders Court-Martial For Manning In WikiLeaks Case Associated Press

U.S. Skies Could See More Drones Wall Street Journal

Atheism in America Financial Times. Living in godless NYC, I can’t relate to this sort of thing, but if I were surrounded by aggressive Christians, I imagine being a non-believer would be mighty uncomfortable. It seems that the path of least resistance is to call oneself a Unitarian, since Unitarians believe in at most one god.

Let them game the model mathbabe

The Non-Farm Payrolls Report: Air Brushing History – Nominal Work Force for Nominal GDP Jesse (hat tip Scott). A must read.

Great jobs report, but what about the long-term unemployed? Fortune

Real US Corporate Tax Rate Falls to 12.1 Percent, the Lowest Level Since 1972 Wall Street Journal (hat tip reader May S)

Goldman to face mortgage debt class-action lawsuit Reuters

As the Plutonomy Powers Ahead, the “Realonomy” Remains in Recession Truthout (hat tip reader May S)

Foreclosure Accord Said to Ensure Same Terms for All 50 States Bloomberg (hat tip reader Deontos). This seems to be an affirmation of an earlier leak.

We’re More Unequal Than You Think Andrew Hacker, New York Review of Books

Antidote du jour. You can read about this rabbit here.

Yves here. As much as the overall thrust of this guest post has merit, I’m always leery of forecasts that amount to “trees grow to the sky.” I’ve evaluated a lot of tech deals (really weird ones) and I’ve found almost without exception that people get too caught up in the investors’ world view and spend too much time focusing on the technology aspects of the deal (and sometimes the patents too) and not enough on the business side. The critical questions in tech deals that often don’t get enough scrutiny are: 1. How much will customers have to change behavior to adopt the new technology? 2. Have the principals defined who their competition is accurately? (almost always, they define competition from a tech standpoint rather than a user standpoint, and forget the “do nothing” option) 3. If the investment involves making a product, how quickly do they assume they get manufacturing scale efficiencies? (again, without exception, too quickly).

I’m sure readers will have other points of view, but this MacroBusiness post mentions in passing that Ray Kurzweil predicts that medicine will be “transformed” in about 16 years (hah, it could be “transformed” in a negative way, but that does not seem to be what he means).

But professions with restricted entry tend to be slow to adopt new technologies (readers have heard me rant about mammograms; thermal imaging is a better diagnostic and has been around for at least a decade, but radiologists don’t want to give up their installed base of equipment). And just as Max Planck said that science advances funeral by funeral, I suspect the same is true of medicine. Look at how resistant the medical community was to the idea that bacteria caused ulcers. I even recall reading a story around the time a Nobel Prize was awarded for this discovery (2005) that something approaching 1/3 of the doctors in the US still treated ulcers as if they were a stress related ailment.

Nevertheless, if you accept the premise that exponential returns sometimes do operate, it creates a set of interesting problems for investors.

By Sell on News, a global macro equities analyst. Cross posted from MacroBusiness

A talk by the futurist Ray Kurzweil was recently played on the ABC in which he talked about the accelerating rate of innovation when it becomes part of what is broadly termed the information technology industry. He argues that in the future medicine, biology, economy and social relationships will be subject to information technology and the law of exponential return. His contention is that whereas in other sectors innovation tends to be advance in a linear fashion, information technology behaves quite differently. For instance, he predicted that the human genome project would succeed within the desired time frame. When it was halfway through and only 1% of the genome had been mapped, he was told that he was going to be proved wrong. He replied that on the contrary it was right on track, exactly in line with the exponential growth curve. It came in one year ahead of schedule. Using the same logic, he says, solar power will dominate world energy supply in about 16 years. Medicine will be transformed in about the same time frame. We have already seen the phenomena in areas like the internet and social media.

My first thought listening to it is how difficult it makes investment, because it simultaneously creates great uncertainty in industry structures — see, for example, how social media has changed conventional media, or file sharing has changed the conventional music industry — while making timing excruciatingly important. It is not enough just to pick the new sectors, on exponential curves investment timing has to be just right. For most of us, it will be wrong. The dot.com boom is a case in point in going too early.

My second thought is that this exponential IT curve has already hit finance, and it explains an awful lot of the problems now being witnessed. The explosion of derivatives, now a startling $700 trillion, well over half the capital stock of the world, has been driven by IT geeks and rocket scientists. The explosion of high frequency trading, which is similarly startling, is also a geek domain. Finance is no longer a discrete industry, it is now part of the IT juggernaut. And it is not going back.

This creates, in my view, far more problems than it solves. In fact, it is downright dangerous, because it leads to self referring, feedback loops that do not occur in other industries. If the energy industry starts to become an IT industry, as Kurzweil predicts is occurring with solar power, then the outcome will be more energy capacity at a lower cost. If the medical industry becomes an IT industry, then the outcome will be much cheaper and new medical treatments. The music industry has been transformed by IT, reducing the cost of recorded music to levels that are negligible, and, in many cases, removing the cost completely.

Now how are these innovations measured, in terms of their impact? By price, or the amount of money required to get a certain outcome. So if the same thing occurs in the financial system, which it has, then how do we measure its effects? We measure the change in the volume and range of monetary instruments by price, or an amount of money. In other words, we measure it by itself. And because something cannot be measured by itself, then we have lost the most important role of money — its function as a store of value. To measure the value of something effectively, by definition you have to have something else with which to measure it. You cannot measure the value of something with itself. Grab your shoelaces as hard as you like and you will still not be able to lift yourself off the ground.

Such self referentiality is, I suppose, a characteristic of the post-modern, post industrial world. But no one is in any doubt about how dangerous financial “innovation” is to the architecture of the global economy. Innovation is entirely different in the finance sector to other industry sectors (I am even sceptical about calling finance an industry, although I suppose it is). Innovation in this area results in tampering with the rules on which everything depends, money being in the first instance rules about value and obligation. In 2008, we saw what that means.

The IT revolution cannot be unwound; finance is now an IT industry. But it MUST be seen as a special case, requiring much more intense governance and sensible thinking about risk control, as opposed to the circularities of models like value at risk, or the Ayn Rand inspired nonsense prosecuted by Greenspan, in which pure self interest was always and in every case beneficial. More specifically, you have to measure the effect of monetary innovation with something other than money. That means looking at things outside money, such as, perish the thought, morality, or, if that is all too hard, at least social utility.

Above my pay grade. The problem has been solved by splitting the site across two servers.

Here is the brief version:

Memory usage in server spiked multiple times.

See that blue chart above 4Gb line? That is when server starts heavily swapping and then load accumulates and it become unresponsive.

I was pretty pleased with my Friday posts, so if you got tired of trying then, I hope you will read them now.

New York filed a lawsuit against various units of JP Morgan, Bank of America, Wells, MERSCORP and MERS over their use of MERS in foreclosures. This civil suit alleges that the use of MERS has “resulted in a wide range of deceptive and illegal practices,” most importantly, over 13,000 foreclosures in MERS name where MERS “often” lacked standing to foreclose. The suit claims that an undetermined number of foreclosures that were not made in the name of MERS were also deceptive by virtue of MERS “certifying officers” making improper assignments prior to the foreclosure. The suit includes the use of robosigners who failed to review the review the underlying records as required, and served to disguise gaps in the chain of title.

The section of the filing with background on MERS will be familiar to most NC readers, but it does include the juicy factoid that MERS members have saved over $2 billion in recording fees.

NYS MERS Final Summons and Complaint 2/3/12

The suit states that 1800 foreclosures were filed in New York in MERS’ name since 2006, of which 95 were made by Bank of America, 85 by Chase, and 110 by Wells. Given the numerous reports of MERS sloppiness and dubious corporate governance (cited in this case) it is quite probable that these foreclosures were defective. However, these are not large numbers by themselves. New York does not have a statue like that of Alabama which multiplies the actual damages (the loss of the home) in the event of wrongful foreclosure. If you take 100 homes and multiply that by $250,000, you get $25 million. Now the suit would presumably enlarge the number of foreclosures by identifying other homes on which the use of MERS had resulted in wrongful foreclosures, but query how the attorney general would do that efficiently (as in the facts of particular foreclosures are so varied as to make this a labor-intensive exercise). The attorney general might be able to establish defective pattern and practice by deposing servicer employees or records, which would make for an easier way to establish that a much larger number of foreclosures were defective, but how threatening a suit this is in some measure depends on how easy it would be to establish bad practices at the servicers (note these suits will be settled; the question is whether the AG begins meaningful discovery to enable him to include more homes as being candidates for damages). The suit does discuss a number of defective practices, such as MERS falsely claiming to be the holder or even the owner of the note in court filings (MERS never owns the note), creating improper affidavits and notarizations, assigning mortgages when it lacked authority to do so, and failing to disclose the identity of the true owner of the note. It finally alleges that the MERS database is not accurate, current, or reliable.

The causes of action are:

Repeated and persistent fraud and illegal acts

Deceptive acts or practices

I wonder if any New York lawyers among our readers are familiar with the case law regarding these causes of action.

The juice in this suit seems to be in the assertion of $5,000 per violation, which is arguably every wrongfully filed document that somehow relied on MERS. How many in a typical case? This could get you to big numbers pretty pronto, but I’d imagine the banks will try to shift the liability onto their foreclosure mills.

While the filing of this case would seem to suggest that Schneiderman does not plan to abandon his efforts to pursue mortgage abuses in New York by virtue of joining the Federal foreclosure task force. It would also seem to point up the peculiarity of the mortgage settlement. One reader had said earlier in comments, quite vociferously, that his employer would not sign on to a settlement if MERS-related claims were not included. The Schneiderman suit seems to show that there is a backdoor way for AGs to have their cake (sign the settlement) and still file robosigning-related suits as long as use MERS as the hook. (I’m going on the assumption that Schneiderman might sign the settlement; he has suddenly gotten coy on that subject).

Or is this an attempt to blow up the settlement having gotten the Feds to sign up to an investigation by demonstrating (if the press leaks are accurate) that leaving MERS claims out of the release still leaves them on the hook for robosigning abuses via MERS? If I were a major bank, I’d be freaked out by this suit, since it would seem to offer an easy roadmap for other states and may expose the fact that, from the banks’ perspective, the release provided in the settlement is not broad enough.

At a minimum, this lawsuit would seem to make it far less likely that the settlement will be signed Monday, as is now scheduled; I’d take a delay as a sign that the banks were blindsided by this suit and have gone back to the table.

By contrast, if the banks still go ahead, I’d take it as a sign that they don’t consider this sort of suit to be a major threat (as in the damages associated with it would not be that large and they can treat it as yet another cost of doing business). In other words, the filing of this suit would be a way of Schneiderman later justifying his signing up for the Federal task force, even if it gets slow walked (“see, this is the best I could do. This is a serious abuse, but it’s actually a hard slog for an AG to get meaningful damages for this sort of thing”).

We’ll know much more about what this suit likely means when we see if it has impacted the signing of the settlement. Stay tuned.

Update: Per Dave Dayen’s report, this Schneiderman filing is a carve-out from the settlement and hence does NOT represent a precedent as far as the other state AGs are concerned. It thus may not have broader ramifications as far as the settlement talks are concerned, save maybe making some of the AGs that were thinking of not signing on worry that they look bad by joining the deal.

In addition, the long section on What MERS Did That is Bad has first a discussion of foreclosures in the name of MERS, then a discussion of bad practices that took place in foreclosures that used MERS but did not have MERS as the plaintiff in the foreclosure (out of time assignments, MERS certifying officers making assignments when they did not have authority, robosigining, etc).

While this is all heinous, the big concern I have here is how you prove how many bad actions a particular bank engaged in. The case asserts $5,000 damages per violation to New York State (see the Relief section at the very end) and $2,000 in cost per consumer per violation under another statue.

The problem is…there seems to be a clean case against the banks for the foreclosures done in the name of MERS. On the other ones, how do you prove how many violations took place in a particular foreclosure? How do you identify MERS v. non MERS foreclosures? If MERS name is not in the filing (as a plaintiff) is it that easy to find MERS footprints in particular foreclosures? And even if you do that, the banks will still try to shift liability to the foreclosure mills they used.

In other words, pinning MERS liability on particular banks (who have the deep pockets, MERS is an itty bitty company with no meaningful assets) may require quite a lot of discovery. That is a big hurdle to the Schneiderman getting as juicy a settlement as this case might seem to deserve. Remember, he has complained of being resource constrained; that was his reason for joining the Federal investigation.

I’d like to be proven wrong, since the banks may be eager to get this out of the way quickly and will pay up to dispose of a continuing embarrassment. But Schneiderman has told them in public he doesn’t have a lot of manpower to throw at this, and this does seem to be a labor intensive suit.

Thus this suit is not likely to lead to banks reconsidering their posture in the settlement. But by filing it before the settlement was due to be inked, he may be trying to encourage other dissenting AGs to ask for similar carve-outs, which would send everyone back to the negotiating table. So again, stay tuned, albeit for different reasons than I first thought.

Trunk-loads of talent: Can you guess which painting is by an ELEPHANT (and which is the work of a top modern artist worth £7.4m)? Actually, the painting called Digit Master really is good.

The World’s Heaviest Insect Is 3,500 Times More Massive Than the Smallest Vertebrate Discover (hat tip Valissa). I am not squeamish, but I don’t think I’d like being all that near that insect. Eeew.

Malaria toll ‘is twice as high’ BBC

Apple’s supply chain problem MarketWatch

Floods create ‘inland sea’ in Australia Raw Story

FDA USING ‘INTERSTATE COMMERCE’ TO REGULATE YOUR STEM CELLS AS A ‘DRUG’ TheBlaze

AP Exclusive: US No-Fly list doubles in 1 year Associated Press (hat tip Lambert)

Touring China’s ‘Ghost Coast’ MacroBusiness

Woman Alleges Abuse At Kazakh Police Station Radio Free Europe. Confirms Ames in Ames v. Foust dispute over a massacre and related violence in Kazakhstan.

Iran says it launched satellite Washington Post

End this masochism in economic policymaking Martin Wolf, Financial Times

Facebook ought to ditch its public offering John Gapper, Financial Times

Romney Isn’t Concerned New York Times

Koch Bros. Mouthpiece Tells Occupy: “Forget the 1%, Go After Granny” Firedoglake

Nationwide Title Clearing Sued by Illinois Over Foreclosure Documents Bloomberg. So get this: Illinois AG Lisa Madigan does NOT like robosiging if done by a big title company, but is prepared to let banks how do it off pretty cheaply in the mortgage settlement. This will be the pattern: bust the small fry and let the big boys off.

After Three Years, Homeowners Still Being Treated as Political Pawns Mother Jones. Obama has a “blame Congress” strategy in motion.

Analysis: Obstacles high for more mortgage prosecutions Reuters. The public is being reminded the Credit Suisse prosecutions were just for show and don’t get your hopes up.

Obama Administration propaganda on prosecuting elite financial frauds Bill Black

Unintended profits and the custodians Deus Ex Macchiato (hat tip Richard Smith). Short and important.

Follow Alternative Banking on Twitter: https://twitter.com/OWSaltbanking

Antidote du jour:

Investors have been remarkably passive as banks and servicers have taken advantage of them. We’ve heard numerous reports of servicer fee abuses that amount to stealing from investors (remember, if you overcharge a stressed borrower and that borrower loses his home, the money in the end comes out of pension funds and 401 (k)s when the excessive fees are deducted from the proceeds of the sale of the home). Investors can even see suspicious patterns in investor reports. We’ve also pointed out that they are guaranteed even more pain, since $175 billion of losses that have already recorded on loans in MBS pools have not yet been allocated to the related bonds.

But the fees to manage bond funds are pretty thin, and fixed income investors are generally a risk averse lot, and are not well set up to litigate. But the biggest obstacle to them Doing Something is that they don’t want to rile the banks. They think they need them for information and transaction execution.

So it shouldn’t be surprising that investors have sat on the sidelines during the mortgage settlement and “fix the housing market” debates, even as becomes clearer and clearer that the solution envisaged is to take from investors to make the banks whole. Remember, the major banks have very large second lien portfolios that should be written down. The banks claim the second loans, almost entirely home equity lines of credit, are current, but that is often an accounting fiction. The banks are often engaging in negative amortization (as in taking any trivial amount and deeming it to be acceptable and adding any shortfall to what should be a proper minimum payment to principal) and allowing customers to borrow in order to make their payments. MBS investors have told me that realistic marks on Bank of America’s second lien portfolio would exceed the market value of its equity, and would also take a big cut out of the equity bases of Citi, JP Morgan, and Wells.

So the plan, which was messaged in an interview with William Dudley in the Financial Times in early January and is embodied in the mortgage settlement plan, is to write down first liens and leave seconds largely intact (there have been some indications that seconds might get a modest ding in the case of a principal mod on the first, but that is backwards. The second should be WIPED OUT before anything modification is made to the first mortgage). Any principal mods on the first lien that leaves the second in place amounts to a transfer from retirement plans to banks. Pensions are being raided to avoid exposing the insolvency of the big banks.

We are, rather late in the game, getting some plaintive bleats from investors as they are being led to slaughter. Reader Deontos sent us a statement from the Association of Mortgage Investors:

The state Attorneys General, federal agencies, and certain mortgage servicers have worked for approximately one year on developing a solution to address our national foreclosure crisis. The time now may be nearing for a settlement of claims of alleged wrongdoing by servicers. AMI and mortgage investors have neither been involved in the negotiations nor are aware of the ultimate settlement terms. In anticipation of a possible settlement, however, AMI cautions these negotiators not to rush into a settlement, but rather work to get a properly constructed settlement that helps distressed homeowners with the right solutions. “Investors in mortgage trusts, such as unions and pensions, do not service these loans and certainly did not create these woes for borrowers. The use of mortgage trust money (from pensions funds, unions and charities) to settle the investigation is tantamount to a bank bail-out. We expect that principal modifications of private mortgages made to satisfy any kind of settlement will involve only mortgages held by the settling parties and that the criteria for all additional principal modifications be firmly established,” explained Chris Katopis, AMI’s Executive Director.

AMI would only support such a resulting settlement, if any, if appropriately designed to address such alleged wrongdoing while not implicating innocent parties. AMI is on-record as supporting long-term, effective, sustainable solutions to the housing foreclosure crisis. It is generally supportive of a settlement if it ensures that responsible borrowers are treated fairly throughout the foreclosure process; while at the same time providing clarity as to investor rights and servicer responsibilities. The settlement should be designed in a way that ensures that investors, who were not involved in the alleged activities and, who likewise were not a participant in any negotiations, do not bear the cost of the settlement. Specifically, mortgage servicers should not receive credit for modifying mortgages held by third parties, which are often pension plans, 401K plans, endowments and “Main Street” mutual funds. To do otherwise, will damage the RMBS markets further and limit the ability of average Americans to obtain credit for homes for generations to come.

Erm, the fact that you weren’t given a seat at the table means the power that be thought you were dispensable.

More amusingly, a Bloomberg report reveals what most insiders know full well, that industry associations that supposedly represent the buy side and the sell side, like the American Securitization Forum and the Securities Industry and Financial Markets Association, really take care only of the sell side, meaning Wall Street. SIFMA’s Asset Management Group, which represents investors, wanted to issue a statement objecting to the use of investor funds to settle bank misdeeds, but it was squelched by management:

Wall Street’s biggest lobbying group is split over a proposed settlement of state and federal foreclosure probes, after a committee of money managers signaled it opposes terms letting banks push some costs onto bondholders.

The Securities Industry and Financial Markets Association’s Asset Management Group planned to release a statement last week urging government negotiators to protect innocent investors, amid reports that banks will get credit for lowering the balances of mortgages packaged into bonds, three people familiar with the matter said. Sifma’s leadership said no. The panel’s members oversee $20 trillion and include BlackRock (BLK) Inc. and Pacific Investment Management Co.

Sifma elected not to issue the statement “because the settlement surrounds potential legal issues involving the commercial interests of many of our members,” said Cheryl Crispen, a spokeswoman for the group in New York. “Sifma generally does not intervene in such matters and remains focused on matters of policy and advocacy.”

What bullshit. This is a “all animals are equal, but some are more equal than others” statement.

Needless to say, as the propagandizing gets louder, a few lonely voices are decrying the settlement. For instance, Daily Kos had a refreshing piece, “Stop the Delusional Celebration: Victims of Foreclosure Fraud Have Little to Celebrate.” Dave Dayen gets to an aspect of the settlement that I have not had time to cover, namely, that the enforcement is a joke. A story by Loren Berlin and D.M. Levine at Huffington Post remind us “Robo-Signing Settlement Might Not Provide Homeowners With Needed Help.” The short form of their story: the deal looks to be targeting mods to not that deeply underwater borrowers. Addressing a related Administration PR effort, Alan White at Credit Slips, in The Permanent Foreclosure Crisis and Obama’s Refinancing Obsession says, in no uncertain terms, that refis won’t solve the mortgage mess.

There is a possible saving grace here. I am told by a principal that if this settlement goes through, the odds are 100% that it will be challenged on Constitutional grounds, as a violation. Taking from the first lienholders to save the second lienholders to keep otherwise insolvent banks from going under amounts to a transfer from private parties to the government, as in it saves the FDIC from needing an emergency injection from Congress, as it did in the savings and loan crisis. So as much as I’d rather see this deal scuttled, it would terribly amusing to see Obama tidy’s efforts to generate pretend to help homeowners while really helping the banks sidetracked by litigation. The courts have stymied bank efforts to get away with their heist, and they may prove to be their bane yet again.

Remember how peculiar it was that presidential candidate Mitt Romney refused to release his tax returns? That was predictably a non-starter. Most voters probably assume the reason he resisted was to avoid the controversy over his strikingly low tax rate.

Another factor appears to have played into this decision. The release of the tax returns shows Romney neglected to disclose some required financial information in his personal disclosure form filed with the Office of Government Ethics last year. His team apparently timed the release of his tax records with the hope that State of the Union hooplah would dominate news coverage and result in his finances getting less attention than they might otherwise. And that appears to been correct. His failure to divulge information about 23 investments, and more important his use of secret Swiss bank accounts, has been given a free pass. As Citizens for Responsibility and Ethics in Washington director Melanie Sloan observed, “Mr. Romney says the errors are minor, but then again he also claims earning $374,000 in speaking fees isn’t much money.”

This anodyne coverage in a Los Angeles Times article from last week is typical:

Some investments listed in Mitt and Ann Romney’s 2010 tax returns — including a now-closed Swiss bank account and other funds located overseas — were not explicitly disclosed in the personal financial statement the Republican presidential hopeful filed in August as part of his White House bid.

The Romney campaign described the discrepancies as “trivial” but acknowledged Thursday that it was reviewing how the investments were reported and would make “some minor technical amendments” to Romney’s financial disclosure that would not alter the overall picture….

The campaign has emphasized that Romney has paid all required U.S. taxes on his foreign funds….

Among the assets omitted is a Swiss bank account in Ann Romney’s blind trust that held $3 million until it closed in 2010. The account was listed on a financial disclosure Romney filed in 2007, but it was mistakenly named as an asset held by the couple, not as part of Ann Romney’s trust. A campaign spokeswoman said Thursday that Romney will file amendments to both his 2007 and 2011 financial disclosures to correctly identify the bank account.

That account was at UBS. Pretty much anyone who follows the financial press known of the pitched battle between the US government and first UBS, then Swiss banking regulators, over Swiss bank secrecy. The US engaged in a series of prosecutions that led one UBS unit that catered to wealthy individuals to be shuttered as part of a deal in which UBS also turned over the names of several thousand US customers that the US suspected of engaging in tax evasion. This case effectively ended Swiss bank secrecy; the efforts of the Swiss to avoid divulging the names of its customers was front page news in the Financial Times for the better part of two years. This is the summary in Wikipedia:

UBS agreed on February 18, 2009 to pay a fine of $780 million to the U.S. government and entered into a deferred prosecution agreement on charges of conspiring to defraud the United States by impeding the Internal Revenue Service. Of the $780 million that UBS will pay, $380 million represents disgorgement of profits from its cross-border business; the balance represents United States taxes that UBS failed to withhold on the accounts. As part of the deal, UBS also settled Securities and Exchange Commission charges of having acted as an unregistered broker-dealer and investment adviser for Americans.

The day after settling its criminal case on February 19, 2009, the U.S. government filed a civil suit against UBS to reveal the names of all 52,000 American customers, alleging that the bank and these customers conspired to defraud the IRS and federal government of legitimately owed tax revenue. The Swiss Financial Market Supervisory Authority (FINMA) had given the United States government the identities of, and account information for, certain United States customers of UBS’s cross-border business as part of its criminal investigation in 2009. On August 12, 2009, UBS announced a settlement deal that ended its litigation with the IRS. However, this settlement set up a showdown between the U.S. and Swiss governments over the secrecy of Swiss bank accounts. It was not until June 2010 that Swiss lawmakers approved a deal to reveal client data and account details of U.S. clients who were suspected of tax evasion.

Let us stress: the US prosecutors were firmly of the view that the main purpose of these accounts was tax evasion. As the Financial Times noted:

Bradley Birkenfeld, Mario Staggl and “others known and unknown” were accused in the indictment, unsealed yesterday, of conspiring to defraud the US from at least 2001 by engaging in a scheme that included falsifying documents, helping to set up shell companies and destroying banking records…

The indictment said while marketing their services to wealthy US clients, Mr Birkenfeld and Mr Staggl claimed that “Swiss and Liechtenstein bank secrecy was impenetrable”.

That indictment was followed by the indictment of the head of the UBS’s global wealth management business.

The Financial Times provided some details on how customers who had accounts with that unit fared:

The criminal case alleged UBS had failed to prevent a handful of private bankers from helping US clients to evade tax. The evidence showed UBS had 20,000 offshore US clients holding $20bn in assets in an operation that generated revenues of $200m a year.

The disclosures included tantalising details about specially encrypted computers and training in counter-surveillance techniques for bankers before they travelled to the US. Bradley Birkenfeld, a former UBS private banker turned whistleblower, even admitted to having squeezed diamonds into a tube of toothpaste for a billionaire client determined to export assets without detection.

The UBS unit concerned, which employed 60-70 bankers, has been wound down. Clients are receiving letters informing them their accounts are being closed. While those whose holdings were declared to the IRS have nothing to fear, the rest face a bleak choice. Clients who transfer their money risk leaving a paper trail that could lead to scrutiny. Even those who sit on their funds may fear questioning. The letters advise clients to seek professional advice and consider coming forward voluntarily.

The unit was shut down in early 2009, but UBS did not settle the tax-related charges until later in the year, which then set off a battle royale between the Swiss banking regulator and the US over the secrecy of customer identities. The US sought the release of 52,000 names but settled for several thousand. An adverse court ruling in Switzerland led to further machinations, and the deal was effective in July 2010.

It appears that the Romneys kept this $3 million offshore until it was clear the secrecy gig was up (note it is not clear that their account was with the unit that was targeted in the probe). Even though it is pretty unlikely that they were among the customers whose names were turned over to the US ($3 million is chump change in private banking), Swiss accounts were no longer assured of safety.

The answers given by the Romney’s financial advisor about this account aren’t entirely satisfactory. From Reuters:

Brad Malt, who oversees the Romney blind trusts, said on the conference call that Romney’s wife’s trust had a $3 million bank account at UBS AG, the Swiss banking giant. Malt told Reuters he closed the UBS account in late 2010.

“I am aware that there have been some allegations recently that some Swiss bank accounts have been used to evade taxes – I would like to emphasize that this account is not … one of those,” Malt said.

“I decided to remove any possible source of embarrassment,” he said, adding that “taxes were all fully paid” on the UBS account and that he closed it because “it just wasn’t worth it.”

The closing of the account came amid a crackdown by the U.S. Justice Department and the U.S. Internal Revenue Service on Swiss and Swiss-style banks suspected of selling offshore tax evasion services to wealthy Americans.

The Romney campaign said on Tuesday in an emailed response to a reporter’s queries that the UBS account held by Ann Romney’s blind trust “was set up for diversification.”

The email described the account as “a passive bank account that simply earned interest. It did not make any other investments. It did not pay any bills.” The email went on to say that the account was “fully compliant with all tax laws.”

The problem is that the story does not add up. Diversification? Huh? You don’t diversify by putting money in a no-yielding cash account in Switzerland; you can hold cash as an asset class far more simply and at better returns pretty much any other way. The account earned a grand total $1.718, or .06%, in 2010; low returns were the usual tradeoff for vaunted Swiss secrecy. It might be that this $3 million was excess cash targeted for opportunistic investments and was never deployed.

So you have to assume that the Romneys did want the secrecy. After all, they were paying for it with terrible returns on their money. And if not for tax reasons, then why?

Moreover, one has to wonder whether the income from this account was reported on a current basis. The Romneys no doubt NOW paid the taxes due, query whether they paid them prior to the loss of certainty of account secrecy. The IRS launched a voluntary disclosure program in the wake of the UBS settlement, so it is possible that the relevant taxes were paid as part of that initiative, rather than on a current basis. Notice also that Romney delayed the release of his tax returns till January, and got his filings done early so he could report tax years 2011 and 2010 (I’m really impressed that someone with a tax situation as complex as his can file so early). What would his 2009 tax returns have shown? Was the Swiss account on them? (He could have amended them if they had been “missed”, but returns are seldom amended for small amounts).

Whether or not Romney has something to hide, the failure to include the Swiss account in his Federal ethics filing has him acting as if he has something to hide. Even if there was nothing technically amiss with what Romney did, having a large stash in a secrecy jurisdiction does not pass the smell test. It speaks of an intent to skirt the law even if that never actually took place.

Ed Wyatt of the New York Times has released an important story tonight on how the SEC goes easy on big banks by giving them exemptions to laws meant to stop securities fraud. This report stands in stark contrast to a Reuters story which repeats the favorite Administration mantra: it’s really hard to prosecute financial-related cases. It sure is when you don’t chose to use the powers you have.

The gist of the Times piece is that the SEC gives the biggest banks like JP Morgan and Goldman waivers so that they can continue to have ready access to the financial markets without a lot of hassle. The overview:

An analysis by The New York Times of S.E.C. investigations over the last decade found nearly 350 instances where the agency has given big Wall Street institutions and other financial companies a pass on those or other sanctions. Those instances also include waivers permitting firms to underwrite certain stock and bond sales and manage mutual fund portfolios.

JPMorganChase, for example, has settled six fraud cases in the last 13 years, including one with a $228 million settlement last summer, but it has obtained at least 22 waivers, in part by arguing that it has “a strong record of compliance with securities laws.” Bank of America and Merrill Lynch, which merged in 2009, have settled 15 fraud cases and received at least 39 waivers.

Only about a dozen companies — Dell, General Electric and United Rentals among them — have felt the full force of the law after issuing misleading information about their businesses. Citigroup was the only major Wall Street bank among them. In 11 years, it settled six fraud cases and received 25 waivers before it lost most of its privileges in 2010.

What the article does not make quite clear is the SEC rationale for this double standard. I’d hazard that it’s that big financial players are often in the market raising funds, and restricting their access is, well, just a bit too mean since they are money junkies. Just look how hard it was for Citi when it fell out of the SEC’s most favored nations status and lost its ability to use so-called “shelf registrations” to sell stock and bonds:

And the companies continue to use rules that let them instantly raise money publicly, without waiting weeks for government approvals. Without the waivers, the companies could not move as quickly as rivals that had not settled fraud charges to sell stocks or bonds when market conditions were most favorable.

OMG, if you break the law, you might be put at a competitive disadvantage! Can’t have that, now can we? Specifically:

Citigroup is one of the rare Wall Street giants that has lost significant privileges recently…

Because those accusations involved Citigroup’s statements about its own financial well-being, the company lost for three years the ability to insulate itself from lawsuits over mistaken predictions about its business. It also lost, for the same three years, the exemption for “well-known seasoned issuers,” which allowed it to quickly raise capital in the securities markets. As a result, Citigroup has had to file thousands of pages of new documents with the S.E.C. and wait weeks for the agency’s approvals to make itself eligible to sell stocks, bonds and other securities to the public.

Now you might think that the SEC is drawing the line at misrepresenting your own financial health. But that doesn’t even seem to be the standard. Remember when Bank of America failed to tell investors in its merger proxy of the size bonus payouts to Merrill staffers? The SEC didn’t rough it up the way it did Citi. Citi, as an official sick man of the crisis, seemed to get the regulatory version of halo effect treatment.

Similarly, JP Morgan, the bank that among other things, bankrupted Jefferson County, gets off easy:

JPMorganChase is among the big Wall Street firms that have been granted multiple waivers with nearly every settlement of S.E.C. fraud charges. Last July, it agreed to pay $228 million to settle civil and criminal charges that it cheated cities and towns by rigging bids with other Wall Street firms to invest the money raised by several municipalities for capital projects.

JPMorgan received three waivers related to that case for privileges that it otherwise would have lost. But the S.E.C. said the company’s fraudulent actions didn’t involve misleading investors about JPMorgan’s business.

“That distinction doesn’t do it for me,” said Richard W. Painter, a corporate law professor at the University of Minnesota and the co-author of a casebook on securities litigation and enforcement. “If a company has trouble telling the truth to investors in one batch of securities it is underwriting, I would not have confidence that it would tell the truth to investors about its own securities.”

Despite six securities fraud settlements in 13 years, JPMorgan rarely if ever lost any special privileges. It has been awarded at least 22 waivers since 2003, with most of its S.E.C. settlements generating two or more. In seeking the reprieves, lawyers for JPMorgan stated in letters to the S.E.C. that it should grant a waiver because the company has “a strong record of compliance with the securities laws.” The company declined to comment for this article.

It is hard to overstate the importance of this story. As we have said, one of basic rules of regulating is to make sure the regulated know you are not cowed by them. When I was a young person working on Wall Street, investment banks were afraid of the SEC. By contrast, this article reveals, as many have suspected, that regulators have plenty of tools to bring banks to heel. They choose not to use them.

The SEC does have a defense of sorts, which is (as we have recounted) that Congress has cut off funding when it merely tried to be tough in defending retail investors from abuses under Arthur Levitt in the 1990s. The passivity of the SEC is a symptom of elite corruption. A reform-minded President could choose to cross swords with Congress and defend the agency against harassment for tough minded enforcement. But that would be in a parallel universe where the banks were not in charge.

I’m running this video because I like it and I hope you do too. I happen to know Suresh; he’s a member of the Alternative Banking Group of Occupy Wall Street. He discusses a clever and potentially important bit of research he is conducting on slavery in the US (the brutal 1800s kind, not our modern watered down debtcropper version). This clip also separately demonstrates that economists are not necessarily beyond redemption.

By Michael Olenick, founder and CEO of Legalprise, and creator of FindtheFraud, a crowd sourced foreclosure document review system (still in alpha). You can follow him on Twitter at @michael_olenick

Fallout continues from the ProPublica/NPR story “Freddie Mac Bets Against American Homeowners,” though probably not the sort ProPublica expected.

Many in the blogsphere who work on finance and housing finance issues, including myself and Yves Smith, didn’t find the piece to be convincing. In a rebuttal Yves, who like me is anything but a cheerleader for the GSEs, explained Freddie’s practice is, in reality, only slightly more nefarious than clearing snow from the parking lot. That is, of all the awful decisions Freddie Mac makes, this isn’t one of them.

ProPublica co-author Jesse Eisinger replied to Yves’ critique in the comment section. I e-mailed Yves about Jesse’s remarks and she suggested I flesh my observations out into a post.

To recap: Freddie Mac purchases and bundles mortgages, bundles those mortgages into pools of mortgages, then sells the expected mortgage payments to investors in the form of bond-like securities.

Securitization is a vital component of the modern mortgage market, or most other credit markets for that matter, since the process frees up capital that can then be used to make more mortgages.

In late 2010 Freddie Mac, according to the ProPublica story, started to retain a greater number of “inverse floaters,” an instrument created when mortgage pools are turned into collateralized mortgage obligations. As Yves pointed out, even though this portion is typically hard to sell and is thus often retained by the originator, it often makes more sense to use a CMO to create more conventional-looking bonds that can be sold to investors at better prices and retain inverse floater because it results in lower interest rates than if they sold a simple mortgage pass through. The GSEs have a mandate to provide more affordable loans to homeowners and better results to taxpayers, so lowering the cost of mortgage funding is consistent with those objectives. It is true that inverse floaters benefit when borrowers don’t refi, but as Yves pointed out, the GSEs engage in very complex interest rate hedging strategies. Looking at this position by itself tells you nothing about Freddie’s overall interest rate bets.

ProPublica tried to argue that an increase starting in 2010-2011 versus 2008-2009 in the number of deals where the inverse floaters were retained was a sign of Freddie positioning itself to bet against homeowners. The authors apparently failed to look at Freddie’s CMO issuance during this period. Its CMO issuance rose, and so it appears that much, perhaps all, of the increase in retention was due to an increase in mortgage funding by Freddie (see the bottom blue bars in the left hand chart):

Moreover, the inverse floater is the portion of the CMO that is most exposed to prepayment risk. Given the uncertainty about government intervention in the mortgage market, investors in both straight passthroughs and in CMOs would be more leery than usual of taking prepayment risk. To put it in trader-speak, as readers have, this is a “long vol” bet, and if investors were unwilling to buy volatility (as in vol was unusually cheap), it would make even more sense to retain it.

Yet ProPublica contended that Freddie Mac’s use of inverse floaters represented a conflict of interest because the GSE would lose money from the hedges if borrowers refinanced to lower interest mortgages. They implied Freddie could abuse its influence in the housing market to prevent lower-interest refinancing programs, which are better for borrowers.

I’ll summarize Jesse’s comments, which I verified did come from him:

• Freddie’s retention of inverse floaters increased in 2010 then came to an abrupt half in 2011, making it appear that the FHFA, which oversees Freddie, told them to knock off which is a tacit acknowledgment the government-owned organization should not profit by trapping people in higher-interest mortgages.

• There exists less complicated and less expensive ways to hedge the interest rate risk. Jesse quoted a trader who summarized “.. comparing inverse floaters to hedging tools is not just apples and oranges — it’s more like apples and cars. They just have nothing to do with each other.”

• Retaining the interest-only streams runs contrary to Freddie’s mandate to decrease their portfolio.

I have to point out that Jesse misrepresented Yves’ argument. She never said the inverse floaters were a hedge; she said you can’t tell what bets Freddie is making unless you look at all their positions, since the GSEs do a great deal of interest rate hedging. The wager represented by the inverse floater may well have been partially or fully offset by other positions.

Since the story surfaced, the FHFA released a statement clarifying that the inverse floaters make up about $5 billion of Freddie’s $650 billion portfolio.

My own analysis is that the argument that Freddie didn’t bet against the American homeowner. There’s just too much direct and indirect evidence supporting they simply made a decision that was, in hindsight, politically bone-headed albeit fiscally benign.

Consider the following:

Every quarter the Office of the Comptroller of the Currency (OCC) releases a study detailing loss mitigation options, including modifications, for mortgages. Their latest study was release for Q3, 2011. They break modification options down into several buckets, including capitalization, interest rate reduction, interest rate freeze, term extension, principal reduction, principal deferral, and “not reported” (the servicer cannot contractually explain what modification term they offered).

Freddie regularly freezes and lowers interest rates in modifications. Since Freddie refuses to engage in principal reduction, it makes no sense they’d neuter one of the favorite tools in their modification arsenal by betting against it.

Here are some modification stats. Keep in mind, while reviewing the figures, that most modifications involve more than one category of relief, so results add to over 100%.
Freddie reduced interest rates in 74% of the modifications they offered and froze rates in 7.6% of their mods. In contrast Fannie reduced rates in 70.4% of their mods and froze rates in 3.6%. In contrast government-guaranteed (FHA, VHA, etc..) loans lowered rates in 93.7% of their mods, private investors lowered rate in 71.5% of their mods, and portfolio loans lowered interest in 83.6% of their mods.

Fannie and Freddie are vigilant, almost to the point or paranoia, about strategic defaults: making bets to trap people in high-interest mortgages makes strategic default more likely. The Mortgage Bankers Association commissioned a study about strategic defaults, comparing them to a disease. That is, strategic defaults, they argued, are contagious across borrowers. Their solution, faster foreclosures to stem strategic defaults, appears nonsensical. But the underlying theory, that if one neighbor sees another move down the street into the same model home for half the rent that the second neighbor will do the same, does not appear far-fetched. Getting back to the issue at hand, it just doesn’t make sense that Freddie Mac, for some short-term trading gains, would risk spreading a “disease” that puts the entire portfolio at risk.

Freddie doesn’t have enough influence over borrower interest rates to believe they could rig the entire market. There’s nothing except the fiscal/monetary policy firewall stopping the Federal Reserve from offering to buy bundled refinanced performing GSE mortgages. By offering to pay a premium they could reduce interest rates and justify enough cash-flow for some limited principal reduction.

In normal times that firewall would prove impossible to breach, but these are anything but normal times. Arguing that the Fed is banned from engaging in this type of relief would be akin to a mother of four arguing she needs to preserve her virginity.

If that happened, and it does not seem far-fetched, Freddie or Fannie would have no say about the matter. People would go to a private lender, who would sell their loans on a private secondary mortgage market, and quickly flip the pooled securities to the Fed. This policy would quickly enable the refi’s, reduce the GSE’s portfolio, and might reignite the private secondary mortgage market.

Freddie surely recognized this risk and wouldn’t be foolish enough to bet against it happening in a major way.

Freddie acts stupid, not suicidal. Freddie is already a political pariah. In modern American discourse there are few areas of consensus on any subject between the political right, left, and center, or between various economists and businesspeople, except that Freddie Mac and Fannie Mae are awful.

Debates typically center around how much they suck, but nobody argues they’re welcome additions to the US business climate. Literally nobody except maybe Newt Gingrich likes these organizations.

Freddie surely would not be so stupid as to overtly bet against American homeowners in this environment. Conversely, once they realized their hedging strategies could be perceived as exactly that they quickly stopped using that strategy, which is why the use of inverse floaters came to an abrupt end.

ProPublica has an established reputation. But sometimes even the best bomb.

It’d be legitimate to question why, say, Fannie and Freddie have a higher 12-month re-default rates than private market modifications over recent years, despite having substantially lower-risk borrowers. An investigative series about their central role in the foreclosure fraud crisis — their reckless policies and practices set the stage for our current fraud-fest — would be welcome and bruising. It’s arguably harder to find something that the GSE’s do right than something they do wrong.

Maybe ProPublica is a victim of its own success. This story about inverse floaters is the inverse of what we’ve come to expect and what the economy requires if we’re ever going to substantively recover: fact-based reporting on serious but solvable real problems.

By Erica Chenoweth, Ph.D

Lambert here: Occupy’s public discussions on “diversity of tactics” have often lacked historical perspective; discussions, at least online, have tended to degenerate to “Ghandi!” “No, ANC!” Now, however, Erica Chenoweth has developed a dataset and analyzed the historical record. Below the fold are slides summarizing the results of her study of 323
 non-violent and violent campaigns 
from
 1900‐2006. (There are twenty slides, so anybody with a slow connection may prefer to download a zipped file of the original PDF). Here’s one key slide:

I’m sure, readers, that like any study, Chenoweth’s work is open to challenge on any number of grounds. That said, surely looking to the historical record to see what’s worked isn’t such a bad thing?

* * *

Why not do what works? Is that so wrong?

NOTE Lambert here once again. The paper that these slides summarize will be delivered by Professor Chenoweth at this year’s International Studies Association Annual Meeting at a special workshop in advance of the proceedings not yet listed in the program.

UPDATE Professor Chenoweth comments:

A debate is unfolding in the comments section [here at NC]. I address many of the questions raised here in a paper I am writing for the ISA Annual Meetings in San Diego in April. Most of the critiques the NC readers are raising about the data, however, are addressed and dealt with in my book with Maria Stephan. For anyone interested, the data and appendix used for the book are available at my research page.

As Maria and I emphasize, our book is not meant to be the last word. Instead, we hope it will catalyze new and improved research on the topic of civil resistance–a field I’ve been encouraging security studies scholars to take seriously. One of the ways I’ve been hoping to attract greater attention to the topic of civil resistance has been to develop this “myths” talk, which I have tested out on a few different audiences. It’s supposed to be provocative, and it generally has elicited fairly strong reactions. The response over at NC is no exception.

My hope is not to provoke discussion for its own sake. Instead, my goals are twofold: 1) to encourage more systematic empirical research on the topic; and 2) to persuade people, on the basis of existing empirical research, that nonviolent resistance can often be a viable alternative for challenging entrenched power.

Yep.

Museum finds ‘stunning’ Mona Lisa copy Financial Times

McDonald’s confirms that it’s no longer using ‘pink slime’ chemical in hamburgers Sidesshow (hat tip Lambert)

Deadly strain of MRSA from US ‘has spread to UK’, warn doctors Daily Mail (hat tip reader May S)

Non, non and non Economist

Lightsquared – some comments John Hempton

Drone Swarms are Here: 1 Minute to Midnight? Global Guerillas. Aargh, you know this will lead to escalation of counter measures, such as a magnetic bomb.

Apple’s Ethical Blindness Selects for Criminal Suppliers in Fraud-Friendly Nations William Black, Huffington Post

Ohio Tries to Escape Fate as a Dumping Ground for Fracking Fluid BusinessWeek (hat tip Lambert)

I Don’t See How This Can Continue Tim Duy (hat tip reader Scott)

United States of Europe? What it Will Take to Save the Continent from Economic Collapse Ed Harrison, Alternet

Survey of Banks Shows a Sharp Cut in Lending in Europe New York Times

The perils of Mario Draghi’s €1.5 trillion blitz Ambrose Evans-Pritchard, Telegraph

As Greece Nears a Big Debt Deal, Investors Now Fret That Portugal Will Ask for the Same New York Times. This is not a news to NC readers.

Bundesbank sinks deeper into debt saving Europe Ambrose Evans-Pritchard, Telegraph

Super-Pacs erode Obama’s advantage Financial Times

No Country Left Behind (NCLB) and The Race to the Slop Daily Censored (hat tip reader May S). US infrastructure gets a D!

American Airlines proposes to end all four pension plans McClatchy (hat tip Lambert) :-(

US unemployment “progress” FT Alphaville. As in “none.”

John Kay: The Limits of Consistency and Rigor, and Why Economics Needs Eclecticism INET. I like Kay and this is a nice interview (I’d prefer it if they kept it as one clip or only divided it into two rather than breaking it into SO many segments).

Guilty Pleas Hit the ‘Mark’ Wall Street Journal. Per our post yesterday, why did this take so long?

Exclusive: Mortgage deal would give states enforcement clout Reuters. I don’t buy this, but the details are too sketchy to analyze it. But the portion (of course at the very end of the article) about the supervision scheme and the name of the person in charge of enforcement (not a heavyweight) is really not convincing.

The New American Divide Charles Hugh Smith (hat tip reader May S)

New York prosecutors ask Twitter to reveal Occupy Wall Street man’s tweets Guardian (hat tip reader May S)

Francis Fukuyama interview ‘Where Is the Uprising from the Left?’ Der Spiegel (hat tip readers Mark P and Swedish Lex)

Antidote du jour:

This Real News Network segment discusses how a small number of American Jewish billionaires are promoting a hawkish, aggressively pro-Israel stance which is at odds with the anti-war, anti-neocon views of many Jewish voters. The interviewee, Max Blumenthal, points out that this concerted, well-funded effort to direct American policy risks playing into anti-Semitic stereotypes.

More at The Real News

By Philip Pilkington, a journalist and writer living in Dublin, Ireland

Recently the Irish Taoiseach Enda Kenny pandered to his base once again by saying that the Irish people are to blame for the current state of their economy due to reckless borrowing undertaken during the boom years. I refer not to his base in Ireland, of course — their opinion has hardly mattered since the election — I refer instead to his base among the international financial community. For it is these people that need Kenny’s confession because it is their economic model that has been proved false by the Irish crisis — and so a mea culpa is needed from the victims so that they can avoid the responsibility that they know they bear.

This little stunt by Kenny made most Irish people spit and a political analyst might wonder what Irish voter would Kenny appeal to after laying the blame on the ‘Irish people’ in the abstract. It was a stupid move by a politician long known for his tactlessness. But it also says something about what the international financial community require of the countries that they have destroyed.

On May 31st 2004, then President of the European Central Bank Jean-Claude Trichet heaped praise upon Ireland for its economic miracle. ““The process of transformation that Ireland began over four decades ago has become a model for the millions of new citizens of the European Union,” he said, speaking at the Irish central bank, “The new Member States of the EU have had to confront economic challenges whose magnitude and long-term importance are similar to those that faced Ireland when you began your work. Thanks to Ireland’s economic success, to which you devoted your life, we can be confident that economic reform works.”

Trichet believed in the Irish model because it conformed to how he, together with the vast majority of other economists and policymakers, understood an economy should work. While we should not go too far into the technical details of this, put simply these commentators missed the massive expansion in private sector borrowing because they did not believe it could have harmful consequences.

Although it is not often spoken about in such terms, the fact is that economies need debt to grow. If we accept as a given that the ability of an economy to produce exports (not to mention find buyers) is limited, the only way in which new money can enter an economy and facilitate growth is by some entity in a given country going into debt.

During the boom years Ireland played by the rules of the neoliberal game. From 1998 to 2004 it ran a roughly balance current account — which means it did not import too much in relation to exports. And as far as the government budget goes Ireland ran a surplus every year from 1998 to 2008 (except for 2003 it ran a tiny deficit). No wonder then that Ireland was the star pupil of the international economic consensus. This was quite literally model behavior.

But with the government not running into debt and imports and exports roughly balanced, where could the new money required for growth come from? Well, obviously the private sector is the only place left — and indeed the new money came precisely and predictably from there. Ireland’s growth, as we were soon to see, relied almost wholly on private sector borrowing and the inflating of a massive housing bubble.

After the international community encouraged Ireland on this path, believing it to be the poster child for a dubious economic ideology, it is the Irish people that are supposed to take the blame for the failure of this policy model.

This is madness, of course. But no one notices. Why? Because they do not speak the language of power and must try to understand things in simple moral terms. Since most of the Irish population do not understand the economic model that was bestowed upon us by international leaders and their representatives in Ireland they must instead seek solace in simple moral arguments.

But why don’t our own patriotic commentariat explain what has happened and absolve the Irish people of their guilt in simple logical terms? Why don’t they point out that these reforms were sanctioned and pushed by the very people that now demand our infinite apologies? Because, quite simply, almost every single person in Ireland today qualified to explain what happened was complicit in pushing this economic ideology. And so to explain to the Irish people what actually happened would be to give them the rope with which to hang the commentariat.

Tragic as this may be, there is at least one saving grace: namely, that the Irish people know something stinks when the likes of Kenny comes out and play-acts his guilt in front of an international audience. There is a general feeling amongst the populace that they have been had. They know that during the boom years they played by the rules handed down from Frankfurt, Brussels and, yes, Davos — and they sense that it is these rules and the lawmen behind them that are to blame for the current mess.

By Tim Cooley, a marketer for Coxcabledeals.com. Please see his articles following him on Twitter at @TimLCooley

To raise public awareness of legislation that might threaten the openness of the internet, Wikipedia and several other sites recently made themselves unavailable for 24 hours. Of course, some people quickly found a way around the block, and everyone else just waited until the sites returned.

But what if the internet suffered a real blow? How would things change if Google and Bing went down for 24 hours, and there wasn’t a way around the block?

If your first thought is to do your online searches through Yahoo!, you will run into another roadblock. Since 2010, Yahoo! searches are powered by Bing. Can you name any other search engine sites off the top of your head? You’re in trouble if you can’t – remember, there’s no way to search for them.

This exposes one of the most problematic fallouts. Most of us stopped learning web-addresses or bookmarking them several years ago. Why build a catalog for where to find things when you can search for them just as quickly? The next time you’re working online, notice just how often you type into your browser’s search bar. You’ll be surprised to learn how common and automatic it has become.

But losing search sites is only the tip of the iceberg. Google and Bing also provide extensive services in other areas, one of the most obvious being email—Gmail alone has 350 million users. Blacking out Gmail would certainly affect all these people, but it would also affect everyone trying to reach them. Multiplied outwards, email communication would quickly grind to a halt.

Another issue would come in when you try to access maps online or on your phone. The apps that run these maps on the iPhone or Android are done through Google Maps.

Most of the searches and YouTube videos embedded into websites would also quit working. You probably wouldn’t be disappointed when advertisements stopped working, but the economic fallout would be huge, because most websites rely on Google AdWords for their income. Even though few people realize it, huge numbers of websites depend on tools from Google and Bing to power their websites behind the scenes. Shut down the services of Bing and Google, and the problems would spread like a virus, affecting most of the internet.

So what would happen if Google and Bing shut down for 24 hours? Most likely, you would try to get a few things done and give up when everything took longer or didn’t work at all. At some point, you would shut your browser and try to find something else interesting to do.

So if we could weather the economic problems it would bring not to mention the frustration, maybe the blackout wouldn’t be such a bad thing after all. It might help us all take a needed reprieve and consider a few things that are more important—at least for 24 hours. If Google and Bing decided to take the day off I would rejoice and take a day of vacation!

By Wolf Richter, San Francisco based executive, entrepreneur, start up specialist, and author, with extensive international work experience. Cross posted from Testosterone Pit.

Unemployment is a staggering problem in Eurozone countries that are at the core of the debt crisis. Spain’s jobless rate jumped to 22.8%. Among 16 to 24-year-olds, it’s an unimaginable 51.4%, up from 18% in 2008 when Spain’s crisis began with the collapse of its housing bubble. In Greece, youth unemployment reached 46.6%. In Portugal, it’s 30.7%, in Italy 30.1%.

And optimism, that essential source of energy for the younger generation, has been replaced by pessimism. Gallup reported that 80% of the people in the EU had a negative outlook on their local job situation. Crisis countries were at the extreme end of pessimism: in Portugal, 84% thought it was a “bad time” to find a job; in Italy, 91%; in Spain, 92%; in Ireland, 93%; and in Greece, 96%.

These numbers convey a sense of utter hopelessness. For young people, the vision of a good life that their society has imparted on them has gone up in smoke. A bitter irony: it’s the best educated generation ever—and the most pessimistic.

People deal with it the best they can. Some retrench. Even 35-year-olds move back in with their parents. They delay plans and wait for the situation to turn around. But others, the most energetic and entrepreneurial, those that the country needs to rebuild the economy, they don’t have that kind of patience. They pack up and leave to find a job elsewhere. And they are doing it in massive numbers.

Spaniards are heading mostly to Argentina whose economy has been booming over the last few years, though troubles are everywhere. The exodus reversed the flow from Argentina to Spain following Argentina’s bankruptcy in 2001. For many years a magnet for immigrants, Spain registered a net emigration of 50,000 people in 2011.

Portuguese prefer their former colonies. Angola, whose official language is Portuguese, has a wealth of natural resources, particularly oil and diamonds. Since 2002, after a quarter century of civil war, the economy has grown in the double digits every year, and Luanda has become the most expensive city in the world. According to the Organization for Economic Cooperation and Development (OECD), 70,000 Portuguese sought their fortunes in Angola in 2010 alone. Similar numbers are expected for 2011. For Portugal, with a population of only 10.5 million, it’s significant.  

Other Portuguese try their luck in Brazil whose economy is in need of engineers and experts of all kinds. Brazil recently softened its immigration restrictions to attract the educated elite—and others are have taken notice. For example, the number of Spaniards immigrating to Brazil jumped by 45% in 2011.

Ireland has had a net outflow of people since 2009. First, Polish immigrants who could no longer find work returned home, but then the Irish themselves set out mostly for Australia and New Zealand, which have favorable visa agreements with the EU. 40,000 left in 2011, many of them women.

Greeks head to Germany, an irony of sorts, given the bad will that German efforts to impose strict austerity measures have engendered in Greece.

When educated and entrepreneurial young people leave their country in massive numbers, it impacts the economy for the long term. Their country invested heavily in their education, an asset, and now they put this asset to work in another country. There, they earn money, pay taxes, consume goods and services, and rent or buy a home—the exact activities that their own country must have to get out of the economic quagmire. Sure, emigration reduces the expenses for unemployment compensation and other services, but it drains the economy of energy, entrepreneurial spirit, can-do attitude, and knowhow.

And it worsens the debt crisis. For national debt to remain “sustainable,” young people need to stick around, start a productive career, consume, build up assets, move into those vacant homes that banks are holding, and pay taxes. But the exodus underway now doesn’t bode well for a long-term solution of the debt crisis—assuming that a country like Greece can even stay in the Eurozone.

“The case of Greece is hopeless,” Otmar Issing said. He should know. He was on the Bundesbank and the ECB. Another substantive voice in an increasingly loud chorus. But it’s legally impossible to kick Greece out of the Eurozone. So he suggested a procedure—a procedure that has been happening all along. Read…. Kicking Greece out of the Eurozone.

Apologies for thin links, up late posting.

Ranger uses stun gun on man walking dogs off-leash Associated Press (hat tip Lambert)

Pythons linked to Florida Everglades mammal decline BBC (hat tip reader John M)

Amazon misses sales expectations Financial Times

Peak oil and growth MacroBusiness

Whistleblowers Expose FDA’s Illegal Surveillance of Employees Whistleblowers (hat tip reader furzy mouse)

Europe is stuck on life support Martin Wolf, Financial Times

European Policy By Sloth MacroMan (hat tip reader Scott)

G.O.P. Donors Showing Thirst to Oust Obama in November New York Times

Lilly Ledbetter Did Not Alter Pay Equity Gap Whatsoever Dave Dayen, Firedoglake (hat tip reader Carol B)

The Best Alternative Financial Blogs CNBC (hat tip reader furzy mouse). Shows the financial blogosphere is still alive and kicking.

French banks would come to Britain to avoid tax: Cameron EU Business (hat tip reader furzy mouse)

Low rates: the drug we can all do without Satyajit Das, Financial Times

The Fetish for Liquidity (and Reform of the Financial System) Randy Wray, Credit Writedowns

Foreclosures Draw Private Equity as U.S. Sells Homes Bloomberg. Wish I had time to post on this. I’ve worked on the buy side (PE and hedgies) and I’d recommend against this strategy big time. They might get a few initial deals at a super discount BUT residential real estate is a huge hassle to manage and to earn PE returns, I strongly suspect they need decent to good home price appreciation. Remember when investment banks bought servciers and subprime originators in late 2006 and 2007, convinced they were buying on a dip? They were trying to unload servicers to hedgies in 2008 (I know because I had to discourage one in a major way). Just because something is cheap does not mean it might not get cheaper.

In Atlanta, Housing Woes Reflect Nation’s Pain New York Times. As indicated a week or so, when we questioned Krugman’s call of a housing bottom, the really big actual and shadow inventory argues for continuing price pressure in most markets.

Supplemental and Friend-Of-The-Court Briefs Filed In Eaton v. Federal National Mortgage Ass’n (Fannie Mae) (hat tip if my lousy memory is correct reader Tim as well as Deontos) Massachusetts Real Estate Blog. Ooh, this is a doozy.

A Debt Market’s Slow Recovery Is Burdened by New Regulation New York Times. OMG, is this disingenuous. Argues that CLOs help raise capital “for many businesses.” Well, if you include PE firms, that might be right. CLOs pre the crisis were used heavily for takeover-related lending.

Holder & Obama’s Propaganda is “Belied by a Troublesome Little Thing Called Facts” Bill Black, New Economic Perspectives

Inequality, Mobility, Opportunity Mark Thoma

Guest post from OWS: Too Big to Fail is Too Big to Ignore FT Alphaville. Today’s must read! I know the people involved in this group and they are a good bunch. Congrats.

Antidote du jour: