Understanding the global impact of the Subprime Crisis; implications of GIC and Temasek Holdings bailout

The Singapore’s Government Investment Corporation (GIC) and Temasek Holdings have recently made acquisitions and provided bailouts to European and American financial institutions.

The former has injected US$6.88 billion in Citigroup and 11 billion Swiss franc (equivalent to US$10 billion) in Swiss- based UBS. GIC’s stake in UBS makes it the largest single shareholder of the institution (about 9%). On the other hand, Temasek Holdings has acquired $4.4 billion worth of Merrill Lynch & Co.

To understand why the European and American financial institutions have sought overseas investors for bailouts, it is essential to clarify how they have found themselves in a mess in the first place.

Citi (which used to be called Citibank) posted its largest $18 billion loss of its 196 years of history recently. Similarly, Merill Lynch posted a whooping $9.8 billion fourth-quarter loss and $16.7 billion of write-downs on mortgage-related investments and leveraged loans. UBS also wrote down $14.7 billion last year due to its U.S. subprime mortgages. In a nutshell, the US subprime mortgage crisis. It has been explained by the mainstream media as a situation whereby banks offer ’subprime loans’ to people with risky credit ratings. As these people began to default on their repayments, it led to a wave of repossessions and bank losses; and henceforth, the crisis.

However, the situation is more complex than what has been portrayed. In her series of articles on the recent crises, Pam Martens argued that it is the rot of the financial system that has caused the financial meltdown.

In her article, ‘The Toxic Giant and It’s Own Black Hole, Wall Street Metes Out Street Justice to Citigroup’, she accuses Citi of being non-accountable, belonging to the ilk of Enron when the former company repeatedly avoided public trials in the past, by paying millions to regulatory bodies and private plaintiffs when investor sued them for ‘creating off balance sheet structures to hide the debt of large U.S. firms such as Enron.’

These non-accountable off balance sheet structures are known as CDOs (collateralized debt obligations), ‘opaque and convoluted debt instruments managed by Citigroup,’ through its ‘Cayman Islands SIVs(Structured Investment Vehicles), transmuted into AAA-rated commercial paper, landed in the so-called safe money market funds in the U.S., including an astonishing amount at Citigroup’s competitor, Merrill Lynch.’

Citi currently manages 7 SIVs, according to her and ‘not consolidated on Citigroup’s balance sheet‘: Centauri Corp., Beta Finance Corp., Sedna Finance Corp., Five Finance Corp., and Dorada Corp. The group created two SIVs, Zela Finance Corp. and Vetra Finance Corp in November 2006. All these SIVs contain ‘approximately $80 Billion in what is increasingly being viewed as toxic debt.’

Her predictions in this November 2007 article hit close to home as we witness Citi posting its losses.

Not only is Citi in the red, other financial institutions which has bought out the group, such as Merrill Lynch, has suffered a similar fate. According to Pam, Merrill Lynch injected about $52.9 Million in Beta Finance, $53 Million in Five Finance, $10 Million in Sedna Finance, and $10.7 Million in Zela Finance (all Citi ’s SIVs). In buying out Citi, Merrill Lynch ‘increases its exposure’ to the subprime mortage losses, hence suffering a loss as well.

For the uninitiated, SIVs are companies or vehicles which basically borrow ‘low-yielding currencies, lending high-yielding ones and profiting from the spread.’ By borrowing money in the short term in order to invest in higher-yielding or more risky assets longer term, through ‘offshore and often unregulated facilities’, they are then ’sold to wealthy investors and hedge funds for their high yield.’

SIVs, are by their nature, not reflected on the balance sheets of their parent companies, and hence unaccountable. Through a ‘complex asset-backed securities’, and without ‘any reserves to back them up’, it will not be an exaggeration to claim that their effects can have a domino effect. Yet, how does SIVs tie in with the subprime mortgage crisis? The answer is simple. Many of the subprime loans (whether in terms of housing mortagages or credit cards) are made through SIVs.

In another article, ‘Wall Street’s Bad Boys and Their Washington Enablers; Banksters Gone Wild’, Pam criticised the Bush administration and Wall Street for being responsible in this whole debacle.

‘To state the truth would be admitting that the Bush administration and its crony capitalists failed to properly audit the largest banks in America; failed to pay attention as they stashed hundreds of billions of dollars off their balance sheets in a replay of Enronomics; failed to prosecute the banksters when they parked this toxic waste in Mom and Pop money market funds across the country; and failed to jail the banksters before they burned down the bank and became a global threat to financial stability.

And while the Securities and Exchange Commission (SEC), Federal Reserve Board (FRB), and Congress bear much blame for the financial crisis, the Office of the Controller of the Currency (OCC) stands out as the quintessential enabler of corruption on Wall Street.

Eric Toussain, president of the Committee for the Abolition of Third World Debt, opined that the problem is more widespread, structural and cannot be easily solved as it is a result of the abject failure of the neoliberal capitalist model.’ He blamed it on the ‘directors of the private financial institutions’, ‘the governments of the main industrialised countries, the directors of the main central banks, the directors of the BIS, of the IMF and the World Bank’ for an opaque financial system that has and is failing.

On SIVS, he said, the ‘complex debt and loan packages’ through SIVs from the sale of CDOs ‘do not create real wealth’ and are ‘largely speculative financial operations’.

As the crisis unfolds in August 2007, he related how the domino and multiplier effect, can have an impact on the financial system, ‘the investors who habitually bought commercial papers issued by the SIVs stopped buying them because they no longer had confidence in the health and credibility of the SIVs. Consequently the SIVs lacked liquidity for buying mortgage bonds and the crisis worsened. The big banks that had created these SIVs had to honour SIV commitments to avoid them going bankrupt.’

Thus, to summarize, the result of the housing and credit financial meltdown in the US and indirectly, Europe, would have a significant impact on other parts of the world. The deregulation of the financial market over the years, coupled with the lack of transparency and accountability in SIVs directly contributed to the current financial woes in the US.

As Singapore’s GIC and Temasek Holdings, which uses the Singapore reserves for investment, pumps money into Citi, Merill Lynch and UBS, all posting losses due to the US subprime housing crisis, the possibility of another Enron scandal, due to the understated opaqueness of the financial vehicles and system, is, if not, worrying.

On the other hand, some analysts have termed the buyout of the western financial giants as a form of ‘reverse neocolonialism’ since most of the buyers are sovereign wealth funds (SWFs) from developing countries such as China, Saudi Arabia and Russia. These wealth funds, like our GIC and Temasek, unlikely to publicly disclose their financial books, which will only add another layer of opaqueness to the current flurry of transactions.

In a latest statement by Finance Minister Tharman Shanmugaratnam in Parliament, the government reiterated that the decisions made by GIC and Temasek are driven by ‘thoroughly assessed risk, hard-headed commercial decisions after careful assessment of the risk and the prospect for returns over the long term’ and that the Singapore government has no role in influencing the decision.

Considering that GIC and Temasek Holdings made these investments with the national reserves, it does not inspire confidence that its previous acquisitions such as the Barclay Banks and Shincorp have seen losses instead of gains.

At the time of writing this report, Bank of China has been suspended from trading shares on the Shanghai Stock Exchange for the entire 22 January. As the bank is not required to fully disclose its financial results till April, analysts have predicted that the state-owned lender, are possibly looking at writing off a quarter of the nearly $US8 billion ($9.3 billion) it holds in securities backed by sub-prime mortgages. Other banks in China that are likely to be affected due to holding subprime investments include Industrial & Commercial Bank of China and China Construction Bank.

For the average Singaporean, the burning question is whether GICs and Temasek Holdings have made the right decision to bail out the financial institutions.

On another more pressing and global level, the crisis reveals the opaqueness of a financial system which poses disastrous threats which can spin out of hand. One could even second guess if Citi might even turn up to become another Enron. Hopefully, this will serve as a wake up call for banks, financial institutions, national and international financial regulators to further regulate and instill a more transparent and accountable system.

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References:

1. The Toxic Giant and It’s Own Black Hole, Wall Street Metes Out Street Justice to Citigroup, Counterpunch, Pam Martens, 6 November 2007

2. What are SIVS and what are they doing to our financial markets?, DailybuySellAdviser.com, extracted on 21 January 2008

3. Wall Street’s Bad Boys and Their Washington Enablers; Banksters Gone Wild, Counterpunch, Pam Marten, 7 December 2007

4. An International Contamination, The US Subprime Crisis Goes Global, Counterpunch, Eric Toussain, 12/13 January 2008

5. Tharman says not govt’s role to comment on GIC, Temasek investments, Channel News Asia, 21 January 2008

6. Bank of China shares suspended, AL Jazeera, 22 January 2008

7. Sub-prime likely to hit Bank of China, The Australian, Jason Leo in Beijing and James T. Areddy in Shanghai, reprinted from The Wall Street Journal, 22 January 2008

Amnesty (for) American Abductions?

I came across this story from Michael Otterman’s American Torture website which was related to a Times article dated early December last year.

I quote an excerpt, ‘

A senior lawyer for the American government has told the Court of Appeal in London that kidnapping foreign citizens is permissible under American law because the US Supreme Court has sanctioned it.

That means that if someone was kidnapped by US security forces (e.g. CIA) in another country and brought to America for criminal charges, its existing national court could rule in favour of the ‘kidnappers’ and conclude that the abduction is legal. The assumption made according to the senior lawyer for the US government predates to the 19th century of bounty hunting.

This preposterous arrogance and (il)legality is astounding. Does the US courts have total jurisdiction on a worldwide basis? What is the purpose of extradition treaties if bounty hunters can be employed professionally to do the dirty work?

But then again, the US government has always been reluctant to adhere to international benchmarks when it comes to human rights laws. Even when Bill Clinton signed the Rome Statute of the International Criminal Court in 2000, he did not send the convention to the senate for ratification. When George Bush became the President, he withdrew the signature in 2002, signifying a step back on human rights. The ICC was set up to focus on gross and systematic human rights violations such as genocide, crimes against humanity, and war crimes.

Back to the story. Imagine the public outcry and condemnation if a US citizen had been kidnapped and sent to another country facing trial and alleged charges?

I love the ending statement from the lawyer, who said’

The United States does have a view about procuring people to its own shores which is not shared…

American exceptionalism at its pure finesse. I am lost for words.

Is Barack Obama a closeted Republican?

It is discomforting, if not puzzling that Mr Barack Obama, a Democratic Presidential candidate, promising positive blazing changes, has chosen to use Ronald Reagan, a former Republican President as an example; as well as to endorse the Republican party in an interview with the Reno Gazette-Journal editorial board.

After all, Reagan was a controversial figure head, who was notorious for his human rights and environmental record, mismanaging the economy, and having the dubious honour of being the first President who surrounded himself with a bunch of neo-conservative advisers during his administration. They included Defense Department aide Richard Perle, the U.S. ambassador to the United Nations, Jeane Kirkpatrick, Irving Kristol and Norman Podhoretz.

Upon hearing his comment, John Edwards, another Democratic candidate, was quick to denounce Obama for using Reagan as an example. On Reagan, Edwards said, this was ‘the man who busted unions, the man who did everything in his power to destroy the organized labor movement, the man who created a tax structure that favored the richest Americans against middle class and working families… was destructive to the environment by removing a lot of the regulation that existed

Edwards is spot right on all accounts.

On busting unions, just months into being office in 1981, Reagan fired about 12,000 federal air traffic controllers from the Professional Air Traffic Controllers’ Organization (PATCO) who, ironically, supported his presidential campaign. While it was a violation for governmental employees to strike at that time, the result was to ‘break the union and signal to corporations that it is acceptable to be anti-union.’

The former President’s track record in the management of the American economy has often been labelled as ‘Reaganomics’, which, according to Robert Pollin, Professor of Economic and founding co-director of the Political Economy Research Institute at the University of Massachusetts-Amherst, benefited the rich and not the poor.

In the article, ‘Reaganomics Revisited, Beyond the Glow of Nostalgia’ published on Counterpunch, he cited the increase of individual poverty rate from 11.9 per cent under Carter to 14.1 per cent under Reagan as an indicator. He also cited the fall of average real wages. The average figure during his presidency ‘was $15.72 per hour (in 2005 dollars), was 7.6 per cent below the average hourly wage under Carter of $16.95, and 9.6 below the Nixon/Ford peak of $17.39.’

He summed up, ‘Reagan’s fiscal program was fundamentally about tax cuts for the rich, a massive expansion in military spending, sharp reductions in social expenditures, and an acceptance-or better still, an embrace-of large-scale federal government fiscal deficits on these terms.’

Even on the topic of environmental conservatism, Reagan nominated advisers who actively sought to break the laws for the benefit of corporate profiteers. Jeffrey St. Clair charted the rise of these figures, known as the ‘Sagebrush Rebels’ or ‘the Crazies on the Hill,’ which featured two prominent stalwarts - James Watt, the head of the Department of Interior and Anne Gorsuch in the Environmental Protection Agency.

In an excerpt of Jeffrey’s book on Reagan’s Administration, he had this to say about Watt, ‘ Within a matter of months Watt proposed the sale of 30 million acres of public lands to private companies, gave away billions of dollars worth of publicly-owned coal resources, fought to permit corporations manage national parks, refused to enforce the nation’s strip mine law, offered up the Outer Continental Shelf oil reserves to exploration and drilling, ignored the Endangered Species Act and purged the Interior Department of any employees who objected to his agenda.’ Gorsuch, on the other hand, according to him, created a ‘climate of cronyism that infected the EPA in those days… pander to its political allies: Coors, Browning-Ferris Industries, Westinghouse and Monsanto.’

His claims were supported by Amanda Griscom on Grist.com, a Washington based environmental group. In her article on Reagan’s environmental legacy, the writer quoted Frank O’Donnell, director of Clean Air Trust, who reported on environmental policy for The Washington Monthly during the Reagan era, “EPA budget cuts during Reagan’s first term were worse than they are today.” Phil Clapp, president of National Environmental Trust said, ‘the administration tried to cut EPA funding by more than 25 percent in its first budget proposal’.

While Edwards had not touched on Reagan’s foreign policy, it was the latter’s aggressive ‘anti-communism’ efforts, in the form of funding and supporting right wing Latin American dictatorships that proved most disturbing. Reagan’s support of these illiberal and violent regimes paved the stage for repressive military assaults causing massacres and human rights violations.

The Iran-Contra scandal in which proceeds from weapon sales to Iran was secretly used to fund the anti-communist Contras in Nicaragua, an illegal act under the Congress, caused a civil war in Nicaragua, leading to the deaths of 50,000 people.

In El Salvador, Reagan’s administration pumped in more than $4 billion on economic and military aid to the military government, resulting in more than 75,000 deaths, most of them civilians, who were caught in the crossfire. He also supported General Efrain Rios Montt’s coup in Guatemala that caused the death of than 200,000, mostly indigenous people, over a lengthy 36 years period of civil war.

Reagan’s supporters may argue that the former President was an important figure, at least, in contributing to world stability for his overstated role in ending the Cold War. Yet, scholars and historians have disputed that version of history. In fact, Reagan was purportedly ‘anti-communist’ as has been witnessed through his support of Latin American military dictatorships. He admonished, called the Soviet Union an ‘evil empire’ and came up with belligerent military policies which escalated the arms race. Efforts which are clearly promoting distrust and increasing tension with the Soviet Union during the Cold War.

During his administration, he approved the Star Wars, or the Strategic Defense Initiative (SDI), a military defense program (as a deterrence against the Soviets), using ground and space-based systems to protect America from strategic nuclear ballistic missiles attack.

As such, he actually extended the cold war by promoting hard-line rhetoric in the Communist bloc, and not the other way round. Academics also argued that the end of the cold war were due to internal pressures within Soviet Union, in the form of declining legitimacy, an increasing need for reforms and widening gaps in the society as the reform process unfolded. All these were significant factors in ending the cold war.

Perhaps a Sunday Times Online article, uncannily titled, ‘Republicans defect to the Obama camp’ will provide clues as to why Barack Oabama has chosen Reagan as his exemplifying example of change.

The writer, Sarah Baxter, reported that Barack Oabama is converting, not just Republicans, but also those who used to be ardent Bush supporters. For example, John Canning, a previous Bush supporter and investment banker; and Tom Bernstein, who co-owns Texas Rangers baseball team with the current President.

Robert Kagan, founder of the neoconservative think think, Project for the New American Century, and a supporter of John McCain, has publicly endorsed Obama, as a “pure John Kennedy”, a neocon hero of the cold war for his support of the war.

At the end of Sarah’s article, Obama was strangely labelled, the ‘Black Ronald Regan’ for his unwavering optimism for the future. Is it therefore, any surprise, that Mr Obama has chosen to cite the former President as an agent of change, and perhaps, implicitly and unconsciously, his source of inspiration?

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References:

1. Edwards, Clinton critical of Obama, Associated Press, Nedra Pickler, 19 January 2008

2. Reagan presidency pivotal for unions; Workers: Organized labor’s situation worsened under his administration, Baltimore Sun, Stacey Hirsh, 8 June 2004

3. Reaganomics Revisited; Beyond the Glow of Nostalgia, Counterpunch, Robert Pollin, 22 February 2006

4. The Nature of Ronald Reagan, Will the Earth Accept His Corpse?, Counterpunch, Jeffrey St. Clair, 8 June 2004

5. How Green Was the Gipper?, A look back at Reagan’s environmental record, Grist, Amanda Griscom, 10 June 2004

6. In Central America, Reagan Remains A Polarizing Figure, Washington Post Foreign Service, Kevin Sullivan and Mary Jordan, 10 June 2004

7. Republicans defect to the Obama camp, The Sunday Times, Sarah Baxter, 6 May 2007