Reader note: I’m taking the week off for Thanksgiving, so blogging will be light. Back next Monday.

Sewers at capacity, waste poisons waterways (Duhigg, NYT) Fascinating. Yet another example of how society is overgrown. Everywhere you look, there’s another piece of antiquated American infrastructure that is completely unable to handle capacity thrown at it by the modern economy. Sewers, the electric grid, air traffic control systems, the list goes on. But it’s just too expensive to build any of them out: “As much as $400 billion in extra spending is needed over the next decade to fix the nation’s sewer infrastructure, according to estimates by the E.P.A. and the [GAO].” $400 billion. Just for sewers. We don’t, nor will we ever, have the money for that. Not w/o sacrificing all the other stuff we want. Economists are trying to convince you that debt-financed “growth” is the only way to solve our economic problems. They’re wrong. Debt-financed consolidation is the best we can hope for.

Wave of debt payments facing U.S. government (Andrews, NYT) Is the NYT editorial board getting budget conscious? (See again their pitch for fiscal prudence in NY State). This front-pager doesn’t contain much new info, but it articulates clearly the debt problem we face. And they put it next to the article on sewers above. By the way, the quote from Bill Gross is interesting. Out of one side of his mouth he tells the government to borrow to “support asset prices,” out of the other he wants us to stock away nuts for the Winter. Which is it Bill?

Gold reaches $1,174 (kitco) What kills the gold rally? Action from the Federal Reserve to defend the dollar. But we’re getting the opposite. Yesterday St. Louis Fed President Bullard said the Fed should keep its QE program open after it finishes its planned purchase of $1.45 trillion of mortgage securities next March.

Buffalo’s slow-moving Katrina (Carey, Reuters) Route to recovery is a great series from the folks here at Reuters. Detroit gets all the press, but there are plenty of other post-industrial neighborhoods that are suffering.

Wells Fargo underestimating off balance sheet exposures (Whalen, ZeroHedge) If you look at Wells Fargo’s latest 10-Q (page 31), the company has over $2.0 trillion of off-balance sheet assets. But they only plan to consolidate $48 billion worth, according to their most recent estimate. Chris makes the point that, although $1.1 trillion of the OBS assets are “conforming” mortgages (and therefore eligible for government guarantees) it’s not fair for Wells to pretend these mortgages pose zero risk for their balance sheet.

Taking taxpayers for a ride (Niedermayer, NYT) Last week Fritz Henderson said GM would “repay” part of its bailout? LOL!

Existing home sales increase sharply in October (CalculatedRisk)  Plus more interesting charts from CR. Ultra-low rates, government financing and the homebuyer tax credit are successfully reflating the housing bubble….for the moment.

Man trapped in 23-year coma was conscious the whole time (Hall, Daily Mail) Wow. Stephen King has written horror stories using this story line….

Argument against cloning… (imgur)

Squirrel saves baby from dog (picheroic)

Is gold going to $6,300? Dylan Grice, an analyst with Societe Generale, says it’s possible, given the decline in central bank credibility. But investors need to keep one thing in mind: Gold is merely a vehicle to protect the purchasing power of money.

Gold is surging because investors see that the Federal Reserve — more concerned with deflation and unemployment than sound money — may be trapped in a never-ending cycle of monetary accommodation.

Ben Bernanke says he won’t monetize debt, but he already has. His Fed has bought $300 billion of Treasuries and is on pace to buy $1.45 trillion of government-backed mortgage debt all of which is being salted away indefinitely on the Fed’s balance sheet.

Why indefinitely? Because the Fed has no intention of unwinding its balance sheet so long as the economy is stressed. Witness comments this week from Bernanke, Fed Vice Chairman Don Kohn and San Francisco Fed President Janet Yellen all suggesting that the Fed’s “extended period” of low interest rates can be measured in years, not months. Today St. Louis Fed President James Bullard said rates aren’t going up till 2012.

So long as deficit spending continues, if the Fed wants to avoid deflation, it will be forced to monetize more debt.

[Elsewhere, capital controls are being erected in emerging economies like Brazil, Taiwan, and possibly Indonesia in order to keep speculative waters at bay. As Hong Kong's chief executive remarked last week, a dollar carry trade spawned by low rates threatens to inflate dangerous asset bubbles in emerging markets the same way low Japanese rates did in the '90s.]

Exploding debt throughout the developed world means other central banks face similar pressure.

(Click chart to enlarge in new window, reprinted with permission)

So confidence in paper currencies is waning.

Some people say it is absurd to buy gold; the metal has no intrinsic value. That may be. But is it any less absurd to hold paper? The best that can be said for paper is that if you lend or invest it, tomorrow someone will give you more paper in return. This is fine so long as its purchasing power is maintained. But it isn’t. A 2009 dollar is worth a 1914 nickel.

Eventually the value of all the paper you’ve accumulated goes to zero. The trick is to turn that paper into tangible assets with tangible value.

Gold may be volatile, but at least it maintains its real value:

(click chart to enlarge in new window, reprinted with permission)

Grice contends that the price of gold could reach $6,300 an ounce. He explains: “The U.S. owns nearly 263 million troy ounces of gold (the world’s biggest holder) while the Fed’s monetary base is $1.7 trillion. So the price of gold at which the U.S. dollar would be fully gold-backed is currently around $6,300. Gold is very cheap — at current prices, the USD is only 15 percent gold-backed.”

Absurd you say? It happened 30 years ago. President Nixon ended the Bretton Woods global monetary system and his compliant Fed Chairman Arthur Burns let inflation run wild. So by 1980 gold spiked to a level at which the dollar was “overbacked” according to Grice.

Did gold overshoot in 1980? Sure, but only because Paul Volcker was willing to hammer the economy to re-establish the Fed’s credibility. Today’s Fed has been very clear that it isn’t willing to put up with a recession of any kind in the service of sound money.

All of that said, investors should be careful. Grice’s chart shows that, over the long run, gold is likely to do no better than protect your purchasing power. An ounce of gold today buys a good men’s suit; in 100 years, it is likely to buy the same.

So gold won’t make you rich. But it may protect you from becoming poor.

Citigroup’s capital position appeared much improved when the bank reported third-quarter earnings, but a look beneath the surface shows that much of its capital is of questionable value.

According to its recent 10-Q, Citi had $38 billion of deferred tax assets as of Sept. 30, more than a third of the bank’s tangible common equity of $107 billion.

Backing that out, Citi’s TCE ratio — the inverse of leverage — is reduced from 5.7 percent to 3.7 percent. And when Citi adopts new accounting rules for off-balance-sheet assets, the ratio will be reduced further to 2.8 percent.

Bank regulators should be concerned. To fortify their balance sheets so they can withstand systemic events without government support, banks need genuine capital available to absorb losses.

Deferred tax assets, or DTAs, don’t fit that bill. Imagine an individual in bankruptcy court asking to pay off his credit card debt with tax-loss carryforwards.

So long as Citi generates profit, its DTAs have value. But earnings could evaporate quickly if the Fed decides it has to prick the new asset price bubble being inflated by near-zero rates, or if an unanticipated systemic event puts stress on Citi’s balance sheet.

There may be another problem with Citi’s ability to realize the value of its DTAs. According to Barclays analyst Jason Goldberg, future transactions in the company’s stock could be considered an “ownership change” that would require some DTAs to be written off. That would be a direct hit to tangible common equity.

Citi’s pile of DTAs may be the largest, both absolutely and as a percentage of TCE, but JPMorgan Chase, Bank of America and Wells Fargo each have their own.

Some regulators are taking action. As Robert Barba reported in the American Banker, the California Department of Financial Institutions last week took the unusual step of instructing Hanmi Financial Corp. to raise common equity as part of an enforcement action.

It’s a promising portent. Bank regulators have a lot of power to force Citi and the other big banks to raise real capital. They should use it while markets are receptive.

Detroit house auction flops (Reuters) “Despite a minimum bid of $500, less than a fifth of the Detroit land was sold after four days.” The article notes that “total vacant land in Detroit now occupies an area almost the size of Boston.”

Underpricing risk: Rescuers fear Yuppie 911 (MSNBC) A parable for risk management in the modern age. Since the government has proved itself adept at rescues, folks across the investing spectrum end up in sticky situations they were never prepared to handle on their own. What happens when so many people end up in the same situation that the government’s rescue facilities are overwhelmed? What happens when contingent liabilities break the federal government’s balance sheet?

Rally fueled by cheap money brings sense of foreboding (FT) One of Gillian Tett’s correspondents thinks October ‘08 may just have been a dress rehearsal for the crash to come…

The “benefit” of Somali pirates (channel4) Somali’s get to catch their own fish…

Great Depression-esque bad debt at US banks (Alphaville) A great post from Tracy Alloway, using Moody’s data.

Reckless strategies doomed WaMu (Seattle Times, ht CR) Part 1 of 2.

Geithner wides bills-to-bonds gap with new sales (Bloomberg) Smart. The average maturity for Treasuries had reached just 49 months recently as Treasury sold more short-term debt. Better to lock in low rates now to reduce rollover risk.

Installing Windows (imgur)

More U.S. children being diagnosed with Youthful Tendency Syndrome (The Onion)

Super cool…(funnier the second time through)

No bank failures last night, folks. Sheila took the night off…

“The deadline for Peace Prize nominations is Feb. 1, meaning the president was nominated after being in office for just 11 days.” (ABC) I really feel for the guy, being anointed before he’s really accomplished anything. Managing expectations is tough, Obama hasn’t done that very well…

What are these Fed Presidents up to? (Free Exchange) The comment from John Jansen is one I agree with wholeheartedly, it’s why I argue we need Fed fire drills, an argument first made by George Cooper. The Fed means well when it tries to telegraph its moves, but in doing so, it encourages excessive risk-taking via leverage.

The Democritization of credit is over; now it’s payback time (WSJ) A good article, but not nearly enough focus on the biggest chunk of debt owed by the person profiled. It happens to be a student loan.

The Lost Generation (BusinessWeek) Peter Coy writes about young people being ravaged by the recession. Looks like those ridiculously expensive college degrees they borrowed to pay for will end up albatrosses around their neck. See again, above.

Berlusconi “most persecuted man” (BBC) The quotes from this guy are priceless. To wit: “I am without doubt the person who’s been the most persecuted in the entire history of the world and the history of man.”

Controlling healthcare costs the American way: Not doing it (McArdle) We can learn some valuable lessons from the healthcare experiment in Massachusetts.

Asia steps in to support the dollar (FT) Lucky us. The Fed won’t do the job, so the Asians will do it for them.

VIDEO: Simon Johnson and Marcy Kaptur on Bill Moyers (PBS) This is an important interview to get a sense of how a prominent, well-meaning Democrat views the financial crisis. She’s absolutely right to be pissed about how banks have handled themselves during the crisis. My problem with her, and with other Democrats like Dick Durbin who complain that bankers “own” Congress, is that they can’t handle the truth. They say they want to cut banks down to size, but they refuse to grapple with the consequences of doing so. Breaking the banks, which is to say recapitalizing their balance sheets, is absolutely necessary as part of a general de-leveraging of the economy. But it will hammer us in the short run. Hundreds of billions of dollars of paper wealth will be wiped out, with all the attendant consequences for the real economy. Until Congress is prepared to make the American people take their medicine, nothing will be accomplished.

Girl scouts (imgur)

Another ingenious animal rescue…

Investors are celebrating an incipient “recovery,” but the interventions responsible are sowing the seeds of a more violent contraction down the road. The problem, quite simply, is debt. We’ve accumulated record amounts, yet many economists tell us we need more.

Leading the charge is Paul Krugman. He exhorts us to borrow our way back to prosperity, but he doesn’t acknowledge that his brand of Keynesian economics ignores debt’s consequences. If you look at a chart of America’s total debt burden, he’s leading us over a cliff.

(Click chart to enlarge in new window)

The problem begins with the flawed way Krugman and other economists measure well-being. Primarily, they look at measures of activity, like GDP. These tell us how much people spend, but say nothing about where we get the money.

Every so often, we overextend ourselves, buying too much useless stuff with too much borrowed money. So we cut back, dumping the third family car and swapping the McMansion for a townhome.

But this is problematic for Krugman and other economists. Less spending means falling GDP. It means “recession.”

They ride to the rescue with two blunt instruments — monetary and fiscal policy — that encourage more borrowing and thus more spending. More spending equals “growth” so economists congratulate themselves for engineering “recovery.”

But if recessions never happen, bad businesses and unpayable debts are never washed away. They grow like cancer inside the system.

Since the mid-1980s, we’ve intervened whenever the economy hiccuped, so sectors that should have shrunk sharply — like housing and finance — never did. Feasting on easy credit, these sectors have exploded as a percentage of the economy.

Now, since individuals and corporations refuse to borrow more, the only way to grow spending is for the government to borrow.

According to George Cooper, author of The Origin of Financial Crises, “what is missing from today’s debate is recognition that previous growth rates were artificially supported by an unsustainable credit binge, itself the result of the misapplication of Keynesian policy.”

Cooper counts himself a Keynesian but says Keynesian policy has become “dangerously distorted.”

“We should be using Keynesian stimulus only to arrest the rate of credit contraction not to reverse it. The harsh truth is that our economies desperately need a recession.”

That’s because they desperately need to de-lever. As you can see in the first chart, debt relative to GDP is at record highs.

If we want sustainable growth, spending that drives it must come from savings, not more borrowing. To get there, we must first pay old debts. And that means recession.

Krugman is clearly aware of the consequences of excessive borrowing.

“I’m terrified about what will happen to interest rates once financial markets wake up to the implications of skyrocketing budget deficits,” he wrote in 2003, citing a $1.8 trillion 10-year deficit projection from the Congressional Budget Office.

Fast forward six years, total debt has jumped 70 percent relative to GDP and optimistic projections put the 10-year deficit at $9 trillion.

This time, however, Krugman dismisses deficit “hysteria,” arguing that we can grow our way out of debt. “We did it during the Clinton administration,” he told me when he visited Reuters last week.

But we didn’t. While Clinton balanced the federal budget, Americans plowed through their savings. We kept growing because, in the aggregate, we were still accumulating debt.

(Click chart to enlarge in new window)

Krugman has also argued that we can handle larger deficits because we have in the past. After all, public debt peaked at 118 percent in 1945 compared with 65 percent today.

Two problems. First, the argument ignores tens of trillions of unfunded obligations for Medicare and Social Security, debt Krugman loudly lamented in his 2003 column.

It also ignores the higher private debt burden facing us today. According to economist Steve Keen, “Private sector debt accumulated in the 1920s was wiped out by the Depression, so in 1945 the private sector’s debt burden was only 45 percent of GDP. In that situation it was easy to wind down public debt from levels reached to finance WWII.”

Today, private debt is a suffocating 300 percent of GDP, making more public debt that much harder to pay down.

We know how this movie ends. Look at California — or Argentina.

We chortle from afar — “how did their budget get so out of whack?” — yet our own profligacy puts us squarely on that path. Like them, we’ve shown no political will to deal with debt. And so it will deal with us.

But we can print our own currency, you say. If all else fails, the United States can inflate its way out of debt.

Nonsense. If we try, our foreign lenders will cut us off.

As Krugman warned in 2003: “My prediction is that politicians will eventually be tempted to resolve the (fiscal) crisis the way irresponsible governments usually do: by printing money, both to pay current bills and to inflate away debt. And as that temptation becomes obvious, interest rates will soar.”

Yet today Krugman is leading the march, arguing that we can borrow indefinitely as long as deflation remains a threat.

Tell that to the Chinese.

What happens when they stop buying our bonds? To Cooper’s point, we’ll need government intervention to cushion the blow of de-leveraging. But there’s a difference between cushioning the blow and reinflating the bubble, which is what we’re doing, wasting trillions propping up housing and banking.

The risk is that we’ll have nothing left when we really need it, when the Great Leveraging becomes the Great De-Leveraging.

From Peter:

Based upon the unbelievable support that I have receieved [sic] from 10,000 supporters like you, I have decided to throw my hat into the ring to challenge Chris Dodd for the honor of representing the state of Connecticut in the United States Senate.

Peter isn’t a perfect candidate, but at least he’d fight for more sustainable fiscal and monetary policies. Chris Dodd, by the way, is co-sponsoring the extension/expansion of the disastrous housing tax credit.

Peter’s website is here.

But what is his platform? Those of us who are familiar with Peter’s TV appearances know what he stands for on economic issues, but what about the folks who haven’t seen him on TV? And what about other issues like national defense, abortion, gay rights, gun control, etc.?

Another question: Is Schiff cultivating Ron Paul and his network? Paul has a remarkably large and passionate following. They’d be natural supporters of Schiff’s likely platform and could be convinced to transplant their campaign machine to CT.

This is certainly an uphill battle, but if Schiff gets plugged in with Paul, he might have a fighting chance.

Here’s a sample TV appearance:

Actually he didn’t do so well for his investors in 2008, but his calls for a weaker dollar and stronger performance internationally have turned positive. And his U.S. macro call was dead-on, whuich is what’s most important given that we’ve put ourselves back on the same course.

The rising costs of Medicare and Medicaid threaten to destroy the nation’s fiscal future, but President Obama is pushing for healthcare reform that would increase costs. Instead, he should refocus his presidency on paying down debt.

America’s obligations over the next 75 years now surpass $62 trillion, up 8 percent since last year. And a new report released today by the Peterson Foundation suggests that total will go even higher if the House’s health care legislation is passed.

(Click table to enlarge in new window)

With today’s pliant bond market, it’s easy to pretend we can have things that can’t be paid for. But that’s the kind of attitude that led California into the fiscal abyss. We have to get serious about bringing our expenses in line with our income. Now.

Unfortunately Republicans and Democrats alike are more concerned with winning elections than passing good public policy. Republicans told us “deficits don’t matter,” signed a prescription drug benefit for Medicare that created a bigger fiscal hole than Social Security, waged two very expensive wars financed with debt, and borrowed to bail out banks.

For their part, Democrats complain about the deficit they “inherited,” then proceed to expand the bailouts, pass hundreds of billions worth of “stimulus,” and try to increase our health care liabilities over and above already unsustainable levels.

Partisan economists on both sides provide intellectual cover for this foolishness, but most Americans know better. They know our spending is unsustainable. They see what’s happened to California and know intuitively that government can’t deliver services it can’t pay for. Not forever.

Unfortunately, and this is what happened to California, the longer we wait to solve our fiscal mess, the more expensive it will be. The more we borrow today, the less we’ll have in the future.

If we wait, by the year 2040, Social Security will have gone from a small surplus as a percent of GDP (0.13 percent) to a substantial deficit (-1.34 percent). Medicare’s hospital insurance plan will have gone from a small deficit (-0.08 percent) to a huge one (-3.23 percent).

The Medicare trustees don’t provide estimates for the shortfalls of the two other Medicare programs, including for prescription drugs since, technically, there’s no shortfall: Congress has promised to fund the programs out of other government revenues.

But at that point there won’t be other revenues to spare. If nothing changes, by 2040, income taxes will be enough to cover only Social Security and interest on debt. National defense, education, Medicare, and everything else will all be unfundable. At that point income taxes would have to be doubled to put us back on a sustainable path.

But we won’t get that far. Long before most economists care to admit, foreign lenders will decide it’s no longer prudent to buy our bonds. That will be enough to cause interest rates to rise, hammering asset values and forcing the economy into a far deeper contraction.

The good news is that this problem can be solved a lot less painlessly if we confront it today. Unlike publicly-held debt, the unfunded obligations of Medicare and Social Security are promises that can be taken back.

So instead of making new promises he can’t pay for, Obama should co-opt the Republican platform of fiscal restraint. That worked pretty well for Bill Clinton after his own health care proposal died. By the end of his presidency, we were running substantial surpluses for the first time in generations. That’s the kind of change that overindulged Americans truly need.

But don’t expect that to happen. Obama and the Democrats will push some sort of health reform through Congress. Then they’ll congratulate themselves for expanding coverage — for getting more passengers on board a Titanic healthcare system that’s heading straight for an iceberg.

There are 9.5 weeks left before the end of October, when the Fed plans to end its $300 billion Treasury purchase program.  As I wrote last week, the Fed is running low on ammo if it plans to make its money stretch all the way into October.

Today, they announced another not-so-small purchase of Treasuries, $6.1 billion to be precise.  That brings the total purchased to $268.5 billion, leaving $31.5 billion left to spend over the next 9.5 weeks.

Since the start of the program in March the Fed has averaged $12.2 billion of Treasury purchases per week.  They have enough ammo left to average $3.3 billion per week through the end of October.

What’s for certain is there won’t be any more weeks like August 5th-11th, when the Fed swallowed $23.5 billion worth of Treasuries.

As the Fed winds down its participation in Treasury markets, will investors step in to soak up the flood of supply?  If they don’t, interest rates could head higher, choking off the “recovery.”

When I was 14, Warren Buffett wrote me a letter.

It was a response to one I’d sent him, pitching an investment idea.  For a kid interested in learning stocks, Buffett was a great role model.  His investing style — diligent security analysis, finding competent management, patience — was immediately appealing.

Buffett was kind enough to respond to my letter, thanking me for it and inviting me to his company’s annual meeting.  I was hooked.  Today, Buffett remains famous for investing The Right Way.  He even has a television cartoon in the works, which will groom the next generation of acolytes.

But it turns out much of the story is fiction.  A good chunk of his fortune is dependent on taxpayer largess. Were it not for government bailouts, for which Buffett lobbied hard, many of his company’s stock holdings would have been wiped out.

Berkshire Hathaway, in which Buffett owns 27 percent, according to a recent proxy filing, has more than $26 billion invested in eight financial companies that have received bailout money.  The TARP at one point had nearly $100 billion invested in these companies and, according to new data released by Thomson Reuters, FDIC backs more than $130 billion of their debt.

To put that in perspective, 75 percent of the debt these companies have issued since late November has come with a federal guarantee. (Click chart to enlarge in new window)

Without FDIC’s debt guarantee program, even impregnable Goldman would have collapsed.

And this excludes the emergency, opaque lending facilities from the Federal Reserve that also helped rescue the big banks. Without all these bailouts, the financial system would have been forced to recapitalize itself.

Banks that couldn’t finance their balance sheets would have sold toxic assets at market prices, and the losses would have wiped out their shareholder’s equity.  With $7 billion at stake, Buffett is one of the biggest of these shareholders.

He even traded the bailout, seeking morally hazardous profits in preferred stock and warrants of Goldman and GE because he had “confidence in Congress to do the right thing” — to rescue shareholders in too-big-to-fail financials from the losses that were rightfully theirs to absorb.

Keeping this in mind, I was struck by Buffett’s letter to Berkshire shareholders this year:

“Funders that have access to any sort of government guarantee — banks with FDIC-insured deposits, large entities with commercial paper now backed by the Federal Reserve, and others who are using imaginative methods (or lobbying skills) to come under the government’s umbrella — have money costs that are minimal,” he wrote.

“Conversely, highly-rated companies, such as Berkshire, are experiencing borrowing costs that … are at record levels. Moreover, funds are abundant for the government-guaranteed borrower but often scarce for others, no matter how creditworthy they may be.”

It takes remarkable chutzpah to lobby for bailouts, make trades seeking to profit from them, and then complain that those doing so put you at a disadvantage.

Elsewhere in his letter he laments “atrocious sales practices” in the financial industry, holding up Berkshire subsidiary Clayton Homes as a model of lending rectitude.

Conveniently, he neglects to mention Wells Fargo’s toxic book of home equity loans, American Express’ exploding charge-offs, GE Capital’s awful balance sheet, Bank of America’s disastrous acquisitions of Countrywide and Merrill Lynch, and Goldman Sachs’ reckless trading practices.

And what of Moody’s, the credit-rating agency that enabled lending excesses Buffett criticizes, and in which he’s held a major stake for years?  Recently Berkshire cut its stake to 16 percent from 20 percent.  Publicly, however, the Oracle of Omaha has been silent.

This is remarkably incongruous for the world’s most famous financial straight-shooter. Few have called him on it, though one notable exception was a good article by Charles Piller in the Sacramento Bee earlier this year.

Buffett didn’t respond to my email seeking a comment.

What saddens me is that Buffett is uniquely positioned to lobby for better public policy, but he’s chosen to spend his considerable political capital protecting his own holdings.

If we learn one lesson from this episode, it’s that banks should carry substantially more capital than may be necessary.  You would think Buffett would agree. He has always emphasized investing with a “margin of safety” — so why shouldn’t banks lend with one?

Yet he mocked Tim Geithner’s stress tests, which forced banks to replenish their capital. Why? Is it because his banks are drastically undercapitalized?  The more capital they’re forced to raise, the more his stake is diluted.

He points to Wells Fargo’s deposit funding model being more robust than investment banks’, but that’s no excuse for letting tangible equity dwindle to three percent of assets.  At that low level, the capital structure would have collapsed were it not for bailouts.

And by the way, the strength of Wells’ funding model is a result of FDIC insurance, among the government subsidies Buffett complains about in this year’s letter.

To me this feels like a betrayal.  There’s a reason he’s Warren Buffett and not, say, Carl Icahn.

As Roger Lowenstein wrote in his 1995 biography of Buffett, “Wall Street’s modern financiers got rich by exploiting their control of the public’s money … Buffett shunned this game … In effect, he rediscovered the art of pure capitalism — a cold-blooded sport, but a fair one.”

But there’s nothing fair about Buffett getting a bailout, about exploiting the taxpaying public for his own gain.  The naïve 14-year-olds among us thought he was better than this.

What would Ben Graham say?

Tim Geithner can’t sell his house. Wait, he raised the price? WTF!?!

If you have trouble playing the video, try it here.

There were five bank failures tonight.  Two of meaningful size, but none in Georgia!

We’re still waiting on two big fish, however, Guaranty and Corus.  In an SEC filing today, Corus said it was “critically undercapitalized” with Tier 1 Capital of $157 million.  They also admitted is was “highly unlikely” they’d be able to raise capital, so FDIC seizure is a matter of when, not if.  Next Friday may be the day. (ht CR)

And we have a new addition to the Bank Death Watch list: Colonial BancGroup, which late today expressed doubt it can continue as a going concern.  With $26.4 billion of assets and $24.6 billion of deposits as of March 31st, it’s larger than Corus and Guaranty put together.

#65

• Failed Bank:  First State Bank of Altus, Altus OK
• Acquiring Bank: Herring Bank, Amarillo TX
• Vitals: At 6/19/09, assets of $103.4m, deposits of $98.2m
• DIF Damage: $25.2m

#66

• Failed Bank:  Integrity Bank, Jupiter FL
• Acquiring Bank: Stonegate Bank, Ft. Lauderdale FL
• Vitals: At 6/5/09, assets of $119m, deposits of $102m
• DIF Damage: $46m

#67

• Failed Bank:  People’s Community Bank, West Chester OH
• Acquiring Bank: First Financial Bank NA, Hamilton OH
• Vitals: At 3/31/09, assets of $705.8m, deposits of $598.2m
• DIF Damage: $129.5m

#68

• Failed Bank:  First Bankamericano, Elizabeth NJ
• Acquiring Bank: Crown Bank, Brick NJ
• Vitals: At 7/16/09, assets of $166m, deposits of $157m
• DIF Damage: $15m

#69

• Failed Bank:  Mutual Bank, Harvey IL
• Acquiring Bank: United Central Bank, Garland TX
• Vitals: At 7/16/09, assets of $1.6b, deposits of $1.6b
• DIF Damage: $696m

UPDATED 3:25PM

NEW YORK, July 22 (Reuters) - Tim Geithner deserves a pat on the back, Hank Paulson a kick in the rear.

Goldman Sachs has announced the redemption of its TARP warrants for $1.1 billion. Including dividends, taxpayers will have made a 23 percent annualized return on their TARP investment in the firm. That’s not bad considering the great terms Goldman received when Paulson issued the warrants in the first place.

Compare the terms to those Warren Buffett received when Berkshire Hathaway made a similar preferred investment in Goldman. We got a 5 percent dividend yield. Buffett got 10 percent. We were able to redeem our preferred shares for only 100 percent of their par value. Buffet can redeem his for 110 percent.  The strike price on Buffett’s warrants is $115, the strike price on ours is $122.90.

In the end we made a 23 percent annualized return while, according to Linus Wilson, assistant professor of finance at the University of Louisiana at Lafayette, Buffett’s annualized return through July 13 was 105 percent.

Despite the poor terms, we actually did OK. According to Wilson, the deal for Goldman warrants “is the best one taxpayers have gotten to date.”  Previous warrant redemptions haven’t been very favorable for taxpayers. Here we at least got fair market value.

While it’s good news that Goldman has paid back TARP, taxpayers shouldn’t be fooled into believing that the bank is operating free of public support.

The bank has borrowed $28 billion at below-market interest rates courtesy of FDIC’s debt guarantee program; it received $13 billion directly from taxpayers to make good on AIG investment guarantees; and then there’s the various emergency lending facilities provided by the Federal Reserve to which Goldman still has access.

And these are just the explicit forms of support that Goldman gets. As a “too-big-to-fail” bank, all of its private obligations carry an implicit taxpayer guarantee.

Because taxpayers continue to insure Goldman’s liabilities, we need a greater degree of control over the firm’s assets. Hopefully regulators exercise this control and exorcise the bank’s high-risk trading business.

If Goldman guys want to keep running their hedge fund, they should do it somewhere else — not within a federally insured institution.

From NYT: For Goldman, a swift return to lofty profits

Up and down Wall Street, analysts and traders are buzzing that Goldman, which only recently paid back its government bailout money, will report blowout profits from trading on Tuesday….

“They exist, and others don’t, and taxpayers made it possible,” said one industry consultant, who, like many people interviewed for this article, declined to be named for fear of jeopardizing business relationships.

Startling, too, is how much of its revenue Goldman is expected to share with its employees. Analysts estimate that the bank will set aside enough money to pay a total of $18 billion in compensation and benefits this year to its 28,000 employees, or more than $600,000 an employee. Top producers stand to earn millions….

For all its success, Goldman is not impregnable. In addition to the federal money it took last fall, it benefited from the government’s bailout of the American International Group, being paid 100 cents on the dollar for its $13 billion counterparty exposure to the insurer, and it has $28 billion in outstanding debt issued cheaply with the backing of the Federal Deposit Insurance Corporation.

Kudos to NYT for noting the taxpayer-funded collateral payments that passed through AIG to Goldman when the former imploded.  Every dollar of that should come back to taxpayers.  Goldman took counterparty risk dealing with AIG and, when that risk blew up in its face, wasn’t forced to eat a single penny of losses.  Not a penny.

And the FDIC’s TLGP program enabled Goldman to borrow cheaply by putting a taxpayer guarantee behind that $28 billion worth of debt.

No doubt the guys at Goldman think they “deserve” all that bonus money being set aside.  They’ve totally forgotten that, without taxpayers, many would have lost their jobs when their bank blew up with the rest of the financial system…

– Rolfe Winkler is a Reuters columnist. The views expressed are his own –

NEW YORK, July 10 (Reuters) - Wall Street wants out of TARP, and on very sweet terms. Timothy Geithner appears to be standing up to them.  It’s about time.

The banks want to buy back the warrants that were issued to the government as part of the TARP bailout.  Effectively long-dated call options on bank shares, Treasury demanded the warrants so that taxpayers could participate in “upside.”  Now that bank stocks have recovered, those warrants have value.

Some banks have argued that forcing them to pay fair value runs counter to the spirit of bailouts, which was to give them free cash in the first place.   After letting small banks get out for as little as 50 cents on the dollar, Geithner is taking a much tougher line with Wall Street.  He’s asking so high a price that JPMorgan Chase says it would rather sell its warrants at auction.

This is good news, so long as the auction is transparent.  Simon Johnson, the former chief economist at the IMF who has been critical of Washington’s bailout policy, agrees: “If this is a sign that Treasury is being tougher with banks, I welcome that.”

He suggests warrants be made available in small lots so that anyone can bid. Most important, he says Treasury should also set a high enough reserve price to prevent bidder collusion.

If Geithner gets a good price for the warrants, he’ll deserve some credit. But as he lets banks exit TARP early — technically, Treasury can hold the warrants until 2018 if it wants — he must be mindful of them growing overconfident.

Banks think, probably correctly, that after they exit the most visible rescue plan, the public will believe that they are again operating free of public largesse.  No doubt they will exploit this belief to take more risk and to fight back against higher capital requirements, for instance.

Don’t be fooled.  With huge public support via FDIC and the Fed, all banks essentially remain wards of the state.  Since policymakers won’t let them fail, they have no choice but to keep them on a short leash.  Letting them buy back TARP warrants shouldn’t buy them any additional leeway.