Nick Benton's Corner: Wall Street to Leesburg Pike
Nick Benton's commentaries are published here with his permission.
We have been featuring Benton's weekly editorials every week. This week there are several features by him in the News Press that report and discuss the current looming crisis. I think these are particularly important because they highlight an aspect of the crisis that tends to be overlooked right now but is already having an impact on "Main Street."
Editorial: Wall Street to Leesburg Pike
by Nicholas Benton
The impact of the meltdown on Wall Street on conditions on Falls Church's Broad Street, and Fairfax County's Leesburg Pike, is going to become unmistakable over the next period, and will impact government revenues, pension funds and the commercial market.
This is on top of how the housing market slide, associated with what set off the Wall Street debacle, has already impacted budgets and pocketbooks here.
Folks had better be prepared to batten down the hatches in ways not needed perhaps since the Great Depression. By all accounts, the region may have been able to avoid the kinds of natural disasters that have leveled New Orleans and Galveston in the recent period, but does have a massive financial tsunami rumbling its way, on its way most of the way around the globe.
The first ripples are resulting in major losses in Fairfax County's pension funds, according to Bob Mears, executive director of Fairfax's almost $5 billion in pension funds, according to Mara Lee's article in this week's Washington Business Journal. He reported the county lost $3.5 million in Lehman Brothers stock when the company declared bankruptcy last week, and another $3.6 million in Lehman debt. He added that the county could suffer losses as large as $15.5 million if shareholders get wiped out in the Fannie Mae and Freddie Mac conservatorships. This is on top of the fact that the county is already faced with a projected $450 million shortfall in its coming $3.3 billion fiscal year budget, and that losses will be even greater for the following year. Compounding the problem is a feared decline in commercial real estate values that will likely also be triggered by the Wall Street woes.
One harbinger involves an array of Lehman Brothers' real estate holdings in the Washington, D.C area. The Business Journal has cited four major real estate projects that Lehman has invested in, in Rosslyn and D.C., including the Watergate Hotel, long before a complete list of its assets will be made public in bankruptcy court in mid-November.
With the commercial office vacancy rate at 11.9 percent already in Northern Virginia, a major devaluation of Lehman-linked commercial properties, followed by more of a similar nature, could send commercial real estate values spiraling downward, trailing after the collapse of residential values into the morass.
This is a time when compassionate, fair and civic-minded individuals will be especially tested. As public officials consider what programs to cut, they will be pressured relentlessly to preserve those that serve their interests of the wealthier and more enfranchised voters. That means programs for the needy and unrepresented, already chronically under-funded, are most likely to get cut first and hardest. Few will stand up for them, but when it comes to funding school sports or homeless and mental health services, the latter is the far greater social need
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This is backed up by a front-page story also by Benton, Area leaders Scramble as Wall St. Hits Leesburg Pike. Please bear in mind that the city of Falls Church and Fairfax County are both extremely affluent communities.
Falls Church, Fairfax County officials and business developers are joining average citizens to cope with the cascading impacts of the housing crisis as it is now spilling over into a Wall Street and banking crisis.
Local government leaders are immediately faced with significant revenue shortfalls derived from the housing downturn.
In the City of Falls Church, an $800,000 shortfall to date in its $76 million annual operating budget in the current fiscal year will result in a cost-reduction "plan of action" that City Manager Wyatt Shields promises to have ready for the City Council on Oct. 6.
How Bad Will the Crash Be?
Written by Nicholas F. Benton
As Congress becomes swiftly distracted and preoccupied with rearranging the deck chairs on the $700 billion Wall Street bailout package, the stubborn if overlooked gigantic elephant sitting in one of them ain't budging.
He comes in the form of two interrelated questions that no one has answered: How big is the problem this extraordinary move is supposed to fix, and will this fix it?
Without answers to these questions, Congress runs the high risk of pouring $700 billion in good money after much, much more bad.
This is just another case of Congress being given the bum's rush in hopes of a short term solution to what could be a problem with a magnitude far greater than this move can correct.
In fact, the unwillingness of Treasury Secretary Henry Paulson and Federal Reserve Chair Ben Bernanke, in all their public testimony, to be specific about the scale of the problem is a tip-off that they know it is way bigger than they are willing to reveal. It looks like Congress has bought into the cover-up, as well.
After all, their main objective is to avoid panic, while buying time. But is time worth $700 billion? All the taxpayer billions going to the so-called economic stimulus and Bear Stearns rescue to date has bought us only a few months.
The real news here is the hidden true scale of the problem.
There are only clues, so far, to its real magnitude. Consider the report by Julie Satow, writing in the New York Sun last week, about the exemptions extended by the U.S. Securities and Exchange Commission (SEC) in 2004 to five investment banking firms - all five of which have, or nearly have, collapsed.
The exception allowed these institutions - Bear Stearns, Lehman Brothers, Merrill Lynch, Goldman Sachs and Morgan Stanley - to burst the established SEC limits on how far it could go to lever a dollar.
The original SEC "debt-to-net capital" ratio limit is 12-to-1. That means for every dollar a bank takes in, it can invest, or incur debt, on the value of that dollar up to $12. That kind of leveraging works as long as values continue to rise, overall, while the financial system remains stable. A sudden panic, or a run to recover values, would expose all the value above the original dollar as pure paper, nothing more.
But that's nothing. In the case of the SEC's exemptions for the five above-named institutions, the leveraging limit was lifted. These banks were permitted to lever a dollar up to 30 or even 40 times its original value.
Now, a run on this house of cards would result in far greater, utter chaos than under terms of the original limit.
Such derivatives, mortgage-backed or not, are worthless the minute they're called into question. The introduction of mass foreclosures on sub-prime mortgages triggered such questions.
So, how much real value is there between a "debt-to-net capital" lever of 40 and the original dollar it was based on?
I suspect the problem may have ballooned into hundreds of trillions of dollars, or more, both here and overseas. There have been, after all, in the almost-30-year Republican era of government deregulation, fewer and fewer limits or oversight on any of this.
The SEC so-called "net capital rule" limiting leveraging was written in 1975, and the idea of the 12-to-1 limit was that it was an absolute final limit, with institutions required to notify the SEC if they began approaching it, and to be forcibly stopped from trading if they exceeded it.
This was explained in the Sun article by Lee Pickard, a former SEC official who helped write the 1975 rule.
Current SEC Chair Chris Cox also let slip a clue to the magnitude of the problem in his comments to the Senate Banking Committee Tuesday. The extent of so-called "credit default swaps" has exploded to $58 trillion, he pointed out, a number that doubled just since 2006.
That was the only reference to a number nearly that high in the long two days of Congressional hearings and everything that Paulson and Bernanke said.
But that might have provided a fleeting window into the scale of the problem, certainly far greater than anyone will confess. Maybe everyone, in Congress, the administration and the media has agreed to cover this up to avoid panic. Instead, they will continue to fleece the public as long as they can, until they simply can't do it any more.