Monday, October 6, 2008

Chaotic Day Ends With Stocks Off 3.8%

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Panic came to Wall Street on Monday morning, but its stay was brief, at least for one day.

The Dow Jones industrials finished more than 360 points lower, dropping below the 10,000 mark for the first time in five years, as markets around the world spiraled downward in the face of a banking crisis that has tightened its grip on the global economy.

But the outcome could have been worse. After 2 p.m., the Dow was on track for an ignominious record — 800 points lower in a single session, worse than the 777-point drop a week ago.

At one point, the broader stock market had fallen about 8 percent.

Instead, investors appeared to have a small change of heart. The Dow marched back to the 10,000 milestone and even topped that number in the closing minutes of the session. When the final trades were counted, the index was off 363.35 points, or 3.5 percent, at 9,962.03.

The broader American stock market fell 3.8 percent, as measured by the Standard & Poor’s 500-stock index.

“Today is watching the sky fall,” said T.J. Marta, a fixed income strategist at the Royal Bank of Canada.

Selling intensified throughout the morning as investors reeled from a series of high-profile bank bailouts in Europe, where governments scrambled to save several major lenders from collapse.


The Dow has lost more than 1,100 points — or about 10 percent — in slightly more than a week. The S.&P. has lost more than 15 percent in the same period.

The sharp slides came despite more reassurances from President Bush and a morning announcement from the Federal Reserve that it would significantly expand the amount of money it made available to major banks. The Fed will now lend up to $900 billion in credit, an enormous sum that officials hope will reassure banks that the government will provide them with adequate capital.

The moves were aimed at resolving a problem at the center of the current credit crisis: the reluctance of banks to lend. The healthy functioning of the world’s economy is dependent on the easy flow of short-term loans among banks, businesses and consumers, a stream that has been cut off as banks become more fearful of giving out cash.

Those fears have persisted despite a $700 billion bailout package passed by Congress last week. The package was supposed to help restore some liquidity to the credit markets.

Borrowing rates remained very high on Monday despite last week’s Congressional approval of the $700 billion bailout package, although proponents of that package argue that its longer-term benefits will take time to carry out.

“That’s a longer-term solution; it will help once things have calmed down,” Mr. Marta said.

“But right now, things aren’t calm. Right now, the fire’s kind of burning out of control.”

Events over the weekend in Europe only intensified investors’ anxieties. European stocks fell by the biggest amounts in decades. Major indexes in London and Frankfurt lost more than 7 percent; stocks in Paris fell by 9 percent.

On Wall Street, energy stocks dropped by more than 10 percent as a whole after oil prices dropped below $90 a barrel, reaching their lowest levels since February. Crude oil was trading just over $89 a barrel in New York after 2 p.m.

Shares of financial firms, manufacturing outfits, and industrial companies all fell sharply. Only six companies in the entire S.&P. 500 were up for the day, including Wrigley, the chewing gum giant, and Monster, the parent company of job-seeking Web site

Some gauges of anxiety in the market again reached record highs as the week began, and a benchmark overnight borrowing rate, the Libor rate, moved higher. A measure of volatility, the VIX index, jumped to its highest intraday level ever.

“It’s not just a question clearing problem assets,” said Bob McKee, chief economist for Independent Strategy, a research consultancy. “If banks don’t have enough capital they will be paralyzed.”

President Bush made an unscheduled stop on Monday morning to speak about the crisis with owners of small businesses in San Antonio — and the television cameras that follow him there.

“It’s going to take a while to restore confidence in the financial system,” the president said at Olmos Pharmacy, an old-fashioned soda shop and lunch counter.

“We don’t want to rush into this situation and have the program not be effective,” Mr. Bush said, calling the package “a big step” toward fixing the economy.

Falling oil prices provoked a decline of just over 1,000 points, or nearly 9.9 percent, on the Toronto Stock Market. The drop brought the S.& P./TSX index below 10,000 points for the first time since May 2004.

Energy stocks drove the decline, falling 13 percent. Financial industry shares were down 7 percent in midmorning trading, with the Royal Bank of Canada, the country’s largest bank, down 8.43 percent. That drop came despite the fact that the Royal Bank, like most of Canada’s major banks, has relatively little exposure to troubled debt in the United States.

Strong prices for oil and gas as well as commodities like metals have allowed most of Canada to escape the economic downturn in the United States. But the Bank of Nova Scotia report released on Monday said that weakness in the manufacturing sector, which relies heavily on exports to the United States, would most likely push Canada into a recession.

In Europe, governments worked over the weekend to prevent the collapse of two lenders, Hypo Real Estate in Germany and the Belgian operations of Fortis. The German government also said it would guarantee all private bank deposits as it sought to avert the spread of the financial contagion.

The FTSE 100 index in London fell 7.8 percent; the Frankfurt DAX was down 7 percent and the CAC-40 in Paris lost 9 percent.

A similar sell-off occurred in Asia, the Nikkei 225 stock average in Tokyo fell 4.3 percent, while the Kospi index in Seoul fell 4.3 percent. The Standard & Poor’s/ASX 200 index in Sydney fell 3.3 percent, while the Hang Seng index in Hong Kong was down 5 percent.

“People are really disappointed by the inability of Europe to react on a concerted basis,” said Andrew Popper, a fund manager at SG Hambros in London. “It’s still very much a country-by-country approach. There is also a realization that we haven’t seen any effects on economic growth so far but that now is starting and that’s having an effect on nonfinancial shares.”

Steps by some European governments over the weekend to guarantee deposits may avoid a panic among consumers but will not help banks cope with their financing problems, said Adrian Darley, a fund manager at Resolution Asset Management in London.

“There are still a lot of issues out there,” Mr. Darley said. “Deposit guarantees are just a short-term solution. It does not necessarily help with interbank loans or if you have bad loans on your books. It will take a lot more than that.”

In Iceland and Russia, trading on banking shares was halted after indexes fell more than 14 percent.

Shares of industrial companies were hammered in Europe with EADS, the parent of Airbus, falling 7.5 percent. ArcelorMittal, the world’s biggest steel maker, dropped 8.6 percent, and the German automaker Daimler was down 5.8 percent. British Airways slid 10.3 percent.

Nicholas Bibby, an economist in the Singapore office of Barclays Capital, said that falling share prices showed that many investors were still worried that banking difficulties might spread even after the passage of the financial bailout plan in Washington. “It’s a fear of contagion,” he said, while adding that Asian banks were better positioned than most to withstand the current problems because the region’s high savings rate tends to mean that Asian banks are net lenders in international money markets.

Concerns about Asian exports have also been rising for months, because the region’s high savings rate means that its spending on consumption is weak and it remains heavily dependent on overseas demand.

CFC Seymour, a Hong Kong securities firm, pointed out in an investment newsletter on Monday that even before recent problems in financial markets, the combined trade balance of Japan, South Korea, Taiwan, Thailand, Indonesia and the Philippines had gone from a surplus of $19 billion as recently as last October to a deficit of $2 billion in July. Only China is still running consistently large trade surpluses.

The realignment in the currency markets that has lifted the dollar and yen against the euro continued, as investors worried about Europe’s banks and economic health and continued their flight to the apparent stability of Japan’s financial system.

The euro fell to $1.3609 in Paris morning trading, from $1.3772 in New York late Friday. The dollar fell to 103.42 yen, from 105.32, and the euro declined to 140.74 yen, from 145.07.

The Shanghai stock exchange, closed for the last week for China’s National Day holiday, reopened on Monday with the Shanghai A-share market down 3.5 percent. The China Securities Regulatory Commission announced on Sunday that it would experiment with the introduction of short-selling and trading on margin on a limited basis, but did not say when the trial would begin.

Wall Street Follows the Path of the Steel Industry in Pittsburgh

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By Dean Baker

There is a joke circulating on the Hill these days. "What is the technical term for a Wall Street investment banker who supports free trade?" The answer, of course, is "liar."

In spite of the $700 billion bailout package, Wall Street is going the way of the steel industry in Pittsburgh. The financial industry in the United States is hugely bloated and hopelessly uncompetitive in international markets. In this way, it shares similarities to the US steel industry in the late 70s, except Wall Street is much more poorly situated.

While workers in the steel industry may have been somewhat more highly paid than their counterparts in Europe, Japan and South Korea, the differences were comparatively small. By contrast, nowhere else in the world do bankers get paid annual salaries in the tens or hundreds of millions of dollars. Until these salaries are pushed down closer to the pay scales in other financial markets, Wall Street will have a very difficult time competing.

The $700 billion bailout package slows Wall Streets day of reckoning. The Wall Street gang, with its huge campaign contributions and friends in high places, such as Treasury Secretary Henry Paulson, is better positioned to get protection than steelworkers or textile workers. But, as we all know, you can't just build walls around the country.

Perhaps, our trading partners will protest the subsidies to Wall Street, which may violate our commitments under various trade agreements, but even if they don't, the days of the Wall Street crew are numbered. Their conduct over the last 15 years has shattered their reputation both nationally and internationally.

The fact that so much junk was passed along to international investors as top-quality debt means, in the future, foreign investors will no longer trust the assets that Wall Street firms are marketing. Similarly, the fact that so many small towns and cities were ripped off on auction rate securities and other financial instruments probably means that the investment bankers will not be welcomed in large parts of the country for many years into the future.

While innocent people will undoubtedly be hurt as Wall Street adjusts to the modern global economy, there will be important gains to the country. In fact, the principles economists cite when extolling the benefits of "free trade" may actually apply to some extent to Wall Street.

The resources tied up in Wall Street will find better uses in other areas. Specifically, the tens of thousands of highly educated workers who made huge salaries on Wall Street may find something more productive to do with their lives than shuffling complex derivative instruments. Some might become doctors, engineers or research scientists - areas where they could make important contributions to society.

And, if it is not plausible for many of the people who are currently losing their job to pursue these alternative career paths, certainly it will be possible for the people who are now in college or grad school in the hopes of pursuing a high-paying Wall Street career. By eliminating the Wall Street path, other relatively high-paying jobs will look much better.

In other words, we will be less likely to have doctors who think that they are making huge sacrifices by earning $200,000 a year. Without Wall Street as a basis of comparison, doctors' salaries would look very good even to doctors.

The public has every right to be outraged over the bailout. It gives taxpayers dollars to some of the richest people in the country, precisely because they messed up on their jobs. That means money is flowing from schoolteachers and firefighters to the top executives at Citigroup, Goldman Sachs, and other well-connected financial behemoths.

But, this is just a stopgap measure. In the longer term, the financial sector will contract and salaries will be brought back down to earth. Protectionist policies can buy the Wall Street crew some time, but in the longer run, the market will win out, forcing large cuts in pay and employment. At last, Wall Street will feel the sort of job loss and pressure on wages that it so eagerly sought to impose on workers in other sectors of the economy.

The End of American Hegemony

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By Paul Craig Roberts

America has become a pretty discouraging place. If Ronald Reagan was still with us, I wonder if he would again refer to the United States as a city on a hill, a light unto the world.

I think not. Reagan brought America back from discouragement, but it didn’t stick. Subsequent administrations erased Reagan’s accomplishments. Reagan defeated stagflation and ended the cold war, producing a peace dividend to be divided among taxpayers, social programs, and national debt reduction. However, without the Soviet Union as a check on neoconservative ambition, the neoconservatives launched America on an unrealistic path of world hegemony. The economic restoration that Reagan achieved was not shored up by his successors. Instead, they used the Reagan restoration to run the American economy into the ground in ways that benefitted the super rich and the military-security complex. Some of America’s best jobs were offshored in order to boost share prices and executive compensation, and the financial sector was recklessly deregulated.

Americans, for the most part, will never know what happened to them, because they no longer have a free and responsible press. They have Big Brother’s press. For example, on September 28, 2008, a New York Times editorial blamed the current financial crisis on “antiregulation disciples of the Reagan Revolution.”

What utter nonsense. Every example of deregulation that the New York Times editorial provides is located in the Clinton Administration and the George W. Bush administration. I was a member of the Reagan administration. We most certainly did not deregulate the financial system.

The repeal of the Glass-Steagall Act, which separated commercial from investment banking, was the achievement of the Democratic Clinton Administration. It happened in 1999, over a decade after Reagan left office.

It was in 2000 that derivatives and credit default swaps were excluded from regulation.

The greatest mistake was made in 2004, the year that Reagan died. That year the current Secretary of the Treasury, Henry M. Paulson Jr, was head of the investment bank Goldman Sachs. In the spring of 2004, the investment banks, led by Paulson, met with the Securities and Exchange Commission. At this meeting with the New Deal regulatory agency tasked with regulating the US financial system, Paulson convinced the SEC Commissioners to exempt the investment banks from maintaining reserves to cover losses on investments. The exemption granted by the SEC allowed the investment banks to leverage financial instruments beyond any bounds of prudence.

In place of time-proven standards of prudence, computer models engineered by hot shots determined acceptable risk. As one result Bear Stearns, for example, pushed its leverage ratio to 33 to 1. For every one dollar in equity, the investment bank had $33 of debt!

It was computer models that led to the failure of Long-Term Capital Management in 1998, the first systemic threat to the financial system. Why the SEC went along with Paulson and set aside capital requirements after the scare of Long-Term Capital Management is inexplicable.

The blame is headed toward SEC chairman Christopher Cox. This is more of Big Brother’s disinformation. Cox, like so many others, was a victim of a free market ideology, itself a reaction to over-regulation, that was boosted by academic economic opinion, rewarded with Nobel prizes, that the market “always knows best.”

The 20th century proves that the market is likely to know better than a central planning bureau. It was Soviet Communism that collapsed, not American capitalism. However, the market has to be protected from greed. It was greed, not the market, that was unleashed by deregulation during the Clinton and George W. Bush regimes.

I remember when the deregulation of the financial sector began. One of the first inroads was the legislation, written by bankers, to permit national branch banking. George Champion, former chairman of Chase Manhattan Bank, testified against it. In columns I argued that national branch banking would focus banks away from local business needs.

The deregulation of the financial sector was achieved by the Democratic Clinton Administration and by the current Secretary of the Treasury, Henry Paulson, with the acquiescence of the Securities and Exchange Commission.

The Paulson bailout saves his firm, Goldman Sachs. The Paulson bailout transfers the troubled financial instruments that the financial sector created from the books of the financial sector to the books of the taxpayers at the US Treasury.

This is all the bailout does. It rescues the guilty.

The Paulson bailout does not address the problem, which is the defaulting home mortgages.

The defaults will continue, because the economy is sinking into recession. Homeowners are losing their jobs, and homeowners are being hit with rising mortgage payments resulting from adjustable rate mortgages and escalator interest rate clauses in their mortgages that make homeowners unable to service their debt.

Shifting the troubled assets from the financial sectors’ books to the taxpayers’ books absolves the people who caused the problem from responsibility. As the economy declines and mortgage default rates rise, the US Treasury and the American taxpayers could end up with a $700 billion loss.

Initially, the House, but not the Senate, resisted the bailout of the financial institutions,whose executives had received millions of dollars in bonuses for wrecking the US financial system. However, the people’s representatives could not withstand the specter of martial law and Great Depression with which Paulson and the Bush administration threatened them. The people’s representatives succumbed as they did during the New Deal.

The impotence of Congress traces to the Great Depression. As Theodore Lowi in his classic book, The End of Liberalism, makes clear, the New Deal stripped Congress of its law-making power and gave it to the executive agencies. Prior to the New Deal, Congress wrote the laws. After the New Deal a bill is merely an authorization for executive agencies to create the law through regulations. The Paulson bailout has further diminished the legislative branch’s power.

Since Paulson’s bailout of his firm and his financial friends does nothing to lessen the default rate on mortgages, how will the bailout play out?

If the $700 billion bailout is based on an estimate of the current amount of bad mortgages, as the recession deepens and Americans lose their jobs, the default rate will rise. The $700 billion might not suffice. The Treasury will have to go hat in hand to its foreign creditors for more loans.

As the US Treasury has not got $7 dollars, much less $700 billion, it must borrow the bailout money from foreign creditors, already overloaded with US paper. At what point do America’s foreign bankers decide that the additions to US debt exceed what can be repaid?

This question was ignored by the bailout. There were no hearings. No one consulted China, America’s principal banker, or the Japanese, or the OPEC sovereign wealth funds, or Europe.

Does the world have a blank check for America’s mistakes?

This is the same world that is faced with American demands that countries support with money and lives America’s quest for world hegemony. Europeans are dying in Afghanistan for American hegemony. Do Europeans want their banks, which hold US dollars as their reserves, to fail so that Paulson can bail out his company and his friends?

The US dollar is the world’s reserve currency. It comprises the reserves of foreign central banks. Bush’s wars and economic policies are destroying the basis of the US dollar as reserve currency. The day the dollar loses its reserve currency role, the US government cannot pay its bills in its own currency. The result will be a dramatic reduction in US living standards.

Currently Treasuries are boosted by the habitual “flight to quality,” but as Treasury debt deepens, will investors still see quality? At what point do America’s foreign creditors cease to lend? That is the point at which American power ends. It might be close at hand.

The Paulson bailout is predicated on cleaning up financial institutions’ balance sheets and restoring the flow of credit. The assumption is that once lending resumes, the economy will pick up.

This assumption is problematic. The expansion of consumer debt, which kept the economy going in the 21st century, has reached its limit. There are no more credit cards to max out, and no more home equity to refinance and spend. The Paulson bailout might restore trust among financial institutions and enable them to lend to one another, but it doesn’t provide a jolt to consumer demand.

Moreover, there may be more shoes to drop. Credit card debt could be the next to threaten balance sheets of financial institutions. Apparently, credit card debt has been securitized and sold as well, and not all of the debt is good. In addition, the leasing programs of the car manufacturers have turned sour. As a result of high gasoline prices and absence of growth in take-home pay, the residual values of big trucks and SUVs are less than the leasing programs estimated them to be, thus creating more financial problems. Car manufacturers are canceling their leasing programs, and this will further cut into sales.

According to statistician John Williams [ ] who measures inflation, unemployment, and GDP according to the methodology used prior to the Clinton regime’s corruption of these measures, the US unemployment rate is currently at 14.7% and the inflation rate is 13.2%. Consequently, real US GDP growth in the 21st century has been negative. [The Clinton regime (and the Boskin Commission) rigged the CPI in order to cheat retirees out of their Social Security cost of living adjustments and ceased to count discouraged workers who cannot find a job as unemployed. To be counted as unemployed, a person has to be actively seeking a job.]

This is not a picture of an economy that a bailout of financial institution balance sheets will revive. As the Paulson bailout does not address the mortgage problem per se, defaults and foreclosures are likely to rise, thus undermining the Treasury’s estimate that 90% of the mortgages backing the troubled instruments are good.

Moreover, one consequence of the ongoing financial crisis is financial concentration. It is not inconceivable that the US will end up with four giant banks: J.P. Morgan Chase, Citicorp, Bank of America, and Wachovia Wells Fargo. If defaulting credit card debt then assaults these banks’ balance sheets, who is there to take them over? Would the Treasury be able to borrow the money for another Paulson bailout?

During the Great Depression of the 1930s, the Home Owners’ Loan Corporation refinanced one million home mortgages in order to prevent foreclosures. The refinancing apparently succeeded, and HOLC returned a profit. The problem then, as now, was not “deadbeats” who wouldn’t pay their mortgages, and the HOLC refinancing did not discourage others from paying their mortgages. Market purists who claim the only solution is for housing prices to fall to prior levels overlook that rising inventories can push prices below prior levels, thus causing more distress. They also overlook the role of interest rates. If a worsening credit crisis dries up mortgage lending and pushes mortgage interest rates higher, the rise in interest rates could offset the fall in home prices, and mortgages would remain unaffordable even in a falling housing market.

Some commentators are blaming the current mortgage problem on the pressure that the US government put on banks to lend to unqualified borrowers. The proliferation of privilege that bureaucrats pulled out of the Civil Rights Act led in 1993 to Shawmut National Corporation’s acquisition plans being blocked by federal regulators until its subsidiary entered into a consent agreement with the US Department of Justice to racially norm its mortgage lending. This agreement was quickly incorporated into the growing body of regulations. Next, Chevy Chase Federal Savings Bank was forced by the DOJ to open new branches in “majority African-American census tracts.” Chevy Chase had to provide below-market loans to preferred minorities at interest rates “at either one percent less than the prevailing rate or one-half percent below the market rate combined with a grant to be applied to the down payment requirement.” In 1995 the DOJ forced American Family Mutual Insurance Company to sell property insurance to preferred minorities on uneconomic terms. [See Roberts and Stratton, The New Color Line]

Thus, it is true that it was the federal government that forced financial institutions to abandon prudent behavior. However, these breaches of prudence only affected the earnings of individual institutions. They did not threaten the financial system. The current crisis required more than bad loans. It required securitization and its leverage. It required Fed chairman Alan Greenspan’s inappropriate low interest rates, which created a real estate boom. Rapidly rising real estate prices quickly created home equity to justify 100 percent mortgages. Wall Street analysts pushed financial companies to improve their bottom lines, which they did by extreme leveraging. The full story goes far beyond the propaganda videos put out by Republicans blaming Democrats.

An alternative to refinancing troubled mortgages would be to attempt to separate the bad mortgages from the good ones and revalue the mortgage-backed securities accordingly. If there are no further defaults, this approach would not require massive write-offs that threaten the solvency of financial institutions. However, if defaults continue, write-downs would be an ongoing enterprise.

Clearly, all Secretary Paulson thought about was getting troubled assets off the books of financial institutions.

The same reckless leadership that gave us expensive wars based on false premises has now concocted an expensive bailout that does not address the problem, which will fester and become worse.

Cramer: It's a Worldwide Crash

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By Jim Cramer

This post appeared earlier today on RealMoney.

Here it is, the dawning of the selloff that will finally put us at levels where ... we will sell off again.

For two years the credit markets have been submerged under central bank happy talk and a sense that the worries were about inflation. You can see why in the outlines of the institutions that are failing now.

The problem is the Europeans got stuck fighting the inflationary war that ended in July. Rates are ridiculously high in Europe vs. the crunching of debt that is happening and will continue to happen.

In our country, the "Fundamentals are Sound" group at Treasury, and the "Whip Inflation Now" group at the Federal Reserve couldn’t switch fast enough either.

But boy, are they great at public relations. There has been remarkable awe at how well Treasury, the Fed and the FDIC are handling the crisis.

It seems very misplaced. Some of it is pure economic ignorance. Fed Chairman Ben Bernanke studied the Depression, or so they say, and knew more about how to stop it than anyone. Actually, he knew less than anyone, and he and his merry band of governors and presidents presided over the deflationary destruction of Western finance with a bias toward -- are you ready? --inflation. Yes, that’s still their bias. We were able to jump-start the economy in 2003 with rates as low as 1%. But our rates are twice that now even though we are in a deflationary spiral, not an inflationary one. We should be printing money left and right here but Bernanke is Hoover and we all know it now.

There’s another sainted figure, who I guess must call the media all the time to burnish his image. That’s Tim Geithner, the Federal Reserve Bank of New York president, who is supposed to be the eyes and ears of the Fed. We learn from The New York Times Monday that Geithner was the genius behind the "not too big to fail" decision to keep Lehman out of the Federal Reserve system. That was brilliant. We had rescued Bear, but not twice-its-size Lehman, perhaps because the watchdog/press hound Geithner didn’t understand the complexity of Lehman’s book, or because it was time to mete out punishment to the worst banker on earth, Dick Fuld.

And I thought the guy had a handle on it. I was fooled, but unlike Geithner, I would have had to call Fuld a liar, and you can’t do that without subpoena power and a bunch of sources who would betray him. I knew only the people who surrounded him, and they told me everything was fantastic, just a little slow.

Of course, we know the truth now. The Fed has been put out to pasture, a victim of being theoretical, not practical, an organization that simply didn’t take seriously those of us who warned them in person and on TV. What did they think, we made it up for ratings? Is that what they thought? You think I, a reputed bull, want to go on TV and scream that they knew nothing? I would rather recommend Colgate(CL Quote - Cramer on CL - Stock Picks), but given the crisis it sure seemed worth waking them up.

Even as late as the summer, the Fed thought for sure the price of iron and copper meant more than the implosion of housing-based finance.

Now along comes Sheila Bair and Hank Paulson, who alternately want us to believe that everything is sound (with public pronouncements that the worry is misplaced) and that there is a list of obscure banks that might have to be taken over.

Then Paulson comes to the Capitol and says the truth, that the Western world of finance is going to break, and Bair seizes Washington Mutual and tries to seize Wachovia(WB Quote - Cramer on WB - Stock Picks), no doubt to save Citigroup(C Quote - Cramer on C - Stock Picks), which could have risen, done an equity offering and joined Bank of America(BAC Quote - Cramer on BAC - Stock Picks), JPMorgan(JPM Quote - Cramer on JPM - Stock Picks) and Wells Fargo(WFC Quote - Cramer on WFC - Stock Picks) as the new titans of finance.

Of course, either the FDIC doesn’t know the tax law changed to make it so if Wells bought WB it wouldn’t have to pay taxes on ordinary income for years, or was oblivious to the imminent passage of TARP.

This, plus the disintegration of Lehman, which then left Morgan Stanley (MS Quote - Cramer on MS - Stock Picks) and Goldman Sachs (GS Quote - Cramer on GS - Stock Picks) in the hands of the shorts, was too much for everyone, and now no one lends to banks and it makes no sense to them, and no one wants commercial paper because it makes no sense to them.

Which is where we are this morning, in a worldwide crash that will leave us with gigantic institutions that we have never heard of, with balance sheets that are ridiculously large that must fall, and a hedge fund community that has lost control of its asset base.

And in this moment we are supposed to be buyers?

I say let it fall without me. I say keep selling industrials unless they yield more than 4%.

I say it is no longer in the hands of the central banks. It is in the hands of rational people making rational decisions to get out before more institutions fail, more hedge funds liquidate, and still lower prices are upon us.

At the time of publication, Cramer was long JPMorgan Chase, Morgan Stanley and Goldman Sachs.

We're on "the edge of the abyss”

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By Mike Whitney

Years from today, when the current financial crisis is over, historians are likely to agree that it would have been far better if the Bush administration had declared a state of emergency earlier in the process so that the necessary steps could have taken to avoid a complete financial meltdown. The media could have been used to bring the American people up to date on market-related developments and educated in the bizarre language of structured finance. Knowledge is power; and power can prevent panic.

Now we're in a terrible fix. People are scared and removing their money from the banks and money markets which is intensifying the freeze in the credit markets and driving stocks into the ground like a tent stake. Meanwhile, our leaders are "caught in the headlights", still believing they can "finesse" their way through the biggest economic cataclysm since the Great Depression. It's madness.

If something is not done to increase the flow of credit immediately, the stock market will tumble, unemployment will spike, and many businesses will grind to a standstill. We could be just days away from a severe shock to the system. Secretary of the Treasury Henry Paulson's $700 billion bailout does not focus on the fundamental problems and is likely to fail. At best, it puts off the day of reckoning for a few weeks or months. Contingency plans should be put in place so the country does not have to undergo post-Katrina bedlam.

Does Congress have any idea of the mess they've made by passing the Bailout bill? Do they even read the papers or are they so isolated in their Capital Hill bubble-world that they're entirely clueless? Did any Senator or congressman even notice, that while they were busy mortgaging off America's future, the stock market was plummeting to new lows? Between the time the ballots were cast on Paulson's bailout, and the announcement of the final tally (which was approved by a generous margin) the market went from a 310 point gain to a 157 point loss; a whopping 467 plunge in less than two hours.

Thus spake the Market: "Paulson's bill is a fraud!"

Listen up, Congress: This massive trillion dollar deleveraging process cannot be stopped. The system is purging credit excesses which are unsustainable. The levies you're building with this $700 billion bill may plug a few holes, but it won't stop the flood. Economist Ludwig von Mises put it like this:

"There is no means of avoiding the final collapse of a boom brought on by credit expansion. The question is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved."

The best course of action is to soften the blow as much as possible for underwater homeowners and let the market correct as it should. Otherwise the dollar will be torn to shreds.

Look around; the six year Bush economic boom is vanishing before our eyes. Manufacturing is contracting, wages are stagnant, good paying jobs are headed overseas, unemployment is rising, and the middle class has shrunk every year since Bush took office. Is this the miracle of the "Washington consensus" and neoliberalism? The prosperity of the Bush era is as fake as the weapons of mass destruction; it's all smoke and mirrors. The Federal Reserve created the massive equity bubble in housing and finance through its low interest monetary policies. Cheap money is the rich man's method of social engineering; swift and lethal. The public be-damned. Now that the bubble is bursting, Congress needs to decide what it can do to soften the hard landing. Paulson's bill does not do that. In fact, even Paulson's supporters admit it's a flop. Here's what Martin Feldstein had to say in a Wall Street Journal editorial:

"The recent financial recovery plan that Congress enacted will not rebuild lending and credit flows. That requires a program to stop a downward overshooting of house prices and the resulting mortgage defaults....The prospect of a downward spiral of house prices depresses the value of mortgage-backed securities and therefore the capital and liquidity of financial institutions. Experts say that an additional 10% to 15% decline in house prices is needed to get back to the prebubble level. That decline would double the number of homes with negative equity, raising the total to 40% of all homes with mortgages. The mortgages of five million homeowners would then exceed the value of their homes by 30% or more, which could prompt millions of defaults." (Martin Feldstein, "The Problem is still Falling house Prices", WS Journal)

Get it? Feldstein doesn't give a hoot about the struggling homeowner who is worried-sick about losing his home in foreclosure. He just wants to make sure that the banks get their blood-money back, and the only way they can do that is by putting a floor under housing prices so mortgage-backed securities (MBS) and all the other derivatives that are gunking-up the financial system begin to stabilize. Even though the article is little more than a paean to human greed; it does admit that Paulson's bailout falls short of its objectives. It won't work.

Not only that, but it elevates G-Sax ex-chairman to Finance Czar, with almost unlimited powers to buy whatever toxic "structured" garbage he wants without any real oversight. Who will stop the Treasury Secretary if he decides to waste the taxpayers money on the full range of impaired assets including complex derivatives, collateralized debt obligations (CDOs), low-rated MBS, or even credit default swaps (CDS), which were sold in unregulated trading and which are oftentimes nothing more than side-bets made by speculators with no direct connection to the housing market?

Is that what Congress approved? What if he decides to spend the whole $700 billion buying back mortgage-backed bonds from China and Europe, leaving US banks still underwater? (except for Goldman, of course) It's possible; especially if he thinks China will stop purchasing our debt if we don't back up our worthless bonds with cold hard cash.

This bailout has DISASTER written all over it.

Consider this from a September 29 report in the Washington Post:

“Twenty of the nation's largest financial institutions owned a combined total of $2.3 trillion in mortgages as of June 30. They owned another $1.2 trillion of mortgage-backed securities. And they reported selling another $1.2 trillion in mortgage-related investments on which they retained hundreds of billions of dollars in potential liability, according to filings the firms made with regulatory agencies. The numbers do not include investments derived from mortgages in more complicated ways, such as collateralized debt obligations.” (from Paul Craig Roberts, "Can a Bailout Succeed",

So, how does Paulson expect to recapitalize the banks--which are loaded up with $2.4 trillion in mortgage-related investments--when congress's bill allocates a paltry $700 billion for the rescue plan? It's impossible. Just as it is impossible to keep prices artificially high with this kind of government buy-back program. These structured investments were vastly overpriced to begin with due to the fact that the market was hyperinflated with the Fed's low interest credit. As Doug Noland said, "This Credit onslaught fostered huge distortions to the level and pattern of spending throughout the entire economy. It is today impossible both to generate sufficient Credit and to main previous patterns of spending. Economic upheaval and adjustment are today unavoidable." (Doug Noland's Credit Bubble Bulletin)

Yes, and "economic upheaval" leads to political upheaval and blood in the streets. Is that what Bush wants; a chance to deploy his North Com. troops within the United states to put down demonstrations of middle class people fighting for bread crumbs?

In less than 8 years, the Financial Sector Debt tripled, mortgage debt doubled, and financial borrowing rose 75 percent. Why? Was it because the US was producing more goods that the world wanted? Was it because production rose sharply or demand doubled?

No, it was because of asset-inflation; a chimera created by the illusionists at the Federal Reserve and the investment banks. That's the source of the massive credit expansion which is presently collapsing and pushing the world towards another Great Depression. As Henry Liu said in his article “Liquidity Boom and Looming Crisis” in the Asia Times:

"Unlike real physical assets, virtual financial mirages that arise out of thin air can evaporate again into thin air without warning. As inflation picks up, the liquidity boom and asset inflation will draw to a close, leaving a hollowed economy devoid of substance. …A global financial crisis is inevitable”

The man who is most responsible for the current meltdown, Alan Greenspan, even admitted that he spotted the humongous equity bubble early on but refused to do anything about it. Here's a clip from an article by Maestro in the Wall Street Journal:

"The value of equities traded on the world's major stock exchanges has risen to more than $50 trillion, double what it was in 2002. Sharply rising home prices erupted into major housing bubbles world-wide, Japan and Germany (for differing reasons) being the only principal exceptions." ("The Roots of the Mortgage Crisis", Alan Greenspan, Wall Street Journal)

This admission proves Greenspan's culpability. If he knew that stock prices had doubled their value in just 3 years, then he also knew that equities had not risen due to increases in productivity or demand.(market forces) The only reasonable explanation for the asset inflation is the deeply-flawed monetary policies of the Fed. As his own mentor, Milton Friedman famously stated, "Inflation is always and everywhere a monetary phenomenon". Any capable economist would have known that the explosion in housing and equities prices was a sign of uneven inflation. Now the bubble has popped and the tremors are likely to be felt through the global economy.

No one in Congress has the foggiest idea of what is going on in the economy. They're all in La-la Land. The credit markets are paralyzed. The capital-starved banks are dramatically cutting back on lending and making it nearly impossible for consumers to borrow or businesses to even carry out daily operations like payroll. The commercial paper market has slowed to a crawl, forcing cash strapped companies to try and access existing credit lines or sell corporate bonds. Money market rates are soaring but wary depositors keep withdrawing their money putting more pressure on financial institutions. The whole system is wading through quicksand. The banking system is breaking apart before our eyes. The $700 billion "rescue package" will not relieved the situation at all. In fact, the various rates (like Libor, Libor-OIS spread, or the TED spread) which indicate the amount of stress in interbank lending have stayed at record highs signaling huge dislocations in the near future. Are we headed for an October stock market crash?

This is from the Times Online:

"US banks borrowed a record $367.8 billion (£208 billion) a day from the Federal Reserve in the week ended October 1. Data from the US central bank shows how much financial institutions are relying on the Fed in its role as lender of last resort as short-term funding becomes almost impossible to find elsewhere. Banks' discount window borrowings averaged $367.80 billion per day in the week ended October 1, nearly double the previous record daily average of $187.75 billion last week."

$368 billion a day, just to keep the banking system from collapsing. Did they forget to mention that on FOX News?

And, yes; the Fed has started up the printing presses as everyone feared from the beginning. This tidbit appeared on the op-ed page of Saturday's Wall Street Journal:

"Thursday, the Federal Reserve released the latest data on its balance sheet, which has ballooned by some $500 billion to $1.5 trillion in the past month. That may sound alarming, but it beats cutting interest rates across the board to prop up the banks. Those extra Fed assets and liabilities can be worked off as the crisis passes without the long-term inflationary impact of pushing interest rates still further into negative territory. By lending freely in a bank run until they stop running, the Fed can make banks pay for their desire for safety while contributing to financial stability." (Wall Street Journal)

"$1.5 trillion"? But the Fed's balance sheet is only $900 billion. Where is the extra money coming from? Gutenberg, no doubt.

Rep. Peter DeFazio made an impassioned plea on the floor of the House in a failed effort to stop Paulson's bailout. It's a good summary of the bill's shortcomings as well as an indictment of its author:

Rep. Peter DeFazio: "This $700 billion bill is not aimed at the real economy in America. Not one penny of it will go to Main Street. It is aimed solely at the froth on Wall Street, the speculators on Wall Street, the non productive people on Wall Street the certifiably smart , masters of the universe, like Secretary of the Treasury Henry Paulson who created these weapons of financial destruction and now, lit the fuse by claiming there would be worldwide economic collapse if we didn't pass this bill to bail out Wall Street....I believe there are simpler answers. I just came from a meeting with William Isaacs who was head of the FDIC, they deal with banks. Mr. Paulson was a speculator on Wall Street; he deals with speculation. He doesn't understand regulative banking. (What is happening is) there is a tremendous amount of pressure being applied by some very powerful creditors such as the People's Republic of China who own a lot of this junk ($450 billion) and they want their money back or they're threatening us. That is not a good reason for going ahead with this faulty proposal. It does not deal with the underlying problems in housing.

If we don't deal with the foreclosures and the deteriorating values, then, when the values drop another 5 or 10 percent, we're going to find there's another trillion dollars in junk securities out there and we will have already maxed out our credit and more people will have already lost their jobs. People are not spending because they are afraid they will lose their jobs. Their wages haven't increased. They are worried about the real economy, not the Wall Street economy. This bill will not solve the underlying problems.

There is a cheaper, low cost alternative. The FDIC should declare an emergency. That would give them the power to assess the same guarantee to all bank depositors. (According to Isaacs) That would immediately free up all interbank lending. It would immediately bring a flood of foreign deposits into the US because we would be a safe haven for depositors. But Isaacs is a regulator; a regulator with experience who piloted this country out of the savings and loans crisis and saved us a bunch of money. He's not a big-time Wall Street speculator who came down here and got appointed by George Bush with three-quarters of a billion dollars in his pocket from money he had made creating these financial weapons of mass destruction. So, we are listening to the wrong guy here...Don't be stampeded!" (Watch the whole 5 minute video

DeFazio is exactly right, especially about Paulson. As the New York Times article on Friday, "Agency’s ’04 Rule Let Banks Pile Up New Debt, and Risk", points out, Paulson, as chairman of Goldman Sachs, was one of the leaders of the five investment banks, who duped the SEC into loosening the rules on capital requirements which created the problems we are now facing.

According to the Times:

(The Big 5 investment banks) "wanted an exemption for their brokerage units from an old regulation that limited the amount of debt they could take on. The exemption would unshackle billions of dollars held in reserve as a cushion against losses on their investments. Those funds could then flow up to the parent company, enabling it to invest in the fast-growing but opaque world of mortgage-backed securities; credit derivatives, a form of insurance for bond holders; and other exotic instruments."

This is the crux of the matter. Paulson polluted the system by bending the rules for the prudent leveraging of assets so he and his dodgy friends could maximize their profits. It's all about the bottom line. Paulson walked away with hundreds of millions of dollars in a scam that has now put the nation's economic future at risk.

Last year the five Wall Street behemoths had "combined assets of more than $4 trillion". Now, everyone can see that it was all froth created through extreme leveraging that was intentionally ignored by S.E.C. boss Chris Cox. Now the banks are getting clobbered by short-sellers that are going from one financial institution to the next making them prove that they are sufficiently capitalized. They know its all a smokescreen, so they are saying, "Show me the money". One by one, the investment banks have fallen by the wayside. If the SEC was really operating in the public's interest, they'd being thumbing through G-Sax and Morgan Stanley's balance sheets right now making them prove that they're solvent. Instead, Cox has declared a moratorium on short selling while the investment banks have positioned themselves to get multi-million dollar taxpayer treats for their crappy assets. Where's the justice?

As for Paulson's "No Banker Left Behind" boondoggle; it is not an effective way to recapitalize the banks and it doesn't fix the systemic problems in the credit markets. All it does is put the US at greater risk of losing its Triple A rating. If that happens it will be impossible to attract foreign capital which would be the equivalent of detonating a nuclear bomb in every city in the country. This is not the time to be putting more chips on the table like a riverboat gambler. It's time to show judgment and restraint, otherwise this whole thing will blow up. Emergency measures should be thoroughly examined so that liquidity is provided for the credit markets as fast as possible. The markets are already in meltdown-mode.

"Real" economists--not the ideological hacks and loose cannons in the Bush administration--understand the fundamental problems and have generally agreed on a solution. It is a difficult issue, but one that anyone can grasp if they make the effort. Watch this 8 minute video with Nobel Prize winning economist, Joseph Stiglitz,

Stiglitz says: "There is a growing consensus among economists that any bail-out based on Paulson's plan won't work. If so, the huge increase in the national debt and the realization that even $700bn is not enough to rescue the US economy will erode confidence further and aggravate its weakness.

Stiglitz's point is proven by the fact that the Dow Jones cratered after reports circulated that the House had passed the bailout. Paulson's fiasco has not calmed the markets at all; in fact, investors have begun to race for the exits. Confidence is draining from the system faster than the deposits in the dwindling money market accounts.

Stiglitz adds:

"This is not a good bill...It is based on "trickle down" economics which says that is you throw enough money at Wall Street and than some of it will go into ways that help the economy, but it is not really doing what needs to be done to recapitalize the banking system, stem the hemorrhaging of foreclosures, and deal with the growing unemployment..... We have seen these problems with banks before we know how to repair them. (Stiglitz worked with the World Bank during many similar crises) So why didn't they use these "tried and proven" methods? They (Paulson) decided that rather than a capital injection; they would try the almost impossible task of buying up all these bad assets, millions of mortgages and complex products, and hope that this will somehow solve the problem. It doesn't fix the big hole in the banks balance sheets, unless they vastly overpay for these products (Mortgage-backed securities)"

This isn't rocket science. Many of the economists who disapproved of the bill have been through this drill before and they know what to do. The way to proceed is to have the US Treasury buy preferred shares in the banks that are not already technically insolvent. (The insolvent banks will have to be unwound by the FDIC) This will give the banks the capital they need to continue operations while protecting the taxpayer who gets an equity share with "upside potential" when the bank starts making profits again.

This is how one goes about recapitalizing the banking system IF that is the real intention. Paulson's phony-baloney operation suggests he has something else up his sleeve; some ulterior motive like rewarding his friends on Wall Street with boatloads of taxpayer money or buying-back the toxic mortgages from foreign investors so they don't stop buying US debt. Here's how Bloomberg's Jonathan Weil sums it up:

"If the government wants to save dying banks before they take others down with them, it should choose the clean and direct path: Inject capital into them. Take ownership stakes in return. And, where that's not feasible, seize them and sell their assets in an orderly way, just as the Resolution Trust Corp. did after the 1980s savings-and-loan crisis.

Infusing capital directly, though, was too simple for Paulson. It lacked subterfuge. He decided the way to save the financial system from the evils of structured finance was through more structured finance.
Instead of asking Congress to let Treasury recapitalize needy banks, he proposed buying some of their troubled assets at above-market prices. This would have let other banks create phony capital by writing up the values of similar assets on their own balance sheets, using Treasury's prices as their guide. Small Wonder.

In short, Paulson's plan was one part robbery (with the banks doing the robbing) and one part accounting sleight of hand. No wonder House members rejected it.(at first)
If Paulson or congressional leaders devise a Plan B, they should look to the example of Fortis, Belgium's biggest financial-services company. This week, the governments of Belgium, the Netherlands and Luxembourg invested 11.2 billion euros ($16.3 billion) in Fortis. In exchange, they got ownership of almost half its banking business.

That's how a government intervention is supposed to work. The company gets fresh capital, which has the added benefit of not being fake. The buyers get equity. Legacy shareholders get slammed with dilution. And if the company recovers, the government can sell shares to the public later, maybe even at a profit." (Jonathan Weil, Bloomberg News)

Direct capital injections is the best way to recapitalize the banks and save the taxpayer money. Paulson's plan is just more flim-flam intended to reflate the value of sketchy assets. So far, investors and taxpayers are equally skeptical about the bill's prospects. Interbank lending remains clogged and the VIX, the "fear gauge", is still rising to record levels. Paulson hasn't fooled anyone.

This bill does nothing to reduce foreclosures, reassure the markets, decrease unemployment, unfreeze the bond market, increase consumer spending, or put a floor under the stumbling dollar. All it does is hand out a few ripe plums to Paulson's buddies on Wall Street while (temporarily) soothing the frayed nerves of China's Finance Minister. That doesn't mean that China will be increasing its stash of US Treasuries or other US financial assets anytime soon. As the saying goes: "Fool me once, shame on you. Fool me twice, ..."

Worst of all, Paulson's bailout bill wastes precious resources on a plan that is considerably wide of the mark. These problems have to be dealt with quickly to avert a larger catastrophe. Here's how Nouriel Roubini sees it:

"It is now clear that the US financial system - and now even the system of financing of the corporate sector - is now in cardiac arrest and at a risk of a systemic financial meltdown. I don’t use these words lightly...The Commercial paper market is shut down...Corporations have no access to long or short term credit markets. Brokers are increasingly not dealing with each other. The interbank market is seizing up...This cannot continue for more than a few days. It is the economic equivalent to cardiac arrest." (Nouriel Roubini's Global EconoMonitor)

The levies have already broken, and the water is flooding into the city. The Federal Reserve will be forced to act. Expect an emergency rate cut of 50 basis points or more in the next 10 days coordinated with cuts in the other G-7 countries. Also, expect another bailout by the time Obama or McCain take office. As the French premier, Francois Fillon, warned on Saturday the world is “on the edge of the abyss”.

The Bush Doctrine & The 9/11 Commission Report:Both Authored by Philip Zelikow

Go to Original
By David Ray Griffin

Thanks to the interview of Sarah Palin by Charles Gibson of ABC News on September 11, the “Bush Doctrine” has become part of American political discourse much more fully than it was before. Thanks to that interview and the commentary that followed, Governor Palin and millions of other Americans learned of the existence and meaning of this fateful doctrine---fateful because, as New York Times reporter Philip Shenon has pointed out, it was used to “justify a preemptive strike on Iraq.”1

Thus far, however, the commentary following that interview has not brought out the fact that the document in which the Bush Doctrine was first fully articulated---the 2002 version of The National Security Strategy of the United States of America (NSS 2002) [pdf]---was written by the same person who was primarily responsible for the 9/11 Commission’s report: its executive director, Philip Zelikow.

This fact constituted an enormous conflict of interest that should, at the very least, keep Americans from referring to the 9/11 Commission as a model to be emulated---as did John McCain this September 15 in suggesting that “a 9/11-type commission” should be set up to study the causes of the recent financial crisis. As Shenon shows in his 2008 book, The Commission: The Uncensored History of the 9/11 Investigation, Zelikow’s authorship of NSS 2002, in conjunction with his close relationship to the Bush White House that this authorship illustrated, means that when the 9/11 Commission was formed in 2003, he should never have been chosen to be its executive director.

In the first part of this essay, I discuss the Bush Doctrine as articulated in NSS 2002. In the second part, I discuss Zelikow’s authorship of this document. In the third part, I discuss how he, in spite of this authorship, became the Commission’s executive director, and why this was problematic for the credibility of The 9/11 Commission Report.

The Bush Doctrine

According to international law as reflected in the charter of the United Nations, a preemptive war is legal in only one situation: if a country has certain knowledge that an attack by another country is imminent---too imminent for the matter to be taken to the UN Security Council.

Preemptive war, thus defined, is to be distinguished from “preventive war,” in which a country, fearing that another country may some time in the future become strong enough to attack it, attacks that country in order to prevent that possibility. Such wars are illegal under international law. Preventive wars, in fact, belong under the category of unprovoked wars, which were declared at the Nuremburg trials to constitute the “supreme international crime.”2

This traditional distinction between “preventive” and “preemptive” war creates a terminological problem, because preventive war, being illegal, is worse than preemptive war, and yet to most ears “preemption” sounds worse than “prevention.” As a result, many people speak of “preemptive war” when they really mean preventive war. To avoid any confusion, I employ the term “preemptive-preventive war” for what has traditionally been known as preventive war.3

People known as neoconservatives (or simply neocons), the most powerful member of whom has been Dick Cheney, did not like the idea that America’s use of military power could be constrained by the prohibition against preemptive-preventive war. In 1992, Cheney, in his last year as secretary of defense, had Paul Wolfowitz (the undersecretary of defense for policy) and Lewis (“Scooter”) Libby write the Defense Planning Guidance of 1992, which said that the United States should use force to “preempt” and “preclude threats.”4 In 1997, William Kristol founded a neocon think tank called the Project for the New American Century (PNAC).5 In 1998, a letter signed by 18 members of PNAC---including Kristol, Wolfowitz, John Bolton, Richard Perle, Donald Rumsfeld, and James Woolsey---urged President Clinton to “undertake military action” to eliminate “the possibility that Iraq will be able to use or threaten to use weapons of mass destruction.”6

Only after 9/11, however, were the neocons able to turn their wish to leave international law behind into official US policy. As Stephen Sniegoski wrote, “it was only the traumatic effects of the 9/11 terrorism that enabled the agenda of the neocons to become the policy of the United States of America.”7 Andrew Bacevich likewise wrote: “The events of 9/11 provided the tailor-made opportunity to break free of the fetters restricting the exercise of American power.”8

The idea of preemptive-preventive war, which came to be known as the “Bush doctrine,” was first clearly expressed in the president’s address at West Point in June 2002, when the administration began preparing the American people for the attack on Iraq. Having stated that, in relation to “new threats,” deterrence “means nothing” and containment is “not possible,” Bush dismissed preemption as traditionally understood, saying: “If we wait for threats to fully materialize, we will have waited too long.” Then, using the language of preemption while meaning preemptive-prevention, he said that America’s security “will require all Americans . . . to be ready for preemptive action.”9

Having been sketched in June 2002, the Bush Doctrine was first fully laid out that September in NSS 2002. This document’s covering letter, speaking of “our enemies’ efforts to acquire dangerous technologies,” declares that America will, in self-defense, “act against such emerging threats before they are fully formed.”10 Then the document itself, saying that “our best defense is a good offense,” states:

Given the goals of rogue states and terrorists, the United States can no longer rely on a reactive posture as we have in the past. The inability to deter a potential attacker, the immediacy of today’s threats, and the magnitude of potential harm that could be caused by our adversaries’ choice of weapons, do not permit that option. We cannot let our enemies strike first.”11

In justifying this change of doctrine, NSS 2002 argues that the United States must “adapt” the traditional doctrine of preemption, long recognized as a right, to the new situation, thereby turning it into a right of anticipatory (preventive) preemption:

For centuries, international law recognized that nations need not suffer an attack before they can lawfully take action to defend themselves against forces that present an imminent danger of attack. . . . We must adapt the concept of imminent threat to the capabilities and objectives of today’s adversaries. . . . The United States has long maintained the option of preemptive actions to counter a sufficient threat to our national security. The greater the threat, . . . the more compelling the case for taking anticipatory action to defend ourselves, even if uncertainty remains as to the time and place of the enemy’s attack. To forestall or prevent such hostile acts by our adversaries, the United States will, if necessary, act preemptively.”12

With this argument, NSS 2002 tried to suggest that, since this doctrine of preventive preemption simply involved adapting a traditionally recognized right to a new situation, it brought about no great change. But it did. According to the traditional doctrine, one needed certain evidence that an attack from the other country was imminent. According to the Bush Doctrine, by contrast, the United States can attack another country “even if uncertainty remains” and even if the United States knows that the threat from the other country is not yet “fully formed.”

The novelty here, to be sure, involves doctrine more than practice. The United States has in fact attacked several countries that presented no imminent military threat. But it always portrayed these attacks in such a way that they could appear to comport with international law---for example, by claiming, before attacking North Vietnam, that it had attacked a US ship in the Tonkin Gulf. “Never before,” however---point out Stefan Halper and Jonathan Clarke, who call themselves Reagan conservatives---“had any president set out a formal national strategy doctrine that included [preventive] preemption.”13

This unprecedented doctrine was, as we have seen, one that neocons had long desired. Indeed, neocon Max Boot described NSS 2002 as a “quintessentially neo-conservative document.”14 And, as we have also seen, the adoption of this doctrine was first made possible by the 9/11 attacks. Halper and Clarke themselves say, in fact, that 9/11 allowed the “preexisting ideological agenda” of the neoconservatives to be “taken off the shelf . . . and relabeled as the response to terror.”15

Zelikow and NSS 2002

The 9/11 attacks, we have seen, allowed the Bush-Cheney administration to adopt the doctrine of preemptive-preventive war, which the neocons in the administration---most prominently Cheney himself---had long desired. One would assume, therefore, that the 9/11 Commission would not have been run by someone who helped formulate this doctrine, because the Commission should have investigated, among other things, whether the Bush-Cheney administration might have had anything to gain from 9/11 attacks---whether they, in other words, might have had a motive for orchestrating or at least deliberately allowing the attacks. Amazing as it may seem, however, Philip Zelikow, who directed the 9/11 Commission and was the primary author of its final report, had also been the primary author of NSS 2002.

Lying behind Zelikow’s authorship of NSS 2002 was the fact that he was close, both personally and ideologically, to Condoleezza Rice, who as National Security Advisor to President Bush had the task of creating this document. Zelikow had worked with Rice in the National Security Council during the Bush I presidency. Then, when the Republicans were out of power during the Clinton years, Zelikow and Rice co-authored a book together. Finally, when she was appointed National Security Advisor to Bush II, she brought on Zelikow to help with the transition to the new National Security Council. Given that long relationship, Zelikow evidently came to mind when Rice found the first draft of NSS unsatisfactory.

According to James Mann in Rise of the Vulcans: The History of Bush’s War Cabinet, this first draft had been produced by Richard Haass, who was the director of policy planning under Colin Powell in the State Department.16 Although this draft by Haass is evidently not publicly available, an insight into what it contained might be provided by an address Haass had given in 2000 entitled “Imperial America.”

While Haass called on Americans to “re-conceive their global role from one of a traditional nation-state to an imperial power,” his foreign policy suggestions were very different from those of the neocons. Saying that “primacy is not to be confused with hegemony” and that “[a]n effort to assert U.S. hegemony is . . . bound to fail,” he called for acceptance of the fact that the world in coming decades “will be a world more multipolar than the present one.” Also, insisting that “[a]n imperial foreign policy is not to be confused with imperialism,” which involves exploitation, he stated that “imperial America is not to be confused with either hegemonic America or unilateral America.” In the new world order that he envisaged, “The United States would need to relinquish some freedom of action,” which would mean that it “would be more difficult to carry out preventive or preemptive strikes on suspect military facilities.” He suggested, moreover, that “[c]oercion and the use of force would normally be a last resort.” The United States would instead rely primarily on “persuasion,” “consultation,” and “global institutions,” especially the UN Security Council.17

In any case, whatever the exact nature of the draft for NSS 2002 that Haass produced, Rice, after seeing it, wanted “something bolder,” Mann reports. Deciding that the document should be “completely rewritten,” she “turned the writing over to her old colleague . . . Philip Zelikow.”18

Given the hawkish tone of the resulting NSS 2002, we might assume that Zelikow was simply taking dictation from Cheney, Rumsfeld, or Wolfowitz. According to Mann, however, “the hawks in the Pentagon and in Vice President Cheney’s office hadn’t been closely involved, even though the document incorporated many of their key ideas. They had left the details and the drafting in the hands of Rice and Zelikow, along with Rice’s deputy, Stephen Hadley.”19

It would seem, therefore, that we can take this “quintessentially neo-conservative document,” which used 9/11 to justify exempting the United States from international law, as reflecting Zelikow’s own thinking. This means that, besides being aligned with the Bush-Cheney White House personally (by virtue primarily of his friendship with Rice) and structurally (by virtue of helping her set up the new NSC), he was also closely aligned ideologically with Cheney and other neocons in the administration.

Such a person obviously should not have been put in charge of the 9/11 Commission, given the fact that one of the main questions it should have investigated was whether the Bush-Cheney administration had any responsibility for the 9/11 attacks, whether through incompetence or complicity. Pursuing the possibility of complicity in particular would have required the Commission to ask whether the administration would have had motives for wanting the attacks. Given the fact that Zelikow had authored the document that provided the doctrine of preemptive-preventive warfare desired by leading members of this administration, he would have been one of the worst possible choices to lead such an investigation.

The story of how Zelikow was, nevertheless, chosen to be the executive director has been told by Philip Shenon in The Commission.

Zelikow and the 9/11 Commission

In their preface to The 9/11 Commission Report, Thomas Kean and Lee Hamilton, the Commission’s chair and vice chair, respectively, said that the Commission “sought to be independent, impartial, thorough, and nonpartisan.” In light of the fact that the 9/11 attacks had occurred during the watch of the Bush-Cheney administration, being “independent” and “impartial” would have meant, above all, being fully independent of this administration.

With Zelikow as its executive director, the 9/11 Commission could have been independent of the Bush-Cheney administration only if the executive director’s role was merely that of a facilitator, meaning a person who did not influence either the Commission’s research or the content of its final report. Some people, in hearing Zelikow described as the 9/11 Commission’s “executive director,” may assume that he had that kind of role. As Shenon has shown, however, nothing could be further from the truth. Zelikow ran the Commission and took charge of the writing of its final report.

With regard to the work of the Commission, Zelikow sought, and largely achieved, total control. He achieved this control through several means.

First, the work of the Commission was done not by Kean, Hamilton, and the other commissioners who, by virtue of appearing on television during the Commission’s open hearings, became the public face of the Commission. The work, instead, was done by the 80-some staff members.

Second, Shenon points out, these staff members worked directly under Zelikow: “Zelikow had insisted that there be a single, nonpartisan staff.” This meant that none of the commissioners would “have a staff member of their own, typical on these sorts of independent commissions.” Zelikow thereby prevented “any of the commissioners from striking out on their own in the investigation.”20

Third, none of the commissioners, including Kean and Hamilton, were given offices in the K Street office building used by the Commission’s staff. As a result, “most of the commissioners rarely visited K Street. Zelikow was in charge.”21

Fourth, even though the Commission would not have existed had it not been for the efforts of the families of the 9/11 victims, “the families were not allowed into the commission’s offices because they did not have security clearances.”22

Fifth, Zelikow made it clear to the staff members that they worked for him, not for the commissioners. He even prevented direct contact between the staff and the commissioners as much as possible. “If information gathered by the staff was to be passed to the commissioners, it would have to go through Zelikow.”23 Although the commissioners forced Zelikow to rescind his most extreme order of this nature---that the staff members were not even to return phone calls from the commissioners without his permission24---he largely, Shenon reports, achieved his goal: “Zelikow’s micromanagement meant that the staff had little, if any, contact with the ten commissioners; all information was funneled through Zelikow, and he decided how it would be shared elsewhere.”25 Indeed, Shenon says, Zelikow insisted “that every scrap of secret evidence gathered by the staff be shared with him before anyone else; he then controlled how and if the evidence was shared elsewhere.”26

Although the fact that the 9/11 Commission was controlled by someone who was essentially a member of the Bush-Cheney White House was bad enough, even more contrary to the Commission’s alleged independence was the fact that Zelikow had determined its central conclusions in advance. In their 2006 book, Without Precedent, which is subtitled The Inside Story of the 9/11 Commission, Kean and Hamilton claimed that, unlike conspiracy theorists, they started with the relevant facts, not with a conclusion: they “were not setting out to advocate one theory or interpretation of 9/11 versus another.”27 They admitted, however, that after Zelikow divided the staff into various teams and told them what to investigate, he told team 1A to “tell the story of al Qaeda’s most successful operation---the 9/11 attacks.”28 So, the question that most Americans probably assume to have been one of the 9/11 Commission’s main questions---“Who was responsible for the 9/11 attacks?”---was not asked. The Bush-Cheney administration’s theory was simply presupposed from the outset.

The fact that the Commission’s conclusion had been predetermined was made even clearer by Kean and Hamilton’s admission that an outline of the final report was prepared in advance by Zelikow and his former professor Ernest May (with whom he had previously coauthored a book).29

Shenon revealed more about this startling fact. Pointing out that Zelikow and May had prepared this outline secretly, Shenon wrote: “By March 2003, with the commission’s staff barely in place, the two men had already prepared a detailed outline, complete with ‘chapter headings, subheadings, and sub-subheadings.’” When Zelikow shared this document with Kean and Hamilton, they realized that the staff, if they learned about it, would know that they were doing research for a predetermined conclusion.30 And so the four men agreed upon a conspiracy of silence. In Shenon’s words:

It should be kept secret from the rest of the staff, they all decided. May said that he and Zelikow agreed that the outline should be ‘treated as if it were the most classified document the commission possessed.’ Zelikow . . . labeled it ‘Commission Sensitive,’ putting those words at the top and bottom of each page.”31

The work of the 9/11 Commission began, accordingly, with Kean and Hamilton conspiring with Zelikow and May to conceal from the Commission’s staff members the fact that their investigative work would largely be limited to filling in the details of conclusions that had been reached before any investigations had begun.

When the staff did finally learn about this outline a year later (in April 2004), some of them began circulating a two-page parody entitled “The Warren Commission Report--Preemptive Outline.” One of its chapter headings was: “Single Bullet: We Haven’t Seen the Evidence Yet. But Really. We’re Sure.”32 The point, of course, was that the crucial chapter of Zelikow and May’s outline could have been headed: “Osama bin Laden and al-Qaeda: We Haven’t Seen the Evidence yet. But Really. We’re Sure.”

Besides controlling the Commission’s work and predetermining its conclusions, Zelikow also, Shenon says, largely “controlled what the final report would say.”33 He could exert this control because, as Ernest May reported, although the first draft of each chapter was written by one of the investigative teams, Zelikow headed up a team in the front office that revised these drafts.34 Indeed, Shenon adds, “Zelikow rewrote virtually everything that was handed to him---usually top to bottom.”35

Given the control exerted by Zelikow over the investigative work of the 9/11 Commission and its final product, it is not inaccurate to think of the report of the 9/11 Commission as the Zelikow Report.

In light of the foreseeable fact that the executive director of the 9/11 Commission would be able to exert such control over its work and final product, how could Kean and Hamilton, knowing that the Commission needed to be---or at least appear to be---independent of the Bush administration, have chosen Zelikow for this position? Did they not fear that his personal, structural, and ideological closeness to the Bush-Cheney administration could easily lead him to be more interested in protecting it from blame than in discovering and publishing the truth about how the 9/11 attacks were able to succeed? That this would not have been an unreasonable fear is shown by the fact that many members of the

Commission’s staff, Shenon reports, said that Zelikow’s conflicts of interest resulted in a “pattern of partisan moves intended to protect the White House.”36

At least part of the answer as to how Zelikow became the executive director, Shenon reveals, is that Zelikow, in applying for the position, concealed some of his conflicts of interest from Kean and Hamilton.

The résumé he gave them mentioned the book he had co-authored with Rice and his appointment to the White House intelligence advisory board---two conflicts of interest that Kean and Hamilton deemed “not insurmountable.”37

But Zelikow’s résumé failed to mention some other problems---most crucially his authorship of NSS 2002. Given the fact that this document had been used to “justify a preemptive strike on Iraq,” as Shenon says, it would have been in Zelikow’s interest “to use the commission to try to bolster the administration’s argument for war---a war that he had helped make possible.”38 And in fact, Shenon points out, Zelikow did try to use it for just this purpose, even trying to insert statements into the final report connecting al-Qaeda to Iraq (this being one of few times that Zelikow did not get his way).39

Zelikow was also dishonest with the Commission in another way, Shenon reports. Although “Zelikow had promised the commissioners he would cut off all unnecessary contact with senior Bush administration officials to avoid any appearance of conflict of interest,” he had continuing contacts with both Karl Rove and Condoleezza Rice. “More than once, [the Commission’s executive secretary] had been asked to arrange a gate pass so Zelikow could enter the White House to visit the national security adviser in her offices in the West Wing.”40 The secretary’s logs also revealed that Rove---who was the White House’s “quarterback for dealing with the Commission” (according to Republican member of the 9/11 Commission John Lehman)--- called the office “looking for Philip” four times in 2003, after which, she said, Zelikow ordered her to quit keeping logs of his contacts with the White House.41

Implications for The 9/11 Commission Report

Shenon’s revelations of Zelikow’s close and ongoing relationship with the White House, his authorship of NSS 2002, and his duplicity should make people, at the very least, suspect that The 9/11 Commission Report is less of a truth-seeking than a political document, designed to protect the Bush-Cheney administration.

However, as helpful as Shenon’s book is, it fails to mention an even more serious conflict of interest created by Zelikow’s authorship of NSS 2002: If the Bush-Cheney White House enabled the 9/11 attacks in order to reap foreseeable benefits---such as the Bush Doctrine and carte blanche to attack Iraq (with its enormous oil reserves) and Afghanistan (through which the administration wanted to enable the construction of an oil-and-gas pipeline)---it would have been in Zelikow’s interest to cover up this fact.

In my 2005 book, The 9/11 Commission Report: Omissions and Distortions, I have provided abundant evidence that this is indeed what he did. In my most recent book, The New Pearl Harbor Revisited: 9/11, the Cover-Up, and the Exposé, I have pointed out---in what must be one of the longest footnotes of all time42---that Shenon, while revealing many problematic facts about Zelikow’s behavior, failed to mention any of the ways in which the Zelikow Report used dishonesty to support the Bush-Cheney administration’s implausible interpretation of 9/11, according to which the attacks were orchestrated and carried out solely by Osama bin Laden and al-Qaeda.43

David Ray Griffin is Professor Emeritus at Claremont School of Theology and Claremont Graduate University in California. He has published 34 books, including seven about 9/11, most recently The New Pearl Harbor Revisited: 9/11, the Cover-Up, and the Exposé (Northampton: Olive Branch, 2008), from which the present essay has been drawn.

1 Philip Shenon, The Commission: The Uncensored History of the 9/11 Investigation (New York: Twelve, 2008), 170.

2 See Steven R. Ratner, “Crimes against Peace” (

3 I previously used the term “preemptive-preventive war” in “Neocon Imperialism, 9/11, and the Attacks on Afghanistan and Iraq,” Information Clearing House, February 27, 2007 (

4 Barton Gellman, “Keeping the U.S. First: Pentagon Would Preclude a Rival Superpower,” Washington Post, March 11, 1992 (; cited in Stefan Halper and Jonathan Clarke, America Alone: The Neo-Conservatives and the Global Order (Cambridge: Cambridge University Press, 2004), 141.

5 See Halper and Clark, America Alone, 26, and “Project for the New American Century,” Right Web, updated June 20, 2008 (

6 PNAC, Letter to President Clinton on Iraq, May 29, 1998 (

7 Stephen J. Sniegoski, “Neoconservatives, Israel, and 9/11: The Origins of the U.S. War on Iraq.” In D. L. O’Huallachain and J. Forrest Sharpe, eds., Neoconned Again: Hypocrisy, Lawlessness, and the Rape of Iraq (Vienna, Va.: IHS Press, 2005), 81-109, at 81-82.

8 Andrew J. Bacevich, The New American Militarism: How Americans Are Seduced by War (Oxford: Oxford University Press, 2005), 91.

9 “President Bush Delivers Graduation Speech at West Point,” June 1, 2002 (

10 The National Security Strategy of the United States of America, September 2002 (, cover letter; this document henceforth referred to as NSS 2002.

11 NSS 2002, 6, 15.

12 Ibid., 15.

13 Halper and Clarke, America Alone, 142.

14 Max Boot, “Think Again: Neocons,” Foreign Policy, January/February 2004 (, 18.

15 Halper and Clarke, America Alone, 4.

16 James Mann, Rise of the Vulcans: The History of Bush’s War Cabinet (New York: Viking, 2004), 316.

17 Richard N. Haass, “Imperial America,” delivered November 11, 2000, Brookings Institution (

18 Mann, Rise of the Vulcans, 316.

19 Ibid., 331.

20 Shenon, The Commission, 69, 83.

21 Ibid., 69-70, 86.

22 Ibid., 167.

23 Ibid., 83.

24 Ibid., 84-85.

25 Ibid., 317.

26 Ibid., 277.

27 Thomas H. Kean and Lee H. Hamilton (with Benjamin Rhodes), Without Precedent: The Inside Story of the 9/11 Commission (New York: Alfred A. Knopf, 2006), 269-70.

28 Ibid., 116.

29 Ibid., 270.

30 Shenon, The Commission, 388-89.

31 Ibid., 389.

32 Ibid.

33 Ibid., 390.

34 Ernest May, “When Government Writes History: A Memoir of the 9/11 Commission,” New Republic, May 23, 2005; cited in Bryan Sacks, ”Making History: The Compromised 9-11 Commission,” in Paul Zarembka, ed., The Hidden History of 9-11 (New York: Seven Stories, 2008), 223-60, at 258n10.

35 Shenon, The Commission, 321.

36 Ibid., 319.

37 Ibid., 59.

38 Ibid., 170.

39 Ibid., 104, 130-33, 181, 321.

40 Ibid., 106-07.

41 Ibid., 175-76, 106-07. In their 2006 book giving “the inside story of the 9/11 Commission,” Kean and Hamilton said, after reporting that the 9/11 families had protested Zelikow’s appointment as executive director because of his conflicts of interest: “But we had full confidence in Zelikow’s independence” (Without Precedent, 28-29). In light of Shenon’s revelations, we must conclude that Zelikow was not the only one who shaded the truth.

42 David Ray Griffin, The New Pearl Harbor Revisited: 9/11, the Cover-Up, and the Exposé (Northampton: Olive Branch, 2008), 333-38n70.

43 To read statements by architects, engineers, firefighters, pilots, political leaders, scholars, scientists, former CIA officials, retired military officers, and others who find the official theory of 9/11 implausible, see the Patriots Question 9/11 website (