Go to Original
By ANDREW ROSS SORKIN
In one of the most dramatic days in Wall Street’s history, Merrill Lynch agreed to sell itself on Sunday to Bank of America for roughly $50 billion to avert a deepening financial crisis, while another prominent securities firm, Lehman Brothers, filed for bankruptcy protection and hurtled toward liquidation after it failed to find a buyer.
The humbling moves, which reshape the landscape of American finance, mark the latest chapter in a tumultuous year in which once-proud financial institutions have been brought to their knees as a result of hundreds of billions of dollars in losses because of bad mortgage finance and real estate investments.
But even as the fates of Lehman and Merrill hung in the balance, another crisis loomed as the insurance giant American International Group appeared to teeter. Staggered by losses stemming from the credit crisis, A.I.G. sought a $40 billion lifeline from the Federal Reserve, without which the company may have only days to survive.
The stunning series of events culminated a weekend of frantic around-the-clock negotiations, as Wall Street bankers huddled in meetings at the behest of Bush administration officials to try to avoid a downward spiral in the markets stemming from a crisis of confidence.
“My goodness. I’ve been in the business 35 years, and these are the most extraordinary events I’ve ever seen,” said Peter G. Peterson, co-founder of the private equity firm the Blackstone Group, who was head of Lehman in the 1970s and a secretary of commerce in the Nixon administration.
It remains to be seen whether the sale of Merrill, which was worth more than $100 billion during the last year, and the controlled demise of Lehman will be enough to finally turn the tide in the yearlong financial crisis that has crippled Wall Street and threatened the broader economy.
Early Monday morning, Lehman said it would file for Chapter 11 bankruptcy protection in New York for its holding company in what would be the largest failure of an investment bank since the collapse of Drexel Burnham Lambert 18 years ago, the Associated Press reported.
Questions remain about how the market will react Monday, particularly to Lehman’s plan to wind down its trading operations, and whether other companies, like A.I.G. and Washington Mutual, the nation’s largest savings and loan, might falter.
Indeed, in a move that echoed Wall Street’s rescue of a big hedge fund a decade ago this week, 10 major banks agreed to create an emergency fund of $70 billion to $100 billion that financial institutions can use to protect themselves from the fallout of Lehman’s failure.
The Fed, meantime, broadened the terms of its emergency loan program for Wall Street banks, a move that could ultimately put taxpayers’ money at risk.
Though the government took control of the troubled mortgage finance companies Fannie Mae and Freddie Mac only a week ago, investors have become increasingly nervous about whether major financial institutions can recover from their losses.
How things play out could affect the broader economy, which has been weakening steadily as the financial crisis has deepened over the last year, with unemployment increasing as the nation’s growth rate has slowed.
What will happen to Merrill’s 60,000 employees or Lehman’s 25,000 employees remains unclear. Worried about the unfolding crisis and its potential impact on New York City’s economy, Mayor Michael R. Bloomberg canceled a trip to California to meet with Gov. Arnold Schwarzenegger. Instead, aides said, Mr. Bloomberg spent much of the weekend working the phones, talking to federal officials and bank executives in an effort to gauge the severity of the crisis.
The weekend that humbled Lehman and Merrill Lynch and rewarded Bank of America, based in Charlotte, N.C., began at 6 p.m. Friday in the first of a series of emergency meetings at the Federal Reserve building in Lower Manhattan.
The meeting was called by Fed officials, with Treasury Secretary Henry M. Paulson Jr. in attendance, and it included top bankers. The Treasury and Federal Reserve had already stepped in on several occasions to rescue the financial system, forcing a shotgun marriage between Bear Stearns and JPMorgan Chase this year and backstopping $29 billion worth of troubled assets — and then agreeing to bail out Fannie Mae and Freddie Mac.
The bankers were told that the government would not bail out Lehman and that it was up to Wall Street to solve its problems. Lehman’s stock tumbled sharply last week as concerns about its financial condition grew and other firms started to pull back from doing business with it, threatening its viability.
Without government backing, Lehman began trying to find a buyer, focusing on Barclays, the big British bank, and Bank of America. At the same time, other Wall Street executives grew more concerned about their own precarious situation.
The fates of Merrill Lynch and Lehman Brothers would not seem to be linked; Merrill has the nation’s largest brokerage force and its name is known in towns across America, while Lehman’s main customers are big institutions. But during the credit boom both firms piled into risky real estate and ended up severely weakened, with inadequate capital and toxic assets.
Knowing that investors were worried about Merrill, John A. Thain, its chief executive and an alumnus of Goldman Sachs and the New York Stock Exchange, and Kenneth D. Lewis, Bank of America’s chief executive, began negotiations. One person briefed on the negotiations said Bank of America had approached Merrill earlier in the summer but Mr. Thain had rebuffed the offer. Now, prompted by the reality that a Lehman bankruptcy would ripple through Wall Street and further cripple Merrill Lynch, the two parties proceeded with discussions.
On Sunday morning, Mr. Thain and Mr. Lewis cemented the deal. It could not be determined if Mr. Thain would play a role in the new company, but two people briefed on the negotiations said they did not expect him to stay. Merrill’s “thundering herd” of 17,000 brokers will be combined with Bank of America’s smaller group of wealth advisers and called Merrill Lynch Wealth Management.
For Bank of America, which this year bought Countrywide Financial, the troubled mortgage lender, the purchase of Merrill puts it at the pinnacle of American finance, making it the biggest brokerage house and consumer banking franchise.
Bank of America eventually pulled out of its talks with Lehman after the government refused to take responsibility for losses on some of Lehman’s most troubled real-estate assets, something it agreed to do when JP Morgan Chase bought Bear Stearns to save it from a bankruptcy filing in March.
A leading proposal to rescue Lehman would have divided the bank into two entities, a “good bank” and a “bad bank.” Under that scenario, Barclays would have bought the parts of Lehman that have been performing well, while a group of 10 to 15 Wall Street companies would have agreed to absorb losses from the bank’s troubled assets, to two people briefed on the proposal said. Taxpayer money would not have been included in such a deal, they said.
Other Wall Street banks also balked at the deal, unhappy at facing potential losses while Bank of America or Barclays walked away with the potentially profitable part of Lehman at a cheap price.
For Lehman, the end essentially came Sunday morning when its last potential suitor, Barclays, pulled out from a deal, saying it could not obtain a shareholder vote to approve a transaction before Monday morning, something required under London Stock Exchange listing rules, one person close to the matter said. Other people involved in the talks said the Financial Services Authority, the British securities regulator, had discouraged Barclays from pursuing a deal. Peter Truell, a spokesman for Barclays, declined to comment. Lehman’s subsidiaries were expected to remain solvent while the firm liquidates its holdings, these people said. Herbert H. McDade III, Lehman’s president, was at the Federal Reserve Bank in New York late Sunday, discussing terms of Lehman’s fate with government officials.
Lehman’s filing is unlikely to resemble those of other companies that seek bankruptcy protection. Because of the harsher treatment that federal bankruptcy law applies to financial-services firms, Lehman cannot hope to reorganize and survive. It was not clear whether the government would appoint a trustee to supervise Lehman’s liquidation or how big the financial backstop would be.
Lehman has retained the law firm Weil, Gotshal & Manges as its bankruptcy counsel.
The collapse of Lehman is a devastating end for Richard S. Fuld Jr., the chief executive, who has led the bank since it emerged from American Express as a public company in 1994. Mr. Fuld, who steered Lehman through near-death experiences in the past, spent the last several days in his 31st floor office in Lehman’s midtown headquarters on the phone from 6 a.m. until well past midnight trying to save the firm, a person close to the matter said.
A.I.G. will be the next test. Ratings agencies threatened to downgrade A.I.G.’s credit rating if it does not raise $40 billion by Monday morning, a step that would cripple the company. A.I.G. had hoped to shore itself up, in party by selling certain businesses, but potential bidders, including the private investment firms Kohlberg Kravis Roberts and TPG, withdrew at the last minute because the government refused to provide a financial guarantee for the purchase. A.I.G. rejected an offer by another investor, J. C. Flowers & Company.
The weekend’s events indicate that top officials at the Federal Reserve and the Treasury are taking a harder line on providing government support of troubled financial institutions.
While offering to help Wall Street organize a shotgun marriage for Lehman, both the Fed chairman, Ben S. Bernanke, and Mr. Paulson had warned that they would not put taxpayer money at risk simply to prevent a Lehman collapse.
The message marked a major change in strategy but it remained unclear until at least Friday what would happen. “They were faced after Bear Stearns with the problem of where to draw the line,” said Laurence H. Meyer, a former Fed governor who is now vice chairman of Macroeconomic Advisors, a forecasting firm. “It became clear that this piecemeal, patchwork, case-by-case approach might not get the job done.”
Both Mr. Paulson and Mr. Bernanke worried that they had already gone much further than they had ever wanted, first by underwriting the takeover of Bear Stearns in March and by the far bigger bailout of Fannie Mae and Freddie Mac.
Outside the public eye, Fed officials had acquired much more information since March about the interconnections and cross-exposure to risk among Wall Street investment banks, hedge funds and traders in the vast market for credit-default swaps and other derivatives. In the end, both Wall Street and the Fed blinked.
Tuesday, September 16, 2008
Newspapers Deliver Millions of 'Terror' DVDs to Subscribers -- In 'Swing States'
Go to Original
By Greg Mitchell and Joe Strupp
The arrival of tens of millions of DVDs of a controversial film on doorsteps around the nation -- but almost exclusively in election "swing states" -- via newspaper home delivery continues this weekend, with explanatory articles and subscriber feedback appearing on some of the papers’ Web sites.
The DVDs of the 60-minute film, made in 2005, and titled "Obsession: Radical Islam’s War Against the West," arrived Saturday with, among other papers, the Charlotte Observer and the News & Observer in Raleigh, with delivery with the Miami Herald and other papers set for Sunday. (To watch a clip see link below.)
Other Florida papers to distribute it on Sunday included the major dailies in St. Petersburg, Tampa, Fort Myers and Orlando. But it also showed up in the Milwaukee Journal Sentinel, among others.
Despite some protests from Muslim and liberal activists, the newspapers -- all hard hit by drops in ad revenue in recent months -- have explained that the DVD does not violate their usual standards; see our exchange with The New York Times below. A spokesperson there said the Times last Sunday inserted 145,000 DVDs in its papers delivered in the following markets: Denver, Miami/Palm Beach, Tampa, Orlando, Detroit, Kansas City, St Louis, Cincinnati, Philadelphia, Pittsburgh, Milwaukee/Madison. Note: These are all in swing states.
The documentary showcases scenes of Muslim children being encouraged to become suicide bombers, interspersed with shots of Nazi rallies. ’The threat of Radical Islam is the most important issue facing us today,’’ reads the sleeve of the DVD. ’’But it’s a topic that neither the presidential candidates nor the media are discussing openly. It’s our responsibility to ensure we can all make an informed vote in November.’’
It was shown on Fox News just before the 2006 mid-term elections, and conservative activist David Horowitz screened the film on college campuses during 2007. An article at the group’s site, www.radicalislam.org, all but endorsed John McCain this past week, then was pulled down. The DVD carries on-screen text near the outset that it is not indicting most Muslims.
An article at the site of the Morning-Call in Allentown, Pa. today reveals that it will be inserted in the Sunday paper there tomorrow. It continues: "A call to Clarion wasn’t returned, but the nonprofit’s spokesman, Gregory Ross, told the Harrisburg Patriot-News this week that 28 million copies of the DVD are being distributed nationwide throughout September. He said the intent is not to sway voters’ opinions about the presidential candidates."
It has already been packaged with dozens of large papers, such as the Denver Post and Columbus Dispatch. Another article explaining the delivery runs online at the News & Observer.
E&P asked New York Times Co. spokeswoman Diane McNulty about the policy on this insert. She replied:
"We believe the broad principles of freedom of the press confer on us an obligation to keep our advertising columns as open as possible. Therefore our acceptance or rejection of an advertisement does not depend on whether it coincides with our editorial positions. In fact, there are many instances when we have published opinion advertisements that run counter to the stance we take on our own editorial pages.
"We do require that opinion advertisements include the name of the sponsoring organization and a mailing address or a telephone number. This enables our readers to communicate directly with the sponsor should they seek additional information or wish to express agreement or disagreement with the advertised message. This advertisement complied with these requirements. The address on the advertisement was The Clarion Fund, 255 West 36th Street Suite 800 New York, NY 10018."
Asked about the rate paid, she answered: "We do not disclose the rate any one advertiser pays."
To watch a clip from the DVD, go to the new E&P blog:
The E&P Pub
To read more:
column
By Greg Mitchell and Joe Strupp
The arrival of tens of millions of DVDs of a controversial film on doorsteps around the nation -- but almost exclusively in election "swing states" -- via newspaper home delivery continues this weekend, with explanatory articles and subscriber feedback appearing on some of the papers’ Web sites.
The DVDs of the 60-minute film, made in 2005, and titled "Obsession: Radical Islam’s War Against the West," arrived Saturday with, among other papers, the Charlotte Observer and the News & Observer in Raleigh, with delivery with the Miami Herald and other papers set for Sunday. (To watch a clip see link below.)
Other Florida papers to distribute it on Sunday included the major dailies in St. Petersburg, Tampa, Fort Myers and Orlando. But it also showed up in the Milwaukee Journal Sentinel, among others.
Despite some protests from Muslim and liberal activists, the newspapers -- all hard hit by drops in ad revenue in recent months -- have explained that the DVD does not violate their usual standards; see our exchange with The New York Times below. A spokesperson there said the Times last Sunday inserted 145,000 DVDs in its papers delivered in the following markets: Denver, Miami/Palm Beach, Tampa, Orlando, Detroit, Kansas City, St Louis, Cincinnati, Philadelphia, Pittsburgh, Milwaukee/Madison. Note: These are all in swing states.
The documentary showcases scenes of Muslim children being encouraged to become suicide bombers, interspersed with shots of Nazi rallies. ’The threat of Radical Islam is the most important issue facing us today,’’ reads the sleeve of the DVD. ’’But it’s a topic that neither the presidential candidates nor the media are discussing openly. It’s our responsibility to ensure we can all make an informed vote in November.’’
It was shown on Fox News just before the 2006 mid-term elections, and conservative activist David Horowitz screened the film on college campuses during 2007. An article at the group’s site, www.radicalislam.org, all but endorsed John McCain this past week, then was pulled down. The DVD carries on-screen text near the outset that it is not indicting most Muslims.
An article at the site of the Morning-Call in Allentown, Pa. today reveals that it will be inserted in the Sunday paper there tomorrow. It continues: "A call to Clarion wasn’t returned, but the nonprofit’s spokesman, Gregory Ross, told the Harrisburg Patriot-News this week that 28 million copies of the DVD are being distributed nationwide throughout September. He said the intent is not to sway voters’ opinions about the presidential candidates."
It has already been packaged with dozens of large papers, such as the Denver Post and Columbus Dispatch. Another article explaining the delivery runs online at the News & Observer.
E&P asked New York Times Co. spokeswoman Diane McNulty about the policy on this insert. She replied:
"We believe the broad principles of freedom of the press confer on us an obligation to keep our advertising columns as open as possible. Therefore our acceptance or rejection of an advertisement does not depend on whether it coincides with our editorial positions. In fact, there are many instances when we have published opinion advertisements that run counter to the stance we take on our own editorial pages.
"We do require that opinion advertisements include the name of the sponsoring organization and a mailing address or a telephone number. This enables our readers to communicate directly with the sponsor should they seek additional information or wish to express agreement or disagreement with the advertised message. This advertisement complied with these requirements. The address on the advertisement was The Clarion Fund, 255 West 36th Street Suite 800 New York, NY 10018."
Asked about the rate paid, she answered: "We do not disclose the rate any one advertiser pays."
To watch a clip from the DVD, go to the new E&P blog:
The E&P Pub
To read more:
column
With White House Push, U.S. Arms Sales Jump
Go to Original
By ERIC LIPTON
The Bush administration is pushing through a broad array of foreign weapons deals as it seeks to rearm Iraq and Afghanistan, contain North Korea and Iran, and solidify ties with onetime Russian allies.
From tanks, helicopters and fighter jets to missiles, remotely piloted aircraft and even warships, the Department of Defense has agreed so far this fiscal year to sell or transfer more than $32 billion in weapons and other military equipment to foreign governments, compared with $12 billion in 2005.
The trend, which started in 2006, is most pronounced in the Middle East, but it reaches into northern Africa, Asia, Latin America, Europe and even Canada, through dozens of deals that senior Bush administration officials say they are confident will both tighten military alliances and combat terrorism.
“This is not about being gunrunners,” said Bruce S. Lemkin, the Air Force deputy under secretary who is helping to coordinate many of the biggest sales. “This is about building a more secure world.”
The surging American arms sales reflect the foreign policy tides, including the wars in Iraq and Afghanistan and the broader campaign against international terrorism, that have dominated the Bush administration. Deliveries on orders now being placed will continue for several years, perhaps as one of President Bush’s most lasting legacies.
The United States is far from the only country pushing sophisticated weapons systems: it is facing intense competition from Russia and elsewhere in Europe, including continuing contests for multibillion-dollar deals to sell fighter jets to India and Brazil.
In that booming market, American military contractors are working closely with the Pentagon, which acts as a broker and procures arms for foreign customers through its Foreign Military Sales program.
Less sophisticated weapons, and services to maintain these weapons systems, are often bought directly by foreign governments. That category of direct commercial sales has seen an enormous surge as well, as measured by export licenses issued this fiscal year covering an estimated $96 billion, up from $58 billion in 2005, according to the State Department, which must approve the licenses.
About 60 countries get annual military aid from the United States, $4.5 billion a year, to help them buy American weapons. Israel and Egypt receive more than 80 percent of that aid. The United States has also recently given Iraq and Afghanistan large amounts of weapons and other equipment and has begun to train fledgling military units at no charge; this assistance is included in the tally of foreign sales. But most arms exports are paid for by the purchasers without United States financing.
The growing tally of international weapon deals, which started to surge in 2006, is now provoking questions among some advocates of arms control and some members of Congress.
“Sure, this is a quick and easy way to cement alliances,” said William D. Hartung, an arms control specialist at the New America Foundation, a public policy institute. “But this is getting out of hand.”
Congress is notified before major arms sales deals are completed between foreign governments and the Pentagon. While lawmakers have the power to object formally and block any individual sale, they rarely use it.
Representative Howard L. Berman of California, chairman of the House Committee on Foreign Affairs, said he supported many of the individual weapons sales, like helping Iraq build the capacity to defend itself, but he worried that the sales blitz could have some negative effects. “This could turn into a spiraling arms race that in the end could decrease stability,” he said.
The United States has long been the top arms supplier to the world. In the past several years, however, the list of nations that rely on the United States as a primary source of major weapons systems has greatly expanded. Among the recent additions are Argentina, Azerbaijan, Brazil, Georgia, India, Iraq, Morocco and Pakistan, according to sales data through the end of last month provided by the Department of Defense. Cumulatively, these countries signed $870 million worth of arms deals with the United States from 2001 to 2004. For the past four fiscal years, that total has been $13.8 billion.
In many cases, these sales represent a cultural shift, as nations like Romania, Poland and Morocco, which have long relied on Russian-made MIG-17 fighter jets, are now buying new F-16s, built by Lockheed Martin.
At Lockheed Martin, one of the largest American military contractors, international sales last year brought in about $6.3 billion, or 15 percent of the company’s total sales, up from $4.8 billion in 2001. The foreign sales by Lockheed and other American military contractors are credited with helping keep alive some production lines, like those of the F-16 fighter jet and Boeing’s C-17 transport plane.
Fighter jets made in America will now be flying in other countries for years to come, meaning continued profits for American contractors that maintain them, and in many cases regular interaction between the United States military and foreign air forces, Mr. Lemkin, the Air Force official, said.
Sales are also being driven by the push by many foreign nations to join the once-exclusive club of countries whose arsenals include precise, laser-guided missiles, high-priced American technology that the United States displayed during its invasions of Iraq and Afghanistan.
In the Persian Gulf region, much of the rearmament is driven by fears of Iran.
The United Arab Emirates, for example, are considering spending as much as $16 billion on American-made missile defense systems, according to recent notifications sent to Congress by the Department of Defense.
The Emirates also have announced an intention to order offensive weapons, including up to 26 Black Hawk helicopters and 900 Longbow Hellfire II missiles, which can knock out enemy tanks.
Saudi Arabia, this fiscal year alone, has signed at least $6 billion worth of agreements to buy weapons from the United States government — the highest figure for that country since 1993, which was another peak year in American weapons sales, after the first Persian Gulf war.
Israel, long a major buyer of United States military equipment, is also increasing its orders, including planned purchases of perhaps as many as four American-made coastal warships, worth $1.9 billion.
In Asia, as North Korea has conducted tests of a long-range missile, American allies have been buying more United States equipment. One ally, South Korea, has signed sales agreements with the Pentagon this year worth $1.1 billion.
So far, the value of foreign arms deliveries completed by the United States has increased only modestly, reaching $13 billion last year compared with an average of $12 billion over the previous three years. Because complex weapons systems take a long time to produce, it is expected that the increase in sales agreements will result in much greater arms deliveries in the coming years. (All dollar amounts for previous years cited in this article have been adjusted to reflect the impact of inflation.)
The flood of sophisticated American military equipment pouring into the Middle East has evoked concern among some members of Congress, who fear that the Bush administration may be compromising the military edge Israel has long maintained in the region.
Not surprisingly, two of the biggest new American arms customers are Iraq and Afghanistan.
Just in the past two years, Iraq has signed more than $3 billion of sales agreements — and announced plans to buy perhaps as much as $7 billion more in American equipment, financed by its rising oil revenues.
Lt. Col. Almarah Belk, a Pentagon spokeswoman, said that making these sales served the interests of both Iraq and the United States because “it reduces the risk of corruption and assists the Iraqis in getting around bottlenecks in their acquisition processes.”
Over the past three years, the United States government, separately, has agreed to buy more than $10 billion in military equipment and weapons on behalf of Afghanistan, according to Defense Department records, including M-16 rifles and C-27 military transport aircraft.
Even tiny countries like Estonia and Latvia are getting into the mix, playing a part in a collaborative effort by 15 countries, mostly in Europe, to buy two C-17 Boeing transport planes, which are used in moving military supplies as well as conducting relief missions.
Boeing has delivered 176 of these $200 million planes to the United States. But until 2006, Britain was the only foreign country that flew them. Now, in addition to the European consortium, Canada, Australia and Qatar have put in orders, and Boeing is competing to sell the plane to six other countries, said Tommy Dunehew, Boeing’s C-17 international sales manager.
In the last year, foreign sales have made up nearly half of the production at the California plant where C-17s are made. “It has been filling up the factory in the last couple of years,” Mr. Dunehew said.
Even before this new round of sales got under way, the United States’ share of the world arms trade was rising, from 40 percent of arms deliveries in 2000 to nearly 52 percent in 2006, the latest year for which the Congressional Research Service has compiled data. The next-largest seller was Russia, which in 2006 accounted for 21 percent of global deliveries.
Representative Berman, who sponsored a bill passed in May to overhaul the arms export process, said American military sales, while often well intended, were sometimes misguided. He cited military sales to Pakistan, which he said he feared were doing more to stoke tensions with India than combat terrorism in the region.
Travis Sharp, a military policy analyst at the Center for Arms Control and Nonproliferation, a Washington research group, said one of his biggest worries was that if alliances shifted, the United States might eventually be in combat against an enemy equipped with American-made weapons. Arms sales have had unintended consequences before, as when the United States armed militants fighting the Soviets in Afghanistan, only to eventually confront hostile Taliban fighters armed with the same weapons there.
“Once you sell arms to another country, you lose control over how they are used,” Mr. Sharp said. “And the weapons, unfortunately, don’t have an expiration date.”
But Mr. Lemkin, of the Pentagon, said that with so many nations now willing to sell advanced weapons systems, the United States could not afford to be too restrictive in its own sales.
“Would you rather they bought the weapons and aircraft from other countries?” he said. “Because they will.”
By ERIC LIPTON
The Bush administration is pushing through a broad array of foreign weapons deals as it seeks to rearm Iraq and Afghanistan, contain North Korea and Iran, and solidify ties with onetime Russian allies.
From tanks, helicopters and fighter jets to missiles, remotely piloted aircraft and even warships, the Department of Defense has agreed so far this fiscal year to sell or transfer more than $32 billion in weapons and other military equipment to foreign governments, compared with $12 billion in 2005.
The trend, which started in 2006, is most pronounced in the Middle East, but it reaches into northern Africa, Asia, Latin America, Europe and even Canada, through dozens of deals that senior Bush administration officials say they are confident will both tighten military alliances and combat terrorism.
“This is not about being gunrunners,” said Bruce S. Lemkin, the Air Force deputy under secretary who is helping to coordinate many of the biggest sales. “This is about building a more secure world.”
The surging American arms sales reflect the foreign policy tides, including the wars in Iraq and Afghanistan and the broader campaign against international terrorism, that have dominated the Bush administration. Deliveries on orders now being placed will continue for several years, perhaps as one of President Bush’s most lasting legacies.
The United States is far from the only country pushing sophisticated weapons systems: it is facing intense competition from Russia and elsewhere in Europe, including continuing contests for multibillion-dollar deals to sell fighter jets to India and Brazil.
In that booming market, American military contractors are working closely with the Pentagon, which acts as a broker and procures arms for foreign customers through its Foreign Military Sales program.
Less sophisticated weapons, and services to maintain these weapons systems, are often bought directly by foreign governments. That category of direct commercial sales has seen an enormous surge as well, as measured by export licenses issued this fiscal year covering an estimated $96 billion, up from $58 billion in 2005, according to the State Department, which must approve the licenses.
About 60 countries get annual military aid from the United States, $4.5 billion a year, to help them buy American weapons. Israel and Egypt receive more than 80 percent of that aid. The United States has also recently given Iraq and Afghanistan large amounts of weapons and other equipment and has begun to train fledgling military units at no charge; this assistance is included in the tally of foreign sales. But most arms exports are paid for by the purchasers without United States financing.
The growing tally of international weapon deals, which started to surge in 2006, is now provoking questions among some advocates of arms control and some members of Congress.
“Sure, this is a quick and easy way to cement alliances,” said William D. Hartung, an arms control specialist at the New America Foundation, a public policy institute. “But this is getting out of hand.”
Congress is notified before major arms sales deals are completed between foreign governments and the Pentagon. While lawmakers have the power to object formally and block any individual sale, they rarely use it.
Representative Howard L. Berman of California, chairman of the House Committee on Foreign Affairs, said he supported many of the individual weapons sales, like helping Iraq build the capacity to defend itself, but he worried that the sales blitz could have some negative effects. “This could turn into a spiraling arms race that in the end could decrease stability,” he said.
The United States has long been the top arms supplier to the world. In the past several years, however, the list of nations that rely on the United States as a primary source of major weapons systems has greatly expanded. Among the recent additions are Argentina, Azerbaijan, Brazil, Georgia, India, Iraq, Morocco and Pakistan, according to sales data through the end of last month provided by the Department of Defense. Cumulatively, these countries signed $870 million worth of arms deals with the United States from 2001 to 2004. For the past four fiscal years, that total has been $13.8 billion.
In many cases, these sales represent a cultural shift, as nations like Romania, Poland and Morocco, which have long relied on Russian-made MIG-17 fighter jets, are now buying new F-16s, built by Lockheed Martin.
At Lockheed Martin, one of the largest American military contractors, international sales last year brought in about $6.3 billion, or 15 percent of the company’s total sales, up from $4.8 billion in 2001. The foreign sales by Lockheed and other American military contractors are credited with helping keep alive some production lines, like those of the F-16 fighter jet and Boeing’s C-17 transport plane.
Fighter jets made in America will now be flying in other countries for years to come, meaning continued profits for American contractors that maintain them, and in many cases regular interaction between the United States military and foreign air forces, Mr. Lemkin, the Air Force official, said.
Sales are also being driven by the push by many foreign nations to join the once-exclusive club of countries whose arsenals include precise, laser-guided missiles, high-priced American technology that the United States displayed during its invasions of Iraq and Afghanistan.
In the Persian Gulf region, much of the rearmament is driven by fears of Iran.
The United Arab Emirates, for example, are considering spending as much as $16 billion on American-made missile defense systems, according to recent notifications sent to Congress by the Department of Defense.
The Emirates also have announced an intention to order offensive weapons, including up to 26 Black Hawk helicopters and 900 Longbow Hellfire II missiles, which can knock out enemy tanks.
Saudi Arabia, this fiscal year alone, has signed at least $6 billion worth of agreements to buy weapons from the United States government — the highest figure for that country since 1993, which was another peak year in American weapons sales, after the first Persian Gulf war.
Israel, long a major buyer of United States military equipment, is also increasing its orders, including planned purchases of perhaps as many as four American-made coastal warships, worth $1.9 billion.
In Asia, as North Korea has conducted tests of a long-range missile, American allies have been buying more United States equipment. One ally, South Korea, has signed sales agreements with the Pentagon this year worth $1.1 billion.
So far, the value of foreign arms deliveries completed by the United States has increased only modestly, reaching $13 billion last year compared with an average of $12 billion over the previous three years. Because complex weapons systems take a long time to produce, it is expected that the increase in sales agreements will result in much greater arms deliveries in the coming years. (All dollar amounts for previous years cited in this article have been adjusted to reflect the impact of inflation.)
The flood of sophisticated American military equipment pouring into the Middle East has evoked concern among some members of Congress, who fear that the Bush administration may be compromising the military edge Israel has long maintained in the region.
Not surprisingly, two of the biggest new American arms customers are Iraq and Afghanistan.
Just in the past two years, Iraq has signed more than $3 billion of sales agreements — and announced plans to buy perhaps as much as $7 billion more in American equipment, financed by its rising oil revenues.
Lt. Col. Almarah Belk, a Pentagon spokeswoman, said that making these sales served the interests of both Iraq and the United States because “it reduces the risk of corruption and assists the Iraqis in getting around bottlenecks in their acquisition processes.”
Over the past three years, the United States government, separately, has agreed to buy more than $10 billion in military equipment and weapons on behalf of Afghanistan, according to Defense Department records, including M-16 rifles and C-27 military transport aircraft.
Even tiny countries like Estonia and Latvia are getting into the mix, playing a part in a collaborative effort by 15 countries, mostly in Europe, to buy two C-17 Boeing transport planes, which are used in moving military supplies as well as conducting relief missions.
Boeing has delivered 176 of these $200 million planes to the United States. But until 2006, Britain was the only foreign country that flew them. Now, in addition to the European consortium, Canada, Australia and Qatar have put in orders, and Boeing is competing to sell the plane to six other countries, said Tommy Dunehew, Boeing’s C-17 international sales manager.
In the last year, foreign sales have made up nearly half of the production at the California plant where C-17s are made. “It has been filling up the factory in the last couple of years,” Mr. Dunehew said.
Even before this new round of sales got under way, the United States’ share of the world arms trade was rising, from 40 percent of arms deliveries in 2000 to nearly 52 percent in 2006, the latest year for which the Congressional Research Service has compiled data. The next-largest seller was Russia, which in 2006 accounted for 21 percent of global deliveries.
Representative Berman, who sponsored a bill passed in May to overhaul the arms export process, said American military sales, while often well intended, were sometimes misguided. He cited military sales to Pakistan, which he said he feared were doing more to stoke tensions with India than combat terrorism in the region.
Travis Sharp, a military policy analyst at the Center for Arms Control and Nonproliferation, a Washington research group, said one of his biggest worries was that if alliances shifted, the United States might eventually be in combat against an enemy equipped with American-made weapons. Arms sales have had unintended consequences before, as when the United States armed militants fighting the Soviets in Afghanistan, only to eventually confront hostile Taliban fighters armed with the same weapons there.
“Once you sell arms to another country, you lose control over how they are used,” Mr. Sharp said. “And the weapons, unfortunately, don’t have an expiration date.”
But Mr. Lemkin, of the Pentagon, said that with so many nations now willing to sell advanced weapons systems, the United States could not afford to be too restrictive in its own sales.
“Would you rather they bought the weapons and aircraft from other countries?” he said. “Because they will.”
Conflict Over Spying Led White House to Brink
Go to Original
By Barton Gellman
A burst of ferocity stunned the room into silence. No other word for it: The vice president's attorney was shouting.
"The president doesn't want this! [1] You are not going to see the opinions. You are out . . . of . . . your . . . lane!"
Five government lawyers had gathered around a small conference table in the Justice Department command center. Four were expected. David S. Addington, counsel to Vice President Cheney, got wind of the meeting and invited himself.
If Addington smelled revolt, he was not far wrong. Unwelcome questions about warrantless domestic surveillance had begun to find their voice.
Cheney and his counsel would struggle for months to quash the legal insurgency. By the time President Bush became aware of it, his No. 2 had stoked dissent into flat-out rebellion. The president would face a dilemma, and the presidency itself a historic test. Cheney would come close to leading them off a cliff, man and office both [2].
On this second Monday in December 2003, Addington's targets were a pair of would-be auditors from the National Security Agency. He had displeasure to spare for their Justice Department hosts.
Perfect example, right here. A couple of NSA bureaucrats breeze in and ask for the most sensitive documents in the building. And Justice wants to tell them, Help yourselves? This was going to be a very short meeting.
Joel Brenner and Vito Potenza, the two men wilting under Addington's wrath, had driven 26 miles from Fort Meade, the NSA's eavesdropping headquarters in Maryland. They were conducting a review of their agency's two-year-old special surveillance operation. They already knew the really secret stuff [3]: The NSA and other services had been unleashed to turn their machinery inward, collecting signals intelligence inside the United States. What the two men didn't know was why the Bush administration believed the program was legal.
It was an awkward question. Potenza, the NSA's acting general counsel, and Brenner, its inspector general, were supposed to be the ones who kept their agency on the straight and narrow. That's what Cheney and their boss, Lt. Gen. Michael V. Hayden, told doubters among the very few people who knew what was going on. Cheney, who chaired briefings for select members of Congress, said repeatedly that the NSA's top law and ethics officers -- career public servants -- approved and supervised the surveillance program.
That was not exactly true, not without one of those silent asterisks that secretly flip a sentence on its tail. Every 45 days, after Justice Department review, Bush renewed his military order for warrantless eavesdropping. Brenner and Potenza told Hayden that the agency was entitled to rely on those orders [4]. The United States was at war with al-Qaeda, intelligence-gathering is inherent in war, and the Constitution appoints the president commander in chief.
But they had not been asked to give their own written assessments of the legality of domestic espionage. They based their answer in part on the attorney general's certification of the "form and legality" of the president's orders. Yet neither man had been allowed to see the program's codeword-classified legal analyses [5], which were prepared by John C. Yoo, Addington's close ally in the Justice Department's Office of Legal Counsel. Now they wanted to read Yoo's opinions for themselves [6].
"This is none of your business!" Addington exploded.
He was massive in his swivel chair, taut and still, potential energy amping up the menace. Addington's pugnacity was not an act. Nothing mattered more, as the vice president and his lawyer saw the world, than these new surveillance tools. Bush had made a decision. Debate could only blow the secret, slow down vital work, or call the president's constitutional prerogatives into question.
The NSA lawyers returned to their car empty-handed.
* * *
The command center of "the president's program," as Addington usually called it, was not in the White House. Its controlling documents, which gave strategic direction to the nation's largest spy agency, lived in a vault across an alley from the West Wing [7] -- in the Eisenhower Executive Office Building, on the east side of the second floor, where the vice president headquartered his staff.
The vault was in EEOB 268, Addington's office. Cheney's lawyer held the documents, physical and electronic, because he was the one who wrote them. New forms of domestic espionage were created and developed over time in presidential authorizations that Addington typed on a Tempest-shielded computer across from his desk [8].
It is unlikely that the history of U.S. intelligence includes another operation conceived and supervised by the office of the vice president. White House Chief of Staff Andrew H. Card Jr. had "no idea," he said, that the presidential orders were held in a vice presidential safe. An authoritative source said the staff secretariat, which kept a comprehensive inventory of presidential papers, classified and unclassified, possessed no record of these.
In an interview, Card said the Executive Office of the President, a formal term that encompassed Bush's staff but not Cheney's, followed strict procedures for handling and securing presidential papers.
"If there were exceptions to that, I'm not aware of them," he said. "If these documents weren't stored the right way or put in the right places or maintained by the right people, I'm not aware of it."
Asked why Addington would write presidential directives, Card said, "David Addington is a very competent lawyer." After a moment he added, "I would consider him a drafter, not the drafter [9]. I'm sure there were a lot of smart people who were involved in helping to look at the language and the law."
Not many, it turned out. Though the president had the formal say over who was "read in" to the domestic surveillance program, Addington controlled the list in practice, according to three officials with personal knowledge. White House counsel Alberto R. Gonzales was aware of the program, but was not a careful student of the complex legal questions it raised. In its first 18 months, the only other lawyer who reviewed the program was John Yoo.
By the time the NSA auditors came calling, a new man, Jack L. Goldsmith, was chief of the Justice Department's Office of Legal Counsel. Soon after he arrived on Oct. 6, 2003, the vice president's lawyer invited him to EEOB 268. Addington pulled out a folder with classification markings that Goldsmith had never seen [10].
"David Addington was doing all the legal work. All the important documents were kept in his safe [11]," Goldsmith recalled. "He was the one who first briefed me."
Goldsmith's new assignment gave him final word in the executive branch on what was legal and what was not. Addington had cleared him for the post -- "the biggest presence in the room," Goldsmith said, during a job interview ostensibly run by Gonzales.
Goldsmith did not have the looks of a guy who posed a threat to the Bush administration's alpha lawyer. A mild-mannered law professor from the University of Chicago, he was rumpled and self-conscious, easy to underestimate. On first impression, he gave off a misleading aura of softness. Goldsmith had lettered in football, baseball and soccer at the Pine Crest School in Fort Lauderdale, Fla., [12] spending his formative years with a mob-connected Teamster who married his mother [13]. He was not a bare-knuckled brawler in Addington's mold, but Goldsmith arrived at Justice with no less confidence and strength of will.
Addington's behavior with the NSA auditors was "a wake-up call for me," Goldsmith said. Cheney and Addington, he came to believe, were gaming the system, using secrecy and intimidation to prevent potential dissenters from conducting an independent review.
"They were geniuses at this," Goldsmith said. "They could divide up all these problems in the bureaucracy, ask different people to decide things in their lanes, control the facts they gave them, and then put the answers together to get the result they want."
Dec. 9, 2003, the day of the visit from Brenner and Potenza, was the beginning of the end of that strategy. The years of easy victory were winding down for Cheney and his staff.
* * *
Goldsmith began a top-to-bottom review of the domestic surveillance program, taking up the work begun by a lawyer named Patrick F. Philbin after John Yoo left the department. Like Yoo and Goldsmith, Philbin had walked the stations of the conservative legal establishment: Federalist Society, a clerkship with U.S. Circuit Judge Laurence H. Silberman, another with Supreme Court Justice Clarence Thomas.
The more questions they asked, the less Goldsmith and Philbin liked the answers. Parts of the program fell easily within the constitutional powers of the commander in chief. Others looked dicier.
The two lawyers worked at the intersection of three complex systems: telecommunications, spy technology, and the statutory regimes that governed surveillance. After a few weeks, Goldsmith said, he decided the program "was the biggest legal mess I'd seen in my life."
He asked for permission to read in Attorney General John D. Ashcroft's new deputy, James B. Comey [14]. As always, he found Addington waiting with Gonzales in the White House counsel's corner office, one floor up from the chief of staff. They sat in parallel wing chairs, much as Bush and Cheney did in the Oval Office.
"The attorney general and I think the deputy attorney general should be read in," Goldsmith said.
Addington replied first.
"Forget it," he said.
"The president insists on strict limitations on access to the program," Gonzales agreed.
Weeks passed. Goldsmith kept asking. Addington kept saying no.
"He always invoked the president, not the vice president," Goldsmith said [15].
Comey was not exactly Mr. Popular at 1600 Pennsylvania Ave. He had arrived at Justice as a 6-foot-8 golden boy, smooth and polished, with top chops as a federal terrorism prosecutor in Northern Virginia and New York City. Then came Dec. 30, 2003. Comey did something unforgivable: He appointed an independent counsel to investigate the leak of Valerie Plame's identity as a clandestine CIA officer, a move that would bring no end of grief for Cheney.
In late January, Goldsmith and Addington cut a deal. Comey would get his read-in. Goldsmith would get off the fence about the program, giving his definitive answer by the March 11 deadline.
"You're the head of the Office of Legal Counsel, and if you say we cannot do this thing legally, we'll shut it off," Addington told him [16].
Feel free to tell the president that his most important intelligence operation has to stop.
Your call, Jack.
Goldsmith wanted to fix the thing, not stop it. He and Philbin traveled again and again to Fort Meade, each time delving deeper. They were in and out of Gonzales's office, looking for adjustments in the program that would bring it into compliance with the law. The issues were complex and remain classified. Addington bent on nothing, swatting back every idea. Gonzales listened placidly, sipping Diet Cokes from his little refrigerator, encouraging the antagonists to keep things civil.
There would be no easy out, no middle ground. Addington made clear that he did not believe for a moment that Justice would pull the plug.
* * *
Mike Hayden and Vito Potenza drove down from NSA headquarters after lunch on Feb. 19, 2004, to give Jim Comey his first briefing on the program. In the Justice Department's vault-like SCIF, a sensitive compartmented information facility, Hayden got Comey's attention fast.
"I'm so glad you're getting read in, because now I won't be alone at the table when John Kerry is elected president," the NSA director said [17].
The witness table, Hayden meant. Congressional hearing, investigation of some kind. Nothing good. Kerry had the Democratic nomination just about locked up and was leading Bush in national polls. Hardly anyone in the intelligence field believed the next administration would climb as far out on a legal limb as this one had.
"Hayden was all dog-and-pony, and this is probably what happened to those poor folks in Congress, too," Comey told his chief of staff after the briefing. "You think for a second, 'Wow, that's great,' and then if you try actually to explain it back to yourself, you don't get it. You scratch your head afterward and you think, 'What the hell did that guy just tell me?' "
The NSA chief insisted on limiting surveillance to e-mails, phone calls and faxes in which one party was overseas, deflecting arguments from Cheney and Addington that he could just as well collect communications inside the United States.
That was one reason Hayden hated when reporters referred to "domestic surveillance." He made his point with a folksy analogy: He had taken "literally hundreds of domestic flights," he said, and never "landed in Waziristan." That sounded good. But the surveillance statutes said a warrant was required if either end of the conversation was in U.S. territory. The American side of the program -- the domestic surveillance -- was its distinguishing feature.
By the end of February, Goldsmith and Philbin had reached their conclusion: Parts of the surveillance operation had no support in law. Comey was so disturbed that he drove to Langley one evening to compare notes with Scott W. Muller, the general counsel at the CIA. Muller "got it immediately," agreeing with the Goldsmith-Philbin analysis, Comey said.
"At the end of the day, I concluded something I didn't ever think I would conclude, and that is that Pat Philbin and Jack Goldsmith understood this activity much better than Michael Hayden did," he said.
On Thursday, March 4, Comey brought the findings to Ashcroft, conferring for an hour one-on-one. Three senior Justice Department officials said in interviews that Ashcroft gave his full backing. He was not going to sign the next presidential order -- due in one week, March 11 -- unless the White House agreed to a list of required changes.
* * *
A few hours later, Ashcroft was reviewing notes for a news conference in Alexandria when his color changed and he sat down heavily. An aide, Mark Corallo, ducked out and returned to find the attorney general laid out on his back. By nightfall, Ashcroft was taken to George Washington University Medical Center in severe pain, suffering acute gallstone pancreatitis. Comey became acting attorney general on Friday.
The next day -- Saturday, March 6, five days before the March 11 deadline -- Goldsmith brought the Justice Department verdict to the White House. He told Gonzales and Addington for the first time that Justice would not certify the program.
A long silence fell. It lasted three full days.
Gonzales phoned Goldsmith at home before sunrise on Tuesday, March 9, with two days left before the program expired. Obviously there was bad chemistry with Addington. Why not come in and talk, he asked, just the two of us?
Goldsmith arrived at the White House in morning twilight. Alone in his office, Gonzales begged the OLC chief to reconsider. Gonzales tried to dispute Goldsmith's analysis, but he was in over his head. At least let us have more time, he said. Goldsmith said he couldn't do that.
The time had come for the vice president to step in. Proxies were not getting the job done. Cheney was going to have to take hold of this thing himself.
Even now, after months of debate, Cheney did not enlist the president. Bush was across the river in Arlington, commending the winners of the Malcolm Baldrige awards for quality improvement in private industry [18]. Campaign season had come already, and the president was doing a lot of that kind of thing. That week he had a fundraiser in Dallas, a "Bush-Cheney 2004 event" in Santa Clara, Calif., and a meet-and-greet at a rodeo in Houston.
Soon after hearing what had happened between Goldsmith and Gonzales, the vice president asked Andy Card to set up a meeting at noon with Mike Hayden, FBI Director Robert S. Mueller III, and John McLaughlin from the CIA (substituting for his boss, George J. Tenet). Cheney spoke to them in Card's office, the door closed.
Four hours later, at 4 p.m., the same cast reconvened. This time the Justice contingent was invited. Comey, Goldsmith and Philbin found the titans of the intelligence establishment lined up, a bunch of grave-faced analysts behind them for added mass. The spy chiefs brought no lawyers. The law was not the point. This meeting, described by officials with access to two sets of contemporaneous notes, was about telling Justice to set its qualms aside.
The staging had been arranged for maximum impact. Cheney sat at the head of Card's rectangular table, pivoting left to face the acting attorney general. The two men were close enough to touch. Card sat grimly at Cheney's right, directly across from Comey. There was plenty of eye contact all around.
This program, Cheney said, was vital. Turning it off would leave us blind. Hayden, the NSA chief, pitched in: Even if the program had yet to produce blockbuster results, it was the only real hope of discovering sleeper agents before they could act.
"How can you possibly be reversing course on something of this importance after all this time?" Cheney asked [19].
Comey held his ground. The program had to operate within the law. The Justice Department knew a lot more now than it had before, and Ashcroft and Comey had reached this decision together.
"I will accept for purposes of discussion that it is as valuable as you say it is," Comey said. "That only makes this more painful. It doesn't change the analysis. If I can't find a lawful basis for something, your telling me you really, really need to do it doesn't help me."
"Others see it differently," Cheney said.
There was only one of those, really. John Yoo had been out of the picture for nearly a year. It was all Addington.
"The analysis is flawed, in fact facially flawed," Comey said. "No lawyer reading that could reasonably rely on it."
Gonzales said nothing. Addington stood by the window, over Cheney's shoulder. He had heard a bellyful.
"Well, I'm a lawyer and I did," Addington said, glaring at Comey.
"No good lawyer," Comey said [20].
In for a dime, in for a dollar.
Addington started disputing the particulars. Now he was on Jack Goldsmith's turf. From across the room the head of the Office of Legal Counsel jumped in. And right there in front of the big guys, the two of them bickered in the snarly tones of a couple who knew all of each other's lines.
* * *
As the sun went down on Tuesday, March 9, the president of the United States had yet to learn that his Justice Department was heading off the rails. A train wreck was coming, but Cheney wanted to handle it. Neither Card nor Gonzales was in the habit of telling him no.
"I don't think it would be appropriate for the president to be engaged in the to-and-fro until it is, you know, penultimate," Card said in a recent interview [21]. "I guess the definition of 'penultimate' could vary from four steps to three steps to two steps to one step. That's why you have White House counsel and people who do the legal work."
Participants in the afternoon meeting, including some of Cheney's recruits, left the room shaken. Mueller worked for the attorney general, and the FBI's central mission was to "uphold and enforce the criminal laws of the United States." Hayden's neck, and his agency, were on the line. The NSA director believed in the program, believed he was doing the right thing. But keep on going when the Justice Department said no?
Early the next morning -- Wednesday, March 10, with 24 hours to deadline -- Hayden was back in the White House. One colleague saw him conferring in worried whispers with Homeland Security adviser John A. Gordon, a mentor and fellow Air Force general, much the senior of the two. They huddled in the West Wing lobby, Hayden on a love seat and Gordon in a chair [22].
Jim Comey was in the White House that morning, too, arriving early for the president's regular 8:30 terrorism brief. He had heard nothing since the discouraging meeting the day before.
Comey found Frances Fragos Townsend, an old friend, waiting just outside the Oval Office, standing by the appointment secretary's desk. She was Bush's deputy national security adviser for combating terrorism. Comey had known her since their days as New York mob prosecutors in the 1980s. Since then, Townsend had run the Justice Department's intelligence office. She lived and breathed surveillance law.
Comey took a chance. He pulled her back out to the hallway between the Roosevelt Room and the Cabinet Room.
"If I say a word, would you tell me whether you recognize it?" he asked quietly.
He did. She didn't. The program's classified code name left her blank. Comey tried to talk around the subject.
"I think this is something I am not a part of," Townsend said [23]. "I can't have this conversation." Like John Gordon and deputy national security adviser Steven J. Hadley and Homeland Security Secretary Tom Ridge, she was out of the loop [24].
Oh, God, Comey remembers thinking. They've held this so tight. Even Fran Townsend. The president's counterterrorism adviser is not read in? Comey towered over his diminutive friend. He chose his words carefully.
"I need to know," he said, "whether your boss recognizes that word, and whether she's read in on a particular program. Because we had a meeting here yesterday on that topic that I would have expected her to be at."
He meant national security adviser Condoleezza Rice. Comey was hoping for an ally, or maybe rescue.
"I felt very alone, with some justification," Comey recalled. "The attorney general is in intensive care. There's a train coming down the tracks that's about to run me and my career and the Department of Justice over. I was exploring every way to get off the tracks I could."
Townsend had a pretty good guess about what was on Comey's mind. Cheney had kept her out of the loop, but it was hard to hide a warrantless domestic surveillance program completely from the president's chief terrorism adviser.
"I'm not the right person to talk to," she told her friend, her voice close to a whisper. Comey ought to go see Rice.
"I'm going to tell her you've got concerns," Townsend said.
Comey's concerns no longer interested Cheney. The vice president had tried to back him down. That didn't work.
Only one day remained before the surveillance program expired. Time for Cheney to take the fight somewhere else.
By Barton Gellman
A burst of ferocity stunned the room into silence. No other word for it: The vice president's attorney was shouting.
"The president doesn't want this! [1] You are not going to see the opinions. You are out . . . of . . . your . . . lane!"
Five government lawyers had gathered around a small conference table in the Justice Department command center. Four were expected. David S. Addington, counsel to Vice President Cheney, got wind of the meeting and invited himself.
If Addington smelled revolt, he was not far wrong. Unwelcome questions about warrantless domestic surveillance had begun to find their voice.
Cheney and his counsel would struggle for months to quash the legal insurgency. By the time President Bush became aware of it, his No. 2 had stoked dissent into flat-out rebellion. The president would face a dilemma, and the presidency itself a historic test. Cheney would come close to leading them off a cliff, man and office both [2].
On this second Monday in December 2003, Addington's targets were a pair of would-be auditors from the National Security Agency. He had displeasure to spare for their Justice Department hosts.
Perfect example, right here. A couple of NSA bureaucrats breeze in and ask for the most sensitive documents in the building. And Justice wants to tell them, Help yourselves? This was going to be a very short meeting.
Joel Brenner and Vito Potenza, the two men wilting under Addington's wrath, had driven 26 miles from Fort Meade, the NSA's eavesdropping headquarters in Maryland. They were conducting a review of their agency's two-year-old special surveillance operation. They already knew the really secret stuff [3]: The NSA and other services had been unleashed to turn their machinery inward, collecting signals intelligence inside the United States. What the two men didn't know was why the Bush administration believed the program was legal.
It was an awkward question. Potenza, the NSA's acting general counsel, and Brenner, its inspector general, were supposed to be the ones who kept their agency on the straight and narrow. That's what Cheney and their boss, Lt. Gen. Michael V. Hayden, told doubters among the very few people who knew what was going on. Cheney, who chaired briefings for select members of Congress, said repeatedly that the NSA's top law and ethics officers -- career public servants -- approved and supervised the surveillance program.
That was not exactly true, not without one of those silent asterisks that secretly flip a sentence on its tail. Every 45 days, after Justice Department review, Bush renewed his military order for warrantless eavesdropping. Brenner and Potenza told Hayden that the agency was entitled to rely on those orders [4]. The United States was at war with al-Qaeda, intelligence-gathering is inherent in war, and the Constitution appoints the president commander in chief.
But they had not been asked to give their own written assessments of the legality of domestic espionage. They based their answer in part on the attorney general's certification of the "form and legality" of the president's orders. Yet neither man had been allowed to see the program's codeword-classified legal analyses [5], which were prepared by John C. Yoo, Addington's close ally in the Justice Department's Office of Legal Counsel. Now they wanted to read Yoo's opinions for themselves [6].
"This is none of your business!" Addington exploded.
He was massive in his swivel chair, taut and still, potential energy amping up the menace. Addington's pugnacity was not an act. Nothing mattered more, as the vice president and his lawyer saw the world, than these new surveillance tools. Bush had made a decision. Debate could only blow the secret, slow down vital work, or call the president's constitutional prerogatives into question.
The NSA lawyers returned to their car empty-handed.
* * *
The command center of "the president's program," as Addington usually called it, was not in the White House. Its controlling documents, which gave strategic direction to the nation's largest spy agency, lived in a vault across an alley from the West Wing [7] -- in the Eisenhower Executive Office Building, on the east side of the second floor, where the vice president headquartered his staff.
The vault was in EEOB 268, Addington's office. Cheney's lawyer held the documents, physical and electronic, because he was the one who wrote them. New forms of domestic espionage were created and developed over time in presidential authorizations that Addington typed on a Tempest-shielded computer across from his desk [8].
It is unlikely that the history of U.S. intelligence includes another operation conceived and supervised by the office of the vice president. White House Chief of Staff Andrew H. Card Jr. had "no idea," he said, that the presidential orders were held in a vice presidential safe. An authoritative source said the staff secretariat, which kept a comprehensive inventory of presidential papers, classified and unclassified, possessed no record of these.
In an interview, Card said the Executive Office of the President, a formal term that encompassed Bush's staff but not Cheney's, followed strict procedures for handling and securing presidential papers.
"If there were exceptions to that, I'm not aware of them," he said. "If these documents weren't stored the right way or put in the right places or maintained by the right people, I'm not aware of it."
Asked why Addington would write presidential directives, Card said, "David Addington is a very competent lawyer." After a moment he added, "I would consider him a drafter, not the drafter [9]. I'm sure there were a lot of smart people who were involved in helping to look at the language and the law."
Not many, it turned out. Though the president had the formal say over who was "read in" to the domestic surveillance program, Addington controlled the list in practice, according to three officials with personal knowledge. White House counsel Alberto R. Gonzales was aware of the program, but was not a careful student of the complex legal questions it raised. In its first 18 months, the only other lawyer who reviewed the program was John Yoo.
By the time the NSA auditors came calling, a new man, Jack L. Goldsmith, was chief of the Justice Department's Office of Legal Counsel. Soon after he arrived on Oct. 6, 2003, the vice president's lawyer invited him to EEOB 268. Addington pulled out a folder with classification markings that Goldsmith had never seen [10].
"David Addington was doing all the legal work. All the important documents were kept in his safe [11]," Goldsmith recalled. "He was the one who first briefed me."
Goldsmith's new assignment gave him final word in the executive branch on what was legal and what was not. Addington had cleared him for the post -- "the biggest presence in the room," Goldsmith said, during a job interview ostensibly run by Gonzales.
Goldsmith did not have the looks of a guy who posed a threat to the Bush administration's alpha lawyer. A mild-mannered law professor from the University of Chicago, he was rumpled and self-conscious, easy to underestimate. On first impression, he gave off a misleading aura of softness. Goldsmith had lettered in football, baseball and soccer at the Pine Crest School in Fort Lauderdale, Fla., [12] spending his formative years with a mob-connected Teamster who married his mother [13]. He was not a bare-knuckled brawler in Addington's mold, but Goldsmith arrived at Justice with no less confidence and strength of will.
Addington's behavior with the NSA auditors was "a wake-up call for me," Goldsmith said. Cheney and Addington, he came to believe, were gaming the system, using secrecy and intimidation to prevent potential dissenters from conducting an independent review.
"They were geniuses at this," Goldsmith said. "They could divide up all these problems in the bureaucracy, ask different people to decide things in their lanes, control the facts they gave them, and then put the answers together to get the result they want."
Dec. 9, 2003, the day of the visit from Brenner and Potenza, was the beginning of the end of that strategy. The years of easy victory were winding down for Cheney and his staff.
* * *
Goldsmith began a top-to-bottom review of the domestic surveillance program, taking up the work begun by a lawyer named Patrick F. Philbin after John Yoo left the department. Like Yoo and Goldsmith, Philbin had walked the stations of the conservative legal establishment: Federalist Society, a clerkship with U.S. Circuit Judge Laurence H. Silberman, another with Supreme Court Justice Clarence Thomas.
The more questions they asked, the less Goldsmith and Philbin liked the answers. Parts of the program fell easily within the constitutional powers of the commander in chief. Others looked dicier.
The two lawyers worked at the intersection of three complex systems: telecommunications, spy technology, and the statutory regimes that governed surveillance. After a few weeks, Goldsmith said, he decided the program "was the biggest legal mess I'd seen in my life."
He asked for permission to read in Attorney General John D. Ashcroft's new deputy, James B. Comey [14]. As always, he found Addington waiting with Gonzales in the White House counsel's corner office, one floor up from the chief of staff. They sat in parallel wing chairs, much as Bush and Cheney did in the Oval Office.
"The attorney general and I think the deputy attorney general should be read in," Goldsmith said.
Addington replied first.
"Forget it," he said.
"The president insists on strict limitations on access to the program," Gonzales agreed.
Weeks passed. Goldsmith kept asking. Addington kept saying no.
"He always invoked the president, not the vice president," Goldsmith said [15].
Comey was not exactly Mr. Popular at 1600 Pennsylvania Ave. He had arrived at Justice as a 6-foot-8 golden boy, smooth and polished, with top chops as a federal terrorism prosecutor in Northern Virginia and New York City. Then came Dec. 30, 2003. Comey did something unforgivable: He appointed an independent counsel to investigate the leak of Valerie Plame's identity as a clandestine CIA officer, a move that would bring no end of grief for Cheney.
In late January, Goldsmith and Addington cut a deal. Comey would get his read-in. Goldsmith would get off the fence about the program, giving his definitive answer by the March 11 deadline.
"You're the head of the Office of Legal Counsel, and if you say we cannot do this thing legally, we'll shut it off," Addington told him [16].
Feel free to tell the president that his most important intelligence operation has to stop.
Your call, Jack.
Goldsmith wanted to fix the thing, not stop it. He and Philbin traveled again and again to Fort Meade, each time delving deeper. They were in and out of Gonzales's office, looking for adjustments in the program that would bring it into compliance with the law. The issues were complex and remain classified. Addington bent on nothing, swatting back every idea. Gonzales listened placidly, sipping Diet Cokes from his little refrigerator, encouraging the antagonists to keep things civil.
There would be no easy out, no middle ground. Addington made clear that he did not believe for a moment that Justice would pull the plug.
* * *
Mike Hayden and Vito Potenza drove down from NSA headquarters after lunch on Feb. 19, 2004, to give Jim Comey his first briefing on the program. In the Justice Department's vault-like SCIF, a sensitive compartmented information facility, Hayden got Comey's attention fast.
"I'm so glad you're getting read in, because now I won't be alone at the table when John Kerry is elected president," the NSA director said [17].
The witness table, Hayden meant. Congressional hearing, investigation of some kind. Nothing good. Kerry had the Democratic nomination just about locked up and was leading Bush in national polls. Hardly anyone in the intelligence field believed the next administration would climb as far out on a legal limb as this one had.
"Hayden was all dog-and-pony, and this is probably what happened to those poor folks in Congress, too," Comey told his chief of staff after the briefing. "You think for a second, 'Wow, that's great,' and then if you try actually to explain it back to yourself, you don't get it. You scratch your head afterward and you think, 'What the hell did that guy just tell me?' "
The NSA chief insisted on limiting surveillance to e-mails, phone calls and faxes in which one party was overseas, deflecting arguments from Cheney and Addington that he could just as well collect communications inside the United States.
That was one reason Hayden hated when reporters referred to "domestic surveillance." He made his point with a folksy analogy: He had taken "literally hundreds of domestic flights," he said, and never "landed in Waziristan." That sounded good. But the surveillance statutes said a warrant was required if either end of the conversation was in U.S. territory. The American side of the program -- the domestic surveillance -- was its distinguishing feature.
By the end of February, Goldsmith and Philbin had reached their conclusion: Parts of the surveillance operation had no support in law. Comey was so disturbed that he drove to Langley one evening to compare notes with Scott W. Muller, the general counsel at the CIA. Muller "got it immediately," agreeing with the Goldsmith-Philbin analysis, Comey said.
"At the end of the day, I concluded something I didn't ever think I would conclude, and that is that Pat Philbin and Jack Goldsmith understood this activity much better than Michael Hayden did," he said.
On Thursday, March 4, Comey brought the findings to Ashcroft, conferring for an hour one-on-one. Three senior Justice Department officials said in interviews that Ashcroft gave his full backing. He was not going to sign the next presidential order -- due in one week, March 11 -- unless the White House agreed to a list of required changes.
* * *
A few hours later, Ashcroft was reviewing notes for a news conference in Alexandria when his color changed and he sat down heavily. An aide, Mark Corallo, ducked out and returned to find the attorney general laid out on his back. By nightfall, Ashcroft was taken to George Washington University Medical Center in severe pain, suffering acute gallstone pancreatitis. Comey became acting attorney general on Friday.
The next day -- Saturday, March 6, five days before the March 11 deadline -- Goldsmith brought the Justice Department verdict to the White House. He told Gonzales and Addington for the first time that Justice would not certify the program.
A long silence fell. It lasted three full days.
Gonzales phoned Goldsmith at home before sunrise on Tuesday, March 9, with two days left before the program expired. Obviously there was bad chemistry with Addington. Why not come in and talk, he asked, just the two of us?
Goldsmith arrived at the White House in morning twilight. Alone in his office, Gonzales begged the OLC chief to reconsider. Gonzales tried to dispute Goldsmith's analysis, but he was in over his head. At least let us have more time, he said. Goldsmith said he couldn't do that.
The time had come for the vice president to step in. Proxies were not getting the job done. Cheney was going to have to take hold of this thing himself.
Even now, after months of debate, Cheney did not enlist the president. Bush was across the river in Arlington, commending the winners of the Malcolm Baldrige awards for quality improvement in private industry [18]. Campaign season had come already, and the president was doing a lot of that kind of thing. That week he had a fundraiser in Dallas, a "Bush-Cheney 2004 event" in Santa Clara, Calif., and a meet-and-greet at a rodeo in Houston.
Soon after hearing what had happened between Goldsmith and Gonzales, the vice president asked Andy Card to set up a meeting at noon with Mike Hayden, FBI Director Robert S. Mueller III, and John McLaughlin from the CIA (substituting for his boss, George J. Tenet). Cheney spoke to them in Card's office, the door closed.
Four hours later, at 4 p.m., the same cast reconvened. This time the Justice contingent was invited. Comey, Goldsmith and Philbin found the titans of the intelligence establishment lined up, a bunch of grave-faced analysts behind them for added mass. The spy chiefs brought no lawyers. The law was not the point. This meeting, described by officials with access to two sets of contemporaneous notes, was about telling Justice to set its qualms aside.
The staging had been arranged for maximum impact. Cheney sat at the head of Card's rectangular table, pivoting left to face the acting attorney general. The two men were close enough to touch. Card sat grimly at Cheney's right, directly across from Comey. There was plenty of eye contact all around.
This program, Cheney said, was vital. Turning it off would leave us blind. Hayden, the NSA chief, pitched in: Even if the program had yet to produce blockbuster results, it was the only real hope of discovering sleeper agents before they could act.
"How can you possibly be reversing course on something of this importance after all this time?" Cheney asked [19].
Comey held his ground. The program had to operate within the law. The Justice Department knew a lot more now than it had before, and Ashcroft and Comey had reached this decision together.
"I will accept for purposes of discussion that it is as valuable as you say it is," Comey said. "That only makes this more painful. It doesn't change the analysis. If I can't find a lawful basis for something, your telling me you really, really need to do it doesn't help me."
"Others see it differently," Cheney said.
There was only one of those, really. John Yoo had been out of the picture for nearly a year. It was all Addington.
"The analysis is flawed, in fact facially flawed," Comey said. "No lawyer reading that could reasonably rely on it."
Gonzales said nothing. Addington stood by the window, over Cheney's shoulder. He had heard a bellyful.
"Well, I'm a lawyer and I did," Addington said, glaring at Comey.
"No good lawyer," Comey said [20].
In for a dime, in for a dollar.
Addington started disputing the particulars. Now he was on Jack Goldsmith's turf. From across the room the head of the Office of Legal Counsel jumped in. And right there in front of the big guys, the two of them bickered in the snarly tones of a couple who knew all of each other's lines.
* * *
As the sun went down on Tuesday, March 9, the president of the United States had yet to learn that his Justice Department was heading off the rails. A train wreck was coming, but Cheney wanted to handle it. Neither Card nor Gonzales was in the habit of telling him no.
"I don't think it would be appropriate for the president to be engaged in the to-and-fro until it is, you know, penultimate," Card said in a recent interview [21]. "I guess the definition of 'penultimate' could vary from four steps to three steps to two steps to one step. That's why you have White House counsel and people who do the legal work."
Participants in the afternoon meeting, including some of Cheney's recruits, left the room shaken. Mueller worked for the attorney general, and the FBI's central mission was to "uphold and enforce the criminal laws of the United States." Hayden's neck, and his agency, were on the line. The NSA director believed in the program, believed he was doing the right thing. But keep on going when the Justice Department said no?
Early the next morning -- Wednesday, March 10, with 24 hours to deadline -- Hayden was back in the White House. One colleague saw him conferring in worried whispers with Homeland Security adviser John A. Gordon, a mentor and fellow Air Force general, much the senior of the two. They huddled in the West Wing lobby, Hayden on a love seat and Gordon in a chair [22].
Jim Comey was in the White House that morning, too, arriving early for the president's regular 8:30 terrorism brief. He had heard nothing since the discouraging meeting the day before.
Comey found Frances Fragos Townsend, an old friend, waiting just outside the Oval Office, standing by the appointment secretary's desk. She was Bush's deputy national security adviser for combating terrorism. Comey had known her since their days as New York mob prosecutors in the 1980s. Since then, Townsend had run the Justice Department's intelligence office. She lived and breathed surveillance law.
Comey took a chance. He pulled her back out to the hallway between the Roosevelt Room and the Cabinet Room.
"If I say a word, would you tell me whether you recognize it?" he asked quietly.
He did. She didn't. The program's classified code name left her blank. Comey tried to talk around the subject.
"I think this is something I am not a part of," Townsend said [23]. "I can't have this conversation." Like John Gordon and deputy national security adviser Steven J. Hadley and Homeland Security Secretary Tom Ridge, she was out of the loop [24].
Oh, God, Comey remembers thinking. They've held this so tight. Even Fran Townsend. The president's counterterrorism adviser is not read in? Comey towered over his diminutive friend. He chose his words carefully.
"I need to know," he said, "whether your boss recognizes that word, and whether she's read in on a particular program. Because we had a meeting here yesterday on that topic that I would have expected her to be at."
He meant national security adviser Condoleezza Rice. Comey was hoping for an ally, or maybe rescue.
"I felt very alone, with some justification," Comey recalled. "The attorney general is in intensive care. There's a train coming down the tracks that's about to run me and my career and the Department of Justice over. I was exploring every way to get off the tracks I could."
Townsend had a pretty good guess about what was on Comey's mind. Cheney had kept her out of the loop, but it was hard to hide a warrantless domestic surveillance program completely from the president's chief terrorism adviser.
"I'm not the right person to talk to," she told her friend, her voice close to a whisper. Comey ought to go see Rice.
"I'm going to tell her you've got concerns," Townsend said.
Comey's concerns no longer interested Cheney. The vice president had tried to back him down. That didn't work.
Only one day remained before the surveillance program expired. Time for Cheney to take the fight somewhere else.
The Drug War's Latest Tally: 872,721 Pot Arrests, an All-Time High
Go to Original
By Paul Armentano
By Paul Armentano
If denial is the first sign of addiction, then Drug Czar John Walters is hooked to the gills. He’s addicted to targeting and arresting marijuana consumers, and he’ll do and say anything to keep this irrational and punitive policy in place.
Speaking earlier this month on C-Span, the reigning Czar stretched his usual deceit to outrageous new heights. Responding to a question from the Marijuana Policy Project’s Dan Bernath, Walters flatly denied the charge that over 800,000 Americans are arrested annually for violating pot laws.
"We didn’t arrest 800,000 marijuana users," Walters proclaimed. "That’s [a] lie."
If only it were.
According to data released yesterday in the FBI’s annual Uniform Crime Report, police in 2007 arrested over 872,000 US citizens - that’s nearly one out of every two Americans busted for illicit drugs -- for weed. (The raw data is available from the US Federal Bureau of Investigation here and here.) That figure is a five percent increase over the total number of Americans busted in 2006. It’s more than three times the number of citizens charged with pot violations sixteen years ago.
Of those arrested in 2007, 89 percent - some 775,000 Americans -- were charged with simple pot possession, not trafficking, cultivation, or sale. (By comparison, 27 percent of those arrested for heroin and cocaine offenses were charged with sales.) Three out of four were under age 30; one in four were 18-years-old or younger.
The FBI’s tally is the highest marijuana arrest total ever-reported in law enforcement history. If this pace continues, annual arrests for pot will surpass one million per year by 2010.
But to hear America’s top drug cop tell it few, if any, citizens are ever arrested for pot possession, and absolutely no one goes to jail for breaking marijuana laws.
"The fact is today, people don’t go to jail for the possession of marijuana," Walters alleged on C-Span. "Finding somebody in jail or prison for possession of marijuana is like finding a unicorn. It doesn’t exist."
Not true says the U.S. Department of Justice’s Bureau of Justice Statistics, which reported last year in black and white -- perhaps the Drug Czar is reading impaired - that 12.7 percent of state inmates and 12.4 percent of federal inmates incarcerated for drug abuse violations are serving time for marijuana offenses. Combining these percentages with separate U.S. Department of Justice statistics on the total number of state and federal drug prisoners suggests that, at a minimum, there are now about 33,655 state inmates and 10,785 federal inmates behind bars for marijuana offenses. (The report failed to include estimates on the percentage of inmates incarcerated in county or local jails for pot-related offenses, nor did it take into account the number of inmates serving time for violating the terms of their marijuana-related probation, such as those who submitted a ’dirty’ urine to their parole officer.)
No matter how one slices it, that’s a lot of unicorns.
It also begs the question: Why does the Drug Czar feel the need to go to such absurd lengths to hide this overt outgrowth of American drug policy? After all, the US Drug Enforcement Administration and the White House Office of National Drug Control Policy typically issue chest-thumping press releases when they achieve record busts for offenses involving cocaine, heroin, and methamphetamine? Why then do they shy away from making similar proclamations for pot?
Perhaps it’s because, deep down, even the Drug Czar knows that the use of cannabis does not pose anywhere near the health and safety threat as does the use of other intoxicants, including alcohol, and that most Americans - rightly - would be outraged to learn that our nation’s so-called war on drugs is really just an assault on young adults caught with small bags of weed.
More US corporate bailouts on the way
Go to Original
By Barry Grey
The US government, brushing aside its constant invocations of “private enterprise,” has dispensed hundreds of billions of dollars in cheap loans to prop up the banks. Last March, the Federal Reserve Board paid JP Morgan Chase $29 billion to take over the investment bank Bear Stearns when Bear was on the verge of declaring bankruptcy.
Only a week ago, the US Treasury committed at least $200 billion in taxpayer funds in the government takeover of Fannie Mae and Freddie Mac—a move that makes the government responsible for the two companies’ combined $5.3 trillion in mortgage liabilities.
The claims that the government, in allowing Lehman Brothers to collapse, has “drawn the line” on further taxpayer bailouts of failing corporations are false. The government decided to let Lehman fail, in part, to conserve the dwindling funds at the disposal of the Federal Reserve and calibrate hand-outs from the Treasury—which faces record budget and trade deficits and a soaring national debt—to be used to rescue more strategic companies.
The Fed has reportedly agreed to widen its bailout of Wall Street by accepting, in return for low-cost loans to both commercial and investment banks, even more dubious forms of collateral, including shares of stock whose value has collapsed and mortgage-backed securities that can be sold on the market only for pennies on the dollar.
There are growing calls on Wall Street and in the financial press for the government to directly buy the near-worthless subprime mortgage-backed securities and other collapsing credit instruments that are undermining the balance sheets of major financial companies. With the government takeover of Fannie Mae and Freddie Mac—which was sanctioned in advance by the Democratic Congress—the legal and structural framework is in place for this wholesale government bailout of the banking system.
By Barry Grey
The US government, brushing aside its constant invocations of “private enterprise,” has dispensed hundreds of billions of dollars in cheap loans to prop up the banks. Last March, the Federal Reserve Board paid JP Morgan Chase $29 billion to take over the investment bank Bear Stearns when Bear was on the verge of declaring bankruptcy.
Only a week ago, the US Treasury committed at least $200 billion in taxpayer funds in the government takeover of Fannie Mae and Freddie Mac—a move that makes the government responsible for the two companies’ combined $5.3 trillion in mortgage liabilities.
The claims that the government, in allowing Lehman Brothers to collapse, has “drawn the line” on further taxpayer bailouts of failing corporations are false. The government decided to let Lehman fail, in part, to conserve the dwindling funds at the disposal of the Federal Reserve and calibrate hand-outs from the Treasury—which faces record budget and trade deficits and a soaring national debt—to be used to rescue more strategic companies.
The Fed has reportedly agreed to widen its bailout of Wall Street by accepting, in return for low-cost loans to both commercial and investment banks, even more dubious forms of collateral, including shares of stock whose value has collapsed and mortgage-backed securities that can be sold on the market only for pennies on the dollar.
There are growing calls on Wall Street and in the financial press for the government to directly buy the near-worthless subprime mortgage-backed securities and other collapsing credit instruments that are undermining the balance sheets of major financial companies. With the government takeover of Fannie Mae and Freddie Mac—which was sanctioned in advance by the Democratic Congress—the legal and structural framework is in place for this wholesale government bailout of the banking system.
The Wall Street crisis and the failure of American capitalism
Go to Original
By Barry Grey
The end of Lehman Brothers and Merrill Lynch, two of the largest Wall Street investment banks, one week after the government takeover of the mortgage finance giants Fannie Mae and Freddie Mac, marks a new stage in the convulsive crisis of American capitalism.
On Monday, global markets fell sharply in a sign of mounting panic and doubt over the stability of the entire US banking system. Throughout Europe stock markets plunged by as much as 4 percent.
The fall on Wall Street was even steeper, with the Dow Jones Industrial Average losing 504 points, or 4.42 percent. There is every indication that the sell-off will intensify, with the full implications of the collapse of the two Wall Street banks as yet far from clear.
The immediate concern is the fate of American International Group (AIG), the world’s largest insurance company, and Washington Mutual, the largest savings and loan bank in the US, both of which are teetering on bankruptcy.
The sudden demise of Lehman Brothers and Merrill Lynch has removed a huge amount of liquidity from the economy, as paper values built up over decades of speculation come crashing down. This is capital that is needed to finance business operations, and its elimination will inevitably depress economic activity, fueling unemployment and recession, further undermining home prices and consumer spending, and further weakening the balance sheets of already financially shaken banks.
A sea change is unfolding in the US and world economy that portends a catastrophe of dimensions not seen since the Great Depression of the 1930s.
The fall of icons of American capitalism such as 158-year-old Lehman Brothers and 94-year-old Merrill Lynch can only lead to the further discrediting of the “free market” ideology of the US ruling elite, as well as its political and economic system. The spectacle of giants of capitalism drowning in debt piled up over decades of reckless speculation must inevitably discredit the social class—the American capitalist class—which is responsible for the debacle.
The bromides that have been uttered by the official spokesmen for the government, the media, Wall Street and the political parties over the past year of mounting financial crisis have lost all credibility. The assurances that the latest government bailout will stabilize the situation, that the US banking system is “fundamentally sound,” that the housing and credit markets are about to “turn the corner,” etc., reassure no one.
On Monday, President Bush mouthed such phrases in a brief White House appearance. Treasury Secretary Henry Paulson at a White House press conference evaded questions about who was responsible for the financial disaster and instead declared that he was “focused on the future.”
The presidential candidates, Republican John McCain and Democrat Barack Obama, made perfunctory statements that were remarkable only for their brevity and vacuity. What is widely acknowledged, even in ruling class circles, as the greatest financial crisis since the Great Depression is unfolding in the midst of a presidential election. But it barely rates a mention by either the Republican or Democratic candidate.
Both parties and their candidates tip toe around a financial scandal of world historic proportions because they are equally implicated. They are both bound hand and foot to Wall Street and single-mindedly dedicated to the defense of American capitalism.
McCain issued a statement demanding “reform” in Washington and on Wall Street and pledging to bring “accountability” to Wall Street. This from a multi-millionaire whose campaign is being run by a bevy of lobbyists for Wall Street and other sections of big business.
His Democratic counterpart, Barack Obama, issued a predictably mealy-mouthed statement complaining that “too many folks in Washington and on Wall Street weren’t minding the store.” While attempting to pin the blame for the crisis entirely on the Bush administration—ignoring the “free market,” deregulatory policies of Democrats Jimmy Carter and Bill Clinton—he offered a mutual amnesty between himself and McCain, saying, “I certainly don’t fault Senator McCain for these problems...”
These events are signposts in the historic failure of American and world capitalism. For the working class, they mean a rapid growth of unemployment, poverty, homelessness and social misery. The government, Wall Street and both political parties will seek to place the burden for the consequences of their own greed and incompetence squarely on the backs of working people.
The collapse is devastating ever wider layers of the population, including those who have worked on Wall Street and received some of the financial benefits of the speculative boom. Some 26,000 Lehman employees are not only out of a job, with few prospects of finding similar employment elsewhere, but as owners of 25 percent of the company’s stock they have lost a combined $10 billion, wiping out their savings and retirement funds.
Tens of thousands of employees at Merrill Lynch and Bank of America will lose their jobs in the merger of the two firms, adding to the 110,000 jobs slashed in the US financial services industry over the past year.
The broader implications of the mounting financial crisis were signaled by Hewlett-Packard’s announcement Monday that it was cutting 25,000 jobs.
Many of those who precipitated this economic disaster, on the other hand, will profit handsomely from the debris they have left behind. Hedge funds and other short-sellers, who bet on the collapse of corporations, are even now speculating furiously on the demise of the remaining Wall Street firms, Morgan Stanley and Goldman Sachs, as well as big commercial banks such as Bank of America.
William Gross of the nation’s largest bond fund, Pimco, took in $1.7 billion last week by betting on—and publicly agitating for—a government takeover of Fannie Mae and Freddie Mac.
The emergency talks over the weekend, involving the heads of the major commercial and investment banks and led by Treasury Secretary Paulson and top Federal Reserve officials, centered on rescuing Merrill Lynch and orchestrating an orderly liquidation of Lehman. Under pressure from Paulson and the Fed, Merrill agreed to sell itself to Bank of America, the largest consumer commercial bank in the US.
At the same time, there were frantic negotiations over the fate of AIG, which faces bankruptcy unless it can raise tens of billions of dollars in capital. When US markets opened Monday, AIG was asking for emergency loans from the Fed to stave off collapse.
A failure of AIG threatens to bring down the entire credit system both in the US and internationally, because the company holds a large stake in the multi-trillion-dollar, unregulated market in so-called “credit default swaps.” AIG has sold CDS contracts to banks, hedge funds and big investors all over the world, under which it guarantees the mortgage-backed debt of a wide range of companies in the event that they default. If AIG should go under, the value of the debt which it insures would fall to an unknown level, destabilizing the credit markets and threatening a chain reaction of defaults and bankruptcies.
The events of the past two weeks demonstrate that the American financial aristocracy is plunging the entire country into bankruptcy. These events are themselves climatic moments in a protracted process.
For three decades, the “free market” has been elevated to the status of a secular religion in the US, with the capitalist market as its god and socialism as its devil. This period, under both Republican and Democratic administrations, has seen the wholesale dismantling of the productive base of the US economy, at the cost of millions of jobs and the living standards of the American working class.
In the name of the supposed infallibility of the market, the operations of big business have been deregulated, removing all legal restraints on corporate profit-making and fueling the accumulation of ever more obscene levels of wealth in the hands of a financial oligarchy. A vast process of social plunder has occurred, in which the wealth of the country has been redistributed from the bottom to the very top.
The scrapping of huge sections of industry and the immense growth of social inequality are the hallmarks of the historic decline of American capitalism. At the heart of this decay is the separation of the process of personal enrichment of the ruling elite from the material process of production.
The United States has become the world leader not in manufacturing technology or industrial power, but in financial speculation and parasitism. As Floyd Norris, the economics columnist of the New York Times, put it on Friday, “During recent years, Lehman—along with many competitors—went on a borrowing binge to buy assets with as little money down as possible.”
By its very nature, the parasitism of American capitalism has generated corruption and criminality on an unprecedented scale. Wall Street CEOs have awarded themselves tens of millions and even billions in compensation, in an utterly irrational and socially destructive squandering of social resources for the benefit of private greed.
At the end of 2007, for example, the Lehman board awarded CEO Richard S. Fuld a compensation package worth more than $40 million. According to Reda Associates, he can expect to collect $63.3 million if he is terminated. In 2004, he paid $13.75 million for an ocean-front home in Jupiter Island, Florida, adding to his other properties, including a home in Sun Valley, Idaho.
Joe Gregory, a former president of Lehman, used to travel to work in a helicopter. He recently put his 9,500-square-foot ocean-front home in Bridgehampton, New York on the market for $32.5 million.
The Financial Times recently reported that compensation for major executives of the seven largest US banks totaled $95 billion over the past three years, even as the banks recorded $500 billion in losses.
The question of precisely who and what is to blame for the greatest economic disaster in more than three quarters of a century is something that will not and cannot be raised by any section of the political or media establishment.
Since the eruption of the current crisis, there have no been serious congressional hearings, no public investigations, no attempt to hold anyone accountable. Massive government interventions into the supposedly sacrosanct precincts of the “free market,” for the purpose of bailing out giant Wall Street firms, including the biggest government takeover of corporate entities in US history, have been carried out without any public debate or significant opposition from either political party. This, while millions of Americans are losing their homes and their jobs as a result of predatory corporate practices!
Certain conclusions must be drawn from the crisis of the American economic and political system. There is no solution within the framework of the profit system. What is needed is a socialist program that places the needs of the people before the profits and personal fortunes of the ruling elite.
The entire financial system must be taken out of private hands and nationalized in the form of a public utility under the democratic control of the working class, with provisions taken to safeguard the holdings of small depositors and share-holders. It must be subordinated to the social needs of the people and dedicated to developing and expanding the productive forces in order to eliminate poverty and unemployment and vastly improve the living standards and cultural level of the entire population.
Those who are responsible for the economic catastrophe must be called to account. Criminal investigations should be undertaken with appropriate sanctions for those who have plundered the social wealth. A full public accounting should be made of the hundreds of billions that have been diverted to private bank accounts through fraud and criminality. Such gains should be seized and used for the public good.
The only social force that can carry this out is the working class. It requires a clean break with the Democratic Party and the two-party system and the mobilization of the immense social power of the working class in its own party, on the basis of a revolutionary socialist program.
This is the program fought for by the Socialist Equality Party.
By Barry Grey
The end of Lehman Brothers and Merrill Lynch, two of the largest Wall Street investment banks, one week after the government takeover of the mortgage finance giants Fannie Mae and Freddie Mac, marks a new stage in the convulsive crisis of American capitalism.
On Monday, global markets fell sharply in a sign of mounting panic and doubt over the stability of the entire US banking system. Throughout Europe stock markets plunged by as much as 4 percent.
The fall on Wall Street was even steeper, with the Dow Jones Industrial Average losing 504 points, or 4.42 percent. There is every indication that the sell-off will intensify, with the full implications of the collapse of the two Wall Street banks as yet far from clear.
The immediate concern is the fate of American International Group (AIG), the world’s largest insurance company, and Washington Mutual, the largest savings and loan bank in the US, both of which are teetering on bankruptcy.
The sudden demise of Lehman Brothers and Merrill Lynch has removed a huge amount of liquidity from the economy, as paper values built up over decades of speculation come crashing down. This is capital that is needed to finance business operations, and its elimination will inevitably depress economic activity, fueling unemployment and recession, further undermining home prices and consumer spending, and further weakening the balance sheets of already financially shaken banks.
A sea change is unfolding in the US and world economy that portends a catastrophe of dimensions not seen since the Great Depression of the 1930s.
The fall of icons of American capitalism such as 158-year-old Lehman Brothers and 94-year-old Merrill Lynch can only lead to the further discrediting of the “free market” ideology of the US ruling elite, as well as its political and economic system. The spectacle of giants of capitalism drowning in debt piled up over decades of reckless speculation must inevitably discredit the social class—the American capitalist class—which is responsible for the debacle.
The bromides that have been uttered by the official spokesmen for the government, the media, Wall Street and the political parties over the past year of mounting financial crisis have lost all credibility. The assurances that the latest government bailout will stabilize the situation, that the US banking system is “fundamentally sound,” that the housing and credit markets are about to “turn the corner,” etc., reassure no one.
On Monday, President Bush mouthed such phrases in a brief White House appearance. Treasury Secretary Henry Paulson at a White House press conference evaded questions about who was responsible for the financial disaster and instead declared that he was “focused on the future.”
The presidential candidates, Republican John McCain and Democrat Barack Obama, made perfunctory statements that were remarkable only for their brevity and vacuity. What is widely acknowledged, even in ruling class circles, as the greatest financial crisis since the Great Depression is unfolding in the midst of a presidential election. But it barely rates a mention by either the Republican or Democratic candidate.
Both parties and their candidates tip toe around a financial scandal of world historic proportions because they are equally implicated. They are both bound hand and foot to Wall Street and single-mindedly dedicated to the defense of American capitalism.
McCain issued a statement demanding “reform” in Washington and on Wall Street and pledging to bring “accountability” to Wall Street. This from a multi-millionaire whose campaign is being run by a bevy of lobbyists for Wall Street and other sections of big business.
His Democratic counterpart, Barack Obama, issued a predictably mealy-mouthed statement complaining that “too many folks in Washington and on Wall Street weren’t minding the store.” While attempting to pin the blame for the crisis entirely on the Bush administration—ignoring the “free market,” deregulatory policies of Democrats Jimmy Carter and Bill Clinton—he offered a mutual amnesty between himself and McCain, saying, “I certainly don’t fault Senator McCain for these problems...”
These events are signposts in the historic failure of American and world capitalism. For the working class, they mean a rapid growth of unemployment, poverty, homelessness and social misery. The government, Wall Street and both political parties will seek to place the burden for the consequences of their own greed and incompetence squarely on the backs of working people.
The collapse is devastating ever wider layers of the population, including those who have worked on Wall Street and received some of the financial benefits of the speculative boom. Some 26,000 Lehman employees are not only out of a job, with few prospects of finding similar employment elsewhere, but as owners of 25 percent of the company’s stock they have lost a combined $10 billion, wiping out their savings and retirement funds.
Tens of thousands of employees at Merrill Lynch and Bank of America will lose their jobs in the merger of the two firms, adding to the 110,000 jobs slashed in the US financial services industry over the past year.
The broader implications of the mounting financial crisis were signaled by Hewlett-Packard’s announcement Monday that it was cutting 25,000 jobs.
Many of those who precipitated this economic disaster, on the other hand, will profit handsomely from the debris they have left behind. Hedge funds and other short-sellers, who bet on the collapse of corporations, are even now speculating furiously on the demise of the remaining Wall Street firms, Morgan Stanley and Goldman Sachs, as well as big commercial banks such as Bank of America.
William Gross of the nation’s largest bond fund, Pimco, took in $1.7 billion last week by betting on—and publicly agitating for—a government takeover of Fannie Mae and Freddie Mac.
The emergency talks over the weekend, involving the heads of the major commercial and investment banks and led by Treasury Secretary Paulson and top Federal Reserve officials, centered on rescuing Merrill Lynch and orchestrating an orderly liquidation of Lehman. Under pressure from Paulson and the Fed, Merrill agreed to sell itself to Bank of America, the largest consumer commercial bank in the US.
At the same time, there were frantic negotiations over the fate of AIG, which faces bankruptcy unless it can raise tens of billions of dollars in capital. When US markets opened Monday, AIG was asking for emergency loans from the Fed to stave off collapse.
A failure of AIG threatens to bring down the entire credit system both in the US and internationally, because the company holds a large stake in the multi-trillion-dollar, unregulated market in so-called “credit default swaps.” AIG has sold CDS contracts to banks, hedge funds and big investors all over the world, under which it guarantees the mortgage-backed debt of a wide range of companies in the event that they default. If AIG should go under, the value of the debt which it insures would fall to an unknown level, destabilizing the credit markets and threatening a chain reaction of defaults and bankruptcies.
The events of the past two weeks demonstrate that the American financial aristocracy is plunging the entire country into bankruptcy. These events are themselves climatic moments in a protracted process.
For three decades, the “free market” has been elevated to the status of a secular religion in the US, with the capitalist market as its god and socialism as its devil. This period, under both Republican and Democratic administrations, has seen the wholesale dismantling of the productive base of the US economy, at the cost of millions of jobs and the living standards of the American working class.
In the name of the supposed infallibility of the market, the operations of big business have been deregulated, removing all legal restraints on corporate profit-making and fueling the accumulation of ever more obscene levels of wealth in the hands of a financial oligarchy. A vast process of social plunder has occurred, in which the wealth of the country has been redistributed from the bottom to the very top.
The scrapping of huge sections of industry and the immense growth of social inequality are the hallmarks of the historic decline of American capitalism. At the heart of this decay is the separation of the process of personal enrichment of the ruling elite from the material process of production.
The United States has become the world leader not in manufacturing technology or industrial power, but in financial speculation and parasitism. As Floyd Norris, the economics columnist of the New York Times, put it on Friday, “During recent years, Lehman—along with many competitors—went on a borrowing binge to buy assets with as little money down as possible.”
By its very nature, the parasitism of American capitalism has generated corruption and criminality on an unprecedented scale. Wall Street CEOs have awarded themselves tens of millions and even billions in compensation, in an utterly irrational and socially destructive squandering of social resources for the benefit of private greed.
At the end of 2007, for example, the Lehman board awarded CEO Richard S. Fuld a compensation package worth more than $40 million. According to Reda Associates, he can expect to collect $63.3 million if he is terminated. In 2004, he paid $13.75 million for an ocean-front home in Jupiter Island, Florida, adding to his other properties, including a home in Sun Valley, Idaho.
Joe Gregory, a former president of Lehman, used to travel to work in a helicopter. He recently put his 9,500-square-foot ocean-front home in Bridgehampton, New York on the market for $32.5 million.
The Financial Times recently reported that compensation for major executives of the seven largest US banks totaled $95 billion over the past three years, even as the banks recorded $500 billion in losses.
The question of precisely who and what is to blame for the greatest economic disaster in more than three quarters of a century is something that will not and cannot be raised by any section of the political or media establishment.
Since the eruption of the current crisis, there have no been serious congressional hearings, no public investigations, no attempt to hold anyone accountable. Massive government interventions into the supposedly sacrosanct precincts of the “free market,” for the purpose of bailing out giant Wall Street firms, including the biggest government takeover of corporate entities in US history, have been carried out without any public debate or significant opposition from either political party. This, while millions of Americans are losing their homes and their jobs as a result of predatory corporate practices!
Certain conclusions must be drawn from the crisis of the American economic and political system. There is no solution within the framework of the profit system. What is needed is a socialist program that places the needs of the people before the profits and personal fortunes of the ruling elite.
The entire financial system must be taken out of private hands and nationalized in the form of a public utility under the democratic control of the working class, with provisions taken to safeguard the holdings of small depositors and share-holders. It must be subordinated to the social needs of the people and dedicated to developing and expanding the productive forces in order to eliminate poverty and unemployment and vastly improve the living standards and cultural level of the entire population.
Those who are responsible for the economic catastrophe must be called to account. Criminal investigations should be undertaken with appropriate sanctions for those who have plundered the social wealth. A full public accounting should be made of the hundreds of billions that have been diverted to private bank accounts through fraud and criminality. Such gains should be seized and used for the public good.
The only social force that can carry this out is the working class. It requires a clean break with the Democratic Party and the two-party system and the mobilization of the immense social power of the working class in its own party, on the basis of a revolutionary socialist program.
This is the program fought for by the Socialist Equality Party.
Military Industrial Complex 2.0
Go to Original
By Frida Berrigan
Cubicle Mercenaries, Subcontracting Warriors, and Other Phenomena of a Privatizing Pentagon
By Frida Berrigan
Cubicle Mercenaries, Subcontracting Warriors, and Other Phenomena of a Privatizing Pentagon
Seven years into George W. Bush’s Global War on Terror, the Pentagon is embroiled in two big wars, a potentially explosive war of words with Tehran, and numerous smaller conflicts – and it is leaning ever more heavily on private military contractors to get by.
Once upon a time, soldiers did more than pick up a gun. They picked up trash. They cut hair and delivered mail. They fixed airplanes and inflated truck tires.
Not anymore. All of those tasks are now the responsibility of private military corporations. In the service of the Pentagon, their employees also man computers, write software code, create integrating systems, train technicians, manufacture and service high-tech weapons, market munitions, and interpret satellite images.
People in ties or heels, not berets or fatigues, today translate documents, collect intelligence, interpret for soldiers and interrogators, approve contracts, draft reports to Congress, and provide oversight for other private contractors. They also fill prescriptions, fit prosthetics, and arrange for physical therapy and psychiatric care. Top to bottom, the Pentagon’s war machine is no longer just driven by, but staffed by, corporations.
Consider the following: In fiscal year 2005 (the last year for which full data is available), the Pentagon spent more contracting for services with private companies than on supplies and equipment -- including major weapons systems. This figure has been steadily rising over the past 10 years. According to a recent Government Accountability Office report, in the last decade the amount the Pentagon has paid out to private companies for services has increased by 78% in real terms. In fiscal year 2006, those services contracts totaled more than $151 billion.
Ever more frequently, we hear generals and politicians alike bemoan the state of the military. Their conclusion: The wear and tear of the President’s Global War on Terror has pushed the military to the breaking point. But private contractors are playing a different tune. Think of it this way: While the military cannot stay properly supplied, its suppliers are racking up contracts in the multi-billions. For them, it’s a matter of letting the good times roll.
What a Difference a War Makes
As we prepare to close the book on the Bush presidency, it is worth exploring just how, in the last seven-plus years, the long War on Terror has actually helped build a new, privatized version of the Pentagon. Call it Military Industrial Complex 2.0.
Consider fiscal year 2001, which conveniently ended in September of that year. It serves as a good, pre-War on Terror baseline for grasping just how the Pentagon expanded ever since -- and how much more it is paying out to private contractors today.
Back then, the Pentagon’s top 10 suppliers shared $58.7 billion in Department of Defense (DoD) contracts, out of a total of $144 billion that went to the top 100 Pentagon contractors. Number 100 on the list was The Carlyle Group with $145 million in contracts. Keep in mind, of course, that this was the price of "defense" for a nation with no superpower rival.
Fast forward to 2007 and the top 10 companies on the Pentagon’s list of private contractors were sharing $125 billion in DoD contracts, out of a total of $239 billion being shared among the top 100 contractors. The smallest contract among those 100 was awarded to ARINC and came in at $495 million.
In those seven years, in other words, contracts to the top 10 more than doubled, the size of the total pay-out pie increased by two-thirds, and the lowest contract among the top 100 went up almost four-fold.
Just as revealing, almost half the companies on the Pentagon’s Top 100 list in 2007 were not even on it seven years earlier, including McKesson, which took in a hefty $4.6 billion in contracts and MacAndrews and Forbes which garnered $3.3 billion.
And here’s a fact that makes sense of all of the above: Given the spectrum of services offered and the level of integration that has already taken place between the Pentagon and these private companies, the United States can no longer wage a war or even run payroll without them.
These have been the good times for defense contractors, if not for the military itself. Since September 2001, many companies have made a quantum leap from receiving either no Pentagon contracts or just contracts in the low hundred millions to awards in the billion-dollar range. Here are just a few portraits of companies that are booming, even as the military goes bust.
URS Corporation: This engineering, construction, and technical services firm based in San Francisco employs more than 50,000 people in 34 countries. A publicly-held firm, which recently acquired Washington Group International, it had numerous reconstruction contracts in Iraq. More than 40% of the company’s revenue ($5.4 billion in 2007) comes from the federal government. Between 2001 and 2007, its Pentagon contracts increased more than a thousand fold (by 1,400%) from $169 million to $2.6 billion.
URS began the War on Terror at number 91 on the Pentagon’s Top 100 list. It is now number 15.
Electronic Data Systems Corporation: Founded by political maverick Ross Perot, EDS is a global technology services company headquartered in Plano, Texas. In March, the Pentagon awarded it a $179 million contract to provide information technology support services to the Pentagon’s Defense Manpower Data Center, its central archive of all kinds of data on personnel, manpower and casualties, pay and entitlements, as well as the whole gamut of financial information. The company -- which employs 139,000 people in 65 countries -- boasted $22.1 billion in revenue in 2007. Computer giant HP bought EDS in August 2008.
In 2001 the company occupied slot 71 on the DoD’s Top 100 list with $222 million in contracts. By 2007, it had climbed to number 16 with $2.4 billion in contracts, an increase of almost 1,000%.
Harris Corporation: This communications and information technology company is headquartered in Melbourne, Florida, and employs 16,000 people. Harris boasted $4.2 billion in revenue in 2007, with more than one-quarter of that ($1.6 billion) coming from Pentagon purchases of communications and electronics capabilities like Falcon II high-frequency radio systems.
When the Global War on Terror began, Harris had a modest $380 million in Pentagon contracts (and was number 43 on that top 100 list); over the last seven years, it has steadily risen in rank and now is number 30.
KBR: Gaming the System
The United States first heard the phrase "military industrial complex" during President Dwight David Eisenhower’s January 17, 1961 Farewell Address. As he left public office, our last general-turned-president warned that the "conjunction of an immense military establishment and a large arms industry is new in the American experience" and its influence -- "economic, political, even spiritual -- is felt in every city, every Statehouse, every office of the Federal government…
"In the councils of government, we must guard against the acquisition of unwarranted influence, whether sought or unsought, by the military industrial complex. The potential for the disastrous rise of misplaced power exists and will persist."
If, in many ways, Ike’s comment is still applicable, in the last 47 years the Military Industrial Complex (MIC) he described has evolved in startling ways -- and massively. Today, it does more than wield influence; it has created unparalleled dependence and unrivaled profit.
What this means in practice can be illustrated by KBR, a privately-held company that does not publish quarterly reports. Nonetheless, its recent history provides an object lesson in what the MIC 2.0 can do for the profitability of a private contractor.
KBR has shadowed the U.S. military every step of the way through the invasion and occupation of Iraq: first as Kellogg Brown and Root, a subsidiary of Halliburton (for which Dick Cheney was once CEO), and then as KBR, an independent company. It has, in fact, made its corporate fortune on the Pentagon’s now infamous "no-bid," "cost-plus contracts." Since December 2001, KBR has been working for the Pentagon under the Logistics Civil Augmentation Program (LOGCAP) -- a multi-billion dollar agreement that guarantees the company those cost-plus profits for fulfilling contracted tasks.
This huge and sweeping contract was awarded without the rigors of the competitive marketplace. Its "no-bid" nature was a sign that KBR was anything but a run-of-the-mill Pentagon contractor. A second sign lay in the Pentagon’s acceptance of that cost-plus arrangement. A rarity in the business world, "cost plus" means that the more a job costs, the more profit the company pockets. Professor Steve Schooner, a contract expert at George Washington University Law School, commented, "Nobody in their right mind would enter into a contract that basically says, ’come up with creative ways to spend my money and the more you spend the happier I’ll be.’" Under this contract, the Pentagon has doled out $20 billion to KBR to build and staff facilities for military personnel in Iraq and provide food and other necessities to U.S. troops there.
Ironically, the Pentagon isn’t even getting what it paid for… not by a long shot. KBR’s fraudulent activities have, according to the Government Accountability Office, included the failure to adequately account for more than a billion dollars in contracted funds; the leasing of vehicles to be used by company personnel for up to $125,000 a year (despite the fact that these vehicles could have been purchased outright for $40,000 or less); the purchase of unnecessary luxuries such as monogrammed towels for use in company-run recreation facilities for military personnel; the overcharging for fuel brought into Iraq from Kuwait for military use; the charging to the Pentagon’s tab three to four times as many meals as were actually consumed by U.S. military personnel; and the provision of unclean water for U.S. troops.
All of these abuses came to light thanks to investigations by Representative Henry Waxman (D-CA), the Pentagon’s own Office of the Inspector General, and others, but Halliburton and its former subsidiary got off with little more than such wrist slaps as the revocation of the fuel supply contract and of KBR’S exclusive LOGCAP contract for Iraq. That was recently divided into three parts and put out to bid. KBR was, however, allowed to join the bidding, and is now sharing the contract with DynCorp and Fluor Corporation. Each company has received a $5 billion contract that includes nine one-year options for renewal that could be worth, in total, up to $150 billion, according to Dana Hedgpeth of the Washington Post.
The most recent of many black marks against KBR came when members of Congress and investigators charged that substandard electrical work by company employees in showers at military bases in Iraq had resulted in the electrocution deaths of 16 American soldiers.
To understand what privatization means in action at the Pentagon, consider just one modest example of the corruption that infects KBR and how it was addressed. In 2004, the company submitted requests for reimbursement on more than one billion dollars in charges that Army auditors deemed "questionable," in part because they weren’t backed up by reliable records. Charles Smith, the Army official managing Pentagon contracts, refused to approve the payments and threatened to levy fines against the company if it did not get a better handle on its spending. Later, he told James Risen of the New York Times that KBR had "a gigantic amount of costs they couldn’t justify. Ultimately, the money that was going to KBR was money being taken away from the troops."
Despite his 31 years with the Army, and without notice, Smith was transferred from his post, while the requested payments were subsequently sent to KBR. According to the New York Times, the Army argued that "blocking the payments to KBR would have eroded basic services to the troops. They said that KBR had warned that if it was not paid, it would reduce payments to subcontractors, which in turn would cut back on services."
In other words, the Pentagon -- in charge of hundreds of billions of dollars and more than a million personnel in and out of uniform -- was essentially held hostage by a company which threatened to withhold services that (just to be clear) had been pretty shoddy to begin with.
Senator Robert Byrd (D-WV) saw the problem: "We have found ourselves dependent on profit-oriented companies for even the day-to-day basics of feeding and housing our troops, [and] for carrying out a myriad of other functions of the mission, including security. These kinds of contracts opened the door for every manager to game the system in order to maximize profits."
And game the system they do. For example, the sort of corruption that seems endemic to KBR has created a profitable new market for another kind of private military corporation -- one specializing in oversight and accountability.
After the Army replaced Smith, it hired RCI Holding Corporation to review KBR’s records. Smith says the private company "came up with estimates, using very weak data from KBR," while ignoring audit information gathered within the Pentagon. While KBR was subsequently awarded high performance bonuses and a portion of that new 10-year contract with the Army, Serco (RCI Holding’s parent company) also received a new contract -- to continue to oversee KBR’s contracts.
And so dependency begets deeper dependency, while corruption, incompetence, and callous indifference become ever more ingrained in the military way of life.
During his first presidential campaign, George W. Bush identified Christ as his favorite political philosopher. But as the first American President with a Masters of Business Administration (and from Harvard, no less), he has done a much better job of applying the profit-first principles of Donald Trump and Jack Welch than exemplifying the man from Galilee who promised the rich young man "treasure in heaven" once he sold all he owned and gave it to the poor. As president, Bush has brought a corporations-can-do-no-wrong perspective to the Oval Office and quickly sought to give the private sector an ever freer rein over a smorgasbord of public works and services. Today, the military sector leans remarkably heavily on private corporations to perform what used to be their basic functions, from war to disaster relief to washing the dishes. KBR is just one multi-billion dollar example of the MBA presidency’s legacy.
Beyond Blackwater: The Pentagon’s Cubicle Mercenaries
The new Complex 2.0 regularly employs companies whose job it is to send armed mercenaries into action beside U.S. soldiers or to guard U.S. diplomats and high military officers. Fighting wars for hire has become an essential part of the Pentagon’s MO since 2001, and the Blackwater employee gunning through Baghdad in a Kevlar vest, a kafiyah, and wrap-around shades is the ultimate symbol of the new moment.
But there’s another dimension of the Bush era’s privatization surge at the Pentagon that has gotten far less coverage: Private military firms are also doing the paperwork of war. According to a March 2008 GAO report, Additional Personal Conflict of Interest Safeguards Needed for Certain DoD Contractor Employees, in offices throughout the Department of Defense, cubicle mercenaries in startling numbers are working shoulder-to-shoulder with uniformed military staff and federal employees.
The Government Accountability Office (GAO) looked at 21 different Pentagon offices and found that private contractors outnumbered Department of Defense employees in more than half of them. In the engineering department of the Missile Defense Agency, for example, employees from private contractors made up more than 80% of the work force. The GAO found that contractors were responsible for carrying out a wide range of tasks and were not subject to federal laws and regulations designed to prevent conflicts of interest -- including the rules that concern personnel who want to take positions with companies they had awarded contracts to as federal employees.
Another March 2008 GAO report assessed the Army’s Contracting Center of Excellence where private contractors made up less than 20% of the workforce. The average hourly cost of an employee from a private contractor, however, was more than 26% higher than that of a government employee. Similar disparities in pay can be seen even more starkly in Iraq, where a soldier is paid little more than minimum wage, while a private military contractor can earn well above $100,000 a year tax-free.
For perhaps the ultimate contrast in military privatization, consider this: Testifying at a Congressional hearing in July, Blackwater CEO Erik Prince offered a ballpark estimate for his annual salary -- "more than a million." He assured Representative Peter Welch (D-VT) that he would "get back" to him with a more exact figure. Welch noted at the time that General David Petraeus -- then responsible for more than 160,000 U.S. military personnel in Iraq -- earned $180,000 a year.
Privatization at the Bottom
Once private companies take on military and war-making tasks, where does the buck stop? It is not uncommon, for example, for a company hired to perform a service for the Pentagon to subcontract part of the job to another company, which may then subcontract part of its task to a third. Who, then, is in charge? When something goes wrong, who is culpable?
A recent investigation by Craig and Marc Kielburger, Canadian co-founders of the NGO Free the Children, and Toronto-based journalist Chris Mallinos found that KBR has subcontracted to more than 200 different firms -- many based in Kuwait -- to transport materials into Iraq.
One result of this: The United States has ended up paying companies that are essentially enslaving Filipinos, Sri Lankans, and other "third country nationals" who drive supplies into Iraq. In a recent article in Epoch Times, the trio recount a series of fact-finding trips to Kuwait to meet with dozens of South Asian and Filipino men "recruited to the Middle East with the promise of good jobs, only to be hired by Kuwaiti transport companies driving into Iraq." A Filipino described how Jassin Transport and Stevedoring Company -- one of KBR’s sub-subcontractors -- took his passport, nullified the contract he had signed in the Philippines, and issued him a new contract written in Arabic. Employees were "given an ultimatum: sign or be abandoned." Then they were handed the keys to unarmored tractor-trailer trucks and told to drive fast along roads known to be dangerous. The authors concluded that these companies "openly flout U.S. labor laws by using cheap imported labor, withholding employee passports and housing workers in decrepit conditions."
Officially, nothing like this is supposed to happen. The Philippines, Nepal, and other countries bar their citizens from taking work in Iraq. In 2006, the Defense Department actually issued stricter regulations forbidding such labor trafficking, and KBR and other companies pledged that they and their subcontractors would follow local labor laws. But regulations or no, the truth is that the Pentagon is no longer really in control of the process, and sub-sub-subcontracting is how you make the big money in places like Iraq.
Oh… and despite hearings, investigations, and legislation, Congress isn’t in control either. In an attempt to address the privatization of the military, for example, the Senate’s Democratic Policy Committee has held a total of seventeen hearings on waste, fraud, and corruption in Iraq. Representative Henry Waxman’s Oversight and Government Reform Committee has made the role of congressional gadfly respectable. Hearings in both the House and Senate have offered riveting, sometimes shocking, inside-the-Beltway theater, but subsequent legislation created to make decent Pentagon reporting and oversight a reality, close gaping loopholes in accountability, criminalize fraud, and curb some of the worst abuses of private contractors has proven well-meaning but hopelessly weak and ineffective in practice.
Is MIC 3.0 in our Future?
President Bush will leave office boasting that the United States has the most powerful and professional military machine in the world. We have paid dearly for this machine in the past seven-plus years. The bill for all that might and muscle comes to more than $3.8 trillion since 2001 -- plus another $900 billion plus for actually flexing it in Iraq, Afghanistan, and elsewhere.
And if the U.S. military machine is now both oversized and staggeringly expensive, it is also more prone to breakdown in a more dangerous and unstable world. So think of George W. Bush’s legacy to us as a Pentagon bloated almost beyond recognition and crippled by its dependence on private military corporations.
As for Bush’s legacy to the Lockheed Martins, the KBRs and the Pentagon’s whole "Top 100" crew, it’s been money beyond measure, enough to leave them all hard at work on Military Industrial Complex 3.0. They naturally want to make sure that the money continues to pour into their ever upgrading war machine, no matter who takes over the White House in 2009.
Capital Punishment: Lehman on its way to the Gallows?
Go to Original
By Mike Whitney
Bank of America is buying Merrill Lynch for $45 billion, AIG needs an emergency $40 billion bail-out from Uncle Sam to stay afloat, and Lehman Bros is kaput. Whew! The financial world has been turned upside-down overnight and the opening bell hasn’t even rung at the NYSE. It’ll be a rough day of trading ahead. Paul Krugman summed up the prevailing feeling of anxiety on Wall Street like this:
"Will the U.S. financial system collapse today, or maybe over the next few days? I don’t think so — but I’m nowhere near certain. You see, Lehman Brothers, a major investment bank, is apparently about to go under. And nobody knows what will happen next."
The news of Wall Street’s Sunday night massacre has already send foreign stock markets into a deep swoon. Shares tumbled in Asia and dropped more than 4 per cent in Europe. The dollar is steadily losing ground to the euro and gold is on the rise. The question is not whether the Dow will fall, but "how far" and what affect that will have on increasingly fragile financial institutions.
Lehman Brothers, the 158 year old Wall Street warhorse, announced Sunday that it will file for bankruptcy after weekend rescue plans broke down without finding a buyer. Fears of credit contagion and a global recession have resurfaced and become more widespread. Lehman’s failure suggests that that the other Wall Street giants will soon be following the same path to extinction. Economist Nouriel Roubini put it like this:
"All of the independent broker dealers are going to disappear. In March it was Bear Stearns. Tonight it was Lehman and Merrill Lynch. Morgan Stanley and Goldman Sachs should go find a buyer tomorrow. The business model of broker dealers is fundamentally flawed. They cannot survive."
Roubini may be right. The funny thing about capitalism is that you need capital to play. When the bank-vault is full of nothing but worthless mortgage-backed securities (MBS) and overvalued junk bonds; the whole thing goes belly-up fast. That appears to be the case with Lehman Bros, the century-old Wall Street warhorse that has joined the long procession of underwater banking establishments now ambling lemming-like towards the cliff. Lehman had a great go of it during the boom times when all it took to make oodles of money was a predictable flood of low interest credit from the Fed and a compliant ratings agency that would stamp every crappy securitized pool of mortgages with a big Triple A before hawking it to some gullible investor in Shanghai or Heidelberg. Lehman travails are not much different from anyone else in the banking fraternity. The problem is that the entire system is under-capitalized and over-leveraged. When Bear Stearns went down last year, it was levered at a ratio of 26 to 1. When Hedgie Carlyle Capital blew up, it was levered at 32 to 1. And when Fannie and Freddie were finally subsumed by the US Treasury; the two behemoths were levered at a whopping 80 to 1, which is to say that they had a paltry one dollar capital cushion for every $80 they had loaned out. That’s no way to run a business. They would have continued on the same erratic path---buying up toxic mortgages and MBS from people who had no chance of ever repaying their loans--had they not been taken into federal "conservatorship", which is a fancy way of saying they were insolvent. Treasury Secretary Henry Paulson unwisely attached a 6 inch-wide money-hose from the bowels of the Treasury to Fannies front office so the two mortgage giants could continue to teeter-along at taxpayer expense regardless of the fact that the securitization business model has completely broken down and foreign investors--including China--have already started cutting back on their purchases of GSE debt. This is no laughing matter. The $700 billion US current account deficit is financed through the generosity of foreign investors who are getting increasingly jittery about sinking money into a system that looks more like casino-poker all the time. Here’s a clip from China daily on Friday:
"China, which holds a fifth of its currency reserves in Fannie Mae and Freddie Mac debt, may cut the portion held in US dollars, according to China International Capital Corp (CICC), one of the nation’s biggest investment banks.
"The crisis has made Chinese officials realize it’s a bad idea to put all their eggs in one basket," wrote CICC Chief Economist Ha Jiming. "This will likely lead to greater diversification of foreign exchange reserve investments." China held $447.5 billion of US agency bonds as of June 2008, according to the CICC calculations using disclosures by the US Treasury. It is likely to reduce the portion of reserves in dollar assets from the current 60 percent by purchasing more non-dollar assets with new reserves, he said." (China Daily)
Naturally, foreign investors and central banks will curtail their purchases of US securities and Treasuries until there’s some indication that US markets have stabilized and will be able to withstand the ferocious headwinds of the biggest housing crash in history, a frozen corporate bond market, a paralyzed banking system, and steadily waning consumer demand. But Americans still seem breezily unaware of what all this means for the country’s future. They’d rather savor every new bit of gossip about some Bible beating, Grizzly-hunting prom queen who wants to lead the country back to the glory days of the 13th century than learn about the about the firestorm raging through the financial markets.
When the net foreign purchases of US financial assets begin to slow; the game is over. The Fed will be forced to raise interest rates to attract foreign capital which will put downward pressure on the economy and accelerate the housing crash. Paulson’s decision to provide unlimited capital to Fannie and Freddie, will stack more and more debt atop the faltering dollar and US Treasuries. It is the equivalent of lashing the greenback to an anvil and tossing it overboard. Paulson’s attempts to stave off a systemic banking crisis ensures that the federal government will undergo an unprecedented funding crisis sometime in the near future. There will be higher taxes for the battered middle class and higher interest rates for businesses and consumers. This will trigger a protracted economic slowdown and weaker growth. Credit will get tighter, banks will default, unemployment will soar and GDP will shrivel. A negative feedback loop will develop from the faltering financial system to the real economy; a vicious circle ending in massive layoffs, weakening demand, falling stock prices, and withering consumer confidence. Welcome to Soup kitchen USA.
Presently, Paulson and New York Fed chief Timothy Geithner are pressing Wall Street banking elites to pony-up enough money to buy up Lehman’s devalued real estate assets. The Fed’s proposal is similar to Greenspan’s rescue of Long-Term Management LP (LTCM) which roiled financial markets in the late 1990s. Paulson has signaled that there be NO government bailout like Bear Stearns when the Fed bought up $29 billion in mortgage-related assets. The Fed is tapped-out having already committed half of its balance sheet--nearly $500 billion-- in repos through its "auction facilities" which have recently skyrocketed to record highs of $19 billion per week for the last 3 weeks. The crisis is deepening by the day. Similarly, the Treasury has hitched its wagon to Fannie and Freddie which expands the National Debt by another $5.2 trillion and seriously undermines the "full faith and credit" of the US in the process. Keep in mind, the biggest source of American power is its access to cheap capital via the US taxpayer. Paulson has now put that source of revenue at risk by nationalizing the housing industry and burdening the taxpayer with (potentially) astronomical future obligations, even though he knows full-well that the market could drop another 15 to 20% before the end of 2010. Paulson’s recklessness has doomed the country to years of struggle.
As of Sunday afternoon, no deal had been struck to buy Lehman Bros. and it looked like the bank was headed for bankruptcy. Wall Street is preparing for the worst. Many of the big players are busy working out the details on thorny derivatives contracts to avoid a sudden shock to the market. The fear is palpable and there’s no way of knowing what will happen when the Asia markets open in just a few hours. It could be nothing more than a hiccup or it could be utter pandemonium ; nobody knows. Nouriel Roubini gave a particularly grim assessment of a Lehman default in his latest post on his blogsite Global EconoMonitor:
"It is now clear that we are again – as we were in mid- March at the time of the Bear Stearns collapse – an epsilon away from a generalized run on most of the shadow banking system, especially the other major independent broker dealers (Lehman, Merrill Lynch, Morgan Stanley, Goldman Sachs). If Lehman does not find a buyer over the weekend and the counterparties of Lehman withdraw their credit lines on Monday, you will have not only a collapse of Lehman but also the beginning of a run on the other independent broker dealers...Then this run would lead to a massive systemic meltdown of the financial system. That is the reason why the Fed has convened in emergency meetings the heads of all major Wall Street firms on Friday and again today to convince them not to pull the plug on Lehman and maintain their exposure to this distressed broker dealer." (Nouriel Roubini’s Global EconoMonitor)
Roubini may be right if the Big Boyz fail to intervene, but will they really risk everything just to force the Treasury’s hand and get Uncle Sam to pick up the tab for Lehman’s bad paper? After all, the giant investment banks are inescapably trapped in a net of complex, unregulated, over-the-counter derivatives contracts which--given the right conditions---could bring every skyscraper in lower Manhattan crashing to earth in one bloody afternoon of trading on the NYSE. But, that probably won’t happen. It’s more likely that cooler heads will prevail as the big-hand inches closer to midnight.
A sizable portion of Lehman’s $128 billion in long-term debt will probably be ring-fenced in a "bad bank" which will hold its toxic mortgage-backed assets and be financed by either the Treasury or the other Wall Street banks. The good assets can then be separated and sold off to either Bank of America or Barclays, the two prospective buyers. That way, according to Forbes, "the bad bank would be kept afloat while its assets could be unwound over a period of time in a way that wouldn’t disrupt the financial system more than it already has been."
Some variation of the "Forbes solution" will probably be enacted, but, let’s be clear; this is really no solution at all. It’s just a way of buying time by rolling-over debt to avoid the ugly consequences of accounting for the massive losses. In other words, it is cheaper to keep burning up capital to prop up moribund assets than take the loss and make a genuine effort to restructure the dysfunctional system. Here’s how former Fed chief Paul Volcker summed it up just two weeks ago:
"This bright new system, this practice in the United States, this practice in the United Kingdom and elsewhere, has broken down. Growth in the economy in this decade will be the slowest of any decade since the Great Depression, right in the middle of all this financial innovation. The current financial system is dysfunctional. That is a polite way of saying it failed.’’
Securitization has failed. The cuts to the Fed’s Funds rate have failed. The auction facilities--TAF, PDCF, and TSLF---have all failed. The off-balance sheets operations, the debt-pyramiding asset-inflation, the Enron-style accounting, the SIVs, the CP, MBS, CDOs, have failed. The subprimes, the piggybacks, the option-ARMs, the Alt-As have all failed. Structured finance has failed. The system doesn’t work; won’t work; can’t work. It’s built on the misguided assumption that capitalism can thrive without capital; that one dollar can be infinitely magnified by complex debt-instruments and mega-leveraging to generate real wealth and keep the wheels of finance and industry humming along. It can’t be done. The system is under-water. Economist and author Henry Liu put it like this:
"Yet this approach is preferred by those in authority, trapped in self deception about unregulated market capitalism being still fundamentally sound. They try to calm markets by asserting that the current turmoil is merely a minor liquidity bottleneck that can be handled by the central bank releasing more liquidity against the full face value of collateral of declining worth. (There are) No signs of any coherent grand strategy or plan to save the cancerous system from structural self-destruction."
Instead, the marauding of a handful of Wall Street "innovators"--drunk with hubris and blinded by their own bizarre sense of entitlement---have thrust the financial markets to the brink of catastrophe and pushed the the broader "real" economy towards a painful retrenchment. Now everyone will pay for the greed of the few.
So, what’s next?
An article in the Financial Times spells it out, but government officials will undoubtedly deny it until after the November presidential election.
From the Financial Times:
“The debate over whether an RTC-style (Resolution Trust Corporation)vehicle is needed – perhaps just to ring-fence troubled mortgage assets – also gained traction among central bankers at the Jackson Hole symposium hosted by the Federal Reserve Bank of Kansas City in August....
The problem that an RTC vehicle could help to solve is that there are very few buyers for troubled mortgage assets, and few investors now willing to inject fresh capital into the tattered balance sheets of the banks left holding them. As a result, banks such as Lehman and Washington Mutual have struggled to sell their soured mortgage portfolios, and to broker deals for fresh capital. The takeover of Fannie and Freddie, which virtually wiped out preferred equity holders, has also made banks’ access to the preferred capital market increasingly difficult. Through a new RTC, the government could provide financial support if needed in return for a share in potential profits once the assets were liquidated. “
What the Feds are refusing to admit, is that there is already a plan in place to make the government an an active, "shareholding" partner in failing commercial banks. (There’s no way the FDIC could pay for all the projected losses anyway) That will give the US Treasury the authority to provide insolvent banks with enough capital to muddle through while their impaired assets are liquidated via the RTC; a morgue for distressed mortgage-backed garbage.
How this will affect the already-anemic dollar is anyone’s guess. But it won’t be pretty.
It might be a good time to stock up on Krugerrands and buy a rosary.
By Mike Whitney
Bank of America is buying Merrill Lynch for $45 billion, AIG needs an emergency $40 billion bail-out from Uncle Sam to stay afloat, and Lehman Bros is kaput. Whew! The financial world has been turned upside-down overnight and the opening bell hasn’t even rung at the NYSE. It’ll be a rough day of trading ahead. Paul Krugman summed up the prevailing feeling of anxiety on Wall Street like this:
"Will the U.S. financial system collapse today, or maybe over the next few days? I don’t think so — but I’m nowhere near certain. You see, Lehman Brothers, a major investment bank, is apparently about to go under. And nobody knows what will happen next."
The news of Wall Street’s Sunday night massacre has already send foreign stock markets into a deep swoon. Shares tumbled in Asia and dropped more than 4 per cent in Europe. The dollar is steadily losing ground to the euro and gold is on the rise. The question is not whether the Dow will fall, but "how far" and what affect that will have on increasingly fragile financial institutions.
Lehman Brothers, the 158 year old Wall Street warhorse, announced Sunday that it will file for bankruptcy after weekend rescue plans broke down without finding a buyer. Fears of credit contagion and a global recession have resurfaced and become more widespread. Lehman’s failure suggests that that the other Wall Street giants will soon be following the same path to extinction. Economist Nouriel Roubini put it like this:
"All of the independent broker dealers are going to disappear. In March it was Bear Stearns. Tonight it was Lehman and Merrill Lynch. Morgan Stanley and Goldman Sachs should go find a buyer tomorrow. The business model of broker dealers is fundamentally flawed. They cannot survive."
Roubini may be right. The funny thing about capitalism is that you need capital to play. When the bank-vault is full of nothing but worthless mortgage-backed securities (MBS) and overvalued junk bonds; the whole thing goes belly-up fast. That appears to be the case with Lehman Bros, the century-old Wall Street warhorse that has joined the long procession of underwater banking establishments now ambling lemming-like towards the cliff. Lehman had a great go of it during the boom times when all it took to make oodles of money was a predictable flood of low interest credit from the Fed and a compliant ratings agency that would stamp every crappy securitized pool of mortgages with a big Triple A before hawking it to some gullible investor in Shanghai or Heidelberg. Lehman travails are not much different from anyone else in the banking fraternity. The problem is that the entire system is under-capitalized and over-leveraged. When Bear Stearns went down last year, it was levered at a ratio of 26 to 1. When Hedgie Carlyle Capital blew up, it was levered at 32 to 1. And when Fannie and Freddie were finally subsumed by the US Treasury; the two behemoths were levered at a whopping 80 to 1, which is to say that they had a paltry one dollar capital cushion for every $80 they had loaned out. That’s no way to run a business. They would have continued on the same erratic path---buying up toxic mortgages and MBS from people who had no chance of ever repaying their loans--had they not been taken into federal "conservatorship", which is a fancy way of saying they were insolvent. Treasury Secretary Henry Paulson unwisely attached a 6 inch-wide money-hose from the bowels of the Treasury to Fannies front office so the two mortgage giants could continue to teeter-along at taxpayer expense regardless of the fact that the securitization business model has completely broken down and foreign investors--including China--have already started cutting back on their purchases of GSE debt. This is no laughing matter. The $700 billion US current account deficit is financed through the generosity of foreign investors who are getting increasingly jittery about sinking money into a system that looks more like casino-poker all the time. Here’s a clip from China daily on Friday:
"China, which holds a fifth of its currency reserves in Fannie Mae and Freddie Mac debt, may cut the portion held in US dollars, according to China International Capital Corp (CICC), one of the nation’s biggest investment banks.
"The crisis has made Chinese officials realize it’s a bad idea to put all their eggs in one basket," wrote CICC Chief Economist Ha Jiming. "This will likely lead to greater diversification of foreign exchange reserve investments." China held $447.5 billion of US agency bonds as of June 2008, according to the CICC calculations using disclosures by the US Treasury. It is likely to reduce the portion of reserves in dollar assets from the current 60 percent by purchasing more non-dollar assets with new reserves, he said." (China Daily)
Naturally, foreign investors and central banks will curtail their purchases of US securities and Treasuries until there’s some indication that US markets have stabilized and will be able to withstand the ferocious headwinds of the biggest housing crash in history, a frozen corporate bond market, a paralyzed banking system, and steadily waning consumer demand. But Americans still seem breezily unaware of what all this means for the country’s future. They’d rather savor every new bit of gossip about some Bible beating, Grizzly-hunting prom queen who wants to lead the country back to the glory days of the 13th century than learn about the about the firestorm raging through the financial markets.
When the net foreign purchases of US financial assets begin to slow; the game is over. The Fed will be forced to raise interest rates to attract foreign capital which will put downward pressure on the economy and accelerate the housing crash. Paulson’s decision to provide unlimited capital to Fannie and Freddie, will stack more and more debt atop the faltering dollar and US Treasuries. It is the equivalent of lashing the greenback to an anvil and tossing it overboard. Paulson’s attempts to stave off a systemic banking crisis ensures that the federal government will undergo an unprecedented funding crisis sometime in the near future. There will be higher taxes for the battered middle class and higher interest rates for businesses and consumers. This will trigger a protracted economic slowdown and weaker growth. Credit will get tighter, banks will default, unemployment will soar and GDP will shrivel. A negative feedback loop will develop from the faltering financial system to the real economy; a vicious circle ending in massive layoffs, weakening demand, falling stock prices, and withering consumer confidence. Welcome to Soup kitchen USA.
Presently, Paulson and New York Fed chief Timothy Geithner are pressing Wall Street banking elites to pony-up enough money to buy up Lehman’s devalued real estate assets. The Fed’s proposal is similar to Greenspan’s rescue of Long-Term Management LP (LTCM) which roiled financial markets in the late 1990s. Paulson has signaled that there be NO government bailout like Bear Stearns when the Fed bought up $29 billion in mortgage-related assets. The Fed is tapped-out having already committed half of its balance sheet--nearly $500 billion-- in repos through its "auction facilities" which have recently skyrocketed to record highs of $19 billion per week for the last 3 weeks. The crisis is deepening by the day. Similarly, the Treasury has hitched its wagon to Fannie and Freddie which expands the National Debt by another $5.2 trillion and seriously undermines the "full faith and credit" of the US in the process. Keep in mind, the biggest source of American power is its access to cheap capital via the US taxpayer. Paulson has now put that source of revenue at risk by nationalizing the housing industry and burdening the taxpayer with (potentially) astronomical future obligations, even though he knows full-well that the market could drop another 15 to 20% before the end of 2010. Paulson’s recklessness has doomed the country to years of struggle.
As of Sunday afternoon, no deal had been struck to buy Lehman Bros. and it looked like the bank was headed for bankruptcy. Wall Street is preparing for the worst. Many of the big players are busy working out the details on thorny derivatives contracts to avoid a sudden shock to the market. The fear is palpable and there’s no way of knowing what will happen when the Asia markets open in just a few hours. It could be nothing more than a hiccup or it could be utter pandemonium ; nobody knows. Nouriel Roubini gave a particularly grim assessment of a Lehman default in his latest post on his blogsite Global EconoMonitor:
"It is now clear that we are again – as we were in mid- March at the time of the Bear Stearns collapse – an epsilon away from a generalized run on most of the shadow banking system, especially the other major independent broker dealers (Lehman, Merrill Lynch, Morgan Stanley, Goldman Sachs). If Lehman does not find a buyer over the weekend and the counterparties of Lehman withdraw their credit lines on Monday, you will have not only a collapse of Lehman but also the beginning of a run on the other independent broker dealers...Then this run would lead to a massive systemic meltdown of the financial system. That is the reason why the Fed has convened in emergency meetings the heads of all major Wall Street firms on Friday and again today to convince them not to pull the plug on Lehman and maintain their exposure to this distressed broker dealer." (Nouriel Roubini’s Global EconoMonitor)
Roubini may be right if the Big Boyz fail to intervene, but will they really risk everything just to force the Treasury’s hand and get Uncle Sam to pick up the tab for Lehman’s bad paper? After all, the giant investment banks are inescapably trapped in a net of complex, unregulated, over-the-counter derivatives contracts which--given the right conditions---could bring every skyscraper in lower Manhattan crashing to earth in one bloody afternoon of trading on the NYSE. But, that probably won’t happen. It’s more likely that cooler heads will prevail as the big-hand inches closer to midnight.
A sizable portion of Lehman’s $128 billion in long-term debt will probably be ring-fenced in a "bad bank" which will hold its toxic mortgage-backed assets and be financed by either the Treasury or the other Wall Street banks. The good assets can then be separated and sold off to either Bank of America or Barclays, the two prospective buyers. That way, according to Forbes, "the bad bank would be kept afloat while its assets could be unwound over a period of time in a way that wouldn’t disrupt the financial system more than it already has been."
Some variation of the "Forbes solution" will probably be enacted, but, let’s be clear; this is really no solution at all. It’s just a way of buying time by rolling-over debt to avoid the ugly consequences of accounting for the massive losses. In other words, it is cheaper to keep burning up capital to prop up moribund assets than take the loss and make a genuine effort to restructure the dysfunctional system. Here’s how former Fed chief Paul Volcker summed it up just two weeks ago:
"This bright new system, this practice in the United States, this practice in the United Kingdom and elsewhere, has broken down. Growth in the economy in this decade will be the slowest of any decade since the Great Depression, right in the middle of all this financial innovation. The current financial system is dysfunctional. That is a polite way of saying it failed.’’
Securitization has failed. The cuts to the Fed’s Funds rate have failed. The auction facilities--TAF, PDCF, and TSLF---have all failed. The off-balance sheets operations, the debt-pyramiding asset-inflation, the Enron-style accounting, the SIVs, the CP, MBS, CDOs, have failed. The subprimes, the piggybacks, the option-ARMs, the Alt-As have all failed. Structured finance has failed. The system doesn’t work; won’t work; can’t work. It’s built on the misguided assumption that capitalism can thrive without capital; that one dollar can be infinitely magnified by complex debt-instruments and mega-leveraging to generate real wealth and keep the wheels of finance and industry humming along. It can’t be done. The system is under-water. Economist and author Henry Liu put it like this:
"Yet this approach is preferred by those in authority, trapped in self deception about unregulated market capitalism being still fundamentally sound. They try to calm markets by asserting that the current turmoil is merely a minor liquidity bottleneck that can be handled by the central bank releasing more liquidity against the full face value of collateral of declining worth. (There are) No signs of any coherent grand strategy or plan to save the cancerous system from structural self-destruction."
Instead, the marauding of a handful of Wall Street "innovators"--drunk with hubris and blinded by their own bizarre sense of entitlement---have thrust the financial markets to the brink of catastrophe and pushed the the broader "real" economy towards a painful retrenchment. Now everyone will pay for the greed of the few.
So, what’s next?
An article in the Financial Times spells it out, but government officials will undoubtedly deny it until after the November presidential election.
From the Financial Times:
“The debate over whether an RTC-style (Resolution Trust Corporation)vehicle is needed – perhaps just to ring-fence troubled mortgage assets – also gained traction among central bankers at the Jackson Hole symposium hosted by the Federal Reserve Bank of Kansas City in August....
The problem that an RTC vehicle could help to solve is that there are very few buyers for troubled mortgage assets, and few investors now willing to inject fresh capital into the tattered balance sheets of the banks left holding them. As a result, banks such as Lehman and Washington Mutual have struggled to sell their soured mortgage portfolios, and to broker deals for fresh capital. The takeover of Fannie and Freddie, which virtually wiped out preferred equity holders, has also made banks’ access to the preferred capital market increasingly difficult. Through a new RTC, the government could provide financial support if needed in return for a share in potential profits once the assets were liquidated. “
What the Feds are refusing to admit, is that there is already a plan in place to make the government an an active, "shareholding" partner in failing commercial banks. (There’s no way the FDIC could pay for all the projected losses anyway) That will give the US Treasury the authority to provide insolvent banks with enough capital to muddle through while their impaired assets are liquidated via the RTC; a morgue for distressed mortgage-backed garbage.
How this will affect the already-anemic dollar is anyone’s guess. But it won’t be pretty.
It might be a good time to stock up on Krugerrands and buy a rosary.
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