Financial Alchemy

Toward the end of his tenure, some started to wonder if former Fed Chief Alan Greenspan was a fool (after all, he left rates too low for too long and never came to grips with the fact that a real estate bubble was inflating on his watch).
Once again, Greenspan has opened his mouth and removed all doubt.
In a recent interview with Bloomberg, Greenspan said that the stock market rally that started in March has reduced the need for additional economic stimulus.
In particular, he’s quoted as saying:  
“When stock prices go up, the market value of common stock or of equity in banks and other financial institutions rises…And the market value of liabilities is importantly affected by the size of the equity market value cushion on banks’ balance sheets.”
One of Greenspan’s biggest mistakes was focusing on stock prices as a measure of economic health. They are not. Stock prices are a measure of corporate earnings health. And that may have little to do with the economy as a whole. And the example of banks and other financial institutions is a perfect case in point.
Citigroup (NYSE:C) and Bank of America (NYSE:BAC) have not seen their balance sheets improve because of any strength in the economy. Rather, accounting rule changes have allowed banks to re-value toxic assets and, in some cases, turn paper losses into balance sheet profits.
Financial alchemy (otherwise known as accounting rule changes and government guarantees) turned non-existent P/E ratios (because there was no “E” or earnings) into attractive valuations. So as the banks became wards of the state, of course the stocks rose.
And what did the banks do when their stock prices rose? Why, they announced massive secondary offerings at sweetheart prices to raise money and pay back government loans. None of the TARP repayments have come from actual earnings. The banks have simply used artificially inflated stock prices to dump stock on the market, dilute shareholder value and raise their cushion against losses that still exist on the balance sheet.
And Greenspan feels this is a sign of a healthier economy…
*****Of course, we must acknowledge that the economy is a little healthier. But what health the economy has achieved is a direct result of stimulus efforts.
The big question for Greenspan should be: is the average American family better off today? With the unemployment rate running at 10% and 6.5 million jobs simply vanished, I’d say the answer is an unequivocal “NO”. Americans may be less afraid that the economy is collapsing, but that’s not the same thing as health.
Alan Greenspan should be ashamed of himself for suggesting that higher stock prices are helping American households. But how many of those Americans who have lost their homes feel better off? And what of the millions who can’t find work? Are they better off because stock prices are up?
*****Let’s not forget that it wasn’t the average American household that led this country into the worst financial disaster since the Great Depression. It was Greenspan, Wall Street CEO’s, predatory mortgage companies, under-funded regulatory agencies, and a culture of de-regulation in Congress.
But it’s the American people that have lost the most. Ken Lewis still draws a good salary at Bank of America. AIG’s current CEO Robert Benmosche is reportedly threatening to quit because he’ll only make $10.5 million this year. And Alan Greenspan makes six-figures to give a speech.
I know I’ve ranted about all this before. And I’m not happy about the amount of debt the government is taking on. But before we let Greenspan tell us that we don’t need more economic stimulus because stocks prices are doing the job, let’s see if we can’t get some stimulus in place that will actually encourage companies to hire more workers. 

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