In The Warning, veteran FRONTLINE producer Michael Kirk unearths the hidden history of the nation’s worst financial crisis since the Great Depression. At the center of it all he finds Brooksley Born, who speaks for the first time on television about her failed campaign to regulate the secretive, multitrillion-dollar derivatives market whose crash helped trigger the financial collapse in the fall of 2008.

“I didn’t know Brooksley Born,” says former SEC Chairman Arthur Levitt, a member of President Clinton’s powerful Working Group on Financial Markets. “I was told that she was irascible, difficult, stubborn, unreasonable.” Levitt explains how the other principals of the Working Group — former Fed Chairman Alan Greenspan and former Treasury Secretary Robert Rubin — convinced him that Born’s attempt to regulate the risky derivatives market could lead to financial turmoil, a conclusion he now believes was “clearly a mistake.”

Take the time to watch it all and take special note of who the key characters are.

Small-business owners are more concerned about the administration’s emerging $1 trillion healthcare plan, which will drive up their costs, and with the new taxes that are aimed squarely at the income groups into which owners of small firms generally fall. So they won’t expand or hire.

Which is why the White House is so unhappy. The only indicator that matters to the president is jobs, jobs, jobs, about which he quizzes his staff every day. That’s another way of saying votes, votes, votes. The latest polls show that the portion of Americans approving Obama’s handling of the economy has dropped from 58% to 50% in the past six months, approval of his handling of the deficit is down from 49% to 40% and that 67% believe it is “not possible” that his healthcare plan will not add to the deficit. Nevertheless, the president remains personally popular. He would like to keep it that way and is considering a programme that would give tax credits to employers who add to their workforces.

Consumers are the third unhappy group, completing the gloomy business-political-consumer troika.

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For the past eight years, the dollar has increasingly become less revered. Its value has been volatile. As the rest of the world saw the United States struggling with a failing war and soaring budget deficits, many who had large dollar holdings began to reduce those reserves (or increase them less than they otherwise would have). All this put downward pressure on the dollar. And thus began the first signs of a vicious circle. The strength of the dollar is becoming riskier and riskier. The growing U.S. deficit and the ballooning of the Federal Reserve’s balance sheets leave many worried that in their wake will come inflation, undermining the long-term attractiveness of the U.S. currency.

In this article, I try to explain why the dollar is in trouble, but ask””should we care? What are the consequences?

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Yet the urgent problem now isn’t TBTF [too big to fail], or even banker bonuses. These are distractions. The urgent problem is the giant riverboat gamble that Washington can save the economy by doing what comes naturally””spending money carelessly, creating massive new entitlements without funding them, dishing out cheap credit to politically favored sectors, telling business people where and how to invest.

Mr. Feinberg is an apt symbol indeed, for this gamble is built on the conceit that Washington can hector the recipients, whether auto companies, banks or homeowners, into behaving in ways that are “responsible.” So far, however, human nature is proving a disappointment: Take the outbreak of tax fraud related to the government’s emergency home-buyer’s credit.

Nor is the larger gamble looking so good either. Banks continue to fail at an alarming rate, the dollar is under assault, and Washington is looking at a future of trillion-dollar deficits. One might have guessed it would take a decade of Obamanomics to produce European welfare state levels of youth unemployment, but at 18.5% we’re there.

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Unfortunately, even if things are improving ”” and I prefer V for victory to W for worry ”” the fundamental cause of recent financial problems remains unaddressed. Low interest rates fuelled unsustainable debt. Those low rates were the result of China’s need to make money from the pile of dollars it earns from its exports. It did this by buying Treasury IOUs, keeping their price up and their rates down. China’s exports, in turn, were fuelled by its undervalued currency. That policy remains unchanged. So do trade imbalances. Which means the dollar probably has further to fall if imports to America are to become more expensive, and exports of American products more competitive.

There is no indication that the administration finds a dollar decline undesirable, if it is gradual, despite Geithner’s strong-dollar statement. It is the possibility of a dollar collapse that worries some at the White House. The same fear among investors has triggered a flight to gold. Such a development would force up interest rates, aborting the recovery. Obama has no desire to face the electorate in 2012 with high inflation and interest rates soaring, a real possibility if he adds to the downward pressure on the dollar by increasing the red ink already pouring over the nation’s ledgers, as frightened congressional Democrats are demanding.

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The dollar fell to a 14-month low against other currencies Thursday, intensifying a trend that the Obama administration has publicly suggested it opposes — but which it appears prepared to tolerate quietly.

Many of America’s trading partners, however, are pushing the other way. In Asia, traders said central banks in South Korea, Taiwan, the Philippines, Thailand, Indonesia and Hong Kong again intervened to slow the dollar’s fall against their currencies.

Asian officials fear that the dollar’s fall could crimp their export-driven economies. “The [Thai] baht has appreciated a little too rapidly compared with our fundamentals,” said Suchada Kirakul, assistant governor of the Bank of Thailand.

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Measured in euros (a more stable ruler than the ever-weakening dollar), U.S. real per capita GDP is down 25% since 2000, while Germany’s is up 4% and tops ours.

The solution is a strong U.S. jobs and wealth program. It has to include stable money, a flatter, more competitive tax structure, spending restraint, and common-sense bank regulation so small business lending can restart. Treasury has to rapidly lengthen the maturity of the national debt and take steps to protect the Fed from market losses on its long-term debt holdings.

Instead, Washington’s current economic program pushes capital away by weakening the dollar, threatening higher tax rates, borrowing short (the Fed’s near trillion-dollar overnight debt, Treasury’s mounds of bill and note issuance) to lend long (mortgages, student loans, entitlements), doubling down on government subsidies, and rechanneling bank loans to governments and big businesses instead of the small business job-growth engine.

Read it carefully and read it all.

First, consumer indebtedness is still too high relative to income expectations and credit availability, particularly in the US and the UK. This inconsistency will hold back any sustainable bounce in the most important component of aggregate demand.

Second, some banks’ balance sheets are still too geared for the comfort of regulators or their own managers. This will inhibit them from lending to the real economy at a time when certain sectors (such as commercial real estate, but also residential housing) still require significant refinancing, and when consumers need time to work down their excessive debt loads.

Third, unemployment has risen well beyond expectations, and is likely to prove unusually protracted. It will take years for US unemployment to return to its natural rate, even after the natural rate shifted upwards. This will dampen the recovery of consumption and investment, stress social contracts that assume flexible labour markets, and endanger political support for essential structural reforms.

Finally, public debt has grown so rapidly as to spark concerns about future debt dynamics….

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One year after the demise of Lehman Brothers Holdings Inc. paralyzed the financial system, “mega-banks,” as Fine’s group calls them, are as interconnected and inscrutable as ever. The Obama administration’s plan for a regulatory overhaul wouldn’t force them to shrink or simplify their structure.

“We could have another Lehman Monday,” Niall Ferguson, author of the 2008 book “The Ascent of Money” and a professor of history at Harvard University in Cambridge, Massachusetts, said in an interview. “The system is essentially unchanged, except that post-Lehman, the survivors have ”˜too big to fail’ tattooed on their chests.”

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Barack Obama is committing the same mistakes made by policymakers during the Great Depression, according to a new study endorsed by Nobel laureate James Buchanan.

His policies even have the potential to consign the US to a similar fate as Argentina, which suffered a painful and humiliating slide from first to Third World status last century, the paper says.

There are “troubling similarities” between the US President’s actions since taking office and those which in the 1930s sent the US and much of the world spiralling into the worst economic collapse in recorded history, says the new pamphlet, published by the Institute of Economic Affairs.

In particular, the authors, economists Charles Rowley of George Mason University and Nathanael Smith of the Locke Institute, claim that the White House’s plans to pour hundreds of billions of dollars of cash into the economy will undermine it in the long run. They say that by employing deficit spending and increased state intervention President Obama will ultimately hamper the long-term growth potential of the US economy and may risk delaying full economic recovery by several years.

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“The dominant public policy imperative motivating reform is to address the moral hazard risk created by what we did, what we had to do in the crisis to save the economy,” Treasury Secretary Timothy F. Geithner said in an interview.

The worry for consumers is that the bailouts skewed the financial industry in favor of the big and powerful. Fresh data from the FDIC show that big banks have the ability to borrow more cheaply than their peers because creditors assume these large companies are not at risk of failing. That imbalance could eventually squeeze out smaller competitors. Already, consumers are seeing fewer choices and higher prices for financial services, some senior government officials warn.

Those mergers were largely the government’s making. Regulators pushed failing mortgage lenders and Wall Street firms into the arms of even bigger banks and handed out billions of dollars to ensure that the deals would go through. They say they reluctantly arranged the marriages. Their aim was to dull the shock caused by collapses and prevent confidence in the U.S. financial system from crumbling.

Officials waived long-standing regulations to make the deals work. J.P. Morgan Chase, Bank of America and Wells Fargo were each allowed to hold more than 10 percent of the nation’s deposits despite a rule barring such a practice. In several metropolitan regions, these banks were permitted to take market share beyond what the Department of Justice’s antitrust guidelines typically allow, Federal Reserve documents show.

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The United States economy is now out of the emergency room and appears to be on a slow path to recovery. But enormous dosages of monetary medicine continue to be administered and, before long, we will need to deal with their side effects. For now, most of those effects are invisible and could indeed remain latent for a long time. Still, their threat may be as ominous as that posed by the financial crisis itself.

To understand this threat, we need to look at where we stand historically. If we leave aside the war-impacted years of 1942 to 1946, the largest annual deficit the United States has incurred since 1920 was 6 percent of gross domestic product. This fiscal year, though, the deficit will rise to about 13 percent of G.D.P., more than twice the non-wartime record. In dollars, that equates to a staggering $1.8 trillion. Fiscally, we are in uncharted territory.

Because of this gigantic deficit, our country’s “net debt” (that is, the amount held publicly) is mushrooming. During this fiscal year, it will increase more than one percentage point per month, climbing to about 56 percent of G.D.P. from 41 percent. Admittedly, other countries, like Japan and Italy, have far higher ratios and no one can know the precise level of net debt to G.D.P. at which the United States will lose its reputation for financial integrity. But a few more years like this one and we will find out.

An increase in federal debt can be financed in three ways: borrowing from foreigners, borrowing from our own citizens or, through a roundabout process, printing money….

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U.S. Treasury Secretary Timothy Geithner formally requested that Congress raise the $12.1 trillion statutory debt limit on Friday, saying that it could be breached as early as mid-October.

“It is critically important that Congress act before the limit is reached so that citizens and investors here and around the world can remain confident that the United States will always meet its obligations,” Geithner said in a letter to Senate Majority Leader Harry Reid that was obtained by Reuters.

A Treasury spokeswoman declined to comment on the letter.

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In concrete terms, the difference between the situation that the Obama advisers predicted and the one that has come to pass is about 2.5 million jobs. It’s as if every worker in the city of Los Angeles received an unexpected layoff notice.

Read it carefully and read it all.

He discusses the Obama administration’s fiscal policy, the U.S. government’s debt and proposed changes to the financial regulatory system.

I happened to catch this yesterday morning. Note especially the concern about the mounting national debt and the mention of the historical parallels with the 1930’s (he sees significant discontinuities there). Watch it all (a little over 10 1/2 minutes).

Watch it all.

(Some biographical information on Bill Cohan may be found here).

The most important section begins at 4:12 and thereafter. He places the real core blame at the culture of Wall Street currently and the compensation system where the top traders do not have their own skin in the game.

Not since the second world war have so many governments borrowed so much so quickly or, collectively, been so heavily in hock. And today’s debt surge, unlike the wartime one, will not be temporary. Even after the recession ends few rich countries will be running budgets tight enough to stop their debt from rising further. Worse, today’s borrowing binge is taking place just before a slow-motion budget-bust caused by the pension and health-care costs of a greying population. By 2050 a third of the rich world’s population will be over 60. The demographic bill is likely to be ten times bigger than the fiscal cost of the financial crisis.

Will they default, inflate or manage their way out?

This alarming trajectory puts policymakers in an increasingly tricky bind. In the short term government borrowing is an essential antidote to the slump. Without bank bail-outs the financial crash would have been even more of a catastrophe. Without stimulus the global recession would be deeper and longer””and it is a prolonged downturn that does the greatest damage to public finances. But in the long run today’s fiscal laxity is unsustainable. Governments’ thirst for funds will eventually crowd out private investment and reduce economic growth. More alarming, the scale of the coming indebtedness might ultimately induce governments to default or to cut the real cost of their debt through high inflation.

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Despite a slow start, the program could soon expand broadly. Next week, the Fed will add commercial real estate mortgages ”” a vast market ”” to the list of loans it will buy. Eventually, officials say, the TALF program could provide as much as $1 trillion in financing.

Fed officials say they, too, are uncomfortable with their new role and hope to end it as soon as credit markets return to normal. When R.V. manufacturers recently sought a meeting, senior Fed staff members refused to see them in person and instead heard their pleas in a conference call.

The central bank is increasingly having to make politically sensitive choices. For example, it is weighing whether loans to people who buy speedboats and snowmobiles are as worthy of help as those to people who buy cars. And it is being besieged by arguments from R.V. manufacturers and strip-mall developers that they play a crucial role in the economy and also deserve help.

Many of the decisions could have political repercussions. On Feb. 9, President Obama traveled to Elkhart, Ind., a Republican stronghold that Democrats hope to convert to their column. Elkhart is also home to much of the R.V. industry, which has been battered by the recession.

Count me among the deeply uncomfortable. Speedboats? This is nuts. Read it all–KSH.

President Obama was getting his daily economic briefing one recent morning when a fly distracted him. The president swatted and missed, just as the pest buzzed near the shoes of Lawrence H. Summers, the chief White House economic adviser. “Couldn’t you aim a little higher?” deadpanned Christina D. Romer, the chairwoman of the Council of Economic Advisers.

Mrs. Romer was joking, she said in an interview, adding, “There are only a few times that I felt like smacking Larry.” Yet few laughed in the president’s presence.

If the Oval Office incident was meant as a lighthearted moment, it also exposed the underlying tensions that have gripped Mr. Obama’s economic advisers as they have struggled with the gravest financial crisis since the Depression, according to several dozen interviews with administration officials and others familiar with the internal debates.

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Why hasn’t President Obama insisted on public hearings over what happened during this financial crisis?

Not a single top executive of a Wall Street securities firm responsible for causing the financial crisis has had the courage or the decency to step forward in front of the cameras and explain to the American people in his own words exactly how and why he allowed his firm to cause the crisis. Both Mr. Fuld and Alan Schwartz, the chief executive of Bear Stearns at the end, in their Congressional testimony blamed the proverbial once-in-a-century financial tsunami. Do they or any of their peers really think this is true?

There may be a way to find out. There is much talk nowadays coming from top bankers ”” Lloyd Blankfein of Goldman Sachs, Jamie Dimon of JPMorganChase, John Mack of Morgan Stanley and even Ken Lewis of Bank of America ”” about seeing how quickly they can repay to the Treasury the TARP money Mr. Paulson forced on them. One precondition of their being allowed to repay the funds should be a requirement that each gives a public deposition and explains, under oath, what truly happened and why.

This piece was given an astonishing full page on yesterday’s New York Times op-ed page. Read it all.

The Federal Reserve chairman, Ben S. Bernanke, said on Wednesday that the United States needed to develop a plan to restore fiscal balance, even as the government builds huge budget deficits as it tries to spend its way out of the worst economic crisis since the Great Depression.

In remarks to the House Budget Committee, Mr. Bernanke said that the government must address the immediate problems of a crippling recession that has erased trillions of dollars in household wealth, hobbled investment portfolios and raised unemployment to its highest levels in a generation. Still, he said, the government needs to think about putting its fiscal house back in order.

“Unless we demonstrate a strong commitment to fiscal sustainability in the longer term, we will have neither financial stability nor healthy economic growth,” he said.

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Such government micromanagement of the economy is everywhere. The Post recently reported that Richard Wagoner, the former CEO of General Motors who was removed by the government, remains on GM’s payroll “because senior Treasury officials have yet to decide whether he should get the $20 million severance package that the company had promised him.” His 2009 compensation — $1 — is payable Dec. 31. The $20 million promised to him includes contractual awards, deferred compensation and pension benefits accrued over 32 years with the company. Promise-keeping, including honoring contracts, is the default position of a lawful society. But suddenly, many citizens’ legal claims are merely starting points for negotiations with an overbearing government.

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Another global financial crisis triggered by a loss of confidence in the dollar may be inevitable unless the U.S. saves more, said Yu Yongding, a former Chinese central bank adviser.

It’s “very natural” for the world to be concerned about the U.S. government’s spending and planned record fiscal deficit, Yu said in e-mailed comments yesterday relating to a visit to Beijing by U.S. Treasury Secretary Timothy Geithner.

The Obama administration aims to reduce the fiscal deficit to “roughly” 3 percent of gross domestic product from a projected 12.9 percent this year, Geithner reaffirmed today. The treasury secretary added that China’s investments in U.S. financial assets are very safe, and that the Obama administration is committed to a strong dollar.

It may be helpful if “Geithner can show us some arithmetic,” said Yu. “We need to know how the U.S. government can achieve this objective.”

Read it carefully and read it all.

Two weeks ago, the U.S. Treasury released additional details (link opens .pdf) about the homeowner bailout, or in Washington-speak the “Making Home Affordable” program. Part of those details included some new ways for homeowners to avoid foreclosure. I thought the far more fascinating part, however, was the so-called “Home Price Decline Protection Incentives” (HPDP). It’s the most interesting part of the homeowner bailout that you probably haven’t heard about. I have been fascinated with the HPDP since the bailout was announced in February, and now we finally have some detail to dig into.

For some strange reason, virtually no one is talking about the HPDP. I haven’t seen a single article on it. Here’s how the new fact sheet describes it:

This initiative provides lenders additional incentives for modifications where home price declines have been most severe and lenders fear these declines may persist. These incentives will encourage servicers to undertake more modifications by assuring that incremental investor losses will be partially offset.

All of the initiatives within the homeowner bailout have attempted to stabilize the housing market. But this is the only one that provides a sort of insurance to investors if home prices continue to decline. In February I remarked that it seemed like the housing bailout included everything but the kitchen sink. I was wrong: this is the kitchen sink.

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They’re back. We refer to the global investors once known as the bond vigilantes, who demanded higher Treasury bond yields from the late 1970s through the 1990s whenever inflation fears popped up, and as a result disciplined U.S. policy makers. The vigilantes vanished earlier this decade amid the credit mania, but they appear to be returning with a vengeance now that Congress and the Federal Reserve have flooded the world with dollars to beat the recession.

Treasury yields leapt again yesterday at the long end, with the 10-year note climbing above 3.7%, its highest close since November. Treasury yields had stayed low, and the dollar had remained strong, as long as investors were looking for the safest financial port amid the post-September panic. But as risk aversion subsides, and investors return to corporate bonds and other assets, investors are now calculating the risks of renewed dollar inflation.

They have cause to be worried, given Washington’s astonishing bet on fiscal and monetary reflation. The Obama Administration’s epic spending spree means the Treasury will have to float trillions of dollars in new debt in the next two or three years alone….

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[BARRY] RITHOLTZ: Most of Wall Street is furious at what happened. Most of Wall Street aren’t involved in mortgage securitization or derivatives or any of the other bad assets that have been blowing up. The average guy — you know Wall Street is a meritocracy, eat what you kill, as much as you can earn in profits you get to take as a bonus — and I know a lot of guys, everywhere from Merrill Lynch to Bear Stearns to Lehman, that actually were really profitable. But because this one division was run by rogue pirate traders and reckless derivatives salesmen, they wiped up the entire bonus pool for the entire firm, and then some, all the while engaging in really reckless behavior.

[Kai] Ryssdal: Do you figure we’re stuck now as a bailout nation? We’re going to be subsidizing banks and car companies and insurance companies for some time to come.

RITHOLTZ: You know we’ve already seen the trucking industry make hints they want stuff. And we’ve seen the homebuilders who are key players in this, who just overbuilt everything. They’ve been asking for a bailout. That’s the slippery slope. Once you reward people for their worst behavior, for speculative, irresponsible investing and punish the prudent and the people who are careful with that money. Everybody seems to think it’s a free for all. Hey, you’ve got yours. How do I get mine?

Ryssdal: What’s the alternative to these bailouts? I mean should we have just done nothing?

RITHOLTZ: What you do is what the FDIC does when a bank is found to be insolvent. Look what happened with Washington Mutual….

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It has been widely reported that Treasury Secretary Hank Paulson and Fed chief Ben Bernanke summoned the CEOs of America’s nine largest financial institutions to a meeting on October 13, 2008, at which they were told that their banks would be required to accept TARP money and give the federal government an ownership interest in their institutions, whether they wanted to do so or not. We have it on good authority that some of the bankers, at least, were told that they would not be allowed to leave the room until they signed documents that were presented to them at that meeting.

These chilling reports have now been confirmed by Treasury documents that were obtained by Judicial Watch through a FOIA request. These were Paulson and Bernanke’s “talking points” for the meeting….

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The California state treasurer called Wednesday on U.S. Treasury Secretary Timothy Geithner to extend debt guarantees through the Troubled Asset Relief Program to financially strapped states and local governments facing declining revenues.

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Now, imagine a world in which China could borrow and lend internationally in its own currency. The renminbi, rather than the dollar, could eventually become a means of payment in trade and a unit of account in pricing imports and exports, as well as a store of value for wealth by international investors. Americans would pay the price. We would have to shell out more for imported goods, and interest rates on both private and public debt would rise. The higher private cost of borrowing could lead to weaker consumption and investment, and slower growth.

This decline of the dollar might take more than a decade, but it could happen even sooner if we do not get our financial house in order. The United States must rein in spending and borrowing, and pursue growth that is not based on asset and credit bubbles. For the last two decades America has been spending more than its income, increasing its foreign liabilities and amassing debts that have become unsustainable. A system where the dollar was the major global currency allowed us to prolong reckless borrowing.

Now that the dollar’s position is no longer so secure, we need to shift our priorities. This will entail investing in our crumbling infrastructure, alternative and renewable resources and productive human capital ”” rather than in unnecessary housing and toxic financial innovation. This will be the only way to slow down the decline of the dollar, and sustain our influence in global affairs.

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The Federal Reserve significantly scaled back the size of the capital hole facing some of the nation’s biggest banks shortly before concluding its stress tests, following two weeks of intense bargaining.

In addition, according to bank and government officials, the Fed used a different measurement of bank-capital levels than analysts and investors had been expecting, resulting in much smaller capital deficits.

The overall reaction to the stress tests, announced Thursday, has been generally positive. But the haggling between the government and the banks shows the sometimes-tense nature of the negotiations that occurred before the final results were made public.

I remain uncomfortable with it all. Read the whole article–KSH.