Why Is The Fed Suing Big Banks? Is the Fed Broke?

Is the Federal Reserve Bank broke? Are they afraid of going broke? Are they wilting under the giant MBS and derivatives ponzi that they are guaranteeing? We have some strange and ominous things happening lately. First, the NY Federal Reserve comes out swinging by suing the Bank of America for phony mortgage securities that are causing the Fed to lose money in the Maiden Lane projects and no doubt in securities that are hidden on the Fed's books. Then we have a report in that housing is double dipping big time.

Keep in mind that this series of articles as you scroll down the page is an attempt to make sense of what seems to be highly experimental and or unusual behavior by the Fed. The outcome is unknown but there are things to be learned here about the pitfalls Bernanke is facing. It is even possible that his confidence is misplace. Here are some things we know.

The Fed bought all the bad mortgage backed securities and put them on the central bank's balance sheet in order to cause the values of these to go up. It may be that the steady upward rise of the bond and stock market were really methods to cause these mortgage bonds to increase in value in order for investors to come and buy them. Of course, investors don't want to touch these toxic assets with a ten foot pole and the values are not going up.

And the Fed bought these assets at almost full nominal value, not the true value of pennies on the dollar which is where they fell when the market for the assets dried up. And while these assets may be worth more than pennies on the dollar, it is clear that the Fed massively overpaid and has a lot of toxic sludge on the balance sheet.

I am usually not a big fan of much of the Tea Party complex, because of the diverse views, the arrogance towards borrowers, or as Santelli said, losers who are underwater, and because the people who fund them are so off the wall. However, the Richmond Tea Party blog has a smart article, and I eagerly await more from the author. The article is entitled Is the Federal Reserve Bankrupt?

In the article, the author, JJac, asks if the Federal Reserve is bankrupt or if the Federal Reserve is bankrupting us. He sees those as the only two alternatives. Indeed, the repo market, where banks took treasuries in return for bad mortgage backed securities has left the Fed with a festering wound that seems to be getting worse. If you look at the securities held, no one wants them and the housing market is declining further. I am sure by now that the Fed thought this garbage held on their books would be increasing in value. If it doesn't increase in value you don't think that the Federal Reserve Banksters will be saddled with this do you? Know this, the Fed will be bailed out to the tune of trillions upon trillions of dollars by the US treasury.Yet American are getting to the point where they don't want to do this anymore.

The Fed banksters are so desperate that they are willing to saddle the dollar with weakness in order to get these debts to be worth less on their books. That has a lot of unintended consequences, and Geithner came out refusing to let the dollar continue to go down more as he sees that this policy will bankrupt the US consumer. The US consumer is still the driving force behind the purchase of the world's excess production of goods so a decreasing dollar would put that force for world prosperity in deep jeopardy.

So what is going on here? There seems to be confusion. It appears to me that the Fed has no escape without inflating the dollar. That will indeed bankrupt the citizens in the United States as gas goes to 4 bucks a gallon and milk to 5 bucks a gallon. On the other hand, if the Fed seeks to please the Chinese, who own our bonds, and many Tea Party people and others, who want a strong dollar on a moral basis, then perhaps it will be the Fed that goes broke after all. Otherwise, why would a co-conspirator in the ponzi housing scheme, the Federal Reserve Bank, sue another co-conspirator in the same ponzi housing scheme? Are they suing for show? Are they trying to save their tarnished name? Or do they need the money?

What does this potential implosion of the Fed do? Well, it shows the U. of Chicago view, that the Fed is infallible, is wrong. It is one thing to have a stable economic system, but we now have a fiat money system, that indeed may be under tremendous pressures to inflate. However, the populace and the housing market is in no mood to inflate. Is the Fed more powerful than the consumer's desire to pull back? That really is the question isn't it. If the consumer pulls back, that acts almost like an asset backed dollar, as the money supply cannot grow on mainstreet. We know that the primary purpose of fiat money is to benefit the few at the top. Certainly that has been the trend. But are the natives, you and me, getting restless? Can we make the Fed go broke instead of ourselves? I hope so. We would have to send them packing and not give them anything in return for these toxic assets, and we would not let them return these bonds to the big banks, since the Fed, other central banks, and the BIS were a part of the scam in the first place.

But now you know why the government is always on the side of the foreclosure mills and not the victims of the ponzi. Do anything to kiss the hind end of the private Federal Reserve Bank.

Update: It has been reported that the New York Fed is leveraged 104 to 1. That means for every $104 of assets that the bank carries, there is only a dollar of capital. So, what happens f the NY Fed's assets lose value? An insolvent central bank???

Tim Geithner, who was president of the NY Fed when this ponzi housing scheme was rampant, warehoused toxic loans on the books rather than the AAA loans that the Fed normally requires. People need to realize that this is a massive experiment. If housing continues to double dip, the Fed will be like a cooked pig with an apple in it's mouth, so bloated that it will no longer be able to get rid of this debt. Here are the Maiden Lane transactions and they are not pretty. However, it is likely that the Fed is hiding a lot more toxics on the books, which an audit would show. The Fed resists the audit because as long as the ponzi can be kept going they don't want to scare anyone. But that is a big "if".

Theoretically, the central bank (the Private Fed) cannot go broke because they can always print money. However, some economists have said they can indeed go broke. They can go broke if they no longer can put a lid on inflation. William Buiter argues:

"Central banks can go broke and have done so historically, albeit mainly in developing countries. Central bank insolvency may become an issue again, even in advanced industrial countries, if central banks were to assume too many foreign-currency denominated liabilities in an attempt to support or bail out private banks and other financial institutions deemed to be too large or too interconnected to fail.”

Joachim Fels of Morgan Stanley has said that the crisis in confidence in the central banks can indeed cause them to go "broke" as they no longer have the means to fight inflation. I take this to mean that It will indeed be difficult to fight inflation if you are trying to prevent the entire edifice of Too-Big-To-Fail from caving in.

I am wondering if this lawsuit against Bank of America is a lawsuit that signals survival of the Fed in preparation to fight inflation down the road. If they could wind down a TBTF bank or two that could make their QE and subsequent need to fight inflation more reasonable. Watch to see if inflation comes, and how the Fed responds to it. It appears that the lawsuit is a sign of weakness in the central bank.

We know that the central bank wants to inflate some in order to get the economy going so they can get crap loans off their books, all that toxic crud that they took from the banks. Yet, they will have trouble selling their bonds and no one wants to buy because they fear inflation. So far, the bond inflation hawks are quiet. But strong inflationary measures could change that. The Fed truly is between a serious rock and a very hard place.

We will have to look into how the Fed will survive deflationary pressures as well. One more point regarding inflation. If the fed has the bad choice of going broke or not stopping inflation, the fed will not stop inflation. They will just keep the bonds on their books until maturity. But at that point they may be out of bullets to stop inflation because if they raise rates like Volcker did, they will never get the low yielding bonds off their balance sheets.

The Federal Reserve has two issues which are of concern regarding their ability to prevent insolvency or at least instability.

1. The Fed has a lot of bad loans on the books, taken from banks. The banks are taking some of the loans back, and are getting them refinanced through Fannie and Freddie. The banks get guaranteed loans and the Fed is stuck with the really bad stuff.

2. The Fed is buying massive amounts of treasury bonds that are being purchased at the peak price, buy will likely have to sell them at a massive loss. Here is what Karl Denninger says about the problem:

Bernanke also says he has "100% confidence" he can tighten policy. Really, Ben? How do you tighten policy? You sell bonds. But what happens when you sell bonds? Prices go down, and rates go up, right? So you bought at the high price, and sell at a lower price. That's a capital loss! And the only tool available to him to "absorb" that capital loss is to print more money, which does exactly the opposite of the "tightening" he claims he can perform.

The fact is that Bernanke cannot tighten and he knows it -- he's lying. If he does tighten, he will wind up in negative equity and the only things he can do to prevent that is to reverse his "tightening." The market knows this (it's simple arithmetic), which is why rates are going up instead of down.

Denninger also made this comment at his article at Seeking alpha:

It is technically possible for The Fed to go broke. It is levered some 57 times, if my math is right.

But in practical terms he can "print" out of being broke.

The problem is that in order to "exit" his loose policy, he must sell bonds and take in cash. But if you're levered 57 times, a less than 2% loss wipes you out. And the longer the duration on those bonds, the higher the loss (or gain) is for each tick of movement in interest rates.

So the real question isn't whether The Fed can go broke, because while technically the answer is yes, in practical terms he won't let it happen. The real question is how can he make the claim he can "exit" if and when he needs to in terms of inflationary pressures when doing so would bankrupt him.

He's in a corner of his own design.