The World’s Greatest Scam

In the interview below, a prominent hedge fund manager in Norway speaks out about the current financial crisis. The article contains no real surprises, but it’s unusual for anyone in such a position to be so frank about what is happening. If such a high-ranking insider is willing to say these things, the situation must be dire indeed.

Many thanks to our Norwegian correspondent The Observer for translating this piece from DN.no:

Probably the biggest scam ever

Hedge fund manager Peter Warren questions the celebrated rescue package given to European banks and governments. “The entire thing is a giant scam.”

This week the European Central Bank (ECB) handed out a staggering €530 billion in virtually free loans to 800 banks. The rescue package, called LTRO, is the second dose of a medicine which was first administered in December last year.

By giving the banks huge loans at a very low interest rate — in this case only one percent — one manages to strengthen the banks and indirectly boost the debt-burdened European countries as many of the banks use the money to buy government bonds in the heavily indebted countries of Italy and Spain. These bonds yield a much higher interest rate than the one percent the banks have to pay the ECB.

Analysts and the markets — and perhaps not surprisingly, the banks themselves — have welcomed the initiative with great enthusiasm. The general consensus is that this is the correct medicine to get Europe out of the negative debt spiral.

Deception

But not everyone joins in the excitement. Today in an entry on his own blog, finansblogg, the Norwegian hedge fund manager Peter Warren heavily criticizes the rescue package in a blog entry entitled “The greatest scam ever”. He writes that a “fraud is taking place today in the financial markets without anyone reacting”.

According to Warren, it is mostly the participants who have reason to be pleased with the rescue package, and the participants are the banks. Almost everyone else is being thoroughly deceived, he says

“The whole thing is a giant scam,” he tells DN.no.

According to Warren the rescue package just adds more of what got Europe into trouble in the first place: debt.

“This money is nothing but a miniscule easing of the burden as it increases the money supply. Up until now it has been successful, but what they’re doing is pushing snow in front of them with a snow shovel. Eventually it will become impossible to push the shovel. The way they have chosen to solve the problem is to increase the debt.”

“To place more snow in front of the shovel?”

“What they are doing now is to throw another ton of wet snow in front of it. It is strange that more people haven’t realized what’s going on.”

“So it’s not simply just a case of you seeing ghosts in broad daylight? Most people praise the rescue package.”

“Yes, everyone lets out a big sigh of relief because the financial markets are performing a little bit better now. But keep in mind that the U.S. economist Nouriel Roubini was ridiculed for years for warning us about the global financial crisis, so do not expect to see an immediate response.”

Pyramid scheme

The hedge fund manager believes that providing cheap loans to banks and governments with debt problems is in itself quite absurd.

“It’s like your salary increases by 4 percent each year, while at the same time your debt increases by 12 percent and when you finally reach the stage where you’re unable to service the debt you notify your bank and ask them to double your loan. The bank would have responded with two words: Forget it. There isn’t a single soul on the planet that would have loaned you any more money!”

But this isn’t the only thing that should activate the alarm bells with the LTRO2 rescue package.

According to Warren, the banks have received guarantees from the ECB that they’re not liable for the debt if they decide to loan the money to debt-ridden countries such as Italy and Spain and these countries go bankrupt. In other words, not only do the ECB hand over 530 billion Euros almost free of charge, but they also accept the risk of default when the banks loan the money to these heavily indebted countries at a huge profit.

Read more on Warren’s own blog.

“What you are describing here sound suspiciously like the taxpayers, via the ECB, have invested in a pyramid scheme?”

“Exactly! It’s a Ponzi scheme. The taxpayers are sitting there with big grins on their faces while the Italian bank shares go up in value and think: Wow, this is going to end well”

But Warren fears that it’s not going to end that way.

“It would be a terrible thing if Italy went bankrupt. The country is ‘too big to fail, but too big to save’. If Italy were to default on its debt like Greece, the banks would probably go bankrupt too. And if the United States or Germany goes bust in the process — it does matter that you can take out an insurance policy, because who sell the insurance policies? The banks do, and the odds that they’re going to be able to honour their obligations are equal to zero.”

“How long can the alleged pyramid scheme be sustained?”

“It can keep on running until someone finally discovers that the emperor is naked, or rather until the people turn around and discover that he actually is naked.”

Horse’s head

Warren understands why the banks jumped at the rescue package “like a herd of lions attacking an injured antelope”, as he describes it on his own blog.

“In light of the massive bonuses and salaries involved it’s like Christmas Eve, Hanukkah and the leap day all rolled into one for the banks and their shareholders,” Warren tells DN.no.

He doesn’t expect people in the banking industry are going to approve of today’s blog post, and particularly not the Italians.

“Just writing this makes me fear that I will wake up with a horse’s head in my bed one of these days” he writes in his blog post.