The credit crisis is on the verge of turning into a fight for capital's soul

HENRY, or Hank, Paulson's power grab is just that. Grabs for power rarely work and this will be a close-run thing, for it is a globalised power grab. Capital, a relatively healthy system with a free market and checks and balances, confronts a coup d'etat of breathtaking audacity.

HENRY, or Hank, Paulson's power grab is just that. Grabs for power rarely work and this will be a close-run thing, for it is a globalised power grab. Capital, a relatively healthy system with a free market and checks and balances, confronts a coup d'etat of breathtaking audacity.

It will come down to a knock-down brawl. In one corner of the ring are the people who got us into the biggest crisis since the Great Depression. In the other an odd mix of old-fashioned Republicans, terrified Democrats and some very influential economists. The first is the Paulson-Bernanke ring, a tag team backed by the a group of banks and broker houses supported by the White House and some of the world's central banks. Brazil, Russia, India and China and other emerging countries with far more substantial reserves are on the sidelines. They are contemplating their own existence and, I suspect, scarcely know what's going on.

Paulson and Bernanke have power and possession, nine-10ths of the law. But the law is greater than them. At least, we hope it is. And their control of the reins might expire with Paulson slated for demise if the Democrats take the White House, a fair bet, and the emergence of a new power grouping.

The existing power structure we know reasonably well. It has ruled Washington for the best part of the past two decades.

In the other corner, still finding their feet, is a group centred on Professor Nouriel Roubini, former senior advisor to the US Treasury and the IMF, and a professor at NYU's Stern Business School.

Over the past year, buoyed by the success of Roubini's almost absolute, clinical accuracy in picking the credit crisis is the RGE Monitor, a fast-growing body of economists with ties to the once super heavyweight Council on Foreign Relations. RGE's team of economic experts was named one of the world's best by The Economist, Forbes and The Wall Street Journal.

But it is a raw bunch up against fighters that started with Nixon in the dying days of his reign. Paulson worked with the Pentagon and with the White House in 1972-73, back when Dick Cheney was brought aboard. Roubini's form is being right and having the high moral ground. His opponents enjoy incumbency.

The Bernanke-Paulson plan is almost upon us, the outcome the eventual New York- Washington embrace of the world. If the US falls, other governments will acquiesce in a central bank globalised grab for power.

For fear and ignorance have a knack of trumping freedom.

We stand at one of those times in history where good men and women must recognise how they are part of an intertwined system that has turned feral and seeks to smash the free market - socialising losses of banks deemed too big to fail rather than too big to save, while maintaining immense private profits for those members of what we might call the Paulson Party.

But his term is fixed, and does not expire till 2010. His other powerful post, as chairman of the Orwellian Federal Open Market Committee, lasts till 2020. That's three presidential terms after Bush is gone.

If Barack Obama takes the presidency, a new secretary to the Treasury will be one of the first matters to hit his desk.

One name whispered has been that of Paulson's arch foe, Professor Roubini. Such a move by Obama would be a declaration of war on the forces largely responsible for the appalling state the US finds itself in today. Consider the list of damning criticisms Professor Roubini issued yesterday. I will come to them shortly.

Paulson, like Robert Rubin before him, is a creature of Goldman Sachs, having worked there since 1974. In fact Goldman's representation throughout the past two administrations reads like a complicated family tree. Rubin, who was secretary of the Treasury from 1995 to 1999, spent 26 years at Goldman.

Yesterday RGE, lead by Roubini, took off the gauntlet and smacked Paulson across the chops.

RGE's statement, entitled "Nouriel Roubini predicts the worst financial crisis since the Great Depression, far worse than any in the last few decades", is a perhaps historic document that draws the line between the aforementioned clique and those who are fighting it.

I have omitted some points already heavily covered recently but its key points are: - Hundreds of small banks with massive exposure to real estate (average small bank assets are 67% in real estate) will go bust.

- Dozens of large regional/ national banks are also bankrupt given their extreme exposure to real estate and will also go bust or be rescued at extreme cost.

- The four remaining US big broker/dealers will either go bust or will have to be merged with traditional commercial banks. Most of the shadow banking system cannot survive without formal deposit insurance and formal permanent lender-of-last-resort support from the central bank.

- The Federal Deposit Insurance Corporation has already depleted 10% of its funds and will require much more from Congress as its insurance premiums are woefully insufficient to cover the hole.

- Fannie Mae and Freddie Mac are insolvent and the Treasury bail-out plan is socialism for the rich; it is the continuation of a corrupt system where profits are privatised and losses are socialised at a huge cost to US taxpayers.

- This financial crisis will imply credit losses of at least $US1 trillion ($A1.02 trillion) and more likely $US2 trillion and the corporate bond default rate will jump from close to zero to more than 10%.

We are talking about credit default swaps where $US62 trillion of nominal protection sits on top of outstanding stock of only $US6 trillion of bonds and where counter-party risk - and the collapse of many counter-parties - will lead to a collapse of the market.

- This will be a long, ugly and nasty U-shaped recession lasting 12 to 18 months, not the mild, six-month, V-shaped recession that the delusional consensus expects.

- The rest of the world will not decouple from the US recession and financial meltdown; it will re-couple big time. Already 12 major economies are on the way to a recessionary hard landing; while the rest of the world will experience a severe growth slowdown only one step removed from a recession.

Given this sharp global slowdown, oil, energy and commodity prices will fall 20% to 30% from their recent bubbly peaks.

The Bretton Woods II regime of fixed exchange rates to the US dollar and/or heavily managed exchange will unravel - as the first Bretton Woods regimes did in the early 1970s - as US twin deficits, recession, financial crisis and rising inflation in emerging economies destroy the basis for its existence.

The US has long been irrationally fearful of socialism of any form but the website "Credit Writedowns" was accurate enough in its statement yesterday: "Welcome to the United Socialist States of America". Its prescient fear is that Paulson has no intention of honourable retirement but has a plan to retain control long into the future. As the credit crisis grows more nasty by the day, the people, politicians and regulators might turn away from the free markets. Those of us who suffered when we supported the free market reforms initiated by British prime minister Margaret Thatcher must remember the price of freedom is eternal vigilance.

Part of the smokescreen the clique is using came to light yesterday when the Securities and Exchange Commission announced emergency action to prevent or reduce shortselling of brokerage firms, Fannie Mae and Freddie Mac, and would immediately begin considering new rules to extend new requirements to the rest of the market. These same firms that have been ruthlessly shorting each other - now that Bear Sterns is gone, Lehman Bros is near worthless, the two Fs are gutted, as is the rest of the financial industry (with the exceptions of Goldman Sachs and JPMorgan) - are now calling for a stop.

No wonder David Tice sold out. But let that remind us who's going to buy shares when they fall. Not short-sellers, as is usual. They will have been hunted down. Do we need any more evidence that the clique must be removed from office?

David Hirst is a journalist, documentary maker, financial consultant and investor. His column, Planet Wall Street, is syndicated by News Bites, a Melbourne-based sharemarket and business news publisher.


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