We have won the War on Terror. We must have, since we don't hear about it any more, right? And anyway, he has been dealt with, and can't do any more mischief.

Sadly, that may not be the case. I say 'sadly' because he has killed thousands and made millions of peoples lives worse in so many different ways. Including that of my family.

But that is not what I wanted to talk about. That is something I'm sure you know about. I wanted to talk instead about a story that hasn't been covered, and that is the unlikely allies that Osama made. Those allies are the Fed's easy money policy, and our greed.

It first struck me that Osama may have been more successful we or even he realised when I was reading the excellent inside story about the Collapse of Lehman Brothers. It is called A Colossal Failure of Common Sense, by Larry McDonald (a former Lehman executive) and Pat Robinson. If you want to know more about the drama of that tragic story, I would recommend it. [Disclosure: The link to the book is an affiliate link, meaning that if you buy it from Amazon, we will make a small commission. The price for you is the same.] 

As well as explaining the incredible hubris of Lehman CEO Richard Fuld and President Joe Gregory and the in-hindsight incredible assumption of most of Wall Street that the US property market will only ever go up (since it had never fallen by more than 5% in one year, never mind the fact that in the past you needed to have things like a job and some money to buy a house - things that had become an irrelevance by 2006), Larry and Pat also describe finance and the economy from an insiders perspective.

I was particularly drawn by these paragraphs.

Al-Qaeda had intended to strike at Wall Street, the heart of western capitalism, which they did. If you read the official story, then the effect on the economy was minimal and contained. However the measures used to contain that effect involved pumping liquidity (money) - and cheap money at that - through the system.

What happens when you increase the supply of cheap money? Asset prices go up. With higher stock prices and particularly more valuable homes, everyone feels richer. This liquidity also enabled multiple ways of getting hold of money, including credit cards and loans, but specifically the ability to refinance home mortgage values upwards, allowing people to get cash out of their home equity, creating these giant ATM machines.

All this money created demand for shiny new things like TVs, game consoles and stereo systems. American companies had long ago abandoned manufacturing in the US in favour of China, where products could be made faster, cheaper, and with less irksome regulation to worry about. The Chinese wanted a safe place to invest their profits, which mean Treasury bonds. But eventually they had no choice but to keep investing there, like it or not (and right now they definitely do not). US debt became increasingly unsustainable, and only the Chinese had big enough (and growing) pockets to keep funding it. This is the story of global trade imbalances - China has to lend money to its biggest customer to keep buying the trinkets they churn out.

There is a vast entrenched system that involves money moving between US consumers, Chinese manufacturers, the Chines and US governments, and the banks greasing all the wheels with ever greater leverage (i.e. without backing it up with their own money).

While US house prices continued to go up, we could engage in the fantasy that everyone was getting richer. But once the asset bubble had been blown to its fullest, American families were all in debt up to their eyeballs, and the massive resets kicked in after the first year mortgage 'teaser' rates expired (meaning suddenly monthly repayments might have quadrupled), and with new refinanced mortgages suddenly unavailable, the whole edifice fell down. Anyone who has seen ups and downs in life knows that downs tend to come faster than ups. The negative feedback loop can howl through the system even quicker than the positive loop's tornado.

After a meeting in which the full extent of the coming disaster was spelt out, we get this gem:

There you have it. A direct line from Osama and 9/11, through the easy money policy, to the massive house and stock market bubbles, aided by Wall St's financial jiggery-pokery of 'structured finance' that made it look like lots of money was being made instead of the vast debts that were actually being built up, and then when it was no longer sustainable, a crash that almost brought down the whole western financial system.

This raises two fascinating questions.

First, did Osama know what he was doing, or did he just get plain lucky? I will leave that little plum for you to play with.

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Second, what happens next? Astute observers of the positive and negative feedback loops are concerned. The system has not been fixed, it has only been expanded even further. Alan Greenspan's easy money looks like a trickle compared to the massive flood of the Federal Reserve's money supply and balance sheet growth in the last year. Most of the banks that had leveraged to ridiculous levels still exist, with executives still minting record bonsues, but now with the cast iron guarantee of the US government behind them. A further negative feedback loop could take down not just the banks, but Uncle Sam himself, since he now owns all the losses.

Is Osama sitting in his cave/ comfortable semi-detached house with a washing machine and frilly curtains, and chuckling to himself at what he helped set in motion?

Hosni Afleck

EconomyWatch.com