Like Spain, The Fed & Treasury Will Pull Out Nuclear Option & Raid Private Pension Funds

On January 4, 2013, the Wall Street Journal reported that Spain is draining the fund that backs their pensions.  This is a very serious statement for several reasons.  Spain holds about $86 billion in pension funds. It’s quietly removing the richest source of money, called the Social Security Reserve Fund, to handle present obligations.  90% of this $86 billion has been siphoned off to date, sometimes in $3 billion amounts. These funds are used to buy some of the riskiest debt in the Eurozone;  the Spanish debt.  As funds are removed and replaced with junk bond status obligations, the financial analysts who follow this are quite concerned.

 The  SP bond income, paying 5% today, must be available to provide payments to the pensioners.

 These bonds and the funds available to make payments will soon be questionable at best. As an example of the dire circumstances in Spain, in some cases the Spanish government and private business  are so insolvent that their obligations are as much as 6 months in arrears. These payments include vital supplies such as food and medicine.  This is causing other businesses to file bankruptcy due to delinquent payments through a downward spiral ripple effect.

The government is withdrawing funds from the Reserve faster than it is being filled by present contributions, putting in jeopardy the ability of the fund to assure its financial integrity.  The reserves are running out much quicker than expected, particularly since the government has its hands fully extended into the cookie jar.  There is real risk of solvency in the Reserve as it could end up like Greek pensions with their swan dive into insolvency.

The government officials making the Reserve’s investment in these bonds contend that as long as Spain can access borrowing from the external markets, this practice is prudent and can continue.  They’re also confident that the economy will start to recover in late 2013.  This statement is made in the face of an economy in free fall.  Some experts think Spain won’t recover until 2022.

Once one reviews  negative equity of the 4 major  Spanish banks,  the $50 billion in bank bailout fundings that accomplished little, the fact that 60% of Spain’s corporations are losing money, a few hundred billion in funds exiting the country for safer climes AND Spain has still to  convince buyers to purchase over $200 billion to be issued in  2013;  these assurances are weak at best.

Early in 2012 Spain received its first bailout tranche consisting of  billions in funds from the ECB at 3%. Instead of using the funds to help the economy,  they invested in their own  government bonds. Their rates then jumped as Greece defaulted, dropping the principal value of these bond dramatically.  These were to be used for collateral but when their  value dropped, the lack of  wisdom in those purchases became evident, forcing Spain to seek additional funds from the ECB,  amongst others.  It’s clear that Rajoy and his people are lacking in even the most rudimentary of economic and fiscal acumen.

As Spain raids the Reserve funds set aside for pension payments in order to stopgap and fill large budget deficits, the 5% bonds are destined to assume Greek-like devaluation. These bonds are toxic, loaded with the potential for default.  The Greek government just paid $10 billion for $30 billion in debt, assuring the bond holders massive losses. This was the second massive haircut to lenders in one year. The Greeks are still delinquent in current obligations and are asking for another bailout. Spain is setting up much like Greece did in the last two years.

The math of bond yield and principal value  is incontrovertible. It does not change if the country is as large as Spain with its $1 trillion Euro GDP.  It just means that  bond losses are magnified 1,000%.   Spain’s bonds will cause massive losses in principal value with an  income stream that goes to near zero. The retired people relying on these funds start jumping from their windows in desperation much like those losing their home did in the last few months.

For examples of other countries who have looted pension  funds we need look no further than Argentina, where the government expropriated $30 billion to pay for government overhead.  Portugal took $6.9 billion in private pensions the year before.  Spain’s removal of this $75-80 billion may be the largest  of its type in modern history but it will not be the last.   It is a virtual certainty that when Spain’s financial difficulties come to a head, and they are getting worse, not better, the pension recipients will see a 50% drop in their income, just like the Greek pension haircuts.

I promised myself I would not write another essay about Spain, but Spain is going to find out that you don’t need a parachute to sky dive- You need one to skydive twice. They were fortunate to hit soft ground last year with several bailouts, large and small.  This time they will not be so fortunate.  Diving off the Iberian equivalent of the fiscal cliff will require something much more substantial than some silk and paracord.

If we look to our own financial house here in the US, Social Security has over $20 trillion in unfunded liabilities.  Medicare is another $40 trillion.  State pension funds are  deficit to the tune of $2.7 to $3.6 trillion.  If the states are intent on keeping their promises to the pension recipients it will first fall to the state tax payers to fill the gap and then to the Federal level.  The tax payers will be forced to make up these differences in the long pull.  But these are matters that will evolve over a decade or more.

The greatest issue facing us in the short pull is the very real potential of our Federal government having a failed bond auction. They may have to buy up large amounts of existing Federal debt when rates are climbing.   If the Federal deficit spending continues upward at $1.7 to $2.0 trillion a year,  we chance losing another rating notch or two.  The equity markets and  pension funds,  both national and foreign,  are mandated to accept only AAA bonds. They will not only be unable to buy our debt they may ultimately be forced to divest as the near-junk bond status of our debt violates their investment charter.

If this happens the Fed and Treasury are very likely to pull out the nuclear option. They will raid our private pension funds, just like Spain.  They may even take foreign pensions invested in domestic funds.  That’s also on the table.

This $6-8 trillion pool of private IRAs and 401Ks is the only large source of funds left outside the MMAs multi trillion dollar pools.  The removal of pension funds is now established policy in Europe.  This Spanish ‘theft’ of funds,  done with little to no chance of repayment,  is not going unnoticed in the top levels of our government and the Federal Reserve Bank.   These people know that sooner than later there will be a failed bond auction or rating drop that forces their hand. And that hand will move into the pockets of the American tax payer and their private pensions.  It’s big money; it’s the only money and these people know it. Call it the Failsafe option if you want. Bernanke knows this well.   The vast majority of the American population is completely unaware.

The owners of the IRAs will be compelled, first slowly and then more rapidly, to move their hard earned monies into GRAs or other annuity funds.  This expropriation has be discussed frequently at SilverDoctors.  The precedents set in motion in foreign lands will make this annuity system even more palatable to those who see these private monies as a new funding source. They will be taken under the guise of Fairness, Duty and Patriotic necessities.  The NDAA is just the mechanism to provide legal cover.  The law is set. Once the trigger is pulled it will be too late to stop this theft.

If you agree with me and I’m wrong, then we’ll both be wrong. No harm done.