The past week, the news that Merrill Lynch had hurried to pay out billions of dollars in bonuses before the end of the year, provoked a torrent of tirades and rage across America. Now, progressive blogs are in another uproar over the perceived lack of leadership from President Barack Obama in the fight for a stimulus program. Many defenders of President Obama demand to know what he might do different. And many seem not to feel, or do not yet understand, that the financial and banking system needs a complete reformation. Well, here’s my suggestion, in the form of a speech the President can give explaining a few crucial, truly transformative measures to the nation.

My fellow Americans,

We have reached a historic and dangerous juncture, where the operations and interests of our financial and banking system no longer serve the greater interests of our nation. What we once thought was the great blessing of financial innovation, we now see has led us down a false path to national ruin, individual misery, and increased indebtedness for all.

Banks are supposed to act as intermediaries between people who have saved and wish to invest, and those who need credit. They are expected to evaluate if a borrower is a good credit risk, and are supposed to be the mechanism by which money and credit is allocated and used in our economy. But we have found to our dismay that financial innovation has actually distorted and even destroyed the incentives for banks to play the role they should. Banks have been seeking the highest returns, but have failed to properly assess and manage the associated risk.

As a result, the financial and banking system has been failing to perform the task of allocating money to the entrepreneurs and businesses that use it best. Manufacturing and research and development have been slowly but systematically starved for funding over a period of many years, and the result is that with few exceptions, such as aerospace, all types of U.S. industry have lost their lead as world leaders in innovation, productivity, and efficiency. A January 2008 study of worldwide technological competitiveness by the Georgia Institute of Technology showed that China will soon pass the United States in the critical ability to develop basic science and technology, and turn those developments into marketable products and services.

In short, the banking and financial system was not creating value for the economy, but was destroying it. We are now seeing just how much value has been destroyed.

In a free market economy, one of the most essential functions of the government is the full and fair enforcement of contracts. But it has long been a principle of our legal system that a contract based in whole or in part on fraud or coercion is not a valid contract, and that the government should not enforce it. Indeed, the enforcement of fraudulent contracts can cause much more damage than the original fraudulent contracts, because it destroys the trust and reputation of an entire national economy.

Accordingly, I have ordered that all trading and activity in credit default swaps be frozen immediately. These financial instruments are the broken link in the chain of complex financial instruments that now threaten our economy. Credit default swaps are like insurance, but were carefully designed to avoid regulation as insurance. There were no mandated actuarial tables and no mandated reserves. There were no standards imposed for who could write and sell credit default swaps, and no standards for the calculation of risk and premiums. Many credit default swaps were sold with the explicit condition that they could never be sold on an open traded market, such as the Chicago Board of Trade or the New York Stock Exchange. This prevented regulators from examining these contracts and imposing minimal standards. This also meant that these contracts were illiquid, with no ready market in which they could be traded, and without a market mechanism in which prices could be set and settled in an open way.

In short, credit default swaps are illiquid and designed specifically to avoid regulation, and are based on improper mathematical principles and assumptions of risk. In other words, credit default swaps are fraudulent, and therefore the government has no obligation to enforce the contracts. [See Ian Walsh Cutting the Gordian Knot of Bad Contracts to Save the Economy See also, The Big Banks vs. America: A Roundtable with David Kotok and Josh Rosner.]

A review of the records of the previous administration and of the Federal Reserve indicates that much of the nearly $3 trillion already disbursed in the TARP and the various Federal Reserve programs to prop up the financial system were used to pay off the terms of credit default swaps written and sold by the AIG unit in London. We are currently in discussions with the appropriate authorities in Britain regarding the status and location of these funds. In case these discussions do not proceed satisfactorily, we are also examining and preparing what steps can be taken to prevent and seize all capital transfers to selected institutions in Britain. I have directed the Director of National Intelligence and the National Security Agency to cooperate fully in this effort.

We are also working on measures to prevent and seize all capital transfers to offshore financial centers, and to begin dismantling them. Some observers have called these offshore financial centers "secrecy jurisdictions," which have been purposefully established and structured to allow companies and individuals to escape observation, regulation and taxation by national authorities around the world. We have already seen that an inability to observe and regulate financial excesses will lead to general economic distress, so it makes no sense to allow these offshore financial centers to continue offering low or zero taxes, secrecy, and lax regulation. We also know that these offshore financial centers were often used to fraudulently obtain higher credit ratings for a number of financial operations, by isolating ownership of the financial vehicles from their true owners and controllers.

As an October 2008 article by the Tax Justice Network noted,

A company incorporated in the Isle of Man may belong to a trust in Jersey, hold its bank account in Luxembourg, with all apparently controlled by nominee directors in the Cayman Islands. Even if each haven's claim to be well regulated were true, the regulation of such a company falls between stools: they are, in effect, regulated nowhere, since each jurisdiction only accepts responsibility for what happens in its domain and none for the entity as a whole. This is deliberate.

Regulation cannot function effectively in such a world. The failing banks knew and exploited that. And tax havens will enable many beneficiaries of the years of exuberance to protect their winnings in offshore black boxes, even if law courts wish otherwise.

An indication of how large a problem these offshore financial centers have become is that the Cayman Islands, with 70,000 residents, are the fifth-largest banking centre in the world, with $1.5 trillion in banking liabilities. The Cayman Islands are also the world’s largest center of hedge fund registrations, with over 10,000 hedge fund registrations. Since 2000, the Cayman Islands have been on the “black list” of Non-Cooperative Countries and Territories of the Financial Action Task Force on Money Laundering.

A particularly troubling fact is that over half of these offshore financial centers, like the Cayman Islands, are members of the British commonwealth, and technically fall within the jurisdiction of British authorities. In fact, the International Monetary Fund officially considers the City of London as an offshore financial centers. In our negotiations with British authorities, we are insisting on full and complete disclosure of all bank accounts and all hedge fund registrations in all Commonwealth offshore financial centers, including the City of London.

In international law, there is a legal theory which holds that the national debt incurred by a regime for personal purposes or for committing aggression, is, like fraudulent contracts, not enforceable. Such debts are called odious debt, and are considered by this doctrine to be personal debts of the regime, and not debts of the state the regime controls. This concept is analogous to the invalidity of contracts signed under coercion.

The same legal principle of odious debt may be extended to the millions of mortgages that were sold on false pretenses, serving only to boost the earnings and bonuses of mortgage brokers and bankers. There is a complete circle of fraud here, beginning with home buyers who were often encouraged to lie about their incomes. The banks and brokers committed fraud, not just by encouraging people to lie, but also by failing to perform the due diligence required to estimate the credit worthiness of a home buyer. The companies that bought these mortgages and bundled them together committed fraud by deliberately under-estimating the risk of cascading defaults, and by failing to inform buyers of these sophisticated instruments of their full complexity and credit risk.

Clearly, however, where the greatest tragedy lies is in the suffering and anguish of individual human beings who are forced out of their homes. Almost all these people to some extent placed their trust in the banks and brokers that sold them mortgages to deal fairly and not place them in a situation in which they could not make the payments. This was misplaced trust.

But stopping these individual tragedies may be the easiest thing we can do at this point. I am deputizing as Federal Marshalls all county marshals and other local law enforcement officials responsible for carrying out home foreclosures, and ordering them to immediately cease all foreclosure proceedings on residential properties. I am also instructing them to insist that all creditors that have begun foreclosure proceedings on residential properties must produce clear titles and documentation of liens to the property. If the mortgage holder refuses to work with the court and the home owner to keep the home owner in the residence, I am instructing these new Federal Deputies to seize the residence on behalf of the home owner, to protect the homeowner in that residence, and to oppose all further proceedings against that property. (See Amy Goodman’s article on what Rep. Marcy Kaptur has been telling her constituents: Facing foreclosure? Don't leave. Squat.)

Our banking system is comprised of over 8,000 institutions, but the crises we face is actually the result of the policies and actions of only a handful of the largest institutions. I have directed the Secretary of the Treasury, the Comptroller of the Currency, and the Director of the FDIC to work with the Federal Reserve in taking effective control of the large banks and financial institutions the taxpayers already own. These institutions are: Citigroup, Bank of America, JPMorganChase, Wells Fargo, and to a lesser degree, Goldman Sachs, and Morgan Stanley.

According to information collected by the Comptroller of the Currency, almost 90 percent of financial derivatives activities are concentrated in just these six institutions. We have yet to determine how much of each institution’s financial derivatives activities are fraudulent, as in the case of credit default swaps discussed above, but we will move quickly to identify, and invalidate those contracts.

Effectively immediately, the top officers and boards of directors of these institutions have been relieved of their duties, authority, titles and offices. I have also directed that any amounts greater than $15,000 in their personal savings, checking, and other accounts be frozen, pending the completion of investigations into whether or not the past few years’ of excessive compensation may have involved fraudulent conveyance.

We will move as quickly as possible to break up the actual banking operations of these six firms, and hand them off to the over 8,000 banks and savings and loans which did not participate in the derivatives madness. This means that if you were banking at a Chase or a Bank of America branch in your town, your account will soon be under the management of a carefully screened and selected bank or credit union that has been operating in your community for years. And let me assure you that the FDIC stands behind all accounts up to the amount of $250,000.

To provide immediate economic relief to tens of millions of Americans, these nationalized banks are being directed to lower the interest rates charged to their credit card customers to no more than prime plus five and one half percent, for an effective annual interest rate at this time of six percent. Further, these nationalized banks are being directed to rapidly scale back the amounts of penalties and fees imposed on their customers. It is estimated that these measures will immediately increase the average household’s income by $25 to $50 a month. And this immediate stimulus will not cost taxpayers a single cent.

Finally, I have presented to Congress legislation to impose a securities transaction exchange tax (STET) of one half of one percent on all transactions in our financial markets. An immediate goal is to raise revenues to begin to repair the fiscal damage we have sustained. It is estimated that in the first year, a securities transaction exchange tax will raise nearly $200 billion in new revenues. How can it be unfair for someone buying millions of dollars of stocks, bonds, futures, or derivatives contracts to pay one half of one percent tax, when working people have to pay five percent or more in local and state retail taxes when they buy a loaf of bread or a pair of shoes?

But a far more important and far-reaching goal is to restructure the financial markets and force them back into coherence with the real economy. To plan, design, build, and equip an industrial facility or an infrastructure project, requires years of dedicated effort by hundreds or thousands of people. Yet, one single person can destroy all the effort of all those people in mere seconds by electronically transferring capital from one side of the globe to another. Banking and finance are supposed to serve the needs of the real economy. They no longer do. This must and will change.

A securities transaction exchange tax will begin to force out the short-term speculation that is so harmful to long-term industrial and infrastructure projects. For someone who intends to buy a stock or bond for the long term, a securities transaction exchange tax of one half of one percent will hardly be noticeable. But for someone looking to profit quickly by buying a security and then selling it the next day or next hour, this STET tax will be a formidable obstacle.

Before I close, let me note that I have directed the Federal Bureau of Investigation, and all financial regulators, to consider any individuals or institutions that oppose these measures as economic terrorists, and to investigate and pursue them according to U.S. laws designed to combat terrorism. I have also directed the National Director of Intelligence and the National Security Agency to immediately begin locating and tracking whatever foreign holdings these economic terrorists have.

These measures are tough, but they are not unprecedented. They will no doubt create panic in certain financial markets. But we have reached the point where we must decide to either save the financial markets, or save the nation. In large part, the financial markets have caused the problems we now confront. So I urge you, over these next few days, to ignore the wild fluctuations of the financial markets. There will be great weeping and gnashing of teeth as financial assets lose billions, even trillions of dollars in price. But to continue to attempt to prop up these prices would be a fatal mistake for our country, and for our future. We cannot allow the financial markets to dictate the terms of survival for our nation. Once we have restructured our economy, and begun the physical task of building the economic capacities that our children, and their children, and many future generations will use, then the financial markets will return to sanity and normalcy, and will once again be a reliable indicator of the underlying economic health and vitality of the country.

Our goal is to preserve the nation from these economic and financial troubles. We must not falter or flinch when the measures needed to do so harm the narrow interests of a privileged few.