Tremont Street Bldg., looking south from Keith's Theatre, Boston, Massachusetts
Ilargi: As we see ever more or less credible voices join the imminent everlasting recovery choir, this looks like a good moment in time to once again paint the picture of why we at the Automatic Earth will not sing along.
Nothing has been done to cleanse the financial system of its afflictions, open wounds and ailments, nothing has been achieved but the application of insanely expensive bandages, courtesy of you, designed to hide the lethally infected debt sores.
The longer the bandages stay on, the more people will say: "Looking good, there, boyo!" In fact, you look so good, how could you possibly be dying, or even be sick at all to begin with?
And if you die anyway, we'll all sing -and unashamedly lie through our teeth-, along with the President, who managed to claim today that the recession was ”even deeper than anyone thought" when he took office. Yeah, anyone at all. Sure. That is a bold faced lie, sir. Tell me, my American friends, what does a nation do when it finds its newly elected president lying? What do you think it should do?
Our dear friend Sharon Astyk asked us a few days ago how we see events developing over the coming months. That's a task, of course, for Stoneleigh (just got to find the nearest phonebooth). Here's her response to Sharon:
Stoneleigh: People have often asked us what event we see precipitating the next phase of the decline once this rally is over. In short, there is no need for a precipitating event as market moves are essentially endogenous.
I have no doubt that something will be rationalized as the cause after the fact, but it will not actually be causal. It is closer to reality to say that causation runs the other way - that market moves make the news than that the news moves the markets - although it is actually social mood that drives both.
As confidence ebbs and flows, people behave differently and perceive reality differently, and they do so collectively without being consciously aware of doing so. The exact same events can be rationalized totally differently depending on whether the prevailing mood is pessimistic or optimistic.
Social mood is extremely 'catching' (see mirror neurons), and is the foundation of herding behaviour, of which markets moves are but one manifestation. Market timing involves probabilistic predictions based on herding behaviour. For this to be possible without foreknowledge of specific future events, about which foreknowledge is impossible, those events must not be causal to market moves.
Anyone can guess at what may happen that will end up being described as the precipitating event after the fact. It could be an attack on Iran, an outbreak of a more virulent form of swine flu, a terrorist attack, a flare up of violence in one of the world's many powder keg regions, a rapidly escalating trade war, a high-profile assassination or any one of hundreds of possible events.
Such specifics are not predictable, and the rally will eventually end with or without them, once the most aggressive speculator has made his bet and the biggest sucker has been fleeced. The concern is that whatever happens could (and probably will) be used by the unscrupulous to channel the fear and anger of the herd in the direction of simplistic blame.
This fall is a reasonable possibility for the resumption of the decline, following a late summer recovery high. This is, however, not cast in stone. As a trend progresses, more and more people buy into it, until it begins to win over even the skeptics.
The more hold-outs who capitulate to the trend, the closer it is to a reversal. Already we are seeing some notable bears sounding uncharacteristically optimistic. They may not yet be accepting the recovery mantra, but they are seeing the rally lasting for a long time.
The more bears switch sides, the more bearish the message, as it is evidence that the herd is moving towards an extreme. When received wisdom, in this case as to recovery, is almost unanimous, then the trend will have gone about as far as it can, and the stage will be set for a sharp reversal. I think we are already seeing many clues that we are getting late in the trend.
Once the decline resumes, liquidity should dry up again very quickly. The rally has seen liquidity return with tentatively increasing confidence, which has made covering up the toxic mess very much easier, but that will prove to be very temporary. As liquidity disappears again, the intractable problems will be laid bare again, leading to a logjam in the financial system and rapidly increasing pressure for it to burst in a market cascade.
In a very real way, confidence IS liquidity. A firesale of assets could originate almost anywhere, which would reprice asset classes across the board. The CDS market in particular is a powder keg with a short fuse.
I expect the coming decline to be longer and much stronger than the downward phase, so next year should be an almost unmitigated disaster from start to finish. If you are still waiting to cash out then I would not wait much longer.
IMF puts UK banking bail-outs at £1,227 billion
The total amount of support handed to Britain's financial sector by the taxpayer and the Bank of England now exceeds £1.2 trillion and is bigger than for any other major economy. Fresh calculations from the International Monetary Fund have revealed the full scale of assistance meted out to Britain's collapsed banking system. The Fund said that when one combines all the support for banks, including capital injections, the buying of frozen assets,
Government guarantees and Bank of England liquidity provision, the total bill amounts to 81.8pc of gross domestic product – equivalent to £1,227bn. Although parts of this total are not strictly comparable since they incorporate amounts handed over in guarantees that are unlikely to be taken up, the figures will raise further concerns over the scale of the crisis and the impact it is already having on the UK's economic stability.
However, the calculations coincided with news that Fitch, one of the three major ratings agencies, had reaffirmed its AAA rating for the UK and given it a stable outlook. In May, Standard & Poor's warned of the possibility that it may downgrade the UK's rating, raising the prospect of an exodus of investors from sterling and the UK. The IMF figures also came as the FTSE 100 brought to an end its biggest monthly gain in six years. The index dropped 23.25 points to 4608.36, but was up 8.5pc compared with the start of the month. The last time it achieved such significant gains were in the weeks following the fall of Baghdad in 2003.
In its report, the IMF, which has repeatedly warned Britain over the size of its deficit, said that as a result of the global recession, Britain faces the biggest projected budget deficit of any G20 country, amounting to 13.3pc of GDP in 2010, compared with a deficit of 9.7pc in the US. However, the scale of the support for Britain's financial system will attract as much attention – particularly since it comes as the major banks prepare to update the market on their profits next week.
The Fund said that in the UK the support was divided between capital injections, comprising 3.9pc of GDP (£58.5bn), purchases of assets and lending by the Treasury, comprising 13.8pc of GDP (£207bn), guarantees, making up 49.7pc of GDP (£745.5bn), and central bank liquidity support of 14.4pc of GDP (£216bn).
Britain's total tally accounts for a fifth of the amount rich countries have spent supporting their financial systems, the total for which now amounts to $9.2 trillion (£5.5 trillion), according to the IMF research. The Fund said that although Governments would be likely to recover the initial outlay, they would still rack up large deficits in the coming years due to the economic repercussions.
George Osborne, the shadow chancellor, said: "It's official – the debt crisis is worse in Britain than any other major economy. The IMF today says Britain's budget deficit next year will be bigger than anyone else's, and that our national debt has grown proportionately faster than anyone. We now face a 100pc national debt and the humiliation of the first ever downgrade in Britain's credit rating, with all the higher debt costs that entails. Gordon Brown's denial of the truth about the debt crisis and the need to cut spending whoever wins the election is doing serious economic damage to Britain's recovery."
As well as affirming the UK's credit rating, Fitch said it expected the eventual cost of the financial sector bail-out to fall from an initial outlay of £145bn to £40bn, as banks recovered and the Exchequer reclaims the proceeds.
Back to the Good Times on Wall Street
Lucian Bebchuk and Alma Cohen, professor of law, economics, and finance and visiting professor of law and economics at Harvard Law School, respectively, write that postcrisis executive compensation policies appear even more lucrative than prior to the meltdown.
New York State Attorney General Andrew Cuomo released yesterday a report on compensation and income at nine major banks during 2003-2009. An assessment of these figures raises serious concerns from the perspective of both investors and taxpayers.
The Cuomo report focuses on nine large financial institutions that received substantial TARP support from the government. Below we focus on the compensation decisions these firms made during the first half of 2009. Assuming that these decisions are a sign of things to come, the firms’ post-crisis pay policies appear to be, in the aggregate, even more lucrative to the firms’ employees than precrisis policies.
From shareholders’ perspective, it is useful to examine what may be labeled "Earnings before Compensation ("EBC"), which are equal to the sum of net income and compensation expenses. A financial firm’s ECB in any given year represents the total pie to be divided between the two groups crucial for the firm’s existence and operations — the firm’s employees and the shareholders providing the firm’s capital. Firms’ compensation decisions determine what fraction of ECB goes to employees rather than left in firms’ coffers (or distributed as dividends) to shareholders.
During the first half of 2009, with the exception of State Street, the banks in the group have enjoyed substantial ECB levels. The bar graph below displays the fraction of the banks’ aggregate EBC levels paid out as compensation to employees during the precrisis years as well as during the first half of 2009.
As the bar graph shows, during each of the years 2003-2006, this fraction was in the 52%-62% range. In contrast, during the first half of 2009, this fraction was about 74%. To the extent that employees were not under-compensated during 2003-2006, investors have a reason to wonder: might financial firms be letting employees eat part of the investors’ lunch?
Defenders of firms’ compensation decisions argue that firms are paying what is necessary to retain able employees and to prevent the flight of talent. The aggregate figures of pay and compensation can also be useful in considering this argument.
In 2006, aggregate ECB for the banks in the group equaled (in 2009 dollars) $244 billion and the banks’ total compensation expenses were $143 billion. By contrast, assuming that ECB and compensation in the second half of 2009 will be the same as in the first half, the firms will pay an aggregate $156 billion even though they will generate an aggregate EBC of only $211. Assuming that the behavior of these firms is representative of the financial sector, investors might wonder why financial firms need in the aggregate to spend more on compensation even though they generate less value.
We now turn from the perspective of investors to that of the government (two perspectives that somewhat overlap as the government owns shares in some of these banks). We believe that government policy toward compensation in banks should focus on the incentives produced by pay structures, not on compensation amounts. But the above compensation figures should be of interest to public officials for two reasons.
First, during the financial crisis, taxpayers have expended substantial resources to shore up the firms’ capital, with the firms covered by the report receiving a total of $165 billions in TARP funding. The compensation amounts taken by employees out of the firms — $156 billion in 2009 alone assuming the second half of the year is the same as the first — are sufficiently large to have a meaningful impact on the firms’ capital.
Second, during the past two decades, compensation in finance has increased relative to other parts of the economy, and the financial sector has attracted an ever-increasing share of the country’s best and brightest. Following the financial crisis, there is widespread recognition that, in the post-crisis world, finance should command a smaller share of these best and brightest. To the extent that relative pay in the financial sector remains at or above its lofty precrisis levels, the desirable adjustment in the allocation of talent will be impeded or delayed.
Assessing the compensation figures for the first half of 2009 indicates that the good days of compensation are clearly rolling again. Investors and taxpayers should closely watch how these figures evolve during the remainder of 2009 and beyond.
The changing face of our economy
by Tim Iacono
The "advance" estimate for U.S. economic growth in the second quarter (the first of three estimates), came in at an annual rate of -1.0 percent, slightly worse than expected, but just look at how the contributions to growth (or the lack of it) have changed recently.
Government spending had its biggest quarter since 2003, and that's before a good portion of the stimulus money is disbursed, while net exports continue to benefit from a weaker dollar and fewer imports required by a suddenly more frugal consumer sector.
Hanging below the zero-axis in the graphic above are personal spending and private domestic investment, the former dipping back into negative territory after a brief respite in the first quarter, the latter recovering from a horrific first quarter that saw a drop of 39.2 percent that led to a negative nine percentage point contribution to the 6.4 percent annual rate of decline.
The first quarter marked the sharpest quarterly slowdown for the U.S. economy since 1982.
Economic growth has now contracted for four straight quarters, the longest stretch since the government began keeping records more than 60 years ago and, aside from rising stock prices, it's hard to see what will drive the economy forward in the period ahead.
Note that during the 2001 recession, personal spending did not decline during a single quarter and, after the bursting of the internet bubble produced a sharp decline in equipment and software spending (i.e., a component of private domestic investment), homebuilding quickly buffeted that category until it again reached a peak when the housing bubble was fully inflated a few years later.
This time around, there is no clear source of new growth (well, aside from the government)
Cash for Clunkers: What Can the Government Buy You Next?
Not surprisingly Americans are eagerly accepting fellow taxpayer's handouts to buy cars. At this rate, the money in this program will be emptied within weeks and then we'll have a new bigger program after that to get more people to spend. It is a beautiful country - let's review just the past 15 months.
- A year ago Bush sent us rebate checks so we can shop
- This year Obama cut our payroll taxes so we can shop
- First time home buyers are now handed $8000 (no, it's no longer just a tax credit anymore as many states have turned it into a down payment replacement) to buy homes
- And now the government is handing us "up to $4500" to buy cars
I mean what is left to subsidize? (don't ask)
In my projections, we'll have the home-buying handout raised to $15,000 and applied to all home buyers by this winter after the success of turning people with no down payment saved into home owners this spring and summer. Then, after this handout to buy cars empties, I envision the program being extended. That should get us through 2010.
If you are a newer reader you may not realize this but ---> [Jun 5, 2009: 1 in 6 Dollars of Income Now Via Government; Highest Since 1929]
Thankfully, most Americans don't ask where the money came from - they are just happy money shows up from the heavens year after year. Some don't realize it comes from "somewhere" whereas others I am sure could care less - they won't be around when the bill comes due. [May 29, 2009: In 1 year, US Taxpayer on the Hook for $55,000 More per Household] Heck I don't even have kids, so I am wondering why I care.
This is literally what it has come to in a country where the many don't have savings. Our government pays us to shop. And some of you actually consider moving away?
The counterargument of course is "this is our own money in the first place" - I agree with that, but we can't enjoy the services and not pay for them.
Strike that - it appears yes, we can
'Cash for clunkers' rebates survive - for the weekend
Attention car buyers: There's still time to get in on the "cash for clunkers" rebate rush. The House hastened to refuel the program on Friday, voting to pour in $2 billion to prop up the trade-in deals that have all but overwhelmed suddenly booming car dealers and exhausted the $1 billion the government had set aside. The Senate has yet to act, but the White House said weekend deals would count, no matter what.
The program, only a week old, was designed to encourage owners of pollution-spewing gas guzzlers to trade them in on new, more efficient cars, helping the hard-pressed auto industry and the environment, too. Enticed by rebates of $3,500 to $4,500, owners are jumping at the offer.
"Consumers have spoken with their wallets," declared Rep. David Obey, D-Wis., the chairman of the House Appropriations Committee. House members approved the measure 316-109 within hours of learning from Transportation Secretary Ray LaHood that the program was already running out of money. The Senate is expected to take up the measure next week, but the White House wouldn't make any promises for deals beyond the weekend.
President Barack Obama praised the House's quick work, saying the program had "succeeded well beyond our expectations and all expectations, and we're already seeing a dramatic increase in showroom traffic at local car dealers." Press secretary Robert Gibbs sought to assure consumers that the program would be alive at least a couple of days longer. "If you were planning on going to buy a car this weekend, using this program, this program continues to run," he said.
Senate approval for the extra $2 billion seemed less certain. When the Senate approved $1 billion in funding for the plan in June, Democrats struggled to round up enough votes. Sen. Dianne Feinstein of California pushed a separate plan requiring the new vehicles being bought to be vastly more fuel-efficient than the trade-ins, and she supported the measure that passed after receiving what she said was "absolute assurance" from Senate leaders that an extension would be modeled after her bill.
And Sen. Jeff Bingaman, D-N.M., said he was concerned with the way the House had paid for the extension, shifting $2 billion from a renewable energy loan program. He said that would "rob from the loan guarantees we provided through the recovery package that, in the long-term, will shift our country to homegrown, renewable energy while creating good green-collar jobs." Drivers seemed more concerned about greenbacks.
Dennis and Marcia Strom hurried to Walser Toyota in Bloomington, Minn., on Friday when they heard the rebate might not last. "I might have waited until the truck died," Dennis Strom said of his 14-year-old Dodge Dakota. "It's a good vehicle that suits our needs. But it's not worth $3,500." John McEleney, chairman of the National Automobile Dealers Association, said many dealers have been confused about whether the program would be extended and for how long. Many had stopped offering the deals Thursday after word came out that the federal money had been exhausted.
With so much uncertainty, North Palm Beach, Fla., dealer Earl Stewart said he planned to continue to sell cars under the program but would delay delivering the new vehicles and scrapping the trade-ins. "It's been a total panic with my customers and my sales staff. We are running in one direction and then we are running in another direction," he said. Called the Car Allowance Rebate System, or CARS, the program is designed to get old, polluting vehicles off the road and scrapped while helping car dealers pull out of the recession. "I think we are seeing ourselves being placed on the road to economic recovery here, and this road has been paved by the 'cash for clunkers' program," said Rep. Candice Miller, R-Mich., who represents a district heavy with auto workers.
Not everyone in the House was cheering. Some Republicans accused the Democrats of trying to jam the legislation through, and a number of lawmakers also complained that many dealers have been left to contend with a chaotic government-run program. "The federal government can't process a simple rebate. I've got dealers who have submitted the paperwork three times and have gotten three rejections," said Rep. Pete Hoekstra, R-Mich. "What is a dealer supposed to do?" The program was funded to provide incentives for up to 250,000 new cars. Sen. Debbie Stabenow, D-Mich., said about 40,000 vehicle sales had been completed through the program, and dealers estimated they were trying to complete transactions on an additional 200,000 vehicles, leaving the funding in doubt.
Could the great recession lead to a great revolution?
For the first time in generations, people are challenging the view that a free-market order – the system that dominates the globe today – is the destiny of all nations. The free market's uncanny ability to enrich the elite, coupled with its inability to soften the sharp experiences of staggering poverty, has pushed inequality to the breaking point.
As a result, we live at an important historical juncture – one where alternatives to the world's neoliberal capitalism could emerge. Thus, it is a particularly apt time to examine revolutionary movements that have periodically challenged dominant state and imperial power structures over the past 500 years. Following the collapse of the Soviet Union in 1991, which laid the foundation for liberal democratic elections and the expansion of the free-market system throughout the world, revolution and protest seemed to lose some of their potency.
Leading historians believed that a new age had appeared in which revolutionary movements would no longer challenge the status quo. Defenders of the contemporary system were suspicious of nearly all forms of popular expression and contestation for power outside the electoral arena. But remarkably, this entire discourse sidestepped the major impulses of human emancipation of the past 500 years – equality, democracy, and social rights.
Proponents of neoliberalism are indifferent to this history and dismiss the notion that "another world is possible" that could alleviate grinding misery and poverty around the world. But in opposition to the contemporary individualistic system of capitalism, evidence of a new global movement dedicated to social justice and human rights has sprung from the ashes of the past. Just in the past decade, we have witnessed the expansion of worker insurgencies, peasant and indigenous uprisings, ecological protests, and democracy movements. Historians frequently view revolutions as extraordinary and unanticipated interruptions of state social regulation of everyday life. This isn't the case.
In my work as editor of a new encyclopedia of revolution and protest, I've reviewed 500 years' worth of revolutionary actions. And the surprising pattern I've found is the regularity of volatile and explosive conflicts, commonly revealed as waves of protest from within civil society to confront persistent inequality and oppression. While historians cannot forecast the time and place of revolutions, the past has a sustained, if disjointed, record of popular resistance to injustice.
History shows that revolutions must have political movement and a socially compelling goal, with strategic and charismatic leadership that inspires majorities to challenge a perception of fundamental injustice and inequality. A necessary feature is the development of a political ideology rooted in a narrative that legitimates mass collective action, which is indispensable to forcing dominant groups to address social grievances – or to overturning those dominant groups altogether. Unresponsive rulers risk possible overthrow of their governments. For example, the vision and struggle of a multiracial South Africa was a guiding principle that put an end to the entrenched white-dominated apartheid system.
A second essential element is what Italian philosopher Antonio Negri calls constituent power, the expression of the popular will for democracy – a common theme in nearly all revolutions – through what he calls the multitude. Mr. Negri counterpoises the concepts of constituent power and constituted power to demonstrate the oppositional forces in society. Thus, following the American Revolution, the ruling elite created a second Constitution establishing a national government with fewer democratic safeguards.
In response to challenges from popular movements, modern states have concentrated power in constitutions and centralized authority structures to suppress mass demands for democracy and equality. Few democratic revolutionary movements have gained popular power as new states almost always consolidate control, often resorting to repression of the masses that initially brought them to power. Still, virtually all revolutions during the past 500 years have created enduring consequences that, in evolving form, remain forces for justice to this day.
Revolutionary movements must recognize the durability and overwhelming inertia of state power. They must acknowledge that they are highly unlikely to seize power from unjust regimes, even when their objectives have moral force and are deeply popular among the masses. And yet, history is full of exceptions to this rule, so we must conclude that while revolutionary transformation is improbable, it is always a possibility.
At a lecture to Young Socialists in Zurich just one month before the February 1917 Revolution, Vladimir Lenin said: "We of the older generation may not live to see the decisive battles of this coming revolution." Less than a year later, Lenin and the Bolsheviks gained power over the Soviet state with the initial support of workers, peasants, and most of the military.
In the last century, the opponents of the failed bureaucratic statism in the Soviet sphere and free-market capitalism in the West have struggled to find a discourse of resistance. While democratic opponents defeated Soviet Russia in the early 1990s, opponents of free-market capitalism have yet to gain traction, in part due to the general consensus among global rulers in defense of neoliberalism. As such, revolutionary movements have had to redefine themselves outside territorial borders as powerful tools of the global collective to petition for human rights and social justice for all.
People are inherently cautious and take extraordinary action only when they have little to lose and something to gain. The current economic crisis has pushed more people into poverty and despair than at any time since the early 20th century, to the point where alternatives to the current system can be considered.
Today, throughout the world, peasants, workers, indigenous peoples, and students are galvanized into movements that are challenging state power rooted in global norms of neoliberalism. New movements have gained greater traction with the legitimacy and strength of a global collective behind them, rather than as isolated protests. The oppressed are framing new narratives of liberation to contest power on a state and international level: whether peasants in Latin America or India struggling for land reform; indigenous peoples mobilizing resistance for official recognition of their rights; or workers and students throughout the world waging unauthorized strikes and sit-ins, and taking to the streets in support of democracy and equality.
Commercial property: A concrete problem
There is something comforting about investing in bricks and mortar. To many people it is a solid, "real" asset, unlike those complex pieces of paper that flighty financial markets spend all their time trading. But that very tangibility can lead to reckless speculation. Banks are almost always willing to lend against the security of property. The more they lend, the higher prices are driven. History is littered with stories of property crazes that ended in tears, from the Florida land boom of the 1920s to the recent subprime bubble.
After two years of pain, American house prices seem to be stabilising. But attention is now switching to the commercial-property market. Here too loans were bundled together to make complex securities, known as commercial mortgage-backed securities (CMBSs), on which defaults are now rising. And here too prices were driven higher by the use of borrowed money. Thanks to cheap finance, investors could use the time-honoured trick of covering the interest payments with the rental yield and hoping for capital growth on top.
Of this, there was plenty. IPD, an information group, calculates an index of global commercial-property returns. Between 1998 and 2007, this index trebled, easily outstripping the performance of the world’s stockmarkets. And last year, while the MSCI World Index of global share prices suffered a negative return of 40.3%, commercial property lost just 10.1%.
The good news is that, in most developed markets, the boom did not result in a glut of new building. But the good news pretty much ends there. Vacancy rates are rising sharply and in some businesses, such as investment banking, demand for space may never reattain its previous peak.
The aftermath of bubbles can last for a long time in financial markets. Wall Street has been celebrating the return of the Dow Jones Industrial Average to the terrain above 9,000. But it first passed that mark in April 1998. As with paper, so it can be with property. In Japan land prices are still nearly 60% below the peak they reached in 1991. Earlier this decade American homebuyers took false assurance from the oft-quoted fact that house prices had not fallen, at the national level, since the second world war; well, they have now.
At the moment transactions have dried up in the commercial-property market as owners try to avoid selling at a loss. Those owners are implicitly assuming that a rebound is imminent, yet the downturn may be prolonged. Such a downturn could inflict further damage on the banks. All the bad news may not yet be reflected on their balance-sheets; although they have had to take the hit on traded securities, like CMBSs, banks are usually slow to write down property-related loans. But as those loans come up for refinancing, losses will have to be taken unless owners put up more capital. Richard Parkus, an analyst at Deutsche Bank, reckons that American banks may eventually face $200 billion-$230 billion of losses on property-related loans.
Most of those losses are likely to land on small, regional banks, rather than the Wall Street giants that wobbled last year. That will still leave the American authorities with a dilemma if the losses prove potentially fatal. Will they allow banks to fail on the ground they are "too small to rescue", even if their failure would devastate the economies of the regions they serve? On the other hand, if they want to rescue the banks, do regulators have the resources to cope?
This is a dilemma that will spread worldwide. The commercial-property downturn has a greater geographical spread than the residential bust. Prices and rents have already taken a hit in Asian financial centres like Singapore and Hong Kong, in developing economies like India and Russia and in European countries such as Spain and Ireland.
The biggest danger may lie in refusing to acknowledge the scale of the problem. Some countries are awake to this: in Britain, where prices have fallen by nearly half in real terms, big property groups have raised equity to shore up their balance-sheets, and reduced prices are attracting foreign buyers to London. As the example of Japan shows, a short, sharp fall in prices is better than prolonged obfuscation and denial.
Towers of debt: The collapse in commercial property
From a distance Potsdamer Platz looks a bit like its old self. Once the central hub of Berlin, before it was turned into a rubble-strewn no-man’s-land divided by the Wall, it is now surrounded by shiny new towers. Get a little closer, however, and it becomes clear that many buildings are just façades painted onto giant hoardings that rise ten stories high between actual office blocks.
This subterfuge makes for a far more pleasant view than that provided by vacant lots. It also points to an unusual degree of restraint among developers in Europe’s second-largest property market (by transactions). The commercial-property market in most other parts of the developed world is in deep trouble.
Unlike other property busts, this downturn has not been driven by speculative overbuilding but by investors’ overenthusiasm. Commercial property was a popular asset class for much of this decade. Institutional investors who lost a lot of money when the dotcom bubble burst were persuaded that switching from the stockmarket into property would diversify their portfolios and reduce their risk. Cheap finance was plentiful. Investors could indulge in a version of the "carry trade"—borrowing at a low interest rate to buy buildings and counting on the rental yield and capital growth to more than cover their financing costs.
That strategy looked smart when rents and capital values were rising and vacancy rates were low. But as cheap financing has dried up and economies have tumbled into recession, investors have become badly exposed. According to Marcus & Millichap, an estate agent, the office-vacancy rate in Manhattan climbed by more than three percentage points in the first half of the year, to 11.2%. As tenants have disappeared, rents have fallen too—by 16% over the past year, Marcus & Millichap reckons.
Property prices have also been badly hit. Moody’s, a rating agency, estimates that American commercial-property prices dropped by 7.6% in May alone, leaving them almost 35% below their peak in October 2007. Prices would have gone down even further had not transactions dried to a trickle (see chart). Owners are loth to sell into a falling market, although some distressed sales are occurring.
All this sounds like a replay of the downturn in the residential-property market, where easy borrowing terms allowed homebuyers to push prices to extreme levels. To add to the sense of déjà vu, property loans have also been bundled into complex financial instruments, known as commercial mortgage-backed securities (CMBSs). The riskiest of these, mainly those issued between 2005 and 2007, are now running into trouble.
Realpoint, a credit-rating agency, says that nearly $29 billion of CMBSs, around 3.5% of the total, have become delinquent (ie, borrowers have not kept up interest payments) in the past 12 months. It thinks the delinquency rate could reach 6% by the end of the year. Richard Parkus of Deutsche Bank reckons the default rate could eventually reach 12%. Together with bad construction loans, that could push the losses of American banks on commercial property to $200 billion-230 billion. Many small banks will go under as a result.
European banks are exposed to property, too. The good news is that the two biggest euro-zone economies, France and Germany, have seen only modest declines in rents and prices. But one of Italy’s biggest property companies, Risanamento, is fighting to stave off its creditors. And pain is being felt all around the periphery of the euro area. In Spain and Ireland vacancies are surging, property prices are plummeting and cranes are standing idle.
Prices are plunging across central and eastern Europe, too, although the volume of transactions remains slim. Yields in many of these markets were driven down by hopes that they would, in time, converge with those in mature European markets. Vacancy rates in cities such as Budapest have surged to about 15% while those in Prague have almost doubled (to roughly 10%) over the past year. Some of the biggest falls in rents are taking place in Russia. Rents in Moscow have fallen by 63% in the 12 months to the end of June although they are still the third-highest in Europe (after the West End in London, and Paris). With almost one-fifth of office space empty, further falls in rents and prices seem likely.
Asia has not been spared either. The worst-affected property markets in the region have been financial centres such as Singapore and Hong Kong. Shrivelling bank balance-sheets have meant shrinking demand for office space, as armies of bankers have lost their jobs. Singapore’s swankiest business district led the retreat in office rents across the region, shedding more than half between June 2008 and June 2009, according to Cushman & Wakefield, a consultancy. Hong Kong was not far behind with a 43% drop in the same period. Mumbai (down by 40%) and Shanghai (32%) were the next hardest hit.
There are some signs that the speed of the downward adjustment is slowing. In Hong Kong, office rents in the prime central district declined by 20.1% in the first quarter. The fall was much more moderate, but still 10.4%, in the second. Looking ahead, Singapore seems particularly dicey, because 8.3m square feet (770,000 square metres) of new office space will be coming into the market by 2013. According to CLSA, a broking firm, oversupply will also weigh heavily on office property in China. Vacancy rates in Shanghai and Beijing could rise to 35% in 2010 from around 17% and 22% respectively today.
A year ago everyone was worried about losses on residential-property loans. If the latest data are any guide, both American and British house prices may be finding a bottom. Concerns are now switching to the commercial sector. History suggests downturns in that market last for years, rather than months. Almost 20 years have passed since the Japanese property market peaked. Prices still fell by 4.7% last year.
Q&A with Michael Lewis (Part 1):
The Rules of the Game Were Totally Screwed Up
I recently interviewed Liar's Poker author Michael Lewis, and I didn't even ask him if the Moneyball movie was on again. (Apparently it is, with Aaron Sorkin doing a re-write.) We talked about his new book, Home Game: An Accidental Guide to Fatherhood, but we also got into his take on the financial meltdown and the bailout. This is Part One of some excerpts. You can hear the full podcast at terrencemcnally.net.
As a former Salomon Brothers trader, Lewis could understand how individuals got caught up in the high-risk bubble.ML: There's a machine out there and a market... and as a trader you can borrow money cheaply, buy sub-prime mortgage bonds, and make the spread between the two.
Let's say you're a really smart guy who's sort of detached and intelligent about what's going on, and you see that this thing is totally irresponsible. The loans being made are likely to go bad; the lending standards are collapsing. The intelligent thing to do is not to buy sub-prime mortgage bonds but to bet against them, to sell them short.
As a trader inside a big Wall Street firm...you would face a decision: Do I exercise my independent judgment and bet against this market, or do I just keep going along with what my firm is doing? If you exercise your independent judgment and bet against sub-prime mortgage bonds, you not only probably run into some political conflict within your firm, but you'd never make the big score for yourself... The minute you make a bunch of money from your bet, your firm is doomed. They couldn't pay you. So the smart thing was just to go along and hope it lasted long enough for you to get rich.
So that accounts for single players and their firms, but what about the ratings agencies? We heard a lot of sports talk in the Sotomayor hearings. Weren't they supposed to be the impartial referees?ML: The sub-prime mortgage bonds were rated triple A by Moody's and Standard and Poor's. Why? Well, they could give you an argument, but in retrospect, it looks like a very foolish argument.
TM: It looks worse than foolish to me, it looks corrupt.
ML: When you think about corruption, there's the simple kind where I give you $1000 to interview me on the radio so it will promote my book. That's corrupt and we both know it. But there's a different sort of corruption where we're all part of a system that is rewarding us very well to pay attention to certain things and not pay attention to others. We're paid to have blind spots. There's an awful lot of that kind of corruption in the financial system because people's incentives are all screwed up.
Ratings agencies were paid by the people who issued the bonds to put the triple A rating on them. Their incentive is to please the people who are issuing the securities. They can't at the same time independently judge the securities.
TM: Arthur Andersen went out of business for doing basically the same thing with Enron. How could someone not see that they were recreating something which had already failed in a huge way?
ML: Some people did see...The people I find most riveting are the people who saw the magnitude of the coming disaster. They were sane men in an insane world. They would call Standard and Poor's and Moody's and say, "How are you rating these things? Our models show that if house prices even go flat, all these bonds will be worthless." To the question of what happens to these bonds if house prices go down, Standard and Poor's would say, "We actually don't know because there's no place in our model to put a negative number."
TM: Obama, Geithner and the administration are putting out plans for new regulations. This isn't in there?
ML: No. It should be illegal for issuers to pay raters for ratings. It's a bribe. Instead the administration says they're going to give the regulators more authority to evaluate ratings agencies. That doesn't do anything; they already had that authority.
Lewis cited another example of a conflict-of-incentives that's nowhere to be found in the regulatory reform conversation.ML: How can you possibly have a Wall Street firm that is at once owning securities, making bets on stocks and bonds for itself, and that it is also selling to customers? Inevitably, it will trade against its customers. It will deceive its customers for the sake of itself.
There's no reason both these functions have to be inside one place. You can have firms that provide financial advice but that don't take any positions in securities. Then you could have other firms that have their own trading accounts, but aren't allowed to deal with customers. Those functions should not be in the same place. It creates endless problems.
TM: And this also isn't in the Obama administration's reform plans?
ML: No it's not in there, and no one's even brought it up.
When Lewis suggests that the deeper problem is in "the air we breathe," he's not talking about the environment.ML: Arthur Andersen was in place to examine Enron, the credit rating agencies were meant to be examining bonds. In both cases they had the incentive to exercise bad judgment because they were being paid by the wrong people. The rules of the game were totally screwed up.
Well, why are the rules of the game totally screwed up? This is the deeper problem, I think, and it goes back to the days of Liar's Poker. In the last 25 years, our economy has created this beast, the financial industry, that is much, much too big; that is doing lots of things that have nothing to do with productive enterprise; in which the rewards are so outlandish, they've distorted the upper tier of the income structure. The reason CEO's get paid as much as they do is that Wall Street taught them how to do it.
You get a huge sum of money for doing something is actually socially and economically counter-productive. People made fortunes out of the sub-prime mortgage bond market. That's insane.
So our society has created this very strange economic value system, where really smart people, the leadership class, thinks it's the done thing to go to Goldman Sachs or Morgan Stanley and get paid three or four million dollars a year -- even though you don't actually add value in any way. Now it's in the air we breathe.
Look for Q&A with Michael Lewis (Part 2): There's a Real Chance There's Going to Be an Uprising about This
Ilargi: It may not be obvious to many of you, but there are still quite a few moments when I think I’m being far too gentle on many people. Joe Nocera asks some relevant questions in the NYT, and then veers off into what I think can best be compared to licking male body parts I'd rather not see any man lick. Noit for those reasons. And no, I don't I want to intrude on anyone's private lives. Or maybe I just think that because Nocera's conclusion makes me want to violently vomit:
We did get something in return for all that bailout money, [Tim Geithner] said. We got a salvaged economy, and a still-functioning banking system. "Nothing we did was for [the big banks]," he said. Rather, it was for the American people, who would have been in far worse straits if government had allowed the banks to go bust.
'Nice' Wasn’t Part of the Deal
by Joe Nocera
A few weeks ago, a woman named Judith Kipper asked Lawrence Summers a question that’s been on everyone’s mind — one that helps explain why the country is so angry at the big banks right now. Mr. Summers, the president’s top economic adviser, had just finished giving a speech in Washington, and was taking questions. Ms. Kipper, an expert on Middle East policy, was in the audience.
After first mentioning "the apparent unwillingness of banks to keep people in their homes," she pointedly asked Mr. Summers: "Do you have confidence that the banks, who helped to create the problem, and the C.E.O.’s and C.F.O.’s who are still there, are assuming a little bit of responsibility or at least self-discipline to do what is right for the country and not only for their bottom line?"
Mr. Summers was just as pointed in his reply. "No one should be confused about the extent to which the public sector has provided a foundation for financial recovery," he said sternly, ticking off such measures as the Troubled Asset Relief Program and the trillions of dollars in various government guarantees to the financial sector. He concluded, "It is very important that those in the financial system consider carefully their obligations to their fellow citizens."
But what are those obligations? Here we are 10 months past the frightful events of last September, when it appeared that the financial system was headed off a cliff. A number of the banks, including JPMorgan Chase and Goldman Sachs, have returned their TARP loans to the government. The second quarter was hugely profitable for not only JPMorgan and Goldman, but for Bank of America and Citigroup, as well. Executive compensation is likely to soar again; Goldman has already set aside billions for year-end bonuses, while at Citi, an important trader may well be able to lay claim to $100 million that he says he is contractually owed. Clearly, things are looking up if you work for a financial firm.
And yet, even as the banks’ prospects have improved, the government had to call a big meeting just this week of the nation’s largest mortgage servicers — which include the big banks — because it is so unhappy with the sluggish pace of loan modifications. Foreclosures continue to rise. According to an analysis by The Wall Street Journal, overall loan volume continues to decline; small businesses, especially, are gasping for credit. For many Americans, credit card rates have skyrocketed.
It is hard to look at the discrepancy between how the banks appear to be doing and how the real economy is doing and not conclude that something is wrong. A few weeks ago, after I wrote a column defending the Bank of America-Merrill Lynch deal, a reader left a message on my voice mail. "You think Bank of America has it tough because they have to pay 8 percent on their bailout money?" he practically shouted into the phone. "They just raised the interest on my credit card to 27 percent!" The message ended when he slammed down the phone in fury.
Companies talk all the time about "giving something back." But here is an industry that helped create a huge financial mess, and taxpayers have put trillions of dollars at risk to help revive it. If ever an industry should want to give something back, you would think it would be the financial firms, wouldn’t you? That is why people are so mad. They feel they have bailed out the companies and have gotten nothing in return. All of which raises the question: what do the banks now owe the country?
This is hardly the first time this question has stirred enormous anger. During the Depression, there was just as much antipathy toward the big money center banks, especially after the famous Pecora committee hearings exposed some of their seamier practices.
There was also, however, a surprising outlet for some of that anger. Under the laws at the time, bankers faced both criminal and civil liability when their banks went bust. "Bankers went to jail over this," said Gary Richardson, an economics professor at the University of California, Irvine. This was true even though, in many cases, the failed bank had been a victim of the Depression-era bank panic, rather than a bad actor that had taken foolish risks, as is the case today.
"The government has always recognized that banks are special institutions with an important role in society," said Mr. Richardson. "The whole ethos at the time was, ‘We’ll give you a lot of freedom, but if something goes wrong with these special institutions, we’ll punish you severely.’ " In part, that is why many bankers didn’t fight the set of regulations put in place by President Franklin D. Roosevelt; what they got in return was the elimination of that personal liability. The banking system also got financial assistance from the government’s Reconstruction Finance Corporation.
Still, by the mid-1930s, according to the Newsweek columnist (and F.D.R. historian) Jonathan Alter, Roosevelt was openly complaining that the nation’s bankers seemed to have forgotten how much the government had done for them. "In 1936," Mr. Alter said, "F.D.R. compared them to a drowning man who is saved by a lifeguard and four years later returns to ask the lifeguard angrily: ‘Where’s my silk hat? You lost my silk hat!’ "
In many ways, that is how people feel now about the banks. When I asked government officials and others this week what they thought the banks owed the country, I heard the same comments over and over: they needed to do more for Main Street, because taxpayers had done so much for them. "The people who invested billions of dollars in tax money in these banks expect them to join the effort to fix the broken credit market — not to fight every inch of the way to protect business as usual," said Elizabeth Warren, the Harvard professor and chairwoman of the Congressional panel overseeing TARP.
Barney Frank, the chairman of the House Financial Services Committee, told me the banks needed to start making more loan modifications — and pay themselves less. "Their mistakes got us into trouble," he said. "For them to be paying themselves this kind of money amounts to a moral deficiency." Frank Partnoy, a banking and derivatives expert at the University of San Diego, pointed out that lawyers often take cases on a pro bono basis. And doctors usually treat people who show up at an emergency room, even if they lack insurance. Bankers, he said, need to start doing the same thing, even if it cuts into their profits.
Even President Obama weighed in this week, telling BusinessWeek that "if you’ve presided over an enormous meltdown that has resulted in about $10 trillion worth of wealth being lost, that you might want to be a little self-reflective and perhaps change your business goal. And when I see Wall Street not doing that, it tells me not only that they have forgotten the recent past, but that they are putting the country’s economy at further risk." So why isn’t it happening? Why aren’t we seeing kinder, gentler banks trying to repay their debt to society? When I spoke to bankers this week, they sounded aggrieved at all the anger directed their way, and they claimed they were doing the best they could. And from their perspective, they are.
But their perspective is that of anyone running a business: their priority is to maximize profit for shareholders. That’s what capitalists do. And because they are banks operating in this difficult environment, maximizing profits means, for instance, jacking up credit card interest rates to cover increasing write-offs, and foreclosing when that makes more economic sense than modifying a loan. To ask them to put aside the profit motive, even temporarily, for the good of the country — it’s not even in their frame of reference.
The problem, though, is that a big bank isn’t just another capitalist institution; we’ve all learned that in the past year. For one thing, they are so important systemically that they can’t be allowed to go bankrupt. They always have the government as their ultimate backstop if they make too many mistakes.
Which is also why, if bank behavior does change, it won’t be because bankers see some new light. It will be because the government forces change on them. It has happened before, and not just during the Depression. Banks used to hide basic facts about credit card loans — until Congress passed the Truth in Lending Act in 1968. Banks never used to lend in low-income neighborhoods — until the Community Reinvestment Act of 1977 forced them to start.
If we want banks to modify more loans, or extend more credit to small businesses, or roll back executive compensation, the government is going to have to enact rules to make those things happen. For the banking industry, that is the flip side of having a government safety net: the government also gets to set the rules. It needs to start doing so.
Late this week, I asked the Treasury secretary, Timothy Geithner, what he thought the banks owed the country. In responding, he made a point that often gets lost in all the anger. We did get something in return for all that bailout money, he said. We got a salvaged economy, and a still-functioning banking system. "Nothing we did was for them," he said. Rather, it was for the American people, who would have been in far worse straits if government had allowed the banks to go bust.
I have to admit, Mr. Geithner’s answer caught me up short. Last fall, I was keenly aware of the reasons the government was rescuing the banking system, and wrote often about the rationale and why it made sense. But as the crisis receded, and the banks began returning to business as usual, I had lost sight of that important fact. Instead, I was just as angry as everyone else.
Turns out, bankers aren’t the only ones who have forgotten what the government did 10 months ago.
Ilargi: Hats off for Mish' excellent interpretation of employment numbers. Like GDP data seem to improve because imports collapse, unemployment can be made to look better because so many people are out of work too long to be eligible for benefits. And soon state bankruptcies will start driving the final nails into those millions of lives. The lucky ones who do find work get minimum wages and nothing in the way of health care plans or anything. It's like a high speed course in how best to slaughter an animal of your choice.
Weekly Unemployment Claims Portend Disaster
The Department of Labor Weekly Unemployment Report is now so skewed by abnormalities, it is difficult to get a clear picture. First, let's take a look at the data.Seasonally Adjusted DataWeekly Claims
In the week ending July 25, the advance figure for seasonally adjusted initial claims was 584,000, an increase of 25,000 from the previous week's revised figure of 559,000. The 4-week moving average was 559,000, a decrease of 8,250 from the previous week's revised average of 567,250.
The advance seasonally adjusted insured unemployment rate was 4.7 percent for the week ending July 18, unchanged from the prior week's unrevised rate of 4.7 percent.
The advance number for seasonally adjusted insured unemployment during the week ending July 18 was 6,197,000, a decrease of 54,000 from the preceding week's revised level of 6,251,000. The 4-week moving average was 6,416,250, a decrease of 131,750 from the preceding week's revised average of 6,548,000.
click on chart for sharper image
Initial Claims Analysis
One could point at the substantial +25,000 jump in initial claims and conclude things are deteriorating. However, it is difficult if not impossible to know exactly because a huge seasonal adjustment factor beyond the ordinary related to auto manufacturing plant shutdowns skewed the seasonally adjusted numbers.
The unadjusted drop of -78,111 is even more misleading. Moreover, the only way to use unadjusted numbers accurately is on a year-over-year basis and that fails for reasons stated.
Continuing Claims Analysis
Note the huge drop of 131,750 in continuing claims. Ordinarily this might be significant. However, these are not ordinary times. Much, perhaps all of that drop is due to benefits expiring.
Indeed states and federal programs have extended unemployment benefits several times. They do so but do not adjust the headline numbers.
Please look at lines boxed in red for Extended Benefits and EUC 2008. The latter is Federal extensions picking up where states left off. The former is state extended benefit programs.
Note that 2,656,879 people are on extended federal benefits compared to 127,438 a year ago!
In other words, the headline extended claims number of 6,416,250 is off by more than 2.6 million. And one also needs to add in another 352,000 from various state programs.
Still More Considerations
Even though EUC 2008 claims rose by 24,518, one cannot count on that number either because hundreds of thousands have used up all of their extended benefits.
On July 19, I noted 500,000 Will Exhaust Unemployment Benefits by September, 1.5 Million by Year-end.
Unemployment benefits plus extension last 79 weeks in New York, over 1.5 years. Yet, in June alone, for New York alone, 47,000 used up 72 of those weeks, and count on the extra 7.
From the above post, courtesy of Dave Rosenberg:
Record Number See Benefits End
Take a good look at that chart. It's 50,000 now. The expectation is 500,000 by September and 1.5 million by the end of the year. What are the odds Obama creates 1.5 million jobs by the end of the year? Can he really create any? For how long?
Emergency Unemployment Compensation
Inquiring minds may wish to consider the Emergency Unemployment Compensation (EUC) PDF.EUC is a federal emergency extension that can provide up to 33 additional weeks of unemployment benefits. The first payable week was the week of July 6-12, 2008.With that backdrop, here are some custom created charts courtesy of Chris Puplava at Financial Sense, based on my request. The charts show the effect of the EUC program over time.
The original extension passed in July 2008 paid up to 13 weeks of additional benefits. Effective November 23, 2008, we can pay up to 7 additional weeks of benefits.
Effective December 7, 2008, we can pay up to another 13 weeks of benefits.
Continuing Claims Since 2000
Continuing Claims Since 1970
Continuing Claims as % of Population Since 2000
Continuing Claims as % of Population Since 1980
Chris notes "The EUC and the extended benefits come out with a lag as Moody’s had data for them only up to 07/11/09 while the continuing claims data is up to 07/18/09. The charts above are through 07/11/09."
Unparalleled Continuing Claims
On a percentage of population basis this recession is unparalleled.
Making matters worse, the US consumer was nowhere near as leveraged to real estate in 1980 or 1982 as now. Also note that boomers are heading into retirement now, undercapitalized and looking for jobs, in effect competing against their kids and grandkids for jobs.
Look at the average age of baggers in grocery stores or greeters at Walmart. These people are not working because they want to; they are working because they have to. Demand for jobs is at an all time high while the number of available jobs and the pay scales of those jobs have both collapsed. The employment situation is not only an unmitigated disaster, things are about to get worse with pending state cutbacks.
Because of expiring claims, continuing claims data will soon start looking better. The reality however, is things will get worse for another year as unemployment soars into double digits. My forecast in January was 10.8% in 2010 while the Fed's was 8.5%. I see no reason to change mine, but the Fed upped theirs.
The implications for housing and especially commercial real estate are ominous.
Prolonged Aid to Unemployed Is Running Out
Over the coming months, as many as 1.5 million jobless Americans will exhaust their unemployment insurance benefits, ending what for some has been a last bulwark against foreclosures and destitution. Because of emergency extensions already enacted by Congress, laid-off workers in nearly half the states can collect benefits for up to 79 weeks, the longest period since the unemployment insurance program was created in the 1930s. But unemployment in this recession has proved to be especially tenacious, and a wave of job-seekers is using up even this prolonged aid.
Tens of thousands of workers have already used up their benefits, and the numbers are expected to soar in the months to come, reaching half a million by the end of September and 1.5 million by the end of the year, according to new projections by the National Employment Law Project, a private research group. Unemployment insurance is now a lifeline for nine million Americans, with payments averaging just over $300 per week, varying by state and work history. While many recipients find new jobs before exhausting their benefits, large numbers in the current recession have been unable to find work for a year or more.
Calls are rising for Congress to pass yet another extension this fall, possibly adding 13 more weeks of coverage in states with especially high unemployment. As of June, the national unemployment rate was 9.5 percent, reaching 15.2 percent in Michigan. Even if the recession begins to ease, economists say, jobs will remain scarce for some time to come. "If more help is not on the way, by September a huge wave of workers will start running out of their critical extended benefits, and many will have nothing left to get by on even as work keeps getting harder to find," said Maurice Emsellem, a policy director of the employment law project.
For many desperate job seekers, any extension will seem a blessing. Pamela C. Lampley of Dillon, S.C., said she sat outside the post office last month and cried because "it was the first Wednesday in quite some time that I’ve gone to the mailbox and left without an unemployment check." The jobless rate in her state is 12.1 percent.
Ms. Lampley, 40, who is married with three children, lost her job as a human resources officer in January 2008 and had been receiving $351 a week, which covered the groceries and gas. Even so, she and her husband, who still has work as a machinist, were sinking into debt. Now, still poorer, she feels devastated because they cannot buy their son a laptop to take to college and she cannot give her 9-year-old son money for the movies.
In Ohio, where unemployment is 11.1 percent, Cathy Nixon, 39, a mother of four teenagers from Lorain, has been out of work for much of the time since June 2007, and her benefits — $313 a week — run out in September. Ms. Nixon is already fighting foreclosure and said she feared that when the benefits end, "we’ll be homeless." She was unable to afford summer camp and baseball activities for her children, despite scrimping on basics.
Raymond Crouse of Columbus operated heavy construction machinery but has found no work since 2007. Mr. Crouse is 72 and receives Social Security but said that was not enough to live on. The $190 a month he has received in unemployment benefits enabled him and his wife to hang on to the house they bought 15 years ago, he said. But with the benefits ending next month, he fears that they will not keep up.
In ordinary times, employers pay into a state insurance fund, and workers who lose jobs draw benefits for up to 26 weeks. During recessions, Congress has often paid for extended coverage for an extra 13 or even 20 weeks.
In 2008, as the recession deepened, Congress provided 33 extra weeks of benefits. Earlier this year, President Obama’s stimulus plan offered an additional 20 weeks in states where unemployment surpassed 8 percent, if they adopted new federally recommended rules governing these extra weeks. (South Carolina did not make the changes, and benefits there are running out more quickly.) Currently, people can draw benefits for up to 79 weeks in 24 states and from 46 weeks to 72 weeks in others.
The stimulus law also, through the end of the year, provided an extra $25 a week to all recipients, exempted a portion of benefits from federal income tax and subsidized Cobra health payments for the unemployed. Representative Jim McDermott, Democrat of Washington and chairman of the House Subcommittee on Income Security and Family Support, said he would introduce a bill in September to provide yet another 13 weeks of coverage in states with unemployment rates of 9 percent or higher. "Legislators will line up quickly when they start getting calls from desperate constituents," he said in a telephone interview.
The cost would be $40 billion to $70 billion, but the expense would be temporary, Mr. McDermott said. Some business groups remain skeptical. Douglas Holmes, president of UWC, a group in Washington that represents businesses on unemployment issues, said that there were early glimmers of economic progress and that it was premature to extend benefits again. The money might be better spent, Mr. Holmes said, creating jobs and training people to move into emerging industries.
Traditionally, many economists have been leery of prolonged unemployment benefits because they can reduce the incentive to seek work. But that should not be a concern now because jobs remain so scarce, said Lawrence Katz, a labor economist at Harvard. For every job that becomes available, about six people are looking, Dr. Katz said. "Unemployment insurance gives income to families who are really suffering and can’t find work even if they are hustling to look," he said.
With the economy still listing, he added, a temporary extension can provide a quick fiscal stimulus. And, Dr. Katz said, when people exhaust unemployment and health insurance, many end up applying for disability benefits, which become a large, unending drain on the Treasury. Ms. Lampley, whose benefits have ended, described the tough job market. She used to make nearly $15 an hour and has unsuccessfully sought office and clerical work at $8 an hour. Mr. Crouse said that even if new building projects were planned, construction slows in the winter cold.
And Ms. Nixon said that she had interviewed endlessly for jobs in real estate and office work and that even her teenagers could not find fast-food jobs because laid-off adults were filling them. "I can’t find a job," she said, "and you can’t survive if you don’t work."
Ilargi: And here come the lies again: .... the recession was "even deeper than anyone thought" when he took office in January. Like Joe Biden before him, who made a similar statement a few weeks ago on Sunday morning TV, Obama knows very well that this is clearly and simply not true. He is lying, and he does so on purpose. Good luck with that belief.
Obama Says U.S. Has 'Many More Months' Before Full Recovery
President Barack Obama said it will take "many more months" for the U.S. to fully recover from the recession as employers continue to shed jobs. The president said in his weekly address on the radio and the Internet that yesterday’s government report on the gross domestic product showed the recession was "even deeper than anyone thought" when he took office in January. The stimulus legislation passed by Congress in February and measures to stem home foreclosures have helped stem the slide, he said.
"Important steps that we have taken over the last six months have helped put the brakes on this recession," Obama said. "But history shows that you need to have economic growth before you have job growth." Obama is putting the economy back at the forefront of his remarks to the public as polls show it remains the top concern of Americans. Next week he’s heading to Elkhart, Indiana, for an event focused on his economic policies. Obama said earlier this week that the U.S. "may be seeing the beginning of the end of the recession."
The Commerce Department reported yesterday that the gross domestic product shrank at a 1 percent annual pace in the second quarter, less than forecast, after a 6.4 percent drop in the first three months of the year. The economy has lost 6.5 million jobs since the recession began in December 2007, and economists surveyed by Bloomberg this month forecast the jobless rate will exceed 10 percent by early 2010. The Labor Department is scheduled to release the July unemployment rate Aug. 7. The June rate was 9.5 percent.
"As far as I’m concerned, we will not have a recovery as long as we keep losing jobs," Obama said. "And I won’t rest until every American who wants a job can find one." The GDP report is a "an important sign that we’re headed in the right direction" as business investment stabilizes, which may lead to more hiring. "That’s when it will really feel like a recovery to the American people," he said.
The revised government data showed that GDP has tumbled 3.9 percent since the second quarter of last year -- the biggest drop since quarterly records began in 1947. GDP has fallen four straight quarters, the longest ever. "I know that there are countless families and businesses struggling to just hang on until this storm passes," Obama said. "But I also know that if we do the things we know we must, this storm will pass. And it will yield to a brighter day." In a July 24-28 poll by the New York Times and CBS News, 36 percent of Americans said the economy was the most important problem facing the country. Twelve percent cited health care.
In the Republican address, South Dakota Senator John Thune said the party is committed to an overhaul of the U.S. health- care system while criticizing Democratic proposals for being "government-run" and too expensive. "The Democrats who control Congress have been spending money and racking up debt at an unprecedented pace," Thune said. "Their plan for government-run health care would only make things worse." Thune said the proposals being considered in the House and Senate would cost more then $2 trillion. The Congressional Budget Offices has estimated the Congressional proposals will cost around $1 trillion.
The Republican alternative, Thune said, would let small businesses join together to buy health insurance plans for their employees, protect hospitals and doctors from lawsuits and extend tax benefits to people who don’t get insurance through their jobs. "These and other commonsense solutions would provide real reform for our health-care system rather than the dangerous and costly experiment that Democrats are proposing," he said.
Public pensions draw scrutiny amid California crisis
California's rapid economic decline has prompted Gov. Arnold Schwarzenegger to propose what once was unthinkable — rolling back generous pensions in a state heavily influenced by public employee unions. The Republican governor said he's motivated by the need to save money. California has at least $63 billion in unfunded pension liabilities, an amount equal to roughly two-thirds of all annual general fund spending. The concern is shared across the country, as local and state governments wrestle with hundreds of billions of dollars in unfunded public employee pension and retiree health care costs.
New Mexico this year approved longer work requirements — from 25 years to 30 years — for state employees starting in 2010. New Jersey last year raised the minimum age to qualify for benefits from 60 to 62. Kentucky now requires new police hires to contribute 1 percent of their pay to help cover retiree health benefits. And Georgia has started a hybrid plan for new state hires that blends a defined-benefit pension — with set payments based on salaries — and a 401(k). In California, Schwarzenegger dropped long-term pension reform from negotiations with lawmakers to close the state's $24 billion budget deficit. He said this week that he would press for pension reform now the state has enacted revised spending plan.
"Again, everyone understands we are running out of money," he told reporters. "We cannot continue promising people things that we cannot deliver on." His proposal would not change the pension system for current workers, but would lower benefits for new employees. His office said such changes would save the state some $95 billion over 30 years. His administration has estimated that unfunded pension liabilities — money the state has promised to pay without earmarking where the funds will come from — could be as high as $300 billion if current investments fail to generate the projected returns.
But the reform proposal met with quick resistance in a state where large public employee unions contribute heavily to Democrats, the state's majority party. The potential for reduced retirement benefits adds to concern that California will not be able to attract qualified employees, said Christopher Voight, executive director for the California Association of Professional Scientists. For example, he said, the state needs microbiologists to test for swine flu, but has a hard time keeping them because they tend to leave for better pay at private labs.
Schwarzenegger wants to start by undoing a retirement package passed by California lawmakers in 1999 and signed by then-Gov. Gray Davis, a Democrat. Most state workers can retire as early as age 55. Their pension is based on 2 percent of their final salary multiplied by the number of years they worked. The payments rise with inflation. For example, a civil servant with 30 years in state government who made $70,000 a year could take early retirement at 55 with an annual pension of $42,000. Under Schwarzenegger's proposed reform, they couldn't retire until age 60.
Employees in high-risk jobs — such as firefighters — can receive up to 90 percent of their salaries if they retire at age 50. Under Schwarzenegger's plan, they couldn't retire until age 55. Retirees also are promised health care coverage for themselves and their families, a benefit that can cost the state $1,100 a month per retiree, according to the California Public Employees' Retirement System. Schwarzenegger's proposal doesn't tackle health care. To reformers, changing the state's retirement system is as much a matter of fairness as one of cost.
The Center for Retirement Research at Boston College found that while 43 percent of private employers offered some type of retirement plan in 2006, they tended not to be as generous as public employee packages. Private-sector workers also rarely receive retiree health care coverage, meaning most have to work until they can start drawing Social Security and Medicare at age 65. Workers born after 1960 will not be eligible to retire until 67. "People are upset," said Schwarzenegger's economic adviser, David Crane. "They don't have a defined benefit plan and ask, 'Why am I paying for someone else to have one?'"
Public employees do shoulder a portion of the commitment, contributing to their retirements through payroll deductions. Ed Hass, 54, said private companies need to do more. He found a job with the Department of Corrections in 2007 in large part because of the guaranteed pension. "You've heard of Enron, right?" he said. "Not only did (employees) all lose their jobs, they lost all their retirement tied to Enron's stock." Government workers and their union representatives often say the more generous pensions offset lower pay.
But the latest U.S. Census survey, from 2007, shows the average annual salary of California state government employees was $53,958, compared with $40,991 for the average private-sector worker. "The pension benefits for public employees in California are extravagant and they are going to bankrupt cities and counties, along with the state," said Keith Richman, a former state assemblyman who said he plans to launch an initiative campaign to change state employee pension benefits.
"Shadow" inventory lurks over U.S. housing recovery
The storm may have subsided, but clouds continue to hover over the U.S. housing market as homeowners waiting for prices to rise get ready to flood the market with fresh inventory. Many home owners held off selling during the housing market's downturn, but with the market showing signs of stabilization, they may now be ready to sell. Many analysts agree the market may have turned an important corner after Case-Shiller home price index for May rose for the first time in nearly three years, but a massive supply of unsold homes is waiting in the wings and could easily swamp the recovery before it can gather speed.
"The number of homes listed officially on the market, while still at historically high levels, might be only the tip of the iceberg," said Stan Humphries, chief economist at real estate website Zillow.com in Seattle, Washington. According to Zillow's latest Homeowner Confidence Survey, 12 percent of homeowners said they would be "very likely" to put their home on the market in the next 12 months if they saw signs of a real estate market turnaround, 8 percent said "likely," while 12 percent said "somewhat likely." The survey of 2,123 adults aged 18 and older, of whom 1,357 are homeowners, was conducted online.
Survey results could translate into around 20 million homeowners trying to sell their homes, a startling number given that the Census bureau indicates there are 93 million U.S. houses, condos and co-ops, Humphries said. According to the National Association of Realtors, the market is currently on track to sell 4.89 million homes annually. "At this pace, it would take about four years to run through this amount of backlogged inventory," he said.
Adam York, economist at Wells Fargo Securities in Charlotte, North Carolina, said 20 million may be too lofty a number, but contends that the amount of homes that have not yet been listed for sale could be around 4-5 million. "That is still an extremely high number," he said. "Supply is and will continue to be one of the main obstacles to a housing market recovery in the year ahead."
Low mortgage rates, high measures of affordability, and a $8,000 first-time home buyer tax credit, part of the Obama administration's economic stimulus package, have helped pave the way for stabilization in house prices. Standard & Poor's widely watched gauge, the S&P/Case-Shiller 20-City Home Price Index, rose 0.5 percent in May, the first increase since July 2006.
In more recent data, U.S. existing home sales notched their third monthly rise in June, while the inventory represented 9.4 months' supply at the current pace of sales, down from 9.8 months' in May, according to the National Association of Realtors.
The historic average is about six months' supply, so a huge imbalance between supply and demand remains. "Shadow inventory has the potential to give us another leg down on home prices during the second half of the year," said Steven Wood, chief economist at Insight Economics in Danville, California. "It appears that there is a significant amount of shadow inventory in the form of bank owned properties, which will continue to grow with the rising in delinquencies," he said. It can take about 4-6 months for a house for be out of foreclosure and ready for sale.
Torsten Slok, senior economist at Deutsche Bank in New York, said about 1.8 million homes are currently in foreclosure and they will continue to weigh on home prices at least for the rest of this year. "Foreclosures are creating a shadow inventory and this is the main problem in the housing outlook," he said. "Had it not been for foreclosures then the housing market would probably already have recovered."
Stabilization of the hard-hit U.S. housing market is key to a turnaround for the United States, so a delayed recovery could prolong a rebound for the world's largest economy.
John Canally, economist at LPL Financial in Boston, said the areas most vulnerable to shadow inventory are California, Florida, Arizona, and Nevada. "The areas where shadow inventories are likely to have the biggest impact are in the regions where we saw the most speculation and price gains during the boom times," he said.
Worker Compensation Grows by Lowest Amount On Record
Employment compensation for U.S. workers has grown over the past 12 months by the lowest amount on record, reflecting the severe recession that has gripped the country.
The Labor Department said Friday that employment costs rose by 1.8 percent for the 12 months ending in June, the smallest annual gain on records that go back to 1982. The department said that for the April-June quarter, its Employment Cost Index rose by just 0.4 percent, just slightly above the 0.3 percent rise in the first quarter, which had been the smallest quarterly gain on record.
Companies, struggling to cope during the current hard times, have been laying off workers, trimming wage gains and holding down overtime to save costs. The 1.8 percent increase in overall compensation for the past 12 months included a record low 1.8 percent rise in wages and salaries, which account for 70 percent of compensation costs. Benefits, which include such things as health insurance and contributions to pension plans, also rose by 1.8 percent during the past year, the lowest annual gain in this category since a similar increase during the 12 months ending in September 1997.
The rise over the past 12 months was far below the 3.1 percent increase in the 12 months ending in June 2008. Analysts said that with unemployment expected to keep rising even after the recession ends, wages will continue to remain under pressure and inflation will not be a threat. Ian Shepherdson, chief U.S. economist at High Frequency Economics, said that both wages and benefit gains have been cut almost in half over the past year. "As long as this lasts, it is very hard to see anything but downward pressure on core inflation," he said.
In a separate report, the Commerce Department said Friday that the overall economy sank at an annual rate of 1 percent in the April-June quarter, an indication that the severe recession is beginning to hit bottom. The economy had tumbled at a 6.4 percent pace in the first three months of the year. The Federal Reserve's latest survey of business conditions around the country, which was released Wednesday, found that while economic conditions remain weak, the pace of decline had moderated since the huge decreases in output that occurred at the end of last year and early this year.
As for wage pressures, the Fed said, "Most districts indicated that labor markets were extremely soft, with minimal wage pressures." The Fed reported businesses were using various methods to trim compensation costs including freezing wages or even cutting them in some instances. The Fed report, known as the beige book, will form the basis of discussion when policymakers next meet on Aug. 11-12 to consider what to do with interest rates. Economists widely expect that the Fed will continue to keep its key interest rate, the federal funds rate, at a record low of zero to 0.25 percent, where it has been since last August.
Many economists believe that the Fed will not begin worrying about inflation and the need to boost interest rates until the unemployment rate, now at a 26-year high of 9.5 percent, begins to come down. Some economists expect the jobless rate to peak above 10 percent sometime early next year. The economy has been hit by heavy layoffs as companies struggle to deal with the severe recession, which began in December 2007.
The Fat of the Land
If America is at war with obesity, then obesity is winning. Three out of 10 adults are obese—72 million people with a condition associated with diabetes, heart disease, some cancers and other chronic illnesses. The belt-busting American waistline is becoming as much a political as public health question—and if some politician hasn’t already introduced the No Buffet Left Behind Act, he will after this week’s big "Weight of the Nation" report from the Centers for Disease Control and Prevention. It’s almost quaint that government hasn’t tried to do more to deter weight gain. Perhaps it’s because the politics of fat are not easily digestible: Unlike traditional illness, obesity is largely the result of individual choices about diet and exercise. Still, maybe taxpayers really should care, given that they’re footing most of the medical bills.
The singular feature of American obesity is its steep, out-of-nowhere rise. For most of the 20th century, U.S. obesity rates were stable, with a slight upward trend through the late 1970s. Suddenly, they spiked across all demographic groups and have continued to rise unabated. In sheer body mass, the entire population is heavier than it used to be, and the heaviest are much heavier. Just between 1998 and 2006, obesity rates increased by 37%, according to the CDC.
The costs are nearly as startling. In a study published this week in the journal Health Affairs, CDC researchers estimate that obesity now accounts for 9.1% of all medical spending—$147 billion in 2008. The Milken Institute estimates that chronic disease costs more than $1.2 trillion every year. On top of the medical resources devoted to preventable illness, a fatter and sicker work force is a drag on economic growth. In effect, we’re eating money.
Not to mention the entitlement programs, which pay for more than half of all obesity-related illness. The CDC puts the annual per capita increase in Medicare spending attributable to obesity at 36%. Medicaid comes in at 47%. An earlier Health Affairs paper notes that if the prevalence of obesity were merely at 1987 levels, Medicare spending would be at least $40 billion a year lower. Why are Americans getting so fat, so fast? Harvard economists David Cutler, Ed Glaeser and Jesse Shapiro examined changes in U.S. food consumption and exercise between the 1970s and 1990s and came up with an empirical answer: Americans are eating too much. The growth in per capita calories in the food supply (rather than less exercise) is enough to explain the obesity explosion. We are eating larger portions and more snacks.
Enter the McLawsuit. Class-action litigation against fast food, Coke, General Mills and the rest a la Marlboro used to be a joke, but the Hamburglar will soon meet the same bill of indictment as Joe Camel. This may succeed in transferring wealth to the trial bar and creating a cartel of food conglomerates, a la Big Tobacco, but it has nothing to do with the public interest.
Namely, the food market reflects what people want. A business that disregards consumer preferences is unlikely to survive for long in today’s ultracompetitive food industry. The obesity paradox is that people are much better informed about nutrition as a result of label laws, education campaigns and so forth. They’re paying more attention to food than they have for decades. We spend more than $50 billion a year dieting, and anyone mainlining mayonnaise knows the risks.
Modifying such unhealthy habits is the only solution. But the policy quiver is not well-stocked, and the arrows are dull. Restricting access to unhealthy options, such as the use of transfats or prohibiting soda and candy machines in schools, is being tried across the country. Obama CDC director Thomas Frieden and the public health bureaucracy cite the smoking precedent, but the limitations are obvious. If we followed that example, we’d ban eating in restaurants.
Dr. Frieden thinks the tax code should target sugar-sweetened drinks, no doubt before moving on to fat, salt or calories. Yet sin taxes are unpopular, especially when imposed on dinner. In any case, the real problem is excess, so one option would be a tax on the overconsumption of food—that is, a tax on obese people. Fat chance of that. The depressing thought is that even if a new government intervention—such as chronic disease management in Medicare, which is trivial in both the House and Senate health bills—somehow changed behavior, it would take years for the health benefits to materialize, and even longer to reduce overall health-care costs. More preventive care is very expensive and almost never produces cost containment.
But Congress could give up its own bad habits right now. Start by reforming agricultural "policy," meaning subsidies that help make unhealthy food artificially cheap. Most of the new calories in the American diet come from processed foods, and taxpayers have underwritten them since the New Deal with huge price supports for commodity crops like corn and soy. These are processed into low-quality calories that make their way to consumers as refined starches, high-fructose corn syrup, hydrogenated oils and feed for livestock. Most farmers receiving ag subsidies are actually prohibited by law from growing "specialty crops"—i.e., fruits and vegetables—as protectionism for California and Florida produce growers. Call the 19% of kids who are obese the children of the corn.
Government could also free up the private market to change the economic incentives to have better health. If people have skin in the game, preventable costs fall. Safeway and other companies have saved a lot of money with wellness programs, and increasing cost-sharing also has a huge effect. Yet Democrats are moving in the opposite direction, prohibiting insurers and employers from designing policies based on health status and limiting the financial involvement of patients in their own care.
This is all part of their effort to pass "universal" coverage and gradually transition everyone into a single government program like Medicare, thus insulating people even more from the costs of their lifestyle decisions. Don’t expect to win the war on obesity by making the government fatter.
Sea of troubles: Shipping in the downturn
From the sheltered waters of Subic Bay in the Philippines to Falmouth on the south coast of England, a vast, swelling armada lies idle. In Asia’s deep-sea havens 750 vessels—container ships, bulk carriers, tankers, car carriers and others—are laid up. A further 280 are sheltering in European waters. According to Lloyd’s Marine Intelligence Unit, nearly 10% of the world’s merchant ships are swaying gently at anchor because of a collapse in global trade.
Since the recession bit hard last autumn a lot of attention has been paid to the plunge in the Baltic Dry Index, a composite measure of the cost of shipping bulk cargoes such as iron ore and coal. It fell by over 90% between June and October last year, although it has since recovered slightly and is hovering at just above a quarter of its peak. World trade in general remains in its worst slump for generations, although it too is no longer falling.
Two of the biggest shipping banks (RBS and HBOS) are in state-backed rehab. The parlous state of the world economy could mean more shipping companies following Eastwind Maritime, which went bankrupt in June. On July 28th Hapag-Lloyd, Germany’s largest container-shipping company, secured a €330m ($468m) bail-out from its shareholders while it seeks up to €1.75 billion to keep it from sinking altogether.
Worse, there is a huge supply of new ships on order and due off the slipways over the next four years. For bulk carriers alone, the backlog is equivalent to more than two-thirds of existing capacity. Philippe Louis-Dreyfus, departing president of the European Community Shipowners’ Associations, has called for an industrywide scrappage scheme to shrink the surplus. Warning of a "bloodbath", he said in June that shipping capacity would exceed the needs of the market by between 50% and 70% in the near future.
Nothing like this has been seen since the early 1970s, when lots of super-sized oil tankers, known as VLCCs (very large crude carriers), were built in expectation of huge growth in oil consumption just before the first oil shock. The result was a persistent surplus and no more orders for VLCCs for a decade. By the late 1990s the number of ships completed was running at around 1,300 a year. But from 2004 production picked up. Ships have also been getting larger (see chart). By last year annual completions were up by nearly 60% compared with a decade ago and the ships were 30% bigger. No wonder Lloyd’s List, an industry journal, is full of news of ship seizures and bankruptcies.
Yet a ray of sunshine is breaking through the storm clouds. The world’s shipbuilders are unlikely to convert all of their huge backlog of orders into deliveries given their unrealistic workloads and likely cancellations. Drewry Shipping Consultants estimates that nearly half the ships due to be delivered last year are still sitting on the slipway or the drawing board. Analysts at ICAP Shipping Research in London shrug off the idea that there will be a glut, since shipments of cheap Australian coal and iron ore to China have for years been constrained by a lack of big ships. More giant bulk carriers will lower the prices of ores delivered to China and stimulate trade growth, they say.
The outlook for tankers is less clear because of the volatility of crude-oil prices. Rates recovered strongly in June, according to ICAP, partly because large vessels were in demand for storage, as oil companies waited for crude prices to strengthen. Looking further ahead, the International Energy Agency expects oil demand to fall by 2.5m barrels a day this year, having already dropped by 300,000 b/d in 2008. But lower demand will be offset by a scheme to phase out single-hull ships on environmental and safety grounds in European and North Atlantic waters. The decline in production from mature oilfields in the North Sea and Alaska also means that replacement supplies will have to be hauled longer distances by sea to the refineries of Europe and North America.
The part of the shipping industry headed for the choppiest waters is the container trade, which had steamed ahead gloriously since the mid-1970s. The forging of global supply chains in the past 20 years, the rise in merchandise trade and the emergence of China as the workshop of the world created growing demand. Vessels became gigantic, with the latest capable of carrying 15,000 standard containers. Now the box trade, as it is called, is in the midst of its first decline. AXS Alphaliner, an information service that tracks the trade, has estimated that some 15% of capacity will be idle by October.
Shipping companies that operate the main container services linking Asia, America and Europe will lose about $20 billion this year, after making only $5 billion profit in 2008, according to Drewry. To blame is a $55 billion fall in expected revenues, only partly offset by savings from lay-ups, "slow steaming" to conserve fuel and opting for the longer and cheaper route round the Cape of Good Hope, which avoids hefty fees for using the Suez Canal.
The canal faces a drop in revenue of 14% this year. Container rates have tumbled: before last summer it cost $1,400 to move a container from China to Europe; today the rate is barely $400. Chang Yung Fa, the boss of Evergreen group, the world’s fourth-largest container fleet, based in Taiwan, talks of a "gruesome" excess of capacity. Three years ago he dropped plans to order new ships. Now he is scrapping part of his 176-strong fleet.
The grim outlook for container shipping is not simply a reflection of the recession. There is a deeper concern. Containerisation helped to promote globalisation by reducing the cost of shipping goods so sharply that manufacturers could afford to search the world for factories where costs were lowest. As a result, the amount of sea transport involved in manufacturing a given product rose. But some analysts worry that this one-off restructuring may be almost complete. So even when the world economy recovers, the rapid expansion of container trade may not resume.
Will Europe's Gen Y Be Lost?
With one in five Gen Yers unable to find work, a new "lost generation" may be in the making in Europe. Policymakers fear long-term unemployment could diminish the generation's future prospects on the labor market.
On paper, Jerome Delorme seems like a pretty desirable job candidate. The 23-year-old has a master's degree in European studies from the prestigious Sciences Po university in Grenoble -- once a sure ticket to a top company, even in hard times. And he spent a year studying in Dublin, speaks fluent English, and has already had several high-profile internships. But in three months of looking for work, Delorme has been able to land only another internship, at a nonprofit organization. "The crisis has made getting a real job very difficult," says the native of the southern French city of Valence.
Delorme is typical of Europe's Gen Y these days. Most of his friends are also pounding the cobblestones in search of employment -- as are about 5 million other young Europeans, or about 20 percent of the under-25 population, the European Union estimates. That's nearly a third higher than a year ago and well above the 8.9 percent unemployment rate for the EU as a whole. In some countries the situation is far worse. Nearly 37 percent of Spain's Gen Yers can't find work. In France, it's 24 percent, vs. 17 percent in the US.
Policymakers worry prolonged unemployment will hurt an entire generation's ability to compete in the workplace. When the economy finally recovers, many of the under-25s will have become over-25s, and younger rivals will be nipping at their heels for entry-level jobs. The big fear: Europe's Gen Yers will suffer the fate of Japan's Lost Generation -- young people who came of age in the recession-wracked 1990s but lacked the skills to find good jobs even after the economy started to pick up steam.
If that happens, the Continent would struggle to cope with large numbers of jobless young people. Violent protests over lousy job prospects earlier this year in Eastern Europe made politicians acutely aware of mounting social problems. "Most countries are moving in the right direction, but there's still a risk that unemployment will last for years," says Stefano Scarpetta, head of employment analysis at the Organization for Economic Cooperation & Development in Paris.
Governments are spending billions to keep the young busy via college grants and vocational courses until the economy recovers. On June 29, British Prime Minister Gordon Brown unveiled a $1.6 billion (€1.1 billion) scheme to create 100,000 jobs for young people, with a special emphasis on helping those who've been out of work for more than a year. And on April 24, French President Nicolas Sarkozy announced a $1.9 billion plan to find work for 500,000 young people by June 2010. That includes grants to companies that employ Gen Yers and a 12 percent increase in new government-funded apprenticeships in plumbing, carpentry, and other trades.
Some wonder how much good those programs will do given the severity of the downturn. "There's pressure on governments to find employment for young people, but I don't see how that's going to happen in the short term," says Giorgio S. Questa, a professor at City University's Cass Business School in London.
Business groups, meanwhile, fret that new apprenticeships could take jobs away from older workers and may prove unsustainable if government funding dries up. Neil Carberry, head of employment policy at the Confederation of British Industry, says similar programs in the 1980s failed because they simply kept young people busy without giving them sufficient skills to land more interesting work when the economy recovered. "People digging ditches and painting walls just doesn't add value," he says.
Lavish welfare systems ease some of the strain for Europe's Gen Y. With state-sponsored health care and ample jobless benefits, Europeans have fewer worries than unemployed twentysomethings in the US. And young Europeans are more likely to bunk with Mom and Dad than their American counterparts are, so it's easier for them to make ends meet while looking for a job. In Spain, for instance, more than half of people under 30 still live at home.
But that has done little to ease the pain of the crisis for many Spaniards. When the country's construction and real estate industries were booming, under-25s often skipped college to go straight to work, cashing in on the credit-fueled bonanza. Since 2007, though, the economy has imploded and may contract by 3.2 percent this year. Many young people were on short-term contracts, so they were first to be laid off when times got tough. And skipping further education in favor of employment, they often lack such skills as foreign languages, IT know-how, and advanced math that employers demand. Says Carlos Serrano, a 25-year-old electronic engineer from northern Spain who has been looking for a job for a year, with no luck: "The crisis has trapped us graduates at the worst possible time."
Electric-Car Startup Coda Gets More Cash Plus Hank Paulson As Advisor
Now that Tesla isn't the only electric-car startup in town, the news keeps coming. Today's updates are from Coda Automotive, based in Santa Monica, California. We've written before about their 2011 Coda Sedan all-electric car, which will beat Tesla, Nissan, and others to market when it launches next year. Today, Coda said it has raised $24 million in its second round of financing. Not only that, it has added President George W. Bush's former U.S. Treasury Secretary Henry M. (Hank) Paulson, Jr. to its advisory board--a logical fit given his extensive business and political experience in China.
First, the cash. Formally, the company has closed its Series B investment round of $24 million. Both Series A round investors--Miles Rubin, founder and co-chairman of Coda, and Angeleno Group, a large venture firm focused on clean tech--returned for the B round. That's always a good sign, as is new investors signing on. Here, the newbies comprise both firms and individuals, including Minnesota investment bank Piper Jaffray and Coda's co-chairman, Steven "Mac" Heller, plus its CEO, Kevin Czinger.
Other new investors; John Bryson, former chairman and chief executive officer of Edison International and Coda board member; Thomas "Mack" McLarty, Bill Clinton's former Chief of Staff; Farallon Capital Management founder and partner Thomas F. Steyer; and, of course, Hank Paulson. Why more money? Well, even being something of a virtual carmaker demands buckets of cash. It will support development of the 2010 Coda Sedan, which will appear at California dealers next year, as well as funding Coda's battery manufacturing joint venture.
Second, the famous guy. What appealed to former Goldman Sachs banker Paulson so much that he not only joined the advisory board, but invested in Coda Automotive himself? "Coda's non-capital intensive business model and globally collaborative partnership strategy persuaded me to join the advisory board," said Paulson. "Coda Automotive's approach will enable them to release the Coda electric sedan next year." We rather like the symmetry that Coda has established; one public personage each from the Bush and Clinton presidencies. Electric cars are bipartisan, and all that.
Earlier, by the way, UQM Technologies of Colorado announced that it had partnered with Coda to supply UQM PowerPhase 100 electric propulsion systems to Coda Automotive for a period of ten years. To civilians, that means the electric motor. Output of the UQM motor is 100 kilowatts (134 horsepower) of peak power and 221 foot-pounds of torque, from a small package: 10 inches by 11 inches. It is powered by a 33.8-kilowatt-hour lithium-ion battery pack, which will take six hours to recharge fully on 220-Volt current, or 12 hours using 110-Volt power.
Finally, Coda is publicly saying what insiders have surmised for a while: Coda's internal engineers worked with many partners, including validation and vertification of parts, processes, and manufacturing from a far better-known brand: Porsche Engineering. Which should go some way toward addressing any lingering worries about the safety of Chinese-built cars. The 2010 Coda Sedan will sell for $45,000 before a $7,500 Federal tax credit (and possibly an additional California credit as well). Its range will be 90 to 120 miles, which Coda says covers a full 94 percent of all daily car trips made in the United States.
Europe: First, the good news
At the beginning of June Jean-Claude Trichet, the head of the European Central Bank, set out its latest forecasts. Though the worst of the downturn had probably passed, he said, the euro-area economy would be unlikely to grow until the middle of 2010. Just a few weeks later Mr Trichet looks too gloomy. Figures published on August 13th are likely to show that GDP shrank again in the second quarter, but that this will probably be the low point.
More timely indicators suggest the economy has started to grow again. Businessmen are cheerier. The gauge of German business sentiment published by Ifo, a research institute in Munich, rose in July to its highest level for seven months. Confidence in France increased for a fourth straight month, according to a survey by INSEE, the national statistics agency. The brighter mood reflects orders and sales. Euro-zone industrial output rose in May for the first time since September. A broader index, based on surveys of purchasing managers in manufacturing and services, was much stronger in July.
This revival of animal spirits counts because so much of the downturn owed to a collapse in business spending. Firms slashed their capital budgets and pared back stock levels when their export sales collapsed. Foreign demand is now returning. Euro-zone exports to China rose by over 40% between January and June, according to Goldman Sachs. Shipments to India have also picked up. Orders in Germany are improving as its capital-goods firms benefit from infrastructure spending in Asia. The fresh signs of life in America’s housing market raise hopes that recession is lifting in Europe’s biggest export market.
Consumers are also perking up, though compared with firms they had barely cut back. In the year to the first quarter, the worst period for the economy as a whole, consumer spending in the euro area fell by 1.2%, less than in America and far less than in Britain. That figure conceals a split: consumption in Germany was stable, and in France, it grew; but in Italy and Spain it fell off sharply. Spending in the euro zone as a whole has since strengthened, though the North-South divide remains.
Retail sales picked up in Germany in April, and again in May, but faltered in Spain and Italy. In France household spending on manufactured goods jumped by 1.4% in June. Government incentives to support new car sales by offering cash for old ones have tempted buyers into showrooms. Spending power has also been boosted by falling consumer prices. A revival in trade, business optimism and resilient consumers: that combination promises modest growth this quarter. There may even be some pleasant surprises in the next few months. Germany’s economy could bounce back faster than expected, because its cuts in business investment and stocks have been so savage.
But the good news ends there. One worry is that more pain is due in Spain, Italy and elsewhere. The surprisingly large fall in second-quarter GDP in Britain is a blow to its euro-zone trading partners. It is also a warning that recovering from housing and credit busts is hard. Spain and Ireland were big sources of euro-zone demand, before their housing busts. Spain will soon find it harder to offer fiscal support to its economy. Italy’s exporters are struggling with high wage costs and a strong euro. Eastern Europe, once a fast-growing market, is also sickly.
The longer-term fear is that unemployment will drag the economy back down. The risk is greatest in countries where job cuts have so far been modest. Compared with Spain, where a nasty construction bust has already put many out of work, the jobless rates in France and Germany have barely responded to lower output (see chart). German job losses have been stemmed by a government scheme that subsidises the wages of those on short-time working. Around 1.4m workers are receiving the short-time allowance. The reduction in labour supply because of the scheme is equivalent to some 400,000 full-time employees.
Such schemes cannot last for ever. Car firms and their suppliers have been among the keenest users of short-time working, anxious to keep skilled staff. Yet unless demand for cars stays high after "cash-for-clunkers" incentives fade, the car industry in Europe will need fewer workers.
Similarly, labour hoarding in France also comes at a cost. French firms in aggregate still spend more than they earn, despite cuts in investment. Action taken to bridge that gap while financing conditions are still tight would include job cuts. As in Germany, that process could be slow and rely more on hiring freezes than lay-offs, says Julian Callow at Barclays Capital. But it would weigh on consumer demand all the same. Although Europe shows signs of recovery, there are plenty of reasons to fear it will not be a robust one.
Housing Boom Finds 190 Million New Customers
The world’s next great housing boom may be taking shape in Brazil. The missing ingredients are a full-fledged mortgage market -- one that steers clear of the pitfalls the U.S. encountered -- and sound government policy. Construction sites dot the landscape throughout the vast country of 190 million. In fact, Caixa Economica Federal, Brazil’s second largest federally controlled bank, is hiring a satellite-imaging company to monitor work on thousands of buildings financed with Brazilian government money.
The key drivers of the activity are both economic and political. There’s no doubt Latin America’s biggest economy is coming out of a recession as the nation’s benchmark interest rate was cut to a record 8.75 percent last week. Credit is flowing more freely as bank lending expands at the fastest rate this year.
Mostly, though, the hot real estate market is fueled by political forces rather than economics. In March, the Brazilian government adopted "Minha Casa, Minha Vida" -- "My Home, My Life" -- a 34 billion reais ($18 billion) program to build 1 million homes for low-income families. Under the new program, families earning as much as 4,200 reais a month will be able to buy a home at a near-zero interest rate, refinance it over 36 months in case of unemployment and be fully bailed out by the government in case of death. Meanwhile, a mortgage for a middle-class Brazilian can carry an effective interest rate of more than 13 percent with no comparable breaks.
This housing plan, along with tax cuts for selected building materials, originally was part of a broad policy to counter the impact of the global financial crisis on Brazil’s economy. With the economy already rebounding, the subsidy’s main impact will be its role in next year’s presidential campaign. President Luiz Inacio Lula da Silva hopes the plan will attract votes for his Workers Party candidate, Dilma Rousseff. Lula used another government subsidy -- Bolsa Familia, a cash transfer program to the poor -- to help his re-election in 2006.
The four-month old "Minha Casa, Minha Vida" program is just getting off the ground. Yet, the government’s support for it is already encouraging real estate development, creating thousands of construction jobs and boosting the local stock market. The nation’s civil construction businesses employed 27 percent of all workers formally hired in the first half of the year, according to the labor ministry. Meanwhile, the country’s manufacturing industry lost 144,000 jobs.
While the Bovespa Index is up 43 percent this year, the two largest Brazilian homebuilders, Cyrela Brazil Realty SA and Gafisa SA, have more than doubled. Shares of Construtora Tenda SA, which serves the lower end of the market, have quadrupled this year; Gafisa purchased a controlling stake in the company last year. But the potential for Brazil’s real estate market beyond the government program is stunning. Mortgage lending represents only 2.5 percent of the country’s gross domestic product, according to the central bank. The comparable figure is 11 percent in Mexico, 20 percent in Chile, 45 percent in Germany or Spain and 68 percent in the U.S.
In the last 12 months, the worst period of the worldwide credit crunch, mortgage lending in Brazil rose 41 percent, twice as fast as consumer credit. So Brazil’s real estate market has nothing but rosy days ahead, right? Not quite. The Brazilian banking system is healthier and less leveraged than in the U.S. The problem is that mortgage financing is dominated by public banks. Government institutions control 73 percent of outstanding mortgage loans, while private banks, foreign and local, split the rest of the market.
Private-sector bankers aren’t writing many mortgage loans because they view other types of credit as more profitable and returns on mortgage transactions still aren’t commensurate with the risks of late payments and default. Brazilian consumers pay interest rates that average 45.6 percent on most financed purchases, more than triple the rate on mortgages. Politicians, on the other hand, don’t seem to care much whether the financing for the government-backed housing plan generates about bad loans. They figure the Treasury will bail them out if needed.
If Lula and Rousseff put political interests first, they probably will demand construction of more houses than Caixa and other federal banks can safely finance. Lula has already shown a fondness for meddling in the affairs of the public-sector banks by replacing directors with Workers’ Party loyalists. Earlier this year Lula fired the head of publicly traded Banco do Brasil for refusing to cut the bank’s interest rates to aid the economy and, in turn, Rousseff’s election prospects. Brazilian authorities have come a long way toward developing the mortgage market.
Still, a lot remains to be done. One key change: encourage private banks to participate by allowing them to negotiate loan terms and interest rates with home buyers. Currently, government legislation stipulates the characteristics of 80 percent of the contracts. Without getting the private sector on board, the risk of taxpayer money being used to bail out federal banks will mount, risking a repeat of Brazil’s 1980s subprime debacle. Back then, government subsidies created a mortgage liability equal to 150 billion reais, which Brazilians will be paying for until 2027. It might take more than advanced imaging satellites to keep this boom from going bust.
Everyone’s a winner in Alice in Zapateroland
After a year of mudslinging and recrimination, Spain’s prime minister, José Luis Rodríguez Zapatero, has finally worked out how to stop regional governments squabbling over the shrinking pot of public finances. The solution is simple. They can all have more. An extra €11 billion euros ($15.6 billion) will be distributed, marking another step in the march of power away from Madrid towards the country’s 17 regions. With the budget deficit already ballooning, the deal will make sound economic management still harder.
Even those regions run by the opposition People’s Party (PP), which include Madrid and Valencia, did not vote against the offer. They abstained. They do not like the new system but, facing economic problems of their own, prefer to take the money. The deal is frustratingly vague about numbers, though some regions, such as Catalonia, will be bigger winners than others. It is the financing model that best reflects the reality of Spain, said Mr Zapatero.
So if everyone is a winner, who loses? The central government will have less, says Jesús Fernández-Villaverde, of the University of Pennsylvania. Economists think the deal will increase the budget deficit—already heading towards 12% of GDP—by one percentage point. The finance minister, Elena Salgado, admits the deal will increase the central budget deficit a bit, but argues it will mostly transfer existing debt from the regions to the central government. Future taxpayers are losers too, as they must pay off Spain’s debt in the long term.
For the moment, Mr Zapatero looks like the winner. At elections last year, his Socialist Party fell seven seats short of an absolute majority. Many of the extra parliamentary votes Mr Zapatero needs are in the hands of small regional, nationalist or separatist parties. There is no better way to keep them sweet than to increase funding for their home regions.
The new deal certainly reflects one of Spain’s new realities: the big spenders of public money are regional governments, who run education, health and myriad other services. It did not, however, fix one big problem. Regional governments may decide where a lot of the tax money goes, but have little influence over how it is raised (except in the Basque Country and Navarra, which remain outside this deal). So there is less pressure on them to be efficient.
The spread of devolution has been a game of follow-the-leader: independent-minded regions such as the Basque Country and Catalonia show the way; the others demand equal treatment. The latest financing rules are, in many ways, a result of Catalonia’s statute of autonomy, passed by the Socialists in 2006. Under Mr Zapatero, devolution continues apace. What no one can say is where, or when, it will end.
Spain's property market: Tricks and mortar
Spanish banks have been doing their best to shield themselves from the bursting of the country’s property bubble. By buying properties before the loans on them go bad, lenders can mask their worst bets. Restructuring loans has the same effect. Help is now at hand from an unlikely source: the normally sober Bank of Spain. In July the central bank circulated guidance that relaxed provisioning rules on risky mortgages.
The change makes some sense. Until now, banks have had to make provision for the full value of high-risk loans—those above 80% of the property’s value—after two years of arrears. That was far too demanding, since property values rarely fall to zero. Under the new rules, they only have to allow for the difference between the value of the loan and 70% of the property’s market value.
Yet the timing is terrible, mainly because the move follows heavy lobbying from the banks. The Bank of Spain maintains that the net effect on the system will be neutral since it is also tightening rules for bad consumer loans. But the impression is that Spain’s central bank—one of the few to emerge from the crisis in credit—has moved the goalposts to help banks deal with the onslaught of bad property loans.
For Spain’s two largest banks, Banco Santander and BBVA, which have diversified abroad and reported decent second-quarter results this week, the new guidance will probably have only a marginal effect. But it will be a boon to smaller lenders with greater exposure to risky loans. Iñigo Vega, an analyst at Iberian Equities, estimates that the new rules would relieve banks of the need to make provisions of about €22 billion ($31 billion) in coming months (assuming non-performing loans reach 8% by the end of 2010). To put that into context, Spain’s savings banks, which are heavily exposed to developers, are expected to make profits of only €16 billion before provisions this year.
The new accounting guidelines will help Spanish lenders smooth out the effects of the property bust over time. But the risk is that the problems are merely postponed. The ratio of bad loans to the total, property included, has tripled to 4.6% over the past 12 months as unemployment appears to head inexorably towards 20%.
The true picture is worse still. Commercial banks have bought about €10 billion in debt-for-property swaps, according to UBS. Spain’s savings banks do not disclose the figure. Assume it is similar to their commercial peers and reclassify all these property purchases as bad loans, and then the non-performing loan ratio would be 5.7% (before any further adjustments for loan restructuring). Deferring losses to mañana doesn't change the extent of the difficulties facing Spain’s financial system.