New York City subway
Ilargi: During his State of the Union address last week, President Obama said this:
"We’re working to lift the value of a family’s single largest investment -- their home [..]"
While this statement raises many questions -or should at least-, it's also very clear in a way: it's all you need to know about current American politics. This becomes all the more poignant when you realize that no-one lifted even one finger in protest. Given the impact of the policy, not to mention the amount of money involved in executing it, that is amazing. Not in the least because it has the potential to throw the country into a deep dark pit, from which it may not arise for many years to come, if ever.
Foreclosures are projected to increase in 2010. There are at least 8 million foreclosed homes that haven't been put on the market yet. The Case/Shiller prediction for US home prices is a further 28% loss in 2010. That's roughly $40,000-$50,000 per home. In additional losses.
The government attempts to counter the trend of falling prices with "subprime" mortgage terms (3.5% down) delivered through the FHA. The government also these days purchases just about all home loans made, still over 400,000 per month, through Ginnie Mae, Fannie Mae and Freddie Mac. The nominal value of the mortgages in their portfolios is estimated at $5.5 trillion.
Now, take a look at this first graph from Chicago mortgage broker Michael David White. It says that the total Residential Mortgage Debt Outstanding has come down $70 billion from the top. To meet the Supportable Debt trendline, it would have to fall another $5.58 trillion. Yes, that is the same number that the GSE's combined loan portfolios hold.
That's a lot of money. To meet the trendline, values would need to fall 47.3%. So far, they're down just 0.56%. Promising. When we take a look at the by now famous Case/Shiller graph, which depicts home prices, not mortgage values, we find a different picture altogether.
Home prices are already down by over 32%, according to Case/Shiller. Mortgage debt outstanding will have to catch up with that trend at some point. In other words, that leaves us with multi-trillion dollar upcoming losses in the difference between absorbed losses in homes vs mortgage loans.
These losses are sure to keep growing for a while longer. Remember the 28% price fall Case/Shiller project for 2010. The mortgage debt losses will be divided between borrowers, lenders and purchasers of mortgage-backed securities.
And here we return to Obama's statement about lifting home values. Why would a government want to get involved in any such thing? Isn't Fannie and Freddie's objective, for instance, to make homes affordable for everyone? Why then try to lift the prices, which runs counter to this objective?
Here's why: the government, make that you, the people, owns a huge chunk of the mortgage debt. Not only do the GSE’s have $5.5 trillion "worth" on their books, the Federal Reserve has bought trillions "worth" of MBS securities over the past 18 months or so. If Washington allows real estate prices to fall back to the trendline they were on little more than a decade ago, a mammoth amount of additional federal losses would become glaringly obvious to the public. We should add to that the potential pressure from China, Japan and other nations, which hold scores of MBS, to minimize their losses.
And then Obama's statement, and his policies, become much easier to understand. The administration is caught up in a desperate attempt to keep prices at elevated levels, far above trend levels, because it itself has financed much of the movement towards those high prices, and is presently buying anything for sale just so they don't keep falling.
Does this policy have any chance of success? No, it doesn't, not for any extended period of time. The reasons for that are for instance the mountainous levels of personal debt in America, the rising foreclosure rates, the 11 million unsold homes inventory, and the number of unemployed Americans, which varies anywhere from 15 million to 40 million, depending on how you count. Personal incomes in 2009 fell most since 1938. There are dozens of other trends that doom the "lift home values" policy. But the administration, as well as Congress (not a negative word was heard from the GOP on the Obama statement either) have painted themselves into a damp dark corner from which escape will be immensely painful, no matter what they try. In fact, what they actually try to do is pass on the pain to you.
Continuing the efforts to keep prices artificially high will become ever more costly as time goes by. We're talking here about head fake prices for a head fake market. Assuming that the 28% Case/Shiller price fall prediction is even remotely correct, there will be many millions more homeowners underwater a year from now. That will lead to millions more foreclosures. and so on and so forth.
Unemployment may be the single biggest factor in forcing prices down, and job creation plans have so far been miserable failures. Even if the plans had created 2 million jobs, as is now the claim, which nobody believes, that would still mean a cost of almost $400,000 per job, or about 10 years salary. If that isn't a dead end street, what is? Come to think of it, it's eerily similar to the "lift home values" policy.
If, on the other hand, Washington would decide to let the revolutionary concept of a free market loose on real estate, if it would withdraw Fannie, Freddie and the FHA, even if only partially, home prices would plummet like anvils in the Alps, because there no longer is a US mortgage market without them. But if you think about it, we probably don't have to wait what the government decides. The decision will be made for it if the 28% loss in 2010 that Case/Shiller predict is correct. Home prices don't need to go to zero to crash the entire economy. And even if Washington gets a hold of all your 401(k)’s, something they'll certainly try, since that's where the only money left in the country resides, even if they do, it won't help them out of this predicament. And don’t forget that the Federal Reserve is set to stop purchasing MBS two months from now.
Troubled times have come. You're living on borrowed time, and you're going to be paying a hefty price for borrowing it.
2010 Deficit to Hit All-Time High: $1.6 Trillion
Obama's $3.8 Trillion Budget Forecasts a $1.6 Trillion Shortfall for 2010 Before It Drops
President Barack Obama will propose on Monday a $3.8 trillion budget for fiscal 2011 that projects the deficit will shoot up to a record $1.6 trillion this year, but would push the red ink down to about $700 billion, or 4% of the gross domestic product, by 2013, according to congressional aides. The deficit for the current fiscal year, which ends on Sept. 30, would eclipse last year's $1.4 trillion deficit, in part due to new spending on a proposed jobs package. The president also wants $25 billion for cash-strapped state governments, mainly to offset their funding of the Medicaid health program for the poor.
To get the deficit down by the middle of the decade, Mr. Obama will be relying on some cuts that have previously been proposed without success, on cooperation from a wary Congress and on a yet-to-be set up debt commission to suggest politically difficult choices. At the same time, Mr. Obama is under pressure to address the country's continued high unemployment rate. And he will propose increases in spending for priorities such as education and domestic scientific research. All of this raises questions about how much progress the president is likely to make in trying to fulfill his pledge to halve by 2013 the $1.3 trillion deficit he inherited.
The budget embodies Mr. Obama's larger predicament of needing to contain the deficit without harming the economy, which remains fragile. The deficit has become a major political issue, as antigovernment activists swing independents against what they describe as Mr. Obama's big-government policies and Republicans try to regain the mantle of fiscal responsibility after the Bush years saw surpluses swing to deficits. Republicans have said they aren't likely to cooperate with Mr. Obama on his deficit-reduction approach, opposing tax increases even as they attack Democrats for proposing cuts to Medicare. Meanwhile, senior Democrats in Congress have shown themselves reluctant to cut spending with unemployment hovering at 10%.
Under the Obama budget, this year's $1.6 trillion deficit would fall to $1.3 trillion in the fiscal year that begins Oct. 1. It would drop to $700 billion in 2013 and 2014, the budget projects, on the assumption that the economy recovers, tax receipts start rising again with incomes, and stimulus spending drops off. The deficit would drop to the equivalent of 5% of GDP in 2013 through expected economic improvement alone. Policy changes proposed by the president, such as a proposed freeze in nonsecurity domestic spending, would shave an additional percentage point. Mr. Obama plans to rely on a new debt commission to come up with recommendations on how to meet his promise to bring the figure down to the equivalent of 3% of GDP by 2015, according to budget analysts briefed on the proposal.
The deficit is forecast to stabilize at $800 billion between fiscal years 2015 and 2018 before beginning to rise again, according to the White House projections. The projected rise is due to the retirement of the baby boomers, which is expected to result in increased spending on Medicare and Social Security. With unemployment still at 10%, the president is finding it difficult to meet his promise to halve the $1.3 trillion deficit he inherited by January 2013. Job creation has become his top priority, and he is showing no sign of skimping on tax cuts and spending measures in the short term.
A bipartisan 18-member debt commission would forward any deficit-reduction proposals they come up with to Congress after this year's midterm elections. Issues it would face would include how to cut the deficit further in the short term and how to rein in long-term growth of entitlement programs, such as Medicare, Medicaid and Social Security. Commission members would have to come up with between $180 billion and $190 billion in cuts to meet the president's target. Congressional leaders have promised the president that they would submit the panel's recommendations to an up-or-down vote in the lame-duck session of Congress, after the elections but before the newly elected House and Senate take office.
White House officials say they are ready to make some tough choices to get the deficit under control. White House communications director Dan Pfeiffer wrote on the White House Web site this weekend that the president's budget would propose to terminate or cut back more than 120 programs, saving about $20 billion in the fiscal year beginning in October. The proposals include consolidating 38 education programs into 11, cutting the National Park Service's Save America's Treasures and Preserve America grant program, and eliminating the Advanced Earned Income Tax Credit, which allows low-wage workers to get tax-credit checks in advance but which is rife with abuse, White House officials say. The Brownfields Economic Development Initiative, which converts decayed former industrial sites to new uses, would be cut, and payments ended to states to restore abandoned mines, many of which have been long cleaned up.
But some of those efforts, such as the abandoned mines and Advanced Earned Income Tax Credit cuts, were proposed last year in Mr. Obama's first budget. They were ignored by Congress. Other planned cuts are presidential perennials, attempted without success by Presidents Bill Clinton and George W. Bush before Mr. Obama, such as eliminating whaling partnerships and implementing deep cuts to the Army Corps of Engineers. The president is also expected to call for halting the National Aeronautics and Space Administration's plan to return astronauts to the moon, a tough sell in vote-rich Florida. "There's no question there's a range of domestic discretionary that can be scaled back," said one Democratic budget analyst. "Politically, they will never get through."
Meantime, the president will ask for large increases in spending on education and civilian scientific research, according to analysts who have been briefed on the budget plans. Mainly, the president plans to rely on the budget commission and budget rules in an effort to try to force Congress's hand, budget analysts say. The budget assumes the enactment of pay-as-you-go rules that would force any tax cut or spending increase to be offset by tax hikes or spending cuts.
Isabel Sawhill, a budget expert at the Brookings Institution, criticized the president's goal— a deficit of 3% of GDP long after the recession has ended—saying it amounted to "defining deficits down." "The pay-go rules will make it more difficult for Congress to dig the hole deeper but won't affect currently projected red ink; and the commission will likely be a paper tiger," she wrote on Friday. "In short, these proposals will still leave us with unsustainable deficits as far as the eye can see. It is depressing to discover that we can no longer even aspire to balance the budget once the recession is over."
So, How Do You Think This Movie Will End?
by Henry Blodget
These two charts tell you pretty much all you need to know about the state of the US economy. They also, unfortunately, provide some clues as to how this movie will end.
First, from John Mauldin, the state of the U.S. government's finances. The red line is spending. The blue line is tax revenue.
Can you imagine if that was your household?
Second, from Ned Davis, the state of our country's debts, as measured by debt as a percentage of GDP. The little peak to the left was the debt mountain we accumulated during the Great Depression, which took a decade to work off. The, um, bigger peak to the right, is the one we've accumulated now.
So how will this movie end?
Well, in the near-term, we can try to borrow more to fill the hole between the red line and the blue line in the chart on the top. That will postpone the ending and give us a chance to kickstart the economy again.
Of course, every dollar we borrow will also drop down to the chart at the bottom, making the mountain even taller (unless private-market debt shrinks by an offsetting amount--this chart includes both government and private debt).
If we're lucky, in the intermediate term, the economy will start growing more rapidly (blue line turns up) and the government will be able to ease off on spending (red line turns down), making it so we can borrow less every year. If that happy trend continues, we'll eventually only have to deal with the nasty looking chart at the bottom: The debt mountain.
As to that... The accumulation of the debt mountain is what has fueled the impressive GDP growth we've enjoyed for the past 30 years. It's fun borrowing more money, because when you borrow more money, you can spend more money, which is fun!
Of course, in the end, when you've borrowed as much as you can, you have to start paying some of the money back (or, at the very least, borrow less each year than you used to). And to pay the money back, you have to start spending less.
So, again, how do you think this movie will end?
If we're lucky, it will end gradually, in a long, boring couple of decades in which we gradually get our discipline and competitiveness back and bring our finances under control.
And if we're not lucky?
Well, then, the movie will have a more exciting ending.
Obama unveils $33 billion tax credit to boost jobs
President Barack Obama on Friday proposed $33 billion in tax credits to coax small businesses into hiring workers as he underscored his commitment to pushing job creation to the top of his agenda. With public frustration over double-digit unemployment eroding his popularity, Obama has begun rolling out initiatives aimed at backing up his jobs pledge made in his economy-focused State of the Union Address earlier this week.
The latest proposal calls for a $5,000 tax credit for every net new worker hired in 2010. The amount would be capped at $500,000 per firm to make sure that the bulk of the benefits go to small businesses. "The economy is growing but job growth is lagging," Obama told workers at a custom-machine plant in Baltimore. He spoke after the release of data showing U.S. gross domestic product expanded at a faster-than-expected 5.7 percent in the fourth quarter, a trend he hailed as a "stark improvement" compared to economic decline a year ago.
But he insisted that more work was needed to spur employment and urged the U.S. Senate to push ahead with jobs legislation. The House of Representatives approved a $155 billion jobs bill in December. Obama said his tax credit proposal could help small businesses to hire workers while lowering their taxes. He estimated that more than 1 million small businesses could benefit. "Now's the perfect time for this kind of incentive," he said. "The key thing is it's time to put America back to work." Small businesses are the biggest source of job creation and hold the key to reducing unemployment, so funneling money their way is a smart approach.
The problem is, even though the economy has resumed growing, confidence is in short supply, leaving these companies reluctant to hire, economists say. The tax credit plan was previewed by Obama in his State of the Union speech, where he reframed his policy agenda to put the emphasis squarely on jobs and the economy, Americans' chief concerns in a midterm congressional election year. A shocking win last week by a Republican in an election to the U.S. Senate in traditionally Democratic-dominated Massachusetts has jolted the White House into concentrating its message on Obama's strategy to boost jobs.
Latest Stimulus Report Fuels Jobs Pressure
Recipients of economic-stimulus money said 599,108 workers were being paid by the funds in the last quarter of 2009, fewer than the number of jobs attributed to the package in the seven months after it was enacted. The recipients' reports, published on the official government Web site recovery.gov late Saturday, are likely to fuel further controversy over the impact of the $787 billion package, as Democrats craft new jobs-creation proposals to address the country's 10% jobless rate. Many opinion polls suggest that most voters don't believe the current stimulus program, which was passed last February, is working.
White House press secretary Robert Gibbs, speaking on CNN's "State of the Union" Sunday, said the administration was seeking a jobs bill that would cost approximately $100 billion. "The president hopes that the next order of business the Senate will take up is this package," he said. The administration could face difficulty explaining how the reports square with its own calculations that the plan kept between 1.5 million and two million jobs in the economy through the end of 2009.
In his State of the Union address to Congress last week, President Barack Obama said that "because of the steps we took, there are about two million Americans working right now who would otherwise be unemployed." Those projections are based on macroeconomic models and try to include the number of jobs that exist indirectly as a result of people being hired to work on stimulus projects, or of people receiving food stamps or other aid funded by the stimulus program.
Vice President Joe Biden said in a statement that the 599,108 total was "a snapshot of the impact of a small portion of funds" and that the stimulus plan was on track. The reports cover about $54 billion of stimulus spending, Mr. Biden said. Federal agencies say that an additional $215 billion has been paid out in aid and tax cuts.
Senate Democratic leadership aides have said details of a jobs package could be unveiled this week. Mr. Gibbs welcomed the prospect. "Obviously we are not creating the jobs we would like, and I think that some additional recovery or stimulus money is important in order to again create an environment for small businesses" where they feel confident hiring new workers, he said. Senate Minority Leader Mitch McConnell (R., Ky.) told CNN that Republicans would look at what the administration had proposed, but he declined to commit to working with Democrats to pass a jobs package. He said the best thing the Obama administration could do to stimulate job growth would be to shelve its health-care plan.
Stimulus recipients previously reported that they had directly "created or saved" 640,329 jobs by Sept. 30, but their filings were criticized after it emerged that some people had reported saving jobs when they had actually spent the money on pay raises or paying employees who were not in danger of being laid off. In December, the White House Office of Management and Budget changed its guidance, telling recipients they should start counting every worker whose salary was funded with stimulus money, rather than guessing whether the jobs would have existed in the absence of the federal plan. Opponents of the program accused the administration of "moving the goal posts" to make the plan appear more successful.
Why the Government Wants to Hijack Your 401(k)
To say that I'm "outraged" doesn't come close to describing the emotions I experience every time I think about the government's latest hare-brained scheme. According to widespread media reports, both the U.S. Treasury Department and the Department of Labor plan are planning to stage a public-comment period before implementing regulations that would require U.S. savers to invest portions of their 401(k) savings plans and Individual Retirement Accounts (IRAs) into annuities or other "steady" payment streams backed by U.S. government bonds.
Folks, there's only one reason these agencies would do such a thing - the nation's creditors think that U.S. government bonds are a bad bet and don't want to buy them anymore. So like a grifter who's down to his last dollar, the administration is hoping to get its hands on our hard-earned savings before the American people realize they've had the wool pulled over their eyes ... once again.
It's easy to understand why.
Facing a $14 trillion fiscal hangover, the Treasury can no longer count countries such as Japan and China to be dependable buyers of U.S. government debt. Not only have those nations dramatically reduced their purchasing of U.S. bonds, most of our largest creditors are now actively diversifying their reserves away from greenback-based investments in favor of other reliable stores of value - like oil, gold and other commodities.
This growing reluctance couldn't come at a worse time. Just yesterday (Tuesday), in fact, the Congressional Budget Office estimated that the U.S. budget deficit would hit $1.35 trillion this year. And that's not the only shortfall the Treasury has to address. The U.S. Federal Reserve is supposed to stop buying Treasury bonds for its asset portfolio, a program the central bank put in place last year.
The upshot: The Obama administration has to find other ways sell government debt - without raising interest rates, a move that would almost certainly jeopardize the country's super-weak economic recovery. Facing an uphill battle and increasingly skeptical buyers, the government is changing tactics and targeting the biggest pile of money available as a means of dealing with its fiscal follies - the $3.6 trillion sitting in U.S. retirement plans, including 401(k) plans.
The way I see it, the Obama administration can see the financial train wreck that's going to occur. So it's rushing to crack open the safe that holds our retirement money before anyone realizes that they've been robbed. And if this plan becomes reality, that's just what it will be - robbery. American retail investors didn't sign up for the financial-crisis roller-coaster ride we've been on since 2008. We didn't approve the nation's five-fold increase in lending capacity. And we certainly didn't volunteer to help pay down a national debt that's doubled.
Few people realize that the federal government spent an estimated $17,000 to $25,000 per U.S. household in 2009 (the final figures haven't been calculated, yet). But that's no surprise: "We the people" didn't approve it. At a point where it's spending money like a drunken sailor, Washington seems more interested in appropriating and redistributing our retirement savings than it is in fixing a system that's badly broken. If you add in all the stimulus spending that the taxpayers must now repay, the average government-agency-spending tab has zoomed more than 50% in the last couple of years. That's right - 50%.
So it's only logical that the administration would go after our 401(k) and IRA savings plans. Disgusting, but logical.
Here's how the argument is likely to be framed.
The system we presently have in place is what's commonly called a "defined contribution plan." Under such a plan, the benefits we enjoy during retirement aren't determined in advance. Instead, those benefits are determined by how much money we contribute while working, and by the performance of the investments that we choose. The 401(k) is almost exclusively a defined contribution plan. Years ago, Americans depended more upon "defined benefit plans" that promised a steady stream of income at a future date - with the actual amounts determined by our years of service or our earnings history. Old-fashioned company pension plans and even U.S. Social Security are examples of defined benefit plans.
By laying claim to our retirement assets in exchange for 30-year Treasury bonds, annuities or other payout streams, the government will try to persuade us that we're not capable of managing our own money, that the stock market is too risky a place for most Americans, and that we need Big Brother to hold our hands and protect our futures. What we need, the administration is going to tell us, is a defined benefit plan.
So expect a big snow job. But here's the problem. Defined benefit plans are great only as long as they are well funded. Unfortunately, most aren't. In fact, according to various studies, pension funds could already be underfunded by as much as $5.3 trillion. Add that to the $14 trillion we've already got on the table and we're talking a staggering $19.3 trillion - and that's with no escalators, no cost-of-living adjustments and no interest-rate increases. And that's assuming we don't need another round of stimulus.
Here's what the government isn't going to tell you. When pension funds transition from defined contribution plans to defined benefit plans, the only backing they have is the underlying assets themselves and the company or entity that's responsible for the plans - which in this case would be the U.S. government. If the prospects of your entire future being placed in the hands of the federal government doesn't scare the daylights out of you after all we've experienced so far, I suspect that nothing will.
Our elected leaders, appointed government guardians, and Wall Street have together demonstrated a total inability to manage what they already control. There's no reason on the planet why they should be allowed to get their hands on our hard-won savings. All that will do is punish the thrifty, disciplined and far-sighted investor, while rewarding - or at the very least protecting - the inept politicians and career bureaucrats who allowed this crisis to occur in the first place.
By backing their plan with 30-year Treasuries, government backers of this plan are betting that you and I won't notice that the trouble with annuities and long bonds is that they tend to get annihilated by inflation. That's why even the most jaded professionals will tell you that investing in such instruments right now when interest rates are being artificially held down near 0.00% is bad juju: Interest rates have only one direction to travel - up, which tends to crush bond prices.
Right now, Americans are apparently smarter than the administration believes. In fact, a survey by the Investment Company Institute found that more than 70% of all households disagreed with the idea of requiring a retiree to buy an annuity with a portion of their assets. And it didn't matter whether the annuity was offered by an insurance company or by the government. Let's hope that the full-court press that the administration is getting ready to deploy doesn't snow American investors. If the government succeeds, we'll look back and see that they pulled a pretty slick trick to get our support. Unfortunately, it won't be the last trick they play with our retirement money. That last trick will come after they have control of our savings - when they make our retirements disappear.
Economic warfare erupts
Obama Housing Rescue Threatened by Foreclosures, Unemployment
President Barack Obama’s efforts to bolster the U.S. housing market, the trigger of the worst recession since the 1930s, may be undone by record unemployment and repossessions by lenders. Foreclosures probably will reach 3 million this year, surpassing the record of 2.82 million in 2009, according to Irvine, California-based RealtyTrac Inc. That would more than offset an estimated 448,000-unit rise in home sales, based on the average forecast of the National Association of Realtors, the Mortgage Bankers Association and Fannie Mae.
The housing industry remains a challenge for Obama as he enters his second year of office and government assistance programs near expiration. Data this week showed home sales tumbled after the expected end of an $8,000 tax credit for first-time buyers boosted transactions the prior month. "The housing market is still on life support, and if government measures are withdrawn too quickly it could sink it, taking the economy down with it," said Mark Zandi, chief economist at Moody’s Economy.com in West Chester, Pennsylvania. "Households have such high debt loads, in addition to their mortgages, that any reduction in income, including a job loss, could trigger a foreclosure."
Employers have cut more than 7 million jobs in the last two years, the biggest employment loss since the Great Depression. The U.S. jobless rate probably will average 10 percent in 2010, according to the median estimate of 59 economists surveyed by Bloomberg. That would be the highest yearly rate in government records dating to 1948. Unemployment was 9.3 percent in 2009, the most in 26 years. The Obama administration’s primary anti-foreclosure plan, the Home Affordable Modification Program, or HAMP, resulted in 66,465 permanent modifications by the end of December, compared with goal of up to 4 million by 2012. In total, 1.16 million offers were extended to borrowers and the terms of about 900,000 mortgages were changed on either a trial or permanent basis, the Treasury Department said in a Jan. 15 report.
"We’re working to lift the value of a family’s single largest investment -- their home," Obama said in his Jan. 27 State of the Union speech to Congress. For HAMP to succeed, the program will have to be changed to include principal reductions on mortgages to offset value declines, according to Karen Weaver, global head of securitization research at Deutsche Bank AG in New York, and Laurie Goodman, the New York-based senior managing director at Amherst Securities Group.
In its current version, HAMP lowers mortgage payments to about a third of borrowers’ income by reducing interest, lengthening repayment terms and deferring principal repayments. "If the other measures in HAMP aren’t working, the government will have to look at principal reductions," said Brian Bethune, chief financial economist at IHS Global Insight in Lexington, Massachusetts. In addition to modifications, the government’s Making Home Affordable program was responsible for refinancing 3.8 million loans in the portfolios of government-run Fannie Mae and Freddie Mac. The program, known among mortgage brokers as Obama refis, allows borrows who have balances higher than their home’s value to renew their loans at lower rates.
One in four U.S. homeowners holds a mortgage with a balance higher than the property’s value. The number of borrowers with so-called negative equity reached 10.7 million, or 23 percent, at the end of the third quarter, according to a Nov. 24 report by First American CoreLogic, a Santa Ana, California-based real estate research firm. Government programs to help underwater borrowers exclude jumbo mortgages that aren’t eligible to be purchased by Washington-based Fannie Mae and Freddie Mac of McLean, Virginia.
The government spent $230 billion to support HAMP and other housing programs in the 12 months ended Sept. 30, according to the Congressional Budget Office in Washington. The Federal Reserve has pledged to spend $1.25 trillion buying mortgage- backed securities in an effort to reduce fixed-mortgage rates. That program is set to end this quarter. The 30-year mortgage rate dropped to an all-time low of 4.71 percent during the first week of December, according to Freddie Mac. It was at 4.98 percent in the week ended yesterday. The Federal Reserve said Jan. 27 it will keep the target rate for overnight bank lending near zero to help nurture the recovery.
"Household spending is expanding at a moderate rate but remains constrained by a weak labor market, modest income growth, lower housing wealth, and tight credit," the Federal Open Market Committee said this week in a statement. The statement dropped the previous reference to real estate that said housing "has shown some signs of improvement." National home prices rose 1.5 percent last month from a year earlier, the first annual gain since August 2007, the Chicago-based National Association of Realtors said Jan. 25. The median price fell 12 percent in 2009 to $173,500, compared with a 9.5 percent drop in 2008, NAR data show.
While the tax credit spurred a 4.9 percent rise in home resales last year, the first annual gain since 2005, sales of existing homes in December slumped 17 percent, the biggest drop on record. The tax benefit originally scheduled to expire Nov. 30 was extended into 2010 and expanded to all buyers by a bill Obama signed on Nov. 6. The extension gives buyers until April 30 to have a signed contract on a home, and until July 1 to close on it. Purchases of new homes fell 7.6 percent to an annual pace of 342,000 in December, the fourth drop in the past five months, the Commerce Department said Jan. 27 in Washington. Sales declined 23 percent to 374,000 in 2009, the lowest level since records began in 1963.
The median price of a new house fell 3.6 percent from the year-earlier month to $221,300, the agency said. Currently, 6.5 million households are either in default or at least one payment behind on their mortgages, according to the Center for Responsible Lending based in Durham, North Carolina. If enough of those are seized by lenders, it could lead to a "double-dip recession or at least to a slower recovery," said Julia Gordon, senior public policy counsel for the research and policy group, in testimony before the House of Representatives Committee on Financial Services last month. "Housing is going to have a bumpy ride this year because of foreclosures," said Bethune, of IHS Global Insight.
Property Values Projected To Fall 12 Percent In 2010
by Michael David White
NewObservations.net projects residential real estate prices will fall 12 percent nationwide in 2010.
Our average of four major indexes predicts a total fall in prices of 34% from peak to stable trend. The total fall of 34% is based upon a current loss across four number sets of 19%.
The timing and the total fall vary widely among the data. The most conservative picture of our total fall is a 20% loss. The most radical prediction is that values will fall 51% from peak to stable trend (Please see the summary of results immediately below.).
One data set predicts that we will attain a trend value this year and then push beyond it (See below the First American Core Logic Chart.). The projections provided here artificially limit the loss to a return-to-trend value.
Two conservative data sets see the fall in values continuing through the summer of 2013. If correct, that’s equal to 3.5 more years of falling prices. The leading economic historians say prices normally fall for six years after a credit bubble. Based upon a summer 2006 high, the middle of 2012 is the projected bottom (Please see the chart below from CARMEN M. REINHART and KENNETH S. ROGOFF.).
All of the forecasts here are based upon the author’s assumption that real estate is a stable investment which largely tracks inflation. The follow-on assumption is that values broke out of this stable pricing pattern in a real estate bubble which started in 1990.
The basis of the primary assumption, the assumption that real estate is a stable non-appreciating asset, is taken directly from Robert Shiller. He is a leading expert on real estate prices.
"My data show that between 1890 and 1990 real home prices actually didn’t increase," Mr. Shiller wrote in Newsweek (Dec 30, 2009), Why We’ll Always Have More Money Than Sense. If prices didn’t appreciate for 100 years, it leads one to assume the break in that pattern is an artificial break.
The prediction of a 12% fall this year averages forecasts ranging as high as 28% and as low as 4%. I try to make no judgment about these estimates. I report the numbers objectively based upon providing a linear projection of the fall in prices dating from the market peak. Each data set is treated the same way. If the upward trend starting in 1990 is supportable and real, then the numbers provided here are very likely to be incorrect. If government policies reenact a bubble, these numbers will also be incorrect.
The federal government has taken extraordinary measures to stop the fall predicted by these trend charts. Given the massive power of the United States Treasury and the Federal Reserve, those efforts may win. Their steps to artificially maintain prices center on Fannie Mae, Freddie Mac, and the FHA making essentially every new mortgage loan in the United States today.
Without their lending, real estate prices in the United States would fall dramatically. The author estimates prices would fall 50% to 75% from today’s level if Fannie, Freddie, and the FHA stopped making loans. Private investment in mortgage loans has disappeared. Without government lending most purchases would have to be made from the buyer’s savings. Buyers would have to pay all cash. It’s a way of doing things we don’t even understand.
We are in a radical real estate depression hidden from us by massive government fixes.
The housing bubble was created in a classic credit mania which artificially lifted the prices of all assets which could be purchased with borrowed money. Credit manias are common in human history. Normally time has to pass for the memory of the irrationality to fade and to be allowed a new place to resume.
In our case we may have simply re-fired the credit-mania stove immediately and we are now in and marching toward new mania bubbles with new defaults and larger crises.
Residential real estate is probably the most consequential of all the bubble assets from our current crisis. Mortgages were the largest financial asset category of the last bubble with a total issued at the top of about $12 trillion.
Real estate is of primary importance to any family’s finances when they own the home that they live in. Consumers have been hit with falling prices since as early as June 2006. The numbers show current national losses of between 8% and 30%. This summer we will reach the fourth year of a general trend of falling real estate prices. Against that trend values have increased in the last two quarters.
All of the forecasts made here include those recent increasing values in the projection of future losses. The recent positive increases in value were not enough to counteract serious and sometimes extreme losses in value over the last 3.5 years.
The government has made an enormous assumption in crafting its policy on housing: It assumes that maintaining values is of the utmost importance. It’s a tragic mistake.
The proper way to manage a credit bubble is to destroy errant debt issued beyond the capacity of the borrower. This means that some subset of all mortgage debt issued after 1990 is invalid. It’s a fiction and a fantasy. It is a dead-weight loss issued to fools who believed in real estate as an investment.
In a November 2009 report I estimated total excessive mortgage issuance of $5 trillion – Losses and Zombie Debt in Residential Mortgages Surpass $5 trillion (See the chart above.).
Given that the most essential element of our competitiveness is based upon the cost of labor, and given that the price of housing is our most expensive cost of living, we cannot live well, compete in the global marketplace, and pay for bubble-priced real estate all at the same time. We have to make a very difficult decision.
The smartest conclusion is obvious. Our highest priority must be to bring down the house of cards. We should encourage foreclosures. We should encourage default. We should bring overhead down. Our first goal must be inexpensive housing. (See Mortgage Default is a Patriotic Duty.)
The most provocative of all of the charts which I have been studying in the last six months suggests the fall is inevitable. All of the government maneuvers will fail because delinquent first mortgages are now equal in number to three times a balanced for-sale inventory (Please see above "Delinquent Mortgages: Will They Overwhelm Supply?").
My prediction is that the leaders at our Treasury and the Fed will finish as the bigger or the biggest fools. They are waging nuclear war to maintain bubble pricing on 129 million housing units (If you are like me, you say that sentence, and you know that the policy is dead wrong.). Only an academic bureaucrat could make such a choice and believe in it. And the financial press has not even one word to say against this lunatic fantasy. The blind cover the dumb and vice versa.
Ben Bernanke and Timothy Geithner prove that book learning makes you dumb and government work makes you slow. Don’t put your faith in them or their experience. They haven’t spent enough time in the real world.
If you own real estate and you can sell, sell it. If you want to buy, make sure you are staying for 10 years and insist on a great deal. Make sure you can live with losing 10 percent or 20 percent or 30 percent of the price that you pay for your home.
The risk inherent in our current real estate market is far beyond the tolerance of 98% of would-be buyers. That means you. You can get screwed badly if you buy now. Don’t do it. Don’t be the one to put yourself in the poor house.
The Growing Underclass: Jobs Gone Forever
by Catherine Rampell
Last night, President Obama talked about the need to put people back to work, calling job growth the “No. 1 focus in 2010."
But one major obstacle to that goal — and one that has so far gone mostly unacknowledged — is that many of the jobs slashed during this recession are not coming back.
Lots of the bloodletting we’ve seen in the labor market has probably been permanent, not just cyclical. Many employers have taken Rahm Emanuel’s famed advice — never waste a crisis — to heart, and have used this recession as an excuse to make layoffs that they would have eventually done anyway. Some economists refer to this as the “cleansing effect” of recessions.
As a recent Congressional Budget Office report put it, “Recessions often accelerate the demise or shrinkage of less efficient and less profitable firms, especially those in declining industries and sectors.”
Think glassmaking. Or clerical work. Or, for that matter, newspapers.
Over all, the share of unemployed workers whose previous job has been permanently lost tends to rise during recessions, and the share of the unemployed who are just on temporary layoff falls. You can see both trends in the chart below.
Source: Bureau of Labor Statistics
In this recession, though, the shift from temporary layoffs to permanent job loss has been especially pronounced. In fact, the share of the unemployed who lost their jobs permanently is at its highest level since at least 1967, the first year for which the Labor Department has these numbers available.
Here’s another way to look at these trends, by what share of the unemployed are represented by each of the five categories of unemployed workers (that is, people who don’t have jobs yet because they’re new entrants to the labor market; re-entrants to the labor market; people who left their jobs; people who are on temporary layoff; and people who lost their jobs permanently).
Source: Bureau of Labor Statistics
The big ocean of blue represents the portion of the unemployed who have lost their jobs, with the lighter blue section showing those whose jobs are gone permanently.
There are multiple ways to explain why permanent job-losers represent a higher share of the unemployed this time around. Maybe, as others have suggested, many of the jobs gained in the boom years were built on phantom wealth. Or maybe the culprit is a corollary of Moore’s Law, the idea of exponential advances in technology over time. That might suggest that innovation and automation displace more and more workers by the time each recession rolls around.
Whatever the underlying cause, the result is disconcerting: compared with previous recessions, many more of the employment gains in this recovery will have to come from new jobs.
That is much easier said than done.
Workers whose entire occupations — not just the previous payroll positions they held — are disappearing (think: auto workers) will need to start over and find a new career path. But the new skills they will need take a long time to acquire.
What’s more, in addition to obtaining new degrees or training, some workers may need to move to new places in order to start a different career. But sharp declines in housing prices, plus high loan-to-value ratios on many mortgages before the downturn, will make that transition harder. Homeowners who are “underwater” — that is, who owe more in mortgage payments than their house is actually worth — may not be able to sell their house for enough money to enable them to buy a home in a new area.
All of which is to say that many of the Americans who are already out of work are likely to stay in that miserable state for a long, long time. And the longer they stay unemployed, the harder it will be for them to transition back into the work force, further adding to America’s growing underclass.
The administration is likely to have a big labor (and class) problem on its hands, and one that won’t be solved merely by an increase in the gross domestic product.
Obama Budget Freezes Much Domestic Spending
President Obama will send a $3.8 trillion budget to Congress on Monday for the coming fiscal year that would increase financing for education and for civilian research programs by more than 6 percent and provide $25 billion for cash-starved states, even as he seeks to freeze much domestic spending for the rest of his term. The budget for the 2011 fiscal year, which begins in October, will identify the winners and losers behind Mr. Obama’s proposal for a three-year freeze of a portion of the budget. Many programs at the National Institutes of Health, the National Science Foundation and the Energy Department are in line for increases, along with the Census Bureau.
Among the losers would be some public works projects of the Army Corps of Engineers, two historic preservation programs and NASA’s mission to return to the Moon, which would be ended as the administration seeks to reorient the space program to use private companies for launchings. Mr. Obama is recycling some proposals from last year, including one to end redundant payments for land restoration at abandoned coal mines; Western lawmakers blocked it in 2009. Mr. Obama will propose a total of $20 billion in such savings for the coming fiscal year.
Exempted from the cuts, however, are national security, veterans programs, Medicare, Medicaid and Social Security — the most expensive and fastest-growing areas of the budget.
By filling in the details behind the freeze, the administration hopes to show critics that it used a scalpel rather than an ax to keep spending for the targeted domestic agencies to $447 billion through 2013.
The three-year freeze would save $250 billion over the coming decade, assuming the overall spending on the domestic programs is permitted to rise no more than the inflation rate for the remainder of the decade — an austerity that neither party has ever achieved in Washington. Even so, the $250 billion in savings would be less than 3 percent of the total deficits projected through 2020.
Criticism of the spending plan has ranged from arguments among liberals in Mr. Obama’s party and some economists that he should not be cutting spending when the economy needs hundreds of billions of dollars more in stimulus money, to complaints from Republicans that the savings are too paltry when annual trillion-dollar deficits are the largest since World War II.
The debate reflects the conflicting imperatives underlying the administration’s fiscal policies — between the demands to help a struggling economy create jobs and the need for long-term efforts to address the huge buildup of debt that threatens the nation’s future prosperity. "There is a huge tension" between the goals, said Robert D. Reischauer, a former director of the Congressional Budget Office.
Mr. Obama addressed the dueling challenges in his weekly radio and Internet address Saturday. "As we work to create jobs," he said, "it is critical that we rein in the budget deficits we’ve been accumulating for far too long — deficits that won’t just burden our children and grandchildren, but could damage our markets, drive up our interest rates and jeopardize our recovery right now." For the current fiscal year, the administration is working with Congressional Democrats for up to $150 billion more — on top of roughly $1 trillion in stimulus measures to date — to spur job creation through more business tax cuts and money for construction projects and provide relief for the long-term unemployed.
At the same time, to hold down annual deficits, the president has proposed the freeze as well as a pay-as-you-go law to require offsetting savings for new spending and tax cuts. He is also calling for new revenue sources, like a proposed tax on big banks to recover any losses from the financial bailout program, and proposing some old ones that Congress has not accepted, including selling emission permits to businesses to reduce pollution.
And for the long term, Mr. Obama will soon issue an executive order for a bipartisan commission to propose a debt reduction plan by December. Democratic leaders have committed in writing that Congress will vote on the panel’s package. As the administration was completing its budget plans in December, Mr. Obama said at a White House economic forum that "we’ve got about as difficult an economic play as is possible" in adding to the current deficit while simultaneously planning to slash future shortfalls. He compared it to pressing the accelerator while being poised to hit the brakes.
Because deficits would be even worse if the economy relapsed, he said then, "the single most important thing we could do right now for deficit reduction is to spark strong economic growth" so that people have jobs, businesses make profits and the government collects more taxes. But he acknowledged, as his support in the polls continued to slip, "We’re going to have to do a better job of educating the public on that."
The worse-than-expected recession, which has led to even smaller tax collections and higher stimulus spending than planned, has doomed Mr. Obama’s promise a year ago to reduce annual deficits by the end of his term to a size equal to 3 percent of the gross domestic product, a level most economists consider sustainable. The projected $1.3 trillion deficit for this year is more than 9 percent of the gross domestic product.
Mr. Obama’s budget director, Peter R. Orszag, told business leaders in November that he was now dedicated to getting the deficit to 3 percent by the 2015 fiscal year. But he has also told people that success is contingent on a bipartisan debt commission forcing Congress to increase revenues and reduce future spending on entitlement program benefits — an outcome that is far from certain at this point, given Republican leaders’ resistance to even participating in a commission.
The president’s budget also assumes approval of his ambitious plan, now stalled in Congress, to remake the nation’s health care system. That would mean significant reductions in the growth of Medicare spending. The White House and Congressional Budget Office agree that the health bill would reduce projected deficits in the long term. But the reductions are relatively small compared with the total deficits projected over the coming decade.
Mr. Obama’s 2011 budget would provide more for the Pentagon’s Special Operations forces, the Army’s Black Hawk and Chinook helicopters, and the F-35 Joint Strike Fighter. Mr. Obama and Congressional Democratic leaders have said they will extend most of the Bush-era tax cuts scheduled to expire on Dec. 31. The president wants Congress to let the tax cuts lapse for high-income people, so that couples making more than $250,000 would see their taxes rise. But some centrist Democrats are urging Mr. Obama to spare wealthy taxpayers as well, to avoid raising their taxes before the economy is fully recovered.
Niall Ferguson: U.S. Bank Size Played No Role in Crisis
Niall Ferguson questions the Volcker Rule, and explains why too big to fail does not apply to American banks. Some key points from the interview in Davos:
- "You can't say that this crisis happened because American banks were too big"
- "I don't think it was really the banks' involvement in hedge funds that were nearly as much of a problem as banks involvement in securitized MBS collateralized debt obligations."
- "I would say there are at least 5 other things beside bank leverage that we need to be worrying about here: the rating agencies... the way monetary policy was conducted particularly under Alan Greenspan... the roll of insurance companies... the housing market... and then the pegged currency that China's been operating."
Ilargi: Mike Shedlock has the following one down to a tee. Still, Bernanke gets renominated, not prosecuted. Perhaps that tells you all you need to know about the state of the union.
Strange Conspiracy Involving No One
Amazingly this conspiracy involves no one. It is a historic event. Hundred billion dollar bailout decisions just happened. No one made them, no one was responsible for them, and no one was in the loop, yet all those not involved agree the process must be kept secret.
- Geithner recused himself although there is no record of it.
- Paulson knows nothing about it and was not in the loop
- Bernanke either does not remember and/or was not involved.
Secret Banking Cabal Emerges From AIG Shadows
The idea of secret banking cabals that control the country and global economy are a given among conspiracy theorists who stockpile ammo, bottled water and peanut butter. After this week’s congressional hearing into the bailout of American International Group Inc., you have to wonder if those folks are crazy after all. Wednesday’s hearing described a secretive group deploying billions of dollars to favored banks, operating with little oversight by the public or elected officials.
We’re talking about the Federal Reserve Bank of New York, whose role as the most influential part of the federal-reserve system -- apart from the matter of AIG’s bailout -- deserves further congressional scrutiny. The New York Fed is in the hot seat for its decision in November 2008 to buy out, for about $30 billion, insurance contracts AIG sold on toxic debt securities to banks, including Goldman Sachs Group Inc., Merrill Lynch & Co., Societe Generale and Deutsche Bank AG, among others. That decision, critics say, amounted to a back-door bailout for the banks, which received 100 cents on the dollar for contracts that would have been worth far less had AIG been allowed to fail.
That move came a few weeks after the Federal Reserve and Treasury Department propped up AIG in the wake of Lehman Brothers Holdings Inc.’s own mid-September bankruptcy filing.
Saving the System Treasury Secretary Timothy Geithner was head of the New York Fed at the time of the AIG moves. He maintained during Wednesday’s hearing that the New York bank had to buy the insurance contracts, known as credit default swaps, to keep AIG from failing, which would have threatened the financial system. The hearing before the House Committee on Oversight and Government Reform also focused on what many in Congress believe was the New York Fed’s subsequent attempt to cover up buyout details and who benefited.
By pursuing this line of inquiry, the hearing revealed some of the inner workings of the New York Fed and the outsized role it plays in banking. This insight is especially valuable given that the New York Fed is a quasi-governmental institution that isn’t subject to citizen intrusions such as freedom of information requests, unlike the Federal Reserve. This impenetrability comes in handy since the bank is the preferred vehicle for many of the Fed’s bailout programs. It’s as though the New York Fed was a black-ops outfit for the nation’s central bank.
The New York Fed is one of 12 Federal Reserve Banks that operate under the supervision of the Federal Reserve’s board of governors, chaired by Ben Bernanke. Member-bank presidents are appointed by nine-member boards, who themselves are appointed largely by other bankers. As Representative Marcy Kaptur told Geithner at the hearing: "A lot of people think that the president of the New York Fed works for the U.S. government. But in fact you work for the private banks that elected you."
And yet the New York Fed played an integral role in the government’s bailout of banks, often receiving surprisingly free rein to act as it saw fit. Consider AIG. Let’s take Geithner at his word that a failure to resolve the insurer’s default swaps would have led to financial Armageddon. Given the stakes, you might think Geithner would have coordinated actions with then-Treasury Secretary Henry Paulson. Yet Paulson testified that he wasn’t in the loop. "I had no involvement at all, in the payment to the counterparties, no involvement whatsoever," Paulson said.
Fed Chairman Bernanke also wasn’t involved. In a written response to questions from Representative Darrell Issa, Bernanke said he "was not directly involved in the negotiations" with AIG’s counterparty banks. You have to wonder then who really was in charge of our nation’s financial future if AIG posed as grave a threat as Geithner claimed. Questions about the New York Fed’s accountability grew after Geithner on Nov. 24, 2008, was named by then-President- elect Barack Obama to be Treasury Secretary. Geither said he recused himself from the bank’s day-to-day activities, even though he never actually signed a formal letter of recusal.
That left issues related to disclosures about the deal in the hands of the bank’s lawyers and staff, rather than a top executive. Those staffers didn’t want details of the swaps purchase to become public. New York Fed staff and outside lawyers from Davis Polk & Wardell edited AIG communications to investors and intervened with the Securities and Exchange Commission to shield details about the buyout transactions, according to a report by Issa. That the New York Fed, a quasi-governmental body, was able to push around the SEC, an executive-branch agency, deserves a congressional hearing all by itself.
Later, when it became clear information would be disclosed, New York Fed legal group staffer James Bergin e-mailed colleagues saying: "I have to think this train is probably going to leave the station soon and we need to focus our efforts on explaining the story as best we can. There were too many people involved in the deals -- too many counterparties, too many lawyers and advisors, too many people from AIG -- to keep a determined Congress from the information."
Think of the enormity of that statement. A staffer at a body with little public accountability and that exists to serve bankers is lamenting the inability to keep Congress in the dark. This belies the culture of secrecy obviously pervasive within the New York Fed. Committee Chairman Edolphus Towns noted during the hearing that the bank initially refused to disclose even the names of other banks that benefited from its actions, arguing this information would somehow harm AIG. "In fact, when the information was finally released, under pressure from Congress, nothing happened," Towns said. "It had absolutely no effect on AIG’s business or financial condition. But it did have an effect on the credibility of the Federal Reserve, and it called into question the Fed’s penchant for secrecy."
Now, I’m not saying Congress should be meddling in interest-rate decisions, or micro-managing bank regulation. Nor do I think we should all don tin-foil hats and start ranting about the Trilateral Commission. Yet when unelected and unaccountable agencies pick banking winners while trying to end-run Congress, even as taxpayers are forced to lend, spend and guarantee about $8 trillion to prop up the financial system, our collective blood should boil.
Foreign Corporations' Spending on American Politics Fought
The U.S. subsidiaries of foreign-owned companies have begun lobbying against Democratic proposals that would limit their spending on political campaigns. President Barack Obama has called for legislation tightening election spending rules, following a Supreme Court decision last week striking down bans against corporate spending. The court decision didn't change current restrictions against foreign companies and foreign individuals funneling campaign money through U.S. subsidiaries. But companies are allowed to spend profits from U.S. subsidiaries on election campaigns, and some firms fear Democrats may try to add further restrictions.
Democrats said they wanted to make sure the prohibitions against foreign involvement were airtight, given the new freedom that corporations have won to spend money directly on election campaigns. U.S. subsidiaries said some of the proposals would give American-owned competitors an unfair advantage. "Talking about restricting foreign influence in elections may sound like good politics, but when you peel back the layers, it could have a wide spectrum of unintended consequences," said Nancy McLernon, who heads the Organization for International Investment, a lobbying group that represents U.S. subsidiaries of foreign corporations. "There is no reason to distinguish a Nestle from a Hershey's," especially because both have U.S. employees, she said.
Ms. McLernon declined to name the companies that are involved in the lobbying effort. About 160 major corporations are in the group, including the domestic subsidiaries of brands such as Belgium's Anheuser Busch InBev NV, Netherlands-based Royal Dutch Shell PLC and Sony Corp. of Japan. Representatives of those companies didn't return calls seeking comment. Democrats said foreign interests had no business telling Americans how to vote. "If you are not truly an American company, we want you to keep your hands out of our politics," said Rep. Bill Pascrell (D., N.J.), one of several lawmakers promoting new legislation.
Mr. Pascrell's bill would ban spending by any U.S. subsidiary of a foreign company or any U.S. corporation that has foreign debt, one or more non-U.S. director or any foreign ownership, which are common practices. The chances of any legislation becoming law could be difficult in the face of opposition among Republican leaders. Republicans said the issue involves fundamental free-speech rights and Congress shouldn't block corporations from having their say in elections. Sen. Mitch McConnell (R., Ky.) said Thursday that the Democratic efforts were unnecessary because foreign entities "are strictly prohibited from any participation in U.S. elections." He said Mr. Obama and "surrogates in Congress" were mischaracterizing the issue.
Democratic officials have said they hope the issue will put them on the right side of populist anger that in recent months has helped Republicans win elections in Massachusetts, New Jersey and Virginia. U.S. subsidiaries of foreign corporations have long been allowed to create political action committees to donate money directly to candidates. After the Supreme Court decision, they can now use U.S. profits to fund their own campaign advertisements, just like U.S.-based companies. Foreign individuals aren't allowed to be involved in the planning of political spending. The Supreme Court's 5-4 ruling voided a section of the 1947 Taft-Hartley Act that prohibited corporations and unions from spending money to elect federal candidates.
Justice Anthony Kennedy's opinion for the conservative majority held that the provision violated the First Amendment's free-speech guarantee. Congress can't single out "certain disfavored speakers"—in this case, corporations—to restrict their spending on political advertisements, Justice Kennedy wrote.Justice Anthony Kennedy's opinion for the majority observed that a separate provision barred "foreign nationals" from attempting to influence U.S. elections. In the specific case before the court, "we need not reach the question" of whether such restrictions were constitutional, he wrote. Dissenters argued that the majority's reasoning would prohibit any limits on who was paying for political advertisements. Justice John Paul Stevens wrote that the majority's assumptions "would appear to afford the same protection to multinational corporations controlled by foreigners as to individual Americans."
The Houdini Recovery
by David Rosenberg
The growth bulls are out in full force today in the aftermath of the headline 5.7% QoQ annualized print on fourth quarter GDP growth in the U.S. We offer a slightly different perspective.
First, the report was dominated by a huge inventory adjustment — not the onset of a new inventory cycle, but a transitory realignment of stocks to sales. Excluding the inventory contribution, GDP would have advanced at a much more tepid 2.2% QoQ annual rate, not really that much better than the soft 1.5% reading in the third quarter.
Second, it was a tad strange to have had inventories contribute half to the GDP tally, and at the same time see import growth cut in half last quarter. Normally, inventory adds are at least partly fuelled by purchases of foreign-made inputs. Not this time. Strip out inventories and the foreign trade sector, we see that domestic demand growth in the fourth quarter actually slowed to a paltry 1.7% annual rate from 2.3% in the third quarter. Some recovery. Based on some simulations we ran, demand growth with all the massive doses of fiscal and monetary stimulus should already be running in excess of a 10% annual rate. So, the real question that nobody seems to ask is why it is that underlying demand conditions are still so benign more than two years after the greatest stimulus of all time. The answer is that this epic credit collapse is a pervasive drain on spending and very likely has another five years to play out.
Third, if you believe the GDP data — remember, there are more revisions to come — then you de facto must be of the view that productivity growth is soaring at over a 6% annual rate. No doubt productivity is rising — just look at the never- ending slate of layoff announcements. But we came off a cycle with no technological advance and no capital deepening, so it is hard to believe that productivity at this time is growing at a pace that is four times the historical norm. Sorry, but we're not buyers of that view. In the fourth quarter, aggregate private hours worked contracted at a 0.5% annual rate and what we can tell you is that such a decline in labour input has never before, scanning over 50 years of data, coincided with a GDP headline this good. Normally, GDP growth is 1.7% when hours worked is this weak, and that is exactly the trend that was depicted this week in the release of the Chicago Fed’s National Activity Index, which was widely ignored. On the flip side, when we have in the past seen GDP growth come in at or near a 5.7% annual rate, what is typical is that hours worked grows at a 3.7% rate. No matter how you slice it, the GDP number today represented not just a rare but an unprecedented event, and as such, we are willing to treat the report with an entire saltshaker — a few grains won’t do.
Fourth, while the Chicago PMI and the revision to the University of Michigan consumer sentiment index also served up positive surprises, the "hard" data in terms of housing starts, home sales and consumer spending suggest that there is little, if any, momentum heading into early 2010. Moreover, the prospect that we see a discernible slowing in the pace of economic activity this quarter and a relapse in the second quarter is non trivial, in my view — by then, today's flashy headline will be a distant memory.
Fed Lays Ground for End to Stimulus With Recovery Declaration
The Federal Reserve panel in charge of interest rates declared for the first time the U.S. economy is in "recovery" and took several steps to prepare investors for the removal of aggressive monetary stimulus. The Federal Open Market Committee yesterday upgraded its economic outlook, reaffirmed it will end liquidity backstops and a $1.25 trillion program to buy mortgage-backed securities and expressed less confidence inflation will remain "subdued." "This is as close an admission that we are likely to see that the FOMC thinks the recession is over and the economy is on a self-sustaining recovery path," said Christopher Rupkey, chief financial economist at Bank of Tokyo-Mitsubishi UFJ Ltd. in New York. "Policy makers need to think seriously on how they are going to reset the message on the low rates policy."
Central bankers repeated their pledge to keep the benchmark lending rate in a range of zero to 0.25 percent for "an extended period," while noting the economy "continued to strengthen." Kansas City Federal Reserve Bank President Thomas Hoenig dissented, favoring a quicker adjustment to the rate outlook message. Hoenig "believed that economic and financial conditions had changed sufficiently that the expectation of exceptionally low levels of the federal funds rate for an extended period was no longer warranted," the FOMC said in yesterday’s statement. Inflation "is likely to be subdued for some time," policy makers said. Last month, the panel said inflation "will remain subdued."
"They are starting to get more comfortable with the sustainability of the recovery," said Stephen Stanley, chief economist at RBS Securities Inc. in Stamford, Connecticut. "The downside risks that they were so worried about are probably still there but diminishing in importance." Policy makers are winding down the record amounts of credit they have provided since the bankruptcy of Lehman Brothers Holdings Inc. in 2008.
The Fed also repeated that it will close four programs supporting money markets and bond dealers in February, as well as dollar swap programs with central banks in Europe and Asia. The central bank is "prepared to modify these plans if necessary to support financial stability and economic growth," the statement said. The Fed also said it is winding down the Term Auction Facility and will hold a final auction on March 8. Chairman Ben S. Bernanke, who faced a procedural vote in the Senate on his confirmation for a second term [Thursday], is looking for signs that the return to economic growth is accompanied by the prospect of stronger hiring and an increase in credit to people and businesses.
The Senate plans to vote on limiting debate and preventing lawmakers from blocking a vote on Bernanke’s nomination. As of yesterday, 50 senators said they would vote for or were inclined to support Bernanke, while 22 were opposed, according to a tally by Bloomberg News. The U.S. unemployment rate held at 10 percent in December, while consumer credit dropped a record $17.5 billion in November. "Household spending is expanding at a moderate rate, but remains constrained by a weak labor market, modest income growth, lower housing wealth, and tight credit," the Fed said in its statement. Employers "remain reluctant to add to payrolls," and bank lending "continues to contract," the FOMC said.
Verizon Communications Inc., coping with subscriber losses at its fixed-line phone business, said this week it will cut about 13,000 jobs at the division this year. Home Depot Inc., the world’s largest home-improvement retailer, said it will pare 1,000 U.S. jobs. Stocks have provided no increase in consumer wealth this year. The Standard & Poor’s 500 Index has declined 1.6 percent, and the Nasdaq Composite Index has lost more than 2 percent. Last year, the indexes rose 23.5 percent and 44 percent, respectively. Officials have kept their benchmark overnight lending rate between banks in a range of zero to 0.25 percent for more than a year. Policy makers said that the "extended period" pledge is contingent on "low rates of resource utilization, subdued inflation trends, and stable inflation expectations."
Production in the U.S. rose for a sixth consecutive month in December, and housing markets are stabilizing. Industrial production rose 0.6 percent last month, pushing up factory capacity in use to 72 percent. That’s still below the average plant-use rate of 78.5 percent from 2000 through 2007. The economy expanded at a 4.6 percent annual rate in the final quarter of last year, according to the median estimate of economists surveyed by Bloomberg News. The government will release its advance report on gross domestic product tomorrow. "The Fed can tolerate 3 to 4 percent growth for a couple of quarters," said John Silvia, chief economist at Wells Fargo Securities LLC in Charlotte, North Carolina. "It would be a ticklish situation if the inflation numbers ticked up."
Short-Term Thinking Is Killing America
"This current recession is just the tip of the iceberg," says Richard D'Aveni, a professor of strategic management at Dartmouth's Tuck School. "If things don't change and we don't start investing for the long-term, we are going to look like China." And by that, D'Aveni doesn't mean a rising economic power: He means the standard of living in the U.S. will fall and China's will rise "until we're all equalized. I don't think that's what we want." D'Aveni, author of Hyper-competition and Beating the Commodity Trap, is the latest in a string of experts to warn America is facing terminal decline.
"Something is fundamentally wrong," he says. "All we have are government policies that are short-term [which] encourage people to make a little money and spend, and then what do we do? We buy Chinese goods and all the money goes overseas instead of creating jobs here. " What's unique about D'Aveni is that while noting America's decline has be going on for decades, he says Barack Obama is to blame for our fate. "The money he's spent is all short-term thinking...it's all expenditures, not investments that would change the competitive advantage of the U.S.," the professor says, drawing a stark distinction between President Obama and the President he's often compared to: FDR.
Europe Budgets Face Pressure
Several European countries raced to announce tougher budget measures on Thursday in a bid to mollify markets made increasingly edgy by Greece's unfolding fiscal crisis. Spain said it will detail €50 billion ($70 billion) in cuts through 2013 on Friday to deal with a budget deficit that is estimated at close to 10% of gross domestic product, more than triple the euro-zone ceiling. Among other euro-zone countries, Portugal announced plans earlier in the week to reduce its deficit of 9% of GDP. And last month, Ireland released a budget that cut spending more than 6%—the toughest fiscal plan in more than a generation, and one that includes steep salary cuts for public-sector workers.
European Union countries outside the euro zone also announced austerity measures. Poland said it will announce budget cuts Friday and the Czech Republic outlined plans to slash its own fiscal deficit to 3% by 2014 from 9% this year. Romania announced an austerity budget in January to slash its deficit by almost 2% of GDP this year, while Bulgaria has chopped spending 15% since a center-right government swept to power in elections in July. The myriad cost-cutting plans come as Greece grapples with its yawning deficit of more than 12%—a figure that could even be higher, according to some economists who doubt Greece's data. Despite a successful €8 billion bond auction earlier this week, Greek bonds traded sharply lower on Thursday, and the cost to insure against a possible Greek default hit a record high.
European Central Bank executive board member Gertrude Tumpel-Gugerell backed the moves, saying that governments must begin to prepare credible and sustainable exits from stimulus programs. "Otherwise public debt in the euro zone could quickly top 100% of GDP," Ms. Tumpel-Gugerell said. "That could damage public trust in the sustainability of public finances [and] exert upward pressure on interest rates in the area over the medium to longer term."
The austerity moves, however, raise some fears that countries are moving prematurely to rein in costs.
Indeed, going into 2010, the International Monetary Fund advised governments to keep their stimulus plans in place to ensure the global recovery takes root. That advice was echoed by the Group of 20 leading nations. But the downgrades to Greece's credit rating and their impact on the country's government bonds have caused alarm in capitals across Europe, sparking a move toward austerity programs despite the risks. "There's a clear danger that countries are being forced by the markets and ratings agencies into tightening fiscal policy too quickly," said Jonathan Loynes, an economist at Capital Economics in London. "They'll have to strike a careful balance between keeping the markets happy, keeping the cost of borrowing down and avoiding aggravating their recessions."
ECB President Jean-Claude Trichet stressed that the 16-currency zone is necessarily diverse because of its size, like the U.S. "We understand that Greece is not Finland, that Spain is not Germany," Mr. Trichet said. "Greece's problems are common to many industrialized countries." The ECB chief added that all countries in the EU, in and out of the euro zone, as well as the U.S., were still "under stress" in the aftermath of the financial crisis and the recession that followed it. Greek Prime Minister George Papandreou flatly rejected speculation in the media, particularly from the euro-skeptic U.K. press, that Greece will have to leave the Economic and Monetary Union, and reintroduce the drachma after a hefty devaluation.
"To be in the euro zone is an asset; it is a buffer against the crisis," Mr. Papandreou said. Not all European governments are removing fiscal stimulus. U.K. Chancellor Alistair Darling insists that bearing down too early on the U.K.'s budget deficit—predicted to reach 12.6% of GDP in 2010—would hinder Britain's economic recovery. But economists caution that an emerging gulf is likely to widen between countries that can afford to keep stimulus measures in place and those that need to act immediately to counter market perceptions of credit risk.
Greek Debt Swap Counterparty Risk May 'Spook' Market
Greece’s economic woes will "spook" the derivatives market because of concern the nation’s banks may struggle to honor their credit-default swap trades, according to BNP Paribas SA. Asset quality at the country’s lenders will deteriorate as the economy slows, forcing them to mark down about 40 billion euros ($56 billion) of government bond holdings, analyst Olivia Frieser wrote in a note to clients today. Funding costs are also rising as the European Central Bank tightens its lending criteria, Frieser wrote.
"What will spook the markets is CDS counterparty risk, our understanding is that Greek banks were active CDS players, and there is no way of finding out about these particular exposures," the London-based analyst wrote. "As long as Greek sovereign and bank spreads remain under pressure, this will weigh on the wider European banking sector." The $26 trillion market for credit-default swaps is used by banks, hedge funds and insurers to insure against default and speculate on the creditworthiness of countries and companies. The counterparty risk is that one side of a contract isn’t able to meet its commitment.
Credit-default swaps on Greek sovereign debt and the nation’s banks soared this month on concern the country won’t be able to raise 53 billion euros this year to reduce a budget deficit of almost 13 percent of gross domestic product, the biggest shortfall in the European Union. Five-year swaps insuring 10 million euros of National Bank of Greece SA debt today surged 46,000 euros to 419,000 euros, according to CMA DataVision prices.
It now costs a $397,000 a year to insure $10 million of Greek government debt against default for five years, according to CMA, down from a record $422,500 yesterday. That compares with $34,000 for Germany and is the highest in the European Union. The country’s new 8 billion euros of five-year bonds sold on Jan. 26 have tumbled. The spread on the notes, due August 2015, has widened to 445 basis points over similar-maturity German government notes, according to Bank of Greece prices on Bloomberg. They were issued at a spread of 380 basis points. "The post-issue performance of the bond looks like a horror scenario to any government bond investor," Tim Brunne, a strategist at UniCredit SpA in Munich wrote in a note to investors today.
French and Swiss banks had the most dealings with Greece as of the end of September, Frieser said, citing data compiled by the Bank for International Settlements. The French banks that have the largest Greek businesses are Credit Agricole SA, which owns Emporiki Bank of Greece SA, and Societe Generale SA, which has stakes in Geniki Bank SA and Hellas Finance, according to Frieser. Investor concerns about Greece are spreading to nations including Portugal and Spain, which must both tame budget deficits. Claims of foreign banks, led by German lenders, on Spain represent 3.8 times those against Greece, meaning "the Spanish sovereign is indeed more important" than Greece, Frieser wrote.
German banks’ claims against Spain are $240 billion, with French banks at $196 billion, BNP said. Credit Agricole owns about 19 percent of Madrid-based Bankinter SA, according to Frieser. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a company or country fail to adhere to its debt agreements.
'Doctor Doom' warns on future of euro
Spain poses a looming and serious threat to the future of the eurozone, the renowned New York University professor Nouriel Roubini said yesterday at the World Economic Forum's annual meeting in Davos, Switzerland. Prof Roubini, who earned the nickname 'Doctor Doom' after correctly forecasting the scale of the global banking crash, said he had "never been more pessimistic" about the future of European monetary union.
"Down the line -- not this year or two years from now -- we could have a break-up of the monetary union. It's a rising risk," he said. Prof Roubini spoke at the forum as investors took fright a day after Greece's huge €8bn borrowing in five-year bonds, which pushed the cost of insuring its government's debt from default to a record high. The cost widened to 3.85pc points above the benchmark rate after the EU Commission said Greece was still not doing enough to correct its huge budget deficit and reports that China was prepared to lend large sums to Greece were denied.
"Technically, the term is that Greece is getting smacked," said Gary Jenkins, head of credit strategy at Evolution Securities in London. He said: "Clearly what's happening is very negative and could lead to a vicious circle. "Unless this bond stabilises and general debt stabilises, you have to ask who is going to lend money to them next time and at what price?" At the forum, Prof Roubini said the single-currency bloc was facing its very first big test.
"The eurozone could drift, essentially with a bifurcation, with a strong centre and a weaker periphery, and eventually some countries might exit the monetary union," he warned. For all the focus on Greece, however, he also said that Spain may eventually pose an even bigger threat to the eurozone because it is the region's fourth-largest economy and has higher unemployment and weaker banks. "If Greece goes under, that's a problem for the eurozone. If Spain goes under, it's a disaster," he said.
But Prof Roubini said even the largest economies were now vulnerable, as financial markets were looking harder at the "new phenomenon" of rising sovereign risk on the ability of governments to service their ballooning national debts. So-called "bond vigilantes" -- investors who punish governments by dumping their debt -- "have been asleep at the wheel" apart from the euro area, said Prof Roubini. "Eventually, they could wake up" in Japan and the US and sell off their bonds, just as they did with Greece.
"We have massive fiscal problems in most of the advanced economies and we're not really dealing with it." After ratings agency Standard & Poor's had lowered its sovereign credit-rating outlook on Japan, Prof Roubini said he was worried about the world's second-largest economy as its debt mounts, deflation returns and the population ages. He warned: "While it can currently finance itself, thanks to domestic savers, at some point investors may flee the yen, pushing up borrowing costs and crippling the economy."
Greece Makes Austerity Vows Amid Scrutiny
As speculative pressure intensified against Greece in European financial markets on Thursday, senior figures in the Greek government sought to bolster confidence that it will repay its debts on time. Prices of Greek government bonds sank and the euro fell to seven-month lows against the dollar as speculators fretted that Greece might not be able to pay its way or might require a bailout from its European Union partners. Prime Minister George Papandreou and Finance Minister George Papaconstantinou flew into the annual gathering of business and political leaders in Davos on a previously scheduled trip in an effort to argue that the panic was overdone.
The message: Their government, which took office in October, has embarked on an austerity plan that will rebuild the country's shattered credibility and start bringing its debt burden down by 2012. Before then, Greece—seen by markets as the weakest euro-zone economy in the euro zone—must raise €54 billion ($76 billion) from financial markets from 2010 or face default. Of the total, 70% must be raised in the first half of the year, Greek officials say. At the same time, the government is set to embark on a program to cut four percentage points from a budget deficit that swelled to a record 12.7% last year.
"These six months are going to be crucial. They will be the test for us and, internationally, for our credibility," Prime Minister Papandreou said in an interview with The Wall Street Journal on Thursday. He and his finance minister said the government has started no discussions about a bailout with its EU partners. "There is no Plan B in terms of bailouts," Mr. Papaconstantinou said in an interview. But if the government needs to take additional austerity measures, it will, he said.
The government's tough budgetary stance, which it says will cut two layers from five layers of government, has already brought Greek farmers out to block roads across the country, a sign of likely domestic opposition to the measures. But Mr. Papandreou said opinion polls showed the government's popularity had increased despite its promises of hard times ahead. "These are major changes. In any other country, this is a small revolution," he Mr. Papandreou said. In the debt markets, officials say the crunch time comes in April. Half the €54 billion Greece needs to raise this year must be raised in the second quarter for it to pay off maturing debt; it also needs to raise roughly €12 billion in April and €12 billion in May.
Greece's travails are a key test for the euro zone, a common-currency zone of 16 nations that has a single central bank but where government spending decisions remain at the national level. Jean-Claude Trichet, the president of the European Central Bank, insisted Thursday in Davos that the currency union's problems are no worse than those faced by other big economies in the financial crisis. However, economists say the price of the post-crisis adjustment won't be paid equally across the euro zone, and will be felt most harshly in a few countries, such as Greece, Spain and Portugal, which before they adopted the euro would have reacted to an economic downturn by devaluing their local currencies.
The message from government leaders in Davos was that austerity was a price worth paying for the stability of staying in the euro. "Nobody is going to leave the euro zone, just as nobody is going to leave the European Union," said José Luis Rodríguez Zapatero, Spain's prime minister. Even as he continued to accept Greece's responsibility for its predicament, Mr. Papandreou's frustration with the market turmoil emerged in a public forum in Davos. "This is an attack on the euro zone by certain other interests, political or financial, and often countries are being used as the weak link, if you like, of the euro zone," he said. In his interview later, he declined to elaborate, saying he saw no conspiracy.
Funds flee Greece as Germany warns of "fatal" eurozone crisis
by Ambrose Evans-Pritchard
Germany has triggered a near-panic flight from southern European debt markets by warning that there will be no EU bail-outs, even though it fears the region's economic crisis has turned dangerous and could prove "fatal" for the entire eurozone. The yield on 10-year Greek bonds blasted upwards by over 40 basis points to 7.15pc in a day of wild trading. Spreads over German Bunds reached almost four percentage points, by far the highest since Greece joined the euro, and close to levels that risk a self-feeding spiral. Contagion hit Portuguese, Spanish, Irish, and Italian bonds.
George Papandreou, the Greek premier, said in Davos that his country had been singled out as the weak link in a "attack on the eurozone" by speculators and political foes. "We are being targeted, particularly by those with an ulterior motive." Marc Ostwald, from Monument Securities, said the botched bond issue of €8bn (£6.9bn) of Greek debt earlier this week has made matters worse. Many of the investors were "hot money" funds that bought on rumours that China was emerging as a buyer, offering them a chance for quick profit. When the China story was denied by Beijing and Athens, these funds rushed for the exit.
However, a key trigger yesterday was testimony in Germany's parliament by economy minister Rainer Brüderle, who said there would be "no bail-outs" for struggling debtors and no move to a "European economic government". "A few European nations are exhibiting dangerous weaknesses. That could have fatal consequences for all countries in the eurozone," he said. Despite the warning, he said each country must solve its own problems. "Germany is not in a mood to be the deep pocket for what they consider profligate, southern neighbours," said hedge fund doyen George Soros.
Mr Brüderle's hard line contradicts a report in Le Monde that Franco-German officials are discussing a rescue for Greece in order to keep the International Monetary Fund at bay. The paper cited a source saying that EMU partners were ready to "help" Greece. "It is a question of credibility for the eurozone. The IMF might want to impose monetary conditions." Le Monde's story was shot down by Berlin and Paris, but there is little doubt that certain officials have been trying to build momentum for a rescue. It is clear that the EU family is split on the issue. Jean-Claude Juncker, head of the Eurogroup of finance ministers, backs "assistance", with support of EU integrationists hoping to nudge the EU towards full fiscal union.
This is fiercely opposed by Berlin, and the German-led bloc at the European Central Bank. There are reports that Berlin is deliberately bringing the crisis to a head, hoping to lance the boil early and force the Club Med states to reform before it is too late. If so, this is a risky strategy. German banks have huge exposure to Greek, Spanish, and Portuguese debt. Hans Redeker, currency chief at BNP Paribas, said Greece will face "great trouble" if it has to pay 7pc rates for long. Athens must raise €53bn this year, mostly in the first half. It has a been relying on cheap short-term debt to fund the budget deficit of 13pc of GDP, but this raises "roll-over risk".
Tim Congdon, from International Monetary Research, said the danger is that wealthy Greeks may shift money to bank accounts abroad if they lose confidence (akin to Mexico's Tequila Crisis in 1994-1995). This would set off a banking crisis and become self-fulfilling. Greece has been financing current account deficits – 15pc of GDP in 2008 – through its banks, which have built up €110bn foreign liabilities. "If foreign creditors want their money back, defaults and/or a macroeconomic catastrophe appear inevitable," Mr Congdon said.
Adding to worries, Moody's has issued an alert on Portugal's "adverse debt dynamics", saying Lisbon needs a "credible plan" to reduce a structural deficit stuck at 7pc of GDP rather than "one-off measures". The deeper concern is Spain, where youth unemployment has reached 44pc and the housing bust has a long way to run. Nouriel Roubini – the economist known as 'Dr Doom' – said Spain is too big to contain. "If Greece goes under that's a problem for the eurozone. If Spain goes under it's a disaster," he said. Jose Luis Zapatero, Spain's premier, replied wearily: "Spanish public debt (52pc of GDP) is 20pc lower than Europe's average; our treasury spends 5pc of revenues on debt costs, less than France and Germany. Nobody is going to leave the euro," he said.
Greece's Debt Woes Prompt Rumblings of a Bailout
European leaders are quietly considering whether to come to the aid of their troubled neighbor Greece amid fears that the nation might default on its debts and unleash another round of financial crisis. Only a month after Dubai was rescued by its neighboring emirate Abu Dhabi, Germany, France and other European powers are discussing whether Greece might need a bailout too.
After a decade of debt-fueled profligacy, Greece is confronting what amounts to a run on the bank. And, despite repeated assurances from Athens, the nation’s strained finances have put already jittery financial markets on edge. On Thursday, the worries stretched all the way to Wall Street, where the stock market sank 1.1 percent. Some economists worry that Greece’s troubles could have deep and lasting repercussions for Europe. The crisis poses complex challenges for the euro, which Greece adopted in 2001. The currency sank to a six-month low against the dollar and yen on Thursday.
"Greece failing is not an option, and lots of people think that we will have to intervene at some stage," said one European finance official, who was not permitted to speak publicly on the matter. "It doesn’t have to happen, and we hope it won’t, but it would be better than seeing a default." The shape and scale of a bailout package, if any, has yet to be determined, according to officials in several European capitals. Whether the International Monetary Fund might become involved is uncertain. Some European leaders want Europe to fix this problem itself, while others are open to working with the I.M.F.
Publicly, neither Greece nor its European neighbors say a bailout is being considered. "There is absolutely nothing to these rumors," a German finance ministry spokeswoman, Jeanette Schwamberger, said in an e-mailed statement from Berlin. "They are without any foundation." Prime Minister George Papandreou of Greece, speaking during the annual meeting of the World Economic Forum in Davos, Switzerland, said his country did not need a loan from the European Union. "We never asked for it," Mr. Papandreou said. But doubts have intensified over the credibility of the drastic austerity measures put forward to try to get Greece’s budget under control, in spite of concerted efforts by the Greek government to calm the markets.
Investors worry that the crisis in Greece could touch off a domino effect across Southern Europe. Many are fleeing bond markets in Portugal, Spain and Italy out of concern the troubles might spread. The market’s judgment has been swift and brutal. On Thursday, the difference between the interest rates on Greek and German bonds — a measure of the risk investors perceive in the Greek debt — rose to nearly four full percentage points, its highest level since the euro was adopted. Officials in Athens, Frankfurt and Brussels remained adamant that Greece was not at risk of being forced to abandon the euro.
As a condition of any aid package, the Greek government led by Mr. Papandreou would be asked to provide a more detailed program to bring the country’s deficit — currently equal to 12.7 percent of gross domestic product — under control. European Union rules call for a maximum of 3 percent. Officials insist that any bailout must not put into doubt the credibility of the euro. Another condition of any aid would be further guarantees over the reliability of Greece’s economic data. Last year the newly elected government in Athens announced a sharp upward revision of its deficit figures, which have since been exposed as seriously flawed.
Next week, the European Commission is expected to propose greater powers for the European statistical agency, Eurostat, to audit the accounts of national governments. The latest moves reflect a continuing skepticism among euro-zone members over the practicality of the plans put forward so far by the Greek government. Athens wants to reduce the deficit to 3 percent of G.D.P. by 2012, an objective described as unrealistic by one European diplomat, also speaking on condition of anonymity. These plans are also to be assessed by the commission next week.
Greece’s budget deficit is four times the E.U. limit, while the country’s debt amounts to 113 percent of G.D.P. But officials insist that, because Greece is not one of the euro zone’s larger economies, the problems created by its grim public finances can be absorbed. The Greek economy represents about 2.5 percent of the euro area’s G.D.P. Richard McGuire, an analyst at RBC Capital Markets in London, said that dropping Greece from the euro zone would be far worse than any possible benefits that might be gained through readopting the drachma and devaluing the currency to seek improvements in competitiveness.
For Greece’s neighbors, there is the possibility of a domino effect, with investors subsequently moving on to test the resilience of another heavily indebted member of the euro area — possibly Italy, whose debt is also 113 percent of its gross domestic product. "Allowing the fiscal shortcomings of what is a small corner of the region to prompt a spike in debt servicing costs of its larger peripheral peers makes little sense," Mr. McGuire said The mechanism of any E.U.-sponsored bailout would be complex, since there is doubt as to whether it is permitted under the union’s governing treaty.
One option, deemed unlikely, would be issuing a sovereign bond for the entire 16-nation euro area. That would probably require complex legal changes among members. Nevertheless, the Socialist leader in the European Parliament, Martin Schulz, called on the commission on Thursday to bring forward proposals to introduce the bonds. "Now is the time for us to stand shoulder-to-shoulder with Greece — not to abandon the country to the mercy of world markets," he said.
A number of possible proposals are under discussion, and the talks are likely to intensify ahead of an European Union summit meeting on Feb. 11 in Brussels. On Monday, Greece paid a hefty 6.22 percent rate to borrow money in the bond market, underscoring investors’ concern. In an interview this week, the Greek finance minister, George Papaconstantinou, acknowledged that the high rates were punitive but asked that investors keep faith. Greece needs to raise at least 53 billion euros this year, much of it this spring.
Stuck in Recession, Spain Plans Deep Budget Cuts
The Spanish government outlined far-reaching spending cuts Friday to bring its gaping budget deficit under control, despite forecasts that the country will remain mired in recession for another year. Broader data released Friday showed that the economic recovery in the 15 other countries using the euro would remain sluggish. Spain has been especially hard hit by a slump in home prices, and is now scrambling to avoid the fate of Greece, where the ballooning budget deficit has brought fears of a default on government bonds.
Madrid said Friday that it planned to cut spending by almost €50 billion to help bring its budget deficit down to 3 percent of gross domestic product by 2013, from 11.4 percent last year. Finance Minister Elena Salgado said the spending cuts would be implemented across the spectrum sparing only education, anti-terrorism, research and development, pension payments and unemployment benefits. The plan included cuts in public wages of 4 percent in 2013.
The Socialist government is likely to face strong opposition to the belt-tightening as its traditional union allies have already voiced opposition to the bulk of the proposals. Madrid has already announced tax increases, including an increase in value added sales tax. "It is a rigorous plan which we are convinced will allow us to meet our commitments by 2013," said Deputy Prime Minister María Teresa Fernández de la Vega, in reference to the E.U.’s deficit limit of 3 percent.
The government left unchanged its G.D.P. forecast for 2010 of a 0.3 percent contraction. The International Monetary Fund said this week that it expected Spain would be the only euro-zone country to remain in recession this year. It forecast a contraction of 0.6 percent in 2010, then growth of 0.9 percent in 2011. The national statistics office in Madrid said Friday that unemployment reached 18.8 percent during the fourth quarter, up from 17.9 percent during the previous period. According to Eurostat, 44.5 percent of the under-25s in Spain were without work at the end of last year. "This quarter we could see further job loss," Mrs. Salgado warned.
Until the crisis hit, Spain had experienced a decade of robust expansion and was praised as a European success story, its economy fueled by easy credit and an explosion in home building. Financial markets have been focusing in recent weeks on the weak finances of the euro-area’s Mediterranean members Greece, Portugal, Italy and Spain. The price of Greek bonds in particular has been sliding as investors lose faith in the ability of Athens to service its debt. While Greece represents about 2.5 percent of euro area GDP, Spain accounts for about 11.5 percent.
"If Greece goes under that’s a problem for the euro zone," Nouriel Roubini, a New York University professor, said at the Davos forum this week, according to Bloomberg News. "If Spain goes under it’s a disaster." Separately, the government also proposed increasing the minimum retirement age by two years to 67 starting 2013. The measure has yet to be approved by a cross-party commission; even if it is agreed by Parliament, it would not affect current retirees, Mrs. Salgado said.
Other data released Friday by Eurostat, the European Union’s statistics agency, showed inflation edged higher in much of Europe during the first month of the year, although less than had been expected, and unemployment continued its slow climb as well. "All in all, the euro-zone is now approaching goldilocks territory," whereby activity is deemed neither too hot nor too cold, said Peter Vanden Houte, an analyst at ING. Growth should be "picking up gradually, while underlying inflationary pressures remain subdued."
Consumer prices in the 16 countries using the euro rose 1 percent in January from a year earlier, the European Union's statistics office Eurostat said in a preliminary release. Economists had expected a 1.2 percent increase. In December, inflation was 0.9 percent higher. That was still well behind the nearly 3 percent rate in Britain and the United States. Marco Valli, an economist at UniCredit Research in Milan, said the lower rate in the euro zone reflected in part the strength of the euro against the pound and dollar.
Economists said the small increase in the euro zone appeared largely to be the result of energy prices, which though softer in recent weeks, remain well above year earlier levels. The estimate did not contain a monthly comparison or a detailed breakdown, which will be published Feb 26. But analysts say the higher energy prices and the fact that the declines in food prices experienced in early 2009 will soon drop out of the year-on-year comparisons will mean more inflationary pressures in the coming months. That effect is likely to be offset, however, by subdued demands for higher wages and rising unemployment.
Eurostat also said that the jobless rate in the euro-area was 10 percent in December, compared to 9.9 percent in November, The latter figure had been revised down from an initial estimate of 10 percent. Analysts polled by Reuters had forecast a figure in December of 10.1 percent. The statistics office said the number of people without jobs rose by 87,000 in December against November to 15.8 million in the euro zone.
India Raises Banks' Reserve Requirements
Hoping to tamp down inflation without stalling economic recovery, the Indian central bank acted cautiously on Friday by increasing banks’ reserve requirements but leaving interest rates unchanged. The Reserve Bank of India raised the cash reserve ratio, or the percentage of deposits banks must have on hand as cash, by three-quarters of a percentage point, to 5.75 percent. That was more than the 0.5 percentage point rise most analysts had expected.
The change will absorb 360 billion rupees, or about $7.8 billion, from the Indian financial system, the central bank said. "Even amidst concerns about rising inflation, we must remember that the recovery is yet to fully take hold," the central bank said. The central bank left the repo rate, a key lending rate, steady at 4.75 per cent. But most economists expect it to lift rates by the end of April. "We need to tighten," the bank’s governor, Duvvuri Subbarao, said at a news conference, Associated Press reported. "An increase in policy rates will happen sometime in the future."
Central bankers in India and other Asian nations face a dilemma: Their economies are heating up, but there is no guarantee that there will not be a "double dip" recession in developed countries that could hurt them, meaning economies in the United States and Europe would contract again. The issue is "how to make it look like a tightening when the real objective is to leave liquidity conditions little changed," said the UBS economist Philip Wyatt. The Indian central bank’s action Friday "shouldn’t be a significant restraint on the economy," he said.
The Indian economy grew 7.9 percent year on year in the July-to-September quarter, far better than most other countries. But inflation is rising, with food prices in particular rising sharply. The inflation rate in December was 7.3 percent, up from 4.8 percent in November; some analysts say it could hit 9 percent in coming months. That is mainly because the costs of essentials like vegetables and grains have risen after droughts and floods. India, which usually produces nearly all the food that it needs, may need to import, government officials said late last year. The food price index increased 17.4 percent in the week that ended Jan. 16 from the previous week. Grain prices are up about 47 percent from a year ago.
"For several months, rapidly rising food inflation has been a cause for concern," the central bank said Friday. "More recently, there are indications that the sustained increase in food prices is beginning to spill over into other commodities and services as well." The Reserve Bank said prices of manufactured goods had increased in the past two months, in part because of rising food prices. Unlike China, India is showing few signs of an overheating economy over all. Indian stock markets are not inflated, analysts say, and there are few concerns about bubbles in other areas of the economy.
Equity prices "don’t look out of line: They’re neither expensive nor cheap," said Samiran Chakraborty, head of India research at Standard Chartered Bank. Real estate prices are still high, he said, but the volume of deals has gone down, allaying fears of a housing and commercial building bubble. The Bombay Stock Exchange’s Sensex average rebounded slightly on Friday, to close up 0.31 percent, after falling sharply during the week ahead of the bank’s monetary policy review.
The bank’s changes Friday may not be a big factor for many corporations, analysts said. Getting loans has not been a problem for most companies, said Bhavesh Kanani, a research analyst at Sharekhan, a Mumbai brokerage. Banks are extending credit, he said, but the companies taking out the loans are not using the cash yet. They are waiting to see how long the global economic recovery will last before starting big projects. The central bank also signaled that it was still watching for weakness in the domestic economy. "Even as most of the forecasts on recovery are generally optimistic, significant risks remain," the bank said, adding that the recovery in India is "still unbalanced." "Public expenditure continues to play a dominant role, and performance across sectors is uneven," the bank said.
Voters in Oregon Approve Tax Increases
Amid recession, high unemployment and tight household budgets, voters in Oregon have agreed to raise taxes on people with higher incomes, to pay for public education and social services. One of only five states with no sales tax, Oregon has long kept its corporate taxes relatively low. A statewide cap limits how much property taxes can rise, and before Tuesday voters had not approved a statewide income tax increase in nearly 80 years.
Each of the two tax proposals, Measures 66 and 67, won decisively, in part because of support from large labor unions and because of how the taxes are directed. Measure 66 raises taxes on individuals earning more than $125,000 a year and on couples whose income exceeds $250,000. Measure 67 raises taxes on businesses. Some will see their taxes increase by tens of thousands of dollars, but many more will be subject to only modest increases, including a rise in the corporate minimum tax to $150 from $10. "It was a pretty good offer the proponents were making," Pat McCormick, a spokesman for the lead opposition group, Oregonians Against Job-Killing Taxes, said sarcastically. "Here’s a way of paying for things that’s not going to cost you anything."
Supporters, led by teachers’ and public employees’ unions, spent about $7 million on the campaign, including television commercials and mailers that portrayed middle-class residents struggling far more than the wealthy and big business, from Wall Street executives to credit card companies. "That was virtually the theme of all of them, that these were folks who were getting out of having to pay their fair share," Mr. McCormick said. "They used that term, ‘protect’ the middle class." Charles Sheketoff, executive director of the Oregon Center for Public Policy, one of the groups that pushed for the tax increases, said the campaign was not about class.
"It’s not that it was targeted at the rich," he said. "It was targeted at the right people, those with the ability to pay. It made the system more progressive." Mr. Sheketoff and Mr. McCormick both said the political climate in Oregon during the campaign shared some populist similarities with those on display in the recent Senate race in Massachusetts in which the Republican Party and Tea Party groups helped elect Scott Brown, a Republican, to the seat long held by the late Edward M. Kennedy. Mr. McCormick said both elections "tapped into the anger that voters feel."
Mr. Sheketoff, however, suggested that the "true populism" was on display in Oregon, and that conservatives elsewhere had "tried to hijack the term." Mr. Sheketoff said the Oregon campaign was "definitely a template" for other states trying to raise revenues. Experts noted that legislative sessions are just getting under way in many states, but Mr. Sheketoff said he had already been contacted for advice by allies in Oregon’s neighboring West Coast states, Washington and California.
Paulson Says Russia Urged China to Dump Fannie, Freddie Bonds
Russia urged China to dump its Fannie Mae and Freddie Mac bonds in 2008 in a bid to force a bailout of the largest U.S. mortgage-finance companies, former Treasury Secretary Henry Paulson said.
Paulson learned of the "disruptive scheme" while attending the Beijing Summer Olympics, according to his new memoir, "On The Brink." The Russians made a "top-level approach" to the Chinese "that together they might sell big chunks of their GSE holdings to force the U.S. to use its emergency authorities to prop up these companies," Paulson said, referring to the acronym for government sponsored entities. The Chinese declined, he said.
Russia’s five-day war with U.S. ally Georgia started on Aug. 8, the same day as the opening ceremonies of the Beijing Games. Prime Minister Vladimir Putin told U.S. President George W. Bush during those ceremonies that "war has started," according to Dmitry Peskov, Putin’s spokesman. "The report was deeply troubling -- heavy selling could create a sudden loss of confidence in the GSEs and shake the capital markets," Paulson wrote. "I waited till I was back home and in a secure environment to inform the president." Russia never approached China about dumping U.S. bonds, Peskov said today. "This is not the case," he said by phone. Russia sold all of its Fannie and Freddie debt in 2008, after holding $65.6 billion of the notes at the start of that year, according to central bank data. Fannie and Freddie were seized by regulators on Sept. 6, 2008, amid the worst U.S. housing slump since the Great Depression.
Paulson said he was surprised not to have been asked about the Fannie and Freddie bonds during a trip to Moscow in June. "I was soon to learn, though, that the Russians had been doing a lot of thinking about our GSE securities," he said of his meeting with Dmitry Medvedev, who succeeded Putin in the Kremlin the previous month. Putin kept Paulson waiting before their meeting at the government’s headquarters and made the conversation "fun" by being "direct and a bit combative," Paulson said. "He never took offence and we could spar back and forth," he said. Paulson’s book is scheduled to be released Feb. 1, though Bloomberg News bought a copy at a New York bookstore.
This Corruption in Washington is Smothering America's Future
Johann Hari, Columnist, London Independent
This week, a disaster hit the United States, and the after-tremors will be shaking and breaking global politics for years. It did not grab the same press attention as the fall of liberal Kennedy-licking Massachusetts to a pick-up truck Republican, or President Obama's first State of the Union address, or the possible break-up of Brangelina and their United Nations of adopted infants. But it took the single biggest problem dragging American politics towards brutality and dysfunction - and made it much, much worse. Yet it also showed the only path that Obama can now take to salvage his Presidency.
For over a century, the US has slowly put some limits - too few, too feeble - on how much corporations can bribe, bully or intimidate politicians. On Tuesday, they were burned away in one whoosh. The Supreme Court ruled that corporations can suddenly run political adverts during an election campaign - and there is absolutely no limit on how many, or how much they can spend. So if you anger Goldman Sachs by supporting legislation to break up the too-big-to-fail banks, you will smack into a wall of 24/7 ads exposing your every flaw. If you displease Exxon-Mobil by supporting legislation to deal with global warming, you will now be hit by a tsunami of advertising saying you are opposed to jobs and The American Way. If you rile the defence contractors by opposing the gargantuan war budget, you will face a smear-campaign calling you Soft on Terror.
Representative Alan Grayson says: "It basically institutionalizes and legalizes bribery on the largest scale imaginable. Corporations will now be able to reward the politicians that play ball with them - and beat to death the politicians that don't... You won't even hear any more about the Senator from Kansas. It'll be the Senator from General Electric or the Senator from Microsoft." In 2008, Exxon Mobil made profits of $85bn. So if they dedicated just 10 percent to backing a President who would serve their interests, they would have $8.5bn to spend - more than every candidate for President and every candidate for Senate spent at the last election. And that's just one corporation.
To understand the impact this will have, you need to grasp how smaller sums of corporate money have already hijacked American democracy. Let's look at a case that is simple and immediate and every American can see in front of them: healthcare. The United States is the only major industrialized democracy that doesn't guarantee healthcare for all its citizens. The result is that, according to a detailed study by Harvard University, some 45,000 Americans die needlessly every year. That's equivalent to 15 9/11s every year, or two Haitian earthquakes every decade.
This isn't because the American people like it this way. Gallup has found in polls for a decade now that two-thirds believe the government should guarantee care for every American: they are as good and decent and concerned for each other as any European. No: it is because private insurance companies make a fortune today out of a system that doesn't cover the profit-less poor, and can turn away the sickest people as "uninsurable". So they pay for politicians to keep the system broken. They fund the election campaigns of politicians on both sides of the aisle, and in return, those politicians veto any system that doesn't serve their paymasters. Look for example at Joe Lieberman, the former Democratic candidate for Vice-President. He has taken $448,066 in campaign contributions from private healthcare companies while his wife has raked in $2m as one of their chief lobbyists, and he has loyally blocked any attempt in the Senate to break the stranglehold of the health insurance companies and broaden coverage.
The US political system now operates within a corporate cage. If you want to run for office, you have to take corporate cash - and so you have to serve corporate interests. Corporations are often blatant in their corruption: it's not unusual for them to give to both competing candidates in a Senate race, to ensure all sides are indebted to them. This runs so deep that Congressman James Clyburn says the US has become a "corpocracy." It has reached the point that lobbyists now often write the country's laws. Not metaphorically; literally. The former Republican congressman Walter Jones spoke out in disgust in 2006 when he found that drug company lobbyists were actually authoring the words of the Medicare prescription bill, and puppet-politicians were simply nodding it through.
But what happens if politicians are serving the short-term profit-hunger of corporations, and not the public interest? You only have to look at the shuttered shops outside your window for the answer. The banks were rapidly deregulated from the Eighties through the Noughties because their lobbyists paid politicians on all sides, and demanded their payback in rolled-back rules and tossed-away laws. As Senator Dick Durbin says simply: "The banks own the Senate," so they had to obey. The result was that the banks made staggering profits - and were immediately rescued when they smashed the world economy. The only people who paid for it were the public, all over the world.
It is this corruption that has prevented Barack Obama from achieving anything substantial in his first year in office. How do you reregulate the banks, if the Senate is owned by Wall Street? How do you launch a rapid transition away from oil and coal to wind and solar, if the fossil fuel industry owns Congress? How do you break with a grab-the-oil foreign policy if Big Oil provides the invitation that gets you into the party of American politics?
His attempt at healthcare reform is dying because he thought he could only get through the Senate a system that the giant healthcare corporations and drug companies pre-approved. So he promised to keep the ban on bringing cheap drugs down from Canada, he pledged not to bargain over prices, and he dumped the idea of having a public option that would make sure ordinary Americans could actually afford it. The result was a Quasimodo healthcare proposal so feeble and misshapen that even the people of Massachusetts turned away in disgust.
Yet the corporations that caused this crisis are now being given yet more power. Bizarrely, the Supreme Court has decided that corporations are "persons", so they have the "right" to speak during elections. But corporations are not people. Should they have the right to bear arms, or to vote? It would make as much sense. They are a legal fiction, invented by the state - and they can be fairly regulated to stop them devouring their creator. This is the same Supreme Court that ruled that the detainees at Guantanomo Bay are not "persons" under the constitution and are deserving of basic protections. A court that says a living breathing human is less of a "person" than Lockheed Martin has gone badly awry.
Obama now faces two paths - the Clinton road, or the FDR highway. After he lost his healthcare battle, Clinton decided to simply serve the corporate interests totally. He is the one who carried out the biggest roll-back of banking laws, and saw the largest explosion of inequality since the 1920s. Some of Obama's advisors are now nudging him down that path: the pledge for an appalling anti-Keynesian spending freeze on social programmes for the next three years to pay down the deficit is one of their triumphs.
But there is another way. Franklin Roosevelt began his Presidency trying to appease corporate interests - but he faced huge uproar and disgust at home when it became clear this left ordinary Americans stranded in the fog of a depression. He switched course. He turned his anger on "the malefactors of great wealth" and bragged: "I welcome the hatred... of the economic royalists." He launched a programme of redistributing power from the corporations back towards the people, and put in place tough regulations that prevented economic disaster and spiralling inequality for three generations.
There were rare flashes of what Franklin Delano Obama would look like in his reaction to the Supreme Court decision. He said: "It is a major victory for big oil, Wall Street banks, health insurance companies, and other powerful interests that marshal their power every day in Washington to drown out the voices of everyday Americas." But he has spent far more time coddling those interests than taking them on. The great pressure of strikes and protests put on FDR hasn't yet arisen from a public dissipated into hopelessness by an appalling media that convinces them they are powerless and should wait passively for a Messiah.
Very little positive change can happen in the US until they clear out the temple of American democracy. In the State of the Union, Obama spent one minute on this problem, and proposed restrictions on lobbyists - but that's only the tiniest of baby steps. He evaded the bigger issue. If Americans want a democratic system, they have to pay for it - and that means fair state funding for political candidates. Candidates are essential for the system to work: you may as well begrudge paying for the polling booths, or the lever you pull. At the same time, the Supreme Court needs to be confronted: when the Court tried to stymie the New Deal, FDR tried to pack it with justices on the side of the people. Obama needs to be pressured by Americans to be as radical in democratizing the Land of the Fee.
None of the crises facing us all - from the global banking system to global warming - can be dealt with if a tiny number of super-rich corporations have a veto over every inch of progress. If Obama flunks this challenge now, he may as well put the US government on eBay and sell it to the highest bidder. How would we spot the difference?
Growth Isn't Possible (excerpt)
by Andrew Simms, Victoria Johnson and Peter Chowla
Download entire nef (the new economics foundation) article here
As economist Herman Daly once commented, he would accept the possibility of infinite growth in the economy on the day that one of his economist colleagues could demonstrate that Earth itself could grow at a commensurate rate.
Whether or not the stumbling international negotiations on climate change improve, our findings make clear that much more will be needed than simply more ambitious reductions in greenhouse gas emissions. This report concludes that a new macro economic model is needed, one that allows the human population as a whole to thrive without having to relying on ultimately impossible, endless increases in consumption.
From the Introduction:
...In January 2006, nef (the new economics foundation) published the report Growth isn’t working.9 It highlighted a flaw at the heart of the economic strategy that relies overwhelmingly upon economic growth to reduce poverty. The distribution of costs and benefits from global economic growth, it demonstrated, are highly unbalanced. The share of benefits reaching those on the lowest incomes was shrinking. In this system, paradoxically, in order to generate ever smaller benefits for the poorest, it requires those who are already rich and ‘over-consuming’ to consume ever more.
The unavoidable result, the report points out, is that, with business as usual in the global economy, long before any general and meaningful reduction in poverty has been won, the very life-support systems we all rely on are likely to have been fundamentally compromised.
Four years on from Growth isn’t working, Growth isn’t possible goes one step further and tests that thesis in detail in the context of climate change and energy. It argues that indefinite global economic growth is unsustainable. Just as the laws of thermodynamics constrain the maximum efficiency of a heat engine, economic growth is constrained by the finite nature of our planet’s natural resources (biocapacity). As Daly once commented, he would accept the possibility of infinite growth in the economy on the day that one of his economist colleagues could demonstrate that Earth itself could grow at a commensurate rate.
The most recent data on human use of biocapacity sends a number of unfortunate signals for believers in the possibility of unrestrained growth. Our global ecological footprint is growing, further overshooting what the biosphere can provide and absorb, and in the process, like two trains heading in opposite directions, we appear to be actually shrinking the available biocapacity on which we depend.
Globally we are consuming nature’s services – using resources and creating carbon emissions – 44 per cent faster than nature can regenerate and reabsorb what we consume and the waste we produce. In other words, it takes the Earth almost 18 months to produce the ecological services that humanity uses in one year. The UK’s footprint has grown such that if the whole world wished to consume at the same rate it would require 3.4 planets like Earth.
Growth forever, as conventionally defined (see Box 1), within fixed, though flexible, limits isn’t possible. Sooner or later we will hit the biosphere’s buffers. This happens for one of two reasons. Either a natural resource becomes over-exploited to the point of exhaustion, or because more waste is dumped into an ecosystem than can be safely absorbed, leading to dysfunction or collapse. Science now seems to be telling us that both are happening, and sooner, rather than later.
Yet, for decades, it has been a heresy punishable by career suicide for economists (or politicians) to question orthodox economic growth. As the British MP Colin Challen quipped in 2006, ‘We are imprisoned by our political Hippocratic oath: we will deliver unto the electorate more goodies than anyone else.’12
...Why do economies grow?
We should ask the simple question, why do economies grow? And, why do people worry that it will be a disaster if they stop? The answers can be put reasonably simply.
For most countries in much of human history, having more stuff has given human beings more comfortable lives. Also, as populations have grown, so have the economies that housed, fed, clothed and kept them.
Yet, there has long been an understanding in the quiet corners of economics, as well as louder protests in other disciplines, that growth cannot and need not continue indefinitely. As John Stuart Mill put it in 1848, ‘the increase of wealth is not boundless: that at the end of what they term the progressive state lies the stationary state.’20
The reasons for growth not being ‘boundless’ too, have been long known. Even if the modern reader has to make allowances for the time in which Mill wrote, his meaning remains clear: ‘It is only in the backward countries of the world that increased production is still an important object: in those most advanced, what is economically needed is a better distribution.’21
...Why growth isn’t working
Between 1990 and 2001, for every $100 worth of growth in the world’s income per person, just $0.60, down from $2.20 the previous decade, found its target and contributed to reducing poverty below the $1-a-day line.38 A single dollar of poverty reduction took $166 of additional global production and consumption, with all its associated environmental impacts. It created the paradox that ever smaller amounts of poverty reduction amongst the poorest people of the world required ever larger amounts of conspicuous consumption by the rich.
Growth wasn’t (and still isn’t) working.41 Yet, so deeply engrained is the commitment to growth, that to question it is treated as a challenge to the whole exercise of economics. Nothing could be further from the truth. This report is a companion volume to nef’s earlier and ongoing research. It is written in the hope that we can begin to look at the fascinating opportunities for economics that lie beyond the doctrine –it could be called dogma – of growth.
One of the few modern economists to have imagined such possibilities in any depth is Herman Daly.42 The kind of approach called for in a world constrained by fuzzy but fundamental limits to its biocapacity is one, according to Daly, that is: ‘…a subtle and complex economics of maintenance, qualitative improvements, sharing frugality, and adaptation to natural limits. It is an economics of better, not bigger’.43
From Chapter 2: Scenarios of growth and emission reductions
We used a globally aggregated Earth system model – the Integrated Science Model (ISAM) global carbon model to predict the effect of emissions on atmospheric concentrations of CO2. The ISAM model is available online and has been used widely in the IPCC assessment reports and climate policy analyses related to greenhouse gas emissions.201 The carbon-cycle component is representative of current carbon-cycle models.202 Model iterations were run with the IPCC B scenario for carbon emissions from land-use changes.203 Emissions of other greenhouse gases besides CO2were also assumed to follow the IPCC B scenario.
Even though the model provides a projection of median temperature increases, these have not been reported due to the uncertainty in projecting temperature changes with increasing greenhouse gas concentrations.204 We have, therefore, confined ourselves to demonstrating the necessary improvements in carbon intensity to meet various CO2 emissions targets.
To test whether the projections correspond to a sustainable economy, we examine the potential for overshooting of CO2 emission targets, with a given level of energy intensity of the economy improvements, energy demand and GDP growth. We have used the SIMCAP modelling platform developed by Malte Meinshausen to generate potential target emissions pathways.205 The model uses an Equal Quantile Walk (EQW) method to create more plausible scenarios for emissions paths out of the infinite combinations of yearly emissions that might achieve the targets.206
We have reported the results for target peaks of atmospheric CO2 concentrations of 350 ppm, 400 ppm, 450 ppm, 500 ppm and 550 ppm CO2. Note that we have confined our analysis in this section to actual CO2 emissions, ignoring the effect of other greenhouse gases. This was necessary because of the limits of the model in converting other emissions into CO2e emissions. Thus, the actual warming effect is greater than that created by the CO2 emissions. Based on current proportions, the CO2e would be around 75 ppm greater; for example, 350 ppm CO2 is around 425 ppm CO2e.
Scenarios of growth and emission reductions
The EQW method was used to create the emission scenarios required to meet the target, with emissions reductions starting in 2007 for the OECD and 2010 for other regions of the world. Using this scenario and the previously defined rates of GDP growth, we have calculated what the necessary energy intensity and/or carbon intensity improvements would have to be to remain below the CO2 targets. The EQW method was also used to create the post-2050 emissions pathways that would be necessary under the RS and AP scenarios to meet the targets.
Recent evidence and modelling has brought further clarity to the debate over feedback considerations. In the carbon-cycle, faster rates of emissions growth and accumulation of CO2 in the atmosphere will weaken the rate at which it can be absorbed into the oceans or terrestrial carbon sinks (see Box 11). While we have excluded such feedbacks from the main analysis, we have provided estimates using these data separately.
Although increasingly warning of production capacity constraints, the IEA makes no detailed mention of the possible physical limits to continuing exploitation of fossil fuels to drive the global economy.
That is, with the single exception in one media interview, when Fatih Birol, the IEA’s chief economist, said, ‘In terms of the global picture, assuming that OPEC will invest in a timely manner, global conventional oil can still continue, but we still expect that it will come around 2020 to a plateau.’207 In other words, a peak and long-term decline in the global production of oil. Evidence is presented later in this report on the likely onset of Peak Oil.
Projections for oil and gas production were obtained from Colin Campbell and the Association for the Study of Peak Oil (ASPO).208 Given the constraints in building and developing alternative sources of energy, such as nuclear or hydroelectric power stations, we have assumed that the energy requirements left unfilled because of the shortage of oil and gas will be filled by replacing those fuels with coal – a phenomenon that appears to be occurring already. This has significant effects on the carbon intensity of energy. While the rate of supply side efficiency improvements to the energy intensity of the economy are also dependent on the fuel mix, this substitution serves as a first order estimate of the effects of Peak Oil on anthropogenic greenhouse gas emissions.
As CCS is still an immature technology, yet to be proven at scale, we do not assume that it plays a role in reducing the carbon intensity of the economy.210 The future role of CCS is discussed in more detail later in this report.
We have also erred on the side of caution by not factoring in the declining net energy gains from fossil fuel extraction as more marginal stocks of oil, gas and coal are exploited. Increasing amounts of energy must be used to exploit heavy oils and tar sands which would have deleterious effects on the energy intensity ratio.211 But without a very comprehensive and detailed global energy model, predicting such effects would be difficult. Additionally, using coal that is higher in moisture or otherwise less efficient for electricity production would have similar negative effects on the energy intensity ratio which we have not modelled here for lack of data.
As shown in Figure 6, the scenarios developed by the IEA would lead to extremely high concentrations of atmospheric CO2, with the RS breaching the upper limit of our most generous target range in 2047. Even the optimistic AP scenario, would lead to atmospheric concentrations of CO2 of 487 ppm by 2050.
The results of a possible emissions scenario that would seek to stabilise atmospheric CO2 concentration at 500 ppm after 2050 is shown in Figure 7. Given the pre-2050 emissions pathway of the alternative policy scenario, it is impossible to prevent an overshoot of the target. The changes in emissions levels needed to even bring about stabilisation after an overshoot are quite dramatic. As Figure 7 shows, if the alternative policy scenario is followed until 2050, immediately thereafter carbon emissions would still have to be curtailed by roughly 1.1 per cent annually to even stabilise atmospheric CO2 below 550 ppm. This does not account for the impact of carbom-cycle feedbacks, however.
If we take into account the effects of carbon-cycle feedback mechanisms, the atmospheric concentrations of CO2 corresponding to a given level of emissions increases over time. As climate models disagree about the magnitude of the feedback effect, we have demonstrated the range of possible CO2 concentrations in Figure 8. Data on the potential carbon-cycle feedbacks were take from the C4MIP Model Intercomparison.212 In the worst-case scenario, the atmospheric concentration of CO2 is about 10 per cent larger than previously modelled.
The situation becomes much worse when the Peak Oil projections are combined with the possible efficiency improvements described in the IEA scenarios (see Figure 9). In the AP scenario, resulting emissions from the projected change in the fuel mix would be nearly 17 per cent higher than the IEA projections. This would bring projected atmospheric CO2 concentration to 501 ppm in 2050. Peak Oil, therefore implies that proceeding with every proposed improvement to energy intensity and adoption of cleaner fuels will not be sufficient to prevent a breach of even the most generous target and thus potentially disastrous climate change.
From Chapter 3: Peak Oil, Gas
Supplying the world with all the crude oil and natural gas it wants is about to become much harder, if not impossible. For oil, the horizon of the global peak and decline of production appears close and that for gas not much further behind. When demand exceeds production rates, the rivalry for what remains is likely to result in dramatic economic and geopolitical events that could make the financial chaos of 2008 in Europe and the USA seem light-hearted. Ultimately, it may become impossible for even a single major nation to sustain an industrial model as we have known it during the twentieth century.220
Counter-intuitively, the imminent global onset globally of the peak, plateau and decline of the key fossil fuels, oil and gas, will not help arrest climate change. If anything, it could be a catalyst for worse emissions and accelerating warming. For example, in October 2009, the UK Energy Research Centre (UKERC) reviewed the current state of knowledge on oil depletion.221 The study argued as we advance through peak oil:
…there will be strong incentives to exploit high carbon non-conventional fuels. Converting one third of the world’s proved coal reserves into liquid fuels would result in emissions of more than 800 million tonnes of CO2, with less than half of these emissions being potentially avoidable through carbon capture and storage.
In other words, with the analyses by Meinshausen and Allen discussed earlier in this report in mind, without extensive investment in low carbon alternatives to conventional oil, and policies that encourage demand reduction, Peak Oil is likely to drive emissions further towards a threshold of dangerous climate change.
Box 17. Peak Oil and food production
Increased fossil energy prices will in turn cause the price of food to increase significantly. On average, 2.2 kilocalories of fossil fuel energy are needed to extract 1 kilocalorie of plant-based food.222 In the case of meat, the average amount of kcal fossil energy used per kcal of meat is much greater, with an input/output ratio of 25.223
In early 2008, the UN World Food Programme had to reassess its agreed budget for the year after identifying a $500 million shortfall. It found that the $2.1 billion originally allocated to food aid for 73 million people in 78 countries would prove to be inadequate because of the rising costs of food. Higher oil and gas prices have contributed to this by increasing the costs of using farm vehicles and machinery, transporting food and manufacturing fossil-fuel-dependent input such as fertiliser. The move to grow biofuel crops has also exerted upward pressure on food prices by leaving less productive land available to grow crops.
The global economy is still well over 80 per cent dependent on fossil fuels. Oil remains the world’s most important fuel largely because of its role in transport and agriculture and the ease with which it can be moved around. The historical pattern has been for industrial societies to move from low-quality fuels (coal contains around 14–32.5MJ per kg) to higher quality fuels (41.9 MJ/kg for oil and 53.6 MJ per kg), and from a solid fuel easily transported and therefore well suited to a system of global trade in energy resources.224
Almost all aspects of our economy are dependent on a constant and growing supply of cheap oil, from transport to farming, to manufacturing and trade. In the majority world, where too many people live close to, or below the breadline, the long tail of green revolution agriculture depends on pesticides and fertilisers that need large amounts of fossil fuels. The implication of any interruption to that supply, either in terms of price or simple availability, means a significant shock to the global economy. Everyone will be affected, but some more than others.
From the last chapter: If not the economics of global growth, then what? Getting an economy the right size for the planet
...The stationary state
The lineage of the notion of ‘one planet living’ can be traced at least as far back as the early nineteenth century. Philosopher and political economist John Stuart Mill was shaped by the human and environmental havoc of the voracious Industrial Revolution.
In reaction to it, he argued that, once certain conditions had been met, the economy should aspire to exist in a ‘stationary state’. It was a hugely radical notion for the time. Mill thought that an intelligent application of technology, family planning, equal rights, and a dynamic combination of a progressive workers movement with the growth of consumer cooperatives could tame the worst excesses of capitalism and liberate society from the motivation of conspicuous consumption.
He prefigured Kropotkin’s analysis that economics could learn from the success of cooperation, or ‘mutual aid’ as he coined it, in ecological systems, itself a riposte to the fashionable misappropriation of Darwinism to social and economic problems.406 The latter economic folk wisdom remains nevertheless strong. And even today, the Anglo Saxon economic model is commonly defended with similar misappropriations of Darwin that emphasise the ‘law of the jungle’ and ‘survival of the fittest.’ This view suggests that competition in economics, as in nature, should be the natural, dominant mode of operation. Yet, actual evolutionary biology has moved far beyond this caricature, identifying a wide range of different and equally successful strategies in evolution alongside competition.407
These include symbiosis (an example of which is the bacteria which fix nitrogen in plant roots consequently making life possible), collaboration (as was the case with primeval slime mould), co-evolution (the pollinating honey bee responsible for about one in three mouthfuls of the food we eat), and even reason (as with problem solving animals – like elephants, dogs, cats, rats, sperm whales and, sometimes, humans). Optimal diversity too is considered a key condition – nature’s insurance policy against disaster – suggesting that economic systems which allow clone towns to be dominated by massive global chain stores, are probably a bad idea.
Mill also prefigured Keynes’s hope, and similar faith in technology, that once the ‘economic problem’ was solved, we would all be able to turn to more satisfying pursuits, and put our feet up more. He also prepared the ground for the emergence of ecological economics.
The Steady state
In a fairly direct line of intellectual descent, economist Herman Daly has done perhaps more than anyone to popularise the notion of what he calls ‘steady state’ economics. His comprehensive critique, worked-up over decades, decries the absence of any notion of optimal scale in macro-economics, and the persistent, more general refusal of the economics profession to accept that it, too, like the rest of life on the planet, is bound by the laws of physics (see Introduction).
As he wrote in Beyond Growth: ‘Since the earth itself is developing without growing, it follows that a subsystem of the earth (the economy) must eventually conform to the same behavioural mode of development without growth.’408
Of course the big question concerns when, precisely, the ‘eventually’ moment comes. Daly borrows a public safety analogy from the shipping industry to demonstrate what is needed ecologically at the planetary level.
The introduction of the ‘Plimsoll line’ was, so to speak, a watershed to do with a watermark. When a boat is too full, rather obviously it is more likely to sink. The problem used to be that, without any clear warning that a safe maximum carrying capacity had been reached, there was always an economic incentive to err on the incautious side by overfilling. The Plimsoll line solved the problem with elegant simplicity: a mark painted on the outside of the hull that indicates a maximum load once level with the water.
Daly’s challenge to economics is to adopt or design an equivalent, ‘To keep the weight, the absolute scale, of the economy from sinking our biospheric ark’.409 But Daly is not a crude environmental determinist; for any model to work he insists that alongside optimal scale, equally important is a mechanism for optimal distribution based on equity and sufficiency.
To date, the nearest, in fact, only, leading contender to provide the environmental Plimsoll line is the Ecological Footprint. Before the Contraction and Convergence model, which is designed to manage safely greenhouse gas emissions, was ever thought of, Daly identified its basic mechanism as the way to manage the global environmental commons. First, he said, you need to identify the limit of whichever aspect of our natural resources and biocapacity concerns you, then within that, allocate equitable entitlements and, in order to allow flexibility, make them tradable. Such an approach could be applied to the management of the world’s forests and oceans as much as CO2. Daly credits the innovative American architect and polymath Richard Buckminster Fuller for first suggesting the approach. At a fundamental level, this is the primary mechanism to avoid the tragedy of the commons.
In addition, an indicator such as the Happy Planet Index410 which incorporates the Ecological Footprint helps to reveal the degree of efficiency with which precious natural resources are converted into the meaningful human outcomes of long and happy lives.
At the ‘eventually’ moment, or rather well before, these other ways of organising and measuring the economy become vital. In one sense it has already passed. According to the Ecological Footprint, the world has been over-burdening its biocapacity – consuming too many natural resources and producing more waste than can be safely absorbed – since the mid-1980s. We’ve been living beyond our ecological means. But, at what point does the damage become irreversible? This will be different for different ecosystems. But, where climate change is concerned, we have drawn a line in the atmospheric sand at the end of 2016. Based on current trends and several conservative assumptions, at that point, greenhouse gas concentrations will begin to push a new, more perilous phase of global warming.411
‘Stationary’, ‘steady’, up to a point these words communicate the message that, logically, a subset of a system (the economy) cannot outgrow the system itself (the planet), and the need to establish a balance. Why suggest yet another term for an essential characteristic of true sustainability?
Yet, the terms ‘stationary’, and ‘steady’, are unattractive for our purposes. They fail to capture sufficiently the dynamism of the interactions between human society, the economy and the biosphere. They wrongly appear to suggest for economics, what was once famously, and with epic error announced for history, namely its end.
But, on the contrary, writes Daly, it is just that a very different economics is needed, one that is; ‘a subtle and complex economics of maintenance, qualitative improvements, sharing frugality, and adaptation to natural limits, It is an economics of better, not bigger’.412
‘Dynamic equilibrium’, is both a more accurate description of the condition we have to find and manage, and a more attractive term. Found typically in discussions of population biology and forest ecology, it captures a mirror of nature for society, in which, within ecosystem limits, there is constant change, shifting balances and, evolution. ‘Dynamic’ in the sense that little is steady or stationary, but ‘equilibrium’ in that the vibrant, chaotic kerfuffle of life, economics and society must organise its affairs within the parent-company boundaries of available biocapacity.
In his parting address from the World Bank, where he worked for six years, Daly left his colleagues with a formula for sustainability: stop counting the consumption of natural capital as income; tax labour and income less, and resource extraction more; maximize the productivity of natural capital in the short run and invest in increasing its supply in the long run; and most contentiously, abandon the ideology of global economic integration through free trade, free capital mobility, and export-led growth.
nef’s report, The Great Transition, explores how best to organise an economy that exists in a state of dynamic equilibrium with the biosphere. That and other research underway seeks to address all the usual questions such as ensuring livelihoods, security in youth and old age, maximising well-being and social justice. The point of this report has been simply to establish the case, as far as possible beyond question, that such an economy is needed.
The challenge: How to create good lives and flourishing societies that do not rely on infinite orthodox growth
This report set out to examine the physical and environmental constraints to unlimited global economic growth as measured by GDP. Taking climate change and fossil fuel use as a particular focus, we find that these constraints at the global level are real and immediate. This means, that in order to allow economic growth in low per capita income countries where, for example, rising income has a strong relationship to greater life expectancy, there will need to be less growth in those high-income countries where the relationship to increasing life expectancy and satisfaction has already broken down...