Jones based Wile E. on Mark Twain's "a long, slim, sick and sorry-looking skeleton", "a living, breathing allegory of Want. He is always hungry"
Ilargi: If you haven't yet, don’t forget to order Stoneleigh's video presentation of "A Century of Challenges", the lecture that's made her famous across Europe and North America. There is a reason that plenty of people have driven hundreds of miles to see her live. It’s up to you to find out why, and it won't cost you much.
to order and find out (or click the button on the right hand side just below the banner), and buy a copy for someone you think needs to know what Stoneleigh has to say. What better Christmas gift can you imagine?
Ilargi: It's not the first time, guys, and it won’t be the last by the looks of it. But I do apparently have to repeat it from time to time: we're still having the wrong conversations. And I'm increasingly losing hope that we’ll switch to the right ones before it no longer matters what we talk about.
I was thinking about this the past few days looking at the gold price situation being discussed everywhere, including in the Automatic Earth comment sections. People feel smart for buying gold at the right time, and gold is at a record high (well, in US dollars; not in euro’s, it’s not), we've all seen it.
Still, the reason why The Automatic Earth doesn't focus on gold or its price is very simple: it's not the right conversation to have at this point in time. When we're done, as a society, as a national and global economy, with this round of real life Jeopardy behind us, 90-something percent of those who today see themselves as investors will no longer be that, and will have had to sell their gold and silver and most of their other possessions just to keep their families clothed, warm and fed. Unfortunately, that realization hasn't seeped through at all. First off, we're not smart enough to do the math, and second, we wish to wish it all away.
When our financial systems began to shake in 2007 and large chunks started to fall off in Jericho fashion in 2008, we were not witnessing yet another cyclical economic move, not another run of the mill thirteen in a dozen recession. We were watching the end of the financial system as we had come to know it.
And we still are. We're watching Wile E. Coyote on a broken reel.
The foundation of it all is US (un)employment and the housing market. Well, home prices have not stabilized, in the same sense that Wile E. Coyote does not stabilize in his infamous mid air moments, but is stuck in a temporary state of suspension. He only stabilizes once he hits the ground below. Physics 101, and economics 101, though you wouldn't know the latter from those who ply the trade. Wonder who’ll get the Economics Fauxbel one of these days. It’ll be hard to beat the thickness of handing the thing to Krugman last year.
Like Wile. E., US home prices today are suspended in mid air, and barely at that (they’re actually down 30%). The chances that they’ll go up from here are exceedingly small. And that is very bad news for the financial system, for the government and for all Americans, not just because everyone homeowner stands to lose another $100,000 or so in equity, but also because of the tens if not hundreds of trillions in derivatives written on the values of these homes and the mortgages they were "financed" with.
Nobody expects Wile E. to rise up once he's run off the cliff, or even linger at the same altitude for too long; yet, bizarrely and unfortunately, many do expect the US housing market, and indeed the American economy, to do just that.
It's time to stop fooling yourselves. For the US economy, housing market and labor market, like for Wile E., there’s only one way to go from here, and that is down. It's not going to come back for a very long time, if ever. And that, if nothing else, means our decisions, as a society and as individuals, will have to be radically different from what they would be if there were a chance of a recovery.
It has been entertaining to read about the foreclosure scandals lately; turns out, they were based all along on paperwork as fabricated as the mortgages that gave birth to them, and that keep on giving.
But when I see people expressing hope that this will finally stick it to the banks, and teach 'em a lesson, I despair. Look, all Washington has done over the past 2-3 years (or even 20-30 years) has been to protect the banks on Wall Street. Why would you think that will stop now? US banks as a whole are broke, broker, broken, and they wouldn't survive any major change that would imperil their revenues. In the end, they won't survive, period, but for now they're still just zombies stuck in a Wile E. moment, seemingly alive.
Yet, even as I see people applaud Obama for not signing a legal document that would make it easier for banks to throw Americans out of their homes, the overall policy direction remains the same: save the banks at all costs, wherein “all costs" means costs to taxpayers. This has been the policy all along, and it's been the wrong one all along too. And that is, once again, because we are still having the wrong conversations.
Everybody and their pet armadillos keep saying the same thing, even if it is from different viewpoints: it's either something or other will "hurt the recovery", or the opposite will. But there is no recovery, and never has been other than in funny fuzzy government stats, and despite the silly GDP data all politicians love, there won't be, not for a very long time, if ever. We need to stop seeing the world through these rosy glasses that are starting to look seriously ridiculous on our faces.
Then again, from where I’m sitting, it’s already way too late to repair the damage done by the myopic policies we've witnessed ever since the walls started crumbling.
Saving the banking system was always the wrong priority. At least from the point of view of the average American. Or Brit, or German. The crucial idea in all this that makes it all go awry is growth.
We need to get back to growth as soon as we possibly can, or we're all screwed. So screwed indeed that the very thought of a possible non-growth period has been banned from all national political and media centers. Like, to reiterate it once more, Tim Geithner telling the US Senate in 2009 that there was no need for a Plan B if his great plan, which has since failed spectacularly, might fail.
And there's something to be said for this way of looking at things, at least if you're Geithner or Obama or Jamie Dimon or any of their equivalents abroad. If these people would give up the fight for (economic) growth, and say there won't be any for years to come, they'd lose their powerful positions in an instant, only to be replaced by the next in line boyo willing to declare straight-faced that recovery is just around the corner.
There are two things that have kept up the appearance of something resembling normality, or recovery, name it what you will, so far. One is the trillions of dollars, euros, what have you, in clueless citizens' -future- tax revenues that have been thrown down the pit of financial losses -wagers- in the banking system. The second is the suspension in mid-air (Hello, Wile E.!) of accounting standards across the board.
An asset bought for $1000 that couldn't today be sold for $10, can remain on a balance sheet for the full paper value. In fact, billions of such assets do across the globe. Why? The prospect of future growth, of course. One day, they’ll be worth $1000 again, nay, $5000, and so why would we mark them to market?
That's where we get back to housing: banks, pension funds, market funds, let’s not forget the Fed, are loaded with such "assets". All, or nearly all, on balance sheets for 100 cents on the buck, and all verging on worthlessness.
Washington will try very hard, and likely succeed, to find a way to not let the banks pay for their own crimes, which is what the automated foreclosure proceedings add up to.
According to the official mantra, letting the main banks go belly-up would kill the entire system. Letting millions of Americans go belly-up, not so much. It's all a matter of priorities, don't you know, and you, yeah you, are not the priority.
But these same banks still have vaults overflowing with worthless and useless assets, and nothing has been done about that other than the Fed buying $1-2 trillion worth of them with taxpayer funds, and Mother-of-God only knows how much "money" being spilled by now between TARP and other stimuli on the one side, and on the other banks borrowing at 0% from the Fed to buy Treasuries which can be parked at 3-4% at the same Fed the same day.
They are labeled "systemically important", or Too Big to Fail, these banks. But the only system they're important for is the one that says recovery is always just around the corner, the one that controls Washington, and all politicians that reside there.
And that is simply the wrong conversation. We -pretty- desperately need to figure out what we'll do if we in fact need that Plan B. But there's nothing out there. Even George Soros talks about avoiding things that "will hurt the recovery".
In the end, the math is simple. If home prices keep falling, unemployment numbers keep rising. That correlation has been proven time and again. And if this happens (make that when), mortgage-backed securities will continue to fall in whatever "value" they still might have. That in turn means banks will need to be restructured, re-financed, re-Frankensteined.
It also means Fannie Mae and Freddie Mac become a multi-trillion dollar liability on the American people, many of whom will, the horror, the horror, by then just happen to have lost that $100,000 plus in equity on their American Dream property.
This will lead to an explosion in unemployment, since ever fewer people will have any discretionary income needed to keep stores and factories open, which will then hammer home prices even more. Consequently, tax revenues at all levels will scrape the gutters, forcing governments at all levels to lay off more workers, and so on: you can by now finish the story pourself and color the pictures. It's called debt deflation, people, and once you’re in debt way over your head as a society or as an individual there's nothing you can do but to lay low and let it run its course.
The Bureau of Labor Statistics September U3 unemployment just came in at 9.6%, unchanged from August. Curious, since Gallup put it at 10.1%. The BLS U6 number, the wider, more realistic gauge, jumped from 16.7% to 17.1%. John Williams' SGS alternate number is closing in at 23%. Only Spain resembles that in the western world.
If you can accept that 90-odd% of US banks are zombie banks (toxic assets!), that nothing has changed despite the money that was transferred from you to them, that their losses on toxic paper are far worse than anything you could ever afford, then you will have to accept that you are zombies too, zombies, not investors, and that it's immaterial whether you make a nickel or two on gold purchases, that those matter only in Wile E. Coyote's suspended cartoon reality, not in yours.
One last thing to take with you:
If time is money, we're living on borrowed time.
Chris Whalen Describes Why 2011 Could Make 2008 Look Like A Cakewalk
by Cullen Roche - TPC
Christopher Whalen makes a remarkably convincing case for why we’ve simply kicked the can down the road and why the banks could be in for a repeat of their 2008 nightmares in 2011. If Mr. Whalen is right the banking sector is in for a whole new round of government intervention, takeovers, likely nationalizations and general disaster:
The U.S. banking industry is entering a new period of crisis where operating costs are rising dramatically due to foreclosures and defaults. We are less than 1/4 of the way through the foreclosure process. Laurie Goodman of Amherst Securities predicts that 1 in 5 mortgages could go into foreclosure without radical action.
Rising operating costs in banks will be more significant than in past recessions and could force the U.S. government to restructure some large lenders as expenses overwhelm revenue. BAC, JPM, GMAC foreclosure moratoriums only the start of the crisis that threatens the financial foundations of the entire U.S. political economy.
The largest U.S. banks remain insolvent and must continue to shrink. Failure by the Obama Administration to restructure the largest banks during 2007?2009 period only means that this process is going to occur over next three to five years - whether we like it or not. The issue is recognizing existing losses, not if a loss occurred.
Impending operational collapse of some of the largest U.S. banks will serve as the catalyst for recreation of RFC-type liquidation vehicle(s) to handle the operational task of finally deflating the subprime bubble. End of the liquidation cycle of the deflating bubble will arrive in another four to five years.
Fast forward to the 1h:07 minute mark where Mr. Whalen begins.
Slides courtesy of Business Insider
Gallup Finds U.S. Unemployment at 10.1% in September
Unemployment, as measured by Gallup without seasonal adjustment, increased to 10.1% in September -- up sharply from 9.3% in August and 8.9% in July. Much of this increase came during the second half of the month -- the unemployment rate was 9.4% in mid-September -- and therefore is unlikely to be picked up in the government's unemployment report on Friday.
US Consumer Credit Takes Another Dive
by Jason Bornell - Newsi.es
For the 24th straight month, consumer credit card debt is down. Credit card credit, also known as revolving credit, dipped $4.99 billion in August. This after a $4.98 billion spike down the month before. The Federal Reserve reported Thursday that overall consumer borrowing fell by $3.34 billion in August. Out of the last 19 months, including August, it has fallen 18 of them. In July alone, it dropped $4.09 billion. The overall borrowing category includes everything from loans for vehicles to credit card credit.
On the non-revolving credit side, August saw an increase of $1.65 billion. That marks the fourth month in a row of modest gains. This includes one time and closed end loans for things such as cars, student loans, boats and vacations. Student loans by the federal government are responsible for nearly all of the uptick.
As consumers continue to work hard to get their personal finances and balance sheets in order, they’re spending less and extending their credit in smaller amounts. This is good for the consumer from a debt perspective, but tough on the economy as credit helps fuel economic rebounds. Until job opportunities start growing along with incomes, it’s likely we’ll continue to see households cut back. This could end up causing further delays for the recovery of our economy.
Fed's $2 Trillion May Buy Little Improvement in Jobs
by Craig Torres and Scott Lanman - Bloomberg
For $2 trillion, Federal Reserve Chairman Ben S. Bernanke may buy little improvement in growth, employment or inflation over the next two years. Firms with large-scale models of the U.S. economy such as IHS Global Insight, Moody’s Analytics Inc. and Macroeconomic Advisers LLC project only a moderate impact from additional Fed asset purchases. The firms estimate that the unemployment rate will remain around 9 percent or higher next year whether the Fed buys $500 billion or $2 trillion of U.S. Treasuries in a second round of unconventional stimulus.
“This is not a game changer for the economic outlook,” said Nigel Gault, chief U.S. economist at IHS Global Insight in Lexington, Massachusetts, whose models show that $500 billion of purchases would boost growth 0.1 percentage point in 2011 and leave the unemployment rate at 9 percent or above for the next two years. “There is clearly a risk that people start to perceive monetary policy as impotent.”
The meager impact shows the conundrum U.S. central bankers face. Interest rates near zero have failed to produce the intended cycle of borrowing and spending among consumers and businesses. Unemployment hovering near a 26-year high, partly a symptom of weak demand, keeps downward pressure on prices, and further declines in inflation would raise borrowing costs in real terms, making credit more expensive. “The danger of not doing anything would be pretty high,” said Antulio Bomfim, managing director at Macroeconomic Advisers in Washington. “Expanding the balance sheet might actually help reduce the risk of deflation.”
Yields on U.S. 10-year notes have fallen to 2.39 percent from 2.7 percent on Sept. 20, the day before the Federal Open Market Committee said it was prepared to ease policy further to support the recovery. The two-year note yield fell 2 basis points to 0.359 percent at 10:58 a.m. in New York trading and touched 0.3513 percent, the lowest ever. Fed watchers expect the Fed will take further action at its next meeting Nov. 2-3. Economists predict unemployment will rise to 9.7 percent when the Labor Department releases its September report tomorrow, from 9.6 percent in August.
U.S. central bankers have kept their benchmark lending rate near zero for almost two years. In March, they finished $1.7 trillion in purchases of Treasuries, mortgage-backed securities, and housing agency bonds. A slowdown in growth in the middle two quarters of this year prompted the FOMC last month to warn that inflation rates were “somewhat below” its mandate to achieve stable prices and full employment.
New York Fed President William Dudley, who is also vice chairman of the FOMC, was more blunt in an Oct. 1 speech in New York, calling current levels of unemployment and inflation “unacceptable.” Bomfim and Laurence Meyer, co-founder of St. Louis-based Macroeconomic Advisers, predict the Fed will begin with purchases of close to $100 billion a month starting in November, boosting the balance sheet by as much as $1.5 trillion if necessary.
Purchases of up to $2 trillion would raise the annual growth rate of gross domestic product by 0.3 percentage point in 2011 and by 0.4 percentage point in 2012, Macroeconomic Advisers estimates. Yields on U.S. 10-year notes could fall by as much as half a percentage point. The unemployment rate would finish at 9.2 percent next year and at 7.7 percent in 2012, the firm estimates. Inflation would only be slightly higher than their current forecast for the personal consumption expenditures price index, minus food and energy, remaining below 1% in both 2011 and 2012. The price gauge rose 1.4 percent rate for the 12 months ending August.
Limits of Policy
Economists say further asset purchases could underscore the limits of monetary policy, which is hobbled by consumers’ desire to pay down debt and the reluctance of Congress to approve additional fiscal stimulus.
“At the zero boundary on interest rates, the burden shifts to fiscal policy, and fiscal policy is immobile because of the politics,” said Meyer. “So now, the burden has shifted back to monetary policy. You have to hope the economy’s own resilience and underlying strength is going to be enough to have growth a little bit above 3 percent.” Dudley on Oct. 1 said that if the Fed were successful in reducing long-term borrowing costs through efforts such as asset purchases, it would have a “significant” effect on the economy. Homeowners would refinance their mortgages at lower rates, increasing disposable income.
An increase in refinancing isn’t likely to have a big impact on the housing market or consumer spending, said Joseph Murin, who was chief executive officer of Ginnie Mae, a federal agency that securitizes home loans, from 2008 to 2009. “The theory is good,” said Murin, now chairman of Collingwood Group LLC, a consultant in Washington. “Practically speaking, I’m not sure.”
Homeowners who refinance are getting less money from cashing out home equity because property values have declined, Freddie Mac said in a July report. In some cases, homeowners are forced to increase their equity to qualify for new loans at lower interest rates. That’s a change from the years of the housing boom, when homeowners used growing home-equity to finance spending on consumer goods. Twenty-two percent of homeowners who refinanced in the second quarter paid money to reduce their principal, the third- highest rate since Freddie Mac, the home-finance provider taken over by the government, started keeping the records in 1985.
Also, the net cash provided from converting home equity through mortgage refinancing was $8.3 billion in the second quarter, the lowest level in 10 years, according to the same July report. That compares with an average of $80 billion per quarter in 2006. The cash generated by mortgage refinancing “will probably remain relatively low for the next couple of quarters,” said Frank Nothaft, chief economist at Freddie Mac in McLean, Virginia. “Many families are taking this opportunity to deleverage.”
Rates on 30-year fixed mortgages fell to 4.27 percent in the week ended today, a record low, according to Freddie Mac. The 30-year rate reached a 2010 high of 5.21 percent in April and was 6.46 percent in October 2008, the month before the Fed announced it would start purchasing mortgage-backed securities. Lower home-loan rates may fail to spur additional refinancing because lenders are reluctant to give loans to people who are unemployed or have low credit scores, said Paul Havemann, vice president at HSH Associates, a publisher of consumer-loan data in Pompton Plains, New Jersey.
“We know the Fed is going to be doing something,” said David Rosenberg, chief economist at Gluskin Sheff and Associates Inc. in Toronto. “The question is, in a cycle of contracting credit, how far will it work,” he said. “If taking rates to zero didn’t work, and if QE1 didn’t work, then the question, legitimately, is QE2 going to work?”
Quantitative easing refers to large-scale asset purchases as a tool of monetary policy. Bernanke has said the purchases support growth by lowering borrowing costs across a broad spectrum of debt as investors reallocate money they would normally invest in Treasuries into mortgage bonds, corporate notes, and other securities. Mark Zandi, chief economist at Moody’s Analytics in West Chester, Pennsylvania, says $1 trillion in Fed Treasury purchases will boost growth by about 0.15 percentage point next year. As growth picks up, more people will enter the labor force, keeping the unemployment rate high. Inflation remains relatively unchanged in his model, he says.
“It is a small but meaningful benefit and the recovery can take all the help it can get,” Zandi said. Because purchases could have such a low medium-term impact, Fed officials may recast the strategy in terms of aiming at a level on an inflation index rather than the rate of change on the index, Zandi said. The Fed “really doesn’t have any alternative but to give this thing a whirl,” former Fed Governor Lyle Gramley, now senior economic adviser at Potomac Research Group in Washington. “It has a mandate to create maximum employment and price stability. It has to try.”
Insider Selling To Buying: 2,341 To 1
by Tyler Durden - Zero Hedge
Sorry kids, we just report the news... as ugly as they may be. After last week saw an insider selling to buying ratio of 1,411 to 1, this week the ratio has nearly doubled, hitting a ridiculous 2,341 to 1.
And while Wall Street's liars and CNBC's clowns will have you throw all your money into "leading" techs like Oracle and Google, insiders in these names sold a combined $200 million in stock in the last week alone (following Oracle insider sales of $223 million in the prior week). Insiders can. not. wait. to. get. out. fast. enough. This Fed-induced rally is nothing short of a godsend for each and every corporate executive.
But yes, there may be value: there was insider buying in 2 (two) companies last week: General Dynamics and Best Buy, for a whopping total of $177,064. At the same time sales were a total of $414 million: so is anyone wondering why JPMorgan is reopening its gold vault... Anyone left holding the bag on this market when the FRBNY props are taken away, will be left with the same return as all those investors who entrusted their money with Madoff. Guaranteed.
12 Ominous Signs For World Financial Markets
by Michael Snyder - Economic Collapse
Can anyone explain the very strange behavior that we are seeing in world financial markets right now? Corporate insiders are bailing out of the U.S. stock market at a very alarming rate. Investors are moving mountains of money into gold and other commodities. In fact, there is such a rush towards gold that shortages are starting to be reported in some areas. Meanwhile, some very, very unusual option activity has started to show up.
In particular, someone is making some incredibly large bets that the S&P 500 is going to absolutely tank during the month of October. Central banks around the world have caught a case of "loose money fever" and are apparently hoping that a new flood of paper money will shock the global economy back to life. Meanwhile, the furor over the foreclosure procedure abuses of the major U.S mortgage companies threatens to bring even more turmoil to the U.S. housing industry.
There are some very ominous signs that something is just not right in world financial markets right now. Some of the signs listed below may be related. Others may not be. That is for you to decide.
Often, just before something really bad happens, you can actually see the rats leaving a sinking ship if you know where to look. The truth is that if things are going to go south it is the insiders who know before anyone else.
So are some of the signs below actually clues for what we should expect in the months ahead?
You make your own call.
But it is becoming hard to deny that there are some serious danger signs out there at this point....
#1 Corporate insiders are getting out of the U.S. stock market at an absolutely blinding pace. It is being reported that the ratio of corporate insider selling to corporate insider buying last week was 1,411 to 1, and this week the ratio has soared even higher and is at 2,341 to 1.
#2 Many of the world's wealthiest people are buying absolutely massive quantities of gold right now.
#3 It is being reported that J.P. Morgan is gobbling up the rights to as much physical gold as it possibly can.
#4 The United States Mint has announced that it has run out of 1-ounce, 24-karat American Buffalo gold bullion coins and that it will not be selling any more of them in 2010.
#5 It is becoming increasingly difficult to explain the unusually high option volume that we are witnessing right now.
#6 Some very large investors are making massive bets that the S&P 500 is going to take a serious tumble during the month of October.
#7 On Tuesday, the Bank of Japan shocked world financial markets by cutting interest rates even closer to zero and by setting up a 5 trillion yen quantitative easing fund.
#8 The president of the Federal Reserve Bank of New York and the president of the Federal Reserve Bank of Chicago are both publicly urging the Fed to do much more to stimulate the U.S. economy, including beginning a new round of quantitative easing, even if it means a significant rise in the U.S. inflation rate.
#9 Nobel Prize-winning economist Joseph Stiglitz told reporters on Tuesday that the loose monetary policies of the Federal Reserve and the European Central Bank are throwing the world into "chaos".
#10 At the end of September, federal regulators announced a $30 billion bailout of the U.S. wholesale credit union system.
#11 Bank of America, JPMorgan Chase and GMAC Mortgage have all suspended foreclosures in many U.S. states due to serious concerns about foreclosure procedures. Now, Texas Attorney General Greg Abbott is actually demanding that all mortgage servicing companies in the state of Texas immediately suspend all foreclosures, the selling of foreclosed properties and the eviction of people living in foreclosed properties until they have completed a review of their foreclosure procedures.
#12 Not only that, but Nancy Pelosi and 30 other members of Congress are requesting a federal investigation of the foreclosure practices of U.S. mortgage lenders. Needless to say, this controversy has the potential to turn the entire U.S. mortgage industry into an absolute quagmire.
So are dark days ahead for world financial markets?
Well, yeah, but it is incredibly hard to predict exactly when things are going to fall apart.
The truth is that there are going to be a whole lot more "crashes" and "collapses" in the years ahead.
The important thing, as discussed yesterday, is to keep your eye on the long-term trends.
The U.S. economy is undeniably in decline. The only thing keeping the economy going at this point is a rapidly growing sea of red ink. Debt is literally everywhere. It is what our entire financial system is based on in 2010.
In the months and years to come, the major players are going to try very hard to keep all the balls in the air and to continue the massive shell game that is going on, but in the end the whole thing is going to collapse like a house of cards.
Unfortunately, we have been destroying the U.S. economy for decades and there is simply not going to be a happy ending to this story.
Property Rights Gone Wrong
by Dylan Ratigan - Huffington Post
Most mortgages in America are now backed by our government. And in order for a bank to get that backing from our government it must fill two criteria:
- The borrowers must be verified by the banks and their agents as qualified.
- Lenders must fill out paperwork accurately and make sure that when the home's title changes hands, so does the documentation.
But in the past two decades, a whole lot of the time, that never happened.
For banks and servicers, the motive was money. Banks profited by packaging and selling those toxic home loans. Then they profited again by betting against those same securities. A bet, in essence, that a fraudulent loan wouldn't be paid back.
But why would politicians allow this?
The simple answer is to stay in office.
Giving people huge government incentives to buy houses made them happier and thus made their politicians more likely to keep their jobs. And at the same time, the financial services sector -- the banks making all the money -- were donating to their political campaigns.
In 2008, the financial sector was the top donor to both the Democratic and Republican candidates.
So where are all these toxic loans now? We own them! At the Federal Reserve, Fannie Mae, and Freddie Mac.
And the banks and politicians will do whatever it takes to prevent a legitimate foreclosure proceeding...one which would easily reveal the lack of qualifications and bad documentation in the loans sold to the government.
Finally, the last and most important why:
Why isn't the government dealing with it now?
Simply because it could reveal systematic criminal and civil fraud at the highest levels of America's banks and in its political corridors.
The Foreclosure Mess Could Last for Years
by Margaret Cronin Fisk and Kathleen M. Howley - BusinessWeek
The dimensions of the foreclosure crisis keep expanding. Lenders and loan servicers including JPMorgan Chase and Ally Financial are facing an explosion in homeowner lawsuits and state attorney general investigations of claims of falsified mortgage documents. Lawmakers in both houses of Congress have called for investigations. And procedural mistakes in the handling of mortgage documents have clouded titles establishing ownership of the homes, a problem that could plague both buyers and sellers for years.
"This is going to become a hydra," says Peter J. Henning, a professor at Wayne State University Law School in Detroit. "You've got so many potential avenues of liability. You don't even know the parameters of this yet."
JPMorgan and Ally's GMAC Mortgage unit have delayed foreclosures in 23 states where courts have jurisdiction over home seizures. Bank of America suspended foreclosures as well, pending a review of documents. In December 2009, a GMAC employee said in a deposition that his team of 13 people signed about 10,000 documents a month without verifying their accuracy. "My suspicion is that this will wind up being an industrywide issue," says Patrick Madigan, Iowa assistant attorney general. "Many companies were using robo-signers."
Homeowners in class actions and individual lawsuits across the U.S. claim lenders and servicers have used falsified documents to foreclose on homes, sometimes when the banks didn't hold titles to the properties. Attorneys general in at least seven states are investigating foreclosure practices, and the number of these probes may grow. "You're going to see a tremendous amount of activity with all the AGs in the U.S.," says Ohio Attorney General Richard Cordray, who has sued Ally over foreclosures. "We have a high degree of skepticism that the corners that were cut are truly legal."
"We don't believe the procedural errors in these affidavits led to inappropriate foreclosures," Gina Proia, a spokeswoman for Ally, says. "We believe the accuracy of the factual loan information contained in the affidavits was not affected by whether or not the signer had personal knowledge of the precise details," JPMorgan says in a statement.
Lawsuits Over Sales Practices
For lenders and loan servicers, civil lawsuits claiming deceptive sales practices or violations of consumer protection laws may be more troubling than claims brought by homeowners, says Christopher L. Peterson, a law professor at the University of Utah in Salt Lake City. Homeowners who were in default and lost their homes may not be able to prove losses, despite faulty documentation. "The attorneys general can just sue over deceptive sales practices and get penalties," he says.
The Mortgage Electronic Registration Systems is facing its own legal challenges. MERS, based in Reston, Va., was created by the mortgage banking industry to handle mortgage transfers between member banks. A lawsuit filed on Sept. 28 in federal court in Louisville on behalf of all Kentucky homeowners claims that MERS was part of a conspiracy to create false promissory notes, affidavits, and mortgage assignments to be used in mortgage foreclosures. Similar class actions have been filed on behalf of homeowners in Florida and New York. Karmela Lejarde, a MERS spokeswoman, declined to comment on any pending litigation.
Title insurers will also be in court bringing and defending lawsuits, says Henning: "They'll be on the hook if foreclosures are reopened. The title insurers will be going after the banks or whoever assured them there was a clear title." The costs for title insurers to defend customers and reimburse for lost properties rose 14 percent, to $480.5 million, in 2010's first half from the previous year, according to American Land Title Assn., a Washington-based industry group. "Questionable foreclosures will ultimately have little adverse impact" on new owners of properties or title insurance claims, the association said in an Oct. 1 press release.
People who bought homes in foreclosure face their own worries, as paperwork errors raise questions about the validity of the titles needed to prove ownership. "Defective documentation has created millions of blighted titles that will plague the nation for the next decade," says Richard Kessler, an attorney in Sarasota, Fla., who conducted a study that found errors in about three-fourths of court filings related to home repossessions.
A defective title means the person who paid for and moved into a house may not be the legal owner. "This is the most important issue of the whole mortgage mess," says Glenn Russell, a Fall River (Mass.) real estate attorney who won a case last year that reversed a foreclosure because of faulty paperwork. "Families are being thrown out of their homes by people who may not have the right to do that."
Almost one-fourth of U.S. home sales in the second quarter involved properties in some stage of mortgage distress, according to data firm RealtyTrac. Ownership questions may not arise until a home is under contract and the potential purchaser applies for title insurance or even decades later as one deed researcher catches errors overlooked by another. "It's a nightmare scenario," says John Vogel, a professor at the Tuck School of Business at Dartmouth College in Hanover, N.H. "There are lots of land mines related to title issues that may come to light long after we think we've solved the housing problem."
Mortgage Investors Are Set for More Pain
by Robbie Whelan and Ruth Simon - Wall Street Jornal
For mortgage investors, the recent suspension of foreclosures could potentially cause further losses in the already-battered $2.8 trillion market for residential mortgage-backed securities. In the past two weeks, three major loan-servicing companies put thousands of foreclosure sales and evictions on hold in the 23 U.S. states where foreclosures are handled by the courts. On Tuesday, House Speaker Nancy Pelosi called for a federal investigation into the issue.
"We urge you and your respective agencies to investigate possible violations of law or regulations by financial institutions in their handling of delinquent mortgages, mortgage modifications, and foreclosures," Ms. Pelosi and 30 other California House Democrats said in a letter sent to Federal Reserve Chairman Ben Bernanke, Attorney General Eric Holder and John Walsh, the acting comptroller general of the Treasury.
The stoppage is but the latest frustration for bond investors, who have wrestled for more than three years with a market in disarray. "It's symptomatic of sloppy servicing and a lack of adherence to contract and property law, which we've seen examples of over and over again in the last two years," said Scott Simon, a managing director at Pacific Investment Management Co., or Pimco, a unit of Allianz SE.
While it is unclear whether the delays will have a deep impact on the market for bonds, the changes are already creating some unexpected outcomes, say investors. When houses that have been packaged into a mortgage bond are liquidated at a foreclosure sale—the very end of the foreclosure process—the holders of the junior, or riskiest debt, would be the first investors to take losses. But if a foreclosure is delayed, the servicer must typically keep advancing payments that will go to all bondholders, including the junior debt holders, even though the home loan itself is producing no revenue stream.
The latest events thus set up an odd circumstance where junior bondholders—typically at the bottom of the credit structure—could actually end up better off than they expected. Senior bondholders, typically at the top, could end up worse off. Not surprisingly, senior debt holders want banks to foreclose faster to reduce expenses. Junior bondholders are generally happy to stretch things out. What is more, it isn't entirely clear how the costs of re-processing tens of thousands of mortgages will be allocated. Those costs could be "significant" said Andrew Sandler, a Washington, D.C., attorney who represents mortgage companies.
"This is sort of an extraordinary situation," said Debashish Chatterjee, a vice president for Moody's Investors Service who covers structured finance. By delaying foreclosures, "it means the subordinate bondholders don't get written down for a much longer period of time, and they keep getting payments." Typically, mortgage servicers enter into contracts called pooling and servicing agreements with bondholders that spell out the servicers' obligations to manage the loans in the best interests of the investors.
These agreements provide that the servicers be reimbursed by funds in the trust for all costs related to litigation and extra processing of foreclosures, provided they follow standard industry practices. Servicing companies hope the reviews will be quick. At GMAC Mortgage, a unit of Ally Financial Inc., the vast majority of these affidavits will be resolved in the coming weeks and before the end of the year," a spokeswoman for the company said. A spokesman for J.P. Morgan Chase & Co. said the company's review process is expected to take "a few weeks."
But the problems could be magnified if the reviews uncover a lack of proper documentation or other substantive problems rather than simple procedural errors. The furor over servicer practices is also likely to trigger additional legal challenges from borrowers facing foreclosure and more judicial scrutiny, which could further slow the process and increase foreclosure costs. The Association of Mortgage Investors, a trade association, has called on trustees, who oversee loan pools on behalf of investors, to demand that loans be repurchased by their originators if required documents are missing.
Typically, sellers have 90 days to fix such problems or buy back the loan. The group has also asked trustees to audit and hold servicers accountable for any losses due to improper servicer practices. "It's very hard to see how the servicers can avoid reimbursing the trusts for losses caused by taking short cuts," said David J. Grais, an attorney in New York who represents investors. Investors could press trustees to investigate servicer conduct, sue the servicers to recoup damages or replace a servicer, he said.
Bank foreclosure cover seen in bill at Obama's desk
by Scot J. Paltrow - Reuters
A bill that homeowners advocates warn will make it more difficult to challenge improper foreclosure attempts by big mortgage processors is awaiting President Barack Obama's signature after it quietly zoomed through the Senate last week. The bill, passed without public debate in a way that even surprised its main sponsor, Republican Representative Robert Aderholt, requires courts to accept as valid document notarizations made out of state, making it harder to challenge the authenticity of foreclosure and other legal documents.
The timing raised eyebrows, coming during a rising furor over improper affidavits and other filings in foreclosure actions by large mortgage processors such as GMAC, JPMorgan and Bank of America. Questions about improper notarizations have figured prominently in challenges to the validity of these court documents, and led to widespread halts of foreclosure proceedings. The legislation could protect bank and mortgage processors from liability for false or improperly prepared documents. The White House said it is reviewing the legislation.
"It is troubling to me and curious that it passed so quietly," Thomas Cox, a Maine lawyer representing homeowners contesting foreclosures, told Reuters in an interview. A deposition made public by Cox was what first called attention to improper affidavits by GMAC. Since then, GMAC, JPMorgan and others have halted foreclosure actions in many states after acknowledging that they had filed large numbers of affidavits in which their employees falsely attested that they had personally reviewed records cited to justify the foreclosures.
Cox said the new obligation for courts to recognize notarizations of documents filed by big, out-of-state companies, would make it more difficult and costly to challenge the validity of the documents. The law, the "Interstate Recognition of Notarizations Act," requires all federal and state courts to recognize notarizations made in other states. The law specifically includes "electronic" notarizations stamped en masse by computers. Currently, only about a dozen states allow electronic notarizations, according to the National Notary Association.
"Constituents" Pressed For Passage
After languishing for months in the Senate Judiciary Committee, the bill passed the Senate with lightning speed and with hardly any public awareness of the bill's existence on September 27, the day before the Senate recessed for midterm election campaign. The bill's approval involved invocation of a special procedure. Democratic Senator Robert Casey, shepherding last-minute legislation on behalf of the Senate leadership, had the bill taken away from the Senate Judiciary committee, which hadn't acted on it. The full Senate then immediately passed the bill without debate, by unanimous consent.
The House had passed the bill in April. The House actually had passed identical bills twice before, but both times they died when the Senate Judiciary Committee failed to act. Some House and Senate staffers said the Senate committee had let the bills languish because of concerns that they would interfere with individual state's rights to regulate notarizations.
Senate staffers familiar with the judiciary committee's actions said the latest one passed by the House seemed destined for the same fate. But shortly before the Senate's recess, Judiciary Committee Chairman Patrick Leahy pressed to have the bill rushed through the special procedure, after Leahy "constituents" called him and pressed for passage. The staffers said they didn't know who these constituents were or if anyone representing the mortgage industry or other interests had pressed for the bill to go through.
These staffers said that, in an unusual display of bipartisanship, Senator Jeff Sessions, the committee's senior Republican, also helped to engineer the Senate's unanimous consent for the bill. Neither Leahy's nor Session's offices responded to requests for comment Wednesday. In background interviews, several Senate staffers denied that it would have any adverse effect on the legal rights of homeowners contesting foreclosures, and said the law was intended only to remove an impediment to interstate commerce.
Ohio Secretary of State Jennifer Brunner told Reuters in an interview that the law would weaken protection of homeowners by requiring many states to accept lower standards for notarizations. She said it was "suspicious" that the law unexpectedly passed just as the mortgage industry is facing possible big costs from having filed false or improperly notarized documents.
Notarizations are made by notaries licensed by individual states. The purpose of notarizations is to attest to the identity of the person whose signature is on a legal document.
For affidavits -- sworn statements filed in court cases -- the person who made the affidavit also is required to swear under oath before a notary that the affidavit is true. In recent depositions in several foreclosure cases, GMAC and other mortgage processors' employees have testified that they signed large numbers of affidavits without ever appearing before the individuals who notarized them.
The bill was first sponsored by Aderholt in 2006. He told Reuters in an interview that he proposed it because a court stenographer in his district had asked for it due to problems with getting courts in other states to accept depositions notarized in Alabama. Aderholt said organizations of court stenographers supported the bill, but said he wasn't aware of any backing by banks or other business groups. Aderholt said that he hadn't expected the Senate to pass the bill, and "we were surprised that it came through at the eleventh hour there."
US Housing Inventory Climbs Again In September
by Dawn Wotapka - Wall Street Journal
Housing inventories, which typically dip as the summer ends, rose for the ninth straight month in September, indicating that sales remain weak as the downturn drags on. (See the data.) Listings–including single-family homes, condos and townhomes–in 26 major metro markets spiked 13.5% from a year ago, reports ZipRealty Inc., a real-estate brokerage firm based in Emeryville, Calif.
When compared to a month earlier, September’s inventory rose 0.6%, data pulled from local multiple-listing services Oct. 1 shows. In addition to sluggish sales, the increase comes from lenders dumping foreclosed homes on the market, short sale offers and sellers who can no longer put off listing a home, says Leslie Tyler, ZipRealty’s vice president of marketing.
More inventory is the last thing housing needs. Current sellers face a bleak picture: Despite record-low interest rates and falling prices, some home shoppers remain fearful of signing contracts as unemployment remains elevated. Those ready to buy may think that prices will fall further, providing little incentive to act quickly. Given tightened lending restrictions, others want to buy but cannot. Some sellers, meanwhile, can’t trim prices any further without selling for less than they owe. And the foreclosure crisis continues–and some banks have halted foreclosures, further gumming up the works.
According to ZipRealty, the biggest inventory gains came in California, where little inventory was available last year because sellers were unwilling to accept low prices, Ms. Tyler said. San Diego surged 68.2% from a year ago, while the San Francisco Bay area saw a 51.5% jump. Los Angeles’ inventory spiked 36.9%. “The people who were putting their homes on the market in 2009 were people who had to move,” Ms. Tyler said. “Now what’s happening is sellers are adjusting” to the new price reality.
The number of listings also rose in the nation’s most notorious boom-to-bust markets: Las Vegas (up 33.6%) and Phoenix (up 24.7%). Texas, which withstood the housing crash only to weaken in recent months, also has more homes up for grabs. Houston’s count jumped 25.3%, Austin gained 18.3% and Dallas added 15.6% from a year earlier. Ms. Borden, who sells in the Katy area west of Houston, says she “can’t point to anything negative that’s causing us to have an increase in inventory.”
Florida, one of the states most affected by the housing bubble, was relatively stable. Miami saw a 4.9% drop from a year ago, while Orlando edged up a modest 1.1%. The monthly changes were 0.4% and 0%, respectively. “Florida has a lot of homes for sale,” Ms. Tyler says. “Having inventory go down there is a good sign.”
Feldstein Says Home Prices May Fall Again Without U.S. Aid
by Steve Matthews and Margaret Brennan - Bloomberg
U.S. home prices may fall again unless the government provides new aid that would enable owners to refinance mortgages, Harvard University economics professor Martin Feldstein said. “The danger is house prices are going to start falling again because of the end of the first-time homebuyer credit,” Feldstein said in a Bloomberg Television interview. “That fall in house prices,” coupled with a lack of equity in homes, “could lead to a big increase in defaults and foreclosures, putting more homes on the market driving prices down.”
A government tax credit of as much as $8,000 gave housing a temporary lift in late 2009 and early this year and helped stop a fall in property values. A new housing program would need to focus on reducing the principal in mortgages, allowing refinancing of mortgages whose values exceed what the homes would sell for, said Feldstein, chairman of the White House Council of Economic Advisers during the Reagan administration.
The S&P/Case-Shiller index of property values increased 3.2 percent from July 2009, the smallest year-over-year gain since March, the group said Sept. 28. Feldstein, a member of President Barack Obama’s Economic Recovery Advisory Board, told Obama yesterday that extending income tax cuts for two years would stimulate demand and boost the recovery. He is a former president of the National Bureau of Economic Research and a member of the NBER committee that last month declared the worst U.S. recession since the Great Depression ended in June 2009.
“It would be a mistake to raise any taxes at the current time,” Feldstein said. “The economy is very weak.” Obama wants to extend the tax cuts passed under President George W. Bush for American households earning less than $250,000 and individuals earning up to $200,000. The cuts would be allowed to lapse on Dec. 31 for those earning more.
Las Vegas new-home prices fall to levels of 10 years ago
by Hubble Smith - Las Vegas Review-Journal
Facing increased competition from foreclosures and short sales, Las Vegas homebuilders have not only had to cut production, but keep prices around $100 a square foot, the standard from about 10 years ago. Signature Homes built the least-expensive home at an average of $84.64 a square foot from January through July, Las Vegas housing analyst Larry Murphy reported Friday. The most expensive average was $137.28 from Toll Bros.
Some builders produce primarily single-story homes, which carry a higher average cost per square foot than two stories, the president of Las Vegas-based research firm SalesTraq said. Also, homes built in master-planned communities and on larger lots are likely to cost more. Builders such as Signature, Adaven and Beazer target entry-level buyers, while Toll Bros. and Del Webb go after luxury and move-up buyers, Murphy said.
Other data from SalesTraq showed American West building the largest homes at an average of 2,586 square feet, while Adaven built the smallest homes at 1,578 square feet. All things being equal, it costs less per square foot to build a larger home than it does a smaller one, Murphy noted. The top builder for the first seven months of the year was KB Home, with 384 single-family home closings at an average price of $184,496, or $101.28 a square foot.
Murphy said he wouldn't have believed three years ago that builders would be selling new homes for $100 a square foot in 2010. "Builders are able to sell homes for less money than I ever anticipated," he said. "The reason is all the builders who lost their lots to the bank ... Kimball Hill and Engle Homes. Harmony bought lots from Pardee. Warmington gave up lots at Mountain's Edge and bought in Providence. They had a chance to get into Providence for less land basis than Mountain's Edge."
Unfinished residential lots aren't as cheap as they were a year ago, but some are available for as low as $26,000, Murphy said. "Bottom line is builders have been able to find land really cheap and consequently sell cheap because vertical construction cost has gone down as well," he said.
The market does not appear to be getting better. The number of available real estate-owned, or bank-owned homes, in Las Vegas exceeded 3,000 in August, although values have continued to hold relatively steady for nearly 18 months, a report from Equity Title of Nevada shows. For the rolling 12-month period ending in August, the title company reported 36,594 single-family home sales at a median price of $138,550 and average price of $167,363. The largest segment of sales (8,731) was for homes priced at less than $100,000.
SalesTraq showed 3,923 new-home closings and 3,458 new-home building permits through August, both numbers on pace to beat last year. The median new-home price of $218,000 is up 3.3 percent from a year ago. Murphy said he's received negative feedback on his new-home report, including a Realtor who said it's a "crime" that new homes are still being built at any price considering excess inventory of more than 22,000 homes on the Multiple Listing Service.
"Some people feel home builders should disband and shut down completely and not give people a chance to buy a new home, even though there's evidence that people still want a new home as 5,000 or 6,000 of them will buy this year," the analyst said. "Last time I looked, it's not a crime to sell newspapers or to sell new cars and it shouldn't be a crime to sell new homes."
UK house prices fall record 3.6% in one month
by Jill Insley - Guardian
House prices fell 3.6% in September – the biggest drop for a single month since the Halifax started collecting data in 1983. But although the bank described the sharp fall as an "intake of breath" moment, it is urging homeowners not to panic about an impending house price crash, saying that the quarterly figures are a much better measure of the underlying trend. Although quarterly figures are also dropping, the decline is less severe at -0/9% for the three months to the end of September, down from -0.4% at the end of August.
Martin Ellis, housing economist for the Halifax, said: "Looking at quarterly figures … this rate of decline is significantly slower than the quarterly changes of between -5% and -6% that we're seen in the second half of 2008. It is therefore far too early to conclude that September's monthly 3.6% fall is the beginning of a sustained period of declining house prices."
He said the sudden monthly fall had been partly caused by an increase in the number of properties available for sale in recent months. At the same time renewed uncertainty about the economy and jobs has caused consumer confidence to falter recently, dampening the demand for home purchase. He warned that the low levels of house sales across the market meant there could be further volatility in house price movements, both up and down, underlining the difficulty of getting a clear reading on the current state of the housing market.
"Prospects for the housing market remain uncertain. Earnings growth is expected to be very modest over the next year, tax rises are on the way and more people are putting their homes on the market. These will all be constraints on the market, dampening house prices," Ellis said. "On the positive side, we expect interest rates to remain very low for some time, which will underpin the improved affordability position for homeowners."
Bank of England figures show that demand for mortgages has fallen four months in a row, and Ellis said first time buyers in particular are still struggling to obtain mortgages, and are now being deterred by the uncertainty over jobs and the economy. But he does not believe these figures herald a continual decline in house prices, much less a crash: "It's too early to take such a view. We've seen a downwards movement but what is key is what happens to the economy over the next six to 12 months. Our view is that the economy is going to continue to improve."
Howard Archer, the chief UK economist at IHS Global Insight who normally takes a bearish stance on prospects for the housing market, said that while house prices were now clearly in reverse, the September price drop should not be taken out of context. "The Halifax data is at face value an absolute shocker," he said. "While a drop in house prices always seemed probable in September after Halifax had reported price rises in August and July that conflicted with other surveys, a plunge of 3.6% month-on-month was off everybody's radar."
He added: "The Halifax data will undoubtedly raise fears of a housing market crash. However, it is important to put the data into perspective. The data highlights how volatile housing market data can be on a month-to-month basis and from survey to survey, so it is best not to attach too much importance to one piece of data. It is clear that the 3.6% plunge in house prices reported by the Halifax in September is partly a correction to the surprising rises reported in August and July which conflicted with other data and surveys."
He said the quarterly drop of 0.9% was very similar to the 1% drop reported by the Nationwide, but the monthly figure was different: the Nationwide reported that house prices edged up by just 0.1% in September after dropping 0.8% in August and 0.5% in July. The Halifax data show annual house price inflation slowed to 2.6% in the three months to September from 4.6% in the three months to August and a peak of 6.9% in the three months to May. The Nationwide data show that the year-on-year rise in house prices slowed to 3.1% in September from 3.9% in August and a peak of 10.5% in April.
Yesterday the International Monetary Fund warned there may be a double dip in the UK property market when it said house prices were overvalued and vulnerable to a fall.
Consumer Deleveraging = Commercial Real Estate Collapse
by Jim Quinn - Burning Platform
There is a Part 2 to the story of Consumer Deleveraging that will play out over the next decade. Consumers will deleverage because they must. They have no choice. Boomers have come to the shocking realization that you can’t get wealthy or retire by borrowing and spending. As consumers buy $500 billion less stuff per year, retailers across the land will suffer. To give some perspective on our consumer society, here are a few facts:
- There are 105,000 shopping centers in the U.S. In comparison, all of Europe has only 5,700 shopping centers.
- There are 1.2 million retail establishments in the U.S. per the Census Bureau.
- There is 14.2 BILLION square feet of retail space in the U.S. This is 46 square feet per person in the U.S., compared to 2 square feet per capita in India, 1.5 square feet per capita in Mexico, 23 square feet per capita in the United Kingdom, 13 square feet per capita in Canada, and 6.5 square feet per capita in Australia.
Despite the ongoing recession and the fact that consumers must reduce their spending over the next decade, irrationally exuberant retail CEOs continue their death march of store openings. Below are announced expansion plans for some major retailers:
- GameStop – 400 new stores
- Walgreens – 350 new stores
- Dollar General – 315 new stores
- Ashley Furniture – 300 new stores
- Target – 128 new stores
- Starbucks – 100 new stores
- Best Buy – 55 new stores
- Kohl’s – 50 new stores
- Lowes – 45 new stores
Retailers expanding into an oversaturated retail market in the midst of a Depression, when anyone without rose colored glasses can see that Americans must dramatically cut back, are committing a fatal mistake. The hubris of these CEOs will lead to the destruction of their companies and the loss of millions of jobs. They will receive their fat bonuses and stock options right up until the day they are shown the door.
All of the happy talk from the Wall Street Journal, CNBC and the other mainstream media about commercial real estate bottoming out is a load of bull. It seems these highly paid “financial journalists” are incapable of doing anything but parroting each other and looking in the rearview mirror. Sound analysis requires you to look at the facts, make reasonable assumptions about the future and report the likely outcome. Based on this criteria, there is absolutely no chance that commercial real estate has bottomed. There are years of pain, writeoffs and bankruptcies to go.
Let’s look at some facts about the commercial real estate market and then assess the future:
- The value of all commercial real estate in the U.S. was approximately $6 trillion in 2007 (book value, not market value).
- There is approximately $3.5 trillion of debt financing these commercial properties.
- Approximately $1.4 trillion of this debt comes due between now and 2014.
- The delinquency rate for all commercial backed securities exceeded 9% for the 1st time in history last month and has more than doubled in the last 12 months.
- Non-performing loans are close to 16%, up from below 1% in 2007.
Do these facts lead you to believe that the commercial real estate sector has bottomed, as stated in the Wall Street Journal? The Federal Reserve realized the danger of a commercial real estate collapse to the banking system over a year ago. They have encouraged banks to extend and pretend. The website www.MyBudget360.com describes in detail what has occurred:
What has happened is the Fed has allowed this shadow monetization of the debt and banks let borrowers roll over CRE debt without even making payments in many cases! Think of an empty shopping mall. There is no buyer for this in the current market. So why would a bank want to foreclose on the borrower? Instead, they pretend the asset is worth $10 million while the borrower makes no payment and the Fed keeps funneling money into the banking system. In the end, the value of the dollar gets crushed and you end up bailing out the banking system. Commercial real estate has collapsed even harder than residential real estate. This market is enormous in terms of actual debt. There is no official bailout on the books but it is occurring through a slow and deliberate process. Banks know that they are essentially insolvent and they are dumping this junk onto the taxpayer.
This grim story began between 2004 and 2007. The horrifying ending will be written between 2011 and 2014. Commercial real estate loans for office buildings, malls, apartment buildings and hotels usually have 5 to 7 year terms. If you thought the debt induced bubble in real estate only affected residential real estate, you are badly mistaken. Before the boom, a normal year would see $100 billion in commercial real estate transactions. Between 2004 and 2007 there were $1.4 trillion of deals done, with 2007 reaching a peak of $522 billion of commercial real estate deals. Shockingly, the Wall Street banks, run by MBA geniuses, loaned developers a half trillion dollars at the very peak in the market. Sounds familiar. Thank God the taxpayer has bailed these Einsteins out so they could live to make more bad loans and collect big fat bonuses.
Commercial real estate prices rose 90% between 2001 and 2007, driven by the loose monetary policies of the Fed and complete lack of risk management on the part of the banks making the loans. Knuckle dragging mouth breather developers built malls, apartments, offices and hotels with abandon as billions of dollars rained down on them from Wall Street. The consumer delusion of debt financed wealth led to the developer delusion that 100% occupancy and increasing rents for all eternity were guaranteed.
Commercial real estate prices have dropped 42% in just over a year. This means that the $6 trillion value of all the commercial real estate in the country has dropped to $3.5 trillion. The debt remained in place. The billions in debt issued in 2003 – 2005 is coming due between 2010 and 2012. The underlying assets are worth billions less than the debt that must be refinanced. Commercial loan payments by owners can only be made from cash flow generated by rental income. A key requirement in generating rental income is tenants.
Let’s examine the current state of vacancy rates for offices, shopping malls and rental properties. The current office vacancy rate of 17.5% is the highest since 1993 and is just below the all-time high 18.7% in 1992. The WSJ has concluded, with no data or analysis, that the vacancy rate has bottomed. As the employment data proves, companies are not hiring employees. New companies are not being formed. Government mandates and regulations regarding healthcare and uncertainty about taxes will keep the formation of new small companies at a minimum. Conglomerates continue to ship jobs overseas. Part 2 of this Depression will drive more companies out of business. Office vacancies will remain at record levels for the next five years.
Mall vacancies between 9% and 11% are at record levels. There is absolutely no chance that these vacancy rates decline over the next few years. With consumers deleveraging, wages stagnant, unemployment high, and retail oversaturation, there are thousands of retail stores destined to close up shop. Ghost malls are in our future. They will come in handy as homeless shelters and soup kitchens. Mall developers will be defaulting in record numbers.
Apartment vacancy rates peaked at 11% in 2009, the highest level in history. With millions of vacant homes and millions of available rental units, rental rates will stay low for years. The cashflow of apartment developers will under stress and will lead to more loan defaults.
Based upon the current rising delinquency rates of 15.7% for commercial real estate loans and 9.05% for CMBS, there is no bottom in sight. Only raging mindless optimists like Larry Kudlow could ignore the facts and conclude that all is well in commercial real estate world. Banks pretending that the loans on their books aren’t worth 40% to 50% less, while also pretending that borrowers with negative cash flow can make loan payments, is not a solution. It is a Federal Reserve encouraged fraud. Allowing loans to be rolled over with no hope of ever being repaid will only prolong the pain and delay the inevitable.
The facts are that hundreds of billions in commercial loans are coming due, with a peak not being reached until 2013. If banks were to properly account for the true value of these loans, hundreds of regional banks would be forced to fail. This is unacceptable to government authorities. They will insist that the fantasy continue. Banks and real estate developers will pretend to be solvent, hoping the economy will miraculously repair itself and eventually make them whole. I understand these bank CEOs and delusional developers also believe in Santa Claus, the Easter Bunny, and the Efficient Market theory. It seems our entire financial system is based upon debt, fantasy, fraud, and delusion.
Nassim Taleb Says Dubai More Robust Than U.S.
by Camilla Hall - Bloomberg
Nassim Nicholas Taleb, whose book “The Black Swan” described how unforeseen events can roil global markets, said Dubai’s economy is more robust than that of the U.S. as its debt problem can be “controlled.”
“Even if you take perhaps the worst of emerging markets, a place like Dubai, you realize Dubai is more robust than the United States,” Taleb said at a mutual funds conference in Manama, Bahrain today. “Dubai has been borrowing to put buildings on postcards. It can stop that, but America needs to borrow just to open the doors in the morning. That’s why I’m not comfortable with the United States.”
Prior to the collapse of Lehman Brothers Holdings Inc. in September 2008, Taleb warned that bankers were relying too much on probability models and were disregarding the potential for unexpected catastrophes. His book labeled these events black swans, referring to the widely held belief that only white swans existed until black ones were discovered in Australia in 1697, and said that they were becoming more severe.
“Dubai, they’re not depending on debt, it’s not a chronic debt, it’s not like the American person who has this dependency on debt and has been building it since the 80s,” Taleb, a former derivatives trader, said. “It’s not a great model but it’s more robust than the United States, simply because their debt situation can be controlled a lot better than the U.S.”
U.S. President Barack Obama and his administration weakened the country’s economy by seeking to foster growth instead of paying down the federal debt, Taleb, said in Montreal on Sept. 24. Governments globally need to cut debt and avoid bailing out struggling companies because that’s the only way they can shield their economies from the negative consequences of erroneous budget forecasts, Taleb said then.
Dubai has faced a debt crisis since November when Dubai World, one of its three main state-owned holding companies, said it would delay payments on about $26 billion of debt. The second-biggest of seven states that make up the United Arab Emirates and its state-owned companies have borrowed $109.3 billion, according to the International Monetary Fund estimates, as the emirate strove to transform itself into a financial, logistic and tourism hub. That is 133 percent of its gross domestic product of $82 billion in 2008, as reported in its bond prospectus published last month.
Obama in September proposed a package of $180 billion in business tax breaks and infrastructure outlays to boost spending and job growth on top of the $814 billion stimulus measure enacted last year. The U.S. government’s total outstanding debt is about $13.5 trillion, according to U.S. Treasury Department figures. That is 94 percent of its 2009 GDP of $14.3 trillion, according to Bloomberg data.
Real Estate Collapse Spells Havoc in Dubai
by Liz Alderman - New York Times
On a sultry June evening in 2007, more than 100 people camped out at the offices of Emaar, a prestigious Dubai property developer, to ensure that they would land a coveted spot in a gleaming new skyscraper scheduled to open this year near the Burj Khalifa, the world’s tallest building. Today, the property, designed by the New York architect Frank Williams (who died in February), is like a number of others around Dubai — little more than a rotting foundation. Its value has plunged by more than 40 percent since 2008, after the collapse of Dubai’s real estate boom.
“It’s really a disaster, the situation in Dubai,” said Silvia Turrin, a real estate agent who bought into the property, 29 Boulevard, and has been unable to get her money out. “It’s not like in Western countries. It’s very difficult to exit here if there’s a problem. And we’ll never get our money back, but now we’re stuck dealing with this hole.”
Dubai lured people to a gold rush in properties at the height of its real estate boom — including business and political leaders from Afghanistan who invested the deposits from Kabul Bank, one of the country’s largest. The near-collapse of the bank in September was largely a result. At the time, few asked if there was a legal framework for resolving potential disputes. Now, with the glitter gone, interviews with investors, legal specialists and real estate analysts here show that many who bought in are finding it hard to get out.
Despite the construction delay, Emaar is still holding the down payments of as much as 80 percent that were required to secure an apartment, Ms. Turrin and other property holders said. And Dubai’s opaque property laws have made it virtually impossible for those who bought in to walk away, even as interest accumulates on their construction loans. In a statement, Emaar acknowledged that 29 Boulevard was still “under construction” but said that it upheld transparency standards and had “taken several proactive measures to address the concerns of investors on developments that are in the pipeline.”
It said those measures included the option of buying other completed properties. Investors, however, say the properties being offered are in some cases smaller, less attractive and more expensive than those they had agreed to buy. Emaar is not the only developer with such problems. Scores of other buildings around Dubai are well past their delivery dates, or have yet to be started.
Apartment buyers who made down payments for property construction cannot find what is happening with their money, these people said. Bank loans held on undelivered property often cannot be forfeited, and borrowers have had to pay higher interest rates even as banks have not let them walk away from the mortgages.
“The rules of the game are definitely opaque here,” said an investor who has bought several properties in Dubai and who insisted on anonymity because of delicate talks with developers and regulators. “In the United States, I would know my legal position much more clearly and could take actions if necessary.“ Most developers have also thwarted the formation of owners’ associations that could take control of building finances and ensure the transparent management of condo fees, which many owners say developers use to take in more money.
Dubai has compressed decades’ worth of real estate development into the last 15 years. But the legal framework for resolving property disputes, and the nature of the contracts themselves, are still as incomplete as many of the buildings, analysts said. “Dubai has evolved rapidly in just a short time,” said Graham Coutts, who is in charge of Middle East management services at Jones Lang LaSalle, a global real estate services firm. “The legal system is evolving with it.”
Still, concerns about resolving disputes here are mounting, even as developers struggle to find foreign and domestic investors for what has become one of the largest property surpluses in the world. Commercial real estate vacancies in particular are still rising.
Although about 70 percent of empty lots from three years ago have been filled, real estate construction since then has far exceeded the purchases, more than doubling the amount of vacant space available, said Timothy Trask, the director of corporate ratings at Standard & Poor’s in Dubai. Dubai is not the first place where soaring ambitions outpaced reality. Shanghai, Singapore and Hong Kong all were overbuilt in relatively short time frames. But these cities were able to trim their real estate surpluses by greatly reducing construction until demand picked up.
Building is continuing in Dubai, however, even though potential corporate tenants are showing little interest in developments like the Dubai Silicon Oasis or the Jumeirah Lake Towers, a complex of more than 85 buildings that looks like a Las Vegas version of Lower Manhattan planted on the fringes of the desert. Jones Lang LaSalle recently proposed that some buildings should simply be sealed for the next five years, until buyers return.
Even if investors eventually respond to slumping prices, they would still have to be wary of contracts and vigilant about how legal disputes in Dubai are resolved, said Ludmila Yamalova, a managing partner at the law firm HPL Plewka & Coll, who handles lawsuits for individual and commercial property investors.
She recently sued Damac Properties, one of Dubai’s biggest builders, on behalf of a German investor who claimed that from 2006 on, he invested nearly $10 million in five properties that were not delivered on time. The investor, Lothar Hardt, also contends that the developer mismanaged escrow accounts related to the properties and that he lost money by signing contracts with retailers who planned to set up shop in the buildings.
Ms. Yamalova is now trying to bring suit in a court run by the Dubai International Financial Center, a government body set up to attract investors, which operates largely on British-based law and is independent of the opaque Dubai court system, where cases are conducted in Arabic and plaintiffs must go through local Emirati representatives.
Dubai’s real estate regulators have issued a flurry of rules since 2008 to clarify the situation in Dubai and to comfort potential investors. But new rules sometimes contradict others issued just months earlier, often in ways that leave developers with the advantage and property buyers in a legal limbo, making many wary of ever investing in Dubai again, Ms. Yamalova said.
Mr. Coutts, the Jones Lang LaSalle executive, said that because Dubai had grown so fast, the government was learning on the job. In more mature markets, “you had 200 years to develop a legal framework,” he said. “It’s now becoming clearer what kind of a legal framework is needed to regulate development here.”
Inflation Expectation Noise
by Mike Shedlock - Global Economic Analysis
Scott Grannis on Seeking Alpha has written a pair of interesting articles regarding inflation expectations and Quantitative Easing. Grannis thinks that Quantitative Easing is working. I don't, but that debate depends on the definition of "work".
In regards to inflation expectations as measured from TIPS, Grannis says Bond Market Bracing for Return of InflationLots of important action in the bond market these days. 10-yr Treasury yields have plunged to a mere 2.36%. Recall that they hit a generational low of 2.05% at the end of 2008, when the entire world was terrified of impending economic death and destruction. Are yields today telling us that doom is just around the corner? Absolutely not. This time around things are very, very different.Deflation Risk Very Much Alive
The interesting part of the bond market action is in the TIPS market, where yields have plunged by much more than Treasury yields, and in the long end of the Treasury curve, where the spread between 10 and 30-yr Treasuries has widened to its steepest level ever. Since the end of August, when QE2 expectations started to heat up, 10-yr Treasury yields have declined by 10 bps, whereas 10-yr TIPS real yields have dropped by 50 bps. That's a 40 bps increase in annual inflation expectations over the next 10 years. Using the more sensitive measure of inflation expectations—the 5-yr, 5-yr forward breakeven rate—inflation expectations have jumped almost 50 bps since the end of August. The spread between 10- and 30-yr Treasuries has shot up to a record-breaking high of 127 bps, up from 105 bps at the end of August.
Note in the chart above how the drop in Treasury yields in late 2008 reflected deflationary fears (with inflation expected to average zero over the subsequent 10 years), whereas the current drop reflects inflationary fears.
So the market is saying that it has little doubt that the Fed will ramp up its quantitative easing efforts, and almost no doubt that this will prove inflationary in the years to come. The plunging dollar and the soaring price of gold fully support this interpretation.
This is the best evidence you can find that deflation risk has evaporated. The question now is not how low inflation will be, it's how high it will be in the years to come.
If the prospects for the economy are improving and inflation expectations are rising, why in the world would the Fed proceed with QE2, when it would only complicate things in the long run? This is really important stuff, and I get the feeling that Bernanke & Co. have not yet thought through all the ramifications of what they are planning, nor have they paid sufficient attention to market-based signals.
For starters, deflation risk has not evaporated. Rather deflation expectations as measured by TIPS have fallen, which is a decidedly different thing. Moreover, and more importantly, those deflation expectations pertain to prices, specifically the CPI (which is an extremely poor measure of inflation).
As I have pointed out on numerous occasions, prices are not what is at risk. The risk is of a credit collapse, a far different (and far more important thing).
What's Really Important?
In case you missed it, please consider Myths About "What's Economically Important"Day in and day out I hear it from readers who insist that we are not in deflation and will not be in deflation because prices are rising and continue to rise.What About Housing?
Still others tell me it is illogical for a deflationist to like gold.
When I counter with a discussion about credit conditions I tend to get a blank stare or a comment like "I do not care about credit conditions. I own my home. What I care about are rising prices of food and energy."
When I counter with falling asset prices and zero percent interest rates on savings accounts I am likely to get as statement like "Who cares, I rent?", or perhaps "The poor have no assets or savings, all they care about is food prices."
Such comments come from those who are not thinking clearly about what's important. Here's why:
- In a fiat credit-based financial system, when credit is plunging businesses are not hiring. There are currently 14.9 million unemployed who want a job but do not have a job because businesses are not hiring. There are 2.4 million "marginally attached" persons who do not have a job yet want a job, but are not considered unemployed because they stopped looking. There are 8.9 million part-time workers who want a full time job but cannot get one because businesses are not hiring. There are countless millions of college graduates who are underemployed, working at WalMart, delivering pizzas, or attempting to sell trinkets on eBay, because businesses are not hiring. There a still millions more in college hoping for a job upon graduation who will not get one because businesses are not hiring. This is all related to the ongoing credit contraction.
- When credit is plunging so do yields on treasuries and in turn yields on savings accounts. Those on fixed incomes attempting to live off interest income are screwed. Indeed, many are rapidly draining their principal because they collect no interest.
- Those who have a job, pay for those who don't. Food stamp usage is soaring and now costs over $60 billion dollars a year.
- When credit is plunging, consumers are not shopping, business earnings are under pressure, and wages stagnate or in many cases outright decline. Even those with jobs and no debt have been affected by deteriorating credit conditions. Public employees had escaped this debacle so far, but that is about to change in a big way, with huge implications.
- When business earnings are under pressure or when business owners face uncertainty over consumer spending trends, businesses cut back on benefits, especially health care. Those with health cares benefits are asked to chip in more of the costs. This too is a function of deflation.
- When profits are weak and business uncertainty high, stock prices do not act well (at least in the long run). Those with 401Ks or personal investments are affected.
- With credit falling and wages stagnant or falling, anyone in debt is likely to have a harder time paying back that debt. Foreclosures rise so do bankruptcies and divorces. Entire families have gone homeless.
So, What's Really More Important?
Expanding credit (inflation) created an enormous housing bubble, a commercial real estate boom, a rising stock market, and an enormous number of jobs.
Contracting credit (deflation), burst the housing bubble, burst the commercial real estate bubble, burst the stock market bubble, resulting in millions of foreclosures and bankruptcies, millions of broken homes, millions on food stamps, 26.2 million unemployed or partially employed, and countless additional millions who are underemployed.
People notice food and energy prices because they tend to be somewhat sticky. Everyone has to eat, heat their homes, and take some form of transportation at times, but is that what's important?
In the grand scheme of things, nominal increases in food and energy prices are but a few grains of salt in the world's largest salt-shaker compared to the massive effects of rising or falling credit conditions.
Yet, every day, someone writes to me complaining about the price of milk (or something else) going up 30 cents or whatever telling me that is "inflation" or that is what is most important. ....
If one wants to claim risk of falling prices as measured by the CPI is behind us, I beg to differ, while admitting I can easily be wrong. However, the CPI is fatally flawed in that it ignores housing prices and I am quite sure housing prices are headed for another plunge.
General prices (especially 2% CPI inflation expectations) are meaningless compared to housing prices, credit conditions, and defaults.
If there was one price Bernanke could force up if he could, it would be housing prices. Does anyone disagree?
Demographics Important Too!
These inflation expectation measurements ignore not only housing, but also demographics and other investment cycles. As I see it, Long-Wave, Fixed Investment, Inventory, and Demographic Cycles all Downwardly Converging and the implications are anything but inflationary.
Inflation Expectation Flaws
In light of the above, modest inflation expectations are essentially meaningless.
For the sake of completeness of this discussion, however, there is considerable debate as to whether or not it's as simple as subtracting 10-Year TIPS from 10-Year Treasuries to arrive at "inflation expectations".
Cleveland Fed Estimates of Inflation Expectations
Inquiring minds are reading Cleveland Fed Estimates of Inflation ExpectationsNews Release: September 17, 2010Inflation Expectations Trendline
The Federal Reserve Bank of Cleveland reports that its latest estimate of 10-year expected inflation is 1.54 percent. In other words, the public currently expects the inflation rate to be less than 2 percent on average over the next decade.
The Cleveland Fed’s estimate of inflation expectations is based on a model that combines information from a number of sources to address the shortcomings of other, commonly used measures, such as the "break-even" rate derived from Treasury inflation protected securities (TIPS) or survey-based estimates.
The Cleveland Fed model can produce estimates for many time horizons, and it isolates not only inflation expectations, but several other interesting variables, such as the real interest rate and the inflation risk premium.
click on chart for sharper image
Over a long horizon, one can see inflation expectations have been on a downtrend for 20 years!
Inflation: Noise, Risk, and Expectations
For an explanation of the Cleveland Fed Methodology, please see Inflation: Noise, Risk, and ExpectationsThe Cleveland Fed model of inflation expectations provides a simple measure of expected inflation that has two advantages over the break-even rate derived from TIPS. The first is that the measure is adjusted for the inflation risk premium. Because people don’t like the risk associated with inflation, they pay less for a nominal, unprotected bond, which means it has a higher interest rate. Thus the difference between nominal bonds and TIPS overstates the expected inflation rate. And because the model does not use the difference between TIPS and Treasuries, it does not capture liquidity differences along with inflation expectations.Self-Serving Claptrap from the Fed
Figure 1 [Mish Note: Same Chart as Above Trendline Chart] shows the model’s estimate of 10-year expected inflation. Expectations show a gradual decline from the early 1980s to about 2003, after which they fluctuate in the neighborhood just north of 2 percent. The financial crisis coincided with very low expectations.
It’s tempting to think that inflation risk is simply the risk of high inflation, but it is rather associated with inflation deviating from expectations, whether higher or lower. Put another way, people anticipate that $10,000 will buy less in 10 years, but they are unsure exactly how much less it will buy.
The inflation risk premium fluctuates around half a percent.
Removing Short-term Effects
Even “purified” expectations of inflation are not always the most useful indicators for monetary policy. In the short run, there are price pressures, unemployment effects, and shifts in money demand that move the price level around in ways that are out of the control of the central bank. What’s needed is a longer-term measure of inflation expectations that purges out the short-term effects.
The forward inflation rate (figure 3) does that.
Figure 3 shows what a difference the approach makes: the Cleveland model shows a lower rate than the other two series over the past several quarters. It stays near 2 percent, while the other measures show a potentially worrying increase. This implies that longer-term inflation expectations are still well anchored and the time for tightening has not yet come.
I am certainly not one to give praise to self-serving claptrap from the Fed. Unfortunately, if you read the complete text of those articles you will likely be as nauseated as I was about the glorious praise the Fed heaped upon itself about inflation.
However, what the article says about risk premiums makes quite a bit of sense.
Yet, even if one assumes the model used by Scott Grannis is correct, those expectations are at the lower end of the range for the last 7-years, discounting panic action in late 2008.
Confusing Expectations and Reality
Grannis asks "If the prospects for the economy are improving and inflation expectations are rising, why in the world would the Fed proceed with QE2, when it would only complicate things in the long run?"
The above question seems to confuse expectations with reality. Does anyone remember the expectation (and all the models built on that expectation) that housing prices would never decline nationally? Yet it happened, didn't it?
While I am one to give credence to the bond market (especially over equities), it is important not to make too much ado over short-term fluctuations, especially when the long-term trendline is crystal clear.
Nonetheless, I agree with Grannis that the Fed's actions needlessly complicate things for the simple reason the Fed is making its exit strategy worse, while not doing a damn thing to stimulate lending.
Returning to the phrase "If the prospects for the economy are improving ..." I suggest the prospects are clearly not improving. Indeed, the odds that the economy is already back in recession have risen from 1% in April to 20% in July (the latest month available).
Please see Real Time Probabilities of Recession Above 20% Second Consecutive Month for details.
Moreover, in spite of heroic buying of mortgage backed securities by the Fed and mortgage rates at all time lows, housing has fallen into the gutter with new home sales and housing starts also at all time lows.
Now, indications are that inventory rebuilding is nearly complete and unemployment is about to tick up. By what measure is any of this improving?
Is Quantitative Easing Working?
Grannis says Quantitative Easing Is Working: A Look at Action in the Markets.The steepness of the long end of the Treasury yield curve reached another all-time high today of 126 bps. 10-year Treasury yields have fallen to their lows for the year, but investors in longer maturities are balking — the steepening of the curve is coming mainly from rising yields on 30-year Treasury bonds, which are up 20 bps since the end of August. That's a sign that the Fed's quantitative easing program is working.A Debate Over the Word "Working"
The steepening spread is not a sign QE is working. It is a sign that investors, hedge funds, and banks are plowing into the central part of the yield curve because that is the part of the yield curve they think the Fed will buy.
Bear in mind that I do not think such actions can work against the trend except in the short-term. The implications of that statement are that treasury yields would be falling on their own accord.
However, the Fed certainly can goose the market in the direction of the trend, and that it has done. I wish I could quantify exactly how much, but I can't, nor can anyone else.
That said, before we can debate whether or not a policy is working, we must define what "work" means. If "work" means steepening the yield curve or getting commodity prices to rise, then one can indeed make a case that QE worked.
Grannis also says "The Fed can pin the 10-year Treasury yield at artificially low levels, but easy money can't make an economy grow, except to the extent that the prospect of inflation causes people to invest money they would rather just keep in cash. Shoveling money into the economy mostly results in higher prices, and there is growing evidence that this is occurring."
I essentially agree with that paragraph, especially the part "easy money can't make an economy grow."
However, this is NOT about inducing rising prices per se (except perhaps housing prices). I do not believe the Fed wants rising commodity prices unless they are accompanied by more bank lending, rising employment, and increased economic activity.
If the goals were to jump-start lending, spur the economy, and reduce the unemployment rate, (I am quite certain those were the goals), then QE did not "work", rather it failed miserably.
Finally, unless and until the Fed jump-starts lending, inflation expectations can go to the moon but there will not be significant inflation.
Please see Are we "Trending Towards Deflation" or in It? for further discussion regarding deflation trends.
Inflation Expectations Be Damned
Because the Fed has not stirred bank lending, the best way of looking at the current environment is that we are in a temporary inflation scare, similar to the inflation scare that we saw when oil touched $140, with talk of inflation expectations not much more than noise, at least for now.
ADP Estimates U.S. Companies Cut 39,000 Jobs in September
by Timothy R. Homan - Bloomberg
Companies in the U.S. unexpectedly cut jobs in September, data from a private report based on payrolls showed today. Employment decreased by 39,000, the biggest drop since January, after a revised 10,000 rise in August, according to figures from ADP Employer Services. The median estimate of 37 economists surveyed by Bloomberg News called for a 20,000 gain. Forecasts ranged from a decline of 44,000 to a 75,000 increase.
A loss of jobs raises the risk that consumer spending, the largest part of the economy, will retrench and halt the recovery. A Labor Department report in two days will show companies added 75,000 workers last month, economists project. “It’s more evidence of a lousy labor market,” said Joshua Shapiro, chief U.S. economist at Maria Fiorini Ramirez Inc. in New York. “Here we are, 18 months into a recovery and we’re not doing much on the job front. Until we digest the excesses built up over decades, you’re not going to see sustained gains in jobs or the overall economy.”
Most stocks dropped and Treasury securities rose as the report raised concern over the outlook for employment. The Standard & Poor’s 500 Index fell 0.1 percent to 1,159.97 at the 4 p.m. close in New York. The yield on the benchmark 10-year Treasury note, which moves inversely to prices, dropped to 2.39 percent from 2.47 percent late yesterday.
Over the previous six reports, ADP’s initial figures were closest to the Labor Department’s first estimate of private payrolls in May, when it overestimated the gain in jobs by 14,000. The estimate was least accurate in April, when it underestimated the employment gain by 199,000. ADP’s initial August estimate showed a 10,000 drop in private employment compared with the government’s estimate of a 67,000 increase.
“This is a disappointing result,” Joel Prakken, chairman of St. Louis-based Macroeconomic Advisers LLC, which produces the figures with ADP, said of today’s figures on a conference call with reporters. “It’s going to be a while before employment really perks up.” High unemployment, public debt and fragile banking systems pose risks to global prosperity, according to a report today from the International Monetary Fund, which urged policy makers to take bolder steps to assure a sustained recovery. The Washington-based fund lowered its forecast for U.S. growth this year and 2011, predicting a “slow” rebound restrained by a lack of consumer spending.
Countries that rely on exports to help lift their economies must change policies or “global growth will slow and all of us will be worse off,” U.S. Treasury Secretary Timothy F. Geithner said today in advance of this week’s meeting in Washington of the IMF, World Bank and Group of 20 nations. Global exchange-rates are a source of contention heading into the meetings.
“It is very important to see more progress by the major emerging economies to more flexible, more market-oriented exchange-rate systems,” Geithner said at the Brookings Institution in Washington. “This is particularly important for those countries whose currencies are significantly undervalued.” Geithner said the “greatest risk to the world economy today is that the largest economies underachieve on growth.”
The economy is a top issue for voters in the November congressional elections and polls show the public is increasingly skeptical of President Barack Obama’s performance. His job approval over a three-day period that ended Oct. 4 was 45 percent, compared with 53 percent at the same time last year, according to a poll from Princeton, New Jersey-based Gallup Inc.
Economists at Goldman Sachs Group Inc. said the U.S. economy will be “fairly bad” or “very bad” over the next six to nine months. “We see two main scenarios,” analysts led by Jan Hatzius, the New York-based chief U.S. economist at the company, wrote in an e-mail to clients dated yesterday. “A fairly bad one in which the economy grows at a 1 1/2 percent to 2 percent rate through the middle of next year and the unemployment rate rises moderately to 10 percent, and a very bad one in which the economy returns to an outright recession.”
Hatzius placed the odds of a renewed recession at 25 percent to 30 percent, up from 15 percent to 20 percent at the start of the year. The Labor Department’s report on Oct. 8 will also show the jobless rate increased to 9.7 percent from 9.6 percent, according to the survey median. Overall payrolls were probably unchanged in September, reflecting the winding down of cutting federal census workers who participated in the decennial population count, according to the Bloomberg survey median.
Today’s ADP report showed payrolls decreased among all companies, small, median and large, which are those employing more 499 workers. Bristol-Myers Squibb Co., the New York-based drugmaker, said last month that it will cut 3 percent of its global workforce, about 840 jobs, during the next six months. The company previously announced plans to slash more than $2.5 billion in expenses by 2012, and eliminated 7,000 jobs last year. The ADP report is based on data from about 340,000 businesses with more than 21 million workers on payrolls.
Congress Will Have 7 Days To Reauthorize Jobless Aid; It Took 50 Last Time
by Arthur Delaney - Huffington Post
When it returns from its mid-term break in mid-November, Congress will have only two weeks and seven voting days to reauthorize extended unemployment benefits before they expire at the end of the month. That's not much time, as the previous reauthorization consumed the Senate for 50 days this summer.
"This is going to be a really hard fight but it's a crucial issue and it is clear the congressional leadership understands that this is a top-tier, must-do item as soon as the lame duck session convenes," said Judy Conti, a lobbyist for the National Employment Law Project who is in frequent contact with key staffers. "While the fight won't be any easier than in the past, advocates and workers are already mobilizing and will be sure to make their demands heard."
Congress has blown reauthorization deadlines for extended unemployment benefits three times already this year. The first two lapses were brief; they happened because of obstruction by Senate Republicans. The third lapse lasted for nearly two months, however, as Democratic leadership in the House and Senate fought Republicans and a handful of deficit hawk Dems over whether or not the $33 billion cost of the reauthorization should be offset with spending cuts.
HuffPost asked House Speaker Nancy Pelosi (D-Calif.) on Tuesday if she expects the upcoming reauthorization to be less difficult than the last one. "Well I hope so, because it's certainly going to be harder for the people whose benefits are expiring," Pelosi said. "So many people have come up to me to say 'thank you,' whether it's in airports, or just working people in different situations or not-working people saying, 'We're professionals, we've always worked. We were desperate, and then we got that unemployment insurance.' They weren't even people who were used to getting unemployment, but it really saved a lot of people."
The reauthorization that finally made it through the Senate in July, after a lapse in benefits that affected 2.5 million people, expires at the end of November instead of at the end of the year. That's because of a May bargain between Democratic leaders in the House and deficit-weary Blue Dogs and Democrats from low-unemployment districts. Leaving off a month saved $7 billion, and it was the first in a series of nickel-and-dime cuts: Leadership also sacrificed health insurance subsidies for layoff victims to continue coverage through COBRA, saving $7 billion, and a Senate deal to cut $25 per week from every unemployment check saved $6 billion.
Whether that kind of nickel-and-diming will be necessary to appease deficit hawks post-election remains to be seen. The White House has already signaled that it will support another reauthorization of the extended benefits, which give the unemployed in hardest-hit areas up to 73 weeks of federally-funded aid on top of the 26 weeks provided by states. Though bills have been introduced in both the House and Senate to provide additional weeks of benefits for "99ers" -- people who've exhausted all help available and still haven't found work -- the uncertainty of preserving the existing help doesn't bode well for another 20 weeks of aid.
IMF chief warns on exchange rate wars
by Alan Beattie - Financial Times
Governments are risking a currency war if they try to use exchange rates to solve domestic problems, the head of the International Monetary Fund has warned. The comments by Dominique Strauss-Kahn came before the yen fell as a result ofthe Bank of Japan shifting towards quantitative monetary easing, cutting its key interest rate and proposing a new fund to buy government bonds and other assets.
“There is clearly the idea beginning to circulate that currencies can be used as a policy weapon,” Mr Strauss-Kahn told the Financial Times on Monday. “Translated into action, such an idea would represent a very serious risk to the global recovery . . . Any such approach would have a negative and very damaging longer-run impact.” The yen dropped against the dollar on Tuesday after the BoJ announced its decision. Government bonds, stocks and gold prices all rose on the expectation that central banks of the world’s biggest economies would embark on a round of quantitative easing.
In recent weeks several major economies have taken measures to relieve upward pressure on their currencies. Japan intervened in the currency markets to sell yen for the first time in six years. Brazil has threatened intervention to hold down the real, and on Monday doubled a tax on foreign purchases of bonds in an attempt to reduce inflows. Last week Guido Mantega, Brazil’s finance minister, warned of a currency war. “We have seen reports that some emerging countries whose economies face big capital inflows are saying that maybe it is time to use their currencies to try to gain an advantage, particularly on the trade side,” Mr Strauss-Kahn said.
“I don’t think that is a good solution.” Mr Strauss-Kahn was speaking ahead of the annual meetings of the IMF and World Bank in Washington this weekend, at which the troubled global economy and the imbalances in current account deficits are likely to feature prominently. European policymakers said they had disagreed with Wen Jiabao, the Chinese premier, after meetings in Brussels.
Jean-Claude Juncker, chairman of the group of eurozone finance ministers, said there was a “divergence of analysis” between the Chinese and the European authorities. “We think the Chinese currency is broadly undervalued,” he said. This week Mr Wen said China would buy Greek government bonds as a sign of confidence in the country’s ability to escape default. But economists said Chinese purchases of bonds would also push up the euro against the renminbi.
Food Stamps Went to Record 41.8 Million Americans in July
by Alan Bjerga - Bloomberg
The number of Americans receiving food stamps rose to a record 41.8 million in July as the jobless rate hovered near a 27-year high, the government said. Recipients of Supplemental Nutrition Assistance Program subsidies for food purchases jumped 18 percent from a year earlier and increased 1.4 percent from June, the U.S. Department of Agriculture said today in a statement on its website.
Participation has set records for 20 straight months. Unemployment in September may have reached 9.7 percent, according to a Bloomberg News survey of analysts in advance of the release of last month’s rate on Oct. 8. Unemployment was 9.6 percent in July, near levels last seen in 1983. An average of 43.3 million people, more than an eighth of the population, will get food stamps each month in the year that began Oct. 1, according to White House estimates.
Barbarians at the gates of complexity
by John Kay
I don’t know how much time Lehman Brothers’ traders spent reading the bank’s copy of Edward Gibbon’s The Decline and Fall of the Roman Empire, which raised £2,375 for creditors at Christie’s last weekend. I recommend the much shorter The Collapse of Complex Societies by Joseph Tainter, which might have helped them understand their own decline and fall.
The sack of Rome, who’s 1,600-year anniversary also occurred last month, was of course, perpetrated by the “barbarians at the gate”. But the fact does not explain why the sophisticated society of ancient Rome, with its advanced weaponry and powerful armies, fell victim to a less developed people.
Jared Diamond’s book Collapse links civilisational decline to external disasters. But natural calamities are commonplace, and societies mostly cope. The chaos in New Orleans was, in a sense, caused by hurricane Katrina, but that misses the point: why was America unable to cope with a contingency that not only could have been foreseen, but was in fact foreseen, and could have been contained by available technologies?
Tainter treats the fall of Rome as only one instance of civilisational collapse, which he defines as the replacement of complex structures of social and economic organisation by much simpler ones. He lists more than a dozen such collapses, examining not just Rome but the failure of the Mayans in Central America and the disappearance of the Chacoan government in New Mexico. The defining characteristic of civilisation is the complexity of its organisation. But complexity breeds complexity, and is subject to diminishing returns. Eventually the costs of increased complexity exceed the benefits.
The greatest achievement of the Romans was territorial conquest. The peoples of the empire initially benefited from law and order and technology. But as the empire grew, the costs of central organisation rose and the benefits of further expansion became ever more marginal.
The Mayans were accomplished engineers and architects. The number and scale of their projects amid the rainforests of Guatemala increased steadily, with increasing cost and diminishing benefit. The Chacoans developed a sophisticated economy, with extensive trading networks; but as these networks expanded, the gains from further expansion fell. In Central America and New Mexico, as in Rome, the complexity of social organisation developed to the point that it no longer benefited most of society.
The phenomenon of multiplying complexity is not confined to ancient civilisations. The nature of bureaucracy is to generate work for other bureaucrats to do. C. Northcote Parkinson describes how the number of people in the British Admiralty increased faster than the number of ships, and continued to increase even after the number of ships declined.
The Christian religion began with a few people breaking bread in a back room. By the time the Roman Catholic Church had reached the height of its power in the 16th century, the spiralling costs of building the religious establishment, and the corruption engendered, had led to the Reformation. The British empire also expanded until the burden of maintaining it exceeded its benefits. If Britain averted societal collapse, it was because British social organisation was sufficiently robust to give empire away at that point – though the struggle over the current defence review demonstrates how difficult such decisions are.
What of today’s barbarians at the gate? Trading in securities naturally invites trading in derivatives. Wherever there is a collateralised debt obligation there will soon be a CDO squared. The volume of activity, and the number of people employed in financial services, increases more rapidly than the number of people employed in the underlying trade in goods and services. For Tainter, the fall of Rome was principally an economic phenomenon. For Gibbon, it followed the decline of civic virtue. So much changes, yet so much remains the same.
Stranded on the Sidelines of a Jobs Crisis
by Andy Kroll - Tomdispatch
Sometime in early June -- he's not exactly sure which day -- Rick Rembold joined history. That he doesn't remember comes as little surprise: Who wants their name etched into the record books for not having a job?
For Rembold, that day in June marked six months since he'd last pulled a steady paycheck, at which point his name joined the rapidly growing list of American workers deemed "long-term unemployed" by the Department of Labor. In the worst jobs crisis in generations, the ranks of Rembolds, stranded on the sidelines, have exploded by over 400% -- from 1.3 million in December 2007, when the recession began, to 6.8 million this June. The extraordinary growth of this jobless underclass is a harbinger of prolonged pain for the American economy.
This summer, I set out to explore just why long-term unemployment had risen to historic levels -- and stumbled across Rembold. A 56-year-old resident of Mishawaka, Indiana, he caught the unnerving mix of frustration, anger, and helplessness voiced by so many other unemployed workers I'd spoken to. "I lie awake at night with acid indigestion worrying about how I’m going to survive," he said in a brief bio kept by the National Employment Law Project, which is how I found him. I called him up, and we talked about his languishing career, as well as his childhood and family. But a few phone calls, I realized, weren't enough. In early August I hopped a plane to northern Indiana.
In job terms, my timing couldn't have been better. I arrived around lunchtime, and was driving through downtown South Bend, an unremarkable cluster of buildings awash in gray and brown and brick, when my cell phone rang. Rembold's breathless voice was on the other end. "Sorry I didn't pick up earlier, man, but a friend just called and tipped me off about a place up near the airport. I'm fillin' up my bike and headin' up there right now." I told him I'd meet him there, hung a sharp U-turn, and sped north.
Twenty minutes later, I pulled into the parking lot of a modest-sized aircraft parts manufacturer tucked into a quiet business park. Ford and Chevy trucks filled the lot, most backed in. Rembold roared up soon after on his '99 Suzuki motorcycle. Barrel-chested with a thick neck, his short black hair was flecked with gray, and he was deeply tanned from long motorcycle rides with his girlfriend Terri. "They didn't even advertise this job," he told me after a hearty handshake. Not unless you count the inconspicuous sign out front, a jobless man's oasis in the blinding heat: "NOW HIRING: Bench Inspector."
His black leather portfolio in hand, Rembold took a two-sided application from a woman who greeted us inside the tiny lobby. He filled it out in minutes, the phone numbers, names, dates, and addresses committed to memory, handed it to the secretary, and in a polite but firm tone asked to speak with someone from management. While we waited, he pointed out the old Studebaker factories in a black-and-white sketch of nineteenth century South Bend on the wall, launching into a Cliffs Notes history of industry in this once-bustling corner of the Midwest.
A manager finally emerges with Rembold's application in hand. Rembold rushes to explain away the three jobs he had listed in the “previous employers” section -- stints at a woodworking company, motorcycle shop, and local payday lender. They’re not, he assures the man, indicative of his skills; they're not who he is. You see, he rushes to add, he's been in manufacturing practically his entire life, a hard and loyal worker who made his way up from the shop floor to salecs and then to management. That kind of experience won't fit in three blank spots on a one-page form. Unswayed, the manager thanks him formulaically for applying.
If the company's interested, the manager says -- and it feels like a kiss-off even to me -- they'll be in touch, and before we know it we’re back out in the smothering heat of an Indiana summer. Rembold tucks his portfolio into one of the Suzuki's leather saddlebags. "Well, that's pretty standard," he says, his tone remarkably matter-of-fact. "At least I got to talk to somebody. You're lucky to get that anymore."
A Perfect Storm Hits American Labor
The numbers tell so much of the story. The 6.76 million Americans -- or 46% of the entire unemployed labor force -- counted as long-term unemployed in June were the most since 1948, when the statistic was first recorded, and more than double the previous record of 3 million in the recession of the early 1980s. (The numbers have since dipped slightly, with a total of 6.2 million long-term unemployed in August.) These are people who, despite dozens of rejections, leave phone messages, send emails, tweak their cover letters, and toy with resume templates in Microsoft Word, all in the search for a job.
Not counted in this figure are so-called "discouraged workers," including plenty of former searchers who have remained on the unemployment sidelines for six months or more. In August of this year, 1.1 million Americans had simply stopped looking and so officially dropped out of the workforce. They are essentially not considered worth counting when the subject of unemployment comes up. Nonetheless, that 1.1 million figure represents an increase of 352,000 since 2009. In effect, the real long-term unemployment figure now may be closer to 7.5 million Americans.
So who are these unfortunate or unlucky people? Long-term unemployment, research shows, doesn't discriminate: no age, race, ethnicity, or educational level is immune. According to federal data, however, the hardest hit when it comes to long-term unemployment are older workers -- middle aged and beyond, folks like Rick Rembold who can see retirement on the horizon but planned on another decade or more of work. Given the increasing claims of age discrimination in this recession, older Americans suffering longer bouts of joblessness may not in itself be so surprising. That education seemingly works against anyone in this older cohort is. Nearly half of the long-term unemployed who are 45 or older have "some college," a bachelor's degree, or more. By contrast, those with no education at all make up just 15% of this older category. In other words, if you're older and well educated, the outlook is truly grim.
As for the causes of long-term unemployment, there's the obvious answer: there simply aren't enough jobs. Before the Great Recession, there were 1.5 workers in the U.S. for every job slot; today, that ratio is 4.8 to one. Put another way, with normal growth instead of a recession, we’d have 10 million more jobs than we currently do. Closing that gap would require adding 300,000 jobs every month for the next five years. In August 2010, the economy shed 54,000 jobs. You do the math.
Worse yet, if you imagine five workers queued up for that single position, the longer you're unemployed, the further back you stand. Economists have found that long-term unemployment dims a worker’s prospects with each passing day. "This pattern suggests that the very-long-term unemployed will be the last group to benefit from an economic recovery," Michael Reich, an economist at the University of California-Berkeley, told Congress in June.
But when you consider the plight of the long-term unemployed, don’t just think jobs. The 2008 recession was a housing-driven crisis, thanks to the rise of subprime mortgage lending, government policy, and greed. As a result, 11 million borrowers -- or nearly 23% of all homeowners with a mortgage -- now find themselves "underwater": that is, owing more on their mortgages than their houses are worth. Negative equity at those levels creates what Harvard economist Lawrence Katz calls a "geographic lock-in effect," stifling jobs recovery. Typically, American workers are a mobile bunch, willing to bounce from one city to the next for new jobs, but not when homeowners are staying put to avoid selling their underwater houses for a loss.
Another factor in the explosion of long-term unemployment lies in a shift away from temporary layoffs. In the recessions of 1975, 1980, and 1982, 20% of unemployed workers had been only temporarily laid off; as of August of this year, just 10% had. In their heyday, automakers and steel companies laid off workers as demand dipped, but backstopped by powerful labor unions, those workers were regularly recalled as demand and production revved up again. No more. Now, if you’re long-term unemployed, you’re undoubtedly trying to find a new job with a new employer, a more daunting process. Add it all up and you have Rick Rembold.
"Feast or Famine" in RV Land
Rembold calls himself a Democrat -- "not the peace sign, hit-the-bong type," he hastens to add, but "a tear-off-your-head-and-shit-down-your-neck Democrat." He can't stomach Glenn Beck or talk radio here in the Land of Limbaugh, and with equal zeal he watches MSNBC's Rachel Maddow and FX's "Sons of Anarchy," a gritty, violent series about outlaw motorcycle gangs.
It was a Friday morning, and we were in Rembold's kitchen, drinking coffee and talking politics. He wore jeans and a black polo shirt, and paced as he spoke. Ideas and frustrations poured out of him like water from an open spigot; the man had a lot on his mind. The night before, I had asked him to show me around the area, especially the economic engine that sustains it: the recreational vehicle, or RV, industry. Once the coffee ran dry, we piled into my car and set off.
Cities such as Elkhart and Middlebury and Mishawaka and Wakarusa are the cradle of the RV industry. Headquartered here are major manufacturers like Jayco and Forest River. At its peak, northern Indiana churned out three-quarters of all RVs on the road -- motor homes and fifth-wheels, pop-up campers, travel trailers, and toy haulers. Producing them was grueling work, but you could fashion a middle-class lifestyle out of what it paid. "Workin' in the RV industry, they'll work you to death," Rembold said. "People would literally be sprintin' from one place to the next with power tools in their hands."
Then came "the Panic of '08," as one RV salesman put it to me. Teetering banks choked off consumer lending as credit markets froze. The downturn pummeled the industry. In 2009, sales of fifth-wheels, a smaller trailer you hitch to a truck or SUV, plummeted by 30%, travel trailers by 23.5%, campers by 28%. Manufacturers like Jayco, Monaco Coach, and others collectively laid off thousands, and the region's unemployment rate spiked by more than 10% in a year. When a newly elected Barack Obama arrived in Elkhart in February 2009 to tout his stimulus plan, the jobless rate was 15.3%; a month later, it reached 18.9%, more than twice the national rate. At one point, Elkhart County, with a population of 200,000, was shedding 95 jobs a day.
In the 1990s and first years of the new century, RV manufacturers couldn't hire enough workers. They ran ads in regional and national newspapers looking for more bodies. "We couldn't even get people to drive over from South Bend to work in Elkhart," a sales rep for Jayco told me.
By the time I arrived, though, the industry had left its feast years, hit the famine ones fast, and was showing the first signs of crawling back. Driving through Middlebury, a town of 3,200 east of Elkhart, I saw a few carrier trucks hustling in or out of plants, some full employee parking lots, and rows of gleaming new RVs dotting the green landscape like herds of boxy cattle.
Whether the industry will ever fully recover, however, is unclear. The manufacturers I spoke to were optimistic about future sales. "Despite the logic of what's going on in the economy, the buyers are still there," said Jerimiah Borkowski, a spokesman for Thor Motor Coach. But a 2009 analysis by Indiana University's Business Research Center projected that by 2013 annual RV shipments still won't have returned to their 2006 peak. "I personally don't think it'll ever rebound to pre-2008 levels," says Bill Dawson, vice president and general manager of Clean Seal Inc., a South Bend-based supplier of parts to the RV industry. Dawson points to industry contractions -- Thor's $209 million acquisition of Heartland RV, the Damon Motor Coach-Four Winds merger, as well as numerous factory closings -- and says, "Fewer players mean fewer units and fewer people making them."
Rembold knows the RV industry's ebb and flow all too well. He's lived in its shadow for the majority of his working career, including 18 years with Architectural Wood Company (AWC), an Elkhart-based manufacturer of wood products used to outfit RVs and conversion vans. He's made handcrafted tables, faceplates, valences, and overhead consoles, usually from oak or maple, finishing them with the gloss that gives Kimball grand pianos and Fender guitars their shine.
But by the 1990s and 2000s, his line of work looked to be headed the way of the 8-track tape. The conversion van industry was sinking. RV manufacturers had begun replacing wood with cheaper plastics and vinyl-wrapped plywood. (At an RV show we visited, Rembold could step inside a vehicle and determine by smell alone if the manufacturer used the real thing or not.) Orders plummeted at AWC. By early 2006, the company's financial health was so dire that the owner, a good friend of Rembold's, let him go. A few years later, the company itself folded.
Rembold then caromed from one job to the next: selling used cars and motorcycles, driving a semi truck, working behind six inches of bulletproof glass as a teller at Check$mart. He briefly ended up back in RVs, supervising employees sewing tents for campers, and then, last winter, temped at a struggling wood shop. That was his last job. After the holidays, he was never called back.
Like millions in his predicament, Rembold knows his chances of finding a decent-paying job doing what he loves decrease with each temporary, non-manufacturing job he’s taken. What doesn't fit on a resume -- and so frustrates him most -- is his adaptability, if only he could convince an employer of it. College degree or not, certification or not, he insists, he's always adapted to new settings. "Could I do construction? Hell, yeah, I could do it. I could measure in metric, in standard; I'd correct cutting mistakes, do it all. I just can't get anyone to let me do it."
As we talked, the RV plants gave way to lush farmland and we found ourselves driving through Amish country, sharing quiet two-lane roads with horse-drawn buggies. By early afternoon we rolled into the town of Topeka (pop. 1,200), past the Seed and Stove store and the Do-It Better hardware shop. Then Rembold's cell phone buzzed, a rare break in the conversation. It was his daughter, Angie, 28, the youngest of his three kids.
He listened, then yanked off his sunglasses. "You what?"
Angie managed the Check$mart in Goshen, the check-cashing outfit Rembold once worked for, and she was good at her job, Rembold had told me earlier. Now she was agitated, talking so loudly that I caught bits and pieces of the conversation over the din of the radio. Something about a bonus owed that she didn't receive. When Rembold abruptly hung up, he muttered, "Jesus H. Christ."
Later, over lunch at what looked to be Topeka's lone diner, he explained that Angie planned to quit her job over the unpaid bonus. After a full morning telling me about the nightmare of being out of work, he looked stunned. "You'd think she'd have learned from my situation. I don't think she realizes how her life is going to change."
The Trauma of Long-Term Unemployment
It’s hard, even for the long-term unemployed, to grasp just how drastically life can change without work. Studying past recessions to discover just what does happen, researchers often focus on the collapse of the steel industry in Pennsylvania in the late 1970s that would turn a once-thriving region into a landscape of shuttered factories and ghost towns. Eighty thousand people worked in steel in the 1940s; by 1987, 4,000 remained.
In one study, male Pennsylvania workers with high seniority experienced a 50% to 100% spike in mortality rate in the first year after job loss. The life expectancies of those laid off after age 40 decreased by one to one-and-a-half years. In the long run, these laid-off Pennsylvanians suffered a 15% to 20% reduction in earnings. Those hardest hit in terms of lifelong earnings, economists found, were not low-skilled laborers or highly skilled wealthy elites, but workers who had managed to forge a middle-class lifestyle.
Suicide rates also increase, researchers have found, when unemployment rises. (In Elkhart County, near where Rembold lives, suicides exceeded the annual average by 40% last year.)
The 1980s recession in Pennsylvania was no outlier either, economic researchers have discovered, and the effects of long-term unemployment spread well beyond directly afflicted workers. In the short run, for instance, a child whose parent loses his or her job is 15% more likely to repeat a grade year in school, according to University of California-Davis economists Ann Huff Stevens and Jessamyn Schaller. This is especially true for children with less-educated parents.
Over their lifetime, the children of jobless fathers earn, on average, 9% less each year than similar children without laid-off dads, and are more likely to receive unemployment insurance and social welfare support at some point in their lifetimes. New research also suggests that the children of laid-off parents may have lower homeownership rates and higher divorce rates.
"I'm Not Competing With Some College Kid"
In the early evening, Rembold and I holed up in his office, a small room off the main hallway with a computer, two desks, and countless framed photos. Rembold clicked open a folder on his Internet browser labeled "Careers" and walked me through his daily online job-hunting routine. He checks half-a-dozen job boards regularly, though openings tend to pay only in the $8- to $10-an-hour range. He rejects most of those out of hand.
"Wouldn’t that be better than no job at all?" I ask.
Rembold gnaws on the question. "I can't afford my home at $8 or $10 an hour," he finally replies. Right now, he’s getting by on unemployment checks, a small inheritance from his mother that's rapidly dwindling, and loans from family members. Still, he'd rather keep trolling the job boards in the hopes of finding something offering a living wage. "I've got a mortgage to pay, for Christ's sake," he told me. The few openings he sees with good pay, however, involve odd hours, dusk-to-dawn shifts that would mean he'd almost never see Terri, whose schedule at an aluminum company in Elkhart is early morning to mid-afternoon.
And then, under the dollar signs lurks something else: self-respect. Unlike his father, Rembold never went to college, and doesn't consider himself too good for service-sector jobs. But he visibly agonizes over the fact that, as a 56-year-old man with decades of experience, he's competing with people half his age for low-wage jobs. After all, as a machine operator fresh out of high school at White Farm Equipment, he earned $8.64 an hour. That was 1976. Adjusted for inflation, that's equivalent to $42.42 today. No wonder the man's reluctant to flip burgers or trim hedges for $9 an hour.
His friends have suggested selling his house and moving somewhere smaller and cheaper, maybe renting for a while, but that's the last thing he wants. It’s that self-respect again. He's already sold off one motorcycle and various musical instruments, and he and Terri now skip the big vacations that were part of their past life. Which isn't to say that Rembold currently lives like a monk. He still has the big screen in the basement, the DVD collection, the video-game systems for when the grandkids visit, a life's worth of possessions from decades of earning good money. "Why should you have to give up your home?" he wanted to know. "It's so unbelievable to me that I don't even want to think about it. I'm in denial."
A Lost Generation?
What's to be done for people like Rick Rembold? As in most economic debates, the answer to this question divides economists and policymakers. On the left are those who lobby for more aid to jobless Americans, including another extension of unemployment insurance beyond the present cut-off date of 99 weeks. (In normal times, laid-off workers once got 26 weeks of unemployment insurance.) Some Democrats in the Senate had hoped to extend unemployment insurance by another 20 weeks up to 119 weeks, an effort spearheaded by Senator Debbie Stabenow (D-Mich.) that ultimately failed last week in the face of Republican opposition. That same camp supports a one-time “reemployment bonus,” a lump-sum payment that unemployed workers would receive to reward them for finding a new job and leaving the unemployment rolls.
Another idea gaining traction in policy circles is "wage insurance," in which the government would supplement the income of workers rehired at lower-paying jobs. Consider Rembold who, in his prime, earned $25 an hour. He says can't live on a $10-an-hour job, but if that were to become $12 or $15 an hour, thanks to a government subsidy, he'd be much more interested.
More conservative voices believe cutting jobless benefits -- a bitter pill, to be sure -- will force people back into the workforce. The Rembolds of America will then scramble harder and take those low-wage jobs faster. Of course, those who can't find work at all will be left adrift with no safety net. What's more, the cost of such cuts to taxpayers might actually prove higher, economists note, because without those benefits the jobless might instead apply for disability or other support programs and give up the search altogether.
Ideally, of course, employers and governments should avoid widespread layoffs altogether. One option sometimes suggested would be a "work-share" program. Imagine a factory of 100 workers with a boss looking to cut costs. Instead of laying off 25 workers, he would reduce all of his workers' hours by 25%. The government would then step in to fill the earnings gap. Think of it as the equivalent of collecting unemployment before you're laid off, a preventive measure to avoid the trauma -- to income, health, family -- of job loss.
None of this is likely to happen soon which is little consolation for the long-term unemployed like Rembold. Unfortunately, there are few proven solutions to their situation. Job retraining programs for unemployed workers are all the rage these days, touted by Education Secretary Arne Duncan, Treasury Secretary Tim Geithner, and President Obama as a transition to a new line of work. But a 2008 study commissioned by the Labor Department found minimal-to-no gains for 160,000 workers who went through retraining, concluding that the "ultimate gains from participation are small or nonexistent."
In the end, facing an economy that may never again generate in such quantity the sorts of "middle class" jobs Rembold was used to, what we may be seeing is the creation of a graying class of permanently unemployed (or underemployed) Americans, a genuine lost generation who will never recover from the recession of 2008. As Mike Konczal and Arjun Jayadev of the Roosevelt Institute, a left-leaning think tank, recently wrote, unemployed workers today are more likely to abandon the workforce than find work -- something never before seen in four decades' worth of labor data. "These workers need targeted intervention," they concluded, "before they become completely lost to the normal labor market."
"All I Need Is One Chance"
I first noticed Rembold’s tic on Sunday, my last day in Indiana. Out of nowhere, without provocation, he'd suddenly say things like "Man, I just need a job," or "All I need is a chance," or "I wanna work, make stuff with my hands." He’d been filling the lulls in our conversations with these little outbursts, symptoms, I assumed, of the worry and anxiety that never left his side. Which is why I called a few weeks after my visit, hoping for good news.
And there was, after a fashion. Angie, his daughter, had ended up sticking with Check$mart, much to his relief. But for him, the leads were sparser than ever. "There's this neighbor here,” he said, “her son's a shift manager at the Walmart, so he's gonna see what they might have." He also mentioned an electronic wire and cable manufacturer with openings in Bremen, a half-hour south. He'd recently applied there for the third time this year. This time around, he went on, he planned to march in and demand the interview he’d never gotten. "I mean, what's it take to get in to see someone there?" he asked me.
Rembold doesn't have time on his side. Unlike the now-famous "99ers," the folks who received nearly two years' worth of unemployment benefits, his will expire sometime this winter, short of the 99-week mark. He's not sure what he'll do by then if he can't find work. Maybe take one of those $8-an-hour jobs after all. For now, though, he's just checking the job boards each morning, shipping off resumes and cover letters, firing up the Suzuki, chasing leads.
I asked if he still had any hope left that something good would happen. "I don't know," he replied. " 'Course if ya don't go, ya don't know."
US Must Maintain Confidence in Dollar: Volcker
The United States must preserve confidence in the dollar even as it looks at ways to combat the sluggish economy, Paul Volcker, a special economics adviser to U.S. President Barack Obama, said Wednesday. The former Federal Reserve chairman said it is difficult to find any sector of the U.S. economy that has any "spark," and authorities should be examining what fiscal and monetary tools they have available.
"The challenge now is we have intervened, it becomes more and more difficult in the future, the monetary policy ... the fiscal policy. We sure have to maintain some confidence in the dollar or none of this would work," Volcker, who is chairman of the President's Economic Recovery Advisory Board, told a business audience in Toronto. "Some people would say there's no possibility of a further stimulus program, but the risk is of course that would make things worse and you're going get a reaction that's unmanageable."
The dollar on Wednesday tumbled to a 15-year low against the yen and an eight-month trough against the euro on expectations the Federal Reserve will further ease monetary policy to jump-start the economy. Volcker declined to comment on whether Fed Chairman Ben Bernanke should ease monetary policy further, though he said it is the kind of debate Fed officials ought to be having.
The Fed has kept interest rates near zero since December 2008 and pumped $1.7 trillion into the financial system through purchases of longer-term Treasury securities and mortgage-related debt. Most analysts expect the U.S. central bank will launch a renewed round of bond buying, or quantitative easing, as soon as its next policy meeting on Nov. 2-3. Volcker painted a bleak outlook for the U.S. economy, saying it was hard to find any kind of development that promises to produce a lot of expansionary momentum "in coming months, in coming quarters, even in coming years."
"It's very unlike an ordinary recession. This has not been an ordinary recession. This is an important shift in economic affairs around the world and it's going to take some time to get over it," he said. "We all face a problem of prolonged unemployment in the developed world." Still, Volcker said that over time the United States must reduce consumption relative to production as a percentage of its economy and bring down its current account deficit.
Known for slaying inflation in the 1980s by hiking interest rates well into the double digits, Volcker said the rise of the price of gold to a record high was partly due to inflation fears, but he noted that inflation fears were not being reflected in bond markets. "The markets for bonds and inflation-protected bonds don't show that at all. There is a lot of concern about possibly returning to inflation," he said. "I think it's reflected in the gold price."
Gold on Wednesday rose to a record high for a second straight day. "I can't fully explain this dichotomy," Volcker said, "but I think part of it is the gold market after all is not a very big market."
The Sovereign Debt Problem
by George Soros - Columbia Lecture
As you know I have written several books which serve to explain the crash of 2008. Two years have elapsed since then - it is time to bring the story up to date. That is what I propose to do today.
The theory I shall use is the same as in my previous books, so I shall not repeat it here. The main points to remember are, first, that rational human beings do not base their decisions on reality but on their understanding of reality and the two are never the same - although the extent of the divergence does vary from person to person and from time to time - and it is the variance that matters. This is the principle of fallibility. Second, the participants' misconceptions, as expressed in market prices, affect the so-called fundamentals which market prices are supposed to reflect. This is the principle of reflexivity. The two of them together assure that both market participants and regulators have to make their decisions in conditions of uncertainty. This is the human uncertainty principle. It implies that outcomes are unlikely to correspond to expectations and markets are unable to assure the optimum allocation of resources. These implications are in direct contradiction to the theory of rational expectations and the efficient market hypothesis.
The extent and degree of uncertainty is itself uncertain and variable. Conditions may range from near-equilibrium to far from equilibrium. Again, it is the variance that matters. In practice markets have a tendency to move towards one of these extremes rather than to hover near a historical or theoretical midpoint between them. In evolutionary systems theory these extremes are called "strange attractors". My contention is that financial markets tend towards these strange attractors, not to equilibrium. So much for theory. Now for the actual course of events.
In the crash of 2008 the uncertainties reached such an extreme that the markets actually collapsed. But that was a short lived phenomenon. The authorities intervened and managed to keep the markets functioning by putting them on artificial life support. In retrospect, the momentary collapse may seem like a bad dream, but it was real enough and two years later we still suffer from its consequences.
Let me explain why.
When a car is skidding you have to turn the wheel in the direction of the skid to prevent the car from crashing. Only when you have regained control can you correct the direction of the car. That is how the financial authorities had to deal with the crash. The underlying cause of the crash was the excessive use of credit and leverage. To prevent a catastrophe they had to avoid a sharp contraction of credit. The only way to do it was to replace the private credit that lost credibility with the credit of the state which still commanded respect. Only after financial markets resumed functioning could they hope to reverse course and reduce the outstanding credit and leverage. This meant that they had to do in the short term the exact opposite of what would be needed in the long term.
The first phase of this delicate maneuver has now been successfully completed. Financial markets are functioning more or less normally with toxic credit instruments replaced or guaranteed by sovereign credit. But the second phase is running into difficulties. Before the economy has recovered and unemployment has fallen, the credibility of sovereign credit has come into question. If governments are now forced to pursue fiscal discipline and tighten monetary and fiscal policy too soon there is a danger that the recovery will stall. That is because the imbalances that have accumulated over a quarter of a century have not yet been corrected. The US still consumes too much and China is still running an unsustainable export surplus vis-Ã -vis the US. A similar imbalance prevails within the eurozone, with Germany in the surplus position. In addition, the housing and commercial real estate bubbles in the US have not yet been fully deflated and in the eurozone the banks have not yet been properly recapitalized. The deleveraging of the private sector is underway, but it is far from complete. In the US it applies to banks, corporations and households alike. In Europe it is heavily concentrated in the banking sector.
Because the global imbalances which were at the root of the financial crisis still remain to be corrected, the question arises: How much government debt is too much? That is one of the central questions confronting policymakers today.
The discussion is eerily reminiscent of the 1930s. Then the fiscal conservatives led by Andrew Mellon and Irving Fisher were confronted by rebels led by John Maynard Keynes. Now, the division of opinion is more along national lines. The center of fiscal conservatism is Germany, while those who have rediscovered Keynes are located mainly in the United States.
The clash of views has led to a drama which is unfolding differently in different parts of the world. The remarkable unanimity that prevailed in the first phase of the crisis and culminated in the one trillion dollar rescue package that was put together for the London meeting of the G20 in April 2009 has dissipated and political and ideological differences have arisen. Misconceptions are rampant. They complicate matters enormously because it would require global cooperation to correct the global imbalances.
I shall briefly review how the credibility of sovereign credit came to be questioned in various parts of the world and then I shall address the question - how much debt is too much?
Doubts concerning sovereign credit first reached a crisis point in Europe and they revolved around the euro. But what appeared to be a currency crisis was in reality more a banking crisis and a clash of economic philosophies.
The euro was an incomplete currency to start with. The Maastricht Treaty established a monetary union without a political union. The euro boasted a common central bank but it lacked a common treasury.
So even though member countries share a common currency, when it comes to sovereign credit they are on their own. Unfortunately, this fact was obscured until recently by the willingness of the European Central Bank to accept the sovereign debt of all member countries on equal terms at its discount window. This allowed the member countries to borrow at practically the same interest rate as Germany and the banks were happy to earn a few extra pennies on supposedly risk-free assets by loading up their balance sheets with the government debt of the weaker countries. For instance, European banks hold more than a trillion euro's of Spanish debt of which more than half is held by German and French banks. The large positions came to endanger the creditworthiness of the European banking system, depriving them of the capacity to add to their positions.
Although it was the inability of the banks to continue accumulating the government debt of the heavily indebted countries that precipitated the crisis, but it was the introduction of the euro and ECB's willingness to refinance sovereign debt that got the banks weighed down with these large positions in the first place. It led to a radical narrowing of interest rate differentials and that, in turn, generated real estate bubbles in countries like Spain, Greece, and Ireland. Instead of the convergence prescribed by the Maastricht Treaty, these countries grew faster and developed trade deficits within the eurozone, while Germany reigned in its labor costs, became more competitive and developed a chronic trade surplus. The discount facility of the ECB allowed the deficit countries to continue borrowing at practically the same rates as Germany, relieving them of any pressure to correct their excesses. So the introduction of the euro was indirectly responsible for the development of internal imbalances within the eurozone.
The first clear reminder that the euro lacked a common treasury came after the bankruptcy of Lehman Brothers. The finance ministers of the European Union promised that no other financial institution whose failure could endanger the system would be allowed to default. But Angela Merkel opposed a joint Europe-wide guarantee; each country had to take care of its own banks.
At first, the financial markets were so impressed by the guarantee that they hardly noticed the difference. Capital fled from the countries which were not in a position to offer similar guarantees pushing the countries of Eastern Europe, notably Hungary and the Baltic States into difficulties. But interest rate differentials within the eurozone remained minimal.
It was only this year that financial markets started to worry about the accumulation of sovereign debt within the eurozone. Greece started the process when the newly elected government revealed that the previous government had lied and the deficit for 2009 was much larger than indicated.
Markets panicked and interest rate differentials widened dramatically. But the European authorities were slow to react because member countries held radically different views. Germany, which had been traumatized by two episodes of runaway inflation, was adamantly opposed to any bailout. France was more willing to show its solidarity. Since Germany was heading for elections, it was unwilling to act, and nothing could be done without Germany. So the Greek crisis festered and spread. When the authorities finally got their act together they had to offer a much larger rescue package than would have been necessary if they had acted earlier.
In the meantime, doubts about the creditworthyness of sovereign debt spread to the other deficit countries and, in order to reassure the markets, the authorities had to put together a â‚¬750 billion European Financial Stabilization Fund, â‚¬500 billion from the member states and â‚¬250 billion from the IMF. The turning point came when China re-entered the market and bought Spanish bonds and the euro.
So, under duress, the euro has begun to remedy its main shortcoming, the lack of a common treasury. The Stabilization Fund is very far from a unified fiscal policy, but it is a step in that direction. Member countries are now a little bit pregnant and they will be obliged to take additional steps if necessary. So the crisis has passed its high water mark and the euro is here to stay. But it is far too early to celebrate because the emerging common fiscal policy is dictated by Germany and Germany is wedded to a false doctrine of macro-economic stability which recognizes only the threat of inflation and ignores the possibility of deflation.
This misconception is incorporated in the constitution of the euro. When Germany agreed to substitute the euro for Deutschmark it insisted on strong safeguards to maintain the value of the currency. As a result, the ECB was given an asymmetric directive. Moreover, the Maastricht Treaty contains a clause that expressly prohibits bailouts and the ban has been reaffirmed by the German Constitutional Court. It is this clause that has made the crisis so difficult to deal with.
This brings me to the gravest defect in the euro's design; it does not allow for error. It expects member states to abide by the Maastricht criteria without establishing an adequate enforcement mechanism. And now, when practically all member countries are in violation of the Maastricht criteria, there is neither an adjustment mechanism nor an exit mechanism.
Now these countries are expected to return to the Maastricht criteria in short order. What is worse, Germany is not only insisting on strict fiscal discipline for the weaker countries but is also reducing its own fiscal deficit. When both creditor and debtor countries are reducing deficits at a time of high unemployment they set in motion a deflationary spiral in debtor countries.
Reductions in employment, tax receipts, and consumption reinforce each other and are not offset by exports, raising the prospect that deficit reduction targets will not be met and further reductions will be required. And even if budgetary targets were met, it is difficult to see how the weaker countries could regain their competitiveness vis-Ã -vis Germany and start growing again because, in the absence of exchange rate depreciation, they need to cut wages and prices, creating deflation. And deflation renders the burden of accumulated debt even heavier.
Deficit reduction by a creditor country such as Germany is in direct contradiction of the lessons learnt from the Great Depression of the 1930s. It is liable to push Europe into a period of prolonged stagnation or worse. That may, in turn, produce social unrest and, since the unpopular policies are imposed from the outside, turn public opinion against the European Union. So the euro, with its asymmetric directive, may endanger the social and political cohesion of Europe.
Unfortunately, Germany is unlikely to realize that it is following the wrong macroeconomic policy because that policy is actually working to its advantage. Germany is the shining star in the economic firmament. It dealt with the burden of reunification by reducing its labor costs becoming more competitive and developing a chronic trade surplus. And the euro-crisis brought about a decline in the value of the euro. This favored Germany against its main competitor, Japan. In the second quarter of 2010 the GDP jumped by 9% annualized.
Germany believes it is doing the right thing. It has no desire to impose its will on Europe; all it wants to do is to maintain its competitiveness and avoid becoming the deep pocket to the rest of Europe. But as the strongest and most creditworthy country it is in the driver's seat. As a result Germany objectively determines the financial and macroeconomic policies of the Eurozone without being subjectively aware of it. And the policies it is imposing on the eurozone are liable to send the eurozone into a deflationary spiral. But people in Germany are unlikely to recognize this because they are doing much better than the others and the difficulties of the others can be blamed on structural rigidities.
The German commitment to fiscal rectitude is also gaining the upper hand in the rest of the world. Angela Merkel went into the recent G20 meeting in the minority and - with the help of the host country, Canada, and the newly elected Conservative British Prime Minister, David Cameron - came out as the winner. Prior to the meeting President Obama publicly appealed to Chancellor Angela Merkel to change her ways, but at the meeting the US yielded to the majority and agreed that budget deficits should be cut in half by 2013. This may be the right policy but it comes at the wrong time.
The policies of the Obama administration are dictated not by financial necessity but by political considerations. The US is not under the same pressure from the bond markets as the heavily indebted states of Europe. European debtor countries have to pay hefty premiums over the price at which Germany can borrow. By contrast, interest rates on US government bonds have been falling and are near record lows. This means that financial markets anticipate deflation not inflation.
The pressure is entirely political. The public is deeply troubled by the accumulation of public debt. The Republican opposition has succeeded in blaming the Crash of 2008 and the subsequent recession and persistent high unemployment on the ineptitude of government and in claiming that the stimulus package was largely wasted.
There is an element of truth in this narrative but it is far too one sided. The Crash of 2008 was primarily a market failure and the fault of the regulators was that they failed to regulate. Without a bailout the financial system would have stayed paralyzed and the subsequent recession would have been much deeper and longer. It is true that the stimulus was largely wasted but that was because most of it went to sustain consumption and did not correct the underlying imbalances. As I explained earlier, the government was obliged to do in the short run the exact opposite of what is needed in the long run. Now consumption still needs to fall as a percentage of the GDP and fiscal and monetary stimulus are still needed to keep the GDP from falling and to prevent a deflationary spiral.
Where the Obama administration did go wrong, in my opinion, was in the way it bailed out the banking system: it helped the banks earn their way out of a hole by supplying them with cheap money and relieving them of some of their bad assets. But this was an entirely political decision; on a strictly economic calculation it would have been more effective to inject new equity into the balance sheets of the banks. But the Obama administration considered that politically unacceptable because it would amounted to nationalizing the banks and it would have been called socialism.
That political decision backfired and caused a serious political backlash. The public saw the banks earning bumper profits and paying large bonuses while they were badly squeezed by their credit card charges jumping from 8% to nearly 30%. That was the source of the resentment that the Tea Party exploited so successfully. In addition, the administration had deployed the so-called "confidence multiplier" to restore confidence and that turned to disappointment when unemployment failed to fall.
The Administration is now on the defensive. The Republicans are campaigning against any further stimulus and they seem to be winning the argument. The administration feels that it has to pay lip service to fiscal rectitude even if it recognizes that the timing may be premature.
I disagree. I believe there is a strong case for further stimulus. Admittedly, consumption cannot be sustained indefinitely by running up the national debt. The imbalance between consumption and investment needs to be corrected. But to cut back on government spending at a time of large-scale unemployment would ignore all the lessons learned from the Great Depression.
The obvious solution is to draw a distinction in the budget between investments and current consumption and increase the former while reducing the latter. But that seems unattainable in the current political environment. A large majority of the population is convinced that the government is incapable of efficiently managing an investment program aimed at improving the physical and human infrastructure. Again, this belief is not without justification: a quarter of a century of agitation calling the government bad has resulted in bad government. But the argument that stimulus spending is inevitably wasted is patently false: the New Deal produced the Tennessee Valley Authority and the Triborough Bridge.
It is the Obama administration that has failed to make a convincing case. There are times like the present when we cannot count on the private sector to employ the available resources. The Obama administration has in fact been very friendly to business. Corporations operate very profitably, but instead of investing their profits, they are building up their liquidity. Perhaps a Republican victory will give them more confidence; but in its absence investment and employment needs to be stimulated by the government. I do not believe that monetary policy can be successfully substituted for fiscal policy. Quantitative easing is more likely to stimulate corporations to devour each other than to create employment. We shall soon find out.
This brings us to the question I raised earlier. How much room does the government have for fiscal stimulus? How much public debt is too much? This is not the only unresolved question but it is at the center of political debate and the debate is riddled with misconceptions. That is because the question does not have a hard and fast answer. In saying this I am not being evasive; on the contrary, I am making an important assertion. The tolerance for public debt is highly dependent on the participants' perceptions and misconceptions. In other words it is reflexive.
There are a number of variables involved. To start with, the debt burden is not an absolute amount but a ratio between the debt and the GDP. The higher the GDP the smaller the burden represented by a given amount of debt. The other important variable is the interest rate: the higher the interest rate the heavier the debt burden. In this context the risk premium attached to the interest rate is particularly important: once it starts rising, the prevailing rate of deficit financing becomes unsustainable and needs to be reigned in. Exactly where the tipping point is located remains uncertain because it is dependent on prevailing attitudes.
Take the case of Japan: its debt ratio is approaching 200%, one of the highest in the world. Yet ten year bonds yield little more than 1%. Admittedly, Japan used to have a high savings rate but it has an ageing and shrinking population and its current savings rate is about the same as the US. The big difference is that Japan has a trade surplus and the US a deficit. But that is not such a big difference as long as China does not allow its currency to appreciate because that policy obliges China to finance the deficit one way or another.
The real reason why Japanese interest rates are so low is that the private sector - individuals, banks and corporations - have little appetite for investing abroad and prefer ten year government bonds at a 1% to cash at zero percent. With the price level falling and the population aging, the real return on such instruments is considered attractive by the Japanese. As long as US banks can borrow at near zero and buy government bonds without having to commit equity and the dollar is not allowed to depreciate against the renminbi, interest rates on US government bonds may well be heading in the same direction.
That is not to say that it would be sound policy for the US to maintain interest rates at zero and preserve the current imbalances by issuing government debt indefinitely. Once the economy starts growing again interest rates will rise and if the accumulated debt is too big it may rise precipitously, choking off the recovery. But premature fiscal tightening may choke off the recovery prematurely.
The right policy is to reduce the imbalances as fast as possible while keeping the increase in the debt burden to a minimum. This can be done in a number of ways but cutting the budget deficit in half by 2013 while the economy operating far below capacity is not one of them. Investing in infrastructure and education makes more sense. So does engineering a moderate rate of inflation by depreciating the dollar against the renminbi. What stands in the way are misconceptions about budget deficits exploited for partisan and ideological purposes. There is a real danger that the premature pursuit of fiscal rectitude may wreck the recovery.
Clean and Open American Elections
by Editorial - New York Times
For at least 44 years, it has been illegal for foreign corporations, countries and individuals to make political contributions in the United States for any election, either directly or indirectly. It is even against the law to solicit such contributions. But in this Wild West year of political money, that longstanding ban is being set aside. The United States Chamber of Commerce — one of the biggest advertisers in midterm races around the country — is actively soliciting foreign money, and government enforcers seem to be doing nothing to stop it.
According to a report issued Tuesday by the Center for American Progress, a liberal policy group in Washington, the chamber is getting “dues” payments of tens of thousands of dollars from foreign companies in countries such as Bahrain, India and Egypt, and then mingling the money with its fund to advocate for or against candidates in the midterm races. The chamber firmly denies the charge, saying its internal accounting rules prevent any foreign money from being used for political purposes. Money, however, is fungible, and it is impossible for an outsider to know whether the group is following its rules.
The chamber has vowed to spend more than $75 million before the November election, and it has already run 8,000 ads, most of which support Republican candidates. The ads do not urge a vote for or against a specific candidate, but when they accuse Senator Barbara Boxer of California of “destroying jobs,” or call Richard Blumenthal of Connecticut “the worst attorney general in the nation,” no one can mistake the intent. (The two candidates, both Democrats, are in tight Senate races.)
Because the United States Chamber is organized as a 501(c)(6) business league under the federal tax code, it does not have to disclose its donors, so the full extent of foreign influence on its political agenda is unknown. But Tuesday’s report sheds light on how it raises money abroad. Its affiliate in Abu Dhabi, for example, the American Chamber of Commerce, says it has more than 450 corporate and individual members in the United Arab Emirates who pay as much as $8,500 a year to join.
Because of a series of court decisions that culminated in the Supreme Court’s Citizens United ruling earlier this year, these and similar 501(c) nonprofits have become huge players in the year’s election, using unlimited money from donors who have no fear of disclosure. (Not surprisingly, the chamber has been a leading opponent of legislation to require disclosure.) One such group, American Crossroads, organized by Karl Rove, announced on Tuesday a $4.2 million ad buy to support Republican candidates, bringing the group’s total spending to about $18 million so far.
The possible commingling of secret foreign money into these groups raises fresh questions about whether they are violating both the letter and spirit of the campaign finance laws. The Federal Election Commission, which has been rendered toothless by its Republican members, should be investigating possible outright violations of the Federal Election Campaign Act by foreign companies and the chamber.
The Internal Revenue Service, which is supposed to ensure that these nonprofit groups are not primarily political, has fallen down on the job. Last week, Senator Max Baucus, Democrat of Montana and chairman of the Senate Finance Committee, demanded that the I.R.S. look into whether the tax code was being misused for political purposes, and, on Tuesday, two watchdog groups made the same request of the agency. The government needs to make sure that the tax code — and American control of American elections — is not being violated.
Gulf oil spill: White House blocked and put spin on scientists' warnings
by Suzanne Goldenberg - Guardian
The White House blocked government scientists from warning the American public of the potential environmental disaster caused by BP's broken well in the Gulf of Mexico, a report released by the national commission investigating the oil spill said yesterday.
The report, produced by a panel appointed by Barack Obama to investigate the spill, said that about two weeks after the BP rig exploded scientists from the National Oceanic and Atmospheric Administration (NOAA) asked the White House for permission to release their models showing their worst case scenarios for the spill. The White House office of management and budget, which is a traditional clearing house for decisions, turned down the request, the report said, quoting interviews with administration officials.
The report, one of four released today by the commission, provides the most compelling evidence to date of direct attempts by the White House to spin the BP oil spill disaster. The White House disputed the commission's findings. "Senior government officials were clear with the public what the worst-case flow rate could be," the acting director of the OMB, Jeffrey Zients and the NOAA adminstrator, Jane Lubchenco, said in a statement. The commission report does not explore why the White House sought to block the worst-case scenarios for the spill.
The report amplifies scathing criticism last week by the commission's co-chairs, Bob Graham and William Reilly, of the Obama administration's handling of the disaster. It goes on to catalogue other lapses by the administration, including repeated underestimates of the size of the spill, and downplaying the environmental damage after the BP well was capped.
The report found particular fault with the White House energy adviser, Carol Browner, who appeared on television on 4 August and said: "The vast majority of oil was gone." It said Browner was overstating the findings of a NOAA analysis of the fate of the oil. "By initially underestimating the amount of oil flow and then, at the end of the summer, appearing to underestimate the amount of oil remaining in the Gulf, the federal government created the impression that it was either not fully competent to handle the spill or not fully candid with the American people about the scope of the problem," the report said.
The documents for the first time put the White House at the centre of the long running dispute between the administration and independent scientists about how much oil was discharged into the Gulf, and how much remains in the water. At first, BP claimed the well was leaking 1,000 barrels a day. By early May, the administration had revised its estimate upwards to 5,000 barrels a day, but based its assessment on the work of a single NOAA scientist using "overly casual" analysis of satellite images of oil on the surface of the ocean.
The administration clung to that estimate – which turned out to be 12 times lower than the actual spill size – despite known inaccuracies in the scientists' work, the report said. It went on: "Loss of the public trust during a disaster is not an incidental public relations problem."