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Ilargi: The signs of the times are not favorable. The Dow closed under 12,000 for the week, in its longest slump since 2002, TIME Magazine runs a cover article entitled "What Recovery?", nearly half of Americans say the U.S. is nearing a Great Depression, Robert Shiller states he can easily see US home prices drop another 25%, added to the 33% his Case/Shiller index says they have already fallen, and SocGen's Albert Edwards writes: [..] we have entered a long valuation bear market which should end in extreme levels of cheapness consistent with an S&P around 400.
And in the face of all this, the US dollar does what is has to do: rise. None of this is new or unexpected for us, or for our readers.
We’ll get back to these timely signs, and many more, on Monday. Today, we have the latest installment in Ashvin Pandurangi's series on where gold is going. We understand that it's not everyone's cup of tea, that Ashvin's theoretical and intellectual approach may scare some people away. But looking at the latest developments in finance, we also do think that the difficult discussion about precious metals gains in importance. Where many voices proclaim that falling equity prices will lead ever more investors into gold, we keep asking ourselves (and you): which investors, and what money will they have left to buy all that gold with?
Debt deflation and deleveraging is set to wipe out a lot of wealth, especially the kind that has never been anything but virtual wealth and has now deteriorated into zombie money. That sort of wealth can evaporate very quickly, and almost in its entirety, never to be seen again. And before you decide to put what you have left into any particular asset class at all, you might want to give that some serious thought.
In simple terms: if Shiller is right that home prices are on their way to a full 50% plunge from peak levels (and why would they stop there once that point is reached?), and if Edwards is even only half right, and the S&P drops to 800 instead of 400, the ensuing amount of wealth destruction on Main Street makes it very hard for the market to prop up the price of precious metals. Or homes. Or stocks. Or pretty much anything at all. There's a critical mass that threatens to be breached somewhere in there, and that doesn't bode well for any asset.
After writing Part III of this series, I received an excellent comment from a reader who enjoyed the articles and summarized many of the Marxian arguments that I had made in a much more accessible form. I understand that the academic structure and technical details of this series has not made it the very easy to digest, and it helps when readers are already familiar with the basic foundations of my argument, which was the case for this specific reader.
I am going to re-post a sizable portion of that insightful reader's comment here, as a means of re-encapsulating the somewhat dry theoretical arguments of Parts I, II and III (Dialectic Foundations, The Evolution of Value and The Final Realization) in a significantly more lay reader-friendly capsule with some clear examples. I will also add a bit of my own commentary within the bold brackets, but just a bit, because the comment is quite good on its own: [Chris Martenson's Forums - The Future of Physical Gold Thread]
"Great series of articles Ashvin!
I think you bring a fresh perspective to the Marx/Keen/Harvey axis in coupling these theories to the discussion of gold. I had posted something congruent with these ideas on the ever popular subject of alternate currencies in another thread. You’re quite right, at the center is the struggle between labor and big business [the material dialectic of Part I], which I define as multi-nationals.
This struggle sets up a natural and quite healthy tension between the two opposing forces. When this healthy tension is displaced [it inevitably must be displaced over time], to either direction of bias [labor vs. capital], bad things happen. The convergence over the last three decades of the neo-liberal agenda, and the capture of the mainstream media by conservative business interests has resulted in the disruption of this tension away from the side of labor.
Propelled by the momentum of the burgeoning success in minimizing organized labor, business and conservative interests teamed together to usher in an ongoing era of deregulation and complimentary legislative climate that promoted favorable tax incentives for big business. These incentives were leveraged to follow with near perfect parallelism along with Marx’s prediction of capital heading to markets with unlimited low cost labor surplus [although Marx may not have envisioned the extent and longevity of economic "globalization"].
It is an irony lost on many that the perfect climate for capitalism's magnum opus was to be under the color of a totalitarian Communist regime- embodied by mainland China [under it's "false flag" of Marxism, so to speak]. This diffuse and disjointed labor base was confronted with several classical Marxist predictions, a profound loss of collective bargaining power as the threat of job outsourcing to China and Mexico stymied any meaningful protests for re-organization.
This resulted in lower wages for those lucky enough to retain jobs, and Marx’s predictions about consolidation of capital are demonstrated in the aggregation of “big box” stores [i.e. Wal-Mart] designed to lower the sustenance costs for low and middle class labor, furthering enriching the capitalist class- as predicted chapter and verse. With the cratering of the credit market [due to endogenous instability as described by Hyman Minsky and Dr. Keen - Part III), the emperor can be seen to have no clothes, and here is where it gets real interesting.
With a collapsed income, the vast majority of Americans can no longer afford the products of consumerism that capital has morphed into [the final "realization problem" - Part III], having exhausted by sheer competitive overhang the more productive and meaningful products and services, the average capitalist is now presiding over a string of yogurt parlors and useless iPod apps, analogous to unwashed children selling Chiclets gum at the Mexico border crossing.
The bourgeoisie has simply engorged itself so completely and so effectively on the middle and lower class, there is no money left for the poor fools to purchase the trinkets and trivia that the bourgeoisie needs to maintain their lifestyle, in effect tuning their gated estates into miniature Easter Islands, replete with carved stone masks and bad artwork. So this leaves us with another problem, what do the wealthy do with all the money?
It used to be a budding capitalist could re-invest and maintain an income stream though investment, real estate purchases, or entering the rentier class to sustain cash flow, all the while ignoring, contrary to free market mythology, risky entrepreneurial ventures and instead focusing precious man-hours on reducing tax liability and preservation of capital strategies... There are not simply enough attractive investment opportunities to go around, a face the music moment in a system that requires perpetual compound growth to function.
Capital abides no limits. It must expand its markets to prevent the destruction of demand. It must seek larger and larger labor markets, with lower and lower labor costs, as the coercive laws of competition wreak their havoc [continuous re-investment/realization of surplus value and debt issuance/rollover in markets]. Capital consolidates, aggregating smaller, less powerful firms unable to achieve the international reach necessary to grow into offshore markets, purchased for pennies on the dollar as the multi-nationals observe and track strangling mid-level businesses with a predator’s gaze as they asphyxiate on a contracting domestic market - leaving consumers with even fewer choices."
Ashvin Pandurangi: Thank you for a very poignant summary, Darbikrash, with an even more poignant ending. Indeed, capital "cannot abide a limit" and so it will transform the limit into a barrier that must be temporarily overcome (by repressing labor's share of wealth/power, as depicted in the above graphs). It creates increasingly larger and stronger barriers in the process, though, since the old ones never really disappear. It is now, at this unique point in time, forced to face these insurmountable barriers and witness the inefficacy of kicking the proverbial can, as it nears the end of a shadowy and winding road in history.
With that systematic foundation established, we can discuss what this internal predicament of capitalism implies for the future roles and values of physical gold in human society. Towards the end of Part III, it was stated that a global system of Freegold was very unlikely to ever take hold. The Freegold system is essentially a modified global financial system with fiat currencies floating against the reserve asset of physical gold, which trades independently of the credit system and solely as a "store of value" for savers, rather than a medium of exchange.
Freegold's argument for gold as a limitless "store of value" in the capitalist system is based on the "marginal utility theory of value", which was discussed and debunked in Part II - The Evolution of Value. Practically, an objective approach to complex economic evolution means that Freegold is unlikely to occur because the concentration and centralization of capital is a process that irreversibly undermines economic growth in the financial capitalist system, and it cannot simply be overcome through a process of either "easy money printing" or re-capitalization with "hard money".
Central banks can monetize all of the assets they want, both debt-based and "debt-free" (gold), but that does absolutely nothing to alleviate systemic issues of severe wealth inequality, insufficient demand and structural unemployment. Even the relatively short-lived trends towards increasing wages in China has already started to threaten the growth of its productive economy, as explained in this recent article from MarketWatch:
"How much should China worry? Actually, the worrying is already over for some enterprises: They’ve closed shop.
An executive in the city of Jiaxing at Zhejiang Youbang Integrated Ceiling Co. said his firm is among the 90% of more than 500 local integrated-ceiling enterprises that have managed to survive since wages started climbing last year. Others, though, have not.
“Since last year, there have been reports of enterprises collapsing, one after another,” the executive said. “About 10% went out of business.”[China's Factories Face Big, Labor-Driven Challenges]
Ashvin Pandurangi: Of course, much of that pressure on productive factories stems from the ongoing collapse of financial capitalism, and the pressure generated from labor and input costs is merely a pronounced effect at this stage of the system's evolution, as there are very few places left for it to expand to and exploit. The following example helps reveal the broader inadequacy of gold-based re-capitalization in the context of a specific gold revaluation process that was outlined by FOFOA, a popular Freegold advocate. He has suggested that Congress should force the U.S. Treasury (UST) to revalue their physical gold holdings to the market value (MTM), which has recently trended upwards.
Once the revaluation is complete, he suggests that the UST monetize the additional value by pledging it as collateral to the Fed in return for printed dollars. That actually sounds like a great thing to do in the ideal, and a much better idea than continuing the issuance of Treasury bonds to be monetized by the Fed, but it is practically useless and/or destructive when considering the systemic reality we are a part of in the global capitalist economy (this complex reality was discussed at length in Part I) (emphasis mine):
FOFOA: "That's right, it [the available value of the Treasury's gold] jumped again. From $336 billion in October, to $355 billion in January, to $370 billion in April. And guess what it is today. $390 billion! That's the amount of untapped equity the US Treasury has in its gold today. And that equity can be monetized without selling the gold, by the simple act of Congress ordering the revaluation of the gold.
...Again, I realize this doesn't solve any of the big problems, but it does buy some time... You can use it without selling it for gosh sake! And just like the old gold certificates, the new ones will NOT be redeemable by the Fed or any other banks in physical gold. They will simply be an accounting entry on the Fed balance sheet. In the future, that gold can be mobilized, if necessary, in defense of the US dollar. But only with the approval of Congress. The physical gold remains the property of the United States." [Open Letter to Ron Paul]
Ashvin Pandurangi: Assuming those calculations to be accurate (based on the UST reporting it owns 250+ million oz. of gold), there are still many flaws contained in the process. For starters, the monetization of any surplus generated from the MTM revaluation would give the Fed (private banks) a claim on the gold as collateral. It would be just like a "home equity loan" that is secured by the price appreciation of the property since it was purchased. Once that claim is established, it should be obvious that the gold is practically no longer "property of the United States" (the citizens) any more than the home would be (unless the asset value manages to offset principal and interest on liabilities forever).
Congress may technically have to give "approval" for the Fed to foreclose on our gold, but that would not be difficult to get, considering the fact that the politicians in Congress are realistically owned by major players in the financial industry, especially during these trying times. They are currently "foreclosing" on our retirement accounts as a means of avoiding a technical UST "default" , so why should we expect anything different for our gold? The MTM revaluation would indeed "buy some time", but that time would only be used by financiers to extract more wealth through the all-American pyramid scheme before it implodes.
Secondly, the revaluation would do very little to solve any of the fundamental systemic problems that Marx envisioned (as FOFOA implies), and therefore the ponzi scheme will still implode as expected. Most of the value monetized by the Treasury will not find its away to the productive economy or struggling debtors, and if, heaven forbid, the price of gold takes a large hit during a deflationary process, then the taxpayers will end up losing their gold too. Lastly, it is almost certain that this revaluation will not occur anyway, because it is simply not worth it for the financial elites, at least not anytime soon.
A gold revaluation doesn't provide nearly as much benefit to them as financing deficits via Treasury bonds and letting most other asset prices naturally decline to subsequently buy them for pennies on the dollar (including gold). The only "solution" to the problem of insufficient demand has become to keep the global ponzi system of capitalism running for as long as possible. Fiscal and monetary policies in influential regions (the West, Japan, China, Russia, Brazil, etc.) will not trend towards some gold-based equilibrium through revaluation and/or dollar HI, but will merely reflect the drawn-out deterioration in financial and productive markets over time.
There is a distinct possibility that the Federal Reserve, for example, holds off on further monetization of federal or agency debt for some time, allowing asset prices (equities, commodities, real estate) to collapse further before once again re-asserting itself directly into the Treasury market to help maintain low rates (it will most likely continuously provide this support indirectly via selling insurance on bonds). By "allow", what I really mean is that the Fed will not make its final "printing" stand against the natural forces of debt deflation for some significant period of time, which could be the result of both voluntary and involuntary forces.
It is starting to become quite clear that foreign investors (private and public institutions) are now very hesitant to hold U.S. Treasuries yielding 3% over 10 years, as public deficits continue to mount, speculative price inflation has raged and the domestic economy (housing/labor market) continues to rapidly weaken. A liquidity crisis, naturally resulting from debt deflation, would conveniently scare that capital back into the Treasury market and the dollar, as the system's elite are forced to sacrifice even the appearance of economic health to hold those markets together a bit longer.
[Bailing Out the Thimble With the Titanic]: "When global equity and commodity markets begin their downward cascade in response to the ongoing debt deflation and a temporary end to quantitative easing, margin calls will indeed be coming in fast enough to make your portfolio spin. The demand by institutional investors for a "safe haven" will emerge as quickly as the daylight descends into pitch black, and it will then become clear that the intent was never to bail out the Titanic with a thimble, but the other way around.
The bond markets of Japan and Europe simply can't make the grade, and, as referenced in Jumping the Treasury Shark, there really isn't enough gold to soak up all of that capital. Instead, the U.S. dollar and Treasury bond, because of their fundamental weakness, will be the refuge of choice and design, and this will also serve to aid the Fed's Mafioso protection scheme [selling Treasury "puts"] for controlling rates."
[Welcome to Slaughterhouse-Finance]: "Stoneleigh at The Automatic Earth has repeatedly pointed out that people in such fearful environments tend to discount the future by an increasing rate, which means they care less and less about what will happen several decades, years or even months from the present time. The discount situation of financial elites is similar because they know how precarious the dollar-based financial markets are, so their concern is over whether they can corral all of the lambs into one or two places over a relatively short time period. So far, most of the evidence says that not only is it possible, but the process is already well under way."
If this process of short-term (within the next 10 years) debt-dollar deflation is likely to occur within developed economies, then one should not be surprised to see both paper and physical gold holdings liquidated along with other investment assets as investors are forced to meet their margin requirements, and average workers are forced to pay their consumer debts, bills and expenses, all of which are denominated in fiat currencies (primarily the U.S. dollar). A gold price collapse in dollars could occur just as it did in 2008, since nothing has fundamentally changed in financial markets since then, except there is more debt and less ability of governments and central banks to intervene.
We could even see several large institutions, such as central banks and governments in Asia, Europe or Japan, flood the markets with (sell) a portion of their gold holdings to temporarily relieve pressure from their dire private and public funding situations. The sheer momentum of financial capitalism will lead them to conduct their "re-capitalization" efforts through established fiat currency and debt mechanisms, rather than through an ongoing revaluation/monetization of gold by central banks such as the ECB (as argued in FOFOA's Reference Point: Gold - Update #1 and Update #2).
Darbikrash provides us with another insightful observation of why such a MTM revaluation and monetization process is practically precluded by the "coercive laws of competition" in a capitalist system, through the example of "competing" currencies, with my emphasis in bold [Chris Martenson's Forums - John Rubino Thread]
Darbikrash: "Beyond these points, competing currencies violate one of the fundamental requirements, that of universality. Note we all currently have access to competing currencies, we can use dollars, yen, francs, German marks etc. if we are so disenfranchised with any particular flavor of fiat. But then we face the onerous task of currency conversion, due to lack of universality. We must convert one currency to another, and suffer devaluation risk as well as a arbitrage fee to operate between currencies.
The notion of free market forces attempting to migrate patrons to a common system based on perceived stability or any other inherent advantages is not practical and subject to the same coercive laws of competition that any other unregulated commodity will precede. This means regulation is needed, and we come full circle back to the eventuality of regulatory capture, centralization and consolidation, and ultimately fewer choices for the consumer and just another, slightly varied distribution of the same wealth."
Ashvin Pandurangi: At this stage in "free market" capitalism, it would be hardly worth it for the financial capitalists to switch to a system of currencies competing relative to the floating value of gold, because liquidity constraints in the productive economy would only be magnified by that transition. It would be perceived as a futile endeavor to generate effective demand in a system that has already pulled demand forward to its maximum threshold. The following is a very loose analogy I discussed with regards to the "choices" of capitalist elites operating in the debt-dollar system earlier this year:
[Jumping the Treasury Shark]: "The choice they face can be analogized to the choice faced by a middle-class entrepreneur with a relatively profitable business operation in his home country. Although the businessman may be getting anxious about the market for his products and his ability to continue generating revenues and profits, he is also very experienced at operating the company in its current environment, with his current clients and his traditional methods of conducting business.
...There is no guarantee that a smaller market in another community would even be able to accommodate the scale at which he is used to operating his business, or that new clients there would be able or willing to entertain his services. Ultimately, the physical, financial and psychological costs of such a dramatic switch do not appear to be worth the trouble for the businessman. He decides to simply continue running his local business and hoping or praying for the best possible outcome.
Are the major financial players, who hold trillions of their net worth in dollar-denominated debt-assets, any different from the hypothetical businessman above? Perhaps they have a degree of more flexibility in their decision-making process and significantly more resources to help them decide, but they are also slaves to tradition and the human tendency of sticking to what they know."
Even if we assume that the Freegold transition will be (or is being) initially attempted in some regions, then, as Darbikrash pointed out, the system will soon end up coercing economic actors (countries and large institutions) to re-adopt the "easy money" modes of accounting, exchanging and storing whatever limited value they have left. This coercion would be accomplished through both explicit regulations (capital controls, tax structures, etc.) as well as implicit incentives and the butterflies in the bellies of those who are initially hesitant to obey (i.e. the lingering threat of sanctions, asset confiscation or military force).
What this means in the debt deflationary phase of financial capitalism is that demand will spike for those "easy money" currencies which are still the primary means of settling debts and purchasing real goods and services, by natural design and by conscious regulation. What this implies for debt-dollar holders, then, is that they should not sell their dollars for physical gold when they reasonably expect that cash will be needed to satisfy daily/monthly expenses, such as principal and interest on debt. In addition, a smaller excess portion of savings should be held in dollars for more favorable entry points into various hard assets over the next few years, including physical gold.
The substantial monetization of debt-assets (MBS and Treasuries), however, will also fail to alleviate fundamental economic instabilities, and its continuation will only make them worse at a later time by helping to destroy the currency-based savings of people who have become thoroughly dependent on the debt-dollar system and were placed far away from the money spigot (less time to trade devalued currency for hard assets). That is why the global capitalist economy is in a classic "predicament", because neither severe deflation nor hyperinflation will "cure" the problem of insufficient aggregate demand anytime soon.
The ponzi process of creating additional credit-based claims on wealth to support the previous ones and "manage" a debt deflation will not be sustainable in the medium to long-term (my best estimate is 10-20 years). A self-reinforcing debt deflationary spiral will eventually grind economic activity to a halt somewhere within that range of time (most likely on the shorter end), and leave much of the global population under-employed, unemployed and/or struggling to survive. Local, state and federal tax revenues will dry up and governments at every scale and in most regions will be forced to borrow, print and spend more to maintain a semblance of social and political control.
That is when we can expect the real HI "tipping point" to arrive, as hyper-deflation has naturally set up a complete loss of confidence in the economic and political structures of global society, which will invariably include the global reserve currency. By that time, the destruction of the dollar will simply be the equivalent of blowing out the candles on a moldy cake that nobody dares to look at anymore, let alone eat. It will be a ceremonial burial of the deceased; the act of laying limp corpses to rest after bloody battles have already been waged for years and years on end.
The only legitimate question to ask, then, is when will HI of major fiat currencies happen and what does it imply for the value of gold in specific locations. Although this article was meant to be the final part of my series on the future of physical gold, I have decided to write an additional fifth part for the sake of constraining length and increasing clarity. Part V will delve into more detail about the prospects of HI in various regions and its implication for the roles and values of physical gold. We will discuss the fact that the "periphery" of a complex and dynamic system tends to completely give out before the center does.
Until then, we should remember that upcoming years will be characterized by debt-dollar deflation, and therefore the dollar price of gold will most likely face significant downward pressure for some time. That does not mean physical gold, however, should not be purchased as either inflation insurance or a long-term monetary store of value right now. Both of those functions are best served by physical gold (and silver to a somewhat lesser extent), and the percentage of excess currency wealth that one should devote to physical gold is entirely dependent on the individual's circumstances (amount of excess wealth, levels of debt, recurring expenses, extent of physical preparations, etc.).
Some people will find that they cannot reasonably afford to purchase any gold, while others will find that they are well-prepared for deflation, both financially and physically (control over the "essentials of your own existence"), and now is a great time to allocate some excess wealth towards precious metals. Still others may even find that they happen to live in a specific location where gold and/or silver could soon potentially thrive as an informal means of exchange. As debt-assets and confidence deflate, the unifying structures of economic, social and political coordination will seize up, and the subtle cracks between local environments will be magnified into canyons and caves.
Don't Hold Your Breath
by Rana Foroohar - TIME Magazine
Double dip is not a term that a government keen to extricate itself from the economic-crisis-management business likes to hear. A couple of weeks ago, the Obama Administration was poised to switch to growth mode. Then the ugly data started pouring in like the overflowing Mississippi.
First-quarter GDP numbers showed a measly 1.8% increase, well short of the expectations of above 3%, and second-quarter estimates are not much better. Then came a report on housing-price declines that have not been seen since the Great Depression, followed by reports of consumer spending at six-month lows and weak manufacturing surveys. The worst was unemployment figures to make you cry: a mere 54,000 jobs were created in May, less than half of what was expected and less than a third of what is needed to lower a 9.1% unemployment rate.
You can hardly blame Council of Economic Advisers head Austan Goolsbee for picking this moment to retreat to his tenured university post in Chicago. The professor tried to put a good face on things, brushing away worries of a double dip and citing stiff but temporary "headwinds" from such factors as the Japanese-nucleardisaster-related supply shocks and higher gas prices. Fed Chairman Ben Bernanke was somewhat more sober, admitting that the recovery was proving to be "uneven" and "frustratingly slow." Yet he gave no hint of being willing to helicopter in a third round of fiscal stimulus — at least not yet. "Monetary policy," he said, "cannot be a panacea." Or as Goolsbee put it, it's time for the private sector to "stand up and lead the recovery."
If only. There may be $2 trillion sitting on the balance sheets of American corporations globally, but firms show no signs of wanting to spend it in order to hire workers at home, however much Washington might hope they will. Meanwhile, the average American is feeling poorer by the week. "If one looks at unemployment and housing, it's clear that for all practical purposes, we have yet to fully get out of recession," says Harvard economist Ken Rogoff, summing up what everyone who doesn't live inside the Beltway Bubble is thinking.
While the White House's official 2011 growth estimate, locked in before Japan and the oil shock, is still 3.1%, most economic seers are betting on 2.6%. That's not nearly enough to propel us out of an unemployment crisis that threatens to create a lost generation of workers who can't find good jobs and may never find them. Welcome to the 2% economy.
While the Administration is taking a sort of "move along, nothing to see here" approach, Republicans are trying to pin every economic problem on Obama in the run-up to the 2012 election. Let's be clear: the slow growth the U.S. is experiencing is not an Obama-specific problem. Many of the ingredients in it were already baked into the economy and were simply laid bare by the financial crisis. According to research by Rogoff and economist Carmen Reinhart, it takes four years after a financial crisis just to get back to the same per capita GDP level you started with, and there's no doubt things would have been dramatically worse had the Administration not taken all the action it did in the wake of the crisis.
But at the same time, the growth problem is Obama's. Every President inherits his predecessor's economy; indeed, it's often what gets him the job. It's then up to the new guy to change the numbers as well as the debate. Now it looks as if Obama is losing that debate. The Republicans have pulled off a major (some would say cynical) miracle by convincing the majority of Americans that the way to jump-start the economy is to slash taxes on the wealthy and on cash-hoarding corporations while cutting benefits for millions of Americans.
It's fun-house math that can't work; we'll need both tax increases and sensible entitlement cuts to get back on track. Yet surveys show 50% of Americans think that not raising the debt ceiling is a good idea - that you can somehow starve your way to economic growth.
No wonder the rest of the world is so worried about our future. Sadly, other regions won't be able to help us out, as happened in 2008. Europe is in the middle of its own debt crisis. And emerging markets like China, which helped sustain American companies by buying everything from our heavy machinery to our luxury goods during the recession, are now slamming on the growth brakes. Why? They're worried about inflation, which is partly a result of the Fed's policy of increasing the money supply, known as quantitative easing.
Much of that money ended up in stock markets, enriching the upper quarter of the population while the majority has been digging coins out from under couch cushions. Investor money also chased oil prices way up (which hurts the poor most of all) and created bubbles in emerging economies. Now these things are coming back to bite us.
All this sounds complicated, and it is. But it's important to understand that our economy has changed over the past several decades in important and profound ways that politicians at both ends of the spectrum still don't get. There are half a billion middleclass people living abroad who can do our jobs. At the same time, technology has allowed companies to weather the recession almost entirely through job cuts. While Democrats may be downplaying the bad news, Republicans, obsessed with the sideshow that is the debt-ceiling debate, haven't offered a more cohesive explanation for the problems or any real solutions. Rather, both sides continue to push myths about what's happening and how the economy will — or won't — recover. Here are five of the most destructive myths and why we need to figure out a different path to growth.
Myth No. 1: This is a temporary blip, and then it's full steam ahead
True, only 12.2% of economists surveyed in the past few days by the Philadelphia Fed believe that the current backsliding will develop into a double-dip recession (though that percentage is up significantly from the start of the year). Avoiding a double dip is not the same as creating growth that's strong enough to revive the job market. In fact, there's an unfortunate snowball effect with growth and employment when they are weak.
It used to take roughly six months for the U.S. to get back to a normal employment picture after a recession; the McKinsey Global Institute estimates it will take five years this time around. That lingering unemployment cuts GDP growth by reducing consumer demand, which in turn makes it harder to create jobs. We would need to create 187,000 jobs a month, growing at a rate of 3.3%, to get to a healthy 5% unemployment rate by 2020. At the current rate of growth and job creation, we would maybe get halfway there by that time.
Myth No. 2: We can buy our way out of all this
While a third round of stimulus shouldn't be off the table in an emergency (Obama has already indicated it's a possibility if things get much worse), the risk-reward ratio isn't good. For starters, our creditors — the largest of which is China — would squawk about the debt implications of doling out more money, not to mention the risk of creating hot-money bubbles in their economies.
That's almost beside the point, though, because the stimulus — which has taken the form of Fed purchases of T-bills designed to reduce long-term interest rates and make homeowner refinancing easier — isn't much help if homeowners don't have jobs that allow them to make any payments at all. Although foreclosures are declining, the supply of foreclosed homes for sale is undermining the real estate market, which is dampening consumer spending and sentiment. "It's time to move beyond financial Band-Aids," says Mohamed El-Erian, CEO of Pimco, the world's largest bond trader. "It's clear that the stimulus-induced recovery hasn't overcome the structural challenges to large-scale job creation."
Myth No. 3: The private sector will make it all better
There is a fundamental disconnect between the fortunes of American companies, which are doing quite well, and American workers, most of whom are earning a lower hourly wage now than they did during the recession. The thing is, companies make plenty of money; they just don't spend it on workers here.
Half of Americans say they couldn't come up with $2,000 in 30 days without selling some of their possessions. Meanwhile, companies are flush: American firms generated $1.68 trillion in profit in the last quarter of 2010 alone. But many firms would think twice before putting their next factory or R&D center in the U.S. when they could put it in Brazil, China or India. These emerging-market nations are churning out 70 million new middle-class workers and consumers every year. That's one reason unemployment is high and wages are constrained here at home. This was true well before the recession and even before Obama arrived in office. From 2000 to 2007, the U.S. saw its weakest period of job creation since the Great Depression.
Nobel laureate Michael Spence, author of The Next Convergence, has looked at which American companies created jobs at home from 1990 to 2008, a period of extreme globalization. The results are startling. The companies that did business in global markets, including manufacturers, banks, exporters, energy firms and financial services, contributed almost nothing to overall American job growth. The firms that did contribute were those operating mostly in the U.S. market, immune to global competition — health care companies, government agencies, retailers and hotels.
Sadly, jobs in these sectors are lower paid and lower skilled than those that were outsourced. "When I first looked at the data, I was kind of stunned," says Spence, who now advocates a German-style industrial policy to keep jobs in some high-value sectors at home. Clearly, it's a myth that businesses are simply waiting for more economic and regulatory "certainty" to invest back home.
Myth No. 4: We'll pack up and move for new jobs
The myth of mobility — that if you build jobs, people will come — is no longer the case. In fact, many people can't move, in part because they are underwater on their homes but also because the much heralded American labor mobility was declining even before this whole mess began. In the 1980s, about 1 out of 5 workers moved every year; now only 1 of 10 does. That's due in part to the rise of the two-career family — it's no longer an easy and obvious decision to move for Dad's job. This is a trend that will only grow stronger now that women are earning more advanced degrees and grabbing jobs in the fastest-growing fields.
A bigger issue is that the available skills in the labor pool don't line up well with the available jobs. Case in point: there are 3 million job openings today. "There's a tremendous mismatch in the jobs market right now," says McKinsey partner James Manyika, co-author of a new study titled An Economy That Works: Job Creation and America's Future. "It runs across skill set, gender, class and geography." A labor market bifurcated by gender, skill set and geography means that unemployed autoworkers in Michigan can't sell their underwater homes and retool as machinists in North Dakota, where homes are cheaper and the unemployment rate is under 5%.
Myth No. 5: Entrepreneurs are the foundation of the economy
Entrepreneurship is still one of America's great strengths, right? Wrong.
Rates of new-business creation have been contracting since the 1980s. Funny enough, that's just when the financial sector began to get a lot bigger. The two trends are not disconnected. A study by the Kauffman Foundation found an inverse correlation between the two. The explanation could be tied to the fact that the financial sector has sucked up so much talent that might have otherwise done something useful in Silicon Valley or in other entrepreneurial hubs. The credit crunch has exacerbated the problem. Lending is still constrained, and the old methods of self-funding a business — maxing out credit cards or taking a home-equity loan — are no longer as viable.
So where does it all leave us? With an economy that still needs a major shake-up. There are short-term and long-term solutions. Job No. 1 is to fix the housing market. While the government is understandably reluctant to get deeper into the loan business, it's clear that private markets aren't able to work through the pile of foreclosures quickly enough for house prices to stabilize. If the numbers don't improve in the next month or so, it might be time for the government to step in and either take on more failing loans (a TARP for homeowners as opposed to investment banks?) or pass rules that would allow more homeowners to negotiate better terms with lenders.
And let's not forget the youth-unemployment crisis. There's now a generation of young workers who are in danger of being permanently sidetracked in the labor markets and disconnected from society. Research shows that the long-term unemployed tend to be depressed, suffer greater health problems and even have shorter life expectancy.
The youth unemployment rate is now 24%, compared with the overall rate of 9.1%. If and when these young people return to work, they'll earn 20% less over the next 15 to 20 years than peers who were employed. That increases the wealth divide that is one of the root causes of growing political populism in our country. While Republicans have pushed back against spending on broad government-sponsored work programs and retraining, it would behoove the Administration to keep pushing for a short-term summer-work program to target the most at-risk groups.
But these are stopgaps. The real solutions, of course, are neither quick nor easy — making them especially challenging for Congress. It's a cliché that better education is the path to a more competitive society, but it's not just about churning out more engineers than the Chinese. The U.S. will also need a lot more welders and administrative assistants with sharper communication skills. There's an argument for a good system of technical colleges, which would in turn require a frank conversation about the fact that not everyone can or should shell out money for a four-year liberal-arts degree that may leave them overleveraged and underemployed.
The other major issue is bridging the divide between the fortunes of companies and the fortunes of workers. Democrats and Republicans argue about whether and how to get American corporations to repatriate money so it can be taxed, and again they are missing the point. For starters, it's hard to imagine that crafty corporate lawyers won't find ways around any new rules. (That in itself is an argument for tax simplification that would reduce the loopholes that allow the 400 richest Americans to pay 18% income tax.) The bottom line is that we have to find ways to make the U.S. a more attractive destination for investment.
One way to do that is by considering a third-rail term: industrial policy. It's a concept that needs to be rebranded, because Democrats and Republicans alike shudder at being associated with something so "anti-American." In fact, good industrial policy can be a useful economic nudge. It's not about creating a command-and-control economy like China's but about the private and public sectors coming together at every level, as in Germany, to decide how best to keep jobs at home.
The lesson of Germany is a good one. Back in 2000, the Germans were facing an economic rebalancing not unlike what the U.S. is experiencing. East and West Germany had unified, creating a huge wealth gap and high unemployment at a time when German jobs were moving to central Europe. The country didn't try to explain away the problem in quarterly blips but rather stared it directly in the face. CEOs sat down with labor leaders as partners; union reps sit on management boards in Germany. The government offered firms temporary subsidies to forestall outsourcing. Corporate leaders worked with educators to churn out a labor force with the right skills. It worked. Today Germany has not only higher levels of growth but also lower levels of unemployment than it did prerecession.
In our politically polarized society, such cooperation may seem impossible. But Germany after the fall of the Berlin Wall was perhaps far more polarized. It is worth remembering that economic change tends to happen only during crises. We've survived the banking crisis. How we deal with the longer-range crisis — the crisis of growth and unemployment — will define our economic future for not just the next few quarters but the next few decades.
Economy at tipping point, double-dip risk: Shiller
by Leah Schnurr - Reuters
Recent housing and employment data suggests the U.S. economy is at a tipping point where a double-dip recession is possible and home prices could have much further to fall, a veteran economist said on Thursday.
Robert Shiller said the recent uptick in unemployment is not yet enough of a sign as to which way the recovery is heading. But if unemployment continues to rise in the coming months, it could suggest another recession. "Whether we call it a double-dip or not, I think there is a risk," Shiller told Reuters Insider in an interview.
Likewise, data showing U.S. home prices fell into a double dip in March could prove to be either a seasonal effect over the winter months or part of a downward trend. "My gut feeling is we might see a continuation of the decline" in home prices, Shiller said earlier on Thursday at a Standard & Poor's housing summit. He added that a 10 percent to 25 percent slump in real home prices "wouldn't surprise me at all," though he cautioned that was not a forecast.
Shiller pointed to the glut of unsold homes on the market and the large amount of homeowners under water on their mortgages as pressuring prices. As for when home prices might bottom, Shiller told Insider that was unclear and it was possible prices could slide for 20 years. "We've seen five years of decline already since the peak in 2006 and I don't see evidence that we're coming out of it," he said.
Shiller, known for warning about bubbles in the stock market and housing market, is also the co-founder of the S&P/Case-Shiller home price index. Last week the index showed single-family home prices in March slumped to lows not seen since March 2003, falling below the previous crisis-era bottom set in April 2009. That report, along with other data, including grim jobs figures and a slowdown in manufacturing, suggested that the economic soft patch seen in the first quarter of the year could be more protracted.
Home prices had been supported last spring by a tax credit, but the housing market has struggled since the credit expired. Sources told Reuters earlier this week that the Obama administration has grown increasingly frustrated with the country's struggling housing sector and is exploring ways to keep it from weakening further.
Nearly Half Of America Says U.S. Nearing Great Depression: CNN Poll
by James Sunshine - Huffington Post
Some economists might be worried about a double-dip recession, but a large number of Americans have an even worse scenario in mind. Approximately 48 percent of Americans say they think that a Great Depression is either very or somewhat likely to occur within the year, according to a CNN Opinion Research Poll, the highest percentage of respondents that have stated that level of certainty since CNN first started asking the question in October 2008.
Respondents' fear that they would soon become unemployed also spiked to an all-time high of 30 percent. That stands in contrast another post-recession low: the 18 percent that said they either recently became unemployed or are related to someone who recently became unemployed. The seeming contradiction might be explained by the average length of unemployment now hitting an all-time high, as The New York Times recently reported.
That Americans seem apprehensive about their economic futures should not be surprising considering the recently lackluster job creation. Last month, the private sector created only 54,000 net jobs while public sector employment actually saw a net decrease in jobs, according to the Bureau of Labor Statistics. Housing prices have also continued to fall, reaching new lows during 2011's first quarter according to Standard & Poor's/Case-Shiller Index.
Confidence in the future is essential for economic growth, says economist Thomas Boston. "If you are concerned about job security, you are not likely to make the purchase, no matter how low interest rates might be," Boston wrote in the online publication Black Enterprise. "The same logic holds for business owners deciding whether to undertake a new investment." The high percentage of Americans that say they believe that there will be an economic depression should raise alarm bells in and of itself, says CNN polling director Keating Holling. "That's not just economic pessimism," Holling told CNN, reflecting on the polling results, "that's economic fatalism."
China ratings house says US defaulting
A Chinese ratings house has accused the United States of defaulting on its massive debt, state media said Friday, a day after Beijing urged Washington to put its fiscal house in order. "In our opinion, the United States has already been defaulting," Guan Jianzhong, president of Dagong Global Credit Rating Co. Ltd., the only Chinese agency that gives sovereign ratings, was quoted by the Global Times saying. Washington had already defaulted on its loans by allowing the dollar to weaken against other currencies -- eroding the wealth of creditors including China, Guan said.
The US government will run out of room to spend more on August 2 unless Congress bumps up the borrowing limit beyond $14.29 trillion -- but Republicans are refusing to support such a move until a deficit cutting deal is reached. Ratings agency Fitch on Wednesday joined Moody's and Standard & Poor's to warn the United States could lose its first-class credit rating if it fails to raise its debt ceiling to avoid defaulting on loans.
A downgrade could sharply raise US borrowing costs, worsening the country's already dire fiscal position, and send shock waves through the financial world, which has long considered US debt a benchmark among safe-haven investments. China is by far the top holder of US debt and has in the past raised worries that the massive US stimulus effort launched to revive the economy would lead to mushrooming debt that erodes the value of the dollar and its Treasury holdings.
Beijing cut its holdings of US Treasury securities for the fifth month in a row to $1.145 trillion in March, down $9.2 billion from February and 2.6 percent less than October's peak of $1.175 trillion, US data showed last month. Foreign ministry spokesman Hong Lei on Thursday urged the United States to adopt "effective measures to improve its fiscal situation".
Dagong has made a name for itself by hitting out at its three Western rivals, saying they caused the financial crisis by failing to properly disclose risk. The Chinese agency, which is trying to build an international profile, has given the United States and several other nations lower marks than they received from the the big three
Time to take a chainsaw to spending
America is the largest debtor nation in the history of the world. As the country goes deeper into the hole, how worried should we be? Congressmen shouldn't be worried about our credit rating, says Quantum Fund's Jim Rogers. America is already bankrupt, he says, and the only solution is to cut spending dramatically by "taking a chainsaw" to the budget. Unless something is done quickly, says Rogers, a disaster is imminent.
U.S. debt to exceed size of economy this year
by Jeanne Sahadi - CNNMoney
What a difference a year -- and a big tax cut -- makes.
A recent Treasury report noted that national debt will exceed the size of the economy this year -- a first since World War II. A year ago, the Treasury had estimated that notorious record wouldn't be hit until 2014. Now the expectation is that total debt to GDP will top 102 percet this year, up from the earlier estimate of 96.4 percent.
Why the change? Two factors are likely the biggest cause.
First, the White House's 2011 GDP estimate is $219 billion lower today than it was a year ago. So debt as percentage of a lower number will always look higher.
Second, the debt grew larger because of a tax cut deal brokered by President Obama and Republicans last December. That deal will add an estimated $858 billion to the deficits over a decade -- $410 billion of it in 2011 alone, according to the Congressional Budget Office.
The tax cut package extended all the 2001 and 2003 tax cuts for another two years, enacted a one-year Social Security tax holiday and reduced the estate tax. Democrats and Republicans disagree on a lot, but both sides have indicated a desire to make the 2001 and 2003 tax cuts permanent for at least the majority of Americans -- a costly proposition.
And the GOP publicly says it will not consider tax increases as part of any deal to raise the debt ceiling. Republican Dave Camp, the lead tax writer in the House, said Monday that the latest Treasury numbers are a clear indication "why any increase in the debt limit must be paired with significant spending reductions and real entitlement reforms."
But while Republicans criticize Obama for spending too much, in fact tax cuts would drive most of the debt under Obama's 2012 budget proposal, according to CBO.
That's why deficit hawks on the left and the right advocate letting the tax cuts expire or paying for any further extension. Better yet, replace them with something superior, said Maya MacGuineas, president of the Committee for a Responsible Federal Budget, who noted that this month marks the 10-year anniversary of the 2001 cuts. "Given that our current tax code is so crummy and our fiscal situation so dire, on this 10-year anniversary, a perfect gift would be a plan to reform the tax code and bring down our debt," MacGuineas said.
At this point, the debt is so big, whether it is just below or just above GDP isn't really a huge distinction.
After examining data from dozens of countries over two centuries, economists Ken Rogoff and Carmen Reinhart found that when a nation's gross debt reaches 90 percent of its economy, it often loses about one percentage point of growth a year.
In Spain and Ireland, Private Borrowing Led to Public Debt
by Floyd Norris - New York Times
Five years ago, a survey of the euro zone would have shown two star countries. They were growing rapidly and running government budget surpluses. Their national debts were low. Other countries sought to emulate their success.
The outstanding countries were Spain and Ireland.
Today, of course, the picture is far different. The two countries’ national economies are shrinking, not growing. Ireland has received a bailout from Europe, and while Spain can still borrow money, it is forced to pay at least two percentage points a year more than Germany, a spread the Spanish government says it cannot afford to pay indefinitely.
click to enlarge in new window
At the time the two economies appeared to be impressive, there was one indication that could have provided a warning. Each country’s private sector was borrowing heavily overseas. Those loans were fueling rapid economic growth that, in turn, produced rising tax collections, allowing national governments to run budget surpluses.
In principle, there is nothing wrong with debt-financed growth. What matters is whether the borrowed money is going to create productive enterprises and purchase valuable assets that will generate future profits to repay the debt.
But in bubbles, that is not likely to happen. In Ireland and Spain, as in the United States, property booms led to overinvestment in housing, and to plunging property prices when the bubble burst. What was important was that during the boom years, the financial systems of many countries completely failed to channel money into productive investments.
Bad capital allocation was not the only way for a country to get into trouble, of course. The stories of Greece and Portugal are different.
Spain, fortunately, had relatively good regulation of its major banks, which has helped to limit the damage. But local banks have been hurt badly. In Ireland, virtually the entire banking sector collapsed, and was bailed out by a government that could not afford the cost. The accompanying charts show the relative standing of the five largest economies in the euro zone — Germany, France, Italy, Spain and the Netherlands — and the three smaller countries that have sought bailouts.
The charts show the annual rate of economic growth over the years 2005 and 2006, as well as the average budget surplus or deficit during those years and the level of national debt, relative to gross domestic product, at the end of 2006. For comparison, similar charts show the same indicators for the years 2009 and 2010.
The fourth chart is an estimate of the amount either lent to or invested in the private sector, as a percentage of G.D.P. The figures are based on the logic that the current account, which includes international trade and other noninvestment-related transfers of funds, must balance with the capital account, which includes both investments and proceeds from previous investments. Whatever part of the capital account is not accounted for by the government budget deficit presumably is due to private sector activity.
One of the lessons of the financial crisis and its aftermath is that excessive private sector debt ended up being converted to public sector debt, through bailouts of financial institutions, through government spending to help sectors of the economy devastated by the collapse of a speculative bubble and through the loss of tax revenue from the failing companies and newly unemployed citizens.
U.S. panic over potential debt default well-founded
by Neil Reynolds - Globe and Mail
The U.S. government maintains hundreds of trust funds, all designed to set aside and protect tax revenues collected for dedicated purposes. In practice, though, the government spends these revenues indiscriminately and deposits equivalent IOUs in the trust funds as debt.
Impeccably, the Treasury (as required by law) pays interest on this debt – even paying one day’s interest when trust-fund money is collected one day and spent the next. The Treasury finances the interest payments by borrowing from itself. As a result, the Social Security trust fund contains IOUs for $2.6-trillion (U.S.). The civil service pension fund contains IOUs for $798-billion. The Medicare trust fund contains IOUs for $160-billion. The nuclear wastes trust fund contains IOUs for $47.8-billion. And so on, ad absurdum.
These trust funds contain the debt that the U.S. government owes to itself, as distinct from the "public debt" that it owes to others – individuals, companies and foreign governments. At the end of 2010, the government owed $4.6-trillion to itself, $9.3-trillion to the public, for a grand total of $13.9-trillion (since increased, January through May, to a grander total of $14.3-trillion). This is an increase of $3.7-trillion in the first 2? years of the Barack Obama presidency.
The trust-fund debt is informative. With few exceptions (such as nuclear waste disposal), it tracks spending on entitlement programs: old-age pensions, civil service pensions, health care for people over 65, and so on. The 20 biggest trust funds hold 98 per cent of the IOUs. Trust-fund debt does not track spending on more controversial purposes as war, an expense commonly associated – to a large degree justifiably – with the debt increases incurred by George W. Bush in his eight-year presidency.
The fact of the matter is that government spending – public debt and trust-fund debt combined – stood at 65.2 per cent of GDP at the end of the Bush presidency, precisely the same level as 1996, mid-way through Bill Clinton’s presidency. In the same period, U.S. public debt (including the cost of two wars) fell to 36.5 per cent of GDP from 47.4 per cent – even as U.S. entitlement debt increased to 28.7 per cent of GDP from 18.3 per cent. U.S. public debt (again including Mr. Bush’s war debt) rose in this period to $5-trillion from $3.7-trillion, an increase of $1.3-trillion. U.S. entitlement debt increased to $3.9-trillion from $1.4-trillion, a jump of $2.5-trillion.
The U.S. government is progressively more vulnerable, in other words, to entitlement debt than to general-expenditure debt – and all the more so because trust-fund debt, for the most part, is exempt from the infamous "debt ceiling" that Mr. Obama wants urgently to lift. The government supposedly needs to borrow another $2-trillion to get through the presidential elections in November, 2012.
In a report issued in May, the Congressional Research Service noted that trust-fund debt is harder to manage than public debt. As opposed to the government’s public debt, trust-fund debt cannot be bought and sold on the open market, can’t be off-loaded onto other people. The government assumes 100 per cent of the risk. The government can redeem this debt only by buying back the accumulated IOUs – either by spending less or by taxing more.
From the White House comes strident warnings these days of an impending catastrophe: a default on the national debt. Congress must raise the debt ceiling, now at $14.9-trillion, by $2-trillion before Aug. 2 – or else. Congress has dutifully increased debt ceilings many times since 1917, when the practice began, and now dutifully does so once a year (and, occasionally, twice a year). For many years, the House of Representatives invoked the infamous "Gephardt rule" – which automatically "deemed" the ceiling lifted whenever necessary and without any recorded votes. The Republicans repealed the Gephardt rule earlier this year; hence the panic.
When he took office, Mr. Obama inherited a national debt of $10.6-trillion. He will end his term with a national debt, give or take, of $17-trillion – a debt equal to 115 per cent of GDP (now $14.7-trillion). By way of comparison, Canada’s debt (provincial debt included) equals 65 per cent of GDP – almost precisely the ratio that Mr. Bush passed along, wars and all, to Mr. Obama.
Household Real Estate assets off $6.6 trillion from peak
by Bill McBride - Calculated Risk
The Federal Reserve released the Q1 2011 Flow of Funds report this morning: Flow of Funds.
The Fed estimated that the value of household real estate fell $339 billion in Q1 to $16.1 trillion in Q1 2011, from just under $16.5 trillion in Q4 2010. The value of household real estate has fallen $6.6 trillion from the peak - and is still falling in 2011.
Household net worth peaked at $65.8 trillion in Q2 2007. Net worth fell to $49.4 trillion in Q1 2009 (a loss of over $16 trillion), and net worth was at $58.1 trillion in Q1 2011 (up $8.7 trillion from the trough).
Click on graph for larger image in graph gallery.
This is the Households and Nonprofit net worth as a percent of GDP.
This includes real estate and financial assets (stocks, bonds, pension reserves, deposits, etc) net of liabilities (mostly mortgages). Note that this does NOT include public debt obligations.
Note that this ratio was relatively stable for almost 50 years, and then we saw the stock market and housing bubbles.
This graph shows homeowner percent equity since 1952.
Household percent equity (as measured by the Fed) collapsed when house prices fell sharply in 2007 and 2008.
In Q1 2011, household percent equity (of household real estate) declined to 38.1% as the value of real estate assets fell by $339 billion.
Note: something less than one-third of households have no mortgage debt. So the approximately 50+ million households with mortgages have far less than 38.1% equity - and 10.9 million households have negative equity.
The third graph shows household real estate assets and mortgage debt as a percent of GDP.
Mortgage debt declined by $85 billion in Q1. Mortgage debt has now declined by $634 billion from the peak. Studies suggest most of the decline in debt has been because of defaults, but some of the decline is from homeowners paying down debt (sometimes so they can refinance at better rates).
Assets prices, as a percent of GDP, have fallen significantly and are only slightly above historical levels. However household mortgage debt, as a percent of GDP, is still historically very high, suggesting more deleveraging ahead for households.
Investor Jim Grant Says ECB ‘Factually Insolvent’
by Anjali Cordeiro - Wall Street Journal
With Greece confronting a possible restructuring of its bonds, the European Central Bank‘s holdings of those securities put it at grave risk, prominent Wall Street investment guru Jim Grant said Wednesday. By Grant’s reckoning, the ECB’s purchases of bonds issued by debt-laden peripheral countries in the euro zone and its "discount window" lending liquidity in return for the collateral of such bonds has left it "factually insolvent."
"The looming threat in European monetary affairs is the financial integrity of the central bank itself," said Grant, who is the editor of Interest Rate Observer. He spoke during a freewheeling discussion with Jim O’Neill, chairman of Goldman Sachs Asset Management, at the offices of Dow Jones Newswires and The Wall Street Journal.
The ECB’s exact exposure through discount-window lending seems to be some multiple of its paid-in capital, Grant said. In the case of Greece, the central bank has leveraged assets to "evident capital" of 150 or so to one, he calculated. And part of that capital is revalued property and land, Grant said.
O’Neill, meanwhile, called for more aggressive moves by Europe’s political leaders to resolve Greece’s debt problems. "There is a lot of kicking-the-can going on all over the place," O’Neill said. O’Neill is well-known for coining the acronym BRIC to describe the big emerging markets of Brazil, Russia, India and China.
In the overall context of the European Union, Greek debt is tiny, O’Neill said. But it "won’t remain a tiny issue unless Germany stands up and is a lot bolder about this thing they wanted to create in the first place," he said, referring to the creation of the euro zone. Without some stronger decision-making, not only will it become inevitable that Greece’s debt will need to be restructured, he said, but the debt problems will spread.
ECB's Stark: Avoiding credit event hard with debt deal
The ECB is not strictly against private sector involvement in a Greek deal but its demand that it does not trigger a 'credit event' looks increasing unlikely to be possible, policymaker Juergen Stark said on Friday.
"The ECB is neither demander on this instrument or against the involvement of the private sector, but the conditions have to be clear, the involvement has to be purely voluntary and neither take in a credit event nor a selective default, or in other terms room to create a rating event," Stark told reporters on the sidelines of annual ECB watchers conference.
His comments came a day after ECB President Jean-Claude Trichet stiffened the ECB's stance on a Greek restructuring. Stark said feedback from rating agencies over the last two weeks had changed the situation. "It is not very likely that a substantial involvement of the private sector will be totally voluntary," he said. In a separate interview with Reuters Insider television Stark said it there was a very high probability that the ECB would hike interest rates next month to 1.5 percent.
The bank signalled the move on Thursday. ECB staff upped inflation and growth forecasts the same day, although 2012 inflation projections were not as high as some economist had been expecting. Stark cautioned against seeing the numbers as a sign that the bank was softening its position on the need to hike rates.
"Please consider the underlying assumptions of these projections," he said. The fact the staff see a decline in inflation...the underlying assumption is higher short term interest rates." "It is also the assumption that there are no second round effects." "These are important to underlying assumptions that led our staff in this exercise to come to this conclusion."
The ECB also left limit-free lending in place for another three months on Thursday. Stark said the bank was still looking to phase out its support measures but added the euro zone debt crisis had complicated matters. "This (phasing out) is still under discussion, the situation is more complex than it was one year ago because of the sovereign debt crisis," he said, adding the bank was still working on a way of handling banks that are overly dependent on its funding. He did not put a deadline on when the ECB would announce the plan.
Greek Debt Swap: Private Creditors Could Agree to €35 Billion Rollover
by Der Spiegel
In the end, banks and other creditors may be forced to take part in the next bailout of Greece. SPIEGEL sources say a plan is taking shape that could see private creditors conduct voluntary rollovers extending the terms of Greek bonds and creating up to 35 billion euros in relief.
Calls for private creditors to bear some of the costs in the Greek debt crisis appear to be taking on more concrete form in Brussels this week. SPIEGEL has learned from sources with close knowledge of the situation that European Union finance ministers are considering a plan in which private creditors possessing Greek state bonds would be asked to cover €20 to €35 billion of the costs.
The model currently being discussed is a so-called rollover, which would see private creditors exchanging their existing outstanding debts from Greece with new securities with longer maturities. The move is being prompted by the increasingly disastrous financial situation in Greece. Speaking before parliament in Berlin on Friday, German Finance Minister Wolfgang Schäuble said that "participation of private creditors in cases of insolvency is indispensable." He also said he had set up a working group this week charged with "finding a good solution for the involvement of the private sector that has to be supported by the European Central Bank."
New Aid Needed
Under the current European Union and International Monetary Fund bailout program passed in 2010, Athens is supposed to return to the financial markets in order to raise fresh capital starting in 2012. Earlier this week, however, German Finance Minister Wolfgang Schäuble of Chancellor Angela Merkel's conservative Christian Democrats wrote in a letter to other EU officials that it is "more than unreasonable" to think Athens can return to capital markets within that timeframe. The country is saddled with a massive €350 billion in public debt and structural reforms are only creeping ahead. Now EU officials believe the country will need to be propped up with many more billions in aid than previously anticipated.
In Brussels, EU officials believe that Greece's funding squeeze has risen to an estimated €120 billion, according to Reuters. A new aid package is expected to be created comprising some €90 billion in EU-IMF bailout funds, including the participation of private investors. The remaining €30 billion is intended to come through the privatization of Greek government-owned assets. The decision over the second aid package may be considered as soon as the next summit of EU leaders on June 24.
However, the rollover proposal has divided some in the EU. For some time now, the German government has been pushing for the private sector to step up and contribute to the bailout. Schäuble has called for creditors to extend the payback terms of Greek state bonds by seven years.
Other countries are also endorsing the idea of a rollover. Sources close to euro group chief Jean-Claude Juncker, who is also Luxembourg's prime minister, said the governments of the Netherlands and Finland also want the private sector to cover part of the new bailout plan. Without private sector participation, the government in Berlin fears that it won't be able to secure the parliamentary majority necessary to approve any new bailout package for Greece.
A Light and Voluntary Debt Restructuring
However, both the European Central Bank and France are insisting that any rollover be conducted on a voluntary basis. They fear that any move to force private creditors to participate might lead ratings agencies to punish Greece with a "default" rating.
But the ratings agencies operate according to their own logic. A current statement by Standard & Poor's says that the agency would have no problem with a debt swap if it took place on a purely voluntary basis. If, however, default is possible -- as is the case in a country like Greece -- and a rating has already fallen, then "we may conclude that investors have been pressured into accepting because they fear more-adverse consequences were they to decline the exchange offer."
In other words, investors would only agree to a swap because they fear the issuer would fail to meet its original obligations. Thus, the rescue operation could actually be interpreted by the agencies as a prediction of insolvency. If that were to happen, Greece would be considered insolvent in the eyes of the financial markets and would be unable to raise money through private investors for some time to come.
Now, however, a compromise appears to be taking shape. It appears that the German government would be willing to agree to the voluntary participation of the private sector with the condition that as much of the sector come on board as possible. "It is possible to organize the participation of private creditors on a voluntary basis," Belgian Finance Minister Didier Reynders said. "Then Germany would also be able to agree."
Greece Needs a New Bailout
by Stefan Schultz - Der Spiegel
The troika of the European Commission, European Central Bank and IMF has prepared a sobering report on Greece's efforts to combat a debt crisis. The document, which has been obtained by SPIEGEL ONLINE, concludes that Athens will not be able to return to capital markets in 2012 and a further massive bailout will be needed soon.
It may be just nine pages long, but the report by the European Commission, European Central Bank (ECB) and International Monetary Fund (IMF) packs a punch. According to the keenly awaited report, which has been obtained by SPIEGEL ONLINE, it is unlikely that Greece will be able to return to borrowing money on the capital markets in 2012 as previously foreseen -- meaning European taxpayers will probably have to prop up Greece with billions in payments for much longer than was originally planned.
The troika's prognosis is bleak. Although there is some evidence that "the rebalancing of the economy is ongoing and the quarter of deepest contraction (has) already been passed," the report warns that "a further contraction in real GDP is still expected in the second half of 2011." The real GDP growth rate for 2011 is now protected to be minus 3.8 percent, the authors conclude, adding that positive growth rates are not expected before 2012. Even then, they will only be "moderate."
The current negative outlook presents the troika with a major challenge. The IMF's statutes stipulate that the organization can only lend a country money if it is certain that the state will be able to meet its payment obligations for the next 12 months.
The new report has now made it clear that Greece is not in a position to guarantee that, meaning that the IMF cannot transfer any more money while there is still a chance of Greece defaulting within the coming 12 months. "Given the remoteness of Greece returning to funding markets in 2012, the adjustment program is now underfinanced. The next disbursement cannot take place before this underfinancing is resolved," the report concludes.
This in turn means that Europe will have to come up with a new rescue package. German Finance Minister Wolfgang Schäuble estimates that Greece will need €90 billion ($132 billion) to cover its funding needs between 2012 and 2014, according to government sources quoted by the news agency DPA on Wednesday evening. Luxembourg Prime Minister Jean-Claude Juncker, who is head of the Euro Group, has also mentioned the same figure. On Wednesday, following a telephone conference of euro-zone finance ministers, Juncker said that Athens' privatization plans should bring in €30 billion, covering one-third of the needed funds.
But a new bailout for Greece could be a tough sell for the euro-zone member states, which will have to get their national parliaments to approve a new package. The German government will find that especially difficult, given domestic resistance to providing Athens with more funds.
Fears of another Lehman
In May 2010, the European Union and the IMF put together a €110 billion rescue package for Greece. The original bailout plan foresaw Greece returning to capital markets in 2012. Until then, the so-called troika of the European Commission, ECB and IMF needs to transfer money to the highly indebted state at regular intervals. Without this support, Greece would effectively be bankrupt.
Presently, few investors are willing to lend the country money, and those who are would demand a staggeringly high interest rate of 15 percent. Investors consider the risks to be too great. Many experts believe that a Greek default could have horrendous consequences, with some even fearing it would cause the breakup of the euro zone and lead to turmoil in the financial markets. The fallout might even exceed the impact of the Lehman Brothers bankruptcy in 2008, which triggered the global financial crisis.
According to the troika report, it will be difficult for Athens to regain the necessary investor confidence that would allow it to borrow money on the capital markets. "The recession appears to be somewhat deeper and longer than initially projected," the report reads. The country's gross domestic product (GDP) shrunk by 4.5 percent in 2010, the authors write, more than had been assumed at the start of the rescue efforts.
The EU-IMF aid is paid out in tranches, with each new installment dependent on Athens meeting certain conditions in sorting out its finances. But reforms aimed at reducing the country's huge levels of public debt -- which currently stands at around €350 billion -- have stalled. Although the Greek government made a "strong start" in reducing its macroeconomic and fiscal imbalances, the implementation of necessary reforms has come to a "standstill" in recent quarters, the report reads. Greater efforts are needed to combat the country's rising public debt, the troika says, arguing that structural reforms that would underpin the economic recovery need to be stepped up.
In 2010, Greece's budget deficit was equivalent to 10.5 percent of GDP -- way over the 3 percent allowed under euro-zone rules. But Athens is struggling to reduce its debt burden, because tough austerity measures are hindering the economic growth that is necessary to generate tax revenues. "If no action was taken, the government deficit in 2011 would remain close to the 2010 level," the report reads.
Private Creditors Bailing Out
Meanwhile, the German government, which had said it would wait for the publication of the troika report before deciding how to proceed, has been trying to win support for a new rescue package for Greece. On Wednesday, Chancellor Angela Merkel and Finance Minister Schäuble argued in favor of a new bailout during a meeting with the parliamentary groups of the governing parties -- the conservative Christian Democratic Union, its Bavarian sister party the Christian Social Union and the business-friendly Free Democrats -- according to participants quoted by DPA. Merkel also expressed her support for Schäuble's initiative to involve private creditors in a new rescue package.
The only problem is that there are fewer and fewer private creditors to involve. Private institutions are selling off Greek government bonds on a large scale amid fear of a default or a so-called haircut. It is mainly public institutions such as Germany's state-owned regional banks and the European Central Bank who still hold Greek bonds.
According to a report in the German daily Die Welt, German insurance companies now only hold €2.8 billion in Greek debt, down from a total of €5.8 billion just a year ago. Similarly, German banks have sold off around a third of their Greek debt since May 2010, according to new Bundesbank figures quoted by the Financial Times Deutschland on Thursday. German banks only held around €10.3 billion in Greek bonds in January and February 2011, compared to €16 billion in April 2010.
Greek Plan to Shift Debt Was Radical, and Rejected
by Landon Thomas Jr. - New York Times
In March, just as it was becoming clear that Greece might have to ask Europe for more money to prop up its failing economy, Prime Minister George A. Papandreou seriously considered a radical plan intended to resolve his country’s debt crisis once and for all.
Under the proposal, Greece would transfer as much as 133 billion euros — or 40 percent of its government debt, equal to about $195 billion — to the European Central Bank, which would then pay off the obligation by issuing its own euro bond.
It would be a "restructuring without a haircut," in the view of the plan’s proponents, who enthusiastically described it to Mr. Papandreou in a series of secret meetings this year. The result, ideally, would be to ease the weight of the Greek debt on the economy, clearing the way for renewed growth while keeping the bankers and credit-rating agencies on board.
In many ways, the plan was a dreamy alternative to the grim calculus of Europe’s demands for more austerity from Greece in return for more loans. And Mr. Papandreou went so far as to ask a political ally and the plan’s two proponents, a British and a Greek economist, to lobby Europeans in its favor.
But according to economists who participated in the discussions, Greece’s finance minister, George Papaconstantinou, was opposed, arguing that Germany, to say nothing of the central bank, would never accept it. And while a number of economists contend that Europe will have to develop a plan to restructure Greece’s debt, the Greek government has shelved the notion for now as it moves toward another bailout to keep the country out of bankruptcy.
"It was a nice idea, but not defensible in current circumstances," said Daniel Gros, the head of the Center for European Policy Studies in Brussels, who took part in one of the meetings with the prime minister to discuss the plan’s merits. "If there is one person who cannot propose something like this, it is the Greek prime minister. It would have to be a German."
This week, Mr. Papandreou is struggling to persuade his increasingly disruptive party members that Greece must agree to another round of austerity measures to qualify for a second portion of loans from the European Union and the International Monetary Fund. Those measures include closing down public-sector enterprises, selling more assets and increasing tax revenue. The new package will be submitted to Greece’s Parliament on Thursday and a vote is expected before the end of the month.
Signs are growing, however, that the patience of the long-suffering Greek public is wearing thin. Mr. Papandreou’s approval ratings are below 30 percent and, as uncertainty builds, Greeks continue to take money out of the banking system.
Mr. Papandreou’s interest in a plan to transfer much of the country’s debt to the rest of Europe may well have been a passing fancy. And Mr. Papandreou’s chance of persuading Jean-Claude Trichet, the president of Europe’s central bank, to take on even more debt on top of the nearly 200 billion euros ($292 billion) it already is exposed to, was always going to be a long shot.
"The prime minister is in favor of the proposal," said Vasso Papandreou, a former top financial adviser to the prime minister and an influential member of Parliament within the governing Socialist party, known as Pasok, who has been openly critical of the government’s austerity plan. "This is not a Greek problem any more — it’s a European problem." (Ms. Papandreou is not related to the prime minister.)
A spokesman for the prime minister said that Mr. Papandreou and other European officials had long supported a euro bond as one policy option but that his current priority was to make the Greek economy competitive again. "In search of the best solutions to effectively and permanently exit the crisis, the prime minister will continue to exchange views with his counterparts around the world as well as leading economists and academics," he said.
The two architects of the idea have longstanding ties to Mr. Papandreou. They have characterized their sweeping plan, with a bit of cheek, as a modest proposal. One of the architects, Yanis Varoufakis, a political economist and blogger at the University of Athens, was a speechwriter and adviser to Mr. Papandreou from 2004 to 2006. The other, Stuart Holland, is a Europe expert and former high-ranking official in Britain’s Labour Party who was a longtime adviser to Andreas Papandreou, Mr. Papandreou’s father, who was also Greece’s prime minister.
"When you are insolvent, you do not solve things with new loans," said Mr. Varoufakis, who this week wrote an open letter to Mr. Papandreou urging him to reject the onerous terms of the second bailout. "I want George to look into the camera and tell the German taxpayer: ‘I cannot in good conscience take any more of your money because if I do so, this money will just go to the bankers who will only hoard it.’ "
The plan’s root premise — that Greece is incapable of generating sufficient money to pay down its debt — is by no means outlandish, and it has been echoed by economists and rating agencies alike. In pushing Mr. Papandreou to present Europe with this basic reality, the plan updates one of the more popular sayings of the economist John Maynard Keynes: If I owe you a pound (or a euro, in Greece’s case) I have a problem; but if I owe you a million, the problem is yours.
Adhering to that logic, the problem of Greece’s debt is as much the central bank’s — now the largest institutional owner of Greek sovereign debt — as it is Greece’s.
This reality was underscored this week when the Bank for International Settlements released data showing that European banking exposure to Greece, while high at 121 billion euros ($177 billion), has been declining as French and German banks have been reducing their exposure. That means, in many cases, that the central bank has been left holding the bag, which helps explain why it is so opposed to any talk of restructuring Greece’s debt, or requiring bondholders to share in any losses, known as a haircut.
Mr. Varoufakis says that there are other important components to his and Mr. Holland’s proposal, like getting Europe’s main rescue fund, the European Financial Stability Facility, to recapitalize European banks and promoting a New Deal-style investment program for Greece.
But the transfer of Greek debt onto the central bank’s books is crucial because the bank, with the full resources of the European monetary system as backing, can borrow at much lower rates than Greece can. The plan calls for the debt to be sold as a 10-year bond at 3 percent interest, with Greece paying back the central bank at that same 3 percent over 10 years — in theory, at no cost to the bank.
As someone who has worked closely with the prime minister in the past and keeps in contact with his immediate family, Mr. Varoufakis is convinced that Mr. Papandreou will embrace his plan as the only alternative to endless pain and suffering of the Greek people. mMr. Papandreou recognizes that the latest austerity proposal is "not going to work," Mr. Varoufakis insisted. He "is like an atheist now, crossing himself and hoping for a miracle."
German Finance Minister Calls for Athens Debt Restructuring
by Sven Böll and Philipp Wittrock - Der Spiegel
Berlin Warns of Possible Greek Insolvency
In a letter sent to the European Commission, the European Central Bank, the International Monetary Fund and euro-zone countries, Germany's finance minister warns of the possibility of a Greek bankruptcy and concedes the current bailout plan has failed. Instead he is calling for a de facto debt restructuring. Resistance within Merkel's conservatives is stewing.
The German government has conceded for the first time that Greece will soon need billions of euros in fresh aid and a restructuring of its debt in order to prevent bankruptcy. In a letter dated June 6 and obtained by SPIEGEL ONLINE, sent by Wolfgang Schäuble to his European Union counterparts, the president of the European Central Bank (ECB), Economic Affairs Commissioner Olli Rehn and acting International Monetary Fund (IMF) head John Lipsky, the German finance minister admits that the current EU, ECB and IMF rescue plan for Greece has failed.
In the letter, the finance minister states that private investors and banks should take over part of the cost of stabilizing Greece. The letter states that the private sector should make a "quantifiable and substantial contribution." The finance minister's preferred course would be a bond swap in which old government bonds would be exchanged for news ones with more favorable terms. Investors would be asked to exchange all the Greek bonds currently in their portfolios for new ones with maturities extended by seven years. Investors would get their money later, but they would still get the full amount.
De Facto Rescheduling
In effect, Schäuble is calling for a restructuring of Greece's debt. Until very recently, he had argued that the risks posed by such a move would be too high. Indeed, some critics have warned it could have unforeseen consequences that might even be tantamount to a European version of the collapse of Lehman Brothers. A German Finance Ministry spokesperson described the letter as a "clear marking of the German government's position." Still, it remains uncertain whether Germany will seek to force the private sector to share the burdens -- a move that Chancellor Angela Merkel of the conservative Christian Democratic Union (CDU)and ECB President Jean-Claude Trichet have both rejected so far.
Greece's situation is increasingly precarious. One of the biggest problems for Athens is a condition placed on lending by the International Monetary Fund, which is also participating in the bailout together with the European Union. The condition stipulates that credit can only be given if it can be proved that a country is capable of meeting its payment obligations over the next 12 months. The current plan also envisions Greece returning to the capital markets to raise fresh money starting next year. But with interest rates at around 15 percent, that notion is illusory.
'More than Unrealistic'
"A return by Greece to the capital markets within 2012, as assumed by the current program, seems more than unrealistic," Schäuble wrote in his letter. But that would also mean that the loans to Greece that have already been agreed to under the current plan will not suffice to cover Athens' actual needs. Under the original plan, approved one year ago, the government in Athens was to undergo rigorous austerity measures, consolidate its budget and take steps to increase its competitiveness in exchange for €110 billion ($159 billion) in aid.
Initial reports this year suggested Athens would require an additional €60 million in loans, but SPIEGEL reported last weekend that an additional sum of more than €100 billion could be required if Greece is not able to return to the capital markets for its lending needs in 2013 and 2014. In his letter, Schäuble doesn't specify what Greece's lending needs might be. Nor does he offer much more by way of precise details about how he envisions private sector participation in the restructuring, instead noting that any further aid should "involve a fair burden-sharing between taxpayers and private investors."
Finance Ministry sources told SPIEGEL ONLINE, however, that the government in Berlin is still seeking to prevent a more dramatic "haircut," that would force lenders to forgive and write off a considerable amount of Greece's outstanding debts. A 50 percent restructuring would mean that creditors who lent the country €1 billion euros would only get back €500 million.
Restructuring Still Harbors Risks
Rather than pushing for a haircut, Berlin appears to be calling for a soft restructuring in which creditors would agree to later repayment, and lower interest rates.
That would still harbor considerable risks, though. Ratings agencies have already warned that they might rate even a soft restructuring as a "default." If that were to happen, Greece would be considered insolvent in the eyes of the financial markets and would be unable to raise money through private investors for some time to come. German Finance Ministry sources said plans need to be made that would ensure that a restructuring would not lead to a "default" rating -- a scenario government officials said must be ruled out in light of the potentially catastrophic consequences.
It appears that the only way possible to conduct a restructuring without unpredictable consequences would be to find an agreement with the finance industry that would be palatable for the government and banks. Whether that can succeed is questionable. First, the results of the progress report from the troika comprising the European Commission, the ECB and the IMF must be released on Wednesday in which experts will assess the progress of Greece's savings efforts. But Greece will need money again as soon as July.
In his letter, Schäuble wrote that he sees "the need to agree on a new program for Greece in order to close the financing gap and prevent default." It is also questionable whether the German government can succeed with its demand for short-term private sector burden sharing, given that other EU member states have rejected the step. The ECB, for its part, also opposes it.
Is Schäuble's Letter Motivated by Domestic Politics?
The motivation behind Schäuble's clear wording on Germany's position on Greece may well be driven by domestic political considerations. Within Merkel's conservative government comprised of the Christian Democrats and the business-friendly Free Democratic Party, resistance to additional bailout measures for Greece as well as the creation of a permanent crisis mechanism for the euro zone is massive. The German public also opposes the measures, with many considering the Greek bailout to be a bottomless pit. Schäuble is feeling the pressure from the government coalition, but also from taxpayers footing the bill for Greece, and he is trying to show that Berlin isn't just handing over money and letting banks off the hook.
In light of the astronomical new figures being cited, Gerda Hasselfeldt, a senior state-level figure in the Christian Social Union (CSU), the Bavarian sister party to Merkel's CDU, said aid could not be allowed to become a "bottomless pit." However, many in Merkel's coalition government are afraid it will become precisely that.
Klaus-Peter Willsch, the budget expert for Merkel's CDU, has already said he would vote against any plan for additional financial aid for Greece, because, as he told public broadcaster ARD, "you can't throw good money after bad." He also said he would not allow a decision that could burden generations to come to be made at "breakneck" speed, as some alleged happened with last year's bailout. He said the data doesn't back providing additional bailout money to Greece.
Few, have been as outspoken as Willsch within the conservatives, but he is far from alone in his negative stance within the joint CDU/CSU parliamentary group. Other senior party members have also expressed their discomfort with additional relief measures in recent weeks. Recent news about pension payments to long dead Greek citizens and worries that the troika report will be critical of Greece's savings efforts aren't exactly fostering trust in Athens' austerity measures, either.
Is a Government Revolt Brewing over Greek Aid?
The number of bailout critics is greater in the FDP, Merkel's junior coalition partner, with around 15 members of parliament categorically rejecting any new aid for Greece. The campaign is being led by the FDP's finance expert in the parliamentary group, Frank Schäffler, who hinted Greece should exit the euro zone in an ARD interview. "That wouldn't be the downfall of the euro, it would save it," he said.
It is still unclear whether the Greek debate will lead to a revolt in Merkel's coalition government. Right now, the CDU, CSU and FDP only have a 19 vote lead over the opposition in Germany's parliament, the Bundestag. Nevertheless, Chancellor Merkel has good reason to be nervous about the outcome of a vote on additional aid for Greece as well as planned legislation this autumn paving the way for the European Stability Mechanism, the permanent euro rescue fund. Leaders within the FDP and Christian Democrats know those votes will be close, with one leader saying the issue is "highly uncomfortable ... with even more explosive potential than the nuclear phase-out."
Schäuble faces another potential problem with his calls to force private investors to accept losses as part of the bailout. Namely that it is clear that if the private sector is going to be forced to foot some of the costs of the bailout, it will have to happen soon. The latest figures from the Bank for International Settlements show that many European credit institutions have already shed massive quantities of Greek bonds in the past year. Already today, a considerable amount of Greece's debt has more or less been transferred into public hands -- either through loans from other euro-zone member states or through the state bonds that have been purchased by the ECB. Sooner or later, it is clear, private investors will have completely shed their high-risk Greek investments.
Europe's Financial Houses to Broker Big Fat Greek Clearance Sale
by Tony Phillips - Huffington Post
It's not exactly Walmart on the day after Thanksgiving, but you might like to know that Greece is having a Going-Out-of-Viability Sale. The whole place isn't for sale, just the valuable bits. Well, it's not really "Greece" that's for sale at all, not per se, it's more like Greece's principal assets and industries are for sale, most of them, and actually they're just... I'll start again.
See, what happened is this: last year Greece got bailed out of impending economic collapse by a combination of lenders, primarily Germany, through a €110 billion loan from the International Monetary Fund. At the time, Greek President Giorgos Papandreou must have thought his countrymen would be awash in cash by now with the success of his tourism campaign, "Greece: It's Still a Country."
But that didn't pan out and so whereas last year Greece was just on the brink of financial ruin, this year it's on the brink of financial ruin and about to be taken over by Germans, which has happened before but not with so many accountants involved. And evidently German Chancellor Angela Merkel, President Obama's Freund und Kollege, reckons three Reichs don't make her wrong because she's bound and determined that this time, by Zeus, the Greeks are going to pay and pay up.
Greece is not the United States and that's too bad because whereas the latter is nigh its self-imposed debt ceiling of $14.3 trillion and clearly intends to borrow on through it like Grant took Richmond, the former can't borrow any more from Petros to pay Paul and it can't even do the logical thing to pay back a comparatively paltry $158 billion, which is to print more money. It can't print money because as of 2002, Greece doesn't have money, except the Euro, which is managed and administered in Germany by the European Central Bank.
Entry into the E.U. and acceptance of the Euro as the coin of the realm in place of a beleaguered drachma that declined in value, no fooling, trillions of times in 50 years was supposed to pull Greece out of a pattern of accelerating decline. It seems instead that Greeks are set to take some more declining from the E.U. in a manner not unknown to Hellenes and it's hard to figure, really, why Merkel has made getting her Euros back her cause célèbre, given that her country prints the things. Germany needs Euros like China needs soot. I guess a debt's a debt.
Of course aside from cranking up the presses, the Greek government could do the other thing our government does when it needs more ducats than it can plausibly conjure; it could sell bonds. But finding prospective buyers is proving right near impossible since Moody's downgraded Greek issues last week to a CAA1 rating, a rating reserved for junk bonds. Right now, Enron is trading more briskly than the birthplace of Western Civilization. Worsening the whole mess is the fact that those affluent Greeks who have savings and other liquid assets are moving their wealth with all possible haste out of Greek banks into other European markets, thereby depleting the only significant internal money supply any nation's economy really has, bank deposits.
The bad news for Greeks goes on and on and begs questions about the sustainability of a European model that penalizes heavily unionized states, favors economic predation, blurs national dignity in a mélange of branded clichés and subsumes historical richness in the largess of right now. Still, what's bad news for Greeks might be good news for you, if you happen to be in the market for some large-scale overseas infrastructure. The Greek government has already indicated what it intends to auction off as well as its chosen auctioneers and, not surprisingly, they aren't Greeks. Here's a partial list of what's getting handled by whom:
- Greek State Gambling Monopoly; Deutsche Bank (Frankfurt)
- Greek State Lotteries; Credit Suisse (Zurich)
- Road Concessions; Rothschild and Barclays (London)
- Railways; PriceWaterhouse (London)
- Athens International Airport; BNP Paribas (Paris)
- Greek Trust and Loan Funds; Lazard (New York, London, Paris)
If none of those items sounds attractive, there are nine additional sell-off programs already established for the processing of Greek broadcasting, telecommunications, utilities, shipping and other industries that might pique your interest and whether you're a first-time carpetbagger or looking to trade up, Greece is a buyers' market. Prices may never be lower so you should act now and take advantage of attractive interest rates and seller incentives. You might also want to make sure you're free to travel later this month when the British Hellenic Chamber of Commerce will host a conference at Claridge's in London to explain the details of the Privatize-a-thon.
Unfortunately, if you'd like to visit Greece in person to inspect your prospective acquisition right now might not be the best time, what with all the unrest in the streets, massive public demonstrations, forced closure of offices and institutions, partial industrial shutdowns and so on, all in reaction to what Keith Featherstone of the London School of Economics likens to "... [the] thought that foreigners have come to sell the family silver."
But worry not. Progress is an inexorable thing and it has a way of putting down pesky problems like nationalism, collective ownership and union influence over government fiscal policy. Greece was a world power back when Germans were painting their faces and eating their dead. Greece and its treasures will certainly remain safe and stable for centuries to come even if, in the near future, you'll need a hand stamp to re-enter the Acropolis Beer Garden. I know. It's sad. So here's Anthony Quinn.
Faded Malls Hurt Cities' Tax Revenues
by Miguel Bustillo and Kris Hudson - Wall Street Journal
American cities, long reliant on sales-tax revenue from retailers to support municipal budgets, are facing a harsh reckoning as the era of the shopping center as municipal cash cow appears to be at an end.
Sales taxes are a critical source of funding for many cities, typically second in size only to property taxes. They accounted for roughly 23% of all U.S. state and local tax collection in 2008, the latest year available, according to the Census Bureau.
But big U.S. retailers are feeling the effects of a cautious consumer, pinched by the rise in gasoline and food prices, as well as by high unemployment. Consumer spending rose just 0.4% in April, the latest month for which data are available. Last week, many retail chains, including Target Corp., reported lackluster May sales.
Municipal sales-tax receipts have declined in six of the past 10 years, compared with the year before, according to the National League of Cities, including drops of 6.6% in 2009 and 5% in 2010. That has city leaders from Texas to California waking up to the likelihood their sales-tax decline isn't just a result of the bad economy. Instead, it is problem that will persist after a recovery, as demand for retail complexes is whittled by online shopping and the waning popularity of the big-box store selling everything from groceries to electronics.
"I am not sure cities can go back to playing the retail game the way they have over the past 25 years," said William Fulton, mayor of Ventura, Calif., and editor of the California Planning and Development Report newsletter.
For decades, cities have engaged in an escalating competition with their civic neighbors to encourage the building of bigger and bolder shopping palaces—often with public subsidies—to enlarge their coffers. While some cities report sales-tax receipts are improving so far in 2011 as consumer spending comes back, it could take years for the revenue to return to pre-recession levels, and a glut of retail vacancies threatens the municipal revenue-building strategy of "build it and they will come."
The vacancy rate has reached 9.1% for malls, the most since 1990, and 10.9% for smaller, outdoor strip centers, which is expected to hit a 21-year peak this year, according to researcher Reis Inc. The mall vacancies are highest in Reis's Midwestern markets such as Oklahoma City, where they hit 25%, and Southern metro areas such as Columbia, S.C., where they were 23%.
Independence, Mo., a suburb of 120,000 outside Kansas City, Mo., is confronting the decline of malls as a revenue source. Six years ago, civic leaders there envisioned a sales-tax bonanza from a shopping mall called "The Falls at Crackerneck Creek" and backed $74 million in bonds for its construction. But the center, which includes a Bass Pro Shops Inc. outdoors-gear store, remains unfinished and isn't generating the tax revenue expected to retire the bonds. Two nearby cities built competing malls that have become more successful, siphoning some of the regional customers that Independence hoped to attract.
In March, Independence spent more than $3.5 million of public funds to cover the center's debt payments. Last month, city leaders proposed laying off six workers and requiring others to take unpaid furloughs in anticipation of having to pay an additional debt payment of $4 million—or 6% of the city's budget. "We had a good partner in a major national retailer," says Independence City Manager Robert Heacock. "But the development did not come together in the way we anticipated."
Retail and government-finance experts largely agree that municipalities thirsting for sales taxes played a role in America's retail glut. Cities used zoning power to encourage retail districts and financed shopping-center infrastructure such as freeway off-ramps. To win over retailers and developers, some cities agreed to share sales-tax revenue with them.
While the number of Americans grew 52% from 1970 to 2010, the amount of store space jumped 126% according to real-estate research firm CoStar Group Inc., which estimates the country has 50 square feet of retail per person. Now the growth of online shopping, which has accelerated since the recession, is leading many retail chains to slow store openings and invest instead in better websites and mobile-phone applications, reducing the demand for real estate.
Retailers such as Office Depot Inc. and Best Buy Co., which declared in April that it plans to reduce its existing square footage by 10%, are renegotiating leases and shrinking on purpose in a belief that consumer spending habits will keep evolving toward smaller brick-and-mortar stores and nearly limitless online bazaars. "Our customers have spoken loud and clear: The big-box era is over for them, they value convenience and speed, and they are voting with their wallet," said Kevin Peters, North American retail president of Office Depot, which is testing stores that measure 5,000 square feet—a fraction of the retailer's typical 24,000-square-foot stores.
Some landlords are finding success converting storefronts into government facilities, and retail experts predict entrepreneurs will find other novel uses for vacant spaces. One recently turned a former Circuit City in Houston into a gun range. But such uses, while reducing blight, don't typically make up for the revenue cities lose when stores close. Despite struggling with budget problems in the recession, Tracy, Calif., leaders decided last year that the solution to keeping the city's struggling West Valley Mall alive was to pay Macy's Inc. $2.7 million to move in.
"Look, the bottom line is that if you can stop sales-tax leakage to other communities, you are going to be better off, especially during times like this when your other revenue is cut thin," said Tracy Mayor Brent Ives. "We had to do something to demonstrate that the mall was going to remain viable."
Industry warns over asset-backed loan rules: ABCP market could shrink by "tens of billions of dollars"
by Aline van Duyn - Financial Times
The US asset-backed commercial paper market could shrink by "tens of billions of dollars" under proposals to make the securitisation markets safer, an industry group has warned. ABCPs are used for short-term debt by many borrowers – from car finance companies to student loan providers.
The American Securitization Forum, in a letter sent to regulators on Friday, says some of the proposed risk retention rules are "technically unworkable" and that their introduction would harm this area of the securitisation markets. "If these rules were to go through as proposed, credit from the asset-backed commercial paper market would shrink by tens of billions of dollars," said Tom Deutsch, executive director of the ASF, which represents market participants.
The risk retention rules, jointly proposed in March by US regulators including the Federal Reserve, Federal Deposit Insurance Corporation and the Securities and Exchange Commission, would require sellers of loans to retain 5 per cent of the credit risk to ensure "skin in the game". Securities backed by risky mortgages played a role in the financial crisis, which prompted regulators to push for an overhaul of practices. Investors and banks worldwide lost hundreds of billions of dollars on investments that were supposed to be "safe" and had triple-A credit ratings.
The proposals include reforms aimed at ensuring that badly underwritten loans are not passed on to investors. But there are concerns that some of the proposals may hamper a revival of the residential and commercial mortgage-backed markets, alongside other areas such as ABCP, which had $378bn outstanding at the end of last year.
ABCPs are set up so that short-term securities are sold through conduits, which are backed by letters of credit from banks. If maturing debt cannot be refinanced, the banks pay the money to the investors in the conduit. Mr Deutsch said the provision of such letters of credit already gave banks "100 per cent skin in the game". Adding a further risk retention requirement would increase the capital costs for banks and reduce the availability of ABCP, he said.
The ASF is proposing, among other things, that regulators change the rules to allow letters of credit to count towards risk retention measures, or to broaden the exemptions to risk retention to include most ABCP conduits.
European regulators in January adopted risk retention rules that make such allowances. "The proposed US rules fly in the face of international co-ordination," said Mr Deutsch.
The Financial Sector Keeps Shrinking
by Michael J. Moore - BusinessWeek
Bank of America, Citigroup, and other big banks are stymied by a sluggish economy, low interest rates, and new regulations
Financial firms are becoming a smaller part of the U.S. economy as they deal with a past that won't go away and a future of lower revenue and fewer jobs. Persistent low interest rates and stagnant loan growth are shrinking interest income just as new regulations are putting a lid on the fees banks charge their retail customers.
Net revenue at the six largest U.S. lenders - Bank of America, JPMorgan Chase, Citigroup, Wells Fargo, Goldman Sachs, and Morgan Stanley - will probably fall 3.7 percent in the second quarter, the fourth year-over-year decline in five quarters, according to 100 analyst estimates compiled by Bloomberg. Regulations requiring banks to hold more capital as a cushion against losses are likely to crimp profitability.
"You don't have to be a scientist to figure out that tighter regulation and more onerous capital rules without economic growth will shrink the industry," says John Garvey, head of the financial industry advisory practice at PricewaterhouseCoopers. Financial companies accounted for 29.3 percent of U.S. corporate profits over the 12 months ended Mar. 31, well off the record high of 41.7 percent set in the 12 months ended Sept. 30, 2002.
Investors don't like what they see. Financial stocks have trailed the broader market for 9 of the last 11 months. The ratio of the price of the Standard & Poor's 500 financials index to the S&P 500-stock index is less than 0.16, down from a peak of 0.36 in March 2004. The only other time in the last 20 years the ratio dropped below 0.16 was a stretch from January to April 2009, when some banks faced nationalization after taking billions in rescue funds to survive the credit crisis. Bank of America, the biggest U.S. lender by assets, saw its stock hit a two-year low on June 6.
Analysts including Meredith Whitney and Nomura Holdings' Glenn Schorr expect the slow growth to result in job cuts on Wall Street in the coming months. The number of U.S. financial-industry jobs dropped for the fourth straight year to an average of 7.63 million in 2010, according to the Bureau of Labor Statistics. That's 8.4 percent below the 2006 peak, and the figure fell to 7.61 million in May.
Banks face at least 15 major "overhangs" to performance over the next few years, FBR Capital Markets analysts wrote in a June 3 note to investors. Among the factors cited were new limitations on proprietary trading and debit-card swipe fees; state and federal investigations into mortgage practices; and stricter capital and liquidity requirements.
New rules set by the Basel Committee on Banking Supervision, which will begin to take effect in 2013, may trim the return on equity of U.S. banks by 3 percentage points, according to estimates by McKinsey consultants. "Those are pretty big clouds, there's no arguing with that," JPMorgan Chief Executive Officer Jamie Dimon said at an investor conference in New York on June 2. At a bank conference in Atlanta on June 7, Dimon asked Federal Reserve Chairman Ben S. Bernanke whether new bank regulations have gone too far. Bernanke answered that it's probably going to take a bit of time before regulators "figure out where the cost exceeds the benefits."
In an effort to boost revenue, banks are shifting their focus back to bread-and-butter businesses, such as retail banking, brokerage services, and asset management. They are dusting off a once-favored strategy, cross-selling—persuading existing customers to buy additional products. Morgan Stanley has hired more than 170 private bankers to make loans and offer deposit products to its retail brokerage clients. Bank of America is looking to win banking business from the two-thirds of its Merrill Lynch customers who have bank accounts with other lenders.
Wells Fargo is building its retail brokerage so that it can capture business from 5.2 million clients who hold $1.7 trillion in investment assets at other firms. Says PricewaterhouseCoopers' Garvey: "Right now in the U.S., it's much more about carving up the pie a different way rather than growing the pie."
The country's biggest banks are looking for growth overseas, particularly in emerging markets. Citigroup CEO Vikram Pandit said at a Mar. 9 conference that the bank now gets more than half of its profit from emerging markets. "We have a unique footprint that we believe will allow us to harness global growth trends and deliver value to our client and shareholders over time," says Shannon Bell, a Citigroup spokeswoman. Spokesmen for the other five banks declined to comment or didn't return calls.
Bank of America CEO Brian Moynihan said in February that his bank would try to produce revenue increases that outpaced the growth of the U.S. economy by 1 percentage point, driven by its international operations. Goldman Sachs Chief Operating Officer Gary Cohn said this month that his firm's hiring efforts are concentrated on China, India, and Brazil.
The banks will face political obstacles and strong local competition, while earning lower fees than they command in the U.S. "We expect to continue to see ferocious competition in these markets," analysts from Oliver Wyman and Morgan Stanley said in a March research paper. "Rising costs and falling yields will mean less of the top-line growth comes through to the bottom line."
The Banking Emperor Has No Clothes
by Simon Johnson - New York Times
In a major speech earlier this week to the American Bankers Association’s international monetary conference, Treasury Secretary Timothy F. Geithner laid out his view of what went wrong in the financial sector before 2008, how the crisis was handled 2008-10 and what is needed to reform the system. As chairman of the Financial Stability Oversight Council and the only senior member of President Obama’s original economic team remaining in place, Mr. Geithner’s influence with regard to the banking system is second to none.
Unfortunately, Mr. Geithner’s speech contained three major mistakes: his history is completely wrong, his logic is deeply flawed, and his interpretation of the Dodd-Frank reforms does not mesh with the legal facts regarding how the failure of a global megabank could be handled. Together, these mistakes suggest that one of our most powerful policy makers is headed very much in the wrong direction.
On history, Mr. Geithner places significant blame for the pre-2008 excesses on Britain and other countries that pursued light-touch regulation. This is reasonable – though surely he is aware that the United States has led the way in lightening the touch of regulation, at least since 1980. A senior British official retorted immediately, "Clearly he wasn’t referring to derivatives regulation, because as far as I can recollect, there wasn’t any in America at the time."
More broadly, Mr. Geithner seems to have forgotten how big banks were saved — by government intervention, at his urging. He should probably watch "Too Big to Fail," now playing on HBO, or peruse the book by Andrew Ross Sorkin of The New York Times, on which it is based –- just look in the index for Geithner and trace the arguments that he made for repeated and unconditional bailouts of big banks and their creditors from mid-September 2008. (Mr. Sorkin’s book ends in fall 2008, while Mr. Geithner was still head of the Federal Reserve Bank of New York; for more on what happened after he became Treasury secretary, see my book with James Kwak, "13 Bankers.")
On logic, Mr. Geithner’s thinking includes a major non sequitur, as he continues to deny that the size of our largest banks poses a problem. "Some argue that the U.S. financial system is too concentrated, which could promote systemic risks," he said. "But the U.S. banking system today is less concentrated than that of any other major country."
But big banks in almost all other major countries have run into serious trouble, including those in Britain and Switzerland — where policy makers are now open about the potential scope of further disasters. French and German banks made large amounts of reckless loans to peripheral Europe and have strongly resisted higher capital requirements, helping to create the current potential for contagion throughout the euro zone (and explaining why the Europeans are so keen to keep control of the International Monetary Fund). The Japanese banking system has been in terrible shape for two decades.
Lawrence H. Summers, Mr. Geithner’s former mentor, likes to point out that big banks in Canada were not in serious trouble during the global recession. But whatever your view of whether Canada has good regulation or was mostly lucky –- and put me in the skeptical camp, after my recent talks with their senior officials –- the simple point is that big banks in Canada are actually small in comparison with American and other global banks.
The largest five Canadian banks have a combined head count roughly equal to that of Citigroup (just under 300,000 people) and even the biggest of them has only about one-third the assets of JPMorgan Chase.
Mr. Geithner’s thinking on bank size is completely flawed. The lesson should be: big banks have gotten themselves into trouble almost everywhere; banks in the United States are very big and have an incentive to become even bigger; one or more of these banks will reach the brink of failure soon.
Mr. Geithner’s most serious mistake is to believe that we can handle the failure of a global megabank within the Dodd-Frank framework. He argues that expanded powers for the Federal Deposit Insurance Corporation mean that banks can be allowed to fund themselves with more debt relative to equity than would otherwise be the case, because the F.D.I.C. can supposedly impose losses on creditors in the "resolution" situation, in which it takes control of a troubled bank. Because the bank could actually default on its loans, management and lenders will be more careful.
"But given the other protections here, including our resolution authority, we do not need to impose on top of that requirement any of the three other proposed forms of additional capital," he said in the speech. (The italics are mine.)
I’ve talked repeatedly with senior officials in the United States and other countries about the resolution authority, and I’ve also discussed the issue directly with some of the top legal minds on Wall Street, people who work closely with big banks. Mr. Geithner’s interpretation is simply wrong. (Disclosure: I’m a member of the F.D.I.C.’s newly established Systemic Resolution Advisory Committee, an unpaid group of 18 experts that meets for the first time on June 21, but my assessment here is purely personal.)
There is no cross-border resolution mechanism or other framework that will handle the failure of a bank like Citigroup, JPMorgan Chase or Goldman Sachs in an orderly manner. The only techniques available are those used by Mr. Geithner and his colleagues in September 2008 –- a mad scramble to find buyers for assets, backed by Federal Reserve and other government guarantees for creditors.
The right conclusion for Mr. Geithner should be: huge cross-border financial operations are immune from orderly resolution; such companies should therefore be run on a completely segmented basis, with separate capital requirements and no recourse to parent companies.
Consequently, capital requirements should be much higher than currently proposed by any official, for capital is the buffer that stands between bad management decisions and taxpayer bailouts when bank resolution is not possible. Real estate trusts that are not too big to fail routinely finance their assets with 30 percent equity and 70 percent debt. In a volatile world, this makes complete sense. We should move all our big banks, as well as the rest of our financial system, in that direction.
by Ronald Brownstein - National Journal
Why millennials can’t start their careers and baby boomers can’t end theirs.
It’s hard to say this spring whether it’s more difficult for the class of 2011 to enter the labor force or for the class of 1967 to leave it.
Students now finishing their schooling—the class of 2011—are confronting a youth unemployment rate above 17 percent. The problem is compounding itself as those collecting high school or college degrees jostle for jobs with recent graduates still lacking steady work. "The biggest problem they face is, they are still competing with the class of 2010, 2009, and 2008," says Matthew Segal, cofounder of Our Time, an advocacy group for young people.
At the other end, millions of graying baby boomers—the class of 1967—are working longer than they intended because the financial meltdown vaporized the value of their homes and 401(k) plans. For every member of the millennial generation frustrated that she can’t start a career, there may be a baby boomer frustrated that he can’t end one. Cumulatively, these forces are inverting patterns that have characterized the economy since Social Security and the spread of corporate pensions transformed retirement.
Since World War II, young people (including those employed part-time in school) have consistently been much more likely to work than older Americans. Federal statistics show that on average during the 1950s, the share of Americans ages 16 to 24 in the labor force (52 percent) was nearly 12 percentage points higher than the share of Americans 55 and older (just under 41 percent). By the 1990s that gap in the labor market participation rate for the youngest and oldest adults had widened to nearly 30 percentage points. At that point, Americans younger than 24 were twice as likely to be employed as Americans older than 55.
But that spread began narrowing after 2000, and it has closed with unprecedented speed during the slowdown. Since December 2006, the employment-to-population rate for young people has fallen by a dizzying 10 percentage points, from about 55 percent to just 45 percent. That decline, much sharper than in previous recessions, has reduced the share of employed young people to the lowest levels in 60 years.
By contrast, the employment-to-population rate for older Americans is slightly higher today (37.6 percent) than it was in December 2006 (37.4 percent). During the long slowdown, no other age group has increased its labor-force participation, notes Heidi Shierholz, an economist at the liberal Economic Policy Institute.
Together, these twin trends have produced an economy in which the oldest workers are now nearly as likely to be employed as the youngest. From January 1948 through September 2009, the labor-force-participation rate of older Americans came within 8 percentage points of the rate among younger people in only one month. Since October 2009, the difference between the two groups has been 8 percentage points or less in every month. One side can’t start working; the other can’t stop.
In some ways, the change reflects positive trends. Compared with the first decades after World War II, fewer young people are working partly because more of them are in school. And more seniors are working partly because rising education levels have allowed more of them to find satisfying careers they prefer to continue.
But most seniors extending their careers are doing so from necessity, because "the resources they were counting on to retire just aren’t there," says John Rother, the policy director at AARP, the giant senior lobby. In the same way, the rapid recent decline in employment among young people hasn’t been offset by a commensurate rise in college attendance.
These labor-market trends might be viewed as complementary or even as a benign opportunity for Americans to space out their work life over a different span—from 24 to 68, say, instead of 21 to 65. After all, as life expectancies lengthen, the U.S. can’t afford its social-safety net without extending the retirement age. But that would require a systematic effort to help young people use their early 20s to expand their skills and experiences. That’s not happening.
Instead, what economists call the idleness rate is rising: The share of Americans younger than 24 neither at work nor in school has steadily increased since 2007. That disconnection creates the risk of what Harvard University labor economist Lawrence Katz calls "a lost generation."
Faster overall job growth would be the best antidote to that threat. But the particular problems of young people demand more-targeted responses. Colleges and universities must see to it that more students don’t just start their degrees but also complete them. As Segal says, those institutions must also accept "greater responsibility to ensure" that those graduates leave with skills employers need. Washington, meanwhile, should consider further expansion of AmeriCorps and other service opportunities for this civic-minded generation.
Above all, the class of 1967, which is growing reflexively hostile to government spending, needs to realize the interest it shares with the class of 2011: Unless today’s young people ascend into well-paying jobs, it won’t be possible to finance Social Security and Medicare for tomorrow’s seniors.
What are the chances the U.S. economy could eventually trigger violence in our country?
by Jack Cafferty - CNN
For the first time maybe since the Vietnam War or certainly since the civil rights movement, there are some darkening storm clouds on the civility horizon. A growing number of voices are continuing to suggest that if this economy doesn't turn around, and people can't start feeling optimistic about their futures again, we could be headed for some ugly scenarios. A new CNN poll says 48 percent of Americans think the country is headed for another Great Depression in the next twelve months. That is a stunning number.
James Carville, who in 1992 told Bill Clinton, "It's the economy stupid," says the current economy is so bad, there is a heightened risk of civil unrest. And unless things start changing for the better, it's a distinct possibility.
Our country is bankrupt and our government refuses to do anything about it. Unemployment is stuck above 9 percent. Millions of Americans are out of work, some for a number of years now. The value of peoples' homes is sinking below the break-even line. In the most recent jobs report, more than half of the private sector jobs that were added were at McDonald's.
For young people coming out of the nation's colleges and universities, their families having invested hundreds of thousands of dollars in their education, the outlook is grim. Add in the early record breaking heat in the cities in the East and we might not even have to wait until 2012. It could become a long, hot, ugly summer.
Third World America 2011: Forget "Fast Tracking to Anarchy" We've Arrived
by Janet Tavakoli - Huffington Post
Last summer I wrote about Arianna Huffington's latest book, Third World America: How Our Politicians are Abandoning the Middle Class and Betraying the American Dream and talked about the Great Recession, the Great Bailout, and the Great Cover-Up of financial crimes.
I also wrote that municipal financial problems spelled a lower quality of life. Downtown Chicago crime escalated, along with attacks on officers in the Chicago Police Department. An officer who spoke up about the low morale of the undermanned and rudderless police force endured official retaliation. ("Third World America: 'Fast Tracking to Anarchy")
This year, all hell has broken loose in downtown Chicago. Years of under-hiring have resulted in a police force that is unprepared for wildings and gang violence. Moreover, concealed carry in Chicago is illegal, unless one follows the Constitution.
Tourists and residents have been attacked by mobs of youths on buses, on beaches, on bicycle paths, near the shops of the Magnificent Mile, and outside their homes. Mobs of shoplifters plagued "Mug Mile" stores. The irony is that these disenfranchised youths are turning to crime -- and if justice is done, prison sentences --against innocent targets. Their focus is misdirected. Participating in a peaceful five million man march -- a true show of force and power -- against elected culprits in Washington would get them better results for lasting change.
The Spring of Anarchy: "A City At War With Itself"
It is still technically spring in Chicago, and wildings have made Chicago and its beaches unsafe. Poorer neighborhoods have long been war zones. The murder rate and gang violence in Chicago has been unacceptable for years.
Yet the police force was gutted, handcuffed, and muzzled. ("In Third World America Expect to be Investigated, as Lt. John Andrews Is Being Investigated, for Speaking Up") Police officers -- some off duty and still in uniform -- have been gunned down in the streets. Their crime-fighting abilities are severely hampered by years of irrational policies and genuflecting to politically power hungry special interest groups.
Of course, we want police officers to follow proper procedures at all times, but we also want them to make fast decisions in violent chaotic circumstances, defend themselves, and get home safely to their families and friends. Local media hounds come out in force against police work. It's time they came out in favor of superior training and hiring.
Mayor Rahm Emanuel, with less than a month in office, has called for the arrest of all the youths involved in last weekend's mob attack that included an attack on a shopper and on two middle-aged doctors -- in separate incidents -- visiting for an oncology convention. Yet there have been ongoing incidents of wildings that didn't make the front page of local papers as did this last attack on tourists.
The woefully undermanned police force plans to recruit and train 300 new officers when some estimates indicated it needed more than 3,000 new officers before the outbreak of the new-pattern crime wave.
Acting Police Superintendent has to Stop Lying to Citizens*
Mainstream media has finally started to report crime in the more fashionable parts of town, but only because it has spun out of control into anarchy. The most reliable source of crime-wave information has been Second City Cop, a blog started by a member of the Chicago police force.
Based on my conversations with friends and neighbors, citizens of Chicago feel lied-to by Acting Police Superintendent Garry McCarthy.* On Memorial Day, North Avenue beach, in one of Chicago's more affluent areas, was closed after gang violence. This is unprecedented. McCarthy repeatedly told the media it was due to people succumbing to the hot weather. Not true. Violence was out of control as beach-goers were harassed by mobs and cyclists were pulled off their bikes and beaten.
Mainstream media now contradicts McCarthy's feeble spin. One police officer told the media that 500 youths exited public transportation for the lakefront and while they were there, citizens were harassed.
CBS reported wilding incidents at this beach earlier in May, and police patrols had already been stepped-up. Two bike riders on the North Avenue Beach path had been mobbed by about 100 teens. They were knocked off their bikes and then thrown into Lake Michigan. Yet Near North District commander Kenneth Angarone said police responding at the scene did not find a "bona fide incident."
Mobs have swarmed local businesses, shoplifted and intimidated shoppers at high-end stores, attacked bus riders, attacked shoppers near Michigan Avenue, attacked tourists and more. Shortly after Mayor Rahm Emanuel said he would round up perpetrators of last week's mob attack, NBC reported that a mob of 15 to 20 youths beat and robbed two people in Chicago's downtown shopping area.
Memorial Day Mobs: Boston, Nashville, Long Island, Miami, Rochester, and Charlotte
Wildings occurred in other cities on Memorial Day weekend in what may have been coordinated flash wildings. Gangs swarmed beaches in Boston, Nashville, Long Island, Miami, Rochester, and Charlotte in what some believe was a social media coordinated effort. (Hat tip: Second City Cop)
And Stop Lying to My Friends
In response to the weekend violence, my network of friends emailed around news articles. Mary McCarthy (no relation to Police Superintendent McCarthy), a friend of a friend, emailed local papers about a mob pulling people from cars and taxis right outside her upscale apartment building. When the police arrived 15 minutes later, the crowd had scattered. Here's an excerpt:
"At about 11pm last Friday night, June 3rd, I heard shouting, screaming, horns blaring and tires screeching from my apartment...When I looked out my window to the street below I saw a crowd of about 20 young people...directly across the street from the entrance to my building. They were leaning on parked cars and clogging the street. They were screaming at people walking and driving by. I watched them stop vehicles, including taxi cabs, and pull people from the vehicles...It was a frightening scene and I was sure someone was going to be hurt."
The Sun-Times wrote of Mary McCarthy's report and Police Near North District commander Kenneth Angarone said that police responded but did not find a "bona fide incident.'' I believe Ms. McCarthy.
It's Not a Race War; It's a Class War
It's much too easy to let politicians divide the nation, make this about race, and ignore the underlying causes. It's true that many of the mobs in downtown Chicago are comprised of African Americans, but Oprah Winfrey isn't into wilding. Mary McCarthy didn't get a close up look at the mob outside her window, but they appeared white -- definitely not African American.
Last year, I never mentioned race in my post about Chicago violence, but a few commenters brought up race and made unwarranted assumptions. Some commenters assumed "wildings" only involve black youths. Chicago is a city with a lot of diversity and gangs of every race. I mentioned a separate incident of an armed intruder being shot and killed by an off duty police officer; the armed intruder was not African American. I also mentioned three police officers were shot and killed within a two month period. Two were African American, one was not.
U.S. Downward Mobility
The destruction of the middle class has accelerated. Housing values have plummeted, and investors earn negative real rates of inflation adjusted returns on "safe" investments like money market funds. Food, fuel, and medical costs have skyrocketed. Essential civil services are underfunded while taxes escalate. The middle class is sinking fast as saved wealth is destroyed and its standard of living erodes.
After being subjected to a national financial crime wave with no meaningful consequences for white collar criminals, the middle class, the core of many cities and communities, is being subjected to a physical crime wave.
The U.S. escalated its debt to fund the ongoing bailout of the banking system. TARP was a small part of it. The Fed now owns over a trillion in suspect assets it bought from banks, and it daily provides them with almost zero cost money so high spreads help them earn their way out of the financial hole in their balance sheets. No one went to jail, and bankers reward themselves with billions in bonuses.
Banks broke their TARP agreement to lend to small and medium sized businesses. They lent to large businesses that outsource a lot of labor. The iPads stolen by Chicago gangs are mostly made in Asia. Banks and their enablers in Washington starved the U.S. of the biggest source of sustainable job growth: capital investment in the United States.
Elected Citizen-on-Taxpayer Financial Crime
Illinois and Chicago are ground zero for the consequences of our local and national fiscal folly. Pension funds are woefully underfunded. Last minute sweetheart deals to crony-connected retirees have contributed to the problem along with bad investment decisions. In general, though, civil servants are blameless. Some are being asked to increase contributions from 8 percent of pay to 12 percent of pay. The State of Illinois is behind on many of its bills. Chicago's city budget is in dire straits.
The suburb of Bellwood provides an example of how graft and corruption have contributed to municipal project debt. A train station project was hijacked by local officials who paid millions above appraisals for properties, and in at least one instance dealt with a mob-linked company. According to the Chicago Tribune, taxpayers of the small suburb have a $40 million hole and investigations revealed "questionable players," with laughable financial analysis.
Chicago's unemployment rate and mortgage delinquency rates are among the highest in the country, and home prices have slumped to 10-year lows. The S&P Case -Shiller index shows that Chicago area housing prices have fallen to April 2001 levels. From the housing bubble's November 2006 peak, prices are off 34 percent.
Illinois state income taxes rose this year from 3 percent to 5 percent, a 66.7 percent increase. That is in addition to sales taxes, utility taxes, phone taxes, various automobile taxes. Chicago is not alone. Cities throughout the country recently experienced wildings, and it will get worse for them as it did for Chicago. Illinois may have the most severe budget crisis in the country, but states like California, New York, New Jersey and more are troubled.
Ongoing Mugging by Wall Street Banks
After the largest bank bailout in world history, we now have a national epidemic of foreclosure fraud. In March, Judge Moshe Jacobius stayed 1,700 foreclosures due to altered documents in Illinois' Cook County.
A complaint of alleged fraud on the part of Goldman Sachs detailed its close relationships with Countrywide, New Century, and Fremont. The complaint showed Goldman knew of "an accelerating meltdown for subprime lenders such as New Century and Fremont." Despite known serious loan problems, Goldman continued to securitize the loans and sell them in packages of residential mortgage backed securities. Goldman Sachs Alternative Mortgage Products (GSAMP) was "garbage sold at mythical prices."
The complaint alleged that Countrywide employees in a Chicago office inflated incomes on 90 percent of reduced documentation loans, also known as "liars' loans." One of Countrywide's mortgage brokerage arms "routinely doubled the amount of the potential borrower's income ... so that borrowers could qualify for loans they could not afford." The complaint alleged that brokers, not borrowers, engaged in massive fraud to push loans through the system and earn commissions. Illinois Attorney General Lisa Madigan told First Business Morning News: "Countrywide broke the law, homeowners did not."
Arianna Huffington explained that our elected officials allowed banks to thwart usury laws:"Every day, Americans, faced with layoffs and tough economic times, are forced to use their credit cards to pay for essentials such as food, housing, and medical care -- the costs of which continue to escalate. But, as their debt rises, they find it harder to keep up with their payments. When they don't, banks, trying to offset losses in other areas, turn around, hike interest rates, and impose all manner of fees and penalties." Third World America, P. 77.
Even when banks initiated foreclosure fraud, they refuse to bear the costs of delays and bad deals of their own making. After pumping up appraisals and falsifying borrowers' income on applications, banks are walking away from abandoned homes and sticking taxpayers with the bill to clean up the mess they left behind. Banks claim that it is mortgage lenders or mortgage servicers who are guilty, but these are bank affiliates and business partners funded by the banks.
Banks supplied the money (via private label phony securitizations) that fueled this problem. Banks engaged in widespread massive mortgage securitization fraud. As underwriters, banks were responsible for doing adequate due diligence on the underlying loans. Banks were responsible for making sure the representations about risk in their financial products were accurate. Instead, the representations were materially misleading. According to a local study by the Woodstock Institute, the mortgage servicers and trustees most often associated with abandoned properties are Bank of America, Wells Fargo, U.S. Bank, Deutsche Bank, and JPMorgan Chase.
We Need the Mother of All Reforms
Doing nothing ensures a relentless downward slide into financial and social chaos for great swaths of the country. Washington's political corruption and mismanagement has the same roots as Chicago's. As Arianna points out, on a national level, we need "the mother of all reforms:"That is why the first step toward stopping our relentless transformation into Third World America has to be breaking the choke hold that special interest money has on our politicians." (Third World America, 172)
Money isn't the only way to sway politicians. One can take away the power politicians try to buy with that money. Among voters, a show of numbers is as effective as money. The middle class needs to make its voice heard in the media and in direct contact with their local and national elected officials.
On a national level, we need a Constitutional amendment requiring full public financing for political campaigns (for starters). Too many politicians are owned by special interest groups that buy votes, finance campaigns, employ their relatives, or just buy them off. As Arianna explained: "If someone's going to own the politicians, it might as well be the American people."
Endnote in response to comments: I use "wilding," since that is the term used by our local mainstream media news articles, including articles at NBC and the Sun-Times. This is the definition given by the free online dictionary: "Slang: The act or practice of going about in a group threatening, robbing, or attacking others."
As Cameron Wields the Ax, Britain Cringes
by Jennifer Ryan - BusinessWeek
The Prime Minister's $130 billion spending-cut plan is in full swing, and Britons are uneasy
On June 5, the British paper the Observer ran a letter from 52 economists begging Prime Minister David Cameron and Chancellor of the Exchequer George Osborne to rethink their radical plan to lower government spending. "Recent economic figures have shown that the government urgently needs to adopt a Plan B for the economy," said the letter. Then came a rare bit of good news for the Prime Minister: an International Monetary Fund report urging Cameron and Osborne to stick to their guns. "Strong fiscal consolidation," wrote the IMF, "remains essential to achieve a more sustainable budgetary position."
The arguments over Cameron's plan are getting heated as the Conservative-Liberal Democrat government presses on with the grim task of executing the deepest budget cuts since World War II. The government envisions about £80 billion ($130 billion) of spending cuts plus £30 billion of tax increases over the next four years. Last year, when the cuts began, was the easiest to bear: Some £6 billion in efficiencies were realized by the government in its various departments. Few layoffs occurred.
This year the pain has intensified. Britons have already felt the pinch of a sales tax boost to 20 percent, from 17.5 percent, which the Office for National Statistics says has added three-quarters of a point to the inflation rate, now at 4.5 percent. A two-year pay freeze for public-sector employees started in April, and cuts on welfare spending, including a three-year freeze in child benefit payments, are under way. A total of 310,000 government-funded jobs are to be wiped out by 2015; about 20,000 of those will be gone by the end of this year.
The psychological effect of the Cameron plan is significant. As the budget cuts unfolded, Sally Wheatman figured her days as a communications officer for the local government in Manchester, 163 miles north of the capital, were numbered. She volunteered to be laid off in April and started a public-relations company with her payout. Though she says she's optimistic about her prospects, Wheatman thinks "very carefully" before making big purchases, and all around her she sees people reflecting "long and hard" about their spending. "I don't get the sense that there's a light at the end of the tunnel," says Wheatman, 45. "When we saw how severe the cuts were, it started to dawn on us that things were going to change."
There are already 2.5 million Britons out of work. As of March, the unemployment rate had held above 7.6 percent for 22 months. The possibility of a worsening job market weighs on consumers, who have seen their incomes squeezed by rising prices for everything from food to car insurance. VocaLink, which processes 90 percent of British salaries paid directly to bank accounts, says annual wage growth in the three months through May was 1.8 percent, not even half the inflation rate. "Income isn't keeping pace with inflation, which is making people nervous," says Nick Moon, a managing director at GfK NOP, a research company that conducts national surveys on consumer confidence. "People aren't going to be rushing out to spend."
If consumers keep a death grip on their wallets, they could kill any chance of a strong recovery and deprive the Treasury of the tax receipts it needs to get the deficit under control. As it is, the economy stagnated over the last two quarters. The IMF lowered its 2011 growth forecast for Britain to 1.5 percent, from a 1.7 percent projection in April. While the weak pound should help manufacturing exports, it will do nothing to encourage consumers to start spending.
Adding to the uncertainty is concern about the next move by the Bank of England, Britain's central bank. "Consumer-spending growth is going to be sluggish at best," says John Bason, finance director of London-based Associated British Foods, which owns the Primark chain of discount clothing stores. "If the authorities were to start tightening interest rates, that has to be negative for the U.K. consumer."
So far the BOE has left the key interest rate at a record-low 0.5 percent. "They're frightened that weak demand growth isn't just a soft patch but something more sustained," says Richard Barwell, an economist at Royal Bank of Scotland Group in London and a former BOE official. "It's become a really big deal." Yet the central bank also has to check rising inflation caused by high commodity prices, the increased sales tax, and a weak pound, which makes imports more expensive. Andrew Sentance, who just stepped down from the BOE's Monetary Policy Committee, has been campaigning to increase the benchmark rate to control inflation. Martin Weale, another committee member, and Spencer Dale, the bank's chief economist, both sided with Sentance this year.
Cameron and Osborne have said they're counting on the BOE to keep policy loose as they push government spending down to 40 percent of gross domestic product from 47 percent. Their plan calls for six consecutive years of spending cuts, a feat that eluded even former Tory Prime Minister Margaret Thatcher. The government's Office for Budget Responsibility forecasts that the deficit, which reached a record 11 percent of GDP in the aftermath of the recession, will narrow to 7.9 percent of GDP by March 2012. So far, though, the efforts of Cameron and Osborne have not gained traction. Britain posted a £10 billion budget deficit in April, the largest for the month since at least 1993, as tax income fell and government spending rose.
That's keeping pressure on Osborne, who only has to look 1,500 miles east to see how Greece is being punished by the bond market because of the perception that it's wavering in its budget commitments. The British government could find itself in similar circumstances if it starts to backpedal. "It's very possible that U.K. growth will disappoint and tax revenue may be less than forecast and they may miss their fiscal targets," says David Tinsley, an economist at National Australia Bank in London and a former central bank official. "The market will take a harsher view on signs they aren't committed to meeting the cuts."
A wild card is organized labor's reaction to austerity. So far the unions have made plenty of noise about staging a showdown with Cameron. Little has come of it. Now the Public & Commercial Services Union, the largest civil service trade union, which represents about 300,000 workers, is balloting its members on a possible strike to protest the job cuts. At a conference of the GMB, another major public-sector union, in Brighton on June 6, Vince Cable, Cameron's business minister, was heckled when he raised the possibility of government action to curtail strikes.
"Confidence is quite easy to lose but hard to get back," GfK's Moon says. For now, "people see themselves getting poorer."
Australian Housing Myths: Responsible Lending
by Steve Keen
Australian banks claim that the reason the US had a housing crisis was because American lenders were irresponsible, while Australian banks were much more responsible in who they lent to. If that's so, why has Australian mortgage debt risen from half the US level (compared to GDP) in 1990 to more than 10% higher now?
Revenu Quebec investigates widespread gold fraud
by Nicolas Van Praet - Financial Post
Revenu Quebec has initiated a massive series of searches and seizures in the Montreal area, alleging that companies and individuals in the gold refining and trading industry engaged in widespread tax fraud on transactions worth $1.8-billion.
More than 175 government investigators conducted the sweep this week, targeting businesses, residences, accountant offices and bankruptcy trustees. Some 125 companies are complicit in the scheme that bilked the government of more than $150-million worth of taxes, Revenu Quebec asserts. No arrests have so far been announced.
The tax department has named only two companies publicly as being the subject of its investigations – Kitco Metals Inc. and Carmen International Inc. Privately-held Kitco, one of the largest retailers of precious metals in the world, denies the allegations against it.
The crackdown marks another major fraud concern for corporate Canada. It comes as the Ontario Securities Commission probes the activities of Sino-Forest Corp., the Toronto Stock Exchange-listed company whose operations in China came under intense scrutiny last week when a report claimed that its assets and revenues had been vastly overstated.
"Revenu Quebec has a duty to be intransigent with those who contravene financial rules and can begin legal proceedings against them," the department said in a statement. The maximum prison term for anyone found guilty in relation to tax evasion is five years, it said.
Two separate networks of individuals and companies are at the heart of the false-billing scheme, Revenu Quebec said. The six-step fraud involved companies using artificial transactions to obtain refunds of taxes that were never actually paid as gold was turned into scrap and then refined back into its pure state.
"Contrary to Revenu Quebec’s allegations in a press release published [Thursday], Kitco Metals Inc. has never participated in any tax fraud, nor has it ever carried out any fictitious transactions," the company said in a statement released late Thursday. "In all respects Kitco vigorously contests all aspects of Revenue Quebec’s investigation."
The company won court approval to appoint an interim receiver, RSM Richter, to help it deal with the allegations. Its daily operations are continuing as they normally do, said company spokesperson Sharlene Dozois.
"[We appointed the receiver] to protect the interest of everyone and have someone work with us through the process," Ms. Dozois said. "We did that voluntarily."
Founded in 1977, Kitco is a well-known retailer of precious metals and it also supplies refining services. The company’s 200 employees buy and sell a wide range of precious metal products in gold, silver, platinum, palladium and rhodium from offices in Montreal, New York, Hong Kong and Shanghai. Its website, which carries live spot prices and expert market commentary, claims to attract nearly 1 million visits daily.
Addressing the allegations directly, Kitco says it is being held "unjustly" responsible for the actions of its suppliers. The company explained in a statement that it buys precious metals scrap and pays its suppliers sales taxes on these purchases for which it receives a tax credit. "It is the responsibility of these suppliers to pay back the sales taxes to Revenu Quebec.
[The ministry] alleges that some of these suppliers have not remitted the taxes paid to them. Revenu Quebec is unjustly holding Kitco responsible for the unremitted taxes, which led to the issuance of the tax assessments."
Revenue Quebec regularly conducts investigations into alleged fraud and tax evasion. But rarely do the results of the investigations result in sweeps of this size. In addition to the two companies named, the department named five individuals it believes were involved in producing fake bills related to false tax declaration. They are Viken Gebenlian, Haroutioun Dakessian, Oskan Hazarabedian, Benjamin Bensimon and Shadia Khatib. No further information was given about the individuals.
Cuomo Urges Broad Limits to N.Y. Public Pensions
by Danny Hakim and Thomas Kaplan - New York Times
Gov. Andrew M. Cuomo, joining a parade of officials from across the country who are seeking to rein in spending by limiting public employees’ pensions, proposed Wednesday to broadly limit retirement benefits for new city and state workers in New York.
Mr. Cuomo said New York State and New York City simply could no longer afford to offer new employees the generous benefits their predecessors received. Among the most significant changes the governor proposes is to raise the minimum retirement age to 65 from 62 for state workers, and to 65 from 57 for teachers. "The numbers speak for themselves — the pension system as we know it is unsustainable," the governor said in a statement. "This bill institutes common-sense reforms to bring government benefits more in line with the private sector while still serving our employees and protecting our retirees."
Mr. Cuomo’s proposal escalates a battle between the first-term Democrat and a major Democratic Party constituency: public-sector labor unions. Unions have been fighting pension changes around the nation, particularly in states like Wisconsin and New Jersey, which have Republican governors. Even in New York, in continuing contract negotiations they have sparred with Mr. Cuomo over layoffs.
Under his new proposal, the governor would require state employees to contribute 6 percent of their salaries into the pension system — up from 3 percent currently. And in an effort to curb rampant padding of pensions by workers who step up their overtime in their final year of employment, Mr. Cuomo would exclude overtime from pension calculations. The changes would affect newly hired workers in a pension system that covers 175,000 state employees and hundreds of thousands of employees of local government and teachers, as well as 300,000 New York City employees.
Labor officials immediately expressed strong opposition. "Congratulations to Governor Cuomo for another grandstand play for the attention of his millionaire friends at the expense of the real working people of New York," Danny Donohue, president of the largest union of state workers, the Civil Service Employees Association, said in a statement. "Governor Cuomo’s proposal can only be viewed as an attack on working people to score some cheap political points."
The president of the New York State Public Employees Federation, Kenneth Brynien, attacked the proposal as "draconian pension cuts that would inflict permanent damage on middle-class workers such as nurses, parole officers, bridge inspectors and cancer researchers for what is a transient problem." "This is about politics and placating big-business special interests, plain and simple," Mr. Brynien added.
Pensions for new workers would still be enviable by the standards of the private sector, and Mr. Cuomo is not going as far as he has talked about in the past, when he raised the idea of shifting from a traditional pension to a defined contribution plan, similar to the 401(k)’s that have proliferated in the private sector. But Mr. Cuomo’s proposal would still cause significant changes to worker retirement plans.
The legislation would end early retirement packages, restrict the pensions of the highest paid state employees and ban the use of unused sick leave or unused vacation time to enhance an employee’s pension calculation. Vesting would take place after 12 years, instead of 10.
The state has a system of five pension tiers that apply to workers hired in different periods, with more recently hired workers generally receiving less in benefits. Mr. Cuomo’s proposal would add a sixth tier. Benefits for law enforcement officers and firefighters, who have more advantageous plans than other employees, would also be scaled back. A newly hired New York City police officer, for example, would vest in the pension plan after 12 years, instead of the current 5.
For New York City workers, many of the changes are the same as for state workers, including raising the retirement age to 65 and increasing the annual contribution to 6 percent. The governor’s bill is unlikely to pass in the current legislative session, which ends June 20, but his proposal could influence the continuing contract negotiations with the two major public-sector unions, and Mr. Cuomo could either call the Legislature back to Albany this year or wait until January to try to have the changes enacted.
Mr. Cuomo’s predecessor, David A. Paterson, won some pension concessions during his brief tenure as governor — but at the price of promising not to lay off any workers. And the changes he signed into law did not apply to New York City employees.
Mr. Cuomo’s proposal could also influence the legislative debate over a property tax cap, because the governor can now argue that with the pension proposal, he is seeking to reduce the future cost of local government. Mayor Michael R. Bloomberg, who has frequently bemoaned the effect of high pension costs on New York City spending, said he was delighted with the new proposal because Mr. Cuomo’s legislation encompassed proposals by the mayor’s office for the city pension system.
"By making sensible pension reforms that won’t impact a single current employee or existing retiree, this legislation will create $30 billion in savings over the next 30 years for the city, which will ensure we can afford the services and work force that city residents depend on," Mr. Bloomberg said in a statement.
Legislators had subdued reactions. "I haven’t seen it yet, but in all honesty, there’s only six or seven session days left," said Assemblyman Peter J. Abbate Jr., a Brooklyn Democrat and chairman of the Assembly’s Governmental Employees Committee. "It’s really cutting it close to the wire."
And Senator Martin J. Golden, a Brooklyn Republican who is chairman of the Committee on Civil Service and Pensions, said, "It’s difficult to try to get this off the ground in the next five or six days," adding, "It’s definitely got labor up in arms, that’s for sure." Pension costs have been soaring. In New York City, costs have jumped to $8.4 billion a year from $1.1 billion in 2001, according to the governor’s office. For the state and other local governments, pension costs have risen to $6.6 billion, from $368 million in 2001.
The pension debate is also heating up in New Jersey, where Gov. Chris Christie, a Republican, has been demanding a big increase in what public employees pay toward benefits. Officials said on Wednesday that they expected an announcement that the governor and the Senate president, Stephen M. Sweeney, a Democrat, had reached an agreement giving Mr. Christie much of what he wanted — but then no announcement took place.
New Jersey Nears Deal to Cut Pensions, Benefits
by Lisa Fleisher - Wall Street Journal
New Jersey Gov. Chris Christie and Senate legislative leaders have reached a deal to cut pensions and benefits for current public employees, according to a person familiar with the matter.
The deal would require workers to pay more of their salaries into the pension system, give up annual cost-of-living increases and pay a percentage of their health care premiums in a tiered system based on their salary, this person said. New employees would have to work longer to get full benefits. Current retirees would not be affected by the deal, nor will people who have at least 25 years in the system.
Top Democratic lawmakers appear to support the proposal. Senate President Stephen Sweeney, who is also a private-sector labor leader, believes he has the votes in his caucus to make it work, according to a person familiar with the matter. It’s unclear whether Assembly Speaker Sheila Oliver is on board with the deal — one legislative source said she was — and if she would be able to muster enough votes in the Assembly, which has been more of an obstacle to Christie’s agenda. Oliver "has no comment at this time," her spokesman Tom Hester said.
The deal, which has yet to be officially announced, comes more than nine months after Christie announced his proposals for cuts to help balance a pension system that was $53.9 billion underfunded at last count. Health-care liabilities for New Jersey’s public employees are even greater. Officials from the governor’s office could not be reached for comment.
The Communications Workers of America, one of the unions that would be affected by the deal, criticized Sweeney’s role in the agreement. "This is an outrageous attack on the collective bargaining rights of New Jersey’s public workers and their standard of living," said Bob Master, CWA’s political director. "Nowhere else in the country have Democrats turned their backs on working people."
Labor unions say they are being unfairly targeted to make up for the state’s mistakes. Governors and lawmakers have consistently chosen to spend money on other parts of the state budget, skipping full or parts of pension fund payments and causing the hole to grow deeper. For example, Christie this year skipped a $3.1 billion payment to balance his $29.4 billion budget.
Other major factors include stock-market crashes in 2001 and 2008 as well as a 9% boost given across the board to workers in 2001. One significant change included in the proposal would contractually require the state to make its payments into the pension fund. For more than a decade, New Jersey has skipped payments into the pension system, made only partial payments or re-adjusted accounting to make the system look healthier than it is.
A labor-management board system similar to what was proposed by Sweeney will also be put in place under the terms of the deal. Once the pension system hits a target of 75% funded, the board of four union representatives and four employer representatives will have the power to make changes to contribution rates, retirement ages and cost-of-living adjustments.
The governor would also give up a right to impose a contract, moving instead to a super-conciliation process in which a mediator draws up an agreement if there is an impasse. The deal would apply to Christie’s current negotiations with state workers to renew their contract, which expires at the end of June.
Under the deal, teachers and state workers will immediately increase their contributions to the pension system from 5.5% of their salary to 6.5%, with an additional 1% contribution phased in over seven years. State police, municipal police and firefighters will increase their contributions immediately from 8.5% of salary to 10%. Judges will need to increase contributions from 3% to 12%. Automatic cost-of-living adjustments will be eliminated. New employees would have to work longer to get full pension benefits.
As for health care, employees would have to pay up to 30% of the cost of the premiums, depending on their salaries. The contribution would be phased in over four years. The goal is to make the pension system 80% funded in 30 years — a target that is seen as healthy. Pension systems, which take in money as it’s paid out, are not seen as needing to be 100% funded.
Dutch to reform €800 billion pension fund industry
by Gilbert Kreijger - Reuters
A pending reform of the Dutch pension sector will determine the investment path for more than 800 billion euros of funds, potentially affecting bond prices and the cost of interest rate hedging.
About 112 billion euros was wiped off Dutch pension funds' portfolios in the 2008 financial crisis, putting many funds below the 100 percent solvency level, meaning some had to freeze or cut payouts. That led to calls for an overhaul and to talks between employers and unions -- who are both involved in the management of pension funds in the Netherlands -- about who should bear investment risks and to what extent pensions should be guaranteed.
The minister of social affairs and employment, Henk Kamp, who determines pension fund regulations, is also considering if rules need to be changed. Most funds are controlled by private sector employers and unions although the biggest, the 242 billion euro civil servants' fund ABP, is seen as a state pension fund. Talks are now in the final stages. Below are various possible outcomes:
Use Of A Different Rate To Discount Obligations
Currently, many pension funds hedge the interest rate risk on bond holdings -- estimated at 300-400 billion euros -- against a possible fall in a risk-free discount rate, set by the Dutch central bank (DNB) and used to calculate the net present value of pension obligations.
If the minister changes how liabilities are discounted, the use of such hedging will be reduced, said Jan Bertus Molenkamp, a director at Kempen Capital Management who advises Dutch pension funds. "If Kamp sets the rate at, say, a fixed 4 percent, it no longer helps to hedge the very long liabilities at low interest rates. Therefore the interest rate will probably go up at the very long end of the curve," Molenkamp said.
The impact could be quick and one-off, until supply and lower demand for long bonds and swaps reach a new equilibrium. A decline in the discount rate since September 2008, when Lehman Brothers failed, drove the solvency ratio of many Dutch pension funds below 100 percent. Kamp is currently studying alternatives such as the use of the European Central Bank's triple A interest rate curve or a so-called ultimate forward rate.
If pension funds cut back on interest rate hedging, this will hurt business at their counterparties, usually big banks such as BNP Paribas, JP Morgan, Barclays, Goldman Sachs and ING, analysts said. The move could also affect hedge funds that typically take positions in anticipation of changes in regulation and investment strategies.
Employers and unions may opt for an explicit real pension target, whereby pension payments take into account inflation: this could also lead to less interest rate hedging and reduce demand for bonds with maturities of 30 years or more.
"If there is a move to a real guarantee scheme, the inflation risk will be much more visible," said Gerwin Griffioen, an investment consultant at Insinger de Beaufort. "Hedging for the interest rate risk with swaps will then fall sharply," he added.
Molenkamp said he does not expect funds to completely stop hedging the interest rate risk in their liabilities. "If the hedging percentage is high, they will probably reduce the hedging percentage to, for example, 50 percent. At this level the nominal matching does still help to reduce real risks. The regulatory framework in this new setting is very important for the matching percentage for pension funds."
An inflation-linked pension would also encourage a switch to shorter-dated maturities of five to 10 years, because very long-dated bonds are more vulnerable to inflation risk.
Employees Bear Greater Share Of Risks
The asset allocation between bonds and stocks could change if employees and retirees have to bear a greater share of the investment risk. Currently, some Dutch employers are obliged to recapitalise a pension fund when there is a funding shortage. Griffioen said the allocation of fixed interest rate assets versus other investments may shift to 50/50 from about 60/40 now but added he did not expect big or sudden allocation swings.
Europeans Act to Stem Drought Damage
by Doreen Carvajal - New York Times
Suffering from a record-shattering drought, European nations started preparing emergency plans this week to conserve water and provide millions of euros in aid to farmers, including the deployment of soldiers to deliver hay for cattle grazing on sun-baked soil.
On Thursday, President Nicolas Sarkozy toured a cattle farm in western France to announce an aid package and the service of soldiers and national trains to deliver fodder for livestock farmers. They are comparing the warm temperatures to the heat wave in the summer of 2003, when more than 10,000 people died in Europe.
The aid, which officials said could reach €1 billion, or more than $1.4 billion, also includes a year deferment on paying back government farm loans, a land-tax exemption, and the development of a five-year plan to improve water reserves and management. "It is essentially a cash flow problem," Mr. Sarkozy said in his tour of a farm in Montemboeuf. "We will find you room to maneuver."
Farmers are facing difficult conditions. Before rainstorms last week, the period from March to May in France was the driest in the previous 50 years and the warmest since 1900, according to Météo France, the public weather service.
Records have also fallen in England, where the spring has been the driest since 1910 and the warmest since 1659. In Germany, the weather service said the drought was the worst since the nation started measuring rain in 1893. Friedrich-Wilhelm Gerstengarbe, a scientist and assistant director of the Potsdam Institute for Climate Impact Research, said he considered global warming a factor in a changing pattern of extreme weather conditions of drought, storms, and floods.
"The stable climate we had for 100 years before is now changing to an unstable one," he said. "The question is, what kind of plans will nations use in the next decade if droughts increase?"
This year’s drought is already starting to have a cascading effect, from a 13 percent decline in the French wheat crop that could lead to an extra five cents for a daily baguette to the early slaughter of cattle because parched grazing lands are brown with dead grass.
A plunge in the rapeseed harvest in Germany, which produces about a quarter of the Europe Union’s crop, is expected to depress biodiesel production. In some parts of the Netherlands, the river levels have fallen to a 90-year low and dikes are being monitored for risks of drying out and cracking. Wheat and barley are wilting in England, which will have an effect on beer production.
A few industries have remained immune to the drought. Salt harvesters in Guérande, in western France, have gathered the salt almost two months earlier then usual because of the dry conditions.
The dearth of rain has not affected the French wine industry so far. The deep roots of grave vines extend meters into the ground, tapping water reserves longer then other crops. In Burgundy and Bordeaux, for example, grape development is about three weeks ahead of schedule because of warm weather, according to regional trade associations. "We have no worries about the weather, at least for the moment," said Eve Gueydon, who heads technical communications at the Bureau Interprofessionnel des Vins de Bourgogne, the trade association for Burgundy wines. "Other dry years have produced great vintages."
But for other farmers, like Ralf Schaab, who runs Hof Erbenheim, a fruit and vegetable farm in Germany, the soil remains parched even after some rain fell in early June. "Normally, we have no artificial irrigation because we have very good soil that can store a lot of water," Mr. Schaab said. "So it’s not such a big problem if it does not rain for four to six weeks. But eventually good soil reaches its limits and that exactly was the case after a three-month dry spell."
In Europe’s capitals, the authorities are considering conservation and relief measures, in particular for livestock producers. The payment of cattle subsidies to farmers will be advanced to October from December, said Roger Waite, a spokesman for the European Commission. He said a working group of the beef industry had been formed to develop relief measures this summer.
"From what we’ve seen, the lack of rainfall is most significant in the Netherlands, Belgium, France and areas of Spain, Germany and England," Mr. Waite said. "It varies from crop to crop. Above all, the livestock will be the worst hit, especially cattle because of the cost of feed. The trouble is that if grass doesn’t grow, the farmer has to provide extra feed and they are hit with an unexpected cost."
In England, farmers, government officials and utility companies plan to meet this week to evaluate the drought’s impact on southern and eastern England. Caroline Spelman, the environment secretary, has commissioned a report on the effect on food production and water and power supplies. France has also set up a monitoring committee for its energy industry, as the authorities are concerned about the impact on electricity supplies and the control of river flows. France is home to more than 50 nuclear power plants, which generate most of its electricity and use river water to cool their systems.
The Energy Ministry has insisted that the drought does not present a safety problem. But critics recall that during the hot summer in 2003, low river waters forced the government to turn off several nuclear plants.
Japan Considers Evacuating More Towns
by Yuka Hayashi - Wall Street Journal
Japanese government officials said they are considering evacuating more towns affected by radiation, after recent monitoring data showed new "hot spots" of elevated contamination farther away from the stricken Fukushima Daiichi nuclear power plant.
The areas under review include one neighborhood each in two cities, and could affect more than 180 families. The areas fall outside Japan's existing evacuation zone of 30 kilometers, but within the 80-kilometer evacuation zone initially recommended by the U.S. Nuclear Regulatory Commission.
The reports of additional radiation-threatened areas shows how, nearly three months after the March 11 earthquake and tsunami triggered a nuclear disaster, the Japanese government is still struggling to determine the extent of the risk to its population and how best to respond.
The possibility of more evacuations was confirmed following a series of recent reports that showed the nuclear accident at the Fukushima Daiichi plant was more severe than earlier described. The data have added to concern among residents near the plant and elsewhere that the government hasn't done enough to protect its citizens, particularly children, from the harms of radiation.
"We really wanted Prime Minister [Naoto] Kan to show us a resolve that the government will take full responsibility for fixing the problems," said Katsunobu Sakurai, mayor of Minamisoma City, where one of the newly found hot spots is located. "Unfortunately, those of us who are on the ground have had to make our own judgments to reassure our people."
Mr. Sakurai said some residents have expressed concern about high levels of radiation in their neighborhood, prompting the city to request closer monitoring by the central and prefectural governments. Residents have grown more knowledgeable about radiation levels, in part as municipalities and non-profit organizations have leased measuring equipment.
Officials said the discovery of new hot spots doesn't mean there are new problems at Fukushima Daiichi. They said the elevated readings likely come from soil in the areas that absorbed the radiation spread in the air and through rain during the early days of the nuclear disaster, rather than from new accumulation. The operator of the plant, Tokyo Electric Power Co., has said airborne radiation has been brought under control.
"The government would like to come up with the safest and most conservative possible steps to deal with the situation, with residents' health in mind," Tetsuro Fukuyama, the deputy chief cabinet secretary, said Thursday.
Tokyo's policy calls for the evacuation of residents when their estimated exposure to radiation is estimated to exceed 20 milisieverts for a full year. Based on the government's latest radiation monitoring data from May 25, four locations are newly determined to have surpassed that level. The government says there are no immediate health effects from exposure to those levels, at least in the short to medium terms.
The new hot spots, though located well outside the 30-kilometer evacuation zone surrounding the Fukushima Daiichi plant, are close to other places outside of the radius, to the northwest of the stricken plant, where the government has already ordered targeted evacuations.
Three of the four new hot spots are in the Ryozencho area of Date City, a neighborhood with 180 households located 50 kilometers from the plant. Ryozencho lies about 16 kilometers from the center of Fukushima City, the area's most populous community, with 300,000 people. A Date City spokesman said the city is monitoring the situation closely while analyzing the latest data. The three points in Date showed estimated radiation levels of between 20.0 and 20.8 milisieverts per year.
Earlier in the week, Date delivered basic radiation monitoring devices to all 8,000 children in its schools. The children will wear badge-type dosimeters for about a month, according to an official at a local education committee, after which the devices will be sent to a laboratory to check radiation levels. Another new hot spot, within Minamisoma's Haramachi neighborhood, has just "several households," Mr. Sakurai said at a news conference. The reading there was 23.8 milisieverts.
Roundup Birth Defects: Regulators Knew World's Best-Selling Herbicide Causes Problems, New Report Finds
by Lucia Graves - Huffington Post
Industry regulators have known for years that Roundup, the world's best-selling herbicide produced by U.S. company Monsanto, causes birth defects, according to a new report released Tuesday. The report, "Roundup and birth defects: Is the public being kept in the dark?" found regulators knew as long ago as 1980 that glyphosate, the chemical on which Roundup is based, can cause birth defects in laboratory animals.
But despite such warnings, and although the European Commission has known that glyphosate causes malformations since at least 2002, the information was not made public. Instead regulators misled the public about glyphosate's safety, according to the report, and as recently as last year, the German Federal Office for Consumer Protection and Food Safety, the German government body dealing with the glyphosate review, told the European Commission that there was no evidence glyphosate causes birth defects.
The report comes months after researchers found that genetically-modified crops used in conjunction Roundup contain a pathogen that may cause animal miscarriages. After observing the newly discovered organism back in February, Don Huber, an emeritus professor at Purdue University, wrote an open letter to Secretary of Agriculture Tom Vilsack requesting a moratorium on deregulating crops genetically altered to be immune to Roundup, which are commonly called Roundup Ready crops.
In the letter, Huber also commented on the herbicide itself, saying: "It is well-documented that glyphosate promotes soil pathogens and is already implicated with the increase of more than 40 plant diseases; it dismantles plant defenses by chelating vital nutrients; and it reduces the bioavailability of nutrients in feed, which in turn can cause animal disorders." Although glyphosate was originally due to be reviewed in 2012, the Commission decided late last year not to bring the review forward, instead delaying it until 2015. The chemical will not be reviewed under more stringent, up-to-date standards until 2030.
"Our examination of the evidence leads us to the conclusion that the current approval of glyphosate and Roundup is deeply flawed and unreliable," wrote the report authors in their conclusion. "What is more, we have learned from experts familiar with pesticide assessments and approvals that the case of glyphosate is not unusual. "They say that the approvals of numerous pesticides rest on data and risk assessments that are just as scientifically flawed, if not more so," the authors added. "This is all the more reason why the Commission must urgently review glyphosate and other pesticides according to the most rigorous and up-to-date standards."