October 17 2011: Diamonds in the Rough

Lewis Wickes Hine Dinner Time January 22, 1909
"Dinner time. Family of Mrs. A.J. Young, Tifton, Georgia" (See also the picture in TAE October 15)

Ilargi: Bit of an unusual post today.

First, a series of short videos in which Stoneleigh aka Nicole Foss talks about finance and energy.

Then, a call from Ashvin Pandurangi to the TAE community to participate in an interactive project he's starting. Ashvin is looking for diamonds in the rough, things that can help us make it (better) through a financial collapse.

He then writes about the first such diamond himself: the banking system of North Dakota.

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5 short videos of Nicole Stoneleigh Foss talking about finance and energy to the Swedish team of Andersö&Boman. The location is an old retired tugboat in the old port in the center of Stockholm. The date is October 11 2011.


Finance and Bubbles




Nuclear Power




Cheap Energy




Decoupling




Alternative Energy

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Ashvin Pandurangi:




Searching for Diamonds in the Rough


Attention Members of The Automatic Earth Community!!

We are pleased to announce the beginning of a new series of articles that will focus on models, ideas, concepts, developments, etc., that could potentially play a significant role in shaping our collective futures during or after upcoming periods of financial and/or industrial collapse.

It will be an interactive process and will draw upon the knowledge and resources of everyone in the TAE community who is able and willing to participate! Anyone who wishes to participate must simply email the idea to [taediamonds at gmail dot com], along with a few supporting sources of information on the concept (articles, papers, videos, other relevant material, etc.).

The ideas will be collected and reviewed in the order they are received. Once they are briefly reviewed, the first four ideas will be listed in a poll on TAE website, and everyone will be allowed to vote for a full week on which idea they are most interested in hearing about in further detail .

Once a winning idea is established by the TAE community, the originator of the idea will be contacted and given a chance to produce his/her own write-up on the idea and for it to be published as a lead TAE article. If the originator declines, then another member will do a short write-up on the idea whenever time permits.

After the relevant article is published, the entire process will re-start. To make this work, a few loose guidelines should be followed:

Only one idea can be submitted by each person for each period. Once a winning idea for a period is established, another idea can be submitted.

2) The idea must have some existing foundation for its potential importance or success in the future (i.e. no ideas about people escaping Earth on a space shuttle and colonizing Mars with a sustainable Green society).

2) The idea must focus on the actual or potential actions of individuals or small groups that have or could unilaterally accomplish their goals, rather than relying on top-down "solutions" (i.e. no ideas about organizing protests to affect systemic political change).

Example: North Dakota's model of a state-owned central bank and independent monetary system, and its viability as a model for other states post financial collapse (sorry, this idea will be the first entry to kick things off and is now officially off the table).

Please email ideas and any questions to the address listed above. Thank you and we look forward to hearing from all of you soon!

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Ashvin Pandurangi:



North Dakota's Monetary Magic

Amid of all of the chaos and confusion in the global economy, there exists a humble bastion of relative economic peace and prosperity, and it exists in the developed world no less. It's known as the state of "North Dakota". Typically flying well under the radar of any mainstream analysis or even casual reference, it was first the subject of a recent piece in the New York Times entitled The North Dakota Miracle and then another piece critiquing the NYT article, written by Ellen Brown in Yes Magazine. The NYT piece superficially credited "oil" with North Dakota's 3.3% unemployment rate, consistent budget surplus and stable financial system.

That prompted Ellen Brown to pen her critically perceptive piece entitled,

North Dakota's Economic 'Miracle' - It's Not Oil

Ellen Brown: "Oil is certainly a factor, but it is not what has put North Dakota over the top. Alaska has roughly the same population as North Dakota and produces nearly twice as much oil, yet unemployment in Alaska is running at 7.7 percent. Montana, South Dakota, and Wyoming have all benefited from a boom in energy prices, with Montana and Wyoming extracting much more gas than North Dakota has. The Bakken oil field stretches across Montana as well as North Dakota, with the greatest Bakken oil production coming from Elm Coulee Oil Field in Montana. Yet Montana’s unemployment rate, like Alaska’s, is 7.7 percent.

A number of other mineral-rich states were initially not affected by the economic downturn, but they lost revenues with the later decline in oil prices. North Dakota is the only state to be in continuous budget surplus since the banking crisis of 2008. Its balance sheet is so strong that it recently reduced individual income taxes and property taxes by a combined $400 million, and is debating further cuts. It also has the lowest foreclosure rate and lowest credit card default rate in the country, and it has had NO bank failures in at least the last decade."

The availability of energy and material resources is always a fundamental factor contributing to economic stability and growth, but focusing only on that conveniently allows us to skate around the stark financial discrepancy between North Dakota and every other struggling American state. Which is, of course, the existence of a state-owned central bank in ND that clears checks, guarantees student loans and business development loans, and issues credit money within the state and independently of the privately-owned Federal Reserve System.

Yep, you heard right! While the powerful institutions of Europe, the Middle East, Latin America and Southeast Asia have so far been inextricably locked into the devastating effects of corrupt Fed monetary policy, such as trade imbalances and high inflation, and entire multi-trillion dollar economies are descending into insolvency through incurable deficits, one single agricultural state within the U.S. has escaped the Squid's blood funnel in a magical sleight of finance that can only be described as Houdini on steroids. As described by Ellen Brown below, North Dakota has certainly reaped the benefits of its monetary courage.

North Dakota's Economic 'Miracle' - It's Not Oil

"Access to credit is the enabling factor that has fostered both a boom in oil and record profits from agriculture in North Dakota. The Bank of North Dakota (BND) does not compete with local banks but partners with them, helping with capital and liquidity requirements. It participates in loans, provides guarantees, and acts as a sort of mini-Fed for the  state.

...The BND also has a loan program called Flex PACE, which allows a local community to provide assistance to borrowers in areas of jobs retention, technology creation, retail, small business, and essential community  services."

...According to the BND report:

'Financially, 2010 was our strongest year ever. Profits increased by nearly $4 million to $61.9 million during our seventh consecutive year of record profits. Earnings were fueled by a strong and growing deposit base, brought about by a surging energy and agricultural economy. We ended the year with the highest capital level in our history at just over $325 million. The Bank returned a healthy 19 percent ROE, which represents the state’s return on its investment.'

It's understandably a common reaction these days to hear the word "debt" or "credit" and cringe with disgust. The last thing our world system needs to regain health and stability is more credit (debt) when there is already tens of trillions of dollars worth of outstanding liabilities that cannot come close to being paid off with current and future revenues. Well, that sentiment is very true for the global system as a whole, but not necessarily for localized components of the system which are attempting to distance themselves from the broader debt machine and weather the ongoing financial storm.

At the state and local level, a transparent, state-owned and well-manged central banking institution could help local farmers and entrepreneurs with maintaining their productive operations, and expanding when it's deemed prudent to do so. Almost none of the credit money generated would finance operations outside of the state or be funneled through the TBTF national banks, which are best described as the insatiable tape worms living in the digestive tract of a developed capitalist society. North Dakota's monetary officials know that, once those guys get involved, all productive capital flows will simply become parasitic, i.e. wasted in graft and mis-allocated towards unnecessary and speculative projects.




Protester at October 6 2011 Occupy Wall Street Gathering


It is certainly true that North Dakota's cozy unemployment and public debt situation will become less comfortable after the next huge leg down in the ongoing global financial crisis. It must still live according to some fiscal rules of the broader union, and it will be forced to pay for the mistakes of a misguided nation through oppressive tax policy and decreased commercial activity with other states. However, it is unlikely that its economic situation will deteriorate as quickly and as severely as many other states, such as California or New York. A comparison to the former, written by Law Professor Timothy Canova in his paper The Public Option, is presented by Ellen Brown:

North Dakota's Economic 'Miracle' - It's Not Oil

"In contrast, California is the largest state economy in the nation, yet without a state-owned bank, is unable to steer hundreds of billions of dollars in state revenues into productive investment within the state. Instead, California deposits its many billions in tax revenues in large private banks which often lend the funds out-of-state, invest them in speculative trading strategies (including derivative bets against the state’s own bonds), and do not remit any of their earnings back to the state treasury.

Meanwhile, California suffers from constrained private credit conditions, high unemployment levels well above the national average, and the stagnation of state and local tax receipts. The state’s only response has been to stumble from one budget crisis to another for the past three years, with each round of spending cuts further weakening its economy, tax base, and credit rating."

The major medium to long-term obstacles for ND are, of course, energy and environmental issues such as peak oil, climate change, water contamination, topsoil degradation, etc. That is also another reason why its state-owned and managed monetary circuits will be invaluable during and after a collapse of the global financial system. ND will be one of the few states to have both the proper incentives (collapsing demand for energy) and some of the critical institutions necessary to efficiently re-allocate resources towards alternative energy systems, sustainable farming and environmental preservation.

In addition, once the U.S. dollar is eventually poised to devalue into near worthless pieces of paper, North Dakota will have a state-issued currency and banking model that facilitates local production and exchange and one that is the envy of all of its neighbors. It is always a possibility that such envy will attract more danger than respect, but the opposite could also be true. Communities and states will be desperately searching for models to placate their residents and stabilize their economies once it is clear that the federal government and reserve banking system is only capable of producing counter-productive policies. Many of them will not have to look much farther than North Dakota.

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Economics has met the enemy, and it is economics
by Ira Basen - Globe And Mail

After Thomas Sargent learned on Monday morning that he and colleague Christopher Sims had been awarded the Nobel Prize in Economics for 2011, the 68-year-old New York University professor struck an aw-shucks tone with an interviewer from the official Nobel website: "We're just bookish types that look at numbers and try to figure out what's going on."

But no one who'd followed Prof. Sargent's long, distinguished career would have been fooled by his attempt at modesty. He'd won for his part in developing one of economists' main models of cause and effect: How can we expect people to respond to changes in prices, for example, or interest rates? According to the laureates' theories, they'll do whatever's most beneficial to them, and they'll do it every time. They don't need governments to instruct them; they figure it out for themselves. Economists call this the "rational expectations" model. And it's not just an abstraction: Bankers and policy-makers apply these formulae in the real world, so bad models lead to bad policy.

Which is perhaps why, by the end of that interview on Monday, Prof. Sargent was adopting a more realistic tone: "We experiment with our models," he explained, "before we wreck the world."

Rational-expectations theory and its corollary, the efficient-market hypothesis, have been central to mainstream economics for more than 40 years. And while they may not have "wrecked the world," some critics argue these models have blinded economists to reality: Certain the universe was unfolding as it should, they failed both to anticipate the financial crisis of 2008 and to chart an effective path to recovery.

The economic crisis has produced a crisis in the study of economics – a growing realization that if the field is going to offer meaningful solutions, greater attention must be paid to what is happening in university lecture halls and seminar rooms. While the protesters occupying Wall Street are not carrying signs denouncing rational-expectations and efficient-market modelling, perhaps they should be.

They wouldn't be the first young dissenters to call economics to account. In June of 2000, a small group of elite graduate students at some of France's most prestigious universities declared war on the economic establishment. This was an unlikely group of student radicals, whose degrees could be expected to lead them to lucrative careers in finance, business or government if they didn't rock the boat. Instead, they protested – not about tuition or workloads, but that too much of what they studied bore no relation to what was happening outside the classroom walls.

They launched an online petition demanding greater realism in economics teaching, less reliance on mathematics "as an end in itself" and more space for approaches beyond the dominant neoclassical model, including input from other disciplines, such as psychology, history and sociology. Their conclusion was that economics had become an "autistic science," lost in "imaginary worlds." They called their movement Autisme-economie.

The students' timing is notable: It was the spring of 2000, when the world was still basking in the glow of "the Great Moderation," when for most of a decade Western economies had been enjoying a prolonged period of moderate but fairly steady growth.

Some economists were daring to think the unthinkable – that their understanding of how advanced capitalist economies worked had become so sophisticated that they might finally have succeeded in smoothing out the destructive gyrations of capitalism's boom-and-bust cycle. ("The central problem of depression prevention has been solved," declared another Nobel laureate, Robert Lucas of the University of Chicago, in 2003 – five years before the greatest economic collapse in more than half a century.)

The students' petition sparked a lively debate. The French minister of education established a committee on economic education. Economics students across Europe and North America began meeting and circulating petitions of their own, even as defenders of the status quo denounced the movement as a Trotskyite conspiracy. By September, the first issue of the Post-Autistic Economic Newsletter was published in Britain.

As The Independent summarized the students' message: "If there is a daily prayer for the global economy, it should be, ‘Deliver us from abstraction.'"

It seems that entreaty went unheard through most of the discipline before the economic crisis, not to mention in the offices of hedge funds and the Stockholm Nobel selection committee. But is it ringing louder now? And how did economics become so abstract in the first place?

The great classical economists of the late 18th and early 19th centuries had no problem connecting to the real world – the Industrial Revolution had unleashed profound social and economic changes, and they were trying to make sense of what they were seeing. Yet Adam Smith, who is considered the founding father of modern economics, would have had trouble understanding the meaning of the word "economist."

What is today known as economics arose out of two larger intellectual traditions that have since been largely abandoned. One is political economy, which is based on the simple idea that economic outcomes are often determined largely by political factors (as well as vice versa). But when political-economy courses first started appearing in Canadian universities in the 1870s, it was still viewed as a small offshoot of a far more important topic: moral philosophy.

In The Wealth of Nations (1776), Adam Smith famously argued that the pursuit of enlightened self-interest by individuals and companies could benefit society as a whole. His notion of the market's "invisible hand" laid the groundwork for much of modern neoclassical and neo-liberal, laissez-faire economics. But unlike today's free marketers, Smith didn't believe that the morality of the market was appropriate for society at large. Honesty, discipline, thrift and co-operation, not consumption and unbridled self-interest, were the keys to happiness and social cohesion. Smith's vision was a capitalist economy in a society governed by non-capitalist morality.

But by the end of the 19th century, the new field of economics no longer concerned itself with moral philosophy, and less and less with political economy. What was coming to dominate was a conviction that markets could be trusted to produce the most efficient allocation of scarce resources, that individuals would always seek to maximize their utility in an economically rational way, and that all of this would ultimately lead to some kind of overall equilibrium of prices, wages, supply and demand.

Political economy was less vital because government intervention disrupted the path to equilibrium and should therefore be avoided except in exceptional circumstances. And as for morality, economics would concern itself with the behaviour of rational, self-interested, utility-maximizing Homo economicus. What he did outside the confines of the marketplace would be someone else's field of study.

As those notions took hold, a new idea emerged that would have surprised and probably horrified Adam Smith – that economics, divorced from the study of morality and politics, could be considered a science. By the beginning of the 20th century, economists were looking for theorems and models that could help to explain the universe. One historian described them as suffering from "physics envy." Although they were dealing with the behaviour of humans, not atoms and particles, they came to believe they could accurately predict the trajectory of human decision-making in the marketplace.

In their desire to have their field be recognized as a science, economists increasingly decided to speak the language of science. From Smith's innovations through John Maynard Keynes's work in the 1930s, economics was argued in words. Now, it would go by the numbers.

The turning point came in 1947, when Paul Samuelson's classic book Foundations of Economic Analysis for the first time presented economics as a branch of applied mathematics. Without "the invigorating kiss of mathematical method," Samuelson maintained, economists had been practising "mental gymnastics of a particularly depraved type," like "highly trained athletes who never run a race." After Samuelson, no economist could ever afford to make that mistake.

And that may have been the greatest mistake of all: In a post-crisis, 2009 essay in The New York Times Magazine, Princeton economist and Nobel laureate Paul Krugman wrote, "The central cause of the profession's failure was the desire for an all-encompassing, intellectually elegant approach that gave economists a chance to show off their mathematical prowess."

Of course, nothing says science like a Nobel Prize. Prizes in chemistry, physics and medicine were first awarded in 1901, long before anyone would have thought that economics could or should be included. But by the late 1960s, the central bank of Sweden was determined to change that, and when the Nobel family objected, the bank agreed to put up the money itself, making it the only one of the prizes to be funded by taxpayers.

Officially, then, it is known as the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel – but that title is rarely used. On Monday morning, Prof. Sargent and Princeton University Prof. Sims were widely reported to have won the Nobel Prize in Economics.

The confusion is understandable, and deliberate, according to Philip Mirowski, an economic historian at the University of Notre Dame. "It's part of the PR trick," Prof. Mirowski argues. Awarding the economics prize immediately after the prizes for physics, chemistry and medicine helps to place economics on the same level as those other natural sciences.

The prize also has helped to transform one particular ideology into economic orthodoxy. Prof. Mirowski, who is co-writing a book on the history of the economics prize, notes that throughout the 1970s and 1980s, economists whose work supported neoclassical, pro-market, laissez-faire ideas won a disproportionate number of those honours, as well as support from the increasing numbers of well-funded think tanks and foundations that cleaved to the same lines.

People who rejected those ideas, or were skeptical of the natural sciences model, were quickly marginalized, and their road to academic advancement often blocked. The result was a homogenization of economic thought that Prof. Mirowski believes "has been pretty deleterious for economics on the whole."

The road to hell is paved with good intentions, rational expectations and efficient markets
Many critics of neo-classical economics argue that it has a powerful pro-market bias that's provided an intellectual justification for politicians ideologically disposed to reduce government involvement in the economy.

The rational-expectations model, for example, assumes that consumers and producers all inform themselves with all available data, understand how the world around them operates and will therefore respond to the same stimulus in essentially the same way. That allows economists to mathematically forecast how these "representative" consumers and producers would behave.

During a recession, say, a well-meaning government might want to enhance benefits for the unemployed. Prof. Sargent, for one, would caution against that, because a "rational" unemployed worker might then calculate that it's better to reject a lower-paying job. He's blamed much of the chronically high unemployment in some European countries on the presence of an army of voluntarily unemployed workers, and spoken out against the Obama administration's recent efforts to extend unemployment benefits.

Indeed, under the rational-expectations model, most market interventions by governments and central banks wind up looking counterproductive. Meanwhile, the efficient-markets hypothesis, developed by University of Chicago economist Eugene Fama in the 1970s, has dominated thinking about financial markets. It posits that the prices of stocks and other financial assets are always "efficient" because they accurately reflect all the available information about economic fundamentals.

By this reasoning, there can be no speculative price bubbles or busts in the stock or housing markets, and speculators with evil intentions cannot successfully manipulate markets. Conveniently, since markets are self-stabilizing, there's no need for government regulation of them.

Critics point out that both these theories tend to ignore what John Maynard Keynes called the "animal spirits" – playing down human irrationality, inefficiency, venality and ignorance. Those are qualities that are hard to plug into a mathematical equation that purports to model human behaviour.

These models also have failed to take into account the profound changes wrought by globalization, and the growing importance of banks, hedge funds and other financial institutions. Yet they have successfully provided a "scientific" cover for an anti-regulatory political agenda that is popular on Wall Street and in some Washington political circles.

Inside jobs: Pay no attention to that banker behind the curtain
The Great Depression of the 1930s led many economists of the day to question some of their discipline's most fundamental assumptions and produced a decades-long heyday for Keynesian economics. So far, the Great Recession has led to less of a fundamental shift.

Notre Dame's Prof. Mirowski believes that more rethinking is necessary. "Everyone thought the banks would have to change their behaviour, but they got bailed out and nothing changed. The economics profession has also been bailed out because it is so highly interlinked with the financial profession, so of course they don't change. Why would they change?"

Indeed, economics may be the dismal science, but there is nothing dismal about the payoffs for those at the top of the heap serving as advisers and consultants and sitting on various boards. Unlike some disciplines, economics has no guidelines governing conflict of interest and disclosure.

In 2010, the Academy Award-winning documentary Inside Job exposed several disturbing examples of academic economists calling for deregulation while working for financial-services companies. And in a study of 19 prominent financial economists, published last year by the Political Economy Research Institute at the University of Massachusetts Amherst, 13 were found to own stock or sit on the boards of private financial institutions, but in only four cases were those affiliations revealed when they testified or wrote op-eds concerning financial regulation.

This year, the American Economics Association agreed to set up a committee to investigate whether economists should develop ethical guidelines similar to those already in place for sociologists, psychologists, statisticians and anthropologists.

But there appears to be little enthusiasm for the idea among mainstream economists. Prof. Lucas of the University of Chicago, in an interview with The New York Times, objected: "What disciplines economics, like any science, is whether your work can be replicated. It either stands up or it doesn't. Your motivations and whatnot are secondary."

Several billion pennies for their thoughts
The critics, however, are more numerous and considerably better financed than the French students a decade ago. In October, 2009, billionaire financier George Soros said that "the current paradigm has failed." He resolved to help save economics from itself. He pledged $50-million toward the establishment of the New York-based Institute for New Economic Thinking (INET), with a mandate to promote changes in economic theory and practice through conferences, grants and campaigns for graduate and undergraduate education reforms.

Perry Mehrling, a professor of economics at New York's Columbia University, is the chair of the curriculum task force at INET. He says his graduate students at Columbia are growing increasingly frustrated by at the tendency to define the discipline by its tools instead of its subject matter – like the students in Paris a decade ago, they find little relationship between the mathematical models in class and the world outside the door.

Prof. Mehrling believes that economics education has become far too insular. Never mind cross-disciplinary study – even courses in economic history and the history of economic thought have all but disappeared, so students spend almost no time reading Smith, Keynes or other past masters. "It's not just that we're not listening to sociologists," Prof. Mehrling laments. "We're not even listening to economists."

He says he has no problem with teaching efficient-markets and rational-expectations theories, but as hypothesis, not catechism. "I object to the idea that these are articles of faith and if you don't accept them, you are not a member of the tribe. These things need to be questioned and we need a broader conversation."

The challenge, as Columbia University economist Joseph Stiglitz said at the opening conference of INET, is that "we need better theories of persistent deviations from rationality."

Some of those theories are coming from the rapidly growing field of behavioural economics, which borrows insights about human motivation from cognitive psychology: A paper titled The Hubris Hypothesis of Corporate Takeovers, for example, examines how the egos of ambitious chief executive officers can lead them to pursue takeovers, even when all available evidence suggests that the move could be a disaster.

It is not yet clear how such new approaches can evolve into workable models, but they hint at what a post-autistic economics might look like. Prof. Mehrling is cautiously optimistic. "There's a recognition that things we thought were true aren't necessarily true," he argues, "and the world is more complicated and interesting than we thought – so all bets are off, and that's exciting intellectually."

Change comes slowly in academia. The few jobs that are available don't generally go to people who challenge orthodoxy. But over the next decade, as the post-crash crop of economics students make their impact felt in government, business and schools, the lessons learned may well seep into the mainstream.

Theories based on assumptions of rationality, efficiency and equilibrium in the marketplace are likely to be treated with a great deal more skepticism. Homo economicus is a lot more anxious, irrational, unpredictable and complex than most economists believed. And, as Adam Smith recognized, he has a moral and ethical dimension that should not be ignored.

Today, the Post-Autistic Economic Network continues to publish its newsletter, now known as the Real-World Economic Review. It remains a thorn in the side of mainstream economics. In an editorial in January, 2010, the editors called for major economics organizations to censure those economists who "through their teachings, pronouncements and policy recommendations facilitated the global financial collapse" and pointed to the "continuing moral crisis within the economics profession."

It is unlikely that Prof. Sargent will acknowledge any of this when he travels to Stockholm to accept his (sort of) Nobel Prize in December. Nor is he likely to speak about what role, if any, his models really might have played in "wrecking the world." But he did make one concession in his interview with the Nobel website this week: "Many of the practical problems are ahead of where the models are," he admitted. "That's life."

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Millions of homes lurk on bank inventories, casting doubts of rebound
by Toluse Olorunnipa - McClatchy Newspapers

Officially, there are 3.5 million homes for sale nationwide. But there are millions more lurking in the shadows — hidden neatly away on banks' balance sheets, stalled in foreclosure court proceedings or simply occupied by nonpaying owners as lenders wait months or years before taking action.

The housing market's ballooning shadow inventory — buoyed by a yearlong foreclosure slowdown — stands as the most menacing obstacle to the recovery of the residential real estate market.

Clustered mostly in hard-hit cities and states, there are more than 4.5 million homes either owned by lenders or headed for foreclosure. In Miami, for example, there are about 200,000 shadow homes, dwarfing the 30,000 properties that are listed on the active market. Even as prices in Miami have shown signs of stability this year, an impending wave of foreclosures threatens to keep real estate values deflated.

"A lot of people don't understand how much inventory is set to come on line in the next 18 to 24 months," said Jack McCabe, the CEO of McCabe Research & Consulting in Deerfield Beach, Fla. "When you compare what the Realtors show as inventory to what's out there, you realize we have a long way to go."

A McClatchy analysis of four years of foreclosure data and thousands of property records found record-high levels of shadow inventory in several housing markets across the nation. Though real estate trade groups routinely leave these shadow properties out of monthly reports, their influence on home values has grown sharply in recent years.

In the supply-and-demand-reliant real estate market, the national supply of homes is officially listed at about 3.5 million, or about nine months' worth; sales are on track to reach about 5 million this year. But once shadow inventory is added, that supply more than doubles, to at least 7.5 million. A healthy housing market has about a six-month supply of properties, which would be about 2.4 million.

The wave of homes yet to hit the market consists of discounted distressed properties, which tend to drag down neighborhood values. Economists say the housing industry will not normalize and recover until most of the foreclosures work their way through the system — a process that probably will last several more years.

What Is Shadow Inventory?
Shadow inventory can be broken into three categories:

• Properties that lenders have repossessed but haven't put up for sale. These homes are referred to as real-estate owned, or REOs.
  
• Properties that are caught in the clogged foreclosure process.
  
• Properties that are severely delinquent in loan payments and almost certainly headed for foreclosure, but haven't yet entered the process.

Calculating the size of the shadow market has proved difficult, and estimates range from 1.6 million to 7 million homes.

For its analysis, McClatchy determined the number of bank-owned homes by calculating the difference between the number of homes lenders have repossessed since 2007 and the
number of homes they've sold to new owners over the same period.

McClatchy also calculated the number of homes in the foreclosure pipeline: properties that have begun the process or are so far behind on payments that foreclosure is virtually inevitable. The analysis didn't include homes that are currently listed for sale. Data from the real estate research firm RealtyTrac, the U.S. Census Bureau and the data firm Lender Processing Services and real estate trade group figures were used in the analysis.

The McClatchy analysis found the following shadow inventory:

• 644,000 houses already owned by lenders but not yet for sale.
  
• 2.2 million homes whose owners have received initial foreclosure notices or notices of default but haven't yet been foreclosed on.
  
• 1.9 million properties whose owners are 90 days or more behind on their payments but haven't yet been served with foreclosure notices.

In hard-hit markets such as Miami, Sacramento, Calif., Las Vegas and Cleveland, McClatchy culled thousands of property records for lender-owned homes and checked whether those homes were being listed on the open market. In a large number of cases, they were not.

Bank of America has owned a small two-bedroom on Northwest 80th Street in Miami since August 2008, when it repossessed the home from the estate of Lucile Moore. Three years later, the property isn't listed for sale on the open market, part of the bank's growing collection of unlisted properties. Bank of America didn't respond to a request for comment about this property.

The bank hasn't paid last year's $2,000 property tax bill. That's an occasional side effect of having behemoth financial institutions as property owners. In foreclosure-riddled Cleveland, financial institutions owe millions in overdue property taxes and grass-cutting fees for vacant and abandoned homes. "I've seen plenty of cases where the banks don't take care of the homes and we have to take them into court to try and get them to pay the fees," said Mark Parks, projects manager of the Cuyahoga County Fiscal Office in Ohio.

Lenders Avoiding Losses
CitiMortgage has owned a crumbling 111-year colonial home on Laisy Avenue in Cleveland since June 2008, and it owes the city more than $7,500 in fees for grass cutting and property taxes. The home isn't listed for sale. Citibank spokesman Mark Rodgers said the lender was considering donating it to a nonprofit organization.

In the aftermath of the largest home-repossession campaign in history, mortgage lenders are holding properties off the market as a matter of strategy. Flooding the fragile market with an additional 500,000 to 1.1 million homes — many of them deteriorating and selling at deep discounts — would cause already weak prices to fall further.

Mortgage lenders have shown no indication that they're planning to ramp up foreclosure sales, and a growing number of vacant homes have sat idle on banks' balance sheets for several years.

According to the data firm CoreLogic, which has one of the more conservative estimates of shadow inventory, mortgage debt outstanding in the shadow inventory is about $336 billion. Liquidating REO homes through the sales process usually leads to significant write-downs on bank balance sheets.

Wary of seeing such large losses appear in earnest on their books, lenders have been reluctant to deal with bad loans head-on, said Ira Rheingold, the executive director of the National Association of Consumer Advocates. "They're afraid," he said. "They don't want to take those paper losses. Their books show that they have these assets that are worth 'X' amount of money. But those values are not real."

In Maricopa County, Ariz., public records show that Bank of America owns about 1,300 properties clustered in cities such as Phoenix and Mesa. Most of those homes aren't being marketed for sale on the lender's designated website for bank-owned properties, where only 440 Phoenix-area homes are shown for sale. Bank of America spokesman Rick Simon said some of the homes not listed on the open market might be advertised directly to investors.

In many parts of the country, the federal government is the largest institutional property owner, as government-run Fannie Mae, Freddie Mac and the Federal Housing Administration hold about 250,000 homes. While at least 100,000 of those aren't yet on the market, a review of public records in several states showed that Fannie and Freddie were more likely than other lenders were to liquidate foreclosed homes quickly.

"We don't have a shadow inventory, because our inventory consists of homes that are on the market and homes that we're bringing to market," Fannie Mae spokesman Andrew Wilson said. "Our goal is to sell as quickly as possible."

A Worsening Outlook
In recent years, the government has directed billions of dollars toward curbing the massive foreclosure crisis, pitching programs that facilitate mortgage modifications and low-stress refinances. While the various measures have had some success, all have fallen far short of expectations, and the growth of the shadow inventory has been virtually unabated.

The outlook for shadow inventory has worsened considerably over the last year because of lender paperwork problems that have gummed up the foreclosure system. A year ago, major mortgage servicers discovered that employees were systematically cutting corners in the foreclosure process, often signing thousands of false or incomplete legal documents each day.
As details of the "robo-signing" scandal began to spread, lenders hit the brakes on all foreclosures, setting off a yearlong slowdown that continues today.

Banks are struggling to prove that they have legal standing to foreclose, and it now takes them an average of nearly two years to repossess a property, according to Lender Processing Services. In states such as Florida and North Carolina, where foreclosures are handled in court, the timeline is even longer.

More than a million foreclosures that were supposed to be completed this year have been pushed into the future, prolonging the housing crisis, RealtyTrac found. In August 2010, before the foreclosure slowdown, banks repossessed more than 12,000 homes in Florida. In August 2011, there were only 5,000 repossessions.

Nationwide, there are 2.2 million homes stuck somewhere in the foreclosure process, and many of those cases have completely stalled.

"I've got dozens of foreclosure cases in my office that started in 2008 and are still open," Miami foreclosure defense attorney Dennis Donet said, "with lenders doing absolutely nothing to move these cases forward."

South Florida security guard Lebert Cosley has spent nearly four years fighting a foreclosure on his two-bedroom condo in Lauderdale Lakes, a suburb of Fort Lauderdale, Fla. As the bank stalled the case while it searched for crucial documents, Cosley's condo association decided to foreclose on him earlier this year, a practice that's become more common recently.

"The bank just stopped sending me information about the case," said Cosley, 65, who claimed that he was a victim of mortgage fraud and is still fighting the case in court. "Then the condo association finally did the foreclosure."

Lenders also are waiting longer before taking action against millions of homeowners who have stopped paying their mortgages. Nearly 2 million homeowners who haven't paid their mortgages in three months or more haven't received foreclosure filings. About 800,000 of those haven't made payments in more than a year, according to Lender Processing Services.

While some of the holdup can be attributed to foreclosure prevention efforts — mortgage modifications, for example — several banks are using delay as a financial strategy, said Daren Blomquist, a spokesman for RealtyTrac.

Lenders basically are letting delinquent homeowners stay in their homes as a lesser-of-two-evils option. Foreclosing more quickly would mean more empty homes and additional maintenance costs for banks to shoulder. Lenders, already dealing with a mountain of paperwork challenges for homes in foreclosure, would only be adding to their documentation woes by speeding up new filings.

"There are more distressed properties than their foreclosure departments can probably handle," Blomquist said. "Because the foreclosure pipeline is so full, the lenders have delayed foreclosing on those properties."

Additionally, banks aren't selling homes fast enough to justify more aggressive foreclosure filings. Even at the currently slowed pace, foreclosure starts are three times higher than foreclosure sales are, meaning that properties are being loaded onto the conveyor belt much faster than they're being taken off. "It's kind of like a pig in a python," Blomquist said. "As you start to see more of foreclosure sales and that inventory is cleared out, then you'll begin to see more new filings."

But as lenders hold off on foreclosures, struggling homeowners are strategically gaming the system as well. So-called "strategic defaults" have grown in popularity. Under a strategic default, homeowners quit paying mortgages they deem bad investments, but they keep living in the homes or renting them out and pocketing the income.

Chae duPont, a Miami foreclosure defense attorney, said a growing number of her clients were opting to default on underwater mortgages if they were unable to get satisfactory loan modifications. "They're making a decision to continue living in the property for 18 to 36 months and then they negotiate a short sale," she said. "It's not an easy decision, but sometimes it's the only thing that makes financial sense."

In Clark County, Nev., there are more than 28,000 homes where owners haven't paid their mortgages in more than three months but haven't yet been hit with foreclosure filings. Lenders, who already own more than 30,000 homes in greater Las Vegas, don't seem to be in a hurry to take on more: The average foreclosure timeline in Clark County is 19 months.

Nationwide, 2.5 million homeowners are 30 to 60 days behind on payments, a sign that the stagnant economy and tepid housing market continue to push more people into the foreclosure pipeline.

Given the grim outlook, lenders have begun to consider new alternatives to foreclosure. Short sales have increased this year, and real estate agents say the once-onerous process of selling a home for less than what's owed on it has become more streamlined.

Banks also are cutting deals with homeowners who agree to hand over the keys to houses rather than go through legal battles. In some cases, lenders are forking over wads of cash to convince troubled borrowers to leave their homes amicably.

"We have been making enhanced financial relocation offers, primarily in states where the foreclosure timelines are extended," said Jason D. Menke, spokesman for Wells Fargo. "We've been offering as much as $10,000 or $20,000 to borrowers who are willing to do a deed-in-lieu or a short sale."

More aggressive foreclosure-prevention measures, such as principal reductions and debt forgiveness, generally have been kept off the table. In the meantime, the stalled foreclosure machines are beginning to gear back up again, Blomquist said.

In California, new foreclosure filings jumped 55 percent from July to August, led by huge increases by Bank of America, according to RealtyTrac. That's not good news for borrowers such as Jill Demmel. She said she stopped making payments on her three-bedroom house in east Sacramento in December 2008, after a severe case of drug-resistant meningitis put her in a hospital for six weeks and forced her to take a year off her job as a lawyer.

Her lender, JPMorgan Chase, filed a foreclosure notice against her in April 2010. Demmel, 57, is working again but said she couldn't make the $67,000 in back payments and fees she owed. She said one bank representative suggested that she was trying to avoid paying her bills. Her request for a loan modification was turned down in August, a week after the bank sent her a notice that the home she shares with her mother was about to be auctioned. "This has been the worst experience of my life," Demmel said.

Meanwhile, a group of attorneys general has spent the past year trying to negotiate a settlement with major U.S. banks that are accused of wrongfully foreclosing on homeowners. The process has been slow, as the banks have rejected calls for widespread principal reductions and public officials have called for steep penalties. California Attorney General Kamala Harris pulled out of the negotiations last month, saying the proposed agreement was "inadequate."

McCabe, the Deerfield Beach consultant, said it was in lenders' best interest to keep hundreds of thousands of struggling borrowers from entering the foreclosure pipeline, even if it meant writing down principal balances for underwater homeowners. "Unless they agree to do principal reductions coupled with mortgage modifications, these delinquent properties will eventually have to be sold," he said. "Which means more banks will fold, because they can't stomach those losses."

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Europe's lost decade as $7 trillion loan crunch looms
by Ambrose Evans-Pritchard - Telegraph

Europe’s banks face a $7 trillion lending contraction to bring their balance sheets in line with the US and Japan, threatening to trap the region in a credit crunch and chronic depression for a decade.

The risk is "Japanisation" without the benefits of Japan, without a single government, or a trade super-surplus, or 1pc debt costs, or unique social cohesion. Even today, the jobless rate for youth is near 10pc in Japan. It is already 46pc in Spain, 43pc in Greece, 32pc in Ireland, and 27pc in Italy. We will discover over time what yet more debt deleveraging will do to these societies.

Stephen Jen from SLJ Macro Partners says the loan to deposit (LTD) ratio of Europe’s lenders is 1.2, much like Japanese banks in the early 1990s at the onset of the country’s Lost Decade (now two decades).

How Europe allowed this to happen will no doubt be the subject of many enquiries. Suffice to say that it was an intellectual failure by everybody: lenders, economists, regulators and the European Central Bank. The ECB misread the implications of the global capital surplus in the middle of the last decade (like the Fed) and gunned the M3 money supply at double-digit rates (like the Fed).

This great error further juiced the fatal flood of lending from North Europe to Club Med. Interestingly, it is what US lending did to Germany in the late 1920s. When the music stopped -- when Wall Street cut off loans, as Germany has now cut off loans to Spain -- trouble ensured within two years. Weimar limped on, but not for long.

The Japanese eventually trimmed their LTD ratio to the current safe level of 0.7pc, the same as US banks. It is a fair bet that new bank rules and market pressure will force Europe to do likewise. Mr Jen said this means slashing the loan book from $19 trillion to nearer $12 trillion, given the dearth of fresh deposits.

It will be an ice-cold douche for the world. European banks have $3.4 trillion of cross-border loans to emerging markets (BIS data), three-quarters of the total. They account for 46pc in Asia, 63pc in Latin America, and 90pc in Eastern Europe. Either these banks will cut funding to Eastern Europe, or they will curtail loans at home. Most likely they will do both. Mr Jen said a lot of nasty "feedback loops" will blight the whole European region for a long time.

The sheer scale of Europe’s bank excesses -- roughly equal to Alan Greenspan’s household bubble in America -- shows what EU leaders are up against as they thrash out their latest "Grand Plan" to save Euroland. Angela Merkel and Nicolas Sarkozy have bowed to pressure from Washington and the International Monetary Fund for bank recapitalizations, by compulsion if necessary. Lenders must raise core Tier I capital ratios to 9pc or 10pc.

This is a wise precaution given that Germany plans to impose a Greek default on Europe’s banking system. But it is also "pro-cyclical". It tightens credit further. Lenders threaten to shrink their loan books to meet the target rather than dilute their share base by raising money in a hostile market.

If governments are forced to step in, it will not be much prettier. The IMF pitches fresh capital needs at €200bn, but what if Credit Suisse is nearer the mark at €400bn? Such sums would push the public debt of several states over the danger line, intensifying the vicious circle as banks and sovereigns drag each other down.

Indeed, it you look at each components of the Grand Plan, every one creates a secondary chain of consequences that may ultimately prove self-defeating. It is why I fear there may be no plausible solution to Europe’s crisis. The structural damage has already gone too far.

We are told the Franco-German plan will offer Greece debt-relief worth having, perhaps a 50pc haircut for banks. Investors are understandably furious. This unpicks the voluntary accord for 21pc haircuts agreed in July. "A deal is a deal," said Charles Dallara from the Institute of International Finance (IIF). Moreover, 50pc is not enough. It creates a banking panic without actually solving Greece’s problem.

A third of Greece’s €364bn debt is owed to the IMF, EU, and ECB. That is deemed untouchable. Angela Merkel has so far managed to deflect popular anger over bail-out loans by insisting that they have not cost German taxpayers one Pfennig.

Stephane Deo from UBS said Greece might have to "repudiate its debt entirely" with a 100pc haircut for banks to give itself enough oxygen to breathe again. This would be an earthquake.
No sane investor believes this will stop with Greece. Portugal is in much the same trouble, despite the heroic austerity drive of premier Pedro Passos Coelho -- a latter day Marques de Pombal. The country’s total debt will top 360pc of GDP next year, and its current deficit is stuck near 10pc of GDP. This mix is worse than in Greece. It is untenable.

We all told too that the EU’s €440bn bail-out fund (EFSF) -- at last approved after high drama in Slovakia -- will be ramped up with "leverage". It is assumed that the German lawmakers will tamely go along with this, a mere three weeks after finance minister Wolfgang Schäuble seemed to promise that no such that leverage would occur.

The proposal du jour is Allianz’s "Achleitner Plan", letting the EFSF guarantee the first tranche of losses on bonds: 40pc for Greece, Portugal, and Ireland; 25pc for Italy and Spain. This would boost coverage to nearly €3 trillion of debt issuance.

This plan is dangerous. It concentrates risk, like a Lloyds spiral syndicate, or the "CDOs" and other instruments of legerdemain in the US subprime bubble. There is a high chance that this bluff would be called if Europe tips into a double-dip recession.

Credit markets have already begun to issue their verdict. Yield spreads on the EFSF’s 10-year bonds have almost doubled over Bunds since July. French spreads jumped last week to a post-EMU record of 92 points. Remember that France’s banking liabilities are 409pc of GDP (ECB data), compared to 338pc for Spain, 331pc for Germany, 250pc for Italy, 213pc for Greece.

Any such leverage must inevitably cost France its `AAA’ rating, with parallel effects in Austria as it struggles with a wave of fresh woes in Hungary, Ukraine, and the Balkans. This sets off its own treacherous dynamic.

Even if the IMF and the China-led `BRICS’ were to step with in half a trillion or so, this would could create a fresh problem. Foreign purchases of EMU bonds would force up the value of the euro. The effect would tighten the trade noose even further on Spain, Italy, and France. Perhaps that is why Brazil’s Guido "currency war" Mantega likes the idea. It is exchange manipulation behind diplomatic cover.

There is much talk of EMU fiscal union, most recently the "Soros Plan". But what Germany means by EU economic government is better policing of Club Med budgets, not debt-pooling or eurobonds. It should be clear after the ruling of the German constitutional court last month and the fiery debates in Bundestag that Berlin will not alienate its sovereign fiscal powers to the EU.

Merkozy’s Grand Plan may buy time. It may shift the stress point from one part of the unworkable structure to another. But it cannot conjure away the 30pc gap in competitiveness between Germany and Latin Europe that has built up over fifteen years. It is this intra-EMU currency misalignment that is asphyxiating Club Med and destroying the banks.

The ECB can of course can save Euroland, if it is willing to launch stimulus a l’outrance with bond purchases near 20pc of GDP -- like the Bank of England. A reflation policy would undoubtedly lift the South off the reefs, perhaps by targeting M3 growth of 5pc in Italy and Spain for three years. It would allow EMU laggards to claw their way to back to viability.

Any such attempt to correct North-South imbalances from both ends requires an inflationary boom in Germany. That is the price that Germany must pay. But as events have made all too clear over recent months, this runs smack into German ideology and the Teutonic granite of the Bundesbank.

So perhaps there is no solution for EMU after all. Kultur is the ultimate economic fundamental.

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Banks must take bigger losses on Greek loans, says German finance minister
by Phillip Inman and Helena Smith - Guardian

Limit on writedowns rejected in run-up to EU meeting that is expected to allow Greece to default on half its debts

German and French banks must accept bigger losses on their loans to Greece, the German finance minister has conceded, signalling his rejection of intense lobbying by Deutsche Bank for only limited writedowns on loans to Athens.

Wolfgang Schäuble said banks must be better capitalised to prevent an escalation of the eurozone crisis and collapse of the financial system. "We need better regulation and we also need a better capitalisation of banks, which is what we are doing in the short term. Not everyone will like it, but it is the best way to ensure that we don't have an escalation in the crisis due to a collapse in the banking system," Schäuble said.

His comments come ahead of an EU council meeting next weekend that is expected to allow Greece to default on at least 50% of its debts and unveil a "bomb proof" firewall to protect other vulnerable countries.

Schäuble admitted banks had lost trust in each other and were refusing to conduct normal lending – either to other banks or commercial businesses. But a demand for further writedowns could force several governments, including Angela Merkel's Berlin administration, to nationalise or part-nationalise several institutions.

Belgium, in particular, has come under pressure in recent weeks following concerns that it will need to spend billions of euros rescuing its banks despite already pumping €5bn (£4.4bn) into Franco-Belgian group Dexia.

Up to 30 banks in the eurozone may need extra capital after writing off Greek debt. BlackRock, the US investment firm, said an investigation of Greek banking found that some the country's major institutions will need to be temporarily nationalised should a default be agreed.

The Greek prime minister, George Papandreou, issued an impassioned plea at the weekend for a "viable solution" to the debt drama wracking Europe, telling his EU counterparts that failure would lead to "catastrophe". With Athens descending into chaos as Greeks step up strikes, protests, sit-ins and walkouts, the embattled socialist leader appealed for patience, telling the nation there could be no easy exit from the worst crisis to hit the country in modern times.

"Greece is not Atlas who can bear all of Europe's problems on its shoulders," he said, alluding to the EU dithering that has been widely blamed for failing to solve the crisis. "No European country could do that – not even Germany," he told the mass-market weekly Proto Thema.

Papandreou, who faces a crucial parliamentary vote this week on a new round of belt-tightening measures ranging from pay and pension cuts to layoffs in the public service, said the time had come, once and for all, to tackle the issue at the centre of the crisis: Greece's colossal debt. In an admission that took many by surprise last week he said the issue of lightening the country's debt load had not only become a top priority but was "where the big problem lies".

As part of a Franco-German plan to avert a disorderly default, eurozone finance ministers have signalled they will ask banks to accept losses of up to 50% on Greek bond holdings. It is seen as the only way of stemming a crisis that now threatens the global economy. Eurozone officials have said openly that a "haircut" of as much as 60% for Greece's private creditors is under consideration – almost three times that agreed in July when EU leaders approved a second bailout for the country.

On Sunday German media reported that the head of Deutsche Bank, Josef Ackermann, who is also chairman of the global banking lobby, was engaged in ferocious behind-the-scenes negotiations to write down Greek debt by 50%. At €360bn, the Greek national debt is projected by the International Monetary Fund to peak at 179% of national income next year. A wave of protests, increasingly violent strike action and the takeover of government buildings, has brought a sense of lawlessness to the country, with ministers unable to enter their offices.

Government officials say Greece will run out of cash by 10 November if it is not given a fresh instalment of aid by international lenders, who have become increasingly critical of Athens' failure to implement economic and structural reforms. With a two-day general strike due to begin on Wednesday, Papandreou has turned his own office into a crisis centre for ministers who increasingly complain of being under siege.

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Lack of ECB firepower weakens Europe’s Grand Plan
by Ambrose Evans-Pritchard - Telegraph

Top officials from the US Treasury and the International Monetary Fund are privately worried that Europe’s `Grand Plan’ to overcome the debt crisis is fundamentally deficient and may fail to restore market confidence.

G20 finance ministers praised Europe’s efforts to “maximise the impact” of the EU’s €440bn bail-out fund (EFSF) and ensure that the region’s banks are “adequately capitalised”, but there were heated exchanges behind closed door as the Anglo-Saxon states, and India rebuked Europe’s leaders for failing to grasp the nettle and mobilize the full lending power of the European Central Bank.

“They clearly have more work to do on strategy and details,” said US Treasury Secretary Tim Geithner. “In financial crises, it is more risky to act gradually and incrementally than to act with bold force”.

Diplomats say Mr Geithner’s plan to use the ECB as a guarantor of eurozone sovereign bonds was dismissed out of hand, while the EU failed to offer clear assurances that bank recapitalisation would be carried out with sufficient speed and scale to halt an incipent run on the system.

Olli Rehn, the EU’s economics commissioner, said Brussels will announce a “very serious plan” over come days to beef up banks and strengthen the firewall against contagion. German foreign minister Guido Westerwelle politely told the US to mind its own business. “I cannot understand some of the comments of our American friends. You can’t solve a debt crisis with more debt,” he told Bild Zeitung.

The Atlantic rift threatens to become serious if the crisis escalates. There is a growing frustration in Washington that the ECB has acted half-heatedly, confining itself to modest purchases of Italian and Spanish debt rather deploying overwhelming force to break the vicious cycle.

Jacques Cailloux, Europe economist at RBS, said any attempt to solve the eurozone crisis without the ECB playing a key role in shoring up the system is doomed to failure.

Jean-Claude Trichet, the ECB’s president, said late last week that the bank has done “all it could” to shore up monetary union and has now exhausted its role of “lender of last resort”. The institution is constrained by its mandate and by the fierce opposition of Germany’s Bundesbank to further “fiscal” actions, a government responsibility.

The EU must thrash out the details of its `Grand Plan’ before next week’s deadline. The broad outlines include fresh capital for banks, a scheme to leverage the EFSF to around €2 trillion, and debt relief for Greece.

German finance minister Wolfgang Schauble told ARD television last night that `haircuts’ for private holders of Greek debt would be more than the 21pc already agreed, ripping up a deal reached in July.

Josef Ackermann, head of Deutsche Bank, said plans to leverage the EFSF may be illegal. “We cannot allow a rescue fund of this magnitude. The (constitutional) court would’t permit, and nor would the people,” he said.

The likely formula is a scheme where the EFSF guarantees the top tranche of losses on sovereign debt, allowing the fund to boost bond coverage to €2 trillion or more. It exposes creditor states to huge losses if the gamble fails.

Mr Schauble told G20 colleages that Germany is willing move towards EU “fiscal union”, meaning extra EU powers to police budgets and punish EMU violators. It does not mean a debt-pool, eurobonds, or shared tax and spending.

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UK economy brought to grinding halt by euro crisis
by Robert Winnett - Telegraph

British taxpayers may be dragged into a rescue package for the eurozone after a leading forecaster warned that the crisis has brought this country’s economy “grinding to a halt”.

The Ernst & Young ITEM Club, which uses the Treasury’s forecasting models, warns today that the economic situation is “worse than we thought”. It concludes that the “bright spots” in Britain’s economic recovery have “dimmed to a flicker” because of the ongoing crisis in the single currency.

George Osborne, the Chancellor, and Tim Geithner, the US Treasury Secretary, are becoming increasingly exasperated at the lacklustre response of European leaders to the ongoing single currency crisis.

Europe is expected to finalise plans for a two-trillion euro bailout for the single currency area over the next week. However, there are growing fears that the package will fall short. The International Monetary Fund (IMF) is expected to be asked to help shore up Italy and Spain, if this becomes necessary – a move which could lead to British taxpayers facing a multi-billion pound bill.

The euro turmoil has led to the respected Ernst & Young ITEM Club cutting by almost fifty percent its prediction for British economic growth in 2011 since the summer. It is now expecting the economy will grow by just 0.9 percent this year, signalling almost zero growth before the end of the year.

The forecaster also warned that the recent announcement from the Bank of England that it as adding another £75 billion of quantitative easing was unlikely to help restore Britain’s recovery. It recommends that the Bank should consider cutting interest rates from 0.5 percent to 0.25 percent.

Last night, Peter Spencer, the chief economic advisor to the Ernst & Young ITEM Club, said: “It’s worse than we thought. The bright spots in our forecast three months ago - business investment and exports - have dimmed to a flicker as uncertainty around Greece and the stability of the Eurozone increases. “With the UK recovery grinding to a halt, new measures are now needed to help stimulate growth. We think there is scope for targeted tax relief and spending measures to help put us back on track.”

The ITEM Club also forecasts that the UK’s unemployment rate will increase to 2.7 million people by the spring of 2013. Mr Spencer said: “With the public sector cuts starting to feed through in the UK, it’s vital that the private sector labour market continues to stay afloat.” He added: “The housing market is an important driver of the construction industry and consumer spending. Cutting stamp duty, particularly for first time buyers would, in our view, be money well spent.”

Finance ministers from across the G20 spent the weekend in Paris discussing the eurozone crisis. European leaders will meet on Sunday for a summit which is expected to agree a continent-wide rescue package worth up to two trillion euros. The scheme is expected to unveil new help for Greece, which may be allowed to technically go bankrupt and default on some of its debts. Many European banks will also be offered state money to shore up their balance sheets.

However, there are concerns that the scheme will not go far enough and that the European Central Bank will not pay a central role. Mr Geithner, the US Treasury Secretary, said: “They clearly have more work to do. It’s all in the details." “In financial crises, it is more risky to act gradually and incrementally than to act with bold force.”

However, he added that he thought that European leaders had now recognised it was in their interests to resolve the crisis. “Even though the world has a big stake in Europe doing this effectively, Europe itself has the strongest interest,” he said. “I think they’ve come to recognise that, if you underdo it, it’s going to be more expensive.”

However, European leaders are poised to ask the International Monetary Fund to offer temporary loans to countries such as Italy and Spain to bypass the financial markets.

Until now, the IMF has funded about a third of the bailouts of Greece, Ireland and Portugal. But, helping single currency countries to stop the contagion spreading, may require a broader use of resources that would go far beyond the IMF’s traditional role of providing rescue loans to cash-strapped governments. “What has been asked of us is instruments that are more flexible, more short term, that allow countries in good economic health but in difficulty to [borrow],” Christine Lagarde, the managing director of the IMF, said.

She said that world leaders would consider the new scheme at a summit in Cannes, France, early next month. The new borrowing scheme may also be useful to developing world countries concerned that the impact of the eurozone crisis may spread globally as banks are more wary about lending to governments.

Mr Osborne has said that he is opposed to the use of IMF funds specifically to bailout the eurozone. Britain will not be involved in the EU bailout for the single currency. However, he has indicated that Britain may be prepared to help underwrite an IMF scheme available to all countries.

Mrs Lagarde has previously said that the IMF’s financing may have to double to almost eight hundred billion dollars – a move which would increase Britain’s liability by about £20 billion. The Chancellor said: “We are supporters of the IMF; we’re members of the IMF. And there’s a debate about whether it needs more resources, but that is separate from the Eurozone having to stump up money for its own bailout funds.

“And we’ve been very clear here, as have other countries round the world, that building up the IMF resources should be for the whole of the world not just for the Eurozone, and so they are distinct issues. And certainly we would not support IMF resources that were only targeted at one continent or one group of countries, like the Eurozone.”

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Europe finally listening to Geithner
by Phillip Inman - Guardian

There are six days to save the world. That's according to the US treasury secretary, Tim Geithner, who told the G20 finance ministers' summit in Paris on Saturday that only a massive firewall would protect the eurozone against contagion from a Greek default.

It's a message that the US president, Barack Obama, and his battle-hardened finance boss have sent across the Atlantic several times in the last six weeks. Geithner has popped up in European capitals three times in that period to deliver the message in person.

Until a few days ago it was something the French and Germans closed their ears to. No amount of calls for "shock and awe" shifted their position. There was simply a stubborn refusal to define the Greek situation as anything more than a local difficulty, and definitely not a crisis.

Six days is not a long time to design a mix of insurance policies, guarantees and bank capital top-ups worth upwards of €1.5tn (£1.3tn) that are credible to the financial markets and avoid making politicians look like they have spent every last euro cent of taxpayer funds. There is a huge industry in trying to second-guess the direction of travel in Paris and Berlin after Nicolas Sarkozy and Angela Merkel said they would reveal a killer plan next Sunday.

What kind of insurance and guarantees are in the pipeline? How much will vulnerable banks (and other private investors) be told to write off in bad loans to Greece and how many euros must the banks find to fill the void left by these bad investments? Hedge funds, pension funds and the super wealthy are all placing bets on how negotiations will work out. Will the euro stand or fall?

Betting against Sarkozy and Merkel cobbling together a deal is bold and risky. Most likely they will unveil a package of measures that lacks the clean lines and firepower of the "big bazooka" demanded by many economists, but will be just enough to kill the Greece problem and defend Italy, Spain, Portugal and Ireland. French and German banks, which lent billions of euros to Greece, Ireland and Portugal, will also be sheltered by the deal.

Geithner is convinced the French and Germans now recognise the problem, but reading his body language and the way he spoke about the prospects for meeting the six-day deadline, he was more circumspect. He said there was an enormous amount of detail to work through before plans would look convincing and hinted that time was running desperately short.

Geithner is also concerned that Merkel in particular is more concerned about rushing through reforms of the system before tackling the problems at the heart of the crisis. Some 38 pieces of EU legislation have either been put on the statute or are in the pipeline.

There have always been several problems with this rush to legislate, at least on this scale. First it distracts from the immediate problem of tackling the EU's debts. It whacks banks and other financial institutions when they are already on their knees, and the legislation heaps costs on the finance industry that, in turn, hamper growth. Without banks to lend, especially to smaller companies, we have no investment.

It is this last point that most exercised Geithner. He openly warned the EU against rushing to ball-and-chain the banks and make a crisis certain.

There is a flaw to the Geithner plan of massive guarantees and insurances for Wall Street that keeps them afloat and lending, and it can be seen in a park only a stone's throw from the New York stock exchange. The Occupy Wall Street campaigners are disgusted that propping up the banks means allowing the old rapacious bonus culture to go unreformed.

Geithner argues there are many on Wall Street who are suffering because they are paid in shares and not cash. Some US bank shares are down by a half or more since the summer. But that ignores the wider picture.

If the euro is saved, with billions more in taxpayer loans and guarantees, those bank shares will rocket and the bankers will be back in clover, more than they are already. The US treasury secretary worries that Europe needs international investors on board, only to reckon it can win a game of chicken. When countries have borrowed so much from US pension funds, Middle Eastern petrodollar sovereign funds and the Chinese, they need private investors.

In 2008 the US treasury dared the markets to bet against the government and lost. It wants the EU to heed that experience.

Left to their own devices, traders panic, fearful on behalf of their investor clients that further losses lie just round the corner. The panic, far from being the invisible hand of the markets lauded by many right-wing economists, is a bludgeoning stick causing pain and unemployment wherever it strikes. In these circumstances, reforms to tackle banks, brokers and investors should be delayed while protester-friendly taxes on wealth go ahead.

There is another crisis looming, possibly in only a few years. But it will come from another direction –the savings in China, Germany, Japan and the US looking to spark another asset boom. Tackling that situation poses even bigger problems for politicians. But first we need some sustainable growth, and to avert a euro debt crisis.

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