The following link goes to an hour-long video from the Russia Forum 2010 featuring famed investors and market watchers Hugh Hendry and Nassim Nicholas Taleb. Marc Faber was the moderator. The session is “Investments: Where is the Money in 2010 – What are the Risks?" from the second-day of the three day forum.

Source

Session Video Recording. Investments: Where is the Money in 2010 – What are the Risks?

Related posts:

• Taleb and his Black Swan funds have stellar performance
• World Economic Forum: Experts voice their views on the economy
• Roubini: Even 2010 will feel like a recession
• Marc Faber: "I don’t think that you’ll see gold below $1,000 per ounce probably ever"
• Marc Faber says avoid financials and buy gold

No he didn’t. 

Jim Rogers, the bow-tie wearing Quantum Fund co-founder and Sino-enthusiast, has recently implied Jim Chanos doesn’t know China from a hole in the ground. Rogers is not happy about the recent bearish pronouncements coming from Enron-slayer and famed short-seller Jim Chanos.  In what looks to be a rumble in the jungle of  savvy market investors we have these choice words from Jim Rogers to kick things off:

I find it interesting that people who couldn’t spell China 10 years ago are now experts on China.

That’s pretty direct.

This dust up is one to watch because a lot is riding on China’s success (including Rogers’ credibility and money). I think Chanos makes very good points about China’s overheating economy. But you have to respect the opinion of a detail-oriented investor like Rogers, who sees a secular bull market in commodities in part based on China’s economic miracle.  And for the record, Chanos does not expect China to collapse as the source piece below says.

Source

Jim Rogers: China not in a bubble, Chanos couldn’t spell China – Digital Journal

See also ‘Black Swan’ Author Nassim Taleb: Warren Buffett May Just Be Lucky from CNBC.

Related posts:

• Chanos: “We’re not calling for an impending crash of China”
• Jim Chanos still bearish on China, talks malinvestment
• Jim Chanos: “It’s a bear market rally”
• Rogers: Bail on the dollar and equities
• Jim Chanos: short sellers are heroes

Commenting about the recent Wall Street Journal article “Housing rebound in Canada spurs talk of new bubble,” Rolfe Winkler of Reuters says

Last week Paul Krugman toasted the sobriety of Canadian banks. Among other things, he said that low rates aren’t enough to cause a bubble since Canadian rates are low and, well, they don’t have a bubble. If this article is to be believed, Krugman didn’t look closely enough. Banks may use less leverage in Canada, but low rates are encouraging households to borrow big — debt to disposable income is a bubbly 1.42x. Key quote in this piece is near the bottom, where a real estate agent notes that rising prices mean rents are only barely covering mortgage payments for real estate investments. The best definition of a bubble is when debt service payments finally eclipse rents. Then buyers/lenders are betting on continued appreciation, which can only be driven by still-easier credit. Canadian real estate appears to be headed in that direction.

Exactly right.  There are a few countries that have not seen their enormous property bubbles implode, among them South Africa, Canada, and Australia. All are leveraged to commodities to varying degrees. Coincidence? Hardly.

Remember that Japan’s banks were very well capitalized in 1989, as were American banks in 2007.  While the bubble in the U.S. was plain as day as the 2005 Economist graphic in my post Naysayers, the housing bubble was obvious points out, by that juncture Canada was looking relatively tame; Australia, not so much.

Given the recent irrational exuberance in Canada, let’s wait and see how the huge run up in Canadian house prices plays out over the long-term.

Related posts:

• Is the Canadian housing market a bubble?
• Canadian housing crisis warning
• Canadian housing hits the wall
• Canada joins the list of housing busts
• Australia: housing slowdown?

I first featured some commentary by Fred Sheehan in November on a muni post The coming collapse of the municipal bond market. Now Fred is back and he’s on the radio, talking with Jim Puplava about Sir Alan Greenspan this time.  It will give you a better view of Greenspan, the man, than some of the more propagandistic narratives give you. Mind you, he doesn’t have great things to say about Sir Alan but he does say Greenspan had good political antennae.

Below is the YouTube version which I originally saw (only ten minutes)

But now I have the full

original podcast

Source

Financial Sense News hour Podcasts

Related posts:

• More support for the asset-based economy status quo from Sir Alan Greenspan
• A music video primer on the destructive powers of Alan Greenspan
• Greenspan: financial crisis ‘will happen again’
• Is Alan Greenspan self-serving?
• Popping bubbles

• FT.com – Speculators make 8bn bet against euro
• Fair Game – A Financial Crisis That Just Keeps Moving – NYTimes.com
• John Thain As CIT Chief: Savvy Move or Big Step Down? – Deal Journal – WSJ
• FT.com – China sabre rattling risks starting trade war
• Downloadable Album Costs More Than CD On Amazon – The Consumerist
• "Märkte sind oft irrational" – Financial Times Deutschland
• FT Alphaville – Tracy Alloway – The second lien sticking-point
• Greenspan Sees Slow Recovery, Is Concerned If Stocks Drop – BusinessWeek
• Snow Recovery Slow Going in Mid-Atlantic – NYTimes.com
• Palin out on the campaign trail again – USATODAY.com
• Palin’s Cheat-Sheet – The Daily Dish | By Andrew Sullivan
• Body found in landing gear bay of Delta airliner | The Japan Times Online
• Hell Freezes Over: Google Airs TV Ad During Super Bowl
• Google splashes out $5m on Super Bowl advert | Technology | guardian.co.uk
• As U.S. Struggles, Canada Worries About Housing Bubble – WSJ.com
• FT.com – Ailing securitisation market hits Citi asset sales
• Know Your Deficits – Paul Krugman Blog – NYTimes.com

Related posts:

• Links: 2010-01-14
• Links: 2010-01-27
• Links: 2010-01-13
• Links: 2010-01-10
• Links: 2010-01-21

In the lead-up to the credit crisis, I really didn’t write a considerable amount about second mortgages despite my focus on credit writedowns. At that time, I was more focused on writedowns from securitized mortgage paper (and later construction loans and commercial real estate because of the stress these loan types put on regional financials). However, second liens are a very big deal and I believe they will loom that much larger in 2010 because of the rise in strategic defaults in prime and Alt-A categories.

When the crisis first developed, in February of 2007, it was subprime where the worries were, with the lion’s share of writedowns coming from mark-to-market losses in the securitisation market.  However, subprime was a relatively small part of the overall market, making up 14% of loans outstanding at that time. Alt-A loans were 27% and prime loans were 57% respectively of loans outstanding according to a Banc of America Securities report.

As the 2004-2007 co-horts of Alt-A option ARM mortgages have started to reset and prime borrowers have come under stress, we have started to see defaults in markets which are an order of magnitude larger than subprime.

Diana Olick of CNBC says:

There are no specific numbers on how many option ARM loans there are. But analysts estimate that as many as 1.3 million borrowers took out $389 billion in option ARMs in 2004 and 2005 alone.

Many of those option ARM loans have already re-adjusted to higher payments, but more are on the way. Some 88 percent of Option ARMs originated between 2004 and 2007 are going to adjust higher between now and 2012. Those option ARM borrowers could see their housing bills go up as much as 63 percent, according to Fitch ratings.

The chosen solutions thus far has been to arrest the fall in house prices so that they are still at elevated levels. This is one reason the Fed is loath to raise interest rates; doing so would make interest payments unaffordable for many homebuyers and homeowners.

Nevertheless, the reset and strategic default issues are still with us and they bring second mortgages into view. I have been interested in the problem presented by second mortgages since I wrote a few posts on legal cases involving foreclosure, second mortgages and mortgage servicers.

What was clear then is that mortgage servicers were not incentivized to modify existing mortgages.  The incentive for servicers is to service an existing mortgage for as long as they can in order to collect the fees associated with that servicing. The big four commercial banks are by far the largest servicers of loans. Here is the breakdown from an October post linked just below.

• Bank of America: $2.1 trillion, up from $530 billion a year earlier (via its acquisition of Countrywide – this is WHY bank of America bought Countrywide)
• Wells Fargo: $1.8 trillion, up from $1.5 trillion a year earlier
• JPMorgan Chase: $1.5 trillion, up from $795 billion a year ago (thanks in large part to its acquisition of Washington Mutual)
• CitiMortgage (a division of Citigroup): $792 billion, down from $799 billion a year earlier. Citi is hurting i everywhere)
• ResCap: $391 billion, down from $449 billion in the first quarter of 2008.

See Why mortgages aren’t modified and what a ruling stopping foreclosures means.

But, as coincidence would have it, the big four commercial banks are at once the largest mortgage servicers and the largest second mortgage lenders. Here are the numbers from Amherst Securities’ Laurie Goodman via FT Alphaville.

The interesting bit is that, according to Reuters’ Felix Salmon, the lion’s share of writedowns on second liens to date come from that small sliver of ABS Issuers. The reason of course comes from the dichotomy between how loans and securities were treated before mark-to-market rules were liberalized last year.

You should have noticed that most of the assets written down in the past two years have been marked-to-market. Securities traded in the open market are marked to market. Loans held to maturity are not.  This is one reason that large international institutions which participate in the securitisation markets have taken the lion’s share of writedowns, despite the low percentage that marked-to-market assets represent on bank balance sheets.  But, this should end because of new guidelines in marked-to-market accounting.  However, the new guidelines do have two major implications.  First, there are still many distressed loans on the books of U.S. banks that if marked to market would reveal devastating losses.  Second, there will also now be many distressed securities on bank balance sheets that if marked-to-market would reveal yet more losses.  In essence, the new guidelines are helpful only to the degree that it prevents assets being marked down due to temporary impairment.  If much of the impairment is real, as I believe it is, we are storing up problems for later.

-The Fake Recovery, April 2009

So, when people default strategically, two things happen to the mortgage holder’s balance sheet. First, the losses become realized and must be accounted for. Second, the second mortgage gets vaporized.

I’m still trying to get to grips with the motivations of the too-big-to-fail banks given their outsized holdings of both second mortgages and service contracts and the lack of first mortgage holding. But, it seems that the interests of the servicer are to extend and pretend existing mortgages in order to get as much fee income as possible.  So the Home Affordable Modification Plan (HAMP) isn’t going to be the preferred approach here and that’s why it is largely a failure.

But what about the second mortgage holder? They clearly don’t want a modification either because they are subordinated to the primary mortgage and must take all of the initial hit in a modification. So the government has set up a second lien modification program.

The Second Lien Program announced today will work in tandem with first lien modifications offered under the Home Affordable Modification Program to deliver a comprehensive affordability solution for struggling borrowers. Second mortgages can create significant challenges in helping borrowers avoid foreclosure, even when a first lien is modified. Up to 50 percent of at-risk mortgages have second liens, and many properties in foreclosure have more than one lien. Under the Second Lien Program, when a Home Affordable Modification is initiated on a first lien, servicers participating in the Second Lien Program will automatically reduce payments on the associated second lien according to a pre-set protocol. Alternatively, servicers will have the option to extinguish the second lien in return for a lump sum payment under a pre-set formula determined by Treasury, allowing servicers to target principal extinguishment to the borrowers where extinguishment is most appropriate.

-Obama Administration Announces New Details on Making Home Affordable Program, U.S. Treasury Department, April 2009

Sounds pretty complicated if you asked me. As a large servicer who also has a lot of second liens, why would I agree to this if I could extend and pretend – especially since most modifications end up in foreclosure anyway? As I see it, the optimal response would be:

• extend the loan and get as many payments as you can from the homeowner
• meanwhile collect all the servicing fees in that time frame
• at some juncture, this pretense comes to a close. So, avoid a foreclosure by inducing a short sale in which you (secretly?) get some compensation (see my post “Short sale fraud”).

That way if you end up getting a foreclosure anyway, you can get the most money out of the situation. Again, this assumes you don’t have any residual exposure to the primary mortgage since you securitized that. What am I missing here?

Your thoughts on this subject are appreciated.  See also “This Crisis Won’t Stop Moving,” a recent article on second liens from the New York Times.

Related posts:

• Pre-payments are reducing value of mortgage-backed securities
• Subprime good, prime bad
• Extend and pretend and the growing divide between delinquencies and foreclosures
• Short sale fraud
• The fixed rate mortgage is king again

I post this one half tongue-in-cheek (hat tip Scott).  A picture of Ben Bernanke was shown round to players from the Super Bowl’s Indianapolis Colts (once a local team here in the Baltimore-Washington area, but that’s another story).  These guys know their Fed Chairmen – that’s all I can say.

Pretty funny. Take a look. You gotta wonder what the Saints’ players said, especially since bankers do god’s work (tongue fully in cheek).

Update: I just found a Saints player making his call (video below).  Since the Saints won, he better stick to football.

P.S. – the guy who guessed the unemployment rate is 38% is a lot closer to the mark than you think. More than 40% of Black teens (people very near his age) are unemployed.

Source

Table A-2.Employment status of the civilian population by race, sex, and age – BLS

Related posts:

• ‘Slumdog’ cleans up at the Oscars
• News from around the web: 2009-12-20
• Jon Stewart on Lenny Dykstra
• Bernanke speech at the LSE
• Asset bubble in Asia

A while back I wrote a post called A populist interpretation of the latest Boom-Bust cycle that used a passage from Jared Diamond’s Pulitzer Prize-winning Guns, Germs and Steel on kleptocracy as a jumping-off point for a larger discussion about wealth distribution. The overall gist was that almost all societies have unequal distributions of income and wealth. Most often, this distribution is not fluid i.e. those at the top of the pile tend to stay there.  At that time, I argued the current distribution in the U.S. was not leading to better long-term economic outcomes as we are saddled with large private sector debts that can only mean lower growth in the absence of miraculous productivity gains.

And contrary to official American propaganda, intergenerational shifts in wealth distribution are lower in the U.S. than other G-7 countries (see study as a pdf here). (Wikipedia’s entry on social mobility is a good jumping-off point on this topic).

So, putting arguments of efficiency and equity aside, a relatively wide income/wealth dispersion is the current state of affairs in the U.S. and all other industrialized nations. That is the reality. (For the record, there are good efficiency arguments.) The question I want to ask here is how do ‘economic/social elites’ justify the status quo in order to maintain the distribution or even increase their take?  Diamond’s passage does a good job of identifying the methods. So, here are longer excerpts of what he says.

By now, it should be obvious that chiefdoms introduced the dilemma fundamental to all centrally governed, non egalitarian societies. At best, they do good by providing expensive services impossible to contract for on an individual basis. At worst, they function unabashedly as kleptocracies, transferring net wealth from commoners to upper classes…The difference between a kleptocrat and a wise statesman, between a robber baron and a public benefactor, is merely one of degree: a matter of just how large a percentage of the tribute extracted from producers is retained by the elite, and how much the commoners like the public uses to which the redistributed tribute is put.

If you think about the tea-party movement’s anti-government angle, it is loosely based on the sentiments expressed here of a government moving down the slippery slope into kleptocrat territory. The same is true again from the populist left.  The examples Diamond then gives are instructive.

We consider President Mobutu of Zaire [now the Democratic Republic of Congo] a kleptocrat because he keeps too much tribute (the equivalent of tens of billions of dollars) and redistributes too little tribute (no functioning telephone system in Zaire). We consider George Washington a statesman because he spent tax money on widely admired programs and did not enrich himself as President. Nevertheless, George Washington was born into wealth, which is much more unequally distributed in the United States than in New Guinea villages.

For any ranked society, whether a chiefdom or a state, one thus has to ask: why do the commoners tolerate the transfers of the fruits of their hard labor to kleptocrats?

The question here – as it pertains to the debate in the U.S.  – is first and foremost about government policy in levelling the playing field. But it is also implicitly about government size because if you believe that your government is enriching kleptocrats, then you may want to limit its size. The focus on policy versus size is what divides the left and right wing populist movements.

Then Diamond comes to the heart the question at hand:

What should an elite do to gain popular support while maintaining a more comfortable lifestyle than commoners? Kleptocrats throughout the ages have resorted to a mixture of four solutions:

1. Disarm the populace, and arm the elite. That’s much easier in these days of high-tech weaponry, produced only on industrial plants and easily monopolized by an elite, than in ancient times of spears and clubs easily made at home.
2. Make the masses happy by redistributing much of the tribute received, in popular ways…
3. Use the monopoly of force to promote happiness, by maintaining public order and curbing violence. This is potentially a big and underappreciated advantage of centralized societies over noncentralized ones…
4. The remaining way for kleptocrats to gain public support is to construct an ideology or religion justifying kleptocracy. Bands and tribes already had supernatural beliefs, just as do modern established religions. But the supernatural beliefs of bands and tribes did not serve to justify central authority, justify transfer of wealth, or maintain peace between unrelated individuals…

In the context of the U.S., I associate the four methods this way:

1. The rise of the military-industrial complex is instrumental in disarming the populace as Diamond suggests.
2. Bridges to nowhere, earmarks, or protectionism are common ways of making the masses happy by redistributing the tribute. I’m sure you can think of a thousand other ways.
3. Despite having won Word War II, the U.S. is in a perpetual state of war.  It justified huge military expenditures because of the Soviet Union, China and the threat of communism during the Cold War. However, this has now been replaced by the War on Terrorism and the justification for military expenditures equivalent to the rest of the world combined remains (see here and here). Americans understanding is that these expenditures keep them safe.
4. I would argue that free market ideology has been distorted by elites as a means of justifying kleptocracy. See Deregulation as crony capitalism. 

This last point is where I expect the most pushback because the rhetoric is so ingrained. Yet, all of these points require examination. I think we have reached a point where the size and function of government is critical. I have written two posts in the past on this: A brief philosophical argument about the role of government and A few thoughts about the limitations of government. My general take in slogan form is “limited government with an eye to the specific needs of the day.”  But I would be interested in hearing some of your views on both what the right questions are as well as the right answers.

Related posts:

• A populist interpretation of the latest Boom-Bust cycle
• The year in review at Credit Writedowns – Kleptocracy
• Deregulation as crony capitalism
• Definition of terms
• More on greed, regulation, Lehman and the financial industry

With stocks now up significantly from March 2009 lows, a mild correction has been underway for the past two weeks.  Even if it risks becoming a major correction, we will still be well above levels just 6 months ago.  But that has Alan Greenspan worried.

Business Week reports:

Former Federal Reserve Chairman Alan Greenspan said a U.S. economic recovery is “going to be a slow, trudging thing,” and that he “would get very concerned” if stock prices continue to fall.

A drop in stock prices is “more than a warning sign,” Greenspan said yesterday on NBC’s “Meet the Press” program. “It’s important to remember that equity values, stock prices, are not just paper profits. They actually have a profoundly important impact on economic activity.”

Keep that stock market up or the assets underpinning bank balance sheets and the fake economy will fall in value. That is bad news for you recovery fans.

Sir Alan has spoken.

Related posts:

• Fred Sheehan and the untold story of Alan Greenspan
• Is Alan Greenspan self-serving?
• Greenspan: financial crisis ‘will happen again’
• A brief look at the Asset-Based Economy at economic turns
• Partial recovery will mean new lows for stocks

This is an update on trade and protectionism because the last posts I wrote on protectionism were in December. Since then, the only two major events on the protectionist front happened last Friday.

Canada and the Buy American Fiasco

The National Post of Canada trumpeted Protectionism ‘breakthrough’ reached on Friday because Canada received an exclusion to the contentious Buy American provision imposed in last year’s stimulus bill. The post is subtitled “Canadian victory” and begins with a picture of an American and Canadian flag waving right next two one another.  I think you know how this one will read.

With official confirmation that Ottawa and Washington have struck a deal on Buy American provisions, Veso Sobot is letting out a major sigh of relief — as well as a laugh or two. He can’t help but be a bit giddy.

"Oh my goodness, absolutely, we are very happy," said Mr. Sobot, director of corporate affairs at IPEX Inc., a Toronto-based pipe manufacturer that gained notoriety after the introduction of Buy American rules for having its pipe fittings pulled out of the ground in California because they had the ‘Made in Canada’ designation on them.

"This will allow us to compete again. We are tickled pink and we are going to be aggressive about trying to compete for business in the Untied States, and I hope this can help bolster our 2010 and bring back jobs to Canada."…

The crux of the deal will see Canada agree to provide U.S. suppliers with access to a range of construction contracts across Canada’s provinces and territories, as well as in a number of municipalities. In return, the United States has agreed to provide Canadian suppliers with access to state and local public works projects in a range of programs funded by the American Recovery and Reinvestment Act of 2009 – through the U.S. departments of energy, housing and environment.

The deal will be structured to allow the White House to use executive power to treat sectors of the Canadian economy as American by claiming supply chains are so integrated they cannot be separated. This has been done because Barack Obama, the U.S. President, cannot rely on Congress to pass legislation exempting Canada from Buy American provisions.

The piece is much longer and is a must-read for anyone looking for insight into the politics of trade. Many Americans really don’t appreciate the degree to which American protectionism creates political problems with trading partners.  The Canadian government was hard pressed to mollify domestic industry which was being shut out of the American market. It was getting to the point where either a symbolic tit-for-tat measure was going to be necessary or incumbent politicians would feel it from voters.

What about China and their currency manipulation?

Instructive, however, is the difference between the way the Obama Administration has hammered out an agreement with Canada – even at the risk of Congressional ire from its end-run around legislative approval – and how the Administration approaches China. Stephen Roach makes the case.

The United States needs to face up to its own imbalances rather than engage in more China bashing over trade, said world-renowned economist Stephen Roach.

"The West, especially the United States, needs to take a long hard look in the mirror and face up to its own imbalances. Hypocrisy is not a recipe for global statesmanship," wrote Roach in Singapore’s leading financial daily Business Times this week.

As U.S. congress and the White House look toward the mid-term elections of 2010, Washington could well up the ante on China bashing — moving from a rhetorical assault to widespread trade sanctions, predicted Roach, chairman of Morgan Stanley Asia.

He noted that the United States has already imposed trade sanctions on Chinese exports of tyres, coated paper product and steel piping and grating in recent month.

Roach argued that the expected salvo from Washington was apparently built on hypocrisy as the United States itself should also be held accountable for the global economic imbalances.

-Economist warns against China bashing from Washington over trade, Xinhua, 17 Jan 2010

Of course, China has a fixed exchange rate with the U.S. And this is the source of much of the antagonism from Washington.  However, China is starting to overheat and has an incipient inflation problem. Inflation is eroding Chinese competitiveness. So, devaluation of the remnimbi could actually be the first currency move from the Chinese.

For now, the tensions are rising with the Chinese instituting the latest tit-for-tat salvo.

China, the largest market for U.S. chicken, will impose anti-dumping duties of as much as 105.4 percent on imports of American poultry products, threatening to deepen a trade rift.

Importers of U.S. broiler-chicken products will be required to pay after an investigation showed they had caused “material damage” to local suppliers by selling at below-market prices, the Ministry of Commerce said in a statement on its Web site, citing a preliminary ruling. The duties are effective Feb. 13.

The ruling may further strain trade relations between the U.S. and China, which began its investigation in September, two weeks after the U.S. imposed tariffs on Chinese tire shipments. Ties have soured over proposed U.S. arms sales to Taiwan and President Barack Obama’s plan to meet the Dalai Lama this month.

“This is probably a result of political tension, although a trade war between the two economies is unlikely,” said Li Qiang, a managing director of Shanghai JC Intelligence Co. China consumed almost 800,000 metric tons of U.S. chicken in 2008, valued at $722 million, according to the USA Poultry & Egg Export Council.

China’s chicken probe also was a response to a decision by Congress that effectively bans imports of cooked poultry, James Sumner, the president of the poultry export council, said on Sept. 14.

-China to Impose Dumping Penalties on U.S. Chicken, Bloomberg, 5 Feb 2010

I am not anywhere near as sanguine about avoiding a trade war as Li.  Michael Pettis has it right when he explains in the FT why a trade war is very likely to break out this year.

if deficit countries demand structural change faster than surplus countries can manage, we will almost certainly finish with a nasty trade dispute that will slow the global recovery and poison relationships for years.

Now that consumer demand is slack everywhere around the world, politicians are desperate to demonstrate they are doing something for their voters’ jobs. Bashing foreigners is an easy way to score political points. But it is also a dangerous game that is likely to lead to a bad outcome. The U.S. avoided such an outcome with Canada; with China, I am not so sure.

Related posts:

• ‘Buy American horror stories’ in Canada
• China launches retaliatory investigation into U.S auto subsidies
• ‘Buy American’ will translate into a 21st century Smoot-Hawley
• Chinese tariffs of up to 25 percent on Russian and American steel
• Tariffs: Other industries may line up for sanctions against China

Related posts:

• Links: 2010-01-11
• News round-up: 2 Oct 2008
• The week in review at Credit Writedowns: 2010-01-01
• Links: 2010-01-10
• Links: 2010-02-05

• Does Monsters Acquisition Of Yahoo! HotJobs Matter If The Internet Is The Job Board?
• Is Tim Geithner Paying Attention To the Global Economy? – The Baseline Scenario
• Blankfeins $9 Million Bonus Is PR Genius – Deal Journal – WSJ
• Brees’s Colleagues See an Amazing Athlete Within – NYTimes.com
• Facebook removes Microsoft banner ads from site| Reuters
• FDIC: Failed Bank Information – Bank Closing Information for 1st American State Bank of Minnesota, Hancock, MN
• Republicans Chase Wall Street Donors – WSJ.com
• Nexus One Sales Still Sluggish: Only 80,000 in First Month
• FT.com – Chrystia Freeland – What Toronto can teach New York and London
• Apple hopes to keep mobile advertising all to itself | TG Daily
• Vintage Wine Turns Sour for Financiers – Casey Research
• Q&A: Carmen Reinhart on Greece, U.S. Debt and Other ‘Scary Scenarios’ – Real Time Economics – WSJ.com
• FT Alphaville – Paul Murphy – Should Guy Hands be barred from Britain?
• A Roadmap of the Shadow Banks, plus targeting the Volcker Rule – Mike Konczal

Related posts:

• Links: 2010-01-29
• Links: 2010-02-05
• Links: 2010-01-16
• Links: 2010-02-03
• Links: 2009-03-12

This post was originally published at A Fistful of Euros

Well, as reported over the weekend on this blog, the EU Commission did in fact demand “more sacrifices” from the Greek people, and in the end Prime Minister Papandreou had to make a last minute TV appearance to explain to his incredulous listeners that the time had come “to take brave decisions here in Greece just as other countries in Europe have also taken….We all have a debt and duty towards our homeland to work together at this difficult time to protect our economy.” I thought that that time had come last November, but evidently I was precipitate in my judgement, but now it has finally arrived, although I would note that hope does spring eternal, and that even now not everyone is 100% convinced.

When Andreas Papandreou said Greece needed the same brave decisions others have taken I presume he was in fact referring to Latvia, Hungary and Romania.

More than the measures themselves, what is interesting about the Brussels acceptance speech were the series of measures put in place to monitor and control Greek economic policy. As the Financial Times put it, the EU puts Athens under close scrutiny.

“The European Commission, the guardian of Europe’s fiscal rules, struck out into uncharted territory by placing Greece’s economic and budgetary policies under closer surveillance than has yet been applied to a eurozone country.”

In fact the European Commission has put Athens on an unprecedentedly short leash, since there is to be a mid-March interim progress report, a further one in mid-May, and quarterly updates thereafter. In addition, an infringement procedure was also launched against Athens for “failing in its duty to report reliable budgetary statistics”.

The Commission recommendations will now be forwarded to EU finance ministers for possible approval on 15-16 February. If endorsed, it will be the first time that a eurozone member country will be put under such strict surveillance.

And the agreed measures are obviously far from being the end of the road, since the EU executive only conditionally approved Greece’s three-year fiscal plan and warned further cuts in public sector wages would be required (that dreaded internal devaluation) if, as many economists believe, the measures so far announced prove to be insufficient to generate the economic growth which will be needed to meet the steep deficit-reduction targets. Thus the die is cast, and Greece will not, as I recommended, be going to the IMF. Such a move is now seen as superfluous, since the EU Commission is steadily transforming itself into a local “mini-version” of the Fund in order to try to handle the cases of those countries who show continuing reluctance in implementing those much needed deep structural reforms. I only hope the Commission have the will to follow this through with all the determination that is needed, since if Greece do now finally go to the IMF for help it will surely now be as an ex-member of the Eurogroup.

Not that this weeks session was entirely accident free. Retiring Economy Commissioner Joaquin Almunia gave yet another example of how clumsy he can at times be, by declaring that “En esos países (Greece, Portugal and Spain), observamos una pérdida constante de competitividad desde que son miembros de la zona euro” (a “continuous” loss of competitiveness), which appeared in the English language press as: “Almunia Says South Europe Has ‘Permanent’ Competitiveness Loss“. It isn’t clear to me from this distance whether he was speaking in English and his core message got “lost in translation”, or whether he thought the speech out in Spanish, and the faux pas is down to his advisers. Either way the damage was done, causing even more problems than needed – according to data from CMA datavision, Credit Default Swaps were up on Spanish Sovereign Debt to 151 bps, or up 18.24 on the day. Portugal CDS also rose sharply on the day – 28.47 bps to 195.80.

As Deutsche Bank’s Jim Reid said after the announcement:

Clearly aggressive fiscal tightening can look plausible on paper but the reality is that the path will be full of potential roadblocks. Future strike action will be sign of how prepared the general population is to take the hard medicine. The jury must still be out on this and the market will look to exploit any set backs. However in the short-term the market does seem to have lined up an alternative target.

So the jury still is very much out on just how viable the GDP targets being offered by the Greek government really are. George Papaconstantinou, Greece’s finance minister, may have told the Financial Times that he expected a return to economic growth from the middle of this year – boosted, he said, by strength in the shipping and tourism industries and the “hidden power of consumers” in the shadow economy. But saying this is one thing, and achieving it is another. Growth across Europe will at best be modest this year – let’s say between 0.5% to 1% of GDP at the most optimistic – with labour markets week everywhere, so I think it is rather unrealistic to expect a tourist boom going much beyond the one we saw (or didn’t see) last year, and the same goes for shipping, which is a sector where surplus capacity still abounds. As for those affluent Greek consumers he is talking about, we have to hope they all dig deep into their wallets, and that each and every one of them now insists on a VAT valid invoice!

But so far there is not much sign of this, and retail sales are actually falling steadily (see chart below). In fact I seriously doubt we are going to see much support from internal consumption at this point. Greece is all about exports now, but where are they going to come from? And how is the country going to get a trade surplus big enough to achieve the sort of economic growth they are talking about without a much stronger internal devaluation?

Industrial output has been falling for some time.

And the latest January PMI only served to underline how Greece was becoming detached from the recovery elsewhere.

Commenting on the Greece Manufacturing PMI survey data, Gemma Wallace, economist at Markit said:

“The onset of the new year brought little hope of a near-term recovery in Greek manufacturing. Accelerating contractions in new orders, output and employment caused the headline PMI to sink to an eight-month low. Meanwhile, firms were struggling to cover rising costs, as strong competition and unfavourable demand conditions rendered them unable to raise charges.

Eurozone unemployment hit 10% for the first time in December, underlining the extent to which the timid economic recovery has yet to translate into job creation. Spain’s jobless rate rose to nearly 20%, and Ireland, which like Spain has also been hard hit by a housing downturn, saw its jobless rate climb to 13.3% from 13%. As is normal Eurostat didn’t have data on the jobless rate in Greece, where, as Market Watch point out, statistics are notoriously hard to come by. The latest – EU comparable – number we have is for October, but at this point such a data point is the next best thing to useless. A similar situation exists in the construction sector, we have no clear idea of what is happening since the Greek statistics office simply to not supply comparable data to Eurostat.

Meanwhile the drama in the bond markets looks set to trundle on:

Greece’s acute problem is the need to raise financing to allow it to roll over maturing debt in April and May, while preserving sufficient cash to fund current expenditure. We estimate an additional funding need of at least €30bn by May. The concentration of maturing debt is unusual, but even if this immediate source of stress can be overcome, the funding profile for coming years remains demanding. The next three months will have a heavy bearing on the profile that is followed, but whatever happens, Greece and other peripheral euro area countries will still suffer from a chronic need to improve productivity, raise national savings and cut government borrowing.
Christel Aranda-Hassel, Director, European Economics, Credit Suisse.

An all the doubt continue as to whether, with the fiscal retrenchment process and the competitiveness correct Greece can manage to achieve the debt to GDP reductions promised in their Stability Programme. As Credit Suisse’s Giovanni Zanni puts it, previously

Nominal GDP growth was systematically higher than the average rate of interest paid on the government’s debt. The implication was that the government could run significant fiscal deficits and still reduce the debt-to- GDP ratio. It did not exploit that advantage significantly, however, and the Greek government’s debt ratio fell only slightly over the period. Things have changed drastically since last year. Nominal growth fell to 0% in 2009. Although it should recover from 2009 lows, we think it will remain subdued relative to the recent past. Even if Greek sovereign credit spreads versus Germany fall back somewhat from the peaks reached last week, it seems extremely unlikely that the favourable dynamics of the past will reappear anytime soon. As such, there are few options open to the government other than to move the primary balance into surplus – a surplus that is sufficient to first stabilise the debt-to-GDP ratio and then push it downwards.

This primary surplus seems a very, very long way off at this point. And Greek bonds fell again yesterday, pushing the premium investors demand to hold 10-year securities instead of German bunds up by 12 basis points to its highest level in a week. The move followed news that Greece’s biggest union had approved a mass strike while tax collectors began a 48-hour walkout. The Greek 10-year yield jumped 8 basis points to 6.76 percent as of 11:45 a.m. in London. The difference in yield, or spread, with benchmark German bunds was at 365 basis points. It widened to 396 basis points on Jan. 28, the most since before the euro’s debut in 1999.

And Citicorp warns that investors may well continue to cut their holdings of Greek bonds amid scepticism the government can overcome public hostility to budget cuts.

“Although Greece has secured the expected backing from the EU for its latest austerity program, we expect markets to remain very fearful of the potential for the fiscal consolidation process to slide or to be derailed by public dissent,” according to Steve Mansell, director of interest-rate strategy at Citigroup in London. Investors, he said, may be “more prone to lighten exposure on any significant spread tightening moves”.

And it isn’t only the bank analysts who are not convinced. According to this article in Le Monde IMF head Dominique Strauss Kahn and his close associate Jean Pisani-Ferry, director of the Brussels based think tank Bruegel also have their doubts:

Celui-ci estime que l’UE n’a ni la vocation, ni les équipes, ni les techniques pour analyser les carences d’un pays et préconiser des remèdes. L’Union n’a pas l’habitude d’affronter l’impopularité des thérapies de choc et pourrait céder aux manifestations de rue. Le FMI peut jouer de sa réputation de dureté pour aider le gouvernement grec à imposer les sacrifices inévitables.

Which in plain English says that they thing the EU Commission has neither the vocation, nor the teams, nor the technical experience to take on a job of this size, and while it is vital that the necessary structures and policy tools are developed, in the meantime the clock is ticking away, and the infection is spreading to the Sovereign Debt of other countries – even as far away as Japan. Basically M. Strauss Kahn seems to feel that the EU Commission is assuming an unnecessarily high risk, and that the Greek dossier should really have been sent to the IMF as a matter of some urgency. I cannot but agree.

Edward Hugh has a lively and enjoyable Facebook community where he publishes frequent breaking news, economics links and short updates. If you would like to receive these updates on a regular basis and join the debate please invite Edward as a friend by clicking this Facebook link.

Related posts:

• Standard Bank says Greece and Ireland may leave Eurozone
• Video: Fitch downgrades Greece to BBB+ as violence erupts
• Greece risks financial Armageddon while Ireland makes cuts
• After Greece and Portugal, does Spain come next?
• Greece sees credit rating cut by S&P

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John Mauldin’s latest is about spotting asset bubbles and the potential government policy response. But he also has a lot to say about the latest employment situation survey and the situation in Greece with an apt comparison to the U.S.

In this issue:
A Bubble in Search of a Pin
Unemployment Numbers: A Mixed Bag
A Bubble in Search of a Pin
And Speaking of Bubbles

Should Greenspan and Bernanke have seen the bubble in housing and other assets and acted, or should we accept their defense that you can’t know whether there is a bubble until after the fact? We will look at research that suggests they should have known, and, at the least, policy makers should no longer be allowed to say, "How could I have known?"

Of course, the employment numbers came out this morning, and the results are mixed; but that is better than they have been for the past two years. We dig into the numbers to see what they are really saying. And finally, we examine why the markets are so volatile. Is it just Greece, or is there more? There’s a lot of very interesting, and important, material to cover.

But first, and quickly, as I wrote in Outside the Box a few weeks ago, I am starting to very selectively buy biotech stocks, and mostly, though not exclusively, companies associated with the regenerative genetic revolution that is coming our way. I am convinced that this is going to be a decade of the most amazing medical breakthroughs, which will literally change (and in many cases extend) our lives, as therapies to treat all sorts of diseases become available.

This is the last time I am going to mention it, but here is the link to that OTB, which analyzes why we may see a bubble in biotech stocks before the end of the decade. The OTB was written by my friend Pat Cox, who covers these stocks and other technological marvels in his newsletter, Breakthrough Technology Alert. I have been following Pat for some time now, have talked extensively with him, and think he is one of those guys who have a handle on what by all accounts is going to be an amazing decade of breakthroughs.

I have asked his publisher to offer my readers a very discounted subscription price for one more week. (Ignore the deadline of February 5.) And yes, the promotional piece is a little over the top, as it is for most subscription newsletters (I am lucky mine is free – I don’t have to do that). But I think his letter has a lot of substance. The link to the site is in the Outside the Box. Don’t procrastinate. Join me, because for once in my life, dear God, I want to be in at the beginning of a bubble. And now to our letter.

Unemployment Numbers: A Mixed Bag

January employment numbers are characteristically volatile, as the birth/death ratio numbers are typically the largest of the year. This month the birth/death model subtracted (rather than added) 427,000 jobs (yes, I wrote that correctly). This is a very large "adjustment" month, and the volatility gets smoothed over in the seasonal adjustments. It is part and parcel of the process, as making estimates about how many new businesses are formed or die is extraordinarily difficult at turning points in the economy.

As an acknowledgment of that, the employment level for March 2009 was revised down by 930,000 jobs, and by December it was a total of almost 1.4 million extra jobs lost. That means that the Bureau of Labor Statistics overestimated the number of new jobs significantly. December’s job loss was really 150,000, not the 85,000 originally reported. How would the markets have reacted to a number that large?

January saw a slightly larger than estimated loss of 22,000 jobs, which would have been 53,000 without new federal employees, 9,000 of whom were hired to perform the census. (By the way, federal employment is absolutely exploding!)

Now, the somewhat good news. I have been writing about how the household survey has been much weaker for almost two years than the establishment survey. For instance, the total number of unemployed rose by 589,000 in December, while the number of people not classified as looking for work rose by 843,000. No matter how you spin it, those were very ugly numbers.

This month the household survey showed the largest one-month turnaround that I could find. As The Liscio Report noted:

"Adjusting for the changes in the population controls, total household employment rose by 784,000 – and when further adjusted to match the payroll concept, employment was up 841,000. Moves of this magnitude (regardless of sign) are unusual, but not unknown – and frequently undone in subsequent months. The less volatile ratios were also up, with the participation rate up 0.1 point, and the employment/population ratio rose a nice 0.2 point, its first increase since last April. While it’s too early to say whether this strength in the household survey is a harbinger of an upturn that will soon show up in payrolls, it’s something to be filed under ‘tentatively encouraging.’"

The work-week hours rose slightly. Income growth was better than it has been. Temporary workers rose, which is typically a harbinger of an increase in full-time employment. The number of people working part-time for economic reasons plummeted by 849,000.

And finally, the unemployment rate fell 0.3% to 9.7%. This of course means that more people are dropping out of the labor pool, and it also means they will at some point come back.

On the negative side, a loss of 22,000 jobs is nowhere close to the 100,000 new jobs that are needed just to hold unemployment steady. 41% of those unemployed have been so for over 6 months.

And quoting David Rosenberg:

"While there will be many economists touting today’s report as some inflection point, and it could well be argued that we are entering some sort of healing phase in the jobs market just by mere virtue of inertia, the reality is that the level of employment today, at 129.5 million, is the exact same level it was in 1999. And, during this 11-year span of Japanese-like labour market stagnation, the working-age population has risen 29 million. Contemplate that for a moment; fully 29 million people competing for the same number of jobs that existed more than a decade ago. That sounds like pretty deflationary stuff from our standpoint.

"Not only that, but consideration must be taken that in 2009, we had a zero policy rate, a $2.2 trillion Fed balance sheet and an epic 10% deficit-to-GDP ratio. You could not have asked for more government stimulus. Yet employment tumbled nearly 5 million in 2009."

Finally, a very sad chart, courtesy of David. Those in the 25-54 year-old male category have seen their total number of jobs fall back to the level it was in 1996. Fourteen years later, and the "breadwinners" who are supposedly in their prime have seen an almost 10% drop in employment.

As noted above, January employment numbers are very volatile, and are likely to be adjusted either up or down by a lot in coming months. But this report was not the disaster of December. It still shows a very weak economy that certainly does not need a large tax hike next year. I hope we start seeing some positive numbers soon, but I am not optimistic that we are going to see the 200,000-plus new jobs per month we need to really start denting the unemployment numbers, for some time. Not when the National Federation of Independent Business says 71% of small businesses do not plan to hire this year.

The Fed is taking away quantitative easing. Stimulus spending is exiting in the last half of the year. States and communities are having to either raise taxes or cut spending by $350 billion! I heard on the radio coming back from the gym (I think it was my friend Steve Liesman on CNBC) that there are now 55,000 fewer teachers than a few years ago.

And again from the NFIB, small businesses see very tight credit conditions, which makes it hard for them to expand (see chart below). The headlines this week from the Fed banking survey said that banks were prone to be less tight, but the NFIB writers went deep into the report. What they found is that very large banks are willing to be less tight in their lending standards. Smaller banks were in fact not as easy. Loan demand is falling. Consumer credit actually declined slightly in December, after plunging in November. If you can’t count on Americans to buy during Christmas, the world is in fact moving to the New Frugal.

All this is not the stuff that robust recoveries are made of. We drift back into Muddle Through the last half of the year, I think. And if Congress does not act to postpone or mitigate the enormous tax increases due in 2011, we slip back into recession. It will be a policy error of major magnitude to raise taxes with 10% unemployment and a weak economy.

A Bubble in Search of a Pin

We are going to once again return to the book highlighted the last few weeks, This Time Is Different, by Carmen M. Reinhart and Kenneth Rogoff. This is a book you should buy and read, especially the last 4-5 chapters, and try to get your Congressman to read it as well, so he or she can see what happens to countries that run up their debt. It makes no difference if it is small or large, the end result is the same.

Last week we looked at the role of confidence in allowing governments to borrow money. This week we ask whether Greenspan and Bernanke, along with the entire Fed, should have been able to determine whether a bubble was building in the US economy and lean against it, preventing the debacle we are now in. Reinhart and Rogoff gently come down on the side of those who think they should have, and that we need to implement changes in our institutions. Others, as we will see, are not so gentle. Let’s look at a few selected paragraphs I pulled off my Kindle (all emphasis mine).

"As we will show, the outsized U.S. borrowing from abroad that occurred prior to the crisis (manifested in a sequence of gaping current account and trade balance deficits) was hardly the only warning signal. In fact, the U.S. economy, at the epicenter of the crisis, showed many other signs of being on the brink of a deep financial crisis. Other measures such as asset price inflation, most notably in the real estate sector, rising household leverage, and the slowing output – standard leading indicators of financial crises – all revealed worrisome symptoms. Indeed, from a purely quantitative perspective, the run-up to the U.S. financial crisis showed all the signs of an accident waiting to happen. Of course, the United States was hardly alone in showing classic warning signs of a financial crisis, with Great Britain, Spain, and Ireland, among other countries, experiencing many of the same symptoms.

"… On the one hand, the Federal Reserve’s logic for ignoring housing prices was grounded in the perfectly sensible proposition that the private sector can judge equilibrium housing prices (or equity prices) at least as well as any government bureaucrat. On the other hand, it might have paid more attention to the fact that the rise in asset prices was being fueled by a relentless increase in the ratio of household debt to GDP, against a backdrop of record lows in the personal saving rate. This ratio, which had been roughly stable at close to 80 percent of personal income until 1993, had risen to 120 percent in 2003 and to nearly 130 percent by mid-2006. Empirical work by Bordo and Jeanne and the Bank for International Settlements suggested that when housing booms are accompanied by sharp rises in debt, the risk of a crisis is significantly elevated. Although this work was not necessarily definitive, it certainly raised questions about the Federal Reserve’s policy of benign neglect.

"The U.S. conceit that its financial and regulatory system could withstand massive capital inflows on a sustained basis without any problems arguably laid the foundations for the global financial crisis of the late 2000s. The thinking that "this time is different" – because this time the U.S. had a superior system – once again proved false. Outsized financial market returns were in fact greatly exaggerated by capital inflows, just as would be the case in emerging markets. What could in retrospect be recognized as huge regulatory mistakes, including the deregulation of the subprime mortgage market and the 2004 decision of the Securities and Exchange Commission to allow investment banks to triple their leverage ratios (that is, the ratio measuring the amount of risk to capital), appeared benign at the time. Capital inflows pushed up borrowing and asset prices while reducing spreads on all sorts of risky assets, leading the International Monetary Fund to conclude in April 2007, in its twice-annual World Economic Outlook, that risks to the global economy had become extremely low and that, for the moment, there were no great worries. When the international agency charged with being the global watchdog declares that there are no risks, there is no surer sign that this time is different. [By that they mean that the attitude of the market in general and central bankers in particular was that "this time is different" and so we did not need to worry about the warning signs. The entire point of the book is that it is never different. We just somehow believe we are in a special situation.]

"… We have focused on macroeconomic issues, but many problems were hidden in the ‘plumbing’ of the financial markets, as has become painfully evident since the beginning of the crisis. Some of these problems might have taken years to address. Above all, the huge run-up in housing prices – over 100 percent nationally over five years – should have been an alarm, especially fueled as it was by rising leverage. At the beginning of 2008, the total value of mortgages in the United States was approximately 90 percent of GDP. Policy makers should have decided several years prior to the crisis to deliberately take some steam out of the system. Unfortunately, efforts to maintain growth and prevent significant sharp stock market declines had the effect of taking the safety valve off the pressure cooker.

"… The signals approach (or most alternative methods) will not pinpoint the exact date on which a bubble will burst or provide an obvious indication of the severity of the looming crisis. What this systematic exercise can deliver is valuable information as to whether an economy is showing one or more of the classic symptoms that emerge before a severe financial illness develops. The most significant hurdle in establishing an effective and credible early warning system, however, is not the design of a systematic framework that is capable of producing relatively reliable signals of distress from the various indicators in a timely manner.The greatest barrier to success is the well-entrenched tendency of policy makers and market participants to treat the signals as irrelevant archaic residuals of an outdated framework, assuming that old rules of valuation no longer apply. If the past we have studied in this book is any guide, these signals will be dismissed more often that not. That is why we also need to think about improving institutions.

"… Second, policy makers must recognize that banking crises tend to be protracted affairs. Some crisis episodes (such as those of Japan in 1992 and Spain in 1977) were stretched out even longer by the authorities by a lengthy period of denial."

The evidence is there. So why did the Fed miss it?

A more pointed critique is leveled at the Fed and Greenspan, and at Bernanke in particular, by Andrew Smithers in his powerful book (now updated) Wall Street Revalued: Imperfect Markets and Inept Central Bankers. The foreword is by one of my favorite analysts, Jeremy Grantham. This is on the top of my reading list for the coming week. I am loving the first part, which ties nicely into the themes explored by Reinhart and Rogoff.

The book is a withering critique of the Efficient Market Hypothesis (EMH), among other economic theories. Smithers argues that because the tenets of EMH are so ingrained, Greenspan and Bernanke could not recognize the bubble, because they believed in the efficiency of markets. "Dismissing financial crisis on the grounds that bubbles and busts cannot take place because that would imply irrationality is to ignore a condition for the sake of theory." Which they did.

As Grantham wrote in the foreword: "My own favorite illustration of their views was Bernanke’s comment in late 2006 at the height of a 3-sigma (100-year) event in a US housing market that had no prior housing bubbles: ‘The US housing market merely reflects a strong US economy." He was surrounded by statisticians and yet could not see the data… His profound faith in market efficiency, and therefore a world where bubbles could not exist, made it impossible for him to see what was in front of his own eyes."

Reinhart and Rogoff show time and time again that bubbles always end in tears. Markets and investors are in fact irrational. What kind of Fed governor would it have taken to suggest that housing was in a bubble and we were going to have to take steps to slow it down – raising rates, analyzing securitization and ratings? It would have taken one tough hombre. In fact, we had Greenspan, who encouraged the unchecked expansion of the securitized derivatives market. And a Congress that would not allow proper supervision of Fannie and Freddie (which is going to cost US taxpayers on the order of $400 billion). The list is long.

And Speaking of Bubbles

This week the turmoil that is Greece continues. One of my favorite quotes comes from Donald Morris, writing in June of 1993 (hat tip to Dennis Gartman):

"If all of the Greek islands were merged with the mainland, it would be about the size of Alabama; there are 10 million Greeks – and perhaps another 4 million living throughout the world, who still think of themselves as Greek. They are, thanks to their history, magnificent patriots and nationalists – and abominable citizens, who deeply mistrust every government they’ve ever had. Essentially they are fierce individualists, who mistrust not so much whatever government happens to be in power as the very idea of government. The have almost no sense of civic responsibility – Pericles complained about this at length – and History has never given them much of a chance to work out a stable system of government. Democracy, yes (the Greeks invented it!!), but stability, no."

Have things changed? From here it does not seem so. Greece apparently hid about 40 billion euros of debt from the public and EU governing bodies. (If the government can hide that much, is it any wonder that individual Greeks themselves can hide their income and pay so little in actual taxes? They have made it an art form!) In response to just the initial phase of belt tightening, unions are launching strikes and protests. What will happen when it gets serious? Stratfor estimates that Greek deficits may actually run as high as 15% of GDP rather than "just" the 10% or so publicly revealed. That will require far more than a little belt tightening.

Let’s look at the record. Greece has been in default for 105 years out of the last 200. They have never had a balanced budget, at least not willingly.

The EU is backed into a corner. They have this treaty that says governments will act in certain ways. Greece is flaunting that treaty. Everyone acts as if Greece defaulting on its debt would be the end of the EU. Will the EU force Greece to withdraw if they do not control their budget? Upon reflection, I am not so sure.

Let’s take that proposition to the US. What if Illinois defaulted on its debt? Would we kick them out of the Union? Hardly. A default would mean a severe loss of credit, a forced retrenching, and a severe economic crisis in Illinois. The losses would be serious for banks and investors. There would be negotiations on how to deal with the debt, who gets a haircut on their bonds, what pension assets and expenses would be cut, and so on. A crisis? Yes. End of the world? No.

So what if Greece does default? The banks and those who lent them the money would take a loss of some amount. The cost of borrowing for Greece would rise dramatically, if they could even get into the debt market. If they actually cut their budgets enough to deal with the deficit in a responsible way, it would mean, at best, a severe and prolonged recession. If Stratfor is right about deficits reaching 15% of GDP, it could mean a depression. They have no good choices.

It is doubtful that German and French voters will be happy with any bailout using their tax money that does not impose serious cuts in Greek budgets, with realistic controls as a condition for the bailout. Can Greece live with that? We’ll see.

(I am sure I have hundreds of Greek readers. I would love to hear from you as to your views, from the inside.)

But is it so unthinkable that Greece could simply default and then be forced by the market to get realistic about its deficits? The same market forces that work in Illinois can work in Greece.

But if the EU does bail out Greece, what then of Ireland, which is making the tough choices? Will Portugal be next? If Greece is allowed to fail, or better, actually shows some fiscal discipline, that bodes well for the EU in the long run. It will be a lesson that each nation is responsible to maintain its own house.

The data presented by Reinhart and Rogoff show clearly that adding yet more suffocating debt to a bloated debt crisis is not the solution. It simply puts off the inevitable. Greece is an intractable problem. From here it looks like default or a very serious recession, with large unemployment numbers.

But in the meantime the Greek situation is adding volatility to risk markets of all types. I have written before of the connection between what is called the euro-yen cross and risk markets all over the world. Right now, you can borrow money very cheaply in dollars and yen (the so-called carry trade). When investors want to reduce risk, they pay back those loans, which has the result of increasing the value of the dollar and the yen.

That is what is happening with the euro-yen cross as of this morning. It is in the process of falling out of bed. And so are risk markets. Markets do not like uncertainty. And Greece and Portugal and Spain are uncertainty in spades. If Greece defaults, who owns the debt? Which banks? My bank? Will they call my loan? This happened in 2008 a lot! Can it happen again? We still have banks all over the world that are too big too fail. Credit default swaps are not on an exchange (because to do that would make them less profitable for the investment banks that sell them, and thus the lobbyists have convinced Congress to ignore them).

Are we at the place where we can think the unthinkable? That sovereign nations can in fact default? I think we see a de facto default by Japan this decade.

Do not assume that we have weathered the storm. We may just be getting ready for the next one.

John Mauldin, Best-Selling author and recognized financial expert, is also editor of the free Thoughts From the Frontline that goes to over 1 million readers each week. For more information on John or his FREE weekly economic letter go to: http://www.frontlinethoughts.com/learnmore

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Related posts:

• US economy loses 247,000 jobs in July
• What’s different about 2008?
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See also Supreme Court Ruling Spurs Corporation Run for Congress First Test of “Corporate Personhood” In Politics. 

Watch out Chris Van Hollen. We’ve got a new ‘person’ in the hunt for Maryland’s 8th district. That’s my Congressional District.

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Last week I showed you a chart from ProPublica in my post State unemployment insurance insolvency: 50 little Hoovers which demonstrated how states are being killed by the financial strains of unemployment insurance.  Well, this week ProPublica is back with more detail behind that chart – and, as you can imagine, it’s not exactly bullish.

They say:

If you’ve been following our coverage of the nation’s unemployment insurance system, you may have concluded that things are pretty bad. (See our interactive feature showing whether your state’s fund is in the red.)

But what about some historical perspective?

It’s official, recession hounds: The 26 states with insolvent unemployment insurance trust funds have now borrowed more than they did during 1981 and 1982, the last time there was a severe recession in the U.S., and oft-used benchmark for when things are Officially Really Bad.

According to this long-buried CBO document, in March of 1983, total outstanding state loans were 13.7 billion, a figure which includes borrowing during 1981 and 1982 and the first quarter of 1983 plus carried-over borrowing from 1975 to 1980.

In 2009 dollars, that’s $29.5 billion. Current state borrowing is now just over $30 billion.

As we’ve written, borrowing from the federal government, which occurs when states have spent all of their own unemployment trust fund reserves, will affect states for years to come. States that cannot repay their loans before 2011 will face tens or hundreds of millions of dollars in interest payments. To shore up their funds, states have also been forced to raise taxes and in some cases cut benefits.

You should see this as another data point which signals a looming retrenchment or tax hike at the state level.  The problems are not at all dissimilar to what is happening in the Eurozone given the fiscal and currency binds in which Eurozone members find themselves (see my July post Depressionary bust in Ireland is echoed in California and EconomPic’s recent post Comparing U.S. and E.U. Unemployment).  If you have data that can paint this in a better light, please link to it in the comments.  Right now, this is not looking good.

Source

Unemployment Insurance Borrowing Now Greater Than During 1980s Recession – ProPublica

Related posts:

• State unemployment insurance insolvency: 50 little Hoovers
• State tax revenue down 26% in 2009
• Kansas and California and the race to U.S. state insolvency
• Is the State of California bankrupt?
• Unemployment insurance for the 21st century

Today, I received a press release from the complete list of federal government regulators of the financial industry which all but ordering banks to lend to small businesses. Clearly, regulators are concerned as comments by Marc Chandler intimated in my last post.

The regulators supporting the press release were the following: The Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the National Credit Union Administration
Office of the Comptroller of the Currency, Office of Thrift Supervision, and the Conference of State Bank Supervisors.

Here’s some of what they said verbatim [emphasis added]:

Some small businesses are experiencing difficulty in obtaining or renewing credit to support their operations. Between June 30, 2008, and June 30, 2009, loans outstanding to small businesses and farms, as defined in the Consolidated Report of Condition (Call Report), declined 1.8 percent, by almost $14 billion. Although this category of lending increased slightly at institutions with total assets of less than $1 billion, it declined over 4 percent at institutions with total assets greater than $100 billion during this timeframe. This decline is attributable to a number of factors, including weakness in the broader economy, decreasing loan demand, and higher levels of credit risk and delinquency. These factors have prompted institutions to review their lending practices, tighten their underwriting standards, and review their capacity to meet current and future credit demands. In addition, some financial institutions may have reduced lending due to a need to strengthen their own capital positions and balance sheets.

Supervisory Expectations

While the regulators believe that many of these responses by financial institutions are prudent in light of current economic conditions and the position of specific financial institutions, experience suggests that financial institutions may at times react to a significant economic downturn by becoming overly cautious with respect to small business lending. Regulators are mindful of the harmful economic effects of an excessive tightening of credit availability in a downturn and are working through outreach and communication with the industry and supervisory staff to ensure that supervisory policies and actions do not inadvertently curtail the availability of credit to sound small business borrowers. Financial institutions that engage in prudent small business lending after performing a comprehensive review of a borrower’s financial condition will not be subject to criticism for loans made on that basis.

Translation: small business lending is declining for a lot of reasons – one of which is excessive caution by lenders.  We don’t like that. So, please lend more to small businesses and farms; we will go easy on you if you do.

Is it just me or does this sound like regulators are extremely concerned about credit?  First, you have every single major financial regulator except the SEC joining forces to issue this joint press release.  Then you have language which suggests quite directly that banks which increase small business lending “will not be subject to criticism for loans.”

What does that mean exactly? Let’s say my bank does a comprehensive review and compiles data which determines that we can lend to specific borrowers who then default.  What then?  Regulators will not be subject us to criticism for those loans?  Does that mean I will get a bailout or a free pass for having inadequate capital ratios?  I would like more specifics here.

The rest of the press release is boilerplate stuff.  But I sense a slight whiff of panic and I will be watching to see how regulatory officials couch their explanations of this policy. Long story short, this is official confirmation that the credit crisis is not over and that regulators are worried.

Source

Interagency Statement on Meeting the Credit Needs of Creditworthy Small Business Borrowers (pdf) – FDIC website

Related posts:

• Connecting Fed cuts with credit writedowns and quantitative easing
• Citi to repay $20 billion in bailout money
• Credit quality deteriorates in 2009
• Citibank has cut all lending in Denmark
• FDIC Statement on the Stress Tests

Marc Chandler, Global Head of Currency Strategy at Brown Brothers Harriman has an alarming note out this morning on economic policy.  I take notice because Chandler usually writes in more nuanced and non-apocalyptic tones.  For example, he begins:

The risks are asymmetrical.  Many of the world’s national economies, in various stages of recovery, are still highly dependent on government support.   While it is possible that the combination of aggressive fiscal and monetary policy responses have put the economies on a strong growth path, there remains a much greater risk that as the stimulus is removed the economies stagnate or worse.   

Aborted recoveries are rare.  They are the exception that proves the rule.  Despite the gallons of ink spilled on prognostications of a “double dip” or a “W” shaped bottom, there have only been two in the U.S.—the Great Depression and the early-1980s Reagan-Volcker recession.  They seem to be products of a policy error, like removing a splint too early from a broken bone.

However, his latest thematic piece changes course abruptly when he writes:

Nearly all policy makers share two key interests: lay the foundations for a sustainable economic recovery and unwind the emergency facilities and spending.  There appeared to have been a consensus, giving more weight to the former than the latter this year.  The bond vigilantes have instigated a disruption of that consensus much to the chagrin of the popular will.  Indeed, those countries that capitulate the most to the vigilantes are likely to experience the most social push back.    Stay tuned. 

Ironically, the effect of the bond vigilantes and the social resistance may be similar insofar as the economic impact is negative.  Ultimately what is at stake is the how the costs (broadly understood) of the bailouts and stimulus are going to be distributed, not just in terms of classes, but also sectors, industries and countries.     

This is taking place along another potent but yet somewhat less personal of a force.  Like a victim in a trendy vampire show, the life blood of the two largest economic regions, the US and Europe, is being sucked out. 

Money supply, measured by the ECB’s M3 has collapsed.  In January 2009 it was growing at a 6% year-over-year pace.  By the end of the year it was contracting at a 0.2% pace.  It was contracting in both November and December.  The next report is due January 25th and even if one is not a monetarist, the situation is worrisome. 

It has been lost in the light of the preliminary 5.7% Q1 US GDP, but in the Fed’s statement there appeared what seems like the first official recognition of the ongoing contraction in bank credit.  The FOMC implies that this is being offset by improved financial market conditions.  We thought so too. 

But the capital markets are fickle and given the surge in volatility and the general deterioration of market conditions (should it persist), the risk is that it no longer is sufficient to offset the contraction in bank credit.   Even if this is just a normal market correction, it could stall the economies at a crucial time.

The real tragedy is not what is happening in Athens, as painful as the adjustment promises to be.   Rather the real Greek tragedy is that we are running quickly, even if not irrevocably yet, into precisely that which we wanted to avoid the most. [emphasis added]

The takeaway here is that we are still in a credit crisis. What is happening in the sovereign debt markets is going to force policy makers to unwind stimulus and accommodation sooner than later. However, doing so risks disaster because signs of recovery are still quite incomplete at this juncture. The evidence comes in both the Fed’s assessment of low credit demand and the ECB’s assessment of outright monetary contraction.  You don’t get sustainable GDP growth in a world of contracting monetary aggregates and sluggish credit demand.

The explosive undercurrent of Marc’s comments come where he mentions ‘”how bailouts and stimulus are going to be distributed.” What he seems to suggest is that a premature policy exit puts would put most of the risk burden on specific classes, economic sectors and countries (think: high school graduates, homebuilding, industrial commodities and Spain for example).

This does not seem like a logical outcome given comments from people like Ben Bernanke that we have learned from the Great Depression and now know what needs to be done in a severe financial crisis. But, for now, this is where we’re headed.

Read Chandler’s full piece at BBH’s FX website linked below.

Source

Amor Fati: Moving toward Our Maximum Regret (pdf) – Marc Chandler, BBH Thematic Piece, 05 Feb 2010

Related posts:

• Moody’s: Iceland, Latvia and Hungary in “fragile stabilization”
• Stephen Roach: Downturn in Asia less severe, but recovery later
• Don Kohn says Fed policy has kept rates down 100 basis points
• Japan: stimulus without reform leads to a policy cul de sac
• Nouriel Roubini: we are in recession

A lot of people are questioning the unemployment rate of 9.7% in the face of a –20,000 non-farm payroll print.  How could we be losing jobs and have the unemployment rate drop? It would seem people are dropping out of the labor force.

However, I have now parsed the household survey data and most of the data seems reasonable. The labor force participation rate actually ticked up slightly (both seasonally adjusted and unadjusted) – as did the number of people not in the labor force who wanted a job (unadjusted only). This is what we would expect.

What sticks out is the seasonal adjustment for the number of persons employed and unemployed. 

In December 2009, there were 15.267 million people unemployed on a seasonally-adjusted basis.  This ticked down to 14.837 in January 2010, a fairly large drop of 430,000. Meanwhile the unadjusted numbers go the other direction – massively. In December 2009, the number of unemployed persons was 14.740 million. This rose 1.4 million to 16.147 million.  Therefore, we saw a swing of over 1.8 million between what the unadjusted and the seasonally adjusted data are saying about who’s unemployed. The number of people employed increased by over 500,000 on a seasonally-adjusted basis, while it decreased by over 1.1 million on an unadjusted basis. That’s a swing of 1.6 million.

Bottom line: the unemployment rate downtick has nothing to do with people dropping out of the workforce; it is an statistical aberration due entirely to seasonal adjustments in the household survey in the number of people employed and unemployed.

Related posts:

• US Jobless claims decline in latest week
• Payroll data mixed despite the bullish headline job loss figure
• Comprehensive unemployment rate is 17.5%
• Employment situation report paints grim picture
• The weak employment situation summary for June 2009

Those are the numbers. But this month’s unemployment rate and the non-farm payrolls number are less important this go round. The devil is in the details here because we have some major benchmark revisions and that means changes to historical data.  Bloomberg has a report out which says the government’s own statisticians have anticipated a net downward revision of 824,000 jobs due to the failings of the infamous birth-death model (see story here). I have yet to parse this data, but will do so shortly. I can say that 11 of 12 months in 2009 had negative jobs revisions. November was the only positive revision. On the surface, it sounds like more people are still dropping out of the labor pool.

That said, here are a few factoids about previous recessions.

• In the last recession, the absolute number of unemployed persons as measured by the household survey didn’t top until April 2002, 5 months after the statistical recession was said to have ended.
• In the early 1990s, the number of unemployed topped out in June 1992, 15 months after the statistical recession ended.

*Note: both of these are seasonally-adjusted numbers.

The takeaway is that employment continued to rise in both cases without an economic relapse. Stimulus, automatic stabilizers, low interest rates and the inventory cycle served to cushion the downturn and keep us from double-dipping. This is why I have said repeatedly that your base case scenario has to start with a multi-year recovery. Any divergence from that can only be explained by factors specific to this downturn. The factors I point to include large numbers of mortgage defaults, a withdrawal of monetary and fiscal stimulus, and state government retrenchment.

But, let’s not forget my Employment Rate Illusion hypothesis where the higher the unemployment rate, the bigger an impact it can potentially have on the psychology of consumers.  In 1992 or 2002, consumers didn’t face almost double digit unemployment rates. But, apparently, the rate is now coming down in 2010.

More shortly.

Related posts:

• 651,000 jobs lost but unemployment rate at 8.1% in U.S.
• 10.2% unemployment, 190,000 jobs lost
• Unemployment comes in at 10.0%; 85,000 jobs lost but November revised to gain
• 467,000 jobs lost in the U.S. in June 2009
• The weak employment situation summary for June 2009

Finance and Economy

• China to Impose Dumping Penalties on U.S. Chicken – Bloomberg.com
• Toyota Faces at Least 29 Lawsuits Over Acceleration – Bloomberg.com
• Spain’s GDP Contracts for Seventh Quarter, Bank of Spain Says – Bloomberg.com
• Bank of America E-Mails Show Lehman, Not Merrill Was Buy Target – Bloomberg.com
• FT Alphaville » Santander’s deteriorating ratio
• Ian Bremmer and Nouriel Roubini: Sovereign Risk Meets Sovereign Reality – WSJ.com
• What happened the last time the UK defaulted? – Bond Vigilantes
• Paul Krugman – Fiscal Scare Tactics – NYTimes.com
• Buy American exemption reached
• Gold Tumbles $49 in a Commodity Selloff – WSJ.com
• Will Toyota owners face higher insurance rates? – MSN Money
• Taleb: Bet against U.S. Treasuries – The Globe and Mail
• FT.com – US land grab gathers pace as builders turn bullish
• FT.com – Gillian Tett – The race is on for Greece before the ECB exits
• Deutsche Bank staff to win 30% pay rises – The Guardian
• Santander turned ‘Shabby Abbey’ into a success | Business | guardian.co.uk
• Santander issues half of all new UK mortgages | Business | guardian.co.uk
• Next in line for a bailout: Social Security – CNN Money
• So where is Hungary? | afoe | A Fistful of Euros | European Opinion
• This Time Is Different: The GDP Report Was Great – DailyFinance
• Andrew Cuomo and the Real Power of the Martin Act – Deal Journal – WSJ.com
• Bank of America to Pay $150 Million Settlement for Merrill Lynch Deal – MarketBeat – WSJ
• Economist’s View: "Is Austrianism Serious?"
• Chase Denied Loan Mods for Now Forbidden Reason—Homeowners in Limbo – ProPublica

Other News

• Economist’s View: Why is the Left More Successful in Europe?
• Macquarie Topless-Photo Browsing Banker Keeps Job After Review – BusinessWeek
• Don Dodge on The Next Big Thing: From MSFT evangelist to Mac enthusiast – the other side of the road
• McCain Feeling Primary Heat From His Right Flank – WSJ.com
• Ancient East Asian Found in Roman Empire: Scientific American Podcast
• Factbox: Democrats face battle for Senate majority| Reuters
• Socialism Viewed Positively by 36% of Americans
• Jay-Z Is Pissed Off At CRE Market, Sues The S%&* Out Of Highland Capital, Will Rap About It – Dealbreaker
• Seesmic’s Latest Android Build Is Dare I Say, iPhone-Like
• Apple orders Android mention scrubbed from App Store
• The Best Way to Memorize Speeches and other Long Pieces of Text – Memorize Now

Related posts:

• News round-up: 30 Jul 2008
• Links: 2009-02-11 – the City of London version
• Links: 2010-01-07
• News Round-Up: 8 Jul 2008
• Links: 2009-01-15

Xie believes the Chinese economy is in no near-term threat. But he does see problems down the line because of a property bubble. He recommends even more monetary tightening to reduce the ill effects of this bubble.

Xie comments on the U.S. and on Europe as well. The video of his comments runs just under ten minutes.

Related posts:

• Andy Xie: “Whole world is drinking poison to quench the thirst”
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• BoE dilemma highlights difficulty of turning points

According to data released today by the Halifax, UK house prices are now up almost 10% above the levels of just 9 months ago.  Low interest rates have certainly been a big factor in the rise, with Nationwide’s figure showing an even steeper rise since April, as the chart from BBC News below attests.

When Nationwide released its figures last week, the data showed an 8.6% year-on-year rise and a 1.2% month-on-month rise, well above the corresponding 3.6% and 0.6% percent rises in the Halifax numbers. Perhaps this discrepancy is some sort of southeast data skew because house prices have been more buoyant in the southeast, where bonuses from the City of London’s financial sector matter. For example, upmarket estate agent Knight Frank reported that London luxury home prices were up 11.5% year-on-year, the largest such change since April 2008.

As in California, America’s property canary in the coalmine, supply and demand dynamics seem to be at play.  Bloomberg reports:

Most of Knight Frank’s offices in central London have 15 percent to 20 percent fewer properties for sale than normal for this time of year, the broker said. At the same time, the number of potential buyers in January was 15 percent higher than the five-year average.

Property Shortage

A shortage of properties can create a domino effect, as potential sellers wait until they have more choice of places to buy themselves, Bailey said.

“Slim pickings are the fuel that has been driving this market bounce,” Bailey said. Some vendors are starting to price their homes close to or even above peak levels again, which is a risky strategy “for anything other than perfect properties.”

I don’t see this taking off as it had done in the last decade. The bottom line in all of these home price surveys is that fewer Britons have negative equity. Come summertime, pent-up supply could add a tremendous amount of inventory to the market and upset the supply-demand imbalance which has been fuelling price increases.

See also The London Real Estate Bubble Is Back—and It’s Scary from the Wall Street Journal

Related posts:

• Nationwide: UK house prices rise for fourth month
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This past Monday I was on the BBC talking about the recently unveiled Fiscal Year 2011 Budget proposed by the Obama Administration for the U.S. Federal Government.  The budget is, as with most things Obama, a tightrope walk between the two ends of the political spectrum.  On the one hand, the President wants to be perceived as concerned about deficit spending.  But, on the other hand, he also wants make sure any budget he proposes is supportive of near-term economic growth. His budget is reflective of these competing interests.

As a result, it falls flat – and is likely to please no one.  In my view, this makes the President and his party beholden to the economy. If the measures already in place are supportive of recovery, this budget is irrelevant in regards to the near-term. However, if the economic fragility we now see on display becomes worse, Obama will suffer greatly.

In the video below I discuss Obama’s tightrope walk and what it means for his political fortunes.

What I didn’t say in the video is that I believe the U.S. economy is more fragile than policy makers would have us believe. In particular, I see rising jobless claims, anaemic hiring trends and looming state budget cuts as headwinds which will have a lot of implications by mid-year.

Moreover, just as the Federal Reserve has signalled an end to its purchases of mortgage backed securities, we are now beginning to see the signs of a second but larger wave of Alt-A and Prime mortgage defaults, many of them strategic. These are mortgage cohorts which are an order of magnitude larger than subprime. The concomitant pressure on asset prices will be very negative for bank balance sheets and credit availability.

On the other hand, while I worried that the inventory cycle was not predicated on new order growth six months ago, we do appear to be firing on all cylinders in the manufacturing sector now. We have been in a technical recovery since late Summer 2009 in my view.  However, when all is said in done, I believe we will see that GDP is now rising mostly as a result of stimulus and inventory builds. Stripping inventory alone out of Q4 2009 GDP gets you down to a less than stellar 2.3%. Unless we see companies poised to hire en masse – which we are clearly not seeing at present – the optimism of consumer confidence surveys will fade and consumer spending will remain weak.

The long and short is that – come Summer – the inventory cycle’s thrust will have dissipated. And if companies are not hiring by this time and consumer spending is not increasing more robustly, then the state budgets, the strategic defaults and all of the rest of that becomes a serious obstacle. In my view, more likely than not, this will lead to another recession late in 2010 or in 2011. And nothing in the President’s budget changes this outlook.

Related posts:

• Double dip recession and the perverse math of GDP reporting
• What does a double dip recession look like?
• Barack Obama gets it
• Chart of the Day: State Budget Gaps 2010
• Barack Obama: “if we keep on adding to the debt… that could actually lead to a double-dip”