InvestorCentric

American's Household Assets Growing Again

2010-03-12T05:56:00.000-08:00

In the last year, the total value of household assets has begun to climb again from its low levels in the recent past, according to the Federal Reserve's most recent quarter Flow of Funds reports. Unfortunately, though, the small partial recovery in real estate value is more than dwarfed by the remaining high level of home mortgage debt. See the following post from The Mess That Greenspan Made.

The Federal Reserve released their quarterly Flow of Funds report today that includes data through the fourth quarter of last year and the two charts that have appeared here for a number of years now have been updated and are shown below.

Now a year or so past the worst phase of the financial market crisis, household assets have recovered somewhat but it continues to amaze me how much they declined relative to the asset bubble that burst earlier in the decade.

Thanks to the inflating housing bubble, overall assets never fell between 1999 and 2002 after the stock market bubble burst and then, after 2002, it was "off to the races" again.

This time around, there doesn't yet appear to be a new bubble on the horizon, though technology stocks sure seem to be vying for that position.

As for the American consumer and their mid-decade fascination with real estate, as has been the case for a few years now, the debt seems to linger long after the valuations go away.

After some heavy lifting by the U.S. government in the many ways that they have found to subsidize the housing market, home prices seem to have leveled off, however, the associated debt is coming down only slowly.

While I don't know how the "Home Mortgages" line item above is determined, my guess is that the chart overstates the current amount outstanding due to the hundreds of thousands of borrowers who are now in one form of mortgage limbo or another with their fate already sealed, just the timing needing to be finalized.

Until that time, they still carry a home mortgage at the full amount and the banks still carry the loans at the full amount on their books, otherwise, we'd probably have seen a much larger decline by this point.

This post has been republished from Tim Iacono's blog, The Mess That Greenspan Made.

Downward Trend In Jobless Claims Appears To Have Stalled Temporarily

2010-03-12T05:48:00.000-08:00

The environment for US jobs continues to improve at a slow but steady pace. The decline in initial jobless claims appears to have stalled temporarily, primarily due to weather conditions. See the following post from The Capital Spectator.

The jury’s still out on the path of least resistance in the trend for initial jobless claims. Today’s weekly update is certainly a step in the right direction, although last week’s meager drop in new filings for jobless benefits falls far short of stellar, or convincing. The sluggish behavior of late in this series has kept us anxious for more than a month, and the number du jour doesn't change much.

Initial claims were 462,000 (seasonally adjusted) for the week through March 6, the Labor Department reported this morning. That’s down slightly from the previous week’s 468,000. But as our chart below reminds, it’s unclear if the broader decline that’s been in place for a year has stalled. In the dark art of reading recent history as a guide to divining the future, one can argue that the risk of a new surge in claims has diminished. If so, that’s encouraging, but we now must confront the more pressing question: When will the decline resume?

This is no trivial matter, considering the value of initial jobless claims as one of several leading indicators for the economic cycle. (For some background, see our previous posts here and here. In addition, you can find some examples of the formal research on the subject here.) The best we can say at this point is that the jury’s still out on the big picture trend. Jobless claims are a volatile series on a weekly basis, and even over longer stretches, as the chart above reminds. But the time is running short when we can look at a sideways-moving trend in claims and dismiss it as statistical noise. All the more so at a time when the labor market's capacity for creating new jobs remains, at best, questionable, as the latest update in nonfarm payrolls shows.

Meanwhile, we take no encouragement from the trend in continuing claims, which tracks the population of folks who’ve been collecting jobless benefits for more than a week. This number is reported with a lag relative to initial claims, but the latest figure reported today supports the case for thinking that we may be moving sideways for some period of time in the job market overall. For the week through February 27, continuing claims rose by 37,000 to 4.558 million (seasonally adjusted). And as our second chart below shows, this series has been going nowhere fast so far this year.

But all’s not lost yet, advises James O’Sullivan, global chief economist at MF Global in New York. "The net rise in the last two months was because of temporary factors, notably weather effects," he tells BusinessWeek today. "Claims will likely have to resume a downward trend if payrolls are to improve, which we think will happen."

Hope springs eternal, or at least until next week's report.

This post has been republished from James Picerno's blog, The Capital Spectator.

Why You Should Bet Against The Dollar

2010-03-11T05:55:00.000-08:00

In the face of a relatively new bull market in the US dollar, contrarian investors may want to consider the effect of the last extreme dollar bull market. Given that the systemic problems in the US economy continue, especially compared with the much milder challenges in Europe and Japan, gold, which has continued to rise in value, appears to be an attractive contrarian play against the dollar. See the following post from Expected Returns.

There's nothing I love more than being a contrarian when sentiment reaches extreme levels. In the case of the dollar, extreme dollar bullishness amongst investors is signalling a potential turn. This is obviously very bullish for gold, which is off only 8% from the inception of the power dollar rally. From Bloomberg:

Investors are the most bullish on the dollar since the collapse of Lehman Brothers Holdings Inc. on speculation the U.S. economy will expand at a faster pace than in Europe and Japan, a survey of Bloomberg users showed.

The world’s reserve currency will rise over the next six months, according to respondents in the Bloomberg Professional Global Confidence Index. Sentiment toward the U.S. economy rose among the 1,612 participants in the survey, even as the outlook for global growth fell for a second consecutive month.

The dollar strengthened this month to the most since May against the euro on concern Greece’s struggles to close the biggest deficit in the European Union as a percentage of gross domestic product will weigh on the region. The Federal Reserve will raise interest rates before the European Central Bank and Bank of Japan, according to the median estimate of more than 30 economists surveyed by Bloomberg.

The high for the index was the 68.86 reading in September 2008, when Lehman’s bankruptcy drove investors to the dollar as a refuge. The Bloomberg Correlation-Weighted Index for the dollar rose the next two months.

Let's see what happened the last time dollar bullishness reached extreme levels in September 2008.

The dollar rallied quite powerfully from 76 to 88 on the dollar index over a 6- month period. As most of you will recall, September 2008 was a very volatile period in markets when companies were falling left and right. "Safety" became paramount, which to investors meant buying U.S. dollars.

The subsequent multi-month decline in the dollar made clear that the structural issues of the dollar haven't been resolved.

Now let's see what gold in this time frame. Since bottoming in September 2008, gold rose about 50% into March 2009, rising along with the dollar. Keep in mind that the stock market and real estate were getting crushed into March 2009.

Gold lived up to its historic role as a safe haven during the worst of this ongoing crisis. However, unlike the dollar, gold continued to rise into 2010.

European Debt Crisis Bullish for Dollar?

The dollar has been touted recently as a safe haven from the problems of the Eurozone. Since the debt problems in Greece are so huge, the Euro has been described as a currency to avoid. After all, Greece accounts for a staggering 2% of the European Union's GDP.

In contrast, the bankrupt state of California accounts for over 13% of America's GDP. New York just recently announced increased borrowing and draconian cuts to plug their huge budget gaps. How can the dollar be a safe haven with these structural fiscal problems from our largest states? Well it's not. The media has simply been successful in creating a convenient red herring.

There will be a time in the next few years when the volatility in the dollar and gold shocks people. We have been shoving the debt problem in America aside for far too long, and the day of reckoning is approaching.

This article has been republished from Moses Kim's blog, Expected Returns.

Is Anger Over Government Spending Warranted?

2010-03-11T05:52:00.000-08:00

The government faces angry constituents on both sides of the government spending issue. One group wants the massive spending to stop, but the other group is unwilling to accept the reduction in benefits they have come to expect. Tim Iacono discusses this dilemma in the following post from The Mess That Greenspan Made.

We live in interesting times, times that are no doubt going to get much more interesting in the years ahead and, unfortunately, probably more violent.

The recent demonstrations on California college campuses following the Tea Party protests of last summer bring up the intriguing possibility that we could actually see protesters against government spending and for government spending face off against each other in the streets.

Just the fact that people are protesting at all is probably a big step in the right direction as we've become a much too docile population over the last 20 years here in the U.S., but, multiple bursting asset bubbles and the realization by millions of parents all across the land that, for the first time in generations, the quality of life experienced by their children may pale in comparison to their own - all of this goes a long way in changing that.

The younger set seems to be pretty angry too.

Now, the little girl in the photo above probably doesn't understand the meaning of the sign she's holding but, in another fifteen years she likely will.

It's hard to say what motivates people to finally take action, but it looks like that's what they're doing now and that's probably a good thing.

The Tea Partiers

The Tea Partiers are a diverse group and, while I don't know this for fact, they are probably a lot less crazy than they are portrayed in much of the mainstream media. From what I've seen, they are mostly an older bunch who, understandably, don't like the way government has been spending money lately and think that we should all try to live within our means, something that hasn't exactly been typical of the U.S. government or its citizens in recent decades.

That appears to be changing.

We've come a long, long way over the last hundred years. Those who were adults during the Great Depression and who are still alive today are too old to get out and protest, however, it seems there are more than enough children of those who were scarred by the Great Depression and who can't figure out why the government has to spend so much money that they feel compelled to do something about it.

Anyone over the age of 50 surely knows hardship better than generations that followed, even if their worst pre-1980 experience was having to wait in gas lines, but, it's not clear whether the younger Tea Partiers really know what they're asking the government to do.

Dramatically reducing government spending on all sorts of things that millions of Americans have come to take for granted will cause untold hardship and, while we, as a nation, seem unprepared to embark on an "austerity program", there seem to be more than a few younger folks willing to give it a try.

We'd probably be better off in the end, but will people be able to endure it?

When you think about how unsustainable the current system is, it might be worth a try.

Budget reform doesn't come easily and, in the U.S. there is no better example of this than in California where the state seems hell bent on spending more than it takes in come what may.

Deep Denial

The fact is, there are millions of people in this country, many of them working in the public sector, who are in deep denial about what the government can and can't do.

The past 15 or 20 years have led many people to assume that things can continue as they've been going indefinitely, but, when you look at the prospects for credit-fueled economic growth over the next 15 or 20 years, you quickly realize that it's about run its course.

We've already entered a new era of slower growth and slower credit creation, both of which mean that the government has to spend less.

The notion that governments around the world (and particularly the U.S. government that is now in hock by many trillions of dollars with dozens of trillions more when you include unfunded liabilities) can continue to borrow and spend money at an ever increasing pace in perpetuity is, on its face, illogical and unacceptable to most people.

Sure, an argument can be made that governments will always have some level of debt that grows in a relatively stable relationship with the level of economic activity but, lately, we seem to be approaching escape velocity for that metric.

The result we see today is that people figure they can't spend more money than they make indefinitely and then they wonder why the government should think that it can.

Unless the folks in Washington and on Wall Street can figure out how to inflate another gigantic asset bubble that will make Americans think that they're getting wealthier again, we stand little chance of "growing our way out" of the current mess.

The Campus Protesters

But, the funny thing lately is that, in some parts of the country at the state and local level, the government is spending less and - surprise, surprise - people don't seem to like it. Those who benefit from government largess don't want the spending to stop.

You see these sort of protests in Greece and in other parts of Europe where the public has become conditioned to expect a certain level of benefits from the state and they don't really know or care where the money comes from.

I'll never forget that conversation a few years back with a retired schoolteacher who said that virtually all of the nation's problems can be easily solved by reducing classroom size by half. When queried as to how this would be paid for, the Pavlovian response was "raise taxes".

Just today, we received a note from the Census Department advising us that our 2010 Census form will be coming in the mail next week. Now, how much it costs to mail out this advance notice and whether it's effective in getting a better response next week is unknown, but, what is clear is that the text of the letter has some scary overtones (emphasis added).

Your response is important. Results from the 2010 Census will be used to help each community get its fair share of government funds for highways, schools, health facilities, and many other programs you and your neighbors need. Without a complete, accurate census, your community may not receive its fair share.

The part about an accurate census being important for divvying up government money makes sense, but the use of the phrase "government funds" and the word "need" makes it sound like the little guy doesn't have much of a choice in the matter - if the government thinks the little guy needs something, he'll get it.

This is surely not what the original foe of big government, Thomas Jefferson, had in mind when he oversaw the first census in 1790 required by the brand spankin' new Constitution.

On the Meaning of Austerity

It's still way too early in the process here in the U.S. to get a good read on this but, interestingly, despite all the recent protests in Greece about cuts in government spending and the new "austerity program" that has been forced upon the public, opinion polls show that the population at large would rather see the Greek government dial back on spending for the greater good.

My guess is that you'd find the same consensus here if the public were asked, though, it's unclear what the response would be if the question were to be stated in a way that identified the sacrifice that they, as an individual, would have to make. For example, if you asked social security recipients if they'd be willing to take a 10 percent cut this year to help steady the government's finances, would they be willing to do so?

As a side note, we've yet to hear the widespread use of the term "austerity program" in this country, but they sure seem to use it a lot overseas. It strikes me that they're really using the wrong word here because there is nothing about raising the retirement age from 61 to 63 by 2015 that should, in any way, be interpreted as being "austere".

Austere is not a relative term as in, things are pretty austere as compared to when the average life expectancy equaled the age at which you could start receiving retirement money from the government.

From Merriam Webster we get:

1 a : stern and cold in appearance or manner b : somber, grave
2 : morally strict : ascetic
3 : markedly simple or unadorned
4 : giving little or no scope for pleasure

"Austere" is definitely the wrong word here.

You Can't Get There from Here

The simple fact remains that people know in their gut that there's something fundamentally wrong in the world today when it comes to what governments are doing with their money and, even if they work in the public sector, they probably know that it's just plain wrong to borrow and spend so much with so little hope of paying it back.

Of course, when it's your family's livelihood that's at stake, you're much more likely to protest alongside the college kids than the Tea Partiers - that's just human nature.

The sad thing about the entire situation is that, realistically, both sides would be well served to lower their expectations for the kind of change they are seeking.

Conventional wisdom has it that developed nations don't really start getting into trouble until their budget deficit is 10 percent of their GDP or their debt service accounts for 10 percent of their overall spending. Here in the U.S. we've eclipsed the first measure and, with any appreciable rise in interest rates back to less-freakishly-low levels, we'll quickly surpass the second one too, due in no small part to the trillions of dollars in debt the folks in Washington have added in just the last few years.

But, that doesn't mean that the D.C. crowd will act any differently than they do now.

The status quo and entrenched interests in a two-party system dictate that the sort of change that is now needed won't come voluntarily and, no matter which party is in power, when it comes to spending, they'll both keep doing what they've been doing until the system just stops working.

The two sides on the debate over spending - the Tea Partiers and the college kids - should probably get used to the idea that neither will get what they want. The first group faces a generation of incumbents who only seem to care about the next election and the second group doesn't yet realize that, in the world today, they are asking for the impossible.

This post has been republished from Tim Iacono's blog, The Mess That Greenspan Made.

Is China Bluffing About Being Wary About Gold?

2010-03-10T05:58:00.000-08:00

Although a recent article appeared to indicate that China was looking to reduce its aggressive gold acquisition program while reaffirming its commitment to the purchase of US government-issued debt, the actual reality in the market may be significantly different. Given the perceived risk of long-term investment in US Treasuries, it is likely that their purchasing activity will continue to put positive pressure on gold prices in the future. See the following post from Expected Returns.

This is one of the more amusing articles I've read in some time. From the headline of the Reuters article, China says committed to U.S. debt, wary on gold, I was sure China announced some kind of monumental shift in policy. But alas, upon reading the article, I realized China was playing the same game Soros did when he called gold "the ultimate bubble"- before, of course, doubling his holdings of gold and investing $75 million dollars on a gold mining company. From Reuters:

"The U.S. Treasury market is the world's largest government bond market. Our foreign exchange reserves are huge, so you can imagine that the U.S. Treasury market is an important one to us," Yi Gang, head of the State Administration of Foreign Exchange (SAFE), told a news conference.

Yi dampened hopes of gold bulls that China might be itching to add to the 1,054 tonnes of the metal in its reserves.

On a 30-year horizon gold was not a great investment, he said, and China would simply drive up prices if it piled into the market.

"It is, in fact, impossible for gold to become a major investment channel for China'sBold foreign exchange reserves. I have 1,000 tonnes now, and even if I doubled that holding, according to current prices, that would be about $30 billion," Yi said.

Yi Gang is actually wrong. Gold was a horrible investment for a 20-year period, not 30. He should know, since China has increased their gold reserves from 454 to 1054 tons since 2003- a period in which gold has risen from $340 dollars an ounce to $1,120 dollars an ounce. Indeed, what a "horrible" investment.

I don't know what Yi Gang told us that we don't already know. Of course gold, which currently makes up 1.5% of China's forex reserves, can't make up a significant portion of China's portfolio. (For some perspective, France and Germany hold over 64% of their reserves in gold). But that's exactly what makes the outlook for gold so bullish, since even a modest increase of gold's allocation in China's portfolio would send gold prices to the stratosphere.

It's interesting that people are so quick to latch on to what China says, and not what it does. China is not only adding to its gold reserves, but it has pared its holdings of U.S. treasuries. No one in their right mind would own U.S. debt for the long run. It's going to be pretty clear in the years ahead that gold trumps U.S. Treasuries as an investment.

This post has been republished from Moses Kim's blog, Expected Returns.

Central Bank Warns Of Long-Term Job Problems

2010-03-10T05:57:00.000-08:00

The head of the Chicago Federal Reserve Bank recently indicated that the Fed will likely maintain its bias towards low interest rates due to the continuing lack of job growth in the economy. Furthermore, with this high unemployment, workers are taking longer to find work, which can ultimately lead to permanent income reductions for some workers as well as an extended period for the economy's job market woes to subside. See the following article from The Capital Spectator.

We've heard this before but we need to hear it again. Today the message comes from Charles Evans, president of the Chicago Federal Reserve Bank. "A number of labor market issues… lead me to think this accommodation will likely be appropriate for some time," he said in prepared remarks delivered at a speech in Washington. In other words, the central bank will keep interest rates low for the foreseeable future. The lack of job growth is the main catalyst. How long will the easy money last? "I think six months is a good time period to say I think we'll have accommodative policy like we have today."

If this is what passes for optimism, and arguably it is, there's a case for thinking that the crowd needs to recalibrate its expectations. Indeed, there's more at stake than speculating on when the price of money will rise. Low rates this time are a reflection of structural problems in the economy, and even looking out six months doesn't necessarily change all that much, even if rates start to move higher by that point. Evans laid out the ugly details in his talk today:

The rise in long-term unemployment may have ramifications for the economy going forward. The likelihood of finding a job tends to decline as an individual remains out of work for a longer period. Partly this reflects the fact that those who typically have a difficult time finding work will tend to be unemployed longer. In this case, longer spells are a symptom rather than the source of an underlying problem. However, a long unemployment spell could itself cause deterioration in a worker’s skills, leaving some of the long-term unemployed with less bright job prospects even as the economy begins to revive. This could contribute to high average unemployment duration for some time.

One of the smoking guns for thinking this is the future that awaits comes by way of the duration of unemployment. "In February," Evans explains, "over 40% of the unemployed were in the midst of a spell lasting more than six months, by far the highest proportion in the post-World War II era."

The trend of rising duration this time around was graphically shown in a chart Evans used in his talk, which is reproduced below. The graph plots the jobless rate (horizontal bar) vs. the average length, or duration, of unemployment since 1947. The basic trend is that duration rises as the unemployment rate increases. When the Great Recession began, the jobless rate was roughly 5% and duration was around 17 weeks. In other words, we began the current contraction in a weakened state that was substantially worse than usual. And it's deteriorated ever since.

Indeed, the red dots in the chart above show the monthly statistics for 2008 and 2009. The bottom line: the jobless rate and the average length of unemployment are at the highest in more than 60 years. This is disturbing for obvious reasons, along with some not-so obvious ones. As Evans said, "The likelihood of finding a job tends to decline as an individual remains out of work for a longer period." The not-so-astonishing implication:

…long-term unemployment tends to lead to permanent earnings losses, particularly for those who have previously invested heavily in job- or industry-specific skills. So, high unemployment durations could have long-lasting effects on consumer confidence and demand.

In other words, there's a heightened risk "that the recovery in labor markets could be slow even as output returns to a well-established growth path," he said.

You didn't necessarily hear it here first, but rarely has the warning been so loud and clear from the central bank's upper ranks.

This article has been republished from James Picerno's blog, The Capital Spectator.

CBO Says White House Budget Deficit Projection Too Low

2010-03-09T05:58:00.000-08:00

The record budget deficit may be even larger over the next decade than originally projected by the Obama Administration. While the citizenry of the country is concerned about its impact, the bond market has not yet expressed a clear opinion on the long-term effects of the large quantity of debt that the government has taken on, and on how that debt should be priced in the future. See the following post from The Capital Spectator.

It's all about deficits these days. The challenge is figuring out what it all means for the markets, the economy, the man on the street and for politics in Washington. What's crystal clear at the moment is that there's a bull market in red ink. That's hardly a surprise, although the debt estimates continue to creep higher. That latest example comes from the Congressional Budget Office, which published a new analysis on Friday of President Obama's budget outlook. The CBO concludes that the projected deficit for the decade ahead will be $1.2 trillion more than the White House predicts.

The reaction from the Republicans is predictable. "The news today from CBO is clear: The president’s budget will continue to lead our nation into a fiscal catastrophe—an ever worse one than the president’s own numbers suggest," says Paul Ryan (R-Wisconsin), a Republican on the House Budget Committee, via BusinessWeek.

The White House begs to differ, of course, arguing that it's making the best of a bad situation. "That is why even as we increased our short-term deficit to rescue the economy, we have refused to go along with business as usual, taking responsibility for every dollar we spend, eliminating what we don’t need, and making the programs we do need more efficient," the administration's Office of Management and Budget asserted when it released its forecast last month.

Perhaps the question is whether the budget plans are too heavily focused on spending, or weak on raising sufficient revenue to pay for the plans. The answer depends on your perspective. Consider this excerpt from CNNMoney.com:

The CBO cited two big contributors to the jump in debt.

One is the president's proposal to extend the 2001 and 2003 tax cuts for the majority of Americans. The other is the proposal to protect middle- and upper-middle-income families from having to pay the Alternative Minimum Tax (AMT).

Together those proposals would cost $3 trillion between 2011 and 2020.

"It points out the unwillingness of the administration to raise the revenues to pay for the size of government being proposed," said Robert Bixby, executive director of the Concord Coalition, a deficit watchdog group.

Is the Obama administration a victim of its own optimism? Not necessarily, says Jim Horney of the Center on Budget and Policy Priorities. "It's not that the administration has a rosy scenario, but the CBO is a little less optimistic about income growth," he tells The Hill.

Regardless of one's political views, the rising level of debt is affecting the public's attitude. "More than twice as many U.S. adults (58%) say that debt owed to China is a more serious threat to the long-term security and well-being of the U.S than is terrorism from radical Islamic terrorists (27%)," according to a new a new Zogby poll. What's more, there was little variation by political affiliation. Democrats, Republicans and independents were in agreement by a wide margin that debt was the number-one threat.

The big question is when (if) the bond market's views will change. The benchmark 10-year Treasury remains in the upper 3% range, where it's been since last summer.

The muted outlook on economic recovery is one reason. But the real issue is deciding how long the fixed-income set will stay calm and give the government the benefit of the doubt. There's a compelling argument for thinking that the price of money should stay low in a time of diminished expectations. Unfortunately, that's just an assumption and it's not clear that it's written in stone.

This article has been republished from James Picerno's blog, The Capital Spectator.

Why There Is Resistance For Government Creating Jobs

2010-03-08T05:59:00.000-08:00

Why do we hesitate to create jobs when we know people are struggling and could use some help? One reasons is that it can be difficult to reconcile helping a stranger who you will never meet by hiring him to do work that may not benefit you. Mark Thoma from Economist's View discusses the resistance for more government spending to create needed jobs.

In a town in a country suffering through a recession, a wealthy person just happens to live next door to an unemployed worker. The worker has experience in a variety of trades, and is quite competent, but despite his skill and reputation, there are no jobs to be found. And it isn't for lack of trying.

Seeing this, and having a kind heart, the wealthier of the two -- much, much wealthier -- decides his neighbor needs a job, so he sets about creating one. The first option he considers is just to find something for him to do, it doesn't much matter what, digging holes and then filling them up, whatever. He decides that if he goes this route he will ask his neighbor -- wink wink -- to watch his grass grow. Both of them know this is a ruse, a made up job to justify the payment, but somehow having the ruse in place allows the unemployed neighbor to keep his dignity in a way a direct cash payment would not. It's a job not a hand out -- he does have to look out his window a few times a day to make sure it the grass is growing like it's supposed to. But practically it's a means of support for the neighbor and his family that allows him to continue his diligent search for a job.

But then the wealthy neighbor thinks, why not hire the unemployed neighbor to do something useful with his talents? Sure, it will make it harder for him to look for another job if he's working hard here all day, but he's a good builder and there must be something I need. Maybe, for example, the fence could be replaced. He was going to replace it in a few years anyway and, although it would last a bit longer, why not fix it now and take advantage of the fact that the neighbor can be hired for much less than it would take to hire a fencing company? The quality of the work will be just as good. And there must be other things that could be done both inside and outside the house as well.

There is one problem, he realizes, with the fence building option. Unlike the watching the grass grow job which could have started the next day, it will take him awhile to pick out the fence style he wants, to plan it, to get the materials for the neighbor (who can't finance it himself since he's unemployed), and so on, but maybe not too long if he gets on it right away. But it is a close call - the family is hurting - and any delay makes it worse.

Still, building the fence turns out to be the solution chosen. It's a generous arrangement, and everyone feels as though they are getting something. And it dispels any myth that jobs cannot be created. By hiring a neighbor to do something, especially something productive, a job is created that wouldn't have existed otherwise. Since the payment for the fence materials and the fence work comes out of saving, saving that would not have been spent until a few years later, it also increased the demand for goods and services overall, perhaps just enough to save a job at one of the places where the money is spent or even help to create a new job. (The money is just sitting in the banks doing nothing due to all the fear and loathing about loaning it out, i.e. the money spent on the fence is not being used by the bank to finance alternative investment. It's as though the money was hidden in the house in a cookie jar or something. It would have been used later, but is being used now instead and that generates extra demand.)

So here's the question. Why does having government involved make any difference? Government can act as an intermediary, take the money from the wealthy person, and use it to finance projects such as new infrastructure. This type of social insurance creates jobs just the same as someone can create a job when they hire a neighbor to build a new fence or repair one that is falling down.

One difference is that the money goes for the social good, not the individual good. Suppose the money is used to build a fence at a local park. The wealthy person might not object if he or she uses the park frequently and would somehow benefit from a fence. But if the money goes to finance something that the person doesn't want or don't need, there might be quite a bit of resistance.

But that is a question about the social benefits from how the money is used, it has little to do with the question of whether jobs can be created. Just as the wealthy neighbor can hire the unemployed worker next door to build a needed fence or to watch the grass grow, government can do the same, and do it with the same motivation -- empathy for those who are struggling to make it through the recession. If those paying taxes don't share that empathy -- if the people paying the bills don't think those receiving the money deserve it according to some moral code, if they can't see much direct of indirect value for themselves from the expenditure they are forced to finance, and if they don't think this is their responsibility -- there will likely be strong resistance to paying the bill (partly because the personal relationships needed to generate empathy aren't there).

So yes, to the extent possible, job creation projects should be used to finance needed infrastructure so that we do not have to rely on empathy. When the benefits are large and obvious to all, the resistance to such spending is minimized.

But that may not be possible. If the wealthy neighbor doesn't need anything done or doesn't have enough projects to keep the unemployed neighbor busy -- he had just hired people to fix his fence last week and can't think of anything else he needs, or the things that are needed would take to long to get started, what then if he still wants to help? He will have to find what he can for the unemployed neighbor to do -- there's usually something that is needed. And if, in the end, it comes down to the equivalent of watching grass grow (and it's very clear the neighbor is trying as heard as he can to find a permanent job), then it may be time to give a wink and do just that. The alternative is to simply say I'm sorry, there's nothing I can think of to hire you to do, neighbors aren't my responsibility anyway -- I hardly know you people -- and then turn and walk away leaving the neighbor and his family to continue struggling. And maybe that is the right answer. That is, it's the right answer until the day comes when you lose all your wealth in the Great Crash of 2015 and your neighbor, who has done extraordinarily well and has never forgotten the help you gave him, steps in to return the favor.

Of course, not all of us are lucky enough to have rich, empathetic neighbors willing to help out when we are down on our luck, nor can we necessarily expect reciprocity when we are in need. But that's OK, we do have fiscal policy -- a form of social insurance -- and other types of social insurance to play this role.

Fiscal policy can create jobs and provide other types of help just like a wealthy, benevolent neighbor. Yes, if you are able, if you are one of the fortunate ones, the presence of social insurance requires you to pay to help those who in need. But even if the money isn't used to finance something you want, or if it is essentially given away through make-work to people you don't think deserve it, people that you care nothing about and that aren't your responsibility in any case, you will still benefit. Because even though you are certain it could never happen to you, in fact it can happen to you, and if it ever does social insurance, including job creation, will be there for you too. Only then will you truly understand the real value that this insurance provides.

This post has been republished from Mark Thoma's blog, Economist's View.

Will China Finally Allow The Yuan To Rise Against The Dollar?

2010-03-08T05:52:00.000-08:00

Yesterday, the head of China's central bank suggested that China may allow the value of the yuan to increase relative to the dollar, but he refrained from indicating when this major change would be allowed to occur. A change in policy could increase US interest rates and lower the trade deficit. See the following post from The Capital Spectator.

Is China's undervalued currency set to rise? That depends on how you interpret yesterday's comments from the governor of China's central bank.

"The chief of China's central bank reportedly suggested Saturday that the nation may decide to let its currency rise vs. the dollar, but he gave no clues as to when that might happen," TheStreet.com reported. Meantime, The New York Times tells us: "China’s Bank Chief Says Currency Is Unlikely to Rise."

No matter how you interpret Zhou Xiaochuan's comments yesterday, there was enough innuendo and implication to support almost any forecast. Consider this tantalizing remark via The Telegraph: “If we are to exit from irregular policies and return to ordinary economic policies, we must be extremely prudent about our choice of timing,” Zhou said. “This also includes the [yuan] exchange rate policy.”

Such oblique observations will keep the rumor mills rolling and the forex traders trading. In any case, the stakes could hardly be much bigger for the global economy, and the U.S. in particular. The Middle Kingdom’s GDP (at purchasing power parity) is second only to the U.S., or third if you consider the European Union a single country, according to the CIA World Factbook. And while large economies tend to expand at relatively low rates compared with smaller nations, that doesn’t yet apply to China, which is estimated to have grown at a real rate of 8.4% last year, according to the CIA—exceeded only by four other countries, all of which are tiny by comparison.

“A country’s exchange rate cannot be a concern for it alone, since it must also affect its trading partners,” the FT’s Martin Wolf recently argued. “But this is particularly true for big economies. So, whether China likes it or not, its heavily managed exchange rate regime is a legitimate concern of its trading partners. Its exports are now larger than those of any other country. The liberty of insignificance has vanished.”

That’s a diplomatic interpretation of how America views China and its currency. Robert Lawrence Kuhn, an international investment banker and longtime adviser to the Chinese government, summarizes the American perspective in somewhat harsher tones. "China is seen as a mercantile predator which keeps its currency artificially low to boost exports and steal jobs…", he writes in his new book How China's Leaders Think: The Inside Story of China's Reform and What This Means for the Future. Beijing begs to differ, Kuhn acknowledges. "China's leaders, of course, do not deny that their policies benefit their own people. But they assert that, in an integrated global economy, China's stability and development is essential for world peace and prosperity."

For good or ill, the global ramifications are huge. Keeping the yuan undervalued boosts China's exports, a major reason for America's trade deficit, which in turn creates an incentive for China to buy U.S. Treasuries as a tool for keeping its currency cheap relative to prices implied by trade flows. One result of this policy is that U.S. interest rates have been lower, perhaps a lot lower than they otherwise would have been. Economist Robert Barbera, writing in The Cost of Capitalism, explains the linkage in recent years:

Low mortgage rates, booming housing refinance, and strong consumer spending defined 2002-2005. Much of the spending was on products made in China. Incredibly, over the first five years of the new decade, China's exports to the United States rose from 4 to 11 percent of nonauto U.S. retail spending. China's excitement about this export boom led directly to its strategy for conducting monetary policy. Central bank authorities were willing buyers of the U.S. dollar in order to make sure that there was very little change in the dollar/Chinese yuan exchange rate.

Accordingly, they bought the U.S. dollars that Chinese manufacturers collected for their exports. They bought the dollars that U.S. multinational corporations spent as they built factories in China. They bought the dollars U.S. investors funneled into Chinese real estate. In total, these purchases led to China's accumulating trillions of dollars' worth of U.S. Treasuries in a remarkably short period. If we accept the assertion that China's bond buying kept mortgage rates low in the United States, we come to an interesting conclusion. China kept U.S. long rates low by lending trillions to the United States. Low mortgage rates allowed Americas to borrow against their homes and use the proceeds to spend. And, increasingly, they bought products that were made in China—vendor financial on a trillion-dollar scale.

The benefits, and repercussions, from the low rates are, of course, well known at this point. But while most of the world we knew under the regime of the Great Moderation is gone, one of its basic building blocks remains intact. But is China's undervalued currency finally living on borrowed time?

The yuan is essentially unchanged in dollar terms since mid-2008. Almost everything else in the global economy has changed, been repriced or reassessed. Will the status quo as it relates to China's currency roll on?

"It is encouraging that Gov. Zhou's statement suggests that the move to a managed float of the renminbi will be resumed once the global recovery firms up," Eswar Prasad, a professor of trade policy at Cornell University, told The Wall Street Journal yesterday. "Maintaining an undervalued exchange rate certainly benefits China, but at the expense of other countries that lose their relative competitiveness in foreign trade."

As complicated as all this is, the reality is even more Byzantine. Trade policy is but one slice of the U.S.-China relationship. The challenge is deciding how one corner influences another. Washington's stance on Taiwan, for instance, and China's reaction (including the latest announcement from Beijing), is one of many reminders that the game's is three-dimensional chess.

"Just as the nineteenth century belonged to England the twentieth century to America, so the twenty-first century will be China's turn to set the agenda and rule the roost," Jim Rogers advised in A Bull in China. Figuring out what that means in geopolitical and macroeconomic terms has only just begun.

This post has been republished from James Picerno's blog, The Capital Spectator.

Government To Subsidize Short Sales

2010-03-08T03:52:00.000-08:00

Starting April 5, the government will begin offering a small benefit to both homeowners and lenders to engage in short sales instead of foreclosing on properties in default. The effect of this program may force properties to be sold at discounted prices, thereby continuing the downward spiral in property values. See the following post from Expected Returns.

From Obama's plan to ban foreclosures to the perpetual extension of "temporary" homebuyer tax-credits, I think it's safe to say government intervention in housing is getting ridiculous. In the latest example of government largesse at the expense of taxpayers, the government is proposing to dole out cash to all parties to incentivize short sales. From the New York Times, Short-Sale Program Will Pay Homeowners to Sell at Loss:

In an effort to end the foreclosure crisis, the Obama administration has been trying to keep defaulting owners in their homes. Now it will take a new approach: paying some of them to leave.

This latest program, which will allow owners to sell for less than they owe and will give them a little cash to speed them on their way, is one of the administration’s most aggressive attempts to grapple with a problem that has defied solutions.

For the administration, there is also the concern that millions of foreclosures could
delay or even reverse the economy’s tentative recovery — the last thing it wants in an election year.

Taking effect on April 5, the program could encourage hundreds of thousands of delinquent borrowers who have not been rescued by the loan modification program to shed their houses through a process known as a short sale, in which property is sold for less than the balance of the mortgage. Lenders will be compelled to accept that arrangement, forgiving the difference between the market price of the property and what they are owed.

What the government doesn't realize is that incentivized short sales will, ironically, bring down home prices. Essentially, short sales "lock in" lower home prices, pressuring surrounding home prices in the process. If the sole purpose of government intervention is to keep home prices elevated, then the government should take on a hands off approach, since banks are already doing such a great job of perpetuating the myth of stabilizing home prices.

What Benefits?

Under the new program, the servicing bank, as with all modifications, will get $1,000. Another $1,000 can go toward a second loan, if there is one. And for the first time the government would give money to the distressed homeowners themselves. They will get $1,500 in “relocation assistance.”

Should the incentives prove successful, the short sales program could have multiple
benefits. For the investment pools that own many home loans, there is the prospect of getting more money with a sale than with a foreclosure.

This doesn't make sense to me. Short sales by definition are more beneficial to servicing banks than foreclosures- that's the whole logic behind them. It's doubtful that $1,000 dollars will have much effect on banks' incentive to complete short sales on homes that are worth, on average, hundreds of thousands of dollars.

What will likely happen is that the government will be handing out money to multiple parties on short sales that would have occurred anyway, which is idiotic, but entirely in line with what I've come to expect from the government.

It's interesting that the government has essentially reversed its policy of forestalling foreclosures. It's pretty clear the government now realizes there won't be a rebound in home prices anytime soon. If the government thought home prices would recover, they would be doing everything to keep people in their homes so that the rise in home values would improve equity positions. A supposedly improving employment picture would further decrease the likelihood that homeowners would foreclose.

All of these projections are straight from fantasy land, and the government knows it, since they're the ones who manipulate government statistics. Read between the lines and realize that a housing recovery is not forthcoming.

This article has been republished from Moses Kim's blog, Expected Returns.

Homes Sales Disappoint As Housing Stimulus Fades

2010-03-05T05:53:00.000-08:00

The number of buyers placing homes under contract fell in January across the country due to what the media described as weather-related issues, obscuring the larger economic issues in place. As the economy continues to stutter without job creation and with the effect of government stimulus programs fading, the tight lending environment is preventing people from purchasing homes. See the following post from Expected Returns.

The short-lived economic "recovery" sure is running out of steam. I guess over $10 trillion dollars in in stimulus and pledges on behalf of taxpayers just doesn't buy what it used to. From Finance Yahoo, Pending home sales fall 7.6 percent in January:

The number of buyers who agreed to purchase a home fell sharply in January, a sign that demand for housing is sinking this winter as stormy weather slammed Eastern states.

Record snowstorms in January and February had many Americans shoveling sidewalks and driveways instead of combing through listings for open houses. Partly as result, seasonally adjusted index of sales agreements fell 7.6 percent from December to a January reading of 90.4, the National Association of Realtors said Thursday.

It was the lowest reading since last April and a disappointment to economists, who had expected it would rise to 97.6.

The weakness, however, was not confined to the wintry Northeast. The biggest month-to-month drop was in the West, where sales fell 13 percent. Sales fell almost 9 percent in the Northeast and Midwest and 2 percent in the South.

From the way the media spins things, you would think a couple of blizzards are doing more damage to our economy than decades of unsustainable debt accumulation. It's pretty comical, especially since the biggest month-to-month drop in home sales came in the West coast. But hey, let's not let facts get in the way.

The reason home sales are cratering is a matter of simple economics. The government merely shifted demand forward via its first-time homebuyer tax-credit, which provided a temporary boost to sales. There really is no free lunch- the tax-credit induced spike in demand must be balanced by weakness in demand in subsequent months.

Furthermore, without job creation, there can be no sustainable recovery in housing. Anyone who thinks otherwise is living in fantasy land.

The weather isn't the only culprit, wrote Jennifer Lee, an economist with BMOCapital Markets. "The impact of government incentives ... appears to be running out of steam, which is, frankly, a scary thought," she wrote.

The index is considered a barometer for future sales because typically there is a one- to two-month lag between a signed sales contract and a completed deal. A reading of 100 is equal to the average level of sales activity in 2001, when the index started.

The index has declined for two out of the past three months because home shoppers feel less rushed after a deadline for a homebuyer tax credit was extended from Nov. 30 to April 30.

Home shoppers aren't feeling "less rushed" because of the recent extension of the homebuyer tax credit- they're feeling "less rushed" because they're dead broke and have no access to credit. Please refer to the chart below, which shows real estate loans are contracting at an epic clip.

Notice how real estate loans stabilized and turned up in every single economic recovery since WWII. Apparently "this time is different" and the economy is magically recovering while access to credit is absolutely cratering. Sorry, but I'm not buying it.

This post has been republished from Moses Kim's blog, Expected Returns.

The Expectation Is That Job Expansion Is Near

2010-03-05T05:48:00.000-08:00

The last weekly update on economic claims contained a glimmer of hope with a decrease in new unemployment filings. The trend of declining new jobless claims is often a leading indicator of the return of job growth as firms anticipate improving economic conditions. See the following post from Capital Spectator.

Today’s weekly update on new jobless claims offers a reprieve on the darker visions conjured on these pages in recent weeks, including here. New filings for unemployment benefits dropped last week to by 29,000 to 469,000. Whew, that was a close one! But the risk for this series that we’ve been discussing lately is still with us, even if the latest report offers some breathing room for thinking positively.

The good news is that there was no follow-through on the recent rise in new jobless claims, at least not yet, as our chart below shows. The charitable interpretation, bolstered by today’s number, is that it was all a statistical quirk; a February fluke caused by the heavy snows last month. Or maybe it was the normal short-term volatility that tends to plague this dataset. But while there’s a slightly stronger case for arguing that jobless claims aren’t set to rise, there remains the more pressing question of when this series will resume falling?

It’s going to take weeks to answer that question. In the meantime, we’re left to wonder if jobless claims have hit a floor, temporary or otherwise. If that proves to be the case, that’s almost as troubling as watching claims rise because it would suggest that the labor market’s recovery, already weak if not feeble, may be facing more stress than previously realized.

Watching jobless claims, while hardly a silver bullet, is among the early warning signs of things to come. Recent history appears to back up the idea that initial claims offer a clue of what’s coming for the business cycle and the labor market. The fact that jobless claims were falling for much of last year was a sign that job destruction in nonfarm payrolls was slowing and that the GDP contraction had ended. That's hardly unique to the present cycle, as we've discussed. The forward-looking ability in jobless claims is well understood in the dismal science, as noted, for instance, in a St. Louis Fed report from a few years ago. Meanwhile, economics professor Todd Knoop explains in Recessions and Depressions,

Initial unemployment claims are more sensitive to changes in the business cycle than total unemployment. Unlike total unemployment, which lags peaks and troughs because of lags in the hiring process, initial unemployment claims are a leading indicator because firms anticipate changes in economic conditions and increase layoffs before production and decrease layoffs before conditions improve.

Where does that leave us with the latest numbers? Watching, waiting and worrying. Initial jobless claims appear to be at a crossroads. "Firing activity has largely tapered off, but new hiring has yet to pick up, Zach Pandl, an economist at Nomura Securities International, tells Reuters. That's not inherently troubling, except when you consider the current context: an unusually long stretch of non-recovery in the labor market, i.e., job growth.

Ethan Harris, head of economics for North America at Bank of America/Merrill Lynch, opines in a Bloomberg TV interview that “we are in this limbo state where it is not clear if job growth has started yet.” But he's hopeful and predicts that the limbo will give way to expansion, explaining: “Many companies say they over-reacted and fired a lot of people, more than they needed to, with the news of the recession. So, we’re expecting broad-based re-hiring.”

But the future is one thing, and the here and now is something else. At the moment, the labor market seems to be betwixt and between, neither contracting nor growing. The expectation is that expansion is near. We'll learn in tomorrow's jobs report for February if near is now.

This post has been republished from James Picerno's blog, The Capital Spectator.

More Red Ink For The Job Market In February

2010-03-04T05:46:00.000-08:00

Unofficial job reports from ADP and Challenger, Gray & Christmas show another month of net job losses in February. While the losses continue to shrink, a huge number of new jobs will be needed to put a dent in the 8 million jobs lost since the recession began. See the following post from The Capital Spectator.

Two new private-sector reviews of last month’s labor market show that the economy is still shedding jobs. The only good news is that the rate of loss continues to slow. But a loss is still a loss at this late date in the economic cycle, and today’s numbers suggest that Friday’s monthly update on jobs from the government may suffer another round of red ink, albeit in relatively mild form.

The ADP National Employment Report advises that nonfarm private payrolls in the U.S. slipped by 20,000 last month. "The February employment decline was the smallest since employment began falling in February of 2008," according to the accompanying press release.

Was winter weather to blame? Perhaps, although ADP minimizes that gremlin. Again quoting from the company's press release:

Two large blizzards smothered parts of the east coast during the reference period for the BLS establishment survey. The adverse weather had only a very small effect on today’s ADP Report due to the methodology used to construct it. However, the adverse weather is widely expected to depress the BLS estimate of the monthly change in employment for February, but boost it for March. Therefore, it would not be unreasonable to expect the BLS estimate for February (due out this Friday) to be less than today’s ADP Report even though the BLS estimate will include the hiring of temporary Census workers not captured in the ADP Report.

It's come to this: hoping for salvation from the Census Department. So it goes at a time when any scrap of good news, temporary or otherwise, is pounced upon as a pinpoint of light in the dark tunnel of job creation.

Meanwhile, another report from employment services firm Challenger, Gray & Christmas reports more than 40,000 jobs were eliminated last month. That's comfortably below January's 70,000-plus cuts, the firm notes via CNNMoney.com. Nonetheless, it's hard not to notice that two independent reports today indicate the same general trend: another round of job losses for February.

If the Labor Department's update on Friday makes it three, February's retreat will mark nonfarm payrolls' net decline in 25 of the previous 26 months, according to the official government tally. Yes, it's getting better, which is to say the losses are diminishing, but the question still remains: When is net job growth coming? As we wrote last month, "the longer this drags on, the higher the odds that we're facing an even weaker post-recession job recovery than previously anticipated."

With each passing month of loss, the stakes are higher for the necessity of minting jobs. The real challenge isn't one of simply seeing a net gain on the payrolls ledger. That's coming, and perhaps soon. But what's needed is more than a statistical change, i.e., a lengthy stretch of large gains on the order of 200,000, 300,000, and more a month. Unfortunately, almost no one expects that's imminent. Yes, seeing 10,000, 50,000 or even 100,000 net new jobs will be refreshing (when it actually arrives), but that thimble of repair is no match for the tidal wave of 8 million-plus lost jobs since the Great Recession began in December 2007.

As troubling as this is, it's all the more problematic in a world that's just coming to terms with the debt and deleveraging that's weighing on the global economy. Greece and, increasingly, Britain are only the beginning of new world order. The U.S. is part of this infamous club too. And let's not forget the veteran of debt and deleveraging: Japan.

What are the implications for all this red ink? History suggests remaining humble in forecasting a quick and easy solution.

This post has been republished from James Picerno's blog, The Capital Spectator.

Will Too Much Government Intervention Prevent An Economic Upturn?

2010-03-03T05:53:00.000-08:00

The key problem with government's relationship to the larger economy is how to harness the power of a capitalist system to drive growth and prosperity while smoothing out the bumps caused by the reversals which are a natural part of the business cycle. As the government moves back to a Keynesian model calling for high levels of intervention, it risks over-regulating and, in an attempt to smooth out the downturn, it could actually prevent an upturn in the economy. See the following post from The Capital Spectator.

Everyone has a prescription for managing the business cycle these days, but no one has a solution. That’s because there are none, at least nothing that passes the smell test of a workable system that can deliver nirvana: maintaining capitalism’s power to drive economic growth while eliminating its tendency for stumbling from time to time.

Bridging these two facets, which are inextricably linked, is at the center of the debate. Obvious solutions, however, are elusive, and probably always will be. The fact that a range of policies have been tried over the decades, and delivered mixed results, is testament to the idea that there's always a cost to every "solution."

No less a critic of unfettered capitalism than Hyman Minsky recognized the limits of pushing too far on one end without biting too deeply into the benefits on the other side. “We need to embark on a program of serious change even as we need to be aware that a once-and-for-all resolution of the flaws in capitalism cannot be achieved,” Minsky wrote in Stabilizing an Unstable Economy. "Even if a program of reform is successful, the success will be transitory. Innovations, particularly in finance, assure that problems of instability will continue to crop up; the result will be equivalent but not identical bouts of instability to those that are so evident in history."

Finding the middle ground won't be easy this time, but it should be tried, argues economist Bob Barbera in last year's The Cost of Capitalism. He wisely notes that "one cannot forget that the essential driver in free market capitalism is the risk-taking entrepreneur, bankrolled by the world of finance. Enlightened societies, therefore, need to embrace free market capitalism, coupled with policies aimed at increasing margins of safety and tempering flights of fancy."

The challenge is figuring out exactly where productive policy prescriptions end and self-defeating market regulation begins. In fact, much of the political and economic debate since the 1930s in the U.S. has been focused on that question, and the results to date are still mixed.

Keynesian intervention of one sort or another is widely embraced as the general framework for finding this sweet spot these days, but past missteps and excesses in applying the principles outlined in The General Theory of Employment, Interest and Money should give one pause for expecting too much. In the 1970s, an active fiscal policy intent on maintaining full employment backfired with stagflation.

Some say the errors in the '70s was less about Keynesian failure vs. an oil price shock and loose monetary policy. In any case, defenders of aggressively managing the business cycle fell out of favor. In the wake of the downfall rose the neo-classical economists led by Milton Friedman. Although Friedman's insights and opinions ranged far and wide, his basic prescription was one of favoring markets and recognizing the power of monetary policy for good or ill. As he and Anna Schwartz argued so persuasively in A Monetary History of the United States, 1867-1960, the central bank's printing presses are a critical and often overlooked factor in the ebb and flow of economic fluctuations.

But there's a case to make that the Fed ignored the lessons of history and kept monetary policy too loose for too long for much of the first decade of the new century. Are we doomed to repeat history? Even when the lessons are clear?

Now the pendulum is swinging back toward a Keynesian view of the world, or perhaps a Keynesian/Minsky interpretation, and not without cause. Certainly there's a case for seeing the banking sector as something unique in the economic sphere. There's a limit to letting free market forces have their way with banks, which is part of the reasoning for central banking. The lender of last resort is a concept that arose out of necessity. Letting banks fail runs the risk of allowing a bank run to terrorize the economy.

At the same time, there's a limit to how much government can do to minimize the risk of financial failure. As Jean-Charles Rochet explains in Why Are There So Many Banking Crises? The Politics and Policy of Bank Regulation, "supervision [of banks] and market discipline are more complements than substitutes: one cannot work efficiently without the other."

Government management of economic cycles is arguably necessary to some degree but also dangerous if it goes too far and costs too much. It's too early to say what's excessive in the current climate, but some early clues suggest that countries that have boldly embraced Keynesian policies are setting themselves up for failure, as a recent Bloomberg article suggests:

The U.K. has produced notable economists over the years, but John Maynard Keynes, the guru of government intervention, was one of truly global significance.

So it may be fitting that the U.K. will also become the deathbed of Keynesian economics.

Britain has been following the mainstream prescriptions of his followers more than any developed nation. It has cut interest rates, pumped up government spending, printed money like crazy, and nationalized almost half the banking industry.

Short of digging Karl Marx out of his London grave, and putting him in charge, it is hard to see how the state could get more involved in the economy.

The results will be dire. The economy is flat on its back, unemployment is rising, the pound is sinking, and the bond markets are bracketing the country with Greece and Portugal in the category marked “bankruptcy imminent.” At some point soon, even the most loyal disciples of Keynes will have to admit defeat, and accept that a radical change of direction is needed.

Finding the balance between enlightened regulation that maximizes the benefits of free market capitalism is akin to searching for the optimal balance between democracy and sidestepping the tyranny of the majority. The definitions, standards and results are forever in flux, which means that there are no true solutions. The idea that a market economy can be "tamed" is naïve, but so too is the expectation that an uncritical embrace of free markets will be politically acceptable and economically viable. Somewhere between those two extremes lies a reasonable balance. Exactly where, and on what terms, is debatable, now and forever.

The great challenge is coming to terms with two halves of the same economic coin: The business cycle can't be tamed, but neither can it be left untended. If this sounds like a paradox wrapped in a contradiction, you're right--it is. Welcome to macroeconomics.

This post has been republished from James Picerno's blog, The Capital Spectator.

Despite Claims, Economy Is On The Verge Of Depression

2010-03-03T05:48:00.000-08:00

Although many sources continue to claim that the United States economy is in recovery, in the face of continued high unemployment a strong argument can be made that the economy is, in fact, still on the verge of a depression. Moses Kim supports this argument with the fact that unemployment is still double that at the beginning of the recession with long-term unemployment still climbing. See the following post from Expected Returns.

Doublethink means the power of holding two contradictory beliefs in one's mind simultaneously, and accepting both of them. - George Orwell

"Jobless recovery" anyone?

We truly live in interesting times when the public can so thoroughly be fooled about an economic recovery that has no basis in reality. If people would turn off their TVs for a second, they would have a much different view of the economy. At the very least, we are mired in a deep recession- although it is very likely we are in a depression.

No matter what times you live in, it is virtually guaranteed that a proportion of the population will always blindly believe any lies that are fed to them. Economic depressions are difficult to forecast since there are so many "dead cat bounces", which are always misdiagnosed as economic recoveries, on the journey to the abyss.

Unemployment

If the recession is truly over, then logically, there should be some kind of real improvement in unemployment data. However, a comparison between December 2007 (when the recession officially began) with today shows that unemployment is deteriorating.

Our unemployment rate has doubled from the start of the recession, and somehow, magically, we are out of the recession? What an insult to any thinking adult's intelligence.

Long-term Unemployment

Long-term unemployment, or unemployment with a duration of more than 27 weeks, is still rising, and poses huge obstacles to a potential recovery. Although it looks as though legislation will be passed to extend unemployment benefits, the fact remains that states have no money. The Federal government is broke too. In order for a true recovery to materialize, we need to create private sector jobs and end the entitlement mentality that has silently penetrated the psyche of Americans.

I don't know about you, but it looks to me as if the unemployment situation is far worse than it was in December 2007.

Housing Downturn Resumes

At this point it should be clear that the Obama administration has no power to reverse the downward spiral in housing. I've lost track, but I believe people have been calling the bottom in housing for what, 2 years now?

Arguments for a recovery in housing that never arrives go something like this: housing has already gone down 20%, it can't possibly go any lower. Then housing goes down another 10%, and the same logically deficient arguments for a housing recovery continue.

Let's try to detach ourselves emotionally for second and just look at some key data points that will help determine where housing is going in the future.

New Home Sales Cratering

Right around March and April, everyone was calling for the bottom in housing. By August, there was outright euphoria about the "worst being over." Utter nonsense at the time, although it was hard to talk sense to people who didn't understand the bigger picture.

Now that new home sales have "unexpectedly" cratered to a record low, cheerleaders have gone back into hiding. Think about how amazing this is for a second. We have mortgage rates at record lows, first-time homebuyer tax credits, and lax lending standards courtesy of the FHA- yet home sales are way down. I'm telling you, when the government backs off to prevent an utter disaster in the bond and currency markets (although this is no guarantee given the stupidity of our leaders) this is going to get nasty.

Inventories on the Rise

Plunging new home sales exacerbate the crisis of excess inventories, and this doesn't even include the growing shadow inventory of homes lingering on banks' balance sheets. There is a hidden foreclosure crisis in America that will become apparent in 2010. I don't see how housing prices can recover at the same time inventories, mortgage rates, and unemployment rise.

The downward spiral in housing was first a subprime and mortgage backed security crisis. We are now entering a period where the housing crisis is synonymous with the unemployment crisis. The coming wave of foreclosures will be driven by levels of unemployment we haven't seen in generations. The government can manipulate unemployment statistics all they want, but sooner or later, the real unemployment situation will be reflected in tremendous weakness in economic activity.

Our economic system is so dynamic that adding just one new variable to the equation has massive consequences. I don't know exactly what the catalyst will be, but there are way too many bullets for us to dodge in housing for me to be bullish.

This article has been republished from Moses Kim's blog, Expected Returns.

The Dollar Is Vulnerable To Self-Destruction

2010-03-02T05:58:00.000-08:00

Ever since the US severed the dollar's link to gold in 1971, the dollar has become vulnerable of self-destruction. As the government continues to print endless amounts of money to fund increased spending, the dollar is becoming more susceptible for a Roman-style currency collapse and a massive exodus of people trading US paper for gold. See the following post from Expected Returns.

What you will see in the years ahead is the spectacular conclusion of one of the most remarkable bull markets of all time. Based on where I see gold prices going, I would be remiss if I didn't bang my fist on the table about the coming explosion in gold prices.

To fully appreciate gold, you must understand history. Without the proper historical backdrop, it's difficult to convey what is going to materialize in the gold market.

Gold has functioned as a medium of exchange for most of recorded human history. Most people don't understand gold's historic role as money, which leads to serious skepticism over the possibilities of $2,000 dollar gold. However, gold has historically been recognized as money due to its unique characteristics, such as fungibility, malleability, and relative scarcity. Look up any great civilization from biblical times, and you'll see that gold played a major role.

Bretton Woods 1944

Following WWII, leaders throughout the world convened in Bretton Woods, New Hampshire to create a new international monetary system. International currencies carried fixed exchange rates relative to the dollar, while the dollar was linked to gold at $35 dollars per ounce. The dollar effectively became the world's reserve currency with the implicit right to print as many "good as gold" dollars as they desired. I don't understand how supposedly intelligent people could have possibly believed you could fix the value of gold in dollars while printing endless amounts of dollars. Regardless, that's the Bretton Woods system in brief.

What people must understand is that the dollar became the world's reserve currency not because of its intrinsic merits, but because America owned 76% of the world's gold. He who owns the gold truly does make the rules.

The flawed Bretton Woods system came to a halt in 1971 when the United States refused to convert dollars into gold. This, of course, led to the monstrous rally in gold prices in the 1970's from $35 dollars an ounce to $850 dollars an ounce since the value of gold was now determined by the free markets. This is why no amount of jawboning by central banks today can stop gold from going much higher.

The Anatomy of Debasement

Currencies tend to self-destruct dynamically, meaning that there is an initial debasement period that is difficult to perceive until much later, when the currency devalues sharply. The Roman Empire provides perhaps the best example of this sudden and sharp devaluation in a currency after centuries of relative stability.

Ever since we severed the link to gold in 1971, the dollar has been on a steady decline that has been imperceptible to most. The coming sharp devaluation in the dollar will be perceptible to all.

Worldwide Devaluation

And it's not just the dollar. There is simply no precedent in world history of countries around the world simultaneously printing endless amounts of money. This is not a sustainable trend in a floating exchange rate system where currencies don't have any backing. Only students of history know how incredibly insane it is to leave a currency devoid of backing by something of real intrinsic value. What you are effectively doing is giving politicians free reign to "print" as much money as they perceive necessary. Times change, but human nature never does. Politicians have always "printed" money to plug budget gaps that require a certain measure of austerity to solve. Instead of cutting spending, governments tend to "print" money. What makes you believe currencies will retain their value when you dramatically increase the supply?

Dollar Safe Haven?

There is a persistent and terribly misguided view that somehow the dollar will rise in the face of global economic instability. This is utter nonsense.

U.S. Treasuries and the U.S. dollar are "safe havens" only in the absolute short-term. When people start exiting the Treasury market, it will take on the form of a stampede, which is why buying U.S. debt is a huge gamble.

In times of crisis, capital flows desperately in search of safety. During the Great Depression and subsequent world war, gold flowed to the United States. Why? Back then, the United States was a major creditor nation while Europe was mired in a debt crisis. As a major exporter, the United States had the privilege of exchanging their vast currency reserves into gold, draining the gold reserves of European nations in the process. Now, the United States is the greatest debtor nation in the history of the world. So what you are witnessing now is the reverse- foreign nations are taking their huge reserves of U.S. dollars and exchanging them for gold.

Paradigm Shifts

We are going to see a wave of sovereign debt defaults in the years ahead. As a result, capital will flow out of bonds and into gold. What you will see is incredible volatility in currencies as capital seeks out a true safe haven.

For gold to reach new heights, the public will have to participate. To get mass participation in gold, you need to see a paradigm shift. The paradigm shift will take on a life of its own as people really start to distrust our government, which logically includes our currency. People really have to let it sink in their heads that states are bankrupt. The Federal government is bankrupt. This is not a joke. In order to keep up the illusion that it will pay off its debt, the U.S. has to devalue the dollar. This means printing massive dollars and "sticking it" to foreigners. Foreigners will respond and "stick it" to the United States by buying gold. What will follow is an incredible rise in the price of gold that seems unfathomable to most today.

This post has been republished from Moses Kim's blog, Expected Returns.

A Potentially Troubling Trend In Declining Disposable Personal Income

2010-03-02T05:51:00.000-08:00

Although consumer spending rose a significant 0.5% in January, it was balanced by a decrease in disposable income for individuals, caused by an increase in taxes. This increase in taxation occurred in income and social insurance taxes, and is a significant shift from the effective tax declines of the previous two years. See the following post from The Capital Spectator for more on this.

Today’s personal income and spending update for January looks like a warning of things to come, but not for the obvious reasons. The weasel in the henhouse is all the more troubling at the moment since it’s masked by the all-important topic of consumer spending, which rose substantially last month. Beneath this rosy surface, however, is a potentially troubling trend.

But first the good news, such as it is. Personal consumption expenditures rose a strong 0.5% last month, the best pace since October. That’s above average by the standard of the past decade. Worries that Joe Sixpack is set to close up shop and save, save, save are on hold again, or so the latest government numbers suggest. But there's a slight glitch. As our first chart below shows, consumer spending rose last month (red line), but the jump coincides with a rather sharp fall in disposable personal income (black line). What’s going on here?

The drop in income reflected an increase in various tax deductions. Indeed, wages overall were up last month, but the BEA reports that a relatively larger bite in domestic “contributions for government social insurance” and “current personal taxes” turned a gain into a retreat for monthly disposable personal income. By recent standards, the rise in taxes looks unthreatening, in both absolute and relative terms. But recent standards are almost certainly misleading, thanks to fiscal stimulus of late and the government's recession-era policy of helping smooth over the rough edges of the Great Recession by putting more money in taxpayer’s pockets.

The outlook for red ink of unprecedented proportions on the government’s balance sheet suggests that Washington will have to dip its hand ever deeper into the taxpayer till in the years ahead. Did the uptick in government deductions last month signal the start of this trend?

Consider two charts that track the last three years of the relative tax bite on personal income. The chart below shows the percentage of personal current taxes relative to personal income on a monthly basis. “Personal current taxes consist of taxes on income, including realized net capital gains, taxes on personal property, payments for motor vehicle licenses, and several miscellaneous taxes, licenses, and fees,” according to the BEA.

The next chart shows the ratio of so-called social insurance deductions to personal income. These taxes fund a number of programs, including Medicare and Social Security, BEA advises.

In both cases, the change in trend is obvious, or so it seems. One month is hardly definitive evidence of a secular shift, but given what we know about government finances, last month's uptick may be more than just statistical noise. Indeed, the trough of December has given way to a rebound in the relative share of tax deductions in January. Given the mounting liabilities facing the government, one doesn't need a wild imagination to expect that the path of least resistance is up for Uncle Sam's relative cut of wages in the year's ahead. Think of it as the new headwind--and one we need like a hole in the head at this point in this business cycle.

For all the troubles of the last two years, one favorable trend has been the general decline in the relative tax burden on wages. All the better since it came when wages overall have tumbled from the lofty peaks of 2007 and early 2008. But for reasons of fiscal integrity, it's getting harder to keep the government's tax burden at the low levels that have prevailed over the last 24 months without cutting spending by more than trivial amounts. And if that isn't enough of a headache, all of this comes at a time of heightened risk that overall economic growth may be substandard for the foreseeable future.

Even if we ignore tax rates, reasonable minds might wonder about the momentum in the broader rebound for spending and income over the past year. As our fourth and final chart below indicates, the annual pace of change in personal income and spending has peaked, at least for the moment. It's unclear what comes next, thanks to a number of rather large unknowns lurking, starting with the labor market.

But we know the key question: What will keep the spending and income recovery alive? The big-picture answer, of course, is economic growth. Will we see any? And how much? The details that deliver an answer are likely to be messy for the year ahead.

This post has been republished from James Picerno's blog, The Capital Spectator.

Should More Homeowners Walk Away From Their Homes?

2010-03-01T05:55:00.000-08:00

In the face of the recent multi-party default on the underlying debt for Stuyvesant Town, the concept that repaying a residential mortgage is a moral obligation is being called into question. The moral pressure to service an underwater mortgage may be contributing to the continuation of the current problems in the housing market. Sean O'Toole discusses this in the following post from Foreclosure Truth.

Last week a group of investors, including California pension funds CalPERS and CalSTERS, a Florida pension fund, and the Government of Singapore Investment Corporation, walked away from more than a billion dollar investment and a $4.4B loan on Stuyvesant Town – a 56-building 11,000-unit apartment city in Manhattan, whose value had dropped by $3.5B to below $2B.

Despite the massive loss, it was clearly a sound financial decision by these investment professionals to protect the funds under their care from further losses – put plainly, they were smart not to throw good money after bad.

Yet many continue to labor under the idea that unlike these businesses, homeowners have a moral obligation to make payments on their mortgage even when it makes no financial sense to do so.

The case I hear most often is that the homeowner has a moral obligation to “honor the contract”. This seems to me to naively set aside the simple fact that there are two parties to a contract, and that as part of the agreement between those parties the lender signed up for the very real possibility that they might end up with the property if the homeowner became unable or unwilling to pay. If this was not simply an option for the homeowner, there would be no reason for the foreclosure process to begin with… instead we’d be building debtor’s prisons.

Others, often those in homes that are rapidly declining in value, believe that homeowners have a moral obligation to make their payments as doing otherwise harms society at large by causing property values to fall. This is a flawed argument on multiple levels:

1. It assumes high property values are in societies best interest. That’s questionable for a variety of reasons, but clearly there is a stronger moral argument for affordability when it comes to home prices.

2. It assumes foreclosures cause price declines. I’d argue the opposite – price declines cause foreclosures. And in this case price declines were inevitable since prices were artificially inflated through unsustainable lending practices. Seems to me the morally correct thing to do is unravel that mistake as quickly as possible.

3. It assumes that in our consumer driven economy the greater good is better served by leaving more than 25 percent of homeowners underwater in their homes. Wouldn’t we be more likely to see economic recovery and job growth if our national mortgage debt once again represented a sustainable percentage of our national income and we returned to traditional levels of disposable income?

Setting aside morality, the decision to walk away from one’s home is still anything but easy. Most people have an emotional attachment to their home and the memories associated with it. Walking away also impacts the homeowner’s credit, the lender may have further recourse against the homeowner, and there can even be tax consequences.

Unfortunately in all the talk around the morality of foreclosure and walking away, we are losing sight of the bigger picture – finding the most effective way to return to a sustainable level of debt, a healthy housing market and a robust economy.

This post has been republished from Foreclosure Truth, a foreclosure information and analysis blog.

Is The Currency Market About To Become Unglued?

2010-03-01T05:54:00.000-08:00

Often when big brokers are pitching a certain investment, it is a pretty good sign to avoid that investment. Currency trading increased significantly in 2009, but the serious sovereign debt problems around the globe could lead to a currency collapse. See the following post from Daily Wealth.

Several weeks ago, I was invited to a client meeting in Miami held by the wealth-management firm AllianceBernstein.

Bernstein's investment research has long been regarded as the best on Wall Street.

Why? Bernstein does honest, thorough work because it doesn't engage in investment banking. It's paid to be right, not to sell retail clients down the river to pull off a public stock offering or sell a bond.

In Miami, the firm's head economist spoke about the dynamics of the global currency markets and explained AllianceBernstein's trading strategy. It borrows in four to six currencies with low interest rates and buys four to six currencies with higher interest rates. This diversified approach reduces risk substantially. And it has historically produced better average returns than the S&P 500 with less volatility.

The presentation was designed to entice wealthy U.S. investors to open leveraged foreign-exchange trading accounts with AllianceBernstein. And I must say, the presentation was among the most sophisticated I've ever seen. The economist really knew his stuff. But... I was deeply troubled by the presentation.

In my experience, whatever the big brokers are pitching to retail clients, that's the thing most likely to blow up next. One year it's dot-com stocks, one year it's mortgage backed securities, one year it's commodity futures, and so on...

I'd never seen a Wall Street firm give a leveraged currency presentation to retail clients before. While this kind of trading can be very profitable, it is extremely risky – especially right now.

For the first time since just after World War I, we have serious sovereign debt problems in all of the major currencies. And for the first time in the history of man... we have a global monetary base that's not anchored to any real asset.

In fact, the largest reserve assets of the world's monetary system are the obligations of a bankrupt nation (the U.S.) that must print money to afford its own annual deficits (read my essay on this here).

This is a recipe for disaster.

I believe the entire system of paper money – globally – is coming unglued. The result will be a kind of volatility and disruption to the global economy the world hasn't seen since World War I, when the gold standard ended in 1914.

Ironically... ignorant of these enormous risks... retail investors are running full speed ahead into foreign-exchange trading.

Deutsche Bank reports its currency trading platform for retail clients saw a 40% increase in customers during 2009. In the U.S., foreign-exchange volume was up 28% last year – almost entirely because of retail trading.

I suspect these numbers will continue to grow for a while, but I urge you to avoid this looming disaster. It will be devastating to unsophisticated traders who don't practice sound position sizing and don't use stop losses.

While trading foreign currencies has been a good strategy for a long time... what will happen to those strategies as volatility soars and the large currencies collapse? No one knows.

But one thing I do know for sure: It won't end well for retail investors. Someone has to hold the bag for all of the world's paper money. Who do you think will end up holding the bag? Retail investors... or giant institutions like AllianceBernstein?

My advice for anyone itching for a currency trade: Trade worthless paper dollars for gold bullion. Trade them for silver. Repeat as often as possible.

This post has been republished from Steve Sjuggerud's blog, Daily Wealth.

Uranium Industry Will Need To Double In Size To Meet Demand

2010-02-26T05:55:00.000-08:00

Production of new uranium stock has, since the 1990's been below actual demand, and this trend is expected to continue for the foreseeable future. When one considers that the world will need to double its annual output to meet projected 2018 demand, and that all of the world's easiest uranium is already being mined, future pricing for uranium is likely to be significantly higher than it is today. See the following post by Chris Mayer at Daily Wealth.

In the most recent issue of my Special Situations advisory, I showed my readers the most compelling resource investment around. I've spent the past month digging into this story and looking for the best opportunities. Here's what I've found.

The most compelling thing about uranium is probably best expressed in the chart below...

The uranium market has been in deficit for several years, living off the stockpiles of the Cold War. Put simply, we use more than we make.

Looking out to 2018, we're about 400 million pounds short. To get some perspective on that number, here is a look at the top 10 producers of uranium in 2009 and the percentage each makes up of the total market.

The top producers, which make up nearly 90% of the market, produced about 110 million pounds of uranium last year. So essentially, the industry needs to produce almost four times that to meet the estimated new demand through 2018. On an annual basis, the industry will need to about double in size.

A sidelight to this is the fact that 63% of all uranium comes from just 10 mines. This means that the global supply of uranium is susceptible to supply shocks. If one big mine floods or goes down for whatever reason, it'll make a big wave in the uranium market.

It gets even more interesting...

Most of the best mines are already in production. As with everything else in the resource world these days, the low-hanging fruit is all gone. Future grades will be lower, meaning we'll have to mine a lot more ore to get a given amount of uranium. New mines are in more geologically challenging places. New supply is also coming from riskier places, such as Africa and Kazakhstan. All of this means that costs will go up.

These facts are reflected in the industry's cost curve, as you can see in the chart below.

This tells you that at current production – about 130 million pounds – those last million pounds are a lot more expensive to produce than the first million pounds. It also means that as the industry ramps up beyond 130 million pounds to meet demand, costs will rise sharply.

This is not a perfect predictor, of course. There are new mines that will come online and produce uranium at low costs. But it bodes well for a higher uranium price in the future. The current spot price is around $45 a pound. Only around 10%–30% of the uranium traded in any year is sold on the spot market. Most uranium is sold to utilities via long-term contracts. The longer-term price of uranium is north of $60.

For some perspective on uranium pricing, consider that when uranium got hot in the summer of 2007, the spot price hit $136 a pound. It's done nothing but go down since then. If you are a contrarian thinker, which is to say a good investor, that fact will attract you. I can tell you with great certainty that the uranium price won't go to zero. That downward trend will reverse, and based on all the data I presented above, it looks like a higher uranium price over the next few years is a sure thing – or about as close to a sure thing as you can get in markets.

That's why the uranium price has to go up. If it doesn't, there is no incentive for producers to make more, and hence a lot of reactors are going to go without fuel. More importantly, it can go up. Simply put, the uranium price could double and it wouldn't affect the economics of a nuclear reactor much. This is not true with a lot of commodities. If the price of oil doubled, the global economy would double over in great pain and probably grind to a halt. Not so with uranium.

The biggest potential negative I see is the risk of some nuclear accident that derails this whole thesis as people abandon nuclear. But the industry has a clean safety record going back more than two decades now.

There are 436 reactors in the world that provide about 15% of the world's electricity. The new reactors have fewer moving parts and are much better than the old ones. And most of the world seems to be coming around to the green benefits of nuclear power; even President Obama's administration promises loan guarantees and other goodies for the builders of nuclear reactors. In our carbon-worried world, nuclear is a relatively clean source of energy.

For all these reasons, we see a massive buildup in reactors under construction, planned or proposed. The World Nuclear Association (WNA) says there are 52 reactors under construction, 135 reactors planned and 295 reactors proposed. This is what underpins that demand we talked about up top. Where are all those reactors going to be? Mostly, from China, India, Japan, and the U.S.

Once again, we have a resource story driven by China and India. Neither country produces much uranium. China produces less than 2% of the world's uranium. If you believe "buy what China needs," as I do, then uranium fits well with that worldview. In conclusion, I want to own uranium.

This post has been republished from Steve Sjuggerud's blog, Daily Wealth.

Promising Growth In New Orders For Durable Goods

2010-02-26T05:50:00.000-08:00

With a three percent increase in January, new orders for durable goods appear to have continued their upward swing from the lows of this time last year. Even in the face of this overall good news, questions remain as to how long this trend can persist, especially in the face of the continuing job losses. See the following post from The Capital Spectator.

The labor market may be facing new challenges, but new orders for durable goods rose again last month. This leading indicator of future economic activity increased 3.0% in January, the Census Bureau reports this morning. That’s good news, of course, although we’re in no mood to celebrate, given the apparent reversal of fortunes in jobless claims, as we discussed in our previous post.

Nonetheless, as our chart below shows, new orders for durable goods have made some progress in bouncing off the lows from early 2009. We can debate the source of the rebound, ranging from the natural tendency of an economy to right itself after a shock to the various efforts by the government to juice spending. More importantly, it's debatable if this and other leading indicators are as valuable this time around as forward-looking metrics of the broad economic trend. But if we ignore all that for a moment, the rebound so far in this series is encouraging.

As Pimco’s Tony Crescenzi explained a few years back, it’s the trend in such measures that provide clues about the future. “Persistent strength in durable goods orders should be taken as a sign that both consumers and businesses are confident enough in the economy to engage in spending on big-ticket items,” he advises in The Strategic Bond Investor : Strategies and Tools to Unlock the Power of the Bond Market.

The broad trend for durable goods orders is unmistakably up in recent months. The question is whether the rise can persist if—if—the labor market is set to move sideways, or worse, in the foreseeable future? This debate is all more potent if we recognize that January’s strong rise in durable goods orders was largely driven by civilian aircraft orders, which are quite volatile from month to month. Alas, excluding transportation reveals that new orders for durable goods actually fell last month, slipping 0.2% from December’s level.

Yes, the overall durable goods trend is encouraging. But even if we take this at face value, we can't ignore that it’s a jobless recovery so far. As long as that qualification remains, the bullish aura surrounding leading indicators is suspect.

This post has been republished from James Picerno's blog, The Capital Spectator.

While The Cause Of The Economic Collapse Is Debated Nothing Is Getting Done

2010-02-25T05:50:00.001-08:00

Analysts still debate the main causes of the economic collapse as Alan Greenspan continues to deflect blame. While the debate continues, little is being done in Washington to change the system and stop the same mistakes from happening again. See the following post from The Mess That Greenspan Made.

One of the most disturbing aspects of the recent economic collapse and the ongoing financial market crisis is that there is still widespread disagreement over who or what caused it.

All too often, pundits say, "You can't lay all the blame for our current condition on one institution or one man" and that is true, but these same commentators oftentimes skirt answering the toughest of questions about what nearly brought the whole financial system down by distributing the blame among many players and many failings.

By arguing that the entire system must be reformed, nothing ends up being changed as we see now - almost eighteen months after the worst financial market crisis since the Great Depression and there have been no substantive changes to how the financial system works.

Many argue the system has become more crisis-prone.

An even more disheartening development is that there continues to be debate about whether the most fundamental aspect of credit markets - short-term interest rates - was a major factor in precipitating the late-2008 meltdown.

As evidenced by the musings of current Fed chief Ben Bernanke in early-January, the central bank - the group that controls short-term rates - suggests that people look elsewhere for the root cause of the biggest credit bubble and bust in the history of Mankind as the nation's central bankers did everything right in their conduct of monetary policy.

How could the central bank do everything right and then watch everything go so wrong?

Some of the most important debate over responsibility for the economic and financial market mess we now find ourselves in comes in the treatment of former Fed chief Alan Greenspan who, surprisingly, keeps popping up in the news after offering opinions to captive audiences as part of a quite lucrative post-Fed career as a public speaker.

What is most surprising about these accounts is that they no longer routinely carry the disclaimers that once adorned nearly every story about the former Fed chairman back in 2007 and 2008 - about how Alan Greenspan is thought to be largely responsible for our current predicament.

Typical of the lot is this report in Bloomberg by Joshua Zumbrun that treats yesterday's speech before a gathering of Credit Union representatives in Washington as the observations of an interested bystander rather than someone who was controlling the most important interest rate levers and directing the nation's regulatory bodies during the gestation period of the monstrous bubble.

We learn that the former Fed chairman thinks we've undergone "by far the greatest financial crisis globally ever" and that parts of the U.S. economy are now "dead in the water".

He didn't say who or what was responsible for their demise, but it's a pretty safe bet that his finger would not point inward if asked.

The crisis was caused by a "fundamental misjudgment in the marketplace," Greenspan said, going on to note that he'd like to see the return of a robust subprime mortgage market - once heralded as a great early-21st century financial market "innovation" - however, not with the securitization problems that contributed to the late-2008 meltdown.

As has been the case in other reports of Greenspan's recent speaking engagements, there were no references to short-term rates being held "too low for too long" early in the last decade or of an exceptionally light regulatory touch, omissions that just seem so wrong in so many ways.

It is as if the rewriting of history that sought to shift any blame for the events of the last few years away from the central bank has already been successful.

So, it comes as something of a surprise to learn that in some corners of the financial media there is still a good deal of resistance to what would otherwise seem to be a successful job of "reshaping a legacy" and the latest evidence comes in Alan Greenspan having been awarded the Dynamite Prize in Economics by the Real World Economics Review blog.

Now, to be perfectly honest, this is the first time that I've ever heard of this publication, but, based on their current findings, it's hard to disagree with the consensus that was reached by more than 18,000 votes cast in a recent poll.

I've taken the liberty of organizing the data in pie-chart form below.

By a fairly wide margin, Alan Greenspan was judged "the economist most responsible for causing the Global Financial Crisis" with Milton Friedman and Larry Summers finishing a distant second and third, respectively.

In the summary section for these three, the reasons are clear:

Alan Greenspan (5,061 votes): As Chairman of the Federal Reserve System from 1987 to 2006, Alan Greenspan both led the over expansion of money and credit that created the bubble that burst and aggressively promoted the view that financial markets are naturally efficient and in no need of regulation.

Milton Friedman (3,349 votes): Friedman propagated the delusion, through his misunderstanding of the scientific method, that an economy can be accurately modeled using counterfactual propositions about its nature. This, together with his simplistic model of money, encouraged the development of fantasy-based theories of economics and finance that facilitated the Global Financial Collapse.

Larry Summers (3,023 votes): As US Secretary of the Treasury (formerly an economist at Harvard and the World Bank), Summers worked successfully for the repeal of the Glass-Steagall Act, which since the Great Crash of 1929 had kept deposit banking separate from casino banking. He also helped Greenspan and Wall Street torpedo efforts to regulate derivatives.

What's most intriguing about the details provided above is that the three men finishing in the top spots cover the three critical factors, without which a financial market crash would not have been possible - flawed theories as espoused by neo-classical economists (Friedman), a powerful spokesman for Wall Street interests (Summers), and, most importantly, someone with his hand at the controls when the maximum amount of dynamite could be deployed (Greenspan).

A Dynamite Prize in Economics conducted some five or ten years from now may well put current Fed chief Ben Bernanke in the top spot. In fact, at this point, that seems all but assured since, looking back to early in the last decade, former Fed chief Alan Greenspan was widely believed to be the "greatest central banker of all time" as the dynamite was being laid. Fast forward to 2010 and Ben Bernanke becomes Time Magazine's Person of the Year.

In the meantime, the Real-World Economics Review blog is setting out to acknowledge those who saw the financial crisis coming in the inaugural "Revere Award in Economics", so named for Paul Revere's famous ride through Boston which, fortunately, more than 200 years ago, people listened to.

This post has been republished from Tim Iacono's blog, The Mess That Greenspan Made.

Nearly A Quarter Of Homeowners In Negative Equity Position

2010-02-25T05:50:00.000-08:00

According to a recent report, over 11.3 million American homeowners, nearly one quarter of all homeowners with a mortgage, are now in a negative equity position, with forty percent of them upside down by at least twenty-five percent. In the face of this, home prices continue to fall and lenders are expected to continue tightening access to credit, which could lead to a currency crisis if the Federal Reserve prints additional money to stimulate the credit markets. See the following post from Expected Returns.

The meltdown in housing is moving along right on schedule unbeknownst to our politicians, who will have a huge crisis on their hands beginning sometime in 2010. From Marketwatch, 11.3 Million Homeowners Underwater on Mortgage:

More than 11.3 million homeowners -- nearly one-fourth of all Americans with a mortgage -- owe more on their loan than their home is now worth, according to a report released Tuesday by FirstAmerican CoreLogic.

More than 10% of people with mortgages owe 25% more than their home is worth.

The number of underwater mortgages increased by about 620,000 from the third quarter, the firm said. Another 2.3 million mortgages had less than 5% equity in their home, which could be wiped out if home prices fall further.

You will see foreclosures rise in 2010 across America. It is not a matter of if, but when. Home prices will not only have to stabilize, but they will have to effectively double in certain parts of the country for people to break even. I can tell you right now, that is not going to happen in real terms.

In the following chart of home prices, courtesy of David Rosenberg, you can see that home prices are still falling on a non-seasonally adjusted basis. This is a scary scenario given the government's intervention in the housing market and the historically narrow skew between long-term treasury rates and mortgage rates. In other words, even if treasury rates were to stay the same, mortgage rates would likely rise.

Even if the housing market was perceived by potential homebuyers to be stabilizing, where will buying power come from if lending is falling at an unprecedented rate?

If you thought 2009 was bad for regional banks, watch what happens in 2010 when the implosion in commercial real estate really picks up steam. I expect access to credit to contract in the next couple of years as regionals really hunker down and repair their balance sheets.

The only perceived recourse will be for the Fed to print unlimited amounts of money, which will result in a currency crisis. I believe this will be apparent in the next 2-3 years.

This post has been republished from Moses Kim's blog, Expected Returns.

Detrimental Effects Of The Recession Can Last A Lifetime

2010-02-24T05:59:00.000-08:00

The detrimental effects of a recession on individuals can last indefinitely, as loss of job experience and accumulated assets can have a strong influence on the future. Also, some segments of the population such as young workers and minorities are more adversely affected than the general population. See the following discussion from Economist's View.

The distribution of the benefits in the run-up to the recession as reflected in growing inequality has been widely discussed, as has the distribution of benefits in terms of various bailouts once the recession was underway. But what hasn't received enough attention is the distribution of the costs of the financial meltdown and the subsequent recession.

For example, the costs of unemployment are never distributed equally when downturns occur, the young and minorities in particular experience much larger employment shocks than, say, white middle-aged males. As noted below, blacks in many areas are experiencing unemployment levels that equal or exceed 20%, and the damage from the unemployment will be permanent, it won't go away if and when jobs return.

The recession is taking away opportunity for the young to gain employment experience, and many who are employed are working below their abilities in jobs they are likely to get stuck in for many years, if not forever. The recession is wiping out the accumulated assets of the unemployed as they try to bridge the gap until jobs return, and since many of these are older workers, this will have a large detrimental effect that lasts throughout their retirement years. Recessions cause skills to depreciate, there are psychological costs, there are costs to family members, the loss of a job generally means loss of health care, the costs to working class households go on and on.

And there are other ways in which the costs have been distributed unequally, and in many cases these have not been thoroughly examined. For example, there is evidence that minority groups were given higher cost and highly profitable mortgages when lower cost but less profitable loans were available. This also served to wipe out accumulated assets of minority borrowers in addition to all the other problems that come when a high cost mortgage cannot be paid.

The fact that many of the costs were concentrated among those least able to pay them stands in contrast to the fact that the bailout benefits were concentrated among those at the opposite end of the income distribution. Government transfers to compensate low income groups for the costs they were forced to pay but had no hand in causing, transfers that are financed by those who received the benefits during the bubble years and the bailout money when the bubble popped, seem more than justified.

Here's a description of one group that has been hit particularly hard:

Recession hits older blacks in what should be their prime, by Tony Pugh, McClatchy: America's economic recession has hit African Americans who are middle age and older much harder over the last year than it has the general public, according to a new survey released Tuesday by the AARP.

In telephone surveys, more than twice as many African Americans ages 45 and older reported having trouble paying their mortgage or rent, having to cut back on medications and having borrowed money to pay living expenses in comparison to the general population.

Twice as many blacks also reported losing a job and having a spouse who either lost a job or had to take a second job. Nearly twice as many blacks had difficulty paying for essential items such as food and utilities.

These older, established black workers also lost their job-based health coverage at higher rates, were more likely to raid their retirement savings prematurely and provide financial help to their parents and children more often than their age-equivalent peers, the survey found.

The data reinforces what many experts have said for months: that the recession is really a depression for many blacks, particularly in areas where black unemployment has surpassed or hovers around 20 percent. ...

The troubling findings paint a gloomy financial picture for African-American workers during what should be some of their prime earning years, said Algernon Austin, who heads the Race, Ethnicity, and the Economy program at the Economic Policy Institute ... said ... "These findings suggest we shouldn't be surprised if we see increases in poverty rates for blacks 65 and older in the coming years because a number of them are spending down their retirement income to try to get past this Great Recession," he said. ...

This article has been republished from Mark Thoma's blog, Economist's View.

Confidence Among US Consumers Moves Lower

2010-02-24T05:56:00.000-08:00

Even in the face of potential economic recovery, consumer confidence, a leading indicator, has continued to fall and has reached its lowest level in ten months, indicating that the double dip recession may be approaching. The cause of this continuing decline appears to be the ongoing lack of job creation in today's economy. See the following post from Economist's View.

So much for the economic recovery- consumer confidence is falling, and it's falling fast. As I've been expecting, consumer confidence is plunging, reflecting the inflection point we have likely reached in our economy. There is no doubt in my mind the double dip is coming. From Bloomberg, Consumer Confidence in U.S. Falls More Than Forecast:

Confidence among U.S. consumers fell more than anticipated in February to the lowest level since April 2009 as the outlook for jobs diminished, a sign spending may be slow to gain traction as the economy recovers.

The Conference Board’s confidence index declined to 46, exceeding the lowest forecast in a Bloomberg News survey of economists, from a revised 56.5 in January, a report from the New York-based private research group showed today. Concerns about the economy and the labor market pushed an index of current conditions to its lowest in 27 years.

The Consumer Confidence Index is a measure of consumer confidence based on responses to questions about the following:

Current business conditions

Business conditions for the next six months

Current employment conditions

Employment conditions for the next six months

Total family income for the next six months

The Consumer Confidence Index and the Expectations Index are leading indicators to the extent that perceptions shape future actions. With both indexes plunging to 10-month lows, there is every reason to believe the next few quarters will be weak on the consumer front. Remember: no consumer, no recovery.

The following graph shows consumers' view of the present situation since the start of the recession. In February, the index fell to 19.4 from a January reading of 25.2. How anyone can claim we are in an economic recovery based on data points like these is beyond me. It is indeed axiomatic that if you repeat a lie enough times, it becomes accepted as truth. Many, including supposedly seasoned economists, are unwittingly being fooled by government lies about a clearly paradoxical "jobless recovery."

Jobs Still Scarce

The share of consumers who said jobs are plentiful fell to 3.6 percent from 4.4 percent, according to the Conference Board. The proportion of people who said jobs are hard to get increased to 47.7 percent from 46.5 percent.

The proportion of people who expect their incomes to increase over the next six months declined to 9.5 percent from 11 percent. The share expecting more jobs in the next six months fell to 13.4 percent from 15.8 percent.

I don't care how many jobs Obama randomly claims that he has saved, the fact remains that there are no jobs. Ask the average blind supporter of the "jobless recovery" theory about the last time we actually experienced one and they'll likely give you a blank stare. The blank stare is warranted, since the whole concept of a jobless recovery is a modern phenomenon that has no firm standing based on historical data.

Nearly every single data point shows the economy is in worse shape than it was at the onset of the recession. Get ready to hear the airwaves filled with news of an "unexpected" double-dip recession. As you all should know by now, I expect gold to explode as a result.

This post has been republished from Moses Kim's blog, Expected Returns.