Saturday, February 28, 2009
This just never gets old.
Cartoon from Slate.com
This just never gets old.
Cartoon from Slate.com
Another one from my favorite guest blogger, The Opinionator.
I’m an economist. I’m trained to believe in the power of economic incentives, and in particular to anticipate that taxes will change people’s behavior. Higher marginal tax rates can reduce work effort, higher tobacco taxes reduce teen smoking, and higher energy taxes would be the surest route to greater energy efficiency.
Now we have a foreclosure crisis, with families being forced out of their homes, fire sales that drive down home prices, and further defaults and foreclosures as even more homeowners find themselves “under water” – with mortgages bigger than the market value of their houses. What to do?
If we want less of something, the most efficient way to get there is generally to tax it. In this case, we want fewer foreclosures, so let’s tax them. I propose that the federal government impose a 20% tax on the proceeds of sales of foreclosed property. This will reduce sharply the payoff to foreclosure, and induce lenders to make a much more intense effort to modify mortgages to keep homeowners paying. Writing down the mortgage principal by 20% will be a no-brainer for a start.
This tax should be strictly temporary, since the possibility of losing your home is supposed to keep people honest when they sign up for their mortgage. Right now it’s important to stop the rot, as each foreclosure makes things worse for everyone, but we don’t want to make life easy for deadbeats in the future. So I propose that this tax would apply only to mortgages written through 2008 – the precise date is arbitrary, but it would certainly not apply to new loans being made today.
Simpler is better, so my preference is that this is the end of the story. However, one could justify some exceptions, such as waiving the tax if the lender has already modified the mortgage by reducing the principal 20% or more. It might also be politically attractive to waive the tax where fraud by the borrower can be proved (though I suspect that fraudulent borrowing generally involved a co-conspirator on the lending side).
In any case, let’s apply the lessons of supply-side economics about the power of incentives. Tax foreclosures, send any revenue to the local government, and everyone wins except the most myopic lenders.
Next installment: what to do about the war on drugs...
It's been three months since the Fed announced its Term Asset-Backed Securities Loan Facility (TALF), and over two weeks since the Treasury announced its Financial Stability Plan, under which the size of the TALF was increased to $1 trillion. The size of the Fed balance sheet peaked at $2.3 trilliion on the week ending December 17, 2008, and has since then decreased by $354 billion (on 2/25/09).
The Fed is shifting focus. It awaits the start of its TALF program, where the Fed will lend against a wider range of collateral to a much broader base of firms (any U.S. company with eligible collateral can participate in TALF). Furthermore, the only programs that have increased in size are those to purchase directly alternative assets (MBS or CDOs, for example).
The table lists the Fed's assets and liabilities since the peak of its bank credit activity on December 17, 2008. It appears to me that the Fed has changed its tune away from traditional lending and toward direct purchase of assets, increasing only those programs that buy assets directly.
The top line, Reserve Bank Credit, is all credit extended to the commercial banking system and primary dealers; it has fallen by $353 billion since two months ago. The Fed's traditional method of targeting bank reserves is through the buying and selling of securities, and accepting a rather narrow range of collateral that was updated in 2006 (you can see the collateral that the Fed accepts for the TAF and discount window here).
The chart to the right comes from the Fed's new website; it lists the collateral pledged for $1.5 trillion in lending as of the middle of December. As you can see, the list is rather vague. It doesn't list what these assets are worth now (current market value), and the ABS accepted is probably not the bad stuff that firms are currently writing down.
Overall, I presume that the traditional lending programs have probably become less attractive, as the assets that banks want to get off their balance sheets (collateral) cannot be done under current programs. And furthermore, only banks can borrow in these programs.
So the Fed is gearing up for TALF - Repo loans have been unwound. Originally, the Fed started beefing up its Repo arrangements with primary dealers, as the collateral accepted under a Repo (primary dealer collateral, see here) is slightly wider than the collateral accepted by traditional open market operations (buying and selling Treasuries). I take this reduction in repo lending as a sign that the Fed has announced or introduced new programs - TALF (assets backed by consumer credit and small business loans) or MBS purchase - that either purchase the illiquid assets directly or will be accepted as collateral, making the back-door approach, repos, unnecessary.
The Fed has increased its holdings of CDO's and MBS via direc purchase from AIG and its subsidiaries and from the open market (in the case of MBS). On the open market, the Fed purchased $160 billion in MBS, but only $68.5 billion is showing on balance. That's almost $100b in assets that the Fed owns - nontraditional assets, I might add - that have yet to settle on balance.
To me, the Fed is moving away from traditional liquidity measures - extending bank credit in exchange for narrowly-defined collateral or a slightly extended version (Term Securities Lending Facility and the PDCF), and toward direct purchase of less-liquid assets, or accepting a wider range of collateral linked to consumer and small-business ABS for loans available to any U.S. firm that holds the collateral (TALF).
Gross domestic product across the Organisation for Economic Co-Operation and Development (OECD) countries fell 1.5% in the fourth quarter of 2008, following an 0.2% contraction in the third quarter of 2008. There are 30 member countries of the OECD, and according to the two consecutive quarters of negative economic growth definition, the OECD is in recession.
In continuing the series of really scary charts, which I have re-named chilling economic charts, I present what the world economic crash - of course, initiated here in the US of A - has done to global inflation rates. End result: the world recession is slashing inflation across the globe.
The West (or at least a proxy of it) is seeing disinflation (falling inflation) at alarming rates
This chart illustrates annual inflation rates across key Western economies through January 2009 if available. Across these economies (regions), annual inflation has been slashed an average of 1.6% in just one year to 1.3%, from December 2007 to December 2008.
Asia is not immune to the drag on inflation
This chart illustrates annual inflation rates across several Asian economies through January 2009. Annual inflation in these economies has been dragged down an average of 0.4% to 5.1% in one year, December 2007 to December 2008.
Emerging Europe is contracting and bringing inflation with it
This chart illustrates annual inflation rates across several several emerging European countries through January 2009 - all members of the European Union. On average the six economies experienced an average 2.4% drag on inflation to 6.1% in one year, December 2007 to December 2008.
Iceland is the opposite - inflation surged
This chart illustrates Iceland's annual inflation rate through February 2009. As you can see, inflation has surged almost 14% since 2007 to 17.6% in February. Iceland imports an average of 41% of its total GDP from other countries; and therefore, import prices drive the CPI. As a comparison, U.S. imports averaged around 18% of GDP over the last year.
In 2007 and into 2008, energy prices were rising quickly, driving import prices upward. But recently, Iceland's banking crisis has been coupled with a currency crisis. In January, Iceland's currency, the Krona, depreciated 71% over the year on a narrow trade-weighted basis. This had the undesirable effect of driving up import prices, and inflation spiked.
Statistics Iceland will not release its fourth quarter 2008 GDP report until March. However, the most likely catalyst of the disinflation, 1% from January to February, is a severe contraction in economic growth. Iceland's got a lot of economic problems on its horizon.
So there you have it. Around the world (mostly), GDP is falling precipitously and dragging with it, inflation rates. In the overly indebted economies (i.e., that of yours truly), this could present a real problem if deflation - falling prices - is persistent and broad-based, making servicing debt payments more difficult.
Wouldn't it be nice to see some positive economic news? If the answer to that question is yes, then you should visit this site, The Good News Economist.
The labor market is brutal, but it cannot be this brutal! From the Financial Times:Throngs of unemployed New Yorkers braved sub-freezing temperatures on Tuesday in hopes of finding new work amid rising job cuts.
The Conference Board released the results of its February Consumer Confidence survey. From the Washington Post Ticker: Consumer confidence in February hit another all-time low, as Americans struggled with layoffs and a recession.
It's bad out there, folks. To be sure, the February reading did set a record low since 1967, but the record is just one month old, as the January reading was the previous low. In fact, except for the November 2008 bump, each month has set a new record low since September 2008. The labor market is just brutal, and that is killing confidence. Consumers are getting gloomier and gloomier on an uncertain economic future.
Speaking of future, according to the Conference Board survey, consumers don't see light at the end of the economic tunnel for the next six months.
This chart, which illustrates consumer business expectations over the next six months, is particularly disconcerting for two reasons. First, the percentage of consumers surveyed that believe conditions will worsen surged by 9.4% to 40.5%. This is troublesome, since waning confidence in future conditions likely drives down current spending by increasing savings. Yes, this is a good thing over the long run, but it can further contract the macroeconomy hard in the near term.
Second, the number of consumers that claim conditions will not change in 6-months is falling quickly; or an increasing number of individuals are developing an opinion that the economy over next six months will corrode.
The percentage that believe that conditions will not change over the next six months is not listed, 50.8%, but it is simply 100% minus those that believe the economy will worsen, 40.5% in Feb., and those that believe the economy will improve, 8.7%. Notice how there is always a rather stable number of people that believe conditions will be the same over the next six months? Well that has changed abruptly. All the previously "same" people are falling into the "worsen" boat.Overall, this is a terrible report. I imagine that confidence will increase when the fiscal stimulus money starts to roll out; but until then, there is really no reason to be positive right now.
The McKinsey Quarterly released the results of its Economic Conditions survey, conducted January 27, 2009 - February 2, 2009. The survey is broad-based, where 1,820 executives were surveyed from around the world and across a large set of industries. The first notable finding of the survey is the following silver lining: 40% of executives believe that the economy will initiate recovery by the end of 2009.
From the McKinsey Quarterly (this is a free service, but you must register to read the article):Three-quarters of all respondents, and more than 90 percent of those in the eurozone, expect their nations’ GDP to fall in 2009. This is an increase from November, when 59 percent of all respondents expected GDP to fall. Given that opinion, it’s not surprising that executives indicate that their nations’ economies are bad and that they have low expectations for the near term. Notably, however, those views have remained fairly stable between December and January, after falling markedly between November and December (Exhibit 1). This may indicate a belief that the economy has hit bottom and that even tens of thousands of layoffs and continued steep losses in shareholder value aren’t worsening the situation. Some 40 percent of respondents expect an upturn to begin by the end of this year.
This is a terrible outlook for battered Germany. From Deutsche Welle:In an interview with the Bild newspaper on Monday, Feb. 23, Deutsche Bank's Chief Economist Norbert Walter said Germany had to be prepared for a dramatic decline in economic output as the global downturn batters exports, decimates companies' profits and raises the specter of large-scale job losses.
The Fed balance sheet is growing again; bank credit is up $76.9 billion for the week ending on Feb. 18 to $1.91 trillion, while reserve balances grew another $85.6 billion to $688.9 billion. The balance sheet is set to expand (much) further; the Fed is expected to announce the start date of its new Term Asset-Backed Securities Loan Facility (TALF) soon. The program is massive - up to $1 trillion - and could help consumer ABS markets, but questions still remain.
The chart illustrates the asset side of the Fed's balance sheet, including its credit easing policy measures - Commercial Paper Funding Facility (CPFF), its various non-commercial bank loans (Maiden Lane, Maiden Lane II, and Maiden Lane III), and listed under "securities held outright, the mortgage backed security purchase program (MBS), for example.
Over the last week, bank credit grew mainly due to the following: (1) a new $55.69 billion of the NY Fed's MBS purchase settled on balance, and (2) the Fed increased its Term Auction Facility (TAF) lending another $34.7 billion.
The Fed is purchasing MBS on a weekly basis, but the securities only settle on balance at a lag. To date, another $71.6 billion in MBS have already been purchased by the NY Fed that have not yet settled on balance. As for the TAF, the Fed still has 3 auctions scheduled through March 23 2009 for another $450 billion in lending. Unless the Fed wants to wind down this program (highly unlikely), which currently holds a 23% share of total bank credit extended by the FEd, further auctions will likely be scheduled soon.
TALF will raise Reserve bank credit by up to $1 trillion, or more than 50% of its current total.
The TALF program is expected to get underway soon - the NY Fed has been uploading a lot of technical information regarding the program. The TALF plan is simple. The NY Fed will lend to eligible borrowers (the requirements are much broader than the commercial banking system) at a fixed or floating interest rate against eligible collateral of various consumer and small business asset-backed securities (ABS).
The collateral eligible for the TALF loan includes the highest rated ABS backed by auto loans, credit card loans, student loans, and small business loans. Depending on what type of security is used as collateral, the Fed will lend up to 95% of the collateralized assets (haircut amounts range from 5%-16%). If the security is downgraded after the Fed assumes it as collateral, the Fed takes the hit. If the borrower defaults on the loan, the Fed sells off the ABS collateral.
The TALF program was extended - from $200 billion to $1 trillion - as part of the government's Financial Stability Plan . It is not certain exactly how effective will be the TALF on the ABS markets. For one thing, there is some question as to the incentives of the program: whether or not the haircut (5%-16%) plus interest payments will be sufficient to attract participants to the program. Another Fed program, the Money Market Investor Funding Facility, did not attract any eligible participants to borrow under the program (its lending on the Fed's balance sheet remains at $0).
Other questions remain. Here is an excerpt from the NY Times last week:
Paul Krugman writes a nice piece (hat tip, Mark Thoma) about how the U.S. economy will eventually emerge from its recessionary depths. However, it occurs to me that another question should be: when will the economy emerge from the depths? And unless one is prescient, nobody can truly answer that question. But key surveys on construction, sentiment, and manufacturing indicate that it may be a while. An excerpt from Paul Krugman's op-ed piece in the NY Times:So will our slump go on forever? No. In fact, the seeds of eventual recovery are already being planted.
The Philadelphia Federal Reserve Bank released the February survey results of general business conditions in manufacturing for the Philly Fed region. Consistent with the Empire State survey results, the the report was bleak:Conditions in the region’s manufacturing sector continued to deteriorate this month, according to firms polled for the February Business Outlook Survey. All of the survey’s broad indicators for current activity remained negative and fell from their already low levels in January. The chart illustrates the survey results for the current and 6-month ahead business conditions across the Philly Fed's region since 1968. In February, current business conditions fell to -41.3 and has been negative for 14 out of the past 15 months. The manufacturing sector is suffering a severe contraction. These results suggest that the ISM national manufacturing survey will likely see a decline from its January bump, and that the contraction is ongoing.
Hmm....I don't know about this one. The New York Times reports that Mayor Bloomberg plans to spend $45 million to retrain out-of-work investment bankers and attract foreign financial firms to the county. According to the NY Times:Just as Michigan is scrambling to retrain laid-off auto workers, New York City officials have come up with a plan to find new work for the unemployed of its core industry: investment banking.
"On Thursday, Sept. 18, 2008, the astonished leadership of the U.S. Congress was told in a private session by the chairman of the Federal Reserve that the American economy was in grave danger of a complete meltdown within a matter of days. "There was literally a pause in that room where the oxygen left," says Sen. Christopher Dodd (D-Conn.)."
Frontline goes "Inside the Meltdown"
Gas prices are on the rise again; and with the unemployment rate accelerating, already-strapped consumers will pull back even more. Not good. Eventually, though, the rising unemployment rate and slackening demand for gasoline will pass through to lower gas prices.
The chart illustrates monthly gasoline prices through the February 2009. National gas prices have declined precipitously since July 2008 amid the global recession. However, gas prices have been creeping upward since early January. According to Aysegul Sahin (hat tip, Mark Thoma), this recession is shaping up to be worse than the 1980's. Therefore, renewed pressure on gasoline prices will squeeze consumers and firms further, worsening an already-beaten economy.
The recent bump in gasoline prices seems counter-intuitive amid building crude inventories and falling crude prices, but it is simply a lagged supply effect. According to the Wall Street Journal:
The NY Fed released its regional manufacturing survey results (the first of a series of regional surveys on manufacturing). The index fell to a new low, -34.70, declining sharply since January 2009. From the NY Fed:
California, which is on the brink of running out of cash, will notify 20,000 state workers on Tuesday their jobs may be eliminated, a spokesman for Governor Arnold Schwarzenegger said on Monday. RW: Yes, there is some less-bad news out there, and I certainly welcome good news in housing and manufacturing. But so far, the good news consists of temporary monthly bumps, which does not determine a trend; and unfortunately, a trend has not yet emerged. In fact, according to Wachovia's forecast, GDP is expected to decline through the third quarter of 2009.
Global lending standards are tight; and why shouldn't they be when the unemployment rate is surging in most G7 economies?
But a closer look at key central bank loan surveys reveals that standards are indeed becoming increasingly tight in England, the U.S.A., and Canada, but to my surprise, are still easing in Japan. However, there is a general decline in demand for lending, which is slightly disconcerting, and a signal that investment and/or aggregate demand will be anemic in these economies for some time.
The following are the general conclusions of the central bank loan officer surveys across the aforementioned economies for the change in lending standards and loan demand from the July-September 2008 period to the October-December 2008 period.
The Bank of England
The Bank of England credit conditions survey reveals that standards for consumer and corporate lending remain tight, while demand for mortgage loans is rising (almost easing in net).
The European Central Bank
The European Central Bank conducts a very broad euro area bank lending survey. The general conclusions of the survey (there is much more in this report) are: that standards remain at elevated levels over the last six months. A little more worrisome - in terms of a signal for aggregate spending - is the sharp drop off in loan demand. This signals a general decline in demand for investment spending and durable consumption.
The Federal Reserve
The Federal Reserve Bank's senior loan officer survey shows that lending remains at record-tight levels across all loan types: commercial and industrial (C&I), consumer, and mortgage. Please see this post for an in-depth discussion of lending.
This chart highlights the abrupt shift of C&I and consumer lending standards midway through 2007. It also confirms that demand for lending is starkly weak.
The Bank of Canada
The Bank of Canada's senior loan officer survey tells a very similar story: strict, stricter, and strictest lending standards. Furthermore, Canada's lending environment has worsened considerably in the last three months of 2008.
The Bank of Japan
The Bank of Japan's senior loan officer opinion survey on bank lending practices at large Japanese banks is surprising to say the least. Amid a 3.3% fourth quarter '08 decline in economic growth, lending standards are still easing in net for loans to consumers and small and medium-sized firms. Standards to large firms went unchanged in net.
The survey also tells a story of falling demand for consumer lending, and that demand for firm lending is showing signs of dropping off (not shown here, but page 1 of the survey). Again, this is a signal that domestic demand for durables and investment goods are likely to be anemic for the time being.
The general conclusion is that standards are almost uniformly tight across the G7 economies, and that demand is weak, too. Both factors signal battered credit conditions, but also may highlight an ongoing collapse in aggregate demand.
The Fed has been criticized of its lack of transparency in recent policy measures; specifically, it's not forthright with the details of its credit easing policy (similar to quantitative easing, but according to the Fed, it quite different) - raising the balance sheet through reserve creation in order to increase bank liquidity and support various asset classes.
The ECB defines transparency and why it is important explicitly on their web page: Transparency means that the central bank provides the general public and the markets with all relevant information on its strategy, assessments and policy decisions as well as its procedures in an open, clear and timely manner....Transparency helps the public to understand the ECB's monetary policy. Better public understanding makes the policy more credible and effective. This idea of transparency made me ask myself: which central bank is the sneakiest with its policies?
I rank six central banks from sneakiest to least sneaky:
Two (other) things from the Fed this week.
This article highlights how the financial crisis has spread like a disease throughout the world. Unemployment rates are rising, growth rates are declining, and the economic pain is felt globally.