Friday, August 6, 2010

An Argentinaville Stimulus?

Today the Wall Street Journal (article linked here:, or click on heading above)commented on yesterdays rumors of another "stimulus" that might come in August.

This trial balloon could presage something good, something that might stave off the disaster that a monetization of the deficit would create.

Christine Romer follows Peter Orzag out of the current Administration, removing the intellectual barriors to further "stimulus" (Romer has written an embarrassing analysis with her husband, that casts serious doubt in the multiplyer effect of stimulus).

These excertps illustrate the scepticism that greets such an effort:

" The argument behind the "free stimulus" is that Fannie, Freddie and the Federal Housing Administration own or back about 37 million loans, and so the government "already owns the risk." If the mortgage agencies effectively forgive some of that debt, voila, the indebted homeowners have more cash to spend.

Skeptical mortgage analysts were quick to point out that the government's two existing programs for struggling homeowners—HAMP for loan modifications and HARP for refinancings—have poor acceptance records. Their failure suggests that even a huge new forgiveness program is unlikely to work as hoped. An analysis this week by Credit Suisse, which calls the idea "too difficult to do properly," estimates the "stimulus" would be more like $10 billion to $15 billion."

I do not propose a "Free Stimulus" ..again the journalistic uninitiated have mis-diagnosed the problem.

I propose a disciplined, simple method of relieving the mortgage crisis which is at the heart of our financial malaise.

No debt is "forgiven", it is attached to a tangible asset and is recovered over time by the lender with the most ability and patience to wait for that recovery - the Federal Government.

"Stimulus" spending using money created out of thin air is a doomed exercise for all.

Creating the conditions for the population to assume sane levels of debt and spend their surplus income WILL create the conditions for economic growth.

The only way out of our impending economic disaster is to create these conditions and unleash the great creative, economic might currently curled up in fear in the bosom of all citizens.

The time is now, soon it will be too late.

Times That Try Our Souls a follow up to the warning the Chines issued about dollar devaluation

This story is posted over at

It's a long interview with's John Williams.

What John envisions—and he's by no means looking to the far horizon—is a systemic collapse, a hyperinflationary great depression... and the cessation of normal commerce. This is a 10-15 minute read headlined "John Williams: Times That Try Our Souls"... and the link is Or click on the heading above.

Some excerpts:

I expect an accelerating pace of downturn in the next couple of months. The numbers will turn sharply worse. Consensus estimates are already moving in that direction and most everything will follow. Industrial production is still up but retail sales have been falling. Payroll numbers have been flat when you take out the effects of the census hiring. Those employment numbers will turn down in the next month or two, providing an important indicator of renewed economic contraction.

So we'll see how it develops, but we're at that turning point. It is happening as we speak. At the end of July, we got an estimate of the second quarter GDP, where the pace of annualized growth slowed to 2.4%. The early GDP estimates are very heavily guessed at, so most of the time you don't know if you're getting a positive or a negative number. You get a margin of error of plus or minus 3% around the early reporting. That happens also to be about average growth.

Nevertheless, on a quarter-to quarter-basis, I think we'll see GDP down again in the third quarter.

The popular press will describe it as a double dip, but we never had a recovery. Actually, this is just a very protracted, very deep downturn that has had a pattern of falling off a cliff, bottoming out, having a little bit of bump due to stimulus and then turning down again. Sort of shaped like the path of a novice skier going down a jump for the first time. Speeding sharply down the hill, he goes up in the air and starts spinning wildly as he tries to figure out which end is up with his skis. Then he takes a pretty bad tumble. We're beginning to spin in the air.

Significantly they did not call an end to this recession. They said it was too early to call, but I think they had a pretty good sense of what was going to happen. So what we're seeing now just looks like an ongoing deep recession. The next down leg is going to be particularly painful and I'm afraid particularly protracted.

So consumer income is a key factor.

Absolutely. If you put in housing that's related to the consumer, that's three-quarters of the GDP. The average household is not staying ahead of inflation, and unless income grows faster than inflation, the economy won't grow faster than inflation—and that means that GDP is not growing. Income sustains consumption. When income grows, consumption grows. The only way to have sustainable long-term economic growth is to have healthy growth in income. You can buy some short-term economic growth, though, without growth in income, through debt expansion, which is what Greenspan tried.

Most of the growth we'd seen in the last decade prior to this downturn was due to debt expansion. The debt structures have pretty much been put through the wringer and consumers are not expanding credit, generally because it's not available to them. Absent debt expansion and/or significant growth in income, no way can the consumer expand personal consumption. You have to address employment, quality of jobs.

We no longer really have the option of expanding the debt and it's doubtful that even short-term stimulus will have much impact. Looking at this next leg down against that backdrop, what projections would you make about unemployment, housing prices, GDP as we look through the end of 2010 and into '11?

Unemployment will be a lot worse than most people expect. Housing will continue to suffer in terms of weak demand. But in this crazy, almost perverse circumstance, the renewed weakness to a large extent will help push us into higher inflation. Real estate tends to do better with higher inflation, but it's not going to be a happy circumstance for anyone.

The government is effectively bankrupt. Using GAAP accounting principles, the annual deficit is running in the range of $4 trillion to $5 trillion. That's beyond containment. The government can't cover it with taxes. They'd still be in deficit if they took 100% of personal income and corporate profits. They'd also still be in deficit if they cut every penny of government spending except for Social Security and Medicare. Washington lacks the will to slash its social programs severely, to change its approach to ever bigger government. The only option left going forward is for the government eventually to print the money for the obligations it cannot otherwise cover, which sets up a hyperinflation.

All of what I just described was already in place when the systemic solvency crisis broke. Before this crisis the government was effectively bankrupt. In response to the crisis, the government may have gone beyond what it had to do, but you err on the side of conservatism when you're trying to prevent a systemic collapse. That was a real risk. It still is. Irrespective of the politics of big government spending, quantitative easing, renewed bailing out of banks, whatever is involved, I'd argue that the government still will do whatever it takes to prevent a systemic collapse. That last series of actions had the effect of rapidly exploding the deficit. In just a year, we went from something under $500 billion in official reporting, on a cash basis as opposed to GAAP basis, to something close to $1.5 trillion.

What will plunge us into this abyss? And when?

I think the odds are extremely high that we'll see it break within the next year. I would put it six months to a year, outside.

We're getting extraordinary protestations from other central banks about the U.S. finances, its solvency, risk of the dollar.

As this breaks, it's going to be obvious that the U.S. is moving to debase its dollar. It'll have no option to do otherwise.

So what we end up with is a circumstance where the dollar is under heavy selling pressure. People will feel the squeeze on their inflation-adjusted income with much higher prices for gasoline and fuel oil.

The route to the monetary inflation will take hold from the Fed's direct monetization of Treasury debt.

US economy sheds 131,000 jobs in July

The US economy shed 131,000 jobs in July, as weaker-than-expected private sector hiring cast doubt over the recovery.

Official figures showed job losses mounting for the second month running, following five consecutive months of gains from the start of the year. Some Wall Street analysts had predicted that payrolls would fall by 65,000 in July, leaving the month’s losses twice as severe as feared.

July nonfarm payrolls declined 131,000, more than the consensus estimate of -87,000. The prior month was revised to -221,000 from -125,000. Encouraging indicators include private payrolls of 71,000, hourly earnings that rose 0.2% (vs. estimates of 0.1%), and the average workweek rising to 34.2 (vs. estimates of 34.1).

Simply put, there is not enough jobs being created to put a dent in unemployment.

The official unemployment rate held steady at 9.5%, a further sign the economic recovery may be losing momentum.

The real unemployment rate stayed at 16.5%.

Thursday, August 5, 2010

Mortgage Workout 4: The real urgency

China is warning the USA not to inflate the dollar. Economic activity is declining as unemployment rises and home prices fall further.

The investment banks are warning that the Fed Reserve Board is running out of options to fix the malaise and will soon turn to the problem of the GSE's Fannie Mae and Freddie Mac.... unless we focus laser-like on the problem a POLITICAL solution will compromise the recovery.

It is time for politicians to be patriotic and not parochial.

They MUST rescue the people of this great nation or the American Dream of home ownership will be lost forever.

They must do this for the benefit of the country. To do anything other than a clean fix aimed laser-like at the problem of home valuation is to charge the country headlong out of the current recession into a second Great Depression of unimagined magnitude and consequence.

Here is an example of how this would work to restore the great hope of prosperity for this great nation and the world:


The Smith Family owns a house with a current mortgage of $700,000 ( Smith had refinanced to take out rising equity). It is their primary residence - they live in it.

Smith household income reported on 2009 Federal tax return was $125,000 gross before any deductions (ie NOT their taxable income).

Current US 30 year Treasury notes have an interest rate of approximately 4%.

So, 30% of $125,000 means Smith can afford to pay no more than $37,500 per year or $3,125 per month for Principal & Interest on the mortgage. He is still on the hook for taxes and insurance.

Smith gets a new mortgage under this program with a 30 year term at 4.5% (4+0.5) for a nominal value of approx $600,000 (arrived at through DCF analysis based on what Smith can afford to pay).
This may/may not be more than the current appraised value.

The Government gets the right to 80% of the difference between $600,000 and the original mortgage amount of $700,000 when the house is sold.

Ten years from now Smith sells the house for $700,000 the value of the original mortgage.

He has paid about $2,900/month in interest for 10 yrs or $348,000 that has gone back into the US treasury.

He has also paid about $27,000 in principal.

He owes $573,000 on the new government mortgage, and $100,000 difference between his old and new mortgage originally financed by the US govt. ( The Treasury has already recovered nearly 50% of the amount loaned).

His gross profit on the sale of his house is $127,000.

He owes 80% of this or $101,600, under his mortgage contract so that the Government gets the $573,000 and its $100,000 back and $1,600 more.

Smith has had his property written down to a reasonable value and his mortgage therefore becomes valuable in a resale.

Banks and the Government can resell it.

Smith has lived with a new lower payment and still got the tax deduction for interest AND has made a profit on the sale of the home!

Most importantly, Smith is not tempted to hand the keys of the house to the bank because he is upside down in the mortgage.

The bankruptcy/foreclosure process is completely avoided.

There is a very real potential for gain by the government.

Interest and principal on mortgages comes into the Fed Reserve balance sheet NOT from new taxes.

Potential for profit exists on sale of properties.

No new government agencies need to be established.

The Fed will hire the necessary personnel to administer the program. Unemployment declines!

The banking system is unclogged and consumer confidence is restored.

Economic recovery can begin.

Mortgage Workout 3: Benefits to Mortgage Holders under water on the Mortgage

Current law-abiding households who are seeing negative real value of their primary residence will be able to remain in their homes at affordable cost with a potential for some upside appreciation in the value of their property and a participation in the realization of that potential together with Government on sale of their property.
Banks, issuers of mortgages and other mortgage owners will have a value, real and ascertainable, assigned to each and every such distressed mortgage AND they will have, therefore a viable asset to sell to mortgage re-packagers; this frees up capital to lend out on new mortgages under more appropriate terms ( minimum 20% down-payment, 30% max housing cost : household income)
Government gets a real, visible path to recovery of money appropriated to this program, with interest.
Government will be helping citizens who most need help and restoring their confidence in The American Dream.
Government will restore confidence in the banking system worldwide by establishing a system of mortgage valuation and that establishes a valuation methodology that could easily be cloned by private investors and capitalized on by the Financial Services industry worldwide.
Bankers and other lenders will now have a method of assessing the value of collateral offered interbank and lending between institutions, can be reinvigorated.
g. No new government agency needed. FNMA/FHLMC become effective arms of the Federal Reserve who is charged with housing stability as a third mandate.

The result will be a very viable, self-funding solution to the current housing/banking crisis.

Homeowners will see their property values written down to reasonable values.
Mortgages then become easy to value as the underlying properties have a value.
Homeowners have an affordable mortgage payment, freeing up discretionary income for spending on other goods and services.

Most importantly, homeowners will not be tempted to walk away from unaffordable payments, or houses worth less than they owe,
Foreclosure and bankruptcy is avoided completely.

There is a very real potential for gain by the government.
Interest on mortgages comes into the Fed Reserve balance sheet. Potential for profit exists on sale of properties. No new government agencies need to be established.

The banking system is unclogged and consumer confidence is restored. All without requiring additional tax burdens on unborn generations.

Mortgage Workout 2: Funding

FUNDING for this Program: No new taxes.

Congress will authorize Treasury to issue up to $800 billion in 30 year Treasury bonds, at prevailing rates, to implement this program; or the balance of uncommitted TARP funds be used to reduce the amount of extra funding required until $800 billion is allocated to the Federal Reserve Banks for this purpose.

These funds will be placed in a separate segregated Federal Reserve Board administered fund that cannot be invaded by Congress. These funds will be used to purchase mortgages funded by Freddie Mac/Fannie Mae/Federal reserve Banks.

Chairman of Fed to be responsible for disbursement and oversight of the program through FNMA/FHLMC/Federal reserve banks so co-ordination with Monetary policy will be maximized.

Reporting to Congress on program status twice a year.

Mortgage Workout Plan Revised

I first published this plan in this blog on January 20 2009, inauguration day for the new President. Since then the economic crisis has become immeasurably worse in all respects.

It is not arguable that housing prices are down 30%-50% from then; that the US deficit has hit the unprecedented level of $1.5 TRILLION and climbing;that consumer confidence is in the toilet that economic activity worldwide is decling rapidly; that welfare payments are rising to unsustainable levels worldwide;that harsh and punitive tax increases are being threatened in the USA;that the unintended consequences and uncertainties of new legislation are squelching the recovery of profitable, sustainable economic activities.

We face rising unemployment and the very real threat of deflation or what is worse a government induced runaway inflation.

This morning I drew your attention to the shot across the bows of the sinking ship USA fired by China. They are telling us in plain terms that inflating the dollar will not be tolerated. Dont believe for a moment that they have not already cornered a very significant share of gold and stockpiled natural resources and bought up resource and precious metals producers around the world just because they are short of these resources!

Certainly not! The Chinese KNOW that a confrontation with the USA is close.

The first week any Business School student hits the classroom is devoted to learning to correctly diagnose the problem.

Well: the thing that broke the banks in the USA and therefore the world, is mortgage securitazion run amok. The reasons for this are well analysed.

So: It is the DUTY of Government here in the USA, where the unwritten constitutional right to home ownership enshrined for decades in the tax code, to identify the problem, and fix it appropriately.


Home prices must be returned to an upward trajectory.

Here is how to do it:(reprised and updated from January 20 2009)
Tuesday, January 20, 2009

A Mortgage Workout for the People of the USA 1: The Plan

This is a plan to help every citizen of the USA whose current mortgage obligation exceeds the value of their primary home.

Principle no 1: No household should pay a housing cost (mortgage payment: principal + Interest only) that exceeds 30% of their gross income( before any deductions) as reported on their latest Federal Tax Return.

Principle no 2: The Federal Government will refinance through Fannie Mae and Freddie Mac or directly through the Federal Reserve Banks (buy existing mortgage and reissue a new 1st and 2nd mortgage to homeowner) existing mortgages for homeowners who are under water with their mortgage on their primary residences.

Principle no 3: New mortgages issued under this program, based on household ability to pay, will contain a provision that allows FNMA/FHLMC/Fed Reserve Bank to recover, on sale of such re-mortgaged property, 80% of the difference between the nominal value of the new mortgage issued and the then sale price of the property, until full amount of original refinanced mortgage is recovered. These agencies will be allowed to charge a 0.5% fee in addition to 30yr treasury rate to cover cost of implementing program.

Principle no 4: FNMA/FHLMC/Federal reserve Banks will be allowed to continue to repackage these new mortgages in CMO’s etc for resale through traditional resale channels.

Principle no 5: These newly issued mortgages will be transferrable to other citizens who meet the income qualifications to assume these mortgages provided they are to use the purchased home as their PRIMARY RESIDENCE.

The next 3 parts follow.

Treasuries Lack Safety, Liquidity for China, Yu Yongding Says

ALARM! ALARM! - US Government policies are unmasked for the threat they pose to the Wealth of Nations and worldwide stability. Can a war be far behind?

Excerpts from an article that appeared on Bloomberg yesterday. For full article click on headlie above for a direct link to it.

By Bloomberg News Aug 3, 2010 4:06 AM EDT

U.S. Treasuries fail to provide safety or liquidity when it comes to managing China’s $2.45 trillion foreign-exchange reserves, said Yu Yongding, a former central bank adviser.

“I do not think U.S. Treasuries are safe in the medium-and long-run,” Yu, a member of the state-backed Chinese Academy of Social Sciences, wrote yesterday in an e-mailed response to questions. China is unable to sell the securities in a “big way” and a “scary trajectory” of budget deficits and a growing supply of U.S. dollars put their value at risk, he said.

The cost of pegging the Chinese currency to the dollar is “intolerably high” and threatens the welfare of Chinese people, Zhang Ming, deputy chief of the International Finance Research Office at the Chinese Academy of Social Sciences, wrote today on the website of China Finance 40 Forum.

“The U.S. government has strong incentives to reduce its real burden of debt through inflation and dollar devaluation,” he said. “Whichever way it is, the yuan-recorded market value of Treasuries will fall, causing huge capital losses to China’s central bank.”

Wednesday, August 4, 2010

U.S. companies:Healthy balance sheets? They owe $7.2 trillion, the most ever

By Brett Arends
As ever, the truth is someone else's problem and no one's responsibility.

BOSTON -- You may have heard recently that U.S. companies have emerged from the financial crisis in robust health, that they've paid down their debts, rebuilt their balance sheets and are sitting on growing piles of cash they are ready to invest in the economy.
It all sounds wonderful for investors and the U.S. economy. There's just one problem: It's a crock.

American companies are not in robust financial shape. Federal Reserve data show that their debts have been rising, not falling. By some measures, they are now more leveraged than at any time since the Great Depression.

A look at the facts shows that companies only have "record amounts of cash" in the way that Subprime Suzy was flush with cash after that big refi back in 2005. So long as you don't look at the liabilities, the picture looks great.

According to the Federal Reserve, nonfinancial firms borrowed another $289 billion in the first quarter, taking their total domestic debts to $7.2 trillion, the highest level ever. That's up by $1.1 trillion since the first quarter of 2007; it's twice the level seen in the late 1990s.

The debt repayments made during the financial crisis were brief and minimal: tiny amounts, totaling about $100 billion, in the second and fourth quarters of 2009.

Remember that these are the debts for the nonfinancials -- the part of the economy that's supposed to be in better shape. The banks? Everybody knows half of them are the walking dead.

Central bank and Commerce Department data reveal that gross domestic debts of nonfinancial corporations now amount to 50% of GDP. That's a postwar record. In 1945, it was just 20%. Even at the credit-bubble peaks in the late 1980s and 2005-06, it was only around 45%.

The Fed data "underline the poor state of the U.S. private sector's balance sheets," reports financial analyst Andrew Smithers, who's also the author of "Wall Street Revalued: Imperfect Markets and Inept Central Bankers," and chairman of Smithers & Co. in London.

"While this is generally recognized for households," he said, "it is often denied with regard to corporations. These denials are without merit and depend on looking at cash assets and ignoring liabilities. Cash assets have risen recently, in response to the fall in inventories, but nonfinancials' corporate debt, whether measured gross or after netting off bank deposits and other interest-bearing assets, is at peak levels."

By Smithers' analysis, net leverage is nearly 50% of corporate net worth, a modern record.

There is one caveat to this, he noted: It focuses on assets and liabilities of companies within the United States. Some U.S. companies are holding net cash overseas. That may brighten the picture a little, but the overall effect is not enormous, and mostly just affects the biggest companies.

That U.S. companies are in worse financial shape than we're being told is clearly bad news for those thinking of investing in U.S. stocks or bonds, as leverage makes investments riskier. Clearly it's bad news for jobs and the economy.

But why is this line being spun about healthy balance sheets? For the same reason we're told other lies, myths and half-truths: Too many people have a vested interest in spinning, and too few have an interest in the actual picture.

As ever, the truth is someone else's problem and no one's responsibility.

The Fed has few policy choices left

The Fed has few policy choices left in a world where deflationary forces continue to grow and US domestic growth is in trouble. Government stimulus doesn't work and has only weakened the US economy, helping to make monetary policy impotent. Thus, an implicit weak dollar policy may be very high on the Fed's list of tools it has left to use.
The big trigger for a decline in the US dollar last time was the announcement of the Feds' Quantitative Easing program. Stay tuned.

Corporate America is borrowing at record low rates

Corporate America is borrowing at record low rates. U.S. nonfinancial companies have a record $837 billion of cash on their balance sheets. Both are the ingredients for a surge in corporate takeovers. Mix in a healthy helping of Fed's newly affirmed fear the money supply might not grow fast enough, and the long case for stocks looks compelling.

US Treasury yields fall to record low on Fed's 'QE lite' plan

Yields on short-term US Treasury debt have fallen to the lowest in history on mounting expectations of extra stimulus from the Federal Reserve.

Two-year rates fell to 0.52pc after a further batch of grim data hinted at a sharp slowdown in the second half of the year. Factory orders fell 1.2pc in June, while consumer spending fell flat.

The savings rate has risen to a one-year high of 6.4pc as Americans adapt to the new era of austerity and build a safety buffer against unemployment. "Households are repaying debt at a rapid clip," said Gabriel Stein from Lombard Street Research. "With an output gap at around 3pc, the US economy could move into outright deflation in 2011 for the first time since records began."

ADP Employment Change

Economic Calendar

Aug 04 08:15 ADP Employment Change Jul 42K vs a consensus of 25K

Actual refers to the actual figures after their release.
Consensus represents the market consensus estimate for each indicator.

This is news the markets will like. Employment up for July ..this is a huge upward revision from the 13k previously estimated.

Tuesday, August 3, 2010

Fannie and Freddie need fundamental change, another "Entitlement?"

Government-controlled mortgage giants Fannie Mae and Freddie Mac must be subjected to "dramatic" change, but this can't be done quickly while the housing market is still weak, said Treasury Secretary Timothy Geithner. He said the government will always have to provide some support to the mortgage industry to provide "reasonable security that you can borrow to finance a house even in a deep recession."
The Wall Street Journal
Interesting that the Government sees home-ownership support as another "entitlement".

Investors need a better way to reward fund managers

All too often, fund managers collect spectacular fees from investors for doing nothing more than keeping up with the performance of broader equity markets, according to The Economist. A study proposes measuring managers' performance against an "inertia benchmark," comparing returns from a manager's portfolio with those of a manager who does nothing. "Clients would face a lot of opposition if they tried to restrict managers' fees," the magazine notes. "But after a decade of dismal returns it is time for them to act."
The Economist

Inertia benchmark - I love it.

China's trade and investment shield it from shaky developed economies

China is increasingly hedging against weakness in developed economies by weaving a web of business relationships with Asia, the Middle East, Africa and Latin America, economists said. This network of trade and investment is called "the new silk
road" by economists. China's exports to emerging economies jumped from 2% of gross domestic product in 1985 to 9.5% in 2008. Iran is investing in a revival of the silk road to break a U.S.-led effort to isolate its economy.

Monday, August 2, 2010

Banks in "peripheral" Europe face $122 billion in maturing bonds

Italian, Spanish, Irish and Greek banks face high interest charges in rolling over existing debt, even after European regulators concluded that they are in sound condition and ready to ride out another economic downturn. Banks in countries with the region's heaviest debt loads have $122 billion in bonds maturing this year. Bloomberg
Stress Tests? The tests did not solve the funding issue.

Falling home prices could take U.S. back to recession, Greenspan says

"Tragic unemployment" has trapped every part of the U.S. economy except the wealthy, and the weak recovery might turn into a double-dip recession if home prices keep falling, said former Federal Reserve Chairman Alan Greenspan. Asked on NBC's
"Meet the Press" whether a deepening housing crisis will send the U.S. back into recession, Greenspan said, "It is possible, if home prices go down."
Los Angeles Times