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Happy holidays to you and yours from Stoneleigh and Ilargi!
Ilargi: One of the few things that Stoneleigh and I occasionally disagree on -and there really are but a few- is the rate at which real estate prices will decline. I proudly and steadfastly maintain that it will be 80+%, while she insists it will be 90%. Once you do the math, it’s obvious that's no basis for a healthy disagreement. We basically even agree on this one. Bummer!
The reactions to the fact that Stoneleigh mentioned her 90% prediction in her latest interview with Max Keiser are amusing. Not least of all Max' own immediate one, jokingly suggesting the segment may need to end up on the cutting room floor for being too extreme. Mostly, though, I've seen tons of people say that Stoneleigh is a loony doomer who has no idea what she says. Thing is, that would make me a loony doomer as well, and no, you ain't getting away with that one.
Of course we see where people are coming from; no-one who hasn‘t thoroughly thought this through could possibly see an 80-90% drop in home prices, and most who have can't either. However, that's where the Big Picture enters, stage left in five.
What we have been predicting for the past five-odd years is first and foremost a credit crunch and collapse, across the western world. That is, available credit will decrease ever more, until there's hardly any of it left. And that in turn will have grave consequences across economies, including real estate markets.
Our economies run on credit, it's their lifeblood. Take it away, and they will stop running. Not altogether, but to a very large extent. Shipping letters of credit are getting harder to procure; the Baltic Dry Index is once more tumbling as we speak. Nearly everything you find in your stores is bought with credit; if storeowners would have to pay in advance for what they haven't sold yet, they wouldn't be able to.
Now imagine that coming to a grinding halt.
Similarly, real estate purchases practically all involve the use of credit. For anyone to be able to afford a home with the cash they have, home prices will have to come down a lot. Which is precisely what they will do. However, by that time, those among us who do have the cash will think twice before using it to buy a home. Home purchases will never go down to zero, but they can come down a lot. Like prices, purchases can also fall by 90%. there's a solid link between the two. As Becky Barrow reports in the UK Daily Mail:
UK mortgage lending to hit 30-year low in 2011 from a £110 billion-a-year peak down to just £6 billionThe mortgage freeze will continue next year, with net lending expected to slump to its lowest level in 30 years, the Council of Mortgage Lenders warned yesterday. It predicts that net mortgage lending will hit a low of only £6billion, a paltry amount compared with the peak year of 2006 when £110billion was handed out. Net lending is the total amount lent by banks and building societies after subtracting the money paid back by homeowners.[..]
The speed of the meltdown is remarkable. In 2008 – the year of the bail-out of the banks – net lending was £40billion, but the situation has got dramatically worse since then.
In 2009 net lending was £12billion and this year the total is predicted to be £9billion. The CML’s figures, published yesterday, also reveal that last month was the worst November for a decade. Gross mortgage lending, which is the total handed out, was only £11.1billion, the lowest level in the month of November since 2000. This year gross lending is expected to be £135billion. In its peak year of 2007 it was, £363billion.
It is somewhat ironic, even if it should be downright frightening too, that at the same time the British population has stopped taking out mortgage loans almost altogether, their government has stepped up its borrowing with a vengeance. From Hugo Duncan, also at the Daily Mail:
Britain slides further into the red: Monthly borrowing hits record £23.3 billionGeorge Osborne was given a pre-Christmas shock yesterday as Britain dived deeper into the red. Borrowing jumped to a record £23.3billion in November despite the Chancellor’s austerity drive, according to the Office for National Statistics. That is £777million a day and £5.9billion more than in the same month last year.[..]
A collapse in confidence in Britain’s ability to tackle the deficit could send the economy into another tailspin. The Government has borrowed £104.4billion in the first eight months of the fiscal year – only just below the £105.1billion this time last year. City economist 155billion in 2010-11 – less than the record £156billion deficit racked up by Labour but more than the £148.5billion planned by the Chancellor.
Andrew Goodwin, senior economic advisor to the Ernst & Young Item Club, said: ‘These figures really are a bolt from the blue and will ensure a miserable Christmas for the Treasury. ‘The November figures pretty much wipe out all of this year’s reduction in one fell swoop. ‘It will provide more fuel for the sceptics who question whether the Government can really achieve the scale of public spending cuts that it plans.’ The national debt rose to £971billion at the end of November, or 65.2 per cent of gross domestic product, another unwanted record.
Debt interest payments jumped from £3billion in November last year to £4.5billion this year – or £150million a day. State spending last month was more than 10 per cent higher than November 2009 at £53.9billion, while tax revenues were up just 3 per cent at £36.7 billion. The Government has outlined an £81billion package of public sector spending cuts to reduce borrowing to £35billion in 2014-15.
Ilargi: Like so many other countries, Britain tries frantically to avoid the inevitable looming credit disaster. Not that you would know it for listening to the local politicians:
The Prime Minister insisted the coalition was on a ‘rescue mission’ after Labour ran up the UK’s biggest ever deficit. ‘I don’t think that’s an exaggeration,’ said David Cameron. ‘Just look at what’s happened in Ireland, Greece and southern Europe. Just eight months ago, we were on a similar track.
‘Make no mistake, the country was in the danger zone and it has taken this coalition making difficult decisions to pull us out of that danger zone.’ Mr Cameron also insisted Britain’s AAA credit rating was safe, interest rates were down and ‘confidence is being restored’.
Ilargi: Still, with a braindead housing market (check), severe austerity measures (check) and a government that's plunging itself into debt so deep it has to fear international bond markets (check), it's safe to say that Britain is very much mired in that danger zone.
In the US, Jason Philyaw at Housing Wire writes:
US mortgage applications down 18.6% last weekMortgage application volume continues to decline with a huge drop last week, as interest rates remain on an upward swing and demand for refinancings plummets. The Mortgage Bankers Association said its market composite index decreased 18.6% for the week ended Dec. 17 on a seasonally adjusted basis. Unadjusted, the index fell 20% from the prior week.
Refinancing applications have decreased for six consecutive weeks and volume is at the lowest point since the end of April after another 24.6% drop last week. The seasonally adjusted purchase index fell 2.5% last week. The unadjusted purchase index declined 4.9% and was 8.4% lower than a year earlier.
Ilargi: Optimists may try to claim that maybe we have scaled the worst of the downturn; a net lending fall from £110 billion to £6 billion in Britain could certainly make one wonder how much worse it can get. Well, home prices haven't really come down in Britain. Or Canada. Or Holland. And they will do so. The British example of falling net lending in the private sector combined with fast rising public lending should serve as a warning sign to every western country.
I know what many will say: the US has managed to stave off the worst so far, and at first glance that may appear correct. Still, just a scant few seem to realize at what price that has been achieved.
Huge efforts and vast sums of money are spent to keep the stock markets looking healthy (Stocks flirt with pre-Lehman crash levels, says the headline). After all, that's where everyone will look first for signs of either downfall or recovery. However, the financial sector, just to name an example, is very prominent in those markets. And the financial sector is dead and gone if and when home prices start falling in earnest. Most of the sector would already have died without the trillions in public money that were squandered on it by politicians convinced that supporting the banks is either the best for their countries or for their own political careers, whichever comes first.
The levels of exposure to real estate debt for banks in any major western country are at best unhealthy. In Canada, it's 50%; in other countries, it can't be much lower. it's where the easy money has been in the first decade of this millennium, which we're about to close. It might be a bit less in a country like Germany, when it comes to domestic real estate, but German banks have jumped in all over southern Europe, so that's no consolation either.
Exposure to direct mortgage debt is one thing. Exposure to the securities and other derivatives written on that debt is quite another thing yet. And a much bigger thing to boot.
Mark-to-market accounting has been suspended indefinitely for now. That's the main reason things still seem "normal" around us. The idea behind what replaced it, mark-to-whatever accounting, is that all the paper that can today not be sold for more than pennies will someday be worth a dollar again, or even more. For that to happen, though, home prices would have to either rise or at least stabilize. And for that to happen, in turn, banks would have to start lending again, and people to borrow.
The British example of a 30-year low in mortgage lending says that's highly unlikely. Since UK home prices have hardly come down at all, while they rose like crazy for much of the past decade, it shouldn't be too difficult to figure where British home prices are headed. And if nobody is either able or willing to take out mortgages, prices must come down. It then becomes simply a matter of price discovery.
As long as everyone just stays put, and nobody dies, pretense can go a long way. But if people do move, or pass on, and homes need to be sold, they will sell at increasingly lower prices. You can't sell unless you have a buyer, and there's very few of those left. Even if most western nations have swallowed up large swaths of mortgage debt and risk from their banks. Even if Fannie Mae and Freddie Mac threaten to eat the US economy whole with their present debt and leverage levels even today, let alone with adding additional commitments going forward.
There is one factor that outplays all others when it comes to the real estate market: employment. In Britain, "official" unemployment stands presently at some 8%, with youth unemployment at 20%. In Spain, overall unemployment is 20%.
In the US, the picture is deliberately kept as murky as possible. Official U3 unemployment is at 9.8%, but when tens if not hundreds of thousands of workers every single month are moved into the "no longer in the workforce" category, following the U6 number, which is 17-18%, might paint a more truthful picture.
The problem that emerges form this is that even if the banks would be willing and able to lend, which they're not and they won't be because they're broke, and therefore dead without incessant infusions of public funds, there still would be a severe housing crisis, simply because the pool of borrowers has been diminished below the level that could potentially keep “healthy" borrowing numbers intact. And don't forget that, moreover, a growing part of the working population greets you at Wal-Mart or flips your burgers at Wendy's, and those folks too, along with the jobless, are out of the real estate market for a long time to come, if not forever.
In Canada, 20% of GDP is construction related. It can't possibly be much less in the UK or US. In Spain, it was even higher until recently. And you can't take 10-15% or more out of an economy that already struggles and not feel a sharp pain. Moreover, you will see a snowball effect. Less real estate purchases, less jobs in construction, in banking, and eventually at those sectors that catered to them. Which leads to less real estate purchases, and so forth.
This can't go on forever. You live on the money your governments have borrowed from your own children (90% of which went to the banking sector to begin with). Now, I don't know how many children you already have or are planning for, but there will be a perceived limit to what your offspring can service in debt, and when we cross that limit, the international financial markets will either make us stop it altogether or force us to pay interest rates we can't afford.
That is to say, borrowing from ourselves to keep our illusion alive of a "normal" life must and will stop. That will lead both to major jumps in unemployment, and, as stated above, that in turn will lead to even worse housing markets.
This is inevitable. We must come off our credit "sugar" high, and we can't do that by applying more credit. That will mean scores of jobs created by that sugar high will disappear as well. The jobs that were not have all been moved elsewhere in the world. No healthy job market, no healthy housing market. Period.
So when do we see this come to fruition? Well, price discovery in a housing market, which is always prone to inertia, since people can stay put and fool themselves about the true value of their homes, can take a while to develop. But it will come. US banks will at some point need to offload foreclosed properties, They play a delicate game between the marked-to-whatever value they carry the homes for in their books, which makes them appear solvent, even as they get no income from the homes, and, on the other hand, getting that income. Banks are desperate for cash-flow, but for now, who cares if the Fed provides cash at 0.0078%?
The way we at The Automatic Earth see it play out is that the entire house of cards will fall within 2-5 years, and, within that timeframe, sooner rather than later. While there can be any number of inside and outside factors that can speed it up, we see practically none left that could slow it down. Of course there can be people in a few years time who claim by hell and high water that their homes are still worth $500,000, but they will have neighbors who sold for $100,000, $50,000 or less. Price discovery can be in the eye of the beholder, until you must urgently sell.
There are people in many countries and regions who feel that their particular place is different, and they do so for a variety of reasons. But nine out of ten of them are wrong. Even in China and Brazil, which today look to be relatively healthy economies, the western credit collapse will cause unequalled mayhem. Russia may fare a little better, but only for the richest part of its population; then again, that will be true around the globe.
For the remaining 99% of the population, the combination of deleveraging and depression, a double barrel that guarantees a self-reinforcing positive feedback loop, will be gruesome and cruel.
People have complained about the fact that we have warned last year about what 2010 would bring, pointing at the stock markets, which appear just fine and normal. But, as we've always maintained, it's better to be a year early than a few minutes late, and moreover, if you look at the numbers of foreclosures and long-term unemployed, and the number of Americans who are on foodstamps today (1 in 7), maybe it's time to realize that what we think of as normal is something we left behind years ago. Even to ponder that from the very beginning of this now closing decade, with the huge run-up in real estate prices through out the western world, things have never really been normal.
It's perhaps just that when you can go out and buy homes and cars on credit, and iPod and iPads for Christmas, it is mighty tempting for the fickle human brain to see that as "normal". Meanwhile, your home values will return to what they were in, say, the 1970's, or even before that. It might be a better idea to see that as "normal". Then again, prospects for economic growth were much better back then. Maybe try 1950.
The human brain is lousy with diminishing returns and receding horizons. It excels at perpetual growth. Great at the impossible, bad at reality. So bad we'd rather invent our own reality than face the one we must face. Until we can't. In the end, what we'll be left with is a small group of rich people buying up real estate for pennies on the dollar. Which is of course no different from what happened in the 1930's.
Nothing new, nothing special there. What we fear will be new and special is the degree to which we will see our economies and societies crumble; there are precious few signs that it will be better, let alone different, this time. And that's why the only disagreement Stoneleigh and I have is between an 80+% and a 90% decline in home prices. Across the western world. On average.
The Tax-Payers' Tab: a Cool $9 Trillion and Then Some
by Pam Martens - Counterpunch
December 1, the Fed was forced to release details of 21,000 funding transactions it made during the financial crisis, naming names and dollar amounts. Disclosure was due to a provision sparked by Senator Bernie Sanders of Vermont. The voluminous data dump from the notoriously secret Fed shows just how deeply the Federal Reserve stepped into the shoes of Wall Street and, as the crisis grew and the normal channels of lending froze, the Fed effectively replaced Wall Street and money centers banks in terms of financing.
The Fed has thus far reported, without even disclosing specifics of its lending from its discount window, which it continues to draw a dark curtain around, that it supplied, in total, more than $9 trillion to Wall Street firms, commercial banks, foreign banks, corporations and some highly questionable off balance sheet entities. (Much smaller amounts were outstanding at any one time.)
A careful review of these data makes it highly likely the GAO will be releasing some startling findings come next July 2011. That’s when the American people will have a much clearer picture of how the Federal Reserve shoveled taxpayer money to Wall Street by the trillions. As a result of Senator Sanders’ legislative efforts, the Government Accountability Office (GAO) is to complete an audit by next summer of the Fed’s lending programs during the financial crisis.
The data starkly show a comatose Wall Street being resuscitated with whatever financial might the Federal Reserve could pump into its tangled web of funding vehicles. It also points to how the Fed was dispersing sums which dwarfed the U.S. Treasury’s $700 billion TARP (Troubled Asset Relief Program) bailout program while allowing the TARP to take the media heat for obscene funding of Wall Street.
The Fed has made the task of seeing the big picture of what it was up to exceptionally difficult by segregating its multi-prong funding into a dizzying array of spread sheets. Nonetheless, a few things jump off the pages.
On the spread sheet for the Primary Dealer Credit Facility (a program to provide overnight loans to key brokerage firms, known as primary dealers because they assist the Fed in open market operations) are astronomical sums that Citigroup, Morgan Stanley and Merrill Lynch were drawing from the Fed on a regular basis from the Spring of 2008 to the Spring of 2009 (and potentially well beyond).
The three firms borrowed almost equal sums which cumulatively totaled over $6 trillion, and that does not include their borrowing from other Fed facilities . In its current release the Fed cut off these data as of May 12, 2009 while the program lasted until February 1, 2010, making the full extent of this funding unknown at present. Calls to the Fed on this point had not been answered at CounterPunch’s press time.
Citigroup owns one of the largest commercial banks in the country, Citibank. One could reason that the bank’s solvency had come under serious question at that time and it needed massive liquidity to meet depositor withdrawals from its bank as well as to fund its $2 trillion balance sheet (with another $1 trillion in off-balance-sheet vehicles).
Why Morgan Stanley and Merrill Lynch, which are large investment banks and retail brokerage firms, needed funds of this magnitude raises many questions.
Runs on banks, which invest depositor funds in illiquid assets like real estate and corporate loans, are typically met with a government liquidity response. Brokerage firms, on the other hand, hold stocks and bonds which can typically be sold in seconds with the proceeds "settling" (available to pay out) 3 business days later.
Liquidity problems were likely aggravated at Morgan Stanley and Merrill Lynch because they each cater to both institutional clients and retail mom and pop investors. While the mom and pop accounts should have had little trouble cashing out of most stocks, municipal bonds and well known corporate bonds, less liquid securities in institutional accounts may have found their markets frozen for trading and needed interim financing -- this may have included problematic commercial paper positions in some money market funds used by the big brokerage firms for both retail and institutional clients.
This mystery is further intensified by one Fed spread sheet showing that the largest Wall Street firms deposited a total of $2.1 trillion in stocks as collateral in order to obtain liquid funds from the Fed. Depositing stocks as collateral began on the day Lehman died and was done in large size by Lehman Brothers, Morgan Stanley, Merrill Lynch, and Citigroup. Raising additional red flags, tens of billions of dollars in stocks were posted as collateral by the London operations of Morgan, Merrill and Citi.
Was this publicly traded stock from the firms’ proprietary trading desks, otherwise known as the in-house casino? Was it illiquid private equity in which the firms had their money tied up? Was it equity tranches from the dubious Collateralized Debt Obligations (CDOs)? If it was either of the latter, how could it have been properly priced as collateral? The Fed describes the equity as follows: "Securities representing ownership interest in a private corporation…." Without knowing the details of these securities, or the other unspecified junk bonds used as collateral, we don’t know the extent of the trash the Fed was swapping for cash with Wall Street.
Merrill Lynch was rescued in a buyout by Bank of America on September 15, 2008, the same day that Lehman Brothers filed bankruptcy.
The Fed risking $9 trillion of taxpayer money to bail out positions of dubious worth is highlighted further in the spread sheet for the Commercial Paper Funding Facility, which loaned $38 billion more than TARP, or a total of $738 billion to fund not just U.S. corporations but foreign banks as well, potentially because they were ensnarled in Wall Street’s off-balance-sheet funding schemes. Most alarming, a significant portion of this went to conduits that hide liabilities of Wall Street firms off their balance sheets, leaving Wall Street short of capital for emergencies just like this one, and shareholders in the dark about the true risk of the company’s balance sheet.
The Commercial Paper Funding Facility was announced by the Fed on October 7, 2008, 3 weeks after Lehman Brothers filed for bankruptcy. Its first funding day was October 27, 2008 and its last funding day was January 25, 2010. One of the borrowers on both its first day and last day of funding and many days in between was an entity called Hudson Castle, whose cumulative borrowings were over $50 billion from the Fed for commercial paper it sponsored for three off-balance-sheet conduits: Belmont Funding LLC, Ebbets Funding LLC, and Elysian Funding LLC.
On April 12 of this year, Louise Story and Eric Dash, writing for the New York Times, reported that while Hudson Castle was set up to appear to be an independent business, its board was controlled by Lehman; Lehman owned a quarter of the firm; and it was staffed with former Lehman employees. The reporters had gotten their hands on an internal 2001 Lehman memo indicating that the arrangement would maximize Lehman’s control over Hudson Castle "without jeopardizing the off-balance-sheet accounting treatment."
The memo noted further that Lehman would serve "as the internal and external ‘gatekeeper’ for all business activities conducted by the firm." The internal document was authored by Kyle Miller, who worked at Lehman at the time but went over to Hudson Castle to become its president. According to the article, until 2004, Lehman had an exclusivity agreement with Hudson Castle, but the deal ended in 2004, with Lehman reducing its board seats from five to one.
Lehman was far from alone in having employees leave to set up conduits which conveniently benefited their former Wall Street employer by moving debt off the balance sheet. It was the norm, not the exception. A July 2010 staff report from the Federal Reserve Bank of New York, titled "Shadow Banking," noted the following about the shadow system in which conduits played a significant role:"The liquidity facilities of the Federal Reserve and other government agencies’ guarantee schemes were a direct response to the liquidity and capital shortfalls of shadow banks and, effectively, provided either a backstop to credit intermediation by the shadow banking system or to traditional banks for the exposure to shadow banks….
"…this [shadow banking] system of public and private market participants has evolved and grown to a gross size of nearly $20 trillion in March 2008, which was significantly larger than the liabilities of the traditional banking system. However, market participants as well as regulators failed to synthesize the rich detail of otherwise publicly available information on either the scale of the shadow banking system or its interconnectedness with the traditional banking system…At a size of roughly $16 trillion in the first quarter of 2010, the shadow banking system remains an important, albeit shrinking source of credit for the real economy…"
In other words, the leverage in the system was not coming just from mortgage securitizations and esoteric derivatives but from off-balance-sheet debt parking schemes quite similar to that used by Enron. On May 6 of this year, Viral Acharya, a Professor of Finance at NYU’s Stern School of Business, gave enlightening testimony on conduits to the House Committee on Financial Services’ Subcommittee on Oversight and Investigations. Professor Acharya reported as follows:"Our analysis makes it clear that from an economic standpoint conduits are ‘unregulated’ banks that operate in the shadow banking world, but with recourse to regulated entities, mainly commercial banks, that have access to government safety net. Our results also indicate that when these unregulated banks do not have such recourse (extendible notes and SIVs), they struggle to survive a systemic crisis…In particular, the structure of credit guarantees to asset-backed commercial paper conduits was designed by commercial banks to arbitrage regulatory capital requirements. Such possibilities – whereby government-insured banks effectively operate at higher leverage by putting assets off-balance sheet but granting them recourse – deserve regulatory scrutiny, especially when they operate at a scale that conduits did."
Because asset-backed commercial paper is short term in duration with typically long-term assets, commercial banks like Citigroup (which is one of the largest players in the conduit field) provide liquidity guarantees to make the commercial paper investor whole if the paper can’t be rolled over at maturity.
With Citigroup’s solvency in serious doubt at the peak of the financial crisis, its tentacles of backstopping conduits and issuing boatloads of commercial paper itself is likely to have played a pivotal role in seizing up this market. This might explain why we see corporate names like McDonalds, Caterpillar and Harley-Davidson selling commercial paper directly to the Fed according to the spreadsheets released on December 1.
With Citigroup having such a large presence in the conduit market, it strains the imagination how Citigroup’s former top executives, CEO Chuck Prince and Executive Committee Chair, Robert Rubin, could have testified to the Financial Crisis Inquiry Commission on April 8 of this year that they had no idea until months into the crisis that Structured Investment Vehicles (SIVs) created by Citigroup and roosting off its balance sheet had liquidity puts that could, and did, force billions of the toxic assets back onto the bank’s balance sheet.
SIVs are first cousins to conduits but typically have more leverage. Citigroup’s SIVs were shielding subprime debt instruments from being reflected on its balance sheet but were forced back on when they became impaired, leading to staggering losses for the bank.
It appears that what was essentially taking place in the Commercial Paper Funding Facility at the Fed was that the taxpayer stood in for the liquidity puts the Wall Street banks had no money to backstop.
Another well kept secret is that much of the commercial paper backed by dubious "assets" and housed in conduits regularly found its way into both retail and institutional money market funds. Those funds are supposed to be the safest of the safe and available to redeem at any time without a loss (or never breaking a buck in Street parlance).
The Fed’s buck shot approach to spewing money at banks, brokerages, corporations, across the pond, and into the hands of questionable entities, may have been as much to save money market funds from a panic run as to save the Wall Street banks. Let us hope the GAO conducts a thorough investigation in this area.
Whether it was Credit Default Swaps or Collateralized Debt Obligations squared or conduits or SIVs, two words emerge from the hubris: leverage and greed. By leveraging the balance sheet, upper management could lay claim to massive compensation and bonuses.
This picture is encapsulated by an introductory comment by Phil Angelides, Chair of the Financial Crisis Inquiry Commission, at the outset of a hearing on Citigroup on April 8, 2010:Chairman Angelides: Really, for the benefit of people watching today, it appears as though that there are about 51 billion dollars in write-offs related to subprime lending. The institution, as I understand it, is one that went from about 670 billion dollars in assets in about 1998 to 2.2 trillion dollars on balance sheet, another 1.2 trillion dollars off-balance sheet by 2007. By 2008, the tangible common equity-to-assets ratio we estimate at 61 to 1, with off-balance-sheet 97 to 1.
It takes only reading comprehension skills and zero Wall Street experience to read the above paragraph and know that this firm would blow up. How did Robert Rubin, former co-chair of Goldman Sachs and former U.S. Treasury Secretary, not see this at Citigroup. Mr. Rubin received over $125 million in compensation at Citigroup. Sandy Weill, the man who built the behemoth and its far flung network of dysfunctional parts and served as its CEO, received over $1 billion. The taxpayer received the tab.
Alabama Town’s Failed Pension Is a Warning to Cities and States
by Michael Cooper and Mary Williams Walsh - New York Times
Prichard, Alabama — This struggling small city on the outskirts of Mobile was warned for years that if it did nothing, its pension fund would run out of money by 2009. Right on schedule, its fund ran dry. Then Prichard did something that pension experts say they have never seen before: it stopped sending monthly pension checks to its 150 retired workers, breaking a state law requiring it to pay its promised retirement benefits in full.
Since then, Nettie Banks, 68, a retired Prichard police and fire dispatcher, has filed for bankruptcy. Alfred Arnold, a 66-year-old retired fire captain, has gone back to work as a shopping mall security guard to try to keep his house. Eddie Ragland, 59, a retired police captain, accepted help from colleagues, bake sales and collection jars after he was shot by a robber, leaving him badly wounded and unable to get to his new job as a police officer at the regional airport.
Far worse was the retired fire marshal who died in June. Like many of the others, he was too young to collect Social Security. “When they found him, he had no electricity and no running water in his house,” said David Anders, 58, a retired district fire chief. “He was a proud enough man that he wouldn’t accept help.”
The situation in Prichard is extremely unusual — the city has sought bankruptcy protection twice — but it proves that the unthinkable can, in fact, sometimes happen. And it stands as a warning to cities like Philadelphia and states like Illinois, whose pension funds are under great strain: if nothing changes, the money eventually does run out, and when that happens, misery and turmoil follow.
It is not just the pensioners who suffer when a pension fund runs dry. If a city tried to follow the law and pay its pensioners with money from its annual operating budget, it would probably have to adopt large tax increases, or make huge service cuts, to come up with the money. Current city workers could find themselves paying into a pension plan that will not be there for their own retirements. In Prichard, some older workers have delayed retiring, since they cannot afford to give up their paychecks if no pension checks will follow.
So the declining, little-known city of Prichard is now attracting the attention of bankruptcy lawyers, labor leaders, municipal credit analysts and local officials from across the country. They want to see if the situation in Prichard, like the continuing bankruptcy of Vallejo, Calif., ultimately creates a legal precedent on whether distressed cities can legally cut or reduce their pensions, and if so, how.
“Prichard is the future,” said Michael Aguirre, the former San Diego city attorney, who has called for San Diego to declare bankruptcy and restructure its own outsize pension obligations. “We’re all on the same conveyor belt. Prichard is just a little further down the road.”
Many cities and states are struggling to keep their pension plans adequately funded, with varying success. New York City plans to put $8.3 billion into its pension fund next year, twice what it paid five years ago. Maryland is considering a proposal to raise the retirement age to 62 for all public workers with fewer than five years of service. Illinois keeps borrowing money to invest in its pension funds, gambling that the funds’ investments will earn enough to pay back the debt with interest. New Jersey simply decided not to pay the $3.1 billion that was due its pension plan this year.
Colorado, Minnesota and South Dakota have all taken the unusual step of reducing the benefits they pay their current retirees by cutting cost-of-living increases; retirees in all three states are suing.
No state or city wants to wind up like Prichard. Driving down Wilson Avenue here — a bleak stretch of shuttered storefronts, with pawn shops and beauty parlors that operate behind barred windows and signs warning of guard dogs — it is hard to see vestiges of the Prichard that was a boom town until the 1960s. The city once had thriving department stores, two theaters and even a zoo. “You couldn’t find a place to park in that city,” recalled Kenneth G. Turner, a retired paramedic whose grandfather pushed for the city’s incorporation in 1925.
The city’s rapid decline began in the 1970s. The growth of other suburbs, white flight and then middle-class flight all took their tolls, and the city’s population shrank by 40 percent to about 27,000 today, from its peak of 45,000. As people left, the city’s tax base dwindled.
Prichard’s pension plan was established by state law during the good times, in 1956, to supplement Social Security. By the standard of other public pension plans, and the six-figure pensions that draw outrage in places like California and New Jersey, it is not especially rich. Its biggest pension came to about $39,000 a year, for a retired fire chief with many years of service. The average retiree got around $12,000 a year. But the plan allowed workers to retire young, in their 50s. And its benefits were sweetened over time by the state legislature, which did not pay for the added benefits.
For many years, the city — like many other cities and states today — knew that its pension plan was underfunded. As recently as 2004, the city hired an actuary, who reported that “the plan is projected to exhaust the assets around 2009, at which time benefits will need to be paid directly from the city’s annual finances.”
The city had already taken the unusual step of reducing pension benefits by 8.5 percent for current retirees, after it declared bankruptcy in 1999, yielding to years of dwindling money, mismanagement and corruption. (A previous mayor was removed from office and found guilty of neglect of duty.) The city paid off its last creditors from the bankruptcy in 2007. But its current mayor, Ronald K. Davis, never complied with an order from the bankruptcy court to begin paying $16.5 million into the pension fund to reduce its shortfall.
A lawyer representing the city, R. Scott Williams, said that the city simply did not have the money. “The reality for Prichard is that if you took money to build the pension up, who’s going to pay the garbage man?” he asked. “Who’s going to pay to run the police department? Who’s going to pay the bill for the street lights? There’s only so much money to go around.”
Workers paid 5.5 percent of their salaries into the pension fund, and the city paid 10.5 percent. But the fund paid out more money than it took in, and by September 2009 there was no longer enough left in the fund to send out the $150,000 worth of monthly checks owed to the retirees. The city stopped paying its pensions. And no one stepped in to enforce the law.
The retirees, who were not unionized, sued. The city tried to block their suit by declaring bankruptcy, but a judge denied the request. The city is appealing. The retirees filed another suit, asking the city to pay at least some of the benefits they are owed. A mediation effort is expected to begin soon. Many retirees say they would accept reduced benefits.
Companies with pension plans are required by federal law to put money behind their promises years in advance, and the government can impose punitive taxes on those that fail to do so, or in some cases even seize their pension funds. Companies are also required to protect their pension assets. So if a corporate pension fund falls below 60 cents’ worth of assets for every dollar of benefits owed, workers can no longer accrue additional benefits. (Prichard was down to just 33 cents on the dollar in 2003.)
And if a company goes bankrupt, the federal government can take over its pension plan and see that its retirees receive their benefits. Although some retirees receive less than they were promised, no retiree from a federally insured plan in the private sector has come away empty-handed since the federal pension law was enacted in 1974. The law does not cover public sector workers.
Last week several dozen retirees — one using a wheelchair, some with canes — attended the weekly City Council meeting, asking for something before Christmas. Mary Berg, 61, a former assistant city clerk whose mother was once the city’s zookeeper, read them the names of 11 retirees who had died since the checks stopped coming. “I hope that on Christmas morning, when you are with your families around your Christmas trees, that you remember that most of the retirees will not be opening presents with their families,” she told them.
The budget did not move forward. Mayor Davis was out of town. “Merry Christmas!” shouted a man from the back row of the folding chairs. The retirees filed out. One woman could not hold back her tears. After the meeting, Troy Ephriam, a council member who became chairman of the pension fund when it was nearly broke, sat in his office and recalled some of the failed efforts to put more money into the pension fund.
“I think the biggest disappointment I have is that there was not a strong enough effort to put something in there,” he said. “And that’s the reason that it’s hard for me to look these people in the face: because I’m not certain we really gave our all to prevent this.”
1 in 7 Americans rely on food stamps
by Aaron Smith, CNN
The use of food stamps has increased dramatically in the U.S., as the federal government ramps up basic assistance to meet the demands of an increasingly desperate population.The number of food stamp recipients increased 16% over last year. This means that 14% of the population is now living on food stamps. That's about 43 million people, or about one out of every seven Americans.
In some states, like Tennessee, Mississippi, New Mexico and Oregon, one in five people are receiving food stamps. Washington, D.C. leads the nation, with 21.5% of the population on food stamps. "The high unemployment rate caused the high participation rate," said Dottie Rosenbaum from the Center for Budget and Policy Priorities, a think tank.
But it's not just the nation's stubbornly high unemployment rate of 9.8% that's driving the increase in food stamp use. Some states are expanding their definitions of poverty to include more people. At the same time, the 2009 American Recovery and Reinvestment Act boosted annual funding to the nationwide food stamp program, known as the Supplemental Nutrition Assistance Program, by $10 billion. The average recipient receives $133 in food stamps per month, according to the U.S. Department of Agriculture. That amount varies from state to state; in Hawaii the average is $216, while it's $116 in Wisconsin.
But the Recovery Act funding increased the maximum food stamp benefit by 13.6%, which translates to about $20-24 dollars per person per month. The U.S. government considers food stamps to be effective stimulus for the economy, because the recipients usually spend them right away. Idaho saw the biggest increase in its food stamp program, with a spike of 39% compared to last year, followed by Nevada, at 29%, and New Jersey, at 27%.
New Jersey's food stamp program expanded at least in part because the state raised its poverty level in April, according to Nicole Brossoie of the state Department of Human Services. That let the state add 35,000 people to its food stamp rolls, an increase of 5%. Also, Brossoie said that program has been made more accessible to poverty-stricken residents. "Through newsletters, posters, counseling and other outreach, the stigma associated with food stamps has diminished and more individuals and families are seeking assistance," she said.
What happens when the jobless give up?
The government is also beefing up unemployment benefits. The unemployed will get a 13-month extension to file for additional unemployment benefits, which can last as long as 99 weeks in states hit hardest by job loss. As the job market continues to dog the economy, the increase in food stamp funding is set to remain in place for nearly three years.
Dottie Rosenbaum said the hike in food stamp benefits is set to expire Nov. 1, 2013. Typically, food stamp funding increases every year to match inflation. But if Congress does not extend the stimulus funding beyond the 2013 cutoff, then food stamp benefits will revert to their original levels, but still be adjusted for inflation. She said the budget office is forecasting a potential drop of $49 a month in food stamp benefits for a family of three, or $59 for a family of four, if the stimulus program is not continued.
President Obama, while signing a child nutrition bill on Dec. 13, said he was working with members of Congress to extend the food stamp funding.
Homeless Families In America Increase By 9% in 2010
by Huffington Post
Released Tuesday, the U.S. Conference of Mayors 2010 Status Report on Hunger & Homelessness in American Cities -- in their annual assessment of 26 American cities -- has tallied a 9 percent overall increase in the number of homeless families in the U.S in the past year. Fifty-eight percent of the cities analyzed showed an increase in family homelessness. Based on this survey, on an average night, 1,105 family members are on the streets, 10,926 find refuge in an emergency shelter, and 15,255 stay in transitional homes.
Trapped in this deteriorating economy, low-income families find themselves stuck in financial sinking sand and, though they have work, must move out of their homes, and onto the streets because of low wages. Peggy Rivera, the Oxnard Commission on Homelessness' chairwoman, spoke with the Ventura County Star about the homeless families in their city:We have whole families that have lost their homes and don't have the credit rating to get into another apartment and don't have the savings to afford first- and last-month rent payments.
These are working families. They just don't have the resources to put a roof over their head.
Another report conducted this winter by the Working Poor Families Project found that in 2009, "forty-five million people, including 22 million children, lived in low-income working families" -- a population distressed over the past year.
Maria Foscarinis, executive director for the National Law Center on Homelessness & Poverty, spoke with the Huffington Post on the rise in family homelessness spelled out in the report. "Many of these folks are children. That means a lot of kids are experiencing homelessness, and that can be very devastating for them in terms of impact on their mental health," she says. "It can have an impact on their schooling. That can affect their long-term ability to be employed in a meaningful way. "We're really worried about the prospects for the future."
Take the Correa family of Sarasota County; their story is familiar to many. Gabriel Correa -- father of four -- spoke with the Herald Tribune about his temporary job:When I am working, we can survive, but when I can't find work, it is a battle.
Before the recession, Correa and his wife, Maria Alarcon, were able to make ends meet and provide for their children. Without consistent and decent-paying work, Correa finds it hard to keep a roof over their heads. Seventy-nine percent of the households with children accounted for in the U.S. Conference of Mayors Report claimed that the main cause was unemployment, and 72 percent declared lack of affordable housing. Among other causes claimed by these families ( i.e. poverty and domestic violence), low paying jobs was mentioned as the main cause by one fifth of the population surveyed.
Homeless shelters will soon become overcrowded with the advancing winter weather. More and more families are losing their homes. The Salvation Army asks that you sponsor a family this Christmas through their Adopt-a-Family Program. Common Ground, a nationwide organization working to end homelessness and re-house families, asks you to "Sponsor a Home" and help supply their apartments with the necessities families require to get back on track. You can also contact your local shelters and transition homes to find out specific ways you can lend a hand to the homeless families near you.
US Government Liabilities Rose $2 Trillion In Fiscal Year 2010
by David Lawder, Chizu Nomiyama - Reuters
The U.S. government fell deeper into the red in fiscal 2010 with net liabilities swelling more than $2 trillion as commitments on government debt and federal benefits rose, a U.S. Treasury report showed on Tuesday.
The Financial Report of the United States, which applies corporate-style accrual accounting methods to Washington, showed the government's liabilities exceeded assets by $13.473 trillion. That compared with a $11.456 trillion gap a year earlier. Unlike the normal measurement of government intake of receipts against cash outlays, accrual accounting measures costs such as interest on the debt and federal benefits payable when they are incurred, not when funds are actually disbursed.
The report was instituted under former Treasury Secretary Paul O'Neill, the first Treasury secretary in the George W. Bush administration, to illustrate the mounting liabilities of government entitlement programs like Medicare, Medicaid and Social Security. The government's net operating cost, or deficit, in the report grew to $2.080 trillion for the year ended September 30 from $1.253 trillion the prior year as spending and liabilities increased for social programs. Actual and anticipated revenues were roughly unchanged.
The cash budget deficit narrowed in fiscal 2010 to $1.294 trillion from $1.417 trillion in 2009. But the $858 billion tax cut extension package enacted last week is expected to keep the deficit well above the $1 trillion mark for another year.
Budget Cut Debate
The latest Treasury report should fuel debate in Congress over spending cuts next year as a new Republican majority in the House of Representatives takes office. The U.S. Senate on Tuesday approved a compromise bill to fund the government until March 4, 2011. After that, Republicans will have the chance to push through dramatic budget cuts.
"Today, we must balance our efforts to accelerate economic recovery and job growth in the near term with continued efforts to address the challenges posed by the long-term deficit outlook," Treasury Secretary Timothy Geithner said in a letter accompanying the report. "The administration's top priority remains restoring good jobs to American workers and accelerating the pace of economic recovery."
Among key differences between the operating deficit and the cash deficit were sharp increases in costs accrued for veterans' compensation, government and military employee benefits and anticipated losses at mortgage finance giants Fannie Mae and Freddie Mac. The biggest increase in net liabilities in fiscal 2010 stemmed from a $1.477 trillion increase in federal debt repayment and interest obligations, largely to finance programs to stabilize the economy and pull it out of recession.
The federal balance sheet liabilities do not include long-term projections for social programs such as Medicare, Medicaid and Social Security, but these showed a positive improvement. The report said the present value of future net expenditures for those now eligible to participate in these programs over the next 75 years declined to $43.058 trillion from $52.145 trillion a year ago -- a change attributed to the enactment of health-care reform legislation aimed at boosting coverage and limiting long-term cost growth.
The overall projection, including for those under 15 years of age and not yet born, is much rosier, with the 75-year projected cost falling to $30.857 trillion from last year's projection of $43.878 trillion. The report noted, however, that there was "uncertainty about whether the projected reductions in health care cost growth will be fully achieved."
Drama needed to jolt Americans into tackling debt
by Gillian Tett - Financial Times
Why has Britain managed to boldly go into fiscal territory which the US has hitherto ducked? That is the $800bn question hanging in the air in New York this weekend, after George Osborne, chancellor, visited the city. During his whistle-stop tour, Mr Osborne met a host of Wall Street and New York luminaries, at a breakfast hosted by Tina Brown, the media icon, and a dinner arranged by Michael Bloomberg, the mayor. As he schmoozed he was greeted with emotions ranging from respect to rapturous applause.
What provokes respect is the way London has not only created a multi-year fiscal reform plan, entailing a striking £110bn worth of adjustment – but, more importantly, started to implement it. After all, in the US – like the UK – national debt is surging. And a bipartisan commission recently produced some sensible medium-term proposals to reduce this debt by almost $4,000bn, using a policy mix similar to the UK’s.
But last month these bipartisan US proposals were in effect shot down amid political gridlock; and last week President Barack Obama was forced to cut an $858bn deal with Republicans to extend the Bush-era tax cuts. That threatens to increase the US debt burden again. To jaded New Yorkers, the contrast with the UK could hardly be more stark.
So what explains this contrast? Unsurprisingly, Mr Osborne tried to grab some credit last week: with a slick, humorous delivery, he emphasised the “bold” decision the Conservatives took to form a coalition with the Liberal Democrats. That, he argued, widened support for fiscal reform. “The public is with us,” he declared. But in reality, differences in political culture and structure also explain the contrasting tales. Britain’s three-party system makes it easier to create a coalition than US’s two-party structure.
More important still, since UK parliamentary terms run for up to five years, the coalition has been able to impose austerity without constant fear of electoral revolt. In the US, by contrast, there is a two-year cycle and the two parties are already preparing for 2012, making compromise hard. I suspect there are also subtle historical and cultural issues at play. The British electorate has already experienced belt-tightening in recent memory (the 1970s) and has lived with a sense of national decline for a century. The US has not. That gives an emotional – and at times irrational – edge to its debate about debt with fiscal reform deeply linked to national status and identity.
However, the single biggest reason for the contrast between the UK and US is geography – and markets. From a political and psychological point of view, Mr Osborne has near perfect conditions to prepare the UK population to swallow austerity: although Britain has not suffered a market shock itself, investors and voters alike have seen what is occurring, on their doorsteps, in the eurozone. “If you turn on the evening news, item two is Portugal or Greece,” Mr Osborne observed.
The US has hitherto faced extraordinarily little market pressure for fiscal reform. Instead, investors have continued to gobble up treasury bonds, even as US debt has spiralled. And though US yields have risen recently, this has not been dramatic enough to concentrate political minds. Right now, US leaders certainly prefer it that way. But the rub is that without some form of external shock, there is little chance of an end to US political gridlock. Or, to put it another way, some drama is probably needed to concentrate political minds on the need for medium-term reform.
Perhaps it is time for Mr Bloomberg to invite the finance ministers of Greece, Ireland or Portugal to New York. That might yet produce an even more sobering message for Americans than anything Mr Osborne had to say.
$2 trillion debt crisis threatens to bring down 100 US cities
by Elena Moya - Guardian
More than 100 American cities could go bust next year as the debt crisis that has taken down banks and countries threatens next to spark a municipal meltdown, a leading analyst has warned. Meredith Whitney, the US research analyst who correctly predicted the global credit crunch, described local and state debt as the biggest problem facing the US economy, and one that could derail its recovery.
"Next to housing this is the single most important issue in the US and certainly the biggest threat to the US economy," Whitney told the CBS 60 Minutes programme on Sunday night. "There's not a doubt on my mind that you will see a spate of municipal bond defaults. You can see fifty to a hundred sizeable defaults – more. This will amount to hundreds of billions of dollars' worth of defaults." New Jersey governor Chris Christie summarised the problem succinctly: "We spent too much on everything. We spent money we didn't have. We borrowed money just crazily. The credit card's maxed out, and it's over. We now have to get to the business of climbing out of the hole. We've been digging it for a decade or more. We've got to climb now, and a climb is harder."
American cities and states have debts in total of as much as $2tn. In Europe, local and regional government borrowing is expected to reach a historical peak of nearly €1.3tn (£1.1tn) this year.
Cities from Detroit to Madrid are struggling to pay creditors, including providers of basic services such as street cleaning. Last week, Moody's ratings agency warned about a possible downgrade for the cities of Florence and Barcelona and cut the rating of the Basque country in northern Spain. Lisbon was downgraded by rival agency Standard & Poor's earlier this year, while the borrowings of Naples and Budapest are on the brink of junk status. Istanbul's debt has already been downgraded to junk.
Whitney's intervention is likely to raise the profile of the issue of municipal debt. While she was an analyst at Oppenheimer, the New York investment bank, in October 2007 she wrote a damning report on Citigroup, then the world's largest bank, predicting it would cut its dividend. She was criticised for being too pessimistic but was vindicated when the bank was forced to seek government support a year later. She has since set up her own advisory firm and is rated one of the most influential women in American business.
US states have spent nearly half a trillion dollars more than they have collected in taxes, and face a $1tn hole in their pension funds, said the CBS programme, apocalyptically titled The Day of Reckoning.
Detroit is cutting police, lighting, road repairs and cleaning services affecting as much as 20% of the population. The city, which has been on the skids for almost two decades with the decline of the US auto industry, does not generate enough wealth to maintain services for its 900,000 inhabitants. The nearby state of Illinois has spent twice as much money as it has collected and is about six months behind on creditor payments. The University of Illinois alone is owed $400m, the CBS programme said. The state has a 21% chances of default, more than any other, according to CMA Datavision, a derivatives information provider.
California has raised state university tuition fees by 32%. Arizona has sold its state capitol and supreme court buildings to investors, and leases them back. Potential defaults could also hit Florida, whose booming real estate industry burst two years ago, said Guy J. Benstead, a partner at Cedar Ridge Partners in San Francisco. "We are not out of the woods by any stretch yet," he said.
"It's all part of the same parcel: public sector indebtedness needs to be cut, it needs a lot of austerity, and it hit the central governments first, and now is hitting local bodies," said Philip Brown, managing director at Citigroup in London.
In Europe, where cities have traditionally relied more on bank loans and state transfers than bonds, financing habits are changing. The Spanish regions of Catalonia and Valencia have issued debt to their own citizens after financial markets shut their doors because of the regions' high deficits. Moody's cut to the rating of the Basque country on Friday left it still within investment grade but noted "the rapid deterioration in the region's budgetary performance in recent years". It said it expected it to continue over the medium term.
In Italy, Moody's and S&P have threatened to downgrade Florence, while Venice has been forced over the past few months to put some of the palazzi on its canals up for sale to fund the deficit. "Cities are on their own. Governments won't come to their rescue as they have problems of their own," said Andres Rodriguez-Pose, professor of economic geography at the London School of Economics. "Cities will have to pay for their debts, and in some cases they will have to carry out dramatic cuts, such as Detroit's."
Vallejo, a former US navy town near San Francisco, is still trying to emerge from the Chapter Nine bankruptcy protection it entered in 2008. The city, now a symbol of distressed local finances, is still negotiating with the unions, which refused to accept a salary cut plan two years ago. Paul Dyson, an analyst with the Standard & Poor's credit agency, said Vallejo, which is mostly a dormitory town for Oakland or San Francisco employees, did not have enough local industry to sustain its finances and property tax – a major source of local income – plunged with the collapse of the real estate market. The S&P credit-rating agency has a C rating on the town – the lowest level.
With a population of about 120,000, Vallejo has $195m (£125m) of unfunded pension obligations and has to present a bankruptcy-exit plan to a Sacramento court by 18 January. Since 1937, 619 local US government bodies, mostly small utilities or districts, have filed for bankruptcy, Bloomberg News recently reported. US cities tend to default more than European municipalities as they usually rely on bonds issued to investors, which enter into a default if the creditor misses payments. European towns, by contrast, traditionally depend on bank loans and government bailouts.
Debt at Every Turn: New Governors Attack the Debt Crisis
by Bill Bonner - Daily Reckoning
"The Day of Reckoning has come!" So said New Jersey’s new governor-elect.
New Jersey is hardly unique. Practically every government in the developed world faces the same problem. National. State. Local. Expenses grew during the boom years. We all know why. Politicians prefer to spend then to save. They buy votes with other people’s money. That’s why they like programs for poor people. They come cheap. But the votes they buy on credit are even cheaper. Give a job…a handout…free drugs…housing subsidies – and send the bill to the next generation.
With declining interest rates and an expanding economy, governments could get away with it. Low interest rates made deficits easy to finance and reduced the cost of refinancing existing debt too. The trend was always unsustainable, even when things were going well. You can’t spend more than you can afford forever. Everyone knew that a day of reckoning would come. And guess what…here it is.
These new governors are no dopes. They have some room to maneuver. They can blame the problems on their predecessors. They can be heroes, solving them. In cutting spending now, they’ll be doing what has to be done. The smart thing to do would be to exaggerate the problems. But in the present case, exaggeration is hardly necessary. The financial problems are so grave, they don’t need to be puffed up.
Newly-elected governor Jerry Brown in the Golden State is in the same position. Hardly had the votes been counted when Jerry began taking more careful inventory. Naturally, what he found surprised him… He was shocked…SHOCKED…by the seriousness of the fiscal challenge. He pledged to come into the state capital with a broom the size of the Inland Empire…sweeping away unnecessary expenses and cleaning up state finances.
The story is the same in practically every Middlesex, village and farm community. States and municipalities spent more than they could afford. They ran up pension obligations. They borrowed for stadia and swimming pools. And now, like Ireland and Greece, they can’t keep up with the payments. What are they to do? Default!
Yes, but before they do that they need to make a show of trying to be responsible. They need to talk about budget cutting and financial integrity. They will try to cut wages, close libraries, and renegotiate contracts. Some will succeed. Many won’t. All we know for sure is that it will be fun to watch.
We also know that people who lent money to these governments will wish they hadn’t. In the US, as in Europe, there are bound to be debt crises. Cities and states will come to the brink of insolvency. There will be bailout initiatives. Austerity drives. Showdowns with unions.
New York City almost went broke in the ’70s. The mayor asked the federal government for a bailout. "Drop dead," said President Jerry Ford…or at least that was what was reported in the New York tabloids. The feds said no. New York had to get its own house in order. Of course, it succeeded, thanks in part to a huge boom in the financial industry that began in 1982.
Will there be another huge boom in the US? Maybe. But there’s a bust to live through first. And in the crises ahead, municipal bonds are almost sure to go down.
Medicaid Demands Push States Toward 'Cliff' Even as Governors Cut Benefits
by Christopher Palmeri and Pat Wechsler - Bloomberg
Washington State may not pay for glasses anymore. Massachusetts already chopped dentures. As of Oct. 1, North Carolina no longer covers surgery for the clinically obese.
Governors nationwide are taking a scalpel to Medicaid, the jointly run state and federal health-care program for 48 million poor Americans, half of whom are children. The single biggest expense for states, Medicaid consumes about 22 percent of their total $1.6 trillion in expenditures, more than what is allocated to elementary and secondary education, according to a National Governors Association report.
With federal stimulus funds to help states pay higher Medicaid costs running out June 30, "we’re heading for a cliff in July," said Brian Sigritz, director of state fiscal studies at the National Association of State Budget Officers in Washington. Medicaid enrollment has jumped 13.6 percent since the recession began in 2007, according to the Henry J. Kaiser Family Foundation based in Menlo Park, California. The 2009 federal stimulus bill and a supplemental appropriation this year allocated a total of $103 billion for Medicaid. With that funding ending, state health-care expenditures may climb as much as 25 percent in fiscal 2012, according to a Kaiser report.
Governors are slashing Medicaid to close as much as $140 billion in budget deficits for the 12 months starting in July 2012, after eliminating $130 billion in gaps this year, according to the Center on Budget and Policy Priorities, a Washington-based research group. Spending is being cut even though state revenues rose for the three quarters ended Sept. 30, as the U.S. recovered from the longest recession since the Great Depression, the Nelson A. Rockefeller Institute of Government in Albany, New York, said in a Nov. 30 report.
"I don’t think most states want to sentence people to death," said Judy Solomon, co-director of health policy at the Center on Budget and Policy. "But what we see is a pretty bleak picture of tough cuts made this year, and next year’s numbers look worse." Washington Governor Christine Gregoire proposed cuts of $112.9 million in vision, hearing and other benefits for her 1.1 million-member Medicaid program, according to Jim Stevenson, a spokesman for the health and social-services department. The state faces "devastating" cuts to close a $4.6 billion deficit in its two-year budget beginning July 1, Gregoire said Dec. 15.
In California, Governor Arnold Schwarzenegger proposed $980 million in savings on Medi-Cal, which covers 7.5 million people, after previously slicing $110 million for acupuncture, chiropractic and dental services in 2009. His Dec. 6 proposal included $100-a-day copayments for hospital stays and a limit of 10 doctor visits a year. Spending on Medicaid nationwide rose 8.8 percent last year, the most since 2002, according to Kaiser. Nearly every state issued at least one new policy to cut program costs in the past two years, including benefit reductions, increased copays and lower reimbursements to health-care providers.
"There’s no elegant solution on the horizon," said John Thomasian, director of the Center for Best Practices at the National Governors Association in Washington. Arizona will reduce payments to doctors, hospitals and ambulance services by 5 percent beginning April 1, according to Monica Coury, a spokeswoman for the Arizona Health Care Cost Containment System, the Medicaid agency.
The state stopped paying for heart, liver and other transplants on Oct. 1, prompting criticism of Governor Jan Brewer, a Republican. "We are the only state that has cut transplant care," state Representative Anna Tovar, a Democrat from Tolleson who received a stem-cell transplant, said in a telephone interview. "Who are they to put a figure on a person’s life?"
Under the 2009 stimulus bill and the 2010 health overhaul backed by President Barack Obama, states can’t reduce Medicaid eligibility below a prescribed level. Brewer, facing a $1 billion budget deficit, said she’ll ask federal permission to remove 300,000 people from the 1.3 million-member program. The cuts would be limited to those who have incomes higher that the federally mandated minimum, according to Coury.
Some states may seek help from private insurers to reduce expenses by managing illness through prevention and earlier intervention, according to Vernon Smith, Michigan’s former Medicaid director and now managing principal of Health Management Associates in Lansing, Michigan.
UnitedHealth Group Inc., the biggest U.S. insurer by sales, covers 3 million Medicaid participants and sees cost-control pressure on states as an "opportunity," Gail Boudreaux, the president of the company’s commercial division, told an investor conference Nov. 30. The company, based in Minnetonka, Minnesota, projects enrollment in its Medicaid plans to rise by as much as 300,000 in 2011, she said.
Every state has a unique formula for calculating the federal contribution for Medicaid. The 12 with the highest personal income, including California, New York, New Jersey, Connecticut and Colorado, typically depend on the U.S. government for about half their expenditures. Under the stimulus, the federal share rose to about 62 percent. In July it will return to the old formula, forcing the states to pick up 50 percent of the total cost of the program instead of 38 percent.
New York Governor-elect Andrew Cuomo has proposed cutting costs by shifting patients to less expensive alternatives, such as to clinics from hospitals when appropriate. He is to present his state’s budget on Feb. 1. Two legislative committees in Illinois are examining ways to reduce a $200 million deficit this year in its 2.9 million-member Medicaid program, according to Democratic State Representative Frank Mautino.
Florida’s governor-elect, Rick Scott, a former hospital executive, and Texas Governor Rick Perry have proposed a system of federal grants that would allow states to allocate funds as they wish. Perry said his state’s $30 billion in Medicaid spending could be cut in half if allowed to make its own spending choices. "There will be innovation breaking out all over the country," Perry said in a November interview.
States face the prospect of enrolling 16 million more people in Medicaid beginning in 2014 under the Patient Protection and Affordable Care Act, the health-care law Obama signed in March. It expands coverage to include certain childless adults under 65, according to Foley & Lardner LLP, a law firm in Milwaukee. The federal government will pay 100 percent of the increased expense for the first three years.
California, which expects 1.6 million people added to Medi- Cal by the new law, estimates the expansion will cost $3.5 billion a year in 2020, when the federal subsidy drops to 90 percent, according H.D. Palmer, a Finance Department spokesman. State lawmakers deferred action on Schwarzenegger’s proposed reductions until Governor-elect Jerry Brown proposes his budget on Jan. 10, according to Nathan Barankin, a spokesman for Senate President Darrell Steinberg. Evan Westrup, a spokesman for Brown, said the incoming governor hasn’t made his plans for health-care savings public.
"Due to unprecedented fiscal challenges, we’ve had to make some very difficult budget decisions," Paulette Song, deputy communications director for the Massachusetts Executive Office of Health and Human Services, said in an e-mail from Boston.
US mortgage applications down 18.6% last week
by Jason Philyaw - Housing Wire
Mortgage application volume continues to decline with a huge drop last week, as interest rates remain on an upward swing and demand for refinancings plummets. The Mortgage Bankers Association said its market composite index decreased 18.6% for the week ended Dec. 17 on a seasonally adjusted basis. Unadjusted, the index fell 20% from the prior week.
Refinancing applications have decreased for six consecutive weeks and volume is at the lowest point since the end of April after another 24.6% drop last week. The seasonally adjusted purchase index fell 2.5% last week. The unadjusted purchase index declined 4.9% and was 8.4% lower than a year earlier.
"Refinance application volume dropped sharply this week as mortgage rates held near six month highs," according to Michael Fratantoni, MBA vice president of research and economics. "Purchase applications fell for a second week, with the level of applications little changed over the past month, indicating that home sales are likely to remain relatively weak over the next few months.
In four-week moving averages, the seasonally adjusted market index is down 9.8%, the purchase index is down 1.2% and the refinance index is down 12.7%. The refinancing share of all mortgage applications fell to the lowest point since early June at 72.3% down from 76.7% the week earlier. The average interest rate for a 30-year fixed mortgage has risen steadily for a month and is now at 4.85%, according to the MBA, up slightly from 4.84% the week before. The average rate for a 15-year fixed mortgage also rose a bit last week to 4.22% from 4.21% a week earlier.
Slow US growth highlights fragility
by Suzanne Kapner. Alan Rappeport, Robin Harding and James Politi - Financial Times
The US economy grew slower than Wall Street analysts had expected in the third quarter, and the housing market continued to struggle, highlighting the challenges of sustaining a fragile recovery. Analysts, who had initially forecast that 2010 would see a modest upturn in housing, are now predicting that prices will decline in 2011 by as much as 10 per cent, as a record number of distressed properties floods the market. The ongoing weakness has prompted some Wall Street economists to call for major intervention by Washington to head off prolonged stagnation.
Richard Berner, the chief US economist at Morgan Stanley, said that without new government initiatives to reduce interest payments and principal balances, the housing market would remain locked in a "vicious circle" in which supply could outstrip demand for years to come. Sales of existing homes grew by 5.6 per cent in November to a seasonally adjusted 4.68m properties, but that is 28 per cent below year-ago levels.
Although house prices rose 0.7 per cent in October, the index compiled by the Federal Housing Finance Agency has fallen 3.4 per cent over the preceding 12 months. "We thought housing would bottom in 2010, but it looks like it will take another year," said David Wyss, the chief economist at Standard & Poor’s.
Rising interest rates are also acting as a headwind by making it more expensive to refinance an existing mortgage or get a new loan. Purchase applications fell 2.5 per cent in the most recent week, while refinancing activity was down 25 per cent to its lowest level since April, according to the Mortgage Bankers Association. If the cost of a 30-year fixed rate mortgage increases much beyond current levels of 5.07 per cent, half the borrowers will be outside the "refinancing threshold" and the rest will be locked out due to damaged credit or falling home prices, the MBA said.
Despite the ongoing weakness in housing, the Obama administration has given no indication that it intends to introduce more aggressive national policies, preferring instead to concentrate on existing modification efforts in the hardest hit states of California, Arizona, Nevada and Florida. It is also attempting to stimulate employment through the payroll tax credit that is part of a far-reaching $858bn tax package Congress passed earlier this month.
Some analysts said that those measures may not be enough to pull the housing market out of its slump. They point to existing loan modification programmes, which have so far failed to stem the tide of foreclosures. For instance, Mr Berner estimates that more than half of all borrowers who enter the government’s Home Affordable Modification Programme (HAMP) wind up redefaulting on their loan.
US economic growth was revised upward by less than Wall Street analysts had expected for the third quarter. Although the Bureau of Economic Analysis raised its estimate from 2.5 per cent to 2.6 per cent, many Wall Street analysts had been hoping for 3 per cent growth.
Meanwhile, the annualised rate of consumption growth was revised downward to 2.4 per cent from 2.8 per cent. There was an upward revision to business inventories but that is not a sustainable source of growth.
Could a U.S.-style collapse happen in Canada?
by Tom Fennell - Yahoo Canada
Home ownership is at the centre of many Canadians' financial retirement plans. That's especially true for baby boomers who are sitting snugly atop a nice wave of real estate inflation.
In fact, the average price of a detached home in Canada has doubled since 2000, and in September was sitting at $331,000. Of course that number pales when compared to Vancouver, where the average price for the same period was $679,000 and in Toronto it was a still-high but a more modest $427,000. So a lot of people nearing retirement age are hoping the housing market will stay buoyant until they cash out, allowing them to downsize, pay off their debts and still have plenty of money left over.
A lot of American homeowners used to think that way. But from their peak in 2005, U.S. house prices have fallen almost 30 per cent, and they are still trending lower. Things are still so bad in the U.S. that the real estate default rate hit a record high in 2010, with more than three million households receiving foreclosure notices. And it could get even worse in 2011.
But could a U.S.-style collapse really happen here? Obviously Bank of Canada Governor Mark Carney thinks so, and last week urged politicians and Canada's banking oligarchs to tighten mortgage lending requirements to slow Canada's plunge into debt.
To say the least, our debt numbers do look unsettling. According to Statistics Canada, the Canadian household debt-to-income ratio hit a record high of 148.1 per cent in the third quarter. That is slightly above the 147.2 per cent debt ratio seen in the U.S., according to latest figures from the U.S. Federal Reserve. Carney also noted that household debt has jumped by seven per cent since the recession bottomed out, compared to a fall of 3.5 per cent in the U.S. And most of the household debt in Canada can be attributed to mortgages, which have grown from $421 billion in 2000 to more than $1 trillion today, a 137 per cent increase in 10 years.
This mountain of debt has left Canadians exposed to a housing-price correction. "Risk reversals, when they happen, can be fierce," warned Carney. "The greater the complacency, the more brutal the reckoning."
By three important measures, according to the International Monetary Fund (IMF), Canadian housing prices are extremely overpriced when compared to U.S. housing prices at their peak in 2005. And by implication, whether it will be "fierce" or not, they are due to correct. For starters, according to the IMF, Canadian home prices relative to income are 15 per cent above the post-1970 average. This may not sound all that bad until you compare it to the U.S. and the fact that before prices there began to tumble, relative to income they were 11 per cent above the long-term average.
Long-term averages are something that smart investors pay attention to because prices often return to their mean. Just ask anyone who owned tech stocks in 2000 or gold bullion in 1980. In the case of housing, a regression to the mean would imply a return to long-established price trends based on historical levels of appreciation, and according to the IMF Canadian house prices are now selling 60% above their historical average.
That sounds like a scary number, and it probably is when you consider that just before the U.S. housing bubble burst, prices there were tracking 30% above their historical averageand have almost fallen back to that level.
After looking at all those numbers the IMF concluded that on a price-to-rent basis, Canada has some of the most expensive real estate in the world.
In October the buy/rent ratio was about 1.85x. This means with average mortgage sizes increasing and becoming more difficult to afford, homeowners pay almost twice what renters pay to put a roof over their heads. It should be pointed out that at 1.85x it's getting very close to the 2.3x level reached in December 2007 and the 2.5x level reached in 1988, and those highs led to corrections of 13 per cent and 10 per cent, respectively
Those findings are supported by a Royal Bank of Canada study which found that nationally, a typical house eats up 41 per cent of median income today, compared to 49 per cent in Toronto, and 73 per cent in Vancouver. Just to put those numbers into perspective, according to Statistics Canada, median after-tax income has been growing at around 1.8 per cent annually this decade, well behind the doubling in real estate prices over the same period.
Here's a final bit of analysis that should raise a few eyebrows. The Canada Mortgage and Housing Corporation has insured $773 billion in mortgages and loans, while holding only 1.2 per cent in equity. But at its worst before it went technically bankrupt, Fannie Mae, the largest mortgage insurer in the U.S, had 1.5 per cent equity in its loan portfolio.
So does this mean the Canadian real estate market is a bubble that is about to burst? Only history will answer that question, but if you believe long-term trends matter when it comes to investing, odds are that housing prices will return to the mean. If you use past housing corrections as a guide, a correction could shave 30 per cent off their current values.
In the process, it also will also force a lot of baby boomers back to the drawing board to reschedule their retirements.
Citigroup warns of fresh wave of bank defaults in Europe
by Ambrose Evans-Pritchard - Telegraph
Citigroup has warned of a fresh wave of bank failures and sovereign defaults in Europe unless EU leaders come up with a credible response to the crisis.Prof Willem Buiter, the bank's chief economist, said the eurozone was paralysed by a "game of chicken" between the European Central Bank and EMU governments.
Both sides are trying to shift responsibility on to the other for shoring up southern Europe and Ireland, raising the risk of contagion spreading. "The market is not going to wait until March for the EU authorities to get their act together. We could have several sovereign states and banks going under. They are being far too casual," he said.
Mark Schofield, Citigroup's credit chief, said Portugal would need an EU rescue soon and that it was "highly likely that Spain will go the same way". This risks overpowering the €440bn (£373bn) bail-out fund. "Restructuring of some sovereign debt is inevitable. There is a chance that Spain could still make it, but the debt trajectory looks unsustainable if a broader EU-wide solution isn't found," he said. The warnings came after Moody's said it might downgrade Portugal's A1 rating by one or two notches on growth worries, but said the country’s solvency was "not in question".
Meanwhile, Fitch Ratings has placed Greece's "BBB-" long-term foreign and local currency Issuer Default Ratings on Rating Watch Negative. The move is pending the outcome of a rating review by Fitch, expected to be completed in January, "which will focus on an assessment of Greece’s fiscal sustainability in the wake of the measures that the authorities have taken this year under the IMF-EU program". as well as the outlook for the economy and the "political will and capacity" of Greece to carry out the reforms, Fitch said in a statement.
Greece Passes Austerity Budget Amid Rancor
by Nick Skrekas - Wall Street Journal
The Greek socialist government passed its 2011 austerity budget early Thursday, despite criticism from it own ranks and a wave of strikes and protests over the past two weeks. Greece's passage of the budget is a key precondition for it to draw further aid from bailout funds provided by its international lenders of last resort to avert a debt default.
Earlier Wednesday, Greece's two largest unions held rallies in front of Parliament, attracting several hundred protesters against the key budget vote. Unlike last Wednesday, the protests didn't spark violence, but a 24-hour public-transport strike caused havoc in Athens. In a vociferous final session of the five-day parliamentary debate, the ruling Pasok party used its 156-member majority, out of a total of 300 seats, to pass the budget. "I continue to fight for the country without considerations of political cost, and my three objectives are to avoid bankruptcy, stabilize the economy and implement necessary restructuring reforms to promote growth and employment," said Prime Minister George Papandreou.
However, the government was subject to stinging criticism not only from opposition parties, but also in many cases from its own backbench deputies, who at times described the budget as "not credible," "not socialist" and "unfair." To the relief of the Pasok party, the possibility of a few socialist deputies abstaining or voting against the key piece of legislation didn't happen. As recently as last week, a deputy refused to follow the party voting line on an unpopular bill, leading to his immediate expulsion, and a shrinkage of the government's parliamentary majority.
The 2011 budget includes fresh austerity measures because it aims to narrow the deficit to 7.4% of gross domestic product next year from a projected 9.4% gap in 2010. Specifically, the budget includes cuts to the wasteful and inefficient Greek health sector, a freeze on pensions, deep cuts to payroll costs of deeply indebted state controlled enterprise, a further increase in value-added tax rates and lower defense spending. "We will exhaust all opportunities to assist society's worst hit by the crisis and the measures as soon as possible," Mr. Papandreou said.
The measures are largely being imposed on the debt-laden Mediterranean country at the insistence of the International Monetary Fund and the European Union in exchange for their having provided a €110 billion ($144.6 billion) bailout in May to prevent default. "Much of the blame for the current situation the country is in does not belong with our international lenders but is rooted in past mismanagement, and we have to recognize and change that," Mr. Papandreou said.
"The government's taxation policy has failed, and in early 2011 it will need to impose another extra €13 billion in austerity measures, at a time where the economy badly needs stimulus for growth," said Antonis Samaras, the main opposition conservative leader. "Greece's debt-to-GDP will remain extremely high for another decade and it is unlikely that markets will lend to us," said Mr. Samaras, the New Democracy leader. "We will need to be able to resort to issuing E-bonds [Eurozone bonds from a unified European mechanism] before the end of 2012 if Pasok doesn't change its policy mix now."
Mr. Papandreou partially agreed in his response to Mr. Samaras that E-bonds should be adopted by the EU, calling for support of the proposal. "European institutions need to be strengthened with bold decisions and Greece must play a leading role in shaping developments," he said. Meanwhile, leaders of two smaller opposition parties suggested that some form of a stoppage on Greece's mounting debt payments may be a solution, or an orderly sovereign default should be seriously considered.
"Have the proponents of debt default in this chamber seriously considered the consequences of such a move and the impact on the average Greek citizen?" Finance Minister George Papaconstantinou said. The prime minister called on all political parties, and society as a whole, to contribute to the effort to help restore Greece's "autonomy" to "end its dependence" on foreign lenders within the signed memorandum's timeline for 2012. "I will change Greece, and we will not default. The most painful measures are behind us," Mr. Papandreou added minutes before the final vote.
Britain slides further into the red: Monthly borrowing hits record £23.3 billion
by Hugo Duncan - Daily Mail
George Osborne was given a pre-Christmas shock yesterday as Britain dived deeper into the red. Borrowing jumped to a record £23.3billion in November despite the Chancellor’s austerity drive, according to the Office for National Statistics. That is £777million a day and £5.9billion more than in the same month last year.
Borrowing was pushed up by a 50 per cent jump in interest payments on the national debt, and by increased spending on health, defence and Europe. Last night there were fears that if borrowing does not fall as planned, Britain could be dragged into the debt crisis crippling Europe. The Prime Minister insisted the coalition was on a ‘rescue mission’ after Labour ran up the UK’s biggest ever deficit. ‘I don’t think that’s an exaggeration,’ said David Cameron. ‘Just look at what’s happened in Ireland, Greece and southern Europe. Just eight months ago, we were on a similar track.
‘Make no mistake, the country was in the danger zone and it has taken this coalition making difficult decisions to pull us out of that danger zone.’ Mr Cameron also insisted Britain’s AAA credit rating was safe, interest rates were down and ‘confidence is being restored’. And Treasury sources said the figures were ‘a very strong reminder’ of why the deepest spending cuts since the Second World War were needed.
David Tinsley, an economist at National Australia Bank in London and former Bank of England official, said: ‘You’d expect a marked improvement in 2011 and if that doesn’t happen then the market will start to get worried.’
A collapse in confidence in Britain’s ability to tackle the deficit could send the economy into another tailspin. The Government has borrowed £104.4billion in the first eight months of the fiscal year – only just below the £105.1billion this time last year. City economist 155billion in 2010-11 – less than the record £156billion deficit racked up by Labour but more than the £148.5billion planned by the Chancellor.
Andrew Goodwin, senior economic advisor to the Ernst & Young Item Club, said: ‘These figures really are a bolt from the blue and will ensure a miserable Christmas for the Treasury. ‘The November figures pretty much wipe out all of this year’s reduction in one fell swoop. ‘It will provide more fuel for the sceptics who question whether the Government can really achieve the scale of public spending cuts that it plans.’ The national debt rose to £971billion at the end of November, or 65.2 per cent of gross domestic product, another unwanted record.
Debt interest payments jumped from £3billion in November last year to £4.5billion this year – or £150million a day. State spending last month was more than 10 per cent higher than November 2009 at £53.9billion, while tax revenues were up just 3 per cent at £36.7 billion. The Government has outlined an £81billion package of public sector spending cuts to reduce borrowing to £35billion in 2014-15. VAT is also going up from 17.5 per cent to 20 per cent.
A Treasury spokesman said: ‘November’s borrowing figures show why the Government has had to take decisive action.’ David Kern, chief economist at the British Chambers of Commerce, said: ‘Britain’s fiscal position is serious and it is essential for the Government to implement its tough strategy aimed at stabilising public finances.’
Spain Agrees Austerity Budget By Tiny Margin
Spanish prime minister Jose Luis Rodriguez Zapatero will keep his job after his parliament agreed an austerity budget for 2011 by a razor-thin margin.
The lower house of congress passed the budget by six votes yesterday, approving a spending plan that cuts spending by 8 per cent compared with 2010 and sets funding for government ministries at 2006 levels. Failure to pass a budget would have been unprecedented since Spain returned to democracy in 1975 after the death of dictator Francisco Franco - and probably would have forced Zapatero to call national elections next year. They are currently scheduled for 2012.
Spain is key to the survival of the eurozone because its economy is the bloc's fourth largest, and investors fear a bailout would be too expensive for the zone to handle. Mr Zapatero insists Spain will not need outside help and his administration released figures yesterday showing that central government's deficit through the end of November was down 46 per cent from the same period in 2009.
UK's official economic growth estimates revised down
by Graeme Wearden - Guardian
Britain's economy grew less rapidly than thought over the past nine months, raising fears over the strength of the UK's recovery from recession.
The Office for National Statistics revised down its previous estimate for GDP growth between July and September to 0.7%, from 0.8%. It also cut its estimate for annual growth in the UK economy during the quarter to 2.7%, from 2.8%. Economic growth was also trimmed back by 0.1 percentage points in both the first and second quarters of 2010, to 0.3% and 1.1% respectively.
The ONS said the construction, services and production sectors had all shown slower growth than originally thought in the third quarter of 2010. It also revised down the output of business services and finance companies. Today's data showed that imports grew faster than exports in the last quarter, dealing a blow to hopes that Britain was exporting its way to recovery. "The upshot is that a continued strong recovery seems far from assured," commented Vicky Redwood of Capital Economics.
The original estimate of 0.8% growth in the third quarter of 2010 was twice as strong as City analysts had expected, and annual growth of 2.7% remains above the long-term average. But with Britain's public sector borrowing hitting a record high yesterday, today's revisions did disappoint some in the City – sending the pound down to a three-month low of $1.5426 against the dollar.
Economists warned that economic growth will continue to slow in the current quarter, especially given the disruption caused by the recent bad weather. "We currently forecast GDP growth to moderate to 0.5% quarter-on-quarter in the fourth quarter, which would result in overall GDP growth of 1.7% for 2010. However, there are now serious downside risks to this forecast and it may well now prove too optimistic given the serious hit to economic activity in December coming from the severe weather," said Howard Archer, chief European and UK economist at IHS Global Insight.
Philip Shaw of Investec agreed that GDP growth has softened in the last three months, but added that GDP growth for 2010 will still exceed most expectations at the start of the year. George Buckley of Deutsche Bank was encouraged that this morning's data showed a rise in the savings ratio.
UK mortgage lending to hit 30-year low in 2011 from a £110 billion-a-year peak down to just £6 billion
by Becky Barrow - Daily Mail
The mortgage freeze will continue next year, with net lending expected to slump to its lowest level in 30 years, the Council of Mortgage Lenders warned yesterday. It predicts that net mortgage lending will hit a low of only £6billion, a paltry amount compared with the peak year of 2006 when £110billion was handed out. Net lending is the total amount lent by banks and building societies after subtracting the money paid back by homeowners.
The lending slump means that millions of first-time buyers will continue to find it very difficult if not impossible to get a mortgage at a reasonable interest rate. Homeowners wanting to remortgage will face similar problems. Only the rich, the well-paid or those with generous parents happy to put down a deposit are able to get a loan at an affordable rate. The speed of the meltdown is remarkable. In 2008 – the year of the bail-out of the banks – net lending was £40billion, but the situation has got dramatically worse since then.
In 2009 net lending was £12billion and this year the total is predicted to be £9billion. The CML’s figures, published yesterday, also reveal that last month was the worst November for a decade. Gross mortgage lending, which is the total handed out, was only £11.1billion, the lowest level in the month of November since 2000. This year gross lending is expected to be £135billion. In its peak year of 2007 it was, £363billion.
A CML spokesman said the mortgage market is unlikely to recover to its pre-crisis levels ‘for many years to come’, and that next year it is expected to hit lows last seen in 1980. Brian Murphy, from the independent mortgage broker Mortgage Advice Bureau, said: ‘This is a brutal winter for the mortgage market.’ He added that in many cases, people do not want a mortgage because they are ‘worried about the economy, their jobs, their spending power, inflation and interest rate rises’.
In a further blow for homeowners, the CBI, the business lobby group, predicts that the Bank of England will start raising the base rate imminently. Squeeze on finances: The average rent has jumped to a record level of £692 per month It has been stuck at 0.5 per cent since March 2009, which has saved millions of homeowners a fortune in their monthly repayments. The CBI expects the Bank will start to increase rates ‘in the spring’ and that they will rise ‘gently’ to hit 2.75 per cent by the end of 2012. But the news will be welcomed by savers who have seen their savings income slashed in recent years.
Lord Oakeshott, a Liberal Democrat Treasury spokesman, said banks are abandoning millions of young people who have no hope of buying, even if they have a good job. ‘There is only one bank left lending at fair rates to first-time buyers without a 25 per cent deposit – the Bank of Mum and Dad,’ he said. ‘That is deeply divisive and damaging to social mobililty.’ At present, there are around 2,500 different types of mortgage. Only one in four is available to those who have a deposit of less than 25 per cent. The CML said radical changes proposed by the Financial Services Authority will make a dire situation even worse.
The proposals, called the Mortgage Market Review, could spell the end of interest-only mortgages and make the affordability tests to get a loan even more stringent. The mortgage crisis has forced rents up to record highs, as landlords cash in on the fact that many are unable to buy their own property. The average rent has jumped to £692 per month, a record level, according to LSL Property Services, the owner of the country’s largest network of lettings agents.
In London, the situation is even worse, with the average rent hitting £992 per month, another record. For a worker on Britain’s average salary of £25,000, this means an average rent in the capital wipes out about two-thirds of their take-home pay.
Interest rates 'will have to rise sixfold in two years'
by Myra Butterworth - Telegraph
Interest rates will have to rise almost sixfold over the next two years to cope with rising inflation, business leaders have warned. It will bring financial pain to seven million home owners with floating interest rates who will see a jump of almost £200 on a typical monthly mortgage payment. Charities have already warned that repossessions are likely to rise next year and the threat of a succession of quick interest rate rises will exacerbate their fears.
The Confederation of British Industry predicts that higher than anticipated rises in the cost of living will push the Bank of England (BoE) to begin increasing interest rates in the spring. It predicted that the Bank base rate – the interest rate at which the BoE lends to other banks – will rise more than two percentage points by the end of 2012. Mortgage rates are expected to follow closely behind. "Many households have been benefiting (from the low interest rates) in terms of mortgage payments, but that will start to turn over the next couple of years," said Lai Wah Co, the CBI’s head of economic analysis.
The organisation predicts that the Consumer Prices Index, the Government’s preferred measure of inflation, will reach 3.8 per cent within the first three months of next year and that it will still be well above the Bank’s 2 per cent target two years from now. It currently stands at 3.3 per cent. The CBI expects interest rates to climb from their record low level of just 0.5 per cent in the second quarter next year. It forecasts rates will rise 0.25 percentage points each quarter before the pace doubles in the middle of 2012 to 0.5 point increases, taking the bank rate to 2.75 per cent by that year’s end.
Last week, the Bank of England warned in its Financial Stability Report that two thirds of borrowers are now on floating interest rate deals and the proportion is rising. At the height of the credit crisis in 2007, the proportion stood at less than half of all outstanding mortgages. A 2.25 per cent rise in mortgage rates would see the monthly repayments on a typical £150,000 mortgage increase from £909 to £1096.
In another blow for home owners, economists predict that the average value of a home in Britain will lose 10 per cent of its value from their peak levels earlier this year to the end of 2011. The house price gains seen at the beginning of this year have already been wiped out, according to Nationwide. Britain’s biggest building society said the average price of a home dropped 0.3 per cent in November, the equivalent of almost £1,000 in a month, bringing the average price of a home to £163,398.
The CBI expects inflation as measured by the retail prices index – which includes more housing costs – will follow an even higher path than CPI, reaching 5 per cent at the start of next year. The CBI said it had raised its quarterly forecasts to take into account the "persistent strength" of energy and commodity prices. High inflation will put further pressure on households as people face higher prices and mortgage rates, but pay packets struggle to keep pace.
Tim Moore, an economist at research group Markit, said: "December brings to a close another difficult year for household finances. The UK economy looks to have avoided a double-dip recession in 2010, but there is little evidence that household finances have even begun to recover. People have seen their spending power gradually eroded by stubbornly high inflation throughout the year and little in the way of income growth to compensate for this."
No bank bail-outs, no euro: is Iceland really so badly off?
by Daniel Hannan - Telegraph
In Dublin, the sense of economic crisis is palpable to the most casual visitor; but the same is not true of Reykjavík.
Being outside the euro, Iceland has been able to devalue, and is now exporting its way back to growth. Because it didn’t take on the liabilities of its banks, it doesn’t have the massive public debt that many European governments have assumed. Provided it remains outside the EU – something which now seems virtually certain – Iceland’s recovery will be secure.
My pro-Iceland stance has prompted some mirth from Leftie bloggers – in particular the amiable Sunder Katwala from Next Left. But what’s this? No less a Euro-integrationist organ than The Economist has now come round to the view that Iceland was spared Ireland’s fate for two reasons: it refused to bail out its banks, and it was outside the euro.
Of course, most Icelanders worked this out for themselves some time ago. The last thing they want is to be drawn into the euro’s spasms. Their instinct is to trust to the rugged independence which took their fathers, in a single generation, from subsistence farming and fishing to one of the highest living standards in the world. They’re right.
Ireland Recapitalizes, Nationalizes Allied Irish Banks with $4.83 Billion
by Quentin Fottrell - Wall Street Journal
Ireland's Finance Minister Brian Lenihan Thursday announced plans to recapitalize Allied Irish Banks PLC by €3.7 billion ($3.93 billion) to meet the financial regulator's year-end capital requirements, effectively making it the fourth Irish lender to be nationalized.
Allied Irish Banks already received €3.5 billion in state aid in 2009, but the bank needs another €3.7 billion by year-end to meet its 8% Core Tier 1 target and, observers say, another €6.1 billion by the end of February to meet the financial regulator's 12% Core Tier 1 target.
Mr. Lenihan applied for the order to recapitalize AIB at the High Court earlier Thursday. The recapitalization will eventually bring the state's stake in AIB to 92.8% from 18.6%. Before the conversion of non-voting shares, the state will hold 49.9%. Mr. Lenihan said the order allows the government to provide enough capital to ensure AIB meets its year-end capital requirement as set by the Central Bank. "This capital is essential to allow AIB to fulfill its role in supporting the Irish economy," he said.
The news hammered the bank's shares in Dublin. Allied Irish Banks shares were recently down 20% at 0.32 on the Irish Stock Exchange in a weak overall market, down from €22.55 four years ago at the peak of the property bubble. The ISEQ Overall Index was down 0.5% at 2,871. The High Court has directed AIB to apply to cancel its listing of ordinary shares on the Main Securities Market of the Irish Stock Exchange and to apply for listing on the Enterprise Securities Market so that shareholders retain access to a public-trading facility for their shares.
On Tuesday, Irish President Mary McAleese late Tuesday signed into power the Credit Institutions (Stability) Act 2010 on the reform of the country's banking sector. Also on Tuesday, the European Commission approved the capital injection for AIB, which will come from the National Pensions Reserve Fund. AIB will issue 675.1 million ordinary shares of €0.32 each to the fund and 10.49 billion convertible non-voting shares of €0.32, the Department of Finance said in a satetment. AIB has agreed with Mr. Lenihan and the National Pensions Reserve Fund that warrants to subscribe for ordinary shares in AIB—granted to the fund as part of the government's 2009 €3.5 billion recapitalization—are to be canceled, and AIB will pay €52.5 million to the fund.
Mr. Lenihan said both Bank of Ireland PLC, which received €3.5 billion in state aid in 2009, and Irish Life & Permanent PLC, which hasn't required state aid, intend to meet the new 12% Core Tier 1 capital target by the end of February from their own resources and private market. Ireland will receive a €67.5 billion loan from the European Union and the International Monetary Fund. Ireland will contribute an additional €17.5 billion. Of the total €85 billion package, €10 billion will be used to recapitalize banks and €25 billion will be kept as a contingency fund.
Moody's Warns It May Cut Portugal's Rating
by Arran Scott And Jonathan House - Wall Street Journal
Moody's Investors Service Tuesday warned it may lower Portugal's credit rating by as much as two notches, dealing another blow to investor confidence in the euro zone. Moody's warning came less than a week after the ratings agency said it may downgrade its ratings on Spanish government debt.
The news knocked the euro against major currencies. It fell against the U.S. dollar and the yen early in European trading hours, having rallied in Asian trading after China expressed support for the euro-zone's efforts to stabilize financial markets. The euro was recently at $1.3155, down from the day's high of $1.3202. The yield spread between Portuguese 10-year government bonds and the benchmark German bund edged slightly higher, to 3.538 percentage points.
In putting Portugal's A1 long term and Prime-1 short-term government bond ratings on review, Moody's cited uncertainties over the longer-term health of Portugal's economy, which could suffer from the government's fiscal austerity plans. It also doubted Portugal's ability to access capital markets at a sustainable price.
"In Moody's opinion, Portugal's solvency is not in question," said Anthony Thomas, Moody's vice president and lead analyst for Portugal. "But the likely deterioration in debt affordability over the medium term and ongoing concerns about the economy's ability to withstand fiscal consolidation and private sector deleveraging mean its outlook may no longer be consistent with an A1 rating."
Portugal is paying "an elevated price" to borrow in the capital markets, "which if sustained will increase substantially its debt service costs over time," Mr. Thomas said. Moody's also said it was concerned that further government support for the banking sector could increase government debt. That support may be needed for the banks to regain access to the private capital markets, the ratings agency said.
"The Portuguese banking sector is in better shape than in some other countries" and hasn't needed much support from the government so far, but Portuguese banks are currently "shut out of funding markets and rely on the [European Central Bank] for funding," said Moody's analyst Kathrin Muehlbronner in an interview. If Portugal required external support, "we don't necessarily consider [it] as negative to the rating," Ms. Muehlbronner said, but added Moody's would analyze any conditions attached to assistance.
Moody's said Portugal's failure to significantly reduce the budget deficit this year, excluding one-off measures, has added to the ratings agency's concerns. The rating review will look at the country's fiscal outlook and its deficit reduction plans. Portugal has "ambitious targets for next year" and "progress has been disappointing," Ms. Muehlbronner said. Moody's believes the authorities are determined to reduce the budget deficit to under 3% of gross domestic product over the medium-term. "Moody's concerns are legitimate to the extent that structural reforms would be needed to boost Portuguese growth," Antonio Garcia Pascual, an economist at Barclays Capital, said in a note.
"Unless additional growth-enhancing measures are put in place by the government and yields on government bonds compress ... Portugal would benefit from an EU-IMF program and financial assistance at lower funding costs."
China ready to buy up to $6.6 billion of Portugal debt
by Shrikesh Laxmidas - Reuters
China is ready to buy 4-5 billion euros ($5.3-$6.6 billion) of Portuguese sovereign debt to help the country ward off pressure in debt markets, the Jornal de Negocios business daily reported Wednesday. The paper said, without citing any sources, that a deal reached between the two governments will lead to China buying Portuguese debt in auctions or in the secondary markets during the first quarter of 2011. China's central bank declined to comment on the report, while Portuguese government officials were not immediately available for comment.
It is unclear whether China's government would be prepared to take on so much fresh exposure to Portugal in such a short space of time, given that Beijing has faced domestic political pressure to invest the country's foreign reserves more carefully. Chinese investment funds suffered some large, high-profile losses during the global financial crisis. The euro rose to the day's high versus the dollar on Wednesday on the back of the report, climbing around 30 pips to a session high of $1.3168 according to Reuters data.
However, "the report is unsourced so although it's providing a bit of support, clients certainly aren't putting much weight on it," said one trader. Portugal has moved into the eye of the storm in the euro zone's debt crisis, with borrowing costs spiking as investors grew concerned it would be next in line to seek an international bailout after Ireland and Greece. Despite the report, the premium investors demand to hold Portuguese 10-year bonds rather than safer German Bunds was still seven basis points from Tuesday's settlement levels to 378 bps. Last month the spread hit a euro lifetime record of more than 481 bps but has narrowed thanks to bond buying by the European Central Bank.
Portugal has completed its debt issuance program for 2010, and according to the IGCP debt agency, its next bond redemption is due in April, when it has to repay 4.5 billion euros. In total, Lisbon has to repay 9.5 billion euros in bonds next year. The 2011 budget puts next year's net financing needs at 10.75 billion euros. The IGCP has not yet announced the issuance program for next year.
Finance Minister Fernando Teixeira dos Santos met Chinese Finance Minister Xie Xuren and the head of the People's Bank of China during a visit to the country last week. Portuguese officials have said the government is trying to diversify the debt investor base, with China as a priority. Tuesday Moody's Investor Service warned it may downgrade Portugal's A1 rating by one or two notches after a review that will take up to three months, citing high borrowing costs and weak growth prospects.
In October, during a visit to Greece, Chinese Premier Wen Jiabao offered to buy Greek bonds when Athens resumed issuing. A month later, President Hu Jintao visited Portugal and offered "concrete measures" to help the weak economy but stopped short of promising to buy Portuguese bonds. Chinese Vice Premier Wang Qishan said Tuesday that Beijing supported efforts by the EU and the International Monetary Fund to calm global markets in the wake of Europe's debt crisis and said China had taken "concrete actions" to help some European countries.
Later in the day, the Chinese commerce minister put the onus more firmly on EU policymakers to act. "We want to see if the EU is able to control sovereign debt risks and whether consensus can be translated into real action to enable Europe to emerge from the financial crisis soon and in a good shape," Chen Deming said.
Major euro zone economy France played down the concerns over Portugal Wednesday. The government has "no particular worry" about Portugal, government spokesman and Budget Minister Francois Baroin said, responding to reporters' questions.
Will France Be the Next Euro Nation to Fail?
by Richard Lee - Daily Reckoning
Europe is falling apart and economies both small and large aren’t immune to fears of a meltdown. While Spain and Italy are getting the most attention, you also need to pay attention to France. With the country’s negative economic numbers and wide exposure to both Greece and Spain, the future doesn’t look good for Les Bleus, which is even worse news for the euro.
Not surprisingly, the markets are in agreement with this bleak picture. The cost for insuring French debt soared to a record on December 20 – rising above insurance costs for the Czech Republic and double that of Europe’s largest economy, Germany. Since the beginning of the year, the French economy has just barely crawled along. Growth has been kept to a minimum, with quarterly gross domestic product figures barely above 0.5%. Together, this is making for a pretty poor annual performance. The French economy is expected to expand by a low 1.4% this year – much lower than the 2% growth rate in the United States.
Even worse is the fact that the country’s recovery is lagging far behind Europe’s other two powerhouses – Germany and the United Kingdom. Both countries have bounced back better than France, even as their governments raise taxes to offset government spending. Market analysts estimate a rapid 3.7% pace of growth for Germany and a 2% expansion for England.
Part of France’s problems can be found in its manufacturing and service sectors. Although the country’s manufacturing activity has been stable, it’s barely growing. The service sector is worse. According to government statistics, sector activity peaked in May and has steadily been declining ever since – hovering just above break even last month.
This slower-paced recovery has resulted in a relatively high rate of unemployment. True, joblessness isn’t as bad in France as it is in Greece, Spain or Ireland. But it’s still very high – 9.3%, representing 2.6 million people out of work. So it’s no wonder that consumer sentiment is down. According to the latest polls on the consumer outlook, the French don’t think too highly of the future. Although the index increased over the last couple of months, it remains more than three times more pessimistic than the rest of Europe.
And if all of that weren’t bad enough, you also need to consider France’s ties to Greece and Spain.
According to a report published by the Bank for International Settlements, French banks ranked first when it came to exposure to Europe’s peripheral markets – Greece and Spain. The June 2010 report showed French banks holding about $500 billion, or 31% of the total $1.58 trillion European Union debt load. Approximately 80% of these loans were geared toward private sector projects and not public works.
This means there may be a higher probability of default since corporate entities – not state governments – make up the majority of the outstanding loans. Obviously this eats away at banks’ capital foundation. French loans to Greece and Spain account for 8.3% of the banks’ Tier 1 capital – or the core strength of a bank. This figure is enormously high. For comparison, it’s four times more the UK bank exposure to those countries, and more than eight times that of US banking exposure to the same.
That means French banks would suffer heavier losses than most banks in the world if these countries outright failed or went bankrupt. Now, I’m not saying it’s the end of France or the end of Europe. But with French economic fundamentals in the gutter and its deep bank exposure to some of Europe’s most troubled nations, we can’t expect any massive appreciation in the underlying euro currency till next year.
Voting on Principal Reductions: Treasury: YES… FHFA: NO… Obama Administration: YES… Congressional Republicans: NO. Good Lord!
by Mandelman - Ml-Implode.com
Clowns to the left of me, jokers to the right, here I am, stuck in the middle with all of them…
So, are you ready for this? I can promise you that you’re not. ProPublica, a Website I’ve just recently started paying attention to, is reporting that there seems to be one giant stupid, and inconceivably insensitive debate going on in our nation’s capitol concerning the use of principal reductions as related to loan modifications.
Now, before I say anything about this, I just want to mention that this was a stupid debate last year when a similar group of untrustworthy buffoons were kicking the idea around, but this year it’s just turn-your-head-and-look-the-other-way STUPID.
Last year, and I write about it then too, they were discussing whether principal reductions were a good thing or a bad thing. I mean, do you think it occurs to these people how incredibly embarrassing it is for them to be having such a discussion… talking about concepts like "moral hazard" and the like? These people are the moral hazard… they’re the crown princes of moral hazard, are they not? And as far as irresponsible borrowers go, well shiver me timbers, like the world has never seen they are irresponsible borrowers.
So, for them to actually have a job where they get to sit around and pontificate about the pros and cons of granting principal reductions, and the potential impact of doing so as opposed to not doing so… as if they’ve done even one thing right, or forecasted even one aspect of this housing meltdown correctly, well… it just boggles the mind, that’s what it does… it just flat out boggles it.
If I could be a little talking bird that could land on the window sill of their meeting room, I’d say… come on guys, you’ve already lost all credibility, no one will believe you anyway… give it a go… what can you lose? I mean, Treasury was suppose to launch the HAMP PRA, that’s Principal Reduction Alternative program on October 1, 2010, according to their own press release. Anyone seen hide or hair of it? Right… the answer is no.
And that overlooks that HAMP was supposed to offer some number of principal reductions in the first place, after taking the interest rate down to 2% and the term of the loan out to 40 years… the servicer was supposed to consider reducing the principal. Let me guess at how the banking lobby would respond to that:
"Servicers do consider reducing the principal on every single loan modification application. They just decide against it every time."
To which all I can think about is beating the crap out of some fictional banking lobbyist.
So, anyway… enough of that… Treasury is allegedly for principal reductions… the House Republicans, as if they should get to vote on anything, say Nay! The Obama Administration is purportedly for the idea of bringing down the balances on loana, but now… are you sitting down… the FHFA, the Federal Housing Finance Administration, the regulator of the failed Fannie and Freddie, says no.
And no, means no, I suppose?
Who the hell is the FHFA, is that even a real regulatory agency? I think they just made it up a few years ago to make it appear as if something was actually regulating Fannie Mae. And that brings up another good point.
Now? Now when perhaps there could be the modicum of a chance to perhaps save even a few from foreclosure, like it could be my next door neighbor we’re talking about, and hence maybe another fifty grand slashed off of my fast diminishing theoretical equity position… now you start regulating Fannie? Like, where the heck have you been… say, when Fannie was leveraging itself 110:1, I believe the figure was when the bough broke. And Freddie… a jaw dropping 170:1? And now you’re looking at saving a few foreclosures and you saw…
"Nope. It wouldn’t be prudent, not at this juncture."
Since when is anything that Fannie Mae does even remotely prudent? Yeah, because that’s what comes to my mind when I think of the word "prudent"… Fannie Mae. Nice castle, by the way.
You guys are smoking crack over there, right? Tell me you are and I’ll leave you alone. I promise, you won’t hear another word out of me. Otherwise, I’m going to find a way to friend your mom on Facebook and tell her what you do at work.
And Fannie Mae and Freddie Mac… excuse me for a moment, but am I wrong to say they’re both entirely bankrupt, like as in gonzo… out of here… the showers are on… ball four, take a hike, you’re all done here?
Oh, I know, you’re going to tell me about how their in something called "conservatorship," right? Yeah, well then let me rephrase my question.
If Fannie Mae and Freddie Mac were anything but fraudulent-semi-pseudo-quasi-government agencies in the first place, would they be long gone bankrupt? Thank you… I thought so.
So, FHFA… what are you doing over there? The President of the United States and the most powerful man in the world, Treasury Secretary Tim Geithner both say they want Fannie and Freddie doing some principal reductions, who are you to say no to them… I mean, I can understand you telling Obama to pound sane, half the bankers on Wall Street don’t even show up for his meetings, but Tim Geithner? Don’t you know who he is? That man can snap his fingers and Ben Bernanke starts up the printing presses from his nightstand by his bed. Tim Geithner… even Lord Blankcheck over at Goldman Sachs takes his calls. And Vikram Pandit over at Citi? Yeah, well I heard he comes over to rub Geithner’s feet in the evenings. It’s true, that’s what I heard.
Seriously now… Freddie and Fannie were GSEs for years… you know… "Government Spending Entities." What’s the big deal if they shave a little off the balance balance due on a few thousand homes. It’s not going to natter anywat… buy next year at this time they be underwater again… you won’t have really changed a thing. And besides, the two mortgage queens have never had any principles before why not cut some of them off now that they’ve got a few.
For God’s sake man, Fannie Mae stock is trading OTC right next to Blockbuster! What could you possibly be holding onto? Are you holding your shareshoping for "the bounce"? Dollar cost averaging into either one of those piles of dung, is that what you’ve got going on over there?
And get ready for this whopper of a sentence from the article on ProPulica…
"In this case, reducing principal for some homeowners could add stability to the housing market and save Fannie and Freddie money in the long term, but it would also force them to take an immediate hit to their balance sheets."
Okay, first of all… "balance sheets," as in more than one? Was that just your Freudian slip showing, or are Fannie and Freddie running two sets of books again? Wouldn’t be the first time, you know.
And back up… read that paragraph again… reducing principal "for some homeowners could ADD STABILITY to the housing market and SAVE FANNIE and FEREDDIE MONEY in the LONG TERM, but it would also force them to take an immediate hit to their balance sheets?"
So, who gives a crap about their "sheets?" Treasury dumps tens of billions into their bottomless pits every quarter that I can remember anyway. To hell with their "sheets". In fact, while you’ve got the go ahead to pull Fannie and Freddie up to the Treasury Department every quarter and say: "Fill ‘em both up." Wouldn’t now be a good time to take the hit to the "sheets?"
Because the way things are going, the Democrats may be replaced by a whole team of Alvin Greenes next election, or who knows… maybe even a few Republicans, and if that happens, how long do you think it’ll take the GOP to change your sheets? An hour? Not even that long… they’ll phone that vote in from their limos on the beltway. And then what will you say when you go down in history as the man… I’m assuming it’s a man we’re talking about, but I’ll look it up in a second and tell you for sure… what will you say when you go down in history as the only man ever who couldn’t throw a few hundred billion away? It’ll be embarrassing at the club, have you thought about that?
ProPublica asked Fannie Mae for a statement and apparently Amy Bonitabus, Fannie Mae’s spokesbetch said:
“We are continuously reviewing our policies regarding the modification of mortgages based on changing economic circumstances and our analysis of whether the policies are working.”
I swear… did she sound like she was smacking her gum when she said that, or was that just me?
Hey Amy… pssst… over here… that’s right, here… to the right… a little closer… that’s it… good… blow me.
Was that too unprofessional for you? Yeah, well I’ve got a few choice words for you too in that case. This is out of control… someone needs to take someone over his or her knee and give him or her a hot bottom. (You know, that’s a better sentence when you don’t make it grammatically correct.)
And first of all, what "changing economic circumstances" are you currently reviewing your policies by? And name one policy Fannie Mae has ever had that anyone but that clown Franklin Raines thought was working? And besides, wasn’t that Franklin Raines that played Lamont on Sanford & Son? I think it was… that’s why you never see the two of them together.
You guys at Fannie have never reviewed a loan modification policy in your lives… I don’t believe it. Name one. One thing that Fannie Mae does consistently that has to do with loan modifications? Go ahead, betch, I’m waiting.
Oh, did your Crackberry go off and you’ve got a meeting… I thought as much. Loan modification "policies" at Fannie Mae… that may just be the finniest thing I’ve heard all year.
And how about what the Wall Street Journal reported last week… according to ProPublica…
"The Wall Street Journal reported last week that the Obama administration has been pressuring the FHFA to allow Fannie and Freddie to reduce principal, and that they are “in talks” about joining the program that targets borrowers who aren’t behind on their loans."
Oh, come on… is this some sort of gag article… am I on Candid Camera… I’m serious… is that a camera in my closet next to my "Nobody tell Obama what comes after a trillion, okay?" coffee mug?
Obama has been pressuring them… the President of the United States is pressuring them… Ohhh, is it like Guantanamo… or more like Canyon Ranch… pressure me some more, Barack… I like it when you pressure me… a little to the left… ahhhh, that’s it… now down… yeeesss…
And the pressure has resulted in "talks" and after all that they may consider participating in the program that targets borrowers who AREN’T LATE? You mean the program that’s never been used once… because no one modifies loans that aren’t late, and if they do, they certainly never tell a soul for fear of embarrassment.
And the hits just keep on coming…
"Industry analysts, however, have expressed doubts that the talks will have much impact. Congressional Republicans have been particularly vocal in pressuring the FHFA against doing principal reduction."
Congressional Republicans, huh? Do I have one of those in my district? If I do I think I‘ll go find out where he parks and key his car… every day… for a year. I’m kidding about that, by the way, I’ve never keyed a car in my life. The sound would kill me… screeeeech… yikes.
But why do Congressional Republicans have a view on this issue? What are they a roving bunch of bullies that prowl the halls of the Capitol and intimidate people on issues that don’t have anything to do with them?
But, I’ll tell you what… why don’t you check to see if you have a Congressional Republican in your life and start sending him or her letters. Every day. Write seven on Sunday and then drop one in the mail every day of the week ahead. Then, get a friend of yours to do the same thing… then another… and another. I’m not sure you’ll accomplish anything for the principal reduction cause, but you’ll start feeling a whole lot better by Wednesday of week two at the very latest, I promise you that.
The ProPublica story explained that Obama does appoint the head of the FHFA, and that really blew me away. Obama appoints the head of the FHFA but Obama’s been pressuring him and it’s still a no go. Damn it, Obama, call Dick Cheney… he’ll tell you have to handle this… can you imagine this same thing happening to Cheney?
The article also said that Congress can also pass a law forcing the FHFA to allow principal reductions, but no one thinks Congress can pass anything but gas.
And get this… from the ProPublica article touched on my favorite subject… bankers putting down aid for homeowners because it constitutes a bailout:
Credit Suisse analysts wrote last week, “Given the current make up of Congress, it would be difficult to get a borrower bailout law approved, in our view.”
A "borrower bailout bill?" Did the guys from CREDIT SUISSE actually say "bailout bill" and sound snarky? Someone needs to find out where they hang out after work, throw them in the truck as they’re leaving, and take them on a Hannibal Lecter Tour of Great Places for Liver and Onions". That’s just what I want to hear, snarky Credit Suisse guys making fun of principal reductions by branding them a "bailout bill for homeowners."
Now, get this… ProPublica claims that based on data from OCC’s Mortgage Metrics, their analysis shows that banks have been doing principal reductions and discovering that they do make sense.
Meanwhile, banks have also been seeing the benefits in reducing principal in certain cases as well. Indeed, nearly all principal reductions that occur happen for the loans banks hold on their own portfolio, where they have the fewest obstacles to the modifications. Over the last year, banks have used principal reduction on almost a third of modifications on loans they own, according to ProPublica’s analysis of regulator’s data.
The article even goes as far as to say that both Wells Fargo and Bank of America have agreed to CONSIDER principal reductions for those that qualify for HAMP… but there’s that word again… "CONSIDER". Why does the Treasury keep using that word? Don’t they know that we got hip to that crap like more than two years ago?
But, according to ProPublica…
Wells Fargo and Bank of America, for example, have both agreed to consider principal reductions in the Treasury’s main loan modification program, but only for loans that they own outright. One bank executive said that their internal analysis predicts that a “good percentage” of their government modifications will soon involve principal reduction, since the calculations indicate that they will recoup more money by reducing principal.
“If it’s good enough for their own balance sheets, where the banks have the risk, why wouldn’t it be good enough” for Fannie and Freddie, asked FHA Commissioner Stevens.
Gee, I don’t know Commissioner Stevens… but you might… why don’t you share the answer with the rest of the country.
The article goes on to explain that Fannie and Freddie have arrangements that are different from others, because they can force others to cover losses on some delinquent loans, and it also implies that by granting a principal reduction, their ability to recoup losses from lenders that originated mortgages to buy back bad loans becomes limited in some way, although I don’t understand exactly why that’s the case.
And the article points out that many of Fannie and Freddie’s loans have mortgage insurance, so there’s an insurance company on the hook should the loan default.
Now, does that mean that the two insolvent GSEs are actually allowing those loans to default and go into foreclosure instead of modifying them because they’d prefer to recoup the insurance proceeds than prevent a foreclosure? Because that’s sure what it sounds like to me, and that’s just unbelievably wrong in so many ways… and must be exposed and stopped.
Look at what’s happening here…
Treasury Secretary Geithner just recently testified that he thought there’s a solid economic case for Fannie & Freddie to participate in the principal reduction programs, such as the new HAMP PRA, but they don’t participate in any of them. I mean, F&F aren’t participating in the new PRA even though, as the article says:
"For example, the voluntary “Principal Reduction Alternative” to Treasury’s main loan modification program encourages adjustments only where reducing principal costs less than letting the home go to foreclosure or than doing a modification that doesn’t trim the loan. But Fannie and Freddie are not participating, even though the program is only for principal reductions that would save them the most money."
That means that it’s all about short-term losses for Fannie & Freddie, avoid them at all costs, and their regulator, the FHFA is enforcing that stance. But, Fannie & Freddie, in my way of thinking shouldn’t even be given the choice. They are both bankrupt. Gone. History. They’ve already been NATIONALIZED, for God’s sake. Oh, I know… it’s a conservatorship, or whatever… and that means… I DON’T CARE WHAT THAT MEANS.
STOP SAVING COMPANIES WITH THE PEOPLE’S MONEY AND THEN LETTING THOSE COMPANIES HARM THE VERY PEOPLE WHO’S MONEY SAVED THEM… DAMN IT… STOP IT NOW.
Listen up, Washington D.C. You don’t have any money. You’re the world’s largest "irresponsible borrower." You are where you are to serve the people of this country. You are not here to hand out our money, and then say… "Do whatever you want to them, we don’t care."
You are paid to care… elected to care… there to care. Stop not caring…
Overstock accuses Goldman, Merrill of racketeering
by Alexandria Sage - Reuters
Overstock.com Inc plans to amend a lawsuit it filed in early 2007 to include racketeering claims against Goldman Sachs and Merrill Lynch, the online retailer said on Thursday. The original lawsuit, filed in the California superior court in San Francisco, alleged that Goldman Sachs Group Inc and Bank of America's Merrill Lynch unit engaged in a "massive, illegal stock market manipulation scheme" that involved so-called naked short-selling. In naked short selling, short sales are executed but never delivered, thereby causing the company's share price to fall.
"Merrill, Goldman and certain of their market maker clients agreed to and created a scheme to effect the naked short selling in Overstock securities that is the subject of this action, in order to perpetuate short selling and drive down the price of Overstock, to their mutual profit," alleges the motion, which was filed on Wednesday.
A Goldman Sachs spokesman said the bank opposes the motion, but did not elaborate. Bank of America declined comment. Overstock claims the brokerages' actions are illegal under New Jersey's Racketeer Influenced and Corrupt Organizations Act (RICO) and such claims can be decided by non-New Jersey courts. Overstock also said in a filing that it had settled with some unnamed defendants for $4.44 million in the case.
Congress Threatens to Sow the Seeds of Our Next Banking Crisis
by William K. Black - Benzinga
I wrote recently about the Bank of England sowing the seeds of their next banking crisis by deciding to reduce bank examinations. Spencer Bachus (R. Ala.), the incoming Chair of the House Financial Services Committee, told the Birmingham News: "In Washington, the view is that the banks are to be regulated, and my view is that Washington and the regulators are there to serve the banks."
Ron Paul (R. Tex.), asked to comment on Bachus' statement, said: "I don't think we need regulators. We need law and order. We need people to fulfill their contracts. The market is a great regulator, and we've lost understanding and confidence that the market is probably a much stricter regulator."
These comments share several characteristics. First, they demonstrate that many people in positions of power have not only learned the necessary lessons from the ongoing crisis -- they have learned the worst possible lessons. Second, the comments reprise disastrous approaches that allowed the crisis to occur. Third, the comments represent the continuing triumph of ideology over facts. Fourth, the comments rely on false dichotomies that are the enemy of reasoning and good policy.
1. The U.S. and much of Europe have suffered a crisis of great proportions after they adopted deregulation, desupervison, and the de facto decriminalization of financial firms. For the U.S., this is our third major financial crisis in 20 years brought on by those triple "de's." The incoming chairs' response to these crises is increased deregulation and desupervision (and no mention of prosecuting the control frauds driving the crises). What would it take to discredit policies that produce recurrent, intensifying crises?
2. The bipartisan "Reinventing Government" movement of the 1990s (championed by then Texas Governor Bush and Vice President Gore) led the senior leaders of the banking regulatory agencies to order their staff to refer to the industry as their "clients" or "customers." It became a major agency priority to make those clients happy with the regulators.
That policy became even more destructive during the Bush administration, which chose regulatory leaders based on the intensity of their opposition to vigorous supervision. SEC Chairman Pitt's first major speech was before a group of accountants. He expressed his regret that the SEC had not always been a "kinder and gentler" place for accountants and blamed his agency for not showing accountants more love.
The Office of Thrift Supervision's (OTS) head, "Chainsaw" Gilleran, posed with the three major banking lobbyists and the number two guy at the FDIC (who was Gilleran's successor) over a pile of federal regulations. Everyone held pruning shears, except Gilleran, who demonstrated the indiscriminate nature of his hate for regulation by holding a chainsaw.
It is no surprise that among insured depositories the largest accounting control frauds were regulated by the OTS (where "regulated by" translated into "not regulated by"). The OTS went so far in its efforts to "serve the banks" that it encouraged or knowingly permitted several insolvent banks to file false financial statements relying on backdated entries.
The federal banking regulatory agencies "serve[d] the banks" by preempting state efforts to regulate abusive, predatory, and fraudulent lending. The federal banking regulatory agencies even tried to preempt State Attorney General lawsuits against the leading mortgage frauds.
Similarly, the SEC "serve[d] the [investment] banks" by creating the Consolidated Supervised Entities (CSE) program for the purpose of protecting them from serious regulation by the European Union. The CSE program was a sham. The SEC staff assigned to examine the largest investment banks in the U.S. were not examiners and did not examine the investment banks. No one believed they could because the staffing level was farcical. Banks do not need regulators to "serve" them? There is no appropriate function in which we serve banks. There are many destructive ways in which anti-regulators would serve the interest of fraudulent banks.
3. Representative Paul's claims epitomize the triumph of ideology over fact: "The market is a great regulator, and we've lost understanding and confidence that the market is probably a much stricter regulator." No, the "market" is not a "great regulator" and the ongoing crisis is only the latest example of that point. Efficient, non-fraudulent markets would be a very good thing. Inefficient, markets with fraudulent participants can be a catastrophically bad thing.
The "market" also does not deal effectively with externalities (and they can be lethal) and with market power. The neoclassical claim that cartels cannot persist and that potential entry solves prevents all serious ills proved false in the real world. Here, however, I will discuss only why control fraud turns "markets" perverse. Accounting control frauds are guaranteed to report high profits in the early years. This is why Akerlof & Romer (1993) agreed with white-collar criminologists that such frauds were a "sure thing." I've explained why the four-part recipe for optimizing fictional accounting income maximizes executive bonuses -- and real losses. In the interest of brevity I will merely mention four ways in which accounting control frauds make markets, and "private market discipline" perverse.
- The fictional profits fool creditors and shareholders -- they are eager to lend to and invest in firms reporting record profits. Rather than discipline accounting control frauds, creditors and shareholders fund their massive growth.
- The fictional profits and the large bonuses they drive create a "Gresham's" dynamic in which bad ethics tends to drive good ethics out of the marketplace. The CFO that fails to emulate the fraud recipe will report far lower profits in the near term and will fear losing his job. More junior executives whose compensation is based on the firm's reported income have perverse incentives to engage in accounting fraud to ensure that the firm "hits the number" and have reduced incentives to blow the whistle on frauds.
- Lenders engaged in accounting control fraud create "echo" epidemics of fraud. They use their powers to hire and fire and create compensation systems to create perverse incentives in other fields: among their employees, "independent" professionals, and agents (e.g., loan brokers).
- When several large lenders follow similar fraud strategies they can hyper-inflate financial bubbles.
Anti-consumer control frauds can also turn markets perverse by creating Gresham's dynamics. Chinese infant formula provides a good example. Dishonest firms drove honest firms from the market -- maiming hundreds of thousands of infants' health. In the case of nonprime loans, for example, both principals (the borrower and the lender) typically lost utility as a result of the loan -- reverse Pareto optimality. The unfaithful and fraudulent agents, however, won big.
Even when private market discipline did finally kick in it did not perform as advertised. Instead of differentiating between good and poor credit risks and honest v. fraudulent actors it simply shut down hundreds of markets.
Rep. Paul's comparative statement -- implying that the markets were tougher regulators than the regulators -- fails on two bases. One, as pathetic as the anti-regulators were, they were commonly better than the market, e.g., warning about concentrations in commercial real estate well before the crash. Two, claiming that regulation is a failure because the ideological foes of regulation controlled the agencies and so completely desupervised the financial sector so completely that they created a self-fulfilling prophecy of regulatory failure is an act of chutzpah.
4. Rep. Paul's other remark, however, illustrates the false dichotomies that underlie the ideological assault on regulation. He notes that we "need law and order." He thinks that proves we don't need regulation, but it proves the opposite. The banking regulators are the "cops on the beat." We have nearly a million police and guards that deal almost exclusively with blue collar criminals. Control fraud creates a Gresham's dynamic because it means that cheaters prosper.
As regulators, we do "serve the [honest] banks" by taking away the ability of the cheaters to prosper -- when we regulate effectively. The OCC and the OTS did zero criminal referrals during the current crisis. We did thousands as regulators during the S&L debacle. We prioritized the most severe frauds (the large control frauds) and made the support of criminal prosecutions a top agency priority. The result was over 1000 priority felony convictions of S&L elites. Without the regulators' expertise the FBI cannot possibly stop an "epidemic" of mortgage (FBI House testimony, September 2004). In the ongoing crisis, the Department of Justice, denied regulatory support and relying instead on the Mortgage Bankers Association - the trade association of the "perps" -- has secured zero convictions of any senior officers of the large lenders specializing in nonprime lending/securitization.
Effective regulations and regulators are not the enemy of private markets or private market discipline, but rather one of the essential requirements for efficient, honest markets in a modern economy.
Federal Reserve Blocks New Foreclosure Regulations
by Zach Carter - Huffington Post
Top policymakers at the Federal Reserve are fighting efforts to rein in widely reported bank abuses, sparking an inter-agency feud with the FDIC and the Treasury Department. The Fed, along with the more bank-friendly Office of the Comptroller of the Currency, is resisting moves to craft rules cracking down on banks that charge illegal fees and carry out improper foreclosures. The FDIC supports such rules, according to an FDIC official involved in the dispute.
The new regulations would rein in debt collection, loan modification and foreclosure proceedings at bank divisions called "mortgage servicers." Servicers have committed widespread fraud in the foreclosure process. While the recent robo-signing of fraudulent documents has received the most attention, consumer advocates have complained about improper fees and servicer mistakes that lead to foreclosure for years.
A spokeswoman for the Fed told HuffPost that her agency supports stronger mortgage servicing standards, but does not know whether the securitization rules under Dodd-Frank give them the legal authority to act. The OCC declined to comment. "Given that we've seen a massive failure in servicing practices and a massive failure to address servicing in an honest way, I think this is important," says Joshua Rosner, a managing director at Graham Fisher & Co., and longtime critic of the U.S. mortgage system.
Last week, the National Consumer Law Center and the National Association of Consumer Advocates published a survey of 96 foreclosure attorneys from around the country, attesting that servicers have pushed 2,500 of their clients into the foreclosure process, even as the borrowers were negotiating loan modifications with the same servicers.
Banks have also been extremely slow to permit and process loan modifications for troubled homeowners. With housing prices down dramatically from their bubble-level peaks, mortgage investors usually limit their losses by reducing a borrower's debt burden instead of foreclosing. But servicers-- who are supposed to operate in the best interests of investors-- have been reluctant to grant mortgage modifications, particularly modifications that actually reduce the outstanding balance on the loan.
Servicers have also failed to live up to the rules proposed by the Treasury Department under President Obama's Home Affordable Modification Plan. According to a recent report by the Congressional Oversight Panel, a full 29,000 borrowers have been in temporary payment plans for more than a year without being granted permanent relief. The temporary modifications are supposed to last just three months under Treasury Department rules.
Regulators at all federal banking agencies are aware of the problems. On December 8, community outreach officials from the OCC and the Fed met with dozens of housing counselors from around the country and acknowledged that complaints about mortgage servicing abuses have been coming to their offices for years. Nevertheless, at a recent hearing, Comptroller of the Currency John Walsh said his agency didn't know about the outright fraud being committed by servicers until press reports emerged this fall.
Mortgage servicing sprang into existence with the invention of mortgage securitization markets in the 1970s and became a major part of the banking business as the housing bubble ballooned over the past decade. Servicers do not own the loans they handle. Instead, they make their money by skimming from interest payments they forward to mortgage investors who own the loan and by charging fees to delinquent borrowers. Critics argue that the arrangement encourages servicers to take actions that hurt both borrowers and investors, pushing homeowners into unnecessary foreclosures in order to reap bigger fees.
On Tuesday, more than fifty economists, banking experts and consumer advocates sent an open letter to banking regulators demanding action on mortgage servicers. Many of the proposed rules are simple standards of banking conduct, like appropriately crediting borrower accounts when they make payments. But most mortgage servicers are effectively unregulated at the moment. The OCC, which oversees the largest servicers, has never taken any formal public regulatory action against a mortgage servicer, allowing abuses to continue without serious consequences.
"Widely reported servicer fraud, whether in the foreclosure process or in the systematic assessment of illegal fees against homeowners, is . . . a serious problem," the letter reads, noting that, "problems of this magnitude are a threat not only to the economic recovery, but to the safety and soundness of all insured depository institutions."
The Wall Street reform bill signed into law by President Barack Obama this summer requires regulators to craft new rules to ensure the securitization market functions properly. The FDIC wants those rules to include standards for mortgage servicer conduct and hopes to have rules ready by the end of next month.
Nevertheless, the Fed and the OCC are pushing back, according to a source at the FDIC. Spokespeople from both the Fed and the OCC said their agencies support new mortgage servicing standards but declined to comment on the new rules being advocated by the FDIC. A spokesman for the Treasury Department said the Treasury supports regulating mortgage servicers, but was unable to comment on the FDIC plan by press time.
Reform advocates say that regulators can take action under so called "skin-in-the-game" or "risk-retention" requirements in the Wall Street reform bill. Banks that package and sell mortgage securities would be required to keep at least five percent of the credit risk from those securities on their own books, in an effort to prevent banks from scoring profits by selling garbage securities. The FDIC is on board.
"The FDIC believes that the risk retention rules are an appropriate vehicle permitted by the statute that would establish serving standards for the industry as a whole, and we should not miss this opportunity to set quality servicing standards for the future," FDIC General Counsel Michael Krimminger told The Huffington Post.
Under the new rules, banks will not have to maintain credit risk for top-quality mortgages, which regulators must define. Reformers hope to include mortgage servicing standards in the definition of a top-quality mortgage. The result, reformers say, would be a new industry standard that banks adopt as a matter of course to limit their own potential losses.
Banks Best Basel as Regulators Dilute or Delay Capital Rules
by Yalman Onaran - Bloomberg
More than 500 representatives from 27 nations, including top regulators and central bankers, met dozens of times this year to hammer out 440 pages of new rules to govern the world’s banks. What’s not in the documents published by the Basel Committee on Banking Supervision, and the escape hatches that are, may have more impact on how financial institutions will operate following a global credit crisis that led to $1.8 trillion in bank losses and writedowns.
The committee’s most significant achievement, members say, an agreement to increase the amount of capital banks need to hold, won’t go into full effect for eight years. Other measures that regulators had hoped would prevent future crises -- liquidity standards, a capital surcharge on the biggest lenders and a global resolution mechanism for failing firms -- were postponed, allowing banks to escape the toughest rules that would force them to change the way they do business.
"There will be changes, but not fundamental changes to the banking model," said Sheila Bair , who as chairman of the U.S. Federal Deposit Insurance Corp. sits on the Basel committee’s top decision-making body. "Hopefully there’ll be some pressure for banks to get smaller and simpler."
Bair, 56, is one of five U.S. representatives on the board. She has assailed bankers for exaggerating the impact of planned regulations in an effort to scare the public and politicians. In an interview in June, she questioned "whether regulators can place any reliance on industry analysis of the impact of proposals to strengthen capital rules."
Banks carried out a yearlong campaign to blunt international regulations, arguing that efforts to rein them in would curb lending and impede economic recovery. The lobbying effort was led by the Institute of International Finance , which represents more than 400 financial firms around the world and is chaired by Josef Ackermann , Deutsche Bank AG’s chief executive officer. Ackermann and other IIF members wrote hundreds of letters to the Basel committee, met with regulators and addressed forums from Seoul to Washington.
In June, the group published a report estimating that the proposed capital rules would result in 9.7 million fewer jobs being created and erase 3.1 percent of global economic growth -- estimates the Basel committee later challenged. "There is no question that increased costs to banks of core capital and funding will have to be largely passed along, which inevitably will take a macroeconomic toll," Ackermann, 62, said when he presented the report.
Banks also reached out to their home regulators, arguing that some rules would disadvantage them more than other nations’ lenders. That helped draw the battle lines inside the Basel committee, according to an account pieced together from interviews with half a dozen members who asked not to be identified because the deliberations aren’t public. Germany, France and Japan led the push for softening rules proposed last December and stretching out their implementation. The U.S., U.K. and Switzerland opposed changes or delays.
The committee agreed in July to narrow the definition of what counts as bank capital, focusing on common equity, which includes money received for selling shares and retained earnings. During the crisis, other forms of capital permitted under current rules, such as future benefits from servicing mortgages and tax deferrals, failed to provide a buffer against losses. Those are mostly disallowed under Basel III, as the rules published last week are known.
The capital requirements might have been stricter had it not been for Greece. Escalating concern that the country wouldn’t be able to service its debt, culminating in a May bailout by the European Union and a $1 trillion rescue package for other member states that may need it, darkened prospects for economic recovery. That led some committee members to bend to bank pressure, according to policy makers, central bankers and others involved in the process.
By September, when the committee met to set the actual capital ratios, the U.S. was pushing to require that banks have common equity equal to 8 percent of their risk-weighted assets, members said. It ended up at 7 percent, after Canada switched sides at the meeting, tipping the balance toward the German camp. Canada’s banks pressed their regulators to lower the ratio because they said they would be punished unfairly as healthy lenders that survived the crisis unscathed, the members said.
Even after being weakened, the new ratios and definitions would require banks to hold about $800 billion more capital, the committee said last week. Most lenders will be able to raise the money by retaining profits before the rules go into effect.
In addition to pushing for a higher capital ratio, Bair also argued for a global leverage ratio that would cap banks’ borrowing -- something the U.S. has had on its books since the 1980s. In July, when the committee was debating how to define capital, the U.S. agreed to some easing in exchange for Germany and France accepting a leverage ratio, some members said.
Proponents of the leverage ratio, or equity as a percentage of liabilities, say it’s a more straightforward way to prevent lenders from becoming too indebted. Unlike capital ratios, which are based on risk-weighting and can be manipulated, the leverage ratio counts all assets regardless of their risk. The more bankers borrow the more they can maximize profit per share, a yardstick for determining compensation. The more they borrow the higher the risk that a small decline in asset prices can wipe out equity and make the bank insolvent.
The Basel committee adopted a 3 percent leverage rule in July, meaning that for every $3 of capital, a bank can borrow no more than $97. While the percentage is tentative and subject to review before it goes into effect, it has since come under attack by banks in Europe and Asia, which say it will restrict their borrowing capacity and inhibit lending.
The EU may exclude the leverage ratio when it converts Basel rules into law next year. Several member nations have advocated dropping the rule, people close to the discussions said last month. A majority of the 27 EU countries oppose adopting the ratio, these people said. "The argument is that this will restrain lending -- I hope our colleagues in Europe don’t buy into this," Bair said in an interview earlier this month.
Recent academic research supports Bair. A July paper by Jeremy Stein , a professor of economics at Harvard University, and two colleagues looked at data going back to the 1920s and found no correlation between higher capital ratios and costlier lending by banks. An October paper by Anat Admati and three other professors at Stanford University concluded that increased equity levels don’t restrict lending.
"In the long run, higher capital has small impact on lending," said Stein in an interview. "But banks don’t like to go out and get it. And regulators bought the banks’ arguments on this. They could have been tougher." Bair, who first advocated the idea of an international leverage ratio in a speech to committee members in Merida, Mexico, in 2006, said she still expects global adoption.
Barbara Matthews , managing director of BCM International Regulatory Analytics LLC, a Washington-based company that advises on financial regulation, said the leverage ratio may not make it in the end. "Beyond tightening the definition of capital, nothing can be really counted as having been achieved," Matthews, a former bank lobbyist, said of the Basel committee’s work this year. "There’s continuing bickering over liquidity and leverage regimes. They’re still studying too-big-to-fail issues, and it might be too late to finalize them as events take them over."
The Basel committee, established in 1974, proposed its first liquidity standard, which would require banks to hold enough cash or easily cashable assets to meet their liabilities for up to a year. Running out of cash was behind the 2008 collapse of Bear Stearns Cos. and Lehman Brothers Holdings Inc. in the U.S. and Northern Rock Plc in the U.K.
After banks showed they’d have to raise as much as $6 trillion in new long-term debt to be in compliance, the committee delayed a final decision on the rule, setting up an "observation period" of four to six years. It will likely be revised, according to members. "Liquidity is very important and still an outstanding issue," said Douglas Elliott , an economics fellow at the Washington-based Brookings Institution and a former JPMorgan Chase & Co. banker. "They’re trying to do it in the next couple of years, but it could take many more years. Or it might never get done if it proves too contentious."
Lehman’s collapse also showed the need for a cross-border mechanism to wind down failing banks that have a global reach. More than 80 proceedings against the firm, involving hundreds of subsidiaries worldwide, have complicated recovery by creditors and destroyed much of the value of its assets.
The Financial Stability Board , which includes most Basel committee members as well as finance ministers from the Group of 20 nations, struggled to come up with such a resolution mechanism this year. The FSB postponed a decision until next year after divisions among nations proved too wide to bridge, members said. The group has been unable to agree on how to distribute losses among countries when a global bank fails and how different legal jurisdictions can recognize a single authority to pay creditors, the members said.
Too Big to Fail
The FSB is also responsible for determining which banks are systemically important and whether to impose additional capital requirements on them. The group may propose setting up national resolution authorities, rather than an international body, members said. Instead of a global accord on a surcharge for the largest banks, it may suggest a menu of options.
"Nobody’s been able to fix too-big-to-fail around the world because nobody knows how to do it," said Hal Scott , a Harvard Law School professor who also is director of the Committee on Capital Markets Regulation, a nonpartisan group of academics and business executives. "Even figuring out how to resolve giant banks nationally is tough. How can you do it internationally? That was the biggest lesson of the crisis, systemic risk, but that’s still unresolved."
Many issues may never be resolved, said Frederick Cannon , co-director of research at Keefe, Bruyette & Woods Inc. in New York, a firm that specializes in financial companies. G-20 leaders meeting in Seoul last month sounded as if they were claiming victory for regulatory reforms, even if they weren’t completed, Cannon said. "Before Seoul, I was expecting more reforms to be concluded next year," he said. "But now, more and more, I believe this is what we’re getting, nothing more. They got a 7 percent common equity requirement -- the rest is all uncertain to ever happen."
Charles Goodhart , a former Bank of England policy maker and professor at the London School of Economics, said he is more optimistic that differences will be resolved in coming years. "There is still lots to be done, but we haven’t lost the momentum," Goodhart said. "We’re 50 percent of the way there. We need to see it as the glass half full." Bair, who is stepping down from her FDIC position when her term expires in June, said she hopes the reforms will continue after she leaves the Basel committee. One remaining challenge, she said, is the reliance on banks’ internal models for measuring risk.
While smaller banks use standard risk-weightings prescribed by Basel, the largest banks use their own formulas to determine how much risk to assign their assets in calculating capital ratios. That leads to wide variations in how risk-weighted assets are tallied, Bair said. "We have to get beyond too much reliance on banks’ internal models, their own views on risk," she said.
African Farmers Displaced as Investors Move In
by Neil MacFarquhar - New York Times
The half-dozen strangers who descended on this remote West African village brought its hand-to-mouth farmers alarming news: their humble fields, tilled from one generation to the next, were now controlled by Libya’s leader, Col. Muammar el-Qaddafi, and the farmers would all have to leave.
"They told us this would be the last rainy season for us to cultivate our fields; after that, they will level all the houses and take the land," said Mama Keita, 73, the leader of this village veiled behind dense, thorny scrubland. "We were told that Qaddafi owns this land."
Across Africa and the developing world, a new global land rush is gobbling up large expanses of arable land. Despite their ageless traditions, stunned villagers are discovering that African governments typically own their land and have been leasing it, often at bargain prices, to private investors and foreign governments for decades to come. Organizations like the United Nations and the World Bank say the practice, if done equitably, could help feed the growing global population by introducing large-scale commercial farming to places without it.
But others condemn the deals as neocolonial land grabs that destroy villages, uproot tens of thousands of farmers and create a volatile mass of landless poor. Making matters worse, they contend, much of the food is bound for wealthier nations. "The food security of the country concerned must be first and foremost in everybody’s mind," said Kofi Annan, the former United Nations secretary general, now working on the issue of African agriculture. "Otherwise it is straightforward exploitation and it won’t work. We have seen a scramble for Africa before. I don’t think we want to see a second scramble of that kind."
A World Bank study released in September tallied farmland deals covering at least 110 million acres — the size of California and West Virginia combined — announced during the first 11 months of 2009 alone. More than 70 percent of those deals were for land in Africa, with Sudan, Mozambique and Ethiopia among those nations transferring millions of acres to investors.
Before 2008, the global average for such deals was less than 10 million acres per year, the report said. But the food crisis that spring, which set off riots in at least a dozen countries, prompted the spree. The prospect of future scarcity attracted both wealthy governments lacking the arable land needed to feed their own people and hedge funds drawn to a dwindling commodity.
"You see interest in land acquisition continuing at a very high level," said Klaus Deininger, the World Bank economist who wrote the report, taking many figures from a Web site run by Grain, an advocacy organization, because governments would not reveal the agreements. "Clearly, this is not over."
The report, while generally supportive of the investments, detailed mixed results. Foreign aid for agriculture has dwindled from about 20 percent of all aid in 1980 to about 5 percent now, creating a need for other investment to bolster production. But many investments appear to be pure speculation that leaves land fallow, the report found. Farmers have been displaced without compensation, land has been leased well below value, those evicted end up encroaching on parkland and the new ventures have created far fewer jobs than promised, it said.
The breathtaking scope of some deals galvanizes opponents. In Madagascar, a deal that would have handed over almost half the country’s arable land to a South Korean conglomerate helped crystallize opposition to an already unpopular president and contributed to his overthrow in 2009. People have been pushed off land in countries like Ethiopia, Uganda, the Democratic Republic of Congo, Liberia and Zambia. It is not even uncommon for investors to arrive on land that was supposedly empty. In Mozambique, one investment company discovered an entire village with its own post office on what had been described as vacant land, said Olivier De Schutter, the United Nations food rapporteur.
In Mali, about three million acres along the Niger River and its inland delta are controlled by a state-run trust called the Office du Niger. In nearly 80 years, only 200,000 acres of the land have been irrigated, so the government considers new investors a boon. "Even if you gave the population there the land, they do not have the means to develop it, nor does the state," said Abou Sow, the executive director of Office du Niger.
He listed countries whose governments or private sectors have already made investments or expressed interest: China and South Africa in sugar cane; Libya and Saudi Arabia in rice; and Canada, Belgium, France, South Korea, India, the Netherlands and multinational organizations like the West African Development Bank. In all, Mr. Sow said about 60 deals covered at least 600,000 acres in Mali, although some organizations said more than 1.5 million acres had been committed. He argued that the bulk of the investors were Malians growing food for the domestic market. But he acknowledged that outside investors like the Libyans, who are leasing 250,000 acres here, are expected to ship their rice, beef and other agricultural products home.
"What advantage would they gain by investing in Mali if they could not even take their own production?" Mr. Sow said. As with many of the deals, the money Mali might earn from the leases remains murky. The agreement signed with the Libyans grants them the land for at least 50 years simply in exchange for developing it. "The Libyans want to produce rice for Libyans, not for Malians," said Mamadou Goita, the director of a nonprofit research organization in Mali. He and other opponents contend that the government is privatizing a scarce national resource without improving the domestic food supply, and that politics, not economics, are driving events because Mali wants to improve ties with Libya and others.
The huge tracts granted to private investors are many years from production. But officials noted that Libya already spent more than $50 million building a 24-mile canal and road, constructed by a Chinese company, benefiting local villages. Every farmer affected, Mr. Sow added, including as many as 20,000 affected by the Libyan project, will receive compensation. "If they lose a single tree, we will pay them the value of that tree," he said.
But anger and distrust run high. In a rally last month, hundreds of farmers demanded that the government halt such deals until they get a voice. Several said that they had been beaten and jailed by soldiers, but that they were ready to die to keep their land. "The famine will start very soon," shouted Ibrahima Coulibaly, the head of the coordinating committee for farmer organizations in Mali. "If people do not stand up for their rights, they will lose everything!" "Ante!" members of the crowd shouted in Bamanankan, the local language. "We refuse!"
Kassoum Denon, the regional head for the Office du Niger, accused the Malian opponents of being paid by Western groups that are ideologically opposed to large-scale farming. "We are responsible for developing Mali," he said. "If the civil society does not agree with the way we are doing it, they can go jump in a lake." The looming problem, experts noted, is that Mali remains an agrarian society. Kicking farmers off the land with no alternative livelihood risks flooding the capital, Bamako, with unemployed, rootless people who could become a political problem.
"The land is a natural resource that 70 percent of the population uses to survive," said Kalfa Sanogo, an economist at the United Nations Development Program in Mali. "You cannot just push 70 percent of the population off the land, nor can you say they can just become agriculture workers." In a different approach, a $224 million American project will help about 800 Malian farmers each acquire title to 12 acres of newly cleared land, protecting them against being kicked off.
Jon C. Anderson, the project director, argued that no country has developed economically with a large percentage of its population on farms. Small farmers with titles will either succeed or have to sell the land to finance another life, he said, though critics have said villagers will still be displaced. "We want a revolutionized relationship between the farmer and the state, one where the farmer is more in charge," Mr. Anderson said.
Soumouni sits about 20 miles from the nearest road, with wandering cattle herders in their distinctive pointed straw hats offering directions like, "Bear right at the termite mound with the hole in it." Sekou Traoré, 69, a village elder, was dumbfounded when government officials said last year that Libya now controlled his land and began measuring the fields. He had always considered it his own, passed down from grandfather to father to son.
"All we want before they break our houses and take our fields is for them to show us the new houses where we will live, and the new fields where we will work," he said at the rally last month. "We are all so afraid," he said of the village’s 2,229 residents. "We will be the victims of this situation, we are sure of that."
The Housing Debacle
by Dan Weintraub