Both
came to an end at the same time: the administration’s policy to Extend &
Pretend has run out of time as has the patience of the US electorate
with the government’s Keynesian economic policy responses. Desperate
last gasp attempts are to be fully expected, but any chance of success
is rapidly diminishing.
Before we can identify what needs to be done, what the administration is
likely to do and how we can preserve and protect our wealth through it, we
need to first determine where we are going wrong. Surprisingly, no
one has assessed the results of the American Recovery & Reinvestment Act
2009 (ARRA) which was this administration’s cornerstone program to place
the US back on the post financial crisis road to recovery.
We can safely conclude either:
1-
The administration completely under estimated the
extent of the economic crisis, even though we were well into it when the
ARRA was introduced.
2-
The administration was unable to secure the
actually required stimulus amount which was likely 4-5 times that
approved.
3-
The administration failed to implement the program
in a timely manner.
4-
The administration failed to diagnose the problem
correctly and that in fact it is a structural problem versus a cyclical
and liquidity problem, as they still insist it to be.
As
horrific as the gulf environmental catastrophe is, an even more
intractable and cataclysmic disaster may be looming. The yet unknowable
costs associated with clean-up, litigation and compensation damages due
to arguably the world’s worst environmental tragedy, may be in the
process of triggering a credit event by British Petroleum (BP) that will
be equally devastating to global over-the-counter (OTC) derivatives. The
potential contagion may eventually show that Lehman Bros. and Bear
Stearns were simply early warning signals of the devastation lurking and
continuing to grow unchecked in the $615T OTC Derivatives market.
What is yet unknowable is what the reality is of BP’s off-balance sheet
obligations and leverage positions. How many Special Purpose Entities
(SPEs) is it operating? Remember, during the Enron debacle Andrew Fastow,
the Enron CFO, asserted in testimony nearly 10 years ago that GE had
2500 such entities already in existence. BP has even more physical
assets than Enron and GE. Furthermore, no one knows the true size of
BP’s OTC derivative contracts such as Interest Rate Swaps and Currency
Swaps. Only the major international banks have visibility to what the
collateral obligations associated with these instruments are, their
credit trigger events and who the counter parties are. They are
obviously not talking, but as I will explain, they are aggressively
repositioning trillions of dollars in global currency, swap, derivative,
options, debt and equity portfolios.
Among the details uncovered
by the Post’s journalists:
Some 1,271 government organizations and 1,931
private companies work on programs related to
counterterrorism, homeland security, and intelligence
in about 10,000 locations across the United States.
An estimated 854,000 people hold top-secret
security clearances.
Just in Washington and the surrounding area, 33
building complexes for top-secret intelligence work
are under construction or have been built since
September 2001. Together they equal almost three
Pentagons, about 17 million square feet of space.
Analysts who try to make sense of documents and
conversations obtained by foreign and domestic spying
share their judgments by publishing 50,000
intelligence reports each year – a volume so large
that many are routinely ignored.
If you think all of this
must create a lot of redundancy and useless effort, you’re
right. But it also leads to an enormous data stream that
can barely be processed. Much less acted upon
intelligently. Thus, for example, the underwear bomber,
who should have been nabbed before he got on the plane,
had to be taken down by an alert private citizen instead.
The current state of affairs
is summed up by retired Army Lt. Gen. John R. Vines, who
was asked last year to review how the Defense Department
keeps track of its most sensitive programs.
Gen. Vines was shocked to
find that there is no “agency with the authority,
responsibility or a process in place to coordinate all
these interagency and commercial activities. The
complexity of this system defies description.” And he
concluded that, “Because [the system] lacks a
synchronizing process, it inevitably results in message
dissonance, reduced effectiveness and waste. We
consequently can't effectively assess whether it is making
us more safe.”
The next time European nations in the south-sweeping arc from
Ireland to Greece - aka PIIGS - sink under the weight of their
debt, the Germans will not come to the rescue.
A rumor that spread through the market yesterday was that
Bernanke -- who is due to testify today in front of Congress
starting at 2:00 PM -- would soon lower or eliminate the
interest paid on excess reserves held at the Fed.
The idea: Make it a little less lucrative
to park cash and not loan it. There's a good chance the
idea is bunk, but what if it were true?
The potential benefit
of lowering the IOER rate is that of not only another interest
rate easing, but more importantly, it would be intended to
serve as a catalyst to prompt additional bank lending.
Banks still have over $1 Trillion in Excess Reserves
(Chart 1) from the Fed’s Quantitative Easing program parked in
the safety of the Fed’s coffers. Year over year M2 (
growth has been running under 2%, which is muted for a nation
that has recently completed 15 months of Quantitative Easing.
Reducing the interest on reserves to zero theoretically would
incentivize banks to lend or invest those reserves. Thus
getting that money into the economy would stimulate activity
and would appear as new M2 growth. It is the typical
policy of trying to provide a nudge towards risk taking in a
risk averse world. Currently, interest on excess
reserves is 25 basis points, so the banks get the benefit of
the yield of a 1 Year T-Bill for overnight parking. In
an uncertain world, that’s not a bad deal if you happen to
have an extra Trillion dollars sitting around.
Here's the problem with
the math.
That being said, banks are only making $2.5 Billion per year
from that interest. They could make the same
amount by lending out $65 Billion (6% of those reserves) at
4%. Evidently they are opting for the conservative
route. We would note that the weak response by the
market to the revenue numbers at the banks will likely send
the message to bank executives that they will need to pick up
the pace of lending before the year ends, so a nudge from the
Fed may not even be necessary. Regardless, having a
lever to pull if necessary is a good thing.
There are now two main props keeping the housing market afloat.
1- One is the growing percentage of home sales financed by Federal Housing
Administration (FHA) loan guarantees. 2- The other is the refusal of banks to put on the market foreclosed homes over
$300,000.
One Example from article:
Chicago and Cook County, IL
Let's begin with Chicago. Cook County is comprised of Chicago and its
contiguous suburbs and has a population of roughly 5.3 million residents.
It experienced a huge bubble during 2004-2006 and has suffered a substantial
drop in both prices and home sales.RealtyTrac.com has the most comprehensive database on foreclosures. It
claims to have specifics on over 1.5 million defaulted, auction-ready, and
bank-owned properties. The information is updated daily. You can
organize listings of defaulted properties; those scheduled for auction, and
repossessed homes (REO) by date as well as by amount. The website also
provides a separate listing of those properties which have been put up for sale
by the lender.
As of July 15, RealtyTrac listed 28,829 properties which had been foreclosed and
repossessed by lenders. Some have been owned by the bank as long as 2½
years without having been placed on the market. Roughly half have been
repossessed by the lender since late January 2010. This year, banks in the Chicago area have foreclosed on a huge number of
expensive homes. RealtyTrac lists 2,650 repossessed homes for more than
$300,000 and 169 for more than $1 million. Here is where it gets really interesting. Out of 28,829 repossessed
properties, there were only 1,292 listed by lenders as "for sale." The
vast majority of these available homes were inexpensive. A mere 29 homes
over $300,000 were for sale. In other words, the banks have withheld from
the market 2,621 properties listed at $300,000 or higher.
There are
probably two important reasons why banks have pursued this
strategy.
1- First, they are concerned that placing these more
expensive homes on the market will severely weaken an already
thin upper tier market.
2- Even more crucial is that selling substantial numbers of
expensive homes at discounts of 50% or more would compel the
lenders to take substantial losses which have been avoided by
keeping them off the market.
Extend & Pretend to the point of
flagrant market manipulation endorsed by the government
For a vivid example of how pointless QE1 was (and QE2 will be),
look no further than the 30 Year FRM fixed: the mortgage rate is
now at the lowest it has ever been, at 4.57%, for the second week
in a row, and housing is unanimously double dipping. The problem
is that the Fed has no more incremental mortgages to buy, so QE 2
will likely be all about other assets. Yet with USTs also at or
near all time tights, there is little point for the Fed to bid up
Treasuries. Which is why QE2 will be all about risky assets: the
Fed will find a way to go all out and bid up stocks. Although, as
today indicates, and as we first posted earlier, all the idiotic
market needs is some totally groundless rumor of a reserve
interest cut to go from down 1.5% to up in the span of an hour.
All the Fed needs to do is pull a Radioshack, and keep leaking day
after day that it will bid up $5 trillion in AAPL stock and watch
the Dow hit 36,000 tomorrow as all the HFT go nuts with
frontrunning each other, all the while Goldman keeps on betting
against all of its major clients (and praying it will be correct
this time).
"the housing
downturn dragged the economy into a recession nearly three years ago,
now it is
the economy that is pulling down housing"
Economist
Patrick Newport at IHS Global Insight.
In major markets across the country, home sales are
deteriorating, inventories of unsold homes are piling up and
builders are scaling back construction plans. The expiration of a
federal home-buyers tax credit at the end of April is weighing on
the market.
In major markets across the country, home sales
are deteriorating, inventories of unsold homes are piling up and
builders are scaling back construction plans. The expiration of a
federal home-buyers tax credit at the end of April is weighing on
the market.
The
housing market faces two big problems:
1- too many homes and
2- falling demand.
More than seven million borrowers are 30 days or more past due
on their mortgage payments or in some stage of foreclosure. Rising
foreclosures will keep pressure on prices as banks put more homes
on the market.
Last month, nearly 39,000 borrowers received government-backed
loan modifications, but more than 90,000 borrowers fell out of the
program, the Obama administration said on Tuesday.
3- the pool of potential buyers remains constrained by the
unprecedented number of homeowners who are underwater, or who owe
more than their homes are worth.
Mortgage-finance giants Fannie Mae and Freddie Mac also are
starting to push more repossessed homes onto the market. The
companies owned 164,000 homes at the end of March, up 80% from a
year ago.
EXPIRATION FINANCIAL CRISIS PROGRAM/font>
PENSION & ENTITLEMENTS CRISIS
CHRONIC UNEMPLOYMENTb>
Unemployment Benefits Extension Clears Senate Hurdle
AP
BP has signed prominent American scientists to lucrative
research contracts that come with non-disclosure agreements,
according to
Press-Register.
Professors at Louisiana State University, University of
Southern Mississippi and Texas A&M have agreed to work for BP
at $205 an hour. The rules of academia say these professors
are allowed to work as outside consultants for up to eight
hours per week. Science departments that refused to sign
non-disclosure agreements were not hired.
Press-Register:
"We told them there was no way we
would agree to any kind of restrictions on the data we
collect. It was pretty clear we wouldn't be hearing from them
again after that," said Bob Shipp, head of marine sciences at
the University of South Alabama. "We didn't like the
perception of the university representing BP in any fashion."
BP officials declined to answer the
newspaper's questions about the matter. Among the questions:
how many scientists and universities have been approached, how
many are under contract, how much will they be paid, and why
the company imposed confidentiality restrictions on scientific
data gathered on its behalf.
SSShipp said he can't prohibit
scientists in his department from signing on with BP because,
like most universities, the staff is allowed to do outside
consultation for up to eight hours a week.
The Obama administration has tightened its control over BP's
checkbook and resources as the oil company responds to the
disaster, in a move that has political peril as well as promise.
BP is spending about $100 million a day on its massive spill
response, according to an internal tally, and Washington's input
adds to the cost.
McKinsey Quarterly published a
study in April to answer just that. Here is what McKinsey
has to say after comparing analysts' earnings forecasts
vs. the actual for the past 25 years:
"Analysts, we found, were typically
overoptimistic, slow to revise their forecasts to reflect new
economic conditions, and prone to making increasingly
inaccurate forecasts when economic growth declined."
Moreover, McKinsey also finds that on average, analysts’
forecasts for earnings have been almost 100% too
high in the past 25 years. (See graph)
GOLD MANIPULATION
VIDEO TO WATCH
QUOTE OF THE WEEK
The U.S. economy continues to face the predictable effects
of credit obligations that quite simply exceed the cash flows
available to service them, coupled with the predictable shift
away from the consumption patterns that produced these
obligations. The misguided response of our policy makers has
been to defend bondholders at all costs, using public funds to
make sure that lenders get 100 cents on the dollar, plus
interest, while at the same time desperately trying to prod
consumers back to their former patterns of overconsumption.
These policies are designed to preserve exactly the reckless
and unsustainable behavior that caused the recent downturn.
They are likely to fail because the strategy is absurd. The
ultimate outcome, which will be forced upon us eventually if
we do not pursue it deliberately, will be the eventual
restructuring of debt obligations and a gradual shift in the
profile of U.S. economic activity toward greater saving –
either to finance exploding government deficits, or
preferably, to finance an expansion in productive investment,
research and development, and capital accumulation.
From my perspective, bolder approaches are required. Debt
that cannot be serviced should be restructured, rather than
socializing the losses of reckless private decision-making. We
will inevitably have a large "stimulus" package, but it will
be essential to craft it in a way that emphasizes incentives
to create and accumulate productive capital, both private and
public.
On the tax side, we also have options. There are far more
possibilities than simply preserving or discarding the Bush
tax cuts. Frankly, I was never a fan of those cuts, which
added more variation, not less, in tax rates across various
forms of income. Ideally, efficient tax systems should feature
flat rates and very broad bases. You define income in a very
wide manner, and you tax it all at the same rate. You
introduce a progressive tax structure by creating large
exclusions from taxes at low income levels, so that people at
lower income scales pay no tax at all. In my view, the same
thing should be done with Social Security – drop the rate
substantially, but include all income – wage and non-wage.
Three-quarters of Americans pay more in payroll taxes than in
income taxes. By reducing the wedge between the hourly amount
earned by employees and the hourly cost paid by employers,
this strategy would create immediate incentives for
employment. Moreover, it would raise more revenue because at
present, even Warren Buffett only pays Social Security taxes
on the first $106,800 of income. Combining a flatter income
tax with a flatter and broader payroll tax would stimulate
growth, employment, and greater economic efficiency without
compromising total revenues.
Gordon T Long is not a registered advisor and
does not give investment advice. His comments are an expression of opinion
only and should not be construed in any manner whatsoever as
recommendations to buy or sell a stock, option, future, bond, commodity or
any other financial instrument at any time. While he believes his
statements to be true, they always depend on the reliability of his own
credible sources. Of course, he recommends that you consult with a
qualified investment advisor, one licensed by appropriate regulatory
agencies in your legal jurisdiction, before making any investment
decisions, and barring that, we encourage you confirm the facts on your
own before making important investment commitments.
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Gordon T Long
is not a registered advisor and does not give investment advice. His comments
are an expression of opinion only and should not be construed in any manner
whatsoever as recommendations to buy or sell a stock, option, future, bond,
commodity or any other financial instrument at any time. While he believes his
statements to be true, they always depend on the reliability of his own
credible sources. Of course, we recommend that you consult with a qualified
investment advisor, one licensed by appropriate regulatory agencies in your
legal jurisdiction, before making any investment decisions, and barring that,
we encourage you confirm the facts on your own before making important
investment commitments.
