Double Whammy
Misguided government policies have already dealt vicious body blows to our economy, but that hasn’t stopped politicians this week from launching two new kicks to the groin: a national health insurance plan and a carbon emissions regulation system called “cap and trade.” Even if these plans could achieve their desired ends, which is highly unlikely, I would have hoped Washington would refrain from throwing more monkey wrenches into the economy until it shows some signs of resurgence. The last thing we need right now is to further encumber our economy with higher taxes and additional regulations.
The meteoric rise in health care costs, which has become an unending nightmare for U.S. businesses and consumers, is not an accident. This painful condition has arisen from excess government involvement in the system, tax provisions that encourage the over-utilization of health insurance, and government support of an out-of-control malpractice industry. Rather than allowing more bad policy to drive health care costs further upward, we should be looking at ways to allow market forces to reign them back in.
If left alone, the free market drives quality up and costs down. Government programs produce the opposite result. Despite the president’s claim that a federal plan will bring costs down, there is no historical precedent for such faith.
Simply providing more widespread health insurance, as the Obama plan offers, is not a solution. In fact, it will aggravate the problem. Since consumers no longer pay for routine medical expenses out of pocket, comprehensive health insurance creates a moral hazard for both patients and doctors. To maximize the value of the health insurance “benefit,” most workers opt for low deductibles and co-pays. Therefore, doctors learn that their patients are not concerned with the cost of care, and so they are free to bill insurance companies at the maximum allowable rates.
Given our current tax code, the simplest way to bring down medical costs would be to fully tax health care benefits as wages and simultaneously increase the personal deduction by an amount significant enough to neutralize the effect of the tax increase. This would do two things. First, the uninsured would get a huge pay increase, enabling them to buy reasonably priced catastrophic policies. Second, those currently insured could opt out of expensive employer-provided plans, trading premiums for extra wages, then buy a more economical plan. The savings would go right into their pockets.
The bottom line is that aggregate medical costs will never come down unless services are rationed more wisely. Rather than being used as a pre-payment plan for routine care, insurance should only cover unpredictable, catastrophic costs.
As a comparison, homeowners often carry fire insurance, but seldom maintenance insurance. You buy fire insurance to guard against a catastrophic loss, which is a low probability but high cost event. As a result, fire insurance is relatively affordable, since premiums paid by all those homeowners whose houses do not burn down more than pay for the losses on those few whose houses do.
On the other hand, no one carries home maintenance insurance to pay for a clogged drain or broken garage door. If insurance paid for the plumber visit every time a toilet overflowed, we would now have a plumbing crisis, and Congress would be looking to reign in runaway plumbing bills with “national plumbing insurance.”
In his press conference, President Obama claimed that government insurance would not drive private providers out of business. This is absurd. As the government provider will not have to produce a profit or accurately account for its contingent liabilities, it will provide insurance on an actuarially unsound basis. With taxpayer subsidies, the government provider can run losses indefinitely. If private insurers did this, they would either be shut down or go bankrupt. Therefore, the cost of government provided health insurance will not be confined to the premiums paid, but will include the taxpayers’ bill to continually bail out the government provider.
When Medicare was first proposed back in 1966, it cost $3 billion per year, and the projection was for inflation-adjusted annual costs to rise to $12 billion by 1990. The actual cost in 1990 was $107 billion, and the 2009 estimate is a staggering $408 billion! So much for government estimates on health care.
As if this were not bad enough, today the House votes on “cap and trade” legislation. Disguised as an environmental bill, this proposal would merely be another gigantic tax. The lion’s share of the new revenue is already committed to politically connected special interests that will reap windfalls at everyone else’s expense. To make matters worse, the bill before Congress amounts to a blank slate, with the EPA empowered to draft the details in any manner they see fit. If Congress is going to shoot the economy in the knee, they should at least be required to pull the trigger themselves.
“Cap and trade” will do nothing to reduce pollution, yet it will drive up production costs throughout the economy – rendering us even less globally competitive that we are today. In addition to the huge cost of paying the tax, its enforcement involves the creation of an entire new bureaucracy, the costs of which will be borne by American consumers in the form of higher prices.
Years of reckless borrowing and spending have left us in a gigantic hole. Getting out of it requires that we make the most effective use of all available resources. We need labor and capital to operate as efficiently as possible so we can save and produce our way back to prosperity. Unfortunately, national health insurance and “cap and trade” are two steps in the wrong direction. Rather than getting us out of this hole, they will merely cave in the walls around us.
Not Green Shoots — Just Falling Leaves
While corporate earnings fell by some 38 percent in the first quarter, a dismal performance by just about anyone’s reckoning, Wall Street took heart that the results were not as bad as the consensus estimates had predicted. Straws were frantically grasped. Buoyed by the resulting talk of “green shoots” and the hope of a relatively quick economic recovery, the Dow Jones Industrial Average surged nearly 40% from its lows.
Since the crisis began, Wall Street cheerleaders and politicians have seized on every scrap of data to support the notion that a recovery is imminent. When such a mentality takes hold, just as happened in the dot-com bubble and the real estate bubbles, the importance of actual earnings diminishes greatly.
Now, three months into our apparent recovery, corporations have continued to issue somber sales outlooks, and insiders are heavy net sellers. When second quarter corporate earnings are announced in July, they will confirm that an economic recovery was likely a Wall Street pipe dream. Not surprisingly, springtime optimism is fading and markets are falling back.
Already major official bodies, not renowned for their integrity in offering politically depressing news, are gradually releasing uncomfortable economic news. On June 22nd, the World Bank announced that global GDP would fall from its previous forecast of negative 1.7 percent to negative 2.9 percent, a drop of 70%.
On the same day, the White House belatedly announced that it expects the official unemployment rate will reach 10 percent. Including all the unemployed and unwilling part-time workers, this translates into an unofficial rate of some 20 percent. The unemployment rate at the height of the 1930’s depression was around 30 percent, just 50 percent higher than today.
Ivory tower economists have always believed that consumption is the key for economic growth. With roughly 72 percent of U.S. GDP derived from consumption, they argue that recovery will only come about from increased consumer spending. Since unemployment and plummeting home and stock prices are hurting consumers, the economists’ solutions look to government to pick up the slack. With this wayward hypothesis, the federal government has set about bailing out businesses and directing money toward consumers in the form of “stimulus.”
To some extent, this injection of trillions of dollars into the economy temporarily contained the financial panic, leading some observers to declare, “Mission Accomplished.” However, the question remains as to whether we are experiencing a true bull market or merely a bear market rally. To justify the case of a bull market, it is necessary to buy into the consumer demand hypothesis. I, on the other hand, believe that the disproportionate level of consumer spending was only a symptom of an underlying disease.
The real problem was and is a long record of monetary and fiscal recklessness by the federal government. This has allowed the natural economic equilibrium to destabilize, and for consumption to become the dominant sector of our economy. This kind of maladjustment is almost never seen as a problem, while it lasts. If given the choice, most people would prefer to solely consume and not produce. But as we all learn when we get our first credit cards, the fun stops when the bill comes.
So, while the government’s measures have contained acute financial panic in the stock market, consumers remain in a state of shock and are deleveraging fast. This is an expected result of people reacting reasonably to a darkening economic landscape. To the economists, however, it will be seen as justification for another, bigger “rescue plan.” But the more the government intervenes, the more asset prices are held artificially high, the longer it will ultimately take for the needed restructuring to happen. The result will be a longer recession, and perhaps a depression.
We feel that, fed on political and Wall Street hype, the current U.S. bear market rally could last into July or August. It could even result in a Dow of 10,000 before reality dawns and pulls it back down. I currently expect the secular bear market to continue for another three years, most likely with a series of bear market rallies and endless talk of “green shoots.”
Despite the market noise, realists will focus on the growing evidence of depression in America and expect U.S. markets to decline in real terms until perhaps 2012. In the meantime, they may be reminded not of Wall Street’s “green shoots” but of the words of Johnny Mercer’s song which ran, “…And soon I’ll hear old winter’s song. But I’ll miss you most of all, my darling, when autumn leaves start to fall…”
Back In The U.S.S.A.
Harry Browne, the former Libertarian Party candidate for president, used to say: “the government is great at breaking your leg, handing you a crutch, and saying ‘You see, without me you couldn’t walk.’” That maxim is clearly illustrated by the financial industry regulatory reforms proposed this week by the Obama Administration.
In seeking to undo the damage inflicted over the past decade by misguided government policies, the new regulatory regime would ensure that the problems underlying our financial system will only get worse. As was the case with the deeply flawed Sarbanes-Oxley legislation of 2002, or the misguided provisions of the Patriot Act of 2001, such as the torturous anti-money laundering requirements, the move will further burden the financial services industry with unnecessary regulation that will drive up costs, lower quality, and shelter the biggest and least innovative companies. Ultimately, the structure will put the entire U.S. financial industry at a global competitive disadvantage.
The underlying problem is that the excessive risk taking which brought about the crisis was not market-driven, but a direct consequence of government interference with risk-inhibiting market forces. Rather than learning from its mistakes and allowing market forces to once again control risks and efficiently allocate resources, the government is merely repeating its mistakes on a grander scale – thereby sowing the seeds for an even greater crisis in the future.
As is typical of government attempts to control economic outcomes, Obama’s plans focuses on the symptoms of the disease and not the cause. The American financial system imploded for two reasons: cheap money and moral hazard – both of which were supplied by the government. Under the proposed new regulatory structures, these toxic ingredients will be combined in ever-increasing quantities.
The proposals most notably involve extra regulatory oversight of financial entities that the government deems “too big to fail.” This implies that it is desirable to have such entities in the first place, and that the government will continue to back those large organizations that fall under its protection. These “too big to fail” firms will enjoy a competitive advantage over smaller firms in attracting capital, as lenders will perceive zero risk in extending them credit. This will cause these firms to grow even larger, producing even greater systemic risks and larger losses when the next round of bailouts arrives. Meanwhile, smaller firms which seek to expand, and which propose no systemic risks, will face greater challenges as higher capital costs render them less competitive.
If the government did not provide these bailouts or guarantees, then the market itself would ensure organizations did not grow beyond their ability to attract capital. It is only when market discipline is overcome by government guarantees that systemic risks arise.
Obama proposes to entrust the critical job of “systemic risk regulator” to the Federal Reserve, the very organization that has proven most adept at creating systemic risk. This is like making Keith Richards the head of the DEA.
Given the Federal Reserve’s disastrous monetary policy over the past decade, any attempt to expand the Fed’s role should be vigorously opposed. Through decades of short-sighted interest rate decisions, the Fed has proven time and again that it is only able to close the barn door after the entire herd has escaped. If setting interest rates had been left to the free market, none of the excesses we have seen in the credit market would have been remotely possible.
The perverse result will be that our government and the Fed gain more power as a direct result of their own incompetence. Such was also the case with Freddie and Fannie, which should have been allowed to fail, but were nationalized instead, leaving them in a position to do even more damage. The new round of regulations ignores them completely. Along those lines, ratings agencies such as Standard and Poor’s and Moody’s that completely missed the mark were also spared. Perhaps this special treatment is a way of ensuring that Treasury debt maintains its bogus AAA rating.
Unfortunately, despite their intent, my guess is that the new regulations will most severely impact smaller firms, like my own, that never engaged in reckless behavior. This will further reward those “too big to fail” firms, whose economies of scale and cozy relationships with regulators leave them better positioned than their smaller rivals to absorb the costs of the added red tape.
With the transition now fully under way, I propose we end the pretense and rename our country: “The United Socialist States of America.” In fact, given all the czars already in Washington, we might as well go with the Russian theme completely: appoint a Politburo, move into dilapidated housing blocks, and parade our missiles in the streets. On the bright side, there’s always the borscht.
Flying Kites
This week, the BRIC countries (Brazil, Russia, India, and China) conspicuously gathered in Moscow for their first-ever economic summit. Although these countries are divided by culture and geography, they are united by healthy economic growth and their concern about unprecedented levels of U.S. debt and the safety of their respective reserves. There can be no doubt that these emerging economic powers are trying to chart an economic path that will free them from dependence on the American financial system. And there is ample evidence that the first coordinated steps are being taken.
Although their combined GDP represents only fifteen percent of the global economy, these four countries together hold some 40 percent of the world’s currency reserves, more than half of which is denominated in dollars. As they begin to openly question the continued role the U.S. dollar as the world’s official ‘reserve,’ attention should be paid.
The recent murmurs coming from Moscow were the second public expression of growing dollar concern in less than six months. Only this past April, at the G-20 meetings in London, China suggested that the U.S. dollar be replaced by a gold-backed currency, administered by the International Monetary Fund (IMF). China tactfully allowed its motion to die under a general G-20 display of unity and goodwill. Likewise, at the G-8 meetings in Italy this past weekend, the Russian Finance Minister, Alexei Kudrin, said, “the U.S. dollar’s role as the world’s main reserve currency is unlikely to change in the near future.”
‘Flying kites’ is a well-proven political technique for gaining gradual acceptance of a new idea. In April, it was China alone who raised the first official prospect of replacing the U.S. dollar as the world’s ‘reserve’ currency. Now, China has been joined by its fellow BRIC members. Both times, the idea was raised and then tactfully dropped. But each time it served to erode confidence in the dollar’s role. It is likely that the next time the matter is aired publicly, some OPEC members will also add their names.
It appears, therefore, that although support is continually ebbing, the U.S. dollar will avoid a direct attack from creditor states, at least for now. But investors should be aware of what led the mighty American dollar to be questioned in the first place.
When President Bush entered office, the published U.S. Treasury debt was a massive $5 trillion. He and Greenspan added a further $5 trillion by financing the biggest asset boom in history.
Since then, President Obama has launched a massive socialist-style program of bailouts, quasi-nationalizations, and stimulus measures orientated towards even more entitlements — at a projected additional borrowing cost of around $2 trillion. At the same time, $2.5 trillion of Treasury debt has to be refinanced this year, meaning the government will have to borrow a total of $4.5 trillion in 2009 (even on the most optimistic assumptions). Despite this, the Fed had, until recently, been successful in persuading the Treasury market that all was under control, such that government bond yields held at surprisingly low rates.
Now, however, there is increasing concern as to how the massive projected budget deficits are to be financed without a steep increase in interest rates and a resulting fall in current bond prices. Indeed, last Monday, in an attempt to quell the negative sentiment, a top IMF official publicly professed that the recent spike in longer-dated U.S. Treasury yields was not a sign of inappropriate monetary policy.
In reality, there is increasing investor concern about potential depreciation of the U.S. dollar, which may require the defensive action of sharply increased interest rates.
The Chinese and Japanese together hold almost $2 trillion of U.S Treasury obligations, or almost one-sixth of the total outstanding Treasury debt. As the largest single holder, the Chinese are particularly concerned. Indeed they have called for “special guarantees.” The great, unspoken risk is that China may slow or even halt its regular purchases of Treasuries, causing great damage to U.S. interest rates. Worse still, China may wish to lower its risk exposure both to U.S. inflation and to a forced increase in U.S. interest rates by switching long bonds for short-dated bills. At worst, China could become a net seller of U.S. Treasuries, putting great pressure on the U.S. dollar and American interest rates.
Little wonder that U.S. Treasury Secretary Tim Geithner visited China recently to calm nerves. We may never know what “special guarantees” Geithner promised in order to prevent the Chinese from taking ‘unhelpful’ or even drastic actions. Whatever they were, it is unlikely they will keep China quiet for long, especially as the dollar’s value degrades.
The U.S. dollar is clearly coasting on its legacy. The Obama Administration’s actions have eroded confidence to the point that the rapidly developing BRIC membership has risked its own substantial stake in dollar investments to publicly call for an alternative. These comments are the tip of the iceberg. Behind the scenes, we can bet that creditor states are preparing for flight. Though the dollar’s slide has been stayed by pronouncements of confidence from Russia, Japan, China, and others, there will come a time when the pain is too great and the outcome too certain. Private investors who haven’t already left the collapsing dollar ballroom may be crushed when the big players stampede for the door.
Southern California Home Prices Rise, Though Inland Numbers Are Less Rosy
With foreclosures representing a smaller portion of home sales, median home prices in Southern California rose slightly in May, showing the first month-to month price increase since July 2007.
The one-month gain was not reflected in Inland Southern California, and analysts hesitated to say prices wouldn't fall further. In Riverside County the median home price -- where half sold for more and half for less -- was unchanged from April at $180,000, while in San Bernardino County the median price slid by $1,500, from $138,500 in April to $137,000.
More sales of expensive homes in coastal counties and fewer sales of cut-priced foreclosures in the Inland counties caused the price elevation in Southern California, according to MDA DataQuick, which on Wednesday released its May housing report.
DataQuick spokesman Andrew LePage said it is uncertain whether the leveling of home prices means they have hit a solid bottom. The median home price has dropped more than 45 percent in San Bernardino County and nearly 38 percent in Riverside County in the past year.
"It is still a pretty nasty recession, and we know more foreclosures are coming, but we just don't know how many," said LePage. "The uncertainty over foreclosures and the depth of job losses makes it very tricky to call a bottom right now."
Chapman University Economist Esmael Adibi said the most promising trend is a surge in sales, as first-time home buyers and investors have jumped in to buy bargains. Home sales were 28 percent higher last month in Riverside County than in May 2008 and 51 percent higher in San Bernardino County than a year earlier.
"Sales are reducing the inventory and laying down a foundation for prices to go up," said Adibi. He predicted that if the job market improves as he anticipates, in a year the Inland counties will see median home prices that are higher than today's.
Sue Acker-Bare, an agent with Century 21 Showcase in Highland, said she has seen first-time buyers drawn into the market by a $8,000 federal tax credit and low home prices. Also an increase in interest rates -- from about 4.5 percent a month ago on a fixed-rate conforming loan to nearly 5.9 percent Wednesday -- has convinced some not to wait any longer, she said.
"I think it is a good time," said Mayra Gomez, 24, who with her husband and two children moved a week ago into a three-bedroom house on a golf course that they bought from a bank for $254,000 in Riverside.
Gomez said they're overjoyed to buy a house with a Federal Housing Administration loan that required only a 3.5 percent down payment. When they first went house-hunting 18 months ago, she said, lenders wanted 20 percent down, and houses cost a lot more.
Real estate agents say because the number of foreclosed properties on the market has declined substantially this year, buyers are forced to bid against one another for what is available, with successful offers frequently above list price.
"Just about every property now has multiple offers. The market is looking more and more like a sellers' market," said Mike Teer, broker-owner of Teer One Properties in Riverside
Ed Leamer, director of UCLA's quarterly Anderson Forecast, said an unknown is the impact of mortgages that were extended often without income documentation and with alternative payment plans to home buyers and homeowners who refinanced a few years ago. These mortgages are scheduled to reset to higher monthly payments in coming months.
Homeowners with such mortgages may not be able to refinance because of lower property values and could decide to let their homes go to foreclosure, said Leamer.
Leamer said he believes the number of such mortgages that fail will be fewer than the subprime mortgage failures that fueled the initial wave of foreclosures. Also he said this second round of foreclosures would not be as concentrated in the Inland counties.
DataQuick noted that with fewer foreclosed houses for bargain hunters, sales have begun to rise for higher priced houses. In Riverside County between April and May sales of homes priced less than $100,000 remained the same, but sales of homes priced more than $400,000 rose 5 percent.
http://www.pe.com/business/realestate/stories/PE_News_Local_S_dataquick18.4510c05.html
Property Rights Take a Hit
“Crony capitalism” is a term often applied to foreign nations where government interference circumvents market forces. The practice is widely associated with tin-pot dictators and second-rate economies. In such a system, support for the ruling regime is the best and only path to economic success. Who you know supersedes what you know, and favoritism trumps the rule of law. Unfortunately, this week’s events demonstrate that the phrase now more aptly describes our own country.
On Monday, the Supreme Court refused to hear an appeal from Chrysler’s secured creditors based on the government’s argument that the needs of other stakeholders outweighed those of a few creditors. In this case, the Administration concluded the interests of the United Auto Workers outweighed the interests of the Indiana teachers and firemen whose pension fund sued to block the restructuring. Given the enormous financial support that the UAW poured into the Obama campaign, such partiality is hardly surprising.
When making their investment in Chrysler just a few months ago, the Indiana pension fund agreed to commit capital because of the specific assurances received from the company. In allowing this sham bankruptcy to be crammed through the courts, we have shredded the vital principal of the rule of law, and have become a nation of men, rather than one of laws.
The risk that legal contracts can now be arbitrarily set aside will make investors think twice before committing capital to distressed corporations. Oftentimes enforcing contracts imposes hardships. That’s precisely why we have contracts.
Without absolute faith that deals will be honored, it will be extremely difficult for U.S. companies to borrow money. This will be particularly true for those companies already struggling with too much debt. Without the ability to issue secured debt, how will such companies access the necessary capital to turn around? If secured creditors cannot count on the courts to enforce their claims, they will not put their capital at risk. What good is being a secured creditor if courts can allow the assets securing your claim to be sold for the benefit of others?
Another problem with the government imposing losses on secured Chrysler creditors is that in its bailouts of financial companies (like Citigroup and AIG), the government took steps to specifically pay back creditors, even when those creditors should have been wiped out. This inconsistency and lack of equal protection further undermines faith in our economy.
The message here is clear: loan money to financial entities with friends in Washington and no matter how risky the loan, taxpayers will bail you out if it goes bad. However, loan money to a unionized manufacturer, even if prudently secured by real assets, and you have as much chance of getting your money back as finding Jimmy Hoffa’s body.
As if this wasn’t bad enough, testimony on Thursday from former Bank of America CEO Ken Lewis revealed a concerted effort on the part of Fed Chairman Ben Bernanke and former Treasury Secretary Henry Paulson to pressure Lewis into hiding relevant financial information regarding Merrill Lynch losses from B of A shareholders. Recently released e-mails make it clear that the government threatened to remove corporate leaders if they failed to go through with the merger and keep quiet about the losses.
Again, the justification for the interference seemed to be the “greater economic good” the merger would serve. The right of B of A shareholders to be informed that their company was about to buy a financial black hole was clearly considered to be an acceptable sacrifice.
More importantly, the fact that two of the highest-ranking government officials can conspire to violate both securities laws and private property rights is abhorrent to everything America supposedly stands for. If they get away with it, which I believe they will, the precedent and the message will be chilling.
As a broker who specializes in foreign investments, I am always wary of political risk. I must consider how the threat of arbitrary government action could undermine the value of my investments. However, recent events show that political risk is now greater here than abroad, and U.S. assets, which have historically traded at premium valuations based on faith in our legal system, will soon trade at discounts to reflect this new threat. The fear of having contracts abrogated or property rights violated when doing so serves some contrived greater good will substantially raise our cost of capital and further reduce our competitiveness.
For a more in depth analysis of our financial problems and the inherent dangers they pose for the U.S. economy and U.S. dollar denominated investments, read Peter Schiff’s book "Crash Proof: How to Profit from the Coming Economic Collapse".
Inland Housing Defaults, Repos Drop In May, Though Experts Say Conditions Still Dire
Foreclosure activity in Inland Southern California declined from April to May, with fewer notices of default and bank repossessions than a year ago.
But real estate experts say the numbers reflect special circumstances apart from market trends and do not offer homeowners reason to hope their pain is ending.
Daren Blomquist, spokesman for RealtyTrac, which released its monthly foreclosure report late Wednesday, said the current decline in defaults and foreclosures should not "give people a false sense that the problem is solved before it actually is."
RealtyTrac said Riverside County recorded 4,694 notices of default in May, down from 6,019 in April and 5 percent fewer than in May 2008. Homes repossessed dropped from 1,519 in April to 1,296 in May, which was 44 percent fewer than a year earlier.
Chapman University economist Esmael Adibi said the root causes of foreclosure remain: the resetting of mortgages to monthly payments that borrowers can't afford and job losses in a weak economy.
"If you look at these two elements, I don't see how we will see a significant drop in either notices of default or foreclosure until at least the end of this year," Adibi said.
San Bernardino County saw notices of default fall to 3,521 in May from 4,661 in April and 13 percent from May 2008. The number of homes repossessed declined from 1,580 in April to 1,296 in May, 45 percent fewer than a year earlier.
Still, last month all combined foreclosure-related activity -- which includes the notices of default plus notices of trustee sales and bank repossessions -- increased by more than 16 percent in Riverside County and by more than 20 percent in San Bernardino County compared to the previous May.
Last month Riverside County ranked third and San Bernardino seventh among California counties in rate of foreclosure filings, with Riverside County having one filing for every 70 households and San Bernardino County one filing for every 81 households.
Month-to-month foreclosure activity has ebbed, Blomquist said, probably because of state legislation that delayed notices of default and foreclosure moratoriums that lenders adopted in anticipation of a mortgage modification program the Obama administration launched in March.
While foreclosure moratoriums officially expired after the winter holidays, some lenders continue to hold off foreclosures for borrowers who they determined may qualify for help under the new federal loan modification guidelines.
"I am hopeful that right now, with a more firm plan in place by the Obama Administration, there will be a better chance of not only delaying foreclosure but preventing foreclosure in more cases," Blomquist said.
But he added that Obama's modification program is so new that he doesn't think its effectiveness will be known until the third or fourth quarter.
"If we see another wave of defaults hit, that is indicative that it is not working well," Blomquist said.
He noted that in an effort to stave off foreclosure, a group of mortgages were altered last year under other modification programs, but by the year's end many of the modified loans had re-defaulted.
http://www.pe.com/business/realestate/stories/PE_Biz_S_foreclosure11.4559e2d.html
The Charm Offensive
Commentary By Peter Schiff
This week, Team Obama took their dog and pony show on the road. Treasury Secretary Geithner went to China, Fed Chairman Bernanke to Capitol Hill, and the President himself began a Mideast tour in Saudi Arabia. This full-court press is not coincidental, and comes just as the federal government has begun unloading trillions of dollars in new Treasury obligations. The coordinated charm offensive is meant to assure the world-at-large that the United States can repay these obligations without destroying the dollar.
Given the renewed weakness in the dollar and the recent expressions of concern from China, our largest creditor, about the safety of its current holdings, this is no easy sell. Not only must our leaders convince holders of our debt not to sell what they already own, but to back up the truck and buy a whole lot more. The hope is that a dream team consisting of a charismatic politician, a skilled Wall Street banker with longstanding ties to China, and a respected Fed Chairman, can close the deal. However, no matter how slick the sales pitch, no amount of lipstick can dress up this pig.
The most obvious fear the trio must address is that oversized deficits will persist indefinitely. Reading from a carefully scripted rebuttal book, all three proclaim that as soon as the stimulus revives our economy, the government will take all necessary steps to reign in the deficits that result. Bernanke’s testimony showcases this rhetorical shift. The Fed Chairman claimed that catastrophe has been averted and that the recession is nearly over. As a result, he advised Congress to now focus on debt management. How he expects them to do that was left unexamined.
Setting aside the fact that the recession is far from over and that the stimulus will actually weaken the economy in the long run, Bernanke’s words were less a practical guide to Congress than a bromide for our foreign creditors. Meanwhile, Obama carefully peppers his speeches with calls for Americans to live within their means, to save more and spend less, to produce more and consume less. But nothing in the government’s current fiscal or monetary policy will encourage such behavior. In fact, the objective of economic stimulus is to prevent such changes from taking place!
The laughter of Chinese students that greeted Secretary Geithner at Peking University shows how ridiculous this spiel sounds overseas. Actions speak louder than words, and the actions of the current Administration are deafening. Multi-trillion dollar deficits, bailouts, nationalizations, quantitative easing, and grandiose plans for government-provided healthcare, education, and alternative energy, render all their claims of future prudence meaningless. If our leaders will not make tough choices now, why should anyone believe they will do so later when those choices will be even harder to make?
Of course, it’s not just major holders, like China and Saudi Arabia, that need to be convinced. Since the largest holders are already in so deep, they have the greatest short-term incentive to play ball. While throwing good money after bad is certainly a lousy investment strategy, it is politically expedient as it delays the need to officially acknowledge losses. The spin is designed to keep all the smaller, more nimble holders from dumping their Treasuries. The major holders can publicly pledge their commitment to Treasuries, while they privately planning their exit strategies, as long as they feel that the smaller holders won’t spook the market by front-running their trades.
However, once the psychology turns, there is no way to stop the rush for the exits. Remember how quickly the secondary market for subprime mortgages collapsed? One day, investors were lining up to buy; the next day, the stuff couldn’t be given away. Make no mistake about it, we are issuing subprime paper and no amount of political spin can alter that reality. Bogus credit ratings aside, I think the world already knows this and it’s just a matter of time before someone admits it.
In the meantime, by continuing to lend, our creditors merely supply us the shovels to dig ourselves into an even deeper economic hole. Their credit enables our government to grow when it needs to shrink, finances bailouts of companies that should be allowed to fail, and enables a nation that should be saving and producing to continue borrowing and spending. As a result, the more money the world loans us, the less capable we are of paying it back. I really wish the world would stop doing us favors, as neither party can afford the consequences.
For an timely example, just look at California. With an unmanageable $20 billion deficit, California recently asked Washington for a bailout. With none immediately forthcoming, California was forced to make real and needed budget cuts. The hard choices, which will benefit California in the long run, would not have been made if federal funds had been committed. We all should be so lucky.
For a more in depth analysis of our financial problems and the inherent dangers they pose for the U.S. economy and U.S. dollar denominated investments, read Peter Schiff’s book "Crash Proof: How to Profit from the Coming Economic Collapse".
There Goes The Country
Yesterday, after a painfully long death spiral, General Motors finally filed for Chapter 11 bankruptcy protection. Oftentimes, bankruptcy portends rebirth. Unfortunately, the politically-inspired GM plan holds no such possibilities. Under the current deal, the restructuring of GM will cost taxpayers some $100 billion (after the hidden costs of interest and refinancing are included). Even then, it is highly unlikely that GM will ever be competitive or that its debts will ever be repaid. Far worse, the massive government bailout will delay rather than encourage broader economic recovery. And yet, U.S. stock markets rose on the GM announcement as if it were good news.
General Motors is but a microcosm of what most ails the U.S. economy. For decades, GM rested on its laurels. Its management yielded to innumerable, exorbitant trade union demands, passing the costs on to consumers in the form of lower quality products. The result was that higher quality foreign cars, eventually also produced domestically by American workers, severely eroded GM’s once dominant market position. The company’s autonomy was effectively extinguished by the growing debt needed to finance this downward spiral. Investors, believing that GM was “too big to fail,” continued to accept the company’s high-risk paper.
In short, GM was brought to its knees by the abuse of trade union power and management’s unwillingness to fight back.
Contrary to general belief, GM is not a huge employer. It directly employs only some 60,000 workers. This is less than one tenth of one percent of the number of Americans presently unemployed. However, its trade union pension fund is being given billions of dollars of citizens’ money and a major stake in the restructured company. Favoring GM workers over the millions of America’s unemployed is grossly inequitable. The reason, however, is found in the murky world of politics.
The United Auto Workers (UAW), GM’s primary union, was a major supporter of President Obama’s election campaign. Predictably, this Administration has moved aggressively to subsidize them. Obama has taken the position that GM workers are an ‘elite’ and entitled to privileges not afforded to other workers. If GM were any other company entering bankruptcy, many workers would have lost their jobs, pensions and health coverage. Not so under the protective blanket of Daddy Government.
In its fight for grotesque entitlements for this small, but heavily Democratic, subset of the workforce, the Administration has run roughshod over those who financed the American auto industry, even labeling some as “unpatriotic” for failing to surrender their contract rights as bondholders. The notion that these stakeholders should “cooperate” to reach an “equitable” solution ignores the free-market cooperation that led to the original, contractual agreements. If I agree to give you half of my steak in return for half of your mashed potatoes when I finish my entrée, and when I go to collect you have eaten 9/10 of your mashed potatoes, can you plead poverty? You ate the potatoes!
Aside from these considerations, the sheer logic of the deal is faulty. Has Obama ever heard of opportunity costs?
Having pursued a path to commercial failure for many decades, it is clear that GM’s management and workforce are moribund. However, the government has decided to pump massive amounts of citizens’ money into this flaccid firm, without the practical ability to change its operations. Remember, the unions put Mr. Obama in office, and this project is meant to reward them. Will he have the courage to do what a profit-seeking management couldn’t, by cutting the fat from this company? Obama now claims that a new “private sector” management team will be installed to make decisions independent of political control. This is farcical.
Economists believe that for each $1 billion spent on infrastructure projects, 35,000 wealth-generating jobs are created in the broader economy. The Administration is set on spending a minimum of $60 billion, and more likely $100 billion, to protect 60,000 workers at GM. Spent on much needed infrastructure, these same monies would create between 2.1 and 3.5 million real private sector jobs.
Furthermore, the money spent on GM represents a direct penalty against those foreign auto companies that manufacture domestically, who are fighting desperately for a piece of a decreasing market. American workers at these plants must surely feel unfairly discriminated against. Perhaps these competitors’ ownership is overseas; but, while GM was shipping its manufacturing to Canada and Mexico, these firms were expanding their operations right here in America.
The federal bailout of GM exemplifies the grossly negative impact that government intervention has on the economy. As this type of behavior becomes ever more accepted and popular (barring a major change in voter sentiment), the prospects for the U.S. dollar and American stock markets is grim. Yet, American investors are bullish on the bad news. They are reading corrupt bankruptcy proceedings and profligate spending as a sign of effective governance. This highlights how desperately most investors, indeed most Americans, are clinging to the red herrings of “hope” and “change.”
As goes GM, so goes the country.
For a more in depth analysis of our financial problems and the inherent dangers they pose for the U.S. economy and U.S. dollar denominated investments, read Peter Schiff’s latest book "The Little Book of Bull Moves in Bear Markets".
Obama Should Tell California to Drop Dead
During the height of New York City’s financial crisis in the 1970’s, President Gerald Ford had the good sense to turn down Mayor Abe Beame’s request for a federal bailout. The refusal prompted the famous New York Post headline, “Ford to City: Drop Dead.” More than 30 years later, as California Governor Arnold Schwarzenegger makes a similar plea to Washington, I hope President Obama will show similar restraint. Unfortunately, given Obama’s recent string of unwise economic decisions, it’s hard to imagine that his judgment will suddenly improve.
A federal bailout would spare California from having to make spending cuts needed to bring its budget into balance. The matter has become urgent since California voters rejected several tax-hiking ballot initiatives. Rather than taking the vote as a signal to dramatically curtail spending, the state turned to the feds. If they get a free pass, the politicians can avoid fixing any of their past mistakes or preparing California for the future.
California, like many states, expended its bureaucracy as the nation’s bubble economy inflated. When condos flipped like hamburgers and homeowners flush with equity spent like lottery winners, extra tax revenue flooded into Sacramento. However, instead of saving the money for a rainy day or paying off prior debts, the state government simply ballooned its spending. Now that the bubble has burst, and revenues are severely depleted, it is time for California to reconsider its excesses.
Governor Schwarzenegger’s claim that a federal guarantee is not a bailout is ludicrous. No one in the private sector will lend California any money because the state can’t pay it back. Just like AIG and GM, it needs federal help to stay solvent. And although the Federal balance sheet is in far worse shape than California’s, there is one crucial difference: Washington has a printing press, and Sacramento does not. With the ability to pay off debts with newly created funds, a federal default is not a concern.
However, if Obama comes to the rescue, none of the needed cuts will be made. Instead, California will continue to operate its bloated bureaucracy and will be in constant need of more bailouts. In other words, if Schwarzenegger gets his bailout, look for him to utter his famous line – “I’ll be back.”
But it’s not just Schwarzenegger who will be back, but governors from all the other states as well. After all, if the Federal government bails out California, by what right can they deny similar aid to other states? The bailout will send a clear message that states do not need to cut spending.
Similar to the reckless behavior that resulted from federally guaranteed mortgages, federal guarantees on state debt will counteract the market’s attempt to force states to act responsibly. As the market accurately prices-in the heightened risk of default, California faces staggering increases in its borrowing cost. Under normal circumstances, this pressure would force the state to act prudently now to diminish the risk of a future default. However, by allowing California to evade the “bond market vigilantes,” the stage will be set for much bigger losses.
The moral hazards created by state bailouts are tremendous. With federal guarantees given to profligate states, those states that had shown greater fiscal responsibility will face higher interest rates –as their bonds lack a federal guarantee. This creates the perverse incentive for all states to act irresponsibly.
Just as government-guaranteed mortgages lead the market to make overly risky home loans, federally guaranteed state obligations will set the stage for yet another crisis.
Federal backing of California bonds would effectively turn them into Treasury bonds, with the added appeal of being exempt from California state income tax. Therefore, the Treasury will be at a competitive disadvantage when it looks to issue its own debt to Californians. If it then has to guarantee the bonds of all the other 50 states, why would any Americans buy Treasuries when they can get identical credit quality on better terms from the states? The only real buyers left would be foreigners, who are already queasy about the Treasuries they own.
The need to make good on state and federal obligations will further depress the appeal of all U.S. dollar-denominated debt. As a result, as real buyers flee the market, the Fed will have to run its printing presses even faster to pick up the slack. This will set into motion a self-perpetuating spiral of money printing and Treasury sales with a predictable result: hyperinflation.
In the meantime, by redirecting credit to California that otherwise would have gone to more credit-worthy borrowers, the government will worsen the credit crunch for the rest of the country. Since there is only a finite supply of credit, money borrowed by California will no longer be available to other borrowers. The effect is a less efficient allocation of capital that further undermines national productivity.
The only rational policy choice for Obama is to send Schwarzenegger packing. If he does, California will have no choice but to cut spending or default on its bonds. My guess is that, with their backs to the wall, the California legislature will choose the former. However, even if they default, at least the losses will be borne by those who freely assumed the risks. With a bailout, the losses will be shouldered by those who were not even parties to the transactions. If we go this route, we can all say “hasta la vista, baby” to our prosperity.
For a more in depth analysis of our financial problems and the inherent dangers they pose for the U.S. economy and U.S. dollar denominated investments, read Peter Schiff’s book "Crash Proof: How to Profit from the Coming Economic Collapse".