Archive for July 15th, 2009
Despite the administration’s aggressive and costly economic policy initiatives, there is trouble all around.
Barely six months in office, President Obama already finds himself in an economic box. For despite his aggressive and costly economic policy initiatives, the jobs market shows no sign of healing. At the same time, the housing market foreclosure crisis continues apace, while renewed questions are again surfacing about the soundness of the U.S. banking system. To complicate matters, financial markets are now starting to fret about the longer-run inflationary consequences of the unusually large budget deficits in prospect for as far as the eye can see.
In January 2009, on presenting its $780 billion fiscal stimulus package, the Obama administration assured the public that because of that stimulus package U.S. unemployment would not exceed 8 percent. Yet already by June 2009, unemployment had risen to 9.5 percent; including part-time workers, who would prefer to be working full time, unemployment rose to a staggering post-war high of over 16 percent. Worse still, the jobs market shows every sign of being far from bottoming out.
The degree to which unemployment has exceeded the administration’s forecasts has to raise basic questions about the appropriateness and coherence of President Obama’s economic policy approach.
The degree to which unemployment has exceeded the administration’s forecasts has to raise basic questions about the appropriateness and coherence of President Obama’s economic policy approach. These questions pertain not simply to the very poor design of the fiscal stimulus package. Rather they pertain to the adequacy of the measures aimed at stabilizing the housing market and at resolving the country’s most wrenching credit crisis in the post-war period.
At the most basic level, one has to question how much sense it made for President Obama to allow the fiscal package to become excessively back-loaded at time when the economy needed immediate large scale support. If a large fiscal stimulus was indeed needed, why has only $60 billion of that package been dribbled out by June? And why is less than a third of the package scheduled to come into effect in 2009, the year when the package is most sorely needed?
Similarly one has to wonder about the heavy price that the Obama administration paid for effectively outsourcing the package’s design to House Speaker Nancy Pelosi and the rest of the Democratic congressional leadership. Should it really have come as a surprise to us that the resulting stimulus package would be laden with pork and with expenditures that are going to be very difficult to roll back? Or should we now be shocked that the package fell sadly short of including fast acting and effective fiscal stimulus measures that might have gotten the most bang for the buck?
Perhaps the most troubling aspect of the Obama fiscal stimulus package is the serious way in which it compromises the country’s long-run public finances and fans long-run inflationary expectations. The nonpartisan Congressional Budget Office estimates that the Obama budget not only implies unusually large budget deficits over the next two years but it implies that, even when the economy eventually fully recovers, the deficit will remain in the region of between 4 and 6 percentage points of GDP. As a result, over the next decade, the public debt will rise in a manner that has never occurred before in peacetime, from around 41 percent of GDP in 2008 to 82 percent of GDP by 2019.
Over the next decade, the public debt will rise in a manner that has never occurred before in peacetime from around 41 percent of GDP in 2008 to 82 percent of GDP by 2019.
The rising tide of unemployment must also raise questions about the Obama administration’s efforts to stabilize the housing market, which the administration correctly views as a necessary condition for producing a meaningful economic recovery. One has to expect that a weaker job market will only exacerbate the country’s present foreclosure crisis, which is adding supply to an already glutted housing market. The Center for Responsible Lending estimates that 2.4 million homes could be in foreclosure in 2009 and as many as 8.1 million homes over the next four years. Yet, the Obama administration’s loan modification program announced earlier this year has to date only resulted in 190,000 offers at mortgage loan modification.
Rising unemployment also has to raise questions about whether the Obama administration is not being overly sanguine about the health of the U.S. banking system. For it would seem that unemployment will now well exceed the worst-case scenario in the bank stress test presented by the administration earlier this year. Yet, despite a weakening unemployment outlook that is sure to boost bank losses, the Obama administration is now cavalierly backing away from its earlier initiatives to reduce the toxic assets that remain on the banks’ balance sheets.
Less than six months into his term, President Obama already faces difficult economic policy choices. He can choose, as he now seems to be doing, to counsel patience and assure us that all is well at considerable cost to his credibility on economic policy management. Or he can own up to the facts that he misread the economy in January and that his economic team now needs to go back to the drawing board. For the sake of the U.S. economy, one has to hope that he has the courage to review the overall coherence of his policy approach before it is too late.
Desmond Lachman is a resident fellow at the American Enterprise Institute. He was managing director and chief emerging market economic strategist at Salomon Smith Barney and a deputy director in the International Monetary Fund’s policy and review department.
Obama Is Stuck In an Economic Box – Desmond Lachman, The American
July 15th, 2009
Our current economic crisis has revived economic and political discussions about the Great Depression. One reader wrote to me that Google citations for both the “Great Depression” and the “New Deal” have increased by several million since just last year. And while our current crisis remains far milder than the Depression, many nevertheless compare the two episodes, particularly when it comes to discussions about what the government should–or should not–do to promote economic recovery. And comparisons between today and the Great Depression will not end soon, as our crisis continues, and as some have called for a second round of federal spending to promote recovery.
A number of commentators and some in Congress have cited some of my research on the New Deal to caution against large-scale government programs to spur recovery, while research by other economists, including Dr. Christina Romer, chair of President Obama’s Council of Economic Advisers, is cited by others in Congress for the need for large-scale stimulus programs. (Both Dr. Romer and I presented our views during recent testimony before the U.S. Senate Banking Committee. Hers can be found here and mine here. )
Why Are Economists Divided About the Depression? – Lee Ohanian, Forbes
July 15th, 2009
July 15 (Bloomberg) — Congress can’t make up its mind. First, legislators pushed to let banks take a rosy view of the value of some hard-hit holdings. Now, two key committee chairmen claim banks aren’t being realistic enough about the values of some loans.
The allegation by House Financial Services Chairman Barney Frank and Senate Banking Chairman Christopher Dodd that banks are holding some loans at “potentially inflated values” should trouble investors, since it came just days before institutions like JPMorgan Chase & Co., Bank of America Corp. and Citigroup Inc. are due to report second-quarter results. If some loan values are “inflated,” that again calls into question the quality of banks’ results.
Why, after arguing for banks to have more leeway, is Congress now pushing back? Because many government responses to the financial crisis are more about manipulating prices — and behavior — than truly getting markets back on their feet.
Dressing up bank balance sheets was a first-quarter political priority. Now there is a push to get banks to modify more troubled mortgages. That effort is being stymied by a rosy view taken by many banks of the value of home-equity loans and second-lien mortgages.
Many banks have marked down these loans only by 3 percent to 4 percent, said Paul Miller, bank analyst at Friedman Billings Ramsey & Co. These loans in many cases would likely fetch about 40 cents on the dollar if sold in today’s market.
The losses are “a big part of the toxic asset issues facing banks,” Miller added.
Balk at Losses
A first mortgage on a house often can’t be restructured without the agreement of the holder of the second loan, which would entail writing it down in value. Banks have balked at doing that, due to the losses that would result. And why shouldn’t they? Congress, the Obama administration and regulators all told them earlier this year to hope for the best when it came to valuing their assets.
Let’s review. Congress this spring browbeat accounting rulemakers to make it easier for banks to ignore dour market prices for some holdings battered by the credit crisis. That was designed to help banks’ finances look better.
Without subsequent rule changes by the Financial Accounting Standards Board, earnings at 45 banks and financial companies would have been 42 percent lower than reported, according to a report last month by Jack Ciesielski, editor of The Analyst’s Accounting Observer.
The rule changes allowed companies to sidestep some impact of mark-to-market accounting on securities, many of them backed by mortgages, that have fallen in value for an extended period.
Saved From Losses
The “maneuver saved eight of the firms — Prudential Financial Inc., SI Financial Group Inc., First Commonwealth Financial Corp., National Penn Bancshares Inc., Bank of New York Mellon Corp., Zenith National Insurance Corp., Sun Bancorp Inc. and American Equity Investment Life Holding Co. — from reporting first-quarter losses instead of net income,” Ciesielski wrote.
Another rule change allowed companies in some cases to ignore market values and use their own estimates for troubled assets. That helped Wells Fargo & Co. avoid what may otherwise have been a $4.5 billion hit to its capital.
This was all part of ongoing and often unsuccessful efforts to push prices in a particular direction.
Last fall, the Securities and Exchange Commission instituted a temporary ban on selling financial stocks short — or betting they would decline in value — to try and prop up the value of bank shares. Talk about reining in speculation in commodity markets, meanwhile, is designed to keep prices for oil and some foodstuffs from rising too high. And all arms of government have tried since the credit crunch began to keep home prices from falling.
Buyers Don’t Play
Efforts to direct prices usually fail because buyers aren’t willing to play along. Financial stocks continued to fall despite the short ban.
And the congressional flip-flop on how banks should value assets shows that such efforts can backfire.
The logjam in the drive to modify troubled mortgages is vexing the Obama administration. It is in some ways a problem of the government’s own making. To try and undo it, the House’s Frank and the Senate’s Dodd wrote late last week to banking regulators complaining about valuations of home-equity loans.
The chairmen said, “We are concerned that the loss allowances associated with these subordinated liens may be insufficient to realistically and accurately reflect their value.”
Fudging Confirmed
Throughout the crisis, investors have worried that banks are fudging their numbers. Now congressional leaders are confirming those fears.
Underlining the political nature of their request, Dodd and Frank didn’t call for an investigation of the supposedly “inflated” values.
That’s no reason for the SEC to stand pat. The agency needs to act, now that it has an allegation from top legislators that potential financial-reporting abuses are taking place at banks.
Failure to follow up will send a message that it is all right for banks to cook their books, so long as the resulting values are seasoned to suit the current political taste.
(David Reilly is a Bloomberg News columnist. The opinions expressed are his own.)
Barney Frank, Chris Dodd Do Banking Back Flip – David Reilly, Bloomberg
July 15th, 2009
Has it all come to this? The wars and invasions, the death and destruction, the exile and torture, the resistance and collapse? In a world of shrinking energy reserves, is Iraq finally fated to become what it was going to be anyway, even before the chaos and catastrophe set in: a giant gas pump for an energy-starved planet? Will it all end not with a bang but with a gusher? The latest oil news out of that country offers at least a hint of Iraq’s fate.
For modern Iraq, oil has always been at the heart of everything. Its very existence as a unified state is largely the product of oil.
In 1920, under the aegis of the League of Nations, Britain cobbled together the Kingdom of Iraq from the Ottoman provinces of Basra, Baghdad and Mosul in order to better exploit the holdings of the Turkish Petroleum Company, forerunner of the Iraq Petroleum Company (IPC). Later, Iraqi nationalists and the Baath Party of Saddam Hussein nationalized the IPC, provoking unrelenting British and American hostility. Hussein rewarded his Sunni allies in the Baath Party by giving them lucrative positions in the state company, part of a process that produced a dangerous rift with the country’s Shiite majority. And these are but a few of the ways in which modern Iraqi history has been governed by oil.
Iraq is, of course, one of the world’s great hydrocarbon preserves. According to oil giant BP, it harbors proven oil reserves of 115 billion barrels–more than any country except Saudi Arabia (with 264 billion barrels) and Iran (with 138 billion). Many analysts, however, believe that Iraq has been inadequately explored, and that the utilization of modern search technologies will yield additional reserves in the range of 45 to 100 billion barrels. If all its reserves, known and suspected, were developed to their full potential, Iraq could add as much as 6 to 8 million barrels per day to international output, postponing the inevitable arrival of peak oil and a contraction in global energy supplies.
Nailing Down the Energy Heartland of the Planet
Iraq’s great hydrocarbon promise has been continually thwarted by war, foreign intervention, sanctions, internal disorder, corruption and plain old ineptitude. Saddam Hussein did succeed for a time in elevating oil output, in the process raising national income and creating a well-educated middle class. However, his ill-conceived invasions of Iran in 1980 and Kuwait in 1990 led to devastating attacks on Iraqi oil facilities, as well as trade embargoes and crippling debt, erasing much of his country’s previous economic gains. The trade sanctions imposed by Presidents George H.W. Bush and Bill Clinton in the wake of the First Gulf War only further eroded the country’s oil-production capacity.
When President George W. Bush launched the invasion of Iraq in March 2003, his overarching goals all revolved around the geopolitics of oil. He and his top officials were intent on replacing Saddam Hussein’s regime with one that would prove friendly to American oil interests. They also imagined that, greeted as liberators by a grateful population, they would preside over a radical upgrading of Iraq’s petroleum capacity, thereby ensuring adequate supplies for American consumers at an affordable price. Finally, by building and manning a constellation of major military bases in a grateful Iraq, they saw themselves ensuring continued American dominance over the oil-soaked Persian Gulf region, and so the energy heartland of the planet.
All of this, of course, proved to be a mirage. The US invasion and ensuing occupation policies provoked a bitter Sunni insurgency that quickly overshadowed all other American concerns, including oil. As a result, no matter how much money they poured into the task, the Bush administration and its Baghdad agents found themselves incapable of boosting petroleum output even to the levels of the worst days of Saddam Hussein’s regime–and so their plans to use oil revenues to pay for the war, the occupation and the reconstruction of the country all vanished into thin air.
The data provided by BP on yearly production tallies cannot be starker when it comes to the impact on oil output of the insurgency, rampant corruption, the loss of the nation’s oil professionals (many of whom fled into exile amid sectarian warfare) and other related factors. Prior to the American invasion, Iraq was pumping 2.6 million barrels of oil per day, already significantly below its pre-invasion peak of 3.5 million barrels per day. In the first year of the ill-starred US occupation, production quickly plunged to a paltry 1.3 million barrels per day. Only in 2007 did it finally top the 2 million mark and, with improved security, 2.4 million in 2008. Assuming conditions continue to improve, Iraqi output could, for the first time, exceed pre-invasion levels, though barely, in 2009 or 2010–six years or more after Baghdad fell to American forces.
Will Iraq Transform Into a Global Gas Pump? – Michael Klare, The Nation
July 15th, 2009
In California and a handful of other states, one out of every five people who would like to be working full time is not now doing so.
Part-Time Workers Mask Jobless Woes – David Leonhardt, New York Times
July 15th, 2009
