stand indicted in the court of public opinion,
rejected by the hearts and minds of men".
Franklin D. Roosevelt's
First Inaugural Address, 1933
John K. Galbrait
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Despite a housing mess, securitization and related credit crunch and spiraling commodities costs, the U.S. economy might advance 1% or 2% clip in 2008. If we assume that S&P500 is a large part of the USA economy this is the estimate of the average return for S&P500 (or best scenario, if you wish). While this line of thinking might be false I still think it makes sense for 401K investor be conservative those days. Speculative runs like we experienced in April, 2008 are a dangerous thing to follow. Did Fed unlock the credit crunch at this stage? The answer is no. Did banks solve securitization and over-leveraging problems ? The answer is: "The U.S.' major banks are barely holding on to life..." Many of them achieved returns on equity that were multiples of what the average non-financial company generates. It's hard to believe that any US financial institution can generate 20% ROE's without taking excessive risk and thus P/BV should be markedly lower going forward. Even 10% ROE looks now overly generous. Regular banks should probably be priced for zero growth. Investment banks are in even worth situation: their business model has been broken.
For 401K investors attempts to benefit from the short-term moves of the market often end poorly. Don't think just about the next three or four years. Your 401K account will probably exist for 25, or even 30 years after, say, magic 62.5 mark. that means that a retirement portfolio isn't a short-term investment.
Disclaimer: This page is mainly an exercise in self-education that was made available to others in a home that it might be useful. The stories on this page is just financial blogs stories picked by me from the Internet; in addition to being late this is a typical market noise that is mostly irrelevant. You are warned !
Please read them critically and apply sound judgment. Very plausible stories and explanations can in retrospect be dead wrong. All 401K investors should be warned about the 95% rule, which states that about 95% of what you read about finance and economy is either wrong or irrelevant. In investment, 95% is probably a very conservative number. This site is no exception...
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Wall Street "strategists," TV pundits, regulators, economists, and others who claim to know what is going on have been betting on best-case scenarios throughout this crisis, and for the most part, their optimism has been proved wrong
They expected the government would step in and save the housing market and, in reality, they got a third-rate replay of the disastrous Hurricane Katrina "rescue."
They assumed the Fed would wave its magic wand and turn things around like it did during the Greenspan bubble-blowing era; instead, the central bank is now the proud owners of all sorts of worthless derivative securities -- with little to show for it.
Finally, they figured that Wall Street's best and brightest would somehow come up with the answers, and as it turns out, those people don't even understand the problems.
With that in mind, what do you think is the right response to the question posed in an article by the Christian Science Monitor's Mark Trumbull, "Will Taxpayers Be on the Hook for Subprime Crisis?"
I get worried when the Financial Times' Martin Wolf starts adopting Stephen Covey-esque sloganeering, particularly when he goes so far as to call his financial services reform proposal "the seven Cs." Eeek.
Earth to UK: one of the big hidden advantages you have is that the lingua franca is your language. That cloying business jargon so popular in America that we have managed to export is not an innovation, it is a debasement. Anyone who can speak and write in an unvarnished manner can trounce those who traffic in gobbledegook.
To be frank, this isn't one of Wolf's best columns, but that may be in large measure due to the near impossibility of setting forth how to fix the global financial system in his word budget. And I have omitted the liveliest part, namely, the set-up, in which he review Paul Volcker's recent speech at the Economic Club of New York, simply because it has been covered elsewhere.
Nevertheless, US readers are likely to find his recommendations to be thin gruel, but remember, there's a valid reason. The UK is a principles based system, so general, high level statements are more meaningful in that system than in ours, where sadly, the devil is in the details. But even giving that allowance, Wolf at points ducks questions he could have addressed. For instance, he mentions the problem of rating agencies, yet fails to mention any solutions. Several are on offer; surely Wolf could have given a thumbs up to one he likes.
Similarly, he sees the main problem in the "originate-to-distribute" model as bad incentives which can be solved by having the originators hold some of the riskiest tranches. Um, don't underestimate their ability to jigger the structures so as to still leave other parties holding the bag. The real problem with the originate to distribute model may be that it is seeking to create a free lunch by reducing the equity that needs to be held against loans. What if that in the end is a false economy? My sources with good regulator contacts tell me they expect to see a good deal more old-fashioned, on-balance-sheet intermediation. Mind you, that it not a view that is convenient for them to have; it implies that banks need to raise not only enough capital to cover their recent losses, but even more to allow for bigger balance sheets. Their view may be pragmatic, in that they see the market for securitized assets as sufficiently burned that it will not come back to its former size for quite some time. That degree of investor repudiation in turn suggests greater changes may be required.
Nevertheless, the advantage of a simple catchy list is that it provides a useful frame of reference.
From the Financial Times:
So here are seven principles of regulation. I call them the seven “Cs”.
First, coverage. Perhaps the most obvious lesson is the dangers of regulatory arbitrage: if the rules required certain capital requirements, institutions shifted activities into off-balance-sheet vehicles; if rules operated restrictively in one jurisdiction, activities were shifted elsewhere; and if certain institutions were more tightly regulated, then activities shifted to others. Regulatory coverage must be complete. All leveraged institutions above a certain size must be inside the net.
Second, cushions. Equity capital is the most important cushion in the financial system. Also helpful is subordinated debt. If Bear Stearns had had larger equity capital, the authorities might not have needed to rescue it. Capital requirements must be the same across the entire financial system, against any given class of risks. But there must also be greater attention to the adequacy of that other cushion: liquidity.
Third, commitment. The originate-and-distribute model has, it is now clear, a huge drawback: originators do not care sufficiently about the quality of loans they plan to offload on to others. They do not, in Warren Buffett’s phrase, have “skin in the game”. That makes for sloppy, if not irresponsible or even fraudulent lending. Originators should be required, therefore, to hold equity portions of securitised loans.
Fourth, cyclicality. Existing rules are pro-cyclical. Capital evaporates in bad times, as a result of write-offs, thereby forcing contraction of lending, worsening the economic slowdown and further impairing assets. Mark-to-market accounting, though inherently desirable, has a similar effect. One solution could be to differentiate between target levels of capital and a lower minimum level. Institutions that have minimum capital in bad times would only be required to aim for the higher target level over an extended period.
Fifth, clarity. Lack of information, asymmetric information and uncertainty are inherent in financial activities. These are why they are vulnerable to swings in collective mood. The transactions-orientated financial system is particularly vulnerable, because information has to flow freely across arms-length markets. So a big challenge is to generate as much clarity as is possible. One issue is the calamitous recent role of the rating agencies and the conflicts of interest under which they operate.
Sixth, complexity. Excessive complexity is a significant source of lack of clarity. It is particularly damaging, as we have seen, to the originate-and-distribute model, because markets in complex securitised products may, at times, seize up, forcing central banks to become “market makers of last resort”, with all the difficulties this entails. One possibility then is to insist that all derivatives be traded on exchanges.
Seventh, compensation. On this I can do no better than quote Mr Volcker: “In the name of properly aligning incentives, there are enormous rewards for successful trades and for loan originators. The mantra of aligning incentives seems to be lost in the failure to impose symmetrical losses – or frequently any loss at all – when failures ensue.” Whether regulators can do anything effective is unclear. That this is a challenge is not.
John Maynard Keynes wrote of an eighth “c”. He argued that “when the capital development of a country becomes a byproduct of the activities of a casino, the job is likely to be ill done”. He had a point. Features of a casino will always be present in a financial system that performs the essential functions of guarding people’s savings and allocating them where they can do most good.
Regulation will always be highly imperfect. But an effort must still be made to improve it.
Below is a provocative line of thought from an anonymous reader. It supports a gut feeling that I have been unable to prove, namely, that lowering of boundaries between markets (ranging from the large number of global macro hedge funds to the large number of retail currency speculators in Japan) is destabilizing. I've found the occasional supporting bit of empirical evidence (for instance, Kenneth Rogoff's and Carmen Reinhart's recent paper on financial crises, which found that greater financial integration was correlated with crises) but no theories. Conventional economic wisdom would tell you arbitrage is always and ever good (it supposedly improves price formation which leads to better allocation of capital), and inefficiencies are bad. However, complex systems theory provides a very different perspective:
Perhaps a lesson to be learned here is that liquidity acts as an efficient conductor of risk. It doesn't make risk go away, but moves it more quickly from one investment sector to another.
From a complex systems theory standpoint, this is exactly what you would do if you wanted to take a stable system and destabilize it.
One of the things that helps to enable non-linear behavior in a complex system is promiscuity of information (i.e., feedback loops but in a more generalized sense) across a wide scope of the system.
One way you can attempt to stabilize a complex system through suppressing its non-linear behavior is to divide it up into little boxes and use them to compartmentalize information so signals cannot easily propagate quickly across the entire system.
This principle has been recognized in the design of software systems for several decades now, and is also a design principle recognizable in many other systems both natural and artificial (c.f. biology, architecture) which are very robust with regard to exogenous shocks. Stable systems tend to be built from structural heirarchies which do not share much information across structural boundaries, either laterally or vertically. That is why you don't die from a heart attack when you stub your toe, your house doesn't collapse when you break a window, and if your computer crashes it doesn't take down the entire internet with it.
Glass-Steagall is a good example of this idea put into practice. If you use regulatory firewalls to define distinct investment sectors and impose significant transaction costs at their boundary that will help to reduce the speed and amplitude of signals which will propagate from one sector to another, so a collapse in one of them will be less likely casue severe problems in the others.
It worries me that we’ve torn down most of these barriers in the last several decades in the name of arbitrage, forgetting that the price we paid for them in inefficiency was a form of insurance against the risk of systemic collapse. This is exactly what I would do if I wanted to take a more or less stable, semi-complex system and drive it in the direction of greater non-linearity.
I think this was to some degree inevitable - it is a symptom of the decay and loss of trans-generational memories from our last great systemic shock in the 1930s. I suspect that something like this is bound to happen every 3-4 generations as we unlearn the lessons our grandparents and great-grandparents learned to their cost.Comments:
From Fed Chairman Ben Bernanke: Mortgage Delinquencies and Foreclosures
As a consequence of rising delinquencies, foreclosure proceedings were initiated on some 1.5 million U.S. homes during 2007, up 53 percent from 2006, and the rate of foreclosure starts looks likely to be yet higher in 2008.
The latest results include $4.4 billion in losses on derivatives and trading securities, as well as $3.2 billion in credit-related expenses... ... ...
Looking forward, Fannie said it expects "severe weakness in the housing market to continue in 2008," with the weakness projected to "lead to increased delinquencies, defaults and foreclosures on mortgage loans, and slower growth in U.S. residential mortgage debt outstanding."
Six out seven refinances in 2006 and 2007 had a cash-out component, Nothaft said, and many borrowers increased their mortgage rates to access that cash. In contrast, during the first three months of this year, more than half of all borrowers who refinanced lowered their mortgage rate.
CEOs manage companies for their own benefit, and the benefit of insiders, not shareholder benefits. It's important to always keep that in mind, especially when it comes to share buybacks and dividends.
A derivatives expert who two years ago warned of a potential meltdown in global credit markets has cautioned that the crisis is far from over, and has endorsed recent calls to relax controls on inflation and allow higher prices to help markets trade their way out of their problems.
Longtime critic of derivatives markets, Satyajit Das, says those who believe the US sub-prime loans crisis, and the drought in credit markets it triggered, are nearly over are wrong.
"I think the cycle has some way to run yet," he told a Financial Services Institute of Australasia function in Sydney yesterday. "It's a matter of years, not a matter of months."
In particular, investors in the US stock market, which has climbed off its lows amid a growing mood that the worst of the crunch was over, were being too optimistic, he said.
The author of Traders, Guns & Money warned that many of the problem financial instruments were still hidden and the total amount of debt attached to them largely unknown.
Losses incurred by US banks were certain to rise as $US1 trillion ($1.06 trillion) in sub-prime housing loans was due to reset to higher interest rates in the next two years.
The use of credit card debt -- now totalling $US 915 billion -- was cushioning US home owners. But, in an ominous sign, card issuers were rapidly increasing their provisions for bad debts, by as much as 500 per cent in the case of one bank.
The use of sub-prime debt structures was also a feature of other markets, such as private equity, where $US300 billion in loans were due to be refinanced in the next two years.
Mr Das said another $US1-$US5 trillion of assets would have to come back on to US bank balance sheets as a result of defaults on housing and other debts, and it was unclear how the banks could fund them -- issuance of preference shares by US banks was already at a record high. He said losses at financial institutions from the credit crunch were likely to almost double to $US400 billion.
There were also second-round effects to come as the damage done to the real economy from financial sector losses fed back into further bank losses.
Mr Das said there needed to be a massive reduction in debt levels globally or a "nuclear deleveraging" before the crisis could be said to be over. That could be achieved through an economic crash "on the scale of 1929" but allowing inflation to rise would help to avoid that scenario. Higher inflation was a legitimate policy option since it reduced the real value of debt and gave companies and individuals breathing space to reduce their leverage by helping to put a floor under asset prices.
His comments come as some economists urge Australia's Reserve Bank to relax its inflation targeting policy to help avoid a severe economic downturn.
He acknowledged that as inflation rose higher it was more difficult to control it, but noted the global economy was moving into a period of higher inflation anyway. "It could be the lesser of two evils," he said.
"We are in an economy in which many people are living right at the margins, even middle- and upper-income people. They have little savings, they've borrowed so much, their credit-card bills are high, and their house values are going down."
NEW YORK - A Chapter 11 bankruptcy filing by Linens 'n Things is the latest sign that the retail sector is becoming leaner and meaner amid a difficult consumer environment.
Money News is reporting on an ominous trend for state budgets: U.S. Sees First Sales Tax Revenue Drop in 6 Years
U.S. consumers are cutting back on spending, driving the first nation-wide decline in sales tax revenues in six years, according to a report released Thursday.
May 3 (Bloomberg) -- Warren Buffett, chief executive officer of Berkshire Hathaway Inc., said the global credit crunch has eased for bankers, and the Federal Reserve probably averted more failures by helping to rescue Bear Stearns Cos.
``In terms of people with individual mortgages, there's a lot of pain left to come.'' Buffett was interviewed before the Omaha, Nebraska-based company's annual meeting, attended by about 31,000 people.
In a question-and-answer session at the shareholder meeting, Buffett said that from a risk perspective, some banks got ``too big to manage.''
Berkshire has risen about 22 percent in New York Stock Exchange composite trading during the past 12 months and gained about 4,700 percent in 20 years through Dec. 31, about six times more than the Standard & Poor's 500 Index including dividends.
"Buffett Sees More Losses for Banks."Banks will suffer more losses over the next few years from the real-estate crisis, despite the Federal Reserve's successful efforts to prevent contagion in the financial system, Berkshire Hathaway Chairman Warren Buffett said on Sunday.
"The action of the Fed in terms of Bear Stearns prevented contagion where there may have been more bank runs on the investment banks," he said during a press conference. "That doesn't mean the losses are over by a long shot. There's going to be more pain."
"We've looked at several of the investment banks where it's clear more losses are to be taken," he added.
The size of future losses depends on the outlook for the economy and the housing market, he explained.
Listings of homes for sale in some areas of the country, such as Broward County, Fla., are up a lot from last year, Buffett noted.
"That will work its way out," he said, but stressed that it's difficult to know how long that will take.
Berkshire owns a big stake in Wells Fargo, one of the largest mortgage lenders in the U.S., and holds shares in other banks such as US Bancorp.
"Wells Fargo is going to have above average losses as will other banks on things that relate to real estate over the next few years," Buffett said.
Berkshire is not selling its Wells Fargo shares though, he noted.
From Reuters: JPMorgan says no near end to financial crisis: report"We can only speculate how deep and how long the recession in the United States will really be and how that in turn will impact banks," [JPMorgan Chase & Co CEO] James Dimon told "Welt am Sonntag".And from Goldman Sachs: Eye of the Storm (research report no link). Goldman argues there is a "gaping hole in the side of the U.S. economy" from falling house prices (significantly more price declines to come in their view) and too much supply.
"But we are not done with the crisis for a long time," Dimon said ...[Fiancial market] relaxation is unlikely to mark the start of a sustainable recovery.And from the WSJ: Downgrades Show Storm Isn't Over
... the evidence for spillover effects from housing via the credit crunch, wealth effects, and multiplier effects in the broader economy is mounting, particularly as far as consumption is concerned. ... In an absolute sense, the data this week were clearly quite poor.ResCap's credit rating was cut deep into "junk" territory after it unveiled plans to restructure $14 billion of debt and possibly borrow billions more from its parent, GMAC LLC.Being in the eye of the hurricane can lead some people into thinking the storm has passed. Maybe. But probably not.
Countrywide's debt rating was slashed to junk from investment grade by Standard & Poor's after Bank of America Corp. said it isn't sure it will stand behind roughly $38 billion of Countrywide debt.
Credit markets have become substantially calmer since the Federal Reserve helped avert a complete collapse by Bear Stearns Cos. in March. Friday's downgrades were a reminder that other big financial institutions are still struggling under the weight of problem mortgages.
With falling house prices, less mortgage equity extraction, less consumption, and falling business investment (especially for non-residential structures), there is more storm damage to come.
That's what NPR told listeners this morning. Actually, NPR just told us that the experts expect the recession to be brief, they didn't tell us that their experts didn't have a clue as far as seeing the recession coming. Given the track record of NPR's records maybe they could better used their air time talking about something else.
For the record, non-surprised economists noticed the data from the Case-Shiller indexes that was released yesterday. These indexes showed that house prices were falling at close to a 25 percent annual rate over the last quarter. If this rate of price decline continues, it will imply a lose of close to $6 trillion in real housing wealth over the course of the year. This will lead to large cutbacks in consumption, millions of additional foreclosures, much more turmoil in financial markets, and many more surprised economists.
The good news is that economists don't have to worry about losing their jobs or even getting a pay cut when they mess up.
CNN told its audience that Clinton's elimination of the gas tax for the summer would save consumers $30. This is not true. Since the supply of gas is more or less fixed, refineries are likely to be running at capacity, the price is determined by demand. This means that if the government eliminates the tax, the price will stay the same. The only difference is that the $18.4 cent a gallon will go to the oil companies rather than the government.
That is why economists call Clinton's tax cut a gift to the oil industry, unfortunately CNN missed the story.
--Dean Baker
are excerpts from two years worth of FOMC policy statements from the Ben Bernanke-led Federal Reserve on the subject of the future course of inflation in the U.S.
With gasoline at $4 and food prices soaring, does anyone really believe that anything having to do with prices is going to moderate anytime in the foreseeable future?
March 28, 2006There appears to be no theoretical limit on how long you can continue to expect something to happen, however, practically speaking, at some point in time, people stop believing what you say.
... inflation expectations remain contained.
May 10, 2006
... inflation expectations remain contained.
June 29, 2006
... inflation expectations remain contained.
August 8, 2006
... inflation pressures seem likely to moderate over time, reflecting contained inflation expectations...
Sep 20, 2006
... inflation pressures seem likely to moderate over time, reflecting reduced impetus from energy prices, contained inflation expectations...
Oct 25, 2006
... inflation pressures seem likely to moderate over time, reflecting reduced impetus from energy prices, contained inflation expectations...
Dec 12, 2006
... inflation pressures seem likely to moderate over time, reflecting reduced impetus from energy prices, contained inflation expectations...
Jan 31, 2007
... inflation pressures seem likely to moderate over time.
Mar 21, 2007
Although inflation pressures seem likely to moderate over time, the high level of resource utilization has the potential to sustain those pressures.
May 9, 2007
Although inflation pressures seem likely to moderate over time, the high level of resource utilization has the potential to sustain those pressures.
Jun 28, 2007
... a sustained moderation in inflation pressures has yet to be convincingly demonstrated.
Aug 7, 2007
... a sustained moderation in inflation pressures has yet to be convincingly demonstrated.
Sep 18, 2007
Readings on core inflation have improved modestly this year ... some inflation risks remain...
Oct 31, 2007
Readings on core inflation have improved modestly this year ... some inflation risks remain...
Dec 11, 2007
Readings on core inflation have improved modestly this year ... some inflation risks remain...
Jan 22, 2008
The Committee expects inflation to moderate in coming quarters...
Jan 30, 2008
The Committee expects inflation to moderate in coming quarters...
Mar 18, 2008
... some indicators of inflation expectations have risen. The Committee expects inflation to moderate in coming quarters...
Apr 30, 2008
... some indicators of inflation expectations have risen in recent months. The Committee expects inflation to moderate in coming quarters...
Unstoppable Credit Contraction
Steve Saville wrote an interesting article entitled Credit Contraction, Economic Bust, and Deflation. Inquiring minds will want to take a look.
Saville: Members of the deflation camp assert that the large-scale contraction of credit happening within the banking system means that deflation is upon us, even if the money supply is expanding. At the same time, another camp is pointing to the breathtakingly rapid growth in M3 money supply as evidence that hyperinflation is a near-term threat. In our opinion, both camps are wrong*.
The argument of the first camp can, we think, be summarised as follows: Inflation is an expansion in the total supply of money AND credit, whereas deflation is the opposite (a contraction in the total supply of money AND credit). At the present time the money supply may well be expanding, but this monetary expansion is being more than offset by credit contraction.
Mish: So far so good. That is nearly my exact argument. The only thing I want to add is that credit needs to be marked to market, as opposed to some inflated book value.
Saville: The flaw in the above argument can best be explained via a hypothetical example. Consider the case of Johnny, who wants to borrow $1M to buy a house. If Johnny borrows the money from his friend Freddy then the transaction results in a $1M increase in the amount of credit within the economy, but no inflation has occurred. All that has happened is that $1M of purchasing power has been temporarily transferred from Freddy to Johnny. By the same token, when Johnny pays Freddy back there is a contraction of credit, but no deflation. There is also no deflation even if Johnny defaults on his loan obligation to Freddy. In this case Freddy will have made a bad investment, but the money he lent to Johnny will still be somewhere in the economy. The point is that credit expansion is not inherently inflationary and credit contraction is not inherently deflationary.
Mish: The flaw in Saville's analysis is that I agree with him! The reason is that he is ignoring the word "net". When Johnny loaned his friend $1M, money supply (savings) decreased by $1M but credit expanded by $1M. In Saville's example there was no "net" expansion of money (savings) or credit. As I see it, we are in "violent agreement".
Saville: But what if Johnny, instead of borrowing the million dollars from Freddy, takes out a loan at his local bank and the bank makes the loan by creating new money 'out of thin air'? In this case inflation has certainly occurred. Nobody has had to temporarily forego purchasing power in order for Johnny to gain purchasing power, but the total existing supply of money has been devalued to some extent.
Mish: Bingo! That is inflation. No argument in this corner.
Saville: The critical difference is that when Johnny borrows from a bank the transaction leads to an increase in the supply of MONEY. Inflation is the increase in the supply of money that SOMETIMES results from credit expansion; it is not credit expansion per se.
Mish: In my opinion, the critical difference is that Saville misses the word "net", conveniently looking at credit all the time, while ignoring money supply the rest of the time.
Skipping ahead....
Saville: This leads to the question: is the money supply currently expanding? The answer is yes, but not anywhere near as rapidly as many people think. The chart at http://www.nowandfutures.com/key_stats.html reveals that M3 has grown by a mind-boggling 19.5% over the past 12 months, but as was the case during the early 1990s it appears that this broad measure of money supply is currently giving a 'major league' FALSE signal.
Mish: I 100% agree with the notion that M3 is giving a false signal. That is the very premise behind my post MZM, M3 Show Flight to Safety.
Saville: Our preferred measures of money supply are TMS (True Money Supply) and what we call TMS+ (TMS plus Retail MMFs). TMS and TMS+ currently have year-over-year (YOY) growth rates of around 3% and 6%, respectively. In other words, our assessment is that the current US inflation (money-supply growth) rate is 3-6%. Inflation is still occurring, but at a much slower rate than it was during the early years of this decade.
Mish: I do not agree with adding MMFs to TMS as Saville does. I agree with the formulation of TMS and gave my reasons in Money Supply and Recessions.
Furthermore, and it is hard to say who is right or wrong given massive backward revisions in some Fed reporting and delays in other Fed reporting, but the latest M'/TMS numbers that I come up with (more accurately Bart at Now and Futures on my formulation) are as follows.
click on chart for sharper image
The above chart is as of April 18, 2008 as reported in MZM, M3 Show Flight to Safety.
Presumably it is the same as TMS. If it's not, one or more data series discrepancies may be at play, and given numerous backdated changes by the Fed as well as delays in reporting sweeps, I am not going to assume which series is correct. Close analysis will show near perfect correlation over time.
Finally, and this is key: Saville failed to mark credit to market! It is the marking to market process by which I state that deflation is here and now.
Please see Deflation In A Fiat Regime? and Now Presenting: Deflation! No one has rebutted the arguments presented in those links.
Saville: On a side note, the wrongness of M3's current signal is validated by the happenings in the financial world. Inflation-fueled booms generally continue until there is a deliberated or forced slowdown in the inflation rate, that is, the booms continue until the central bank takes steps to rein-in the inflation or until inflation slows under the weight of market forces.
Mish: I agree. Those looking at MZM are barking up the same incorrect tree.
Saville: It is also worth noting that although inflation is a major driving force behind the commodity bull market, commodity prices are generally still very low in REAL terms. Therefore, while we are anticipating a commodity shakeout over the next few months we think the long-term upward trend in the commodity world has a considerable way to go.
Mish: I fail to see how this fits into the debate. Commodity prices may indeed be very low in real (CPI adjusted) terms. Exactly what does that have to do with credit contraction/expansion other than perhaps propose the next bubble may very well be in commodities? If that is indeed the point, then I agree.
Saville: In conclusion, it is clear that inflation is still occurring in the US (and pretty much everywhere else, for that matter), albeit at a reduced rate. Furthermore, if it hasn't already done so it is likely that the inflation rate will bottom-out over the coming few months and then embark on its next major upward trend. It is possible that consumers are 'tapped out' and that the commercial banks are about to reduce the rate at which they lend, but the government will never be 'tapped out' and the central bank will always be able to monetise debt.
Mish: In conclusion, I do not see evidence supporting Saville's conclusion!
I feel he's failed to mark credit to market, to state why credit will not contract greater than central banks' attempt to inflate, to account for global wage arbitrage, walk-aways, boomer retirement and a shift away from consumption, $500 trillion of derivatives that can never be paid back and a secular shift from consumption to saving.
I see no explanation of how consumers and businesses are going to pay back debts in a world of declining real wages, wealth concentration at the extreme high end of the spectrum, global wage arbitrage, declining home prices, rising unemployment, overcapacity at every corner, and insane overbuilding of both commercial and residential real estate.
On the other hand, my thesis is simple: The Fed can address liquidity issues not solvency issues, and we are facing a solvency issue. And because of the enormous amount of debt in relation to the pool of real savings, there is no way that debt can be paid back. Debt that cannot be paid back will be defaulted on.
Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
But they are probably betting on the never ending story of creative accounting from the government level ( Pre-Revision CPI: 9%, Disappearing Economic Indicators, Unemployment Soars, Jobs Collapse etc ) to mask the real damage. At least the officials haven´t gotten so far as the pentagon ( Behind Analysts, the Pentagon’s Hidden Hand )..... :-)
The BBC is reporting Banks warned over lending fears.
The Bank of England has warned that banks' fears of a financial meltdown may become a self-fulfilling prophecy. Banks previously over-willing to lend are now too reluctant, even with credit-worthy borrowers, it suggests.My Comment: The psychology of deflation sets in. Banks are unwilling or unable to lend.-left: 30px; margin-right: 0; margin-top: 0; margin-bottom This increased fear of risk has itself undermined confidence in financial institutions and made them reluctant to lend to each other, the Bank adds.My Comment: This is what happens when banks have a bloated balance sheet and deteriorating assets.Its financial stability report suggests the credit exposure not declared by UK banks may be near to £100bn. The quarterly report says that there is a "significant increase" in the risk that a major bank collapse or reluctance to lend will disrupt the financial system.My Comment: That suggests that banks may have insufficient capital to lend whether someone is a good credit risk or not.
In its quarterly Financial Stability Report, the Bank of England warns that there are potentially large exposures that have still not been declared by financial institutions.However, the Bank points out that the freezing up of markets has meant that these estimated losses may be inflated because of the difficulty of pricing the complex securities which are now very difficult to value.My Comment: Market conditions may not return to "normal" for decades, if "normal" means anything like we have seen for the past 5 years. Otherwise, normal is likely to be years. Whatever "normal" means, talk of reduced loan losses is fantasy.
It says that "credit losses from the turmoil are unlikely ever to rise to levels implied by current market prices unless there is a significant deterioration in fundamentals."
And it estimates that total sub-prime losses could be reduced from $400bn to $200bn once market conditions return to normal.The Bank of England judges that there is a risk that "the currently elevated risk premia in some markets will persist".My Comment: The risk is the BOE and the Fed manages to encourage more foolish lending. The more banks lend now, the bigger the defaults will be later. In a world awash in overcapacity, I fail to see the need for massive amounts of lending.
"This could lead to a self-fulfilling adverse cycle in which persistent market illiquidity and falling asset prices further undermine confidence in banks and results in a sharper tightening of credit conditions."Lending drying upMy Comment: Tightening credit is the smart thing to do. Banks that tighten the most will lose the least.
The Bank's quarterly survey of credit conditions shows that lenders are tightening up credit sharply not just on home loans, but also on household lending and commercial loans to companies.
And the sources of future loans in wholesale money markets have also contracted sharply.
The market for "asset-backed securities" such as sub-prime and other mortgages has collapsed - with the value of such assets issued going from $700bn a quarter in the middle of 2007 to just $100bn in the first quarter of 2008.The Bank of England argues that to rebuild financial confidence, it will continue to allow UK banks to swap illiquid assets with safe UK government securities.My Comment: Swaps accomplish nothing. What is swapped today has to be swapped back later. Except in some make believe pretend world, virtually nothing is accomplished by swapping.
I’ve had time to look at it a bit more closely — and it’s much weaker than the headline number suggests (and MUCH weaker than the previous quarter, even though the growth rate was the same.) It’s not just that final sales fell, so that the economy grew only because of inventory accumulation. If you look at consumer spending, purchases of goods actually fell substantially. Only service purchases rose — and much of that was housing and medical care. As Michael Mandel at Business Week has pointed out, those aren’t “really” consumer decisions: housing “consumption” is largely imputed rents on owner-occupied homes, and medical care is mostly paid for by insurance.
So this really does look like an economy at stall speed, not an economy skirting past the edge of recession (whatever recession means).
Recommended Links
Central banks and international institutions
- Bank For International Settlements
- IMF
- World Bank
- Federal Reserve
- OECD
- ECB
- Bank of England
- Bank of Japan
Blogs
- Top
- naked capitalism An excellent analysys of the current economic situation.
- Mish's Global Economic Trend Analysis Slighly libertarian bias but high quality materials.
- Calculated Risk -- another insightful analysy that you will never find in mainstream press.
- PrudentBear.com
- EconoSpeak
- The Big Picture
- The Mess That Greenspan Made
- charles hugh smith-Weblog and wEssays
- FT Alphaville
- Bill Fleckenstein Article Index - MSN Money
- Trends I'm Watching Predictions
- immobilienblasen
- Economic Dreams - Economic Nightmares
- Econbrowser
- The Daily Reckoning - From the Bestselling Authors of Empire of Debt
Etc
Economic Rebalancing - interesting views on current imbalances and hedge funds industry...
- mike larson / interest rate roundup
- Prudent bear
- Economist's View
- Econbrowser
- macroblog
- RGE
- Nouriel Roubini's Blog
- Angry Bear
- thehousingbubble
- housingpanic
- globaleconomicanalysis
- charles hugh smith
- iTuilip
- russ winter
- safe haven
- the mortgage lender implode-O-meter
- brett steenbarger
- 3 2 1 gold....
- housingdoom
Recommended Papers
Reviews 'Economic with the truth' by John Kay Prospect Magazine October 2000 issue 56
One of the problems faced by economists is that everyone knows about economics. Most people are ready to accept that a physicist, or a lawyer, or a historian knows something they don't. Economists encounter no similar deference. If you introduce yourself as an economist, you will probably be asked for a prediction about what is going to happen to interest rates, which the recipient will-rightly-not take very seriously.Politicians regularly express views on economic matters. Not just on the objectives of economic policy, but on technical questions such as the relationship between the money supply and the level of output. When they express similar opinions about questions in hard sciences-as with Stalin's adoption of Lysenkoism or Mbeke's opinions on Aids -- it is understood that they have overstepped the mark. Not so in economics.
Maybe economists do not deserve the professional respect accorded to physicists, lawyers or historians. Perhaps economics is tosh, like spiritualism or scientology; perhaps what students learn in-demanding and sought-after-undergraduate and postgraduate courses is mumbo-jumbo: perhaps the language of economics is useful only in talking to other economists. But if I were writing an...
FSO Editorials Tainted Research Lysenkoism - American Style by Antal E. Fekete06-10-2003 by Antal E. Fekete, Professor Emeritus, Memorial University of Newfoundland. [June 10, 2003]
Unfortunately, the use of "Lysenkoism" as an epithet has been degraded by overuse, especially in absurd situations. I propose to restrict "Lysenkoism" to circumstances where a clear case can be made for coercive enforcement of the belief system from outside the system (e.g., by state patronage). For example, if a concept spreads concurrently among the scientific communities of several countries, it is almost certainly not Lysenkoism. One might feel like calling it that, but the analogy with Lysenko would fail to apply.
Asset allocation
- Asset allocation - Wikipedia, the free encyclopedia
- Rebalancing (investment) - Wikipedia, the free encyclopedia
- Nobel Laureates
- Five Top Mistakes of 401(k) Investing Money & Happiness - Yahoo! Finance
- How Can Employers Improve Defined Contribution Plans - Knowledge@Wharton
Pensions problem
401k Revenue Sharing Controversy There are two big points in a recent article in Kiplinger.com on the topic of hidden 401k fees. The first is the issue of “revenue sharing” between a 401k fund choice and the 401k’s plan administrators. Apparently what happens is that large investment companies are essentially offering a “kickback” to a plan administrator if they recommend the use of their funds. Last fall, insurance giant ING settled, without admitting wrongdoing, an investigation by New York Attorney General Eliot Spitzer into payments to a New York teachers union to endorse and promote ING annuities in the union’s retirement savings plan
Retirement Rip-Off Quinn A Requiem for Pensions - Newsweek Jane Bryant Quinn - MSNBC.com How Americans mess up their 401(k)s - Cracked Nest Egg - MSNBC.com the overall 401(k) saving picture is “very depressing.” Will you ever be able to retire - Cracked Nest Egg - MSNBC.com Traditional defined-benefit pensions spread that "longevity" risk among a large pool of workers, using actuarial research on predicted life spans. Now annuities sellers will fleece individuals: with individually managed plans, the longevity risk falls fully on each retiree. Think you know what you need to retire Think again. Financial News - Yahoo! Finance -- should be read with a grain of salt (there are definitly trying to sell annuities in this paper); this is a nice example of how much CNN is hostage to financial industry, the most promising candidate out of three classic candidates into class of parasites (FIRE - financial industry,insurance and real estate) Stock Market casino
- Wall Street magicians battle for 'prestige' of taking your money - MarketWatch byPaul Farrell
- B.S. is Wall Street's official language byPaul Farrell, MarketWatch. Jul 3, 2006
- American Casino
- The Bubble Maestro's House of Cards in the market Casino by Gaurang Bhatt, MD
- The Wall Street Casino Remarks by John C. Bogle Founder and Former Chairman, The Vanguard Group
The New York Times August 23, 1999- The Chinese Stock Market A Casino with 'Buffer Zones'
- MacroScan - The Stock Market as Casino
- Prudential to pay $600 million penalty
- The Casino Economy
- Capitalism's Casino
Irrational Exuberance
Definition of Irrational Exuberance
The term "irrational exuberance" derives from some words that Alan Greenspan, chairman of the Federal Reserve Board in Washington, used in a black-tie dinner speech entitled
"The Challenge of Central Banking in a Democratic Society"
before the American Enterprise Institute at the Washington Hilton Hotel December 5, 1996. Fourteen pages into this long speech, which was televised live on C-SPAN, he posed a rhetorical question: "But how do we know when irrational exuberance has unduly escalated asset values, which then become subject to unexpected and prolonged contractions as they have in Japan over the past decade?" He added that "We as central bankers need not be concerned if a collapsing financial asset bubble does not threaten to impair the real economy, its production, jobs and price stability."
Immediately after he said this, the stock market in Tokyo, which was open as he gave this speech, fell sharply, and closed down 3%. Hong Kong fell 3%. Then markets in Frankfurt and London fell 4%. The stock market in the US fell 2% at the open of trade. The strong reaction of the markets to Greenspan's seemingly harmless question was widely noted, and made the term irrational exuberance famous. It would seem to make no sense for markets to react all over the world to a question casually thrown out in the middle of a dinner speech. Greenspan probably learned once more from this experience how carefully someone in his position has to choose words. As far as I can determine, Greenspan never used the "irrational exuberance" again in any public venue. The stock market drops around the world that occurred after his speech on December 6, 1996 have all been forgotten, eclipsed by bigger subsequent events, but it was those stock market drops that focussed public attention on the phrase irrational exuberance and which caused it to enter our language.
The term irrational exuberance became Greenspan's most famous quote, out of all the millions of words he has uttered publicly. The term "irrational exuberance" is often used to describe a heightened state of speculative fervor. It is less strong than other colorful terms such as "speculative mania" or "speculative orgy" which discredit themselves as overstating the case. I chose this phrase as the title for my book because many people know instantly from this title what this book is about.
Often people ask me whether I coined the term irrational exuberance, since I (along with my colleague John Campbell and a number of others) testified before Greenspan and the Federal Reserve Board only two days earlier, on December 3, 1996, and I had lunch with Greenspan on that day. I did testify that markets were irrational. But, I very much doubt that I am the origin of the words irrational exuberance. Actually, Greenspan is quoted in a Fortune Magazine article in March 1959, long before he became Federal Reserve chairman, about "over-exuberance" of the financial community. Probably, "irrational exuberance" are Greenspan's own words, and not a speech writer's, and probably Alan Greenspan had written a draft of his 1996 speech even before I testified.
Robert J. Shiller
Cowles Foundation for Research in Economics
and International Center for Finance
Yale University
30 Hillhouse Avenue
New Haven, CT 06511
robert.shiller@yale.edu- Irrational Exuberance
- Stock market crash - Wikipedia, the free encyclopedia
- Stock Market Crash! Blog
- Can Crashes be Forecasted
- The Effect of Market Cycles
- Amazon.com Unexpected Returns Understanding Secular Stock Market Cycles Books Ed Easterling One of the strongest points emphasized by the book is that interest rates and inflation have never been stable for long, and the recent condition of low inflation price stability is a historical anomaly. The author uses a plethora of graphs and charts to prove that "buy and hold" doesn't always provide the best returns. Obviously, then, it's better to pull out during the bear markets, but that's easier said than done
Rising inequality
- BBC NEWS Business The end of the American dream -- notes about rising inequality in the USA
- [Sept 22, 2006] Samuelson Growing Economic Inequality Threatens U.S. Values - Newsweek Robert Samuelson - MSNBC.com The rich are getting an ever-bigger piece of the economic pie. In 2005, the richest 5% of households (average pretax income: $281,155) had 22.2% of total income, reports Census. In 1990, the share was 18.5%; in 1980, 16.5%. These figures exclude capital gains—profits on stocks and other assets—that have most benefited the richest 1%. With capital gains, their pretax income averaged about $1 million in 2003. That was about 20 times the average income of households in the middle of the economic distribution. In 1979, the ratio was 10 to 1.
- SustainableDevelopment Japan's Role
Structural problems in banking and mutual funds industry
- networkideas.org - A Scam on Workers Savings in the US
- Financial Warfare to lead to demise of Central Banking
- Citigroup after the Merger
- Online NewsHour Mutual Funds Fraud -- November 3, 2003
- Fool.com Come See the Parasites [Commentary] September 5, 2003
- Miller Risk Advisors Uncle Possum's Handbook of Mutual Fund Scams
Please note that CCM Capital Appreciation C was not involved in the SEC charges of fraudulent market-timing aimed at PIMCO nor was Bill Gross, PIMCO's chief investment officer, who opines in this month's Investment Outlook that the high fees charged by hedge funds make them "generally overpriced."Bill Gross manages PIMCO's humongous Total Return Institutional Bond Fund, which has an expense ratio of 0.43% and tracks the comparable Lehman index with an R-Squared of 95%. Vanguard has an institutional fund that closely tracks the Lehman index for a 0.05% expense ratio. Therefore, Mr. Gross gets about 0.38% for the active 5% of the fund, which is a "true" expense ratio of 7.8%. It must be said that Mr. Gross delivers an impressive alpha of 0.84 on that active 5%, so he could have a bright future in hedge funds.
Housing bubble -- in March 2007t FT.com interview Soros said that he thinks currently we are half-way through it.
Other problems
Copyright © 1996-2007 by Dr. Nikolai Bezroukov. www.softpanorama.org was created as a service to the UN Sustainable Development Networking Programme (SDNP) in the author free time. Submit comments This document is an industrial compilation designed and created exclusively for educational use and is placed under the copyright of the Open Content License(OPL). Original materials copyright belong to respective owners. Quotes are made for educational purposes only in compliance with the fair use doctrine.
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Last modified: May 08, 2008
Re: his point on causation and inter-generational memory loss: see 'Generations' (1991), by William Strauss, Neil Howe on the rhythms of history. By the authors' own framework, we appear to be headed into another phase of 'secular crises'. Worth a read, if only for a different perspective on American history from 1584 to the end of the eighties.
CrocodileChuck
May 7, 2008 4:51 AM
May 7, 2008 6:15 AM
May 7, 2008 6:22 AM
May 7, 2008 6:57 AM
http://yupnet.org/zittrain/