Well I think at some point we’re going to have a government in power that’s going to make a choice between the American people and our creditors, who are predominantly foreign. And I think that choice will involve letting the dollar depreciate. I don’t think we’ll ever actually repudiate our debts, as long as we can print more dollars. But I think that’s the fundamental political issue that faces our entire society … - Chris Whalen

Doom Transcripts: Index & Guide

Housing Doom is pleased to present a eighth and final selection from our under-construction transcript of the American Enterprise Institute’s October 22, 2009 event "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis".¹

The event site has a number of resources, including an audio and video of the proceedings. There is as yet no official transcript.

The lively Question and Answer session that closed the conference featured everything from Roubini’s lurid medium term scenarios to Zimmernan’s surprising advice that Re-remics, along with just about any other recent real estate securitizations, are perfectly safe to buy.

Alex Pollock: [1:31:26] Let me come to our questions. We’re going to, we have microphones, a microphone in the back. Please remember how this works. Wait for the microphone, please tell us your name and your affiliation, and then ask your question. For those of you who may feel the urge to make an assertion in addition to your question, may I ask you to keep your assertion short and to the point, otherwise I’ll feel compelled to ask you to come to your question. … I have a hand way in the back, here. … Oh, it’s Bert [laughs] …

Bert Ely: I was hiding on you, Alex. Bert Ely, banking consultant. A suggestion and a question. In terms of describing the kind of recovery you have, let me offer another suggestion to you that I’ve been using. I call it a washboard recovery. Slow and very bumpy over the next few years.

My question relates to something that some of you have alluded to, Desmond particularly, but I think needs a little bit more attention. And that is as we look at the economy coming out of this recovery, to what extent can Congress help or hurt the recovery through its various regulatory reform activities. We have a lot of that percolating along right now — executive pay limits, the CFPA and who knows what else?

So I’d be interested in what the panel’s thoughts are as to the dangers, if you will, to the recovery from Congress’ initiatives and the Administration’s initiatives to try and prevent a repeat of this crisis.

Alex Pollock: [undecipherable] … would you take this?[ph] Well, you have the pendulum point, Tom, …

Tom Zimmerman: Yeah, I mean I think those are probably minor things. It’s not good, it’s certainly not going to help, but I don’t think that’s the, you know … Yeah, you shouldn’t be doing that right now, but I think those are probably minor things compared to some of the broader pictures, broader comments[ph] and issues we’re dealing with here.

I don’t think that will, in itself, stifle the … It’ll cost more for the average consumer for his credit card loan, for his credit card debt, for his car loans. And a sustantial number of Americans won’t be able to get a loan, that’s what will happen, because you will price people out of the market.

But yes, you will have a safer and sounder system to some extent, but you will pay for it.

Nouriel Roubini: Anything wrong with having lots of people not being able to borrow, since this is a crisis of overborrowing?

[laughter]

Tom Zimmerman: No … I don’t know … if you …

Nouriel Roubini: No. Seriously.

Tom Zimmerman: No, but if you … One of the reasons we have payday lending is because banks don’t lend to a lot of people now. I suppose payday lenders will get an exemption, just like we have a lot of exemptions out of the new Consumer Finance Act, we’ve got all sorts of [undecipherable] exemptions because Congressman [tape skip] wants it that way. But I don’t know where it ends, but … Yeah, you know even the Mafia lends money too. You know, we … Yeah, for a rate, right.

So, you know, if you restrict the functioning system, in a way there will be lending, it will take place, it’s just whether it takes place through the back door, or through the front door.

Alex Pollock: Just a quick comment then, and we’ll go onto another question.

Chris Whalen: You know, the "legislative reforms" quote-unquote on the Hill are not about helping anyone. They’re about building monuments. Both Shelby and Dodd want to build a monument to consumer protection. Meanwhile, we will not have meaningful reform in the one area that is crucial, which is Over the Counter [OTC] Derivatives. If you look at the latest turn of the legislation on the House side, it pretty much leaves the dealers alone. They might as well not even pass it, there will be no change.

Alex Pollock: I have a question back here …

Brian Gardener Brian Gardner with [1:35:00] Keefe, Bruyette & Woods. Kind of staying on the theme of legislation that’s up on the Hill. It’s interesting to … after every member of the Committee has been recognized over the last couple of days, after they say think-you Mr. Chairman, the next statement is, "We can never let this happen again." In 1913, you know, and it was "We can never let this happen again." When we set up the banking and regulatory system in the ’30s, "We can never let this happen again." When we did FedICIA and FIRREA, "we can never let this happen again."

And this seems to be playing out.

One thing that has not been touched on today, and I’d like your collective opinions on this, is, "Where should we be going on … more on the regulatory side, with bank capital standards?"

Alex Pollock: Somebody want to take up bank capital? John?

John Makin Well the answer to the comment is, "We can, and we will." [laughs] I think the lesson of all these iterations is that there’s no magic regulatory bullet. And the notion that somehow there is, is probably what fosters the problem. And again the Congress is not very good at designing legislation that fosters better performance in the financial system, and there’s no reason why you would expect them to be. They’re ignorant of what goes on in the financial markets and, let’s face it, they’re driven by (*gasp*) political motives.

Why else would you — again, to go back to a comment that Nouriel said … This crisis was caused by massive government subsidies to purchase homes by people who couldn’t really afford them. So what does Congress do? They pass an $8,000 tax credit for people who can’t really afford to buy a home to buy one. I mean, how stupid can you get?

So we can’t let this happen and we won’t? Nonsense: we can and we will.

Alex Pollock: Chris …

Chris Whalen: To pick up on John’s comment, the Congress doesn’t have a problem at the moment. They don’t see a crisis, because as long as the Treasury can borrow and fund their activities without their having to go back to the electorate and raise taxes they have no problem. The only time the Congress in the United States will have a problem is if the Treasury market has a failed auction. That’s when they start to have a real political problem, but at the moment, they have no problems.

And that’s why we see this ridiculous Kabuki on Capitol Hill. It has nothing to do with the actual problems of the country, it has to do with those members of the political class remaining entrenched. And as long as they can sell bonds, they’re going to stay right where they are.

So the policy moves that they take really have nothing to do with our collective wants and needs, really. I don’t think the Congress is at all representative anymore, even though John’s characterization is completely right.

You know, it took 30 years for the Congress to study market structure problems between the 1880s and the beginning of the Roaring ’20s. That’s how many crises we had to go through before we finally got Glass-Steagall; people forget that.

Alex Pollock: I have a question right here when … well OK, we’re going to move forward, to the right-hand side here.

Steve Votaw:OK [undecipherable] was my microphone. Steven Votaw with Deloitte consulting. I have actually two questions, and I think in light of what we’ve all talked about in terms of this bubble, like the housing bubble and the concentration of all banks in housing, I’m not convinced that the too-big-to-fail would really work. I mean wouldn’t … if we had a lot of smaller banks, wouldn’t they all just fail at the same time?

And then the second part of the question is — Desmond, you have only 10 percent down on home prices? But it seems like that backlog of foreclosures is pretty huge. Why only 10 percent down?

Alex Pollock: Both those questions are for you, Desmond.

Desmond Lachman: Just remind me of the first one …

Alex Pollock: If you had a whole lot of small banks, instead of a few big ones, wouldn’t they all just fail.

Desmond Lachman: … Do you know, if you had a lot of small banks, all doing exactly the same kind of thing, all being being subjected to exactly the same kind of shock, I would agree with you. But that’s hopefully not what you’re going to get in a very competitive system where you’ve got a lot of small banks doing different things.

So you could allow banks to fail, and that that would send very good signals. You know, you would get rid of moral hazard; you wouldn’t just have these banks able to borrow indefinitely knowing that the borrowers are going to be bailed out.

10 percent … I certainly think that prices could overshoot and I’d want to see what happens. If what I’m thinking is going to occur, we do get a double dip. Then I think you certainly could go way below.

I think that a point that Marty Feldstein [1:40:00] keeps making is that in the same way as you overshot equilibrium you can undershoot on the way down. There’s nothing magic about it. I think that there’s a dynamic process.

What would concern me is if you get yourself into a loop with lower prices causing more people to be underwater, creating greater incentives for people not to want to pay their mortgages you know we’ve really got a problem.

Alex Pollock: Nouriel?

:Nouriel Roubini Yeah, but in …

Alex Pollock: We’ll get Nouriel quickly and Tom, and then we’ll come to the next question.

:Nouriel Roubini Yeah, on the issue of many smaller banks I actually agree with the view that you can have systemic risk even if you have thousands of smaller banks. I mean one example was, you know, the S&L crisis — 1,400 of them went bust, none of them was a Lehman or a Bear (systemically important), meaning if there are conditions that create a bubble, whether it’s easy money, poor regulation / supervision, subsidization by the government of housing or whatever, you’re going to create a bubble, and then everybody’s going to behave the same way, it’s going to go bust, and then you have a systemic banking crisis.

So certainly too-big-to-fail is a problem, but unless we go to the core of the reasons why everything [undecipherable] bubble in the United States that goes bust, and then we have a severe economic / financial crisis is going to happen over again if we had lots of small banks.

Alex Pollock: Tom …

Tom Zimmerman: Yeah, I was going to say pretty much the same thing only from subprime perspective. We had a bunch of small subprime lenders and they were all doing the same thing. And because the regulators didn’t come down and say, "You can’t make these kind of really idiot loans." If you were in subprime lending and you didn’t do it, you were out of business.

So it’s the old, "You have to …", the bad loan drives the good loans out, clearly. And if you’re a … if you get by of those bad loans, people love it and they’ll go for it, and that’s why you need regulation.

Alex Pollock: There’s a famous saying of John Maynard Keynes that the market can stay irrational longer than you can stay solvent. That’s on the downside. On the upside, which is what Tom just described, there’s a parallel saying, "The market can stay irrational longer than you can stay employed." And therefore, you participate. I have a question right here. Go ahead.

Jack Phelps[ph]: Yes, Jack Phelps[ph], FHFA. I think along the lines of dealing with systemic risk, TBTF, I think Chris touched on, one of the necessary reforms is moving OTC derivatives to a clearing house. I think that’s a necessity. I think the other part that we hear zero discussion of … I think Alex maybe had a thoughtful piece² in the American Banker a week or two [ago] on this, is perhaps separating payments from commercial / merchant investment banking, and let’s treat the payments system as a utility, let’s protect it, not let it be affiliated in that kind of structure.

And if me move to that, then we can have these large firms fail, we can protect that. So I think that’s a necessary reform. Perhaps somebody can comment on that.

John Makin: Yeah, I would just say that I agree with the need to have banks that are focused on transaction services. But investment banks remember, that are large and subject to counterparty runs like we saw last September, can bring the system down. So there is a size issue there.

And so I think we have to be aware of that as well.

[crosstalk]

Alex Pollock: … OK Chris …

Chris Whalen: Remember Bear and Lehman were clients of banks, as John was saying. So having them not directly plugged into the clearing systems doesn’t help you. But what I do think we have to move towards, and you’ve heard it kind of discussed in the regulatory community, is — make debt of these holding companies convertable. And I mean all of it. You could do it in 10 percent increments.

Because then, you’ve got the resolution baked in, and we can stop talking about winding down these large institutions. That’s not what we need. We need to fund them, and [tape-skip] do stupid things, the bondholders have to know that they’re going to convert.

Alex Pollock: … just say what that means — what do you mean, "convert"?

Chris Whalen: Well now, [undecipherable] if you had Citi last year. Before the government put equity in, instead the bondholders would have been told, à la GM, "you’re converting into equity." You drop the interest expense of the entity immediately, and the next day you charge off … You know, Citi holdings, to give you an example, has about $300 billion in assets, half of which are covered by loss sharing agreements. If instead we had charged that off and used the new funds from the bondholders to recapitalize the entity, we’d be done. You’d never have to write a check again, if you’re the public perspective.

Alex Pollock: You’ve been waiting here up in the front … Then I’m going to come to the back here next.

John Serrapere Yeah, it’s John Serrapere from Arrow Insights and from Pittsburgh. One of the things I wanted to comment about is I want to thank you for putting on these presentations. I’ve made 5 of 6. It feels like I’ve made 12 of 9. [laughter] But it’s been a most rewarding in terms of my research. I just want to thank everybody.

But the question I had is — When the G20 was going on in Pittsburgh [1:45:00] I was able to get in some private forums (pre- the G20, of course) and one of the things I’ve learned that I didn’t know is that, one, it’s the G23, and another one is that … because there’s three members that really are always there.

But I learned that there’s a piece in NAFTA in 1999, drafted by Geithner, that actually prevents financial regulation for global financial intermediaries. So if we passed a law here and the banks are involved in other countries, it can’t be enforced in terms of the free trade. And Geithner actually drafted this when he worked for the Administration.

Now it’s a clause that’s reviewed, and it’s apparently being reviewed and it’s going to be added to the new Doha round? And it would revert, make impossible for you to reverse anything that was drafted after 1999 on a global basis. And I was unaware of this, but I was wondering if anyone in the room understands its impact on financial regulation.

Alex Pollock: Any comments?

Nouriel Roubini: I mean, the only point that I’d make is that whatever you have to do, you have to do at the global level, otherwise there would be jurisdictional arbitrage. And so whatever agreements are made about reforming the system of financial[ph] regulation, we cannot do more than others or vice versa … otherwise it would be a game of jurisdictional arbitrage.

Alex Pollock: Thank-you. Can I have a question way in the back here?

anonymous questioner: Why should we, and pardon me, maybe this is naive, but speaking to the international matter here, because I think we’re looking at a macro solution, but …

First, why should we be worried about jurisdictional arbitrage if we decide that our macro solution would be, first, keeping our Constitution? So Article 1, Section 8 compliant trade would be demurring on keeping G20 agreements. So what do you say to us where we decide that, you know, we’ve got to clean up our house here?

Because we’re not going to have enough people who can pay their mortgages and buy cars and things like that, you know, once you’ve offshored their production into one of the former colonies of our allies, which is in effect complying with … US’ compliance with the G20 agreements is collapsing our economy and offshoring our productions.

So Free Trade’s been [crosstalk] … but that’s my question, you know. I mean. what are you say that [crosstalk] where our macro solution’s are something we need to do?

Alex Pollock: … What are we … how are we to answer this naive question? Why do … as you said, why do we care about this international jurisdictional issue?

Chris Whalen: Well I think at some point we’re going to have a government in power that’s going to make a choice between the American people and our creditors, who are predominantly foreign. And I think that choice will involve letting the dollar depreciate. I don’t think we’ll ever actually repudiate our debts, as long as we can print more dollars. But I think that’s the fundamental political issue that faces our entire society …

To what extent are we going to go along with this wishful thinking about a global economy when we still have entities that are national?

And look at banking. Look at Basel II. There is no global framework here. There is no global accounting system. There is not even a global definition of default, for chrissake. So how can we pretend that this is a global regime for capital adequacy?

Alex Pollock: One minute in the penalty box for the profanity, but just do you …

Chris Whalen: … my name is Chris …

[laughter]

Alex Pollock: … do you favor a global accounting system, Chris?

Chris Whalen: It’s not possible.

Alex Pollock: Nouriel …

Nouriel Roubini: I mean, if what we’re going to do is to essentially devalue the real value of our public debt and avoid debt deflation through inflation and debasing our currency (it’s an option), at that point, I think that the creditors of the United States are going to pull the plug.

Because if we’re going to the route of high inflation then China, the Gulf States, Brazil, Mexico, Russia, Japan, you name it, they’re not going to go and sit back and take the capital levy of hundreds of billions of dollars on their own dollar assets. And they’re going to run away.

Last time around we did it in the ’70s we were a net creditor country and a net lender. We were running current account surpluses. This time around we are the biggest net debtor in the world, to the tune of $3.5 trillion and we’re still borrowing on net half a trillion a year because we have a large current account deficit.

So you can try and impose that capital levy, then you have a sudden stop of capital and the dollar collapses, and then you have a spike in interest rates and you have disorderly stagflation again.

So it’s too easy to say we’re going to screw our creditors, because those creditors are not going to bend over and say, "I’ll take it." They’re going to run away, and it’s going to be nasty at that point.

[laughter]

Alex Pollock: John …

John Makin: Well I want to add, we’re all kind of in this … in the same dilemma.

Comment: that is … [1:50:00]

The maturity of US Federal Debt is very short, something on the order of 2 years, so the option of … It’s really not going to work very well if we try to zap our creditors.

And secondly, I don’t think that the Fed is in a mood to do this. I know everybody’s very sceptical, but I don’t think the Fed will play along. And that will cause some difficulties with the Fed’s independence, but this Fed will go down fighting to avoid the sort of simple-minded "inflate our way out of this" story.

Alex Pollock: Question right here please.

Barry Wood: Barry Wood, free-lance economics correspondent.

In terms of what Nouriel was saying about the dollar carry trade, what’s the solution to this. Can market deal with it?

There’s resistance in Brazil, that tax you mentioned. There’s resistance in Europe to seeing the dollar more than to $1.50 [== 1 euro]. What can be done as a corollary to force the renminbi in China to come up and not go down with the dollar?

Nouriel Roubini: Well I think that, you know, the trouble is that the Fed keeps on having zero rates and expects to keep them at zero. And the Fed reduces volatility by buying long rates, then the game everybody’s going to play is a carry trade. And that’s what’s happening right now and other countries are in trouble because either they intervene, like the Asians are doing, because their currencies are appreciating too fast. And if you intervene is unstabilizing intervention and therefore you increase your base money and credit growth becomes worse. Or you decide to cut interest rates, and that’s the same thing, because you try to avoid your currency from appreciating by following the US monetary policy. Or you try to do what Brazil does.

But they are all variants of the same, that imply that everybody around the world has to import our monetary policy, and therefore our easy money becomes a global easy money, and that particular bubble continues. And that’s the scary part of it. It’s really the scariest thing that’s happening right now.

People say the economy’s recovering, these asset prices are going up because of that. The reality is that money not only is free, but if you borrow in the US is a negative interest rate. And everybody’s playing exactly the same game. And people are not realizing that it’s the most dangerous game we’re playing right now.

Of course the trouble the Fed is facing is that it has two objectives. One is to stabilize growth and avoid deflation, and the other one to avoid financial instability.

But they’re using one instrument, the Fed Funds Rate, to achieve stability of growth and avoid deflation. But they’re creating exactly like 2003-2006, financial instability. Because at that time we kept the Fed Funds Rate too low for too long, and you normalize it too slow, too little. And we created the asset bubble, the mortgage bubble, the housing bubble.

This time around, is occurring on a global scale. It’s not just the US. What’s happening right now with this carry trade, is creating a global asset bubble that we haven’t seen in decades. And is going to go bust.

Alex Pollock: Nouriel, given all that, what’s your forecast for the price of gold?

Nouriel Roubini: Actually, you know, on gold, in my view, gold goes very high under two scenarios. One in which you have inflation, and the other one in which you have again, Armageddon, in which you cannot even backstop the financial system.

For the time being I see a glut of capacity globally, demand weak, weak recovery, and there’s deflation and firms cannot sell their goods and they’re slashing prices.

And on the labor side, slack in labor market — unemployment at 10 percent. So for the time being, I see just deflation around the world, and that cannot be good for gold.

Too, gold could sharply spike if we’re going to go back into, again, another double-dip in which we cannot anymore backstop the financial system. Because you’ve got governments that are going to be essentially having banks too-big-to-fail and too-big-too-be-saved. If you get into that world in which really we cannot backstop the financial system because they government is insolvent, that’s the time to buy guns, ammunition, canned food, [laughter] gold bars and run to your log cabin in the mountain.

That was the world after Lehman, and that was the world of February / March. That’s when gold went above $1,000 again, right?

So gold usually goes up when you have inflation, expectation like the first half of last year, or when we have catastrophe and Armaggedon. Those two theories, for now, have been reduced. The one of the inflation because you have this slack in goods and labor market, and the other one because we’ve decided to backstop the financial system.

If we have a double dip, that’s a different story. But in that case, before we get inflation then we get a near-Depression and stagnation.

Alex Pollock: Chris, quick comment and then a question coming here.

Chris Whalen Well you know it’s interesting, if you look at the UK real estate market right now, it’s going up, even though the economy there is flat. And I think what you’re seeing, to John’s earlier points, is that holders of paper money are starting to look for solid assets to buy.

So I think even in this country you’re going to see selective spikes upward in prices for really prime real estate, but only when it’s been marked down. [1:55:00]

Christine Eisner[ph]: Christine Eisner[ph] with KW Commercial. My question is regarding the re-evaluation of real estate mortgage investment conduits, or Re-remics.

How effective or ineffective do you think this this tool is in relation to the banks’ reserve requirements, and possibly the real estate industry.

Alex Pollock: Tom, you maybe want to take that one?

Tom Zimmerman: Would you say that again?

Christine Eisner[ph]: It’s the Re-remics. Re-evaluation of real estate mortgage investment conduits, regarding a bank’s reserve requirements? In other words, …

Tom Zimmerman: Is this the changed rule about the tax code you’re referring to? About the fact that for some commercial real estate CMBS you …

Christine Eisner[ph]: They’re re-evaluating the package of investment portfolios and they’re taking the good loans and they’re re-evaluating them upwards and taking the bad ones and …

Tom Zimmerman: Oh! Oh that. Oh, no. That’s not going to be a big problem. That’s … That’s just a matter of re-securitization. They’re taking a pool of securities — several pools of securities. Taking some of the … taking those loans and repackaging them and now selling off part of that as a triple-A again.

So it’s a little bit like they did before, only this time the rating agencies and the criteria for these Re-remics are so much stricter that investors will buy those triple-As without much concern.

Now we can say when they did that 4 years ago and got screwed, but under this current regime of the rating agencies, what they require for those Re-remics and the kind of collateral going into them, anyone that’s frugal is going to want to buy that stuff, because it’s just rock solid.

That’s a little bit like, if you can buy a mortgage loan created today, it would be great, because, you know, you’ve got 20 percent down and high LTVs and all that. So if you have the wherewithal to buy certain assets right now, even beyond this thing we’ve been talking about here, …

What happens, when banks go through a crisis like they did in 1990/’91 or like we’re just going through now, lending criteria, what few loans they make, are rock solid. So it’s a little bit like when they re-securitize these mortgage loans right now, this is the best of the best. So I don’t view this as a problem.

Alex Pollock: Alright, time for one more question. We’ll come to the back here.

Dale Kinsella[ph] Hi. Dale Kinsella[ph] with SSA. I was wondering if you guys could comment on there being a correlation between the economic downturn and the high unemployment and stagnant and falling wages. Is this … is there really not a big correlation, and this is more due to competition than labor markets from like China, for instance. And there being a lot more competition in the labor market in the United States.

Alex Pollock: … John? …

Dale Kinsella[ph] … 20 years ago an Ivy League law degree meant a lot more than it does today, for instance.

Alex Pollock: John?

John Makin: You know, look. I think when the economy … The primary pressure on employment is simply that there’s massive excess capacity and for most businesses labor is 70 percent of their cost base, so, you know, what we’ve seen … certainly over the past 6 months is, anybody who’s reporting better earnings is saying, "Well, we contained a lot of … cut a lot of costs." And they way to cut costs is to lay people off, and so that’s what we’re seeing.

The … So that scale effect is far more dominant than the substitution effect, which would be the operation of alternate production facilities abroad. It has some effect, but it’s being overwhelmed by a simple surge in excess capacity that forces people to cut a lot of costs as rapidly as they can. [1:58:44]

Notes and References

[1]: "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis", AEI event homepage, October 22, 2009.

[2]: "Deposit Insurance a Persistent Problem", by Alex J. Pollock, American Banker / AEI, October 7, 2009.

On one hand, there is the fervent political desire to make deposits riskless for the public, so that depositors do not need to know anything about or care about the soundness of their bank. But their deposits fund businesses that are inherently very risky, highly leveraged and cyclically subject to much greater losses than anyone imagined possible.

To that end, FHFA has informed Fannie Mae that a possible transfer of a portion of its LIHTC investments to unrelated third-party investors is consistent with FHFA’s ongoing efforts to conserve Enterprise assets and with the Enterprise’s multifamily housing mission. … FHFA Acting Director Edward J. DeMarco, November 5, 2009¹

Many thanks to twist for data-mining that gem from the dark recesses of the DC bureaucracy. So in all the turbulence going around, the most urgent crisis facing America is …

• Swine Flu? not even in the top 10
• Recession? OVER! OVER! OVER!
• CMBS Tsunami? way out in the offing, won’t hit for weeks
• Looming Shortage of "Dow 10K" Party Hats? not even that …

America’s most urgent crisis is the fallout from October 23, 2008, when DeMarco’s predecessor Jim Lockhart testified in Congress and mentioned the word explicit.²

Once a week³ ever since, the OMB’s most consistently optimistic analyst (let’s just call him "Phineas Q. Pangloss") has come back from a long lunch, taken a deep breath, and circulated a research note to the effect that …

… Yeah sure guys, no problem. Treasury can cut off their support⁴ to the GSEs any time they want to. And holders of Agency Debt would be, like, totally cool with the resulting haircut. After all, every piece of senior debt ever issued by Freddie, Fannie and the gang came stamped with a nice big notice that "This Ain’t No Sovereign Obligation of No USA!"

And the reason this happens every week without fail is that should the OMB ever come to the same conclusion as Mr. Market (that there’s no way in Hell that Geithner’s ever going to throw the agencies holders under the bus) they would have no choice but to immediately double the nominal value of the US National Debt.

But there’s one small problem. Fannie & Freddie are being used as a couple of cudgels to beat back the housing recession, and so their balance sheets are swelling by the day with more and more toxic MBS. Profitable? Probably never as they’re situated, but if the farce of conservatorship ends and they revert to the pre-1968 world where Fannie was an actual Federal Government department like Ginnie, you trigger the above disaster.

Enter LIHTC. If Fannie requests another $15 billion (like they did yesterday) too often, even Pangloss will have to recognize the evident truth that

1. Fannie’s a basket case; and,
2. Treasury is their explicitly dependable sugar daddy.

So the GSEs and their regulator, the FHFA, are going to use every trick they can think of to keep up the pretense that the Enterprises are going concerns.

Now LIHTC is tax-reduction credits, many $billions worth, but Fannie isn’t going to have a bit of taxable income for many, many years. So to achieve a benefit for its own balance sheet, they have to find someone else with $billions of fresh profit who will buy the credits at a discount so they can reduce their taxes. Hello, Goldman⁵ and Mr. Buffett.⁶

But in real life, Fannie and the US Treasury are two pockets on the same pair of pants. The net effect of this exploit would be to give a direct government gift of billions of dollars to some of America’s most flush companies so that Fannie can put off for a couple of months formally going back to Geithner for their next infusion of cash. What’s Wrong with This Picture?

So at any rate, Doomers will I’m sure be ecstatic at the heart-warming news that response-times to aid the needy have reduced considerably since Katrina. Guy Fawkes’ fireworks have barely cooled down and already WSJ⁷ is reporting FHFA approval for selling $2.6 billion-worth of the credits to unnamed, but surely deserving counterparties. Would that FEMA could start dropping relief packages as expeditiously.

UPDATE: The plot thickens.¹¹

If you were curious about the recent news regarding Goldman Sachs’ (GS) and Warren Buffett’s (BRK.A) interest in acquiring the tax losses of Fannie Mae (FNM), the details are in Fannie’s 10-Q.

This deal was agreed to and inked a month ago. It is still pending approval. So the information that was first reported by Bloomberg was a deliberate plant. A possible objective would have been to get a decision on the transaction before yesterday’s release. Note that the Q provides an update of the deal’s status as of November 5. Someone was waiting to edit this section right up to the last minute. A tad unusual.

……………………..

Further (Friday PM late): This¹² just in from the WSJ.

The U.S. Treasury blocked Fannie Mae’s proposed sale of nearly $3 billion in low-income housing tax credits to Goldman Sachs Group Inc. and Berkshire Hathaway Inc. on Friday after concluding that the deal was too costly for taxpayers.
…

But Treasury Department officials blocked the deal after concluding that it would have resulted in a loss of tax revenues greater than the savings to the federal government had it allowed the sale. "In short, withholding approval of the proposed sale affords more protection of the taxpayers than does providing approval," an administration official said in a statement.
…

Approving the deal could have also furthered a perception that policy makers have taken steps that have favored Goldman ahead of other banks at a time when populist sentiment against Wall Street has surged.

But since the debt that finances things like that is still regarded as the world’s safest investment, foreign central banks are eager to buy the stuff. While The Fed’s own MBS holdings rose a trivial $0.328 billion, and the cenbanks’ agencies not much more than that, their Treasury Debt buy was more than healthy, according to this week’s Reuters report⁸. The report was, as usual, based on the weekly update from the NY Fed’s H.4.1 table site.⁹ Here is Doom’s updated CSV version¹⁰ of the agencies and treasuries foreign central bank holdings data set.

The treasuries buy was a lusty $18.159 billion, more than doubling last week’s figure.

Agencies were back in positive territory, but only added $0.758 billion.

The net change of US obligations was an excellent $18.917 billion, well over $2 billion a day.

Twist’s ratios graphs are down once again.

The Setser 52-week chart saw convergence in both lines (the year-ago results were both more intense).

________________________

Notes and References

[1]: "Statement of FHFA Acting Director Edward J. DeMarco Concerning the Possible Transfer of Fannie Mae Low-Income Housing Tax Credits to Investors" (PDF), FHFA, November 5, 2009.

[2]: "Fannie, Freddie Have `Explicit Guarantee,’ FHFA Says", by Dawn Kopecki and Jody Shenn, Bloomberg, October 23, 2009. [Of course this statement was "clarified" to custard as soon as Lockhart realized what he'd just said. Senior government officials spent weeks speaking around an "effective guarantee" that has never been defined.]

“The conservatorship and the access to credit from the U.S. Treasury provide an explicit guarantee to existing and future debt holders of Fannie Mae and Freddie Mac,” Lockhart told the Senate Banking Committee in testimony today from Washington.

[3]: Cass Sunstein please note — 1) this is satirical, 2) I am making it up

[4]: "Fannie Mae 3Q Loss Narrows; Requests Another $15B From Govt", by Kevin Kingsbury, Wall Street Journal, November 5, 2009.

[5]: "Goldman’s Attempt To Buy Fannie’s Tax Credits", by Daniel Indiviglio, Atlantic, November 3, 2009.

[6]: "Buffett joins Goldman’s Fannie tax credit bid - WSJ", by Greg Morcroft, MarketWatch, November 4, 2009.

[7]: "Fannie Arrives at a Deal to Sell $2.6 Billion in Unused Tax Credits", by Nick Timirao, Wall Street Journal, November 6, 2009.

[8]: "Foreign cenbanks’ US debt holdings up in week - Fed", by Ellen Freilich, Reuters, November 5, 2009.

[9]: "H.4.1 Factors Affecting Reserve Balances", Federal Reserve Statistical Release (weekly), Federal Reserve Bank of New York.

[10]: The updated data set as a Comma Separated Value (CSV) file is here.

[11]: "Goldman, Buffett Deal with Fannie Mae Inked a Month Ago", by Bruce Krasting, Seeking Alpha, October 6, 2009.

[12]: "Treasury Blocks the Sale of Tax Credits by Fannie", by Nick Timiraos, Wall Street Journal, October 7, 2009.

WASHINGTON, Nov. 5 /PRNewswire-FirstCall/ — Fannie Mae (NYSE: FNM) is implementing the Deed for Lease(TM) Program under which qualifying homeowners facing foreclosure will be able to remain in their homes by signing a lease in connection with the voluntary transfer of the property deed back to the lender.

 

"The Deed for Lease Program provides an additional option for qualifying homeowners who are facing foreclosure and are not eligible for modifications," said Jay Ryan, Vice President of Fannie Mae. "This new program helps eliminate some of the uncertainty of foreclosure, keeps families and tenants in their homes during a transitional period, and helps to stabilize neighborhoods and communities."

 

The new program is designed for borrowers who do not qualify for or have not been able to sustain other loan-workout solutions, such as a modification. Under Deed for Lease, borrowers transfer their property to the lender by completing a deed in lieu of foreclosure, and then lease back the house at a market rate.

I’ll agree that it keeps properties from being vacant, disrupting families and provides more affordable housing.  I suspect however, that it helps continue with "mark-to-fantasy" bookkeeping and slows recovery in the housing market.

This is for primary residences only, so it won’t do much for the speculators out there.  In fact, it will probably be detrimental to the rental market, as it will keep a pool of potential renters out of the market.

In the ongoing debate about whether one should walk away from an underwater mortgage or not, one University of Arizona professor speaks out strongly in favor of taking a hike. According to Brent T. White, an associate professor of law at the University of Arizona:

A failure to grasp the true economics of the situation is holding back many Americans whose home values have dropped far below the amount they owe and who would be better off renting, Mr. White says. Fear, shame and guilt also are preventing rational decisions, he believes. And, he says, those “emotional constraints” are encouraged by politicians and bankers, who ruthlessly and amorally follow their own economic interests while telling Joe Soggy Homeowner he has a moral duty to pay his debt so long as he possibly can.

I was sent the above article by Doom friend M.R., and highly recommend reading the comments section.  There are a number of intelligent comments taking up both sides of the walking debate.  The article discusses White’s paper Underwater and Not Walking Away: Shame, Fear and the Social Management of the Housing Crisis.

White says that he is not amazed by the number of folks walking away from their mortgage- he’s amazed by the number that don’t.  He repeatedly refers to walkers as "rational homeowners".  We often hear how you might as well hang on and sit tight- markets are cyclical and values will come back in a few years.  Besides, you don’t want a black mark on your credit rating.  Here’s why White refers to walkers as "rational" though:

White gives the hypothetical situation of "Sam and Chris".  Sam and Chris purchased a typical home in Salinas, CA for $585K in January 2006.  They have a monthly payment of $4,300/mo., slightly less than 31% of their income.  The couple just break even every month.

Unfortunately for Sam and Chris, the housing market began to collapse in 2007. Though they still owe about $560,000 on their home, it is now only worth $187,000. A similar house around the corner from Sam and Chris recently listed for $179,000, which, with a modest 5% down, would translate to a total monthly payment of less than $1200 per month – as compared to the $4300 that they currently pay. They could rent a similar house in the neighborhood for about $1000.

Assuming they intend to stay in their home ten years, Sam and Chris would save approximately $340,000 by walking away, including a monthly savings of at least $1700 on rent verses mortgage payments, even after factoring in the mortgage interest tax reduction. The financial gain for Sam and Chris from walking away would be even more substantial if they took their monthly savings and put it into an investment account. If they stay in their home on the other hand, it will take Sam and Chris over 60 years just to recover their equity – assuming, of course, that they live that long, the market in Salinas has indeed hit bottom, and their home appreciates at the historical appreciation rate of 3.5%.

I personally think the world is a better place when people make a good-faith effort to pay their bills.  Consequently I was a little disturbed by this statement of White’s:

Unlike lenders who follow market norms, individual homeowners are encouraged to behave in accordance with social norms of “personal responsibility” and “promise-keeping.” Thus, individual homeowners tend to ignore market and legal norms under which strategic default might not only be a viable option but also the wisest financial decision. As a result, individual homeowners have born a disproportionate share of the costs of the housing meltdown.

Given that the "market norms" for lenders have been governed by greed and a lack of responsible behavior, it hardly seems that encouraging homeowners to follow the same market norms would lead to a better society or a more stable economy. White makes this point however:

One obvious response to the above discussion is that society benefits when people honor their financial obligations and behave according to social and moral norms, rather than strictly legal or market norms. This may be true if lenders behaved according to the same social and moral norms. In the case of lender-borrower behavior, however, there is a clear imbalance in placing personal responsibility on the borrower to honor their “promise to pay” in order to relieve the lender of their agreement to take back the home in lieu of payment. Given lenders generally superior knowledge and understanding of both mortgage instruments and valuation of real estate, it seems only fair to hold them to the benefit of their bargain. At a basic level, sound underwriting of mortgage loans requires lenders to ensure that a loan is sufficiently collateralized in the event of default. In other words, in appraising a home the lender should ensure that the loan amount, at the least, does not exceed the intrinsic market value of the home.

I believe people have an obligation to pay their financial agreements to the best of their ability.  On the other hand, I also believe that people have an obligation to try and not be a financial burden to others.  How can a couple like the hypothetical Sam and Chris pay for their kids college and braces, save for emergencies and fund their retirement if they spend the rest of their working careers trying to pay off one financial mistake?

Two things have become clear to me in all of this.  One is that both parties need to have skin in the game to minimize unethical behavior.  When either party has access to easy money and low risk, the odds are that they are going to exploit it to their own advantage. The other thing is that at the end of the day, it is very difficult to judge those who are walking away.  As White points out in his paper, the vast majority of defaults are not strategic- people simply have no choice.  As for the rest, there are as many situations out there as there are people.  Walkers run the gamut from the fraudulent scumbags who planned on walking before they ever closed to the heartsick couples who painfully decided that walking is the lesser of several financial evils.

White does not advocate all underwater borrowers walking. [In fact, he indicates that he is also underwater, but feels he is better of staying put.]  He does however believe that in many cases walking is the rational thing to do. If I were sitting in the position of "Sam and Chris", it would be difficult not to agree with him.

“The injunction of Jesus to love others as ourselves is an endorsement of self-interest,” Goldman’s Griffiths said Oct. 20, his voice echoing around the gold-mosaic walls of St. Paul’s Cathedral, whose 365-feet-high dome towers over the City, London’s financial district. “We have to tolerate the inequality as a way to achieving greater prosperity and opportunity for all.”  Bloomberg¹

Thank goodness for Tatjana’s 17th Century English Lit course.  The last few months would have made no sense at all if I hadn’t decided to make a close study of Donne’s sermons and Laud’s adventures in Xtreme Interior Decoration.

As it stands, I can just sort of work my way through the section on  "The Growth of Individualism" in Tawney’s 1922 Religion and the Rise of Capitalism and treat the whole affair as a kind of cosmic joke.

When the banking lobbyists marched up the Hill on September 18, 2008 and seized control of the economy it was the perfectly symmetrical event to the fall of Soviet Communism.  We’re now enjoying (on a compressed time frame) the same post-collapse rise of oligarchs that Russia experienced in the late ’90s.  Perhaps if Putin’s not too busy pulling the strings back home, Larry could sign him on as a consultant.  Obama’s got a serious problem if he lets these guys strut around unhindered.

———————–

[1]: "Profit `Not Satanic,’ Barclays Says, After Goldman Invokes Jesus", by Simon Clark and Caroline Binham, Bloomberg, November 4, 2009.

The housing credit’s impact is particularly pronounced in the Savannah area.

The number of first-time buyers locally is unavailable, but pricing and loan trends indicate they could make up more than 40 percent of the market.

Homes priced under $200,000 have outsold those priced above that number by almost a 2-to-1 margin this year, with homes sold for $100,000 to $149,999 - "starter homes" - outpacing all others.

And almost half of the houses financed locally this year were done with loans backed by the Federal Housing Administration or the Veterans Administration, which cater to first-time buyers.

And how would allowing the credit to expire affect the market?

A drop in local building permit applications in September offered a glimpse of what a creditless future could look like. Permits tripled in Chatham County during the summer months as builders began construction on homes that could be completed in time to be bought and occupied ahead of the Nov. 30 tax credit deadline.

Permit numbers dropped drastically in August and September, a trend the head of the local homebuilders association, Matthew Young, said reflected the industry’s wait-and-see approach to the post-tax credit market.

"If they don’t extend" the credit, Young said, "they will wait and see what sales are like after that."

Here’s a great chart from Business Insider that shows how this credit has skewed the market in favor of first time homebuyers:

 So how critical is the home buyer tax credit?

There is no question that the tax credit has kept the housing market on life support, but it has done nothing to genuinely improve its condition.  As the information from Savannah indicated, if the tax credit were to expire, it is likely that the market would fizzle once more.  It has not provided some sort of "green shoot jumpstart".  It might even discourage the market in the long run as buyers ask, "Well if it’s $8,000 now, what might it be later?"  After all, they are already expanding the credit from first time buyers to the move-up crowd as well.

One of the big issues however is the ongoing weakness in the jumbo market, and a $6,500 credit is unlikely to do anything for that.  While a $8,000 tax credit is significant if you are buying a $100,000 house, a $6,500 credit is not much of an incentive for purchasing a more expensive home. A weak economy, expensive financing and tighter lending is still keeping downward pressure on upper-end housing and a lid on starter home appreciation.  Home prices remain out of line with fundamentals and until that changes the market will remain in the doldrums.

Long term the tax credit cannot keep the market going nor do much for the move-up market.  The credit might be critical to politicians to give the appearance of "doing something", but anything that skews the market so badly can only serve to delay its recovery.

So, you know, there’s nothing for safety and soundness like a comfortable oligopoly. We might think about that and … we’re planning, for those of you who are interested, a conference, coming up in a few months, contrasting the Canadian house finance and financial system with the American system. So there’s a little advert — little preview.

Doom Transcripts: Index & Guide

Well, that certainly got my attention

Housing Doom is pleased to present a seventh selection from our under-construction transcript of the American Enterprise Institute’s October 22, 2009 event "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis".¹

The event site has a number of resources, including an audio and video of the proceedings. There is as yet no official transcript.

Most of AEI’s "team bear" participated in a brief but lively discussion after the presentations.

Alex Pollock: [1:21:56] Thank-you, Desmond.  Having heard five really interesting presentations, let me give the panelists, if they want, a chance to add something, or react to the others.  Nouriel?

Nouriel Roubini: Just a comment on the last point that Desmond made. In this crisis, regulated banks got in trouble, but also a lot of non-regulated financial institutions — were broker/dealers like Bear and when bust. And so in some sense, suppose we go back to Glass-Steagall and not against it? What does it rule out? And then you’re going to have a bunch of broker/dealers or non-bank Shadow Banks that are going to become too big to fail. They’re going to do crazy things and eventually we’ll have to bail them out.

So do we need to really go back to Glass-Steagall? Or we need to break up every financial institution and make it so small that it can fail and who cares? And we don’t have to bail them out. What’s the appropriate policy choice on that? And I think that’s an open question for everybody else on the panel.

Alex Pollock: Other comments? Chris? … and then I’ll come to Desmond.

Chris Whalen: The most striking thing I heard from the other presentations was that chart of existing homes. [slide 13 (Lachman's deck)] We still have a third of the purchasers in the investor category. In ‘05/’06/’07 we had 40 percent of all home purchases in the US by investors. So that shouldn’t make you feel good.

I mean, homeownership used to be a form of forced savings, as Alex and I have discussed many times. And it’s still a speculative vehicle. So if you go back to the banks and look at the forebearance that’s currently keeping those loss numbers down, and you look at the emergence of yet a new acronym, TDRs, Troubled Debt Restructurings, which is essentially the banks’ way of saying, "Well, we won’t push you into foreclosure, we’ll live with you."

That, to me, is scary. Because if you don’t have a vigorous recovery next year, then transactions like Wells / Wachovia don’t work. They’re all premised on a bounce.

Alex Pollock: Desmond?

Desmond Lachman: My view is that I don’t think that there is a silver bullet on financial reform; that I think that Glass-Steagall by itself, you know, I don’t think really it solves the problem. That I think it helps, but I think that you’ve really got to do a lot more in terms of creating the right kind of incentives; changing the whole compensation scructure on Wall Street would be one way of doing it. Getting the rating agencies not to be paid by the issuers would be another thing; that you can just think of a whole multitude of real reforms that you need.

I think what bothers me now is you’ve just got far too many of the financial institutions have got the whole of the financial … firstly you’ve got far more concentration than we had before. The 10 top banks now are controlling more of the markets, we’ve got a lot less competition. So that breaking these banks up into smaller units, having some kind of competition, I think that that would really be [1:25:00] something that one wanted to go.

I’m also concerned that you’ve just got a huge moral hazard now, that all of these banks have got access to the Fed window, which they didn’t have before. So you really just, I think, encouraging moral hazard on a great scale.

You really need a total overhaul of the system. Otherwise I think all we’re going to do … [1:25:00] …… is we’re going to just repeat the boom / bust kind of cycle that we’ve looked through the last few years.

Alex Pollock: John …

John Makin: I think the comments that I’ve heard everyone make suggests to me a kind of framework that I’m imagining some thoughtful policymakers are contemplating. And that is: We look at the post-bubble situation and we look at the policy response, and they sort of … we had to save the too-big-to-fail institutions.

I think that leaves central banks especially with a very difficult choice. That is, either they reinflate the bubble, and Nouriel suggesting that we’re on the way to doing that, and I think there’s a good case to be made that that’s probably going on. Or they say, "All right, we’re going to get tough and we’re going to consign ourselves to a kind of global lost decade à la Japan where we’re going to do the right thing, we’re going to step up, we’re not … we’re going to kind of create a different attitude toward risk-taking." The problem with that is that it’s very difficult to implement, maybe politically imposible, and very risky.

So I think as … So what’s the outcome? Well, it’s sort of like — damned if you do, damned if you don’t — as Nouriel’s suggesting.

And so it may lead to hesitation — although one reminder: We have had two major burst bubbles in the past 80 years, and in both cases, in the case of the Fed in 1936/37, when we raised tripled reserve requirements, raised reserve requirements 3 times, and tightened fiscally; and then in Japan in August of 2000 when they abandonded the zero interest rate [ZIRP] policy … In both cases the central bank made a feint — that’s f-e-i-n-t — toward the sort of tough medicine and created such a crisis that they had to back off.

So I think that’s something I’m watching as I follow the discussions among central bankers, is that the risk of trying to exit this too aggressively while worrying about the need to not create another bubble. That’s a huge dilemma.

Alex Pollock: Tom? (let me just see) … Tom, anything? … Chris?

Chris Whalen: I want to ask John a question. In the past, reflation has lifted all boats. But the concern that I have and what I want to ask you, because you have studied this for a long time, is: What happens if the reflation doesn’t help the real economy? What happens if it’s only effective on those who have direct access to the monetary authorities?

John Makin: Well, I think that your … it’s a fair description of what’s happening now. The monetary base has been boosted tremendously by the Fed’s activities. The Feds have said, "OK, here’s a lot of cash" to the banks.

The money multiplier has collapsed, so that M2 aggregates, or most credit aggregates, are flat to falling. So in a way, the effort to stimulate the economy went through the usual channel at a … When you’re at zero interest rates you try to do quantitative easing if … and the Fed doesn’t like to call it that …

But so far those efforts have been a total failure. And not only that, but if you look at the behavior of money relative to nominal GDP, velocity has actually collapsed.

So we’ve already failed to affect quantitative easing and interest rates are at zero.

Alex Pollock: A case you might think of there, Chris, would be the reflation and runaway inflation of the late 1970s. We remember the history that it had an inflationary runaway in the early ’70s, a commodity / oil price boom. Interest rates to then unheard-of levels in the US, then a big recession and a big bust — ‘75/’76. And then the inflation, which created inflation, but also created stag-flation and ultimately the bust of the 1980s.

One other point I’d like to make on the question of Glass-Steagall, or of banks that are too big. [1:30:00] Here’s a counter-example.

Canada is now held up as an example of a financial system which has weathered the current bust quite well. And actually, the Canadian banks also weathered the 1930s much better than the Americans did.

Well what’s the structure of the Canadian financial system? It’s 5 big financial companies, big banks, who control the whole system.

So, you know, there’s nothing for safety and soundness like a comfortable oligopoly. We might think about that and … we’re planning, for those of you who are interested, a conference, coming up in a few months, contrasting the Canadian house finance and financial system with the American system. So there’s a little advert — little preview.

Let me come now to your questions …

Nouriel Roubini: Quick question …

Alex Pollock: Yeah, go ahead.

Nouriel Roubini: You know, they are oligopoly, but aren’t they highly regulated? Much more than our financial institutions, so …

Alex Pollock: They’re highly regulated and the oligopoly is more than the banks, it’s the club of the regulators, the central bank, the government and the banks. You know, the traditional in-group system, as I interpret it.

That gets you safety and soundness, but it may not get you a lot of vibrant innovation. [1:31:26]

Notes and References

[1]: "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis", AEI event homepage, October 22, 2009.

Clorox Co.’s earnings rose 23% for its fiscal first quarter on improved profit margins and increased sales of disinfecting products caused in part by concerns over the H1N1 flu virus. - WSJ¹

Talk about creative destruction, looks like these guys are gonna lead us on to permanent prosperity

————–

[1]: "H1N1 Boosts Clorox’s Earnings", by Tess Stynes, Wall Street Journal, October 2, 2009.

Now that we have a new (and improved) tax credit of $6500 rolling through Congress to the "move up" buyers we’ll see if government can incentivize that class to start daytrading homes as well.  The only issue is so many of them are underwater on their homes, it is sort of difficult to buy a new house (even with government handing free money out) when you still have to deal with that unfortunate investment you made in your old one.  

Unless, a new national fraud is institutionalized - that is (1) buy the new house with the taxpayer’s money & "super cool FHA mortgages", and (2) then walk away from the old house / mortgage, once the new one is secured.  You take a hit on your credit report but oh well - you have a new house, at a much cheaper price, and the taxpayer can deal with the mess.  In about 5 years you are good to go as the default moves to the bottom of your credit report, and within 7 years…. all gone.  Let’s see if we start hearing of rampant examples of this "strategy" by next spring.

It’s unlikely that a $6,500 credit for the move-up crowd will have the impact that the $8,000 did for the first time buyers.  $8,000 off of a starter home is more exciting than $6,500 off of a more expensive one.  That fact that it’s a poor idea though is unlikely to discourage Congress from doing it.
 

Housing Doom is pleased to present a sixth selection from our under-construction transcript of the American Enterprise Institute’s October 22, 2009 event "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis".¹

The event site has a number of resources, including an audio and video of the proceedings. There is as yet no official transcript.

This is the presentation by AEI’s Desmond Lachman.

Desmond Lachman: [1:08:20] Alex, thank-you very much again for organizing this conference at a 6-monthly interval.

I think one’s got to go through life counting one’s blessings, and one of the blessings that I’ve realized that I’ve got to count on now is that my name isn’t Tom Zimmerman, and that I come at the end of the presentation.

Because much of what is said, I really agree with. So I can walk through a presentation. I’ve entitled it "A False Dawn for the Housing Market?" [slide 1²]

In the interests of being optimistic I’ve put a question mark whereas I really meant putting an exclamation mark. [laughter]

Let me start just with the lessons that one can draw from this crisis, and I think that there are a whole bunch of lessons. We’re going to be writing books about this for many years to come, much like The Great Depression we’ll be looking through this crisis. And I very much agree with what both Nouriel and John have said, that one really needs to be paying attention to bubbles, that we’re just creating another bubble that is going to be bursting. But I think that there are just a whole bunch of other lessons to be learned.

What is really of concern to me is — What are we learning about this as a society? And I’d say that it seems to me that we’re not learning very much. I look at what occurred after The Great Depression. The Great Depression produced fundamental reforms in the financial system, whether it was the Glass-Steagall Act, whether it was the FDIC, whether it was the SEC, [1:10:00] there were really very basic changes.

What I see occurring this time around is we’ve got institutions that are even bigger to fail, we’ve got more moral hazard, we’re not really dealing with the derivative problems, we’re not really dealing with the incentive problems, we’re not dealing with a whole lot of this stuff that really caused the problem in the first place.

I don’t want to dwell on that too much. What I thought instead is, I would just deal with the one lesson that I think by now we should know is that housing and the economy are joined at the hip, [slide 2] and I think that their being joined at the hip leads me to very much agree with Tom that we’re not at the end of this housing bust. I think that we’ve got at least another 10 percent to go. And I think I’m more in the camp that we’re going to get a W. I just don’t see the basis for a V, but I’ll establish that going forward.

Many of the slides you’ve seen before, but just let me start with the idea that housing’s joined at the hip. You know I think that what’s really important is, what happens to house prices in the sense that it basically affects households’ wealth, [slide 3] it affects their access to credit, it increases losses at the central bank … at the banking system, the finacial system. So if we do get another 10 percent drop in house prices that’s not very good news.

Likewise, I don’t see how you can get stabilization in the housing market unless you get some kind of recovery. So I think that the two feed off one another.

Organizing the slides just a little bit differently from Tom is … I put them in terms of the good news [slide 4] where we’ve already seen this slide. [slide 5] Basically prices coming back more to trend levels, more in line with rents, more in line with income. That indicates to you that you’re probably nearing a bottom, that we’re a lot better than we were 6 months ago.

Mortage rates come down [slide 6] so what we’ve got is we’ve got affordability levels, [slide 7] this orange line, it’s scale is inverted. Affordability levels really at very strong levels historically. So all of that is rather supportive to the housing.

And then basically what you’ve just seen is you’ve seen residential investment collapse, [slide 8] so that what we’re doing is we’ve got 500,000 starts on the housing side where demographically there are 1.5 million units being formed, so you’re basically working off the inventory … you’re beginning to work off the inventory gradually.

That was the good news.

The bad news, as far as I see, [slide 9] is that you do have a substantial overhang of stock. You’ve got, like, a million units above the normal level that are vacant. [slide 10] So you’ve got stock overhanging a market. I don’t see how you can really get prices increasing in any meaningful way.

And then what Tom indicated, and I think that this chart [slide 11] really bears it out, is that you’ve got a real foreclosure crisis unwinding. So you’re going to be just having additional supply coming onto a glutted market, that that has to mean that prices reverse the little increases that we’ve seen to date.

This chart [slide 12] coming from the IMF just indicates how many more people are going to be underwater going forward, which just aggravates the foreclosure problem.

Something that Tom mentioned, this slide [slide 13] I thought you might be be interested in, just indicating that first-time homebuyers have really been the ones who’ve been accounting for the increased sales. So we’ve got a problem … if this $8,000 credit gets wound down. Then we’re going to see sales coming off again.

Tom didn’t mention, I don’t think, the problem with option-ARMs, [slide 14] you’ve got like $200 billion of option-ARMs resetting in 2010, which isn’t going to be much fun.

But I think that this is really the chart [slide 15] that bothers me is the state of the labor market. It’s not simply a question that you’ve got unemployment at 9.8 percent, but as Nouriel mentioned, if you include part-time workers, the number goes up to something like 16 3/4 percent, which just means that you’ve got a lot of job insecurity. That’s why you’re not seeing the affordability converting into sales.

And I think that the issue is, "Where do we go forward?"

The last few slides, but before we quite get there I think that this slide [slide 16] is of particular relevance. This comes [1:15:00] from the Atlanta Fed, which shows what is happening to part-time workers who aren’t in full-time employment in this cycle. That’s the dotted line at the top. And if you compare it to the 1981/82 cycle, which was the worst recession before then, you see them as running at something like double the rate  So what I’m suggesting is that the labor market slack this time around is a lot worse that 1981/82, which is very problematical going forward.

The reason I don’t think there can possibly be a V shaped recovery, and why I think that you’re running the risk of a double dip is that you’ve allowed the gaps in the labor market to really reach very high levels. [slide 17] And what that does is it puts real pressure on incomes that I think one’s really got to be worried that in the 2nd quarter of this year, at a time that you were getting tax cuts boosting incomes the only way in which incomes could rise after-tax-incomes was through these tax cuts, yet consumption fell by 1 percent. [slide 18] So what happens when we don’t have that kind of support and when we’ve still got downward pressure on wages through high unemployment levels?

This chart [slide 19] just indicates that you get quite a nice correlation between the gap in the labor market and what happens to the employment cost index. What it is telling you is that the gap in the labor market is going to widen to something like 4 or 5 percentage points. At least that’s where we are right now. YOu would expect to see a sharp decceleration in the emplyment cost index. Where I come out on this is that if you don’t have income growth it’s very difficult to get consumption. And to make matters worse is you’ve got to look at the indebtedness position of the households.

Households today have debt that is something like 135 percent of their incomes. [slide 20] If we look at what happened in 1981/82 it was only 60 percent of the income, so I don’t think it’s unreasonable to suppose that we’re going to see the savings rate gradually move back towards its historic level of around about 8 percent.

If we get any increase in saving, and we don’t get any increase in income or we’ve got a decline in income this means that consumption has to decline. What Nouriel says I totally agree with. If you’ve got excess capacity, that it’s really very high, you’re not going to get investment. So I think that the probability that we get a double dip is pretty relevant …

Another chart [slide 21] just indicates what’s happening with mortgage equity withdrawal. It’s totally collapsed. Consumers are credit-constrained, so we have that problem as well. [slide 22]

The problem that I’m worried about in addition to consumption is that the charts that Alex had put up earlier, [slide 23] what’s going on in the commercial property market, that with Alex mentioning that this is all that the regional banks really do. If $500 billion in loans come due in … commercial property loans come due in 2010, we have a further collapse in commercial property market prices, I don’t see how regional banks can possibly survive. So what we’re going to get is we’re going to get further tightening in credit conditions.

My bottom line, as I say, [slide 24] I think that house prices fall by 10 percent. [slide 25] We have further decline in the economy and I’ve kept this presentation as optimistic as I can [laughter] by not talking about what’s going on in Europe, where I think that the real problems we’re going to see.

We’re first going to see the Baltic countries running into real difficulties that can only be a couple of months away that has an impact on the Swedish banking system. But the serious problem in Europe are Spain, Portugal, Greece, Ireland, you know, the those places. To me, having worked on Argentina for a long time, I think that that is the area to worry about.

So I’m not particularly worried about the United States, I’m worried about Europe.

Alex Pollock: Desmond, you did that so efficiently you have some time. Would you go back to your lessons slide and do some of the other lessons you had an interest in? Can you make it go backwards? … Give us a quick review here.

Desmond Lachman: [slide 2] One of the lessons that I would suggest that hasn’t been learned is that people haven’t really read Kindleberger’s "Manias, Panics and Crashes." That had they read that they would see that [1:20:00] this is really a repeating kind of cycle which Rogoff and Reinhart have brought out. That basically I think that the Fed hasn’t paid attention to asset price inflation in the past, that it’s really problematic. I don’t know how you can be dealing with it right now.

The other thing that I thought that we really should have learned from this cycle is that GSEs are not a very good idea. So to have the government running these banks, I think that that is rather problematical.

The house lending[ph] needing regulation, that that seems to me fairly obvious, but it’s something that I haven’t put up here is … The way I think of it is a lot of the problems are that you’ve got incentives that aren’t really … not in line with the public interest. So what I’m thinking is stuff like the rating agencies, stuff like the compensation practices from Wall Steet. All of that really needs a radical overhaul.

And what I’m seeing, what Treasury’s proposing and what is actually being passed to date really seems to be skirting at the edges, it doesn’t really seem to be changing the system in the way that I’d like to see.

I would just say that I very much agree with the speech [PDF] that Mervyn King made yesterday that basically, in effect, I think that bringing back Glass-Steagall would be a good idea. But unfortunately I think that the moment to have done that has passed. It would have been at the time when the banks were really in a rather weak position. That the fact that you didn’t do it in March of 2009, I’m not holding my breath for that to occur. [1:21:56]

Notes and References

[1]: "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis", AEI event homepage, October 22, 2009.

[2]: "A False Dawn for the US Housing Market?" (PDF slide deck), by Desmond Lachman, AEI, October 22, 2009.

1. Title
2. Lessons from the Housing Bust
3. Housing and the economy are joined at the hip
4. The Good News
5. S&P/Case-Shiller Home Price Indices
6. Mortgage Rates to Remain Focus of FOMC
7. Affordability at Recent Highs
8. U.S. Residential Investment
9. The Bad News
10. Housing Vacancies
11. Foreclosure crisis looms over U.S. recovery
12. Homeowners with negative equity (millions)
13. Home Purchase Market by Homebuyer Type
14. Monthly Mortgage Rate Resets
15. Unemployment and Under-employment as per cent
16. Part-Time for Economic Reasons
17. A fragile economic recovery
18. Personal income, % change, month ago
19. Change in growth rate, in percentage points
20. Household Debt to Personal Income Ratio US (Quarterly) as of March 20009
21. Mortgage Equity Extraction (Net Mortgage Equity Withdrawal, Trailing 12 Months) as of December 31, 2008
22. Bank Loans Fall Further: Bank loans and leases, over 13 weeks, $ chg, SAAR [seasonally adjusted annual rate]
23. The Real Estate Double Bubble: Commercial and Residential Property Price Indices
24. The Bottom line
25. HPD [house price depreciation] forecasts have clustered

[This] seems to imply that the Fed is now encouraging active loan workouts as a matter of policy. The other implication is that firms with CRE exposure can no longer rely on the Fed as a perpetual guarantor of risky exposure. Not only that, but in adopting a new policy strategy, the Fed is acknowledging the major problem that CRE writedowns will represent for banks, yet is telling banks to resolve problems on their own, while subsequently they will "not be subject to criticism for engaging in these efforts."

The implications of this Fed action for the economy could be staggering as the $3.5 b,quadr,trillion CRE market will likely not receive the same largesse that residential real estate has been the recipient of ever since the conservatorship of the GSEs. And the biggest loser in all of this will be banks that still have not used the massive risk rally to offload whole loan and CMBS CRE holdings, and moreover, still have these marked at par or close thereby.

Treasury Secretary Timothy Geithner discounted the potential problems in CRE:

U.S. Treasury Secretary Timothy Geithner expressed confidence Thursday that the woes of the commercial real-estate sector would not drag the economy back down.

Geithner acknowledged that it was difficult for policymakers to tackle the problem of sliding asset values and write-downs.

However, he said, "I think the economy can handle it" when asked if commercial property could reverse a domestic recovery.

"I think you can say with confidence that the financial system is stable [and that] the economy has stabilized," he told an audience of the Economic Club of Chicago.

Not everyone share’s his confidence however:

As Wilbur Ross and George Soros pointed out earlier, the trouble for CRE is just starting. If the Fed is unwilling to recreate QE [Quantitative Easing] for CRE, in the same way that it continues to bail out residential exposure, then look for a major double dip in the economy. The only wild card is why the Fed is letting this happen…]

Perhaps the Fed is doing this because it believes "extend and pretend" is cheaper and politically more palatable than bailouts. Perhaps because it doesn’t really have any choice.  If it is a case of not having a choice, it does beg the question of what happens when CRE really starts to head south.

I think almost by definition we’re … I mean I would say W, because I think in the US anyway we’ll still see a 3 1/2 percent growth number in the 3rd quarter, which will be reported next week, and maybe a 3 percent number in the 4th quarter …

Doom Transcripts: Index & Guide

I do believe we have a winner.¹

Housing Doom is pleased to present a fifth selection from our under-construction transcript of the American Enterprise Institute’s October 22, 2009 event "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis".²

The event site has a number of resources, including an audio and video of the proceedings. There is as yet no official transcript.

This is the presentation by AEI Visiting Scholar John Makin

John Makin: [0:54:19] So I’m going to say that so far what we’ve heard is, it’s the lessons of the — having deflated and about to reflate bubble. And that’s a little different than the idea that the bubbles burst and it’s past us.

But, you know, I’ve taken the charge here quite literally — What are the lessons of the bubble? And I think we’ve heard that it may not be the only bubble that we’re getting, but I … The main lesson of the bubble in the US in a sentence is "You’ve got to be Too Big to Fail," because then you get bailed out.

Unfortunately, that [0:55:00] may be consistent with Nouriel’s suggestion that there may be another bubble coming. But, anyway, a few months ago I took a crack at these lessons and have refined it a little bit. It’s on the AEI website. I haven’t got a presentation here, but it’s basically, "What are the lessons of the bubble."

And I’m going to look back a little bit and then quickly look forward.

First, there are three lessons of the bubble that we’ve seen so far. The first is that disruption in the financial sector can have a devastating effect on the real economy. And we saw that last fall when; … Remember, it’s important to remeber that in August of 2008 the Fed minutes suggested that the big concern was that inflation could get out of hand. That was 6 weeks before Lehman collapsed, and we know what happened there. We had one of the sharpest economic contractions in … certainly in the post-War period.

But I think in a way we had, if you read the anecdotes or the discussions about what was going on in September or October of last year, we had a near-death experience. Anybody who was close to the crisis that we saw unfolding in September of 2008, and I was in the middle of it, saw that we could have had a systemic meltdown that would have resulted in an immediate and serious global depression.

So I think one of the lessons of the bubble is to remember that we got through that. Don’t be too critical of policymakers, they had to extemporize how to deal with a counterparty run on investment banks, which is a new phenomenon that we’ve seen in this cycle; a little different from what we were kind of expecting, which was a depositor run on commercial banks. A counterparty run on investment banks is, in a way, a little bit more toxic because it happens faster. With a very sophisticated marketplace it means that people hear that an investment bank is in trouble and won’t do business with them, [so they] withdraw their capital and the investment bank goes down. A counterparty run on investment banks, had the Fed and the Treasury not truncated it, would have eliminated not only Lehman but Goldman Sachs, Morgan Stanley and any other investment banks that might have been hanging around there.

That could have happened. We were very close to that.

So I think one of the … The sense of urgency that Chairman Bernanke and Hank Paulson felt was related to the viciousness of that activity. And again it’s still a risk out there, but I have to hand it to Bernanke and Paulson, extemporizing how to run … how to deal with a counterparty run on an investment banks in the space of a few days is quite a trick.

I wouldn’t want to try to do it again, but the first … again, the first lesson of the crisis is … be careful, this is a very, very dangerous business. And we all … It was tied, of course, to the bursting of the bubble, but when the rubber meets the road, you’re in that kind of a situation and we were lucky — skillful, but lucky.

Second lesson: The Fed was slow to move, but powerful when they did move. In that sense they would … If I had to criticize I would say to everybody on Wall Street, and a lot of people on this panel, the Bear Stearns crisis, it was totally clear that this counterparty run on inventment banks was an incipient, then an actual problem. The idea that keeping Bear nominally alive, on live support from JP Morgan, was going to solve the problem was ridiculous.

I can’t resist pointing out that it was in April of 2008, a month after the Bear Stearns crisis, that the famous Jim Cramer wrote a piece^uuuD in New York Magazine suggesting that, "Isn’t it a wonderful time to get back into the markets? Everything’s fixed." It wasn’t fixed, and in effect we’d had a warning that, if we’d heeded it more promptly, we might not have had quite such a toxic experience in the fall.

So it was sort of like — Too bad we didn’t learn about Bear, we didn’t, but somehow we managed to pull it out anyway after Lehman, but we were lucky. So there again I look back and one of the things I carry away from the crisis is … I don’t want to go there again, because it’s a real problem.

The third lesson, of course, and people mentioned this, is don’t forget China. China’s now the most [1:00:00] dynamic and largest force in the global economy at the margin, that is in terms of growth rates. Their behavior has a tremendous impact on what’s happening in the world today.

And of course they have the wherewithall to respond far more forcefully and successfully to the fallout of the financial crisis than advanced industrial countries. Remember China didn’t really have a kind of financial system meltdown problem because they didn’t have a sophisticated financial system. They were plugged into it.

China was threatened by the massive real economic fallout from the financial collapse in the industrial world. They effected a massive fiscal stimulus to … probably triple the US stimulus, and then the followed up with very aggressive monetary stimulus. The latest data that we’ve seen suggests they may have overdone it, but one of the things we’re seeing is rapidly rising commodity prices are partly a result of China’s very aggressive expansion. Shouldn’t be taken as a signal that there’s global inflation coming down the road, but rather that the Chinese are stockpiling commodities.

China has a big wealth-storage problem, and so they tend to stockpile real assets in periods of crisis. Asian investors like to own gold, and that’s another price that’s going up.

So I like to keep China in mind as we look at this. And of course one of the immediate problems we have now is that China, having effected a massive fiscal stimulus, and a domestically oriented, or a domestically based monetary stimulus, … China, which is really using the Fed as its central bank as of the … Chinese currency is pegged to the dollar. Then in effect US monetary policy is Chinese monetary policy. They’ve had huge capital inflows which they have not successfully sterilized them so China may be heading …

China may be the first bubble experience that we see in this environment where they’ve got massive stimulus in place, rapidly rising property prices and rapidly rising stock markets. So that is something that makes me nervous, because the Chinese are going to have to manage that problem. If they don’t manage it well, and it’s a tough one to manage, we could have a problem coming out of China which, of course, is not where we’re looking for problems right now.

The other lesson of the financial crisis that I started out with a little bit facetiously with, but I actually, I think it’s … it’s indicative of a problem is it’s best to be too big to fail. That’s another way of saying that we have a huge moral hazard problem after the financial crisis.

I saw a play in London about the financial crisis called "The Power of Yes." And it was … it was essentially a pretty good play. It kind of leaves the audience wondering how did these guys who screwed up so badly end up not getting crushed in the crisis.

And that leads us to other questions. In order to save the system we had to step in and underwrite some activities by financial institutions in the US and elsewhere that were certainly related to the problem. And these institutions are now happily making loans again, and in many cases, or some cases making an awful lot of money, which is OK, but I don’t think we should have investment banks essentially able to boost leverage while simultaneously being underwritten by taxpayers. And the threat of counterparty runs on investment banks has made that the case in the US. I do not think that the Fed or the Treasury dares withdraw the support that they’re implicitly supplying to former US investment banks that are now bank holding companies by saying, "You know, we’re cutting these guys loose." Which in a perfect world, where we were in some kind of equilibrium, they would do, because that would be a good way to induce them to cut leverage.

Now if this were a New York audience everyone would be jumping up and down and saying, "Well, you guys are so bearish, how come the stock market’s gone up by 56 percent, and how come commodities are rising blah-blah-blah …" And I think you have to address that question in terms [1:05:00] of understanding the aftermath of the crisis.

I mean the broad lesson is — when you fix a crisis of this magnitude that the financial sector responds a lot more rapidly than the real economy.

And what we’ve had is a strong bounce in the financial sector. In the US we have had I think ultimately a counterproductive cosmetic efforts to bump up the growth rates in the second half of this year — Cash for Clunkers and the subsidies for homeownership can do tremendous things to annualized quarterly numbers.

Now of course Tom pulled that little trick with his house prices. You’ll notice that his house price series was annualized monthly data, which does wonders for the clarity that comes out, but every … and Tom wouldn’t want to mislead you with that, but I can asure you that there are some people on Wall Street who love to use quarterly and monthly annualized data to say, "You know, the recession’s over, we’re all off to the races, I’ve got some stocks and bonds for you to buy, so please step up and buy them."

And the reason that these things have up in value is that, simply, if you’re in the business, people say, "Heh, these things are going up, and don’t be so fussy, go out and buy them." And so it’s a bubble. I mean, how does it develop some momentum of its own? Why do you want to own it? Because everybody else owns it. I share some of the concerns that Nouriel has about what is going to happen going forward.

I think almost by definition we’re … I mean I would say W, because I think in the US anyway we’ll still see a 3 1/2 percent growth number in the 3rd quarter, which will be reported next week,^uuuF and maybe a 3 percent number in the 4th quarter …

Alex Pollock: … Also a quarterly number annualized …

John Makin: [laughs] … I should add that these are quarterly numbers annualized, and it’s again … the arithmetic is powerful if you get people to go out and buy cars at a 14 million unit rate in production. But you’ll notice if you watch the US data is the production side numbers tend to be stronger than the demand side numbers, which are all weak.

The problem is there’s a hangover. So in the first half of next year I think we’ll have downside surprises which I would call the W. And maybe at that time, as we’re starting to see audited earnings reports from the 4th quarter, the euphoria in the markets will evaporate.

But I would guess that you could continue to see that upside continue for a while with folks on CNBC waving their arms around, jumping up and down. But I’m guessing that by the end of the year and into next year people may want to be edging toward the exits.

So that’s the last of the last lesson I had is that financial markets can respond far more quickly to rescues than the real economy. And that the underlying probability that the real economy won’t respond implies substantial risk in the financial sector. I’ll stop there. [1:08:08]

Notes and References

[1]: "U.S. GDP rises 3.5% as stimulus kicks in: Gains in consumer spending, inventories, housing drive growth", by Rex Nutting, MarketWatch, October 29, 2009.

WASHINGTON (MarketWatch) - The U.S. economy expanded at a 3.5% annual pace in the third quarter, as massive government stimulus helped drag the economy out of the longest and deepest recession since the 1930s, the Commerce Department estimated Thursday.

[2]: "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis", AEI event homepage, October 22, 2009.

Final risk. The increasing asset prices we’ve seen since March for everything: global equities; in US, equities; EM [emerging market] asset classes; commodity; credit; everything around the world is driven by one factor.

Doom Transcripts: Index & Guide

The penultimate risk was merely the prospect of World War III breaking out.  Fortunately Nouriel was running overtime so Alex had to cut him short just before he got to the scary bit

UPDATE (11/6): Here’s Nouriel’s Nov 4th expansion on the idea

Housing Doom is pleased to present a fourth selection from our under-construction transcript of the American Enterprise Institute’s October 22, 2009 event "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis".¹

The event site has a number of resources, including an audio and video of the proceedings. There is as yet no official transcript.

Dr. Doom was batting cleanup …

Nouriel Roubini: [0:37:03] OK. Tom spoke about housing and mortgages. What Chris spoke about — the banks. So I’ll try to speak about the economy and what’s going to happen to the economy looking ahead.

We’ve had the most severe recession and financial crisis since the Great Depression. Given the monetary and fiscal stimulus and the backstopping of the financial system now we’re close to the bottom, at least on a temporary basis.

And now the debate is, of course, on what’s going to happen — the shape of the recovery. Given what has happened in the markets I would say the markets are pricing now a V-shaped recovery with rapid return to potential growth, and that’s even what the macro forecasters’ consensus is.

There is a second view, which is the one I share, is that this recovery is going to be at best an anaemic, subpar, below trend, with growth well below trend for the next couple of years, much as in the US, but also in advanced economies. So more like a U-shaped recovery. That’s also the view of the IMF and the one of those folks at PIMCO who are talking about A New Normal.

But there is also a third view. The view that actually we might have kind of like a double-dip, a W-shaped kind of recession. And when I speak about that idea with people like George Soros he says there’s going to be a double-dip, there’s going to be an inverted square root, meaning it will go up, we go down, and then we go back to an L essentially, because we’re going to run out of policy bullets if there’s a second dip.

So what’s going to be the outlook? V, U, W? I assign about 60 percent probability the U, about 25 or so to a W, and less than 20 to a V, I think that the chances of a rapid recovery of growth, are very, very slim.

Why? First observation is about the labor market. And unemployment rate is almost 10 percent. If you include in the unemployed discouraged workers and partial employed its already 17 percent. It’s true we’re not losing 700,000 jobs a month like in January, it’s only 260[,000]. But during the last recession, it was only 150[,000]. And the last recession was mild, with only 8 months. And we had job losses continuing after the recession was over in November 2001 all the way through August 2003 — job loss, and then jobless recovery.

This time around it’s going to be just the same, only worse. The ratio between applicants and vacancies is 6/1, the ratio of continuing to initial claims is as high as ever, the average duration of unemployment is as high as ever.

And the point is that the losses of labor income are not deriving only from the job losses; because, as you know, labor income is the product of … jobs TIMES hours TIMES average hourly wages.

And now as a way of sharing the pain, many firms are telling their workers, "let’s cut hours; let’s accept furloughs; and also let’s accept a lower average wages." The full time equivalent of the loss of hours in the United States is another 3 million full time jobs lost on top of the [0:40:00] 7.2 million that were lost formally. So the effects on labor income have been massive.

And with collapse in labor income, how are you going to have a recovery of consumption?

Second observation: This is not your typical kind of recession because inflation gets out of hand, the Fed puts a brake and then you go into a recession and then you take the brake away and you have a rapid recovery which is V-shaped. This, we agree, is it’s the kind of a recession driven by over-leverage and debt accumulation — a balance-sheet recession: debt accumulation of the housing sector, of the financial system, and also the factor of the corporate sector.

And while there is a lot of talk about deleveraging, when you look at the debt ratio of the private sector, they’re not rising any further, they have stabilized at a very high level and they’re barely falling. And instead, as a way of socializing the private losses, we have now had a massive releveraging of the public sector. We’ve huge budget deficits and debt accumulation.

Net US debt as a share of GDP is going to double from 40 to 80. Officially we’re estimating a cumulative $9 trillion deficit over the next decade.

Now, if you take this interpretation of the crisis as being a debt crisis, there are at least another 5 reasons, in my view, in addition the weakness of the labor market, why it’s going to be at best an anaemic recovery, and at worst, a double-dip.

First one: The US consumer — and it’s not just the US consumer, it’s also the consumer in all the countries that have large current account deficits and housing bubbles: is UK, is Ireland, is Iceland, is Spain, is the Baltic states, is Dubai, is Australia, New Zealand — so this consumer is shopped out, saving less, debt burdened.

And even when GDP growth is going to become positive, consumption growth has to be smaller than GDP growth as a way of rebuilding savings and reducing the leverage ratio. But since consumption is 70 percent of GDP, then if consumption grows less than GDP then GDP growth has to be very weak, unless other components of aggregate demand are growing much faster. And I’ll argue they’re not going to grow much faster.

So that’s the first and crucial point — the US consumer has never been squeezed so much, both in terms of his P&L [profit and loss] and balance sheet. Savings rates have gone now from zero to 4. IMF estimates have it go to 8 percent so it will be a significant further slowdown in consumption.

Second point: In the typical V-shaped recovery investment, capex [captial expenditure] spending grows much faster than GDP. That’s why you have a V-shaped recovery. But this time around I don’t think there’s going to be any robust growth in capex spending, leaving aside even housing that is in the doldrums. And the reason is very simple. Capacity utilization in the United States today is 70 percent. Capacity utilization in the Eurozone is 70 percent. Is the lowest we’ve had in decades in any recession. Capacity has to be at least 80 / 85 percent before you see any pickup in investment.

The point is, if a third of capacity is not utilized, why would anybody want to do more capex spending? There’s a glut of capacity and you’re not using a third of it. So why would you want to do capex? There is not going to be any significant recovery of capex spending.

Third point: The damage to the financial system and to credit growth. It’s not just the damage, of course, to the traditional banks. You know the big ones have been backstopped, but we have 100 of them that have been closed by the FDIC, and those that are on the critical list is another 479 so far. Most likely is going to increase.

So is not just the small banks, the medium sized banks, that are in trouble, but more crucially, most of the Shadow Banking System, the non-bank financial institutions, has been either destroyed or severely damaged. 350 non-bank mortgage lenders gone. SIVs and conduits gone. Securitization, as Tom was saying, died 2 years ago and there’s none of it in the private sector. Hedge funds had to deleverage. Private Equity funds are having problems with LBOs which should never have occurred. AIG; Fannie & Freddie; Citi; Bear Stearns; Lehman; finance companies — massive amount of distress in the Shadow Banking System.

The point being, today credit growth in the financial system is negative. And as Chris was pointing out, there is not even credit growth through the corporate system. But even if and when credit growth is going to become positive, credit growth is not going to be as robust as the go-go years, in which were the high growth of the economy because of a credit bubble and a credit boom.

And if you don’t erect any credit growth, how are you going to finance capex spending? How are you going to finance residential investment? How are you going to finance construction of new homes? How are you going to finance consumption of durable goods?

So we’ve low credit growth, we’re going to have a slower growth of the economy.

Fourth point about the fiscal stimulus: The fiscal stimulus in the US and other countries by the middle of next year becomes a fiscal drag. And if there is not any means for recovery of private demand, and I argue why there is not going to be a recovery of private demand, then you’ll have a problem with growth again slowing down sharply.

And if instead [0:45:00] we decide to increase that fiscal stimulus — again we have another fiscal package or a series of other ones and we keep on monetizing them — eventually that’s going to crowd out the recovery. Monetization of large fiscal deficit through a number of channels going to be crowding out the recovery.

Finally point about the U [-shaped recovery] from a global point of view. For the last decade the US and a bunch of deficit countries were the consumer of first and last resort; spending more than their income, running current account deficits. And on the other side you had China, Germany, Japan, emerging Asia, Latin America were producer of first and last resort; spending less than their income, running current account surpluses.

Now the over-spending countries have to retrench private domestic spending, because they have to save more and they have to deleverage, and that’s just happened, not just the US but in all those overspending countries.

But if they overspent, now they’ll spend less, and their trade deficits are shrinking, and therefore the surpluses of the surplus countries are also shrinking. Then unless the over-saving countries compensate for the reduction in spending of the over-spender by reducing their own savings rate and increasing their own domestic private spending, then globally, where you have a glut of capacity — and that glut of capacity is becoming bigger, because now China is doing another round of capital intensive[ph] over-capacity investment.

So you have a glut of capacity globally, and the recovery of global aggregate demand is going to be slower than otherwise. And therefore you’re going to have essentially an anaemic recovery of the global economy.

That’s the best scenario. That is a U. I see many reasons why we could have a double-dip. Why could we have a double dip?

First of all, the risk of a significant policy mistake of one sort or another. And the way I see the exit strategy problem is: damned if you do, damned if you don’t. What do I mean by that?

We know that fiscal deficits of this sort of $1 trillion per year are unsustainable. And monetization of them eventually[ph] is going to be a disaster.

Suppose you take this deficit seriously, and you decide to raise taxes or cut spending sooner rather than later and to mop up the liquidity sooner rather than later. Then you’re making a mistake. Because demand in the private sector has not recovered, taking away the policy stimulus is going to push you back into stag-deflation. Is the same mistake Japan made between ‘98 and 2000, when they introduced a consumption tax and then moved away from ZIRP too soon. Same mistake FDR made in ‘37 when he raised taxes and took the monetary stimulus. In both cases you had a double-dip recession or depression.

So if we take away the stimulus too soon, stag-deflation.

But let’s suppose we don’t take it away, because in the US, at least, the policymaker realize they don’t want to do that. If you talk in private or public to Bernanke, Geithner or Summers would say, "We shouldn’t exit too soon." Then you have a runaway fiscal deficits. These deficits imply that next year with unemployment at 10 percent, and it stays above $1 trillion. Then you might have a universal healthcare plan that might not be fully funded. Then you’re going to add a series of mini fiscal stimuluses. You will extend the unemployment benefit for those who’ve expired. You’re going to have to help him bail out State and local governments. You might extend Cash for Clunkers, you might extend the First-Time Homebuyer’s Tax Credit. You might have a tax credit for hiring workers. You might even have another round of shovel-ready labor-intensive infrastructure projects. You add it all up, is another $200/$300 billion.

And then at some point by the middle of next year the bond market vigilantes, who’ve been asleep at the wheel so far, they’re going to wake up and say, "Wait a moment. Politically you cannot raise taxes, and you cannot control spending. And therefore the path of least resistance becomes to keep on running the printing presses." And if you do that, you don’t need to tell a Zimbawist story of hyperinflation, it’s enough that expected inflation starting in 2012 goes up by, say, 200 basis points, and then 10-year treasuries go from 3 1/2 to 5 1/2, mortgage rates go to 7 1/2, other private rates go to 10 percent or above, and then you crowd out the recovery again.

So damned if you do, and damned if you don’t.

And the policy path that gets you to do the exit and do it right is a very narrow-edged, razor-edged and difficult. And the risk, especially in an election year, of making a policy mistake on one side or the other is significant.

Additional point about a double-dip. Oil prices now have gone from $30/bbl to $80/bbl and above at a time when demand is back to 2005 level, and the inventory is at an excess supply like never before. Why? It’s not fundamentals. Is a game. The wall of liquidity and the bubble chasing these assets. Last year, oil at $145/bbl kept the global economy in a global recession. It was not just Lehman and the fallout from it. When oil it came at $145/bbl was a negative in terms of trade, a real disposable income shock in the US, the Eurozone, Japan, China, India and every other oil importing country in the world.

Today we are already at $80/bbl. We’ve just a weak recovery of the global economy. [0:50:00] Now that the ETF and the option traders and the speculators are starting to crank up the stuff, oil’s soon enough going to be at $90/bbl, and then $100/bbl. And if it’s admitted, oil at $100/bbl early next year, it’s going to have the same effect on the global economy as oil at $145/bbl last year.

Why? When oil was at $145/bbl, most of the global economy was still growing. Today instead we have a global economy that’s collapsed. The worst recession in 60 years is barely on its knees trying to rise. And if oil goes to $100/bbl it’s going to be like a hammer hitting you in the head from the back, and push you back into another recession. And oil is going up not because of fundamentals but because of speculation and it’s becoming dangerous.

Third point. There are also geostrategic risks. I would not rule out that there is going to be a military confrontation between Israel and/or the United States and Iran on the question of nuclear proliferation. If that were to happen, of course, you’ll have just a threat even of a blockage of oil leading to oil prices doubling overnight, and another global stag-deflation. And that’s something that you have to worry about.

Final risk. The increasing asset prices we’ve seen since March for everything: global equities; in US, equities; EM [emerging market] asset classes; commodity; credit; everything around the world is driven by one factor.

You have one easy monetary policy around the world, almost everywhere — zero interest rates in most countries. But more importantly, is driven by the fact that in the United States, not only are you at zero interest rates, and expected to stay at zero, but the Fed, essentially, by buying $1.8 trillion of treasuries, MBSs, Agency Debt, is a major seller of volatility and is keeping the volatility of asset prices very low, both on the short end and the long end.

And therefore the bet that everybody’s doing is borrowing dollar at zero interest rates and buy any other asset in the world.

Now you’re not borrowing at zero interest rates, you’re borrowing at negative rates to the tune of 20 / 30 percent annualized. Why? Because with the dollar falling, you have a capital gain on essentially going short in dollars and long in other global assets.

So you’re borrowing at minus 30 percent, and everybody, the people think they’re geniuses because everybody’s up, any asset manager — is just anyone can do it. Borrow in dollars, buy any asset in the world. Could be in China, could be in India, could be in Brazil, could be in Russia; could be commodities, could be equities, could be credit, could be anything under the sun. It’s all going up, and not only is it going up, but they’re all perfectly correlated.

So you are in a situation that in terms of Value At Risk is the scariest one, because you have now correlation among all assets that are going back to 1.

And volatility is now down close to zero. So it looks like you are safe. But everybody’s doing the same bet, you have the Mother of All Carry Trades. You have the Mother of All Asset Bubbles. And the dollar cannot keep on falling down to zero. At some point the music is going to stop. Something’s going to reverse, and when the reversal occurs, like it happened to the yen in 2006, could have the dollar swinging back 30 percent overnight? Because you’ll have unraveling of the carry trades, and everybody was long in that stuff and leveraged. Is going to collapse the asset that they bought.

So we’ll have another crash that’s going to be bigger than the one we had last year.

So we’ve created the biggest asset and credit bubble of all through this US monetary policy. They can’t raise the dollar. On the other side, either they have to intervene now, to prevent their currency from appreciating (that’s unstabilizing intervention that feeds their bubble) or like Brazil they’re imposing capital controls, or to have to ease further to prevent their currency from appreciating, and it creates more of a monetary easing around the world.

So we’re creating the biggest bubble ever, and it’s going to come crashing. Because when the music is going to stop, it’s going to get ugly.

So, in conclusion, if we’re lucky we’re going to get the U, most likely it’s going to be a W, and when things going to occur, is going to be scary. Is going to be scary for the following reason …

Alex Pollock: On that note, we’re going to have to wrap up. But do we take as your main lesson that we’ve addressed one bubble by creating another one?

Nouriel Roubini: A bigger one. Yes. [0:54:06]

Notes and References

[1]: "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis", AEI event homepage, October 22, 2009.

Oct. 29 (Bloomberg) — About 18.8 million homes stood empty in the U.S. during the third quarter as banks seized properties from delinquent borrowers and new home sales fell in September.

The number of vacant properties, including foreclosures, residences for sale and vacation homes, rose from 18.4 million a year earlier and 18.7 million in the second quarter, the U.S. Census Bureau said in a report today. The record high was in the first quarter, when 18.95 million homes were vacant. The homeownership rate, meaning households that own their own residence, stood at 67.6 percent.

The reporter must have needed a positive comment- this seems to be the happy thought de jour:

“We are bumping along the bottom of the housing market,” said James Lockhart, vice chairman of WL Ross & Co. and the former director of the Federal Housing Finance Agency. “There is the potential for another swing down.”

Somehow that reminds me of Robert Toll’s famous "dancing on the bottom" comment back in 2006- we all know how well that one worked out.

Anything else out there working out- or not?  This is an open thread, so let us know what’s on your mind.

This week’s Reuters report¹ settled down significantly after last week’s excitement. The report was, as usual, based on the weekly update from the NY Fed’s H.4.1 table site.² Here is Doom’s updated CSV version³ of the agencies and treasuries foreign central bank holdings data set.

The treasuries buy was a healthy $8.651 billion, but last week’s splurge had been over $20 billion higher.

Agencies have resumed their steady march down, dropping a significant $3.788 billion.

The net change of US obligations was just $4.863 billion. About twice that amount on a regular basis would be better.

Twist’s ratios graphs continue down.

The Setser 52-week chart didn’t move much. The agencies line goes up a bit because the sell-off a year ago was over twice as intense.  Nevertheless, you can clearly see that a general trend toward moderation is apparent. What this is showing us is that we are now a few weeks past the anniversary of the peak of the crisis around September 18, 2008.

________________________

Notes and References

[1]: "Foreign central banks US debt holdings rose in week - Fed", by Ellen Freilich, Reuters, October 29, 2009.

[2]: "H.4.1 Factors Affecting Reserve Balances", Federal Reserve Statistical Release (weekly), Federal Reserve Bank of New York.

[3]: The updated data set as a Comma Separated Value (CSV) file is here.

Why do I get the feeling I keep hearing a "tick-tick-tick-tick…."?

Oct. 29 (Bloomberg) — The U.S. economy returned to growth in the third quarter after a yearlong contraction as government incentives spurred consumers to spend more on homes and cars. - BL¹

A month and a half ago I confidently predicted that the equity markets would be collapsed by yesterday.  Obviously wrong.  What I failed to enter into my calculations was a world where Google’s top biz story could have the above lead paragraph and just about nobody would see the least little bit wrong with it.

—————-

[1]: "U.S. Economy: Consumers, Government Propel Growth", by Timothy R. Homan, Bloomberg, October 29, 2009.

A recent scam reported in the Phoenix area involves tenants moving into a pending short sale listing. The surprised listing agent contacted the owner who had not rented the property to anyone. The tenants (two women with two children) were physically moving in and had turned on utilities in their name. The sign and the lock box were removed, and all locks were re-keyed. 

The tenants responded to a "For Rent" sign in the yard. They gave someone $1,800 as rent and signed a lease. While the short sale was able to close, the unfortunate victims of this scam were out $1,800 with no place to live.
 
This down economy encourages some people to take advantage of others.  Listing agents should check their vacant listings regularly and provide neighbors their contact information in case they observe any suspicious activity.

If you own a place like this, you might want to follow the same advice.  It wouldn’t hurt to let neighbors know what you are planning to do with the house and leave a phone number- that way when the sign changes from "For Sale" to "For Rent" without your knowledge, [And your agent doesn't know about it.] someone can let you know.

Housing Doom is pleased to present a third selection from our under-construction transcript of the American Enterprise Institute’s October 22, 2009 event "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis".¹

The event site has a number of resources, including an audio and video of the proceedings. There is as yet no official transcript.

This is the presentation by IRA co-founder Chris Whalen.  I see Nouriel on deck, but this one’s going to be a tough act to follow.

So this is what the commenters at Calculated Risk have been going on about …

Chris Whalen: [0:27:02] I’m going to talk a little bit about the industry because we’re in the middle of earnings season, and I apologize for not preparing something, but I’ve been reading bank earnings statements, so I will share some of my impressions of that. And then I want to talk a little bit about not only lessons, but some of the enduring trends that I see that have not been affected by the extensive bailout that the government has put together for our largest financial institutions.

In general, when you look at the industry you have to recall the words of Mr. Feinberg, and I don’t mean the guy who was in the newspaper today, I mean my friend Bob Feinberg in the back of the room, who predicted several years ago in an interview we published that the GSE would become the business model of choice for the United States.

And so we now have at least 4 GSEs, maybe 5: obviously Fannie, Freddie, Citigroup and AIG; I think you would also probably want to include BankAmerica and Wells Fargo in that fine association; and depending on your mood you might put JP Morgan in as well, but I generally have JP 4th on my list of worry for the top 4, OK, so you’re wondering what my order is.

When you look at the big banks, the first thing that jumps out at you, of course, is their marvelous earnings results. And when you dig into their financial statements what you find is that their net interest margin tends to be a good 50, sometimes 60, percent higher than it is for smaller banks. This is the subsidy that everyone in this room is providing to the equity- and bond-holders of these institutions.

Another way of looking at it is if you look at the Revenue Run Rate for Citi for the analyst community next year, their estimate, it’s $10 billion lower than the current revenue run rate for Citi. What’s wrong with this picture?

Well, what it is telling you is the Street doesn’t think that in a normalized scenario that bank can generate as much revenue as it is generating today with the various subsidies from the Fed and Treasury.

The other real eye-opener, of course, with Citi, is that we’re almost up to my prediction of a year ago of 6 percent charge-offs. This is inclusive of loss-sharing. This is inclusive of various other subsidies. So the question you should be asking yourself when … that is when Citi …

Alex Pollock: … Chris, when you say inclusive, do you mean "net of," "on top of," loss sharing?

Chris Whalen: … I mean that this is the number modified by the loss-sharing. So in other words the actual loss rate is higher.

In all of your minds you should be thinking to youselves, "Gee, Chris told us a couple of years ago that Citi peaked around 3 1/4 percent charge-offs in the early ’90s, so if they’re reporting almost 6 today, and the actual economic losses inside the enterprise are higher than that, then that tells you that a lot of what Tom was just saying about the environment is absolutely right. And that these banks are going through a terrible, terrible period of loss. But we have [0:30:00] nicely disguised it.

Now you see this, of course, because the top performing financials over the last 6 months in terms of equity markets were the GSEs — Fannie, Freddie, Citi. They were followed by the Life Insurance underwriters, who are as opaque as companies get, and also performed about 150 percent over a 6 month period.

But then when you get down into the rest of the banking industry, what you see is a fairly gruesome picture. We do a preliminary index / snapshot right before the FDIC press conference where we look at the industry ex- large bank. And our stress index right now is a little over 5. The benchmark year is 1995, which is equal to 1. So what we’re talking about is this sleepy, pedestrian industry known as commercial banking has moved almost a half an order of magnitude in terms of stress in a period of just a couple of years. They were down at the average 1 rate back in 2007 — lower than that, actually.

This is not normal for banks, and as my aircraft engineer partner Dennis Santiago remarked after we got the second quarter data, "Gee, Chris, some of these banks are moving too much. They are not going to recover, because their indices are moving far too rapidly for a bank."

Now the thing that really worries me, though, because obviously "extend and pretend" is the operative policy at the moment with respect to the financials, is when you look outside of housing, and when you look outside of banks, and you look at things like … commerce.

We all remember commerce, right? Before financial services became the main engine of growth in the US economy? Well I just did an interview with my very dear friend Jerry Flum. Jerry runs a tiny little publicly traded company called Credit Risk Monitor. Have about $5 million in revenue this year.

They serve corporate treasurers, and corporate credit people. Every month they gather accounts payable and accounts receivable data from the Fortune 1,000. What this data shows you is that a financing market that used to be 4 times the size of the banking industry’s lending book is now just about gone. And when I say gone, I mean vendor financing has been withdrawn from the commercial channel.

What does this mean? This means cash on delivery. This means you’re not getting 30 days anymore from whoever, who’s selling you a couple boxes of widgets that you need for your business. They want to be paid up front.

So what this means is that for all manner of small, medium, even relatively large companies out there, there’s no longer any free working capital coming from the vendors that serve them.

Many businesses, if they’re well run, will actually have negative net working capital, right? They make somebody else finance the business. That’s not the case anymore.

So as Jerry said to me, and we’ll be running this interview either tomorrow or early next week, there’s no oil in the machine. That worries me a lot, because the banks can’t pick up the slack. This is the world of the CITs and some of the other private factors, but they’re only a small part of this market. When you talk about commerce, you talk about vendors who are willing to finance everything from CISCO routers to tubs of chemicals or whatever it is. They all give their buyers 30, 60, 90 days, whatever the practice is, whether it’s retail, what have you. And that market is gone.

So we can sit here and pretend as much as we like that the economy’s good because the Fed has liquified the financial system and they are providing ample credit. They’re even trying to pump up housing. But the thing I worry about with my banks is if we don’t get a bounce in unemployment, if we don’t get a recovery in the real economy, then we’re not going to see changes in credit loss experience for banks, even after next year. It’ll just keep on going.

And this is why I’ve been telling my at times cranky clients who say, "Chris, they were up 150 percent, you’re bearish." I say, "Yeah, I’m bearish for the simple reason that there are so many people betting on the long side of these instruments, whether they’re stocks or bonds." The change in pricing, the change in market sentiment that could occur will be very rapid. It won’t be a nice change in direction. This will be a sudden shift that is going to catch everybody as flat-footed as we were caught last year about this time.

So when I take a step back and I think of lessons I say, well, the chief lesson I am drawing from all this, and I’ve talked a little bit about this in a session I was involved with Vince Reinhart here about a week ago, is that, you know, our country is more and more being governed by a group of leaders who are far more interested in the opinions of the international community, and particularly our creditors, than they are in the views of our citizens and really in the interests of our economy here in the United States.

I think [0:35:00] you see this in many of the policy prescriptions that our colleagues are going to describe in terms of monetary policy.

And the question is, what’s the cost? Well the cost to us is inflation. I hear constantly from people, in part thanks to my friend John here in the front, talking about how, "Oh, Chris, deficits don’t matter, the Fed can just print money and it’ll be OK, we don’t have to worry about this, it’s all just inflation." Yeah, well it’s all just inflation, but you know what? If we continue along this path, most families in this country are not going to be making it in 20 years. And we are going to see this society collectivize.

Because we’ll have no choice. As Bob Feinberg predicted, the GSE will rule, and private corporations will not be able to compete in that environment. In fact it’s very hard for private banks to compete with the larger GSE banks today.

I smiled when I saw the results from my friends at Hudson City Savings this week, because they hit one out of the park again. Very profitable. But that’s a little bank that actually lends money to real people for real purposes in the New York area. How can they compete with an entity like Ally Bank, that has the Treasury underwriting them, that has terms on their deposits that are clearly unsafe and unsound, and yet this entity is allowed to continue, including with these obnoxious television ads.

I’m going to write a little piece about Ally Bank next week. I may just do the hat dance on them on a regular basis, because I just find it obnoxious that we could allow an insolvent institution like this to go around advertising the fact that they don’t have to follow the same deposit rules as solvent institutions.

So there are many lessons I could draw, I think most of them are moral, however. When we allow our government to stop paying attention to our wants and needs, this is what happens. And I look forward to your questions.

Notes and References

[1]: "The Deflating Bubble, Part VI: The Lessons of the Bubble and Crisis", AEI event homepage, October 22, 2009.