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A Threesome: Some Prayers, a Prime Minister, and a Parable
Prayers for Police and for Peace
In these tense days of troubles among African-Americans and law
enforcement officers, we suggest these prayers from A New Zealand Prayer Book*.
FOR THE JUDICIARY AND
POLICE
God of truth and justice;
we ask you to help the men and women
who administer and police our laws;
grant them insight, courage and compassion,
protect them from corruption and arrogance
and grant that we, whom they seek to serve,
may give them the support and affection they need;
so may our people be strengthened more and more in respect and concern for one another.
We make this prayer through Jesus Christ. Amen.
ON THE 25TH
SUNDAY AFTER PENTECOST: For Our World
Universal and unchanging God,
we are one, unalterably one,
with all the human race.
Grant that we who share Christ’s blood
may, through your unifying Spirit,
break down the walls that divide us.
This
we ask through Christ our Mediator. Amen.
__________
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Theresa
May To Become U.K. Prime Minister
On
July 13, the U.K. will get its second woman Prime Minister when Theresa May, currently
Home Secretary, assumes that higher office.
As we wrote last week, David Cameron resigned immediately after the
Brexit vote on June 23; he will do that formally July 13 by presenting himself
and his letter of resignation to the Queen; he will inform her that Ms. May is
available and in his view would be worthy of the appointment. Later in the day, Ms. May will be presented
to the Queen.
We
give you this follow-up information for a couple of reasons. Obviously, it is an important step forward in
the U.K.’s new sense of itself. Ms. May
favored remaining in the EU, but she seems always to have understood what
people wanted in breaking away and will work carefully on that process. Comments we saw about her indicate that she
is a most conscientious worker in government and concentrates on the substance
of matters, rather than the perks and personality points of holding
office. “I don’t tour the TV studios,”
she has stated.
This
brings us to the second reason we want to give specific mention to this
development. We are struck by the “adult”
attitudes of the U.K. leaders at this time.
Boris Johnson, who seemed to be a leading candidate early on, and Andrea
Leadsom, the other finalist for election as Conservative Party leader, both
pulled out to allow the selection to take place with the least controversy
possible. At this point in time, with
much uncertainty, having the election process as brief as practicable helps
significantly in both domestic and international affairs, and we are impressed
that egos have not gotten in the way and that everyone has seemed to be in line
to move forward, despite the shock of the Brexit vote outcome. Concluding the Prime Minister decision
promptly will permit more time on the substance of the conditions for the U.K.’s
departure from the EU, and Ms. May seems to be someone who will give ample
consideration to all concerns in this important step.
+ + + + + + + + +
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Maybe
the 3rd Servant Was Right To Bury his Talent
The
Gospel selection assigned for today’s (July 12) Daily Office readings in the
U.S. Book
of Common Prayer is the parable of the talents, Matthew 25:14-30. A man of wealth is going off on a long
journey and decides to let three slaves manage some of his funds while he is
away. To one slave, he gives 5 “talents”,
to a second slave, 2 talents and to a third slave, 1 talent. The first two make investments or form businesses,
and each doubles his money. When the
master returns, he is very pleased with their performances and promises them
promotions. The third slave buries his
talent in the ground; he doesn’t lose any money, but he doesn’t gain anything
either. As we know, the master is upset
at this action – or non-action – by the third slave; he takes back the talent and
throws the slave out on the street, leaving him penniless and homeless.
In
some dialogue this morning with Barbara Crafton, she and I both realized that
there might be times when the third slave actually did the right thing in
burying the talent. Last week in Japan,
for instance, that government issued 10-year bonds with a yield of -0.243%; that is, there is negative interest
on the bonds, so that investors are paying the government a fee to keep their
money safe for 10 years and return it to them.
Similarly, in Germany, a recent auction of 30-year government bonds
carried a negative yield of -0.76%. So
investors there also are paying the government to keep their money for them and
return it at the designated time.
Thus,
simply by burying the talent in the ground and returning it to the master at
the proper time, the slave might have fulfilled an important function, keeping
the master’s money safe and keeping it from eroding in value.
However
– you knew there had to be a “however” – the broader economic environment that surrounds
these negative bond yields is hardly one that produces many business
opportunities that result in doubling someone’s active investment. So it’s unlikely that the other two slaves
would have been nearly as successful in this scenario. The German stock market
is down 13% from a year ago, the Japanese stock market 21%. The U.S. market is up, but by only 1.3%. Investors would have done all right with
gold, at a gain of almost 15% from a year ago, but a broad index of industrial
and agricultural commodities is down 13%.
The
lesson for investors in these differential results is that we need to assess
the whole environment and be aware of the risks. As Barbara wrote in her own comments on this
parable, the underlying issue is not money but risk. For the three slaves and for us, probably the
best answer is a mix of assets with varying risks. We see that sometimes, burying the talent in
the ground can be the best thing. And
perhaps all of the time, at least some of the funds should be in something with
a guaranteed outcome. Otherwise, nothing
is totally sure.
Labels: Christianity, Financial Markets, People, World
Signs of Progress in Reducing Carbon Emissions
On Earth Day, the anti-climate change agreement that had
been hammered out in Paris back in December was officially signed by
representatives of 175 countries.
There’s no doubt about the importance of the Paris Agreement
priorities. We keep hearing about
climate change and its dramatic consequences.
On the face of it, this seems to be an overwhelming situation and is
full of challenges and bad press. For
instance, we hear that car companies in Germany – no less – have cheated in
their reports of gas mileage. We hear
horror stories about the poor people in China who go around the streets of
Beijing wearing face masks to filter out the extreme air pollution. We hear that the Arctic ice cap is melting
rapidly.
Thus, on the face of it, it seems that nothing good is
happening. Clearly there is lots to do
to rectify these conditions. But
indicators we consulted from the International Energy Agency show that
some trends are headed in the right direction.
Yes, there’s a long way to go in counteracting climate change, but there
is progress. [1]
Lower Emissions in Several Parts of the World
Carbon dioxide emissions are already drifting lower in
industrialized regions. For the 34 major
industrialized countries belonging to the Organization for Economic Cooperation
and Development (OECD), total emissions peaked in 2005 and by 2013, the latest
available, they had fallen 6.1%, overall.
In the U.S., emissions are down 10.2% in that timeframe, and in Europe,
11.7%. Granted, there is more to do toward
achieving the Paris Climate Change agreement goals. But this is certainly a start. We’ll come back with a couple of examples
shortly.
Emissions are, though, still rising in many of the world’s
regions. China and India are two obvious
examples, with CO2 output up 67.5% in China from 2005 to 2013, and
72% in India. Emissions in Africa are up
25.3%.
Even in these places, there are some signs of
improvement. In both China and India,
the increase in emissions is evidently tied to economic growth, which has been
quite rapid. But notably, emissions have
increased by less than GDP. In China,
GDP was up at a 10% average pace from 2005 to 2013, while emissions increased
at “only” a 6.7% rate. Two positive
developments are producing the slower rise in emissions: energy usage is also expanding less than GDP
and the energy that’s being used produces somewhat less emissions over
time. In India, GDP grew at a 7.5% rate,
while emissions rose at 7.0% pace. There,
energy use is also growing more slowly than GDP, although the specific kinds of
energy used there are still producing increasing amounts of CO2.
By contrast in Europe and the U.S., the decline in emissions
is resulting from declines in energy use and declines in the CO2
content of the energy used. So there’s a
shift toward “cleaner” energy. Here is a
little bit about the efforts of two major U.S. companies to reduce their own
carbon footprints.
Specific Companies Take Specific Actions
General Electric reduced its energy use by almost 19% from
2004 to 2014.[2] For carbon emissions, companies’ carbon footprints are often
characterized as emissions per dollar of revenue, and over that ten-year
period, GE cut down that measure from 59 metric tons per million dollars of
revenue to 33.9 metric tons. Among other
projects, it has redesigned the engines it makes for Boeing aircraft, and it has
restructured operations at a power plant in Greenville, South Carolina, by
simply installing real-time sensors and instituting a measuring system. Its plans going forward are directly tied to
the 2-degree-Celsius formula emphasized in the Paris agreement
American Airlines has found several interesting ways of
reducing fuel consumption, obviously the main source of any airline’s carbon
emissions.[3] They’ve learned they can
taxi around airports using just one engine.
They’ve learned they can reduce the weight of a flight meaningfully by
switching from paper flight plans to using iPads and also having flight
attendants use small Samsung tablets instead of a 5-pound paper instruction
manual on the planes. Finally, they
attached “winglets” to the tips of the wings of 240 of American’s planes,
improving the planes’ “lift”; this change alone saves 700,000 metric tons of
carbon emissions a year.
Low-Carbon Investment Strategies
In addition, from a different perspective, we note with
considerable interest that companies with low carbon emissions or small carbon
footprints constitute a growing theme for investors. Standard & Poor’s has even devised indexes
of stocks for low-carbon-emissions companies and fossil-fuel-free companies.[4] The “S&P 500 Carbon Efficient Index” has been
marginally stronger than the full S&P 500 index over most time periods in
the last several years. Since the
beginning of 2012, an index of fossil-fuel-free companies has outrun the
overall market by 5%. While that’s not a
huge difference, it does suggest that investors view lower-energy or
clean-energy companies in a favorable light.
Here are two examples of that investment strategy. At that Paris Climate Change conference, the
New York State Comptroller, Thomas DiNapoli, announced that the New York State
Common Retirement Fund would invest $2 billion in a fund created by Goldman
Sachs which emphasizes companies with small carbon footprints. The Common Retirement Fund is the pension
fund for New York State employees and is said to be the country’s third largest
pension fund.[5] Similarly, the
non-profit McKnight Foundation, with a total of $2.1 billion in assets, can
perhaps be identified as a pioneer here; back in 2014, it invested $100 million
in a broad-based carbon-efficient fund managed by Mellon Capital.[6]
The distinction for these two investment initiatives is that
they are active in-vestment strategies.
Previously, funds that wanted to emphasize climate and environment
concerns generally used a di-vestment strategy, eliminating coal and possibly
oil companies from their portfolios. But
selling these shares has had little impact because those companies are so large
that having a few shareholders sell out doesn’t mean much. Instead, enlisting fund managers to devise investment
strategies for companies that operate using desirable practices makes a more
positive, constructive statement.[7]
Thus, there are tangible efforts at individual investor and
company levels that encourage and support the implementation of carbon
reduction actions. Environmental issues
have the advantage that they are clearly measurable, so we can see
progress. As we said at the outset,
there is a lot to do, but there is progress.
-------------
[7] Tina Rosenberg. Op. cit.
Labels: Economy, Environment, Financial Markets, World
Personal Finances, the Great Recession and the Sluggish Recovery
We all keep wishing the economy would "feel
better", don't we? that there could be a sense of greater confidence in
jobs, in opportunities, in everyone's financial situations. We wonder why the recovery from the recent
Great Recession could be taking so very long.
Our last look at the economy, posted in late June, focused
on the job market, and we promised then to talk again about possible reasons
the current malaise has resulted in people dropping out of the labor
force. Very soon, the Census Bureau and
the Labor Department will publish some detailed data for 2013 that hopefully
will help us tackle that question.
Meantime, there is one area we can speak to, the condition
of personal finances, a topic for which we already have a quantity of recent
information. One of the main causes of
the Great Recession was that people borrowed lots and lots of money. Much of the public commentary about that
recession asserts that financial speculation and bankers brought on the
crisis. Clearly they were important, but
it's also true that people took on more and more debt. Bankers and traders did speculative things
with that debt, but it all did start with the consumers who borrowed the money.
A key, then, to the resumption of
stronger growth is likely related to the progress people are making in
correcting this over-reaching.
Mortgages & Homeowners'
Negative Equity
Mortgage debt expanded sharply from the middle of 2001
through 2006, over 13% a year. The
payments on that debt, so-called "debt service", surged from 5.9% of
people's disposable income in 2004 to 7.2% at the end of 2007. People who refinanced mortgages borrowed more
than their existing liability during those years, decreasing the equity they
had in their homes. Overall, this home
equity withdrawal amounted to almost $500 billion a year from 2003 to 2006.[1]
As people were stretching their personal financial
conditions, interest rates began to rise in 2004 and people with adjustable
rate mortgages or initially low "teaser" rates saw their mortgage
payments go up sharply. By late 2006,
unusual numbers of borrowers started having trouble keeping current on their
payments on those and regular mortgages as well. The greater delinquencies hurt the lenders
and the owners of bonds backed by the mortgages. The climb in home sales peaked in 2005, and
they began to decline. Home prices
started to fall in 2006; although those have finally begun to climb again, they
remain well below their 2005/06 highs.
The result, even now, is that 17% of homeowners have a mortgage that is
larger than the value of their home.[2] Called
"negative equity", that's actually an improvement from over 25% in
early 2013 and almost 31% in mid-2012, but remains a heavy weight on people's
approach to spending and their outlook on the economy in general.
Even now, after some recovery, housing and mortgage activity
remain in the doldrums. New home
construction this year is running no more than half the pace of 2005, and sales
of existing homes are still down some 30% from that year's pace. The latest weekly report from the Mortgage
Bankers Association shows a new recovery low last week in the volume of
mortgage applications. People are still staying
back from mortgage debt.
Credit Card Debt
Got Big Too
Another consumer debt issue is credit cards. From the spring of 2006 through early 2008,
credit card balances accelerated; from very modest growth of about 2%
year-over-year in early 2006, they were expanding at a 10% rate by late 2007.
Average credit card balances reached what are, to us,
astounding levels: in 2007, households
in the middle 20% income bracket owed $6,300 and those in the next rung down,
$4,900. Balances were higher, of course,
in higher brackets, so the average over the entire income span was $8,200.[3] If these were charged interest at a common
credit card rate of 1-1/2% a month, the interest add-on each month would have
been $120! Delinquency rates on credit
cards in those years hovered around 9% and rose rapidly during the recession;
they reached 13.74% by the spring of 2010.[4]
Credit card usage did slow.
By last year, the middle income bracket's average had fallen to just
$4,900 and the overall average to $5,700, this latter a reduction of 35% from
its peak. People are paying larger
portions of their bills each month too; from 19% of their balance each month in
2006, people in recent months have been paying almost 25%.[5] The lower balances have obviously accompanied
more sluggish spending growth. In the
2004-2007 period of big increases in credit card balances, spending was
expanding at rates of 6 and 7% a year.
It declined outright in 2009 and has had a modest, uneven pattern since
then. In 2013, people increased their
outlays on categories of items that might be charged to a card by just 3% and
this year's second quarter was up 3.6% from a year earlier, half the pace
during the "spree".[6]
There are numerous reasons for the currently mediocre
performance of the U.S. economy, and one of them is surely this restraint on
credit use. Some of this might be banks
turning down applications, but as we note with the mortgage information, people
are not even applying in much volume in the first place. In view of the excess of the 2004-2007
period, this caution is quite appropriate.
Importantly, it is helping to
improve credit quality; credit card delinquencies in the second quarter were
back down to 2.25%, and those on mortgages are down from a peak of 8.9% in
early 2010 to 3.4% in the latest period.
The better delinquency situation is laying the groundwork
for renewed spending growth on a much sounder basis. Recent retail sales reports suggest this
might be happening. Also, we do note
that people are buying cars these days and obviously borrowing to do that. After a long hiatus, many people's cars and
SUVs have simply grown old and need replacing, so it is not surprising to see
this. It is the only category of
ordinary consumer borrowing with much vigor.
People May Still
Not Be Saving Enough. Are You?
At the same time, there are two issues still to grapple
with: student loans and saving. Student
loans are a whole topic on their own and we will return to talk about them and
the "worth" of incurring big, long-term debt to pay for college. Saving has improved since the Crash and
recession, but continues as a matter of concern.
The saving rate, that is, the amount of personal income not
spent, got as low as 2% during the debt-spree years, reached a band of 6-7% in
2011 and 2012 and recently was 5.3% in the second quarter.[7] So it's clearly up off the lows, but not
"high". Also what isn't
"high" is the number of people who actually have a cautionary stash
of emergency cash under their mattress (or in a safe bank account somewhere) . A special Federal Reserve survey of people's
economic well-being taken during 2013 asked them about this: "Have you set aside emergency or rainy
day funds that would cover your expenses for 3 months?" Only 39% of participants said yes. Further, younger people have a lower positive
response: only 33% of households headed by 18-44 year-old people said yes. There is no history of this for comparison,
so we don't know how low that number would have been during the spending-spree
era.[8]
So we are not surprised that the economy remains relatively
sluggish; we believe some of this reflects the extension of a rebuilding effort
for people's own financial standing.
There are lots of other issues, but that is certainly one that had not
impacted previous business cycles so deeply or pervasively. We've illustrated some progress, though, and
look forward to further improvement.
Meantime, stick a little cash under your mattress every paycheck until
you think you can cover three months' worth of expenses!
__________
A new book, published just in May, encouraged us to give
these ideas some extra emphasis. House
of Debt, by Atif Mian and Amir Sufi, explores mortgage borrowing by zip
code around the country, highlighting the role of the debt itself in generating
the severe recessionary conditions throughout the economy, not just in the
housing sector. The book's subtitle is
"How They (and You) Caused the Great Recession, and How We Can Prevent It
from Happening Again." Hmmm.
We also consulted Stephan Whitaker's "The Evolution of
Household Leverage during the Recovery", an Economic Commentary of the
Federal Reserve Bank of Cleveland, dated September 2, 2014. Whitaker has calculated household debt/income
ratios for census tracts around the country.
http://www.clevelandfed.org/research/commentary/2014/2014-17.cfm
__________
Footnotes cover specific data sources. Most of our actual data references come from
these sources as presented in the databases of Haver Analytics.
[1] Federal Reserve Board, Financial Accounts of the U.S. Equity withdrawal amounts are taken from
calculations made by Haver using those Federal Reserve data.
[5] Payment rates on credit cards from the Standard &
Poor's Ratings Services' U.S. Credit Card Quality Index (CCQI).
[6] Data on consumer spending from the Department of
Commerce, Bureau of Economic Analysis (BEA), in the "national income
accounts", that is, the same dataset as GDP and its other components. We calculated a "credit card spending
subtotal" by taking total consumer spending and subtracting off housing
services, education, health care, vehicle purchases and other broad spending
categories that aren't likely to be paid for by charging to a credit card.
[7] The saving rate is also taken from the BEA's national
income accounts.
Labels: Economy, Financial Markets, Personal Finance
Rogation Day Needs in 2012
Today, Monday May 14, tomorrow and Wednesday are the annual "Rogation Days", a period each spring when the Church prays for God's mercy and blessing toward a favorable agricultural growing season and, in more recent years, a broader range of the fruits of human labor. Today in 2012, on this Rogation Day, we see headlines about a major bank loss, billions of dollars, incurred ironically by investments actually made in the name of "risk management"; at least three very senior managers of that otherwise highly regarded institution are in the process of resigning. We see the chairman of a major internet company resign because he misrepresented his educational credentials on the resume used to qualify him for his new job in the first place. We see the chairman of a major electronics and appliance retailer forced from his position because he didn't alert the company's board to some significant misbehavior by the company's chief executive officer, who has already been fired over the incident.
So do we need prayers asking God's mercy and blessing on the fruits of our labors? Oh, yes! And just to be sure readers don't get the impression that it's all leaders of business and capitalist investors who need these prayers, we also note that the greatest financial risk in the world at the moment appears to rest in the government of Greece, whose elected representatives can't manage to agree on a plan for organizing an effective administration of their country. This threatens the entire European monetary arrangement and currency. Also, without looking too hard, we can find plenty of risks in numerous other locations, including some of our own governmental institutions. Indeed, among other of today's news, California's Governor Jerry Brown has found his state's government will run a deficit several billion dollars larger than was estimated just in January. He hopes voters will affirm a tax increase and he will still need some $8 billion in spending cuts. Whew!
So we indeed ask God's mercy and blessing on our work and our stewardship of the gifts God has given us.
Almighty God, whose Son Jesus Christ in his earthly life shared our toil and hallowed our labor: Be present with your people where they work; make those who carry on the industries and commerce of this land responsive to your will; and give to us all a pride in what we do, and a just return for our labor; through Jesus Christ our Lord, who lives and reigns with you, in the unity of the Holy Spirit, one God, now and for ever. Amen.
O merciful Creator, your hand is open wide to satisfy the needs of every living creature: Make us always thankful for your loving providence; and grant that we, remembering the account that we must one day give, may be faithful stewards of your good gifts; through Jesus Christ our Lord, who with you and the Holy Spirit lives and reigns, one God, for ever and ever. Amen.
The prayers are from the Book of Common Prayer, and we last offered them here in 2008, as the financial crisis was building toward its climax a few months later. The Rogation Days are specifically the Monday, Tuesday and Wednesday just before Ascension Day. Some internet searching* reveals that the Rogation custom dates from the 5th Century and began in France, which at that time could cite any number of crises far more dramatic than our list here. Nonetheless, there is continual need to ask for guidance and evidence of high character among our leaders, both business and government. The broader is the scope of one's power and influence, the greater is the need for care in conceiving and implementing policies and projects aimed toward the furtherance of everyone's welfare.
Labels: Financial Markets, Government Policies, Prayer
Ted Forstmann
A brief note about the passing Sunday of financier Theodore Forstmann. Mr. Forstmann was a founder of Forstmann, Little and Company in the late 1970s. The firm was a pioneer of the so-called leveraged buyout, or LBO, a practice of issuing debt with which to buy up whole companies. It was a precursor to the active "private equity" transactions of recent years.
Ways of the World remembers Mr. Forstmann, who died of brain cancer at age 71, because he did this well, made good use of the money generated and was not in it for the celebrity. Several of the firm's late transactions during the technology bubble around 2000 resulted in losses, but generally, the companies involved and their managements were markedly improved through the shake-ups that the LBO actions brought about.
So much bad publicity has accrued recently to Wall Street types and to the abuse of debt and leverage, that we really do need to highlight someone like Mr. Forstmann. As in our critical commentary below about recent U.S. Congress deficiencies, the positive sentiments about Mr. Forstmann come from press at both ends of the political spectrum. We found information in the New York Times and we cite in particular an editorial today in the Wall Street Journal which documents Forstmann's work with underprivileged children. He founded the Children's Scholarship Fund with $50 million of his own money and has raised nearly $500 million all together. The fund provides private school educations and has served 123,000 children with affiliate organizations in 33 states.
To quote the Journal: "Ted Forstmann lived a life of purpose that showed how entrepreneurs who succeed both create wealth and spread it around in ways that enrich us all." Labels: Financial Markets, People
Mediation in Store for "Occupy London" and St. Paul's Cathedral
We have been deeply concerned in recent days with the crisis of leadership at St. Paul's Cathedral in London over the intrusion onto their property of people participating in the London version of Occupy Wall Street, an entity calling itself Occupy London Stock Exchange (OccupyLSX). Three officials of the venerable and deeply significant institution of St. Paul's have resigned during the last week over the closing of the Cathedral for some days, the first closure since the air-raids over London in World War II. The resignations include the Dean of the Cathedral and the Chancellor, who each resigned for opposite reasons, the Chancellor because he was appalled that the Cathedral would shut out these people and the general public, and the Dean because he was criticized for doing so and for supporting legal action to have the protesters removed from Cathedral grounds. Then, just late this afternoon (Tuesday, November 1), Episcopal News Service reported that the Cathedral, now being guided by the Bishop of London, has backed away from a strong legal stance. In kind, the City of London has paused in its own legal actions while an effort at connection is made with the protesters. In a most imaginative move, the Cathedral has engaged Ken Costa, a prominent investment banker and active layperson in the Church of England, to lead an effort to interact with the protesters. Costa, formerly a senior executive at UBS and Lazard International in London, is the Chairman of Alpha International, an organization that presents courses in Christianity to people generally unacquainted with religion. A Warden of his local Church of England parish, he is also the author of God at Work, a book that endeavors to connect business and God. Costa will, according to the Cathedral's website, "spearhead an initiative reconnecting the financial with the ethical. Mr Costa will be supported by a number of City, Church and public figures, including [former Cathedral Chancellor] Giles Fraser, who although no longer [on the Cathedral staff], will help ensure that the diverse voices of the protest are involved in this." This is the most positive development we have seen in the entirety of the Occupy Wall Street movement, and it is heartwarming to see that some constructive effort is being made to connect the protest with the piece of society against which it is protesting. Isn't it exciting that it's the Church who seems to be taking the leadership role here, and it's not a financial critic who's coordinating the response, but a financial market participant. We will watch it closely. And if you notice some similarity between the themes of Mr. Costa's work and those of Ways of the World, so do we. You'll hear much more about this effort from us. ================================== See the Episcopal News Service story: http://www.episcopalchurch.org/81808_130370_ENG_HTM.htmSt. Paul's website: http://www.stpauls.co.uk/The site connected with Mr. Costa's work: http://godatwork.org.uk/ . See especially his article beginning on the homepage in which he describes a visit at OccupyLSX; this was written for the Financial Times and I read it there Monday, not aware of Costa's connection to the Church. Labels: Episcopal Church, Financial Markets, World
Economics Questions with No Quick Answers
It's easy to get exasperated these days with the stubborn sluggishness in the U.S. economy. One cause is the continuing dramatic correction in the homebuilding sector. Usually after a recession, the prevailing low interest rates encourage a rebound in new home construction and in sales of existing homes. Subsequent furnishing and/or remodeling spurs demand for furniture, appliances and other home accessories, setting off more generalized gains in retailing and manufacturing. At present, hardly any of this is happening as housing construction starts and home sales languish near record lows.
Lots of People Still Late with Mortgage Payments
As a career business economist, we wish we had some ready answers to this conundrum in a sector that ordinarily might lead a renewed and sustained expansion. What we can talk about are a couple of extraordinary and historic conditions that are contributing to the lingering economy-wide sluggishness. For instance, the Mortgage Bankers Association last week published the survey of its member institutions' delinquency and foreclosure trends for the second quarter of 2011. These new data show that 8.44% of all mortgages have payments past due. This figure has been steady since last fall, arresting an all-too-brief improvement that had begun early in 2010, when the portion with late payments pierced 10% of all mortgages being serviced by these firms. The traditional range for this late-payment measure is 4% - 5%. Mortgages badly past due, that is with payments more than 90 days in arrears, were 3.61% of total mortgages in the second quarter, also tracing a flat trend since last autumn after a partial improvement from an early 2010 peak. The historic level of this gauge of severely late payments is 0.5% - 1.0%.
We don't know, since we've never been at recent levels of these measures ever before, if these delinquency conditions have to improve first in order for consumer demand to be re-energized or if, instead, it goes the other way, and some kind of government policies to try to spur job creation are needed first in order to set off both consumer spending and an improvement in the loan delinquency situation. Note that this is just late payments, before we even get to foreclosure.
And House Prices Still Very Weak
House prices are intertwined with this. The Federal Housing Finance Agency, FHFA, last week released its latest data on home prices. Encouragingly, the basic, sale-related "purchase-only" index increased 0.9% in June from May, following 0.4% in May and 0.3% in April. The June amount is the largest monthly price increase since September 2005. However, it still leaves the index down 5.6% from a year ago and the resulting second quarter average only a minuscule 0.09% higher than the first quarter. Before late 2007, this price measure had never declined at all year-to-year; one version of the index runs back to 1975.
In this report, the FHFA included a new index based on more comprehensive coverage of purchase and financing transactions. This measure includes sales and also appraisals connected with mortgage refinancings. FHFA has consulted county registers of deeds and other sources to compile a series that now includes homes with so-called non-conforming mortgages, i.e., jumbo loans, and purely cash transactions that don't involve a financial institution. This index is compiled quarterly and called the "Expanded Data Home Price Index"; it was still declining in the second quarter, by 1.1% from the first quarter and it was down 6.1% from the year before.
If people feel nervous about the value of their homes, even if they don't plan to sell anytime soon, they may feel less wealthy in general and therefore spend less. But until the last four years, there had never been a sustained decline in home prices, so there's no historical precedent for assessing the impact of this condition either. And also no formula for a government policy that might help fix it. Besides, the government has its own budget issues to deal with at the moment.
A final indication of the disrupted housing sector is the vacancy rate in homes that are usually owned rather than rented. In the 20 years before late 2005, that measure of empty houses had averaged 1.6% and had never been more than 2.0%. But it reached 2.9% in 2008 and has since come back only to 2.5%. The reduction in vacant housing is welcome, but at that level we're still in largely uncharted waters by historical standards.
Some Negatives At Least Less Negative Now
Are there factors in the economy that look more positive? Or are the pessimists right that another recession might be coming? We saw a sharp drop in the stock market right after the debt ceiling/credit downgrade debacle in early August, but that drop seems to have been arrested, and several recent days have seen strong gains in stock prices. Gasoline prices got to almost $4.00 nationwide during May, but they have retreated somewhat; Monday's national average was reported by the Energy Department at $3.63/gallon for regular. This frees up some of consumers' incomes for spending on other things. Their spending did go up fairly vigorously in July, according to Commerce Department data out just on Monday, with gains in a variety of goods and services. Europe is held back by its own debt crisis, but various other large countries, such as China, India and Brazil, continue strong growth and spreading purchasing power that is building a middle class among their populations. The deleterious effects of the March earthquake in Japan are fading.
None of these forces is concrete enough to ensure sustained growth in the U.S., but neither are they definitive constraints. We think growth here will continue, but with a frustrating sluggishness. The first indication will be this Friday's employment report for August, and it will feature impacts from the strike of 45,000 workers at Verizon. So if you see a low number of new jobs, or even a small drop, don't be dismayed at that alone. [The way these statistics are compiled, strikes don't have a direct effect on the unemployment rate. The rate could suffer from knock-on effects in other sectors, but the strike probably didn't last long enough for much of that to develop.] Good luck to all of us in the months ahead.
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Some of the housing discussion above is taken from a commentary we wrote for Haver.com, the website of Haver Analytics, Inc. Here's a link. http://www.haver.com/comment/comment.html?c=110826c.html There are interesting graphs there of more of these indicators, which help give these developments more perspective.
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Entirely separately, we note with interest and concern the resignation of Steve Jobs as CEO of Apple. You may know that Jobs has been ill for some time with pancreatic cancer, and that now appears to have gotten the best of him as leader of a major company. Under his leadership, Apple has introduced iEverything – seemingly – for communications. Even the likes of Barbara Crafton and other priests of our acquaintance are avid users of iPhone and iPad. We offer Mr. Jobs our moral support and indeed our prayers in coming months. May the company continue with such imaginative and fun products.
Labels: Economy, Financial Markets
U.S. Debt Rating Called into Question
On Friday, April 15, the U.S. Government had debt outstanding of $14.268 trillion, equal to roughly 95.5% of the nation's gross domestic product. See this graph of the debt as a ratio to GDP to see how it has leaped over just the last three years.
 For years, the debt of the U.S. Government has held status as the virtual definition of a safe haven in the world's financial markets. Our national government has the highest level "AAA" credit ratings from the two well-known and respected credit analysis companies, Moody's and Standard & Poor's (S&P). This has been such a firm standard that the values for many other U.S. and world debt-market assets are frequently quoted not in terms of their own interest rate or a price per se, but by the spread between their interest rate and the going rate on U.S. Government bonds or notes. U.S. issues have thus been the benchmark for valuing nearly all other debt, both in this country and elsewhere. Such a strong position suggests that the U.S. Government has been perceived as the most rigorous in establishing and enforcing its own spending and taxing rules and that those policies engender a healthy economy largely free of disabling distortions. That is, the prestigious position of our debt in the world carries with it a significant responsibility for – we won't apologize for our words here – being adult in our budget and financing practices. 11th Hour Fiscal Policy Action
What we have seen, though, over the last year, has been disregard of these standards by our fiscal policymakers even as deficits and consequent debt have been enormous. In three separate situations, they have skirted definitive, decisive actions to bring these conditions under control. Both Democrats and Republicans have contributed to the disorderly environment. First, for the current fiscal year 2011, spending authorizations that should have been enacted by Congress before the year began on October 1 were just handled ten days ago and only then, in the face of a threat that government operations would shut down due to lack of legal authority to spend money. This was saved by a literal 11th-hour, 11:00PM agreement on the night the latest temporary spending resolution was due to expire. No one was really satisfied by the terms of the final agreement, but at least there was no disruption of ordinary government services. Secondly, concerning the upcoming fiscal year 2012 budget, the President, to his credit, had started on the right foot. He nominated a bi-partisan commission to study and advise him on ways to get spending and the deficit under control; they reported in November and December. But in February, when he presented his own budget for fiscal 2012, he basically ignored their recommendations in a plan that proposed little action toward improving the long-term budget outlook. House Republicans recently presented a plan of their own, but the President's immediate reaction to their concrete proposal was an attack[1], rather than an outreach toward negotiation that might lead to mutually acceptable principles for budget and debt reform. Now, thirdly, there is also argument over raising the debt ceiling. The Treasury estimates that the debt will reach the statutory $14.294 trillion limit by about May 16. We have experienced such debt ceiling limitations before. Since the legislation to raise the ceiling must be acted upon for the Treasury to be able to borrow more money, Members of Congress traditionally demand that some personally desirable programs or favors be incorporated into the bill. This time, some prominent Republicans have stated that they oppose raising the limit at all. This stance to disallow any increase in the debt at all is hardly realistic when there is a concurrent deficit in the balance of spending and receipts. Theirs is obviously a negotiating position, but it seems ill-advised with such large numbers and such an obvious disagreement on the conditions anyone might demand in order to acquiesce in an increase. For their part, Administration officials have irresponsibly raised a spectre of credit default if the debt ceiling is reached. In fact, there would not be any outright default. Maturing bonds could be re-financed and current inflows of revenue would more than cover interest expenses. Spending would, to be sure, be constrained to the amount of receipts since there could be no new debt, and there would certainly be disruptions in programs. But that is not a "default" in which existing debtholders go unpaid. Some other countries do face that prospect and it is reckless to express our situation in the same terms. Further, since, as we pointed out, there is probably less than a month before the current ceiling is reached, it's unnerving that with this looming, Congress has taken off on its traditional two-week Easter recess, and the Senate Majority Leader and the Speaker of the House are both out of the country. [They're in China and Pakistan, respectively, so they're hardly on pleasure kicks, but being at home working on our primary national priority might be the better use of their time just now.] A Red Flag on our Credit Rating
So in the midst of all this, yesterday morning, Monday, April 18, just before the stock market opened for trading, Standard & Poor's woke us all up to the seriousness of the dilly-dallying on our budget situation in the face of the current massive deficits and rapidly increasing debt load. Issuing an official statement[2], they said that, while they affirm our AAA rating, they have changed their expectations for that rating going forward from "stable" to "negative". S&P initiated the "negative outlook" designation in 1989 and this is the first time they have applied it to the U.S. Government. The S&P analysts assess that there is a one-in-three chance that the rating could be cut sometime over the next two years. They anticipate, they wrote, that the current political posturing means the issue won't receive serious action until after the 2012 elections, and they fear the added cost of the deficits and debt that will pile up in the meantime. We would no longer have fiscal relationships in our economy that are as good as, much less better than, other AAA-rated countries, S&P explains. Other countries, especially the U.K. and France, have already enacted budget reform programs and are implementing those. We can't even talk to each other yet. We have written here several times before about several fiscal policy needs: rationalizing social security, consciously discussing and choosing among the tasks and missions we want the federal government to fulfill, reducing wasteful spending. This week in particular, having just filed 2010 tax returns, we could also mention simplifying the tax code. While one sees that an election campaign might stimulate the national conversation that would facilitate these decisions by our elected officials, S&P believes there has already been ample opportunity for this, and, since we've already said so here, we would endorse their argument. One can always find some reason to postpone difficult decision-making. But the issues themselves will continue to fester. Several of our economist colleagues actually thanked S&P yesterday for calling out our politicians and asking them to practice statemanship. That is surely what is needed. We hope they rise to the occasion. _____________________ [1]The President spoke at George Washington University on April 13 in what had been expected to be a major fiscal policy statement. Unfortunately, he took a harshly negative tone commenting on the Republican proposal, so that his approach came across as combative, not collaborative.
[2]Here's the Standard & Poor's statement. http://www2.standardandpoors.com/spf/pdf/events/UnitedStatesofAmericaRatingAffirmedOutlookRevisedToNegative.pdf Labels: Financial Markets, Government Policies
'Twas The Week Before Christmas
'Twas the week before Christmas and all through Wall Street
Many creatures were stirring – they had deadlines to meet . . . .
Poor Clement Moore. We won't mangle his fine text anymore. But in fact, for the week before Christmas, there's lots going on – on Wall Street and especially in Washington. Nobody has "settled [their] brains for a long winter's nap". Normally by this time, Congress is long gone, the rest of the federal government is pretty still, and Wall Street is busy, but with Christmas partying more than trading. Not so this year.
That Tax Bill
Let us hit a couple of the high spots. Congress finally passed a tax bill last Thursday evening. The basic feature of this bill – extension of the current income tax rate structure for two more years – is easy to misinterpret, so we will try to describe it in a gingerly fashion. Notice that we didn't use the term "tax cuts". After as many as nine years, these tax rates hardly seem like a tax "cut" any longer and certainly allowing the rates to go up would hit just like a tax "increase", even if it isn't formally called by that name.
Extending the current rates for middle income taxpayers was never much disputed. Contention focused on those in upper income brackets. Many of us perhaps thought that these well-to-do people are quite comfortable and wouldn't miss the 5% or so more of their income that they'd be paying to Uncle Sam. Maybe. But some research we did several months ago for a different need taught us something about who those upper-income people are. According to the Federal Reserve's Survey of Consumer Finances, the largest asset of the top 10% of wealth-holders is equity in a business. Not a portfolio of shares of stock, but ownership interest in their own company. So this group encompasses proprietors of the country's small businesses. It's not as if they were settled back in their palatial mansions, collecting their dividends and interest; for the most part, they're out there in the mix, working hard – and employing well more than half the country's workforce. We'll talk about this issue and these people more in a subsequent article, probably during the upcoming tax season. For now, it's clearly advantageous to the economy and to the rest of us that we didn't hike their taxes in the face of the fragile recovery we're experiencing.
An addition to the bill will actually put cash in everyone's hands beginning in January: a one-year reduction of two percentage points in the social security payroll tax. As you may recall from our article on social security in late summer, this action of reducing social security funds' receipts is not particularly good for the financial condition of that system. But it will lift everyone's take-home pay in the short run, providing cash for stepped-up spending or for paying down on credit-card and other debt. For a year, that may well be a beneficial trade-off. We will need the discipline this time next year to let it expire, however.
Latest Wrinkles in Federal Reserve Policy
What is the Federal Reserve up to these days? Why was the Fed Chairman Ben Bernanke on the 60 Minutes CBS-TV program a couple of weeks ago?
The Fed has two main functions, banking regulation and lending, and economic stabilization through monetary policy. The monetary policy role has a two-pronged goal mandated by federal law: maintaining stable inflation and minimizing unemployment. At present, inflation is low and unemployment is high. The economic recovery doesn't seem strong enough on its own to improve the unemployment situation, as Mr. Bernanke explained on 60 Minutes, so the Fed is more or less required to at least try some action toward that end. This is not straightforward, though, since the Fed's key policy interest rate, the so-called federal funds rate, is virtually at 0 percent; so they can't pursue the usual course of lowering that short-term interest rate. The Fed is taking a different tack, which Mr. Bernanke also tried to help us understand through his TV appearance. Business investment and home mortgage lending really involve longer-term financial commitments. The Fed is trying to facilitate a decline in longer-term interest rates by buying Treasury bonds, $600 billion worth by next May, about $75 billion a month.
So far, long-term rates have risen, which is not exactly the desired result. Ten-year Treasury yields traded at 2.57% in the early November week when the Fed announced its bond-buying approach, and last week, they averaged 3.41%, an increase of 0.84%. We can guess that the bond markets are concerned about the Government's budget, and that overshadowed the Federal Reserve's added demand for the government bonds. Still, these interest rates may have increased more without the Fed's buying.
Separately, the Federal Reserve is also supplying funds to central banks in Europe. As government debt strains hurt financial conditions in various countries – Ireland's credit rating was slashed five notches on the widely followed Moody's scale last Friday – the Fed has been lending in currency markets through a "swap" arrangement. Today, in an indication that those policymakers haven't gone on Christmas break yet either, they announced the extension of these arrangements until next August. The central banks borrowing dollars in these transactions lend them on to banks in their own countries, suggesting that the Federal Reserve is serving as an indirect lender to financial institutions in a number of other countries as well as the United States.
Private Economy Might Be Picking Up
At the same time, in the private sector, some economic indicators are showing signs of improvement. U.S. consumers appear to be doing what they usually do just before Christmas: shop. Weekly chain store reports issued today for last week show some encouraging vigor on top of a sizable increase in overall retail sales for the month of November. Industrial production also increased last month. And perhaps most notable, the latest available figures show a decline in the number of people filing claims for unemployment insurance benefits. A four-week average of these initial claims was 423,000 in the week ended December 11, the smallest number since August of 2008, just as the financial panic was really setting in.
So, as the year closes out, in the midst of our caution, we're seeing some better signs: perhaps consumer spending is picking up and both fiscal and monetary policies in the U.S. are supportive of growth. There's even an early hint in that unemployment insurance data that labor market conditions might be getting more heartening.
Maybe Congress can get out of Washington soon, now, and leave the skies to Santa Claus!
Merry Christmas!
Labels: Economy, Financial Markets, Government Policies
European Bailout Plan Follows Violence in Greece and Malfunctioning U.S. Stock Market
This past weekend, while most of us were off celebrating Mother's Day, European ministers and economic policymakers were laboring in Brussels to cobble together a scheme to alleviate the current euro financial crisis. As the declines in stock markets elsewhere attested Thursday and Friday, the government debt debacle in Greece was on its way to inflicting harm quite far away from the Mediterranean Sea. The policymakers met late Sunday night and on into Monday morning in an effort to get an agreement before markets opened in Asia. The announcements came around 9:00PM Sunday night Eastern time, which was 3:00AM Monday in Brussels and 11:00AM in Tokyo. World stock markets indeed surged on the news, with Tokyo up 1.6%, Germany up 5.3% and London up 5.2%; markets in France, Italy and Belgium were even stronger. In the late New York morning as we write, the Dow Jones has gained just over 4%.
Violence in the Streets of Athens . . .
This drama came about in the wake of several disturbing events. The rioting in Greece we talked about here last week continued and on Wednesday a bank was firebombed and three people killed. We've heard about people committing suicide over financial reverses and turmoil, and that's sad enough. But we have to say, in a decades-long career, we've never heard of such mass violence directed at government financial policies. Yes, the people are angry that their wages and pensions will be cut. But government isn't seizing their property and kidnapping their families or constraining their civil rights, or even censoring the press. At the same time, German voters yesterday showed their displeasure at having to help the Greeks by voting out some members of parliament from the majority party and eliminating that majority in the upper house of parliament. Tough stuff.
. . . Prompts Formation of Huge Bailout Program
The plan calls for almost $1 trillion in potential bailout funds to be contributed by all the members of the European Union. To distinguish, the Euro Zone (sometimes called the Euro Area) is the group of 16 countries that use the euro as their currency. Additionally, 11 other countries are banded together with them in a customs union, or free trade zone; the broader group of 27 then is called the European Union, or EU. The rescue money is meant to be available for any member country running into debt financing strains or other major financial tangles.
Greece Is Just Part of the Problem
Finances indeed got tangled on several fronts at the end of last week. Stock markets everywhere had reacted to the Greek budget deficit problem and the expectation that other governments, especially Spain and Portugal, might face the same situation. The trading glitch that caused U.S. stocks to plummet Thursday afternoon upset everyone (more on this below). The oil spill in the Gulf of Mexico is making people tense about risks, as are repeated interruptions in air travel in Europe due to volcanic ash in the atmosphere. Also, last week, less visible but more fundamental, liquidity showed further strains in European bond markets. In their nervousness, investors who had U.S. dollars didn't want to lend them to others, so interest rates on short-term dollar loans headed markedly higher. This is problematic because such short-term transactions may be needed to pay for imports, to cover some payrolls, to complete some other financial interchanges in the highly interconnected global financial network. It was getting perilously close to the market freeze conditions of autumn 2008.
Thus, besides the large weekend EU bailout arrangement, the U.S. Federal Reserve arranged a dollar-lending facility with its counterpart central banks in Europe, the U.K., Canada, Switzerland and Japan. It announced this renewed program at 9:15 Sunday night, about the same time the main EU bailout facility was being announced. The Fed will lend dollars to these official banks, who can, in turn, lend them on to banks in their countries. This is meant to increase the supply of dollars in world markets and help pull related interest rates back down. This same "swap facility" was used from December 2007 through this past January; at its peak in December 2008, it provided $580 billion to foreign banks.
Budgets Still Have To Be Cut
Clearly, these two huge programs of the EU and the Fed only address symptoms. They are meant to "buy time" for fundamental issues to be dealt with. The Greek Parliament actually did at least some of what it is supposed to do last Thursday in enacting legislation that will cut government spending and raise taxes. But the Greek people need time to calm down. And other Parliaments need to take similar kinds of budgetary actions. The U.K., with its own government presently in a blur after last Thursday's inconclusive election results, will also need to buckle down when the new leaders get into place and get its own budget situation rationalized. Nobody gets a free ride.
U.S. Stock Market Goes Bungee Jumping
Then, there's that awful U.S. stock market trading glitch. On Thursday, the Dow Jones Average was already down about 500 points at mid-afternoon, when a sudden downdraft pushed it off another 500. The charts of that look like a bungee jump. Fortunately, the bounce of the bungee did take place, and almost as fast as the downward plunge. What is this? There is extensive electronic trading and in some transactions no human input is involved. Surely no human intervention caused Accenture's shares, as one example, to fall from $40 to 18 cents in minutes. One electronic trading company did announce that they had stopped trading on the downside since they felt their "algorithm" would exacerbate the drop, but others argue that the removal of that automated response system may have made it worse by removing liquidity – there's that word again – from the whole system, causing it all to fall even more.
These mathematical trading routines, or algorithms, activate when prices cross thresholds determined by analytical formulas. Not all trading is conducted this way, indeed, perhaps only a fraction. Generally, it is very efficient, helping to smooth the timing of trades, particularly when investors are shifting a large holding. But as we saw the other day, things can go wrong and they can get very wrong in a hurry. There can be two types of problems. The formulas might be based in statistical probabilities, and it's possible that prices and trading volumes can move outside the usual probability range. We can measure the margin for error, but when a result comes there, sometimes the best we can do is say, "Oh, that's an outlier." We may not be able to react to the outlier before the trading formula pushes prices on a trajectory outside the carefully demarcated region. Secondly, these algorithms work as long as the players are "us" versus "the rest of the market". Then our action can be counterbalanced with a re-action. But when "the rest of the market" is using a similar tool, then we're all on taking the same kinds of action at the same time and it all goes one way – as it did Thursday.
Stock exchange officials were to meet this morning at the Securities and Exchange Commission in Washington to assess more carefully what might have happened. We hope they have better answers than we do. Automatic trading stoppages, called circuit breakers, have been used in the past to interrupt undesirable patterns, and perhaps strengthening those for today's bigger, faster market systems can help.
Better News, Though, on the Jobs Front
Fortunately, in the middle of all this turmoil, there was good news on U.S. economic fundamentals with the April jobs report showing sizable and widespread employment growth. Banks and other financial institutions are also in much better shape than they were in the 2008 crisis period. So perhaps we won't have a major setback to recovery. But these recent events serve as serious warnings that all of us need to stay cautious in buying, selling, investing and especially borrowing. Labels: Economy, Financial Markets, Government Policies
Sustainable Debt: Greece vs. the U.S.
Greek civil servants are on strike today and tomorrow, following riots over the weekend, as the Government prepares to enact various austerity measures promised in return for bailout funding from the EU and the International Monetary Fund. The country has debt maturing on May 19 and would not likely otherwise have had the cash to pay it off. International investors have stopped granting Greece new credit.
As we described in our previous article on debt sustainability, civil service wages and public pensions are both more generous than Greece's economy can generate revenue to cover. So the European financial authorities and the IMF are trying to spur the Greek government to start reforms. Obviously, those are not popular with people whose salaries and pension benefits are likely to be reduced.
Meanwhile, back at the ranch, what is the situation in the U.S.? Is the U.S. debt "sustainable"? Also, Mother Crafton recently commented in a note to us, "So many make the simple analogy between a family's need to live within its income and a nation's relationship to its own debt. I know [this is] not that simple, but am not sure how. "
U.S. Debt Has Been "Sustainable"
On the "sustainability" question, there are two key ingredients. (1) How does the growth rate of the economy match up to the real interest rate on the debt? And (2) what is the debt's weight on the overall economy? If the economy is vigorous, it can generate more revenue to finance government activity. So even if there is some current budget deficit and some outstanding debt, the country can service that debt, that is, it can meet its interest payments, and in that otherwise vibrant scenario, investors would be likely to roll maturing debt they hold into new issues. The U.S. has been here for a long time. Gross domestic product (GDP) growth averaged 3 to 3-1/2% annually over the 25 years to 2007, while interest costs have actually declined in real terms (after netting out inflation) and have run noticeably below the growth rate since 1998. Thus, the margin of economic growth over interest cost has been favorable. The budget deficit has averaged about 2.5% of GDP over the last 20 years. As to item (2), the debt ran about 36% of GDP over the last decade, rising just the last two years during the recession. Overall, the budget and debt situation have been manageable up to now.
Future Prospects Are Clouded, Though
But there is concern at present, since the deficits last year and this are so very large. And the long-term outlook doesn't appear promising. The fiscal year 2009 deficit was $1.413 trillion or 9.9% of GDP and pushed the debt to 53% of GDP. [Fiscal years run from October 1 to September 30, so we are just over half way through fiscal 2010.] Recent estimates of this year's deficit run about $1.3 - $1.5 trillion, again about 9%-10% of GDP. These outsized numbers are clearly a product of the aftermath of the recession, and they should diminish as the recovery builds. However, two sets of long-term budget projections highlight looming issues.
Federal government expenditures have run right at 20% of GDP for the last 15 years. During the recession, in fiscal 2009, they were 24.7% and are estimated at 24.8% for this year. According to a Congressional Budget Office analysis of the Obama Administration's current budget[1], the lowest amount projected in coming years is 23%, with an average of 24% across the span to 2020. This is without the effects of the new health care law. Revenues have run about 18% of GDP historically and this same CBO work projects a ratio of 19% through 2020. Thus, if all this comes to pass, the long-run deficit will widen from the recent 2.5% of GDP to 5%, and the trend will be increasing toward the end of the decade. The debt-to-GDP ratio by then would be about 90%.
A widely respected survey of private forecasters reports projections of GDP growth over the next ten years at 2.7% and real interest rates at about 2.5%, basically equal, thereby bringing to an end the recent favorable relationship of high growth to low real interest costs.[2]
A Commission Works To Rework the Federal Fisc
On the face of it, then, the U.S. budget situation is worrisome, and President Obama has constituted a deficit commission to study ways to resolve it. The commission met for the first time last week and will issue a report in December. Some expect them to recommend the imposition of a Value Added Tax, or VAT, a kind of national sales tax, to close or at least narrow the budget gap. Our own recommendation would concentrate more on spending, since that is the source of the issue. The rapidly expanding elderly population will put increasing pressure on a number of so-called entitlement programs, and substantive deficit reduction can't really be accomplished if those aren't somehow reshaped. That's one reason we were disappointed that the new health care law used cuts in Medicare only to make room for a brand new entitlement initiative. Containing these big, broad outreaches is the only genuine long-term answer to persisting deficits. Perhaps it indeed needs a commission to conjure how to make cost-effective changes that are still respectful and compassionate.
When All Is Said and Done, the U.S. Remains a Safe Haven
All this said, as today has progressed while we have been writing this article, stock markets in Europe and the US have fallen sharply in response to the riots and strikes in Greece. Despite the development of a bailout plan over the weekend, new numbers suggest it still may not enough to solve Greece's short-run troubles, and the negative reaction of the workers there has spooked stock investors and driven down the euro currency. Worries about other southern European countries, especially Spain and Portugal, are mounting, as are concerns over the whole euro arrangement.
As investors sell euros and sell stocks today, they're buying something. And that something is U.S. Treasury securities. So despite our careful numerical analysis and all our ratios that are flashing warning signals, there remains a special place for U.S. Treasury debt in the portfolios of the world. It's still where people turn when they get scared. The promise that the U.S. government will pay remains the closest thing to a risk-free asset that anyone can conceive. Perhaps it is not exactly the U.S. government, but the U.S. nation that people can believe in. This could certainly change as other nations emerge and mature, but right now, there's no close, visible rival. And yes, Mother Crafton, most of the time, most countries, as most families, have to live within their means – with "means" defined pretty broadly. But there are exceptions, and right now, the U.S. seems to be just that.
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[1]Congressional Budget Office. An Analysis of the President's Budgetary Proposal for Fiscal Year 2011. Washington DC: The Congress of the United States. March 2010. Page 5.
[2]Federal Reserve Bank of Philadelphia, "Survey of Professional Forecasters". February 2010, via Haver Analytics, Inc., New York. Labels: Economy, Financial Markets, Government Policies
Financial Regulation, Prudential Behavior
Last week here, we expressed some concern that not much seemed to be happening with financial regulatory reform, and we thought that issue should be getting more attention. As it turned out, several developments on that front took place in subsequent days. These are important to all of us because in the last two years we've faced considerable danger in all our economic and financial dealings. Now that some of the dust has settled, we need to work at rationalizing the structure of markets and institutions to try to minimize the prospects that crashes and chaos could overtake us again. This work is done mainly through our government officials, but there's a role here for everyone, and we'll will come back to that at the conclusion.
This past week saw three initiatives: the House Financial Services Committee voted out a bill to establish a Consumer Financial Protection Agency, the Treasury and the Federal Reserve both announced rules governing the pay of senior officers of banks and financial firms that have received taxpayer assistance, and the Treasury prepared us for the introduction of new more concrete proposals for general financial regulatory reform.
The CFPA Passes the First Legislative Step
The Consumer Financial Protection Agency would have the power to write consumer protection rules for numerous credit, lending and deposit products and to ban those that it deems "unfair, deceptive or abusive". This authority would be centered on the product or service and not on the kind of institution. The bill gives CFPA authority to examine individual institutions, though, to evaluate their product offerings and practices. This examination would be in addition to any other regulatory examination, such as FDIC or state government bank examinations. A number of specifics have yet to be clearly defined, for instance, how to distinguish car dealer financing, which might be exempt, from financing provided by an auto company's financial affiliate, such as GMAC, which would be covered. The goal is to prevent predatory lending, deceptive practices especially regarding mortgages and to provide clearer information on consumer financial products in general. It has been a high priority of the Obama Administration, who believes that abusive tactics harmed consumers and contributed to the heightened risk that led to the collapse.
Treasury & Fed Come Down Hard on Executive Pay
The second development last week was the announcement of executive compensation caps for financial institutions that have received aid from the federal government and the Federal Reserve. The Treasury Department's "Special Master for TARP Executive Compensation" issued "determinations" on the amounts and forms of payment that can be paid to the five most senior executives and the next 20 most highly paid officers at the seven institutions that received "exceptional assistance" from the Treasury. These firms are AIG, Citigroup, Bank of America, Chrysler, GM, GMAC and Chrysler Financial. The week before, the Special Master, Kenneth Feinberg, had recommended that the out-going chairman of Bank of America Kenneth Lewis receive no compensation at all for 2009; Mr. Lewis agreed to this. Lewis has already announced his resignation from BofA, effective December 31.
The caps limit cash pay for these 175 individuals to $500,000 and any kind of bonus award to restricted shares of stock that cannot be sold for three years. One of the objectives of the action is to shift the executives' viewpoints from short-term, "how can I boost business this quarter or this year", to a longer span that might encompass several cycles of activity or market conditions. Another objective is certainly to limit the liability of taxpayers to these officials whose companies are presently on the government dole.
Almost simultaneously, the Federal Reserve announced a broad initiative to examine compensation policies at two groups of banking institutions, one set of 28 "large, complex" firms and a second broad group of regional, community and other banking organizations. The sense of "examine" here is the technical, legal one applying to the regulatory process. The 28 large, complex firms will have their pay schemes examined all at once, a so-called "horizontal review", so they may be compared with each other at a given point in time. The firms will be told how to modify their pay structures, according to specific principles, and subsequent regular examinations will test for compliance. For the smaller, non-complex institutions, executive compensation will be added to the subject-matter for their regulatory examinations.
Here too, as with the Treasury's edict, a major goal is to lengthen the horizon for executive pay calculation, to shift the focus of the incentive structure over several fiscal periods instead of just "this one", however short that might be. The assumption in both the Fed and the Treasury is that this will help reduce the risk exposure of the firms, since there will be less perceived need to reach for greater risk or to hurry to cram in one more deal this week before the books close on the quarter.
"Living Wills" for Financial Institutions??
Lastly, later today, October 26, the Treasury will submit to the Congress a new plan intended to fix some of the major deficiencies of current regulation. Michael Barr, a Treasury Assistant Secretary testified before the House Judiciary Committee on October 22 to present some of the proposal. It concentrates on "large, inter-connected firms", that is, those widely thought to be "too big to fail". The plan includes new, strengthened capital requirements to undergird their business during downturns and prescriptions for holdings of truly liquid, marketable assets to cover short-term market gyrations. You might recall that during the most chaotic periods last year regular financial business dealings were disrupted when one firm's failure or weakness led to even magnified reactions in other companies and markets. One significant consequence was that government somewhat arbitrarily rescued some firms, but not others, and that only added to the chaos. Now that markets and conditions have settled out some, the Treasury, other officials and other observers – such as my professional economist colleagues who were gathered in St. Louis – want to try to set principles and enforceable rules that will govern such financial rescues. No one, Assistant Secretary Barr should ever conduct business under the presumption that they are "too big to fail". The new program even includes a mandate for specified firms to set up advance directives akin to a "living will" (his term) that set forth a way to shift management responsibilities and the firm's underlying financial structure in the event of some major failure.
Prudential Behavior for Everyone
If you are still with me, Good Reader, by this time you've read about potential fixes for messes arising from badly conceived consumer products and excessive executive pay, and you've read about predetermined ways to relieve management of their duties if their actions in the face of adverse market and business contingencies put their big firm, its associates and its customers, deep in hot water. This is indeed all very messy. We can make arguments both for and against each one of these proposals. Bankers and the Chamber of Commerce argue in one direction; consumer rights organizations in another. Democrats one way, Republicans another. However, we also want to make one more point that takes a step back and looks at these issues from outside. The need for all of them comes because people over-reached or were dishonest or behaved in bad faith or were disrespectful. Much of the trouble came not because consumers were cheated or had fees raised on their accounts, but because they borrowed too much to begin with. Further, other participants in these affairs didn't pay enough attention when there was a lot at stake, they didn't ask questions or they committed lots of their own assets to questionable enterprises or they presumed that their fancy mathematical formula would always work to produce a completely predictable outcome. Some of these people held or hold positions of public trust or quasi-public trust. We all – managers, government officials, consumers – need to be responsible.
Mr. Barr's testimony uses the word "prudential" several times; he wants the new regulations to highlight and encourage prudential behavior. Exactly. Back in February, we talked here about some scandals and we illustrated with the story from the Book of Acts about Ananias. There might be government officials, as well as private citizens, named Ananias. The best remedy for all of this is for all of us to be prudential and take care with our own affairs and treat others with respect. This sounds a bit like the Golden Rule, doesn't it? These are the kinds of issues, it occurs to me, that churches can work on, right with the people in their own pews. Long-term financial fixes can start right there, with a bunch of Christians thinking of themselves and their friends and colleagues in terms of Jesus' lessons.
Labels: Financial Markets, Government Policies
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