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Washington’s Bear Hunt

From all the action coming out of the nation’s capital today, you’d almost think the various government entities in Washington coordinated efforts against the oil, dollar, and housing bears. Almost.

First, it was crude oil. Senate Democrats, led by Senators Byron Dorgan and Harry Reid, rolled out the “Stop Excessive Speculation Act” to scare off oil speculators, who they blame for high prices.

Crude for August delivery, scheduled to expire Tuesday, dropped $3.09, or 2.3%, to settle at $127.95 a barrel on the New York Mercantile Exchange, the lowest close since June 5.

Ironically, later in the day a task force chaired by the Commodities Futures Trading Commission (the agency assigned with investigating/punishing speculators in the bill) found that fundamental supply-and-demand factors, rather than speculators (as the politicians claimed), were most likely to blame for the high prices. Doh!

Next, dollar bears were targeted. Reuters reported:

The dollar rallied Tuesday, after a Federal Reserve official suggested that U.S. rates may have to rise to stem inflation and a top Treasury official repeated that a strong currency is in the interest of the country.

Treasury Secretary Henry Paulson reiterated on Tuesday that a strong dollar is important to U.S. interests and the underlying strength of the economy, as well as policies aimed at shoring up confidence, would be reflected in currency markets. At the same time, Philadelphia Fed President Charles Plosser said rising inflation could force the Fed to start raising interest rates even before labor and financial markets recover.

Gold for August delivery dropped $15.20 to end at $948.50 an ounce on the New York Mercantile Exchange.

Rising interest rates? Strong dollar policy? Looks a lot like jawboning to me. But don’t take my word for it. On July 15, Reuters ran a piece about legendary investor George Soros. From the interview:

All told, Soros said Ben Bernanke, chairman of the Federal Reserve, is in a bind.

“When he recognized the seriousness of the credit crisis, he acted very radically lowering interest rates and he used the tools that are at his disposal,” Soros said. However, now the “armory” is depleted, he said adding that Bernanke can’t lower interest rates because of the effect it would have on the dollar and he can’t raise interest rates because of the looming recession. Soros said.

“Therefore, his options are limited — he is boxed in.”

And how many times have we heard about this supposed “strong dollar policy” of ours? Actions speak louder than words, right? Back on March 17, Soros’ former partner, Jim Rogers, said during a Bloomberg Television interview:

Now, please, do we even bother reporting that anymore? Poor Hank Paulson, had a reasonable education, and a reasonably-good career, head of Goldman Sachs, now he goes around the world making a fool out of himself. Goes around saying we want a strong dollar, the next day he goes to China and says we want a weak dollar, and then he goes to Japan and says we want a weak dollar. I mean, you have to feel sorry for the guy. At least, I do.

Finally, it was housing naysayers who fell under the gun. From the CNBC website this afternoon:

Treasury Secretary Henry Paulson said America’s housing market could turn a corner and begin recovering within months, but it will take longer to resolve all housing-related problems.

“Obviously, it will go on beyond months with some of the issues in the housing market, but I believe we can get to the point within months where we turn the corner on housing,” Paulson said in a televised interview with Fox Business Network.

Sound familiar to anyone? From my post “Paulson Weighs In On Housing” from July 2, 2007:

Today, U.S. Treasury Secretary Henry Paulson spoke to Reuters about a number of economic issues, including housing. Paulson said the U.S. economy is healthy, despite problems with the subprime mortgage sector. The former chairman of Goldman Sachs stated that the downturn in the housing market is “at or near the bottom. It’s had a significant impact on the economy. No one is forecasting when, with any degree of clarity, that the upturn is going to come other than it’s at or near the bottom.” Beyond subprime mortgage woes, Paulson declared that the financial markets looked sound. He said, “Markets are volatile. I haven’t seen a single thing that surprises me – it’s hard to surprise me.”

DJIA down 1,933 points since then, S&P 500 down 243 points, global credit crunch, $453 billion of write-downs, Bear Stearns, IndyMac, Fannie Mae, Freddie Mac… surprise!

Sources:

“Dollar Jumps on Paulson, Plosser Comments”
Reuters, July 22, 2008

“Soros says Fannie, Freddie crisis not the last”
Jennifer Ablan
Reuters, July 15, 2008

Jim Rogers Interview
Bloomberg News Video
Bloomberg, March 17, 2008

“Paulson: Housing Market Could Turn Corner Soon”
CNBC, July 22, 2008

Weekend Videos

Just got back to blogging late Friday evening. Had to entertain my relatives from Canada who are in. Like the Irish a couple of weeks ago, they shopped liked it was Christmas in July to take advantage of the weaker dollar. I know one thing for sure. Foreigners sure love our “strong dollar” policy…

“Oil Crisis”
Becky Quick
CNBC, July 18, 2008

From the CNBC website:

The House may vote on releasing oil from the strategic petroleum reserve, with Senate Majority Leader Harry Reid and CNBC’s Becky Quick.

You can view the 3 minute 18 second video here.

Note to Congress- there is no quick-fix for the energy crisis. I’m starting to consider donating funds to Jim Puplava’s proposed program, “No Congressman Left Behind.”

Apparently, it’s a non-issue now anyway, seeing that after oil prices suffered their biggest weekly drop ever, Yahoo! Finance asks tonight, “So is it time to declare the energy bubble popped?” By the way, the Associated Press is reporting that terrorists are trying to enter the United States with European Union passports. Good thing Congress wants to deplete oil stockpiles meant for a national emergency. Like a major terrorist attack, for example. If you think 9/11 was a one-off event, I have a bridge that spans the East River out in NYC that I can sell you for a really good price…

“Is government clueless about economy”
Jim Jubak
MSN Money, July 18, 2008

From the MSN Money website:

Washington is talking us into a deeper crisis. Neither the President nor Congress gets it: When you owe as much as the US does, keeping your overseas creditors happy is the most important thing, says Jim Jubak.

You can view the 4 minute 7 second video here.

Jubak said in the segment:

The Saudi government has gone into serious discussions about taking its currency off the dollar peg.

“Christmas In July”
The Dandy Warhols, “Little Drummer Boy” (1995)
YouTube Video Link

ARM Resets Hit Peak

Well, it seemed like a good idea at the time. During the summers of 2005 and 2006, wannabe homeowners opted for adjustable-rate mortgages with smaller initial payments scheduled to reset two to three years out. Now those ARMs are resetting, and many are watching to see if higher monthly payments will add more stress to an already troubled housing market in the United States. The Washington Post’s Renae Merle wrote in the Chicago Tribune yesterday:

The number of homeowners facing an increase in their subprime adjustable-rate mortgage payments will peak this summer, testing the efforts of lenders and others to keep those people out of foreclosure and stabilize the housing market.

The timing reflects the height of subprime lending in the summers of 2005 and 2006, when many borrowers secured loans scheduled to adjust in two or three years. For many, an adjustment means their interest rate will go up 2 to 3 percentage points.

Photo by svilen001, stock.xchng

Mark Fleming, chief economist for research firm First American CoreLogic told Merle:

The next six months, the industry, all of the folks that are out there trying to solve this problem, they are going to be very busy. There are a lot of people facing their resets right now. A good share of them don’t have the refinance option.

Merle noted that more than 300,000 such loans will adjust this summer. She wrote:

Lenders, federal officials and housing counselors have worried that borrowers will not be able to afford the higher payments after the reset and will quickly fall into foreclosure. Declining home prices have made it impossible for many of these homeowners to refinance.

It will not be clear for months how many will lose their homes, Fleming said. “A lot of those are resetting now,” he said. “We may not see the impact in foreclosures until the middle of 2009.”

RealtyTrac, an online marketer of foreclosed properties, told CNN Money last week that during the first six months of 2008, 343,159 Americans lost their homes, up 136% from 145,696 recorded during the same period in 2007.

Sources:

“ARM resets to hit peak this summer”
Renae Merle
Chicago Tribune/Washington Post, July 13, 2008

“Six months, 343,000 lost homes”
Les Christie
CNN Money, July 10, 2008

Merrill Lynch, Morgan Stanley Issue Recession Warnings

At a conference yesterday in Singapore, New York City-based financial services giant Merrill Lynch warned the U.S. economy is in a recession that will become more apparent as the year drags on. According to Channel NewsAsia yesterday:

Merrill Lynch said the world’s largest economy is already in a recession, and it expects to see a prolonged L-shaped recovery. This means the US may take a longer time to emerge from the economic doldrums….

Merrill Lynch said a key indicator of a recession is a slump in the housing market. It added that it expects the housing market in the US will see another 15-20 percent downside.

Staff from the firm said that government efforts to provide stimulus to the economy will only temporarily stem a fall in consumer spending, according to Reuters’ Kevin Lim. Merrill Lynch’s North American economist David Rosenberg told conference attendees yesterday:

I still maintain the business cycle is bigger than the government.

Rosenberg also predicted inflation in the United States would slow as consumer spending weakens, and that the Federal Reserve would cut interest rates to fight the recession. The economist warned:

No asset class security is priced today for a recession scenario.

Adding their two cents, economists from Morgan Stanley are concerned that the recession in the United States could rival the “the big five,” according to David Gaffen from the Wall Street Journal’s Market Beat blog today. Gaffen explained the “big five” were large-scale financial crises that resulted in a long-term underperformance in the respective economies. He wrote:

The long-term declines the firm looks at includes Spain in 1977 and Norway in 1987, and most recently Japan in 1992 – which they define as the worst, resulting in Japan’s so-called lost decade. Whether the current U.S. economic decline matches one of these situations, or looks more like the recent U.S. recessions “holds the key for risky asset prices,” they write.

However, Morgan Stanley economists do not agree with their Merrill Lynch counterparts when it comes to the topic of inflation. From the Market Beat post:

Morgan Stanley economists say that in this instance, inflation may not automatically recede as U.S. growth recedes. They say as a result that bonds may sell off if growth recovers in the U.S. and monetary policy remains loose, fueling price gains… “We believe that the Fed’s focus on keeping the financial crisis from sending the economy down the path of the Big Five will succeed, but lower rates and surging money growth will spill over into inflation. Bond yields are likely to follow inflation higher,” they write.

Sources:

“Merill Lynch says US in recession, but Asia to remain strong on consumer spending”
Channel NewsAsia (Singapore), May 14, 2008

“Tax rebate won’t stem U.S. recession: Merrill”
Kevin Lim
Reuters, May 14, 2008

“Regular Recession, or a Larger Disaster?”
David Gaffen
Wall Street Journal (Market Beat blog), May 15, 2008

As If One ‘W’ Isn’t Enough

Yesterday, a senior official in the U.S. Treasury Department said the U.S. economy could improve slightly in the second half of 2008, and that there are some encouraging signs in the credit markets. David McCormick, Under Secretary for International Affairs, said the improvement would be due to a fiscal stimulus of $150 billion, which would help create 500,000 new jobs this year.

The United States has been busy trying to fight off an economic slowdown. Reuters’ Surojit Gupta and Rajkumar Ray wrote yesterday:

To counter the problems faced by the world’s largest economy, the Federal Reserve has cut its benchmark interest rate by 300 basis points since September and is expected to cut the Fed funds rate further at its meeting next week.

It has also provided billion of dollars in liquid funds to near-frozen markets and stepped in to prevent the collapse of investment bank Bear Stearns.

Meanwhile, under a Federal Government fiscal stimulus program, 130 million Americans will receive tax rebates this year and in 2009.

Because of these measures, McCormick said:

We will begin to see a slight improvement in the back half of 2008 and obviously carry that momentum in 2009. But make no mistake, a very challenging time for the economy.

Challenging, indeed. Last week, the head of a U.S. business group warned the world’s largest economy may see a “double dip” recession if stimulus efforts by the Federal Reserve and U.S. government fail to take hold. According to the Agence France-Presse on April 17, Harold McGraw, the head of publishing giant McGraw-Hill and chairman of the Business Roundtable (which represents chief executive officers of leading American companies), said:

If, after the economic stimulus package takes effect and we get into (20)09, and the … lower interest rates do not kick in, there is a probability of (a) double-dip recession…

A growing number of economists and analysts fear that the U.S. economy might slip into a recession, then back again after a brief recovery, in a W-shaped “double-dip” recession.

Source: Children Of The World

The French news agency also reported that McGraw, who was in Tokyo for a one-day business summit with business leaders from the Group of Eight (G8) nations, warned that the credit crunch would continue until the end of this year. He said:

I think it will take the rest of this year to unwind but I think it will. It turned (out) to be bigger and broader and deeper than we thought.

Sources:

“Economy seen improving in second half of ‘08”
Surojit Gupta, Rajkumar Ray
Reuters, April 24, 2008

“US business leader warns of ‘double dip’ recession”
Agence France-Presse, April 17, 2008

NBER’s Feldstein Says U.S. In Recession

Back on March 18, I wrote that Martin Feldstein, a Harvard economics professor, former Reagan advisor, and president of the National Bureau of Economic Research (which determines the dates of a recession), said the United States is in a recession that could be “substantially more severe” than recent ones. Earlier today, Dr. Feldstein told Alexis Glick of FOX Business in an interview that “My personal view is we are now in a recession.” According to FOX’s Ken Sweet, Feldstein believes the economy peaked in December, and “all the economic indicators now are pointing toward a downturn.”

Sweet wrote:

Feldstein said the housing market led the economy into a recession, which he believes “will not turn around any time soon.”

Feldstein also said he believes the Federal Reserve should not cut the interest rates any more because it would add to the risk of an out-of-control inflation rate.

“I don’t believe the Feds tools work like they did in the past,” he said. “The lower interest rate is bringing inflation higher. I don’t believe we need any more reductions.”

Source:

“NBER President: We are in a Recession”
Ken Sweet
FOXBusiness, April 16, 2008

WSJ Survey: U.S. Economy In Recession, Further To Fall

The Wall Street Journal’s Phil Izzo talked about the latest Journal forecasting survey of 55 economists. Izzo wrote:

The weakening U.S. economy has further to fall, according to the majority of economists in the latest Wall Street Journal forecasting survey.

By a 3-to-1 margin, respondents said the economy is in a recession, and almost three quarters said the economy hasn’t yet hit bottom.

Highlights from the survey included:

• Fed Chairman Ben Bernanke’s approval rating rose slightly to 78 out of 100 from a 75 in February, which was the last time the question was asked.
• U.S. Treasury Secretary Henry Paulson’s rating fell a point to 73 from 74 in February.
• When asked what the biggest downside risk was to their forecasts, 35% of the economists said it was further deterioration in the credit markets, 25% said it was a sharp drop-off in consumer spending, and 13% said it was continued housing weakness.
• The survey group expects the economy to shed 1,625 jobs a month, on average, over the next year.
• They unemployment rate, now 5.1%, is expected to rise to 5.6% by December.
• Just 21% of economists predict home prices will reach a bottom this year. 67% see the bottom in 2009, and 12% say it won’t be until 2010.
• While most of those polled say the U.S. economy hasn’t hit a bottom yet, they expect gross domestic product to expand, on average, by 0.2% in the first quarter and 0.1% in the second, followed by a 2.1% increase in the third quarter.
• The group expects the Federal Reserve to cut its benchmark federal funds rate by another half-percentage point by June, then keep rates unchanged for the remainder of 2008.

Source:

“Economy Has Further to Fall, According to Economists’ Survey”
Phil Izzo
Wall Street Journal, April 10, 2008

Next Stop, Depression?

Back on March 29, ABC News’ David R. Francis talked about the economic forecast of Robert Parks, a finance professor at Pace University and former chief economist at three Wall Street firms. So, what’s so special about Parks that ABC News would be covering him? According to Francis, Parks is predicting that there is more than a 60% chance the United States will enter into an economic depression.

Even though the Federal Reserve has been cutting interest rates to stimulate the economy, Francis wrote:

Mr. Parks, however, doubts the cuts will do much to boost the economy. Rather, he sees a further steep fall in housing prices, continued major deficits in the federal budget and in the international trade balance, a tumbling dollar, and a weak stock market leading to a genuine depression with 30 to 35 percent unemployment, greater poverty, more loss of homes, plunging bond and stock prices, even some starvation.

Mother and child during Great Depression

Source: FDR Presidential Library & Museum

He also noted that Parks says he has never predicted a depression before.

The economist thinks that it’s a mistake to rely on money supply growth to help alleviate present economic conditions. Francis wrote:

As Parks sees it, Washington and Wall Street are mostly counting on Fed additions to the money supply to revive the free market and right the economy.

“Automatic recovery is in no way a reliable concept,” he warns, especially if deflation (falling prices) has begun. He recalls warning of the economic damage that the bursting real estate and stock market bubbles would wreak in Japan: That nation suffered stagnation from 1990 to 2001.

Source:

“Are We Heading Into a Depression?”
David R. Francis
ABC News, March 29, 2008

Forget Tomorrow, It’s A Hard Knock Life

The following headlines appear on a financial news website this afternoon:

• “As Stocks Rally, What Should You Buy?”
• “A Dollar Rebound? Assume A Best-Scenario”
• “It’s a Good Time to Buy Your First Home”
• “Is the Financial Crisis Over? Some Believe It May Be”

Spring is in the air, and with it, a renewed sense of optimism for the U.S. economy despite the fundamental problems which plague it. Reflecting this upbeat mood, CNN Money reported last Friday that a national CNN/Opinion Research Corp. poll found that 60% of respondents think economic conditions in the United States will be “good” in 2009. Of the more than 1,000 American adults surveyed from March 14-16:

• 83% are “confident” they will maintain their standards of living in 2009.
• 85% are “confident” they will keep their jobs over the next 6 months.
• 90% are “confident” they will be able to meet their monthly mortgage payments for the length of the loan.

Wachovia economist Sam Bullard told CNN Money’s David Goldman:

Most people realize that the economy has cycles of ups and downs. Fortunately, the last two recessions were some of the shortest on record, so in 2009 we should be pulling up out of this… The Fed’s rate cuts will start to take their toll later this year, and the economy should bounce back by the end of 2008.

…so the optimists say.

The pessimist complains about the wind; the optimist expects it to change; the realist adjusts the sails.

-William Arthur Ward (American writer. 1921-1994)

Personally, I prefer pessimists over optimists. You can’t win with pessimists, but at least they sometimes have a “Plan B” ready to go in case of emergency. Optimists, on the other hand, are usually lax in their planning and are more often than not helpless during and after a crisis. Think “bailout.” They sing “Tomorrow” when the situation really calls for “It’s A Hard Knock Life.”

YouTube Video Link

As a realist, my conclusions are based on evidence rather than hopes and fears. The fact is, my research does not show any halt in the deterioration of the U.S. economy. Yet, that’s not to say economic stimulus efforts won’t pay off— at least in the short-term. By then, the risk may be that Washington runs out of “magic bullets.” I’m not the only one who thinks this. Referring to last week’s action by the Federal Reserve to decrease the federal funds rate to 2.25% amidst a 19.7% drop in the S&P 500 Index since its October high, legendary investor Jim Rogers told Bloomberg last week:

What are they going to do when it’s down 30 percent or 40 percent or 50 percent? They’re not going to have any bullets left. They’re not going to be able to solve the problems at that point.

David Gaffen from the Wall Street Journal’s MarketBeat Blog wrote last week:

In fact, some believe the Fed’s move Tuesday was a compromise — a 0.75 percentage point cut instead of a full point in order to “save some bullets in its arsenal in case the market and macro backdrop deteriorate further,” writes David Rosenberg, chief North American economist at Merrill Lynch.

And what will happen should the Fed run out of ammo, or if it proves ineffective? Possibly a double-dip recession like in the early 1980s, according to Lehman Brothers analysts. Reuters’ Richard Leong wrote last Thursday:

The persistent slump in housing will continue to drag on consumers and growth while tight credit conditions, a weakening job market and record energy costs are also taking a toll on the economy, according to economists at the bank…

Lehman economists predicted the U.S. economy will contract 0.5 percent in the first quarter and 1.0 percent in the second quarter, followed by a rebound in the second half. “We expect a feeble recovery in 2009, with the economy threatening to fall back into recession,” Lehman economists Michelle Meyer and Ethan Harris wrote in a research report.

Sources:

“Americans confident in 2009 turnaround”
David Goldman
CNN Money, March 21, 2008

“‘Big Rally’ for Stocks to Continue, Jim Rogers Says (Update2)”
Carol Massar, Eric Martin
Bloomberg, March 19, 2008

“Is the Fed Running Out of Ammo?”
David Gaffen
Wall Street Journal (MarketBeat Blog), March 19, 2008

“Lehman sees risk of double-dip U.S. recession”
Richard Leong
Reuters, March 20, 2008

The Failing Fed

Following through on a recommendation yesterday, I read the post “5 Reasons Why the Federal Reserve is a Failure!” from Bankaholic.com. It’s a great piece (especially the part about the Fed awarding gold stars to those deserving detentions), and I think you’ll enjoy reading it over the Easter weekend. Having obtained permission to re-post it, here is the article in its entirety:

No single quasi-private institution has as much influence on the worldwide economy as the Fed, and as a leader can head this institution for an indefinite term, no one man is as influential on the markets as the Fed Chair.

The Dollar has plummeted in the currency markets and shows few signs of recovery or even stabilization. The new style and policies that accompanied Bernanke into office have made the Forex markets more volatile than ever and even more difficult to predict. An examination of what has gone awry can help Forex traders understand this new era at the Fed.

1. The Fed ignored the signs
The Fed has stated that it will never act as a regulator in any financial market, but it has the duty to use its influence for reform when it sees signs of consumer exploitation. Since as early as 2001, at least two senior officials inside the Fed urged its board to call for tighter regulations in the housing markets, especially in abuses that were clearly evident in the handling subprime mortgages. At the time, the White House was singing the praises of America’s new society of ownership, so the Fed took this cue and did nothing.

These deceptive loans were making possible the dream of home ownership to millions of Americans, even to those who could not come close to affording it. Now these same Americans are living through a nightmare of foreclosure and debt, much in thanks to the Fed’s willingness to ignore long-term repercussions and revel in immediate accomplishments, no matter how hollow and transitory they might be.

2. The Fed did too little too late
Other than advocating for reform, the Fed should have fully committed to a strategy of lowering target interest rates. Instead, Bernanke procrastinated, and when he did finally announce a cut, it was insufficient and ineffectual, at best. On December 11th, the Fed dropped its benchmark rate by a quarter of a percent rather than the half of a percent that had been called for by analysts and investors. Wall Street promptly responded, as the Dow plummeted nearly 300 points in one day.

The Fed might argue that this cut was prudent and that a more drastic cut would have unnecessarily fueled a rise in inflation. However, many view the Fed’s temerity in this matter as merely an extension of its inertial proclivity towards inaction.

3. The Fed kept interest rates too low for too long
Though this may seem to contradict the statements above, one of the reasons that the Fed might have hesitated in cutting rates is that they were already too low to begin with. Greenspan’s long tenure at the Fed was defined by a tendency to aggressively cut interest rates, which he began to do frequently in 1987 after the drastic correction in the stock market.

This initial move helped stave off disaster, but the further rate cuts of the late 1990s eventually led to the dot-com bubble. Rates should have been raised again in the early 2000s; if this had been done, the US might have avoided the furious borrowing that has led to the current credit crunch.

4. The Fed’s view of inflation is flawed
The Fed seems rather befuddled by this important economic indicator. The soaring costs of food and energy are a phenomenon is the US and worldwide, but the Fed does not take these developments into account.

The Fed’s analysis focuses on “core inflation,” which excludes a number of indices that it views as transitory, including energy and food costs. “Headline inflation,” which does take these costs into account, is favored by European economists, who view high energy prices as a long-term trend. By choosing to disregard the rising costs of a barrel of crude oil and a bottle of olive oil, the Fed is ignoring reality.

5. The Fed gives gold stars to those deserving detentions
Fed policy following the recent economic slowdown has done nothing but reward those who helped caused it. The majority of financial stocks have suffered of late, and justifiably so. However, the Fed seems dedicated to bailing out even the worst of the perpetrators with the recent set of economic interventions that it has enacted.

While working to eliminate any downturn in the market might seem feasible for short-term success, it is a purely shortsighted endeavor that will hurt the economy in the long run. In order for a free market to truly exist, bear markets must coexist peacefully with bull markets. Unfortunately, the Fed has its bright orange vest on and is going bear hunting. This is a doomed outing, and one that is going to get us all hurt in the end.

Source:

“5 Reasons Why the Federal Reserve is a Failure!”
Bankaholic.com, March 15, 2008

French Bank: 1% Fed Fund Rate And Recession Until Mid 2009 For U.S.

MoneyControl.com (India) is reporting today that according to a CNBC-TV18 interview with Glenn Maguire, Chief Economist at Société Générale, the French bank sees the Federal Reserve lowering interest rates to 1% and a U.S. recession lasting until the middle of 2009. From the financial portal:

Q: Where do we go from here with the Fed policy?
A: At this stage when we look at the US Federal Reserve, they have moved from an environment where they were balancing inflation risk against growth risk earlier this year. They were clearly balancing inflation risk against systemic financial break down. So obviously inflation risk pales in comparison to that. Fed is likely to continue to ease aggressively and adopt creative policy from here. We would be looking for further moves to boost liquidity provision in the markets. There would be reduction in the Fed fund rates to around 1% by the middle of this year.

Q: What do you expect to hear next in terms of economic data?
A: Economic data will move to a much softer track. We are still in a situation where we are moving from financial stresses into real economic weakness. The recession in US now seems to be assured. The recession is likely to prolong and will be a consumer led recession. We expect the recession to probably remain in place till the middle of 2009. We are moving into a period of protracted and pronounced weakness in the US economy.

Source:

“US recession to prolong until mid-2009: Soc Gen”
MoneyControl.com (India), March 19, 2008

Charting A U.S. Financial Crisis

I came across some excellent Wall Street Journal charts this morning which show how the present financial crisis in the United States came to be. Like that old saying goes, “A picture is worth a thousand words.”

Sources: WSJ Market Data Group, Federal Reserve, Dealogic, Equifax, Moody’s Economy.com, National Association of Realtors, St. Louis Federal Reserve, Dow Jones Indexes

Article Source:

“U.S. Mulls Next Steps in Crisis”
Bob Davis, Greg Ip, and Damian Paletta
Wall Street Journal, March 18, 2008

Fed Official Says Economy Similar To Aftermath Of Nineties’ Recession

This morning, CNN Money reported that Gary Stern, the head of the Minneapolis Federal Reserve, said in a speech last Friday in Minneapolis that the slumping U.S. economy is reminiscent of the aftermath of the 1990-1991 recession. The regional Fed president said that current excesses in residential construction, the housing market decline, and a credit crunch all resemble the post-recessionary environment of 17 years ago. If that is the case, CNN Money said, “the economy may be in a slump for some time.” Stern told the news service that:

While such an environment will not be permanent, it could well persist for an extended period. If credit is in fact restricted by some institutions and in some markets, it will likely take time for potential borrowers to find alternatives and substitutes.

While some economists have suggested the U.S. economy requires a boost through additional interest rate cuts, Stern is not so sure this is prudent. The Fed official said that the while the recent rate cuts may have represented good policy decisions at the time, he acknowledges such actions tend to weaken the value of the dollar, and thinks the Fed needs to be cautious in the future. Stern, who sits on the rate-setting Federal Open Market Committee, said:

Given the consensus that in the long run price stability represents the most significant contribution monetary policy can make to attaining high employment, it is essential that we conduct policy with this objective in mind, and I have no doubt that we will.

Merrill Lynch, Morgan Stanley Talk Recession

Last night Reuters reported that despite U.S. monetary policy easing, equity and credit markets are suggesting it’s too late to avoid a recession, according to economists at Morgan Stanley. Analysts Luca Bindelli and Stephen Jen said in a research report that those markets suggest:

…it is too late to avoid the inevitable. Indeed, the new senior loan officer survey (from the Federal Reserve) marks a further deterioration in credit conditions, and equity market performance has continued its descent.

Bindelli and Jen warned:

Our preferred model now implies a risk of U.S. recession of 71 percent in the coming 12 months.

The increased recession risk is due to a further decline in equity market performance, a Fed senior loan officer survey suggesting increased tightening of credit conditions in the coming quarter, a “drying up” of the commercial paper outstanding market, and a widening of the credit spread, the Morgan Stanley analysts said. As such, these developments “more than compensated” for the Fed’s interest rate cuts and three-month to 10-year spread.

It should be noted that the last the 50 basis point Fed interest rate cut on January 30 to 3% “is not entirely accounted for” in the model estimates, since the model accounts for financial market developments until the end of January.

Back on December 20, 2007, I wrote that the Toronto-based Globe and Mail said that a Merrill Lynch recession probability indicator, the Cyclical Pulse Index, was pointing to a “painful and pronounced downturn next year” for the U.S. economy. From that post:

According to the Globe, Merrill Lynch uses the U.S. National Bureau of Economic Research’s definition of recession, which is a significant decline in economic activity lasting more than a few months and evident across economic measures including GDP, employment, and retail sales. Their recession probability indicator looks at a combination of the yield curve and corporate spreads, and is now signaling that there is a 100% probability that a U.S. recession will take place within the next 12 months. David Rosenberg, Merrill’s North American economist, warns, “Clients should be taking recession risks very seriously.” The odds have grown since October, when the indicator was at 75%. Only this past summer did the tool show no threat of recession.

Today the Canadian publication wrote that Rosenberg updated his Cyclical Pulse Index yesterday, which now plainly illustrates that the United States is in a recession. According to David Berman of the Globe and Mail:

Since the index uses a proprietary model that remains under wraps, you have to take Mr. Rosenberg’s word for it that the data that go into it make more sense than, say, the Super Bowl indicator.

That said, the index has a good track record: When it dips below the zero line (whatever that is) or falls an average of 0.7 percentage points from peak to trough (whatever those are), you can pretty much count on a recession. Right now, the index has triggered both requirements for a recession.

Yet, there are still quite a few economists who aren’t sold on the idea of a recession. The latest Wall Street Journal forecasting survey of 52 economists put the odds of a U.S. recession, on average, at 49%, up from 40% in the January survey and 23% in June. Something I found interesting, however, was that if a recession does materialize, survey respondents gave 39% odds that it will be worse than the past two recessions. The idea that a coming recession would be more painful than previous ones was echoed by the director of the Reuters/University of Michigan consumer sentiment survey earlier today, according to Reuters. The University’s Richard Curtin said the U.S. economy has entered a recession which will be more painful and drawn out than the usual downturn. Citing data from industry group The Conference Board, Curtin said inflation pressures will linger despite a decline in consumer spending, complicating the task of policymakers. He warned:

This is no ordinary recession. The after effects will last much longer than the typical downturn.

The economist added that the Conference Board’s expectations index, which is a strong predictor of economic contractions, is currently flashing red. Furthermore, with Americans getting hit with everything from a housing downturn to excess borrowing, Curtin implied things will get worse before they get better.