April 8, 2008 | posted by Michael Baxter in US economy, credit crunch | comments (3) |

Oh dear, oh dear.    Recession talk has been doing the rounds again. Now the IMF, yes it’s them again, have said there is a 25 per cent chance of global recession

The IMF has also been busy downgrading its forecasts. Not so long ago, well last July to be precise, it was predicting global growth this year of 5.2 per cent.  The official figures will be out in a  few days but, according to Bloomberg, the IMF is now pencilling in growth of 3.7 per cent.

Meanwhile, a debate is roaring over whether the economy is set for a mild slow-down, or something much worse. Yet curiously, while there are plenty of economists who are ridiculing comparisons with the 1930s, there seem to be very few reports which actually provide real justification for hope.  Actually, cut through all the doom, we believe that after an unpleasant 2009, and who knows maybe 2010, there are good reasons for optimism.   Reasons which seem to get overlooked by many economists, preoccupied as they are with interest rates and confidence surveys.

But before we explain what this real reason for hope is, here is the latest stage in the debate in a nutshell.

Yesterday, writing in The Times, Anatole Kaletsky, the only contemporary economics journalist we are aware of who is referred to in economic text books, outlined a list of reasons why he believed the US was not in recession.  His core argument was that while jobless figures are down, they are not down that much, that the imminent tax rebate in the US will give a big boost to consumers, that some indices, namely, purchasing managers’ indices, the industrial production figures and the quarterly consumption statistics are still quite good, and that in any case history tells us recession does not automatically follow financial crisis – and to support this argument he mentioned the stock market crash of 1987, and LTCM in 1998.

It was as if Mr Kaletsky had opened a can of worms. And even Capital Economics, not a group which usually responds to articles by journalists, issued a strong rebuttal of his arguments.

“Private sector payrolls,” said Julian Jessop, Chief International Economist at Capital Economics, “have fallen by an average of close to 100,000 over the past three months and have never dropped at this pace without going on to record average monthly declines of at least 200,000. Even if the latest jobs data are not bad enough to send an unambiguous recession signal, the downward trend is clear.”

It went on to add that the current financial crisis is much more serious than ones Mr Anatole Kaletsky described in the past, while it argues low consumer confidence will mean much of the tax rebate which will be winging its way to households soon, will be saved, and not spent.

But perhaps one of the key arguments relates to US house prices.  And at this point we would like to call to the dock another witness.

Yesterday, Alan Greenspan, who once said he would keep a back seat when he retired so as not to undermine Ben Bernnanke, has said he believes US house prices will stabilise later this year.

The interesting thing about US house prices is that, as a ratio to income, they are already below the historical average. According to the IMF, US house prices are about 10 per cent too high, but that is quite modest compared to Ireland – where they are over 30 per cent too high.  Furthermore, the IMF has the gap between house prices and what they should be higher in the Netherlands, the UK, Australia, France, Norway, Denmark Belgium, Sweden, Italy and Japan.

The point is, US house prices are set to continue to fall – inventory levels are so high that it appears there is no avoiding this.  But, sooner or later, US houses will look cheap.  Will that spark a new boom, or instead, will prices keep falling?    We all know that equity markets tend to overcorrect.  Will the US housing market do the same?

But Greenspan reckons the inventory will be eliminated by the end of this year, and that is when prices will rise.  Actually, in his book, Age of Turbulence, Greenspan rattled on about inventory over and over again – he obviously sees this as an important guide.

Looking further forward, the danger now really has to be that authorities will overreact.

In 1930, the US government introduced the Hawley-Smoot Tariff, which raised tariffs on over 20,000 US goods. Many say this made the depression of that era much worse.

The fear has to be that many US politicians, Hilary Clinton in their vanguard, are calling for protection of US jobs.  She has popular support for this idea too, and yet such action could lead to retaliatory action, and create a downward spiral.  This has to be the really dangerous threat to longer-term economic stability.

But, the reason for hope is this:  Technology.

Moore’s law continues to operate, and now technology in other fields is changing fast – generating energy through renewable means is becoming more efficient, our knowledge of DNA is close to throwing up new and truly mind-blowing changes.

That is why the current crisis is not like the 1930s.  The Internet provides a means of global communication which will probably make a shot-in-the-foot-type move, such as a modern Hawley-Smoot, unthinkable.

January 25, 2008 | posted by Michael Baxter in US economy, credit crunch | comments (1) |

Despite it all, despite the holes that have been appearing in bank balance sheets, somehow it appears they have pulled it off. Well, at least they are trying. A few days ago, markets across the world were panicking, because fears were growing that the insurers who have been offering insurance against some of this nasty debt floating around the system, were themselves in trouble.

Really, there was no surprise in this revelation. Financial crises are a lot like dominos. Back in 1997 and 1998 we saw the dominos fall, first with the East Asia crisis, then the Russian credit crisis, and then the collapse of LTCM – each problem created the next. At the time, it seemed as if the world would fall into recession – but no, somehow the IMF, the Fed and then a Fed-inspired collective action by the banks to bail out Long Term Capital Management managed to save the day, and the economic growth continued.

That’s why many of the more-optimistic types feel that this time around, the crisis won’t be too bad.

Well this time, memories of the banks’ bail-out of LTCM were brought back when it emerged that the New York State insurance regulator is trying to get leading US banks to cough up around $15bn to stop the debt insurers hitting more serious problems.

It’s a case of the insured trying to help the insurers, so that the insurers can still afford to pay the insured bills. Try that next time your car has a prang. Invest some money into your insurance company before you ask them to pay up. Mind you, with the total level of cover being offered coming in at around $2.5 trillion of bonds, that $15bn won’t go very far if too many claims start coming in.

But then, the banks may be getting a little help from a billionaire. The first inkling that these insurers might have problems came when one of their number, Ambac, which insures around $555 billion worth of debt, had postponed plans to raise around $1bn worth of credit. Fitch Ratings promptly cut its rating – although only by one notch, and with that news, dismay hit Wall Street. Well, now the talk is that billionaire Wilbur Ross is looking to buy the insurer.

Then an even-bigger fish than Wilbur Ross got caught up in rumours. Now it has emerged that Warren Buffett himself is investing into the world’s biggest reinsurance company, Swiss Re.

So, that’s billionaires leaping in to the rescue, banks getting it together – no wonder the markets were so chuffed. In fact, yesterday, the FTSE 100 enjoyed its best day in five years.

But, alas, one must remain cynical. This crisis is worse than the LTCM debacle. Banks have enough problems shoring up their balance sheets as it is, without having to bail-out the insurers. Why, if things get much worse, some of the senior bankers might have to take a pay cut.

Efforts last autumn by the banks to pump liquidity into the markets turned out to be rather disappointing. And as Capital Economics said, “Such a rescue scheme would essentially involve the reshuffling of a diminishing pool of capital from one vulnerable part of the US financial system to another. The US banks are, of course, major holders of the bonds insured by the monolines. It would be more reassuring if the money came from elsewhere – such as a foreign Sovereign Wealth Fund, or some other institution which has been largely unaffected by the fall-out from the sub-prime crisis.”

But then, yesterday also saw news on the US housing market And it was bad, but if you squint your eyes, and look at it from a certain angle, you could say it was good.

The median price of existing homes in the US fell by 6 per cent last year, says the National Association of Realtors. That’s the first annual fall ever recorded. The median price of an existing home in the US is now $208,400. Furthermore, there was another sharp drop in the number of US existing home sales, which is now down to a 9-year low of 4.89m annualised.

But now squint. Turn the data on its side, shuffle it about a bit, and there, lurking in the corner, is the good news, because December also saw a reduction in the number of homes for sale. In fact, the fall in supply was greater than the fall in demand. Mind you, inventory levels are still way too high, so don’t get too excited.

A couple of years ago, one UK housing analyst said there was more chance of Elvis still being alive than there was of house prices crashing.

Well, right now, there is more chance of Frank Sinatra cropping up in Davos singing “I did it my way” than there is of seeing an imminent halt to the slide in US house prices.

PS
By the way, the small matter of £3.7bn disappearing from the French bank Société Générale is a good example of how one financial crisis can lead to another crisis. But at least in the case of this debacle, the bank’s loss is someone else’s gain. The money hasn’t gone from the system, it was gambled, meaning others picked up the gains. We will look at this in more depth next week.