Rate Watch #786 All I Have Is Humor

July 29, 2011
by Dick Lepre
 dicklepre@rpm-mtg.com
www.loanmine.com

Fundamentals

GDP

Advance 2ndQ2011 GDP is reported at +1.3%. See the BEA release at http://www.bea.gov/national/ This is worse that consensus and, in light of fiscal and monetary policy, downright dismal. Worse yet, this occurred after a 0.4% downward revision to 1stQ2011. The 1.3% gain is only after moving the target down 0.4%. Worse than that is that I used the word “worse” twice in the first 2 lines.

For me the heart of this report is this sentence: “Real personal consumption expenditures increased 0.1 percent in the second quarter, compared with an increase of 2.1 percent in the first.” Then there is this sentence about government spending, “Real federal government consumption expenditures and gross investment increased 2.2 percent in the second quarter, in contrast to a decrease of 9.4 percent in the first.”

A bit of good news is that final sales of domestic products increased 1.1% (annualized) in the quarter as contrasted to dead flat in the first quarter.

It may sound a bit extreme but I believe that the methodologies which BEA uses to produce the GDP report are suspect. What I mean is simply, “Why are they still adjusting GDP data from 2008?” We may be better served by being presented with the raw unadjusted data.

In any case the message remains the same: the consumer drives the economy and the consumer is unhappy, concerned about employment and overleverged. Not exactly motivation to run out and shop for anything other than antidepressants.

Interestingly, if we realize that the Consumer Metrics raw and near live index of online discretionary spending started a dramatic increase up last month we might think that 3rdQ2011 will see a jump in GDP. This assumes that the consumer does not get discouraged.

It is the consumer who will drive recovery. Expensive government fiscal policy and inflationary government monetary policy may be doing more harm then good.

Keep in mind that GDP = C (Consumer spending) +I (Investments) +G (Government Spending) +Exports– Imports. Later today or by tomorrow morning we will present a detailed breakdown of the various components.

Employment Cost Index

ECI – Quarter/Quarter change 0.7 %
ECI – Year/Year change 2.2 %

Consumer Sentiment

Sentiment Index – 63.7 Prior was 63.8

Chicago PMI

Business Barometer Index – 58.8
This is down but still indicative of growth.

Jobs

- Initial Jobless Claims 398,000
- 4-week moving average 413,750

This is the first time since April that Initial Claims have been under 400,000. This datum, while encouraging, needs to stay below 400,000. The fact is that there is an enormous number of lost jobs and it is going to take years to recover them - assuming that they can be recovered.

Lately, economists have been discussing how much of the current unemployment is cyclical and how much is structural. Cyclical unemployment results from business cycles. Structural unemployment results when there are jobs which do not match the skill of those seeking jobs. This is a Bloomberg piece in which Alan Krueger of Princeton University explains his thinking about how we should start looking at unemployment. Krueger's point is that when the 99 weeks of unemployment benefit expire at the end of this year we may see the unemployment rate fall because folks leave the workforce. He suggests that we should start looking at the employment-to-population ratio, or the share of the population that is employed.

Housing

MBA Mortgage Applications (week ending 7/22):

- Purchase Index - Week/Week Change -3.8 %
- Refinance Index - Week/Week Change -5.5 %
- Composite Index - Week/Week Change -5.0 %

The Purchase Index indicates that July home sales are likely to be weak.

New Home Sales - 312,000 (annualized) - slightly below previous and consensus

S&P Case-Shiller Home Price Index

10-city, not Seasonally Adjusted - Month/Month change +1.1 %
10-city, Seasonally Adjusted - Month/Month change +0.1 %
10-city, not Seasonally Adjusted - Year/Year change -3.6 %

The housing sector is still suffering and will do so until 1) jobs pick up and 2) the inventory created by the housing bubble and its bursting is cleared.

Durable Goods Orders (June)

- New Orders - Month/Month change -2.1 %
- New Orders - Year/Year Change 7.6 %
- Ex-transportation - Month/Month 0.1 %
- Ex-transportation - Year/Year 7.1 %

What this says is that the production side was more optimistic than the consumer side and needs to adjust to diminished consumer demand. In a sense, this is a capsule of the U.S. economic picture - there is a ton of capital and business is perfectly willing to deploy it with no incentive except profit but unless the consumer wants whatever business is selling, economic growth will remain weak

Consumer Confidence

Consumer Confidence increased from 58.5 to 59.5. An increased percentage of those surveyed said that they were having trouble finding jobs. To some extent, increased Consumer Confidence (which is a survey of attitudes rather than hard data) reflects lower gasoline prices.

Retail Sales

ICSC-Goldman Store Sales

Store Sales - Week/Week change +0.3 %
Store Sales - Year/Year +4.2 %

Redbook Store Sales

Store Sales Year/Year change +3.5 %

Analysis

The GDP report is dismal especially in light of the efforts of both monetary and fiscal policy. There is one word to accurately describe the present situation - "Japan."

This bad data indicates lower interest rates.

A Big Loan Call

As far as the budget/deficit/debt ceiling/fiscal thing goes all I can approach it with is humor. Hence, this humble offering.

I received an important phone call this week regarding a loan.

It went something like this:

Me : Dick Lepre.
Other Guy: Hi. My name is Tim. Someone told me that you do loans.

Me: Sure do. Watcha need?
Tim: Well I need a very large loan.

Me: How large?
Tim: Well I am not sure because I need to get my parents to sign off on it but it could be as large as $2.4 trillion.

Me: So you are THAT "Tim?"
Tim: Unfortunately - yes.

Me: Well, Tim. You know that I do mortgages but maybe I can help you to think this through.
Tim: OK.

Me: Tim, loans are made on credit history, assets and income. I mean you guys have an excellent payment history but your credit cards are all maxed out.
Tim: That's why I am calling.

Me: I think this is about income. I mean it's hard to see how you are going to get enough cash flow going to run the store, pay of your present loans and then pay off the P&I on another $2.4 trillion.
Tim: This is backed by the full faith and credit of the United States.

Me: Is that supposed to be positive?
Tim: This is backed by the full faith and credit of the United States.

Me: I understand but what I think is in the back of the minds of those who would make this loan to you is that your income has gone down in the last few years and your spending has gone up a ton and your debt has skyrocketed.
Tim: True but if you lend us this money we will be able to create more jobs and boost GDP and increase tax revenues and pay you back - with interest.

Me: But that is what you told the lender last time but they think you are just in a deeper hole. Now you want another cash out refi. You're going to make us look like a predatory lender. When do you need this money?
Tim: Next week would be nice.

Me: But back in January you said that you needed it by March 31.
Tim: True but I found some money in the couch.

Me: I think that no one is going to make this loan unless you find some way to reduce the deficits.
Tim: Right but that is up to Congress not me.

Me: And what are they doing?
Tim: Arguing and trying to make each other look bad.

Me: Look, Tim, let's assume that Congress completely removed the debt ceiling. How are you going to pay the P&I?

Tim: This is backed by the full faith and credit of the United States.

Me: I understand but you seriously need to write a letter of explanation to the lender telling them how you plan on paying this back.
Tim: I am not planning on paying this back. I am planning on getting the heck out of here about 5 minutes after they pass this. I park my car tail in every day and plan on exiting the Treasury parking garage like those guys in NASCAR do at the end of the race.

Me: Calm down, Tim. Let's do some stuff here. Your middle credit score is 674. Your payment history is perfect but your credit cards are all maxed out and as nearly as I can see from your loan application your income is... actually you have no income. You lost $1.5 trillion this year.
Tim: Sounds about right.

Me: Let me get this straight, where did the $1.5 trillion you spent come from?
Tim: A lot of it came from China and the Social Security and Medicare Trust Funds.

Me: Tim, why don't you come back when these guys get the deficit down to, say, $1 trillion.
Tim: You ever had your taxes audited?

Me: Yes Tim, I have. May I give you one word of advice apart from talking about this large loan?
Tim: Sure.

Me: "Japan."

 

If you have something to add to this discussion please post a comment on the blog.

---

Dick Lepre
RPM - SF
1400 Van Ness Avenue
San Francisco, CA 94109
DRE License # 01143973
NMLS Individual ID 302379
California Department of Real Estate - real estate broker license #01201643
dicklepre@rpm-mtg.com
Web site: www.loanmine.com
Blog: economy.typepad.com
(415) 244-9383
(866) 488-2051 fax

 

Rate Watch #785 Jim Grauer on the End of QE II

July 22, 2011
by Dick Lepre
 dicklepre@rpm-mtg.com
www.loanmine.com  

Fundamentals

Jobs

Initial Jobless Claims (week ending 7/16) 418,000
4-week Moving Average 421,250

This is a chart of Initial Jobless Claims since March 2009.

Attention should be paid to the colored line showing that we got below 400,000 in the 1stQ2011 and the jobs market got worse.

If you really have nothing to do this weekend, read this paper from the San Francisco Federal Reserve. Bottom line is that long term unemployment (greater than 26 weeks) is structural and short term unemployment is cyclical. This helps explain why both fiscal and monetary policy have not helped long-term unemployment.

Leading Economic Indicators

The Conference Board's Index of Leading Economic Indicators was +0.3%.

Leading Indicators is calculated from 10 components with Weights as follows:

Average weekly hours, manufacturing 27.37%
Average weekly initial claims for unemployment insurance 3.22%
Manufacturers' new orders, consumer goods and materials 8.17%
Index of supplier deliveries – vendor performance 7.17%
Manufacturers' new orders, nondefense capital goods 1.95%
Building permits, new private housing units 2.64%
Stock prices, 500 common stocks 3.70%
Money supply, M2 32.30%
Interest rate spread, 10-year Treasury bonds less federal funds 1.052%
Index of consumer expectations 2.96%

The problem has been that the enormous increase in M2 which is nearly one-third of LEI has done little to stimulate GDP.

Philadelphia Fed Survey

General Business Conditions Index was +3.2 compared to a previous of -7. This is supposed to be a leading indicator of Industrial Production.

Details at http://www.philadelphiafed.org/research-and-data/regional-economy/business-outlook-survey/2011/bos0711.cfm

Chart at http://www.philadelphiafed.org/research-and-data/regional-economy/business-outlook-survey/2011/bos0711chart.jpg

Housing

FHFA Housing Price Index
- Month/Month +0.4%
- Year/Year -6.3%

Details are here. http://www.fhfa.gov/webfiles/21747/HPI72111.pdf

Existing Home Sales (June)
- 4,770,000 annual rate - Month/Month Level -0.8%

Mortgage Applications
- Purchase Index - Week/Week Change -0.1 %

- Refinance Index - Week/Week Change +23.1 %

- Composite Index - Week/Week Change 15.5%

Even though we are at a strange time when a larger than normal Existing Home Sales take place for all cash, the downward move in the week-to-week Purchase Index for mortgage applications is an indicator that the housing market has a long way to go to recover. I do not subscribe to the notion that somehow people have permanently soured on homownership. Housing prices need to get back in line with incomes. The delay in foreclosures of long-delinquent mortgages is stretching out the time frame. CoreLogic's most recent estimate of shadow inventory was 1,700,000 units.

Consumer Metrics

Meanwhile the Weekly Composite Index from Consumer Metrics shows a significant upward trend.

This index is interesting because it uses data which, compared to most other releases, is nearly live. This graph is a composite index of ten sectors: Automotive, Entertainment, Financial, Health, Household, Housing, Recreation, Retail, Technology, and Travel. The largest gain is retail.

Analysis

While the techs are bearish (higher mortgage rates) we will have two major data releases in the next two weeks. Next Friday we will have 2ndQ2011 GDP (advance) and a week after that the BLS Employment Situation Report. Those two will drive equity and Treasury markets in the next two weeks.

While there has been much politically based discussion about jobs, the fact is that Keynesian solutions (deficit spending) attack cyclical unemployment (the usual ups and downs resulting from business cycles) but what we have now is structural unemployment - especially for those unemployed more than 26 weeks. Structural unemployment occurs when there are jobs but the job seekers do not have the right skills for those jobs.

The high value conforming limits are scheduled to be rolled back on 10/1. Loans at the temporary high-value conforming limits must fund by 9/30. There is discussion in Congress about delaying this rollback.

This should be a topic of interest to folks in places where homes are expensive. Since I live in San Francisco, this means everyone nearby.

On October 1 the "temporary high balance"conforming loan limit (for single family) which, at present, goes up to $729,750 will no longer be available. FNMA and FHLMC will then stop at the "permanent high balance" conforming loan limit which has a maximum of $625,500.

This means that anyone in a California county where the temporary high-balance conforming is between $625,500 and $729,750 should seriously start looking at refinancing if you have an ARM or a fixed rate above the "High-Balance conforming" rate in Section I above. .

If you have enough equity then a FNMA loan is the likely product. If you lack equity for FNMA you can still refinance to FHA with a LTV of up to 97.75% with the added burden of the FHA premium for "mortgage insurance."

The fact is this: for some of you this is a "last call" for refinancing. If you are thinking that values will recover soon and life will be OK then I can probably sell you a piece of the Golden Gate Bridge.

Self serving commercial message: I want to thank everyone who has recently sent me e-mail telling me how much this newsletter is appreciated. Please tell others about this and encourage them to add their e-mail, to the distribution. They can do this at http://www.loanmine.com/ratewatch

Before I present Jim Grauer's take on QE II, I want to give my own brief analysis. QE II failed to produce the desired effect of increasing GDP. In fact, it may have done the precise opposite. How did it do that? QE II pumped up assets prices including commodities ; consequently, higher energy and food prices hurt discretionary consumer spending and that hurt GDP. It is common for economists to pay more attention to core CPI and recognize that higher gasoline and food prices usually come back down. However, the psychological effect that higher gas prices have is unlike anything else simply because the price of gasoline bombards us as we drive around. It is the only thing the price of which is blabbed in large vinyl numbers everywhere. Those numbers have a significant impact on consumer sentiment.

I want to also say that since shortly after I started creating these weekly newsletters Jim has been the greatest asset I have had in my goal of trying to understand what macroeconomics is all about.

The End of QEII - What to Expect by Jim Grauer

On June 30, 2011, the financial community bid farewell to QE II, a $600 billion dollar program instituted by the Federal Reserve intended to revive the animal spirits of our flagging economy through an expansion of the money supply over an eight month period commencing November 2010. The incentive for the implementation of this monetary demarche was the realization by the Fed that the banking system could not at this time be relied on to catalyze economic restorative lending due to the aftermath of the 2008-2009 crippling housing meltdown and its devastating effect on bank capital ratios. To be sure, the banking system’s adoption of a “once burned, twice shy” mantra to lending, new restrictive regulations imposed by Basel III and borrower’s newfound religion in de-leveraging made for a lending-borrowing stalemate. Lacking roborant lending and borrowing, money multiplier expansion, the life’s blood innervating recovery in the real economy through investment, spending, production and employment, was rendered feckless.

The Fed’s objective, then, was to galvanize economic activity. But without requisite borrowing and lending, what would be the operative mechanism? Enter POMO, or Permanent Open Market Operation. Under this regime, the Fed would inject fresh reserves into the system by purchasing from the primary dealers Treasury notes and bonds to be held on their balance sheet “permanently.” Now in the usual context of Fed policy implementation, a small injection of reserves, say $5 billion, goes a long way. To wit, the successive rounds of customary and usual bank lending to economic factors (i.e. retail, industrial and commercial borrowers) would allow the Fed to sit back and watch the money multiplier work its magic, multiplying the $5 billion by a factor of ten to a $50 billion increase in the money supply. But therein lay the rub. Ben Bernanke correctly reasoned that given the shell-shocked banks’ disincentive and diffidence to lend and economic factors’ desire to borrow, the multiplier dynamic would be crippled, if not bootless. He also understood the psychological aspects of the problem. Economic factors were desolated in the aftermath of the bursting of the housing bubble, causing massive devaluation of their asset bases and subsequent forced de-leveraging. A “feel good” palliative was desperately needed. And what better way to instill that feeling than to re-inflate those debased assets, primarily embodied in stock market equities? If folks felt richer by the appreciation of their portfolios, surely borrowing would follow. But wait, if banks weren’t willing to lend and wealth holders not willing to borrow, then wouldn’t all those new reserves simply be held fallow by the banks in their respective Federal Reserve District Banks as excess reserves, unable to bid up equities and other assets? Absolutely not. In point of fact, NO bank lending is required to achieve this end. Here’s how it works: Lets say the Fed in injects $10 billion into the system buying Treasury notes from primary dealer nonpareil Goldman Sachs. Goldman deposits that $10 billion into its account at JPMorgan-Chase bank and the money supply thereby increases by $10 billion. Assume Chase is not interested in lending any part of this $10 billion at all, and so it sits inertly at the New York District Federal Reserve Bank as excess reserves (remember, Goldman Sachs still has credit for those dollars at Chase.) Will Goldman simply hold this credit as a demand deposit inertly? Absolutely not. Wanting to deploy this wad of dough into an earning asset, it buys $10 billion worth of stocks from a hedge fund in San Francisco. The buy bids up those stocks and the seller deposits proceeds from the sale into its bank account at Bank of America. The excess reserve of $10 billion at the New York Fed District bank is now transferred to the San Francisco Fed District Bank. The hedge fund having sold stock, now opts to purchase gold and other commodities, bidding up the prices of those risk assets. And so it goes, successive rounds of sales and purchases of equities, commodities, etc., inflating their prices notwithstanding massive excess reserves in the banking system remaining constant throughout the process.

Adding to the trenchancy of this first order effect of outright and outsized purchases of Treasury debt, Chairman Bernanke also had hoped that the there would be add-on second order effects through the agency of lower yields across the entire term structure of the yield curve, inducing wealth holders to switch from riskless (presumably) Treasury instruments into more risk intensive asset classes, thus furthering the cause of “feel good”, wealth enhancing inflation. However, subsequent empirical evidence often proved this not to be the case as fears of inflation generated by a money supply expanding by another $600 billion, in addition to the $900 billion injected from QE I, sent yields on Treasuries spiraling in the opposite direction. However, what Bernanke knew that most monetary pundits, panjandrums, nawabs and grandees did not, was that as long as banks remained indisposed to lending, inflation across the broad spectrum of the real economy would remain tame while the narrowly sectorialized risk asset classes would inflate. The only real problem facing the Fed was the specter of banks attempting to rid themselves of these excess reserves in the overnight market, thereby destabilizing the Fed funds rate by driving it lower than the Fed’s stated rate peg. Such an eventuality would have defeated the entire QE II strategy by forcing the Fed to absorb the very funds it had just injected. Bernanke neatly solved this problem by paying the Fed funds rate (i.e. 25 BPS) on excess reserves.

The foregoing narrative exposited the two pronged effects on risk assets promulgated on the domestic side of the equation. Our external sector (i.e. foreign trading partners) exerted yet another important force through auspicious currency translation. Perceived brobdingnagian increases in our money supply (we’ll get to reality versus perception in a bit) hammered the dollar in the FOREX markets. With the preponderance of commodities and, of course, our equity market being priced in dollars, suddenly a given amount of foreign currency would purchase an increased amount of any and all commodities and U.S. equities, adding an addition fillip to the appreciation of risk assets. In other words, to cast it in economic parlance, our foreign trading partner’s demand curves shifted to the right and they went on a buying binge. What is more, the prices of all goods and services offered in the U.S. for export became relatively cheaper vis a vis the foreign currencies, thus buttressing our GDP. Of course, by the same token, imports became dearer, thus possibly offsetting the benefit of increased exports on our merchandise trade account.

A very interesting observation to note is the perception of many economic commentators and the public at large that the Fed has overindulged the “printing presses” and flooded the market with dollars in its latest QE II foray. This could not be farther from the truth. In point of fact, while the Fed has added about $648 billion in fresh reserves from November, 2010 to June 15, 2011 (Federal Reserve Board of Governors – H3), the money supply as measured by M2 has only grown by $310 billion in roughly the same time period (Federal Reserve Board of Governors – H6). Contraction of the money supply to the tune of $338 billion by dint of the run-off of retail, commercial and industrial loans by the banking system has been responsible for that diminution. The normally close correlation between the monetary base (i.e. total reserves plus currency in circulation) and the money supply has been temporarily suspended during this period due to the absence of any significant bank lending and the consequent money multiplier expansion. Had QE II not been implemented at all, M2 would have actually declined by that $338 billion. And when the numbers are finally in this next November, it will be seen that M2 probably expanded at a rate of somewhere between 3-5%, a very nominal expansion at best. The world’s hue and cry about the unfettered printing presses at the Fed is hyperbolic at best and totally fallacious at worst, which brings us to the concluding commentary – what to expect.

With the termination of QE II on June 30, 2011, the perception of a runaway money supply will be quickly disabused, especially so if lending contraction by the banking system continues with no QE offset and M2 languishes, or even declines. This realization will give a bid to the dollar simply on the basis of the cessation of expansion of the money supply. Ongoing instability in the EU with respect to the PIIGS indebtedness plight will persist despite the temporary monetary fixes applied by the EU, the ECB and IMF, which in the end will have proven ineffectual and profligate, given the ineluctable result of punitive austerity programs…default. That sword of Damocles, in turn, will keep the Euro back on its heels with respect to the greenback and give additional lift to the dollar. The combination of the absence of QE funds bidding up risk assets plus a firmer dollar turning the FOREX terms of trade for those risk assets relatively more expensive for our foreign trading partners will result in a falloff in demand for commodities and equities and a consequent decline in their prices, perhaps a precipitous one given the bubbles that the opposite dynamic has created. With the unwind, a flight to quality will ensue, wherein the prettiest of the uniformly ugly alternatives will predominate and prevail….U.S. Treasuries. As long as the dollar is the reserve currency of the world, the vehicle of choice during troubled times will be unequivocally the least risky dollar denominated assets….U.S. Treasuries. Those who would espouse rampant inflation and higher interest rates for the near future will have adopted faulty and flawed reasoning and they ultimately will be proven wrong, notwithstanding short term technical corrections (i.e. firming rates) in U.S Treasuries.

 

Rate Watch #784 There Is a Permanent Solution to the Debt/Fiscal Issue

Rate Watch #784 There Is a Permanent Solution to the Debt/Fiscal Issue.

July 15, 2011
by Dick Lepre
dicklepre@rpm-mtg.com
www.loanmine.com

This Fiscal Thing

The inability of those elected to responsibly set fiscal policy has never been more evident. There is an alternative which I have been pressing for several years. It involves giving the control over the National Debt and deficit to an independent agency which can do what is best for the nation's economy rather than do whatever they need to do to get reelected. The behavior of politicians in D.C. approximates that of people on the Jerry Springer Show. We can find their dysfunction entertaining but while I can not watch Jerry Springer I cannot choose to be unaffected by the idiocy of politicians.

I am repeating this only because the value of what is suggested here has never been more obvious. This is a joint effort by myself and economist Jurgen Brauer. The underlying thesis is that the polotical process is incompatible with fiscal sustainability. This was coauthored by Jurgen Brauer.

A Call for a Council on Fiscal Sustainability
By Jurgen Brauer and Dick Lepre

The idea that the political process is not compatible with fiscal sustainability has never been more obvious.

What taxes are to be raised and what the government spends money on are value issues best left to those elected. But the economics of the size of the debt ceiling and deficit is best handled by economists. This dichotomy is the essence of our proposal.

Congress recognizes that the country's debt path is unsustainable. While the economics of the matter is straightforward - cut spending, raise taxes, or both - the politics is not. And if voters cannot insist, or are not going to insist, on fiscal sustainability, and if Congress is not going to control public finances on its own accord, then one must conclude that the fiscal process is lacking a necessary ingredient. To supply it, we propose the creation of an independent Council of Fiscal Sustainability. Under enabling legislation, its members - presumably economists - would be appointed by the President, and confirmed by the Senate, to nonrenewable 14 year terms and report to Congress twice a year. This is not a revamped Congressional Budget Office, nor a refurbished Council of Economic Advisers, but an independent agency akin to the Federal Reserve Bank.

The CFS would have a single task: It would place before Congress a maximum National Debt which is economically sound over the medium to long term. In planning the budget, Congress would look at projected spending and revenue and, if the difference exceeded the CFS number, it would have to cut spending or increase taxes or some combination of the two. Our notion is not idealistic: It just recognizes a fundamental constraint of the current political structure to act in the best interest of the nation's long-term economic health.

The enabling legislation must mandate that the deficit limits presented to Congress be accepted unless it is voted down by a resolution of disapproval. There is precedent: The Base Realignment and Closure (BRAC) process regarding military base closures is an example whereby a "this takes effect unless you vote to disapprove" process helped achieve the desired goal in a manner that was politically acceptable. We believe that this process meets the requirement of constitutionality. Creation of the CFS thus gives each member of Congress a new degree of political freedom. "You folks needed those roads, and under the CFS deficit limit, taxes had to increase to pay for them". Or, "I voted to limit spending because under the CFS deficit limit, the alternative would have been to raise your taxes."

We know from the experience of the very many countries - eighty nations as of 2009 - that have introduced so-called fiscal rules that two issues are key: The rule needs to be credible, and it needs to be flexible. For instance, the United Kingdom put its fiscal rule in abeyance when it found that it was not sufficiently flexible to deal with the extraordinary economic environment of 2008/9. Thus, writing legislation to set up the Council will need to address budgetary eventualities, pre-commitments of when it is, and is not, permissible to breach annual deficit limits. It would also have to come with phase-in provisions, such as those passed in Germany, so that the transition from unsustainable to sustainable public debt can proceed in an orderly way.

Flexibility, however, can make rules less credible. To be credible, ultimately the Council needs to be free of short-term political meddling. To deal with that problem, Germany, Poland, and Switzerland for instance changed their constitutions. For the United States, we believe that structuring the Council so that its recommended annual deficit number takes effect unless voted down by Congress will be sufficient to break the current log jam.

(c) Jurgen Brauer is Professor of Economics, James M. Hull College of Business, Augusta State University, Augusta, GA. Dick Lepre is a Senior Loan Officer with RPM Mortgage of San Francisco, CA.

 

---

Dick Lepre
RPM - SF
1400 Van Ness Avenue
San Francisco, CA 94109
DRE License # 01143973
NMLS Individual ID 302379
California Department of Real Estate - real estate broker license #01201643
dicklepre@rpm-mtg.com
Web site: www.loanmine.com
Blog: economy.typepad.com
(415) 244-9383
(866) 488-2051 fax

 

Rate Watch #783 Vote for Me and 10,000,000 of You Will No Longer Have to Work

Rate Watch #783 Vote for Me and 10,000,000 of You Will No Longer Have to Work.

July 8, 2011
by Dick Lepre
dicklepre@rpm-mtg.com
www.loanmine.com

Fundamentals

Jobs

The BLS Employment Situation Report was much worse than expected. The headline is +18,000 jobs. By comparison, prior was +54,000, Consensus was around +100,000 and the number of new jobs which need to be added each month to keep the same percent of the population working is around 121,000. Private jobs were +57,000 while government jobs were -39,000. State and local governments whose cash flow has been hammered by declining tax receipts are nowhere near the end of downsizing and declining government jobs will be a feature of the BLS Employment Situation Report until that downsizing is complete. Health Care added 17,400 jobs. Goods producing added 4,000. Temporary help was down 12,000. This is significant because temporary help is generally a leading indication for jobs.

The Unemployment Rate increased to 9.2%.

This situation has been created by two forces: manufacturing jobs continue to be offshored. The average factory worker in China makes about 75 cents an hour. According to this BLS report the average hourly earnings of production and nonsupervisory employees on goods producing Nonfarm jobs was $20.62 last month. The second force is the consequences of the housing bubble. The banking system was hurt, the GSEs destroyed by HUD mandates and consumer/homeowners facing the bleak picture of uncertainty of employment and, in too many cases, holding a mortgage with a balance higher than the value of their home.

More than 4,000,000 people who want jobs have been out of work for over 1 year. The portion of the population in the jobs market (labor-force participation rate) fell to 64.1% last month. That is the lowest it has been since 1984. While much of this is demographic (more seniors) it is still a problem because Social Security and Medicare payments must be made from current tax receipts or borrowing because the funds have been squandered.

The fiscal side stimulus of 2009 has failed and monetary policy has done little but increase the flow of speculative rather than transactional money.

The underlying problem is that the consumer lacks the confidence necessary to spend. The consumer is 1) worried about his/her job and 2) overleveraged and perhaps underwater on the mortgage.

The fact is that the government can do little to better the jobs situation. Only two forces can get us out of this hole: 1) a boom in new areas of tech and 2) a return of Consumer Confidence.

Jobs

The big question is: why is the jobs market not recovering? To a large extent, the state of the jobs market is what will determine the outcome of the 2012 elections.

To start, I want to make clear that it has always been my belief that there is little that the President and Congress can do to create jobs. When we have recession we have an excuse for the party not in power to diss the party in power. Reagan did this to Carter and Clinton did this to George H. Bush. But none of these guys create jobs. Jobs are created by a coming together of capital and labor to provide a product or service which people want. The main thing that government can do to help create private jobs is nothing. I do not say that to be glib. I sincerely mean that government regulation and government policies hurt more than they help.

So what is wrong with the jobs market? The answer is: a lot.

I think that the most important thing to recognize is that part of the reason why economic recovery has been so dismal is that this past recession was not simply a cyclic recession which could be addressed by Keynesian deficit spending. The big issues in the jobs market are structural not cyclic.

The Bureau of Labor Statistics recognizes that the goods producing jobs consists of 4 supersectors: Natural Resources and Mining, Mining, Quarrying, and Oil and Gas Extraction, Construction and Manufacturing.

The Manufacturing sector comprises establishments engaged in the mechanical, physical, or chemical transformation of materials, substances, or components into new products.

Manufacturing jobs have been offshored. This is a consequence, in large part, of the enormous differences in wages between China and the U.S. The average manufacturing job in China pays about 75 cents an hour. (This data is not well publicized by China but that 75 cents is a best guess.) According to this BLS report the average hourly earnings of production and nonsupervisory employees on goods producing Nonfarm jobs was $20.62 last month. I think that unless the Pacific Ocean dries up we are not going to recover a significant number of manufacturing jobs from China.

The fact that these manufacturing jobs have disappeared is a structural change not a cyclical one. The manufacturing of almost everything has moved offshore: clothing, computers, consumer electronics, appliances, machine tools etc. We are not losing manufacturing jobs because our factories are inefficient or make things no one wants. We are losing the jobs which manufacture the stuff we all want and we are also losing our dominance in high tech. That wonderful thing called the iPad may have been designed in California but it is manufactured in China. In 2008 there were 1.2 billion cell phones sold in the world. Zero of those were manufactured in the USA. The US has lost its dominance in printed circuit and semiconductor manufacturing.

The Chinese economy has flourished only because it was able to take that which already existed and use its enormous stock of low paid workers to make stuff cheaper. China has no inside track apart from that. China is to manufacturing what Wal-Mart is to retailing.

One conclusion is the the U.S. economy is in a hopeless state regarding jobs. Another possibility is that we are experiencing a case of Schumpeterian Creative Destruction. In fact this could be the Mother of All Creative Destructions.

What Am I Talking About?

In his book "Capitalism, Socialism and Democracy", Joseph A. Schumpeter wrote, "The fundamental impulse that sets and keeps the capitalist engine in motion comes from the new consumers, goods, the new methods of production or transportation, the new markets, the new forms of industrial organization that capitalist enterprise creates." Schumpeter saw capitalism as surviving by not merely innovating but by mutating and destroying the old economy in order to make room for the new economy.

I believe that the only manner in which we will see significant changes to our economy and the quality of our lives is through new and visionary technologies.

Consider some fairly new companies: Google and Facebook. What do they manufacture? Absolutely nothing physical. I am by no means minimizing the difficulty of creating and maintaining these massive entities. I am only observing that their product is not physical.

The Internet has created companies such as Zynga (the creator of Farmville) which provides on-line games for free and sells virtual products to enhance play. Many iPad games use this business model - give someone a game for free and then sell them virtual stuff for real money. The worldwide market for virtual good last year was about $9.28 billion. That is not a large number. My point is that people pay a lot of money for things which are not physical objects: cell phone service, cable TV, WSJ on-line, iTunes and that is being extended to objects in virtual worlds such as Farmville.

Intellectual property (books and music) is becoming digital. Books, vinyl records and music CDs are following the 8-track tape down the existential path to non-being.

Apple holds a big hand for this with iTunes. Netflix is moving from an entity which sends DVDs in the mail to and entity which provides streaming content via the Internet. I can watch "Alfred Hitchcock Presents", "Have Gun Will Travel" and "Twilight Zone" delivered by Netflix on my BluRay player and recall the "good old days of TV."

Technology is also capable of creating things which are far from virtual. This is about a company which creates perfect fitting 3D bikinis. Perhaps in the near future young women can go into stores and buy a perfect-fitting pair of jeans which are "printed" on the spot. Same for shoes. 3D printing can also used to create objects such as dental bridges and implants. RepRap is a low cost 3D printer (you can build it yourself) which is capable of self-replication. It can print another copy of itself.

3D printing could have medical applications. We may be able to create body parts on demand. See this article from the Economist: http://www.economist.com/node/15543683 or this piece from Physorg.com http://www.physorg.com/news/2011-02-3d-bio-printers-skin-body.html This could eliminate the need for organ transplant donors. Athletes with bad knee, elbow, or shoulder injuries could have those parts replaced. Burn victims could get new skin quickly. Today a patient in Sweden is being discharged after his cancerous windpipe was removed and replaced by the world's first artificial trachea, made of his own stem cells grown on a man-made plastic matrix.

The post-Singulatity economy may see economic value existing largely as intellectual property. I could design clothing and deliver it to my customers by 3D printing: no factories, no junior sportswear shops in malls - just a bunch of teen-age girls using their smart phones to get their jeans out of a row of ATM-like machines. The new line will be, "That is so, like 12 hours old. Look what just came out 4 minutes ago."

This has already happened with nonphysical things such as music, books and newspapers.

It may be the case that we are about to see something which has an enormous impact on society and the economy. It could be the case that we are approaching a time when both goods and services are largely delivered by computers or created by 3D printers connected to computers. Wealth would take the form of the ownership of the 1's and 0's that described how to make something and fewer people may have to work. I am not implying that you would have a printer in your home that would make anything. You might simply order a bunch of clothing or some tools and hardware by computer, pay for it by credit card and drive to the mall to get it. There would be no inventory, no transportation costs and little cost associated with retail markup. Heck there would be no shoplifting.

I don't not believe that this would be a smooth transition. When we had the Internet boom on the 1990's we had a very low unemployment rate because so much speculative capital was deployed. Much of that boom was actually a bubble. The next tech boom may well produce another economic bubble of equity prices and jobs but could end in a very serious drop in employment.

Perhaps we should be thinking of an economic order in which fewer people have to work while everyone gets the basic necessities of life inexpensively. In reality this is as much a philosophical shift as an economic one. In future election cycles we might hear a candidate say, "Vote for me and I guarantee that 4 years from now 10,000,000 of you will no longer have to work."

If you have something to add to this discussion please post a comment on the blog.

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Dick Lepre
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