Fiscal Stimulus

I have stayed away from the fiscal stimulus debate for now but I got something forwarded from this guy Ken Landon who is head of something or other at JPMorgan. He found this quote while wasting time on the Internet in the morning:

"We have tried spending money. We are spending more than we have ever spent
before and it does not work ... After eight years of this Administration we
have just as much unemployment as when we started ... And an enormous debt to
boot! -- Roosevelt's U.S. Treasury Secretary Henry Morgenthau, testimony to
the House Ways and Means Committee, May 9, 1939."

That is something to consider in the current climate and when trying to weigh whether a fiscal stimulus is likely to be efficacious but on second thought, the argument is totally spurious. Morgenthau has no idea what the counterfactual would have been like. So claiming that "it does not work" is just uninformed. You can make all sorts of arguments about crowding out about disincentivizing productive capital through an excessively regulatory environment, about an onerous tax burden for future generations, &c &c &c but just claiming that it is not working b/c unemployment is stable... that's just dumb. I mean, imagine we'd have a fiscal stimulus plan that had stabilized unemployment at 6.5% and we weren't at 7.2% right now (with more probably to come.) Would anyone say this wasn't working? It's such an elementary mistake.

Housing

I haven't read any commentary on this mornings but the Case-Shiller Home Price Index is down 18.18% year-on-year this morning. The Bloomberg survey of economists predicted a drop of 18.40% YoY. Maybe this could be a sign of stabilization? It sure doesn't look like it when you look at the graph, though:

Bank Market Caps

If you want to know how hard banks really have been hit by the whole credit crisis take a look at these data. I think the way to present this is pretty good, really highlights who the big losers are.



You thought Morgan Stanley or Goldman did so poorly that they were forced to become bank holding companies? You think the credit crisis is an American bank phenomenon and that European banks are not as vulnerable? Look at JPMorgan or Goldman, then look at Barclays or RBS. Then again, look at Citigroup. Yeah, it seems totally great to pump more and more and more money into them.

I want a lifeline too!

So it's not just Citi who's getting a ton of cash even though they svck, Bank of America is pretty much the same. Bloomberg has this:

" Jan. 16 (Bloomberg) -- Bank of America Corp., the largest
U.S. bank by assets, posted its first loss since 1991 and cut
the dividend to a penny after receiving emergency government
funds to support the acquisition of Merrill Lynch & Co.
The fourth-quarter loss of $1.79 billion [...]exclude $15.3 billion
in losses at Merrill, which was acquired earlier this month.
The losses, coupled with the U.S. lifeline of $138 billion,
put more pressure on Chief Executive Officer Kenneth D. Lewis to
make the takeovers of Merrill and mortgage lender Countrywide
Financial Corp. pay off."

I dunno, but getting government help b/c you're too strapped for cash b/c you bought two faltering institutions... that seems kinda wrong! That's like if I buy myself three Ferraris and then ask my parents to pay for my rent b/c I can't afford it anymore and when they ask me why I bought the Ferraris in the first place I say: "I had to. They were such a steal, it would've been stupid not to buy them.

AND: BoA makes a loss... but that doesn't include $15.3 billion, repeat fifteen point three BILLION dollars, in losses from Merrill. Wow, that Merrill Lynch was a real steal for them!
But so what exactly is this kind of lifeline? The gov't just injected $20 billion, which apparently will take BoA/Merrill only about a quarter to burn through and then they get $138 billion as a "lifeline"? What is as lifeline? Is it like a loan? Yeah, as if that's gonna pay back! So then here's why all of that happened.

"Bank of America officials then told regulators last month
that the Merrill deal might be abandoned because of worse-than-
expected results, Lewis said. The government insisted the
transaction proceed because its collapse would create new
turmoil in the financial system, he said."

That makes real sense! "Nonono, you have to go ahead with this b/c otherwise it'll be the end of the world. Don't worry, we'll help you now. We're sure you won't run into a wall a few months down the road and need to split everything back up again. That never happens. Look at Citibank, that didn't happen to them! Errrr.... wait a second...."

And then... and then:

“'We just thought it was in the best interest of our company
and our stockholders and the country to move forward with the
original terms and timing' for buying New York-based Merrill,
Lewis said today."

The country??!!! Don't act as if you care about the country all of a sudden. If you subscribe to a relatively pure capitalist system (, which as a bank you surely), it's all find to say that you're just looking out for your shareholders. But don't pretend all of a sudden you're doing stuff b/c it's good for the country! If you wanna do something that's good for the country, axe the bonuses, institute government-employee payscales (b/c pretty soon you'll be government employees) and let some people keep their job instead of axing them all -- that's something that's not good for your shareholders or you but it's good for the country.

This week

This week was pretty awful in terms of economic data.
Nonfarm payrolls were down 524,000 in December, pretty much right on the consensus view. They'd been down 584,000 in January. So bad. At least the decline is slowing? But half a million. Half a million new unemployed in December. Change in manufacturing payrolls was 149,000, up from a revised earlier number of 104,000 and really disappointing the survey, which averaged at -100,000. So I guess we can say manufacturing has been hit harder than the rest. Unemployment surprised on the upside at 7.2% (estimate was 7%, prior number was at 6.8%.) So yeah, the employment picture is not pretty.

Retail sales in December absolutely plummeted. Down -3.1%. Estimate was half that. So economic activity also is stalling pretty badly.

On the other hand, mortgage applications were up by 15% in the Jan 9th week. Up from -8.2%. That, to me, is very good news. That'll take a good while to filter through but I see it as the first step in stabilizing the housing market. And I see that as the first step to recovery. B/c, oh I dunno.... maybe someone like Citi wouldn't lose $8billion a quarter anymore.

Citi better give me my money back

This morning Bloomberg has the following:

" Jan. 16 (Bloomberg) -- Citigroup Inc. posted an $8.29
billion loss, twice as much as analysts estimated, and said it
will split in two under Chief Executive Officer Vikram Pandit’s
plan to rebuild a capital base decimated by the credit crisis."

What I want to know is how they lost all the money. Is it still writedowns on MBSs? Is it trading (like at Deutsche)? I dunno, man, but 8.3 billion is a lot of money. Those guys already got 45 billion in tax dollars (slash debt dollars.... but ultimately everything is tax dollars), which could have gone to schools, housing relief (to stabilize the mortgage mkt? what a novel idea!!), unemployment benefits to make the recession less painful--an automatic fiscal stabilizer--something. I mean 45 billion.... that's a hundred an fifty bucks from every American. Split those guys up, sell the pieces, limit the losses and let's move on.

China

My friend Andrew asks me this:
"What do you think will happen with China? Think their central authority will be able to reignite the growth engine there? If not, the political/unrest fallout would be ugly."

I think China is actually in a good position, and I think they'll do relatively fine. Their currency is stable (unlike e.g. Russia), they can easily cover external debt with their reserves, they have really aggressively loosened monetary policy (cutting rates aggresively and lowering reserve requirements multiple times) and have that room b/c inflation is under control (and it doesn't only depend on oil like in other countries), oil plays massively in their favor (as opposed to e.g. Brazil or Russia), they have announced that huge stimulus package in October already so they were ahead of the curve on that, and they are a country that actually really needs infrastructure. Furthermore, they are experienced with planning and doing lots of work through the gov't so the risk of that infrastructure being "roads to nowhere" is much lower than here or in Japan in the 90s. Then they have also put in place a slew of other administrative measures to support various sectors of the economy: the land reform earlier in the year that will lead to more efficient production of agricultural products for example or the shortening of the requisite holding period for a property to be tax exempt from 5 to 2 years to support the real estate market. Plus, the central authorities are experienced in doing what they want to do. If Beijing wants to make something happen they typically will, and their economic policy is an extremely pragmatic one.
China is one of my top picks for 2009.

The Chain of Events to Stabilization in my mind

Had a hard time with a coherent title for this post but I just chose this and we'll go from here.
My friend Andrew just emailed me this:

"Data we are getting now is all backward-looking, so it is hard to credit it with that much predictive power. The more interesting question in my mind is what kind of bump we can expect from the upcoming stimulus package. Credit market conditions are much improved in the last month, which remains a good sign."

Here's what I'm thinking. This highlights the positive mortgage application number today, which I think could, I repeat: could (as in "necessary but not suficient"), be the first step to credit flowing again and the economy recovering:

"That is true (that data are backward-looking). Nevertheless, I think people position themselves thinking the economy is somewhere. When these kinds of data come out they realize the current state of the economy is somewhere totally different and any up- or downward movement will make it end up lower than it would have previously.

The credit mkt has improved on things like the TED spread and Libor. I haven't looked at the corporate mkt -- somehow my access has been limited -- but that's what I see as the barometer, really.

And I wonder with mortgage applications up so much if this would stabilize housing prices. B.c if it did it would reduce mortgage default rates, which would stabilize MBS prices, which would stabilize banks' balance sheets, whcih would reduce the need to hoard cash, which would lead them to lend again, which is the problem."

I'm skeptical of the stimulus but am interested to see where he's going with that."

Here are the TED Spread and LIBOR:


(Wow, the TED Spread is coming in -- very good....)

The shine is wearing off....

After a horrific year in the financial mkts the S&P at least recovered a bit in Dec, as the picture shows.
I'm not sure if I made that call at some point in December but I didn't see that anything had fundamentally changed. My view was "Bad economic releases are priced in, and maybe the lows are set. Unless more really shocking things happen (like Citi going under? Like Citi and Morgan Stanley merging? Like the automakers going bankrupt?) we might be good." But at the same time I was very much expecting bad economic data releases. So the 7.2% unemployment number the other day... didn't really surprise me that much.

This morning then, retail sales numbers for December came in and were pretty horrific. -3.1%. The previous number had come in at -1.6% and was revised down to -2.5%. The consensus forecast was -1.4%. On a sidenote, who thought deseasonalized retail sales would be better in December than in Novemeber? Who's thinking that people are spending more even as they are being laid off? And who thought they'd be better despite the fact that pevious month's estimates were revised down?

My sales coverage at Goldman then sends me this this morning:

"1. the rate of deterioration in economic/earnings growth is not slowing. a lot of people will tell me "I know that already." but the degree of loss still matters. and if you use today's retail sales report as example, the difference between 'bad' data and 'disastrous' data still moves the forwards."

I'm still wondering who was surprised by this print. Did people really think this was it things would improve from here? Did people really anticipate economic number to be coming in better from now on? Jack the Ripper thinks that news of the Obama stimulus drove the mkt higher in December and that that is wearing off now. I think it's maybe even a bit more psychological. In December everyone was down for the year and was trying to make the year-end result look a little better by possibly taking advantage of any little rally if it were to develop. Now in the new year, when the profit counting is reset, ppl are doing everything to protect capital. Including getting back into the "safe haven" of Treasuries, trading up massively this morning (see graph).

What I don't get is why people are waiting until now to do it. But then again, I guess we have been trading lower for the whole past week with three positive days for the year.


On the technical side, JTR says that if we hold 850 today we could bounce but that we'll still take out the low in November. He says: "I AM A BUYER WITH A 600 HANDLE"

How good or bad will 2009 be?

Dani Rodrik at the Kennedy School has this to say:

"It will be a watershed year, ushering a new world economic order--with the disorder most likely coming first. I just don't have the foggiest idea what this new order will look like. [...] Here are four things that will determine how much doom and gloom is yet to come"

His four things are:

1.) Will the U.S. policy response be “bold” enough?
2.) Will Europe get its act together?
3.) Will China hold together?
4.) Will there be enough global economic cooperation?

My take on those four things are:
1.) definitely -- although more than fiscal and monetary stimulus we will need (as Rodrik points out) to put together a better social safety net to assuage fears of similar crises hitting again... like e.g. when the Fed is forced to mop up this excess liquidity it is producing now with these "bold" and unorthodox measures... and possibly gets the timing slightly wrong.
2.) unlikely.
3.) probably. Just probabilistically China has a very good track record of doing what it wants and pushing that through. Not to be confused with a good track record of respecting human rights, etc. I therefore find it unlikely that the Party's grip on power will slip and unrest will break out everywhere dividing the country
4.) I don't know and I don't care. This is the least relevant of Rodrik's points, I think. It seems to me that, as one big economy going into a tailspin dragged others with it so will one big economy emerging from the slump have a positive impact on others. I don't think that rising protectionism will do much to detract from that.

I would obviously add a stabilization of the US housing sector. As soon as that stabilizes, home equity loans will stabilize, consumers will be able to stop cutting back so severely, mortgage default rates will come down, mortgage backed securities will stop inflicting damage on banks' balance sheets (as an aside: the Fed will make some good coin on the MBS it is now buying), banks will start lending again with more secure balance sheets, and that will go a long way.

If the housing mkt ever stabilizes....

Ukraine again again again

As if facing an awful economy and needing the IMF to send you a nice big rescue package isn't enough, Russia also suspended gas delivery to the Ukraine -- in the mid of winter! Sortof lends a whole new meaning to the phrase "cold-hearted." But I guess Russia's got it's own finances to worry about.

I'd be interested in what a map of pipelines delivering gas from Russia to Europe looks like and how much can go through alternative pipelines and whether Russia can close the tap to Ukraine but not to e.g. Germany. Why, for example, do they keep talking about Italy in that NYT article linked to above? What about Germany? Where do they get their gas from? Is there another pipeline through e.g. Poland? Do we have our own nat gas?

back

After a great Christmas (minus one brother unfortunately) and a chill New Year's I'm back on the job today. It wasn't easy to rally this morning after being delayed on my flight forever and then coming home around 2:30 am. So this is gonna be short but the S&P is massively up today, after a horrific manufacturing report.

The NYT has this:

"From Australia, to Asia and Europe and the United States on Wednesday, the message in the latest economic reports was clear: manufacturing continued to slump amid the worst slowdown since the Great Depression. In the United States on Friday, a crucial measure of manufacturing activity fell to the lowest level in 28 years in December. The Institute for Supply Management, a trade group of purchasing executives, said its manufacturing index was 32.4 in December down from 36.2 in November."

(As an aside, I cant tell you how sick I am of hearing "the worst slowdown since the Great Depression." The Great Depression was something of completely different proportions. Unemployment in the US is at 6.7%. 6.7, okay??!!! In Germany it is at 7.5 -- the lowest level since 1992. In France it's at 7.3. In the Eurozone it's 7.7%. Okay fine, in Japan it's at 3.9%. At the height of the Great Depression unemployment was 25%!! This, right now, has zero to do with the Great Depression.)

Anyways, especially the ISM number is horrific. I've talked about it before but this is a truly abysmal number. All the more surprising that the S&P took off, right after that number was released at 10am. Veddy strange.... Cuz it sure as hell wasn't expected (and then came in better than expected even if still bad -- that was definitely NOT the case.)



Finally, Bloomberg has this headline as the day closes:

"S&P 500 RALLIES 3.1% FOR BEST START TO A YEAR SINCE 2003"

But one swallow does not make a summer or however the saying goes. But, I've been buying slow and steady and will continue to do so.

Happy New Year everyone.

Oil, steel, copper and the recession

One of our independent research houses had this graph in their daily newsletter today in which they contrasted plunging oil to surging steel manufacturing stock prices, making the case that looking at oil prices you'd expect the global economy to just grind to a halt while steel manufacturing prices (up 50% in December) tell a different story. I wrote back with the following answer and graph:

"Nicolas,

re: the graph that contrasts oil and steel in today's checking the boxes: I think it's likely more appropriate to use commodity prices for steel rather than steel manufacturing companies. We still witness the same divergence -- steel is up while oil is down. On the other hand, it's not as if this signal is unanimous. Copper, for example, which is also used in pretty much everything is down in lockstep with oil. What do you think?"

I'll let you know if I hear back.

at 4:30

Nicolas wrote back and said that he'd forward it to the other members of the team. I think he's just their sales guy. Anyways, I responded:

"Thanks Nicolas. I'm talking about this with a colleague [JTR] and we're thinking that
steel is likely surging b/c of the infrastructure buildout in the US and China
whereas copper may be used more in electronics than roads and bridges. Do let
me know what the rest of the team thinks, I'll be very interested."

More Ukraine

Apparently the hryvnia reversed it's sharp decline at least temporarily. Here's Bloomberg News from this morning:

"Dec. 19 (Bloomberg) -- Ukraine’s hryvnia jumped 10 percent
against the dollar, the most in seven weeks, after the central
bank increased its key interest rate for the second time in two
days.
The currency climbed to 8.2500 per dollar by 12:55 p.m. in
Kiev, from 9.1000 yesterday. The central bank raised the
refinancing rate to 22 percent from 18 percent, after increasing
it one percentage point yesterday."

Wow, 22% overnight rate. That compares to, umm..... zero percent in the US. I mean, I'm not saying that I think ZIRP is the greatest things since sliced break and I'm not saying that Urkaine has many other options to stem the decline in the currency and thus remain solvent but... a 22% overnight rate... cuz that's not going to stifle the econnomy at all....

More Ecuador

Goldman apparently thinks that after the default Ecuador will abandon dollarization:

"Dec. 17 (Bloomberg) -- Ecuador’s default on $3.9 billion of
international bonds means it’s only a matter of time before the
country drops the U.S. dollar as its currency, Goldman Sachs
Group Inc. says.
Ecuador’s use of the dollar gives President Rafael Correa no
outlet for providing credit to the economy as access to foreign
financing dries up and revenue from sales of oil, the nation’s
biggest export, tumbles. Correa, a critic of so-called
dollarization, also may use the default as an excuse to abandon
the policy, said Alberto Ramos, a Latin America economist with
Goldman Sachs in New York."

I would bet that in that case you end up with a huge surge in inflation. Ecuador's economy will need to be financed somehow and, as the article says, with int'l capital mkts drying up (and who can blame them if Ecuador has defaulted on every sovereign bond they have ever issued) and with oil at $45... where's the money come from? To quote Ben Bernanke: "The [Ecuadorian] government has a technology called a printing press..." Welcome back to Latin America in the 90s. Overvalued currencies, currency boards or outright dollarization, currency mismatches, and debt defaults.

Then again, I would bet my left hand on this assessmet. Over the summer Goldman forecast an oil price of up to $250 by year-end. Granted, that was the upper limit of their forecast but... $50 is a far way from $250.

More Ukraine

Wow, if you're Ukraine, you're really getting effed right now:

"Dec. 18 (Bloomberg) -- OAO Gazprom, Russia’s natural-gas
exporter, threatened to halt supplies to Ukraine on Jan. 1 should
the country fail to pay debts for November and December sales.

The company has received $800 million from Ukraine, along
with notification that no more will be paid before the end of the
year for supplies in November and December, Gazprom spokesman
Sergei Kupriyanov told reporters in Moscow today."

Ukraine

I'm reading this in the news this morning:
"Dec. 18 (Bloomberg) -- Ukraine’s hryvnia plunged 16 percent in two days to a record low against the dollar after a government official said the weakening currency may trigger defaults on more than half of loans."

Errrr.... that strikes me as supremely dumb. So last month the IMF provided a $16.5 billion package to the Ukraine to help avert a default. If a lot of your debt is denominated in US Dollars (, which it is for many smaller developing economies even though the larger ones have made big strides in issuing local currency denominated debt) then you can get really effed if your currency depreciated against the dollar but you're still on the hook for repaying the debt in dollars. It's not necessarily just poor fiscal management that can get a country into this position. Sure, that was probably the case in e.g. Argentina in the 90s/2001/2002 but take Russia now for instance. They are sitting on 400-something billion in reserves, which are the result of some prudent fiscal management. And their currency fell 10% (against the Euro -- a bit more the appropriate benchmark for them) since the beginning of the month and 14% since November. Investors have pulled out more than $200 billion since August. And why? Well, in part b/c the banking sector is shoddy and b/c Russia has a past of currency crises so that amplifies jitteriness, which is obviously really bad if you're in a tight spot with your currency. But a good deal of it was a huge degreee of risk aversion because of the August campaign and b/c of the repatriation of rik capital to the US, Europe, etc (b/c people, and by people I mean banks, needed to reduce leverage). So not really b/c of poor fiscal management.

So let's say Ukraine wasn't a huge spendthrift and so the popular word "bailout" that's being used for the IMF package is not really appropriate and it's a legitimate effort, etc. If the IMF lends you 16.5 billion so you can stabilize the currency so you don't have to default on your dollar-denominated debt... it seems really stupid to then say: "We may have to default on our dollar-denomianted debt." B/c that immediately undermines the confidence the IMF package was supposed to give, makes investors pull out money, depreciates the currency and.... as a result you'll have to default on your dolalr-denominated debt. It just seems so silly.

Ukraine credit default swaps trade at 30%. In contrast, Russian CDSs trade at 7.5%. (that means that to insure $1 million in Ukraine debt you'll have to pay someone 300 grand.) Here's a graph of the hryvnia (up means worth less b/c it means you'll have to pay more hryvnias for one US dollar):

There's more to write about this but...

... for now let me just highlight that the Fed cut 75 basis points today (that's 0.75%). So the Fed Funds target rate is now at 0.25%. The effective rate, however, has been close to zero for a while now. Let's see if soon we'll have to pay to lend money out.

Ecuador

As you probably know, Ecuador formally defaulted on part of its debt. I guess there's a reason why it's (was) the highest-yielding debt in Latam. The way they went about it is a little wonky b/c they first announced that they would just not pay the coupon on time or maybe not at all. (If you're not a finance person: When countries or corporations put out bonds they say: "Okay, you give me a thousand bucks. I give you this bond and every six months [or year or whatever] you get a 'coupon', a fixed payment of e.g. 10 bucks [hence, fixed income.] Then at the end of out agreement, let's say ten years, I pay you back the 1000 bucks and you will have gotten your money back plus 2*10 years * $10 = $200." And that obviously implies a certain interest rate. If you miss one of those "interest payments", the coupons, you are technically defaulting on your debt.) But the coupon payment that was due was just $30 million, hardly a ton of money, even for Ecuador. Then a day later they said that they just wouldn't pay back the debt at all.

But... why did they default on the coupon first? i mean, technically, that's a default and triggers all the consequences so I'm not sure why if they are already in default they didn't just say "Eff it, we're just not gonna pay any of it back" right away.

The other wonky thing is that Ecuador claims that these particular bonds are "illegal" and so they shouldn't be on the hook for them. I don't know the actual argument but would be interested. But then one of my coworkers said that apparently Ecuador has never issued a sovereign (i.e. national, issued by the state) bond that it has not defaulted on. Really? Whaaaaat? I find that hard to believe. But I don't really know how to verify it. But isn't that crazy? Again, no wonder it is/was the highest-yielding debt in Latin America. I mean, the annualized yield on an Ecuadorian bond is north of 20%. If you could be sure to get your money back, what a crazy return would that be? But that's (obviously) just it. My friend Luther keeps saying that there are some inflation-protected Brazilian bonds that yield 20%. hmmm......

Argentina

Argentina, once again, pulled off a pretty spectacular stunt. First, the country is running into financing problems. But, in part b/c they defaulted on their debt in 2002 without any serious plans for restructuring -- which I, in my master's thesis, said was not necessarily as bad as typical orthodox economics suggests--they couldn't access capital markets very easily to finance their fiscal deficit (another victim of the commodity downturn, btw.) So... what does Cristina Kirchner (who is rumored to be bipolar) do? She nationalizes the pension plans to plug the hole. So imagine someone says: "Errr... your 401K... that's now mine." And then... b/c the economy is so bad, what do you do? Right! Fiscal stimulus. Except you don't have any money b/c you have all this deficit in the first place. So then... you turn around and take the money from the confiscated pension plans that you were going to use to pay down the deficit and you announce a fiscal stimulus funded with that. It's really pretty brilliant, if you think about it.