GMAC Foreclosures Included Treehouses, Forts, Crystalair.com


HORSHAM, Penn. (CAP) – Internal memos and other documents covertly obtained by CAP News show that mortgage company GMAC‘s questionable foreclosure practices included not only the so-called “robo-signing” of tens of thousands of foreclosures on single family dwellings, but also children’s treehouses, public outhouses and in one case, an 8-year-old German Shepherd‘s dog house.

“We’ve only audited less than one percent of GMAC’s September filings and already we’ve found so much fraudulent activity it would make Bernie Madoff roll over in his grave,” said Penn. State Attorney General Tom Corbett. “You know, if he were dead.”

Corbett said his office uncovered one situation where a Philadelphia girl was told by her mother to go clean up her Barbies before dinner but upon arriving in the living room found the front door to her Barbie Pink World 3-Story Dream Townhouse locked and all the furniture strewn across the living room floor. “And to make matters worse, her Ken had run off with her best friend’s Barbie,” added Corbett.

Other scenarios played out similarly. A Scranton man who asked not to be identified said his son came running into the house crying one Saturday because he tried to climb into his treehouse only to find that another boy he didn’t know was playing Matchbox cars there. Numerous attempts to bribe the boy with candy failed to get him to emerge from the treehouse.

“And now my kid’s inside just sitting on the couch watching TV,” said the father. “If he becomes lazy and obese because of this, I’m gonna sue.”

GMAC isn’t alone. Both Citigroup and Bank Of America have also come under fire for signing documents without fully reviewing them, which somehow extended beyond foreclosures to include other loan approvals, faked autographs on sports memorabilia, and a permission slip for one office worker’s child’s school field trip to Fred’s Museum Of Science.

“Totally fraudulent – that science museum has been closed for months,” said Mass. Attorney General Martha Coakley. “And I’m pursuing a case against Super Duper Foreclosures, Inc. too. Something’s just not right about that.”

Other state attorneys general are joining the fight with Corbett and vowing to put an end to the unscrupulous foreclosures, “if it’s the last thing we do” – which for many of the Democratic incumbents seeking re-election this fall, it may be.

“What we need is a hard-target foreclosure check of every gas station, residence, warehouse, farmhouse, henhouse, outhouse and doghouse in the area,” said Iowa Attorney General Tom Miller. “Every duplicitous foreclosure means one less vote for me. Go get ’em!”

Pundits note that President Obama has been noticeably absent from any of the foreclosure brouhaha, but administration sources say he’s still dealing with the long-term fallout from when the White House was foreclosed on President Bush in 2007. He also has reportedly stationed secret service agents inside the fort on Sasha and Malia’s play structure to ensure the first family “doesn’t fall victim to a middle-class problem.”

“Who knew when we bailed out those people who couldn’t afford their mortgages a year and a half ago that they’d all end up in foreclosure now,” said Obama. “Not me, that’s for sure. Funny how it worked out like that.”

Signs Hyperinflation Is Arriving, by Gonzalo Lira


This post is gonna be short and sweet—and scary:

Back in late August, I argued that hyperinflation would be triggered by a run on Treasury bonds. I described how such a run might happen, and argued that if Treasuries were no longer considered safe, then commodities would become the store of value.

 

Such a run on commodities, I further argued, would inevitably lead to price increases and a rise in the Consumer Price Index, which would initially be interpreted by the Federal Reserve, the Federal government, as well as the commentariat, as a good thing: A sign that “the economy is recovering”, a sign that “normalcy” was returning.
I argued that—far from being “a sign of recovery”—rising CPI would be the sign that things were about to get ugly.
I concluded that, like the stagflation of ‘79, inflation would rise to the double digits relatively quickly. However, unlike in 1980, when Paul Volcker raised interest rates severely in order to halt inflation, in today’s weakened macro-economic environment, that remedy is simply not available to Ben Bernanke.

Therefore, I predicted that inflation would spiral out of control, and turn into hyperinflation of the U.S. dollar.

A lot of people claimed I was on drugs when I wrote this.

Now? Not so much.

In my initial argument, I was sure that there would come a moment when Treasury bond holders would realize that they are the New & Improved Toxic Asset—as everyone knows, there is no way the U.S. Federal government can pay the outstanding debt it has: It’s simply too big.

So I assumed that, when the market collectively realized this, there would be a panic in Treasuries. This panic, of course, would lead to the spike in commodities.

However, I am no longer certain if there will ever be such a panic in Treasuries. Backstop Benny has been so adroit at propping up Treasuries and keeping their yields low, the Stealth Monetization has been so effective, the TBTF banks’ arbitrage trade between the Fed’s liquidity windows and Treasury bond yields has been so lucrative, and the bond market itself is so aware that Bernanke will do anything to protect and backstop Treasuries, that I no longer think that there will necessarily be such a panic.
But that doesn’t mean that the second part of my thesis—commodities rising, which will trigger inflation, which will devolve into hyperinflation—will not occur.
In fact, it is occurring.

The two key commodities that have been rising as of late are oil and grains, specifically wheat, corn and livestock feed. The BLS report on Producer Price Index of commodities is here.

Grains as a class have risen over 33% year-over-year. Refined oil products have risen just shy of 13%, with home heating oil rising 18% year-over-year. In other words: Food, gasoline and heating oil have risen by double digits since 2009. And the 2010-‘11 winter in the northern hemisphere is approaching.

A friend of mine, SB, a commodities trader, pointed out to me that big producers are hedged against rising commodities prices. As he put it to me in a private e-mail, “We sometimes forget that the commodity markets aren’tsolely speculative. Most futures contracts are bought by companies whouse those commodities in their products, and are thus hedging their costs to produce those products.”

Very true: But SB also pointed out that, hedged or not, the lag time between agricultural commodities and the markets is about six-to-nine months, on average. So he thought that the rise in grains, which really took off in June–July, would hit the supermarket shelves in January–March.

He also pointed out that, with higher commodity costs and lower consumption, companies are going to be between the Devil and the deep blue sea. My own take is, if you can’t get more customers, then you’re just gonna have to charge more from the ones you got.

Coupled to these price increases is the ongoing Currency War: The U.S.—contrary to Secretary Timothy Geithner’s statements—is trying to debase the dollar, so as to make U.S. exports more attractive to foreign consumers. This has created strains with China, Europe and the emerging markets.

A beggar-thy-neighbor monetary policy works for small countries getting out of a hole of their own making: It doesn’t work for the world’s largest single economy with the world’s reserve currency, in the middle of a Global Depression.

On the contrary, it creates a backlash; the ongoing tiff over rare-earth minerals with China is just the beginning. This could easily be exacerbated by clumsy politicking, and turn into a full-on trade war.

What’s so bad with a trade war, you ask? Why nothing, not a thing—if you want to pay through the nose for imported goods. If you enjoy paying 10, 20, 30% more for imported goods—then hey, let’s just stick it to them China-men! They’re still Commies, after all!

Furthermore, as regards the Federal Reserve policy, the upcoming Quantitative Easing 2, and the actions of its chairman, Ben Bernanke: There is an increasing sense in the financial markets that Backstop Benny and his Lollipop Gang don’t have the foggiest clue about what they’re doing.

Consider:

Bruce Krasting just yesterday wrote a very on-the-money précis of the trial balloons the Fed is floating, as regards to QE2: Basically, Bernanke through his WSJ mouthpiece said that the Fed was going to go for a cautious, incrementalist approach, vis-à-vis QE2: “A couple of hundred billion at a time”. You know: “Just the tip—just to see how it feels.”

But then on the other hand, also just yesterday, Tyler Durden at Zero Hedge had a justifiable freak-out over the NY Fed asking Primary Dealers for their thoughts on the size of QE2. According to Bloomberg, the NY Fed was asking the dealers how big they thought QE2 would be, and how big they thought itought be: $250 billion? $500 billion? A trillion? A trillion every six months? (Or as Tyler pointed out, $2 trillion for 2011.)

That’s like asking a bunch of junkies how much smack they want for the upcoming year—half a kilo? A full kilo? Two kilos?

What the hell you think the junkies are gonna say?

Between BK’s clear reading of the tea leaves coming from the Wall Street Journal, and TD’s also very clear reading of the tea leaves by way of Bloomberg, you’re getting a seriously contradictory message: The Fed is going to lightly tap-tap-tap liquidity into the markets—just a little—just a few hundred billion dollars at a time—

—while at the same time, the Fed is saying to the Primary Dealers, “We’re gonna make you guys happy-happy-happy with a righteously sized QE2!”

The contradictory messages don’t pacify the financial markets—on the contrary, they make the markets simultaneously contemptuous of Bernanke and the Fed, while very frightened as to what they will ultimately do.

What happens when the financial markets don’t really know what the central bank is going to do, and suspect that the central bankers themselves aren’t too clear either?

Guess.

So to sum up, we have:

• Rising commodity prices, the effects of which (because of hedging) will be felt most severely in the period January–March of 2011.

• A beggar-thy-neighbor race-to-the-bottom Currency War, that might well devolve into a Trade War, which would force up prices on imported goods.

• A Federal Reserve that does not seem to know what it is doing, as regards another round of Quantitative Easing, which is making the financial markets very nervous—nervous about the Fed’s ultimate responsibility, which is safeguarding the U.S. dollar.

• A U.S. economy that is weak to the point of collapse, where not even 0.25% interest rates are sparking investment and growth—and which therefore prohibits the Fed from raising interest rates, if need be.

• A U.S. fiscal deficit which is close to 10% of GDP annually, and which is therefore unsustainable—especially considering that the total U.S. fiscal debt is well over 100% of GDP.

These factors all point to one and the same thing:

An imminent currency collapse.

Therefore, I am confident in predicting the following sequence of events:

• By March of 2011, once higher commodity prices reach the marketplace, monthly CPI will be at an annualized rate of not less than 5%.

• By July of 2011, annualized CPI will be no less than 8% annualized.

• By October of 2011, annualized CPI will have crossed 10%.

• By March of 2012, annualized CPI will cross the hyperinflationary tipping point of 15%.

After that, CPI will rapidly increase, much like it did in 1980.

What the mainstream commentariat will make of all this will be really something: When CPI reaches 5% by the winter of 2011, pundits and economists and the Fed and the Obama administration will all say the same thing: “Happy days are here again! People are spending! The economy is back on track!”

However, by the late spring, early summer of 2011, people will realize what’s going on—and the Federal Reserve will initially be unwilling to drastically raise interest rates so as to quell inflation.

Actually, the Fed won’t be able to raise rates, at least not like Volcker did back in 1980: The U.S. economy will be too weak, and the Federal government’s balance sheet will be too distressed, with it’s $1.5 trillion deficit. So at first, the Fed will have to let the rising inflation rate slide, and keep trying hard to explain it away as “a sign of a recovering economy”.

Once the Fed realizes that the rising CPI is not a sign of a reignited economy, but rather a sign of the collapsing dollar, they will pursue a puerile “inflation fighting” scheme of incremental interest rate hikes—much like G. William Miller, the Chairman of the Fed from January of ‘78 to August of ‘79, pursued so unsuccessfully.

2012 will be the bad year: I predict that hyperinflation’s tipping point will be no later than the first quarter of 2012. From there, it will accelerate. By the end of 2012, I would not be surprised if the CPI for the year averaged 30%.

By that point, the rest of the economy—unemployment, GDP, all the rest of it—will be in the toilet. By that point, the rest of the economy will no longer matter: The collapsing dollar will make 2012 the really really bad year of our Global Depression—which is actually kind of funny.

It’s funny because, as you know, I am a conservative Catholic: I of course put absolutely no stock in the ridiculous notion that “The Mayans predicted our civilization’s collapse in 2012!”—that’s all rubbish, as far as I’m concerned.

It’s just one of those cosmic jokes that 2012 will turn out to be the year the dollar collapses, and the larger world economies go down the tubes.

As cosmic jokes go, all I’ve got to say is this:

Good one, God.

Gonzalo Lira’s  Blog
http://gonzalolira.blogspot.com

 

The Obama Foreclosure Relief Package What it Contains and How to Determine If You Qualify, Expertforeclosurehelper.com


Official presidential portrait of Barack Obama...

Image via Wikipedia

On Wednesday, February 18, President Obama unveiled his administration’s latest attempt to stabilize prices in the housing market and help stop the rising tide of foreclosures. Will this plan be any better than the half-dozen that the Bush administration passed? With a $275 billion price tag, we should expect the foreclosure problem to be resolved, but this latest bailout act seems to be just another way to avoid helping homeowners.
As with the FHA Hope for Homeowners Act, Obama’s newest plan is simply out of the financial reach of many homeowners. The requirements are quite strict, which should have been no surprise when the president announced a longer list of people who would not be helped by the plan than who would receive assistance. But taking hundreds of billions of dollars away from homeowners, employers, and everyone else to avoid helping people will not promote economic recovery.
As the government spreads pain and misery around the economy, redistributing poverty from the banks to the rest of us, homeowners may not want to put too much hope in this latest plan. But for those interested in having another government-sponsored program to stop foreclosure, the following is a list some of the requirements to qualify for the plan.
To qualify for a foreclosure refinance loan from the government at a fixed rate of around 4-5% for 15-30 years fixed, all of the following requirements must be met:
  • The loan must be a conforming loan under Fannie Mae and Freddie mac guidelines.
  • The mortgage must be owned by either of the Government Sponsored Enterprises, Fannie Mae or Freddie Mac.
  • Alternatively, the loan may have been sold by Fannie Mae or Freddie Mac in a mortgage security.
  • The homeowners are not currently behind on payments or have a history of on-time payments.
  • The homeowners must continue to pay any second mortgage on the property even after the refinance.
  • The first mortgage on the house must not be more than 5% of the fair market value of the property, or it must be written down to that amount. For example, if the house is worth $100,000, the first mortgage may not be more than $105,000.
Looking at this list of requirements, it will become apparent that many, many homeowners will not qualify for this program with current housing market declines. Borrowers with 80/20 loans whose home values have fallen under the amount due on the first mortgage will have to keep paying on the second mortgage, as well as either pay down the first or have the bank agree to reduce the balance due.
And this program is voluntary for banks who have not received federal bailout money from the Troubled Assets Relief Program (TARP). While most of the big banks have received funds, many smaller regional banks have not — and these banks may not be willing to write down the value of their loans by 10-20%. Writing down the value of bad mortgage securities is what has caused so many paper losses on bank balance sheets already; it is inconceivable that many struggling banks will want to admit to even more.
There is also a second part of the bailout plan that may allow homeowners to qualify for a government-guaranteed mortgage modification program. This involves the bank modifying the loan to be within 38% of the borrowers’ gross income and the government stepping in with money to help reduce the payment to 31%. The requirements for this part of the plan are the following:
  • The mortgage must be conforming under Fannie and Freddie guidelines — jumbo loans are not permitted.
  • This program must be done on a principal residence — investment homes, second homes, or vacation properties do not qualify.
  • The homeowners must be in danger of default on the loan or have already defaulted. In danger of default can be a mortgage where the payment is more than 31% of the borrowers’ gross (before tax) income.
  • The lender must be willing to modify the mortgage to reduce the homeowners’ monthly payment to 38% of their gross income or less.
While the new bailout program gives banks more incentives to negotiate with borrowers, it may not give enough to convince banks to change their normal business practices and dedicate more resources to helping homeowners. As mentioned above, participation is voluntary, except for banks that have received TARP money and Fannie Mae and Freddie Mac, which are under government conservatorship.
Does the plan go too far? Some critics point out that using taxpayer money to bail out failing banks or failing individual borrowers will only create more moral hazard in the future. Once debts are paid back or discharged and banks loosen up lending, there will be a strong incentive to reinflate a housing bubble, especially in the presence of low interest rate targets set by the government. A new bubble and collapse will send all of the same players back for more government bailouts.
Or does the plan not go far enough? Other critics point out that this is not nearly enough money that the government is taking away from taxpayers to bail out the housing market. Property values fall for everyone in areas hard hit by foreclosure, so it is in everyone’s best interest to do whatever it takes to prevent more foreclosures, or so the argument goes.
In either case, the full details of the plan will be released on March 4th, which gives all of us a week to contemplate how the government’s latest bailout plan will save the housing market. Unfortunately, previous plans have failed to assist many borrowers, and this plan seems to offer little in the way of really novel proposals. For most homeowners facing foreclosure, it will probably be best to keep looking at other options, in addition to considering receiving mortgage assistance from the federal government.
The ForeclosureFish website has been created to provide homeowners in danger of losing their properties with relevant and importantforeclosure help and advice. The site describes various methods that may be used to save a home, such as foreclosure loans, mortgage modification, filing bankruptcy (Chapter 7 or 13), and more. Visit the site to read more about how to save a home, what options may be applicable in your situation, and how to recover afterwards:http://www.foreclosurefish.com/

Fha Loan Limits Get More Flexible, Thetruthaboutmortgage.com


Logo of the Federal Housing Administration.

Image via Wikipedia

A FHA loan requirement that the sum of all liens not exceed the maximum geographical loan limit has been eliminated, according to a Mortgagee Letter from HUD.

Previously, the sum of all liens (first and second mortgages) could not exceed the geographical maximum mortgage limit for both purchase and refinance transactions.

In other words, even if the first mortgage was below the maximum loan limit, an associated second mortgage could push it beyond the limit and disqualify the loan from FHA financing.

For example, in Los Angeles county the maximum loan amount for a FHA loan is $729,750, meaning a loan of that size wouldn’t qualify for FHA financing if it had a second mortgage behind it.

Going forward, only the FHA-insured first lien is subject to this maximum loan limit.

However, FHA still requires that the combined loan amount of the FHA-insured first mortgage and any subordinate lien(s) not exceed the applicable FHA loan-to-value (LTV) ratio, which is generally 96.5 percent.

The FHA has made a number of changes recently to improve its balance sheet, including the introduction of a minimum credit score requirement and higher mortgage insurance premiums.

FHA loans accounted for a staggering 37 percent of all first mortgages in 2009, up from 26 percent in 2008 and just seven percent in 2007.

Bernanke Leaps into a Liquidity Trap, by John P. Hussman, Ph.D., Hussmanfunds.com


“There is the possibility… that after the rate of interest has fallen to a certain level, liquidity preference is virtually absolute in the sense that almost everyone prefers cash to holding a debt at so low a rate of interest. In this event, the monetary authority would have lost effective control.”

John Maynard Keynes, The General Theory

One of the many controversies regarding Keynesian economic theory centers around the idea of a “liquidity trap.” Apart from suggesting the potential risk, Keynes himself did not focus much of his analysis on the idea, so much of what passes for debate is based on the ideas of economists other than Keynes, particularly Keynes’ contemporary John Hicks. In the Hicksian interpretation of the liquidity trap, monetary policy transmits its effect on the real economy by way of interest rates. In that view, the loss of monetary control occurs because at some point, a further reduction of interest rates fails to stimulate additional demand for capital investment.

Alternatively, monetary policy might transmit its effect on the real economy by directly altering the quantity of funds available to lend. In that view, a liquidity trap would be characterized by the failure of real investment and output to expand in response to increases in the monetary base (currency and reserves).

In either case, the hallmark of a liquidity trap is that holdings of money become “infinitely elastic.” As the monetary base is increased, banks, corporations and individuals simply choose to hold onto those additional money balances, with no effect on the real economy. The typical Econ 101 chart of this is drawn in terms of “liquidity preference,” that is, desired cash holdings, plotted against interest rates. When interest rates are high, people choose to hold less cash because cash doesn’t earn interest. As interest rates decline toward zero (and especially if the Fed chooses to pay banks interest on cash reserves, which is presently the case), there is no effective difference between holding riskless debt securities (say, Treasury bills) and riskless cash balances, so additional cash balances are simply kept idle.

 

 

Velocity

A related way to think about a liquidity trap is in terms of monetary velocity: nominal GDP divided by the monetary base. (The identity, which is true by definition, is M * V = P * Y. The monetary base times velocity is equal to the price level times real output).

Velocity is just the dollar value of GDP that the economy produces per dollar of monetary base. You can also think of velocity as the number of times that one dollar “turns over” each year to purchase goods and services in the economy. Rising velocity implies that money is “turning over” more rapidly, so that nominal GDP is increasing faster than the stock of money. If velocity rises, holding the quantity of money constant, you’ll observe either growth in real output or inflation. Falling velocity implies that a given stock of money is being hoarded, so that nominal GDP is growing slower than the stock of money. If velocity falls, holding the quantity of money constant, you’ll observe either a decline in real GDP or deflation.

The belief that an increase in the money supply will result in an increase in GDP relies on the assumption that velocity will not decline in proportion to the increase in money. Unfortunately for the proponents of “quantitative easing,” this assumption fails spectacularly in the data – both in the U.S. and internationally –particularly at zero interest rates.

How to spot a liquidity trap

The chart below plots the velocity of the U.S. monetary base against interest rates since 1947. Since high money holdings correspond to low velocity, the graph is simply the mirror image of the theoretical chart above.

Few theoretical relationships in economics hold quite this well. Recall that a Keynesian liquidity trap occurs at the point when interest rates become so low that cash balances are passively held regardless of their size. The relationship between interest rates and velocity therefore goes flat at low interest rates, since increases in the money stock simply produce a proportional decline in velocity, without requiring any further decline in yields. Notice the cluster of observations where interest rates are zero? Those are the most recent data points.

One might argue that while short-term interest rates are essentially zero, long-term interest rates are not, which might leave some room for a “Hicksian” effect from QE – that is, a boost to investment and economic activity in response to a further decline in long-term interest rates. The problem here is that longer-term interest rates, in an expectations sense, are already essentially at zero. The remaining yield on longer-term bonds is a risk premium that is commensurate with U.S. interest rate volatility (Japanese risk premiums are lower, but they also have nearly zero interest rate variability). So QE at this point represents little but an effort to drive risk premiums to levels that are inadequate to compensate investors for risk. This is unlikely to go well. Moreover, as noted below, the precise level of long-term interest rates is not the main constraint on borrowing here. The key issues are the rational desire to reduce debt loads, and the inadequacy of profitable investment opportunities in an economy flooded with excess capacity.

One of the most fascinating aspects of the current debate about monetary policy is the belief that changes in the money stock are tightly related either to GDP growth or inflation at all. Look at the historical data, and you will find no evidence of it. Over the years, I’ve repeatedly emphasized that inflation is primarily a reflection of fiscal policy – specifically, growth in the outstanding quantity of government liabilities, regardless of their form, in order to finance unproductive spending. Look at the experience of the 1970’s (which followed large expansions in transfer payments), as well as every historical hyperinflation, and you’ll find massive increases in government spending that were made without regard to productivity (Germany’s hyperinflation, for instance, was provoked by continuous wage payments to striking workers).

Likewise, real economic growth has no observable correlation with growth in the monetary base (the correlation is actually slightly negative but insignificant). Rather, economic growth is the result of hundreds of millions of individual decision-makers, each acting in their best interests to shift their consumption plans, saving, and investment in response to desirable opportunities that they face. Their behavior cannot simply be induced by changes in the money supply or in interest rates, absent those desirable opportunities.

You can see why monetary base manipulations have so little effect on GDP by examining U.S. data since 1947. Expand the quantity of base money, and it turns out that velocity falls in nearly direct proportion. The cluster of points at the bottom right reflect the most recent data.

[Geek’s Note: The slope of the relationship plotted above is approximately -1, while the Y intercept is just over 6%, which makes sense, and reflects the long-term growth of nominal GDP, virtually independent of variations in the monetary base. For example, 6% growth in nominal GDP is consistent with 0% M and 6% V, 5% M and 1% V, 10% M and -4% V, etc. There is somewhat more scatter in 3-year, 2-year and 1-year charts, but it is random scatter. If expansions in base money were correlated with predictably higher GDP growth, and contractions in base money were correlated with predictably lower GDP growth, the slope of the line would be flatter and the fit would still be reasonably good. We don’t observe this.]

Just to drive the point home, the chart below presents the same historical relationship inJapanese data over the past two decades. One wonders why anyone expects quantitative easing in the U.S. to be any less futile than it was in Japan.

Simply put, monetary policy is far less effective in affecting real (or even nominal) economic activity than investors seem to believe. The main effect of a change in the monetary base is to change monetary velocity and short term interest rates. Once short term interest rates drop to zero, further expansions in base money simply induce a proportional collapse in velocity.

I should emphasize that the Federal Reserve does have an essential role in providing liquidity during periods of crisis, such as bank runs, when people are rapidly converting bank deposits into currency. Undoubtedly, we would have preferred the Fed to have provided that liquidity in recent years through open market operations using Treasury securities, rather than outright purchases of the debt securities of insolvent financial institutions, which the public is now on the hook to make whole. The Fed should not be in the insolvency bailout game. Outside of open market operations using Treasuries, Fed loans during a crisis should be exactly that, loans – and preferably following Bagehot’s Rule (“lend freely but at a high rate of interest”). Moreover, those loans must be senior to any obligation to bank bondholders – the public’s claim should precede private claims. In any event, when liquidity constraints are truly binding, the Fed has an essential function in the economy.

At present, however, the governors of the Fed are creating massive distortions in the financial markets with little hope of improving real economic growth or employment. There is no question that the Fed has the ability to affect the supply of base money, and can affect the level of long-term interest rates given a sufficient volume of intervention. The real issue is that neither of these factors are currently imposing a binding constraint on economic growth, so there is no benefit in relaxing them further. The Fed is pushing on a string.

Toy blocks

Certain economic equations and regularities make it tempting to assume that there are simple cause-effect relationships that would allow a policy maker to directly manipulate prices and output. While the Fed can control the monetary base, the behavior of prices and output is based on a whole range of factors outside of the Fed’s control. Except at the shortest maturities, interest rates are also a function of factors well beyond monetary policy.

Analysts and even policy makers often ignore equilibrium, preferring to think only in terms of demand, or only in terms of supply. For example, it is widely believed that lower real interest rates will result in higher economic growth. But in fact, the historical correlation between real interest rates and GDP growth has been positive – on balance, higher real interest rates are associated with higher economic growth over the following year. This is because higher rates reflect strong demand for loans and an abundance of desirable investment projects. Of course, nobody would propose a policy of raising real interest rates to stimulate economic activity, because they would recognize that higher real interest rates were an effect of strong loan demand, and could not be used to cause it. Yet despite the fact that loan demand is weak at present, due to the lack of desirable investment projects and the desire to reduce debt loads (which has in turn contributed to keeping interest rates low), the Fed seems to believe that it can eliminate these problems simply by depressing interest rates further. Memo to Ben Bernanke: Loan demand is inelastic here, and for good reason. Whatever happened to thinking in terms of equilibrium?

Neither economic growth nor the demand for loans are a simple function of interest rates. If consumers wish to reduce their debt, and companies do not have a desirable menu of potential investments, there is little benefit in reducing interest rates by another percentage point, because the precise cost of borrowing is not the issue. The current thinking by the FOMC seems to treat individual economic actors as little unthinking toy blocks that can be moved into the desired position at will. Instead, our policy makers should be carefully examining the constraints and interests that are important to people and act in a way that responsibly addresses those constraints.

A good example of this “toy block” thinking is the notion of forcing individuals to spend more and save less by increasing people’s expectations about inflation (which would drive real interest rates to negative levels). As I noted last week, if one examines economic history, one quickly discovers that just as lower nominal interest rates are associated with lower monetaryvelocity, negative real interest rates are associated with lower velocity of commodities(hoarding). Look at the price of gold since 1975. When real interest rates have been negative (even simply measured as the 3-month Treasury bill yield minus trailing annual CPI inflation), gold prices have appreciated at a 20.7% annual rate. In contrast, when real interest rates have been positive, gold has appreciated at just 2.1% annually. The tendency toward commodity hoarding is particularly strong when economic conditions are very weak and desirable options for real investment are not available. When real interest rates have been negative and the Purchasing Managers Index has been below 50, the XAU gold index has appreciated at an 85.7% annual rate, compared with a rate of just 0.1% when neither has been true. Despite these tendencies, investors should be aware that the volatility of gold stocks can often be intolerable, so finer methods of analysis are also essential.

Quantitative easing promises to have little effect except to provoke commodity hoarding, a decline in bond yields to levels that reflect nothing but risk premiums for maturity risk, and an expansion in stock valuations to levels that have rarely been sustained for long (the current Shiller P/E of 22 for the S&P 500 has typically been followed by 5-10 year total returns below 5% annually). The Fed is not helping the economy – it is encouraging a bubble in risky assets, and an increasingly unstable one at that. The Fed has now placed itself in the position where small changes in its announced policy could have disastrous effects on a whole range of financial markets. This is not sound economic thinking but misguided tinkering with the stability of the economy.

Implications for Policy

In 1978, MIT economist Nathaniel Mass developed a framework for the liquidity trap based on microeconomic theory – rational decisions made at the level of individual consumers and firms. The economic dynamics resulting from the model he suggested seem strikingly familiar in the context of the recent economic downturn. They offer a useful way to think about the current economic environment, and appropriate policy responses that might be taken.

“The theory revolves around a set of forces that for a period of time promote cumulative expansion of capital formation, but eventually lead to overexpansion of capital production capacity and then into a situation where excess capacity strongly counteracts expansionary monetary policies.

“The capital boom followed by depression runs much longer than the usual short-term business cycle, and is powerfully driven by capital investment interactions. The weak impact of monetary stimulus on real activity arises because additional money has little force in stimulating additional capital investment during a period of general overcapacity. Instead, money is withheld in idle balances when profitable investment opportunities are scarce.”

In one illustration of the model, Mass introduces a monetary stimulus much like what Alan Greenspan engineered following the 2000-2002 recession (which was also preceded by an unusually large buildup of excess capacity, leading to an investment-led downturn). Though Greenspan’s easy-money policy didn’t prompt a great deal of business investment, it did help to fuel the expansion in another form of investment, specifically housing. Mass describes the resulting economic dynamics:

“Following the monetary intervention, relatively easy money provides a greater incentive to order capital… But now the overcapacity that characterizes the peak in the production of capital goods reaches an even higher level than without the stimulus. This overcapacity eventually makes further investment even less attractive and causes the decline in capital output to proceed from a higher peak and at a faster pace. Due to persistent excess capital which cannot be reduced as fast as labor can be cut back to alleviate excess production, unemployment actually remains higher on the average following the drop in production.”

In what reads today as a further warning against Bernanke-style quantitative easing, Mass observed:

“Even aggressive monetary intervention can do little to correct excess capital.. Once excess capacity develops, the forces that previously led to aggressive expansion are almost played out. Efforts to prolong high investment can produce even more excess capital and lead to a more pronounced readjustment later.”

Mass concluded his 1978 paper with an observation from economist Robert Gordon:

“Why was the recovery of the 1930’s so slow and halting in the United States, and why did it stop so far short of full employment? We have seen that the trouble lay primarily in the lack of inducement to invest. Even with abnormally low interest rates, the economy was unable to generate a volume of investment high enough to raise aggregate demand to the full employment level.”

I’ve generally been critical of Keynes’ willingness to advocate government spending regardless of its quality, which focused too little on the long-term effects of diverting private resources to potentially unproductive uses. His remark that “In the long-run we are all dead” was a reflection of this indifference. Still, I do believe that fiscal responses can be useful in a protracted economic downturn, and can include projects such as public infrastructure, incentives for research and development, and investment incentives in sectors that are not burdened with overcapacity. Additional deficit spending is harmful when it fails to produce a stream of future output sufficient to service the debt, so the expected productivity of these projects is the essential consideration. Given present economic conditions, it appears clear that Keynes was right about the dangers of easy monetary policy when an economic downturn results from overcapacity. As I noted last week in The Recklessness of Quantitative Easing, better options are available on the fiscal menu.

Market Climate

As of last week, the Market Climate for stocks remained characterized by an overvalued, overbought, overbullish condition. This has been historically associated with a poor return-risk profile and “negative skew” – a tendency for the market to establish a string of marginal new highs, and for occasional 2-3 day pullbacks to be followed by sharp recoveries. The pattern is for little overall progress, but repeated slight highs, terminating with a steep, abrupt decline that can wipe out weeks or months of gains in a matter of days. In statistical terms, the mode of the distribution is positive, the mean is negative, and the skew is downright wicked.

The Strategic Growth Fund remains fully hedged, with our put strikes raised close to the current market to tighten our downside protection, at a cost of just over 1% of assets in additional time premium. The Strategic International Equity Fund remains largely but not fully hedged against international equity fluctuations. Currency fluctuations typically account for only a small fraction the variability in international returns, so our primary risk is covered by equity hedges, but the Fund also has nearly one-third of its currency risk hedged as well. The Strategic Total Return Fund moved to a fairly defensive stance last week, with an average duration of less than 1.5 years, and only about 3% of assets in precious metals shares, 1% in foreign currencies, and 2% in utility shares. Though we sharply cut our precious metals exposure over the past few weeks on overbought price conditions and other factors, I expect that we’ll continue to vary our exposure opportunistically. The Fed’s insistence on bad policy will probably continue to support commodity hoarding behavior, but commodity market conditions threaten to become very tenuous if economic conditions strengthen. Presently, I remain concerned about additional weakness in employment, housing, and the broad economy, but we’ll take our evidence as it comes.

 

 

 

 

 

 

One might argue that while short-term interest rates are essentially zero, long-term interest rates are not, which might leave some room for a “Hicksian” effect from QE – that is, a boost to investment and economic activity in response to a further decline in long-term interest rates. The problem here is that longer-term interest rates, in an expectations sense, are already essentially at zero. The remaining yield on longer-term bonds is a risk premium that is commensurate with U.S. interest rate volatility (Japanese risk premiums are lower, but they also have nearly zero interest rate variability). So QE at this point represents little but an effort to drive risk premiums to levels that are inadequate to compensate investors for risk. This is unlikely to go well. Moreover, as noted below, the precise level of long-term interest rates is not the main constraint on borrowing here. The key issues are the rational desire to reduce debt loads, and the inadequacy of profitable investment opportunities in an economy flooded with excess capacity.

One of the most fascinating aspects of the current debate about monetary policy is the belief that changes in the money stock are tightly related either to GDP growth or inflation at all. Look at the historical data, and you will find no evidence of it. Over the years, I’ve repeatedly emphasized that inflation is primarily a reflection of fiscal policy – specifically, growth in the outstanding quantity of government liabilities, regardless of their form, in order to finance unproductive spending. Look at the experience of the 1970’s (which followed large expansions in transfer payments), as well as every historical hyperinflation, and you’ll find massive increases in government spending that were made without regard to productivity (Germany’s hyperinflation, for instance, was provoked by continuous wage payments to striking workers).

Likewise, real economic growth has no observable correlation with growth in the monetary base (the correlation is actually slightly negative but insignificant). Rather, economic growth is the result of hundreds of millions of individual decision-makers, each acting in their best interests to shift their consumption plans, saving, and investment in response to desirable opportunities that they face. Their behavior cannot simply be induced by changes in the money supply or in interest rates, absent those desirable opportunities.

You can see why monetary base manipulations have so little effect on GDP by examining U.S. data since 1947. Expand the quantity of base money, and it turns out that velocity falls in nearly direct proportion. The cluster of points at the bottom right reflect the most recent data.

 

Hussmand Funds
http://www.hussmanfunds.com

 

 

Sales of U.S. New Homes Increased Again in September, by Bob Willis, Bloomberg.com


Sales of new homes rose in September for a second month to a pace that signals the industry is struggling to overcome the effects of a jobless rate hovering near 10 percent.

Purchases increased 6.6 percent to a 307,000 annual rate that exceeded the median forecast of economists surveyed by Bloomberg News, figures from the Commerce Department showed today in Washington. Demand is hovering near the record-low 282,000 reached in May.

A lack of jobs is preventing Americans from gaining the confidence needed to buy, overshadowing declines in borrowing costs and prices that are making houses more affordable. At the same time, foreclosure moratoria at some banks, including JPMorgan Chase & Co., signal the industry will redouble efforts to tighten lending rules, which may depress housing even more.

“These are still very low levels,” said Jim O’Sullivan, global chief economist at MF Global Ltd. in New York. “Ultimately, a significant recovery in housing will depend on a clear pickup in employment.”

Another Commerce Department report today showed orders for non-military capital equipment excluding airplanes dropped in September, indicating gains in business investment will cool.

Capital Goods Demand

Bookings for such goods, including computers and machinery meant to last at least three years, fell 0.6 percent after a 4.8 percent gain in August that was smaller than previously estimated. Total orders climbed 3.3 percent last month, led by a doubling in aircraft demand.

Stocks fell, snapping a five-day gain for the Standard & Poor’s 500 Index, on the durable goods report and investor speculation that steps taken by the Federal Reserve to shore up the economy will be gradual. The S&P 500 fell 0.5 percent to 1,179.8 at 10:14 a.m. in New York.

Economists forecast new home sales would increase to a 300,000 annual pace from a 288,000 rate in August, according to the median of 73 survey projections. Estimates ranged from 270,000 to 330,000.

The median price increased 3.3 percent from September 2009 to $223,800.

Purchases rose in three of four regions, led by a 61 percent jump in the Midwest. Purchases dropped 9.9 percent in the West.

Less Supply

The supply of homes at the current sales rate fell to 8 months’ worth, down from 8.6 months in August. There were 204,000 new houses on the market at the end of September, the fewest since July 1968.

Reports earlier this month showed the housing market is hovering at recession levels. Housing starts increased in September to an annual rate of 610,000, the highest since April, while building permits fell to the lowest level in more than a year, signaling construction will probably cool.

Sales of existing homes, which now make up more than 90 percent of the market, increased by 10 percent to a 4.53 million rate in September, the National Association of Realtors said yesterday. The pace was still the third-lowest on record going back a decade.

Home resales are tabulated when a contract is closed, while new-home sales are counted at the time an agreement is signed, making them a leading indicator of demand.

Moratoria’s Influence

Economists are debating the likely effect on new-home sales from the foreclosure moratoria and regulators’ probes into faulty paperwork. Most agree the moratoria pose a risk to housing sales as a whole.

Michelle Meyer, a senior economist at Bank of America Merrill Lynch Global Research in New York, is among those who say the moratoria, by limiting the supply of existing homes, may lift demand for newly built houses in coming months.

“There is a possibility there will be a shift in demand for new construction, at least in the short term,” she said.

The U.S. central bank and other regulators are “intensively” examining financial firms’ home-foreclosure practices and expect preliminary findings next month, Fed Chairman Ben S. Bernanke said this week at a housing conference in Arlington, Virginia.

Fed officials have signaled they may start another round of unconventional monetary easing at their next meeting Nov. 2-3 to try to spur the economic recovery.

Homebuilders say labor-market conditions will be the biggest factor in spurring or delaying a recovery.

“The U.S. economy needs to improve, and we’ve got to see some improvement in job creation,” Larry Sorsby , chief financial officer at Hovnanian Enterprises Inc., the largest homebuilder in New Jersey, said during an Oct. 7 conference call.

To contact the reporter on this story: Bob Willis in Washington at bwillis@bloomberg.net

To contact the editor responsible for this story: Christopher Wellisz at cwellisz@bloomberg.net

Goldman: The Fed Needs To Print $4 Trillion In New Money, Zerohedge.com


With just over a week left to the QE2 announcement, discussion over the amount, implications and effectiveness of QE2 are almost as prevalent (and moot) as those over the imminent collapse of the MBS system. Although whereas the latter is exclusively the provenance of legal interpretation of various contractual terms, and as such most who opine either way will soon be proven wrong to quite wrong, as in America contracts no longer are enforced (did nobody learn anything from the GM/Chrysler fiasco for pete’s sake), when it comes to printing money the ultimate outcome will certainly have an impact. And the more the printing, the better. One of the amusing debates on the topic has been how much debt will the Fed print. Those who continue to refuse to acknowledge that the economy is in a near-comatose state, of course, hold on to the hope that the amount will be negligible: something like $500 billion (there was a time when half a trillion was a lot of money). A month ago we stated that the full amount will be much larger, and that the Fed will be a marginal buyer of up to $3 trillion. Turns out, even we were optimistic. A brand new analysis by Jan Hatzius, which performs a top down look at how much monetary stimulus is needed to fill the estimated 300 bps hole between the -7% Taylor Implied Funds Rate (of which, Hatzius believes, various other Federal interventions have already filled roughly 400 bps of differential) and the existing 0.2% FF rate. Using some back of the envelope math, the Goldman strategist concludes that every $1 trillion in new LSAP (large scale asset purchases) is the equivalent of a 75 bps rate cut (much less than comparable estimates by Dudley, 100-150bps, and Rudebusch, 130bps). In other words: the Fed will need to print $4 trillion in new money to close the Taylor gap. And here we were thinking the economy is in shambles. Incidentally, $4 trillion in crisp new dollar bills (stored in bank excess reserve vaults) will create just a tad of buying interest in commodities such as gold and oil…

Here is the math.

First, Goldman calculates that the gap to close to a Taylor implied funds rate is 7%.

 

Our starting point is Chairman Bernanke?s speech on October 15, which defined the dual mandate as an inflation rate of ?two percent or a bit below? and unemployment equal to the committee?s estimate of the long-term sustainable rate. The Fed?’s job is then to provide just enough stimulus or restraint to put the forecast for inflation and unemployment on a ?glide path? to the dual mandate over some reasonable period of time. Indeed, Fed officials have implicitly pursued just such a policy since at least the late 1980s.

To quantify the Fed?s approach, we have estimated a forward-looking Taylor-style rule that relates the target federal funds rate to the FOMC?s forecasts for core PCE inflation and the unemployment gap (difference between actual and structural unemployment). At present, this rule points to a desired federal funds rate of -6.8%, as shown in Exhibit 1.3 Since the actual federal funds rate is +0.2%, our rule implies on its face that the existence of the zero lower bound on nominal interest rates  has kept the federal funds rate 700 basis points (bp) ?too high.?

It is important to be clear about the meaning of this ?policy gap.? It does not mean?as is sometimes alleged?that policy is tight in an absolute sense, much less that it will necessarily push the economy back into recession. In fact, policy as measured by  the real federal funds rate of -1% is very easy. However, our policy rule implies that under current circumstances?with the Fed missing to the downside on both the inflation and employment part of the dual mandate (and by a large margin in the  latter case) ?a very easy policy is not good enough. Instead, policy should be massively easy to facilitate growth and job creation, fill in the output gap, and ultimately raise inflation to a mandate-consistent level.

Next, Goldman calculates how much existing monetary, and fiscal policy levers have narrowed the Taylor gap by:

 

 

 

The 700bp policy gap clearly overstates the extent of the policy miss because it ignores (1) the expansionary stance of fiscal policy, (2) the LSAPs that have already occurred and (3) the FOMC?s ?extended period? commitment to a low funds rate. We attempt to incorporate the implications of these for the policy gap in two steps.

First, we obtain an estimate of how much the existing unconventional Fed policies have eased financial conditions. In previous work we showed that the first round of easing pushed down short- and long-term interest rates, boosted equity prices and led to depreciation of the dollar. Although our estimates are subject to a considerable margin of error, they suggest that ?QE1? has boosted financial conditions?as measured by our GSFCI ?by around 80bp per $1 trillion (trn) of purchases. Moreover, our estimates suggest that the ?extended period? language has provided an additional 30bp boost to financial conditions. A number of studies undertaken at the Fed similarly point to sizable effects on financial conditions. A New York Fed study, for example, finds that QE1 has pushed down long-term yields by 38-82bp. A paper by the St. Louis Fed also finds a sizable boost to financial conditions more generally, including equity prices and the exchange rate.

Second, we translate this boost to financial conditions?as well as the expansionary fiscal stance?into funds rate units. To do so, we attempt to quantify the relative impact of changes in the federal funds rate, fiscal policy and the GSFCI on real GDP. As such estimates are subject to considerable uncertainty we take the average effect across a number of existing studies (see Exhibit 2). With regard to monetary policy, the studies we consider suggest that a 100bp easing in the funds rate, on  average, boosts the level of real GDP by 1.6% after two years. A fiscal expansion worth 1% of GDP, on average, raises the level of GDP by 1.1% two years later. Using existing studies to gauge the effects of an easing in our GSFCI on output is more difficult as other researchers construct their financial conditions indices in different ways. Taking the average across studies that report effects for the components of their indices?thus allowing us to re-weight the effects for our GSFCI? and our own estimate suggests that a 100bp easing in financial conditions increases the level of GDP by around 1.5% after two years.

What does this mean for the real impact on the implied fund rate from every incremental dollar of purchases?

 

 

 

Combining these two steps suggests that $1trn of asset purchases is equivalent to a 75bp cut in the funds rate (calculated as the effect of LSAPs on financial conditions (80bp), multiplied by the effect of financial conditions on GDP (1.5%), divided by the effect of the funds rate on GDP (1.6%)). This estimate reinforces the view that QE1 helped to substitute for conventional policy. Our estimate, however, is less optimistic than the 100-150bp range cited by New York Fed President Dudley, or the 130bp implied by Glenn Rudebusch of the San Francisco Fed.

In terms of the other policy levers, our analysis implies that the ?extended period? language is worth around 30bp cut in the funds rate and a fiscal stimulus of 1% of GDP is equivalent to around 70bp of fed funds rate easing.

So how much more work should the FOMC do? Exhibit 3 shows that consideration of policy levers other than the funds rate cuts the estimated policy gap by more than half, from 700bp to 300bp. Of this 400bp reduction, the easy stance of fiscal policy is worth 240bp; QE1 is worth 130bp; and the existing commitment language is worth another 30bp.

And the kicker, which shows just how naive we were:

We can then express the remaining policy gap in terms of the required additional LSAPs. Using our estimate that $1trn in LSAPs is worth an estimated 75bp cut in the federal funds rate and assuming that all other policy levers stay where they are at present, Fed officials would need to buy an additional $4trn to close the remaining policy gap of 300bp.

Now, for the amusing part: what does $4 trillion in purchases means for inflation. Or, a better question, when will $4 trillion be priced in…

In reality, the FOMC is unlikely to authorize additional LSAPs of as much as $4trn, unless the economy performs much worse than we are forecasting. The committee perceives LSAPs as considerably more costly than an equivalent amount of conventional monetary stimulus, and is therefore not likely to use the two interchangeably. Many Fed officials believe that there are significant ?tail risks? associated with LSAPs and the associated increase in the Fed?s aggregate balance sheet. These  risks include the possibility of substantial mark-to-market losses on the Fed?s investment, which might prove embarrassing in the Fed?s dealings with Congress and could, in theory, undermine its independence. They also include the possibility that the  associated sharp increase in the monetary base will lead households and firms to expect much higher inflation at some point in the future.

Unfortunately, it is extremely difficult to put a number on the perceived or actual cost of an extra $1trn in LSAPs in terms of these tail risks. However, we have some information on how the FOMC has behaved to date that might reveal Fed? officials? perception of these costs.

Oddly, nobody ever talks about the impact of “unconvential” printing of trillions on commodities such as oil and gold. They will soon.

Our analysis is therefore consistent with additional asset purchases of around $2trn if the FOMC?s forecasts converge to our own. It is unlikely, however, that the FOMC will announce asset purchases of this size in the very near term. Rather, our analysis suggests that the timing of the announcements should depend on whether, and how quickly, the FOMC?s forecasts converge to ours.

Hatzius pretty much says it all- suddenly the market will be “forced” to price in up to 4 times as much in additional monetary loosening from the “convention wisdom accepted” $1 trillion. We have just one thing do add. If Goldman has underestimated the impact of existing fiscal and monetary intervention, and instead of closing 4% of the Taylor gap, the actual impact has been far less negligible (and if Ferguson is right in assuming that all this excess money has in fact gone to chasing emerging market and commodity bubbles), it means that, assuming 75bps of impact per trillion, the Fed will not stop until it prints nearly ten trillion in incremental money beginning on November 3. That’s almost more than M1 and M2 combined.

Is the case for $10,000 gold becoming clearer?