Sunday, November 30, 2008
Saturday, November 29, 2008
Second, CCK found an increase in bank lending. The new study does not dispute the increase, but notes its composition: bank customers were drawing on previously established credit lines. While the additional evidence provided is quite useful, please remember that I had already suspected as much. More important, this point about composition in no way refutes the fundamental claim that banks are still lending to many types of customers.
- "The claim that disruptions to the banking system necessarily destroy the ability of nonfinancial businesses to borrow from households is highly questionable."
- The data show no decline in bank lending to nonfinancial business.
- Nonfinancial business are issuing commercial paper at quite low interest rates.
- The volume of interbank loans continues to be quite high.
... I am wondering whether (2) is bank-driven or customer-driven." and
"I suspect that much of the loan increases are "passive" -- that is, banks had already committed to customers that they could have access to credit and those customers took full advantage (i.e., it is the bank customers who are hoarding liquidity). Likely that is why deposits increased so much: bank loan customers just turned around and made deposits. Nevertheless, it is notable that banks honored their commitments, and then stand to make an easy profit as their customers receive less interest on the deposits than they pay on the loan." (italics added)
Now more study has reinforced the conjecture I made a month ago: that bank lending increased because of customers' drawing on pre-existing credit lines. Authors of the new study acknowledge that the data do not prove the existence of a credit crunch beyond a small segment of borrowers, but might well be explained by customers' lack of willingness to borrow.
In any case, my prior analysis implies that the backlash against CCK is misguided. First, the real banking problem (from the perspective of the nonfinancial sector) is with settling the old loans, not making new ones. Second, even if the banks' troubles caused them to lend less, you might not be able to detect this with comparisons between Sept-Oct 2008 and prior months, because banks would have been withholding loans much earlier than Sept 2008.
Friday, November 28, 2008
- A Depressing Scenario: Mortgage Debt Becomes Unemployment Insurance (NBER wp, 11/19/08)
- Is the Treasury Impotent? (Economists’ Voice, 11/12/08)
- Market Responses to the Panic of 2008 (NBER wp with Luke Threinen, 10/23/08)
- An Economy You Can Bank On. (New York Times 10/10/08)
- Shorter blog entries on http://www.panic2008.net/
Based on these analyses, I have made a number of predictions including, but not limited to:
- Treasury purchases of banks’ preferred equity will crowd out private capital, for example, by facilitating acquisitions of one bank by another
- Funds will be available for starting new investment projects – if not from banks, from other institutions. Whether people want to borrow is another story
- Banks will begin to forgive collateralized loans. The amount of forgiveness will decline with borrower income.
- Housing prices will continue to fall after the summer of 2008, by 10s of percentage points
Nonresidential Nonfinancial Business
- Nonresidential investment goods are cheap, and this increases nonresidential investment, especially in structures
- Cheap investment goods = cheap stock market
- U.S. GDP will not fall below $11 trillion (chained 2000 $)
- U.S. employment will not fall below 134 million.
- Baby boomers will delay retirement
- Loan forgiveness programs, such as the FDIC's Loan Modification Program, will dramatically reduce the incentive of affected borrowers to earn income
Thursday, November 27, 2008
- pass, and enforce, a right to work law for the state of Michigan
- bankruptcy for GM that frees the next owner of GM assets from union contract and retiree obligations
- lobby federal government to bailout pensions and health care of former GM employees
Many before me have already explained how the Big 3 do not have the right products, and charge too much for the products they have. Falling gas prices should help the product line problem -- when it comes to large passenger vehicles, the Big 3 have good products.
(1) and (2) will permanently lower productions costs by about 10 percent. Permanently lower costs mean permanently lower prices for consumers. Consumers will by more and auto workers will work more, especially in the short run as the stock of American vehicles equilibrates to a higher ratio with foreign vehicles.
In summary, union related costs have depressed the american auto industry employment for years. The sooner those costs can be eliminated or passed on to taxpayers, the sooner will be the American auto industry revival. If you make quality parts for GM, a GM bankruptcy is the best thing that can happen to revive your business. A GM bailout, on the other hand, will prolong this period of languid American auto production and only delay the revival of GM products -- and thereby your products -- in the marketplace.
Tuesday, November 25, 2008
Here is a repeat of my favorite graph showing how nonresidential structures investment continues to rise.
This is an inspiring way of saying "I kind of do things that Republicans would, and they would have done things kind of like I will." And that's good news for the economy.
Barack Obama promised to repeal President George W. Bush's tax cuts for the wealthy ahead of their scheduled expiration in 2011. It was part of how Obama would pay for an overall net tax cut aimed at low- and middle-income taxpayers, and an effort to bring what he called "fairness" to the tax system.
No one is talking tax hikes now. Over the weekend, Obama said he has charged his new economic team with devising a plan that would create or preserve 2.5 million jobs over two years. He said the plan would include broad spending plans as well as the middle- and low-income tax cuts he described during the campaign. Aides later said the plan would not include any of the tax increases Obama, as a candidate, had said he would impose on taxpayers who make more than $250,000. Asked Monday when those hikes might go into effect, Obama said, "Whether that's done through repeal, or whether that's done because the Bush tax cuts are not renewed, is something that my economic team will be providing me a recommendation on." (read the full article by JIM KUHNHENN)
Monday, November 24, 2008
"Importantly, the agreement calls on Citigroup to take steps to help distressed homeowners. Specifically, Citigroup will modify mortgages to help people avoid foreclosure along the lines of an FDIC plan that was put into effect at IndyMac Bank, a major failed savings and loan based in Pasadena, Calif. Under the IndyMac plan, struggling home borrowers pay interest rates of about three percent for five years. Rates are reduced so that borrowers aren't paying more than 38 percent of their pretax income on housing."
In other words, the Treasury mandates that Citigroup forgive homeowners in proportion to their lack of income. As I explained in my latest NBER working paper, this kind of forgiveness is already in banks' private interest, but it is not in the public interest. The Treasury is now reinforcing that socially-counterproductive bank policy.
disclosure: long XLF
Saturday, November 22, 2008
Friday, November 21, 2008
"[Freddie and Fannie's] Streamlined Modification Program, set to launch Dec. 15, enables delinquent borrowers to get a modified mortgage that lowers payments to no more than 38% of their gross incomes. ...Several major servicers -- including Bank of America, JPMorgan Chase and Citigroup -- have recently announced expansions of their foreclosure prevention efforts, which could aid nearly a million more borrowers."
Thursday, November 20, 2008
For the purposes of this essay, I follow the traditional (and likely dubious) assumption in tax economics that retiree benefits cannot be cut. It follows that automaker bankruptcy may free the auto consumer from paying for those retiree benefits, but only by shifting the burden to taxpayers and previous (stock and bond) investors in the U.S. auto industry. In the worst case scenario, taxpayers foot the entire bill, even for the $800-per-car in union related added costs.
Even if taxpayers make up for all of the revenue that would have been obtained by the implicit $2400 per car tax, taxpayers will be better off than they would be if U.S. automakers continue to operate under current union contracts because they are also auto consumers. This is a result known as "Ramsey's Optimal Tax Formula" -- if we must have revenue to pay off a politically favored group, it is better to finance the payoff with a broad-based tax (such as the federal income or payroll tax) than with a narrow tax such as an implicit tax on American auto sales. In this case, the benefits of taxpayer finance (rather than auto consumer finance) are quite large.
Wednesday, November 19, 2008
"[Citigroup] recently streamlined its loan modification program to rework delinquent loans. This revamped program uses a simplified formula to figure out an affordable payment as a percentage of the borrower's gross income. It then reduces the monthly payment to that amount by either reducing interest rates on the loan, extending the loan's term or forgiveness of principal." (from Mamundi 2008, emphasis added)
Although business capital and GDP will grow (my detailed predictions are here), old capital has to compete with the new projects. That's part of why the stock market falls when we learn that housing investment is lower than expected. The chart below is from my NBER wp "Market Responses to the Panic of 2008" showing how housing investment appears to discourage non-residential investment.
Although banks perform an essential economic function - bringing together investors and savers - they are not the only institutions that can do this. Pension funds, university endowments, and venture capitalists and corporations all bring money to new investment projects without any essential role played by banks. The average corporation receives about a quarter of its investment funds from the profits it has after paying dividends - and could obtain even more by cutting its dividend, if necessary.
Monday, November 17, 2008
"we should be careful not to extrapolate the rate of economic growth measured through September 2008 into the future. We should also be careful to evaluate economic growth measured FROM September 2008 with the understanding that some "rebound" is to be expected as factories clean up after a hurricane or strike."
Today the AP reported:
"Industrial output posted a bigger-than-expected rebound in October after plunging in September by the largest amount in over 60 years. The Federal Reserve said Monday that industrial output rose 1.3 percent last month, reflecting a return to more normal operations following hurricanes and a strike at aircraft manufacturer Boeing Co. the previous month."
Keep this in mind when 2008 Q4 growth comes out.
Senator Obama's victory gives hope that the Democratic party will be prevented from promoting any other Reverse Robin Hood policies. Can we sustain that hope through current events in the auto industry?
Workers at GM, Ford, and Chrysler are not among the poor by any definition: those workers' salary and benefits total more than $70 per hour!! Yes, I typed that correctly. Very few American workers earn that much per hour.
HOPE CAN SURVIVE
I see three reasons to continue hope.
- First, President Obama may stand up to the UAW. Maybe he would even insist that we cannot tax the average American to bail out those who are already more fortunate than most Americans!
- Second, GM is failing so fast that it might not last until inauguration day. Thus it might be Bush who stands up to the UAW -- he has done well on that lately. I admit that Bush's actions on this matter are not consistent with the Republicans' Reverse Robin Hood reputation, but I take solace in the fact that Secretary Paulson initiated the Wall Street bailout, even if many fellow Republicans did oppose it for a few days.
- Third, a fast failure may result in Bush's living up to the Republican reputation by bailing out automakers before inauguration day -- not exactly Robin Hood's outcome, but at least Obama's record would be untarnished.
A rapid and decisive GM collapse would allow us to continue to hope that President-elect Obama represents genuine change: leading politicians of the Democratic party will no longer tax the average American to bail out the rich, regardless of whether those rich do business in Detroit or in New York City.
[added Nov 18: The $70 per hour includes wages and benefits, but you might say some of the benefits "belong" to the retired workers, and that current workers cannot expect such a generous retirment (Mark Perry reports that in 2006, each retiree received an average of $48,793 of pension and benefits from their former employer; this does not include social security). An alternative indicator of how much auto workers make (wages and benefits) is to look at U.S. workers in Toyota plants (where the retiree legacy is not such a problem): almost $50 per hour. Whether you call it $50/hr, $60/hr, or $70/hr, these people earn much more than the average American worker.]
Friday, November 14, 2008
Wednesday, November 12, 2008
I was fascinated to observe how quickly the world would learn that it really doesn't matter:
- First, the Washington Post and two Harvard Professors noticed that banks were not cutting dividends despite their massive losses. Dividend payments are one way to neutralize the Treasury purchases.
- Second, reporters noticed that PNC financial took its Treasury cash and immediately bought National City Bank.
- Third, reporters heard that JP Morgan Chase CEO told his employees that Treasury cash would help them acquire competitors.
All of this in only a few weeks! And I had worried that it would take years of careful academic study to prove my point.
Read all about this in my new Economists' Voice article "Is the Treasury Impotent?" Despite (or because of?!) the evidence that Treasury investments are not helping capitalize banks, Professor Mankiw still thinks they are a good idea.
Tuesday, November 11, 2008
Will the property tax assessors now do their part?
Friday, November 7, 2008
- Separable Taste Shocks. Shocks to (current or future) housing tastes that do not affect substitution patterns in the non-residential sector will have no aggregate wealth effect. As Buiter (2008) explains, persons long housing will gain when tastes shift toward housing (and thereby increase housing prices), and persons short housing will lose. [non-technical version: if your taste for housing also affects your willingness to work, then the non-residential sector will be affected, although we would not call the effect a "wealth effect".]
- Shocks to the Production Set. A larger production set can increase housing prices, and is an aggregate wealth effect by any definition. The wealth effect calculations I made with Luke Threinen are most easily interpreted in such a model, although they can also be interpreted as the result of redistribution created by separable taste shocks.
- "Distortion" shocks that move the economy closer to the frontier of the production set. Increasing housing subsidies can both increase housing prices and look like an adverse wealth effect from the perspective of household behavior in the non-residential sector. Nonseparable taste shocks may have similar effects.
Changes in the production set or changes in the distance between the market allocation and the production frontier involve wealth effects by any definition. An example: the arrival of information about the technology for producing housing services. People may learn that the technology will advance, which causes a boom in housing prices and a favorable wealth effect. The market may initially believe that banks can streamline the mortgage process and thereby facilitate home-ownership for small home-owners. Or it may believe that the real estate brokerage industry will become more productive. Good news like this boosts housing prices and is an aggregate wealth effect. If the market later learns that ultimately the technological advance will not work (e.g., learn that small homeowners are really more expensive to service than initially thought), housing prices crash and there is an adverse wealth effect.
This conclusion might appear to disagree with Buiter (2008), which argues that changes in housing prices are not wealth effects in the sense that they do not enter the demand for non-housing goods because housing is both an asset and a consumption good. Buiter emphasizes that someone will consume the housing stock – even if it isn’t the current owners – and those prospective consumers gain from a housing price crash even while the current owners lose. I agree that housing prices changes that reflect changes in the current or expected future (separable) preferences for housing are ultimately redistributive. Demand changes are not changes in the production set or changes in the distance between the market allocation and the production frontier. But it is quite possible that the shocks that created the housing boom prior to 2006 and the housing price crash that followed were technological or public policy driven. A technology shock will have aggregate wealth effects, and a public policy shock might too.
 Another question is whether the persons short housing are represented in today’s economy (maybe they are unborn, or live abroad, or only exist in the imagination of exuberant housing investors), but my purpose here is not to reclassify a redistributive wealth effect as an aggregate one.
Thursday, November 6, 2008
Wednesday, November 5, 2008
Tuesday, November 4, 2008
Monday, November 3, 2008
Deflation occurs when the prices of most goods and services fall – that is, most things cost less now than they used to cost. Deflation is the opposite of inflation, which is when the prices of most goods and services rise. A large and sustained deflation occurred during the Great Depression, and some economists blame much of the Great Depression’s poor economic performance on that deflation.
DEFLATION IS A GENERAL PRICE DECLINE
Housing prices fallen a lot over the last two years, and will continue to fall. Most of us do own houses, and falling housing prices have created a number of problems. But falling housing prices is different from a general deflation; it takes a lot more than falling housing prices to create deflation, even over a short period of time.
Indeed, it was less than six months ago – when we were all quite aware of the housing price reductions – that the Federal Reserve and other commentators expressed concerns about inflation. The inflation concerns were present because housing is only one of many goods and services that we consume and those other prices seemed to be on the rise. The deflator for personal consumption expenditures rose at 3.3% per year from 2006 Q3 through 2008 Q3 – that’s inflation of 3.3% per year.
Energy was part of this increase – it increased 16% per year over that period. However, energy goods are only 4% of consumption expenditures, so this accounts for less than one percentage point of the 3.3; even if energy prices had fallen 16% per year over those two years, there would still have been inflation. My purpose here is to assess the likelihood and consequences of general deflation.
DEFLATION CAN BE FUELED BY FINANCIAL TURMOIL, BUT IS NONETHELESS UNLIKELY
Although I do not believe that the recent financial turmoil has a significant impact on the wider economy’s employment and real growth rates, I do believe that financial turmoil can affect consumer prices and therefore the rate of inflation or deflation. Financial turmoil can cause investors to seek liquid assets like insured bank deposits, Treasury Bills, and perhaps currency. If banks, the Federal Reserve, and the Treasury fail to supply the safe assets demanded by the market, then consumer prices will have to fall in order to make the existing liquid assets more valuable in real terms. Milton Friedman and Anna Schwartz were right when they blamed some of the 1930s deflation on the Federal Reserve’s failure to accommodate investors’ demands for liquid assets (see Chapter 7 of their A Monetary History of the United States).
Deflation today is unlikely because banks, the Treasury, and the Federal Reserve have accommodated at least some of these demands. Large commercial banks increased their deposits by $157 billion during the last week of September 2008 (at the height of today's banking crisis), and maintain those higher levels throughout October. An increase of $157 billion would normally have taken about 6 months. Treasury debt held by the public increased almost $800 billion from September 15 through October 30. Much of that increase was available to the non-bank public, because bank holdings of Treasury and Agency securities were pretty constant until the second half of October, at which time they increased about $100 billion. With the Treasury, the Fed, and the banking sector accomodating the increased demand for liquid assets, the bigger risk is that high inflation next year will result from failures by the Treasury and the Fed to accommodate reductions in liquid asset demand that will accompany a return to financial normalcy.
MORTGAGE AND PROPERTY TAX DAMAGE HAS ALREADY BEEN EXPERIENCED
Even if our economy were to experience a sustained deflation, it would survive it better than we did in the 1930s. The 1930s sustained deflation was damaging because, among other things, it dramatically redistributed wealth from persons owing mortgages to those who had underwritten them – in a way that was not anticipated when those mortgages were signed. The deflation also amounted to a un-legislated increase in property taxes, because their dollar value stayed fixed while taxpayers’ dollar incomes fell, as did the public sector’s dollar expenses.
Farmers in the 1930s found their crops were selling for half the dollar amount that they were in the 1920s, yet had no easy mechanism to cut the dollar amounts of their mortgage and property tax obligations. Today, because home prices are way down (50 percent by some estimates) regardless of whether we see inflation or deflation, homeowners have little equity to lose to banks as a consequence of deflation. Home mortgages already need to be renegotiated to better reflect home values and homeowner incomes. Homeowners also have a tremendous incentive to have their homes re-assessed by the property tax authorities -- even a 10 percent deflation would be only a minor change in the overall mortgage and property tax landscape today.
DEFLATION = CORPORATE TAX CUT
It follows that deflation amounts to an un-legislated corporate tax cut. Is there a better time than now to cut corporate taxes?!
I emphasize that forecasts like theirs are logically inconsistent with the commentary given about the housing boom -- commentary given by many of the same economists.
My short track record is pretty good. Without much company, I correctly predicted that the Treasury stock purchases would be neutralized by bank financial transactions. Also without much company, I correctly predicted that non-residential structures investment would actually grow even while residential structures investment plummeted. I also predicted that housing prices would continue to fall, although others also predicted this.