Banks, Keynes, Subprime Mortgage Crisis and Great Recession

Posted by PITHOCRATES - September 17th, 2013

History 101

(Originally published June 11th, 2013)

Bringing Borrowers and Lenders Together is a very Important Function of our Banks

Borrowers like low interest rates.  Savers (i.e., lenders) like high interest rates.  People who put money into the bank want to earn a high interest rate.  People who want to buy a house want a low interest rate.  As the interest rate will determine the price of the house they can buy.  Borrowers and lenders meet at banks.  Bankers offer a high enough interest rate to attract lenders (i.e., depositors).  But not too high to discourage borrowers.

This is the essence of the banking system.  And capital formation.  Alexander Hamilton said that money in people’s pockets was just money.  But when the people came together and deposited their money into a bank that money became capital.  Large sums of money a business could borrow to build a factory.  Which creates economic activity.  And jobs.  The United States became the world’s number one economic power with the capital formation of its banking system.  For a sound banking system is required for any advanced economy.  As it allows the rise of a middle class.  By providing investment capital for entrepreneurs.  And middle class jobs in the businesses they build.

So bringing borrowers and lenders together is a very important function of our banks.  And bankers have the heavy burden of determining saving rates.  And lending rates.  As well as determining the credit risk of potential borrowers.  Savers deposit their money to earn one rate.  So the bank can loan it out at another rate.  A rate that will pay depositors interest.  As well as cover the few loans that borrowers can’t pay back.  Which is why bankers have to be very careful to who they loan money to.

Keynesians make Recessions worse by Keeping Interest Rates low, Preventing a Correction from Happening

John Maynard Keynes changed this system of banking that made the United States the world’s number one economic power.  We call his economic theories Keynesian economics.  One of the changes from the classical school of economics we used to make the United States the world’s number one economic power was the manipulation of interest rates.  Instead of leaving this to free market forces in the banking system Keynesians said government should have that power.  And they took it.  Printing money to make more available to lend.  Thus bringing down interest rates.

And why did they want to bring down interest rates?  To stimulate economic activity.  At least, that was their goal.  To stimulate economic activity to pull us out of a recession.  To even eliminate recessions all together.  To eliminate the normal expansion and contraction of the economy.  By manipulating interest rates to continually expand the economy.  To accept a small amount of permanent inflation.  In exchange for a constantly expanding economy.  And permanent job creation.  That was the Keynesian intention.  But did it work?

No.  Since the Keynesians took over the economy we’ve had the Great Depression, the stagflation and misery of the Seventies, the savings and loans crisis of the Eighties, the irrational exuberance and the dot-com bubble crash of the Nineties, the subprime mortgage crisis and the Great Recession.  All of these were caused by the Keynesian manipulation of interest rates.  And the resulting recessions were made worse by trying to keep interest rates low to pull the economy out of recession.  Preventing the correction from happening.  Allowing these artificially low interest rates to cause even more damage.

The Government’s manipulation of Interest Rates gave us the Subprime Mortgage Crisis and the Great Recession

My friend’s father complained about the low interest rates during the Clinton administration.  For the savings rate offered by banks was next to nothing.  With the Federal Reserve printing so much money the banks didn’t need to attract depositors with high savings rates.  Worse for these savers was the inflation caused by printing all of this money eroded the purchasing power of their savings.  So they couldn’t earn anything on their savings.  And what savings they had bought less and less over time.  But mortgages were cheap.  And people were rushing to the banks to get a mortgage before those rates started rising again.

This was an interruption of normal market forces.  It changed people’s behavior.  People who were not even planning to buy a house were moved by those low interest rates to enter the housing market.  Then President Clinton pushed other people into the housing market with his Policy Statement on Discrimination in Lending.  Getting people who were not even planning to buy a house AND who could not even afford to buy a house to enter the housing market.  Those artificially low interest rates pulled so many people into the housing market that this increased demand for houses started raising house prices.  A lot.  But it didn’t matter.  Not with those low interest rates.  Subprime lending.  Pressure by the Clinton administration to qualify the unqualified for mortgages.  And Fannie May and Freddie Mac buying those risky subprime mortgages from the banks, freeing them up to make more risky mortgages.  This scorching demand pushed housing prices into the stratosphere.

A correction was long overdue.  But the Federal Reserve kept pushing that correction off by keeping interest rates artificially low.  But eventually inflation started to appear from all that money creation.  And the Federal Reserve had no choice but to raise interest rates to tamp out that inflation.  But when they did it caused a big problem for those with subprime mortgages.  Those who had adjustable rate mortgages (ARMs).  For when interest rates went up so did their mortgage payments.  Beyond their ability to pay them.  So they defaulted on their mortgages.  A lot of them.  Which caused an even bigger problem.  All those mortgages Fannie Mae and Freddie Mac bought?  They sold them to Wall Street.  Who chopped them up into collateralized debt obligations.  Financial instruments backed by historically the safest of all investments.  The home mortgage.  Only these weren’t your father’s mortgage.  These were risky subprime mortgages.  But they sold them to unsuspecting investors as high yield and low-risk investments.  And when people started defaulting on their mortgages these investments became worthless.  Which spread the financial crisis around the world.  On top of all of this the housing bubble burst.  And those house prices fell back down from the stratosphere.  Leaving many homeowners with mortgages greater than the corrected value of their house.

It was the government’s manipulation of interest rates that gave us the subprime mortgage crisis.  The Great Recession.  And the worst recovery since that following the Great Depression.  All the result of Keynesian economics.  And the foolhardy belief that you can make recessions a thing of the past.

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Banks, Keynes, Subprime Mortgage Crisis and Great Recession

Posted by PITHOCRATES - June 11th, 2013

History 101

Bringing Borrowers and Lenders Together is a very Important Function of our Banks

Borrowers like low interest rates.  Savers (i.e., lenders) like high interest rates.  People who put money into the bank want to earn a high interest rate.  People who want to buy a house want a low interest rate.  As the interest rate will determine the price of the house they can buy.  Borrowers and lenders meet at banks.  Bankers offer a high enough interest rate to attract lenders (i.e., depositors).  But not too high to discourage borrowers.

This is the essence of the banking system.  And capital formation.  Alexander Hamilton said that money in people’s pockets was just money.  But when the people came together and deposited their money into a bank that money became capital.  Large sums of money a business could borrow to build a factory.  Which creates economic activity.  And jobs.  The United States became the world’s number one economic power with the capital formation of its banking system.  For a sound banking system is required for any advanced economy.  As it allows the rise of a middle class.  By providing investment capital for entrepreneurs.  And middle class jobs in the businesses they build.

So bringing borrowers and lenders together is a very important function of our banks.  And bankers have the heavy burden of determining saving rates.  And lending rates.  As well as determining the credit risk of potential borrowers.  Savers deposit their money to earn one rate.  So the bank can loan it out at another rate.  A rate that will pay depositors interest.  As well as cover the few loans that borrowers can’t pay back.  Which is why bankers have to be very careful to who they loan money to.

Keynesians make Recessions worse by Keeping Interest Rates low, Preventing a Correction from Happening

John Maynard Keynes changed this system of banking that made the United States the world’s number one economic power.  We call his economic theories Keynesian economics.  One of the changes from the classical school of economics we used to make the United States the world’s number one economic power was the manipulation of interest rates.  Instead of leaving this to free market forces in the banking system Keynesians said government should have that power.  And they took it.  Printing money to make more available to lend.  Thus bringing down interest rates.

And why did they want to bring down interest rates?  To stimulate economic activity.  At least, that was their goal.  To stimulate economic activity to pull us out of a recession.  To even eliminate recessions all together.  To eliminate the normal expansion and contraction of the economy.  By manipulating interest rates to continually expand the economy.  To accept a small amount of permanent inflation.  In exchange for a constantly expanding economy.  And permanent job creation.  That was the Keynesian intention.  But did it work?

No.  Since the Keynesians took over the economy we’ve had the Great Depression, the stagflation and misery of the Seventies, the savings and loans crisis of the Eighties, the irrational exuberance and the dot-com bubble crash of the Nineties, the subprime mortgage crisis and the Great Recession.  All of these were caused by the Keynesian manipulation of interest rates.  And the resulting recessions were made worse by trying to keep interest rates low to pull the economy out of recession.  Preventing the correction from happening.  Allowing these artificially low interest rates to cause even more damage.

The Government’s manipulation of Interest Rates gave us the Subprime Mortgage Crisis and the Great Recession

My friend’s father complained about the low interest rates during the Clinton administration.  For the savings rate offered by banks was next to nothing.  With the Federal Reserve printing so much money the banks didn’t need to attract depositors with high savings rates.  Worse for these savers was the inflation caused by printing all of this money eroded the purchasing power of their savings.  So they couldn’t earn anything on their savings.  And what savings they had bought less and less over time.  But mortgages were cheap.  And people were rushing to the banks to get a mortgage before those rates started rising again.

This was an interruption of normal market forces.  It changed people’s behavior.  People who were not even planning to buy a house were moved by those low interest rates to enter the housing market.  Then President Clinton pushed other people into the housing market with his Policy Statement on Discrimination in Lending.  Getting people who were not even planning to buy a house AND who could not even afford to buy a house to enter the housing market.  Those artificially low interest rates pulled so many people into the housing market that this increased demand for houses started raising house prices.  A lot.  But it didn’t matter.  Not with those low interest rates.  Subprime lending.  Pressure by the Clinton administration to qualify the unqualified for mortgages.  And Fannie May and Freddie Mac buying those risky subprime mortgages from the banks, freeing them up to make more risky mortgages.  This scorching demand pushed housing prices into the stratosphere.

A correction was long overdue.  But the Federal Reserve kept pushing that correction off by keeping interest rates artificially low.  But eventually inflation started to appear from all that money creation.  And the Federal Reserve had no choice but to raise interest rates to tamp out that inflation.  But when they did it caused a big problem for those with subprime mortgages.  Those who had adjustable rate mortgages (ARMs).  For when interest rates went up so did their mortgage payments.  Beyond their ability to pay them.  So they defaulted on their mortgages.  A lot of them.  Which caused an even bigger problem.  All those mortgages Fannie Mae and Freddie Mac bought?  They sold them to Wall Street.  Who chopped them up into collateralized debt obligations.  Financial instruments backed by historically the safest of all investments.  The home mortgage.  Only these weren’t your father’s mortgage.  These were risky subprime mortgages.  But they sold them to unsuspecting investors as high yield and low-risk investments.  And when people started defaulting on their mortgages these investments became worthless.  Which spread the financial crisis around the world.  On top of all of this the housing bubble burst.  And those house prices fell back down from the stratosphere.  Leaving many homeowners with mortgages greater than the corrected value of their house.

It was the government’s manipulation of interest rates that gave us the subprime mortgage crisis.  The Great Recession.  And the worst recovery since that following the Great Depression.  All the result of Keynesian economics.  And the foolhardy belief that you can make recessions a thing of the past.

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Spain is Taking Center Stage in the Eurozone Crisis

Posted by PITHOCRATES - May 5th, 2012

Week in Review

To be a generous welfare state requires one of two things.  Either a population making babies like bunnies.  To keep the base of the pyramid of the welfare state expanding greater than the top.  Or a booming economy that showers money onto the treasury.  If you have neither than you better have good credit (see Spanish borrowing costs to jump at auction, bank buying eyed by Paul Day posted 5/3/2012 on Reuters).

Spain has jumped to the forefront of the euro zone debt crisis due to concern over its public deficit and shrinking economy and pressure is growing for a plan to recapitalize its banks, which are burdened with bad debts from a property market crash…

Spanish banks, virtually cut out of wholesale debt markets after losing billions since a decade-long property bubble burst in 2008, snapped up cash the European Central Bank pumped into the euro zone banking system in December and February, in operations totaling more than a trillion euros.

Recent data from the Bank of Spain suggests that they used a portion of the ECB’s ultra-cheap three-year money to buy up high-yielding sovereign debt.

According to the central bank, Spanish lenders held just over 13 percent of domestic debt in November 2011, but that total soared to almost 30 percent by March. Non-residents held almost 56 percent of all Spanish debt in November, but by March, that proportion had fallen to 38.8 percent.

Spain has neither a population boom nor an economic boom.  Nor is her credit looking all that good.  Which does not bode well for the Eurozone. 

Too many countries look to the housing market as the panacea for all that ills an economy.  Keep money cheap to borrow.  To encourage people to borrow.  So they can borrow.  And buy overvalued houses.  This is the kind of government Keynesian tinkering that never ends well.  And there are so many examples in history you’d think we’d have learned this lesson by now.  Japan, Ireland, Spain and the United States.  And now even China is growing a little housing bubble of their own.  Bubbles are not good.  They are artificial economic growth.  And they always pop.  Just ask our good friends in Japan, Ireland, Spain and the United States.

And when those bubbles pop recessions set in.  To correct all of those overvalued prices.  There’s deflation.  Old debt that becomes impossible to repay.  So banks fail.  Just because government Keynesians had to tinker.  Playing with interest rates.  To keep them below what the market would have them.  It was good on the upside.  Great new government spending and benefits.  Which have to go away on the downside.  Because there isn’t the robust economic activity to pay for it.  Even the interest on the debt becomes difficult to pay.  And because all of this is in play no one wants to buy their sovereign debt anymore.  Which raises the interest they must pay on new debt to retire old debt.  And the vicious cycle just continues.

Trying to fix the debt problem is looking at a system and not the disease.  The disease is the welfare state.  And until they cut that spending the debt problem will never go away.

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Chinese Government fights Asset Bubbles and Speculation, Housing Prices Fall as does Economic Activity

Posted by PITHOCRATES - April 21st, 2012

Week in Review

The Chinese housing market isn’t what it was.  Which can be quite the problem considering the housing boom was 13% of China’s GDP (see China new home prices slide for sixth consecutive month posted 4/18/2012 on BBC News Business).

Property prices in China have fallen for a sixth consecutive month amid government efforts to control prices and curb speculation.

New home prices in 46 out of 70 Chinese cities fell between February and March. Meanwhile prices were lower than a year ago in 38 cities.

There have been fears of the formation of asset bubbles in China…

The booming housing industry supported China’s expansion in recent years, with real estate investment making up 13% of the nation’s gross domestic product in 2011…

“The ultimate goal of the property tightening is to drive down prices but maintain growth in construction and investment.”

Hey, this kind of sounds familiar.  Prior to 2008, the U.S. housing market was red hot.  People were being approved for mortgages they didn’t have a chance in hell of being able to repay.  And house flippers were walking in and getting mortgages for zero down.  Fixing them up and putting them back on the market.  The subprime mortgage made both of these possible.  And the government was doing everything within its power to put as many people in houses as possible.  Keeping interest rates artificially low.  And having their GSEs Fannie Mae and Freddie Mac buy up toxic subprime mortgages from banks and unloading them onto unsuspecting investors in the guise of ‘safe’ mortgage-backed securities.   The economy was booming.  Then the housing bubble burst.  As did the economy. 

The lesson here is the same the Japanese learned in the Nineties.  If you put your housing market on government steroids (artificially low interest rates, laws to force lenders t make bad loans, loan guarantees, etc.) it will crash and burn one day.  And if you keep building houses you will lower prices on homes already built.  The houses people are paying mortgages on.  And if you build enough new houses the value of the older houses will be less than the mortgage they’re paying.  Especially after the bubble bursts.  And you see how well that worked out in the U.S.  Suffice it to say President Obama is not running for reelection on his economic record.

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The Great Housing Bubble and The Subprime Mortgage Crisis

Posted by PITHOCRATES - December 27th, 2011

History 101

Putting People into Houses trumped Sound Monetary Policy, a Sound Currency and good Lending Practices

Housing has for a long time been the key to economic prosperity.  Because to build a house you need a lot of economic activity.  Industries produce lumber, concrete, sheetrock, brick, shingles, door frames, doors, windows, glass, flooring, plumbing pipes, plumbing fixtures, sump pumps, furnaces, heating ducts, insulation, air conditioners, electrical wiring and fixtures, carpeting, tile, linoleum, etc.  The bigger the house the more of this stuff there is.  Once built people have to buy them (stimulating the mortgage banking industry) and then furnish them.  This triggers a monsoon of economic activity.  Drapes, shades, blinds, paint, washers, dryers, stoves, refrigerators, freezers, microwave ovens, toasters, blenders, food processers, plates, dishes, knives, silverware, ceiling fans, televisions, home theaters, sound systems, computers, cable and internet services, utilities, shelving, furniture, beds, cribs, art, etc.  And, of course, the exterior of the house creates further economic activity.

This is why one of the most important economic indicators is new housing starts.  For each new house we build we create a whirlwind of economic activity.  So much that it boggles the mind trying to think about it.  That’s why governments do whatever they can to stimulate this particular economic activity.  They encourage borrowing by allowing us to deduct the interest we pay on our mortgages.  They use monetary policy to keep interest rates as low as possible.  They’ve created federal programs to help veterans.  To help low income people.  And to remove risk from lenders to encourage more risky lending (as in Fannie Mae and Freddie Mac).  They’ve even used the power of government to force mortgage lenders to qualify the unqualified (Policy Statement on Discrimination in Lending).

You see, putting people into houses trumped everything else.  Sound monetary policy.  A sound currency.  Good lending practices.  Everything.  Because that was the key to a healthy economy.  A happy constituent.  And healthy tax revenue.  Not to mention you can score a lot of points with the poor and minorities by helping them into houses they can’t afford.  So this coordinated effort to put people into houses did two things.  Made money cheap and easy to borrow.  And created a boom in new housing starts.  Which resulted in a third thing.  A housing bubble.

Subprime Mortgages were for those who didn’t have Good Credit or Stable Employment with Reliable Income

Builders couldn’t build enough houses.  People were buying them faster than they built them.  And the houses they bought were getting bigger and bigger.  As they qualified for ever larger mortgages.  Poor people and people with bad credit could walk into a bank and get approved without documenting income.  House flippers could walk in day after day and get loans to buy houses.  Fix them up.  And put them back on the market.  Without using any of their own money. The market was soon flooded with new McMansions.  And refurbished smaller homes that people were moving out of.  Demand for homes was high.  And interest rates were low.  So the supply of homes swelled.  As did home prices.

Interest rates were low.  But they didn’t stay low.  All this coordinated effort to put as many people into homes as possible created a lot of artificial demand.  Heating up the economy.  Increasing prices higher than they had been.  Leading to inflationary worries.  So the Federal Reserve began to raise interest rates.  To temper that inflation.  Which didn’t sit well with those low income house owners.  Who got into their homes with the help of the Policy Statement on Discrimination in Lending.  Which forced lenders to get creative in qualifying the unqualified.  To avoid undo federal attention.  And legal actions against them.  So a lot of poor people had subprime mortgages.  As did all of those house flippers.  People who used little of their own money.  Who put little down.  And had little to lose.

What is a subprime mortgage?  In a word, risky.  It isn’t a 30-year fixed-rate mortgage at a good interest rate.  No, for those you need a good credit score and years of stable employment with reliable income.  And enough money saved up to put close to 20% down.  Subprime mortgages were for those who didn’t have a good credit score.  Years of stable employment with reliable income.  Or any savings.  These people didn’t get the ‘prime’ mortgages.  They got the expensive ones.  The ones with the higher interest rates.  And the higher monthly payments.  Why?  Because risk determined the interest rate.  And the higher the risk the higher the interest rate.

In their Effort to sustain Economic Activity the Government caused the Worst Recession since the Great Depression

But this posed a problem.  Because of the Policy Statement on Discrimination in Lending.  Making loans available to the unqualified was no good if the unqualified couldn’t afford them.  Enter the adjustable rate mortgage (ARM).  These mortgages had lower interest rates.  And lower monthly payments.  How you ask?  By making them adjustable.  A fixed-rate mortgage has to account for inflation.  And adjustable-rate mortgage doesn’t.  Because if there is inflation and the interest rates go up the ARM resets to a higher value.  Which is what happened right about the time housing prices peaked.

When the ARMs reset a lot of people couldn’t make their monthly payments anymore.  Having put little down and having made few monthly payments, these homeowners had little to lose by walking away from their homes.  And a lot of them did.  Including those house flippers.  And that was just the beginning.  With higher interest rates the new home market contracted.  Those artificially high house prices began to fall.  And when the ARMs reset they caused an avalanche of defaults and foreclosures.  The market was correcting.  There were far more houses for sale than there were buyers looking to buy.  Home values began to fall to reflect this real demand.  People who bought the biggest house they could afford because they thought real estate prices always went up soon discovered that wasn’t true.  People were making monthly payments on a mortgage that was greater than the value of their house.  Some walked away.  Some got out with short sales.  Where the lender agreed to eat the loss equity.

The housing market was imploding.  Thanks to a great real estate bubble created by the government.  In their quest to put as many people into houses as possible.  By making mortgages cheap and easy to get.  Relaxing lending standards.  And encouraging risky lending.  None of which would have happened had they left the housing market to market forces.  Where the market sets interest rates.  And housing prices.  The irony of the subprime mortgage crisis is that in their effort to sustain economic activity the government caused the worst recession since the Great Depression.  The Great Recession.

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Economic Recovery Requires less Keynesian Spending and more Cutting the Cost of Employment

Posted by PITHOCRATES - September 26th, 2011

The Structural Defect in Keynesian Economics is that Sustained Inflation Creates Asset Bubbles that Must Burst

More bad news for the housing market.  And the American economy (see New-home sales fell in August for 4th month by Derek Kravitz posted 9/26/2011 on the Associated Press).

Sales of new homes fell to a six-month low in August. The fourth straight monthly decline during the peak buying season suggests the housing market is years away from a recovery…

New-homes sales are on pace for the worst year since the government began keeping records a half century ago…

Last year was also the fifth straight year that sales have fallen. It followed five straight years of record highs, when housing was booming.

The housing market is bad.  There’s no denying that.  And this affects everyone.  Not just homeowners.  Because where the housing market goes the economy follows.

While new homes represent less than one-fifth of the housing market, they have an outsize impact on the economy. Each home built creates an average of three jobs for a year and generates about $90,000 in taxes, according to the National Association of Home Builders.

Jobs and taxes.  Both of which the government is having trouble generating these days.  That’s why they are desperately trying to stimulate the housing market with all that easy monetary policy.  Getting interest rates to their lowest in years.  If not of all time.  Because new houses equals jobs.  And tax revenue.  Especially when housing values increase over time.

Home prices have dropped more since the recession started, on a percentage basis, than during the Great Depression of the 1930s. It took 19 years for prices to fully recover after the Depression.

But not so much when they don’t.

Worse than the Great Depression.  Now there’s something you don’t hear every day.

One of the missions of the Federal Reserve was to prevent another Great Depression.  In particular, preventing a devastating deflationary spiral.  Such as we’re seeing in home prices now.  Looks like they’ve failed.  Or rather, Keynesian Economics has failed.

The problem is the dependence on Keynesian Economics.  Which uses monetary policy to maintain economic growth.  By having permanent but ‘sustainable’ inflation.  But the structural defect in this model is that sustained inflation creates asset bubbles.  As people bid up the prices of these assets.  Like houses prior to the subprime mortgage crisis.  And when these bubbles burst these asset prices have to fall back to market levels.  Like house prices are doing right now.  And apparently will do for another 19 years.  Give or take.

It is the High Cost of Labor that is Hurting the Advanced Economies

Manufacturing has been better than the housing market.  But it’s not looking too promising right now (see U.S. manufacturing slowdown: 4 cities at most risk posted 9/26/2011 on CNN Money).

U.S. manufacturing has been one of the rare bright spots in an otherwise annoyingly slow economic recovery…

But expectations of slower growth could threaten the rebound and cities that have gained from it. The ongoing European debt crisis and efforts to curb worries over inflation in China have analysts predicting lower demand for everything from American-made electronics to machinery.

U.S. manufacturing grew 6% during the economic recovery after declining 13% following the financial crisis in 2007. IHS Global Insight economist Tom Runiewicz says the industry has grown 4.5% so far this year. While that’s still robust growth, he expects manufacturing growth to slow to 2.9% next year.

The American consumer may not have been buying but consumers in other countries were.  A good example of American exports is the delivery of the first Boeing 787 to ANA.  And Boeing’s 747-8, too.   Though the largest U.S. exporter, Boeing won’t be able to fix the economy alone.  Especially when they’re competing against Airbus.

It is the high cost of labor that is hurting the advanced economies.  The Europeans subsidize some of their industries to make up for this economic disadvantage.  Boeing charges Airbus with getting subsidies that lets them compete unfairly.  And Airbus, of course, accuses Boeing of the same.   To help gain a competitive edge over Airbus, Boeing wanted to expand production in South Carolina.  A right to work state.  Which the Obama administration has opposed.  In support of their union donors.

The lesson of the Boeing-Airbus rivalry is this.  They’d be able to sell more planes if they could cut their labor costs.

Listening to the Private Sector turned around the German Economy and is why they can Bail Out the Euro

Germany’s high cost of labor was crippling her economy.  BMW and Mercedes-Benz built plants in America to escape their high cost of labor.  But things are different in Germany these days.  In fact, the country is so rich that the hopes of saving the Euro common currency falls on the German economy.  The only European economy rich enough to save the Euro.  So how did they make this turnaround?  Through reforms (see Getting People Back to Work by Matt Mitchell posted 9/26/2011 on Mercatus Center at George Mason University).

Germany’s unemployment rate is only 6.2 percent today. This is pretty remarkable given the severity of the recent recession, the slow growth of Germany’s trade partners (including the U.S.) and the unfolding fiscal crisis in the Eurozone.

NPR’s Caitlin Kenney attributes Germany’s relative success to a number of reforms adopted a decade ago. Kenney reports:

To figure out how Germany got where it is today, you need to go back 10 years. In 2002, Germany looked a lot like the United States does now, they had no economic growth and their unemployment rate was 8.7 percent and climbing. The country needed help, so the top man in Germany at the time, Gerhard Schroder, the German chancellor, made in an emergency call to a trusted friend.

So who did he turn to?  A government bureaucrat?  Or someone from the private sector?

The friend was Peter Hartz, a former HR director whom Schroder knew from his VW days. Schroder put Hartz in charge of a commission, the mission of which was to find a way to make Germany’s labor market more flexible. The Hartz commission made it easier to hire someone for a low-paying, temporary job, a so-called “mini job”:

A mini-job isn’t that great of a deal for workers. In these jobs, they can work as many hours as the employer wants them to, but the maximum they can earn is 400 Euros per month. On the plus side, they get to keep it all. They don’t pay any taxes on the money. And they do still get some government assistance.

He went to the private sector.  To get advice of how to create jobs in the private sector.  And he listened to what they said.  The cost of labor and regulatory costs were crippling job creation.

Generous unemployment insurance and regulations that add to the cost of employment tend to make for a static, unhealthy labor market. Though designed to make life better for workers, these policies may do them more harm than good.

Listening to the private sector turned around the German economy.  Made it the dynamo it is today.  And it is why that the German economy is the only economy that can bail out the Euro.

Economic Recovery Requires New Jobs

The economy still looks like it’s going to get worse before it gets better.  Whereas the Germans are doing so well that they may single-handedly bailout the Eurozone from their sovereign debt crisis.  And a lot of Americans are saying that should be us.  Not the bailing out the Eurozone part.  But having the ability to do that.

And that could have been us.  And should have been.  Like it used to be.  When America led the world in creating jobs.  So what happened?  The same thing that had happened in Germany.  The cost of employment grew.  And as it grew new job creation declined.

Economic recovery requires new jobs.  The Germans understood that.  And they did something about it.  So should we.  And the sooner we do the sooner we will see that economic recovery.

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Looking at the Economic Data it’s getting hard to tell who’s President, Barack Obama or Jimmy Carter

Posted by PITHOCRATES - August 22nd, 2011

Keynesian Economists’ Poor Forecasts suggests their Keynesian Economics doesn’t Work

More bad news for the housing market.  Not that this is a surprise.  That was a pretty big housing bubble that the Fed created.  With their stimulative low interest rates.  And the bigger they are the harder they fall.  Or pop, as it were.  And as the market corrected the Fed’s damage, it threw a slew of people out of work (see Early Mortgage Delinquencies Rise to Highest in Year as U.S. Economy Slows by Kathleen M. Howley posted 8/22/2011 on Bloomberg). 

The percentage of U.S. mortgages overdue by one month rose to the highest level in a year in the second quarter as homeowners who lost jobs were unable to make their payments…

The gain in early delinquencies signals a slowing economy may increase foreclosures, said Jay Brinkmann, chief economist of the trade group. The unemployment rate in the three months ended June 30 rose to 9.1 percent from 8.9 percent, the first quarterly increase since 2009, according to the Labor Department. Jobless claims jumped to an eight-month high in late April, government data show.

For the quarter ending June 30 unemployment was at 9.1 percent.  Ouch.  Remember why it was so urgent to pass the Obama Keynesian stimulus?  To keep the unemployment rate under 8%.  That was in February of 2009.  That’s two years ago.  Guess Keynesian economics doesn’t work.

The world’s largest economy grew at a 1.3 percent annual rate in the second quarter, the Commerce Department said on July 29. That was less than the increase of 1.8 percent forecast by economists surveyed by Bloomberg. A Federal Reserve report last week showed manufacturing in the Philadelphia region contracted in August by the most in more than two years as orders fell and factories fired workers.

Goldman Sachs Group Inc. and JPMorgan Chase & Co. lowered their forecasts for U.S. gross domestic product last week. The U.S. will expand 1.5 percent this year, down from a previous forecast of 1.7 percent, according to Goldman economists in New York. JPMorgan predicts 1 percent growth in U.S. GDP in the fourth quarter, down from an earlier projection of 2.5 percent, the bank said last week.

And the news just keeps getting better.  And by better I mean worse.  Again another record.  This one for manufacturing.  And actual GDP numbers are coming in under economists’ estimates.  The numbers are so bad these economists are revising their future projections down.  It should be noted that the vast majority of mainstream economists are Keynesian economists.  Which suggests their Keynesian economics doesn’t work very well.

Inflation Growing at a Greater Rate than Wages equals Real Pay Cuts

These mainstream economists said the Great Recession ended by July 2009.  Said that the Obama administration followed their Keynesian advice.  Kicked that recession in the behind.  And launched the recovery with a Recovery Summer.  Yay said the Keynesians.  Everything was going to be all right.  And yet two years later here we are.  Where things are still not right (see Survey: US companies say they’re planning another year of small raises for workers in 2012 by the Associated Press posted 8/22/2011 on The Washington Post). 

After increasing salaries by 2.6 percent this year and last year, companies are planning a 2.8 percent bump in 2012, benefits and human resources consultancy Towers Watson reported Monday.

That’s somewhat smaller than raises in the last decade. From 2000 to 2006, the year before the Great Recession began, salaries rose an average 3.9 percent for workers who were not executives.

And the modest bump may not help add much buying power for shoppers. In the 12 months through July, prices for consumers have risen 3.6 percent, according to the government’s latest calculations.

Those lucky enough to have a job are taking real pay cuts to keep those jobs.  Inflation is growing at a greater rate than their wages.  Which means as prices go up their pay checks will buy less.  Despite those raises.  High unemployment.  And rising inflation.  The last time the economy saw numbers this bad was during the Seventies.  When we called it stagflation.  And blamed Jimmy Carter.  Who became a one-term president because of it.

Obama Cares enough about the People to Hide from them on the Golf Course

President Obama is aware of the nation’s woes.  He is even thinking about them while on vacation.  On Martha’s Vineyard.  Playground for the uber rich (see President keeps low profile on Martha’s Vineyard by Mark Shanahan & Meredith Goldstein posted 8/20/2011 on the boston.com).   

But it was later, at the Vineyard Golf Course in Edgartown, where the president’s recalcitrance was most evident. Approaching the eighth tee in a golf cart with friend and frequent golfing buddy Eric Whitaker, the president noticed three TV cameras and a Globe photographer across the street. Rather than stop and be photographed teeing off, the president skipped the hole.

That’s how much he cares.  He’ll skip a hole during a round of golf just so we don’t see him living well during these bad economic times.  Talk about sacrifice.  He’s just not playing 17 holes instead of 18.  Skipping that hole may have an adverse affect on his handicap.  He called for fair-share sacrifice.  And he, too, is sacrificing.  Walking it like he talks it.  So think about this noble act before you start bitching about another tax hike.  He skipped a hole of golf.

Obama bailed out General Motors and Chrysler and put Detroit back to Work

But it’s back to work after Martha’s Vineyards.  Just like the rest of us after our vacations.  Though our vacations are a bit more Spartan these days.  And rarely venture farther than our own backyards (see Obama to join unions’ Labor Day festivities in Detroit by Aaron Kessler posted 8/22/2011 on the Detroit Free Press). 

WASHINGTON – President Barack Obama will join thousands of union members at Labor Day festivities in Detroit, the Free Press has learned,

Obama will deliver remarks at a Labor Day event sponsored by the Metro Detroit Labor Council, according to a White House official with knowledge of the trip.

While no other details were immediately available, it is likely he would again use the opportunity to tout his administration’s role in the rescues in 2009 of General Motors and Chrysler.

So the president is going to Detroit to celebrate Labor Day.  It makes sense.  I mean, he bailed out General Motors and Chrysler, didn’t he?  And put the good people of Detroit back to work.

With 13.7% Unemployment where’s the Summer Recovery in Detroit?

Then again, looking at the U.S. Bureau of Labor Statistics, it would appear that he has not put the good people of Detroit back to work (see Metropolitan Area Employment and Unemployment Summary posted 8/3/2011 on the U.S. Bureau of Labor Statistics). 

Eleven of the most populous metropolitan areas are made up of 34 metropolitan divisions, which are essentially separately identifiable employment centers. In June 2011, Miami-Miami Beach-Kendall, Fla., and Detroit-Livonia-Dearborn, Mich., registered the highest jobless rates among the divisions, 13.9 and 13.7 percent, respectively. Nashua, N.H.-Mass., reported the lowest division rate, 5.4 percent, followed by Bethesda-Rockville-Frederick, Md., 5.8 percent. (See table 2.)

No wonder Maxine Waters is so angry.  He skips Detroit on his ‘listening’ bus tour.  And vacations on the very exclusive Martha’s Vineyards.  While the Detroit area is suffering double-digit unemployment.  If he was listening anywhere, it should have been in Detroit.

The Detroit area unemployment rate is 13.7%.  While the national rate is only 9.1% for the same period.  Yes, the national rate is bad.  But it’s not Detroit bad.  And this after the automotive bailouts.  That put the good people of Detroit back to work.  On top of the Obama stimulus.  So where’s the Summer Recovery in Detroit?  What’s happened to the Motor City? 

So this is what a Second Jimmy Carter Term would have been Like 

In a word, Obamanomics.  His Keynesian policies that were supposed to save jobs have killed jobs.  In Detroit.  And across the nation.  Worse, on top of high unemployment these policies have ignited inflation.  Unemployment plus inflation equals stagnation.  Misery.  And malaise

So this is what a second Jimmy Carter term would have been like.  Makes one want to say, “Welcome back Carter.”  But not in that warm nostalgic way like in that Seventies sitcom (Welcome Back Kotter).  Of course you never saw Jimmy Carter living it up like Obama.  So there are some differences.

This economy will not help Obama in 2012.  Worse, the American people will get no relief until after 2012.  For it’s like Ronald Reagan said in his campaign against Jimmy Carter (see President Ronald Reagan – Liberty State Park [Pt. 1] at 5:26).  A recession is when your neighbor loses his job.  A depression is when you lose yours.  And recovery is when Barack Obama loses his.

I’m paraphrasing, of course.

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Keynesian Economics gave us the Subprime Mortgage Crisis, but the Government blames S&P

Posted by PITHOCRATES - August 20th, 2011

We call it the Subprime Mortgage Crisis, not the Mortgage-Backed Securities Crisis 

When responsible for a problem you can accept blame.  Or you can blame the messenger.  Or better yet, you can attack the messenger (see Criticism of Standard & Poor’s over U.S. credit rating compounds its troubles in Washington by Jim Puzzanghera, Los Angeles Times, posted 8/18/2011 on WGNtv).

The backlash against Standard & Poor’s for downgrading the U.S. credit rating adds to the company’s problems in the nation’s capital, where it faces investigations for its role in fueling the financial crisis with faulty assessments of mortgage-backed securities.

S&P and the other credit-rating firms are widely believed to have enabled the near market meltdown by giving AAA ratings to many securities backed by risky subprime mortgages.

So the credit-rating firms enabled the subprime mortgage crisis.  Interesting.  Because the bad subprime mortgages already existed by the time those mortgage-backed securities came to them for review.  And it was those preexisting mortgages that people defaulted on and caused the near market meltdown.  So I don’t think you can blame this all on S&P.  And remember, we call it the subprime mortgage crisis.  Not the mortgage-backed securities crisis.  Ergo, the cause was the subprime mortgages.  And S&P didn’t write those mortgages.

Subprime Mortgages:  Creative Financing to Qualify the Unqualified

Once upon a time you saved up 20% for the down payment on a new house.  Then you went to a savings and loan to get a mortgage.  Or a bank.  In those days, people saved their money.  They deposited it into their savings accounts and earned 3% interest.  The banks and savings and loans then loaned it at 6%.  And the bankers were on the golf course by 3 PM.  Hence the joke about the 3-6-3 industry.  It wasn’t very sexy.  But it was reliable.  Few defaulted.  Because a new home owner had a lot to lose from day 1 thanks to that 20% down payment.

But there was a problem with this.  Home ownership was restricted to only those people who could afford to buy houses.  Those who could put down a 20% down payment.  And who had a job with sufficient income to qualify for a mortgage.  Well, you can see the problem with this.  What about the poor people who couldn’t come up with the 20% down payment nor had a job with sufficient income to qualify for a mortgage?

After World War II home ownership became a national goal.  Home ownership equaled economic growth.  It became the American dream (no longer was it the liberty that the Founding Fathers gave us).  As the years went by some saw that the poor were being left out.  Included in that long list of those who could not qualify for a mortgage were a lot of blacks.  Activists claimed that banks were redlining.  Disapproving a larger percentage of black applicants than white.  There were protests.  Investigations.  Banks had to figure out a way to qualify the unqualified and fast.  To prove that they weren’t being racist.

And the subprime mortgage was born.   Adjustable Interest Rate (ARM).  No documentation.  Zero down.  Interest only.  All kinds of creative financing to qualify the unqualified for mortgages.  And it was a hit.  Poor people liked them.  But banks were still reluctant to issue many of them.  Because they were far more risky than a conventional mortgage.  And it was dangerous to have too many of them on their books.  But then federal government solved that problem.

Fannie and Freddie enabled the Mortgage Lenders to Approve Risky Mortgages

Enter Fannie Mae and Freddie MacGovernment Sponsored Enterprises.  They would buy (or guarantee) those risky mortgages from the banks.  The banks breathed a huge sigh of relief.  Then started selling the crap out of subprime mortgages.  Because they were exposed to no risk thanks to Fannie and Freddie.  And the housing market took off.  The government urged Fannie and Freddie to lower their standards and buy even more risky mortgages.  To keep the housing boom alive.  And they did.  Not only were home owners snatching them up.  But speculators, too.  And the term ‘house flipping‘ entered the American lexicon.

Fannie and Freddie then repackaged the subprime mortgages they bought and resold them.  Into so-called ‘safe’ investments.  Thanks to being tied to a mortgage, historically one of the safest investments in America.  Well, they were when people were putting 20% down, at least.  So these mortgage back securities were created.  Reviewed by the credit-rating agencies.  And sold to investors, mutual funds, pension funds, 401(k)s, etc.  Who bought them with abandon.  Because they were rated AAA.  Long after those risky mortgages were written.

They were time bombs just waiting to go off.  Not because of the credit rating agencies.  But because of Fannie and Freddie.  Who enabled the mortgage lenders to approve risky mortgages with no risk to themselves.  And a long standing government policy to put as many people as possible into homes.  Because economic growth all came from home ownership.  And then it happened.  There was a housing bubble thanks to easy monetary policy.  The economy was heating up.  Worried about inflation, the Fed tapped the brakes.  Raised interest rates.  And all of those ARMs reset at higher rates.  People couldn’t afford the new higher monthly payments.  The higher interest rates left the speculators with lots of houses.  That they bought with no money down.  That no one was buying.  And, well, the rest you know.

The Greatest Threat to American Fiscal Solvency is the Government’s growing Health Care Tab 

So S&P didn’t cause the subprime mortgage crisis.  Whether they gave those securities AAA ratings or not those subprime mortgage holders were going to default anyway.  The origins of the subprime mortgage crisis reach a lot further back than S&P.  But their credibility did take a hit.  So they’re trying to be a little more cautious these days.  And if anyone paid attention during the debt ceiling debates, they know the country’s long-term finances are in some serious trouble.

Jeffrey Miron wrote a paper about the health of the U.S. states.  He starts in the introduction by going over the state of affairs in the federal government (see The Fiscal Health of U.S. States by Jeffrey Miron posted 8/15/2011 on Mercatus Center).

As the worldwide financial crisis has eased, economic policy debates have shifted from the short-term issue of stabilization to the log-term issue of fiscal imbalance.  Current projections suggests that the U.S. federal government faces an exploding ratio of debt to GDP, driven in large part by spending on health insurance1.  If this trend continues, the United States will soon find itself unable to roll over its debt and be force to default, generating a fiscal crisis.

————————————————————

1  U.S. Congressional Budget Office, “CBO’s 2011 Long-Term Budget Outlook” (Washington, DC: CBO, June 2011)

Perhaps this is why S&P downgraded U.S. debt.  Because that debt ceiling deal did nothing to address the greatest threat to American fiscal solvency.  The government’s growing health care tab.  The nation indeed may be seeing some difficult times.  As will the states.

This paper offers five conclusions. First, state government finances are not on a stable path; if spending patterns continue to follow those of recent decades, the ratio of state debt to output will increase without bound. Second, the key driver of increasing state and local expenditures is health-care costs, especially Medicaid and subsidies for health-insurance exchanges under the Patient Protection and Affordable Care Act of 2009. Third, states have large implicit debts for unfunded pension liabilities, making their net debt positions substantially worse than official debt statistics indicate. Fourth, if spending trends continue and tax revenues remain near their historical levels relative to output, most states will reach dangerous ratios of debt to GDP within 20 to 30 years. Fifth, states differ in their degrees of fiscal imbalance, but the overriding fact is that all states face fiscal meltdown in the foreseeable future.

Not a pretty picture.  This whole European Socialism model is pushing both the states and the country to default.  Like it is currently pushing European nations toward default in the Eurozone.  Whose financial crisis is worst than America’s.  So far.

Keynesian Economics stimulated the Housing Market into the Granddaddy of all Housing Bubbles 

Social engineering.  Tax and spend liberalism.  Keynesian economics.   These are what gave us the subprime mortgage crisis.  Putting people into houses who couldn’t afford them.  And keeping interest rates artificially low to stimulate the housing market into the granddaddy of all housing bubbles.  The subprime mortgage crisis.  And more of the same will only push us further down the Eurozone road.  Sadly, a road often taken throughout history.  As once great nations fell, littering this road.  The Road to Serfdom.

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Obama Prolongs the Recession with High Food and Gas Prices and anti-Business Policies

Posted by PITHOCRATES - May 27th, 2011

Consumer Spending and Wages are Flat thanks to Inflation

Consumer spending at last shows some growth.  No, wait a minute.  It’s not growth.  It’s only inflation (see April consumer spending shows weak gain by the Associated Press posted 5/27/2011 on the Los Angeles Times).

Consumer spending rose 0.4 percent, reflecting a surge in the category that covers food and gasoline, areas which showed big price gains last month, the Commerce Department reported Friday. Excluding price changes, spending rose a much smaller 0.1 percent.

Incomes rose 0.4 percent but after-tax incomes adjusted for inflation were flat for a second straight month.

Analysts are worried that weak income growth and big gains in gasoline and food prices are leaving consumers with little left to spend on other products. That could dampen economic growth. Consumer spending is closely watched because it accounts for 70 percent of economic activity.

Increased consumer spending is a good thing.  But not when consumers are only paying more for the same stuff.  That’s not new economic activity.  That’s just inflation making life more expensive.  Food and gasoline are the main culprits.  And it’s gasoline that plays a large role in making food more expensive.  Because gasoline is used everywhere in bringing food to our grocery stores.

Worse, Americans are paying more.  But not earning more.  Which leaves less disposable income to stimulate the economy. In other words, the U.S. is still in recession.  And won’t be coming out of it anytime soon.

Still no Recovery in the Housing Market

So we’re still mired in recession.  Of course that means houses should still be cheap.  With low interest rates.  Put the two together and someone should be buying houses at least (see Pending Home Sales Plunge, Reaching Seven-Month Low by Reuters posted 5/27/2011 on CNBC).

Pending sales of existing U.S. homes dropped far more than expected in April to touch a seven-month low, a trade group said on Friday, dealing a blow to hopes of a recovery in the housing market.

Damn.  Housing sales had been the backbone of the U.S. economy.  Because furnishing a house drives so much consumer spending.  The more people that bought houses the better.  So that was U.S. policy.  Putting people into houses.  Which led to the subprime mortgage market.  A housing bubble.  The subprime mortgage crisis.   And a glut of foreclosed homes on the market driving housing prices down further.

It’s a buyer’s market now.  Because so few are buying.  So the economy is not going to get any assistance from the housing market any time soon.

Universal Health Care Ruins Massachusetts First, then the United States

So things are bad.  But can they get any worse?  Are there any new big regulatory compliance or taxes in the pipeline?  Anything that could snuff out even the most anemic of economic recoveries?  As it turns out, yes (see Health Insurance Premiums Continue to Rise Under RomneyCare by Peter Suderman posted 5/27/2011 on reason).

Not only are Masachusetts’ health insurance premiums higher than elsewhere in the U.S. on average, they’ve grown at a faster rate since the adoption of RomneyCare, according to a report released yesterday by the state government. The report, which was published by the state’s Division of Health Care Finance & Policy, notes that for the last two years, private group insurance premiums rose by between five and 10 percent per year despite the fact that the regional consumer price index, which measures inflation on common goods and services, rose by just two percent..

The Obama administration has explicitly stated on numerous occasions that RomneyCare was the model for the federal overhaul. Given the Bay State’s spiraling costs, it seems more and more likely that, thanks to ObamaCare, we can all expect higher health insurance premiums in our future.

So Obamacare is Romneycare at the national level.  So the American people can expect spiraling health care costs and insurance premiums.  That can’t be good for the economy.

Obamacare hasn’t really kicked in yet.  Most of the activity has been by companies seeking waivers to be excluded from the requirements of Obamacare as it places too great a cost burden on their small businesses.  But these are only one-year waivers.  So small business costs will be going up eventually.  When they do in fact comply with Obamacare.  And that will be a great disincentive to hire new employees.  Being that small business is the biggest generator of jobs, Obamacare will further stretch out this recession.  Or make it an even more severe recession.

The Obama Administration would like Gas at $8/Gallon

If only we could get a break on gasoline prices.  That is such a large part of consumer prices that if they went down the economy might tick up.  So the government should focus all of its powers on lowering gas prices (see Obama’s Bad Policy, Harmful Regulations Add to Gas Prices by Darrell Issa posted 5/27/2011 on USNEWS).

From the campaign trail, then Senator Obama spoke of increased electricity prices as a means for advancing his agenda, noting that costs would “necessarily skyrocket.” Energy Secretary Stephen Chu was equally blunt. “Somehow we have to figure out how to boost the price of gasoline to the levels in Europe [currently $8 a gallon],” Mr. Chu announced. Last year, President Obama declared that America must be the nation that leads the “clean energy economy.”

So the plan was to make gasoline prices high all along.  To make gasoline so expensive that the more expensive green energy became cost competitive.  To encourage the American people to choose it.  And by ‘encourage’ I mean force.  Talk about devious. 

Even as compliance costs for traditional and affordable sources of energy rise, the administration’s willingness to promulgate even tighter regulatory controls and raise taxes on oil and gas producers rolls along. In his fiscal year 2012 budget, President Obama requested more than $60 billion in direct tax and fee increases on American energy production over the next 10 years.

Tighter regulatory controls and higher taxes won’t help the economy.  Especially when those controls and taxes are on the one thing that drives most prices.  Gasoline.  It’s almost as if the Obama administration is trying to prolong the greatest recession since the Great Depression.

The Government’s Help is killing Small Business

So how about the man in the street.  Or, rather, a man on an airplane.  Stephen Carter, Yale law professor, sat next to a small business owner on a recent flight.  An actual person.  Not the abstract business people who are trying to cheat the government out of their taxes or take grandma’s medications away.  A flesh and blood real person.  They had an interesting conversation.  About small business.  The greatest generator of American jobs.  And he asked this business owner why he was prolonging the recession by not hiring new employees (see Carter: Economic Stagnation Explained, at 30,000 Feet by Stephen L. Carter posted 5/26/2011 on Bloomberg).

“Because I don’t know how much it will cost,” he explains. “How can I hire new workers today, when I don’t know how much they will cost me tomorrow?”

He’s referring not to wages, but to regulation: He has no way of telling what new rules will go into effect when. His business, although it covers several states, operates on low margins. He can’t afford to take the chance of losing what little profit there is to the next round of regulatory changes. And so he’s hiring nobody until he has some certainty about cost.

One thing business people don’t like is uncertainty.  Because when they screw up they can’t just raise taxes or print money.  They have to deal with real the consequences of bad decisions.  So they are very careful about making costly decisions.  Like hiring people.

“I don’t understand why Washington does this to us,” he resumes. By “us,” he means people who run businesses of less- than-Fortune-500 size. He tells me that it doesn’t much matter which party is in office. Every change of power means a whole new set of rules to which he and those like him must respond. ‘‘I don’t understand,” he continues, “why Washington won’t just get out of our way and let us hire.”

Republican.  Democrat.  It doesn’t matter.  Every time there is a change there are new rules to follow.  And more of that thing they so hate.  Uncertainty.

“I think about retirement a lot,” he says. “But I can’t.” I wait to hear about how much he loves the business he founded, or about his responsibilities to his employees, or perhaps to the town, somewhere in the Dakotas, where his factory is located. Instead, he tells me that it’s impossible to make a sensible decision about winding down his firm when he doesn’t even know from one year to the next what the capital gains rate is going to be.

So it’s just not the Wall Street robber barons affected by the capital gains tax.  The greatest employer, small business, is affected, too.  He is just one of many.  Unable to make decisions like when he can retire.  Does he have enough money to retire?  And pay his capital gains tax?  If not it could be a problem.  Because you just can’t un-retire when you sell or close down a small business if you calculated wrong.  Instead, you’ll be an old guy trying to find a job.

I ask him what, precisely, he thinks is the proper role of government as it relates to business.

“Invisible,” he says. “I know there are things the government has to do. But they need to find a way to do them without people like me having to bump into a new regulation every time we turn a corner.” He reflects for a moment, then finds the analogy he seeks. “Government should act like my assistant, not my boss.”

An assistant doesn’t tell the boss how to run his business.  Because an assistant doesn’t know how to run his boss’ business.  Government bureaucrats aren’t even as knowledgeable as the assistant.  The assistant at least has a job in a business.  Few in Washington have ever run a business.  Let alone had a real job.  Yet here they are constantly trying to tell others how to run their businesses.

On the way to my connection, I ponder. As an academic with an interest in policy, I tend to see businesses as abstractions, fitting into a theory or a data set. Most policy makers do the same. We rarely encounter the simple human face of the less- than-giant businesses we constantly extol. And when they refuse to hire, we would often rather go on television and call them greedy than sit and talk to them about their challenges.

Recessions have complex causes, but, as the man on the aisle reminded me, we do nothing to make things better when the companies on which we rely see Washington as adversary rather than partner.

The best thing Washington can do to help small business?  Stop helping. 

In the Recession Business?

From small business regulation to inflation to the high cost of health care to the high cost of gasoline it would appear that the current administration is actually in the recession business.  Or utterly incompetent.  One almost has to lean towards incompetence.  Because there is an election in 2012.  And making the worst recession since the Great Depression more like the Great Depression can’t possibly help at the polls.  Even if you have compromising photographs of the Republican candidate having a good time with someone that is not his or her spouse.

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Fannie Mae and Freddie Mac Winding down after Costing us Dearly

Posted by PITHOCRATES - February 12th, 2011

The Subprime Mortgage Crisis

The housing market is still bad.  And hindering our economic recovery.  The Federal Reserve sees problems inherent in the system.  They don’t want to rehash the blame game for the housing collapse that triggered the worst recession since the Great Depression.  But they do (see Federal Reserve board member: U.S. investigation into mortgage servicing has found ‘widespread weakness’ by Ariana Eunjung Cha posted 2/11/2011 on The Washington Post).

While [Sarah] Bloom Raskin [Federal Reserve board of governors member] said in her speech that she did not want to dwell on how the industry came to such a crisis and instead focus on solutions, she did take some time to issue a harsh reprimand to mortgage brokers, loan originators, loan securitizers, sub-prime lenders, Wall Street investors and ratings agencies whose “selfish free-for-all,” she said, “ultimately led to an economic slide the effects of which are still visible in the boarded-up houses and sheriffs’ foreclosure notices posted all over America.”

Missing from this list is the government.  For it was their policies and threat of legal action that made lenders create all of those risky loans.  Those subprime mortgages.  That put people into houses.  Even if they couldn’t afford to buy a house.  And why did they do this you ask?

U.S. Economic Policy:  Put as many People into Homes as Possible

Well, I’ll tell you.  It’s pretty simple really.  The housing market drives our economy.  Good housing sales equate to a prosperous economy (see Home prices fell in almost half of U.S. cities in fourth quarter, Realtors say by Kathleen M. Howley, Bloomberg News, posted 2/12/2011 on The Washington Post).

Federal Reserve policymakers described the U.S. real estate market as “depressed” in a Jan. 26 statement after the end of a two-day meeting in Washington. The central bankers said declining home values continued to stymie the consumer spending that accounts for about three-quarters of the world’s largest economy.

Three-quarters of the economy.  That’s why government wants to put as many people as possible into houses.  Houses are built with lumber, brick, concrete, linoleum, ceramic tile, plastic plumbing pipe, garbage disposals, electrical wiring, light fixtures, carpeting, paint, ceiling fans, air conditioners, furnaces, etc.  Once we buy a house we have to furnish it.  Stoves, refrigerators, furniture, televisions, stereos, computers, washing machines, dryers, dishes, cutlery, curtains, blinds, beds, sheets, pillows, blankets, coffee makers, etc.  And that’s a lot of consumer spending.

Building and furnishing one house stimulates a lot of economic activity.  That’s why official government policy for decades has been to get as many people to become home owners as possible.  When they extended this to those who couldn’t afford to buy a home, though, we ended up with the subprime mortgage crisis.  And because of Fannie Mae and Freddie Mac, the problem of those subprime mortgages ricocheted throughout the world.

The most Expensive Government Rescue of the Financial Crisis

And speaking of Fannie and Freddie, just how much have their risky behavior cost the American taxpayer?  A lot.  And we’re still counting (see Fannie, Freddie bailout: $153 billion … and counting by Chris Isidore posted 2/11/2011 on CNNMoney).

When the dust settles, the federal bailout of Fannie Mae and Freddie Mac will be the most expensive government rescue of the financial crisis — it already stands at $153 billion and counting…

The Federal Housing Finance Agency, the government body that oversees the two mortgage giants, has estimated that losses through 2013 will require Treasury to pour another $68 billion to $210 billion into the firms on top of the money already used to prop-up the firms and the housing market.

That’s a lot of money.  But at least we may have learned our lesson about putting people into houses they can’t afford.

Friday the Obama administration unveiled its plan to slowly wind down Fannie and Freddie and have banks and the private sector provide the financing for home loans. But the administration plans call for some continued role for the government in promoting mortgage lending and home ownership.

Perhaps not.  Let us not forget what Fannie and Freddie were.  Government Sponsored Enterprises (GSE).  The government provided oversight for these GSEs.  They wrote the laws that they must operate under.  They encouraged them to buy more of those risky loans.  All in the name to put more people into houses.  Because the housing market drives consumer spending that makes up three-quarters of the economy.

The Greed of Fannie Mae and Freddie Mac

Even the Obama administration recognizes their role in the subprime mortgage crisis.  In a report that summarized some ideas about how to proceed post Fannie and Freddie, they clearly point a finger of blame in their direction (see Obama’s Plan: Fannie Mae and Freddie Mac Go, but What Replaces Them? by David C. John posted 2/11/2011 on Heritage’s The Foundry).

The report makes it very clear where the fault for Fannie and Freddie’s failure lies, saying that “as their combined market share declined—from nearly 70 percent of new originations in 2003 to 40 percent in 2006—Fannie Mae and Freddie Mac pursued riskier business to raise their market share and increase profits. Not only did they expand their guarantees to new and riskier products, but they also increased their holdings of some of these riskier mortgages on their own balance sheets” (page 7).

And yet the Federal Reserve blames mortgage brokers, loan originators, loan securitizers, sub-prime lenders, Wall Street investors and ratings agencies.  But if Fannie and Freddie weren’t buying these risky loans, no mortgage banker would have approved these risky loans.  Because no banker would want these on their balance sheets.  But if Fannie and Freddie were buying these, what did these bankers care?  They had zero risk.  It all went to Fannie and Freddie.  And then to the American taxpayer.

If Fannie and Freddie did not buy those risky loans, the problem ends before it begins.  This is an important point that many tend to gloss over.  And here we are.  While still bailing them out of their mess they’re already talking about a continued government role in the mortgage markets.

I guess we’ve learned little from subprime mortgage crisis.  Pity.  For it was an expensive lesson.

www.PITHOCRATES.com

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