Because of Greece the Germans have to Choose Higher Taxes and Austerity or Higher Unemployment and Austerity

Posted by PITHOCRATES - November 12th, 2011

Week in Review

As the Eurozone struggles to save the Euro there is but one country that can.  Germany.  They are the only ones rich enough to bail out anyone.  Some in the U.S. like to point to Germany as a success story for the social democracy system of government.  But there is a reason why Germany is the only one that can bail out the Eurozone.  And it’s not because of their generous pay and benefits (see Eurozone Crisis: Correcting Paul Krugman by Tim Worstall posted 11/6/2011 on Forbes).

Around the turn of the century Germany realised that it was becoming uncompetitive. Labour costs were getting too high for the productivity of that labour. So they determinedly turned the screws on labour costs. They deflated that part of the economy, driving down labour costs and up productivity.

Driving down labor costs?  Increasing productivity?  Why, that sounds like things we do on this side of the Atlantic.  Us evil capitalists.  Who believe prices are set by the market.  Not by the amount of labor it takes.  As Karl Marx said.

The Germans have learned that if your costs are too great you will price yourself out of the market.  So they cut their biggest cost.  Labor.  And now German exports are leading their economy.  Which is no doubt benefited by a weak Euro.  Thanks to the European sovereign debt crisis.

Which puts the Germans in a very unique position.  If Greece fails and drops out of the Euro the Euro will grow stronger.  Which will increase the cost of German exports.  Negating all their productivity gains.  So Germany needs to save Greece.  To keep the Euro weak.  And favorable to German exports.  The only question is will the German people go along and pay the taxes required to save the Euro?

The German taxpayer can’t win.  Either higher taxation and austerity.  Or greater unemployment and austerity.  All because Greece didn’t do what they did.  Turn the screws on their labor costs.

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Keynesian Governments play with Interest Rates giving us Asset Bubbles and Crises

Posted by PITHOCRATES - September 5th, 2011

Subprime Mortgage Lending – Qualifying the Unqualified

Housing has led the economy since World War II.  Home ownership.  The magical elixir.  So the government policy has been to put as many people into homes as possible.

They pushed mortgage lenders to approve mortgages.  And threatened them when they didn’t.  Especially to minorities in depressed inner cities.  Worse, activists were protesting.  Accusing them of redlining.  All this pressure forced the lenders to come up with ways to qualify the unqualified.  And the vehicle of choice was the subprime mortgage.

Adjustable Rate Mortgages (ARMs).  Interest only mortgagesNo-documentation mortgages.  Etc.  These were putting people into houses like never before.  Even if they couldn’t afford a house.  They got in at low interest rates.  Kept low by easy monetary policy.  To get as many people approved for these dirt-cheap mortgages as possible.

Bad Government Policy caused a Housing Boom, a Housing Bubble and a Crisis

But that’s not all the government did.  Via Fannie Mae and Freddie Mac, they guaranteed these subprime mortgages.  And bought them from the mortgage lenders.  Removing these highly risky mortgages from their balance sheets.  Removing all risk from the lender.  And passing it on to the taxpayer.  And as you would guess such a policy would do, the lenders approved more of these risky subprime mortgages.  And why not?  They made money.  And were insulated from all risk. 

Then Fannie and Freddie chopped and diced these risky subprime mortgages.  Created mortgage-backed securities (MBS).  And collateralized debt obligations (CDO).  And sold them on Wall Street.  They were high yield.  But super safe.  Because they were backed by historically the safest of all debt.  Mortgages.  Only these weren’t safe mortgages.  They were very risky subprime mortgages.  And why were they so risky?  Because when interest rates go up, so do their monthly payments.  Likely more than the home owner can pay.  And when those interest-only mortgages had to be refinanced, the new higher interest rates made the new mortgages more costly than the old.  More than a subprime borrower could afford.  Which meant one thing.  Default.

So all this bad government policy (to put as many people into homes as possible) caused a housing boom.  And a housing bubble.  The economy was overheating.  So the Federal Reserve tapped the monetary brakes.  By raising interest rates.  And all hell broke loose.

Government enabled Risky Subprime Mortgage Lending

The government’s housing policy gave us the subprime mortgage crisis.  And spread this contagion around the globe.  Thanks to Fannie and Freddie.  Enabling all that bad mortgage lending.  Giving us the Great Recession.  That appears more depression-like than recession.  Now the go-to government policy of boosting economic activity won’t work.  Because the housing market is in shambles.  And it will get worse before it gets better (see Uncle Sam is a reluctant landlord of foreclosed homes by Lorraine Woellert and Clea Benson, Bloomberg Businessweek, posted 9/5/2011 on MSNBC).

For sale or rent by distressed owner: 248,000 homes. That’s how many residential properties the U.S. government now has in its possession, the result of record numbers of people defaulting on government-backed mortgages. Washington is sitting on nearly a third of the nation’s 800,000 repossessed houses, making the U.S. taxpayer the largest owner of foreclosed properties. With even more homes moving toward default, Fannie Mae, Freddie Mac and the Federal Housing Administration are looking for a way to unload them without swamping the already depressed real estate market.

The U.S. taxpayer is the largest owner of foreclosed properties.  Because government enabled risky subprime mortgage lending.  They guaranteed or bought risky mortgages.  So risky that no mortgage lender would have approved them if they had to carry the risk on their own balance sheets.  Which makes the government incompetent.  Or devious.

The government caused this problem.  By putting as many people as possible into homes.  Whether they could afford it or not.  And now they have a big problem on their hands.  Or, rather, the taxpayers do.  For government’s problem is ultimately the taxpayers’ problem.  It is our money after all that they are playing with.

Since the 2008 financial collapse, the government has spent billions of dollars trying to extricate borrowers from high-cost loans, aid delinquent homeowners and stabilize neighborhoods. The results have been disappointing. The Obama Administration’s signature loan-modification program has helped about 657,000 homeowners — far short of its goal of 3 to 4 million. The program was a victim of its complexity and its inability to cope with overwhelming demand.

Yes, they’re good at creating BIG problems.  But not very good at fixing them.  To put it mildly.  And yet we keep turning to government for help.  Go figure.

Selling High-Risk Securities Masquerading as Safe High-Yield Investments 

And it’s not only the U.S that made a mess of their mortgage market.  Europe has her own subprime problems.  On top of their sovereign debt crisis.  As if they didn’t have enough to worry about already (see Europe banks slide to 29-month low on multiple headwinds by Simon Jessop, Reuters, posted 9/5/2011 on Yahoo! Finance).

European bank shares slid to a 29-month low on Monday, leading the broader market down on fresh sub-prime mortgage woes, fears of recession and yet more evidence of political disunity that could hamper efforts to solve the region’s debt crisis…

“The chances of a near-term recovery remain slim as euro zone debt concerns, structural reform and a lawsuit for allegedly mis-selling mortgage debt all weigh heavy on the sector,” Manoj Ladwa, senior trader at ETX Capital said.

Subprime mortgage woes.  And a debt crisis.  All caused by activist Keynesian governments.  Playing with interest rates.  To stimulate the economy with an artificial demand.  Which always ends the same way.  Asset bubbles.  And crises.  In Europe.  The U.S.  And everywhere where activist governments think they can outsmart the free market.

Royal Bank of Scotland…

… is among the worst-placed of European lenders facing a multi-billion-dollar U.S. regulatory lawsuit accusing them of misrepresenting the checks they made on mortgages before securitising them.

So Europe, too, has been dabbling in mortgage-backed securities (MBS).  And collateralized debt obligations (CDO).  Doesn’t look like things ended any better for the Europeans.  They sold high-risk securities masquerading as safe high-yield investments.  Because of those ‘safe’ mortgages underlying these investments.  That were anything but safe.

“The banks’ cost of funding goes up in tandem with the country’s cost of funding, and eventually they get denied access to the credit market.”

That relationship was once again thrown into focus on Monday as both Italian and Spanish 10-year yields rose to near 1-month highs. Peripheral euro zone sovereign CDS yields also rose, with French yields at a record high.

The financial crisis is not only hurting investors, it’s hurting countries.  By raising borrowing costs.  Which is a BIG problem for countries that like to spend beyond their means.  Because they have to borrow to pay today’s bills.  As well as borrow to pay yesterday’s bills. 

As bonds come due they have to borrow money to redeem them.  And all this new borrowing is at higher and higher interest rates.  So high that governments even have to borrow to pay the interest on the money they’ve borrowed.  And the interest on their debt becomes an ever growing line item on their budgets.  Which makes it harder to pay retirement benefits.  Health care benefits.  Education benefits (i.e., free college tuition).  Etc.  Eventually requiring budget cuts.  And austerity.  Which the people often respond to with riots.

Adding to growing concern over a return to recession in the developed world, data showed euro zone services sector growth eased for the fifth consecutive month in August.

Recent data showed a world economy growing at “near stall speed,” analysts at Societe Generale (Paris: FR0000130809 – news) said in a note, although they did not believe the world would return to recession as it needed a trigger, “which we believe will remain absent.”

“Taming burgeoning public debts on both sides of the Atlantic (Stuttgart: A0J3C9 – news) will take time and we forecast a prolonged period of low growth for both the US and Europe,” they add.

All this government spending is paid for (in part) with high taxes.  As the borrowing costs grow governments turn to raising tax rates.  Which puts the brakes on economic activity.  Which, in turn, reduces the amount of tax dollars collected by the government.  Making a bad problem worse.

You Never Want a Serious Crisis to go to Waste

This is Keynesian economics.  Keep interest rates low.  Depreciate your currency.  And keep on spending.  Their rationale is that governments can do anything they want.  For it’s their fiat money.  They can always print more.  And the resulting inflation will make yesterday’s debt easier to pay tomorrow.  We call it screwing our creditors.  I mean, monetizing the debt.

But debt has consequences.  The European sovereign debt crisis is a crisis because they can’t borrow any more money to continue their excessive government spending.  Standard and Poor’s just downgraded U.S. bonds because of excessive debt.  The tax and spend Keynesians say poppycock.  Keep spending.  And raise taxes.

But the responsible people say, “Wait a minute.”  For they see these crises as debt crises.  And they think ‘what if’ there wasn’t excessive debt.  Would there be a crisis then?  And the answer is, of course, no.  So they understand that too much debt is a bad thing.  And if it’s a bad thing, adding more of it will only make it more of a bad thing.  And unless you think a crisis is a good thing, you don’t want more of one.

But if you think a crisis is a good thing.  That “you never want a serious crisis to go to waste.”  Then you probably want more of a bad thing.  And you’re probably a Big Government Keynesian liberal Democrat.  Using that crisis to advance an agenda you couldn’t through the normal legislative process.

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No Economic Recovery, Crushing Debt and a Credit Downgrade, the U.S. inching closer to European-Style Crisis

Posted by PITHOCRATES - August 5th, 2011

The Unemployment Rate is Down even though more People are Unemployed

That stubbornly high unemployment rate that has been dogging the Obama recovery has finally dropped (see Jobs report: A pig in lipstick by Nin-Hai Tseng posted 8/5/2011 on CNN Money).

The unemployment rate in July fell slightly to 9.1% from 9.2%

But…

The unemployment rate might have fallen slightly but that’s mostly because the number of people actively looking for jobs fell back – signaling that perhaps workers are feeling less confident about entering the job market.

So the only reason why it dropped is that more people have just given up looking for a job.  And the smaller the group is that is looking for a job the smaller percentage this group is of the total working population.  Ergo, smaller unemployment rate.  So the actual employment picture isn’t better.  It’s worse.

In July, labor participation fell by 193,000.

What’s more, though the economy added 117,000 jobs, it falls short of the 125,000 jobs a month needed just to keep up with population growth and prevent the unemployment rate from trending higher. And it would take at least twice that many to rapidly reduce unemployment.

“The bigger picture, then, is that two years after the recession ended the labor market has not really recovered at all, and may even have gone backwards,” writes economist Paul Dales of Capital Economics.

The economy is worse.  Not better.  So just how much ‘not better’ is the economy?

The Real Economic Recovery not as good as the Made-up One

Apparently pretty ‘not better’ according to the people who count the numbers.  They revised their past numbers.  And the new numbers are even worse than the not-so-great numbers of numbers past (see Distress signal by R.A. posted 7/29/2011 on The Economist)

BEA revised its national accounts numbers back to 2007 for this release, and the picture revealed is far darker than anyone previously believed. From 2007 to 2010, real output declined by 0.3% per year on average. Previously, BEA had estimated annual growth of 0.1% over that period…

Projected growth rates were simply overstated, and current unemployment is exactly what we’d expect given such a feeble recovery. Those overly optimistic assessments of the likely impact of interventions, from fiscal stimulus to QE, also make much more sense now. Policymakers were fighting a fire far more intense than they recognised.

So I guess the Obama administration was a little premature with that Recovery Summer talk.  Or they are not good at reading economic numbers.  Or they are good at reading economic numbers but they were stretching the truth a bit for political purposes in hopes that the real economic recovery would catch up with the made up one.

All right, so the economy isn’t doing so well.  What do we do?

The dire economic situation undergirds this point: Washington should delay immediate fiscal cuts. Indeed, it ought to be spending more now and revisiting the possibility of a payroll tax cut.

Really?  After the recent budget debate to raise the debt ceiling to avoid default and a credit downgrade because of excessive spending and debt?  The same kind of excessive spending and debt that has put Europe in an even worse financial crisis?  Shouldn’t we take a lesson from the European Union sovereign debt crisis?  And not follow them into a similar sovereign debt crisis? 

I mean, it was going to be Armageddon if they lowered our bond rating.  Don’t we care about that anymore?  (By the way, S&P did lower their bond rating today.  So hello Armageddon.)

A Small Negative Return in the U.S. is Preferred over any Investment in the Eurozone

Apparently not.  At least investors appear to be more worried about the debt crisis in Europe.  They’re so worried, in fact, that they’re dumping their European holdings and running to the safe harbor of U.S. banks.  Despite that possible downgrade (which has since happened).  And Armageddon (see Thanks a lot, Europe by Cyrus Sanati posted 8/5/2011 on CNN Money).

The massive selloff in U.S. markets on Thursday appears rooted in Europe as fears of a sovereign debt default in Italy and Spain caused traders to panic and run for cover…

The European Central Bank attempted to ease the market’s fears, but it seemed to have only exacerbated the problem. European leaders are now scrambling to avoid an all-out run on the euro as the European sovereign debt crisis enters a possible terminal phase. They will need to act fast to restore market confidence or the current correction could turn to capitulation.

This crippling debt crisis may very well take down the European Central Bank.  With the fear of default, investors don’t want to buy anything in the Eurozone.  They fear anything they buy today may lose most of its value in the not so distant future.  So they’re pulling their cash out of Europe and parking it in the United States.

All this cash is being dumped into custodial banks in the U.S. This led the Bank of New York Mellon (BK), the largest custodial bank, to start charging its institutional clients a fee for depositing what they consider an “extraordinarily high” amount of cash — it has no place to invest it either, and higher cash levels mean higher FDIC fees.

You know it’s bad when even the banks don’t want your money.

Indeed it is.  So investors will pay a bank to hold their cash.  Because that’s the safe ‘investment’ right now.  A small negative return versus what could be a catastrophic negative return.

The Economy may not be able to Survive much more Government Help

Employment numbers are bad.  GDP is bad.  Talks of an economic recovery appear to have been hopelessly premature.  Debt crises have gripped Europe.  And S&P downgraded U.S. credit and pushed them towards Armageddon.  The Keynesians advice, though, is the same.  More government spending.  Only this can stimulate the economy back to recovery.  Even though it was excessive government spending that gave Europe and the U.S. their crises in the first place.

It’s like Ronald Reagan said.  Government isn’t the answer to our problems.  Government is the problem.  It needs to do the things it does best.  And leave the economy to the private sector.  Because the economy just may not be able to survive much more government help.

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