What If There Was a Recession and Nobody Came?
Posted by Eddy Elfenbein on August 29th, 2008 at 11:42 am

From today’s IBD:

We keep looking for the much-anticipated recession, but it doesn’t seem to have gotten here yet. Could it be that many of those expecting a downturn were wrong, and the economy’s not going into the tank?
Going out on a limb to predict what the economy will do is a tricky business. It’s possible, though by no means likely, that the economy briefly lapsed into recession late last year or early this year, based on weak GDP data, falling home sales, rising oil prices and a jump in unemployment. We won’t know for sure until months — maybe years — after it ends.
Even so, we were struck by Thursday’s news that second-quarter GDP was revised up from 1.9% to 3.3%, more in line with boom than bust. The consensus estimate was for 2.7% growth.
As more than one economist has noted, nearly all of that growth — some 3.1% of it — came from stronger exports, a result of the weak dollar. The rest came from inventories. Take those away, and the economy crawled at a weak 0.2% pace for the quarter.
Fair enough. But we did our own calculations. The slowdown in the economy is mainly due to one thing: housing. We indexed overall GDP to housing GDP back to 2000.

As the chart shows, it’s a very stark picture. We crunched even more numbers. Since 2006, the economy minus the ailing housing sector has grown at an average 3.3% rate. Add housing back in, and GDP growth has averaged just 2.4%. So housing’s collapse has cost us roughly 1% of GDP.
Housing is still weak, with sales off 35% year over year and values depreciating at double-digit rates. Banks can’t boost lending much, since they’re writing off old loans and have to shrink capital. This will take time.
But listening to the media and the Democrats in Denver, you’d think the economy was in a depression. Well, it’s not. In fact, we’re modestly optimistic. By the end of this year, all the really bad year-to-year comparisons in growth will be over. Sales and prices will start to look more normal. And the panic will leave the market.
As noted, exports have supported the economy this year. To critics, a stronger dollar means export growth will slow. Maybe so. But falling oil prices mean our import tab will also drop.
Moreover, oil demand now is falling. The Energy Department recently reported a shocking statistic that got little attention: U.S. demand in June plummeted 1.17 million barrels a day from last year, and a spokesman said prices could fall below $100 a barrel due to rising output in the U.S., Brazil and Canada.
Other data also suggest grounds for optimism. Just this week, the Census Department reported median household income hit $50,233 in 2007, after inflation, a gain of 1.6% since 2001.
Despite the slowdown in growth, the number of people without health insurance fell one million last year, while the poverty rate was unchanged at 12.5% of the population. And believe it or not, the average unemployment and poverty rates under President Bush have been slightly lower than under President Clinton.
Sure, bad things can happen. But we don’t have to will them into existence. As it stands, the much anticipated recession — thanks to Bush’s tax cuts and timely Fed actions — might just be a no-show.

My Boldest Prediction Yet
Posted by Eddy Elfenbein on August 28th, 2008 at 10:22 am

Write down this time and day, and note that I’m calling a bottom in Pakistan’s stock market.
In other news, Pakistan has barred stocks from trading below yesterday’s close.
One more prediction, this won’t end well.
(Via: Birthday Boy Joseph Weisenthal).

Latest Phony Concern: Delistings “Pinching” Exchanges
Posted by Eddy Elfenbein on August 28th, 2008 at 10:08 am

One of things I enjoy about the financial media is finding stories that are negative no matter what the outcome is. For example, you’re read a story about “red lining” and how banks are shutting out lower-income borrowers. Then a few years later, you’ll read a story about “predatory lending,” and how banks are taking advantage of lower-income borrowers. The completely contradict each other, but end results is always bad news. Or worse, it “raises concerns.” One day I hope to write a book, ” How Media Alarmism is Killing Our Children.”
If you want to be taken seriously as an economic analyst or policy maker, you need to spend much of your day being “worried” and/or “concerned.” You don’t have to do anything. Just say that this latest development “raises troubling questions.” (See Bernanke Warns.)
Probably the classic example is the worry of corporate consolidation and mega-mergers seamlessly turns into a worry about junk IPOs. I would think you can worry about one of these, but not both. Apparently the latest concern is a wave of stock delistings:

The combination of more delistings and fewer new listings has pinched the big U.S. exchange operators, as the financial meltdown topples some of their clients and spooks others.
Midway through this year, more companies than in previous years had been bumped from the Nasdaq Stock Market and, to a lesser extent, from the New York Stock Exchange because they failed to meet the minimum requirements.
Meanwhile, tumbling stock markets have brought the IPO market to a crawl, compounding the pain for Nasdaq OMX Group and NYSE Euronext, which derive up to 15 percent of their overall revenue from listing fees.
“It’s a negative” for the exchanges, said Ed Ditmire, analyst at Fox-Pitt Kelton. “But it ebbs and flows with the economic cycle.”
More Nasdaq-listed companies have been delisted for non-compliance so far this year than in either of the previous two years, according to Nasdaq data. Some 54 stocks were bumped as of Aug. 7, compared to 48 in all of last year and 52 in 2006.
At larger rival NYSE, data show 11 companies had been delisted due to non-compliance as of July 1. That compares to 21 delistings in all of last year and 14 in 2006.

Let me get this right: A growing wave of delistings is 11 for the first half of this year compared with 21 for all of last year?

Q2 GDP Revised to 3.3%
Posted by Eddy Elfenbein on August 28th, 2008 at 9:30 am

The government just revised second-quarter GDP to 3.3% from the original 1.9%. That’s a pretty hefty increase.

Record exports and the temporary stimulus from the tax rebates prevented the economy from stalling as housing slumped and companies cut expenditures. Consumer spending is now waning and slower growth abroad dims the outlook for foreign sales, signaling last quarter will be the year’s highpoint.
“Outside of trade, the economy is considerably weaker,” said Carl Riccadonna, an economist at Deutsche Bank Securities Inc. in New York. “When you look at the spending, it looks terrible for the second half of the year.”

I’m not too interested in the debate of, “are we or are we not in a recession.” Consider, however, a few facts.
Imports have now declined for three straight quarters, and four of the last five.
Fixed investment has declined for four straight quarters.
Residential investment has fallen for 10 straight quarters.

FDIC May Tap Treasury
Posted by Eddy Elfenbein on August 28th, 2008 at 8:37 am

The FDIC is designed to protect investors’ deposits up to $100,000. The FDIC’s fund currently has $45.2 billion which insures about $4.5 trillion.
Sooo…who protects the FDIC? If you said “the taxpayer,” congratulations, you can move to the head of the class.

Federal Deposit Insurance Corp. Chairman Sheila Bair said Tuesday her agency might have to borrow money from the Treasury Department to see it through an expected wave of bank failures.
Ms. Bair said the borrowing could be needed to cover short-term cash-flow pressures caused by reimbursing depositors immediately after the failure of a bank. The borrowed money would be repaid once the assets of that failed bank are sold.
The last time the FDIC borrowed funds from Treasury came at the tail end of the savings-and-loan crisis in the early 1990s after thousands of banks were shuttered. That the agency is considering the option again, after the collapse of just nine banks this year, illustrates the concern among Washington regulators about the weakness of the U.S. banking system in the wake of the credit crisis.
“I would not rule out the possibility that at some point we may need to tap into [short-term] lines of credit with the Treasury for working capital, not to cover our losses, but just for short-term liquidity purposes,” Ms. Bair said in an interview. Ms. Bair said such a scenario was unlikely in the “near term.”
She said she did not expect the FDIC to take the more dramatic step of tapping a separate $30 billion credit line with Treasury, which has never been used.
The FDIC said Tuesday its “problem” list of banks at risk of failure had grown to 117 at the end of June, compared with 90 at the end of March.
The FDIC’s deposit insurance fund reimburses depositors who lost money in a bank failure, typically up to $100,000. The fund’s balance fell in the second quarter to $45.2 billion. That is just 1.01% of all insured deposits, low by historical standards.

Here’s the key table in the FDIC’s report.

An Interest Rate What?
Posted by Eddy Elfenbein on August 27th, 2008 at 2:49 pm

Citigroup to Cut Costs
Posted by Eddy Elfenbein on August 27th, 2008 at 1:20 pm

From Bloomberg:

Citigroup Inc., the biggest U.S. bank by assets, banned off-site meetings among investment- banking employees and cut back on color photocopying to reduce expenses as revenue declines.

Just to be clear, according to their most recent 10-Q, Citi has assets of $2.1 trillion.

The Best Central Banker in the World Today
Posted by Eddy Elfenbein on August 27th, 2008 at 11:58 am

Imagine a country whose central bank responded to growing inflation by raising interest rates, strengthening the currency and trying to win investor confidence. This may be shocking to some U.S. investors, but proper monetary policy is still being practiced. Just not here in the United States. I’d give the award for Best Central Banker in the World Today to Mexico’s Guillermo Ortiz.
This is a story that truly ought to be better known. Mr. Ortiz has now been at the helm of the Mexican central bank for over ten years and despite many obstacles (consider that 70% of Mexicans don’t even use banks), he’s emerged as the anti-Greenspan. Mr. Ortiz previously served Finance Minister where he helped clean up the mess surrounding the peso devaluation in 1994.
What impresses me about Oritz, who earned has a Ph.D. from Stanford, is that he’s made it unequivocally clear that the Banco de Mexico (or Banxico) intends to fight inflation until its wins. In the last three months, the bank has raised rates three times. Interest rates now stand at 8.25%, an amazing 625 basis points higher than in the U.S. even though inflation rates are roughly similar.
Make no mistake; the Mexican economy has its share of problems. Growth is slowing and inflation is on the rise. Of course, much of this is understandable considering their raucous, hung-over neighbors to the north—nearly 80% of Mexico’s exports go to the U.S. Still, my money’s on Ortiz. He’s even had the chutzpah to criticize our monetary policy as being “very lax.” Don’t expect to hear anything like that from Senators McCain or Obama.
And what about that hopeless currency, the peso? Well, it’s on a roll this year. The peso is already up 7.5% for the year and earlier this month, it reached a six-year high. In my opinion, the rate gap between the U.S. and Mexico will only grow. The futures market seems certain that the Fed will hold steady for the rest of the year, but I think Banxico could very well raise rates again. Their next meeting is on September 19.

The most recent report for Mexican GDP showed that Q2 growth came in at 2.8%, which isn’t horrible but it was below expectations. The economy isn’t so fragile as to ward off monetary tightening. Retail sales are weak and the stock market is still hurting—the Bolsa is at a seven-month low. Of course, that comes on the heels of an enormous rally so some consolidation would be expected. Consider that shares of EWW, the Mexican ETF, more than quadrupled in five years.

What’s really hurting the economy is that less money is being sent home from workers living abroad. And by abroad, you can probably guess what country I mean. Speaking of which, Ortiz also favors, sit down for this one, stricter immigration controls in the U.S. so Mexico can hold on to its workers. Ortiz said, “I think Mexico needs its people. It would be best to keep its people in Mexico, and it would give incentives for Mexico to create the jobs that are needed.” Increíble!
I’m guessing Ortiz has some sympathy for Hank Paulson. When the Mexican financial system imploded, Ortiz was called into to clean up the mess. Paulson certainly has a tough task, but look at what Ortiz was facing—inflation reached 52% and investment fell by one-fourth. Thing got so bad that the former president basically can’t show his face Mexico and he’s been exiled to Ireland. By contrast, Senor Greenspan now works at Pimco! Thanks to Ortiz, Mexico righted itself and paid back its bailout money to the United States. In fact, Uncle Sam made a half-billion dollar profit.
The thing about finance, public or private, is that it’s really an issue of establishing confidence. If investors think you’re serious, then they’ll invest with you. So far, Ortiz seems to winning the battle of establishing credibility. The yield on Mexico’s long-term benchmark bond recently fell to its lowest level since June 6.
Mexico is a country with many deep rooted economic problems, however, the country has taken many steps in the right direction. For example, the election of the pro-market government of Felipe Calderon (cue Larry Kudlow) is helping to bring long-overdue economic reforms like privatizing the oil industry. Unfortunately, Calderon supports some poorly considered ideas like price controls. Unlike the United States, the Mexican government seems to be serious about fiscal discipline. Their legislature…er, not so much. One issue in particular that Ortiz wants addressed is reducing the government’s fuel subsidies. Good luck with that one, but at least he’s trying. (Incidentally, Ortiz wants to reduce the subsidies even though he thinks that will increase inflation in the near-term.)
The government recently announced that its current account deficit widen to over $2 billion which came as a shock to economists who were expecting a shortfall of $750 million. The trade deficit declined but that was helped by the increase in oil prices. The Mexican economy faces several significant challenges ahead. Most importantly, inflation is simply too high. But I think Ortiz realizes the difficulties and his current policies will help Mexico be well-prepared for the future.

Looking at China’s Savings
Posted by Eddy Elfenbein on August 26th, 2008 at 9:45 am

John Hempton at Bronte Capital has a novel explanation for China’s stratospheric savings rate. He says it’s due to their one-child policy. In any pre-Industrial economy, you’re retirement savings plan was very simple, you had children. Now you can’t so to compensate, you save, save, save. Hempton’s reckons “that the average Chinese person is saving maybe 46 percent of their income”.
This is an issue for us in the West because, as the theory goes, all that savings needs to be invested somewhere. And there’s simply too much money lying around, sooner or later it will go into dumb areas. Today, we’re at the later part. Hempton writes:

My thesis – which will be expanded in future posts is that the brokers have become the intermediaries between this endless demand for products to save in (China, Petrodollars etc) and the endless willingness of the profligate in the West to spend. What they do is – through their trading, their securitisation and through other things they turn the complex financial instruments of the West (mostly but not entirely debt) into vanilla instruments that the Chinese and petrodollars want to buy.

In the Telegraph, Ambrose Evans-Pritchard notes a study by HSBC which claims that China is forcing its banks to buy dollars. In effect, the Chinese Fed is using its banking sector as a way to intervene in the currency markets.

Beijing has raised the reserve requirement for banks five times since March, quickening the pace with two half-point rises in late June.
This is having major spill-over effects into the currency markets because banks in China have been required over the last year to hold extra reserves in dollars rather than yuan. The latest moves have lifted the mandatory deposit from 15pc to 17.5pc of total lending since March.
“China has used the pretext of reserve requirement hikes to help slow yuan appreciation. We estimate that the PBOC [central bank] intervened by about $49.6bn in June,” said Daniel Hui, the bank’s Asia strategist.
Beijing has also slashed the amount of foreign debt banks operating in China can hold. The effect is to oblige the banks to become net buyers of dollars, halting the flow of foreign “hot money”.

How Investment Banks Can Cut Costs
Posted by Eddy Elfenbein on August 26th, 2008 at 9:13 am

From Andrew Ross Sorkin:

When Wall Street seeks to save money — “every dollar saved is a dollar made,” is the current catchphrase — it often turns to management consultants to help figure out which divisions should stay and which should go.
So McKinsey & Company published a helpful report last week on how investment banks can cut up to $2 billion in noncompensation costs. (We wouldn’t want to cut compensation, would we?)
“Initiatives to curb expenditures need not be extremely demoralizing to frontline employees,” McKinsey says, trying to find ways to save money without affecting the worker bees. So what does it recommend? Getting rid of the consultants. Yep, you read that correctly.

Interesting. When Google went public, it tried to cut cost by eliminating the investment banks.