When is QE not QE?

When is QE not QE? The most recent Fed balance sheet data are summarized here. Note where the Fed was yesterday (12/29/10) relative to a year ago (12/30/09). On the asset side, "securities held outright" has increased by about $300 billion, with an increase of about $230 billion in long-maturity Treasuries, and a net increase of about $70 billion in agency securities and mortgage-backed securities. However, on the liability side, the increase in outside money has been quite small, at about $15 billion ($54 billion increase in currency, $39 billion decrease in reserves). As I remarked here, what is going on with Treasury reserve accounts at the Fed is important. During the year, the balance in the Treasury’s general account dropped by $31 billion, but the Treasury also accumulated $188 billion in its "supplementary financing account." This supplementary account was created in September of 2008, and is described here. Basically, the Treasury sells T-bills, in exchange for reserves, and deposits the proceeds in this supplementary account. The balance in this account peaked at about $560 billion in November 2008, went to zero for a period late in 2009, and rose to about $200 billion in April 2010, staying constant at that level since. The Fed thinks of this as a reserve-draining operation.

Looking For Love In All The Wrong Places? – You are all very much aware of the change in market tone and sentiment over the last four months. Strategists and investors fretting over rapidly deteriorating macro leading economic indicators (remember the ECRI reaching levels always consistent with recession?) and contemplating the possibility of a double dip has given way to these same folks now trying to one up each other in putting forth ever higher domestic GDP growth estimates for the new year. Goldman (Jan Hatzius) has been a poster child example of this about face, but they have plenty of company. The transition is not hard to understand. With the heavy POMO started in September, followed up by QE2, and now the tax cut extension legislation that should add about $400 billion of "new" fiscal stimulus in 2011, we better have an improved outlook. Certainly THE issue as we move into 2011 is the potential for organic economic growth, or otherwise. Personally, we just can’t put a big "multiple" on marginal stimulus (read borrowed money) additions to macro near term economic expansion. But this issue will not become relevant until 2011 is well underway.

Commercial property loans pose new threat – What will happen to the financial system if US interest rates keep rising? That is a question many investors are pondering, given the recent sharp upward swing in US Treasury yields. There is plenty to fret about: higher rates could hurt US homeowners, for example, as well as delivering more pain for struggling municipalities.  However, there is another sector that investors should watch: commercial real estate. During the past three years, the CRE sector has not generally grabbed much attention, because events there have not been as dramatic as in subprime (in 2007-08) or sovereign debt markets (in 2010).  For one dirty secret in the financial world is that the lack of drama in the CRE sector has partly arisen because banks on both sides of the Atlantic have been “evergreening” loans – or in essence extending the maturities – and practising forbearance to avoid recognising losses.  Banks and borrowers have been able to conduct such evergreening because interest rates have been at rock bottom. But if rates rise, this evergreening will be harder to maintain. What makes this doubly pernicious is that any rise in rates might hit just as the sector is heading for a wave of refinancing.

Why the Rich Are Getting Richer – The U.S. economy appears to be coming apart at the seams. Unemployment remains at nearly ten percent, the highest level in almost 30 years; foreclosures have forced millions of Americans out of their homes; and real incomes have fallen faster and further than at any time since the Great Depression. Many of those laid off fear that the jobs they have lost — the secure, often unionized, industrial jobs that provided wealth, security, and opportunity — will never return. They are probably right. And yet a curious thing has happened in the midst of all this misery. The wealthiest Americans, among them presumably the very titans of global finance whose misadventures brought about the financial meltdown, got richer. And not just a little bit richer; a lot richer. In 2009, the average income of the top five percent of earners went up, while on average everyone else’s income went down. This was not an anomaly but rather a continuation of a 40-year trend of ballooning incomes at the very top and stagnant incomes in the middle and at the bottom. The share of total income going to the top one percent has increased from roughly eight percent in the 1960s to more than 20 percent today.

Retailers Swipe at Credit-Card Plan – The Credit Card Act signed into law last year was supposed to stop financial institutions from sleazy antics. But instead, some retailers say, it may restrict stay-at-home moms.  Dress Barn Inc., Home Depot Inc., Citigroup Inc. and other companies are urging the Federal Reserve to drop a proposed rule that would require credit-card issuers to consider only a borrower’s "independent" income rather than household income. The new standard, which would apply to new credit-card accounts and requests to increase limits on existing accounts, could make it difficult for some customers to get credit on the spot, especially stay-at-home moms. The proposed rule "would unfairly restrict the ability of many consumers, particularly women not working outside the home, to qualify for credit," wrote David Jaffe, president and chief executive of Dress Barn in a letter to the Fed this month. The company operates 2,477 stores for women and young girls.

Pricing Fracas Leads to Coal Shortage Chinese power plants have been staging brown outs, with some functioning only days of coal inventory – why the shortages aren’t from the price of transportation. Already down to mere days of thermal coal inventory, a manager at a power plant in Anhui Province has been left completely empty-handed without a single thermal coal contract for 2011.  "We want to sign the contracts, but the coal producers don’t," The shortage of coal supply at thermal power plants has become yearly occurrence in winter months. But this year, the government’s strong policies to keep coal prices stable have made the signing and execution of power coal contracts even more difficult.


Noncompliance with HAMP Guidelines as an Affirmative Foreclosure Defense? – To date, homeowners have not met with any real success in bringing suits alleging private rights of action under HAMP or, for that matter, alleging that denial of HAMP modifications is an a violation of their 5th Amendment due process rights. But it’s one thing to bring an a suit offensively; it’s another to raise an argument as a defense. (This is old hat to our lawyer readers, but I recognize that it isn’t intuitive to non-lawyers that there are different standards regarding whether an argument can be raised offensively or defensively, with generally more lenient standards regarding defenses).  Which brings me to the Indiana Court of Appeals’ ruling in Lacy-McKinney v. Taylor, Bean & Whitaker Mortg. Corp., 937 N.E.2d 853, which was graciously brought to my attention by a Credit Slips reader.  The Indiana Court of Appeals held (citing a number of precedent rulings) that a compliance with servicing guidelines is a condition precedent to a foreclosure that can be raised as an affirmative defense.  This raises an interesting question:  can a servicer’s failure to comply with HAMP guidelines provide an affirmative defense to foreclosure?  

The New Voodoo, by Paul Krugman – Hypocrisy never goes out of style, but, even so, 2010 was something special. For it was the year of budget doubletalk — the year of arsonists posing as firemen, of people railing against deficits while doing everything they could to make those deficits bigger.  And I don’t just mean politicians. Did you notice the U-turn many political commentators and other Serious People made when the Obama-McConnell tax-cut deal was announced? One day deficits were the great evil and we needed fiscal austerity now now now, never mind the state of the economy. The next day $800 billion in debt-financed tax cuts, with the prospect of more to come, was the greatest thing since sliced bread, a triumph of bipartisanship.  Still, it was the politicians who took the lead on the hypocrisy front.  My nomination for headline of the year: “McConnell Blasts Deficit Spending, Urges Extension of Tax Cuts.”

 Academic Economists To Consider Ethics Code – When the Stanford business professor Darrell Duffie co-wrote a book on how to overhaul Wall Street regulations, he did not mention that he sits on the board of Moody’s, the credit rating agency.  As a commentator on the economy, Laura D’Andrea Tyson, a former adviser to President Bill Clinton who teaches in the business school at the University of California, Berkeley, does not usually say that she is a director of Morgan Stanley.  And the faculty Web page of Richard H. Clarida, a Columbia professor who was a Treasury official under President George W. Bush, omits that he is an executive vice president at Pimco, the giant bond fund manager. During the American Economic Association’s annual meeting, in Denver next week, its executive committee will take up a proposal to “consider the association’s role regarding ethical standards for economists,” according to an internal committee agenda obtained by The New York Times.

In Defense of the Dodd-Frank Resolution Authority, Part 2: The Actual Defense – Title II of Dodd-Frank creates a new resolution authority, called the Orderly Liquidation Authority (OLA), for systemically important financial institutions — which, crucially, includes financial holding companies (all the major US banks are organized as FHCs now). The OLA is patterned on the Federal Deposit Insurance Act, which lays out the FDIC resolution authority for commercial banks. The OLA, like the FDIC resolution authority, gives the FDIC a range of tools to liquidate a large nonbank financial institution while also mitigating systemic risk. No one is arguing that commercial banks that are seized and resolved by the FDIC are being “bailed out,” because they’re not — that’s why we call them “failed banks.” The FDIC resolution authority is just an alternative insolvency regime; but, obviously, it’s still an insolvency regime. So presumably, the people who say that “Dodd-Frank did nothing to end TBTF!” are arguing that a large FHC would not be resolved through the OLA. As I noted in my previous post, one of the main reasons that Lehman’s failure was such a catastrophic event for the markets was Lehman’s complete and total lack of preparation for a bankruptcy filing. Any serious analysis of Dodd-Frank’s resolution authority therefore has to recognize that Dodd-Frank also requires any financial institution subject to the new resolution authority to regularly submit a “resolution plan” (a.k.a. “living will,” or “funeral plan”) to regulators.

Hazards in Interpreting Seasonals – Professor Casey Mulligan has an interesting post, in which he observes that while retail sales are about 15-20% higher in December than in the previous three months, retail employment is only about 4% higher in December than October, thus proving that fiscal stimulus cannot be very effective at raising employment. From the low sales to employment ratio, Professor Mulligan concludes: Although the holiday spending surge is clearly associated with a high level of employment, it also shows how spending is a rather indirect way of creating jobs. That holiday spending of roughly $90 billion more in December is associated with about 500,000 additional jobs for a month — that amounts to $180,000 per job per month!Professor Mulligan’s calculation is essentially a one observation regression of the change nominal retail sales on change in retail employment. … But I think this … is irrelevant. First, the employment that is relevant is the total employment associated with Christmas-goods production and distribution (in addition to retail employment). Second, the activity variable that is relevant is not sales, but US related value-added.

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