At risk of turning this into a water blog, I wanted to do a follow up post on last week's thoughts regarding the long-term promise of clean water technologies.
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Clean Water First: Economic Planning in India
By Edward L. Glaeser
Edward L. Glaeser is an economics professor at Harvard. He recently returned from India, where he was researching a book on cities.
It isn’t wise to start teaching children calculus before they have mastered long division, and it is not prudent to begin long division until addition and subtraction are, more or less, under control.
So why do governments that cannot manage the basics of public hygiene think that they can micro-manage an economy?
I have a moderate, and only somewhat facetious, libertarian progressive proposal. Unless a government manages to provide clean water to its poorest citizens, it should refrain from any new barrier to international trade, complex nationalization scheme or draconian zoning laws.
The energy and entrepreneurship of India’s private sector, both in the shiny office parks of Bangalore and in the dusty streets of Dharavi, only makes India’s public sector problems more frustrating. I suspect that India’s information technology has been so much more successful than its manufacturing because I.T. is less dependent on public infrastructure, like roads and electricity.
The just re-elected prime minister, Manmohan Singh, deserves enormous credit for dismantling much of the “license raj” that was the unfortunate legacy of Nehru and his progeny. Let’s hope he takes his latest mandate as an opportunity to improve delivery of the public sector basics, like clean water, while continuing to reduce other, unnecessary interventions.
India will get rich not in its villages, but in its cities and towns, where people can connect with each other and with the global economy. The great problem with urban living, however, is that when many people crowd into small areas, there is an increased need for an effective public sector. Today, the mismanagement of India’s cities not only reduces quality of life but limits urban growth and thereby slows the economic progress of the subcontinent.
The most important task of city government is to provide clean water. A cholera epidemic is a lot more dangerous than a crime wave. Today, approximately half of Mumbai’s residents do not have reliable access to working toilets. A 2003 study classified 70 percent of the water samples from one ward in particular as undrinkable.
The most important achievement of America’s 19th-century cities was their sewers and waterworks that saved thousands of lives. The history of clean urban water reminds us that it is a massive undertaking that requires direct public leadership.
Public-private partnerships, like the Manhattan Water Company (which became the Chase Manhattan Bank), were notably unsuccessful at solving the water problem. The successes, like the Croton Aqueduct that feeds Manhattan, required massive spending and subsidy. In 1900, America’s cities were spending as much on water as the federal government spent on everything except for the military and its pensions.
Today, the average commute time in Mumbai is 47 minutes, which is 20 percent higher than that for New York and 88 percent above the United States average. This high number is all the more remarkable because so many poorer Indians live in their shops. In Mumbai, a 10-mile trip downtown can easily take 90 minutes, as an overwhelming abundance of cars, auto-rickshaws and even bullock-drawn kerosene carts slow one’s commute. The train system is fast, but deadly, as thousands die each year in Mumbai alone, either run over or pushed out of moving trains.
Mumbai’s transport problems require both more infrastructure and congestion charges. Unless people pay for access, roads will continue to be badly clogged. Singapore pioneered congestion charging in the 1970s, when it was a developing city-state, and its roads have remained open ever since. The best part of clearing the roads is that safer, faster buses can provide mobility for poorer Indians.
While Mumbai has failed to provide open streets or clean water, it has engaged in some of the most draconian land use planning on the planet out of a quixotic, and a mistaken, desire to limit growth and imitate the worst features of English urban planning.
Since the 1960s, the city has enforced rules that restrict building space in core downtown areas to less than 1.33 times land area. These regulations keep Mumbai artificially low, and increase congestion.
Instead of traveling vertically in elevators, people must travel horizontally on crowded roads. The taller buildings that are being built have plenty of land around them, to accommodate these land use rules, which limits the development of Mumbai as a pedestrian city. By allowing more building, the city’s property tax rolls would increase, which would make it easier to finance investment in water and transportation infrastructure.
Why did America’s 19th-century cities, corrupt as they were, manage growth better than many developing cities today?
One reason is that power was vested in city machines that were voted out when they screwed up too badly. With the exception of Delhi, India’s cities are generally governed by states that are generally dominated by rural voters. In the words of the great Tammany sage, G.W. Plunkitt: India’s cities are “pie for the hayseeds.”
I suspect that the cities of India won’t get the reforms they need until they are turned into independent city-states with governments that are accountable to their urban populations
Thursday, June 11, 2009
Saturday, June 06, 2009
Saturday Night Video Post
This is a great song and video. For some reason, it makes me want to go to Italy...
http://www.youtube.com/watch?v=hIq06EXMNn4
http://www.youtube.com/watch?v=hIq06EXMNn4
Wednesday, June 03, 2009
Tired of "poor" Detroit stories
For anyone who doesn't already know, I grew up in the Detroit area and went to the University of Michigan. While I have been gone for over 10 years now and am now a bit out of touch on the local scene, Detroit will always be "home" for me.
I am so incredibly tired of all these stories where everyone feels sorry for Detroit. And the one below is one of the dumbest I have read - the idea of turning Detroit into another brain dead "yuppie" town is about as stupid and ridiculous of an idea as I have heard. Why don't we turn the entire United States into a huge version of SoCal where the entire economy revolves around refinancing mortgages, making movies and teaching each other yoga?
We all know what happened to Michigan (and more broadly to the Rust Belt) over the last 40 years and nobody has any delusions over where the area is now. While the economy will eventually get better and even the auto industry should rebound somewhat, clearly there needs to be a new direction. So let's get it over the past (one of the few times you will ever hear me say that) and look to the future.
I am going to go out on a limb and make a radical suggestion on what needs to happen to "save" Michigan. I hope that I don't come off like John Mauldin with some asanine suggestion like having foreigners pay $200,000 to come live in Michigan - sorry tangent.
To create a sustainable new industry that adds value and brings in investment, there needs to be a true competitive advantage which Michigan can offer. What is that advantage: fresh water - something that is in shortage in 35 states and countless countries globally (including India and China).
Here are my thoughts:
Break the Great Lakes protection act that was signed last year by the U.S. and Canada which banned the sale of water from the Great Lakes. I don't say this because I hate the environment, on the contrary I consider myself an amateur environmentalist (just ask me my views on surface parking lots).
There are a lot of blogs and research websites that are dedicated to this very issue (here is a good one: http://www.glelc.org/blog/water-and-economic-development/) so I won't get into this aspect any further.
They should look to begin selling fresh water by pumping or shipping water throughout the U.S. and possibly even globally. Over the next 30 years, water scarcity is going to be one of the biggest issues in the western U.S. and in many parts of emerging Asia (not to mention places like Africa where water shortages have already reached critical levels).
Yes, I realize that this is going to have an impact on the local environment eventually, but I have read studies that the Great Lakes could supply U.S. water needs for like 200 years before materially impacting the ecosystem of the lakes. Even if that number is 70 years instead of 200 years - the cashflow would help solve an economic situation that is at a critical tipping point for not just Michigan, but the entire Great Lakes basin (from Wisconsin to Buffalo, NY) and even Canada where Ontario is suffering from the fallout of the global collapse in industrial production.
Also, when you look at it from a humanitarian standpoint where people all of the world are going to suffer from lack of access to clean, potable water - to me its a no-brainer.
And here is the beauty of it, you take the cashflow from the sale (and don't forget the jobs that would be created in the development of the water distribution infrstructure) and invest it into making Michigan, and the entire region, into a clean water technology hub. You can provide subsidies and incentive for companies that do research and production in water technology (everything from cleaning up poluted water sources to replenishing depleted aquifers and advanced desalination techniques) to set up in the area and hopefully create some critical mass.
Sale of water technology would create a booming export sector for the next 30 years or longer due to the anticipated U.S. and global demand for such technology. And the areas that need the most water (Middle East, China and India) are the countries that are developing the fastest and (in the case of the Middle East and China) have the money to pay for it. To be honest, this is something for the local governments to think about even if they don't want to sell the water to fund the investment.
My idea might suck but its better than self-pity and much better than becoming a center for teaching yoga.
"Poor Detroit Story": GM Bankruptcy May Say 'No Reason to Stay' to Detroit Residents
June 3 (Bloomberg) -- General Motor Corp.’s bankruptcy is the last thing Detroit and the state of Michigan need.
Michigan already has lost 780,000 jobs this decade, the most of any state. Its April unemployment rate of 12.9 percent was the highest in the country.
The fourth-largest U.S. city for four decades starting in the 1930s, Detroit now ranks 11th. Its population of 916,952 is less than half the peak of 1.85 million in 1950.
Now, with 6 of the 12 plants on GM’s bankruptcy hit list located in the state, Michigan and Detroit are bracing for what may be an accelerated exodus of people and jobs.
“People have no job, no home, no credit and no reason to stay,” said Bob Daddow, deputy executive of Oakland County in suburban Detroit, which expects to lose one-third of its property-tax revenue from 2007 to 2011. “We’re very much still on a downward spiral and we haven’t hit bottom yet. I don’t see anything that will be good with the bankruptcy of GM.”
One-third of the population of Detroit, GM’s hometown, lives in poverty. That’s the most of any U.S. city with more than 250,000 people and almost triple the national rate. Public schools graduate 32 percent of their students, according to a study by Michigan State University, compared with the national average of 72 percent.
‘Middle-Class Bind’
With rising white-collar job losses, the pain is seeping into the suburban ring surrounding the city, said Kevin Boyle, a Detroit native who won the National Book Award for an account of race relations in the city in the 1920s. The suburbs have a population of 3.5 million.
“It’s a terrible middle-class bind,” Boyle said. “It’s the entire state, certainly the entire metropolitan area.”
The contrast with the Detroit of five decades ago is stark. In those years, residents flowed into the area from the south and rural Michigan and landed good-paying jobs in Detroit’s factories without having more than a high school diploma.
“You were instantly vaulted into the middle class,” said Mike Smith, director of the Walter Reuther Library of Labor and Urban Affairs at Wayne State University in Detroit.
The bankruptcies of GM and rival Chrysler LLC, in nearby Auburn Hills, may doom the chance of any return to the prominence and prosperity Detroit once enjoyed as the world’s motor capital, said former autoworker Sean McAlinden, now an economist for the Center for Automotive Research in Ann Arbor, Michigan.
Stempel’s Experience
GM’s Michigan employment has plunged to 47,330 today from 482,000 in 1978, according to figures compiled by the center. Even if GM and Chrysler successfully reorganize under Chapter 11, their bankruptcies will result in the loss of 179,400 U.S. jobs by next year, including 35,695 in Michigan, according to a May 26 study by the research group.
“They’ve been permanently hobbled,” McAlinden said. “This is very humbling.”
“There will be a lot of grief and hard times in Michigan,” said former GM Chairman Bob Stempel, who was ousted in a boardroom coup in 1992. His time at GM was marked by large losses and job cuts, but today is much worse, Stempel, 75, said.
“I closed 18 assembly plants,” he said. “You never get over that. You worry for the communities and feel for the people.”
Detroit has tried to broaden its economic base by attracting high-tech firms and movie producers and building three casinos. The efforts have had limited success. Receipts at the casinos are falling, leading the Greektown Casino in downtown Detroit to file for bankruptcy last year.
Overcoming the Image
“There have been a lot of attempts to diversify the economy,” said Daddow of Oakland County, which is going after companies that make batteries for electric cars. “But we’re losing jobs by the thousands and only bringing them in by the hundreds.”
Luring new employers will require overcoming Detroit’s image as a city in decline, scarred by social problems and corruption, said Dennis Archer, Detroit’s mayor from 1994 to 2001. Kwame Kilpatrick, the mayor who followed Archer, went to jail last year after admitting he lied in a civil trial about an affair he had with his chief of staff.
“The city of Detroit faces enormous challenges,” said Archer, who is now chairman of the Dickinson Wright law firm in Detroit. “The economic challenges were compounded by a mayor who resigned in disgrace.”
On May 5, Detroit voters elected Dave Bing, former star of the National Basketball Association’s Pistons, as their new mayor. After leaving the NBA, Bing, 65, founded a steel company that today has about 500 workers. Spokesman Bob Warfield said the mayor wasn’t available to comment.
‘Welfare Queen’
“Immediately, his status as a professional athlete as well as a successful business person who is widely respected begins to help change the image of the city,” Archer said of Bing.
Detroit’s image is linked to its signature industry, which has taken a beating in the national discourse over bailouts and auto chief executive officers flying corporate jets to Washington last year to ask for financial aid to survive.
“We’re being treated like a welfare queen,” said McAlinden. “I don’t know how you get over that.”
Detroit and Michigan should work to transform from a low- education economy dependent on auto-factory jobs to a diversified, knowledge-based economy, according to a study co- authored by University of Michigan senior researcher Don Grimes.
Pittsburgh Example
“You have to recognize that manufacturing is not going to solve your problems,” said Grimes, who worked at a Ford factory in the 1970s. “It’s a mindset that says what we have to be is a yuppie community, attractive to educated people, particularly young people.”
He cites as an example Pittsburgh, which he says successfully transformed itself into a medical center after the steel industry collapsed.
The GM bankruptcy may be the turning point that forces the region to get on with redefining itself, said Diane Swonk, chief economist with Mesirow Financial Inc. in Chicago.
“Detroit is finally having the funeral they’ve been waiting for and they can put it to rest and start rebuilding,” said Swonk, a Detroit native whose father worked for GM for 35 years.
I am so incredibly tired of all these stories where everyone feels sorry for Detroit. And the one below is one of the dumbest I have read - the idea of turning Detroit into another brain dead "yuppie" town is about as stupid and ridiculous of an idea as I have heard. Why don't we turn the entire United States into a huge version of SoCal where the entire economy revolves around refinancing mortgages, making movies and teaching each other yoga?
We all know what happened to Michigan (and more broadly to the Rust Belt) over the last 40 years and nobody has any delusions over where the area is now. While the economy will eventually get better and even the auto industry should rebound somewhat, clearly there needs to be a new direction. So let's get it over the past (one of the few times you will ever hear me say that) and look to the future.
I am going to go out on a limb and make a radical suggestion on what needs to happen to "save" Michigan. I hope that I don't come off like John Mauldin with some asanine suggestion like having foreigners pay $200,000 to come live in Michigan - sorry tangent.
To create a sustainable new industry that adds value and brings in investment, there needs to be a true competitive advantage which Michigan can offer. What is that advantage: fresh water - something that is in shortage in 35 states and countless countries globally (including India and China).
Here are my thoughts:
Break the Great Lakes protection act that was signed last year by the U.S. and Canada which banned the sale of water from the Great Lakes. I don't say this because I hate the environment, on the contrary I consider myself an amateur environmentalist (just ask me my views on surface parking lots).
There are a lot of blogs and research websites that are dedicated to this very issue (here is a good one: http://www.glelc.org/blog/water-and-economic-development/) so I won't get into this aspect any further.
They should look to begin selling fresh water by pumping or shipping water throughout the U.S. and possibly even globally. Over the next 30 years, water scarcity is going to be one of the biggest issues in the western U.S. and in many parts of emerging Asia (not to mention places like Africa where water shortages have already reached critical levels).
Yes, I realize that this is going to have an impact on the local environment eventually, but I have read studies that the Great Lakes could supply U.S. water needs for like 200 years before materially impacting the ecosystem of the lakes. Even if that number is 70 years instead of 200 years - the cashflow would help solve an economic situation that is at a critical tipping point for not just Michigan, but the entire Great Lakes basin (from Wisconsin to Buffalo, NY) and even Canada where Ontario is suffering from the fallout of the global collapse in industrial production.
Also, when you look at it from a humanitarian standpoint where people all of the world are going to suffer from lack of access to clean, potable water - to me its a no-brainer.
And here is the beauty of it, you take the cashflow from the sale (and don't forget the jobs that would be created in the development of the water distribution infrstructure) and invest it into making Michigan, and the entire region, into a clean water technology hub. You can provide subsidies and incentive for companies that do research and production in water technology (everything from cleaning up poluted water sources to replenishing depleted aquifers and advanced desalination techniques) to set up in the area and hopefully create some critical mass.
Sale of water technology would create a booming export sector for the next 30 years or longer due to the anticipated U.S. and global demand for such technology. And the areas that need the most water (Middle East, China and India) are the countries that are developing the fastest and (in the case of the Middle East and China) have the money to pay for it. To be honest, this is something for the local governments to think about even if they don't want to sell the water to fund the investment.
My idea might suck but its better than self-pity and much better than becoming a center for teaching yoga.
"Poor Detroit Story": GM Bankruptcy May Say 'No Reason to Stay' to Detroit Residents
June 3 (Bloomberg) -- General Motor Corp.’s bankruptcy is the last thing Detroit and the state of Michigan need.
Michigan already has lost 780,000 jobs this decade, the most of any state. Its April unemployment rate of 12.9 percent was the highest in the country.
The fourth-largest U.S. city for four decades starting in the 1930s, Detroit now ranks 11th. Its population of 916,952 is less than half the peak of 1.85 million in 1950.
Now, with 6 of the 12 plants on GM’s bankruptcy hit list located in the state, Michigan and Detroit are bracing for what may be an accelerated exodus of people and jobs.
“People have no job, no home, no credit and no reason to stay,” said Bob Daddow, deputy executive of Oakland County in suburban Detroit, which expects to lose one-third of its property-tax revenue from 2007 to 2011. “We’re very much still on a downward spiral and we haven’t hit bottom yet. I don’t see anything that will be good with the bankruptcy of GM.”
One-third of the population of Detroit, GM’s hometown, lives in poverty. That’s the most of any U.S. city with more than 250,000 people and almost triple the national rate. Public schools graduate 32 percent of their students, according to a study by Michigan State University, compared with the national average of 72 percent.
‘Middle-Class Bind’
With rising white-collar job losses, the pain is seeping into the suburban ring surrounding the city, said Kevin Boyle, a Detroit native who won the National Book Award for an account of race relations in the city in the 1920s. The suburbs have a population of 3.5 million.
“It’s a terrible middle-class bind,” Boyle said. “It’s the entire state, certainly the entire metropolitan area.”
The contrast with the Detroit of five decades ago is stark. In those years, residents flowed into the area from the south and rural Michigan and landed good-paying jobs in Detroit’s factories without having more than a high school diploma.
“You were instantly vaulted into the middle class,” said Mike Smith, director of the Walter Reuther Library of Labor and Urban Affairs at Wayne State University in Detroit.
The bankruptcies of GM and rival Chrysler LLC, in nearby Auburn Hills, may doom the chance of any return to the prominence and prosperity Detroit once enjoyed as the world’s motor capital, said former autoworker Sean McAlinden, now an economist for the Center for Automotive Research in Ann Arbor, Michigan.
Stempel’s Experience
GM’s Michigan employment has plunged to 47,330 today from 482,000 in 1978, according to figures compiled by the center. Even if GM and Chrysler successfully reorganize under Chapter 11, their bankruptcies will result in the loss of 179,400 U.S. jobs by next year, including 35,695 in Michigan, according to a May 26 study by the research group.
“They’ve been permanently hobbled,” McAlinden said. “This is very humbling.”
“There will be a lot of grief and hard times in Michigan,” said former GM Chairman Bob Stempel, who was ousted in a boardroom coup in 1992. His time at GM was marked by large losses and job cuts, but today is much worse, Stempel, 75, said.
“I closed 18 assembly plants,” he said. “You never get over that. You worry for the communities and feel for the people.”
Detroit has tried to broaden its economic base by attracting high-tech firms and movie producers and building three casinos. The efforts have had limited success. Receipts at the casinos are falling, leading the Greektown Casino in downtown Detroit to file for bankruptcy last year.
Overcoming the Image
“There have been a lot of attempts to diversify the economy,” said Daddow of Oakland County, which is going after companies that make batteries for electric cars. “But we’re losing jobs by the thousands and only bringing them in by the hundreds.”
Luring new employers will require overcoming Detroit’s image as a city in decline, scarred by social problems and corruption, said Dennis Archer, Detroit’s mayor from 1994 to 2001. Kwame Kilpatrick, the mayor who followed Archer, went to jail last year after admitting he lied in a civil trial about an affair he had with his chief of staff.
“The city of Detroit faces enormous challenges,” said Archer, who is now chairman of the Dickinson Wright law firm in Detroit. “The economic challenges were compounded by a mayor who resigned in disgrace.”
On May 5, Detroit voters elected Dave Bing, former star of the National Basketball Association’s Pistons, as their new mayor. After leaving the NBA, Bing, 65, founded a steel company that today has about 500 workers. Spokesman Bob Warfield said the mayor wasn’t available to comment.
‘Welfare Queen’
“Immediately, his status as a professional athlete as well as a successful business person who is widely respected begins to help change the image of the city,” Archer said of Bing.
Detroit’s image is linked to its signature industry, which has taken a beating in the national discourse over bailouts and auto chief executive officers flying corporate jets to Washington last year to ask for financial aid to survive.
“We’re being treated like a welfare queen,” said McAlinden. “I don’t know how you get over that.”
Detroit and Michigan should work to transform from a low- education economy dependent on auto-factory jobs to a diversified, knowledge-based economy, according to a study co- authored by University of Michigan senior researcher Don Grimes.
Pittsburgh Example
“You have to recognize that manufacturing is not going to solve your problems,” said Grimes, who worked at a Ford factory in the 1970s. “It’s a mindset that says what we have to be is a yuppie community, attractive to educated people, particularly young people.”
He cites as an example Pittsburgh, which he says successfully transformed itself into a medical center after the steel industry collapsed.
The GM bankruptcy may be the turning point that forces the region to get on with redefining itself, said Diane Swonk, chief economist with Mesirow Financial Inc. in Chicago.
“Detroit is finally having the funeral they’ve been waiting for and they can put it to rest and start rebuilding,” said Swonk, a Detroit native whose father worked for GM for 35 years.
Cocaine Dealers Demanding To Be Paid In Gold?
Quick lunchtime post – Don’t laugh at this. Many of these organizations are highly sophisticated financially and have substantial “grass” root economic information available to them. Pardon the pun.
I saw a study 3 or 4 years ago when international drug cartels starting demanding payment in Euros instead of the old standard U.S. dollars. It preceded a multi-year decline in the value of the USD.
Dealing gold in the Dominican Republic
Forget warnings from the IMF, the OECD and George Soros. You know your currency is well and truly down the swanny when even drug dealers are refusing payment in it.
In a report entitled US Gold, Going, or Completely Gone? Rob Kirby, forensic analyst at Kirby Analytics, says almost 3,000 metric tonnes of gold compounds were exported from the US in 2008."
Paul Mylchreest, of the Thunder Road Report, notes that a "very suspicious" 174 tonnes of gold compounds were exported to the Dominican Republican – "that well known hub of the world gold trade".
"Maybe these gold compounds really are used in gold paint and that artist who normally puts colourful tarpaulins around islands and buildings has painted the whole of the Dominican Republic gold," Mylchreest ponders. "I'll go and check Google Earth."
But, he reckons the transformation of the Dominican Republic into a key staging post in the cocaine trade between South America and the US, is a far more likely.
"Wouldn't it be interesting if drug smugglers have seen the writing on the wall for the paper dollar and will now only accept payment in gold bullion?"
I saw a study 3 or 4 years ago when international drug cartels starting demanding payment in Euros instead of the old standard U.S. dollars. It preceded a multi-year decline in the value of the USD.
Dealing gold in the Dominican Republic
Forget warnings from the IMF, the OECD and George Soros. You know your currency is well and truly down the swanny when even drug dealers are refusing payment in it.
In a report entitled US Gold, Going, or Completely Gone? Rob Kirby, forensic analyst at Kirby Analytics, says almost 3,000 metric tonnes of gold compounds were exported from the US in 2008."
Paul Mylchreest, of the Thunder Road Report, notes that a "very suspicious" 174 tonnes of gold compounds were exported to the Dominican Republican – "that well known hub of the world gold trade".
"Maybe these gold compounds really are used in gold paint and that artist who normally puts colourful tarpaulins around islands and buildings has painted the whole of the Dominican Republic gold," Mylchreest ponders. "I'll go and check Google Earth."
But, he reckons the transformation of the Dominican Republic into a key staging post in the cocaine trade between South America and the US, is a far more likely.
"Wouldn't it be interesting if drug smugglers have seen the writing on the wall for the paper dollar and will now only accept payment in gold bullion?"
Sunday, March 16, 2008
1929 in the horizon
This was a post over the weekend of the Bear Stearns "take-under". While March 1929 was the "right" reference point (given the market crash 7 months later in both 1929 and 2008), I think you can say I hit the mark. And I have to give myself some credit for some really prescient calls in this article.
I don't know if this is October 20, 1929 (I believe the crash was on the24th), or if this is September 1929, or perhaps March 1928. And I don't know if things will unfold in as spectacular of fashion as it did 80 years ago, but I do think that we are in the very early stages of globalmeltdown on par with the 1929 market crash and the ensuing Great Depression.
Before you read the rest of this, I am not telling anyone to go out and sell all of their stocks or stock up a bomb shelter. These things never happen when or how you expect them to. For all I know, we are on theverge of hyperinflation in which stocks are one of the better ways to protect yourself. But this is a time to be very wary of what ishappening around us - the USD has collapsed in value which is why gas prices are going up 20 cents a week.
The authorities may be able to kick the can one last time to stall what is going on in the markets, but the end result looks like it is set in stone right now. And it is not looking pretty.
Just in the last couple of hours, the action has been frantic and wild. JP Morgan, after they and the Fed put together an emergency bailout of Bear Stearns ("BSC") on Friday morning, just announced (as expected) that they are buying BSC for $2 per share. WTF?!?!?!? The Fed agreed to fund $30 billion of BSC assets (probably with an implicit guarantee - postdated note: I was correct and the Fed is losing its shirt on this portfolio) and lowered the discount rate in an emergency meeting (they were scheduled to meet on Tuesday anyway).
For a background on how ridiculous $2 per share is, Bear Stearns finished trading Friday around $29 or so and was trading at $65 earlier in the week. It was a $150 stock a year ago. The CEO, Alan Schwartz, was just on CNBC on Wednesday assuring everyone that BSC was strong and healthy with no cash flow or liquidity issues (I'm glad I am not him right now - postdate, nothing happened to Schwartz for lying on TV) to quell rumours of a pending collapse. The rumours were right.
What is going on? They are starting to panic me, and I have been expecting this to happen - my portfolio is set up to profit from this environment, it is 33% gold and silver, 20% other commodities (mostly water), 30% ultrashorts (it goes up when the stock market goes down) and10% blue chips (mostly GE and ConEd); only my stupid pension plans are trapped in traditional portfolios.
I am stunned by the sheer panic of the Fed and the U.S. Treasury. The Fed is now announcing multiple bailouts and emergency meetings each week. There have been three emergency meeting in just the last 6 days -what is going on? It is crazy that I am getting nervous since you all know that I have called this fiasco each step of the way down - from the collapse of the real estate market and the USD to the panic spreading through credit markets and now finally into the stock market.
The markets are also feeling the panic as Asian markets are down big overnight. I have no idea what the U.S. markets will look like in the morning.
Postdate note - the U.S. markets turned in a fu&k you rally that day as the "bottom was in". I suspected that might happen as I mentioned in the commentary.
To believe that this is no big deal, you have to believe that BSC is just an isolated case of bad management. If so, then this is just another financial panic that will eventually get worked through. However, I think that BSC was just the weakest animal in the pack. But they are all sick and the cancerous virus is spreading and metastasizingas we speak. The Fed and U.S. Government must believe that my view is correct or elsewhy are they showing obvious and public signs of panic. My guess is that Lehman Brothers is next and I also believe that Citigroup is insolvent. I also think that Fannie Mae and Freddie Mac are probably insolvent, and this situation has deteriorated to the point of being tobig to bail out.
Postdate: Wow - this is a classic paragraph where I made a bunch of crazy and correct calls. Only a handful of people were calling for Lehman to go down, let alone Citigroup and nobody was talking about Freddie and Fannie at that time.
This is a truly unbelievable turn in events. Everyone knew that JPM would buy but people didn't expect them to get it for free. That means that the situation was much worse than anyone thought.
JPM is taking a HUGE risk taking on BSC, my guess is that the Fed gave them some sort of implicit guarantee on BSC exposures. Otherwise, how could they have made an informed decision in 3 days or even 7 days if the talks started last week. It would take months of due diligence to assess a company as large and complex as BSC.
I believe that we are watching the Fed/U.S. Gov't double down on a bad hand, just a like a gambling junkie in Vegas. It is sad that the former global superpower has been reduced to beggar status in the global markets with a ponzi scheme financial system.
Similar to the Bank of America bailout of Countrywide (which I still don't believe will be completed), we are potentially turning a bad situation into a catastrophic one. It is one thing for companies like Countrywide and Bear Stearns to go under, yes it will ripple across markets and perhaps turn a mild recession into a nasty one. But if banks such as Bank of America (another great call in hindsight) and JP Morgan Chase go under, now you are talking about the very pillars of the U.S. economy.
I really don't think that the authorities (Bernanke, Paulson, Bush,etc...) have any idea what they are doing. They are panicking and potentially making some very bad decisions. What are they going to do if another wave of companies go under? What if I am right and Citigroup is bankrupt? Postdate: Ha - we go into a depression which is what happened.
This is crazy and getting worse by the day. I hope that someone can stabilize the situation so that things can start functioning normally again, even if it is at much lower valuations. I hope one of the major players (private or public) steps up and instills some confidence in the financial system.
If not, this may be October 1929 and our lives may start getting a lot more interesting. Interesting is not always good as we have now found out.
I don't know if this is October 20, 1929 (I believe the crash was on the24th), or if this is September 1929, or perhaps March 1928. And I don't know if things will unfold in as spectacular of fashion as it did 80 years ago, but I do think that we are in the very early stages of globalmeltdown on par with the 1929 market crash and the ensuing Great Depression.
Before you read the rest of this, I am not telling anyone to go out and sell all of their stocks or stock up a bomb shelter. These things never happen when or how you expect them to. For all I know, we are on theverge of hyperinflation in which stocks are one of the better ways to protect yourself. But this is a time to be very wary of what ishappening around us - the USD has collapsed in value which is why gas prices are going up 20 cents a week.
The authorities may be able to kick the can one last time to stall what is going on in the markets, but the end result looks like it is set in stone right now. And it is not looking pretty.
Just in the last couple of hours, the action has been frantic and wild. JP Morgan, after they and the Fed put together an emergency bailout of Bear Stearns ("BSC") on Friday morning, just announced (as expected) that they are buying BSC for $2 per share. WTF?!?!?!? The Fed agreed to fund $30 billion of BSC assets (probably with an implicit guarantee - postdated note: I was correct and the Fed is losing its shirt on this portfolio) and lowered the discount rate in an emergency meeting (they were scheduled to meet on Tuesday anyway).
For a background on how ridiculous $2 per share is, Bear Stearns finished trading Friday around $29 or so and was trading at $65 earlier in the week. It was a $150 stock a year ago. The CEO, Alan Schwartz, was just on CNBC on Wednesday assuring everyone that BSC was strong and healthy with no cash flow or liquidity issues (I'm glad I am not him right now - postdate, nothing happened to Schwartz for lying on TV) to quell rumours of a pending collapse. The rumours were right.
What is going on? They are starting to panic me, and I have been expecting this to happen - my portfolio is set up to profit from this environment, it is 33% gold and silver, 20% other commodities (mostly water), 30% ultrashorts (it goes up when the stock market goes down) and10% blue chips (mostly GE and ConEd); only my stupid pension plans are trapped in traditional portfolios.
I am stunned by the sheer panic of the Fed and the U.S. Treasury. The Fed is now announcing multiple bailouts and emergency meetings each week. There have been three emergency meeting in just the last 6 days -what is going on? It is crazy that I am getting nervous since you all know that I have called this fiasco each step of the way down - from the collapse of the real estate market and the USD to the panic spreading through credit markets and now finally into the stock market.
The markets are also feeling the panic as Asian markets are down big overnight. I have no idea what the U.S. markets will look like in the morning.
Postdate note - the U.S. markets turned in a fu&k you rally that day as the "bottom was in". I suspected that might happen as I mentioned in the commentary.
To believe that this is no big deal, you have to believe that BSC is just an isolated case of bad management. If so, then this is just another financial panic that will eventually get worked through. However, I think that BSC was just the weakest animal in the pack. But they are all sick and the cancerous virus is spreading and metastasizingas we speak. The Fed and U.S. Government must believe that my view is correct or elsewhy are they showing obvious and public signs of panic. My guess is that Lehman Brothers is next and I also believe that Citigroup is insolvent. I also think that Fannie Mae and Freddie Mac are probably insolvent, and this situation has deteriorated to the point of being tobig to bail out.
Postdate: Wow - this is a classic paragraph where I made a bunch of crazy and correct calls. Only a handful of people were calling for Lehman to go down, let alone Citigroup and nobody was talking about Freddie and Fannie at that time.
This is a truly unbelievable turn in events. Everyone knew that JPM would buy but people didn't expect them to get it for free. That means that the situation was much worse than anyone thought.
JPM is taking a HUGE risk taking on BSC, my guess is that the Fed gave them some sort of implicit guarantee on BSC exposures. Otherwise, how could they have made an informed decision in 3 days or even 7 days if the talks started last week. It would take months of due diligence to assess a company as large and complex as BSC.
I believe that we are watching the Fed/U.S. Gov't double down on a bad hand, just a like a gambling junkie in Vegas. It is sad that the former global superpower has been reduced to beggar status in the global markets with a ponzi scheme financial system.
Similar to the Bank of America bailout of Countrywide (which I still don't believe will be completed), we are potentially turning a bad situation into a catastrophic one. It is one thing for companies like Countrywide and Bear Stearns to go under, yes it will ripple across markets and perhaps turn a mild recession into a nasty one. But if banks such as Bank of America (another great call in hindsight) and JP Morgan Chase go under, now you are talking about the very pillars of the U.S. economy.
I really don't think that the authorities (Bernanke, Paulson, Bush,etc...) have any idea what they are doing. They are panicking and potentially making some very bad decisions. What are they going to do if another wave of companies go under? What if I am right and Citigroup is bankrupt? Postdate: Ha - we go into a depression which is what happened.
This is crazy and getting worse by the day. I hope that someone can stabilize the situation so that things can start functioning normally again, even if it is at much lower valuations. I hope one of the major players (private or public) steps up and instills some confidence in the financial system.
If not, this may be October 1929 and our lives may start getting a lot more interesting. Interesting is not always good as we have now found out.
Monday, March 05, 2007
Punctuated Equilibrium
I did want to write something quick tonight as I had a lot of people asking my opinion on last week's market volatility (aka - the stock market finally corrected a bit) - I can see tonight that the markets have opened much lower in Asia, we'll find out in the morning if we will continue to see a vicious cycle which takes the European and American markets down further.
Either way, I don't really have a useful opinion on last weeks market activity or on the short-term outlook on the markets in general. Unlike the morons on CNBC that will tell you last week was a buying opportunity or that the market will be 10% higher by the summer, I admit that timing the markets in the short-run is next to impossible especially considering the fact that future movements are not set in stone.
There is a good chance that last week was a badly needed correction in global asset markets and that it truly is a good buying opportunity. Given that I am a bear in the medium-to-long term, I would say that there will be a day when the market will turn down for a long period of time - I just don't know if time is right now. Probably not.
However, there is a chance that my personal favorite theory of "punctuated equilibrium" took hold in the market last week and we are seeing the market meltdown that I didn't expect to happen for a few more years. Punctuated equilibrium, in lay terms, is the theory that things work until they don't. Basically, traders didn't feel that any of the bad news in the U.S. economy, global macro-imbalances or the world geo-political situation (mainly, but certainly not exclusively Iran) mattered anymore because nothing could stop the bull market of the past 4 years or so.
Well, things don't matter until they do, and then that is all that matters. Think about the meltdown of the sub-prime (borrowers with poor credit scores) mortgage industry - I have too much to say about this for the time that I have - but I do think that the we are about to see blood in the streets of many American housing markets. Markets rise and fall at the margins - you always have bulls and bears for every trade, but it is the "undecided" that determine whether a stock, index, commodity, etc. moves up or down.
At the margin, the U.S. housing boom started due to the Fed policy to lower rates to 1% (among other factors) which provided steroids to the market until about the middle of 2005 at which point the fraudsters and flippers (who make up most of the sub-prime industry) took over. Nobody cared about this until the gravy train finally ran out in recent months - now we are going to see pay-back for this.
Based on the fact that mortgage companies are imploding on a near-daily basis, the housing market could go bust very quickly. Or somehow, people (who are "people"? - The Real Estate Industrial Complex, the Fed,homedebtors, the U.S. Gov't, the Bank of Japan, the Bank of China, or maybe a combination of all) are going to fight this bust tooth and nail (Japan-style) and let this thing run its course over many years, maybe even a decade.
Hard to know, but it will be interesting to find out.
Anyway, if we are witnessing punctuated equilibrium, here are my guesses at what the headline stories of 2007 will be:
1) Subprime fraud and malfeasance comes to light (see story below - only a few of thousands out there). I have written several commentaries on mortgage fraud - this is going to be a big deal. I wish I had the time to go into this story in-depth.
2) Japanese Yen Carry Trade blows up (if you are not familiar, this is a long story - do some research if you are interested). Basically, Japanese interest rates have been around 0% for the last 10 years. Investors around the world have been borrowing Yen converting to other currencies and investing in various assets. It has been profitable so far due to the fact that Japan manipulated fx rates to keep the Yen weak.
An unwinding of this "trade" will cause weakness in asset prices around the globe.
3) China - the Chinese economy and financial markets are so heavily manipulated. You can't trust any information that comes from a communist gov't yet people are trading on their economic releases.
While I think China will be the story of the century as it becomes the biggest and most powerful economy in the world over the next 25 years, much like the U.S. 100 years ago - there will be periods of gut-wrenching turmoil. Perhaps not this week, but at some point. And now the global
economy and global financial markets will feel the pain.
SUBPRIME FRAUD
Valley fighting mortgage fraud wave - A wave of mortgage fraud is rippling through pockets of the Valley, inflating home values through scams called cash-back deals.
Left unchecked, cash-back deals cost homeowners and lenders millions of dollars and could erode confidence and values in Arizona's real estate market.
The fraud involves obtaining a mortgage for more than a home is worth and pocketing the extra money in cash. Neighbors may then discover home values in the area are exaggerated.
Homeowners stuck with overpriced mortgages may never recover the difference. And lenders end up with bad loans that, in the long run, could hurt the Arizona real estate market, the largest segment of the state economy.
"Arizona was like a housing gold rush for speculators from California, Florida and Texas a few years ago," said Detroit real estate agent and fraud activist Ralph Roberts, author of the book Flipping Houses for Dummies. "But home prices stopped climbing, and speculators got greedy.
Now the cash-back scam is going to make the savings and loan crisis of the 1980s look like a soft landing"
Valley housing-market experts now believe home values are inflated anywhere from 10 to 40 percent.
State targets mortgage fraud
A wave of mortgage fraud in the Valley has prompted state legislation that would define it as a crime punishable by up to 10 years in prison.
A day after The Arizona Republic's special investigation into cash-back mortgage deals, Sen. Jay Tibshraeny of Chandler introduced a bill that would make mortgage fraud a felony.
"Mortgage fraud hurts everyone," said Tibshraeny, who has been working on the legislation for months. "Buyer, beware of a deal that seems too good. The strings your Realtor or mortgage broker pull may be illegal."
Only two states, Colorado and Georgia, have laws specifically regulating mortgage fraud. Most states, including Arizona, must try to prosecute the crime under general fraud laws, which make convictions difficult and less of a deterrent.
Cash-back deals are a newer form of mortgage fraud whose rapid spread in Arizona has alarmed regulators and real estate industry leaders.
The fraud involves obtaining a mortgage for more than a home is worth and pocketing the extra money in cash. The deals inflate home values and can affect values across whole neighborhoods. Homeowners stuck with overpriced mortgages may never recover the difference. Ultimately, lenders end up with bad loans. All this can hurt the Arizona real estate market, the largest segment of the state economy.
Felecia Rotellini, superintendent of the Arizona Department of Financial Institutions, is leading a new mortgage fraud task force made up of state and federal agencies. She said the proposed legislation would help investigators crack down on mortgage fraud.
Rotellini said her agency was deluged with calls Monday from people reporting cash-back deals and other potential mortgage fraud.
Sunday's Republic story also struck a cord with people in the real estate industry and homeowners across the Valley as more than 350 people e-mailed or phoned with concerns or accounts of deals they thought were fishy.
From the real estate industry:
Valley appraiser Dennis McMillen said that mortgage fraud is an issue in the housing market but that it's not always due to inflated appraisals.
In some cases, he said, "real estate agents and mortgage brokers are withholding the cash-back agreements from the contract, thus the appraiser and title company does not know of these agreements."
Valley real estate investor and marketing executive Francine Hardaway said: "Thank God somebody finally blew the whistle on this. As an investor, I see it all over the place."
Valley attorney Michael Manning represents some groups that were sold "bad loans" as part of the cash-back scheme. "Public awareness coupled with a little proactiveness by local prosecutors will help stem the practice and help prevent a meltdown in the market," he said.
Don Matheson of Re/Max Excalibur Realty of Scottsdale said: "This is a very big problem and very damaging to our real estate market. We need to catch these people and put them in jail."
Many homeowners expressed concerns about fraud in their neighborhood. Dozens of people provided details on cash-back deals or sales that suggested cash-back pricing. Most asked to remain anonymous.
Several readers were alerted to the schemes when they saw homes sit unsold for months and their prices reduced. Then, as the housing market was slowing even more, those homes sold for tens of thousands of dollars more than the previous listed price.
That is the No. 1 warning sign for cash-back deals, regulators say.
<http://thehousingbubbleblog.com/?p=2436> "A Housing Shortage Has Become An Overabundance"
The Yuma Sun <http://www.yumasun.com/onset?id=32380&template=article.html> reports from Arizona. "Increasingly, people's dream homes of two or three years ago turn into nightmares because of mortgage payments they no longer can afford. 'We used to get one or two (foreclosures) every couple of months,' said Vicki Bardo, 2007 president of the Yuma Association of Realtors. 'For some years, we didn't have any at all.'"
"She noted that these days it's common to find several trustee sales listed in the public notices section of the newspaper on any given day. For example, on Friday, there were 20 listed. 'We're seeing a preponderance of them,' Bardo said. 'They're in every price range. They're new houses and old houses. They're all over the county from San Luis to Wellton and everywhere in between.'"
"For one thing, people may have used online lenders. Another factor was the number of investors in the market who sometimes bought four or five houses, Bardo said. That resulted in a run-up in prices and an artificial demand for houses. Some of them are now deciding to sell and move on because they can't rent their houses."
“And what had been a housing shortage for several years has now become an overabundance, she said. 'We couldn't keep a house on the market a couple of years ago. Now we can't get it off.'"
“This is all having an impact on new home construction as well, Bardo said. If people can't sell their current house, they can't pay for the new house they were having built. That trend is reflected in the number of housing permits issued by the city. In the first two months of this year, the city issued 38 new single-family housing permits, said Randy Crist, city building
official. During the same period in 2006, there were 187
permits."
"'It's not that money isn't there to buy a house and interest rates are still low. People are simply waiting for the best deal they can get,' Bardo said."
The Arizona Republic
"Dozens of civil lawsuits alleging the gamut of mortgage fraud, from cash-back deals to lying about income on loan documents, have been filed against Valley firms and individuals during the past few months. Fraud experts and regulators say the lawsuits are only the beginning as the fallout from mortgage fraud starts to hit the Valley."
"'Banks are going to force mortgage brokers to buy back bad loans, and mortgage brokers don't have the money so they are going to go under,' said Richard Hagar, a national mortgage and real estate fraud expert. 'This is the beginning of the wave of lawsuits, lost licenses and criminal indictments in Arizona.'"
"Phoenix-based Biltmore Bank is suing Security Title of Arizona and a group of others over a cash-back deal. The suit alleges the group worked together to get Biltmore to fund a $1.3 million loan for a home valued at $800,000 and then pocketed the extra cash. Also named in the suit are Valley
appraiser Kittelmann & Associates and Tucson resident Frank Padilla, who was indicted and pleaded guilty last year to fraud and money laundering as part of a $13 million property-flipping scheme."
"A Lehman Brothers investment trust in New York and Aurora Loan Services in Denver are suing the parent company of First National Bank of Arizona over 38 home loans. They say the bank has misrepresented the values of properties, and the income, debt and employment of some of the
borrowers."
"San Francisco-based Transnational Financial Network is suing Phoenix-based Lending House Financial and a Scottsdale investor who purchased 22 Valley homes within days of each other last spring. Transnational funded loans worth nearly $2 million on seven of the homes but says it wasn't notified the investor was buying multiple properties and his real debt level wasn't
disclosed on mortgage documents."
"The investor never made a payment on the houses, which were foreclosed on last year. Most of the homes sold at foreclosure auctions for tens of thousands of dollars less than the mortgages the
investor took out on them."
"This wave of mortgage fraud, bad loans and foreclosures is deja vu for Michael Manning. He was an Arizona attorney for the Federal Deposit Insurance Corp., which seized failed lenders due to bad
loans in the late 1980s. He was then the Phoenix attorney for the Resolution Trust Corp., which was formed to clean up the savings and loan debacle and dispose of the overvalued properties."
"'This is the tip of the iceberg, but I think regulators got on top of it faster than in the mid-1980s,' Manning said. 'And lenders are now really starting to crack down on their own underwriting.'"
The Greeley Tribune <http://www.greeleytrib.com/article/20070304/NEWS/103040134> from Colorado.
"A year and a half ago, Christina Vazquez and her family were happy when they qualified to own their first home in a new subdivision in southwest Greeley. Even though she only made $25,000 a year, a lender said her family could get her in a new home worth $225,000."
"'I don't know how they approved me, but they did,' Vazquez said. 'When I bought the home they said my payments would go down in a year.'"
"A year after owning the home, the payments never went down and Vazquez was left with no option but to foreclose. Vazquez is among close to 20 other families from the Gateway Lakes development who have either gone into foreclosure or may soon go into foreclosure. All of the families purchased their homes from the same man, Mark Strodtman of JS Real Estate, LLC."
"'I feel they took advantage of me,' Vazquez said. 'Even though I speak English, they still did not explain any of the paperwork to me and just told me where to sign.'"
"As the homeowners began investigating their home sale paperwork and talking with appraisers, the families discovered that many of their homes were sold to them several thousand dollars more than market value.
They claim that JS Real Estate bumped up the prices as much as $70,000 more than the market price in some cases."
"Vazquez purchased her home $55,000 more than what similar homes were selling for. 'What they did was wrong, and all I want is justice to be done,' said Guadalupe Moreno, who is struggling to make
the payments on her home. 'If I have to tell the whole world, I will.'"
"Librado Herrera works various jobs for about $12,000 a year and was approved for a $230,000 home. He said he was told by Strodtman to say he owned a catering company when the bank called to verify
the information on his loan application. Charles Brandt, president of JC Distinguished Finance
who worked with Strodtman in selling the homes, declined to comment."
"'I have never seen a Realtor selling a house $40,000 or $50,000 more than the market price,' said David Kiekhaefer, a Greeley broker and home builder who built five houses in the Gateway Lakes subdivision. 'Another scary thing is that many of them (the families) haven't seen their appraisals from when they purchased their homes.'"
"He said he was not able to sell the homes he built in the subdivision and ultimately turned them into rentals. He was always curious, however, how the other homes that were built were sold so quickly and at a higher cost."
"'There are homes on one side of the street selling at $70,000 more than the same house across the street,' Kiekhaefer said. 'There are a lot of freaky things going on, and it just brings up a lot of red flags.'"
Either way, I don't really have a useful opinion on last weeks market activity or on the short-term outlook on the markets in general. Unlike the morons on CNBC that will tell you last week was a buying opportunity or that the market will be 10% higher by the summer, I admit that timing the markets in the short-run is next to impossible especially considering the fact that future movements are not set in stone.
There is a good chance that last week was a badly needed correction in global asset markets and that it truly is a good buying opportunity. Given that I am a bear in the medium-to-long term, I would say that there will be a day when the market will turn down for a long period of time - I just don't know if time is right now. Probably not.
However, there is a chance that my personal favorite theory of "punctuated equilibrium" took hold in the market last week and we are seeing the market meltdown that I didn't expect to happen for a few more years. Punctuated equilibrium, in lay terms, is the theory that things work until they don't. Basically, traders didn't feel that any of the bad news in the U.S. economy, global macro-imbalances or the world geo-political situation (mainly, but certainly not exclusively Iran) mattered anymore because nothing could stop the bull market of the past 4 years or so.
Well, things don't matter until they do, and then that is all that matters. Think about the meltdown of the sub-prime (borrowers with poor credit scores) mortgage industry - I have too much to say about this for the time that I have - but I do think that the we are about to see blood in the streets of many American housing markets. Markets rise and fall at the margins - you always have bulls and bears for every trade, but it is the "undecided" that determine whether a stock, index, commodity, etc. moves up or down.
At the margin, the U.S. housing boom started due to the Fed policy to lower rates to 1% (among other factors) which provided steroids to the market until about the middle of 2005 at which point the fraudsters and flippers (who make up most of the sub-prime industry) took over. Nobody cared about this until the gravy train finally ran out in recent months - now we are going to see pay-back for this.
Based on the fact that mortgage companies are imploding on a near-daily basis, the housing market could go bust very quickly. Or somehow, people (who are "people"? - The Real Estate Industrial Complex, the Fed,homedebtors, the U.S. Gov't, the Bank of Japan, the Bank of China, or maybe a combination of all) are going to fight this bust tooth and nail (Japan-style) and let this thing run its course over many years, maybe even a decade.
Hard to know, but it will be interesting to find out.
Anyway, if we are witnessing punctuated equilibrium, here are my guesses at what the headline stories of 2007 will be:
1) Subprime fraud and malfeasance comes to light (see story below - only a few of thousands out there). I have written several commentaries on mortgage fraud - this is going to be a big deal. I wish I had the time to go into this story in-depth.
2) Japanese Yen Carry Trade blows up (if you are not familiar, this is a long story - do some research if you are interested). Basically, Japanese interest rates have been around 0% for the last 10 years. Investors around the world have been borrowing Yen converting to other currencies and investing in various assets. It has been profitable so far due to the fact that Japan manipulated fx rates to keep the Yen weak.
An unwinding of this "trade" will cause weakness in asset prices around the globe.
3) China - the Chinese economy and financial markets are so heavily manipulated. You can't trust any information that comes from a communist gov't yet people are trading on their economic releases.
While I think China will be the story of the century as it becomes the biggest and most powerful economy in the world over the next 25 years, much like the U.S. 100 years ago - there will be periods of gut-wrenching turmoil. Perhaps not this week, but at some point. And now the global
economy and global financial markets will feel the pain.
SUBPRIME FRAUD
Valley fighting mortgage fraud wave - A wave of mortgage fraud is rippling through pockets of the Valley, inflating home values through scams called cash-back deals.
Left unchecked, cash-back deals cost homeowners and lenders millions of dollars and could erode confidence and values in Arizona's real estate market.
The fraud involves obtaining a mortgage for more than a home is worth and pocketing the extra money in cash. Neighbors may then discover home values in the area are exaggerated.
Homeowners stuck with overpriced mortgages may never recover the difference. And lenders end up with bad loans that, in the long run, could hurt the Arizona real estate market, the largest segment of the state economy.
"Arizona was like a housing gold rush for speculators from California, Florida and Texas a few years ago," said Detroit real estate agent and fraud activist Ralph Roberts, author of the book Flipping Houses for Dummies. "But home prices stopped climbing, and speculators got greedy.
Now the cash-back scam is going to make the savings and loan crisis of the 1980s look like a soft landing"
Valley housing-market experts now believe home values are inflated anywhere from 10 to 40 percent.
State targets mortgage fraud
A wave of mortgage fraud in the Valley has prompted state legislation that would define it as a crime punishable by up to 10 years in prison.
A day after The Arizona Republic's special investigation into cash-back mortgage deals, Sen. Jay Tibshraeny of Chandler introduced a bill that would make mortgage fraud a felony.
"Mortgage fraud hurts everyone," said Tibshraeny, who has been working on the legislation for months. "Buyer, beware of a deal that seems too good. The strings your Realtor or mortgage broker pull may be illegal."
Only two states, Colorado and Georgia, have laws specifically regulating mortgage fraud. Most states, including Arizona, must try to prosecute the crime under general fraud laws, which make convictions difficult and less of a deterrent.
Cash-back deals are a newer form of mortgage fraud whose rapid spread in Arizona has alarmed regulators and real estate industry leaders.
The fraud involves obtaining a mortgage for more than a home is worth and pocketing the extra money in cash. The deals inflate home values and can affect values across whole neighborhoods. Homeowners stuck with overpriced mortgages may never recover the difference. Ultimately, lenders end up with bad loans. All this can hurt the Arizona real estate market, the largest segment of the state economy.
Felecia Rotellini, superintendent of the Arizona Department of Financial Institutions, is leading a new mortgage fraud task force made up of state and federal agencies. She said the proposed legislation would help investigators crack down on mortgage fraud.
Rotellini said her agency was deluged with calls Monday from people reporting cash-back deals and other potential mortgage fraud.
Sunday's Republic story also struck a cord with people in the real estate industry and homeowners across the Valley as more than 350 people e-mailed or phoned with concerns or accounts of deals they thought were fishy.
From the real estate industry:
Valley appraiser Dennis McMillen said that mortgage fraud is an issue in the housing market but that it's not always due to inflated appraisals.
In some cases, he said, "real estate agents and mortgage brokers are withholding the cash-back agreements from the contract, thus the appraiser and title company does not know of these agreements."
Valley real estate investor and marketing executive Francine Hardaway said: "Thank God somebody finally blew the whistle on this. As an investor, I see it all over the place."
Valley attorney Michael Manning represents some groups that were sold "bad loans" as part of the cash-back scheme. "Public awareness coupled with a little proactiveness by local prosecutors will help stem the practice and help prevent a meltdown in the market," he said.
Don Matheson of Re/Max Excalibur Realty of Scottsdale said: "This is a very big problem and very damaging to our real estate market. We need to catch these people and put them in jail."
Many homeowners expressed concerns about fraud in their neighborhood. Dozens of people provided details on cash-back deals or sales that suggested cash-back pricing. Most asked to remain anonymous.
Several readers were alerted to the schemes when they saw homes sit unsold for months and their prices reduced. Then, as the housing market was slowing even more, those homes sold for tens of thousands of dollars more than the previous listed price.
That is the No. 1 warning sign for cash-back deals, regulators say.
<http://thehousingbubbleblog.com/?p=2436> "A Housing Shortage Has Become An Overabundance"
The Yuma Sun <http://www.yumasun.com/onset?id=32380&template=article.html> reports from Arizona. "Increasingly, people's dream homes of two or three years ago turn into nightmares because of mortgage payments they no longer can afford. 'We used to get one or two (foreclosures) every couple of months,' said Vicki Bardo, 2007 president of the Yuma Association of Realtors. 'For some years, we didn't have any at all.'"
"She noted that these days it's common to find several trustee sales listed in the public notices section of the newspaper on any given day. For example, on Friday, there were 20 listed. 'We're seeing a preponderance of them,' Bardo said. 'They're in every price range. They're new houses and old houses. They're all over the county from San Luis to Wellton and everywhere in between.'"
"For one thing, people may have used online lenders. Another factor was the number of investors in the market who sometimes bought four or five houses, Bardo said. That resulted in a run-up in prices and an artificial demand for houses. Some of them are now deciding to sell and move on because they can't rent their houses."
“And what had been a housing shortage for several years has now become an overabundance, she said. 'We couldn't keep a house on the market a couple of years ago. Now we can't get it off.'"
“This is all having an impact on new home construction as well, Bardo said. If people can't sell their current house, they can't pay for the new house they were having built. That trend is reflected in the number of housing permits issued by the city. In the first two months of this year, the city issued 38 new single-family housing permits, said Randy Crist, city building
official. During the same period in 2006, there were 187
permits."
"'It's not that money isn't there to buy a house and interest rates are still low. People are simply waiting for the best deal they can get,' Bardo said."
The Arizona Republic
"Dozens of civil lawsuits alleging the gamut of mortgage fraud, from cash-back deals to lying about income on loan documents, have been filed against Valley firms and individuals during the past few months. Fraud experts and regulators say the lawsuits are only the beginning as the fallout from mortgage fraud starts to hit the Valley."
"'Banks are going to force mortgage brokers to buy back bad loans, and mortgage brokers don't have the money so they are going to go under,' said Richard Hagar, a national mortgage and real estate fraud expert. 'This is the beginning of the wave of lawsuits, lost licenses and criminal indictments in Arizona.'"
"Phoenix-based Biltmore Bank is suing Security Title of Arizona and a group of others over a cash-back deal. The suit alleges the group worked together to get Biltmore to fund a $1.3 million loan for a home valued at $800,000 and then pocketed the extra cash. Also named in the suit are Valley
appraiser Kittelmann & Associates and Tucson resident Frank Padilla, who was indicted and pleaded guilty last year to fraud and money laundering as part of a $13 million property-flipping scheme."
"A Lehman Brothers investment trust in New York and Aurora Loan Services in Denver are suing the parent company of First National Bank of Arizona over 38 home loans. They say the bank has misrepresented the values of properties, and the income, debt and employment of some of the
borrowers."
"San Francisco-based Transnational Financial Network is suing Phoenix-based Lending House Financial and a Scottsdale investor who purchased 22 Valley homes within days of each other last spring. Transnational funded loans worth nearly $2 million on seven of the homes but says it wasn't notified the investor was buying multiple properties and his real debt level wasn't
disclosed on mortgage documents."
"The investor never made a payment on the houses, which were foreclosed on last year. Most of the homes sold at foreclosure auctions for tens of thousands of dollars less than the mortgages the
investor took out on them."
"This wave of mortgage fraud, bad loans and foreclosures is deja vu for Michael Manning. He was an Arizona attorney for the Federal Deposit Insurance Corp., which seized failed lenders due to bad
loans in the late 1980s. He was then the Phoenix attorney for the Resolution Trust Corp., which was formed to clean up the savings and loan debacle and dispose of the overvalued properties."
"'This is the tip of the iceberg, but I think regulators got on top of it faster than in the mid-1980s,' Manning said. 'And lenders are now really starting to crack down on their own underwriting.'"
The Greeley Tribune <http://www.greeleytrib.com/article/20070304/NEWS/103040134> from Colorado.
"A year and a half ago, Christina Vazquez and her family were happy when they qualified to own their first home in a new subdivision in southwest Greeley. Even though she only made $25,000 a year, a lender said her family could get her in a new home worth $225,000."
"'I don't know how they approved me, but they did,' Vazquez said. 'When I bought the home they said my payments would go down in a year.'"
"A year after owning the home, the payments never went down and Vazquez was left with no option but to foreclose. Vazquez is among close to 20 other families from the Gateway Lakes development who have either gone into foreclosure or may soon go into foreclosure. All of the families purchased their homes from the same man, Mark Strodtman of JS Real Estate, LLC."
"'I feel they took advantage of me,' Vazquez said. 'Even though I speak English, they still did not explain any of the paperwork to me and just told me where to sign.'"
"As the homeowners began investigating their home sale paperwork and talking with appraisers, the families discovered that many of their homes were sold to them several thousand dollars more than market value.
They claim that JS Real Estate bumped up the prices as much as $70,000 more than the market price in some cases."
"Vazquez purchased her home $55,000 more than what similar homes were selling for. 'What they did was wrong, and all I want is justice to be done,' said Guadalupe Moreno, who is struggling to make
the payments on her home. 'If I have to tell the whole world, I will.'"
"Librado Herrera works various jobs for about $12,000 a year and was approved for a $230,000 home. He said he was told by Strodtman to say he owned a catering company when the bank called to verify
the information on his loan application. Charles Brandt, president of JC Distinguished Finance
who worked with Strodtman in selling the homes, declined to comment."
"'I have never seen a Realtor selling a house $40,000 or $50,000 more than the market price,' said David Kiekhaefer, a Greeley broker and home builder who built five houses in the Gateway Lakes subdivision. 'Another scary thing is that many of them (the families) haven't seen their appraisals from when they purchased their homes.'"
"He said he was not able to sell the homes he built in the subdivision and ultimately turned them into rentals. He was always curious, however, how the other homes that were built were sold so quickly and at a higher cost."
"'There are homes on one side of the street selling at $70,000 more than the same house across the street,' Kiekhaefer said. 'There are a lot of freaky things going on, and it just brings up a lot of red flags.'"
Tuesday, February 27, 2007
Counterfeiting Money - Crime or Good Economics?
This article was posted by Mike Shedlock (Mish) - who I believe is one of the two best financial commentators out there right now (the other being Kevin Depew from Minyanville) - back in February 2007 based on one of my newsletters. Mish added significant comment to the end which has turned out to be right on the money.
http://globaleconomicanalysis.blogspot.com/2007/02/counterfeiting-money-crime-or-good.html
We are now seeing Bernanke and Co. in full print cycle - just as predicted in this post.
Counterfeiting Money - Crime or Good Economics?
Did you ever think that a counterfeiting money could be good for the economy and that the counterfeiter could be considered an economic genius or even a national hero? I received an Email from Nic Corsetti, a friend of mine, describing exactly how that might happen. Here goes from Nic:
Let’s say that I invent a printing press that allows me to produce counterfeit money (let’s say US dollars) by the trillions – these dollars look EXACTLY like real ones, so no one can tell the difference, not even the government or the bank. So I start off the first year by counterfeiting $3 trillion dollars.
Obviously, this is a lot of work, so I hire a whole network of employees and consultants to help me achieve those lofty goals in a reasonable time period. The apparent benefits would be huge.
http://globaleconomicanalysis.blogspot.com/2007/02/counterfeiting-money-crime-or-good.html
We are now seeing Bernanke and Co. in full print cycle - just as predicted in this post.
Counterfeiting Money - Crime or Good Economics?
Did you ever think that a counterfeiting money could be good for the economy and that the counterfeiter could be considered an economic genius or even a national hero? I received an Email from Nic Corsetti, a friend of mine, describing exactly how that might happen. Here goes from Nic:
Let’s say that I invent a printing press that allows me to produce counterfeit money (let’s say US dollars) by the trillions – these dollars look EXACTLY like real ones, so no one can tell the difference, not even the government or the bank. So I start off the first year by counterfeiting $3 trillion dollars.
- I use $1 trillion to buy stocks (jump starting the bull market)
- I use $1 Trillion to buy U.S. Treasury bonds (thus driving bond prices higher and interest rates lower)
- I use $1 Trillion to go around to every neighborhood in every major city of the U.S. and start buying houses for 10% higher than the listed price
Obviously, this is a lot of work, so I hire a whole network of employees and consultants to help me achieve those lofty goals in a reasonable time period. The apparent benefits would be huge.
Benefits
- This will create jobs, since lots of employees and consultants will be needed to spend $3 trillion.
- The stock market indices will soar. Everyone's 401(k) and day-trading portfolios will increase in value.
- Home prices will increase by 10% overnight.
- Interest rates will fall which will make it even cheaper for everyone to borrow money to buy new cars, upgrade into a bigger homes, and buy new gas plasma TVs every year hoping against hope of getting to watch the CUBs someday play in the World Series.
- The lifeblood of America, vastly underpaid Real Estate Agents, will get a much needed and well deserved infusion of cash.
- The economy will be humming so fine that no one will care about the loss of jobs to India and China.
- Cheap goods will continue to pour into the US and the CPI will show only a modest 2% rise in the price of goods.
Additional Printing Presses
This is such a good plan, I decide to let some of my best friends in on the action. So I pick twelve of my closest cronies and give them identical printing presses, and instruct each of them to buy stocks, bonds and real estate with their counterfeit money. I tell them to loan the money to anyone who asks. Now we are really getting somewhere.
- The stock market will rise 30%-50% every couple years
- By buying massive amounts of treasuries, interest rates will stay at historic lows
- Everyone's net worth will double every few years if they just buy more real estate
- There will be no reason to save money, because assets will just keep skyrocketing in value.
- Wave after wave of immigration proves adequate enough to supply the homebuilding industry with enough manpower to get the job done.
- So much money is made in the stock market that $50 billion in bonuses can be distributed.
- Home prices start rising so fast that people start buying two or even three of them. It's a "can't lose" venture.
- There is so much money floating around that credit standards drop and everyone who wants a home gets one.
- So many homes are being bought that massive numbers of jobs are created in the mortgage industry, home builders, architects, real estate agents, title insurance, property insurance, home decoration, lumber, copper, cement, truck manufacturers, granite miners, brick layers, roofing, repairmen, industry analysts, home flippers, internet bloggers, internet site maintenance, newspaper ads, Wall Street specialists(to create RMBS, CDO, CDS, Index swaps), hedge fund employees (someone has to trade all these securities, and accountants and lawyers to keep track of all of the above.
- There are additional profits to be made on Wall Street by investing in IPOs, private equity LBOs, M&A, trading, mutual funds, and hedge funds.
- There is job growth in investment advisers, investment analysts, day-traders, media cheerleaders, SEC regulators, state regulators, New York D.A. office, and accountants and lawyers to keep track of everything.
- Government jobs explode. State and local governments get all sorts of funding for projects of all types – big and small. This creates still more jobs.
- Everyone needs a place to spend their money. Shopping malls, strip malls, big box stores, specialty stores, boutiques and nail salons spring up everywhere.
- People are so busy shopping they do not have time to cook. This creates a need for more restaurants or coffee shops on every corner.
Even with all of that there is STILL NO INFLATION! Cheap imports keep prices from rising and the best part is that those foreigners keep taking this counterfeit money as if it was real money. No one can tell the difference anyway.This goes on and on – we have really created a tremendous virtuous cycle where everything just gets better and better.
Everybody Wins
After a few years of counterfeiting I am quite certain that a "new era of goodwill and fortune" would be announced and that I, Nic Corsetti, would rightfully be hailed as the first Economic Grand Wizard to have permanently vanquished recessions.But what’s the catch? Where’s the hole in this story? Is there a hole in this story? If counterfeiting is such a great idea, why isn't it legal? Actually it is legal.
Legal Counterfeiting
- My name is not really Nic Corsetti, it is Alan Greenspan (Ben Bernanke if you prefer).
- My twelve friends are the 12 member banks of the Federal Reserve
- My employees and consultants are the financial services industry (Wall Street broker dealers, hedge funds, mutual funds, retail banks, and commercial banks)
- Those printing presses are currently manned by me and my 12 friends
I (Ben Bernanke) hope these printing presses don't break down and that people keep accepting these counterfeit dollars or this economy might implode. This is my only fear right now.
Mish Note: Nic Corsetti is a real person. The above idea came in from Nic via email and was rewritten and reformatted by me. Still, Nic deserves full credit for the idea. Thanks Nic.
As "proof" of the ingeniousness of legal counterfeiting, Alan Greenspan has been hailed as an economic hero and knighted by the queen of england for "contribution to global economic stability". Printing presses do work (for a time) and Greenspan's timing was perfect as discussed in an Interview with Paul Kasriel.
Kasriel: Greenspan is a fascinating study. Some day I hope to write a book about him. Right now I willing to say he is the luckiest Fed chairman in history.Mish: Greenspan is the luckiest Fed chair in history? How so?Kasriel: He was fortunate in two very big ways. First off, he was fortunate to preside over the economy at a time when productivity was soaring and the global supply of goods was expanding rapidly because China had entered the world trading arena. In that environment the Fed could create large amounts of money and credit without causing inflation other than in asset prices.
Synthetic Money
By the way, so many others have acquired the magic printing presses that the Fed is now basically irrelevant when it comes to credit expansion and contraction. Synthetic money is now being created in massive amounts in numerous places. For example, GSEs are now running their own printing presses. Want a $500,000 mortgage? Boom, you got it. No one cares if you can pay it back either. It is foolproof as long as home prices only go up. Multiply that by the hundreds of thousands and it all adds up, and much of it done with 0% down, and most of it based on the belief that housing prices only go one way: up. The day of reckoning comes when home prices sink. A collapse is now underway, and it has hit the subprime market especially hard. Those credit problems are guaranteed to spread.
Some may object to the term "synthetic money", perhaps preferring something like creating money by "fiduciary media". The important thing is not what we label it, but rather the general idea of what is happening. And without a doubt enormous amounts of money (credit/debt) are being borrowed into existence with increasing leverage and risk.
Broker dealers (via junk bond offerings) have figured out how to create their own synthetic money backed by essentially nothing. As yields collapsed increasing leverage had to be used to generate the same returns. Such offerings have exploded along with mammoth growth in hedge funds all wanting a piece of the pie.
Some 20,000 hedge funds are now doing things with leverage because yields are too low. Various carry traders have created synthetic dollars of sorts by borrowing Yen and investing in US dollar denominated assets such as US treasuries. This has been building and building and building on itself so that no one even knows how many printing presses are actually running. The day of reckoning on carry trades will come when the Bank of Japan is forced by the market to raise rates at a rapid rate and there is a mad scramble to get out of dollars and back into Yen. Rest assured these events will be anything but orderly when they happen.
Initial sponsorship of "legal counterfeiting" came from the Fed and Central Bankers in general, but once Wall Street got a hold of the magic printing presses, things have gotten more than a little out of hand. This is what happens when you have money backed by nothing and borrowed into existence. This is also what gold lovers see when they recommend gold.
An Austrian Perspective
After reading the above some of you no doubt will be comparing this to hyperinflation and the Weimar Republic. Instead let's look at this (as best we can) from an Austrian perspective.
Money itself (however one defines it) is a claim on real savings (a placeholder for saved goods). For example, a baker makes bread, so what he actually saves is bread. The baker only transforms his savings into money (typically a monetary commodity that has a prior demand for other uses, such as gold) because that's far more convenient. The baker can not actually save bread, as it would get old.
Therefore money, as such, is a claim on real goods. Credit by contrast, is a claim on money itself, which in turn is a claim on real goods. In our present system, credit claims on money to be paid back in the future masquerade as actual money and can thus be termed "synthetic money". In addition there is a "multiplier" effect. Someone gets a loan and spends it on goods. That money is deposited and is treated as money regardless of whether or not it is backed by real goods. Via sweeps and still more lending (see Money Supply and Recessions), the same money is lent out time and time again (the multiplier effect). This is the failure of the central bank administered fiat system: monetary claims proliferate beyond actual production of goods to back them up. In a honest system, only actual savings would be transferred from savers to borrowers (with banks acting as middlemen).
This "credit inflation" is thus fundamentally different from the "Weimarian printing press inflation". The Weimar situation brings about hyperinflation as the monetary unit itself is inflated in its physical form, as banknotes. By contrast, a credit inflation that creates claims that masquerade as money is prone to deflation because the money needed to pay back the credit is in a shortage (relatively speaking) compared to the outstanding credit claims.
This does not entirely preclude an inflationary outcome. After all, the Fed could in theory decide to monetize just about anything. It could monetize defaulted bonds and loans, it could even go and buy up foreclosed houses if it is prepared to go the Weimar route in order to avert what it would deem a deflationary calamity. As we have discussed in the past, this is unlikely to happen for a variety of reasons (see An Interview with Paul Kasriel and Q&A on the Psychology of Deflation). In addition to the ideas expressed in those articles there is bureaucratic inertia to the fear of losing wealth and power. One key point in this regard is the fact that the Federal Reserve system is made up of creditors. Those creditors will not like the Weimar solution because it would debase their credit claims.
This I believe is the message Trichet, Poole, and Weber were attempting to convey in Central Bankers Cry Wolf.
Weber: European Central Bank council member Axel Weber said investors shouldn't expect central banks to bail them out in the event of an "abrupt" drop in financial markets. "If you misprice risk, don't come looking to us for liquidity assistance," Weber said in an interview in Davos, Switzerland at the annual meeting of the World Economic Forum. "The longer this goes on and the more risky positions are built up over time, the more luck you need."
Trichet: Current conditions in global financial markets look potentially "unstable", suggesting that investors need to prepare themselves for a significant "repricing" of some assets, Jean-Claude Trichet, president of the European Central Bank. "We are currently seeing elements in global financial markets which are not necessarily stable," he said, pointing to the "low level of rates, spreads and risk premiums" as factors that could trigger a repricing.
Poole: "The Fed can provide liquidity support but not capital".
The most important facet of all of this is that monetary claims very likely exceed the pool of real funding by several orders of magnitude. When push comes to shove, this house of cards will eventually collapse in some way.
It is important to recognize that what is happening right now with stock buybacks, leveraged buyouts, and various carry trades for what it is: one giant Ponzi scheme. This will end the way all Ponzi schemes end: when the willingness or ability of consumers or or businesses to take on more debt stops and/or when the willingness to further speculate stops. When either of those happens there will be a mad rush for the exits and no more buyers for "overpriced tulips" will be found. Be prepared.
Monday, November 20, 2006
Mortgage Fraud - Creating a Crisis in the Housing Industry
This was one of my famous Corsetti housing doom-and-gloom articles. But the stuff on mortgage fraud was priceless at the time. I should have been paid for this stuff :)
So much has happened over the past few months, global equity markets have rallied, the housing bubble seems to be in jeopardy of collapsing, oil prices have come down, gold and silver have regained their footing, the US Treasury yield-curve has inverted again, and the US Dollar index has seesawed back and forth between 84-87 (this is a measure of dollar strength against a basket of currencies).
I will get into my views on the equity, bond, currency and commodity markets over the next few weeks, but I would like to note that there is a serious disconnect between each of these markets – with the bond and commodity markets forecasting a recession in 2007 and the equity market forecasting a “soft-landing” (meaning moderate growth and low inflation) followed by a pick-up in growth. The currency markets are confused and swing back and forth on each piece of economic data.
Cash-Back Loans
Over the past weekend, I have put together some research (see below) on a problem which I think could develop into a serious scandal in the mortgage industry: “Cash-back Mortgage Loans”. They seem to have become mainstream over the past 5 years, the idea being that a homebuyer borrows more than the value of the house so that they can finance “renovations” which theoretically increase the value of the house. Until recently, this type of lax lending standards would never have been allowed by risk managers, shareholders, or regulators – but like so many other things, it’s now a free for all, especially if it helps banks meet their quarterly earnings targets.
Over the past couple of years, a new scam has grown out of these lax lending standards: it seems real estate agents, appraisers, buyers, sellers and maybe even the bankers themselves have teamed up to perpetrate fraud. You can read how they do it and why in the articles below (note these articles are from local papers in at least 5 different parts of the country). If this turns out to be even a fraction as widespread as I believe it might be, this could deal a crippling blow to our banking system (making the S&L scandal of the late 80s look like a misdemeanor).
By the way, this is just one of many potential scandals that may come out of the whole ridiculous housing bubble that gripped the U.S. over the past few years. Also coming soon: Liar’s Loans (loans where you state your income with no verification), Interest-Only Loans (where you pay no principal for the first few years – these are usually adjustable rate), Negative Amortization loans (loans where for the first few years you pay NO principal and only a portion of the interest – the remainder is added back to the principal), and the big kahuna: Adjustable-Rate Loans (where the interest rate is variable – most of these were taken out in 2003-2004 when rates were 1-3%, not closer to 6%).
Unless the housing market can make a comeback over the next two years (I place a low probability on this – but you never know), all of the people taking out the loans above are going to be wiped out. The idea was that they bought places they could not afford using traditional loans (30 year – fixed rate) but figured they could “flip” the houses in a couple of years and make a huge profit. That does not even count the millions of people who became real estate “investors”, agents, mortgage brokers, title insurance, etc…… who were all riding the Easy Al Greenspan Housing Bubble Gravy Train.
It all worked for a while – but like I found out with my AskJeeves.com stock, the music eventually stops and someone gets left holding the bag.
One last comment on the housing market – I pulled this from a Wall Street Journal Article from 1932: “During a panic your home suddenly becomes worthless because nobody wants it.”
As promised – enjoy (or at least do not get too scared):
1. From the Denver Post: “In the Denver metro area alone, more than 1,000 homes sold for at least 110 percent of the original asking price in the 18 months ending in June, according to research.”
“‘It clearly is a problem,’ said Colorado Attorney General John Suthers. ‘We have been looking at house purchases over cost and money going back to the buyers.’ Suthers’ consumer protection chief, Jan Zavislan, said the office is investigating various participants in inflated sales, including buyers, sellers, appraisers, mortgage brokers, real estate agents and title companies.”‘
“We’re looking at potentially every participant in these transactions,’ Zavislan said. ‘We’re just seeing way too many of these things. 'The problem is bigger than all the law enforcement agencies in the state put together.’”
"Sonya Leonard, who owns a real-estate firm, said her own industry is guilty of various practices that can put a false value on a house, from counting basement space in the listed square feet to undercounting how long it has been for sale."
"She told Zavislan she had complained to several state agencies and the FBI when the prospective buyers of one house wanted her to raise the price from $499,000 to $625,000 and kick back the difference to a third party."
“Critics say mortgage companies have little incentive to ferret out inflated sales because they bundle and resell their home loans to Wall Street investors, taking their profits and diluting fraud losses in large pools of mortgage-backed bonds.”
“These securities get ’sold in little pieces all over the world,’ said Lou Barnes, a Colorado mortgage bank owner. ‘It makes it very difficult to figure out who, if anyone, bears any responsibility for the flow of Colorado’s foreclosures.’”
“Marc Loewenthal, a senior VP of New Century Financial Corp., says his company’s mortgage subsidiary financed and resold loans on four of the allegedly fraudulent villa purchases. But ‘the investor has the right to demand we repurchase the loan if there is fraud involved,’ he said. ‘We’re at risk. We do have an interest in keeping fraud down.’”
“New Century grew concerned enough about fraud to install a new screening technology early this year, he said. As a result, ‘we have stopped close to $1 billion in loans.’”
2. The Columbus Dispatch from Ohio. "The peculiar but tempting offers sometimes came a year or more after homeowners planted for-sale signs in their front yards. Interested buyers suddenly appeared, proposing to pay hundreds of thousands of dollars more than the asking price for houses in some of central Ohio's elite neighborhoods."
"The catch: the sellers must agree to immediately refund the difference between the asking price and the sale price. At least 14 such deals worth more than $11 million have closed since spring, and the offers continue."
"'We turned down five of them,' said Bryan Wing, executive VP of CV Perry Builders. 'Believe me, in this day and age, we could have used it.' Others couldn't resist."
"A lawyer for the central Ohio chapter of the Building Industry Association warned group members in October to steer clear of such deals. Even sellers could be held liable if deals turn out to be fraudulent, he said, reminding builders of the danger of lawsuits or criminal racketeering charges."
"'This has been a really recent phenomenon,' said David Martin, chief executive of Stewart Title, which refused some of the deals. 'It's like a whole new industry has formed overnight.'"
3. The Review Journal from Las Vegas : “Glenn Goodman has had his Las Vegas home on the market since March and eventually lowered the price to $379,000 from $430,000. Interesting, he said, that he now has in his possession an offer for the home at $460,000. ‘The buyer wants us to give her $57,000 cash at the close of escrow. Obviously this buyer will then just walk away from the house, leaving it to be foreclosed upon,’ Goodman said. ‘It smells like fraud all over it. The Realtor’s got to be in on it.’”
4. The Tampa Tribune. "A New York lender fears it is on the hook for millions of dollars in loans that now total more than the New Port Richey properties are worth. Lehman Bros. filed suit in Tampa on Tuesday against a group of investors, title companies, a mortgage company and an appraisal company involved in potential mortgage fraud at a Pasco County condominium complex."
"Fifteen defendants used overvalued appraisals in a 'scheme to defraud'
the bank, according to the lawsuit. The 13 properties each were appraised for $733,000. The lawsuit says the triplexes are worth 'barely one-third' of that value."
"Lenders across the country are investigating mortgages that may be worth more than the market value of the properties. Part of the problem, they say, is that lenders usually don't spot problem mortgages until buyers start missing payments."
"Lenders are discovering overvalued loans now for two reasons, said Doug Pollock, a mortgage investigator in Sanford. For one thing, fraudulent loans were easily overlooked during the past five years' real estate boom. Second, industry professionals may be tempted to participate in fraudulent deals to attract business, Pollock said."
5. Again from the Tampa Tribune. "State agencies are investigating potential mortgage and title fraud involving 36 unorthodox real estate deals in the Bay area. The deals aren't an anomaly. 'The reports we're getting are incredible,' said Doug Pollock, (who) investigates problem mortgages.
'This scheme is hitting every county in Florida. It's like people are going to classes to learn how to do this.'"
"How widespread are the inflated deals? The answer, industry experts fear, is that they're everywhere, but there's no way to determine the extent. 'This is prevalent in some areas,' said Brad Monroe, president of the Greater Tampa Association of Realtors. 'It just makes you wonder how many of these deals are going on that we don't know about yet.'"
6. And More from Tampa. “A year ago, Dawn L. Molen quit her job as a commercial loan officer and set out to become a real estate agent. With three months’ experience, the agent who had never listed a home closed her first sale Jan. 27 in a working-class neighborhood.”
“Her buyer paid $45,000 more than the asking price. It stunned her peers. From then on, Molen brought in contracts by the stack.”
“Molen found buyers willing to consistently pay $50,000 to $70,000 more than the original price, according to documents obtained by The Tampa Tribune. Collectively, the homes sold for at least $2 million more than originally listed.”
“But there was something her boss said he didn’t know: Some of the money wasn’t going to the sellers. It was going to a third party with ties to Molen, sometimes without the knowledge of the lenders or the sellers.”
“Molen’s deals have several similarities to cases that have surfaced recently across the nation, some of which have resulted in investigations or prosecution for illegal activity. As the torrid real estate market has cooled nationwide, more industry professionals may take chances to make a deal, experts say. Lenders say they are bracing for a fallout in which buyers ultimately default on their mortgages.”
“Local real estate agents fear future buyers in the neighborhoods involved in the transactions may not be able to afford homes or higher taxes as a result of inflated prices.”
“More than a dozen sellers and listing agents interviewed by the Tribune said they felt uneasy about the transactions but went along after employees at the title company assured them they were legal and not unusual. ‘As long as I got my $180,000, I didn’t care what they were doing,’ said John Dieumegarde.”
“Now, other appraisers are stumbling across Molen’s deals as they search for comparable home sales to help determine the value of nearby properties. On paper, the sales appreciation is astonishing, said appraiser Doug Nail.”
“‘This is not a $250,000 neighborhood,’ Nail said, referring to one in St. Petersburg.”
“Nail evaluated one of Molen’s sales for the Tribune, without relying on recent sales represented by Molen. He estimated the house’s value at about $145,000. One of Molen’s buyers paid $250,000 for the house in September.”
“Appraiser Caryn Blauser was astonished by what she found. Molen’s sales are not isolated. She has found many local homes selling for substantially more than the original price. ‘There’s some weird stuff going on,’ Blauser said. ‘The buyers may chalk it up to creative financing, but we may soon see a lot of mortgage foreclosures because everyone wanted to make a quick buck.’”
7. Northern California - Although he beautifully renovated it and priced it below market, the Oakland bungalow just wouldn't sell. Deals fell through repeatedly for bizarre and unrelated reasons: Buyers got cold feet or moved -- one was even arrested.
By the time the fourth deal collapsed, the developer was in a state of financial panic. So, when one of the mortgage brokers who had helped a previous prospective buyer called with a new one who would close the deal for -- get this -- $100,00 over the asking price, he naturally jumped at the offer.
"The catch was that I had to give the $100K back to them after the close of escrow," the guy told me, still looking shell-shocked. "I couldn't understand why they would want to do that. The place was completely remodeled."
(Most buyers who get cash back after escrow pour that money into repairs. Typically, though, lenders like to keep this amount to no more than 3 percent of the purchase price.)
The developer went through with the sale, wondering what his buyers (whom he never met) were up to. Because he wasn't lying about anything -- everything was disclosed on the purchase contract -- he didn't feel he was doing anything wrong.
A couple weeks later, another friend who is a real estate agent called me. "I think I have a scoop for you," he told me, his voice vibrating with gumshoe grit. He'd heard that a prominent East Bay company was training its agents to inflate properties by $50,000 to $150,000, then have sellers return the cash after the close of the deal.
Unlike the arrangement with the developer, these deals were concealed from lenders by adding the cash-back arrangement onto an addendum apart from the purchase contract.
How did my friend hear about this practice? A local manager of a prominent real estate company had tipped off my friend's broker over lunch. The manager, who had been shocked at the behavior, had then gone back and looked at his own agents' files to see whether the practice ever happened in his own office. "The guy said he found so many in his own files in the past couple weeks, he didn't want to look anymore," my agent friend said.
What exactly was happening here? The developer didn't think he was doing anything illegal, and the broker had no idea the inflation was happening on his watch. But in both cases, everyone involved probably would have been considered at least partially culpable if the lenders could mount a case that they were being deceived.
8. More From Denver - Denver attorney John Head, along with several Realtors and brokers in the audience, said the state isn't doing enough to crack down on mortgage fraud. James Spray of America's Mortgage LLC said bringing cases of mortgage fraud to the attorney general's office 'is like complaining to a black hole.'"
"(Realtor) Sonja Leonard said that in one case, a Denver home was purchased for $1.3 million in December, listed for $2.25 million in April, and the price was lowered to $2.15 million in June. Then in August, it was placed under contract for $3.1 million."
9. Liars Loans and Cash-Back juxtaposition - The last example I am including is perhaps the most striking. A 24-years-old real estate “investor” from California (here is his website: http://iamfacingforeclosure.com/). He discusses how he was able to secure financing of 6 homes for over $2.2 million dollars (all cash back at close) on which he has been able to sell only one house – at a loss.
At least one loan is from Countrywide Financial (although he is no longer publishing the names of the lenders) and he use “liar loans”, or stated income loans in which he admits that he lied (with lender knowledge) about his income and intent to live in the homes – both in order to qualify for the loan.
So much has happened over the past few months, global equity markets have rallied, the housing bubble seems to be in jeopardy of collapsing, oil prices have come down, gold and silver have regained their footing, the US Treasury yield-curve has inverted again, and the US Dollar index has seesawed back and forth between 84-87 (this is a measure of dollar strength against a basket of currencies).
I will get into my views on the equity, bond, currency and commodity markets over the next few weeks, but I would like to note that there is a serious disconnect between each of these markets – with the bond and commodity markets forecasting a recession in 2007 and the equity market forecasting a “soft-landing” (meaning moderate growth and low inflation) followed by a pick-up in growth. The currency markets are confused and swing back and forth on each piece of economic data.
Cash-Back Loans
Over the past weekend, I have put together some research (see below) on a problem which I think could develop into a serious scandal in the mortgage industry: “Cash-back Mortgage Loans”. They seem to have become mainstream over the past 5 years, the idea being that a homebuyer borrows more than the value of the house so that they can finance “renovations” which theoretically increase the value of the house. Until recently, this type of lax lending standards would never have been allowed by risk managers, shareholders, or regulators – but like so many other things, it’s now a free for all, especially if it helps banks meet their quarterly earnings targets.
Over the past couple of years, a new scam has grown out of these lax lending standards: it seems real estate agents, appraisers, buyers, sellers and maybe even the bankers themselves have teamed up to perpetrate fraud. You can read how they do it and why in the articles below (note these articles are from local papers in at least 5 different parts of the country). If this turns out to be even a fraction as widespread as I believe it might be, this could deal a crippling blow to our banking system (making the S&L scandal of the late 80s look like a misdemeanor).
By the way, this is just one of many potential scandals that may come out of the whole ridiculous housing bubble that gripped the U.S. over the past few years. Also coming soon: Liar’s Loans (loans where you state your income with no verification), Interest-Only Loans (where you pay no principal for the first few years – these are usually adjustable rate), Negative Amortization loans (loans where for the first few years you pay NO principal and only a portion of the interest – the remainder is added back to the principal), and the big kahuna: Adjustable-Rate Loans (where the interest rate is variable – most of these were taken out in 2003-2004 when rates were 1-3%, not closer to 6%).
Unless the housing market can make a comeback over the next two years (I place a low probability on this – but you never know), all of the people taking out the loans above are going to be wiped out. The idea was that they bought places they could not afford using traditional loans (30 year – fixed rate) but figured they could “flip” the houses in a couple of years and make a huge profit. That does not even count the millions of people who became real estate “investors”, agents, mortgage brokers, title insurance, etc…… who were all riding the Easy Al Greenspan Housing Bubble Gravy Train.
It all worked for a while – but like I found out with my AskJeeves.com stock, the music eventually stops and someone gets left holding the bag.
One last comment on the housing market – I pulled this from a Wall Street Journal Article from 1932: “During a panic your home suddenly becomes worthless because nobody wants it.”
As promised – enjoy (or at least do not get too scared):
1. From the Denver Post: “In the Denver metro area alone, more than 1,000 homes sold for at least 110 percent of the original asking price in the 18 months ending in June, according to research.”
“‘It clearly is a problem,’ said Colorado Attorney General John Suthers. ‘We have been looking at house purchases over cost and money going back to the buyers.’ Suthers’ consumer protection chief, Jan Zavislan, said the office is investigating various participants in inflated sales, including buyers, sellers, appraisers, mortgage brokers, real estate agents and title companies.”‘
“We’re looking at potentially every participant in these transactions,’ Zavislan said. ‘We’re just seeing way too many of these things. 'The problem is bigger than all the law enforcement agencies in the state put together.’”
"Sonya Leonard, who owns a real-estate firm, said her own industry is guilty of various practices that can put a false value on a house, from counting basement space in the listed square feet to undercounting how long it has been for sale."
"She told Zavislan she had complained to several state agencies and the FBI when the prospective buyers of one house wanted her to raise the price from $499,000 to $625,000 and kick back the difference to a third party."
“Critics say mortgage companies have little incentive to ferret out inflated sales because they bundle and resell their home loans to Wall Street investors, taking their profits and diluting fraud losses in large pools of mortgage-backed bonds.”
“These securities get ’sold in little pieces all over the world,’ said Lou Barnes, a Colorado mortgage bank owner. ‘It makes it very difficult to figure out who, if anyone, bears any responsibility for the flow of Colorado’s foreclosures.’”
“Marc Loewenthal, a senior VP of New Century Financial Corp., says his company’s mortgage subsidiary financed and resold loans on four of the allegedly fraudulent villa purchases. But ‘the investor has the right to demand we repurchase the loan if there is fraud involved,’ he said. ‘We’re at risk. We do have an interest in keeping fraud down.’”
“New Century grew concerned enough about fraud to install a new screening technology early this year, he said. As a result, ‘we have stopped close to $1 billion in loans.’”
2. The Columbus Dispatch from Ohio. "The peculiar but tempting offers sometimes came a year or more after homeowners planted for-sale signs in their front yards. Interested buyers suddenly appeared, proposing to pay hundreds of thousands of dollars more than the asking price for houses in some of central Ohio's elite neighborhoods."
"The catch: the sellers must agree to immediately refund the difference between the asking price and the sale price. At least 14 such deals worth more than $11 million have closed since spring, and the offers continue."
"'We turned down five of them,' said Bryan Wing, executive VP of CV Perry Builders. 'Believe me, in this day and age, we could have used it.' Others couldn't resist."
"A lawyer for the central Ohio chapter of the Building Industry Association warned group members in October to steer clear of such deals. Even sellers could be held liable if deals turn out to be fraudulent, he said, reminding builders of the danger of lawsuits or criminal racketeering charges."
"'This has been a really recent phenomenon,' said David Martin, chief executive of Stewart Title, which refused some of the deals. 'It's like a whole new industry has formed overnight.'"
3. The Review Journal from Las Vegas : “Glenn Goodman has had his Las Vegas home on the market since March and eventually lowered the price to $379,000 from $430,000. Interesting, he said, that he now has in his possession an offer for the home at $460,000. ‘The buyer wants us to give her $57,000 cash at the close of escrow. Obviously this buyer will then just walk away from the house, leaving it to be foreclosed upon,’ Goodman said. ‘It smells like fraud all over it. The Realtor’s got to be in on it.’”
4. The Tampa Tribune. "A New York lender fears it is on the hook for millions of dollars in loans that now total more than the New Port Richey properties are worth. Lehman Bros. filed suit in Tampa on Tuesday against a group of investors, title companies, a mortgage company and an appraisal company involved in potential mortgage fraud at a Pasco County condominium complex."
"Fifteen defendants used overvalued appraisals in a 'scheme to defraud'
the bank, according to the lawsuit. The 13 properties each were appraised for $733,000. The lawsuit says the triplexes are worth 'barely one-third' of that value."
"Lenders across the country are investigating mortgages that may be worth more than the market value of the properties. Part of the problem, they say, is that lenders usually don't spot problem mortgages until buyers start missing payments."
"Lenders are discovering overvalued loans now for two reasons, said Doug Pollock, a mortgage investigator in Sanford. For one thing, fraudulent loans were easily overlooked during the past five years' real estate boom. Second, industry professionals may be tempted to participate in fraudulent deals to attract business, Pollock said."
5. Again from the Tampa Tribune. "State agencies are investigating potential mortgage and title fraud involving 36 unorthodox real estate deals in the Bay area. The deals aren't an anomaly. 'The reports we're getting are incredible,' said Doug Pollock, (who) investigates problem mortgages.
'This scheme is hitting every county in Florida. It's like people are going to classes to learn how to do this.'"
"How widespread are the inflated deals? The answer, industry experts fear, is that they're everywhere, but there's no way to determine the extent. 'This is prevalent in some areas,' said Brad Monroe, president of the Greater Tampa Association of Realtors. 'It just makes you wonder how many of these deals are going on that we don't know about yet.'"
6. And More from Tampa. “A year ago, Dawn L. Molen quit her job as a commercial loan officer and set out to become a real estate agent. With three months’ experience, the agent who had never listed a home closed her first sale Jan. 27 in a working-class neighborhood.”
“Her buyer paid $45,000 more than the asking price. It stunned her peers. From then on, Molen brought in contracts by the stack.”
“Molen found buyers willing to consistently pay $50,000 to $70,000 more than the original price, according to documents obtained by The Tampa Tribune. Collectively, the homes sold for at least $2 million more than originally listed.”
“But there was something her boss said he didn’t know: Some of the money wasn’t going to the sellers. It was going to a third party with ties to Molen, sometimes without the knowledge of the lenders or the sellers.”
“Molen’s deals have several similarities to cases that have surfaced recently across the nation, some of which have resulted in investigations or prosecution for illegal activity. As the torrid real estate market has cooled nationwide, more industry professionals may take chances to make a deal, experts say. Lenders say they are bracing for a fallout in which buyers ultimately default on their mortgages.”
“Local real estate agents fear future buyers in the neighborhoods involved in the transactions may not be able to afford homes or higher taxes as a result of inflated prices.”
“More than a dozen sellers and listing agents interviewed by the Tribune said they felt uneasy about the transactions but went along after employees at the title company assured them they were legal and not unusual. ‘As long as I got my $180,000, I didn’t care what they were doing,’ said John Dieumegarde.”
“Now, other appraisers are stumbling across Molen’s deals as they search for comparable home sales to help determine the value of nearby properties. On paper, the sales appreciation is astonishing, said appraiser Doug Nail.”
“‘This is not a $250,000 neighborhood,’ Nail said, referring to one in St. Petersburg.”
“Nail evaluated one of Molen’s sales for the Tribune, without relying on recent sales represented by Molen. He estimated the house’s value at about $145,000. One of Molen’s buyers paid $250,000 for the house in September.”
“Appraiser Caryn Blauser was astonished by what she found. Molen’s sales are not isolated. She has found many local homes selling for substantially more than the original price. ‘There’s some weird stuff going on,’ Blauser said. ‘The buyers may chalk it up to creative financing, but we may soon see a lot of mortgage foreclosures because everyone wanted to make a quick buck.’”
7. Northern California - Although he beautifully renovated it and priced it below market, the Oakland bungalow just wouldn't sell. Deals fell through repeatedly for bizarre and unrelated reasons: Buyers got cold feet or moved -- one was even arrested.
By the time the fourth deal collapsed, the developer was in a state of financial panic. So, when one of the mortgage brokers who had helped a previous prospective buyer called with a new one who would close the deal for -- get this -- $100,00 over the asking price, he naturally jumped at the offer.
"The catch was that I had to give the $100K back to them after the close of escrow," the guy told me, still looking shell-shocked. "I couldn't understand why they would want to do that. The place was completely remodeled."
(Most buyers who get cash back after escrow pour that money into repairs. Typically, though, lenders like to keep this amount to no more than 3 percent of the purchase price.)
The developer went through with the sale, wondering what his buyers (whom he never met) were up to. Because he wasn't lying about anything -- everything was disclosed on the purchase contract -- he didn't feel he was doing anything wrong.
A couple weeks later, another friend who is a real estate agent called me. "I think I have a scoop for you," he told me, his voice vibrating with gumshoe grit. He'd heard that a prominent East Bay company was training its agents to inflate properties by $50,000 to $150,000, then have sellers return the cash after the close of the deal.
Unlike the arrangement with the developer, these deals were concealed from lenders by adding the cash-back arrangement onto an addendum apart from the purchase contract.
How did my friend hear about this practice? A local manager of a prominent real estate company had tipped off my friend's broker over lunch. The manager, who had been shocked at the behavior, had then gone back and looked at his own agents' files to see whether the practice ever happened in his own office. "The guy said he found so many in his own files in the past couple weeks, he didn't want to look anymore," my agent friend said.
What exactly was happening here? The developer didn't think he was doing anything illegal, and the broker had no idea the inflation was happening on his watch. But in both cases, everyone involved probably would have been considered at least partially culpable if the lenders could mount a case that they were being deceived.
8. More From Denver - Denver attorney John Head, along with several Realtors and brokers in the audience, said the state isn't doing enough to crack down on mortgage fraud. James Spray of America's Mortgage LLC said bringing cases of mortgage fraud to the attorney general's office 'is like complaining to a black hole.'"
"(Realtor) Sonja Leonard said that in one case, a Denver home was purchased for $1.3 million in December, listed for $2.25 million in April, and the price was lowered to $2.15 million in June. Then in August, it was placed under contract for $3.1 million."
9. Liars Loans and Cash-Back juxtaposition - The last example I am including is perhaps the most striking. A 24-years-old real estate “investor” from California (here is his website: http://iamfacingforeclosure.com/). He discusses how he was able to secure financing of 6 homes for over $2.2 million dollars (all cash back at close) on which he has been able to sell only one house – at a loss.
At least one loan is from Countrywide Financial (although he is no longer publishing the names of the lenders) and he use “liar loans”, or stated income loans in which he admits that he lied (with lender knowledge) about his income and intent to live in the homes – both in order to qualify for the loan.
Sunday, June 11, 2006
Are we there yet?
I wrote my first commentary back in January about the pending decline in the fx value of the US dollar due to the large and growing macro-imbalances (current account and budget in the U.S.). Leon den Exter e-mailed me a very good (and in retrospect, right on target) question in response to my e-mail:
"Is it then conceivable that the Fed rate could be further (significantly) increased this coming year, despite what the current market expectations are based on the Fed comments? To further offset the trade deficit created by the import/export imbalance."
So my second commentary was my response to his question:
"You must have a lot of faith in Hellicopter (or Weimar) Ben Bernanke. As a side note, it will be interesting to see if our boy Benny is a serious public servant or yet another Bush administration crony. I am leaning towards the former, but only time will tell. At least they didn't try and stick us with Phil Gramm (former Republican senator who was a partisan hack) as Fed Chief.
The answer to the question is maybe. It would help the correct the imbalances in the U.S. economy. The problem is that if the Fed raises rates too high, it could bust the housing bubble. That would probably be a death blow to the U.S. economy.I actually think it would a positive, I think we need some pain (real pain) across the board in order to restore financial stability. In the long run, a short-term but severe recession could help avoid what I believe could be the next Great Depression.
I would say that there is a 75%/25% chance that once the economy slows from the Fed rate hikes, they will begin to cut rates (this seems to be what the bondmarket is forecasting). This will temporarily grease the economy and put us back towards the edge of calamity."
Are we there yet?
So now we are here: at the point mentioned in the question/answer above, or at least it is perceived that we are that point. The market seems to be impressed (even scared) by the manhood of Benny Bernanke, in his new role as an inflation-hawk. He has raised the Fed Funds rates twice to 5% since he took over from Easy Al Greenspan and is threatening (or promising) to raise them at least once more. In addition, central bankers around the world have done their part by raising rates, tightening the money supply, and talking tough on inflation. Please note that the actions of the Bank of Japan will also be a key driver of future events due to the potential for the unwinding of the yen carry trade - this is a huge and important topic in itself and I wouldn't do it justice in a one or two paragraphs. If you are interested in finding out more, send me an e-mail or comment on the blog site and I will point you to some readings).
In response, equity markets have tumbled, the yield curve has inverted and credit spreads have begun to tighten. Commodity prices have corrected back to two month lows (look at gold and silver over the past three weeks). By the way, I am still extremely bullish on metals as an inflation hedge as you will see at the end of this commentary.
My current view remains exactly the same as it did in January, this guy is not an inflation-hawk and probably would not even know what it would mean to be an inflation-hawk. As the convoluted, distorted, incomplete Core CPI rate has finally started to show the inflationary pressures from years of loose monetary policy (you see, the housing boom - and the commodity rally to a lesser extent - was really just an outgrowth of inflation but the CPI calculation does not use asset prices as an input) Bernanke has talked tough, his exact words were that these increases were "unwelcome" and "not consistant with a stable monetary environment".
So Wall Street is now worried that Bernanke is going to "go too far" in his fight against inflation and tip the economy into a recession (why did they not see this six months ago as everyone knows it takes somewhere between 6 - 12 months for a Fed tightening to make its way through the economy?). I think this has already happened as you can see the macro-environment weakening across the board from a collapsing housing market to a stalling job market (not unrelated to housing) to stagnant hourly wage increases. Inflation, at least Core CPI, is a lagging indicator - so by raising rates to combat the rise Core CPI, the Fed has probably already over tightened and will have to continue to raise rates at least one more time to maintain its credibility. So we won't see the impact of these latest rate hikes until late in 2006 when the economy will probably be in or near a recession.
So why do I say that this guy is not an inflation-hawk? Well, because I don't think it takes an inflation hawk to hike rates when the economy is still seen as strong (that is part of the problem of distorting growth and price statistics - look at the fake housing numbers - you get distorted decision-making). Everyone still talks about how strong the economy is and I'm sure that most of these people believe it, and this group includes Bernanke. So it is easy for him to stand up and talk tough on inflation - he thinks this is a free opportunity to establish his anti-inflation credentials.
However, the real test of an inflation-hawk (and this is where Greenspan failed) is their willingness to raise rates and tighten policy - or at least not loosen it - when the economy is slowing or even in recession. To inflate the money supply and increase credit everytime there is a blip in the economy makes you an inflationist. All these guys have been doing over the past eight years is postponing the inevitable and necessary economic corrections by printing money and pumping up asset prices (first equities, then bonds and real estate, and finally commodities).
However, while a severe recession would bring cleanse the system of waste and maladjustment, it would require a degree of pain and forbearance, a virtue in short supply in today's markets and society in general. Ben Bernanke, in particular, does not have the stomach or belief system for us to "take our medicine" and will lower rates and print money like there is no tomorrow when the economy turns the corner and heads down in a meaningful way.
Not sure if this will be in late 2006 or early 2007, but it will happen. This is what the bond market is telling us that much with its inverted yield curve. Market participants expect rates in the future to be lower than at the current time.
When Ben starts to loosen monetary policy and lower rates then the real fireworks will start. The dollar will fall (slowly at first), gold/silver will skyrocket and the stock market/housing prices will stabilize or even move to the upside. It will also put us firmly back on track for the 2008-2010 economic collapse which will finally wipe out the imbalances, distortions and malignancies in our economy and perhaps in society as a whole. This will be the topic of next week's commentary - the mass delusion of American consumers and whether an actual economic depression would actually be a good thing (in the long-run).
Sunday, June 04, 2006
Weimar Ben (Bernanke) and his helicopters full of money
Despite the subject header for this week's commentary, I am not actually going to discuss the current chief of the Fed or the predicament that he finds himself in. I will only say this, he has stated that he would fight deflation with unusual methods (think dropping money from helicopters among others). Well, there is a consequence to this type of irresponsible policy-making. History has proven this over and over again.
A great example is the post World War I episode of hyperinflation in Germany. If only Weimar Germany had an Office of OMB which came up with an official calculation for Core Inflation that showed the cost of living to be increasing by 2% - they could have contained inflationary expectations and avoided the Hyperinflation that is discussed below. Just think, the cataclysmic rise of the Nazi Party and World War II could have been avoided by the Substitution Effect, Owner's Equivalent Rent and Hedonic Price Modeling.
Ok, I am being sarcastic - but based on the level of credibility given to phony CPI, PPI, and GDP-calculations (among other widespread inflation indices) by the mainstream media and financial community, it seems to me that the official numbers are all that anyone looks at. If you talked to the average American and asked them if their living expenses have only been going up by 2% per year over the past 3 years - I am pretty sure most people would laugh at you.
btw/ I did not come up with this absurdly disrespectful nickname for Ben Bernanke. I have to give credit where credit is due - Jim Willie CB, who is the editor of the “HAT TRICK LETTER” (http://news.silverseek.com/SilverSeek/1149079490.php)
Enjoy:
The 1923 Hyperinflation of the Weimar Republic (Germany) (Excerpt from Paper Money by "Adam Smith," (George J.W. Goodman), pp. 57-62.)
Before World War I Germany was a prosperous country, with a gold-backed currency, expanding industry, and world leadership in optics, chemicals, and machinery. The German Mark, the British shilling, the French franc, and the Italian lira all had about equal value, and all were exchanged four or five to the dollar. That was in 1914. In 1923, at the most fevered moment of the German hyperinflation, the exchange rate between the dollar and the Mark was one trillion Marks to one dollar, and a heelbarrow full of money would not even buy a newspaper. Most Germans were taken by surprise by the financial tornado.
"My father was a lawyer," says Walter Levy, an internationally known German-born oil consultant in New York, "and he had taken out an insurance policy in 1903, and every month he had made the payments faithfully. It was a 20-year policy, and when it came due, he cashed it in and bought a single loaf of bread." The Berlin publisher Leopold Ullstein wrote that an American visitor tipped their cook one dollar. The family convened, and it was decided that a trust fund should be set up in a Berlin bank with the cook as beneficiary, the bank to administer and invest the dollar.
In retrospect, you can trace the steps to hyperinflation, but some of the reasons remain cloudy. Germany abandoned the gold backing of its currency in 1914. The war was expected to be short, so it was financed by government borrowing, not by savings and taxation. In Germany prices doubled between 1914 and 1919.
After four disastrous years Germany had lost the war. Under the Treaty of Versailles it was forced to make a reparations payment in gold-backed Marks, and it was due to lose part of the production of the Ruhr and of the province of Upper Silesia. The Weimar Republic was politically fragile.
But the bourgeois habits were very strong. Ordinary citizens worked at their jobs, sent their children to school and worried about their grades, maneuvered for promotions and rejoiced when they got them, and generally expected things to get better. But the prices that had doubled from 1914 to 1919 doubled again during just five months in 1922. Milk went from 7 Marks per liter to 16; beer from 5.6 to 18. There were complaints about the high cost of living. Professors and civil servants complained of gettingsqueezed. Factory workers pressed for wage increases. An underground economy developed, aided by a desire to beat the tax collector.
On June 24, 1922, right-wing fanatics assassinated Walter Rathenau, the moderate, able foreign minister. Rathenau was a charismatic figure, and the idea that a popular, wealthy, and glamorous government minister could be shot in a law-abiding society shattered the faith of the Germans, who wanted to believe that things were going to be all right. Rathenau's state funeral was a national trauma. The nervous citizens of the Ruhr were already getting their money out of the currency and into real goods -- diamonds, works of art, safe real estate. Now ordinary Germans began to get out of Marks and into real goods.
Pianos, wrote the British historian Adam Fergusson, were bought even by unmusical families. Sellers held back because the Mark was worth less every day. As prices went up, the amounts of currency demanded were greater, and the German Central Bank responded to the demands. Yet the ruling authorities did not see anything wrong. A leading financial newspaper said that the amounts of money in circulation were not excessively high. Dr. Rudolf Havenstein, the president of the Reichsbank (equivalent to the Federal Reserve) told an economics professor that he needed a new suit but wasn't going to buy one until prices came down.
Why did the German government not act to halt the inflation? It was a shaky, fragile government, especially after the assassination. The vengeful French sent their army into the Ruhr to enforce their demands for reparations, and the Germans were powerless to resist. More than inflation, the Germans feared unemployment. In 1919 Communists had tried to take over, and severe unemployment might give the Communists another chance. The great German industrial combines -- Krupp, Thyssen, Farben, Stinnes -- condoned the inflation and survived it well. A cheaper Mark, they reasoned, would make German goods cheap and easy to export, and they needed the export earnings to buy raw materials abroad. Inflation kept everyone working.
So the printing presses ran, and once they began to run, they were hard to stop. The price increases began to be dizzying. Menus in cafes could not be revised quickly enough. A student at Freiburg University ordered a cup of coffee at a cafe. The price on the menu was 5,000 Marks. He had two cups. When the bill came, it was for 14,000 Marks. "If you want to save money," he was told, "and you want two cups of coffee, you should order them both at the same time."
The presses of the Reichsbank could not keep up though they ran through the night. Individual cities and states began to issue their own money. Dr. Havenstein, the president of the Reichsbank, did not get his new suit. A factory worker described payday, which was every day at 11:00 a.m.: "At 11:00 in the morning a siren sounded, and everybody gathered in the factory forecourt, where a five-ton lorry was drawn up loaded brimful with paper money. The chief cashier and his assistants climbed up on top. They read out names and just threw out bundles of notes. As soon as you had caught one you made a dash for the nearest shop and bought just anything that was going."
Teachers, paid at 10:00 a.m., brought their money to the playground, where relatives took the bundles and hurried off with them. Banks closed at 11:00 a.m.; the harried clerks went on strike.
The flight from currency that had begun with the buying of diamonds, gold, country houses, and antiques now extended to minor and almost useless items -- bric-a-brac, soap, hairpins. The law-abiding country crumbled into petty thievery. Copper pipes and brass armatures weren't safe. Gasoline was siphoned from cars. People bought things they didn't need and used them to barter -- a pair of shoes for a shirt, some crockery for coffee. Berlin had a "witches' Sabbath" atmosphere. Prostitutes of both sexes roamed the streets. Cocaine was the fashionable drug. In the cabarets the newly rich and their foreign friends could dance and spend money. Other reports notedthat not all the young people had a bad time. Their parents had taught them to work and save, and that was clearly wrong, so they could spend money, enjoy themselves, and flout the old.
The publisher Leopold Ullstein wrote: "People just didn't understand what was happening. All the economic theory they had been taught didn't provide for the phenomenon. There was a feeling of utter dependence on anonymous powers -- almost as a primitive people believed in magic -- that somebody must be in the know, and that this small group of 'somebodies' must be a conspiracy."
When the 1,000-billion Mark note came out, few bothered to collect the change when they spent it. By November 1923, with one dollar equal to one trillion Marks, the breakdown was complete. The currency had lost meaning.
What happened immediately afterward is as fascinating as the Great Inflation itself. The tornado of the Mark inflation was succeeded by the "miracle of the Rentenmark." A new president took over the Reichsbank, Horace Greeley Hjalmar Schacht, who came by his first two names because of his father's admiration for an editor of the New York Tribune. The Rentenmark was not Schacht's idea, but he executed it, and as the Reichsbank president, he got the credit for it. For decades afterward he was able to maintain a reputation for financial wizardry. He became the architect of the financial prosperity brought by the Nazi party.
Obviously, though the currency was worthless, Germany was still a rich country -- with mines, farms, factories, forests. The backing for the Rentenmark was mortgages on the land and bonds on the factories, but that backing was a fiction; the factories and land couldn't be turned into cash or used abroad. Nine zeros were struck from the currency; that is, one Rentenmark was equal to one billion old Marks. The Germans wanted desperately to believe in the Rentenmark, and so they did. "I remember,"said one Frau Barten of East Prussia, "the feeling of having just one Rentenmark to spend. I bought a small tin bread bin. Just to buy something that had a price tag for one Mark was so exciting."
All money is a matter of belief. Credit derives from Latin, credere, "to believe." Belief was there, the factories functioned, the farmers delivered their produce. The Central Bank kept the belief alive when it would not let even the government borrow further.
But although the country functioned again, the savings were never restored, nor were the values of hard work and decency that had accompanied the savings. There was a different temper in the country, a temper that Hitler would later exploit with diabolical talent. Thomas Mann wrote: "The market woman who without batting an eyelash demanded 100 million for an egg lost the capacity for surprise. And nothing that has happened since has been insane or cruel enough to surprise her."
With the currency went many of the lifetime plans of average citizens. It was the custom for the bride to bring some money to a marriage; many marriages were called off. Widows dependent on insurance found themselves destitute. People who had worked a lifetime found that their pensions would not buy one cup of coffee.
Pearl Buck, the American writer who became famous for her novels of China, was in Germany in 1923. She wrote later: "The cities were still there, the houses not yet bombed and in ruins, but the victims were millions of people. They had lost their fortunes, their savings; they were dazed and inflation-shocked and did not understand how it had happened to them and who the foe was who had defeated them. Yet they had lost their self-assurance, their feeling that they themselves could be the masters of their own lives if only they worked hard enough; and lost, too, were the old values of morals, of ethics, of decency."
The fledgling Nazi party, whose attempted coup had failed in 1923, won 32 seats legally in the next election. The right-wing Nationalist party won 106 seats, having promised 100 percent compensation to the victims of inflation and vengeance on the conspirators who had brought it.
A great example is the post World War I episode of hyperinflation in Germany. If only Weimar Germany had an Office of OMB which came up with an official calculation for Core Inflation that showed the cost of living to be increasing by 2% - they could have contained inflationary expectations and avoided the Hyperinflation that is discussed below. Just think, the cataclysmic rise of the Nazi Party and World War II could have been avoided by the Substitution Effect, Owner's Equivalent Rent and Hedonic Price Modeling.
Ok, I am being sarcastic - but based on the level of credibility given to phony CPI, PPI, and GDP-calculations (among other widespread inflation indices) by the mainstream media and financial community, it seems to me that the official numbers are all that anyone looks at. If you talked to the average American and asked them if their living expenses have only been going up by 2% per year over the past 3 years - I am pretty sure most people would laugh at you.
btw/ I did not come up with this absurdly disrespectful nickname for Ben Bernanke. I have to give credit where credit is due - Jim Willie CB, who is the editor of the “HAT TRICK LETTER” (http://news.silverseek.com/SilverSeek/1149079490.php)
Enjoy:
The 1923 Hyperinflation of the Weimar Republic (Germany) (Excerpt from Paper Money by "Adam Smith," (George J.W. Goodman), pp. 57-62.)
Before World War I Germany was a prosperous country, with a gold-backed currency, expanding industry, and world leadership in optics, chemicals, and machinery. The German Mark, the British shilling, the French franc, and the Italian lira all had about equal value, and all were exchanged four or five to the dollar. That was in 1914. In 1923, at the most fevered moment of the German hyperinflation, the exchange rate between the dollar and the Mark was one trillion Marks to one dollar, and a heelbarrow full of money would not even buy a newspaper. Most Germans were taken by surprise by the financial tornado.
"My father was a lawyer," says Walter Levy, an internationally known German-born oil consultant in New York, "and he had taken out an insurance policy in 1903, and every month he had made the payments faithfully. It was a 20-year policy, and when it came due, he cashed it in and bought a single loaf of bread." The Berlin publisher Leopold Ullstein wrote that an American visitor tipped their cook one dollar. The family convened, and it was decided that a trust fund should be set up in a Berlin bank with the cook as beneficiary, the bank to administer and invest the dollar.
In retrospect, you can trace the steps to hyperinflation, but some of the reasons remain cloudy. Germany abandoned the gold backing of its currency in 1914. The war was expected to be short, so it was financed by government borrowing, not by savings and taxation. In Germany prices doubled between 1914 and 1919.
After four disastrous years Germany had lost the war. Under the Treaty of Versailles it was forced to make a reparations payment in gold-backed Marks, and it was due to lose part of the production of the Ruhr and of the province of Upper Silesia. The Weimar Republic was politically fragile.
But the bourgeois habits were very strong. Ordinary citizens worked at their jobs, sent their children to school and worried about their grades, maneuvered for promotions and rejoiced when they got them, and generally expected things to get better. But the prices that had doubled from 1914 to 1919 doubled again during just five months in 1922. Milk went from 7 Marks per liter to 16; beer from 5.6 to 18. There were complaints about the high cost of living. Professors and civil servants complained of gettingsqueezed. Factory workers pressed for wage increases. An underground economy developed, aided by a desire to beat the tax collector.
On June 24, 1922, right-wing fanatics assassinated Walter Rathenau, the moderate, able foreign minister. Rathenau was a charismatic figure, and the idea that a popular, wealthy, and glamorous government minister could be shot in a law-abiding society shattered the faith of the Germans, who wanted to believe that things were going to be all right. Rathenau's state funeral was a national trauma. The nervous citizens of the Ruhr were already getting their money out of the currency and into real goods -- diamonds, works of art, safe real estate. Now ordinary Germans began to get out of Marks and into real goods.
Pianos, wrote the British historian Adam Fergusson, were bought even by unmusical families. Sellers held back because the Mark was worth less every day. As prices went up, the amounts of currency demanded were greater, and the German Central Bank responded to the demands. Yet the ruling authorities did not see anything wrong. A leading financial newspaper said that the amounts of money in circulation were not excessively high. Dr. Rudolf Havenstein, the president of the Reichsbank (equivalent to the Federal Reserve) told an economics professor that he needed a new suit but wasn't going to buy one until prices came down.
Why did the German government not act to halt the inflation? It was a shaky, fragile government, especially after the assassination. The vengeful French sent their army into the Ruhr to enforce their demands for reparations, and the Germans were powerless to resist. More than inflation, the Germans feared unemployment. In 1919 Communists had tried to take over, and severe unemployment might give the Communists another chance. The great German industrial combines -- Krupp, Thyssen, Farben, Stinnes -- condoned the inflation and survived it well. A cheaper Mark, they reasoned, would make German goods cheap and easy to export, and they needed the export earnings to buy raw materials abroad. Inflation kept everyone working.
So the printing presses ran, and once they began to run, they were hard to stop. The price increases began to be dizzying. Menus in cafes could not be revised quickly enough. A student at Freiburg University ordered a cup of coffee at a cafe. The price on the menu was 5,000 Marks. He had two cups. When the bill came, it was for 14,000 Marks. "If you want to save money," he was told, "and you want two cups of coffee, you should order them both at the same time."
The presses of the Reichsbank could not keep up though they ran through the night. Individual cities and states began to issue their own money. Dr. Havenstein, the president of the Reichsbank, did not get his new suit. A factory worker described payday, which was every day at 11:00 a.m.: "At 11:00 in the morning a siren sounded, and everybody gathered in the factory forecourt, where a five-ton lorry was drawn up loaded brimful with paper money. The chief cashier and his assistants climbed up on top. They read out names and just threw out bundles of notes. As soon as you had caught one you made a dash for the nearest shop and bought just anything that was going."
Teachers, paid at 10:00 a.m., brought their money to the playground, where relatives took the bundles and hurried off with them. Banks closed at 11:00 a.m.; the harried clerks went on strike.
The flight from currency that had begun with the buying of diamonds, gold, country houses, and antiques now extended to minor and almost useless items -- bric-a-brac, soap, hairpins. The law-abiding country crumbled into petty thievery. Copper pipes and brass armatures weren't safe. Gasoline was siphoned from cars. People bought things they didn't need and used them to barter -- a pair of shoes for a shirt, some crockery for coffee. Berlin had a "witches' Sabbath" atmosphere. Prostitutes of both sexes roamed the streets. Cocaine was the fashionable drug. In the cabarets the newly rich and their foreign friends could dance and spend money. Other reports notedthat not all the young people had a bad time. Their parents had taught them to work and save, and that was clearly wrong, so they could spend money, enjoy themselves, and flout the old.
The publisher Leopold Ullstein wrote: "People just didn't understand what was happening. All the economic theory they had been taught didn't provide for the phenomenon. There was a feeling of utter dependence on anonymous powers -- almost as a primitive people believed in magic -- that somebody must be in the know, and that this small group of 'somebodies' must be a conspiracy."
When the 1,000-billion Mark note came out, few bothered to collect the change when they spent it. By November 1923, with one dollar equal to one trillion Marks, the breakdown was complete. The currency had lost meaning.
What happened immediately afterward is as fascinating as the Great Inflation itself. The tornado of the Mark inflation was succeeded by the "miracle of the Rentenmark." A new president took over the Reichsbank, Horace Greeley Hjalmar Schacht, who came by his first two names because of his father's admiration for an editor of the New York Tribune. The Rentenmark was not Schacht's idea, but he executed it, and as the Reichsbank president, he got the credit for it. For decades afterward he was able to maintain a reputation for financial wizardry. He became the architect of the financial prosperity brought by the Nazi party.
Obviously, though the currency was worthless, Germany was still a rich country -- with mines, farms, factories, forests. The backing for the Rentenmark was mortgages on the land and bonds on the factories, but that backing was a fiction; the factories and land couldn't be turned into cash or used abroad. Nine zeros were struck from the currency; that is, one Rentenmark was equal to one billion old Marks. The Germans wanted desperately to believe in the Rentenmark, and so they did. "I remember,"said one Frau Barten of East Prussia, "the feeling of having just one Rentenmark to spend. I bought a small tin bread bin. Just to buy something that had a price tag for one Mark was so exciting."
All money is a matter of belief. Credit derives from Latin, credere, "to believe." Belief was there, the factories functioned, the farmers delivered their produce. The Central Bank kept the belief alive when it would not let even the government borrow further.
But although the country functioned again, the savings were never restored, nor were the values of hard work and decency that had accompanied the savings. There was a different temper in the country, a temper that Hitler would later exploit with diabolical talent. Thomas Mann wrote: "The market woman who without batting an eyelash demanded 100 million for an egg lost the capacity for surprise. And nothing that has happened since has been insane or cruel enough to surprise her."
With the currency went many of the lifetime plans of average citizens. It was the custom for the bride to bring some money to a marriage; many marriages were called off. Widows dependent on insurance found themselves destitute. People who had worked a lifetime found that their pensions would not buy one cup of coffee.
Pearl Buck, the American writer who became famous for her novels of China, was in Germany in 1923. She wrote later: "The cities were still there, the houses not yet bombed and in ruins, but the victims were millions of people. They had lost their fortunes, their savings; they were dazed and inflation-shocked and did not understand how it had happened to them and who the foe was who had defeated them. Yet they had lost their self-assurance, their feeling that they themselves could be the masters of their own lives if only they worked hard enough; and lost, too, were the old values of morals, of ethics, of decency."
The fledgling Nazi party, whose attempted coup had failed in 1923, won 32 seats legally in the next election. The right-wing Nationalist party won 106 seats, having promised 100 percent compensation to the victims of inflation and vengeance on the conspirators who had brought it.
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