There is much talk in the last week that we have reached the bottom and there is only one direction to look--up. We may have reached the bottom of this recession without it becoming an enduring depression. NBER (the semi-official U.S. judge of recessions) scholars are now saying that the country moved back out of recession in the first quarter of this year. However, there are still more cards to be laid on the table and it is not clear how quickly the "green shoots" of recovery that I read much of in the last 48 hours will turn into the green grass of a healthy economy.
Remember that the commercial real estate bubble still has not fully burst and there may simply not be enough money to pay for stimulus for the real economy, TARP, commercial mortgage (shopping center and office building) failures, credit card losses (remember, it was just a Senate vote, not a Presidential signature), etc., etc.
If the US government does not take a very conservative approach to judging when the country will actually come out of recession and take on a healthy rate of growth, it could perpetuate the recession. Alan Blinder, former Vice President of the US Federal Reserve Bank and Princeton professor, wrote a New York Times piece recalling how President Franklin Roosevelt helped to create a recession within the depression in 1936 by tightening the budget and pulling back on his stimulus package. This is the same type of budget reduction talk that is current in Congress as it assumes that the recovery will be self-sustaining and puts its attention to reducing the national debt. Blinder believes that the US Government will be able to withstand the pressure for budget reductions until the recovery is, in fact, really underway. However, skepticism at this moment would be a healthy reaction.
There is also a current, led by Nouriel Roubini, Dr. Doom, in his RGE Monitor, that holds that while we may be really at the bottom of the decline, the question is how long will we remain there. Will we initiate real recovery rapidly or will we languish at this current level without declining further? I think there is a paucity of data to show one trend or the other--recovery in 2009/2010 or in 2010/2011.
Why am I in Brazil concerned with all this? As I've said in other contexts, there are two reasons that what happens in the States has a serious effect on all of us around the world. First, the United States is still the bellweather of the world economy. What happens there affects us all. And, second, it affects us because the US is still the second largest trade partner for Brazil and all Latin countries. If demand is slow there, then exports in Brazil and elsewhere in the world will also be slow. Interestingly, one of the side effects of the current recession is that China has now become Brazil's largest trade partner ahead of the US. If the United States recovers quickly enough, that fact could be short-lived.
The Brazilian government and public opinion now believe we are recovering from the recession. I will not waste space on the comments of our government officials here. However, I will point out that the relief at having reached a recovery (if that is the case) is leading banks and institutions to forget one of the major lessons of this recession--the dangers of leverage. Last Friday, Itaú-Unibanco announced that it would restart an auto loan program that provided financing of cars over 72 months and would not involve credit scoring to determine if the borrower was capable of repayment. This is distressingly similar to the scenario that led so many American families to lose their houses and cause the economy to tank. Now, in Brazil, sub-prime car loans. Distressing.
Wednesday, May 20, 2009
Tuesday, May 12, 2009
Joseph Stiglitz Gets It!
Since my post yesterday, I have read a number of articles that have given me hope that the business press is beginning to get it about the seriousness of our current situation and others that make me despair that we remain in a state of delusion about our economic future. Oddly, all these come from Brazil's Exame magazine and web portal in the last week.
Yesterday, I read an article from May 7 that states that the Bovespa at 51,000 points still has room to move up. None of the quoted sources seem to indicate that this is at all based on the same market unreality that led the same index to fall below 30,000 just last October. Two days earlier, it was extolling the virtues of index funds ("the American way of investing"). The appearance of new sounding financial techniques is one of the hallmarks of the type of irrational investing that Galbraith so thoroughly trashes. It provides a new cover, but the content – leverage – remains the same.
The hope comes from an entry I read this morning of the results of a conference of 3 Nobel winners that Exame held yesterday. The stunning remarks were those of Joseph Stiglitz. He gets it.
He basically held that the last boom was fueled and based on the acquisition of more and more debt. He praises Kenneth Rogoff, Jeffrey Sachs and Paul Krugman for predicting the collapse of the real estate bubble because of its basis in high consumer indebtedness.
He also perceives that the government is wasting its opportunities to rescue the economy by instead rescuing banks and that these opportunities are now in danger of disappearing as the US Government will at some point have to begin to cut its debt.
The real danger for the future, the danger that we could end up in a mild version of Depression of the 1930's is that demand worldwide is falling and is now making up part of the same vicious cycle that prolonged the Great Depression: weak economy leads to unemployment leads to payment default which then further weakens the economy.
He also points out that countries, such as Brazil, that have managed and regulated their economies well in the recent past will also suffer because the decline in exports due to weak demand in the US and Europe will weaken the economy overall. This is Lula's marola.
In proposing solutions, Stiglitz focuses on control of the banking sector and regulation of the markets as well as the currently popular solution of a world currency (the Special Drawing Rights of the IMF).
Parenthetically, the conference also featured presentations by Edward Prescott, who focused on the prospects of Brazil as a beneficiary of the crisis and Robert Mundell, who repeated the usual conservative, Republican mantra that the solution for the US will come from lower corporate taxes.
It is important that mainstream economists with Nobels are now speaking of the solutions we really need and are addressing the problems we face realistically. This crisis is a product of an exuberance based on speculation and leverage. We will continue to repeat these cycles until those who speak directly to that issue are not considered crackpots and unbelievers (in the orthodoxy of free market economics). Stiglitz' remarks help considerably.
Yesterday, I read an article from May 7 that states that the Bovespa at 51,000 points still has room to move up. None of the quoted sources seem to indicate that this is at all based on the same market unreality that led the same index to fall below 30,000 just last October. Two days earlier, it was extolling the virtues of index funds ("the American way of investing"). The appearance of new sounding financial techniques is one of the hallmarks of the type of irrational investing that Galbraith so thoroughly trashes. It provides a new cover, but the content – leverage – remains the same.
The hope comes from an entry I read this morning of the results of a conference of 3 Nobel winners that Exame held yesterday. The stunning remarks were those of Joseph Stiglitz. He gets it.
He basically held that the last boom was fueled and based on the acquisition of more and more debt. He praises Kenneth Rogoff, Jeffrey Sachs and Paul Krugman for predicting the collapse of the real estate bubble because of its basis in high consumer indebtedness.
He also perceives that the government is wasting its opportunities to rescue the economy by instead rescuing banks and that these opportunities are now in danger of disappearing as the US Government will at some point have to begin to cut its debt.
The real danger for the future, the danger that we could end up in a mild version of Depression of the 1930's is that demand worldwide is falling and is now making up part of the same vicious cycle that prolonged the Great Depression: weak economy leads to unemployment leads to payment default which then further weakens the economy.
He also points out that countries, such as Brazil, that have managed and regulated their economies well in the recent past will also suffer because the decline in exports due to weak demand in the US and Europe will weaken the economy overall. This is Lula's marola.
In proposing solutions, Stiglitz focuses on control of the banking sector and regulation of the markets as well as the currently popular solution of a world currency (the Special Drawing Rights of the IMF).
Parenthetically, the conference also featured presentations by Edward Prescott, who focused on the prospects of Brazil as a beneficiary of the crisis and Robert Mundell, who repeated the usual conservative, Republican mantra that the solution for the US will come from lower corporate taxes.
It is important that mainstream economists with Nobels are now speaking of the solutions we really need and are addressing the problems we face realistically. This crisis is a product of an exuberance based on speculation and leverage. We will continue to repeat these cycles until those who speak directly to that issue are not considered crackpots and unbelievers (in the orthodoxy of free market economics). Stiglitz' remarks help considerably.
Monday, May 11, 2009
The Fat Lady Hasn't Sung Yet
Yesterday, I flew from Angola to Brazil and had the plane ride to re-read a favorite economic book, John Kenneth Galbraith's A Short History of Financial Exuberance. For those who haven't read this short, mordant resume of financial mania and boom and bust cycles from Tulipomania in the 17th Century to the crash of 1987, read it. The book has only 110 pages, but it drives home its lesson quickly and sharply.
While in Angola, I was unable to keep up to the minute with financial data and news--partly my preoccupation with the course I was giving there and partly due to the as yet fully developed Internet infrastructure of the country. When I arrived home and began to catch up on the week's news, I was surprised at how similar were the descriptions of the qualities of the business cycles and the euphoria that Galbraith described and the current state of the markets and of economic commentary.
The entire world suffered a major financial shock in the third quarter of 2008 as stock markets lost an average of 40% of their value. Unemployment throughout the developed world has risen dangerously. The credit needed to keep industry and commerce ticking over has largely been absent from the market since last year. Defaults, bankruptcies, weakening demand have all characterized the economy in the six months.
Yet, as of the close of the market on Friday, the DJIA stood at 8,574.65, an increase of 30 percent over its low of March 9th. Likewise, the IBOVESPA index in Brazil had reached 51,396, an increase of 75% over its October 2008 low. As well, yesterday’s O Estado de São Paulo contained an editorial that asserts that the evidence is there that we have reached the bottom of the well and can now plan on recovery as early as next year. (“Fundo do Poço, o Bom Sinal”)
Are these values justified by underlying economic conditions? I don’t think so. We still have some episodes of the expansion of credit in which the losses have so far only been contained, but not yet recognized. I have already featured in this blog the risks to commercial mortgages and many commentators are periodically featuring the dangers in American credit card balances and rates of default. (See Robert Reich’s Blog – that’s its rather simple and direct title for more from one who remains skeptical.)
During the months in which the market was falling precipitously, market reforms were promised. New legislation was promised to control leverage and other sins of the Recovery plans were unveiled to both bails out the banks whose exuberance and folly led us into the crisis. In general, beyond a limited bank-refunding program (TARP and its European equivalents), there has been little stimulus money reaching the economy. There has been substantial use of the bully pulpit to promote the idea that the economy would begin its recovery soon. Confidence-building is a component on any sensible Keynesian style recovery program. Secretary Geithner and the rest of the Obama economic team regularly appear on Capital Hill to make positive “see the light at the end of the tunnel” remarks. In Brazil, Central Bank President Meirelles regularly does the same.
However, there has not been any attack against the underlying speculative urges that fueled the bubble that burst so spectacularly.
In the same issue of Estado, Pedro Malan, the conservative Finance Minister for ex-President Fernando Henrique Cardoso, wrote in an op-ed column that spoke of the complacency that government officials and market participants showed as the first signs of the effects of the American residential mortgage crisis began to stress both the markets and investors’ enthusiasm for more leverage. He is the first to adopt a tone that Galbraith would have respected – attacking the speculation itself and not some external factor.
In reality, the markets have little reason to go up other than the artificial optimism that politicians and “expert” investors are spreading. If we focus on the economic conditions we face, more restraint would be a better strategy. The boomlet we are enjoying ignores (and takes advantage of) the lack of regulation following the Fall crash. I believe the same types of pressures are feeding it as fed the original bubble. Speculators are trying to establish a price level that will enable them to close out their original positions at a profit. Other investors, industries and employees will have to live with the result once the market resumes its decline until some actual solutions are applied to the causes of the crash. We will be able to restore normal growth to the markets and to the economy only when our governments really attack the problems. They have not done so yet.
While in Angola, I was unable to keep up to the minute with financial data and news--partly my preoccupation with the course I was giving there and partly due to the as yet fully developed Internet infrastructure of the country. When I arrived home and began to catch up on the week's news, I was surprised at how similar were the descriptions of the qualities of the business cycles and the euphoria that Galbraith described and the current state of the markets and of economic commentary.
The entire world suffered a major financial shock in the third quarter of 2008 as stock markets lost an average of 40% of their value. Unemployment throughout the developed world has risen dangerously. The credit needed to keep industry and commerce ticking over has largely been absent from the market since last year. Defaults, bankruptcies, weakening demand have all characterized the economy in the six months.
Yet, as of the close of the market on Friday, the DJIA stood at 8,574.65, an increase of 30 percent over its low of March 9th. Likewise, the IBOVESPA index in Brazil had reached 51,396, an increase of 75% over its October 2008 low. As well, yesterday’s O Estado de São Paulo contained an editorial that asserts that the evidence is there that we have reached the bottom of the well and can now plan on recovery as early as next year. (“Fundo do Poço, o Bom Sinal”)
Are these values justified by underlying economic conditions? I don’t think so. We still have some episodes of the expansion of credit in which the losses have so far only been contained, but not yet recognized. I have already featured in this blog the risks to commercial mortgages and many commentators are periodically featuring the dangers in American credit card balances and rates of default. (See Robert Reich’s Blog – that’s its rather simple and direct title for more from one who remains skeptical.)
During the months in which the market was falling precipitously, market reforms were promised. New legislation was promised to control leverage and other sins of the Recovery plans were unveiled to both bails out the banks whose exuberance and folly led us into the crisis. In general, beyond a limited bank-refunding program (TARP and its European equivalents), there has been little stimulus money reaching the economy. There has been substantial use of the bully pulpit to promote the idea that the economy would begin its recovery soon. Confidence-building is a component on any sensible Keynesian style recovery program. Secretary Geithner and the rest of the Obama economic team regularly appear on Capital Hill to make positive “see the light at the end of the tunnel” remarks. In Brazil, Central Bank President Meirelles regularly does the same.
However, there has not been any attack against the underlying speculative urges that fueled the bubble that burst so spectacularly.
In the same issue of Estado, Pedro Malan, the conservative Finance Minister for ex-President Fernando Henrique Cardoso, wrote in an op-ed column that spoke of the complacency that government officials and market participants showed as the first signs of the effects of the American residential mortgage crisis began to stress both the markets and investors’ enthusiasm for more leverage. He is the first to adopt a tone that Galbraith would have respected – attacking the speculation itself and not some external factor.
In reality, the markets have little reason to go up other than the artificial optimism that politicians and “expert” investors are spreading. If we focus on the economic conditions we face, more restraint would be a better strategy. The boomlet we are enjoying ignores (and takes advantage of) the lack of regulation following the Fall crash. I believe the same types of pressures are feeding it as fed the original bubble. Speculators are trying to establish a price level that will enable them to close out their original positions at a profit. Other investors, industries and employees will have to live with the result once the market resumes its decline until some actual solutions are applied to the causes of the crash. We will be able to restore normal growth to the markets and to the economy only when our governments really attack the problems. They have not done so yet.
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