21 April 2009

US Treasury as Loan Shark

The financial news almost seems to come straight from bad fiction lately. Who else but an author of pulp fiction could have imagined the US treasury playing the role of a loan shark (although I am sure that anyone who has been on the wrong side of the IRS won't find this too much of a stretch)?

In statements that almost seem impossible to believe, the treasury secretary is now making it clear that banks which received special government bail-outs are NOT even allowed to repay the loans. Not only were many banks forced to accept government funding in 2008, with officials using all manner of threats to cajole reluctant financial institutions to take public money, but now the government refuses to let any of these firms repay the money. It would seem that policy makers see value in forcing companies to remain indebted to them. After all, these loans have given the government unprecedented power to make demands. No bank who's hands are tainted with public bail-outs can ignore ultimatums on executive compensation, or even lending practices.

Anyone considering accepting government funds in the future would do well to remember this. Once you let the government into your business, they will own you. Talk about a deal you can't refuse!

Treasury Secretary Timothy Geithner indicated that the health of individual
banks won't be the sole criterion for whether financial firms will be allowed to
repay bailout funds, a position that might complicate their efforts to give back
the cash.

In an interview, Mr. Geithner laid out some broad
principles, including the need to consider the overall health of the financial
system and the flow of credit in judging whether banks can repay their
government investment.

13 April 2009

The Depression You've Never Heard Of -- 1920

The global economy suffered a major contraction in 1920. In a single year US production fell by 21%, US GDP declined 24% and unemployment shot from 4% to 12%. Nevertheless, the economy had begun a significant recovery in 1921, and a long term depression never occurred.

As Tom Wood outlines in this tremendous presentation, the key factor that aided the swift economic rebound was the decision by policy makers to stand aside, and let the economy work out mal-investments by itself. In fact, the President (Warren Harding) embarked on a policy of cutting government spending and advocating deflation. What a complete contrast to the stimulative efforts employed in the 1930s and in 2008 and 2009.

Eerily, it turns out that Japan's response to the 1920 crash was massive stimulus which led to a "lost" decade, and even greater economic ruin in the late 1920s.

I can only shake my head in disbelief to hear the leaders of 2009 argue that the only problem with Japan's failed stimulative efforts of the 1990s was a lack of aggressiveness.

03 April 2009

Newer Home Loans Defaulting Faster Than Ever

We are now starting to see evidence that defaults are rising substantially on even the newest vintage of loans. I've long suspected that the worst performing home loans are going to be the most recent ones, as the depression picks up steam. Not only are job losses increasing in the broader economy, but the recently purchased homes are winding up under-water almost immediately (i.e. being worth less than the price of the mortgage) when prices are dropping 3% to 5% in a single month. It is the amount of equity which is the biggest predictor of default, and the newest purchases typically have the least equity.

Troubled borrowers continue to default at high rates even on home loans
that have been modified by lenders, according to a government report issued
today. The report also found that an increasing number of borrowers default on
their loans before making a single payment.

Of the borrowers who had loans modified early last year, for example, about
35 percent had missed at least three payments nine months after their loan was
modified. About 57 percent had missed at least one payment.

The report also found that an increasing number of homeowners, about 1.44
percent during the fourth quarter of 2008, are falling
behind before making a single payment on their mortgages.


01 April 2009

lenders ignoring defaults

Here is further evidence that nothing is really what it seems in the financial system. The statistics we see on defaults (and foreclosures) are becoming increasingly meaningless as lenders simply decide to look the other way, and allow deadbeats to default without any consequences.

I am not saying that creditors are doing the wrong thing by not seizing assets (i.e. there might be little real value left), but this sure messes up the statistics. The phenomena even occurs in residential lending, with many examples of delinquent home-owners who have been in their homes for a year or more without being kicked out. Even once lenders foreclose, some institutions are reluctant to actually sell the assets at current market rates. It is far better to keep unrealistically high valuations on the books, and just sit on a dead property, than to be forced into insolvency by booking severe losses after selling for cut-rate prices.

There is so much rot going un-reported that God only knows how bad things really are…

Under normal circumstances a company with as much past-due debt as General
Growth would have been forced into Chapter 11 bankruptcy protection by now.
Creditors so far have been willing to let deadlines pass because they believe
there is little to be gained and much to be lost through a bankruptcy.