Household Debt

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Thanks to Lydia who sent a link to a Toronto Globe and Mail interview by Heather Scoffield with Laurence A. Tisch, professor of history at Harvard University, and author of The Ascent of Money, A Financial History of the World. Some notable comments:

“This is a very unfair crisis. Here is the world’s biggest economy, which gave us subprime mortgages, rampant securitization, the collateralized debt obligation, Lehmann Brothers, Merrill Lynch. The epicentre is the United States, but the rest of the world, and particularly America’s trading partners, will get hit harder than the U.S. … because the U.S. retains the safe-haven status.” Safe haven is when, in a crisis, the rest of the world buys U.S. Treasury notes and bonds.

“Property ownership is something that our societies, particularly English-speaking societies, seem to be drawn towards. The notion that the majority of people should own their own homes dated from the 30s. It didn’t really become a reality until the 50s. We’ve sort of pushed the home ownership rate up to what seems to be its maximum, and beyond. It will clearly come down. The lesson of the subprime crisis is that you shouldn’t give mortgages to people who can’t afford them.”

“It’s a crisis of excessive debt, the deleveraging process has barely begun, the U.S. consumers are not going to suddenly bounce back and hit the shopping malls just because they get a tax cut. The savings rate is going to continue to rise. These processes have tremendous momentum that quite clearly differentiates them from anything that we’ve seen, including the early 80s, including 73, 74, 75. Those big crises, the ones that we have lived through, were bad. But seems certain to be deeper, and more protracted. “

“August, 2007 was when this crisis began. And if you were really watching the markets carefully, April is when it began, when the various hedge funds started to hemorrhage. The stock markets carried on until October of that year. And in many ways, consumer behaviour in the U.S. did not change until the third quarter of 2008.”

“$2-trillion worth of debt is going to hit the market this year, maybe more. Supply is exploding just when demand is contracting.” “There is still this inertia that prevents the dollar from falling off a cliff, that keeps the Treasury market from falling off a cliff.” “If I were in the market to buy distressed assets, I would wait, I would wait a bit longer until they’re really desperate. And it might even be better to wait until they’re bankrupt.”

“From John Law in 1719 to Alan Greenspan in the late 90s, there’s always a banker, there’s always a central banker making credit too readily available. The second thing is, though, that regulation may not prevent that.”

“Monetary policy evolved in a peculiar way in the 1990s towards de facto or de jure targeting of inflation, an increasingly narrow concept of inflation – core CPI.” “When the central bankers got together at Jackson Hole, the view that emerged from the debate in the late 90s was, we shouldn’t really pay attention to asset prices in the setting of monetary policy.”

“European banks are far more leveraged than American banks.”

“But one of the things that I find troubling about the administration is the degree to which is has ceded power to Congress. It’s almost like it’s a parliamentary system.”

“If you subtract mortgage equity withdrawal from the Bush years, the real underlying rate of growth of the U.S. economy was 1 per cent.”

“If you have a more equitable redistribution through the tax system, which Obama is committed to, it might actually be no discernible downside for middle America and lower-class Americans. So many of the benefits of the boom went to the elites.”

Averages

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Everything is uh, well, normal. That is the point that Jack Hough makes in his Stock Screen article in the April 2009 Smart Money magazine. Well, this economy doesn’t feel normal. But Jack presents some data that may surprise many of us.

House prices are down 25% from their 2006 peak. But Jack quotes a survey by Moody’s, one of the rating companies, that shows the cost of a house today averages about 20 years worth of what they might rent for. “From 1983 to 1999 … most houses cost 13 to 15 years worth of rent.” By 2006, housing prices had gotten so high that they were priced at an average of 25 years worth of rent.

We read that American consumers contribute 70% to the overall economy and alarm bells have been sounding because the American consumer is not spending that 70% now. They are, in fact, spending closer to the 80 year average of 65%. What we are seeing is a return to the average from the abnormally high spending of the past decade. This spending was fueled by abnormally high housing prices.

We’re starting to get the point now. This is not economic Armageddon. It is a return to average. We’ve just gotten used to above average in the past decade.

The S&P500 index is about half of what it was in August 2007. But it trades at the 100 year long historical average of 15 times corporate earnings. Those earnings estimates have sunk 30%. But (we’re getting used to this ‘but’ by now) “in 2006, corporate profits were 26% above their long-term average as a percent of gross domestic income.”

This return to average hurts. The unemployment rate is expected to top 8% when the Bureau of Labor Statistics (BLS) issues their weekly update of new claims. The historical average is 5.6%.

The BLS recently reported a 0.4 percent in productivity in the nonfarm business sector in fourth-quarter 2008, as output fell faster than hours.

Unemployment up + productivity down = not good. Is the mattress the safest place for savings?

The steep decline in stock prices may have caused some to give up on stocks altogether. Jack looked at the twelve worst 10 year rolling periods and found that they are inevitably followed by 10 year periods where the average return is almost 11% per year.

Homeowner Equity

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In a 3/13/09 WSJ report by S. Mitra Kalita: the Federal Reserve announced that Americans had seen their net worth fall by $11 trillion, or 18%, in 2008. However, a historical perspective is still positive for those adults who have been building equity over the past two decades. “Not accounting for inflation, household wealth more than doubled from 1990 to 2000, and then, after a pause, rose nearly 50% before the bust of 2008.”

But many have not been building equity for two decades. Real estate, primarily their house, accounts for 35 – 40% of the total wealth of most households. Those who invested their house equity in a larger home, or who borrowed against that equity, have watched that equity disappear. The Fed reported that, at the end of 2008, homeowners collectively had only 43% equity in their homes, the lowest level since 1953.

In 1990, Americans had 14% of their wealth in stocks. By 2000, stocks comprised 33% of wealth, slightly more than Americans had in their homes. It was paper wealth. The collapse of the dot.com bubble and the recession after 9/11 “downsized” that stock wealth substantially. In July 2002, the average American retail investor had lost all the stock profits they had made during the 1990s.

The lesson: diversify. As stocks rise, take the money “off the table.” Stocks and houses do not rise in value indefinitely.

Catholic Church

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This blog “follows the money”, which takes us to a a bill introduced in the Connecticut legislature, and withdrawn this week in response to protests, that would amend Section 33-279 of Chapter 598 regarding religious corporations.

The bill is in response to a long standing lack of financial accountability in some Roman Catholic churches. Father Emmett Coyne, a retired priest, notes that “I’ve seen pastors simply take money out of the collection before it was tallied.” in an op-ed today.

Here’s the text of the proposed bill – the red text in brackets would be deleted and the underlined text added. Here’s a summary of the changes.

Here’s the text of section 33-279 before this proposed revision – enter the section in the search box. Connecticut law requires corporations to have “one or more directors”. Previous law required religious corporations to have one lay person as a member of the board. This amendment stipulates that the board be composed of lay members only.

Health Care by Richard Nixon

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In 1974, President Nixon stated that 25 million people, or 11.6% of a population of 214 million, had no health care insurance.

In response to Ted Kennedy’s proposal of a single payer type of national health insurance, Nixon countered with a “National Health Insurance Partnership Act aimed to preserve the private insurance market while requiring employers to either cover their workers or make payments into a government insurance fund.”
“Senator Kennedy’s attempt to fashion a compromise national health insurance bill that preserved a place for private insurers ended up pleasing no one.”
“In his first address to Congress after succeeding Nixon, President Gerald Ford urged lawmakers to approve a national health insurance bill but President Ford’s short tenure was dominated by inflation and other economic woes.” “Critical” by Tom Daschle, Scott Greenberger, Jeanne Lambrew, p.65, 66

In the “Last Lion” Ted Kennedy says he made a mistake by insisting on a single payer type system. 35 years later, President Obama is proposing something similar to what Nixon proposed in 1974.

In this digest of census data:
In 2007, “The Census says the number of uninsured fell from 47.0 million to 45.7 million.” That’s 15.3% of a population of 300 million. That’s bad.

However, “nearly 18 million of the uninsured lived in households with annual incomes above $50,000 and could likely afford health insurance.” Well, maybe. In a previous blog I noted Kaiser’s survey figures showing an average of $12K annually for a family plan. In 2007, CNN Money reported that the median mortgage payment was $1566 a month, or $19K. Add in property taxes, utilities, food, school and other costs for their kids and a family might have enough left over for health insurance if they didn’t have to pay income taxes.

“Up to 14 million uninsured adults and children qualified for government programs in 2004 but had not enrolled, according to the BlueCross BlueShield Association.” Public service messages during commercial breaks for American Idol might help spread the word on the availability of these programs – maybe.

“About 18 million 18-to-34-year olds are uninsured. Most of them are healthy and know they can pay incidental expenses out of pocket. Using hard-earned dollars to pay for health care they don’t expect to need is a low priority for them.” The boomers will outvote them.

Liberal vs. Conservative

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OK, so you are having an identity crisis. Are you a liberal or a conservative?

This article from the National Center for Policy Analysis makes it easy to figure out. “Liberals want government in the boardroom but not in the bedroom. Conservatives want the reverse.”

Now that you have answered that burning question and “found yourself” you can enjoy this 13 page excellent review of liberalism and conservatism, their roots and the distinctions in their ideologies.

To whet your appetite: “In the history of politics, there is only one fundamental, abiding issue: It is individualism vs. collectivism.”

Mark To Market

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You may hear the term “Mark to Market” occasionally. So what the heck is that? This is a long article on the topic but the first two pargraphs summarize the various accounting methods that banks and securities firms use and the issues at stake.

For those of you with short memories, the Enron Scandal (capitalized, as it should be) provoked the controversy of evaluating assets along with a number of lawsuits that brought down Arthur Anderson, one of the big five accounting firms.

Auto Safety

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Personal responsibility, a traditional value in America.

In his weekly WSJ column on 3/17/09, Joe White looked at the global car market. An example is the Ford Focus, a compact popular in Europe and also sold in the U.S.. “Next year, Ford will launch a new Focus in the U.S. that will have 80% of its parts in common with the European version.” Why not 100%, I thought. Oh yeh, I reminded myself, they have to put the steering wheel on a different side of the car over in Europe.

Silly me. Here’s the most expensive item on the list. “U.S. government crash standards … require car makers to take into consideration the potential harm to passengers who aren’t wearing seat belts.” Europeans, on the other hand, expects a driver to act responsibly. This and other minor differences like bumpers and mirror size add up to “hundreds of dollars a car”.

All 49 states except New Hampshire have seat belt laws. Jennifer Levitz, in a 3/18/09 WSJ article, tells us that protesters gathered last week in Concord, N.H. to voice their opposition to a proposed seat belt law in that state. One protestor said that “the state is moving toward, basically, communism.”

New Hampshire passes up $3.7 million in federal money if they don’t institute a law by July of this year. In 2007, “70% of those who died in traffic accidents in the state weren’t wearing seat belts.”

One protestor wears a seat belt now, but swears to stop wearing it if the law is passed. Representative Jordan Ulery, an opponent of the bill, said “New Hampshire is a sovereign state; we can do as we damn well please.”

Mortgage Refinance

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It was a little after High Noon today in Colorado when CNBC interrupted their broadcast of House hearings on the $165 million AIG had paid out in bonuses. The voice sounded similar in quality to the one we hear when programs are interrupted for severe weather warnings. It was not a weather warning but an announcement from the monthly Federal Reserve meeting.

The Fed was keeping interest rates at 0%, as expected, but they announced that they intended to keep them there for the coming months. They announced a plan to increase their purchases of long term Treasury notes by $300B and extend another $750B to buy mortgages. That puts the total Fed commitment to mortgages at $1.25T.

Within 5 – 10 minutes after the announcement, both the stock market and Treasury notes shot up about 2%.

So what! It’s not as exciting as the video of Brittany Spears practicing her dance routine for her upcoming tour. It’s not as fantabulous as a preview of the upcoming Jonas Brothers concert movie. It’s well, adult exciting. No, not that kind of adult excitement, you perv. The other kind of exciting, the green kind.

Now is the time for mortgage holders to start talking to a mortgage lender near you about refinancing. Average 30 year fixed mortgage rates were just a scosh below 5%. The Fed’s announcement will probably cause the mortgage rate to drop to 4.5% or so.

A fairly close approximation of the monthly principal and interest payment (PI) on a 30 year fixed mortgage at 4.5% is to chop off the last two zeroes on the amount of the loan, then divide by 2. For example, take a $200,000 amount, chop off the last two zeroes, which results in $2000. Divide by 2 and the PI comes to $1000. The actual amount, using a mortgage calculator , is $1013.37. Close enough for government work.

For anyone who might have an existing 6.5% mortgage rate, which was approximately the norm a year ago, the monthly payment reduction on a $165,000 balance is over $200 a month.

B.J. made a comment a few weeks ago that the government should just reset all mortgages, by fiat, to 4%. That is a sweeping government intrusion into the private marketplace, more extensive than the government has already done.

B.J. must have spoken to Ben Bernanke, the Fed chief, who agreed with her target interest rate. He just went about it without issuing an emperor’s decree. Instead of picking the cats up and taking them where he wanted them to go, Bernanke simply put the food down where he wants the cats to be.

Mexico Truckin’

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Besides the AIG retention bonus fiasco in the news this week is the start of a trade war between Mexico and the U.S. In the $410B omnibus spending bill that President Obama signed recently was a provision to halt an 18-month pilot program that allowed a few Mexican trucks beyond a border buffer zone.

We will hear a lot of accusations from those on the free trade side against the narrow self-interest of the Teamsters, the Owner-Operator Independent Drivers Association’s (OOIDA) , labor unions in general, and claims that “Congress and President Barack Obama are catering to the Teamsters union.”

From those on the labor, jobs and safety side we will hear this: “the true purpose of the program was to allow American trucking companies access to the Mexican drivers, who often are paid less than half of prevailing U.S. wages, and allow them access to trucks maintained to much more lax safety standards than those in the U.S., further reducing costs for American trucking companies hiring Mexican trucks and their drivers.”

What is this accusation and concern based on? “From 1992-2002 some 1,300 Mexican-domiciled companies — all of which were majority U.S.-owned — received ‘certificates of registration’ to deliver ‘exempt commodities’ from Mexico to the U.S.” Source . In short, U.S. truck companies set up shop in Mexico. Did they use cheaper labor? Probably.

From a Feb. 23, 2007 press release from the U.S. Dept of Transportation (USDOT): “U.S. trucks will get to make deliveries into Mexico while a select group of Mexican trucking companies will be allowed to make deliveries beyond the 20-25 mile commercial zones currently in place along the Southwest border.”

“[U.S. Transportation] Secretary Peters said the new demonstration program was designed to simplify a process that currently requires Mexican truckers to stop and wait for U.S. trucks to arrive and transfer cargo. She said this process wastes money, drives up the cost of goods, and leaves trucks loaded with cargo idling inside U.S. borders. The Secretary added that under current rules, U.S. trucks are not allowed into Mexico because the United States refused to implement provisions of the North American Free Trade Agreement that would have permitted safe cross-border trucking.”

How slow do the wheels of our government move? After 9/11, glacially slow. “In 2001, Congress authorized the cross border inspection program and listed 22 safety requirements that had to be in place before other steps were implemented.” These included improvements in U.S. border stations, inspection and documentation procedures.

So what conditions did Mexican truck drivers have to meet? “The regulations require all Mexican truck drivers to hold a valid commercial drivers license, carry proof they are medically fit, comply with all U.S. hours-of-service rules and be able to understand questions and directions in English.”

How do shipments not under the program cross the border from Mexico to the U.S.? The W.P. Carey School of Business at Arizona State U. reports “First, a Mexican vehicle drops off its shipment near the U.S. border. The goods are then picked up by drayage companies that specialize in the time-consuming hop across the border and through U.S. Customs. Once in the United States, the shipment is loaded onto an American truck en route to the final destination, or held in a warehouse until it can be picked up.”

The unpredictability of the delay in shipment makes it difficult for those U.S. companies in the supply chain, waiting for the goods. “The inspections can delay shipments for hours or even days. As it stands, the process generates pollution, raises costs for shipping companies and exasperates producers and retailers. For produce, delays mean lost freshness and quality.”

Here’s a Feb. 9th, 2009 report from USDOT:

“This final report presents the status of our review of the Department’s ongoing North American Free Trade Agreement (NAFTA) cross-border trucking demonstration project, at the conclusion of the first year of the project. The Department initiated the demonstration project on September 6, 2007, for 1 year, and extended the project for 2 additional years on August 6, 2008.” The project was due to end on August 6, 2010 but the omnibus bill effectively ended the project early by stopping any spending for the project.

A summary of the report’s finding:
“Demonstration Project Lacks An Adequate Number of Carriers and Participants Are Not Representative In Some Respects of Mexican Carriers Likely to Conduct Long-Haul Operations in the United States. Based on our analysis, at the end of the first year of the demonstration project, participants had lower out-of-service rates than all U.S. carriers, but FMCSA [Federal Motor Carrier Safety Administration] had not defined or enrolled an adequate number of Mexico-domiciled carriers to provide statistically reliable results, as required by Congress.”

“Only 29 of 100 projected Mexican carriers were admitted to the project and 2 of those carriers have since withdrawn. This level of participation is not adequate to yield statistically valid findings. Only 118 of a projected 540 trucks have participated.”

The findings were by an independent panel in August 2008. The FMCSA decided to continue the project for another 2 years. For those on the free trade side, we have heard the better safety record portion of this report. We have not heard about the inadequate participation rate.

Sounds simple. Inadequate participation. Project cancelled. But there’s more:

“Trinity [a Mexican trucking company with a better safety record than many U.S. trucking companies] officials informed FMCSA that requirements to check every truck during every border crossing were proving costly to its operations. Our analysis showed that when Trinity was participating in the demonstration project, it received an average of 16 inspections each day. When not participating, the inspection rate dropped to less than one inspection per day.”

Trinity dropped out of the program. Trucks fully participating in the study carried GPS trackers. No doubt, they received extra attention from the “approximately 1,700 law enforcement personnel from 16 states … and the International Association of Chiefs of Police (IACP).” The line between diligence and harrassment is a matter of viewpoint.

“The Owner-Operator Independent Drivers Association’s (OOIDA) claim that Trinity had received over 112 violations per truck during the year prior to the demonstration project was substantiated”. Violations! Poor safety by Mexican truckers!

But OOIDA was trying to pull a fast one. The report continues “but OOIDA’s claim did not indicate that Trinity’s out-of-service violations numbered only 74, or an average of 7.4 out-of-service violations per motorized vehicle over the 1-year period. Trinity’s out-of-service rates were lower than similar rates for United States carriers during this same period.”

Competition. Protect jobs. Free market. Safety. Tough economy so buy local. More competition means better prices. The rhetoric on both sides of the debate will contain many half-facts because half-facts are simpler than full-facts. There is a witticism “If you think you know [blank], then you haven’t studied [blank] enough.”