Archive for March, 2009
Why the Fed and Obama Might Blow Up the Economy
Posted by Jody Eisenman | Filed under Uncategorized
“The economy continues to contract. Job losses, declining equity and housing wealth, and tight credit conditions have weighed on consumer sentiment and spending. Weaker sales prospects and difficulties in obtaining credit have led businesses to cut back on inventories and fixed investment.”
This is not my opinion. These are the words of the Federal Open Market Committee (FOMC) from their meeting last week. The Federal Reserve, which is the central banking system of the United States, is responsible for maintaining the stability of our financial system, as well as deal with banking crisis’s. This is also known as monetary policy. How do they do this? Basically, by raising or lowering the Fed Funds Rate (the borrowing rate that is offered to the private banking system) and by making money available by acting as a lender of last resort. Since June of 2006, the Fed had dropped the Fed Funds rate from 5.25 all the way down to essentially zero in December of 2008. The Fed does not like to lower rates this far, as it becomes powerless to make changes. You can’t go lower than zero. They have also provided billions by inducing congress to pass the TARP bill, which has injected hundreds of billions into the banking system. Without these bailouts, the banking system would have probably collapsed.
Unfortunately, these measures have not improved the economy. In addition, thanks to all the bailouts, as well as the stimulus package, our national deficit now exceeds 11 trillion dollars. If we think of this number as a percentage of GDP, we are approaching 80%. To put this in perspective, according to the CIA factbook https://www.cia.gov:443/library/publications/the-world-factbook/rankorder/2186rank.html, this would put the US among the the top 15% leveraged countries in the world. What many people fail to appreciate is that sooner or later, that deficit must be repaid. Fortunately for the US, interest rates on our borrowings (via treasury bills) has remained very low. This may change due to the the policy that the Fed announced last week.
All this spending, combined with a sharp reduction in interest rates, has failed to stimulate the economy. In fact, things are getting worse. Real estate prices continue to drop, the credit markets are weak and the unemployment rate continues to rise. Therefore, the Fed has decided to use a very controversial weapon; namely, they will try to stimulate the economy by purchasing long term treasuries. This is a very high risk strategy due to the fact that we are a debtor nation, and by pursuing this policy, we are simply printing money. Lets take China for example. The Chinese have been very large buyers of our treasuries. With the printing presses open, the dollar is getting weaker. Will the Chinese (and other countries) continue to lend money to the US by buying 30 year treasuries when the rate is around 3.6% and the dollar is dropping? I have my doubts. If foreigners decline to buy, the only alternative we have is to raise rates in order to get buyers in. However, by raising rates, we are actually providing a disincentive for US businesses to borrow, thus prolonging the recession. Clearly, this is a desperation move by the Fed. Combined with massive deficits, we could be looking at a highly inflationary environment in the years to come.
Grassley: AIG Execs Should Commit Suicide
Posted by Jody Eisenman | Filed under Uncategorized
The anger over AIG continues to mount. It now seems that $57 million out of the $165 million in bonus money was paid out to employees who are no longer working for AIG. In response, Iowa Senator Chuck Grassley stated that AIG executives should follow the Japanese method and apologize; then either resign or commit suicide. I think it’s called Hari Kari in Japan, Chuck.
Meanwhile, Attorney General Cuomo is looking into whether or not these bonus payments constituted fraud. Other Democrats are looking for ways to tax these payments at 100%. Can anyone imagine if when AIG first approached the government for its’ handouts, they revealed what some of this money would go for? In addition, most of this bailout money went to the counter parties of the CDS policies. These counter parties include some of the biggest banks in the world, such as Goldman Sachs and Deutsche Bank. So, on top of these banks handouts, they also got billions from AIG. Meanwhile, the average consumer is drowning in debt, and the credit card companies are busily cutting back every way they can. Yet, the biggest risk takers (meaning the banks and other financials) continue to get bailed out.
The stock market continued its’ powerful rally today. The Dow closed up 178 points, just about its’ high for the day. Since this rally started last Monday, the Dow is up about 850 points. The S & P 500 rose another 24 points, and now stands at 778. However, we are now roughly at or near resistance points, and I suspect tomorrow will tell if this rally is for real. If we cannot get through the 775-800 level on the S & P, this advance could run out of steam rather quickly.
The Greed Continues at AIG
Posted by Jody Eisenman | Filed under Uncategorized
Which statement below is true about AIG?
1. They reported the largest single quarterly loss in US corporate history
2. They are the recipient of at least $170 billion from the taxpayers via a bailout
3. While begging for funds, they sent their employees on a deluxe resort vacation
4. While losing unheard of sums of capital, they are planning to pay their valued employees bonuses of $165 million today.
The answer is, all of the above. AIG is essentially 2 companies: a very profitable insurance firm, and a high risk hedge fund that gambles huge amounts of dollars in order to make pennies. The high risk arm of AIG has issued all these credit default swaps which brought the company relatively small premiums at the risk of potentially bankruptcy sized losses. Without the taxpayers, they would be bankrupt right now. Now, why the government does not insist on splitting the 2 units and winding down the CDS arm is beyond me. However, the bonuses AIG is planning to pay is not going to the employees of the profitable insurance arm; it’s going to the guys who managed to blow billions! CEO Liddy claims that these are binding contracts. Gee, I thought bonuses were for people who contributed to a company’s profits. Don’t you think AIG would be better off without these people and their losses? Welcome to the new era of finance. Naturally, Tim Geithner is not thrilled. Lawrence Summers, Obama’s top economic advisor, called this plan “outrageous”. I can think of a few other words as well.
Meanwhile, the stock market continued its’ advance as I expected. For the week, the Dow closed up almost 600 points, and the S & P added over 70 points. However, we are now getting close to our first area of resistance. If the market continues to climb, I would expect the moment of truth to happen sometime this week. The market was led by (surprise) the financials, which had an incredible weak. MS was up almost 50% for the week. WFC was up about 60%, and C was up over 75% for the week. I would expect profit taking to occur soon, but their were certainly a lot more smiles on CNBC this past week.
