Oregonian Edition: MLS, Credit and Taxes

David Sarasohn has an Op-Ed in today's Oregonian (not on web site) in which he suggests the MLS team and the Beavers could share PGE park and in which he makes the erroneous claim that "several" MLS teams share stadia with baseball teams.  This is demonstrably false and very easy to check - only Kansas City shares at the moment in a temporary two year arrangement while they develop a soccer-specific stadium.  It also ignores the fact that on most days, the Beavers fill less than 10% of the seats of PGE park making for a fairly dismal fan experience.  I think it needs to be recognized by members of the press that MLS is the only current viable plan for PGE Park, full stop.  MLS will not work in PGE park sharing with the Beavers because of space constraints (permanent stands will need to be constructed long the 18th Ave side) and the difficulty providing a top quality natural grass field with a baseball infield.   MLS has made it clear to all teams that the sharing will not work and most MLS teams are either playing in, or in the process of, developing soccer-specific stadiums.  What to do with the Portland Beavers is a tricky problem, and the abandonment of the Rose Quarter so quickly thanks to a tiny, but vocal group who want to preserve Memorial Coliseum for ... what exactly? ... makes their continued presence in the city questionable.  And maybe having them depart for the 'burbs is the right answer.  Saltzman's Leonard's insistence that his support for the MLS plan is contingent on keeping the Beavers is myopic and may end up costly when, in a few years, PGE Park is vacant.  

Also in Sunday's paper, Ryan Frank has a great story on Tom Moyer and his stalled tower.

And finally A very nice editorial by Susan Nielsen asking the same questions I have: why hasn't there been any real effort on the part of Democrats to go after wholesale reform of the states fiscal system.  This dovetails nicely with a good article on the state tax system in general - mirroring some efforts I have made to try and make sense of it.  Dems' insistence on piecemeal hole plugging is pretty troubling and their justifications pretty weak in my opinion.

Credit and the US Auto Industry

We all know how badly managed the US auto industry has been, willfully oblivious to the obvious: that huge demand for big trucks and SUVs were not going to last forever and that fuel efficiency was not the the enemy. If they had spend half the time, energy and money into design, R&D and engineering that they devoted to ensuring protection from Washington they would probably not be in this mess (or at least not nearly as bad off).

We also know that they represent a pretty significant part of the manufacturing base in the US, especially with all of the links to suppliers. This makes a pretty compelling case for the government coming to their aid.

But is their trouble all their own fault? It can be argued that the credit crisis hurts their industry much more than most because of the fact that most auto purchases rely heavily on credit. Since traditional consumer credit sources have dried up (including home equity lines of credit), it is possible for them to argue that they are in a special position as sufferers from the credit crisis that the government allowed to happen.

I don't know how much water this argument holds, but I have been interested that this point is not being made much. One thing is for certain, the US auto market has cratered. Above, from Econbrowser, is a chart of US domestic car sales. Look at how far off are current year sales to previous years. Ouch.

Housing Market and Credit

The feds are still worried about the housing market (see post below for an idea of why).  So now they have another new plan to get credit going again, especially mortgages. Above is a chart of national average mortgages rates for 30 year fixed conventional mortgages.  This is the one credit market that has done fairly well all things considered (after the Fannie and Freddie bailout - oh, and don't blame Fannie and Freddie for the subprime crisis, the evidence clearly shows it was not they that caused the huge sub-prime glut) 6% historically is a great rate.  But clearly the feds think it needs to be even better to finally put a floor under the free-fall of the housing market.  

The bailout was in the beginning of September and you can see how mortgage rates responded sharply.  Then came Lehman Brothers bankruptcy in mid-september and the credit markets went nuts.  Mortgage markets have struggled since, but have mostly been pretty calm in November.  The bigger problem is that banks are unwilling to loan without a lot of collateral and fantastic credit, so the rate is only part of the story.

Anyway, the point of all this is that the plan today is supposed to try and staunch the bleeding in the housing market as exposed by Case-Shiller.  I wonder if it is a coincidence that they announced this today - the day of the C-S report?

Round up of the Bad and the Worse in Economic News

Where to begin? How about with Portland housing:

The Case Shiller numbers for August:



So, we are still not Las Vegas and still a little better than the national average, but the number for August was 171.93 which is a considerable drop from the 174.21 the month before. To put it in perspective, on average, Portland homes have shed all of the value gains they amassed since March 2006. So, as always, we are not immune, but are in better shape now because we were late to the party. And again, the usual caveat of remembering that averages conceal lots of neighborhood-level variation. Overall, though, the US is not doing well by this particular metric.

Is there hope that we shall soon see appreciation again. Well, the mortgage market, which was one of the few bright spots in the credit freeze after the Fannie and Freddie rescue, is still pretty good, but no longer below 6% for a 30 year fixed. So that's not as good as it was.



What of other credit markets? Well, after some improvement following the world's government and central bank interventions, the progress has stalled. Here is the TED Spread:

It dropped a lot but is now hovering just below 3 percent which is very high historically.

Other bad news? Well the consumer confidence is the worst on record. GM and Chrysler want billions so they can tie their two sinking ships together to stay afloat (come again?). Iceland is sinking.

So now we wait for the Fed to announce new rate cuts, but they are getting close to the zero bound - the point at which spooked would-be investors actually pay for the safety of Treasuries (think Japan).

Isn't there any good news? Well the Trail Blazers begin their season tonight and their future looks very bright.

Go Blazers.

Credit Markets Thawing?

It appears so.  The TED Spread is now under 3, still quite high (in a healthy market it would be around 1), but much lower than the 4+ we were seeing in the height of the panic.  Also, the yield on 3 month treasuries (part of the TED) is up above 1 after plunging to 0.02 on September 17th and hovering around 0.2 recently.  

What do these mean?  Well the yield on T-Bills rising means that demand for them has softened suggesting that not all potential lenders are preferring to huddle around the safe warmth of Treasuries.  The TED Spread is going down because of this and because the LIBOR is also coming down meaning the supply of funds being made available for bank to bank lending is rising.  Remember that the LIBOR is a measure of the rate banks charge each other when they lend to each other. The TED Spread is the difference between the LIBOR and the rate on Treasuries and its being high means that all bank's extra cash is being put into Treasuries and not lent to other banks.  

This is good news and suggests that the efforts of the Fed, the other European central banks and the Treasury are finally showing some traction.  This will not correct the recession, but is a fundamental first step on the road to recovery. 

News and Notes: October 14

Oregon's Economy: Heavy job losses in September. This is why I had a hard time with the "burn baby burn" crowd that opposed government action in the face of a financial crisis. The truth about all economic crises (both in high and low income countries) is that it is always the most vulnerable - the poor and the working class - that are the hardest hit. No matter how bad it gets on Wall Street, the CEO of Merrill Lynch is going to do just fine, thank you very much. We can let it burn but those that will suffer most are the poor, children and the elderly.

Credit Crisis: so far so good for coordinated intervention, but don't take the rally on the world's markets as a sign that we will escape recession. We are most certainly in it now and it will be quite a while before we return to robust growth.

Commodities Prices: And now the good news/bad news. The good news for consumers and the Fed is that the possible bubble in commodities prices has burst, suddenly that insatiable demand doesn't look so insatiable to commodities traders now that the world is in recession and so prices are falling precipitously. This means cheaper prices at the grocery store and at the gas pump. The bade news is the ag and resource extraction-based industries are seeing a free-fall in prices and profits which will certainly lead to a painful contraction. Here in Oregon, the wood products industry, already hit by the housing slump looks like it is in for a even bumpier ride. Also ban, in my opinion, is the retreat in gas prices. Yes, I know that I just said the the poor and working class are most vulnerable to downturns and they are also most vulnerable to gas price spikes, but this is one area where pain=gain. High gas prices have led to a plummeting market for big cars, a boom market for hybrid and fuel efficient vehicles and have brought about a huge change in behaviors that are all good for the future sustainability of our economy and our climate. For example the 90% rise in Tri-Met ridership.

Global Panics Call for Global Response

What is clear this morning is that the coordinated (and quite dramatic) action of both US and European governments have potentially turned the tide on the global banking panic.  Individual actions were not enough, the finance sectors of each individual economy are so intimately intertwined that confidence can only be restored by coordinated action.  Of course the rally in the worlds exchanges could be short lived and there will still be blood spilled in the banking sector, but for now the outlook is positive.  

This all begs the question (once again): are the world financial markets so enmeshed that a global system of regulation and oversight is needed?

By the way, I am often asked about the strategy of buying equity rather than buying the toxic assets as in the Paulson Plan.  I am generally in favor of this for three reasons: one, the toxic assets are so complicated that figuring out what to pay is very hard - buying equity is simple and can be done quickly; two, buying equity is a direct capital injection that gives the government something tangible in return for its investment; and three, I think it restores confidence more forcefully than the buying of toxic assets.  But I also have hesitations: one, the government, finding itself part owner of failing banks, have a new incentive to prevent them from failing - even when they should; and two, if one is worried about rewarding the fat cats for bad decisions, this does that more directly.  On balance I am tilted pretty far toward the direct equity approach, especially after the terrible response by the market for the Paulson plan.

What Does the Credit Crisis Mean to Oregon?

I have spent a fair amount of time blogging about the credit crisis and now I would like to try, as best I can, to trace these effects to our fair state. In general the local effects of the global financial crisis are pretty similar to all states.  The most immediate impact is probably the drying up of the bond market.  This means that municipalities and states that are trying to raise money by selling bonds are not finding any buyers at anything close to reasonable rates.  California recently alerted the federal government that without the ability to raise case, it may run out of money - and soon.  Luckily, apparently Salem has been quite prudent and is weathering this crisis relatively well at the moment, thanks in part to the skillful leadership of Randall Edwards - so pay close attention to the state treasurer race and vote prudently.  

Anyway, without access to bond revenue, state and local governments may not be able to proceed with planned projects (this is also true for other institutions like colleges and universities, I wonder if the U of O has already sold the bonds for the arena project...).  And of course this all filters down, postponing or canceling planned projects further hurts the construction industry.  

Oregon businesses face troubles without access to credit as well, temporary cash needs may go unfulfilled leading to layoffs, etc. In the medium and long term, lack of credit can postpone or scuttle planned investments, hurting future productivity and business growth.  This also filters down - lower employment and lower wages.  A global economic downturn might also depress one of the few bright lights - exports - in the Oregon economy these days.  

Finally, Oregon households are having a hard time now accessing credit and may soon have a harder time finding jobs, getting raises, etc.  

Now for the latest in bad news: The Dow closed lower than 9,000 today, showing just how big is the crisis of confidence on Wall Street. The TED Spread soared to another all time high today showing just how much banks are still worried about each other. And the Treasury is starting to think seriously about buying equity in the banking sector.  This last one is a good thing in my opinion.

The good news?  Is there any?  Well, yes, the mortgage market is looking great.  So go buy a house!

Now Let's Try Rate Cuts!

And why not? Positives - Wall Street loves them and since the panic/crisis seems to be fueled by the plunge in the Dow, perhaps it is a good idea to lower rates in the effort to restore a sense of confidence. Negatives - this really does very little to help out the seized credit markets since the federal funds rate and the rates that are currently important (the LIBOR and the commercial paper markets) have become untethered to the fed funds rate. This is the essence of the crisis.

On balance then, I am skeptical, but since inflation pressures have eased tremendously, I suppose it is worth a try. It is very good to see some coordinated action with Europe. As I mentioned last time, this is the first true global crisis of international financial market and calls for global action.

Note: I had planned to be knee deep in ballot measure analysis at this point - hopefully I can get to that soon.

Commercial Paper...

...is the financial term de jour. This has been one of the big worry spots of the Fed and Treasury - in fact it may be the key reason for the unleashing of the Paulson Plan. This is how businesses raise short-term capital: secured and unsecured short-term loans. In a healthy market, raising such money (to cover temporary cash flow issues like payroll, new equipment purchases, etc.) was very easy. Sometimes you had to offer sweeter deals, but generally there was a buyer at not too extreme a price. This market was good for both sides - businesses that needed to smooth out expenditures (hiring and firing employees is a much more expensive alternative after all) and businesses and banks that have transitory extra cash that can be put to a productive (and interest earning) use.

But the market has essentially seized. Nobody wants commercial paper (just like no banks want to lend to each other). Everyone is so freaked out that they all want to hold cash or Treasuries and want to take on absolutely no risk. It is already clear that $700 billion promised to buy toxic assets was not enough to reassure people (as I has worried it might not) to get off their duffs and start lending out their cash, so today the Fed has stepped in with a plan to buy commercial paper and directly inject liquidity into that market.

The running theme of the week so far is how bad news and jittery investors in Europe has counteracted the effect of the $700 billion bailout. We are all interconnected now. And here, as evidence, I will simply steal from Paul Krugman:

The chart above shows rest-of-world assets in the United States (red) and US assets abroad (blue) as a percentage of non-US GDP; while we talk a lot about the US as a debtor nation, what’s really striking is the surge on both sides of the balance sheet. This has made the global financial system a lot more tightly linked, so that big economies are now experiencing the kind of contagion previously associated with emerging markets caught up in the 1997-1998 crisis. We’re all Brazilians now.

What this shows is that we are trying to deal with a problem domestically that has spill-overs internationally. This begs the obvious question (which has been asked by development economists for a long time): are the integrated international financial markets so big and so integrated that there needs to be international cooperation in their oversight?

Uh oh...

The TED Spread is up, the Dow is down, Europe is in turmoil, and there is evidence that the money markets are totally frozen. Not what I had hoped to see the Monday morning after the financial rescue plan was passed. Evidence that the plan is not enough to save the banking industry from a lot of pain. But some pain is good and the retrenching that is going to happen is probably healthy in the long run. It's the short run that is still worrying me. Evidence that the recue is not going as hoped: the Fed this morning has had to announce a huge increase in the TAF. There seems to be two possible reasons for all this bad news. One, the Troubled Asset Relief Plan (TARP - or Paulson's Plan) has been judged by Wall Street and banks as terrible insufficient for the existing crisis. Two, a cascade of bad news from Europe has caused a new wave of panic. My opinion is that it is mostly the second reason at the moment (causing essentially the first reason with 'existing' now including Europe). Of course, we know about troubles in Europe already, why this response is the obvious question, to which I can only reply - that is the nature of a 'panic.'

Still, banks can't stay huddled in a corner holding cash for too much longer, they are going to need to start lending soon...aren't they?

I think we need to wait until the end of the week before we start declaring all of these moves insufficient (or misguided). Until then, keep a paper bag handy to breathe into as you monitor the situation...

So What is the Bailout (oops, 'Buy In,' sorry Nancy) Supposed to Do?

Last time I blogged about why credit matters to the economy, today I will try and explain in as simple terms as possible what Paulson's original idea is all about.

The background is now familiar. Investment banks and securities firms, eager to provide outlets for a huge pile of global money, started bundling together more and more suspect mortgages, sliced them up and created Mortgage Backed Securities (MBS) (see my old posts on the credit crisis). The huge demand for these securities caused even more suspect mortgage lending. This all fueled the housing bubble which finally popped. When the value of houses started crashing the performance of the MBS tanked. They tanked so badly that it soon become apparent that no one could really figure out how to value them. When that happened, the market for these securities basically disappeared. [It is worth noting that though MBS are not the only culprit, they are the main one] Suddenly a major part of the asset side of these banks (both investment and commercial - the difference is not that significant anymore) balance sheets lost all of their value both because of the drop in housing values on which they are based, but also because of they worry about valuing them appropriately made no one interested in buying them. Banks suddenly faced a solvency crisis and needed to raise liquidity. Normally you can do this by selling assets but as I just explained, there is no market for them. Alternatively you can borrow money and lend it out or invest it to try and raise new capital through profits, but now no banks want to lend to each other because they are all worried about default (and rightly so, look at Lehman Brothers, WaMu, etc.) So with banks facing insolvency and the usual channels to overcome this blocked we find ourselves teetering on the brink of total meltdown in the banking sector.

What the Treasury proposes to do is to try and address the second part of the asset pricing problem for the MBS. Namely, that no one wants to buy them because no one can figure out what they are worth (and their worth depends in large part on the future performance of the housing sector). The Treasury claims that they are not worthless (as the current market price suggests) but that 'hysteria' [my word] in the credit market is causing the current price to be much too low. Basically this is a problem of asymmetric information (not knowing the true worth) and coordination failure (not knowing what will happen to housing values which depends on the freeing of credit, which, in turn, depends on confidence returning to the banking sector). Treasury thinks that it can figure out the true worth of these MBS assets and pay that today. Doing so, they believe, will calm the hysteria and free up credit because essentially banks will take the Treasury money and put it right back into T-Bills which will shore up the balance sheet, return them to solvency and make the eligible to borrow and lend again -- which will eventually trickle down to the housing market. Once the hysteria is gone and housing markets have stabilized, the true value of the MBS will become clear and the Treasury can start selling them back - hopefully for as much or even more than they paid.

You can see the risk: if the hysteria about the MBS does not calm down (no one wants to touch them ever again) or if the injection of liquidity does not free up enough credit to turn the housing market around, the Treasury could be stuck with a huge amount of worthless MBS and will end up loosing $700 billion with nothing to show for it. This is why some economists claim is it better to buy equity in the banks because then if it doesn't work you at least have some tangible assets you can sell (like, e.g., WaMu's retail branches that apparently Chase coveted). [The rejoinder to this is that the government may find itself heavily invested in banking, will have a huge amount of complicated real and paper assets to deal with, and will go to even greater lengths to prevent failure.]

So the real cost of the plan, will depend on the sales price of the MBS in the future (and how far that future date is). It's a big risk, but meltdown is a risk an order of magnitude larger.

NB: Later I will try and comment on the DeFazio plan.

Yikes!

Okay, so this is starting to get a little scary.  What do the government agencies charged with overseeing the economy do when investors all get spooked and start to panic en masse?  For a while the twin attacks of propping up major financial institutions and injecting liquidity seemed to be working, but something spooked the horses again and they are all racing for the stables:

This is the three month treasury bill rate chart.  When there is strong demand for treasuries the price goes up (meaning the rates fall).  Look at what has happened in the last few days.  As treasuries are just about the safest investment available this represents a tremendous "flight to safety" among the major financial actors.  

Another measure of how spooked they are is the TED spread which is essentially the difference between what banks charge each other for loans and these safe investments (3 month treasuries).  Banks charge each other more when they feel the risk has increased and risk increases when other banks become less likely to repay these loans (like Lehman Brothers).  Well here is what happened to the TED spread in the last few days: 

What happens when the newly fluid, integrated and worldwide financial markets get so incredibly spooked all at once?  Nobody knows.  That is why I am getting a little spooked myself.  Still, I remain optimistic that things will stabilize soon (I said that two months ago as well, so...) and slowly the credit market will start functioning more normally.  Why do I say this?  Well remember that flights to safety are good, short-term, cover your arse strategies, but the essential business of banking is lending money to make money.  They can't long survive without getting their capital out there working again.  At least that's the theory. 

Update, I try to avoid cross-posting, the purpose of this blog not being to provide a comprehensive conduit to the entire world of economics news and opinion (Mark Thoma has the lock on this but also does not, apparently, sleep) but this is too good to pass up: over at the Freakonomics Blog at the NY Times, there is a great synopsis of recent events.