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Weak Reports Have a Silver Lining, and Shares Rise

June 3, 2013 by Leave a Comment

For now, bad news is good for the stock market.

Investors judged that the latest weak economic reports would make it more likely that the Federal Reserve would continue to stimulate the economy and support a rally on Wall Street.

On Monday, the Institute for Supply Management said that a measure of United States manufacturing fell in May to its lowest level since June 2009 as overseas economies slumped and weak business spending reduced new factory orders.

The index of manufacturing activity fell to 49 last month, from 50.7 in April. That is the lowest level in nearly four years and the first time the index has dipped below 50 since November. A reading under 50 indicates contraction.

That helped convince investors that the Fed would not slow its $85 billion bond-buying program. Speculation that the central bank was ready to ease that stimulus program, a major impetus for this year’s rally in stocks, has caused trading to become volatile in the last two weeks.

The Standard Poor’s 500-stock index fell in the morning after the manufacturing report was published at 10 a.m. It moved between gains and losses for much of the day, then climbed decisively in the last hour of trading.

The good-news-is-bad-news interpretation of economic reports may support stocks in the short term, but the economy has to keep improving for stocks to reach new highs, said Alec Young, a global equity strategist at SP Capital IQ.

“This was a big miss on the I.S.M. report,” Mr. Young said. “Regardless of what it means for the Fed, ultimately you’re buying a stream of earnings and you want to see the economy doing well.”

Dennis P. Lockhart, president of the Federal Reserve Bank of Atlanta, helped allay investors’ concerns that the central bank was poised to stop the stimulus. He told Bloomberg Television on Monday that Fed officials remained committed to the stimulus program.

Manufacturing has struggled this year as nations with weak economies have slowed imports from the United States. Europe remains in a recession and is buying fewer American goods. In the first three months of the year, American exports to Europe fell 8 percent compared with the same period a year ago.

Businesses have also reduced the pace of investment in areas like equipment and computer software. A gauge of new orders fell to 48.8, its lowest level in nearly a year. Production and employment also declined.

A separate report on Monday said a measure of Chinese manufacturing dropped last month to 49.2, from 50.4 in April. As with the institute’s index, a reading below 50 indicates contraction. The figure added to signs that a resurgence of China’s economy, the world’s second largest after the United States, might be losing momentum.

The S. P. 500-stock index climbed 9.68 points. to 1,640.42, up 0.59 percent. The Dow Jones industrial average rose 138.46 points, to 15,254.03, a gain of 0.92 percent. The Dow got a lift from Merck, which rose nearly 4 percent.

The Nasdaq composite index, which is heavily weighted with technology stocks, rose 9.45 points, to 3,465.37, an increase of 0.27 percent.

The yield on the 10-year Treasury note barely changed from late Friday, closing at 2.13 percent, with the benchmark up 1/32, to 96 20/32. The yield climbed as high as 2.17 percent in early trading, then fell as low as 2.09 percent after the manufacturing report was released.

Despite the advance Monday, signs are emerging that this year’s rally may be starting to falter. The S. P. 500 index closed higher for a seventh straight month in May, but the index also logged its first back-to-back weekly declines since November. On Friday, the Dow plunged 208 points, its worst drop in six weeks. The Dow is still up 16.4 percent this year, and the S. P. 500 is 15 percent higher.

Article source: http://www.nytimes.com/2013/06/04/business/daily-stock-market-activity.html?partner=rss&emc=rss

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Economix Blog: Simon Johnson: Choosing the Next Head of the Federal Reserve

May 30, 2013 by Leave a Comment

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Simon Johnson, former chief economist of the International Monetary Fund, is the Ronald A. Kurtz Professor of Entrepreneurship at the M.I.T. Sloan School of Management and co-author of “White House Burning: The Founding Fathers, Our National Debt, and Why It Matters to You.”

The race is on to determine who will succeed Ben Bernanke as chairman of the Board of Governors of the Federal Reserve System. Mr. Bernanke’s term expires at the end of January 2014 and, while he might still decide he wishes to stay on, indications from the White House increasingly suggest that a change will be made — most likely with a preliminary decision in the next few months.

Today’s Economist

Perspectives from expert contributors.

The leading candidates are Janet Yellen, current vice chairwoman of the Fed; Timothy Geithner, former Treasury secretary and former president of the Federal Reserve Bank of New York; and Lawrence Summers, former Treasury secretary (under President Clinton) and former head of the National Economic Council (under President Obama).

None of these candidates has made or is likely to make a clear statement about the critical issue for the next decade – how the Federal Reserve should view the financial sector, particularly the various potential causes of systemic risk. This is unfortunate, because the role of the central bank has changed considerably in recent decades, and how to deal with global megabanks will be central to the macroeconomic policy agenda going forward.

In the 1960s and 1970s, the mounting threat to the economy was inflation. At the end of the 1970s, the newly appointed Fed chairman, Paul A. Volcker, and his colleagues decided to bring down inflation through tight monetary policy. This was considered highly contentious at the time, but looking back, it seems sensible.

Inflation is a regressive tax – it hits relatively poor people hardest, in part because they lack access to investments that are good hedges against inflation (like real estate and some kinds of equity). It also distorts all kinds of economic activity and makes it hard to plan for the future. Bringing down inflation was costly – higher interest rates caused a recession, with many jobs lost. But the result was a long period of relatively low inflation.

Through at least the end of the 1960s, people at the top of the Fed thought there was a stable trade-off between inflation and unemployment, so policy makers could lower unemployment by allowing inflation to creep higher. That turned out to be illusory.

Not many people argue in favor of high inflation today.

At an event in his honor last week, Mr. Volcker was interviewed by Donald Kohn (a former vice chairman of the Fed; the two of them and I belong to the Federal Deposit Insurance Corporation’s Systemic Resolution Advisory Committee) and emphasized the way in which the policy consensus had shifted by the late 1970s. (I recommend watching the video of this interview, which should be available in a few days on the event Web site.) Mr. Volcker was characteristically modest – and also typically perceptive. When everyone on Main Street sees a problem every day, this helps concentrate the minds of people in power.

The issue today is not control over inflation. There is no sign yet that the crisis of 2008 and resulting easy monetary policy has pushed up inflation, in part because people’s expectations regarding future inflation remain remarkably low and stable.

But the post-Volcker environment of low inflation and low interest rates ushered in a period of hyper-sized finance, both in terms of financial-sector growth relative to the economy and the size of our largest financial institutions. The problems associated now with too-big-to-fail banks, broadly defined, are in part an unintended consequence of successful monetary policy in the 1980s and ’90s. Of course, financial deregulation also played a significant reinforcing role.

More than three years ago, Mr. Volcker himself proposed one of our more significant efforts at re-regulation — what is now known as the Volcker Rule, which is designed to take some very high-risk activities out of financial institutions that are central to the functioning of the economy. On Wednesday, Mr. Volcker referred to the lack of progress in putting his eponymous rule into action as a disgrace.

The problem is that the economic rise of very big banks – the only financial institutions that would be adversely affected by the Volcker Rule, which would limit their “proprietary trading” – also greatly increased their political power. The Volcker Rule was enshrined in the Dodd-Frank financial reform legislation, but our regulators are a fragmented lot, and in the details of rule-writing, the banks have played regulator vs. regulator with great skill.

More broadly, the new head of the Fed needs to be able and willing to confront the financial sector before threats become too large. Inflation was very much in everyone’s faces in the late 1970s. Inflation is often referred to as a hidden tax, but it’s relatively transparent compared with what happens with the buildup on financial sector risk.

In the boom, people working at megabanks receive very high levels of compensation. In a huge financial crash, there are bailouts – various forms of downside protection – for those people and their creditors. Everyone else has to confront a deep and nasty recession, or worse. This is even more regressive than higher inflation, but it is also less obvious than the falling purchasing power of what is in your wallet and your checking account (i.e., the result of inflation).

Richard Fisher, president of the Federal Reserve Bank of Dallas, has made clear his skepticism of our current financial system – he and Harvey Rosenblum have also made very sensible reform proposals. He would be the ideal candidate to become next Fed chair. Unfortunately, the political power of megabanks means Mr. Fisher is unlikely to be called upon. (In a debate sponsored recently by The Economist, I supported Mr. Fisher’s views and carried the readers’ vote, 82 percent to 18 percent. I doubt that this outcome will sway even the editorial policy of that magazine.)

Eventually, we will need Mr. Fisher or someone with similar views, and a president willing to nominate such a person. Before we get there, however, it seems unavoidable that another destructive credit cycle will ensue.

Article source: http://economix.blogs.nytimes.com/2013/05/30/choosing-the-next-head-of-the-federal-reserve/?partner=rss&emc=rss

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Ruling Clears Way for $7 Billion A.I.G. Suit Against Bank of America

May 8, 2013 by Leave a Comment

The ruling, issued late Monday, is a setback for Bank of America, which has been trying to rid itself of numerous legal claims from investors who bought mortgage securities issued by the bank’s Countrywide Financial and Merrill Lynch units. In the California case, in which A.I.G., the giant insurance company, sued Bank of America over fraudulent mortgage securities, the bank had argued that A.I.G. had no standing to sue because it had transferred that right when it sold the instruments to the Federal Reserve Bank of New York in the fall of 2008.  

Mariana R. Pfaelzer, a federal judge in the central district of California, disagreed. She sided with A.I.G. in a ruling that also raised questions about the role of the Federal Reserve Bank of New York in the wake of its efforts to contain the huge damage from the financial crisis that erupted when Lehman Brothers was forced into bankruptcy in September 2008.

A.I.G. said in a statement, “As a result of the court’s decision, A.I.G. is able to pursue its full damages claim against Bank of America.”

Asked to comment on the judge’s decision, Lawrence Grayson, a spokesman for Bank of America, said the court ruling allowed it to “pursue additional discovery before the matter is fully decided.” He added that the bank believed it has strong defenses to A.I.G.’s accusations.

New York Fed officials, testifying earlier on behalf of Bank of America, maintained that they had intended to receive the rights to bring fraud claims related to the mortgage securities purchased by Maiden Lane II, the investment vehicle set up to complete the A.I.G. bailout.

But in depositions in March, Fed officials could produce no evidence that the fraud claims had been specifically transferred under the deal, as required under New York law. Judge Pfaelzer wrote: “To the extent that the Federal Reserve Bank of New York intended for Maiden Lane II to acquire these claims, its intentions were not expressed to A.I.G.”

The Fed’s view on who held the legal claims for fraudulent mortgages in Maiden Lane II has shifted over time. In October 2011, Thomas C. Baxter Jr., the general counsel at the New York Fed, said in a letter to A.I.G. that he and his colleagues “agree that A.I.G. has the right to seek damages” under securities laws for the instruments it sold to Maiden Lane II.

But after A.I.G. sued Bank of America, that opinion changed. Last December, James M. Mahoney, a vice president at the New York Fed who said he had principal responsibility for the Maiden Lane II transaction, testified that the New York Fed intended to receive litigation claims associated with the troubled mortgage securities. Bank of America filed Mr. Mahoney’s testimony in support of its position that A.I.G. had no standing to sue.

Yet in a deposition three months later, Mr. Mahoney was asked if he could recall discussing the assignment of fraud claims from A.I.G. to the Fed. He answered: “No, I do not.”

The New York Fed never filed any claims against banks relating to the A.I.G. rescue that might have benefited taxpayers. New York Fed officials agreed to testify on behalf of Bank of America as part of a confidential settlement with the bank that came to light in February. Under the terms of the deal, the New York Fed released Bank of America from all fraud claims on mortgage securities the Fed had bought.

A spokesman for the New York Fed declined to comment on the ruling. Previously, the New York Fed said it had agreed to testify in the case because doing so helped it obtain the best possible settlement for Maiden Lane II.

While Judge Pfaelzer’s ruling added to the legal claims faced by Bank of America, it emerged after the bank successfully disposed of several others. On Monday, in the latest such effort, the bank agreed to pay $1.7 billion to settle a long-running dispute with MBIA, a mortgage bond insurer.

The bank could erase another claim on May 30 if a judge in New York State court allows an $8.5 billion settlement struck between Countrywide and a group of big investors in 2011 to be completed. Investors objecting to the deal say the amount of the settlement is insufficient.

The California judge’s finding that A.I.G. has standing to sue Bank of America may also be bad news for other banks that sold troubled mortgage securities to the insurer. A.I.G. has not yet sued other institutions related to the securities that went into Maiden Lane II; at least $11 billion in losses involve other banks.

“We are eager to start discovery,” said Michael Carlinsky, a partner at Quinn Emanuel Urquhart Sullivan who led the arguments for A.I.G., “and get the case before a jury.”

Article source: http://www.nytimes.com/2013/05/08/business/ruling-clears-way-for-aig-suit-against-bank-of-america.html?partner=rss&emc=rss

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Economix Blog: Inflation Is Miserable. Unemployment Is Worse.

April 12, 2013 by Leave a Comment

Unemployment makes people unhappy, according to economic research. So does inflation. But here’s the part the economists are paid for: evidence that unemployment makes people more miserable than inflation.

About four times as miserable, according to a new paper.

That’s a big difference with potentially significant implications for central bankers, who have long treated lower inflation as their primary goal.

The paper is based on surveys of Europeans between 1975 and 2012, a stretch of time that includes periods of high inflation and high unemployment. It was presented on Friday by David G. Blanchflower, an economist at Dartmouth College, at a conference held by the Federal Reserve Bank of Boston.

Higher unemployment and higher inflation correlate with lower levels of reported well-being, the research shows. But the impact of unemployment is much larger. A one percentage point increase in unemployment lowers well-being nearly four times as much as an equivalent rise in inflation, the paper says.

A 2003 paper by Justin Wolfers, an economist at the University of Michigan, reached a similar conclusion using survey data from the United States.

Monetary policy sometimes involves direct trade-offs between unemployment and inflation. Driving down the pace of price increases tends to drive up unemployment, while allowing faster inflation can help to stimulate job creation.

It is easy to treat the two measures as equivalent. The economist Arthur Okun coined the term “misery index” in the 1970s for the sum of the inflation rate and the unemployment rate. The Fed’s dual mandate enshrines the same equal weighting.

And in practice, central banks including the Fed treat inflation as much more important — in part because economists argue that suppressing inflation improves the stability of economic growth, thereby limiting unemployment over time.

Professor Blanchflower said central banks had it backward.

“It makes sense for central bankers to target unemployment, given that unemployment hurts more than inflation does,” he said.

Article source: http://economix.blogs.nytimes.com/2013/04/12/inflation-is-miserable-unemployment-is-worse/?partner=rss&emc=rss

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Stress Tests Find Banks Are Healthier, Bernanke Says

April 8, 2013 by Leave a Comment

WASHINGTON (AP) — The Federal Reserve’s chairman, Ben S. Bernanke, said Monday night that the central bank’s annual stress tests of major American banks were better able to detect risks in the financial system. He said the tests showed that the banking industry had grown much healthier since the financial crisis.

Mr. Bernanke, in a speech, noted that this year’s tests showed that 18 of the biggest banks had collectively doubled the cushions they hold against losses since the first tests were run in 2009. He said the tests were providing vital information to regulators.

The latest test results were released last month. They showed that all but one of the 18 banks were better prepared to withstand a severe American recession and an upheaval in financial markets. The tests are used to determine whether the banks can increase dividends or repurchase shares.

Mr. Bernanke was speaking to a financial markets conference sponsored by the Federal Reserve Bank of Atlanta. In his prepared remarks, he said he viewed the first stress test conducted in 2009, months after the financial crisis struck, as “one of the critical turning points in the crisis.”

“It provided anxious investors with something they craved: credible information about prospective losses at banks,” he said.

Mr. Bernanke said that since the financial crisis, in the ensuing years, the Fed had worked to improve the stress tests so they could serve as a resource for banking regulators to monitor and detect threats to the financial system.

The stress tests have been criticized by some banks because the central bank has kept secret the full details of the computer models it is using to evaluate each bank. The Fed has defended this practice. It has argued that it is similar to teachers not giving students specific questions that will appear on a test to guard against students memorizing the answers.

“We hear criticism from bankers that our models are a ‘black box’ which frustrates their efforts to anticipate our supervisory findings,” Mr. Bernanke said. He said that over time, the banks should better understand the standards the tests are measuring.

In this year’s test, the Fed approved dividend payment plans and stock repurchase plans for 14 of the 18 banks outright.

Two of the banks, JPMorgan Chase and Goldman Sachs, were told by the Fed that they could proceed with their plans, but would need to submit new capital plans. Two other banks, Ally Financial and BBT, were forbidden by the Fed to go through with their dividend increases and stock buybacks.

Ally Financial, the former financing arm of General Motors, fared the worst on the stress test. The Fed’s data showed that Ally’s projected capital level was below the minimum the Fed thinks a bank would need to survive a severe recession. Ally officials said they believed that the Fed’s testing models were unreasonable.

BBT, based in Winston-Salem, N.C., said it would resubmit its capital plan and that it believed it would be able to address the factors that had led to the Fed’s objections.

Article source: http://www.nytimes.com/2013/04/09/business/stress-tests-find-banks-are-healthier-bernanke-says.html?partner=rss&emc=rss

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Off the Charts: Junk Bonds Gain Popularity Even as Yield Falls

April 5, 2013 by Leave a Comment

During the first quarter of this year, a record $133 billion of such bonds were sold around the world. While sales in the United States fell a little short of the record set in the third quarter of last year, that was more than made up for by rising sales in Europe and Asia.

At the same time, the yield on such bonds has fallen to the lowest level on record. The Bank of America Merrill Lynch U.S. High Yield index yielded 5.7 percent at the end of the quarter, as can be seen in the accompanying graph. That was down from 6.1 percent at the end of the year, and from 8.3 percent at the end of 2011. Junk bonds are those rated below investment grade by the bond rating agencies, and their current popularity reflects the search for yield by many investors, whose alternatives include savings accounts that pay almost nothing.

To some, that is cause for concern. In a speech to the Economic Club of New York last week, William C. Dudley, the president of the Federal Reserve Bank of New York, pointed to “potential excesses in certain corners of the financial markets,” saying the high-yield market and the related leveraged loan market “do seem somewhat frothy.”

He added, however, that even if those markets were to incur major setbacks, the overall economy might not be badly affected. “The size of the asset classes in question is relatively modest, and most of the investors in these assets are not highly leveraged,” he said. “So if asset valuations were to adjust sharply and some investors experienced painful losses, I do not expect that such a shock would threaten financial stability.”

Since the last century, high-yield bonds have generally done better than stocks in good markets, and better than stocks in bad markets as well. In 2008, the Merrill Lynch high-yield index fell 26 percent, while the total return of the Standard Poor’s 500 stock index was a negative 37 percent. And when recovery came, the bonds rose more. In 2009, the bond index leapt more than 57 percent, well over the return of more than 26 percent on an investment in stocks. But that advantage has disappeared this year. In the first quarter, the bond index returned 2.9 percent — including capital gains from rising prices and the interest received on the bonds. But the S. P. 500, including reinvested dividends, rose 10.6 percent.

Martin Fridson, the chief executive of FridsonVision, a research firm, notes that the spread between Treasuries and junk bonds has fallen for three consecutive quarters. He says it is unlikely that will continue, and forecasts that spreads will widen in the current quarter. If so, investors in high-yield bonds could lose money as prices decline.

The perceived frothiness of the high-yield market would seem to be illustrated by the relatively low difference — or spread — between the yields on junk bonds and on United States Treasuries. At the end of the first quarter, it was 4.86 percentage points, well below the historical average.

Moreover, the yield on Merrill Lynch’s index of lowest-quality junk bonds — those rated CCC plus or lower by Standard Poor’s — is 9.3 percent, only a few basis points higher than the record low set in spring 2007, as credit markets were about to fall. But Treasury rates were much higher then, so the level of speculation would seem to be much lower.

Mr. Fridson also noted that nearly a third of the companies that issued high-yield bonds for the first time in 2012 were among the lowest-quality borrowers. “When high-yield managers are under pressure to invest large cash inflows, as they were last year, and when high-yield issuers feel no particular pressure to borrow, the financing window may open to lower-quality credits that would be excluded under other circumstances,” he wrote in a commentary published by Standard Poor’s Leveraged Commentary and Data.

Floyd Norris comments on finance and the economy at nytimes.com/economix.

Article source: http://www.nytimes.com/2013/04/06/business/economy/junk-bonds-gain-popularity-even-as-yield-falls.html?partner=rss&emc=rss

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Economix Blog: Bernanke Defends Stimulus as Necessary and Effective

March 2, 2013 by Leave a Comment

The Federal Reserve’s chairman, Ben S. Bernanke, picked an unusual time to offer his most recent defense of the Fed’s campaign to stimulate the economy: 7 p.m. on a Friday night in San Francisco, 10 p.m. back home on the East Coast.

The basic message was the same as Mr. Bernanke delivered to Congress earlier this week: The Fed regards its current efforts as necessary and effective, and the risks, while real, are under control.

“Commentators have raised two broad concerns surrounding the outlook for long-term rates,” Mr. Bernanke told a conference at the Federal Reserve Bank of San Francisco. “To oversimplify, the first risk is that rates will remain low, and the second is that they will not.”

If rates remain low, it may drive investors to take excessive risks. If rates jump, investors could lose money – not least the Fed.

Regarding the first possibility, Mr. Bernanke said that the Fed was keeping a careful eye on financial markets. But he noted that rates were low in large part because the economy was weak, and that keeping rates low was the best way to encourage stronger growth. “Premature rate increases would carry a high risk of short-circuiting the recovery, possibly leading — ironically enough — to an even longer period of low long- term rates,” he said.

At the other extreme, Mr. Bernanke said the Fed could “mitigate” any jump in rates by prolonging its efforts to hold rates down, for example by keeping some of its investments in Treasury and mortgage-backed securities.

Three more highlights from the question-and-answer session after the speech.

1. Mr. Bernanke, asked about the outlook for the Washington Nationals, responded by accurately quoting the “Las Vegas odds” of a World Series appearance: 8/1.

2. Although the decision may be made under a future chairman, Mr. Bernanke said the Fed should continue to offer “forward guidance” — predicting its policies — even after it concludes its long effort to revive the economy.

“Providing information about the future path of policy could be useful, probably would be useful, under even normal circumstances,” he said in response to a question. “I think we need to keep providing information.”

3. Not surprisingly, Mr. Bernanke often is asked to reflect on the financial crisis. He offered something a little different than his normal response on Friday night.

“In many ways, in retrospect, the crisis was a normal crisis,” he said. “It’s just that the intuitional framework in which it occurred was much more complex.”

In other words, there was a panic, and a run, and a collapse – but rather than a run on bank deposits, the run was in the money markets. Improving the stability of those markets is something regulators have yet to accomplish.

Article source: http://economix.blogs.nytimes.com/2013/03/02/different-time-zone-same-defense-for-bernanke/?partner=rss&emc=rss

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Fed Officials Debate Bank’s Losses Once Economy Mends

February 23, 2013 by Leave a Comment

When the economy grows stronger, the Fed plans to sell some of its vast holdings of Treasury and mortgage-backed securities. The Fed also plans to pay banks to leave some money on deposit with it to limit the pace of new lending.

And that could prove an awkward combination. The Fed faces the possibility of large losses as it sells off securities, which could force the central bank to suspend annual payments to the Treasury Department for the first time since the 1930s, even as it would be increasing the amounts paid to the banking industry for its cash holdings at the Fed to control inflation.

“That sounds like a recipe for political problems,” said James Bullard, president of the Federal Reserve Bank of St. Louis. He described the predicament as one reason the Fed might consider limiting its plans for additional asset purchases.

But Eric S. Rosengren, president of the Federal Reserve Bank of Boston, said that concerns about potential losses needed to be weighed against the benefits of asset purchases. The Fed holds almost $3 trillion in Treasuries and mortgage bonds, and it is adding about $85 billion a month in an effort to cut unemployment.

Mr. Rosengren, a leading advocate of the purchases, said Boston Fed research showed asset purchases this year could help create about 400,000 new jobs.

“That’s what the Federal Reserve should really be caring about, what’s happening with the dual mandate with and without” the asset purchases, Mr. Rosengren said. “When I think about the costs, I have to weigh that against the benefits,” he said at the US Monetary Policy Forum in New York on Friday.

By law, the Fed sends most of its profits to the Treasury, and in recent years those profits have soared as the Fed has collected interest on its investments. Last year, the central bank contributed $89 billion to the public coffers — essentially refunding a significant portion of the federal government’s annual borrowing costs.

The purpose of the investment portfolio is to hold down borrowing costs for businesses and consumers. As the economy revives, the Fed has said it will begin selling some of those holdings. But it faces potential losses on those sales because interest rates would be rising. Security prices, which move inversely to rates, would be falling, and the government would be issuing new debt at the higher rates, making the low-yield bonds that the Fed holds less valuable.

Estimating the potential losses requires a wide range of assumptions on Fed policy, economic growth and interest rates. A Fed analysis published last month, which assumed that interest rates rose to 3.8 percent later this decade, estimated that the central bank might record losses of $40 billion and suspend contributions to the Treasury for four years beginning in 2017. If rates rose by another percentage point, however, the analysis estimated that losses would triple. An independent analysis published on Friday foresaw losses of around $20 billion and a suspension of payments for only three years.

The Fed can afford to lose money because it can simply print more. It would record a liability, and pay down the debt as profits rebounded.

But there are signs that the Fed’s political opponents would seize on any losses as evidence of economic malpractice. And such that criticism could come at a vulnerable moment: central banks are never popular when they are raising interest rates.

Representative Jim Jordan, an Ohio Republican, cited the potential losses in an open letter this week to the Fed chief, Ben S. Bernanke, requesting more information on what he called “the potentially devastating consequences from any unwind.”

Jerome H. Powell, a Fed governor, insisted Friday that the central bank would not allow its course to be influenced by such political pressure.

“We’re independent for a reason,” he said. “Congress has given us a job to do.”

Some supporters of current Fed policy also argue that an economic revival would inoculate the central bank against criticism, in part because the government’s coffers would be filling even without the Fed’s contributions.

But Frederic S. Mishkin, a Columbia economist and one of the authors of the independent analysis of the Fed’s potential losses, said that was wishful thinking.

“Politicians have very short memories,” said Professor Mishkin, a former Fed governor. “They’re going to focus very much on the fact that the Fed is no longer pulling its weight in terms of producing remittances for the federal government.”

Article source: http://www.nytimes.com/2013/02/23/business/fed-officials-debate-banks-losses-once-economy-mends.html?partner=rss&emc=rss

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U.S. Manufacturing Weakens, but May Rebound Quickly

February 15, 2013 by Leave a Comment

In a further sign that the sluggish economic recovery remains on track, consumers were a bit more upbeat early this month even as they paid more for gasoline and a tax increase reduced their paychecks, other data on Friday showed.

“The economy is on a slowly improving course and it’s got enough headwinds that we are going to see some volatility in these month-by-month numbers,” said Jerry Webman, chief economist at Oppenheimer Funds in New York.

Manufacturing output fell 0.4 percent last month, the Federal Reserve said. But production in November and December was much stronger than previously reported, and the 3.2 percent drop in auto output in January — the largest since August — followed two solid months, suggesting it was just a temporary pause.

“Given that most of the weakness was due to the giveback in motor vehicle production after the 11 percent surge in activity during the last two months of last year, we expect this retreat in industrial output to be temporary,” said Millan Mulraine, senior economist at TD Securities in New York.

In a separate report, the New York Federal Reserve Bank said its Empire State general business conditions index, which gauges factory activity in the state, rose to 10.0 from minus 7.8 the month before. The index for February showed the first growth in the sector since July and the best performance since May 2012.

The rebound was driven by new orders, which hit their highest level since May 2011. Economists said the rising activity most likely reflected recovery from Hurricane Sandy, which struck the East Coast in late October.

“What we are seeing in manufacturing is that growth that had been leading the economy is now roughly keeping pace with the overall economy, and that’s likely to remain the case through 2013,” said Gus Faucher, senior economist at PNC Financial Services Group in Pittsburgh.

Separately, the Thomson Reuters/University of Michigan index of consumer sentiment rose to 76.3 in early February, from 73.8 in January.

Households drew comfort from steady job gains, which together with rising home and stock prices should help offset a recent increase in payroll taxes and underpin consumer spending.

“Consumers are getting over the fact that their paychecks are a little smaller since the beginning of the year due to the sunset of the payroll tax holiday,” said Thomas Simons, an economist at Jefferies Company in New York.

“This offers some encouragement that consumption will recover following a weak month in January.”

The weakness in manufacturing last month contributed to push overall industrial production down 0.1 percent.

Production at the nation’s mines fell 1 percent, but cold weather lifted utilities’ production by 3.5 percent. Americans who needed to spend more money on utilities in January should support consumer spending this quarter.

Article source: http://www.nytimes.com/2013/02/16/business/economy/industrial-production-slips.html?partner=rss&emc=rss

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Today’s Economist: Simon Johnson: A Hollow Case for Big Banks

February 7, 2013 by Leave a Comment

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Simon Johnson, former chief economist of the International Monetary Fund, is the Ronald A. Kurtz Professor of Entrepreneurship at the M.I.T. Sloan School of Management and co-author of “White House Burning: The Founding Fathers, Our National Debt, and Why It Matters to You.”

An interesting debate is developing within the Republican Party on how to approach the problem of too-big-to-fail financial institutions.

Today’s Economist

Perspectives from expert contributors.

On the one hand, a growing number of influential voices are pushing for measures that would limit the size of megabanks or even push them to become smaller. Richard Fisher, president of the Federal Reserve Bank of Dallas, continues to draw a lot of attention, as does Thomas Hoenig, the former president of the Federal Reserve Bank of Kansas City and now vice chairman of the Federal Deposit Insurance Corporation. And Jon Huntsman planted a strong conservative flag on this issue during his run for the presidency in 2011.

This assessment is now shared much more broadly across the right, as seen in recent opinion pieces by George Will and Peggy Noonan, as well as regular analysis by James Pethokoukis of the American Enterprise Institute, some of it on the issue I write about today. See this Holiday 2012 survey, provided by the Dallas Fed, with links to views in favor of and against breaking up the big banks.

Senator David Vitter of Louisiana and Jim DeMint, the former senator from South Carolina who now heads the Heritage Foundation, have also come out hard against very big banks. Both men are usually considered to be in the right wing of the party.

But some other Republicans are pushing back, as seen this week in a paper by Hamilton Place Strategies, a group headed in part by communications professionals who previously worked with President George W. Bush, John McCain and Mitt Romney. (The people involved insist that it is not a Republican firm. Of its five partners, four previously had senior Republican jobs, while the fifth worked for Hillary Clinton and other Democrats. Of its three managing directors, two have worked for Democrats and one was a senior staff member on the Romney campaign. Historically, of course, deference to big banks is bipartisan.)

Can Hamilton Place Strategies help turn the tide within Republican thinking? This is not likely, because its paper is not credible and should not be taken seriously for three reasons.

First, it fails to deal with the most important recent work showing the problems with big banks. For example, it essentially ignores the analysis of Andrew Haldane and his colleagues at the Bank of England, which finds no economies of scale and scope for the world’s largest financial institutions (the paper mentions the finding that economies of scale do not exist above about $100 billion but does not go into the specifics of this result). I see no mention of Richard Fisher and Harvey Rosenblum of the Dallas Fed, who explain clearly how megabanks weaken the effectiveness of monetary policy and undermine United States influence over all aspects of our financial system (a direct counter to one main point of the Hamilton Place Strategies paper).

The paper makes vague assertions that bank equity capital is now sufficient to withstand future adverse shocks, but it fails to take on any of the many concerns raised by Anat Admati and her co-authors, which are increasingly gaining traction. Professor Admati and Martin Hellwig have a new book, “The Bankers’ New Clothes,” which will be introduced on Monday at the Peterson Institute for International Economics (where I am a senior fellow); excerpts have been posted on Bloomberg. Anyone who wants to be taken seriously in this debate needs to read the book (and the technical papers already available).

Second, Hamilton Place Strategies denies the existence of too-big-to-fail subsidies for global megabanks. This is laughable. Has it talked to anyone in credit markets about how they price various kinds of risk – and assess the willingness and ability of the government and the Fed to support troubled megabanks? Or have its authors read thethe report on the Safe Banking Act, produced by the staff of Senator Sherrod Brown, Democrat of Ohio? The International Monetary Fund, the Bank of England and other sources cited there put the funding advantage of too-big-to-fail banks at 50 to 80 basis points (0.5 to 0.8 of a percentage point, which is a lot in today’s market).

Such subsidies encourage big banks to borrow more – to take more risk and to become even larger. The damage when such a bank fails is generally proportional to its size. So this implicit taxpayer subsidy creates serious risks for the macroeconomy and contributes to the further buildup of taxpayer liabilities – when any financial system crashes, that causes a recession, reduces tax revenue, and pushes up government debt.

Even William Dudley, the former Goldman Sachs executive who now heads the Federal Reserve Bank of New York, acknowledges that too-big-to-fail and its associated subsidies continue. Daniel Tarullo, the lead Fed governor for financial regulation, is in the same place. (Again, neither is cited in the Hamilton Place Strategies document.)

Hamilton Place Strategies contends that large banks can be resolved – taken through liquidation by the F.D.I.C. without difficulties – and that the “living wills” process helps to provide a meaningful road map. I talk to people closely involved with these issues, officials and private-sector participants (as a member of the F.D.I.C.’s Systemic Resolution Advisory Committee and as a member of the Systemic Risk Council, led by Sheila Bair, the former chairwoman of the F.D.I.C.). Hamilton Place Strategies is completely wrong on the substance here.

Hamilton Place Strategies also asserts that global megabanks are an essential part of a well-functioning international economy. Again, I don’t know where this comes from. As part of my work at the Massachusetts Institute of Technology and at the Peterson Institute, I talk with people who run companies, large and small, operating around the world; they emphasize that they need financial services provided by well-run institutions and markets that have integrity.

Putting too-big-to-jail banks in charge of financial flows helps no one – except, presumably, the executives at those banks that the Department of Justice has determined are immune from criminal prosecution.

Third, the Hamilton Place Strategies “report” reads as if it is either some form of paid advertising or a sales pitch to potential clients — but the firm refuses to disclose for whom it is working and on what basis.

In response to an e-mail request for such information, Patrick Sims of Hamilton Place Strategies replied:

While we don’t publicly disclose our individual clients, we make no secret that we do work for large financial institutions, both foreign and domestic, and related associations. It would be fair for you to note that in your writing. But the views expressed in the paper represent the longstanding views of the firm.

I’m not sure what “longstanding” means, as the firm was founded in 2010. But in any case, this lack of disclosure completely destroys the credibility of Hamilton Place Strategies and its work in this area.

The firm is in the business of influencing opinion. As it says prominently on its Web site, “We show clients how to shape opinion, navigate challenges, make informed decisions and create opportunities.”

While the firm’s clients in this area may not be clear, the language in its report strongly resembles arguments being made by the Financial Services Forum and other lobbying groups for large banks. For example, an unsigned blog post on the Financial Services Forum’s Web site from November 2011 has the same arguments and similar wording to what is in the Hamilton Place Strategies report. (It also objects to an earlier commentary I wrote.)

Perhaps all this is a coincidence; the firm has not yet been willing to discuss these points. When I acquainted the firm with what I was writing in this post and sought comment, the only substantive reaction was a request not to characterize it as a Republican firm.

We have seen deceptive lobbying, posing as objective research, many times in the financial reform debate – for example, the case of Keybridge Research on derivatives, which I wrote about in 2011.

If a company’s lawyer is quoted in the press, the report will always include mention of the client-lawyer relationship. Everyone is entitled to a spokesperson.

Law firms are not afraid to tell you whom they represent. After Charles Ferguson’s Oscar-winning movie, “Inside Job,” many academics now disclose when they produce a paper on behalf of an industry association (e.g., Darrell Duffie of Stanford disclosed that he was paid $50,000 by the Securities Industry and Financial Markets Association, a lobbying group, to write a paper opposing the Volcker Rule). Karen Shaw Petrou, a leading banking analyst with whom I have also disagreed on too-big-to-fail issues, discloses “selected clients and subscribers” in some detail.

Upton Sinclair once quipped, “It is difficult to get a man to understand something, when his salary depends upon his not understanding it.”

Hamilton Place Strategies’ decision not to disclose who is paying for its “research” is far more significant than all the errors in its white paper.

Article source: http://economix.blogs.nytimes.com/2013/02/07/a-hollow-case-for-big-banks/?partner=rss&emc=rss

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