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Economic Troubles in Europe and U.S. Start to Affect Asia

December 6, 2011 by Leave a Comment

HONG KONG — A rate cut in Australia and lowered economic growth estimates by the Asian Development Bank on Tuesday highlighted the extent to which the economic woes of Europe and the United States are spilling over into this part of the world.

Economic growth in much of Asia remains robust, the Asian Development Bank said. But trade and financial activity have already started to be hit by the turmoil in Europe and risk being undermined further if the sovereign debt crisis in the euro zone evolves into a full-blown financial and economic crisis of the kind seen after the collapse of Lehman Brothers in September 2008.

“Things are changing very rapidly — not just weekly and daily, but hourly,” Iwan J. Azis, head of the A.D.B.’s office of regional economic integration, said at a news conference in Hong Kong, as he presented the bank’s latest update on emerging East Asian nations.

The A.D.B. lowered its 2012 growth forecast for the emerging East Asia region — which includes China and much of Southeast Asia, but not India and Japan — to 7.2 percent, from a previous projection of 7.5 percent.

It also cautioned that growth could be as low as 5.4 percent if the West’s troubles escalated and tipped the United States and Europe back into recession.

Hopes of at least a modest upturn in the United States have risen after some better-than-expected manufacturing and job data in recent weeks, though unemployment there remains worryingly high.

The outlook for Europe, however, is grim, as austerity budgets and tighter lending by beleaguered banks constrain growth. Analysts at Nomura, for instance, said they expected the euro zone to contract 1 percent next year.

Top European policy makers are to assemble in Brussels on Thursday and Friday to try to come up with a solution for the region’s sovereign debt woes. Over the past weeks, the crisis has spilled beyond small peripheral euro zone nations and begun to undermine investors’ confidence in larger economies like Italy and even France.

The rapid deterioration has prompted a succession of support measures from international financial institutions in recent weeks: The European Central Bank lowered interest rates last month and is widely expected to stage another cut at its policy meeting Thursday.

In another bid to restore confidence, the two main leaders of the euro zone — Chancellor Angela Merkel of Germany and President Nicolas Sarkozy of France — said Monday that they would together push to remake the European Union into a more integrated political and economic federation, with tight legal restraints on how much debt national parliaments can issue.

The changes would effectively subordinate economic sovereignty to collective discipline enforced by European technocrats in Brussels.

It is unclear whether promises of future action will be enough to pacify the markets, which have been testing the resolve of European leaders for months.

Investors initially welcomed the proposed steps, sending stocks and the euro higher in Europe and the United States. But some of those gains were swiftly eroded after Standard Poor’s put 15 European nations on a credit watch, and stocks fell across the Asia-Pacific region Tuesday. The main indexes in Japan and Australia dropped 1.4 percent, and in Hong Kong, the Hang Seng index fell 1.2 percent.

Standard Poor’s said its warning of possible downgrades for core European nations had been prompted by its belief that “systemic stresses in the euro zone have risen in recent weeks to the extent that they now put downward pressure on the credit standing of the euro zone as a whole.”

“If the response of policy makers is not viewed by investors as robust, we believe market confidence could take another, possibly steep, drop downward,” the ratings agency said.

The Asia-Pacific region, meanwhile, is for the most part not burdened with the high government and household debt levels that are weighing on Europe and the United States. Asian banks also have little exposure to European debt, meaning that any defaults would not cause huge write-downs.

Still, much of the region depends on the West as a market for its products, and slowing demand in the United States and Europe has caused export growth from Asia to ease in recent months.

Economic growth in China has also slowed as Beijing’s efforts to cool down excessively rapid growth earlier this year have borne fruit.

The Australian central bank highlighted those concerns with its decision to lower interest rates
on Tuesday. The cut, the second in two months, took the main cash rate to 4.25 percent from 4.5 percent.

Trade in Asia is now “seeing some effects of a significant slowing in economic activity in Europe,” Glenn Stevens, the governor of the Reserve Bank of Australia, said in a statement accompanying the interest rate move.

“The sovereign credit and banking problems in Europe, to which European governments are still seeking to craft a full response, are likely to weigh on economic activity there over the period ahead.”

Analysts have also recently grown increasingly worried that beleaguered European banks could sharply scale back their lending in Asia.

Although there is little evidence at this stage of a full-scale withdrawal by such lenders, “there is a lot of scope for that to happen if the European situation worsens,” Rob Subbaraman, chief Asia economist at Nomura, said in a media conference call Tuesday.

Asian stock and bond markets have also seen portfolio outflows as nervous U.S. and European investors put their funds closer to home. This has caused currencies like the Indian rupee and the Indonesian rupiah to slump against the U.S. dollar.

The good news, however, is that policy makers in Asia have more flexibility than their Western counterparts to prop up flagging growth via interest rate cuts or tax incentives. Some, like Indonesia and Australia, have already cut rates, and analysts expect more such steps across the region next year. Such policy support, Mr. Subbaraman said, should help Asia to bounce back more rapidly from a downturn than other parts of the world.

Moreover, Mr. Azis of the A.D.B. said, banks in Asia have ample liquidity and could help fill financing shortfalls caused by a withdrawal of loans from European banks in the region. Despite the turmoil in the West, “Asia is in for a soft landing — not a hard landing,” he said.

Stephen Erlanger contributed reporting from Paris.

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Off the Charts: Europe’s Consumers Are Pointing the Way Down

October 14, 2011 by Leave a Comment

Germany is the dominant member of the group of countries doing well, although a few smaller countries, including Austria and Estonia, are also posting good results.

In the middle group are countries that are less competitive and showing signs of stress, but still growing. In the bottom group are countries with major problems. Some are showing more signs of growth than others — Ireland this week reported surprisingly good industrial production figures — but consumers are suffering in all of them.

Statistics on imports help show which countries are in which group.

In all European countries — and virtually all other countries around the world as well — trade levels plunged after the credit crisis intensified with the collapse of Lehman Brothers in September 2008. Trade financing became hard to get for many exporters, and customers slashed orders out of fears that the recession would get much worse or that they would be unable to finance the purchases.

Trade volumes recovered after credit conditions eased, and many economies began growing again. That trend is continuing for countries whose economies are in decent shape, but in others, the recovery in trade appears to be over. This time, the issue is often a simple one: the buyers cannot afford what they used to buy.

The accompanying charts show changes in imports at eight members of the euro zone — the largest ones and the ones that have been forced to seek bailouts.

The charts are based on three-month averages of seasonally adjusted imports, and show the change in levels from the average of June through August 2008, just before the Lehman collapse.

Germany stands out because its imports are now well above the precrisis levels, and are continuing to rise. In most of the other countries, the trend line has turned down over the last few months. This week, even Germany reported a very small decline in imports from July to August, although the three-month average did continue to rise.

Greece also stands out, but for the opposite reason. There, austerity is taking its toll and imports are plunging. They totaled just 2.9 billion euros in August, on a seasonally adjusted basis. That was nearly half a billion less than the July figure and the lowest figure for any month since 2002. Before the credit crisis hit, Greece was averaging imports of more than 5 billion euros a month.

The good news for Greece is that its exports are rising rapidly, but that increase is off a very low base and the country continues to run large trade deficits.

In both France and Italy, imports have returned to precrisis levels, and the Netherlands has done a little better. But in Ireland, Portugal and Spain, imports are well below the levels of 2008 and are again falling.

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

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Central Banks in Europe Move to Support Economy

October 6, 2011 by Leave a Comment

Both central banks left their key benchmark rates unchanged, at 1.5 percent for the euro area covered by the E.C.B., and 0.5 percent for Britain.

Some analysts had seen a rate cut as a possibility for the euro zone amid growing concern that Europe could again dip into recession. But the E.C.B. has remained steadfastly focused on inflation, which rose again in September.

It did respond, however, to signs that some big banks that are having trouble raising funds at reasonable rates, because other lenders doubt their creditworthiness due to their exposure to shaky government debt.

The E.C.B. said it would resume offering banks unlimited loans at the benchmark interest rate for about one year. Previously the maximum term was six months. Banks must put up collateral such as bonds or other securities, but otherwise are allowed to borrow as much as they want.

To help avert a credit crunch, the E.C.B. also said it would resume buying so-called covered bonds, which are a form of debt secured by packages of loans and guaranteed by the issuing bank. Covered bonds are one of the main ways that banks raise money. The E.C.B. also bought covered bonds in 2009 to alleviate the bank funding crunch that followed the collapse of Lehman Brothers in 2008.

At a news conference, the E.C.B. president Jean-Claude Trichet said the bank expects “very moderate” growth in coming months in “an environment of particularly high uncertainty.”

Hours earlier, the Bank of England said it would widen its so-called quantitative easing program to £275 billion, or $425 billion, from £200 billion.

“Tension in the world economy threatens the U.K. recovery,” the bank governor Mervyn King wrote in a letter to the British Treasury explaining the bank’s decision.

“Vulnerabilities associated with the indebtedness of some euro-area sovereigns and banks have resulted in severe strains in bank funding markets and financial markets more generally,” Mr. King wrote. The euro area is Britain’s biggest export market and demand from the region is vital for an economic recovery.

The British move came about a month earlier than some economists had expected but was no surprise. The Bank of England’s rate-setting committee had hinted last month that it might have to inject more money into the market to support an increasingly threatened economic recovery.

The decision shows that “they believe an already difficult outlook for the economy has deteriorated,” Howard Archer, chief economist for Britain at IHS Global Insight, said.

The pound fell against all major currencies after the announcement. The euro also fell.

Many economists have argued that the E.C.B. erred when it raised rates twice this year, most recently in July. Evidence is growing that the euro area economy is headed for a downturn caused by severe austerity programs in countries like Spain as well as the uncertainty created by the European government debt crisis.

But recent figures showed inflation in the euro area rose to an estimated 3 percent in September, well above the E.C.B. target of about 2 percent. Hard liners on the governing council are likely to have argued that the E.C.B. would violate its mandate to preserve price stability if it cut rates now.

In addition, some members of the governing council, which includes chiefs of national central banks, may have argued that a rate cut just three months after the last increase would be an embarrassing reversal that could damage E.C.B. credibility.

Still, Mr. Trichet could use his last news conference before handing the presidency of the central bank to Mario Draghi, governor of the Bank of Italy, to signal a rate cut in the coming months.

With Greece on the brink of default and problems at banks such as Dexia, a French-Belgian institution, signaling severe strain in the European banking system, European institutions are under pressure to do something to relieve the tension.

José Manuel Barroso, president of the European Commission, the executive of the European Union, said he was advocating a coordinated approach to bank recapitalization across the euro zone.

“It’s not only obvious but indispensable,” he said in Brussels. “I don’t think anyone in Europe is opposed to coordination in such a sensitive area.”

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High & Low Finance: Where Banks Are Big, Rules Seem More Rigid

September 16, 2011 by Leave a Comment

At least that is the way it seems to be shaking out as countries develop new rules on bank capital.

In countries where the financial sector is not an overwhelming presence in the economy, banks seem to be faring better in their lobbying efforts to keep rules relatively gentle.

But the toughest rules in Europe seem to be coming in Britain and Switzerland, the two countries with the largest financial sectors — relative to the size of their economies — left in the world.

That attitude is in sharp contrast to the one that seems to prevail in much of continental Europe. There, regulators seem to be trying to water down at least some of the Basel III standards adopted around the world; France in particular seems to have encouraged its banks to minimize write-offs on Greek debt. Many European banks missed a chance to recapitalize before the sovereign debt mess made that impossible, at least for now. They are hoping to muddle through.

In the United States, which has the largest financial sector but also a huge economy, the picture is not as clear. But it appears regulators are well on the way to much stricter capital rules for all banks, and even harsher rules for the biggest banks.

If that is the way it ends up, it will be a complete reversal of the picture before the financial disaster of 2008.

Then Britain boasted of its “light touch” regulation, an attitude that was said to contrast with the enforcement approach prevalent in the United States. The American financial sector was mounting a big deregulation campaign, saying American institutions were at an international disadvantage that was hurting the United States by moving financial activity to other countries.

Then came the Lehman Brothers collapse.

Countries felt forced to bail out their banks. It was a manageable burden for the United States, but it was a closer call for Britain. The real casualties were Ireland and Iceland, which had seemed to prosper because of rapidly growing financial industries. Basically, the banks bankrupted the countries.

In Britain this week, a commission appointed to set new banking rules issued its final report, which was endorsed by the government and seems likely to go into effect. The new rules seek to “ring fence” really important banking activities to protect them from losses elsewhere in the enterprise, and they set capital standards that seem to be higher than those mandated in the new Basel III rules. In some ways, the reasons the banks needed help in 2008 are less important than the reasons the failures threatened to be so devastating. Those particular mistakes will not be made again anytime soon, and probably not at all. We won’t see Triple-A mortgage-backed securities where no one took the trouble to review the mortgages before the paper was sold.

But one of these days many banks will make some big mistake, and they are likely to do it in a group. That was true of the loans to Latin American countries that precipitated the crisis of 20 years ago, and it was true of foolish real estate lending decades before that.

It would be nice if regulators could prevent those huge errors without also preventing banks from taking reasonable risks. But that will not be easy, and we should not have a financial system dependent on regulator wisdom.

The British commission, led by Sir John Vickers, an Oxford economist, instead calls for a system that will not be a public disaster if the banks do blow it again. That is one of the crucial points to be considered in reviewing regulatory approaches.

The commission does a good job of laying out what failed. First, the banks had too little equity capital in relation to the risks they were running. All those equity percentages that banks brag about are ratios of capital to “risk-weighted assets,” not overall assets. That makes sense in principle, but assets deemed to be low risk — like AAA mortgage securities — turned out to be high risk.

As the Vickers commission put it, “the supposed ‘risk weights’ turned out to be unreliable measures of risk: they were going down when risk was in fact going up.”

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

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Bankers Urge Quick Action on Europe’s Debt Crisis

September 6, 2011 by Leave a Comment

Europe needs to “make a quantum step up in economic and political integration,” Mr. Draghi said as the bond yields of Greece, Italy and other countries with weak finances jumped Monday amid investor fears that such efforts might be failing. He and Mr. Trichet addressed a forum in Paris that focused on the world three years after the collapse of Lehman Brothers.

Stock markets in Europe and Asia slumped Monday amid worries about the health of the United States economy and Europe’s sovereign debt woes.

Markets in the United States, which were closed for the Labor Day holiday Monday, were expected to open lower Tuesday. The Dow Jones industrial average fell 2.2 percent Friday after a government report that no net jobs were created in August.

President Obama will deliver a jobs speech on Thursday, a day before the Group of 7 wealthiest nations meet in Marseille to discuss the European and American economies. Washington wants to make sure that headwinds from Europe’s crisis do not cross the Atlantic while the United States economy remains weak.

Mr. Draghi’s call goes to the heart of what politicians now acknowledge is a root cause of Europe’s crisis, but that few seem ready to change: the lack of a federal fiscal union that would make the euro zone look more like the United States. The idea is something that Germany and others are wary of because it could undermine their national authority.

The calls for what defenders of sovereignty have called the “F word” — federalism — are growing louder, however, as investors warn that volatile financial markets are starting to look similar to the days surrounding Lehman Brothers’ collapse.

Mr. Trichet, who turns over the central bank presidency to Mr. Draghi at the end of October, renewed calls for a federal European government, with a federal finance ministry. Those institutions would have the power to “impose decisions on countries” whose own policies threaten the rest of the euro union, Mr. Trichet said at the Paris conference, sponsored by the Institut Montaigne, a research group.

In Brussels, meanwhile, an unusual gathering of former European leaders, academics and industrialists urged politicians to recognize that part of the answer to Europe’s ills was to give up some sovereignty to keep the euro alive.

“It has become clear that a monetary union without some form of fiscal federalism and coordinated economic policy will not work,” the group said in a statement. Its members include a former German chancellor, Gerhard Schröder; a former Finnish prime minister, Matti Vanhanen; and Nouriel Roubini, a New York University economist.

“Either the Europeans move forward,” Mr. Roubini said, or face “a situation of potential breakup or disintegration.”

Benoit d’Anglelin, a former Lehman banker for 15 years who is now a manager at Ondra Partners, a financial advisory firm in Paris, said he was seeing “extreme risk aversion now” by pension funds and institutional investors, who have been dumping “everything risk-related,” since March.

“It’s becoming unsustainable,” Mr. d’Anglelin said. “Imagine what will happen if the selling gets more serious.”

Despite pledges by European leaders in July to pump billions of euros more into a European Union bailout fund for debt-stricken countries, known as the European Financial Stability Facility, it is not so clear that parliaments in the 17 countries in the euro zone will approve an expansion.

On Monday, the European central bankers emphasized the need for swift action.

In fact, with a debt crisis threatening to worsen in Europe, and persistent economic weakness in the United States, markets have been moving more quickly to punish countries whose politicians are slow to make crucial decisions.

“This is not going to go away,” Mr. Draghi said.

Members of the advisory group that gathered Monday in Brussels, including Mr. Schröder, also expressed strong support for euro bonds. Despite a fierce debate in Germany, Mr. Schröder said the German public could accept them — as long as there were strict controls placed on how and when they were issued.

Even if euro bonds win wider backing, there are other issues that threaten to upend plans for a tighter monetary union to support the euro. Finland has cast doubt on pledges of European unity by insisting that it receive collateral from Greece in return for aid, another issue that threatens to upset plans to expand the bailout fund. Finland’s prime minister, Jyrid Katainen, pledged Monday to resolve the issue quickly.

Europe’s leaders are acting like firefighters, Felipe González, a former Spanish prime minister, said at the briefing held in Brussels. “They try to deal with the current fire but not prevent the next.”

Liz Alderman reported from Paris and James Kanter from Brussels. David Jolly contributed reporting from Paris, and Stephen Castle from Brussels.

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Economix Blog: Risks, Rescues and Remorse

August 26, 2011 by Leave a Comment

Warren Buffett rode to the rescue of Bank of America today, as he did for Goldman Sachs in the dark days of September 2008.

FLOYD NORRIS

FLOYD NORRIS

Notions on high and low finance.

B of A will pay less to be saved, but that can be explained by the fact there is less panic to contend with this time. This time the rumors were that the bank needed to raise capital; back then, the rumors were that Goldman was the next Lehman Brothers.

The terms of the two deals are similar. Berkshire Hathaway, Mr. Buffett’s company, invests $5 billion in straight preferred stock, and gets a warrant allowing him to invest another $5 billion in common stock at a set price. The preferred stock is perpetual, but the company can buy it back at a premium whenever it wishes to do so.

At Goldman he got a 10 percent coupon on the preferred, and it would cost Goldman a 10 percent penalty to buy it back. At B of A, he gets 6 percent coupon and a 5 percent premium for a buyback.

The warrants are different, and reflect that B of A was in a better position. B of A stock closed on Wednesday at $6.99. The warrants are at $7.142857. So at least B of A gets a little premium to market price at the time of the deal if the warrants are exercised.

Goldman shares were at $125.05 when the deal with Mr. Buffett was announced. His warrant was at $115 per share. He got a discount exercise price.

How has Mr. Buffett done at Goldman? Fine on the preferred. Not so fine on the warrant. Goldman bought the preferred back in April. Add in the interest and the repurchase premium, and Berkshire made $1.75 billion over two and a half years. Anything it collects on the warrants will be gravy, but at the moment there is none available. Goldman shares trade around $110.

The warrants had five-year terms, so Berkshire has until October 2013 to exercise them.

Mr. Buffett did do a little better on one term of the warrants at B of A. They are 10-year warrants, twice as long as at Goldman. So he has a lot longer time for the share price to work out.

When Mr. Buffett made his first Wall Street rescue, of Salomon Brothers amid a scandal two decades ago, he was reported to have called his investment a Treasury bill with a lottery ticket attached. He would get a solid return if the company merely survived, and a great one if it prospered.

Seen that way, this is not nearly as risky as a bet as a purchase of B of A stock would be. That may be the essential point that led the early euphoria to fade. B of A stock leaped to $8.80 soon after the opening this morning, but was under $8 by 11 a.m.

It is a sign of both the prestige of Mr. Buffett and of the fragility of markets that either of these deals were available to him.

Of course, there are risks in being a rescuer. A rescuer needs to use cash it can afford to lose, and it needs to have the judgment and courage to refuse to throw good money after bad if things do not go according to plan.

In August 2007, Countrywide Financial, a major home lender, was bailed out by B of A, which invested $2 billion in convertible preferred stock. It was convertible at a discount to current market value. B of A stock rose on the news.

A few months later, with Countrywide in deeper trouble, B of A agreed to take over the whole company for stock then worth $4 billion. The deal closed July 1, 2008. By then B of A was trading for about half what it was worth when it first invested in Countrywide. It had a lot further to fall.

It was one of the worst mergers ever. B of A has yet to reach the bottom of the sinkhole of legal liability created by Countrywide’s reckless lending policies.

But for that rescue by Bank of America, this one — of Bank of America — would not be necessary.

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DealBook: A Bailout Like No Other

August 24, 2011 by Leave a Comment

So, I return from vacation to find that the restructuring of Greece continues to be very much a work in progress. Indeed, it now appears much more likely that Lehman Brothers will confirm a Chapter 11 plan before the European Union will work out its similar issues regarding Greece, Portugal, Ireland, Italy and Spain.

The latest problem comes from Finland’s misunderstanding of the nature of a bailout.

As readers no doubt recall, Greece ratcheted up it its projected deficit – almost doubling it, in fact – after the financial crisis. That quickly lead to Greece’s inability to refinance its debts at an affordable rate in the markets, and several rounds of bailout financing by the European Union and International Monetary Fund began. In exchange for such financing, Greece agreed to extremely painful austerity measures.

Each successive round of financing has become increasingly unpopular in the northern, “responsible” European Union jurisdictions like the Netherlands and, most important, Germany.

In Finland, the process was further complicated by a strong showing by the anti-euro True Finns party in recent elections. Thus, the Finnish government has every reason to “be tough” with Greece, and last week the Finns and the Greeks entered into a bilateral agreement whereby Greece would escrow collateral to protect the Finnish piece of the next bailout.

The problem, of course, is that the Finns are trying to make the bailout a low-risk proposition, and if Greece were a low-risk proposition it would not need a bailout in the first place.

And if Finland gets collateral, why not everyone else too? That, of course, is impossible and leaves Greece in a position where default becomes preferable, even desirable, since it at least leaves Greece in possession of its cash.

Essentially the Finns are a holdout creditor. In the corporate context you solve this problem by filing for bankruptcy and imposing majority rule. The European Union has no such ability to compel dissenting members, and thus we are no nearer a solution to Greece and its collateral effects than we were when this all began a few years ago.

Stephen J. Lubben is the Daniel J. Moore Professor of Law at Seton Hall Law School and an expert on bankruptcy.

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Business Confidence Slips in Germany

August 24, 2011 by Leave a Comment

The Ifo Business Climate Index, which historically has been a good predictor of German economic performance, fell to its lowest level in August since June 2010, a sign that growth could be tapering off even before the country has made up the ground it lost during the sharp recession of 2009.

In addition, industrial new orders in the euro zone also fell more than expected in June from May, the European Union said Wednesday. The drop of 0.7 percent from the previous month was the latest in a string of indicators that have prompted economists to revise down their forecasts for euro zone growth.

“The economic risks have risen significantly,” Jörg Krämer, chief economist at Commerzbank, wrote in a note. “A recession will be the outcome if the sovereign debt crisis escalates,” he wrote, though he added that he expected political leaders to take steps to contain the crisis.

The Ifo climate index, based on a survey of German companies, fell to 108.7 in August from 112.9 in July, as managers grew more pessimistic about future business prospects. Analysts had expected the index to drop to 111.

The expectations component of the index, which also measures managers’ assessment of their current business, fell the most since October 2008, just after the collapse of Lehman Brothers.

“The German economy is not immune to current worldwide turbulence,” said Hans-Werner Sinn, president of the Ifo Institute for Economic Research at the University of Munich, which conducts the survey.

Global stock markets were battered last week by fears that Europe is headed for a sharp slowdown while political leaders are still struggling with the sovereign debt crisis. However, investors shrugged off the bad news Wednesday and Europe’s main stock indexes recorded measured gains. Germany’s DAX Index was up about 1 percent at midday.

Germany’s powerful economy has been helping to counterbalance slow growth in southern Europe, but the Ifo index provides more evidence the country may not be able to play that role at least for the next few months. If business people become more pessimistic, they tend to invest less in expansion, which subtracts from growth.

On the positive side, German employment has continued to rise, which should support consumer confidence. However, citizens may decide to save more than spend if they fear another downturn, Stefan Schilbe, an economist at HSBC in Frankfurt, wrote in a note.

The Ifo data “fits into the picture of a German economy losing momentum in the second half of 2011, compared to the first six months,” Mr Schilbe wrote.

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News Analysis: Time to Say It: Double Dip Recession May Be Happening

August 5, 2011 by Leave a Comment

It has been three decades since the United States suffered a recession that followed on the heels of the previous one. But it could be happening again. The unrelenting negative economic news of the past two weeks has painted a picture of a United States economy that fell further and recovered less than we had thought.

When what may eventually be known as Great Recession I hit the country, there was general political agreement that it was incumbent on the government to fight back by stimulating the economy. It did, and the recession ended.

But Great Recession II, if that is what we are entering, has provoked a completely different response. Now the politicians are squabbling over how much to cut spending. After months of wrangling, they passed a bill aimed at forcing more reductions in spending over the next decade.

If this is the beginning of a new double dip, it will have two significant things in common with the dual recessions of 1980 and 1981-82.

In each case the first recession was caused in large part by a sudden withdrawal of credit from the economy. The recovery came when credit conditions recovered.

And in each case the second recession began at a time when the usual government policies to fight economic weakness were deemed unavailable. Then, the need to fight inflation ruled out an easier monetary policy. Now, the perceived need to reduce government spending rules out a more accommodating fiscal policy.

The American economy fell into what was at first a fairly mild recession at the end of 2007. But the downturn turned into a worldwide plunge after the failure of Lehman Brothers in September 2008 led to the vanishing of credit for nearly all borrowers not deemed super-safe. Banks in the United States and other countries needed bailouts to survive.

The unavailability of credit caused a decline in world trade volumes of a magnitude not seen since the Great Depression, and nearly every economy went into recession.

But it turned out that businesses overreacted. While sales to customers fell, they did not decline as much as production did.

That fact set the stage for an economic rebound that began in mid-2009, with the National Bureau of Economic Research, the arbiter of such things, determining that the recession ended in June of that year. Manufacturers around the world reported rapidly rising orders.

Until recently, most observers believed the American economy was in a slow recovery, albeit one with very disappointing job growth. The official figures on gross domestic product showed the United States economy grew to a record size in the final three months of 2010, having erased the loss of 4.1 percent in G.D.P. from top to bottom.

Then last week the government announced its annual revision to the numbers for the last several years. New government surveys indicated Americans had spent less than previously estimated in 2009 and 2010 on a wide range of things, including food, clothing and computers. Tax returns showed Americans even cut back on gambling. The recession now appears to have been deeper — a top-to-bottom fall of 5.1 percent — and the recovery even less impressive. The economy is still smaller than it was in 2007.

In June, more American manufacturers said new orders fell than rose, according to a survey by the Institute for Supply Management. The margin was small, but the survey had shown rising orders for 24 consecutive months. Manufacturers in most European countries, including Germany and Britain, also reported weaker new orders.

Back in 1980, a recession was started when the government — despairing of its failure to bring down surging inflation rates — invoked controls aimed at limiting the expansion of credit and making it more costly for banks to make loans. Those controls proved to be far more effective than anyone expected, and the economy promptly tanked. In July the credit controls were ended, and the economic research bureau later determined that the recession ended that month.

By the first quarter of 1981 the economy was larger than it had been at the previous peak.

But little had been done about inflation, and the Federal Reserve was determined to slay that dragon. With interest rates high, home sales plunged in late 1981 to the lowest level since the government began collecting the data in 1963. Now they are even lower.

There is, of course, no assurance that a new recession has begun or will do so soon, and a positive jobs report on Friday morning could revive some optimism. But concerns have grown that the essential problems that led to the 2007-09 recession were not solved, just as inflation remained high throughout the 1980 downturn. Housing prices have not recovered, and millions of Americans owe more in mortgage debt than their homes are worth. Extremely low interest rates helped to push up corporate profits, but companies have hired relatively few people.

In any other cycle, the recent spate of poor economic news would have resulted in politicians vying with one another to propose programs to revive growth. President Obama has called for more spending on infrastructure, but there appears to be little chance Congress will take any action. The focus in Washington is now on deciding where to reduce spending, not increase it.

There have been some hints that the Federal Reserve might be willing to resume purchasing government bonds, which it stopped doing in June, despite opposition from conservative members of Congress. But the revised economic data may indicate that the previous program — known as QE2, for quantitative easing — had even less impact than had been thought. With short-term interest rates near zero, the Fed’s monetary policy options are limited.

Government stimulus programs historically have often appeared to be accomplishing little until the cumulative effect suddenly helps to power a self-sustaining recovery. This time, the best hope may be that the stimulus we have already had will prove to have been enough.

Article source: http://www.nytimes.com/2011/08/05/business/economy/double-dip-recession-may-be-returning.html?partner=rss&emc=rss

Filed Under: Global Business Tagged With: , ,

2 Years of Executives’ Pay Can Be Seized Under New Rule

July 6, 2011 by Leave a Comment

WASHINGTON — Federal regulators will be able to take back up to two years of Wall Street executives’ pay if they are found responsible for the collapse of a major financial firm, under a plan approved Wednesday.

The provision is part of a broader Federal Deposit Insurance Corporation rule laying out the order in which creditors will be paid during a government liquidation of a large, failing financial firm.

The 2010 Dodd-Frank financial oversight law gives financial agencies the power to recoup executives’ pay, but bankers were complaining that regulators were taking it too far.

The FDIC’s final rule provided some relief by clarifying “negligence” as the standard. The agency was careful to point out that it was not using the more narrow standard of “gross negligence.”

John Walsh, the acting comptroller of the currency, who had raised concerns about the standard being too broad, said he was pleased with the changes.

“I was concerned that it seemed to focus more on job titles than the actual actions that people had taken,” he said.

The liquidation authority is a major part of the Dodd-Frank law. The idea was to preserve economic stability by unwinding troubled firms, but in a way that is less politically explosive than taxpayer-funded bailouts and less traumatic to the markets than bankruptcy than the Lehman Brothers collapse of 2008.

At the top of the list of what will be paid off first under the new resolution system are any debts the F.D.I.C. or receiver took on as part of the cost of seizing a firm, administrative expenses, money owed to the U.S. Treasury and money owed to employees for such things as retirement benefits.

Further down the list are general creditors.

Banks and financial services companies have complained the framework gives the F.D.I.C. too much latitude to treat some creditors differently. F.D.I.C. leaders downplayed these concerns again on Wednesday, saying their rules were based as much as possible on the bankruptcy code, as industry officials have advocated.

Also on Wednesday, the F.D.I.C. board discussed, but did not vote on, a final rule on how large financial firms should draft “living wills.” These company-drafted documents will give regulators a roadmap for how they can be broken up if they fail.

The F.D.I.C. and the Federal Reserve, which will jointly issue the living will rule, are still deciding details.

F.D.I.C. Chairman Sheila Bair, who is leaving the agency on Friday at the end of her five-year term, said she hoped a final rule would be done in August.

Article source: http://feeds.nytimes.com/click.phdo?i=11c474ca70194a37537615435547033f

Filed Under: Business News Tagged With: , ,
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