What Economic Growth in the United States? And, in Europe?

The Congressional Budget Office (CBO) just released its forecast for economic growth and what it sees seems to differ substantially from what the Federal Reserve sees.

The CBO forecast places economic growth (real GDP growth) for the United States at 2.0 percent this year and at 1.1 percent in 2013. (http://www.nytimes.com/2012/02/01/us/politics/deficit-tops-1-trillion-but-is-falling.html?_r=1&ref=todayspaper)

The Federal Reserve just released its projections last week.  Taking the average of the ranges given, the Fed is forecasting that economic growth in 2012 will be 2.5 percent, and, for 2013 will be 3.0 percent.

Hey, these forecasts are going in opposite directions!

The one forecast, that of the CBO, emphasizes the future of the federal deficit: “The deficit will be $1.1 trillion in the current fiscal year, about $200 billion less than in 2011, and will fall sharply in the next three years as a result of tax increases and spending cuts required by existing law…”

The other forecast, that of the Federal Reserve, emphasizes the future of interest rates: short-term interest rates will remain close to zero until well into 2014.

In one sense, it seems as if the consequences of the two forecast are backward.  In order for the deficit to decline, the economy needs to be growing so that tax revenues will increase and welfare payments will decrease.  This will not happen if economic growth slows and unemployment increases…as it does in the CBO projection. (See a strong argument on this point, http://professional.wsj.com/article/SB10001424052970204740904577195352148844134.html?mod=WSJ_Opinion_LEADTop&mg=reno-secaucus-wsj.)

The Federal Reserve, on the other hand, has short-term interest rates staying extremely low despite the fact that they predict rising rates of economic growth, a condition that usually produces higher levels of interest rates.  This is because the demand for money generally increases with the rising level of incomes produced by the economic growth.

The major point is, however, that the CBO has produced a pretty dismal economic forecast. 

The CBO projection has unemployment rates rising to 8.9 percent in the last quarter of this year, up from 8.5 percent in December 2011.   Furthermore, the unemployment rate is expected to rise to 9.2 percent in the final quarter of 2013. 

This is not good!

And, what happens to the amount of under-employment if the CBO forecast takes place.  We certainly would see the under-employment rate stay in the 20 to 25 percent range.

On top of this is the real threat of recession in Europe.  The question is, how much does a European recession play into the forecasts of the Congressional Budget Office?

My big fear has been that a recession in Europe will have very negative connotations for growth in the United States.  (See my post, “Issue Number 1 for 2012: Recession in Europe,” http://seekingalpha.com/article/317268-issue-number-1-for-2012-recession-in-europe.)

Data released yesterday and presented by the Financial Times indicates that the unemployment rate for the eurozone was at 10.4 percent at the end of 2011 for the whole workforce, and was at 21.3 percent for the category “youth.”  Furthermore, the consensus real GDP growth for the eurozone is at negative 0.3 percent, not a level that is conducive to the reduction in the unemployment rate. 

The unemployment rate ranges from 22.9 percent in Spain and 19.2 percent in Greece to 5.5 percent in Germany and 4.1 percent in Austria showing the split that exists within the eurozone, itself. (See ”Eurozone Jobless Rate at Euro-era High,” http://www.ft.com/intl/cms/s/0/dca5fe48-4bf3-11e1-98dd-00144feabdc0.html#axzz1l92ForcZ, and, “Contraction Threat Clouds Euro Zone,” http://professional.wsj.com/article/SB10001424052970204740904577194442237686180.html?mod=ITP_pageone_3&mg=reno-secaucus-wsj.)

How much impact will this “European Recession” have on the economy of the United States and has it really been taken into account by the forecasters of the CBO and the Federal Reserve System?

And, given the over-extended position of consumers (http://seekingalpha.com/article/328252-where-is-the-u-s-consumer), corporations (http://seekingalpha.com/article/326412-corporate-confidence-continues-to-wane) , and banks (http://seekingalpha.com/article/320698-what-s-to-like-about-the-united-states-banking-system), where might a pickup in spending take place?

Given these facts, I tend to agree more with the economic projections of the Congressional Budget Office than I do with those of the Federal Reserve.  However, if we do achieve the growth rates of the Congressional Budget Office it would seem that the cumulative federal deficit for the next five years would be closer to the cumulative federal budget deficit of the past five years…in excess of $6 trillion, than what is now being forecast.

In essence…we are going nowhere…fast!

Where is the US Consumer?--Part 2

Two pieces of news today that go along with my earlier post about the pressures families are facing in the United States. (http://seekingalpha.com/article/328252-where-is-the-u-s-consumer).   

First, “Home Prices Tumble.” (http://professional.wsj.com/article/SB10001424052970204652904577194752102528744.html?mod=WSJ_hp_LEFTWhatsNewsCollection) “For November, the Case-Shiller index of 10 major metropolitan areas and the 20-city index both fell 1.3% from the previous month. David M. Blitzer, chairman of the index committee at S&P Indices, also noted that 19 of the 20 major U.S. metropolitan markets covered by the indices in November saw prices decline from October…

The 10-city and 20-city composites posted annual returns of negative 3.6% and negative 3.7%, respectively, compared with November 2010.”

Second, “Consumer Confidence Unexpectedly Declines.” (http://blogs.wsj.com/economics/2012/01/31/consumer-confidence-unexpectedly-declines/)  “U.S. consumer confidence in January gave back some of the huge gains posted in the previous two months, according to a report released Tuesday. Views on labor markets darkened.

The Conference Board, a private research group, said its index of consumer confidence retreated to 61.1 this month from a revised 64.8 in December, first reported as 64.5. The January index was far less than the 68.0 expected by economists surveyed by Dow Jones Newswires.

Perceptions about the job markets worsened this month. The survey showed 43.5% think jobs are “hard to get” up from 41.6% saying that in December, while only 6.1% think jobs are “plentiful” down from 6.6% in December.”

These data are consistent with the material presented in the earlier post.  The United State consumer has lots to worry about and, for a large portion of this consumer base, spending is not expected to be very robust in future months.  And, their situation cannot be turned around soon by either monetary or fiscal policies. 

Where is the US Consumer?

“Rising Income is Saved, Not Spent,” reads the Wall Street Journal Tuesday morning. (http://professional.wsj.com/article/SB10001424052970204740904577192702993936344.html?mod=ITP_pageone_1&mg=reno-secaucus-wsj)

“Personal income increased 0.5% in December from November adjusted for seasonality, the largest monthly increase since March…but spending was flat over the month—actually fell when inflation is factored in.”

“The savings rate, around 5.0% for the first half of 2011, was near 4.0% for much of the second half of the year…. Economists warned that consumers would soon resume socking away cash at the expense of spending, and that appears to be playing out now.”

With unemployment still high and the housing market in the doldrums, consumers are reluctant—and in many cases unable—to increase their spending in a big way.”

The Federal Reserve’s recently released forecast projected unemployment rates remaining at high levels through 2014, declining only slightly throughout the next three years.  And, even worse, underemployment is also expected to remain high with the rate of underemployment staying near to one out of every five people of working age.  No help coming here.(

Furthermore, a large proportion of homeowners still find themselves “under water” with mortgages that exceed the market value of their houses.  This situation is not expected to improve in the near future.

Robert Shiller, the Yale economist, was just interviewed at Davos and responded to questions about home prices by saying that prices will probably continue to decline, although not at the rate they declined in recent years.  He added that even if housing prices did stop declining, there is no reason to expect that they would start to rise anytime soon.  In addition, he added, that even though housing prices were returning to something more like a “fair value” that historically, the tendency was for the market to “overshoot” the “fair value” until all the previous exuberance is wrung out of the market. (http://professional.wsj.com/article/SB10001424052970204740904577192702993936344.html?mod=ITP_pageone_1&mg=reno-secaucus-wsj)

A White House effort to lessen the impact of these homes that are “under water” seems to have failed in that the program developed by the administration has not reached enough borrowers to have much impact on the market. (http://www.ft.com/intl/cms/s/0/cf9fed00-4a89-11e1-8110-00144feabdc0.html#axzz1l2qSCMaM)

Even more chilling is the report released today by the Corporation for Enterprise Development (CFED) titled “The 2012 Assets & Opportunity Scorecard: How Financially Secure are Families?” (Go to http://cfed.org/.)   This study presents what it calls the households that are in “liquid asset poverty”.  A household is considered in liquid asset poverty if it owns a home, yet has no savings to speak of.  These people are just one significant emergency away from a real financial crisis. 

The emergency could take the form of a major car breakdown or a health problem.  Most of these people are earning a regular paycheck, CFED says, but they don’t really realize how close to the edge they are living.  Many have some other form of debt, but in an emergency would have to rely on very expensive sources of debt to try and carry them through the emergency. 

The study reports that 43 percent of the households in the United States are liquid asset poor.  This amounts to roughly 128 million households. 

Again, we seem to see the country bifurcating.  There are those households that are doing OK and are continuing to spend through these tough times.  Yet, there are a large number of people that have to watch out where every penny of their income is going.  This means that the economic recovery will not only remain week, but it will be fragile and susceptible to unexpected shocks.

Saving and deleveraging are still needed and being sought by many families, but this will just mean that the recovery will be missing any strong support from consumer spending in the near term.

And, it means that banks and other financial institutions cannot be sure of value of many of the assets on their balance sheets, both mortgages and consumer loans, but also face the fact that loan demand will also not be strong in the future.

We are still looking for where the surge in economic activity will come from.    

Corporate Confidence Continues to Wane

I closed my review of the 2012 prospects for mergers and acquisitions with this paragraph: “Let’s hope the boom in M&A business does take place. Let’s hope that the corporate cash and corporate borrowing do not go just to corporations buying back their own stock. Let’s hope that the unwinding and restructuring takes place because that is one prerequisite for business to get back to the capital investment activities that do drive economic growth.”

(http://seekingalpha.com/article/321037-the-outlook-for-mergers-and-acquisitions-in-2012)

However, at the end of January we see the headlines: “M&A volumes at lowest for a decade.” (http://www.ft.com/intl/cms/s/0/f23718f6-4a76-11e1-8110-00144feabdc0.html#axzz1kx2Cicvs) “Dealmaking has had its slowest start to a year for nearly a decade, as companies’ appetite for mergers and acquisitions remains suppressed by the uncertain outlook for the global economy.”

The deal volumes announced so far this year…about half the level of 2011 at this time according to S&P Capital IQ.

Additionally, we read “Hordes of hoarders,” concerning corporate cash hordes…with corporate entities holding onto well over $1.7 trillion at last count. “ (http://www.ft.com/intl/cms/s/0/4cd6cb8c-48e0-11e1-974a-00144feabdc0.html#axzz1kx2Cicvs) “At present, cash accounts for more than 6 percent of US non-financial companies.”

In one specific case, Apple has almost $100 billion in cash on its balance sheet, about level with the market value of firms like McDonalds, or ConocoPhillips, or Cisco Systems.

This pales against the cash holdings of US commercial banks who in January 2012 hold almost 13 percent of their assets in cash balances, up from 9.3 percent at the end of 2010.

I know that this is early in the year, but with everyone looking for positive signs that the economy is picking up steam we need to consider other signs as well. Furthermore, the current situation is not unlike the situation that existed at the start of last year…and the actual commitments never really came about.

The one word that seems to be on almost everyone’s lips concerning this situation is…uncertainty.

There is just so much uncertainty that exists in the world right now that people are unwilling to commit substantial resources to acquisitions…or capital investments.

Where is this uncertainty coming from?

In my mind this uncertainty exists from the lack of economic leadership in the world today.  Europe continues to dither…and so does the UK…and so does the US. 

No one seems to know where they are going…or where we are going. 

How can anyone commit in such an environment?

Who knows what economic policies are going to prevail in these areas over the next year or two…let alone the next three months?

Who knows how the people in these areas are going to react to whatever economic policies are going to be enacted by their governments?

We’ve seen how the governments have acted in the recent past…and these examples cannot give anyone much confidence.

Right now, I am concentrating on factors such as these to try and understand the state of the economy.  Business leaders may be prepared to commit in the future and certainly they have the means to borrow additional funds if they need them.

These leaders still face the following question: “Why should I commit to buy another company now when the economy could get worse and I could buy the same company for a lower price at some time in the near future?” 

Right now, the probability of this happening is still apparently large enough that it is causing these business leaders to hesitate to commit on acquisitions…or capital investment. 

I keep asking people to name one person in a position of political authority in the world that they would apply the title “leader” to…and I keep coming up with silence.

Unfortunately, I don’t believe that business leaders are going to commit resources until some sort of political leadership is forthcoming. 

I still believe that we can look at how corporations are using their “cash” as an indicator of future economic performance. 

For right now, though, the “cash” stays on the balance sheets!

Mr. Bernanke Gets His Way

Well, Mr. Bernanke has moved the Federal Reserve to a position of greater transparency. 

We now have projections of interest rates out until the end of 2014.  It is now believed by most members of the Fed’s Open Market that the Federal Funds rate will remain close to zero until the end of 2014.

What is the probability that the Federal Funds rate will be close to zero for the last six months of 2014?

In my mind, zero or close to it!

What is the probability that the Federal Funds rate will be close to zero for the first six months of 2014?

In my mind, zero or close to it!

What is the probability that the Federal Funds rate will be close to zero for the last six months of 2014?

You guessed it!

And, so on…

Seems like I don’t have a lot of confidence in these forecasts. 

What are these forecasts for, then?

I have already written my answer to this question.  These forecasts are to make Mr. Bernanke feel better. (http://seekingalpha.com/article/317453-bernanke-transparent-about-his-lack-of-self-confidence)

Mr. Bernanke doesn’t want to be misunderstood.  Apparently, in the past, Mr. Bernanke feels that he has been misunderstood.  Now, with the “new transparency” there should be no doubt where Mr. Bernanke and the Fed stand…and Mr. Bernanke should feel justified.

This is the first time in my mind that the Federal Reserve has done something of this magnitude so as to make the Chairman of the Board of Governors feel better.

I hope it achieves its goal because as far as I am concerned this new transparency program does absolutely nothing for me in terms of understanding where interest rates are going to be for the next two to three years.  It does absolutely nothing for me in terms of understanding what the monetary policy of the Federal Reserve is going to be for the next two to three years. 

If anything this new transparency program will assist, in the shorter-term, speculators in making lots of money.  George Soros, and others like him, loves a situation in which a government says it is going to maintain a price for as long as it can.  This type of government activity creates “sure thing” bets. 

The economy is in the condition it is in because there is still a lot of insolvency around.  By keeping short-term interest rates as low as they are helps financial institutions and other private or public organizations remain open hoping that they will be able to work themselves out of their insolvency. 

According to a report released Wednesday put together by the American Bankers Association and State Bankers Associations, thirty percent of the commercial banks reporting were under some form of written agreement with regulators.  A total of 1000 banks responded to the survey, so the study should be fairly representative.  Extrapolating this to the total number of banks in the banking system we would get some 1,900 banks under some kind of agreement with the regulators.   

This is when there are still some 864 commercial banks on the FDIC’s list of problem banks, which we know does not include all the banks under some kind of agreement with the FDIC. 

Many home owners still find the market values of their homes below the amount of the mortgage that exists on the property.  Commercial real estate loans are still defaulting at a very rapid pace and many businesses are declaring bankruptcy or are near filing for bankruptcy, especially small ones.

It is understood that the Federal Reserve must continue to protect against further economic deterioration and must continue to protect those individuals and institutions that are insolvent or near insolvency. 

Because of this and the consequent slow pace of economic growth the Fed must continue to keep the economy excessively liquid.

I don’t know that publishing interest rate forecasts for the next three years will convince us any more that the Fed is attempting to protect the banking system and the economy.  I guess it must help Mr. Bernanke to sleep better to know that he is releasing all this information even if it does little or nothing for anyone else.           

European Defaults: Portugal is Next After Greece

It ain’t over until it’s over…

The yield on the 10-year Portuguese government bond closed above 14.80 percent yesterday, a new record for the euro-era. 

“The markets are pricing in a Portuguese default with 10-year bonds trading at about 50 percent of par, a deeply distressed level in the eyes of many investors.” (http://www.ft.com/intl/cms/s/0/49916f7a-468a-11e1-89a8-00144feabdc0.html#axzz1kTbnc8Yy)

“Friday the 13^th may be an unlucky omen for Portugal.  On that day, almost two weeks ago, Standard & Poor’s became the last rating agency to downgrade Lisbon to junk, marking the moment for many investors when default looked inevitable for Portugal as well as Greece.” 

For more on this see my post on blogspot “Credit Downgrades and Europe” for January 16, 2012. (http://maseportfolio.blogspot.com/).

The downward spiral in defaults will continue as long as Europe fails to honestly face its problems. (See my post on blogspot for January 25, 2012 titled “How Long Will Europe Continue to Lie to Itself”: http://maseportfolio.blogspot.com/.)  

In the past, analysts, including myself, tried to explain what officials in Europe were doing by casually remarking that their actions amounted to “kicking the can down the road.”  Basically, the actions of the European officials were an effort to postpone dealing with the real issues, hoping that by delaying what was needed to be done the situation would eventually correct itself.

Now, it seems that the days of “kicking the can down the road” are reaching a climax. 

European officials hope to reach a deal on the Greek debt situation by the end of this month.  The current write down seems to be somewhere around 50 percent of face value, but there still remain issues to be decided like whether or not the European Central Bank will have to write down the Greek debt it has on its books. 

Bond markets have responded to this reality by dumping Portuguese debt.  Note that the yield on the ten-year government bond was about 10.40 percent (compared with 14.80 percent yesterday) around the middle of November, a time when it still seemed that maybe the European Union might be able to pull things together and avoid a Greek default. 

As the officials of Europe finally seriously travelled down the path to restructure Greed debt, the price of Portuguese debt started to weaken.  The price declines accelerated, as the possibility of a Greek write-down became more of a reality.  Today, the yield on the 10-year bond was around 15.00 percent.

I know that governmental officials hate to give in on these write-downs because they hate to concede to the “bond markets” and “speculators”. 

It is hard for governmental officials to admit that maybe the “bond markets” and the “speculators” might be right. 

It is a very difficult lesson for governmental officials to accept the fact that they cannot continue to cater to their constituencies with jobs and other benefits ad infinitum.  Over the longer-run, either taxes have to be raised or money has to be printed because the bond markets will not continue to underwrite debt that will be repaid, both principal and interest, by the issuance of more debt.

The economist Hy Minsky referred to this kind of debt financing as a “Ponzi” scheme.

 “Ponzi” schemes come to an end and the end cannot just be blamed on the “bond markets’ and the “speculators”.  In fact, the governments just line the pockets of the “bond markets” and the “speculators” by extending their uncontrolled spending until the collapse of the market becomes a “sure thing.” 

So the charade continues and Portugal seems to be next. 

Who will follow Portugal?  Spain…or Italy…who knows?

Yet, this is not the only concern that many of these officials are facing.  The austerity programs enacted by governments throughout Europe are not setting well with the people.  There is “discontent” and “upheaval” arising in many countries.

“The only consistent messages seem to be that leaders around the world are failing to deliver on their citizens’ expectations and that Facebook, Twitter, and other social media tools allow crowds to coalesce at will to let them know it.  That is not a comforting picture for the 40 heads of state  or leaders of governments who are attending the World Economic Forum (in Davos, Switzerland)…”  (http://www.nytimes.com/2012/01/26/world/europe/across-the-world-leaders-brace-for-discontent-and-upheaval.html?_r=1&scp=1&sq=across%20the%20world,%20leaders%20brace%20for%20discontent%20and%20upheaval&st=cse)

The situation is quite uncomfortable.  But this is what happens when you fail to deal with a problem…when you continually try to “kick the can down the road.”  The situation does not go away and the delay in dealing with the situation often turns out messier than if the situation had been dealt with earlier. 

The only way for the officials to resolve a condition like this is to get in front of it.  I don’t see anyone around in a position to do this.  The only real possibility is Merkel but the resentment that already exists against Germany makes it that much more difficult for her to achieve what is needed. 

If no leader arises then the defaults will continue…and the austerity will grow…as will the “discontent” and the “upheaval.” 

“Europe risks being handicapped if it doesn’t deal decisively with this challenge to democracy.”  Thought provoking way to end the New York Times article.    

How Long Will Europe Continue to Lie to Itself?

“Bank Seeks To Avoid Taking Loss On Bonds.”

So reads the headline for the New York Times article on the dilemma of the European Central Bank. (http://www.nytimes.com/2012/01/25/business/global/eu-officials-continue-to-press-for-a-quick-deal-on-greek-debt.html?_r=1&ref=business)

“European leaders have begun discussions with the European Central Bank on several options that might keep it from having to take a loss on its 55 billion-euro portfolio of Greek bonds.”

“The deal could address what has long been one of the more vexing questions in reaching a broad agreement on reducing Greece’s mountain of debt: how to get the central bank, the largest holder of Greek bonds, to participate in a debt restructuring without having to take a large loss that would have to be covered by European taxpayers, German ones in particular.

Private sector investors, including large European banks and hedge funds, have complained bitterly—and in some cases threatened legal action—over the central bank’s insistence that its 55 billion euros in Greek bonds were exempt from the loss that the private sector is facing, which some have estimated at 60 cents on the euro.”

The European Central Bank cries, “You can’t hold me responsible for my actions!”

There are articles all over the place on this issue. 

For example, on the front page of the Financial Times: “IMF urges ECB to take a hit on 40 billion-euros in Greek bond holdings.” (http://www.ft.com/intl/cms/s/0/74d2b31a-46b2-11e1-bc5f-00144feabdc0.html#axzz1kTbnc8Yy)

Greek debt will be written down…finally.

But, will people still be avoiding reality in some affected areas?

And, remember, this is all voluntary to avoid kicking off the credit default swaps outstanding…what a crock!

Still on the list of lies…Portugal…Spain…Italy…

Lies have a long life and can come back to haunt you in many…often, unfortunate…ways.  Just ask people up at Penn State these days. 

The resolution of a situation in which people cover up and try to avoid the truth never ends well.  The leaders (and I use this term lightly) of Europe that are perpetuating this comedy continue to draw it out as long as possible. 

The problem is that the European dilemma will continue to exist until it is dealt with.  For more on this see my blogpost “Credit Downgrades and Europe” posted on January 16, 2012 on my blogspot site (http://maseportfolio.blogspot.com/).