Fannie, Freddie Delisting Signals Firms Have No Value

By Jessica Holzer and Jacob Bunge
Of DOW JONES NEWSWIRES
WASHINGTON (Dow Jones)--The regulator for Fannie Mae (FNM) and Freddie Mac (FRE) ordered them to voluntarily delist their shares from U.S. stock exchanges Wednesday, underscoring that the once-mighty mortgage behemoths no longer have value as private firms.
The move comes as the Obama administration begins to shift its focus to the future of the companies, which were seized by the federal government in September 2008 and are on track to becoming the largest recipients of bailout dollars in the financial crisis.
The company's regulator, Federal Housing Finance Agency Acting Director Edward J. DeMarco, cited stock-exchange rules related to minimum share-price levels as the basis for his action. But his hand was not forced by such rules.
"This is a positive step," Phillip Swagel, a former Treasury Assistant Secretary for Economic Policy during the Bush administration, argued. "It signals that these guys are going to come out [of conservatorship] in a different form and that the existing shareholders are not going to get anything."
Facing criticism from Republicans for not spelling out the fate of Fannie and Freddie, administration officials have indicated they will turn to the matter once Congress wraps up work on financial-overhaul legislation. Treasury spokesman Andrew Williams said Wednesday's action "does not imply any direction of any future reforms or preference of corporate form" for the companies.
Freddie Mac said it expects the delisting of its common and preferred stock will happen by July 8. Fannie Mae indicated it will be delisted in early July.
The companies' shares will now be traded in the over-the-counter market where they will be quoted on the OTC Bulletin Board, typically the domain of untested companies and more speculative stocks. They will still file disclosures with the Securities and Exchange Commission.
The companies' share prices plummeted on the morning announcement; Fannie's and Freddie's stock closed down nearly 40% to 56 cents and 76 cents, respectively, in Wednesday trading. Meanwhile, the roughly three dozen publicly-traded preferred securities issued by Fannie and Freddie were punished nearly as severely, posting declines of 14% to 46% in Wednesday afternoon trading.

Fannie's and Freddie's shares have limped along since the federal government seized them. The U.S. Treasury acquired ownership of 80% of each company's common stock and agreed to pump in capital as needed to keep the companies solvent. The government has so far injected $145 billion and losses at the company continue to mount. In exchange for the capital, the federal government has received preferred shares in the same amount carrying a 10% coupon.
Any money the companies make goes to paying the dividend on the government's shares.

Fannie's and Freddie's shares had become the province of day traders taking bets on the company's future after institutional investors fled the stocks and Wall Street equity analysts dropped them from their coverage. Trading has remained intense, however, with the shares often making the New York Stock Exchange daily list of most heavily-traded shares.
Since their federal takeover, Fannie and Freddie have functioned as tools of the administration's strategy to keep mortgage credit flowing and help homeowners avoid foreclosure. The Treasury's preferred stock agreements with Fannie and Freddie effectively guarantee the companies' debt.
The two mortgage giants have struggled mightily since the housing bust. In May, Fannie requested another $8.5 billion in government aid. Meanwhile, Freddie said it would need a $10.6 billion injection from the Treasury.
The shares of both companies first sank below the New York Stock Exchange's $1 30-day average price requirement in the fall of 2008. Companies that see their stock trade below that level for 30 consecutive days typically are given six months to correct the issue or face delisting.
When Fannie and Freddie slipped into the warning zone, they got a longer-than-usual period to buoy their stock price thanks to a temporary suspension of NYSE Euronext's listing standards in late February 2009. Those listing standards were reinstated in August 2009, but both companies traded above the minimum price at that time.
Over the past 30 days, Fannie Mae's average share price sank once again below NYSE's minimum requirement. Freddie's share price didn't violate the $1 minimum, however.
DeMarco, in a press release, said it "simply makes sense" for Freddie to delist because it "fits with the goal of a conservatorship to preserve and conserve assets."
Pulling their stocks off the NYSE will save the two companies $500,000 apiece in annual listing fees, as both companies paid the maximum amount due to the large number of shares outstanding, according to NYSE Euronext.
Fannie and Freddie watchers weren't surprised by the regulator's action. Rep. Spencer Bachus (R-Ala.), the top Republican on the House Financial Services Committee, said in a press release the move confirmed Fannie and Freddie weren't real companies anymore.
"De-listing is the appropriate message: That these companies have no value and they shouldn't be traded as if they're real companies," said Bose George, an analyst for Keefe, Bruyette & Woods Inc.
-By Jessica Holzer, Dow Jones Newswires; 202-862-9228; jessica.holzer@dowjones.com (Maxwell Murphy and Nathan Becker contributed to this report.) Al Rajhi personal loan

AIG And The Trouble With 'Credit Default Swaps'

With the government's $85 billion public bank loan to American International Group — and its controlling stake in the company — the United States is now in the insurance business.
AIG is the largest commercial and industrial insurer in the nation, NPR business correspondent Adam Davidson told Steve Inskeep. The company also offers lines for individual customers in the U.S. and around the globe. The more traditional aspects of AIG's business continue to perform fairly well.
But a few years ago, AIG got involved in a new aspect of the financial system: It joined in the selling of so-called credit default swaps. A credit default swap, or CDS, is essentially insurance on debt.
Gambling On The Future
Imagine a bank that has bought bonds from, say, the Port Authority of New York and New Jersey. That means the bank holds debt from the Port Authority. With any loan, there's always the risk of the debtor's failing to pay the money back. To protect themselves, bankers began buying credit default swaps. If the Port Authority failed to keep its end of the bargain, the bank could call up its insurer and cash in its CDS.
AIG treated its CDS business the same way it treated all the other lines. Insurers sell policies for lots of cars and houses, betting that only a few customers will have wrecks or devastating fires.
"Any one house burning down doesn't increase the likelihood that lots of other houses will burn down," Davidson said. "That doesn't apply to bond insurance."
In the case of bonds, one default can create a domino effect. Investors lose confidence in the market. Interest rates spiral. Borrowers can't find new capital to stay afloat.
"As far as we can tell, AIG didn't quite think this one through," Davidson said.
As AIG Goes, So Goes The Global Economy?
Why would a company as large as AIG gamble its future on a new twist in the financial system? The lure of money may have been too strong, Davidson said. The CDS market has grown into a $70 trillion annual business. Davidson likens the situation to AIG saying, "Hey, we know insurance better than anyone. We're going to get into that business."
The pure size of the CDS business is enough to make a failure of AIG a threat to the entire global economy. What's more, the CDS market is far from transparent. "Nobody knows exactly who has them and where they got them from," Davidson said. The fear is that AIG has insurance banks all over the world for trillions of dollars that would suddenly be at risk. If AIG collapsed, banks would stop lending money to each other.
"If that stops, global economic activity stops," he said. "We don't know that that would have happened, but it seemed like a real possibility. And that was why the government

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How a 'perfect storm' led to the economic crisis

(CNN) -- The U.S. economy is clearly in terrible shape. What is less clear is how we got here.

An index of home prices in 20 major metropolitan areas fell at a record annual pace in November of 2008, according to a recent report.

Opinions vary on when and where to begin the story, but many experts trace the origins of the current economic situation to the housing bubble that came about earlier this decade.
Housing prices jumped at a rate above 6 percent in 1999 and increased rapidly and steadily as the decade turned, according to a recent study by the Brookings Institution.
"After the mid-1990s ... real house prices went on a sustained surge through 2005, making residential real estate not only a great investment, but it was also widely perceived as a very safe investment," the study said.
The prices eventually moved "out of line with fundamentals like household income" and the bubble formed, the study said. Read the complete Brookings study
There were two trends developing at that time that contributed to the housing bubble, experts said.
The Federal Reserve Board, to combat the recession of 2000-01 and the economic effects of the September 11 terrorist attacks, began drastically slashing interest rates.
Consequently, it was very easy to borrow money, especially if you wanted to buy a home.
Don't Miss
In Depth: Money & Main St.
Meanwhile, global investors -- flush with cash from the worldwide economic boom of the 1990s and '00s -- were looking to the U.S. economy to make even more money.
"You have a group of people growing richer by leaps and bounds," said Peter Rodriguez, an economist at the University of Virginia. "And they liked the idea of parking some cash in the biggest, safest economy in the world."
Enter mortgage-backed securities
Wall Street firms sought to connect the rich investors with the rapidly expanding housing market with the help of complicated financial instruments.
These instruments -- such as mortgage-backed securities we've heard so much about -- made it easier to move the investors' funds into the housing market, which fed the extraordinary price sprial, Rodriguez said.
"It began to really take on a life of its own when people saw how much money they could make in housing," he said. "Before long, everybody was pushing along the momentum of this train."
So how do these mortgage-backed securities work and what role did they play?
Let's say there are three prospective homebuyers in a neighborhood. A local bank makes mortgage loans to all three, then bundles up the mortgages and sells the bundle to a big Wall Street firm, like the now-bankrupt Lehman Brothers.
The Wall Street firm takes its bundles of mortgages and offers them to investors. The investors make money off the interest payments from the original borrowers.
These instruments helped minimize risk for the local bank because it was no longer responsible for the loans it made to the local homebuyers.
"You didn't even have to worry about a loan once you made it. You didn't have to keep it on your books," Rodriguez said. "The only limitation was how fast you could turn the loans."
It was an intoxicating era when you could make a lot of money quickly through the housing market, and you did it through the "basic idea of leverage," Rodriguez said.
He provided an example: You take out a mortgage loan for $100,000 and make a 20 percent down payment, which would equal $20,000.
If the price of the house goes up to $120,000, you've effectively doubled your money. If you sell at that price -- assuming there are no transaction costs -- you walk away with an extra $20,000.
Leverage works the same way for banks. They borrow from other banks or other institutions so that they can hand out more loans and make more money.
"This encourages all sorts of risky behavior by individuals looking to buy homes, and it encourages banks to lend because, in an environment where prices rise, they're making lots of money, too," Rodriguez said.
The housing collapse
Economists say not everyone can -- or should -- buy a home, but that didn't stop many homebuyers, banks or Wall Street firms during the housing bubble, when the only way for prices and profits was up.
Some banks and other institutions were even eager to lend money to prospective homebuyers with poor credit and a spotty financial history who would not typically qualify for loans.
These transactions are known as "subprime" mortgage loans. They generally have interest rates that are above "prime" interest rates available to borrowers with good credit.
On its face, there is nothing devious or illegal about a high interest "subprime" loan. Its simply a case of lender taking on a higher risk and receiving a higher interest rate in return.
However, nearly half of the loans made in 2006 were of the subprime variety, which increased the risk of borrowers defaulting on many banks' balance sheets.
"Prime mortgages dropped to 64 percent of the total in 2004, 56 percent in 2005 and 52 percent in 2006," the Brookings study notes.
Even so, many banks and brokerage firms continued bundling the mortgages, many of them bad loans, and Wall Street kept buying them and selling them to investors. And the people who could have put a brake on the increasing amount of risk -- the agencies that regulate the U.S. financial sector -- weren't paying attention.
"As long as everyone was paying their mortgage, that was fine," said Ali Velshi, CNN's chief business correspondent. "[But] we didn't take into account with these mortgages that people might lose their jobs, the interest rate might go up and the housing prices may go down.
"Guess what? All three happened."
Housing prices started trending downward, and by 2007 the bubble had burst.
"You're a homeowner or a bank, and you're trying to sell your property, but everything else on the block is for sale, too," Velshi said. "Everything collapsed like we've never seen before."
The credit crisis
Knee-deep in bad loans, many banks and lending institutions panicked. Many of them were over-leveraged, experts say; simply put, they had borrowed beyond what was responsible and were now on the hook.
Another way to understand it is that for every dollar a bank may have had in the vault, it had $10 to $25 floating in the market in loans, and a good bit of that money was tied up in bad loans.
The banks sought to decrease that ratio by either getting rid of the bad loans or raising more money, Rodriguez said.
The problem with dumping the loans on the market is that "it lowers the price, and anyone else who has them is suddenly in even worse shape," he said.
It was a "death spiral of prices," and it spread like a virus across the financial sector, from legendary Wall Street firms like Bear Stearns and Lehman Brothers to local and regional banks and brokerage firms across the country, Rodriguez said.
As stockholders found out about the bad loans these firms were carrying, they pulled their money out. The markets plummeted.
Meanwhile, paralyzed by their bad assets and looking to hoard cash, banks stopped lending. It didn't matter if you were an individual with good credit, a healthy business or another bank.
The American financial system was effectively frozen.
"It was a perfect storm," Velshi said. "It was a lack of regulation, it was greed and creativity in the financial industry, and it was an American dream that got off track." personal loans
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IT IS no secret that Malaysia is intent on becoming a hub for Islamic
banking. As part of its strategy to enhance its financial competitiveness
and increase its links with other economies, it brought forward the
liberalisation of its Islamic banking sector to 2004, three years ahead of
the World Trade Organisation's deadline.
Currently, there are nine full-fledged Islamic financial institutions
operating in the country (see box story). However, before they go all out,
some quarters feel that there are many issues that need to be addressed.
For instance, isn't Malaysia, with a population of 25 million, too small
to support so many Islamic banks? Secondly, how will our local banks
(full-fledged banks as well as conventional banks with Islamic windows) be
affected by the presence of global players? Is our infrastructure ready to
absorb a second Islamic banking system, as opposed to conventional
banking? Will Singapore, which is also hoping to become an Islamic banking
hub, be a threat? Do these issues warrant immediate attention?
Malaysian Business takes a look at the upside and downside of these
factors that could hinder the growth of Islamic banking here and
regionally.
The Issues Debated
An expert on Islamic banking, Professor Bala Shanmugam says, `Only 10%
of Malaysian banking assets are in Islamic accounts and personal loan. The remaining 90% are
held in conventional accounts, serviced by 10 Malaysian banks, not
including the foreign banks.' He questions, `Does this not sound lopsided?
`Now that nine full-fledged Islamic banks have been given licences, how offering Islamic products. Many countries are only beginning to create an
Islamic infrastructure, while Malaysia has both a conventional and Islamic
system running concurrently. Not surprisingly, Malaysia is looked upon as
an Islamic banking role model.'
Bala puts it differently. He maintains that as far as separate
accounting systems are concerned, the conventional banks in the country
are not required by law to have two separate accounting systems as yet.
However, it is understood that the Malaysian Accounting Standards Board
will issue a set of Islamic accounting standards later this year, and more
will follow suit.
Meanwhile, Baljeet adds that the establishment of the Bahrain- based
Accounting & Auditing Organisation for Islamic Financial Institutions
(AAOIFI) encourages the standardisation of Islamic accounting.
As for Jesvin, she says, `The Islamic banking system, while able to
exist parallel to the conventional system, requires its own technical
infrastructure, regulation and set of principles. The separate accounting
principles are part of the requirements, given the nature of the
operations.' Jesvin may have her point. Although the cost of complying
with additional regulatory requirements could be expensive, what is
important is to look at the potential of Islamic banking as a whole, which
should more than offset the cost of compliance.
In BNM's view, while some areas of Islamic banking transactions may
require a different set of accounting treatments as dictated by the unique

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Eurozone crisis: Merkel refuses to yield over ECB as general strike hits Portugal - 24 November 2011

 http://www.guardian.co.uk/business/blog/2011/nov/24/eurozone-crisis-sarkozy-merkel-monti?INTCMP=ILCNETTXT3487

Time to stop the blog for the day.

This summary from earlier is the best way to catch up with the events in Strasbourg. Main events since were the general strike in Portugal (with pictures), and the news that the FSA is preparing for the collapse of the eurozone (although it doesn't think this is likely).
My colleagues will be back tomorrow with more action -- which will include an Italian debt action. What can possibly go wrong?....
Thanks for reading and the great comments. Good night!

7.41pm: Some late news, the International Monetary Fund has welcomed the letter sent by Greek conservative leader Antonis Samaras. More importantly, the IMF are treating Samaras's written assurance of support for the country's draconian bailout policies as satisfactory (via my colleague Helena Smith)

In a statement, the IMF said:

We welcome that (main opposition party) New Democracy has expressed its support for the key objectives and policies of the program that is being supported by Euro 110 billion in financial assistance from Greece's European partners and the Fund.

As we explained this morning, without written promises from Samaras Greece risks not getting further aid.
The IMF also noted that the centre-right party has pledged that any changes it would propose would be in line with the philosophy of the loan agreement's basic framework. Samaras has been a stalwart opponent of the fiscal remedies meted out to Greece by very bodies now propping up its near insolvent economy.
As Helena says:

The big question, now, is whether Euro zone leaders will have the same view as the IMF and judge Samaras' two-page letter legally binding enough to assuage fears of the party rolling back on its committment to Greece's fiscal adjustment program. Worries abound that come March, next year, when elections have been held and a new government is in power, Athens may change course again. EU leaders are expected to make their decision on November 29th.

Earlier on Thursday Samaras declared: "Negotiations are like a game of chess. You make moves and then wait for the other side to move. That is when you have to stick to your position and that is exactly what I did."

6.26pm: The general strike has been taking place in Portugal today appears to have been well-supported.

Transport links have been badly hit, while there are reports that few staff were working at government offices. According to Associated Press, some medical appointments, school classes and court hearings were cancelled, while mail deliveries and trash collection were said to be severely disrupted.

There's a familiar quality to the images - following the long-running anti-austerity demonstrations seen in Greece over the last couple of years.
As Jones tweeted: "These scenes in Lisbon could be pretty much anywhere in Europe over the last year. Same chants, same frustration, same resentment of police"

5.42pm: Looking at the bond markets, Belgium has suffered most from the lack of progress in Strasbourg today. The yield on its 10-year bonds has risen to 5.75% this evening, and was even higher at one stage.

At the start of this month, Spain's 10-year yields were lower.....
As Gary Jenkins of Evolution Securities joked (I think):

Belgium better be careful or it may end up with a government…

Update: in the reader comments, Squiggle reminds me that the Belgian yields have been rising steadily since talks over a new Belgian government collapsed over the weekend. They were just 4.8% on Monday.

5.02pm: Today's Strasbourg talks are well covered in the media. Here's a rapid round-up:

The Financial Times reports that: Merkel and Sarkozy back treaty changes

In some of her most forceful comments to date, Ms Merkel, a strong advocate of moves to enforce greater budgetary discipline among the eurozone's members, said: "We must take steps towards a fiscal union."...
...But Mr Sarkozy was forced to soften the French line.

The BBC points out that, beyond the talk about Treaty changes, Mario Monti had laid out his economic programme to his French and German counterparts, including undertaking to balance Italy's budget in 2013.

At 118% of annual economic output, Italy has a high level of overall debt, but the country has managed to service similarly high debt levels for the past 20 years.
The main problem with the Italian economy is weak growth - the country has averaged 0.75% growth a year over the past 15 years.

Reuters looks to the positives....

France and Germany agreed on Thursday to stop arguing in public over whether the European Central Bank should do more to rescue the euro zone from a deepening sovereign debt crisis.

But the Wall Street Journal warned that the signs of unity only went so far...

The leaders acknowledged their push to forge common economic policy across the euro-zone faces major hurdles, even as the currency bloc is on the brink of collapse. On Thursday, the three leaders sought to play down divisions over how ambitious the ECB's mission in fighting the crisis should be. two are no closer to finding common ground....

Their comments after their meeting in this Eastern French city suggest [Merkel and Sarkozy] are no closer to finding common ground.

4.37pm: The FTSE 100 just posted its ninth daily fall in a row. After a lacklustre session, it ended 12 points lower at 5127. That means that its shed 417 points since the start of last week -or £107bn.

David Jones, chief market strategist at IG Index, commented:

It was business as usual this afternoon with the index once more slipping to fresh lows for this downward move...what little news flow there has been offered little in the way of cheer for investors.

4.16pm: Capital Economics has warned this afternoon that Germany is "caught between a rock and a hard place". Analyst John Higgins explained that:

If she rides to the rescue of her neighbours, she will undermine her own credit standing. If she chooses not to, the euro-zone will probably collapse.

Higgins reckons that Bunds will suffer whatever Berlin chooses to do. Either:

Quantitative easing and common euro-zone bond issuance may be the only ways to draw a line under the crisis given the limitations of the existing arrangements. Yet in the unlikely event that Germany gave ground on these issues, Bund yields would probably soar as investors fretted about the inflationary consequences and the pooling of credit risk.

Or:

Intransigence could be just as bad. Granted, investors might take comfort from the fact that Germany was not willing to throw good money after bad. But this attitude would simply reinforce the impression that she was unwilling to prevent a disorderly break-up of EMU. In this scenario investors probably would want to give the euro-zone, including Germany, a very wide berth. The upshot is that capital inflows could become outflows as investors sought sanctuary elsewhere.

3.46pm: Back in the UK, one of the top officials at the Financial Services Authority has admitted that the regulator is asking British banks to prepare for a possible break-up of the eurozone.

Andrew Bailey, the former chief cashier at the Bank of England and now a senior official at the Financial Services Authority, picked his words carefully - stressing that he was not predicting this would happen but was merely requiring contingency plans to be created - but nonetheless, his remarks are interesting.

Fear sweeps markets as Germany rules out ECB intervention

Global investors headed for the eurozone exit on Thursday after leaders of the area's three biggest economies squashed residual market hopes for a huge intervention by the European Central Bank (ECB) to solve the sovereign debt crisis.

Fears of an imminent banking crisis are expected to intensify on Friday as inter-bank lending freezes over again, billions of euros are withdrawn from "Club Med" banks and the ECB is forced to lend more to struggling institutions. The central bank could reportedly extend the term of its loans to two or even three years.

UK borrowing costs fell below those of Germany briefly on Thursday as the yields on eurozone sovereign debt rose, the euro fell against the dollar and European equities suffered a ninth successive day of losses. Friday is expected to be no different.

Angela Merkel again ruled out any expanded role for the ECB and stamped down proposals for single, eurozone-wide "eurobonds" to share the risk of sovereign debt. The ECB, she said, was only responsible for monetary policy.

At a news conference in Strasbourg, the French president, Nicolas Sarkozy, and the new Italian prime minister, Mario Monti, fell meekly into line, with Sarkozy dropping French demands for urgent and expansive intervention by the ECB.

He and Merkel instead pointed to forthcoming plans for (unspecified) European Union treaty changes to advance a (distant) fiscal union in the eurozone. The Franco-German allies, who represent the traditional engine of EU integration, plan to set out their proposals before an EU summit on 9 December.

Their plans, which could be endorsed at an unscheduled eurozone summit the day before, heap renewed pressure on David Cameron as he struggles to keep the UK as far away from eurozone contagion as possible while still demanding a say in shaping the area's future.

On Thursday, Merkel once again dominated the stage as she agreed only that early agreement to boost the EU's bailout fund, the European financial stability facility, could help resolve the immediate crisis. Plans to boost the fund to €1tn (£860bn) will be discussed by Eurogroup finance ministers on Tuesday, but there is no evidence that global investors are at all interested.

The euro began to drop as soon as Sarkozy fell into line with Merkel – only hours after his foreign minister, Alain Juppé, had called for urgent intervention by the ECB to "play an essential role in restoring confidence".
"We're seeking a compromise. We do not agree on everything at first, but we'll end by agreeing," Juppé told French radio before the meeting began. In the event, Sarkozy insisted that the ECB's independence was untouchable – adding that political leaders would make "neither positive nor negative" demands on the central bank. Monti took a similar stance.

Merkel was so pleased about Sarkozy's about-turn she repeated three times that "the French president said he had confidence in the ECB and its independence".

She reiterated the view she expressed to the Bundestag a day earlier that eurobonds or the collectivisation of sovereign risk were neither "necessary nor appropriate" and could function only at a later stage of fiscal union.
"We don't want eurobonds because we don't want interest rates to rise dramatically in Germany," her economy minister and leader of the liberal FDP party, Philipp Rösler, had said earlier.

The trio, Merkel added, would "do everything to defend the euro" and insisted "we want a strong, stable euro", but the German chancellor repeated her mantra that this required strict actions by governments to abide by the rules of the stability and growth pact setting limits on budget deficits and national debt. These, she said, would include automatic sanctions against countries running excessive deficits.

David Scammell, a fund manager at Schroders, said the markets would be "disappointed" by the developments in Strasbourg. Scammell told the BBC that treaty changes would simply take too long, and that an immediate solution with real firepower would soon be needed to stem the crisis. "That means the ECB," he said.

Joshua Raymond, chief market strategist at City Index, agreed that the leaders had done little to boost confidence in the City: "Merkel's determination to prevent any implementation of a eurobond before proper fiscal integration of the euro area is seen – which could take years to achieve – sent markets in an afternoon tailspin."

There were already signs on Thursday that the crisis is entering a new phase, only a day after Germany failed to move all of a planned €6bn auction of 10-year bonds. Belgian bonds soared to 5.7%, Portugal's credit rating was notched down to junk status by Fitch, and an ECB governing council member said the downturn would be "significantly longer than we expected".

Gloom darkened over the area despite a 0.5% rise in German economic output in the third quarter, driven by consumer spending, and an unexpected rise in the November IFO-index of business confidence in the federal republic.

The only concrete decision to emerge from the mini-summit was that the three are to meet again soon in Rome to discuss further Monti's pledge for structural reforms to promote growth.

'Industry bond' proposed by thinktank

The government should create an investment vehicle to buy up business loans from banks, says a leading thinktank.

The loans in turn could be packaged up as bonds and sold to the Bank of England as it attempts to kickstart lending to the small business sector through credit easing, the National Endowment for Science, Technology and the Arts (Nesta) said.

With the Treasury continuing to work on how its proposed credit easing plan will operate, Nesta reckons that "British industry and enterprise bonds" could be created by packaging up the business loans granted by banks and given top-notch ratings that would enable them to be bought through the Bank's £75bn quantitative easing programme.

"Providing access to new pools of capital is the long-term solution we need to unlock credit to Britain's small businesses," said Stian Westlake, Nesta's executive director of policy and research.

The chancellor raised the idea of credit easing in his party conference speech last month and is continuing to work on a range of ideas on how to put it into action - which could include measures to ease tensions in the inter-bank lending market - ahead of next week's autumn statement. Providing any guarantee from the government could have an impact on the government's deficit reduction plans, although the Treasury would argue that any effect would be temporary.

HOW REAL IS CHINA'S GROWTH

Jun 1st 2011, 14:39 by R.A.

WASHINGTON

I'M NOW back from China, and I'm going to resist the temptation to draw grand, sweeping conclusions based on two weeks jaunting around the country. I will tell you some of my impressions, however. And I'll start with the primary question on my mind as I left to visit China: how real is its economic growth?

I came away from China a bit less worried about property issues than I'd been going in. Don't get me wrong, China is building an enormous amount of new housing, and quite a lot of that new housing is standing empty, even as prices rise. But this isn't necessarily the problem many people suspect, for a few reasons. For one thing, the flow of new demand for housing seems sure. Millions of Chinese remain underhoused while real incomes are soaring. In some cases, the Chinese government is coordinating the construction of several years' worth of demand for new homes all at once, justifiably confident that new units will ultimately be occupied. In other cases, Chinese workers are buying up new units as investment vehicles—but are using savings, rather than debt, to fund the purchases. It's not impossible, or even that unlikely, that prices in the main cities may fall, but it would be wrong to assume that China's property markets operate in the way American markets do and share the same vulnerabilities.

Tightening restrictions on household purchases, and tightening credit, designed to rein in booming private construction, may produce a squeeze in some segments of the real estate market, leading to pain for some on the development and transactional side of the market. But a slowdown in private construction is unlikely to gut the broader economy, thanks to a massive government push for affordable housing construction that will keep workers and suppliers busy. And the government has the will and the ability to make sure any broader loan troubles are contained. I won't begin to argue that there aren't huge inefficiencies and costs to this system, but it doesn't look like the kind of structure that's likely to collapse, bringing the economy down with it. It's clear where the risk ultimately lies—with the government—and it's clear that the government can handle it.

What little I saw of China's manufacturing sector reinforced my sense that it's an impressive and productive part of the economy. China's manufacturing also spans the value-added chain. In the large coastal cities, deindustrialisation is already a reality; labour-intensive factories have already left for cheaper markets, leaving high-tech manufacturing and a growing service sector behind. In the poorer west, by contrast, the scope for movement up the value chain remains significant. Much of what rapid growth China has left will be powered, in no small, part, by the convergence of western provinces toward coastal development levels, and this process is well underway.

What's China's manufacturing isn't is labour-intensive, even at the fairly low-tech enterprises. As large and strong as China's manufacturing firms are, they're not able to absorb all that much of China's enormous labour force. China seems to compensate for this by absorbing huge numbers of workers in a growing service sector. Productivity levels in many service industries must be ming-bogglingly low. Hotels seemed to have as many employees as guests, teams of workers with hand tools maintained roadside greenery, and buildings of all sorts are staffed with large groups of greeters and security personnel. Cheap labour may make some of this sort of employment worthwhile, but officials also indicated that, in the past at least, the government used public service employment to help absorb workers displaced when hundreds of thousands of textile and electronic manufacturing jobs were lost to cheaper locales. This may be costly and inefficient, but one wonders if it isn't less costly and inefficient than America's habit of letting displaced workers linger in long-term unemployment, on disability roles, or out of the labour force entirely.

Chinese officials were quick to play down the country's dependence on foreign demand, pointing to progress in the country's trade surplus. There may be less to this than they indicate; Michael Pettis writes here, for instance, about financial chicanery in the country's copper trade that may have artificially boosted import totals early in 2011. China is also cultivating export markets in fast growing countries across central and southeast Asia. But candid Chinese professionals admitted that trouble in the US and European economies represented a big potential threat to the economy. That threat will slowly ebb as Chinese consumers become more active. Government officials repeatedly reported eye-popping real income growth figures. But more than one of the people I spoke with likened the Chinese economy to a large ship that can't turn on a dime. No amount of movement in exchange rates or wages or policies will move the Chinese economy to a more normal rate of domestic consumption overnight.

What seemed clear, however, was that the fundamentals in the Chinese economy are stronger than many Americans suspect. For this reason, a collapse looks unlikely, and the government has the will and the means to fight off a short-term crisis. The government cites stability as its source of legitimacy, and it draws a tight connection between stability and economic growth. Stability, and therefore growth, will be especially important given the looming handover of party and national leadership from Hu Jintao to (it seems certain) Xi Jinping. The present policy strategy is muddied somewhat by the rise in inflation, which is a big source of concern among the masses. China will trade off a little growth for control of its prices. Officials will try extremely hard to ensure that the landing is a soft one, however. (For more on the progress here, read this week's economics Lead note. Markets seem to be overreacting to signs of a Chinese slowdown.)

The longer-term picture is far murkier, however. Nothing that I saw on my trip convinced me that the country's economy is becoming more nimble. There are large structural problems in the economy that will begin to bite as China exhausts its potential for rapid catch-up growth. And what then? The private economy is growing in importance (many of the larger companies in the economy remain state-owned or controlled, including a substantial number that "look" private). Chinese citizens are no strangers to entrepreneurship. But entrepreneurial activity isn't always consistent with party goals. Successful start-ups may threaten established firms with state connections, leading officials to either rein in the start-up or take for themselves a direct financial interest in it. Will China be able to embrace the hurly burly of the entrepreneurial marketplace? If it can't, the middle-income trap may loom.

There was one question to which I could never get a satisfactory answer on my trip. Chinese officials, I was repeatedly told, take a very long view. They're focused on the next few decades, not the next quarter. And they're very cautious, always anticipating things that might go wrong. Responding to this, I'd point out that China hadn't experienced a full year of economic contraction in three decades, and that this streak was unlikely to continue; eventually, every economy has a recession. What were China's far-sighted leaders planning to do when the economy slowed, and how would the slowdown affect the country's stability? The answer was always a bit of a non sequitur. China has a model that works for China, I was told. Confidence in China understandably soared in the wake of the global crisis and recession. But I wonder if the government has learned too much from its ability to negotiate the crisis without suffering a recession. Eventually, China's economy will hit a true bad spot. The more China's leaders believe that it won't, the less prepared they may be to handle it when it does occur.

Of course, westerners may overstate the impact of a slowdown on political stability. Many of us assume that when the first downturn hits, support for the party will collapse. That needn't be true; China's government seems to have built up a remarkable reserve of goodwill in recent decades. From the perspective of the average Chinese worker, it must seem blindingly obvious that the current Chinese system is the ideal, a sure route to prosperity. Still, stories like this and this and this give one pause. From my (admittedly limited) view of China, arguments that China's economy is little more than a Ponzi scheme, in which any slowdown will lead to implosion, are mistaken. I left with more questions than answers about the political system, however. I simply can't say how legitimate and stable the current government appears in the eyes of the Chinese citizenry. But I feel fairly confident that it won't be that long, perhaps 5 or 10 years, before we find out.

http://www.economist.com/blogs/freeexchange/2011/05/chinas_economy_1?fsrc=rss