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

Government's will to reform subsidies gets thumbs up

KUALA LUMPUR, Friday 16 July 2010 (Bernama) -- The subsidy cuts by the government yesterday are mild and manageable on the pockets and more significantly, boosted confidence that the country is on the right track in undertaking reforms, said analysts.

Although the cuts were not unexpected, they said the Barisan Nasional government had surprised by displaying the will to push ahead to tackle the fiscal deficit.

"We were however taken by surprise by the speed with which the cuts were implemented, as we had felt that the government would resist making unpopular economic reforms for now," said Chris Eng, head of research at OSK Research.

Prime Minister Datuk Seri Najib Tun Razak on Thursday announced the subsidy reductions of five sen per litre each for RON 95 petrol and diesel, 10 sen per kilogramme of liquified petroleum gas and 25 sen per kg of sugar, while RON 97 petrol will no longer be subsidised.

The cuts will constitute savings of RM750 million for the government to better use resources for families, communities and business growth, Najib said.

Eng expected limited impact on the auto, toll road and retail sectors.

The cut on sugar subsidy could see some costs passed on to consumers but "the impact on disposable income should be mild", he said in a research note.

Malaysia Investors Association president Datuk Dr PHS Lim said although some quarters did not expect the government to cut subsidies before the next general election, he believed the government had moved to strengthen the financial side.

"This is not something that should be viewed from the point of a general election. The government is more concerned about the deficit and to strengthen the financial side and create confidence," he told Bernama.

"The government is doing the right thing. A country's financial rating is very sensitive, we have seen the talk of Greece and Spain going bankrupt, the whole world is conscious of deficits," he added.
Chan Ken Yew, head of research at MIMB Investment Bank Bhd, lauded the government's determinaton to reduce the country's subsidy expenses in line with plans to cut the budget deficit from seven per cent to 5.3%.

"We reckon that the impact of this round of subsidies cut should be mild and manageable," he said.

"Should the saving of subsidy expenses be channelled to the poor and needy or to implement an expansionary fiscal policy, such as lower personal income tax or raising consumer's personal tax relief bracket, we have no doubt that the government is heading the right path," he added.

Lim also said Malaysians must change their mentality and learn to pay for what they use instead of relying on subsidies.

"We must become a matured society in consumption, we have been spoiled all these time by government subsidies. We are an oil producing country but this does not mean we will be producing oil forever," he said.

"Like in the United States, they pay for what they use. In Taiwan, people use motorcycles to go to work and use their cars on weekends to go out with their families," he said.

He also said Malaysians were overcritical of public transport and must also change their perception that they would be looked down if they took a bus. (By THAM CHOY LIN/Bernama

Analysts expect subsidy cut in August

PETALING JAYA: Analysts expect the subsidy rationalisation plan is on track and scheduled to take place in August although several research reports have expressed uncertainty over its implementation.

Most analysts expect the first subsidy cuts to be related to petrol prices, specifically the RON 97 fuel.

This is not surprising, as the Performance Management and Delivery Unit (Pemandu) had proposed a 15 sen increase in petrol and diesel prices between June and December 2010. Thereafter, an increase of 10 sen for every six month intervals has been proposed for the January to December 2012 period.

“The Government is quite determined to remove subsidies. They will do it on a gradual basis. The implementation part is crucial,” said MIMB Investment Bank research head Chan Ken Yew.
AmInvest head economist Manokaran Mottain said that the removal of subsidies had to be very carefully implemented as a drastic move would cause a spike in the country’s inflation, and hence a higher cost of living while salaries are not increasing.

“However the Government has no choice but to do it. Malaysia needs to move away from subsidies, The most important thing is that the Government must not be seen as burdening the public,” said Manokaran.

On May 27, Pemandu chief executive officer Datuk Sri Idris Jala, presented a proposed subsidy rationalisation roadmap to the Government.

Malaysia is one of the most subsidised nations in the world. Its total subsidy of RM74bil last year was equivalent to RM12,900 per household.

Fuel and food make up 32% and 4% of Malaysia’s RM74bil subsidy in 2009. Other areas such as welfare, education and healthcare, account for some 58%.

The current subsidy system is also on a blanket basis, and is given to everyone. Hence, about 70% of fuel subsidies go to mid-to high-income groups.

“The implementation part is very important. If the subsidies are removed and the proceeds go to the right people, like the poor, then it is okay. In some countries for instance, they give food coupons to the needy, so you know these subsidies are directly channelled to those who need it,” said Chan.

He added that the upper income people would not be affected by the removal. The middle income may feel the pinch, but more so on petrol prices rather food prices.

Nonetheless, consumers will have to prepare for higher inflation after the subsidy removal. Chan expects the consumer price index could rise 4% in 2011 and 2012 each, and 3% in 2013. “This could complicate our overnight policy rate estimates. A high inflationary pressure by a cost-push factor could see a dilemma in increasing interest rate as a hike in interest is not associated with the improvement in the economy. To a certain extent, it could also dampen demand due to lower disposable income,” he said.

As such, Chan believes an expansionary fiscal policy, such as lower personal income tax or raising consumer’s personal tax relief bracket, could act as a remedial measure.

Meanwhile, HwangDBS Vickers Research analyst Chong Tjen-San said that there are 19 highways scheduled for toll rate increases over the next 4 years.

“If the Government were to maintain toll rates at current levels, it would have to fork out RM3.19bil in subsidies over the next 4 years,” he said.

Remedies Needed To Help Low And Middle Income Groups After Subsidy Cuts

KUALA LUMPUR, July 16 (Bernama) -- The government needs to present some kind of remedies or action plan that can help the low and middle income groups to cushion the impact of subsidy cuts.

In stating this, MIMB Investment Bank Bhd's head of research Chan Ken Yew said the government's move was timely but there must be a win-win situation that could benefit the people while at the same time reduce government expenditure.

"I think the government has proposed some remedies but details have yet to be unveiled. We want to know more details, especially about tax relief," he told Bernama when contacted Friday.

Currently, the subsidy expenditure accounted for 11.7 per cent of total government revenue in 2009 compared to 1.5 per cent in 1988, which made the urgency to reduce subsidy expenses understandable, said Chan.However, the government needed to practise a more disciplined financial management apart from lowering subsidy expenditure as its operating expenditure had been on a rising trend, which accounted for 99 per cent of the total revenue last year from 79 per cent in 1998, he said.

"This is an unhealthy trend as it eroded the ability of the government to expand its development expenditure and weighed on the government fiscal's position," Chan said.

As such, if the saving of subsidy expenses was to channel to the poor or needy or to implement an expansionary fiscal policy, such as lower personal income tax or raising consumer's personal tax relief bracket, there would be no doubt that the government was heading the right path, Chan said.

"For example, the government can review the current tax relief and raise it according to the needs of low and middle income groups," he said. Chan said the current tax relief at RM8,000 a year, based on income average of less than RM1,000 per month, may not be sufficient for those in the urban areas. In this case, the government may consider raising it to RM12,000 a year that based on RM1,000 income average per month, he said.

The government could also look into scrapping road tax renewal as compensation for the fuel price hike, he suggested.For the poor, the government could introduce a coupon system to provide for the exchange of basic need products at local stores, said Chan."It will not only help the small local players but at the same time allow the poor to get their aid quickly and in rightful manner," he said."If you raise something, you need to reduce something else. I think that's a fair reason."

On inflation, Chan said the impact of this round of subsidies cut should be mild and manageable."We expect the inflation to gradually increase to about 2.3 per cent by end of this year," he said. According to him, inflation is not a major constraint but what's important is the move to benefit everybody in the longer term.-- BERNAMA

Cuts not expected to drive up inflation

KUALA LUMPUR: The rollback in subsidies is not expected to cause a major spike in inflation and the impact on overall consumption will be minimal but the Government should ensure that profiteering does not become rampant, according to analysts and economists.

More importantly, they said the Government should enforce stringent measures so that food prices were kept in check to protect the interest of the lower and middle-income earners.

CIMB Investment Bank Bhd economic research head Lee Heng Guie said the five sen or 2.8% rise in the price of RON95 would have a minimal impact on inflation.

“RON 95 has a 6.5% weightage to the overall consumer price index - and the 2.8% increase translates to a 0.2% overall impact to the index, so that’s minimal,” he said.

He said the increase in prices of petrol and other goods was a “good first small step” towards the Government’s subsidy rationalisation plan.

He expected Bank Negara to maintain the overnight policy rate - the benchmark lending rate – at 2.75% for the rest of the year.

AmResearch Sdn Bhd senior economist Manokaran Mottain said the increase in prices was expected and minimal.

“Consumers should not be complaining. The important thing now is for the Government to enforce stringent measures to ensure that food prices are kept in check,” he said.

MIMB Investment Bank research head Chan Ken Yew said the rise in prices appeared manageable although it meant that inflation would be creeping up.

He was targeting an inflation year-on-year growth rate of 3.1% this year.

“We need to see what sort of remedial acts the Government would implement during the Budget. For example, will it reduce income tax? Will there be other relief measures?” he said.

ECM Libra research head Bernard Ching said the current price increases were acceptable and would not result in much inflationary pressures.

“Five sen for RON 95 is manageable. Now that sugar price has been increased, we may also see some supply coming back, as there were initially some hoarding activities.” he said.

Ching added that the Government was mindful of consumer sentiment and the impact of subsidy rollbacks on the man on the street. He said the Government would most likely compensate consumers by announcing some form of relief measures soon.

July 16 2010, Friday

The Root Cause of the U.S. Housing Bubble Has Yet to Be Addressed

Banks and Wall Street profited immensely from millions of unqualified home buyers reaching out for the simulacrum of middle class "ownership." The fundamental root of the housing bubble--the collusion of the Central State and banks to extend home ownership to millions of citizens who did not qualify for that burden-- remains firmly in place.

The Federal government continues to pour tens of billions of dollars into this "home ownership should be for everyone" project via subsidies to Fannie Mae (FNM), Freddie Mac (FRE) and FHA. Mortgage lenders have been delighted to write mortgages in our completely nationalized market in which the government backs literally 99% of all mortgages and the Federal Reserve bought $1.2 trillion in mortgages that no sane private investor would touch.

Fannie Mae seeks $8.4 billion from government after loss

Fannie Mae, the largest U.S. residential mortgage funds provider, on Monday asked the government for an additional $8.4 billion after the company lost $13.1 billion in the first quarter. Because of current trends in housing and financial markets, Fannie Mae expects to continue having a net worth deficit in future periods and to need to tap more funding from the Treasury.

"Promoting sustainable homeownership and maintaining ready access to liquidity are our guiding principles in serving the residential markets," said Michael Williams, the firm's chief executive.

The government has relied heavily on both companies, which buy mortgages from lenders to stimulate more lending, to stabilize the housing market. In other words, the housing market would collapse without this massive Federal support, and there is no end to the losses this subsidy will require. Propping up the nation's fundamentally insolvent housing market is truly a financial black hole. Meanwhile, the default rate on low-down-payment FHA loans is a staggering 20% on loans written in 2008--after the housing bust had already unfolded and the risk was undeniable.

F.H.A. Problems Raising Concern of Policy Makers

F.H.A. commissioner, David H. Stevens, acknowledged that some 20% of F.H.A. loans insured last year — and as many as 24% of those from 2007 — faced serious problems including foreclosure. The Federal government has thus shown that it is so committed to propping up an unsustainable policy and housing market that it is ready to write off 1 in every 4 mortgages within a year of origination.

The problem with that willingness to absorb risk for the sake of incentivizing borrowing for home ownership is that next year another 20% will default, and then the following year another 20% will default, and by year Five the vast majority of those loans backed by FHA will be in default.

FHA Facing "Cataclysmic" Default Rates

The Federal Housing Administration (FHA) has guaranteed about 25% of all new U.S. mortgages written in 2009, up from just 2% in 2005. The key phrase here is "borrowing," not "home ownership."

The key feature of State support of housing is not legitimate "home ownership," it is the enabling of massive new sources of income and transactional churn for lenders and Wall Street loan and derivatives packagers.

Home "ownership" when there is no equity in the purchase and no equity being built via principal payments is a simulacrum of ownership. If a buyer puts almost no money into the purchase--even now, FHA and VA loans can be had with a mere 3% down payment--and the loan is of the interest-only or adjustable-rate (ARM) variety favored during the housing bubble's heyday, then there is no principal payment being made and thus no equity being built. These "buyers" don't "own" anything; all they're doing is renting the money in the hopes that rising home prices will create equity for them out of thin air. What they "own" is essentially an option on a property which they "rent" monthly.

If the government manages to reinflate the housing bubble (it won't, but hope and greed spring eternal), then the option will pay off handsomely. The "owner" put no money into the speculative bet, but they can then sell their option for a huge profit. If housing plummets, then the "bet" was lost. But since "renting" the mortgage didn't cost much more than renting a real house, and there was no capital at risk, then the downside is modest indeed. In other words, heavily subsidized mortgages at low rates with little money down incentivizes not home "ownership" but speculation in credit-based bubbles. In the "old days" (circa 1994), the expectation was that equity would be built by paying off the mortgage principal over time. Equity was a result of reducing the mortgage due, not the result of speculative gambling on future asset bubbles. The FDIC foresaw the risks of the subprime mortgage gambit to extend "ownership" of a mortgage back in 2006, when they issued this chart. (Click to enlarge)

I noted in Housing and the Collapse of Upward Mobility (April 16, 2010), according to the Census Bureau, the U.S. has 51,487,282 housing units with a mortgage and 23,875,803 Housing units without a mortgage as of 2008.

As I go on to document in that entry, massive equity extraction and credit-based speculative purchases of homes has had a disastrous consequence to home equity: there is only about $1 trillion--a mere 1.85% of the nation's total net worth--of equity left in the 51 million homes with mortgages.

So much for the progressive-sounding goal of extending home ownership to all: the pernicious consequence is that equity has been all but wiped out for mortgage holders.

Let's ask cui bono of this "home ownerhsip should be for everyone" policy: who benefited? Certainly not the "owners," most of whom have either been wiped out (some 25% of "owners" have negative equity, and this probably understates reality), or who are left with shreds of equity which won't survive the next downturn in housing prices.

Who benefitted? The mortgage lenders, banks and Wall Street debt packagers. While undoubtedly some do-gooders in Washington were convinced that home ownership was the key feature of middle class wealth, events have proven their belief to be tragically in error.

The key feature of middle class wealth is thrift, not massive leveraged debt. What Washington and its financial Power Elite partners presented as "the road to middle class wealth" was in fact a mere chimera, a simulacrum of the road to middle class wealth. That road is fiscal prudence and thrift.

Immigrants have prospered in the U.S. for generations because they were thrifty and sacrificed for their children by sweating blood to save money for college educations and for 20% down payments on homes. They did not prosper by snagging Central State supported mortgages with no down payment on homes they could not afford under any prudent calculation of risk.

From this point of view, the entire "home ownership is for everyone" policy was a gigantic fraud, a con job sold to an American public greedy for a short-cut to middle class wealth. The bankers and the Central State government both profited immensely, as the bankers and Wall Street minted tens of billions in profits off the mortgage machine and its derivative spin-offs, and the government (at all levels, Federal, state and local) gorged on billions of dollars in transfer fees, capital gains taxes and the sales taxes on all the gewgaws home "owners" bought to fill up their new McMansions.

Back in 2006 (when I'd already been covering the coming housing bust for almost two years), the FDIC reckoned 5% of home "owners" were at risk of default. 5% of 75 million is 3.75 million. As near as I can calculate from these media accounts, (Homes in foreclosure rose 79% in '07, Record 3 million households hit with foreclosure in 2009), about 4 million mortgages have already been foreclosed.

So the "at risk" "buyers" are gone. Their "bet" on future housing appreciation has been lost. But 14% of all mortgages are still in default, (about 7 million) which suggests that rather than being drained, the foreclosure pipeline is full to bursting. I addressed this more fully in The Foreclosure Pipeline Is Full.

The basic problem which cannot be solved is that the entire housing policy was founded on two presumptions which are both failing: prosperity (jobs) will grow forever, and housing values will rise forever.

The policy did not consider the possibility that household income and wealth would actually decline, and that housing valuations would decline by substantial amounts, year after year. The housing subsidy policy was in effect a speculative scheme in which a simulacrum of "ownership" was extended on the faith that rising income and house prices would make good that bet. Now that assumption has been revealed as false; incomes and house prices are both in structural declines, yet the Federal government is insisting on issuing hundreds of billions of dollars in new "options" (simulacra of ownership) in the vain, absurd hope that issuing enough speculative bets will actually re-inflate the housing bubble and thus bail out the banks, Wall Street, Federal revenues and the hapless marks who bought into the con. But issuing leveraged options is not the same as creating capital or equity. Thus the government's plan of reflating the housing bubble will fail.

Let's take a look at home ownership rates over the past century. As we can see, prior to the Federal government's massive subsidy of housing via 3% down payments and guaranteed mortgages, ownership hovered at around 45% of households. Clearly, home ownership (the real thing, not a simulacrum) was not for everyone for the simple reason less than half the populace could afford to buy a home when a substantial down payment and private lending were required.

I know this sounds "impossible" (just like it was "impossible" for stocks and housing to crash) but what if the government is forced to repudiate its housing policy and ownership falls from 67% to 47%?

According to the Census Bureau (home ownership rates), there are 111 million occupied dwellings, 19 million vacant dwellings (of which only 6-7 million are truly vacation/second homes), and 75 million owner-occupied homes.

Even after 4 million foreclosures, that puts home ownership at 67%. If the entire edifice of mortgage subsidies (which result in 20% default rates) collapses under its own weight, and home ownership (the real thing) declines to 47% of households, that would leave about 52 million owners and 59 million renters.

Since 24 million home owners already own their houses free and clear (without mortgages), then that implies that mortgage holders would decline from 51 million to 28 million. Would that really be such a terrible thing for the nation? How beneficial is the current simulacrum of home "ownership" anyway, when a pathetic 1.8% of the nation's wealth is spread amongst 51 million home "owners" staggering under unprecedented debt? Can that even be called "ownership"? What exactly is "owned" other than a call option on future bubbles?

What is owned is the debt--by banks and "investors," all backed by Federal guarantees. Who would suffer from the end of this perverse subsidy of a false "ownership" is Wall Street and the big mortgage lenders, who would see the pool of mortgage money diminish to what the private debt market would support.

All those fat transaction fees, the re-financing fees, the plump profits from home equity lines of credit, the enormous profits booked from packaging mortgages and writing derivatives against them--all gone.

CAR SALES GROW

PETALING JAYA: The recent hike in hire-purchase interest rates has not deterred vehicle sales, analysts said.

MIMB Investment Bank Bhd head of research Chan Ken Yew observed that auto loans and car sales continued to grow despite the hike.

“To be frank, this was not my initial thought. The more resilient auto loans and sales could be due to two reasons. Firstly the car replacement cycle and secondly, a growing affluent market,” he told Mail Money, adding that the buying power of the 40s age group will be strong for the next two years.

Prime consumption comes from those aged 45-48. MIDF Research reports that the car market is expected to remain buoyant, backed by interest on new vehicle models, attractive pricing and aggressive promotions.The second quarter is usually a slower sales period for all marques of cars.

“Any hike in hire purchase could affect sales of motor vehicles in the immediate term but sales are expected to pick up over the medium to long term. So far, sales have been quite resilient,” it said.

UOB Kay Hian Research expects car interest rates to remain moderate, and observed that car buyers had been rushing earlier to lock into lower hire purchase rates.

The research house said the automobile market can still expect a 10% year-on-year growth, but overriding the growth are economic growth expectations which could be tempered by economic developments in Europe and the US.

Chan said MIMB Investment Bank has not ruled out the possibility of a further increase in car loan interest rates should there be another hike in the overnight policy rate (OPR). “Initially, we expected another 25-50bps hike in OPR to 2.75% to 3%. Thus far, the External Trade statistics and industrial production index have started to show declining month-on-month growth. Should this continue in the coming months, we reckon that the room for the OPR hike will be limited to 25bps. That indicates the OPR could stay at 2.75% until year end.”

MIDF Research, meanwhile, said: “With the economy gaining traction and indications the central bank will bring the OPR back to what it deems a ‘normal rate’, we will not be surprised if the OPR rises by another 25 to 50 basis points at the subsequent Monetary Policy Committee (MPC) meetings. Our house view is that OPR will rise from the present 2.5% to 2.75% or 3% by year end.”

Financial Reform Overlooks Fannie Mae

[BRIEFING.COM - Robert V. Green] The financial reform bill agreement reached by the House and Senate conference committee on Thursday, June 24, 2010, is one of the most major and broad sweeping changes in the financial industry in history. The most striking aspect of this bill, however, is the complete absence of any regulation of Fannie Mae and Freddie Mac. Instead of recognizing the principal role that the agencies played, the motivation behind the bill attempts to demonize unnamed "companies" that created the subprime mortgage mess. Fannie and Freddie were two of the biggest of these "villainous companies."

The Financial Reform Bill

The Financial Reform Bill is broad reaching and covers many aspects of the industry, including regulations on the hedge fund industry for the first time. In addition, new regulations for banks and derivative securities will limit the amount of risk that financial institutions can assume.

For the most part, these changes appear to be beneficial in the long term, particularly the trend back towards separation of commercial banks and investment banks.

However, the most striking aspect of this legislation is how it completely avoids any discussion of the GSEs chartered by Congress, principally Fannie Mae, whose mortgage purchasing activities were the root cause of the financial crisis.

What the Bill Says About Mortgage-Backed Securities

The bill institutes new requirements on how mortgage-backed securities (MBS) can be created. The biggest change is that issuers of MBS will have to retain a minimum of 5% of the credit risk associated with the underlying assets. Exactly how this 5% of risk will be retained is not clear at the moment.

There is an exception to this "skin in the game" rule, where underlying assets meet certain defined standards. The exact details of this loophole are not known at this moment, as the resolution reached by the joint-committee has yet to be actually written into law.

Why Change Securitization Rules?

The motivation for the new regulations on securitization of mortgages was best expressed by the U.S. Senate Banking Committee's "Summary: Restoring American Financial Stability" dated May 28, 2010:

Companies that sell products like mortgage-backed securities are required to retain a portion of the risk to ensure they won't sell garbage to investors, because they have to keep some of it for themse

Why Change Is Needed: Companies made risky investments, such as selling mortgages to people they knew could not afford to pay them, and then packaged those investments together, called asset-backed securities, and sold them to investors who didn't understand the risk they were taking. For the company that made, packaged and sold the loan, it wasn't important if the loans were never repaid as long as they were able to sell the loan at a profit before problems started.

This led to the subprime mortgage mess that helped to bring down the economy.

The irony of this statement is that the dominant player in the mortgage industry, including the subprime sector, was Fannie Mae, a "company" controlled by the U.S. government through mandates issued by the Department of Housing and Urban Development (HUD).

Fannie Mae never originated mortgages, but it did purchase mortgages from originators and then packaged those mortgages into "asset-backed securities." As such it could clearly be called one of the players for whom the word "companies" applies.

Fannie Mae and Freddie Mac never originated mortgages.

Both agencies purchased individual mortgages from originators and then either held those mortgages in their portfolios or packaged them into MBS securities that are then sold to investors.

The types of individual mortgages that Fannie Mae was legally allowed to purchase were subject to defined rules to ensure credit-worthiness. These types of loans are called conforming loans.

However, Fannie Mae and Freddie Mac also provide a service called guarantee services, where the agencies, in essence, provide insurance on a pool of mortgages.

These "insured" pools of mortgages were not subject to the same types of rules as conforming loans.

Both Fannie Mae and Freddie Mac began to provide guarantee services for pools of riskier mortgages such as Alt-A and subprime mortgages from originators in large quantities starting in 2005 and peaking in 2007.

It was these "insured" pools of mortgages that were at the root of the housing problem, and by ripple effect, the financial crisis.

Fannie Mae's Lender Swap Transactions
An illustration of how Fannie Mae facilitated the subprime mortgage market can be seen by examining the operation of what Fannie Mae called a "lender swap transaction." In a lender swap transaction, an outside company originates individual mortgages and pools a large number of them into a single MBS security.

In the swap agreement with Fannie Mae, that lender then submits the pool of mortgages to Fannie Mae in exchange for a Fannie Mae issued MBS, which is backed by the same loans. Fannie Mae then would take the pool of loans provided to it and place those loans in a trust fund, which was in essence an off-balance sheet asset.

Each MBS involved in the lender swap transaction was placed in a separate and distinct trust, with Fannie Mae as the trustee. As principal and interest payments were made on the loans by the mortgage borrowers, the originating lender submitted those payments to the Fannie Mae trust fund, retaining a portion of the payments for themselves.

Fannie Mae would then take the income stream from the trust, retaining a portion for themselves. The remainder would then be used to the make the interest payments on the Fannie Mae MBS that was issued in exchange for the pool of loans that now reside in the trust. For the lender, the swap transaction allowed a pool of subprime mortgages to be exchanged for a Fannie Mae MBS, which carried the implied credit and backing of the U.S. government.

For Fannie Mae, the much higher interest rate payment stream from the swapped pool of mortgages made for an extremely profitable arrangement. In these prearranged swap agreements, Fannie Mae did not have to create the pool of mortgages themselves, as they had to do with individual mortgages they purchased.

Nor did they have to sell the packaged MBS on the market as they did with their own MBS packaged securities. The swap agreements represented fast arrangements of "flipping" a pool of mortgages acquired from a lender into a Fannie Mae MBS that was instantly "sold" back to that very same lender.

The lender could then take this Fannie Mae branded MBS and either hold it, sell it, combine it with other mortgage pools to create new securities, or divide the MBS into new "tranche" securities that could be sold at the retail level. In essence, Fannie Mae could be viewed as having "laundered" a pool of subprime mortgages into a Fannie Mae MBS, with the full credit rating of other Fannie Mae MBS securities.

Scale Of Fannie Mae's Subprime and Alt-A Guarantees
The scale of Fannie Mae's involvement in the Alt-A and subprime market was extremely large. A Washington Post article published in June 2008 estimated that Fannie Mae and Freddie Mac purchases of subprime loans totaled 49% of the entire subprime market in 2003, 44% in 2004, 33% in 2005, and 20% in 2006. According to Fannie Mae's 2007 10-K, the total volume of Alt-A and subprime mortgages held in these separate MBS trusts, but guaranteed by Fannie Mae was $318 billion.

In December 2008, former Fannie Mae CEO Franklin Raines testified at the House Committee On Oversight And Government Reform hearing regarding Fannie Mae and Freddie Mac. Mr. Raines testified that $17 billion of the $18 billion loss recorded by Fannie Mae in the first three quarters of 2008 was attributable to the guarantees standing by Fannie Mae issued MBS. Mr. Raines further testified that the losses were attributable "in large part to Fannie Mae's guaranteeing of certain high risk loans, largely so-called 'Alt-A' loans and, to a lesser extent, subprime loans."

In other words, Mr. Raines, the former CEO of Fannie Mae (1999-2004), places the blame for Fannie Mae's losses directly upon their assumption of risk on non-traditional loans. The Senate Committee on Banking, Housing, and Urban Affairs places the blame on "companies."

The Unnamed "Companies"
The largest originator of home mortgages was Countrywide Financial. Countrywide was also one of the largest originators of Alt-A mortgages and the top servicer of subprime mortgages. As such Countrywide is often viewed as one of the companies at the heart of the housing crisis. It seems reasonable to assume that the "companies" referred to in the Senate Housing Committee's Summary of the Financial Reform would include, and perhaps be directly aimed at, companies like Countrywide Financial.

The irony of this is that Countrywide was Fannie Mae's largest customer. In 2007, Countrywide accounted for 28% of Fannie Mae's single-family business volume. When combined with Bank of America, which acquired Countrywide, the two companies accounted for 32% of Fannie Mae's business in 2007.

Exactly what percentage of loans provided to Fannie Mae from Countrywide were Alt-A or subprime loans is not readily available. It seems reasonable, however, to assume that as one of the largest Alt-A originators and the servicer of subprime loans, Countrywide, as Fannie Mae's largest customer, also transferred these loans, through sales or swaps, to Fannie Mae's portfolio or into Fannie Mae MBS trusts. With this view, it is hard to blame Countrywide for issuing loans where, as the Senate Committee stated, "it wasn't important if the loans were never repaid as long [since] they were able to sell the loan at a profit before problems started." Countrywide was selling those loans to Fannie Mae, a federally chartered and directed company. The government created the very buyer that enabled firms such as Countrywide to avoid assuming the risk.

The Great Shortfall of the Financial Reform Bill
With the above understanding of Fannie Mae's involvement in the housing crisis, including the "subprime" mess referred to by the Senate Committee, it seem incredulous that the broad sweeping financial reform bill says absolutely nothing about reforming Fannie Mae and Freddie Mac. Is it fair to focus on "companies" such as Countrywide in the financial reform bill without also focusing on the primary enabler of Countrywide's practices: Fannie Mae?

An optimistic view might hope that the reformation of Fannie Mae and Freddie Mac will occur in a separate action by Congress. However, with the near complete absence of any posturing by either the House or Senate Committee's charged with reforming the financial system, such optimism seems unrealistic. If reformation of Fannie Mae and Freddie Mac were truly important to Congress, statements from someone would likely be made now. Fannie Mae was explicitly exempted from a variety of already existing financial regulations.

For example, while banks were required to hold 4% of capital against outstanding mortgages, Fannie Mae needed only a 2.5% capital reserve. What is the likelihood that Fannie Mae will eventually be exempt from the requirements imposed on other financial firms? We can only speculate. In conclusion, while we think that many aspects of the coming financial reform bill will be positive, without dramatic reformation of Fannie Mae and Freddie Mac, the impact will be deeply diminished.

Comments may be emailed to the author, Robert V. Green, at aheadofthecurve@briefing.com