week ending Aug 13

Fed balance sheet expands in latest week (Reuters) - The U.S. Federal Reserve's balance sheet grew in the week ended August 10, Federal Reserve data released on Thursday showed. The Fed's balance sheet  expanded to $2.856 trillion in the week ended August 10 from $2.851 trillion in the week ended August 3. The Fed's holdings of Treasuries totaled $1.645 trillion on August 10, up from $1.641 trillion the previous week. The Fed's ownership of mortgage bonds guaranteed by Fannie Mae, Freddie Mac, and the Government National Mortgage Association (Ginnie Mae) totaled $897.29 billion, unchanged from the previous week. The Fed's holdings of debt issued by Fannie Mae, Freddie Mac and the Federal Home Loan Bank system were also unchanged from a week earlier, at $112.44 billion. The Fed's overnight direct loans to credit-worthy banks via its discount window averaged $6 million a day in the week ended Wednesday, compared with an average daily rate of $10 million last week.

US Federal Reserve Balance Sheet Grows Slightly In Latest Week - The size of the U.S. Federal Reserve's balance sheet inched up in the latest week as the central bank maintained a large portfolio of assets following the end of its economic stimulus. The Fed's asset holdings in the week ended Aug. 10 grew slightly to $2.876 trillion, from $2.871 trillion a week earlier, it said in a weekly report Thursday. The Fed's holdings of U.S. Treasury securities grew to $1.645 trillion on Wednesday, from $1.641 trillion a week earlier.Central bankers met this week and decided they would keep rates near zero into 2013. After the policy meeting Tuesday, the Fed said it will keep the size of its portfolio stable by continuing to reinvest the proceeds of its maturing securities.Thursday's report showed total borrowing from the Fed's discount lending window fell to $11.91 billion from $11.97 billion a week earlier. Borrowing by commercial banks fell to $10 million, from $52 million a week earlier.U.S. government securities held in custody on behalf of foreign official accounts edged up to $3.476 trillion, from $3.472 trillion the previous week.Meanwhile, U.S. Treasurys held in custody on behalf of foreign official accounts increased to $2.742 trillion from $2.736 trillion in the previous week. Holdings of agency securities fell to $734.10 billion from the prior week's $ 736.13 billion.

FRB: H.4.1 Release--Factors Affecting Reserve Balances--August 11

A Look Inside the Fed’s Balance Sheet – Aug 9 Interactive - See a full-size version. Click on chart in large version to sort by asset class. Ahead of the Federal Reserve‘s policy-setting meeting today, it’s worth taking a look at the latest figures from the Fed’s balance sheet. Assets on the Fed’s balance sheet sit at around $2.85 trillion as of last Wednesday. The level has held pretty stable since June, when the central bank ended it bond-buying program, commonly known as QE2.  The balance sheet is up from less than $1 trillion prior to the recession. During the downturn the Fed expanded its balance sheet through several programs aimed at keeping markets functioning. As markets stabilized the Fed shifted out of emergency programs and into purchases of U.S. Treasurys, mortgage-backed securities and agency debt securities to drive down interest rates and encourage more borrowing and growth in two separate rounds of what is known as quantitative easing.

Rogoff Sees Fed Asset Purchases in Effort to Secure U.S Economy  - Federal Reserve policy makers are likely to embark on a third round of large-scale asset purchases, moving “more decisively” to secure the U.S. recovery, said Harvard University economist Kenneth Rogoff. “They certainly should do something right away,” said Rogoff, a former International Monetary Fund chief economist who attended graduate school with Fed Chairman Ben S. Bernanke. It’s “hard to know” if Bernanke would immediately be able to gain the support of Federal Open Market Committee members, Rogoff said in an interview today on Bloomberg Television. The FOMC meets today in Washington a day after the worst day for U.S. stocks since December 2008. Bernanke last month outlined policy options including additional asset purchases or strengthening the commitment to low interest rates after the first two rounds of so-called quantitative easing failed to keep the unemployment rate below 9 percent. “Out-of-the-box policies are called for, especially much more aggressive monetary policy, however unpopular that may be,” said Rogoff, 58, a former Fed economist

Former Fed Officials Opine (WSJ video)

Another Round of QE3? - The recent downgrading of the U.S. debt will lead to another round of quantitative easing according to Ken Rogoff. “They certainly should do something right away,” said Rogoff, a former International Monetary Fund chief economist who attended graduate school with Fed Chairman Ben S. Bernanke. It’s “hard to know” if Bernanke would immediately be able to gain the support of Federal Open Market Committee members, Rogoff said in an interview today on Bloomberg Television. The FOMC meets today in Washington a day after the worst day for U.S. stocks since December 2008. Bernanke last month outlined policy options including additional asset purchases or strengthening the commitment to low interest rates after the first two rounds of so-called quantitative easing failed to keep the unemployment rate below 9 percent. “Out-of-the-box policies are called for, especially much more aggressive monetary policy, however unpopular that may be,” said Rogoff, 58, a former Fed economist who like Bernanke earned a Ph.D. from the Massachusetts Institute of Technology. The Fed is “going to move more decisively,” Rogoff said.

A Fresh Surge In Uncertainty - Ken Rogoff of Harvard tells Bloomberg that the Fed will likely roll out a new round of quantitative easing. “They certainly should do something right away,” The opportunity to announce QE3 arrives later today, when the central bank is scheduled to dispatch its standard press release in the wake of the scheduled FOMC meeting. “Some market participants will be looking to gauge whether the Fed will give any clues as to the timing of a possible [third round of quantitative easing], given the massive falls in equity markets in recent days,” Michael Hewson, analyst at CMC Markets, advises via MarketWatch. “However, it could well be the only thing the Fed are likely to do is downgrade their growth forecasts for the U.S. economy, while reiterating their intention to keep rates low for an extended period, given that their monetary policy toolbox is starting to look a little depleted." It's  But if the measure of deciding if Fed action is warranted is the risk of new downturn, one economics professor at Stanford lays the foundation for thinking that the macro threat is building. "The U.S. and European debt crisis of the last week have generated massive economic uncertainty," writes Nicholas Bloom. "One measure of the economic uncertainty – the VIX index of stock-market volatility – has jumped to levels not seen since the crash of 2008."

Don't Fight Bet On The Fed - Many observers expect the Federal Reserve to bail out the stock market next Tuesday with an announcement of QE3, another round of "monetary easing" to reinstall the trade in risk assets. If they do, it will fail. The basic reason it will fail is that the Fed's credibility has fallen below a critical threshold. Put another way, the quasi-religious trust in the Fed's infallibility and power to single-handedly reverse global markets has been eroded by reality: QE2 was a monumental failure. Here's a couple of things to understand about the Fed before you "buy the bounce when they announce QE3."

• 1. Though nominally independent, the Fed is a political construct. The idea that public opinion and political support have no influence on the Fed is wrong; the Fed's failure to revive the economy while squandering trillions of dollars propping up banks and Wall Street bonuses was not lost on the political class.
• 2. The consensus view is the Fed has either engineered the stock market drop to give it a free hand with QE3, or it will be "forced to do something" to combat the implosion of its pet fix to the broken economy, the "wealth effect" of rising stocks. The worst move here would be to double-down on QE3, because if it failed to goose global markets in a sustained fashion, then the Fed's remaining credibility and "magic" would vanish in a puff of smoke.

Will the FOMC Repeat the Mistake of 2008? - I hope not.  As you may recall, the FOMC met a day after Lehman collapsed on September 16, 2008 and decided against lowering the federal funds rates.  Yes, the Fed decided to keep its targeted interest rate unchanged at 2% just as the financial crisis was reaching its peak.  Amazingly, the reason the FOMC acted this way was its concerns about inflation, which at the time were driven by commodity prices and reflected a backward-looking view of inflation.  Had the Fed given more weight to forward-looking indicators like the expected inflation rate coming from TIPS and a host of other market indicators, the Fed would have realized the market was pricing in a sharp recession.  Even though the Fed intervened more aggressively after this point, it never rose to the point that would restore current dollar spending to a healthy, sustainable level.  The Fed, therefore, effectively tightened monetary policy at that time.   Though the circumstances are somewhat different today, the same Fed inertia that kept it from responding appropriately in late 2008 could similarly prevent the Fed from getting ahead of the current crisis.  Now is not the time to be conservative and cautious.  It is time for Chairman Bernanke and the FOMC to take the initiative and provide some real "shock and awe" monetary policy stimulus.

Fed to Keep Rates at Record Lows at Least Through Mid-2013.  The Federal Reserve pledged for the first time to keep its benchmark interest rate at a record low at least through mid-2013 in a bid to revive the flagging recovery after a worldwide stock rout.  The Federal Open Market Committee discussed a range of policy tools to bolster the economy and said it is “prepared to employ these tools as appropriate,” it said in a statement today in Washington. Three members of the FOMC dissented, preferring to maintain the pledge to keep rates low for an “extended period.”  The Fed offered a dimmer view of the economy than it did in the last statement in late June. “Economic growth so far this year has been considerably slower than the committee had expected,” it said. The Fed also said it expects a “somewhat slower pace of recovery over coming quarters,” adding that “downside risks to the economic outlook have increased.” The Fed left its target for the federal funds rate in a range of zero to 0.25 percent, where it’s been since December 2008. It said it will maintain its policy of reinvesting maturing securities without saying for how long.

Fed won't hike rates for at least two years - Those who were hoping for an announcement of a third wave of quantitative easing by the Federal Reserve on Tuesday evening were disappointed, though the Fed said it discussed a range of policy tools and is "prepared to employ these tools as appropriate". Specifically, it made the announcement that it would keep the Fed Funds rate at its current level (0 - 0.25%) until at least mid-2013. Optimists will see this as a sign that the Fed is prepared to do everything to maintain the recovery, pessimists as evidence that America is turning into Japan.The vote was not unanimous. Three members of the 10-member Federal Open Market Committee, Richard Fisher, president of the Dallas Fed, Charles Plosser of Philadelphia and Narayana Kocherlakota, Minneapolis Fed, dissented, preferring merely a commitment to keep rates low for an "extended period". This was the first time under Ben Bernanke's presidency there have been three dissenting votes.

Fed to keep interest rate near zero for 2 years (AP) — The Federal Reserve sketched a dim outlook for the economy Tuesday, suggesting it will remain weak for two more years. As a result, the Fed said it expects to keep its key interest rate near zero through mid-2013. It's the first time the Fed has pegged its "exceptionally low" rates to a specific date. The Fed had previously said only that it would keep its key rate at record lows for "an extended period." The Fed announced no new efforts to energize the economy in its statement released after its one-day policy meeting. But the statement held out the promise of lower rates on mortgages and other consumer loans longer than many had assumed.The decision was approved on a 7-3 vote. Three Fed regional bank presidents who have been worried about inflation objecting. It was the first time since November 1992 that as many as three Fed members have dissented from a policy statement.

FOMC Statement: "exceptionally low levels for the federal funds rate at least through mid-2013" - From the Federal Reserve: Information received since the Federal Open Market Committee met in June indicates that economic growth so far this year has been considerably slower than the Committee had expected. Indicators suggest a deterioration in overall labor market conditions in recent months, and the unemployment rate has moved up. Household spending has flattened out, investment in nonresidential structures is still weak, and the housing sector remains depressed. Moreover, downside risks to the economic outlook have increased. The Committee also anticipates that inflation will settle, over coming quarters, at levels at or below those consistent with the Committee's dual mandate as the effects of past energy and other commodity price increases dissipate further. However, the Committee will continue to pay close attention to the evolution of inflation and inflation expectations. To promote the ongoing economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate, the Committee decided today to keep the target range for the federal funds rate at 0 to 1/4 percent. The Committee currently anticipates that economic conditions--including low rates of resource utilization and a subdued outlook for inflation over the medium run--are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013.

Fed Statement Following August Meeting - The following is the full text of the statement following the Feds August meeting:

The Fed Says Rates Likely to Remain Low Through Mid-2013 - Here is a list of the policies the Fed might have pursued, and what it actually decided:

• 1. A Change in Communications = The Fed has emphasized communications strategy as a policy tool, and it attempted to make use of this in its Press Release. For example, the Fed believes expectations are a key factor in the evolution of the economy, and by providing guidance on interest rate policy the Fed can affect expectations about the course of interest rates, prices, and other macroeconomic variables.
• 2. Lower the Interest Rate on Reserves = Some analysts have called for a reduction in the interest rate the Fed pays on reserves as a means of stimulating new loans and new investment.
• 3. QE3 = Many observers, Joe Gagnon foremost among them, have called for QE3. However, except for the statement that the Fed is prepared to adjust the balance sheet “as appropriate,” there is nothing specific on this in the Press Release. The economy has shown more weakness than the Fed predicted, but the main trigger for QE3 will be fear of deflation. There is some indication from bond markets that inflation expectations are falling, but they aren’t as low as they were when QE2 was initiated and unless expectations fall further, QE3 is unlikely.

A Divided Fed Balks At More Stimulus Spending - Internal dissent at the Federal Reserve is the clearest sign yet that it will take a major shock to push the U.S. central bank into more costly emergency measures to prop up the world's largest economy. The Fed moved further into uncharted waters Tuesday, saying short-term interest rates will probably remain near zero for two more years, but the disagreement among its members suggests it will not wade deeper, as investors had hoped. Painting a bleaker outlook, chairman Ben Bernanke and his colleagues on the Fed's policy-setting panel said they expect to hold their benchmark rate at a historic low near zero until mid-2013.With the Fed suggesting that the outlook is dimming for the U.S. economy, the divisive debate on the Federal Open Market Committee (FOMC) about appropriate next steps could provide fresh tinder for the crisis of confidence that has plagued global financial markets in recent weeks, despite Tuesday's stock rally.

Macroeconomics in action - As everyone knows by now, the Fed’s August 9 statement marked a major change in the communication of policy: To promote the ongoing economic recovery and to help ensure that inflation, over time, is at levels consistent with its mandate, the Committee decided today to keep the target range for the federal funds rate at 0 to 1/4 percent.  The Committee currently anticipates that economic conditions–including low rates of resource utilization and a subdued outlook for inflation over the medium run–are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013. This is straight out of Eggertsson and Woodford’s 2003 BPEA piece, the key article for understanding how to conduct monetary policy in a liquidity trap. As Eggertsson and Woodford observe, once you’ve hit the zero lower bound, it’s not clear why massive money-financed asset purchases (like QE2) should have any direct effect. In fact, taking the path of the Fed Funds rate as given, their model shows that there is no effect. For various reasons, this probably isn’t quite true, but it’s not a bad approximation to reality either, and it provides a strong counterpoint to claims that the zero lower bound is somehow not a barrier.

The Fed States the Obvious - Paul Krugman - OK, count me unimpressed by the Fed statement — although for some reason markets went wild. The Fed didn’t announce a new policy. And despite what some press reports said, it didn’t even commit to keeping rates low; all it did was say that if the economy stays weak, rates will stay low — well, duh — and that it might think about doing other stuff one of these days: The Committee currently anticipates that economic conditions are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013. The Committee also will maintain its existing policy of reinvesting principal payments from its securities holdings. The Committee will regularly review the size and composition of its securities holdings and is prepared to adjust those holdings as appropriate. The Committee discussed the range of policy tools available to promote a stronger economic recovery in a context of price stability. It will continue to assess the economic outlook in light of incoming information and is prepared to employ these tools as appropriate.And three members of the FOMC dissented even from that!

Fed Watch: Weak Medicine - The Federal Reserve pronounced on the state of the economy, and the assessment wasn't pretty. I think this was pretty much the only good news:However, business investment in equipment and software continues to expand. We'll see if that holds up given the downdraft in the economy. Speaking of that downdraft, the growth outlook pushes back the return to full employment: The Committee now expects a somewhat slower pace of recovery over coming quarters than it did at the time of the previous meeting and anticipates that the unemployment rate will decline only gradually toward levels that the Committee judges to be consistent with its dual mandate. Moreover, downside risks to the economic outlook have increased. In response to these clear and present dangers to the economy, policymakers offered this:The Committee currently anticipates that economic conditions--including low rates of resource utilization and a subdued outlook for inflation over the medium run--are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013.Not exactly shock and awe. And this takes some of the fun out of Fed watching. What will become of us if the Fed starts telling everyone the policy path for the next two years?

Bernanke has thrown in towel on economy  (CNNMoney) -- Is the Federal Reserve waving the white surrender flag? It sure looks that way.  The Fed made the unusual (and unprecedented) move on Tuesday to tell the market in plain English that it intends to keep rates near zero for the next two years¹!  That is disappointing on many levels. First and foremost, it is a crystal clear sign from Ben Bernanke and other Fed members that they think the economic recovery (if one could still call it that) will remain tepid for a long time.  That is probably one of the reasons that the post-Fed euphoria on Tuesday afternoon on Wall Street² quickly gave way to despair again³ on Wednesday. This is not good. The Great Recession may have technically ended in June 2009. But for many Americans, this current malaise is just an extension of the problems that first began to surface in 2007. Lost Decade anyone?  Yes, that's a Japan reference. And it's sadly apt. The Fed, by pledging to leave short-term rates "exceptionally low" for what will eventually amount to a four-and-a-half-year stretch, is essentially guaranteeing that long-term bond rates will remain persistently low -- just like in Japan.

After Fed Statement We Need A Stronger Word Than Bleak - Bleak is a strong word, a powerfully negative word. But bleak isn’t strong enough to describe an economic outlook that calls for emergency tactics of zero overnight interest rates for at least four-and-a-half years.That’s the scenario laid out today by the Federal Reserve about the future of the U.S. economy. In an attempt to spur financing and economic opportunism but may wind up just depressing economic actors even further, the Fed said economic conditions “are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013.” This emergency, going to a 0%-0.25% range on the fed funds rate, began in December 2008. Emergencies are supposed to be acute. This one has been painful, especially to the millions without jobs, and it’s starting to feel endless.

The Fed Has Not Done Enough and it Has Not Fired Most of its Ammunition - We know that QE2 was intended to prevent inflation expectations from falling to dangerously low, even negative, levels, as they seemed about to do last summer. And in this it was successful. The deceleration in growth was associated with a series of unfortunate one-off events: severe winter weather, a spike in oil prices as a result of the Libyan uprising against Colonel Ghaddafi, and the tsunami and nuclear disaster in Japan. But rather than accommodate these supply shocks by allowing prices to rise as would be natural in the face of a supply shock, pressure built to tighten monetary policy to counter the supply-driven rise in prices, with results that are now becoming all too evident: rapidly falling inflation expectations and real interest rates.

Epic Fail - Over the past few weeks the Fed has reduced NGDP expectations even further below their already dismal levels. Today’s decision reached a new level of futility. The Fed did correctly diagnose the problem, slowing growth and slowing inflation (i.e. slower growth in NGDP.) But they failed to construct any sort of effective policy response. The FOMC doesn’t seem to understand that it’s not the Fed’s responsibility to forecast slower NGDP growth, it’s the Fed’s responsibility to prevent slower NGDP growth. Yes, there was the decision to promise low interest rates as far as the eye can see; but ultra-low rates are merely a sign that money has been too tight. The bankrupt Keynesian theory (that central banks must target interest rates) is what got us into this mess. Keynesians had no answer for a scenario where rates hit zero. And now the same bankrupt Keynesian model is preventing us from exiting the low spending morass. Zero rates won’t solve the problem as Bernanke ought to understand from his studies of Japan.

Bernanke’s Interest-Rate Timeframe Draws Most Negative Votes in 18 Years - Federal Reserve Chairman Ben S. Bernanke’s plan to hold interest rates near zero through at least mid-2013 provoked the most opposition among voting policy makers in 18 years as central bank consensus frayed.  The Fed chief achieved unanimous support on the Federal Open Market Committee in 2008 when he lowered interest rates to near zero, and in 2009 when he launched $1.73 trillion in bond purchases. Last year, his plan to buy another $600 billion in assets drew one dissent. Yesterday, three policy makers dissented from the decision to apply a specific date to the Fed’s low rate pledge for the first time.  Bernanke’s move shows that a Fed chairman can govern with more than two opposing votes, opening the door to bolder action if necessary, said Roberto Perli, a former economist in the Fed’s Division of Monetary Affairs, which helps craft the language of the FOMC statements. "We have reached the point where Bernanke is taking control and saying we have to do the right thing no matter how many people dissent,"

Interpreting the Fed: How Did it Lower Rates This Time? -Read the Fed’s latest statement, and you’ll see many of the themes I’ve talked about recently.  They’ve learned that the economy is not only weak, but that—as I’ve been forecasting for some time—“economic growth so far this year has been considerably slower than the Committee had expected.” Turn to the labor market, and they somewhat dryly note “a deterioration in overall labor market conditions.” And while they won’t use the word double dip, they do note that “downside risks to the economic outlook have increased.” Also, “inflation has moderated.”  So there’s plenty of room for them to try to goose the economy.  But how? Typically, the Fed does this by reducing the Federal Funds Rate, which is an interest rate on overnight loans. Unfortunately, that short-term interest rate is now pretty much at zero, and can’t go any lower. The thing is, no-one actually cares about the Fed Funds Rate. The Fed Funds Rate only matters to the extent that it reduces long-term interest rates. So the key is for the Fed to reduce long-term rates.

Two More Years Of Backdoor Bank Bailouts - The Federal Reserve's zero-interest rate policy (ZIRP) has been a resounding success. The economy is booming! Well, OK, it's not booming. Actually, the economy doesn't seem to be doing very well. In fact, the economy sucks. We appear to be on the verge of another recession. Nevertheless, the activist Fed must appear to be doing something. Yesterday the Fed governors voted (7-3) to hold short-term interest rates at their current very low levels for at least another two years, which takes us well into 2013. Issuing a grim new assessment of the American economy, a divided Federal Reserve said it now expects to hold short-term interest rates near zero for at least two more years. The central bank's surprise announcement on rates helped fuel a dramatic turnaround in the stock market, as some investors took comfort in the prospect of more help from the Fed. "Yes, it's a dismal outlook," "But in a market teeming with fatigue and confusion, she said, investors apparently read the Fed statement as somewhat hopeful. "It's still growth, it didn't say double-dip [recession] and the Fed is going to fight it," Swonk said.

Is There Enough Money on Earth to Save the Banks? - Forget free-market fundamentals. What matters most to the capital markets now is whether the governments of the U.S. and western Europe have the will and the wherewithal to save the global financial system from disaster yet again.  A healthy climate for the efficient allocation of capital, this is not.  By pledging to keep its benchmark interest rate near zero through at least mid-2013, the Federal Reserve succeeded (for a couple of hours) in propping up U.S. stock markets after two days of gut-wrenching declines, especially in financial stocks. The news came a day after the European Central Bank embraced the role of savior by buying sovereign debt of Italy and Spain, sending yields on those countries’ bonds plunging and offering respite to financial institutions that hold them.  The notion that the world’s governments won’t permit an economic meltdown seemed to be operative, less than two weeks after the U.S. Congress threatened to torch the nation’s full faith and credit. Then yesterday the equities markets fell out of bed again. The open question is how long investor confidence in the policy makers’ powers can last.

Goldman says QE3 likely after dovish Fed statement (Reuters) - Goldman Sachs said on Wednesday a third round of quantitative easing from the Federal Reserve is likely after the U.S. Federal Reserve promised to keep rates at extraordinarily low levels for at least two more years. "We now see a greater-than-even chance that the FOMC will resume quantitative easing later this year or in early 2012. We have changed our call because today's statement suggests that the committee's reaction function to incoming economic news is more dovish than we had previously thought," Jan Hatzius, chief economist at the firm, said in a note. The explicit commitment to keep policy rates low through mid-2013 and a bias to easing policy further were more aggressive than expected and resulted in Goldman penciling in QE3 after the previous $600 billion bond-purchase program ended in June. Hatzius said he thought the fact that Fed Chairman Ben Bernanke went ahead with a promise to keep rates low within a specific time frame despite three dissents in the policy-setting committee was a sign the rest of the central bank believe renewed easing is important.

The QE3 Watch - It was obvious the Fed would not announce QE3 yesterday. Instead they announced an extended "extended period". But they also hinted at QE3 in the last couple of sentences of the statement: The Committee discussed the range of policy tools available to promote a stronger economic recovery in a context of price stability. It will continue to assess the economic outlook in light of incoming information and is prepared to employ these tools as appropriate. That led Goldman Sachs chief economist Jan Hatzius to write last night: "QE3 Now Our Base Case"  We now see a greater-than-even chance that the FOMC will resume quantitative easing later this year or in early 2012. Last year, Fed Chairman Ben Bernanke paved the way for QE2 at the Jackson Hole economic symposium. Here is his speech from last August.  This year Bernanke will speak on August 26th at the Kansas City Economic Symposium in Jackson Hole, Wymong.

QE3: What Mega-Parasite Will the US Unleash? - You don't have to be a financial genius to figure out what the United States' default response is when times turn sour. QE1, QE2...what's next in the sequence? As you can read above, however, it was not always the case that being the US treasury secretary involved lying incessantly about "strong dollar" policy, China's dollar holdings being "safe," America being a "triple-AAA country" and other side splitters. There are good reasons why the US has become a global laughingstock. It's not that Americans didn't do funny stuff back in the day (of say, Richard Nixon) but that they were more haughty in being able to be forthright about screwing others over.  But times have changed in some important respects--except the screwing foreigners over part. About half of the US debt is held by overseas creditors--many of which are unfriendly to America (think China and Russia) or annoyed with constant lectures on freedom 'n' growth despite both being in short supply Stateside (add Mideast nations). Still, US authorities believe that flat-out lies about mutual benefit, win-win and the rest can assuage those being abused.  In essence, Putin's characterization of American parasitism--dead accurate, IMHO--is nothing other than exorbitant privilege restated.

Why QE3 Wouldn't Save the Economy - The Federal Reserve's much awaited statement following its August meeting didn't offer much solace to jittery investors. The FOMC said it would likely keep interest rates steady for the next two years and committed nothing in the way of new funding or bond purchases. Stocks immediately dropped, and then zigzagged. But the good news is, that may actually be for the best. Investors have been clamoring for another round of quantitative easing to juice up market confidence. But QE isn't a cure-all for what ails the economy, and here are a few reasons why: The economy is in a different spot now than when the Fed unleashed its last round of QE. Last year the big fear plaguing markets was about deflation. Now the economy is facing other problems. The biggest of those is lackluster growth. Of course, America's debt ceiling debacle and its S&P downgrade added fuel to the fire, but the fear and uncertainty were already there. Growth forecasts for the U.S. have continued to head down, to an annualized rate of 2.3% in the second quarter from an expected 3.1%.

The Fed’s secret QE equivalent -Anyone catch this from the New York Fed on Friday? It’s hugely important:August 15, the New York Fed intends to conduct another series of small-scale reverse repurchase (repo) transactions using all eligible collateral types. The first operation will be conducted using only the expanded reverse repo counterparties announced on July 27, 2011. Subsequent operations in this series will be open to all eligible reverse repo counterparties. Going forward, the Federal Reserve plans to conduct a series of small-scale reverse repurchase transactions about every two months, which will bring the frequency of these operational exercises in line with that of the Term Deposit Facility exercises. Why so important? Well. Weren’t we all conditioned to think that reverse-repo operations were meant to be an exit strategy?  Why on earth would the Fed be choosing to soak up excess reserves at a time when the panic in the markets has reached highs not seen since 2008, and at a time when most of the market is calling for more liquidity and quantitative easing? Well, we would argue it’s because the Fed believs the financial system may have crashed through a critically important juncture. QE is no longer the cure. It has now become a poison.

The Fed Dissenters, Or: Examining Narayana Kocherlakota’s Gut. - The Federal Reserve’s FOMC just released another statement punting on both parts of their dual mandate.  Many, including Ryan Avent here, are disappointed.  I’m surprised that there are three (three!) dissenters. How often has this happened? Richard W. Fisher, Narayana Kocherlakota, and Charles I. Plosser all dissented. ”What’s their motivation? We looked at Richard Fisher before.  In April 2011 his ”gut tells [him] that [QE2] will result in some unpleasant general price inflation” – something that was absolutely wrong.  From that link he was worried, presumably from his gut, about runaway inflation last fall as well as right before Bear Sterns collapsed.  His gut has some major problems.  I’m not a medical doctor but this could be a medical condition: when I put ‘my gut is always wrong’ into Webmd’s symptoms search there are 26 results. But what is going on with Kocherlakota? Why is he dissenting in favor of tightening sooner?  Let’s go to his big discussion paper, Labor Markets and Monetary Policy, recently released through the Federal Reserve Bank of Minneapolis.

Kocherlakota Statement: Why I Dissented

Pain and Prejudice - Krugman - So the claim is that Narayana Kocherlakota, and presumably the other Fed dissenters, are “sticking to economic facts“, basing their opposition to expansionary policies on falling unemployment and rising inflation. But as Mark Thoma rightly says, this is obviously not true. It’s not just that Kocherlakota seems to have been very selective in his choice of starting point: the key point about employment, familiar to anyone who looks at the data, is that any fall in the unemployment rate is basically a statistical artifact, not reflecting actual job gains. The employment-population ratio has gone nowhere: And even on the inflation rate, there is good reason to believe that the modest rise in core inflation was a blip driven by commodity prices, and is already fading out: So this isn’t fact-based policy. The Fed dissenters are obviously looking for excuses to pursue tight policies; they’re looking at the facts only in search of support for their prejudices. As the old line goes, they’re using evidence the way a drunk uses a lamppost: for support, not illumination.

In U.S. Stress Tests, a Tool to Gauge Contagion in Europe - In early 2010, top officials at the Federal Reserve began to wonder: how would United States banks hold up through the European debt crisis? Investors were fleeing Greece and Ireland, and starting to get nervous about Portugal and Spain, spreading contagion. The conclusion from the stress tests that resulted was heartening to supervisors at the regulator, according to a person who was directly involved in the exercise: American banks didn’t have too much exposure to Portugal and Spain, so the contagion would not be a problem. Unless it hit Italy. “At the time, the results made us a bit relieved; our focus was on Ireland and Greece,” said this person, who spoke on the condition of anonymity because the Fed has a policy of not discussing supervisory actions. “But if Italy goes, God help us all.”

FOMC would be strengthened by Clarida and Stein - The Wall Street Journal reported today that, according to “several people familiar with administration deliberations,” the President will nominate Richard Clarida and Jeremy Stein to the Federal Reserve Board.  Congratulations to the nominees and kudos to the President, the team advising him, and the Republicans, to the extent that this is the outcome of a “deal.” If confirmed, Richard Clarida and Jeremy Stein will bring substantial economics and finance expertise, market savvy, and international perspective to the Board.

• Jeremy Stein is a professor of economics at Harvard University. He served earlier in the Obama Administration as a senior advisor to the Treasury Secretary and was on the staff of the National Economic Council. His specialties include finance, monetary policy, risk management, and banking. He brings a set of skills and background that the FOMC has not always, indeed rarely, had.
• Richard Clarida is a professor of economics at the School of International and Public Affairs at Columbia University and, since 2006, an executive vice president at PIMCO. He was the Assistant Treasury Secretary for Economic Policy in the George W. Bush administration. His focus has been on economic policy, the global and U.S. economic outlook, international capital flows, and the maturity structure of U.S. debt. The last would be especially useful at the FOMC today!

Stop Sticking Our Heads in the Sand! A Plan for Action on Jobs - Gagnon:  I propose aggressive actions that can be taken by the Obama Administration and the Federal Reserve without a single vote in Congress. First and foremost, the Federal Reserve should announce an additional $2 trillion of asset purchases, including longer-term Treasury bonds, agency mortgage-backed securities (MBS), and foreign exchange.  The goals are to push down bond yields and mortgage rates, to push down the value of the dollar in terms of foreign currencies, and to boost stock prices. All of these help households deleverage their balance sheets and encourage consumption, investment, and exports... Businesses would need to hire more workers to meet the additional demand.  An additional step the Federal Reserve should take is to stop paying interest on reserves held at the Fed. At a rate of 0.25 percent, these interest payments are a small but unnecessary subsidy to banks and a minor disincentive for bank lending. The Obama Administration can help in two important respects: First, the Administration should use its control of Fannie Mae and Freddie Mac to force them to invite all homeowners whose mortgages are already guaranteed by Fannie and Freddie, and who are not delinquent in their mortgage payments, to refinance their current mortgage balance at the new low rates regardless of loan-to-value ratio.  In addition, a renewed push on mortgage modifications for homeowners behind on their payments could also yield broad benefits to borrowers and lenders alike at little cost to the government. ...

The Fed to the Rescue? - Krugman - Joe Gagnon has a widely-discussed proposal for dramatic Fed action. I’m for it — not because we know it would work, but because it might, and we desperately need to do something. My only quarrel is with Joe’s concession to inflation hawkery, in which he declares that Naysayers will argue that this strategy is a recipe for runaway inflation.  But the Federal Reserve could assuage the fears of the inflation hawks by stating clearly that its policy would be rapidly reversed in the unlikely event that core inflation rises above 3 percent on a sustained basis. Actually, there’s a very good case for allowing inflation to rise above 3 percent, to 4 or even 6 percent, for several years. Don’t take it from me — take it from Greg Mankiw and Ken Rogoff. Indeed, it’s arguable that inflation, both actual and expected, is the main thing the Fed should deliver, if it can. Joe is suggesting the 3 percent cap to appease the inflation hawks. But if you’ve been following this debate at all, you know that they can’t be appeased. Anything short of a return to the gold standard will leave them screaming about hyperinflation just around the corner; no amount of actual evidence will convince them otherwise. So as long as we’re trying to get the Fed to do the right thing, let’s have it do the right thing,

What makes commitment difficult? - Back in the early to mid 2000s, many leading monetary economists proposed policy responses to a liquidity trap, all of which involved commitment of some kind. Lars Svensson argued for the “foolproof way”: a currency devaluation and temporary exchange-rate target, along with a price-level target path. Alan Auerbach and Maurice Obstfeld suggested large, sustained open-market purchases. Clouse et al. offered a massive list of possibilities, including writing options on future interest rates that would pay out if the Fed raised rates beyond a certain level. Gauti Eggertsson modeled “committing to be irresponsible”, suggesting that the government increase its total nominal debt to create inflation incentives. And, of course, Eggertsson and Woodford’s classic 2003 paper argued that the benefits from an optimal interest-rate policy could be approximated through an appropriate price-level target. First, there’s the question of how the Fed can make its promises credible. As I’ve discussed before, effective policy in a liquidity trap involves making expansionary commitments that will be uncomfortable when the time comes to implement them.

Liquidity Traps in the WSJ - Krugman - David Wessel has a pretty good summary. Two things worth noting.

• 1. Some of us did not come into this crisis cold: we’d been worrying about exactly this kind of situation since the 1990s, and it has played out very much the way those 1990s-vintage analyses said it would. That’s one reason it has been so frustrating to watch (a) policy makers totally flubbing it (b) economists who had no room for such a crisis in their philosophy making stuff up to rationalize events that should have made them rethink everything they thought they knew.
• 2. Lars Svensson’s solution for a liquidity trap — which actually involved devaluing first, then raising the inflation target — was clever. But it won’t work when most of the world is in a liquidity trap, because we can’t all devalue against each other.

The Fed’s Stuck - With equity markets melting down at an accelerating pace over the past few weeks, central bankers will be looking to do another round of emergency responses. To that end, all eyes will be on the Federal Reserve.  If the Fed persists with another round of unorthodox medicine, say QE3, it will be perpetuating the same catastrophic stupidity it did last year. That’s because it would be misdiagnosing the problem and thus end up dosing the patient with another dose of what’s in effect, poison.  Equity markets are not selling off because of sovereign debt worries in Italy or the Standard & Poor’s downgrade of U.S. debt, or even of the latest indication that the global economy is slowing. Equity markets were rising through June and July when there were already signs of a global economic relapse. If the S&P downgrade really mattered, why then are Treasury bonds–presumably the asset class most at risk–rocketing? No, the markets are responding to the end of the Fed’s QE2 program at the end of June. Indeed, the S&P 500 is nearly back down to levels of a year ago when Fed chairman Ben Bernanke gave his Jackson Hole speech, paving the way for more quantitative easing.

Why not create new banks from QE3? - Currently banks are sitting on $1.6 trillion in excess reserves. Excess reserves have always been a part of the banking system but not in the amounts seen since 2008 Q4. The sheer size of these reserves has hobbled monetary policy - every dollar sat on by banks in excess reserves is a dollar that has effectively been removed from the economy. Why are the banks sitting on so much money? The answer is that they are suffering from an increasing amount of insolvency. They are Zombie banks, whose net worth is negative but who continue to operate. As Paul Krugman and others have pointed out, monetary policy is only effective in a liquidity crisis, not a solvency crisis. Obviously these banks need to stop sitting on their reserves and begin lending again. If they lent their money out, the fractional system would gear up, increase money velocity and create enough money for the banks to operate their way out of insolvency. Ironically, the banks' response to the crisis is, in effect, perpetuating the crisis. But there is a solution - new banks must be formed.

Is Battling Deflation The New New Thing Again? - The week ahead will surely be a stress test. Friday’s downgrade of the U.S. credit rating, although hardly a surprise, seems to have unleashed a higher round of risk aversion in world markets. Equity prices are tumbling around the globe, and early indicators suggest that no less is in store for stocks in the U.S. today. What's the economic logic behind the selling? The main worry is deflation. Yes, it looked like that problem was solved. Many analysts have continued to scream that inflation was the main challenge ahead. But the one-two punch of deleveraging and slow growth that has plagued the U.S. and mature economies never really went away. These risks were always lurking in the background, waiting to re-emerge, if and when there was a new catalyst.  It’s no accident that the market’s inflation forecast is falling again amid the new turmoil of confidence. As of Friday’s close, the yield spread between the nominal and inflation-indexed 10-year Treasuries is 2.26%. That’s not threatening per se. If it remained in that neighborhood it would be fine. The trouble is the trend, which lately has been down.

Yes Virginia, U.S. Back in Deflation; Inflation Scare Ends; Hyperinflationists Wrong Twice Over - Hyperinflationits have now blown it twice. First, they insisted hyperinflation would happen before deflation. They were wrong. Then, during the QE2 inspired equities and commodities ramp, they said the same thing. They were wrong again.  By any rational measure, and certainly by my definition, the US went into a period of deflation lasting at least a year. Deflation ended in March of 2009.  In the wake of QE II hyperinflationists again started preaching about hyperinflationary crashes. Once again, and with increasing intensity, we heard things like ...

• The US is Zimbabwe
• No food available at any price
• Oil is going to $200, then $400
• Excess reserves will pour into the economy causing massive inflation
• No one will be willing to hold US dollars
• Treasury rates are going to the moon
• The US dollar is going to zero

How's That Commodities-Based Inflation Forecast Looking These Days? -  Commodities prices are down recently--sharply. The cash price of crude oil (West Texas Intermediate) is under $80 a barrel, as I write—off from nearly $115 in late-May. A number of other key commodities have tumbled recently as well. Nothing like a big round of selling to change perceptions. That's the point--commodities prices bounce around a lot, and so we shoud be cautious when it comes to making big decisions based on the price du jour. A few months ago, however, warning about inflation risk based on elevated prices of raw materials was all the rage. Several months later, it's clear that raising interest rates in, say, May would have been exactly the wrong thing to do. The economy is weaker and commodities prices are lower. . Critics still rail against the concept of core inflation, but it's saved us from making rash decisions more than once. In mid-2008, on the eve of the financial crisis and (as it turned out) in the early months of the Great Recession, commodities prices were rising and so headline CPI was too, as the chart below shows (the blue line is headline CPI). But core inflation (red line) remained fairly stable. Core proved to be the more reliable measure of inflation, as indicated by the collapse of headline CPI's annual rate in late-2008 and early 2009.

Dollar Falls on Fed’s Pledge to Maintain Key Interest Rate at a Record Low - "The dollar tumbled the most in at least 40 years against the Swiss franc after the Federal Reserve pledged to keep its key interest rate at a record low at least through mid-2013 to revive the flagging economic recovery. The greenback declined versus the majority of its most- traded peers as the Fed said growth was “considerably slower” than it expected and it’s prepared to use a range of policy tools to boost the economy. The meeting came a day after economic weakening and a Standard & Poor’s U.S. credit-rating cut spurred a global stock rout. Commodity currencies recouped losses sustained just after the meeting. Stocks and gold surged. “With the Fed saying they have tools available that they are willing to use and giving a more definitive time frame, that is overall going to be a dollar negative,” said John Doyle, a strategist in Washington at the currency-trading firm Tempus Consulting Inc. “Swiss franc and gold have absolutely been the beneficiaries of uncertainty.”

Ron Paul: This Is Probably A Bigger Problem Than The World Has EVER Faced Before! (video)

Federal Reserve openly targets dollar demise – The collapse of the global stock markets was something that was supposed to happen if the debt ceiling wasn’t raised.  But here we are, seeing a sudden correction even after the debt ceiling was raised.  The Federal Reserve and U.S. Treasury are actively trying to crush the U.S. dollar so the debts of their banking allies will get cheaper as the years go by and the quality of life for most Americans continues to erode like a tide washing away a sand castle.  Of course it will be expected that at some point some other archaic form of quantitative easing part three will be brought to the table but the Federal Reserve is a faith based system.  Suddenly people are having less and less faith from a central bank that has sat idly by for the working and middle class while allowing the wealthiest in this country to become even wealthier simply by gaming the current financial system.  The markets are not pleased with raising the debt ceiling without actually looking for new revenue streams.  This is like getting a credit card line increase without your income rising.  The Fed is targeting the dollar not because it is good for America, but for the specific reason that it will allow banking allies to hide the ill bets of the 2000s.

A New Strategy for Economic Growth - As the economy continues to struggle, we are reminded of a course offered at Yale University titled "Grand Strategy." Drawing on a weighty curriculum of history and philosophy, the course seeks to train future policy makers to tackle the complex challenges of statecraft in a comprehensive, systematic way. Clearly, U.S. economic policy is sorely lacking an effective grand strategy, and we are likely to endure high unemployment, weak economic performance and trying financial markets until such a strategy is articulated and pursued. Policy makers should cease the barrage of ad hoc, short-term policy initiatives. Is increased federal spending across government agencies a grand strategy? How about checks in the mail to spur spending? Cash for clunkers to move auto inventories? Fast trains and faster Internet? Mortgage modification programs and fleeting tax credits to re-stoke home ownership?  Hundreds of billions in "stimulus" spending has stimulated little but more debt. Forty-eight months have passed since the onset of the financial crisis, 26 months since the recession technically ended. Yet job creation remains remarkably weak, and markets deeply uneasy.

Who will save the global economy this time? - In 2008, as Lehman Brothers collapsed, stocks melted down, Wall Street buckled and finance and trade froze from Tokyo to Chicago, governments and central banks across the world stepped in to save the day. Yes, the Great Recession was terrible, the worst economic downturn since the 1930s, but it could have been much worse without such massive and concerted intervention by the world's policymakers. Here we are, three years later, and facing a new period of financial turmoil. After another sickening day on Wall Street, stocks tumbled in Asia again, though they rebounded from a very dire opening. Tokyo closed down 1.7% and Hong Kong 5.7%. Seoul ended 3.6% lower, though it clawed back from an early 9.9% plunge. Fears are mounting that once again the U.S. could slip into recession, maybe taking the world with it. And in Europe, the debt crisis rages on. But this time around, who can step in and stem the damage?Not governments. In 2011, governments are the problem. Policymakers simply do not have the capability – financial or political – to act as the white knights, the cavalry racing to the rescue just in the nick of time, as they did in 2008. That has huge implications for what will happen to the world economy in coming months.

Central Bankers Race to Protect Growth - Central bankers are racing to shield their economies from fiscal tightening and lopsided currency swings that threaten a new global recession. In the 72 hours after a Group of Seven conference call on Aug. 7, the Federal Reserve pledged to keep interest rates near zero through at least mid-2013, the European Central Bank intervened in bond markets and the Bank of England indicated it’s ready to add more stimulus if needed. Japan signaled renewed concern about the yen and Switzerland yesterday stepped up its fight to curb an “overvalued” franc. “Central bankers have so far been the tower of strength,” . “Lawmakers have done everything to destroy belief in their ability to solve the problems they’re facing.” Today, the Bank of Korea kept interest rates unchanged for a second month and government officials planned a 2 p.m. local time media briefing in Seoul on the stock market rout.

The bullets yet to be fired to stop the crisis - Rogoff - Four years into the financial crisis, it is becoming increasingly clear that the biggest deficit is not in credit, but credibility. Markets can adjust to a downgrade of global growth, but they cannot cope with a spiralling loss of confidence in leadership and a growing sense that policymakers are disconnected from reality. What needs to be done to move away from the precipice? At the root of today’s credibility deficit is a failure to come to grips with the long, slow growth period that is typical of post-financial crisis recovery. Too many decisions, for example the recent withdrawal of monetary stimulus by the European Central Bank and the US Federal Reserve have been predicated on overly rosy growth projections. Time and again, policymakers counted on rapid post-crisis recovery to help them avoid painful decisions on how to deal with badly overstretched private and public balance sheets, whether household debts in the US or sovereign debts in the periphery of Europe. Time and again, rapid growth did not materialise or – if there was a burst – did not last. Every effort to delay a critical decision has ended unsatisfactorily. One is reminded of the Peanuts cartoon character Charlie Brown, who never seemed to figure out that his place holder Lucy would always pull the ball away at the last minute so as to enjoy watching him lose his balance. So the downturn has treated US and eurozone leaders, with each successive stumble further undermining their credibility.

Recession Warning, and the Proper Policy Response  - Last week, I reviewed the rapidly deteriorating condition of our Recession Warning Composite. While year-over-year GDP growth has dropped to just 1.6% — a rate that has been followed by a new recession in 10 of the 12 times it has occurred since 1950 — I preferred evidence from a wider set of market and economic measures. I noted “we would require only modest deterioration in stock prices and the ISM index to produce serious recession concerns.” With the pixels barely dry on that weekly comment, the ISM reported Monday that its Purchasing Managers Index dropped unexpectedly to 50.9, the slowest pace in two years. That report, coupled with an early slide in the S&P 500, completed the remaining holdouts (conditions 2 and 3) of the Composite. Coupled with the slowdown in year-over-year GDP growth, the composite of economic and financial evidence we presently observe has always and only been associated with ongoing or immediately impending recessions. This is not an opinion or a viewpoint, but a fact of the data. “Always and only” is the Bayesian equivalent of “certainty.”

Financial Turmoil Evokes Comparison to 2008 Crisis - Many Americans are wondering whether they are in for a repeat of the financial crisis of 2008.  The answer is a matter of fierce debate among economists and market experts. Many say the risks are lower today — at least in terms of an immediate crisis — because the financial system over all is healthier and there are fewer hidden problems. But the experts add that there are reasons to worry, and they do not rule out a quick downward spiral if politicians in the United States and in Europe cannot calm investors by addressing fundamental financial threats. The core problem, as it was three years ago, is too much debt that borrowers are having a hard time repaying — but this time it is government debt rather than consumer debt.

Irony Alert: If This is 72 Hours of Central Bankers Trying to Save the World, What Would Abject Capitulation Look Like? (Updated) - Yves Smith - Reader Valissa pointed to an article at Bloomberg which looks like an effort at hagiography gone flat. Titled “Central Bankers Worldwide Race to Save Growth in 72 Hours of Policymaking,” it tries to perpetuate the myth of the overlords of the money system as all powerful, concerned with the public good, and competent. But as we know, they are increasingly politicized, hostage to ideology, unduly concerned with the pet wishes of banks, and tend to deny the existence of problems until they are acute. Look at this impressive list of actions: In the 72 hours after a Group of Seven conference call on Aug. 7, the Federal Reserve pledged to keep interest rates near zero through at least mid-2013, the European Central Bank intervened in bond markets and the Bank of England indicated it’s ready to add more stimulus if needed. Japan signaled renewed concern about the yen and Switzerland yesterday stepped up its fight to curb an “overvalued” franc. Lets see….the FOMC had a regularly scheduled meeting and issued a statement that had three dissenters who wanted zero interest rate language that was open ended, meaning they though conditions were so lousy that they thought it was better not to commit to a time frame.  The ECB did step into the markets to buy Italian and Spanish government debt, but as far as we can tell, the intervention on Monday was it. Their hand was forced by the widening of Italian and Spanish bond spreads the week prior, when the EBC had indicated it was not going to buy that debt. The problem is that we have the same central bankers who steered their monetary systems into the iceberg in the financial crisis still in charge.

We Speak to BNN About Europe, Economic Outlook - Yves Smith - Wow, am I sour faced in this one! I had gotten to the studio ahead of time (standard protocol) and was miked up earlier than usual. So I listed to probably 12 minutes of unbelievable cheerleading, which is not the sort of thing I expected on BNN, which usually does not sell the CNBC Kool-Aid. I think I was braced for a fight which never came.  You can view the segment here.

Second Recession in U.S. Could Be Worse Than First - If the economy falls back into recession, as many economists are now warning, the bloodletting could be a lot more painful than the last time around. Given the tumult of the Great Recession, this may be hard to believe. But the economy is much weaker than it was at the outset of the last recession in December 2007, with most major measures of economic health — including jobs, incomes, output and industrial production — worse today than they were back then. And growth has been so weak that almost no ground has been recouped, even though a recovery technically started in June 2009.  “It would be disastrous if we entered into a recession at this stage, given that we haven’t yet made up for the last recession,” said Conrad DeQuadros, senior economist at RDQ Economics.  When the last downturn hit, the credit bubble left Americans with lots of fat to cut, but a new one would force families to cut from the bone. Making things worse, policy makers used most of the economic tools at their disposal to combat the last recession, and have few options available.

Stagnant and Paralyzed - Economic growth rates in the United States and Europe are low – and well below even recent expectations. Slow growth has hit equity valuations hard, and both economies are at risk of a major downturn. A slowdown in one is bound to produce a slowdown in the other – and in the major emerging economies, which, until now, could sustain high growth in the face of sluggish performance in the advanced economies. Emerging countries’ resilience will not extend to double-dip recessions in America and Europe: they cannot offset sharp falls in advanced-country demand by themselves, notwithstanding their healthy public-sector balance sheets. America’s domestic-demand shortfall reflects rising savings, balance-sheet damage in the household sector, unemployment, and fiscal distress. As a result, the large non-tradable sector and the domestic-demand portion of the tradable sector cannot serve as engines of growth and employment. What the world is witnessing is a correlated growth slowdown across the advanced countries (with a few exceptions), and across all of the systemically important parts of the global economy, possibly including the emerging economies. And equity values’ decline toward a more realistic reflection of economic fundamentals will further weaken aggregate demand and growth. Hence the rising risk of a major downturn – and additional fiscal distress

Pictures Are Worth a Trillion Words - I could almost throw these at you without any explanation, but I will give the context, source, and some data details. (Please click on each image for a larger version.)  Inebriated consumers stopped partying and began some sober saving when the boom-town lights went out in 2008, according to this graph from the St. Louis Fed:  (Unfortunately, it looks like this process of deleveraging has hit a ceiling of some sort--not surprising, given that the economy has stagnated and people are struggling.)  Now for the banking sector. What about bank assets versus their liabilities? Rather than resolving and reducing troubled assets, banks still have an increasing assets portfolio that continues to outpace their liabilities (graph from the Federal Reserve):  What about the banks' investments? Here is a graph from the St. Louis Fed showing total commercial bank investments:  Of this total, much of the increase is in government securities (purportedly safe, but currently financing problematic US debt) (source):

Economists, Market Watchers Increasingly Concerned About Recession, Shrug Off Downgrade - Economists and market participants at an annual retreat were increasingly worried about another recession, though they mostly shrugged off the downgrade of U.S. debt by Standard & Poor’s. David Kotok, chairman of money-management firm Cumberland Advisors, organizes an annual fishing trip in Maine that brings together a group of economists and market seers. This year, it looks like it might be the U.S. economy that gets skunked. In response to an informal Dow Jones survey of 45 economists, portfolio managers and financial consultants in attendance, two thirds gave a better than 50% chance of recession in the next year. About 25% put the odds of recession at better than 75%. The reaction to Standard & Poor’s U.S. debt downgrade? Pretty muted since it has been hinted at for some time. And some remarked on the irony of the downgrade, since S&P gave high ratings to the mortgage derivatives that helped precipitate the recession, and is now punishing the U.S. because of the deficit problems the recession triggered.

It’s the Economy not the S&P Downgrade - Treasury prices are rising across the board (except for maturities six months or less) suggesting that the S&P downgrade is having little or no effect on the markets.  What is affecting the markets is the overall economic outlook which is bad and getting worse.  Now it may be that the sense that economic policy in the US is out of control, which, at least in part, was the basis for the downgrade, is affecting contributing to pessimism about the future, but in that case the downgrade is merely reflecting what the market already was sensing.  But it is not quality of US Treasuries that is the issue.From today’s New York Times story:“We can see that this may force the U.S. to move more aggressively to cut spending,” he said, something that could drive the already weak economy into recession and weigh on the economies of all of its trading partners. “That’s the main driver” of the stock market declines, he said.So the markets are taking fright because they are expecting more draconian cuts in government spending and perhaps increased taxes as part of an upcoming budget deal. 

Corporate Executives Grow More Pessimistic - Corporate executives across the U.S. and Europe grew increasingly pessimistic in the third quarter, predicting slower economic growth and meager hiring.  The economic slowdown appears to be dragging down business sentiment, according to the Corporate Executive Board’s July survey. A measure of overall confidence declined to 46.9 in the third quarter from 48.5 in the prior quarter, as executives’ growth outlook soured. Levels above 50 indicate a positive outlook. Just 27% of executives in the U.S. and Europe forecast faster growth in industrialized economies over the next 12 months, down from 45% who said the same in the second quarter. Executives were more bullish about emerging markets, where 60% predicted higher growth. Lackluster economic growth dampened executives’ company outlooks as well. Some 69% said they expected revenues to increase in the next year, down from 75% who said the same in the second quarter.

Frozen by Uncertainty, Economic Action Stalls - Employers delaying or suspending hiring. Home buyers getting cold feet. Shoppers pulling back on spending.  Hesitation is weakening the American economy, as Monday’s disastrous day on Wall Street reaffirmed what many companies and ordinary Americans have been fearing for weeks: this is too tumultuous a time for businesses or households to be contemplating expansion.  Just a few months ago, analysts were predicting that the economy would grow about 4 percent this year. The forecast is now closer to half that number as a wave of pessimism sweeps the country.  “Everybody gets into this hangdog demeanor with respect to economic expectations,”. “People sit on their wallets because they feel like everything is going to get worse, and things get worse because people are sitting on their wallets.”  There are some signs of encouragement, including retail buoyancy at high-end department stores, improved car sales and even mild construction growth. But the nerve-racking situation that has put pessimists in ascendance got its statistical impetus late last month, when the government reported that the economy had grown much more slowly than originally thought during the first half of the year.

Fearing fear itself - A PIECE in the New York Times this morning reads: Hesitation is weakening the American economy, as Monday’s disastrous day on Wall Street reaffirmed what many companies and ordinary Americans have been fearing for weeks: this is too tumultuous a time for businesses or households to be contemplating expansion. Just a few months ago, analysts were predicting that the economy would grow about 4 percent this year. The forecast is now closer to half that number as a wave of pessimism sweeps the country. And at Vox, Nicholas Bloom says:I have studied 16 previous uncertainty shocks – events like 9/11, the Cuban Missile Crisis, the assassination of JFK – and the only certain thing about these is they lead to large short-run recessions (Bloom 2009). When people are uncertain about the future, they wait and do nothing.

• Firms do not to hire new employees, or invest in new equipment if they are uncertain about future demand.
• Consumers do not buy a new car, a new TV, or refurnish their house if they are uncertain about their next paycheck.

Why This Crisis Differs From the 2008 Version -  There are three fundamental differences between the financial crisis of three years ago and today's events. Starting from the most obvious: The two crises had completely different origins. The older one spread from the bottom up. It began among over-optimistic home buyers, rose through the Wall Street securitization machine, with more than a little help from credit-rating firms, and ended up infecting the global economy. It was the financial sector's breakdown that caused the recession. The current predicament, by contrast, is a top-down affair. Governments around the world, unable to stimulate their economies and get their houses in order, have gradually lost the trust of the business and financial communities.

Five False Premises about Economic Recovery - For a year or so following the financial crisis, the recovery strategy in most countries was based on a renewed belief in activist government—stimulus packages, bailout of key industrial and financial firms and even talk of (and some action on) industrial policy, notably related to “green growth”. Since then, however, a different kind of recovery strategy has been on the ascendancy. This strategy believes that recovery requires a dramatic cut in government spending, minimal tax increases (ideally tax cuts for the rich) and deregulation. Unfortunately, this strategy is not going to lead to a sustainable recovery. Why? Because it is based on false premises. Here are five of them.

• 1. Reduction in government deficits is the prerequisite for recovery.
• 2. Deficits should mainly be reduced by cutting welfare spending. The current strategy recommends deficit cuts to be achieved mainly by cutting expenditure,
• 3. Cutting welfare spending is good for growth in the long run.
• 4. Taxes for the rich should not be raised, if we are to promote growth.
• 5. Further deregulation is necessary for economic growth.

Slouching Toward a Double Dip, For No Good Reason, by Robert Reich: Imagine your house is burning. You call the fire department but your call isn’t answered because every fire fighter in town is debating whether there will be enough water to fight fires over the next ten years, even though water is plentiful right now. (Yes, there’s a long-term problem.) One faction won’t even allow the fire trucks out of the garage unless everyone agrees to cut water use. An agency that rates fire departments has just issued a downgrade, causing everyone to hoard water. While all this squabbling continues, your house burns to the ground and the fire has now spread to your neighbors’ homes. But because everyone is preoccupied with the wrong question (the long-term water supply) and the wrong solution (saving water now), there’s no response. In the end, the town comes up with a plan for the water supply over the next decade, but it’s irrelevant because the whole town has been turned to ashes. Okay, I exaggerate a bit, but you get the point.  The American economy is on the verge of another recession. Most Americans haven’t even emerged from the last one.

Odds of a Double Dip: A Sampling of Opinions. - Our resident macro economic guru Justin Wolfers has come up for air from his Twitter experiment and sent over this interesting sample of recent opinions from a handful of economically savvy folks, all giving their odds of the economy entering another recession:

Larry Summers: “at least a 1-in-3 chance.”
Marty Feldstein: “now a 50 percent chance.”
Ryan Avent: “more likely than not.”
Justin Wolfers: “40% chance and peak was 4 months ago” and “The guacamole has spoken.”
Don Kohn, Vincent Reinhart, Brian Madigan: “between 20% and 40%.”
Matt Yglesias: “precisely 31.22%.”
Brad DeLong: “the odds now are 50-50.”
Christy Romer: “The risks have gone up…compared to where we were six months ago.”
Bob Hall: “We certainly are in a more vulnerable situation now.”
Jeff Frankel: “not necessarily enough to push the probability over one half.”
Jay Carney: “we do not believe that there is a threat there of a double-dip recession.”

Bleak Prospects - Krugman - While we obsess over downgrades by people who should have no standing, the economic outlook deteriorates. The economics team at Goldman Sachs, whom I’ve always found very good, now say (no link): We have lowered our growth forecast further and now expect real GDP to increase just 2%-2½% (annualized) through the end of 2012. Since this pace is slightly below the US economy’s potential, we now expect the unemployment rate to be at 9¼% by the end of 2012, slightly above the current level. We now see a one-in-three risk of renewed recession, for three main reasons. First, a worsening of the European financial crisis would hurt the economic outlook globally. Second, our forecast assumes that the payroll tax cut is extended for another year; if that failed to happen the fiscal drag in early 2012 would rise significantly. Third, the unemployment rate has increased in recent months, and such increases have historically had a tendency to feed on themselves. Our inflation forecasts have not changed much, but our conviction has increased that the large—and now growing—output gap will result in significant renewed disinflation.

The worse the economy, the less likely that Congress will do anything about it - The worse the economic outlook gets, the harder it may be for Congress to do anything about it. Thought the prospect of a second recession and another global economic collapse would finally compel legislators on Capitol Hill to act, easing some of the partisan polarization that has tied their hands? Think again. More bad news is instead likely to create more political hurdles for a Democratic administration and a split Congress to pass even modest legislation to aid employment and the economy. After S&P announced Friday that it was downgrading the United States, citing the country’s political dysfunction as a primary reason, lawmakers immediately launched into a new round of partisan attacks. “The Democrats who run Washington remain unwilling to make the tough choices required to put America on solid ground,” House Speaker John Boehner (R-Ohio) declared. Democrats fired back just as forcefully. “By refusing to negotiate in good faith, Republicans turned the debt-ceiling debate into a hostage crisis, and last night we saw its first casualty,” Sen. Chris Coons (D-Del.) told The Post.

Who Trusts Governments? - If there were any reason to believe there will be “close cooperation” within the American government, this might be a better day. The Sunday talk shows provided an opportunity to send that signal, one that was not taken. As it is, there is no sign that Republicans are willing to cooperate with Democrats on anything. President Obama’s willingness to give in has made him appear weak and encouraged those who would slash government whatever the economic impact. And it has moved the government in a direction — of cutting the fire hoses while the economy burns — that is risky, to say the least. Nouriel Roubini, an economist who gained fame for warning of the financial collapse, wrote in The Financial Times today: So can we avoid another severe recession? It might simply be mission impossible. The best bet is for those countries that have not lost market access – the U.S., U.K., Japan, and Germany – to introduce new short-term fiscal stimulus while committing to medium-term fiscal austerity. The U.S. downgrade will hasten demands for fiscal reduction, but America in particular should commit to look for significant cuts in the medium term, not an immediate fiscal drag that will worsen growth and deficits. As the American stock market prepares to open, S.&P. futures are down about 30 points, and Dow futures are off about 250 points.

Down, but not out - ECONOMIC despair has taken hold in America. I can’t think of another time when both the short and long-term economic situation looked so bleak. But while the current situation is pretty bad—a plunging, volatile stock market; persistent, high unemployment; the down-grade of US Treasuries—real indicators suggest that a double-dip recession is avoidable. As my colleague points out, the downgrade isn't surprising or particularly meaningful. Expectations are important, however. If Americans convince themselves another recession is coming, that can become a self-fulfilling prophesy as consumers cut back on spending and businesses become reluctant to hire and expand. What’s more worrying is the long-term picture. America faces some major structural challenges: lousy education for many, crumbling infrastructure, and crippling entitlement burdens. All of these problems have solutions, but it will take foresight and leadership from politicians to solve them—qualities each level of government seems to lack. John Harwood lets politicians off the hook by claiming that the American economy has run out of steam and there’s not much that leaders can do to change that..

Second-quarter GDP view cut after trade data - Several economists have cut their second-quarter GDP view after the release of the June trade deficit data showing an unexpected widening of the gap. Government statisticians routinely estimate the final month's trade balance in their initial estimate of quarterly GDP growth. Last month, they had assumed about a $1 billion narrowing in the June trade gap in their estimate that the economy grew at a 1.3% rate in the second quarter. However, the June trade deficit widened by $2.3 billion. Troy David, economist at Barclays Capital, said the firm has lowered its second quarter GDP estimate to 0.6%. "It certainly appears the U.S. economy was close to stalling in the second quarter," added Jay Bryson, global economist at Wells Fargo Securities. Ian Shepherdson, chief U.S. economist at High Frequency Economics, was not as pessimistic. He said the trade numbers imply a 0.4% downward revision to GDP but didn't anticipate any change when all other components are factored in. The government will release revised second quarter data on Aug. 26.

Anti-stimulus - The Government Component of the  National Income and Product Accounts for the past 6 quarters (QI 2010 through Q2 2011):  Anyone see a problem here? It's not like we have seen a rip-roaring "crowding-in" of the private sector. For those who think we should cut government spending, well, we are, and more is to come thanks to the debt-ceiling deal. I hope I am wrong about this, but it is hard to see how this leads to a recovery in jobs any time soon.

Too few American officials recognise the need to boost demand - THE financial crisis is what went wrong with the American economy. As Richard Koo would say—as he has said over and over and over again—the US economy looks as one would expect an economy to look in the aftermath of a financial crisis. Households think—correctly—that they have too much risky debt and that they are too poor for the sum of household spending and business investment to add up to enough demand to attain full employment. Open-market operations don't help: they have no effect on household or business assets because they are simply swapping one zero-yield government asset for another. The risky debt that companies could issue does not sell in terms that make companies happy to expand investment—how can it when households already feel overextended and will only buy risky assets at an attractive price? The economy will recover only as rapidly as households rebuild their balance sheets and so become confident, spending more on the one hand and financing risky business investment on the other—and that can take a long time.

Is 2011 Another 2008? Or Another 1931? - Dan Drezner, a well-regarded expert on international political economy, believes those worrying that we’re seeing the global meltdown of 2008 repeat itself are kidding themselves. This all sounds very 2008, except that it’s actually worse for several reasons. First, the governments that bailed out the financial sector are now themselves the object of financial panic and political resentment. Second, the tools used to try and rescue the global economy in 2008 are partially to blame for what’s happening right now. Despite all the gnashing of teeth about the Fed twiddling its thumbs, it’s far from clear that a QE3 would actually stimulate anything besides a rise in commodity prices. With both Europe and the United States unable to stimulate their economies, and China seemingly paralyzed into indecision, it’s worth asking if we are about to experience a Creditanstalt moment. The start of the Great Depression is commonly assumed to be the October 1929 stock market crash in the United States. It didn’t really become the Great Depression, however, unti 1931, when Austria’s Creditanstalt bank desperately needed injections of capital.

Can China Help Prevent a U.S. Tailspin? - With the country's anemic growth prospects back in the spotlight after a jolting credit downgrade, the biggest concern now is that neither Washington nor the Federal Reserve has the ammunition to reverse what feels like a bottomless downward spiral. So where will the misery end? Even if the bickering in Washington continues and the maxed-out Fed lays low, some welcome relief -- albeit in small doses -- could come from a friendlier China. China's economy, after all, is still growing fast, albeit with rising inflation. Its trade surplus made its biggest jump in more than two years in July due to a surprising surge in exports, which rose 20.4% in July from a year ago. That's a welcome sign that the global economy may have more steam than nervous investors have feared. Of course, the stock market sell-offs over the past few weeks aren't counted in those numbers, and China's exports could slow in the next month or two. But its economy still grew at a 9.5% clip in the second quarter, beating expectations and raising some hope for stable growth to finish out the year. Even analysts who've predicted a sharp China slowdown, like Nouriel Roubini, assume the country will grow at robust speed for the next several years. 

Mission impossible: stop another recession - Nouriel Roubini - The first half of 2011 showed a slowdown of growth – if not outright contraction – in most advanced economies. Optimists said this was a temporary soft patch. This delusion has been dashed. Even before last week’s panic, the US and other advanced economies were odds-on for a second severe recession. America’s recent data have been lousy: there has been little job creation, weak growth and flat consumption and manufacturing production. Housing remains depressed. Consumer, business and investor confidence has been falling, and will now fall further.  Across the Atlantic the eurozone periphery is now contracting, or barely growing at best. The risk that Italy or Spain – and perhaps both – will lose access to debt markets is now very high. Unlike Greece, Portugal and Ireland these two countries are too big to be bailed out. Meanwhile, the UK has seen flat growth as austerity bites, and structurally stagnating Japan will recover for a few quarters – after double-dipping after the earthquake – only to stagnate again as the stimulus fizzles out. Even worse, leading indicators of global manufacturing are slowing sharply – both in the emerging economies like China, India and Brazil, and export-oriented or resource-rich countries such as Germany and Australia.  Until last year policymakers could always produce a new rabbit from their hat to trigger asset reflation and economic recovery. Zero policy rates, QE1, QE2, credit easing, fiscal stimulus, ring-fencing, liquidity provision to the tune of trillions of dollars and bailing out banks and financial institutions – all have been tried. But now we have run out of rabbits to reveal.

The uncertainty shock will cause a recession: Evidence from 16 previous episodes - The US and European debt crisis of the last week have generated massive economic uncertainty. One measure of the economic uncertainty – the VIX index of stock-market volatility – has jumped to levels not seen since the crash of 2008. The potentially explosive combination of Eurozone debt contagion, vulnerable banking systems, and European and American political paralysis has pushed stock-market volatility to levels nearly as bad as the days following the 11 September 2001 terrorist attacks. Nobody knows what happens next. This column reviews research on 16 previous shocks and concludes that today’s uncertainty shock will create a short, sharp contraction in late 2011 of about 1% with a rebound coming in spring 2012.

Growth Forecasts for U.S. Reduced Through 2013 on Limited Employment Gains - Global financial strains, government fiscal austerity and a lack of jobs will hurt U.S. growth over the next couple of years, according to economists surveyed this month by Bloomberg News.  The world’s largest economy will expand at an average 2.3 percent annual rate in the second half of the year, about a percentage point less than projected last month, according to the median forecast of 53 economists polled from Aug. 2 to Aug. 10. Gross domestic product will grow 2.4 percent next year and 2.8 percent in 2013, also less than previously estimated.  Companies like General Motors Co. (GM) are concerned consumers will limit spending as economists foresee the jobless rate averaging at least 8 percent through 2013. Mounting pessimism is one reason Federal Reserve policy makers said this week they are prepared to take additional action to spur the economy.  “We’re on a path that looks like persistent growth, but growth that is inadequate to solving our short-run problems,”

If this was a recovery… How far did the recovery from the Great Recession get before the big relapse of stock-market volatility? A new Levy Institute one-pager features some graphs that reveal a very weak recovery indeed, or even the start of a prolonged slump in economic growth and job creation, despite the fact that the recession ended in June 2009 by semi-official reckoning. Figure 3 in the new publication illustrates the country’s lack of progress in reversing recession-driven declines in the ratio of employment to the total civilian working-age population. Indeed, the figure shows that, according to the broadest figures available, the current employment problem is unprecedented in a period spanning back 40 years in terms of its overall size at the national level. As the new one-pager states, Figure 3 shows separate lines for the past six US recessions. Each line traces the path of the employment-to-population ratio relative to its level in the first month of each recession. The pink line corresponds to the most recent recession; it shows that, as of July, the ratio stood at 58.1 percent—4.6 percent less than at the recession’s start, 43 months earlier.

Three Cheers for Decline - As the U.S. bond rating falls and the stock market plunges, the American Century looks to be well and truly over. While this has provoked no small amount of hand-wringing, Americans may soon come to enjoy no longer bearing the responsibility for running the world's indispensable nation.  The signs of decline are everywhere. Illegal immigrants are heading back home¹ in search of a better life. China already leads the world² in green technology and is about to become³ the world's biggest economy in terms of purchasing power. Two U.S.-led wars are dragging toward an end charitably described as: mission not completely failed. The United States was able to avoid default only by stopping pretty much all other government business for several weeks. Of course, the United States still possesses greater military strength than any other country in the world. But what good has being the world's policeman done for Americans?

Pimco’s Gross Proves Summers Wrong as Selloff Shows ‘New Normal’ Is Real - Bill Gross was right after all, though that hasn’t helped his investors this year.  Former White House economic adviser Lawrence Summers and Christina Romer, the former chairman of the U.S. Council of Economic Advisers, were among critics who challenged a view promoted by Gross’s Pacific Investment Management Co. that the U.S. economy may be headed for a long period of below-average growth and high unemployment, a scenario known as “new normal.” Money manager Kenneth Fisher called the concept “idiotic.”  Now Gross and co-chief investment officer Mohamed El-Erian, who coined the term more than two years ago, have been vindicated by the U.S. Federal Reserve, which said yesterday that the economic recovery is “considerably slower” than anticipated, following the biggest stock market loss since December 2008. Being right on the big call hasn’t prevented Gross from making a tactical miscalculation when he stayed out of Treasuries just as concern about the economic slowdown fueled a rally in U.S. debt.  “A lot of the new normal characteristics have played out,”

This Time, Maybe the U.S. Is Japan - Since Standard & Poor's stripped the U.S. of its triple-A credit rating on Aug. 5 and the Federal Reserve followed on Tuesday with a statement that interest rates will be at near-zero until at least mid-2013, bond traders have been recasting their models. Many have been using the experience of Japan, which was first downgraded from triple-A in 1998 and has had near-zero rates for the better part of a decade. As an economist at the New York Federal Reserve, Kenneth Kuttner wrote a paper explaining why, in the aftermath of the dot-com bust, the U.S. was decidedly not like Japan. The stock market decline paled in comparison to the bursting of Japan's real estate bubble, the financial system was strong and the U.S. government had the fiscal leeway to boost spending if the economy weakened. "It was very easy to be smug at that point," says Mr. Kuttner, now a professor at Williams College. "Now, I'm running out of reasons to say the U.S. is all that different."

Video: Roubini Says Recession Risk Greater Than 50% - Economist Nouriel Roubini says the risk of a global recession is greater than 50 percent, and the next two to three months will reveal the economy’s direction. In an interview with WSJ’s Simon Constable, Roubini also says he’s putting his money in cash. “This is not the time to be in risky assets,” he says.

Are We Already in Recession?  - Bloomberg reported today that “Consumer Sentiment Plunged to Three-Decade Low.”  That sent me scurrying to find some charts, and I ended up liking the two from UBS strategist Andy Lees, at bottom.  The first one is an overlay the University of Michigan consumer confidence index vs the Conference Board’s data. The second chart shows the long term history of the Conference Board data. At an implied level of 43.37 we would be in recession now; not only that but a deep recession.  As the charts show, the ABC index has diverged from the Conference Board data for some time now.  The correlation between consumer confidence and recession might not hold this time — although that would be the first split for 40 plus years.  There is also an implication from this data series that we are already in recession. Given yesterday’s data showing both imports and exports falling, we may have an implied Q2 GDP revised lower by 0.8% to 0.5% annualized growth — putting Q2 into the negative category.

U.S. Is 'Right Now in a Recession': Dohmen Capital Research - The U.S. is "right now in a recession , if you deduct the true rate of inflation," Bert Dohmen, president and founder of Dohmen Capital Research Institute, told CNBC Tuesday. "Using actual inflation numbers in the economy — as it was calculated 30 years ago before they had all these gimmicks to so-called adjust inflation — then we are right now in a very important contraction already in the economy," Dohmen said.He explained that one identifier of a bear market is the 200-day moving average on a major index. "Now we have all the major indices below the 200-day" moving average," he said. Dohmen went on to say investors need to look at the charts of important indices many people don't look at, giving as an example the Dow Jones Transportation Index. "This is very important because transportation is necessary to move goods," he said.

Rutgers expert: Credit downgrade will make economy even uglier - John Longo, professor of finance at Rutgers University, said Standard & Poor’s (S&P) first-ever downgrade of U.S. credit from the highest AAA to the next-highest AA+, which caused the Dow Jones to tumble and sent Wall Street into a tizzy, will likely exacerbate an already fragile U.S. economy. Without getting too complicated, here’s why: America sells its debt to investors in the form of Treasury securities. Investors like Treasury securities because for the longest time — at least since the United States first earned its AAA rating in 1917 — they were seen as the most safest, most secure investment there is. By downgrading U.S. credit, S&P shook that belief to its very core. “Everything else looks riskier now,” said Longo. “Every investable asset becomes riskier.” As a result of the additional uncertainty the downgrade has injected into an already uncertain market — whether the uncertainty is real or perceived — Longo said businesses may be less likely to invest in their workforces, causing the unemployment rate to persist at a high level or making it climb even further. If S&P downgrades other U.S.-backed debt, which it’s likely to do, mortgage rates may also go up and pensions and 401Ks may shrink, according to Longo.

The truths behind S&P’s ratings downgrade - The long-term impact of the downgrade is not yet clear. Yesterday’s market reaction suggested that interest rates could be unaffected as investors shrug off the S&P warning. But over time rates for everything from muncipal bonds to mortgages could be at risk — especially if Congress fails to take more decisive action on the debt. In a few months, the “super-committee” created under the debt ceiling agreement will be tasked with finding another $1.5 trillion to cut from the budget. Failure is not an acceptable outcome, but even success in this short-term goal will not be adequate. More cuts — S&P puts the total savings figure at $4 trillion — must be found, lest the country risk a further downgrade. Adjustments to entitlement programs, including Medicare and Social Security, must be a part of the equation, even in the face of Democratic opposition. New revenue — yes, taxes — must be considered despite Republican vows to resist. The political and market turmoil of the past few weeks will be worth it only if the country’s leaders meet the challenge of coming up with full-fledged solutions.

The Consequences of the S&P Downgrade - The biggest concern is that the downgrade might increase the risk premiums attached to interest rates paid on Treasury securities.  If so, that would raise the cost of funds to banks and other financial institutions, forcing financial institutions to increase the interest rates they charge customers  generally. This, in turn would be bad for business investment since borrowing costs would be higher, and it would put a damper on consumer purchases of durables such as cars and refrigerators, and it would further reduce the demand for housing.A second potential effect of the downgrade comes from its impact on business and consumer confidence. Consumers and businesses could become more pessimistic about the future as a result of the downgrade and, in response, cut back on consumption and investment.  A third potential consequence of the downgrade has to do with the ability of state and local governments to finance infrastructure projects. With the federal debt downgraded, it’s hard to imagine that state and local bonds won’t be far behind. If state and local bond issues are downgraded, it could increase interest rates that state and local governments must pay to finance construction projects, and that would reduce infrastructure spending. A fourth potential effect is an increase in insurance costs. Insurance companies hold considerable quantities of Treasury securities in their portfolios. If state regulators increase capital requirements to compensate for the increased riskiness of the government bonds held as backup against unexpected payouts, insurance costs generally would rise.

U.S. Credit Rating Downgrade Prompts Warning From China - The United States has lost its top AAA credit rating for the first time, in a move that could severely undermine the recovery of the world's largest economy and prompt further calamitous falls on world stock markets next week. Ratings agency Standard & Poor's decision to cut the debt rating after another dire day on the world stock markets on Friday could increase the cost of borrowing for the US and set off more panic selling when stock markets reopen on Monday. The downgrade is an embarrassment for the Obama administration, coming less than a week after protracted wrangling among Republicans, Democrats and the White House took the US to the brink of default. China, the world's largest holder of US debt, condemned the "short-sighted" political wrangling in the US and said the world needed a new and stable global reserve currency.

China Tells U.S. It Must ‘Cure Its Addiction to Debt’ - China¹, the largest foreign holder of United States debt, said Saturday that Washington needed to “cure its addiction to debts” and “live within its means,” just hours after the rating agency Standard & Poor’s downgraded America’s long-term debt. The harshly worded commentary, which was released by China’s official Xinhua news agency, was Beijing’s latest attempt to express its displeasure with Washington.  Though Beijing has few options other than to continue to purchase United States Treasury bonds, Chinese officials are clearly concerned that China’s substantial holdings of American debt, worth at least $1.1 trillion, is being devalued.  “The U.S. government has to come to terms with the painful fact that the good old days when it could just borrow its way out of messes of its own making are finally gone,” read the commentary, which was published in Chinese newspapers.

China Tells U.S. 'Good Old Days' of Borrowing Over - China bluntly criticized the US on Saturday one day after the superpower's credit rating was downgraded, saying the "good old days" of borrowing were over. Standard & Poor's cut the U.S. long-term credit rating from top-tier AAA by a notch to AA-plus on Friday over concerns about the nation's budget deficits and climbing debt burden. China -- the United States' biggest creditor -- said Washington only had itself to blame for its plight and called for a new stable global reserve currency. "The U.S. government has to come to terms with the painful fact that the good old days when it could just borrow its way out of messes of its own making are finally gone," China's official Xinhua news agency said in a commentary. After a week which saw $2.5 trillion wiped off global markets, the move deepened investors' concerns of an impending recession in the United States and over the euro zone crisis.

China Denounces American “cowardice” after US Downgrade - On Monday, the People’s Daily, an official newspaper of the Chinese Communist Party, accused both the United States and Europe of threatening the world’s economic recovery by “not taking responsibility” in the sovereign Debt Crisis. “If developed countries, including the United States and (those of) Europe, refuse to take responsibility, it will have serious consequences on the stability of the development of the global economy,” said the newspaper in an editorial. Since the announcement of the US Debt Ceiling increase, Beijing and the official Chinese press have been increasingly negative in their analysis of US decisions related to the Debt Crisis, emphasizing that the US failed to solve the underlying problems . China, which is by far the largest creditor of the United States, urged Washington to stop living beyond its means and warned that the Chinese central bank would continue to diversify its investments in foreign currencies because of the threats on the dollar. In May, Beijing owned $1160 billion of U.S. Treasury bonds.

Aquino wants Central Bank to open up to currencies other than dollars - Philippines President Benigno Aquino asked Central Bank to open up to growing currencies, and start changes in the country's dollar-based economy, as his financial experts weighed losses and gains following a scrutiny of the economic woes in the United States (US), an ally, a local paper and other sources said.  The country's dollar-based foreign reserves must be checked, Aquino told the Star, indicating the importance of changing Central Bank's policy to make it open to "a broader basket of currencies… (since) there is an old saying that you don't put all of your eggs in one basket." Earlier, Philippine finance secretary Cesar Purisima said the dismal economic developments in the US, "highlights the need for alternative global reserve currencies and benchmarks that are more stable and as liquid and convertible". He did not give details

Saudi urged to cut investment in US - Saudi Arabia should cut its investment in US bonds to protect its overseas assets following the credit downgrade of the United States given the Gulf Kingdom’s heavy reliance on the US market, the country’s largest bank said on Thursday. Besides the impact of the downgrade on Saudi foreign assets, the problem could also have indirect effects on Saudi Arabia by depressing oil prices and the value of the US dollar, to which the Saudi currency, the riyal, is pegged, National Commercial Bank (NCB) said in a study sent to Emirates 24/7. Citing its own sources, NCB said it believes US treasuries constitute the majority of Saudi Arabia’s net foreign assets of nearly $492 billion. It described the downgrade as actually more of a referendum on the dollar rather than US treasuries, due to the fact that US ability to pay its debt obligations remains a “fundamental certainty”

PBOC Adviser Says China Needs Urgent Review of U.S. Holdings, News Reports - China should urgently assess risks from being the main foreign investor in U.S. debt and diversify its foreign-currency reserves more quickly, the Financial News reported today, citing Xia Bin, a central bank adviser. In the short term, China can adjust the structure of the reserves, the central bank publication cited Xia as saying. Longer-term, the key is to keep foreign-exchange holdings at a “reasonable” level, according to Xia, an academic member of the monetary policy committee of the People’s Bank of China. Central bank Governor Zhou Xiaochuan pledged this month to “closely” monitor U.S. efforts to tackle its debt burden. The global stock market rout that saw Tokyo shares sliding this morning follows Standard & Poor’s downgrade of the U.S. debt rating from AAA and a widening of Europe’s sovereign-debt crisis. China is the biggest foreign owner of U.S. Treasuries, with more than $1 trillion of the securities, and its foreign- exchange reserves are the world’s largest at more than $3 trillion.

What Can Replace the Dollar? - In my recent book Exorbitant Privilege: The Rise and Fall of the Dollar, I described a future in which the dollar and the euro would be the dominant global currencies. And, peering ten and more years down the road, I anticipated a potential international role for the Chinese renminbi.I ruled out a role for Special Drawing Rights (SDRs), the accounting unit issued by the International Monetary Fund. One might think that the SDR, as a basket of four currencies, might be attractive to central banks and governments seeking to hedge their bets. But the process for issuing SDRs is cumbersome, and there are no private markets in which they can be traded.There was no realistic alternative, I concluded, to a future in which the leading national currencies, the dollar and the euro, still dominated international transactions.What’s different now is that a pox has been cast on both houses. The US debt-ceiling fiasco has raised doubts in the minds of central bankers about the advisability of holding dollars, while Europe’s failure to resolve its sovereign-debt crisis continues to fuel doubt that the euro can survive.

U.S. federal deficit hits 1.1 trillion dollars so far this fiscal year (Xinhua) -- The federal deficit of the United States recorded 1.1 trillion dollars in the first ten months of fiscal year 2010-2011, indicating it the third consecutive year that the U.S. fiscal imbalance topped 1-trillion- dollar mark, reported the Treasury Department on Wednesday. The Treasury data showed that the U.S. federal budget deficit in July reached 129 billion dollars, much higher than 43 billion dollars in the previous month. In the first ten months of fiscal year 2011, which began in Oct. 2010, U.S. federal government received 1.89 trillion dollars, but it spent 2.99 trillion dollars in the same period. It is expected that this year's deficit is on pace to exceed last year's imbalance of 1.29 trillion dollars but fall short of the record 1.41 trillion dollars set in 2009. Before 2009, the U.S. federal deficit had never come close to 1 trillion dollars in a single year.

Will countries stop investing their trillion dollar reserves in US treasuries? -- Felix Salmon writes:  “All those foreign sovereigns, for instance, who love to invest trillions of dollars of their reserves in Treasuries might start wondering if they shouldn’t just take that money and invest it domestically, instead, or in some other country’s debt or equities.” But who are these countries that seem to have trillions of dollars of reserves to begin with? Nobody else issues US dollar but the US. Oh yes, these are the countries that incur trillions of dollars of surpluses with the US. And if they continue to incur trillions of dollars of surpluses with the US, they will always have trillions of dollars to invest. Will they invest it domestically in their economies instead? Not unless their people start accepting and circulating US dollars as alternative domestic currency. Have you ever seen an economy that is circulating trillions of US currency in their domestic economy? No. But if they start doing so, then that actually increases the value of US treasuries because if China, for example, starts circulating US dollars domestically, then their citizens will start saving in US treasuries. Will they invest the US dollar reserves in other countries' debt or equities? What country is going to sell their bonds for US dollars? Where will these 'other countries' put the additional US dollar reserves? US treasuries?

Former PBOC Member: "The Situation Is Unsustainable. The Longer It Continues, The More Violent And Destructive The Final Adjustment Will Be." - Yesterday it was an editorial piece in the main Chinese media outlet Xinhua. Today, China brings its message of helpless (for now) fury to the FT, where Yu Yongding, a former member of the Monetary Policy committee of the Chinese Central Bank has just said what everyone who realizes that mean reversions after 30 years worth of a "great moderation" can and will be a nasty, nasty thing, thinks. Namely: "the situation is ultimately unsustainable. The longer it continues, the more violent and destructive the final adjustment will be. " He is referring to the relentless recycling of Chinese trade surplus in the form of US paper which is increasingly looking like it will never get repaid. His chief rhetorical question is key: "The question is: what losses is China willing to bear in its foreign exchange reserves in order to slow the pace of the renminbi appreciation?" And that's the ballgame.

Asia, Europe to ‘Stick It Out’ With Treasuries - Asian states are likely to retain their U.S. Treasury holdings for now and European governments expressed confidence in the world’s largest economy after Standard & Poor’s cut the U.S.’s sovereign credit rating to AA+. Russia said the one-step cut “can be ignored” and France joined the U.S. in questioning S&P’s reasoning. South Korea affirmed its “faith” in Treasuries after an emergency meeting of officials today in Gwacheon, south of Seoul. China’s official Xinhua news service said in a commentary that the U.S. must cure its “addiction” to borrowing. For all the angst, policy makers across Asia are lured to Treasuries as a result of efforts to stem gains in their currencies against the dollar, which would impair export competitiveness. China has accumulated $1.16 trillion of the debt and is the largest individual foreign holder. Japan’s efforts to weaken the yen boost that country’s demand, and Vice Finance Minister Fumihiko Igarashi said today that the government is ready to intervene again after selling the currency on Aug. 4. “They won’t be happy about it, but Asian central banks will just have to hold on and stick it out,” 

China Should Not Sell US Debt: Ex Chinese Lawmaker - China should sit tight on its U.S. Treasuries investment and adopt a "no buy, no sell" strategy, former top Chinese parliamentary official Cheng Siwei said on Monday as Asian stocks tumbled on a historic downgrade of U.S. debt rating. Taking aim at how China should invest its $3.2 trillion in foreign exchange reserves, the world's largest, Cheng said China should use future reserves to buy other bonds and to make foreign direct investments. Cheng's advice to Beijing, the largest foreign creditor to the United States, to stay calm contrasts with Monday's financial market rout as nervous investors fled riskier assets on fears a second U.S. recession may be looming. "In my opinion, at this moment, the best strategy is no buy, no sell," Cheng told Reuters when asked what Beijing should do with its U.S. debt investment. "At this moment, it's very difficult to shift (investment), to change fundamentally, because we hold such a big amount." Analysts estimate 70 percent of China's reserves are invested in dollar assets, and data shows China had $1.16 trillion worth of Treasuries as of the end of May. As such, it is in Beijing's interests to see a healthy U.S. economy.

Reserve Currency Curse: Idea China to Stop Buying Treasuries After S&P Downgrade is Fallacious; US Would Welcome China Not Buying US Treasuries! - Comments abound on the significance of the S&P downgrade of US debt. In "On the S&P ratings move" Bruce Krasting said essentially the same thing on the lasting effect, however he expects "interesting market action come Sunday night as this news is digested." Moreover, if there is "interesting action" Sunday evening, it may not have anything to do with the rating cut at all. Rather, I suspect it will be in relation to the ECB confirming it will buy Italian debt. What got my attention in Krasting's article was a fallacious, yet widely repeated set of statements "I don’t expect to see some big headline that says, 'China to sell'. That’s not going to happen. The critical issue is, 'Will they buy more?' I doubt they will." The first sentence is true. However, the idea China will stop buying US debt is complete silliness. The rationale for my statement is a simple mathematical identity. There can be no dispute of it. Yet, people dispute it all the time. I have a brilliant writeup from Michael Pettis on this very issue that I received a few days ago via email.

World's Craziest Fools: PRC Buying Treasuries - A theme I've harped on a lot is that China has no one but itself to blame for the United States' incredible debt accumulating run as its largest creditor. To make a drug culture reference, the pusher generously indulging the user in his debt fixes has no one else to blame for the latter's erratic behaviour. However, the Chinese seem to twist this narrative thusly: By virtue of owing so much debt to the PRC, the US is supposed to be more responsive to Chinese pleas to moderate America's torrid pace of debt issuance as continuing to do so may impair Uncle Sam's ability to honour its obligations. This argument is inane for a number of reasons. First, alike holding debt rather than equity in corporations, China does not have an "ownership stake" in the United States. This has arguably been deliberate since it's politically more palatable to have China own (degraded) official IOUs instead of American firms that offer profits and technical know-how. Second, China is usually the first country to invoke principles of non-interference and non-intervention when criticized for its handling of human rights, coddling of various unsavoury regimes abroad and so on. Conversely, shouldn't the US be free to run massive deficits as it sees fit? It's only fair despite the obviously negative consequences for those suck--I mean, valued customers of Treasuries.

Some Concern Abroad About U.S. Downgrade - Europe was taken aback Saturday at the unprecedented downgrade of America’s sterling sovereign credit rating, as officials of the Group of 7 industrial countries decided whether to hold an emergency conference call to discuss the debt crisis1 that has beset Europe and the United States. While officials in both Europe and Asia had girded for such a possibility, the news that Standard & Poor’s had lowered Washington’s AAA rating to AA+ was nonetheless received with a degree of concern in the corridors of power on the Continent. The French finance minister, François Baroin, questioned the move Saturday, which he said appeared to be based on “nonconsensual figures.” The Obama administration had disputed the judgment, noting that Standard & Poor’s had made a significant mathematical mistake and overstated the federal debt by about $2 trillion2. Standard & Poor’s said the downgrade was based more on the view that the effectiveness, stability and predictability of American policymaking had eroded during the rancorous debate over lifting the debt ceiling.

World Reacts To U.S. Debt Downgrade - Markets won’t be open until Monday, but the world is already starting to react to S&P’s decision to downgrade U.S. sovereign debt:— Europe was taken aback Saturday at the unprecedented downgrade of America’s sterling sovereign credit rating, as officials of the Group of 7 industrial countries decided whether to hold an emergency conference call to discuss the debt crisis that has beset Europe and the United States. While officials in both Europe and Asia had girded for such a possibility, the news that Standard & Poor’s had lowered Washington’s AAA rating to AA+ was nonetheless received with a degree of concern in the corridors of power on the Continent.The French finance minister, François Baroin, questioned the move Saturday, which he said appeared to be based on “nonconsensual figures.” The Obama administration had disputed the judgment, noting that Standard & Poor’s had made a significant mathematical mistake and overstated the federal debt by about $2 trillion.

Safe Haven? Investors Still Run to Treasurys - Treasurys showed on Monday that they are still the safe-haven investment of choice in time of stress, with investors piling into the same U.S. government debt that was downgraded last week by Standard & Poor's.  Rather than sparking a selloff in Treasurys, S&P's action—lowering the U.S.'s triple-A credit rating one notch to double-A-plus—added to fears about the global economic outlook and resulted in a broad-based selloff in risky assets. The Dow Jones Industrial Average stock index plunging by 5.5% in a flight into the perceived safety of Treasurys and gold.  The buying sent Treasury yields, which move inversely to prices, tumbling to fresh landmark lows. The two-year note's yield fell to a fresh record low of 0.228%; the benchmark 10-year note's yield dipped to as low as 2.309%, the weakest level since January 2009. The yield has fallen from this year's peak of 3.77% in February and is now trading near the record low of 2.034% hit in mid-December 2008 after the collapse of Lehman Brothers.

Global Bonds Gain $132 Billion Amid Stock Rout - The worldwide retreat from stocks and commodities following Standard & Poor’s unprecedented cut of the U.S. AAA credit rating has driven the value of the global bond market to a record high. The market value of Bank of America Merrill Lynch’s Global Broad Market Index has increased $132.4 billion since the end of July to $42.1 trillion, the most in data going back to 1996. The index, containing more than 19,000 bonds sold by governments, banks and the world’s biggest companies, returned 1.09 percent this month as yesterday’s stock rout wiped out about $2.5 trillion in global equity values, extending total losses since July 26 to $7.8 trillion. While S&P said the credit worthiness of the U.S. was diminished when it cut the rating to AA+ on Aug. 5, Treasuries have surged. The yield on the benchmark 10-year note dropped today to as low as 2.27 percent, the least since January 2009. Investors are seeking the safest assets amid growing concern that debt crises in the U.S. and Europe and a manufacturing growth slowdown in the world’s two biggest economies may cause the global recovery to falter.

One (Perhaps) Last Note on Bond Prices in the Wake of S&P - CNBC had this to say: Standard & Poor’s spoke loudly and clearly when it downgraded US debt, but the Treasury market on Monday didn’t appear to be listening.While stock markets were selling off around the world bonds rallied. The 30-year bond gained more than a point in price as investors sent their own clear message that in times of turmoil, Treasurys were still the safest house on the block. The movements seemed to suggest that S&P, for all the bluster and bold headlines its move created, was not calling the shots. All over the media and my social media network people keep saying things like this. However, this is just the wrong way to think about the world. Let me explain..

What If They Announced A Downgrade And Nobody Cared?  - Krugman - S&P has triggered another invisible attack by the invisible bond vigilantes: Meanwhile, via Mark Thoma, Economics of Contempt — who has dealt with S&P — confirms that they aren’t the sharpest tools in the drawer. I’m fairly sure that if and when we get the whole story here, it will turn out that S&P was being political here, trying to do someone a favor — and it just wasn’t going to let facts get in the way of the downgrade it wanted. What’s going to be painful over the next few weeks is listening to all the Very Serious People keep treating these clowns as if their opinion was worth anything. And they will — remember that Snoopy Snoopy Poop Dog is still a member in good standing of the VSP club.

You Know, If You Had Told Me a Year Ago That on August 5, 2011 S&P Would Downgrade the U.S, and the 10-Yr Treasury Would Yield 2.5%…… I would have laughed at you. I would have said that while there were possible futures in which each of those things happened, they were disjoint futures.

Aaauuuggghhh! Market Commentary Edition - Krugman - Carnage in stock markets as I write — and all of the headlines I see attribute it to S&P’s downgrade. They really are trying to make my head explode, aren’t they? Once again: S&P declared that US debt is no longer a safe investment; yet investors are piling into US debt, not out of it, driving the 10-year interest rate below 2.4%. This amounts to a massive market rejection of S&P’s concerns.The “signature” of debt concerns should be stock and bond prices both falling; what we actually see is those prices moving in opposite directions. And that’s normally the signature of concerns about a weak economy and deflation risk (see Japan, decline of). What triggered economy fears? To some extent I think this is a Wile E. Coyote moment, with investors suddenly noticing just how weak the fundamentals are.

Just How Much Money Can the Government Make By Borrowing? - The 5 year TIPS rate crossed –1% today. That means the government can make more money borrowing than the average person can by saving.

The Market Can't Get Enough Of Those Downgraded Treasuries - The stock market was crushed today, with the S&P 500 falling nearly 7%.  But a funny thing happened on the path to demoting Treasuries: prices of these tarnished securities soared. Accordingly, the yield on the benchmark 10-year Note went south by a comparable amount, falling 22 basis points to 2.34% as of 3pm today, according to Bloomberg. That's the lowest yield since January 2009, when the Great Recession was raging and the world was rushing into safe harbors.  The message seems to be that the market took no notice of S&P's warning about U.S. credit, at least in terms of the bonds in question. Fear is still a bigger motivator than credit reports. Prices on Treasuries are now higher (and yields lower) than they were at Friday's close, before the world learned of S&P's report. The U.S. isn't likely to regain its AAA credit any time soon, S&P advises. But if lowering the country's rating to AA+ has any downside for prices, the burden falls primarily on equities.

Why are Treasury prices rising after the S&P downgrade? - Yves Smith - Despite the hysteria that the downgrade of US debt would lead to US funding costs rising and Treasuries crashing, instead we've had stocks crashing and Treasury prices rising sharply. That's completely rational. The policies being implemented as a result of this contrived budget crisis are deflationary. For non-economists, as much as inflation has been touted as a major financial problem over the last 30 years, deflation is widely acknowledged to be Economic Enemy Number One. And high quality bonds like Treasuries are the place to be in deflation. Deflation occurs when you have a falling level of prices and wages. Even though it isn't included in the Consumer Price index, the most important price in an economy is that of labor. We've had stagnant real worker wages over the last 30+ years, and from 2007 to 2009, IRS data shows that incomes fell 15% in real terms. Most of that is due to unemployment, but remember another pattern of the last decade: when seasoned workers lose jobs, when they find work again, it is often at much lower pay. Stagnant real wages are pretty much stagnant actual wages in a low inflation economy.As many economists have recognized far too late is that increasing consumer debt levels is what enabled the US to fuel economic growth even with no real wage increases. Rising consumer debt is not a plus over the longer term, since consumers don't make productive investments from debt.

10-Year Real Treasury Rate at Zero - Time for everybody who has publicly worried about "crowding out" or about the deficit raising U.S. interest rates to make their Apology to the Emperor, and be quiet for life.

Downgrade Downgraded - Krugman - A week ago, before the S&P downgrade, the interest rate on US 10-year bonds was 2.56 percent. As I write this, it’s 2.24 percent, with the yield on inflation-protected bonds actually negative. You would think this would amount to strong evidence that the downgrade totally failed to shake confidence in US debt. Yet people who listen to radio and TV reporting tell me that most stories attribute the stock plunge to the downgrade, and are telling listeners that the case for immediate spending cuts has gotten even stronger. It’s infuriating — and deeply destructive.

Treasury Adds Another $20 Billion In Debt Overnight, Just $160 Billion Below Revised Ceiling - Ok, someone please explain this one to us because we must be a little slow. Wasn't the whole thing with the debt ceiling hike such that no more Congressional melodramas would have to be inflicted upon the population until after Obama [won|lost] the 2012 elections? Because according to the one again exponentially increasing debt balance of the US Treasury (there is another $51 billion in debt/cash coming in next week), the total US treasury balance (subject to the ceiling) is $14.54 trillion (and $14.58 trillion for total), an increase of $20 billion overnight, the Treasury will hit its latest ceiling no later than the end of September. As the latest DTS statement indicates, the debt ceiling now is $14.694 trillion: a number which Tim Geithner will hit in about a month. So if this is due to a planned expansion as part of the two step plan, we would like to understand how it works, because the $400 billion additional ceiling is barely sufficient to cover the catch up in funding for the SSN and the various governmental trust funds. And the far bigger concern is that tax receipts are about to plunge courtesy of the imminent double dip. So we wonder just based on what assumptions does the Treasury believe that its issuance needs will be met by this paltry debt ceiling.

Treasury Saves $647 Million in First Bond Sales After S&P Cut - The U.S. auctioned $72 billion of notes and bonds this week at the lowest average yield for a refunding on record, saving taxpayers $647 million in interest payments during the life of the securities less than a week after Standard & Poor’s removed the nation’s AAA rating. The Treasury Department paid an average yield of 2.13 percent on the three-, 10- and 30-year securities, less than the previous refunding auctions in May of 3 percent and below the former record of 2.59 percent in February 2009, according to data compiled by Bloomberg. The government began selling 30-year bonds on a regular schedule in 1977 as part of its so-called quarterly refunding. This week’s auction results show investors are repudiating S&P’s decision to lower its assessment of the U.S.’s creditworthiness to AA+, and are instead scooping up the debt on signs the economy and inflation are slowing and the near-zero chance the government will default. Moody’s Investors Service and Fitch Ratings have affirmed their AAA grades.

Five Things You Should Know About the S&P Downgrade - On Friday night, Standard and Poors announced that it was downgrading U.S. long-term sovereign debt from AAA to AA+, the first such downgrade in U.S. history. Here are five things you should know about the downgrade — four important, one trivia.

• 1. S&P downgraded U.S. debt not only because of the deteriorating fiscal outlook, but also because of concerns about America’s ability to govern itself.
  2. Moody’s and Fitch recently reaffirmed their AAA ratings on U.S. sovereign debt.
  3. In the past thirty years, five nations — Australia, Canada, Denmark, Finland, and Sweden– have regained a AAA rating after losing it. See, for example, this nice chart from BusinessWeek:
• 4. This downgrade may set off a cascade of further downgrades for other U.S. debt.
  5. S&P was not the first rating agency to downgrade U.S. sovereign debt. China’s Dagong credit rating agency downgraded U.S. credit to A with a negative outlook earlier this week.

Just the Facts: S&P’s $2 Trillion Mistake - US Treasury - In a document provided to Treasury on Friday afternoon, Standard and Poor’s (S&P) presented a judgment about the credit rating of the U.S. that was based on a $2 trillion mistake. After Treasury pointed out this error – a basic math error of significant consequence – S&P still chose to proceed with their flawed judgment by simply changing their principal rationale for their credit rating decision from an economic one to a political one. S&P has said their decision to downgrade the U.S. was based in part on the fact that the Budget Control Act, which will reduce projected deficits by more than $2 trillion over the next 10 years, fell short of their $4 trillion expectation for deficit reduction. Clearly, in that context, S&P considers a $2 trillion change to projected deficits to be very significant. Yet, although S&P's math error understated the deficit reduction in the Budget Control Act by $2 trillion, they found this same sum insignificant in this instance. . This mistake undermined the economic justification for S&P’s credit rating decision. Yet after acknowledging their mistake, S&P simply removed a prominent discussion of the economic justification from their document.

Treasury Versus S&P on the Downgrade: It’s Not a Math Error - The White House and the Treasury are accusing Standard and Poor’s of making an elementary arithmetic mistake in the recent downgrade decision. Treasury’s John Bellows writes about what he calls a “$2 trillion mistake” saying that “After Treasury pointed out this error – a basic math error of significant consequence – S&P still chose to proceed with their flawed judgment by simply changing their principal rationale for their credit rating decision from an economic one to a political one.” White House adviser Gene Sperling adds that “The magnitude of their error combined with their willingness to simply change on the spot their lead rationale in their press release once the error was pointed out was breathtaking."  But if you examine the details of the S&P--Treasury--White House dispute, rather than a “math error” you will find what is better described as a “difference of opinion” about a forecast for future government spending. In other words, the issue is about the appropriate “baseline” for government spending in the absence of more actions. Since when did different views or assumptions about the future become a math error?

I Heard It Through The Baseline - Krugman - Oh, my. Treasury has a fact sheet explaining that $2 trillion error by S&P; it may sound technical, but to anyone who follows budget issues, it’s a doozy. When the Congressional Budget Office “scores” policies, it does so relative to a “baseline” — a set of assumptions about what would happen in the absence of that policy. The normal CBO baseline — mandated by Congress — assumes that discretionary spending will rise with inflation, but no more. This isn’t realistic most of the time, since the demands for government services rise both with growing population and in many cases with rising economic activity; that’s one reason CBO always provides an “alternative fiscal scenario” that’s supposed to be more realistic. Under current conditions, however, with Obama already committed, even before the debt deal, to fairly harsh austerity, the zero-real-growth baseline is more realistic — and it’s how the debt deal was scored. But S&P initially assumed that the debt deal was subtracting off a quite different baseline. S&P stands revealed as not understanding basic analysis of budget estimates. I mean, I don’t think I would have made that mistake; real budget experts, like the people at the Center on Budget and Policy Priorities, certainly wouldn’t have.

Bill Gross Tells The Truth: "S&P Finally Got It Right. They Are Enforcing Some Discipline. My Hat Is Off To Them" - After all the hollow rhetoric and scapegoating over the past few days about S&Ps "treasonous act" from Friday, we were delighted to finally hear one person say the truth. "I have been criticizing them and Moody's and Fitch for a long time. Moody's and Fitch are on the "S" list. I think S&P finally demonstrated some spin. S&P finally got it right. They spoke to a dysfunctional political system and deficits as far as the eye can see. They are enforcing some discipline. My hat is off to them." The person in question: PIMCO's Bill Gross, who says what everyone is thinking but afraid to say it for fear it would insult our oh so sensitive, and so incompetent, administration. Because if criticizing S&P over being far too late to the subprime party is justified, at least they have the guts (unlike those tapeworms from Moody's) to finally step against the tide of conventional sycophantic wisdom and tell everyone even a modest part of the whole truth. If that is not the first step toward penitence, then nothing is. And yes, America's real credit rating at the current level of deficit accumulation most certainly does not begin with the letter A, or B or even C for that matter. Because what America is doing is heading straight for default by terminally hobbling its own currency in hopes of stimulating rampant inflation thereby cutting its debt load through devaluation. A sad side effect of that of course is the wipe out of its own middle class as well. But all is fair in love and preserving the wealth of the status quo.

S&P Erred in Cutting U.S. Rating: Buffett - Billionaire Warren Buffett said Standard & Poor’s erred when it lowered the U.S. credit rating and reiterated his view that the economy will avoid its second recession in three years. The U.S., which was cut Aug. 5 to AA+ from AAA at S&P, merits a “quadruple A” rating, Buffett, 80, said yesterday in an interview with Betty Liu at Bloomberg Television. The downgrade followed the biggest weekly selloff in U.S. stocks in 32 months, with the S&P 500 slumping 7.2 percent to its lowest level since November. “Financial markets create their own dynamics, but I don’t think we’re facing a double dip recession,” said Buffett, chairman and chief executive officer of Berkshire Hathaway Inc. “Clearly what stock markets do have is an effect on confidence, and this selloff can create a lack of confidence.” 

We Don't Have A Long-Term Deficit Problem - Standard & Poor’s did not downgrade the U.S. political system. It did not downgrade the stock market. It downgraded United States Treasury bonds and bills—and did so after Congress had removed whatever tiny chance existed of even a small delay in payments. So it’s instructive that, on the next market day, investors moved massively out of stocks, and into the safety of U.S. Treasury bonds and bills. Rarely has stupidity been so quickly and massively shown up.  Some commentators read the downgrade as a rebuke to the Tea Party, but, in fact, S&P was making good on its threat to act if the deficit deal resolving that drama did not reach the arbitrary threshold of $4 trillion over ten years. It wasn’t the Tea Party’s Kool-Aid they were drinking, but that of the deficit hysterics. And yet, S&P’s statement (math error and all) was of a piece with mainstream budget projections from CBO and other official sources. These projections all assume steady growth, low inflation, and falling unemployment (in which case, one may ask, what’s the problem exactly?). Yet they also predict much higher interest rates. In these projections, it is mainly the vicious magic of compound interest—debt compounded on top of debt in computer models—that generates the explosive debt dynamic which rationalized the downgrade.

Geithner Tells NBC S&P Shows "Stunning Lack Of Knowledge About Basic US Fiscal Budget Math" - Geithner was on NBC and when discussing the massively overdue S&P downgrade of US debt, shared the following pearl of wisdom: "S&P decision to cut U.S. credit rating shows stunning lack of knowledge about basic U.S. fiscal budget math." Listen to Tim: when it comes to stunning lacks of knowledge about things, Tim is the absolute expert, although in his case it is mostly the US tax code. He added that S&P made a "terrible judgment" and reached the wrong conclusion. He is right. The cut should have been at least several more notches. But there is time... Lastly, and most expectedly, he added that the S&P decision changed nothing on the safety of Treasuries and that China remains a strong investor in the US. Perhaps. We shall see after the TIC statement from October is released, which will detail August transactions. Alas, by then the world will have other issues to deal with.

S&P Debt Downgrade Leads To Same Old Washington Blame Game - Not surprisingly,  Standard & Poor’s announcement that it was downgrading U.S. sovereign debt has led to a round of political finger pointing as Republicans and Democrats seek to blame the opposing party for what happened: The partisan battle lines were quickly drawn: Republicans blamed Obama for reckless overspending, and Democrats said tea party intransigence blocked the sort of “grand bargain” that might have fended off a downgrade. Sen. Jim DeMint (R-S.C.) called on Obama to fire Treasury Secretary Tim Geithner. Pragmatists in Congress took the report as a wake-up call to go for a big deficit-reduction plan, and the fret set crooned in unison, “We told you so.” And much as the credit agency knocked the U.S. credit rating to AA+, it didn’t give passing marks to Obama’s efforts either — producing a soundbite-worthy nugget for any Republican ready to use it: under Obama, we’re not triple-A anymore.

Standard & Poor's credit downgrade: Downgrade decisions are almost always political - Criticism of Standard & Poor's decision to downgrade the United States' credit rating from AAA to AA+ has generally gone like this: S&P is full of halfwits with a horrific track record of risk analysis, and they have no right to judge the country's fiscal situation. You should ignore S&P. But if you don't, you should note that the ratings agency is completely wrong about the country's probability of default. This analysis strikes me as mostly correct, and the markets seem to agree. Since Friday, investors have blithely shrugged off S&P's suggestion that U.S. Treasuries are getting riskier. Indeed, demand for them has risen: Spooked by the sovereign debt crises in Europe and the specter of declining corporate profits stateside, traders are fleeing stocks for the warm safety of American bonds. The United States is borrowing for the cheapest rates since the 1960s, downgrade be damned. But this interpretation also seems to be missing the point. Standard & Poor's knocked the United States' rating from AAA to AA+ not because of economic risk but because of political risk. All of S&P's

S&P: U.S. unlikely to quickly reclaim AAA rating - The U.S. is unlikely to quickly return to the top-tier triple rating of AAA, said David Beers, head of Standard & Poor's global sovereign ratings, on Monday. "Given the nature of the debate currently in the country and the polarization of views around fiscal policies right now, we don't see anything immediately on the horizon that would make an upgrade back to AAA again the most likely scenario," Beers said. The earliest a sovereign has ever returned to a AAA rating was nine years, S&P officials said.

Losing your AAA -  On Friday, Standard & Poor's, one of the three main credit rating agencies, downgraded U.S. Treasury debt from AAA to AA+, citing doubts about the effectiveness, stability, and predictability of American policymaking and political institutions in being able to deal with the rising debt burden by the middle of the decade. It's been a wild ride for equity and commodity markets ever since. Somewhat incredibly, Standard & Poor's made a $2 trillion error in their calculation of future U.S. deficits. The other two major credit rating agencies, Moody's and Fitch reaffirmed that they will be maintaining their AAA ratings. And Paul Krugman is among those questioning how an agency that had given AAA ratings to trillions of dollars of questionable mortgage-backed securities could now decide that U.S. debt had become more risky. Still, the fundamental unease that many of us have been feeling about the U.S.'s long-term fiscal challenges could only have increased watching events in Washington over the last few weeks. I would have hoped that both parties could agree that, whatever differences we may have, the country is willing to bear whatever burdens are necessary to honor existing debt commitments. The erosion of that hope is part of what gives the decision by S&P some personal sting.

Christina Romer Sums It Up - video - Appearing on Real Time with Bill Maher on Friday, shortly after the announcement that Standard & Poor’s had downgraded the U.S. credit rating, Christina Romer, former chair of the White House Council of Economic Advisers, reflected on our current condition. I suppose this would just be funny rather than both funny and disturbing had Romer not uttered the line with a giggle in her belly and a twinkle in her eye. As it was, viewers were left with the impression that: a) she’s quite happy to be thousands of miles away from Washington, and b) we really are ‘Pretty Darn F**ked’.

How F**ked Are We? Pretty Darned ...Dow Jones Industrial Average losing over 600 points after Standard & Poors downgraded the U.S. credit rating to AA+ with a negative outlook, which means that further downgrades are possible in the future. The Nymex oil price fell $6.41 to $81.21/barrel, proving once again that Academic Economists are surely right in thinking that oil prices always reflect supply & demand fundamentals. Everybody with "skin in the game" has a corn-pone opinion about the ratings downgrade. Billionaire Warren Buffett is infuriated, saying America's credit rating should be quadruple A (AAAA), a rating which only exists in his mind. Liberals like Robert Reich and Paul Krugman are also very angry because they know that debt doesn't matter. As Alan Greenspan opined, debt can always be paid off by printing money (see the Daily Ticker video below). And because we can print money, there's no reason why the U.S. can not pay off it's debts. The Daily Ticker's Henry Blodget points out that we have to consider more than our ability to pay off our debts. We must also consider our willingness to do so. Just ten days ago—how time flies!—it appeared that the U.S. would not agree to pay the bills it had already agreed to pay.

THE Reason for the Downgrade - On July 14, 2011, S&P was assuming that 2001 and 2003 tax fraud deferrals would expire at the end of 2012.  It is no longer making that assumption, which is worth another $4T. Brad DeLong annotates/redlines the press release without comment on that part:  Compared with previous projections, our revised base case scenario now assumes that the 2001 and 2003 tax cuts, due to expire by the end of 2012, remain in place. We have changed our assumption on this because the majority of Republicans in Congress continue to resist any measure that would raise revenues, a position we believe Congress reinforced by passing the act. English translation: even though extending the tax cuts would require an affirmative action of both houses of Congress and consent from President Obama (or veto override by vote of 2/3 of both houses), we don't believe this will happen or we would have kept our innumerate mouths shut in the first place (or at least after Treasury called us on our McArdlesque calculations).  Our revised upside scenario--which, other things being equal, we view as consistent with the outlook on the 'AA+' long-term rating being revised to stable--retains these same macroeconomic assumptions. In addition, it incorporates $950 billion of new revenues on the assumption that the 2001 and 2003 tax cuts for high earners lapse from 2013 onwards, as the Administration is advocating. In this scenario, we project that the net general government debt would rise from an estimated 74% of GDP by the end of 2011 to 79% in 2015 and to 87% by 2021. to 77% in 2015 and to 78% by 2021. [redlining by BdL] English translation: if we thought Barack Obama and his Administration both were serious and would be successful, we wouldn't have left the U.S. on credit watch for possible downgrade. But we don't, nyah, nyah, nyah.

Credibility, Chutzpah And Debt, by Paul Krugman - To understand the furor over the decision by Standard & Poor’s to downgrade U.S. government debt, you have to hold in your mind two seemingly (but not actually) contradictory ideas. The first is that America is indeed no longer the stable, reliable country it once was. The second is that S&P itself has even lower credibility; it’s the last place anyone should turn for judgments about our nation’s prospects. Let’s start with S&P’s lack of credibility. If there’s a single word that best describes the rating agency’s decision to downgrade America, it’s chutzpah. America’s large budget deficit is, after all, primarily the result of the economic slump that followed the 2008 financial crisis. And S&P, along with its sister rating agencies, played a major role in causing that crisis, by giving AAA ratings to mortgage-backed assets that have since turned into toxic waste. Nor did the bad judgment stop there. Notoriously, S&P gave Lehman Brothers an A rating right up to the month of its demise. Wait, it gets better. U.S. Treasury spotted a $2 trillion error in S&P’s calculations. And the error was the kind of thing any budget expert should have gotten right. After discussion, S&P conceded that it was wrong — and downgraded America anyway.

On S&P, Downgrades, and Idiots - This is not going to be one of those posts that laments S&P’s decision to downgrade the US, but then says that S&P was probably right about our oh-so-dysfunctional political system. No, S&P was flat-out wrong — no caveats. They are, to put it very bluntly, idiots, and they deserve every bit of opprobrium coming their way. They were embarrassingly wrong on the basic budget numbers, as everyone knows now, so they were forced to remove that section from their report, and change their rationale for the downgrade. (Always a sign that you’re dealing with hacks.) Look, I know these S&P guys.  Back when I was an in-house lawyer for an investment bank, I had extensive interactions with all three rating agencies. We needed to get a lot of deals rated, and I was almost always involved in that process in the deals I worked on. To say that S&P analysts aren’t the sharpest tools in the drawer is a massive understatement. With S&P, it got to the point where we were constantly saying, “that’s a good point, but is S&P smart enough to understand that argument?” I kid you not, that was a hard-limit on our game-plan. With Moody’s and Fitch, we at least were able to assume that the analysts on our deals would have a minimum level of financial competence.

Ratings Agencies Are the Darnedest Things - On Tuesday an airplane buzzed the headquarters of Standard & Poor's in lower Manhattan, trailing a streamer that read "Thanks for the downgrade. You should all be fired." It's a common — and understandable — enough sentiment these days. Over the past decade, S&P and its rival Moody's helped bring on the financial crisis by completely flubbing their evaluations of subprime mortgage securities and the derivatives built atop them. They gave AAA ratings to financial instruments that were essentially fraudulent to begin with and effectively worthless at the end. Now one of these agencies has the unmitigated gall to downgrade the U.S.?!?! The fault here, though, lies as much in ourselves as in our ratings agencies. S&P, Moody's, and third wheel Fitch deserve all the criticism they've gotten over the financial crisis. But their behavior has been a symptom of the buck-passing, check-cashing financial culture that has overwhelmed the U.S economy over the past 30 years, not the cause of it. And S&P's ratings downgrade of the U.S., whether right or wrong, was at least a case of taking a stand and not passing the buck.

How to make monkeys out of rating agencies - Sovereign downgrade? Been there, done that ... such is likely to be the response of any investor in Japan to the news that Standard & Poor’s has removed its triple A rating on US debt.  Japanese government bonds lost their stamp of premium quality in 2002. Early this year S&P took a second shot, with another downgrade to double A minus. The result? In last week’s turmoil the yield on Japan’s 10-year bond briefly dipped below 1 per cent. If History of Interest Rates is any guide, this represents the lowest level of interest rates anywhere since Babylonian times.  This is no aberration. For the past decade the Japanese bond market has been making monkeys out of not just the credit rating agencies, but also academics, trigger-happy short sellers and politicians and bureaucrats who see fiscal austerity as a virtue in its own right. All have been proclaiming that out-of-control public debt had set Japan on the road to fiscal perdition.  No less a person than Kaoru Yosano, minister of economic and fiscal affairs, warned in a Financial Times interview that “Japan faced a dreadful dream”. On the face of it the numbers appear to back him up. Japan’s net debt to gross domestic product ratio comfortably exceeds 100 per cent and primary deficits stretch out as far as the eye can see. Yet the markets themselves are saying something quite different – that the supply of Japanese government bonds, far from being excessive, is actually insufficient.

Marshall Auerback: A Beer(s) Hall Putsch From the Rentiers? - Justifying its decision, Standard and Poor said “political brinkmanship” in the debate over the debt had made the U.S. government’s ability to manage its finances “less stable, less effective and less predictable.” It said the bipartisan agreement reached this week to find at least $2.1 trillion in budget savings “fell short” of what was necessary to tame the nation’s debt over time and predicted that leaders would not be likely to achieve more savings in the future. “It’s always possible the rating will come back, but we don’t think it’s coming back anytime soon,” said Beers. Of course, the response from Treasury was equally inane: “A judgment flawed by a $2 trillion error speaks for itself,” a Treasury spokesman said last Friday.  $2 trillion, $4 trillion, who cares if the S&P is math-challenged? It’s irrelevant! The notion that the US can arbitrarily summon up the ability to register $4 trillion in “savings” demanded by Standard & Poor as the price for upholding America’s AAA rating is nonsensical, as it ignores the impact that the withdrawal of income will have on the overall economy and, by extension, the size of the government deficits that the ratings agencies regularly decry. Credit ratings are based on ability to pay and willingness to pay. A sovereign issuer of its currency, which issues debt in said currency – like the US – always has the ability to make US dollar payments. Whether it chooses to do so is another matter. But that’s a matter of politics, not economics.

Retired Moody's Sovereign Rating Director: The S&P Downgrade is Unwarranted -The recent S&P downgrade of the credit rating of US Treasury bonds is unwarranted for the following reasons:

• 1) The US dollar remains the dominant global currency and no viable competitor is on the horizon. The euro is heading into dangerous and uncharted waters while deep and difficult political, economic and financial reforms will be required before the renminbi could become fully convertible for capital flows and Chinese government bonds a safe reserve asset.
• 2) US Treasury bills and bonds, along with government-guaranteed bonds and highly-rated corporates, will for the foreseeable future remain the assets of choice for global investors seeking a "safe haven", due to the unparalleled institutional strength, depth and liquidity of the market.
• 3) Despite the above positive factors for the US, it is certainly the case that the US long-term debt outlook is deteriorating under the pressure of rising entitlement costs and an inefficient, distortionary tax system. There is still a window of time -- perhaps as much as a decade --within which structural reforms to spending programs and the tax system could reverse the negative debt trajectory.
• 4) The bottom line is that the global role of the dollar and the central position of US bond markets make somewhat elevated debt ratios more compatible with a Aaa rating than is the case for other countries, another version of the US's "exorbitant privilege". But that extra leeway is finite and serious reforms to entitlement programs, particularly Medicare, must be made in a reasonable time horizon

Dungeons & Downgrades - On Friday, August 5, Standard and Poor’s downgraded U.S. debt from AAA to AA+, and assigned a negative outlook to U.S. debt. In its press release, S&P directly addressed the contentious squabbling on Capitol Hill, and the clumsy spectacle of Obama, Boehner and the upstart Tea Party faction of the Republican party wrangling over the raising of the debt ceiling, a process that had previously been routinely approved as a matter of course. In a stinging rebuke of the current dysfunctional political climate, S&P wrote “We lowered our long-term rating on the U.S. because we believe that the prolonged controversy over raising the statutory debt ceiling and the related fiscal policy debate indicate that further near-term progress containing the growth in public spending, especially on entitlements, or on reaching an agreement on raising revenues is less likely than we previously assumed and will remain a contentious and fitful process. We also believe that the fiscal consolidation plan that Congress and the Administration agreed to this week falls short of the amount that we believe is necessary to stabilize the general government debt burden by the middle of the decade.” S&P followed up by discussing its long-term outlook for U.S. debt:

STRIPPED: What the Credit Downgrade Means - I wrote about a possible credit downgrade on July 28th and split the probable reactions and consequences into what should happen and what (most likely) will happen. Lately, and with good reason, we’ve all become conditioned to the idea that what actually happens in the financial markets is not what should be happening. Take this latest move. Nothing that the S&P has done by downgrading US long-term debt obligations from AAA to AA+ has done anything to change the fundamental math of the equation. The US is just as insolvent after the downgrade as it was before the downgrade. But in a fiat money system, faith is very important, and what just took a big hit was the perception of safety that surrounds US Treasury debt. Further, the downgrade came at a rather awkward time for the financial markets. I suppose there’s never a great time, but some times are a little worse than others, and the financial markets are already highly unsettled after a few weeks of piss-poor economic data signaling the arrival of another downturn and a rising debt crisis in Europe that is still devolving rather than healing.

The Best Looking Horse In The Glue Factory - As usual the MSM did its usual superficial dog and pony show for the American public on Saturday and Sunday. The overall tone on every show (not journalism) was to calm the audience. Every station had a ”downgrade special” to explain why you shouldn’t panic over the downgrade of the United States. As we can see, it didn’t work. Worldwide markets went berserk. The reactions of the various players in this saga have been very enlightening to say the least. As I watched, listened and read the views of hundreds of people over the last few days, I recalled a statement by David Walker in the documentary I.O.U.S.A. This documentary was made in late 2007 before the financial crisis hit. The documentary follows Walker, the former head of the GAO, and Bob Bixby, head of the Concord Coalition, on their Fiscal Wake Up tour. In the film, Walker tells the audience: “We suffer from a fiscal cancer. If we don’t treat it there will be catastrophic consequences.” He argued the greatest threat to America was not a terrorist squatting in a cave in Afghanistan, but the US debt mountain.  These men were sounding the alarm when our National Debt was $9 trillion. Evidently, no one in Washington DC went to see the movie. They’ve added $5.5 trillion of debt to our Mount Everest of obligations.

Republicans own this downgrade - I would like to think that I am not a shill for the Democratic Party. But when it comes to this downgrade and the market crashes that have followed, I just can't see any reasonable case for political neutrality. I agree strongly with Felix Salmon, Paul Krugman, Greg Ip, Menzie Chinn, Jeffrey Frieden, and James Surowiecki that the dovngrade is not about the U.S. debt level (which is not that high, given interest rates, historical precedent, and international comparisons), but about the dysfunctionality of American politics. And the dysfunctionality of American politics is all about the Republican party -"an extremist right that is prepared to create repeated crises rather than give an inch on its demands," to borrow Krugman's phrase - but also about a system riddled with institutional tripwires (debt ceilings, filibusters, etc.) that allow that minority faction to hold the rest of the government hostage. S&P - which seems to operate on intuition rather than on any kind of math or model - seems to have simply smelled the crazy fumes emanating from the Tea Party. I smell them too.

Don't Shoot the Messenger - The downgrade of U.S. government debt by S&P is the result of policies pursued over many years that rely on the U.S. being the world's reserve currency. Policy makers have forgotten that the status must be earned; it's not a birthright.  Some thoughts on the downgrade, as well as recent ECB actions: With large-scale bond purchases announced, the ECB is moving closer to how the Fed operates in a crisis. In 2008, then NY Fed President Geithner conferred with Treasury Secretary Paulson whether to "foam" the markets. That referred to massive liquidity injection by buying Treasuries. Now the ECB may buy bonds of the largest European bond market, the Italian. The ECB has indicated it would sterilize any purchases, i.e. not print money on a net basis. Last Thursday, when the ECB announced it would reopen its six-month funding facility, the central bank may have received a heads up from S&P of the looming U.S. downgrade. The ECB is concerned about a shock that would shun Italy and Spain from the funding markets.

The Markets Are Not Stupid - If Washington had come out swinging against Moody's, S&P and Fitch ten years ago, when they started sticking AAA ratings on mortgage backed securities and CDO's boxed full of them, then there would have been credibility. Even 3 years ago, when the ratings agencies had failed to warn about the imminent fate of Bear Stearns and Lehman, the US government might still have had some credibility left if it had criticized the agencies then.  But today, in August 2011, when it's finally the government's own rating that's affected, that government lacks all credibility in its criticism of S&P. After a ten year silence, on topics that anyone could see needed scrutiny -badly-, the impression had become firmly entrenched that Washington was fine with anything the ratings agencies did. Until this weekend, that is. But now it's too late.  None of the government regulators in place has taken any decisive action against any of the three agencies for a decade, even when such action was more than warranted. So now the White House sounds like a bunch of spoiled and petulant kids crying for their mommies. And what's most important about this is that the markets realize it all very well, and will act accordingly.

Moody's: Why the U.S. Is Still AAA -On Monday, the credit rating agency released its “Weekly Credit Outlook” publication discussing the decision. Whether by coincidence or not, the stock market turned up just after 11 a.m., just as the wires carried headlines from that. The United States, Moody’s says, has “unmatched access to financing, meaning that the U.S. government can support higher debt levels than other governments.” Somebody tell Washington. Greece has a debt crisis. The United States had a debt limit crisis. It can, if it wishes, do something to try to avert a new plunge into global recession, which has become a real fear.Here’s an excerpt:  1. The unparalleled diversity and size of the U.S. economy and its long record of relatively solid economic growth, based on both demographics and productivity. Even if the short-term economic outlook exhibits some weakness, we believe that the long term remains favorable in relation to many other advanced economies. 2. The global role of the dollar, which underpins continued demand for U.S. dollar assets, including U.S. Treasury obligations. This feature, unique to the U.S., provides unmatched access to financing, meaning that the U.S. government can support higher debt levels than other governments.

Rating the Agencies - It's being argued that yesterday's downgrade of the credit rating of the United States government by Standard and Poor's could increase borrowing costs throughout the economy, worsen the burden of debt, retard a recovery that already appears to be faltering, affect political brinkmanship in future negotiations, and further tarnish our national reputation. Unless, of course, we chose to collectively ignore it, as Dan Alpert recommends:Effectively – the S&P pronouncement last evening amounted to not much more than a guest in your house telling your children to clean up their rooms “or else.” I don’t know about you, but in my case, at least, I would ask such a guest to apologize or leave.  But it's difficult to ignore events on which everyone else is lavishing such great attention, and this seems like an appropriate time to examine how these agencies managed to gain such visibility and influence. As Ross Levine notes in his recent autopsy of the financial crisis, this is where we stood forty years ago.

No Chance of Default, US Can Print Money: Greenspan - Former Federal Reserve Chairman Alan Greenspan on Sunday ruled out the chance of a US default following S&P's decision to downgrade America's credit rating.  "The United States can pay any debt it has because we can always print money to do that. So there is zero probability of default" said Greenspan on NBC's Meet the Press  "What I think the S&P thing did was to hit a nerve that there's something basically bad going on, and it's hit the self-esteem of the United States, the psyche" said Greenspan  Austan Goolsbee, the chairman of the White House's council of economic advisors, hit out at S&P on the same show, insisting the credit ratings agency had got its math wrong.  "Well, the basic case is they made a $2 trillion math error and forgot to check their work," he said. "So rating agencies that didn't make a $2 trillion math error reaffirmed the AAA status. You saw Warren Buffet say that, if they had a AAAA, he would put U.S. Treasurys in AAAA status." Following the decision to downgrade America's credit rating, the head of sovereign ratings at S&P, David Beers, said the Obama administrations analysis of the move was a complete "misrepresentation."

What to do about the ratings agencies - S&P’s decision to downgrade US Treasury bonds from AAA to AA+ has elicited various reactions, some of which I’ll doubtless repeat here. Obviously, S&P has no particular expertise (apparently it couldn’t even get the arithmetic right) and based on its historical and continuing performance, its opinions ought to carry no particular weight with anybody (they say so themselves, when under pressure over obvious cases of misrating, asserting that they are merely offering an opinion). On the other hand, it’s also pretty obvious (and even more so after the Repubs successful use of the debt ceiling to force Obama to abandon any call for tax increases along with the cuts they both wanted) that the US has some fairly intractable problems in dealing with its (technically quite manageable, but still substantial) public debt. Finally, as I said last time I discussed this, a decision of this kind (including a decision to maintain AAA ratings) is inherently political There are two reasons why S&P’s choice of rating matters more than, say, my own opinions on the matter

• First, a lot of investors still pay attention to ratings agencies, for whatever reason
• Much more importantly, agency ratings are embedded in global regulations concerning prudent management of investment. If a second major agency were to join S&P in downgrading, large numbers of institutions would be debarred, under existing rules, from investing in Treasury bonds

US downgrade: a mere sideshow - Ignore the immediate market reaction to the first ever downgrade of US credit - there is bound to be a knee-jerk response. Investors should remember the underlying US fiscal situation is in no worse shape now than it was last Friday just before Standard & Poor's announced its AA+ rating.  The action is merely a trailing indicator of a situation of which investors in the world's most analysed economy are already well aware. Indeed, since S&P put the US on downgrade alert in April - something that would have triggered a sell-off for any other country - investors in US treasuries have barely batted an eyelid. Yields on 10-year government debt have actually fallen about one-quarter.Over the medium term, investors are unlikely to rush out of US debt, the dollar, or even US equities en masse. Sure, there are other triple-A rated options, but it is unlikely that significant amounts of money will prefer the UK, France, Germany, or even Finland over the US. As a consequence, US borrowing costs are unlikely to rise materially as a result of the downgrade.

Why S.&P.'s Ratings Are Substandard and Porous - Five years ago, if you were an investor looking for guidance on which country’s debt was the safest to invest in, Standard & Poor’s ratings wouldn’t have done much to help you navigate the headwinds of the financial crisis. Investors now think that Ireland has more than a 40 percent chance of a default or debt restructuring at some point in the next five years. The country is penalized with double-digit interest rates when it wants to borrow money. But in 2006, Standard & Poor’s had Ireland’s debt rated with its top-of-the-line, AAA rating. It didn’t downgrade Ireland until March 30, 2009, long after its financial problems had become obvious, and the price to buy insurance on its debt had increased tenfold from a year earlier. Spain, which markets now posit has about a three-in-ten chance of default or restructuring, also had a AAA rating, which it maintained until January 2009. Today it still has a AA rating, one notch higher than Japan’s. Iceland, the tiny country with the oversized banking sector that came perilously close to national bankruptcy, was in 2006 rated AA+, the same rating the United States now has.

The Downgrading of a Debtor Nation - THE Treasury can cry foul all it wants, but the decision by Standard & Poor’s to downgrade America’s credit rating by one notch last Friday, and the subsequent plunge in the stock market, are serious symptoms of a loss of confidence — an assessment that is fundamentally political, not economic.  There is little question about the technical ability of America to make good on its debts — but there are grave questions about the political system’s ability to resolve our nation’s financial problems. The debt-ceiling deal between President Obama and Congressional Republicans merely staved off a crisis of confidence for the moment. It does not address our immediate need to avoid falling back into recession, or our longer-term need to raise enough revenue to pay for the social spending Americans want.

Do Congress and the White House Deserve an AA+ Rating? -There now appears to be general agreement that the downgrade issued a week ago by Standard & Poor’s² on the “Political Risks and Rising Debt Burden³” of long-term United States debt was not a statement on the probability of default on Treasury bonds at all. Instead, it appears to have been intended as a reminder that something has gone seriously wrong with the style of governance put in place by the Founding Fathers. Whether the current style of federal governance deserves the second highest grade S.&P. assigns (AA+) can, of course, be debated. I would be more inclined toward a plain B rating⁵, that is, the governance equivalent of a junk bond. Be that as it may, one manifestation of the decay in the federal style of governance has been the discovery that American voters can be pleased by providing them with a growing array of government services and financial transfers and by underwriting these with deferred taxes — that is, current deficits. In the words of Doug Elmendorf⁶, current director of the Congressional Budget Office⁷, in a presentation last year⁸, “The United States faces a fundamental disconnect between the services that people expect the government to provide, particularly the benefits for older Americans, and the tax revenues that people are willing to send to the government to finance those services.”

S&P: Debt default skeptics fueled ratings downgrade -A Standard & Poor’s director said for the first time Thursday that one reason the United States lost its triple-A credit rating was that several lawmakers expressed skepticism about the serious consequences of a credit default — a position put forth by some Republicans. Without specifically mentioning Republicans, S&P senior director Joydeep Mukherji said the stability and effectiveness of American political institutions were undermined by the fact that “people in the political arena were even talking about a potential default,” Mukherji said. “That a country even has such voices, albeit a minority, is something notable,” he added. “This kind of rhetoric is not common amongst AAA sovereigns.” The statement seems likely to bolster one Democratic line of attack, that it was tea party intransigence — not a shortcoming of leadership by President Barack Obama — that is to blame for the U.S. downgrade, from AAA to AA+. Obama himself called on Republicans to “put country ahead of party” Thursday — a dig at conservatives in Congress who are blocking his agenda.

Standard & Poor’s Cites Tea Party Resistance To Debt Ceiling Increase As Factor In Downgrade - Pushing back against the assertions of people like Michele Bachmann, who has tried to claim that the downgrading of America’s debt somehow vindicates her position that the debt ceiling never should have been raised, a Standard & Poor’s director has said that it was people like Michele Bachmann who led them to make the decision to downgrade: A Standard & Poor’s director said for the first time Thursday that one reason the United States lost its triple-A credit rating was that several lawmakers expressed skepticism about the serious consequences of a credit default — a position put forth by some Republicans. Without specifically mentioning Republicans, S&P senior director Joydeep Mukherji said the stability and effectiveness of American political institutions were undermined by the fact that “people in the political arena were even talking about a potential default,” Mukherji said. That a country even has such voices, albeit a minority, is something notable,” he added. “This kind of rhetoric is not common amongst AAA sovereigns.”

GOP on Defensive as Analysts Question Party’s Fiscal Policy - The boasts of Congressional Republicans about their cost-cutting victories are ringing hollow to some well-known economists, financial analysts and corporate leaders, including some Republicans, who are expressing increasing alarm over Washington’s new austerity and anti-tax orthodoxy. Their critiques have grown sharper since last week, when President Obama signed his deficit reduction deal with Republicans and, a few days later, when Standard & Poor’s downgraded the credit rating of the United States.S.& P. based its downgrade partly on the assumption that Bush-era tax cuts for high incomes would be extended past their 2012 expiration, “because the majority of Republicans in Congress continue to resist any measure that would raise revenues.” S.& P. said it could change its outlook to stable if the tax cuts ended. Low borrowing costs, analysts say, are more reason to bolster the economy now. “At the very least,” said Mark Zandi, Congress should renew for another year two measures that expire after 2011 — payroll tax relief for employees and extended unemployment compensation — as Mr. Obama has proposed. If either expired, Mr. Zandi said, that could shave roughly a half-percentage point from economic growth next year.

Matt Stoller: Standard & Poor’s Predatory Policy Agenda - While it’s useful to think of the ratings agencies as incompetent, or as greedy, it’s important to remember that they have an actual policy agenda. They weren’t just wrong in rating subprime tranches of toxic dreck AAA. They were also pivotal in actively creating the policies that led to the financial crisis. In the early 2000s, several states attempted to rein in an increasingly obvious predatory mortgage lending wave. These laws, pushed by consumer advocates, would have threatened the highly profitable mortgage securitization pipeline.  S&P used its power to destroy this threat. Josh Rosner and Gretchen Morgenson told the story in Reckless Endangerment. Standard & Poor’s was the most aggressive of the three agencies, however. And on January 16, 2003, four days after the Georgia General Assembly convened, it dropped a bombshell. Because of the state’s new Fair Lending Act, S&P said that it would no longer allow mortgage loans originated in Georgia to be placed in mortgage securities that it rated. Moody’s and Fitch soon followed with similar warnings.  It was a critical blow. S&P’s move meant Georgia lenders would have no access to the securitization money machine; they would either have to keep the loans they made on their own books, or sell them one by one to other institutions. In turn, they made it clear to the public that there would be fewer mortgages funded, dashing “the dream” of homeownership.

The Downgrade Doom Loop - Krugman - It’s not the whole story, but something like this threatens to develop:

• 1. US debt is downgraded, sparking demands for more ill-advised fiscal austerity
• 2. Fears that this austerity will depress the economy send stocks down
• 3. Politicians and pundits declare that worries about US solvency are the culprit, even though interest rates have actually plunged
• 4. This leads to calls for even more ill-advised austerity, which sends us back to #2

S&P Seen Surrendering to Tea Party Costing U.S. Taxpayers - Standard & Poor’s, the rating company that downgraded the debt of the United States to AA+ from AAA for the first time, now finds itself assailed by investors led by billionaire Warren Buffett for making a political decision that has more to do with Tea Party politics than the financial stability of the U.S.  S&P officials, shrugging off a $2 trillion calculation error, blamed “uncertainty” in the policymaking process on Aug. 5 when they cut the assessment of the U.S. government’s ability to pay its debt, citing Congress’s failure to agree on as much long-term deficit reduction as the credit-rating company wanted. Buffett, the world’s most successful investor, said S&P erred and the U.S. should be rated “quadruple-A.”  The New York-based subsidiary of McGraw Hill Cos., whose inflated grades of mortgage-backed investments -- paid for by the banks that created the toxic debt -- were blamed by Congressional investigators for fueling the financial crisis, rattled investors around the world and provided fodder for President Barack Obama’s rivals in the 2012 elections. Treasuries rose, the dollar gained, equity futures fell, global stock markets tumbled, oil sank and gold rallied to a record.

Mainstream Media Ignores S&P Attack On Republicans - Have you seen, anywhere, in any media, or even heard reported or repeated on NPR, the following sentence? “We have changed our assumption on this because the majority of Republicans in Congress continue to resist any measure that would raise revenues, a position we believe Congress reinforced by passing the act.” It’s right there on Page 4 of the official Standard & Poors “Research Update” – the actual report on what they did and why – published on August 5th as the explanation for why they believe Congress – and even the Gang of Twelve – will be unable to actually deal with the US debt crisis. Perhaps it’s just lazy. In order to figure out that one of the reasons why is that “Republicans in the Congress continue to resist any measure that would raise revenues,” a hard-working reporter would have to read to page four of the eight-page report.   It’s just too much effort for most reporters?

Standard and Poors versus Mitch McConnell - Putting aside the question of whether we should accord any credibility to Standard and Poors’ downgrade, it’s hard to see how conservatives can claim S & P’s report as a political victory when it says this: The political brinksmanship of recent months highlights what we see as America’s governance and policymaking becoming less stable, less effective, and less predictable than what we previously believed. The statutory debt ceiling and the threat of default have become political bargaining chips in the debate over fiscal policy.  In other words, S&P explicitly cites the use of the threat of default as leverage for policy ends as a sign that American governance is becoming dangerously unstable and unpredictable. But folks, Mitch McConnell has repeatedly said that use of default this way is a good thing. McConnell said this: “I think some of our members may have thought the default issue was a hostage you might take a chance at shooting. Most of us didn’t think that. What we did learn is this -- it’s a hostage that’s worth ransoming. And it focuses the Congress on something that must be done.”

Moody's says U.S. needs to find more deficit cuts -(Reuters) - Ratings agency Moody's repeated a warning on Monday it could downgrade the United States before 2013 if the fiscal or economic outlook weakens significantly, but said it saw the potential for a new debt agreement in Washington to cut the budget deficit before then. Moody's said in a statement its own decision to affirm the AAA rating on August 2 was on the condition that further cuts were found. "For the Aaa rating to remain in place, we would look for further measures that would result in the ratio of federal government debt to GDP, for example, peaking not far above the projected 2012 level of near 75 percent by the middle of the decade and then declining over the longer term," Moody's analyst Steven Hess wrote in a report. "Last week's agreement suggests that coming to an agreement that would meet this criterion by early 2013 will be challenging, given the political polarization, but not necessarily impossible."

Discretionary Spending Under the Budget Control Act of 2011 CBO Director's Blog - Last week the President signed into law the Budget Control Act of 2011, which establishes caps on discretionary spending through 2021. This blog post provides some background information about discretionary spending and a brief description of the new caps and how they will be enforced. Discretionary spending is the part of federal spending that lawmakers control through annual appropriation acts. Mandatory spending, in contrast, occurs each year without such legislation; Discretionary spending totaled more than $1.3 trillion in 2010, or nearly 40 percent of federal outlays. Just over half of that discretionary spending ($689 billion) was for defense programs. The rest ($660 billion in 2010) paid for an array of nondefense activities. Seven broad budget categories accounted for more than 75 percent of the spending for nondefense discretionary activities last year. The largest of those is the category covering education, training, employment, and social services; it is followed in size by the categories for transportation, income security programs (mostly housing), and health-related research and public health. Categories with smaller amounts of discretionary spending include administration of justice (mostly for law enforcement activities), veterans’ benefits and services (mostly for health care), and international affairs.

What the Stock Market Plunge Means for a Deficit Agreement - In some parallel universe, Congress and President Obama would respond to the stock market tumble, the S&P ratings downgrade, and growing public disgust at their toxic inaction on fiscal policy in a simple way: They’d agree on the broad deficit reduction plan they could not settle on last month. The plan would include some short-term stimulus to get the economy through its current rough patch and a mix of broad reforms in entitlements and the tax code that would reduce future projected spending and boost revenues. Instead of sending reliably intransigent mouthpieces to sit on the fiscal super committee that was created by the debt limit agreement, the congressional leadership would use the panel as a mechanism to reach a sensible agreement. The odds of this happening remain, sadly, vanishingly small.

US Employment-Population Ratio Hits a New Low: Why It Matters for the Budget Debate - By and large, U.S. media have spun the July employment report as more positive than negative. The 117,000 new payroll jobs created last month and the upward revisions for May and June were a relief after two months of very bad data. The downtick in the unemployment rate, although slight, was also welcome. One indicator that rarely makes the headlines told a different story, however. The employment-population ratio fell to a new low of 58.1 percent. What does it mean? Why should we care? We should care, because the sinking employment-population ratio has big implications for the budget debate. The cuts-only faction of budget balancers are demanding a cap on federal government spending at 18% of GDP. They tout that as a level we lived with happily in the past, and should therefore be happy to live with in the future. The trouble is, the future isn't going to be like the past. The smaller the fraction of the population that is working, the harder it becomes to put the country's fiscal affairs in order. That becomes even clearer if we take a closer look at the reasons the ratio is falling.

America’s debt is not its biggest problem - Washington has been operating the past few months under the assumption that the United States and our euro-zone economic trading partners are experiencing a debt crisis that must be resolved by exorcising excessive spending in the near term. To Republicans, and even many co-opted Democrats, the debate starts with spending cuts and how much must be done to appease voters and the markets, both now and in November, when the “Gang of Twelve” committee that resulted from the debt-ceiling deal potentially follows through with its mandate.  Revenue increases may be part of the solution, but even then, at some imbalanced ratio of spending cuts — such as three or four dollars of spending cuts to one dollar of tax hikes — the thesis assumes that markets and economic growth require what in essence is a fiscally contractionary step, reminiscent of International Monetary Fund policies in emerging markets during past decades. We must, the consensus goes, become like Argentina, Brazil and Mexico from the 1980s: Tighten the budget via spending cuts, reduce the deficit and voilá — economic growth will blossom. But while our debt crisis is real and promises to grow to Frankenstein proportions in future years, debt is not the disease — it is a symptom. Lack of aggregate demand or, to put it simply, insufficient consumption and investment is the disease.

Origins of the debt showdown - “I’m asking you to look at a potential increase in the debt limit as a leverage moment when the White House and President Obama will have to deal with us,” said Cantor, one of several new House leaders who detailed the game plan for the coming months. “Either we stick together and demonstrate that we’re a team that will fight for and stand by our principles, or we will lose that leverage.” The frantic showdown that followed, bringing the nation to the brink of default, looked like the haphazard escalation of a typical partisan standoff. It wasn’t. It was the natural outgrowth of a years-long effort by GOP recruiters to build a new majority and reverse the party’s fortunes. That effort began before the economy collapsed in 2008, before the government bailouts that followed, before the tea party rose in response to push its anti-tax, anti-spending message.  

McConnell Calls For "Significant Entitlement Reforms" After S&P Downgrade: Senate Minority Leader Mitch McConnell (R-KY) called for 'significant entitlement reforms' Monday in a speech to Kentucky business leaders, the Associated Press reports. As all eyes turn toward the 'Super Committee' tasked with making $1.5 trillion in cuts to the federal deficit, McConnell said Medicare and Social Security 'are clearly on an unsustainable path.' He added that he wants the bipartisan group 'to come back with a wholly significant entitlement reform.' Democrats have said the only way they would back changes to the social safety-nets would be if Republicans agreed to revenue increases — a measure opposed by GOP lawmakers." 

Dylan Ratigan rages against ‘bought’ Congress on MSNBC - MSNBC host Dylan Ratigan angrily ranted Tuesday on MSNBC against economic proposals by both Democrats and Republicans, which he described as “reckless, irresponsible and stupid.” He said he was tired of Republicans and Democrats, because Republicans “want to burn the place to the ground” and Democrats only care about their reelection, even if it means “screwing” Americans. “Tens of trillions of dollars are being extracted from the United States of America. Democrats aren’t doing it, Republicans aren’t doing it. An entire integrated system, financial system, trading system taxing system, created by both parties over a period of two decades, is at work on our entire country right now.”Ratigan said President Barack Obama should not work with Congress. Instead, he should tell Americans that “their Congress is bought” and incapable of making legislation because they fear losing political funding. Watch video, courtesy of MSBNC, below:

Obama Sides With Panetta On Need To Cut Medicare Over Defense - Last week, Congressional Democrats were blindsided by newly-confirmed Defense Secretary Leon Panetta, who basically nixed any further cuts to military spending, and demanded that lawmakers trim from programs like Medicare and raise taxes to reduce future deficits.  Soon a new deficit Super Committee will begin debating tax and entitlement reform, and the penalty if they gridlock includes steep defense cuts. Republicans are expected to seize on Panetta's remarks to push for another deficit deal that comes exclusively from entitlement cuts. So Rep. Barney Frank (D-MA) called on President Obama to repudiate Panetta.  Obama did precisely the opposite in his White House speech Monday. "Our challenge is the need to tackle our deficits over the long term last week we reached an historic agreement -- reached an agreement that weill make historic cuts to defense and domestic spending," Obama said. "But there's not much further that we can cut in either of those categories. What we need to do now is combine those spending cuts with two additional steps: tax reform that will ask those who can afford it to pay their fair share and modest adjustments to health care programs like Medicare."

An excuse for slashing entitlements - Let’s note, at the start, that this downgrade was absurd. The credit rating of the United States is not in jeopardy. The U.S. government prints dollars — it can no more run out of dollars than a bowling alley can run out of pins. What’s really happening is an attempt by both parties to justify slashing Social Security and Medicare. Republicans have long wanted to roll back the New Deal. What is relatively new is that a Democratic president is now dead set on cutting these programs as well. President Barack Obama, in his speech Monday about the downgrade, used the market turmoil as an excuse to do just that. After a debt ceiling deal in which the Democrats argued that defense spending cuts — not entitlement cuts — could close the long-term deficit, Obama said Monday that there’s “not much further” he can trim defense. Despite the fact that defense spending has gone up on his watch. Instead, Obama said, we need cuts in social spending, or, as he phrased it, “modest adjustments to health care programs like Medicare.” In effect, there seems to have been a merger of both parties into a single force advocating for the interests of bondholders and the cutting of Medicare and Social Security. It’s why both Republicans and Democrats are now blaming each other for the downgrade — as though the downgrade were to be taken seriously.

The Tea Party’s Modest Proposal - Simon Johnson - America’s Tea Party has a simple fiscal message: the United States is broke. This is factually incorrect – US government securities remain one of the safest investments in the world – but the claim serves the purpose of dramatizing the federal budget and creating a great deal of hysteria around America’s current debt levels. This then produces the fervent belief that government spending must be cut radically, and now. There are legitimate fiscal issues that demand serious discussion, including how to control growth in health-care spending and how best to structure tax reform. But the Tea Party faction of the Republican Party cares more about small government than anything else: its members insist, above all, that federal tax revenue never be permitted to exceed 18% of GDP. Their historical antecedent is America’s anti-revenue Whiskey Rebellion in 1794, not the original anti-British, pro-representation Boston Tea Party in 1773.Most importantly, their tactics have proven massively destructive of wealth in the US. Since the prolonged showdown over the budget began earlier this year, the stock market has lost about 20% of its value (roughly $10 trillion). In effect, the Tea Party is working hard to reduce publicly funded social benefits – including pensions and Medicare – even as its methods dramatically reduce the value of private wealth now and in the future.

An Experiment in Austerity - One reason that economics is not a true science is that economists can’t really perform experiments in which certain details are altered to see if they change the results and in what way.  But once in a while economists get to observe a natural experiment where policy is changed in a way that allows a theory to be tested by real-world results. We are about to run just such an experiment by tightening fiscal policy and cutting spending significantly below baseline projections at a time when the economy is weak. As I pointed out in a July 12 post, we performed this experiment once before, in 1937. The budget deficit was sharply reduced and a recession immediately followed. Since the beginning of our recent economic woes, there has been a theoretical debate among economists about the proper governmental response. I think it is reasonable to say that most supported the idea of fiscal stimulus in principle, although there certainly were different opinions about the size and structure of the February 2009 Recovery Act. Conservatives lost the first round, but have launched a counterattack.

Why the President Doesn’t Present a Bold Plan to Create Jobs and Jumpstart the Economy, by Robert Reich:  Even though the President’s two former top economic advisors (Larry Summers and Christy Roemer) have called for a major fiscal boost to the economy, the President has remained mum. Why? ’m told White House political operatives are against a bold jobs plan. They believe the only jobs plan that could get through Congress would be so watered down as to have almost no impact by Election Day. They also worry the public wouldn’t understand how more government spending in the near term can be consistent with long-term deficit reduction. And they fear Republicans would use any such initiative to further bash Obama as a big spender. So rather than fight for a bold jobs plan, the White House has apparently decided it’s politically wiser to continue fighting about the deficit. The idea is to keep the public focused on the deficit drama – to convince them their current economic woes have something to do with it, decry Washington’s paralysis over fixing it, and then claim victory over whatever outcome emerges from the process recently negotiated to fix it. They hope all this will distract the public’s attention from the President’s failure to do anything about continuing high unemployment and economic anemia.

The Self-Justification Trap - Krugman - Brad DeLong has an upsetting post about thinking within the Obama administration. I don’t know if it’s right, but it feels right. As Brad tells it, So the only strong policy views in the administration’s internal debate mix right now are those of people who were wrong in the summer of 2009. And when I talk to their staffs, the message I hear is not “we were wrong about how the world works, and are rethinking the issues from the ground up to figure out what to do” but instead “we were unlucky: our policies were good”. Worse, what Brad suggests — and it’s my impression, too — is that policy formation is being seriously distorted by unwillingness to acknowledge past error. People who opposed stronger action in the past continue to oppose strong action now, in part because that would be admitting, at least implicitly, that they were wrong before. The stimulus was the right size; the HAMP program was the best that could be done; it would have been irresponsible to take action on China; and so we must stay the course, never mind the unemployment rate. Of course, this applies to matters non-economic as well, as witness Obama’s continuing and increasingly bizarre efforts to transcend partisanship.

Dismal Thoughts - Krugman - To be an economist of my stripe these days — basically a Keynes-via-Hicks type, who concluded as soon as Lehman fell that we were in a classic liquidity trap with all that implied — is a bittersweet experience, with the bitter vastly greater than the sweet.The bad news is that policy makers almost everywhere have failed dismally, and seem determined not to take on board the lessons of experience, either historical or what we’ve learned the past few years.  Robert Reich, talking to people in the administration, says that there has been a deliberate decision to focus on the wrong issues, knowing that they’re the wrong issues:  And in Europe, says Kantoos Economics, a low inflation target has become a sacred icon even though all evidence – including the experience under the gold standard! — says that this will be fatal: I’m still trying to make sense of this global intellectual failure. But the results are not in question: we are making a total mess of a solvable problem, with consequences that will haunt us for decades to come.

Utter Wrongness - Krugman - What does it take for a media outlet to be permanently disbarred from making economic commentary? But here’s the thing: it wasn’t just the WSJ. Pundits, Very Serious Politicians, and more have spent the past two years plus doing everything they can to make the deficit the center of public discourse, to focus all our fears on the attack by bond vigilantes that was supposedly just over the horizon. And now it turns out that what really terrifies the markets, let alone the suffering unemployed, is the prospect of a second Great Depression — a prospect that has become much more likely thanks to the utter wrongness of elite policy priorities. Great work, guys.

America, you are being told to tough it out - The stock market wildly swings from day to day. S & P downgrades U.S. bonds. Confidence in our political system understandably falters after the manufactured debt ceiling debacle. What are we to make of all this. On cue, the deficit hawks see this as further evidence of the need to ratchet up efforts to address our long-term deficits. The Committee for a Responsible Federal Budget, for instance, claims “Policymakers need to heed this warning and enact more aggressive deficit reduction that results in stabilizing the debt.” This is exceedingly misguided. The issue at hand is the need for stronger growth, both here and in Europe. The only plausible economic reason to take action about deficits that are five, ten, fifteen or twenty years away is if it gave us more room in the next few years to have greater government spending to fuel job growth while having higher deficits. That’s not what CRFB or others have in mind and we should resist any efforts to reduce deficits in the near-term which will only serve to slow growth and raise unemployment further.

The Hijacked Crisis, by Paul Krugman - For more than a year and a half — ever since President Obama chose to make deficits, not jobs, the central focus of the 2010 State of the Union address — we’ve had a public conversation that has been dominated by budget concerns, while almost ignoring unemployment. The supposedly urgent need to reduce deficits has so dominated the discourse that on Monday, in the midst of a market panic, Mr. Obama devoted most of his remarks to the deficit rather than to the clear and present danger of renewed recession.  What made this so bizarre was the fact that markets were signaling, as clearly as anyone could ask, that unemployment rather than deficits is our biggest problem. Bear in mind that deficit hawks have been warning for years that interest rates on U.S. government debt would soar any day now; the threat from the bond market was supposed to be the reason that we must slash the deficit now now now. But that threat keeps not materializing. And, this week, on the heels of a downgrade that was supposed to scare bond investors, those interest rates actually plunged to record lows. What the market was saying — almost shouting — was, “We’re not worried about the deficit! We’re worried about the weak economy!”

Krugman #FAIL: Wrong on MMT, again - America's favorite Nobelist writes: Regular readers of comments will notice a continual stream of criticism from MMT (modern monetary theory) types, who insist* that deficits are never a problem as long as you have your own currency. Wrong. Even the blog that everybody hates and nobody reads knows this is wrong. "Printing money" through deficits is "never a problem" as long as you have your own currency and the economy is running below capacity, the crucial qualifier Krugman leaves out.And if there is a problem? Well, money is created for public purpose, and so you let the -- presumably democratic -- political process sort the problem out, with transparency and accountability. Unlike the present system, where money is used for private purpose, by the banksters, in a completely undemocratic political process, with no transparency or accountability at all.

Completing the Theft from the Social Security Trust Fund - The Catfood Commission rump report made it crystal clear that the political and financial elites have no intention of ever paying off the bonds held by the Social Security Trust Fund. You thought you were paying excess FICA taxes so that there would be enough money to pay your Social Security in your retirement, but that was never the intention. The intention was to raise your taxes and cut taxes on the rich. They try to hide this fact behind a barrage of numbers, and shouting flacks, but occasionally, the truth unintentionally leaks out, as here: Unless the program can be made to pay for itself, Congress would have to appropriate more than $13 trillion over the next 75 years to make up the shortfall, according to the Brookings Institution. Of course the program can be made to pay for itself, out of those bonds in the Social Security Trust fund, and with taxes if that becomes necessary in 2037. What kind of idiot is making financial plans for 2037? Our political and financial elites, that’s who, if you can call stealing a plan. They don’t want to pay off those bonds. They want to raise taxes on working people so they will never have to pay off those bonds.

The Real Problem with the Congressional 'Super-Committee'… Yesterday Harry Reid announced his picks¹ for the Congressional debt-reduction “super-committee”: Senators Max Baucus, John Kerry and Patty Murray. At first glance, Kerry and Murray have been reliably liberal votes within the Democratic caucus, while Baucus is viewed with grave suspicion by progressive Democrats.  Yet, paradoxically, Kerry and Murray could be more problematic than Baucus on the super-committee. Both Kerry and Murray signed a letter in March calling for a “grand bargain⁴” deal, modeled after the Bowles-Simpson Commission, that would include “discretionary spending cuts, entitlement changes and tax reform.” Kerry has continued to advocate for such a grand bargain, most recently on Meet the Press⁵, and both he and Murray represent states with major defense interests, which makes it unlikely they’ll vote to significantly curb defense spending. As chair of the DSCC, Murray is also responsible for raising buckets of money from corporate America and embarrassingly solicited campaign cash in June from the Koch brothers⁶.

Supercommittee members: Experience required- interactive photos - House Minority Leader Nancy Pelosi on Thursday filled out the final three slots on the joint deficit committee by selecting three members of her leadership team. The 12-member panel must turn in its recommendations for $1.5 trillion in additional spending cuts by Thanksgiving or risk pulling an automatic trigger for deep reductions to federal agencies and defense programs.> All but two of the panel members voted for the debt-ceiling deal that rescued the country from the brink of default, which suggests at least the possibility that the panel can reach a bipartisan agreement.

Debt Panel: Party Leaders Still Hold Sway - Now that the lineup of the deficit-cutting super committee is complete, what stands out is how much the panel is a creature of the party leaders. The 12 committee members are not likely to break from their leadership in any significant way, and can be expected to consult them frequently. This means the calculations of, say, House Speaker John Boehner (R., Ohio) and Senate Majority Leader Harry Reid (D., Nev.) on the shape of a deal may be as important as the internal dynamics of the committee itself. It also means the most important question may be whether Messrs. Boehner and Reid—along with Senate Minority Leader Mitch McConnell (R., Ky.) and House Minority Leader Nancy Pelosi (D., Calif.)—feel political pressure to reach an agreement. Of course, no one expected the leaders to appoint lawmakers likely to cross them. But they pointedly avoided anyone with a history of going his own way to forge deficit deals, notably the “Gang of Six” senators, none of whom was appointed.

All Signs Are That Deficit Reduction Committee Will Accomplish Nothing - Maya MacGuineas, who heads the Committee for a Responsible Federal Budget, is one of the smartest budget people I know.  So when Maya says (at least, as I've been told she has said) that the membership of the Joint Select Committee on Deficit Reduction is in a great position to sell a comprehensive deficit reduction plan that includes revenue increases as well as Medicare, Medicaid, and Social Security reductions because -- in a Nixon-goes--to-China-like situation -- it will have the political credibility to sell the plan, I listen. But there's one very basic flaw in Maya's thinking: Being able to sell a plan to other Republicans and Democrats first requires that the committee agree on a plan and all the signs say no way/no how/ain't gonna happen. All of those selected to serve on the committee are coming to the deliberations with  uncompromisable positions on the issues that need to be compromised if the deliberations are to be successful.

Budget Battles Ahead - Now that the early August debt-ceiling issue is out of the way, everyone should understand that the country is only temporarily saved from continuing bitter controversy over budget issues. We will likely see impasse after impasse in the future. Moreover, the controversy and economic uncertainty may well be affecting the economy, leading to market fears of renewed recession. Why did we go to the budget brink? Democrats assert, correctly, that Tea Party Republicans held the country hostage over the debt ceiling. However, as I noted in my previous commentary, it might be equally argued that President Obama was holding the country hostage over his demand that taxes be increased as part of the deal. Republicans and Democrats have competing views and each party is willing to go to the brink if it believes that it can prevail by bringing popular support to bear.

Decade of Fiscal Stimulus Yields Nothing but Debt - When George W. Bush took up residence in the White House in January 2001, total U.S. debt stood at $5.95 trillion. Last week it was $14.3 trillion, with $2.4 trillion freshly authorized by Congress Tuesday.  Ten years and $8.35 trillion later, what do we have to show for this decade of deficit spending? A glut of unoccupied homes, unemployment exceeding 9 percent, a stalled economy and a huge mountain of debt. Real gross domestic product growth averaged 1.6 percent from the first quarter of 2001 through the second quarter of 2011.  It doesn’t sound like a very good trade-off. And now Keynesians are whining about discretionary spending cuts of $21 billion next year? That’s one-half of one percent. And it qualifies as a “cut” only in the fanciful world of government accounting. The Budget Control Act of 2011 will save $917 billion over 10 years relative to the Congressional Budget Office’s baseline. It leaves the tough work to a bipartisan congressional committee of 12, to be appointed by the leadership in each house. If this supercommittee fails to agree on a minimum of $1.2 trillion of additional savings over 10 years, automatic spending cuts -- evenly divided between defense and nondefense -- will kick in.

To Cut the Debt, Create Jobs - Our employment problem is one of the main factors contributing to a sizeable government deficit and growing public debt. For all those who think that government has expanded wildly during the recession as a result of the fiscal stimulus, think again. The chart above shows that of the 7.3 million jobs lost since November 2007, 300,000 of those were lost in the government sector; more specifically in local government, which accounts for about 64% of the employment in the government sector. Local governments have to run a balanced budget, and when a recession hits and their tax receipts decline, they have to cut expenses—which means fewer jobs. If the federal government were to embrace similar balanced-budget policies, its ability to support a struggling economy would be severely curtailed.  It would not only be unable to create jobs directly; it would struggle to even maintain its existing workforce.

Peter Diamond on the job crisis, the deficit and what Congress and the Fed can do - Ezra Klein - MIT economist Peter Diamond has had a tumultuous few years. In April of 2010, Barack Obama nominated him to serve on the Federal Reserve’s Board of Governors. Republicans blocked his nomination. Then, in October of 2010, he won the Nobel prize in economics. Republicans continued blocking his nomination. In June of 2011, he finally withdrew his name from consideration. It turns out that even a Nobel prize isn’t enough to convince the Senate to give you a role in economic policymaking anymore. But Diamond’s particular areas of expertise -- labor markets and pension programs, notably -- are unusually salient right now. I reached him at his home in New Hampshire to get his take on the continuing economic crisis:

Begging for Change - When the Federal Reserve Board promised yesterday to keep interest rates near zero until the middle of 2013, it was a sign that its view of the economic recovery is as dire as the mood on Wall Street is dour. After days of seeing the stock market waver between low and very low, and months of seeing even the best jobs reports show that the labor market isn’t adding enough jobs to keep up with population growth, its hard to imagine there’s any way to steer us from doom. But President Barack Obama actually has tools at his disposal, and could work to stimulate the real economy; the one that puts money in people’s pockets. Here, the Prospect has asked experts to weigh in with policy advice for the president. The discussion will continue through the week, so come back regularly for updates.

A tale of two countries - In China it is among the best of times, in America it is among the worst of times, the age of wisdom in one country, the age of foolishness in the other when it comes to taxes and economic growth. Here is some news about the idea that the path to prosperity is paved with lower taxes and reduced government spending. In China, tax revenues since 2003 have grown a fifth faster than the booming economy. In America, tax revenues are growing a quarter slower than the sputtering economy. The result is that tax revenues are up 22 percent as a share of the Chinese economy, but down 7 percent as a share of the American economy. In China, jobs are everywhere. In America, joblessness is everywhere. There is a lesson here and it goes to the heart of why America, stuck for a decade in the economic doldrums, risks foundering on the shoals of economic ruin not because it taxes too much, but because it has adopted unsound and profoundly anti-market economic rules while Communist-led China sails into the future ever more prosperous even though its tax burdens are rising. While China sees growth and taxes as circulatory economics each needing the other, America imagines taxes as bleeding the economy.

The S&P Downgrade and Tax Revenue Increases (or lack thereof) - There is plenty of commentary on the S&P decision, including S&P's difficulties with math, but I do find of salience this part of the release: Our opinion is that elected officials remain wary of tackling the structural issues required to effectively address the rising U.S. public debt burden in a manner consistent with a 'AAA' rating and with 'AAA' rated sovereign peers......Compared with previous projections, our revised base case scenario now assumes that the 2001 and 2003 tax cuts, due to expire by the end of 2012, remain in place. We have changed our assumption on this because the majority of Republicans in Congress continue to resist any measure that would raise revenues, a position we believe Congress reinforced by passing the act....

S&P Does Not Believe The Bush Tax Cuts Will Get Lifted In 2012: A very interesting line in S&P's full report (.pdf) wherein it downgraded the sovereign debt of the US from AAA to AA+. Compared with previous projections, our revised base case scenario now assumes that the 2001 and 2003 tax cuts, due to expire by the end of 2012, remain in place. We have changed our assumption on this because the majority of Republicans in Congress continue to resist any measure that would raise revenues, a position we believe Congress reinforced by passing the act. First, it's interesting (and correct) that that the GOP is rigidly anti-revenue, and would resist any measure that would raise revenue. That being said, as S&P itself notes, the tax cuts are due to expire, meaning no measure is needed to get rid of them. They'll just go away. Still, you have to wonder if Obama will end up agreeing to some kind of deal whereby the tax cuts stay in exchange for, say, a payroll tax cut or an unemployment insurance extension.

IRS: 1,470 millionaires paid no income tax in ’09 -Not the best day to report this, but the IRS says 1,470 millionaires paid no federal income taxes in 2009. Where did the money go? Tax "expenditures" (otherwise known as deductions, write-offs, subsidies or loopholes), charities, municipal bonds and tax payments to foreign governments, according to a recent IRS report (pdf) that ABC News noticed over the weekend and that the Los Angeles Times picked up today. More than 235,000 taxpayers earned $1 million or more in '09, with 8,274 making more than $10 million, the Internal Revenue Service said. All told, there were 140 million taxpayers. The nonpartisan Tax Policy Center reported last month that 46% of American households (known as "units") actually will not pay federal income taxes for this year nor will receive refunds. That's because of low incomes, credits for children or other dependents, or exemptions. Read that report here. Meanwhile, the IRS today issued a "reminder" to "U.S. taxpayers hiding income in undisclosed offshore account": All of you sneaky people are "running out of time to take advantage of a soon-to-expire opportunity to come forward and get their taxes current." The deadline is Aug. 31.

Defining Economic Interest -Republican resistance to raising taxes represents a distinctly minority view. The latest New York Times/CBS poll shows that only 34 percent of adults believe that taxes should not be increased on households earning $250,000 or more to lower the budget deficit. Even this modest percentage surprises me, because only about 2 percent of American households report income above this amount. Most conservative economists argue that higher tax rates at the top would hurt everyone because they would lower economic growth. I don’t buy this argument for a variety of reasons that I’ve explained elsewhere. However, the argument seems pretty easy to sell. People don’t always recognize and effectively act on their economic interests. As one of my favorite behavioral economists, Dan Ariely, put it, we are all more like Homer Simpson than Superman. I’ve always identified more with Marge Simpson than with Homer, but in any case, if the Simpsons don’t act on what we believe are their economic interests, economists should be able to explain why. Reaching for a better understanding of the Tea Party seems like a good place to start, since it gets much of the credit or blame for current Republican priorities.

Poll: Majority wants super committee to tax the rich - Republicans appointed to a congressional deficit panel will have to buck public opinion if they intend to block tax hikes on the rich. A CNN poll (PDF) released Wednesday found that a majority of Americans want Congress to compromise by raising taxes on the rich and cutting government spending. In all, 62 percent believed that "[t]axes on wealthy people should be kept high so the government can use their money for programs to help lower-income people." Only 34 percent believed that taxes on the rich should be "kept low because they invest their money in the private sector and that helps the economy and creates jobs." Sixty-three percent said they would like to see higher taxes on businesses and higher-income Americans, while 36 percent disagreed. Major cuts in spending and domestic programs should also be part of a compromise, according to 57 percent of those polled.

Republicans’ No-Tax Stand Unsupported by History or Facts: View (Bloomberg editorial) You would think that abysmal growth and jobs data, the first-ever downgrade of U.S. debt and heart- stopping gyrations in the financial markets would impel political leaders to at least take a second look at some of their assumptions about restoring confidence in the U.S. economy.  Sadly, you would be mistaken.  President Barack Obama called again this week for a deficit-reduction plan that includes both new revenue and spending cuts, a solution that he said would require “common sense and compromise.” Alas, we have seen little of either quality from Speaker John Boehner and the House majority leader, Eric Cantor. The Republican leaders reiterated their determination to oppose any solution to the U.S. fiscal mess that involves revenue increases.  Whatever one thinks of the validity of Standard & Poor’s decision to downgrade U.S. debt, it contained an admonition that we should take seriously: Spending cuts alone won’t be sufficient to place the debt, and by extension, the economy, on a sustainable path.

23 Polls Say People Support Higher Taxes to Reduce the Deficit (list of results)

Why the Reagan Tax Cut Worked in 1981 and Why It Wouldn’t Work Today - Thirty years ago today, Ronald Reagan signed into law the Economic Recovery Tax Act of 1981. It remains controversial, with Democrats blaming it for undermining the nation’s finances and contributing to the maldistribution of income, while Republicans assert that the Reagan tax cut was so stimulative it actually lost no revenue and that its reprise is just what the economy needs today. The truth is that the Reagan tax cut never came close to paying for itself, but neither was it expected to lose as much revenue as it did. And while it was highly stimulative, that is only because the economic and financial circumstances of the time made it so. Reenacting some version of the Reagan tax cut under today’s economic conditions would not bring about similar results. It’s important to remember that inflation was the central economic problem at the time Reagan endorsed the tax plan that  proposed cutting the top income tax rate from 70 percent to 50 percent and the bottom rate from 14 percent to 10 percent.

How Congress Can Cap Tax Breaks - Sooner or later, Congress will realize it needs new revenues to help balance the budget, and trimming tax subsidies is the way to get them.  But will it tackle individual preferences, such as the mortgage interest deduction, one at a time? Or, will it try to limit the political bloodshed and go after these tax breaks across-the board? The Tax Policy Center has looked at three ways to limit the benefit of tax subsidies for high-income households. Each would raise billions in new revenues—money that could be used to both reduce the deficit and cut tax rates. And each would be quite progressive. However, they’d work very differently. The first is the Obama Administration’s proposal to cap the value of itemized deductions at 28 percent. The second, called the Effective Minimum Tax, would require high income households to pay a rate of at least 21 percent on their Adjusted Gross Income (AGI) plus municipal bond income. The third is a modified version of a plan offered by Marty Feldstein, Dan Feenberg, and Maya MacGuineas that would limit the value of deductions and credits to 2 percent of AGI. Let’s take a look at each of them.

IRS Buckled To GOP Pressure On Secret Donations, Lawyer Says - The Internal Revenue Service succumbed to pressure from Republican members of Congress last month when it suddenly shut down its examinations into whether five large donors had violated the law by not declaring their contributions to political 501(c)(4) groups as gifts, a lawyer representing progressive donors alleged Monday.  The IRS initially defended the examinations after their existence was made public, saying they had been initiated by career civil servants, and were not political in nature.  But noting the historic lack of enforcement of the provision, six Republican members of the Senate Budget Committee, led by Sen. Orrin Hatch (R-Utah), and House Ways and Means Committee Chairman Dave Camp (R-Mich.), accused the IRS of pursuing a Democratic political vendetta. And on July 7, the IRS shut everything down until further notice. The five donors have never been identified.

It's the Unfunded Wars and the Financial Fraud, and the Unwillingness to Reform - Social Security is being strangled by the refusal to raise the income limit on the Social Security withholding tax in response to the gradual creep of inflation. If this limit was raised periodically the Social Security 'problem' would be resolved. Medicare and in particular the drug portions of the program added by the Bush II administration are driving costs much higher. Big Pharma in the US is a powerful lobbying force, and Americans pay MUCH higher costs per benefit for their health care services. T. But Social Security and Medicare, without the drug program, have not substantially changed since the 1990's, when the US was running a budget surplus, and then Fed Chairman Greenspan was reassuring the public that the Fed had a plan to deal with the lack of debt. So what changed? The repeal of Glass-Steagall and the growth of unregulated financial products, the co-opting of the regulatory agencies, the growth of corporate influence in Washington, and two unfunded and very costly wars of long duration, founded largely on lies and distortions following a despicable terror attack by a small group of people, coupled with tax cuts for the wealthy. There is relatively little discussion, much less investigation, indictments and convictions, from one of the largest financial frauds in history.

Prattle and Prejudice - Paul Krugman - Via Mark Thoma, David Glasner marvels at an utterly incoherent op-ed by David Malpass in the WSJ. The fact that the Journal even invites Malpass to write says volumes: this is, after all, the guy who insisted that American savings were plenty high because of all those capital gains on housing. But what’s really interesting, as Glasner notes, is the incoherence. And this is an issue that goes beyond the woeful Malpass; it pervades the WSJ in general, and is broadly visible in much conservative economic writing, including the academic side.. Still, supply-side economics had a point of sorts. But can you discern any model in what Malpass wrote, or for that matter in almost anything on the WSJ editorial page? I can’t. All I see is a bunch of prejudices, strung together with some vaguely economistic-sounding phrases, something like someone talking gibberish that sort of sounds like Swedish. In the world according to the WSJ, low taxes are good (unless the people involved are low income lucky duckies), regulation bad, low inflation good, low interest rates bad, strong dollar good — and don’t ask why.

A new paper on the shadow banking system - If you’ve read Gorton, this is the next step, by Zoltan Pozsar.  It emphasizes demand-side motives, from large corporate and financial cash holders, for finding something safer than deposits, given the cap on the FDIC guarantee.  Here is one bottom line:…if institutional cash pools continue to rely on banks as their credit and liquidity put providers of last resort, the secular rise of uninsured institutional cash pools relative to the size of insured deposits is going to make the U.S. financial system increasingly run-prone, not unlike it used to be prior to the creation of the Federal Reserve and the FDIC…Another bottom line, my interpretation rather than any direct claim of the author, is that financialization of the economy, combined with some stagnation on the real side, may have led to permanently low rates on T-Bills, given their value as collateral.  Maybe that is what low rates of interest are telling us.

Senate to probe S&P downgrade - A top US congressional committee is scrutinizing Standard & Poor’s decision to lower the country’s credit score, in a sign of escalating political heat on the rating agency. A Democratic aide in Congress told the Financial Times that the Senate banking committee was “looking into the issue and gathering more information. All options remain on the table”. Tim Johnson, the South Dakota Democrat and chairman of the Senate banking committee, on Monday dubbed the S&P downgrade of US debt “irresponsible”, saying it could have “spillover effects” that would tax Americans by increasing interest rates.  “I am deeply disappointed in S&P’s decision to enter into the game of political punditry,” Mr Johnson said.  S&P declined to comment. The move by the committee could lead to a hearing in Congress, with S&P officials involved in the US sovereign rating decision called to testify before lawmakers. Documents related to the downgrade could also be made public as a result of the congressional scrutiny. However, it remained unclear at this early stage how far the examination on Capitol Hill will go.

Did Standard and Poor’s Break SEC Regulations in Disclosing Its Downgrade to Select Parties? - Yves Smith - The Administration and its allies have gone after Standard and Poor’s for its downgrade of the US bond rating to AA+. They have attacked S&P’s general competence, its failure to reexamine its decision in the light of a $2 trillion math error (a Wall Street Journal story does not reflect well on S&P’s haste) and the subjective and political basis for its judgment. Even if these attacks have merit, however, they come off as being less than convincing by virtue of sounding like sour grapes. There is a much more straightforward basis for questioning S&P’s conduct, and it has nothing to do with how S&P arrived at its rating. There is compelling evidence that the ratings agency made selective disclosure of its downgrade decision before it made it public last Friday evening. A reader told us certain hedge funds were informed Tuesday and traded successfully on the information. A separate source had told me certain banks were briefed on Thursday and were told of the US downgrade but assured their ratings would be unaffected. On Friday morning, Twitter was alight with the news. Disclosing news of a ratings decision is required under SEC rules to be made publicly. All the discussion with favored parties is clear regulatory violation. Here is the germane section: § 240.17g-4 Prevention of misuse of material nonpublic information.

Did S&P Leak Ratings Downgrade? - Fox Business video

S&P balks at SEC proposal to reveal rating errors (Reuters) - Standard & Poor's, whose unprecedented downgrade of U.S. debt triggered a worldwide stocks sell-off, is pushing back against a U.S. government proposal that would require credit raters to disclose "significant errors" in how they calculate their ratings. S&P, which was accused by the Obama administration of making an error in its calculations leading to Friday's downgrade, raised concern about the proposed new corrections policy and other issues in an 84-page letter to the Securities and Exchange Commission, dated August 8. The SEC is weighing sweeping new rules designed to improve the quality of ratings after their poor performance in the financial crisis. The 517-page proposal includes a requirement that ratings agencies post on their websites when a "significant error" is identified in their methodology for a credit rating action. The letter was sent three days after the U.S. Treasury Department accused S&P of miscalculating -- by some $2 trillion -- the U.S. debt in the next 10 years. S&P vehemently denied it had made an error, but acknowledged that it changed its long-term economic assumptions after discussions with the Treasury Department.

S.&P. Fights Rule on Disclosing Firms’ Errors - Three days after Treasury Department officials discovered what they called a mistake in the assumptions used by Standard & Poor’s to justify the downgrade of United States debt, the president of S.& P. wrote to securities regulators saying that ratings agencies should not be required to publicly disclose all errors in their calculations.  In a letter to the Securities and Exchange Commission dated Monday¹, Deven Sharma, the president of S.& P., said that while it believed the company should disclose “significant errors” that affect ratings, the S.E.C. should avoid rules that would define what types of errors were significant enough to require disclosure. The letter was in response to proposed S.E.C. regulations that would tighten oversight of major ratings firms like S.& P., Moody’s and Fitch Ratings. The proposals are part of the Dodd-Frank Act, the overhaul of securities law passed last year by Congress, which resulted from the 2008 financial crisis.  By coincidence, the period for comments on the proposed S.E.C. rule² expired on Monday.

What’s a ‘Significant Error’? Standard & Poor’s Says Leave It To Us - Just days after the Treasury Department criticized Standard & Poor’s for “a $2 trillion mistake” in the math it used to justify its credit downgrade of the United States, the ratings firm sent a letter to securities regulators urging them to keep some proposed regulations as vague as possible. One area in which S&P had specific interest in keeping things vague? A provision that would require the firm to report “significant errors.” The letter was first noticed by Reuters, though you can see the letter for yourself [1] [PDF] on the Security and Exchange Commission’s website. S&P “does not believe that the Commission should attempt to define the term ‘significant error,’ ” the firm wrote. Should it do so, the commission “would effectively be substituting its judgment for that of the (rating agency).” (Reuters notes that the other two of the three main ratings firms, Moody’s and Fitch, did not raise major concerns [2]about the proposed rule on errors.) In the controversy over the U.S. downgrade, Treasury officials accused the firm of making a miscalculation that “undermined the economic justification [3] for S&P’s credit rating decision,” noting that after the mistake was pointed out, “S&P simply removed a prominent discussion of the economic justification from their document.”

SEC makes S&P downgrade inquiries - The Securities and Exchange Commission has asked credit rating agency Standard & Poor’s to disclose who within its ranks knew of its decision to downgrade US debt before it was announced last week, as part of a preliminary look into potential insider trading, people familiar with the matter say.  The inquiry was made by the SEC’s examination staff, which has oversight of credit rating firms, one person familiar with the matter said. The exam staff can make referrals to the SEC’s enforcement division if it believes any laws have been violated, but the inquiry might not result in a referral.  This person said they were looking at who had the information as a starting point. The person added that the agency is not aware of a leak from an S&P insider, nor was it aware of an aberrational trade. Proving someone leaked information about the downgrade, or traded ahead of it, could be challenging. Many traders anticipated the downgrade and bets could occur across numerous securities or currencies without inside information. In a traditional insider trading case, there is often a more predictable correlation between a company’s stock price and a particular development.

SEC Reviews S&P Math, Possible Leak of Rating - The Securities and Exchange Commission is reviewing the method Standard & Poor’s used to cut the U.S.’s credit rating and whether the firm properly protected the confidential decision, according to a person with direct knowledge of the matter. SEC inspectors are examining S&P’s policies for conducting such analyses and whether those procedures were followed when the New York-based firm downgraded the U.S.’s credit rating Aug. 5, said the person, who declined to be identified because the inquiry isn’t public.  S&P’s downgrade of the U.S. for the first time triggered an equity rout that wiped about $6.8 trillion from the value of global stocks from July 26 to Aug. 11. U.S. officials have said the downgrade was based on a flawed analysis which overstated U.S. debt by about $2 trillion, while S&P said the discrepancy doesn’t change projections that the U.S. debt-to-gross domestic product ratio will probably continue to rise in the next decade.

Matt Stoller: S&P – “Our ratings in the mortgage-backed securities area were not venal” - So S&P downgrades the US, and Treasuries rally. Then S&P affirms that France is a AAA rating, and the markets freaked out about Eurozone and Eurobank risk. France is “now in the crosshairs”. What should be clear by now is that S&P isn’t doing actual credit analysis. It is being a part of a community of financial oligarchs that for their own reasons want to see various communities and countries threatened with a downgrade. Indeed, of all the players in the financial crisis, the ratings agencies were the single most embarrassing and obvious points of failure and corruption. Why did all the toxic crap get AAA ratings? Because S&P, Moody’s, etc. basically got paid for each AAA rating. Were these companies actually apologetic after blowing up the economy? Ha! Here’s testimony to the House Financial Services Committee in 2009 by S&P President Deven Sharma. Mr. Chairman and members of the Subcommittee let me assure you of two things. First, our ratings in the mortgage-backed securities area were not venal. These were honest views expressed based on the best information available, dealing with complex instruments.  This conversation by two S&P analysts was released by the House Oversight and Government Reform Committee in 2008.

• Rahul Dilip Shah: btw: that deal is ridiculous
  Shannon Mooney: I know right … model def does not capture half of the risk
  Rahul Dilip Shah: we should not be rating it
  Shannon Mooney: we rate every deal… it could be structured by cows and we would rate it

Don’t Gut the S.E.C. - SOME of our Congressional leaders, especially in the Republican Party, seem to want the federal government to cease operations. After all, their brinkmanship over the raising of the debt ceiling suggests that they don’t really care whether anything ever gets done in Washington. But these members of Congress have not lost their appetite for power. To the contrary, Congress is merely becoming more imperial and more brazen in its efforts to dominate all other branches of government, including those designed to be independent.  This is clear in efforts to eviscerate the Securities and Exchange Commission by underfunding and micromanaging it.  The S.E.C., which was founded during the Depression to protect Main Street investors, has been charged with implementing the 2,300-page Dodd-Frank financial reform law but has not been given the resources to do the work necessary. For 2012, the S.E.C. asked for an increase of $222 million in its budget; it is slated to receive no increase at all. Those in Congress who complain that the S.E.C. is behind schedule on Dodd-Frank and wonder why need only look at the budgets they approve.

An Honest Policy Wonk -Captured regulators routinely take the blame for the ills of regulatory policy in electricity, telephony, and broadcasting. “Captured regulator” has been a pejorative term in these industries for decades. It’s hard to say when it happened exactly, but this conversation migrated into electronics and the commercial Internet in the past decade, as both industries melded with communications and media businesses. Pieces of the topic even show up in the net neutrality debate. Quite a bit of nuance got lost in the migration. While many episodes in the history of telephony and broadcasting illustrate regulatory capture, even the theory’s proponents know about exceptions—namely, situations that ought to have been captured but were not. For example, consider the Internet’s birth. There were numerous opportunities for regulatory capture in the Internet’s transfer out of government hands, and, yet, capture theory only explains part of the events and not the entire outcome. I will refer to other episodes below, but for now, take that example as motivation for modifying the popular theory of regulatory capture. When does the regulatory environment work despite the tendencies toward regulatory capture? As best I can tell, the explanation has something to do with the presence of an honest policy wonk.

Index funds and commodity prices - There has been a lot of growth over the last decade in funds that take long positions in commodity futures contracts in order to offer investors an asset that follows raw commodity prices. I've been looking into some of the data that have been used to measure the size of those positions. Hedge fund manager Michael Masters received a lot of attention in 2008 with his testimony before the U.S. Senate on the role that "financialization" of commodity futures markets may have played in the big increases in commodity prices being seen at the time. One of the ways he made his point was with a graph comparing the price of oil with an estimate of the number of oil futures contracts held by index funds who were buying these contracts on behalf of investors seeking direct exposure to commodity prices. Stanford Professor Ken Singleton has recently updated a graph illustrating the correlation, in which the black line is the price of crude oil and the dashed is an estimate of futures contracts held by index funds.

James Galbraith on How Fraud and Bad Economic Thinking Got Us in This Mess - Yves Smith - Yves here. Our resident mortgage maven Tom Adams pointed me to a speech by James Galbraith via selise at FireDogLake, which discusses, among other things, how certain key lines of thinking are effectively absent from economics, as well as a lengthy discussion of the failure to consider the role of fraud. Galbraith is not exaggerating. The landmark 1994 paper on looting, or bankruptcy for profit, by George Akerlof and Paul Romer, was completely ignored from a policy standpoint even though it explained why the US had a savings and loan crisis.  Similarly, Galbraith refers to an incident at the most recent Institute for New Economic Thinking conference, in which he stood up and said, more or less, that he couldn’t believe he has just heard a panel discussion on the financial crisis and no one mentioned fraud. The stunning part was how utterly unreceptive the panel and the audience were to his observation. You’d think he’d had the bad taste to say the host had syphilis.  I strongly urge you to read the entire piece; non-economists may want to skim the first third and focus on the crisis material and what follows. This is the key paragraph: This is the diagnosis of an irreversible disease. The corruption and collapse of the rule of law, in the financial sphere, is basically irreparable. It’s not just that restoring trust takes a long time. It’s that under the new technological order in this field, it can not be done. The technologies are designed to sow and foster distrust and that is the consequence of using them. The recent experience proves this, it seems to me. And therefore there can be no return to the way things were before. In other words, we are at the end of the illusion of a market place in the financial sphere.

“Freedom Versus Markets” -Probably the most wicked intellectual subterfuge of the last three decades — and goodness knows there have been many — has been the pretence that democracy and markets are two sides of the same coin. Both have been extolled under the banner of “liberty”. “Free markets” are somehow the hallmark of democracy and they should be allowed to roam free, untrammeled by evil governments who never doing anything right. Any number of commentators, coincidentally funded by right wing think tanks, warned us that constraining markets represents an attack on basic freedoms. Such elision is, of course, rubbish; and in many cases deliberate deceit. In a market one dollar equals one vote. The more money you have, the more votes you get. In a democracy it is one person, one vote. You can only be one person at a time (except in Florida, it seems). With this in mind, I was intrigued to see a response from Rob Windt mid week about the aftermath of the Icelandic bankruptcy: What happened next was extraordinary. The belief that citizens had to pay for the mistakes of a financial monopoly, that an entire nation must be taxed to pay off private debts was shattered, transforming the relationship between citizens and their political institutions and eventually driving Iceland’s leaders to the side of their constituents. This, I would suggest, is real liberty at work. And it is probably an early example of what I expect will become an increasingly political debate, rather than a managerialist debate, about the direction of developed economies.

Roubini: Marx Was Right; Markets Arent Working - It appears that even Mr. Roubini Global Economics Monitor himself cannot but return to the scribblings of one of the central figures in classic political economy, Karl Marx.  A few years ago, I wrote about why Marx was, wryly, a big fan of globalization and free trade. Insofar as it would help accelerate inequality that spurred the backlash of the workers of the world and hence communism, globalization was to him welcome. If not exactly using the term "globalization," his description of it is nearly indistinguishable from today's interconnected reality. While visiting the Wall Street Journal, I came across the above interview in which Roubini alludes to Marx's well-known notion of capitalism's inherent contradictions. Roubini opines that the lack of confidence--animal spirits, if you will--of firms in the world economy's future prospects causes them to be cautious about both investment and hiring. However, while throttling back hiring and increasing the productivity of hired workers may increase profits, the knock-on effects for the wider economy are unfavourable. For, if many remain unemployed, their income and hence purchasing power is diminished. Consumer confidence is dented. In turn, aggregate demand is simply not there. (Skip to around 4:00 in the video.)

Virginia’s Cuccinelli sues Bank of New York Mellon, alleging pension fraud - In a highly unusual move, Virginia sued a major New York financial institution late Thursday, alleging that it defrauded state and local pension funds and seeking an extraordinary $900 million in damages and penalties. The lawsuit, filed by Virginia Attorney General Ken Cuccinelli II, claims that since 2000 the Bank of New York Mellon defrauded the Virginia Retirement System and the pension funds in Arlington and Fairfax counties 73,000 times. “Now all of Virginia taxpayers are harmed,” Cuccinelli (R) said in an interview. “If you assume the taxpayers are going to make good on whatever obligations these funds undertake, really the people who are going to be harmed by this as a particular matter are the taxpayers.”Cuccinelli is seeking $120 million plus interest in damages and $811 million in civil penalties for what he alleges is $40 million in fraud. He accuses currency traders for the bank of skimming profits of transactions conducted for six state and local public pension funds by falsely reporting the rate at which currency was exchanged.

Dalia Marin on Outsourcing, Income Inequality, CEO Pay - Yves Smith - Dalia Marin, who Chair in International Economics at the University of Munich, discusses “new new trade theory” and how it looks at phenomena that don’t fit into older models of trade, particularly outsourcing and offshoring. Her work is empirical and here she discusses wage differentials and the various rationales for why CEO pay has exploded in the US. I think readers will enjoy this interview.

Obama Owns This Crisis - 08/08/2011 - Yves Smith  - Obama created an unnecessary financial crisis. Not that we would have escaped eventually having one, but he played like a fool into the Republican desire to use the debt ceiling to push for budget cuts, and he tried outsmarting them to get his long standing desire of entitlements cuts through. Having the S&P downgrade hit when the Eurozone crisis was in an acute phase was like rolling a car full of explosives into a burning house. “Obama victory” may come to be the modern version of “Pyrrhic victory”. And the man touted as a silver tongued orator can’t even talk up the markets. He actually managed to talk them down. Big time.As numbed readers no doubt know, the S&P closed down 6.66%. BAC fell a stunning 20% on the day and its CDS spreads are up big. The VIX rose over 50% to 50. The FT Alphaville (hat tip reader Scott) point out that the VIX is backwardized. From their chat with Christopher Cole of Artemis Capital:In regard to VIX futures curve backwardization since 2004 the front two contracts of the VIX futures curve have traded at a discount to spot VIX approximately 25% of the time. Currently the entire VIX futures curve shows inversion and this shape has only occurred 13% of the time since 2004. Negative convexity across the entire curve usually only occurs during systematically important shock events such as the 2008 financial crash, Bear Stearns bankruptcy, 2010 flash crash, and the 2007 credit market meltdown.

Feds sue Goldman Sachs over credit union losses - Federal regulators have filed the fourth in a series of about 10 planned lawsuits against banks that sold questionable mortgage-related securities to big credit unions that subsequently failed. The latest target is Goldman Sachs & Co. A $401-million lawsuit, filed Tuesday in U.S. District Court in Los Angeles, accuses the giant Wall Street firm of misrepresenting the soundness of mortgage bonds that were purchased by the now-failed U.S. Central and Western Corporate federal credit unions.

Why Wall Street Should Fear the Tea Party - Markets, for one thing, tend to be spooked by uncertainty, and the debt-ceiling agreement has increased uncertainty by making it more likely that we’ll see down-to-the-wire, default-risking negotiations in the future. Senate Minority Leader Mitch McConnell was explicit about this last week, saying that there would be no more “clean” debt-ceiling increases in the future—in other words, Republicans will keep using the threat of default as a political weapon. This approach may well be extended to bargaining over budget resolutions as well, with Republicans threatening a government shutdown unless they get what they want. If that sounds improbably reckless, consider that every Republican Presidential candidate except Jon Huntsman came out against the final debt-ceiling deal. Even if you explain this as pandering to Tea Party voters, there’s no ignoring the fact that these candidates were advising congressional Republicans to let the United States default. Once games of chicken become the accepted way to resolve budget issues, the U.S. economy will become a much riskier place.

Global Banks Poised to Cut 101,000 Jobs -The biggest global banks are cutting jobs at the fastest rate since 2008 as a weak U.S. economy squeezes revenue, regulators push firms to hold more capital and companies restructure businesses to improve profitability.  The 50 largest banks, including HSBC Holdings Plc, Credit Suisse Group AG and Bank of America Corp. , disclosed plans for almost 60,000 reductions since Jan. 1, according to company statements and data compiled by Bloomberg Industries. At that pace, they’ll cut more than 101,000 jobs this year -- the most since 192,000 positions were targeted in 2008 amid loan losses, a global credit crunch and unprecedented government bailouts.  HSBC’s aim to shed 30,000 workers, unveiled by the London- based firm on Aug. 1, was the single biggest job-cutting announcement since Bank of America said in December 2008 that it would eliminate as many as 35,000 positions, the data show.

Europe’s Crisis May Stuff U.S. Banks With Undeployable ‘Hot Potato’ Cash - The European debt crisis is poised to flood U.S. banks with something they don’t want and can’t use: more money. Cash held by U.S. banks surged 8.4 percent to a record $981 billion during the week ending July 27, the Federal Reserve said in an Aug. 5 report. That’s more than triple the amount firms had in July 2008, before the collapse of Lehman Brothers Holdings Inc. almost froze bank-to-bank lending. Even more money may be deposited with U.S. lenders if investors pull away from European banks amid concern the Greek debt crisis may spread to Italy or beyond, said Brian Smedley, a strategist at Bank of America Merrill Lynch in New York. Those funds may not be so welcome: With few opportunities to lend them out profitably, U.S. firms may have to slap fees on depositors to keep returns from eroding. “It becomes a loser to hold these excess deposits,” said Bert Ely, a bank-industry consultant in Alexandria, Virginia. “At the margin they have to think, ‘What can we do with $50 million of deposits?’ The answer is not much.”

Of Course There's A Liquidity Crisis For US Money Market Funds: "The 'crap out' in stocks may scare us to death but it will be a freeze up in short term liquidity that will kill us. We’re getting closer by the day. The liquidity issues that are emanating out of Europe are extending around the world very quickly. One area that I continue to think is vulnerable is the US money market funds. There is a good reason to worry about these funds. After all, this is the dumbest place on earth to put a dime. Consider the numbers. The average cash MMF is yielding an 1/8th percent per year. There’s tax on that too. The net comes to about 10 basis points. For every $100 you have in a cash fund you have income of ten-cents. For this lousy dime you are taking risks. There is this assumption that a money fund can never be worth less than 100. There is no truth to that. It happened three years ago. What if a money fund “broke the buck” and all of a sudden it was worth only 99%? The loss would only be $1. But that $1 is also equal to ten years worth of interest. From a gamblers perspective you are betting 100 dollars to win only 7." 

Hedge Funds Get Unfamiliar Taste of Losing - With the stock market shedding billions of dollars in value and uncertainty in Europe stoking fear, some funds are watching their returns sink by double digits while others are shooting the lights out. August, in less than two weeks, has brought a 13 percent decline in the Standard & Poor’s 500-stock index and roughly 12 percent drop in the Dow Jones industrial average.The turmoil has whipsawed some of the biggest names in hedge funds. John A. Paulson, for example, who made billions betting against subprime mortgages in the last market downturn, is racking up big declines in this one, in part because of his exposure to financial companies.One of his main funds is down 31 percent this year — and that was even before this week’s carnage in the market. William A. Ackman’s Pershing Square Capital Management, meanwhile, is down about 10 percent this year, with most of the loss coming this month, said a person briefed on the firm’s performance.Pershing Square, which declined to comment, has major positions in companies like Citigroup and J.C. Penney — two stocks that declined sharply recently.

US Treasuries face bumpy ride as yields tumble - Is staying in the ever-hotter US Treasury market akin to being a frog in boiling water? This is the question - or some version of it - being asked by bond traders after the US Federal Reserve decision on Tuesday to freeze short-term interest rates for at least two years. The Fed added that it could use more of its monetary policy tools, such as buying assets, if needed. Yields on short-dated US Treasury debt, which move inversely to prices, plunged to record lows after the move, with the two-year yield offering just 17 basis points. The benchmark 10-year Treasury yield briefly dipped below the record low it hit in 2008, when financial markets feared a return of the Great Depression. Take inflation into account and the yield on US government bonds maturing in the next 10 years is negative. "If you own Treasuries you should sell them at this point,” . “You are getting compensated nothing for the next 10 years.” There are plenty of investors who have been in the bond bear camp for some time. The most prominent is Bill Gross, chief investment officer for Pimco and manager of the world’s largest bond fund, the $245bn Total Return Fund.

Some $50bn goes to money market funds - One of the most volatile weeks in market history sparked a bigger flight to safety than the collapse of Lehman Brothers as global investors parked a record $50bn in money market funds this week, yanking money out of bonds and shares. Money markets attracted net inflows of $49.8bn only a week after registering record outflows, according to EPFR Global, a data provider. In the week ending on Wednesday, equity funds had more money pulled out of them than at any time since early 2008, while investors moved faster out of risky junk-rated bonds than at any time since records began in 2005, according to data published on Friday.The huge degree of risk aversion was revealed as global equity markets rallied, leaving many of them close to where they started the week. But that masked the degree of volatility with the Dow Jones Industrial Average recording for the first time seven straight sessions that alternated between ending the day higher one day and lower the next.“Extraordinary is the very least you can say … The degree of the moves shows the markets are pricing in something really apocalyptic,”

Cash-rich investors choose crazy Treasury returns - Why does money keep flooding into the short-term Treasuries market, or T-bills? It is a fascinating question, given last week’s US rating downgrade – and the fact that yields on three-month bills are now a mere 0.01 per cent. There are plenty of explanations around: investors are searching for safe havens; terrified about growth; worrying about deflation; chasing momentum. Or all four. But there is another factor investors should watch: what companies and asset managers are doing with their spare “cash”. Earlier this week, the International Monetary Fund quietly published a ground-breaking paper on this issue. The issue at stake revolves around the “cash” which companies, asset managers and securities lenders (such as custodial banks) hold on their balance sheets. Two decades ago, these cash pools were modest, totalling just $100bn across the globe, with individual companies typically holding just $100m, or so. But in recent years, these pools have exploded in size, as the asset management sector has consolidated and companies have centralised their treasury functions. Institutional cash managers now control between $2,000bn and $4,000bn globally, and Pozsar reckons on average there is $75bn sitting at individual securities lenders, $20bn at asset managers, and $15bn at large US companies.

Don't you miss the Greenspan put? - Endogenous policy had two important, distinct impacts. The first was to modulate bull and bear markets. There’s a reason one of Wall Street’s most enduring adages is “Don’t fight the Fed”: profits and dividends may matter in the long run but in the short run, the overwhelming fundamental driver of stocks was monetary policy. The second impact was on valuation. As bad as things might be, there was a limit to how bad policymakers would permit them to get. As central banks got better at stabilisation policy over the 1980s and 1990s, the equity risk premium fell and price-earnings ratios rose. The Greenspan put was a caustic encapsulation of the belief that the Fed, under Alan Greenspan, its longtime chairman, would always bail stock investors out of their losing positions.  If the Fed could, and would, always act to prevent economic catastrophe, that imparted option value to equity valuation. That’s why the growing belief that policy, today, is helpless is so important for the market. The decline in equity prices in recent weeks seems out of proportion to the economic news, though of course the market may have correctly anticipated that the economic news is about to get much worse. I suspect some of the decline reflects a rise in the equity risk premium as investors take on board the realisation that policy is no longer endogenous.

Markets Fear Gridlock Without Aid - For Wall Street, Standard & Poor's downgrade of the U.S. is one more sign that dysfunctional government is contributing to the market's decline. After the 2010 election, many on Wall Street welcomed divided government, on the theory that the less Washington does, the better markets do. Now, investors have changed their tune and once again are calling on Washington to fix things. Markets have become addicted to government aid over the past decade, and a growing number on Wall Street are hoping again for a bailout from the Federal Reserve, Congress or both. Investors want decisive action at a time when Washington seems incapable of providing it. That is one reason that some money managers have begun warning clients to expect more declines. "We believe the bull market that began in 2009 is probably over,"  Leuthold says it now plans to use market rallies as opportunities to sell stocks. The firm blames the market troubles partly on the weak economy, and partly on dysfunctional government.

Another Round of Bailouts? - Simon Johnson - In the wake of recent equity market declines, the clamor for bailouts of various kinds grows ever louder around the world. Influential voices call for “leadership” from the United States and Western Europe, and for policy makers in those countries to “get ahead of the curve.” This is all code for a simple and familiar plea: Do something that will protect investors, particularly creditors who have lent a lot of money to banks and countries that now appear to be in serious difficulty. But providing another round of unconditional creditor bailouts in this situation would be a mistake. What we need is a combination of transparent losses where bad loans were made, combined with a ring-fencing approach that protects sound governments and companies. There is no sign yet that policy makers are willing to make that distinction clear.The Financial Stability Oversight Council’s recently released first annual report does not provide particularly up-to-date numbers, but most of the global warning lights discussed in Chapter 7 must now be flashing red. As recently as 2008-9, there were three kinds of government support available to the American and European economies when such systemic financial trouble hit. But all three traditional forms of bailout are now much harder to pull off.

The coming world of smaller banks - How many people does it take to operate a modern bank and how much should such a bank’s shares be worth? The one-two punch of recently announced lay-offs and stock price declines suggests that the answer to both questions is a lot smaller than you might think.  The numbers are staggering. As of midday on Wednesday, shares of Barclays and Credit Suisse, which announced lay-offs last week, are down more than 20 per cent for the month. Shares of HSBC, which will be making 30,000 redundancies – a 10th of its workforce – are down 17 per cent. Shares of Lloyds, which is cutting 15,000 jobs, are down nearly that much. Other financial institutions, including Goldman Sachs and UBS, have announced job cuts and suffered double-digit share price declines. And then there are Bank of America and Citigroup, the two banks facing the most intense pressure from investors this week; together they employ more than half a million people. For now. Typically, job cuts are good for shareholders because they reduce labour costs and improve efficiency. But these lay-offs have set off a labour-capital death spiral: they are bad for employees but are proving even worse for shareholders, and the declines in the share prices of banks are putting yet more pressure on employees and will probably lead to more lay-offs. And so on, and so on.  Bank analysts cite several reasons for share price declines, including litigation exposure, declining investor and consumer confidence and a faltering economy. But one overarching factor, which also explains the increase in lay-offs, is the declining importance of banks.

Why are the big banks getting off scot-free? - Yves Smith - For most citizens, one of the mysteries of life after the crisis is why such a massive act of looting has gone unpunished. We've had hearings, investigations, and numerous journalistic and academic post mortems. We've also had promises to put people in jail by prosecutors like Iowa's attorney general Tom Miller walked back virtually as soon as they were made.  Yet there is undeniable evidence of institutionalized fraud, such as widespread document fabrication in foreclosures (mentioned in the motion filed by New York state attorney general Eric Schneiderman opposing the $8.5 billion Bank of America settlement with investors) and the embedding of impermissible charges (known as junk fees and pyramiding fees) in servicing software, so that someone who misses a mortgage payment or two is almost certain to see it escalate into a foreclosure. And these come on top of a long list of runup-to-the-crisis abuses, including mortgage bonds having more dodgy loans in them than they were supposed to, banks selling synthetic or largely synthetic collateralized debt obligations as being just the same as ones made of real bonds when the synthetics were created for the purpose of making bets against the subprime market and selling BBB risk at largely AAA prices, and of course, phony accounting at the banks themselves. Louise Story and Gretchen Morgenson lament this sorry state of affairs in an article today on a $10 billion lawsuit expected to be filed today by AIG against Bank of American over dodgy mortgage securities

There is going to be a huge financial story next week - On page B7 of today’s WSJ there is a public notice of upcoming auction. Sorry for no link, but I cannot figure out how to get their website to display print ads. There are two HUGE lists of RMBS pools that are going to be sold at auction next week. The current par shows huge losses in value for many of them, but more significant will be what the actual sale prices turn out to be. This may allow us a model to reset the value of loans. If the pools sell for 10 cents on the dollar of the original face value, should not homeowner’s be forgiven principal amounts in the same proportions? Some of these show current par at only 20-25% of original face value. There is going to be a HUGE financial story next week. We are finally going to have an idea of the actual loss numbers. I am so nervous.

Banks pushing for legal shield on mortgages - U.S. banks still wrestling with legal troubles springing from the subprime mortgage crisis are lobbying the new consumer agency for strong legal protection for future home loans. The Consumer Financial Protection Bureau is finalizing a proposal to entice banks to offer straightforward loans -- without interest-only payments and excessive fees -- by providing a legal shield. The question is whether to give banks full protection, known as a "safe harbor," or a more limited legal shelter. "It is critically important that the final rule provide a safe harbor," Bank of America¹ Corp wrote in a July 22 letter. "If the final requirements instead increase the liability exposure of creditors ... the result will be increased costs and further reduction in credit availability to the very consumers that the reforms were designed to protect." The Federal Reserve² issued a proposed rule on the matter earlier this year, but then punted it to the consumer agency, which now has jurisdiction. The agency, which was created by the Dodd-Frank oversight law, opened its doors on July 21.

A.I.G. Sues Bank of America Over Mortgage Bonds - The American International Group1 sued Bank of America2 on Monday over hundreds of mortgage-backed securities, adding to the surge of investors seeking compensation for the troubled mortgages that led to the financial crisis. The suit seeks to recover more than $10 billion in losses on $28 billion of investments, in possibly the largest mortgage-security-related action filed by a single investor. It claims that Bank of America and its Merrill Lynch and Countrywide Financial units misrepresented the quality of the mortgages placed in securities and sold to investors, according to three people with knowledge of the complaint. A.I.G., still largely taxpayer-owned as a result of its 2008 government bailout, is among a growing group of investors pursuing private lawsuits because they believe banks misled them into buying risky securities during the housing boom. At least 90 suits related to mortgage bonds have been filed, demanding at least $197 billion

AIG sues BofA for $10 billion alleging "massive fraud" (Reuters) - Bank of America Corp was sued by American International Group Inc for more than $10 billion over an alleged "massive fraud" on mortgage debt, causing the bank's shares to tumble 22.8 percent amid worries it cannot manage a deepening litigation morass.Shares of the largest U.S. bank fell to their lowest since March 2009, wiping out roughly one-third of the bank's market value, or in excess of $32 billion, over the last three trading days.In afternoon trading, the shares were down $1.60, or 19.6 percent, to $6.57, after earlier falling to $6.31. "A lot of people think the bank will have to raise capital, and any major capital raise will be massively dilutive," . "The bank just can't get its hands around the liabilities it's facing." Monday's slide came amid the broad market decline that followed Standard & Poor's downgrade of United States credit ratings. AIG shares were down $2.78, or 11 percent, at $22.32.

Here Comes TARP 2: Bank Of America Implodes, At $6.87, BAC CDS Up 20% To 260 bps As Bankruptcy Contemplated - With Bank of America investors finally realizing it is game over for the company as a going concern, at this point there are just two options for Brian Moynihan: the spin off of CFC as a bad bank, backstopped by the Fed, or, well, Chapter 11, which for a bank is essentially liquidation (and with CDS trading up 50 bps to 260 a bankruptcy seems increasingly inevitable). It also means that another TARP is on the way. And once America realizes that another several trillion have to be put into its insolvent banking sector, it will get quite violent. The biggest irony: it is AIG which takes down the financial system for the second time after its lawsuit against BAC filed last night kills Bank of America."

Uncertainty and indecision threaten Bank America and global markets - For the past several years, my firm has been arguing that restructuring is the only way to solve the problems facing the largest US banks — the top four institutions that exercise a de facto cartel over the US housing market. After years of earning what seemed to be supra normal returns from the “gain on sale” world of US mortgage originations, the large service banks are now drowning in the same sea of risk that once made them seem so profitable. As investors have slowly become aware of the concentration of housing risk that surrounds these large banks, they have increasingly shunned them. First with Bear Stearns, then Lehman Brothers, and then the housing GSEs Fannie Mae and Freddie Mac, markets stopped facing these names in the interbank credit markets, then accelerated into a crisis which compelled government intervention. Now the Obama Administration faces the same threat with Bank of America (“BAC”), an institution that is one of the largest lenders and also servicer of loans in the US.  Millions of payroll deductions, property tax payments and remittances flow through BAC daily. But losses from acquisitions such as Countrywide, Merrill Lynch, as well as hundreds of other operating entities, threaten to bring the bank down.

Bank of America death-watch - Yves Smith  - One of the most mesmerizing aspects of the market rout of the last week is the decline in Bank of America's stock price. It fell a stunning 20% yesterday, and even with a strong rebound today, it closed over 22% below its level of two week ago. That puts it well below half of the book value, which is a serious vote of no confidence. An even more troubling sign is that its credit default swaps, which strongly influence the bank's cost of raising new funds in the bond market, have also shown considerable decay. Yet officials at the Financial Stability Oversight Council, which had an emergency conference call last night, as well as many equity analysts believe that banks in general, and Bank of America in particular, have good liquid reserves and are in a much better position than they were going into the crisis. So why is Bank of America at risk? The short answer is that it may be insolvent even if it is liquid. Bank of America's situation is a lot like that of the borrower who has a looming obligation he can't meet. But unlike having a well identified big debt to pay down the road, the financial behemoth faces large but uncertain in size payments in the future thanks to pending and growing lawsuits to recover alleged damages resulting from the misdeeds of its acquisition, Countrywide.

BofA's Chief Defends the Core, but Sounds Sour on Countrywide  - Bank of America Corp. Chief Executive Brian Moynihan, in a 90-minute phone call with thousands of investors, defended his performance as the top, said the company won't divest itself of Merrill Lynch and said demand for new loans is slow.   In Mr. Moynihan's most candid remarks yet about the troubled mortgage business, he told the 6,000 listeners who Mr. Berkowitz said were on the call: "Obviously, there aren't many days when I get up and think positively about the Countrywide transaction in 2008." Bank of America acquired mortgage lender Countrywide Financial in 2008, before Mr. Moynihan was CEO, and has struggled since with losses and with financial demands from investors in securities backed with Countrywide mortgages.  Asked whether he would consider letting Countrywide, which remains a separate legal entity, go into bankruptcy to limit Bank of America's legal obligations to the troubled unit, he said: "We thought of every possible thing we could and but I don't think I'd comment on any outcome and the path we've taken is the best for the shareholders and this company."

BofA chief rejects calls to raise capital - Brian Moynihan, chief executive of Bank of America, rejected calls to raise new equity capital and pledged to stay the course at the helm of the largest US bank, whose share price has been battered by doubts over the adequacy of its reserves for losses linked to bad mortgages. “My performance with the management team ... has been strong,” he told investors on a conference call on Wednesday, even as he acknowledged that the group’s share performance had “not been strong”.  “We’ve been in this business for 230 years. And we’ll be in business for another 230 years,” he said. Asked why executives had not been buying more stock in BofA, he said they would be doing so when permitted and after the recent period of “volatility”. “My entire net worth is in this company,” he said. Investors were little moved by the hour-and-a-half call, which had been organised by Fairholme Capital Management, a top-20 shareholder in BofA, to try to assuage fears about the group’s health and strategy.

BofA faces struggle to sell CCB stake  -Bank of America is facing difficulties in selling its 10 per cent stake in China Construction Bank, partly because potential investors are expecting a deluge of rights issues, share sales and new listings from Chinese banks BofA, which is looking to raise capital when its share price has been hammered, can sell all or part of the stake when a lock-up period expires at the end of the month.  But it might now raise less than than it had hoped. The BofA stake, once valued at $20bn, is now believed to be worth several billion dollars less, according to bankers.  The US bank has approached sovereign wealth funds and other investors in the Middle East and in Asia, according to people familiar with the matter. The Kuwait Investment Authority was one potential buyer BofA approached, these people add, but the sovereign wealth fund already holds large stakes in ICBC and Agricultural Bank of China.

BofA Sells Part of Mortgage Portfolio to Fannie Mae - Bank of America Corp. has agreed to sell part of its home-loan portfolio to government-controlled housing giant Fannie Mae, as the bank looks to shed assets and pare its exposure to an array of mortgage woes.  The deal, finalized last Friday, will deliver the rights to process and collect payments on a pool of 400,000 loans with an unpaid principal balance of $73 billion, people familiar with the deal said. The purchase price is more than $500 million, one of these people said.  The move is part of the Charlotte, N.C., lender's strategy to sell noncore holdings, rid itself of mortgage problems and preserve capital as it repositions its balance sheet to withstand future economic shocks. The bank's shares are down 43% this year amid concerns about BofA's ultimate exposure to mortgage-related losses and lawsuits.  The rights to the 400,000 loans will be transferred to Fannie Mae over four months, starting in September with the first slug of 100,000.

Bank of America's back-door TARP - Taxpayers may not realize it, but they just bailed out Bank of America again, this time to the tune of more than a half billion dollars. The Charlotte, NC-based bank was one of the biggest recipients of bailout funds during the financial crisis. But Bank of America (BAC) continues to face deep problems related to its troubled mortgage portfolio and investors have battered the stock, which has plunged over 40% so far this year. That's escalated concerns that the bank may need to raise more capital. Yves Smith at Naked Capitalism has even started a BofA death watch. But apparently the federal government is determined to resurrect BofA: the Wall Street Journal reports the feds have just used Fannie Mae, which is controlled by the U.S. government, to infuse BofA with $500 million and ease one of the bank's biggest headaches. Yesterday afternoon on CNBC, Bank of America CEO Brian Moynihan mentioned that five of BofA's six businesses were making money. The one black spot was its massive portfolio of problematic mortgages and the liabilities flowing from it. Moynihan also mentioned that BofA had just sold some "mortgage servicing rights" as part of its balance sheet strengthening efforts, but he didn't elaborate.

Freddie Mac seeks $1.5 billion from taxpayers (Reuters) - Mortgage finance giant Freddie Mac said on Monday it would need to ask for an additional $1.5 billion from taxpayers due to losses stemming from weak housing markets. The company reported a comprehensive loss in the second quarter of $1.1 billion. Despite income of $1 billion, the company registered a net worth deficit of $1.5 billion. That is in part because it was required to pay dividends worth $1.6 billion to the Treasury. As a result, the cost to taxpayers of its rescue declined by $100 million this quarter. Freddie Mac has drawn $65.2 billion from the government since it was taken over at the height of the financial crisis in September of 2008. Because of dividend payments, the net cost of Freddie Mac's rescue peaked at $56.2 billion in the second quarter of last year. In the most recent quarter, the cost eased to $52 billion.

S&P downgrades Fannie Mae and Freddie Mac - In connection with its downgrading of the U.S. government, ratings service Standard & Poor's early Monday likewise downgraded the senior issue ratings on Fannie Mae and Freddie Mac to 'AA+' from 'AAA'. S&P added it was maintaining its 'A' subordinated debt rating and 'C' rating on the preferred stock for the government-backed entities, and affirmed their short-term issue ratings at 'A-1+'. "The downgrades of Fannie Mae and Freddie Mac reflect their direct reliance on the U.S. government.

S&P downgrades FHLBs, FDIC debt issues - (MarketWatch) -- In the wake of its Friday downgrade of the U.S. government, ratings service Standard & Poor's on Monday downgraded the credit ratings and ratings on senior debt issued by 10 of the 12 Federal Home Loan Banks to 'AA+' from 'AAA'. The government-backed entities had been under review since July 15. In addition, senior debt issued by the Federal Farm Credit Banks has been lowered to 'AA+' from 'AAA'. S&P likewise downgraded the rating on 126 Federal Deposit Insurance Corp.-backed issues from 30 financial institutions to 'AA+' from 'AAA'. Also on Monday, S&P cut their ratings of Fannie Mae and Freddie Mac to 'AA'.

Fannie Mae sells record number of REO in Q2 - Last week the FHA reported a record number of Real Estate Owned (REO) sales in June, and a sharp decline in end-of-quarter REO inventory. Yesterday Fannie Mae also reported a record number of REO sales in Q2, and a decline in REO inventory. In Q2, Fannie Mae acquired 53,697 properties, and sold 71,202. Fannie's REO inventory fell to 135,719 from 153,224 at the end of Q1. Here is a graph of Fannie Mae REO acquisitions (completed foreclosure or deed-in-lieu) and dispositions (sales) (ht Tom Lawler). Note the slowdown in REO acquisitions in Q4 2010, and the increase in sales. Since sales are higher than acquisitions, REO inventory is falling. However there are many properties delayed in the foreclosure process, and acquisitions will pick up later this year (or when the mortgage servicer settlement is reached).

Mortgage Delinquencies and REOs - Over the last few days, I noted that the FHA and Fannie Mae recently sold a record number of REOs (Real Estate Owned), and that their REO inventories are declining. That is interesting data, but just a small part of the overall distressed property picture. Let's start at the beginning: The lenders report delinquent loans in four delinquency buckets, a "30-day" delinquent loan is past due by one payment, a "60-day" is past due by two payments, "90 days delinquent" is past due by three or more payments, and "loans in foreclosure" are if the foreclosure process has started. As a general rule, most servicers do not begin foreclosure proceedings until a loan is 90 days delinquent.  For our purposes, one thing it means is that a servicer will usually report separately on loans "90 days delinquent" and "loans in foreclosure." "In foreclosure" means the loan is in a process, often a long one, that starts with the filing of a foreclosure notice and ends at an auction on the courthouse steps.The foreclosure process starts with the filing of either a "Notice of Default" or a "Lis pendens" depending on the local requirements. After the foreclosure is completed, the property is "acquired" by the lender and is counted as "Real Estate Owned" (REO) until the lender sells the property. Here is a look at REO inventory:

Q2 REO Inventory Estimate - Freddie Mac reported today that REO dispositions (sales) were at a near record 29,000 units in Q2 and REO acquisitions were down to 24,799 units. The combined REO (Real Estate Owned) inventory for Fannie, Freddie and the FHA decreased to 250,982 at the end of Q2 from a record 288,341 units at the end of Q1. The "F's" REO inventory increased 6% compared to Q2 2010 (year-over-year comparison). This graph shows the REO inventory for Fannie, Freddie and FHA through Q2 2011. The REO inventory for the "Fs" increased sharply in 2010, but may have peaked in Q4 2010. However there may be a new peak when the foreclosure dam breaks. The second graph shows REO inventory for Fannie, Freddie, FHA, Private Label Securities (PLS), and FDIC insured institutions.  Total REO decreased to 495,000 in Q2 from almost 550,000 in Q1. As Tom Lawler has noted before, the FDIC does not collect data on the NUMBER of REO properties held, and there are different estimates of the average carrying value of 1-4-family REO properties at FDIC-insured institutions. This graph uses an an average carrying value of about $150,000.  "This is NOT an estimate of total residential REO, as it excludes non-FHA government REO (VA, USDA, etc.), credit unions, finance companies, non-FDIC-insured banks and thrifts, and a few other lender categories." However this is the bulk of the REO - probably 90% or more.

Freddie Mac Seriously Delinquent Loans and REO by Selected States - Yesterday I posted a graph for REO inventory through Q2. (REO: Real Estate Owned by lenders) And on Sunday, I noted that REO is only a part of the problem. A bigger part of the problem is the large number of seriously delinquent and in-foreclosure loans. See: Mortgage Delinquencies and REOs Although delinquencies and foreclosure activity is higher than normal in all states, a few states stand out. The following data is from the Q2 Freddie Mac SEC filing:I marked a few numbers in red. Although Freddie Mac has the most REO in California, the percent of REO in California is only slightly above the national average compared to the portfolio size. Nevada and Arizona have the most Freddie Mac REOs compared to the portfolio (Nevada is almost triple the national rate). Look at the serious delinquency rate. Now Florida and Nevada stand out. In general judicial foreclosure states have more loans in process, but Nevada is a non-judicial state!  I've also added negative equity data from CoreLogic (percent of properties with a mortgage that owe more than their home is worth). Nevada, Arizona and Florida really stand out.

FHFA, Treasury, HUD Seek Input on Disposition of REOs - From FHFA: FHFA, Treasury, HUD Seek Input on Disposition of Real Estate Owned Properties The Federal Housing Finance Agency (FHFA), in consultation with the U.S. Department of the Treasury and Department of Housing and Urban Development (HUD), has announced a Request For Information (RFI), seeking input on new options for selling single-family real estate owned (REO) properties held by Fannie Mae and Freddie Mac (the Enterprises), and the Federal Housing Administration (FHA). Let me repeat the graphs I posted on Monday:  The combined REO (Real Estate Owned) inventory for Fannie, Freddie and the FHA decreased to 250,982 at the end of Q2 from a record 288,341 units at the end of Q1. The "F's" REO inventory increased 6% compared to Q2 2010 (year-over-year comparison)  This graph shows the REO inventory for Fannie, Freddie and FHA through Q2 2011. The REO inventory for the "Fs" increased sharply in 2010, but may have peaked in Q4 2010. However there may be a new peak when the foreclosure dam breaks. The second graph shows REO inventory for Fannie, Freddie, FHA, Private Label Securities (PLS), and FDIC insured institutions. (economist Tom Lawler has provided some of this data). Total REO decreased to 495,000 in Q2 from almost 550,000 in Q1. But this is only the current REO, there are also a large number of properties in the "90 days delinquent" and "in foreclosure" buckets. Here is a graph I posted on Sunday: This graph shows the delinquent and REO buckets over time. The delinquency data is from LPS, and the REO estimates are based on work by Tom Lawler and my own calculations.

HAMP: Mortgage Modifications Slow To Trickle Under Obama… Fewer homeowners entered preliminary mortgage modifications under the Obama administration's signature foreclosure prevention initiative in June than in any month since April 2009, according to government data released Friday. June saw just 15,000 new trial modifications under the initiative, which the administration confirmed was the smallest number of any month almost since the program launched. (The administration said some June modifications may not have been reported yet. More than 30,000 trial modifications were converted to permanent ones in June.) Since the Home Affordable Modification Program launched in the months following President Obama's inauguration, nearly 870,000 struggling homeowners have been kicked out of the initiative, while just 657,044 remain in permanent modifications.

Revisiting the Legacy of HAMP in a Great Contraction World - It looks like the term “Great Contraction” is taking off to describe the debt overhang problems in the economy.  Here’s Kenneth Rogoff with a commentary piece titled The Second Great Contraction: The phrase “Great Recession” creates the impression that the economy is following the contours of a typical recession, only more severe – something like a really bad cold…But the real problem is that the global economy is badly overleveraged, and there is no quick escape without a scheme to transfer wealth from creditors to debtors, either through defaults, financial repression, or inflation… If governments that retain strong credit ratings are to spend scarce resources effectively, the most effective approach is to catalyze debt workouts and reductions. For example, governments could facilitate the write-down of mortgages in exchange for a share of any future home-price appreciation…In my December 2008 column, I argued that the only practical way to shorten the coming period of painful deleveraging and slow growth would be a sustained burst of moderate inflation, say, 4-6% for several years.

Delaware Attorney General Joins in Dropping Bombs on Bank of America Settlement and Bank of New York - Yves Smith -  Last week, Delaware attorney general Beau Biden indicated he might join New York state attorney general Eric Schneiderman in objecting to the proposed $8.5 billion settlement of a sweeping range of areas of possible liability by securitization trustee the Bank of New York. Bank of New York is allegedly acting on behalf of investors. 22 very large institutions were involved in the process, but as we pointed out, some of them, as well as Bank of New York, have substantial conflicts of interest. Biden did file his petition yesterday, as was reported in Bloomberg just after midnight. The article is skeletal, and thanks to alert reader Deontos, we have the entire filing here. The meat of it is short, but don’t mistake short for unimportant. Delaware Petition to Intervene in the Matter of Bank of New York Mellon

Appeals Court Rules failure to properly disclose teaser rate for Option ARM might constitute Fraud - This is an interesting California Appeal Court ruling in the case BOSCHMA et al., Plaintiffs and Appellants, v. HOME LOAN CENTER, INC. The plaintiffs are arguing that defendant failed to disclose prior to plaintiffs entering into their Option ARMs: (1) the loans were designed to cause negative amortization to occur; (2) the monthly payment amounts listed in the loan documents for the first two to five years of the loans were based entirely upon a low teaser‘ interest rate (though not disclosed as such by Defendants) which existed for only a single month and which was substantially lower than the actual interest rate that would be charged, such that these payment amounts would never be sufficient to pay the interest due each month; and (3) when [plaintiffs] followed the contractual payment schedule in the loan documents, negative amortization was certain to occur, resulting in a significant loss of equity in borrowers‘ homes, and making it much more difficult for borrowers to refinance the loans [because of the prepayment penalty included in the loan for paying off the loan within the first three years of the loan]; thus, as each month passed, the homeowners would actually owe more money than they did at the outset of the loan, with less time to repay it.

The Art & Science of Robosigning in the Post Scandal Era (New & Improved Document Fabrication) - Remember Fraudclosure is the natural and unavoidable outcome following massive mortgage-backed Securitization Fraud/Fail (appraisal fraud, comp. pricing fraud, predatory lending, zero underwriting criteria, origination fraud, warehouse lending fraud, title conveyance fraud, securities fraud, mbs delinquency reporting fraud, mbs accounting fraud.)  There is no way to "fix" this without resorting to illegal, counterfeit and document fabrication.  Bank of America & Recontrust - Washington State Documents (WA AG lawsuit against these foreclosure fraud actors Washington Attorney General sues ReconTrust for illegal foreclosures press release here)

Foreclosure Madness - Foreclosure activity decreased in 84% of metro areas in the first half of 2011 relative to 2010. Across the U.S., foreclosure filings in the first half of 2011 were down nearly 30% from filings in the first six months of 2010. Unfortunately, the drop in foreclosures is not a sign of improvement in the mortgage market, but rather a reflection of the delays in filings. The pace of foreclosures is likely to remain slow until large banks reach an agreement with government officials that establishes new loan servicing and foreclosure standards. The delay in foreclosures increases the “shadow inventory” of properties likely to be auctioned by banks. This not only increases supply and depresses future prices, but also contributes to the current price reduction trend as potential buyers rationally delay purchases until new supply comes on line. More ominously, the proposed resolution to the foreclosure mess may make it less likely the private sector will ever return to the home mortgage market.

Subprime Contagion - One of the first stories I wrote for The Nation from DC was a dispatch from a Joint Economic Committee hearing, at which Federal Reserve chair Ben Bernanke sought to calm the nerves of lawmakers made anxious by the cascade of worrying headlines. Bernanke acknowledged that some of the trends in the subprime market were worrying, but he said that the problems were, at least for the moment, contained. There was, he told the committee, “scant evidence of spillovers from housing to other components of final demand.” In other words: yes, there are some clouds on the horizon, but no, the sky isn’t falling. But Maryland Representative Elijah Cummings, whose Baltimore district was facing as many as 12,000 foreclosures a month, found Bernanke’s tone just a bit too calm for his liking: “As I sat here and I listened to you, it seems like you have painted a very rosy picture…but if you came and walked through my district, Mr. Chairman, I think people would be surprised that you seem so calm.” Bernanke was defensive: “Congressman, first, I don’t know how you got the impression that I was unconcerned about foreclosures.” We now know Cummings was right:

LPS' Mortgage Monitor Report Shows Foreclosure Starts Increased in June; QRM Could Have Impacted Nearly Half of All Mortgages Since 2005 - The June Mortgage Monitor report released by Lender Processing Services, Inc. (NYSE: LPS) shows that, while still down 16.4 percent from the start of the year, foreclosure starts increased by more than 10 percent in June 2011. Delinquencies were also up, but incrementally, showing a 2.4 percent increase over May. As of the end of June, 4.1 million loans were either 90+ days delinquent or in foreclosure, representing a 12.8 percent increase since June 2010. Foreclosure timelines continue their upward trajectory, with the average loan in foreclosure having been delinquent for a record 587 days. More than 40 percent of 90+-day delinquencies have not made a payment in more than a year. For loans in foreclosure, 35 percent have been delinquent for more than two years.

US homes got fewer foreclosure warnings in July -- Fewer U.S. homes entered the foreclosure process or were seized by lenders in July, the latest sign banks are taking a measured approach to moving against homeowners who have fallen behind on mortgage payments. Some 59,516 homes received an initial default notice last month, down 7 percent from June and down 39 percent from July 2010, foreclosure listing firm RealtyTrac Inc. said Thursday. The notices, which are the first step in the foreclosure process, have fallen 58 percent below their April 2009 peak. Homes scheduled for auction also declined in July, while the number of homes seized by banks slipped 1 percent from June and slid 27 percent versus July last year, the firm said. The slowdown in foreclosure activity is not due to an improving housing market. It's the result of foreclosure processing delays and banks' reluctance to take back properties while there is a glut of unsold foreclosed homes on the market.

Mortgages Tanked in Q2 - Residential originations by U.S. lenders fell nearly 20 percent in the second quarter, according to the Mortgage Lender Ranking from MortgageDaily.com. The biggest-three lenders fueled the decline, while business was less concentrated at the top. An analysis of second-quarter data by MortgageDaily.com indicates that Wells Fargo & Co. was again the biggest lender. But production at the mortgage behemoth was down 24 percent from the first quarter. Next was Bank of America Corp., where volume contracted 29percent. JPMorgan Chase & Co. trimmed fundings by 5 percent to place third. But No. 4 Ally Financial Inc. managed a 4 percent increase. Industry-wide volume declined around 19 percent from the first quarter. Compared to the second-quarter 2010, volume was down 20percent. MortgageDaily.com estimates that second-quarter production by all lenders was around $260 billion.

MBA: Mortgage Refinance Applications Increase Significantly - The MBA reports: Mortgage Applications Increase Significantly, Driven by Surge in Refinance Activity- The Refinance Index increased 30.4 percent from the previous week. The seasonally adjusted Purchase Index decreased 0.9 percent from one week earlier. ... "Amid substantial market turmoil last week, mortgage rates dropped to their lowest levels of the year, and refinance applications jumped more than 30 percent to their highest levels of the year," "Over the past month, refinance application volume has increased by 63 percent. Refinance applications for jumbo loans increased by almost 75 percent relative to last week. Despite these low mortgage rates, applications for home purchase have remained little changed through the summer." ... The average contract interest rate for 30-year fixed-rate mortgages decreased to 4.37 percent from 4.45 percent, with points increasing to 1.07 from 0.78 (including the origination fee) for 80 percent loan-to-value (LTV) ratio loans. The following graph shows the MBA Purchase Index and four week moving average since 1990.

1-Year ARM, 15-Year Fixed Rates Fall to New Lows - The rate for one-year adjustable mortgages fell to 2.89% this week, setting a new all-time record low going back to April 1986, when weekly data for ARMs started being collected, according to a weekly mortgage market survey released today by Freddie Mac (see top chart above).  The average fixed rate for 15-year mortgages fell to 3.50%, the lowest rate in the history of this series, which started in 1991.  Rates for the 30-year fixed mortgage fell to a 9-month this week of 4.32%, which is the lowest rate since mid- November of last year, when the 30-year rate fell to an historic record low of 4.17% (see bottom chart above). Given those historic low, or near historic low rates for mortgages, it would seem hard to make a strong case for higher inflation in the coming years. Back in the late 1970s when high inflation really was a problem, the 30-year fixed mortgage rate was approaching 20%. But now with one-year ARMs at 2.89% and 15-year fixed rates at 3.5% (both record lows) and 30-year fixed mortgages at 4.32%, there sure isn't much of an inflation premium incorporated into those record-low mortgage rates.

HousingTracker: Homes For Sale inventory down 13.3% Year-over-year in mid-August - Back in June, Tom Lawler posted on how the NAR estimates existing home inventory. The NAR does NOT aggregate data from the local boards (see Tom's post for how the NAR estimates inventory). Sometime this fall, the NAR is expected to revise down their estimates of inventory and sales. While we wait for the NAR revisions, I think the HousingTracker data that Tom mentioned might be a better estimate of changes in inventory (and always more timely). Ben at HousingTracker.net is tracking the aggregate monthly inventory for 54 metro areas. This graph shows the NAR estimate of existing home inventory through June (left axis) and the HousingTracker data for the 54 metro areas through mid-August. The HousingTracker data shows a steeper decline (as mentioned above, the NAR will probably revise down their inventory estimates this summer). The second graph shows the year-over-year change in inventory for both the NAR and HousingTracker. HousingTracker reported that the mid-August listings - for the 54 metro areas - declined 13.3% from last year.

Another Real Estate Time Bomb: Unsellable Vacant Homes? - Yves Smith - From a NYC reader via e-mail: My good friend is a real estate broker in Westchester/Dutchess County. He said he is seeing a real problem growing with title insurance. He said a large number of the REO properties banks try to get him to sell cannot close because of title problems. He’s worried about the growing number of vacant homes which may be impossible to sell. For those who don’t know the New York area, Westchester County is full of wealthy bedroom communities like Scarsdale; Dutchess County is further out but well off by national standards. The unemployment rate for the state is better than the national average, and with New York famously having the longest foreclosure clearing time in the US (as in the number of defaulted homes versus throughput rates in the courts), the state is not a prime candidate for a huge inventory of unsold homes.  Put more simply, if you are seeing a significant overhang of unsold, and perhaps more important, unsellable, houses in two relatively well off counties in New York, it’s likely that the same problem exists elsewhere.  We noted last October that Bank of America was now eating title insurance liability on foreclosed properties sold by its servicer. Perhaps BofA has since reversed course, but it may be that other major servicers have not followed suit. We’ve also been told by real estate attorneys of title insurers offering policies for foreclosed properties with significant carveouts, making them more or less useless for the buyer.

Home values drop 6.2% from last year - Home values across the United States fell 6.2% in the second quarter from a year earlier with a slight 0.4% gain from the first quarter, according to Zillow (Z: 27.96 0.00%). The average home values hit $171,600 during the three months ended June 30, but remain nearly 30% below the peak of June 2006, according to the online real estate services firm. Values dropped in 142 of the 154 metropolitan statistical areas covered by Zillow. About two-thirds of the MSAs experienced home value appreciation. At the same time, the rate of foreclosure resales fell from the peak in March when 21.4% of all sales were classified as foreclosures. In June, 19.7% of sales involved foreclosures. "While there are many positive signs in the second quarter, and it is clear the post-tax credit free-fall of home values is over, we're not out of the woods yet," said Zillow Chief Economist Stan Humphries. "It is very encouraging that two-thirds of markets in our report experienced home value appreciation, but we have to remember that this is coming on the heels of one of the worst quarters since the housing recession began." Fiserv (FISV: 54.26 0.00%) also released its home price report using data from the Federal Housing Finance Agency. 

U.S. Seeks Ideas on Renting Out Foreclosed Property — Uncle Sam wants you — to rent a house from Uncle Sam.  The Obama administration said on Wednesday that it was soliciting ideas on how to turn the federal government’s inventory of foreclosed houses into rental properties that could be managed by private enterprises or sold in bulk.  The goal, the administration said, is to stabilize neighborhoods where large supplies of empty, foreclosed properties have hurt property values. In addition, the plan is an effort to clear the nation’s balance sheet of real estate holdings that, because they have been difficult to sell individually, have hung over the housing market and stunted sales of existing homes and new construction.  The Federal Housing Finance Agency, the Department of Housing and Urban Development and the Treasury Department are jointly requesting ideas for sales, partnership ventures or other strategies that would help to unload approximately 250,000 properties owned by Fannie Mae, Freddie Mac and the Federal Housing Administration. Those properties account for about half of all properties that have been foreclosed upon and are still awaiting resale nationwide.

U.S. Government Could Put Foreclosed Homes Up For Rent - The U.S. government could take on a new title -- landlord.  According to the AP, the Obama administration filed a federal "request for information" yesterday, seeking ideas on how to turn some of the 248,000 foreclosed homes owned by government-controlled Fannie Mae and Freddy Mac into rental properties. Only 70,000 of the properties currently owned by the government are currently on the market. With increasing demand in the rental market, the administration thinks offering the properties as rentals might do more than bring the government a new source of income. According to Edward DeMarco, acting director of the Federal Housing Finance Agency, renting foreclosed properties could minimize "credit losses and help stabilize neighborhoods and home values."This request for information also sought ideas on ways previous owners could rent out foreclosed properties and methods to encourage current renters to lease-to-own.

A Good Housing Idea Gets a Try - A while back, I touted this idea of taking the foreclosed properties owned by government-backed entities—Fannie, Freddie, Federal Housing Administration—off of the residential housing market and putting them into the rental market.  Looks like it’s a go from the White House. Lots to like about this:

• –Fan, Fred, and FHA own about half of foreclosed stock at this point (see graphic on left below), so there’s some potential volume here;
• –especially in local markets with high foreclosures, home prices are still falling, while rental prices are rising;
• –this can be done without Congressional approval, which is to say: it can be done.

How will it work?  From the WSJ link above: “The Federal Housing Finance Agency, which regulates Fannie and Freddie, will issue the formal “request for information” [RFI] with the administration to solicit proposals that shrink the glut of foreclosed properties weighing on the residential market.”

300,000 to 500,000 homes possibly damaged in Arizona The number of homes that are estimated to be damaged in Arizona continues to grow. The damage occurred a few months ago during the October Hail Storm. The Hail storm was not necessarily known because of the enormous size hail, but the hail was pretty sizeable. The reason this storm caused so much damage is because it was so wide spread. Not only was the path of the storm enormous, but it went right through the most populated areas of Phoenix. Rarely do you have a storm this size hit a densely populated area. Insurance Companies have been estimating the damage from the beginning of the storm and the number seems to keep climbing. Initially there were estimates of around 70,000 homes were damaged. It wasn’t long into the repairs that the estimates jumped up to 150,000 homes would file a claim. Now some people are estimating anywhere from 300,000 claims to 500,000.One adjust said that even this far after the storm has hit, only 30% of their companies customers have filled claims. Another insurance company has stated they are getting still in January 1200 fresh claims a week. The theory is many people are afraid to report their damage until they see their neighbors getting repair work done.

Not Much House Lock So Far in Seventh District- Chicago Fed - Two years following the end of the national recession, the national unemployment rate remains above 9%. Part of the explanation stems from the financial crisis element of the recession. In the past, aggregate demand (including new hiring) has tended to bounce back only slowly under similar circumstances, in which household wealth has declined sharply and traditional lending channels have continued to struggle. This time, other potential influences are being suggested. One point of debate is the potential impact of house lock, which is a decline in household mobility that is said to hamper job search. In particular, due to a high degree of underwater mortgages (where the mortgage debt level exceeds the current sales price of the home), working age adults may be constrained from long distance job-related moves by their inability to pay off their existing residential mortgage.  A new Chicago Fed Letter examines whether house lock has, in fact, contributed significantly to a higher than expected unemployment rate.

The Manufacturing Imperative, by Dani Rodrik - We may live in a post-industrial age, in which information technologies, biotech, and high-value services have become drivers of economic growth. But countries ignore the health of their manufacturing industries at their peril. High-tech services demand specialized skills and create few jobs, so their contribution to aggregate employment is bound to remain limited. Manufacturing, on the other hand, can absorb large numbers of workers with moderate skills, providing them with stable jobs and good benefits. For most countries, therefore, it remains a potent source of high-wage employment. Indeed, the manufacturing sector is also where the world’s middle classes take shape and grow. Without a vibrant manufacturing base, societies tend to divide between rich and poor – those who have access to steady, well-paying jobs, and those whose jobs are less secure and lives more precarious. Manufacturing may ultimately be central to the vigor of a nation’s democracy.

Ceridian-UCLA: Diesel Fuel index decreased slightly in July - This is the UCLA Anderson Forecast and Ceridian Corporation index using real-time diesel fuel consumption data: Pulse of Commerce Index Idles – Down 0.2 Percent in July The Ceridian-UCLA Pulse of Commerce Index™ (PCI), issued today by the UCLA Anderson School of Management and Ceridian Corporation dipped 0.2 percent in July on a seasonally and workday adjusted basis, offsetting some of the relatively strong 1.0 percent gain posted in June. Over this time period, bad news has been alternating with good, leaving investors and forecasters nervous and unable to identify sustainable trends.” Click on graph for larger image in graph gallery. This graph shows the index since January 2000. “Over time, the PCI has also proven to be a leading and amplified indicator of Industrial Production”,

The "She Loves Me Not" Economy - The Ceridian-UCLA index, a real-time fuel consumption index for trucking has weakened again. Edward Leamer, Chief Economist of the Ceridian-UCLA Pulse of Commerce Index describes the economy as “She loves me, she loves me not”,  The last three months have been flirting with contraction and the trend since mid-2010 is for ever-slowing growth.  Leamer writes "The PCI has consistently posted growth on a year-over-year basis for over two years. However, the rate of growth has slowed considerably and consistently since the middle of 2010. In May, the Index actually dipped slightly into negative territory before recovering in June — thus the “Whew!” in the figure. The July result was again positive, but at 1.0 percent, was far from robust. On an upbeat note, year-over-year comparisons will likely remain positive, perhaps substantially so, for the remainder of this year in light of the comparatively weak performance comparison to August through December last year."

Retail Sales increased 0.5% in July - On a monthly basis, retail sales increased 0.5% from June to July (seasonally adjusted, after revisions), and sales were up 8.5% from July 2010. From the Census Bureau report: The U.S. Census Bureau announced today that advance estimates of U.S. retail and food services sales for July, adjusted for seasonal variation and holiday and trading-day differences, but not for price changes, were $390.4 billion, an increase of 0.5 percent from the previous month, and 8.5 percent above July 2010. ... The May to June 2011 percent change was revised from +0.1 percent to +0.3 percent. Retail sales excluding auto also increased 0.5% in July. This graph shows retail sales since 1992. This is monthly retail sales and food service, seasonally adjusted (total and ex-gasoline). Retail sales seemed to stall in March, but are now moving higher again.

Retail Sales Continue To Rise In July - Some analysts say there may be a recession coming, but you wouldn’t know by looking at retail sales. Today’s update on consumer purchases for July shows a surprising resilience in the data. Seasonally adjusted retail sales were up 0.5% last month, the U.S. Census Bureau reports. That’s the second monthly increase. In fact, other than May’s modest retreat, retail sales haven't had a down month in more than a year. The annual trend look even better, and since this is more telling it’s also more encouraging. Retail sales are up 8.5% in July over the year-earlier period, as the chart below shows. That’s about as good as it gets, which is to say that the annual pace of retail sales has rarely been stronger on an annual basis.

Consumer Sentiment declines sharply in August - The preliminary August Reuters / University of Michigan consumer sentiment index declined sharply to 54.9 from 63.7 in July.  In general consumer sentiment is a coincident indicator and is usually impacted by employment (and the unemployment rate) and gasoline prices. However I think this month was different. I think consumer sentiment declined sharply because of the heavy coverage of the debt ceiling debate (update: this was polled before the S&P downgrade). This was well below the consensus forecast of 63.0.

Consumer Sentiment Hits Lowest Level Since 1980 - U.S. consumer sentiment dropped to its lowest point in more than three decades in early August, as fears of a stalled recovery gelled with despair over government policies, a survey released on Friday showed. The Thomson Reuters/University of Michigan's preliminary August reading on the overall index on consumer sentiment came in at 54.9, the lowest since May 1980, down from 63.7 in July. It was well below the the median forecast of 63.0 among economists polled by Reuters. High unemployment, stagnant wages and the protracted debate over raising the U.S. government debt ceiling spooked consumers,polled before the downgrade of U.S. sovereign debt by Standard &Poor's. "Never before in the history of the surveys have so many consumers spontaneously mentioned negative aspects of the government's role," survey director Richard Curtin said in a statement.The survey's gauge of consumer expectations slipped to 45.7, also the lowest since May of 1980, from July's 56.0 and below a predicted reading of 55.3.The Obama administration received poor ratings from 61 percent of respondents, the worst showing among all prior heads of state.

Consumer sentiment at 30-year low in US - US consumer sentiment is at its worst for more than three decades, suggesting that a destructive argument about the debt ceiling, a ratings downgrade from Standard & Poor’s and a plunge in the stock market are feeding back into an economic slowdown.The Thomson Reuters/University of Michigan index fell to 54.9, far below the median forecast of 63.0 and significantly off July’s score of 63.7. The index is normally between 90 and 100 in good economic times and suggests deep pessimism amongst households. Consumer sentiment is not always a good guide to what households will actually do, but it is a disturbing sign for the economy, because it suggests that bad economic headlines are knocking public confidence. Ian Shepherdson, chief US economist at High Frequency Economics, said the numbers reflect the dramatic gains and losses in the stock market, and that solid spending numbers were better indicators of the overall economy.  “The numbers are terrible. It looks horrendous, but you have to remember, when you are looking at retail sales and GDP, it is numbers that count, not sentiment.”

Consumer Sentiment Plummets To Low Not Seen Since 1980 - Just as it seemed the bad news about the economy couldn’t get much worse, a new nugget of data was released Friday: U.S. consumer sentiment plummeted to a low not seen since 1980.According to survey data released by Thomson Reuters and the University of Michigan, the mood of the nation’s consumers in August was abysmal, raising concerns about any prospect of an economic turnaround.There’s not a lot of mystery behind the numbers, as consumers have been buffeted by weeks of bad economic headlines: a political deadlock over the government’s debt ceiling, a widening economic crisis in Europe and wild gyrations on the stock market. Economists pay close attention to consumer confidence as a driver of economic growth, given that consumer spending makes up roughly 70 percent of gross domestic product. According to Reuters, the survey was taken before the historic decision by Standard & Poor’s to downgrade the nation’s credit rating:"Never before in the history of the surveys have so many consumers spontaneously mentioned negative aspects of the government's role,"

Shaken consumers rein in spending - John Bresnihan was going to buy a new car - until fears of another recession gave him cold feet. “I feel like I can’t get into a big purchase right now.’’ Consumers like Bresnihan are a key reason policy makers, analysts, and financial markets are increasingly worried about the direction of the US economy. The rate of consumer spending - which drives about two-thirds of economic activity - fell sharply in the second quarter, according to a recent report from the Commerce Department. Weak consumer spending underlies what has been a lackluster and now slowing recovery. Should consumers continue to pull back, it could push the nation into a deeper slump. The recent stock market turmoil is almost certainly going to weigh heavily on consumer confidence. Typically, when the stock market surges, people feel wealthy, even if only on paper; when stocks plummet, people tend to close up their wallets. “Consumers right now are more followers than leaders. They are still getting their balance sheets in order,’’  “At this point, consumers can’t be expected to lead the economic recovery.’’

Consumers Are Miserable, but Still Shopping For Now - Watch what they do, not what they say. Consumers in early August say their view of the U.S. economy is the worst since 1980 — a time covering the only back-to-back recessions in modern history. But consumers shopped at a solid pace in July and into early August. The divergence between feelings and actions suggests the consumers fear the economic consequences of Washington shenanigans. Friday brought two key readings on the consumer sector. The Commerce Department reported July retail sales rose a solid 0.5%. Excluding autos, sales were also up 0.5%, better than expectations. Later, however, the Thomson Reuters/University of Michigan survey showed consumer sentiment in early August plunged to 54.9 from 63.7 at the end of July. The current sentiment fell to 69.3 from 75.8, while the expectations index freefell to 45.7 from 56.0. Both the overall sentiment and expectations indexes were at their lowest since 1980.

Cut in household spending points to recession - Recession signals in the world’s largest economy are flashing red again. Growth in the second quarter slowed to a pace that has typically been followed by a contraction within a year. Household spending fell in June for the third straight month; never in the past five decades has this happened outside of a slump. The Standard & Poor’s 500 Index plunged 16.8 percent in 11 days, performance that’s occurred only twice since at least 1970 without indicating a downturn.  “With so many red flags, the chances of a recession are rising,” said Jonathan Basile, a senior economist at Credit Suisse in New York. “A lot of the economic indicators are teetering. We’ve gone very quickly from a slowdown scare to a recession scare.” Signs that the flagging U.S. recovery may fizzle haven’t been lost on Federal Reserve Chairman Ben S. Bernanke and his colleagues, who pledged this week to hold interest rates at a record low through at least mid-2013. Officials said they “discussed the range of policy tools” to strengthen growth and are “prepared to employ these tools as appropriate.” “Downside risks to the economic outlook have increased,”

U.S. Consumer Confidence Drops to Three-Decade Low Amid Economic Headwinds - Confidence among U.S. consumers plunged in August to the lowest level since May 1980, adding to concern that weak employment gains and volatility in the stock market will prompt households to retrench. The Thomson Reuters/University of Michigan preliminary index of consumer sentiment slumped to 54.9 from 63.7 the prior month. The gauge was projected to decline to 62, according to the median forecast in a Bloomberg News survey.  Estimates of 69 economists for the confidence measure ranged from 59 to 66.5, according to the Bloomberg survey. The index averaged 89 in the five years leading up to the recession that began in December 2007.

Most Americans can’t afford a $1,000 emergency expense - When the unexpected strikes, most Americans aren't prepared to pay for it. A majority, or 64%, of Americans don't have enough cash on hand to handle a $1,000 emergency expense, according to a survey by the National Foundation for Credit Counseling, or NFCC, released on Wednesday. Only 36% said they would tap their rainy day funds¹ for an emergency. The rest of the 2,700 people polled said that they would have to go to other extremes to cover an unexpected expense, such as borrowing money or taking out a cash advance on a credit card.  "It's alarming," . "For consumers who live paycheck to paycheck -- having spent tomorrow's money -- an unplanned expense can truly put them in financial distress," she noted.

Gasoline Prices expected to decline sharply - Since I haven't posted on gasoline prices in some time ... from Ronald White at the LA Times: Gas prices expected to fall "If oil remains low, the national average for gasoline will fall to $3.25 to $3.40 in the next two to three weeks as retailers slowly lower their prices to reflect their drop in cost," said Patrick DeHaan, senior energy analyst for GasBuddy.com, a website that lists retail gasoline prices.Another price decline would be good news, but it just takes us back close to the late February and early March levels - and March is when Personal Consumption Expenditure (PCE) growth slowed, and consumer sentiment fell sharply. Quick charts: 1 Month | 3 Month | 6 Month | 9 Month | 1 Year | 18 month | 2 Years | 3 Years | 4 Years | 5 Years | 6 Years

Most Americans say U.S. on wrong track: poll (Reuters) - Economic fears are weighing heavily on Americans, with a large majority saying the United States is on the wrong track and nearly half believing the worst is yet to come, a Reuters/Ipsos poll said on Wednesday. The poll reflected growing anxiety about the U.S. economy and frustration with Washington after a narrowly averted government default last week, a credit rating downgrade by Standard & Poor's, a stock market dive and a stubbornly high 9.1 percent jobless rate. The Reuters/Ipsos poll found 73 percent of Americans believe the United States is "off on the wrong track," and just one in five, 21 percent, think the country is headed in the right direction. The survey found that 47 percent believe "the worst is yet to come" in the U.S. economy, an increase of 13 percentage points from a year ago when this question was last raised.

Trade Deficit increased in June - The Department of Commerce reports: [T]otal June exports of $170.9 billion and imports of $223.9 billion resulted in a goods and services deficit of $53.1 billion, up from $50.8 billion in May, revised. June exports were $4.1 billion less than May exports of $175.0 billion. June imports were $1.9 billion less than May imports of $225.8 billion. The trade deficit was well above the consensus forecast of $48 billion. The first graph shows the monthly U.S. exports and imports in dollars through June 2011. Both exports and imports decreased in June (seasonally adjusted). Exports are well above the pre-recession peak and up 13% compared to June 2010; imports are almost back to the pre-recession peak, and up about 13% compared to June 2010. The second graph shows the U.S. trade deficit, with and without petroleum, through June.  The blue line is the total deficit, and the black line is the petroleum deficit, and the red line is the trade deficit ex-petroleum products. Oil averaged $106.00 per barrel in June, down from $108.70 per barrel in May. There is a bit of a lag with prices, and import prices will fall further in July.  The trade deficit with China increased to $26.7 billion; trade with China remains a significant issue.

U.S. trade gap for June widens unexpectedly - Largest deficit since October 2008, at height of the financial crisis - The U.S. trade deficit widened unexpectedly in June, reaching its highest level in almost three years as the nation’s exports were held in check by the global slowdown, according to government data Thursday.  The gap between imports and exports expanded 4.4% to $53.1 billion from $50.8 billion in May, the Commerce Department said.  The biggest factor behind the June deficit was a 2.3% decrease in exports, the largest monthly decline since December 2008. Analysts surveyed by MarketWatch had expected the deficit to narrow to $48.2 billion. The deficit had jumped a revised 16.5%to $50.8 billion in May.The widening of the deficit in June suggests a downward revision to second-quarter gross domestic product.

If You Believe the Market Reacts to Information - The bad news of the day is that about $5B ($5,000,000,000) more than previously believed went to buy goods made in China, Japan, non-major South and Central American countries, and other places outside the U.S. Per the Vampire Squid, this should cause a revision to Q2 US GDP from 1.3% to 0.9%.  The good news of the day is that weekly unemployment claims were "only" 395,000. The net result, at least as of 2:00pm is that the major equity indices are up by at least 3.80% (DJIA). The early articles claim that was because of the "good" news. And the scary thing is, they're correct. In the 193 weeks since the recession started,* there have only been 39 where initial claims were below 395,000, and two (including the current, possibly-to-be-revised week) that were at that level.  But, especially as none of Harry Reid's appointees to The Grand Ripoff appear to believe that Jobs would do more good for balancing the budget than the Super Commission, it appears that three-quarters of that August body will be working solely on the numerator, not the denominator, of the Debt/GDP ratio

Productivity, Profits, and Job Growth - An AP article on the latest productivity data from the Bureau of Labor Statistics (BLS) was a bit confused on the relationship between productivity, profits, and job growth. The article noted the 0.3 percent decline in productivity reported for the second quarter. This followed a decline of 0.6 percent in the first quarter. It suggested that this could be bad for hiring since it would reduce corporate profits and leave them with less money to hire additional workers.Actually, slower productivity growth can be good for hiring. Increased productivity and hiring are alternative ways for meeting additional demand for labor. If employers find that they can't get more productivity out of the existing workforce, then they have no choice but to hire more labor (which could mean overtime) in order to meet an increase in demand. Profits on the other hand tend to be very weakly correlated with employment growth. Firms will not hire more workers just because they have higher profits, they hire more workers when they feel they have the demand for additional workers. This is why hiring was very weak in 2010 even though profits had bounced back to their pre-recession level. It is also worth noting that productivity is poorly measured and the data are subject to large revisions.

NFIB: Small Business Optimism Index declines in July - From the National Federation of Independent Business (NFIB): Small Business Optimism Index Continues Downward Trajectory For the fifth consecutive month, NFIB’s monthly Small-Business Optimism Index fell, dropping 0.9 points in July—a larger decline than in each of the previous three months—and bringing the Index down to a disappointing 89.9. This is below the average Index reading of 90.2 for the last two-year recovery period.  The first graph shows the small business optimism index since 1986. Optimism has declined for five consecutive months now. The second graph shows the net hiring plans for the next three months. Hiring plans were slightly positive in July.  According to NFIB: “While the national unemployment rate dipped marginally, for the nation’s small businesses, the employment story is not a positive one. Twelve percent (seasonally adjusted) reported unfilled job openings, down 3 points. Over the next three months, 10 percent plan to increase employment (down 1 point), and 11 percent plan to reduce their workforce (up 4 points), yielding a seasonally adjusted 2 percent of owners planning to create new jobs, 1 point lower than June, leaving the prospect for job creation bleak." Weak sales is still the top business problem with 23 percent of the owners reporting that weak sales continued to be their top business problem in July.

We need a jobs bill, Mr. President -The White House, once again, is pivoting to jobs. And once again, it is doing so in a way that’s unlikely to create any. Several weeks ago President Obama embarked on a manufacturing tour, highlighting its role in job creation. Few paid attention. Nothing changed. Next week, the president will try again. In the wake of a debt-ceiling deal that is certain to harm an already fragile economy, the president is embarking on a bus tour through the Midwest to talk about jobs.¹ It’s not clear what the administration expects will come from such a tour, save for a few local news stories in a few midsized media markets. For an economy desperate for bold action, for a people desperate for some genuine relief, this surely won’t cut it.  Obama used to say on the campaign trail that we can’t keep doing the same thing over and over again and expect a different outcome. He was right. Isn’t it high time he take his own words to heart?

Beyond Infrastructure - The topic of the moment, in the wreckage of the debt ceiling fight and the S&P downgrade, is to ask what the government can do to boost employment.  The data from Gennaro Zezza’s most recent post suggest that one of the answers to this question is “stop firing so many people.” Beyond stemming the losses in government payrolls, what else can be done to actively create jobs? Jared Bernstein points out that the administration’s current proposals contain two ideas that would maintain demand rather than boosting it, and one idea that would stand a chance of helping:  investing in repairing roads and bridges.  Due to the relative capital intensity of this last item, however, Bernstein suggests that an infrastructure program focused on repairing and retrofitting schools would have a more dramatic employment effect. The Levy Institute’s Rania Antonopoulos, Kijong Kim, Thomas Masterson, and Ajit Zacharias have looked at another solution to this problem.  Their research concludes that while the case for physical infrastructure investment is compelling, there is a public works approach that would deliver an even more impressive bang for the buck:  investment in social care.

Trumka Turns Up Pressure for Jobs - AFL-CIO President Richard Trumka has posed a mighty challenge to President Barack Obama: When it comes to job creation, offer solutions that match the scale of the problem. In an appearance on MSNBC Monday, Mr. Trumka said the nation needs a jobs agenda that amounts to more than just “sound bites” from U.S. leaders. During a conference call with reporters Friday, Mr. Trumka was more specific, saying he wants to see Mr. Obama apply the same urgency to job creation as he did to the debt ceiling crisis. Ditto for other politicians, said Mr. Trumka, whose recommendations include everything from the creation of an infrastructure bank to more aid for state and local governments.The labor leader has been quiet about the details of the closed-door meeting he and his general board had with Mr. Obama at the White House last Tuesday morning. But on Friday, he said it was a “frank, open discussion” about job creation and the economy.“We told him exactly how we feel about the economy,” said Mr. Trumka, which likely means he shared his disgust with the debt ceiling agreement he believes will destroy 1.8 million jobs. “We asked him to do everything he can to create jobs … we asked him to do it at the scale that will solve the problems, not at the scale that Republicans are willing to accept,”

Kucinich on Creating Jobs in America - Yves Smith - (two videos) I normally steer away from political posts, but this two part interview with Dennis Kucinich on Keith Olbermann’s Countdown focuses on economic issues. The interviewer was throwing softballs, but the critique of Obama was blunt. Is a primary challenge in the offing?

Jobless Claims Fall Below 400k For The First Time Since April - New jobless claims slipped under 400,000 last week on a seasonally adjusted basis for the first time in four months. That’s hardly an all-clear signal for the economy, but at least you can argue that the numbers on this important forward-looking indicator aren’t getting any worse. It’s still open for debate if the trend is getting any better, although as we’ll discuss in a minute there’s some good news to consider. Meantime, last week’s new filings for unemployment benefits dipped to 395,000 from 402,000 previously. That puts the latest number at its lowest level since the week through April 2. In addition, new claims remain under their four-week moving average for the third week running.

Note on Unemployment Claims - Calculated Risk just posted the weekly unemployment claims.  I note the form of the bump up this year is entirely consistent with the view that the economy's main H1 problem was a mild oil shock beginning in about Feb/March with the sudden withdrawal of Libyan oil from the global economy.  Note that the slight elevation in new claims has been declining in recent weeks - just as global oil supply has been growing again.  In particular the advance figure for last week was 395,000.  Thus the recent stock market declines do not seem to have led to any increase in US layoffs, at least not so far. As long as there is no new banking crisis, I don't see why the US economy is about to enter recession.

July employment-trends gauge ticks lower‎ --- A gauge of employment trends ticked lower in July, and weak employment growth is expected through the end of the year, according to a Monday report from the Conference Board. The private research group said its employment-trends index, which is designed to forecast turning points in employment, fell 0.3% in July from the prior month, but is 4% higher than in the prior year. The Conference Board expects employment growth of less than 100,000 jobs per month through the end of this year, below levels that are consistent with strong hiring. "There is simply not enough growth in production to warrant stronger hiring," said Gad Levanon, an economist at the Conference Board. The employment-trends index is made up of eight labor-market indicators, such as the number of job openings.

Total Employment in the US Falls Again - Total employment in the United States fell in July by 38,000 people, from 139.334 to 139.296 million. This was a much smaller loss than the previous month. However, once again the average number of total employed for the current year is in decline. My forecast is that by next year, after revisions and the complete data, 2011′s average—currently at 139.55 million–will fall below 2010′s average of 139.07 million. | see: United States Total Employment in Millions (seasonally adjusted) 2001-2011.  Just as we learned with recent GDP revisions, which showed the economy had still not eclipsed the 2007 highs in real terms, total employment in the United States continues on a flat to downward path. Slowly but surely, America is coming to accept there was no sustainable economic recovery after 2008. Indeed, the economy is still very much tied down to the conditions of that financial crisis, and will be mired there for several more years.

Labor Statistics and Confidence Intervals - According to the BLS establishment survey, non-farm private and public employment rose by 117,000 jobs in July.   http://bls.gov/news.release/empsit.b.htm.  This number was better than the consensus forecast of growth of 85,000 jobs.  It led at least one business economist to say we have "avoided the precipice. "But can a monthly number really tell us that?  The technical notes for the employment report says the 90 percent confidence interval for the establishment survey is 100,000 jobs.  This means the estimate has a standard error of about 100,000/1.64 or about 61,000 jobs.  To the distance between the consensus forecast and the actual number reported is slightly more than 1/2 a standard deviation.  This means we can be only about 60 percent sure that the employment number was better than forecast, which is a little better than a coin flip.

Beneath Jobs Report Surface Lie Some Ugly Truths - As is usually the case, there is far more than meets the eye to the Labor Department's report that the economy added 117,000 jobs last month and the unemployment rate fell to 9.1%. Let's start with the reality that fewer people actually were working in July than in June. According to a Bureau of Labor Statistics2 breakdown, there were 139,296,000 people working in July, compared to 139,334,000 the month before, or a drop of 38,000. But the job creation number was positive and the unemployment rate went down, right? So how does that work? It's a product of something the government calls "discouraged workers," or those who were unemployed but not out looking for work during the reporting period. This is where the numbers showed a really big spike—up from 982,000 to 1.119 million, a difference of 137,000 or a 14 percent increase. These folks are generally not included in the government's various job measures. So the drop in the unemployment rate is fairly illusory—stick all those people back in the workforce and you wipe out the job creation and the drop in unemployment.

Look Again - July Jobs Declined by 198,000 - The 117,000 represent just one part of the Labor Department's monthly reporting of employment, what are called the "B" tables.  Many smaller to medium-sized businesses are not included in the CES report and "B" tables, nor are most of the millions of non-incorporated proprietorships or the nearly ten million self-employed. The latter three groups are reflected in the Labor Department's "A" tables, in a second survey on jobs each month called the Current Population Survey, or CPS.The CPS reflects best the job hiring and layoffs by small- and medium-sized businesses. So, why didn't they show up in the July Labor Department jobs report? Well, they did: in the CPS report - i.e. where most small businesses and self-employed are recorded - in contrast to the "payroll" CES report where they aren't. But not one business press story in a major business daily or weekly referred to the CPS report's results, except to note that the unemployment rate - a statistic from the CPS report - fell slightly to 9.1 percent.So, what did the jobs numbers for July show? Total net gains in employment, which is really what is important, declined by -198,000 in the July CPS report. In other words, there were 198,000 fewer non-agricultural workers employed in July than in the previous month of June!

By One Survey, Fewer Jobs Than 2 Years Ago -The job numbers every month come from two different surveys, which sometimes point in different directions. The establishment survey questions employers, and produces one headline number. This month it concluded that, seasonally adjusted, the economy added 117,000 jobs in July. The household survey asks people if they are working, and is used to calculate the unemployment rate. The two surveys do not cover the same thing: Self-employed people are not counted in the establishment survey. But someone with two jobs may be counted twice. Add in issues of sampling error, and they can diverge for long periods of time. But it is interesting to observe that the total number of people with jobs in the household survey in July was 139,296,000. That figure is half a percent less than the figure in June 2009, when the recession officially ended. The unemployment rate is lower only because there are fewer people in the work force. The establishment survey looks a little better. It shows employment up half a percent since the end of the recession.

US Economy Has To Generate 256K Jobs Per Month Until The End Of Obama's Second Term To Regain Lost Jobs Since December 2007 - In our monthly update on how many jobs have to be created by the end of Obama's potential second term, when accounting for the 90K per month natural growth in the labor pool, we now get a new record of 256K jobs per month, up from 254K last month. In other words, to regain all the losses in the labor force since the December 2007 start of the great depression, which at this point are 10,596,000 when adding the 3,870,000 growth in the labor force over that period together with the 6,726,000 cumulative jobs lost, somehow America needs to add 16,356,500 jobs over the next 64 months. Good luck America.

BLS: Job Openings "essentially unchanged" in June - From the BLS: Job Openings and Labor Turnover Summary The number of job openings in June was 3.1 million, essentially unchanged from May. The following graph shows job openings (yellow line), hires (purple), Layoff, Discharges and other (red column), and Quits (light blue column) from the JOLTS.  Note: The difference between JOLTS hires and separations is similar to the CES (payroll survey) net jobs headline numbers. This report is for June, the most recent employment report was for July.. Notice that hires (purple) and total separations (red and blue columns stacked) are pretty close each month. When the purple line is above the two stacked columns, the economy is adding net jobs - when it is below the columns, the economy is losing jobs. In general job openings (yellow) has been trending up - and job openings increased slightly again in June - and are up about 16% year-over-year compared to June 2010. Overall turnover is increasing too, but remains low. Quits decreased slightly in June, but have been trending up - and quits are now up about 4% year-over-year.

Two-and-a-half years of a job-seeker’s ratio above 4-to-1 - Today’s Job Openings and Labor Turnover Survey (JOLTS) release from the Bureau of Labor Statistics shows that the number of job openings increased by 75,000 in June. The total number of job openings in June was 3.1 million, and the total number of unemployed workers was 14.1 million (unemployment is from the Current Population Survey). The ratio of unemployed workers to job openings was thus 4.5-to-1 in June, an improvement from the revised May ratio of 4.6-to-1, but still extremely high.  By comparison, in December 2000 the job-seeker’s ratio was 1.1-to-1, and the highest this ratio ever got in the early 2000s downturn was 2.8-to-1.

U.S. Employers Holding Back on Job Creation - Gallup's Job Creation Index was at +14 in July. This is not much different from the +15 of June and is the same as the +14 of May. Job creation continues to be flat -- it has been in the +12 to +15 range since February -- but remains above 2009 and 2010 levels, and below those of 2008. The Job Creation Index score of +14 in July is based on 32% of workers nationwide saying their employers are hiring and 18% saying their employers are letting workers go. The percentage of employees saying their employer is reducing staff size has been in the 18% to 19% range over the past six months. The percentage saying their employer is hiring employees and expanding its workforce has been in the 30% to 32% range over the same period.

Postal Service plans to cut 120,000 jobs: report - The U.S. Postal Service is proposing to cut 120,000 jobs by 2015 and withdraw its employees from federal health and retirement plans, The Washington Post reported Thursday, citing a notice to employees. Some of the 120,000 cuts would come from buyouts but a significant number would come from layoffs. Union contracts prohibit those layoffs so the plan would need Congress's approval, the report said.

Postal Service asks Congress to allow 120000 layoffs, overhaul benefits -- Hundreds of thousands of postal workers could soon lose their jobs, or face drastic changes to their benefits.  According to documents obtained by CNNMoney, the United States Postal Service is appealing to Congress to remove collective bargaining restrictions in order to lay off 120,000 workers. It also wants congressional approval to replace existing government health care and retirement plans.  The post office claims it needs to eliminate 220,000 positions, or more than 30% of its staff by 2015, but only 100,000 of those positions can be made through attrition. The other 120,000 must come from lay offs, according to the documents.  "To restore the Postal Service to financial viability, it is imperative that we have the ability to reduce our workforce rapidly," the USPS wrote.  The USPS is also asking Congress to change legislation that requires postal workers to get federal health care and retirement benefits. Instead, the Postal Service would replace them with its own benefit plans.

July 2011 Jobs: Teens Hit New Low - Teens hit a new low in July 2011, with 1,667,000 fewer teens counted as having jobs than were counted as being employed in November 2007, the previous peak in total employment in the United States.  As a frame of reference, just 4,244,000 teens were counted as being employed in July 2011, as compared to 5,911,000 in November 2007 - the month before the peak in the previous cycle of economic expansion, which marks the beginning of the most recent recession.  Overall, 38,000 fewer people were counted as having jobs in July 2011 than in the previous month, with 55,000 fewer teens (Age 16-19) and 51,000 fewer young adults (Age 20-24). Those job losses were offset by a gain of 68,000 jobs held by individuals Age 25 or older, holding the net loss in jobs from June 2011 to July 2011 to just 38,000.  Finally, since bottoming in December 2009 with 8,624,000 fewer jobs recorded than in November 2007, the number of jobs regained in the 20 months since then total 1,336,000, representing an average monthly increase of 66,800. As a result, the total number of recorded jobs lost since November 2007 now stands at 7,288,000.

High Teen Unemployment Molding 'Lost Generation' - The Labor Department's latest unemployment report offered a small sign of hope, with the nation's jobless rate dipping to 9.1 percent in July. But the new numbers also showed that teen unemployment is still on the rise, now at 25 percent. Across the country, 16- to 19-year-olds are facing the end of the third summer in a row of unemployment rates above 20 percent. Economists warn that if the trend continues, a generation of young people could face a bleak future in the workforce. Not Making The Cut Jacquan Clark, 16, would have liked a job this summer, but he says the competition among his teenage peers is brutal. "It's like crabs in a barrel," the Washington, D.C. resident says. "We're trying to all get jobs, but we're also pulling each other back because we want the jobs." The teen unemployment rate is the highest in the nation's capital. In June, it stood at 49 percent, according to the latest figures from the business-backed Employment Policies Institute. Nationwide, that figure is 25 percent, according to the Labor Department's jobs report for July.

Union Workers Stand Up to Extreme Demands from Verizon More than 40,000 workers -- members of the Communications Workers of America and the International Brotherhood of Electrical Workers -- went on strike this week after Verizon refused to even begin to bargain fairly with the workers. The workers on strike include "telephone field technicians, call center workers and cable installers from Massachusetts to Virginia." Verizon has canceled multiple bargaining sessions and refuses to back down from any of their original concession requests, something that flies in the face of the basic idea of negotiating. Workers say they are prepared to return to work as soon as management shows a willingness to sit down and work out a fair agreement.  Verizon had a $6 billion profit last year (on revenues of $108 billion) and just paid a $10 billion dividend. Over the last four years, the company has a total of more than $19 billion in profits. Verizon's profits not only make them one of the richest and most successful companies in the country, they are outperforming the overall communications industry. The company's chair, Ivan Seidenberg makes more than 300 times what the average Verizon worker makes. The top five executives have been paid more than $250 million in the past four years. On top of all this, it turns out Verizon not only paid $0 in federal taxes last year, they also received $1 billion in subsidies. Verizon is looking for $1 billion in concessions, an average of $20,000 per family that is supported by a Verizon worker, and will not back down from any of their demands. The workers, on the other hand, have shown a willingness to make concessions, particularly when it comes to health care benefits.

Unemployment Discrimination: Who’s Afraid To Hire The Jobless? - Job advertisements that require applicants to be "currently employed" are easy to find online. Yet attempts to trace the origins of such discriminatory job ads yield plenty of "It wasn't me" responses from the companies involved. Many of the businesses insist they don't want to screen out the unemployed and blame the discriminatory language on the middlemen directly responsible for placing the ads. Discrimination against people who are out of work is a phenomenon that's been in the news since last year, and lately it has been getting a lot more attention. Democrats in both chambers of Congress now want to make it a federal crime. A recent report by the National Employment Law Project, a worker advocacy group, called out 73 businesses for asking in job postings that applicants be currently employed. "This perverse catch-22 is deepening our unemployment crisis by arbitrarily foreclosing job opportunities to many who are otherwise qualified for them," NELP said in the report. The Huffington Post reached out to half the organizations cited in the report, and nineteen responded.

Not all in the same boat--and our boats are sinking » A recent article by Evan MacDonald in the June 2011 issue of Consumer Report states that: "In 23 of the past 24 months, lower income Americans have lost more jobs than they've gained. Meanwhile, more affluent Americans seem to be gaining more jobs than they're losing." To hear millionaire Congressmen and TV pundits, poverty only exists in Third World countries while America is rapidly becoming one itself. In the US, poor people are euphemistically referred to as "the struggling middle class" while Third World poverty that is now enveloping Detroit and Camden threatens to consume Erie, Pennsylvania. It is one thing to be poor, but quite another to have the deck stacked further against you by the compounding ills of poverty through legal and social structures that are, simply put, unfair. "Equal Justice Under the Law" is inscribed above the doorway to the US Supreme Court. But when the laws are unjust, when moneyed interests shape jurisprudence and public policies and the poor are excluded and forced to bear the all the costs of a "free market"; the hope implied by that inscription rings hollow for many.

The return of the white/non-white wealth gap - RACE matters when it comes to wealth. Even after you control for income differences, whites have more wealth than black and Hispanic Americans.  The reasons for the gap remain unclear. Some suggest it's the terrible legacy of government policies in America that kept black Americans from owning property. This can have a persistent effect because it's harder to accumulate wealth when your parents can't help you pay for education or buy a home. There is probably something to that. But economists Joseph Altonji and Ulrich Doraszelski found that money from relatives could not explain a large part of the wealth gap. They suspect the wealth gap might be due to different saving behaviour or gaps in stock ownership—minorities often don't own stock, which typically (though not always) pays higher turns. They also found that a large part of the gap can be explained by differences in entrepreneurship; black Americans are less likely to own a business. That may be because they have less wealth to start a business to begin with or it could be a cultural legacy of the discriminatory government policies. You’re more likely to start a business if your parents did too.Even more worrying: my colleague points us to a new report from the Pew Research Centre which found that the wealth gap deepened following the financial crisis. The ratio of median white to black wealth is at its highest level in 24 years.

Nickel and Dimed (2011 Version) - At the time I wrote Nickel and Dimed, I wasn’t sure how many people it directly applied to -- only that the official definition of poverty was way off the mark, since it defined an individual earning $7 an hour, as I did on average, as well out of poverty. But three months after the book was published, the Economic Policy Institute in Washington, D.C., issued a report entitled “Hardships in America: The Real Story of Working Families,” which found an astounding 29% of American families living in what could be more reasonably defined as poverty, meaning that they earned less than a barebones budget covering housing, child care, health care, food, transportation, and taxes -- though not, it should be noted, any entertainment, meals out, cable TV, Internet service, vacations, or holiday gifts. Twenty-nine percent is a minority, but not a reassuringly small one, and other studies in the early 2000s came up with similar figures. The big question, 10 years later, is whether things have improved or worsened for those in the bottom third of the income distribution, the people who clean hotel rooms, work in warehouses, wash dishes in restaurants, care for the very young and very old, and keep the shelves stocked in our stores. The short answer is that things have gotten much worse, especially since the economic downturn that began in 2008.

Income inequality is bad for rich people too - Yves Smith - One of the major fights in the debt ceiling battle is how much top earners should contribute to efforts to close deficits. Australian economist John Quiggin makes an eloquent case as to why they need to pony up:My analysis is quite simple and follows the apocryphal statement attributed to Willie Sutton. The wealth that has accrued to those in the top 1 per cent of the US income distribution is so massive that any serious policy program must begin by clawing it back.If their 25 per cent, or the great bulk of it, is off-limits, then it’s impossible to see any good resolution of the current US crisis.And the fares of the have versus the have-nots continue to diverge. A new survey found that 64% of the public doesn't have enough funds on hand to cope with a $1000 emergency. Wages are falling for 90% of the population. And disabuse yourself of the idea that the rich might decide to bestow their largesse on the rest of us. Various studies have found that upper class individuals are less empathetic and altruistic than lower status individuals. This outcome is not accidental. Taxes on top earners are the lowest in three generations. Yet their complaints about the prospect of an increase to a level that is still awfully low by recent historical standards is remarkable. Given that this rise in wealth has been accompanied by an increase in the power of those at the top, is there any hope for achieving a more just society? Bizarrely, the self interest of the upper crust argues in favor of it. Profoundly unequal societies are bad for everyone, including the rich.

Inequality is bad for (almost) everyone - Yves Smith is guestblogging for Glenn Greenwald this week. Her latest post sums up a lot of evidence on the adverse effects of inequality, and includes a reference to a post of mine. In summary, the huge growth of inequality in the US has harmed everyone below the 90th percentile of the income distribution in the obvious way – they get a smaller share of a cake that isn’t growing very fast, and has been shrinking since the crisis began But even people above that level, but outside the top 1 per cent are worse off in important ways. They’ve maintained or increased their share of national income, but they aren’t rich enough to insulate themselves fully from the adverse consequences of living in a highly unequal society. Yves sums up a bunch of the evidence on this. Finally, there are those in the top 1 per cent of the income distribution, now pulling in 25 per cent of all income. Members of this group can, if they choose, ignore the collapse of the society outside their gated communities, and focus on enjoying the wealth they extract from it. On recent evidence, that’s what they (or at least their political representatives) are doing, while also managing a very effective set of divide and rule tactics for the rest of the population.

Are You Ready To Be Very, Very Angry? Listen to JPMorgan Explain Profit on Food Stamps...- We all need to pay attention to the riots in London. And in Greece. And in Egypt. And in Syria. And the bubbling discontent all over the globe. I thought that when we went into our next World War it might be Greece or before that Russia. But the events from around the globe show the masses rising up against the over reaching and abusiveness of the banks, the corporations and the white collar criminal oligarchies that rule the globe. Number of people receiving food stamps up 40% over the last two years~! And just guess who’s scraping massive amounts of money off this number? THE BANKS. Yes, that’s right, believe it or not the banks are shoving their hands into the pockets of the poorest among us and taking massive profits. A lot of of stores take food stamps, it’s an increasingly large part of Wal Mart’s revenue. 85% of food stamps are redeemed at warehouse stores…. This has all got to stop. It is going to stop. The only question is just how bad are things going to get when the merry go round does stop. Just take a look at the streets of London. Look at the faces. Compare those faces with the steely cold resolve of the JP Morgan banker in this video:

Nebraska attorney general compares welfare recipients to hungry raccoons - Employing a confusing metaphor initially intended to argue against environmental regulations, Nebraska Attorney General Jon Bruning (R) wound up comparing welfare recipients to raccoons scavenging for insects. Bruning is widely considered among the top contenders to replace Nebraska’s retiring Democrat Sen. Ben Nelson. This video was captured by liberal advocacy group American Bridge 21st Century, published to YouTube on August 7, 2011." 

Poverty, Joblessness, and the Job Guarantee - (chart) A recent report on the State of America’s Children revealed distressing statistics. More than 1 in 5 children live in poverty in the U.S., by far the most impoverished age group in the nation. Between 2008 and 2009 child poverty jumped 10%, the single largest annual jump in the data’s history. While the U.S. is the wealthiest nation in the world in terms of GDP (and # of billionaires), it ranks last in relative child poverty among all industrialized nations. Overall we have 46.3 million people in poverty in the U.S. (the largest number in the postwar era), which is 14.3% of the total population—a percentage that has been trending up since 2000. Two of the primary causes of poverty are the skewed income distribution in the U.S. and the high levels of unemployment.

U.S. Births Decline in 2010 - This provisional data for 2010 was released in June and shows a possible impact of the serious recession ... From the National Center for Health Statistics: Recent Trends in Births and Fertility Rates Through 2010. The NCHS reports (provisional):  The provisional count of births in the United States for 2010 (12-month period ending December 2010) was 4,007,000. This count was 3 percent less than the number of births in 2009 (4,131,019) and 7 percent less than the all-time high of 4,316,233 births in 2007.  The provisional fertility rate for 2010 was 64.7 births per 1,000 women aged 15–44. This was 3 percent less than the 2009 preliminary rate of 66.7 and 7 percent less than the 17-year high of 69.5 in 2007. Here is a long term graph of annual U.S. births through 2010 ...Births have declined for three consecutive years, and are now 7% below the peak in 2007. I suspect certain segments of the population were under stress before the recession started - like construction workers - and even more families were in distress in 2008 through 2011. Of course it takes 9 months to have a baby, so families in distress in 2010 probably put off having babies in 2011 too.

9 States That Are Slashing Unemployment Benefits - Around 14 million people in the U.S. are jobless today. Yet, several states, even some that are experiencing economic recoveries, have begun to cut jobless benefits, according to recent data obtained by 24/7 Wall St. This is another example that the unemployment problem has become more insidious. Federal and state governments use two milestones—26 weeks and 99 weeks—to determine unemployment insurance payments and when they are terminated. The number of people out of work for each of these time periods, or longer, grows. States with the highest unemployment also tend to have the most financial trouble themselves. This is due to low tax receipts caused in large part by the high unemployment level. . A second group of states, some of which have begun strong recoveries, has also begun cutbacks. Governors and legislators of these states want to decrease budget deficits both by taking advantages of improved economic positions and through austerity programs for state costs.. We reviewed the just released report on state unemployment law by the National Employment Law Project. The report identifies the states that are reducing their unemployment insurance coverage. The nine that are reducing benefits this year did so by either cutting the number of eligibility weeks or by reducing the payment amount.

States have closed $527 B budget gap since 2007 - The budget gap faced by state governments has totaled more than $527 billion since 2007, forcing lawmakers to slash state spending nationwide, according to data released Tuesday at the National Conference for State Legislatures. When drafting budgets for the upcoming year - and in some states the next two years - lawmakers forecast slow to moderate economic growth and expect to make fewer cuts. But that was before the recent political turmoil over the debt ceiling, a precipitous drop in the stock market and the downgrading of government bonds. Analysts predict lawmakers will face budget shortfalls totaling $89 billion in 2012, less than the $145 billion shortfall they faced in 2011. "If you look at how states have dealt with this, it has primarily not been through tax increases, but primarily through budget cuts or, over the last few years, through the use of federal stimulus dollars,"

Monday Map: State Interest Payments - With so much recent discussion of the fiscal outlook of the federal government, it's worth looking at the solvency of state governments as well. Today's map shows how much interest on their debt the states pay as a percentage of their direct spending.

July California Tax Revenues Plunge More Than 10% Below Expectations - Even as the Fed continues to pretend that keeping interest rates at zero for what is now becoming apparent will be an infinite amount of time is an appropriate substitute for the absence for the elimination of actual cash flows, we once again get a reminder that life in the real economy, there were people can not just print their way out of trouble, practical issues such as reality still matter. One such example comes to us by way of California which just announced that state tax revenue plunged in July, falling more than 10% below expectations, and as the LA Times blog says, "making it more likely that deeper cuts to public schools built into the state budget in case of a stalled economic recovery will occur." It adds: "Gov. Jerry Brown and state lawmakers patched up the final $4 billion of California’s budget shortfall this year by hoping for a windfall economic recovery. Those hopes are now fading fast. Tax collections in July were $538.8 million below budget forecasts, according to state Controller John Chiang."

California Revenue Falls 10.3% Short of Forecast in July-- California, the most populous U.S. state, collected $538.8 million, or 10.3 percent, less revenue in July than projected as higher taxes adopted in 2009 expired. Sales taxes were 12.5 percent, or $139.4 million, below forecasts, while corporate taxes were down 19.3 percent, or $69.5 million. Personal-income taxes were 2.9 percent, or $89 million, higher than projected in May, Controller John Chiang said in a statement. The July numbers widen the gap between actual receipts and additional revenue on which Governor Jerry Brown and Democrats based their new budget, Chiang said. That $86 billion spending plan signed into law June 30 cut spending by $12 billion and counted on $4 billion in higher-than-forecast tax revenue from a recovering economy."While July's revenues performed remarkably similar to last year's, they still did not meet the budget's projections," Chiang said in the statement. "While we hope for better news in the months ahead, every drop in revenues puts us closer to the drastic trigger cuts that could be imposed next year."

State agencies told to prepare for up to $1.7 billion in cuts - The continued economic slump brought more bad news for state government this morning, as Gov. Chris Gregoire ordered agencies to prepare for another round of budget cuts next year of up to 10 percent, or $1.7 billion. That would be on top of the $4 billion in recession-driven cuts that lawmakers agreed to when they approved the two-year budget in May. The memo from Gregoire's budget director, Marty Brown, cited the weakened economic outlook since the session ended. "Given economic conditions, as well as the uncertain impact on states of pending federal budget reductions, there is a distinct possibility we will face further revenue losses in the coming year," Brown wrote.

Gregoire warns Washington state agencies of deeper cuts - Rattled by global economic uncertainty, Gov. Chris Gregoire has asked state agency leaders and front-line workers to start getting ready for budget cuts as deep as 10 percent, or $1.7 billion, in January – in case state revenue plunges again. Marty Brown, the governor’s budget director, sent a cautionary memo Monday to agency budget directors, outlining each agency’s share of the potential cuts. Gregoire sent her own email message to line workers, asking for their help to find ways to deliver key services while streamlining government even more. “Part of the key to fighting this recession is to continue working to get ahead of it,” Gregoire’s message to workers said. “For every two steps forward in the recovery, it seems we are taking one step back. Though our revenue collections have continued to show slight improvement this biennium, our near-term outlook has weakened.”

A County in Alabama Puts Off Bankruptcy - Officials in troubled Jefferson County, Ala., rebuffed a settlement offer with creditors on Friday but refrained from declaring bankruptcy, saying they wanted to try to reach a better deal in face-to-face negotiations with their lenders. In a public meeting, the county’s five commissioners read a list of proposed terms for refinancing about $3.2 billion of defaulted debt and found fault with almost all of them.  “It looks like a burden on the people,” said Sandra Little Brown. “The only tool that we have, as a commission, to protect the people is Chapter 9.”  The thing keeping her from using that tool, she said, was a call Friday morning from Gov. Robert Bentley, who urged her and the other commissioners to avoid bankruptcy because it could ripple out and hurt the credit of the whole state. The governor said that if the county kept working toward a settlement, he would push for help from the State Legislature. Until now, the statehouse has shown virtually no interest in helping the county as it sinks under the huge debt, incurred during an attempt to rebuild its failing sewer system.

Illinois Budget Doesn’t Address Pension Payment Backlog, Moody’s Says - The Illinois fiscal 2012 budget doesn’t address the state’s “sizeable backlog of unpaid bills and an unsustainable ascent” in spending for pension benefits, Moody’s Investors Service said in a report.  The increase in state corporate and individual income tax- rates that took effect in January will contain growth in total liabilities of almost $120 billion, and the budget ends a practice of issuing bonds to pay current-year expenses, Moody’s said in a “special comment” yesterday.  Still, the tax increases are a short-term solution because the rates decrease in 2015, leaving the state with a “significant funding burden” to meet its unfunded pension liability of about $80 billion and the likelihood that late payments to vendors will persist, Moody’s said.  “The state may be able to use increased tax revenue to chip away at its large balance of past-due budgetary payment obligations, but it has not adopted a comprehensive plan to do so,” the company said.

Muni Market Prepares for Loss of AAA Ratings as S&P Downgrades U.S. Credit - The $2.9 trillion municipal bond market is preparing for “hundreds and hundreds” of downgrades after Standard & Poor’s lowered the U.S. one level to AA+, the first-ever reduction for the country. S&P is likely to cut its ratings on municipal debt secured by the federal government, such as pre-refunded bonds, tax- exempts backed by U.S. agencies, and credits that are most dependent on federal spending,  JPMorgan Chase wrote in an Aug. 5 report distributed after the federal downgrade. The New York-based ratings company said it would release a statement on state and local issuers today.“There will be hundreds and hundreds of municipal downgrades, which will not do well to bolster investor confidence,” . “Treasuries may be able to shake off a real impact from the downgrade. Munis I’m less sure about.”

Muni Market Prepares For "Hundreds And Hundreds" Of Downgrades Tomorrow - While the impact on Treasurys as a result of the downgrade may be limited (after all the other side of the Atlantic is about as ugly as the US, so where could $8 trillion in marketable USTs practically go... at least for now), the same may not be said about the far smaller, $2.9 trillion municipal market, which is about to see a blanket downgrade tomorrow as S&P warned on Friday night, and of which Matt Fabian of Municipal Market Advisors earlier said that 'There will be hundreds and hundreds of municipal downgrades, which will not do well to bolster investor confidence.' The scary bit: 'Treasuries may be able to shake off a real impact from the downgrade. Munis I’m less sure about.' Indeed, with futures already trading, and most risk assets experiencing a brief knee jerk reaction on a global coordinated PPT response by the G-7, there is still little clear understanding of what will really happen to not only the traditional system but to shadow liabilities such as repos and money markets. And munis are just one part of all of this. So what will happen if tomorrow the muni market starts unravellling, as Whitney, among so many others, has predicted? For that we turn to JP Morgan's Peter DeGroot for some quick observations."

S&P Cuts AAA Ratings on Thousands of Municipal Bonds After U.S. Downgrade - Standard & Poor’s lowered the AAA ratings of thousands of municipal bonds tied to the federal government, including housing securities and debt backed by leases, following its Aug. 5 downgrade of the U.S. The rating company assigned AA+ scores to securities in the $2.9 trillion municipal bond market including school- construction bonds in Irving, Texas; debt backed by a federal lease in Miami; and a bond series for multifamily housing in Oceanside, California. Olayinka Fadahunsi, an S&P spokesman, said he couldn’t provide a dollar figure on the affected debt. S&P also cut ratings on securities backed by Fannie Mae and Freddie Mac, prerefunded issues and munis repaid by using federal assets, also known as defeased or escrow bonds. No state general-obligation ratings were affected and the company said some may remain unchanged.

Does the downgrade mean more U.S. towns will go bankrupt?  - Standard & Poor’s announced another wave of downgrades on Monday, lowering the credit ratings that affect thousands of cities, school districts, public housing and transportation projects directly linked to federal funds. The municipal bond downgrades ranged far and wide -- from financing Jets Stadium to building a high school in Montana’s Hill County -- but all were “explicitly linked to federal funds or are paid from funds appropriated at the federal level,” says Gabriel Petek, a senior S&P analyst. The muni bond market weakened on Tuesday after the list was released. Will this mean higher lending rates for states and cities? And will it push towns already on the brink of financial collapse over the edge into default? Not necessarily. Overall, Chapter 9 filings by municipalities have actually gone down in the first half of 2011, as compared to 2010 and 2009, as have municipal defaults overall, defying popular predictions last year that the U.S. would soon experience “a tsunami of municipal bankruptcies and defaults.”

Are Rating Agencies Now Trying to Mug Rich Municipalities? - Yves Smith - A savvy and cynical reader sent me this story from the Boston Globe yesterday, “Rating agency downbeat on Mass. communities.” We wanted to show readers that we are not merely after Standard & Poor’s but all sorts of rating agency incompetence and socially destructive behavior. Key extracts:Moody’s Investors Service has assigned a “negative outlook’’ to the credit ratings of a dozen affluent Massachusetts communities and two regional school districts, in an ominous sign of how the national debt crisis and economy woes threaten the financial health of cities and towns.The communities, which ranked among the state’s wealthiest, maintained their sterling AAA credit ratings for now, but Moody’s said it would be carefully watching them for signs they should be downgraded, signs like a sharply deteriorating national economy or a downgrade in the federal debt.The Moody’s review, which put five states and 161 AAA-rated local governments on the negative-outlook watch list, found that Massachusetts was second only to Virginia in the number of communities at risk, largely because both states’ economies are highly dependent on federal spending….

Mayor defends $150M property tax hike to fund Chicago schools - Mayor Rahm Emanuel said Tuesday he doesn’t relish the idea of raising property taxes by a record $150 million, but the Chicago Public Schools have made $400 million in cuts and more money is needed to “protect the classroom.” Emanuel said his handpicked school team led by CEO Jean-Claude Brizard has followed his “cut-and-invest” mandate by reining in a notoriously bloated school bureaucracy while making strategic investments that impact student learning and safety. As a result, 6,000 more students will attend full-day kindergarten, 2,500 more slots will be made available at magnet schools, teaching academies will double — from 7 to 14 — and there will be five more charter schools. Fourteen schools will also get state-of-the-art camera systems to improve student security. “I said I was gonna protect the classroom. We not only protected the classroom. We’ve expanded educational choices and opportunities for parents [who] rely on the school system while other school systems are cutting back,”

FAST: An infrastructure program to repair public schools - A national infrastructure project designed to improve public schools and facilities would benefit students and teachers and put hundreds of thousands of people back to work. In a new proposal released today, Mary Filardo of the 21st Century School Fund, Jared Bernstein of the Center on Budget and Policy Priorities and Ross Eisenbrey of the Economic Policy Institute propose the enactment of a new program, Fix America’s Schools Today, or FAST, designed to fund the maintenance and repair of public schools in the United States. The current backlogs of school maintenance and repair projects are worth between $270 billion and $500 billion—at a time when state and local governments and school districts are facing unprecedented budget crunches.  At the same time, the U.S. is facing an unemployment crisis; within the construction industry alone, 1.5 million workers are unemployed.  Maintenance and repair of school buildings and facilities would provide students with an educational environment both safer and more conducive to learning and enable school districts to attract and retain quality teachers while simultaneously enabling hundreds of thousands of unemployed workers to find good-quality jobs in their communities. Read the proposal (PDF)

Mich. cuts food stamps for 30,000 college students -- Michigan says it has removed about 30,000 college students from its food assistance program since it began enforcing federal guidelines this spring.  Michigan Department of Human Services Director Maura Corrigan tells The Detroit News for a story published Monday that's about twice as many as officials expected and it's expected to bring about $75 million a year in savings.  The state earlier announced that beginning in April students must show "true need" to reap benefits from the program. Officials say Michigan previously had created its own rules that made nearly all students eligible for aid that's commonly known as food stamps.  Corrigan says it's part of an effort to change the culture of the state's welfare department and slash tens of millions of dollars of waste, fraud and abuse.

Recession Widened Education Gap in Job Market - A college education pays big dividends in today’s job market. But it doesnt always feel like that. “I dont know that Id say its much of an advantage,says Rachel Klemm, 25. After getting laid off as a graphic designer a year ago, she spent months looking for work before finding a job as an administrative assistant at a Grand Rapids, Mich. engineering firm. “It’s not really the kind of thing I want to be doing long term,” she says. But while Labor Department figures show that workers with four-year college degrees face the toughest job market on record, for workers with less education, it’s been far tougher. Last week’s jobs report showed that the unemployment rate for workers 25 and over with at least a bachelor’s degree was 4.3% in July, down from a September 2009 of high of 5%, but more than double the 2.1% registered when the recession started in December 2007. There are 2.5% more people with bachelor’s degrees working now than were working at the end of 2007 — the unemployment rate rose because the pool of college-educated workers expanded at an even faster rate.

The Coming Education Revolution - From Metafilter: Stanford’s ‘Introduction to Artificial Intelligence’ course will be offered free to anyone online this fall. The course will be taught by SebastianThrun (Stanford) and PeterNorvig (Google, Director of Research), who expect to deal with the historically large course size using tools like Google Moderator. There will two 75 min lectures per week, weekly graded homework assignments and quizzes, and the course is expected to require roughly 10 hours per week. Over 10,000 students have already signed up. In 2003, I argued that professors were becoming obsolete, giving a 10 to 20 year time for a big move to online education. Later, I pointed out that the market was moving towards superstar teachers, who teach hundreds at a time or even thousands online. Today, we have the Khan Academy, a huge increase in online education, electronic textbooks and peer grading systems and highly successful superstar teachers with Michael Sandel and his popular course Justice, serving as example number one. One of the last remaining items holding back online education is a credible system to credential and compare student achievement across universities. Arnold Kling has that covered with a new business model.

Company Pension Underfunding Jumps by $97 Billion as Economic Growth Slows -Corporate pensions in the U.S. are falling behind future payouts to retirees by the most this year as the U.S. economy slows, driving down bond yields that determine the plans’ future obligations.  The gap between the assets of the 100 largest company pensions and their projected liabilities has widened by $97 billion in August to $351 billion, actuarial and consulting firm Milliman Inc. said today in a statement. That compares with the record $446 billion deficit in August 2010. “July was a brutal month for these pensions,”. “Unfortunately it looks like we may be in for more bad news, with August off to a miserable start.”  Company pensions are a casualty of record low bond yields, a benchmark in determining future liabilities, that have been driven down by mounting concern that the U.S. economy is stalling. Pension plan assets fell $6 billion in July, while liabilities increased $62 billion, according to Seattle-based Milliman. Assets declined $64 billion and liabilities increased $33 billion between Aug. 1 and Aug. 8.

CalPERS portfolio has lost $18 billion in value since July 1 - After posting its best annual performance in 14 years, the California Public Employees' Retirement System is giving back a sizable portion of the 20.7% investment return it reported for the fiscal year that ended June 30.   The value of the country's largest public pension fund was $220 billion at market's close on Monday, down 7.6% or about $18 billion, CalPERS said Tuesday. "It's bad, but it's not 2008," said Joseph Dear, CalPERS' chief investment officer, in an interview on CNBC. "We have a crisis induced by lack of confidence in the U.S. and European political systems, combined with gloomier and gloomier economic growth forecasts." Wall Street's massive stock sell-off that began last week "is a tipping point," Dear said, "but it's not a time to panic and run with fear out of the market." CalPERS was underweight in its stock portfolio at the close of the last fiscal year and now is "considering whether we can go back in" to make long-term investments, Dear said.

"Be Wary of Entitlement Reform" - I stumbled on this Robert Samuelson op-ed piece via Marginal Revolution. I think Tyler Cowen was impressed with this sentence: Older Americans do not intend to ruin America, but as a group, that’s what they’re about. The key argument Samuelson wants to make is that Social Security and Medicare are not income protection programs, but welfare to the middle class. He trots out this: ...some elderly live hand-to-mouth; many more are comfortable, and some are wealthy. The Kaiser Family Foundation reports the following for Medicare beneficiaries in 2010: 25 percent had savings and retirement accounts averaging $207,000 or more; among homeowners (four-fifths of those 65 and older), three-quarters had equity in their houses averaging $132,000; about 25 percent had incomes exceeding $47,000 (that’s for individuals, and couples would be higher). Dean Baker had a reaction as he quickly notes that Samuelson defines down wealthy: Let's see, we have retirees who have their Social Security checks, plus a stash of $207,000. If someone at age 62 were to take that $207,000 and buy an annuity this money would get them about $15,000 a year

Medicare costs for hospice up 70% - Medicare costs for hospice care have increased more than in any other health care sector as for-profit companies continue to gain a larger share of the end-of-life medical market, government records show.From 2005 through 2009, Medicare spending on hospice care rose 70% to $4.31 billion, according to Medicare records. A recent report by the inspector general for Health and Human Services, which oversees Medicare, found for-profit hospices were paid 29% more per beneficiary than non-profit hospices. Medicare pays for 84% of all hospice patients. At the same time, some of the nation's largest for-profit hospice companies are paying multimillion-dollar settlements for fraud claims and facing multiple investigations from state and federal law enforcement agencies.

Medicare Regulation Causes Shortages of Cancer Drugs - For months, I've been hearing about shortages of drugs--ADHD drugs, cancer drugs, various other generics. The shortages have been variously attributed--crappy Chinese links in the supply chain are a perennial favorite--but Ezekial Emmanuel had an op-ed in the New York Times this weekend which offered those most compelling explanation I've yet seen for the phenomenon.  The underlying reason for this is that cancer patients do not buy chemotherapy drugs from their local pharmacies. Instead, it is their oncologists who buy the drugs, administer them and then bill Medicare and insurance companies for the costs. The Medicare Prescription Drug, Improvement and Modernization Act of 2003, signed by President George W. Bush, put an end to this arrangement. It required Medicare to pay the physicians who prescribed the drugs based on a drug's actual average selling price, plus 6 percent for handling. And indirectly -- because of the time it takes drug companies to compile actual sales data and the government to revise the average selling price -- it restricted the price from increasing by more than 6 percent every six months. The act had an unintended consequence.  The low profit margins mean that manufacturers face a hard choice: lose money producing a lifesaving drug or switch limited production capacity to a more lucrative drug.

Appeals court strikes down health overhaul requirement that most Americans must buy insurance — A federal appeals panel’s ruling striking down the centerpiece of President Barack Obama’s health care overhaul moves the question of whether Americans can be required to buy health insurance a step closer to the U.S. Supreme Court.A divided three-judge panel of the 11th Circuit Court of Appeals ruled Friday that Congress overstepped its authority when lawmakers passed the so-called individual mandate, the first such decision by a federal appeals court. It’s a stinging blow to Obama’s signature legislative achievement, as many experts agree the requirement that Americans carry health insurance — or face tax penalties — is the foundation for other parts of the law and key to paying for it. Administration officials said they are confident the ruling will not stand. The Justice Department can ask the full 11th Circuit to review the panel’s ruling and will also likely appeal to the Supreme Court. Legal observers long expected the case would ultimately land in the high court, but experts said Friday’s ruling could finally force the justices to take the case.

Long-Term Care in International Perspective - As societies age, the cost of long-term care is going to rise. A May 2011 OECD report-- Help Wanted: Providing and Paying for Long-Term Care--lays out many of the issues. Long-term care is a broader category that what we usually think of as health care. The OECD report defines the term this way: "Long-term care is the care for people needing support in many facets of living over a prolonged period of time. Typically, this refers to help with so-called activities of daily living (ADL), such as bathing, dressing, and getting in and out of bed, which are often performed by family, friends and lower-skilled caregivers or nurses."While the United States spend much more per capita on health care than other high-income countries, the share of Americans receiving long-term care is quite low compared to many other countries. OECD projections also suggest that U.S. spending on long-term care as a share of GDP will stay below the OECD average in coming decades.

The Salmon Deserve Better - Last week, for the third time in nearly a decade, Judge James Redden of the United States District Court in Portland, Ore., rejected as inadequate a federal plan claiming to save imperiled salmon species in the Columbia River basin. These fish have been listed as endangered or threatened under the Endangered Species Act since the early 1990s, their once-remarkable annual runs reduced to a trickle by habitat destruction and by the hydroelectric dams that impede their passage to the sea.  Three different administrations have offered survival plans. All three have been found wanting. Judge Redden, who has shown a great deal of patience and sagacity on this issue, tossed out a Clinton administration plan as too vague and a plan from the administration of George W. Bush as essentially illegal. The law requires the recovery of a species; the Bush plan promised little more than allowing the fish to go extinct at a slower rate.

EPA yanks tree-killing herbicide Imprelis off market - DuPont announced that it is conducting “broad scientific and stewardship reviews” after the U.S. Environmental Protection Agency pulled its herbicide Imprelis off the market Thursday. In its Stop Sale, Use, or Removal Order, the EPA said that DuPont had test data that showed its herbicide Imprelis was harmful to Norway spruce, balsam fir and other trees when it was given EPA approval last August. Despite that test data, DuPont “does not warn or caution about potential damage to trees,” the EPA said. There was nothing in the labeling or instructions that indicated that it could hurt certain species of trees, the EPA said.

Report details 2,000 unhealthy air alerts in 2011 - You may have thought bad air pollution was on the way out, but not so. A report from the Natural Resources Defense Council counts more than 2,000 code orange alerts in U.S. communities and national parks from Jan. 1 to early August. Code orange means the air’s too unhealthy for people with lung disease, older adults and children. NRDC, a pro-environmental advocacy group, is hoping the Environmental Protection Agency will consider this as they prepare to release new clean air standards. “Too many Americans are breathing unhealthy air this year,” says the NRDC’s John Walke. “Orange is the dividing line between whether people play outside or decide to stay indoors that day.” One reason for the high numbers may be the extreme heat waves over much of the country. In 1994, another year with lots of heat waves, it “was a notorious example of a bad air year. I’m betting this year will be a notorious year too,” he says.

Smaller Crops Forecast by U.S. After Planting Delays, Heat Wave - Corn, soybean and spring-wheat harvests in the U.S., the world’s largest exporter, will be smaller than the government forecast last month after a damaging heat wave that may signal higher costs for food and biofuel. The U.S. Department of Agriculture cut its corn-crop estimate by 4.1 percent, reduced the soybean forecast by 5.2 percent, and said spring-wheat production will be 5.2 percent below what it predicted in July. The harvests for all three crops would be less than expected by analysts surveyed by Bloomberg. Parts of the Midwest, the main growing region, were the hottest since 1955 last month. Smaller supplies of corn may increase costs for ethanol refiners such as Poet LLC, Archer Daniels Midland Co. and Valero Energy Corp. and meat producers Tyson Foods Inc. and Smithfield Foods Inc., which buy the grain for feed. The price of corn, the biggest U.S. crop, jumped 68 percent in the past year before today.

Monsanto enters into market for fresh sweet corn - Monsanto Co. is expanding its reach -– into the grocery store's produce aisle. The company said it plans to launch this fall a genetically modified sweet corn seed for farmers to grow. The corn, once ripe, would be harvested and then be carried in grocery stores in the U.S. and Canada. Though biotech sweet corn is already sold in many grocery stores in California and across the country, the news marks the first time the St. Louis-based biotech giant has rolled out a product for a consumer-oriented food that has been genetically altered to let farmers spray their fields with Monsanto's Roundup herbicide. This so-called “triple-stack” sweet corn -– meaning the hybrid has genetic modifications that have three additional traits that allow it resistance to insects and the Roundup herbicide –- is the company’s first foray into the relatively small market for this sort of produce. (Farmers plant about 250,000 acres of sweet corn for human consumption in the U.S., according to analysts and company officials. Corn raised to be turned into sugar, oil, animal feed or used as fibers makes up 92.3 million acres in the U.S., according to the U.S. Department of Agriculture.)

Monsanto plans farm trials for drought-tolerant corn - Monsanto Co. will begin farm trials of its drought-tolerant corn seed next spring, marking the global seed giant’s first roll-out of seeds genetically engineered for harsh environmental conditions. The introduction comes as drought and searing heat this summer have withered crops across the U.S. South. The new biotech corn seed still needs water to grow healthy plants, but is designed to use moisture more efficiently, “We’re not talking about being able to grow corn in a desert,” said Post. “We’re not going to make them whole. But every bushel counts.” Monsanto is working to sign up about 250 U.S. farmers in the western corn belt – Nebraska, Kansas, South Dakota, Colorado and Texas – for planting next spring.

Hottest Month On Record For Oklahoma - Here's a story from the Oklahoma Mesonet: "According to data from the Oklahoma Mesonet, the statewide average temperature during July came in at 89.1 degrees, more than 7 degrees above normal. High temperatures alone were nearly 9 degrees above normal at 102.9 degrees. The National Climatic Data Center's statewide average for July stands at 88.9 degrees with data still being collected. Both values shattered the country’s previous record of 88.1 degrees held by another legendary hot month in Oklahoma, July 1954." More details from the Oklahoma Mesonet:

Drought Cripples the South: Why the 'Creeping Disaster' Could Get a Whole Lot Worse - It begins with a few dry weeks strung end to end, cloudless skies and hot weather. Lawns brown as if toasted, and river and lake levels drop like puddles evaporating after the rain. Farmers worry over wilting crops as soil turns to useless dust. But for most of us, life goes on normally, the dry days in the background — until the moment we wake up and realize we're living through a natural catastrophe. Weather experts like to call drought the "creeping disaster." Though it destroys no property and yields no direct death toll, drought can cost billions of dollars, its effects lasting for months and even years. The writer Alex Prud'homme compares drought to a "python, which slowly and inexorably squeezes its prey to death." This summer, the python has gripped much of the South, from the burned fringes of Arizona — singed by record-breaking wildfires — to usually swampy Georgia. Ground zero is Texas, which is suffering through the worst one-year drought on record, with the state receiving just 6 in. (15 cm) of rain since January. At the end of July, a record 12% of the continental U.S. was in a state of "exceptional drought" — the most severe ranking given by the National Drought Mitigation Center. More than 2 million acres (800,000 hectares) of farmland in Texas have been abandoned, streets are cracking as trees desperately draw the remaining moisture from the ground, and ranchers whose pasturelands have gone dry are selling off cattle by the thousands. . "The damage to our economy is already measured in billions of dollars and continues to mount."

The Great Dry State of Texas: The Drought That Wouldn't Leave Has Lone Star Farmers Scared - The weather forecast has become a mantra of triple-digit temperatures and endless, cloudless blue skies, all symbolized by a giant H on the weather map, set among a sea of scarlet. That giant high-pressure dome has sat atop the state for over 30 days, and with August now under way, no relief is in sight. (See the massive wildfires caused by months of drought.) The nine months from October 2010 through June of this year were the driest nine months on the books since the state began keeping records in 1895, according to the Lower Colorado River Authority (LCRA), which oversees Central Texas' vast system of lakes, dams and rivers that produces water and power for urban and rural customers alike. The Austin area is 16 in. below normal for rainfall, according to LCRA, while counties to the east of the Texas capital have a 20-in. deficit. The Highland Lakes were built in the 1930s and '40s, damming up sections of the Colorado River to help provide water and control flooding. This year the lakes are shrinking as the water retreats. Increased water use by a growing population and evaporation means the lakes will continue to fall 1 ft. a week until October

Texas Drought: A Fingerprint - Drought has a variety of impacts. Some droughts can hit agriculture hard. Others affect water supplies. Others affect fire danger. Most affect all three, to varying extents. The length and timing of the drought relative to such things as the growing season determines the impact profile. I like to compare drought intensities through a type of diagram I created.  I call it the Drought Fingerprint Diagram. It’s drawn relative to a particular month of the year. Here, we’ll talk about the July diagram. The x-axis is the number of months of accumulated precipitation. Suppose the precipitation in July 1993 at a particular location was 2.00 inches. Then the one-month data point for 1993 would be at 2.00″. If June 1993 brought 1.50″ of precipitation, the two-month accumulation would be a total of 3.50″, so that’s the value plotted at two months. Another 3.00″ of rain back in May means that the three-month total is 6.50″, and that’s what’s plotted at three months. And so on, as far back as you’d like to go.. Here’s such a diagram for Texas for the period 1898-2010:

New Texas Dust Bowl Spurs Record Cotton Loss - The worst Texas drought in more than a century has left cotton-crop conditions that rival the Dust Bowl of the early 1930s, forcing farmers to abandon more fields than ever before.  Most growers will at least break even this year from insurance claims, with the reimbursement rate on policies higher than the price of New York cotton futures, according to a Bloomberg News survey of seven analysts, brokers and farmers.  “The number and severity of claims in the Texas Panhandle, High Plains, rolling plains and backlands will be substantially higher than recent years,” said Ted Etheredge, president of Lubbock, Texas-based Armtech Insurance, the fifth-largest U.S. writer of federally sponsored crop-insurance policies. “The drought is severe, so non-irrigated acreage in most areas had emergence issues, and now irrigated crops are suffering.”  Harvest prospects in the U.S., the world’s largest exporter, have dimmed this season as Texas endured the worst drought since record-keeping began 116 years ago. Prices rallied from a 10-month low two weeks ago and are 22 percent higher than a year ago, boosting costs for apparel makers including Levi Strauss & Co. and Hanesbrands Inc., and Hennes & Mauritz AB (HMB), the world’s second-largest clothing retailer.

EIA: High temperatures drove record electricity demand and very high wholesale prices in Texas - Sustained 100+ °F (38+ °C) daily high temperatures in Texas last week led to new electric power demand records three days in a row, reported the US Energy Information Administration. ERCOT, the electric system operator for most of Texas, set demand records Monday, Tuesday, and Wednesday last week (1-3 August 2011), exceeding the prior record set 23 August 2010 by 2,518 megawatts (MW) (3.8%). On Thursday (4 August 2011), ERCOT did not break another all-time record, but probably only because they shed 1,500 MW of interruptible demand. To help lower demand, ERCOT also made a number of public appeals for conservation during the week.

U.S. Sees Most Extreme July Climate, Oklahoma Sees Hottest Average Temperature of Any State on Record - The July Climate Extremes Index for the CONUS was 37 percent. This is the highest July value in the CEI record (since 1910). The culprits were, in order of impact: Extreme warm minimum temperatures (60 percent of the country, easily the largest on record), extreme wet PDSI (soaked northern plains & western great lakes), extreme warm maximum temperatures, and extreme dry PDSI (south-central U.S. through Gulf Coast). According to the Regional CEI, the South and Southeast had their 1st- and 2nd-most extreme July’s on record, respectively. That’s from the July “State of the Climate” by NOAA’s National Climatic Data Center. Didn’t know that our government kept a Climate Extremes Index? Why would you? The media hardly ever write about it.

Investors see potential in buying farmland - A new breed of gentleman farmer is shaking up the American heartland. Rich investors with no ties to farming, no dirt under their nails, are confident enough to wager big on a patch of earth — betting that it’s a smart investment because food will only get more expensive worldwide.They’re buying wheat fields in Kansas, rows of Iowa corn and acres of soybeans in Indiana. And though farmers still fill most of the seats at auctions, the newcomers are growing in number and variety — a Seattle computer executive, a Kansas City lawyer, a publishing executive from Chicago, a Boston money manager. Buyers say soaring farm values simply reflect fundamentals. Crop prices have risen because demand for food is growing around the world while the supply of arable land is shrinking. The value of Iowa farmland has almost doubled in six years. In Nebraska and Kansas, it’s up more than 50 percent. Prices have risen so fast that regulators have begun sounding alarms, and farmers are beginning to voice concerns.

Is Food Demand Growth in Asia a Myth? - Jayati Ghosh has long detailed piece over at the Guardian's Poverty Matters Blog about world food prices. She argues forcefully that demand growth from China and India are not a driving force in rising food prices.  Instead, she says, it's all about ethanol subsidies and speculation. Ghosh presents a lot of convincing-sounding statistics.   I don't disagree with everything she's saying but she's definitely overstating her case. For now, a few key points:
1) Consumption does not equal demand.  Demand is the whole schedule of consumption quantities across a whole range of prices, and holding all else the same.  What's ominous is that Asian consumption is growing fairly fast despite rising prices and slowing population growth. 
2) Ghosh discusses coarse grains but omits oil seed.  The elephant in the room--which is closely connected to coarse grain markets--is soybeans.  Soybean production is a big source of growth in staple food production and Asia is sucking it up, big time.
3) Yes, ethanol is a big deal.  But that doesn't mean income growth in Asia isn't a big factor too.
4) Speculation has nothing to do with it.  If speculation were a driving force, we would see inventory declines. 

Food inflation hits three-month high in India - India's food inflation accelerated to a three-month high and exports grew at the fastest pace in at least 16 years, maintaining pressure on the central bank to raise interest rates amid the risk of a global downturn. An index measuring wholesale prices of farm products rose 9.9 per cent in the week ended July 30 from a year earlier, the most since April 23, according to the commerce ministry. Merchandise shipments jumped 81.8 per cent to $29.3 billion (Dh107.62 billion) in July, Commerce Secretary Rahul Khullar said in New Delhi yesterday. That's the biggest increase since April 1995, Bloomberg data show. Reserve Bank of India Governor Duvvuri Subbarao, whose term this week was extended by two years, has to weigh the risks to economic growth posed by Europe's sovereign-debt crisis as he tightens monetary policy to slow inflation. Exports may "slip" from next month because of weak overseas demand, Khullar said. "Inflationary pressures are definitely there and there is a case for increasing rates unless the global situation deteriorates dramatically,"

India food inflation edging close to double-digit - There seems to be no respite from rising food prices for the common man as official data released Thursday showed India's annual food inflation had risen sharply to 9.9 percent for the week ended July 30. Food inflation had spiked to 8.04 percent in the week ending July 23 after a brief lull. The latest rise in food inflation has been caused by rising prices of vegetables, especially onions, eggs, meat and fish, fruits and milk -- basically everything a household requires everyday. The primary articles index reported an increase of 12.22 percent for the week under review as compared to 10.99 percent in the previous week, according to data released by the Commerce and Industry ministry. The index for fuels and power, which has a 14.91 percent weight in the wholesale price index, inched higher at 12.19 percent percent during the week under review from 12.12 percent in the previous week. The headline inflation levels still remain close to double digits.

China's Growing Water Crisis - The country's per capita water resources just exceeded more than one-quarter that of the world average, and the distribution of those resources throughout the country is highly uneven. Northern China is home to approximately 40 percent of the country's total population and almost half its agricultural land, and produces more than 50 percent of GDP. But it receives only 12 percent of total precipitation. Southern China, in contrast, receives 80 percent of China's total precipitation, yet skyrocketing levels of water pollution dramatically reduce the south's natural advantage. Resources, particularly water, are consumed without consideration for future demand. Industry and agriculture are notoriously profligate water consumers: Industry, which accounts for about one-quarter of China's total water consumption, uses anywhere from four to 10 times more water per unit of GDP as other competitive economies. Water used for energy is a singularly important drain on China's scarce resources. By far, the largest portion of China's industrial water use is devoted to energy: The process of mining, processing and consuming coal alone accounts for almost 20 percent of all water consumed nationally. Hydropower raises the bar even further. Already the largest producer of hydropower in the world, China plans to triple hydropower capacity by 2020.

Famine in the Horn of Africa:  So why, when aid agencies saw the drought coming, couldn’t they help the starving sooner? -  Few places are less hospitable than Dadaab, a once tiny town in the far north-east. The sun is fierce, and swirling winds whip up the fine sand underfoot. The vegetation consists mainly of thorn trees. The town began to grow in the early 90s when Somalia descended into chaos and refugees starting pouring across the border, about 50 miles to the north. A refugee settlement designed for 90,000 people soon held more than 100,000, then 200,000, then 300,000. By early July this year, more than 1,500 Somalis were arriving at Dadaab’s three camps daily, swelling the population towards 400,000.In previous years, people were fleeing conflict. Now the main driver is hunger. A savage drought gripped large swaths of the Horn of Africa this year, as it has virtually every other year for the past decade. The drylands of Ethiopia and Kenya sit in the heart of the drought zone, along with southern Somalia. But only in Somalia were huge numbers of people on the move. And unlike in neighbouring countries, where nomads were the hardest hit, many of those fleeing Somalia were farmers from the grain basket region, who had enjoyed a bumper harvest last year and for whom Dadaab’s desert-like scenery would have been totally alien….

Russia forests burn for second successive year, breaking last year’s record 1 million hectares - Only a year ago Russia was overwhelmed by an exceptional heat wave, triggering hundreds of fires that destroyed thousands of hectares of woodland. Burning peat bogs around Moscow stifled the city in a thick cloud of bitter smoke. Now, Russia is burning again. Since the beginning of this year more than 1m hectares of forest have gone up in flames, or are still burning, outstripping the disastrous record of 2010. But the affected areas are more sparsely populated and far fewer people have been evacuated. The far north of Russia is among the areas that have suffered the most. During the last week of July, Arkhangelsk and the Komi republic had temperatures exceeding 35C. More than 80 fire outbreaks were reported. The far east has suffered too. At the beginning of August about 50 fires were raging, especially around Khabarovsk, Yakutsk and the island of Sakhalin. Southern Russia has not escaped: several villages have been evacuated around Rostov-on-Don and Volgograd, where temperatures rose above 40C in July.

The new normal: billion-dollar disasters - The National Climatic Data Center's (NCDC) latest "Billion Dollar U.S. Weather Disasters" report finds the U.S. has racked up more mega-expensive natural disasters in 2011 than ever before. So far we've suffered more than five times the huge disasters typical at this time of year. Already damage costs have reached nearly $32 billion. Compare that to the first half of the average year -- prior to the onset of "big" hurricane season -- between 1980 and 2010, where disaster costs typically run $6 billion. All told, the U.S. has suffered 99 weather-related disasters over the past 31 years, where overall damages and economic costs reached or exceeded $1 billion. The normalized losses (that is, the numbers adjusted for the GNP inflation index) add up to more than $725 billion for those 99 disasters.  So far, nine natural disasters, each totaling more than a billion dollars in losses, have befallen the U.S. this year. Here's the NCDC list:

Computer Models Show that Towing an Iceberg to a Drought Area Could Actually Work -  You may have heard of this scheme before: during periods of serious drought, a huge tugboat or fleet of tugboats could be tethered to an iceberg and hauled to areas where water is scarce, providing drinking water and irrigation stores to stave off famine. The idea was originally floated by an engineer named Georges Mougin in the 1970s, and though it was laughed out of development back then, it’s enjoying a kind of renaissance today. Dassault Systemes, the french software developer, has built a computer model of Mougin’s idea. And after 15 engineers ran the problem through their models, they found that the idea is more or less perfectly feasible. Towing an iceberg from somewhere around Newfoundland to the northwest coast of Africa would only take around five months and could still retain more than 60 percent of the iceberg’s mass. The downside: it would cost about $10 million.

Arctic Death Spiral: Sea Ice Passes De Facto Tipping Point - The Arctic is all but certain to be virtually ice free within two decades (barring extreme volcanic activity).  I’m happy to make bets with any bloggers, like Andy Revkin, who apparently believe otherwise. The recent scientific literature makes clear that while that death spiral could theoretically be reversed, it would require policies that climate science deniers have successfully demonized, policies many in the traditional media regularly pooh pooh or undercut. So we have passed a de facto tipping point, “the critical point in an evolving situation that leads to a new and irreversible development.”  If that wasn’t obvious from observations, then it should have been clear from a December study in Nature widely misunderstood by the media.  That study showed sea ice extent crashing by two thirds by the 2030s and then collapsing to near-zero shortly thereafter — unless we cut global GHG emissions about 60% to 70% almost immediately and have further cuts after that, an implausible assumption the authors never spelled out clearly (as I explain here).

Arctic Ice Thinning 4 Times Faster Than Predicted  - According to new research from MIT, the most recent global climate report fails to capture trends in Arctic sea-ice thinning and drift, and in some cases substantially underestimates these trends…. After comparing IPCC models with actual data, [lead author Pierre] Rampal and his collaborators concluded that the forecasts were significantly off: Arctic sea ice is thinning, on average, four times faster than the models say, and it’s drifting twice as quickly. I’m technically on vacation, so I don’t have time to respond to every misleading claim or inadequate study. But it’s very safe to say that two-dimensional analyses of sea ice trends — ones that don’t model ice thickness and hence ice volume — are going to miss crucial feedbacks and dynamic changes.  That is the central point of this new MIT study, which will be stunning only to those who don’t follow either this blog or the recent scientific literature.

GrowthBusters: A Groundbreaking Documentary for 2011 - Do concerns about water shortages, peak oil, species extinction, and deforestation keep you up at night? Do you experience dread thinking about overpopulation and unchecked consumption? Have you or your family ever wondered if there is a better gauge of happiness and success than the accumulation of more stuff and a rising GDP? If the answer is yes than don't wait another minute, contact the professionals: GrowthBusters!   Dave Gardner, producer, writer and director of the upcoming documentary, GrowthBusters: Hooked on Growth, on the other hand, is battling the intangible — the core beliefs and behaviors that keep us addicted to perpetual growth in a world with limits.  “I watched my hometown going to great lengths to turbocharge its growth, even as we were rationing water and watching traffic delays quadruple,” said Gardner. “That made me wonder what we were expecting to get from growth? Why were we willing to give up quality of life, clean air and abundant water? As I began to dig into this, I unearthed a monster: a nearly universal worship of growth everlasting. A film had to be made.”

U.S. May Ship More Coal, Raising EU Supply, Macquarie Says - The U.S. may increase coal exports, further boosting supply of the commodity in Europe, Macquarie Group Ltd. (MQG) said. “A big push” to encourage natural-gas burning in the U.S. may drive up coal exports to Europe, China and India, said Hayden Atkins, an analyst in London at Macquarie’s commodities unit. The closing of Germany’s nuclear plants will increase demand in that nation, Atkins said. U.S. steam-coal exports to Europe in the first quarter more than tripled from a year earlier to 4.9 million metric tons from 1.5 million tons, according to a report on the website of the U.S. Energy Information Administration. U.S. coal exports are at their highest level since 1992, it said. Exports to the Netherlands jumped to 1.1 million tons from 334,628 tons. Shipments to Germany went to 899,009 tons from 166,314 tons. Trade to the U.K. rose to 852,159 tons from 159,280 tons.

Army Forms Unit to Manage Development of Renewable Power Plants - The U.S. Army is forming a task force to work with developers that may spend as much as $7.1 billion over the next decade to build renewable power plants at U.S. military sites. The Energy Initiatives Office Task Force is expected to be established by Sept. 15, the Army said today in a statement. The task force will help the Army reach a target of getting 25 percent of its power from renewable sources by 2025, Army Secretary John McHugh said today in a conference call. “This is the right thing to do for the environment in this era of diminishing resources and the right thing to do for federal taxpayers,” McHugh said. The projects will be about 10 megawatts in size, Assistant Secretary of the Army for Installations, Energy and Environment Katherine Hammack said during the call. She didn’t say what renewable sources they would use or when they will be built.

90 Degree River Shuts Tennessee Nuclear Plant for Second Time - As oblivious as the proverbial frogs in slowly boiling water, we are beginning to experience the seemingly benign first years of catastrophic climate change. With the temperature in the Tennessee River approaching that of a nice warm hot tub, for a second summer in a row, three Tennessee Valley Authority nuclear power plants had to shut down this week. As temperatures across the South have skyrocketed in record-breaking heatwaves, the water in the Tennessee River, where the plants discharge their cooling water, is already a staggering 90 degrees. Because hot rivers are not good for fish, by law nuclear plants must not heat rivers above 86.9 degrees with their discharged water.  Summers like these make environmental niceties like not overheating rivers with nuclear cooling water a bit irrelevant, because the river in question is already as hot as a hot tub.

German Nuclear Shutdown Forces E.ON To Cut 11,000 Staff - The financial effects of the Fukushima nuclear power crisis continued on Wednesday as Germany's E.ON announced that plans by its government to shut the country's reactors in response to the Japanese disaster would result in up to 11,000 job losses. As fears mounted that the nuclear shutdown would significantly increase Germany's industrial operating costs – weakening its competitiveness in an already fragile global economy – E.ON announced a swing into the red, a dividend cut, the redundancies and profits warnings for the next three years. Germany's biggest utility, which on Friday announced an average 15% price rise for its five million domestic UK gas and electricity customers, took a €1.9bn (£1.7bn) charge relating to plant closures and a new tax on spent nuclear fuel rods, pushing the group to its first quarterly loss in 10 years – a second-quarter deficit of €1.49bn. E.ON was reporting a day after German rival RWE reported its own swing into deficit, reporting that €900m of decommissioning and tax costs dragged it to a €229m loss. This week's utility results are adding to concerns about the cost of closing all 17 of Germany's nuclear reactors by 2022 and making up the shortfall by doubling renewable energy output.

Greenpeace: Excessive radioactive cesium found in Fukushima fish – Fish caught at a port about 55 kilometers from the crippled Fukushima Daiichi nuclear power plant contained radioactive cesium at levels exceeding an allowable limit, the environmental group Greenpeace said Tuesday. The samples taken at Onahama port in Iwaki, Fukushima Prefecture, in late July, included a species of rockfish that measured 1,053 becquerels per kilogram. The reading, the highest among the samples, is well in excess of the government-set limit of 500 becquerels per kilogram, according to a study conducted by the environmental group. The other samples, which were all rock trout, measured between 625 and 749 becquerels per kilogram, again exceeding the provisional limit.  The second such study of marine products was conducted over three days from July 22 in Iwaki and the town of Shinchi with cooperation of fishermen and those related to the fisheries industry in Fukushima. A total of 21 samples taken in the study were analyzed at a research institute in France, according to the group.

Food Riot Fears Strike Japan - The government lies and cover-ups are coming to a head, and residents of Japan are now scrambling to acquire non-radiated rice and other foods. Via Alexander Higgins:Fears of food riots strike Japan after rice trading is halted due to a 40% price spike triggered by massive hoarding of the remaining radiation free rice supply.It is time to start paying very close attention the events unfolding in Japan as the nation teeters on the verge of food riots which may serve as an example of what other nations in a similar situation would face. As we approach the 5 month marker since the onset of the Fukushima nuclear disaster, Japan has repeatedly assured the public that the nation’s food supply was safe from radiation. Japan has given those reassurances despite warnings from experts that the nuclear fallout has already surpassed 20 Hiroshima bombs with no end in site and experts say ‘off-scale’ levels of lethal radiation at Fukushima infer millions dying. Time and again those assurances have proven to be false. Radiation has found in everything from soiland sewage to tea and beef.

Giant tent to go up over Japan nuclear reactor -The operator of Japan's damaged Fukushima Dai-ichi nuclear power plant is building a huge tent to cover one of the worst-hit reactors, officials said Friday. Officials hope the cover will keep radioactive materials that have already leaked from spreading, prevent rainwater seepage and offer a barrier from possible leaks or blasts in the future. The tent is being erected to provide a temporary replacement for the No. 1 reactor's outer housing shell, which was destroyed in an explosion caused by high pressure the day after Japan's deadly earthquake¹ and tsunami on March 11. Construction of the tent and its foundation began this week, Koji Watanabe, a spokesman for the power utility, said Friday. The work couldn't begin until now because the location was too dangerous for workers to operate in. The tent is made up of airtight polyester. It will stand 177 feet (54 meters) tall and stretch 154 feet (47 meters) in length. It is held up by a metal frame.

Panel Seeks Stiffer Rules for Drilling of Gas Wells - A federal Department of Energy panel issued recommendations on Thursday for improving the safety and environmental impact of drilling in shale formations for natural gas¹.  In a report on the drilling technique known as hydraulic fracturing, or fracking, that is used currently in most oil² and gas wells, the seven-member Natural Gas Subcommittee called for better tracking and more careful disposal of the waste that comes up from wells, stricter standards on air pollution and greenhouse gases associated with drilling, and the creation of a federal database so the public can better monitor drilling operations.  The report also called for companies to eliminate diesel fuel from their fracking fluid because it includes carcinogenic chemicals, and for companies and regulators to disclose the full list of ingredients used in fracking.  “The public deserves assurance that the full economic, environmental and energy security benefits of shale gas development will be realized without sacrificing public health, environmental protection and safety,”

Past peak oil - life after cheap fossil fuels - Perhaps the greatest vulnerability of the current world system is that of availability and distribution of critical resources as oil, food, and water. The very logic of accumulation under the current economic system necessitates that the material elements – resources - of nature are transformed into commodities in an ever-expanding rate. In this long history of human excessiveness in production and consumption, the stability of the economic order as an unrestrained structure is dependent - more than ever - on the continued accumulation in a cycle of never-ending expansion. Oil is the most strategic raw material. It can hardly be overstated how crucial petroleum is to our modern industrial society. Oil fuels the economy. It is the largest single traded product in the world. It provides about 95 per cent of all transportation fuels and 40 per cent of global energy. Oil is also determinant of national security. Today's modern armies are entirely dependent on oil-powered ships, planes, helicopters and armoured vehicles. Oil also supplies feedstock for thousands of manufactured products and is vital for food manufacturing. Some 17 per cent of our energy is used for producing food. Modern agriculture makes heavy use of oil in a variety of ways. We use oil for fertilisers, pesticides, and for the packaging and distribution of food.

Niger Delta Villagers Go To The Hague To Fight Against Oil Giant Shell -  Last Thursday, a long-awaited and comprehensive UN study exposed the full horror of the pollution that the production of oil has brought to Ogoniland over the last 50 years. The UN report showed that oil companies and the Nigerian government had not just failed to meet their own standards, but that the process of investigation, reporting and clean-up was deeply flawed in favour of the firms and against the victims. Spills in the US are responded to in minutes; in the Niger delta, which suffers more pollution each year than the Gulf of Mexico, it can take companies weeks or more. "Oil companies have been exploiting Nigeria's weak regulatory system for too long," said Audrey Gaughran of Amnesty International. "They do not adequately prevent environmental damage and they frequently fail to properly address the devastating impact that their bad practice has on people's lives."

Shell Fights Spill Near North Sea Oil Platform - Oil giant Royal Dutch Shell has said it is working to stop a leak at one of its North Sea oil platforms. The leak was found near the Gannet Alpha platform, 180 km (113 miles) from Aberdeen, Scotland. Shell would not say how much oil had been released so far, merely describing it as "not a significant spill" and saying it had largely stemmed the leak. One of the wells at the Gannet oilfield has been closed, but the company would not say if production was reduced. The company said it had sent a clean-up vessel to the location and has a plane monitoring the surface. It confirmed the leak was continuing, having been found in a flow line connecting an oil well to the platform.

$29.1 million tab from Michigan oil spill - The U.S. Environmental Protection Agency said it spent more than $20 million in cleanup operations from an Enbridge oil spill last year in Michigan.More than a year after an oil spill near Marshall, Mich., the EPA said it was still working on remediation efforts in Talmadge Creek and the Kalamazoo River. The EPA said its response prevented the spill from reaching Lake Michigan. “The EPA has incurred $29.1 million in cleanup costs, which Enbridge will be required to reimburse,” the agency said in a statement. Line 6B of the Lakehead oil pipeline ruptured last July near Marshall, Mich. The EPA said it estimated more than 23,000 barrels of heavy oil from Alberta tar sands spilled from the pipeline. The nature of oil from tar sand deposits causes some of it to sink to the bottom of the river, where it has soaked about 6 inches of sediment along the river bottom.

Conocophillips ups estimate of China oil spill - ConocoPhillips China, a subsidiary of the Houston-based oil company ConocoPhillips , said on Friday that as much as 2,500 barrels of oil and mud leaked from an oilfield in China’s northern Bohai Bay.A recent survey at the C platform of Penglai 19-3 oil field identified more oil-based drilling mud on the sea floor than originally estimated, the company said on its website (www.conocophillips.com.cn), adding that it expected to complete a cleanup by the end of this month. Last month, ConocoPhillips estimated around 1,500 barrels (240 cubic metres) of oil and oil-based drilling fluids had been released into the sea and that an order to shut down the platforms would result in a temporary output reduction of about 17,000 barrels of oil per day.

TransCanada CEO: Oil sands will be developed with or without pipeline - The CEO of the company lobbying to build a pipeline bringing Canadian oil sands to Gulf Coast refiners has a warning for green groups opposing the project: The oil sands will be developed with or without expanded U.S. imports. TransCanada CEO Russ Girling spoke to Platts as the State Department is mulling whether to approve the company’s $7 billion, 1,700 mile Keystone XL pipeline – a project that’s drawing vigorous opposition from environmental groups. “Make no mistake, that resource is getting developed. It’s the single-greatest driver of the Canadian economy. If the US doesn’t want the oil, then somebody else will,” he told the energy news service.

Drums keep pounding a rhythm to the brain - And the beat goes on: House Speaker John Boehner (R-Ohio) said Wednesday he would appoint House Energy and Commerce Committee Chairman Fred Upton (R-Mich.) to a “supercommittee” charged with developing a $1.5 trillion deficit-reduction package. Boehner’s choice is the latest indication that any effort by Democrats to repeal oil industry tax breaks as part of the package would face major roadblocks. Upton and many other Republicans have consistently opposed efforts to overturn the tax breaks. via thehill.com

Shell Gets Tentative Approval to Drill in Arctic -The Department of Interior on Thursday granted Royal Dutch Shell a key approval needed to begin drilling exploratory wells in the Arctic Ocean next summer, another sign that the Obama administration is easing the regulatory clampdown on offshore oil¹ drilling that it imposed after last year’s deadly accident in the Gulf of Mexico.  The move confirms President Obama’s willingness to approve expanded domestic oil and gas exploration in response to high gasoline prices and continuing high levels of unemployment. Thursday’s decision to tentatively approve Shell’s plan to drill four exploratory wells in the Beaufort Sea off the North Slope of Alaska represented a major step in the company’s efforts to exploit the vast oil and gas resources under the Arctic Ocean, although a number of hurdles remain. The company has spent nearly $4 billion and more than five years trying to win the right to drill in the frigid waters, against the opposition of many environmental advocates and of Alaska natives who depend on the sea for their livelihoods. Opponents say the harsh conditions there heighten the dangers of drilling and make cleaning up any potential spill vastly more complicated than in the comparatively benign waters of the gulf.

Oil and the Arctic might not mix - Shell Oil's proposal to drill three exploratory wells in the Beaufort Sea off Alaska's North Slope received a conditional go-ahead last week from the Obama administration even though the Interior Department has not yet approved the company's plan for responding to a catastrophic oil spill. That plan fails to adequately address many of the harsh realities of drilling in Arctic seas. It's too early for any approval, conditional or otherwise. Exploratory offshore drilling in the Arctic doesn't present the same potential for danger as, say, BP's offshore rig in the Gulf of Mexico. The hazards of drilling in the Arctic are quite different and in ways worse. Shell's wells would be just 160 feet underwater, as opposed to the 5,000-foot depth of BP's Deepwater Horizon well, source of the largest offshore oil spill in U.S. history. That, at least theoretically, would make the Arctic wells easier to cap. But there are other important differences. BP's rig was located in generally calm waters that happen to contain oil-degrading bacteria. The gulf's concentration of oil rigs also makes it a hub for Coast Guard rescue equipment and drilling expertise.

Oil/Gas Prices - As I write, WTI oil prices are down to $75/barrel.  The above graph shows the historical relationship between US average retail gasoline prices and WTI spot prices.  The vertical orange line is the $75 level the market touched today.  As you can see, historically this corresponded to gas prices of $2.50-$3/gallon.  It might take a while to get there, but if oil prices stay in this range I would expect gas prices to fall down to those levels.  That would provide some significant relief for low and moderate income consumers in the US.  (Wealthy consumers are presumably about to significantly limit their spending after watching what happened to their portfolios the last couple of weeks).

EIA expects rise in U.S. oil production-- Despite expected declines in production from Alaska and the Gulf of Mexico, overall U.S. oil production is predicted to increase modestly, the EIA estimates. The U.S. Energy Information Administration in its short-term energy outlook predicted that oil production from Alaska would fall from around 550,000 barrels per day in 2011 to 530,000 bpd in 2012.  Senate leaders in Alaska met recently with U.S. Interior Secretary Ken Salazar to review offshore petroleum reserve potential in the state despite environmental concerns of drilling in regional waters. Production in the Gulf of Mexico, the site of last year's massive oil spill, is expected to decline from 2010 levels of nearly 1.6 million bpd to just 1.39 million bpd in 2012, the EIA said. The EIA added, however, that domestic oil production for 2012 would average around 5.65 million bpd, a slight increase from its July prediction of 5.61 million bpd. The energy agency attributed much of the expected increase to "oil-directed drilling activity in unconventional shale formations."

Global Oil Supply Increases in July  -Global liquid fuel supply increased again in July according to both OPEC (secondary sources) and the IEA. See the graph above for the history since the beginning of 2008. We are still not quite back to the level of January, immediately before the Libyan crisis. In my view, this constriction in energy supply was an important factor in the slowdown in the global economy in the first half of 2008, along with the uptick in inflation. The uptick in production in the last couple of months, and the fall in prices, will ease that strain (though it's not the only important factor of course). Here is the longer history from 2002 with monthly WTI spot price on the right hand scale: And here's the price-vs-production chart:

New High for Saudi Oil Production - According to OPEC, Saudi Arabian production increased to 9.75mbd in July.  This is a modern record (though they produced more back in the 1980-1981 timeframe).  However, they didn't achieve the 10mbd that press reports were suggesting back in June.  Whether because the press had the target wrong, or because they couldn't quite manage the goal, we are left to speculate. It will be very interesting to see if they can maintain or further increase this level.  However, if they can't, the current stock market chaos and drop in oil prices will provide them the perfect cover to reduce production on claims of lower demand.The increase from May to July is about 800 or 900kbd - still some way short of making up for the loss of Libyan production.

ExxonMobil to Sell Gas Assets in Indonesia - US energy giant ExxonMobil said on Monday that it was selling its stake in a cluster of natural gas assets in Indonesia that have been at the heart of a long-running human rights lawsuit.The assets include gas fields in Indonesia’s resource-rich Aceh province, which was the site of a long-running conflict between the Indonesian government and separatist rebels. “ExxonMobil is marketing the shares it holds in three companies associated with the Aceh gas and LNG [liquefied natural gas] producing operation in Indonesia,” the company said in a statement. “The marketing does not involve any other ExxonMobil projects or interests in Indonesia,” it added. One of the assets being sold is ExxonMobil Oil Indonesia, which was named a defendant in a lawsuit by 11 villagers who claim that ExxonMobil’s security forces committed torture, rape and murder while protecting the company’s gas projects.

Russia urges Ukraine not to politicize gas deliveries - Russian President Dmitry Medvedev has called on his Ukrainian counterpart Viktor Yanukovych not to politicize the Russian-Ukrainian gas cooperation, a Kremlin source said. The two presidents met behind closed doors in the Russian Black Sea resort of Sochi on Thursday to discus bilateral relations, including Russian gas supplies to Ukraine. "The Russian side stressed the necessity of observing the current agreements in the gas cooperation sphere," the source said. He added that the presidents agreed to "continue looking for new projects in this sphere." The Ukrainian authorities believe that a gas deal concluded in 2009 by then-prime minister Yulia Tymoshenko is "disadvantageous" for Ukraine, and have long been seeking to review the contract's "unfair" price formula. Russia has tied the price for gas to the international spot price for oil, which has been shooting up recently due to instability in the Middle East.

The U.S. Content of “Made in China” SF Fed Economic Letter: Goods and services from China accounted for only 2.7% of U.S. personal consumption expenditures in 2010, of which less than half reflected the actual costs of Chinese imports. The rest went to U.S. businesses and workers transporting, selling, and marketing goods carrying the "Made in China" label. Although the fraction is higher when the imported content of goods made in the United States is considered, Chinese imports still make up only a small share of total U.S. consumer spending. This suggests that Chinese inflation will have little direct effect on U.S. consumer prices.

Inflation Climbs in China on Higher Food Prices - Inflation in China accelerated last month to its fastest pace in three years, with consumer prices up 6.5 percent from a year earlier mainly as a result of rising food prices.  Further price increases could be on the way. The National Bureau of Statistics announced in Beijing on Tuesday morning that producer prices, which are primarily wholesale prices measured at the factory gate, were 7.5 percent higher in July than a year ago.  Jing Ulrich, the chairman of China markets at JPMorgan Chase, said in a research note that inflation could peak soon in China and then decline. The increase in consumer prices last month was slightly higher than expected while the rise in producer prices was a little smaller than expected.  Rising prices could make it harder for the Chinese government to cut interest rates or take other measures to stimulate the economy if weakness in the American and European economies causes a slowdown in Chinese exports.

China's Inflation Reaches 37-Month High (Xinhua) -- China's inflation accelerated to a 37-month high in July, putting the government in a tough position as its tightening efforts have yet to bear fruit. Worsening global liquidity is also likely to bring more uncertainties for the Chinese economy. The country's Consumer Price Index (CPI), a main gauge of inflation, surged 6.5 percent in July year-on-year, up from a three-year high of 6.4 percent in June, the National Bureau of Statistics (NBS) said on Tuesday.The stubbornly high inflation rate has been driven by increasing food costs, which rose by 14.8 percent in July from a year ago. The price of pork, a staple food in China, soared by nearly 57 percent in July. The Chinese government has made stabilizing prices a top priority in the second half, as many believed that the government's annual inflation target of 4 percent will be difficult to reach this year.

Whack-A-Mole in China’s Bubbly Housing Market - IMFdirect - There’s a lot of talk these days of a bubble in China’s property market. Certainly there’s no shortage of super-sharp investors and analysts that have very strong (and very diverse) views—see what James Chanos, Andy Rothman, and Nouriel Roubini have to say.The China team at the IMF is regularly asked about this. The question crops up in many different guises: Is China’s property sector going to crash? What about all those empty apartments that have no one living in them? Have you seen the remarkable and pristine ghost towns in Ordos? Isn’t all this going to end badly? The various viewpoints certainly shift as one travels from the familiar cities of Beijing and Shanghai to witness the construction fever in the “smaller” megalopolises of China. Assessing the situation is not helped by the variety of different data sources that portend to tell the story of China’s real estate sector. In addition, vocal commentators complicate, rather than clarify, the situation by drawing on a palette of colorful anecdotes to paint a picture for the economy as a whole.

China: inflating away debt - Inflation is usually a dirty word for central bankers and investors. But for countries burdened by great masses of debt, a controlled bout of higher – certainly not hyper – inflation could help nurse them back to health. China provides a striking case of how a little bit of inflation can be a good thing, whittling down a nation’s debt-to-GDP ratio. There is much debate about the size of China’s real debt load, with most estimates ranging from 50 per cent to 80 per cent of gross domestic product. China’s indebtedness itself, though, is not much of a worry. Even at the top end of estimates, an 80 per cent debt-to-GDP ratio should be manageable so long as the economy continues to grow reasonably quickly and the government reins in the credit boom of the past few years. That China has been able to outgrow debt in the past is exemplified by the bad loans that were carved off banks’ balance sheets a decade ago and placed in asset management companies. The bad loans, worth Rmb1,100bn, equated to 10 per cent of GDP in 1999 but are just about 3 per cent today. What is often neglected, however, is that China has not only outgrown debt, it has also inflated it away.

China's banks: The only certainty is uncertainty -- It's a familiar story to Americans, but now it may be unfolding in China. From 2008-2010, China's largest banks made scores of loans to local governments and state-run companies. Exports had fallen in the wake of the financial crisis, so the government wanted to create jobs and boost local demand. As a result, developers erected high rises and shopping malls across the country and the Chinese economy grew at roughly a 10% clip. But some analysts and ratings agencies assert that lending standards weren't strict enough. Too many bad loans were made, they say. Financial reform didn't come fast enough. Last week, Liu Mingkang, the chairman of the China Banking Regulatory Commission, announced that a recent round of stress tests proved that Chinese banks could handle up to a 50% drop in property prices. Banks, which fund themselves mainly through deposits, are growing their profits at 20% per year. Though the economy appears to be slowing, it is still estimated to grow around 9% this year, which could theoretically offset any losses incurred by bad loans.

GM sells 173,398 vehicles in China during July - General Motors and its joint ventures sold 173,398 vehicles in China during the month of July, as Shanghai GM and GM’s Buick, Chevrolet and Cadillac brands all set sales records for the month. GM’s China sales in July were down 1.8% from the same month last year due to the drop in industry sales of commercial vehicles, which impacted its SAIC-GM-Wuling and FAW-GM joint ventures. However, domestic sales of passenger cars from Shanghai GM rose 14.4% on an annual basis to 91,818 units. Buick sales were up 15.4% on an annual basis to 50,265 units, led by record July sales of the LaCrosse upper-medium sedan and Excelle XT and GT lower-medium passenger cars. In addition, sales of the GL8 family jumped 45.7% from July 2010, benefiting from the popularity of the new GL8 luxury MPV. Domestic sales of Chevrolet products rose 17.1% year on year to 46,154 units, receiving a boost from Shanghai GM’s new Aveo small car, Cruze lower-medium sedan and Captiva SUV, and SAIC-GM-Wuling’s Le Chi mini-car.

China to outstrip US by 2016 – IMF - Many analysts are predicting a power shift in the financial arena quite soon, since according to International Monetary Fund projections, China could leapfrog the United States to become the world's largest economy by 2016. Many have thought this likely for quite a while, and the latest news regarding the US debt-ceiling debate and the US’s credit rating being downgraded is leading even more people to believe that this is going to happen even sooner than expected. China’s economy has actually grown by 45 per cent since 2007, while the GDP of the United States has grown by less than one per cent since then. The latest International Monetary Fund predictions show that China’s economy will actually overtake the US economy by 2016. And that will be the first time in more than a century that the US economy is not the biggest in the world. A lot of people say that China’s economy focuses on exports, but they really have managed to diversify their economy. China is obviously seen as the manufacturing hub of the world, which has been able to create millions jobs for its low-skilled workers. But they have also been focusing a lot on technology, which has created millions of jobs for high-skilled workers as well.

China's Economy Is Headed for a Slowdown - Michael Pettis - As China fitfully tries to rebalance its economy, a small but rising number of Chinese economists are beginning to predict sharply lower annual growth rates of 6% to 7% over the next few years. But the arithmetic of adjustment suggests growth is likely to be even lower, perhaps half that level. China's growth over the past couple of decades was based on large increases in government-directed investment. As a consequence, it had to run large trade surpluses to absorb the resulting excess capacity in manufacturing. Chinese households consume only about 35% of gross domestic product (GDP), far less than any other country. Such a large domestic imbalance has no historical precedent. . So over the next 10 years, policy makers have said they will try to raise consumption to 50% of GDP. Even that is a low number; it would put China at the bottom of the group of low-consuming East Asian countries. But achieving this goal is problematic, since it requires that household consumption grow four percentage points faster than GDP.

Pettis on China is a Must Read - You should be getting the Newsletter or at least reading the blog but if not this is nice piece in the Wall Street Journal on China. China is an amazing case study in so many ways but one of the most important is the way the Chinese goosed investment growth by decreasing the net rate of return on to households. The Chinese growth model transfers income from households to the corporate sector, mainly in the form of artificially low interest rates. These sharply reduce borrowing costs for the state-owned companies that funnel this easy money into mega-investments. The easy financing also gooses banks’ profit margins and allows them to resolve bad loans with ease. This cheap borrowing comes at the expense of depositors. Low yields on deposits force them to sacrifice consumption, to save more. There is such a strong presumption in the US political-policy circles that increasing the rate of return to households will increase investment by lower the capital gains tax etc. Yet, our biggest investment story ever is one of household suppression.

Robots put leadership under skills pressure - In the latest episode in our complicated relationship with automatons and automation, it is appropriate that Foxconn should have a lead role. The Taiwanese company manufactures the chattering classes’ favourite piece of science fiction come true, the Apple iPad, as well as devices for Nokia and Sony. It employs 1m people in China. It was the epicentre last year of concern about pressure on low-paid young workers, following a series of suicides at its Shenzhen factories. It is, in short, iPad users’ window on to dilemmas of assembly-line politics and management that the developed world last grappled with on this scale decades ago. Founder Terry Gou’s declaration last week that the company would have as many robots as workers in its China factories by 2013 seemed to play to people’s worst fears – by hinting at the replacement of awkward flesh-and-blood staff with cheap and uncomplaining machines. As one analyst put it, coldly: “It signals that the cost of labour is no longer lower than the cost of capital.” But Foxconn is just doing what other contract manufacturers operating in less labour-intensive areas have already achieved.

Where Will Growth Come From? - Never has the world economy depended so much on the success of developing nations. A misguided focus on budget cutting has plunged the European Union and the United States down paths that will prolong their economic stagnation and perhaps tip them into another recession. The International Monetary Fund was forecasting1 2 percent growth in the euro zone before the financial crisis spread to Italy. The Japanese economy is shrinking. Some top economists put the odds2 of a double-dip recession in the United States at 1 in 2. These dire prospects, along with the realization that economic policy is blocked by political gridlock in the United States and complacency in Europe, have sent spasms through financial markets, which could further sap growth. Fortunately, developing countries, which account for almost half the globe’s economic output, are growing faster than the industrialized world: in June the I.M.F. forecast that they would grow some 6.5 percent this year and next. Yet developing countries are not robust enough to keep the global economy from sinking in a morass for long. Their economies remain vulnerable to financial turbulence and economic weakness in wealthy nations.

Trade Deficit of U.S. Unexpectedly Widens to $53.1 Billion on Export Slump - The U.S. trade deficit unexpectedly increased in June to the highest level since October 2008 as a slump in exports exceeded a decline in shipments from overseas. The gap widened 4.4 percent to $53.1 billion from $50.8 billion in the prior month, Commerce Department figures showed today in Washington. The deficit exceeded all estimates in a Bloomberg News survey of economists in which the median was $48 billion. Exports declined the most since January 2009. U.S. shipments of capital equipment and industrial supplies fell in June, which may reflect the start of a cooling in the global economy. Some companies like Caterpillar Inc. (CAT) remain optimistic that demand for American-made goods will be sustained, helped in part by a weaker dollar. “The real weakness was in exports and that’s consistent with slower growth in the rest of the world,”

The Great Flaw in the Free Trade Theory And Other Vain Beliefs, Hoaxes, and Follies - One of the theories in favor of free trade is the idea of comparative advantage, that is, that one country might have a natural advantage which they can exploit for their own benefit and the general benefit of the world. I am sure we all learned this in business school. This theory is a universalisation of the idea that the naturally gifted pottery maker, for example, has an inherent talent that can be exploited, and can create and exchange pots for food, let's say, from a farmer who has the advantage of owning suitable farm land and has the talent and tools to exploit it. Makes common sense does it?  Everyone does what they do best, and through the free exchange of  products the aggregate good is increased. But the fallacy that is repeated over and over by the non-scientific thinker (like too many economists and politicians for example) is that one can extend things that might make sense anecdotally into general principles writ large on the face real world, or more properly OVER the face of the real world, that at the end have little real fundamental connection with reality.

Australian Jobless Rate Rises Most Since 2010 -Australia’s jobless rate unexpectedly rose to an eight-month high last month as employers cut full-time staff, prompting investors to increase bets the central bank will lower the developed world’s highest interest rates. Unemployment jumped to 5.1 percent in July from 4.9 percent a month earlier, the first increase since October, the statistics bureau said in Sydney today. The number of workers fell by 100 after a revised 18,200 gain in June. That compares with the median estimate for 10,000 additional jobs in a Bloomberg News survey of 25 economists. David Jones, the nation’s second-biggest department store chain, today reported second-half same-store sales declined 6.9 percent, with Chief Executive Officer Paul Zahra saying “we are facing an extremely difficult trading environment.”  Investors are betting the central bank will cut rates by at least 125 basis points by December, interbank cash-rate futures show.

Secretly Broke in Australia -  The housing boom in Australia is now an escalating bust. Many Australian homeowners put every cent they had into their homes and they needed double incomes to just scrape by. Unfortunately, those jobs are disappearing in a construction and commercial real estate bust.  I warned about this event for years, but in Australia, like everywhere else "It's Different Here" until it's not.  60 Minutes Australia picked up the Secretly Broke story in "The Big Squeeze". Click on link for a 60 Minutes video. Here is a partial transcript.

Japan May Have Spent Record in Intervention - Japan may have spent a record amount intervening to stem the yen’s gains on Aug. 4, based on projection of deposits held by financial institutions at the Bank of Japan. The central bank estimated that deposits climbed to a total 32.3 trillion yen ($412 billion), it said in a statement released yesterday in Tokyo. The figure suggests that the government sold about 4.5 trillion yen, a record, to prevent the currency from strengthening to a post-World War II high. Japan followed Switzerland in seeking to stem appreciating exchange rates this week, selling the yen and pledging to inject 10 trillion yen in liquidity. Japanese Finance Minister Yoshihiko Noda said yesterday he will continue to watch the market, as the currency rebounded from its post-intervention low. The latest yen sales may herald “an extended period of interventions,” . “The intervention hasn’t really made a great deal of difference in the value of the yen because of the underlying factors -- fundamentally risk aversion and safe haven demand.” 

Japan Signals Concern as Yen Returns to Intervention Level-- Japan's Finance Minister Yoshihiko Noda said that one-sided moves in the yen can hurt growth as the currency strengthened against the dollar to close to the level where authorities intervened last week. "Recent one-sided movements in the currency market risk hurting the economy's recovery from the earthquake," Noda said in parliament in Tokyo today, reiterating remarks made on Aug. 4 when authorities sold the yen. The government may include measures to help companies combat the strong yen in its next reconstruction package, Chief Cabinet Secretary Yukio Edano said. A global stock rout that has erased more than $6 trillion off equities in the past two weeks has bolstered the yen's appeal as a safe haven, undoing intervention that helped the currency weaken past 80 last week. Policy makers may struggle to reverse the trend with more unilateral yen sales after last week's action prompted criticism from the European Central Bank, according to economist Naoki Iizuka. 

Moody’s warns Japan - Moody's Investors Service warned Japan that ineffective currency intervention would be negative for its sovereign ratings and would not help it restore its finances, even as Group of Seven (G7) policymakers tried to show solidarity against market turmoil sparked by US and European debt woes. The warning was a shot across the bow for Japan, saddled with public debt double the size of its US$5 trillion economy, just days after the United States lost its top-tier AAA credit rating from Standard & Poor's. Finance Minister Yoshihiko Noda yesterday signalled Tokyo's readiness to continue intervening in the currency market to stem yen rises, citing a G7 agreement to jointly counter any excessive and disorderly exchange rate moves. Moody's, however, said that while Japan's solo currency intervention and monetary easing last week initially pushed the yen lower against the dollar, the effect proved shortlived and was a negative for the economy and its credit rating.

Russia plans to triple state debt by 2014: Report - Russia, which has shown relatively low state debt in recent years, is envisaging a tripling of its public debt in the next three years amid sluggish growth and high spending, a report said on Monday. The Vedomosti daily said that the government planned to borrow hundreds of billions of dollars, mainly on the domestic bond market, in the next years, bringing its public debt to 17 percent of gross domestic product by 2014. The borrowing will help cover Russia's budget deficit, which will fall to 2.3 percent of GDP in 2014 after a predicted 2.7 percent in 2012 and 2013, it said, quoting an internal finance ministry document to be reviewed by the government this week. Vedomosti said that Russia's state debt was 4.6 trillion rubles (112.3 billion euros, $161 billion) on July 1 but this would rise to 12 trillion rubles by 2014 with the new borrowing.

Global business confidence slumps - Business leaders’ confidence in their industries and the global economy deteriorated sharply in the months preceding the latest market turmoil, according to the FT/Economist Global Business Barometer.The survey of more than 1,500 executives worldwide, conducted between June 22 and July 29, suggests that the corporate world was rapidly losing faith in the future even before panic broke out in global stock markets last week. The business barometer, which was conducted for The Financial Times and The Economist by the Economist Intelligence Unit, found that 33.8 per cent of respondents expected business conditions in the global economy to worsen over the next six months, outnumbering the 23.3 per cent who thought conditions would improve. Two months earlier, there were twice as many optimists as pessimists. Almost 70 per cent of those surveyed said “economic and market risk” was the biggest threat to their companies, compared with about 60 per cent three months ago.

Global Slowdown Is Hitting Trade Flows - Back in the spring, the World Trade Organization forecasted world trade would grow 6.5% in 2011 — a decent pace given trade flows surged by a record 14.5% in 2010. But hitting 6.5% could be a stretch. Global growth is slowing in the face of still high commodity and energy prices, social unrest, and financial markets in need of lithium. A wider trade gap is hurting the U.S. recovery. The trade deficit jumped to $53.07 billion in June and May’s gap was revised to $50.83 billion from $50.23 billion. The deterioration means we may look back fondly at the dismal 1.3% growth rate reported last month for second quarter gross domestic product. According to economists at Barclays Capital, the wider trade deficit suggests real GDP grew only 0.6% last quarter. Part of the widening, at least in June, reflected the return of the Japan supply chain. Automotive-related imports from Japan jumped 36% in June, and more increases are likely as U.S.-based factories of Japanese nameplates gear up for the new model season.

How the U.S. downgrade will change the global economy - Standard & Poor's decision to strip the United States of its triple-A credit rating, whether we agree with it or not, signals a turning point for the entire global economy. Because of the unique role the U.S. plays in the world economy, a downgrade of the U.S. isn't anything like a downgrade of Greece or Spain. For the last century, and especially since the end of World War II, the modern global economy as we know it was built on top of America, relying on its economic strength as a foundation, and using its currency as the primary tool of world economic discourse. In many ways, the world has benefited greatly from that U.S.-led system. The past half century has seen unprecedented economic integration and poverty alleviation, uplifting hundreds of millions out of destitution on a scale never before witnessed in history. America, simply, has been the economic engine that made the world go around. Now that engine is sputtering, and the potential long-term repercussions are tremendous – for the way the world invests and trades, and how the global financial system operates.

El-Erian Says S&P’s Downgrade of U.S Casts Doubt on Other AAA Countries - Standard & Poor’s reduction of the U.S. credit rating may make it harder for other top-rated countries to keep their AAA ranking, according to Mohamed A. El- Erian of Pacific Investment Management Co. The downgrade by S&P “may well raise questions about other members of the dwindling AAA club,” El-Erian, 52, the Newport Beach, California-based chief executive officer and co-chief investment officer at Pimco, the world’s largest manager of bond funds, wrote in an e-mail today. S&P gives 18 sovereign entities its top ranking, including Australia, Hong Kong and the Isle of Man, according to a July report. S&P lowered the U.S. one level to AA+ while keeping the outlook at “negative” as it becomes less confident Congress will end Bush-era tax cuts or tackle entitlements. The rating may be cut to AA within two years if spending reductions are smaller than the ones agreed to, interest rates rise or “new fiscal pressures” result in higher general government debt, the New York-based firm said yesterday. 

Why U.S. of AA Matters - A U.S. downgrade is, in itself, almost meaningless. A nation that issues debt denominated solely in its own currency and which is in full control of its monetary policy, cannot default unwillingly. Nations default because they run out of foreign currency to service their debt, but the U.S. doesn’t need foreign currency to service its debt. One could thus argue that the rating agencies shouldn’t even bother to rate U.S. sovereign risk. But they do. And one of them has now decided that U.S. sovereign is no longer AAA. So what does it mean? Near term, other U.S. financial institutions (Fannie Mae? Freddie Mac? JP Morgan?) will be downgraded as a result - perhaps as early as today or tomorrow. Following that, if Standard & Poors wants to maintain whatever credibility it has left, it will probably have to downgrade a few sovereigns as well. France springs to mind; it is not far behind the US as far as profligacy is concerned, and it may prove difficult for Standard and Poors to justify the AAA rating it currently assigns to France.  If France is downgraded, a number of French banks will almost certainly be downgraded, following which other European banks will face the same destiny. Such a scenario has the potential to cause calamity across Europe. The 90 European banks which recently went through the (so-called) stress test organised by the European Banking Authority need to roll a total of €5.4 trillion[1] (!) of debt over the next 24 months. A massive amount even during the best of times. Probably undoable during times of stress.

AAA France May Be Vulnerable After U.S. Cut - The decision by Standard & Poor’s to downgrade the U.S. credit rating leaves France as the AAA country most likely to lose its top grade, some investors and economists say. France is more expensive to insure against default than lower-rated governments including Malaysia, Thailand, Japan, Mexico, Czech Republic, the State of Texas and the U.S. “France is not, in my view, a AAA country,” . “France can’t print its own money, a critical distinction from the U.S. It is not treated as AAA by the markets.” “If Italy and Spain have difficulties, are we sure that, for instance, France can still be considered a ‘core’ country?” While France’s debt of 84.7 percent of gross domestic product is less than Italy’s 120.3 percent, as a percentage of economic output it has risen twice as fast as Italy’s since 2007. French government debt totaled 1.59 trillion euros ($2.3 trillion) at the end of 2010, according to the European Union; Italy's was about 1.8 trillion euros. France has had a larger budget deficit than Italy every year since 2006. S&P rates Italy A+, four levels below France.

America vs Europe: Which is the bigger threat to the world economy? - Over the last few days, the United States has been in the world's crosshairs. Political bickering in Washington produced a debt agreement widely criticized as insufficient and incomplete. Standard & Poor's downgraded America's credit rating, raising concerns about the health of the world's most important economy. Slow growth in the U.S. is threatening the entire global recovery. Stock market turmoil on Wall Street has turned markets from London to Seoul into volatile rollercoasters. It is easy to be angry at America for the world's economic ills right now. Perhaps the sentiment was summed up best by a recent headline in a Chinese newspaper, the Global Times: "The World Should Kick America's Butt." Yes, the U.S. has been a source of much uncertainty in recent days. But in my opinion, the real danger for the global economy lies elsewhere – in Europe. If we're going to have another financial crisis, the chances are it will start in the euro zone, not Washington

ECB Bailout 'Will Cost France' Its Triple-A Rating: Kyle Bass - The European Central Bank's bailout, estimated to be about 2 billion euros in Italian and Spanish debt, "will cost France and maybe even Germany their triple-A ratings," Kyle Bass, managing partner of Hayman Capital, told CNBC Monday."Supposedly this is the sixth save for the euro zone," Bass said. "When you understand the mechanisms of this European financial stability facility, today it has 440 billion euros in lending capacity. They have to raise 780 billion euros in debt to fund this," said Bass. "There are several countries [in Europe] that have sailed into the zone of insolvency," he added. The zone of insolvency is "just like at home when you can't pay your bills." Bass went on to say the European banking system is "about three times as leveraged as the U.S. banking system, and they haven't recapitalized their system because they don't have a lender of last resort like the [Federal Reserve] in the United States." U.S. banks are in better shape than European banks, he added. Europe doesn't "have the money to recap their banks because they don't have a mechanism to print the money like we do."

Sarkozy calls crisis meet over AAA fears - French President Nicolas Sarkozy has called an emergency meeting in Paris on Wednesday morning to tackle concerns that France could be at risk of losing its triple-A rating in light of worsening economic conditions. Sarkozy returned early from his holiday in the French Riviera to meet with key members of his cabinet, according to a statement from his office. France's concerns are in response to falling eurozone markets and the US's loss of its prized AAA rating after Standard & Poor's downgraded the sovereign last week, as well as the growing cost of insuring its own debt. 

Over the Edge Lies Fear - Amidst another entire slew of bad news in the markets, the claim to fame for story of the day must go to French bank Société Générale, and the over 22% drop in share price it had at a certain point today - though it was pushed up back to (only?!)-14%-, and the persistent rumors of major trouble and even a potential bankruptcy that have been making the rounds for a few days now. President Sarkozy cut short his holidays to address the situation (other French banks joined the plunge, and France itself may be downgraded).  The best part of it all, however, if you ask me, was this from Bloomberg: Société Générale "categorically denies all market rumors," Emmanuelle Renaudat, a spokeswoman for the French bank said in an interview. She declined to be more specific. Well, hey, Emmanuelle, sorry I asked... But wouldn't you want to know what rumors you're denying exactly, before denying them? This is going to sound to a lot of people like you're admitting your company is in trouble. Just saying...

French fears: Pummelled | The Economist - NICOLAS SARKOZY, France’s president, rushed back from his holiday on August 10th to defend the country from financial attack. In a day of rumour, panic and denials, shares in Société Générale, the country’s third-biggest bank, fell by a fifth before recovering some ground and closing down 15%. The immediate cause for worry was a question-mark over whether France will keep its triple-A rating after Standard & Poor’s cut America’s on August 5th. France’s debt stood at 82% of GDP last year, from 64% in 2007. This is one of the highest of any AAA-rated country. That, investors fear, means it could be the next target for a downgrade, especially if already anaemic economic growth falters further. The extra yield required by investors to hold French debt instead of German Bunds jumped to almost triple the average level of 2010 while the cost of insuring against a default by France reached new highs during the week. After an emergency meeting of ministers, Mr Sarkozy pledged to fulfil recent promises on debt reduction, regardless of whether economic growth slows.

France Considers Further Austerity —The French government pledged Wednesday to consider fresh tax rises, spending cuts and other budget measures to ensure the country doesn't deviate from a challenging deficit-reduction trajectory as market concerns that France's top-notch creditworthiness is at risk accelerated. French bank shares were hammered Wednesday also, with some traders citing the triple-A jitters. Shares in Société Générale were down over 18% in afternoon Paris trading and BNP Paribas shares slid over 10%.  President Nicolas Sarkozy, who interrupted his summer holiday on the French Riviera for an unscheduled meeting with some of his cabinet Wednesday morning in Paris, will make decisions on the new budget measures on Aug. 24, his office said. France's commitment to reduce its budget deficit is "imperative," Mr. Sarkozy said during the meeting, according to a statement released by the Elysée presidential palace.

French Fried Banks: Euro Financial Losers - French banks fell victim to mounting speculation Wednesday that France's triple-A credit rating may be under threat, causing prices to plunge to two and a half year lows. Shares of Societe Generale had lost 19% of their value by mid-afternoon Wednesday -- the biggest drop since January 2009 -- but recovered slightly to finish down 14% for the day when European markets closed a short time ago. BNP Paribas sank 10%, while Credit Agricole suffered a 13% drop.  Attention has turned to the remaining triple-A nations following last week's Standard & Poor's downgrade of U.S. sovereign debt. France, with a debt-to-GDP ratio of 84% and a budget deficit of 6%, has come under most scrutiny.  Five-year French credit default swaps were trading at 1.63% Wednesday - double the rate asked to protect German debt, even though both countries are rated triple-A. Meanwhile the spread between French and Germany 10-year bonds widened to 87 basis points Wednesday, even as yields on French 10-years fell slightly to 3.104%.

France’s Pain Makes Singapore, Hong Kong and S. Korea Lame - French banks are big lenders to Asia, so when French banks are hunkering down, they are less likely to finance investments and lending, especially in places such as Hong Kong, South Korea and Singapore.The pain was made clear in markets Wednesday. France’s second-largest bank, Societe Generale, saw its stock plummet 15%. Credit Agricole fell 12%, and BNP Paribas SA declined 9%. For Asia, if French banks are forced to lick their wounds and retreat from foreign outposts, it means less lending and fewer bankers renting expensive houses on Hong Kong’s Peak. According to the Bank for International Settlements and Nomura, French bank lending was equivalent to 1.4% of GDP in Asia at the end of 2010.That doesn’t sound like much, but drill down, and you see the problem magnifying. MarketBeat has more.

Italy Raids S&P, Moody - Lost in the hubbub of Standard & Poor’s downgrading the US bond rating is news that the Italian government has the ratings agencies under criminal investigation. The Guardian:As stock and bond markets across the world tumbled on fears about Italy and Spain, it emerged that police acting on orders from prosecutors had raided the Milan offices of rating agencies Moody’s and Standard & Poor’s as part of continuing investigations into their role in the recent financial turmoil.[...] Carlo Maria Capistro – chief prosecutor of Trani, a small Adriatic port – told Reuters that his office was checking to see whether the rating agencies “respect regulations as they carry out their work”. The raids took place on Wednesday as Italy’s prime minister, Silvio Berlusconi, addressed parliament on the mounting crisis. He and other leading Italian politicians often cite speculation as a cause of market storms that involve a run on the country’s shares or bonds. And the media habitually depicts sell-offs as attacks on Italy.

Belgium’s Surpassingly Strange Political Stalemate - Belgium is still adding to its world-record tally for days without a full-time government (it surpassed Iraq for this unhappy distinction in February). For a country whose economy is slowing, stocks are slumping, and bond yields are surging in the midst of a continent-wide debt crisis, this is alarming. Expansion in Belgium's gross domestic product slowed in the second quarter.  This might sound like garden-variety dysfunction in the euro-zone. But in Belgium's case, economic woes are complicated by a surpassingly strange political stalemate. Since elections held on June 13, 2010, Belgium's political parties have been unable to form a coalition, reflecting deepening divisions between Dutch-speaking northerners and French-speaking southerners that may be pushing the country toward a breakup. The Economist Intelligence Unit reckoned July 1 that Belgium is the "least stable country in the EU" and saw no resolution to the impasse in sight. This would remain a mere curiosity for the rest of the world, except that it'll be awfully hard for Belgium to grapple with its worrisome debt levels without a strong federal government -- or any federal government. Belgium's budget deficit is a modest 3.3 percent of GDP, but its debt-to-GDP ratio is the third highest in the EU. Standard & Poor's estimates a one-in-three chance of a downgrade on its credit rating.

Doubts over Euro Stability - Panic ruled on the international stock markets on Friday. The German DAX index of blue-chip companies is on the decline, and on Wall Street and in the Asian markets, traders are shedding stocks in large numbers. One market strategist called it a "bloodbath." And investors are also looking at euro-zone problem states. Yields on Spanish and Italian 10-year government bonds have risen in recent days to their highest levels since the introduction of the common currency. Uncertainties on markets actually should have calmed this week. The United States prevented a federal default on its debt at the last minute, and in Europe the results of a special summit on the euro at the end of July were celebrated as a success. But now, of all times, the mistrust of investors has penetrated the markets at full force. They fear that economic growth will stall and that nations worldwide will fall further into debt spirals.

Is Europe facing its own Lehman moment? - Although bankers say the downgrading of America's credit rating was unwelcome, their more pressing worry is the rising price that Italy has to pay to borrow - the falling price of Italian government debt. And they feel that only the European Central Bank (ECB) can restore some kind of confidence that Italian borrowing costs won't rise to dangerous levels. Bankers and investors want to see the ECB buying Italian debt, in the way it has previously bought Irish, Portuguese and Greek debt. If the ECB fails to do that on Monday, there is a serious risk of further turmoil in share and bond markets. Which is why a rare emergency meeting Sunday night of the ECB's governing council is being seen as vitally important - because not all members of the governing council are in favour of buying Italian debt.

Bank chiefs buy stock en masse - Some of Europe’s banks staged a partial reversal of the week’s sharp share price falls on Friday as chief executives, in a show of faith, bought stock en masse. But that will hardly be of comfort to investors, governments or central bankers, who have watched wild gyrations in bank share prices – mostly downwards – throughout the week. In Italy, Corrado Passera, CEO of Intesa Sanpaolo, said he and his two co-managing directors would buy €500,000 ($712,000) of Intesa shares. In the UK, António Horta-Osório, CEO of Lloyds Banking Group, and five other directors, bought a combined £565,000 ($925,000) of Lloyds shares. Over the past five days, three of Europe’s banks – Lloyds, RBS and Société Générale – have lost more than 20 per cent of their value. At one level, the rout of European bank shares – and of some US ones, too – was almost bound to happen. With several eurozone economies in turmoil, and deep concerns about the US deficit, banks are the obvious stocks to turn bearish about. Citigroup, the US’s third-biggest bank, said it has $31.7bn of gross funds at risk in Greece, Italy, Portugal, Spain and Ireland. Last month it estimated its net “exposure” was $22bn as of June 30, and has now said in a filing that the larger figure includes about $2bn in posted margin and $7bn in so-called hedges against funded commitments.

Central Banks Search for Fixes to Calm the World’s Markets - The European Central Bank¹ signaled on Sunday that it would intervene more aggressively in bond markets to protect Spain and Italy, and leading finance ministers conferred about the mounting threats to the world’s economies, as policy makers sought to calm markets unnerved by deteriorating public finances and slow economic growth.  After conducting an emergency conference call late Sunday, the European Central Bank said² it would “actively implement” its bond-buying program to address “dysfunctional market segments,” while welcoming efforts by Spain and Italy to restructure their economies and cut spending. The bank did not identify which bonds it would buy, but its statement is likely to be interpreted as a sign that it will intervene to prevent borrowing costs for the two countries from growing unsustainable.  The move was a concession that Europe’s previous efforts to stanch its debt crisis³ have fallen short, and underscored the importance of propping up Spain and Italy. Those two countries are central pillars of the euro⁴ zone, unlike the countries on the periphery — Portugal, Greece and Ireland — that have already received bailouts, and their collapse would threaten the euro currency and intensify the turbulence in world markets.

Eurozone leaders still don’t get it - In this crisis, Eurozone leaders’ motto seems to be “too little too late”. They got it badly wrong the first weekend in May 2010. Having announced that they had saved Greece, financial markets said “not good enough”. The next weekend they came up with a more substantial plan, but even this proved to be too little too late.The Eurozone crisis is accelerating dangerously and could tip the world into a new recession that cannot be fought. Interest rates are already zero and governments cannot borrow much anymore. The spectre of the 1930s, including competitive devaluations and Eurozone break up, is getting dangerously relevant. This column argues that the only way forward is for the ECB to guarantee the entire stock of Eurozone debt and for Eurozone members to adopt effective, national fiscal institutions.

ECB Officials Weigh Massive Purchases of Italian, Spanish Bonds - European Central Bank officials on Sunday evening were weighing whether to purchase government bonds of Italy and Spain on a massive scale, according to people familiar with the matter, a move that would mark the most dramatic, and controversial, escalation of their nearly two-year effort to stem Europe's unfolding debt crisis. ECB intervention to prop up Italy and Spain would be a watershed in Europe's effort to fight the financial crisis. The central bank has so far insisted that the main responsibility for acting lies with national governments. A decision to buy Italian bonds would be tantamount to accepting that the euro's member states are unable or unwilling to respond effectively, turning the ECB into the lead firefighter—and the euro zone's lender of last resort. That could change the nature of Europe's monetary union.  The 23-member ECB board was already divided along north-south lines on limited purchases of Irish and Portuguese bonds at the ECB's meeting last week. At least three central bankers from Northern Europe, including the ECB's powerful German contingent, resisted the move, the people said.

ECB to intervene decisively on markets - source -  The Euro system of central banks has decided to intervene decisively on markets to respond to the escalating debt crisis, a euro zone monetary source said after a European Central Bank conference call on Sunday.  Officials on the conference call carefully considered the situation in Italy and Spain, and took note of a statement by France and Germany which stressed their commitment to European financial reforms, the source said. "The Euro system will intervene very significantly on markets and respond in a significant and cohesive way," the euro zone monetary source said, adding a statement by the ECB will be issued shortly.

Italian Bank Borrowing From ECB Nearly Doubled In July - Italian banks nearly doubled their borrowings from the European Central Bank in July as fear of the spreading debt crisis increasingly locked them out of wholesale funding markets, according to Bank of Italy data. The Bank of Italy's monthly balance sheet showed resident banks' borrowings totaled EUR80.487 billion at the end of the month, up from EUR41.315 billion at the end of June and the highest level in over two years. The development reflects increasing concern in international markets that the euro zone's debt crisis would spread to Italy, with the potential to cause massive losses to its banking system. Italian banks had largely avoided using ECB finance for the first three years of the financial crisis, thanks to their high levels of deposit funding and to the perception that the crisis was limited to other countries. The news comes on the day that the ECB has started buying Italian government bonds through its Securities Market Program

ECB Signals Purchases of Italian, Spanish Bonds. The European Central Bank said it will “actively implement” its bond-purchase program, signaling it is ready to start buying Italian and Spanish securities to counter the sovereign debt crisis.  In a statement issued in the name of President Jean-Claude Trichet after an emergency teleconference meeting of policy makers, the Frankfurt-based ECB welcomed Italy and Spain’s efforts to reduce their budget deficits. It also called on all euro-area governments to follow through on the measures agreed at a July 21 summit, including allowing the European Financial Stability Facility to purchase bonds on the secondary market. “It is on the basis of the above assessments that the ECB will actively implement its Securities Markets Program,” the central bank said. “This program has been designed to help restoring a better transmission of our monetary policy decisions -- taking account of dysfunctional market segments -- and therefore to ensure price stability in the euro area.” Buying Italian and Spanish debt may open the ECB to accusations it is bailing out profligate nations, breaching a key principle in the euro zone’s founding treaty and eroding its credibility. Germany’s Bundesbank opposes the move.

The ECB bond-buying plan - “The ECB is once again intervening as the last line of defense,” said Jacques Cailloux, chief European economist at Royal Bank of Scotland in London. “The intervention will put a halt to the bond market crash that some member states faced. However, the ECB is now in for the long haul and will potentially have to buy up to half of the Italian and Spanish traded debt, the biggest risk-pulling effort ever engineered in Europe.” Here is the article.  This analysis by Paul Krugman probably won’t be beaten. Arguably it’s now a question of who stares down whom.  If you do not doubt German resolve, bet on the ECB and lend money to Italy fairly cheaply.  If you fear that Italy suffers from its own version of the great stagnation, and doesn’t have good enough political institutions to make decent reforms (and now the hammer of the private capital markets is partially removed), maybe the ECB will cry uncle at some point and give up.  Knowing that, confidence will not return and the speculators will continue to pounce.  We’ll see soon enough what the markets think.

A Self-Fulfilling Euro Crisis? (Wonkish) - Paul Krugman - The big question, I believe, is whether the Italian and maybe Spanish crises are the kind of thing that might be brought under control by ECB bond purchases. This is often phrased in terms of whether they are facing liquidity or solvency problems; but I think it’s better phrased in terms of the possibility of self-fulfilling crises. In the case of Greece and probably also Ireland and Portugal, I’d argue that we’re looking at fundamental insolvency. The debts are just too big, the required fiscal adjustment just too large even if interest rates were low, to make full payment plausible. In the Italian case, you have big debt but also a primary budget surplus. So if interest rates stayed low, as they would if no default were expected, it wouldn’t be hard to service the debt with only modest further fiscal adjustment. But if people expect a default – and also if they believe that once a country takes on the fixed cost of default, it might as well impose a big haircut on creditors – then you could see interest costs rising to a point where default indeed becomes the preferred option. So there is a reasonable case that what we’re seeing in Italy is a self-fulfilling crisis trying to happen, in which fear of default is precisely what leads to default.

Europe's biggest central banker cannot stay in the wings for ever - Jean-Claude Trichet is playing a dangerous game by standing apart. During his eight-year reign he has delivered inflation in the eurozone "below but close to 2%", just as the ECB's primary mandate demands. He has also been a constant voice warning governments about the need for budgetary discipline; if any central banker has the right to say "I told you so", it's Trichet. But Trichet's ECB has also been too slow to respond to the pressures on the peripheral members on the eurozone; in raising interest rates earlier this year, it was too obsessed by an inflation risk that is now rapidly disappearing from the radar. He has risked making a bad situation worse by sticking to his line that countries must start to put their own houses in order before the ECB will intervene by buying their bonds. It was on this principle, it appeared, that the ECB on Thursday resumed purchases of Irish and Portuguese bonds but left those of Spain and Italy untouched. But on Friday night, as details of frantic telephone conference calls between EU leaders emerged and Silvio Berlusconi announced he was bringing forward his plan to trim €48bn from the budget deficit, it started to look as if Trichet's intransigence may have prompted the very action he has been demanding.

Trichet Draws ECB ‘Bazooka’ as Italy, Spain Debt Purchases Begin - European Central Bank President Jean- Claude Trichet started buying Italian and Spanish assets today in his riskiest attempt yet to tame the sovereign debt crisis. Italian and Spanish bonds surged as the ECB entered the market, sending yields down the most since the euro began in 1999. The single currency, which initially climbed on the news, gave up its gains and fell to $1.4172 at 3 p.m. in Frankfurt from $1.4277 at the close of European trading on Friday. With governments failing to act swiftly enough to stop contagion from Greece’s fiscal meltdown, it has fallen to the ECB to battle a crisis that’s now threatening the survival of the euro. Buying Italian and Spanish debt may require the ECB to massively expand its balance sheet and open it to accusations of bailing out profligate nations, breaching a key principle in the euro’s founding treaty and undermining its credibility. Germany’s Bundesbank opposes the move.

ECB may need €2.5 trillion to save Europe - A chorus of global economists has called on the European Central Bank to go far beyond pin-prick purchases of euro zone debt and launch quantitative easing (QE) on a massive scale to head off a euro zone debacle, if necessary purchasing half the entire stock of Italian and Spanish debt. Stephen King, HSBC’s chief economist, said the ECB should drop its ideological opposition to QE and embrace easy money same way as the US Federal Reserve. “At the heart of the problem is the ECB’s unwillingness to be seen ‘monetising’ government debt. Yet if the alternative to QE is the collapse of the euro or a descent into depression, then massive expansion of the ECB’s balance sheet seems a small price to pay,” he said. The ECB should not “sterilise” purchases of Italian and Spanish bonds to offset stimulus but instead allow the liquidity to course through the system. King said the euro zone will have to embrace fiscal union in the end or face the same sort of “fiscal anarchy leading to financial implosion” that destroyed the post-Soviet rouble area.

Austerity Plan Might Not Work for Spain and Italy - ONCE again Europe’s leadership has been forced to put up billions in cash to halt the spread of contagion to the Continent’s weaker economies, this time in the form of a potentially vast purchase of Italian and Spanish government bonds by the European Central Bank. And once again the condition for rescue is more austerity.  But this time there is a difference. Unlike Greece, Portugal and Ireland — the patients previously forced into the austerity cure — Italy and Spain have already made their own substantial strides toward cutting their deficits.  Some economists warn that forcing further cuts could push their teetering economies over the edge. And unlike Greece or Portugal, they are so big that any default might shatter the euro¹ union for good.  “Italy has done everything asked of it — it has cut left, right and center,” . “But if you keep cutting like this you start to cut into muscle, which affects your growth and your tax revenues.”

Spiegel: US Economist Kenneth Rogoff - 'Some European Countries Are Fundamentally Bankrupt' - Fears of a double-dip recession are growing following turmoil on the stock markets and Standard & Poor's downgrade of the US. In a SPIEGEL interview, Harvard economist Kenneth Rogoff criticizes President Obama for giving in to the Tea Party in the debt-ceiling negotiations and argues that the euro zone has to become a transfer union. 

Germany says eurozone can't save Italy - Advisors in the German government think the eurozone's bailout fund won't be enough to save Italy from its current crisis, according to a media report. Economic advisors told the news magazine Der Spiegel on Sunday that the European Financial Stability Facility (EFSF) is only capable of helping smaller countries, not economies the size of Italy's. Government experts say Italy's eurozone partners cannot cover the guarantee for Italy's state debt of over €1.8 trillion. The report says Berlin is now insisting that Italy find its own way out of its crisis through budget cuts and reforms. Economists already believe that the EFSF needs to be increased anyway. At the moment, the eurozone has agreed to put €440 billion into the fund, but once Greece's bailout has been withdrawn, there won't be enough money to support other ailing economies like Portugal. A new system, the European Stability Mechanism, will replace the EFSF in 2013.

German Officials Want Italy and Spain to Sell Gold - Members of Angela Merkel’s CDU party, as well as junior coalition partner FDP are suggesting that Spain and Italy should tap into their gold reserves in order to balance their debt issues.... Financial Times Deutschaland reports about this. It is quoted here, with one member saying that gold should be used as collateral for the ECB: Meanwhile, economist Frank Schäffler, the liberal FDP, the junior partner of the German government considered “necessary” for states to sell part of its debt and deposit gold from its reserves in the European Central Bank (ECB) as collateral.

Italy Debt Risk Rises to Record, Leading European Swaps Higher Amid Crisis - The cost of insuring corporate debt surged to its highest in more than two years in Europe amid the region’s deepening sovereign debt woes. “The coming weeks are likely to be challenging for risk assets,” The Markit iTraxx Europe Index of credit-default swaps linked to 125 companies with investment-grade ratings surged 14 basis points to 163 basis points, the highest since April 2009, according to JPMorgan Chase & Co. at 1:30 p.m. in London. The Markit iTraxx Crossover Index linked to 40 companies with mostly high-yield ratings jumped 60 basis points to 678, the highest since July 2009. Corporate credit-default swap prices are rising amid speculation the European Central Bank’s purchase of government debt, while supporting the bonds themselves, is failing to restore investor confidence in the ability of policy makers to resolve the region’s deficit crisis.

As Market Tension Builds, World Leaders Ponder Response - Policy makers around the world were searching on Sunday for a way to respond to market tensions that seemed to be growing too powerful for any one economic superpower to cope with alone.  In Europe, there was speculation that the European Central Bank¹, whose governing council was expected to hold an emergency conference call late Sunday, would buy Spanish and Italian bonds to prevent borrowing costs for those countries from becoming unsustainable.  But as the shock of the Friday’s downgrade of United States debt reverberated dangerously with anxiety about European debt, some analysts said that the European Central Bank would itself need help because of its limited charter and its internal divisions.  “They just can’t allow the Italian economy to go down the tubes. It would be a Lehman-type situation,”  Mr. Dadush put the cost of a bailout of Italy at $1.4 trillion, with Spain requiring another $700 billion. Those sums would be a challenge even for the most solvent European countries, foremost among them Germany.

G-7 Vows to Take ‘All Necessary Measures’ to Stabilize Economies - Group of Seven nations sought to head off a collapse in investor confidence after the U.S. sovereign- rating cut and a slump in Italian and Spanish debt intensified threats to the global economy.  G-7 finance ministers and central bank governors pledged in a statement to “take all necessary measures to support financial stability and growth.” Officials will inject liquidity and act against disorderly currency moves as needed, they said after a call late yesterday European time. The G-20, which includes emerging markets, issued a similar communique.  Stocks extended declines that have wiped $5.4 trillion off equity markets since July 26, driven investors to Treasuries and gold and rattled consumer confidence already hurt by European fiscal tightening and elevated American unemployment. The European Central Bank signaled it will buy Italian and Spanish bonds, and Japan warned it may intervene again to stem gains in the yen.

ECB Said to Buy Bonds of Italy, Spain to Cap Gain in Yields The European Central Bank bought Italian and Spanish government bonds amid concern their rising bond yields may force the two countries to seek bailouts, according to six people with knowledge of the transactions. The ECB isn’t buying Irish or Portuguese bonds, said one of the people, who asked not to be identified because the deals are confidential. The ECB said last night it will “actively implement” its bond-purchase program, signaling it is ready to start buying Italian and Spanish securities to counter the sovereign-debt crisis. A spokeswoman for the central bank declined to comment today." "The yield on 10-year Italian bonds fell 74 basis points to 5.36 percent as of 10:16 a.m. in London. That narrowed the difference in yield, or spread, to similar-maturity German debt by 80 basis points to 294 basis points. Spanish 10-year yields slid 79 basis points to 5.26 percent

Wonking Out About the Euro Crisis (Very Wonkish) - Krugman - Here’s how I think of what may be going on in Europe right now. Imagine that markets are trying to put a probability on default. And they believe that if default takes place at all, it will involve serious losses to bondholders. Why? Because there’s a crossing-the-Rubicon aspect to default: once a government does it, it’s going to pay serious reputational costs, so it might as well get significant debt relief while it’s at it. Meanwhile, the decision to default involves weighing the pain from default against the pain of trying to pay debt in full — and the latter depends among other things on the interest rate. A sufficiently high interest rate will make the burden of debt unbearable, and trigger default. So you get a picture something like this: Rational expectations implies is that there are two equilibria. Equilibrium A is where investors don’t believe you will default, so interest rates are low, so you don’t. Equilibrium B is where investors believe you will, so rates are high, so you do. The story for Italy, then, is that events in other countries have threatened to push the country to bad equilibrium B. And the ECB’s mission, should it choose to accept it, is to provide enough funding to rule that out and push the thing back to A.

The ECB presses "pause" on the crisis - TODAY'S biggest news is the word that the European Central Bank is intervening in European debt markets in force, buying up Spanish- and Italian-government debt. The ECB spent last week expressing reluctance to take this step, but without it, the euro crisis threatened to spin irretrievably out of control. What are these purchases all about, and will they work? Paul Krugman's analysis is the right one, I think. Unlike Greece, Portugal and Ireland, Spain and Italy are widely believed to be fundamentally solvent. That is, at reasonable, positive interest rates, the Spanish and Italian governments could be expected to service their debts in perpetuity. Crisis elsewhere in Europe led markets to lose confidence in this assessment, however, pushing up borrowing costs for the Spanish and Italian governments. The crisis threatened to become self-fulfilling; as borrowing costs rose, it became ever less likely that Spain and Italy could, in fact, afford to keep paying their debts.

ECB Bond Buying May Reach $1.2 Trillion - The European Central Bank’s move to buy Italian and Spanish bonds to tame the region’s debt crisis marks a step toward the kind of fiscal union that Germany has opposed since the founding of the single currency.While investors and economists say tighter fiscal ties and increased transfers to the financially weak euro states will be needed to end the financial contagion, purchases of Italian and Spanish debt that Royal Bank of Scotland Group Plc estimates may reach 850 billion euros ($1.2 trillion) threaten fresh political fault lines. “This huge-risk pooling exercise will not come easily and the risk of political fallout will be large,”This might be the necessary and painful step required to pave the way for the creation of a common debt instrument, the quid pro quo for this might be the loss of fiscal sovereignty.”

Italians Bristle At The Price Of Financial Help - This week, Italy became the front line in the battle to save the euro. But it isn't the Italians taking the lead. With indecision in Rome, the European Central Bank took the unprecedented move of dictating budget-cutting policies to the third-largest economy in the eurozone. Prime Minister Silvio Berlusconi will now have to accelerate tough austerity measures in exchange for help to solve the country's debt crisis. A week ago, Berlusconi was telling Parliament in Rome that the Italian economy was solid. And he expressed confidence that Italy could deal with its huge debt — 120 percent of GDP, the second-largest in the eurozone. At the same time in Frankfurt, the president of the European Central Bank, Jean-Claude Trichet, and the man who will soon succeed him, the Italian Mario Draghi, were drafting a letter to Berlusconi. It reportedly listed in meticulous detail what Italy must do to sharply reduce its debt mountain, specifying legislation and a precise timetable. In exchange, the ECB would help by buying Italian treasury bonds whose yields have hit record and unsustainable levels.

More austerity may be the last thing Italy needs - Italy's problem is not a high budget deficit but chronically weak growth, and forcing it to frontload austerity measures just as its economy is moving into yet another downturn may prove dangerously counter productive. After a massive sell-off of Italy's government bonds threatened to make the euro zone debt crisis totally unmanageable, the European Central Bank agreed on Sunday to buy Italian bonds on the market, but only on stringent conditions. The ECB, supported by the French and German governments, demanded Italy bring forward plans to balance its budget by one year to 2013 and urgently adopt reforms to liberalize its hidebound economy and boost growth. Backed into a corner, Prime Minister Silvio Berlusconi accepted. The second goal is vital and long overdue, but the first seems like a panic response to the recent market turmoil -- which has also swept up Italy's banks -- and could undermine the prospects for recovery and even for public finances in the medium term.

Germany Riskier Than U.K. for First Time Since January 2008 - Germany is riskier than the U.K. for the first time since January 2008, according to prices for credit-default swaps, as the euro-region crisis spreads. The cost of insuring against a German default rose to 83 basis points in London, which was as much as 2 basis points more than contracts on British debt, according to CMA. The last time German bunds were more expensive to insure than U.K. gilts -- on Jan. 21 2008 -- the difference was less than half a basis point. "It's clear that infection is spreading right up the euro credit ladder," . "Suddenly, like a wildfire, it's leapt into Germany."The euro area's debt crisis is contaminating countries that investors traditionally considered to be havens, even after the European Central Bank resumed buying bonds of peripheral nations. German bunds fell as speculation mounted the region's largest economy will be forced to pick up the tab for its neighbors, pushing the 10-year yield up from near the lowest since October.

Debt Crises and Market Turmoil: Is The World Going Bankrupt? - SPIEGEL - graphics - The fear is back, in the stock exchanges and in the capitals of the industrial nations. There are growing signs everywhere of a new financial crisis, and the political leaders of the West are looking helpless and out of their depth. The United States is struggling with an enormous budget deficit. And the euro zone's central bankers and government leaders can't find a strategy to end the permanent malaise of their single currency. The White House has achieved little more than to buy some time with a new debt compromise reached after theatrical political squabbling between Democrats and Republicans. Last Friday night, rating agency Standard & Poor's lowered its rating for the US from AAA to AA+. Muddling through, postponing, playing down -- the motto of the crisis managers on both sides of the Atlantic has sent alarm bells ringing in stock markets. Britain's Economist magazine is warning of a double-dip recession in the US, a second downturn just three years after the last one. Many economists have been pointing out that last week's panic resembled the fear that swept financial markets after the collapse of US investment bank Lehman Brothers in September 2008.

Philip Pilkington: European Citizens are Not Being Taxed to Fund the Bailouts - We hear it time and time again: EU taxpayers are paying for the bailouts in the European periphery. The problem with this statement? As popular as it may be in the media right now, it’s not quite true – at least, it’s not true if you take a proper macroeconomic perspective on the crisis rather than looking at it through the crass lens of nationalism. This isn’t an argument being put forward by third-rate hack writers either; no, it wasn’t cooked up in a stinking pot of garbled prose stew by a Thomas Friedman. It is instead a fallacy peddled by some of the most respectable writers in business.First of all, no taxpayers have actually been ‘charged’ for the bailout of the Eurozone periphery. This may seem like an obvious point but the more people I talk to about this the more I feel that it needs to be described as clearly as possible: The German citizenry have not incurred a ‘PIIGS tax’ to fund the bailout.

How ECB Failed To Reassure Investors - On the face of it, the main source of stress in markets may not be the downgrade of US government debt by the ratings agency Standard & Poors, because the price of 10 year government bonds actually rose a bit overnight - which is the reverse of what should happen if investors agreed with S&P that the prospects for the US repaying all its debts have worsened. That said, there is a peculiar internal contradiction in markets that has been created by S&P's downgrade: on the one hand it should make US government bonds less attractive to own; on the other, for those who still engage in the knee-jerk policy of buying US government bonds and shunning shares when the world seems a riskier place, the downgrade's heightening of perceived risk in the financial world makes US government debt seem more attractive. Welcome to the surrealism of global market behaviour.

Saving too big to fail French banks would cost AAA rating - There are two spotlights in Europe today. France and Switzerland and their problems are intertwined. Despite denials by various French officials, the market suspects there is sufficient smoke to indicate a fire. Reuters reports that an Asian bank has cut credit lines to top French banks and other counter-parties are considering the same. The French banks are perceived to be too big to fail--not that there is real talk at this juncture along those lines. However, the share and bond prices are eating away at their Tier One capital and the market situation is getting worse, not better. If push comes to shove, France can recapitalize its banks. However, to do so would likely be at a cost of its triple A rating, even though all three leading agencies have a stable outlook on France's sovereign rating.  Separately, we have been concerned that if, in order to meet their own fiscal objectives, Italy and Spain were to beg out of the Greek 2.0 program, the burden would have to be picked up by Germany and France and the latter is ill-positioned to do so.

The continued embarrassment that is European monetary policy ... economists? -In the summer 2008, when concerns were growing that a weaker economy was approaching the ECB raised its rates – a step that had to be reversed pretty quickly as we know. Quite embarrassing. And what happened this time? Another commodity boom „tricked“ the ECB into raising rates at the worst possible time, even though there were no signs of a pass-through of the currently higher headline inflation to core inflation, and thus, to medium term headline inflation. Now, this step will probably be reversed quickly, too. Why? Because even Germany might be heading for a recession. As my guest blogger Henry Kaspar has pointed out repeatedly, I shouldn’t criticise the ECB for following its mandate. Even though we all know that the ECB broke its own rules in the past when there was a need to do so, there certainly is some truth to that.  So let me instead address those European economists that keep missing that monetary policy is a huge part of the problem, and potentially a big part of a shorter and longer term fix for the Eurozone.

‘Botox’ economics triggers toxic eurozone side-effects - The crisis threatening to engulf world financial markets has been brewing since 2008, writes the author and derivatives expert. Until recently, markets were Dancing in the Streets but, increasingly, another Holland-Dozier-Holland standard made famous by Martha and the Vandellas is relevant: Nowhere to run to, baby. Nowhere to hide. The recovery from the first phase of the crisis was based on Botox economics. Botox is commonly used to improve a person’s appearance but its effects are temporary and can have toxic side-effects. Financial Botox – money from central banks and governments to prop up demandh – temporarily covered up deep-seated problems rather than resolving the real issues. Financial Botox – money from central banks and governments to prop up demandh – temporarily covered up deep-seated problems rather than resolving the real issues. As individuals and companies reduced debt, government borrowing jumped to limit the effects of the crisis on the broader economy. The new phase of the crisis is different to 2008 and that Lehman moment. Then, governments had the financial capacity to backstop the private sector, especially financial institutions. The crisis now involves nations. The ability of sovereigns to finance themselves is in question and there is no one to backstop the governments themselves. Contagion from a sovereign debt crisis is especially pernicious, and different to that of 2008.

August 2011: The euro crisis reaches the core - Canaries were kept in coal mines because they die faster than humans when exposed to dangerous gases. When the birds stopped singing, wise miners knew that it was time to gear up the emergency procedures. Greece, as it turns out, was the Eurozone’s canary. The canary was resuscitated and a small rescue mechanism was set up to revive a further canary or two – but beyond this the warning was ignored. The miners kept on working. They convinced themselves that this was the canary’s problem.  Investors are anticipating the unravelling of the 21 July 2011 “solution” and a breakdown of the interbank-market that would throw the economy into an “immediate recession” like the one experienced after the Lehman bankruptcy. This column argues that this will happen without quick and bold action. The EFSF can’t work as designed but if it were registered as a bank – which would give it access to unlimited ECB re-financing – governments could stop the generalised breakdown of confidence while leaving the management of public debt in the hand of the finance ministers.

Euro-Region Industrial Production Fell in June - European industrial production unexpectedly fell in June and France’s economy stalled in the second quarter, adding to signs that growth is losing momentum as governments struggle to contain the debt crisis. Production in the 17-nation euro area slipped 0.7 percent from May, the European Union’s statistics office in Luxembourg said today. In France, the economy failed to expand from the first quarter, according to Paris-based statistics office Insee, missing the median forecast of 0.3 percent growth in a Bloomberg News survey of 15 economists. European leaders last month pledged a second bailout package for Greece in a bid to restore investor confidence and prevent the crisis from spreading across the region. While companies including German carmaker Porsche AG are relying on faster-growing markets to fuel sales, European economic confidence weakened in July and manufacturing growth slowed, according to Markit Economics’ gauge based on a survey of purchasing managers.

How close is a European double dip? - Alas, all is not well in Europe. The big question continues to be: can European economies manage their aggressive austerity plans against a backdrop of lagging growth? And the growth outlook is darkening. Today, France, which found itself at the middle of the week's debt-downgrade and banking panic, reported disappointing growth figures. From the first quarter to the second, the French economy failed to expand at all, held back in large part by a drop in household consumption. For now, French officials are declaring that they'll keep to their deficit-reduction goals. What's worse, the euro-zone economy as a whole is rapidly losing momentum. Industrial production across the euro area fell by 0.7% from May to June. Production dropped in every large euro-zone economy, including a 1.7% decline in France and a 0.8% dip in Germany, which is widely considered the currency area's bulwark against a return to recession. Activity dropped across southern Europe, falling in Italy for a second consecutive month. That's especially bad news for an economy facing an accelerated austerity push.

Four European Nations to Curtail Short-Selling— A European market regulator is considering recommending a temporary ban on negative bets against stocks across the Continent in an effort to stop the tailspin in the markets. The European Securities and Markets Authority, a body that coordinates the European Union¹’s market policies, has been requesting information from member states about such bets against stocks, known as short-sales. In such deals, a trader sells borrowed shares in hopes that they will decline in value before he has to buy them back to close out his loan. The difference in price is his profit, or loss. Critics say short-selling encourages speculation and pushes stock prices down, sometimes feeding on itself in a panicked market, while advocates say it keeps the market honest and maintains liquidity.  Two people with knowledge of the discussions, who declined to be identified by name because the talks are confidential, said that the authority might propose a ban on betting against all stocks or just financial stocks. It also may propose a ban on a certain type of short-selling, known as a naked short, in which the party making the negative bet does not borrow the share it is shorting first. The bans would likely be temporary, just to calm the markets.

European quartet bans short selling - France, Italy, Spain and Belgium have banned all short selling of financial stocks for 15 days in response to sharp share price falls this week, but they failed to convince other regulators to go along with a European Union-wide prohibition, reports the Financial Times. The FSA has stepped up scrutiny of UK banks' exposures to foreign government debt as fears of European sovereign debt contagion sent markets into a renewed frenzy yesterday, reports the Independent. Europe’s top two powerbrokers last night said they will hold a fresh round of crunch talks in a desperate bid to solve the debt maelstrom sweeping the eurozone, reports the Daily Mail. German Chancellor Angela Merkel and French President Nicolas Sarkozy will meet in Paris on Tuesday after days of turmoil on the financial markets.

Germany to propose unelected 'stability council' for EU - Germany has proposed the creation of a new EU 'overseer' that would crack the whip and impose sanctions on countries that do not adhere to rigid budget discipline and pro-business labour policies.  The country's economy minister, Philipp Roesler, on Tuesday (10 August) told reporters that the bloc should create a new EU institution, a 'stability council', of unelected supervisors that would ensure member states that stick to budget temperance and limit debt and keep in check debt growth.  This council should be given the power to slap sanctions on countries to ensure they cut their deficits and monitor use of financial assistance. The plans would also require that a German-style 'debt brake' be written into national constitutions.  But the new body would also be empowered to carry out 'competitiveness tests' amongst eurozone states to see if labour market policies are sufficiently competitive. The tests would also assess the innovation climate.

French economy stagnates as consumers cut spending -  The French economy failed to grow in the last quarter as households across the country cut their spending, in the latest sign that the European economy is stumbling. Data released by Eurostat, the region's statistics body, on Friday showed that French GDP was stagnant between April and June. Economists had expected the economy to grow by around 0.3%. Household consumption in France fell by 0.7% compared with the first three months of 2011, increasing the pressure on president Nicolas Sarkozy to convince financial markets that he can meet his fiscal targets. Sarkozy has promised to release revised plans to cut France's budget deficit within days. Other economic data released on Friday also painted a poor picture.

French growth sputters to a halt in 2nd quarter - The French government was put under further pressure to cut deeper into spending after figures Friday showed growth in Europe's second biggest economy ground to a halt in the spring, in another sign that the global economy is facing rising recessionary threats.  With the worse-than-expected French growth figures suggesting a possible budget shortfall this year, government ministers may have to find additional savings ahead of a key meeting with President Nicolas Sarkozy on Aug. 24.  The flat growth reported in the second quarter of the year was attributable to a slump in consumer spending and exports, and came as policymakers scramble to soothe investor concerns that the country could be the next major economy to lose its coveted triple-A credit rating.

Sacre bleu! Market has downgraded France -- Standard and Poor's only downgraded the credit rating of the United States¹ on Friday. But the financial markets have picked up where S&P left off and essentially decided to downgrade much of Europe too. It appears that one of the unintended consequences of S&P's decision to cut the U.S. to AA+ from AAA is that investors have begun to question why nations like France, the United Kingdom and, to a much lesser extent, even uber-strong Germany should still have perfect credit ratings². But it is France that is really feeling the brunt of the market's doubts right now.  Shares of French banks³ Societe Generale, BNP Paribas and Credit Agricole have plummeted in Paris due to wild speculation about their financial health. The entire French market has been hit by what Josh Brown, aka Twitter's @ReformedBroker⁴, calls The Debt Baguette⁵.

Greek unemployment jumps to 16.6 per cent in May - Greece's Statistical Authority says unemployment in the debt-ridden country jumped to 16.6 per cent in May. That's up from 12 per cent in the same month last year and 15.8 per cent in April 2011. The agency said Thursday Greece had 220,534 more unemployed people in May this year compared to May 2010, an increase of 36.6 per cent. The number of jobless stands at 822,719 in the country of about 11 million people. European leaders agreed last month on a second bailout worth C109 billion ($155 billion) for Greece, which was granted its first, equivalent rescue from international creditors last year. In return, the government has imposed strict austerity measures, increasing taxes and cutting public sector pay and pensions.

Greek Economy Contracted 6.9% in Second-Quarter From Year-Earlier Period - Greece’s economy shrank 6.9 percent in the second quarter of 2011 from the same period a year earlier, the Athens-based Hellenic Statistical Authority said in an e-mailed statement today. The figure is based on available non-seasonally adjusted data, the authority said. The agency didn’t provide a seasonally-adjusted figure.

Greek Bond Swap Offer May Go Beyond 2020 - A Greek bond swap offer could be extended to cover bonds maturing after 2020 to reach a target participation amount of euro135 billion as part of an agreement granting the debt-ridden country a second bailout, the country's finance minister said Wednesday. "This a very large-scale and innovative program — it has never been implemented before," Evangelos Venizelos said on Real FM radio. He said the "preparation period" would be completed by the end of September. "Invitations must cover bonds worth euro150 billion which mature up to 2020 — or a little later than 2020 ... Our aim is have 90 percent participation, or euro135 billion, and that is a giant change in Greece's debt profile which significantly eases the long term viability of the Greek national debt," Venizelos said.

What Europe's Downfall Means for the World - With the plunge in global markets coming on the heels of the U.S.'s credit downgrade, it seems like the world's financial problems all trace back to the U.S. But in reality, the eurozone debt crisis is the real time bomb fueling global anxieties. "Europe is about to blow. There is no longer any question of standing still or hoping the U.S. will kick-start the global economy," says Harvard economist Kenneth Rogoff in Rana Foroohar's latest cover story. The impact of Europe's downfall -- whether through a breakup of the eurozone or more costly bailouts -- will be felt across the world, writes Foroohar: Europe is the lagest trading partner of both the U.S. and China. It's home to the world's largest pool of wealthy consumers. If they stop buying our stuff, everyone suffers. Meanwhile, a dramatic depreciation of the euro or a dissolution of the union would make nations from Asia to Latin America that hold the euro as a reserve currency much poorer. What's happening in Europe is symbolic of the changing global order. Read more in this week's cover story.

Still Waiting for Expansionary Fiscal Contraction in the UK - Since in the U.S. we are currently embarking upon a program of reducing fiscal stimulus, it seems useful to examine whether this action would result in rapid economic growth as some have predicted. The UK is at the forefront of conducting this fiscal experiment. The lackluster growth of 0.2% q/q (0.8% q/q annualized) reported on July 26th is hardly a resounding vindication of the approach. The economic analysis accompanying the release noted: There were a number of special factors which may have affected economic activity in the second quarter, including the additional bank holiday for the royal wedding, the after-effects of the Japanese earthquake and tsunami, and the unusually warm weather in April and May. Following standard practice, no adjustments have been made to the published data to remove the effect of this (non-recurring) bank holiday.

Analysis: Riots shake faith in UK austerity, stability (Reuters) - In the eyes of the financial markets, Britain was supposed to be a model of successful, sustainable austerity and a safe haven in which the world's rich could buy houses and stash their savings. The riots that turned London and some other English cities upside down this week have undermined that model, raising questions about the sustainability of spending cuts and a widening gap between rich and poor. From many of the dealing rooms and offices in the skyscrapers of Canary Wharf, traders, wealth managers and analysts could see billowing smoke in several directions this week as rioters torched buildings and looted shops. Order was restored in the capital at least on Tuesday night with a massive show of force by police, but they too face the drastic spending cuts that will affect everything from the military to social benefits and inner-city services. Investors have always had mixed feelings about austerity. They want the British government to tackle the huge deficit to slow its accumulation of debt. But they also fear that cuts will push the economy back into recession, hitting corporate earnings and tax income while raising social spending costs and actually pushing the country deeper into debt.

Youth Unemployment in the Eurozone - Will it lead to further unrest?  - With all of the youth-inspired unrest in the United Kingdom over the past few days, I thought that it would be interesting to look at the social issues facing young people in the U.K., particularly their employment prospects and compare their issues to those facing the youth of other EU and extra-EU nations.  In the second quarter of 2011, youth unemployment in the United Kingdom fell to 19.7 percent with 917,000 unemployed 16 to 24 year olds.  This is a drop of 0.7 percentage points from the previous quarter when there were 959,000 unemployed youth, the highest since record-keeping began in 1992.  The statistics also showed that there were 75,000 youth that had not held a job for two years, an increase of 43 percent from a year earlier.  As we saw in the case of Egypt, perhaps at least some of the actions of young Brits over the past few days is related to a sense of hopelessness rather than just being completely attributable to hooliganism. Here is a look at some interesting youth employment statistics compared to national unemployment statistics for several countries around the world.

• United Kingdom 16 to 24 years of age: 19.7 percent compared to 7.7 percent nationally.

• France 15 to 24 years of age: 22.8 percent compared to 9.7 percent nationally.

• Greece 15 to 24 year olds: 43.1 percent compared to 15.8 percent nationally.

• Canada 15 to 24 year olds: 14.1 percent compared to 7.2 percent nationally.

• United States 16 to 19 year olds: 25.0 percent compared to 9.1 percent nationally.

• Here is a graph comparing the total unemployment rate for the EU-27, the EU, Japan and the United States:

Change You Don't Have to Believe In -A waterfall of woe broke over all the realms of money last week - including especially the realm where we determine just what money is supposed to mean - and a lot of folks barely made it to a rooftop, or a floating log, or some scrap of high ground, where they sit wet and shivering, expecting to get slammed again. The torrent of events is still flowing and there are countless dangerous objects bobbing in it. Remember what that in-rushing ocean was like in the Fukushima tsunami? A wall of miso soup strewn with Toyotas and houses instead of squid rings and fish balls. Try swimming in that. (Try swimming in your Cuisinart on the guacamole setting.) Europe is telling itself one cockamamie story after another. We've got a rescue fund! Only it has no money! But we will bail out Italy nonetheless! But Italy is too big to bail out - and we tried stuffing it under the carpet, but there's no more room with Greece, Ireland, and Portugal already suffocating in there. The whole G-20 is yakking on the phone as I write, hatching fresh cockamamie stories. Oh, now it looks like the European Central Bank will ride to the rescue with a dispatch satchel full of good intentions. They said the same thing last time, a month or so ago, when a caryatid fell on Greece's head. They are not so sure what money is either. Is a bond like money? Maybe not so much anymore. A stock portfolio? Feh! A Euro? The damned thing is starting to look like a ball-and-chain custom-crafted to weigh down Germans. (And, let's face it: they never did pay any of us for World War Two, really, except what they had to fork over to get the communist side of their own country out of hock. Their guilt-o-meter is still buzzing, I'm sure.) All I know is I hope the whole gang printed up some fresh lira, francs, marks, drachma, pesetas, punts, and whatnot. It would be nice to go back to one of these cute places some day at a discount.