Thread: Economy On The Ropes

Economy On The Ropes
Bankruptcies and Soaring Unemployment


by Mike Whitney
Global Research, May 2, 2009



The economy continued to shrink in the first quarter of 2009 at an annual pace of 6.1 percent, making it the worst recession in more than 50 years. Gross Domestic Product slipped into negative territory from January to March for back-to-back quarters of negative 6 percent growth. The news of falling GDP was preceded on Tuesday by a dismal housing report which showed that housing prices have continued their historic downward plunge with only modest improvement. Since their peak in July 2006, housing prices have dropped 31 percent, falling 18.6 percent in the last year alone. The rate of decline has decelerated slightly but--on their present trajectory--prices are on target to tumble 45 to 50 percent from their 2006 highs. Another 20 percent loss in home equity means another $4 trillion loss for US homeowners.

The news on the employment-front is equally bleak. In the week ending April 25, initial jobless claims increased by another 631,000, bringing the 4-week moving average to 637,000. Ongoing unemployment claims are now at 6.27 million, an all time record.

According to the Associated Press:

Unemployment rates rose in all of the nation's largest metropolitan areas for the third straight month in March... The Labor Department reported Wednesday all 372 metropolitan areas tracked saw jobless rates move higher last month from a year earlier."

Consumer spending also fell more than forecast with purchases decreasing 0.2 percent in March and wages and benefits rising at the slowest pace in three decades.

GDP is falling, unemployment is soaring and business and residential investment are at their nadir. Even so, the stock market has continued its 7 week surge on signs that the market may be bottoming.

Although the bad news continues to mount, Northern Trust economists Asha Bangalore and Paul Kasriel have issued a report "US Economic and Interest Rate Outlook" asserting that the worst is over and that the huge quarterly contractions to GDP should gradually improve ending in positive growth by the forth quarter of this year. Kasriel is a first-rate economist and his work should be taken seriously. Still, whether there is a uptick in business activity in the near-term or not, deeper economic problems persist and are likely to get worse before they get better. There is no doubt, however, that Fed chief Ben Bernanke's massive injections of liquidity have had an effect on stabilizing the financial system and reviving the sluggish economy. The Fed chief has committed or loaned $13 trillion in public funds to avoid an impending disaster and to restart speculation in the equities markets. Barron's Randall W. Forsyth provides an original account of Bernanke's intervention:

"THE FEDERAL RESERVE has been roundly castigated in some quarters -- even former high officials of the central bank -- for its aggressive and unprecedented steps to combat the credit crisis.

But data just released by the Bank for International Settlements suggest that, if anything, the expansionary measures taken by the Fed (and in concert with the Treasury) were dwarfed by the record contraction in the global banking system brought on by the crisis. According to the BIS, which acts as a central bank for central banks, total bank claims shrank by $1.8 trillion in the fourth quarter, or 5.4%, to $31 trillion. This was the largest decline ever recorded.

In other words, there never was a global run on the banking system such as the one seen in the final three months of 2008, which followed the bankruptcy of Lehman Brothers and the near-collapse of American International Group in September. The numbers serve to confirm the extent of the tsunami the swept through the world's financial system....

...Unlike in the 1930s, when central banks actually aided and abetted the collapse of the banking system, today's leaders responded to the unprecedented crisis in the fourth quarter with equally unprecedented force.....

To be sure, banks, including the I-banks, have benefited from the actions of the Fed and the Treasury. But that is separate from the question of the macroeconomic impact of their actions.

Those who contend that the expansion of central bank balance sheets is inflationary ignore the contraction of balance sheets in the banking system, as well as the so-called shadow banking system of assets and liabilities not recorded on banks' books. This analysis is very different from arguments that appeal to the "output gap," the difference between the economy's potential output and actual production. That analysis effectively says that high unemployment will hold down wages and prices, which manifestly did not happen in the stagflationary 'Seventies.

Inflation, as Milton Friedman taught, is always and everywhere a monetary phenomenon. Yet the current central-bank expansion is offsetting the contraction in the banking system -- which Friedman criticized the Fed for failing to do in the 1930s.The new BIS data bear out the justification for the Fed's actions, notwithstanding the critics' claims." ("Fed Fights a Record Global Bank Run", Randall W. Forsyth, Barrons)

Whether one approves of the Fed's price-fixing, market-distorting, business-friendly policies or not; Bernanke's emergency actions probably pulled the financial system back from the brink of annihilation, thus, preventing a full-blown meltdown. Bernanke has spared no expense to save Wall Street and the banking cartel. The Fed's bias is clear by the amount of money it has devoted to fixing the financial system as opposed to relieving unemployment, slowing foreclosures or providing debt relief. The Fed's loyalties have never really been in doubt.

While Bernanke may have avoided a global bank-run, the bleeding continues in housing, business investment, manufacturing, industrial capacity, and global trade. Every sector is falling precipitously with no end in sight. Even worse, nothing has been done to remove the trillion dollars of toxic assets from the banks balance sheets which is causing credit to tighten even more. Treasury Secretary Timothy Geithner has failed to take advantage of the uptick in investor confidence to resolve the problem of underwater banks. Instead, he has stubbornly stuck with his Public Private Investment Program (PPIP) which has made less than $6 billion in transactions so far. Unless the banks are restored to health and their balance sheets repaired, a sustainable recovery will not be possible. According to Bloomberg, 6 of the 19 largest banks (which contain 75% of the system's total assets) are insufficiently capitalized:

Bloomberg: "At least six of the 19 largest U.S. banks require additional capital, according to preliminary results of government stress tests, people briefed on the matter said. While some of the lenders may need extra cash injections from the government, most of the capital is likely to come from converting preferred shares to common equity, the people said. The Federal Reserve is now hearing appeals from banks, including Citigroup Inc. and Bank of America Corp., that regulators have determined need more of a cushion against losses." (Bloomberg)

Geithner continues to nibble at the edges, using unreliable accounting maneuvers instead of addressing the problem head-on and forcing a debt-to-equity swap that would recapitalize the banks by giving bond holders a haircut. Geithner thinks that if he stalls long enough, the rotten assets will regain their original value and the banks will be fine. He's ignoring the fact that many of the mortgage-backed securities (MBS) are collateralized with fraudulent loans to borrowers who have no way of paying the money back. The losses need to be accounted for and written down while there's still a glimmer of optimism in the market. The IMF believes that the losses on securitized assets may reach $4 trillion by the end of 2010 and that banks will be on the hook for roughly 61% of the writedowns. Nonperforming loans at the big banks are skyrocketing. "Bank of America Corp. bad assets increasing 229 percent to $25.7 billion. Problem assets at New York-based Citigroup Inc. rose 128 percent to $27.4 billion, and San Francisco-based Wells Fargo & Co.’s jumped 180 percent to $12.6 billion." (Bloomberg) There's no way to sweep losses of this magnitude under the rug.

In an article in the Financial Times, economics editor Martin Wolf fleshes-out the projected costs of the financial system bailout in eye-popping detail:

"These are not the only sums required. Governments have so far provided up to $8,900bn in financing for banks, via lending facilities, asset purchase schemes and guarantees. But this is less than a third of their financing needs. On the assumption that deposits grow in line with nominal GDP, the IMF estimates that the “refinancing gapâ€

I hate to say this but it's in America interest to have a bad economy until we can get the illegal out by attrition.