Monthly Archives: November 2008

Call it quantitative easing with a vengeance. The Fed’s new programs–$200 billion  in credit to support private purchases of securitized auto, credit-card and student loans; and $600 billion to buy mortgage-backed securities issued or guaranteed by Fannie and Freddie–constitute another dramatic widening of the Fed’s remit. The new facilities are not brand new concepts, however: they add to existing schemes to support the commercial paper market (involving commitments that approach $2 trillion in their own right). The new facilities will further engorge the Fed’s balance sheet: rather than adding to public borrowing, like the TARP, this is money creation by another name, targeted on specific sections of the credit system.

As time goes on, the paralysis over the passage of the original TARP–with Congress attempting to impose a precise design of its own on the Treasury and Fed–seems increasingly absurd. So much for accountability. Yet what the Fed is doing seems right to me. Try everything; do more of what seems to be working, and less of the rest. What was daft at the outset was the idea that a single detailed blueprint could be drawn up ex ante, given a political stamp of approval, and then executed to the letter. I am relieved–and surprised–that the system is allowing this much learning by doing, and that the experiments are being conducted on so vast a scale. In this respect, maybe the presidential transition and the semi-attentive Congress that goes with it are a blessing in disguise.

Will it work? Who knows? The new scheme instantly suppressed long-term mortgage rates by about half a percentage point, which is not nothing. But with house prices still falling, will that be enough to persuade home-buyers to return to the market? It helps, but only a little–and housing is still at the centre of all this. We need action on  foreclosures, which still threaten to make house prices undershoot, with even further collateral damage in credit markets. And I hope somebody in this Treasury or the next is taking a hard look at Allan Meltzer’s proposal for temporary tax-relief for house buyers.

Treasury Secretary Hank Paulson’s plan helps banks and lenders. It does not address the problem – an excess supply of housing. Eliminating excess supply will end the housing problem and help the mortgage market because mortgage value depends on house value. Buying or adjusting mortgages will not do much for house prices. And any programme to rewrite mortgages in default encourages more defaults.

To address the housing problem, Congress and the administration should take actions that increase the current demand for housing. For a limited time, say up to the end of 2009, allow buyers to use the value of their down-payment (or some part of it) as a tax deduction. Or, reduce the tax rate for qualified buyers who purchase a house between now and January 2010. Or do both. Give the benefit to all home buyers, including those buying a second or third house.

Some may be speculators. Not a problem. The goal should be to remove the excess supply of houses and condos, not to reward or punish particular groups. Increased housing demand will work to stabilise prices, not immediately but sooner than would otherwise occur. Reducing the excess housing stock reduces defaults by slowing price decline. And it brings nearer the time when homebuilding increases.

Some proposals urge the government to buy mortgages. This does little to remove the excess supply of houses, although it may reduce the number of defaults. But reducing defaults does not stimulate the demand for housing. It helps some who are hurt and may keep the problem from growing, but it does not relieve the problem of existing excess supply.

I find it encouraging that the Obama team is working on a much bigger fiscal stimulus than previously contemplated. I agree with Larry Summers on this: the dangers of being too timid are far greater than the risks of doing too much. A plan of at least $500 billion is warranted, as I argued here and here [subscription required]. But the composition of the stimulus is important, obviously. Boldness in mobilising the resources needs to be matched with restraint in two respects: avoid an industrial policy that draws the government into micro-managing the recovery; and avoid structural commitments that jeopardise long-term fiscal control. A focus on unemployment assistance and infrastructure spending (the first is cyclical, the second is by its nature temporary) seems to make best sense in both respects.

The Citibank rescue is much less encouraging–though I am willing to believe it was necessary. The trouble is that it raises as many questions as it answers. Comprehensive as it may be, the deal does not in fact ring-fence all of Citi’s possible future losses, only some of them. Roughly $300 billion of mainly housing-related assets are covered, but those are not the only assets in jeopardy. So that is one question: will Citi need to come back to the Treasury a third time? Another is whether this plan scales–since other big banks may shortly be asking for similar treatment. Citi has been granted pretty generous terms, after all. Can the Treasury roll this deal out to every systemically significant firm? It is hoping, no doubt, that it won’t have to, but this would not be the first time its hopes have been dashed. The US government’s fiscal capacity is enormous–but not unlimited.

As for Obama’s main economic appointments, I think Tim Geithner and Larry Summers are both outstanding–though I do wonder whether they will be able to work well together in the roles they have been given.

President-elect Barack Obama, in choosing Timothy Geithner and Lawrence Summers to lead his economic team, is betting on a student-and-mentor pair who forged a partnership while battling the world’s last serious financial crisis.

That is how the Wall Street Journal put it. I very much hope that this is not what Obama has in mind. The Treasury secretary as “student”?

Is Geithner going to be in charge of economic policy or not? To have credibility as Treasury secretary he will have to be, and the markets ought to be left in no doubt about it. (Students of British economic policy might think back to the resignation of Nigel Lawson as chancellor of the exchequer in protest at being second-guessed by Alan Walters, Margaret Thatcher’s personal economic adviser. You could plausibly argue that this falling out marked the beginning of the end for Thatcherism.)

The prospect of this inverted, or at any rate ambiguous, economic partnership has also given rise to speculation about Ben Bernanke’s future as Fed chairman. Is that job being lined up for Summers, people are wondering? Not helpful. All in all, I think it would have been better to give Summers the Treasury job, even if that would have ruffled some feathers. Aside from the presumption of seniority, he is the outstanding economic-policy brain in the new administration–and in the country, for that matter. It’s not as though Geithner’s talents were going to waste at the New York Fed. His role there has been critical.

As many correspondents have pointed out (some with an air of triumph that makes me question their loyalty), my column today accused Deval Patrick of being a Republican.

A case in point: the Republicans should have gone into this election with a national plan for universal market-based healthcare (something that Republican governors in Massachusetts and California are trying to implement). If the Obama administration makes progress on this, it will be all the more necessary next time, but how stupid to have yielded the advantage.

Of course in the case of Massachusetts I was thinking of Mitt Romney’s plan, and got my tenses muddled up. Sorry about that.

The claim that a plan with a mandate can be called market-based has also come under fire. I stand by that, while acknowledging that “market-based” might mean a lot of different things. For the purpose of this column I only meant to contrast these Republican designs–which leave a dominant role for private insurance schemes–with single-payer models. I’m not a huge fan of the Massachusetts plan, in fact, because I think it important to get away from employer-provided coverage. If you’re curious to read about a plan I like very much, here is another article.

It is always depressing to see Starbucks deploy its Christmas-themed cups at the beginning of November. In much the same way, one does not wish to be reminded that the next US mid-term elections are just two years and one recession away. Still, facts must be faced.

Two years after the election of Bill Clinton in 1992, the Republican party seized control of Congress. The Democratic administration henceforth had to work with the enemy. What can the Republicans do to make this happen again?

The Republican triumph of 1994 was due to unforced errors on the administration’s side (gays in the military, the hubristic overreach of Hillary Clinton’s healthcare plan) and remarkably effective Republican leadership in Congress (Newt Gingrich and the “Contract with America”).

The remainder of the article can be read here. Please post your comments below.

In a new column [link expires in a fortnight] for National Journal, I give some ground to the case for more aid for the Detroit Three. (I’ll give Jonathan Cohn the credit, by the way: this is a great piece.) The point is that the bankruptcy process is impaired. Still, I think, the dire consequences of allowing GM to go bust are being exaggerated.

Now, bailout advocates say, consider the consequences. A note on this by the Center for Automotive Research (which you could say has a vested interest, but let that pass) has been widely cited in the past few days. It says that 3 million jobs could be lost. How does the center get to this number, when all three companies employ about 240,000 people, or less than one-tenth of that figure? It adds about 1 million more jobs at firms that supply the car manufacturers. Then it tacks on 1.7 million in “spin-off employment,” which means jobs lost across the economy as a whole because of reduced spending by workers with Detroit’s Big Three and their suppliers.

It would surely take more than the bankruptcy of GM to shut down all three companies and wipe out the industry’s supplier network (which, remember, serves foreign-owned companies as well). The failure of one firm would help the survivors. The most-valuable assets of the failed company would most likely be acquired by its competitors. The technology for the forthcoming Chevy Volt — the plug-in electric vehicle that some enthralled commentators seem to think justifies a $50 billion bailout all by itself — would be snapped up by another company if it is as promising as its supporters say. Fiscal stimulus could reduce any spin-off unemployment. The collapse of GM would be a heavy blow all right, but not the end of life as we know it. Even if all three firms collapsed, the claim that this would destroy 3 million jobs is far-fetched.

Nonetheless, the view that the normal Chapter 11 process is likely to fail in this case has some weight. At a time when the economy is weak and the bankruptcy system impaired, when a good independent case can be made for a second fiscal stimulus of $500 billion or more to sustain demand and preserve jobs, it is difficult to argue with conviction that employers the size of the Big Three should be denied all help. But in coming to the rescue, if it does, the government should demand both a bankruptcy-like restructuring of the companies and a share in the upside.

Beyond the question of the bailout, what does the plight of the US car makers imply for the new administration’s policy on unions?

The Democratic Party is allied with the unions, a marriage of head and heart. Obama has promised to support the “card-check” legislation that the unions see as vital for expanding their membership and bargaining power. The state of American auto manufacturing — an example of union power in action — ought to give him pause.

No doubt there is plenty of blame to go around for the mess that the industry is in. Epic management incompetence has played its part. So has shortsighted economic policy, which kept the price of gasoline in the U.S. at a fraction of what it was in other industrial countries. (If fuel is dirt cheap, you cannot fault consumers for wanting to drive SUVs, or car manufacturers for selling the vehicles that buyers want.) But on top of that, the unions raised wages and benefits to insupportable levels, and for years blocked efforts to cut costs and increase efficiency. Worst of all, by anointing themselves co-managers, they reduced the domestic industry’s ability to react promptly to shifts in demand. Is this how the Democratic Party intends to strengthen the economy?

Avoiding mortgage foreclosures ought to be a win-win proposition for the lenders and borrowers directly involved. It would also be good for the rest of us–for anybody with a stake in the housing market, or an interest in a faster economic recovery. When you recall that it was identified very early on as a key aspect of managing this crisis, it is disappointing that so little progress has been made, and the reasons for this are not altogether clear. Securitization has complicated the loan-modification process, of course, but even so.

Sheila Bair’s plan seems to be making some headway. Will it work? It was tried when the FDIC took over IndyMac, and with some success. Still, the numbers are not exactly shattering.

IndyMac, which services 653,503 loans, has offered about 23,000 modifications since launching the programme on August 20. Only 5,108 have been completed with first payments made but this is double the figure a month ago and will grow rapidly as modifications in the pipeline are finalised.

Given the lack of effective alternatives, it seems worth trying on a larger scale. True, it creates an incentive to default (only delinquent loans are eligible for help), but this is true of any loan-modification scheme. A bigger problem is that it does not seem to provide for principal write-downs as opposed to interest-rate relief. For why that might matter, here is Ben Bernanke (from a speech last March) on the subject.

To date, permanent modifications that have occurred have typically involved a reduction in the interest rate, while reductions of principal balance have been quite rare.  The preference by servicers for interest rate reductions could reflect familiarity with that technique, based on past episodes when most borrowers’ problems could be solved that way.  But the current housing difficulties differ from those in the past, largely because of the pervasiveness of negative equity positions.  With low or negative equity, as I have mentioned, a stressed borrower has less ability (because there is no home equity to tap) and less financial incentive to try to remain in the home.  In this environment, principal reductions that restore some equity for the homeowner may be a relatively more effective means of avoiding delinquency and foreclosure.

Lenders tell us that they are reluctant to write down principal.  They say that if they were to write down the principal and house prices were to fall further, they could feel pressured to write down principal again.  Moreover, were house prices instead to rise subsequently, the lender would not share in the gains.  In an environment of falling house prices, however, whether a reduction in the interest rate is preferable to a principal writedown is not immediately clear.  Both types of modification involve a concession of payments, are susceptible to additional pressures to write down again, and result in the same payments to the lender if the mortgage pays to maturity.  The fact that most mortgages terminate before maturity either by prepayment or default may favor an interest rate reduction.  However, as I have noted, when the mortgage is “under water,” a reduction in principal may increase the expected payoff by reducing the risk of default and foreclosure.

What’s another 5 percent here or there–well, 7 percent if you want to look at the S&P 500? I, for one, don’t want to look.

The stock market is now at its lowest since 1997. The flight from risk in credit markets continues unabated, with safe short-term interest rates now at zero. The end of the road for monetary policy? Not quite. What remains is “quantitative easing”, which Fed vice-chairman Don Kohn referred to on Wednesday–and which the Fed is now conducting. A good time to re-read Ben Bernanke on the subject. In a speech from five years ago, when the subject seemed of mainly academic interest so far as the US was concerned, he explains how it works. (Thanks to Calculated Risk for the reminder.)

A quite different argument for engaging in alternative monetary policies before lowering the overnight rate all the way to zero is that the public might interpret a zero instrument rate as evidence that the central bank has “run out of ammunition.” That is, low rates risk fostering the misimpression that monetary policy is ineffective. As we have stressed, that would indeed be a misimpression, as the central bank has means of providing monetary stimulus other than the conventional measure of lowering the overnight nominal interest rate. However, it is also true that the considerable uncertainty that surrounds the use of these alternative measures does make the calibration of policy actions more difficult. Moreover, given the important role for expectations in making many of these policies work, the communications challenges would be considerable. Given these risks, policymakers are well advised to act preemptively and aggressively to avoid facing the complications raised by the zero lower bound.

That was then, this is now.

Apparently not.

The Inn Between’s waitress is busy delivering the lunch special of breaded chicken, mashed potatoes and green beans to a stream of customers who work at different places but all seem to know one another.

The banter is raucous and sustained, and when the conversation turns to a proposed federal bailout for U.S. automakers, there is little support for the idea.

“I don’t think they should bail them out because … obviously something’s not right in the way they’re running their business, and why should the American people have to bail them out if they can’t figure out how to do it right?” September Quinn, the busy waitress, said after the lunch rush at the Inn Between.

I attended the Cato Institute’s annual monetary conference. The Fed’s vice-chairman, Don Kohn, gave the keynote address, and used it to emphasise that the central bank would not let the economy fall into a deflationary spiral (speech; Krishna Guha’s report). The BLS released inflation figures for October, showing a seasonally adjusted drop in the CPI of 1 percent, the biggest since 1947. Even core inflation was negative last month. Stockmarkets crashed again. I suppose Cato should be congratulated on its timing.

I think choosing Hillary would be a mistake. Not because of Bill. The new administration can choose to use him or not, regardless. The “two for the price of one” stuff is ridiculous: they are not exactly chained together. Equally, if Hillary were the best candidate for secretary of state, it would be absurd to deny her the offer because of Bill’s post-presidential connections. Scrutiny in future is really all that is required there.

No, the problem is that she is not a well-qualified candidate. She is not by any stretch of the imagination a foreign-policy expert. I don’t think I would call her a born diplomat. And her loyalties, to put it mildly, might be divided. Her first priority would be to advance her own presidential ambitions, not to help make the Obama presidency such a success that those hopes die. The “team of rivals” idea is wonderful so long as the rivals are fully invested in the success of the enterprise. In this case, it seems doubtful. Could Hillary defer to Obama, and carry out his instructions to the best of her ability? I doubt it. And it would not help that everyone would be watching for the first sign of friction or insubordination. The soap-opera dimension would be highly counter-productive.

I find Tom Friedman persuasive on this:

Foreign leaders can spot daylight between a president and a secretary of state from 1,000 miles away. They know when they’re talking to the secretary of state alone and when they are talking through the secretary of state to the president. And when they think they are talking to the president, they sit up straight; and when they think they are talking only to the secretary of state, they slouch in their chairs. When they think they are talking to the president’s “special envoy,” they doze off in midconversation.

What is Obama thinking, I wonder? That the party would be delighted? Yes it would, but so what: the election is already won. Or is it something to do with keeping your friends close and your enemies closer? (LBJ put it less delicately of course, but the metaphor does not really work in this instance.)

Clive Crook’s blog

This blog is no longer updated but it remains open as an archive.

I have been the FT's Washington columnist since April 2007. I moved from Britain to the US in 2005 to write for the Atlantic Monthly and the National Journal after 20 years working at the Economist, most recently as deputy editor. I write mainly about the intersection of politics and economics.

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