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The Great Recession Marches On
by Peter T. Treadway
The Dismal Optimist

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Demand Side Blind Alleys – When Will They Ever Learn?

Almost on a daily basis, whether from American politicians or European publications like the Financial Times, we are bombarded with calls for more government driven demand side stimuli. The fact that these have not worked so well in no way seems to bother their proponents. The US Federal government debt continues to careen upward and another $1.3 trillion dollar deficit was just racked up for fiscal 2011. Bernanke is rapidly reaching the point where the Fed cannot raise interest rates – the effect on the government budget would be too great. Not to worry apparently. Print money and manipulate interest rates – QEI, QEII, Operation Twist – is demand side stimulus number one. There seems to be no concern that government printing money out of thin air will eventually destroy the US dollar and distort the allocation of resources. “Not worth a Continental” was a saying that came out of America’s wild printing of fiat money (called Continentals) in 1775 and history may repeat itself. Only in 1775 America was fighting a war. The Austrian School observation that the Fed’s manipulation of interest rates is a version of central planning and price controls is regarded as quackery. Demand side stimulus number two is spending more government money on boondoggle projects like high speed rail to nowhere, financed by printing money or increasing government debt. Again there is no concern that the return on this government spending might be negative.

Since Keynes and the Great Depression, macroeconomics has been all about demand side management. Keynesian orthodoxy dictates that if the consumer stumbles, the government must rush in to take his or her place with monetary and fiscal stimuli, no matter how economically stupid. Unfortunately in a debt/deflation global environment which we are now in, demand stimulus is an unproductive waste of resources and is hitting or will hit a bond market wall.

What are needed are two things – debt/entitlement defaults and supply side measures that stimulate growth.

It sounds awful I know. But in my opinion defaults—in the broad sense of reneging on obligations including but not limited to legal defaults– will turn out to be the only option for all the advanced countries. Promises that never should have been made ultimately will not be kept. As I wrote last time and have now been convinced to write a book about, the age of defaults is upon us.

Supply side measures are something most macro economists – with a few exceptions – never consider. By supply side I mean those rules, regulations, laws and taxes that hold back economic growth. Supply side measures are growth enhancers and would include:

1. A simplified tax code that maximizes revenue and does not punish the successful. Raising taxes in the midst of a recession, as is now being tried in Greece, is simply the wrong approach.
2. Reform and liberalization of the labor markets. This is particularly important in Europe which suffers from rigid labor laws. German labor reforms under former Chancellor Gerhard Schroeder have been cited as a major reason for increased German productivity over the last few years.
3. The removal of massive regulatory burdens and government bureaucracies supporting them. The recent media report that the government-based Washington DC area now has the highest income of any area in the United States is not good news. (I am told by people in the energy field that the US is now swimming in oil and natural gas thanks to new discoveries and new technologies. But the current US Administration is blocking their development).
4. The removal of barriers to commerce such as protectionist tariff and non-tariff regulations etc.
5. The elimination of government subsidies to pet industries be they green or gray.
6. A privatized approach to education to train people to compete in the globalized, technologically accelerating, highly competitive twenty first century world. For the US, with its U6 16.5% unemployment rate and its growing population of thus far academically and income-wise underperforming minorities, this is crucial

The Problem Isn’t the Euro

My views on the euro haven’t changed. The euro will survive. History, technology, proximity – all favor the common European currency. The euro is not the real problem. The real problem is excessive debt and unfunded entitlements combined with unfavorable demographics and a socialist, anti-growth mentality in virtually all countries.

It makes a difference how Greece is dealt with. I wrote in this column over a year ago that Greece should be allowed to default just as US states did in the 1840s. Agreed, a onetime bank bailout of Greek banks may be necessary. But let Greece be rejected by the markets and not live on grudging handouts from the Germans.

One may ask: how can the problems of this small country of eleven million people drag on and on as it has? The simple answer is that the Europeans don’t trust markets and have only gradually come to face the fact that Greece is hopelessly insolvent and that default is the only sensible option. But it goes way beyond that. Spain, Ireland, Portugal and Italy are lined up right behind Greece as potential problem countries. And Belgium and France are not that far behind. Italy and Spain in particular face formidable government debt refunding schedules in 2012.

Greece fortunately is sui generis. There is not an indicator you can name that Greece is not in a category by itself. For example as the table below shows, according to IMF estimates for 2011 Greece’s net debt to GDP is an astounding 1.53% (and the IMF debt estimates for Greece are actually lower than other sources) and it is running current account deficit which is 8.3% of GDP. Its primary budget is in deficit and it is in the midst of a deep recession. Twenty percent of Greeks apparently “work” for the government. Not only has that but Greece historically been a serial defaulter, as Rogoff and Reinhart report. Greece was in default more or less continuously from 1800 until after WWII. The mindset and the institutions are socialist, not supply side. The outlook for Greece under the European imposed austerity plans is bleak. The rioting in Athens is understandable but a totally useless approach to Greece’s problems. Any ambitious Greek twenty one year old, unless his or her father is a shipping magnate, should be thinking of emigrating.

None of the other European countries are as bad as Greece. At least not yet. But their cost of borrowing has been rising and the ECB has had to buy their debt. Contagion is an ever present danger. If one or more of these countries require major future bailouts and/or face default, Europe has a major banking crisis.

I would make the following points:

1. The European governments will be bailing out their own banks because their banks own their governments’ defaulting bonds. This circularity becomes a problem if the countries themselves are downgraded or denied market access. Or if Germany and a few other solid countries are the only available source of bailout money.
2. It has been proposed that the so-called European Financial Stability Fund act as a guarantor for the 20% of new issues by the weaker European countries. This strikes me as totally misguided. If for example the EFSF guarantees 20% of new Italian issues, then what about all the Italian bonds(and there are lots of them) currently stuffed in (mostly Italian) banks which do not have this guarantee. This sounds like a recipe for a banking crisis.
3. The EFSF is touted as an AAA borrower. For how long? Cure leverage with leverage? Create a debt financed monster that invests in what will be sovereign junk bonds?
4. European banks have little chance of raising capital in the markets and will have no choice but to sell assets and shrink their balance sheets. Not exactly a plus for their earnings and a big negative for growth.
5. Bondholders of defaulting Greek debt will be one of the early casualties in the coming age of defaults.
6. One thing seems likely. The Europeans will come up with some kind of solution for Greece, no matter how stupid it is the stock markets will probably rally. Buy now, cry later.

Time: 2011 Units: National Currency  Scale: Billions Source: IMF

Source:
The Dismaloptimist
The Great Recession Marches On
by Peter T. Treadway
October 21, 2011

Some reads to start off your weekend:

• Liz Ann Sonders: Welcome to the Machine: High-Frequency Trading Domination (Schwab)
• Merkel: Value Versus Growth (Aleph Blog)
• Picerno: Awkward History Lessons for Fed Haters (Capital Spectator)
• Big-name money gurus aren’t too big to fail (Market Watch)
• Don’t Blink! The Hazards of Confidence (NYT)
• Michael Kinsley: Four Iron-Clad Demands for Occupy Wall Street (Bloomberg)
• Herd analysts are putting lipstick on every pig (The Globe and Mail) see also Analyzing the Analysts: When Do Recommendations Add Value? (American Finance Association)
• US Businesses Not Being Strangled By Regulation And Taxation, World Bank Says (Forbes)
• What We Can Learn from Germany: How Countries With Publicly Owned Banks Do Better Than America (AlterNet) see also Struggling French Banks Fought to Avoid Oversight (WSJ)
• America’s Emptiest Cities, 2011 (Yahoo Finance)

What are you reading?

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The Buffett Tax

My New Birthday present is here!

Ferrari 458 At a glance
Engine: 4.5-liter V-8 with 562 horsepower and 398 pound-feet of torque.
Transmission: Seven-speed double-clutch automated manual with paddle shifters.
Speed: 0 to 60 mph in about 3.2 seconds.
Gas mileage per gallon: 12 city; 18 highway.
Price as tested: $282,563.
Best feature: The joyous sound.
Worst features: The cost of ownership; fear of bikes.
Target buyer: The driver who likes to elicit comments.

You know that is not true because I would never buy any car in that ugly gray, and I prefer 3 pedals and a stick over those damned paddle shifters . . .

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Source:
My $283,000 Roaring Ferrari Slams N.Y. Streets
Jason H. Harper
Bloomberg, Oct 19, 2011 7:01 PM ET   
http://www.bloomberg.com/news/2011-10-19/my-283-000-roaring-ferrari-slams-new-york-city-streets-jason-h-harper.html

Barry Ritholtz, chief executive officer of FusionIQ, talks about the impact of Federal Reserve monetary policy on the U.S. economy. Ritholtz also discusses the Occupy Wall Street protests. He speaks with Matt Miller on Bloomberg Television’s “Bottom Line.”

Oct. 21 (Bloomberg)

Succinct summation of week’s events:

Positives:

1) Markets hang in on belief EU officials will come to some sort of an agreement to force Greek bondholders to mark to reality, provide some debt relief to Greece and buy time and refinancing backstop for Italy and Spain

2) Initial Claims, while higher than expected, has 4 week avg at lowest since April

3) Philly mfr’g surprises to upside at +8.7 vs est of -9.4 and -17.5 in Sept

4) Multi family starts a bright spot for construction industry, reach highest since Oct ’08

5) NAHB home builder survey rises 4 pts to best since May ’10 at 18

6) Fed members Turullo, Rosengren and Evans want to do even more, only good for asset prices and nothing else.

Negatives:

1) Just as the Police Academy movies should have ended after the 1st instead of making 7, the Fed should have stopped a while ago and Turullo comments proves Fed policy is off the rails

2) CPI in Canada 3.2% y/o/y, CPI in Hong Kong 5.8%, CPI in Malaysia 3.4%, CPI in the US 3.9% and last week saw euro zone CPI at 3%. Inflation is a growing problem

3) Months supply of existing homes ticks up to 8.5 from 8.4

4) Operation Twist this, refi’s fall 16.6% and purchases drop 8.8%

5) NY mfr’g at -8.5 vs expectations of -4.0

6) German IFO business confidence lowest since June ’10, French business confidence weakest since July ’10

7) Moody’s downgrades Spain’s credit rating to one notch below S&P and Fitch

8) China’s Q3 GDP rises 9.1%, touch below estimates and Shanghai index down 4 straight days to lowest since Mar ’09.

click for larger charts

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Markets are in the process of breaking out. As the charts above show, the S&P500 is now out of its August/September/October trading range. The Dow has broken out; the Nasdaq 100 broke out of a less defined range on 10/14. The small cap Russell2000 is still mired in that range.

As the 2nd chart shows, the SPX has moved above its 50 moving average, and has penetrated the 100 day. The 200 day seems to be acting as a magnet, pulling equities towards it. A better way to describe that phenomena is that when the SPX was 20+% away from the 200 day, it sets up a bit of mean regression.

The caveat is we have seen bull and bear traps in the past. I prefer to use closing data. Any reversals here would be ugly, especially heading into the weekend.

Our quote of the day comes from an article in this Sunday’s NYT magazine, Don’t Blink! The Hazards of Confidence by Daniel Kahneman:

“The illusion of skill is not only an individual aberration; it is deeply ingrained in the culture of the [financial] industry. Facts that challenge such basic assumptions — and thereby threaten people’s livelihood and self-esteem — are simply not absorbed. The mind does not digest them. This is particularly true of statistical studies of performance, which provide general facts that people will ignore if they conflict with their personal experience.”

I find that, unfortunately, to be terribly true.

For those of you who may be unfamiliar with Kahneman, he is a professor at Princeton and Nobel laureate. He is notable for his work on the psychology of judgment and decision-making, and behavioral economics.

Richard Vetstein is a nationally recognized real estate attorney,  frequently quoted in the media.  He was recently named one of Inman News’ 100 Most Influential in Real Estate. Mr. Vetstein is the founder of the Vetstein Law Group and TitleHub Closing Services LLC. The  former outside claims counsel for a national title company, he has an active real estate litigation practice. He blogs at massrealestatelawblog.com

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No Easy Options For Toxic Foreclosure Titles

The Massachusetts Supreme Judicial Court issued its opinion today in the much anticipated Bevilacqua v. Rodriguez case. (Text of case is embedded below). Previously, I discussed the oral argument here and detailed background of the case here.

The final ruling is mix of bad and good news for owners of property whose titles have been rendered defective due to improper foreclosures stemming from the landmark U.S. Bank v. Ibanez ruling last January. The Court held that owners cannot bring a court action to clear their titles under the “try title” procedure in the Massachusetts Land Court. Left open, however, was whether owners could attempt to put their chains of title back together (like Humpty-Dumpty) and conduct new foreclosure sales to clear their titles. Unfortunately, the SJC did not provide the real estate community with any further guidance as to how best to resolve these complicated title defects.

The vast majority of real estate experts will tell you that the ruling is not a surprise. Sorry Daily Kos, but the court did not take away a property from a foreclosure sale buyer. The buyer never owned it in the first place. If you don’t own a piece of property (say the Brooklyn Bridge), you cannot come into court and ask a judge to proclaim you the owner of that property, even if the true owner doesn’t show up to defend himself. It’s Property Law 101.

In the larger scheme, however, we are now seeing full scale real estate nuclear fallout from the banking crisis. As Barry Ritzholz eloquently states, “a deadly combination of MERS, robo-signing, and illegal shortcuts have created a horrific situation. A bedrock of our society — the ability for the owner of a piece of real estate to confidently convey that property, along with all associated property rights — is now in danger.” So the bigger question remains where do we go from here and what are banking regulators and attorneys general going to do about it.

Background: Developer Buys Defective Foreclosure Title

Frank Bevilacqua purchased property in Haverhill out of foreclosure from U.S. Bank. Apparently, Bevilacqua invested several hundred thousand dollars into the property, converting it into condominiums. The prior foreclosure, however, was bungled by U.S. Bank and rendered void under the Ibanez case. Mr. Bevilacqua (or presumably his title insurance attorney) brought an action to “try title” in the Land Court to clear up his title, arguing that he is the rightful owner of the property, despite the faulty foreclosure, inasmuch as the prior owner, Rodriguez, was nowhere to be found.

Land Court Judge Keith Long (ironically the same judge who originally decided the Ibanez case) closed the door on Mr. Bevilacqua, dismissing his case, but with compassion for his plight.

“I have great sympathy for Mr. Bevilacqua’s situation — he was not the one who conducted the invalid foreclosure, and presumably purchased from the foreclosing entity in reliance on receiving good title — but if that was the case his proper grievance and proper remedy is against that wrongfully foreclosing entity on which he relied,” Long wrote.

Given the case’s importance, the SJC took the unusual step of hearing it on direct review.

No Standing To “Try Title” Action In Land Court

The SJC agreed with Judge Long that Bevilacqua did not own the property, and therefore, lacked any standing to pursue a “try title” action in the Land Court. The faulty foreclosure was void, thereby voiding the foreclosure deed to Bevilacqua. The Court endorsed Judge Long’s “Brooklyn Bridge” analogy, which posits that if someone records a deed to the Brooklyn Bridge, then brings a lawsuit to uphold such ownership and the “owner” of the bridge doesn’t appear, title to the bridge is not conveyed magically. The claimant in a try title or quiet title case, the court ruled, must have some plausible ownership interest in the property, and Bevilacqua lacked any at this point in time.

The court also held, for many of the same reasons, that Bevilacqua lacked standing as a “bona fide good faith purchaser for value.” The record title left no question that U.S. Bank had conducted an invalid foreclosure sale, the court reasoned.

Door Left Open? Re-Foreclosure In Owner’s Name

A remedy left open, however, was whether owners could attempt to put their chains of title back together and conduct new foreclosure sales in their name to clear their titles. The legal reasoning behind this remedy is rather complex, but essentially it says that Bevilacqua would be granted the right to foreclosure by virtue of holding an “equitable assignment” of the mortgage foreclosed upon by U.S. Bank. There are some logistical issues with the current owner conducting a new foreclosure sale and it’s expensive, but it could work.

In Bevilacqua’s case, he did not conduct the new foreclosure sale, so it was premature for the court to rule on that issue. Look for Bevilacqua to conduct the new foreclosure and come back to court again. The SJC left that option open.

The other remedy, which is always available, is to track down the old owner and obtain a quitclaim deed from him. This eliminates the need for a second foreclosure sale and is often the “cleanest” way to resolve Ibanez titles.

The last resort is to force the foreclosing lender to re-do its foreclosure sale. The problem is that a new foreclosure could open the door for a competing bid to the property and other logistical issues.

Title insurance companies who have insured Ibanez afflicted titles have been steadily resolving these titles since the original Ibanez decision in 2009. I’m not sure how many titles are out there unfixed. Those without title insurance, of course, have borne the brunt of this mess.

Source:
What Now? Bevilacqua v. Rodriguez Leaves Toxic Foreclosure Titles Unclear After U.S. Bank v. Ibanez
Massachusetts Real Estate Law Blog
October 18, 2011