Dec 27, 2009
By BERNARD CONDON
NEW YORK (AP) - Homes are selling at their fastest clip in nearly three years, the unemployment rate is falling and stocks are up 66 percent since their March lows - the best performance since the 1930s. What's not to like?
Plenty, according to Mohamed El-Erian, chief executive of giant bond manager Pimco. The investor says the recovery may be gaining steam but is no different than a kid who eats too much candy at one of the birthday parties his 6-year-old daughter attends.
"We're on a sugar high," El-Erian says. "It feels good for a while but is unsustainable." His point: This burst of economic activity fed by government spending and near-zero interest rates will soon peter out. As CEO at Newport Beach, Calif.-based Pimco, El-Erian, 51, oversees nearly $1 trillion in assets, more than the gross domestic product of most countries. So when he talks, people listen. What he's saying now:
_Stocks will drop 10 percent in the space of three or four weeks, bringing the Standard & Poor's 500 index below 1,000 - though he's not predicting when.
_The unemployment rate will be hovering above 8 percent a year from now.
_U.S. gross domestic product will grow at an average 2 percent or so for years to come - a third slower than we're used to.
El-Erian and his famous partner, Pimco founder Bill Gross, are watched closely because they've made investors a lot of money over the years. The Pimco Total Return Fund, which at $203 billion is the world's largest mutual fund, has returned an average 7.6 percent annually over 10 years, after fees, versus 6.3 percent for Barclays Capital U.S. Aggregate fixed income index fund. The hotshots at Pimco have made money by anticipating big moves in the economy and interest rates way before other investors. In the depths of the financial crisis last year, for instance, Pimco sold some of its Treasury bonds to panicked investors looking for a safe haven and put the proceeds into government-backed mortgages and bank debt - in time to catch the big upswing in prices of those and other riskier securities this year. Now Pimco is once again changing tack. El-Erian says people are fooling themselves if they think all the bullish data of late means a strong recovery is in the offing. So he's buying Treasurys and selling riskier stuff.
His bet: Investors will get scared again and want U.S.-guaranteed debt so they know they'll get repaid. At Total Return, government-related securities, including Treasurys and corporate debt backed by Washington, comprised 48 percent of the fund's holdings in September. That was up from 9 percent at the beginning of the year. One of Pimco's newest funds, the Global Multi-Asset Fund, a hybrid stock-bond offering, is 35 percent in equities now, down from 60 percent earlier this year. Investors betting on stocks or high-yield bonds are likely to be disappointed, El-Erian says.
Markets for those securities are rallying not because people like them but because they hate the puny yields of safer investments like money markets and feel they have no choice but to buy, he says. He quips that that makes the bull market as likely to last as a forced marriage.
The danger: If stock and junk bond prices start falling, lots of investors are likely to bail, feeding the drop. Of course, there are plenty of true believers in the bull who are not buying the El-Erian line. James Paulsen, chief strategist at Wells Capital Management in Minneapolis, with $355 billion under management, has been pounding the table for months to buy stocks. Just like in the early 1980s, the recovery will take the form of a "V," he says. The reason: Companies have cut inventories and payrolls to the bone, so just a little revenue growth could translate into a bumper crop of profits. El-Erian says many of the bulls don't appreciate just how much the government props still under the economy are masking its weakness. Instead of focusing on the fundamentals today, he says, they're looking to the past, expecting a quick economic rebound because that's what's happened before. We're trained to think the "farther you fall, the higher you'll bounce back," El-Erian says. "We're hostage to the V." El-Erian says he learned to be open to many different views on the world (and markets) from his father, an Egyptian diplomat who insisted on reading several newspapers everyday, both on the right and the left. El-Erian had hoped to become a college professor. But when his father died, he took a job at the International Monetary Fund to support the family. He rose through the ranks, eventually becoming deputy director. In 1999 he joined Pimco, where he quickly made a name for himself with some prescient bets on emerging markets. One of his biggest wins: selling Argentine bonds in 2000 while they were still popular with investors. When the country defaulted the next year, the emerging markets fund that El-Erian managed returned 28 percent versus negative 1 percent for the Emerging Market Bond Index. He eventually left to head the group that manages Harvard University's massive endowment, returning to Pimco in January 2008 in time catch the depths of the financial crisis.
El-Erian says we've probably seen the worst of the crisis but consumers, and not just Washington, need to start spending again for the recovery to really take hold. He doesn't expect that to happen soon. Like in the Great Depression, Americans are saving more and borrowing less - a shift in attitudes toward family finances that Pimco thinks will last a generation. That, plus the impact of more regulation and higher taxes, El-Erian says, will crimp growth for years to come. Whatever the merits of that view, Pimco is not exactly knocking the lights out right now. So far this year, the Total Return Fund has returned 14 percent, impressive in normal times but no better than average for similar funds during the rally, according to Morningstar. The 19.1 percent return for Global Multi-Asset, which El-Erian co-manages, lags two-thirds of its peers. El-Erian says he sold equities "too early" but is convinced his view on the market will prove correct - even if it strikes many as a tad too pessimistic. "I'm calling it as I see it," he says. "I'm not optimistic or pessimistic - I'm realistic."
Sunday, December 27, 2009
Sunday, November 22, 2009
Mayors Sound Alarm Over Drop in City Revenues
The Wall Street Journal
November 19, 2009
By CONOR DOUGHERTY
WASHINGTON -- Mayors from four U.S. cities said they are facing a once-in-a-generation fiscal crisis and that federal stimulus funds have, so far, been largely unhelpful in helping them balance budgets hit by steep drops in nearly every source of municipal revenue. The comments, from mayors of Philadelphia, San Jose, Calif; Mesa, Ariz., and Bowling Green, Ky., at a panel discussion sponsored by the Brookings Institution and the National League of Cities, underscore how the recession for local government is far from over. Mesa's mayor, Scott Smith, said the steep drops in sales-tax revenue, the city's primary source of money, are "changing our reality."
"We treat this financial crisis as something we're not going to get out of," said Mr. Smith, whose city has about 500,000 citizens and is in the Phoenix metropolitan area. Even as economists declare the recession over, local revenues continue to fall. That's because the lion's share of their receipts -- sales, income and property taxes -- are connected to the job market and real-estate prices. Jobs and real-estate prices are expected to lag the broader economic recovery, reducing city revenues for months or years after the technical end of the recession.
"This is unknown for our generation," said Chris Hoene, director of the center for research and innovation at the National League of Cities. Mr. Hoene said it was likely to be 18 to 24 months before local government revenues resume growing. The mayors said deep budget gaps have forced them to make cuts to basic services including police and fire protection, that the financial crisis has turned cities and states against each other and that fiscal strains emphasize the need for money-saving changes to pension and health benefits in the heavily unionized public sector. "Change has to come and this moment of crisis is going to force it," said Michael Nutter, mayor of Philadelphia. While federal stimulus funds have helped states close budget gaps and preserved jobs for many state and school-board employees, the mayors said federal money hasn't done much to ease their day-to-day budget problems. "The stimulus is going to special things," said Chuck Reed, mayor of San Jose. Beyond budget and services cuts, the mayors discussed new ways to raise revenue at a time when incomes are stagnant and the national unemployment rate is at 10.2%. Philadelphia, for instance, has temporarily increased its sales tax while Mesa has levied a property tax for the first time.
Write to Conor Dougherty at conor.dougherty@wsj.com
November 19, 2009
By CONOR DOUGHERTY
WASHINGTON -- Mayors from four U.S. cities said they are facing a once-in-a-generation fiscal crisis and that federal stimulus funds have, so far, been largely unhelpful in helping them balance budgets hit by steep drops in nearly every source of municipal revenue. The comments, from mayors of Philadelphia, San Jose, Calif; Mesa, Ariz., and Bowling Green, Ky., at a panel discussion sponsored by the Brookings Institution and the National League of Cities, underscore how the recession for local government is far from over. Mesa's mayor, Scott Smith, said the steep drops in sales-tax revenue, the city's primary source of money, are "changing our reality."
"We treat this financial crisis as something we're not going to get out of," said Mr. Smith, whose city has about 500,000 citizens and is in the Phoenix metropolitan area. Even as economists declare the recession over, local revenues continue to fall. That's because the lion's share of their receipts -- sales, income and property taxes -- are connected to the job market and real-estate prices. Jobs and real-estate prices are expected to lag the broader economic recovery, reducing city revenues for months or years after the technical end of the recession.
"This is unknown for our generation," said Chris Hoene, director of the center for research and innovation at the National League of Cities. Mr. Hoene said it was likely to be 18 to 24 months before local government revenues resume growing. The mayors said deep budget gaps have forced them to make cuts to basic services including police and fire protection, that the financial crisis has turned cities and states against each other and that fiscal strains emphasize the need for money-saving changes to pension and health benefits in the heavily unionized public sector. "Change has to come and this moment of crisis is going to force it," said Michael Nutter, mayor of Philadelphia. While federal stimulus funds have helped states close budget gaps and preserved jobs for many state and school-board employees, the mayors said federal money hasn't done much to ease their day-to-day budget problems. "The stimulus is going to special things," said Chuck Reed, mayor of San Jose. Beyond budget and services cuts, the mayors discussed new ways to raise revenue at a time when incomes are stagnant and the national unemployment rate is at 10.2%. Philadelphia, for instance, has temporarily increased its sales tax while Mesa has levied a property tax for the first time.
Write to Conor Dougherty at conor.dougherty@wsj.com
29 States show rising unemployment
California Was Among States With Record Unemployment (Update3)
By Courtney Schlisserman
November 20, 2009 (Bloomberg) -- California, Delaware, South Carolina and Florida registered record rates of unemployment in October as weakness in the labor market stretches from coast to coast and limits the economic recovery. Joblessness rose in 29 U.S. states last month compared with 22 in September, the Labor Department said today in Washington. Michigan had the highest jobless rate at 15.1 percent, followed by Nevada at 13 percent and Rhode Island at 12.9 percent. The national rate last month reached a 26-year high of 10.2 percent, weighing on consumer spending that accounts for about 70 percent of the economy. Federal Reserve Chairman Ben S. Bernanke said Nov. 17 that joblessness “likely will decline only slowly,” a reason policy makers will keep interest rates near zero to ensure growth is sustained. “We’ve had a surprisingly sharp jump in the jobless rate,” said Richard DeKaser, president of Woodley Park Research in Washington. “Businesses have truly been doing an extraordinary job of wringing out productivity from the labor force.” Stocks fell for a third day, with the Standard & Poor’s 500 Index declining 0.3 percent to 1,091.38 at 4:03 p.m. in New York. Dell Inc., the third-largest maker of personal computers, dropped 10 percent after reporting a 54 percent drop in profit.
Declines in 13 States
The unemployment rate fell in 13 states, including Massachusetts, where it declined to 8.9 percent from 9.3 percent; New Hampshire, with a drop to 6.8 percent from 7.2 percent; and West Virginia, which fell to 8.5 percent from 8.9 percent. The number of states with at least 10 percent unemployment held at 14 last month, the Labor Department’s report showed. The states reporting a record jobless rate were California at 12.5 percent, South Carolina at 12.1 percent, Florida at 11.2 percent and Delaware at 8.7 percent. The District of Columbia also set a high with an 11.9 percent rate. “Virtually every sector aside from the health-care sector is losing jobs,” said Sean Snaith, University of Central Florida economist in Orlando. “Housing has been central to Florida’s economic story throughout the entire cycle. Unfortunately, it has spread well beyond the sectors directly involved in the housing market.” President Barack Obama on Nov. 6 signed into law a plan to extend jobless benefits, expand a tax credit for first-time homebuyers and provide tax refunds to money-losing companies. The measure gives jobless people as many as 20 additional weeks of unemployment assistance. The president has also announced plans to convene a jobs summit at the White House next month.
State Payrolls
Payrolls declined last month in 21 states, today’s report showed. New York showed the biggest drop, with a loss of 15,300. Florida had 8,500 job losses, followed by Georgia with 7,500 and Virginia with 7,100. “When you apply for a job, because there are so many other people looking for jobs, you have to be the absolute perfect candidate and lucky, or be someone’s brother-in-law, to get a job,” said Mary Kough of Tellico Plains, Tennessee. “In this economy there are very few jobs for which to even apply.” Kough has been looking for work for four months, applying for as many as 25 positions. She’s been interviewed once. The 47-year-old said she has about 20 years of experience, including jobs as a customer service manager, supervisor and purchasing agent. Tennessee’s unemployment rate held at 10.5 percent in October, the Labor Department’s report showed.
Taking Comfort
“I try not to get discouraged,” Kough said. “I know that you will get a certain percentage of what you apply for, and since there are less jobs to apply for, I know it will just take a little longer. I take comfort in knowing that. I have faith.” Applied Materials Inc. is among companies still planning to cut jobs. The world’s biggest maker of chip equipment, based in Santa Clara, California, said Nov. 11 it plans to eliminate as many as 1,500 positions within 18 months. Over the last year, California showed the biggest loss of jobs, with payrolls falling by 687,700 workers, today’s report showed. Nationally, payrolls fell by 190,000 in October, the Labor Department said Nov. 6. The U.S. has lost 7.3 million jobs since the start of the recession in December 2007, the most of any downturn since the Great Depression. Other measures corroborate that while firms are firing fewer workers, it is harder for the unemployed to find work. The number of people getting extended payments jumped in the week ended Oct. 31 even as the number of Americans filing first-time claims for unemployment benefits held at a 10-month low last week, according to government data released yesterday.
To contact the reporter on this story: Courtney Schlisserman in Washington at cschlisserma@bloomberg.net Last Updated:
By Courtney Schlisserman
November 20, 2009 (Bloomberg) -- California, Delaware, South Carolina and Florida registered record rates of unemployment in October as weakness in the labor market stretches from coast to coast and limits the economic recovery. Joblessness rose in 29 U.S. states last month compared with 22 in September, the Labor Department said today in Washington. Michigan had the highest jobless rate at 15.1 percent, followed by Nevada at 13 percent and Rhode Island at 12.9 percent. The national rate last month reached a 26-year high of 10.2 percent, weighing on consumer spending that accounts for about 70 percent of the economy. Federal Reserve Chairman Ben S. Bernanke said Nov. 17 that joblessness “likely will decline only slowly,” a reason policy makers will keep interest rates near zero to ensure growth is sustained. “We’ve had a surprisingly sharp jump in the jobless rate,” said Richard DeKaser, president of Woodley Park Research in Washington. “Businesses have truly been doing an extraordinary job of wringing out productivity from the labor force.” Stocks fell for a third day, with the Standard & Poor’s 500 Index declining 0.3 percent to 1,091.38 at 4:03 p.m. in New York. Dell Inc., the third-largest maker of personal computers, dropped 10 percent after reporting a 54 percent drop in profit.
Declines in 13 States
The unemployment rate fell in 13 states, including Massachusetts, where it declined to 8.9 percent from 9.3 percent; New Hampshire, with a drop to 6.8 percent from 7.2 percent; and West Virginia, which fell to 8.5 percent from 8.9 percent. The number of states with at least 10 percent unemployment held at 14 last month, the Labor Department’s report showed. The states reporting a record jobless rate were California at 12.5 percent, South Carolina at 12.1 percent, Florida at 11.2 percent and Delaware at 8.7 percent. The District of Columbia also set a high with an 11.9 percent rate. “Virtually every sector aside from the health-care sector is losing jobs,” said Sean Snaith, University of Central Florida economist in Orlando. “Housing has been central to Florida’s economic story throughout the entire cycle. Unfortunately, it has spread well beyond the sectors directly involved in the housing market.” President Barack Obama on Nov. 6 signed into law a plan to extend jobless benefits, expand a tax credit for first-time homebuyers and provide tax refunds to money-losing companies. The measure gives jobless people as many as 20 additional weeks of unemployment assistance. The president has also announced plans to convene a jobs summit at the White House next month.
State Payrolls
Payrolls declined last month in 21 states, today’s report showed. New York showed the biggest drop, with a loss of 15,300. Florida had 8,500 job losses, followed by Georgia with 7,500 and Virginia with 7,100. “When you apply for a job, because there are so many other people looking for jobs, you have to be the absolute perfect candidate and lucky, or be someone’s brother-in-law, to get a job,” said Mary Kough of Tellico Plains, Tennessee. “In this economy there are very few jobs for which to even apply.” Kough has been looking for work for four months, applying for as many as 25 positions. She’s been interviewed once. The 47-year-old said she has about 20 years of experience, including jobs as a customer service manager, supervisor and purchasing agent. Tennessee’s unemployment rate held at 10.5 percent in October, the Labor Department’s report showed.
Taking Comfort
“I try not to get discouraged,” Kough said. “I know that you will get a certain percentage of what you apply for, and since there are less jobs to apply for, I know it will just take a little longer. I take comfort in knowing that. I have faith.” Applied Materials Inc. is among companies still planning to cut jobs. The world’s biggest maker of chip equipment, based in Santa Clara, California, said Nov. 11 it plans to eliminate as many as 1,500 positions within 18 months. Over the last year, California showed the biggest loss of jobs, with payrolls falling by 687,700 workers, today’s report showed. Nationally, payrolls fell by 190,000 in October, the Labor Department said Nov. 6. The U.S. has lost 7.3 million jobs since the start of the recession in December 2007, the most of any downturn since the Great Depression. Other measures corroborate that while firms are firing fewer workers, it is harder for the unemployed to find work. The number of people getting extended payments jumped in the week ended Oct. 31 even as the number of Americans filing first-time claims for unemployment benefits held at a 10-month low last week, according to government data released yesterday.
To contact the reporter on this story: Courtney Schlisserman in Washington at cschlisserma@bloomberg.net Last Updated:
Payback Time: Wave of Debt Payments Facing U.S. Government
By EDMUND L. ANDREWS
The New York Times
November 23, 2009
WASHINGTON — The United States government is financing its more than trillion-dollar-a-year borrowing with i.o.u.’s on terms that seem too good to be true. But that happy situation, aided by ultralow interest rates, may not last much longer. Treasury officials now face a trifecta of headaches: a mountain of new debt, a balloon of short-term borrowings that come due in the months ahead, and interest rates that are sure to climb back to normal as soon as the Federal Reserve decides that the emergency has passed. Even as Treasury officials are racing to lock in today’s low rates by exchanging short-term borrowings for long-term bonds, the government faces a payment shock similar to those that sent legions of overstretched homeowners into default on their mortgages. With the national debt now topping $12 trillion, the White House estimates that the government’s tab for servicing the debt will exceed $700 billion a year in 2019, up from $202 billion this year, even if annual budget deficits shrink drastically. Other forecasters say the figure could be much higher. In concrete terms, an additional $500 billion a year in interest expense would total more than the combined federal budgets this year for education, energy, homeland security and the wars in Iraq and Afghanistan. The potential for rapidly escalating interest payouts is just one of the wrenching challenges facing the United States after decades of living beyond its means. The surge in borrowing over the last year or two is widely judged to have been a necessary response to the financial crisis and the deep recession, and there is still a raging debate over how aggressively to bring down deficits over the next few years. But there is little doubt that the United States’ long-term budget crisis is becoming too big to postpone.
Americans now have to climb out of two deep holes: as debt-loaded consumers, whose personal wealth sank along with housing and stock prices; and as taxpayers, whose government debt has almost doubled in the last two years alone, just as costs tied to benefits for retiring baby boomers are set to explode. The competing demands could deepen political battles over the size and role of the government, the trade-offs between taxes and spending, the choices between helping older generations versus younger ones, and the bottom-line questions about who should ultimately shoulder the burden.
“The government is on teaser rates,” said Robert Bixby, executive director of the Concord Coalition, a nonpartisan group that advocates lower deficits. “We’re taking out a huge mortgage right now, but we won’t feel the pain until later.”
So far, the demand for Treasury securities from investors and other governments around the world has remained strong enough to hold down the interest rates that the United States must offer to sell them. Indeed, the government paid less interest on its debt this year than in 2008, even though it added almost $2 trillion in debt. The government’s average interest rate on new borrowing last year fell below 1 percent. For short-term i.o.u.’s like one-month Treasury bills, its average rate was only sixteen-hundredths of a percent. “All of the auction results have been solid,” said Matthew Rutherford, the Treasury’s deputy assistant secretary in charge of finance operations. “Investor demand has been very broad, and it’s been increasing in the last couple of years.” The problem, many analysts say, is that record government deficits have arrived just as the long-feared explosion begins in spending on benefits under Medicare and Social Security. The nation’s oldest baby boomers are approaching 65, setting off what experts have warned for years will be a fiscal nightmare for the government. “What a good country or a good squirrel should be doing is stashing away nuts for the winter,” said William H. Gross, managing director of the Pimco Group, the giant bond-management firm. “The United States is not only not saving nuts, it’s eating the ones left over from the last winter.” The current low rates on the country’s debt were caused by temporary factors that are already beginning to fade. One factor was the economic crisis itself, which caused panicked investors around the world to plow their money into the comparative safety of Treasury bills and notes. Even though the United States was the epicenter of the global crisis, investors viewed Treasury securities as the least dangerous place to park their money. On top of that, the Fed used almost every tool in its arsenal to push interest rates down even further. It cut the overnight federal funds rate, the rate at which banks lend reserves to one another, to almost zero. And to reduce longer-term rates, it bought more than $1.5 trillion worth of Treasury bonds and government-guaranteed securities linked to mortgages. Those conditions are already beginning to change. Global investors are shifting money into riskier investments like stocks and corporate bonds, and they have been pouring money into fast-growing countries like Brazil and China. The Fed, meanwhile, is already halting its efforts at tamping down long-term interest rates. Fed officials ended their $300 billion program to buy up Treasury bonds last month, and they have announced plans to stop buying mortgage-backed securities by the end of next March. Eventually, though probably not until at least mid-2010, the Fed will also start raising its benchmark interest rate back to more historically normal levels. The United States will not be the only government competing to refinance huge debt. Japan, Germany, Britain and other industrialized countries have even higher government debt loads, measured as a share of their gross domestic product, and they too borrowed heavily to combat the financial crisis and economic downturn. As the global economy recovers and businesses raise capital to finance their growth, all that new government debt is likely to put more upward pressure on interest rates. Even a small increase in interest rates has a big impact. An increase of one percentage point in the Treasury’s average cost of borrowing would cost American taxpayers an extra $80 billion this year — about equal to the combined budgets of the Department of Energy and the Department of Education. But that could seem like a relatively modest pinch. Alan Levenson, chief economist at T. Rowe Price, estimated that the Treasury’s tab for debt service this year would have been $221 billion higher if it had faced the same interest rates as it did last year. The White House estimates that the government will have to borrow about $3.5 trillion more over the next three years. On top of that, the Treasury has to refinance, or roll over, a huge amount of short-term debt that was issued during the financial crisis. Treasury officials estimate that about 36 percent of the government’s marketable debt — about $1.6 trillion — is coming due in the months ahead. To lock in low interest rates in the years ahead, Treasury officials are trying to replace one-month and three-month bills with 10-year and 30-year Treasury securities. That strategy will save taxpayers money in the long run. But it pushes up costs drastically in the short run, because interest rates are higher for long-term debt. Adding to the pressure, the Fed is set to begin reversing some of the policies it has been using to prop up the economy. Wall Street firms advising the Treasury recently estimated that the Fed’s purchases of Treasury bonds and mortgage-backed securities pushed down long-term interest rates by about one-half of a percentage point. Removing that support could in itself add $40 billion to the government’s annual tab for debt service. This month, the Treasury Department’s private-sector advisory committee on debt management warned of the risks ahead. “Inflation, higher interest rate and rollover risk should be the primary concerns,” declared the Treasury Borrowing Advisory Committee, a group of market experts that provide guidance to the government, on Nov. 4. “Clever debt management strategy,” the group said, “can’t completely substitute for prudent fiscal policy.”
The New York Times
November 23, 2009
WASHINGTON — The United States government is financing its more than trillion-dollar-a-year borrowing with i.o.u.’s on terms that seem too good to be true. But that happy situation, aided by ultralow interest rates, may not last much longer. Treasury officials now face a trifecta of headaches: a mountain of new debt, a balloon of short-term borrowings that come due in the months ahead, and interest rates that are sure to climb back to normal as soon as the Federal Reserve decides that the emergency has passed. Even as Treasury officials are racing to lock in today’s low rates by exchanging short-term borrowings for long-term bonds, the government faces a payment shock similar to those that sent legions of overstretched homeowners into default on their mortgages. With the national debt now topping $12 trillion, the White House estimates that the government’s tab for servicing the debt will exceed $700 billion a year in 2019, up from $202 billion this year, even if annual budget deficits shrink drastically. Other forecasters say the figure could be much higher. In concrete terms, an additional $500 billion a year in interest expense would total more than the combined federal budgets this year for education, energy, homeland security and the wars in Iraq and Afghanistan. The potential for rapidly escalating interest payouts is just one of the wrenching challenges facing the United States after decades of living beyond its means. The surge in borrowing over the last year or two is widely judged to have been a necessary response to the financial crisis and the deep recession, and there is still a raging debate over how aggressively to bring down deficits over the next few years. But there is little doubt that the United States’ long-term budget crisis is becoming too big to postpone.
Americans now have to climb out of two deep holes: as debt-loaded consumers, whose personal wealth sank along with housing and stock prices; and as taxpayers, whose government debt has almost doubled in the last two years alone, just as costs tied to benefits for retiring baby boomers are set to explode. The competing demands could deepen political battles over the size and role of the government, the trade-offs between taxes and spending, the choices between helping older generations versus younger ones, and the bottom-line questions about who should ultimately shoulder the burden.
“The government is on teaser rates,” said Robert Bixby, executive director of the Concord Coalition, a nonpartisan group that advocates lower deficits. “We’re taking out a huge mortgage right now, but we won’t feel the pain until later.”
So far, the demand for Treasury securities from investors and other governments around the world has remained strong enough to hold down the interest rates that the United States must offer to sell them. Indeed, the government paid less interest on its debt this year than in 2008, even though it added almost $2 trillion in debt. The government’s average interest rate on new borrowing last year fell below 1 percent. For short-term i.o.u.’s like one-month Treasury bills, its average rate was only sixteen-hundredths of a percent. “All of the auction results have been solid,” said Matthew Rutherford, the Treasury’s deputy assistant secretary in charge of finance operations. “Investor demand has been very broad, and it’s been increasing in the last couple of years.” The problem, many analysts say, is that record government deficits have arrived just as the long-feared explosion begins in spending on benefits under Medicare and Social Security. The nation’s oldest baby boomers are approaching 65, setting off what experts have warned for years will be a fiscal nightmare for the government. “What a good country or a good squirrel should be doing is stashing away nuts for the winter,” said William H. Gross, managing director of the Pimco Group, the giant bond-management firm. “The United States is not only not saving nuts, it’s eating the ones left over from the last winter.” The current low rates on the country’s debt were caused by temporary factors that are already beginning to fade. One factor was the economic crisis itself, which caused panicked investors around the world to plow their money into the comparative safety of Treasury bills and notes. Even though the United States was the epicenter of the global crisis, investors viewed Treasury securities as the least dangerous place to park their money. On top of that, the Fed used almost every tool in its arsenal to push interest rates down even further. It cut the overnight federal funds rate, the rate at which banks lend reserves to one another, to almost zero. And to reduce longer-term rates, it bought more than $1.5 trillion worth of Treasury bonds and government-guaranteed securities linked to mortgages. Those conditions are already beginning to change. Global investors are shifting money into riskier investments like stocks and corporate bonds, and they have been pouring money into fast-growing countries like Brazil and China. The Fed, meanwhile, is already halting its efforts at tamping down long-term interest rates. Fed officials ended their $300 billion program to buy up Treasury bonds last month, and they have announced plans to stop buying mortgage-backed securities by the end of next March. Eventually, though probably not until at least mid-2010, the Fed will also start raising its benchmark interest rate back to more historically normal levels. The United States will not be the only government competing to refinance huge debt. Japan, Germany, Britain and other industrialized countries have even higher government debt loads, measured as a share of their gross domestic product, and they too borrowed heavily to combat the financial crisis and economic downturn. As the global economy recovers and businesses raise capital to finance their growth, all that new government debt is likely to put more upward pressure on interest rates. Even a small increase in interest rates has a big impact. An increase of one percentage point in the Treasury’s average cost of borrowing would cost American taxpayers an extra $80 billion this year — about equal to the combined budgets of the Department of Energy and the Department of Education. But that could seem like a relatively modest pinch. Alan Levenson, chief economist at T. Rowe Price, estimated that the Treasury’s tab for debt service this year would have been $221 billion higher if it had faced the same interest rates as it did last year. The White House estimates that the government will have to borrow about $3.5 trillion more over the next three years. On top of that, the Treasury has to refinance, or roll over, a huge amount of short-term debt that was issued during the financial crisis. Treasury officials estimate that about 36 percent of the government’s marketable debt — about $1.6 trillion — is coming due in the months ahead. To lock in low interest rates in the years ahead, Treasury officials are trying to replace one-month and three-month bills with 10-year and 30-year Treasury securities. That strategy will save taxpayers money in the long run. But it pushes up costs drastically in the short run, because interest rates are higher for long-term debt. Adding to the pressure, the Fed is set to begin reversing some of the policies it has been using to prop up the economy. Wall Street firms advising the Treasury recently estimated that the Fed’s purchases of Treasury bonds and mortgage-backed securities pushed down long-term interest rates by about one-half of a percentage point. Removing that support could in itself add $40 billion to the government’s annual tab for debt service. This month, the Treasury Department’s private-sector advisory committee on debt management warned of the risks ahead. “Inflation, higher interest rate and rollover risk should be the primary concerns,” declared the Treasury Borrowing Advisory Committee, a group of market experts that provide guidance to the government, on Nov. 4. “Clever debt management strategy,” the group said, “can’t completely substitute for prudent fiscal policy.”
Monday, October 19, 2009
Could the US become a "Banana Republic"?
WASHINGTON (CNN) – A leading fiscal mind on Capitol Hill and a one-time Obama Cabinet pick sounded the alarm Sunday over the projected long-term financial challenges the country faces. “This deficit is driven by us,” New Hampshire Republican Sen. Judd Gregg candidly said Sunday on CNN’s State of the Union when asked about the federal government’s projected $1.42 trillion operating deficit for the 2009 fiscal year. “You talk about systemic risk. The systemic risk today is the Congress of the United States,“ the Ranking Republican on the Senate Budget Committee told CNN Chief National Correspondent John King, “that we’re creating these massive debts which we’re passing on to our children. We’re going to undermine fundamentally the quality of life for our children by doing this.” “Now you can’t blame that on [former President] George [W.] Bush,” Greg said, noting that using the Obama administration’s projections the budget deficit for the next ten years is $1 trillion per year. And Gregg said that during the same ten-year period, public debt as a percentage of gross domestic product would increase from 40 percent - which Gregg called “tolerable but still too high” - up to 80 percent. The figures, Gregg told King, “mean we’re basically on the path to a banana-republic-type of financial situation in this country. And you just can’t do that. You can’t keep running these [federal] programs out [into the future] and not paying for them. And you can’t keep throwing debt on top of debt.” “Standards of living will drop if we keep this up,” Gregg also said.After repeated promises from the White House that the final health care reform bill will be deficit neutral, Gregg said a Democratic plan to avoid otherwise automatic Medicare cuts without having a funding source for the projected expense of $250 billion over the next decade was “gamesmanship.” Asked about criticism leveled Sunday by former Republican-turned-Democrat Sen. Arlen Specter of Pennsylvania that Republicans were being obstructionist in the health care reform debate, Gregg replied, “Well, I suppose he has to call us something now that he’s left the party.” Responding to the Democratic charge that the GOP is “the party of ‘no,’” Gregg pointed to Republican health care reform proposals including his own and another co-sponsored by Republican Sens. Tom Coburn and Sen. Richard Burr, as well as a bipartisan proposal put forward by Sens. Ron Wyden (D-OR) and Robert Bennett (R-UT).” Gregg said the versions of health care reform voted out of the Senate Finance Committee and the Senate Health, Education, Labor and Pensions Committee would amount to “a huge expansion of government.”
“You’re talking about taking the government and increasing it by $1-$2 trillion over the next ten years,” Gregg said. He added that he thought growing government at that rate would have a “very debilitating effect” on the overall economy and the ability of Americans to get health care in the future. At one point earlier this year, Gregg, who is not seeking re-election to his Senate seat in 2010, was President Obama’s choice to head the Commerce Department. But the fiscal hawk removed himself from consideration because of differences with the new administration on several policy issues.
Wednesday, October 7, 2009
Dollar's Slide Gives Rise to Calls for New Reserve
By Frank AhrensWashington Post
Wednesday, October 7, 2009
The U.S. dollar continued its six-month slide Tuesday amid a growing international chorus that wants the dollar replaced -- or at least supplemented -- as the world's reserve currency, a move that would end the greenback's six decades of global dominance. The dollar has come under attack from abroad as the economic crisis has played out, thanks to the Federal Reserve's decision to flood a seized-up financial system with liquidity last fall. The central bank's moves likely staved off deflation, but the massive influx of new dollars has devalued existing ones. Foreign nations are worried that the massive U.S. national debt and rising deficits are not being addressed. And though inflation is not yet a concern in the United States, a prolonged slide in the dollar's value could lead to higher prices for consumers. Further, large emerging economies -- such as China, Russia, Brazil and India -- are tired of kow-towing to the American buck, and sense an opportunity to knock a weakened dollar off its imperial perch. "The U.S. dollar is headed for also-ran status, and it will continue to lose its value against many other currencies and assets," Miller Tabak equity strategist Peter Boockvar said. "The rest of the world wants the U.S. dollar to lose influence, but no one wants it to be abrupt, as it's in no one's interest. An evolutionary process is what is wanted." The question is: When will that happen? "In the next two to three years, it is highly unlikely to see the dollar replaced," said Eswar Prasad, an economics professor at Cornell University and a senior fellow at the Brookings Institution in Washington. "Over the next decade, though, we would expect to see other currencies play a much more significant role." The dollar fell to nearly its lowest point of the year against the yen and euro on Tuesday, which sent the price of gold surging to a record intraday high above $1,045 per ounce, as investors sought a hedge against inflation and foreign nations continued to stockpile the precious metal. For the American consumer, a falling dollar means U.S. exports sell better overseas, which can lead to more jobs here. But it also means imports costs more, which means higher prices at U.S. stores. "For the average Joe, the implications of a crisis of confidence in the dollar could end up in higher borrowing costs, lower government expenditures -- so that means reduced services -- and higher taxes," Prasad said. "Most likely, some combination of all of the above." Stocks, which typically move opposite of the dollar, staged a strong rally on Tuesday, continuing their fast Monday start. The Dow Jones industrial average and the broader Standard & Poor's 500-stock index both gained 1.4 percent, while the tech-heavy Nasdaq surged 1.7 percent. The U.S. dollar has been the world's reserve currency since World War II. Central banks and financial institutions in other nations hold dollars to pay off foreign obligations, or to influence their currency's exchange rate. Commodities, such as oil, are priced in dollars, which spreads the dollar's influence around the world. But the dollar's dominance is being challenged, thanks to the crisis. China was the first major power to attack the greenback, calling in March for the dollar to be replaced as the world's reserve currency. China holds more U.S. debt than any other country -- about $800 billion -- and the further the dollar drops, the less the value of the U.S. debt owed to China.
Other nations have followed China's criticism. In March, Kazakhstan criticized the dollar and called for the creation of a new currency it calls the "acmetal" (a coinage combining "acme" and "capital"). Last month, Iran shifted its reserve currency from the dollar to the euro, a move that is likely more political than economic and a response to harsh U.S. criticism of Iran's nuclear moves. But major powers have spoken against the dollar, as well. In September, Russia said it remains satisfied with the dollar as a reserve currency but said others are also needed. At an international investment summit last month, Russian Prime Minister Vladimir Putin criticized the United States -- and implicitly, Federal Reserve Chairman Ben S. Bernanke, who controls the money supply -- for "uncontrolled issue of dollars." Both China and Russia have called for a new "global supercurrency," similar but larger in scale to the euro, that would replace the dollar. Even the world's big financial institutions are piling on. "The United States would be mistaken to take for granted the dollar's place as the world's predominant reserve currency," World Bank President Robert Zoellick said in a speech last week.
Tuesday, October 6, 2009
The end of the dollar spells the rise of a new order
October 6, 2009
The Independent
Last autumn's global financial crisis set off an economic earthquake. And we are still feeling the tremors. The latest sign of the ground shifting beneath our feet is our report today of plans by Gulf states, China, Russia, France and Japan to end their practice of conducting oil deals in US dollars, switching instead to a diverse basket of currencies. It is not hard to see the motivation for oil exporters to move away from the dollar. The value of the US currency has fallen sharply since last year's meltdown. And fears are growing, in the light of a spiralling US government deficit, that a further depreciation is likely. They do not want to sell their wares in return for a currency with an uncertain future. It is also easy to see why China would like a world trading system that is underpinned by other currencies as well as the dollar. For the past decade Beijing has been recycling the proceeds of its giant national trade surplus into purchases of US government bonds and other dollar-denominated assets. China too stands to make a significant loss if the value of the dollar falls. For China, however, the timing is much more sensitive. Beijing needs to reduce its dollar holdings, but if it does so too quickly it will bring about the very devaluation it fears. This explains why Chinese officials appear to want this transition to take place gradually over the next decade. But the significance of this development goes much further. Since the end of the Second World War the dollar has been the bedrock of world trade. The pre-eminence of the American currency flowed naturally from the economic dominance of the US. Virtually everyone traded with America so it made sense to use their currency. But the US is not the dominant power that it once was. The financial crisis has left it hobbled with significant government and household debts and sharply reduced prospects for growth. Developing nations such as China, Brazil and India, on the other hand, have weathered the economic storm significantly better. So while this latest proposal is born of financial calculation, it is also a reflection of a new economic world order. We should not be sentimental for the dollar. It makes economic sense for world trade to be conducted in a variety of currencies. Relying on one only has the advantage of clarity, but it also creates instability if the economy that underpins it faces uncertain prospects. Yet we need to understand that exchange rate volatility is a symptom, rather than a cause, of what truly ails the world economy. The biggest driver of global economic instability in recent years has been the determination of China to boost its export sector at all costs. Beijing's persistently large trade surpluses and manipulation to prevent its own currency from appreciating have effectively forced Western nations into running persistently large trade deficits. It was this pressure that blew up various asset bubbles that burst with such disastrous effect last year. A gradual move away from the dollar makes sense. But without a commitment from world governments - both in the rich and developing world - to reduce these destabilising global trade imbalances we will enter an uncertain new era; and one that could yet make us pine for the days of the dominant greenback.
The Independent
Last autumn's global financial crisis set off an economic earthquake. And we are still feeling the tremors. The latest sign of the ground shifting beneath our feet is our report today of plans by Gulf states, China, Russia, France and Japan to end their practice of conducting oil deals in US dollars, switching instead to a diverse basket of currencies. It is not hard to see the motivation for oil exporters to move away from the dollar. The value of the US currency has fallen sharply since last year's meltdown. And fears are growing, in the light of a spiralling US government deficit, that a further depreciation is likely. They do not want to sell their wares in return for a currency with an uncertain future. It is also easy to see why China would like a world trading system that is underpinned by other currencies as well as the dollar. For the past decade Beijing has been recycling the proceeds of its giant national trade surplus into purchases of US government bonds and other dollar-denominated assets. China too stands to make a significant loss if the value of the dollar falls. For China, however, the timing is much more sensitive. Beijing needs to reduce its dollar holdings, but if it does so too quickly it will bring about the very devaluation it fears. This explains why Chinese officials appear to want this transition to take place gradually over the next decade. But the significance of this development goes much further. Since the end of the Second World War the dollar has been the bedrock of world trade. The pre-eminence of the American currency flowed naturally from the economic dominance of the US. Virtually everyone traded with America so it made sense to use their currency. But the US is not the dominant power that it once was. The financial crisis has left it hobbled with significant government and household debts and sharply reduced prospects for growth. Developing nations such as China, Brazil and India, on the other hand, have weathered the economic storm significantly better. So while this latest proposal is born of financial calculation, it is also a reflection of a new economic world order. We should not be sentimental for the dollar. It makes economic sense for world trade to be conducted in a variety of currencies. Relying on one only has the advantage of clarity, but it also creates instability if the economy that underpins it faces uncertain prospects. Yet we need to understand that exchange rate volatility is a symptom, rather than a cause, of what truly ails the world economy. The biggest driver of global economic instability in recent years has been the determination of China to boost its export sector at all costs. Beijing's persistently large trade surpluses and manipulation to prevent its own currency from appreciating have effectively forced Western nations into running persistently large trade deficits. It was this pressure that blew up various asset bubbles that burst with such disastrous effect last year. A gradual move away from the dollar makes sense. But without a commitment from world governments - both in the rich and developing world - to reduce these destabilising global trade imbalances we will enter an uncertain new era; and one that could yet make us pine for the days of the dominant greenback.
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