Time to go unconventional?


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1. Fed needs to lend unsecured to any member bank in unlimited quantities and set term as well as ff borrowing rates.

This will normalize bank liquidity, and should have been done as soon as we went off the gold standard domestically in 1934(?).

To keep solvency accounting with FDIC the FDIC can insure all fed deposits at member banks.

This does not ‘create money’ or ‘inflation’ or have any macro economic effect beyond normalizing liquidity.

2. Congress needs to declare a ‘payroll tax holiday’ and drop the regressive social security and medicare deduction rates to 0% to restore demand from the bottom up.

This increases take home pay and cuts costs for business some, allowing both the means to make their payments to the financial sector and support it via reduced delinquency and rising credit quality.

It will also support growth and employment as the higher wages are also spent on real goods and services.

As this happens banks will very quickly resume lending to corps either directly or via commercial paper.

If people want to work and produce and not spend their income (for any reason) the government can either ‘spend it for them’ or increase their income via tax cuts until they spend sufficiently.

And don’t forget the need for an energy policy to prevent any recovery from merely driving up gasoline prices.

>   
>   
>   On Tue, Oct 7, 2008 at 9:19 AM, Davidson, Paul
>    wrote:
>   
>   Good comment — but what is the most unconventional thing
>   the FED can do? I think by now the FED can only prevent
>   things from getting exceedingly bad– but bad it will get–
>   What we need now is fast fiscal policy– but until a new
>   administration comes in, I do not see that happening.
>   
>   Anyone got something in there head that can save the world?
>   
>   By the way did you see Bill Black’s wonderful performance in
>   the Obama Keating 5 video released yesterday?

>   
>   Sent: Tue 10/7/2008 12:10 AM
>   
>   The U.S. economic data began to show signs of an outright
>   cumulative contraction before the September/October credit
>   crisis.
>   
>   The September/October events are a massive shock to the
>   system. The only thing I can compare it to is the combination
>   of a 20% Fed funds rate and a call for curbs on credit card use
>   in late winter 1980. In the months that followed aggregate
>   demand fell faster than at any time in the post war period.
>   
>   I believe the Fed realizes all of this.
>   
>   Bernanke realizes that if income falls the financial crisis, already
>   almost unimaginably severe, will also get much worse.
>   Fed Chairman Bernanke went before Congress and said that if
>   the Paulson Bailout Bill was not passed and the stock market
>   fell, there would be economic Armageddon. The Bailout bill has
>   passed. The stock market has fallen. Credit spreads have
>   widened. Based on Bernanke’s own public statements, he
>   should be thinking we are entering economic Armageddon. I
>   believe there is a raging hedge fund crisis, knowledge of which
>   is being suppressed. There are other unrecognized crises. I
>   think the Fed is aware of all of this.
>   
>   Meanwhile, the Fed has not changed its policy rate. But in
>   fact, Fed funds have been trading below the policy rate

>   target. Also, the Fed is expanding its balance sheet in a
>   spectacular way, and it has announced this morning that it will
>   expand it much further with newer, larger auctions.
>   
>   It would seem that Rome is burning and the Fed is fiddling. It
>   is my assessment that the Fed sees more of the burning than
>   we do. It realizes that all the conventional policy responses do
>   not fit the current monstrous circumstances. It is being held
>   back because it must come up with a more dramatic policy
>   response that we can conjure out of the precedents from the
>   past.
>   
>   Forget coordinated rate cuts. If it happens it will be cosmetic.
>   Japan has almost no interest rate to cut. The ECB will, but
>   Europe will prefer to resort to government guarantees of bank
>   deposits and will not hesitate to quasi nationalize banks.
>   
>   The Fed has no more time to stay its hand. Something will have
>   to be done very shortly.
>   
>   Based on Bernanke’s writings of the past several years, I would
>   expect a shocking policy change from the Fed which will
>   probably result in an almost unimaginable increase in its balance
>   sheet.


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My letter in the Times UK today


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Sir,

A ‘Payroll Tax Holiday’ as a follow up the ‘Troubled Asset Relief Programme’ (TARP).

I agree with Tim Congdon’s “Harsh arithmetic behind the banking crisis” (The Times, 2nd October, 2008). However, while the TARP may marginally improve asset prices, it does not directly address interbank liquidity nor aggregate demand.

While the Fed has relaxed collateral requirements, at this late stage, it needs to simply lend unsecured to its member banks to normalize bank liquidity.

To support aggregate demand- an even more pressing need- Congress can declare a ‘payroll tax holiday’ and reduce social security and medicare payroll deduction rates to zero, until aggregate demand is sufficiently restored. This would immediately end the current crisis via the ‘trickle up’ process of increasing take home pay for workers who can then make their mortgage payments, pay their bills, and sustain the domestic demand needed to support the US as well as the Euro economy.

Remaining issues include the increased demand for energy consumption as the world economy recovers, and associated price pressures, which are a separate matters.

Yours faithfully,

Warren Mosler
Senior Associate Fellow, Cambridge Centre for Economic and Public Policy
University of Cambridge; Chairman Valance Co.
5000 Estate Southgate, Christiansted, St. Croix, USVI 00820


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Consumer Credit


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The consumer is petrified by our leadership.

Time for a payroll tax holiday!

U.S. Consumer Credit Dropped by the Most on Record (Update1)

By Vincent Del Giudice

Oct. 7 (Bloomberg) — Borrowing by U.S. consumers unexpectedly fell in August by the most on record as banks shut off access to loans, a report from the Federal Reserve showed.

Consumer credit fell by $7.9 billion, the most since statistics began in 1943, to $2.58 trillion, the Fed said today in Washington. In July, credit rose by $5.2 billion, previously reported as a $4.6 billion gain. The Fed’s report doesn’t cover borrowing secured by real estate.

Consumer spending, the biggest part of the economy, is likely to keep faltering as banks hoard cash, job losses mount and property values drop. The decline in borrowing underscores why Fed policy makers today announced they will create a special fund to purchase commercial paper in a bid to open the flow of credit to the nation’s businesses.

“This is what happens when consumers are fearful and banks tighten lending standards to all applicants,” said Richard Yamarone, chief economist at Argus Research in New York. “No one borrows, no one lends. It’s a classic example of a frozen credit channel.”

Economists forecast an increase of $5 billion in consumer credit during August, according to the median of 29 estimates in a survey conducted by Bloomberg News.

According to the Fed, total consumer borrowing dropped at a 4.3 percent annual rate in August, the most since January 1998, during the Asian financial crisis.

Revolving debt such as credit cards decreased by $612 million during August and non-revolving debt, including auto loans, dropped by $7.3 billion.

Late Payments

The number of credit card bills paid late increased in the second quarter, according to the American Bankers Association, rising to 4.54 percent from 4.51 percent in the first quarter. The average bank card delinquency rate over the last two years is 4.44 percent.

Discover Financial Services, the credit-card company spun off from Morgan Stanley, said third-quarter profit declined 11 percent as late payments increased, the Riverwoods, Illinois company announced Sept. 25. Discover has lost almost half its market value since it was spun off in June 2007.

Figures released last week show auto sales tumbled 27 percent in September as the credit crisis and slowing economy dragged the industry to its worst month since 1991.

A quarterly Fed report issued on Sept. 18 showed household wealth fell from April to June for the third consecutive quarter and borrowing slowed as home prices dropped and lenders pulled back. Net worth for households and non-profit groups decreased by $438 billion in the second quarter to $56 trillion, the lowest since the end of 2006, according to the Flow of Funds report. Real estate-related assets declined by $258.8 billion, following a $299.5 billion loss.


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2008-10-07 China Daily News Highlights


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Highlights

China to Slash Rates, Spend to Fuel Growth, Morgan Stanley Says

China to Slash Rates, Spend to Fuel Growth, Morgan Stanley Says

2008-10-07 03:11:05.320 GMT
By Kevin Hamlin

Oct. 7 (Bloomberg) — China will cut interest rates as many as five times by the end of 2009 and will step up spending to limit the effect of the “global financial tsunami” on the nation’s economic growth, Morgan Stanley said.

The central bank will cut borrowing costs by 27 basis points each time, reducing the one-year lending rate to as low as 5.85 percent next year from 7.2 percent now, Qing Wang, a Hong Kong- based economist, said in a note today. Government spending may add as much as 3 percentage points to economic growth, he said.

Global growth is slowing after the collapse and bailout of banks in the U.S. and Europe propelled the cost of borrowing in money markets to the highest ever. Slowing economic growth in Europe and the U.S., which account for 40 percent of China’s total exports, will translate into lackluster exports, falling corporate profit and easing inflation, Wang said.

“A substantial improvement in the inflation outlook should help ease the lingering concerns about the inflationary consequences of an expansionary macroeconomic policy,” Wang said. “We expect a decisive policy shift toward boosting growth in the coming weeks and months.”

Wang cut his forecast for inflation next year to 2.5 percent from 4 percent. He lowered his estimate for economic growth in China next year to 8.2 percent from 9 percent and lowered his forecast for this year to 9.8 percent from 10 percent.

More spending and tax cuts would contribute between 1 and 3 percentage points to growth, Wang said.

China can “afford to run multiyear fiscal deficits without running into debt sustainability problems,” because it has public debt of only 30 percent of gross domestic product, Wang said.

Property Market Risk

The main risk to his forecast was a “meltdown” in the property sector across the country, “which would lead to a massive collapse in real-estate investment, Wang said.

The consequences would be so serious that even pro-growth policies wouldn’t prevent the economy growing less than 7 percent, he said.

The probability of this happening is less than 25 percent, Wang estimated, contradicting a Sept. 12 report by Jerry Lou, a Morgan Stanley strategist, who said the “likelihood of a property sector meltdown is high.”

China thus has ample room for monetary and fiscal initiatives to help offset the impact of slower global growth, he added. This would entail “unwinding” tightening measures introduced since last year, including “the 162 basis points interest rate hike, the 850 basis points hike of the required reserves ratio, and stringent administration bank lending quotas,” he said.

The People’s Bank of China cut the one-year lending rate to 7.20 percent from 7.47 percent, the first reduction in six years, last month.

Morgan Stanley forecasts that the U.S. economy will contract by 0.2 percent next year and that growth in the Europe will reach only 0.2 percent. It expects a 1 percent contraction in Japan.


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Europe’s financial rescue plans


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What has been announced by ECOFIN (European Council of Finance Ministers) today:

  • Deposit insurance to be raised from a minimum of EUR20k to EUR50k.
  • There will be support/interventions for systemically important institutions; intervention shall be timely, and in principle temporary; shareholder shall bear the consequences of intervention; governments will have the ability to change bank management when intervening.

Bad for shares.

  • Recapitalizations may be necessary.
  • Interventions to be decided at a national level, but to be coordinated; senior financial officials to be in daily contact.

They are limited by relying on the national government’s ability to fund.

  • Commission to provide rapid reviews of interventions; Commission to issue guidance on state-aid compliant deposit insurance and interventions/recapitalizations.
  • Systemic liquidity to be ensured.

Maybe in Euro, but maybe not in USD which they all seem to need.

  • Executive pay guidelines have been agreed; undue benefits shall not be retained; governments can intervene on manager pay.


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FT: Fed’s first foray into unsecured lending


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Fed’s first foray into unsecured loans.

As per my proposal over a year ago.

Fed’s first foray into unsecured lending

by Krishna Guha
Oct. 6- The Federal Reserve is working with the US Treasury on plans for a dramatic move into unsecured lending in the hope that this extreme step could help bring credit markets back to life.

As well as unsecured lending to banks, this could lead to the Fed directly purchasing commercial paper or funding a special purpose vehicle set up to do this.

Any unsecured lending would be a radical departure for the Fed. Central banks the world over almost never make unsecured loans, and the Fed has never done so in its history.

Wrong, the swap lines to foreign commercial banks seem to me to functionally unsecured lending.

The Fed has loaned over $400 billion on this basis to the ECB so far.

It would allow the Fed to address two key problems in the financial system directly: the freezing of the term interbank money market, which covers all but overnight borrowing, and the rapid contraction of the commercial paper market.

However, the US central bank does not believe it has the legal mandate to make unsecured loans on which there is a reasonable likelihood of some loss. So it needs the Treasury to guarantee losses on the loans, probably under new authorities granted by Congress last week with the passage of the $700bn (€518bn, £402bn) Paulson plan.

The Fed and Treasury are working together on how that might work but were not ready to announce it ­on Monday.

It is awkward for the Treasury to pivot to supporting a big unsecured lending programme when the core of its pitch to Congress was the plan to purchase troubled mortgage-related assets.

There remains some chance that the US authorities are not be able to reach agreement. But the urgency of the situation – and the fact that the Fed referred to unsecured lending in a press release on Monday – suggests that it will happen.

The core of the problem in the interbank market is the lack of availability of term unsecured loans. Banks can get some term funding, but only on a collateralised basis, which helps explain the extreme demand for Treasury securities used for collateral purposes. Unsecured borrowing rates for any significant period of time – such as the three-month Libor (London interbank offered rate) – are sky high. In practice, most financial institutions are now unable to get term loans without collateral, and are funding themselves heavily in the overnight market.

This reliance on overnight money is dangerous for the financial system. It makes banks vulnerable to short-term market dislocations or loss of confidence, increasing the likelihood of failures and firesales of assets.

There are two reasons why banks cannot obtain term unsecured loans from the private market. There is a classic financial-crisis co-ordination problem, characterised as: “I won’t lend you money for a month if I think that everyone else will only lend you money for a day, allowing them to pull out tomorrow and leave me stranded.” This “roll-over” risk is a form of liquidity risk. The second reason is the credit risk of lending to banks, which has been elevated by the financial and economic turmoil .

The Fed’s existing liquidity operations – ramped up again on Monday – reduce liquidity risk by providing a large backstop source of funds. But they are imperfect substitutes for unsecured borrowing, as they are only available on a secured basis. Unsecured term loans – for instance at 100 or 150 basis points over the federal funds rate for three-month money – would provide a near-perfect substitute.

The unsecured Fed term loan rate would act as a ceiling for Libor. Banks would be able to use these loans to reduce their reliance on overnight borrowing, making the system more stable.

Moreover, banks would in theory become more willing to lend spare funds to each other, reviving the private interbank market, since the borrower or lender could turn to the Fed for unsecured loans if it suddenly needed additional liquidity.

The Fed is also actively considering using unsecured lending to shore up the collapsing commercial paper market, in which many corporations as well as financial institutions raise funds.

The US central bank could either buy commercial paper (a form of unsecured debt), or support a special purpose vehicle that would buy this debt with a liquidity line from the Fed and credit support from Treasury.

Another option under consideration is for the Fed to loan money to money market mutual funds to finance their holdings of commercial paper. The Fed is exploring this, but most money funds are wary of leveraging up and worry that this could lead to investors remaining in a fund being exposed to increasing risk. That is why the authorities are having to explore the radical option of buying commercial paper themselves.


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ECB


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(email exchange)

Yes, but the inflation risks of the weak Euro may scare them.

>   
>   On Tue, Oct 7, 2008 at 7:11 AM, Karim wrote:
>   
>   Bini Smaghi is quite influential. Here he has a clear easing bias
>   and is saying they may cut intermeeting.
>   
>   Yesterday, the Austrian CB Governor said the ECB needed to do
>   ’everything necessary’ to promote growth, similar to the
>   Bernanke comment earlier this week on using ‘all the tools we
>   have’. Even Fisher was dovish yesterday.
>   

ECB’s Bini Smaghi Says Price Pressures Waning, Reuters Reports

Oct. 7 (Bloomberg) — European Central Bank Executive Board member Lorenzo Bini Smaghi said inflation pressures have become “less important” and the bank will make monetary-policy decisions when needed, Reuters reported, citing Italian radio.

“The economic situation has got worse, the inflationary pressures are always there but they are less important than in the past and we will take decisions at the appropriate time,” Bini Smaghi was quoted as saying.

While European countries have responded with different strategies to the financial crisis, the important thing is to restore confidence and Europe is “ready to do anything” to maintain stability, Bini Smaghi said, according to Reuters.


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2008-10-07 USER


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ICSC UBS Store Sales YoY (Oct 7)

Survey n/a
Actual 1.30%
Prior 1.10%
Revised n/a

 
No collapse here yet.

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ICSC UBS Store Sales WoW (Oct 7)

Survey n/a
Actual 0.10%
Prior -0.20%
Revised n/a

 
Muddling through here as well.

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Redbook Store Sales Weekly YoY (Oct 7)

Survey n/a
Actual 0.80%
Prior 1.00%
Revised n/a

 
Still weak, but not yet a collapse.

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Redbook Store Sales MoM (Oct 7)

Survey n/a
Actual -1.40%
Prior -1.30%
Revised n/a

 
Also weakening.

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ICSC UBS Redbook Comparison TABLE (Oct 7)

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Consumer Credit (Aug)

Survey $5.0B
Actual -$7.9B
Prior $4.6B
Revised $5.2B

 
This is a collapse!

Consumers petrified from daily drubbing of the stock market and news media.

Payroll tax holiday now!

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Consumer Credit TABLE 1 (Aug)

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Consumer Credit TABLE 2 (Aug)


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2008-10-06 China News Highlights


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Looks like our loss is going to be their gain due to our leaders being in this way over their heads.

Highlights

Premier: China’s steady growth can help
China May Move to Revive Sagging Property Market, JPMorgan Says
China May Maintain Fast Growth Amid Crisis, Premier Wen Says
China Should Prepare for Dollar Fall, Securities Journal Says
UBS Cuts Economic Growth Forecast for Asia, China
China’s Retail Sales Rise During Week Holiday, China Daily Says

Premier: China’s steady growth can help

Oct 6. (China Daily) Maintaining “steady and fast” growth is the largest contribution China can make to help the world overcome the current financial crisis stemming from the United States, Premier Wen Jiabao said Sunday.

“It will be the biggest contribution to the world for a huge country with 1.3 billion people to maintain steady and fast growth in the long term,” Wen said during an inspection to the Guangxi Zhuang autonomous region.


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