Detonating economic bombs (Headlines from the Meltdown)

General comment from Cardin:

This ongoing scan of dire-sounding economic news and opinion pieces may have grown unworkably large. I’m contemplating creating a separate page to house these things, thus freeing up the main blog page for other items. For now, though, here are the choice items I’ve found over the past few days.

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U.S. banking system teetering on the edge of collapse – Mike Whitney, CounterPunch, Jan. 31

The banks are “capital impaired” and borrowing at a rate unprecedented in history. The capital that the banks do have is quickly being depleted. Banks are forced to borrow reserves from the Fed in order to keep lending.

A careful review of these graphs should convince even the hardened skeptic that the banking system is basically underwater. The sudden and shocking depletion of bank reserves is due to the huge losses inflicted by the meltdown in subprime loans and other similar structured investments.

….The debt-securitization process is in a state of collapse. The market for structured investments — MBSs, CDOs, and Commercial Paper — has evaporated, leaving the banks with astronomical losses. They are incapable of rolling over their short-term debt or finding new revenue streams to buoy them through the hard times ahead. As the foreclosure-avalanche intensifies; bank collateral continues to be down-graded which is likely to trigger bank failures.

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FDIC preparing for bank runs? – FDIC website, Jan. 14

[Cardin comments: On January 14th the FDIC posted a document in the section of their Website titled “Financial Institution Letters.” The header says it deals with the following topic[s]: “Processing deposit accounts in a bank failure. Modernizing large-bank insurance determinations. Notice of proposed rulemaking.” Is this just a regular update, a business-as-usual moment that’s well within the FDIC’s normal operating procedure? Or does the timing of it indicate, as some observers have speculated (check out the discussion thread at the Life After the Oil Crash forums), that the U.S.A.’s bank insurer is actively expecting and preparing for bank runs? This certainly bears watching. A couple of excerpts from the letter/announcement are below. The choice passage that LATOC participants have focused on is highlighted. Pay attention to the listed numbers. They’re staggering.]

SUMMARY: The FDIC is proposing the attached two-part rulemaking relating to the potential failure of an FDIC-insured depository institution: The first part of the proposal would govern how and at what point deposit account balances would be determined in the event of a failure, and applies to all FDIC- insured depository institutions. The second part proposes requirements to facilitate the process for determining the insurance status of depositors of large insured depository institutions in the event of failure. Comments on the Notice of Proposed Rulemaking are due by April 14, 2008.

….When an FDIC-insured depository institution fails, the FDIC must determine the total insured amount for each depositor. The rules used by the FDIC to determine account balances as of the day of failure must be clearly established. As proposed, a deposit account balance on the day of failure would be defined as the end-of-day ledger balance of the deposit account on the day of failure. The proposed rule would apply to all insured depository institutions.

The FDIC also is modernizing its current business processes and procedures for determining deposit insurance coverage in the event of a failure of one of the largest insured depository institutions (i.e., the 159 institutions with at least $2 billion in domestic deposits and either more than 250,000 deposit accounts or at least $20 billion in total assets, regardless of the number of deposit accounts).

….The FDIC last updated its deposit insurance determination process in 1999. The largest number of deposit accounts in a failed institution for which the FDIC has had to make an insurance determination was about 175,000 for NetBank, FSB, Alpharetta, Georgia, on September 28, 2007. Today, some of the larger banks have more than 50 million deposit accounts.

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U.S. banking regulator: Bank failures are imminent – Financial Times, Feb. 1

Deterioration of the commercial real-estate market will lead to rising losses and bank failures in the near future, a leading US banking regulator said on Thursday.

The remarks by John Dugan, the comptroller of the currency, reflect growing concern among regulators about the health of US banks, already struggling with the downturn in the domestic housing market.

….The crisis in the US housing market has had a knock-on effect on commercial property, he said. Falling house prices and the tightening of lending standards had cut demand for new homes — in turn, causing a near collapse in residential construction.

….Mr Dugan expected a rise in bank failures, since many community institutions had significant exposure to this now-declining market and would face rising delinquencies and loan defaults.

….”There will be more criticised assets; increases to loan loss reserves; and more problem banks. And yes, there will be an increase in bank failures.”

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European bank write-downs picking up speed, “All bets are off” – International Herald Tribune, Jan. 30

When UBS of Switzerland disclosed in October that it had written down $3.6 billion in the value of its mortgage-backed securities, it was praised by several analysts for biting the bullet.

Then, in December, it said it would write down $10 billion more, rattling those who follow the Swiss bank, but earning the grudging respect of some for trying to get a handle on the subprime fiasco.

On Wednesday, UBS warned it would mark down yet another $4 billion worth of securities, leading to the bank’s first annual loss since it was formed in a merger in 1998. Now, all bets are off.

“This is shocking stuff,” said Aye Idehen, a fund manager at Kleinwort Benson, a unit of Allianz in London, who holds UBS stock in his portfolio. “The worrying thing is there seems to be no end to this.”

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World chokes on America’s economic troubles – Asia Times Online, Feb. 1

The recent meltdown in global stock markets is the first truly global financial crisis since the word “globalization” became widely used. While Latin America and Asia suffered in the 1990s, this crisis marks a wider, possibly deeper set of problems underlining how vulnerable the integrated world economy has become to failures in one part of the globe. What began as worry over tremors in the US mortgage market has become a full-blown confidence crisis.

The fundamental problem is that financial innovation in the United States has outpaced the ability of either private managers or public officials to monitor what’s going on with the financial industry slicing and dicing loans to create ever-newer instruments that few understood. That complexity has tied the financial world in knots as it seeks a way out of the mess.

….[I]t just may be that like the sorcerer’s apprentice, we have created things we do not understand and cannot easily control. If that is the case, the stock markets may be telling us something correctly this time [i.e., that we’re headed into recession].

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Housing Meltdown – Business Week, Jan. 31

Some experts have begun to suggest that a bottom is in sight . . . . . But it’s considerably more likely that the storm is still gathering force. On Jan. 30 the government said annual economic growth slowed to just 0.6% in the fourth quarter as home construction plunged at a 24% annual rate. The Standard & Poor’s/Case-Shiller 20-city home price index fell 7.7% in November from the year before, the biggest decline since the index was created in 2000.

And that could be just the start. Brace yourself: Home prices could sink an additional 25% over the next two or three years, returning values to their 2000 levels in inflation-adjusted terms. That’s even with the Federal Reserve’s half-percentage-point rate cut on Jan. 30

….Nobody can be sure how far prices will decline. Still, if prices drop that much, it could mean big trouble for the U.S. economy, which is already on the brink of recession. It would blow a hole in the balance sheets of banks and households, slicing more than $5 trillion off household wealth. That’s roughly the size of the drop in stock market wealth from the peak in early 2000, a big reason for the recession of 2001. Yale economist Robert J. Shiller, a longtime housing bear, points out that a housing decline that started in 1925 and ran until 1932 weakened banks and contributed to the Great Depression, which started in the U.S. in 1929.

….However things unfold, the changes are likely to be wrenching. The bigger the boom, the harder the fall.

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Foreclosure gridlock threatens entire U.S. economy – MSNBC, Dec. 3, 2007

The systemic implications already are being felt. Uncertainty about the extent of future losses has hammered the stock market and tightened credit for businesses as the economy shows signs of slowing. In many areas foreclosures are adding inventory to an already-glutted housing market. As consumers watch home prices slump and their equity melt away, some economists fear the housing recession could spill over to the broader economy.

“The housing recession, which is continuing and probably will get worse, has not spread to consumption yet,” said Sung Won Sohn, an economist and president of Hanmi Bank. “But I think it’s only a matter of time.”

Homeowners facing higher rates on their adjustable mortgages have reason to be concerned. Over the next four years, some $1.5 trillion in mortgages are scheduled to reset, according to an analysis by Credit Suisse.

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The next economic bomb to explode: Option ARM resets – Reuters, Feb. 1

The U.S. housing crisis has focused attention on adjustable rate mortgages (ARMs) and the danger posed by their spiking interest rates.

But mortgage bankers, industry experts and nonprofit officials say that the impact of one particularly nasty kind of ARM — called the Option ARM — involving hundreds of billions of dollars of loans has yet to be felt. And, they say, it will hit prime borrowers and subprime borrowers alike.

….With an Option ARM, borrowers can make a minimum monthly payment like a credit card, but if they do the principal increases.

….[I]ndustry insiders say Option ARMs, also called Payment Option ARMs, will be the next chapter in the U.S. housing crisis and could push hundreds of thousands more subprime and prime borrowers into foreclosure.

“So far the public is largely unaware Option ARMs are going to cause problems,” said Scott Stern, Chief Executive of Lenders One Mortgage Cooperative, whose 100 members originate $40 billion in mortgages annually. “But mortgage servicers know what’s looming in the pipeline.”

Subprime borrowers have weak credit histories, while prime borrowers have good credit. Industry insiders say a skewed system that paid mortgage brokers more to sell Option ARMs than traditional loans has left even prime borrowers struggling with monthly payments and unable to either sell or refinance.

“So far we have only seen the tip of the iceberg of this problem,” said Michael Lefevre, CEO of trade group the National Association of Mortgage Professionals (NAMP).

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How Oil Burst the American Bubble – Michael Klare, TomDispatch.com, Jan. 31

The economic bubble that lifted the stock market to dizzying heights was sustained as much by cheap oil as by cheap (often fraudulent) mortgages. Likewise, the collapse of the bubble was caused as much by costly (often imported) oil as by record defaults on those improvident mortgages. Oil, in fact, has played a critical, if little commented upon, role in America’s current economic enfeeblement — and it will continue to drain the economy of wealth and vigor for years to come.

The great economic mega-bubble arose in the late 1990s, when oil was cheap, times were good, and millions of middle-class families aspired to realize the “American dream” by buying a three (or more) bedroom house on a decent piece of property in a nice, safe suburb with good schools and various other amenities. The hitch: Few such affordable homes were available for sale — or being built — within easy commuting range of major metropolitan areas or near public transportation.

….This left home buyers with two unappealing choices: Take out larger mortgages than they could readily afford, often borrowing from unscrupulous lenders who overlooked their overstretched finances (that is, their “subprime” qualifications); or buy cheaper homes far from their places of work, which ensured long commutes, while hoping that the price of gasoline remained relatively low. Many first-time home buyers wound up doing both — signing up for crushing mortgages on homes far from their places of work.

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The Boom Was a Bust for Ordinary People – Barbara Ehrenreich, The Washington Post, Feb. 3

[W]e have to face a disconcerting fact: For years now, that strange stimulus-crazed beast, the economy, has been going its own way, increasingly disconnected from the toils and troubles of ordinary Americans.

The economy, for example, has been expanding, at least until now, and growth is supposed to guarantee general well-being. As long as the gross domestic product grows, World Money Watch’s Web site assures us, “so will business, jobs and personal income.”

But hellooo, we’ve had brisk growth for the past few years, as the president has tirelessly reminded us, only without those promised increases in personal income, at least not for the poor and the middle class. According to a study just released by the Economic Policy Institute, real wages actually fell last year. Growth, some of the economists are conceding in perplexity, has been “decoupled” from widely shared prosperity.

….So thoroughly is the economy decoupled from ordinary experience that according to a CNN poll, 57 percent of Americans thought we were already in a recession a month ago. Economists may complain that this is only because the public is ignorant of the technical definition of a recession, which specifies at least two consecutive quarters of negative growth. But most of the public employs the more colloquial definition of a recession, which is hard times. And — far removed from whatever happens on Wall Street, the Nikkei, Dax, or the curiously named FTSE — most Americans have been living in their own personal recession for years.

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Debt deflation set to rock American economy – John Browne, Financial Intelligence Report, Feb. 2

[D]uring our recent growth cycle, it is important to note that, despite the fact that our official, “cooked” inflation rate hovered around two percent, for real people who actually eat food, use crude oil and need health care, actual inflation they experienced was far higher.

Furthermore, during the recent growth cycle (since 2000), median household income has actually fallen. It fell by 2 percent for whites and a massive 8 percent for blacks.

Meanwhile, corporate profits rose rapidly, leading to nominal record stock-market prices. But now, even sanguine stock markets appear to be breaking out below both 50- and 200-day moving averages, with advance-decline lines also falling.

With rampant Main Street inflation, falling incomes, rising job insecurity, and now falling stock and house prices, is it any wonder that the great American consumer has become increasingly embroiled in debt and falling confidence?

It appears that our record period of growth was financed increasingly by debt — ever-rising levels of imprudent debt.

It was like piling dry timbers. All that was necessary to set them ablaze was a spark. That spark came in the form of a downturn in house prices. Foreclosures began to mount in the wake of underestimated ARM resets that took place on a morass of imprudent mortgages.

With the tinder alight, the main timbers — the massive debts upon which our economic expansion had been built — are now under threat.

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America’s middle classes are no longer coping – Robert Reich, Financial Times, Jan. 29

The fact is, middle-class families have exhausted the coping mechanisms they have used for more than three decades to get by on median wages that are barely higher than they were in 1970, adjusted for inflation. Male wages today are in fact lower than they were then: the income of a young man in his 30s is now 12 per cent below that of a man his age three decades ago. Yet for years now, America’s middle class has lived beyond its pay cheque. Middle-class lifestyles have flourished even though median wages have barely budged. That is ending and Americans are beginning to feel the consequences.

[The first coping mechanism was moving more women into paid work. The second was everybody working more and longer hours. The third was going into debt — borrowing against home equity, using credit cards for more and more purchases, etc.]

But this final coping mechanism can no longer keep us going, either. The era of easy money is over. With the bursting of the housing bubble, home equity is drying up. As Moody’s reported recently, defaults on home equity loans have surged to the highest level this decade. Car and credit card debt is next. Personal bankruptcies rose 48 per cent in first half of 2007, probably even more in the second half, which means a wave of defaults on consumer loans. Meanwhile, as foreigners begin shifting out of dollars, we will no longer have access to cheap foreign goods and services.

In short, the anxiety gripping the middle class is not simply a product of the current economic slowdown. The underlying problem began around 1970.

….Most Americans are still not prospering in the high-technology, global economy that emerged three decades ago. Almost all the benefits of economic growth since then have gone to a small number of people at the very top.

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Financial shock for American homeowners as banks cut off home equity credit lines — The Los Angeles Times, Feb. 1

[Cardin comments: Read this one in light of what Reich noted above about middle class Americans having coped with increasingly difficult financial realities over the past several years by living on borrowed money. Now one of the main sources of that money is drying up for a great many people. Look for the the other main one, credit cards, to blow its own hole in the economy any day now. Life on main street is getting verrry dicey indeed.]

Tens of thousands of homeowners with home equity lines of credit are getting a rude surprise: They’ve been told by their lender that they can no longer take money out on their credit lines because sinking home prices have left them with little or no equity.

Among the lenders taking such action is Countrywide Financial Corp., which sent 122,000 letters to customers last week telling them they could no longer borrow against their credit lines. In some cases, according to the company, the borrowers are now “upside down” — the total debt on the home exceeds the market value of the property.

….The moves to rescind credit lines are part of a pullback by lenders nationwide on home equity loans, which are often used to finance home improvements and consumer spending. Such loans, also known as second mortgages, were widely available until six months ago, when delinquencies and foreclosures began to soar.

Now, with new evidence of sinking home values, many lenders are requiring that homeowners maintain a much larger percentage of equity in their homes as a cushion against financial problems.

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Symbols of borrow-and-consume culture: abandoned swimming pools and bankrupt mortgage lenders – The New York Times, Jan. 30

RIVERSIDE, Calif. – Look around at the still-life of half-built neighborhoods and red-tiled roofs, all so new, planted during the Miracle-Gro years when homes became A.T.M.s.

Look closer and you think you’re staring into a ghost exurb –- empty homes left to bankers. This is the new America, Southern California’s affordable edge city, drowning in a sea of debt. In the Inland Empire, the eastern-most suburbs of Los Angeles, one out of every 43 households is facing foreclosure proceedings.

Peek behind the palm trees and there you see the most shocking sight: abandoned swimming pools, fetid and green, left to the elements and choked with algae. Thousands of people have walked away without even draining the water. Mosquito control agents now patrol these murky pools, treating them with pesticides to keep disease-carrying larvae from forming.

“With the skyrocketing foreclosure rate, the problem is compounding daily,” said Jared Dever, a spokesman for the government district that monitors insect breeding grounds. He said about 2,000 abandoned swimming pools would have to be treated in just one part of Riverside County.

The new year dawned with banks set to repossess more homes than any time since the Great Depression – about 2 million residences, according to various forecasts.

Is this the image of our consumptive age: the empty swimming pools of Riverside County? The epitome of middle-class life as just another cash play? People who took out loans on houses they never could afford, hoping for a quick flip, have left this squalor under the sun to the mosquito-control agents.

Or maybe we should look just to the west, to Orange County and beyond, to the half-empty glass hulks of the banks that changed the rules of lending –- Ameriquest, New Century and Countrywide, now being picked over by federal investigators and civil litigants.

Ameriquest, founded in Orange County, basically invented the subprime mortgage industry, figuring out numerous ways for borderline debtors to defy gravity. Now bankrupt, they settled a lawsuit for $325 million after being accused of predatory lending practices. Their slogan was: “Proud sponsor of the American Dream.”