Why This Crisis is Still Far from Finished

Financial Times

Why this crisis is still far from finished

By Mohamed El-Erian

Published: April 24 2008

During the past few weeks we have seen a growing number of market participants predict an end to the dislocations that erupted last summer and claimed victims throughout the financial system and beyond. While their predictions are understandable, they are premature. The dynamics driving the disruptions are morphing and may again move ahead of both the market and policy responses.

The optimistic view is based on two distinct elements. First, that the de­leveraging process is reaching its natural end as valuations stabilise and institutions come clean about their losses and raise capital; second, that a series of previously unthinkable policy responses have been effective in restoring liquidity to the financial system.

Both views have merit. Financial institutions, particularly in the US, have recognised the scale of the problem and are taking remedial steps. Just witness the recent round of capital raising by Citigroup, Merrill Lynch, JPMorgan and Wachovia. At the same time central banks in Europe and the US have opened up their financing windows, expanding the size of the financing, the range of institutions that can access it and the list of eligible collateral.

Yet, consistent with what we have seen since last summer, the dislocations are entering a new phase. As such, bold reactions on the part of policymakers may, once again, prove to be too little and too late.

Persistent financial dislocations have now caused the real economy to become, in itself, a source of potential disruption. During the next few months there will be a reversal in the direction of causality: the unusual adverse contamination by the financial sector of the real economy is now morphing into the more common phenomenon of recessionary forces threatening to undermine the financial system.

Economic data in the US have taken a notable turn for the worse. Most im­portantly, the already weakening employment outlook is being further undermined by a widely diffused build-up in inventory and falling profitability. History suggests that the latter two factors lead to significant employment losses.

Pity the US consumers. Their ability to sustain spending is already challenged by the declining availability of credit, a negative wealth effect triggered by declining house values, and a lower standard of living as the result of higher energy and food prices and a depreciating dollar. Job losses will accentuate the pressures on consumers, leading to income declines and a further loss of confidence.

While the financial system has taken steps to enhance balance sheets, they speak essentially to addressing the consequences of excessive leveraging and imprudent financial alchemy. As such, the nasty turn in the real economy may fuel another wave of disruptions that, this time around, would also have an impact on mid-size and smaller banks.

It is thus too early to declare the end of the turmoil that started last summer. Instead, during the next few months we may witness a new phase of dislocations, led this time by the real economy. The blame game will intensify; political pressure will continue to mount; momentum will build for greater and broader regulation of financial activities within the banking system and beyond.

The focus will also be on the reaction of policymakers. Here the outlook is mixed. The good news is that the crisis is now moving to an area where traditional policy tools are more effective. This is in sharp contrast to the situation of the past few months, where central banks were forced to use instruments that were too blunt for the purpose at hand.

But there is also bad news. The sharp slowdown in the US real economy will occur in the context of continued global inflationary pressures. As such, the Federal Reserve’s dual objectives – maintaining price stability and solid economic growth – will become increasingly inconsistent and difficult to reconcile. Indeed, if the Fed is again forced to carry the bulk of the burden of the US policy response, it will find itself in the unpleasant and undesirable situation of potentially undermining its inflation-fighting credibility in order to prevent an already bad situation from becoming even worse.

It is still too early for investors and policymakers to unfasten their seatbelts. Instead, they should prepare for renewed volatility.

The writer is co-chief executive and co-chief investment officer of Pimco. His book, ‘When Markets Collide: Investment Strategies for the Age of Global Economic Change’, will be published by McGraw Hill in June

Buffett: “Economy is in a Recession”

Reuters logo

NEW YORK (Reuters) — Warren Buffett, the world’s richest person, said Monday that the U.S. economy is in a recession that will be more severe than most people expect.

Buffett made his comments on CNBC television after his Berkshire Hathaway (BRKA, BRKB) agreed to invest $6.5 billion in the takeover of chewing gum maker Wm Wrigley Jr (WWY) by Mars in a $23 billion transaction.

“This is not a field of specialty for me, but my general feeling is that the recession will be longer and deeper than most people think,” Buffett said. “This will not be short and shallow.

“I think consumers are feeling gas and food prices,” he added, “and not feeling they’ve got a lot of money for other things.”

He was not immediately available for further comment. Known for his frugality, the 77-year-old Buffett has lived in the same 10-room Omaha, house for a half-century, despite being worth an estimated $62 billion.

On Wednesday, the Commerce Department is expected to say how fast the economy grew in the first quarter. Economists on average have projected that gross domestic product grew at an annualized 0.2% rate in the quarter.

Two quarters of declining GDP is a traditional indicator of recession. That last happened in 2001. Economists expect the Federal Reserve on Wednesday to cut a key lending rate for a seventh time beginning last September.

Buffett sees no respite from the housing slump.

“I think this is going to be fairly long and fairly deep, but who knows,” he said.

The Price for Food and Fuel Will Only Go Up

Prepare for Tough Economic Times

Excerpts of Post:

“Our problem is a toxic U.S. dollar. Printing funny money steals from the poor and middle class.”

“As long as the Fed is allowed to wield its power at will, the prices for food and fuel will only go up.”

“Some are calling for gold and silver to go over $2,500 and $200 an ounce”


Why the Rich Get Richer: Robert Kiyosaki

Most of us are aware of the sacrificial slaughter of Bear Sterns. Some people call it a bailout, but I call it a handout — a government handout to some of the richest people on Earth, paid for by American taxpayers.

It’s the survival of the richest, and the poorest be damned. There’s something dismal about a society that operates by those values.

The Economy on Life Support Continue reading

AP Poll: Mortgage Payments Worry Many

US News and World Report

Apr 14, 3:26 PM EDT

AP Poll: Mortgage Payments Worry Many

WASHINGTON (AP) — One in seven mortgage holders worry they may soon fail to make their monthly payments and even more fret that their home’s value is shrinking, according to a poll showing widespread stress from the nation’s housing crisis.

In an ominous snapshot of how the sagging real estate market and sour economy are intersecting, the Associated Press-AOL Money & Finance poll also found that 60 percent said they definitely won’t a buy a home in the next two years. Continue reading

They Said It Could Not Be Done

They Said It Could Not Be Done

A Poem by Benny Hill

They said that it could not be done, he said just let me try.
They said, “Other men have tried and failed,” and he answered, “But not I.”
They said, “It is impossible,” he said, “There is no such word.”
He closed his mind, he closed his heart to everything he heard. Continue reading

Jeremy Siegel: Even in a Bearish Market, Bullish on Stock

In an open discussion with executives in the Securities Industry Institute, Wharton professor Jeremy Siegel examined investment strategies in the current market. Siegel, author of the landmark books Stocks for the Long Run and The Future of Investors, drew upon historical records in making sense of the current downturn.

Based on Siegel’s analysis of data from 1802 to the present, stocks have outperformed every other major asset class — including treasury bills, bonds, and gold — over the entire period, including important sub-periods. A dollar of gold in 1802, for example, would be worth just $2.45 in December 2007 after adjusting for inflation. In contrast $1 invested in stocks would have grown to more than three-quarters of a million dollars. Stocks have delivered 6.8 percent return per year after adjusting for inflation. “It is remarkable how consistent this has been across all long-term periods,” says Siegel, who also teaches in the Investment Strategies and Portfolio Management program for investment professionals and individual investors. “Equities are about the last asset class that you can buy at or near its long-term historical value.”

The gap between stock and bond performance has been widening. While bonds have delivered 3.5 percent returns above inflation over two centuries, returns are going down. Since the end of World War II, bonds have delivered only a 1.7 percent real return per year. Currently Treasury Inflation-Protected Securities (TIPS) have a real return of about 1 percent. Of course, for experienced investors who can recognize values outside the triple-A bond market, there may be opportunities. “Safe bonds are of no value today. They are one of the worst values,” Siegel says. Continue reading

The Dogs

Pink Floyd Dogs (Waters, Gilmour – Pink Floyd)

You gotta be crazy, you gotta have a real need.
You gotta sleep on your toes, and when you’re on the street,
You gotta be able to pick out the easy meat with your eyes closed.
And then moving in silently, down wind and out of sight,
You gotta strike when the moment is right without thinking.

And after a while, you can work on points for style.
Like the club tie, and the firm handshake,
A certain look in the eye and an easy smile.
You have to be trusted by the people that you lie to,
So that when they turn their backs on you,
You’ll get the chance to put the knife in. Continue reading