U Shaped or Double Dip – Economic Risks Are Rising

U.S. Growth Outlook:  Still Anemic and U-Shaped but Risks of a Double-Dip Recession Are Rising

by Nouriel Roubini

A slew of poor economic data over the past two weeks suggests that the U.S. economy in 2010 is headed for – at best – a U-shaped recovery. The macro news, including data on consumer confidence, home sales, construction and employment, actually suggests a significant downside risk even to the anemic 2.7% growth which RGE forecast for H1. With the positive effects of the historic levels of fiscal stimulus due to fade this year, the U.S. faces at best a 1.5% growth rate in H2, which looks too close for comfort to a tipping point of a double-dip recession.

Bulls Ignore Warnings from Soros Roubini and Other Skeptics

After a two-week decline which brought the Dow down 3.5%, the bulls are reasserting themselves to start this week. Building on Monday’s rally, global stocks were higher Tuesday amid renewed weakness in the dollar.In recent trading, the Dow was up 1.1% the S&P by 1.3% and the Nasdaq by 1.5%. Commodities rallied sharply, led by gold, as the dollar weakened anew after Australia’s surprise rate hike heightened interest rate differentials and improved the appeal of the carry trade (whereby fund managers borrow low-yielding dollars to invest in higher-yielding assets.)Once again, the skeptics find themselves on the defensive and it’s clear it will take more than a 3.5% drop or reminders about October’s “scary” history to break the market’s short-term momentum.Coincidentally (or not), the past few days has brought a raft of dour comments from the few analysts who correctly predicted the credit crisis before it became obvious to everyone.Here’s a sample: * George Soros says the U.S. banking system is “basically bankrupt,” in sharp contrast to Goldman’s upgrade of the large banks. * Nouriel Roubini says “markets have gone up too much, too soon, too fast,” and will retreat when economic news refutes the V-shaped consensus, Bloomberg reports. * Joseph Stiglitz told Bloomberg TV investors have become “irrationally exuberant” about prospects for a recovery. “There’s a lot of risk…ahead of some big bumps.” * Christopher Whalen tells Tech Ticker the fourth-quarter will be a “bloodbath” for banking as says stocks rallying while the “real economy is dying” is not a healthy sign. * Meredith Whitney warned about the likelihood of a second credit crunch, especially for small businesses, a WSJ op-ed last week.Meanwhile, stocks are now 15%-20% overvalued based on Robert Shiller’s long-term cyclically adjusted P/E ratio and Henry reports that Wall Street analysts are forecasting a return to record profit margins, which are only likely if more layoffs are coming, which begs the question: How can the economy maintain forward momentum if unemployment continues to rise and consumers remain in lock-down mode?The fact there’s so much to worry about is probably good news for bulls from a short-term perspective, as I wrote here. But long-term investors – as well as traders sitting on fat profits – would be wise to heed these collective warnings.

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We need a Nationalization of our Insolvent Banks

RGE Monitor

RGE Monitor

On Nouriel Roubini’s Global EconoMonitor, Nouriel Roubini argues that it is time for ‘Plan N’, namely a nationalization of insolvent banking systems. The very cumbersome U.S. Treasury proposal to dispose of toxic assets – presented by Treasury Secretary Tim Geithner – can be best understood as a combination of removing toxic assets off the banks’ balance sheet and also providing government guarantees to those private investors that will purchase them (and/or public capital provision to fund a public-private bad bank that would purchase such assets). Markets were expecting a clearer plan, but also a plan that would bail out shareholders and creditors of insolvent banks. Unfortunately that is not politically and fiscally feasible. It is thus time to start to think and plan ahead for Plan N (“nationalization” of insolvent banks). Check out: “It Is Time to Nationalize Insolvent Banking Systems”. Also don’t miss “Roubini Calls For Bank Nationalization – Latest Roubini Interviews on Bloomberg” and the discussion with Nouriel and Nassim Taleb “Predicting the Crisis: Dr. Doom & the Black Swan

The Anglo-Saxon model of supervision and regulation of the financial system has failed. The supervisory system “relied on self-regulation that, in effect, meant no regulation; on market discipline that does not exist when there is euphoria and irrational exuberance; on internal risk management models that fail because – as a former chief executive of Citi put it – when the music is playing you gotta stand up and dance. Check out: “Roubini: Anglo-Saxon model has failed

U.S. Lost 598,000 Jobs in January

Unemployment Rate Jumped to 7.6%

  • Jan 2009: Payrolls fell 598,000 (biggest monthly decline since Dec 1974) after falling by 577,000 in Dec and 597,000 in Nov 2008, Unemployment rate rose from 7.2% in Dec 2008 to 7.6% in Jan (a 16-yr high)
  • Payrolls have declined 3.57 mn since start of the recession in Dec 2007 (largest job losses during any post WW II recession); payrolls fell 2.6 mn in 2008
  • Continued job losses in manufacturing (-207k), construction (-111k), residential const (-61k), non-res const (-47k), services (-279k) the sharpest 3-mo decline since 1950s; finance (-42k), auto and parts (-31k), real estate (-45k), business and professional services (-121k), leisure and hosp. (-28k). Job gains in health and education (+54k), govt (+6k)

The U.S. Banking System is Close to Insolvency

RGE Monitor
January 22, 2009

The US Banking System is BankruptRGE Monitor Estimates $3.6 Trillion Loan and Securities Losses in the U.S.

Nouriel Roubini and Elisa Parisi-Capone of RGE Monitor release new estimates for expected loan losses and writedowns on U.S. originated securitizations:

* Loan losses on a total of $12.37 trillion unsecuritized loans are expected to reach $1.6 trillion. Of these, U.S. banks and brokers are expected to incur $1.1 trillion.

* Mark-to-market writedowns based on derivatives prices and cash bond indices on a further $10.84 trillion in securities reached about $2 trillion ($1.92 trillion.) About 40% of these securities (and losses) are held abroad according to flow-of-funds data. U.S. banks and broker dealers are assumed to incur a share of 30-35%, or $600-700 billion in securities writedowns.

* Total loan losses and securities writedowns on U.S. originated assets are expected to reach about $3.6 trillion. The U.S. banking sector is exposed to half of this figure, or $1.8 trillion (i.e. $1.1 trillion loan losses + $700bn writedowns.)

* FDIC-insured banks’ capitalization is $1.3 trillion as of Q3 2008; investment banks had $110bn in equity capital as of Q3 2008. Past recapitalization via TARP 1 funds of $230bn and private capital of $200bn still leaves the U.S. banking system borderline insolvent if our loss estimates materialize.

* In order to restore safe lending, additional private and/or public capital in the order of $1 – 1.4 trillion is needed. This magnitude calls for a comprehensive solution along the lines of a ‘bad bank’ as proposed by policy makers or an outright restructuring through a new RTC.

* Back in September, Nouriel Roubini proposed a solution for the banking crisis that also addresses the root causes of the financial turmoil in the housing and the household sectors. The HOME (Home Owners’ Mortgage Enterprise) program combines a RTC to deal with toxic assets, a HOLC to reduce homeowers’ debt, and a RFC to recapitalize viable banks.

Nouriel Roubini warns that the worst is yet to come

RGE Content: Weekly Roundup

RGE Lead Analysts | Nov 1, 2008

On Nouriel Roubini’s Global EconoMonitor, Nouriel Roubini warns that the worst in markets and economies is yet to come.   On October 23rd, Nouriel predicted the potential shutdown of financial markets.   A day later U.S. stock futures suspended trading after declines of more than 6% at opening tripped the circuit breakers.   Nonetheless, Nouriel does not expect another Great Depression, but states that policymakers must act quickly and wisely.

Here are the main elements of Nouriel’s outlook:  Tsunami of corporate defaults;  2-year U-shaped U.S. recession that threatens to turn into an L-shaped one if policymakers do not regain control of the financial system;  global re-coupling to the U.S. will advance from non-U.S. markets to non-U.S. real economies – not even the strongest emerging markets such as Brazil and China will escape global re-coupling;  vicious cycle of deflation in goods markets, labor markets, commodity markets, financial markets, corporate and household earnings, and aggregate demand;  de-leveraging to reduce excess debt in municipalities, households and some firms;  U.S. stock markets declining another 20-30%,  bottoming fall 2009 at the earliest, then moving sideways for years post-recession if growth remains anemic as it did in Japan after its 1990s real estate and equities bust;  U.S. unemployment rise to reach 8-9%;  the demise of the shadow banking system.

According to Nouriel, USD assets, commodities, U.S. and international equities, housing, and the USD are quite risky right now.  Seek safety in cash or cash-like instruments such as T-bills and bonds of safe, large governments.  Though he believes the U.S. dollar will retain its reserve currency status for decades, its status will gradually erode.

Given the size of the expected contraction in private aggregate demand (likely to be about $450 billion in 2009 relative to 2008), Nouriel argues that a fiscal stimulus to the order of $300 billion minimum (and possibly as large as $400 billion) will be necessary to partially compensate for the sharp fall in private aggregate demand.  And don’t miss Nouriel’s testimony before the Joint Economic Committee.

Can The US Federal Reserve Go Broke?

RGE Monitor

RGE Monitor

Can Central Banks Go Broke? Fed Refuses To Disclose Collateral Composition And Recipients Of $2.8 Trillion Loans

  • The U.S. government is prepared to lend more than $7.4 trillion on behalf of American taxpayers, or half the U.S. GDP, to rescue the financial system since the credit markets seized up 15 months ago. Bernanke’s Fed is responsible for $4.4 trillion of pledges, or 60% of the total commitment of $7.4 trillion. The unprecedented pledge of funds includes $2.8 trillion already tapped by financial institutions

  • The commitment dwarfs the only plan approved by lawmakers, the Treasury Department’s $700 bn Troubled Asset Relief Program (TARP)–> Regulators refuse to disclose who is receiving how much while Congress starts pushing for transparency and give authority over taxpayer money back to elected officials.

  • see Cumberland Advisor’s real-time graph of Fed’s balance sheet and the contributions of different lending programs.
  • The bailout includes a Fed program to buy as much as $2.4 trillion in short-term notes, called commercial paper, that companies use to pay bills, begun Oct. 27, and $1.4 trillion from the FDIC to guarantee bank-to-bank loans, started Oct. 14.
  • Buiter: Can the central bank become insolvent? How and by whom or by what institution should the central bank be recapitalized, if its capital were deemed insufficient? These are relevant questions today wherever central banks have taken on large exposures to private credit risk as in the U.S., the Eurozone, and the UK.
  • Nov 5, RGE: Fed Balance Sheet Expansion: Change in Formula for Interest Paid on Reserves –> banks are providing the reserves for the Fed’s balance sheet expansion themselves.
  • Sep 17: Treasury Announces Supplementary Financing Program to fund the Federal Reserve’s Liquidity Facilities and to manage the balance sheet impact of these efforts.

Go to:  http://www.rgemonitor.com for all the details. (Excellent Financial Site – You will recognize the writer, because he has been all over the TV recently.