Global Credit Crisis
‘Viability’ is key to the White House bailout of the auto industry
If there’s one key word in the White House’s announcement of a $17.4 billion rescue package for Detroit automakers, it may be “viable.”
To get badly needed money now, GM and Chrysler under the terms of the deal have to agree to use the money to become financially viable by March 31, 2009. (Ford has said it does not need immediate help.)
For months, administration officials publicly have admonished troubled auto firms that they must “become viable” or “show viability.” This fall, the White House made sure that regulations for the Department of Energy’s loan program to develop more fuel-efficient vehicles included a whole viability section.
It’s not clear whether the Obama administration’s hands will be tied by its predecessor here. But to the Bush team, “viable” is a synonym for “drastic reform,” which in turn would include big concessions from workers, management, bondholders, and other stakeholders in the industry.
“If a company fails to come up with a viable plan by March 31st, it will be required to repay its federal loans,” said Bush on December 19.
The White House package is the lifeline that the traditional US-headquartered auto industry has sought with increasing desperation for months. Without it, GM and Chrysler likely would have been forced to declare bankruptcy before the end of the year. Ford has enough cash to soldier on, but has warned that it would be gravely hurt by the demise of its domestic competitors.
Extensive holiday shutdowns have shown the depth of the industry’s problems. Plants often close for two weeks at the holidays, but Chrysler has announced that all 30 of its North American plants will be shuttered for at least a month due to low sales. Ford’s North American plants will be closed for an extra week in January. GM will close 20 plants, some for all of January, to trim its stock of unsold cars.
In announcing the auto rescue during a brief morning appearance, President Bush said that it is his belief that during normal times bankruptcy would be the best way for the auto firms to make the changes they need to continue in business. But these are not normal times, he said.
“In the midst of a financial crisis and a recession, allowing the U.S. auto industry to collapse is not a responsible course of action,” said Bush.
About $9.4 billion will be available for GM immediately, if it signs a contract agreeing to the administration’s viability conditions. Chrysler will get an immediate $4 billion infusion. Further funds, up to the $17.4 billion total, would come after the start of the New Year.
The money will come from the Treasury Department’s $700 billion financial rescue fund, the Troubled Asset Recovery Program (TARP). Secretary of the Treasury Henry Paulson said on December 19 that Congress now must release the second half of the $700 billion, because the first $350 billion has all been committed.
Not everyone in Congress applauded the move. Sen. Judd Gregg (R) of New Hampshire, one of the architects of the TARP bailout plan, said using fund money for auto firms instead of financial institutions is a “troubling” precedent.
“I also question whether General Motors and Chrysler will truly take the painful, yet necessary restructuring measures to ensure that these so-called loans aren’t simply throwing good money after bad,” said Sen. Gregg.
Under terms of the auto bailout, “viability” is defined as showing a positive net present value, taking into account all current and future costs, plus the ability to repay the government’s loans, according to a White House fact sheet. That’s the condition that GM and Chrysler are supposed to meet by March 31.
The bailout also sets targets for auto firm fiscal actions, including a two-thirds reduction in debt, accomplished by swapping debt for equity in the companies; the elimination of the controversial jobs bank, in which union workers awaiting a new assignment were paid for little work; and establishment of work rules and wages competitive with those of “transplant” auto firms run by foreign manufacturers in the US.
Auto firms that take the government’s money don’t have to meet these targets if they can report the reasons why, and make “the business case [that they will] achieve long-term viability in spite of the deviations,” says the fact sheet.
In essence, the Bush administration may just have handed off the problem of the failing auto firms to President-elect Obama, who will be the one determining on March 31 whether GM and Chrysler have met these conditions.
It remains to be seen whether Mr. Obama, who won with strong union support, will push for the United Auto Workers to make deep concessions.
However, on December 19 Obama praised the White House move.
“Today’s actions are a necessary step to help avoid a collapse in our auto industry that would have devastating consequences for our economy and our workers,” said Obama from his transition headquarters in Chicago. “With the short-term assistance provided by this package, the auto companies must bring all their stakeholders together ¬– including labor, dealers, creditors, and suppliers – to make the hard choices necessary to achieve long-term viability.”
Associated Press material was used in this report.
Loss of 533,000 US jobs is sharpest in 34 years
Last month, businesses across the country handed out pink slips at a dizzying pace.
Restaurants, computer manufacturers, plastic producers, and furnituremakers were part of a massive downsizing of the US workforce, the sharpest one-month reduction in working Americans in 34 years. At the same time, those with jobs are seeing their hours reduced and overtime cut back - a bad omen for the rest of the holiday retail season.
On Friday, the Department of Labor reported that the United States lost 533,000 jobs in November and that the unemployment rate rose from 6.5 percent to 6.7 percent. The service sector accounted for 70 percent of the job losses. In addition, the department revised upward the job losses in September and October by a combined 200,000 jobs. In three months, the economy has lost 1.2 million jobs.
“This is stunning - in the sense of a deer caught in the headlights,” says Stuart Hoffman, chief economist for PNC Financial Services in Pittsburgh. “We are seeing a total collapse in consumer confidence in the economy and business is laying people off and not hiring.”
There are major policy implications for the job losses:
- When the Federal Reserve meets on Dec. 15 and 16, economists expect the central bank to drop interest rates by half a percentage point, which will take short-term interest rates to 0.5 percent. Foreign central banks are also likely to cut interest rates.
- Pressure will rise for Congress to enact a massive fiscal stimulus package to try to create jobs.
- The new jobs report is also expected to push Congress to provide a bailout for the auto industry, because any auto company failure could create yet more economic weakness. Executives of the Big Three testified before Congress on Thursday and Friday and Congress is expected to consider helping them this week.
The sharp drop in jobs is also causing economists to scale down their estimates for economic growth for this quarter and into next year. Before the jobs numbers were released, economists had anticipated that the economy would shrink 2 to 3 percent this quarter (when measured in terms of gross domestic product). On Friday, John Silvia, chief economist at Wachovia Economics Group, said he now thinks GDP will contract by 5 percent.
The job losses also are likely to mean that although Americans turned out for Black Friday, the heavy shopping day after Thanksgiving, they will not be hitting the malls in any significant way for the rest of the holiday season. The Labor Department reported the average work week fell to the lowest level since it began tracking the information in 1964.
Using the jobs data, Mr. Silvia estimates disposable income plunged about 8 percent in the third quarter and is flat in the fourth quarter.
“The disposable income numbers are the most devastating, because it looks like that number will be flat to negative in the fourth quarter,” says Silvia. “No matter what people said they were doing on Black Friday, this number says people don’t have money to spend.”
The new jobs numbers also suggest a worsening outlook for the economy next year. Mr. Hoffman has lowered his 2009 estimates from a decline of 1 to 2 percent in real GDP to a decline of 2 to 3 percent. “We are probably a third of the way through a significant decline in GDP,” he says.
The falling GDP is likely to be a topic of conversation when the Federal Reserve meets Dec. 15. “The Fed is going to pull out all the stops,” says Hoffman, who expects the central bank to drop short-term interest rates by half a percentage point. That would bring the federal funds rate to its lowest level since the 1950s. On Friday, panicked investors continued to snap up short-term Treasury bills, considered a safe investment, driving the yields down close to 0 percent.
The jobs numbers will dramatically increase the pressure on Congress to pass a massive fiscal stimulus package as soon as President Bush leaves office, says economist Nigel Gault of IHS Global Insight. “We had assumed a $550 billion package over three years – we will need more than that,” he wrote in a note to clients. The challenge, he says, will be making it effective quickly, since infrastructure projects take time to gear up.
Cyber Monday: Will online shopping save the economy?
If you get caught shopping online at the office today, here’s your excuse: You’re not goofing off. You’re saving the US economy, one click at a time.
That’s because it’s “Cyber Monday,” the day US retailers promote as the unofficial kickoff of the Internet holiday buying season. Hour by hour, online merchants are trotting out unprecedented deals, trying to boost one of the few retail sectors expected to grow this year.
About half of all employees with Internet connections are expected to shop at work today, or at least browse, according to a survey from Shop.org. Thus, for a few hours at least, the two words most important to America’s fiscal recovery may not be “Ben Bernanke” but “free shipping.”
“As shoppers focus on price this holiday season, online retailers will be extremely competitive to offer the very best deals,” said Scott Silverman, Shop.org executive director, in an analysis released last week.
(BUY A GEL-PEDIC PET BED, GET A FREE COVER!)
Ahem. To continue, Internet holiday shopping will increase at least 10 percent in 2008, measured against last year, according to the Purdue Retail Institute. Total online Christmas spending is predicted to be $35 billion to $40 billion.
That sounds like a lot of money, and it is. But it represents only about 7 to 9 percent of all US holiday shopping.
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Please, please! Sorry about the interruption. Anyway, Black Friday, the first shopping day after Thanksgiving, saw better sales than many bricks-and-mortar stores had expected. Receipts for the day were up 3 percent, year over year, to $10.6 billion, according to ShopperTrak RCT.
Traffic was slower over the weekend, and deep discounts are cutting into store profitability. But strong online sales, coupled with the brighter start to the holiday season, at least might save the US retail sector from the apocalyptic holiday some stores fear.
“It is encouraging to see that Americans seem excited to go shopping again,” said National Retail Federation President Tracy Mullin.
Of course, one can be excited about shopping yet remain averse to hunting for a parking space, not to mention that piped-in, hip-hop remix of “O Tannenbaum.”
That’s where online holiday retail comes in.
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That’s it! I’ve had it! It’s bad enough my e-mail inbox was stuffed this morning with pages of pleading discounts from retailers I didn’t even know existed. Really, how much candy can nougat.com sell? Now they’ve gotten desperate and they’re breaking into serious news, and we in the mainstream media will not stand for it!
Pardon me, the systems administrator appears to be trolling for a deal on new bath towels, and there’s been a breakout from our spam quarantine. Where were we?
Oh yes, participation. About 135 million consumers will buy online this holiday season, according to the Purdue Retail Institute. The peak days for online retail will likely be Dec. 8 through 12, which is the latest time consumers believe they can order on the Internet and get their goods delivered in time for Christmas.
The busiest hours for online shopping are noon to 4 p.m., as workers use high-speed office Web connections to speed their online shopping carts to checkout. Industry groups say that most of this shopping occurs during lunch hours, but they’re probably just being diplomatic.
“No one really knows how many work hours are lost as workers shop online,” according to Richard Feinberg, a professor of retail management with the Purdue Retail Institute.
Seventy-five to 80 percent of online retailers will be offering special holiday inducements for 2008, according to various industry surveys. These include discounts on popular items – Best Buy is offering $10 to $15 off iPods purchased online, for instance – to free monograms, free shipping, and personal delivery on a pillow by a CEO who’s sobbing with gratitude.
Sorry – that last one’s made up.
Mondays are typically the biggest online shopping days. In the early 2000s, retailers began to notice that the first Monday after Black Friday was one of their biggest days of the year. Hence “Cyber Monday,” a phrase coined by the National Retail Federation in 2005 in an attempt to brand the day with an identity and publicize it, so more shoppers would join in.
“Cyber Monday” even has its own website, CyberMonday.com, where retailers can post their promotions and holiday savings.
Thank you. Now it’s time for yours truly to surf the Web to try to find something nice for my wife.
(JAPANESE POND BELLS NOT $49.95 NOT $39.95 BUT $29.95 FREE SHIPPING FREE ENGRAVING CHOICE OF GREEN FROG BROWN TURTLE BLUE FISH....)
Whoa, pond bells. She’s always wanted pond bells.
Huge job losses signal a shrinking economy
The nation’s downturn is beginning to deepen and nothing symbolizes this more than the jobs picture.
Layoffs are now ripping through the economy at a pace not seen since 2001, America's last recession.
The latest evidence of the intensifying economic storm came on Friday when the Labor Department reported that the economy shed 240,000 jobs in October, the second worst month of the year – after a revised loss of 284,000 jobs in September. The nation’s unemployment rate looked even more dire, skyrocketing to 6.5 percent in October, up from 6.1 percent in September and the highest level since February 1994.
There are widespread ramifications of the large job losses. Economists are now expecting the economy will shrink by anywhere from 3 to 5 percent in the current quarter – probably the worst performance by the economy in at least seven years. As the unemployment rolls expand in the months ahead, creating jobs and providing new benefits for those out of work will become the largest economic challenges facing the new president.
“We are now entering a vicious cycle,” says economist Bob Brusca of Fact and Opinion Economics in New York. “When people lose jobs, those people lose income and stop spending and that results in more cutbacks.”
How bad can it get? Mr. Brusca says during a bad recession, the economy can shed as many as 500,000 jobs a month.
“The important thing is that some of the key indicators are now reading as weak or weaker than these deep recessions,” says Brusca. “We have every reason to think this is as bad as a deep recession.”
One of the areas that is particularly vulnerable is manufacturing which lost 90,000 jobs in October.
“We are now seeing horrendous declines in manufacturing activity,” says Dan Meckstroth, chief economist at the Manufacturers Alliance/MAPI in Arlington, Va.
Automobile sales are now running at a 10.5 million annual rate, down from 12.5 million in September. The break-even point for Detroit is 16 million vehicles per year.
“This is going to affect not just the auto-assembly plants, but parts producers and everyone else involved in manufacturing,” says Mr. Meckstroth.
On Thursday, the Detroit automakers pressed lawmakers for loans to help them get through the downturn. On Friday, Ford said it lost $2.7 billion in continuing operations in the third quarter and had burned through $7.7 billion in cash. It also announced it would lay off 2,260 white-collar workers in North America in the weeks ahead.
Even exports, which had been a pillar for the economy, are now declining, according to the latest survey from the Institute for Supply Management.
“It is amazing how rapidly conditions have deteriorated,” says Meckstroth. Aside from the loss of jobs in manufacturing, 49,000 construction jobs were lost, 38,000 retail jobs, 45,000 professional jobs, and 24,000 positions in finance.
Over the near term, the employment numbers are likely to remain bleak. On Wednesday, Challenger, Gray & Christmas, a Chicago-based outplacement firm, said planned job cuts surged 19 percent in October. According to the firm, employers announced plans to cut 112,884 jobs, the highest amount in five years. So far this year announced job cuts are up 14 percent over 2007.
“What is disconcerting is [that] with the steep increase in joblessness in the second half of this year, it looks possible for the unemployment rate to reach 7.5 to 8 percent by the second half of next year,” says Andrew Stettner, deputy director of the National Employment Law Project, a nonprofit in New York that lobbies for help for the jobless. “There is going to be a real impact of that many jobless on the real economy.”
The rising tide of unemployed is expected to spur Congress to pass a new stimulus package. Brusca argues the best use of Washington’s resources might be to aid those who are out of work.
“This is like a snowball rolling downhill. If you catch it early, you can stop it. But if you wait too long, it’s too big and you have to wait for it to reach flat ground,” he says.
Mr. Stettner expects a multiprong approach, ranging from infrastructure spending to an extension of unemployment-insurance benefits. “And I think the new administration might have to look at a more direct role in job creation,” he says. “You have to look at things that are more dramatic.”
How to shake the bear market funk
New York and Atlanta – Emergency interest-rate cuts. A presidential speech meant to calm the financial markets. New government authority to buy from financial institutions as much as $700 billion worth of bad mortgage-related debt – all designed to reopen the world's clogged credit markets.
But Wall Street, gripped by a negative and increasingly entrenched psychology, is so far is shrugging off most of these herculean rescue efforts. After the worst week in the history of the stock market – with the Standard & Poor's 500 down 18.19 percent for the week – what will it take to make the sellers of stocks into confident buyers again?
It’s not a new question. In almost every severe market downturn, investors at some point see only the gloom and doom. Here’s what ultimately dispelled previous dark clouds:
•In August 1982, the Federal Reserve abruptly reversed course and began cutting interest rates. It sparked a bull market that sent S&P 500 stocks soaring 229 percent over five years.
•Immediately after the crash of October 1987, then-Fed Chairman Alan Greenspan threw money at the banking system, resulting in a bull market that pushed stocks up 65 percent over 2-1/2 years.
•In 1990, following a run-up in oil prices and a recession, the Federal Reserve cut interest rates and the S&P 500 jumped 417 percent over the next 9-1/2 years.
•By March 2003, after the bursting of the dotcom bubble, the excesses were finally wrung out of the markets. The resulting market increase ran until 2007, and stocks climbed 101 percent.
What will it take now?
Time, primarily, say some stock market strategists. That’s the view of Sam Stovall of Standard & Poor’s in New York, who notes that the $700 billion bank rescue plan won’t actually be implemented for about another month. “People expect it to be working already,” he says. “It’s like if I plan on losing weight and I joined a health club that won’t be open in November, and people are upset that I haven’t lost weight yet.”
Next week might still be a little dark, Mr. Stovall worries, because many investors will get their brokerage statements over the weekend. “We could have one last wringing of the towel,” he says.
It also might take yet more government action, says Fred Dickson, chief market strategist at D.A. Davidson in Lake Oswego, Ore. He would like to see the Federal Deposit Insurance Corp. guarantee all deposits at all banks. Corporate treasurers and big investors are withdrawing their funds from banks to protect their assets, he says. “There must be a flow of funds back to the banks,” he says. “We need a big enough stick to turn around confidence in the banking system.”
This weekend, when finance ministers from the G-7 industrialized nations meet in Washington, presents an opportunity to reassure the public that there will be no more bank failures, says Bill Stone, chief investment strategist at PNC Financial in Philadelphia. “If they say, 'If you are otherwise solvent, we will guarantee your bonds,' that would help,” he says. “Right now there is so much negative outlook, any positive news can be the catalyst.”
Most investors just want the wild stock-market ride of the past two weeks to be over, and professional money managers usually warn them against trying to pick the bottom in bear markets.
One is Bob Markman of Markman Capital Management in Edina, Minn., who does not expect the markets to turn around until people give up in despair. He counsels that there's no need to rush back in. “When the market turns around, it typically rises 30 to 50 percent, so who cares about missing the first dozen percent,” he says. “You should start buying when things start moving up, not down.”
Investors on Main Street, however, cite other actions that would begin to restore their confidence that the economy will pull through this crisis. Bob Indech of Norcross, Ga., an engineer, would like to see Congress permit the US government to loan money directly to the 4 million or so Americans in danger of foreclosure. The free-falling housing market, he says, has wrecked the ability of financial institutions holding mortgage-related securities to accurately "mark to market" the value of those assets, forcing them to sit on their cash reserves and cinch in lending lines.
Bailing out homeowners directly would not necessarily appease Wall Street, says Mr. Indech, who estimates he has lost about 20 percent of the paper value of his own investment portfolio in the past month. But it would address the fundamental problem of the crisis in a way that the existing rescue plan has not. He estimates it would also be a cheaper solution, costing perhaps $35 billion.
“You can’t have a trickle-down philosophy for a crisis problem. It doesn’t work,” says Indech. “You don’t pay [banks] to influence their behavior in the hopes that they will then behave in the way you want them to behave. The problem is not Wall Street, it’s Main Street. It’s simple, but people who live in ivory towers and have million-dollar salaries just don’t see the problems of the poor people on Main Street. It’s not in their understanding.”
To some others, it doesn't help that all this financial uncertainty is coinciding with political uncertainty over who will be the next US president. That’s the view of former investment banker Mark Small, now an information technology director at an Atlanta firm. He estimates he’s lost at least 25 percent of his stock value in the past week.
Mr. Small says Sen. Barack Obama’s widening lead in national polls over presidential contender Sen. John McCain has sent a signal to investors that change is coming – to wit, that Democrats are likely to control both Congress and the White House.
“Whenever there’s a political change in Washington, you see people start pulling their money out,” says Small. “The bottom line is people aren’t sure where [the next administration] is going to take us.”
Some of Small’s investor friends are now urging him to buy up stocks at bargain-basement prices, but he so far hasn’t moved. Buttressing the Wall Street meltdown are job concerns, he says.
“There’s a real fear out there that they’ll come in and say, ‘We’re eliminating your department,’ and then you’re out of a job,” says Small. “That makes betting on stocks riskier, since you may be in a situation where you need the money, and now you suddenly have a lot less money if you need to take it out of the market.”
Bush: World will act to fight market mayhem
Washington – Washington was the temporary headquarters Friday of an ad hoc world effort to produce a coordinated response to the fear that has driven down stock markets and frozen bank lending around the globe.
Financial officials from the G-7 group of industrialized countries were set to confer with President Bush in the White House, in advance of the weekend's scheduled International Monetary Fund meetings.
With a televised statement from the Rose Garden, Mr. Bush sought to reassure investors that governments are instituting strong measures to combat the financial crisis.
"The world is sending an unmistakable signal that we are in this together, and we will come through it together," said Bush.
The crisis has grown so quickly – and affected so many nations so deeply – that so far such statements from an array of world leaders have gone for naught. Volatility and selloffs continued to blast through bourses from Tokyo to New York. The week seemed set to go down in history as one of the most stomach-churning periods in the history of modern capitalism.
Asian markets fell heavily on Friday. Japan's was the most affected, with the Nikkei falling 9.6 percent. Overall, the Nikkei is down by almost 25 percent since Monday.
Britain's FTSE 100 dropped 8.5 percent Friday. The German DAX 30 went down 7 percent. France's CAC-40 lost 6.8 percent of value.
Volatility on the New York Stock Exchange was record-setting. The Dow Jones Industrial Average plunged 700 points, or about 8 percent, in the first 10 minutes of trading. It then trampolined up into positive territory, dropped again, and recovered somewhat.
Only days ago, the newly passed $700 billion US financial bailout bill looked like a huge response to credit problems. Now it seems just a start, as the Bush administration plans further moves to jump-start bank lending. Treasury officials on Thursday confirmed that they are considering using some of their bailout funds to inject cash directly into troubled banks.
Furthermore, US officials reportedly are weighing whether to guarantee certain kinds of debt, as a means of lowering lenders' fears that cash they send out might not come back. Britain, for instance, recently guaranteed all bank debt maturing up to 36 months.
The US might also decide to temporarily insure all US bank deposits. The current cap on Federal Deposit Insurance Corp. guarantees is $250,000 per deposit account.
Bush made no official announcement of new moves in his Rose Garden appearance Friday. He did say the administration's rescue approach "is flexible enough to adapt as the situation changes."
Bush also called for patience in the face of the fact that it will take time for rescue plans to work.
"We are a prosperous nation with immense resources and a wide range of tools at our disposal. We're using those tools aggressively," said Bush.
Meanwhile, House Speaker Nancy Pelosi (D) said she may push for a postelection special session of Congress to produce a new $150 billion stimulus package to help an economy that most economists see as heading toward or already in recession.
Another dose of government spending could create jobs by investing in public works and could help ease any slowdown in the economy caused by the credit crisis, Speaker Pelosi told reporters.
"We may have to go back into sesson before the next Congress," she said.
Associated Press material was used in this report.
EU struggles for unified response
London
So much for European unity.
With banks teetering, its financial system seizing up, and citizens beginning to fret about their savings, the European Union is struggling to produce a united, coordinated response that can restore confidence.
For more than 50 years, the bloc has built up formidable mechanisms for cooperation, coordination, and closer integration, yet in the face of the biggest-ever challenge to its financial system, the EU appears fragmented as its 27 members fall back on national solutions rather than working together on an EU-wide response.
Individual countries are scrambling to guarantee their own savers’ deposits, drawing anger from neighbors who say it is unfair and against EU rules. Leaders are squabbling about whether to mount a “Paulson plan for Europe.” A weekend meeting of leaders from France, Germany, Britain, and Italy not only snubbed the other Big Five country, Spain, but produced little of substance.
The market response? European markets are arguably suffering more than any others at the moment, enduring their worst day for a generation Monday. The FTSE 100 index saw its biggest-ever points loss. On Tuesday, European stocks saw some modest gains.
“This is a once-in-a-lifetime, totally extraordinary event for which the [EU] project was not prepared and so far it’s been pretty bad in terms of a European response,” says Daniel Gros, director of the Brussels-based Center for European Policy Studies. “They have concentrated on saving their own national problems one at a time. That has done nothing to alleviate the systemic problem: that banks don’t trust each other.”
Howard Archer, an economist with the Global Insight forecasting group, adds: “At the moment it seems a pretty fragmented approach with countries coming up with their own solutions, which can cause problems for other countries. It needs a more coordinated approach.”
“At times of crisis, national interests seem to come to the fore,” he adds. “That always seems to happen. There are signs that the European institutions aren’t working well enough to coordinate a response on this. It’s something they need to improve.”
Take Ireland. When it moved last week to guarantee all deposits – retail and wholesale (i.e., guaranteeing savers and all other creditors) – at six national banks for two years, the initial response was relief. But only in Ireland. Elsewhere, countries fumed that the move contravened EU competition rules, skewing the playing field. Britain was particularly alarmed that savers and businesses would take one look at the Irish guarantee and shift their funds out of British banks. Some in fact already have.
Other countries looking on have quickly responded. Some – Greece, Denmark, and Germany – offered full guarantees to retail savers. Others, Britain and Sweden among them, are raising the threshold to which savings are guaranteed. On Tuesday, EU finance ministers agreed that all EU savings up to 50,000 euros ($67,902) should be guaranteed. That raises the European minimum but felt short of the 100,000 euro threshold some nations sought.
Different countries are reacting differently to struggling banks, too. Some have been nationalized, others recapitalized by the state or a consortium or bought by wealthy investors. Now some countries, among them Britain and France, are floating the idea of taking national stakes in banks to restore confidence, shore up balance sheets, and then refloat them to recoup the taxpayers’ investment at a later date.
Carsten Brzeski, an economist for the Dutch bank ING, says the problem is that investors are unimpressed at the piecemeal responses. “Some of the measures were not so bad, but the timing and the lack of coordination were a problem,” he says. “If there had been some coordination in advance, we wouldn’t have seen the [market] conclusions.”
Analysts say there could have been greater coordination on:
•Deposit guarantees. Reassurance could have been greater if EU countries had established a rule early. It is unlikely they would have gone as far as the Irish blanket guarantee, as the cost would have been prohibitive. But an early decision to raise the guaranteed savings threshold might have injected confidence into the market.
•Regulation, capital adequacy, supervision, and credit ratings to spread risk more evenly throughout the EU. As it is, Spain is congratulating itself for its minimal exposure to the subprime fallout, while Germany and Britain are wincing.
•A capital injection into banks. Daniel Gros says that if every EU country placed a sum equal to 2 percent of GDP with the European Investment Bank, it would have a fund of 300 billion euros to buy stakes in troubled banks.
Mr. Gros says this response would demonstrate the very purpose of European unity: that everyone would benefit from a holistic solution.
The problem for Europe is that the EU doesn’t have the same federal institutions that the US has. The European Central Bank operates only on behalf of 15 out of the 27 EU countries, and aside from that, there is no central fiscal or regulatory authority.
“What the US can do because it has central fiscal authority [is] get into the game of ensuring solvency,” says Katinka Barysch, deputy director of the London-based Center for European Reform. “We can’t do that. As a result, in the middle of a crisis, we don’t have the mechanisms available, so it means we can’t do a European bank bailout.”
In Europe’s defense, Ms. Barysch argues that there has been some good multinational cooperation, such as with the rescue of crossborder banks Fortis and Dexia. “Think about what would have happened if you had a bank based in El Salvador, Venezuela, and Uruguay that went bust. It would have been mayhem,” she says.
But with countries increasingly determined to rescue their banks by taking state stakes in them, Europe is taking a giant stride back from decades of closer financial integration that saw multinational banks build and grow. “Banks are becoming more national,” Barysch concedes.
Stock markets’ plunge puts pressure on Fed to cut rates
Following a wild and woolly day in the stock market, the world’s central banks are now under intense pressure to drop interest rates.
If the banks agree to a coordinated rate cut, economists expect it to be between one-half and three-quarters of a percentage point.
The catalyst for a cut was today’s roller-coaster day on Wall Street where the Dow Jones Industrial Average at one point was down 800 points but ended with a loss of 369.88 points, a loss of 3.58 percent.
“We need a coordinated rate cut,” says Fred Dickson, chief investment strategist at D.A. Davidson in Lake Oswego, Ore. “You would think the fall of 800 points would catch the Fed’s eye. And a coordinated rate cut would help” ease the credit crisis.
The call for the rate cut came despite the efforts by the Fed to unclog the financial system. On Monday, the Fed said it would increase its loans to banks to $900 billion. And on Monday, the Fed said it would begin to pay interest on banks’ excess reserves and required reserve requirements. This will give the commercial banks greater profit but reduce the Fed’s profitability.
“Together, these actions should encourage term lending across a range of financial markets in a manner that eases pressures and promotes the ability of firms and households to obtain credit,” said the Fed in a statement. “The Federal Reserve stands ready to take additional measures as necessary to foster liquid money-market conditions.”
Some credit-market participants said the Fed’s moves would help somewhat. “Little things may help, but the markets are pretty crazy,” says Bob MacIntosh, chief economist at Eaton Vance in Boston. “I can tell you the credit markets are still lousy.”
Although there was no specific news item that precipitated the stock market drop, Mr. Dickson wonders if some large hedge funds, which have borrowed heavily, are getting margin calls. But he notes that the market’s sharp drop also comes at a time when analysts are reducing their earnings estimates for the fourth quarter. And “right now we have a crisis in confidence in the banking system,” he says.
In fact, some economists wonder if an interest-rate drop will help. “Interest-rate levels are not the problem,” says David Wyss, chief economist at Standard & Poor’s in New York. “The problem is that no one is lending any money.”
Last week, for example, the commercial-paper market – short-term lending to everyone from large corporations to states and cities – shrank by nearly $100 billion or 6 percent. On Monday, the overnight interest rate for prime commercial loans was 3.68 percent, as high as interest rates right after the House of Representatives voted down the $700 billion bank rescue plan last Monday.
The dry spell has at least two states, California and Massachusetts, calling for government loans. “The tax-exempt money-market funds are just afraid to lend,” says Mr. MacIntosh. “They have the cash, but they literally do not want to put it to work.”
The turmoil in the credit markets means that many large corporations that normally would access the commercial-paper market have not been able to do so. GMAC, for example, was unable to get investors to buy a $2.7 billion offering from its commercial finance unit. The offering was withdrawn. “It’s just an example of how shaky the financial markets are,” says Dickson.
Why Asian banks are stronger than US banks
Bangkok, Thailand
Asia’s markets are tumbling, but their banks aren’t.
A decade after their own debt crisis shook the world, Asian banks have so far averted the crippling run of failures afflicting the US and Europe. By staying away from risky US securities, prudent lenders in Asia may even stand to benefit from the current crisis, as stricken Western banks seek fresh capital.
Asia is feeling the credit squeeze. And fears of a global recession have pummeled equity markets here, too – Tokyo’s key index was down 4.25 percent Monday, pushing it to the lowest level in 4-1/2 years – but none of its financial institutions have collapsed.
A handful of banks in Hong Kong and India have had to reassure nervous savers not to pull their deposits. Regulators have also pumped extra money into credit markets, but there’s been no panicked rescues of stricken lenders, as in Western countries.
That’s because relatively few banks bought into the promises of US mortgage-backed assets. Those that did had only limited exposure before last year’s subprime blowout: Asia currently accounts for only $24 billion of $550 billion in global subprime-related loan write-offs, according to Bloomberg.
“We’re not really seeing a lot of pressure on Asian bank systems.... They just didn’t seem to build up their exposure [to US subprime loans] in a way that other banking systems did,” says James McCormack, head of Asia-Pacific sovereign ratings at Fitch Ratings in Hong Kong.
Many bankers in the region have painful memories of the 1997-98 crisis and prefer to lend cautiously, avoiding the kinds of high-risk, high-return bets that they can’t manage. Japan had its own experience of a real estate crash that kept economic growth on hold through much of the 1990s.
The US housing bubble came at a time when dynamic economies in Asia were offering ample lending opportunities, so there was less pressure to buy sophisticated US derivatives. A global economic slowdown is bound to crimp Asia’s export-led growth, but its bankers can breathe more easily knowing that they’re not saddled with toxic assets.
A culture of risk aversion underscores the differences between the US and Asian financial markets, says Cyn-Young Park, a senior economist at the Asian Development Bank in Manila. Regulators are more hawkish on monitoring banks, and companies are less likely to pile on debt so soon after the last crisis, which led to waves of bankruptcies.
But over the long term, such conservatism may be a handicap, she adds. “Asia wasn’t developed enough to digest all these [US] financial innovations into their system. In some senses, this isolation is a reflection of weakness,” she says.
Whatever the reason, cash-hoarding Asian banks – and governments – now appear to be in good stead as US banks try to dig out of a hole.
In a reversal of the 1997-98 crisis, Asian capital is beginning to flow West to buy marked-down assets in the financial sector. Japan’s Mitsubishi UFJ Financial recently paid $9 billion for a 21 percent stake in Morgan Stanley. Merrill Lynch and Citigroup have both raised capital this year from Singapore’s government, one of several in the region with ample foreign-currency reserves that are mostly held in US government debt.
Middle East oil producers also hold large reserves that could provide a lifeline for cash-strapped banks. Abu Dhabi’s sovereign fund last year spend $7.5 billion on a stake in Citigroup.
Fear of a nationalist backlash to their investments and the risk that asset values could decline further – as Merrill Lynch did after Singapore’s initial investment last year – may keep foreign governments on the sidelines. But the pressure on US banks to rebuild their capital base will continue, even if the Congressional bailout sucks out bad loans from the system.
That should be a magnet for sovereign wealth funds and healthy banks. “They’re the ones with the capital right now. You can assume that Western governments are happy to embrace their investments,” says David Cohen, director of Asian economic forecasting at Action Economics in Singapore.
Despite the relative strength of Asia’s banks, investors have been dumping stocks in the region. Leading the downward charge, Japanese stocks tumbled Monday, largely on fears that Asian exporters will be hit hard by an expected US recession.
Newspapers in Hong Kong quoted an executive of HSBC, a regional banking giant, warning that any slowdown in Asia would be “far more severe” than that of a decade ago and that recovery would be slower. Hong Kong’s Hang Seng index lost 5 percent, while markets in mainland China, South Korea, India, Singapore, Australia, and Thailand also slid.
Any global slowdown will eventually hurt banks in the region, says Emmanuel Daniel, founder and CEO of The Asian Banker, a publisher and research company in Singapore. Companies that rely heavily on demand from the US for their products and services are certain to feel the pinch, probably by early next year.
“There is concern that when that happens, the quality of borrowers within Asia will come into question and that in turn will affect the banking industry. This is the big one that Asian banks are bracing themselves for,” he says via e-mail.
Mr. McCormack says he’s monitoring banks that are vulnerable to tighter credit conditions, such as those in South Korea and Taiwan. “I think that the pressure we would see would be on banking systems that are dependent on capital markets for funding,” he says.
Big job losses point to consumer woes ahead
Another important part of the economy is now starting to falter: businesses that cater to consumers.
As families stop making so many trips to the mall or cut back on their dining in restaurants, the consumer sector is now laying off workers. Jobs are disappearing for people in furniture stores, electronics retailers, and department stores. Even food-services companies are reducing their staffs.
“This is the first consumer-led recession we have had since 1990-1991,” says Dan Meckstroth, chief economist at Manufacturers Alliance/MAPI in Arlington, Va. “Consumers are overleveraged and it’s going to take some time for this to unwind.”
On Friday morning, Americans got their bleakest view yet of the problems in the consumer sector: The Department of Labor reported that the US lost 159,000 jobs in September, the most since March 2003. The nation’s headline unemployment rate stayed at 6.1 percent but would have been higher if more people had not dropped out of the labor force. Losses in the retail sector amounted to 40,000 jobs, the second largest loss next to construction.
The problems in the consumer sector point to more economic trouble ahead, say some labor-market specialists.
“It suggests a tapped-out consumer and that could have serious repercussions for a poor holiday season,” says John Challenger of Challenger Gray & Christmas, a Chicago outplacement firm.
Over the next two quarters, consumers will cut back spending by more than a 2 percent annual rate, predicted Scott Anderson, senior economist at Wells Fargo Banks in Minneapolis, on Friday. This would help to drive the economy into a recession that won’t end until the spring of next year, he wrote.
Part of the consumer economy’s problem is the drying up of funds. Most consumers have either spent the checks sent out by Congress this spring or used them to pay down debt. Now they are getting caught up in the credit-market crisis, says Bill Hardekopf of LowCards.com, a consumer website.
“Credit markets seem to be dropping for a significant number of customers, especially those with riskier credit,” he says. In addition, he has noticed that credit card companies seem to be reclassifying their customers downward. An individual considered to be an excellent credit risk may be downgraded into a "good" category.
“So instead of getting the 8.99 percent rate that was advertised, instead they get the 10.99 percent rate,” he says.
Retail workers often come from the lower-income echelons. Unemployment in this sector is rising, says Andrew Stettner, deputy director of the National Employment Law Project in New York. “When you look at the numbers ... there has been a big increase in unemployment for people of color and less education,” says Mr. Stettner. “This is hitting the lower end of the social spectrum.”
But Stettner is also alarmed over the rising number of people – some 2 million – who have been out of work for more than six months. He says this has not happened in five years.
“Some 21 percent of the unemployed have been out for more than six months,” says Stettner. “When it’s over 20 percent that means hiring is very slow. People can’t find jobs.”
But it’s not totally bleak. Roy Krause, president of Spherion, a staffing and recruiting firm based in Fort Lauderdale, Fla. For the past 18 months, temp hiring has been dropping each month. However, he notes that in September temp hiring was down 9 percent compared with September of last year. The 9 percent drop was the same as August. “The good news is that it was not getting any worse,” he says.
Part of the problem in the job market is the economic uncertainty. A $700 billion bank rescue plan from Congress can remove some of that uncertainty, Mr. Krause says. The announcement by Well Fargo that it will acquire Wachovia without any government aid – topping Citigroup’s bid – may also be a positive for the financial markets.
“It shows business at the right price will look at [mergers] and expansion,” says Krause.
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