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Friday, December 18, 2009

Transcript: 334 Asset price deflation is not a risk, it is a reality

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Today, the Forecast with Martin Feldstein, and separately, inflation or deflation.

Plus Fedwatch, Ben Bernanke as TIME's person of the year.  Phooey.

And money.  It is not made the way the Fed and the neoclassicals think it is, we reiterate.  This has wide and deep implications for policy, why it is not working and what will work.

And finally, Maria Cantwell for president!  Earlier in the week, the CLEAR Act, the single best piece of climate legislation in our lifetime, should it pass, and midweek it was the sequel to Glass-Steagall -- Cantwell-McCain.


Explanations and forecasts are symmetrical and reversible. Karl Popper.

Martin Feldstein is a former president of the National Bureau of Economic Research and remains a member of the group’s Business Cycle Dating Committee, the panel charged with determining when recessions begin and end.  Normally Demand Side would not feature Feldstein, but in an interview on Bloomberg Radio in New York yesterday, he said quote
“The recession isn’t over.”

Economic reports suggest the government’s efforts to revive growth with fiscal stimulus may be working for now, Feldstein said , but the danger is we will run out of steam.

This week our  forecast focuses on inflation.

Simply, Inflation to remain steady at its current level except as oil market speculation may affect it.  So top line inflation 1-2 percent for 12 months.  Core inflation at zero.   David Rosenberg, who we've quoted quite regularly, since he is on the same dark side, says Deflation remains the primary risk in the U.S.

All are true.  It is asset price deflation that is the primary risk, and assets don't show up on on the consumer price index.  And it is not really a risk, since it is happening as we speak.

The housing asset is continuing to fall in price.  Commercial real estate is due for a similar crash in the very near future.

Hey, Did you see Morgan Stanley played jingle mail with five San Francisco buildings.  Where is that?  Here, by way of Calculated Risk

Calculated Risk

From Bloomberg: Morgan Stanley to Give Up 5 San Francisco Towers Bought at Peak
Morgan Stanley ... plans to relinquish five San Francisco office buildings to its lender two years after purchasing them from Blackstone Group LP near the top of the market.

“This isn’t a default or foreclosure situation,” [Alyson Barnes, a Morgan Stanley spokeswoman] said. “We are going to give them the properties to get out of the loan obligation.”
The Morgan Stanley buildings may have lost as much as 50 percent since the purchase ...
Note that Morgan Stanley is current on the loan and is not in foreclosure. They are simply "walking away" because the buildings are worth less than the amount owed.  Walking away is not a default.  Call it a strategic walking away.

Morgan Stanley leading the way.  Look out below.

Productive assets of all types have to be deflating with the flagging of demand.  A machine, plant, facility that produced $10 worth of revenue two years ago produces $8 today.  The quasi-rents are down (a Minsky/Keynes term), so the value of the asset is down.  And if it isn't, you can probably pick up another one in a distress sale somewhere.

The question is why the stocks and bonds that are claims on these assets are not down more than they are.  My thought, and maybe you have another one, is that the  markets for these are liquified by zero interest positions, that these are financial assets, not real assets, and that there is simply a disconnect between them and the real economy.

Of course, real estate IS the one place where falling assets bleed into the inflation indexes, through so-called owner's equivalent rent.  This is the rental value of the home.  But just as it understated the effect of the boom, it understates the effect of the crash.  It is the comparable rental value.

Owners' equivalent rent (OER) decreased at a 1.5% annualized rate in November, and has decreased at a 1.1% annualized rate over the last three months. OER is the largest component of CPI, and helped keep core CPI unchanged in November.


The banks may have made the calculation that they can survive on the margin between zero and their inflated lending costs if they don't have to acknowledge the real value of the garbage MBS's on their books.  And since they have plenty of reserves now from not lending, they can pay back their TARP bailouts.

But now what do we see?

Ben Bernanke is TIME's person of the year

Read more: http://www.time.com/time/specials/packages/article/0,28804,1946375_1947251,00.html#ixzz0ZsE3fyQU

A bald man with a gray beard and tired eyes is sitting in his oversize Washington office, talking about the economy. He doesn't have a commanding presence. He isn't a mesmerizing speaker. He has none of the look-at-me swagger or listen-to-me charisma so common among men with oversize Washington offices. His arguments aren't partisan or ideological; they're methodical, grounded in data and the latest academic literature. When he doesn't know something, he doesn't bluster or bluff. He's professorial, which makes sense, because he spent most of his career as a professor.

He is not, in other words, a typical Beltway power broker. He's shy. He doesn't do the D.C. dinner-party circuit; ... Because Ben Bernanke is a nerd.


Ben Bernanke is a company man.  Chosen for his so far unproven belief that saving the big banks is the primary means of assuring a healthy economy, Bernanke has dutifully placed all the Fed's chips on that bet.  He has obediently kept interest rates at zero, ostensibly to promote economic activity, although none seems to be being promoted, even if the President begs.  But just go to the charts that show the Fed's balance sheets and look at the MBS's the Fed has bought.  This makes the AIG backdoor bailout look like chump change.  In any event, if they survive, it is not because they are performing the functions of a banking system. 


Which leads us again to observe that money is not created the way the Fed and neoclassicals of all stripes think it is.

First, step back another few feet.

If the economy worked in any way similar to the way the elites in Academia, the Fed and Wall Street say it does, would there really have been such a crash?  No.  Yet there has been no widespread soul searching.  The elites cling to their old theories and the economy continues down the drain.

There is a war on against Bernanke, and I for one am firmly against him, and a war against Obama and the cabal at the Treasury slash Wall Street.  But we make a mistake by going after the people.  If they are dethroned, there will just be other people doing the wrong thing unless we get a popular understanding of not only the predator state, but the true mechanics of the economy.  That is one problem with getting rid of Bernanke.  Who would you put in there who doesn't believe and act along the same lines?  Paul Volcker may take a harder line toward the banks, but his tenure showed no real understanding of money.  Janet Yellen and the others are just Bernanke light.  My favorite would be Larry Summers.  Get the guy out of the White House.

Anyway.  The money.

As we described over the past few weeks, money is created in the process of financing investment and borrowing.  A boom creates its own money.  This is Minsky's proposition and Steve Keen has a more sophisticated model out this week.  The fact is proven by the empirical data we cited last week from Prescott and Kydland almost fifteen years ago.

So the banks making the loans is not only the way to get people working and investing, but the way to get the money up and running again.  Alternatively, the government can employ people and invest on its own in big new infrastructure.  That will generate private investment.

The idea that we need to make the banks profitable in order to have healthy investment is more and more like the crackerjack salesman needing to be rich before the team can do well.  It's the other way around.

But this basic law of the creation of money is not understood by more than one or two percent of the practitioners on Wall Street or in Academia.  At the Fed it is an anathema to the Ptolmeic monetarists.



First it was the CLEAR Act.  THE most coherent piece of climate legislation that I can remember, and because it hits at the economic heart of the matter:  The price of carbon.  And it does not dodge the institutional imperatives. It puts the onus on the carbon producers, caps the carbon without funky offsets that could be gamed, makes the consumer whole or better than whole with the dividend plan, and sets up the import fences to use the power of the U.S. consumer to drive down carbon use elsewhere.

But now it is Cantwell-McCain, the successor to Glass-Steagall.  This can be done.  Separating the investment and commercial banks.  They ought to be cut up to sizes that make them again subject to market discipline.  We put up the press release yesterday.

Beginning in 1933, Glass-Stegall established a wall between commercial and investment banking to protect depositor money from being put at risk by Wall Street speculation. For nearly 60 years, this firewall maintained the integrity of the banking system; prevented self-dealing and other financial abuses; and limited stock market speculation. But since its repeal, banks have blended banking and brokerage, using loopholes in the Act and other statutes to market financial products like stocks, mutual funds and underwriting stocks to their consumers at the same time. When these megabanks default under the current system, taxpayers pay for the losses twice over.

And it was just last month that Cantwell together with Senators Ron Wyden (D-OR) and Bernie Sanders (I-VT), proposed legislation empowering state gambling regulators and attorneys general to examine unregulated derivatives trading.  Appropriately enough.  Noting that state gambling laws were explicitly circumvented and made mute in the 2000 law that allowed unregulated derivatives.

Now if we could just subtract Joe Lieberman we might have a working formula.

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