the current economic crisis: history and outlook february 19, 2009 by dr. matt will

The Current Economic Crisis:

History and Outlook

February 19, 2009

By

Dr. Matt Will

Copyright © 2009 by Dr. Matthew Will. All rights reserved

Overview

The Status – Loss of Confidence

The Solutions:Bailout(s), Stimulus, Mortgage

The Source – CDOs

The Outlook


IntermediariesDepositors

(1) Funding comes from depositors

(1)

(2) Cash invested

(2)

(3) Payments are made by borrower or Assets Sold

(3)

(4) Proceeds repaid to depositors & reinvested

(4)

1. Source of Credit Crisis

Investments

Banks

Investment Banks

Insurance Cos.

CDOs / MBS

Sub-Prime

Others – No problem

Institutional

Corp.

Other


Intermediaries

(1) Funding comes from depositors

(1)

(2) Cash invested

(2)

(3) Payments are made by borrower or Assets Sold

(3)

(4) Proceeds repaid to depositors & reinvested

(4)


Investments

Banks

Investment Banks

Insurance Cos.

CDOs / MBS

Sub-Prime

Others – No problem



Corp.

Developers

New Business

Consumers

etc.

IntermediariesDepositorsInvestments

Banks

Investment Banks

Insurance Cos.

GSE

Mutual Funds…

Institutional

Corp.

Intl.

Consumer


2. Status = Loss of Confidence

Impact

Depositors

Capital Markets

Cash / Money Markets / Intl. / etc.

? What Happens To The Economy? ? What Happens To The Economy?


How to Restore Depositor / Investor

Confidence?

2. Status = Loss of Confidence


The Issues

The Status – Loss of Confidence

The Solutions: Bailout(s), Stimulus, Mortgage

Subsidies, Alternatives

The Source – CDOs

Agreement


3. Solutions

Banks PROBLEM FIRMS

Insurance Companies

Investment Banks

Intermediaries


Send Cash (borrowed by Govt.)

Sell Bad Mortgages to Government

3. Solutions: Paulson/Geitner/Bernanke (TARP)

Government

Owned Assets

Rehabilitated Banks (restores confidence)

Bad Banks (no confidence)


Myth 1: The plan will restore confidence (BB GB)

Fact: Only 20% to 30% of depositors will return

Myth 2: There is no private market for mortgages

Fact: False – See Lehman, Washington Mutual, etc.

Myth 3: The government will make a profit

Fact: Banks will sell worst mortgages

Myth 4: We know which mortgages are bad and their value

Fact: Mortgages are hidden in S.I.V.s - no market price

Myth 5: The government is better at loan workout than banks

Fact: Banks do this for a living



Emergency Economic Stabilization Act of 2008– Paulson = 4 pages ($700 bil)

– Final bill = 451 pages ($850 bil)

Highlights - TARPTroubled Asset = “any other financial instrument that the Secretary …

determines the purchase of which is necessary to promote financial market stability.”

Lack of Support

Opposed by over 100 university economists in a signed letter



HR 1424 – The Xmas Tree• Energy Improvement and Extension Act of 2008

• Tax Extenders and Alternative Minimum Tax Relief Act of 2008

• Paul Wellstone and Pete Domenici Mental Health Parity and Addiction Equity Act of 2008

• Heartland Disaster Tax Relief Act of 2008

• "Certain wooden arrows designed for use by children" (Sec. 503)

• Wool research (Sec. 325)

• Film and television productions (Sec. 502)

• Virgin Island and Puerto Rican rum (Sec. 308)

• Auto racing tracks (Sec. 317)


3. Solutions: Stimulus $787 bil

Recovery and Reinvestment Act of 2009 • $400 tax credit per worker…phase out at $75,000• $2,500 tax credit for hiring workers• $61 bil for DOT projects **• $20 bil for food stamps• $2.5 bil for internet for farmers• $7,500 credit, for low income first-time homebuyers

Amount Description

286$ Tax Provisions501$ Spending Provisions787$ Total Stimulus Bill


3. Solutions: Stimulus Impact

Recovery and Reinvestment Act of 2009 • Adds $35 bil per year in interest to federal budget• Exacerbates root cause (unqualified homebuyers)

– American Dream Downpayment Act (2003)– $7,500 for low income home buyers

• Tax credits are temporary (not tax cuts)• Spending distribution

– Social spending dominates plan– Infrastructure spending limited

• Credits new baseline for entitlement spending• Magnifies credit crisis

– Crowds out private borrowing


3. Solutions: Stimulus Impact

Myth: New Deal Stopped Depression

• Cost of New Deal ($2009) = $550 bil• Length of Depression AFTER New Deal = 8 years


3. Solutions: Mortgage Subsidies

Total Cost = $275 bil• $200 bil for Fannie Mae & Freddie Mac• $75 bil direct payments to homeowners• Low income qualification requirement• Targeted assistance • Details to follow


US Govt. Financial Commitments

Federal Government Financial Commitments from December 2007 thru February 2009.

Excludes Federal Reserve injections via FOMC

Company $ Billions

Bear Sterns 29.0$ AIG 85.0$ FHA Mortgage Guarantees 300.0$ AIG (2nd) 37.5$ AIG (3rd) 27.5$ TARP 700.0$ TARP Riders 150.0$

Financial Market Direct Payments to Date

1,329.0$

Bailouts, Stimulus, etc. 8,562.00$

Total (billions)……………….. 9,891.00$

Disbursements to date = $ 2.546 trillion

Government Borrowing “Crowds Out” Private

Capital Formation

Government Borrowing “Crowds Out” Private

Capital Formation


3. Solutions: Total Impact

• 2/19/09 national debt = $ 10.8 trillion

• Natl. Debt + Current Stimuli = $12.1 trillion– Assumes balanced budget

– ALL Loans / Investments are repaid fully ($8.6 tril)

• Annual interest expense = $545 billion

• Per person– Debt = $40,333

– Annual interest = $1,817

• 2012 Forecast debt = $18.1 trillion

• 2012 Forecast annual interest = $815 billion


3. Solutions: Credit Market Thaw

• January 2009 China Private Bond issues = $237 bil (record)

• US Non-Govt Guaranteed Loan Volume as of 2/6/09

Reprint from 2/20/09 Wall Street Journal


Status of Financial Market “Clean Up”

Financial Market Realignment

Only 1 qualified bidder for bailout RFP (Allianz) Cannot unwind CDOs Asset purchases not working (AIG, etc.) Everyone wants a bailout

Acquirer Target

Barclays Lehman BrothersJP Morgan Washington MutualBank of America Merrill LynchJP Morgan Bear SternsWells Fargo WachoviaPNC Financial National City

Commercial Bank Conversions

Goldman SachsMorgan StanleyAmerican Express

Market Solution

Govt. Solution


SolutionSolution1. Fix the original problem

• Make predatory lending practices illegal

• Require overhaul of rating agencies and “approve” all derivatives

• Repeal Community Reinvestment Act of 1977

• Repeal American Dream Downpayment Acts of 2003 and 2009

• Regulate / Eliminate Credit Default Swaps ***

2. Market value all assets by banks & eliminate off balance sheet holdings

3. Orderly market realignment and/or liquidation of financial institutions

• Wachovia, Was Mu, Goldman, Morgan, Lehman, Merrill Lynch, etc.

• Expand TARP/CPP to include financing acquisitions

4. Avoid more bailouts (ala AIG, GM, etc.)

3. Solutions – An Alternative


Result of Alternative Solution

• RESTORE CONFIDENCE

• Clean out poor institutions

• Increase quality of loan portfolios


Summary

• Solution must…

… address root causes

… not be political or reactionary• Bailouts…

… delay recovery

… make recession worse

…do not fix fundamental problems

…drain money from capital markets

• Economy will recover


Questions


Three Important Secrets

1. Credit Default Swaps (CDSs)

2. Structured Investment Vehicles (SIVs)

3. “Rating Agency Game”


White House Aid PackageWhite House Aid Package Government appointed Czar Government to finance turnaround Required Targets

Convert 2/3 of debt to equity Fund ½ of VEBA with Stock Eliminate Jobs Bank Convert UAW work rules to Transplant rules Convert UAW wages to Transplant wages

Restructuring = Competitive

IssuesIssues Can this be done outside of bankruptcy? Will Obama enforce targets?

3. Solutions – Auto Industry

the current economic crisis: history and outlook february 19, 2009 by dr. matt will

Documents

rights reserved myth

rights reserved hr

rights reserved overview

problem slide

loss of confidence slide

outlook slide

banks fact

consumer slide