The Oil Drum | DrumBeat: October 31, 2008

175 comments on DrumBeat: October 31, 2008

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JoulesBurn on October 31, 2008 - 8:35am

The mortgage flood continues:

Here’s a shocker: almost half of Nevada homeowners with a mortgage owe more to the bank than their homes are worth.

Here’s another: If you add in the homeowners like them in California, Arizona, Florida, Georgia and Michigan, together they account for nearly 60 percent of all homeowners who are “underwater” on their mortgages.

Nationwide, almost one out of every five homeowners with a mortgage owes more to their lender than their properties are worth. But if you subtract those states, the rate drops to about one in 10, according to a report released Friday by First American CoreLogic.

Nationwide, about 70% of homes have mortgages. Analyst Roubini is upbeat as usual:

By the time the housing market hits bottom, prices may be down 40 percent from the top, leaving 40 percent of homeowners underwater, according to Nouriel Roubini, economics professor at New York University.

But the most "shocking" part of the above story is this:

Another pessimistic analyst, Desmond Lachman of the American Enterprise Institute, said that “unless there’s government intervention on a big scale...we’re really not going to bottom.”

The AEI are these folks (Wikipedia):

The American Enterprise Institute for Public Policy Research (AEI) is a conservative think tank, founded in 1943. According to the institute its mission is "to defend the principles and improve the institutions of American freedom and democratic capitalism — LIMITED GOVERNMENT, private enterprise, INDIVIDUAL kiberty and RESPONSIBILITY, vigilant and effective defense and foreign policies, political accountability, and open debate."AEI is an independent, non-profit organization. It is supported primarily by grants and contributions from foundations, corporations, and individuals. It is located in Washington, D.C.

AEI has emerged as one of the leading architects of the second Bush administration's public policy.More than twenty AEI alumni and current visiting scholars and fellows have served either in a Bush administration policy post or on one of the government's many panels and commissions.Former United States Deputy Secretary of Defense Paul Wolfowitz is a visiting scholar, and Lynne Cheney, wife of Vice President Dick Cheney and former chairman of the National Endowment for the Humanities, is a senior fellow.

I guess they're not calling for intervention, but rather just saying it would be nice.

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Leanan on October 31, 2008 - 8:40am

Funny how the libertarian types are yelling for bailouts now.

Last night, Denninger explained why it's not morally wrong to walk away from your mortgage.

And the banner of MSNBC says:

BREAKING NEWS: Consumer spending in September drops by largest amount since 2004

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puhkawn on October 31, 2008 - 11:03am

"Funny how the libertarian types are yelling for bailouts now."

Hmm, it would seen not all "libertarian types are yelling for bailouts now."

http://online.wsj.com/article/SB122541582835686689.html

Its free.

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Consumer on October 31, 2008 - 11:22am

I think we may have a failed new deal: The goverment throwing tons of money at the fake economy, without doing anything about the real economy.

I think people take for granted how much infrastructure (much of it we still depend on) was created during the New Deal. It would be a shame if we have huge Gov spending without actually creating stuff or giving people jobs.

Now would be the perfect time to nationalize and rebuild the electric grid.

We could do a lot of useful infrastructure work (concentrated solar thermal power, electric grid, electric rail, urban renewal etc. with the money we are throwing at Wall Street. And the best part is, after you do this, you have something useful at the end.

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Gwydion on October 31, 2008 - 12:12pm

Well if there one thing this administration has shown itself as, it's that it picks appointees terribly. So it should come as no surprise that the high level appointees are failing to do the right thing, even if given fairly flexible financial tools by congress. Of those who are a little more competent, they seem to have an idealogical handicap -- When pressed by Waxman, Greenspan a few weeks ago said the crisis made him notice some problems with his neoliberal worldview. Maybe the people who are in charge need to be removed because they are not the right people for the job.

Where's Roosevelt when you need him?

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elwoodelmore on October 31, 2008 - 7:18pm

"...it's that it picks appointees terribly."

but isnt that what you would expect from an administration handicapped by a narrow facist adgenda ?

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Leanan on October 31, 2008 - 12:34pm

But...there's no proof there is such a thing as a successful new deal.

And we're in a much different position now than we were 70 years ago. We're in debt, and dependent on imports, which will make building infrastructure more difficult.

Not to mention, if we do try it, we will likely be building the wrong infrastructure. The "second stimulus" package is supposed to bail out state budgets, and that will likely be more highways and bridges, not more solar thermal.

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tommyvee on October 31, 2008 - 12:55pm

But...there's no proof there is such a thing as a successful new deal.

"proof" of success depends entirely on your definition of success.

If the definition of success is providing desparately needed employment and income for millions of impoverished people, providing a social safety net, and building durable infrastructure that is still largely in use 6 decades later, then the New Deal can be "proved" as successful on a factual basis.

If the definition of success is rescuing the market economy and causing a recovery of capital markets, then the success/failure of the New Deal will be debated endlessly depending on ideological stance.

Similarly, economists will debate the most effective measures for economic recovery today, but a bailout that provides durable and appropriate infrastructure will benefit the public, no matter what economic sect proves closest to predicting the future. Starting with constructing passenger rail and installing building insulation would provide unquestioned economic, employment, and environmental benefits.

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Leanan on October 31, 2008 - 1:04pm

If the definition of success is providing desparately needed employment and income for millions of impoverished people, providing a social safety net, and building durable infrastructure that is still largely in use 6 decades later, then the New Deal can be "proved" as successful on a factual basis.

But that is not what the bailout was supposed to provide.

If the definition of success is rescuing the market economy and causing a recovery of capital markets, then the success/failure of the New Deal will be debated endlessly depending on ideological stance.

That is what the bailout was supposed to provide.

If the point is to build infrastructure, then build infrastructure.

But I suspect it will be far more difficult these days. It's a global economy now, with global supply chains. I'm not sure we can build anything without the markets. That is, I suspect, how they sold the bailout to our congresscritters.

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Consumer on October 31, 2008 - 2:01pm

That is not what the bailout was supposed to provide.

Exactly my point, that is why I think the bailout is wrong-headed. I agree with Greer that the $ should have been put in the real economy. I understand the theory, that if we give a jolt to the fake economy, it will rescue the real economy on it's own. I think this would also work the other way around. Instead of buying up bad paper, I would rather have seen a massive jobs/food stamps/CCC program.

I work in the fake economy (hedge fund) and I know that I don't deserve to be bailed out. I should be allowed to lose my job, and be put to work rebuilding infrastructure. In the long run, I think that's the better way to go.

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Leanan on October 31, 2008 - 2:08pm

But at this point, it's the fake economy that's keeping the real economy going.

Projects were halted this summer due to asphalt shortages. While China was fixing up Beijing for the Olympics, there were shortages and hording of steel. We also import materials like silicon and germanium.

How do we keep our access to other people's resources without the fake economy?

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Consumer on October 31, 2008 - 2:32pm

I agree that we need some financial sector. I thought Greer didn't give enough credit to how important finance is to 1. Pool capital and 2. Spread risk.

My point is that this needs to be built on top of a solid foundation of real economic production (agriculture, manufacturing, resource extraction/utilization, durable construction). I think if you prop up the parts of the fake economy that are not directly supporting parts of the real economy, you will wind up in the same place in a few years.

There is nothing inherently wrong with Mortgage Backed Securities, and trading them. This can be a way to pool capital and spread risk for construction projects. The problem is when it doesn't rest on a solid foundation (often literaly in this case) of proper valuation and good construction and a sustainable living arrangement, that it all goes to crap.

PS, how do I likify a word? I wanted to say "Greer" and then have that be a link to his article on economic abstraction.

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Leanan on October 31, 2008 - 3:16pm

PS, how do I likify a word? I wanted to say "Greer" and then have that be a link to his article on economic abstraction.

It's plain old HTML. If you use Firefox, I recommend the BBCodeXtra extension. Makes creating HTML links and formatting a breeze.

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DIYer on October 31, 2008 - 11:15pm

You put a tag in front of it like:
<a href="http://www.inter.net/link/whatever.html">

Then you put your word:
Greer

Then you put a closing tag after it:
</a>

Be sure to put the closing link, otherwise it sorta makes a mess of your post.

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step back on November 1, 2008 - 9:31am

how do I link-a-fy a word? ... say "Greer"

More generally, at least in Firefox, if you want to know how someone did something in HTML, you can highlight the region of interest (left mouse button down and then drag) and then right click and pick "View Selection Source".

For example, try it on this HTML coded string: Greer
Now try it on this differently HTML coded string: Greer

See the difference?
The first "Greer" will take you basically nowhere.
If you click on the second hyperlinked "Greer" ... well try it and see what you learn.
Happy HTML trails to you.

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PaulS on November 1, 2008 - 2:59pm

... but you don't need the 'rel="nofollow"' stuff, and it will be done automatically ...

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thomas deplume on October 31, 2008 - 3:14pm

I listened to an explanation yesterday about how sick the idea of Credit Default Swaps actually is. The metaphor is that it is like buying fire insurance on your neighbor's house using borrowed money. The only way you could profit from the plan is if your neighbor's house burns down. Basically they have been betting that certain loans will be defaulted but not enough loans to bankrupt the insurer. As long as only a small number of loans were over insured the impact would be small. With insurance on 100s of times the value of the original loan just a few defaults causes the plan to collapse. It is insurance fraud on steroids in which the crooks made sure the law didn't apply to what they were doing.

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Stoneleigh on October 31, 2008 - 5:10pm

That's a good analogy - one I have used myself from time to time. The point that you miss is that such a structure gives you a direct incentive to burn down your neighbour's house for profit. Otherwise viable companies will be driven to the wall for exactly this reason, by whatever market mechanisms exist. The immediate personal gains to the perpetrators will more than trump the resulting huge losses to the global economy in the longer term.

The CDS market is approximately $62 trillion and when it melts down due to counterparty risk, as it inevitably will, the impact will be far beyond anything we have seen so far. Deflation never plays out as a slow squeeze.

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DIYer on October 31, 2008 - 11:09pm

We build silicon refineries. And steel plants. Not sure about the germanium, we might still need to import that.

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elwoodelmore on October 31, 2008 - 7:29pm

"...the most effective measures for economic recovery today,"

how bout: start living within our means ?

that wont be easy or quick(it took a long time for those clever tax cut economic wizzard politicians to get us where we are today.........'bout 26 yrs, by my calculation).

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ET on October 31, 2008 - 12:58pm

Not to mention, if we do try it, we will likely be building the wrong infrastructure. The "second stimulus" package is supposed to bail out state budgets, and that will likely be more highways and bridges, not more solar thermal.

Neoconservative David Brooks call for just this, more highways and bridges.

http://www.nytimes.com/2008/10/31/opinion/31brooks.html?th&emc=th

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enemy of state on October 31, 2008 - 1:52pm

The "second stimulus" package is supposed to bail out state budgets, and that will likely be more highways and bridges, not more solar thermal.

If the second bailout is going to bailout state governments, I would expect it to be spent on retaining state employees, such as teachers and police. At this point many state govs don't have the revenue to continue paying their staffs.

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davebygolly on October 31, 2008 - 3:55pm

We need a New Deal, but one quite different from that last. Rebuilding our infrastucture as it is, is pointless and impossible. We face a world with diminishing underground resources. Any New Deal has to focus on adapting to that reality. This means rebuilding and repopulating small towns, densifying them, getting rid of cars, communalizing some things (oooh, I used a dirty word), connecting them to agriculture, etc. This means contracting and centralizing the suburbs (possibly multiple centers), going up a few floors, returning land to agriculture, parks, forests, etc. This means getting rid of cars in cities, rebuilding rail transportation to rural areas, etc. And all this needs to done keeping in mind the depletion curve, so that we are somewhat ahead of it. And it should be made certain that one way or another no one starves, has a roof over their head, and basic medical care, and has a role in the restructuring.

That's what ought to be done. And it is entirely practical and possible to do it. But it won't be. It's not profitable. It won't be until profit is no longer the final arbiter of what gets done and what doesn't.

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ROCKMAN on October 31, 2008 - 11:05am

Not this libertarian Leanan. But you already know what a cold-hearted oil patch meanie I am.

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Ignorant on October 31, 2008 - 9:50am

"By the time the housing market hits bottom, prices may be down 40 percent from the top...."

If you go by the old banking rule (which was ignored over the last few years) the max house price a family could afford was calculated as being 2.5 times the PRIMARY breadwinner's salary.

Anybody know what the avarage primary breadwinner's salary currently is? Multiply that by 2&1/2 and you should get what the average home price should be.

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xeroid on October 31, 2008 - 10:30am

In the UK the old borrowing rule was provide a 20% deposit then borrow 2.5X prime salary.

Average UK pay is ~£26,000 ... http://www.statistics.gov.uk/pdfdir/ashe1107.pdf

So if the rules revert to how they were, for an average UK man to be able to buy an average UK house he can afford to pay ~£80,000 ...

and the current average UK house costs? ...

~£161,000 ... http://www.nationwide.co.uk/hpi/historical/Sep_2008.pdf

Looks like UK house prices might have to fall a little bit more maybe!

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Neil1947 on November 1, 2008 - 1:38am

What house price is affordable will depend upon household income of home owners with a mortgage. Household income is wages of usually one or both parents, plus investment income. Its usually only first home buyers who will have a small down-payment, and they will often have lower household income, and little or no investment income. Then again they are not buying the average house. The other factor is the cost of servicing a 80% or 90% mortgage. The 30% in US and 40% in Australia with no mortgage are not directly influenced by house affordability.
If an economy allows 5-10% of mortgages to go into foreclosure, affordability is not relevant its how desperate banks are to foreclose. The banks are finally realizing that they have to stop foreclosures in depressed areas until new buyers can move in and purchase. The cost of owning can be very low if interest rates are low enough and can be financed over a 30 year period.

So for the UK either the average wage earner has to buy a much less than average home, or include a second income, or have saved a bigger down-payment or wait a few weeks for interest rates to drop or house prices will have to drop. That's a lot of maybe's

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elwoodelmore on November 1, 2008 - 7:35am

"The cost of owning can be very low if interest rates are low enough and can be financed over a 30 year period."

hold on just a minute there, dont you mean the monthly payment can be very low ?

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mcain6925 on October 31, 2008 - 10:41am

Anybody know what the avarage primary breadwinner's salary currently is?

Median would be a better measure than mean (average). Warren Buffett and Bill Gates and the rest of the top 1% really skew things. And usually spend far less than 2.5x on their house.

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mcain6925 on October 31, 2008 - 12:02pm

To follow up on my own comment... in 2006, the median US household income (all sources) was $48,000. 3x is a better estimate of how that should translate into median house price, as the people at the very bottom of the income distribution are probably never going to meet other criteria for a mortgage. Call it $144K for the "expected" median home price. Early in 2008, different sources put the median US house price in the range of $215-230K. In very round numbers, that would suggest house prices nationally needed to fall by a third. Unsurprisingly, this is close to the figure that most experts predict. Bigger declines in the bubble zones -- California, Nevada, Arizona, Florida -- than in other areas, of course.

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eastex on October 31, 2008 - 11:26am

Location, location, location...

In Detroit, the "average" bread winner just got a big downgrade!
Move, people, move!

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Earthworm Jim on October 31, 2008 - 4:02pm

That old bankers rule you mentioned doesn't make any sense to me because it doesn't include the interest rate at which the money is borrowed. Clearly one can afford a much more expensive house when the interest rate is 2% than when it's 20%.

The rule I learned was the 24/36 rule. No more than 24% of your income should go toward your house payment, and your total monthly debt payments shouldn't be over 36% of your income. So if the typical mortgage rate is 6.5% on a 30 year loan for example, and the average U.S. household income is $48,000, meaning they could afford a payment of $960 a month, then the average home price should be $165,000.

(I don't recall whether that 24% of monthly income was supposed to include property taxes though. if it does, that would reduce the theoretical average home value to something under $165,000)

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rainsong on November 1, 2008 - 7:07am

I bought my first home with cash when it was cheaper to buy with a mortgage than to rent. Over the years it rose in value. I bought my current home with cash when it was more expensive to buy with a mortgage (+ taxes and fees) than to rent, and it has fallen in value since my purchase. I gain positive cashflow as condo fees incl. utilities + prop. taxes are less than half local rents incl. utilities. People are behind on their condo fees and some units went into foreclosure erasing unpaid condo fee liens. The debtors will have bad credit ratings for seven years if they will not pay back. That will make it more difficult for them to stay out of the clutches of predatory lenders.

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orbit500 on November 1, 2008 - 8:28am

Wonder what the median wage in Edwardian Britain was - I don;t recall the average house being priced for the average wage ye someone owned all those houses.
I reckon it's analogous to the dividend on stock versus capital growth. Buying a house for the average man is going to be like stock on margin - the dividend won;t cover it without capital growth or inflation.

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Leanan on October 31, 2008 - 12:08pm

Plan to merge GM, Chrysler hits an impasse

NEW YORK/DETROIT - A deal to merge General Motors Corp and Chrysler LLC has hit an impasse after the Bush administration ruled out funding for it, three people with direct knowledge of the talks said.

Consumer sentiment takes steepest dive ever

NEW YORK - Consumer confidence suffered its steepest monthly drop on record in October, a survey showed on Friday, as the worst financial crisis in generations continued to take its toll.

The Reuters/University of Michigan Surveys of Consumers said its final reading of its index of confidence plunged to 57.6 in October from 70.3 in September.

...The report said there have previously only been four surveys that posted double-digit declines, "and all resulted from severe economic dislocations, with the losses accelerated by fear and panic."

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Ben on October 31, 2008 - 12:18pm

Apparently, they are nervous about pumping money into something that will result in thousands of lost jobs. (not before November 4, at least).

Such a merger likely would lead to 90,000 job losses at Chrysler and suppliers, according to a report released Thursday.

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Leanan on October 31, 2008 - 12:21pm

Yeah, I saw that. There may yet be a bailout after President McBama takes office.

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175 comments on DrumBeat: October 31, 2008

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“This order [i.e. capitalism] is now bound to the technical and economic conditions of machine production which today determine the lives of all the individuals who are born into this mechanism, not only those directly concerned with the economic acquisition, with irresistible force. Perhaps it will so determine them until the last ton of fossilized coal is burnt.”

—Max Weber, 1905