Archive for Economic Views
Lessons Learned From Iceland
Posted by: | CommentsGreetings from New Mexico….
Check out the latest from my friend Brandon Saylor ………
Officially, the Great Recession started in December 2007. There is a lot of blame to go around for the causes that precipitated the Greatest Recession. Some of the responsibility goes to the politicians. Politicians and the banks sought deregulation of the banking and investment banking industries. In 1999, the Glass-Steagall Act was repealed with bankers and politicians believing that they were too smart to outwit another depression. They got their wish after deregulation and absolutely neglected the lessons from the Great Depression.
Maybe it was the toxic paradigm that home prices would never go down and persist upward eternally. Easy credit caused increased speculation and people began buying several houses or houses they could not afford. Mortgage companies had relaxed lending standards and were therefore unconcerned with the credit worthiness of the buyers because most sold their mortgages in the secondary market.
Maybe it was the rating companies Moody’s, Standard and Poor’s and Fitch. Their job was to properly rate securities relative to risk. They stamped the highest and most secure AAA rating on toxic mortgage backed securities assets on which mortgage insurance had been purchased from AAA rated Insurance Companies.
It is clear multiple culprits were responsible. By the fall of 2008 it became evident there were formidable troubles as housing prices continued to fall and more and more people who now owed more against their homes than those homes were worth. Defaults and foreclosures were rising well beyond what the models had predicted, and it was way beyond the worst case scenario. This economic freefall sent shockwaves across the globe. No country was immune to the destruction. Banks started to have severe capital and liquidity problems as home prices fell and their mortgage backed securities dramatically sank in value. The banks were in jeopardy of running out of money.
Countries across the globe took different measures to address the credit crunch. Most resorted to bail outs and to this day many countries are still dealing with the repercussions. Between TARP (Troubled Asset Relief Program), bank bailouts, auto bailouts and 3 stimulus packages the total price tag for the United States reached $1.4 trillion (that we know about). Much of this money will never be recouped. Not to mention the $1.4 trillion investment yielded an agonizingly sluggish recovery with unemployment still years later of 14.9% (U6), trillions of dollars in debt, a credit rating downgrade of US Treasury Debt (first time in history) and a projected GDP for 2012 of an anemic 2%.
What should the United States government have done differently? We were told the bailouts were the only option to prevent a worldwide 1929 style depression. Iceland took a different approach. Just like the United States in the early to mid 2000s, Iceland benefited from nearly a decade of robust economic growth. The country’s three largest banks Glitnir, Kaupthing and Landsbanki went broke within weeks of each other after the collapse of Lehman Brothers and Bear Stearns.
What set the Icelandic government apart from most governments in the world is they declared that the government would only rescue domestic bank account holders. They were not going to save the banks or any other industry. The free market would correct itself. And, instead of attempting to prop up its currency, Iceland let the value of the Krona devalue. It also enforced capital controls to thwart money from leaving the country.
Make no mistake this was an audacious effort for the Icelandic government. Iceland still took a beating. From the peak in the third quarter of 2007 to the low in the second quarter of 2010, the economy contracted by 14.3%. The decrease in the value of the Krona slingshoted inflation up to 19%. Slicing real wages through inflation meant that unemployment rate climaxed at 7.6% in 2010 lower than any of the peripheral European countries, and even the United States. The collapse of the banks demolished domestic stock markets. On August 17 2007 the stock market peaked at 8,238. By March 13 2009 just over 18 months later it grasped a low of 379.93 a plunge of more than 95%. Prime Minister Geir Haarde asked for God’s support. Protesters packed the streets in retribution for not bailing out the banks. Years later Geir Haarde is currently facing charges and may possibly be jailed if found guilty of “gross negligence in failing to prepare for the impending disaster.” He is rejecting the allegations. His fate will be determined later this year.
This economic freefall sounds excruciating and I am sure if you ask any local residents they would agree. But once Iceland hit bottom the markets began to change and rather quickly. GDP expand on average rate of 6.9% since the second quarter of 2010. Three years later, the unemployment rate has fallen considerably. Tourism has improved by leaps and bounds. The government lucratively raised money from investors in the summer of 2011 for the first time since the disaster.
Arguably just as important, the result of not bailing out the banks has destined the debt to GDP levels peaked at a high but acceptable level of 100% of GDP, and are projected to recede. By contrast, the United States and many other European counties are facing higher than 100% GDP ratios because of the colossal money spent on bailouts. The Greek bailout deal is hoping to achieve a debt to GDP ratio of 120% by 2020 and that’s the best case scenario. Right now the debt/GDP ratio of Greece is 166%.
The lessons learned from Iceland are incredibly powerful and simple. In the heat of the moment I believe decision makers want to believe that fiscal measures will cure the problem because there is nothing else they can do. The consequences of such actions are evident. Bailouts do not work. They only prolong the original problems and never solve the core issue. Iceland’s economic course was risky, yet I am sure in hindsight they were glad to let the banks fail. In future economic downturns governments should focus on saving depositors only not other bank creditors, insurance companies and whole industries. Iceland’s experience suggests that devaluation and capital controls may be the least painful solution to an economic contraction. Compare Iceland’s troubles to what happened to other countries and you will realize that things could have been much worse for Iceland particularly given the absolute scale of its banking bubble. Iceland represents a tiny fraction of the size and impact of the American Economy and the US Dollar in the world’s reserve currency. But there are some parallels that are worth noting when the intellectual arguments of bail outs and the moral hazard associated with government sponsored bailouts are considered.
Have a great weekend!
Brandon Saylor
-Associate
The Führer Principle – Brandon Saylor
Posted by: | CommentsGreetings from Albuquerque, NM….
Below is an article from my friend Brandon…..again. He writes such great stuff….that….for obvious reason….I like to post it! Enjoy…until next time….rob
The Führer Principle
In grade school, I remember asking myself how could the German people elect someone as evil as Adolf Hitler. How could they allow such a monster to become supreme chancellor? Understanding how it happened is very important, mainly so it does not happened again. The significance of this newsletter will only make sense by looking through the lens of today’s events. Many of the main ingredients that led to the Nazi take over are present today. Recognizing the circumstances is the solution to history not repeating itself.
The beginning of the end for the Weimar Republic began with the Treaty of Versailles in 1919. For the German people, the treaty was humiliating. The treaty placed heavy restrictions on Germany much of which were embarrassing for the once proud nation. The German army was reduced to one hundred thousand solders and arms for citizens became non-existent. The initial German economic fatalities due to the treaty were shocking. Germany’s territories vanished overnight. Germany lost approximately 13.5% of its total land mass, 13% of its industrial productivity, and more than 10% of its population. Additionally, the loss of important mining regions such as the Saar and Upper Silesia resulted in a loss of some 74% of iron ore and approximately 25% of its coal reserves. Historians and economists have long deliberated the real effects of the treaty but one thing is for certain it lead to “deprivations that shattered their faith in the democratic process and left them cynical and alienated.” –G.A. Craig
Germany’s economic situation never improved. To keep up with the stringent demands of the treaty, the Weimar Republic faced hyperinflation never seen before in history. The German Mark ratio to the U.S. dollar was 4 to 1 near the end of the WWI. It was 8 to 1 in 1919, 250 to 1 in 1921, and 2000 to 1 in 1923. The Weimar government, at various times, faced food shortages, massive unemployment, and an unprecedented economic depression. By 1932, some 6 million Germans were unemployed. Millions of them were homeless living on the streets relying on soup kitchens and charity organizations. “Men standing hopelessly on street corners of every industrial town in Germany; houses without food or warmth; young people without the chance of a job. All these things explain the bitterness which burned in the minds of millions of ordinary Germans.”
The escalation of political violence in Weimar Germany must certainly be factored in as a contributory reason for the country’s political volatility. Beginning with the emergence of the Freikorps, which later became the brutal SS, formed units immediately after the declaration of the Republic. The tendency toward violence became entrenched in Weimar politics after the 1919 assassinations of Karl Liebknecht and Rosa Luxemburg. Large protests and riots became an all too familiar sight for the citizens of Germany.
Among the widespread disarray and frustration, the basic notion of a government was being questioned. What type of government could lead and govern the will of the people? This ongoing debate became known as the Führer Principle. The Führer Principle is established on the acknowledgment that the true will of the people cannot be revealed through plebiscites but that the will of the people in its natural and virtuous state can only be articulated through the Führer. Therefore, a difference must be drawn between the theoretical will of the people in a parliamentary democracy, which simply echoes the discord of diverse social perspectives, and the true will of the people in the Führer-state. Hitler took the Führer Principle and redefined it as himself…he was the Führer. Redefining the Führer was nothing short of audacious. It was captivating and alluring to many who were famished for change.
Many of the governing members in the Reichstag (congress) struggled to tame and communicate effectively to the youth of Germany. The Reichstag members continually doubted the youth’s ability to recognize a just government. Keep in mind most of Germany’s youth grew up in this chaotic state. Their view towards the government was distorted to say the least. The Weimar Republic only lasted 14 years but before that Germany spent the last 5 years in battle. A huge cohort of individuals only knew suffering and turmoil. Disconnect between the defenders of the former Kaiser rule and much more progressive governments were mounting daily. During the short lived Weimar Republic, Communism, Socialism, and a whirl of leaders/dictators were fighting for control.
Hitler knew very well that the youth’s mind were especially susceptible. This is exactly why he began with them. In the beginning, his messages were engineered for the youth. He knew the youth would be prone to messages of change and optimism. Joseph Goebbels (Hitler’s Minister of Propaganda) used propaganda methods to manipulate the masses. It was this desolate desire for change that gave Hitler his power.
The straw that broke the camels back for the Weimar Republic was the American Great Depression. The stock market crash of 1929 sent shock waves across Europe. The crash knocked Germany into the gallows. It was Hitler’s time to move. On September 14th, 1930, the Reichstag elections were held. The results were shocking. The Nazis had entered the register as the ninth and smallest of Germany’s political parties. The German people voted. The Nazis controlled 107 seats after that election. In November 1932, Hitler was defeated in the presidential election to WWI veteran Paul von Hindenburg. He received 42% of the votes. Hitler decided to enter a coalition government as chancellor in January 1933. Upon the death of Hindenburg in August 1934, Hitler become successor by popular vote.
Today, we are suffering the ongoing effects of the worst recession since the Great Depression. We are facing a global economic contraction. Greece is on the verge of insolvency and the US is limping along. Worldwide riots and protests have plagued the streets invoking for revolution. Frustration levels are swelling. This is the formula for calamity. However, it begins with the youth. Vladimir Lenin famously referred to youth uprisings as “useful idiots”. With the exception of the American Revolution, most revolutions in history conclude with a radical party seizing opportunity out of the political madness. People such as Hitler, Mao, and Lenin took advantage of a chaotic situation. I do not foresee a Weimar revolution of this magnitude anytime in the near future. Nevertheless, if we are not careful and mindful of the situation it becomes an unquestionable possibility. Education and knowledge of the truth is the only thing that will prevent history from repeating itself.
Have a great weekend my friends!
Brandon Saylor
-Associate
Manufacturers Rally – Bob Bach
Posted by: | CommentsGreetings!
Below is a post from Bob Bach……I hope you enjoy…..rob
Manufacturers Rally
Analysts shuddered two months ago when the monthly Business Outlook Survey from the Philadelphia Federal Reserve plummeted unexpectedly, signaling a worrisome slowdown for manufacturers in the region. Although it covers only a corner of the U.S. – eastern Pennsylvania, southern New Jersey and Delaware – the survey provides an early clue to the more widely followed manufacturing index from the Institute for Supply Management. The dismal August reading from the Philly Fed raised fears that the economy was sliding into recession.
But the manufacturing sector is expanding again according to the October survey, released yesterday. The survey asks manufacturers a list of questions with three possible answers – increase, decrease and no change – and calculates a diffusion index for each question, which is the difference between the percentage of respondents citing an increase and those citing a decrease. The index rose from minus 17.5 in September to 8.7 in October, the largest one-month gain since the early 1980s. The index measuring activity levels expected in six months increased to its highest reading since April before the economy began to slow. The survey doesn’t point to robust growth ahead, but it is consistent with Grubb & Ellis research showing sustained demand for industrial space over the past two quarters and this quarter as well. Together with other recent indicators such as retail sales and weekly jobless claims, the Philly Fed survey suggests that the economy is fighting off a near-term recession.
Have a great weekend.
Best regards,
BobRobert Bach
SVP, Chief Economist
Grubb & Ellis
312.698.6754
