March, Thursday 22, 2012

DOW – 78 = 13,046
SPX – 10 = 1392
NAS – 12 = 3063
10 YR YLD -.02 = 2.28%
OIL +.16 = 105.51
GOLD – 5.20 = 1645.90
SILV -.58 = 31.69
PLAT – 17.00 = 1624.00

Do you remember hearing that there will be no more bailouts?

Well, it's not just a lone voice. The Dallas Federal Reserve has just issued its annual report and the title is “Choosing the Road to Prosperity. Why We must End Too Big to Fail – Now”. Ending bailouts is not a new idea, but we've never really heard it from one of the branches of the Fed. The letter also voices strong opposition to Dodd-Frank, but not for the reasons you might think; rather, that Dodd-Frank doesn't go far enough. Dallas Fed President Richard Fisher, generally known as one of the most hawkish and conservative Fed Presidents wrote the letter; I'll share some of the highlights:

Letter from the
President
If you are running one of the “too-big- to-fail” (TBTF) banks—alternatively known as “systemically important financial institutions,”—I doubt you are going to like what you read in this annual report.

Memory fades with the passage of time. Yet it is important to recall that it was in recognition of the precarious position in which the TBTF banks and SIFIs placed our economy in 2008 that the U.S. Congress passed into law the Dodd–Frank Wall Street Reform and Consumer Protection Act. While the act established a number of new macroprudential features to help promote financial stability, its overarching purpose, as stated unambiguously in its preamble, is ending TBTF.

However, Dodd–Frank does not eradicate TBTF. Indeed, it is our view at the Dallas Fed that it may actually perpetuate an already dangerous trend of increasing banking industry concentration. More than half of banking industry assets are on the books of just five institutions. The top 10 banks now account for 61 percent of commercial banking assets, substantially more than the 26 percent of only 20 years ago; their combined assets equate to half of our nation’s GDP. Further,  there are signs that Dodd–Frank’s complexity and opaqueness may even be working against the economic recovery. In addition to remaining a lingering threat to financial stability, these megabanks significantly hamper the Federal Reserve’s ability to properly conduct monetary policy.

They were a primary culprit in magnifying the financial crisis, and their presence continues to play an important role in prolonging our economic malaise. There are good reasons why this recovery has remained frustratingly slow compared with periods following previous recessions, and I believe it has very little to do with the Federal Reserve. Since the onset of the Great Recession, we have undertaken a number of initiatives— some orthodox, some not—to revive and kick-start the economy. As I like to say, we’ve filled the tank with plenty of cheap, high-octane gasoline. But as any mechanic can tell you, it takes more than just gas to propel a car.

The lackluster nature of the recovery is certainly the byproduct of the debt-infused boom that preceded the Great Recession, as is the excessive uncertainty surrounding the actions—or rather, inactions—of our fiscal authorities in Washington. But to borrow an analogy, if there is sludge on the crankshaft—in the form of losses and bad loans on the balance sheets of the TBTF banks—then the bank-capital linkage that greases the engine of monetary policy does not function properly to drive the real economy. No amount of liquidity provided by the Federal Reserve can change this.

Perhaps the most damaging effect of propagating TBTF is the erosion of faith in American capitalism. Diverse groups ranging from the Occupy Wall Street movement to the Tea Party argue that government-assisted bailouts of reckless financial institutions are sociologically and politically offensive. From an economic perspective, these bailouts are certainly harmful to the efficient workings of the market.

The TBTF institutions that amplified and prolonged the recent financial crisis remain a hindrance to full economic recovery and to the very ideal of American capitalism.

It is imperative that we end TBTF. In my view, downsizing the behemoths over time into institutions that can be prudently managed and regulated across borders is the appropriate policy response. Only then can the process of “creative destruction”— which America has perfected and practiced with such effectiveness that it led our country to unprecedented economic achievement— work its wonders in the financial sector, just as it does elsewhere in our economy. Only then will we have a financial system fit and proper for serving as the lubricant for an economy as dynamic as that of the United States.

Later in the report, there's a section titled:

“TBTF: A Perversion of Capitalism”

An unfortunate side effect of the government’s massive aid to TBTF banks has been an erosion of faith in American capitalism. Ordinary workers and consumers who might usually thank capitalism for their higher living standards have seen a perverse side of the system, where they see that normal rules of markets don’t apply to the rich, powerful and well-connected.

Here are some ways TBTF has violated basic tenets of a capitalist system:

Capitalism requires the freedom to succeed and the freedom to fail.
Hard work and good decisions should be rewarded. Perhaps more important, bad decisions should lead to failure—openly and publicly. Economist Allan Meltzer put it this way:“Capitalism without failure is like religion without sin.”

Capitalism requires government to enforce the rule of law. This requires maintaining a level playing field. The privatization of profits and socialization of losses is completely unacceptable. TBTF undermines equal treatment, reinforcing the perception of a system tilted in favor of the rich and powerful.

Capitalism requires businesses and individuals be held accountable for the consequences of their actions. Accountability is a key ingredient for maintaining public faith in the economic system. The perception—and the reality—is that virtually nobody has been punished or held accountable for their roles in the financial crisis.

The idea that some institutions are TBTF inexorably erodes the foundations of our market-based system of capitalism.

O.K., you guys have heard me talking about this for a long time. A couple of years ago, I wrote a book that talked about Too Big To Fail, and the need to break up the megabanks. And yes, “Eat the Bankers” is still available at Amazon.com, and yes, I think you should all read it. But I'm not the President of a Federal Reserve Bank. This letter from Fisher is rather unique. You can read this letter and the essay at dallasfed.org. Fisher doesn't get the same reverential treatment as Bernanke, but he is right. The Fed has to break up the big banks. Why? Because the Fed's credibility is on the line.

Joseph Stiglitz said: “Much has been written about the foolishness of the risks that the financial sector undertook, the devastation that its institutions have brought to the economy, and the fiscal deficits that have resulted. Too little has been written about the underlying moral deficit that has been exposed—a deficit that is larger, and harder to correct."

I think that really gets to the crux of the Too Big To Fail banks. We just can't trust them. You know you can't trust Goldman Sachs; if you turn your back they'll rip you off and call you a Muppet. Goldman Sachs can't even trust its own people;they've resorted to scanning all internal company emails to find when they are writing nasty and incriminating notes to one another. Scanning emails won't solve the problems at Goldman, nor will it solve the problems at Bank of America or Citi or AIG. The first thing is character. Trust is the bedrock of financial institutions.

At a speech in Cushing, Oklahoma today, President Obama pledged to expedite permitting for an Oklahoma-to-Texas oil pipeline that makes up the southern portion of the Keystone XL project.

He also issued a broader executive order demanding faster permitting and review decisions for energy and transportation-related infrastructure. Gasoline prices have jumped nearly 30 cents in the past month, pushing the national average to $3.87 a gallon.

Drill here, drill now; it may be a political cure-all but apparently it doesn't work. A statistical analysis of 36 years of monthly inflation-adjusted gasoline prices and U.S. domestic oil production by The Associated Press shows no statistical correlation between how much oil comes out of U.S. wells and the price at the pump.

If more domestic oil drilling worked as politicians say, you'd now be paying about $2 a gallon for gasoline. Instead, you're paying the highest prices ever for March.

Political rhetoric about the blame over gas prices and the power to change them -- whether Republican claims now or Democrats' allegations four years ago -- is not supported by cold, hard figures. And that's especially true about oil drilling in the U.S. More oil production in the United States does not mean consistently lower prices at the pump.

Sometimes prices increase as American drilling ramps up. That's what has happened in the past three years. Since February 2009, U.S. oil production has increased 15 percent when seasonally adjusted. Prices in those three years went from $2.07 per gallon to $3.58.

U.S. oil production is back to the same level it was in March 2003, when gas cost $2.10 per gallon when adjusted for inflation. But that's not what prices are now.

That's because oil is a global commodity and U.S. production has only a tiny influence on supply. Factors far beyond the control of a nation or a president dictate the price of gasoline.

When you put the inflation-adjusted price of gas on the same chart as U.S. oil production since 1976, the numbers sometimes go in the same direction, sometimes in opposite directions. If drilling for more oil meant lower prices, the lines on the chart would consistently go in opposite directions. A statistical measure of correlation found no link between the two, and outside statistical experts confirmed those calculations.

Merill Lynch put out a research note this morning: Home price forecast update which says: “We have ... updated our home price model and believe that prices are bottoming now. However, we continue to believe the recovery will not begin in earnest until 2014. ... we expect roughly flat home prices this year and next with modest growth in 2014.”

Merrill had expected a further decline, but now they expect prices to be mostly flat for the next two years. All righty, we'll file that one under “Bold Forecasts”.

Applications for weekly unemployment benefits set a new four-year low. Initial claims fell by 5,000 to a seasonally adjusted 348,000, the lowest level since February 2008. The level of claims is an indicator of whether layoffs are rising or falling.

The Conference Board reported that its index of leading economic indicators grew 0.7% in February, led by improving jobless claims, so the idea is that economic progress may continue through the summer and possibly beyond.

According to the projections of the Congressional Budget Office, Representative Paul Ryan's newly re-proposed budget would shrink the category of defense and non-defense discretionary spending, plus non-health entitlements to 3.75 percent of GDP by 2050.

Since Representative Ryan has said that he wants to keep military spending near its current level of 4.0 percent of GDP, this would leave no money to pay for the Justice Department, the Food and Drug Administration, Education, the National Institutes of Health or anything else that the government does.

Some things just don't really add up. The Ohio Art Company, is a small, Over-the-counter stock; it is usually illiquid. Today it was up 141%, a gain of +5.65 to close at $9.65. Ohio Art makes Etch-a-Sketch.