Tuesday, July 29, 2008

US Economic Crisis Bulletin: Trade Talks Falter; Record Deficit; IMF Sees No End in Sight, etc.

Global Trade Talks Falter

Wall Street Journal
July 29, 2008 4:34 p.m.

GENEVA -- World trade talks collapsed Tuesday after the U.S., China and India failed to agree on the Asian countries' right to impose emergency tariffs to protect their farmers.

The nine-day meeting, the longest trade summit diplomats in Geneva could recall, aimed at concluding a simple bargain: The European Union and U.S. would lower farm subsidies and tariffs in exchange for China, India, Brazil and other emerging economies opening up their markets for industrial goods like chemicals and cars.

Trade experts said the failure of the talks after seven years of previous negotiations was a sign of huge changes in the global economy since the Doha Round was launched in 2001. Since then countries such as China, India and Brazil have emerged as trading powerhouses.

The talks between the 30-some countries almost collapsed last week, but a midnight handshake on Friday between Brazil and the U.S. kept them going over the weekend. The U.S. agreed to cap its trade-distorting farm subsidies at $14.5 billion and Brazil accepted cuts in its industrial tariffs.

Over the weekend, however, two developing country camps then redoubled their opposition. India's trade and commerce minister, Kamal Nath, and then Chinese diplomats, refused to compromise with the U.S.

In particular, they demanded a rule that would allow them to impose special tariffs if imports surged in certain products like sugar, cotton and rice.

"I'm not risking the livelihood of millions of farmers," Mr. Nath told reporters. The U.S. was asking a price "as high as heaven," a Chinese official complained.

The U.S. hadn't expected such strong opposition over this so-called safeguard clause, which would hurt farmers all over the world, U.S. officials said. U.S. Trade Representative Susan Schwab refused to budge.

"We were so close to reaching a deal on Friday night," an exhausted Ms. Schwab told reporters after emerging from the final meeting late Tuesday afternoon.

Although more countries were present, most of the negotiations took place within a small group of economic powers: the EU, U.S., Australia, Japan, China, India and Brazil.

The future of the Doha Round now is unclear. Technically, it still is alive, WTO officials stressed. The U.S. remains committed to its completion, Ms. Schwab said. The Doha Round was launched with the goal of lifting people out of poverty by cracking open Western food markets.

Others were more circumspect. EU Trade Commissioner Peter Mandelson said Monday that a failure this week would be amount to a "burial" for the trade round.

Trade experts cautioned that the round's constant failures-- this was its eighth summit -- might have spelled the end of big multinational trade deals.

"Previous trade rounds picked the low-hanging fruit," says William J. Bernstein, author of A Splendid Exchange: How Trade Shaped the World. "So we may have reached the end of the line for trade deals."

Write to John W. Miller at john.miller@dowjones.com8
URL for this article:

Record deficit of $482bn forecast for 2009

By James Politi in Washington
July 29 2008 01:51

The US budget deficit will widen to a nominal record of $482bn next year, as a slumping economy takes a further toll on the federal government’s fiscal position, the White House projected on Monday.

Driven by dwindling tax receipts caused by the economic downturn and the payment of more than $100bn (£50bn) in stimulus cheques to US consumers, the figure was higher than the Bush administration’s previous estimate of a $407bn gap for the 2009 fiscal year starting in October.

However, the White House lowered its estimate for the budget deficit in the current year from $410bn to $389bn. In 2007, the US budget deficit was nearly half that size, at $162bn.

Democrats in Congress on Monday seized on the projection as further evidence the Bush administration’s economic legacy would be marked by its inability to preserve the budget surplus it inherited in 2001.

“What happened? I thought we could cut taxes, pay for the war, and balance the budget. Today it has become even more clear that Democrats are the party of fiscal responsibility,” said Chuck Schumer, New York senator and chairman of the joint economic committee.

If the budget deficit grows as expected, it would exceed a record of $413bn set in 2004. As a percentage of gross domestic product however, the 2009 projection implies a ratio of 3.3 per cent, still below levels experienced both in 2004 and in some earlier years.

Jim Nussle, White House budget director, said the administration was “not happy” with the deficit, but added: “These projected deficits are both manageable and temporary if spending is kept in check, the tax burden remains low and the economy continues to grow.” The administration is still expecting the US to be in a position to post a budget surplus by 2012.

The White House also lowered its forecast for economic growth to 1.6 per cent this year, from a projected 2.7 per cent last November. In 2009, the Bush administration is expecting the US economy to grow by 2.2 per cent, compared with its previous forecast of 3 per cent.

The White House’s budget calculations do not include the possibility the government might have to intervene with a large capital injection to shore up Fannie Mae and Freddie Mac, the troubled mortgage companies.

The Congressional Budget Office last week said there was less than a 50 per cent chance the Treasury would have to use new authorities it wants from Congress to invest in Fannie and Freddie, but also said there was a 5 per cent chance this could cost the government $100bn.

Copyright The Financial Times Limited 2008

IMF sees no end in sight to credit crisis

By Krishna Guha in Washington
July 28 2008 15:45

Global financial markets are “fragile” and indicators of systemic risk remain “elevated” almost a year into the credit crisis, the International Monetary Fund said on Monday.

The fund warned credit growth in the US could fall further as a result of ongoing financial system stress and warned that emerging markets would be tested as global financing conditions tighten and policymakers grapple with rising inflation.

The IMF also noted that house prices had softened in a number of European economies including the UK, raising the possibility of further problems in those markets.

The assessment came in the July update to the Global Financial Stability Report, led by former Bank of Spain governor Jaime Caruana.

The IMF said that while likely losses on US subprime mortgages have “largely been acknowledged” in the form of writedowns, financial institutions faced a second wave of losses on other loans.

Credit quality “across many loan classes has begun to deteriorate with declining house prices and slowing economic growth.”

The Fund said bank balance sheets were under “renewed stress” and that the decline in bank share prices had made it more difficult for them to raise new capital.

This “increased the likelihood of a negative interaction between banking system adjustment and the real economy.”

With mounting inflationary pressure, the Fund added: “Policy trade-offs between inflation, growth and financial stability are becoming increasingly important.”

The IMF reaffirmed its controversial earlier estimate that total losses in this cycle could total $945bn – a number that combines mark-to-market losses on subprime-related securities and estimates of likely losses on loans.

Relative to April, when the Fund published its last GFSR, it said “systemic strains in funding markets continue” and the “low level of risk appetite remains unchanged.”

Interbank lending rates “remain elevated” while “long term funding costs have risen” for financial institutions.

The IMF said financial institutions globally have written off about $400bn since the crisis began last August, and that while they had raised substantial amounts of capital, the losses “exceeded capital raised.”

Banks also faced problems maintaining their earnings, weakening stock prices, and making it more difficult to raise further capital.

The Fund said that policy interventions – mostly by the US Treasury and the Federal Reserve – had so far succeeded in containing systemic risk.

But it said the “nature of resolution strategies and the extent of support have come into sharper focus” in recent months – a polite way of saying that the authorities in the US in particular have had to intervene further to preserve financial stability.

It in effect endorsed the need for the US to shore up Fannie Mae and Freddie Mac in the short term – saying their failure would have systemic consequences – but said “the policy challenge now is to find a clear and permanent solution” for the troubled government-sponsored mortgage groups.

The US Treasury has tried to deal with the immediate threat to Fannie and Freddie, while postponing discussion of their long term futures to a later date.

US credit crunch set to last for months

By Krishna Guha in Minneapolis
July 27 2008 19:41

The credit squeeze in the US economy is likely to persist for many months and might even get worse, Gary Stern, president of the Federal Reserve Bank of Minneapolis, has told the Financial Times.

He said that with interest rates at 2 per cent the Fed was well-placed to cope with any negative surprises on growth. By contrast, he said, it was not as well positioned to deal with any negative surprises on inflation.

Even without any such surprises, the Minneapolis Fed chief also said real interest rates were at levels that, if sustained for too long, would not be compatible with medium-term price ­stability.

Either inflation expectations would have to decline, or the Fed would have to raise interest rates, or both, in order to achieve the required tightening in real rates. However, Mr Stern emphasised the need for the Fed to balance unease about the low level of real interest rates with risks to growth.

There was no suggestion that he thought the central bank should start raising interest rates in the very near future, in the absence of a further negative surprise on inflation.

Mr Stern, the longest serving member of the FOMC, said: “I don’t think the headwinds have diminished. In fact if anything I think they are picking up a little steam.”

He said the economy was set for a protracted period of weakness similar to that of the early 1990s. Growth “over the next several quarters is unlikely to depart significantly on average from the average of the three previous quarters” – roughly 1.5 per cent.

Yet while the fading of the fiscal stimulus could result in a short-term setback to growth, the underlying rate of consumer spending was likely to be resilient, he said.

“I think we are reasonably well placed for some disappointments in the next two or three quarters in terms of growth, because in some sense we have addressed that through policy,” Mr Stern said. “In my own mind it is a little bit more of an open question on inflation.”

The inflation risk could be broken down into two components. First, there was the risk that high rates of headline inflation, driven up by oil and food prices, could become embedded in inflation expectations.

Second, there was the danger that the current level of real interest rates, if sustained for too long, would not be compatible with medium-term price stability.

“Headline inflation is rapid, too rapid,” he said. However, core inflation and inflation expectations were “better behaved”. He said he thought inflation expectations were “reasonably well anchored” and was “modestly confident” that they would stay that way.

He admitted that he was uneasy about keeping real rates so low at a time of high headline inflation. “It does concern me. There is no question about it. All I can say is that it is a challenging policy environment.”

Mr Stern said he would be “quite encouraged” if oil – which has fallen roughly $20 from its peak – stabilised, as that would over time result in headline inflation easing back towards the lower core rate. “Would I be satisfied?” he said. “That is another question.”

Inflation expectations were probably “at least half a percentage point above” the current Fed funds rate of 2 per cent, he said, suggesting that the real interest rate was minus 0.5 per cent.

Taking into account the financial headwinds, the effective real rate was “zero or not much above zero”.

“For price stability purposes – which, by the way, means in the long run for the achievement of both parts of the dual mandate – real rates need to be above that. So for that to occur, either the rates need to go up at some point and/or inflation expectations need to decline.”

Mr Stern said his assessment of the outlook was not “materially different” from his evaluation at the time of the last Fed policy meeting on June 30.

He said there had not been a significant increase in the the tail risks of a very bad economic outcome that he continued to believe were “still with us” but “diminished relative to March”.

He thought there was an “adequate” level of slack in the economy, such that if growth turned out to be stronger than expected it would not immediately result in overheating.

US credit crisis is hitting the wealthy

By Francesco Guerrera and Saskia Scholtes in New York
July 28 2008 19:36

The US financial crisis is spreading from subprime borrowers to wealthier consumers, with evidence mounting that more affluent people are failing to pay their mortgages and credit card balances.

Growing concerns over the financial health of richer borrowers are prompting banks and card issuers to tighten lending practices in moves that could futher dampen consumer confidence and spending more.

Banks such as JPMorgan Chase and credit card groups such as American Express have clamped down on lending to customers that have traditionally been regarded among the safest and most profitable borrowers.

“The crisis is just starting to spread beyond the middle class,” said Curtis Arnold, founder of CardRatings.com.

“Even folks with good credit-ratings scores are no longer immune from adverse actions from their card issuers.”

Senior bankers say that after the subprime debacle, the worsening outlook of “prime” portfolios shows the crisis is far from over and could inflict substantial losses on financial institutions.

The spreading of the credit crunch to wealthier consumers could hit financial groups, such as JPMorgan and American Express, which have so far avoided the worst of the crisis because of their relatively low exposure to subprime customers. Second-quarter results from financial companies showed rising losses on mortgages and credit cards issued to prime customers as soaring gas prices, the slowing economy and depressed house values took their toll.

Jamie Dimon, JPMorgan’s chairman and chief executive, recently told Wall Street analysts that the outlook for prime mortgages was “terrible” and the rate of delinquencies could double or treble from current levels of about 4 per cent.

JPMorgan suffered a $104m loss on its $47bn worth of prime mortgages in the second quarter, more than double its first-quarter loss, and warned that losses on prime mortgages could reach up to $300m a quarter next year.

JPMorgan has already tightened lending standards for prime borrowers – reducing the size and the volume of these mortgages – especially in areas, such as California, where home prices have been falling sharply.

At American Express, which has traditionally focused on high-spending consumers, second-quarter earnings were down 37 per cent year-over-year. Kenneth Chenault, chairman and chief executive, said the company’s most affluent card-holders were feeling the pinch.

“The scope of the economic fall-out was evident even among our longer-term, superprime card members,” he said.

American Express and other card issuers are responding to this deterioration by cutting back on credit lines, and scaling back on new card issuance in the most vulnerable areas.

Bush urged to act now to save homes

By Stephanie Kirchgaessner
July 28 2008 03:00

Democrats have called on the White House to quickly enact the housing legislation passed by the US Senate over the weekend.

The call came after an administration official signalled that it could take as long as a year to implement regulations meant to help some 400,000 homeowners facing possible foreclosures.

Christopher Dodd, the Democratic chairman of the Senate banking committee, called for a meeting on Tuesday with Hank Paulson, the Treasury secretary, the Federal Reserve board and the heads of the Federal Deposit Insurance Corporation and the department of Housing and Urban Development, to ensure the bill is quickly enacted. “The idea that HUD is just sort of getting together talking about possibly a year before we’d offer any relief for homeowners is totally unacceptable,” Mr Dodd said.

President George W. Bush is expected to sign the housing legislation into law early this week after it passed the Senate by a 72-13 majority in a rare Saturday vote.

The legislation, which Mr Dodd called “the most important piece of housing legislation in a generation” includes provisions to prop up the government-sponsored mortgage companies Fannie Mae and Freddie Mac – giving the Treasury the power, if necessary, to inject capital into them – and creates a new regulator for the troubled lenders.

The bill will allow the government to guarantee up to $300bn in mortgages refinanced at more affordable rates through the Federal Housing Administration, the housing insurer for low income Americans.

However, some critics say that the refinancing plan might falter if lenders decide not to participate and the eligibility criteria for borrowers is too strict.

No comments: