James Pethokoukis

Already, the crazy ideas are returning, such as mortgage cramdowns. But more could be on the way in 2010, says the great Dan Clifton of Strategas (bank bonus tax, American version?):

We are entering a period where bank profits are increasing but lending is declining. Bonus season is on the horizon while job growth remains negative. And bank lobbying on financial regulation is increasing while politician’s approval ratings are declining. Adding even more fuel is that with government spending up and tax revenues lagging, sovereign fiscal issues are rising to the top of policy matrix.

Here is how economic analyst  Ed Yardeni sees things:

Could the S&P 500 rise back to its record high next year? I was in Boston on Tuesday, and met with the first money manager on Planet Earth to ask me this question. That is definitely a contrarian’s scenario. I am currently predicting a 2010 high between 1300-1350, and more specifically 1332 by March 6, which would be up 100% on a y/y basis, from the Da Vinci Code bottom of 666. Then I see a nasty correction on growing concerns that the expiration of the Bush tax cuts might depress the economy in 2011. That selloff could last until the November Congressional elections. If Gridlock wins, with the Democrats losing their majority control of one or both houses of Congress, then stocks might resume the bull market.

The insightful Andy Busch of BMO Capital Markets eyes it:

Here’s the ironic duality of the government spending creating jobs and massive deficits: it creates a small amount of short term jobs that steal a larger amount of long term jobs. Deficits are like weeds, when they are small they’re not a problem. When they get large, they block out the growth of what we want. It’s part of the reason why we have a conundrum of low interest rates while the deficit continues to expand. The markets are buying Treasurys because the prospects for strong growth are low and get further reduced with every new public sector spending initiative that adds to the deficit.

Let’s see if President Obama can morph himself away from FDR towards another presidential acronym: JFK. Like the 1960′s, it would be great to see corporate and individual tax cuts accompanied by a strong US dollar policy by the Federal Reserve to bring in foreign direct investment. Unfortunately, it will most likely take a year of sub-optimal growth to get the political momentum moving in this direction. It’s where economic policy needs to go to create sustainable growth.

The November jobs report may not be the only piece of good statistical news on the way. Wait until all those census workers start making their way into the data. But a drill down reveals deep, deep problems in the US labor market where unemployment averaged just 5.5 percent from 1989 through 2008:

1. Add in long-term discouraged workers and the unemployment rate is 22 percent. (via Shadow Government Statistics)

2. The ISM non-manufacturing employment index in November pointed to a 192,000 drop in service sector jobs vs. the increase of 58,000 the Labor Department reported. (via David Rosenberg of Gluskin Sheff)

3. On a rolling 12 month basis, individual taxes withheld have dropped by nearly percent, from $1.42 trillion to $1.31 trillion. (via  Zero hedge)

4. If not for discouraged workers leaving the workforce, the unemployment rate would have only ticked down to 10.1 percent. And that is after a surge to 10.2 percent in October from 9.8 percent in September. Sounds like a bit of reversion to the mean.

5. Single month dips are common. The unemployment rate bottomed at 3.8 percent in April 2000 and peaked at 6.3% in June 2003. During that time, the jobless rate fell five times. In the early 1990s unemployment cycle, the unemployment rate actually fell no fewer than six times. Just last July, the rate dipped by a tenth of a percent. (via David Rosenberg of Gluskin Sheff.)

6. The JOLTS survey showed that job openings fell back by 80,000 in October and new hires plunged 95,000. (via David Rosenberg of Gluskin Sheff.)

7. Both the median and average duration of unemployment hit record highs.

8. The annual survey from the ISM found that just 32% of manufacturers intend to boost their staff requirements in 2010 and a mere 15% of non-manufacturers intend to do so (vai David Rosenberg of Gluskin Sheff)

9. The Business Roundtable survey showed just 19 percent of companies intend to boost employment.

10. Payroll processor ADP, America’s largest processor of payroll information, publishes an independent survey of employment based on its own data reported a loss of 169,000 jobs. Asblogger and bond guru David Goldman notes, the correlation between the ADP and BLS is 95 percent, so the discrepency “lies at the extreme range of error for the two series.”

11. According to the Conference Board’s monthly survey of consumer confidence. those “claiming jobs are ‘hard to get’ increased to 49.8% from 49.4%, while those claiming jobs are ‘plentiful’ decreased to 3.2% from 3.5%.”

12. It is tough to top Goldman’s analysis:

The level of un- and underemployment is so huge by historical standards as to make the usual sort of measurement questionable. With nearly 20% of the population unable to find proper work, there is a different sort of workforce. The vast majority of job creation in the US during the past two generations came from small businesses, which display only vaguely on the radar of government agencies as well as the bigger private surveys. The financial crisis killed small entrepreneurs as surely as Joseph Stalin killed the kulaks, and the roots of the economy are dead and dry.

It ain’t so hot, says David Rosenberg of Gluskin Sheff:

Things are so good in the U.S.A. that President Obama’s approval rating just sank to a new low for any president at this post-election juncture and Treasury Secretary Geithner is now seeking to have the $700 billion TARP extended to October. In fact, Obama wants to tap $200 billion from the program to fund a jobs initiative — let’s hope it turns out to be more effective than the last package that was supposed to cap the unemployment rate at 8%. It is rather amazing that here we are, 30 months after the onset of the credit crunch, and we see this as a headline on the front page of the FT: Obama to Boost Jobs With Bank Rescue Cash.

Arnold Kling sums things up perfectly:

I believe that America’s health care system should be reformed. Medicare is unsustainable. Employer-provided health insurance should never have been instituted in the first place, and it is becoming more dysfunctional every year. I would like to deal with the structural issues that bias our system in favor of specialists, fragmented care, and credentialism. Americans need to learn how to make reasonable judgments about medical procedures that have high costs and low benefits.

None of these problems is addressed by the bills in Congress. This year’s health care debate is proof that top-down reform is not going to work. The more the system is politicized, the less likely it is that it will change. The only direction for reform is market-oriented policy that by today’s standards seems radical and unacceptable. In contrast, the politicians are struggling mightily to do what amounts to minor tinkering and tampering.

Mike Darda of MKM Partners gives it his best shot:

If there were ever a crowded trade, long gold and shor the dollar certainly fits the bill (no pun intended). Indeed, zero percent short rates and huge deficits as far as the eye can see have been important tailwinds for the yellow metal. And they remain in place. However, gold appears expensive relative to industrial commodities and has risen much more than bond market inflation expectations or the money stock over the course of the last year (the monetary base has exploded higher, but M2 growth has been more modest).

If the U.S. recovery is stronger than expected and the labor market turns in a material fashion, gold could begin to underperform industrial commodities and the dollar may catch a bid, at least against G7 currencies. The tight inverse correlation between the dollar and the stock market observed over the last 17 months may unhitch under such a scenario, as the long-term correlation between the DXY Index and the S&P 500 is zero. While a sustained gold correction may appear to be a low-probability event, if the 2008-2009 experience has taught us anything, it is to question the conventional wisdom in a repeated and rigorous fashion.

Keith Hennessey:

This looks like a smaller version of the original stimulus law.  Its origins are more political and fulfilling a legislative need, than policy-driven. I’m OK with the UI extension and extending the health insurance subsidy, although I wish both were better designed. I generally support tax relief, but I am concerned the targeted capital gains reduction will give some cover to let the broader capital tax rates jump at the end of 2010.  That would be very bad. The spending programs will have little near-term GDP effect, and so should be evaluated in how they meet other policy goals.  They’re largely ineffective as immediate stimulus, because government spending is slow. The $250 check to seniors was pandering the first time Congress passed it (on a broadly bipartisan vote).  It’s still pandering.  Why are seniors more deserving of aid than, say, a low-income working family? The “using TARP dollars to help Main Street” is a transparent gimmick.  If you’re going to increase the deficit, it’s better just to stand up and say the deficit increase is worth the short-term economic benefit you think will result from the other policies. I suggest they do a targeted bill that contains only the UI and COBRA provisions, because I think the large deficit impact of the other provisions, relative to their small macroeconomic benefit, isn’t worth it.

Larry Kudlow has a strange but oh-so wonderful thought:

The president’s jobs proposal includes a zero capital-gains tax-rate for small-business investors, and full cash-expensing for small-business investment in plant and equipment. These are potentially powerful incentives for the job-creating small-biz sector. They may only last for a year or so, depending on the mark-up. But they are good things in and of themselves, and they suggest that Obama is aware of incentive effects on economic growth.

Sure, the new spending is all wrong. That won’t create jobs, and will only bloat the deficit. But Obama’s language was on the supply-side, even in addition to the tax-cut proposals. He said growth will bring in revenues to cut deficits.

And there’s more. CNBC is reporting that the administration will dedicate $175 billion of TARP money to deficit reduction. This will leave about $140 billion of unused TARP money for spending — or for incentive tax cuts.

Now just think what would happen if a zero capital-gains tax rate were applied economy-wide for all investors. Or if Obama’s new supply-side thinking leads him to leave the cap-gains tax rate right where it is at 15 percent. Are the markets sniffing out a more centrist, pro-growth Obama? The dollar is rising, and gold is falling, so that might be the case. Growth solves inflation, and it can restore King Dollar to its throne. Growth can absorb Ben Bernanke’s free-money balance-sheet cash creation.

Is it possible that we are looking at a supply-side solution to the economy and the deficit?

Henry Blodget explains how to prevent TARP 2.0 when the next financial crisis hits, which the WH embrace of TBTF makes more likely:

What’s the solution?

Debt that automatically converts to equity when a bank’s capital ratio falls below the required level.  What does that mean? It means that equity holders will still get hit first if the bank makes dumb-ass loans. But it also means that if the bank makes so many dumb-ass loans that its equity gets wiped out, bondholders, not taxpayers, will pick up the rest of the tab.

How does it work?  When the bank’s equity falls too far, some of the convertible bonds convert to equity, thus restoring the bank’s capital ratio. This happens automatically, without bankruptcy or fuss. It happens without surprise. It happens without threatening to bring the whole economy to its knees. It happens without Congressional moaning and hand-wringing and without Treasury secretaries dropping to their knees to beg and plead.

Bondholders who buy these bonds–now called CoCo’s, or “contingent convertibles”–know full well what they are buying, and the bonds are priced to reflect the equity conversion risk. Lloyds just sold a bunch of these in the UK, and there was a market for them.

To fix the banking system, all regulators would have to do would be to require banks to issue enough CoCos that they could withstand financial Armageddon without the taxpayer getting involved. The banks’ ability to make huge bets (and huge bonuses) with small amounts of equity would be preserved, so perhaps the bank lobbyists would agree to stand down for a while. The world could rest assured that SOMETHING had been done to prevent the same mess from happening all over again. And we could all return to peace, happiness, and prosperity.