James Pethokoukis

Politics and policy from inside Washington

An August Surprise from Obama?

Aug 5, 2010 04:26 UTC

Main Street may be about to get its own gigantic bailout. Rumors are running wild from Washington to Wall Street that the Obama administration is about to order government-controlled lenders Fannie Mae and Freddie Mac to forgive a portion of the mortgage debt of millions of Americans who owe more than what their homes are worth. An estimated 15 million U.S. mortgages – one in five – are underwater with negative equity of some $800 billion. Recall that on Christmas Eve 2009, the Treasury Department waived a $400 billion limit on financial assistance to Fannie and Freddie, pledging unlimited help. The actual vehicle for the bailout could be the Bush-era Home Affordable Refinance Program, or HARP, a sister program to Obama’s loan modification effort. HARP was just extended through June 30, 2011.

The move, if it happens, would be a stunning political and economic bombshell less than 100 days before a midterm election in which Democrats are currently expected to suffer massive, if not historic losses. The key date to watch is August 17 when the Treasury Department holds a much-hyped meeting on the future of Fannie and Freddie. A few key points:

1) Republican leaders believe this is going to happen since GOPers and Democratic moderates in the Senate are unwilling to spend more taxpayer money on more stimulus. But such a housing plan would allow the White House to sidestep congressional objections and show voters it is doing something tangible about an economy that seems to be weakening.

2) Wall Street banks are alerting their clients privately to this possibility. Here is what some are cautiously saying publicly. This from Goldman Sachs:

GSE policies are one of a dwindling number of policy levers the administration has left to pull, so it is conceivable that changes could be made, though there is no sign that a policy change is imminent. The Treasury’s essentially unlimited ability to provide financial support to the GSEs creates an interesting situation over the next twelve months: the GSEs could potentially be used to provide additional support for the housing market and, to a lesser extent, the broader economy in 2H 2001.

And this from Mizuho Securities:

As policy makers ponder their next move the data suggests that they face not only a stalling recovery but a growing risk of deflation taking root in the economy. As a result, the Administration has turned back to industrial policies by approving the purchase of a sub-prime auto lender by GM as a means for pumping  up domestic sales, especially since the latest auto sales data indicates that consumers are still responsive to incentives. This precedent increases the risk that the government will use its control of Fannie and Freddie to increase consumer cash flow and juice the economy again.

Moreover, Morgan Stanley is pushing a mortgage relief plan directly to Congress. On August 3, a top Morgan Stanley economist recommended to the Senate Budget Committee that Fannie and Freddie ease their lending standards to allow millions of Americans to refinance their mortgages.

3) Keep in mind the political and economic context. The nascent recovery is already running out of steam. Wall Street economists just downgraded the government’s second-quarter GDP estimate of 2.4 percent to around 1.7 percent. And as even Treasury Secretary Timothy Geithner is warning, the unemployment rate may well begin to rise back toward the politically toxic 10 percent level given such sluggish growth. Many in the White House thought the unemployment rate would be dropping sharply by this point in the recovery.

But that is not happening. What is happening is that the president’s approval ratings are continuing to erode, as are Democratic election polls. Democrats are in real danger of losing the House and almost losing the Senate. The mortgage Hail Mary would be a last-gasp effort to prevent this from happening and to save the Obama agenda. The political calculation is that the number of grateful Americans would be greater than those offended that they — and their children and their grandchildren — would be paying for someone else’s mortgage woes.

4) And don’t think the White House is worried about financial market reaction. If they thought it would pass Congress, they would be submitting a $200 billion Stimulus  2.0  (3.0?, 4.0?) right now.

August is supposed to be a slow month for Washington politics. But maybe not this one.

COMMENT

HUD recently sent a letter to mortgagees/lenders basically encouraging them to reduce principal on mortgages where the principal amount exceeds the home value. The Treasury provides the lenders and 2nd lein holders monetary incentive paid for by the U.S. Taxpayer.
(the formula for determining their incentive payment can be found here: https://www.hmpadmin.com/portal/docs/ham p_servicer/sd1005.pdf

I don’t know about you, but I have paid my mortgage payments during the past 20 years even when my principal owed was more then the value of my home in the 1980′s. Purchasing a home is a long term investment. The value changes with demand for homes.

As long as the borrower has the means to pay their mortgage they should not have their loan modified and principal forgiven at the expense of taxpayers.

Even those that are behind on the mortgages should only be provided the opportunity to refinance at the current historically low interest rates; and only if they qualify. Too many of these rewritten loans have defaulted a second time at the expense of taxpayers.

If a lender wants to avoid a foreclosure by reducing the principal and rewriting the loan at current interest rates it should not be done at the taxpayers expense. It is to their own advantage to do so as if they foreclose the house will likely sit there and the cost of maintaining it and advertising it will far outweight reworking the loan with the borrower.

Fannie and Freddie are still making loans that do not require even 10% down. They continue to buy bad mortgages and now the Treasury is going to give them Billions more and are authorized to continue to do so.

Enough already. No more Federal Money to bail out Fannie and Freddie which are now basically owned by the Federal Government. It has to stop.

This is why they didn’t include them in the new Financial Regulations Bill which the Dems said did not promote bailout financial institutions because they were too big to fail. They knew they would be bailing out Fannie and Freddie for years.

Posted by fedupwithfedgov | Report as abusive

The GDP report and Okun’s Law

Aug 2, 2010 19:47 UTC

One of the mysteries of the Great Recession is why unemployment rose so far so fast. The usual rule of thumb, Okun’s Law, called for a much lower rate of joblessness.  The White House has been hoping that as the economy turned around, the labor market would outperform just as it underperformed during the downturn.  As it turns out, the downturn was deeper than first thought, so the “snapback” scenario is less likely. This from JPMorgan:

The revisions incorporated in last Friday’s GDP report go part way toward resolving two puzzles concerning the recent recession and recovery.

First, the unemployment rate had arguably looked too high relative to the decline in output experienced over the course of the recession. The first chart below estimates an Okun’s Law (the relation between GDP and unemployment) through 2006, and then since 2007 sees what that would predict about unemployment given the revised and pre-revised data.

The pre-revised GDP data implied that the Q1 unemployment rate should have been about 8.7%, the revised data imply it should be 9.1%. Both estimates fall short of the 9.7% unemployment rate actually experienced that quarter, though the newer data close about half the gap.

The forward-looking implication of partly resolving this first puzzle might be seen as negative, as some had argued that the excessive increase in the unemployment rate meant companies over-fired and that a snap-back is coming. The over-firing argument now looks less compelling. (To be sure, we’ve never found any tendency for Okun’s Laws errors to subsequently reverse themselves).

okun

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David Brooks vs. Paul Ryan

Jul 30, 2010 14:13 UTC

This bit of David Brooks’ column today jumped out at me:

Paul Ryan, the most intellectually ambitious Republican in Congress … has been promoting a roadmap to comprehensively reform the nation’s tax and welfare system. On the tax side, he would sweep away most of the special-interest-favoring tax credits and subsidies and give people a chance to join a simple tax system with only two rates.

On the welfare-state side, he’d sweep away most subsidies to the middle and upper classes, like the tax exemption on employee health plans. He’d essentially voucherize federal benefits, like health care and Social Security, and increase federal subsidies for people down the income scale. … The weakness of the Brooks and Ryan approach is that their sociology is off a bit. America is not a nation of risk — embracing pioneers. It is a nation of heroic bourgeois families who want to thrive within a secure social order.

Me:  The “risk shift” argument is a phony one. Unsustainable social insurance programs means risk has already been shifted onto American taxpayers. The only question now is how to structure that risk. And the only way to restructure entitlement programs so they don’t bankrupt America or saddle it with sky-high taxes is a plan like that advocated by Ryan.

COMMENT

Strong families increase the risk tolerance of individuals. Conversely, as traditional family life deteriorates, people turn to the nanny state for support. Causation goes in both directions. Any policy that strengthens the family increases support for the Ryan program. Shrinking the role of government in people’s lives strengthens family bonds. The “secure social order” that “heroic bourgeois families” seek is not the welfare state. It is the social conservative agenda: a legal framework for marriage that preserves families, schools that teach traditional values, government restrictions on pornography and the like.

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Zandi and Blinder make a weak case for Big Government

Jul 29, 2010 14:10 UTC

Mark Zandi and Alan Blinder have launched a maximum defense of all the government interventions in the economy since 2008. Without TARP, stimulus, various Fed actions  — the who kit and caboodle – their model estimates the following:

In the scenario that excludes all the extraordinary policies, the downturn con­tinues into 2011. Real GDP falls a stunning 7.4% in 2009 and another 3.7% in 2010 (see Table 3). The peak-to-trough decline in GDP is therefore close to 12%, compared to an actual decline of about 4%. By the time employment hits bottom, some 16.6 million jobs are lost in this scenario—about twice as many as actually were lost. The unemploy­ment rate peaks at 16.5%, and although not determined in this analysis, it would not be surprising if the underemployment rate approached one-fourth of the labor force. The federal budget deficit surges to over $2 trillion in fiscal year 2010, $2.6 trillion in fis­cal year 2011, and $2.25 trillion in FY 2012. Remember, this is with no policy response. With outright deflation in prices and wages in 2009-2011, this dark scenario constitutes a 1930s-like depression.

Here are few counterpoints. First, John Taylor of Stanford:

First, I do not think the paper tells us anything about the impact of these policies. It simply runs the policies through a model (Zandi’s model) and reports what the model says would happen. It does not look at what actually happened, and it does not look at other models, only Zandi’s own model.  … So there is nothing new in the fiscal stimulus part of this paper.

Second, I looked at how they assessed the impact of the financial market interventions. Again they do not directly assess the interventions. They just simulate the model with and without the interventions. They say that they have equations in the model which include the financial interventions as variables, but they do not report the size or significance of the coefficients or how they obtained them.

Third, the working paper makes no mention of previously published papers in the literature which get different results.  … For the record there are different results in papers by John Cogan, Volcker Wieland, Tobias Cwik and me in the Journal of Economic Dynamics and Control, by John Williams and me in the American Economic Journal; Macroeconomics, or by me published by the Bank of Canada or the St. Louis Fed

And bit from Arnold Kling:

The model assumes a Keynesian world, in which labor is a variable factor of production that responds to incremental increases in aggregate demand. That might be an excellent assumption for 1910, when 73 percent of the work force was blue-collar. By 2000, 73 percent of the work force was white-collar. See Wyatt and Hecker. In today’s Garett Jones economy, labor acts more like a fixed factor. Blinder and Zandi do not know this (they may know it, but I doubt that it is incorporated into the model). So they do not know about jobless recoveries, breakdowns in Okun’s Law, the high ratio of permanent job losses to temporary layoffs, etc. Instead, at best they are living in 1970, with some add factors thrown in to get the model to track recent data. … I know that they think this is for a good cause. They really believe that the stimulus and TARP were good policies that got a bad rap. But in my view that does not justify this unseemly exercise in propaganda dressed up as research.

Me:  And what about the opportunity cost? All those hundreds of billions which could have been “spent” on long-term cuts in corporate and capital gains taxes that would have made America more competitive and boost growth.  Even a tax holiday (as suggested by Art Laffer) would have been a more effective approach. Instead unemployment is headed back to 10 percent and GDP growth is sliding back toward 2 percent.

COMMENT

CDNRebel: Average American corporate tax levels stand at 38%, exceeded only by the Japanese, whose rates are 39% or higher. Canada’s corporate tax rates stand at 29% and are falling quickly. Irish tax rates are 15% (!). America taxes its corporations much too heavily and, believe it or not, America now has to compete with low-tax jurisdictions elsewhere. Chase away the big corporations and all their jobs with confiscatory taxation and you will never, EVER, replace all the jobs lost during the most recent recession. There is a lot going on outside America’s borders, more than just China. Try getting informed about it.

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Kudlow: WH dismissive of business complaints

Jul 26, 2010 13:47 UTC

From the Great One, Larry Kudlow:

Then there’s the confidence-threatening war between business and the White House, which is also related to the liberal tax revolt. It’s still a battle royale between the nation’s business leaders and the administration over taxes, spending, regulation, and trade.

Treasury man Geithner made lite of this war at a Christian Science Monitor breakfast this week. A Daily Caller headline read: “Geithner Bored by Complaints from Business about Obama Policies.” White House chief of staff Rahm Emanuel also doesn’t seem that concerned. In a Wall Street Journal interview with Jerry Seib, Emanuel was a bit more conciliatory about reexamining regulatory issues, but he was still inconclusive.

There are two big things that businesses want right now: One is an across-the-board corporate tax cut, including cash expensing for investment. This is the single most powerful job-creator of all. The other is a senior business executive in one of the key economic policy slots in the White House. Neither of these requests seems to be on the table. But to conclude that the White House is burying the hatchet with business you’d have to see these conditions met.

So far it ain’t happening.

COMMENT

Starting to get boring; big corps want a big tax break, but what have they done to deserve one? They ship out all the jobs to the third world; they have so many loopholes in the tax code that nine-out-of-ten pay miniscual to no tax at all; they continue to spend liberally on lobby groups and advertising (TV news spots included) that somehow make them seem to be victims.

What I would propose in the face of all this propoganda is an offer of a flat-tax/no loophole policy for corporations: 15% (less than half what it is now), no deductions, take it or leave it. My guess is – with no loopholes to exploit – they will leave it and move on to exploit the developing world more fully.

PS: Kudlow is not the Great One; Wayne Gretzky is! Kudlow is a minor thinker who has been too insulated to have a fair taste of reality, but at least he can debate in earnest which is very important for real progress to be made in America. I will say this in Kudlow’s defence he was the first to make Cramer look like the utter buffoon, double-talking hedgie whore that he is. But I digress…

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Bernanke right, Geithner wrong on Bush tax cuts

Jul 26, 2010 13:30 UTC

Ben Bernanke, the Federal Reserve chairman, doesn’t want tax rates to reset higher at the end of this year, even for the rich. The White House and the Treasury think differently. Here’s how an off-the-record Bernanke might try to talk Tim Geithner, the Treasury secretary, around to his point of view.

From:      Ben Bernanke <HelicopterBen@xxxxx.com>

To:          Tim Geithner <ObamaFan2008@xxxxxxx.com>

Subject:   Bush tax cuts

Date:       July 25, 2010

T-Dawg: First, major congrats on getting the financial reform bill passed. Trust me, I don’t want to have to make another late-night trip to Capitol Hill to beg Congress to bail out the banks. (Still worried about TBTF, though.) Man, can that Pelosi give a guy the evil eye! Hope the bill doesn’t cost you that future CEO gig at Goldman! (Totally joking!)

Second, those Bush-era tax cuts that are set to expire. Look, I told Congress  that extending them might help support the fragile economy, while you said they should expire, at least for the rich. And Congress seems on both sides of the issue — of course!

I know you guys are worried about the $1.5 trillion budget deficit. So am I. And I know the president campaigned against extending the tax cuts. But as I told Congress, the economic outlook was “unusually uncertain.” I’d prefer that the few monetary policy bullets I have left stay in the barrel.

So maybe you guys could help with fiscal policy. While letting all the Bush tax cuts expire would help lower the budget deficit by $341 billion over the next two years, it would also be the equivalent of about 3 percent of GDP in fiscal tightening over that period.

Letting rates rise on just the wealthy would be less contractionary, but could still bite. Here’s the thing: Your Treasury economists have found that capital gains taxes, mostly paid by the rich, have a big economic impact. Cutting them could generate enough growth to recoup 50 percent of the lost revenue. And I just ran across a Berkeley study hinting that the tax burden on higher earners may be at the point of diminishing returns. And if you look at history, cutting capital gains taxes is followed by more initial public offerings and more venture capital. That’s all good stuff.  Plus, letting income taxes on the “rich” expire would raise taxes on two-thirds of small business profits.  Just to be on the safe side, maybe we should leave rates alone for the next year or so.

As for the deficit, you probably saw that POTUS’s commission may agree to match every $3 in spending cuts with $1 in tax increases. Getting that sorted out correctly is more important than short-term tax revenue.

Anyhoo, I am wheezing on longer than my Humphrey-Hawkins testimony. Take care and say hi to Summers for me. (Hope he’s not still cranky about my second term!)

Cheers,

BB

COMMENT

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Government Motors and the Great Re-inflation

Jul 22, 2010 16:29 UTC

OK, let me get this straight:  President Obama says he wants to build a New Foundation for the U.S. economy based on savings and investment, not debt.  So the government borrows billions to prop up General Motors.  And now General Motors uses that money to go out and buy AmeriCredit for $3.5 billion so it can more easily lend money to subprime borrowers.

This strikes me as being along the lines of using tax credits and low interest rates to re-inflate the housing market. Same old, same old. As the WSJ put it last week:

Even as lenders struggle to pull themselves out of the credit crisis, signs of a new and potentially dangerous infatuation with risky borrowers are emerging. From credit cards to auto loans to mortgages, the hunger for new business as the crisis ebbs is causing some financial institutions to weaken lending standards and woo borrowers who mightn’t be able to pay.

VAT Attack! Will business go for it?

Jul 12, 2010 15:22 UTC

This WSJ story implies Big Business would accept a value-added tax for several reasons:

First, the VAT raises a lot of money, and Congress and the White House need a lot to avoid politically difficult spending cuts. According to one recent estimate, a VAT of 5% would raise $161 billion a year in 2012, even assuming that lawmakers build in protections for lower-income people (such as exempting necessities from the tax).

Second, many U.S. multinationals increasingly suspect they might have little choice but to accept a VAT, or some similar tax, if they hope to avoid further increases in U.S. corporate income taxes, or even win cuts in current rates.  … Some companies are hoping a VAT would encourage Congress to streamline and lower the corporate tax, something they regard as critical given international trends.

Third, even a few domestic businesses are beginning to eye the VAT as a possibility, despite the considerable administrative burden it creates. That’s largely because value-added taxes are imposed on imports at the border, and refunded to domestic businesses on their exports, making a VAT an effective subsidy for U.S. producers, according to the advocates. (Some experts disagree.)

Me: Why the rush to raise taxes? Here is the formula: a) cut spending; b) create a more pro-growth tax system; c) see what sort of budgetary gap remains.  As the Japanese election shows, voters are dubious of the need for dramatically higher taxes.

COMMENT

A super-sales tax is the last thing we need for our consumer-demand driven economy.

As for the end of the Bush tax cuts, that’s due to the Republicans trying to use Enron accounting for the budget. They assumed they’d be able to extend them permanently even though that would have been 10 years in the future. Just like Enron saying the receive leg of their swaps would always turn around in enough time to make their earnings goals.

And if we move to a VAT, keep in mind two points. First, Europe uses the VAT to supplement the individual and corporate income taxes. Second, we’d see a wave of VAT tax shelters, just like Europe. There are such things, I’ve seen them pitched by accounting firms.

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Obama vs. business

Jul 8, 2010 13:30 UTC

Does this sound to you like the Obama administration takes seriously the concerns of American business that its economic policies are hurting the private sector? Treasury Secretary Tim Geithner on CNBC’s Kudlow Report:

I think businesses are doing now what businesses always do, which is they want their taxes lower and they’d like to operate with less regulation, as they always do. Our job, though, is to make sure, again, we’re creating the conditions that make this economy work better for the country as a whole. Now, just remember, when the president stepped into this job, business of America was out of business.

COMMENT

Tim is indicative of a DC based chameleon. It spouts the colors of in the moment politi-think regardless of hysterical perspective or rationality. Oops I’ve landed here so I must say this. It goes to show that just because you live and hobnob in the world of high finance it doesn’t mean you should be taken seriously.

Posted by Scarybarry | Report as abusive

Dems push middle-class tax hike

Jun 23, 2010 16:05 UTC

The U.S. is pushing its G20 counterparts to focus  more on growth than deficits right now. Too bad America — or at least Congress — seems to be doing neither. Not only is Uncle Sam on pace to rack up another $10 trillion (at least) in debt over the next decade, but little is being down to boost growth and jobs. The latest: Democrats are now openly talking about extending the middle-class Bush tax for only a couple of years until, you know, when the economy is booming. Of course, we may still have unemployment at 8 percent then. I could see letting the Bush tax cuts expire and then replacing them with a more pro-growth tax policy.  But a $3 trillion tax hike? Nothing pro-growth about that.

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