Explaining Southern California's economy

The investors' view on the Federal Reserve's interest rate decision

Ben Bernanke

Alex Wong/Getty Images

Federal Reserve Chairman Ben Bernanke. Will continued low interest rates lead to inflation? Some money managers don't think so.

The Federal Reserve's Open Market Committee announcement Wednesday wasn't a big surprise on the interest-rate front. The Fed has stated it intends to keep short-term rates low for the foreseeable future, in an effort to stimulate the economy and push investors into riskier assets, like stocks. A continued low-interest rate environment will also continue to bolster the housing market, where mortgage rates are at historic lows.

Fed Chairman Ben Bernanke and the rest of the FOMC annouced that they will keep rates low until unemployment falls to 6.5 percent. It will also continue to buy up mortgage-backed securities, at roughly the same rate it has been (so-called "Quantitive Easing," installment 3, or "QE3").

[UPDATE: I slightly misinterpreted what the Fed is doing on the bond-buying side. It's also worth noting that the Fed is now saying that it will keep interest rates low until unemployment hits a specified level. This is a policy departure from saying that rates will stay low until the economy improves. But anyway, bond-buying: the Fed is going to double what it's doing in the QE front and change "Operation Twist" into an extension of QE3. The older aspect of QE will still involve buying MBS. But the additions to QE3 will entail buying long-term U.S. Treasuries without selling short-term bonds. This is important as it means the Fed will be adding $85 billion per month to its balance sheet — under Operation Twist, it hadn't grown much, which was viewed as an way to "sterilize" against inflation. Former Dallas Fed President Bob McTeer has a good post about the FOMC decision at Forbes.]

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California city bankruptcies are raising questions about the municipal bond market

Muni-Defaults

Federal Reserve Bank of New York

Last month, I wrote about Moody's, one of the big ratings agencies, and its view that the municipal bond market was getting a bit riskier than everyone has conventionally thought, in the aftermath of the bankruptcies of Stockton and San Bernardino and other U.S. cities. 

At the time, I noted that between 1970 and 2011, Moody's could find only one city — Cicero, New York — "electing to default on debt not out of ability to pay but willingness to pay."

What that implies is that the now $3.7-trillion muni bond market has been a safe investment for decades. As long as you're investing in rated bonds. (And even if you haven't, but more on that in a sec.)

Now the Federal Reserve Bank of New York has offered its own take, at its Liberty Street Economics blog. It differs from Moody's in terms of the looking at the entire muni market, not just the part that's rated by Moody's and others. The conclusion is represented in the graphic above. Moody's found 71 defaults between 1970 and 2011 — and that's total defaults in its rating universe, so presumably 70 we due to inability to pay while only Cicero strategically defaulted due to an unwillingness to pay.

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Greek debt crisis: Is this a financial coup d'etat?

The Parliamentary Headquarters Of Major Eurozone Nations

Vladimir Rys/Getty Images

ATHENS, GREECE - NOVEMBER 03: A general view of the building of the Greek Parliament on the Syntagma (Constitution) Square is pictured on November 03, 2011 in Athens, Greece.

I've been steering clear of the euro crisis for the past month or so, but given the latest frenzied spate of negotiations about how to prevent Greece from defaulting on its debt, I figured it was time to jump back in. The latest news is pretty straightforward: over the weekend, the Greek parliament voted to accept a new set of austerity measures, in exchange for a new round of bailout money — $171 billion, roughly.

This hasn't gone down well with the population, according the the New York Times:

[C]haos on the streets of Athens, where more than 80,000 people turned out to protest on Sunday, and in other cities across Greece reflected a growing dread — certainly among Greeks, but also among economists and perhaps even European officials — that the sharp belt-tightening and the bailout money it brings will still not be enough to keep the country from going over a precipice.

Angry protesters in the capital threw rocks at the police, who fired back with tear gas. After nightfall, demonstrators threw Molotov cocktails, setting fire to more than 40 buildings, including a historic theater in downtown Athens, the worst damage in the city since May 2010, when three people were killed when protesters firebombed a bank. There were clashes in Salonika in the north, Patra in the west, Volos in central Greece, and on the islands of Crete and Corfu.

Greece and its foreign lenders are locked in a dangerous brinkmanship over the future of the nation and the euro. Until recently, a Greek default and exit from the euro zone was seen as unthinkable. [my emphasis] Now, though experts say that the European Union is not prepared for a default and does not want one, the dynamic has shifted from trying to save Greece to trying to contain the damage if it turns out to be unsalvageable.

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Faster foreclosures and loan mods mean less money for homeowners

U.S. Foreclosure Rates Rise As Bank Repossessions Soar

Kevork Djansezian/Getty Images

The LA Times has a story today about the accelerating foreclosure process. The bottom is that banks are ramping up their foreclosure activities, after allowing them to lag for various reasons over the past few years. 

There's a day-of-reckoning quality to this. Absent some kind of massive federal assistance program to homeowners who are either losing or about to lose their houses — beyond what's already been enacted — this means that the housing market will soon be hit with a large number of "real estate owned" (REO) properties. 

I blogged recently about a Federal Reserve white paper that proposes a solution to this foreclosure crunch, in the form of investor-owned rentals. The rental market is picking up and there's a need for more single-family residences, which shouldn't be surprising given all the families that are losing their homes to foreclusure. 

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