Explaining Southern California's economy

Justice Department v. Standard & Poor's: Is revenge a motive?

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U.S. Attorney General Eric Holder leads a news conference to announced that the United States is bringing a civil lawsuit against the ratings agency Standards & Poor's and its parent company, McGraw-Hill Companies, over its pre-fiscal crisis bond ratings.

That's what Matt Nesto and Jeff Macke at Yahoo Finance think, and you can watch them talk about it here.

The timing of the Justice Department's lawsuit against the credit rating agency — alleging that S&P fradulently overrated numerous mortgage-backed securites in the lead-up to the financial crisis — is a tad suspicious, surfacing as Washington is about to enter what could be a fractious debate over sequestration

Those automatic cuts could begin March 1 if Congress doesn't resolve or delay them. And hanging over the process, like Damocles' sword, is the threat that S&P in particular will downgrade U.S. debt again,  repeating an action that it took after the debt ceiling debate in 2011.

The Justice Department filed its 124-page complaint — which contains enough securities-market abbreviations (RMBS, CDO, SVP...) to thrill even the most jaded of finance geeks — in Los Angeles late Monday. Various reports suggest that state attorneys general will follow suit, with California's Kamala Harris and New York's Eric Schneiderman leading the charge. 

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For California, a budget surplus won't translate into a reserve

Schwarzenegger Holds Press Conference On Passing Of California Budget

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A view of the California State Capitol. The budget outlook is improving for the Golden State, but that doesn't mean there will soon be a lot of money on the bank.

California may declare a surplus for its fiscal year 2014 budget. Unfortunately, the state won’t be able to put money in the bank for a rainy day.

That doesn't mean its outlook isn't looking up. The credit rating agency Moody’s likes what it sees in the Golden State's improved fiscal situation. In particular, the passage of Prop 30 last November — raising incomes taxes on wealthy Californians and sales taxes on everybody — bodes well for future revenues.

But getting the budget out of deficit and into surplus doesn’t mean the state will be prepared for the next inevitable economic bust. 

Moody’s analyst Emily Raimes blames a history of underfunding education.

“As revenues increase in the state in the next few years, additional revenues will have to be dedicated to bringing that education funding back to the baseline where it would have been if the state had not been doing that underfunding," she said.

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Moody's raises a red flag about November California tax revenues

CA Governor Jerry Brown Holds News Conference On Pension Reform

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California Gov. Jerry Brown discusses pension reform during a news conference in Los Angeles. The state's revenue outlook deteriorated slightly in November.

The tax revenue outlook for California has been improving. But Moody’s, the big credit rating agency, reported Friday that the take for November was lower than expected. 

The agency wasted no time is raising a red flag about the sudden reversal of a positive revenue trend. November came in 11 percent lower than the state’s budget called for.

Emily Raimes, a Moody’s analyst with whom we've talked before at the DeBord Report, pointed out that the shortfall highlights the volatility of California’s tax revenues — a point I've been droning on about for months now. In the state, we're overly dependent on the incomes of the rich to make the budget work.

This is something that Raimes says Moody’s “sees in states with high wealth.” The same issue arises in New York and New Jersey. 

"California’s progressive income tax structure fuels the volatility; the wealthiest 15% of state taxpayers pay approximately 80% of all state taxes, according to the state’s audited financial reports," she wrote in a contribution to Moody's Weekly Credit Outlook.

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

Ben Bernanke

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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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San Bernardino bankruptcy: How hard will CalPERS fight for its money?

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A sign stands in front of California Public Employees' Retirement System building. CalPERS is trying to prevent bankrupt cities from evading pension obligations.

Last week, Moody's, the rating agency, released a note about the ongoing San Bernardino bankruptcy and the city's pension obligations to CalPERS. According to Moody's, San Bernardino's total unfunded pension liability far outstrips it other municipal debt. 

San Bernardino declared bankruptcy in July, after the city council revealed that it barely had enough money to keep the lights on. A big question in the bankruptcy has been whether the city will attempt to reduce or discharge its CalPERS liabilities. As Moody's pointed out, neither Vallejo, which went into Chapter 9 in 2008 and emerged in 2011, nor Stockton, which declared bankruptcy earlier this year, sought concessions from CalPERS. In Vallejo's case, other creditors took a substantial haircut. 

CalPERS maintains that pension obligations can't legally be reduced in bankruptcy. That hasn't stopped San Bernardino from ceasing payments, to the tune of $6 million. CalPERS is now disputing San Bernardino's Chapter 9 eligibility, according to Moody's, and is threatening to do away with the city's pension plan. This would expose San Bernardino to a bigger pension payment, due immediately. 

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