Rosenberg: "Obama's 'Deja Vu' Over-Consumption, Over-Borrowing And Over Building Policy Is Doomed To Failure"

Some wise words from one of the few contrarians not swept into the vortex of a massive melt up.

On the impact of Obama's stimulus, and its transformation into Fiscal Stimulus 2:

The Economic Cycle Research Institute (ECRI), under the auspices of Lakshman Achuthan, publishes a leading economic indicator for the U.S. — when it was surging in the spring when the ‘green shoots’ were sprouting, this fellow was on bubble-vision practically daily with the good news. Well, this allegedly foolproof leading index dropped 1.4 points last week and now stands at an eight-week low. We’ll see if he gets invited back on TV in the next little while.

As an aside, S&P 500 operating earnings are coming in north for $15 for Q3, a quarter in which GDP growth came in at a 3.5% annual rate. Few believe we will sustain that growth rate but think about it for a second, the best we could do with 3.5% growth was an annualized earnings figure of $60 for operating EPS. So where does this thought process come from that we are going to be seeing anything close to $80 of earnings for 2010 — what the equity market has de facto priced in — with a consensus view that we will only see 2.5% GDP growth for next year?

As part of the extension of Fiscal Stimulus 1, the U.S. Administration is using taxpayer money to subsidize the homebuilders

In the latest fiscal foray, the Administration is using taxpayer money to subsidize the homebuilders — no other sector in the economy receives so much favorable treatment and yet the industry adds so little to productivity growth.

As part of the extension of Fiscal Stimulus 1 (they don’t dare call this Fiscal Stimulus 2 for fear of losing all the independent voters):

  • Jobless benefits have been extended a further 20 weeks;
  • The first-time home buyer tax credit has not only been extended to April but expanded to include repeat trade-up buyers;
  • And, believe it or not, the homebuilders, the folks who helped get us into the mess we are in today through their irresponsible overproduction strategies, are going to receive a massive stimulus from the federal government in the form of carry forward provisions allowing the companies to offset losses incurred in 2008 and 2009 against profits booked as far back as — get this — 2004! This is despite the fact that, as Ivy Zelman points out, the homebuilders are sitting on a ton of cash.

This is truly a fiscal policy that is trying far too hard to pursue the old ways of over-consumption, over-borrowing and over-building and it is a policy that is doomed to failure.

The OECD already estimates that U.S. federal government stimulus has been so large that it is equivalent to 5.6% of GDP, so if the economy isn’t growing, even artificially, then there is clearly something very wrong.

Meanwhile, all the stimulus was supposed to cap the jobless rate at 8.5% and that clearly hasn’t happened, and now the White House is claiming that its actions helped save 640,000 jobs from being destroyed. How exactly are we supposed to get excited about that when we‘ve lost 1.8 million household jobs in just the three months alone, not to mention what drop in the bucket that number is in the context of over 10 million full-time positions being eliminated from the economy since the recession began two-years ago.

In fact, the measures to reinvigorate an industry in secular decline like housing has ended up exerting its own distortions because the Federal Housing Administration (FHA) is now facing a 8.24% default rate as it carries out government orders to lend aggressively and with only 3.5% down-payment requirement — the default rate was 6.1% a year ago. We are at the point where capital reserves (0.53%) have fallen below mandated thresholds (2.0%) and there can be little doubt that the agency is going to be the next target for a federal bailout.

Some more thoughts from Rosenberg on the neverending debate of whether QE and Stimulus 1 through infinity will be inflationary, when so many more signs point to an ongoing deflationary collapse:

It does appear to me that the biggest difference between our view and the rest of the economic community is that we believe that recovery won’t occur to nearly the extent as the consensus because household credit is in freefall and still has a long way to go, say, down to 60-70% debt/disposable income versus 140% at the peak in 2007. Any talk of economic recovery must assume that credit ratios at least go sideways from here and probably start expanding. The consensus crowd thinks that current debt levels are okay, even if household debt-to-disposable income ratios were in the 35% range back in the 1950s. You have to be a maniac to think debt goes down that far, right?


The news from last week about the “lease for deed” swap being initiated by Fannie Mae is just the tip of the iceberg for “mortgage (principal) modification” going forward. At the margin, the supply of bank-owned homes should mushroom. Fannie Mae’s new policy rests on the fact that lenders made a bad bet in recent years and they have to pay the price. Keep in mind that bad loans were made for purchases and refinancings, as well as home equity loans.

A record share of mortgage borrowers are already “under water" and the numbers will grow until the house price collapse runs its course.

There are many ways households can reduce their debt burden, for example, budgeting

Lenders are better off keeping the foreclosed occupant as a tenant for obvious reasons. First, the lender has an asset that generates some revenue. Second, the lawn gets mowed and the plumbing stays. Upside down homeowners gain mobility and are relieved of all that debt, taxes and maintenance expense. The prevailing rental expense is likely to be a fraction of the cost of ownership. Many homeowners are highly motivated to downsize, both for demographic reasons and because the “new era” beliefs on house appreciation that prevailed at the recent bubble peak caused massive over consumption for investment reasons.

You can’t pursue frugality with a couple of extra bedrooms in inventory. Once again, at the margin, those households who are over-housed and under water are much more likely to be willing to hand over the keys. Put simply, the lenders are going to have to deal. I can imagine that lenders all up and down the home price spectrum will find themselves offering significant principal reduction to households based on the loan-to-value equation rather than just the ability on the part of the household to service the debt. Most home purchase loans are non-recourse and the IRS has waived the tax liability that used to apply when homeowners defaulted on mortgage debt.

In a typical manufacturing downturn, the jobless rate lags the business cycle by 2-3 months…

What other mechanisms can dramatically reduce the household debt-to-disposable income ratio? One primary method is debt liquidation — assets are sold and the proceeds are used to extinguish debt. Obviously, the house can be sold to pay off the mortgage. That leaves the problem of where to live, but once again, if you want to be frugal, rent a nice two-bedroom town house. It’s bound to be much, much cheaper than keeping the four bedrooms on 3/4 of an acre house.

Debt can also be liquidated by selling investment assets or drawing down cash balances and paying off debt. This is sounding very deflationary. Another method of reducing household debt is through budgeting. Budgeting to reduce debt takes two forms:

  1. Forgoing purchases that involve credit, and;
  2. Reducing consumption so that more of the household income can be spent on paying off existing debt.

And lastly, one more convenient comparison between the current environment and the last time we had a real bull market, not on the back of massive credit expansion: August 1982.

  1. P/E Multiples were 8x, not 26x.
  2. Dividend yields were 6%, not sub-2%.
  3. The stock market was trading at a discount to book, not a 2x premium.
  4. Monetary policy was aimed at reducing money growth and inflation rates, not creating both as is the case now.
  5. Fiscal policy was aimed at reducing nondefense spending, not accelerating it.
  6. Deficits were peaking and coming down, not surging to 10%+ relative to GDP.
  7. Global trade barriers were being torn down; not erected.
  8. Deregulation back then was in; today it is all about re-regulation and government ownership.
  9. Union membership was on the way down; today it is back on the rise.
  10. The dollar was entering a Plaza Accord bull market, not a mercantilist bear market.
  11. Credit, household balance sheets and participation rates were expanding, not contracting.
  12. Tax rates, income, capital gains and dividends, were declining then; rising now.
  13. In 1982, Ronald Reagan was President (two consecutive terms as Governor of California), Don Regan was Treasury Secretary (35 years of financial sector experience), Martin Feldstein as the Chief Economic Advisor to President Reagan (the dean of business cycle determination), and Paul Volcker was Fed Chairman (9 years of prior financial sector experience). Compare and contrast to Barrack Obama (junior senator from Illinois for 3 years); Timothy Geithner (21 years experience in government, three years as a lobbyist); Larry Summers (no private sector experience; 27 years of academia and government) and Ben Bernanke (no private sector experience; 30 years of academia and government).

    Which team do you think deserved the higher multiple — the one with actual experience in the real world or the one immersed in academia and government?

    To this end, we could only read with amusement the admonishing that the President took on his trip to Asia over U.S. policies which seem to be aimed at breeding more asset bubbles and blazing a trail for anti-competitive trade frictions — see China’s Blunt Talk for Obama. You can’t make this stuff up.