Nouriel Roubini's Global EconoMonitor

Archive for July, 2008

  • If it walks, quacks and ducks like a recession duck it is a RECESSION now: the current W-shaped double-dip recession may have started in Q4 of 2007 rather than Q1 of 2008

    This forum has argued for a while that the US recession started in Q1 of 2008 and that this long and protracted U-shaped recession (lasting 12 to 18 months as opposed to the consensus for a short and shallow 6 months V-shaped recession) could turn into a double-dip recession because $100 billion of tax rebates would be a temporary drug that would boost consumption in Q2. Indeed, the figures published today – a 1.9% GDP growth in Q2 – confirm this W-shaped path.

    More importantly the revisions of 2005-2008 GDP figures now show that the economic recession may have started in Q4 of 2007 – rather than Q1 of 2008 – as GDP contracted at the annualized rate of 0.2% in that quarter. While Q1 of 2008 was positive (+0.9%) it is clear that the economy was already into a recession in Q1. The reason why the recession started in Q4 of 2007 or – at the latest in Q1 of 2008 – are clear. Let me elaborate them…

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  • Global Recession Watch: Recoupling rather than Decoupling

    As already analyzed and discussed in detail in this blog there is now fresh evidence that at least a dozen major economies and some emerging markets are at risk of a recessionary hard landing. The list includes:

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  • Super-Senior Tranches of CDOs are Worth Much Less than 22 Cents on the Dollar: Another Ponzi Scheme of “Selling” Toxic Garbage with More Leverage

    Merrill Lynch decision to “sell” a good chunk of its remaining CDOs at 22 cents to the dollar has been widely praised as the firm finally recognizing the full extent of its losses on these toxic instruments. This batch of $30.6 billion of CDOs was already marked down to $11.1 billion. Now with the “sale” of it to Lone Star at a price of 6.7 billion Merrill Lynch is taking another $4.4 billion writedown and “selling” it at 22% of the original face value.

    But is this a market-based “sale”? No way as calling this transaction a “sale” is a joke.

    Let me explain next why…

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  • Who is Going to Rescue the Hundreds of Busted U.S. Banks? Don’t Count on Suckering Again the Foreign Governments (the Sovereign Wealth Funds). And the Biggest Fire Sale in the History of Humanity…

    Time International (the global version of Time magazine) has recently published an article that Rachel Ziemba and myself have written on sovereign wealth funds (SWFs) and their past and potentially future role in rescuing financial distressed U.S. and foreign banks and other financial institutions.

    Here is the text of this articles followed by some additional remarks and observations on why the ability/willingness of SWFs (and the political constraints in the U.S. around their actions) to do another round of recapitalization of U.S. financial institutions – after the losses they bore in the first round – is very limited. So while U.S. banks and other financial institutions will need hundreds of billions of dollar of additional capital in the next year or so that money – for a variety of reasons may not be available to them.

    Investing: That Sinking Feeling

    Time International

    Thursday, Jul. 17, 2008 By Nouriel Roubini and Rachel Ziemba

    Early last winter, when the west was suffering the first casualties of the credit crisis, sovereign wealth funds (SWFs) rode to the rescue, providing over $40 billion in capital to some of the largest of the faltering U.S. and European banks. The U.S. government — reluctant to bail out banks directly — welcomed this infusion, even though SWFs are investment arms of foreign governments and American politicians are often suspicious of outsiders acquiring stakes in key domestic assets. So instead of a bailout of financial institutions by American taxpayers, we saw a foreign-funded bailout.

    As mortgage losses continued to mount and the credit-crisis snowball rolled on, private equity, with some SWF support, took on the role of recapitalizing regional banks. Yet there’s still no end to the crisis in sight. On July 11, U.S. regulators shut down IndyMac Bank, the second-largest largest financial institution to close in U.S. history. If current estimates are right and more losses are coming — Goldman Sachs says U.S. and European banks may need another $200 billion — where’s the money going to come from to keep the financial system functioning?

    One non-obvious answer is: the central banks of emerging economies. To keep their currencies from appreciating too much against the dollar, emerging nations continue to buy increasingly large amounts of U.S. debt. This provides the U.S. with an indirect funding source to prop up its banks and brokerages, but it’s a compromised solution. After all, the willingness of central banks to lend almost without limit to America helped create this mess. Cheap money from abroad suppressed U.S. long-term interest rates, helping to set the stage for the housing bubble and its catastrophic collapse. Continuing such inappropriate monetary and exchange-rate policies feeds more asset bubbles in emerging economies as well as global inflation.

    SWFs, on the other hand, control more than $3 trillion, an amount that is growing rapidly. That money needs a home, and the weak U.S. dollar presents foreign investors with opportunities to put it to work by snapping up “bargains” like the Chrysler Building and Citigroup stock. But after turning to SWFs in their hour of need last winter, will U.S. and European officials be willing to do so again?

    Possibly — but SWFs may want better deals. In the first round of recapitalization, SWFs took small (less than 10%) stakes in financial giants including UBS and Citigroup by purchasing preferred or convertible shares without voting rights. In return, the funds got fairly high interest payments and the chance to buy into institutions at what they thought were cheap prices. They’ve since suffered losses on the order of 30-50%. SWFs might be wary of coming back for more unless they get more control, along with greater opportunities for synergies between Western banks and their own domestic financial systems.

    It remains to be seen whether U.S. authorities will be comfortable with SWFs taking larger stakes. Consider that while the U.S. is aggressively pushing China to open up its banking system and financial markets to U.S. companies, regulators have been reluctant to issue licenses for Chinese state banks to open branches on American soil. While this impasse may be resolved, Washington’s protectionist stance might make Chinese banks and sovereign funds less likely to invest in U.S. firms.

    It is difficult for a borrower to set the terms of its lending, though the U.S. has been able to do this for some time. With the balance of economic and financial power shifting, it might be less able to do so in the future. Meanwhile, with so much money to invest and a reluctance to abandon currencies that track the greenback, the SWFs of China and other emerging countries have few other places to go — so mutual interests might allow this grand bargain to continue. Washington has so far skirted the complicated issues deriving from the need for further recapitalization of its financial system. But the wealthiest country in the world may no longer be able to afford to be so picky about who rides to its rescue and on what terms.

    Nouriel Roubini is a professor of economics at New York University’s Stern School of Business and is chairman of RGE Monitor; Rachel Ziemba is a senior analyst at RGE Monitor

    And here are ten additional observations and points that elaborate on the points that Rachel and I made in our Time International piece…

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  • Video Interview on Tech Ticker: Roubini: “Bear Market Only Half Over, But It’s Not Armageddon”

    This morning I gave a video interview at Yahoo Finance’s Tech Ticker; this video interview elaborated on my latest detailed article about “The Coming Systemic Bust of the US Banking System: Dead Stocks Rallying”. The first part “Roubini: Bear Market only Half Over, But It’s Not Amageddon” of this three-part video interview can be found […]

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  • The Coming Systemic Bust of the U.S. Banking System: “Dead Stocks Rallying”

    This past week started with concerns about another systemic meltdown of the U.S. financial system as the insolvency of Fannie and Freddie was revealed and as Indy Mac went bust (this is the third largest bank collapse in U.S. history). But the week ended with a remarkable rally of financial stocks as better than expected results from Wells Fargo, JP Morgan and Citi soothed the fears that major financial institutions were in even more distress than already predicted by market analysts.

    Unfortunately, this massive rally of financial stocks in the latter part of the week is just another temporary bear market rally that will fizzle away once the onslaught of bad financial and macro news builds up again.

    The views I presented in a recent blog that we will experience a severe financial and banking crisis received the support of many well respected commentators. Alan Abelson – at Barron’s – is one of the most senior and well known commentators on financial issues and on Wall Street. In his latest Barron’s column – aptly titled “Dead Stocks Rallying” he wrote:

    WHY WE’RE STILL BEARISH WAS SPELLED out starkly in a dispatch we received last week from Nouriel Roubini. Nouriel is a professor of economics at NYU Stern School of Business (but don’t hold that against him) and runs an economic advisory firm called RGE Monitor that casts a knowing and clear eye on the global financial and economic scene. We think he’s top-notch (which means we agree with him, a lot of the time).

    The nub of his argument is that we’re suffering the worst financial crisis since the Great Depression, and he proceeds to give chilling chapter and verse. He predicts that hundreds of small banks loaded with real estate will go bust and dozens of large regional and national banks will also find themselves in deep do-do.

    He reckons that, in a few years, there’ll be no major independent broker-dealers left: They’ll either pack it in or merge, victims of excessive leverage and a badly flawed and discredited business model.

    The Federal Deposit Insurance Corp., after it gets through picking up the pieces of IndyMac, will sooner or later have to get a capital transfusion, Nouriel asserts, because its insurance premiums won’t cover the tab of rescuing all the troubled banks. He foresees credit losses ultimately reaching at least $1 trillion and anticipates a heap of woe for credit purveyors across the board.

    The poor consumer, he contends, is shopped out and being hammered by falling home prices, falling equity prices, falling jobs and incomes, rising inflation. The recession he anticipates will last 12 to 18 months. And the rest of the world won’t escape: He looks for hard landings for 12 major economies. As for the stock market, he hazards that there’s plenty of room left on the downside. In fact, he feels the bear market won’t end until equities are down a full 40% from their peaks.

    We must say this vision is a mite too apocalyptic even for us. But Nouriel is not a professional fear-monger out to make a splash with end-of-the-world prognostications He’s a sound guy with a solid record and an impressive résumé. We obviously believe his views are worth pondering, even if they ruin your appetite.

    That was a very nice summary by Abelson of my views and a kind endorsement of them.

    But how to square the views that a large fraction of the US financial system is in trouble with the apparently better than expected earnings results and lower than expected writedowns presented by financial institutions such as Wells Fargo, JP Morgan and Citi that led to the financials’ stocks most recent rally? There are many reasons why those earnings results are misleading and cosmetically retouched upward while the true financial conditions of the financial system are more dire than otherwise presented.

    Let us discuss next in some detail the various reasons why financial conditions of financial firms and banks are much worse than those headline figures and why we the US will experience a systemic financial crisis…

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  • American Un-Beauty: The Crisis of the Suburbian (McMansions and Gas-Guzzling SUVs) Way of Life

    A whole genre of films – such as American Beauty and Twin Peaks just to cite two cult classics – have unveiled the moral ambiguities – and at times the darkness – that lurk behind the bucolic and idyllic façade of American Suburbia. The pretty and prototypical image of such suburbian lifestyle is the seven-bedroom and four-bathroom McMansion with a driveway where three gas-guzzling SUVs are parked (one for dad, one for mom and one for the kids) and a sprawling green lawn that is perfectly manicured with sprinklers spewing hundreds of gallons of water a day.

    Thanks to the worst housing recession since the Great Depression, sky-high gasoline and energy prices and rising water shortages from global warming this suburbian American dream way of life is turning into an economic and financial nightmare. Let us count the ways of this nightmare…

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  • Bloomberg TV Interview: Worst Financial Crisis Since the Great Depression and Worst U.S. Recession in Decades

    I was on Bloomberg TV this morning being interviewed about financial markets, the economy and the upcoming testimony by Bernanke.

    As I put it in the interview: “This is a systemic financial crisis, there is no end to it,” Nouriel Roubini, professor of economics and international business at New York University, told Bloomberg Television. “It’s a vicious circle between a contracting economy and greater credit and financial losses feeding on the economy.”

    Regular readers of this blog are familiar with my views. But here is a summary and significant extended update of my views that this will turn out to be the worst financial crisis since the Great Depression and the worst US recession in decades…

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  • Insolvency of the Fannie and Freddie Predicted Here Two Years Ago. What Happens Next? Or How to Avoid the “Mother of All Bailouts”

    Two years ago in July and August of 2006 this author first presented here his analysis of why the U.S. would experience its worst housing recession of the last 50 years, why home prices would fall at least 20%, why the collapse of mortgages would start with the “subprime” ones (a term that at that time was unknown to 99.9% of the public including most investors) and how this housing bust would lead to a severe banking crisis and a credit crunch that would tip the U.S. economy in a recession by 2007. My timing of the recession call was off by six months – as the recession started at the end of 2007 rather than mid-2007 as then predicted – but all the other predictions turned out to be correct.

    At that time this author also predicted that this housing bust and mortgage bust would lead to a bust of the two government sponsored enterprises (GSEs) in the mortgage market, Fannie Mae and Freddie Mac. Predicting the insolvency of Fannie & Freddie was the obvious logical implication of the prediction of the worst housing recession in decades. So no wonder that this week headlines are all about Fannie and Freddie being insolvent and the systemic consequences of such insolvency.

    Let me now elaborate on those insolvency predictions, discuss what happens next when Fannie and Freddie go belly up and discuss why they should not be fiscally bailed out; rather – on top of wiping out their shareholders – their creditors/bondholders should also take a haircut to avoid the “mother of all moral hazard bailouts” …

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  • Interview on CNBC and Rising Estimates of Credit Losses from the Financial Crisis Now Up to $1.6 Trillion

    I was this morning on CNBC’s Squawk Box being interviewed – in part – by the legendary Mohamed El-Erian (co-CEO of Pimco) who is the lead guest for the show this morning. Mohamed is a friend/colleague and one of the most thoughtful and deep thinkers about financial markets and the global economy combining analytical academic rigor, senior policy experience (a decade long at the IMF) and the deepest and most sophisticated knowledge of financial markets. His latest book on global investing is a must read for all.

    Let me elaborate the point I made in the interview and some additional points on the economy and financial markets…

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