Debt Free

Much of the furor has been caused by statements by former (retired in March) Federal Reserve Bank President William Poole in an with Bloomberg yesterday, and an interview with Reuters at the end of June. In his Bloomberg interview, Poole indicated that Fannie Mae is upside down, owing more than their asset total. The fair value of FNMA's assets fell some 66%, as real estate deflation takes hold in many markets.

William Poole has a long history of criticizing the federally backed mortgage lending corporations, and as recently as last year called for revocation of their federal charters.

He is also of the opinion that continuing to cut interest rates, as the Fed has done for a while now, is not going to help the economy, but rather cause an inflation problem. Here are some quotes from the interviews:

"I think policy has been too accommodative and there is a substantial risk we'll see inflationary pressures more generally unless the Fed reverses."

"The longer they delay, the greater the risk it will get into inflation expectations and wages,"

"I would look for opportunities to raise interest rates sooner rather than later."

"If we pump up demand in these circumstances with expansionary monetary policy ... we'll end up with inflation rather than higher demand resulting in more output,"

"It is adequate at this time to say, 'We'll undo the emergency rate cuts, and define the magnitude (of that easing), and once we get there, we'll reassess the (situation)."

“Congress ought to recognize that these firms are insolvent, that it is allowing these firms to continue to exist as bastions of privilege, financed by the taxpayer,''

``We know in a crisis the Federal Reserve tap would be open,''

According to past statements, Poole is of the opinion the the Federal Government will probably have to take over the two mortgage giants as the mortgage foreclosure situation worsens.

What does this mean for us little people? Well, current Fed Chairman Ben Bernanke feels that the two corporations should be used exclusively to back affordable housing loans. Could they be retooled to serve such a function? Possibly, then the majority of the taxpaying public could see more of their money used for subsidizing low income housing. Currently FNMA repackages about 23% of all U.S. mortgages as mortgage backed securities to be sold in the world's financial markets. One doubts that 23% of all U.S. housing could fall into the affordable housing category, so their allocation would be changing.

How much would it cost the American taxpayer and the economy as a whole if the two were to fail or require a massive government bailout to avoid failure? Currently they are much the same position as many banks. The security they're using is based upon a depreciating asset, in this case U.S. residential real estate. They posted a Q1 loss of over $2.1 BILLION against assets of $42 billion and an outstanding loan portfolio of about $2.7 TRILLION. If only 2% of their loans were to become uncollectable, that would consume all their capital.

As a reference, the current default rate for 8 quarter old loans originated in 2006 is about 6/10 of 1%. Nothing to be afraid of, right? Guess again. Looking at the 8 quarter old point for loans originated in 2000 – 2003 reveals that when those loans were 8 quarters old, their default rate was about .1 - .15%. Moreover, those loans have gone on to default rates of an average of 1%, trending upward. That would mean the newer mortgages are on pace to experience a 5% - 6% default rate, far beyond the point where Fannie Mae's resources would be exhausted. Guess who'll pick up the tab then? Where will all that money come from, anyway?

Posted by debtblog at 08:28 PM | Permalink | Comments (0) | TrackBacks (0)

The national debt is cumulative amount our federal government has spent in excess of the revenue it has collected. This is done by the federal government issuing debt securities (bonds, notes, and bills) which are sold to investors. These securities are issued by the Federal Financing Bank and are known as public debt.

In addition to the debt sold to private investors, there are also intra-governmental holdings. These are government securities that are issued by one government agency and held by another. Such debts can include revolving accounts and trust funds. These intra-governmental holdings amount to about 40% of the entire national debt and are actually growing at a faster rate than the public debt portion of the national debt.

The national debt is not the total private debt of U.S. citizens, so don't think that outstanding debt on your Visa is contributing directly to the national debt. It's not, it's only hastening your own financial demise.

Although federal tax revenues have grown to record numbers either in spite of, or because of the Bush tax cuts, depending on whose side of the aisle you happen to sleep on, our federal debt has ballooned out of all proportion to the country's population increase. Although Bush cut the tax rate, the amount of revenue actually grew. This helps to illustrate that if you're trying to increase total tax revenues, you have to cut taxes to the point where the increase in economic activity generated by the larger amount of money in the private sector maximizes total tax revenue; no more and no less. If the tax rate is too high it takes money out of the private sector to the point where economic activity contracts, and tax revenues are actually reduced. If the tax rate is too low, the increase in economic activity doesn't compensate for the decrease in the tax rate.

As I write this our national debt is approximately $9.37 TRILLION. After you complete the task of wiping the vomit from your keyboard, you should know that it hasn't always been like this. If the growth rate of the national debt from 1945 to 1970 was maintained, our national debt would stand at about $1.9 trillion after adjusting for inflation, a staggering sum, but only a fourth of it's actual total. Even taking the growth rate from 1970 to 1975 our debt would be at about $3.9 trillion, or only about half what it is today. What the hell happened that has caused our national debt to explode in such a sick fashion?

A succession of over spending administrations and congresses have combined pork barrel projects, entitlement programs, and defense spending have caused the total of our national debt to spiral out of control. With the exception of the last 2 years of Carter, the first 2 years of Regan and Clinton's second term, the spend happy federal government has devoted most of it's energy to pleasing all those in the private and public sector, in addition to different voting blocks, that have been lining up with their hands out.

The mindset of many people in the country seems to be that of “buy me more stuff and I'll vote for you”. Just as coddling your kids in a search for popularity can run up your visa bill, congress and the various administrations have sought to please this block of voters and that by basically bribing them for their votes with entitlement programs and special projects, and in so doing, have blown up the national debt.

Say what you will about President Clinton, and I've said most of it myself, one thing he did help to do (aided tremendously by the Republican congress, before it jumped on the “let's spend more money” express) was actually reverse the growth of the national debt. As America swings more toward being a nation of citizens that expects to be provided for, (and politicians that are only too eager to comply), rather than one populated by self reliant, independent (I use that in economic, rather than political terms) citizens, the trend of a ballooning national debt will be harder to contain.

Where do we spend our federal dollars that have caused the national debt?

Here is where the Intra-governmental funds are spent according to the treasury's National Debt Schedule from 2007 and the agency that is responsible for it.

Fund                                                                               2006      2007

SSA: Federal Old-Age and Survivors Insurance Trust Fund 1,968,262 1,793,129

OPM: Civil Service Retirement and Disability Fund 687,665 675,936

HHS: Federal Hospital Insurance Trust Fund 319,377 302,186

SSA: Federal Disability Insurance Trust Fund 213,830 202,178

DOD: Military Retirement Fund 190,232 181,810

DOD: DOD Medicare-Eligible Retiree Health Care Fund 92,191 72,740

DOL: Unemployment Trust Fund 74,923 66,213

FDIC: The Deposit Insurance Fund 47,515 46,216

DOE: Nuclear Waste Disposal Fund 39,435 36,482

HHS: Federal Supplementary Medical Insurance Trust Fund 39,248 32,306

DOL: Pension Benefit Guaranty Corporation 35,775 36,635

OPM: Employees Life Insurance Fund 32,965 31,282

OPM: Postal Service Retiree Health Benefits Fund 25,491 0

HUD: FHA – Liquidating Account 22,405 22,030

Treasury: Exchange Stabilization Fund 16,436 15,711

OPM: Employees Health Benefits Fund 15,890 14,822

DOS: Foreign Service Retirement and Disability Fund 14,378 13,876

DOT: Highway Trust Fund 12,205 10,998

VA: National Service Life Insurance Fund 9,752 10,189

Other Programs and Funds 86,373 85,114

Interest on the national debt is a large amount of the debt , and although that percentage has fallen with interest rates the total amount continues to grow, in 2007 the federal government spent $430 billion on just national debt interest payments, compared to $405 billion in 2006. You can see that debt service is a large problem.

The greatest public uses of the national budget and thus the debt are, in order:

#1 Health and Human Services $670 Billion

#2 Social Security Administration $625 Billion

#3 Department of Defense $575 Billion

#4 Treasure Dept (includes interest) $480 Billion ($430 Billion of that is interest)

#5 Department of Agriculture $ 93 Billion

#6 Department of Vets Affairs $ 74 Billion

#7 Dept. of Education $ 54 Billion

You can see that the largest contributors to the debt, by far, are HHS, SSA, DOD, and Interest on the debt itself. So that is the cause for the national debt, but spending too much is the root cause and will remain so as long as we spend so much on ourselves.

Posted by debtblog at 02:11 PM | Permalink | Comments (0) | TrackBacks (0)

For the rest of you, here is the reason that gas prices are so high. There is a little known office, high atop an office building in mid town Manhattan. In that office, on the 3^rd Tuesday of every month, there is a meeting of an even lesser known group of people, almost exclusively older, white, men by the way, who shape the future of world economics.

In these meetings they discuss how to separate the absolute maximum amount of money from the poor and downtrodden to enrich themselves, hopefully at the expense of all that is good and decent. The name of this secretive organization is the Commission for the Maximization of Oil Derived Revenues (CoMODR). They have been known to resort to all manner of tactics to not only achieve their stated goal of keeping gas prices, and other petro product prices, as high as possible.

Not only that, but more than a few good people have died trying to penetrate the inner workings of their organization, all to no avail. As can be seen when you drive by any corner gas station, gas prices are still going up, largely thanks to the efforts of these men. Thanks to modern technology and good old fashioned greed, their efforts to drive up gas prices are more successful than ever. Once, the thought of $125 barrels of crude oil and $4.00 gallons of gasoline were but pipe dreams to these men, something they could only hope to achieve.

Okay, so that’s all a total load of crap, but you would probably find that story a pretty easy sell to at least some of the aforementioned 203 million American drivers and the burgeoning crowd of conspiracy theorists spawned by ever increasing gasoline prices.

So, why is gas really so high? Is it all due to a secret conspiracy, or reckless oil company profiteering? Actually the reason gas prices are so high is a bit more simple than that.

As noted there were 203 million drivers and 244 motor vehicles in the U.S. in 2006. Worldwide, there were an estimated 850 million vehicles (Organization of Arab Petroleum Exporting Countries figures). Contrast that to 1973. In 1973 the U.S. had approximately 122 licensed drivers and 126 million motor vehicles. Worldwide, OAPEC estimates reveal about 298 million vehicles in 1973.

According to the International Energy Studies Group at Lawrence Berkeley Laboratory, the average fuel economy of U.S. driven, light duty, motor vehicles, the group that includes the cars and light trucks that are the predominant transportation resource for American drivers, was only 13.3 mpg. In 2006 that figure had increased to 21mpg (EPA figures). The fuel consumption figures will improve even further in the U.S. due to recent legislation, and the higher price of gasoline and diesel pushing consumers toward more efficient vehicles.

So fuel economy has increased, but not nearly enough to offset the increase in the number of drivers and motor vehicles. This is especially true when worldwide fuel usage statistics are considered. As the world economy has improved and population has increased, so has the demand for petro-products, including gasoline.

Here is the underlying reason why gas prices are so high.

Total U.S. refinery capacity (approximate):
1973 – 13.5 million barrels / day
2004 – 17.5 million barrels / day
This reflects a refinery capacity increase of 29.6%

World Wide Crude Oil Production (U.S. DOE):
1973 – 55.68 million barrels / day
2006 – 73.45 million barrels / day
This reflects a crude oil production increase of 31.9%

World Wide Crude Oil Consumption (U.S. DOE):
1973 – 57.24 million barrels / day
2006 – 85.01 million barrels / day
This reflects a crude oil consumption increase of 48.5%

Consumption increase far outstripped production increase for the period from 1973 – 2006.

U.S. Crude Oil Production (U.S. DOE):
1973 – 9.21 million barrels / day
2006 – 5.14 million barrels / day

This represents a crude oil production decrease of 55.8%

Total U.S. transportation related petroleum consumption:
1973 – 9.05 million barrels / day
2006 – 13.98 million barrels / day
This represents a transportation related crude oil usage increase of 64.7%

Also note that in 1973 U.S. refinery capacity exceeded transportation related demand by 49.2%, while in 2004 (transportation related crude oil demand was 13.76 MBD) they exceeded demand from the transportation sector by only 27%. As 100% of refinery capacity is not available at any given time for a variety of reasons, this, coupled with the fact that demand for motor fuel has risen, while U.S. capacity has been slashed by about 40%, means that we now import much of our gasoline, rather than producing in excess of our demand, as we did in 1973.

You may note that according to U.S. DOE figures worldwide crude oil consumption exceeded supply in 2006 by an average of 11.56 million barrels per day. I triple checked the figures on that, because it seems patently impossible that world wide consumption could outstrip supply by such a large margin.

That would mean that in 2006 the world used 4.2 billion more barrels of crude oil than it produced. Is there a giant tank of crude oil somewhere that I’m unaware of, or are these figures calculated using different methods? If those figures for supply and consumption are indeed true, that’s the reason for gas prices to be so high and be prepared for them to rise even further.

One last thing. Don't forget that the American dollar just doesn't buy what it once did, and that includes gasoline and oil. 

Here is a post on some Tips to Save Gas.

Can you burn water in your car or truck and get a 50% or more increase in gas mileage? I don't know, but it sure sounds great. Decide for yourself here. 

Posted by debtblog at 08:58 PM | Permalink | Comments (0) | TrackBacks (0)

Weather you’re taking about the economy or your hairline, recession is something you’d rather stay away from. In the case recession is a normal part of the business cycle. Normal business is cyclical, going through periods of expansion and contraction. When the economy stops growing, BAM! You’re in a recession.

The normal definition of recession is one of those things that is confusing because, well, there isn’t a “normal definition”. It’s pretty easy to get a fist full of answers on the subject, but they can be distilled down in to basically this:

A recession is when aggregate business activity declines on a national level for two consecutive quarters.

People will argue that although recession can be defined by a two quarter reduction in real GDP, such a definition fails on a couple of points, although a recession by either definition could certainly include a drop in GDP. Some economists feel that the real GDP definition of recession ignores two other large economic indicators; employment level and aggregate income. They also point to sales in the manufacturing and retail sectors as important contributors to overall economic activity that should be reflected in any discussion of recession, and weather or not the nation is in one.

The economists that support the expanded definition feel that it gives a more accurate picture of economic growth and contraction than just looking at the real GDP. For example the GDP could be flat or slightly rising for two quarters as many Americans were experiencing layoffs and others were being shifted into low income jobs. GDP however is a measure of the aggregate dollar amount of goods and services produced. As productivity increases the total value of produced goods could actually rise as other as GDP fell. The reason for the new take on recession is that including the other economic indicators in the definition, along with GDP, helps paint a more accurate picture of recession and weather or not we’re in one.

Is a recession the same a depression? Thankfully, no. A recession is a milder economic malady, and just a normal part of the business cycle.  A depression, on the other hand, is a much more cataclysmic, and fortunately rare, event. One definition of economic depression says that a depression is a reduction of the real GDP by 10%. That’s pretty bad, and it’s a good thing that the U.S. hasn’t seen such a plunge on our output since just before WWII.

There; now you know the definition for recession and why it isn’t a depression. You can start thinking about how to deal with it until the next period of unbridled economic joy.

Posted by debtblog at 07:42 AM | Permalink | Comments (0) | TrackBacks (0)

Who’s James Lockhart, and why should you care? Lockhart is the head of the Office of Federal Housing Enterprise Oversight, or OFHEO, another one of the seemingly endless number of government alphabet agencies entrusted with ensuring your well being. The statements uttered by Lockhart yesterday gave insight to how some on the hill would handle the credit industry problem, if left to their own devices; more government intervention, as we saw recently in California.

Freezing wages, prices or any other monetary attribute is always a bad idea. Historically it has never worked, and there’s no reason to think this would buck that trend. If mortgage lenders are restricted in the interest rates they can charge it will make the problem worse, and here’s why:

The problem now isn’t that mortgage interest rates are too high. It’s that many well qualified buyers are being left out in the cold when it comes to getting a mortgage, due to very tight lending policies. Lenders don’t feel like they are getting enough return to justify the risk from any but the most ‘A’ rated borrowers. Freezing the allowable mortgage interest rate will only exacerbate the problem. Telling investors that they can’t get the return on their investment they feel is warranted to justify the perceived risk will only cause them to invest else where. You’ll get capital flight from mortgage loans to other investments.

With less capital available for mortgage lending, there will be even fewer available mortgages, leaving even more willing (many with very good credit) home buyers out in the cold than there are now. As fewer home buyers can get mortgages, people will not be able to sell their existing homes to buy new ones. This will mean that home builders will be sitting on inventory, and paying carrying costs. The combination of unsold new home inventories (creating a lack of revenue) and carrying costs will cause even more problems in the nation’s home builders, and they will lay off additional employees. In addition, the small business owners that are the subcontractors for these builders will be forced to lay off employees or go out of business entirely.

Once again artificial fiscal controls will have exactly the opposite consequences than what was intended. Government meddling to control private markets will almost always conspire to limit supply, and make the situation worse. The mortgage interest situation would not be any different.

Have a great, Debt Free weekend!

Posted by debtblog at 02:41 PM | Permalink | Comments (0) | TrackBacks (0)

’07 F430F1 Spider, Russo Corsa, Beige Lthr, 721 mi, $339,995
’07 F430F1 Spider, Russo Corsa, Beige Lthr, 1,321mi, $324,995
’06 F430F1 Spider, Nero, Cuoioe Lthr, 4,545mi, $314,995
’05 F430F1 Spider, Grigio Silverstone, Girgio Lthr, 3,444mi, $289,995

These Ferrari ads are straight from yesterday’s business section. What can be gleaned from this, vis-à-vis the U.S. economy? Well, when you consider the base price of a 2007 Ferrari F430F1 Spider is $211,000 before any (extremely high priced) options are added, it means that there is tremendous demand for a car that costs upwards of a quarter of a million dollars. Now the price of admission to enjoy the wonderful shriek of a Ferrari power plant at full boil has never been cheap, but this makes that $1,995 2nd sticker your local Mitsubishi dealer has on a new Evo X look positively tame.

This indicates that certain segments of the U.S. economy are humming along nicely indeed. I call this the “Ferrari effect”. When there is such pent-up demand for extremely expensive goods, it indicates that there is an extreme amount of wealth floating around, and those that hold it aren’t afraid to spend it. That propensity for the wealthy to continue their unabashed spending on luxury goods is a great thing for the rest of the economy.

Ferrari must agree that those that have money will continue to spend it, as they just announced that carbon ceramic brakes, formerly a (are you firmly seated) $16,800 option on the F430, will be made standard equipment for 2008. Rest assured, they will not just give those beautiful discs of carbon away, a large portion of the $16,800 will be rolled into the base price of this year’s cars.

It is really quite astounding the level of demand of such an expensive vehicle. A client of mine recently took a journey to the local Ferrari dealer to buy Ferrari’s latest masterpiece, the 12 cylinder 599. The 599 lists for over $250,000, but that hasn’t discouraged a lengthy queue of buyers from forming. My client actually returned from the dealership with a 2005 F430F1 that he paid who knows how much for, after putting down the requisite deposit to secure his place in line for the 599. Sometime in the next 24 – 30 months, he’ll actually take deliver of it.

Something else that indicates the propensity of those that have money to spend it when they really want something

(As an aside, many of the very wealthy people I’ve known, and I've known quite a few (never been one of them, though), are extremely cheap. They won’t spend one extra penny if they don’t see the value in it. It’s an extremely common trait in those that have generated their own wealth. From that you can draw your own conclusions. Consider this, however; the major cause of the massive level of credit card debt exhibited by Americans today is a pattern of consistently spending beyond one’s means. Anecdotal evidence from those people I’ve seen that have accumulated a large amount of wealth do not have that trait.)

is the price structure of luxury vehicles, such as Porsches and Ferraris. Many would expect cars in this price stratum to have a very high level of standard equipment. Actually quite the opposite is true. Many things you’d expect to be standard are actually options, and very expensive options at that. For example, consider  the Bose sound system (including 3-way component front door speakers with 10-inch subwoofers) on a new Infiniti G35, by all accounts a very nice car, is a $2,500. For good measure, Infiniti has also thrown in a power sliding tinted glass moonroof, heated front seats, a power tilt and telescoping steering column, automatic anti-glare rearview mirror with HomeLink® Universal Transceiver and compass, heated mirrors and a Bluetooth phone interface.

On the Ferrari F430, the Bose sound system option, all by itself, never mind such niceties as a Bluetooth interface, is a robust $7,250. Ouch! So, maybe you really don’t care all that much about a better sound system. You’d rather listen to the engine anyway. Well, you’d think a car that retails for as much as a house in Cleveland would at least include power seats, but no. In the Ferrari they will set you back an additional $2,653. The ones in my Jeep were only ¼ that much.

The point is that the Ferrari effect is still alive and well in many areas, although the economy looks like it’s poised for a slowdown. When the Ferrari effect goes away, we’re in for some rough sailing ahead. So, take a look at the business section. When the ads for overpriced Ferrari’s disappear, you’ll know we’re really in a lot of trouble.

Have a great, Debt Free weekend.

Posted by debtblog at 03:29 PM | Permalink | Comments (0) | TrackBacks (0)

Overseas markets, after experiencing some dramatic gains over the last few years, are showing signs they may be succumbing to something akin to rampant panic about the future of the U.S. economy. The major markets in Germany, Brazil, and India all fell by more than 6%, and the Hong Kong exchange dropped by 5-1/2%.

Where does this market drop, coupled with record energy costs, and a shaken credit market, leave you, the investor, business owner or employee, who's wondering what the future will bring? Funny, that's who the whole thing depends on. The entire economy is a veritable house of cards, built on the backs of consumer and investor confidence. If investors and consumers get sweaty palms and stop pouring money into the whole thing, it's just like a fireman on a train neglecting to shovel coal into a hungry boiler. The train will inevitably slow. If that happens as the train is on an uphill climb, that slowdown will occur more rapidly.

What can you do to ensure that your economic future is isolated from the world wide jitters to the greatest extent possible? Nothing you do can completely ensure that you'll be free from a chance of a bit of economic doom and gloom, but in every market, no matter how dire, there lies opportunity. Your job is to find that light in a dark economic tunnel.

Where to look? Well, you have a few choices. The demand for some things will never slow as much as the demand for others, no matter the extent of economic downturn. Such products have a relatively inelastic demand, meaning that the quantity demanded of these products or services is relatively less price sensitive than others. The price can drop and demand will not go up all that much, but then neither will it decline when prices go up.

Still other products and services are actually in greater demand when the economy slows down. You have yet another group of products that experience a quantity demanded that rises with the population, and the world wide population continues to rise, as it has since the beginning of time. Finally, with the Fed's rate cut, there will be a supply of relatively cheap money. If that does not cause a significant rise in inflation, cheap money will grease the economic skids and cause even more opportunities to open up. All these factors will converge to bolster and or insulate the markets for certain products and services, such as those that provide for basic needs, or help others ride out tough economic times.

As a business owner, employee or investor you must investigate what opportunities are opened by these conditions. For the business owner it means some markets will open to you, even as others slow down. If you can provide those things that can help others compete when their market gets tougher, that is one such opportunity. Look into the future now, before your business experiences a major downturn, find those markets and take advantage of them, while the opportunity exists. For you as a business owner, any products or services that help other businesses differentiate themselves from their competition will be in demand, as other business owners fear their market share is slipping away or slowing sales is cutting into their revenue. If you have a business that caters to the end user, look to any product or service that can help the consumer ride out tough economic times.

The important thing for both of these kind of opportunities is that you act now. You must position yourself to take advantage of them so you are the one who your customers look to as a solution in their time of need. That will help ensure it's not a time of need for you as well. A bit of planning now will help you to escape a plunge in your business.

If you are an employee, the time is now to ensure you are the most valuable employee in your organization. Sadly, if you work in some union shops, your value may not matter, as any layoffs will be done strictly on a seniority basis. For others, now is the time to buckle down, as your value to your employer will have a direct effect on two things; your likelihood of retain your job if the need arises for your employer to respond to a declining market, and the ultimate success of your organization in such a market. If you are positioned well in both of these areas, you stand the best chance of not only riding out a storm, but possibly rising to the top during the bad weather.

Take any extra training you can during this time to increase the value to your employer. Do special projects that can bring your employer extra market share or revenue. Find new and innovative ways to cut costs that will directly impact your employer's bottom line. All such moves can not only help your employer ride out any tough economic times, but help ensure you a key place in that organization for a long time to come. This may also be a great time to consider a side business to help bolster your personal revenue, if such opportunities exist (and they usually do). Just ensure that you can do this without impacting your job performance, as now is hardly the time to be perceived by your employer as withholding effort.

Posted by debtblog at 02:36 PM | Permalink | Comments (0) | TrackBacks (0)

Wal Mart has become a center of American life in many towns. Are they helping us sink deeper in debt to China? Definitely, but much of the blame for that can be placed squarely on the shoulders of consumers themselves. After all, if the majority of consumers would look farther than the price tag when they made their purchases, they may decide that the trade offs of buying non-Chinese produced products (if they could find them) would be worth making.

Why has Wal-Mart been so successful? A number of reasons, but two of the primary ones that stand out are their prices and the ultra efficient distribution system that allows them to be profitable at very low margins. Indeed, a 2003 study by economics professor Kenneth Stone of Iowa State University found that Wal-Mart's distribution cost per unit of sales was approximately one fourth that of Sears, and one third that of K-Mart (maybe one reason why K-Mart had to declare bankruptcy?).

Wal-Mart Super Centers can dramatically affect the economy of the entire county. Indeed, a Mississippi study in 2002 found that total sales in the counties with such stores were up over 10% beginning three years after the store opened over counties without Super Centers. Another finding cited in the Stone study was that when a building materials super center such as Wal-Mart, Home Depot or Lowe's is opened, it causes the gross sales in that town to rise by between $30 - $50 million.

Another effect of Wal-Mart on our nation's economy is cited by a 2005 study performed by economic research firm. They found that Wal-Mart made a statistically significant impact on keeping U.S. inflation at bay because of their low prices. They also found that Wal-Mart improved the entire U.S. economy's efficiency by .75 percent. Note here: The study was commissioned by Wal-Mart.

Many critics complain bitterly about the tactic used by Wal-Mart to secure such low prices, but vendors trip all over themselves in order to count themselves as one of the retail giant's customers. Perhaps it would be better to exclude them from one's customer list and avoid the pressure of succumbing to their every whim? After all, having such a large account is similar to the way taxes affect our government; once they get used to a revenue source, it is very difficult to let it go. Better to avoid it in the first place?

Posted by debtblog at 03:01 PM | Permalink | Comments (0) | TrackBacks (0)

Almost nowhere else in the marketplace does the race to zero paradox exist. Sure, our cars and homes have far greater content than they did 15 years ago, but they are commensurately more expensive. Consumer electronics, on the other hand, offer consumers more of everything; screen size, performance, features, and functionality, at prices that have been lowered to the point where products are experiencing price compression. Soon consumers will make their choices more on application than price, because the incremental cost of changing in sizes or adding features will be comparatively small.

If you were to shop for a home, and the incremental cost of adding 1,000 square feet was only $10,000, and the larger home cost little more to operate, many consumers would reside in 10,000 square foot McMansions. So it is with consumer electronics. This holiday shopping season, consumers will be treated to an embarrassment of riches and one they have come to expect. As manufacturers and retailers destroy the value proposition of their goods, they will have only themselves to blame when it becomes difficult to make a profit.

Consumers have come to expect lower prices every few months, and they expect innovation to continue unabated. Consumer electronics manufacturers are therefore forced to spend huge sums on R&D. On the flip side, many of the products are now so good that if new technologies and functionality were not developed, manufacturers would find themselves hard pressed to sell replacement products to existing customers. Few outside the enthusiast niche would see the need to upgrade.

The great thing for consumers is that the increased hardware capability has opened the doors for a flood of new applications. I attended a talk by futurist Ray Kurzwiel a few years ago, and he predicted the pace of change would actually accelerate in a geometric fashion, spurred on by the power of innovation to facilitate additional innovation. We’re witnessing such a period now.

A 42” flat screen HDTV that you can hang on your wall for less than a month’s rent is only the beginning. (Rent will rise, TV prices will fall) Soon the size of the TV will be limited more by the size of your wall than the size of your budget. We’re seeing that now to an extent, as equal quality sets in the 37” – 50” range are within a $1,000 of each other. New technologies will render current ones passé and the cycle will begin anew, albeit at a lower price point. This holiday season should be a great one to fortify your entertainment, navigation, or information system. Then again, if you wait a few years, maybe you’ll be able to have all that, and more, for half the price. If you play that waiting game in this market, you’ll be waiting forever.

Have a great, Debt Free, weekend.

Posted by debtblog at 06:55 PM | Permalink | Comments (0) | TrackBacks (0)

It seems that even within the Fed, there are differing opinions on the direction faced by the U.S. economy and risks faced by consumers (you) in the coming year. If the esteemed directors of our federal reserve bank can’t agree on where we’re going economically, how are you supposed to plan for your financial future?

According to Fed Governor Frederic Mishkin and the head of the San Francisco Fed President Janet Yellen both seem to have a pessimistic outlook on our immediate economic future. Mr. Mishkin stated "consumer and business spending also could be damped as a consequence of the recent financial turmoil" The timing of such pessimism, directly before the traditionally busy Q4 retail season, might give consumers pause before they head out to max out their credit cards yet again. Keeping Americans from going even deeper into debt would be a good thing, but, in the short term could give rise to all manner of economic problems, especially when combined with the troubles faced by the lending industry of late.

Mishkin and Yellen may be basing their opinions on the Fed report from July indicating that consumer credit slowed substantially over the same period a month before. Overall consumer credit showed a 5.9% growth rate in June, but that plunged to a 3.7% clip for the month of July. The 37% decline in month over month growth in consumer indebtedness may actually portend increased health in consumer spending patterns, for as sure as the debt financed spending has driven the economy to new heights, it hasn’t helped many Americans personal financial picture. Even more ominous for many Americans personally, the revolving (credit cards, store accounts) sector of the consumer credit report indicated substantial growth (6.6%), while non revolving credit (HELOCs, mortgages, car loans) showed much slower growth, at 1.9%.

It seems too many feel leverage is the name of the game. Sadly, the majority are leveraging birthday presents, travel and new goods with which to fill up their homes. This is leverage to indebt, rather than leverage to enrich, a much more appropriate use of the most powerful of financial and business principles.

Within the Fed, there remain those who are hopeful on the direction of economy as a whole, however. Flying in the face of the pessimism shown by their partners in New York and San Francisco, the main man at the Dallas Fed office, Richard Fisher, indicated he was encouraged by the economic trends, and saw strong economic conditions in the future. Charles Plosser of the Philly Fed office seems to be feeling more like many of you, a bit confused about the direction of the U.S. economy in the near future. He indicated there was “conflicting data” about where the economy was headed.

If the Fed overcomes their confusion and lowers the interest rate an additional quarter next week, as many analysts and economists are foreseeing, where does that leave you, the consumer? If you are looking to get a mortgage or other consumer credit, and are able to qualify, it leaves you in a pretty nice position, actually. The interest rates for major types of financing continue to show declines for those who the lenders are allowing to qualify for credit. HELOCs are showing rates about a tenth below last week, mortgages of all types are showing at least that much of a decline, and auto loans edged slightly lower in the past week.

Those in the market for a vehicle may be able to grab one of the low interest financing deals that pop up at the end of a model year if they have no troubles driving a car at the end of the model year. When making your financial calculations before you buy a vehicle (you do work these things out before you buy, don’t you?), don’t forget to factor in the added depreciation you’ll experience because you are driving a vehicle that’s basically a year old as you drive it off the lot.

An additional drop in interest rates may give the stock markets a bit of a boost, although most investors have probably figured it into their market activity already. The aforementioned Mr. Mishkin votes on the Fed interest rate committee and if the Fed does cut rates, as most seem to be expecting, it could be time to take advantage of the lower interest rates for consumers, but not by boosting the amount of their credit card debt. If the remarks by Ed Hyman a few weeks ago turn out to be true, it could be just the latest in a continued string of Fed interest rate reductions.

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Ed Hyman, the highly respected leader of International Strategy and Investment Group, has predicted the Fed will eventually drop the federal funds benchmark rate to as low as 2%. This move will be an attempt to keep the economy chugging along! I’d say that may do the trick. ISIG is a fund with management responsibility of around $1 billion in bond funds, and Hyman has carved out a name for himself by consistently floating accurate predictions of things economic and financial, so I tend to put some weight behind his words. He’s not right all the time (he screwed the pooch in ’96 by indicating record low bond yields and temporary economic strength, both of which turned out to be incorrect), but more than most.
 

2%! That’s pretty interesting. How would that affect your financial decision making process? If you do have an ARM that tracks the Prime, you’ll be in for some low payments ahead, as the Prime tends to float about 3 percentage points above the federal funds rate. Many other indices will be similarly low, should Hyman’s prediction be accurate. There’ll be dancing in the streets, sure, but will this bring back some of the mortgage company’s loose credit requirements? Probably not nearly to the extent we’ve seen in the last 5 years. You can expect most lenders to require some paperwork to back up your claims of grandiose income and avarian assets.

With any luck, cooler heads will prevail. This may keep every Tom, Dick and Harriett from becoming a real estate investor, and folks may buy properties with the intent of actually living in them again!

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Does this mean that all low / no money down, and other non-conforming mortgage products should have been eliminated? Not at all. Many creditors use these mortgages for a variety of reasons, and are excellent credit risks. In addition, many of those mortgage customers who received these products have done fine, made their payments every month, and never gotten into any trouble whatsoever. Many of the problems stem from those mortgage holders who were relying on a continually appreciating real estate market to allow them to refinance their ARMs and other mortgages into more favorable loans before their interest rates adjusted. Others got into trouble due to unrealistic expectations of future earnings growth.

The mortgage was all to eager to help many of these folks into loans they should have never qualified for. The 93% year over year increase in foreclosures for July illustrates the point, and drives home the stark reality that there were some very poor decisions made by lenders. Based on personal experience, and that of others, mortgage lenders will allow customers to qualify for loans that are much larger than their income has a realistic chance of supporting in the long term (and mortgages tend to be so, for the most part). One can suppose they may review their loan qualification procedures to help prevent such problems in the future.

One wonders now if many investors aren't, in effect, throwing the baby out with the bath water. Causing the mortgage lenders to restate their loan portfolios to reflect added risk (which the increasing foreclosure rate proves is definitely there), makes them have increased cash reserves in order to meet collateral requirements. Many mortgage companies simply cannot do so. Other backers are calling their credit lines entirely. Again, the mortgage companies haven't a prayer of paying off the line. By so doing, the creditors are driving out of business the very companies whose loans they have invested in. Who wins then?

In the latest mortgage company collapse, Mortgage company First Magnus, out of Tucson, AZ, fired all but 60 of its 6,000 employees, ceased operations and filed for bankruptcy yesterday. Although they show over $900 million in assets against only $813 million in liabilities, they had insufficient liquidity to continue operations.

Mortgage companies are using various strategies to deal with the problems. Coutrywide Financial got 11.5 Billion in additional credit from a group of 40 different lenders, Capital One closed their GreenPointMortgage division entirely, and Thornburg Mortgage has sold over $20 billion worth of mortgage backed securities in order to raise additional cash. Cap One's decision will cost them about $860 million, but they decided it was worth it, rather than facing additional risk exposure. Thornburg expects their asset sale to ding them for over $900 million.

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In the news this morning was the fact that one of the largest U.S. mortgage lenders, Countrywide Financial, has completely drawn down one of their available credit lines due to the unavailability of cash for mortgages. The scary thing is that the credit line wasn’t small potatoes either, it had a limit of $11.5 BILLION! The news of the complete exhaustion of the credit line helped Countrywide stock to an 11% single day drop. Looks like another shorting opportunity in the mortgage industry. The larger question however, is what happens if one of the engines that’s been fueling our economy, mortgage money, evaporates like so many raindrops in the Sonoran?

We may be about to find out. Fannie Mae and Freddie Mac, the largest mortgage loan buyers are bound by statutory limitation to $1.4 trillion in total mortgage debt. They are awfully close to that now, and if they reach it will be unable to purchase any additional loans. This will further deepen the problems faced by Countrywide and others who must sell their loans as part of their normal business operations.

If no one is available to purchase the loans, the lenders will be stymied. So will you, the potential homebuyer. Yesterday Senator Charles “Chucky” Schumer out of NY said he’d introduce a bill for at least a temporary abolition of the $1.4 trillion debt limit faced by Mae and Mac. Where, or if there would be a new, higher limit imposed is unknown.

While fewer buyers in the existing home market would be a problem, in the new home market it could spell economic disaster. Already homes are sitting on the market as builders struggle to rid themselves of unsold inventory. This is a great opportunity for potential homeowners who can get a mortgage, but not so good for the hundreds of thousands of workers who rely on the homebuilding industry for their paychecks.

After steadily rising since 1992, the number of new housing starts has dropped precipitously in the last year, down from a high of just over 2 million in 2005 to 1.8 million last year. In the first 6 months of 2007. Figures released by the Census Bureau yesterday for July residential unit starts indicate that it’s not over yet. Far from it. July figures are on pace for an adjusted annual figure of only 1.381 million units. Obviously that’s a hefty drop from over 2 million, but even more telling is that it’s 20.9% down from the revised June estimate of 1.47 million annual units. To further illustrate the decline, the value of private, residential construction dropped from $694 million and $678 million in March and April of 2006 to $555 and $551 million in the same 2 months of 2007. This says nothing of the decline in existing home sales and remodeling projects, all sure to adversely affect the economy, and your wallet.

That will spill over into the economy in many different ways. If you work in the real estate, mortgage, construction, building supply, or appraisal industries, you’ve probably noticed a drop. However, construction jobs for both home builders and specialty trades have yet t experience the magnitude of decline that the drop in new housing starts would suggest. In fact, the number of those employed in residential construction

(I have no idea how they correlate this figure with the huge number of illegal aliens employed as sheet rockers, landscapers, carpenters, laborers, insulators, and roofers in this country. To what percent these official government figures reflect those workers, I have no idea. I have no doubt that the argument “They only take jobs Americans don’t want” will be a much tougher sell, as the number of unemployed American skilled and unskilled construction trades people grows.

Lest you think I’m exaggerating, just take a walk around the job site in any large scale housing development in this country [the few that are left]. Get there about 11:00am and see who shows up at the mobile burrito van for lunch. Count the number of those who speak any semblance of Englais. You could just as well be at a job site in Mexico City. I’m not discounting their work ethic or ability. They work very hard, and for the most part, do a good job, in record time. They’re just not legal and bring with them all the problems that represents, and more.)

sits at over 3 million, down only slightly from its peak in the summer of 2006. This fails to count employees and business owners in related industries that may, in fact, be feeling the pinch already. So far there has been about a 10 to 1 disparity in the housing starts to lost construction jobs number. Starts are down about 20%, while jobs have fallen only about 2%. It won’t stay that way forever. Builders won’t keep employees if they aren’t building homes. Buckle down.

Oh, and have a great weekend!

Posted by debtblog at 02:04 PM | Permalink | Comments (0) | TrackBacks (0)

China's a growing economic power, no question about it. It's economic growth is unprecedented in modern history. You'd have to have been doing your Rip Van Winkle impersonation for the last decade not to know about it. This dramatic expansion of the Chinese economy has affected us on several fronts, and will continue to do so for the foreseeable future. How will it affect you, your retirement planning, and your future economic well being? Here are some thoughts on the subject.

First, the average urban income in China has increased six fold in China since 1990, according to the official the Chinese government statistical yearbook. To magnify the importance of this growth, not only in is the income of the average Chinese city dweller increasing by leaps and bounds, but the majority of China's population growth is now occurring in the cities. Over 3 million new residents found their way into Chinese cities last year alone. This upsurge of relatively affluent city dwellers want to become consumers as is the case in much of the rest of the world. Repressed consumerism is hard to contain, and like any other natural force, it will eventually escape.

These new Chines consumers want to buy things alright, and one of the most sought after items in China is a new vehicle. Naturally, this burgeoning market has attracted automakers from all over the world like ravers to a free bowl of X. Obviously these new automobiles and shiny SUVs will consume fuel. What many onlookers fail to account for is not only the additional fuel consumed by the Chinese motoring public, but the added petro products consumed in one of the fastest growing Chinese industries, building all those new cars.

Not only that, but once they're built, they need somewhere to drive. China has embarked in a massive road building program. A Congressional Budget Office report on China compiled in April of 2006 indicates that the number of highway miles in China has increased by almost 100% in the last 20 years. Many of those roads are very petroleum intensive to build, requiring asphalt for the pavement and diesel for the road building equipment. The CBO report also indicates that there are sure to be plenty of new drivers for all those vehicles, as the number of new Chinese drivers has increased by a factor of 6 in the last 15 years, and the rate of growth in new drivers is actually increasing.

As you're doubtlessly aware, a preponderance of the new stuff lining the store shelves at the local CostWalget hails from new manufacturing plants in China, much to many people's chagrin. The production of these trinkets and plasma TVs eats oil at a prodigious rate. This is due not only to the energy required to actually produce the products but the majority of them contain a high percentage of plastic. For those of you that think that the rising price of oil just makes it more expensive to get to the store, think again. Most plastics are composed primarily of petrochemicals, so increased production of plastic products will naturally increase oil consumption. Factoring in all of the above, Chinese oil consumption is now over 7.5 million barrels per day. This is up from about 2 million in the early 1990's. If the present rate of growth continues, and there's nothing to suggest it won't, that will be up to about 16 million barrels by 2020, and pass the U.S. soon afterward.

So, what could all this mean to the rest of us and our economies? Well, if you are invested in companies that build products for sale in China, or services that are provided to Chinese, you could stand to do very well indeed. According to the 2006 U.S. CBO report on the subject, if the cost incurred by the increased Chinese demand were to be passed on to consumers, that alone could cause gasoline and diesel prices to rise by an average of $.24/gal. Light oil products, such as gasoline, petrochemical feedstocks, and diesel, are more expensive to refine than lower grades of oil products. The Chinese demand for these grades is growing even faster than the demand increase for oil as a whole. That could cause even further price increases if worldwide refineries have trouble keeping pace. In the U.S, policy concerns and damage to refineries caused by fires and hurricanes are pressuring refineries to produce even more form existing facilities. Hobbled by an inability to increase capacity through new refineries (if you've ever tried to get a building permit for a house in most of the major cities, you can just imagine how tough it would be to get one for an oil refinery) we'll likely have to look to foreign refining capacity to meet increased domestic demand.

The increase in petro prices in the U.S. will cause an entire range of consumer goods to increase in price, even as more of these goods are being made in China. Chinese consumer goods production actually serves to depress consumer goods prices due to their ridiculously low labor prices and modern production facilities. So we'll have more expensive consumer goods, and increased costs of bringing those goods to market, due to increases in fuel prices.

It's ironic that the very thing that is giving us these cheap consumer goods is one of the primary factors in the increasing fuel prices. If you purchase few Chinese made consumer goods, you effectively get stung much worse. This is because you're not benefiting from the lower consumer goods prices, but are paying high prices at the pump and on any products that are transported or made using petrochemicals. If you save money by purchasing inexpensive, Chinese consumer goods, you offset some of the price increases you're facing at the pump and elsewhere.

The whole subject of capital flight to China and the increased trade deficit with the Chinese is the subject for another day. If we'd open the gulf and the arctic to increased oil production, we could offset some of the trade deficit by supplying the Chinese with the oil they desperately need. In order to accomplish this however, we'd need to drastically reduce our domestic consumption, something the conservationists would relish. In fact, while it would be a great thing to reduce our oil consumption, our growing population is likely to make that difficult, even if we drive more efficiently and in more efficient vehicles.

Domestic initiatives to switch to alternatives such as ethanol have some merit, but while these could decrease our oil consumption, they'll do nothing to decrease our fuel consumption because these fuels have less specific energy content than gasoline. Most vehicles actually get substantially (20%-25%) worse fuel economy running E85 than running gasoline.

So the upshot is no, it won't doom the rest of us, you will pay more for almost everything though, even the Chinese stuff, because of the increased Chines demand for crude. You could, however view this as an opportunity. There'll be investment opportunities in firms that supply that Chinese economy. You just need to nose around a bit to find out where. Stay tuned...

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According to the U.S. Government's Energy Information Administration (they have administrations for everything) 2005 report “Emissions of Greenhouse Gases in the United States 2004”, the transportation sector in the U.S. produced 2,000 million metric tons CO2 equivalent (MMTCO2e) of greenhouse gas emissions. According to a new report Food and Agriculture Organization of the United Nations, agriculture is responsible for 18% of worldwide greenhouse gas emissions. However, in the U.S. agricultural emissions of methane and nitrous oxide, the two main greenhouse gas components of agriculture, amounted to only about 232 MMTCO2e in 2004. That's only 11.6% of the transportation total, and 3.2% of total emissions. Do we just have cleaner cows than the rest of the world?

Sadly, no, our cows are just as stinky as everyone else's. More likely is that we have more cars than cows, a situation not found in much of the rest of the world. As the rest of the world struggles to emulate our economic success, and pull it's people from the poverty that's enslaved them since the dawn of time, two things occur. One, they want to ride, rather than walk. Second, they want a nice burger. You guessed it, that makes for Chevy dealerships and McDonald's restaurants springing up around the world like 'shrooms after a spring rain.

When people are prosperous, much to the chagrin of the PITA crowd, they acquire a taste for beef. When they're poor, they eat more chicken, a foodstuff that's less greenhouse gas intensive to breed, raise and keep than cattle. According to the FAO report, per capita meat consumption in developing countries has tripled in the last 30 years, although it's still barely a third of that in developed nations. Developed nations however, are increasing their meat consumption at a vastly slower rate. The increase in the same time period only amounted to 18%.

Increasing prosperity is moving the world to increase greenhouse gas emissions. This is occurring at a greater rate in the developing world. Although the U.S. still leads the world in total greenhouse gas emissions, our output of gases as a percentage of our GDP is actually falling as we switch from a manufacturing to an information economy. As manufacturing capacity is increasingly moved from developed nations, such as the U.S., to third world and Asian countries, green house gas emissions move with them. Concurrently, citizens of developing nations have found the joys of zipping down the road in air conditioned comfort and are increasingly able to afford it.

This must be stopped at once! If the poor people in these other nations get a taste of the prosperity we've enjoyed for years, who knows where it will all lead. They too will be driving to Burger King with their A/C on “MAX” to combat the sweltering heat and humidity. We can't allow that to happen, can we, lest their prosperity and subsequent greenhouse gas emissions spell the end for us all. Unless we want a taste of the sweltering heat and humidity they struggle with on a daily basis, we've got to clam down on world wide economic growth. Do we want citizens of other nations to drive Escalades and live in McMansions? I say “NO!”

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Fortunately, we have history as a guide in this regard. Having a split house and executive branch has happened before. Every time there was a Republican in the White House between 1954 and 1994, we had a similar situation. We've also had the reverse, a Republican Congress and a Democrat in the Oval Office. The last time that happened was in 1994, when the Republicans took control of Congress during the Clinton presidency. In that case, economic prosperity ensued. You'll get all kinds of arguments about why, depending upon whom you ask. The last time we had a sitting Republican president and Democratic houses of congress was during the Bush 41 presidency. That was the 102^nd congress. The Democrats had strong majorities in both houses, 55% to 45% in the Senate and 62% to 37% in the House. Let's take a look back at the fun that ensued during this time in the early nineties.

What about legislation? Was it really the gridlock you'd be led to believe? Well the Senate did manage to get Senate Amendment 1373 pushed through. Why is that important, you ask? Because it repealed the luxury excise tax on boats, of course. So, there was real work being done in the 102^nd Congress. Taxes went up (”Read My Lips!”). The AMT was raised to 24%. At the time, however, it wasn't snaring your average middle classer like it is wont to do today. Taxes on the whole were still lower than they were during the beginning of the Regan administration, however. In the mid 1980's, the highest marginal tax rate was around 50%! Regan changed this with the Tax Reform Act of 1986. By the early 1990's income taxes had dropped to 31%, even with the Bush tax increase(!).

How was the economy? Well, let's take a look at some general economic statistics. In 1991 and again in 1992, the U.S ranked 3^rd in the world in GDP per capita, behind stalwarts Lichtenstein and Bermuda. Well, they really don't have any population anyway, so they don't have to produce very much to take the lead in this category. The U.S. inflation rate for both 1991 and 1992 was 5.4%, and unemployment, 5.5%. The GDP growth rate was barely measurable, but it did exist, hovering at around 1%.

What about now? What's going to happen this time? In1994, the last time we had a divided government, there was a negligible, immediate effect on the economy. Can we expect as much this time, if, in fact, the Democrats regain control of either house of Congress? One issue that's almost sure to be on the table is the Federal Minimum Wage. This has remained unchanged since 1997, and some Democrats have indicated they'll likely try to raise it to $7.25 an hour. How will this affect you? Probably not directly, as I dare say few that frequent PF blogs make the minimum wage. It could cause a bit of a ruckus on Wall Street, though.

According to a CNN/USA Today poll taken last month, 2/3s of those polled expect the newly Democratic Congress to raise federal income taxes, yet only 25% of the polled support such a move. That would indicate that around half of those voters who chose the “Big D” candidates on the ballot were doing so in spite of their belief the candidate would do something they opposed, namely raise their income taxes. Interesting. What wil