TALF (the balancing game)

[kent nickell]

I don't understand the TALF plan real well but basically it seems to be trying to free up the credit markets in auto, education, credit card and small business loans necessary to keep the economy moving. One of the problems I have with this is that its goal is to stop the decline in home prices... (I think overall this would be a good goal just not if it is done artificially)

This is the statement that bothers me "The central bank has already doubled its assets to $1.92 trillion in the past year by creating other emergency credit programs."

These 'assets' the central bank are building up are toxic assets. There are so many toxic assets (non performing loans etc) on their balance books that banks don't want to lend. So the fed comes in and buys these toxic assets so that the banks will lend again. I think this would be ok if the toxic assets weren't really toxic and the fed was trying to right a wrong situation. If the assets really are toxic which I think they probably are to a large degree then this will just be kicking the can down the road and the fed will eventually have to deal with a very large fund of very devalued assets.

Trying to push against the de-leveraging process like this I think will be a failed process. On the other hand, freeing up the credit markets is a good goal but I think the goal needs to be to mitigate the damage of the de-leveraging process rather than try to stop it. Let housing prices re-equilibrate to market levels but mitigate the damage. These hidden toxic assets need to be dealt with in a realistic manner. Probably by principal reductions which allow home owners a better chance of staying put (improving their equity positons so they are less likely to walk away from underwater loans) and having secondary lenders share in the losses.


http://www.bloomberg.com/apps/news?pid=20601087&sid=a_.0DJhF6ygY&refer=home

Fed May Need to Recast TALF on Commercial Real Estate (Update2)


By Scott Lanman and Sarah Mulholland

Feb. 23 (Bloomberg) -- The Federal Reserve may need to loosen the terms of a new $1 trillion credit initiative aimed at averting a meltdown in commercial mortgage-backed securities, analysts and industry representatives said.
The Fed would prop up the CMBS market by lending against the securities for a five-year term rather than three years, and taking as collateral existing debt rather than just new bonds, they said. The Fed hasn?t said when the program, the Term Asset- Backed Securities Loan Facility, will begin accepting the debt.

?If we don?t get credit flowing again to commercial real estate? through programs like the TALF, ?we?ll probably see a very significant increase in defaults on commercial mortgages and further stress on the balance sheets of banks,? said Richard Parkus, an analyst at Deutsche Bank AG in New York.

Failure by the Fed and Treasury to rekindle private investment in the $760 billion CMBS market may worsen the longest U.S. recession since 1982. Fed Chairman Ben S. Bernanke and Treasury Secretary Timothy Geithner are promoting the TALF as a cornerstone of plans to revive credit, end a decline in home prices and cleanse toxic assets from banks? balance sheets.

The market for commercial mortgages bundled together and sold as bonds is souring, with the late payment rate for CMBS at 1.44 percent at the end of last year compared with 0.47 percent at the end of 2007, according to RBS Greenwich Capital data. The delinquency rate may rise to almost 6 percent by the end of the year and continue to increase into 2011, RBS said.

New Collateral
The Fed, through the TALF, could reduce the cost of financing commercial real estate by taking as collateral CMBS already traded in the secondary market rather just new bonds, said RBS analyst Lisa Pendergast in Greenwich, Connecticut.

Accepting bonds from the secondary market would be a ?big deal? for reviving credit, said Jan Sternin, a senior vice president at the Mortgage Bankers Association in Washington.

The central bank also should make loans with at least a five-year term against CMBS, Pendergast said. The TALF is now geared to make loans of no more than three years against collateral, a misalignment with the typical five- or 10-year term of commercial mortgages.

?Nobody would buy a 10-year asset with a three-year loan,? she said.
The Fed initially proposed a one-year term for TALF loans it will make before revising to a three-year period in December.

Without TALF support, borrowers would have a tougher time refinancing maturing debt and avoiding delinquency or foreclosure, said Chip Rodgers, senior vice president at the Real Estate Roundtable, a trade group in Washington.

Seed Money
Geithner has backed using the TALF to aid commercial real estate and proposed increasing the Treasury?s seed money for the program to $100 billion from $20 billion. The Fed would then expand its loans to $1 trillion from $200 billion.

Bernanke said on Feb. 18 that the first phase of the TALF will begin ?shortly.? That includes as much as $200 billion in loans for the auto, education, credit-card and small-business markets. The Fed has yet to provide details on the second phase, which would include CMBS and expand to $1 trillion.

The Fed chief may provide more details on the TALF when he delivers semiannual testimony to Congress tomorrow and the next day.
Atlanta Fed President Dennis Lockhart said today that commercial real estate is ?the one domestic factor that keeps me up at night.?

?Many banks are pretty heavily exposed to commercial real estate,? he said in Orlando, Florida.

Sales Plummeted
Sales of CMBS plummeted to $12.2 billion last year, compared with a record $237 billion in 2007, according to estimates by JPMorgan Chase & Co.
Top-rated commercial mortgage bonds are currently trading at about 10.82 percentage points more than benchmark interest rates, compared with 2.32 percentage points a year ago, Bank of America Corp. data show. In January 2007, the debt traded at 0.22 percentage point.

Without the TALF, the high cost to sell the debt makes it unprofitable for investment banks to write new loans, choking off funding to commercial property owners.

Banks can?t profitably originate new loans at attractive rates for refinancing because the cost to securitize the mortgages and sell the resulting bonds would be too high given the current trading price for the securities.

By accepting CMBS already trading on the secondary market, the central bank could revive demand, making it cheaper to sell the securities and enabling lenders to offer lower rates, Pendergast said.

The Fed may compound the long-term burden on its balance sheet by taking on CMBS. The central bank has already doubled its assets to $1.92 trillion in the past year by creating other emergency credit programs.

?Reverse Course?
Buying assets with terms of five to 10 years ?poses a problem for the Fed in monetary policy, because in the longer run at some point they?re going to have to reverse course,? said former Atlanta Fed research director Robert Eisenbeis, now chief monetary economist with Cumberland Advisors.
The central bank may have to take losses on the assets or face higher costs of carrying them, he said.

The Fed may expand the TALF to include residential mortgage- backed securities for loans bigger than $417,000 and assets collateralized by corporate debt, the Treasury said on Feb. 10.

To contact the reporter on this story: Scott Lanman in Washington at slanman@bloomberg.net; Sarah Mulholland in New York at smulholland3@bloomberg.net.

 

[kent nickell]

Re: TALF (the balancing game)

http://www.rgemonitor.com/us-monitor/255709/is-ben-bernanke-behind-the-deflation-curve/

Is Ben Bernanke behind the deflation curve?

Desmond Lachman | Feb 24, 2009

At this week's Humphrey Hawkins hearings, Congress gets its six-monthly chance to press Fed Chairman Ben Bernanke on the future conduct of US monetary policy. It does so at a time when there can longer be any doubt that the US economy is in the throes of its worst economic crisis in the post-war period. It also does so at a time when large swathes of the US financial system are insolvent and when credit markets remain largely frozen.


Against this troubling economic and financial market backdrop, it would seem that Congress should hold Mr. Bernanke's feet to the fire on two very basic questions. Is the Fed being sufficiently proactive to prevent the US economy from falling into a deflationary trap? And are US policymakers doing enough to prevent the US from repeating Japan's costly mistakes of the 1990s in addressing the acute problems in the US financial system?

When questioning Mr. Bernanke on the future conduct of monetary policy, Congress might want to reflect on the fact that Mr. Bernanke's three-year tenure at the helm of the Federal Reserve has been characterized by his eventually-doing the right thing. The only trouble is that he has generally done so with all too long and damaging a delay for the well being of the US economy. For not only was he painfully slow last year to bring interest rates down in response to an ever deepening economic and financial market crisis. He also only resorted to aggressively expanding the Federal Reserve's balance sheet once it was plain for all too see how dysfunctional the US financial system had become.

Congress should be asking whether the same criticism of tardiness might not now be leveled against Mr. Bernanke as he grapples with the country's growing deflation risk. For, as a renowned expert of the Great Depression and the Japanese deflation of the 1990s, Mr. Bernanke has been very good at articulating the real and present dangers of a Japanese-style deflation taking hold in the US. Yet, as a central bank practitioner, he has been all too tentative in addressing the country's deflation risk head-on, which only has to heighten the probability of those risks materializing.
Judging by the Federal Reserve's latest economic forecast, it would seem reasonable for Congress to suppose that Mr. Bernanke grasps the seriousness of the deflation risk threatening the United States. For, even taking into account the recently announced US$800 billion fiscal stimulus package, the Federal Reserve is now forecasting that US economic output will decline significantly in 2009 before recovering only very gradually thereafter. The Federal Reserve is also now anticipating that unemployment will rise to 8.5 percent and that it will stay at an elevated level for a prolonged period of time.
While Congress should compliment Mr. Bernanke on his candor in presenting a sober economic forecast, it should ask whether that forecast is downplaying the downside risks to the economy posed by the global dimension of the crisis. In that context, Congress might remind Mr. Bernanke that no lesser an authority than Paul Volcker observed last week that output in the major industrialized countries was now declining at a pace that was reminiscent of what occurred during the 1930s. This must raise the question as to whether US monetary policy does not now need to be more forceful especially in view of both the very back-loaded nature of the new Administration's fiscal stimulus package and the fact that a weak global economy precludes the possibility of the US exporting its way out of its recession.

Past experience informs us that very large gaps in labor and output markets must be expected to exert considerable downward pressure on prices and wages. The Fed itself is now expecting that high unemployment will mean that inflation will stay quite low for a protracted period. Going even further, economists at Goldman Sachs are now expecting that headline consumer prices will fall by close to 1 percent in 2009 and that, excluding food and energy prices, there will be practically no increase in consumer prices in 2010. Meanwhile, in the market, TIPS (the government's inflation-linked bonds) are now anticipating that consumer prices, excluding food and energy, will decline by almost 1 percent a year over the next five years.
Mr. Bernanke has responded to the growing threat of deflation by tentatively moving in the direction of inflation targeting and by having the FOMC announce a long run inflation forecast of between 1.7 percent and 2.0 percent. In addition, acknowledging that with the federal funds rate at close to zero the Fed has exhausted the use of its short-term interest rate instrument, Mr. Bernanke has also indicated that if need be the Federal Reserve stands ready to resort to further non-conventional monetary policy measures. In that context, he has intimated that the Fed might increase its purchases of mortgage-backed securities and it might start buying long-dated US Treasury bonds.

Congress should ask Mr. Bernanke why with the growing threat of deflation he is stopping short of a formal inflation target. Would not a formal inflation target of around 2 percent signal that the Federal Reserve was firmly committed to preventing deflation from taking hold in the US?

In a similar vein, Congress should be asking what is holding Mr. Bernanke back from already buying US treasuries in general and US inflation-linked bonds in particular. With TIPS' prices presently implying core-price deflation, might not aggressive purchases of these instruments by the Federal Reserve clearly indicate to the public that the Fed was prepared to put its money where its mouth was on its determination to avoid deflation? And might not such purchases offer positive returns to the taxpayer if the Fed was indeed successful in slaying the deflation dragon?

Although not strictly Mr. Bernanke's remit, Congress should solicit Mr. Bernanke's views on how he sees the new Administration's efforts at recapitalizing the US banking system. In particular, he should be asked whether we are not repeating Japan's mistakes of the 1990s by pretending that the US banking system does not have a major solvency problem and by persisting with the failed policies of the Troubled Asset Relief Program. He should also be asked whether the successful Swedish model of a good bank/ bad bank approach to the US banking system's solvency problem does not offer better prospects for alleviating the country's debilitating credit crunch.

At this week's Federal Reserve hearings, there is no shortage of questions that Congress could legitimately pose to Mr. Bernanke. However, Congress would do well not to lose sight of the fact that the US is presently in the throes of its worst post-war recession. Nor should Congress lose sight of the very real deflation risks facing the economy that if not properly addressed could very well result in a lost decade for the economy.

 

[kent nickell]

Re: TALF (the balancing game)

It seems like we still have at least as strong of deleveraging pressure as 3 months ago but we can't accuse Mr. Bernanke of not being aggressive. But now these deflationary fighting measures seem to be running into a default wall. On top of all the support the Fed has poured into the residential real estate market I don't see how it is going to be able to buy all the very distressed commercial real estate and credit card securities... Something is going to have to give.. Probably the best course at this point would be to force the banks to realistically value these assets which would imply forcing them to sell them to private investors at prices that don't include govt guarantees.... in other words a true market auction


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The deflation problem in Europe seems even worse than that in the US with even less leeway to use fiscal stimulus... It seems that here too the emphasis should be on mitigating the social disruption of the strong and no doubt necessary deflationary pressures. A real economic recovery has to be based on real wages which can provide a real tax base that governments can use for their spending programs....


http://baselinescenario.com/2009/05/29/the-risk-of-deflation-in-the-eurozone/

The Baseline Scenario

The Risk Of Deflation In The Eurozone

with 11 comments

In January, Lucas Papademos, Vice-President of the European Central Bank ECB), strongly suggested that inflation would not fall much below 2% in the eurozone (see the end of this post). Translated from the language of central bankers, he implied that the risk of deflation in the eurozone was virtually nil.

Now Jean-Claude Trichet, head of the ECB, with reference to the latest eurozone (0%) inflation rate, says that we should disregard the data because a recovery is just around the corner.

Alternatively, we are close to the baseline eurozone view laid out in my January presentation (part of a panel discussion with Mr Papademos). You can break this down into three specifics.

Private sector demand is weak; it?s hard to see who will lead the recovery within the eurozone. In addition, the demand for European exports has fallen much more than expected, as seen ? for example ? in the big decline in German Q1 output.

The ability of the public sector to offset this decline with discretionary fiscal policy is quite limited, due to balance sheet constraints in some countries (look at the latest credit default swap data from weaker euro sovereigns; CDS primer) and clear policy preferences in others (i.e., how Germany worries about inflation, even when there is none).

Banks look troubled across many eurozone countries, and as the real economy surprises on the downside these problems will increase ? with presumed implications for government bailout programs and balance sheets (the IMF was quite negative, see Tables 1.3 and 1.4 on pp.28 and 34 respectively, on European banks before the latest round of bad news). Remember that the European economy depends on banks much more than does the US.

If the world turns around and/or oil prices continue to rebound, the eurozone can presumably avoid deflation. But it?s hard to see inflation rising any time soon due to the eurozone?s own dynamic.

And if deflation takes root, it is hard to see this proving more tractable or less damaging than deflation in Japan during the 1990s. Which part of Japan?s lost decade now looks easy to avoid in Europe?

By Simon Johnson