Thursday, November 20, 2008

Tough Times ahead.....Life and debt

In the interesting article below, it talks about the US Federal Reserve cutting its interest rate to zero to prevent deflation from threatening the US economy. I have written a few articles in my blog about this recession being deflationary....and perhaps deep.

The Japanese economy suffered from deflation in the 90s. They called it the "Lost Decade". It was a bleak period during deflation cause prices to fall for 10 years. Imagine what that does to anyone investing in Japan during that period - you buy a house with a bank loan, one year later that same house is worth less....and even less 2 years later. While not exactly the same there are a number of similarities between what is happening in the US now vs Japan in the 90s:

1. Prior to the 90s, the Japanese had a huge property bubble during which the land around the Imperial Palace was valued to be higher than all the land in California. The current US problems is also caused by a housing bubble.

2. Japanese banks lost a lot of money when the property bubble collapsed. US banks lost a lot of money due to mortgage lending and all the toxic paper associated with housing loans.

3. Housing prices in Japan fell and dragged the entire economy down ....same thing in US.

Of course there are many differences. The US consumer is in debt while the Japanese were enthusiastic savers. The Japanese had a strong manufacturing base while the US manufactures almost nothing. If fact there was more hope for the Japanese to get out of it than the Americans to get out of it now.

A deflationary recession is going to make life miserable for people with debt. It makes debt harder and harder to pay off as everything falls including your income. If you bought property you have to service the debt while the value of the property is falling. Unfortunately, people react to it by holding back purchases which makes the situation worse i.e. deflationary spiral. Hopefully Bernanke can do something - cutting interest rates to zero was what the Japanese did to no avail. He has to use some other tricks to get the banks lending.....but with consumers swimming in debt, they are so maxed out they might not borrow. Regardless of how he is and will be viewed, I think Bernanke generally did make all the right moves just that he was handed a problem so tough ....and perhaps intractable.
All the anecdotal evidence I've seen ...speaking to friends in many industries, our economy has fallen off a cliff. ....this one is going to be big and nasty. They can't make a recession painless - with all the measures interest rates, and stimulus packages, they can only cushion its effects and lessen the depth. Unfortunately for Singapore our domestic economy is small - any stimulus package usually has a limited impact and much of it is in focussed on the construction sector - better than nothing but don't expect too much.

Several problems are urgent:

1. Personal unsecured debt. [Link][Link]This has been rising in recent years because people who can't make ends meet resorted to borrowing. This was a no-brainer you either borrow or you run out before the month ends. During the good times, borrowers hope that rising income and bonuses can help to pay off these debts. However, once bad times hit, these spiral out of control. I noticed the govt has already picked up this problem. During good times, these people would go for CCS (Credit Councelling Service) to restructure the personal debt into a repayment plan. However, banks call the shots whether to accept the plan. Last week a new scheme called the DRC was introduced to make the banks accept a repayment plan by a case administrator. While this is a good scheme it is a fix for a problem that should have been mitigated, there were many things the govt could have done to prevent this current - the Malaysia govt noticed this trend of rising personal debt and prevent such predatory loans by banks by forcing the credit card interest rate to 13%. This forces the bank to lend only to those who can pay back and perform better screening of the person's credit history. Many studies have shown that at 24% the banks can become irresponsible in their lending because they can tolerate a high default rate. The problem of predatory loans and its negative effects could have been prevented if the PAP govt could break out of its ideological shackles to offer more protection for the individuals such is protection of his home from seizure due to unsecured loans ...that will make the banks more careful in their lending- but we know in Singapore, the banks cannot lose...its is the PAP religion....but look at what is happening now....this has grown into a huge problem because the PAP govt did nothing. For those who are interested in this problem and want to look at it more in depth - look up the work of Elizabeth Warren she is a Harvard professor who studied this problem for a number of years. In their eagerness to grow the banking sector, the PAP did not only allow those toxic Minibonds to enter Singapore, they also allowed the lending habits of American banks to infect ours (hmmm they love to hire American bankers as CEOs) - we in effect imported the consumer debt problem in US. and now our society has to pay the price because the PAP wanted the banks to grow (...make more money!).

2. Housing Debt Default. The shocking 8% default rate for HDB loans are just one part of the problem. Those who borrowed from the banks do not "enjoy" the generosity of the HDB. They get foreclosed when they stop paying. Their homes are auctioned off and if it doesn't cover the remaining debt, they remain liable for it. We can expect the number to go up as the economy worsens and unemployment goes up. In the US, there is some protection for 1st time home owners, they in many states they can return the key and bank cannot go after them for the money. In the past, no systematic help was available and people were left to the mercy of the banks. Imagine you lose your job, you can't pay your mortgage, you lose your home, you lose your dignity if you're lucky you can go back to your parents and they have some room for your family otherwise it gets really painful. Given the crisis in US, they have a number of schemes that can help - including helpline such as 1-888-995-HOPE and various loan workout plans. Many things can be done but it requires the participation of govt [Link] to reduce perventible foreclosures. The PAP can take its usual hands off approach : "you went in with your eyes open now you're in trouble don't expect the govt to help you"....but I really hope they can do better this time.

Bernanke May Find Deflation `Back on the Table' as Fed Concern
By Steve Matthews

Nov. 20 (Bloomberg) -- Five years after Federal Reserve Chairman Ben S. Bernanke helped stamp out the risk of deflation, the threat is returning as the financial crisis and a worsening economic slump pull inflation lower.
Fed policy makers now predict the U.S. economy will contract until the middle of next year, according to minutes of their Oct. 28-29 meeting released yesterday in Washington. Government figures showed that consumer prices excluding food and fuel costs fell for the first time since 1982 last month.
The minutes, along with a slide in financial stocks to the lowest level in 13 years, increased the odds that the Fed will cut its benchmark interest rate next month. Bernanke may also need to revisit the unorthodox policy options, such as purchases of U.S. government debt, that he outlined as a board member in 2003, Fed watchers said.
``The Federal Reserve put deflation back on the table as a significant policy concern,'' said Vincent Reinhart, former director of the Fed's Division of Monetary Affairs, who is now a visiting scholar at the American Enterprise Institute in Washington. ``There does not appear to be any barrier to lowering'' main rate below the current 1 percent level, he said.
Deflation, or prolonged declines in prices, hurt the economy by making debts harder to pay off and lenders more reluctant to extend credit. Japan is the only major economy to have suffered the phenomenon in modern times.
`Lesson' for Kohn
``A lesson I take from the Japanese experience is not to let that get ahead of us, to be aggressive,'' Bernanke's deputy, Vice Chairman Donald Kohn, said in answering questions after a speech yesterday in Washington. ``Whatever I thought that risk was four or five months ago, I think it is bigger now even if it is still small.''
Kohn and Bernanke were both at the Fed in 2003, when the central bank's preferred consumer-price gauge reached a low of 1.3 percent, spurring then-Chairman Alan Greenspan to cut the key rate to 1 percent.
Some policy makers saw a risk last month that the inflation rate will fall below their mandated goal of ``price stability.'' ``Aggressive easing should reduce the odds of a deflationary outcome,'' they said, while noting that the low federal funds rate target ``would pose important policy challenges'' in that case.
The Fed's actions so far, including unprecedented injections of liquidity, haven't been enough to spur lending. Banks may make it even harder to get loans as their share prices plummet. Citigroup Inc. closed at a level unseen since 1995. The Standard & Poor's 500 Financials Index fell 12 percent to 139.84.
Hedge-Fund Risk
Fed officials expressed concern at last month's meeting at the risk for ``financial strains to intensify if some investors, such as hedge funds, found it necessary to sell assets and as lending institutions built reserves against losses.''
``Credit availability certainly hasn't increased,'' said Lyle Gramley, a former Fed governor. ``That has to be a major concern for the Fed because historically the way we get out of recessions is having the Fed push down hard on the accelerator. If that is not working very well, we have to look somewhere else for salvation.''
Future action by the central bank might include ``aggressively buying long-term Treasury issues,'' Gramley, now a Washington-based senior economic adviser for Stanford Group Co., said in a Bloomberg Television interview.
Fannie, Freddie
Michael Feroli, a JPMorgan Chase & Co. economist who used to work at the Fed, said the central bank could also purchase the debt of Fannie Mae and Freddie Mac, the mortgage-finance companies seized by the government in September.
``Before ramping up'' such programs, the Fed might ``first communicate to the markets that the nature of the current economic woes should keep rates low for an extended period,'' Feroli wrote in a note yesterday.
The Fed's balance sheet has already doubled to almost $2 trillion as officials introduced programs to inject liquidity into the economy.
``Several'' participants at last month's Federal Open Market Committee meeting judged the extraordinary programs will need to be ``unwound appropriately as the financial situation normalized,'' the minutes said.
Bernanke, a scholar of the Great Depression and former Princeton University professor, detailed possible assets the Fed could buy to fight deflation in a November 2002 speech when he was a governor. ``Sustained deflation can be highly destructive'' and ``should be strongly resisted,'' he said.
Ready to Act
Fed officials at last month's meeting ``agreed to take whatever steps were necessary to support the recovery.''
Policy makers projected the Fed's preferred gauge of inflation at 1.5 percent to 2 percent next year, with a further slowdown in the next two years, reaching 1.3 percent to 1.7 percent in 2011, yesterday's report showed.
Some officials ``suggested that additional policy easing could well be appropriate at future meetings,'' the minutes said.
``The door is wide open for a rate cut of half-a-point at the December 16 meeting,'' said Allen Sinai, chief economist at Decision Economics in New York. He predicts the central bank will pare the main interest rate to 0.25 percent in January.
To contact the reporters on this story: Steve Matthews in Atlanta at Last Updated: November 20, 2008 00:07 EST


AlphavilleSG said...
This comment has been removed by the author.
Sgcynic said...

I don't believe the same people who dug the hole and got you in deep sh- are the ones who will get you out. They will probably attempt to cover it [up] while you are still in the sh- hole. As the saying goes: a leopard can't change its spots. What do you think?

Sgcynic said...

Qualify: I was referring to local context in my earlier post. Change is imperative. We're out of time.

Anonymous said...

The PAP, especially the second generation leaders/ministers, has a religion/philosophy that is distinctly Republican in ideology. Republican ideology, starting with Reagan-omics, and the horrendous 8 years of Bush culminated in the meltdown we are seeing today. Frighteningly the PAP's economic policies, under LHL, appear too close to such extreme capitalism for comfort.

As for old lee, he is actually uneducated in such matters, and does what is pragmatic. In the past he has advice from his peers. Nowadays this group of people are no longer around. And no one dares to tell father and son. Spore will be in deep shite, if it isn't already.

yamizi said...

The rich becomes not so rich;
The poor becomes poorer.

Where's the extra stash to help out the poorer? Or...they are not meant to be helped?

LuckySingaporean said...


I think this is recession might be an "equaliser" recession. Just like the one in the 30s. The only period in history where income inequaility was as big as 2007 was in 1929. Such inequality is unsustainable....societies will force govt to equalise, markets will force down the assets of the rich. In history usually it is done by wars but fortunately there is none so it has to be done this way.

Anonymous said...

hi Lucky

Subprime is old news.
Its not property bubble issue anymore.
And we have moved beyond toxic CDS\CDOs.

Its abt Bush\Paulson (and gang) enriching\rescuing his cronies at the expense of the REST OF THE WORLD.

Japan's problem was zombies banks which is what Paulson is creating now.

i cant believe I am saying this but I think PAP is right in not doing anything yet :-S

We will need to conserve money for breadlines next year (and maybe the year after). Our big leap forward to a services based economy is going to become very painful.

Sack Ho Ching!

PS: Have you bought physical gold yet?


Anonymous said...

I do think that Singapore is US Republican party's wet dream comes true.

Trickling economic effect my ass!

Don't expect the poor people to protect your condos and rich lifestyles when disaster happens then.

Anonymous said...

Hi Lucky

No wars?
By pushing oil price below $50 for a prolonged period, ME countries like Iran will become unstable.

Historically, the poor and would-be-dictators would then lynch the Jews (usually the innocent poor-to-middle class ones). One reason for US rise to power was due to rich Jews fleeing Europe with their riches and know-how.

a kind of chicken said...

Want to ask? Deflation as a problem sounds strange, because the govt can always counter it by printing more money. If you have persistent deflation, the govt can print, and print and print more money and use it to help the ppl. Yes?

Anonymous said...

... and Bernanke looks like he was chosen for his incompetence. He is playing a major part in pushing a recession into a depression!

The real economy is still in a liquidity crunch! And Fed rate is already 1%! The next Fed Chairman will have no bullets left!

Tar-man is doing a better job than him!

Ho Ching must go! Temasick needs to return to its original role which was to CREATE JOBs!

We need to bring back manufacturing jobs and remove the stigma of menial jobs (like construction, sanitation) by introducing minimum wage (and skills upgrade).

DanielXX said...

No-recourse home loans have been blamed for the mess in the US right now. People can just walk away from their homes when in negative equity, so the banks are really fucked with the arrears. It is a good idea to make people co-pay or assume part of the risk by making them personally liable for these home loans ..... you simply can't make them operate under limited liability like in the US because guess what .... they will just take more risk than they should ... nothing to lose wat.

LuckySingaporean said...


Non-recourse home loans cause a mess because the banks did not do their due diligence before lending the money - a simple precaution like 20% downpayment would have helped. Even if it is not non-recourse, the person can't pay the bank is still in trouble.

The non-recourse allow individuals to walk off and carry on their lives. If they are made bankrupt, they can't pay anyway and have to live under a cloud.

Having said that, there is a small number who abused this especially couples who can actually pay but don't want to because of negative equity. The husband will take a hit on his credit rating and the wife will buy another house at a cheaper price. Still, the banks could have saved themselves from this by insisting on downpayment something they didn't do in their period of drunken greed.

Anonymous said...

Dear Lucky

Couples who walk away from negative equity are NOT abusing the system. Banks (who made these irresponsible loans) will not take care of your retirement. why should you care about their profit?