University of Michigan Consumer Sentiment Index Down 1.4 Points

In April, the University of Michigan Consumer Sentiment Index fell1.4 points to 72.2. Though off its lows of last year, the index has flattened or even trended down slightly over the past few months at a level that is still quite depressed. The months decrease was equally due to both components. Both the future expectations and current conditions components of the index fell by 1.4 points.

Inflation expectations were unchanged over the month. Both the one-year and five-year outlook remained at 2.7% for the third consecutive month.



10.04.30 (Source: University of Michigan)

GDP Grows 3.2% In Q1 – Consumers and Inventory Accumulation Drive Expansion

Growth in GDP for the first quarter came in at 3.2% annualized. This was the third consecutive quarter of growth and followed a jump of 5.6% in the fourth quarter of last year.



As was the case in the fourth quarter, much of the expansion was due to firms increased investment in inventories. Inventory growth accounted for 1.6 points of the expansion following a contribution of 3.8 points in the fourth quarter. Though inventory expansion does create aggregate demand just as any other portion of GDP, it is largely temporary as firms readjust themselves. Real final sales, which excludes changes in inventory and therefore gives a better picture of current sales demand, grew by a lesser 1.6% annualized. This followed an expansion of 1.8% in the fourth quarter. Though this is indeed improvement coming out of recession, this is only modest demand growth and without a stronger number moving forward, the economy will fail to produce strong payroll expansion.

Where the first quarter did show some solid expansion was in consumption growth, which grew at a pace of 3.6% annualized. This was the fastest growth rate since before the recession began. Weakness in the GDP numbers came from non-consumption components. Residential investment was again a drag on growth, reducing GDP growth by 0.3% . Net exports also held the rate back by 0.6% as imports grew faster than exports. Finally, as local and state governments have begun to trim back and the effects of the stimulus package are wearing off, the decline in direct government expenditures took 0.6% off of growth.



10.04.30 (Source: Bureau of Economic Analysis)

Distressed Home Sales Put Pressure on Prices

Distressed home sales have added to the downward pressure on house prices. Weak housing sales in winter months and the near 25% of mortgages that were underwater at the end of the 2009 resulted in an increase in distressed sales in December and January.

The share of distressed sales peaked in January 2009 at 32%. Through the spring and summer months, housing activity increased and the share of distressed sales declined, helping end 33 months of home price declines. However, as economic strain continued into the winter and housing activity dissipated, the share of distressed sales increased and housing prices started a second series of declines. Distressed sales comprised 29% of sales in January 2010, nearing this cycle’s peak.

The increase in distressed sales in late 2009 and January 2010, accompanied with lower housing activity, forced sellers to accept greater price reductions. The discount for distressed sales in January 2010 was 34%, the peak for this cycle. The greater share of distressed sales, paired with increasing discounts, contributed to recent declines in home prices.

The expiration of the first-time homebuyer tax credit on April 30, 2010 will drive increased housing activity in March and April. The increased demand, along with the typical increase experienced in spring and summer, should result in a decreasing share of distressed sales and a decline in the price discounts during this period. However, as this temporary stimulus passes, the housing market will be subject to broader economic conditions, which are on a slow pace of recovery.

Fed Funds Rate Kept in 0 to 25 Basis Point Range; View Of Economy Generally More Upbeat

The Federal Open Market Committee voted to keep the Federal Funds Target in a range between 0 and 25 basis points. The Fed foresees minimal inflation in the short to intermediate period, “With substantial resource slack likely to continue to dampen cost pressures and with longer-term inflation expectations stable, the Committee expects that inflation will remain subdued for some time.” The Fed also reaffirmed its previous announcement of ending many of its liquidity measures over the coming months. Generally, the Fed’s statement continued a trend of progressively more upbeat language. It stated that economic conditions had generally improved since its last meeting but the Fed also noted that firms were reluctant to add to payrolls.

There was one vote against the policy statement coming from Thomas M. Hoenig. He believed that continuing to express the expectation of exceptionally low levels of the federal funds rate for an extended period was no longer warranted because it could lead to the buildup of financial imbalances and increase risks to longer-run macroeconomic and financial stability.

April 28th Meeting	March 16th Meeting
Information received since the Federal Open Market Committee met in March suggests that economic activity has continued to strengthen and that the labor market is beginning to improve. Growth in household spending has picked up recently but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit. Business spending on equipment and software has risen significantly; however, investment in nonresidential structures is declining and employers remain reluctant to add to payrolls. Housing starts have edged up but remain at a depressed level. While bank lending continues to contract, financial market conditions remain supportive of economic growth. Although the pace of economic recovery is likely to be moderate for a time, the Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability.	Information received since the Federal Open Market Committee met in January suggests that economic activity has continued to strengthen and that the labor market is stabilizing. Household spending is expanding at a moderate rate but remains constrained by high unemployment, modest income growth, lower housing wealth, and tight credit. Business spending on equipment and software has risen significantly. However, investment in nonresidential structures is declining, housing starts have been flat at a depressed level, and employers remain reluctant to add to payrolls. While bank lending continues to contract, financial market conditions remain supportive of economic growth. Although the pace of economic recovery is likely to be moderate for a time, the Committee anticipates a gradual return to higher levels of resource utilization in a context of price stability.
With substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to be subdued for some time.	With substantial resource slack continuing to restrain cost pressures and longer-term inflation expectations stable, inflation is likely to be subdued for some time.
The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and continues to anticipate that economic conditions, including low rates of resource utilization, subdued inflation trends, and stable inflation expectations, are likely to warrant exceptionally low levels of the federal funds rate for an extended period. The Committee will continue to monitor the economic outlook and financial developments and will employ its policy tools as necessary to promote economic recovery and price stability.	The Committee will maintain the target range for the federal funds rate at 0 to 1/4 percent and continues to anticipate that economic conditions, including low rates of resource utilization, subdued inflation trends, and stable inflation expectations, are likely to warrant exceptionally low levels of the federal funds rate for an extended period. To provide support to mortgage lending and housing markets and to improve overall conditions in private credit markets, the Federal Reserve has been purchasing $1.25 trillion of agency mortgage-backed securities and about $175 billion of agency debt; those purchases are nearing completion, and the remaining transactions will be executed by the end of this month. The Committee will continue to monitor the economic outlook and financial developments and will employ its policy tools as necessary to promote economic recovery and price stability.
In light of improved functioning of financial markets, the Federal Reserve has closed all but one of the special liquidity facilities that it created to support markets during the crisis. The only remaining such program, the Term Asset-Backed Securities Loan Facility, is scheduled to close on June 30 for loans backed by new-issue commercial mortgage-backed securities; it closed on March 31 for loans backed by all other types of collateral.	In light of improved functioning of financial markets, the Federal Reserve has been closing the special liquidity facilities that it created to support markets during the crisis. The only remaining such program, the Term Asset-Backed Securities Loan Facility, is scheduled to close on June 30 for loans backed by new-issue commercial mortgage-backed securities and on March 31 for loans backed by all other types of collateral.

10.04.28 (Source: Federal Reserve)

Fiscal Day of Reckoning

Addressing the National Commission on Fiscal Responsibility and Reform, Federal Reserve Chairman Ben Bernanke stated that “in the absence of further policy actions, the federal budget appears set to remain on an unsustainable path.”

Bernanke warns that even after the economy returns to normal, forecasts show that our structural deficit is large relative to the size of U.S. economy and will only get larger over time. Rising health-care cost and the aging of the U.S. population are exerting upward cost pressure on entitlement programs – Medicare, Medicaid, and Social Security. As a result, this will fuel an expansion in the size of future federal deficits.

Moreover, as debt and deficits grow, so will our interest payments. Given our reliance on foreign savings to finance the Federal debt, this means more of our future income is going to interest payments on debt held abroad.

He said the costs of failing to achieve long-term fiscal sustainability will assuredly lead to higher interest rates. This will retard capital formation and inhibit productivity growth. The net result will be a lowering of the standard of living for average Americans.

As a country, we are going to have to make difficult choices about entitlement programs, other federal spending priorities, and taxes. Chairman Bernanke stated: “Our nation should soon put in place a credible plan for reducing deficits to sustainable levels over time. Doing so earlier rather than later will not only help maintain the U.S. government's credibility in financial markets, thereby holding down interest costs, but it will also ultimately prove less disruptive by avoiding abrupt shifts in policy and by giving those affected by budget changes more time to adapt.”

Case-Shiller: Broad Decline in February as Double Dip Continues

Following a five-month span of house price increases in the summer of 2009, Case-Shiller has since reported five consecutive declines in both the ten-city and twenty-city indices. Existing home prices fell in February by 0.6% from January on a non-seasonally adjusted basis. It is normal that home price appreciation is weaker in the winter months.

From a year prior, the ten-city index was up 1.4% and the twenty-city index was up 0.6%. This was the first time the indices were positive year-over-year since 2006, as year-ago comparisons now reference the lows of the market in early 2009. From the peak in 2006, home prices have fallen 30.3%, according to the broader index. This is modestly off the low of a 32.6% decline seen in April of last year.

Broad decline was reported across all cities of the 20-city index, with the exception of San Diego, which was the only city to post a month-over-month increase. Many cities reported the steepest declines since the beginning of the second dip in prices, and four cities - Chicago, Minneapolis, Cleveland, and Portland - reported declines of 2.0% or greater in February, rates of decline not seen since early 2009.

February 2010 Non-Seasonally Adjusted Month-Over-Month Percent Changes

Atlanta	five straight declines; -1.3% in February.
Boston	February was the steepest decline in its second dip, which started in September
Charlotte	February was the steepest decline since second dip started in August.
Chicago	posted 2.0% decline in February, the steepest since March 2009.
Cleveland	February was steepest of last seven consecutive declines.
Dallas	increasing declines over last quarter; -1.8% in February.
Denver	posted six straight declines; -0.8% in February.
Detroit	decline almost doubled from January to February (-1.1% to -1.8%).
Las Vegas	following 38 monthly declines, posted one increase in December, but has returned to declines in January and February.
Los Angeles	after eight months of increases, posted its first decline of 0.7%.
Miami	posted three increasingly steeper declines; -0.5% in February.
Minneapolis	decline more than doubled from January to February (-0.9% to -2.2%).
New York	six consecutive declines; -0.4% in February.
Phoenix	posted two straight months of decline, following seven months of increases.
Portland	increasing declines over last quarter; -2.4% in February.
San Diego	so far, avoided a second decline in prices with ten consecutive monthly increases.
San Francisco	rate of decline has increased for the third straight month.
Seattle	fourth straight decline; -1.1% in February.
Tampa	declined since September 2009; February was steepest decline since October 2009.
Washington	after six monthly increases, posted five consecutive declines.

Conference Board Consumer Confidence Up 5.4 Points

In April, the Conference Board Index of Consumer Confidence rose for the second consecutive month, rising 5.4 points to a new cyclical high. The month’s increase was primarily driven by the future expectations component of the index, which rose 7.0 points. It has been this component that has caused most of the volatility in the index in recent months. The current conditions component also improved, but by a lesser 3.4 points. Though consumer confidence is off its cyclical low, it is still at a depressed level relative to the years prior to the downturn.



10.04.27 (Source: Conference Board)

Risk Retention Will Constrain Lending

One of the many troubling provisions in S.3217, the regulatory restructuring bill currently pending in the Senate, is one requiring an across-the-board five% risk retention on all loans sold by an originating bank (Sec. 941).

This provision may have a dramatic impact balance sheet of any bank that is not exclusively a portfolio lender – an impact that will reduce lending capacity and make it harder to fund operations.

Section 941 requires the bank regulators to establish a five% risk retention requirement on virtually all loans that are sold – mortgage loans, commercial loans, and credit card loans all would be covered. Here is an example of the impact of this requirement on a small bank:

• For every $200,000 loan made and sold by the bank, $10,000 would have to be retained on the bank’s books.
• Given a 10% capital charge on that $10,000, the bank would have to hold $1,000 more in capital.
• Imagine that the bank makes and sells 100 of those loans per year. On $20 million in originations, the bank would have to retain $1 million of the loan amount on their books, and add another $100,000 in capital. A bank originating and selling $100 million in loans would have to retain $5 million on their books and come up with another $500,000 in capital.
• The retained risk will cause the bank’s portfolio to grow, and their lending capacity to be constrained, if the bank cannot raise additional capital.
  

Raising new capital in this economy is not an easy thing to do. This means that the additional capital constraint from the risk-retention requirement takes away funds that could have been used for other mortgages, personal loans or small business loans. The impact is substantial, as each dollar of capital supports up to $10 dollars of lending. Simply put, this provision would force banks to allocate capital away from lending to cover the risk-retention requirement. Such an artificial shift is not a good result even in the best economic times; it’s certainly a very poor result in a weak and barely growing economy when credit available is critical to a sustainable recovery.

For more information on the many negative impacts this legislation will have on banks and the communities they serve, click here and the “Documents of Interest” column at the right.

I urge you to send a letter to your Senators to stop this bill from moving forward until a balanced and sensible approach can be crafted.

New Home Sales Surge Upward 26.9%; Prices Up 0.4%

After falling heavily for four months, new home sales surged upwards by 26.8% March, to an annualized pace of 411,000 units. This was the largest single-month increase since data has been collected over the past 47 years. The huge jump in sales reversed the sales pace decline over the prior months placing the level back to the point of its recent peak in October.

The huge jump in sales is likely in part due to temporal shifting effects. A significant portion of sales that would have occurred in February were pushed to March due to the snow storms. Also, the homebuyer credit comes to an end in April, so there is likely some pulling of sales forward as buyers seek to take advantage that benefit.

From a year prior, sales were up 23.8%, the first year-over-year increase since 2006. With the jump in sales, the median sales price rose 0.4%. From a year prior, prices were up 4.0% from a year prior.

At the current sales pace, the months supply of inventory of homes for sale dropped significantly to 6.7 from 8.6. This ratio is now approaching the historical norm of about 4.5 to 5 months; however, it still has some distance to go. Before new home prices solidly form a bottom, it is likely that the inventory ratio will have to approach this level.



10.04.23 (Source: Census Bureau)

Existing Home Sales Rise 6.8%; Median Sales Price Up 3.7%

After sliding back heavily over the prior three months, existing homes sales jumped 6.8%in March to an annualized pace of 5.35 million units. Sales had grown quickly last summer, greatly aided by the home buyer tax credit. However, as the effects of the credit wore off, sales fell back down to their earlier levels. In March, existing home sales may be starting to reflect the boost from the extension of the expanded homebuyer tax credit now available to more buyers. However, this credit will likely not have as strong of an effect as the first time. From a year prior, sales were up 16.0%.

With the rise in the pace of sales, the months supply of inventory fell to 8.0 from 8.5. The supply of inventory will have to continue to decline before prices can be certain to have bottomed out. Over the month the median sales price rose 3.7% to $170,700, after trending downward over the few months prior. From a year earlier, prices were up 0.4%.



10.04.22 (Source: National Association of Realtors)

PPI: Headline Up 0.7%; Core Prices Up 0.1%

In March, the Producer Price Index for finished goods jumped 0.7%, reversing a decline of similar magnitude of 0.6% in February. The volatility over these past months has largely been driven by changes in energy and food prices. The core index, which excludes prices of food and energy products, rose 0.1% over the month. From a year prior, the top line index was 6.1% higher, a reverse from a negative change as recently as last October. Producer prices including these volatile components are rising quickly. However, the core index is rising at a much slower pace with an increase of 0.9% from a year earlier.



10.04.22 (Source: Bureau of Labor Statistics)

Community Banks Would Be Crushed By Senate Bill

The Senate bill, S.3217, would subject community banks – which had nothing to do with the financial crisis – to crushing new burdens. These traditional banks are struggling with difficult local economies and with regulatory pressures to write down loans and increase capital. At the same time, they are dealing with an already crushing level of regulatory burdens. To put this burden in perspective, the typical (median-size) bank in this country has 34 employees, and yet banks are now subject to 1,700 pages of regulations and guidelines in the consumer area alone. That is 50 pages of small print for each employee in the typical community bank.

Below are several dozen areas where there would be new or expanded regulations that would stem from the bill in its current form, and many more regulations are likely to follow in the implementation of the bill if it were to be enacted.

Many of these new regulations have nothing to do with solving the problems that led to the crisis, but they do raise the cost for banks and their customers.

See Ed Yingling, ABA's CEO, discussing these points on CNBC's "The Kudlow Report" by clicking the picture below.

New or Expanded Regulations in the Senate Bill:

• Mandated “risk committee” with staffed risk management expert.
• Expanded affiliate transactions to include repurchase and derivative transactions, as well as securities borrowing or lending.
• Expanded lending limit rules on derivatives, repurchase transactions, and securities lending.
• Lower lending limits for state banks.
• New insider transaction rules.
• New capital rules for holding companies.
• “Source of strength” rules for holding companies.
• 5% credit risk retainment of any securitized asset.
• Extensive new information collections about consumer loans.
• Prohibition of mandatory arbitration clauses.
• New rules on “unfair, deceptive, or abusive” practices.
• Expanded disclosures to consumers about risks of transactions.
• New TILA and RESPA mortgage disclosures.
• Electronic disclosures about existing customer transactions.
• Disproportionate penalty for violations of Consumer Financial Protection Bureau rules.
• More state laws applicable as federal preemption eliminated.
• Annual detailed disclosures on deposit accounts.
• Disclosure indentifying women- or minority-owned business loan applications.
• Prohibition of prepayment penalties.
• Daily disclosures on remittance transfers available in foreign languages.
• At least 13 new Home Mortgage Disclosure Act requirements.
• Mandatory “Say on Pay.”
• Required independent compensation committees.
• New compensation and performance disclosures.
• Claw-back provisions.
• Rules regarding director elections.
• Rules regarding compensation plans.

Details of each point are available here and in the "Documents of Interest" column on the right.

As written, the legislation will impose new costs and regulatory burdens on traditional banks that will make it more difficult for them to serve their communities and make more loans. I urge you to send a letter to your Senators to stop this bill from moving forward until a balanced and sensible approach can be crafted.

IMF: Writedowns and Provisions Lower Globally

In April 2010, the International Monetary Fund’s Global Financial Stability Report stated that the health of the global financial system has improved, since the IMF released its previous report in October 2009. The IMF estimates that total global bank writedowns and loan provisions between 2007 and 2010 have fallen by $500 billion from $2.8 trillion in October 2009 to $2.3 trillion in April 2010. Approximately two-thirds or $1.5 trillion of loan writedowns had been realized by the end of 2009.

For U.S. banks, estimated loan writedowns and provisions for 2007–2010 were revised downward by $66 billion to $588 billion. The IMF attributed the improvement to the stabilizing of housing values in the second half of 2009 and the U.S. economic recovery. The IMF also lowered its estimate on the writedown of U.S. banks’ securities portfolio from $371 billion in October 2009 to $296 billion as of April 2010. As a result, the implied cumulative loss rate for the loan and securities portfolios of U.S. banks dropped from 8.2% in October 2009 to 7% in April 2010.

Oppose the Regulatory Reform Bill

The Senate is soon to consider a bill to reform the financial system. The legislation does contain important reforms that banks support, such as the creation of a systemic risk oversight body and provisions designed to restrict too-big-to-fail. Unfortunately, the bill would also impose considerable new burdens on traditional banks. It is now widely recognized that these banks did not cause the financial crisis and already carry a daunting regulatory burden. This bill would add significantly to that burden.

I strongly urge bankers, bank directors and employees – in addition to all bank customers – to use ABA’s automated system to send customized letters to your senators, asking them to oppose the financial regulatory reform bill that the full Senate may now start considering late next week. Time is of the essence. Sensible regulatory reform will fully address critical issues as too-big-to-fail and adequate regulation of nonbank lenders, in addition to effective revisions to consumer protection rules. This Senate legislation fails to do that.

As written, the legislation will impose new costs and regulatory burdens on traditional banks that will make it more difficult for them to serve their communities and make more loans. I urge you to send a letter to your Senators to stop this bill from moving forward until a balanced and sensible approach can be crafted. Please send a letter.

University of Michigan Consumer Sentiment Index Down 4.1 Points

In April, the University of Michigan Consumer Sentiment Index fell by 4.1 points to 69.5. This decline now brings the index to its lowest level since November. This drop in confidence seems to be at odds with growth in consumer spending recently despite minimal rises in income. The drop over the month was primarily due to the future expectations component, which fell 5.6 points. The current conditions component also fell, but by a lesser 1.7 points.

Inflation expectations were mixed. Looking forward one year, expectations rose to 2.9% from 2.7% in March. The five-year outlook was unchanged at 2.7%.



10.04.16 (Source: University of Michigan)

Housing Starts Up 1.6%, Single Family Starts Down 0.9%

In March, housing starts rose 1.6% to an annualized pace of 626,000 units. The increase, however, was entirely due to a large rise in the volatile multi-family unit component, which rose 18.8%. Single family starts, which are far less volatile month-to-month, fell 0.9%. This decline, however, comes after two months of large increases of 5.3 and 5.4%. After hovering around a rate just shy of 500,000 starts per month for about half a year, single family starts have started to trend upward since December. From a year prior, single family starts were up 47.1%. Total starts were up 20.2%.



10.04.16 (Source: Census Bureau)

Headwinds to Labor Market Recovery Part IV: Housing Markets

In the first three posts of our unemployment series, we noted how slower job creation, shortened work weeks, and increased permanent layoffs were a drag on the labor market recovery. In this post, we’ll explore the impact that the housing markets are having on the recovery.

If a worker becomes unemployed, one option for employment is to relocate to an area where there is demand for those skills. However, many local housing markets are prohibiting this move, because the borrower is "underwater" and owes more than the home is worth. A good example of this is the state of Nevada. Nevada has a 13.2% unemployment rate. Seventy percent of mortgages in Nevada were underwater in the fourth quarter of 2009.



States suffering from severe unemployment – California, Nevada, and Florida – also have the highest shares of “underwater” mortgages, exacerbating difficulties for unemployed workers.

A relationship between underwater borrowers and unemployment rate is evident, as four of six states with the highest unemployment rates as of February 2010 also had the highest underwater rate as of December 2009. Two states with the lowest unemployment rates – Oklahoma and North Dakota – also had some of the lowest underwater rates.



In fact, 26% of the variance in a state’s unemployment rate can be explained by variance in a state’s percent of mortgages that are underwater.



Further, many people under financial strain have sought relief through mortgage modifications, which in some cases require the borrower to stay in the home for up to 5 years. These disruptions to worker mobility are already having an impact, as the share of people living in a different county or state compared to the previous year recently hit its lowest level in more than 50 years of data.

Other posts in the series Headwinds to Labor Market Recovery
Part I: Slower Job Creation
Part II: Excessive Slack in Work Week
Part III: Permanent Layoffs

Industrial Production Up 0.1%, Manufacturing Up 0.9 Percent

In January, industrial production rose 0.1%. Output has now increased for nine consecutive months. The increase was held back, however, due to a large 6.4% drop in utilities output, largely due to volatility surrounding the inclement weather this past winter in much of the country. Manufacturing output expanded by a much greater 0.9%. Over the first quarter, manufacturing output increased 7.5% at an annualized rate, compared to 5.6% growth in the fourth quarter. Excluding auto manufacturing, output grew at 6.2% annualized in the first quarter, compared to 4.6 in the fourth quarter. Manufacturing is currently in a stage of strong expansion.

The capacity utilization rate rose for the seventh consecutive month, increasing by 0.2 point to 73.2%. There still remains heavy productive slack; however, an increasing utilization rate is an encouraging step in the right direction as it will have to continue to increase before widespread expansion of payrolls can occur.



10.04.15 (Source: Federal Reserve)

New Feature: Monthly Housing and Mortgage Market Trend Sheet

Earlier optimism about a housing market recovering has faded in recent months. At the end of last year, pundits highlighted accelerating sales, increasing mortgage originations and stabilizing prices as signs that the housing market had bottomed and was poised to grow. But previous Notable # posts reported, at the beginning of 2010, both new and existing home sales fell as the effect of the home buyer tax credit waned. Additionally, nearly 5% of homes are in foreclosure and the government’s home retention programs are having little impact. Meanwhile, home inventories continue to remain high – reaching nearly three quarters of a year’s supply. Certainly these numbers don’t bode well for the recovery argument.

Other numbers are more hopeful, such as improvements in home affordability, but the news cuts both ways. Prices have dropped over the last three years, improving housing affordability and pulling some potential home buyers that have been renting off of the sidelines. Unfortunately on the other side of the ledger, homeowners with 2005 through 2007 vintage mortgages may be suffering the consequences of falling prices and underwater loans.

As we introduce our monthly Housing and Mortgage Market Trend sheet to the Banks and the Economy Blog – we face more questions about the uncertain direction of the housing sector. With mortgage rates at low levels for so long, what will happen to the refinance market? What impact will projected higher mortgage rates have on home sales and mortgage originations? Building permits are rising, but housing starts have remained flat – will we see starts pick-up this spring?

FDIC Says TAG Will Reduce the Cost of Bank Failures

FDIC argues that extending the Transaction Account Guarantee (TAG) program would lower the cost of bank failures.

FDIC wrote that if the TAG program had been allowed to expire on June 30, 2010, in this current economic environment, a number of community banks could experience deposit withdrawals from large transaction account depositors. This would expose the community bank needlessly to liquidity risk and could lower the franchise value of the bank.

This deposit migration of longstanding large depositor relationships would adversely impact “the franchise value to an acquirer in the event of a failure, thus increasing FDIC’s resolution cost.” The loss of franchise value would make it more difficult for FDIC to satisfy the least cost test for any bank resolution.

FDIC writes that liquidity failures tend to be more costly for FDIC, as it must market the institution on an accelerated time line.

“In most cases, liquidity failures are more costly for the FDIC to resolve as there is little time to market the institution. This leads to fewer and less informed bidders who will reduce the value of their proposals to compensate for the uncertainty in the transaction. Bidders are more reluctant to enter into transactions that transfer high-risk assets without having the time to conduct due diligence; this will result in more assets being retained by the FDIC.”

Finally, the erosion in the franchise value could lead to more deposit payouts, which are expensive and consume large amounts of FDIC resources, instead of purchase and assumption transaction.

So, extending the TAG allows the FDIC to be a good steward of the DIF.

Retail Sales Rise 1.6% ; Core Sales Up 0.7%

In March, retail sales jumped 1.6%, following a rise of 0.5% in February. Sales growth in January were broad based with every major retail subcategory posting sales gains with the exception of gasoline sales and consumer electronics. Sales were led by a 6.7% increase in auto and parts sales. Retail sales not including the volatile autos and gasoline components rose by a lesser, but still strong 0.7% over the month. This followed a rise of 1.1% in February.

From a year prior, sales were up 7.6%. This is a new cyclical high and a sharp turnaround from a negative year-over-year rate as recently as last October. Core sales, followed a similar patter, rose 4.2% from a year prior, up from a 2.4% in February.



10.04.14 (Source: Census Bureau)

CPI: Headline Up 0.1%; Core Prices Unchanged

In March, the Consumer Price Index rose 0.1% following no change in February. The increase in prices was on net entirely due to a 0.2% increase in the price of food items. Energy prices were unchanged over the month. The core CPI, which excludes prices of food and energy, was unchanged. From a year prior, the CPI was 2.4% higher. This was down from a 2.8% rise in December, however, up from negative year-over-year changes as recently as October. The core CPI was up by a lesser 1.2% from a year prior, a new cyclical low.



10.04.14 (Source: Bureau of Labor Statistics)

FDIC Approves Extension of Transaction Account Guarantee

FDIC’s decision today to extend the Transaction Account Guarantee Program (TAG) - which offers unlimited deposit insurance on non-interest bearing accounts – for an additional six months was wise.

The TAG program has provided stability and confidence for many bank depositors. Nearly 6,400 banks continue to participate in TAG, which is insuring $266 billion that would otherwise not be covered under regular deposit insurance rules.

However, economic conditions remain very unsettled and it is as important as ever to assure depositors that their money is safe. The need for stable sources of funding is critical and extending the TAG program helps avoid liquidity problems that may otherwise make it very difficult for some banks to continue their operations without significantly reducing lending and other services they provide to their local communities.

The FDIC shares this sentiment, stating in their memo, “Staff is concerned that allowing the TAG program to expire in the current environment could cause a number of community banks to experience deposit withdrawals from their large transaction accounts and risk needless liquidity failures.”

Under the interim rule:

1. The program is extended from July 1, 2010 to Dec. 31, 2010.

2. The board may extend the program an additional year without additional rulemaking, but it would have to make such a determination by Oct. 29.

3. Banks that wish to opt out must do so by April 30. No additional opt-out would be offered later even if the program is extended an additional year.

4. The maximum interest rate for qualifying as a NOW account under the rule is 0.25%, down from 0.50%.

The exit strategy for this program should be one that relies on flexible planning to minimize market disruption once the markets have returned to normal. Since many local economies have not yet normalized, flexible planning is even more important and argues for extension of the TAG program.

Read the interim TAG rule here.

Capital Gap a Concern for CRE Refinancing

The economic recession has taken a severe toll on the commercial real estate market. The loss of almost 8.3 million jobs since the onset of the recession has led to higher vacancy rates across all classes of commercial property. As a result, rents have dropped. The lower cash flows from commercial real estate have contributed to the decline in commercial real estate prices. The value of commercial properties is down 40 percent from their 2007 high.

A worrisome problem facing the commercial real estate market is that $1.4 trillion in commercial mortgages and construction and land development loans are scheduled to mature between 2010 and 2013. The decline in property values has caused loan-to-value ratios to soar. Due to stresses in the commercial real estate market, lenders have become more conservative in their underwriting standards.

The decline in commercial real estate prices coupled with lower loan-to-value ratios have increased the size of the recapitalization gap facing owners of properties that have maturing mortgages. The following example illustrates the recap gap financing problem.

Assume when the commercial mortgage was originated the price of the property was $100 million and the loan-to-value ratio was 70 percent. The owner would have to come up with $30 million in equity and could finance the remaining $70 million.

Now assume property values have fallen by 25 percent. This property is worth $75 million. The owner of the property has $5 million in equity. Additionally, lenders have tightened their underwriting standards by lowering the loan-to-value ratio to 60 percent. This means the owner of the property can only finance $45 million through debt. The recapitalization gap is $25 million. This is the amount of money that the owner needs to come up with to refinance the commercial mortgage.

The worry is that some owners of commercial real estate have been so battered by this recession that they don’t have the equity to put.



The National Association of Real Estate Investment Trust is estimating that the aggregate recapitalization gap for all commercial mortgages was an estimated $1.2 trillion at the end of 2009.

(Graph Concept Attribution: CB Richard Ellis, Annual Trends Report 2010.)

Import Prices Up 0.7%; Export Prices Up 0.7%

In March, import prices rose 0.7%, following a decrease of 0.2% in February. The increase was entirely due on net to increased petroleum prices. Import prices not including oil, fell 0.2% over the month. From a year prior, petroleum import prices were up 70.2%, while total import prices were up 11.4%. Excluding energy products, prices were up by a lesser 2.7% on a year-ago basis; however this is still a significant acceleration from a negative year-over-year change as recently as last October.

Export prices rose 0.7% over the month. From a year prior, export prices were up 4.6%.

Trade Deficit Increases 7.3%; Both Exports and Imports Rise

In February, the trade deficit widened by 7.3% to a monthly pace of $39.7 billion. Though the pace has been choppy in recent months, the trade deficit has been trending upwards for most of the past year. Exports rose 0.2% over the month. However, the increase in exports was overshadowed by the growth of imports of 1.7%. Trade in general has been recovering strongly over the past year. In particular, exports and imports of both capital goods and industrial supplies and materials are growing faster than other categories of trade. This is indicative of recovery of business investment.

Headwinds to Labor Market Recovery Part III: Permanent Layoffs

In the first post in this series, we examined how slower job creation in this recession is slowing the recover. Then we looked at how employers are limiting workweeks in order to avoid laying off some employees. A third headwind which will impact the speed of labor market recovery, is the historically low level of those temporarily unemployed. In previous recessions, firms temporarily laid off employees knowing that they would quickly rehire them once the economy rebounded. However, during the current recession, businesses have been more inclined to permanently reduce staff, an indicator that, even as the recovery proceeds, firms are not expecting to quickly re-staff previous positions.

During the six previous recessions, the share of those temporarily unemployed averaged 33.6 percent of total unemployment. In this recession, businesses have opted to make permanent layoffs, pushing the share of temporary layoffs to a record low of 15.5 percent in November 2009.

Those permanently laid off will either have to acquire new skills before re-entering the labor market or relocate to other areas where their current skills are in demand. Neither solution offers immediate relief to the persistently high unemployment rate.

There is some positive news, however. In late 2009, businesses’ use of temporary staffing increased, which in past recessions was a harbinger for future permanent hiring. But businesses still have significant slack in their current employees’ work week, which will need to be utilized before hiring new staff.



Other posts in the series Headwinds to Labor Market Recovery
Part I: Slower Job Creation
Part II: Excessive Slack in Work Week

Consumer Credit Decreases Again After Rising in January

The Federal Reserve reported that consumer credit (seasonally adjusted) fell in February 2010, after posting an increase for the first time in a year in January 2010.

Consumer credit fell at an annualized pace of 5.6 percent in February to $2.4479 trillion, down from a revised $2.4594 trillion in January. Revolving credit in February fell at an annual rate of 13.1 percent to $858.1 billion. Revolving credit has now fallen in 16 of the last 17 months. Non-revolving credit in February declined at an annualized rate of 1.6 percent, after posting annual growth rate of 6.9 percent in January. As of February 2010, non-revolving credit was almost $1.5898 trillion.

10.04.01 (Source: Federal Reserve)

Delinquency Improvements Due to Jobs and Housing; More Work to be Done

The second consecutive quarter of broad-based decline in consumer delinquencies is very positive news. It shows that consumers are managing their finances better and that banks are exercising a very prudent approach in realizing losses and extending sound credit. It’s also a strong indication that the economy is on an upswing.

Consumers are doing better. They’re taking on less debt, they’re saving more, and they’re building up a little buffer, which is extremely important in these uncertain economic times. Consumers are being sensitive to the debt that they’ve taken on and they’re trying to lower that debt as best they can.

There are a couple of factors that have played prominently in this report. Jobs are the most critical factor in determining consumer credit delinquencies, and we’ve had a horrible string of job losses over the last 18 months. We’ve finally started to see some improvement in new jobs created, but it won’t be until we see a steady increase in jobs that we’ll see delinquencies come down from the levels we’ve had over the last year or so.

Housing continues to struggle, and we did see home equity loans with a fixed repayment increase to record levels. The very good news, though, is that home equity lines of credit fell quite dramatically. This is the first sign of spring in a horrible winter for the housing market.

Consumer Loan Delinquencies Show Broad-Based Decline in Fourth Quarter 2009

Consumer loan delinquencies fell in eight of 11 loan categories in the fourth quarter of 2009, marking the second quarter in a row of broad-based improvement, according to the American Bankers Association’s Consumer Credit Delinquency Bulletin. The composite ratio, which tracks eight closed-end installment loan categories, fell four basis points to 3.19 percent of all accounts compared from 3.23 percent of all accounts in the previous quarter. Bank card delinquencies fell 38 basis points to 4.39 percent of all accounts which is below the five-year average (4.52 percent). The ABA report defines a delinquency as a late payment that is 30 days or more overdue.

In the auto loan categories, direct loan delinquencies fell 10 basis points to 1.94 percent of all accounts. Indirect auto loan delinquencies (arranged through auto dealers) remained even at 3.15 percent of all accounts.

Housing-related loans showed mixed results. Home equity loan delinquencies hit another record, rising to 4.32 percent of all accounts compared to 4.30 percent in the previous quarter. By contrast, home equity lines of credit delinquencies at quarter-end fell for the first time in six quarters to 2.04 percent of all accounts compared to 2.12 percent in the previous quarter.

For more detailed information on consumer delinquencies go to the ABA Press Room.

Headwinds to Labor Market Recovery Part II: Excessive Slack in Work Week

A second headwind to the labor market recovery is excessive slack in current employees’ work schedules. In effort to retain valued employees while balancing lowered consumer demand, employers have reduced work schedules, dropping the average weekly hours worked.

Prior to the onset of the recession, the average work week was 33.8 hours, but as employers began reacting to the decline in consumer demand during the recession, the work week fell to a record low of 33.0 hours in October 2009. Recently there has been a slight improvement in the average work week, which stood at 33.3 hours in March 2010.

However, as the recovery continues in the manufacturing sector and spreads to the service sector, employers have ample flexibility to increase work weeks of existing employees before hiring new staff. To return to the average work week for the six years prior to the recession, employers would have to increase work weeks 1.5%, adding 62.9 million work hours per week for those currently employed.

Other posts in the series Headwinds to Labor Market Recovery
Part I: Slower Job Creation
Part III: Permanent Layoffs
Part IV: Housing Markets

Headwinds to Labor Market Recovery Part I: Slower Job Creation

A recovery like we saw following the 1981 recession is unlikely coming out of this recession. After the 1981 recession – the worst in recent memory – the economy rebounded to recover all jobs lost during the recession in the 12 months after the recession ended. 2.82 million jobs were lost in 16 months. In the 12 months after the recession, the economy rebounded robustly and created 3.08 million jobs. Despite the quick rebound, the economy still took 76 months to arrive at a 5% unemployment rate.

In the current recession, the economy has shed 8.3 million jobs. Even if our economy grew at its fastest pace in the last decade, when 2.5 million jobs were added in 2005, it would take over 3 years of job creation to recover all the lost jobs and this does not address new entrants to the labor force.

The administration is forecasting that only around 1.1 million jobs will be created in 2010, equating to about 104,000 jobs each month for the rest of the year. This pace is indicative of neither a steep reduction in unemployment nor a robust recovery. A March 16 Treasury press release stated, “It typically takes employment growth of somewhat over 100,000 per month to bring the unemployment rate down. Because we do not expect job growth substantially over 100,000 per month over the remainder of the year, we do not expect substantial further declines in unemployment this year.”

So when will unemployment decline? Job growth is expected to accelerate in 2011, which will reduce the unemployment rate gradually. The Administration projects unemployment of 8.9 percent in the fourth quarter of 2011 and 7.9 percent in the fourth quarter of 2012. A recovery of this pace would put unemployment on track for more normal levels in late 2016 to mid 2017.



Other posts in the series Headwinds to Labor Market Recovery
Part II: Excessive Slack in Work Week
Part III: Permanent Layoffs
Part IV: Housing Markets

Recovery Broadens, Lifting ISM Service Index 2.4 Points

A sign that the economic recovery is expanding from the goods-based sectors to the service industries, the ISM non-manufacturing index reported its fourth consecutive increase, rising 2.4 points to 55.4 from February to March. The service sector, which has lagged the recovery reported in the manufacturing sectors, is now improving as the index has been above the expansionary threshold of 50.0 for the first three months of the year.

The employment index continued rising to 49.8, just shy of growth, while new orders and business output continued expanding above the growth threshold. The export index resumed growth after three months of contraction, reaching its highest level since June 2007.



10.04.05 (Source: Institute for Supply Management)

Payroll Employment Up 162,000; Unemployment Rate Steady at 9.7 Percent

In March, payroll employment rose by 162,000. This followed upward revisions for the months of January and February that totaled roughly 40,000 jobs. March was the first month of significant payroll gains since late 2007.

The improvement in payrolls was generally broad-based; however, it was boosted by two factors. The first was the temporary hiring of census workers. Federal employees rose by 48,000 over the month. The other factor was the temporal displacement from February due to the east coast snow storms. It is likely that some hiring that would have occurred in February, occurred in March instead, especially construction sector jobs, which grew for the first time since June 2007. Manufacturing payrolls rose for the third consecutive month. The private service sector added about 82,000 jobs, half of them temp service hires.

Despite the payroll number gain, the unemployment rate, which is measured by a different survey, remained steady at 9.7 percent. Due to the smaller sample size of the unemployment survey, it tends to be more volatile and single-month changes often are less meaningful than a multiple month trend. The labor force participation rate, which had fallen sharply for months hitting a 24 year low in December as more workers likely became discouraged, rose for the third straight month by 0.1 percent. Over the past three months over 850,000 people joined the workforce. As payrolls begin to improve, it is likely that many discouraged workers will rejoin the labor force. This will be a damper on lowering the unemployment rate.

Lending Metrics, Part III: Are Businesses Using Available Credit?

Loan demand, as we discussed in the last post, has declined dramatically at banks as the economy slipped into a recession. One concrete demonstration of this slowdown in demand is just how much people and businesses are actually using their outstanding lines of credit. The fact that banks have been reducing the maximum lines of credit to help manage risk exposure in a weak economy has sometimes been (mis)interpreted as an unwillingness on the part of banks to lend. Like the bank lending volume measure we discussed in the first post, such an interpretation misses the mark.

In fact, even with the cutbacks in lines of credit, there is $6 trillion in unused commitments made available by FDIC-insured banks. Moreover, the utilization rates have declined for business lending, reflecting the decreased demand. Credit card utilization rates have risen somewhat, but the rate remains low overall at 18.7 percent, and demonstrates that there is a considerable amount of credit available for card holders. Just as businesses are more cautious in taking on new debt, so are consumers, which is the major reason why revolving debt outstanding has declined consistently for the last 16 months.





Also see Lending Metrics, Part I: Are Banks Lending?
And Lending Metrics, Part II: Are Businesses Borrowing?

Construction Spending Falls 1.3%, Driven By Drop in Residential Spending

In February, new construction spending fell 1.3%, which was the fourth consecutive drop. The decline was driven by a 2.1% decreases in private residential spending. Residential spending has been volatile over the past number of months. From a year prior, total construction spending was down 12.9% and residential spending was down 2.1%.

Private non-residential spending fell by a lesser 0.4%. Despite the decline, this was the smallest drop in recent months. Non-residential spending was down 3.8% from a year prior. Public spending also fell over the month, declining 1.7% and was down 5.4% from a year prior.



10.04.01 (Source: Census Bureau)

ISM Manufacturing Index Up 3.1 Points to 59.6

In December, the Institute for Supply Management's Manufacturing Index rose 3.1 points to 59.6. The increase put the index at a new cyclical high and was at a level not seen since 2003. This was the eighth consecutive month where the index was above 50, indicating manufacturing activity expansion. The recovery of manufacturing is continuing to accelerate. The production component jumped 2.7 points to 61.1. New orders also came in strong at 61.5 indicating likely future expansions in output. Though the employment component fell back slightly by 1.0 point to 55.1, this is still significantly in expansionary territory, indicating that manufacturers are modestly adding to payrolls. Also of note is that the inventory component jumped into expansionary territory for the first time this cycle, jumping 8.0 points to 55.3.



10.04.01 (Source: Institute for Supply Management)

Case-Schiller Trends Show Winners, Losers, and Cities to Watch

Yesterday the Case-Shiller Housing Index reported its 9th consecutive monthly increase; home prices rose 0.3% from December to January. The increase in this widely-reported composite index masks the recovery – or lack thereof – in individual cities. The recovery in most markets peaked in late summer of last year. From this point forward the recovery has varied depending on the region.

Markets with the biggest bubbles – which were the first to enter steep price declines – are continuing to recover, as deal-seekers create upward price pressure in these markets. Those with little to no bubble are also continuing to recover. However, a number of urban areas have lost steam since the late summer appreciation and have returned to price declines. Growth in a third group of cities has weakened considerably over the past months; these cities may experience declines in the near future. Miami is an exception; declines have weakened and growth is expected in the near future.

All numbers are seasonally adjusted month-over-month percent changes.

Winners – Markets with Large Bubble or No Bubble Continue to Recover
Los Angeles	posted its strongest increase (1.8%) since October 2005.
San Diego	has reported growth near or above 1% for the past seven months.
Las Vegas	after 32 months of decline, the city has posted three months of modest gains, with a 0.3% increase in January.
Phoenix	reported eight straight months of increases, seven of which were near or above 1%.
Tampa	after four months of weakening declines, the market posted a gain of 0.5% in January.
Minneapolis	after five months of weakening increases, growth jumped from 0.3% in December to 0.7% in January.
Cleveland	after declines in four of the five previous months, the market posted 0.7% growth in January.
Losers – Some Urban Areas Are Losing Steam
Atlanta	growth has been flat or negative for the past five months. -0.5% in January was the largest decline since March 2009.
Chicago	declines of around 1% for the past four months.
New York City	after a short-lived four-month recovery last summer (following 25 months of declines) the market has posted declines over the past five months.
Charlotte	after a year of declines mostly under 1%, the market posted 3 months of essentially flat growth. The index turned negative again in January at -0.1%.
Portland	modest increase in six of last seven months, but turned negative again in January at -0.5%.
Seattle	after three months of small growth (0.2% to 0.3%), the market fell 0.6% in January.
Watch List – Markets in Transition Show Questionable Growth
San Francisco	still posting gains, but at an increasingly weaker pace since July 2009.
Denver	growth has slowed to 0.0% and 0.1% in the past two months from as high as 1% in August and June.
Washington DC	growth has weakened from 1.3% - 1.5% from June through August to 0.2% in January.
Boston	after two months of declines, prices increased 0.6% in November but growth has since diminished to 0.3% in January.
Dallas	after a 0.9% growth in November and 0.2% growth in December, the index declined 0.3% in January, its first decline since September.
Detroit	after solid growth of around 1% from August through October, the market posted a decline then near flat growth the past three months.
Miami	declines have weakened over the past three months from -0.5% in October to -0.1% in January as the market trends toward increases in coming months.