Connelly on Commerce

Bring on the downgrade! That’s what some in Washington seem to be cheering for these days — maybe enough of them to stop a vote in the House of representatives to raise the debt ceiling before the roof falls in on August 2. It’s time to get serious about this.

The credit rating agencies have made it abundantly clear that, without progress on the debt ceiling budget talks by the middle of this month, they will put the US on credit watch for a likely downgrade of the Americans Triple A credit rating. In the case of Standard & Poors, for example, that will be all the way down to “D” — for “default” — lower than junk. Now the markets may or may not react in mid-July to the rating agencies “final warning’  – Wall Street professionals cannot believe that the politicians in Washington will actually let the US go in to default onits obligations. They rightly view as sheer nonsense the idea of some that we can simply pay the interest on our credit card and let things like military pay or Social security checks fall by the wayside for a while — those latter events would be events of default, too, in the eyes of the rating agencies. They know on Wall Street all too well what the actual consequences of a “D’ rating would be. But Wall Street has lost credibility with the American voter, and too many of them have been led to believe by somem politicians and cable commentators  that a credit dwongrade or even “temporary’ default can be managed to a good outcome

Some want this downgrade to happen because they think this would seal  Obama’s doom in 2012 as the only President ever to ‘lose’ the Triple A rating or to bring on a shutdown of the government to the point where we stopped paying our Social security checks. But that’s not the half of what would happen. With a “D” rating, virtually the preponderance of the balance sheets of banks, insurance companies, pension funds and even the Us Federal reserve would become worthless overnight; the “freeze-up” of transactions among financial institutions and in commerce generally would make the Lehman event seem like a spring thaw — no bank could trust any other overnight because they would all be capital-impaired, with no market to which to sell their worthless US Treasury securities, because no other financial institution would be able to classify them as capital. There would meanwhile be a run on every bank by depositors, bankrupting the FDIC in short order, as ordinary individuals scrambled for any ounce of cash.

These are not “scare tactics”; we’ve seen the trailer to this movie before in the days after Lehman’s bankruptcy filing — but this time, it won’t just be AIG that goes under — who would rescue the Fed?  Every balance sheet stuffed with ‘safe’ US securities would be technically worthless — not because American can’t afford to pay its obligations — we are, for the moment, still a multi-trillion dollar economy — but because one particularly willful but  stupid clique of politicians believe that they need the downgrade and  default event, and the expectable stock and bond market crashes, as their excuse to vote eventually for the debt ceiling increasde AFTER the damage is done to Obama and because, as they will ex[lain to their Tea Party  "base',  "the market [which they worship] made them do it”.

It is high time for the media generally to do its homework and alert the public to what happens if this scenario comes to pass and  expose those who are shamelessly exploiting public ignorance for short-term political advantage. Although as usual it is the Tea Party denizens and Fox News that are peddling the idiocy of default as a good idea, some on both the Right and the Left are guilty as charges on this count as well, as they argue that their leaders should draw ‘lines in the sand” in the debt ceiling debate to [prevent any compromise or short-term agreement that would violate their budget principles. Lines in the sand, however,  only work in the kids’ sandbox — on a real beach, they tend to get wipes out by powerful tides.

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Terry Connelly is dean of the Ageno School of Business at Golden Gate University and is frequently quoted on business, financial, and economic issues by Bay Area local, as well as national, news media.

Is there such a thing as “too small to fail”?  Greece’s debt — if rescued again by the ECB-led bailout 2.0 — will be larger by far than its entire economic output. But that debt is held by the largest Eurozone banks and by the ECB itself, so if Greece goes down, so do they, and there is no European form of the infamous US TARP program that bailed out our banking giants when they went long and wrong on housing derivatives and credit default swaps.

But there are those in Europe and on American cable TV– like the ideological “reporter” Rick Santelli on CNBC, who are arguing that Greece should be allowed — indeed, forced –to fail and their investors along with it  in order to avoid the mother of all moral hazards. Recall that the same folks were actively pressuring Hank Paulson and Ben Bernanke to let Lehman go under as a lesson to others, after the bad taste left by the Fed’s engineered bailout of Bear Stearns (although of course the Bear shareholders lost their fortunes).

Readers of this Blog can look up our comments  at the time that letting Lehman fail would prove a lot more expensive to the US taxpayer than a bailout  – a view that proved to be overwhelmingly correct. We need to keep in mind the same lesson with respect to Greece, even though “kicking the can down the road” obviously leaves a bad taste. The fact is that the European banking sector is not yet healthy enough to handle a Greek default and it will take a couple more years — at least until 2013 — for them to recover enough from the housing/financial meltdown of 2008. If the European authorities listen to the braying of cable TV commentators and German politicians, in a way similar to the cowering by Paulson and Bernanke to Rick Santelli et al in the US in the case of Lehman, we will have a Lehman 2.0 in the form of Greece, and the European Central Bank may even turn out to be AIG: ironically, forcing the Germans to bail out their own Frankenstein for a change,

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Terry Connelly is dean of the Ageno School of Business at Golden Gate University and is frequently quoted on business, financial, and economic issues by Bay Area local, as well as national, news media.

June may be a time for drag racing on the back roads of teenage America, but it’s no time for a game of chicken in Washington DC regarding the full faith and credit of US debt obligations.

Credit rating agencies, fresh from dtheir spinal implants after their disastrous breakdown enabling the housing and Wall Street financial crisis are itching to be the first to put America’s triple A rating on notice of downgrade — a move that would shake the bond markets out of their complacency, make the Euro/Greek crisis look tame by comparison and put the chances of another one-day 700 point type drop in the Dow Jones Average  at at least 50-50. You will recall that such a 700-point drop is what finally “convinced” Congress to approve the bitter medicine of TARP prescribed by the US Treasury for the financial mess the banking world was in. That Dow drop enabled most Republican and some on conservative Democrat opponents of TARP to hide under the barrel of saving individual investors from a market crash, rather than saving the bankers, when they relectantly voted for TARP. Is another such scenario unfolding in the nation’s capital now about the debt ceiling.

While common sense suggests we should not be playing with fire with the debt ceiling  (which creates the specter of US credit default, or at least an alternative cessation of government programs like Social security payments, Pell Grants, pay checks for the military and domestic defense contractors, etc), it may be the case that some in Congress we need to actually bring on such a financial Armagedddon —  reflected in a stock market/bond market combined crash — to justify their eventual vote to lift the debt ceiling and thus again “save” investors from the debacle that the Congress itself brought on!

If that is truly the case,  get into cash (and maybe some dividend payers and quick! With the media cheering for a train wreck (far more interesting and newsworthy than a timely settlement of the issue), we can be sure that the scenario just outlined will soon sweep Greece off the front financial pages, and trigger the markets’ usual “discounting mechanism”

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Terry Connelly is dean of the Ageno School of Business at Golden Gate University and is frequently quoted on business, financial, and economic issues by Bay Area local, as well as national, news media.

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Terry Connelly is dean of the Ageno School of Business at Golden Gate University and is frequently quoted on business, financial, and economic issues by Bay Area local, as well as national, news media.

You can bank on Ireland — that is, if you’re an Irish Bank. The Irish Government has bailed out its banks to the extent that makes America’s TARP program seem like little more than a drop in the bucket. And in doing so it has nearly bankrupted the country’s treasury and along the way exposed its citizens’ to the harsh reality of fiscal austerity. Moreover, it has managed to preserve Ireland’s  status as a low-tax location for multinational corporations, with a 12% corporate income tax rate. Mercantilism meets the Tea Party!

The only problem is that good old credit default swaps have called a halt to the Irish sweep-under-the rug-stakes — and the same derivative vigilantes have called the question on the Euromarket leaders (sic) in terms of whether the Irish funding crisis will pull down the whole Euro structure once again as was threatened in the case of Greece before the Germans (aka Europe) and the ECB got together with the bloodhounds from the International Monetary Fund to pony up a big league bailout fund (l’ ‘TARP, c’est moi!) — with strings attached.

It’s hard to see what more austerity the IMF folks can levy on the suffering Irish citzenry, but it’s not hard to imagine what they might do to their banks’ bondholders, who thus far have escaped Scot (should we say Irish?) free. Moreover, it would also seem that in terms of the revenue side of the Irish ledger, the heyday of the low corporate tax rate may be just about up. That’s what the Irish PM and his colleagues may have been fighting to hold on to, but it seems they are now backed into a corner by the comments of their own Central Bank head, who has conceded a bailout of substantial proportions must be forthcoming. The jig is up.

Not coincidentally, the imminent resolution of this Irish Kabuki will put an end to the rumors game the too-short-the-market US hedge funds have been running against the US stock market the past few days. November, as it runs out, isn’t May, even when the Chines coopoerate with a little price-control Kabuki of their own, which turned out to just about food and not about the harder commodities.

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Terry Connelly is dean of the Ageno School of Business at Golden Gate University and is frequently quoted on business, financial, and economic issues by Bay Area local, as well as national, news media.

Here are my thoughts;

1) I agree this election is historically significant already: but in part because its context is really like no other in recent memory given the economic debacle we have been living with since mid-2008: the “breakthrough” election of Obama and the resultant Tea Party backlash (although this aspects is reminiscent of the emergence of the George Wallace movement after the Johnson Civil Rights victories); and the much broader engagement of the electorate in business and economic issues that in past times would have been viewed as arcane or “inside baseball” stuff (recall the level of sophistication back in the Ford White House “Whip Inflation Now” buttons in the 1978 Congressional campaign).

2) Whatever the size of the anticipated swing to the republicans, they will as a Party be “implicated” in the course of the economy for the first time since 2008 — they will be a partner in Government even if they fall just short of House or Senate control — which means “Just Say No” pure obstruction won’t work as a strategy focused towards 2012. The Party has already anticipated that outcome with it’s somewhat half-formed “Pledge to America” that in effect creates a luttle daylight between them and the Tea Party.

3) The Democrats in Congress and especially the White House will have every excuse to put their strident anti-business posture behind them, not only because of electoral losses but even more because we have about “run out of spit” in terms of both fiscal and Federal Reserve ‘stimulus” (although the Fed may give one more shot at stimulating some real inflation) and we will need business leaders to make bold decisions on investment and hiring to drive a real economic recovery.

4) Accordingly, I do NOT foresee, as so many do, two years of utter gridlock in DC on economic issues but rather a situation where deals can get done. Specifically, I believe an informal but strong “centrist caucus” will emerge in both the House and Senate particularly around a pro-business agenda, and that the White House will reach out to them in tis own self-interest. This will be good for investors and middle-class IRA’s and consumer sentiment generally.

5) The Report of the Deficit Commission in December, just a month after the election, will not be just “‘put on the shelf” like so many commissions before but will rather serve as a “safe harbor” for politicians (especially the “centrist caucus” I mentioned above) to open dialog about formerly ‘third rail” budgetary issues — this also will hold true for the President, although in reality it will imply that we will raise some taxes in some way on the middle class or at least begin to chip away at some sacred cows they hold dear like mortgage interest deductions up to $1 million. While I expect no ‘grand bargain’ before 2012, I do believe there will be more pro-business actions emerging from the Administration and Congress in 2011. For example, a deal on repatriation of over $1 trillion in corporate overseas earnings in exchange fora minimal tax payment and commitments on hiring and investment, and some sort of regulatory check and balance process..

6) There may even be progress on skilled immigration, as business knows the dirty secret that by the middle of the next decade, our national problem will be too few workers for the jobs we need filled, not the present high unemployment that effectively masks this long term competitiveness problem. Politicians may begin to gingerly concede that China is eating our lunch in terms of driving its economy purposefully and effectively (Howard Dean tried to suggest this in 2004 but was shouted down even in his own Party — by late 2011, it will be a mantra a many Presidential aspirants — the ‘missile gap” of 2012!

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Terry Connelly is dean of the Ageno School of Business at Golden Gate University and is frequently quoted on business, financial, and economic issues by Bay Area local, as well as national, news media.

As we follow the projected path of the latest Atlantic hurricane just after the Bernanke speech last Friday in hurricane-proof Jackson Hole, consider that  the “cone of uncertainty” weather forecasters use to frame the potential path of the storm up the US East Coast is an apt metaphor for the state of the US economy.

And just as this week we will learn the actual path that the hurricane will take, for good or ill, this week we will learn economic statistics that will set the tone for the month of September in the financial markets: the Challenger report on August corporate downsizing; the ADP report of payrolls, the weekly new jobless claims, and unemployment and net job creation for the month of August.

While some of these numbers are enlightened guesswork and especially the last listed is prone to later revisions, if the economy goes “0 for 4″ on these key measures of return toward growth, we will be in for a rough week in equities and a stellar week in bond-bubble-land.

We have already been rocked by downward revision of the GDP estimate for Q2: however, bear in mind that the “final” revision for Q1 turned out to be about 30% wrong to the downside  — we learned just four weeks ago that Q1 was actually a 3.7% growth period, not 2.7%. Imagine what the equity market would have done with that news had it been delivered the last week of April instead of the last week in July!

As it was, that disappointing but wildly erroneous number set the stage for the market swoon pushed on by the frightening (and equally erroneous) cries of doom in May from the merchants of pessimism about European sovereign debt: Greece was going to default, followed by Spain; Germany was going to pull out of the Euro; the Euro was going to parity with the US dollar.

NONE of this came to pass, but US businesses clearly pulled in their investing and hiring horns in response to the story line (as did US consumers): they all took the summer off at the beach, with predictable results in terms of the economic data for June, July and August.

So we have now once again proven to ourselves that the “Big Lie” — or at least the “Big Hedge-Fund , CNBC driven Panic Rumor” — can knock stock prices silly.

No surprise, then, that individual investors have fled the equity market, given  May’s “”flash crash” and the constant ideologially-driven drivel from the usual suspects CNBC rounds up every day to use the latest faulty economic “data” to bash the Obama Administration and tout a Republican victory in November.

No argument from this quarter against CNBC trying to emulate Fox News — but one wonders why a network dependent on individual stock market investors for its audience would be intent on eliminating that particular species from the food chain?

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Terry Connelly is dean of the Ageno School of Business at Golden Gate University and is frequently quoted on business, financial, and economic issues by Bay Area local, as well as national, news media.

Let’s imagine a new business offering a service, priced significantly higher than many available alternatives, that somehow manages to get the US Taxpayer to front-up its operating costs in the form of loans to its customers up to 90% of total revenue, and then uses that Federal subsidy to fund not only the basic service cost but in may cases an even greater amount of spending on all manner of advertising to drown out its competitors with expensive national media campaigns and call center operations rivaling the heyday of the sub-prime mortgage industry with misleading sales tactics recently uncovered by Federal agents shopping in disguise. To top it off, the taxpayer is stuck with any default losses on those customer loans, which  must be repaid even if the customers don’t get the full economic benefit of the services they paid for up-front. And let’s add that this taxpayer- underwritten business model generates profit margins about 300% higher than the typical Federally-funded defense contractor.

Would The Wall Street Journal  not rail against this model as  a classic, Fannie Mae case of privatizing gains and socializing losses? Would the WSJ not conclude that paying the taxes on such extraordinary earnings is the least this business could do to compensate the taxpayer for taking the risk of funding its marketing campaigns? Would the Journal not lecture us that separating economic risk from reward is particularly inconsistent with your core free-market principles?

Yet this is the very same business model followed by many of the for-profit colleges and universities you conclude are being unfairly scapegoated by the Obama Administration. Would taxpayers not be far better served by focusing their subsidies on customers of public (and private) educational institutions that charge lesser (or even equivalent prices) for educational services where the vast bulk of the public money (and risk) supports the cost of education rather than a crescendo of questionable advertising?

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