Sunday, July 3, 2011

QE3, Geithner’s Stepping Down(?) and Bill Clinton’s Principal Writedown Solution

Since QE2 ended today (and they are still proceeding with zero Fed Funds Rate and reinvestment of MBS and Agency Bond principal payments into Treasuries), the wisdom is the there will be NO QE3.

Yes, probably for July. But I predict that QE3 will be coming shortly. Why? Who wants to buy our debt when The Fed (more specifically, The Fed on New York) stops buying it?

Greece will ultimately default, despite votes for austerity. It’s just a waiting game. Like the James Bond movie, “Die Another Day,” Greece’s Parliament, the ECB, the IMF and others are simply stalling on Greece’s economic death. Along with other peripheral members of the European Union. The collapse of Europe will send money our way — as long as we as the reserve currency for the world.

But China wants to be the Global Reserve Currency, or at least another reserve currency. Why, because China is facing a hard landing because loan losses are huge and growing. Those phantom cities are expensive and don’t generate a heap of rental income to cover debt service. So, China is against a hard wall in terms of THEIR debt issuance. Again, the world will come to us since there isn’t a lot of love for China’s reckless spending policies.

I am guessing that we won’t see a surge in non-Fed Treasuries purchases. So either Treasury will have to offer HIGHER interest rates on their bonds (might be explain Geithner’s hints at leaving as Treasury Secretary), or the Fed will step in and do QE3. We will be watching closely over the summer.

So, either Treasury rates will rise or The Fed will set sail on QE3. Take your pick.

Ex-President Bill Clinton, the architect of the massive surge in mortgage financing through Fannie Mae and Freddie Mac (which ultimately blew up) is now offering his opinions on how to clean up the mess that he helped create. Austerity? Tighten your belts? Move to less expensive rental property? Nope. He is suggesting that Bank of America (and other banks) write down principal on mortgage loans.

“By unclogging the housing market, “you lift not only an economic, but a psychological burden off of the homeowners and the banks,” Clinton said. “And we’re free to start lending again, we’re free to engage in normal economic activity.””

Of course, Clinton is not alone. A number of advocates exist for massive principal write downs (including Glenn Hubbard and Chris Mayer of Columbia University and Laurie Goodman of Amherst Securities). They have mixed motivations (including saving second liens for hedge funds), but the question I always have is the same one: WHO pays for the principal write downs?

Answer: The American taxpayer. That is why Ed DeMarco of FHFA (Fannie Mae and Freddie Mac’s Regulator) is against principal reductions. It is VERY expensive with no clear evidence that it would work. And it would create a “Fool’s Gold” Rush of borrower’s threatening to default on their mortgage. Throw in the massive borrower fraud problem and you have a fiasco on your hands.

Then again, President Clinton didn’t foresee the fiasco that he pushed into motion with Fannie, Freddie and the Affordable Housing Mandates. So, why would he correctly foresee the fiasco of pushing Bank of America or Fannie Mae and Freddie Mac into making principal reductions.

Imagine the amount of Tier 1 capital that banks would have to raise to meet the demands for principal reductions? Hint: look at the difficulty Treasury is having issuing debt. Suppose that a run on principal write downs leads to systemic bank failure because the banks can’t handle the requests?

President Clinton, stick to the Clinton Foundation. If the Foundation wants to fund principal reductions, that would be fantastic. Otherwise, stick to whatever else you do. Your housing policies were ultimately devastating.

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