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Economy

U.S. Receives a Margin Call The growing crisis of confidence in the U.S. economy is extending to the credit-worthiness of borrowers across the spectrum, including American homeowners. As global investors pull money from the U.S., few believe the worst is over. The U.S. is at the receiving end of a massive margin call: Across the economy, wary lenders are demanding that borrowers put up more collateral or sell assets to reduce debts. The unfolding financial crisis -- one that began with bad bets on securities backed by subprime mortgages, then sparked a tightening of credit between big banks -- appears to be broadening further. For years, the U.S. economy has been borrowing from cash-rich lenders from Asia to the Middle East. American firms and households have enjoyed readily available credit at easy terms, even for risky bets. No longer. Recent days' cascade of bad news, culminating in yesterday's bailout of Bear Stearns Cos., is accelerating the erosion of trust in the longevity of some brand-name U.S. financial institutions. The growing crisis of confidence now extends to the credit-worthiness of borrowers across the spectrum -- touching American homeowners, who are seeing the value of their bedrock asset decline, and raising questions about the capacity of the Federal Reserve and U.S. government to rapidly repair the problems. That is a troubling prospect for a savings-short, debt-heavy economy that relies on $2 billion a day from abroad to finance investment. It is raising the specter of the long-feared crash in the dollar that could further rattle financial markets and boost U.S. interest rates. But few in markets and elsewhere are convinced that the worst is over for the U.S., as each player moves to protect its own interests against potential calamities seen as improbable just a few months ago. The resulting blow to confidence threatens to further weaken lending, borrowing, spending and investment in the U.S. economy.

How bad is the mortgage crisis going to get? What started in subprime is likely to continue cascading into the markets and keep the economy down until 2010, economist Paul Krugman forecasts. Bottom line for homeowners: An average drop of 25%. You've been saying 2010 is when we get out of this recession. How did you arrive at that date? The last recession officially ended after eight months, but employment didn't start to recover until 30 months later, so I think we go at least that long this time. If the recession started in January 2008, then that would mean July 2010 is the first month we have anything that feels like a recovery. But I wouldn't be surprised if it goes longer than that - maybe into 2011. What's changed? There has been the realization that the increased nervousness about risk and deleveraging is going to hit a lot of markets a long way removed from subprime - like when people start to see auction-rate securities go. Something has finally tipped the balance. We've got Fannie Mae and Freddie Mac suddenly having to pay substantial spreads. It seems to me like every few weeks there's another $300 billion market I've never heard of that has just collapsed. And there's credit cards, auto loans - I don't know what's next. But it's clear we're going to have a commercial real estate crash not too far short of the severity of the housing crash.

• Factory Output Shrinks More Than Forecast as Fed Seeks to Thwart Recession Industrial production in the U.S. dropped more than forecast in February as the economic slump deepened even before the crisis in financial markets intensified.
• Producer Prices in U.S. Rise 0.3%, Less Than Estimated; Core Climbs 0.5% Prices paid to U.S. producers rose less than forecast in February, while wholesale costs excluding food and energy jumped by the most since November 2006.
• Housing Starts in U.S. Drop 0.6%; Building Permits Decline to 16-Year Low Housing starts in the U.S. dropped in February and building permits fell to the lowest level in more than 16 years, signaling slowing construction will continue to hurt economic growth.
• Oil, Copper Lead Commodity Slide as Slowing Economy May End `Buying Orgy' Crude oil, copper and coffee led the biggest decline in commodities since 2001 on speculation that a U.S. recession will stall demand for raw materials.
• Paulson Admits U.S. Economy in Sharp Decline
• Housing Starts, New Home Sales and Cancellations It appears starts of single family homes (built for sale) have fallen below the current new home sales rate. This would imply that the inventory for new homes has started to decline (my quick estimate is that new home inventory is currently declining at about a 100 thousand annual rate). But how high is inventory? If sales hold at steady at 600 thousand Seasonally Adjusted Annual Rate (SAAR), a six months supply would be an inventory of 300 thousand units. Based on the Census Bureau reported inventory level, this would mean a decline of 182 thousand units. (Based on the cancellation adjusted levels, add another 108 thousand units or so). So even though the homebuilders appear to be working off inventory, it is at a very slow pace compared to the number of excess units. Even if sales hold steady, starts of single family homes (built for sale) probably will decline further as builders work to reduce inventory.Of course homebuilders are providing incentives and cutting prices to move inventory. As an example, this is from DR Horton:

·         Slump Moves From Wall St. to Main St. With Wall Street caught in a credit crisis that has captured headlines, the forces assailing the economy are now spreading beyond areas hit hardest by the boom-turned-bust in real estate like California, Florida and Nevada. Now, the downturn is seeping into new parts of the country, to communities that seemed insulated only months ago. The broadening of the slowdown, the plunge in home prices and near-paralysis in the financial system are fueling worries that what most economists now see as an inevitable recession could end up being especially painful. Indeed, some economists fear it will last longer and inflict more bite on workers and businesses than the last two recessions, which gripped the economy in 2001 and for eight months straddling 1990 and 1991. This time, these experts say, a recession in which economic activity falls over a sustained period and joblessness rises across the board could even persist into next year. ECRI: U.S. "unambiguously" in a recession, Philly Fed Index

OECD Anticipates No Growth in U.S. in Second Quarter, Slowdown in Europe The U.S. economy will fail to grow for the first quarter since 2001 in the three months ending in June, the Organization for Economic Cooperation and Development predicted.

•  European Services, Manufacturing Growth Slowed More Than Forecast in March Growth in Europe's service and manufacturing industries slowed more than economists forecast this month, a sign that the euro's appreciation to a record and oil prices above $100 a barrel are hurting economic expansion.

Potential Policy Tug of War With the U.S. dollar tumbling to its lowest level against the yen since 1995 and hitting another record low against the euro, some traders and analysts wonder whether the Treasury Department may soon have to intervene to brake the currency's fall, something it was last forced to do in the mid-1990s. But currency interventions have a mixed record of success around the world. In this case, if the Treasury decided to act, it might find itself moving in the opposite direction of an even more powerful market force: the Federal Reserve. When a government intervenes in currency markets, it buys or sells a currency depending on the direction in which it wants it to move. In this case, the Treasury would be forced to buy dollars, constraining their supply, to slow or halt the pace of its decline. When the Fed lowers interest rates, as it has been doing aggressively in recent months, it is effectively pumping dollars into the financial system.

European Exports to U.S. Drop for First Time in Four Years on Euro's Gain European exports to the U.S. fell last year for the first time in four years as the euro's advance reduced the competitiveness of the region's goods. Shipments to the U.S. declined 3 percent to 194 billion euros ($305 billion) in 2007, the European Union's statistics office in Luxembourg said today. That followed an 8 percent increase in 2006 and was the first full-year decline since 2003. The outlook for European exports has deteriorated further this year, with the euro rising 18 percent against the dollar in the last 12 months and the U.S. economy, the world's largest, teetering close to a recession. The increase has prompted European Central Bank President

China's looming Olympics disaster The Beijing games are supposed to showcase China's stature on the world stage. But they're producing protests at home and may shut down big hunks of the nation's economy. Yes, the Beijing Olympics, which were supposed to showcase China to the world, are still likely to provide exactly the kind of prestige-building extravaganza that the country's leaders had hoped for. But domestically, the games are quickly turning into an economic and political disaster. Once upon a time -- maybe six months ago -- investors (including yours truly) looked on the Olympics as a guarantee that China's stock market and economy would keep chugging along through the summer. "Safe until August" was the mantra. Now, it increasingly looks like the games themselves could be the catalyst for a significant downturn in China's stock market and economy. All this might not matter to overseas investors if the Chinese stock market wasn't looking so wobbly right now. Hong Kong's Hang Seng Index ($HSIX) is down 17.6% from the start of 2008. The more volatile mainland Shanghai market is down 25% since the start of the year. What might be wrong with China's stock markets is, in part, a reflection of rising anger at the national government in the run-up to the Beijing Olympics. But what we're seeing in China right now is a rising sense among investors that they really can't trust the government to do the right thing by them and a worry that the government may, whatever its intentions, not be the infallible manager of all things economic and financial that investors had been counting on. That's a fear that overseas investors should think about, too: China's government is about to try to slow runaway inflation while readjusting the value of the country's currency, keeping the economy growing at better than 8% a year, reducing income inequality and rebuilding some parts of the medical and educational infrastructure. Asking any government to handle all that without a slip is asking a lot.