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August 22, 2008

Enough is Enough: End the Bailouts Now!

THE BAILOUTS NEED TO END NOW!

I have just learned through CNBC and the Wall Street Journal that the Big Three automakers are asking the Federal government for $25 billion in loans to help them get through the downturn in the U.S. economy. Enough is enough!!

When a business is struggling, it’s the business model and strategy, not the economic times that dictate performance.

The Big Three need to recognize that they brought themselves into this situation with poor management, inflated labor costs, and terrible product placement. Producing high margin products while the cost to operate them (fuel) rose and demand crashed is just plain stupid.

In the 1970s, Lee Iacocca saw a need for a smaller, more fuel efficient car that can help Americans save money on gas and reduce our dependency on foreign oil. Nobody listened then, and they are too late to listen now. In business, the backstop of a government bailout is always going to encourage higher risk and more irresponsible behavior.

Airlines Amtrak Mortgages Automakers

The business models of each of these companies needs to be changed and if there are such changes already in place, they need to be accelerated. How much more does the American taxpayer need to pay for? In a capitalistic, free market society, the rewards are greater, but we must recognize that the risks are greater, too.

If we attempt to subsidize one of these, we will subsidize both. I would rather have ZERO car manufacturers in the U.S. then have the government funding one (or three) to stay open. A collapse at Ford, Chrysler, or GM would cause companies across the industries above to maybe reconsider their practices before relying on the government to come to the rescue.

Just like the subsidization of bad practices in the auto industry, mortgage companies are still trying to hold onto as much mortgage paper as possible in the hopes of continued government bailouts. These companies need to sell their bad paper at a large discount and take the write-offs. It’s time to eat and digest all of the mistakes of the mortgage market. (As one economist said, “bon appetit!”)

It’s time to hold these companies accountable for their mistakes, instead of holding the taxpayer accountable.

August 19, 2008

I SUPPORT THE PICKENS PLAN

I SUPPORT THE PICKENS PLAN

Recently, oil tycoon T. Boone Pickens revealed his plan to reduce our dependency on foreign oil to CNBC. What has become known as the Pickens Plan is a revolutionary and innovative approach to managing our energy supply. In my opinion, each part of the plan can be achieved, but it will require a tremendous amount of support from citizens and government both.

The first part of the Pickens Plan calls for the building of numerous wind farms across the wind corridor of the American Midwest. Within ten years, nearly 20% of America’s electricity can be created by wind power. If the industry can become profitable without a government subsidy, we could easily have 50% of electricity generated by wind by 2038.

By generating electricity from wind, the U.S. will have more natural gas supply available. Currently, 20% of our electrical grid is fueled by natural gas. By replacing natural gas with wind, we can put natural gas to alternative uses, which is where the second part of the plan comes into play.

As weird as it may sound, natural gas can power automobiles the same way as gasoline. Many countries worldwide have natural gas vehicles. Now, Boone Pickens wants to bring this technology to the United States. Natural gas powered cars would cost between $1.25 and $1.50 per gallon to fuel, get similar fuel mileage as gasoline powered car, and can be filled using the natural gas line at your home.

Another minor, but important part of the Pickens Plan is having solar panels installed in the desert southwest. This could work to reduce our dependence on fossil fuels to produce electricity and increase the domestic energy supply.

I believe that the goal of the Pickens Plan (reducing/eliminating our dependence on foreign oil) can be increased with other methods of domestic energy production:

1. Drill, Drill Drill: In the near term, we are either going to get our oil domestically or abroad, so where would you prefer the oil be sourced? By drilling in the U.S. we can reduce the transfer of wealth abroad. Keep in mind that this transfer of wealth is much different than buying cheap products from abroad. Within six weeks of purchase, the oil is consumed. This leaves us with nothing (while other transfers of wealth have appreciating or depreciating assets) while our wealth is sent overseas.

2. Go nuclear: Nuclear power can further reduce our need for natural gas to create electricity. Also, contrary to popular belief, nuclear power is very clean. By replacing natural gas and coal with nuclear, our air would be cleaner and we would be less dependent on fossil fuels.

The bottom line is that in a time when energy is becoming increasingly expensive, we need to look at ALL domestic alternatives to foreign oil. Now is not the time to be picky about what types of energy we want. We need to work together to create a better economic environment for our children and with an increasing dependence on foreign oil, that goal will become harder to reach.

August 15, 2008

I Met with an Obama Rep Today

I MET WITH AN OBAMA REP TODAY

I had the opportunity today in Eureka, IL to spend about a half an hour with a representative from Senator Obama’s office on concerns that citizens may have about the federal government. As always, I could not turn down a good opportunity to voice my opinion. As it turned out, I would be the only citizen to show up during my time there.

As we were about to begin, a member from the Woodford County Journal arrived to cover the story. Shockingly, the rep explained to him that these events were closed to the media. The journalist exclaimed his surprised that the press would not be allowed to cover the story in a publicly funded building. Good thing the journalist was not a liberal and the senator’s rep not a conservative or we would have had a federal lawsuit on our hands.

I intended on sharing only two concerns, but since I had the entire time allotted, I shared my most important concerns.

Oil. Oil is my largest near term concern, not just from a price standpoint, but how the liberal media and politicians are judging how it is being traded. For more information, see my blog ( ). If we are not prepared to adequately gauge the problem, how are we going to be able to implement a proper solution?

Social Security and Unfunded Liabilities. With $80,000 in school debt and my kids generation facing a $300,000 tuition bill for a private college education, I need all the money I can get right now. Unfortunately, I am paying $230 per month in Social Security taxes! That’s especially shocking for someone who’s never going to see a dime of it! I expressed concern with the Obama camp that the government has mismanaged Social Security to such an extent that I may have to pay additional taxes just to relieve the debt burden of the Baby Boomer generation.

Social Security accounts for over $50 trillion in unfunded liability. That’s four times the nation’s gross domestic product. How are we going to finance this? I suggested that it would actually be better if the government mandated matching 401(k) programs for companies. Under this method, the money would be invested in private enterprises and not sent to government to be switched with bonds, creating $1 trillion in national debt.

The Federal Reserve. The Federal Reserve has faced an increasing amount of political pressure over the past year. I believe that if elected, Barack Obama would actually make public statements dictating what he believes the Federal Reserve should do. The fiscal policy of government and the monetary policy of the Central Bank must remain independently separate and the government should stay completely removed from monetary policy.

Unions. The time for labor unions has passed. Areas dominated by labor unions have the highest wage demands and the highest unemployment. It does not matter if labor is cheaper in Nebraska or China, if it has the opportunity to leave the rust belt, it will leave. In a market economy, when a region is struggling, wages must ease and labor costs must fall to boost employment, consumer spending, and then the local economy. Unions are a big reason why this is not happening.

It was nice to sit down and discuss these issues and I hope Barack Obama’s office seriously considers the free market point of view before proposing new economic policies.

August 14, 2008

SPECIAL REPORT: INFLATION HITS 17 YEAR HIGH

SPECIAL REPORT: INFLATION HITS 17 YEAR HIGH

Despite the Federal Reserve’s prediction that called for inflation to moderate (as written in their last statement a few weeks ago), inflation continued upwards today with July CPI moving up 0.8% and 0.3% if you strip out food and energy. The year over year headline inflation number is now 5.6%. This is the highest year over year inflation has been since 1991.

Using the attached link to CNBC, readers should watch the video (if you have 7 minutes) and listen to Rick Santelli and Steve Leisman’s possible solution to speeding up the housing recovery. Almost everyone agrees that having banks write off the estimated $1 to $2 trillion in bad mortgages is the cure to the financing woes, but the banks are hesitant to do so. Why? Because, they can borrow from the Federal Reserve at a 2.25% rate (the discount rate, the Fed Funds rate which is 2% is for interbank lending) and try to hold onto their bad debts with the Fed financing.

By raising the discount rate and holding the Fed Funds rate, the Fed can incentivize banks to accelerate their write-offs as opposed to borrow cheap money from the Fed. In addition to this, increasing the discount rate has lighter implications on the money supply and overall interest rates in the economy. Banks may be incentivized to increase lending to each other via interbank lending, but I do not believe this will have an impact on our economy.

The compounded three month annualized rate of inflation went from 7.9% (which was a number I used in a previous blog) to 10.6%. This means that if inflation were to remain on the same growth trend for nine months, headline inflation will be 10.6% by late spring!! I do not believe that inflation will get that high (yet), but I believe the 7.9% headline number is in reach within the next six months.

Please watch the video if you get an opportunity.
http://www.cnbc.com/id/26195377

August 13, 2008

CHANGING MY TUNE ON THE FEDERAL RESERVE

CHANGING MY TUNE ON THE FEDERAL RESERVE

Don’t let the title fool you too much. I am certainly not about the give the Fed “kudos” for its monetary policy over the past year. I am, however, going to retract my statement that the Fed needs to raise interest rates. At this point in our business cycle, with continuing deterioration in growth and inflation already being priced into our economy, the Fed needs to hold on rate changes.

If the Fed were to raise interest rates, it would do very little to curb the inflation situation short term as the inflation is currently being digested through our economic system (and like things that are being digested, it simply cannot disappear). Raising rates now would deteriorate growth further and have no change on inflation. This would make growth even more susceptible the inflationary pressures as less liquidity causing further cuts in spending by both businesses and the consumer.

With the recent decline in oil and slight rise in the dollar, the economy is going to have the opportunity to breathe as inflation is expected to stop increasing (notice I did not say moderate, I believe that the inflation rate while high, will stop increasing). Unfortunately, an impending global recession could spell more challenges for the economy.

With Germany, France, and Japan (plus others) reporting negative GDP growth, demand for U.S. exports is expected to decline over the next year. Without our booming export industry, our GDP would be close to -1%. Fewer exports would likely lead to fewer jobs and less consumer spending. This, coupled with the economy’s inability to shake off the housing recession, will certainly lead to -2% growth for 2009.

Fortunately, the dollar will strengthen and if the U.S. does fall into a recession, inflation will begin to decline. However, if pressure returns in the commodity markets before economic recovery begins, the recession will likely last longer. In plain English, I am changing my monetary policy position to “hold” and downgrading my economic forecast for 2009.

I will be writing more on the Obama economic policy in the future. I am still reading the policy, but have not found much worth discussing.

August 11, 2008

ATTACKING THE OBAMA ECONOMIC PLAN: JUMP START THE ECONOMY

ATTACKING THE OBAMA ECONOMIC PLAN: JUMP START THE ECONOMY

Obama’s economic policy section entitled “Jumpstart the Economy” focuses primarily on working class individuals. An objective person reading this section would likely conclude that the poorer someone is, the more cuts (rebates, handouts) they would receive.

Solution: Provide immediate tax relief, up to $500 for 150 million American workers. While Obama estimates the cost of this proposal to be $35 Billion, it is actually closer to $75 Billion (unless he plans on giving an estimated $150 to each worker, substantially lower than promised).

In addition to this, it hands the American people a lump sum amount of cash, which they are more likely to spend then save. This does not jive with solving one of Obama’s economic problems (low savings rate). If the tax cut was a permanent one, Americans could take home around $10 to $20 per pay period. This would gradually support the economy, instead of having one giant splurge, then nothing to show for it. Obama should have learned from the failed Bush stimulus package that handing Americans cash does not solve our economic problems.

Solution: Provide direct aid to lower and middle class seniors. By providing $250 to each senior, Obama hopes to do the same as mentioned above. “These payments would not alter the Social Security program and would not use revenue from the trust fund.” While the latter may be true, providing select supplemental coverage to those on Social Security is a direct violation of how the program was founded. Social Security was supposed to be a temporary and universal solution for Americans to fall back on.

Now, it is permanent and Obama wants to make it available to only a select group, while all of us pay into it! If he were to pay every American in the system $250, the total cost would be $12 billion, slightly higher than the $10 billion that Obama projects. Other than this, the same reasons for failure from the direct tax handout to workers from above also apply. Why should we increase Americans dependence on the government for their livelihoods? Should we not explore ways to decrease that need?

So far, we have wasted $87 billion.

Solution: Provide a $10 Billion fund to help families avoid foreclosure.

This is a very bad idea. First, like Social Security, the government is not allowed to maintain “funds.” This fund, like Social Security would have to be spent as soon as Congress receives the money and then have bonds issued in place of the funds to help finance it. So, instead of using $10 billion to help homeowners, we are doing that plus financing another $10 billion in debt!

Whatever happened to individual accountability? If you buy a house that you cannot afford, you should not receive government handouts and taxpayer dollars to stay in it. Furthermore, if the government takes a strong position to not bailout these banks, many financing institutions will cave in and refinance instead of holding out, foreclosing, and holding an illiquid asset.

Solution: Provide $10 billion in economic assistance to state and local governments that may be struggling as a result of the housing market. The struggle comes in the fact that these governments will receive less in tax revenue since homeowners have vacated. This is overblown. Part of the budgeting deficits from state and local governments has come from poor planning. These same governments ran deficits in 2004 and 2005 when the housing market was at its strongest (California).

In addition to this, many foreclosed homes are still owned by the banks. The banks, therefore, are responsible for paying the property taxes associated with the mortgage. State and local governments still receive a proportion of their tax revenues from foreclosed properties. When budgeting in an economic downturn, governments should not expect to spend the same amount of money and not run a deficit. Let’s not reward such stupidity.

August 8, 2008

Time to Attack the Obama Economic Plan

TIME TO ATTACK THE OBAMA ECONOMIC PLAN

Over the next several blogs, I will be reviewing 60 plus pages from the Obama website on his economic plans. While I have had the opportunity to examine some of Obama’s economic ideas in detail, there is a great deal I have not examined yet. One thing I am certain about is that Barack Obama thinks he can move the U.S. into a passive socialistic society.

Obama starts his economic plan off by outlining the “problems.”

1. Wages are stagnant as prices rise.

Obama notes that while wages remain flat, the cost of basic necessities is rising. Health care costs have increased at a rate four times higher than wages over the last six years while the cost of in-state college tuition has increased by 35 percent over the past five years. He also notes that people are saving less.

The problem is not with wages, it is with price inflation. What does Obama want here? Does he want wages to rise with price spikes? If so, that would cause out of control inflation. I sense a theme here. While he could have mentioned the energy sector or food, Obama chose to discuss the two areas of our economy that the government has had the most involvement in. If Americans are unable to afford the same amount of health care or education as they could in 2000, why do the prices continue to rise? The answer is that the government has been subsidizing these price increases for years. Go back through the federal budget over the last seven years and you will see increases in federal education subsidies and government health coverage. Of course companies are going to charge more if the government is propping up consumer demand, it’s called fiscal inflation!!!

2. Rising unemployment and limited job growth

Obama notes that recent data has shown a near record jump is unemployment with people losing their jobs in construction, manufacturing, retail, and financial services. Obama wants to increase unemployment insurance so those who lose their jobs have more time to find new ones.

Once again, the government wants to take our money and re-distribute it to the disadvantaged. Economics is about incentives and the incentive to work is driven by pay. Why be employed if the government pays you a check for the next 30, 60, or 90 days?

My solution to this problem would be targeted tax cuts and credits to companies in the affected industries that maintain current employment levels. Let’s pay to keep people productive and on the payrolls instead of paying them to stay off the payroll with zero productivity (and zero tax revenue I might add).

3. Tax Cuts for the Wealthy Instead of the Middle Class

I am not even going to address what Obama said here, because (for lack of a better word), it’s a “crock.” The top 50% of all wage earners in the United States pay more than 96% of the taxes. That means the lower 50%, or one out of every two working Americans only account for 4% of the tax revenue. Do we really need to raise taxes on the top 50%? Since the bottom 50% pays 4% of our total tax revenue, do they receive 4% of the total government services? That would be considered fair.

4. Consumer confidence is at its lowest since Hurricane Katrina

So what? If you read my previous blogs, you’d see that my confidence is low in the economy, but that doesn’t mean I need the government’s help. Seriously, what is the federal government planning to do here; send us a check anytime we feel blue about the economy? The less government is involved in consumer affairs, the better. I actually purpose the government outsource many of its economic statistics like labor, GDP, and CPI to private companies for gathering, then we can get quicker and more accurate results.

August 6, 2008

Relocate, End Unions, and Save General Motors

RELOCATE, END UNIONS, AND SAVE GENERAL MOTORS

This week, CNBC is running a series, culminating with a Special Report tonight on different theories that could save General Motors. I believe that General Motors should relocate, end unions, and divest its brands into subsidiaries to guarantee its survival, and bring it back as the #1 undisputed automobile manufacturer in the world.

Leave Detroit. While it may be a sad symbol of the times, General Motors needs to leave Detroit. This section of the country that General Motors sits in is not only one of the poorest, but one where labor demands the highest wages. Unions have contributed to the economic eroding of the rust belt, and to stick around would simply spell disaster.

By relocating to the southern United States, GM could use the Gulf of Mexico to replace the Great Lakes for logistical purposes. Also, labor costs would decrease by 30%. While liberals may consider this cheap labor, it should be noted that living in the south is much cheaper than any other part of the country. With 30% less, people can still maintain the same standard of living as in the north. In addition to this, cheaper labor means that General Motors can hire more, thus creating jobs for the economy. Outsourcing retirement and healthcare funds to private companies would also cut costs as these companies specialize in generating high returns (this might be done already, but if not, it should be).

End Unionization. Going hand in hand with the relocation would be the end of unions for General Motors. Unionization is like the canal system in the United States. It has served its purpose, but to keep using it now is an outdated waste of time and money. One should analyze the times in which we live to see that labor laws today are clearly sufficient to handle “worker’s rights.” These laws did not exist when unions started in the late 18th century.

In place of unions, employees could appoint small groups of workers from each plant or department who would relay the concerns of the assembly line to management. Let’s not forget that productivity would increase without a union shop, because the rights of the employer to terminate would return, and the worker would have a reason to remain productive. Say what you want about rights of the worker, but if the person who pays your paycheck does not have the right to terminate you based on poor performance, what incentive would there be to work hard?

Divest from GM into the brands. Last, and certainly the least controversial of my ideas is for General Motors to divest its assets into each of its brands and basically govern each brand as if it were its own company. General Motors would not possess any physical assets on its books, as these would all be allocated to subsidiaries established and named after the brands.

Each brand/subsidiary would have its own CEO, administrative staff, and other employees. This would allow each company to get creative with the models that it produces (no more cardboard copies across brands), but also controlling costs with their own budgets, income statements, balance sheets, sales reports, etc. This would also make it easier for GM to unload any brands (ie Hummer) that do not match the company’s long term strategic goals (not to mention they could probably sell them for 2 to 3 times as much since the organization is already set up).

The bottom line is that GM struggled even when the U.S. economy was strong, and now with a weak economy, GM’s corporate health has been downgraded to critical. No matter what the size of the company, posting quarterly losses of more than $10 billion will not keep you around much longer. GM needs to act quickly to avoid bankruptcy (or government bailout).

August 4, 2008

CELEBRATING ONE YEAR SINCE THE CREDIT CRISIS (Watch the videos after reading)

Actually, it’s been a year and a half

CNBC was running a story on Friday about how it is one year later since the mortgage backed asset market froze forcing the Fed to directly start injecting money into the economy and soon after, lower rates. CNBC believes that the credit crisis started last August when Jim Cramer had his famous meltdown on CNBC. In fact, the real start date of the credit crisis was March 8, 2007.

On March 8, 2007, New Century Financial, the first lender (subprime lender) to have problems, announced that it would stop originating any new mortgages. The company declared bankruptcy within a month and has since been under federal investigation for improper lending practices. The only question at the time was whether or not the pending crisis in the subprime market would move into the broader credit markets.

We now know that it did.

Last August, a number of ‘safer’ mortgages began to experience an increase in defaults and foreclosures. Now, let’s take a step back to what the mortgage markets had turned into during the housing boom. The original lender (the bank that writes the mortgage) would issue your mortgage for repayment (same as always).

However, investment banks wanted to get in on the housing boom, so they created something called mortgage backed assets. Essentially, these were paper that were being backed by the physical mortgage. In the event of a foreclosure, the originating bank and the investment bank were to split the asset.

Unfortunately, when foreclosures started to rise, originating banks either refused to pay investment banks to liquidate their portion of the mortgage, or due to the lack of a buyer on the market, they simply could not sell the homes and they just sat on the market. The result by August was that investment banks were holding billions in foreclosed mortgaged back assets, and they could not find a buyer.

Then, the Federal Reserve stepped in. The Fed bought billions in distressed mortgage backed assets to keep the entire investment banking system from freezing up. I also heard a rumor that a federal judge found that an investment bank could not collect, even if the distressed property had been sold, but this could not be confirmed nor denied.

Now, onto Jim Cramer. I know many people believe that Cramer was the “white knight” that rode in and saved the investment banking industry with his famous rant, but this is simply not true. Investment banks, up to the time of the Cramer rant, were not properly communicating with the Federal Reserve. The Fed felt that since they were not hearing of major problems, there was not much of an issue. The investment bankers figured that the Fed knew what was going on. The only thing the Cramer rant did was get one party on the phone with the other party and gauge the severity of the situation.
I used to have a great deal of respect for Jim Cramer, and I still do when it comes to picking individual stocks. I do not trust, nor do I believe that his opinion should be solicited for advice on the stock market as a whole, or any other economic analysis for that matter. Use the above videos to make your best judgment.

Videos

http://www.youtube.com/watch?v=SWksEJQEYVU


http://www.youtube.com/watch?v=voL2W6l41uI&feature=related

http://www.youtube.com/watch?v=sSS1EV-7QV8&feature=related

http://www.youtube.com/watch?v=dt8pd9xd2h4&feature=user

August 1, 2008

Prepare for More Bad News on the Economy

More GDP Revisions Likely to Point Downwards

Yesterday, the government released second quarter GDP and revealed that the economy had grown by 1.9 percent in the second quarter. Despite being up from about 1% in the first quarter, yesterday’s numbers did not meet Wall Streets expectations and later caused a selloff in the stock market. Unfortunately, when it comes to GDP, we can expect more bad news in the near future.

To start, 4th quarter GDP was revised down from .6% to -.2%. That means if first quarter GDP would eventually be revised down to a negative (and it could happen), we would have had a recession, without realizing we were in one until after it happened! (Alternatively, we may not know we are in a recession until nearly one year after it started!) I believe that a great deal of these downward revisions have to do with higher than expected inflation.

Remember, the GDP is determined by taking the actual growth (9.8%) and deducting inflation (7.9%). The result is the real GDP. Now, I do not know if the above numbers are correct, but I am basing my hypothesis on the 7.9% three month annualized inflation figure from the second quarter. With inflation likely to increase, I believe that will eat into the growth of the economy.

While inflation may drive up the nominal growth rate of GDP (and therefore have no perceived effect on real GDP), higher inflation causes consumers to buy less, business costs to rise, manufacturers to lower productivity and employment, which therefore lowers economic growth.

Despite an apparently unchanged revision in first quarter GDP (I did not see a new number), the government could still revise it downward in each of the next two Q2 revisions or the first look at Q3 in late October. Today’s higher unemployment data also shows that economic growth could be worse than expected this quarter, next quarter, and for the first half of next year.

I am beginning to believe that all of these actions we are taking to avoid a recession are only delaying the inevitable. Whether the future recession created by “proactivity” is deeper as a result, only time will tell.

A Housing Bottom?

MERRILL SELLOFF SIGNALS BEGINNING OF HOUSING BOTTOM

Earlier this week, Merrill Lynch announced an $8 billion write-off of high risk mortgage assets. These assets were sold to a private firm for 22 cents on the dollar. I believe this action could potentially precipitate a housing bottom, which will likely occur in about 18 months.

The reason for this is because we are closer to purging high risk mortgages than we were six months ago. For too long, banks held onto foreclosed homes and bad debts hoping to get a break-even investment from them. A real signal that this housing crisis has bottomed would be a collapse in prices great enough to increase demand to a level equal of that of supply. Basically, with lower prices, buyers would enter the market and begin to buy up homes at a faster rate than foreclosures. Not only that, we would need to see a rash of refinancing for troubled homeowners who with better terms, can responsibly pay off their mortgages.

Here’s what I believe is going to happen:

Merrill’s 22 cents on the dollar pricing of risky mortgages will set an industry standard of pricing bad debt. Banks, wanting to be rid of the credit crisis, will begin purging off these bad loans as quickly as possible. Private lenders and equity companies will buy these high risk debts for under a quarter of their value. These private firms can then attempt collections, and still make a profit if they are only half successful.

Furthermore, if homeowners refuse to pay, these private firms can evict them from their homes, and either sell them “as is” for 50% off, or renovate and sell them at 25% off of their valuations. This would deliver large profits for sellers and good deals for the buyers. However, there are still some challenges in the way of bottoming the housing market.


Time & Uncertainty.
It will take 12 to 18 months for the market to transfer, attempt collection, refinance (when necessary), purge, and renovate homes (and mortgages) before Wall Street can call a bottom in the housing market. As we know, even some of the best economists have a difficult time looking beyond 6 months to forecast economic conditions as a whole. An unknown event or catalyst between now and the end of next year could drive the bottom lower and further into the future.

Inflation. As described in a previous blog, inflation raises interest rates. Higher interest rates makes borrowing more expensive thus restricting the issuing of new loans. This will have a negative effect on the housing market and could drive the market lower if inflation continues to be a problem into 2010.

Financing. Even without inflation, banks are going to have a tough time stabilizing their ability to finance. If home prices do plunge due to the purging of bad mortgages and increases in the supply of existing homes, buyers may finally decide to hit the market in stride. If they do, who’s going to lend to them? Wachovia? Key? IndyMac? Many banks are still realigning their balance sheets and may not be able to produce the mortgages to meet the demand generated by a dramatic drop in price.

All in all, a bottom is always called about six months after it happens, but I believe that Merrill’s write-off can spur the trigger needed to end the housing recession. Just as many saw a problem when banks were issuing $0 down mortgages and lending to suspicious homeowners, we can now look at the recent events as the possible light at the end of the tunnel.

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