The Tight Money Summer of 2008 and Its Meaning for the Future

My contention has long been that the financial crisis intensified in September 2008 because that summer money supply growth was brought to a near halt by the Federal Reserve.

Bob Murphy emails to say:

....an academic paper saying fed was too tight in spring of 2008.

I'm glad someone is catching up with EPJ.

In a paper by Robert Hertzel, Monetary Policy in the 2008-2009 Recession, writes:

The recession that began with a cyclical peak in December 2007 originated in a combination of real shocks because of a fall in housing wealth and a fall in real income from an increase in energy prices. The most common explanation for the intensification of the recession that began in the late summer of 2008 is the propagation of these shocks through dysfunction in credit markets. The alternative explanation offered in this article emphasizes propagation through contractionary monetary policy. The first explanation stresses the importance of credit-market interventions (credit policy). The second emphasizes the importance of money creation (money-creation policy).

This Hetzel quote comes via Scott Sumner, who writes of the paper:

Hetzel’s paper contains so many nuggets of wisdom that I will return to it again and again in the next few weeks. It is one of finest monetary narratives that I have ever read, and certainly far and away the best published narrative of this crisis. In fact nothing else even comes close. Just to whet your appetite, he presents a wealth of evidence that Fed policy became effectively more contractionary over the summer of 2008. Some of this I was unaware of, but you can be sure I will have more to say in future posts.

With all due respect to Sumner (He seems to be a genuine seeker of truth), what the hell was he watching last summer? In bizarre fashion, economists have given up watching money supply. And Hetzel's paper may be a fine work, but you could have gotten a real time advisory of what was going on with slowing money supply by simply reading EPJ. We nailed the story as it was happening, see here, here, here, here, here, here, here and here.

As for the relevance of all this to today, Bernanke is back to slow money growth, indeed right now he is shrinking money supply. If Bernanke doesn't reverse engines real soon, we are going to get smashed big time with a brutal second dip to the recession.

A Few Simple Questions About Debt

Bob Murphy posts this great video on what happens when you get a congressman one-on-one and ask him some very basic questions. Jan Helfeld is the interviewer and he has a bunch of other interviews here. Be sure to also watch his interview with Nancy Pelosi about the minimum wage.

Peter Orszag: Executioner?

WSJ has a front page profile on White House budget director Peter Orszag.

Most of the article explains the bizarre game Orszag plays to find ways to increase taxes:

....he went straight to the Senate Finance Committee, where he spent three hours with committee aides brainstorming about how to pay for the trillion-dollar legislation. At one point, they flipped through the tax code, looking for ideas.

Note to Orszag, you don't tax products or income streams, you tax people. Yeah, it might be worse for one sector, versus another, but at the end of the day, it doesn't matter if you tax their milk or their coffee, you are still taxing people.

It is scary that Orszag takes seriously that he has to "find" ways to tax the public by flipping through the tax code. You either tax people or you don't. Oszag is a taxer.

WSJ also writes that Orszag has:

...sent a letter to Capitol Hill detailing a proposal he had been more quietly pitching for weeks -- creating a new agency with power to cut spending and implement changes in Medicare, the giant health program for the elderly. He also attached proposed legislative language. It was the most specific that the White House, which has tried to articulate principles and leave details to lawmakers, has been on any aspect of the legislation.

I am no fan of Medicare, but just how did Orszag reach the conclusion that he is going to decide how much is spent on Medicare, damn the ill?

We are quickly moving into the land of medical killing fields, and Orszag wants to be the executioner.

Hayek was right, the worst do get to the top.

They Are Coming After Me...

S_E_Fudd at DemocraticUnderground.com writes:

Robert Wenzel and the "Economic Policy Journal" - anyone know about this guy?
Here is a link to his screed against the health care bill. Someone sent this too me and wanted to find out about him before I trid (sic) to rebut this whole thing...

Then again, maybe they are not. Mojorabbit writes:

I got this too and I replied that I would rebut it but now I am dreading a point by point analysis. I am hoping someone here has already done this as I feel like crap today.

I note one of the genius researchers at this forum, in the comments section, puts me in Spring Lake, NJ and has me contributing to a Lyndon Larouche Political Action Committee.

Robert Wenzel is not a common name, but there are few of us around. Everything from a DOD physician serving in the U.S. Army in Butzbach Germany to a terrorist (of sorts).

For the record, I have never been to Spring Lake, NJ, nor have I contributed to any Lyndon Larouche campaign or organization. I guess I should probably also make clear that I am not a physician in Germany, nor have I managed to get myself labeled a terrorist in Atlantic County, NJ for threatening an ex-wife. Come to think of it, I don't think I even have an ex-wife in New Jersey.

Roubini Sees Risk of ‘Double Dip’ Global Recession

The global economy may fall back into a recession by late 2010 or 2011 because of rising government debt, higher oil prices and a lack of job growth, said NYU economics professor Nouriel Roubini, according to Bloomberg.

A“perfect storm” of fiscal deficits, rising bond yields, “soaring” oil prices, weak profits and a stagnant labor market could “blow the recovering world economy back into a double-dip recession,” he wrote in a research note today.

Roubini is correct about the double dip, but he is mostly wrong about the reasons.

Rising government debt is a problem. It will sop up money in the economy and crowd out much needed funds for the private sector. Soaring oil prices are generally a symptom of rising inflation. I don't see any major inflation in the short term, if anything the oil price will probably decline on the second dip. A stagnant labor market has little to do with causing a recession, it is a symptom of recessions, except for the unemployment added on by legislation such as higher minimum wage laws.

Double dip recession? Yes.

Roubini's explanation for why it will occur? Not really.

Here It Comes: The Treasury Auction Schedule

The Treasury is abouit to raise two hundred thirty-five billion dollars over the next week. Almost one quarter of a trillion dollars.

Will the markets be able to survive this money suction by the Treasury? We will know the answer by the end of next week. Remember, this money raise is coming while the Fed is tight.

Interesting, very interesting. Here's the schedule.

70 day CMBs, $30 billion (today)

13 week Bills, $32 billion (July 27th)

26 week Bills, $31 billion (July 27th)

52 week Bills, $27 billion (July 28th)

2 year Notes, $42 billion (July 28th)

5 year Notes, $39 billion (July 29th)

7 year Notes, $28 billion (July 30th)

19 year, 6 month TIPS (reopened), $6 billion (July 27th)

Via Karl Denninger

Money Supply Update

Three month annualized money growth continues negative.

Over the last three months the M2 nsa money supply measure had declined, i.e., the money supply is shrinkingIf this ontinues, we are headed for a major crash.

On April 20, M2 nsa stood at 8402.0 million, as of July 13, it declined to 8347.3 million.

NYT Spotlights High Frequency Traders

Reports NYT:

Nearly everyone on Wall Street is wondering how hedge funds and large banks like Goldman Sachs are making so much money so soon after the financial system nearly collapsed. High-frequency trading is one answer.

High-frequency traders often confound other investors by issuing and then canceling orders almost simultaneously. Loopholes in market rules give high-speed investors an early glance at how others are trading. And their computers can essentially bully slower investors into giving up profits — and then disappear before anyone even knows they were there...

It was July 15, and Intel, the computer chip giant, had reporting robust earnings the night before. Some investors, smelling opportunity, set out to buy shares in the semiconductor company Broadcom. (Their activities were described by an investor at a major Wall Street firm who spoke on the condition of anonymity to protect his job.) The slower traders faced a quandary: If they sought to buy a large number of shares at once, they would tip their hand and risk driving up Broadcom’s price. So, as is often the case on Wall Street, they divided their orders into dozens of small batches, hoping to cover their tracks.One second after the market opened, shares of Broadcom started changing hands at $26.20.

The slower traders began issuing buy orders. But rather than being shown to all potential sellers at the same time, some of those orders were most likely routed to a collection of high-frequency traders for just 30 milliseconds — 0.03 seconds — in what are known as flash orders. While markets are suppose to ensure transparency by showing orders to everyone simultaneously, a loophole in regulations allows marketplaces like Nasdaq to show traders some orders ahead of everyone else in exchange for a fee.

In less than half a second, high-frequency traders gained a valuable insight: the hunger for Broadcom was growing. Their computers began buying up Broadcom shares and then reselling them to the slower investors at higher prices. The overall price of Broadcom began to rise.

Soon, thousands of orders began flooding the markets as high-frequency software went into high gear. Automatic programs began issuing and canceling tiny orders within milliseconds to determine how much the slower traders were willing to pay. The high-frequency computers quickly determined that some investors’ upper limit was $26.40. The price shot to $26.39, and high-frequency programs began offering to sell hundreds of thousands of shares.

The result is that the slower-moving investors paid $1.4 million for about 56,000 shares, or $7,800 more than if they had been able to move as quickly as the high-frequency traders.

Sounds like front running to me. The entire NYT story is here.

Warren Buffett's Insider Bet Paying Off, Big Time

Warren Buffett is getting 10% right now on the money he loaned to Goldman and the loan is convertible to Goldman stock at $115. He’s up 40% in nine months!

Via MaxKeiser

Helping Bob Murphy Understand the Stock Market

Bob Murphy has decided to take me to task for using M2 nsa (with a three month lag) as a tool to forecast the stock market. Unfortunately, Murphy's look down from his ivory tower has missed how markets work. Further, he has decided to cherry pick from on up high, and while picking cherries from such a lofty position, he has landed on his head.

Now, I'm left to clean up the mess.

First, he quotes me twice when I have made (accurate, I might add) forecasts about the stock market. He fails, however, to quote my humbleness while I achieved these quite remarkable feats, since I also wrote, just recently:

Note: I want to emphasise that it is not always this easy to call trends. There are always many countervailing factors, but Bernanke's dramatic money printing shifts makes money supply the SUPER DOMINANT factor at this time. It won't always be this easy--even though money supply growth will always be the key factor to watch.

Note my emphasis on "countervailing factors".

Murphy writes:

I have several problems with all of this. First and most serious: How can you possibly argue that stock prices respond to money supply numbers with a 3-month (or greater) lag? I understand if you want to argue that measured CPI responds only slowly to injections of new money; fair enough. But surely it shouldn't take forward-looking investors three months to digest the implications of a change in Fed policy.

This is obviously written by a guy who has no familiarity with stock market activity. For him there is some kind of intravenous drip line that connects the Fed and the stock market. Uh, Bob, when exactly was the last time the Fed ever lent money directly to the stock market?Admittedly, it does get there since Fed money entering the system does push down rates at a specific point and eventually the system will eventually adjust by increasing the value of earning streams of publicly traded companies. But, Murphy is simply creating super-macro aggregation of something that is much more complex. Murphy's argument isn't correct Austrian methodological individualism, it is aggregation at a level that would make Friedman and Keynes proud of him.

Further, in addition to the simple time factor in a less aggregated model of money flows, you must break things down even further. Many investors have a mentality that if they are in a losing position they will sell when they break even. Good technical analysts have made fortunes knowing where this overhead supply of break even traders are, and trade around them. So if you have these break even traders, who knows how much money will be required "to take them out" before the stock market goes higher? Does Murphy think one hour of Bernanke money printing will do it? One day's worth? In truth there are many factors that enter into determining how many break even sellers are out there.Three months happens to be a good rule of thumb--nothing more. But if we were coming out of a years long depression, it might be two years. The only time I am aware of a near instantaneous reaction in the stock market to a change in money policy was in the summer of 1982, when Volcker shifted to an easy money policy in August of that year. The stock market took off like a rocket. However, at that time ,the stock market was in an extreme oversold position, the market had attempted many, many times (over years)to breakthrough overhead supply at 1,000 and EVERYONE was watching money supply numbers every week.

These days few watch money supply numbers, not even Deputy Treasury Secretaries.

And, yet Murphy seems to ignore (or really probably doesn't know) about overhead supply, methodological individualism and its importance in relation to where money enters the system. How else but through ignorance could he have written:

Yes, there is certainly a connection between Fed policy and nominal stock prices, but it can't be backward-looking and with a lag (let alone a variable lag!).

Then he makes this absurd statement:

I'm not claiming that the efficient markets hypothesis is correct; I'm just saying that it can't possibly take speculators months to react to unexpected changes in Fed policy.

Does he really think that the market is full of traders reading the monetary theory of the Austrians, Hayek, Rothbard and Mises, and that they will react at the first hint of changes in Bernanke's policy?

Earth to Bob, these guys lost billions, and billions and billions, and billions trading on the money expansion of Greenspan and the early Bernanke. Did they stop after Bernanke slowed money growth? Did Lehman or Bear Stearns start shorting the market in summer of 2008, as Bernanke tightened money supply even more? Did these two premier trading firms come up smelling roses in September 2008, as your instant market reaction theory would suggest?

Murphy really doesn't have a clue until he gets to the first sentence of his last paragraph:

A final note: I am sure that Wenzel is much more attuned to market movements than I am. If you had $1000 to entrust to either of our calls on market timing, you would do better to give it to Wenzel.

And as for the last part of his last sentence, I really must throw that back at him:

...I don't think he even sees when it [his theory] is being contradicted by actual events.

Wall Street 2, The Script

Nikki Dinke's Deadline Hollywood Daily has the scoop:

I'm told that screenwriter Allan Loeb (21, Things We Lost In The Fire) will hand in his second draft of the long-awaited Wall Street 2 to 20th Century Fox later this week. (Although the great Stanley Weiser and his film school pal Oliver Stone were credited as writers of the original pic, Stephen Schiff was first to script the sequel.) I heard Loeb's first draft was "so great" that Stone didn't feel the need to touch it -- yet. But no one expects the director to keep hands off on the second draft since principal photography starts on August 10th. The film's release is now planned for February 2010. So here's the oh-so-secret plot of Wall Street 2 and who's playing what:

Michael Douglas, as everyone already knows, reprises his Best Actor Oscar-winning role as Gordon Gekko. But what hasn't been reported is that, as the movie begins, it's 21 years later and Mr. Greed Is Good has finished serving his prison sentence. He finds himself on the fringe of the financial community. ("Kinda like Jim Cramer or Mike Milken after their disgrace," an insider with the pic tells me.) Gekko is cautioning Wall Street that the "end is coming" -- but nobody is listening. So Gordon is obsessed with trying to repair his ruptured relationship with his daughter. That juicy actress role isn't cast yet. (But I'd love it if Oliver had the balls to bring back Sean Young as Mom in spite of their notorious falling out during the filming of the original.)

Enter Shia LaBeouf, who was reported in negotiations and I can now state is set to co-star. (I've said it before, and I'll say it again: one day every Hollywood movie will star this guy who turns 23 on June 11th.) Shia is a young Wall Street trader who's engaged to be married to Gekko's estranged daughter. Shia wants to be a major player, but his mentor unexpectedly kills himself, and Shia thinks a stock-shorting worldwide hedge fund manager is responsible. Shia seeks revenge on this villain, to be played by No Country For Old Men Supporting Actor Oscar-winner Javier Bardem. So Shia goes to Gordon saying, "I need your help", and makes a Faustian deal with Gekko who in return wants Shia's help getting back with the daughter. From then on, it's "antagonism" for everyone, my insider says.

I'm told Wall Street 2's story spans from June 2008 through the federal bailout. "We wanted to see some perspective in the same way that the original dealt with insider trading," a source explains to me. Meanwhile, a long list of Wall Street types are offering their help to make sure the script is accurate. Same thing happened with the original. Jeff "Mad Dog" Beck, then a star investment banker at ill-fated Drexel Burnham Lambert before he was exposed as a fraud, was one of the film's technical advisers and even had a cameo appearance. But Kenneth Lipper, investment banker and former deputy mayor of New York for Finance and Economic Development, did the real heavy lifting: he was hired as chief technical adviser and ensured the film was realistic. Weiser and Stone consulted dozens of Wall Street names for the film.

Fact Check: President's Health Care Claims Don't Reflect Reality

House Republican leader John Boehner released the following analysis of President Obama's comments during yesterday's press conference about health care:

Following are just some of the discredited claims the President repeated tonight:

CLAIM: “I have also pledged that health insurance reform will not add to our deficit over the next decade – and I mean it.”

FACT: On Friday, the Congressional Budget Office (CBO) released its cost estimate on the House Democrats’ legislation and found that it will increase the federal budget deficit by $239 billion over the next 10 years. And as the Associated Press noted last week: “Congressional Budget Office Director Douglas Elmendorf warned lawmakers the legislation that he has seen so far would raise costs, not lower them. Elmendorf was asked by Senate Budget Committee Chairman Kent Conrad, D-N.S., if the bills Congress is considering would ‘bend the cost curve.’ The budget director responded: ‘The curve is being raised.’

CLAIM: “If you already have health insurance, the reform we’re proposing will provide you with more security and more stability. It will keep government out of health care decisions, giving you the option to keep your insurance if you’re happy with it.”

FACT: Both the Associated Press and ABC News have already debunked this pledge, noting that White House officials have acknowledged the president’s rhetoric shouldn’t be taken “literally.” The Congressional Budget Office found that 23 million Americans would lose their current plans if the Senate Democratic health care "reform” bill becomes law. Worse yet, an independent study conducted by the Lewin Group predicted that 114 million Americans would be forced out of their current health care coverage, including more than 106 million Americans who currently have employer-provided health care.

CLAIM: “We will pass reform that lowers cost, promotes choice, and provides coverage that every American can count on. And we will do it this year.”

FACT: Republicans agree that Congress should pursue meaningful health care reform, but none of the legislation that Democratic leaders are pursuing at this time actually meet this description. Instead, their proposals will increase costs, lower quality, and cause millions of Americans to lose their current health coverage.

CLAIM: “This isn’t about me. I have great health insurance, and so does every Member of Congress.”

FACT: Just last week, Democrats on the House Ways & Means Committee voted to defeat an amendment offered by Rep. Dean Heller (R-NV) – by a vote of 21-18 – to require all members of Congress to get insurance through the government-run plan – proving Democrats do not think the government-plan will provide quality health care. Republicans voted in favor of the amendment, believing if it is good enough for the American people, it should be good enough for members of Congress.

Of course, the best analysis of the bill was done by Peter Fleckstein.

Three Fastballs by Rizzo

There isn't a player in the major leagues that could touch the three fastballs thrown this week by New York University professor Mario Rizzo, here, here and here.

Any student just beginning to seriously study economics should think long and hard about the points raised by Rizzo.

Data Review

He's back!!

At points, his economic analysis is off a bit, but he nails the average man's anger. And he does throw out quite a bit of data between swings.

A Tight Border Is Actually Locking Mexicans in the United States

The economy has pushed Mexican immigration to the lowest level in a decade, according t0 WSJ.

But even though the economy has been difficult for Mexican laborers in the U.S., they aren't returning to Mexico, according to the Pew Hispanic Center.

“The sense I get from these numbers is that for the undocumented immigrants it’s been expensive and dangerous to get into the United States,” Jeffrey Passel, a senior demographer at Pew Hispanic, in an interview. “Given that they’re here, going back has both some immediate cost and has some potential cost to them because it’s going to be expensive and dangerous if they want to come back to the U.S.”

via WSJ

Will Carlyle Get Dunked...

...with its investment in Dunkin Donuts?

Dunkin Donuts has trouble growing its core markets. And there are holes in other locales even in their core markets.

Four Dunkin' Donuts franchise operators have filed for bankruptcy since June.

Kainos Partners Holding Co., which runs 56 stores in New York, Nevada and South Carolina, filed for Chapter 11, joining three other franchise operators in Tennessee and Florida.

Dunkin' Donuts is owned by Carlyle Group, THL Partners and Bain Capital, who borrowed $1.5 billion to acquire the donut company. A key covenant of the loans requires aggressive expansion, or the loans will come due over the next two years and not be extended.

Thus Carlyle and gang are pushing for more Dunkin expansion, even though the market for them appears weak.

Slippery Obama

It is shocking to see where President Obama wants to keep the debate on the health care bill, at the surface and getting nowhere near the deatils of what is in the bill. The White House released excerpts of his prepared remarks on health care that he delivered duruing his televised news conference yesterday at 8 p.m. EDT.

That is why I’ve said that even as we rescue this economy from a full-blown crisis, we must rebuild it stronger than before. And health insurance reform is central to that effort.

This is not just about the 47 million Americans who have no health insurance. Reform is about every American who has ever feared that they may lose their coverage if they become too sick, or lose their job, or change their job. It’s about every small business that has been forced to lay off employees or cut back on their coverage because it became too expensive. And it’s about the fact that the biggest driving force behind our federal deficit is the skyrocketing cost of Medicare and Medicaid.

So let me be clear: if we do not control these costs, we will not be able to control our deficit. If we do not reform health care, your premiums and out-of-pocket costs will continue to skyrocket. If we do not act, 14,000 Americans will continue to lose their health insurance every single day. These are the consequences of inaction. These are the stakes of the debate we’re having right now.

I realize that with all the charges and criticisms being thrown around in Washington, many Americans may be wondering, “What’s in this for me? How does my family stand to benefit from health insurance reform?”

Tonight I want to answer those questions. Because even though Congress is still working through a few key issues, we already have agreement on the following areas:

If you already have health insurance, the reform we’re proposing will provide you with more security and more stability. It will keep government out of health care decisions, giving you the option to keep your insurance if you’re happy with it. It will prevent insurance companies from dropping your coverage if you get too sick. It will give you the security of knowing that if you lose your job, move, or change your job, you will still be able to have coverage. It will limit the amount your insurance company can force you to pay for your medical costs out of your own pocket. And it will cover preventive care like check-ups and mammograms that save lives and money.

If you don’t have health insurance, or are a small business looking to cover your employees, you’ll be able to choose a quality, affordable health plan through a health insurance exchange – a marketplace that promotes choice and competition Finally, no insurance company will be allowed to deny you coverage because of a pre-existing medical condition.

I have also pledged that health insurance reform will not add to our deficit over the next decade – and I mean it.
…

I understand how easy it is for this town to become consumed in the game of politics – to turn every issue into running tally of who’s up and who’s down. I’ve heard that one Republican strategist told his party that even though they may want to compromise, it’s better politics to “go for the kill.” Another Republican Senator said that defeating health reform is about “breaking” me.

So let me be clear: This isn’t about me. I have great health insurance, and so does every Member of Congress. This debate is about the letters I read when I sit in the Oval Office every day, and the stories I hear at town hall meetings…This debate is not a game for these Americans, and they cannot afford to wait for reform any longer. They are counting on us to get this done. They are looking to us for leadership. And we must not let them down. We will pass reform that lowers cost, promotes choice, and provides coverage that every American can count on. And we will do it this year.