Reader Question Regarding "Dropping Out of the Workforce"; Implications of the Falling Participation Rate

In response to BLS Job Report: December Nonfarm Payrolls +103,000, November Revision +32,000, October Revision +38,000; Workforce DROPS by 260,000, reader "Aleph" wants to know how someone drops out of the workforce.

Aleph writes ...

Hello Mish

Can you explain to your readership how the government determines that a person has dropped out of the labor force, as opposed to running out of unemployment benefits and becoming desperate (or homeless) with no job and no decent prospects? Or do they make no distinction between voluntarily leaving the work force and involuntarily leaving it?

"Dropping out" sounds much less dire than being unemployed because there aren't enough jobs to go around.

Thanks,

Aleph

Ways of Dropping Out

Hello Aleph, someone drops out of the workforce in one four general ways.

1. They stop looking for work
2. They retire
3. They go back to school full time and are unavailable for work
4. They are institutionalized (prison for example)

The big numbers come from 1, 2, and 3 with #1 leading the pack.

If a person wants a job, is available for a job and keeps looking for a job, that person is unemployed. I suspect most retirees, stop looking.

Note that number 2 may be voluntary or involuntary. An example of an involuntary retirement is someone who wants work to work but retires because he has expired all his 99 weeks of benefits and desperately needs to start collecting social security before he goes homeless.

All of this is determined by a phone survey. The BLS attempts to determine the following

1. Are you employed full time?
2. Are you employed part time?
3. Do you want a job?
4. Are you available for a job?
5. Have you looked for a job in the last four weeks?

• A Yes to #1 or #2, no matter how few hours someone worked (exceptions apply for unpaid family workers) puts someone in the "EMPLOYED" category.
• A No to #3, #4 (except for temporary illness), or #5 would put someone in the "NOT IN THE WORKFORCE" category.
• A No to #1 and #2, and a Yes to #3, #4 (except for temporary illness), and #5 puts someone in the "UNEMPLOYED" category.
• Those employed or unemployed are considered "IN THE WORKFORCE"

However, the BLS does not ask those questions directly. Rather the phone interview attempts to figure the answers to those questions.

How the Government Measures Unemployment

Please consider How the Government Measures Unemployment

There are about 60,000 households in the sample for this survey. This translates into approximately 110,000 individuals, a large sample compared to public opinion surveys which usually cover fewer than 2,000 people. The CPS sample is selected so as to be representative of the entire population of the United States.

Every month, one-fourth of the households in the sample are changed, so that no household is interviewed more than 4 consecutive months. This practice avoids placing too heavy a burden on the households selected for the sample. After a household is interviewed for 4 consecutive months, it leaves the sample for 8 months, and then is again interviewed for the same 4 calendar months a year later, before leaving the sample for good. This procedure results in approximately 75 percent of the sample remaining the same from month to month and 50 percent from year to year.

Each month, 2,200 highly trained and experienced Census Bureau employees interview persons in the 60,000 sample households for information on the labor force activities (jobholding and jobseeking) or non-labor force status of the members of these households during the survey reference week (usually the week that includes the 12th of the month). At the time of the first enumeration of a household, the interviewer prepares a roster of the household members, including their personal characteristics (date of birth, sex, race, Hispanic ethnicity, marital status, educational attainment, veteran status, and so on) and their relationships to the person maintaining the household.

Each person is classified according to the activities he or she engaged in during the reference week. Then, the total numbers are "weighted," or adjusted to independent population estimates (based on updated decennial census results). The weighting takes into account the age, sex, race, Hispanic ethnicity, and State of residence of the person, so that these characteristics are reflected in the proper proportions in the final estimates.

Because these interviews are the basic source of data for total unemployment, information must be factual and correct. Respondents are never asked specifically if they are unemployed, nor are they given an opportunity to decide their own labor force status. Unless they already know how the Government defines unemployment, many of them may not be sure of their actual classification when the interview is completed.

Similarly, interviewers do not decide the respondents' labor force classification. They simply ask the questions in the prescribed way and record the answers. Based on information collected in the survey and definitions programmed into the computer, individuals are then classified as employed, unemployed, or not in the labor force.

What are the basic concepts of employment and unemployment?

The basic concepts involved in identifying the employed and unemployed are quite simple:

• People with jobs are employed.
• People who are jobless, looking for jobs, and available for work are unemployed.
• People who are neither employed nor unemployed are not in the labor force.

Unpaid Family Workers

But what about the two following cases?

• George Lewis is 16 years old, and he has no job from which he receives any pay or profit. However, George does help with the regular chores around his father's farm and spends about 20 hours each week doing so.
• Lisa Fox spends most of her time taking care of her home and children, but she helps in her husband's computer software store all day Friday and Saturday.

Under the Government's definition of employment, both George and Lisa are considered employed. They fall into a group called "unpaid family workers," which includes any person who worked without pay for 15 hours or more per week in a family-owned enterprise operated by someone in their household.

Interview Questions

The questions used in the interviews are carefully designed to elicit the most accurate picture of each person's labor force activities. Some of the major questions that determine employment status are: (The capitalized words are emphasized when read by the interviewers.)

1. Does anyone in this household have a business or a farm?
2. LAST WEEK, did you do ANY work for (either) pay (or profit)?
If the answer to question 1 is "yes" and the answer to question 2 is "no," the next question is:
3. LAST WEEK, did you do any unpaid work in the family business or farm?
For those who reply "no" to both questions 2 and 3, the next key questions used to determine employment status are:
4. LAST WEEK, (in addition to the business,) did you have a job, either full or part time? Include any job from which you were temporarily absent.
5. LAST WEEK, were you on layoff from a job?
6. What was the main reason you were absent from work LAST WEEK?
For those who respond "yes" to question 5 about being on layoff, the following questions are asked:
7. Has your employer given you a date to return to work?
and, if "no,"
8. Have you been given any indication that you will be recalled to work within the next 6 months?
If the responses to either question 7 or 8 indicate that the person expects to be recalled from layoff, he or she is counted as unemployed. For those who were reported as having no job or business from which they were absent or on layoff, the next question is:
9. Have you been doing anything to find work during the last 4 weeks?
For those who say "yes," the next question is:
10. What are all of the things you have done to find work during the last 4 weeks?
If an active method of looking for work, such as those listed at the beginning of this section, is mentioned, the following question is asked:
11. LAST WEEK, could you have started a job if one had been offered?
If there is no reason, except temporary illness, that the person could not take a job, he or she is considered to be not only looking but also available for work and is counted as unemployed.

Who is not in the labor force?

Labor force measures are based on the civilian noninstitutional population 16 years old and over. Excluded are persons under 16 years of age, all persons confined to institutions such as nursing homes and prisons, and persons on active duty in the Armed Forces. As mentioned previously, the labor force is made up of the employed and the unemployed. The remainder—those who have no job and are not looking for one—are counted as "not in the labor force." Many who are not in the labor force are going to school or are retired. Family responsibilities keep others out of the labor force.

To summarize, employed persons are:

• All persons who did any work for pay or profit during the survey week.
• All persons who did at least 15 hours of unpaid work in a family-owned enterprise operated by someone in their household.
• All persons who were temporarily absent from their regular jobs because of illness, vacation, bad weather, industrial dispute, or various personal reasons, whether or not they were paid for the time off.

Unemployed persons are:

• All persons who did not have a job at all during the survey reference week, made at least one specific active effort to find a job during the prior 4 weeks, and were available for work (unless temporarily ill).
• All persons who were not working and were waiting to be called back to a job from which they had been laid off (they need not be looking for work to be classified as unemployed). -
  

One More Exception

Based on an example in the article, those out of work because of a labor dispute are considered employed even if they are looking for another job during the dispute.

Finally, please note that the official unemployment rate is solely based on the household phone survey as described above. It may not bear any resemblance to the weekly unemployment claims numbers or the monthly establishment jobs report.

Participation Rate, Employment Population Ratio, and Unemployment



click on chart for sharper image

The above chart from The Declining Participation Rate by Calculated Risk.

The falling participation rate reflects the number of people dropping out of the workforce. It is falling for two reasons. People have given up looking for a job and also because of demographics (people retiring as the boomer population ages). The predominant reason is people have stopped looking for a job.

Here are my posts on Creative Destruction, referenced in the chart above.

• Creative Destruction
• Creative Destruction And The Rising Tide of IT Pay Cuts

The workforce should be expanding by 100,000 to 125,000 jobs a month. Instead it is falling like a rock. This is a very deflationary event. It stops credit expansion, and it reflects retirees needing to draw down on their savings, pulling money out of the stock market.

Stock market pressures are negative when people need to get out or they fear further loses in their retirement accounts.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

BLS Job Report: December Nonfarm Payrolls +103,000, November Revision +32,000, October Revision +38,000; Workforce DROPS by 260,000

Following ADP's report of private-sector employment at +297,000, the BLS reported private sector employment at +113,000 and an overall nonfarm total of +103,000 well under expectations of about +175,000 jobs. However, there were substantial backward revisions to note.

Revisions

• November nonfarm payroll revised from +39,000 to +71,000 a gain of +32,000.
• November private payroll revised from +50,000 to +79,000, a gain of +29,000.
• October nonfarm payroll revised from +172,000 to +210,000 a gain of +38,000.
• October private payroll revised from +160,000 to +193,000, a gain of +33,000.
• Combined nonfarm payroll revision +70,000.
• Combined private payroll revision +62,000

If those back revisions were instead added into today's numbers, nonfarm payrolls would be +173,000 and private sector jobs at +175,000. Those would have been good, but not amazing numbers.

However, a better way of looking at things is via the revisions. We had a better than expected seasonal ramp of jobs in October followed by subpar job growth in November (even after the revisions), and subpar growth in December as well.

This is along the lines that I have suggested several times: limited hiring following seasonal retail hiring.

260,000 Drop Out of Work Force

The reported unemployment rate fell a substantial .4% to 9.4%. However, much of that that gain is a statistical mirage. The BLS reports a whopping 260,000 people dropped out of the work force. As a result the participation rate fell to a new low of 64.3%.

BLS December Report

Please consider the Bureau of Labor Statistics (BLS) December 2010 Employment Report.

The unemployment rate fell by 0.4 percentage point to 9.4 percent in December, and nonfarm payroll employment increased by 103,000, the U.S. Bureau of Labor Statistics reported today. Employment rose in leisure and hospitality and in health care but was little changed in other major industries.

Unemployment Rate - Seasonally Adjusted

Bear in mind, were it not for millions of people allegedly dropping out of the labor force over the last year, the unemployment rate would be over 11% right now.

Nonfarm Payroll Employment - Seasonally Adjusted

Note the effect of temporary census hiring earlier this year. For all the hype about the improving economy, there has only been one good jobs report all year, in October.

Establishment Data



click on chart for sharper image

Index of Aggregate Weekly Hours

The average workweek for all employees on private nonfarm payrolls held at 34.3 hours in December. The manufacturing workweek for all employees declined by 0.1 hour to 40.2 hours, while factory overtime remained at 3.1 hours. The average workweek for production and nonsupervisory employees on private nonfarm payrolls increased by 0.1 hour to 33.6 hours.

In December, average hourly earnings for all employees on private nonfarm payrolls increased by 3 cents, or 0.1 percent, to $22.78. Over the past 12 months, average hourly earnings have increased by 1.8 percent. In December, average hourly earnings of private-sector production and nonsupervisory employees rose by 2 cents, or 0.1 percent, to $19.21.

BLS Birth-Death Model Black Box

For those unfamiliar with the birth/death model, monthly jobs adjustments are made by the BLS based on economic assumptions about the birth and death of businesses (not individuals).

Birth Death Model Revisions 2009



click on chart for sharper image

Birth Death Model Revisions 2010



click on chart for sharper image

Birth-death adjustments remain in the solar system for an unprecedented four consecutive months. November was negative. I cannot recall the last negative number in any month but January or July.

Birth/Death Model Methodology

The big news in the BLS Birth/Death Model is the BLS is going to move to quarterly rather than annual adjustments.

Effective with the release of January 2011 data on February 4, 2011, the establishment survey will begin estimating net business birth/death adjustment factors on a quarterly basis, replacing the current practice of estimating the factors annually. This will allow the establishment survey to incorporate information from the Quarterly Census of Employment and Wages into the birth/death adjustment factors as soon as it becomes available and thereby improve the factors.

For more details please see Introduction of Quarterly Birth/Death Model Updates in the Establishment Survey

In recent years Birth/Death methodology has been so screwed up and there have been so many revisions that it has been painful to watch.

It is possible that the BLS model is now back in sync with the real world. Moreover, quarterly rather than annual adjustments can only help the process.

Please note that one cannot subtract or add birth death revisions to the reported totals and get a meaningful answer. One set of numbers is seasonally adjusted the other is not. In the black box the BLS combines the two coming out with a total. The Birth Death numbers influence the overall totals but the math is not as simple as it appears and the effect is nowhere near as big as it might logically appear at first glance.

Birth/Death assumptions are supposedly made according to estimates of where the BLS thinks we are in the economic cycle. Theory is one thing. Practice is clearly another as noted by numerous recent revisions.

Household Data



In the last year the civilian population rose by 1,965,000. Yet the labor force rose by a mere 518,000. Those not in the labor force rose by 1,447,000. In December alone, a whopping 260,000 people dropped out of the workforce. The one bright spot in the entire report: employment rose by 297,000.

Households Stats

• The number of unemployed persons decreased by 556,000 to 14.5 million in December, and the unemployment rate dropped to 9.4 percent.
• The number of long-term unemployed (those jobless for 27 weeks or more) was little changed at 6.4 million and accounted for 44.3 percent of the unemployed.
• The civilian labor force participation rate edged down in December to 64.3 percent, and the employment-population ratio was essentially unchanged at 58.3 percent.
• The number of persons employed part time for economic reasons (sometimes referred to as involuntary part-time workers) was essentially unchanged in December at 8.9 million. These individuals were working part time because their hours had been cut back or because they were unable to find a full-time job.
• About 2.6 million persons were marginally attached to the labor force in December, little different than a year earlier. (The data are not seasonally adjusted.) These individuals were not in the labor force, wanted and were available for work, and had looked for a job sometime in the prior 12 months. They were not counted as unemployed because they had not searched for work in the 4 weeks preceding the survey.

In January 2010 the number of people working part time for economic reason was 8.3 million. 12 months later the total has gone up by 631,000.

Table A-8 Part Time Status



click on chart for sharper image

There are now 8,931,000 workers whose hours may rise before those companies start hiring more workers.

Table A-15

Table A-15 is where one can find a better approximation of what the unemployment rate really is.



click on chart for sharper image

Grim Statistics

The official unemployment rate is 9.4%. However, if you start counting all the people that want a job but gave up, all the people with part-time jobs that want a full-time job, all the people who dropped off the unemployment rolls because their unemployment benefits ran out, etc., you get a closer picture of what the unemployment rate is. That number is in the last row labeled U-6.

While the "official" unemployment rate is an unacceptable 9.4%, U-6 is much higher at 16.7%. Moreover, both the official rate and U-6 would be much higher were it not for huge numbers of people dropping out of the workforce.

Things are much worse than the reported numbers would have you believe.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Italy The Invisible Elephant

In regards to the escalating sovereign debt crisis in Europe, most eyes have been focused on Greece, Ireland, Spain, and Portugal, the so-called PIGS.

Dr. Evil, a former government bond trader for a very prominent bank pinged me regarding my post PIGS Exposure Table, Explaining the Panic by Numbers. Her message was to pay more attention to the second "I" in PIIGS, namely Italy, the "invisible elephant".

Dr. Evil writes ...

Hello Mish

I just saw your table on the PIGS and I see the biggest one of all missing, ITALY. I traded Euro Government bonds for 11 years and know this market inside out. Spain is a big one should it go but Italy has a cool 2 Trillion EUR in debt and has much worse debt statistics than Spain.

Italy's debt-to-GDP ratio is 118% (2009). Greece got in trouble at 116%. Italy's deficit is smaller and has a high savings ratio. However, nobody focuses on that as Spain is in the limelight with a debt-to-GDP ratio under 60%. Should austerity measures result in a nominal GDP contraction in Italy, its debt stats will worsen very rapidly.

Italy is the elephant in the room not Spain.

Regards
Dr. Evil

Let's take a closer look at sovereign bonds spreads in Europe, comparing German 10-year government bonds to Italian 10-year government bonds.

German 10-Year Government Bonds



Italian 10-Year Government Bonds



Since mid-October, German 10-Year Government bond yields are up .64%. In the same timeframe, Italian 10-Year Government bond yields are up 1.04%.

The flight-to-safety divergence increased starting around December 16, 2010. Since then, German bonds yields are off .16% while Italian bond yields rose .14%.

Government Bond Spreads as of January 7, 2011

On January 7, 2011 the German-Italian spread government bond spread is 1.88% and rising. Table is courtesy of the Financial Times.



Web of Debt

Here is an interesting chart courtesy of the New York Times regarding Europe's Web of Debt that helps explain the picture.



click on chart for sharper image

The graphic is from May, 2010 so it's a bit dated. However, it does explain the interrelationships quite nicely.

Note that Italy owes France a whopping $511 billion, 20% of the French GDP. Moreover, nearly 1/3 of Portugal's debt is held by Spain. Meanwhile Spain owes huge amounts to Germany, France, and the UK.

Do you think all of that will be repaid? I don't.

Critical Court Ruling Coming Up

In Feb 2011 the German court gives its verdict on the constitutionality of the bail-out. Fifty academics and politicians sued the government over it. February is crunch time. For more details please see EU Commission Plans Haircuts on Bank Debt; Greek Yields Hit New Record; China Buys Spanish Debt; German Courts to Decide Bailout Constitutionality.

If the German courts uphold the constitutionality of these various bailouts, the crisis is merely pushed a bit further down the road.

New Irish Government Likely To Demand Haircuts

In March a new Irish government will take over and it is highly likely that government questions the hundreds of billions Ireland owes German, French, and UK banks.

I believe Ireland should tell the ECB and IMF to go to hell and default. For my rationale, please see To Ireland With Love. Here is the "Trojan Horse" image I used with the article.



Italian Snowball and Off-Balance Sheet Derivatives

In a subsequent email, Dr. Evil elaborated on Italy's off-balance sheet debt.

Hello Mish,

If Italy were to go into a nominal GDP recession on account of its austerity programs, its debt-to-GDP ratio would likely be 130% by 2012. It's difficult to see how the market would ignore that.

Also check out Italy's debt compared to Germany. Here is the official EU Gross Government Debt Figures by country. Note that as of 2009, Italy's Debt is 1.763 Trillion EUR, about the same as Germany. Obviously the German economy is far bigger.

Moreover, I assure you that Italy has a lot of off-balance sheet debt. Some European countries took some very creative measures to reduce interest payments on debt. Italy was one of those countries.

I have seen Italy do HUGE (10+ billion USD) derivative transactions. Those transactions were all off-balance sheet but the cash flows behind the transactions were very real.

Italy was the number 1 customer for big investment banks in London for years. You won't find anything about that in the press.

In 2011, Italy will need to rollover a pile of debt. It will be interesting to see how that goes. I believe that if the 10-year yield hits 6%, an irreversible snowball effect similar to what Greece and Ireland went through is likely.

That's when gold hits $2000

Dr. Evil

2011 Italian Debt Issuance

Inquiring minds are reading Italian Public Securities By Maturity to see how much debt Italy will need to rollover in 2011.

A quick look at page 3 totals approximately 281 billion in euro debt rollovers. Assume a 5% budget deficit on a GDP of roughly 1.5 trillion euros and you end up with 281 + 75 billion or roughly 356 billion euro total debt issuance.

Will the market accommodate that issuance at a good interest rate? If not, the "Invisible Elephant In The Room" will quickly make its presence known in a rather rude manner.

Addendum:

Flashback July 23,2006: Citigroup Haunted by Dr. Evil, Fails to Gain Governments' Trust

Almost two years after Citigroup Inc. riled the dozen countries in Europe's government bond market with secret trades code-named Dr. Evil, the debacle is hurting shareholders of the world's largest financial institution.

Citigroup arranged just 2.3 percent of the 155 billion euro ($196 billion) in debt sold by the governments since it unleashed Dr. Evil on Aug. 2, 2004. That's little more than a fifth of its market-leading 10.1 percent share in 2003, data compiled by Bloomberg show. And while the $26 million fine Citigroup paid was the equivalent of a rounding error on annual earnings, the New York-based bank has lost the chance to win lucrative fees for handling sales of state assets, such as France's $7 billion stake in Groupe Caisse d'Epargne; Citigroup is now 14th among advisers on European privatizations, down from third.

German financial market regulator Bafin referred the case in January 2005 to a public prosecutor, who decided against pursuing the case "for legal reasons," said Anja Neukoetter, a Bafin spokeswoman in Bonn. France's Autorite des Marches Financieres passed its evidence to the U.S. Securities and Exchange Commission, said Sabine Baudin, a Paris-based spokeswoman at the AMF.

Thomas Maheras, 43, Citigroup's head of global capital markets, acknowledged in a memo to employees that the bank's conduct wasn't above reproach.

"We regret having executed this transaction," Maheras said in the memo, which was distributed to news organizations in September 2004. "We failed to fully consider its impact on our clients, other market participants and our regulators."

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Rosenberg on the Non-Double-Dip; A Look Ahead to Second Half-2011 and 2012

The "Double Dip" for 2010 did not happen and one for 2011 now seems unlikely as well. However, a recession in 2012 is not out of the question. Dave Rosenberg explains in Breakfast with Dave

Can We See 4% GDP Growth For Q1? Yes, But Look For Air Pockets Thereafter

This is not a forecast as much as something that should be on the radar screen. Nor should this be considered a change in our fundamental view for 2011 as a whole — as a year of overall disappointment on the macro front. Be that as it may, the probability of a much stronger Q1 economic outcome has risen very recently.

Yes, you read that right. But why would that come as a surprise? We had near 4% GDP growth in the first quarter of last year (the consensus was little more than 2.5% going into that quarter) and by summer everyone was still talking about a double-dip recession and the stock market was beginning to price one in.

The points below show what it would take to get 4% GDP growth for Q1 — believe it or not, it is not a stretch to get there. With consumer spending at 3.5% (perhaps even higher), it doesn’t take much. The consensus right now is less than 3% (taken a month ago), but I would expect to see it revised up very shortly:

• Consumer spending 3.5% (the impact of the payroll tax cut)
• Residential investment 2% (the monthly construction spending numbers have risen modestly off the lows)
• Non-residential spending 5% (the architectural billing index is consistent with this)
• Capex 10% (still solid but moderating as the latest core orders data are predicting)
• Net exports swing from $470 billion to $460 billion (net addition of 0.4%)
• Inventories from $73 billion to $68 billion (drag of 0.2%)
• Government 1.5%

Even if government is flat, the number for Q1 would still be 3.7% seasonally adjusted annual rate.

What is important is what happens in the second and third quarter when we see the U.S. economy hitting an important air pocket. In Q2, there is a loss of fiscal support at the margin. Moreover, we will be deeper into this renewed leg of the downturn of home prices, with negative implications for the household wealth effect, confidence, and spending. We will be seeing the peak impact from the runup in energy prices too. The inventory cycle has pretty well run its course as well (it was responsible for half of the GDP growth in 2010). It would also likely be prudent to assume that some risk aversion will resurface from the renewal of European debt concerns in March after the Irish elections (if the opposition party wins, expect the EU deal to be renegotiated and the debt to be restructured, and if that happens, look for other countries to follow suit). Of course, we have the debt-ceiling issue to contend with in March-April and the GOP are dangling $100 billion of spending cuts in front of the White House in order to get a deal done. This is not last year’s lame duck Congress. And this doesn’t add to uncertainty and possible disappointment in the second and third quarter?

The Fed is not going to be able to embark on more balance sheet expansion unless things were to get really ugly given the new Congressional oversight and the longer list of “hawks” that are FOMC voters ― this comes to a head in June and remember what happened last year when Mr. Market hit a pothole as the Fed contemplated its elusive exit strategy. It would be irresponsible to ignore these risks.

All we know about Q4 is that we should see a decent pickup in capital spending ahead of the end of the bonus depreciation allowance, which will merely create another problem for 2012 but the story here is (i) consumer-led first quarter, followed by (ii) air pockets in both Q2 and Q3, and then (iii) a capex-led fourth quarter. Moreover, a 2012 recession cannot be ruled out. In fact, elections are great years to have recessions: 1960, 1970, 1980, 2000 and 2008! How about that Mr. Potter?

The Real Cause For The Recent Exuberance

Personal income was revised up $46.3 billion in the second quarter. This was huge ― the Commerce Department found $46.3 billion for the consumer that it thought wasn’t there before. This made the difference between income being up at nearly a 6% annual rate that quarter and 3%. The newly found income carried some important spending momentum with it into the third quarter and this was really big in terms of influencing people’s perceptions of how the economy was performing.

When double-dip risks were at their peak, it was when Q3 GDP was released initially and it showed a mere 1.6% annual growth rate, which was even weaker than the 1.7% print in Q2 (which was less than half the growth rate of Q1). Then Q3 GDP was revised up to 2% and then all the way to 2.6% and that is all she wrote as far as the double dip for 2010 was concerned. And it now looks like we are going to see something closer to 3.5% for Q4. So what happened was that consumers had more income than was thought previously.

This is a nice story. It explains why we were wrong on the Q3/Q4 double-dip scenario, but going forward, this income revision and its impact on spending can be considered yesterday’s story. As we said, there is the current payroll tax effect, but this will be contained to the first quarter and the one thing history teaches us is that tax cuts that are temporary in nature carry with them virtually no multiplier impact into the future. Look for Q2 of this year ― and likely Q3 as well ― to turn out to be as disappointing for the market, as was the case for these exact same quarters in 2010. In other words, look for a repeat except this time around we don’t have a Fed and a Congress that is going to pull another rabbit out of the hat during the summer and fall.

Change of Tune

I too thought a double-dip in 2010 or 2011 was likely. I changed my mind some time ago and made it theme number seven in Ten Economic and Investment Themes for 2011

7. US Avoids Double Dip

The tax cut extensions and the payroll tax decrease will keep the US out of recession. However, growth estimates are still too high. The tax cut extensions do nothing more than maintain the status quo while the payroll tax deduction is just for a year. Most will use it to pay down bills. Look for GDP at 2.0-2.5%. That is the stall rate.

There is no reason to stick with a forecast that is not going to happen. When retail sales picked up in November and continued into early December, that was it for me. I had significant doubts even before that.

Robust Jobs

On Monday, January 3, before the ADP numbers came out, in Factories Expand 17 Consecutive Months, Jobs Don't I discussed the possibility for a couple months of good jobs reports.

The BLS report for December comes out on January 7th. The January report comes out on February 4th. Those reports could be robust because of retail and service sector hiring, especially the January report.

Everyone is now going gaga now because Wednesday's ADP National Employment Report "suggests nonfarm private employment grew very strongly in December".

ADP has private-sector employment at +297,000.

The pertinent question, assuming the report is correct (I'll take the way under) is "how sustainable is it?" On this score I am in agreement with Rosenberg. I suggest not very, although next month or two could be good as well.

Bear in mind we had strong employment reports early last year, only to see them fade in the second half. Given that headwinds are enormous, I see no reason to change what I said in Jobs Forecast 2011 Calculated Risk vs. Mish.

Nor do I see any reason to change my long-term forecast that the US slips in and out of recession or near-recession and deflation for a number of years, just as Japan did.

Little has changed except a massive amount of stimulus delayed the double-dip. What can't go on forever won't and I doubt if this Congress is very accommodating to states in trouble.

Economic forecasts for 2010 ranged from hyperinflation to strong growth and strong inflation, to weak growth and strong inflation, to weak growth and minimal inflation, to weak growth or double-dip accompanied with deflation (my call), to outright economic Prechter-like collapse.

Those in the hyperinflation and strong inflation camps missed the mark by a mile. Mid-year it looked like the US was headed back into deflation but QEII forestalled that.

Giving credit where credit is due, those in the weak growth and minimal inflation camp got the 2010 call right. There were not many in that camp, but Calculated Risk was one of them.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Portuguese, Spanish Bonds Smacked on Sovereign Debt Financing Concerns; Euro Flirts with December and Mid-September Lows

Portuguese and Spanish 10-year bonds are getting smacked hard as refinancing needs mount. Greek yields are at all-time highs and a milder (for now) selloff continues on Belgian and Italian bonds as well. A flight to safety on German bonds is again in play, with German 10-year yields dropping slightly. The Euro once again flirts with December and Mid-September lows.

Bloomberg reports Portuguese, Spanish Bonds Decline Amid Debt-Auction Speculation

The extra yield investors demand to hold Portuguese securities rather than benchmark German bunds widened to the most in a month as the IGCP debt office announced the sale of 2014 and 2020 debt, scheduled for Jan. 12. Belgian bonds tumbled after the nation’s political leaders failed to restart seven- party negotiations to form a government. German bunds rose.

“The underlying story behind this slide in Portuguese government bonds is supply-related,” said David Schnautz, a fixed-income strategist at Commerzbank AG in London, who said he had heard speculation about the Portuguese sale before it was announced. “Next week we will keep on running at full steam in the primary market with supply from Spain and Italy,” he said.

The yield on 10-year Portuguese bonds jumped 26 basis points to 7.17 percent as of 4:40 p.m. in London. The yield premium to bunds widened to 404 basis points, the most since Dec. 1. The 4.8 percent bond due in June 2020 fell 1.57, or 15.70 euros per 1,000-euro ($1,301) face amount, to 84.12.

Portugal is raising taxes and cutting wages to convince investors it can narrow its budget gap after the Greek debt crisis led to a surge in bond yields for euro nations last year. The Portuguese government said today it met its target for a budget deficit of 7.3 percent of gross domestic product in 2010.

The nation, which intends to sell as much as 20 billion euros in bonds to finance its budget and redemptions this year, auctioned 500 million euros of bills yesterday at a yield of 3.686 percent, up from 2.045 percent at a sale of similar- maturity securities in September.

Spain is due to sell debt maturing in 2016 on Jan. 13, the same day as Italian bond auctions for 2015 and 2026 securities. The Spanish 10-year yield rose 16 basis points to 5.49 percent. The equivalent-maturity Italian yield increased 11 basis points to 4.77 percent.

Belgian bonds tumbled, sending the 10-year yield 13 basis points higher to 4.07 percent, after politicians failed to break the political deadlock in Europe’s third-most-indebted country. The extra yield over German bonds widened to 115 basis points, the most since Dec. 1. The spread, a gauge of the risk of investing in Belgium, has risen from 79 basis points before the nation’s June 13 election.

The yield on German bunds, Europe’s benchmark debt securities, fell three basis points to 2.91 percent.

Sovereign Debt Yields Greece, Portugal, Spain, Belgium



That chart is as of yesterday. The Portuguese 10-year yield has since widened to as much as 7.17% (quite a sharp selloff). Spanish 10-year yields are now 5.49% and Belgium 10-year yields are 4.07%.

Euro Weekly Chart


click on chart for sharper image

The sovereign debt crisis in Europe as well as recent job reports in the US are both US dollar friendly. For more on the European debt crisis including a look at a pending German court review of the constitutionality of the bailouts, please see EU Commission Plans Haircuts on Bank Debt; Greek Yields Hit New Record; China Buys Spanish Debt; German Courts to Decide Bailout Constitutionality.

For a look at the mess in Japan, please see Japan's Finances "Approach Edge of Cliff", Prime Minister Calls For Sales Tax Hike.

The potential for a substantial US dollar rally is staring dollar bears and US hyperinflationists smack in the face.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Japan's Finances "Approach Edge of Cliff", Prime Minister Calls For Sales Tax Hike

Japan, which spent itself into oblivion fighting deflation (and losing), now needs to raise taxes in the midst of that deflation.

Please consider Sengoku Says Japan’s Finances Near ‘Edge of a Cliff’

Japan’s top government spokesman said the country’s fiscal situation is “approaching the edge of a cliff,” underscoring Prime Minister Naoto Kan’s call for a national debate on raising the 5 percent sales tax.

Kan is “expressing his deep sense of crisis and resolution about the sustainability of social security as the aging population increases under a low birth rate,” Chief Cabinet Secretary Yoshito Sengoku told reporters today in Tokyo. “The supporting fiscal conditions don’t allow for any delays, it’s finally approaching the edge of a cliff.”

The prime minister last night said in an interview with TV Asahi that he would “stake my political life” on addressing Japan’s rising social welfare costs and increasing public debt. The day before he said “now is the time” to face these problems.

Japan’s public debt is set to exceed twice the size of the economy this year and reach 210 percent of gross domestic product in 2012, both estimates the highest among countries tracked by the Organization for Economic Cooperation and Development, according to the group’s forecasts.

Keynesian, Monetarist Deflation Cures Fail

The Keynesian cure for deflation is government spending. The Monetarist cure for deflation is quantitative easing. Japan tried both and the only visible result is government debt to the tune of 200% of GDP.

As Japan's aging work force heads into retirement, retirees need to draw down on their accumulated savings but they can't. Government buffoons fighting deflation spent it all and 100% more. So now, Japan stands at the edge of a cliff and needs to tax those retirees enough to pay their retirement pensions. Those pensions were squandered building bridges to nowhere, allegedly to end deflation.

Now the plan is to raise taxes enough to pay the retirees. Is that really supposed to work? For how long?

Raising taxes in the midst of deflation hardly seems right, but the alternative is default or further escalation of government debt. Compounding the problem, rising interest rates would crucify Japan as interest rates on the national debt already consumes most of government revenues.

At some point the Yen will sink to reflect this reality. In an extreme case, hyperinflation is possible. Yes dear reader, in spite of all the talk about hyperinflation in the US, the odds of it elsewhere are far greater. Note that "greater" means just that. It is not an explicit call for hyperinflation.

The Prime Minister's statement "Japan is approaching the edge of a cliff" is a sure sign Japan has already fallen off a cliff. Politicians do not admit problems until it is too late to fix them. Thus, we have official admission that Japan's demographic time bomb has just gone off. The only question now is how quickly the problem escalates.

One might think that economists would learn something from this, but they would be wrong.

Keynesian clowns think Japan failed to defeat deflation because government did not spend enough fast enough. In other words, Keynesian clowns think the way to get out of a hole is to dig deeper, faster.

Meanwhile, Monetarist clowns feel the central bank did not ease enough fast enough. They think if you just print enough money someone will spend it. In Japan, all printing money did was artificially suppress interest rates as the money went into government bonds.

Question of the Day: Do economists (in general) somewhere along the line acquire an inability to reason, or does an innate inability to reason lead one to a career as an economist?

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

EU Commission Plans Haircuts on Bank Debt; Greek Yields Hit New Record; China Buys Spanish Debt; German Courts to Decide Bailout Constitutionality

A European commission has come up with a new proposal to shield taxpayers from the banking crisis via haircuts in senior bank bonds. The proposal only covers bank debt, not sovereign government debt, and supposedly it applies to some mythical time in the future, not now.

However, sovereign yields have hit new record highs in Greece, and are close to record highs in Portugal, Spain, and Ireland, I fail to see how the crisis can possibly be contained, and I fail to see why it takes a commission to decide that bank bondholders need a haircut. It should be perfectly obvious there is no other possible solution. The big fear is haircuts spread to sovereign debt.

It's time to put the fears away and concentrate on the reality. Sovereign debt haircuts are coming. With that backdrop, please consider the Telegraph article EU plans for bondholder haircuts unsettles debt markets by Ambrose Evans-Pritchard.

Michel Barnier, the single market commissioner, will publish a “consultation paper” outlining ways to shield taxpayers from banking crises. It is the first stage of what will almost certainly become a binding law.

“We are pursuing the idea of a debt write-down or conversion to help stabilise a failing bank and reduce the need for public funds,” said an EU source.

Fears that this could evolve into a crusade against bondholders set off fresh jitters on EMU debt markets yesterday, pushing yields on 10-year Greek bonds to a record 12.59pc.

Portugal managed to sell €500m (£425m) of debt at a crucial auction but had to pay 3.67pc on six-month bills, double the rate in September. “It is an unsustainable dynamic,” said Lena Komileva from Tullett Prebon.

Credit Default Swaps on Irish bonds jumped 16 points to 620 after Switzerland’s central bank said it would no longer accept Irish debt as collateral.

The Commission paper refers only to bank debt, unlike Germany’s proposals for sovereign “haircuts”. Mr Barnier hopes to restrict burden-sharing to future debt only, fearing that a catch-all approach risks setting off a fresh EMU crisis.

Commission's Vote Is Irrelevant

The idea that haircuts can be limited only to bank bonds, and not even the existing ones, but mythical bonds at some mythical time in the future is preposterous. You know it, I know it, and the bond market knows it. Why else would Greek bonds yields be at fresh all time record levels?

I find it amusing that a commission has gotten together to vote on such matters. It is not up to the commission to decide. The market has already cast its vote. Unless Germany decides to pony up more cash, the market wins.

The Telegraph continues ...

However, Brussels may lose control once the process is unleashed. A populist backlash is gathering strength in most EU states, and regional elections in Germany may sharpen demands for retribution against cossetted monied elites.

“It is no coincidence that Chancellor Angela Merkel lost her majority in the Bundesrat two days after the Greek bail-out,” said Andrew Roberts, credit chief at RBS. “Peripheral debt woes have not gone away. This will go on until Germany chooses whether to dilute its own credit rating by funding the system, or decides 'enough is enough’.”

I seldom agree completely with Pritchard but I think he has this one stone cold. It is not even clear the German courts will find bailouts constitutional. A crucial vote is coming up next month.

German Bonds Lose Luster

Bloomberg reports German Bunds Lose Allure for Europe Fund Managers.

Germany has pledged more cash than any nation to bail out debt-ridden states such as Ireland and the country’s fixed- income market is vulnerable, assuming Deutsche Bank AG analysts are right and the European Central Bank starts to increase interest rates as soon as June.

“When you look at the whole setup, Germany seems to be the ultimate guarantor of the whole region,” said Robin Marshall, director of fixed-income at London-based Smith & Williamson Investment Management, which oversees $20 billion for customers. “You have to ask yourself why bund yields are so substantially below other countries. They aren’t fully reflecting the risk.”

“Bund yields may continue to fall in an early part of next year,” said Rainer Guntermann, an analyst at Commerzbank AG in Frankfurt. “People are likely to continue to seek safety that German bonds represent as credit deterioration drags on.”

Andre de Silva, the Hong Kong-based head of Asia-Pacific interest-rate research at HSBC Holdings Plc, isn’t so sure. German bonds may lose their status as “the golden benchmark,” he said.

“The more we go the bailout route and the more Germany, as a large contributor, has to stump up, the less German bonds can be claimed as a risk-free asset,” de Silva said. “We are not saying Germany will lose its top credit rating, but the allure of its bonds is tarnished.”

While Germany has one of the lowest deficits in the 17- member euro region, it has earmarked 119.4 billion euros to the European Financial Stability Facility for countries in need of bailouts. The contribution, the biggest by any nation, amounts to 27 percent of the fund.

“It’s a difficult situation for Germany,” said Kind of Frankfurt Trust. “Credit dilution, perceived or real, will push yields higher. It’s no longer the case of the majority bailing out the minority in the euro region, but the other way round.”

China to Buy More Spanish Debt

Please consider Top Chinese official promises to buy Spanish debt

Chinese Vice Premier Li Keqiang vowed to buy more of Spain's government debt on a three-day visit to the country, delivering a significant vote of confidence in the battered economy.

The visit came as Spain battled market concerns that it may need an Irish or Greek-style international rescue because of a debt refinancing crunch this year.

"We believe Spain, with its government and people working together, will surely overcome current economic and fiscal difficulties," Li reportedly told Spanish Finance Minister Elena Salgado after his arrival on Tuesday.

The above deal was announced on Monday, ahead of the trip. The Euro rallied for a day then sold off as did Spanish bank stocks.

Spanish Bank Stocks on Funding Costs

Bloomberg reports Spanish Bank Stocks Drop on Funding Cost

Spanish banking stocks fell, led by Banco Bilbao Vizcaya Argentaria SA, on concern raising funds will become more difficult in European nations with large budget deficits.

Raising money is getting more costly for banks in indebted euro nations as investors demand a higher return for taking the risk of holding their debt. Ireland in November followed Greece by seeking a bailout, while investors remain concerned about the growing debt burden in Portugal, Spain and Italy.

“The signals from the bond market are not very encouraging,” said Daragh Quinn, a banking analyst at Nomura International in Madrid. “It’s clear the next couple of months are going to be very tough for the Spanish banks.”

Only 41% of Germans Want to Stay on the Euro

Deutsche Welle reports Survey finds half of Germans want Deutschmark back

German daily Bild commissioned a survey by Cologne's YouGov-Institute that found that 49 percent of Germans want the deutschmark back. Only 41 percent of those surveyed don't.

Some 77 percent of the 1,068 people questioned by YouGov said they personally had not profited from the adoption of the euro.

Would they adopt the euro today?

If the country were currently not part of the eurozone, only 30 percent of those asked would today vote to adopt the euro and 60 percent would vote against such a move.

Will Chancellor Angela Merkel Lose Control?

With those kind of numbers, to suggest Angela Merkel needs to walk a fine line is an understatement. The German courts have to be aware of those numbers as well.

Literally everything that the German anti-Euro crowd said would happen years ago has now happened, and they are not too happy about it.

Major Constitutional Court Cases Coming Up

Euro Maverick Edin Mujagic discusses the court battles in Stop blaming the Germans

December 21, 2010

Karlsruhe, a pretty little town on the German-French border, is the home of German Constitutional Court. It can destroy the euro even if the troubles on the euro area periphery are to be resolved in a structural way (which is not very likely).

At the beginning of next year the judges of that Court will look into quite a few cases brought forward vis-à-vis the German participation in saving Greece and Ireland.

The German government wants to proceed with those operations and is ready to save other euro countries as well. But Berlin wants the emergency euro-shield, which is now only temporarily (until June 2013), replaced by something more permanent. In order to do that, European Treaties will have to be rewritten, a time-consuming and very uncertain endeavor as there is a risk that not all EU member states will ratify it.

Time is of the essence

Nevertheless, for Berlin time is of the essence too. The new mechanism should be in place before the judges in Karlsruhe sit down to look at at least five complaints that have been brought before the Constitutional Court. The plaintiffs claim that saving those two countries from defaulting constitutes a breach of both the European Treaties and the German constitution and want the Court to order immediate stop of German participation in the rescue.

The German Constitutional Court has some experience with these matters. In 1993 and 1998 it looked at two similar cases. Plaintiffs tried to prevent the euro to be introduced at all (in 1993) and wanted it delayed (in 1998). Back then the Constitutional Court threw the charges out. But that should not be taken as guarantee than it will do so again this time.

In its verdict from 1993 the Court acknowledged that economic stability must be the basis of German participation in a monetary union at all times. In case the judges decide that economic stability of the monetary union can no longer be guaranteed, that could be interpreted as the cessation of the basis for German participation in the euro zone, making the German participation in it illegal.

Abandonment

Whatever the ruling however, the damage to the euro and the European monetary union will be significant. It is highly likely that in the future many more cases will be filed at the German Constitutional Court. That will cause great uncertainty about the future of the euro. At the end of the day, any currency is as strong as it has support of the people actually using it every day. The euro was never really loved by many Europeans and that is increasingly unlikely to even become the case. Uncertainty about the survival of the euro in the long run is the last thing a currency that wants to be an alternative to the dollar needs.

P.S. Just to add one last-minute development. In a recent interview, French Economy Minister Christine Lagarde said that euro zone policymakers deliberately chose to “violate” the bloc’s rules in rescuing Greece and Ireland. The Greek and Irish bailouts and the creation of a temporary European rescue fund had been “major transgressions” of the treaty, according to Lagarde. “We violated all the rules because we wanted to close ranks and really rescue the euro zone,” Lagarde was quoted as saying.

Nice, this is just what German politicians needed, weeks from the moment that Karlsruhe-judges convene to look at the complaints.

Thoughts on the Outcome

My friend "HB" who lives in Europe offers these thoughts on the lawsuits:

The most likely outcome is a compromise. The court will probably not stop the bailouts, but may well proscribe the government's freedom of action with regards to what it may contract for and what it may not contract for from here on out.

I expect some admonishment that the government must not overstep constitutional bounds.

The EU is not allowed to become a 'transfer union'. Karlsruhe has already given Gauweiler a partial victory in his suit against the Lisbon treaty by opining that no parts of the treaty may conflict with the constitutions of the federal states ('Länder') or that of the Republic.

We don't want no transfer union

Rounding out the discussion at long last, please consider The Economist article We don't want no transfer union

Although the IMF and European Union are acting as co-rescuers of Ireland and Greece, Germans see themselves as rescuers-in-chief—and they resent it. “Will we finally have to pay for all of Europe?” asked Bild, a tabloid.

German behaviour is guided by more than petty politics. In adopting the euro the Germans thought they were joining a condominium, in which every member would keep order on their own property, and not a messy commune. Now the crisis threatens that understanding. The Greek bail-out and the €750 billion ($980 billion) war chest created in May to defend the euro look to many Germans like a violation of the “no-bail-out clause” in the Maastricht treaty that created the euro. The government insists it is not, because the aid is voluntary and temporary. The constitutional court is evaluating this claim. The proposed successor, a permanent facility plus procedures to impose losses on creditors of insolvent countries, needs a treaty revision to pass constitutional muster.

Assuming the "compromise" call comes in, another crisis is all but assured when Greece and Ireland default. That might take a while. In the meantime, eyes are on Spain and Portugal.

Italy is the unseen elephant, simmering in the background. Should a huge crisis erupt before the court makes a ruling, all bets could be off on what the court decides.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Laid Off Firefighter Panhandles On Street

Here is a story of a laid-off firefighter blaming the wrong thing for his woes. Meet Jason Pickering begging for money.

"We took an oath to save people's lives ... and the city just threw us to the curb," Jason Pickering told WGN-TV.



The 34-year-old Pickering, a 10-year department veteran and one of 34 Gary firefighters who lost their jobs, now goes out begging, dressed in his cold-weather firefighting gear, collecting dollar bills in a boot. A hand-made cardboard sign he has strung around his neck reads: "Laid off Gary firefighter. Family of 6. Thank you and God bless."

Since Sunday, he has collected $475. But he says it's not enough to make ends meet for his wife and four children. At the end of January he will lose his health insurance, and he gets only $350 a week in unemployment compensation.

Jason says he will continue begging and protesting the layoffs.

Hello Jason. The city did not put you on the curb. The union did. Gary is broke. And now so are you. And the reason why Gary is broke is the same reason why you are broke. That reason Jason, is the union. The union refused to take pay or benefit cuts to save your job. That is why you are on the curb.

You see Jason, the union does not give a rat's ass about you. All the union cares about is preserving the pay and benefits of senior members.

Jason, if you want to protest, I suggest you stand outside your former headquarters and ask every firefighter going into the building why they voted to put you on the curb.

Then again, Jason, how did you vote on those wage and benefit cuts the city needed? If you voted no, the harsh reality is you helped put yourself on the street.

By the way Jason, unemployment benefits are taxable. Now that you are panhandling, how does it feel to have taxes collected out of your small check to pay monstrous benefits to the remaining union members who tossed you on the curb?

Think about that Jason while you are whining about your lost job begging everyone else who has been in your situation for years, paying taxes so that you accrued benefits they will never see.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Playing Chicken with Debt Limits: Obama as a Senator vs. Obama the Hypocrite President Today

President Obama is very concerned that Republicans might "Play Chicken" with the debt ceiling. The president is so concerned his aids are sending out dire warnings about dollar defaults and "catastrophic impacts" to the economy.

Please consider Don't 'play chicken' with debt ceiling

Some Republican lawmakers said Sunday they opposed raising the ceiling on the nation's debt without tackling government spending, and President Barack Obama's top economic adviser warned against "playing chicken" on the issue.

Austan Goolsbee, the chairman of the White House Council of Economic Advisers, said that refusing to raise the debt ceiling would essentially push the country into defaulting on its financial obligations for the first time in its history.

"The impact on the economy would be catastrophic," Goolsbee told "This Week" on ABC. "That would be a worse financial economic crisis than anything we saw in 2008."

Goolsbee added: "I don't see why anybody's talking about playing chicken with the debt ceiling."

Flashback March 20, 2006 - U.S. Senate Floor

Inquiring minds just may be wondering what the president's position was when he was a senator, just a few year's back.

Please consider Flashback: Previous Debt Limit Votes Have Not Been Good Ones

March 20, 2006: This was the last stand-alone debt limit vote on which then-Senator Obama voted. He was one of 48 members to vote against the increase, which passed with 52 votes.

He said: “The fact that we are here today to debate raising America's debt limit is a sign of leadership failure. It is a sign that the U.S. Government can't pay its own bills. It is a sign that we now depend on ongoing financial assistance from foreign countries to finance our Government's reckless fiscal policies. … Increasing America's debt weakens us domestically and internationally. Leadership means that ‘the buck stops here. Instead, Washington is shifting the burden of bad choices today onto the backs of our children and grandchildren. America has a debt problem and a failure of leadership. Americans deserve better.”

Truer Words Never Spoken

• America's debt problem is a "sign of leadership failure"
• We have "reckless fiscal policies"
• Washington "shifts the burden of bad choices today onto the backs of our children and grandchildren"
• America has a debt problem and a failure of leadership.
• Americans deserve better

Yes Mr. President, America does deserve better. I suggest you do the best thing you can possibly do for your country today: Resign.

Since that is unlikely, I urge Republican to take the measures Obama recommended in 2006 when he crossed party lines and voted with Republicans in 2006 to not raise the debt limit.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Sound Money, Gold Fever, and Crackpot Ideas

Larry Hilton, an attorney and insurance salesman has authored the “Utah Sound Money Act”. A couple of state legislators are considering sponsoring the bill. Here are a few things the bill would do.

Requires State To Accept Gold As Money

Among other things the sound money act requires the state to accept gold as payment and would allow but not mandate businesses to accept gold as payment.

Creates Defense Force to Protect Gold

Part 5 of the bill requires the governor to "recruit, form, train and deploy such troops and regiments of the Utah State Defense Force ... as the Governor may deem necessary and appropriate to store, safeguard, protect and transport the Registered Specie holdings of all Utah Governmental Entities, as well as provide a means for the exchange, between and among Utah Governmental Entities and Utah Taxpayers, of Registered Specie, either by transfer of ownership of the same held in a secure storage facility or by physical delivery according to the recipient's preference."

Mandates Treasurer to Fix the Price of Gold and Silver Periodically

The Utah State Treasurer would have responsibility to "periodically set a Specie Exchange Rate for gold as well as one for silver. These rates shall equate a specific quantity of Federal Reserve Notes, or fraction thereof, to one Troy grain of each metal."

Periodically means "no more than once per day, bank holidays and weekends excluded. Newly set Specie Exchange Rates shall not be disclosed to anyone other than the Utah State Treasurer's staff until such new rates take effect at 12:01 a.m. the following day, at which time the new rates shall be published and readily available to Utah Taxpayers, residents and citizens."

Limits Price Movements

Moreover "No single Specie Exchange Rate change effected by the Utah State Treasurer shall differ by more than one percent from the previously effective rate."

Crackpot Idea?

The Salt Lake Tribune "Gold Fever" editorial calls Larry Hilton's proposal a "crackpot idea".

The 2011 session of the Utah Legislature is looking like uncommonly fertile ground for crackpot ideas. So far there is a bill to name an official state gun and two calling for conventions to amend the U.S. Constitution. But the most outrageous scheme to surface yet is the Utah Sound Money Act, a system of commerce within the state that would be based on gold and silver coins.

So far, the bill hasn’t found a sponsor. Here’s hoping it doesn’t. Utah can’t secede from the Union, and it shouldn’t try to secede from the federal currency, either.

Volatility Argument Flawed

The editorial's primary argument against Hilton's bill was in regards to volatility of the price of gold, measured in dollars. The irony of that logic is that price volatility of nearly everything is a result of boom-bust cycles caused by the Fed and fractional reserve lending.

Prior to the Fed, boom-bust cycles were exacerbated by banks lending out more paper gold than there was backing for it. Fractional Reserve Lending has always been a problem with banks and needs to be stopped.

It is governments, paper money, and fractional reserve lending that create volatility.

Hilton's Bill Fatally Flawed

However, Hilton's bill is indeed fatally flawed for numerous reasons including price fixing by the treasurer and authorization of a defense force to protect stored gold. As a practical matter, gold owners would not pay dollar debts in gold in the first place.

One does not (or at least one should not) attempt to fix the price of gold in dollars. Nor can one set prices once a day or hold price movements to 1% a day. Those are flawed ideas that cannot and will not work.

Instead, one dollar should represent a fixed amount of gold and every dollar should be 100% backed by that amount of gold.

Gold will buy what it will buy, and prices of goods and services will fluctuate by supply and demand. As a result, prices will be far more stable under a 100% gold backed dollar. Those who disagree need answer this question: How can the purchasing power of dollars backed by something not be more stable than dollars backed by nothing and conjured into existence at will by the Fed?

In spite of Hilton's good intent, a 100% gold-backed dollar is a proposal that must happen at the federal level. I am quite sure Ron Paul will introduce a valid proposal in due time.

In the meantime, as convoluted as Hilton's bill is, it's important to remember the crackpot idea here is not a gold backed dollar, but rather crackpots who would rather have a dollar backed by nothing than gold.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Hedge Funds Raise Crude Bets to Four-Year High; CFTC's Position Limit Plan Gains Steam; Everyone is Happy; Impact on Silver and Crude

Hedge funds, pension plans, and small speculators have all been plowing into commodities with abandon. The result is easy to spot, particularly in the energy markets.

Bloomberg reports Hedge Funds Raise Crude Bets to Four-Year High

Hedge funds raised bullish bets on crude oil to the highest level in more than four years on speculation that futures will climb as the U.S. recovers from the deepest recession since the 1930s.

The funds and other large speculators increased net-long positions, or wagers on rising prices, by 4.6 percent in the seven days ended Dec. 28, according to the Commodity Futures Trading Commission’s weekly Commitments of Traders report. It was the biggest total in records going back to June 2006.

Oil prices will average $93 a barrel this year and are “very likely” to climb above $100, Jason Schenker, president of Prestige Economics in Austin, Texas, said yesterday in an interview with Deirdre Bolton on Bloomberg Television’s “InsideTrack.”

Futures advanced as high as $92.58 yesterday after the Institute for Supply Management’s U.S. factory index climbed to 57 in December, the fastest pace in seven months. Fuel demand increased to the highest since May 2008 in the week ended Dec. 24, Energy Department figures showed last week.

“Crude oil prices are up, and people expect them to keep going up,” said Tim Evans, an energy analyst at Citi Futures Perspective in New York. “It speaks to the frame of mind that people are in more than it speaks to the underlying reality. We have no physical tightness here.”

CFTC's position limit plan gains needed support

Please consider CFTC's position limit plan gains needed support

A top official at the U.S. futures regulator said on Tuesday he was now in favor of a stalled position limit plan, a key turnaround that would allow the controversial rules to advance to the public comment stage.

The Commodity Futures Trading Commission introduced on December 16 its long-awaited plan to curb speculation in the metals, agriculture and energy markets but at the meeting, Chairman Gary Gensler abruptly postponed a vote on the proposal.

Commissioner Bart Chilton, the most vocal proponent of cracking down on speculators, was key to the postponement as he told Reuters he would have voted against the plan. It would have included a two-step approach to allow more time for the agency to gather information on the opaque swaps market.

“While I will now support publishing a position limit proposal for public comment, I will continue to make the case that we need to address excessive speculation in these markets immediately,” Chilton said in a statement on Tuesday.

A coalition of businesses dependent on buying commodities which has pushed for the limits said it supports Chilton’s plan as an interim measure.

“In light of the existence of large speculative positions in today’s energy and agricultural markets, it is imperative that the Commission to do something now, and without delay, in order to address these large positions and send a message of confidence and certainty to market participants,” said Jim Collura, spokesman for the Commodity Market Oversight Coalition.

U.S. Commodity Regulator to Review Speculation Limits

Let's flash back to December 16 and a recap of U.S. Commodity Regulator to Review Speculation Limits

The top U.S. commodities regulator will consider today steps to curb speculation in raw materials including oil, gold and wheat as part of the most sweeping rewrite of Wall Street rules since the 1930s.

Four of five members of the Commodity Futures Trading Commission said they will vote in favor of publishing a two-part proposal to restrict the number of contracts one firm can hold. The plan, if approved after a 60-day public comment period, would limit traders to 25 percent of deliverable supply in the contract nearest to expiration, followed by an all-month ceiling of 10 percent of open interest up to the first 25,000 contracts and 2.5 percent thereafter.

“At the core of our obligation is to protect market integrity,” Gensler said at the hearing today. The rule will shield the markets from excessive speculation by ensuring positions aren’t too concentrated, he said.

Gensler, along with Commissioners Bart Chilton, Scott O’Malia and Michael Dunn said they will vote today in favor of publishing the rule for comment. Dunn and O’Malia said they may not ultimately support imposing position limits. Commissioner Jill Sommers said she would vote against the rule.

“It’s bad policy to promulgate regulations that are not enforceable,” Sommers said, adding that the commission lacks the data needed to enforce effective caps.

“Without specific swaps data, we have no ability to claim we are applying enforceable limits without understanding the full size of the market,” O’Malia said in a statement.

The plan exempts so-called bona fide hedgers who use contracts to offset commercial risk. Swaps dealers, who sell derivatives, are free from limits as long as the transaction is made on behalf of an end-user, while facing caps for trades made to mitigate bets dealt to speculators.

The proposal covers 28 commodities, including crude, natural gas, gasoline, heating oil, gold, silver, copper, platinum, palladium, corn, oats, rice, soybeans, soybean meal, soybean oil, wheat, feeder cattle, live cattle, lean hogs, milk, cocoa, coffee, orange juice, sugar and cotton.

The commission estimated that the spot-month rules would affect 70 traders in agricultural contracts, six in base metals, eight in precious metals and 40 in energy. The combined caps may affect 80 agriculture traders, 25 in base metals, 20 in precious metals and 10 in energy.

Nearly Everyone Is Happy (For Now)

"Super Silver Bulls" want limits thinking it will force prices up and crush JPMorgan. Meanwhile, buyers of energy and agricultural goods think limits will reduce prices. For a while, this means bulls, bears, and buyers all all happy.

The only ones not happy with limits are a the few commissioners who think limits will not work. I side with those who think limits will not work. I have both short and long-term reasons.

Short-term, position limits will likely reduce liquidity and further distort the markets.

The most likely long-term impact is that trading will move to less regulated foreign exchanges. If so, US commodity exchanges will lose their global importance.

Long-term, commodity prices are going to go where they are going to go anyway. Attempts to curb speculation brought on by loose policies of the Fed cannot work in the long run.

The Impact on JPMorgan

Short-term prices might depend on exactly what the limits are, who is affected, and how the CFTC implements the rules changes.

Here is one key paragraph: "The plan exempts so-called bona fide hedgers who use contracts to offset commercial risk. Swaps dealers, who sell derivatives, are free from limits as long as the transaction is made on behalf of an end-user, while facing caps for trades made to mitigate bets dealt to speculators."

I fail to see how that will necessarily curb JPMorgan's massive short position. (I am assuming JPMorgan is hedged). However, let's assume JPMorgan is not hedged.

How will the CFTC phase in the rules? If they do so by limiting the buying of silver futures until position limits are reached (the method used to end the Hunt cornering attempt) , then silver will likely get hammered short-term.

Thus, I do not agree with zero-hedge who writes "And if indeed this news was the catalyst for today's precious metal and other commodities sell off, it is woefully misinterpreted, as the only major institutional parties impacted will be those who hold outsized short positions in the precious metals space."

It's not that Zero-Hedge is necessarily wrong; it's just that he is not necessarily right.

However, if I had to bet one way or another, I would bet that whatever method the CFTC comes up with will not adversely impact JPMorgan in any significant way.

Thus, if anyone is impacted in the short-term, I suspect it will be silver longs, even though long-term the price of silver will get to wherever it is headed.

My friend "HB" agrees. He just pinged me with this comment. "The GATA crowd should be livid when it realizes that position limits may - gasp - depress the silver price."

Crude COTs

click on any chart below for sharper image



Crude Weekly Chart



Commodity charts and open interest are not always as correlated as show above.

By the way, much of that crude open interest is hedging various crack spreads (crude vs. gasoline, heating oil, diesel, etc).

Crack spread is a term used in the oil industry and futures trading for the differential between the price of crude oil and petroleum products extracted from it - that is, the profit margin that an oil refinery can expect to make by "cracking" crude oil (breaking its long-chain hydrocarbons into useful shorter-chain petroleum products).

In the futures markets, the "crack spread" is a specific spread trade involving simultaneously buying and selling contracts in crude oil and one or more derivative products, typically gasoline and heating oil. Oil refineries may trade a crack spread to hedge the price risk of their operations, while speculators attempt to profit from a change in the oil/gasoline price differential.

Is the CFTC ready to sort this all out?

Silver COTs

It is hard to predict anything at all regarding the price of silver from the following COT chart.



Silver Weekly Chart



Finally, it is worth pointing out that commodities in general simply might be ready for a strong pullback. Sentiment is extreme. It it happens, attributing precious metal declines to a smackdown by gold and silver shorts is beyond silly.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List