Actual finance blog

The $700 billion bailout plan signed into law Friday may get banks to start lending to each other again. But it remains to be seen how long that will take to jumpstart an ailing economy.

The goal is to unfreeze the credit markets. Financial institutions have become paralyzed with fear and though they have plenty of cash on hand, they’ve been hoarding it. Without this intra-bank lending, businesses are having trouble getting the financing they need even for daily operations, much less loans for longer-term projects.

"Hopefully, this will lend a calming effect to the markets," said Joe Belew, president of the Consumer Bankers Association. "We need to take a deep breath, relax and start doing business again."

Don’t expect lending to ramp up overnight, however. It may take weeks for confidence to return, experts said. Or even longer.

The centerpiece of the bill allows the government to eventually buy up to $700 billion in assets tied to shaky mortgages. Getting the bad paper off banks’ balance sheets hopefully will give institutions more confidence to start lending again. (Bailout 101: What the new law says)

Treasury Secretary Henry Paulson has up to 45 days to devise a plan to purchase the assets.

But one big question is what the Treasury Department will pay for those assets. Too low a price - which is good for taxpayers - and banks may find they still need to take steps to shore up their balance sheets. Some may have to raise additional capital, which has been scarce in this tumultuous market. Investors may remain on the sidelines for a while until things shake out, experts said.

The plan’s passage did little to allay fears in the stock market, which sold off once the House approved the bill. Investors, who remain skittish that the bailout plan will achieve its goals, sent the Dow Jones industrial average down 1.5%.

"Thaws take time," said Diane Casey-Landry, chief operating office of the American Bankers Association, noting that the bailout plan won’t instantly eliminate all concerns. "We’ll be in the Ronald Reagan mode of ‘Trust but verify’."

Even President Bush told Americans to have patience. "Americans should also expect that it will take some time for this legislation to have its full impact on the economy," he said. "With a smoother flow of credit, more businesses will be able to stock their shelves and meet their payrolls (fast cash). More families will be able to get loans for cars and homes and college education. More state and local governments will be able to fund basic services."

Many economists, however, say the president and other supporters of the bailout were painting too rosy a picture.

Until the tidal wave of foreclosures ends and home values stop their stomach-churning drops, banks will remain reluctant to lend and the economy won’t improve, experts said.

"This bill doesn’t contain any element of stability for the housing market or the real economy," said Christian Menegatti, lead analyst for economic research firm RGE Monitor. "The problems are going to come back and the lack of confidence will come back."

In fact, nearly one in three financial services executives said they expect credit standards to continue to tighten even if the bailout plan is approved, according to a Deloitte poll taken Thursday. So it will still be tough to get a mortgage or small business loan.

"We’re back to more normal underwriting standards," Casey-Landry said. "People will need to have good credit to get a loan."

As long as the constant drumbeat of bad economic reports continues, consumers and businesses may not be so eager to borrow money anyway even if banks start extending more credit. Friday’s dismal jobs report, showing that 159,000 people lost their livelihoods, did little to inspire people to spend.

"You tell me I can have the credit, but I don’t want it," said Amiyatosh Purnanandam, assistant professor of finance at the University of Michigan. "If people are not going to buy cars whether they can get credit or not, it’s not going to help the economy."

This becomes a vicious cycle. If consumers don’t spend, the economy fails to improve. The jitters may return to the financial markets, prompting another government intervention.

That’s why many fear the $700 billion rescue may not be the last step.

"This is a tremendously expensive stopgap measure," said Adam Levitin, associate professor of law at Georgetown University. 

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NEW YORK — Now that the government has decided it will spend $700 billion to get the economy started again, don’t expect immediate results.

It’s a little bit like those ads for protein drinks that show skinny milquetoasts turning into Schwarzeneggers in 60 days — you want it to be true, but you know in your heart it will take months or years of sweating in the gym to pack on that kind of muscle.

The latest readings on the U.S. economy show just how far we have to go. House prices and auto sales are plummeting, manufacturing activity has tumbled and the consumer is feeling increasingly strapped.

The economy seems nearly dead, and things could get worse before they improve — even with Washington’s help.

Much attention has been paid recently to the wrangling over the taxpayer-funded emergency rescue package. As it should. That’s enough money to give every man, woman and child in the United States about $2,325 each.

Lawmakers say the bill is the best hope to save the financial system and revive the economy. It would allow the government to buy bad mortgages and other devalued assets held by troubled financial institutions, thereby inducing them to lend again to businesses and consumers instead of hoarding their cash.

The package, which was signed by President George W. Bush on Friday, also would include tax breaks for companies and the middle class.

History tells us not to expect miracles overnight. After the last big U.S. bailout — the formation of the Resolution Trust Corp. in 1989 to stop the U.S. savings and loan crisis — it took a year for the stock market to hit bottom, two years for the economy and three years for the housing market, according to Merrill Lynch.

And when Japan put a bailout plan in place in the late 1990s, its stock market took another five years to recuperate. By some measures, its economy still hasn’t had a sustainable recovery, according to Merrill’s chief North American economist, David Rosenberg.

Standard & Poor’s global investment policy committee, in notes from its weekly meeting, said that even with a rescue plan, "cascading concerns remain."

"Will it be enough to accomplish the required task of unfreezing credit markets? If so, are we just back to recession 101?" asked the group of the firm’s senior investment advisers.

The bailout doesn’t even attack one of the biggest problems for our economy: the housing sector. Government officials from Treasury Secretary Henry Paulson on down have said the economy won’t recover until housing does.

Falling house prices were behind a wave of foreclosures that pushed many banks to take multibillion-dollar writedowns and some banks to fold or be rescued by the government or rivals. The contagion from that caused a crisis of confidence in the banking system that has led lending to freeze between banks, and to businesses and people (quick payday loan).

House prices tumbled in July by the sharpest annual rate ever, a 16.3 percent year-over-year decline, according to the latest reading from the closely watched Standard & Poor’s/Case-Shiller 20-city housing index. That was the biggest pullback since the index’s inception in 2000, and represents a 20 percent decline in prices since the peak in July 2006.

As weak as this report was, it also didn’t reflect the most recent turmoil in the financial markets at the end of the summer. Since then, credit conditions have tightened significantly.

That showed up in the awful September auto sales. Ford Motor Co., Toyota Motor Corp. and Chrysler LLC all posted steep drops of more than 30 percent.

Americans are turning increasingly cautious about spending and are buckling under the burden of excessive debt. Citigroup Inc. now anticipates surprisingly large credit losses of up to $10 billion — a 30 percent rise from the second quarter — due in part to its credit card holders not paying their bills.

The jobs outlook is dimming by the day. New applications for unemployment benefits are at a seven-year high. Employers slashed payrolls by a bigger-than-expected 159,000 in September, and the unemployment rate held steady at 6.1 percent, according to a Labor Department report on Friday.

Manufacturing activity has fallen off a cliff. After looking resilient for months, the September survey by the Institute for Supply Management showed manufacturing was at the lowest since after the Sept. 11, 2001 terrorist attacks. It was the biggest one-month decline since January 1985.

"Such a big drop would be remarkable under any circumstances, but the element of surprise in this report was especially big because there was no warning of it," said Ian Shepherdson, chief U.S. economist at High Frequency Economics.

All this gloomy data is convincing economists that a recession is upon us, with the gross domestic product possibly contracting in the third quarter for the first time in this economic downturn.

They say the Federal Reserve might have to lower its overnight bank lending rate, which has already gone from 5.25 percent to 2 percent in the last year. Fed Chairman Ben Bernanke and his colleagues may even have to make that move before the central bank holds its next regularly scheduled meeting on Oct. 28-29.

Even if they did cut the key rate, many economists believe it won’t have a lasting effect unless lending begins to thaw.

Until then the wait continues, and the economy will suffer more.

RACHEL BECK IS THE NATIONAL BUSINESS COLUMNIST FOR THE ASSOCIATED PRESS.

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WASHINGTON–New applications for unemployment benefits rose slightly last week to a seven-year high due to a weakening economy and the impact of Hurricanes Ike and Gustav, the Labor Department said Thursday.

The department reported that initial claims for jobless benefits increased by 1,000 to a seasonally adjusted 497,000. That's significantly above analysts' estimate of 475,000. The total is the highest since just after the Sept. 11 terrorist attacks seven years ago.

U.S. stock futures declined on the report. Dow Jones industrial average futures dropped 102 to the 10,785 level, pointing to a lower opening for shares.

The hurricanes, which hit Texas and Louisiana earlier this month, added about 45,000 claims from the two states for the week ending Sept. 27, the department said.

The hurricanes have led to higher claims for several weeks. As a result, the four-week average of claims, which smooths out fluctuations, jumped to 474,000, up 11,500 from the previous week.

In the week ending Sept. 20, Texas reported a 22,235 jump in claims, while Louisiana said claims rose by 9,671.

The number of people continuing to receive benefits increased to 3.59 million, up 48,000 and higher than analysts' estimates. That's the highest total in five years.

Jobless claims are at elevated levels even excluding the hurricanes. Weekly claims have now topped 400,000 for 11 straight weeks, a level economists consider a sign of recession payday loans in 1 hour. A year ago, claims stood at 324,000.

The economy is struggling with the financial crisis and slowing consumer spending, leading to increased layoffs by the nation's employers.

Economists expect a separate Labor Department report Friday on payrolls to reflect further weakness in the labor market. They predict the report will show that the nation's employers cut 100,000 jobs last month. That's on top of 605,000 jobs that were eliminated in the first eight months of this year.

The report is expected to show that the jobless rate remains at 6.1 percent. The rate jumped above 6 percent for the first time in five years in August.

The financial crisis will likely cause greater job cuts in the coming months. Several large, troubled banks have been bought by competitors and layoffs are likely.

Citigroup Inc. on Monday purchased Wachovia Corp., which had about 120,000 employees. JPMorgan Chase & Co. last week bought Seattle-based Washington Mutual, which employed roughly 43,000.

Several companies have announced layoffs in the past week, including aluminum company Alcoa Inc., auto retailer CarMax, Inc. and chicken producer Pilgrim's Pride Corp.

Source

Amidst all the chaos surrounding the $700 billion Wall Street bailout plan, the federal government’s other housing rescue program quietly opened for business Wednesday.

But will any mortgage servicers come knocking?

The Federal Housing Administration unveiled its $300 billion Hope for Homeowners program, which allows struggling borrowers to refinance into more affordable mortgages backed by the federal government. The legislation, which was signed into law in late July, was hotly debated for months on Capitol Hill with Democrats supporting it and Republicans opposed.

Before the so-called Wall Street bailout emerged, this FHA program was the federal government’s answer to the mortgage crisis. It was seen as a primary means to stemming the foreclosure tide and stabilizing the housing market.

Even now, foreclosure prevention measures in the current bailout legislation call for the Treasury Secretary to modify more loans through the FHA program.

"For homeowners in trouble, this may be the help they need," said Steve Preston, secretary of the federal Department of Housing and Urban Development, which oversees FHA. "It is yet one more way that families may be helped to weather the current turbulence in the housing market."

Banks, however, didn’t receive the program’s details from the FHA until Wednesday, and say it will likely be weeks before they can offer it to their customers.

Even then, lenders probably won’t rush to participate in the program, which is voluntary, since it requires them to take a pretty significant losses on the loan principal in most cases. Instead, banks have said that they’d prefer to use their own mortgage modification programs where they can better control the terms.

"We will continue to plow ahead with our own efforts to keep homeowners in their homes," said David Bradley, spokesman with Bank of America, which completed 15,750 loan modifications in August. "We’ve already been pretty aggressive in that regard."

Eligible borrowers must:

have taken out their mortgages on or before Jan. 1, 2008 and have made at least six payments.

be unable to afford their current loan, but did not intentionally miss payments.

have a debt-to-income ratio of at least 31%.

live in the house and not own other homes.

have provided accurate information on their loan documents and not been convicted of fraud in the past decade.

Under the program, borrowers will get:

a 30-year, fixed rate mortgage of up to $550,440 (no fax payday loans).

a new appraisal and loan for no more than 90% of the home’s value.

released from second mortgages and prepayment penalties.

But homeowners must pay a premium of 3% of the loan’s value upfront, and 1.5% of the outstanding mortgage amount annually 1500 payday loans. Also, they must share any appreciation in the home’s value with the FHA when they sell.

The law allows the FHA to insure up to $300 billion in new loans.

"This program can contribute meaningfully to stability in the housing market, while at the same time providing the appropriate safeguards and limitations to protect the interest of taxpayers," said Elizabeth Duke, Federal Reserve governor.

But HUD officials Wednesday backed away from the Congressional Budget Office’s original estimate that the bill will help 400,000 troubled borrowers.

"It’s very very difficult to really put a finger on it," Preston said.

It’s tough to forecast the program’s success in part because banks have had a very lukewarm reaction to it. Four large servicers told lawmakers two weeks ago that they would use the program only as a last resort.

The problem is that the Hope for Homeowners program requires banks to reduce the loan’s principal to 90% of a home’s current appraised value, which is likely to be much less than the owner paid for it. Lenders prefer to freeze or cut interest rates so they can at least recover the original amount of the loan, said Tom Kelly, spokesman for JPMorgan Chase, which has worked with 110,000 customers to modify or rework their loans between January 2007 and July 2008.

"You lock in your loss," Kelly said, by reducing loan principal.

Banks might turn to Hope for Homeownership if they feel the loan is hopeless and just want to get rid of it, he continued.

Lenders also won’t be pleased with the new home appraisals, which will show them just how underwater their borrowers are, said James Gaines, research economist at the Real Estate center at Texas A&M University.

He doesn’t see a lot of lenders flocking to the program.

"It will help some people, but it won’t be the universal panacea that people would like it to be," he said. 

Source

Miner Xstrata Plc dropped plans for a $10 billion takeover bid for No. 3 platinum producer Lonmin Plc on Wednesday due to financing difficulties linked to the global credit crunch, sending Lonmin’s share price plummeting.

“The current lack of clarity and certainty regarding the future availability of credit introduces significant risks into the financing package available to Xstrata,” Chief Executive Mick Davis said in a statement.

Lonmin’s shares, which had already shed a third since Xstrata made its 33-pound-per-share proposed offer on August 6, tumbled as much as 30 percent and was trading 18.7 percent weaker at 18.00 pounds by 0733 GMT.

Xstrata shares, which had shed 46 percent since it made the approach, surged 10.7 percent to 19.00 pounds, compared to a 4.9 percent increase in the UK mining index.

“This is certainly the outcome that the majority of (Xstrata) shareholders will have wanted in the short term cashadvance. Xstrata had become a natural target for short sellers in the market,” Cazenove said in a note.

Xstrata said loan terms required it to refinance a substantial portion of the debt within 12 months.

“Finalizing the bank debt necessary to implement the offer on those terms would not be in the best interest of Xstrata. As a result, Xstrata has no current intention to make an offer for Lonmin.”

Banking sources told Reuters last month that Xstrata had approached 22 banks to make commitments for a $15 billion loan to both fund the Lonmin takeover and refinance existing debt. 

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