Bear in mind that Stanford University recently built a business school campus for $345 million. And this Bill purports to spend $350 million for neighborhood revitalization with expensive green technology?

This Bill is a makeover of the HOPE VI program that was less than a success (although it worked about as well as other government initiatives). As of June 1, 2010 there have been 254 HOPE VI Revitalization grants awarded to 132 housing authorities since 1993 – totaling more than $­­­­6.1 billion.

And yet Detroit, Cleveland and many other inner cities continue to suffer.

What are the changes to HOPE VI that give us hope that this will help? “These changes are supported by housing advocates, private developers, HUD, and numerous community groups listed below.” Oh, the same cast of characters that pushed for easing of underwriting and low down payments in the name of “affordability” that contributed to a massive housing bubble which exploded causing serious damage to American households to the tune of $7.28 trillion.

And now they want an additional $350 million (just enough to build Stanford University another business school campus) spread across the U.S. in the hopes of a better future for the poor.

What are the changes to HOPE VI that give them hope?

• Expands eligible properties to privately owned and managed but severely distressed HUD-assisted housing, that serves as affordable housing for an extended period of time;
• Expands eligible applicants to include local governments, nonprofits, and for-profit developers to apply jointly with a public entity such as a Public Housing Authority;
• Ensures coordination and efficient use of resources by requiring transformation plans to address not only housing, but jobs, supportive services, economic development, education, recreation, and transportation;
• Allows conversion of vacant or foreclosed properties to affordable housing as an eligible project, which addresses the foreclosed and vacant homes plaguing many communities;
• HUD had $265M for this work in 2010 and currently has $165M available in 2011. The bill would authorize the Choice Neighborhoods Initiative at $350M as a full replacement for HOPE VI.

After billions of dollars have been spent, Hope VI and this Bill should focus on a better way to help the poor.

The Better Way

One of my favorite movies is “The Candidate” starring Robert Redford. The slogan was “Bill McKay: The Better Way.”

Since Federal government housing policies have distorted and helped collapse the housing market, perhaps we need a Bill McKay to show us “The Better Way.”

The better way is employment that allows people to move from the targeted housing to better pay, jobs and private sector supplied housing. And for those who are too sick or otherwise unable to afford housing, HUD already has problems in place to provide assistance. What is the wisdom of another $350 million (on top of the billions that have already been spent)? People need jobs, not a repeat of failed government policies that help crush the financial system and American households.

All Obama’s Horses and All The Fed’s Men Couldn’t Put Housing Together Again

The Administration and Congress have set aside staggering amounts of money for housing and mortgage programs already. HAMP, HARP 2.0, the Attorney General Settlement of $25 billion, the proposed FHA Refi program from President Obama’s 2012 State of the Union Address, HUD’s 2012 Budget of $47,199,000,000, and the losses of Fannie Mae and Freddie Mac to taxpayers of $150 billion puts the amount thrown at housing by various government entities at over $230 billion in recent years.

Can’t HUD find $325 million in their $47.199 billion budget through effective budget management? Why do taxpayers have to fork over ANOTHER $350 million that HUD doesn’t deem important enough to find on its own in their budget?

Enough already! Let’s work on growing the economy and getting employment increasing … again. There is nothing more cruel than keeping families confined to housing projects by the denial of opportunity to have a job or increase their wages.

With mortgage rates at historic lows, it remains difficult to jump start the housing market.

All Obama’s horses and all The Fed’s men couldn’t put housing together again.

But if we compare the FNC 20 City Home Price Index, we can see the FHFA index (white) seems more “optimistic” than the FNC 20 City Index (orange). That is, they tell a different tale about how housing prices have declined.

If we compare the FHFA index to the Case-Shiller 20 Metro Home Price Index, we see that the Case-Shiller index peaked first and fell faster than the FHFA index.

Here is the FNC 20 versus Case-Shiller 20. Very similar, but Case-Shiller showed an earlier peak than either FNC 20 or FHFA.

Of course, the housing bubble wasn’t helped by soaring oil prices in 2007 and 2008 (particularly in the newer construction areas of Florida, Arizona, Nevada and California).

Oil per barrel has risen from $31.41 per barrel on 12/22/08 to $106.21 today (02/23/12). Let’s hope oil doesn’t help kill the housing market … again.

Here is a chart of Seasonally Adjusted Initial Jobless Claims. With the exception of last week, they have been steadily falling.

On a non seasonally adjusted basis, we actually saw fewer initial jobless claims.

Of course, initial jobless claims are for people who were in the civilian labor force already and filing for unemployment benefits. It ignores the staggering changes in the number of people that have dropped out of the civilian labor force.

Civilian Employment to Population Ratio

The civilian employment to population ratio rose during the Reagan years, peaked during the Clinton years, but has stalled coming out of the recent recession. The non-employment rate (or 1 minus the civilian employment to population ratio) is 41.5%.

Civilian Participation Rate

We see the same pattern in the civilian participation rate. It rose during the Reagan years, peaked during the Clinton years and dropped off a cliff during the Obama years. It now stands at a non participation rate of 36.3%.

Total unemployed, plus all marginally attached workers plus total employed part time for economic reasons (U6RATE)

Of those who were in the labor force, the unemployment rate is 15.1% if we include part time workers.

Narrowly Defined Unemployment

Once again, of those who haven’t dropped out of the labor force (which is huge), the “unemployment rate” is 8.3%. I call this the “survival rate” for those who are still in the civilian labor force.

So, our labor force is shrinking as a percentage of the population. Jobless claims among the survivors are shrinking. But the civilian employment to population hasn’t moved since mid 2009.

Or this is a signal that a bailout won’t prevent Greece from defaulting.

I choose the latter explanation.

As I was reading through this edict from the CFPB, I began humming the Three Dog Night hit, “Celebrate.” You know, “Celebrate, celebrate, dance to the music.” My revision is “Regulate, regulate, dance to THEIR music.”

Who is THEIR?

If you read the edict, it is clear that the CFPB (housed in The Fed) is an advocacy body for “affordable” housing, “fair” lending, and consumer “protection” groups. I highlight the terms “affordable,” “fair,” and “protection” for a reason. It is all about regulating lending and restraining free markets, not the highlighted terms.

From the attachment:

“… each examination will cover one or more of the following modules.

Module 1 Company Business Model
Module 2 Advertising and Marketing
Module 3 Loan Disclosures and Terms
Module 4 Underwriting, Appraisals, and Originator Compensation
Module 5 Closing
Module 6 Fair Lending
Module 7 Privacy”

This is a historic step in regulating previously unregulated parts of the financial system, heaping massive regulatory compliance costs and regulations upon them.

I have a simple solution that doesn’t require Mr. Cordry and the CFPB.

1. If you don’t understand the terms of the loan, don’t sign it.
2. Shop around. If you don’t like the fees of one lender, pick another.
3. If you don’t like the rate quote you receive, don’t sign it.
4. If you default on your mortgage, move out and rent a place.

There. I have saved taxpayers, borrowers and lenders millions of dollars by revising the CFPB edict. THIS is what the CFPB should be telling consumers to protect them.

There is another Three Dog Night song that fits the overbearing regulatory power of This Administration: “One.”

And check out Danny Hutton’s groovy striped pants!

Feb. 22 (Bloomberg) — Sales of previously owned U.S. houses rose in January to the highest level since May 2010. Existing home purchases climbed 4.3 percent to a 4.57 million annual rate, less than forecast, from a revised 4.38 million pace in December that was slower than previously estimated. The median forecast called for a rise to 4.66 million. Prices and inventory fell.

On a non seasonally adjusted basis, existing home sales fell in January (of course). It’s winter!

And median home prices for existing home sales continue to fall.

Existing home sales inventory is at its lowest level since 2009.

But as of the end of 2011, the number of months of inventory (including shadow inventory) has fallen to 17.09 months.

Distressed sales, comprised of foreclosures and short sales in which the lender agrees to a transaction for less than the balance of the mortgage, accounted for 35 percent of the total in January, up from 32 percent a month earlier. Investors accounted for 23 percent of purchases last month, while cash transactions were about 31 percent, about the same as a year ago.

And “Danger Will Robinson!” NAR is notorious for revisions to their numbers. The prior Existing Home Sales (December) were 4.61 million but were revised downwards to 4.38 million. So the revision magnified the January gain (although January’s Existing Home Sales were less than expected).

Mortgage Bankers Association (MBAA) Purchase and Refinancing Applications

The MBA seasonally adjusted Purchase Index decreased 2.9 percent from one week earlier. Purchase applications remain stuck in the penalty box highlighted in pink. This penalty box in spite of historic low mortgage rates.

Here is the relationship between MBA Purchase Applications and MBA 30 year contract mortgage rates. Hmm. Not too encouraging for The Fed’s stimulus prowess!

Cash and investor purchases are still around 1/3rd on the market, but how long can cash purchases sustain a housing recovery?

The MBA Refinance Index decreased 4.8 percent from the previous week. Despite historic low mortgage rates, a refi wave of past levels is having trouble forming. Bear in mind that the Administration’s HARP 2.0 won’t fully kick in until April and the Attorney Generals Settlement could take significantly longer to kick in.

Here is the MBA Refinancing Application Index and the MBA 30 year contract mortgage rate (top box). While there is a clear pattern, the latest wave is hardly a tsunami.

Bottom line: existing home sales are increasing, but unless the economy shows serious improvement and/or Fannie Mae and Freddie Mac ease off on credit requirements, the recovery will be muted.

Take one security, JPALT 2006-S1 1A11, which was built from Alt-A loans, or mortgages that required little documentation verifying a borrower’s income.

However, JPALT 2006-S1 1A11 is trading for 70 cents on the dollar, making the security a compelling buy. An investor can still make more than 5.4 percent even if defaults increase, according to Ahmed. And even a slight improvement in the default rate would send returns as high as 8.7 percent.

“Price is a wonderful thing,” said Chris Flanagan, an analyst with Bank of America Merrill Lynch. What was “toxic” at 100 cents on the dollar is compelling at 70 cents.

Here is the JPALT 2006-S1 1A11 security that the article refers to. The tranches or bonds are backed by ALT-A or limited documentation mortgages. Here are the details of the security.

Note that the 60 days delinquent (line 4) is declining (something we observed in the recent Mortgage Bankers Association delinquency report).

As delinquencies reduce, the price of this ALT-A security has risen (after declining previously). See the white line in the upper right-hand box.

And as house price declines taper off (and increase in some areas), we should see further price recovery.

So, yes, price is a wonderful thing. Once prices are allowed to float to market, we start seeing recovery.

It is hardly a done deal. Greece has to deliver massive fiscal cuts to their sovereign budget and investors take large haircuts (aka, a scalping). Ministers were discussing a Greek debt target of 121 percent of gross domestic product by 2020 and a private-sector haircut on Greek bonds of 53 percent. [Good luck paring back the debt in the following chart!]

Can Greece deliver on the cuts amidst the riots? Probably not. The reaction from investors was … meh.

From a yield perspective, the longer 10 year Greek sovereign yield remains about where it was in early December.

The Euro also has shown little movement as well.

It could be that while some are sighing relief, others just don’t believe that Greece will deliver. Like the old Neil Sedaka song “Breaking Up Is Hard To Do,” so are serious fiscal spending cuts. [Look at Sedaka's Vitalis/Brylcream hairdo - so early 60s]. “Spending cuts are hard to do?” As least politically.

I will check the Treasury reaction later today. Here is the current Treasury and Money Market snapshot.

As we know, Spain’s unemployment level is at a heartbreaking 22.8%. The only thing going for Spain is that they paid down their sovereign debt as a percentage of GDP prior to the European debt crisis.

Here is a chart of Spanish unemployment and sovereign debt to GDP. Notice that both unemployment (white line) and debt to GDP have doubled since the start of the European debt crisis.

Adding to the misery is the fact that a large percentage of their debt rolls in these next several years at the worst possible time for Spain.

While Spain still sports a relatively low debt to GDP by Eurozone standards (70% average), the trend is quite worrisome. Hopefully, Spain doesn’t join the Eurozone Hall of Shame (from overspending and funding it with debt) with Greece, Portugal and Italy.

The news out of Europe is that they are close to a Greek bailout. German Chancellor Angela Merkel (Germany’s Iron Lady according to their media) is supporting the Greek bailout under rather stern conditions.

The reaction this morning in bond markets is pretty big. Greek 2 year sovereign debt yields fell 1,055 basis points. But on a cautionary note, the 2 year yield is still at 163.64%.

If Greece gets a bailout and investors think that the Euro debt crisis is calming, we should see funds pull out of the US Treasury market, driving prices down and yields up.

Likewise, we could see a corresponding increase in the 30 year mortgage rate as well. Here is a chart of the Mortgage Bankers Association Average 30 year contract rate versus the 10 year Treasury CMT (Constant Maturity Treasury). As you can see, that spread has been pretty constant since August 2011 /(bottom panel).

The spread between the Fannie Mae 30 year current coupon rate and the MBA 30 year contract rate rose in August 2011 as well, but has been rising on average since August 2011.

The mortgage spreads are widening and rates may rise if Europe stabilizes. This will be counter-productive to the mortgage refinancing plans of the Administration and may jolt The Fed into further Agency MBS purchases to drive down mortgage rates.

So, The Fed will likely ease rates if the Euro zone worsens, but may also ease rates if the the Euro zone improves? That is correct. As the Allman Brothers sang in “One Way Out,” the one way out is further monetary easing or keeping all current programs (like Twist) in place.

It is clear that Congress will get around to doing something with Fannie Mae and Freddie Mac (but probably after the 2012 elections). The question is …. what?

There are droves of proposals from within Congress, the Administration and from each group with a vested or economic interest. With few exceptions, the vested interests are pushing for a government guarantee on home mortgages. Or “credit wraps,” code for a government guarantee. Again, Fannie Mae and Freddie Mac got into trouble because of their guarantee since it allowed politicians to encourage Fannie and Freddie to “roll the dice” on home loans (a quote from Rep. Barney Frank). But whoever has the government guarantee or credit wrap will be exposed to the same political pressure to lower credit standards and pump up the loan volume.

In short, it makes great headlines to get rid of Fannie Mae and Freddie Mac. My point is that we should be afraid of what replaces them if a government guarantee (or credit wrap) is involved.

This brings me to Senator Isakson’s “The Mortgage Finance Act of 2011.” Senator Isakson was a Realtor and the past President of the National Association of Realtors (NAR). Please read the proposal for the details. But in summary, his three steps are:

Step One – Eliminate Fannie Mae and Freddie Mac and Pay for the Bailout
Step Two: Create the new Mortgage Finance Agency for Single Family and Multifamily QRM Mortgage Securitization
Step Three: Transition the Mortgage Finance Agency to fully private function

Included in his three steps in a government guarantee for high quality mortgages (or Qualified Residential Mortgages).

Let’s stop right here. Fannie Mae and Freddie Mac, despite their denials of an explicit guarantee, had an implicit guarantee for high quality mortgages! [Both Brent Ambrose at Penn State University and I have written on their implicit guarantee]. So, the Isakson proposal is a renaming of Fannie Mae and Freddie Mac’s guarantee (Fannie Mac and Freddie Mae?).

Isakson does suggest the elimination of Fannie Mae and Freddie Mac and replacing them with a NEW Agency whose head is appointed by The President. [Well, that certainly is consistent with Senator Isakson's proposal with Senators Boxer and Menendez to refinance everyone with a Fannie Mae and Freddie Mac held or insured mortgage at current historically low mortgage rates. The MFA could directly inflict government policy on the MFA like political refis.]

So, the Isakson bill essentially creates a second HUD and FHA/GNMA. Why that is a good idea boggles my mind since HUD was about to crawl on its knees to Congress asking for $800 million for a bailout, but miraculously the Attorney Generals Mortgage Servicing Settlement delivered a gift of $1 billion to the FHA. But bear in mind that the FHA is still in trouble with its loan portfolio.

Why would Senator Isakson propose creating a second FHA/GNMA? Its that government guarantee again. Of course, the private sector will be boxed out of the mortgage market unless THEY get a government guarantee on mortgages not sold or guaranteed by the FHA or the new MFA.

This brings me to Step Three: The Transition of the MFA to a fully private function. With a government guarantee (or credit wrap, of course). I will believe the government giving up the Mortgage Finance Agency when Mars and the US sign a non-aggression pact.

There was a Roundtable on Securitization two weeks ago in Washington DC. Although invited, I declined to attend. Why? Because everyone that attended were pushing for government guarantees for mortgages. I would have been “The Lone Ranger” akin to the sober person who turns the lights on at 10pm at a drunken orgy.

Although some House Republicans resist the government guarantee, I concede that something like Isakson’s proposal will likely pass (if it includes non-MFA guarantees).

Government guarantees are downright dangerous and get abused at taxpayer expense. But our country seems to be confused as to the cost of guarantees (or social safety nets like Social Security, Medicare, Medicaid, Obamacare, etc.), so I am guessing that we will continue down the road of guaranteeing residential mortgages. So, if nothing substantive is being done to correct problems, why go through the painful exercise of shifting the government guarantee from one party to another and thinking that we are better off?

What if the market doesn’t want to fund non-government insured mortgages? The mortgage rate will rise to the point where investors feel the risk is properly rewarded. It says quite a bit if investors won’t fund our mortgage market without a big bribe (the guarantee).

And remember, if the government guarantees mortgages, the government will ration the credit.

It is the government guarantee that has to go. Otherwise, it is just Kabuki Theater.

Atlas isn’t shrugging any more, he is weeping.

On an amusing note, I spoke to a trade group on the future of housing and mortgage financing last week. One speaker said “It is clear that some form of government guarantee will be required. Don’t listen to those ideologues in Washington who are against government guarantees.” He turned 45 degrees in my direction when he said it. Even I had to laugh.

Well, maybe not a dream. The reality is that inflation is climbing at the fastest rate in 20 years. Here is the increase since 2000.

And Calculated Risk has the following chart which shows how inflation has gone from 1.2% to 2 1/2% in a little over a year. And the growth rate is the fastest since 1990.

Why? Banks have increased their lending. I have been warning of inflation if banks start lending in a serious way again.

The Taylor Rule given current CPI growth rates points to an increase in the Fed Funds Rate, although Chairman Bernanke has indicated that he would like to hold the Fed Funds Rate at current levels through 2014.

The key will be bank lending (and Fannie Mae / Freddie Mac / FHA insurance and purchases). If residential lending begins to pick up, we could see inflation and Bernanke will likely raise the Fed Funds Rate.

If unleashed into circulation (and no one checked the authenticity), the bearer could demand (in theory) $6 trillion IN GOLD!

Since the U.S. Gold Reserves are around $418.39 billion, we would be in a pretty pickle.

Would The Federal Reserve step in an purchase $6 trillion in US Treasury bonds? Not likely since the Fed’s Balance Sheet is already in the stratosphere at under $3 trillion.

Are they fake? Of course they are fake. But imagine the consequences to the the US and global financial system if they were real. Or somehow were mistaken for the real thing!

Look at the 3 metal boxes that contained the Treasury bonds. They are marked “Chicago” and “Federal Reserve System.”

I wonder if this was what Geraldo Rivera was looking for in Al Capone’s alleged concrete vault in a Chicago hotel?

At least the Italian officials didn’t almost breach the retaining wall holding out Lake Zurich!

It was a spirited discussion, moderated by Ken Harney. When the subject of principal reductions in the Attorney Generals settlement was broached, I argued that there are around 11 million borrowers that are underwater (negative equity) and only 250,000 borrowers would receive a principal reduction. I called that “The Publisher’s Clearinghouse” approach to economic policy: only a select few lucky borrowers get a principal reduction!

Surprisingly, I received a rousing round of applause (unexpected since Ron Phipps was getting applause after every comment). But I should not have been surprised. Principal reductions are primarily political have little or no impact on default and foreclosure. Fannie Mae and Freddie Mac (along with their regulator) are resisting principal write downs for good reason. By and large, they make little sense.

We have so many government-mandate mortgage refinancing programs already and there is pressure from the Administration to have Fannie Mae and Freddie Mac do principal reductions as well (in addition to the AG Settlement). I collectively call them HARPOON since if implemented, they will harpoon pension funds, banks and taxpayers. Without any positive economic impact, but billions in costs.

The same principal reduction question was posed in US News Debate Club. Each 400 word opinion of the 5 experts can be found at the link.

But here are the five experts and the votes from US News readers. I stand by my summary: “Obama’s housing plan is a political trick that carries little economic impact.”

Since the economy is slowly improving and jobs are what are needed to help reduce defaults and foreclosures, we should pull back on those loan modifications, particularly principal write downs. After all, the MBA foreclosure numbers came out today and they are falling.

On an interesting note related to the Attorney Generals Settlement, Florida is the leader in foreclosures although 70% of the AG Settlement money is going to California.

In short, we don’t need whale oil. So can we put away the Harpoons and let the housing market heal with the economy?

Thar she blows!

Feb. 16 (Bloomberg) — Builders broke ground on more homes than forecast in January, helped by warmer weather and adding to signs the U.S. residential real estate market is stabilizing.

Starts rose 1.5 percent to a 699,000 annual rate from December’s 689,000 pace that was stronger than previously reported, Commerce Department figures showed today in Washington. The median estimate in a Bloomberg News survey called for a rise to 675,000. Building permits, a proxy for future construction, also climbed.

But housing starts remain in the Penalty Box (see red box). Once housing starts break out of the penalty box (800,000 annual units), I will be more optimistic.

If we look at 1 unit housing starts, we see a similar penalty box.

Housing completions, as opposed to housing starts, are falling within the penalty box. Not a good sign.

Initial Jobless Claims

Feb. 16 (Bloomberg) — Claims for jobless benefits unexpectedly dropped last week to the lowest level in four years, showing the U.S. job market is on the mend.

Applications for unemployment insurance payments decreased 13,000 in the week ended Feb. 11 to 348,000, less than the lowest forecast of economists surveyed by Bloomberg News and the fewest since March 2008, Labor Department figures showed today. The median survey estimate projected an increase to 365,000.

On a non seasonally adjusted basis, the pattern shows a steady decline in initial jobless claims.

But the employment to population ratio is still stalled at 58.5, the lowest since the Carter recession of the early 1980s.

Foreclosures

The Mortgage Bankers Association (MBA) released their quarterly foreclosures numbers this morning. In a nutshell, home mortgage foreclosures are declining (except for FHA foreclosures).

The decline in foreclosures looks quite similar to the unemployment rate chart.

So, mortgage foreclosures are linked to unemployment (and partial employment) as we would expect. But levels are still quite high in both categories and must decline at a faster rate. If we want to lower mortgage delinquencies and foreclosures in a serious way, we must have sustainable decreases in unemployment.

Here is a table of the MBA delinquency and foreclosure report:

Here is a breakdown of the NAHB/Wells Fargo index.

As I mentioned in the MBA purchase application post this morning, we are at the most affordable point in terms of mortgage rates and house price declines in a decade. And with The Fed pouring on the coal in terms of monetary stimulus, there is reason for hope from builders.

Bear in mind that 50 is the break-even point where half are optimistic and half are pessimistic. So, the index is still below 50 (but approaching rapidly).

We shall see if the Mortgage Bankers purchase application index rises over the next month to see if NAHB’s increase in optimism is justified.

Great headline, but Industrial Production was actually flat. Manufacturing (e.g., Automobiles) was up 0.7% and business equipment was up 1.8%. These gains were offset by declines in mining and utilities for a net growth of 0%.

Capacity utilization actually declined slightly to 78.5% from 78.6%. We just can’t seem to get to the 80% capacity utilization level that we saw in 2005-2008.

This is a frustratingly slow economic recovery. And watch for rumors to swirl about further monetary easing by The Fed. The 80% and above capacity utilization figure is when The Fed has raised rates. We aren’t there yet!

The average contract interest rate for 30-year fixed-rate mortgages with conforming loan balances ($417,500 or less) increased to 4.08 percent from 4.05 percent while the average contract interest rate for 30-year fixed-rate mortgages with jumbo loan balances (greater than $417,500)increased to 4.30 percent from 4.29 percent.

Here are the summary Mortgage Statistics for last week:

Purchase Applications Still in the Penalty Box

On a seasonally adjusted basis, mortgage purchase applications fell 8.4% from the previous week. The housing market (at least for financed purchases) is still in the penalty box (see red rectangle).

Mortgage Refinancing Flat

Despite historically low mortgage rates, mortgage refinancing applications were barely changed. There is a mini refi wave in the works (orange box), but it is struggling to maintain its momentum.

The 30 year MBA mortgage contract rate is at historically low levels. Combined with relatively low home prices, this is the most affordable that housing has been in a decade.

Bear in mind that HARP 2.0, the President’s mortgage refi plan, will start taking hold in April. The recently announced Attorney Generals Settlement will take a while to take hold as well. Thus, it is likely that April is the soonest that we may see a substantial increase in mortgage refinancings.

Signs of Economic Growth – Empire State Manufacturing Survey

Feb. 15 (Bloomberg) — Manufacturing in the New York region expanded in February at the fastest pace since June 2010, a sign factories are propelling the expansion.

Except for new orders which fell.

Saying that households are being frugal is an understatement if we look at Retail Sales (less auto) on an NSA basis.

Ah, but if we do the good ‘ol seasonal adjustment, we find that Retail Sales (less autos) climbed.

On the good news side, the Small Business Optimism Index is at its second highest level since 2009.

Apparently, small businesses like the Seasonally Adjusted data better!

The FHA, the beleaguered housing finance agency under HUD, has been under stress after house prices fell dramatically and unemployment shot up in 2008 and 2009. FHA is particularly vulnerable given their market niche is low down payment loans to first time home buyers.

Here is a chart of the FHA’s Serious Delinquency Rate. Note that 2002-2008 had elevated delinquency rates compared to 1997-2001. And serious delinquency rates are falling are their peak in Q4 2009, but are still high.

Of course, any entity that specializes in low down payment mortgages to first time home buyers is going to have problems in the 2008-2010 period.

Here is the current situation at the FHA. As of December 31, 2011 FHA had more than 889,000 loans that were sixty or more days past due. The expected losses on these delinquent loans are forecast to be over $40 billion (or substantially more than FHA’s cash reserves of $33.7 billion.

At this point, the panic button should have been sounded and the acting FHA Commissioner appearing in Congress asking for more gruel (or taxpayer bailouts).

But something was in the works to save the FHA’s hash. It was the Attorney General’s Settlement with Mortgage Servicers (the “Robosigning” Settlement). in fact, the budget plan sent to Congress on Monday projected that the FHA would require as much as $688 million from the U.S. Treasury Department. It would have been the first cash draw in the agency’s history. See HUD’s budget proposal hud 2013 budget.

Acting FHA Commissioner Carol Galante said that five of the nation’s largest banks last week agreed to inject about $1 billion into the agency’s capital reserve fund “to settle fraud and foreclosure claims.”

Well, THAT was convenient timing. Right as the FHA was reeling on the ropes like a punch-drunk prize fighter, the State Attorney Generals delivered a slow count allowing for the round to end with the FHA collapsing into its corner with a surprise surplus.

No wonder President Obama, HUD Secretary Donovan and Attorney General Eric Holder were so happy at the AG Settlement announcement! But the boxing match is not over yet. While FHA frantically raises fees for their insurance to grow their cushion, FHA losses continue to grow (although at slowing speeds).

*I don’t really see the connection between STATE Attorney Generals suing the largest mortgage servicers and the FEDERAL Attorney General and HUD Secretary getting $1 billion for a FEDERAL mortgage insurance program. The line between Federal and State government blurs even more.

Here is HUD Secretary Donovan taking a beating from Market Forces (in the invisible trunks) before the State Attorney General Settlement was announced.

Thanks to Nick Timiraos at the Wall Street Journal and Lorraine Woellert at Bloomberg News for breaking this story.

Zillow released a report today entitled “Home Value Declines Pick Up in Fourth Quarter, But Zillow Forecasts Smaller Declines in 2012.”

The Zillow Real Estate Market Reports, released today, show home values decreased 1.1 percent from the third to the fourth quarter of 2011 to $146,900. On an annual basis, this represents a 4.7 percent decline.

We know from FN and Case-Shiller that housing dropped in 2011. But the more interesting graphic is Zillow’s forecast for 2012. Despite generally positive economic numbers and historically low mortgage rates (which fell again today), Zillow is forecasting that home prices will fall 3.7% in 2012. The big winner will be Washington D.C. at +1.3% while Atlanta will be the biggest loser at -8.5%.

As I have said on numerous occasions, the solution to the housing problem is jobs, not wealth redistribution and Band-Aids. But with the Obama Administration trumpeting the recovery of employment, why aren’t house prices recovering faster?

Of course, the staggering backlog of foreclosures is a drag. But perhaps the employment situation isn’t improving as fast as President Obama and his Chief Economist Alan “Freddie” Krueger think it is.

Today’s initial jobless claims headlines read: “Seasonally adjusted initial jobless claims fell to 358,000 for the week ending Feb. 4, a decrease of 15,000 from the previous week’s revised level of 373,000, the Labor Department reported Thursday.”

Indeed, it was a positive report. However, here is a chart comparing initial jobless claims (blue line) and U6 unemployment (Total unemployed, plus all marginally attached workers plus total employed part time for economic reasons) (orange line).

Vat is das? There seems to be a separation between initial jobless claims and unemployment. That is, U6 unemployment shows far less progress on the employment front than initial jobless claims would indicate.

This chart gives us an additional view of why housing is slow to recover. There really ISN’T a jobs recovery the way President Obama thinks.

In a nutshell, up to 2 million homeowners could receive mortgage aid through the proposed deal. Under the plan, federal officials said Thursday, about $5 billion will go in cash payments to states and federal authorities, $17 billion will be earmarked for homeowner relief, roughly $3 billion will go for refinancing and a final $1 billion will go to the Federal Housing Administration. If nine other major servicers join the pact, a possibility that is now under discussion with the government, the total package could rise to $30 billion.

So, $25 billion settlement spread over 1 million borrowers averages $25,000 per borrower. That is a large settlement, particularly since the borrowers in questioned were not economically harmed. Actually, the median principal reduction is to be about $67,000, which translates into 450,000 mods.

$19.1bn of the $25bn settlement amount will be provided toward various forms of financial relief to borrowers (i.e., non-cash debt forgiveness):

* At least $10bn for principal reduction on loans that are either delinquent or at imminent risk of default and owe more on their mortgages than their homes are worth.
* At least $3bn for refinancing loans for borrowers who are current on their mortgages but who owe more on their mortgage than their homes are worth.
* Up to $7bn for other forms of relief, including forbearance of principal for unemployed borrowers, anti-blight programs, short sales, etc.

To be sure, default and foreclosure is a traumatic and horrible event for most borrowers and I have great sympathy for them. And there is frustration by borrowers at not receiving a loan modification (or the frustration of the process). However, the Attorney General settlement is aimed heavily at the process, the “robosigning” issue, rather than the root cause of the problem (decline in home prices and the increase in unemployment during a severe recession).

The robosigning issue, where loan servicers allegedly processed foreclosures without proper review (and sometimes without proper title) confuses two issues: default versus the foreclosure process. The first issue is that the borrower actually defaulted on their promissory note to the lender. Thus, the lender was harmed. The second issue is foreclosure, the process where the servicer attempts to reclaim the dwelling that serves as collateral for the loan. Given the unprecedented volume of defaults, some servicers attempted to speed the process through “robosigning.” Of course, robosigning is not a good way to proceed with foreclosures (particularly without clear and proper title to the collateral). So, the borrower had defaulted on their promissory note. All robosigning did was speed up the already painfully slow foreclosure process – it did not damage or harm the vast majority of borrowers. In fact, it was the bank or investor that was harmed by 1) the default on the promissory note and 2) the borrower failing to move out of the dwelling upon default.

The remedy for robosigning is to review the foreclosures and see if any borrowers were wrongfully evicted. To the best of my knowledge, that has already been done. So, why are 750,000 borrowers receiving checks for between $1,500 and $2,000 if they would have been evicted anyway? Stated differently, the borrower suffered no economic harm while the lender suffered economic harm. Hence, I don’t understand the point of the settlement.

The other issue is that the Attorney Generals feel that more borrowers should have received loan payment reductions and/or principal write downs. We already have private loan modification programs at the targeted banks and servicers along with Treasury’s HAMP and HARP programs. How many different government loan modification programs are we going to create (particularly since they don’t work very well). I am disturbed by the continuing intervention into the private market and contracts between the borrower and the lender by not only the Federal government, but by the State Attorney Generals as well. Chronic intervention is damaging for the housing and mortgage markets and slows the healing process.

Hopefully, the settlement will put an end to endless intrusion by State governments into private markets and we can move towards letting the markets heal. But the Obama Administration has created a new body to investigate the mortgage crisis, so I doubt that this is the end of the story. It may only be the first chapter of many, but I hope not.

In summary, I feel sorry for all those people who have lost their jobs, suffered from medical problems and gone through divorce: the three major causes of mortgage default. But none of those causes can be attributed to the servicing industry. Nor can robosigning, a sloppy practice, be blamed for borrower default. In other words the Attorney General settlement treats the symptoms rather than the cause of the problem (and actually confuses the relationship between default and foreclosure). Hence, this is poor public policy, even if the Attorney Generals and borrowers are angry at the servicers.

If loan servicing is a problem, fix it (and the settlement does have some servicing suggestions). Or address specific issues in courts. A one size fits all settlement is the wrong way to go. Furthermore, the $25 billion settlement against the largest banks will hurt the banks in terms of capital and one million borrowers receive a wealth redistribution from the banks.

One size fits all hats only fit the average sized head. And badly at that.

According the MIT/Moody’s Commercial Real Estate Index (all property types), the index resembles the Case-Shiller 20 Metro house price index, except that the CRE index peaked in early 2008, fell to a steady-state in 2009 and has remained there ever since. Just like the “red zone” I describe for the housing market.

But if we use the NCREIF Index for CRE, we find a rally in the index.

What about commercial real estate loans? Here is a map of securitized commercial real estate loans known as CMBS. Notice that the red and orange circles (highest rates of watch listed loans) are in many of the same areas of the housing bubble and crash. This indicates that the housing bubble was just not speculative pricing, but was a function of economic and population growth/transfer.

Also, similar to the residential side, the delinquency rate rose and is now diminishing.

Is this a sign that Greece can be saved? Or did the European Central Bank with Eurozone banks just purchase zads of Greek Sovereign debt? My guess is the latter.

Of course, the Greek sovereign yields are so high that a drop in the 2 year may not be significant.

Look at the spike in the one year sovereign rate versus 5 years ago.

The good news is that Italian sovereign yields have actually declined in general (thanks to ECB policies), even though Italy continues to slip further into recession, as does Spain and Greece.

The Purchase Application index remains stuck in “the red zone” of little or no growth. Purchase Applications started to fall in early 2008 and hit the current “red zone” in early 2010.

If we look at the FN Inc 20 metro Residential Home Price Index, it continues to slide, even though mortgage rates are at a low.

For Refinance Applications, they continue to rise as mortgage rates hit an all-time low (thanks to the Eurocrisis and continued Fed monetary easing).

Despite the historic low mortgage rates, this “refi wave” is slow to gather steam. There are a number of reasons for the relatively slow refi wave, including new Fannie Mae and Freddie Mac Guaranty Fees and the fact that refinancing is more difficult today than it had been previously.

How far can mortgage rates decline? In part, it depends on the European situation and The Fed’s reaction to it.

With all the Administration’s mortgage refinancing programs in place and HARP 2.0 kicking for most lenders in April, we should see refis accelerate even if mortgage rates rise a bit. I will be watching Agency MBS prices over the next few months to see the impact on investors like pension funds, banks and The Fed.

And China won’t be too thrilled either, since they hold a boatload of Agency MBS.

The Fed said non-revolving credit, which includes auto loans, personal loans and student loans, rose from $1.68 trillion in November to $1.69 trillion in December. Revolving credit, which includes lines of credit and credit cards, increased from $7.9 billion to $8 billion, the Fed said.

This is an interesting report from The Fed, particularly since personal consumption expenditures (70% of GDP) in December were flat (as in 0% growth). Between the GDP report and the jobs report, I am getting a splitting headache.

And housing loans through Q3 continue to fall.

So, cars and smaller ticket credit expands while mortgage credit continues to contract. But since housing is so pivotal to recovery, we have to keep watching that number.

WARNING (Will Robinson): These numbers are subject to lags.

His argument is the same old Keynesian one. NOW is the time to ramp up government spending and debt. Professor Krugman forgets the second part of Keynes – governments are supposed to cut spending and pay down government debt when the economy improves. This is something that has NEVER been done in the U.S. That is why I call Krugman and his brethren the 50% Keynesians. They never want to cut government spending or pay down the debt.

Some will claim that President Clinton paid down the Federal debt. That is a false and misleading statement.

In the following chart, you can see the reduction in Federal debt (blue line) during the late 1990s. However, that was a decline in ON BALANCE SHEET DEBT. If you look at the red line, OFF BALANCE SHEET DEBT (Agency and Government Sponsored Enterprise debt), you can see that it accelerated at the same time Federal debt was paid down. The total debt kept rising (green line). It was just an accounting trick, not a genuine pay down of debt.

Krugman’s argument rests with “But where’s the inflation?” if too much deficit spending and debt is a problem. Again, that is a misleading argument. True, The Fed’s measure of inflation is low (another Keynesian, Brad DeLong, claims inflation is too low). But that is because all those reserves crammed in the banks haven’t been unleashed … yet.

Beginning in late 2008, Excess Reserves of Depository Institutions exploded upwards (giving depository institution the funds to lend).

Banks have increased lending, but not to the point where it is causing inflation.

And M2 Money Velocity, a measure of Fed policy effectiveness, has crashed.

Will more government spending on high-speed rail, solar panels (like Solyndra) and electric car batteries help revive the economy? Paul Krugman thinks so. Remember, he jokingly said that an alien attack would prompt more government spending and revive the economy. I am beginning to think that he wasn’t kidding.

Paul Krugman’s Jobs Plan:

In the op-ed, Gross discusses the current liquidity trap where lenders are unwilling to extend credit based upon the increasing probabilities of default. But Gross also discusses zero-based money because interest rates have no where to move but up. Hence, why purchase Treasury debt (or Agency Mortgage-backed Securities) at low yields.

I agree with Gross’ points in general. But lenders have increased lending (though not to former levels) and interest rates still have room to decline (although that room is getting smaller and smaller).

Let’s start with the “banks aren’t lending” theme. While it is true that credit standards are tightened, banks are still lending. But lending is far below the trajectory that we saw prior to the recession (in fact, lending is at late-2007 levels). So, lending has not grown since late 2007.

How about the “no where to go but up” argument on interest rates? If we look at the U.S. Treasury yield curve against the Japanese government yield curve, we can see that the U.S. still has room before we hit Japanese sovereign rate levels.

Gross’ op-ed sounds like Richard Gere’s line in “An Officer and a Gentleman” where he tells the drill instructor “I got no where else to go!”

U.S. Treasuries do have some room to move on the downside and unlimited room to move on the upside (Gross’ point).

Implications for Mortgage Rates and Mortgage-backed Securities

Fannie Mae spreads to 10 year Treasuries have reached a low point for the last 10 years, so Fannie Mae yields are running out of room as well.

The various mortgage refi plans from The Administration plan to push mortgage yields to the zero-bound, beyond which they will only go up.

Just ask yourself the following question: how many investors will want to purchase Agency MBS (Fannie Mae, Freddie Mac or even Ginnie Mae) once they hit zero-barrier? There will always be some (since Agency MBS is a preferred investment for bank capital rules), but demand from international investors will plunge since they can find better opportunities elsewhere.

So when Congress gets around to thinking about what to do with Fannie Mae and Freddie Mac, they might want to consider either abandoning the “government guarantee” or at least restricting it. True, mortgage rates would increase. But as Bill Gross points out, we are at the zero-bound and that is an unpleasant place to reside.

Here is a picture of Fed Chairman Ben Bernanke telling PIMCO Founder Bill Gross that Treasuries and Mortgage Rates can still go down.

The first thing I noticed was that the U.S. population jumped by 1.684 million people in one month!

It appears that the Bureau of Labor Statistics has been underestimating the population for some time, so the rise may be the adjustment that the report talks about (2012 Population Control Effect).

Here is a chart of civilian population and “not in labor force.” Both measures rose in tandem. That is a lot of people not in the labor force!

But the thing that struck me as strange about the adjustment was that civilian population was adjusted down by the BLS to show only a 175,000 increase in civilian population (although The Fed is still listing the pre-massaged number), a 90% downward adjustment. But the number of unemployed declined -339,000 in the pre-massaged numbers to a massaged -381,000, an increase of 12%.

So let me get this straight. Civilian population gets massaged down 90% and unemployment improvement gets massaged up 12%?

Unemployment Rate Drops to 8.3%

Now on to the unemployment rate report. Bear in mind that the report splashed all over the news represented Seasonally Adjusted (massaged) numbers.

What about if we remove the seasonal adjustments?

First, unemployment actually INCREASED in January by 849.000. Yes, +849.000.

Of course, the Seasonally Adjusted (SA) tells a more upbeat story.

So, while the raw data (NSA) says that unemployment rose 849,000 in January, the Seasonally Adjusted (SA) data says that unemployment was DOWN -381,000. Wow, that is a swing of over 1.2 million jobs. Historically, January has been a terrible month for unemployment but this January was not as bad as the historical trend. But “better than expected” is not the same as a loss of 840,000 jobs. [The Dallas Fed has a good explanation on why economists and the Census Bureau used seasonal adjustments. Here is a chart of NSA (blue) and SA (red) together showing the typical January and July unemployment surges (post Holiday layoffs and students entering the workforce and not finding jobs, among other things).

Second, the employment level fell in January.

Third, the employment to population ratio fell pretty dramatically in January, very reminiscent of the Carter recession.

These are the raw numbers. You have to seasonally adjust them to get the cool headline numbers.

Civilian unemployment likewise declined to 8.3%. the lowest rate since February 2009.

And U6, unemployment plus partial employment decreased as well, but is still above 15%.

On the other hand, median duration of unemployment actually rose to 21.1 weeks.

The civilian non-institutional population rose by 1,685,000 (that should eventually help the housing market recover), while the number of employed rose 847,000. The number of people NOT in the labor force rose by 1,177,000. This indicates that the civilian employment to population ratio dropped dramatically in January.

Let me say that again. While nonfarm payroll jobs increased by 0.243 million, the number of people dropping out of the labor force was 1.18 million. That is over a 4-1 ratio. This is employment recovery?

In the BLS’ defense, after their population control effect, they find little change in the job drop out rate. In fact, according to BLS math, 75,000 jobs were gained, not lost.

Hence, the civilian employment to population ratio remained at 58.5% AGAIN. This is still a terrible number going back to the Carter recession of the early 1980s.

And the labor force participation rate continues to fall through January 2012.

The stock market has reacted positively (better than expected effect). The Treasury market is seeing a >10 basis point rise in rates.

I await the BLS revisions. It is survey data, after all.

Well, I agree with the first part of his statement. 30-year mortgage rates did fall to a historic low.

But the Treasury yield curve has fallen dramatically over the past 10 years leaving the 10 year Treasury benchmark rate at under 2%. That might have more to do with declining mortgage rates than Obama’s latest Super-Lotto refinancing plan.

Why do I say that Obama’s latest mortgage refinancing plan is not the cause? First, let me show you a chart of the spread between Freddie Mac 30 year mortgage rates and the Fannie Mae 30 year current coupon rate (the coupon or interest rate for new 30 yr Agency mortgage-backed securities). Note that the spread has spike in recent days indicating the either new fees have been added or risk of refinancing (caused by HARP 2.0) has increased. But then the spike vanished indicating that investor fears over more refi intervention from the Obama Administration are waning.

But if we look at FHA 30 year rates and the current coupons rate on GNMA 30 year mortgage-backed securities, there is no spike in the spread. And this was AFTER President’s Obama speech and release of “the details.”

I interpret this lack of movement in the spread to mean that investors don’t think that Obama’s plan will work. And I share their belief.

As I have said before (and Larry Walker Jr. has made the same point), the civilian employment to population ratio remains at 58.5% as of December 2011. This means that 41.5% of the population are NOT employed, the highest level since the Jimmy Carter recession of the early 1980s. And despite the improvement in initial jobless claims and the civilian unemployment rate, we are stuck at 58.5% since October 2009. [I update this chart every month and I keep rechecking the numbers since they DON'T BUDGE).

Charles Plosser from The Philadelphia Fed Reserve says that he sees the unemployment rate at 8% by the end of 2012. [I started to write: "Charles Plosser from The Philadelphia Fed Reserve says that he sees DEAD PEOPLE."] If the economy continues to grow (at slow speeds), you can extrapolate from this chart and see that 8% is attainable by the end of 2012.

I don’t know whether Dr. Plosser’s model took into account the American Airlines layoffs or the sacking of America’s coal industry workers, but there will be pain in 2012 on the employment front.

While I have enormous respect for Dr. Plosser, his 8% forecast is misleading. What we really want to know is whether the civilian employment to population ratio will rise to 60% by the end of 2012. Now, THAT would be progress on the unemployment front.

Given the number of people leaving the labor force, the civilian unemployment rate is an over-hyped measure of economic health and progress (but it makes from great theatrics). Since our population continues to grow, it would be nice if more people entered the labor force rather than left it.

Implications for Housing

If we graph the Case-Shiller 20 City Home Price Index against the civilian employment to population ration since January 2008, we see an interesting pattern.

This is one of my concerns when asked about when a housing recovery will happen. Excess inventories and tight mortgage credit aside, we need an increase in percentage of the population that is employed to stimulate the housing market in the long-run. Mortgage refinancing plans from The Central Government are missing the point. To paraphrase Bill Clinton (or “The Ragin’ Cajun”), “It’s the lack of employment growth, stupid.”

MBA Purchase Applications

Mortgage applications continue at a relatively low number which is not a good sign for a housing recovery.

MBA Refinancing Applications

Mortgage refinancing applications were down last week, but they generally have been high in recent months given the decline in mortgage rates.

MBA 30 Year Mortgage Rate Survey

Longer-term Perspective

I am switching to NSA Purchase applications to show that in the longer-term, purchase applications are low compared to previous years.

And Refinancing applications (NSA) are rising to 2919 levels, even before HARP 2.0 kicks in.

So, there is progress being made in the refi area but purchase applications remain low hampering a housing recovery.

Remember, the government controls over 90% of the mortgage market and has always had “The Medusa Touch” where everything it touches turns to stone.

If we look at the Case-Shiller 20 City Index (blue) and Bankrate’s 30 year mortgage average rate (orange), you can see the problem. Mortgage rates continue to fall, but housing prices continue to fall with it. Of course, foreclosed properties are still a drag on the housing market.

FN Inc has a 20 City index as well. It is worthwhile to compare the Case-Shiller 20 index with the FN 20 index. Note that FN is showing a later peak of the bubble than Case-Shiller and a steeper decline in house prices since the peak.

On a month-over-month (MoM) basis, Case-Shiller 20 City index fell -0.7%, more than expected (SA). But if we look at Non Seasonally-Adjusted (NSA) data, we can see a clear “Wintertime Blues” pattern.

On a Metro level, 18 of the 20 metro areas were down (particularly on the west coast and Florida). The only cities that were up were Washington DC (massive government spending does help DC) and … Detroit.

Cheer up! The Spring will be upon us and we typically see a rise in home prices!

Unfortunately for The Fed, households decided to save more in December 2011. This is a reversal of the steady downward trend in savings since mid 2010.

But is an increase in household saving sustainable? Stated differently, can households resist the enormous temptation of cheap debt by The Fed?

Should The Fed be trying to encourage households to take on more debt, particularly after our last experience with excessive household debt loads? I don’t think so. Let consumers make their choices without being unduly influenced by Central Government policies. Please. But Paul Krugman, Brad DeLong and countless economists see things differently.

10=year U.S. Treasury rates fell about 8 basis points today. The temptation for more household debt is palpable!

The Fannie Mae current coupon rate is declining quickly

while the 30-year mortgage rate (according to BankRate) to consumers isn’t falling as fast.

Because of increased risk in Europe as signaled by Chairman Bernanke (extending ZIRP to 2014), we are seeing higher risk premiums in mortgages and higher guarantee fees (GFees) at the GSEs. So the decline in Treasuries and Current Coupon rates are falling faster than mortgage rates, defanging the Fed’s attempt to re-stimulate the housing market.

But why is The Fed having difficulty creating inflation as Krugman, DeLong and Hamilton would like? Do we need MORE monetary intervention or is The Fed out of ammunition?

Here is inflation as measured by the Consumer Price Index (less food and energy) since 2008. According to THIS measure of inflation, we are sitting at 1.75% inflation. Krugman, DeLong and Hamilton would like to see inflation above that rate (as in 4-6%).

I would argue that the US economy is back to the 1960s (with the exception of Federal Debt, of course, much of which is purchased by The Federal Reserve Bank of New York). As of December 31, 2011, Total Public Debt Outstanding (held by the Public) is $10.5 trillion and total Federal debt is $15.2 trillion. Notice how Federal Debt Held By The Public has shot through the roof like a missile. And this will only get worse when the Health Care legislation goes into effect and Medicare goes broke.

As you can see, The Fed’s Balance Sheet has expanded greatly since 2008 with no signs of abating.

Excess reserves at depository institutions spiked in 2008-2011.

And The Fed has extended the maturity (and risk) of its Balance Sheet.

Between the Euro Debt Crisis and The Fed’s monetary easing, interest rates have been pushed to levels not seen since the early 1960s for The Fed Funds Rate.

And the 10 year Constant Maturity Treasury rate is back to 1950s levels.

But if we look at the effectiveness of Fed policy as measured by M2 Money Supply Velocity (the speed at which M2 currency is recirculated to consumers through the banking system), has sunk below the lowest level since 1960.

And civilian employment to population ratio are also back to 1960s levels.

Please notice that M2 Money Velocity and Civilian Employment to Population ratio are eerily similar.

So, it is like we have gone back in time to the 1960s. With all progress since 1960 undone and a limited ability by The Fed to jump start employment and the housing market, additional monetary stimulus would be dangerous and unproductive.

So, is more monetary stimulus required? Clearly Krugman, DeLong and Hamilton believe so. I think The Fed would be taking on more risk with a minimal payoff.

But to be fair, Frank Nothaft from Freddie Mac stated that mortgage rates are rising because the housing market is recovering (pending home sales increased). If true, that would be welcome news.

Pending home sales are the highest that they have been since … 2010. I am not yet convinced that this signals a housing recovery (otherwise, both 2009 and 2010 would have been the turning points, but were not).

Real personal consumption expenditures, 70% of GDP, printed at 2.0%.

And residential investment rose 10.9%.

Inventories rose by $56 billion in Q4, the largest build since Q3 2010. This contributed 1.94 ppts to growth (70% of the headline rate of growth) which is why real final sales, which exclude the impact of inventories, rose by just 0.8% in the quarter.

Here is a complete breakdown of GDP:

Call this the inventory stockpiling GDP and automobile rally.

Spain has been in this predicament before (1990s). But it was the rapid increase in unemployment in 2008 through 2011 that was so surprising.

Or not so surprising. Of course, Spain had a housing bubble as well like the U.S., although their bubble peaked in 2008.

And home sales in Spain have decreased dramatically as well since 2008.

Spain’s unemployment problems can be traced directly to the Spanish housing bubble and the construction boom and bust. Spain, like the “sand states” of the U.S. (Arizona, Nevada, California and Florida) was a rapid growth area in the Eurozone, but also a retirement and 2nd home destination.

But Spain’s Debt to GDP ratio is one of the lowest in the European Union, which is why there is not whole sale panic in bond markets about Spain’s sour economic predicament.

Speaking of Sour Economic Predicaments – How About Greece?

Like Spain, Greece has skyrocketing unemployment (although they did not have the housing construction boom/bust that Spain had).

On the other hand, Greece is the poster child in Europe for excessive spending and government debt and has a high debt to GDP at 142.7%.

And Greece’s 2 year sovereign yield is at 160.334%, far higher than that of Spain. But notice that the yield fell today on “optimism” that a deal may finally be struck on downsizing Greek debt by private-sector investors.

According to Bloomberg, European Union Economic and Monetary Affairs Commissioner Olli Rehn said authorities are “very close” to reaching an agreement on a private-sector involvement in Greece this month.

“The next three days will be very crucial for the future in three years. In other words, We’re just about to close a deal on private sector involvement between the Greek government and the private-sector community,” Rehn said at the World Economic Forum in Davos, Switzerland, today. “Preferably still in January rather than February. We need to have a sustainable solution for Greece. PSI won’t be applied to any other country of the euro zone.”

My guess is February or not all, but stranger things have happened.

Essentially, private-sector holders of Greek debt will be taking a haircut on their debt in the amount of 50% (we shall see the final number shortly) and a reduction in the interest rate. The rumors about the agreement (or lack thereof) include a grace period of debt payments and extending Greek debt out to 30 years. I can imagine private sector lenders blanching at each one of these terms. Then again, it would be that or a greatly reduced amount if Greece has a disorderly default.

One Way Out

Christine Lagarde, the IMF’s managing director, has it right. The only way out for Greece at this point is for investors to take huge haircuts on their loans to Greece. But German Chancellor Angela Merkel rejected Lagarde’s plea for Germany to accept haircuts on Greek debt leaving the private sector to bear the brunt of the losses. After all, I doubt if Germans are overly excited about the prospect of bailing out the Greeks and their life style.

The big question will be – will German banks accept the haircuts since they would likely require a bailout from German taxpayers? THAT is why the next 3 days to 3 months is so interesting.

And I doubt that this is a photo of Christine Lagarde blowing kisses at Angela Merkel.

On The Italian Front

Italy sold a total of EU 8 billion of 182 day (2 year) debt which was their target. Average yield was 1.969% versus 3.251% for the previous auction on Dec. 28. • Bid/Cover 1.35 versus 1.69 for previous auction.

So, the ECB’s policies are providing liquidity to Italy for their sovereign debt. Both Italian and Spanish 10 year sovereign yields are dropping.

But the ECB and IMF are simply stalling tactics to help the Eurozone get through the recession in the perimeter nations. We still have a ways to go.

To make his case, Krugman produced the following chart showing nonfinancial debt (public plus private) as a percentage of GDP. Notice that nonfinancial debt remained fairly constant as a percentage of GDP during the Clinton Administration while the Bush Administration had a bubble fueled by debt growth. In fact, he could have said the same thing about the Reagan Administration in terms of debt growth.

But if we look more closely at the data, Krugman’s criticism of the Bush Administration (as if Congress had nothing to do with it!), a different Tale can be told. Here is the same chart as Krugman’s, but focusing on Total Credit Market Debt Owed by Domestic Nonfinancial Sectors – Household Sector (HSTCMDODNS)

It looks similar to Krugman’s chart except that 1) household debt is increasing during the Clinton years as a percentage of GDP and 2) the Bush “debt star” actually began accelerating BEFORE Bush was sworn into office during January 2001 (see red line on this chart).

So, what was put in place PRIOR to President Bush that could lead to a massive expansion of household debt?

In 1995, President Clinton directed HUD Secretary Henry Cisneros to expand home ownership in the U.S. HUD issued (then removed from their website) the National Homeownership Strategy where the Federal government formed public/private partnerships with the private sector in an endeavor to expand homeownership through more and more household debt. (Please read the NHS Dream that turned into a nightmare).

So, while it took a while to gain strength, the rapid growth in household debt started BEFORE President Bush was sworn into office. In fact, homeownership rates began climbing in … 1995.

And who were the private sector partners of the Federal government? Among others, Fannie Mae and Freddie Mac, the mortgage giants in conservatorship.

And the NHS has the following “recommendations, among others:

“Applying home mortgage underwriting standards with as much flexibility as reasonably possible.”

“Engaging in media outreach and education.”

So, Clinton’s NHS strategy, while well-intended, was a full blown propaganda program by the Federal government to encourage homeownership AND DEBT. While lowering underwriting standards.

And this story in the New York Times from 1999 refutes Krugman’s point about Bush. “Fannie Mae Eases Credit To Aid Mortgage Lending.“

So, when Paul Krugman (a Nobel Prize Winner in Economics) draws a bright line between the Clinton dotcom bubble (equity) and the Bush debt/housing bubble, he fails to acknowledge that household debt growth began expanding BEFORE Bush was sworn into office. And doesn’t mention that Clinton put the household debt explosion into motion with the National Homeownership Strategy. And contributed to sinking Fannie Mae and Freddie Mac as well. The bright line should have been drawn in 1995, not 2001.

Stated differently, “Who Let The Dogs Out?” William Jefferson Clinton.

As I said on Fox Business, we remain in the “red zone” of slow growth.

And here are the median prices for new home sales:

So, the headline that new home sales dropped is not really anything for concern. In fact, it is has been in the “red zone” since 2010 and hasn’t changed much.

Initial Jobless Claims

The Bureau of Labor Statistics (BLS) released their noisy initial jobless claims this morning. Economists expected 370k, but it actually printed at 377k. This is down from 356k last week.

We continue to see progress in initial jobless claims. But don’t be depressed about IJC missing economist’s forecasts. This IJC at the same time each year (around 1/20) continues to decline as well (NSA), but not as fast.

So, gradual improvement in initial jobless claims and continued malaise in new home sales.

The two year Treasury sits at 0.24%, the 5 year Treasury at 0.89%, the 10 year at 2.05% and the 30 year at 3.15%.

On the European front, Greece and Portugal 10 year sovereign yields are up over 40 basis points while Italy is up 5 basis points. Italy is still down over the past five days but Greece and Portugal have erased declines in their yields.

So, America and Europe are maintaining their low interest rate policies except in countries where default risk remains a clear and present danger.

But for those that watch the mortgage market, the 10 year Treasury rate has been rising recently.

Will The Fed announce MORE stimulus for the mortgage market in terms of Agency MBS purchases? That is the trillion dollar question, but given the recent rise in the 10 year Treasury, I would say that it is a reasonable possibility.

UPDATE: Fed kept the Fed Funds rate at 0.25% and announced that principal payments from Agency MBS held by the Fed will be reinvested in more Agency MBS. And they are considering purchasing more Agency MBS to help stimulate the housing market. ZIRP has been extended through 2014.

And 10 year Treasury dropped 8 basis points after the announcement.

And gold jumped (you can see when the minutes were released).

And the dollar dropped:

Economists forecast -1% for December but the print was at -3.5%. This comes on the heels of +7.3 surge in November.

To put Pending Home Sales in perspective, they are about at where they were at this time last year, the year before, the year before, etc. This is a NSA chart, so you won’t see the big spike in PHS in November.

FHFA Purchase Only House Price Index

Now for some good news. FHFA reported this morning that Month Over Month house prices increased from October to November of 2011 SA.

While one month does not constitute a rally, it is clearly better than down 1%.

FNC House Price Index Fell 0.4%

On the other hand, the latest FNC Residential Price Index™ (RPI) indicates that U.S. home prices continued to decline despite recent signs of job recovery, rising home sales, and new residential construction. Down 0.4% from the previous month, November marks the fourth consecutive month-to-month declines in residential property value.

On an unadjusted basis, purchase applications fell 9.7% and refi applications fell 14.7%. Although down this week, the two week average remains positive.

MBA Purchase Applications NSA

MBA Refinancing Applications NSA

The average contract interest rate for 30-year fixed-rate mortgages with conforming loan balances ($417,500 or less) increased to 4.11 percent from 4.06 percent

Obama’s State of the Union Address

During last night’s State of the Union Address, President Obama stated that he wanted Congress to pass a new mortgage refinancing proposal that would help 2-3 million households lower their mortgage payments by $1,200 per year. This would amount to $3.6 billion.

How would this be done? It would require the use of the already existing FHA refi programs (since HARP 2.0 is aimed at Fannie Mae and Freddie Mac). However, since it is the FHA, President Obama needs the permission of Congress to enact a similar program to HARP 2.0.

Is this a good idea? While I have not seen the details yet, I would say no. The FHA is already on the ropes in terms of their capital cushion and $3.6 billion would be a significant loss and would likely cause the FHA to come to Congress asking for an increase in funding. And given the FHA’s weak condition, they would be asking for considerably more than $3.6 billion.

Frankly, I think that the Obama Administration knows that the House will be negative towards yet another bailout, this time the FHA. So, I would put this down to a campaign issue rather than a serious proposal.

Odd that President Obama said “No More Bailouts!” last night, then proceeded to propose bailouts for mortgage borrowers. I will call the new proposal HARPOON since it aims to harpoon taxpayers.

There we have it. The taxpayer as Moby Dick and President Obama as Captain Ahab in his obsessed pursuit to harpoon taxpayers.

I thought GreenPeace thought whaling was cruel!

My forecast is for small further house price declines with housing starts growing slowly as the year progresses. But no break out from the no/low box.

The Red Zone

New home sales have been stuck in the red zone (see red box!) since 2008/2009. My models indicate that 2012 new homes sales will be up slightly (+320k), but still stuck in the red zone.

And the corresponding residential construction seems stuck in the “red zone” as well.

Mortgage purchase applications from the Mortgage Bankers Association is stuck in the “red zone” too.

In terms of housing prices, the Case-Shiller 20 Metro Index has settled into the red zone.

Five of the critical housing measures are bouncing along the bottom and have been for several years. Is it time for the housing to break out of the “red zone?”

Will GDP and Employment Grow Enough to Break Out Of “The Red Zone?”

The 2012 housing market recovery depends on GDP growth and the reduction in unemployment. While Real GDP has been forecast to be around 2% (not great, but an improvement over recent GDP reports), there are some troubling economic problems that have to be addressed.

First, Real Median Household Income has been falling from 2007 through 2010 (2011 hasn’t been released yet). So unless this number turns around in a big way, it is bad news for a housing recovery.

Second, households continue to reduce their debt payments as a percentage of disposable personal income (although that trend may be ending).

Third, unemployment and partial unemployment remains high and … in the “red zone.”

HAMP, HARP, The Fed and the Kitchen Sink

Since 2009, the Obama Administration has thrown everything and the kitchen sink at the housing and mortgage crisis including their signature HAMP and HARP mortgage modification programs as well as guaranteeing Fannie Mae and Freddie Mac bonds (at least for a few years). In addition, we have The Fed doing everything to lower mortgage rates including purchasing Agency Mortgage-backed Securities).

With all the Federal programs and billions of dollars thrown at the problem, the housing market remains in a no/slow growth period primarily due to excess foreclosure inventory and lack of credit.

But all the Obama Administration got was a stupid t-shirt:

75871478-Mudd-Fnm-Fre-Doc

What is a “subprime” mortgage? Actually, it is a loan to a subprime borrower. But there is no uniform definition of a subprime borrower. It can be a low credit score (such as FICO), it can be low down payment (such as less than 20% down), or it could be other measures such as excessive indebtedness, bankruptcy or foreclosure in recent years, etc.

So, depending on the definition of subprime, Fannie and Freddie may have been accurate in their risk disclosure or misleading. Let’s take a look at the sensitivity of the subprime definition.

Definition of “Subprime”

For the sake of simplicity, let us assume that subprime loans were defined as a credit score of less than 660 and a down payment of 10% of less. This would have resulted in Freddie’s loan guaranty portfolio having $244 billion in subprime loans at June 30, 2008 according to the SEC complaint (Ed Pinto of the AEI has derived a similar estimate). Using the FHFA’s study of GSE loan purchases, we can see how various definitions of subprime are possible.

Only looking at fixed-rate mortgages (the lion’s share of Enterprise purchases), we can see that based on the credit score of 90% the share of “subprime” varies over time (e.g., 43% in 2004 and 28% in 2008). The lightly shaded area are the “prime” mortgages, the blue shaded area are the “subprime” mortgages.

But notice that the definition (and share) of subprime changes if we do not consider LTV in the definition of subprime.* For example, in 2001, the subprime share would have been 16.4% rather than 32.33% using LTV of 90% and higher. In 2008, the subprime share would have been 8.2% rather than the 27.69% subprime share if we ignore LTV in the measure of subprime. Here is the Copy of AppendixTableB2 that allows you to change the definition.

The issue is further complicated allowing the credit score to be lower than 660 if the LTV is <90%. That would be the area to the left of 660 credit score and 0-89.9% LTV.

Because there is no standard definition of subprime, you can see that the Enterprise share of "subprime" could be quite larger or relatively small. I encourage you to download the spreadsheet and play with the definition.*

* Fannie and Freddie Charters require that any loan over 80% LTV must have PMI or some sort of enhancement.
**FHFA only measures LTV and Credit Score in their study. Hence, it does not break out ALT-A (limited documentation, etc) or exemptions.