If Bush were earnest he can save Christmas

The McClellanitis of Paulson not withstanding - he asked for the Bazooka
and now he says he is unwilling to fire it??!! - Bush can still produce a final
hurrah before he leaves office after 8 controversial years of good intention
but bad execution. And it is not that he will leave without humility or
a sense of not living up to the expectations set for the "Compassionate
Conservative". He has been humbled by the events of the last 8 years.

That said, it is his final chance. And the answer lies in sending to Congress
a stimulus bill that includes a Social Security Tax Holiday for the final two
months(not Medicare though) - fully included this would be 12.2%
and could pull together the kind of turnaround that will make Paulson's
buddies in Goldman Sachs who have predicted a deep recession cringe.

Yesterday, I thought Suze Ormon was going to cry on camera. It was the kind
of question that would have caused her to cringe, "Should I max out my credit
cards (or my emergency fund) to give my children a good Christmas?" and
she was quick to recover to say, "Give them your happiness". While the
American middle class is told that its auto-industry must be saved, even
though the CEOs came in a private jet to get their tax dollars, it is important
to ensure that the economy does not deteriorate into a Japan style deflationary
spiral replete with 9% unemployment(or 8.5% as Nouriel Roubini would have it)
and let the future of the middle class be forever damaged.

Bush should be aiming this stimulus squarely with the aim of reducing the impact
retail faces. You might ask why Social Security needs to bail out the economy -
well, it is Social security that would get the most back from it - the Social Security
system has the most invested in a robust economy with a rapid return to full
employment. Saving retail would strongly ameliorate the situation and bring to
bear the chance that the economy might return. Add to this a common sense
tough love bail out of the Auto industry and Bush could leave the White House
like his father once did and honestly say, "I kept the faith".

As a demand sider, I would find that the supply siders including Larry Kudlow
would agree that this is a good mustard seed. As the Obama administration
mulls its demand side actions, it should not be after much disruption in the
economy has occurred. Presently, deficit spending is necessary. The states are
maxed out, the Consumer is under tremendous pressure. Social Security offers
the most sensible bastion of hope.

If Bush and the Democrats could only agree....

Construction, Auto Industry, Banks and 9/11

In the post 9/11 easing, the Fed, faced with the likely implosion of the economy used
Autos and housing and construction to keep economic activity. With a wave of liquid
credit Greenspan and Bush chose to fight the implosion and sure enough they succeeded.
Fast Forward to 9/15/2008 and we have the "credit tsunami" begin to engulf(or the lack
of it) start to hit the exact same sectors. Some would say that it was long coming and the
effect of this was sure to be felt sometime, the lack of thereof of any recognition by the Fed
and the Treasury is perhaps as appalling. The Auto industry too given its addiction to debt
should have been more circumspect. That said, the question of bailing out the Auto industry
must also be seen in the context of the next big tsunami which is the retirement pension
plan issue. A credit based bear market built within a specter of an oil shock is a tripple whammy
for the US auto industry. There are several related factors
(1) Credit crisis - implies there is no lending for the purchase of autos - further people are
afraid to lend to auto companies and they have to pay more to make anything
(2) recession - fear of job loss causes people to postpone large sized purchases
(3) oil shock - the cars they make are not suitable for $200 oil which could easily be the
situation in 2011
(4) bear market implies that the pension plans that are starting to come due are even more
fragile and will need additional funding
In that sense, Autos and finance (along with retail and healthcare) are the big employers in
the economy.

The Obama treasury needs to squarely understand the interrelationships and implications
of all this. There is no free walk away - only a postponement. Paulson has mainly chased
after (1). But in the context of autos, we are not really seeing the effects of his measures -
implying that without fiscal stimulus, we are not likely to see any increases in vehicle sales.
The Obama treasury could offer either a tax cut - or a targeted tax credit for a fuel efficient auto purchase.
This would be one way to attack (2).
But Obama also needs to worry about (3) as it was a campaign promise and an important
reason behind the Obama election.

But just as important is the negotiations over PBGC and (4). A permanent settlement with
the UAW must be on the cards as the Obama admin takes office and it should be on the agenda
in the first 100 days.
This is a difficult industry to salvage. It will require a lot of sacrifice from the UAW workers
and a can-do attitude from the auto industry mgmt and Congress to bring about a permanent
turnaround that can work without a large bailout.

Banks and construction require quick action too. Most notably, the ability to prime up the
falling demand due to foreclosure. My prior columns outline some proposals. In the long run,
the coming of new workers and the ability of the US economy to create more jobs can be
the panacea, but in the interim, a revival of fortunes for the US economy is important.

I must add here that I own small amounts of GM and Goodyear in my personal portfolio.

Advise for President Elect Obama

While it is troubling to hear Meredith Whitney speak of double digit
unemployment and the need for a second bailout in 9 months for the
financial industry, it is clear that Obama has been tossed into the
deep end of the pool(well, so was George Bush but he had a 9 month
honeymoon).
There are a series of actions that he needs to take and here are a
few ideas.

(1) Start work on a stimulus bill that is targeted at immediate relief -
notably towards holiday retail sales. A retroactive tax cut for 2008
and carrying over to 2009 that is trickle up - implying that is aimed
completely at people making $100,000 or less.

(2) Stop foreclosure on primary homes upto a 2 month period - while this is on,
look at three different proposals
(1) Hire a small army of financial/realty workers who can go and meet with
the people being foreclosed and the banks and servicers and do one
of the following -
(A) Decide that the home is not appropriate for this owner - if not, then
see if the owner can own a less expensive home and downsize the owner
(B) If the home is appropriate for the owner, then look to move the owner
to a different mortgage - example an FHA loan or a new adjustable term
mortgage(where the payment is fixed and the term adjusts with the rates)
(C) offer mortgage insurance to the homeowners

(2) For homeowners who have been foreclosed on, look to find an appropriate
home and a mortgage and place them there.

(3) Pursue new securitization with these mortgages through overcollateralization -
the Govt could be the equity tranche or z-tranche and offer the buffer needed
by the loans

The broad principle is that a more efficient system is a more conservative one which
thinks for both the consumer and the end borrower - the govt acts briefly as a
catcher in the rye and puts the children back in play. Also the whole value chain for
securitization is broken and it needs to be put back into place. By fixing this value
chain, and steadying the mortgage market the govt puts in place a system that can
work. Eventually the private sector can get back into this. The question today is
that the banks forgot not just about "Value at Risk" or VAR but also that their
Values were at Risk and ofcourse today their Valuations are all at Risk(well if you
do not agree you should listen to Meredith Whitney).

But the point here is "Yes we can". It takes a can do attitude to restore trust and faith
and a willingness to be forgiving. So many mistakes have been made, and if one can
forgive Maurice Greenberg and Dick Fuld, one can also forgive the homeowner who
bought a second home hoping for an eventual profit who is about to lose his primary
home. The housing market will eventually correct itself and recover sufficiently.

It is important to stage a Govt Investment bill such that communities facing severe
local recessions are the first to receive projects. Investment tax credits can also help.

Fixing the problem for the middle class and those who were not so fortunate but who
did aspire and believed in the "Ownership society" is an extremely important value
today. The homes are there and people want to succeed.

The world economy will quickly recover as the elimination of American uncertainity
will have a contagion effect. But quickly act, Obama must.

Reinvigorating housing

The key steps to take include
(1) Expanding demand
(A) Allow more homeowners to assume partial equity
(B) Allow homeowners to find homes that might work for them
(C) Find foriegn buyers for US homes
(D) Expand the sale of market risk products for home owners
(E) Develop new mortgage products that allow foreclosed homeowners
to reenter the market
(F) Fed Govt. can buy a lot of homes in some neighborhoods and keep them
off the market till the market reinvigorates
(G) acquire MBS - "fix" them by working with homeowners and resell them
(H) create a guest worker program that works


(2) Enable the deleveraging - this is already partly being addressed as of now with
the Treasury starting to take equity
- allow American companies to pursue FDRs(ala ADRs) in cash rich economies(let the mountain
go to Mohammed), notably in the Gulf, China and Japan
- reduce rules that allow companies to have some foreign ownership
- it might be easier for a GE or a Disney to raise capital abroad, but harder for lesser known
companies

(3) expand jobs in depressed neighborhoods
(A) Scarcity Theory says that public works projects in depressed neighborhoods
offers an antidote - with homes available, works programs can help -
tax credits are one way out of this problem
(B) Across the rust belt and the sun belt, there is a need to make more jobs
(C) Agriculture, energy, biotech and industrial parks need to emerge
- enable job creation through tax credits and tax holidays - it is the supply side answer to depressed
demand in housing in some areas and can work
(D) establish university outlets in depressed neighborhoods - thus a Berkeley extension
in Modesto or a Wharton extension in Bethlehem PA, can help these neighborhoods as
more student populations rent these homes
(E) US is the home of the Internet and the IT revolution - incentivize re-insourcing

How Congress should amend it

As Republicans and Democrats return to fix the plan, I was heartened by the comments
by Rep. DeFazio, Edwards, Kaptur, Doggett and Cummings.
Buying a few securities and repackaging can only be a small cosmetic paper answer to the
crisis. What would be best would be to require that say 25 cents on every dollar be used
to work with the foreclosures and the impending foreclosures underlying these securities.
The rest be used to buy the MBSs. Currently no money is allocated for Credit Card, Commercial
etc., mainly the residential issue.

The procedure to follow is along these lines.
(1) The govt buys MBSs and mostly allows the CMO side of the bailout to take care of itself
or has a separate plan for this. It pays close to market rate on these MBSs targeting low distress
first (40 cents).

(2) In most cases, the Govt. should attempt to become the new servicer of the underlying MBS
or work closely with the agency that does the same. The agency or the Govt. should then
attempt to locate the foreclosed property, its owner and find a different owner for the property
if under foreclosure or a fair exchange if a current homeowner is in trouble.

(3) The foreclosed or soon to be foreclosed homeowner is found an appropriate property through a
downsizing process if one can be found and a appropriate and equitable loan with the Fed. The key is that the loan and the property found is appropriate for the homeowner.
The regrouped and repackaged MBSs is then sold for a profit.

(4) The Govt continues to provide a one to two year guarrantee on this paper and continues to work
with the servicer.


(5) Credit Enhancement of borrowers - Borrowers are given a chance to enhance their credit and offered
counsel. Subprime/Alt-A borrowers for whom the Govt. finds a home are kept out of MBS paper and directly
passed on to a lower rated MBS which is repackaged and CMO'd by FNMA or Freddie Mac with the
Govt. becoming the large equity tranche

Without foot soldiers on the ground, workign with actual mortgage holders this plan will not work. It will
probably take several thousand hired contractors to make this plan work.However, because it works at
the local level, it will feed financing into the local area as well as help reinvigorate the housing market as
some of the homes are fixed up also. This would also provide a stimulus in the local areas.

Plan C

As Democrats and Republicans debate the bailout, it is becoming clear that each player

has its own interest. The idea of capitalism, need not necessarily imply that all money

be raised or underwritten on Wall Street and flow from there into Main

Street and then on into the hands of the Wealthy Americans and the Sovereign Funds. Saving

Wall Street in this crisis is the key premise that Paulson and Bernanke are espousing. Thus

there is this interest in working through a lot of Mortgage Derivatives,- namely MBS, CMOs

and CDSs. That said, the Democrats are adding their own window dressing to this given that

the crisis is here. And it is here. Numerous banks have been borrowing in the hundreds of

billions from the Fed. But the question is whether tackling CEO pay or allowing judges to

change the interest rate on loans goes far enough to solve the problems. o

My own opinion is that President Bush needs to show that he still supports perhaps his biggest

political achievement, namely "ownership society". The problem is that a sudden rise in real estate

prices and the use of ARMs and other poorly conceived innovations along with a penchant to

push people into the biggest home they could afford left little room for manoever. The second

part of the problem was Bernanke's surprising lack of awareness that if he raised rates, there

would be an effect felt by all the players of this boom. He inherited from Greenspan a set of

conditions that did not allow him to be too aggressive either in fighting inflation or recession.

He could only go to 3% in 2007 but he did not realize this. If they had waded through this for

a few more years the ARMs would have continued and he would have been able to eventually

regained his ability to raise rates. But in the meantime he had to tread carefully. The problem

was also compounded by Harvard studies that indicated that the US needed 17 million new

homes. The mad rush to create CMOs that the Goldmans and Lehmans could then underwrite

for the Chinese and the Gulf Countries pushed everybody into this credit trap of greed for income

creating a larger longer term liability. That said, I believe the overall ideas needed some

Keynesian thinking(ala, protecting Capitalism from itself).Helicopter Ben and Bazooka Hank should

have dealt with the problem as it emerged, not try to firefight with waterguns and liquidity today. Ben

was asleep at the wheel in 2007 and closed the spigot even as the excesses of HELOCs no-documentation

loans and negative amortization started to bring in a new class of aggressive lenders brokers and homeowners.

I remember a story in the recent past when Ben Bernanke apologized to Milton Friedman for the errors of

the Fed in tightening in the middle of the Depression. This mistake by Ben is probably why he seems so

troubled these days. Bernanke's thinking and his opinion that the 70s inflation was the result of monetary

excesses of the 1970s might have been behind the ratcheting of rates. Their was both model error as well

as errors relating to measuring where actual growth came from. The lack of understanding was what pushed

the velocity of money dramatically lower and the self-feeding cycle squeezed creditors and took its toll on the

asset markets and eventually eroded financial trust, the cornerstone of banking. Hank was too hands off and

"stuff happensy".

His Ramboesque intentions not withstanding, it is difficult to understand how or why he practically forced Lehman

into bankruptcy at this critical juncture and stayed aloof but suddenly seemed to understand the gravity of

the situation and demand action. While a monetarist like Bernanke might mainly worry about controlling

money supply and a supply sider like Paulson might look at the issue as a "troubled asset problem", both miss

the basic point.


And that is that this is a demand side problem as it stands today. And requires a Keynesian answer.

So this is the plan for a Barach Obama to espouse.

The Govt. avoids any large buyout of CMOs or CDOs. Instead, they offer a plan to residential

homeowners. (I still do believe that the "ownership society" can be and should be saved. )

This is the plan. A Homeowner facing foreclosure goes to the Feds. They could find

one of three different solutions (1) Take this home and give him a different home - one he could afford

(2) Rent it back to him with a "right of first refusal" down the road

(3) Offer a better mortgage that facilitates ease of payment and that includes Govt getting some equity on sale
But they should also -
(4) Work with payment plans and with CMOs and banks to take a small hit

(5) Create a "set-aside" a portion of the social security tax - through a rebate that is later deducted or
is paid back
- a second set aside that allows retirement savings to be used as redeemable collateral when homes briefly
go under water

(5) In depressed neighborhoods a jobs program may be necessary

Most of all avoid the case where foreclosure removes a potential homebuyer from the market. This is done

by both working with the troubled homeowner as well as by eliminating the stigma of foreclosure. The

Govt's goal must be to be true to the idea of "ownership society"

which is to put families into homes they currently or will eventually own and importantly can own.



The surprising thing is that most homebuyers would tell you that they can afford "today's price" of their

homes.

Other things to do include a quick introduction of the "guest" worker program and allow for summer homes

in the sunny states to be owned by foreigners notably Canadians, South Americans, Europeans and Asians.

A visa program that allows people outside the US to own a home here and visit would also help reinvigorate

demand.



By working on the demand side, the Govt. can solve this problem as prices will eventually come back up. This

is how Keynesians like FDR were able to pull the US out of a depression. Senator Obama, it is up to you to

come up with an answer that carries this forward.


The Federal discount window borrowing was said to be several 100 billion this week. This is important for the

near term. The idea that Caterpillar needs to pay 7% for commercial paper and Goldman needs Buffett to

underline their creditworthiness is indicative that the immediate problem could be a loss of trust and the fact

that panic could easily set in. A further problem is that there is no longer the ability to create CMOs. This

has been alleviated partly by the takeover of Fannie and Freddie.

However, the fundamental problem deals with demand. For the financial

institutions, the Govt. needs to cut some slack and work with them in finding buyers for their foreclosed

real estate. It is time to "get real" and think realistically and realize that the monetary panic is momentary

and a symptom of a real economic problem that arose from imbalance, namely excess supply vis a vis demand.