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Out of Control Policy Blog Archives: 2.26.12–3.3.12

[Op-Ed] Privatize Parking, But Not for the Kings

Sacramento is on the verge of becoming the third U.S. city to privatize its parking assets. As my colleague Leonard Gilroy and I explain in our recent op-ed in The Sacramento Bee entitled "Privatize Parking, But Not for the Kings":

Sacramento's burning desire to keep the Kings in town has the city considering privatizing its parking meters and garages. By itself, the plan to bring the private sector in to modernize and operate the city's parking assets would be a good one. But taking the proceeds from a privatization deal to help build an arena and subsidize an NBA team is not.

The City Council recently voted unanimously to see which companies might be interested in operating the nearly 13,000 city-owned metered parking and garage spaces. Privatizing city parking assets makes a lot of sense. Cash-strapped governments do a poor job of maintaining and modernizing parking meters and facilities. And urban parking rates are rarely what they should be because few politicians want to be blamed for raising parking costs.

The piece goes on to detail successful public-private partnerships for surface transportation projects, such as parking assets in Indianapolis and the Indiana Toll Road. Next we debunk arguments for using parking proceeds to finance the arena:

First, taxpayer subsidies to the arena are likely to be higher than advertised. In a 2005 study of major U.S. professional sports stadiums and arenas, Harvard University's Judith Grant Long found each NBA arena costs taxpayers $53 million more than advertised due to unexpected operating costs, capital improvements, municipal services and forgone property taxes that weren't accounted for in initial projections. Grant Long found that, across all major professional sports, taxpayers end up paying an average of 40 percent over initial facility cost projections.

Perhaps worse than the hidden costs, a large body of academic research suggests that sports arenas are economic losers for cities. A study by researchers from Vanderbilt University and Smith College found "there is no correlation between sports facility construction and economic development." Arenas tend to simply reallocate what's already there, as opposed to drawing new jobs and money into the local economy.

Finally, we conclude:

Sacramento could invest the parking lease revenue to build infrastructure and transportation projects, pay down city debt or even shore up underfunded public employee pensions. Any of these steps would put the city on significantly better fiscal footing and deliver greater long-term benefits to taxpayers than the arena.

Government should focus on what is essential. It shouldn't be in the business of building NBA arenas. And it shouldn't run parking meters and garages, either. The current arena plan to do both is a steal for the Kings and an air ball for taxpayers.

Read the full piece available online here. For more on leveraging parking assets through public-private partnerships, see here, here and here.

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The Victims of Cheap Money Bernanke


A few weeks ago we had a blog post highlighting some of the ways that the Fed’s ZIRP and QE policies are violating Bernanke’s maxim for Congress of “first do no harm.” Jeffrey Snider’s RCM column from two weeks ago (you can tell I’m a bit backed up on my to-read pile) lays out the argument much more eloquently:

In 2001, the Fed funds rate target was brought all the way down to 1%... For some reason, this is still thought of as capitalism even though the quantity and cost of money is set by a central mechanism for reasons other than individual market opinions (and often contrary to market opinions).

Most commentators (myself included) have focused on the financial fallout from this economic/financial schematic, but it is extremely important to not lose sight of the real economic context into which this intervention projected. Plentiful money meant companies were less constrained in their approach to operations. Market discipline was relaxed, meaning profitability fell in relative importance (this is not to say that profits were disregarded, but with plentiful funding the focus on sustainability gets muddied and papered). Easy access to cash can allow business lines and whole businesses to operate unprofitably longer than they really should meaning the relative importance of innovation and/or productivity is diminished. Efficiency gets lost in the euphoria of asset prices, as stock prices reflect quantities of money rather than true expressions of value.

The primary example of this dangerous imbalance was the massive surges in stock repurchase plans and leveraged merger activity during the middle part of the last decade, right up until the wholesale repo markets first froze in 2007. So much of overall marginal business resources in the last decade (and really for the past twenty-five to thirty years, such as the junk bond bubble in the mid-1980's that used an outsized proportion of business resources on leverage buyouts) were focused on financial schemes to boost share prices. Share repurchases and mergers, particularly leveraged takeovers, are nothing more than ownership changes conducted at premiums to current prices, competing with real productive endeavors for monetary resources. Since the price effects of ownership changes are instantaneous, whereas productive projects are a net cost up front and often take many years to bear fruit, the systematic skew toward the short-run favors asset manipulation over operational innovation and improvement. True investment is discarded in favor of financial "investment".

He then goes on to skewer the Fed for taking a backwards approach to its goals of price stability, financial market stability, and tighter regulation on executive pay:

Of course, the fact that so much of corporate management pay is directly tied to share prices only enhances the incentives for this kind of financial activity. That, again, is short-term thinking due to easy credit terms. In fact, during the last decade companies often borrowed cheap money in order to directly finance these kinds of equity extractions (the weighted average cost of capital calculation at work). How much of that financing would have flown to more real economy, productive endeavors will never be known, but I certainly believe it is non-trivial. In other words, this focus on short-term financial manipulation likely, in my opinion, crowded out both market discipline (and its focus on innovation and productivity) and real productive expansion, the very purpose of the Fed's cheap credit initiatives in the first place.

Read the whole column here.


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Latest Articles on Reason Foundation

Germany's Green Energy Policies Are Shutting Down Industry

President Obama often highlights the renewable energy policies of certain European countries, only to see those countries quickly abandon their policies shortly after. As I observed in my commentary last week:

Even as President Obama vowed he “would not walk away from the promise of clean energy” or “cede the wind or solar or battery industry to China or Germany because we refuse to make the same commitment here,” German officials were debating whether to cap, reduce, or scrap the country’s subsidies to solar.

German taxpayers have backed more than $130 billion in solar subsidies to date, contriburting largely to rising electricity costs for households (second highest among European countries). But German businesses may be hit even harder.

Last year, following the panic from the nuclear power plant disaster in Japan, German officials voted to phase out all of the country’s nuclear power plants – even though Germany’s vast solar energy systems produce less electricity than two of the country’s remaining nine nuclear plants (8 plants were forced to close in 2011). Siemens recently estimated that the exit from nuclear power could cost German families more than $2 trillion by 2030, roughly two-thirds of the country’s GDP. German newspaper Spiegal reports how these policies are impacting the country’s industries:

Energy prices are rising and the risk of power outages is growing. But the urgently needed expansion of the grid, as well as the development of replacement power plants and renewable energy sources is progressing very slowly. A growing number of economic experts, business executives and union leaders are putting the blame squarely on the shoulders of Merkel’s coalition, which pairs her conservatives with the business-friendly Free Democrats (FDP). The government, they say, has expedited de-industrialization.

The energy supply is now “the top risk for Germany as a location for business,” says Hans Heinrich Driftmann, president of the Association of German Chambers of Industry and Commerce (DIHK). “One has to be concerned in Germany about the cost of electricity,” warns European Energy Commissioner Günther Oettinger. And Bernd Kalwa, a member of the general works council at ThyssenKrupp, says heatedly: “Some 5,000 jobs are in jeopardy within our company alone, because an irresponsible energy policy is being pursued in Düsseldorf and Berlin.”

As President Obama continues to espouse the investments of European countries into renewable energy, his administration would be wise to look at the effect these subsidies have had on businesses and households.

To read more about President Obama's European energy envy, read my commentary "Should We Double Down on Clean Energy?"

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Fannie Mae Takes Another $4.6 Billion from Taxpayers

It's that time of the year, when winter starts fading, college basketball becomes relevant, and the GSEs release their annual earning loss statements. First up, Fannie Mae

In the fourth quarter of 2011, Fannie Mae lost $2.4 billion, and is asking the Treasury Department (aka the taxpayer all-you-can-take bailout buffet) for $4.6 billion to stay solvent. Without this money Fannie Mae would be bankrupt, but the Treasury Department has already committed to cover any losses (as we have since late 2008). 

Overall In 2011, Fannie Mae lost a net of $16.4 billion, after losing a net of $10.6 billion in 2010. And combining bailout request for all four quarters, Fannie Mae is going to take in $26 billion in bailouts for 2011, after getting $15 billion in bailouts for 2010. 

So the new complete taxpayer bailout total for Fannie Mae (3Q2008 through 4Q2011):

$116.2 billion

To put this in perspective, Bank of America and Citigroup each received $45 billion in bailout funds (through TARP capital injections), but have since paid them all back. J.P. Morgan Chase and Wells Fargo each received $25 billion in bailouts but have also paid back their funds. General Motors got $51 billion in bailouts, but has paid back more than half of it as of this writing.

The only close comparison is AIG—which has received loans and capital injections of $140 billion, which is slowly being repaid. 

Once you combine Fannie's losses with Freddie Mac ($71.2 billion as of 3Q2011), you get current total bailout expenses of $187.4 billion. And we haven't even seen Freddie's 2011 loss statement yet. 

HousingWire further reports: "The problem loans continue to rise from the books of business originated between 2005 and 2008. These loans cost Fannie $140 billion since 2009. Its becoming a smaller portion of the entire portfolio, though, shrinking to 31% at the end of 2011 from 39% the year before."

We do not have to continue bailing out these enterprises. We can put them into receivership and begin the process of winding down their activities over a five year period

Here is an updated list of Fannie Mae's quarter bailout needs:

  • 4Q 2011 — $4.6B
  • 3Q 2011 — $7.8B
  • 2Q 2011 — $5.1B
  • 1Q 2011 — $8.5B
  • 4Q 2010 — $2.6B
  • 3Q 2010 — $2.5B
  • 2Q 2010 — $1.5B
  • 1Q 2010 — $8.4B
  • 4Q 2009 — $15.3B
  • 3Q 2009 — $15B
  • 2Q 2009 — $10.7B
  • 1Q 2009 — $19B
  • 4Q 2008 — $15.2B
  • 3Q 2008 — $0B

See last quarter's post on Fannie Mae's losses here.

See full coverage of Fannie Mae and Freddie Mac here

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Technology Can Help Reduce Traffic Congestion

As first reported in The Wall Street Journal automakers are using the power of technology to reduce road congestion. This technology can help reduce traffic congestion and accidents. While fully automated cars will not arrive tomorrow, adaptive technology that assists the driver may become widely available.

Ford, Volkswagen and BMW are three automakers with big plans:

For instance, the auto maker (Ford) will invest in systems for its vehicles that will lead to cars that avoid traffic jams, reserve parking spaces and, under certain conditions, drive themselves, in an effort to cut down on global gridlock. The company also is moving to expand the use of crash-avoidance technology and will broaden its collaboration with car-sharing companies such as Zipcar Inc.

Mr. Ford—who has been speaking out for the past two years about the need to address urban traffic—envisions a future in which fully autonomous cars are connected to a database that coordinates automobile travel with public transit and other transportation methods and parking. Mr. Ford wouldn't say how much money the company will invest in these efforts. But last year, Ford said it doubled its investment in vehicle-to-vehicle communications and created a 20-member task force to help implement the technology in its vehicles.

Other auto-makers are exploring ways to address the problem. Some are working on developing standards for technology to allow vehicles to signal each other on the road in order to avoid collisions and feed more information to systems designed to minimize highway congestion. BMW AG has launched a fund to invest in mobility start-ups to gain access to new technology and ideas. 

"We think that the technology we are coming up with will help us avoid gridlock," said Wolfgang Steiger, Volkswagen AG's director of future technology. Mr. Steiger said it is likely that major cities will react to current traffic through development planning and public transit, lessening the problems. 

There are actually two concepts involved. The first is the possibility of driverless cars. While driverless cars may seem more science fiction than fact, some of the technology is already available. According to several sessions at the past Transportation Research Board conference, Google has driven several cars more than 150,000 autonomous miles and successfully lobbied Nevada to legalize driverless cars. The short-term goal is to reduce the number and severity of crashes through intermittent automated braking or steering. Automated cars may also improve productivity by reducing congestion and crashes. But completely automated cars are some years away. Transitioning to driverless cars will have Technological, Economic, Insurance, Psychological, Sociological, Legal and Political issues 

Driverless cars are only prototypes and the technology is very expensive. The system has a few glitches; the technology that guides Google’s cars get confused in certain types of driving conditions. This could be dangerous in real-world conditions. As the average vehicle on the road today is ten years old, replacing all the vehicles with driverless cars could take 30 years. And that assumes government action and a starting date of tomorrow. There might be safety issues if passenger operated and machine operated cars are on the same highways.

The second concept is vehicle-to-vehicle communication. Various studies have found vehicle-to-vehicle communication can improve emergency vehicle responses by reducing travel times to the emergency room, creating a system that alerts drivers when they are too tired to drive, and lessening the amount of pollution from vehicles. While totally automated cars are not currently realistic, advanced safety and technology features built into the GPS system can improve the driving experience today.

Technology by itself cannot solve all of our transportation challenges. Automation is no short-term replacement for new highways, cost-effective transit service, and other safety research. But technology is a small part of the solution. Any new vehicles that can brake to avoid a crash or route its driver around traffic congestion is one part of the solution.

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China High Speed Rail's Hard Lessons for the US

I've weighed in on China's high-speed rail debacle and what lessons it has for the US in commentary just published by Reason Foundation (February 28, 2012). I wroter a much longer version for National Review (December 19, 2012), but this story has important implications for US policymakers.

One of the critical weaknesses of the China high-speed rail program was the national profile given to it by the national government. The mere size of the program combined with its political profile pushed the program faster than it could keep up while inviting corruption.

As I point out in the Reason commentary:

"China's enthusiasm for high-speed rail and the national pride it engendered outpaced the ability of its engineers to adapt technology safely and efficiently. China began to adapt technology to the particulars of the Chinese system through joint partnerships with experienced foreign firms in 2004. As glitches became apparent (none of which appeared significant at the time), the government moved the goal posts to achieve even more ambitious objectives, according to extensive investigative reporting  by the Chinese business magazine Caixin. Instead of 200 kph trains, the trains were expected to achieve speeds of 250 kph, then 300 kph. Technology never really caught up, a factor compounded by the uniqueness and vastness of the Chinese system."

China is not retreating from commitment to high-speed rail (it's system is largely built out at this point), the cost of moving too quickly has been significant in terms of its international prestige as well as the damage to the government's domestic political credibility. One of the "learnings" from China is fairly simple: Once a program achieves national prominance and becomes part of a broad-based political platform, it's a good time to step back, reassess, and slow down.

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Oil and Gas Production Up, But Don't Thank the Feds

President Obama recently told a crowd at the University of Miami that “under my administration, America is producing more oil today than at any time in the last eight years,” noting the “record number of oil rigs operating right now – more working oil and gas rigs than the rest of the world combined.” But his administration has little to do with it: the increase in production is coming from state and private lands – not federally-controlled land.

According to data from the Department of Interior, production on federal lands fell by double digits between 2010 and 2011, with natural gas dropping 11% and oil nearly 14%. 

But that does not mean that President George W. Bush did much better. As Dan Simmons at the Institute for Energy Research points out:

Many people thought of the Bush administration as pro-oil and natural gas. But the reality is different. The amount of federal lands offered for lease for energy production actually fell during the Bush administration. In other words, the Clinton administration offered more lands for lease than the supposedly pro-oil Bush administration.

Only after oil hit $147 a barrel did the Bush administration end the moratorium on offshore drilling and produce a new drilling plant to expand leasing. Their belated attempts to allow development of taxpayer-owned resources were undermined when President Obama was inaugurated.

At the start of the Obama administration, the entire Outer Continental Shelf (OCS) was open to leasing. The administration’s new plan, however, doesn’t allow leasing on the vast majority of the OCS.

Neither the Bush nor Obama administrations have done much to increase production. The House Natural Resources Committee recently noted that oil production on federal lands has dropped by 44% since 2003, while natural gas has fallen by 41%.

But two wrongs don’t make a right. Under the Obama administration, 2010 had the lowest number of onshore leases issued since 1984, with only one offshore lease open in 2011. Luckily, oil- and gas-rich states have picked up the slack where the feds have dropped the ball.

The reason oil and natural gas production has increased in the U.S. is because of production on private and state lands. One example is North Dakota’s oil production. Almost all of the Bakken formation is on private lands and as a result production has dramatically increased. Over the past 10 years, North Dakota oil production has increased by nearly 250 percent, while federal oil and natural gas production has fallen over 40 percent.

The administration has stated that it intends opening 32 onshore leases this year but has also noted that is intends to delay any offshore leases for at least five more years.

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In Louisiana the education money will REALLY follow the child.


This is pretty significant. In many voucher programs there may be separate funding or appropriations for the program from the state, but in Louisiana the state board just voted to allow the state funding formula to follow the child to a private school. This means that the program could actually save money if private tuition is less than the public school cost and that schools will feel real competition as the money is attached to the backs of children. Since Louisiana has a robust charter sector and is working to allow student-based budgeting where the money follows the child to public schools, Louisiana is on the road to becoming a state model for education funding, where the money would be attached to children and the state would allow the parent to select between any public, private, or nonprofit school.

As reported in the Times Picayune:


Louisiana's new superintendent of education, John White, took a first step Monday toward opening the spigot of state and local tax dollars to expand the use of private school vouchers statewide. Gov. Bobby Jindal is pushing to expand a small pilot voucher program that's already up and running in New Orleans, hoping to offer aid to pay private or parochial tuition for low-income families across the state.

But the governor's office hadn't spelled out exactly how the state will pay for it. Money for the pilot program, running about $9.5 million this year, was approved as a special appropriation in the state Legislature.

But that may change beginning next school year. White, who took over at the state Department of Education last month with Jindal's backing, got approval from the state school board Monday to start paying for the vouchers in New Orleans by drawing from the same pool of money set aside for public schools.And that means if Jindal's proposal to expand the voucher program gains traction at the legislative session this spring, funding for it will already be in place.


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(Video) Piling on the Unjust Mortgage Settlement

We are 19 days past when the great and mighty national mortgage settlement still hasn't been released in detail form to the public—neither has it been filed in court. So maybe there really, really is a devil lurking in the details. But we're not going to let this go.

This deal has almost nothing to do with robo-signing.

This deal is political extortion and highly unjust.

And on Fox Business yesterday afternoon we continued to push the argument that this settlement is something that a judge should reject whenever the details are filed in a court. 

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FHFA Puts the U.S. Rental Market in Crosshairs

The Federal Housing Finance Agency has decided to go forward with a pilot program for turning government owned homes into rental properties. The program announced today was widely anticipated, but is limited in size and scope. There are no new arguments for or against a federal rental program—the same message that the program will be fundamentally unfair, will yield itself to cronyism, will pick winners and losers, and will likely be poorly managed all still apply. But since FHFA is going ahead with the REO-to-rental plan, at least we'll have some measurable outcomes to discuss and critique before a full blown project is launched.

Some background on the issue:

Why launch a pilot program—Since the government took over Fannie Mae and Freddie Mac, Uncle Sam has accumulated a large number of properties. Fannie and Freddie have foreclosed on thousands of properties (since the borrowers stopped paying their mortgages), and since the housing market is not exactly sell properties at warp speed, the GSEs have 122,000 properties that they now own. Since they can't sell the homes fast (and it costs money to upkeep those vacant homes), the GSE regulator FHFA has decided to rent 

What is the pilot program—FHFA will take 2,490 properties located in Atlanta, Chicago, Las Vegas, Los Angeles, Phoenix and a handful of cities in Florida and put them up for bid to pre-qualified rental managers. If you have money, experience, and a good plan for renting the units, you can buy a bulk of homes them from the government's selected pool and rent the homes out. Individuals will not qualify under this program to buy one or two properties, since they want to sell large batches of homes. And the price for the home will be distorted since only the select few will be able to bid on the properties.

What is the trade off—If you measure this pilot program against just the status quo, it does not sound like a terrible idea. Yes, only insider cronies are going to be able to bid on the properties and the process will thus be unfair. But the properties can not be unloaded to just anyone, since the taxpayer would be liable for any re-foreclosure costs. And at least the government is not trying to set up a landlord agency. So the net benefit of getting these properties off the government books could seem like a positive.

BUT, we are not measuring against the status quo if we are being honest evaluators. We'd want to measure this idea against alternatives. Really, this rental program is a trade off from letting housing prices fall to where homeowners are willing to buy them. FHFA could be lowering conforming loan limits and raising the G-fee to increase the cost of a mortgage and put downward pressure on home prices. FHFA could publicly encourage the Fed to let interest rates rise to their natural market level (also putting downward pressure on home prices). FHFA could have urged HUD to reject the mortgage settlement that just keeps the foreclosure process clogged up. All of that would allow for the GSEs to sell their properties to homebuyers looking for the real market price. That is the trade off that this rental program should be measured against

Also see what we wrote back in August 2011 when this idea was first being floated.

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California is Barking Up the Wrong Tree with Pet Groomer Licensing Bill

Earlier this month, I wrote about a proposed bill in California to require state licensing for pet groomers.  The legislation, SB 969, would impose fees on would-be groomers, require applicants to pass written and practical examinations administered by the Veterinary Medical Board, mandate detailed and burdensome record-keeping requirements for groomers, dictate certain other business practices, and spawn an army of bureaucrats to go around inspecting every dog grooming business in the state at least once a year.

None of this will do anything to improve the quality of pet grooming services—the supposed rationale behind the bill—but it will increase the cost of grooming services, reduce competition and consumer choice, and, because of the high costs of fees and compliance with state regulations, deny gainful employment to many who would otherwise be competent groomers and entrepreneurs. This is California big government thinking in a nutshell: there must be a government solution to everything, and taxes and regulations can surely cure every real or imagined ill in the world. Of course, in reality, this only serves to deny Californians economic liberties and opportunities, which they oftentimes seek elsewhere (as evidenced by their migration to more business-friendly states like Texas, Nevada, and Utah).  No wonder the state is saddled with such a poor business climate and mired in unsustainable spending and chronic and significant budget deficits.

In a San Diego Union-Tribune op-ed column, I make the case against the pet groomer licensing bill and occupational licensing in general. Below is an excerpt of the article.

While we love our pets dearly and want to protect them from harm, mandatory state licensing is not the answer. As numerous economics studies of a wide variety of professions have demonstrated, licensing rarely leads to improved service quality, and oftentimes results in worse quality. While this might sound counterintuitive, there are several reasons for this.

The one-size-fits-all regulations imposed by the state may be arbitrary (not necessarily an accurate measure of groomer competence) and give consumers a false sense of security about the competency of licensed groomers, causing them to be less cautious about whom they do business with than they otherwise might be. In addition, licensing fees and regulations restrict competition by making it more difficult for people – even those who would be skilled groomers – from entering the business.

Less competition means less pressure to offer the best services and the lowest prices. The higher prices that would result from licensing would cause many people to resort to do-it-yourself grooming, which may result in more pain to pets since the owners are not trained to do this. For the same reason, there are more electrocutions where there are stricter licensing regulations for electricians and poorer dental health where dental licensing requirements are overly stringent.

[. . .]

Some may still cry, “There ought to be a law!” but groomers who harm pets can already be prosecuted under laws against negligence and fraud, as with any other case of poor service or breach of contract. This does not mean that there are, or should be, no standards for groomer competence. Voluntary (private) certification allows practitioners who meet the criteria of a certification organization to advertise their certification to signify to customers that they offer high-quality services, while leaving consumers and noncertified practitioners free to do business if they so choose. Pet grooming organizations such as the National Dog Groomers Association of America, National Cat Groomers Institute of America, International Professional Groomers and International Society of Canine Cosmetologists have their own testing and other certification requirements and offer workshops, seminars and other events to provide groomers and consumers more information about their members’ qualifications. The use of referrals from veterinarians or friends and resources such as Yelp, Angie’s List, and the Better Business Bureau may also help to avoid many poor groomers in the first place.

See the full article here.

Related Research and Commentary:

» "California Bill Proposes Licensing for Pet Groomers"

» Occupational Licensing: Ranking the States and Exploring Alternatives

» "California Licenses Most Jobs in Nation" (Los Angeles Business Journal)

» "Lawyer Licensing Laws Lead to Higher Prices, Less Consumer Choice and Access to Legal Services"

» "Occupational Licensing and the Beard Trimming Turf War in Texas"

» "State Licensing Mandates for Movers in Illinois Increase Prices, Reduce Job Opportunities"

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Flawed Fed Predictions

We will, admittedly, put this one in the “not saying anything new” category, but Ben Steil’s WSJ op-ed from last weak bears highlighting. It features the sentence of the year so far: "In short, the Fed's premise that it can speak with authority about the future is flawed."

Here is how Steil came to this, not-so-surprisingly objective opinon:

The Fed studied its own staff's forecasting performance over the period 1986 to 2006. It found that the average root mean squared error—or the deviation from the actual result—for the staff's next-year gross domestic product (GDP) forecasts was 1.34, compared with 1.29 by what the Fed describes as a "large group" of private forecasters. That is, the Fed's predicting performance was worse than that of market-watchers outside the Fed. For next-year CPI forecasts, the error term was 1.03 for Fed staff, and only 0.93 for private forecasters. The Fed's conclusion? In its own words, its "historical forecast errors are large in economic terms."

How about the Fed's longer-term predictions? The Fed started publishing the Board of Governors' and Reserve Banks' three-year forecasts in October 2007. At that time, the GDP growth forecasts among this group of 17 ranged from 2.2% to 2.7%. Actual 2010 GDP growth was 3%, outside the Fed's range.

The Fed forecasters told us that unemployment in 2010 would be in a range between 4.6% and 5%. In fact, it averaged about twice that, or 9.6%. The forecasters further predicted that both Personal Consumption Expenditures inflation (PCE, similar to CPI) and core PCE inflation would be in a range from 1.5% and 2%. The former came in at 1.3% and the latter at 1%, again outside the Fed's range. The Fed's scorecard on its 2007 three-year forecasts: 0 for 4.


See the whole article here.


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More Details on Bank's Limited Contribution to the $26 Billion Settlement

It has been more than two weeks since the robo-signing settlement was reached and there still is no detailed document of the agreement available for review or any paperwork filed with a court. That has not stopped us from pointing out the political nature of the document or the fact that it is highly unjust. But we don’t need the detailed document to be able to analyze the response from banks.

One of the reasons we argued the mortgage settlement is unjust is because it is forcing mortgage investors who had NOTHING to do with the robo-foreclosing scandal to take tens of billions in losses. The biggest political win in the settlement was the $12 billion in mortgage modifications, $5 billion in short-sale and similar sales, and $3 billion in refinances that the banks committed to doing. But most of those costs are not going to hit the banks, but rather the investors in the mortgages being modified. A majority of losses at the banks are for the settlement’s other provisions—cash for foreclosed borrowers and the AGs slush fund. 

Just look at the bank’s responses to the settlement. From American Banker

Overall, the settlement agreement will have no material impact on the top five banks' profitability or on their financial results in the future, each of the banks says, and their stock prices were little changed in afternoon trading.

A $26 billion bottom line is not that much relative to the trillions on these banks balance sheets. At the end of 2011, the five banks had a combined $7.8 trillion in assets. So we are talking about 0.003 percent of their assets. But still, if $26 billion were hitting the banks in a single quarter that would have at least some material impact on the banks. The reason that it won't have much of an effect is three fold: (1) they were prepared for this and already set aside the money or wrote off the losses, (2) the relief to homeowners is spread out over a number of years, and (3) most of the relief will not come from the banks themselves. Consider the following:

Bank of America, which is taking the biggest hit on this settlement, owes cash payments of up to $3.24 billion to state and federal sources under the agreement, and has committed to $8.58 billion in relief payments (including an up to $1 billion settlement with FHA attached to this deal.) But their press release about the agreement says: 

The financial impact of the settlements is not expected to cause any additional reserves to be taken over those made during 2011, based on the company’s understanding of the terms of the agreements in principle. The refinancing assistance is expected to be recognized as lower interest income in future periods as qualified borrowers pay reduced interest rates on loans refinanced. Although the company may incur additional operating costs (e.g., servicing costs) to implement parts of the global settlement in future periods, it is expected that those costs will not be material.

Having to take a loss of over $8 billion in a quarter would be significant relative to their recent earnings statements. But if MBS investors are taking those refi and mod hits, then there are no worries.

How do the other banks in the deal stack up?

JPMorgan Chase owes $1.08 billion in cash payments and has committed to $4.21 billion in relief for borrowers. However, the bank has already put money aside over the past five quarters of negotiation to cover the cash payments. And American Banker reports:

The bank also will incur some additional operating costs to implement the new servicing standards required by the deal, but the financial impact "will not be material," says Kristin Lemkau, a JPMorgan Chase spokeswoman.

Wells Fargo has $1.01 billion in cash payments required by the agreement and $4.34 billion in relief payments. But they issued a press release stating:

As of December 31, 2011, the company had fully accrued for the Foreclosure Assistance Payment [the cash payment]. Similarly, as of December 31, 2011, the expected impact of the Consumer Relief Program was covered in our allowance for credit losses and in the non-accretable difference relating to our purchased credit-impaired residential mortgage portfolio. The Refinance Program will not result in any current-period charge as the impact of this program will be recognized over a period of years in the form of lower interest income as qualified borrowers benefit from reduced interest rates on loans refinanced under the program. 

Citigroup only has to make $415 million in cash payments and $1.79 billion in relief commitments. They will wind up adjusting their 2011 financial results to reflect $84 million in additional losses since they had not saved up completely for the cash payment, plus $125 million in losses for the same statement on litigation related payments. But similar to other press releases they said:

Citi expects that existing reserves will be sufficient to cover customer relief payments... The impact of the refinancing concessions will be recognized over a period of years in the form of lower interest income.

Ally Financial Inc., the smallest of the banks involved but the one first revealed to be robo-foreclosing, has $110 million in cash payments required and $200 million in relief payments committed under the deal. But as American Banker writes, they already have this money set aside:

Ally Financial Inc. says it has set aside reserves to cover its $110 million cash payment and $200 million in borrower relief. The company says in a press release that "the financial impact of the agreement will not be material on financial results for the first quarter of 2012 and future periods."

So I count cash payments of $5.855 billion. It is yet unclear how much of the refi, principal mod, and other mortgage relief commitments will hit balance sheets, but since the banks do not really appear worried it is safe to say that investors should prepare for the blow.

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Toll Road Forecasts Come Under Scrutiny in Virginia

An important discussion is taking place in Northern Viriginia over the veracity of traffic and revenue forecasts for the Dulles Tollroad. The forecasts are critical for this corridor because higher toll rates have been justified based on their ability to finance a the extension of the Washington, DC Metro to the Dulles Airport (and beyond).

According to Tollroadsnews.com (Feb 24, 2012), the forecasting company, CDM Smith (formerly Wilbur Smith Associates), has made over 200 forecasts for 100 projects. In a response to criticism that the CDM Smith forecasts suffered from "optimism bias," the company's CEO writes (in a letter available at Tollroadsnews.com):

"The previous traffic and revenue studies undertaken for the DTR [Dulles Toll Road] highlight our continued success and reliability in effectively forecasting its traffic and revenue potential. Comparison of CDM Smith’s 15yr forecast for the DTR in 1989 with the actual performance indicates that actual 2003 transactions were 98.2% of forecast (the 2004 toll increase was not assumed in 1989).

"The 2009 study forecasts also compare favorably to the actual revenues following the 2010 and
2011 toll adjustments:

- 2009 Study 2 yr forecast: Actual 2010 revenue was 100.7% of forecast

- 2009 Study 3 yr forecast: Actual 2011 revenue is expected to be 97.5% of forecast

"The 2005 DTR Study cannot be tested against actual performance as none of the toll scenarios in that study were implemented."

This is very important issue, and we've written about this elsewhere (see here). Given a few high-profile bankruptcies (e.g., the South Bay Expressway in San Diego, Southern Connector in South Carolina), and the rising important of public-private partnerships in financing these projects, the accuracy and reliability of these forecasts are critical, and I personally have worried that the forecasting track record hasn't received enough public scrutiny.

The article at TollroadsNews does a good job of exploring the complexity of these forecasts. In many ways, it's more art than science. Nevertheless, decisions about long-term infrastructure need to be bounded, and forecasts are an essential part of evaluating risk and uncertainty. But they also have to be subjected to independent scrutiny and the full range of uncertainties in these forecasts need to be part of the public decisionmaking process.

Thanks to TallroadsNews for helping to broker this public discussion.

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