Posts Tagged ‘Economy’

Ten Rules for the New Real Estate Economy

Thursday, October 29th, 2009

With the housing bubble burst and the real estate economy forever changed, Smeal’s Austin Jaffe recently outlined ten principles to consider regarding the new real estate market. From his post on the Pennsylvania Association of Realtors’ blog, Just Listed:

1. The valuation of homes will no longer be a function of the appreciation potential (or growth option) in house prices. We expect an extended period of no price appreciation.

2. In markets where appreciation was a primary selling point, prices have sunk the fastest and declined by the largest percentages. These markets were where speculative fever struck the hardest (e.g., Arizona, California, Nevada and Florida).

3. Mortgage interest deductibility has little, if anything, to do with the returns to owning housing since tax shelter benefits are already capitalized into prices. The opportunity to deduct mortgage interest is likely to have benefitted the initial owners when the tax law was implemented in 1917; subsequent buyers just passed along the premium built into the price.

4. In the next several years, the market for residential real estate will be based primarily on the housing services available to its owners. Housing is all about housing services once again rather than about chasing tax shelter benefits, capital gains and refinancing to free up new equity.

5. Supply constraints on location will remain important. Special locations will continue to be in demand.

6. The decision to purchase a home will be based upon household consumption expectations and needs which are provided by this long-term, depreciating consumer durable. Housing has always been a consumer durable.

7. The real estate business will live on and prosper in this new world since households will continue to spend large portions of their budgets on housing services. The market for housing will remain strong without the inflated financial parameters of the past decade.

8. The speculative fever and over-leveraging of housing budgets, especially by low- and moderate-income households, will largely be a remnant of the past. Easy availability of credit will settle in as  part of the history of the housing bubble.

9. If inflation and inflationary expectations are low, mortgage rates can be low. If economic growth is limited, mortgage rates can also be low. Historically low mortgage interest rates do not mean housing will be a good investment.

10. Over time, real estate prices will not likely change much but there will still be an active market for both new and existing housing stock. Housing will remain a major sector in the U.S.

Tags: Economy, Jaffe, Real Estate
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Tax Credits for Hire

Monday, October 12th, 2009

An editorial in today’s Wall Street Journal takes aim at proposals floating in Washington to offer tax credits to firms that hire new empoyees. “One plan would grant a $3,000 tax credit to employers for each new hire in 2010,” according to the editorial. ”Under another, two-year plan, employers would receive a credit in the first year equal to 15.3 percent of the cost of adding a new worker, an amount that would be reduced to 10.2 percent in the second year and then phased out entirely.”

Smeal’s Charles Enis argues that these tax incentives, which were tried once in the late 1970s resulting in mixed reviews, are unfair to firms who resisted layoffs during the recession, essentially punishing them for keeping their employees working. By making the tax code even more complicated, however, the tax credits will likely succeed in creating some jobs—in tax accounting.

More from Enis:

Imagine buying a car and learning that you could have made the purchase a week later and received a generous rebate. Firms that resisted layoffs may have a similar sentiment if one of the proposed credits is enacted. These credits reward firms that increase the size of their workforce or add significant hours of work. Firms that laid off many workers will likely increase their hiring when the economy improves and thus benefit from the credit. What about firms that absorbed the cost of keeping excess people? What do they get?

The income tax regime is one of many policy tools available to combat economic difficulties. However, the tax code has been summoned to remedy virtually all of our problems (e.g., pollution, health care, energy, etc.). These well intentioned provisions have contributed to the complexity of a tax system described as “a national disgrace” as far back as President Carter.

The tax system as a policy tool raises cost-benefit dilemmas. Straightforward provisions result in benefits to unintended taxpayers at substantial costs to the Treasury relative to the economic goals achieved. Provisions targeted toward intended taxpayers must be laden with many complex features (e.g., phase-outs, caps, restrictions, uncertainties regarding extensions, etc.). Such features frustrate small businesses, which are important job creators. The jobs credit that was enacted for 1977-1978 had a mathematical specification too complex to explain in this short blog post. The former credit was tied to the federal unemployment tax regime, while the proposed credit is tied to the Social Security tax regime, and is likely to be even more complex after it is “tweaked” by political compromises.   

Whether the ’77-‘78 jobs credit was successful depends more on one’s political perspective then on evidence from rigorous economic analyses. The complexity and poor promotion of the ’77-’78 credit rendered the findings of traditional analyses tenuous and mixed. Economists believe that the new hires from the ’77-’78 credit were largely lower-skilled workers, which is not a bad thing. However, the tax code already contains the Work Opportunity Tax Credit, a provision aimed at encouraging businesses to hire individuals who are disadvantaged in the labor market. Is another credit really necessary or can the existing credit be updated?

The enactment of the proposed jobs credit will significantly increase the hours of work for tax practitioners, IRS personnel, tax form printers, HR departments, software writers, and hopefully many otherwise unemployed Americans.

Tags: Economic Crisis, Economy, Enis, Politics, Taxes, Unemployment
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Pennsylvania and the G-20

Thursday, September 24th, 2009

With 20 world leaders meeting today and tomorrow for the G-20 summit in Pittsburgh to discuss the health of the world economy, Smeal’s Terrence Guay has penned an article outlining the importance of this meeting for Pennsylvania’s economy. Here’s an excerpt from the article, which appeared in the Patriot-News on Monday, and the Morning Call and Centre Daily Times today:

Why does all of this matter to Pennsylvanians?

The main reason is because the commonwealth’s economy is intertwined in the global economic web. With almost $35 billion in merchandise exports, Pennsylvania sent more goods abroad than all but 10 states in 2008. And it is not just multinational companies that are doing the exporting.

Of the 12,295 companies that exported goods from Pennsylvania in 2007, 10,900 (89 percent) were small and medium-size firms with fewer than 500 employees. Additionally, foreign-controlled companies employed 249,000 workers in Pennsylvania in 2006, the fourth-highest total among the U.S. states, with almost one-third of these jobs in the manufacturing sector.

This means as the global economy goes, so goes Pennsylvania’s economy. The statewide unemployment rate was 8.5 percent in July—the highest in 17 years.

Residents are concerned about the security of their jobs, stability of household incomes and the future well-being of their families. The sooner the global economy recovers, the sooner Pennsylvania’s economy will recover.

Improvement in the health of the global economy will result in more goods and services exported from Pennsylvania to the rest of the world, more investment in the commonwealth by foreign companies, a more stable tax base and more good-paying jobs.

You can hear more on the G-20 summit from Guay and Smeal’s Fariborz Ghadar here.

Tags: Economic Crisis, Economy, Globalization, Guay
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Audit the Fed?

Tuesday, September 1st, 2009

Rep. Ron Paul told The Wall Street Journal that Rep. Barney Frank, chairman of the House Financial Services Committee, backs Paul’s legislation that would give Congress new authority to audit the monetary policy operations of the Federal Reserve.

Smeal’s Jean Helwege argues that the monetary policy work of the Fed should be independent from second-guessing by Congress, however, she says that Fed Chairman Ben Bernanke needs to maintain the Fed’s impartiality and put an end to its picking and choosing winners and losers in the capital markets:

Rep. Ron Paul has been pushing to rein in the Federal Reserve and has proposed a bill to give the General Accounting Office (GAO) powers to audit it. The Fed is already subject to audit by the GAO when it comes to consumer protection laws and banking regulation, but not with regard to monetary policy. This bill would change that situation, although not so dramatically that the Fed would lose its independence (it’s not clear what the penalty is for any agency failing to live up to a GAO audit, but the Fed would surely get away with even more than the typical government group). Recently, Rep. Barney Frank, who surely is as far along the spectrum away from Ron Paul as any politician can get, voiced support for expanding the GAO’s powers to more thoroughly audit the Fed.

The Fed has pumped billions into financially distressed firms in the last year as part of its effort to revive the economy. These actions clearly fall under the category of monetary policy, not banking regulation, even though most of the money went to banks. Because the Fed traditionally sends more than 95 percent of its revenues to the U.S. government (i.e., it is a source of revenue on the U.S. Treasury budget), any money lost on firms like AIG is truly money spent by the U.S. taxpayer. For that reason, Ron Paul would like to see less of it spent in ways that seem wasteful and bad for the economy in the long run. I suspect that Barney Frank is on board with the plan because he wants some reassurance that the money going to AIG is not being paid out in the form of bonuses to the higher-ups there. 

In contrast, Fed Chair Ben Bernanke would argue that, as part of monetary policy, the Fed, through the FOMC, should be allowed to pursue whatever policies are most helpful toward maintaining price stability and economic growth. He undoubtedly would argue that whatever waste and distaste is associated with AIG, the payoff to society is worth the relatively minor cost. Bernanke believes Americans should trust the Fed chairman to do what is best for the U.S. economy, even if some of it seems illogical or annoys those who want to punish the people who got us into this mess.

Bernanke is right to fight for Fed independence on monetary policy. Determining where the economy is at and how best to maintain low price inflation is a difficult job that is not made any easier by having the public or Congress second-guess the decisions that are ultimately made by the Fed. However, Bernanke’s form of monetary policy involves a tremendous amount of policy that essentially picks winners and losers in the capital markets. By choosing to bail out AIG and not bail out Lehman; by choosing to drag its feet with regard to GM and CIT but to propel Bear Stearns at lightning speed into the arms of JP Morgan Chase; and by choosing to slowly offer assistance at the discount window to insurers but to immediately open it up to investment banks are all decisions that most Americans would rather not leave to Ben Bernanke or any other Fed chairman. These decisions seem capricious and poorly justified in terms of monetary policy and this perception is not at all helped by the e-mails regarding the merger of Bank of America and Merrill Lynch. Either the Fed strictly maintains its independence and avoids bailing out specific institutions or it should expect the people ultimately footing the bill to take notice when several hundred billion dollars are showered on what appear to be worthless ventures.

Tags: Banking, Economic Crisis, Economy, Helwege
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The Case Against Pessimism

Wednesday, August 19th, 2009

The current issue of BusinessWeek makes “The Case for Optimism” in our economy by focusing on positive outcomes, including lower shipping rates and increased metal prices. Another reason to be optimistic? Research by Smeal’s Anthony Kwasnica finds that pessimism in our stock markets may actually be the cause of our struggling economy, rather than just an indicator of it.

Kwasnica says that short-selling and other techniques that reward negative performance communicate pessimism about the economy that can infiltrate the markets and may actually cause economic performance to dip into the negative. 

In the current U.S. economy, with the news media constantly focused on the stock market’s performance, the negative effect of perceptions can do even more damage, according to Kwasnica. As more and more bad news is conveyed by the stock markets, pessimistic beliefs are reinforced over and over again and the markets can make a bad economy worse, and do so quickly.

To get out of this vicious cycle, Kwasnica and his coauthors say there are at least two fixes that are already at work in the U.S. economy now. The first option is to quiet some of the pessimistic views on the economy by disallowing investors to profit from negative predictions that come true. The proposed rules regulating short-selling fall into this category.

The other fix is through leadership. The actions of a highly visible and trusted public leader may convey market confidence and instill optimism in other investors.

“Ultimately, some balance between government intervention and industry leadership must be struck to ease the negativity currently in our markets,” Kwasnica says.

Tags: Economic Crisis, Economy, Finance, Kwasnica
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The End Is Near (for Falling Home Prices)

Thursday, August 6th, 2009

BusinessWeek.com reports: “Clear Capital, which provides real estate valuation data for investors, said today that U.S. home prices jumped 5 percent in the quarter ending July 25 compared to the previous quarter. The index showed an 11.2 percent quarter-over-quarter gain in the Midwest, a 5.3 percent gain in the South, a 2.4 percent increase in the Northeast, and a 1.1 percent rise in the West.”

This news, coupled with last week’s Case-Schiller index recording a 0.5 percent increasein home prices after 34 straight months of decline, may be signaling that the housing market has finally bottomed out. Not so fast, says Smeal’s Austin Jaffe, writing on the Pennsylvania Association of Realtors‘ blog, Just Listed:

I believe that the nationwide upturn in house prices is a significant signal that if the bottom hasn’t been hit, it will soon. But—and this is important—you need to be cautious in making predictions based on a few month-to-month changes. Remember, the annual price decline is still significant and is expected to continue to decline over the months ahead.

Foreclosure sales have declined, in part because many lenders have agreed to keep some properties off the market to attempt to stabilize prices.  If successful, this will be a short-lived victory. There are still millions of Alt-A and Option ARMs about to be reset over the next several months.  These will doubtlessly add to the foreclosure experience.

Unemployment is expected to rise to double-digits soon and despite rhetoric to the contrary, job creation is proving to be problematic for government policy-makers.  This factor will ensure that any economic recovery will be quite slow and very moderate.

Finally, swirl all of these (and other factors) together and what do we get?  House prices will likely continue to decline a bit longer, even if the end is in sight, to be followed by an extended period of “no growth” in property values.  Stay tuned!

Tags: Economic Crisis, Economy, Jaffe, Real Estate
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Stimulus, Part II

Friday, July 10th, 2009

Warren Buffett yesterday joined the chorus in favor of a second economic stimulus package to stem the rising unemployment rate and boost consumer confidence. Smeal’s Terrence Guay, however, argues that the timing isn’t quite right for another round of stimulus:

It’s hard to justify a second federal stimulus package at this point in time for economic or political reasons.  Much of the $787 billion package from earlier this year has not yet worked its way through the economy, so there’s very good reason to give it more time to have its effect.  Even with the unemployment rate just short of double digits, other parts of the economy such as housing and consumer spending appear to be stabilizing.  And growing public concerns over the size of the federal budget deficit, projected to be near $2 trillion for the fiscal year ending in September, would make a second stimulus package politically explosive.  Perhaps most importantly, the Obama administration has more important priorities now, including health care reform and a more serious U.S. commitment to climate change.  Wasting political capital on an unpopular second economic stimulus package just doesn’t make sense this summer, if President Obama is to have any chance of success on these other two issues.

Tags: Economic Crisis, Economy, Guay, Politics, Unemployment
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Gas Prices: $4 for Four Years

Wednesday, May 20th, 2009

President Obama yesterday unveiled new fuel economy standards for the auto industry calling for the nationwide vehicle fleet to average 35.5 miles per gallon by 2016. The new standard complicates the business model for the country’s struggling auto industry as it will add about $1,300 to the cost of each new vehicle. And, at the moment, with gas prices much lower than last summer, there just isn’t much demand for these smaller, fuel-efficient vehicles. To raise demand for these types of cars, many economists are calling for a gas tax.

Smeal’s Anthony Warren agrees, arguing that the Obama administration should institute a tax that fixes the price of gasoline at around $4.00 per gallon for the next four years:

The $4.00 price will include the wholesale market price of the gasoline, the retail markup, and a variable tax levy of the difference, which is captured at every purchase. State taxes will be added on to the $4.00 base price and clearly indicated at the pump and on the receipt. Retailers can continue to compete with each other by trimming their own per-gallon markup by a few cents per gallon while maintaining per-gallon tax levels. The final result will be gas prices hovering around $4.00 depending on the retail markup and state taxes.

Under this plan, when market prices are less than $4.00, the federal government has an immediate source of new revenue. And if market prices go above $4.00, which is improbable as demand will likely decline, the government will subsidize the price.

The federal government will immediately raise revenues that can be directed to infrastructure rebuilding and job creation. At the same time, consumers will know the price that they will have to pay for fuel now and for the next four years. We saw last summer that at $4.00 per gallon, consumers learned to deal with the increased price, and indeed reduced consumption, which in turn brought the price per barrel down. Under this new gas-pricing plan, the more demand is reduced, the greater the tax revenue. This provides the federal government with more flexibility to adjust income taxes as the gas tax levy plays out. Under the current gas tax structure, the government’s only incentive is to encourage gasoline sales to raise tax revenues without any regard to long-term national harm in the form of carbon emissions, energy dependence, and myriad other issues that come with the overuse of oil.

This new scheme will encourage consumers to make more rational decisions regarding gasoline usage, including which models of cars to buy, sending clear messages to Detroit about auto demand. The automotive companies will finally have market incentives to make rational development plans for new vehicles based on the long-term cost of energy. The burgeoning alternative energy sector will now have a stable benchmark against which to be judged. And young entrepreneurial companies in this field and others, which are so important for our future, will be able to attract the venture capital they so desperately need.

At the same time, with demand leveling out as a result of the steady price at the pump, oil companies will be able to plan their production schedules based on stable market demand.

If the new administration is serious in its promise of change, boldness, independence from lobbyists, and a willingness to look at truly innovative solutions, then $4.00-per-gallon gasoline presents the president with a chance to solve many immediate and long-term problems in one bold move.

Tags: Auto Industry, Economy, Politics, Warren
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Not Too Big to Fail

Wednesday, April 15th, 2009

Washington regulators have justified several recent interventions in the financial realm by warning that firms like Bear Stearns and AIG are too big to fail (TBTF). However, according to new research by Smeal’s Jean Helwege, the U.S. economy would be better served by letting failing firms file for bankruptcy. She argues that the two most often cited consequences of allowing TBTF firms to fail—domino effects and fire sales—are unlikely to pose major risks to the financial system.

More on Helwege’s research is available here. A draft copy of her complete report is online here.

Tags: Economic Crisis, Economy, Finance, Helwege
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The Old College Town

Thursday, April 9th, 2009

Are college towns recession proof? Several media outlets have addressed this question lately, and for good reason: “Of the six metropolitan areas with unemployment below 4 percent as of January, three of them are considered college towns,” according to The Wall Street Journal.

“Recession proof” is probably pushing it, says Smeal’s Fred Hurvitz, “But college towns do seem to be somewhat insulated from the devastating effects of  recessions and economic downturns, and some are even able to prosper despite what happens to the national economy.” Hurvitz, who spent 20 years operating a number of small businesses in a college town—State College, Pa.—before joining the Smeal faculty full time, says there are two major factors that help contribute to this ability to be recession resistant:

The first and perhaps most important factor is the university as employer. Typically, the largest employers in many of these communities are their universities. Even though many of these colleges have instituted freezes on hiring and pay raises, the threat of massive layoffs is practically nonexistent. As a result, unemployment rates for college towns are typically among the lowest nationally. Although unemployment nationally is approximately 8.5 percent, many college towns are experiencing rates in the range of 4 percent or less. Job security with a minimal threat of massive job loss fosters consumer confidence and continued spending. Local consumers may be a little more cautious with regard to their spending, but they don’t tend to make drastic cutbacks. As a result there is a greater degree of economic stability in these communities.

The second major factor has to do with family dynamics. While many parents will sacrifice as far as their own needs are concerned, they often resist allowing their children to suffer. As a result, many college students come to school with budgets that haven’t been too harshly depleted. Students still need to rent housing, purchase textbooks, buy food, and of course occasionally indulge in some after-hours entertainment and partying. It is not surprising that some of the local bars and restaurants in State College are reporting sales decreases, but these decreases have been minimal. The continued need of students to spend on necessities as well as discretionary items helps stabilize these local economies. 

As of now, we haven’t experienced a prolonged recession. If this recession should continue for several years, college towns will eventually feel the pressure. Tuition increases and lack of student financing could start to drain universities of applicants. If that happens, then of course college towns may join the rest of the communities that are being severely effected by the recession.  However, as long as universities are able to maintain their enrollment levels, the college towns they reside in will continue to be somewhat recession resistant.

Tags: Economic Crisis, Economy, Hurvitz
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