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FIN 30220: Macroeconomic Analysis

FIN 30220: Macroeconomic Analysis. A quick look at the US Economy. Let’s look at the unemployment rate over the past few years …. Current = 7.6%. 2001 Recession. 2007 Recession. Suppose we add in “marginally attached workers”…. Haven’t looked for work in 12 months. Current = 9.6%.

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FIN 30220: Macroeconomic Analysis

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  1. FIN 30220: Macroeconomic Analysis A quick look at the US Economy

  2. Let’s look at the unemployment rate over the past few years… Current = 7.6% 2001 Recession 2007 Recession

  3. Suppose we add in “marginally attached workers”… Haven’t looked for work in 12 months Current = 9.6% 2001 Recession 2007 Recession

  4. Now, lets add in the “underemployed”… Working Part time but would like to be full time Current = 14.3% 2001 Recession 2007 Recession

  5. November/December 1982 May 1975 June 1992 October 2009 Average = 5.7% Unemployment rates that near 10% are not uncommon during recessions, but…

  6. The composition of our unemployed is shifting more and more towards long term! Mean = 40.5 weeks Median = 21.2 weeks Percentage of Unemployed Currently Unemployed = 14M

  7. While Duration of unemployment has been rising for years, it has accelerated recently

  8. This current downturn is largely (but not entirely) a housing problem! • Currently: • 2-3 Million Homes considered “excess supply” • 600,000 New Homes Per Year Being built (Average = 1.6M) At this pace, it will take until approximately 2014 before our excess stock of housing is sold off and house prices will rise faster than inflation!!!

  9. Let’s See if we can estimate job loss from housing… This represents 1.6% of the labor force!

  10. So…how did we get here?

  11. Fannie Mae converted to a stand alone publicly traded company (Actually, a Government Sponsored Enterprise) Fannie Mae begins securitization of mortgages Government National Mortgage Association (Ginnie Mae) takes over Fannie Mae’s previous duties. Under the National Housing Act of 1934, the Federal Housing Authority was created Federal Home Loan Mortgage Corporation (Freddie Mac) created by congress as another GSE to compete with Fannie Mae in newly created mortgage securities market Federal National Mortgage Association (Fannie Mae) created to provide liquidity to mortgage market 1938 1934 1968 1970 Since the 1930’s, the government has been active in helping people clear hurdles in the loan market.

  12. Mortgage Backed Securities: A quick example You purchase a $200,000 house by taking out a 30yr mortgage with a 6% fixed annual interest rate. Your monthly payment will be $1200

  13. Fannie Mae Purchases your loan plus 19 other identical loans Available Funds $24,000/Mo $200,000 30 Year, 6% APR Payment = $1200/mo

  14. A A B These funds are then divided up intoTranches(Claims to different parts of the available funds) C B D Available Funds C $24,000/Mo D E Each Tranche becomes the basis for a mortgage backed security F E F

  15. As a homeowner, nothing changes… Your bank passes the payment along to Fannie Mae (and collects a processing fee) Each month, you make your $1,200 payment to your bank Fannie Mae passes the payment to the individual MBS investor (and collects a processing fee)

  16. The apparatus is in place…now, we need some motivation! Federal Reserve Banks establish a community affairs office to ensure compliance with CRA Equal Credit Opportunity Act passed – imposes heavy sanctions on financial institutions found guilty of discrimination Alternative Mortgage Transaction Act allows banks to originate mortgages with several features such as adjustable rates and balloon payments Community Reinvestment Act mandates banks to offer credit to low income areas and defines discrimination under ECO by neighborhoods 1977 1974 1981 1982 Hmmm…..can you see how the subprime collapse is coming??

  17. Federal Reserve Bank of Boston publishes a guide to better serve low income households – measures include loosening income thresholds for mortgages Tax reform Act ends the tax deduction of consumer debt, but retains the tax deductibility of home mortgages Federal Housing Enterprises Financial Soundness Act required Fannie Mae to devote a minimum percentage of their lending to affordable housing and increase their sales of mortgage backed securities New Community Reinvestment act allows community groups that market mortgages to collect a brokers fee. 1992 1986 1993 1995 Let’s add some more fuel to the fire!

  18. Federal Reserve of New York rescues hedge fund Long Term Capital Management – assumption is created that government will bail out “too big to fail” institutions. In 1995, mortgage rate denial for conventional home purchases was 29%. Investors purchased $60B in Subprime mortgages. Gramm Leach Bliley Act deregulates finance, banking, and insurance – allows financial institutions to grow very large! Taxpayer relief act expanded the capital gains tax exemption on home purchases from $125,000 to $500,000. This encouraged housing as an investment Fannie Mae required by HUD to devote 50% of its business to low/moderate income households 1999 2001 1997 1997 1995 Dot com bubble and collapse…we have the powder keg. All we need is a match!

  19. Mortgage denial rate down to 14% (half of 1995 value). Homeownership peaks at 70%. Many lenders follow Countrywide’s lead in adopting automated loan approvals HUD increases Fannie Mae’s housing goals to 56%. From 2004 – 2006, Fannie Mae buys $434B in subprime debt The Fed lowers interest rates from 6.25% to 1.75%. President Bush sets goal of increasing minority homeowners by at least 5.5 Million by 2010 through tax credits, subsidies and Fannie Mae commitment. SEC suspends net capital rule for five firms: Goldman Sachs, Merrill Lynch, Lehman, Bear Stearns, and Morgan Stanley 2001 2004 2004 2004 2001 2000 Fannie Mae and Freddie Mac subprime securities purchases rise from $172B to $500B. Lenders begin offering loans to higher risk buyers (including illegal immigrants). Speculation in real estate rises (40% of homes purchased were either investment properties or second homes.

  20. Ownit Mortgage Solutions files for bankruptcy Booming housing market ends abruptly. Prices fall 3.5% and home construction begins to fall Mortgage Lenders Network files bankruptcy (15th largest lender with 3.3B in loans). • Subprime market collapses: • $1.3T in debt (20% of overall mortgage market) • 13% delinquency rate (2% for conventional market) Home construction down 40% from 2005. Merit Financial Inc. files bankruptcy – the first casualty of the mortgage crisis. BLS announces first decline in payrolls since 2003 (- 4,000) Mid 2007 May 2006 Sept 2007 2005 February 2007 August 2006 January 2007 The beginning of the end...

  21. President Bush announces plan to freeze rates on some adjustable rate mortgages Merrill Lynch announces $8.4B loss as a result of subprime market National Association of Realtors announces largest drop in home sales in 25 years Bear Stearns acquired by JP Morgan for $2 per share. Fed provides up to $30B in “insurance” Consortium of banks announce $100B “superfund” to buy troubled mortgage assets. Fed injects $41B into financial markets Indymac placed in receivership by FDIC – 4th largest bank failure in history. Oct 2007 October 15, 2007 Nov 1, 2007 Sept 2007 January 24, 2008 December 6,2007 March 16th. 2008 Losses begin to mount!

  22. FDIC announces Citigroup would acquire banking operations of Wachovia President Bush signs into law the Housing and Economic Recovery Act – FHA will guarantee up to $300B in refinancing for subprime borrowers Lehman Brothers file for bankruptcy AIG’s credit rating is downgraded – Fed loans AIG $85B Washington Mutual seized by FDIC- its assets are sold to JPMorgan for $1.9B Troubled Asset Relief Program (TARP) passed. $700B made available to purchase troubled assets Reserve Primary Fund “Breaks the Buck” Federal Government takeover of Fannie Mae/Freddie Mac Merrill Lynch sold to Bank of America September 16th, 2008 September 14th, 2008 September 7th, 2008 September 15th, 2008 July 30th. 2008 September 25th, 2008 September 29th. 2008 October 3. 2008 The Financial landscape changes forever!

  23. Fed announces the availability of $540B in additional funds to purchase short term assets from money market mutual funds Fed makes emergency move to lend $1.3T to companies outside financial sector Wells Fargo makes a better offer and scoops Wachovia away from Citigroup. Central Banks worldwide cut interest rates in coordinated effort to save global economy Fed pledges $800B more to shore up financial system US taps $700B TARP fund to take an equity position in nine largest banks in US US Government rescues Citigroup with an additional $20B Fed announces an additional $900B in loans to banks Dow Jones average loses 22% of its value. Worst week in 75 years October 6th, 2008 October 6-10th. 2008 October 14th, 2008 October 28th. 2008 October 8th, 2008 Oct 3rd. 2008 October 7th, 2008 November 25th . 2008 November 24th . 2008 Trying to put humpty dumpty back together again!!

  24. So, What Now???

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