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G20 – US Currency Depreciation Possible

Nearly a year after the world narrowly avoided financial collapse, world leaders are gathered at Pittsburg to identify the next steps they need to take. The Group of 20 nations wrapped up with several key statements. But a lot of issues still remain blurred because it lacks specifics. The G20 positioned itself as the new steering body for the global economy; effectively replacing the G7/G8. India and China are now ranking ahead of old-world powers such as France and Italy.

The second important point is the agreement that the economic model founded on excess consumption is unsustainable. Countries like China need to change their economic model and rely less on exports. This is especially important if the US becomes successful in its intensions; that is, spend less, invest more, and focus on exports. A method to drive this objective is through depreciating the US dollar. While this may be a good strategy though, there was very little mention of currency depreciation at the G20 summit.

World leaders pledged that they will “withdraw out extraordinary policy support in a cooperative and coordinated way.” This statement implies that the G20 will try to avoid any disruptive currency depreciation or appreciation. If they do get involved in the currency movements of any member country, the timing, scale, as well as the sequencing of the process will vary on the circumstances.

The Financial Stability Board and the International Monetary Fund will also play a bigger role in policy coordination for the G20 countries. The organization will work together with finance ministers to determine the next steps ahead of the November meeting. Either way, the decision reached by the G20 will have a far-reaching impact on the world’s economy over the long-term.

Financial Overhaul Weakens as the Economic Shock Fades

About a year after the Lehman Brothers collapse, its shock waves across the globe seemed to have subsided. It can be remembered that the investment bank’s problematic demise intensified the deep recession in the US economy. In addition, it helped pave the way for the government’s significant role in managing the economy through corporate bailouts and other programs.

The Lehman Brothers is also significant because previous to its demise, the public relied mainly on markets to right themselves. Its failure made government intervention not only acceptable; it was also seen as a necessity. However, even if the impact of Lehman Brothers in terms of regulatory reforms is big, to a surprising degree, there are a lot of aspects in the financial industry that hasn’t changed. Because of this, many people are looking for bargains through comparison shopping.

Banks are Still Taking Risks

Major US banks cannot let go off their old habits. As profits got off their lows, executives are regaining their swagger. Right now, a lot of banks and other financial institutions are selling exotic products that pushed the economy on the brink of collapse last fall. In fact, their appetite for risks has even grown.

Collectively, the top five banks in the United States can potentially lose more than $1 billion any day in the second quarter of 2009 if their bets go sour. According to Peter Solomon, a former vice-chairman from Lehman Brothers, “there’s no fundamental change in the way banks are run or regulated…there’s just fewer of them.”

On the Regulatory Front

Even as financial industry is regaining its footing, lawmakers cannot seem to keep up. Democrats are getting bogged down by the infighting between bankers, federal regulators, and even other lawmakers who believe that expanding the government’s control on private firms might create more problems over the long term.

Washington officials say they heartened that the financial market seems to be healing but at the same time, they realize that new rules need to be established. It is important for them to get out of the current limbo to get the economy back in shape.

Corporate Bailout – Did the Government Earn Money?

With a number of banks set to repay TARP money back to the government, one question in many people’s mind is, “Did the taxpayer make money from the government’s initiative?” Well, the New York Times estimates that the government earned around $4 billion in profits from the repayments made by JPMorgan Chase, Goldman Sachs Group, Bank of New York Mellon Corp, BB&T Corp, US Bancorp, Morgan Stanley, American Express Co, and Northern Trust Corp. In addition, the government gained another $35 million from smaller banks. The banks issued Treasury warrants to purchase common stocks at a fixed price in the next 10 years and preferred shares that carry 5 percent dividend rate. In essence, the government derived its profits from increases in stock prices and the dividends it will receive.

But are the conditions really as good as it sounds? It should be noted that nothing about the deal is fool-proof. Also, a number of large banks have not yet repaid the government. Citigroup and Bank of America, for example, can hardly pay back the government with the state of their finances right now. The two large banks each received around $45 billion from the government. Some smaller banks might not be able to repay the government at all. And aside from banks, the government has infused billions of dollars into mortgage companies Fannie Mae and Freddie Mac as well as insurance company American International Group Inc. Even the auto industry has received more than its fair share with General Motors and Chrysler Group receiving a combined $65 billion. The government carries all these risks and more.

Mark Zandi, an economist from Moody’s estimates that the government will break-even from bank bailout. It might incur losses from its capital infusions in other industries. Overall, “the crisis is going to cost taxpayers money – but still less than a complete financial collapse and cratering of the economy would cost”. The US government’s biggest losses might come from the rescue of the auto industry as well as Fannie and Freddie. Right now, the government owns around 80 percent of Fannie Mae and Freddie Mac. Analyst estimates that it will take years before debt relief help for consumers can be seen, if that happens. More capital injections are expected because “there is no fundamental value remaining” in these companies.

There might be a chance for taxpayers to get more returns though. In particular, it can make money from the stocks it owns from the bailed out companies. However, policy makers and even officials want the government out of the companies even if it means losing a potentially big return if it waits for the value to rise. According to Martin Zimmerman, a former chief economist at Ford Motor Co. “the best solution is for the government to get out as soon as possible”.

Tax Hikes – What It Takes to Plug the US’s Gaping Budget Deficit?

National Economic Council Director Larry Summers and Treasury Secretary Tim Geithner provided rare good news about the US economy. It seems that the worst economic crisis that hit the country since World War II is finally coming to an end. However, this raises a new, and probably equally daunting question, “how will the Obama administration pay for its free spending ways?” It seems that President Obama will have no choice but to increase taxes or possibly, a second stimulus package?

Obama’s Broken Promises?

The administration’s economic officials have failed to assure the public that there won’t be any tax hikes despite the President’s previous (campaign) promise that Americans who earn less than $150,000 a year won’t see their taxes go up “by a single dime” while Obama is president. In fact, they did just the opposite; the hinted that middle-class Americans may need to pay more in order to pay the gaping budget deficit.

In separate television interviews, both Tim Geither and Larry Summers both did not clearly state the President’s intension. However, they refused to rule out tax hikes as well. Summers, as he was discussing the healthcare proposal, said that the funding needs to be sourced somewhere.

Meanwhile, Geither said that the White House will “do what it takes” to tackle the deficit problem. He further stated that “If we want an economy that’s going to grow in the future, people have to understand we have to bring those deficits down” while adding that the solution might come in the form of healthcare reforms.

Republican Reactions

The planned tax hike is, of course, greeted by angry protests from Republican critics. They say that this is another socialist reform by the Obama administration. John McCain, Obama’s rival for the presidency, stated that “it’s pretty clear that if you pump trillions of dollars into the economy, you will see some recovery”. But he cautions that the long term consequences of this action can be devastating.