By Kathleen Madigan 
   A DOW JONES NEWSWIRES COLUMN 
 

NEW YORK (Dow Jones)--Disaster movies are wrapped around the unthinkable: alien invasions, asteroid crashes.

"American Casino," which has its New York theatrical premiere Wednesday night, focuses on a very real disaster: the destruction wreaked by the subprime mortgage debacle that triggered the collapse of the financial system, which in turn caused the worst recession since the Great Depression.

The documentary may not offer many new insights for those in the financial industry who lived through each excruciating turn of the crisis. But everyone else in the U.S. should find the documentary an engrossing tutorial on the mortgage market and how one segment of the financial system ruined so many lives.

Congress and regulators could learn something before they set about overhauling financial market oversight.

Leslie and Andrew Cockburn, the husband-and-wife team who have spent 30 years making documentaries and writing investigate articles on subjects from the Colombian drug wars to Iraq, were motivated by the signs of trouble in 2007, after the stock market slumped that summer and two Bear Sterns hedge funds ran into trouble. "What we tried to cover was: Why did this happen?" says Leslie, who directed the movie.

To answer that, "American Casino" explains - in plain English - how MBSs and CDOs and CDOs-squared actually work and how lax regulations allowed these esoteric credit instruments to permeate the entire financial system. An executive from Standard & Poor`s, a mortgage-backed security salesman, and a mortgage loan officer all discuss their roles in a system that was built on the premise that home prices always rise.

The film also follows the money down from banks to mortgage brokers to homeowners and back up the chain to investment banks packaging the loans into MBSs and selling them to investors.

While Wall Street masters of the universe pulled down millions in bonus money and lenders collected big fees, people, mostly African-Americans, in Baltimore lost their homes to foreclosure when they couldn`t make the higher payments after their adjustable-rate subprime loans reset.

The film lays blame at the feet of former Sen. Phil Gramm, former Fed Chairman Alan Greenspan and bankers who pushed borrowers into subprime mortgages that generated higher yields and fees for lenders. It`s far from a complete list. But then, the film is only 89 minutes long.

But there are good guys as well, especially Michael Greenberger, the director of trading and markets at the Commodity Futures Trading Commission in the 1990s, who warned of the dangers of removing oversight of derivatives.

What the movie - like other dissections of the mortgage debacle - skims over is that many Americans benefited from the housing boom. Thousands of construction workers cashed hefty paychecks. Millions of homeowners sold their homes at huge profits to buyers using questionable financing. Municipalities reaped a bonanza of property taxes.

And in a sad way, the movie already seems dated. The U.S. has moved onto other troubles: high unemployment, bankrupt auto makers, record deficits. Indeed, the recent rise in foreclosures is coming from jobless homeowners defaulting on their prime mortgages.

But that doesn`t mean we should ignore the lessons of the subprime mess. The Cockburns are dismayed that little progress has been made on the regulatory front. Andrew would like to see enforcement of existing regulations, especially truth-in-lending acts. He would also like it to be illegal for banks to force creditworthy borrowers into a subprime loan. A small step to prevent a similar debacle in the future.

More information about American Casino can be found at www.americancasinothemovie.com

(Kathleen Madigan, a special writer, is the primary author of the Big Picture column. She has been writing about the economy for over two decades at BusinessWeek and Wall Street firms. She can be reached on +1 212 416 2466 or via email at: kathleen.madigan@dowjones.com.)

TALK BACK: We invite readers to send us comments on this or other financial news topics. Please email us at TalkbackAmericas@dowjones.com. Readers should include their full names, work or home addresses and telephone numbers for verification purposes. We reserve the right to edit and publish your comments along with your name; we reserve the right not to publish reader comments.

Click here to go to Dow Jones NewsPlus, a web front page of today`s most important business and market news, analysis and commentary: http://www.djnewsplus.com/access/al?rnd=7vCNYoNKp8EfgGw9Wn0A4A%3D%3D. You can use this link on the day this article is published and the following day.

(END) Dow Jones Newswires

September 02, 2009 11:12 ET (15:12 GMT)

(This article was originally published Monday.)

 
 
   By Kathleen Madigan 
   A DOW JONES NEWSWIRES COLUMN 
 

NEW YORK (Dow Jones)--If Washington succeeds in reforming the financial markets, U.S. consumers and businesses may have to live with less credit. That may not be bad if the limit comes from the demand side rather than imposing higher costs on supply.

The National Association for Business Economics, a trade group for business economists, released a survey Monday of 266 economists on a range of policy issues. One interesting set of results covered financial reform.

A year ago, politicians were bellowing for an extreme makeover of the financial markets in the face of the credit market collapse. They were right to do so. After all, this severe recession has exposed the folly of excess borrowing. Now, such talk has been overshadowed by the uproar over health-care reform.

But financial-market reform isn`t dead, and economists were asked to weigh in on the best approach for taming the animal spirits of Wall Street.

"A trio of reforms had incredibly high approval rating," says Chris Varvares, the president of NABE and Macroeconomic Advisers.

These were regulating derivatives, requiring that lenders have "skin in the game" for securitizing mortgages, and reforming the rating agencies. An overwhelming majority of economists thought the three ideas would promote financial stability and benefit consumers and nonfinancial firms.

"But each idea had a cost: a limit of the supply of credit," Varvares says. A high percentage of economists in the survey thought that these reforms would reduce credit availability. That would make borrowing less accessible or more expensive.

But would less credit be bad? After all, consumers are now paying the price of the surge in credit, especially in mortgages, over the past 10 years. The need to repay existing debts - which helped fuel the last expansion - is why consumers have had to cut back on current spending - which is prolonging the current recession.

Credit is already more restrictive, thanks to the capital problems within the banking system and the new risk aversion. The Federal Reserve`s July survey of senior bank loan officers showed that more banks were tightening rather than easing credit standards on all types of loans.

But when Washington finally does take up financial-market reform, it is important to bear in mind that there is a difference between limits to demand and limits to supply.

Varvares warns against imposing new costs on lenders. That`s because the supply of credit would fall and business growth could be restricted. One lesson learned during the credit freeze of last year is that financing is the main lubricant for the economic engine.

On the other hand, the economy might benefit in the long run if credit growth is slowed because consumers have gained a new, more cautious, attitude about borrowing.

Indeed, one of the financial-market reforms being considered is creating a consumer financial protection agency that would educate borrowers about financial transactions. Economists think such an agency would benefit consumers, but, as with the others, at the cost of less credit.

(Kathleen Madigan, a special writer, is the primary author of the Big Picture column. She has been writing about the economy for over two decades at BusinessWeek and Wall Street firms. She can be reached on +1 212 416 2466 or via email at: kathleen.madigan@dowjones.com.)

TALK BACK: We invite readers to send us comments on this or other financial news topics. Please email us at TalkbackAmericas@dowjones.com. Readers should include their full names, work or home addresses and telephone numbers for verification purposes. We reserve the right to edit and publish your comments along with your name; we reserve the right not to publish reader comments.

Click here to go to Dow Jones NewsPlus, a web front page of today`s most important business and market news, analysis and commentary: http://www.djnewsplus.com/access/al?rnd=aRYUVpYKVvI7DbFf52kn9A%3D%3D. You can use this link on the day this article is published and the following day.

(END) Dow Jones Newswires

September 01, 2009 07:36 ET (11:36 GMT)

 
   By Kathleen Madigan 
   A DOW JONES NEWSWIRES COLUMN 
 

NEW YORK (Dow Jones)--If Washington succeeds in reforming the financial markets, U.S. consumers and businesses may have to live with less credit. That may not be bad if the limit comes from the demand side rather than imposing higher costs on supply.

The National Association for Business Economics, a trade group for business economists, released a survey Monday of 266 economists on a range of policy issues. One interesting set of results covered financial reform.

A year ago, politicians were bellowing for an extreme makeover of the financial markets in the face of the credit market collapse. They were right to do so. After all, this severe recession has exposed the folly of excess borrowing. Now, such talk has been overshadowed by the uproar over health-care reform.

But financial-market reform isn`t dead, and economists were asked to weigh in on the best approach for taming the animal spirits of Wall Street.

"A trio of reforms had incredibly high approval rating," says Chris Varvares, the president of NABE and Macroeconomic Advisers.

These were regulating derivatives, requiring that lenders have "skin in the game" for securitizing mortgages, and reforming the rating agencies. An overwhelming majority of economists thought the three ideas would promote financial stability and benefit consumers and nonfinancial firms.

"But each idea had a cost: a limit of the supply of credit," Varvares says. A high percentage of economists in the survey thought that these reforms would reduce credit availability. That would make borrowing less accessible or more expensive.

But would less credit be bad? After all, consumers are now paying the price of the surge in credit, especially in mortgages, over the past 10 years. The need to repay existing debts - which helped fuel the last expansion - is why consumers have had to cut back on current spending - which is prolonging the current recession.

Credit is already more restrictive, thanks to the capital problems within the banking system and the new risk aversion. The Federal Reserve`s July survey of senior bank loan officers showed that more banks were tightening rather than easing credit standards on all types of loans.

But when Washington finally does take up financial-market reform, it is important to bear in mind that there is a difference between limits to demand and limits to supply.

Varvares warns against imposing new costs on lenders. That`s because the supply of credit would fall and business growth could be restricted. One lesson learned during the credit freeze of last year is that financing is the main lubricant for the economic engine.

On the other hand, the economy might benefit in the long run if credit growth is slowed because consumers have gained a new, more cautious, attitude about borrowing.

Indeed, one of the financial-market reforms being considered is creating a consumer financial protection agency that would educate borrowers about financial transactions. Economists think such an agency would benefit consumers, but, as with the others, at the cost of less credit.

(Kathleen Madigan, a special writer, is the primary author of the Big Picture column. She has been writing about the economy for over two decades at BusinessWeek and Wall Street firms. She can be reached on +1 212 416 2466 or via email at: kathleen.madigan@dowjones.com.)

TALK BACK: We invite readers to send us comments on this or other financial news topics. Please email us at TalkbackAmericas@dowjones.com. Readers should include their full names, work or home addresses and telephone numbers for verification purposes. We reserve the right to edit and publish your comments along with your name; we reserve the right not to publish reader comments.

Click here to go to Dow Jones NewsPlus, a web front page of today`s most important business and market news, analysis and commentary: http://www.djnewsplus.com/access/al?rnd=LbLx1kOuFl2QgPYfU9%2Bw8g%3D%3D. You can use this link on the day this article is published and the following day.

(END) Dow Jones Newswires

August 31, 2009 16:00 ET (20:00 GMT)

(This article was originally published Thursday.)

 
 
   By Michael Casey 
   A DOW JONES NEWSWIRES COLUMN 
 

NEW YORK (Dow Jones)--Revisions to economic data are rarely cause for excitement, especially when the statisticians let their initial estimates stand.

But Thursday`s unchanged revision to second-quarter gross domestic product was different. For the most bullish investors it was cause for celebration.

That`s not just because the consensus looked for a downward revision from the 1.0% contraction reported last month to a 1.5% decline, but also because the report`s components confirmed the bulls` glass-half-full view.

Underneath the zero-change GDP result lay a stronger showing for consumer spending and exports, offset by a sharper decline in inventories. In other words, businesses opted to satisfy stronger-than-reported sales by destocking even more aggressively than was reflected in the initial estimate`s already-massive inventory drawdown.

Even if the sales level stays unchanged, this means businesses must ramp up orders significantly this quarter, fueling a surge in production. The recovery from the 18-month recession that`s widely thought to be underway this quarter could end up convincingly beating forecasts.

"Overall, the GDP report was decidedly positive, setting the stage for a bigger bounce of growth in Q3, largely from the bigger drawdown in inventories," said Michelle Meyer, economist at Barclays Capital.

Meyer sees upside risks to her firm`s forecast for a 3.5% third-quarter GDP expansion. If Barclays is too low, then the broader market will be even more pleasantly surprised - for now, the consensus estimate sits around 2.2%.

A key reason for the lowball consensus lies in labor market weakness. Even as weekly jobless claims signal a slower pace of job losses, the outlook for the labor market remains extremely weak, with unemployment at a 26-year-high.

Along with a debilitated banking system, this is why Federal Reserve and other U.S. policymakers speak of a tepid recovery. They warn that with credit- and jobs-deprived consumers reticent to crank up spending, the recovery will not return the 6% to 7% growth rates seen at the end of most past recessions.

Their caution remains well-founded - it will take much time to clean up the mess left by the worst financial crisis in 80 years.

Nonetheless, Thursday`s numbers - coupled with positive signals in home sales and other data - convincingly discredit the most extreme doomsayers, those predicting a so-called "double dip" recession. This group argues that the forthcoming withdrawal of government stimulus measures, such as the "cash-for-clunkers" car purchase rebate and the first homebuyer`s tax credit, will remove a vital crutch, stopping the recovery in its tracks in the fourth quarter or early next year.

There are two flaws to this gloomy thesis.

First, the second-quarter inventory drawdown - of which autos played a central part - reflected little impact from the government incentives, which kicked in later. The restocking process is going to take longer, too.

Second, the real meat in the government`s $787 billion stimulus package - its infrastructure spending component - is poised to take hold just as the car- and home-buying incentives disappear.

Optimists betting on a more sustained recovery will look to forthcoming data to prove their point - among them, the August industrial production number, out mid-September.

While the stock market`s almost-50% rally from its March low already reflects a rosier outlook, sentiment is far from one-sided. Double-dip prophets continue to command a following and consensus growth forecasts are still on the conservative side.

That`s why bulls see a bias for more risk appetite when the next wave of data comes in.

(Michael Casey, a special writer with Dow Jones Newswires, writes a regular column about the fixed income market. Previously he was Newswires` Buenos Aires bureau chief and before that, assistant managing editor for the U.S. economy, Treasurys and foreign exchange group in New York. He can be reached at +1 212 416 2209 or via email at michael.j.casey@dowjones.com.)

TALK BACK: We invite readers to send us comments on this or other financial news topics. Please email us at TalkbackAmericas@dowjones.com. Readers should include their full names, work or home addresses and telephone numbers for verification purposes. We reserve the right to edit and publish your comments along with your name; we reserve the right not to publish reader comments.

Click here to go to Dow Jones NewsPlus, a web front page of today`s most important business and market news, analysis and commentary: http://www.djnewsplus.com/access/al?rnd=I5gpE8lrGQfJ4vkJC6SOkQ%3D%3D. You can use this link on the day this article is published and the following day.

(END) Dow Jones Newswires

August 28, 2009 07:36 ET (11:36 GMT)

 
   By Michael Casey 
   A DOW JONES NEWSWIRES COLUMN 
 

NEW YORK (Dow Jones)--Revisions to economic data are rarely cause for excitement, especially when the statisticians let their initial estimates stand.

But Thursday`s unchanged revision to second-quarter gross domestic product was different. For the most bullish investors it was cause for celebration.

That`s not just because the consensus looked for a downward revision from the 1.0% contraction reported last month to a 1.5% decline, but also because the report`s components confirmed the bulls` glass-half-full view.

Underneath the zero-change GDP result lay a stronger showing for consumer spending and exports, offset by a sharper decline in inventories. In other words, businesses opted to satisfy stronger-than-reported sales by destocking even more aggressively than was reflected in the initial estimate`s already-massive inventory drawdown.

Even if the sales level stays unchanged, this means businesses must ramp up orders significantly this quarter, fueling a surge in production. The recovery from the 18-month recession that`s widely thought to be underway this quarter could end up convincingly beating forecasts.

"Overall, the GDP report was decidedly positive, setting the stage for a bigger bounce of growth in Q3, largely from the bigger drawdown in inventories," said Michelle Meyer, economist at Barclays Capital.

Meyer sees upside risks to her firm`s forecast for a 3.5% third-quarter GDP expansion. If Barclays is too low, then the broader market will be even more pleasantly surprised - for now, the consensus estimate sits around 2.2%.

A key reason for the lowball consensus lies in labor market weakness. Even as weekly jobless claims signal a slower pace of job losses, the outlook for the labor market remains extremely weak, with unemployment at a 26-year-high.

Along with a debilitated banking system, this is why Federal Reserve and other U.S. policymakers speak of a tepid recovery. They warn that with credit- and jobs-deprived consumers reticent to crank up spending, the recovery will not return the 6% to 7% growth rates seen at the end of most past recessions.

Their caution remains well-founded - it will take much time to clean up the mess left by the worst financial crisis in 80 years.

Nonetheless, Thursday`s numbers - coupled with positive signals in home sales and other data - convincingly discredit the most extreme doomsayers, those predicting a so-called "double dip" recession. This group argues that the forthcoming withdrawal of government stimulus measures, such as the "cash-for-clunkers" car purchase rebate and the first homebuyer`s tax credit, will remove a vital crutch, stopping the recovery in its tracks in the fourth quarter or early next year.

There are two flaws to this gloomy thesis.

First, the second-quarter inventory drawdown - of which autos played a central part - reflected little impact from the government incentives, which kicked in later. The restocking process is going to take longer, too.

Second, the real meat in the government`s $787 billion stimulus package - its infrastructure spending component - is poised to take hold just as the car- and home-buying incentives disappear.

Optimists betting on a more sustained recovery will look to forthcoming data to prove their point - among them, the August industrial production number, out mid-September.

While the stock market`s almost-50% rally from its March low already reflects a rosier outlook, sentiment is far from one-sided. Double-dip prophets continue to command a following and consensus growth forecasts are still on the conservative side.

That`s why bulls see a bias for more risk appetite when the next wave of data comes in.

(Michael Casey, a special writer with Dow Jones Newswires, writes a regular column about the fixed income market. Previously he was Newswires` Buenos Aires bureau chief and before that, assistant managing editor for the U.S. economy, Treasurys and foreign exchange group in New York. He can be reached at +1 212 416 2209 or via email at michael.j.casey@dowjones.com.)

TALK BACK: We invite readers to send us comments on this or other financial news topics. Please email us at TalkbackAmericas@dowjones.com. Readers should include their full names, work or home addresses and telephone numbers for verification purposes. We reserve the right to edit and publish your comments along with your name; we reserve the right not to publish reader comments.

Click here to go to Dow Jones NewsPlus, a web front page of today`s most important business and market news, analysis and commentary: http://www.djnewsplus.com/access/al?rnd=CIsrIqgd%2BLmkhB0nEsDfWg%3D%3D. You can use this link on the day this article is published and the following day.

(END) Dow Jones Newswires

August 27, 2009 13:44 ET (17:44 GMT)

(This article was originally published Wednesday.)

 
 
   By Kathleen Madigan 
   A DOW JONES NEWSWIRES COLUMN 
 

NEW YORK (Dow Jones)--The U.S. economy is dominated by services and consumers. Yet it`s the smaller, manufacturing sectorthat will lead growth in the first phase of recovery.

That`s because the recent fiscal stimulus and coming inventory restocking benefits U.S. factories.

Durable goods orders rose 4.9% in July, larger than the 3.0% gain expected. Much of the surge reflected volatile aircraft bookings. But even excluding aircraft, orders rose 0.8%, the third increase in a row.

The order gains "underscore the rapidly brightening prospects for the manufacturing sector," says Stephen Gallagher, Societe Generale Americas Securities chief economist.

The improvement was also seen in the manufacturing surveys conducted by the Federal Reserve banks of New York, Philadelphia and Richmond. The reports indicate activity picking up in August, with shipments in each region particularly strong.

Thanks in part to the surveys, economists at Morgan Stanley forecast the Institute of Supply Management`s national manufacturing purchasing manager`s index will rise to 51 in August. That would be the first time since January 2008 that the PMI is above the 50-mark that denotes an expanding factory sector.

It`s not just a U.S. trend. PMIs in the euro zone, China and Japan all show improving industrial sectors.

The U.S. factory recovery comes from two sources.

First is the need by businesses, including wholesalers and retailers, to rebuild their inventories. Stockpiles were cut down by an unprecedented amount in the first half. And with demand picking up, even slightly, businesses need to restock merchandise and supplies.

Second is stimulus money. Goods-producers offer more bang for the government buck through the multiplier effects from suppliers and raw material producers. That`s why the stimulus programs have been geared toward goods producers, mainly auto makers and home builders.

The "cash for clunkers" program cleared out dealer inventory, and auto makers are revving up production schedules. General Motors Co. has called back 1,350 workers in the U.S. and Canada and offered overtime for 10,000 workers, while Ford Motor Co. (F) is boosting its vehicle production by 26% in the second half.

Meanwhile, the tax credit for first-time buyers is spurring home demand and thus construction. As a result, the monthly drops in the production of construction supplies, so steep in the winter and spring, have begun to taper off.

Next up is a rebate plan for energy-efficient appliances expected to roll out this autumn. The U.S. Department of Energy will pay out $300 million in rebates for the purchases of refrigerators, freezers, furnaces and water heaters.

It`s not just consumer goods. Economists at RDQ Economics point out that July nondefense capital goods orders excluding aircraft, viewed as a proxy for future capital spending, stood at an annual rate of 22.7% above their second-quarter average. Those orders will lift production of business equipment, electronics and supplies.

To be sure, the manufacturing sector has been brutalized by this recession. From December 2007 until July 2009, output plunged 16.6%, and factory operating rates dropped to a record low of 64.7% in June. Almost two million factory workers have lost their jobs.

But the sector is heaving itself out of its deep hole, pulling the rest of the economy with it.

(Kathleen Madigan, a special writer, is the primary author of the Big Picture column. She has been writing about the economy for over two decades at BusinessWeek and Wall Street firms. She can be reached on 212-416-2466 or via email at kathleen.madigan@dowjones.com.)

(TALK BACK: We invite readers to send us comments on this or other financial news topics. Please email us at TalkbackAmericas@dowjones.com. Readers should include their full names, work or home addresses and telephone numbers for verification purposes. We reserve the right to edit and publish your comments along with your name; we reserve the right not to publish reader comments.)

Click here to go to Dow Jones NewsPlus, a web front page of today`s most important business and market news, analysis and commentary: http://www.djnewsplus.com/access/al?rnd=CIsrIqgd%2BLmkhB0nEsDfWg%3D%3D. You can use this link on the day this article is published and the following day.

(END) Dow Jones Newswires

August 27, 2009 07:36 ET (11:36 GMT)

 
   By Kathleen Madigan 
   A DOW JONES NEWSWIRES COLUMN 
 

NEW YORK (Dow Jones)--The U.S. economy is dominated by services and consumers. Yet it`s the smaller, manufacturing sectorthat will lead growth in the first phase of recovery.

That`s because the recent fiscal stimulus and coming inventory restocking benefits U.S. factories.

Durable goods orders rose 4.9% in July, larger than the 3.0% gain expected. Much of the surge reflected volatile aircraft bookings. But even excluding aircraft, orders rose 0.8%, the third increase in a row.

The order gains "underscore the rapidly brightening prospects for the manufacturing sector," says Stephen Gallagher, Societe Generale Americas Securities chief economist.

The improvement was also seen in the manufacturing surveys conducted by the Federal Reserve banks of New York, Philadelphia and Richmond. The reports indicate activity picking up in August, with shipments in each region particularly strong.

Thanks in part to the surveys, economists at Morgan Stanley forecast the Institute of Supply Management`s national manufacturing purchasing manager`s index will rise to 51 in August. That would be the first time since January 2008 that the PMI is above the 50-mark that denotes an expanding factory sector.

It`s not just a U.S. trend. PMIs in the euro zone, China and Japan all show improving industrial sectors.

The U.S. factory recovery comes from two sources.

First is the need by businesses, including wholesalers and retailers, to rebuild their inventories. Stockpiles were cut down by an unprecedented amount in the first half. And with demand picking up, even slightly, businesses need to restock merchandise and supplies.

Second is stimulus money. Goods-producers offer more bang for the government buck through the multiplier effects from suppliers and raw material producers. That`s why the stimulus programs have been geared toward goods producers, mainly auto makers and home builders.

The "cash for clunkers" program cleared out dealer inventory, and auto makers are revving up production schedules. General Motors Co. has called back 1,350 workers in the U.S. and Canada and offered overtime for 10,000 workers, while Ford Motor Co. (F) is boosting its vehicle production by 26% in the second half.

Meanwhile, the tax credit for first-time buyers is spurring home demand and thus construction. As a result, the monthly drops in the production of construction supplies, so steep in the winter and spring, have begun to taper off.

Next up is a rebate plan for energy-efficient appliances expected to roll out this autumn. The U.S. Department of Energy will pay out $300 million in rebates for the purchases of refrigerators, freezers, furnaces and water heaters.

It`s not just consumer goods. Economists at RDQ Economics point out that July nondefense capital goods orders excluding aircraft, viewed as a proxy for future capital spending, stood at an annual rate of 22.7% above their second-quarter average. Those orders will lift production of business equipment, electronics and supplies.

To be sure, the manufacturing sector has been brutalized by this recession. From December 2007 until July 2009, output plunged 16.6%, and factory operating rates dropped to a record low of 64.7% in June. Almost two million factory workers have lost their jobs.

But the sector is heaving itself out of its deep hole, pulling the rest of the economy with it.

(Kathleen Madigan, a special writer, is the primary author of the Big Picture column. She has been writing about the economy for over two decades at BusinessWeek and Wall Street firms. She can be reached on 212-416-2466 or via email at kathleen.madigan@dowjones.com.)

(TALK BACK: We invite readers to send us comments on this or other financial news topics. Please email us at TalkbackAmericas@dowjones.com. Readers should include their full names, work or home addresses and telephone numbers for verification purposes. We reserve the right to edit and publish your comments along with your name; we reserve the right not to publish reader comments.)

Click here to go to Dow Jones NewsPlus, a web front page of today`s most important business and market news, analysis and commentary: http://www.djnewsplus.com/access/al?rnd=tkncacjqPtCBrwfU68vC2w%3D%3D. You can use this link on the day this article is published and the following day.

(END) Dow Jones Newswires

August 26, 2009 14:13 ET (18:13 GMT)

(This article was originally published Thursday.)

 
 
   By Kathleen Madigan 
   A DOW JONES NEWSWIRES COLUMN 
 

NEW YORK (Dow Jones)--All good things must come to an end, including the Federal Reserve's $1.25 trillion program to buy mortgage-backed securities.

Those purchases were aimed at calming the strained mortgage markets and lifting home sales, but are set to run their course by year-end or early 2010. As long as the process is well communicated and gradual, the Fed's exit may not lift mortgage rates much.

From January to April, the Fed and the Treasury Department were the dominant buyers in the MBS market, racking up shares of up to 70% of securities issued monthly. As a result, mortgage rates have stayed extremely low - the 30-year fixed mortgage stood at 5.15% last week - allowing home sales to edge up since spring.

The government's purchases have diminished as private investors have come back into a calmer market, says Michael Fratantoni of the Mortgage Bankers Association. But the Fed has already bought about $720 billion of MBS, putting it on pace to reach its $1.25 trillion limit by year-end or early 2010. He says he expects upcoming Federal Open Market Committee announcements to lay out clearly how the Fed will stop buying MBS.

Also affecting the Fed's timing could be changes expected for mortgage lenders Fannie Mae (FNM) and Freddie Mac (FRE), say economists at Goldman Sachs. The Obama administration has said it will propose next February plans for the restructuring of the two housing finance giants, which were placed under government conservatorship last September.

Although it is too early to know how the changes could affect conforming mortgage rates (rates on mortgages that meet Fannie and Freddie lending standards), the Goldman economists conclude, "This may provide the Fed additional incentive to transition the [MBS] program into the first quarter of 2010."

What happens to the mortgage market once the Fed exits?

"If the trend of private-sector buying continues, then it's a reasonable shot of a smooth transition" of the Fed leaving the market, says Fratantoni. And he says he expects the Fed's efforts to sell off its MBS portfolio will take a long time, because the U.S. central bank won't want to disrupt the market.

If so, the effect on rates could be muted. Mortgage rates generally are priced off 10-year Treasury notes, with the long-term spread between the two rates averaging about 170 basis points. That gap was held down artificially by the Fed purchases, narrowing to about 145 basis points in some weeks this year. The Goldman economists expect the gap between mortgage rates and 10-year Treasury yields will widen again as the program runs out.

Without the Fed's influence, mortgage rates will be driven by market fundamentals. Interest rates tend to rise when stronger economic activity increases credit demand. Investors also want to be compensated better if inflation expectations increase, even gradually. In addition, the influx of Treasury borrowings to cover another $1 trillion federal budget deficit next fiscal year will require a higher Treasury yield to attract enough investors.

Consequently, most economists expect rates to edge up next year as the recovery takes hold and the budget deficit remains above $1 trillion. The Mortgage Bankers Association expects the 30-year rate to rise to a range of 5.6% to 6% over the course of 2010.

The rate rise isn't expected to hold back home sales, says the MBA's Fratantoni. Although sales could fall back early in 2010 with the end of a federal tax credit, better economic growth and stabilized home prices should allow sales to creep higher for the year as a whole.

But higher mortgage rates will slow refinancing activity, removing one source of extra cash for consumer spending next year. The MBA expects refinancings are on pace to hit $1.2 trillion this year, but will edge down to about $1 trillion in 2010.

(Kathleen Madigan, a special writer, is the primary author of the Big Picture column. She has been writing about the economy for more than two decades at BusinessWeek and Wall Street firms. She can be reached on +1-212-416-2466 or via email at: kathleen.madigan@dowjones.com.)

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(END) Dow Jones Newswires

August 21, 2009 07:38 ET (11:38 GMT)

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