The Norwegian Finance Minister Kristin Halvorsen is quoted today by Verdens Gang as saying "our oil can become worthless" because of "climate taxes" on burnt oil. She said this in Bali, where she flew for the climate meeting. Of course this climate meeting burns loads of fossil fuels just to get all the politicians there. But I suppose it is important that they get to discuss this, and shine a bit in the press before reality comes swooping in and they can't fly that much or that far any more. Later a spokesman for Halvorsen denied "considering cutting oil production for environmental concerns" and that "There is nothing in the government (program) declaration about a reduction in the pace of production" and "it was not an problematic issue".
However, reality says that the pace of oil production in Norway is problematic. Today Norway is the world's fifth largest oil exporter, pumping roughly 2.4 million barrels per day. However, production has fallen sharply since the top around the year 2000, and is not likely to reverse that trend. So even though what Kristin Halvorsen said was a bit confused, it is likely that they will have to use some kind of cover-up for why they are reducing their oil production.
Also, implying that their oil will become worth less in the future is pure nonsense. With world oil production probably in permanent decline, the remaining oil will on average just become worth more and more. Of course prices will jump up and down, depending on economic factors, but the main price trend for oil is up. It might even make sense for some big producer countries to voluntarily reduce their production in order to boost the price, thereby making even more money in the long run, and saving some of their reserves for hard times. So far, however, nobody seems interested in doing this, but time will tell whether we will see such policies in the future.
2007-12-11
2007-11-27
Shanghai Bubble Finally Bursting?
As I have mentioned before, the Shanghai Stock Exchange has had one of the biggest bubbles in history over the last two years. The SSEC index has gone up from a low of 1067 on 28 October 2005 to a high of 6124 on 16 October 2007, an increase of 474% over less than two years!
Click the graph for a larger version.
Since then it has declined to close at 4861 on 27 November. Is this drop of more than 20% the popping of the bubble, or just another false alarm? There have been two previous big scares for Chinese investors this year, the first one in February-March, the second one in June-July, but the Shanghai Stock Exchange recovered from both of them and kept on chugging upwards. However, this latest drop is bigger (percentage-wise) than any of the previous two. If it continues, we could very well see one of the most epic stock market crashes in history.
Click the graph for a larger version.Since then it has declined to close at 4861 on 27 November. Is this drop of more than 20% the popping of the bubble, or just another false alarm? There have been two previous big scares for Chinese investors this year, the first one in February-March, the second one in June-July, but the Shanghai Stock Exchange recovered from both of them and kept on chugging upwards. However, this latest drop is bigger (percentage-wise) than any of the previous two. If it continues, we could very well see one of the most epic stock market crashes in history.
2007-11-23
Internet Bubble Version 2.0
Don't think the Internet bubble of 1999-2000 scared all investors away from hyperinflated Internet stocks. I'm thinking of for instance Google, currently trading at $660 per share. Alright, down a good bit from the top of $742 two weeks ago, but still dizzyingly high at a price/earnings of about 52. This means that if they manage to keep their earnings as high as now and give all of their earnings back to their shareholders (which they of course don't), it would take about 52 years for a shareholder to get his money back in dividend. Now, what if earnings start dropping, with a recession coming on? Other Internet bubble stocks right now are Amazon, with a price/earnings of about 93 (!) and Yahoo, with a price/earnings of about 50. Price/earnings this high of course means that the markets expect the earnings to increase, but just how many more advertisers want to advertise with Google or Yahoo? Or are they going to pay more for advertising there? And how many more books and CDs can Amazon sell per year? Or are they going to take higher profit margins on each sold book?
For comparison, Microsoft and Cisco both have a p/e of 22, which is still considered to be on the high side. How long would you like to wait to get your invested money back? 22 years? Make that 10 and it starts to sound like a reasonable investment.
For comparison, Microsoft and Cisco both have a p/e of 22, which is still considered to be on the high side. How long would you like to wait to get your invested money back? 22 years? Make that 10 and it starts to sound like a reasonable investment.
2007-11-22
100 Dollar Oil Soon?
I don't think anybody has missed the fact that oil prices have risen sharply over the last years. This is not only due to the drop in the dollar, but mainly caused by supply not keeping up with demand. Last spring the world had an "oil shock" when prices of crude oil (WTI) went above $75 per barrel for a while. Then prices dropped back to as low as $50 per barrel in January 2007, only to continue their climb all through the year. WTI oil was up to $98.50 per barrel on 7 November, then fell back to just above $90, and then went back up again to $99 per barrel yesterday morning, and fell back a bit later during the day.
Here's a graph of WTI oil prices since January 2006 for you:
Today, trading in oil is probably not so heavy in the USA, due to the Thanksgiving holiday. However, the North Sea Brent oil jumped up by $4 per barrel today, so if the same trend continues tomorrow, we might very well see WTI oil over $100 dollars then. This is probably a very important psychological barrier, and might cause serious repercussions across financial markets. Expect all major newspaper to have $100 oil as first page news the day after it hits us.
Oil is a major driving factor behind today's inflation, so expect to see higher inflation. Oil prices affect the price of everything. Not only will filling up your car be more expensive, but also air travel, food, and everything else. It will take longer time for the higher oil price to trickle through into some areas, but eventually it will raise prices of everything, because oil is needed to produce stuff, to transport it from the factory to the consumer, to build new factories, to build and maintain infrastructure (e.g. railways, roads, sewers). Air, car and diesel train travel will of course be hit rather fast by higher oil prices. In the long run, however, electric train travel will become more expensive too, even if the electricity comes from hydropower plants. This is because the maintenance of the railways requires diesel-driven machines. New locomotives, carriages and wagons also require oil to build them, to run the mining equipment for the raw materials, etc. In the end, maintenance of hydropower plants also requires oil.
There has been speculation over how much the price of oil has been inflated lately by hedge funds and other investors speculating in oil futures. However, there is a simple reason for the higher prices, and that is supply. The International Petroleum Monthly for October from EIA provides the simple answer that world oil production has actually declined since the top in July 2006, see chart below:
Meanwhile demand is increasing steadily, especially in places like China. The supply situation is most likely not going to improve other than temporarily, since it seems we have actually passed "peak oil" now. Many experts believe this, among them Matthew Simmons. So how is the world going to solve this problem?
Here's a graph of WTI oil prices since January 2006 for you:
Today, trading in oil is probably not so heavy in the USA, due to the Thanksgiving holiday. However, the North Sea Brent oil jumped up by $4 per barrel today, so if the same trend continues tomorrow, we might very well see WTI oil over $100 dollars then. This is probably a very important psychological barrier, and might cause serious repercussions across financial markets. Expect all major newspaper to have $100 oil as first page news the day after it hits us.Oil is a major driving factor behind today's inflation, so expect to see higher inflation. Oil prices affect the price of everything. Not only will filling up your car be more expensive, but also air travel, food, and everything else. It will take longer time for the higher oil price to trickle through into some areas, but eventually it will raise prices of everything, because oil is needed to produce stuff, to transport it from the factory to the consumer, to build new factories, to build and maintain infrastructure (e.g. railways, roads, sewers). Air, car and diesel train travel will of course be hit rather fast by higher oil prices. In the long run, however, electric train travel will become more expensive too, even if the electricity comes from hydropower plants. This is because the maintenance of the railways requires diesel-driven machines. New locomotives, carriages and wagons also require oil to build them, to run the mining equipment for the raw materials, etc. In the end, maintenance of hydropower plants also requires oil.
There has been speculation over how much the price of oil has been inflated lately by hedge funds and other investors speculating in oil futures. However, there is a simple reason for the higher prices, and that is supply. The International Petroleum Monthly for October from EIA provides the simple answer that world oil production has actually declined since the top in July 2006, see chart below:
Meanwhile demand is increasing steadily, especially in places like China. The supply situation is most likely not going to improve other than temporarily, since it seems we have actually passed "peak oil" now. Many experts believe this, among them Matthew Simmons. So how is the world going to solve this problem?- If you think nuclear power is a solution, just take a look at how uranium prices have increased over the last years. And don't forget that since 1985, uranium production has not kept up with demand. The gap has been filled by stockpiles mostly from military sources, but that cannot go on forever.
- If you think wind power is a solution, just contemplate that it would take 3 million large "wind mills" to replace the 85 million barrels of oil used per day in the world today.
- If you think hydropower is a solution, remember that there aren't all that many rivers left to harness around the world. And do we really want to sacrifice the last free running rivers?
- If you think solar power is a solution, maybe you should be aware of the fact that the silicon required to produce them is in short supply in the world today, and the situation is not likely to improve over the next couple of years.
- Biofuels are out of the question as a replacement, because even if we used all available farmland, we would still only be able to replace a few percent of the oil used today.
- Natural gas is not a very good replacement for oil either, because it is becoming more expensive too.
- Coal might be a feasible replacement for oil for a decade or two, before supplies start declining there too. However, it is very dirty!
- Saving energy is a solution. There are lots of ways the world, and especially the rich countries in the world, can save energy.
2007-09-27
Swedish Housing Still a Bubble
My view is still that Sweden is in a housing bubble, like most western European countries. Signature "ju" asked me on a forum why I don't compare to incomes, which have risen in Sweden over the last years. So I did some more number crunching, and here's an improved version of my Swedish housing bubble graph, with a green line for inflation adjusted mean income. I've also included housing price data up to Q2 2007 and trend lines (thanks to "Kons" for suggesting trend lines).
(Data source SCB. FPI=Fastighetsprisindex småhus, Mean Income=Sammanräknad förvärvsinkomst. 1975=100 for housing prices, 1999=100 for incomes)
As you can clearly see, housing prices in Sweden have risen much faster than the average income (I only have income data for 1991-2005), so while inflation-adjusted incomes have indeed risen, we are still in a housing bubble. How far will housing prices fall?
As you can see the graph is slightly more "bubblish" than for the whole of Sweden.
Now housing bubbles burst slowly, so the process will take a few years to play out. I expect "experts" to call a bottom in housing many times during the coming years, but prices will still keep on falling.
Now what effects will such a large fall in housing prices have on the economy? Large effects, of course. Many people will be stuck with loans way bigger than the value of their home. But maybe we should ask the question the other way around - what economic events could trigger such a large fall in housing prices? Read what I have previously written on this blog about potential dangers in the world economy, and you will get some hints about what might cause such a powerful recession.
Speaking of housing bubbles, the top economic advisor of the Spanish prime minister came up with some unbelievable quotes last week:
(Data source SCB. FPI=Fastighetsprisindex småhus, Mean Income=Sammanräknad förvärvsinkomst. 1975=100 for housing prices, 1999=100 for incomes)
As you can clearly see, housing prices in Sweden have risen much faster than the average income (I only have income data for 1991-2005), so while inflation-adjusted incomes have indeed risen, we are still in a housing bubble. How far will housing prices fall?- A fall down to the trend line is about 30%.
- A fall down to the average for 1975-2003 is about 45%.
- A fall down to the lows of the early 1990's is about 55%.
As you can see the graph is slightly more "bubblish" than for the whole of Sweden.- A fall to the trend line is about 30%
- A fall to the average for 1975-2003 is about 55%
- A fall to the lows of the early 1990's is about 65%!!
Now housing bubbles burst slowly, so the process will take a few years to play out. I expect "experts" to call a bottom in housing many times during the coming years, but prices will still keep on falling.
Now what effects will such a large fall in housing prices have on the economy? Large effects, of course. Many people will be stuck with loans way bigger than the value of their home. But maybe we should ask the question the other way around - what economic events could trigger such a large fall in housing prices? Read what I have previously written on this blog about potential dangers in the world economy, and you will get some hints about what might cause such a powerful recession.
Speaking of housing bubbles, the top economic advisor of the Spanish prime minister came up with some unbelievable quotes last week:
A residential real estate slump in Spain, where prices have almost tripled since 1997, is "unthinkable," the top economic adviser of Prime Minister Jose Luis Rodriguez Zapatero said. [...]Remember those quotes and remind Mr. Taguas about them in a few years' time!
"To talk about severe adjustments or a meltdown in prices is ridiculous," Taguas said in response to reports pointing to an end of the Spanish real estate boom. "That sort of crisis is unthinkable." [...]
The Spanish banking system is also solid enough to withstand rising financing costs triggered by the fallout from the surge in defaults in the U.S. subprime mortgage market. A run on mortgage- lenders such as Newcastle, U.K.-based Northern Rock Plc or funding difficulties like those at Countrywide Financial Corp. in the U.S. are "unthinkable" in Spain, Taguas said.
2007-09-21
Extreme Events
For now, the global financial markets seem to have calmed down. But the "background noise" of bad news is still there. Since late 2006, 159 US mortgage lenders have already broken down in some way, and new ones are added to the list every week. Housing prices are still falling in the US, and the bubble seems to be about to pop in Europe too, where Spain and the UK seem to be first in line for a major housing bubble correction. Prices of oil and cereals are still rising sharply. The US dollar continues its fall. The interbank rate (e.g. LIBOR) is still well above 6 percent. Many businesses find it hard to get loans or to roll over their loans. Bloomberg reports:
"The U.S. commercial paper market shrank for a sixth week, extending the biggest slump in at least seven years"
"Commercial paper investments have declined $354.5 billion, or almost 16 percent, since the week ended Aug. 8"
I can't believe that everything is now well after a number of extreme events in August and September:
I guess there will be a few weeks of calm before we see the next extreme event. How many extreme events can the world financial markets handle before an avalanche is set off? Don't forget that everything is tied up by trillions of dollars in derivatives.
If we get bankrupts increasing because of the problems for companies to get loans, we will see a test of the credit default swaps (CDS). The amount of CDSs outstanding is equivalent in size to total world GDP. It's already doubtful whether many issuers of CDSs can live up to their promises. And who holds all these CDSs? Default by a big enough company somewhere in the world could thus cause a cascade of bankrupts and defaults, since both the issuer and the holder of a CDS might go down, in their turn bringing down other holders and issuers of CDSs.
There are even more interest rate swaps and currency swaps than CDSs. What happens to the issuers of these when interest rates and currencies start to move quickly and in unexpected ways? And don't forget that many hedge funds speculate in these kinds of financial instruments.
Like the Chinese curse says: "May you live in interesting times..."
"The U.S. commercial paper market shrank for a sixth week, extending the biggest slump in at least seven years"
"Commercial paper investments have declined $354.5 billion, or almost 16 percent, since the week ended Aug. 8"
I can't believe that everything is now well after a number of extreme events in August and September:
- At the beginning of August, some banks obviously had major problems, and central banks all over the world had to inject liquidity to keep the wheels going, on a scale not seen since September 2001, and in some cases never seen before.
- The US FED unexpectedly lowered the discount rate by ½ percent on 17 August.
- There was a "run on the bank" in British Northern Rock 14-18 September. When was the last time we saw a run on the bank in Britain? This was so serious that US Treasury Secretary Henry Paulson suddenly decided to fly over to London to meet the British Chancellor of the Exchequer Alistair Darling. On 18 September the British Government announced that they would guarantee all deposits at Northern Rock. Whew! Crisis averted for some time.
- Little more than a month after Ben Bernanke said that inflation was his main worry, he lowered the Fed Funds rate and discount rate by ½ percent on 18 September. This of course caused the US dollar to fall like lead.
- Saudi Arabia did not lower the interest rate this time. They have so far followed interest rate changes in the US, and their currency is pegged to the US dollar. This of course raises fears that they will now unpeg their currency from the US dollar, which would cause mass exits from the US dollar and possibly a dollar collapse.
I guess there will be a few weeks of calm before we see the next extreme event. How many extreme events can the world financial markets handle before an avalanche is set off? Don't forget that everything is tied up by trillions of dollars in derivatives.
If we get bankrupts increasing because of the problems for companies to get loans, we will see a test of the credit default swaps (CDS). The amount of CDSs outstanding is equivalent in size to total world GDP. It's already doubtful whether many issuers of CDSs can live up to their promises. And who holds all these CDSs? Default by a big enough company somewhere in the world could thus cause a cascade of bankrupts and defaults, since both the issuer and the holder of a CDS might go down, in their turn bringing down other holders and issuers of CDSs.
There are even more interest rate swaps and currency swaps than CDSs. What happens to the issuers of these when interest rates and currencies start to move quickly and in unexpected ways? And don't forget that many hedge funds speculate in these kinds of financial instruments.
Like the Chinese curse says: "May you live in interesting times..."
2007-09-08
The R Word
Some really bad US job statistics hit the news this Friday. Non-farm payrolls were -4000 jobs instead of the expected +100,000. This is the first time in four years that job growth was actually negative. On top of that the preliminary figures for June and July were revised downwards substantially. And, to make matters worse, 592,000 people left the workforce, meaning that they have probably given up trying to find a job. Now the "R word" is sure to come any day soon - recession.
Treasury Secretary Henry Paulson's comments on the job statistics are priceless. He's desperately trying to instill comfort when this news has probably convinced even the most hardened optimists that the US economy will make a hard landing, and pessimists now predict a crash landing. Some quotes:
The Mortgage Situation
Higher unemployment will of course lead to more people falling behind on their mortgage payments. Foreclosures have already hit an all-time high of 0.65 percent during the second quarter of this year, making this the third consecutive quarter in which a record is set. Delinquencies are also up - 14.82 percent of subprime loans are behind in their payments, but delinquencies in the prime area are also up from 2.58 to 2.73 percent. Expect this to turn worse.
Housing prices are sinking, partly because it has become much more difficult to get a loan. More foreclosures will also mean more houses for sale on an already saturated market. Expect housing prices to sink much more.
To make matters worse for the poor foreclosed home-owners, if the house sells below the amount of the loan, and the rest of the loan is forgiven by the lender, the amount forgiven is taxed as income for the borrower. This could lead to really serious problems for many people who are already in trouble.
There have been proposals (notably from George W. Bush) to bail out home-owners in some way to alleviate the effects of the current housing mess. However, with a recession coming on, where is the government going to find funds for such a bailout? A recession means less tax money coming in, so the only alternative is to borrow money. But borrow from whom? Most Americans don't have any surplus to put into US bonds, and foreign investors will be unwilling to invest more in US government paper if there is a major inflation risk. And that brings me to the subject of...
Inflation
Apart from moving the stock markets down, the bad jobs news on Friday also took the US dollar down by more than 0.6 percent. The US dollar index (against other currencies) is now definitely below 80 and has now broken its 15-year low. Expect it to fall further unless some miracle news turns up. This means that all imported stuff will be more expensive in the USA.
To counter this bad trend for the US$, the only thing the FED could do would be to increase the interest rate, but what's really needed to alleviate the current domestic economic situation is an interest rate cut, which is what everyone expects the FED will announce on September 18. So the FED basically has its hands tied behind its back when it comes to fighting inflation.
Besides, there are two inflation factors over which the FED has no control - food and energy. I know that the "core inflation" figures the FED prefers to watch exclude food and energy, but in the real world food and energy prices have strong effects on the economy. People just cannot live without them. Food prices are rising sharply, as I have said before, due to a global shortage of wheat and other grains. President Bush could do something about this inflation factor, however, by cutting all subsidies to the grain-to-ethanol business. Of course this would mean a disaster for that business, but it would probably be a big help in fighting inflation. Though I don't expect him to do this, since he's too committed to it.
Oil prices are also rising, in case anybody failed to notice. On this Tuesday (11 September) OPEC will have a meeting to decide their production quotas. It is highly improbable that they will increase their production, since they probably cannot (this has been thoroughly analysed at The Oil Drum). OPEC will probably keep production at the current level, thereby keeping world market prices high. This means that the slightest disruption in this tight market could send oil prices upwards. Goldman Sachs already expects oil prices to hit $95/barrel this year (they're at about $75 now).
Many Companies in (Potential) Trouble
The current credit crunch is also a severe threat to the economy. Even if the FED lowers its rates, many loans (commercial and private) are tied to the LIBOR. The 3-month LIBOR is currently up to 5.70 percent, thereby increasing interest payments for all loans tied to it. It has also become much harder to actually get a loan. Outstanding commercial paper has contracted by nearly $300 billion over the last four weeks (source: Credit Bubble Bulletin). So many businesses will have a hard time due to either higher interest payments, lack of funding, or both.
Of course, all businesses connected to the housing boom are in even worse trouble. For example home builder Beazer received notices of default this week from a bondholders' group, while luxury home builder Hovnanian reported losses for the fourth quarter in a row.
For mortgage lenders you can watch the Implode-o-meter to see them going down one by one. The biggest one, Countrywide Financial, announced on Friday that they will cut 12,000 jobs (20% of their workforce).
Countrywide also seem to have been into some shady stuff too. They even seem to have neglected sending required paperwork to the IRS. Is this the beginning of another Enron-style scandal?
It is also getting harder for mortgage lenders to get funding. Citigroup announced that their First Collateral Services unit won't accept new clients for "warehouse" credit lines, which provide cash to mortgage banks so they can fund home purchases and refinancings. Does this also imply that Citigroup sees problems with their current clients? How many bad housing loans are actually connected to Citigroup in some way?
Citigroup also might have other troubles. Like many other banks, they have so-called SIVs (Structured Investment Vehicles) and conduits, which operate separately from the bank and are not on its balance sheet, but generate investment profit (hopefully) for the bank. According to Wall Street Journal, Citigroup "owns about 25% of the market for SIVs, representing nearly $100 billion of assets under management". If these SIVs start going bad Citigroup might have to help them out or take on some of their losses. Now according to Wikipedia, Citigroup, apart from being the world's largest bank is also the world's largest company (by assets), so hopefully they can sort out quite large amounts of problem debt.
Treasury Secretary Henry Paulson's comments on the job statistics are priceless. He's desperately trying to instill comfort when this news has probably convinced even the most hardened optimists that the US economy will make a hard landing, and pessimists now predict a crash landing. Some quotes:
"it takes a while for confidence to return""A while" - ha - it will probably take years to sort this mess out.
"The economy will continue to grow in the second half of the year"Oh yeah? That would be sensational. First this "unexpected" drop in jobs, and then he expects us to get another surprise when we suddenly see job growth again in September or October. Does he actually believe this himself?
Paulson, who had a regular breakfast meeting with Fed Chairman Ben S. Bernanke today, said he had "great confidence'' in the central bank."Helicopter Ben" is probably glad to hear that there's still at least one person who has not lost confidence in him.
"But I feel quite strongly that we have a resilient economy."Well, let's hope that, but don't bet on it. Things might break quicker than Paulson can say "resilient economy".
The Mortgage Situation
Higher unemployment will of course lead to more people falling behind on their mortgage payments. Foreclosures have already hit an all-time high of 0.65 percent during the second quarter of this year, making this the third consecutive quarter in which a record is set. Delinquencies are also up - 14.82 percent of subprime loans are behind in their payments, but delinquencies in the prime area are also up from 2.58 to 2.73 percent. Expect this to turn worse.
Housing prices are sinking, partly because it has become much more difficult to get a loan. More foreclosures will also mean more houses for sale on an already saturated market. Expect housing prices to sink much more.
To make matters worse for the poor foreclosed home-owners, if the house sells below the amount of the loan, and the rest of the loan is forgiven by the lender, the amount forgiven is taxed as income for the borrower. This could lead to really serious problems for many people who are already in trouble.
There have been proposals (notably from George W. Bush) to bail out home-owners in some way to alleviate the effects of the current housing mess. However, with a recession coming on, where is the government going to find funds for such a bailout? A recession means less tax money coming in, so the only alternative is to borrow money. But borrow from whom? Most Americans don't have any surplus to put into US bonds, and foreign investors will be unwilling to invest more in US government paper if there is a major inflation risk. And that brings me to the subject of...
Inflation
Apart from moving the stock markets down, the bad jobs news on Friday also took the US dollar down by more than 0.6 percent. The US dollar index (against other currencies) is now definitely below 80 and has now broken its 15-year low. Expect it to fall further unless some miracle news turns up. This means that all imported stuff will be more expensive in the USA.
To counter this bad trend for the US$, the only thing the FED could do would be to increase the interest rate, but what's really needed to alleviate the current domestic economic situation is an interest rate cut, which is what everyone expects the FED will announce on September 18. So the FED basically has its hands tied behind its back when it comes to fighting inflation.
Besides, there are two inflation factors over which the FED has no control - food and energy. I know that the "core inflation" figures the FED prefers to watch exclude food and energy, but in the real world food and energy prices have strong effects on the economy. People just cannot live without them. Food prices are rising sharply, as I have said before, due to a global shortage of wheat and other grains. President Bush could do something about this inflation factor, however, by cutting all subsidies to the grain-to-ethanol business. Of course this would mean a disaster for that business, but it would probably be a big help in fighting inflation. Though I don't expect him to do this, since he's too committed to it.
Oil prices are also rising, in case anybody failed to notice. On this Tuesday (11 September) OPEC will have a meeting to decide their production quotas. It is highly improbable that they will increase their production, since they probably cannot (this has been thoroughly analysed at The Oil Drum). OPEC will probably keep production at the current level, thereby keeping world market prices high. This means that the slightest disruption in this tight market could send oil prices upwards. Goldman Sachs already expects oil prices to hit $95/barrel this year (they're at about $75 now).
Many Companies in (Potential) Trouble
The current credit crunch is also a severe threat to the economy. Even if the FED lowers its rates, many loans (commercial and private) are tied to the LIBOR. The 3-month LIBOR is currently up to 5.70 percent, thereby increasing interest payments for all loans tied to it. It has also become much harder to actually get a loan. Outstanding commercial paper has contracted by nearly $300 billion over the last four weeks (source: Credit Bubble Bulletin). So many businesses will have a hard time due to either higher interest payments, lack of funding, or both.
Of course, all businesses connected to the housing boom are in even worse trouble. For example home builder Beazer received notices of default this week from a bondholders' group, while luxury home builder Hovnanian reported losses for the fourth quarter in a row.
For mortgage lenders you can watch the Implode-o-meter to see them going down one by one. The biggest one, Countrywide Financial, announced on Friday that they will cut 12,000 jobs (20% of their workforce).
Countrywide also seem to have been into some shady stuff too. They even seem to have neglected sending required paperwork to the IRS. Is this the beginning of another Enron-style scandal?
It is also getting harder for mortgage lenders to get funding. Citigroup announced that their First Collateral Services unit won't accept new clients for "warehouse" credit lines, which provide cash to mortgage banks so they can fund home purchases and refinancings. Does this also imply that Citigroup sees problems with their current clients? How many bad housing loans are actually connected to Citigroup in some way?
Citigroup also might have other troubles. Like many other banks, they have so-called SIVs (Structured Investment Vehicles) and conduits, which operate separately from the bank and are not on its balance sheet, but generate investment profit (hopefully) for the bank. According to Wall Street Journal, Citigroup "owns about 25% of the market for SIVs, representing nearly $100 billion of assets under management". If these SIVs start going bad Citigroup might have to help them out or take on some of their losses. Now according to Wikipedia, Citigroup, apart from being the world's largest bank is also the world's largest company (by assets), so hopefully they can sort out quite large amounts of problem debt.
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