Mish's Global Economic Trend Analysis

LA Pledges $100 Million to Fight Homelessness: Why Stop There? Why Not $1 billion? Why Not $20 Billion?
Chicago Tax Collector Hath Arrived With Massive Tax Hike: Emanuel Says "No Stone Unturned ... Not Done Yet"
Bubble Debate; Equity Allocations vs. Shiller PE; Simple World

LA Pledges $100 Million to Fight Homelessness: Why Stop There? Why Not $1 billion? Why Not $20 Billion?

Posted: 23 Sep 2015 02:33 PM PDT

Public Emergency

In yet another example that proves economic stupidity has no bounds, Los Angeles Puts $100 Million Into Helping Homeless.

Flooded with homeless encampments from its freeway underpasses to the chic sidewalks of Venice Beach, municipal officials here declared a public emergency on Tuesday, making Los Angeles the first city in the nation to take such a drastic step in response to its mounting problem with street dwellers.

The spending proposal will need to be approved by the City Council and allocated by its Homelessness and Poverty Committee. The $100 million figure was chosen in part for its symbolism, said Herb J. Wesson Jr., the City Council president, to show county, state and federal officials that the city was willing to make a significant contribution to an urgent problem.

"Encampments used to be contained to Skid Row, where city officials would try to control or ignore them," said Gary Blasi, a law professor at the University of California, Los Angeles, who has studied homelessness in the region for years. "Plans have been made, and never made it off the paper they're written on. It's not clear what will be delivered. And do the math here — it doesn't amount to much at all."

In New York, Mr. Blasi said that hundreds of existing housing vouchers went unused because homeless people could not find landlords who would accept them.

Ding Ding Ding

Ding, ding, ding, we have a math winner!

I am not quite certain if Blasi is arguing for more or less spending, but he is the first person other than me, that I am aware of, to bring math into the equation.

LA vs. EU

Question of the day: Other than a sense of scale, is the homelessness crisis in Los Angeles that much different than the refugee crisis in Europe?

Unlimited Demand for Free Services

In LA, as in the EU, there is a virtually unlimited demand for free food, free shelter, and free services.

Offer $100 million and the need will grow overnight to $1 billion. Offer $1 billion and the need will grow overnight to $20 billion.

Offering free food, free services, and free shelter cannot possibly cure a problem caused by free services, especially in a desirable temperate climate.

Blasi says: "Do the math here — it [$100 Million] doesn't amount to much at all."

On Tuesday, in regards to Europe (but it may just as well have been LA), I wrote EU Ministers Ram Through Quota Plan; Mish Does "The Math" .

By all means, let's have a math discussion.

Mike "Mish" Shedlock

Chicago Tax Collector Hath Arrived With Massive Tax Hike: Emanuel Says "No Stone Unturned ... Not Done Yet"

Posted: 23 Sep 2015 11:05 AM PDT

On May 4th I wrote Beware, the Tax Man Has Eyes on You: Potential Hike for Illinoisans is Staggering.

Six months ago, Chicago Mayor Rahm Emanuel warned that without state legislation to modify the structure of police and fire pensions and implement a "smart funding formula," Chicago property tax bills would "explode" in 2016.

Today I report, the tax man hath arrived.

Mayor Rahm Emanuel says Now is the Time to Hike Taxes.

The "explosion" that Emanuel warned about in mid-March hit Chicago Tuesday as the mayor unveiled his $7.8 billion budget for 2016, and it wasn't pretty — even with the risky assumption that Gov. Bruce Rauner will sign legislation giving Chicago 15 more years to ramp up to 90 percent funding of police and fire pensions.

Emanuel's $712 million package of tax and fee hikes includes a four-year $588 million property tax increase for police and fire pensions and school construction; a $9.50-a-month garbage collection fee; $13 million in higher fees for building permits; a $1 million tax on e-cigarettes and $48 million in fees and surcharges on taxicabs and ride-sharing services that have siphoned business away from them.

The phased-in property tax increase would be the largest in Chicago history. Even so, the garbage fee has emerged as the biggest lightning rod — and Emanuel fully understands why.

It's a new fee for a service many homeowners believe, "is kind of baked in" to the normal property tax bill that would add $114 to the annual cost heaped on 613,000 Chicago owners of single-family homes, two-, three- and four-flats that still get city pickups. Senior citizens would get a 50 percent discount.

Emanuel said the dire alternative to a property tax increase is 2,500 police layoffs, 2,000 fewer firefighters, 48 fire station closings and twice-a-month garbage collection, instead of weekly pickups.

[Alderman Will] Burns agreed there is simply no other way out, but to place the burden squarely on homeowners — with both the $588 million property tax increase and the garbage collection fee.

"I am out of magic beans and magic pixie dust," Burns said.

Dire Predictions

The Chicago Tribune reports Emanuel Paints Dire Future Without Record Property Tax Hike.

Mayor Rahm Emanuel called on the city's 50 aldermen Tuesday to summon the courage to pass the largest property tax increase in modern Chicago history, and told them they could sell it to voters by painting a dire, if not quite dystopian, alternative.

If Emanuel cut the budget instead of raising taxes, then one out of five police officers would be dismissed. Half the fire stations shuttered. Rats would overrun graffiti-ridden alleys filled with overflowing Dumpsters as the city stopped rodent control and trash got picked up just twice a month. Streets would be riddled with even more potholes and little money to fix them.

"Our city would become unlivable," Emanuel said. "That would be totally unacceptable."

The reception was tepid, and at one point Emanuel had to repeat an applause line before the hand-clapping commenced.

The political reality is this: Emanuel is asking aldermen to put their jobs on the line and vote for a massive property tax hike while the mayor himself has not decided whether he too will face the voters again. Even if Emanuel does seek a third term, he has taken a step many politicians take: stack all the unpopular tax hikes and fee increases in the first year of the new term, the one furthest away from the next election.

Not Done Yet

Chicagoans beware! Emanuel explicitly warned he's "not done raising property taxes".

Emanuel also pledged "No Stone Unturned".

"We are going to address our challenges, and I think when the governor looks at the whole budget he will see that we didn't leave any stone unturned. It is fair, it is equitable. It's progressive," said Emanuel.

Not Fair, Not Equitable

What are taxes for if not services like garbage pickup, street sweeping, etc? The answer of course is untenable police, fire, and school pensions.

Yes, it's "progressive" all right, "progressive idiocy". Emanuel did not do, nor has he ever done anything to fix the structural problems.

The proper way to fix the school problem is for the school district to declare bankruptcy, a tactic Emanuel does not want to take.

Actually, the school district cannot take that action because Illinois does not allow municipal bankruptcies. However, if the mayor were behind the idea, it would likely pressure the Illinois legislature into action.

Emanuel claims he is being courageous. Passing tax hikes immediately after an election is not courageous. Admitting the school system is broke, unions are the reason, and taxpayers should not bear the brunt of the costs would be courageous.

Emanuel is both a coward and a pickpocket. With his dire warning about Chicago becoming unlivable, he is also a fear monger.

There is one thing you can count on, however. Emanuel is not yet done picking the pockets of Chicagoans. When Emanuel promised, "no stone unturned" you can bet your last tax dime on that.

Mike "Mish" Shedlock

Bubble Debate; Equity Allocations vs. Shiller PE; Simple World

Posted: 23 Sep 2015 01:16 AM PDT

Yale University market scholar Robert Shiller entered the bubble debate last week as noted in the Financial Times article Fears Grow Over US Stock Market Bubble.

The Nobel economics laureate told the Financial Times that his valuation confidence indices, based on investor surveys, showed greater fear that the market was overvalued than at any time since the peak of the dotcom bubble in 2000.

"It looks to me a bit like a bubble again with essentially a tripling of stock prices since 2009 in just six years and at the same time people losing confidence in the valuation of the market," he said.

Prof Shiller added there was no historical evidence for a link between interest rates and share prices. "You would think that when interest rates are higher people would sell stocks, but the financial world just isn't that simple."

He defended his now famous measure of valuation, often referred to as the Cape (for cyclically adjusted price/earnings multiple), which compares share prices to average earnings over the previous 10 years. This adjusts for the cyclicality of earnings.

Mr Shiller pointed out the fall in earnings in 2008 came as part of a severe recession. "Companies like to take write-offs right away during a recession. Then their earnings can recover from there. If I average over 10 years I don't see that as a problem. The average includes the actual losses that companies have made."

He said changing accounting standards could create difficulties for his model but added: "I think we're better off with changed accounting standards than if we ignored all the changes that happened since 1871."

Equity Allocations vs. Shiller PE

Michael Green at Ice Farm Capital emailed the above chart as well as the reference to the Financial Times article.

The chart shows equity allocations on the left axis vs. the Case-Shiller smoothed PE ratio on the right.

It is based on Ice Farm analysis using Shiller's and Fed Flow of Funds data.

Simple World

I had seen the Shiller piece before, but something caught my eye when I read it a second time.

"You would think that when interest rates are higher people would sell stocks, but the financial world just isn't that simple," said Shiller.

I am a big fan of Shiller's model. However, the above statement makes no sense because quite frankly, what Shiller suggests is impossible!

Simple Math

Here's a simple economic truism: Someone must hold every equity share and every bond 100% of the time.

In aggregate, it's impossible for people to sell stocks to buy bonds when interest rates are high (or vice versa). For every buyer of common stock there is a seller. Likewise, for every buyer of bonds there is a seller.

Sentiment can change (and pricing with it), but because of simple math, if there was an aggressive sentiment shift towards getting out of stocks in favor of high-yielding bonds, then bond yields would plunge.

At an individual level one can make changes, but at an aggregate level it is impossible.

Thus, the financial math is indeed simple. It's the timing of sentiment changes that makes it difficult for the individual and impossible for the aggregate investor.

Stocks vs. Bonds

Individually, one can sell stocks to buy bonds or vice versa. But what about the possibility that neither is the place to be?

Seven-Year Asset Class Real Return Projections

As of 2015-08-31 (posted on September 15), GMO sees things like this:

Purple highlights mine.

I like to repeat GMO's disclaimer so I do not misrepresent the chart.

*The chart represents real return forecasts for several asset classes and not for any GMO fund or strategy. These forecasts are forward‐looking statements based upon the reasonable beliefs of GMO and are not a guarantee of future performance. Forward‐looking statements speak only as of the date they are made, and GMO assumes no duty to and does not undertake to update forward‐looking statements. Forward‐looking statements are subject to numerous assumptions, risks, and uncertainties, which change over time. Actual results may differ materially from those anticipated in forwardlooking statements. U.S. inflation is assumed to mean revert to long‐term inflation of 2.2% over 15 years.

Care to Trade?

Care to trade US stocks for US Bonds?

If so, be prepared to trade negative 1.1% real returns in equities for negative 0.9% returns in US bonds.

If that were for a single year, no one would care. But that is the forecast every year for the next seven years on average.

In practice, it will not happen that way. For example, there easily could be a 40% plunge over the next year or so followed by a slow trudge sideways for three years then a rally back to where we are today over the next two years.

The possibilities are endless, that's just one example.

Note that GMO "real" returns assume mean reversion to 2.2% inflation over the next 15years. Nominal returns could be slightly better or worse, depending on how quickly the 2.2% inflation target is hit.

Pension Plan Assumptions

In general, pension plans assume 7.5% or so returns every year. Many pension plans, especially those in Illinois will be close to bankrupt if GMO's forecast is in the ballpark.

I personally think GMO is somewhat optimistic. I expect negative real returns for about 10 years.

Mike "Mish" Shedlock

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Wednesday, September 23, 2015

Mish's Global Economic Trend Analysis

Mish's Global Economic Trend Analysis

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