Track the Stimulus

Last week's second quarter GDP report was encouraging.  While the economy contracted 1.0%, it was a significant improvement over the 6.4% slump experienced in the first quarter, and provided the more clear indication that the recession may be bottoming, and recovery could be in the horizon.  Although upbeat on a relative basis, the report highlighted the weakness in the economy and the potential for a disappointing upturn.  Personal consumption went down in the quarter thus providing a cold shower to those that saw an imminent recovery in consumer spending.  Business spending while not falling as precipitously as in the last couple of quarters, was still falling.  What prevented the economy from continuing on its deeply recessionary path was federal government spending through the stimulus and other programs.  Private sector and consumer investments in durable goods were disappointing as all of the growth in durable goods purchases were defense oriented.  Consumer confidence also slipped in July.  As the stimulus funds are designed to flow through the economy this year and next, for any recovery to be sustainable, the private sector needs to start spending again.

This week, the unemployment report on Friday will dominate the headlines.  Unemployment may be a lagging indicator, but without assurances that the employment picture is going to get better, consumers will continue increasing their savings levels and reducing their spending becoming a drag to the economy.  Personal income and spending numbers on Tuesday will reflect the mood of the consumer, while the ISM index on Monday will provide a first look at the manufacturing sector's health.

The CARS (Car Allowance Rebate System) program, also known as "cash for clunkers" was a smashing success: within a week of having been introduced, and the program has already ran out of its $1 billion in funding.  The program designed to improve the energy efficiency of vehicles on the road while spurring some demand for new vehicles provided a cash incentive of $3,500 or $4,500 (depending on how fuel efficient the new vehicle is with respect to the "clunker") towards the purchase of a new vehicle.  While the official rules were not announced until July 24th, the program was approved over a month ago, which meant that many dealerships were already taking orders under the program.  As soon as the rules became official, all those sales rapidly overwhelmed the capacity of the system in place.  Given the popularity of the program, the House on Friday passed legislation to provide an additional $2 billion in funding; it is now up to the Senate to do the same.  It is expected that they do so; otherwise the program will be closed as of this Tuesday.  Got to our "New Vehicle Purchase Incentives" page for details on what vehicles are eligible and whether you should rush to your dealer if the program does receive the additional funding.

On the stimulus front, another $3 billion were paid out to recipients of federal contracts bringing the total to over $70 billion of the $200 billion or so in discretionary spending allocated under the American Recovery and Reinvestment Act.  It is worth reiterating that this does not necessarily mean that final contracts have been signed for the work to be performed; it rather indicates the funds have left the federal government and now are in the hands of local authorities to contract for the work.  The pace of contracting and spending is expected to increase over the next few months. 

Among some of the interesting "stimulus" developments announced last week, the Department of Energy (DoE) opened its loan guarantee program to fund renewable energy projects worth up to $30 billion, and also to improve the reliability, efficiency and security of the electric grid.  Also, the DoE, through the Treasury Department, will be making direct payments to companies that create and place in service renewable energy facilities (e.g. solar, wind, bio-mass, etc.) to cover a portion of the cost - the DoE estimates that it will make $3 billion in such payments, which in the past used to be available only through tax credits.  The DoE has awarded approximately $8.5 billion of the close to $39 billion that it was authorized to spend, though almost none of the funds has been spent to date.  Most of the funds awarded so far have been for environmental management ($4.2 billion) and for renewable energy projects ($3.5 billion).  This DoE link provides a detailed summary of the projects awarded and the winning parties.

The department of Housing and Urban Development (HUD) announced that it was extending the reach of the Home Affordable Modification Plan (HAMP) to mortgage loans backed by the Federal Housing Authority (FHA).  Under the FHA-HAMP program, homeowners that have an FHA loan and are 30 days or more in default may be able to modify their loans so that the principle due on the primary mortgage can be reduced by 30%, with the modified amount only due at the time of sale of the property, or when the mortgage expires.  Check out our FHA-HAMP page for the details. 

In a related event, the Treasury Department summoned officials of 25 mortgage-servicing companies to analyze how to improve the pace of mortgage modifications and to press them to reduce the time it takes for modifications to be put in place and to increase the number of modifications. So far less than 200,000 modifications are underway and another 170,000 or so have been offered; the goal of the government is to have 500,000 trial modifications underway by November 1st - still a far cry from the 3-4 million that the government estimated the program would help.  It is unclear exactly what steps the servicing companies will be taking to address these issues.  One of the reasons for the slow pace of modifications is that servicer companies' operations were not designed to handle the process of modifying loans; this has placed significant strains on their systems and processes that take time to correct.  Another issue is that in some cases some of the holders of the loans, which are also the servicers, are better served by letting the letting the property go into foreclosure.  The rather perverse rationale is that the foreclosure process takes longer than a modification; until the home is foreclosed and sold, the bank does not need to recognize the loss (between the principal and interest still due on the loan and the amount actually fetched) on its books and bank can go on pretending that the loan is actually worth something close to 100 cents on the dollar, which comes in handy when trying to prove capital adequacy ratios and presenting quarterly results.  We will have to wait and see what specific plans will be put in place to improve the mortgage modification process; in the meantime, we should find out this week which servicers are modifying loans and which ones are dragging their feet, as the data on loan modifications is published.

As mentioned earlier, this week some important economic data will be released that will provide clues onto the trajectory of the economy: the July unemployment report, personal income and spending, and manufacturing activity.  Stay tuned...

Have a good week,
Jaime

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