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Monday, Dec. 1, 2008

U.S. could ignite growth in six months

Obama has time to help homeowners, automakers but should skip tax hike for now: Barron's

Staff writer

The global financial crisis that erupted in the United States this fall appears to be largely under control, but how long the recession in the world's largest economy will last depends on the actions of the administration of Barack Obama, the editor of Barron's weekly said at a recent seminar in Tokyo.

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Edwin A. Finn Jr., editor and president of Barron's weekly, said he has a more optimistic take on the situation than the prevailing view on Wall Street, which thinks the recession will be very deep and last for at least another year.

"We think that the recession could be over sometime in the next six months, and that stocks could bottom sometime in the next two to three months."

This is because historical trends show that a recovery in stocks usually precedes a recovery in the economy, Finn said.

Finn was speaking at a Nov. 18 seminar organized by the Keizai Koho Center on the theme, "What's ahead for stocks, bonds and the economy?: A post-election perspective on Wall Street."

Finn said the measures taken by the U.S. and European governments following the collapse of Lehman Brothers in September may not have been perfect but worked "fairly well" in arresting the financial contagion.

Given the series of "rapid-fire consolidations" that have taken place in the banking industry since then, "I do not think there will be another major U.S. financial institution going out of business in this cycle," Finn said.

Although the Lehman bankruptcy was seen as triggering the turmoil, Finn said it "accelerated the activity that had to take place."

Japan took well over a decade after the implosion of its late 1980s bubble economy to consolidate the banking industry, make banks stronger and force them to eat their bad loans, he pointed out. In the United States, however, a lot of the work involved in amalgamating the weak with the strong took a matter of months, he said.

Still, Finn said the seriousness of the economic problems hobbling the United States is such that it requires "extraordinary measures to correct the situation."

After logging 0.3 percent negative growth in the third quarter, Finn said he thinks the fourth quarter will reveal a 3 percent contraction.

"American consumers' mood is as glum as I have seen in the last 20 years," he said, mentioning October's dismal retail figures, and any stimulus measures being planned will have to be strong enough to trigger an immediate rise in consumer spending this Christmas, he said.

About 10 to 12 percent of subprime mortgages are in default and about 20 to 30 percent are in arrears, Finn said. While the issue remains controversial, a better solution for helping homeowners would be to mark down the mortgages' principals to the point where people can make their monthly payments and avoid foreclosure, he said.

Finn also said it would be wise for the government to help General Motors and Ford because it would a "very bad thing" if the auto giants had to seek bankruptcy protection, although he noted that Chrysler, the smallest of the Big Three, may have to be left behind.

And in rescuing GM and Ford, the government should exact concessions from management, shareholders and labor unions, Finn said.

"What's needed is more realistic wages and benefits packages for workers at GM and Ford," he said.

The problem with the U.S. auto industry, he said, is that it has "too many auto manufacturing plants" that are "devoted to the cause of the past," such as large SUVs that consume too much gasoline, and "not enough to the cause of the future," like hybrid and electric cars that are more fuel-efficient.

There is a "disconnect between what the government wants in the long term and what's financially possible for U.S. auto manufacturers in the short term," Finn said. "The problem is they don't have the money to retool to make those cars. Designing cars takes years, creating new plants to create new cars costs billions of dollars."

Although the Big Three recently received $25 billion in loans from the government, the use of that money is contingent on the automakers making more fuel-efficient cars.

While Obama indicated during the election that he would raise taxes on upper-income earners and cut rates for the middle class, Finn said the new president should "not raise taxes on anyone for another year, just to keep the economy going."

The prevailing mood in the United States is to support tax hikes on upper-income earners to close the gap with the middle class, which has widened in recent years. But "we argue that now is not the time to raise taxes on anybody," he said.

Finn said that he did not want to play down the "big risk" that the U.S. stock market "could go down a lot further" and that "this could be a deep and very difficult recession." Still, he said he is "very confident the stock market will be higher a year from now than it is now," even if it plunges another 30 percent at some point in the months ahead.

One of the reasons Finn and his colleagues at the magazine are more optimistic than Wall Street, he said, is that most individual investors in stocks are "investing on the long term" for their retirement plans. Less than 5 percent of investors have pulled their money out of stocks "because people take a very long view" of the market, he said.

This is equally true of the Japanese stock market, Finn said.

"There are a lot of investors who are looking at the stocks in Japan and seeing quality companies selling at very good prices, and if they are long-term investors, they are interested in buying," he told the audience.

Finn also said that the anticipated "shrinkage of the hedge fund universe" would probably mean less volatility for the stock market. The hedge-fund selling that has destabilized the market in recent months "is not over but has abated," he said.

Of the roughly 9,000 hedge funds in the United States, Finn predicted that about 2,000 will disappear.

"Some of them were just charging a lot of money for mediocre returns, some of them will lower their rates, and some of them will be abandoned by their shareholders . . . Investors are now being much tougher (on performance) than in the past," he said.

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