CIT still fighting to stay out of bankruptcy

CIT still working to secure financing, stay out of bankruptcy despite government's rejection.

CIT Group Inc. is continuing talks with potential lenders to secure billions in much-needed financing and stay out of bankruptcy court after the U.S. government declined to extend emergency aid to the troubled commercial lender.

CIT shares lost three-quarters of their value Thursday as bondholders made a last-ditch effort to prevent a Chapter 11 bankruptcy filing. CIT is trying to line up $2 billion to $4 billion in rescue financing from its debtholders within the next 24 hours, two sources familiar with the talks told The Associated Press. They requested anonymity because they weren't authorized to speak publicly.

But there is no guarantee bondholders will be able to save the ailing company, which teeters on the brink after rescue talks with regulators broke off late Wednesday after days of round-the-clock negotiations. The New York-based bank, one of the country's largest lenders to small and mid-sized businesses, faces $7.4 billion in debt that's due in the first quarter of next year.

CIT, which got $2.3 billion of bailout money in December, had warned that depriving it of more federal aid could imperil about a million corporate borrowers -- from Dunkin' Donuts franchisees to retailer Dillards Inc. But the Obama administration turned down the company's request, showing it's drawing a line in the sand on federal rescues for troubled financial firms.

CIT bondholders discussed their options Thursday in a conference call that involved restructuring firm Houlihan Lokey, according to the sources. Another conference call with the largest bondholders was to be organized by bond manager Pimco, the sources said. Houlihan Lokey and Pimco didn't return calls seeking comment.

If CIT can improve its liquidity, either through debt restructuring or by getting an injection of private equity, that could give it better leverage to reopen talks with regulators. The most likely avenue for survival would be getting permission to transfer assets to the company's bank. The bank could then borrow against that money at a discount if the Fed allows it.

Such transfers require approval from the Fed and the FDIC because regulators don't want banks -- whose deposits are insured -- to risk insolvency by bailing out their parent companies.

Regulators resisted CIT's earlier plea for permission to make a transfer because they didn't think the company was strong enough, and worried it would default on any loans from the Fed. With a stronger balance sheet, CIT may make a better case.

But investors were acting as if bankruptcy were unavoidable, sending CIT shares skidding $1.23, or 75 percent, to close at 41 cents after sinking as low as 31 cents earlier in the session.

Both Fitch Ratings and Moody's further downgraded CIT's debt Thursday following the company's announcement that it expects no further federal support.

"I think it makes a bankruptcy filing a near certainty," banking analyst Bert Ely said of the refusal to bail out CIT.

For its part, the market seemed unfazed by CIT's woes, with all three of the major indices ending up about 1 percent Thursday. The muted response suggests investors are more focused on signs that the economic slump may be easing, said Paul Baiocchi, senior market strategist at Delta Global Advisors in San Francisco.

CIT's small size relative to other big commercial banks may also ease worries of a ripple effect. Though a major lender to small and midsize U.S. business with about a million clients, CIT is one-eighth of the size of Lehman Brothers when massive credit losses forced the investment bank into bankruptcy last fall.

CIT had also begun cutting back on lending in recent months, diminishing the risk a possible bankruptcy could cause significant damage to the broader economy. The lender had $5.3 billion in credit lines to customers as of March, down from $6.1 billion at the end of 2008.

"That shows they were pulling back and should lessen the immediate blow of this," said Kathleen Shanley, an analyst at corporate bond research firm Gimme Credit. "I don't see a real contagion effect here."

The Bush administration paid a price for its decision not to save Lehman Brothers, whose collapse helped spark the financial crisis last fall.

Asked about CIT, a Treasury Department spokeswoman said in an e-mail that "even during periods of financial stress, we believe that there is a very high threshold for exceptional government assistance to individual companies."

A bankruptcy filing would wipe out CIT's shareholders and the government's $2.3 billion stake. But CIT's clients would not automatically lose their lines of credit, longtime banking analyst Bert Ely said.

Still, with other lenders to retailers already under financial strain, many CIT clients may lose their financing options.

"The industry just won't be able to absorb the amount of volume," said Michael Cipriani, executive vice president of Rosenthal & Rosenthal Inc., a competitor of CIT that's considered healthy.

The company in April posted a larger first-quarter loss than expected and has seen funding options disappear as investors shy away from purchasing all but the safest forms of debt. The lender has $7.4 billion in debt coming due in the first quarter of 2010, plus other obligations.

Though a fraction of the size of big commercial banks, CIT's holdings are substantial. The company had $75.7 billion in assets as of March 31, according to a corporate filing.

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Lehman Brothers, which collapsed after former Treasury Secretary Henry Paulson declined to save it, listed $639 billion in assets when it filed for bankruptcy Sept. 15.

The other-worldly philosophers

Although the crisis has exposed bitter divisions among economists, it could still be good for economics. Our first article looks at the turmoil among macroeconomists.

ROBERT LUCAS, one of the greatest macroeconomists of his generation, and his followers are “making ancient and basic analytical errors all over the place”. Harvard’s Robert Barro, another towering figure in the discipline, is “making truly boneheaded arguments”. The past 30 years of macroeconomics training at American and British universities were a “costly waste of time”.

To the uninitiated, economics has always been a dismal science. But all these attacks come from within the guild: from Brad DeLong of the University of California, Berkeley; Paul Krugman of Princeton and the New York Times; and Willem Buiter of the London School of Economics (LSE), respectively. The macroeconomic crisis of the past two years is also provoking a crisis of confidence in macroeconomics. In the last of his Lionel Robbins lectures at the LSE on June 10th, Mr Krugman feared that most macroeconomics of the past 30 years was “spectacularly useless at best, and positively harmful at worst”.

These internal critics argue that economists missed the origins of the crisis; failed to appreciate its worst symptoms; and cannot now agree about the cure. In other words, economists misread the economy on the way up, misread it on the way down and now mistake the right way out.

On the way up, macroeconomists were not wholly complacent. Many of them thought the housing bubble would pop or the dollar would fall. But they did not expect the financial system to break. Even after the seizure in interbank markets in August 2007, macroeconomists misread the danger. Most were quite sanguine about the prospect of Lehman Brothers going bust in September 2008.

Nor can economists now agree on the best way to resolve the crisis. They mostly overestimated the power of routine monetary policy (ie, central-bank purchases of government bills) to restore prosperity. Some now dismiss the power of fiscal policy (ie, government sales of its securities) to do the same. Others advocate it with passionate intensity.

Among the passionate are Mr DeLong and Mr Krugman. They turn for inspiration to Depression-era texts, especially the writings of John Maynard Keynes, and forgotten mavericks, such as Hyman Minsky. In the humanities this would count as routine scholarship. But to many high-tech economists it is a bit undignified. Real scientists, after all, do not leaf through Newton’s “Principia Mathematica” to solve contemporary problems in physics.

They accuse economists like Mr DeLong and Mr Krugman of falling back on antiquated Keynesian doctrines—as if nothing had been learned in the past 70 years. Messrs DeLong and Krugman, in turn, accuse economists like Mr Lucas of not falling back on Keynesian economics—as if everything had been forgotten over the past 70 years. For Mr Krugman, we are living through a “Dark Age of macroeconomics”, in which the wisdom of the ancients has been lost.

What was this wisdom, and how was it forgotten? The history of macroeconomics begins in intellectual struggle. Keynes wrote the “General Theory of Employment, Interest and Money”, which was published in 1936, in an “unnecessarily controversial tone”, according to some readers. But it was a controversy the author had waged in his own mind. He saw the book as a “struggle of escape from habitual modes of thought” he had inherited from his classical predecessors.

That classical mode of thought held that full employment would prevail, because supply created its own demand. In a classical economy, whatever people earn is either spent or saved; and whatever is saved is invested in capital projects. Nothing is hoarded, nothing lies idle.

Keynes appreciated the classical model’s elegance and consistency, virtues economists still crave. But that did not stop him demolishing it. In his scheme, investment was governed by the animal spirits of entrepreneurs, facing an imponderable future. The same uncertainty gave savers a reason to hoard their wealth in liquid assets, like money, rather than committing it to new capital projects. This liquidity-preference, as Keynes called it, governed the price of financial securities and hence the rate of interest. If animal spirits flagged or liquidity-preference surged, the pace of investment would falter, with no obvious market force to restore it. Demand would fall short of supply, leaving willing workers on the shelf. It fell to governments to revive demand, by cutting interest rates if possible or by public works if necessary.

The Keynesian task of “demand management” outlived the Depression, becoming a routine duty of governments. They were aided by economic advisers, who built working models of the economy, quantifying the key relationships. For almost three decades after the second world war these advisers seemed to know what they were doing, guided by an apparent trade-off between inflation and unemployment. But their credibility did not survive the oil-price shocks of the 1970s. These condemned Western economies to “stagflation”, a baffling combination of unemployment and inflation, which the Keynesian consensus grasped poorly and failed to prevent.

The Federal Reserve, led by Paul Volcker, eventually defeated American inflation in the early 1980s, albeit at a grievous cost to employment. But victory did not restore the intellectual peace. Macroeconomists split into two camps, drawing opposite lessons from the episode.

The purists, known as “freshwater” economists because of the lakeside universities where they happened to congregate, blamed stagflation on restless central bankers trying to do too much. They started from the classical assumption that markets cleared, leaving no unsold goods or unemployed workers. Efforts by policymakers to smooth the economy’s natural ups and downs did more harm than good.

America’s coastal universities housed most of the other lot, “saltwater” pragmatists. To them, the double-digit unemployment that accompanied Mr Volcker’s assault on inflation was proof enough that markets could malfunction. Wages might fail to adjust, and prices might stick. This grit in the economic machine justified some meddling by policymakers.

Mr Volcker’s recession bottomed out in 1982. Nothing like it was seen again until last year. In the intervening quarter-century of tranquillity, macroeconomics also recovered its composure. The opposing schools of thought converged. The freshwater economists accepted a saltier view of policymaking. Their opponents adopted a more freshwater style of modelmaking. You might call the new synthesis brackish macroeconomics.

Pinches of salt

Brackish macroeconomics flowed from universities into central banks. It underlay the doctrine of inflation-targeting embraced in New Zealand, Canada, Britain, Sweden and several emerging markets, such as Turkey. Ben Bernanke, chairman of the Fed since 2006, is a renowned contributor to brackish economics.

For about a decade before the crisis, macroeconomists once again appeared to know what they were doing. Their thinking was embodied in a new genre of working models of the economy, called “dynamic stochastic general equilibrium” (DSGE) models. These helped guide deliberations at several central banks.

Mr Buiter, who helped set interest rates at the Bank of England from 1997 to 2000, believes the latest academic theories had a profound influence there. He now thinks this influence was baleful. On his blog, Mr Buiter argues that a training in modern macroeconomics was a “severe handicap” at the onset of the financial crisis, when the central bank had to “switch gears” from preserving price stability to safeguarding financial stability.

Modern macroeconomists worried about the prices of goods and services, but neglected the prices of assets. This was partly because they had too much faith in financial markets. If asset prices reflect economic fundamentals, why not just model the fundamentals, ignoring the shadow they cast on Wall Street?

It was also because they had too little interest in the inner workings of the financial system. “Philosophically speaking,” writes Perry Mehrling of Barnard College, Columbia University, economists are “materialists” for whom “bags of wheat are more important than stacks of bonds.” Finance is a veil, obscuring what really matters. As a poet once said, “promises of payment/Are neither food nor raiment”.

In many macroeconomic models, therefore, insolvencies cannot occur. Financial intermediaries, like banks, often don’t exist. And whether firms finance themselves with equity or debt is a matter of indifference. The Bank of England’s DSGE model, for example, does not even try to incorporate financial middlemen, such as banks. “The model is not, therefore, directly useful for issues where financial intermediation is of first-order importance,” its designers admit. The present crisis is, unfortunately, one of those issues.

The bank’s modellers go on to say that they prefer to study finance with specialised models designed for that purpose. One of the most prominent was, in fact, pioneered by Mr Bernanke, with Mark Gertler of New York University. Unfortunately, models that include such financial-market complications “can be very difficult to handle,” according to Markus Brunnermeier of Princeton, who has handled more of these difficulties than most. Convenience, not conviction, often dictates the choices economists make.

Convenience, however, is addictive. Economists can become seduced by their models, fooling themselves that what the model leaves out does not matter. It is, for example, often convenient to assume that markets are “complete”—that a price exists today, for every good, at every date, in every contingency. In this world, you can always borrow as much as you want at the going rate, and you can always sell as much as you want at the going rate.

Before the crisis, many banks and shadow banks made similar assumptions. They believed they could always roll over their short-term debts or sell their mortgage-backed securities, if the need arose. The financial crisis made a mockery of both assumptions. Funds dried up, and markets thinned out. In his anatomy of the crisis Mr Brunnermeier shows how both of these constraints fed on each other, producing a “liquidity spiral”.

What followed was a furious dash for cash, as investment banks sold whatever they could, commercial banks hoarded reserves and firms drew on lines of credit. Keynes would have interpreted this as an extreme outbreak of liquidity-preference, says Paul Davidson, whose biography of the master has just been republished with a new afterword. But contemporary economics had all but forgotten the term.

Fiscal fisticuffs

The mainstream macroeconomics embodied in DSGE models was a poor guide to the origins of the financial crisis, and left its followers unprepared for the symptoms. Does it offer any insight into the best means of recovery?

In the first months of the crisis, macroeconomists reposed great faith in the powers of the Fed and other central banks. In the summer of 2007, a few weeks after the August liquidity crisis began, Frederic Mishkin, a distinguished academic economist and then a governor of the Fed, gave a reassuring talk at the Federal Reserve Bank of Kansas City’s annual symposium in Jackson Hole, Wyoming. He presented the results of simulations from the Fed’s FRB/US model. Even if house prices fell by a fifth in the next two years, the slump would knock only 0.25% off GDP, according to his benchmark model, and add only a tenth of a percentage point to the unemployment rate. The reason was that the Fed would respond “aggressively”, by which he meant a cut in the federal funds rate of just one percentage point. He concluded that the central bank had the tools to contain the damage at a “manageable level”.

Since his presentation, the Fed has cut its key rate by five percentage points to a mere 0-0.25%. Its conventional weapons have proved insufficient to the task. This has shaken economists’ faith in monetary policy. Unfortunately, they are also horribly divided about what comes next.

Mr Krugman and others advocate a bold fiscal expansion, borrowing their logic from Keynes and his contemporary, Richard Kahn. Kahn pointed out that a dollar spent on public works might generate more than a dollar of output if the spending circulated repeatedly through the economy, stimulating resources that might otherwise have lain idle.

Today’s economists disagree over the size of this multiplier. Mr Barro thinks the estimates of Barack Obama’s Council of Economic Advisors are absurdly large. Mr Lucas calls them “schlock economics”, contrived to justify Mr Obama’s projections for the budget deficit. But economists are not exactly drowning in research on this question. Mr Krugman calculates that of the 7,000 or so papers published by the National Bureau of Economic Research between 1985 and 2000, only five mentioned fiscal policy in their title or abstract.

Do these public spats damage macroeconomics? Greg Mankiw, of Harvard, recalls the angry exchanges in the 1980s between Robert Solow and Mr Lucas—both eminent economists who could not take each other seriously. This vitriol, he writes, attracted attention, much like a bar-room fist-fight. But he thinks it also dismayed younger scholars, who gave these macroeconomic disputes a wide berth.

By this account, the period of intellectual peace that followed in the 1990s should have been a golden age for macroeconomics. But the brackish consensus also seems to leave students cold. According to David Colander, who has twice surveyed the opinions of economists in the best American PhD programmes, macroeconomics is often the least popular class. “What did you learn in macro?” Mr Colander asked a group of Chicago students. “Did you do the dynamic stochastic general equilibrium model?” “We learned a lot of junk like that,” one replied.

It takes a model to beat a model

The benchmark macroeconomic model, though not junk, suffers from some obvious flaws, such as the assumption of complete markets or frictionless finance. Indeed, because these flaws are obvious, economists are well aware of them. Critics like Mr Buiter are not telling them anything new. Economists can and do depart from the benchmark. That, indeed, is how they get published. Thus a growing number of cutting-edge models incorporate one or two financial frictions. And economists like Mr Brunnermeier are trying to fit their small, “blackboard” models of the crisis into a larger macroeconomic frame.

But the benchmark still matters. It formalises economists’ gut instincts about where the best analytical cuts lie. It is the starting point to which the theorist returns after every ingenious excursion. Few economists really believe all its assumptions, but few would rather start anywhere else.

Unfortunately, it is these primitive models, rather than their sophisticated descendants, that often exert the most influence over the world of policy and practice. This is partly because these first principles endure long enough to find their way from academia into policymaking circles. As Keynes pointed out, the economists who most influence practical men of action are the defunct ones whose scribblings have had time to percolate from the seminar room to wider conversations.

These basic models are also influential because of their simplicity. Faced with the “blooming, buzzing confusion” of the real world, policymakers often fall back on the highest-order principles and the broadest presumptions. More specific, nuanced theories are often less versatile. They shed light on whatever they were designed to explain, but little beyond.

Would economists be better off starting from somewhere else? Some think so. They draw inspiration from neglected prophets, like Minsky, who recognised that the “real” economy was inseparable from the financial. Such prophets were neglected not for what they said, but for the way they said it. Today’s economists tend to be open-minded about content, but doctrinaire about form. They are more wedded to their techniques than to their theories. They will believe something when they can model it.

Mr Colander, therefore, thinks economics requires a revolution in technique. Instead of solving models “by hand”, using economists’ powers of deduction, he proposes simulating economies on the computer. In this line of research, the economist specifies simple rules of thumb by which agents interact with each other, and then lets the computer go to work, grinding out repeated simulations to reveal what kind of unforeseen patterns might emerge. If he is right, then macroeconomists, like zombie banks, must write off many of their past intellectual investments before they can make progress again.

Mr Krugman, by contrast, thinks reform is more likely to come from within. Keynes, he observes, was a “consummate insider”, who understood the theory he was demolishing precisely because he was once convinced by it. In the meantime, he says, macroeconomists should turn to patient empirical spadework, documenting crises past and present, in the hope that a fresh theory might later make sense of it all.

Macroeconomics began with Keynes, but the word did not appear in the journals until 1945, in an article by Jacob Marschak. He reviewed the profession’s growing understanding of the business cycle, making an analogy with other sciences. Seismology, for example, makes progress through better instruments, improved theories or more frequent earthquakes. In the case of economics, Marschak concluded, “the earthquakes did most of the job.”

Economists were deprived of earthquakes for a quarter of a century. The Great Moderation, as this period was called, was not conducive to great macroeconomics. Thanks to the seismic events of the past two years, the prestige of macroeconomists is low, but the potential of their subject is much greater. The furious rows that divide them are a blow to their credibility, but may prove to be a spur to creativity.

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Out of work, out of benefits, out of luck

By August, 65% of all filers for unemployment insurance will have run out of their standard 26 weeks. And that's just the beginning.

More than 650,000 Americans will have used up all of their unemployment benefits by September, in what experts say could be the start of a looming crisis.

In the early days of the downturn, the government extended unemployment benefits beyond the standard 26 weeks to as many as 79 weeks in hopes of giving the jobless a longer lifeline. Officials predicted the economy worsening and businesses further contracting, resulting in fewer jobs for the newly unemployed to find.

With the recession now 18 months deep and the national unemployment rate standing at 9.5%, it appears that the effort wasn't robust enough for those in the crisis' first wave of layoffs.

"We need to get the issue attention now, because people are running out of benefits and there's just nothing for them," said Andrew Stettner, deputy director of the National Employment Law Project, an advocacy group that has calculated the number of people who will exhaust their unemployment benefits.

In fact, Stettner and the Labor Department are expecting the problem to accelerate. In the next few weeks, the victims of the mass layoffs that happened six months ago -- when the pace of layoffs was at its zenith -- will start running out of their basic benefits. A total of 4.4 million people are expected to face this fate -- or 65% of the entire filing population.

And while they may have up to another year of unemployment insurance benefits -- thanks to the confusing patchwork of extensions that were enacted last summer -- they will be soon be unaccounted for in government unemployment reports.

The Labor Department doesn't track anyone who has moved beyond 26 weeks of unemployment in its weekly data on continuing claims (the number of people who request benefits after their first week). And, said Stella Cromartie, spokeswoman for the Bureau of Labor Statistics, said the agency does not currently have plans to begin tracking this population.

As a result, by late summer the government may begin reporting significant declines in continuing filers. But it won't be cause for celebration. Instead of of indicating that the economy is on the rebound, it could mean that more people are falling off the radar.

"We will see a decline in continuing filers," said the NELP's Stettner. "People are falling out of these numbers, and the pace of more recent layoffs replacing them is not as steep."

"They're not included in these unemployment numbers we hear about every week," said the NELP's Stettner. "They're desperate, asking, 'What's going to happen to me?'"

That's the question facing Jay Ridinger, 54, of Baxter, Tenn. The self-proclaimed "road warrior" once worked for a contract management company, happily bouncing from city to city to complete federal projects.

Ridinger was accustomed to the stop-start schedule of a contractor, so he wasn't worried when his last stint ended in August. But he soon realized this stretch of unemployment was different: "I thought it was the status quo, and instead here I am, applying for food stamps. I just sat in the office and cried and cried."

When he was first laid off, Ridinger received the maximum $250 unemployment check per week -- at the time, Tennessee's standard benefits lasted 13 weeks. Revisions of laws allowed him to get additional weeks of benefits.

"Every time you run out of benefits, you think, 'What the heck am I gonna do?'" Ridinger said. "And then a month later, maybe a check will be in your mailbox -- maybe not. Even if you get one, it's like, 'Ain't that nice, after all that emotion?'"

In most states, the unemployed receive a maximum 26 weeks of state-funded benefits. Two extension programs may also be available for an extra 53 weeks of benefits. (Click here for further detail on unemployment benefits programs.)

The availability and duration of the programs depends on the state's unemployment rates and whether it agreed to participate in part or all of the federal programs. (View the map to see how many weeks of benefits your state offers.)

These extension programs are "difficult to understand, unprecedented and tough to administer," noted Heidi Shierholz, an economist at the Economic Policy Institute, a nonprofit think tank. "It surprised me how difficult it is to get data on this. I study labor markets all the time, and even I didn't know just how much of a behemoth it is."

But just because filers may not be counted in the weekly jobless claims data, it does not mean they don't impact the national unemployment rate. The Labor Department doesn't rely on unemployment-benefit claims to calculate the unemployment rate; instead the agency conducts interviews through a population survey and simply asks people if they have looked for work in the past four weeks. If they have, they're included in the rate.

So, if you have run through all of your benefits and say, "yes," you would still impact the unemployment rate. If you are unemployed and looking for work but aren't claiming benefits, you would be included as well.

Still, the weekly jobless claims number is a good indicator of the health and direction of the economy. And Edward Stuart, an employment economics expert from Northeastern Illinois University, believes the NELP's data may even be "conservative."

"The unemployment rate is going up, and the time spent unemployed is also going up," Stuart said. "Jobs are disappearing, and we aren't replacing them."

In the meantime, Ridinger waits -- checking about 80 Web sites daily and has applied for jobs all over the country in a variety of fields. After almost a year, he's had only one interview.

"This experience has hit me with every possible emotion," he said. "It's humiliating, degrading. I've changed my complete attitude toward the system. I just never expected to be a part of it."

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7 Ways to Save on Gas

That budget road trip you planned for the family this summer is starting to look a lot more expensive now that gas prices are on the rise.

Some of the spike is seasonal. Increased demand -- from all of those other families hitting the road -- tends to lift gas prices each summer, says Paul Hess, information analyst at the Energy Information Administration (EIA). Oil prices have also been creeping higher in recent weeks as optimism grows on Wall Street that demand for crude will rise worldwide once the global economy stabilizes, says Tom Kloza, chief information analyst at Oil Price Information Service, which monitors oil prices in North America. And further boosting prices at the pump is an Environmental Protection Agency requirement to add a fuel blend to gasoline in certain regions during the summer months that reduces ozone damage. This additive alone can add another five to 10 cents to the price per gallon, says Kloza.

As a result, regular unleaded gas costs $2.67 a gallon, up 16% from $2.30 a month ago, according to AAA’s Fuel Gauge Report. According to the EIA, gas prices won’t begin declining significantly until fall.

In the meantime, drivers can lessen the pain at the pump by taking some inexpensive and easy steps.

Here are seven ways to save on gas this summer.

Shop Around

Sure, it’s convenient to visit the gas station closest to home, but it may not be the best place to fill up.

To find the cheapest gas prices, compare prices at stations near your home or along your commute. Price-comparison web sites like GasBuddy.com and BillShrink.com let you plug in your daily destinations to find the most affordable gas stations on those roads. The price difference per gallon can be up to 50 cents, says Samir Kothari, co-founder of BillShrink.com.

Last summer, gas stations rolled out higher prices for consumers who paid with credit or debit cards (the idea was to pass along the merchant fees associated with such transactions). Many gas stations are still at it, which means those who pay in cash can often save. ARCO (a subsidiary of BP) stations, located in California, Washington, Oregon, Arizona and Nevada, for example, only accept cash and charge between five and 10 cents per gallon less than competing stations. (ARCO recently introduced a debit MasterCard which consumers can use to purchase gas at no extra charge. Other debit cards are accepted at these stations, but there’s a 45-cent fee.)

Cash discounts are popular in California, Connecticut, Florida, Michigan, New Jersey and New York, according to GasBuddy.com. (Discounts for cash-paying customers are legal in every state, as long as the gas station makes it clear that prices are different when you pay in cash vs. credit or debit, says Jason Toews, cofounder of GasBuddy.com.)

Fill Up at the Warehouse Club

In addition to frozen food, toiletries and appliances, Costco, BJ’s and Sam’s Club sell discounted gas at some of their locations.

“It depends on local market conditions but usually they sell it cheaply enough so that they’re beating out the competition,” says Toews. For example, at a BJ’s location in York, Pa., regular unleaded gas is selling for $2.59 a gallon. Local competitors there sell gas for $2.61 to $2.65 a gallon, according to GasBuddy.com.

Keep Your Car in Good Shape

Routine maintenance on your car’s tires and engine can increase its fuel efficiency (and even exptend its life). Plus, most of the things you need to do to maintain your car's health don’t even require pricey visits to the mechanic.

Just keeping your tires properly inflated can help save you cash. Underinflated tires require more energy to roll and decrease a car’s fuel efficiency, says Kothari. Driving with properly-inflated tires can improve fuel economy by 3% over a year, saving 20 gallons of gasoline and up to $45 annually, according to the Alliance to Save Energy. Check your car owner's manual to find out what the proper air pressure.

Also, be sure to regularly change your air filter. Clogged air filters can damage your engine and decrease fuel efficiency. A new air filter will improve gas mileage by 10%, according to the Department of Energy (DOE). Even better: Air filters are fairly cheap, ranging in price from $20 to $60.

Also, stick to the motor oil that’s recommended by your car's manufacturer, and buy one that states “energy-conserving” on the label, says Kateri Callahan, president of the Alliance to Save Energy. This can increase fuel efficiency by up to 2%, according to the Alliance to Save Energy.

Avoid Road Rage

Aggressive driving isn’t just dangerous. It also wastes a lot of fuel.

Consumers pay an extra 24 cents per gallon for every five miles per hour (mph) over 60 mph they drive, according to the Alliance to Save Energy. Rapid acceleration, hard braking and speeding can lower a car’s gas mileage by 33% on the highway and 5% in the city, according to the Department of Energy (DOE).

Clean Out the Clutter

Golf clubs, bowling balls or that bag of salt from last winter -- any unnecessary equipment or baggage in a car can decrease its fuel efficiency. According to the DOE, gas mileage decreases by up to 2% for every 100 pounds.

Another helpful tip: On your next road trip, try to pack everything inside the car rather than piling it on the roof. Stashing stuff on top of the car increases drag and decreases fuel economy by 5% or more, according to the DOE.

Limit A/C Use

Whenever possible try to keep the air conditioner at the lowest level. Having it maxed out can reduce your fuel efficiency by up to 25% compared to having the A/C turned off, according to the Alliance to Save Energy.

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No empty threat

Credit-default swaps are pitting firms against their own creditors.

SIX FLAGS, an American theme-park operator, filed for Chapter 11 bankruptcy protection on June 13th, bringing its long ride to reduce debt obligations to an abrupt halt. The surprise was that bondholders, not the tepid credit markets, stymied the restructuring effort. Bankruptcy codes assume that creditors always attempt to keep solvent firms out of bankruptcy. Six Flags and others are finding that financial innovation has undermined that premise.

Pragmatic lenders who hedged their economic exposure through credit-default swaps (CDSs), a type of insurance against default, can often make higher returns from CDS payouts than from out-of-court restructuring plans. In the case of Six Flags, fingers are pointing at a Fidelity mutual fund for turning down an offer that would have granted unsecured creditors an 85% equity stake. Mike Simonton, an analyst at Fitch, a ratings agency, calculates that uninsured bondholders will receive less than 10% of the equity now that Six Flags has filed for protection.

Some investors take an even more predatory approach. By purchasing a material amount of a firm’s debt in conjunction with a disproportionately large number of CDS contracts, rapacious lenders (mostly hedge funds) can render bankruptcy more attractive than solvency.

Henry Hu of the University of Texas calls this phenomenon the “empty creditor” problem. About two years ago Mr Hu began noticing odd behaviour in bankruptcy proceedings—one bemused courtroom witnessed a junior creditor argue that the valuation placed on a firm was too high. With default rates climbing, he sees such perverse incentives as a looming threat to financial stability. Already the bankruptcies of AbitibiBowater, a paper manufacturer, and General Growth Properties, a property investor, in mid-April have been blamed on bondholders with unusual economic exposures. Some also suspect that CDS contracts played a role in General Motors’ filing earlier this month.

Solutions to the problem are, so far, purely theoretical. One option would be regulation requiring disclosure by investors of all credit-linked positions. There is now almost no disclosure of who owns derivatives on a company’s debt, leaving firms to guess how amenable creditors will be when approached with a restructuring plan. Longer-term solutions rest on an overhaul of the bankruptcy code and debt agreements to award votes and control based on net economic exposure, rather than the nominal amount of debt owned. Supporters of the market point to the value of CDSs in reducing the cost of capital and to plans for a central clearing house that will reduce redundancy and increase transparency. But the reform roller-coaster has not yet come to a halt.

economist

Obama puts critics of financial overhaul on notice

Obama to financial overhaul critics: `While I'm not spoiling for a fight, I'm ready for one'

President Barack Obama said Saturday that current financial rules exploit consumers and he put critics of his proposed overhaul on notice: "While I'm not spoiling for a fight, I'm ready for one."

Obama used his weekly radio and Internet address to defend his recent proposal, which is intended to prevent a repeat of the breakdown that has sent the U.S. economy reeling. But such major changes face a fight in Congress and opposition from some leaders in the banking and insurance industries.

In the address, Obama focused on a consumer watchdog office that he wants to set up.

"This is essential," Obama said. "For this crisis may have started on Wall Street. But its impacts have been felt by ordinary Americans who rely on credit cards, home loans and other financial instruments."

The Consumer Financial Protection Agency would take over oversight of mortgages, requiring that lenders give customers the option of "plain vanilla" plans with clear and affordable terms.

"It will have the power to set tough new rules so that companies compete by offering innovative products that consumers actually want and actually understand," Obama said. "Those ridiculous contracts -- pages of fine print that no one can figure out -- will be a thing of the past. You'll be able to compare products, with descriptions in plain language, to see what is best for you."

More broadly, Obama's changes would begin to reverse the easing on federal regulations pressed by President Ronald Reagan in the 1980s. Democratic leaders in Congress are promising legislation will get passed this year, but that depends in part on how Congress answers big questions about the overhaul, including the role of the Federal Reserve.

"I welcome a debate about how we can make sure our regulations work for businesses and consumers," Obama said. "But what I will not accept -- what I will vigorously oppose -- are those who do not argue in good faith."

By that, Obama said, he meant those who defend the status quo at any cost. He didn't name any people or organizations, but said special interests are already mobilizing to fight change. He called that typical Washington.

"These are the interests that have benefited from a system which allowed ordinary Americans to be exploited," Obama said. The president said he would stand up for his plans, saying: "While I'm not spoiling for a fight, I'm ready for one. The most important thing we can do to put this era of irresponsibility in the past is to take responsibility now."

White House: http://www.whitehouse.gov

The fear factor in health care costs

Industry watchers say the practice of 'defensive medicine' is a controversial and wasteful contributor to the nation's escalating cost of medical care.

Every time a doctor orders an extra test for you, it pushes up your medical costs and -- some experts say -- contributes to the waste in the nation's $2.2 trillion in health care spending.

While there's much debate about the actual dollar impact of this controversial practice called "defensive medicine," experts agree it's an obstacle to reining in the medical care expenses.

Defensive medicine occurs when a doctor orders tests or procedures not based on need but concern over liability, explained Dr. Alan Woodward, former president of the Massachusetts Medical Society (MMS) and vice chairman of its committee on professional liability.

"If you're serious about (health care) reform, you have to be serious about this issue," Woodward said. He estimates that more than 80% of doctors across the country are engaged in defensive medicine.

President Obama, who has so far made information technology a key to his plan to reform health care, addressed this issue Monday in his speech to the American Medical Association (AMA).

"Some doctors may feel the need to order more tests and treatments to avoid being legally vulnerable. That's a real issue," he said. "While I'm not advocating caps on malpractice awards, I do think we need to explore a range of ideas about how to put patient safety first, let doctors focus on practicing medicine, and encourage broader use of evidence-based guidelines."

"That's how we can scale back the excessive defensive medicine reinforcing our current system of more treatment rather than better care," he said.

A 2008 study from PricewaterhouseCoopers found that wasteful spending in the health system accounts for more than half of all of health care spending. The firm identified defensive medicine as the biggest area of excess.

Pricing fear: Still, the effects of defensive medicine aren't easy to quantify. Estimates vary vastly.

"Each doctor has a very different risk profile," said Dr. David Chin, managing partner of consulting firm PricewaterhouseCoopers' Global Healthcare Research Institute. "If one doctor asks for an additional test, it's not always because they are practicing defensive medicine."

The Congressional Budget Office, the federal agency that will calculate how much money health reform will cost or save, has estimated that medical malpractice costs -- which include defensive medicine -- amount to less than 2% of overall health care spending.

Chin said his guess is in line with the CBO's number.

Michael Morrisey, a professor of health economics and health insurance at the University of Alabama's Lister Hill Center for Health Policy, is also skeptical about defensive medicine's impact on health care costs. He said states that have capped malpractice claims haven't seen any significant decreases in health care costs or heath insurance premiums.

"To me, the three biggest challenges for health care reform are tax treatment of employer-sponsored insurance, retooling health care payment systems and technological advancement in health care," said Morrisey.

Woodward disagreed. He ranks defensive medicine as the second-biggest burden on health care costs after the fee-for-service model in which doctors are paid for the quantity, rather than the quality, of services provided.

Woodward estimates that defensive medicine accounts for about 10% of health care costs. Some industry studies have translated that to more than $100 billion in health care costs annually.

"We are driving the standard of care more and more in the defensive direction," he said. "Physicians are practicing maximalist medicine rather than optimalist care.

Woodward defines optimalist care as everyone getting high-quality care, when they need it, in a cost-effective way.

He said the uninsured are getting "minimalist" care while insured Americans are getting maximalist care, or more than what they need from doctors due to fear of liability, the fee-for-service payment model and direct-to-consumer advertising.

Consumer impact: Redundant tests can pump up premiums for the insured. "Consumers' premiums could be 10% lower if doctors stopped this practice," Woodward said.

From a medical standpoint, excessive tests can also be harmful to patients if errors or complications occur, said Dr. Manish Sethi, a member of the MMS' board of trustees and co-author of a 2008 study that investigates and quantifies defensive practices in Massachusetts.

The MMS surveyed more than 830 physicians across eight specialty areas in the state and found 83% reported practicing defensive medicine at an estimated cost of $1.4 billion per year.

"The bottom line is doctors across the country are ordering more tests because of liability concerns," said Sethi. "I am not advocating liability reform but we could look at other options."

The American Medical Association, the group representing doctors, last month mentioned "health courts" as one option.

"Let's have special courts for patients just like bankruptcy court or patents courts and judges have medical training," said Woodward. "In the current system, medical cases are heard by judges who may not be trained in health care. Jurors have no background in health care and jury awards are huge."

Sethi offered other ideas such as a national standard of care, enforced by the Department of Health and Human Services, mandating specific clinical practice guidelines for doctors.

Sethi feels this would mitigate some of the liability concerns and encourage more doctors to accept high-risk patients, countering another aspect of defensive medicine.

In Massachusetts, lawmakers are also considering a bill allowing doctors to apologize to patients and their families for a medical error. However, that apology wouldn't be admissible in court during any future lawsuit brought by the patient.

"What a patient wants when errors happen is full disclosure, an apology and assurance that it won't happen again and compensation," said Woodward, adding that this process can help prevent complaints ultimately going to court.

"We have to move from a reactive to a proactive health care system. I think Obama gets it, but I don't know how aggressive he will be about it," he added.

Cnn money

An EU fudge on bank reform

European Union leaders avoided a row over bank regulation—but only by being ambiguous.

TWO DAYS after Barack Obama announced what he intends to be the biggest overhaul of American financial regulation since the Depression era, the European Union’s leaders, meeting in Brussels on June 18th and 19th, agreed that financial institutions in the 27-country block should be subject to common rules and overseen by new EU-level supervisors able to make binding rulings in disputes between national regulators. The heads of national government also agreed to create a European Systemic Risk Board, charged with providing early warning of potential threats to financial stability. The French president, Nicolas Sarkozy, hailed Britain’s agreement to the plan as a “complete change in Anglo-Saxon strategy” on financial regulation. But was it? The British prime minister, Gordon Brown, insisted he had conceded nothing.

The 27 national leaders offered unanimous backing for the creation of a trio of EU supervisory authorities to watch over the banking, insurance and securities sectors. These would have the power to resolve clashes between national supervisors in financial firms’ home and host countries, and to decree that national supervisors were flouting EU rules. At the moment, multinational banks and other financial institutions are watched over by a patchwork of national bodies, with no clear mechanisms for resolving disputes.

Within the EU, France and Germany have been in the forefront of calling for ambitious European regulation of financial markets. That has raised alarm in the City of London, which is by far the largest financial centre in Europe. Earlier this month, Lord Myners, a government minister with responsibility for the City, told a House of Commons committee that Britain opposed an EU-level supervision, “because national governments are the only bodies capable of providing any fiscal support to firms.”

The idea of a clash of wills among Europe’s biggest powers was reinforced shortly before the summit, when Mr Sarkozy gave a speech pledging to rein in a global financial system “rendered mad by a total absence of regulation”. In the event, the summit passed off without public clashes, and Mr Brown secured a guarantee that national governments, and not the new European supervisors, will have a final say when it comes to decisions that involve taxpayers' money, such as calls to bail out failing banks. The new pan-European supervisors would improve the quality of cross-border supervision, Mr Brown said. However, he added: “I have ensured that the British taxpayer will be fully protected on this.”

Britain led the charge to secure language that EU supervisors’ decisions “should not impinge in any way on the fiscal responsibilities” of member nations of the union. But in truth other countries were hiding their own doubts behind British objections, as Mr Sarkozy himself acknowledged. Germany’s chancellor, Angela Merkel, was also “concerned” about the idea of regulators at the European level having responsibility over decisions that would have to be paid for at the national level, he said.

How this guarantee will be squared with the principle of EU-level supervision remains to be seen, senior officials admitted. The wrangling can be expected to resume again when the laws and directives to implement the EU leaders’ agreement are drafted by the European Commission later this year.

Ambiguity also surrounded the method that will be used to choose the head of the new systemic-risk council. Britain argued against a proposal from the European Commission that the council should at all times be headed by the president of the European Central Bank (ECB). As one of 11 EU countries that does not use the euro, Britain wields limited influence in the ECB. In the end, EU leaders decided that the chairman of the new systemic-risk watchdog would be elected by central-bank governors from all 27 EU countries; although as the French president unhelpfully noted, this was not much of a concession, since euro-zone countries hold a permanent majority within the union.

More broadly, senior politicians and officials were at pains to defend Europe from charges of falling behind America, when it comes to crafting new regulations for the financial system. Mr Obama’s reforms were in fact “much inspired” by European plans, insisted a senior EU official, speaking off-the-record, citing the example of a systemic-risk council, which was first mooted in Europe. Moreover, it was easier for America to move quickly, as it was a single federal country, with one president, one treasury and one central bank. Europe had “28 central banks”, said the Eurocrat, counting the national banks and the ECB.

The battles are not over. Further EU legislation is coming on hedge funds, executive pay and other issues that have become favoured talking points for European politicians keen to blame the crisis on “Anglo-Saxon” excesses. As Mr Sarkozy said, with apparent relish, at the summit’s end, the measures agreed so far were only a starting point, and would doubtless “evolve”.

economist

China’s Economic Growth Slows in First Quarter

China’s economy grew more slowly than usual in the first quarter, and joblessness increased, but fairly strong investment and consumer spending helped prevent falling exports from dragging down economic output even further, the government said Thursday.

China’s economic output was 6.1 percent larger in the first quarter of this year than a year earlier, the National Bureau of Statistics said, but a range of statistics showed that March was better than January or February.

China’s annual growth rate appeared slow in the first quarter after the 6.8 percent rate in the fourth quarter of 2008, partly because it was being compared with the economy’s formidable output in the first quarter of last year. Then, many factories were operating with extensive overtime, and the rate of inflation was approaching double digits despite considerable efforts by Chinese officials to prevent the economy from overheating.

Still, 6.1 percent is substantially below the double-digit growth rates China has frequently posted this decade. China’s leaders have called for 8 percent growth just to create enough jobs for school graduates and for the tens of millions of rural migrants pouring into the country’s cities.

Chinese officials responded to the latest data with a mixture of hope and worry, seeking to show sympathy for those who have lost their jobs or had wages cut while trying to instill confidence that better times are coming.

Premier Wen Jiabao said after a cabinet meeting that the economy’s condition was “better than expected” and attributed it to government stimulus measures, according to Xinhua, the official news agency.

But the cabinet, with Mr. Wen as chairman, issued a report warning against “blind optimism” on the economy. The report said the foundations for China’s recovery were not solid, citing weak overseas demand, overcapacity in some industries, job losses and lackluster investment by the private sector.

Chinese economic output data may be less reliable during times of economic stress. Studies by Western economists have found that the Chinese government tends to smooth its quarterly economic data, underestimating gains during booms and losses during downturns.

Some economists were skeptical Thursday about the figures for the first quarter.

“The economy is definitely recovering, but for it to have troughed at 6 percent seems a little high,” said Ben Simpfendorfer, the China economist at Royal Bank of Scotland.

Using another measure of economic growth — the annualized rate of growth from one quarter to the next — China’s economy may have actually accelerated during the first quarter of this year.

Qu Hongbin, a China economist at HSBC, calculated that using that measure, China’s economy had grown at an annual rate of 6.2 percent in the first quarter, compared with just 2.5 percent in the fourth quarter of last year.

“The fourth quarter was actually the weakest,” he said.

The Chinese government releases only the growth rate in each quarter compared with a year earlier, as well as the total value of economic production for the year to date. Performing the calculation done by Mr. Qu requires estimating the exact value of each output in each quarter, a difficult process that entails coming up with seasonal adjustments as well.

The National Bureau of Statistics said Thursday that, next year, it would also start releasing the annualized growth rate from one quarter to the next, a measurement widely used in Western countries to capture short-term fluctuations in the pace of economic growth.

The government agency mentioned joblessness briefly in a statement on Thursday but provided no new details. The official unemployment rate among urban workers who are still living in the cities in which the government originally registered them edged up to 4.2 percent in the fourth quarter after hovering at 4 percent since the summer of 2007.

But that politically sensitive figure excludes more than 100 million workers who have migrated from rural areas or between cities to find jobs, often in the export sector, and are now feeling the brunt of dismissals, pay cuts and sharply shortened work hours.

China’s huge export sector remained a formidable drag on the economy during the first quarter of this year, tumbling 20 percent from a year earlier. But retail sales were up 14.7 percent in March from a year ago, accelerating from a gain of 11.6 percent in February.

Many business executives at the opening of the Canton Fair on Wednesday said that they were trying to sell more in their home market after concluding that overseas markets were far weaker.

China’s economic stimulus measures, from a record surge in bank lending to heavy government spending on new rail lines and other infrastructure, have started to increase the level of domestic investment; many economists expect an even stronger effect to show up in data for the second quarter, particularly given that urban fixed asset investment jumped 30.3 percent in March from a year earlier.

Joe Zhang, the general manager of Famous Grand M&E Equipment, which manufactures welding equipment for the assembly of boilers at factories, said his attention was increasingly on buyers in China, not those on the other side of the world.

“We sell a lot to the domestic market, and with the stimulus program, our sales are up from a year ago by 10 percent,” he said.

Thursday’s economic statistics prompted some investment banks to revise upward their growth estimates for the Chinese economy for all of this year. R.B.S. increased its estimate to 7 percent, from 5 percent, while UBS raised its estimated to between 7 and 7.5 percent, from 6.5 percent.

Falling prices were less of a worry in March at the consumer level, as deflation compared with a year earlier slowed to 1.2 percent, from 1.6 percent in February.

But prices continued to tumble rapidly at factory gates because of lower energy prices and industrial overcapacity. Producer prices dropped 6 percent in March from a year earlier, compared with a fall of 4.5 percent in February.

The data seemed to neither encourage nor discourage investors. The Hang Seng Index in Hong Kong closed with a loss of 0.55 percent while the A-share market in Shanghai fell 0.08 percent.

Why Weak Funds May Bounce Higher

Past performance does not guarantee future results, as all mutual fund advertising cautions. In fact, when a bull market begins, you may fare best with funds that performed miserably in the bear market just before it.

Consider the 100 domestic equity funds that performed the worst during 2002, the last year of a bear market. Their average loss that year was 53.3 percent, according to Morningstar — more than double the 20.9 percent loss of the overall stock market, as measured by the Dow Jones Wilshire 5000.

In 2003, the first year of the subsequent bull market, those funds were among the best performers. They gained an average of 60.3 percent, compared with “just” 31.6 percent for the market as a whole.

This reversal of fortunes between 2002 and 2003 could have been expected, according to Russ Wermers, a finance professor at the Smith School of Business as the University of Maryland. In an interview, he said that the funds that lost the most during market declines tended to be quite risky. Of course, this risk tends to work against them during declines — but often bolsters their performance when the market rises. This is part of the reason that a new bull market causes fund rankings to be turned upside down.

In his research, Professor Wermers has found that another big part of the explanation is the changing fortunes of various stock sectors as the market’s overall trend shifts. Funds that bet on a sector that did well in a market downturn, for example, tend to do poorly when the market rises, he said.

His findings help to explain why Morningstar’s star-rating system has great difficulty in the early stages of a new bull market. The firm bases its star rating for a given fund on how it compares with others having a similar investment style.

Consider two hypothetical portfolios of mutual funds constructed according to their Morningstar ratings at the end of the 2000-02 bear market. The first contained all domestic equity funds that, at that time, had a one-star rating (Morningstar’s lowest); the second contained all those with a five-star rating (the highest).

In 2003, the first portfolio produced a return almost five percentage points higher than the second, according to an analysis that Morningstar conducted for Sunday Business. That’s the opposite of what an investor might have expected by using Morningstar’s ratings to pick funds at the beginning of that bull market.

These reversals stand out because they are the exception to the rule. So long as stock market’s major trend is not in transition, Professor Wermers has found, there is a modest amount of persistence in funds’ year-to-year rankings.

Similarly, Russel Kinnel, Morningstar’s director of fund research, reports that since 2002, when Morningstar adopted its current fund rating method, the average five-star fund has outperformed the average one-star fund over the year after the funds received their ratings.

The investment implication of these results depends on whether you choose funds on the basis of recent returns. If you do, Professor Wermers argues, you should at least temporarily stop doing so whenever you think stocks’ general trend may be about to shift from down to up.

But that doesn’t mean you should ignore all past performance at the beginning of a bull market, he added. After all, it is only the funds’ returns during the preceding decline that are a particularly poor guide. At such times, he said, you should instead look back at periods much longer than the previous year or two.

How far back to go? There is no consistent answer, he said, because the period needs to be long enough not to be dominated by any bear market years. Ten years might be enough in some cases, but right now the period should probably be even longer, because the stock market is lower today than it was 10 years ago.

His advice presents a particular challenge to fund investors who rely on Morningstar’s ratings, because a fund’s overall star rating is heavily influenced by its recent performance. Morningstar does calculate a separate rating based on a fund’s performance over the last 10 years; it is available on the firm’s Web site. But even that longer-term rating is less than optimal now.

Even better, Professor Wermers added, would be a rating “conditioned on the current state of the economy,” such as a “5-star bear-market fund” or a “5-star bull market fund.”

JPMorgan Chase earns $2.1 billion

Although profits fell 10% from a year ago, earnings still beat expectations. CEO Jamie Dimon said bank is strong but added that bank may boost credit reserves.

JPMorgan Chase reported a better-than-expected profit of $2.1 billion in the latest quarter, even as the bank aggressively set aside money to cope with rising loan losses, the company said Thursday.

The New York City-based bank said its net income for the first quarter was $2.1 billion, or 40 cents a share. Profits were down 10% from a year ago, but still handily beat expectations.

Analysts were anticipating JPMorgan Chase to record a profit of $1.38 billion, or 32 cents a share, for the quarter, according to Thomson Reuters.

Bolstering the bank's results were both its consumer and investment banking divisions, but JPMorgan Chase also logged $10 billion in credit costs during the quarter, which included a $4 billion addition to its loan loss reserves.

JPMorgan Chase CEO Jamie Dimon warned that this number could go higher if the recession intensifies, but added that he was comforted by his firm's robust capital levels.

"These levels of capital and reserves, combined with our significant pre-provision earnings power, enable us to withstand an even worse economic scenario than we face today," Dimon said in a statement.

As of the end of the quarter, Chase's Tier 1 capital ratio, a key measure of a bank's ability to absorb losses, stood at 11.3%. Not including the $25 billion that the Treasury Department injected into the firm in October, Chase's Tier 1 ratio was 9.2%. A Tier 1 ratio above 8% is generally considered healthy.

JPMorgan Chase is among a handful of banks that have hinted at their interest in repaying taxpayer funds, given the increasing restrictions imposed on banks participating in government rescue programs.

Goldman Sachs announced earlier this week that it would sell new stock to help pay back the government. But JPMorgan Chase did not give any further indications in its earnings release Thursday about when it might return funds to the Treasury.
Investment banking bounces back, cards take a hit

Delving deeper into the results, Chase's investment banking division came roaring back from a loss in the fourth quarter and posted a profit of $1.6 billion.

The strong investment banking performance was driven by a revenue surge in its fixed income division, which reported record results in some of its operations including trading and emerging markets.

The bank's retail financial services and commercial banking divisions helped contribute to the firm's overall profit for the quarter as well, but those gains were offset in other areas.

Chase's credit card division, for example, reported a net loss of $547 million, down from a profit of $609 million a year ago. The bank cited a sizable increase in allowances for loan losses and higher charge-offs, or loans the company doesn't think are collectable.

Despite facing such issues as rising credit costs, Dimon maintained that the bank was financially strong enough to weather the current downturn, and is well-positioned for an eventual recovery.

The bank also noted that it was making "excellent progress" with its late September purchase of failed Seattle-based lender Washington Mutual.

Chase has been working hard to integrate WaMu's assets, including its nationwide retail branch network. Chase said that it had total branches of just under 5,200 as of the end of the quarter, down from 5% from late last year as it consolidated some Chase and WaMu locations.

Chase's encouraging results come on the heels of impressive numbers put up in the last week by two of its biggest rivals - Goldman Sachs (GS, Fortune 500) and Wells Fargo (WFC, Fortune 500).

Goldman Sachs reported a profit of $1.8 billion earlier this week -- which topped Wall Street estimates. San Francisco-based Wells Fargo said late last week it expected to book a record profit of $3 billion in the latest quarter, also higher than Wall Street's forecasts.

Following Chase's report, investors' eyes will now turn to two of the nation's most embattled banks - Citigroup (C, Fortune 500) and Bank of America (BAC, Fortune 500). Citi and BofA are slated to report their first quarter numbers Friday and Monday respectively.

Shares of JPMorgan Chase (JPM, Fortune 500), which are up more than 50% from lows reached earlier this year, fell nearly 3% in pre-market trading.

money.cnn.com

Activist investors: Flight of the locusts

Will the retreat of activist investors give industrial bosses more leeway to manage?

A YEAR ago Stephan Howaldt, the chief executive of Hermes Focus Asset Management Europe, a British activist fund, was in full cry against the Pesenti family, an Italian industrial dynasty. The fund had taken a stake in Italmobiliare, a financial holding company controlled by the family, which in turn controls Italcementi, the world’s fifth-largest cement-maker. Hermes demanded a performance review for Carlo Pesenti, Italcementi’s chief executive, and said the cement firm should sell its stakes in unrelated businesses such as newspapers and banking. Things got personal: the family executives, Mr Howaldt said, became “unusually closed-up”.

Italcementi’s management was therefore delighted when Hermes said in January that it was reorganising its fund and replacing Mr Howaldt. The fund’s activist style had been “disproportionately hit” by the financial crisis, it explained. Hermes still owns shares in Italmobiliare, but its management is not expecting much further pressure for change.


Around the world, activist funds are on the back foot, performing poorly, facing investor withdrawals and struggling to assemble the financial firepower to take on new targets. The activist technique of investing in a few underperforming companies and pressing for change is particularly difficult in falling markets, as other investors seek safe havens. In America investors began only two new activist campaigns in the fourth quarter of 2008, down from 32 in the preceding nine months and 61 in 2007, according to Thomson Reuters, a provider of financial data. William Ackman, a well-known activist who started a fund to pursue Target, a discount retailer, wrote to investors in February to apologise for the fund’s “dreadful performance”. It has fallen in value by around 90%.

In continental Europe, where shareholder activism is a newer phenomenon, corporate chiefs will be quick to seize on signs of failure. On March 26th the chief executive of Wendel, a prominent French investment fund, resigned after an activist investment in Saint-Gobain, a 344-year-old French building-materials firm, went disastrously wrong. Shares in Saint-Gobain fell precipitously after Wendel’s investment, dragging down the fund’s own performance. In recent years, comments Alain Minc, a business consultant in Paris, financial investors were encouraged by cheap liquidity to think they were geniuses who knew better than chief executives how to run companies. In future, he says, they will need real industrial credentials.

On April 2nd Christopher Hohn, chief of The Children’s Investment Fund (TCI), a British hedge fund labelled a “locust” in Germany for its aggressive tactics, abandoned its efforts to force further change at Germany’s main stock exchange. It cut its stake in Deutsche Börse from 10% to below 1%. Last year Mr Hohn conceded that activism is “unpredictable and expensive” in current market conditions. In Japan, too, activists are backing down; in October last year, for instance, TCI sold out of J-Power, the country’s former state-run energy wholesaler, having failed to influence its strategy, and suffered an estimated $130m loss. “Our focus has shifted to buying stocks that don’t require activism,” says the local manager of another big fund.

To be sure, there is little chance that chief executives will feel less overall pressure from shareholders to perform. But demands from short-term investors are likely to subside. In 2007 Moody’s, a credit-rating agency, published a controversial report which concluded that the expansion of shareholder power at American companies was increasing potential credit risk, to the detriment of bondholders and long-term shareholders. Short-term investors in America and Europe, it said, were using new powers such as the ability to nominate board directors to push for actions which could damage credit quality. On top of activists’ own difficulties, companies now have a powerful argument to push back against such initiatives. The pressure from investors trying to force through specific changes—such as increased leverage, spin-offs, acquisitions or share buybacks—has receded, probably for several years.

That will delight chief executives. They resented being given advice on important strategic decisions by people with no industrial experience, and feared the long-term consequences of gearing up. “You end up spending too much time in front of these people rather than running your business,” says one European boss, who adds that short-term shareholders have been a “plague” on industrial firms.

“Creating value through financial leverage will be harder in future, so we can get back to our real job,” says Hakan Samuelsson, chairman of MAN, a German truckmaker, “which is creating industrial value through technology, innovation and efficient manufacturing.” He expects less pressure to sell businesses, because the perceived value of divisions that generate cash is greater now that credit is more expensive. Conglomerates, therefore, stand a better chance of staying intact or even bulking up further over the next few years. Mr Samuelsson also expects more patience for organic growth.

“The dialogue with long-term shareholders has never been as robust,” says Jean-Pascal Tricoire, the president and chief executive of Schneider Electric, a 171-year old French firm which makes equipment for electrical distribution and industrial control. “I believe financial investors are now increasingly realising that industrial people can manage and develop businesses very well.”

In America, too, the financial crisis offers an opportunity to push back against short-term pressure from shareholders, so that managers can go back to running firms for the long term, says Martin Lipton, a Wall Street lawyer who has questioned the value of shareholder activism. Quarterly reporting to Wall Street, long unpopular with industry, is now under fire for having contributed to a push for higher returns and more risk-taking in banking. But American bosses are unlikely to take much comfort from any shift to a longer-term philosophy. Public anger at banks has spilled over into broad fury at corporate chiefs and their pay, and they expect more rather than less scrutiny.

As chief executives regain the freedom to manage, they may seize the opportunity to invest for the long term. But there is also a risk they will indulge in empire-building and roll back improvements in corporate governance. “As activism subsides the result is likely to be that management will tend to become even less accountable, and whether that is in the long-term interests of shareholders is a serious question,” says Nathan Gelber of Stamford Associates, a pension-fund consultancy in London. In Japan in particular, the retreat of activist investors is lamentable.

At some firms vocal fund managers are being replaced by a new kind of activist: the government. Barack Obama proved himself more brutal than any hedge fund when he removed Rick Wagoner as the boss of General Motors last month. But having ousted managers they hold responsible for past failures, governments will seek to build big, stable companies capable of increasing employment, rather than stripping them down in the name of efficiency and shareholder value. On March 29th Christian Streiff, chief executive of PSA Peugeot Citroën, was also ousted, possibly because the French government was infuriated by his plan to cut 11,000 jobs at the firm, announced two days after taking a big loan from the state. Industrial bosses should take note: the wind has changed direction, for a few years at least.

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