2000

In California, Chronicle of a Death Foretold

SAN FRANCISCO, May 17 — With memories of the recession and real estate bust of the early 1990s in mind, bankers and analysts are warily monitoring a boom in real estate lending and looking to technology stocks as a possible harbinger of an eventual downturn.

Fueled by the rapid expansion of Internet companies and the stock market wealth they have created, housing and commercial real estate prices in several markets, particularly in California, have been on the rise for the last several years. Bank lenders who specialize in commercial and residential real estate said there are only the slightest hints that the growth is abating.

Even so, volatility in tech stocks, whose surging prices fueled explosive growth of real estate values in areas like San Francisco and Silicon Valley, has sent shivers through the local community, banks that finance development, and analysts whose job it is to catch signs of credit problems.

A heightened perception that the real estate market could bubble out of control has led some to counsel caution. "The crucial question is: What is the sensitivity of the local real estate market and labor market to the volatility of the Nasdaq?" said John Krainer, an economist at the Federal Reserve Bank of San Francisco.

Banks in the region rely heavily on real estate lending, with community banks in the state among the most active in the business, analysts said. Campbell Chaney, an analyst at Sutro & Co., estimates that 20% to 25% of the loans made by California banks go toward residential and commercial real estate. He also estimates that between 40% to 50% of banks' total loan portfolios are secured using real estate as collateral.

Out-of-state institutions, like Washington Mutual Inc., are also exposed, analysts said. Close to 100% of the entire portfolio of Seattle-based Wamu is in residential, commercial real estate or manufactured housing, and over of a third of its business is in California, said analyst James Bradshaw of D.A. Davidson.

Some bank lenders are moving to protect themselves. Paul Nakae, a senior vice president in construction lending at Bank of the West in San Francisco, said he has been more careful when considering financing a commercial project that will rent to Internet companies.

Some of that extra consideration translates into requiring a heftier down payment from the borrower. For one large office project in San Mateo County, where many tech companies have their headquarters, a project developer is contributing $100 million in equity, or 30%, of a project that will cost $350 million.

The terms are stricter than if the planned tenants were not Internet or related companies, Mr. Nakae said. For non-dot-com firms, banks financing real estate projects would typically require a down payment from the developer closer to a range of 15% to 20% of the project cost, Mr. Nakae said.

For now, at least, real estate prices have yet to weaken to the degree stock prices have.

In March, when the Nasdaq was already beginning to swing close to 200-point drops in one day, median home prices in the San Francisco Bay area increased almost 10% from the previous month; prices in Santa Clara, in the heart of Silicon Valley, rose 12.6% for the same period.

While no one is sounding alarm bells yet, fear that a an early 1990's-style real estate collapse, which left banks in California weakened by large bad loan balances and caused the demise of several thrifts, hangs in the air.

G.U. Krueger, an economist at the California Association of Realtors in Los Angeles who released a report last week on the "worst case scenario" if a real estate crash were to follow market instability, agrees that there has been a shift in sentiment in Northern California over the last two months.

While the association has not seen any signs yet of an impending burst, "the enthusiasm is gone," he said. That has resulted in a "normalization in the housing market," and a decline of some of the excesses, like double-digit bids for a property, he said.

Ann-Marie Williams, research services manager in the San Francisco office of Grubb & Ellis Co., a commercial real estate broker, said rumors are cropping up that prospective tenants are slowing down their search for space.

But so far, the momentum in the San Francisco rental market has not let up. Already, about 60% of the 2.2 million square feet of office space slated for 2001 has been leased.

Precautions against a drop in the real estate market in "hyper-drive" is nothing new for the region's banks. Mr. Nakae said that for the last 18 months his bankers have been holding their loan to value ratios at 50% for construction lending. That way, "If rents dropped in half, we'd still be okay," he said.

1958

Reading, Writing, Math … And Economics!

BRONXVILLE, N.Y., Aug. 7. — There is no question as to whether the American people can avoid inflation and achieve reasonably stable economic growth. The only question is whether they will be well enough informed to support the measures that will be required to achieve these objectives, Dr. E. Sherman Adams, of the American Bankers Association, told an audience of secondary school teachers here today.

Dr. Adams, deputy manager in charge of the ABA Department of Monetary Policy and Economic Policy Commission and director of the Graduate School of Banking, spoke at a national workshop on economics for science and social studies teachers being held on the campus of Sarah Lawrence College, under the sponsorship of the Joint Council on Economic Education, the National Science Teachers Association, and the National Council for Social Studies. Thirty school systems, representative of the nation, have sent teams of teachers to the workshop.

"What is needed," Dr. Adams told the teachers, "is nothing less than a continuing, all-out crusade against economic illiteracy. I suggest that we dedicate ourselves to that crusade here and how."

Dr. Adams emphasized the problem of achieving reasonable stability for the American economy is by no means insoluble, but he pointed out that a working knowledge of the fundamentals of economics, monetary policy, and fiscal policy on the part of the people is essential in reaching a solution.

"As a nation, the stability of our economy is one of the chief determinants not only of our defense potential and of our standard of living but also of our entire social environment," he declared. "For teachers and educators, this problem has peculiar significance.

"Economic education is essential to economic stability. Today, more than ever before, it is the voter — and average Joe and Josephine — who is the ultimate decision-maker in the realm of public economic policy. Sound measures to strengthen our economy and combat instability cannot be adopted and adhered to without the understanding and the sustained support of the citizenry. Here, clearly, is a major responsibility, for teachers and educators everywhere to contribute to the stability of the American economy by improving the economic literacy of the American people."

Noting the problem of instability is two-fold — one of preventing depressions, the other of preventing inflation — Dr. Adams examined some of the sources of instability.

"The age-old problem of the business cycle is still with us today," he said, "but in recent years something new has been added — the problem of preventing a continuing erosion of the value of the dollar over the years. Even if the business cycle were to disappear, we still would be faced with this threat of inflation. In addition to cycle control, therefore, we must now be concerned with erosion control as well."

The ABA economist observed there is a wide knowledge of information on the business cycle, and that there is a substantial amount of agreement with respect to the basic causes of cyclical swings and factors that aggravate them. It is a complex subject, he said, but one on which every citizen should be informed.

But, he added, the problem of continuing inflation, of inflationary biases now prevalent in the economy, is not discussed very thoroughly in most textbooks.

"These biases contribute to pushing prices up during good times and to preventing prices from ever readjusting downward. Price increases have tended to become irreversible," he said.

Outlines Inflation Biases

Dr. Adams cited the inflation biases as:

The wage-price spiral: "When wage rates, including fringe benefits, rise more rapidly than productivity, the result is bound to be higher production costs. And when business concerns follow pricing policies designed to pass along to the public most or all of their added production costs, the result is a formidable wage-price spiral.

Just this past week we have witnessed another boost in the price of steel. Here is the spectacle of the wage-price spiral operating even during recession. A rise in the price of steel has become an established annual event on the American calendar. It is clear enough that these price increases are related to wage increases. Over the last 10 years, labor costs per an hour in the steel industry have risen more than three times faster than output per man hour. The net result of the policies followed by labor and management in this industry has been an increase of about 75% in the price of steel.

The more-money fallacy: "Another inflationary factor in our economy today is the widespread bias in favor of cheap and abundant credit. This is not a new phenomenon. One of the oldest and certainly one of the most injurious fallacies in the history of man is the delusion that prosperity for all somehow can be conjured up and perpetuated simply by creating more money.

Brimful employment: "In extreme form the adherents of the doctrine of full employment proclaim that the chief goal of economic policy should be to maintain maximum employment at all times, regardless of what this may involve in the way of inflation and other heavy exactions on the American people.

"In combination, these inflationary biases plus others add to a formidable threat to the stability of our economy and one which will be very difficult to deal with. Most of the things that should be done to combat them are unpopular. This is simply a shorthand way of saying that the public is not well enough informed to understand why these corrective measures are needed and why they are important."

Financial Steps Vital

Discussing means of combating inflationary and recessionary tendencies, Dr. Adams emphasized there is general agreement that financial measures, monetary and fiscal policies, should be regarded as the most important.

"In some circumstances," he said, "financial measures may be all that is required to keep the economy on an even keel. In other circumstances, they may not suffice to do the job alone but they always constitute an essential element in stabilization policy. To look at it the other way around: unwise financial policies can do untold harm to our economy."

Dr. Adams outlined briefly to the teachers the fundamentals of monetary and fiscal policy and reviewed their benefits and shortcomings in the direction of economic stability. He concluded by repeating that, if monetary policy is to function properly and if fiscal policy is to be effective, both must be understood and supported by the people of the country.

Developing that understanding among their students, he said, should be a primary goal for teachers.

1961

Lose Regulation Q or Lose Foreign Deposits

NEW YORK — Regulation Q will have to be relaxed if interest bearing negotiable term certificates are to compete successfully with other short-term investments for idle corporate funds, leading bankers here indicate.

The new interest bearing negotiable deposit certificates, introduced recently by leading banks, here, are being scrutinized with renewed interest by many bankers as a possible vehicle for attracting, as time deposits, some of the idle corporate funds which are being invested in highly liquid securities.

Bankers who are most enthusiastic about the potentials of this program generally give the new certificates little chance for success under current interest regulations.

Treasury bills and other short-term investments, which corporations currently favor because of their easy marketability and non-restricted yields, constitute the drain away from deposits.

Several bankers stated they felt Regulation Q should be eased to allow special interest rates for sizeable domestic time deposits. They stressed this flexibility would be exercised only to meet competition. They added the new certificates could be a valuable tool, if fully competitive for short-term markets.

Such a chance is considered quite possible by some bankers, due to the attention focused on the interest-limiting regulation earlier in February.

At that time, President John F. Kennedy asked Congress to give the Federal Reserve System the authority to establish special limits of interest rates which member banks may pay on time and savings deposits owned by foreign governments and monetary authorities.

President Kennedy's proposal is aimed at retaining foreign deposits and preventing a repetition of last year's loss of funds when these deposits were withdrawn from domestic commercial banks and placed in money centers offering higher rates of interest. At that time some corporate funds also went overseas, to take advantage of the higher rates of interest.

President Kennedy's request may have been prompted in part by a report submitted to him Jan.18, by a special economic task force headed by Allan Sproul, former president of the Federal Reserve Bank of New York. In the section of the report covering domestic economic policy, one of the recommendations urged by Mr. Sproul and his associates was the repeal of Regulation Q.

Supply of Corporate Funds

The supply of idle corporate funds which the banks hope to tap includes over $25 billion now invested in Treasury bills. Counting all short-term investments, the sum is much higher.

The reaction by potential depositors seems to be proportional to the efforts planned by the banks in attracting the deposits. Several bankers indicated they will only meet competition in issuing the interest bearing certificates and report only slight interest. Bankers predicting a good potential, report deeper interest on the part of prospective depositors.

One major corporation, International Business Machines Corp., has over $260 million invested principally in Treasury securities, and a spokesman said there are two factors that would be studied before the company would consider interest certificates. These are rates of interest and negotiability.

Even though it is conceded the plan will not become a large scale success under existing Regulation Q limits, some bankers expect to increase their time deposits.

But they anticipated these deposits will be volatile and will stay with a bank only as long as the depositor earns the best return possible. This, the bankers point out, will hamper lending activities based on these deposits.

Even with these drawbacks, one banker stated the funds could be useful for call loans or investment in longer term Governments.

Change in 'Q' Called Aid

With an amended Regulation Q, the position would be much brighter, the bankers say. One said in time a core, or base, of deposits would develop upon which long term commercial loans could be based. Until that point, he cautioned, additional time deposits gained should not be considered sufficient reason to raise commercial loans proportionately.

Regarding a market in the certificates, predictions varied. One banker anticipates an orderly market, comparable to that in banker's acceptances. Another banker commented the market will not develop until quite a few certificates are issued. Initially, he added, the certificates could sell but finding a buyer might take time.