Obama thinks big in budget

NEW YORK (CNNMoney.com) -- President Obama last week -- his sixth in office -- showed his hand on how he hopes to shape the government's federal budget and the U.S. economy along the way.

In a speech that bore the hallmarks of a state of the union address, Obama on Tuesday told Congress about the challenges facing the economy while also saying that "we will recover."

"Now is the time to act boldly and wisely to not only revive this economy, but to build a new foundation for lasting prosperity," he said.

Two days later, Obama added details of his ambitious agendas for energy, health care and tax policy in a 10-year budget outline.

Under the terms of Obama's budget plan, tax breaks for high income earners would expire while low and middle income Americans would see some tax relief.

The administration expects the budget deficit, already above $1 trillion, to swell to $1.75 trillion this year. Obama has pledged, however, to cut the deficit in half by 2013.

Among the new programs created under the budget is a $634 billion health care reserve fund aimed at making coverage more universal and reduced insurance premiums.

This coming week, Obama has called for a health care summit with lawmakers, industry groups and academics to discuss ways to reform health care policy.

In addition to the summit, two top administration officials will testify before Congress on the budget proposal.

On Tuesday, Treasury Secretary Tim Geithner goes before the House Ways and Means Committee, and Peter Orszag, director of the White House Office of Management and Budget, will address the House Budget Committee.

Orszag returns to Capitol Hill on Thursday for a hearing on accountability and transparency in the administration's $787 economic stimulus bill with the Senate Homeland Security and Governmental Affairs Committee.

Also next week, Obama's $75 billion foreclosure prevention program officially gets underway. The effort, announced last week, is aimed at helping 9 million Americans suffering from falling home prices and unaffordable mortgage payments.

100-day scorecard: Week 6

CNNMoney.com will continue to track Obama's first 100 days in office and keep score of the government's unprecedented efforts to fix the ailing economy. (Last week's article is available here.)

Bold action: In his first speech to a joint session of Congress on Tuesday, Obama sought to reassure Americans that the dire economic challenges facing the country will eventually be overcome.

Obama said the administration has identified $2 trillion in government spending cuts that can be made over the next decade. But he also discussed plans to invest billions in renewable energy, education and health care reform.

He reiterated his commitment to holding accountable executives of any banks receiving taxpayer funds.

"This time, CEOs won't be able to use taxpayer money to pad their paychecks or buy fancy drapes or disappear on a private jet," Obama said. "Those days are over."

Budget blueprint: After setting the stage in Tuesday's speech, Obama unveiled the details of his fiscal 2010 budget proposal on Thursday.

While Obama has pledged to halve the $1 trillion-plus deficit he inherited over the next 5 years, the administration said it expects a deficit of $1.75 trillion in fiscal 2009.

The proposal calls for $3.6 trillion in spending in 2010, and estimates that $2.4 trillion in revenue will be collected.

On the spending side, the plan sets aside $250 billion for additional money to stabilize the financial system and $634 billion for a health care reserve fund.

To reduce the deficit, the plan would phase out tax cuts on high income earners by 2011. The White House estimates letting the cuts expire could raise $637 billion over 10 years.

Additionally, it would allow the capital gains tax rate to return to 20% from the current 15% rate.

At the same time, Obama's proposal to extend tax breaks to lower and middle income families is estimated to increase the deficit by more than $900 billion during the same 10 year period. 


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The coming deficit reckoning

NEW YORK (Fortune) -- There is much that is encouraging in President Obama's first budget, but also items of concern for those of us who worry that our growing deficits and debts will imperil America's future.

For starters, the administration's economic assumptions assume a rapid recovery, with real GDP growth of 3.2% in 2010 and 4% in 2011. We should all hope that scenario becomes reality. However, should the economy not recover as quickly as the administration projects, our deficits and debt will prove to be higher than projected in the budget.

The president is to be commended on several fronts:

For providing a 10-year budget projection and setting a specific deficit-reduction goal.For including a number of items in the baseline budget that the previous administration left out, namely the costs of the wars in Iraq and Afghanistan and a fix for the alternative minimum tax (AMT).For supporting a PAYGO concept, so that mandatory spending increases and tax cuts will be covered by the pay-as-you-go rule; spending and tax cuts won't be allowed to add to the deficit.

At the same time, the president is not proposing to adopt other measures that would help keep the deficit under some control: discretionary spending caps or automatic reconsideration triggers for mandatory spending items and tax preferences. And, he is proposing to move some items from the category of discretionary spending to the mandatory column.

America's health-care system needs fixing, but the administration has got the steps out of sequence, in my view. The president is advocating expanding health-care coverage before we have proven our ability to control health-care costs - and before we make a significant down payment on the federal government's tens of trillions of dollars in current unfunded health-care promises, notably from Medicare.

The president's budget results in a total debt-to-GDP ratio of 96% and rising by 2010 - factoring in the current debt owed to the Social Security and Medicare programs. The related bonds are backed by the U.S. government and are guaranteed as to principal and interest.

This ratio reinforces the need for the creation of a "fiscal future commission" to help us get our federal finances in order before we lose the confidence of our foreign lenders. Without such a step, we may face a "super sub-prime crisis" in the future, a government debt debacle that will have no higher authority to bail it out.

The author is president and CEO of the Peter G. Peterson Foundation and former comptroller general of the United States.  


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Housing fix's bankruptcy plan under fire

NEW YORK (CNNMoney.com) -- President Obama is in danger of losing the biggest stick in his foreclosure prevention arsenal.

The administration's plan to stem the housing crisis depends on Congress amending the bankruptcy laws to allow judges to modify mortgages, in particular by reducing principal to make monthly payments more affordable.

The so-called cramdown provision could put pressure on loan servicers to modify mortgages before borrowers file for bankruptcy.

A major critique of the voluntary modification programs is that servicers aren't doing enough to help struggling borrowers. But servicers will likely be more aggressive in working with homeowners if they know that the borrowers can turn to judges for relief.

"Reforming mortgage bankruptcy laws is the only remedy available that will provide the stick to go with the carrots that we have offered lenders to modify mortgages voluntarily," said Rep. Brad Miller, D-N.C., who worked on the legislation.

But congressional Democrats, who first introduced a bill broadening judges' power two years ago, are running into trouble gathering the support needed to pass the legislation. The House postponed a vote on the measure until early this week after a group of centrist Democrats voiced concerns. And its future in the Senate remains in doubt with many powerful Republicans strongly opposed to the legislation.

The House bill would allow judges to modify loans originated before the legislation's enactment. It would let the courts change mortgage terms to make a loan more affordable, permitting judges to reduce the principal to the property's market value, a step servicers loathe.

The Congressional Budget Office estimates more than one million households would benefit if bankruptcy judges were allowed to modify loans.

Debtors, however, would be required to contact their servicer about modifying their loans at least 15 days before filing for bankruptcy. And the debtor cannot have falsified information when he or she obtained the mortgage.

Trying to drum up support for the measure, administration officials are testifying before Congress and meeting behind closed doors with lawmakers to convince them of the need for the bill, while promising to limit its use.

"Carefully tailored bankruptcy reform is a piece of the solution," Housing Secretary Shaun Donovan told the Senate Banking Committee on Thursday. "We do not see bankruptcy court as the place to work out mortgages."

Giving bankruptcy judges the power to modify loans on primary residences -- they already can change mortgages on vacation homes -- is extremely controversial.

While Citigroup, which is under the close watch of federal regulators, has said it would support the measure, many key players in the financial industry are lobbying against the measure. Industry advocates argue that cramdown would force lenders to charge higher rates to compensate for the increased risk and uncertainty in mortgage contracts.

"This legislation will inject more risk into the housing and mortgage markets at a time when everyone is working hard to strengthen the housing market," said John Dalton, head of the Housing Policy Council, an offshoot of the Financial Services Roundtable.

If the measure must pass, the industry would like to see a requirement that borrowers have had to be offered and accepted a loan modification before seeking bankruptcy relief. Lobbyists also want to provision limited only to subprime mortgages. Also, they would like any principal balance above the home's current market value to be deferred rather than forgiven.

"Judicial modifications should be a last resort and only available where other non-judicial options have been exhausted or not available," John Courson, head of the Mortgage Bankers Association, wrote in a letter to Donovan and Treasury Secretary Tim Geithner. 


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Sebelius tapped as health secretary - source

WASHINGTON (Reuters) -- President Barack Obama has decided to nominate Kansas Governor Kathleen Sebelius to head the Department of Health and Human Services and will formally announce the decision at a White House ceremony on Monday, a U.S. official said Saturday.

"This evening, the president asked Kansas Governor Kathleen Sebelius to serve as his Secretary of Health and Human Services, and she accepted," the administration official said on condition of anonymity. "The president will formally announce the nomination on Monday afternoon at the White House."

Sebelius had been considered a top contender for the position since former Senate Democratic leader Tom Daschle withdrew his nomination because of personal income tax issues.

The Daschle withdrawal was a big blow for Obama, who made healthcare reform a key part of his agenda during the election campaign and was relying on the former Democratic leader to guide his agenda through the U.S. Congress.

Sebelius, a longtime Obama supporter who had been mentioned as a contender for other Cabinet posts, is a former Kansas health commissioner and is currently the Democratic governor of the largely Republican state. 


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AIG near new bailout terms

NEW YORK (Reuters) -- American International Group Inc is close to a deal with the U.S. government that would ease the terms of its bailout, provide a further equity commitment and help it pay down debt, a person familiar with the matter said Saturday.

The revision would be the latest sign of how federal regulators are having to tweak bailout packages for financial institutions deemed too big to fail as the economy and markets worsen.

The board of the troubled insurer is due to meet Sunday to vote on the deal, which could be announced when AIG reports its quarterly results Monday, the source said.

That would be just days after the government agreed to boost its equity stake in Citigroup Inc (C, Fortune 500) to as much as 36 percent in a bid to bolster another financial giant that taxpayers had already poured billions of dollars into.

The revised AIG agreement is expected to include an additional equity commitment of about $30 billion, more lenient terms on an existing preferred investment, and a lower interest rate on a $60 billion government credit line, the source said.

The new equity commitment would give AIG (AIG, Fortune 500) the ability to issue preferred stock to the government at a later date, the source said.

The London Interbank Offered Rate floor on the interest rate AIG pays on the government's credit line is expected to be removed under the new terms, which would save the insurer about $1 billion a year, the source said. The company currently pays 3 percentage points above Libor.

AIG will also give the U.S. Federal Reserve ownership interests in American Life Insurance (Alico), which generates more than half of its revenue from Japan, and Hong Kong-based life insurance group American International Assurance Co (AIA) in return for reducing its debt, the source said.

The insurer had been trying to sell Alico and a part of AIA in a bid to raise money to pay back the government.

AIG may also securitize some U.S. life insurance policies and give them to the government to further reduce its debt, the source said.

Last year, AIG said it plans to sell all assets except its U.S. property and casualty business, foreign general insurance and an ownership interest in some foreign life operations, to pay back the government.

While the company has announced some sales, it has been difficult for it to find buyers and get a good price for assets amid the financial crisis. Credit for deals remains difficult to arrange due to the crisis and many would-be buyers are struggling with their own problems.

"From a purely pragmatic angle the U.S. government needs to do whatever is necessary to get the system back on its feet and solvent, (and) then make certain that the funds are returned," said Peter Kenny, managing director at Knight Equity Markets.

"The one part of this that is an unattractive but necessary element is further management involvement by D.C.," Kenny said. "Washington hasn't been capable of balancing its own books for years and now they are going to play banker to a broken-down Wall Street, Detroit, and just about everyone else with their hand out."

Both the Federal Reserve and AIG, once the world's largest insurer by market value, declined to comment.

Massive loss

A new deal would come as the insurer prepares to post the largest quarterly loss in corporate history -- a roughly $60 billion fourth-quarter loss, produced in large part by write-downs on certain tax assets and commercial mortgage backed securities, the source said.

The loss -- which works out to about $460,000 per minute -- is mostly non-cash, the source said.

The revised bailout would allow the insurer to avoid a credit ratings downgrade that could have had serious ramifications on the insurer's liquidity and hurt its businesses, the source said.

Customers could, for instance, cancel their insurance policies if a minimum rating was no longer satisfied.

AIG, which counted 74 million customers at the end of 2007, has said it has also been losing business and finding it harder to win new clients since it was first rescued in September after bad mortgage bets left it on the verge of collapse.

The government stepped in at the time with an $85 billion bailout and subsequently offered additional financing, bringing the support up to $123 billion.

Then in November, the government had to revise its bailout package, raising its aid further, to about $150 billion. 


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Buffett's worst year

NEW YORK (Fortune) -- Berkshire Hathaway reported today that its net worth fell in 2008 by $11.5 billion, a decline reducing its per-share book value by 9.6%. That was Berkshire's worst result in the 44 years that Chairman Warren Buffett has run the company and, in fact, only the second decline in that period. The other drop was 6.2% in 2001, a year hurt by 9/11 and other problems in Berkshire's insurance operations.

Per-share book value changes are the customary way that Buffett reports the company's results because this method incorporates all of Berkshire's capital gains and losses whether they are realized or not. A large decline in the value of Berkshire's stock holdings was indeed the central reason that Berkshire reported a down year.

Under the more commonly used yardstick, earnings (which do not reflect unrealized gains or losses), Berkshire reported profits of $3,224 per share for 2008 against $8,548 in 2007.

Berkshire's profits stemmed mainly from interest and dividends on its investments and the earnings of its 70 operating subsidiaries. Berkshire has extensive holdings in two industries, insurance and utilities, whose earnings are not closely correlated with those of the general economy.

Even so, the total pretax earnings of all Berkshire's operating businesses (not including insurance for this calculation) fell by a bit, from just over $4,000 per share to just under that figure. The decline reflected the sagging results of the many Berkshire operations that are being hurt by a sour economy, among them those in housing-related businesses (Johns Manville, Shaw Industries) and retail (including furniture, jewelry, and candy companies).

Berkshire's (BRKA, Fortune 500) shares have taken a beating. The A stock dropped from $142,000 at yearend 2007 to $96,600 a year later, and in 2009 it has fallen further, closing at $78,600 yesterday. From its top of $151,000, hit in late 2007, the stock is down 48%.

In his chairman's letter, Buffett states that 2008 had good points mixed in with the bad. But in an unusual admission for the opening pages of the letter (a point easily recognizable by this writer because she has edited Buffett's letter for 32 years) he says bluntly, "During 2008 I did some dumb things in investments."

The dumbest, he said, was buying a large amount of ConocoPhillips stock when oil prices were near their peak and in no way anticipating the dramatic drop in prices that subsequently occurred. Buffett said he still thinks the odds are good that oil will sell in the future at much higher prices than the $40 to $50 per barrel now prevailing. But even if prices should rise, he said, "the terrible timing" of the Conoco purchase has cost Berkshire several billion dollars.

Berkshire data show that the company entered 2008 with 17.5 million Conoco (COP, Fortune 500) shares and ended with nearly five times that many, 84.9 million shares. At yearend, when Conoco stock was about $52, Berkshire's unrealized loss on all its shares (both those bought in 2008 and earlier) was $2.6 billion. But the stock closed yesterday at $37.40. If Berkshire still owns all its Conoco shares, the unrealized loss has grown to $3.8 billion.

That hammering may psychically bother Buffett the most -- he detests making faulty judgments about stock prices -- but Berkshire's biggest financial blows in 2008 came from two of the company's long-time holdings: The market value of Berkshire's American Express (AXP, Fortune 500) shares fell by $5 billion, and its Coca-Cola (KO, Fortune 500) stake sank by $3 billion.

Berkshire's huge position in Wells Fargo (WFC, Fortune 500) suffered very little in 2008, but has been hammered this year. The 304 million Wells shares that Berkshire owned at yearend 2008 have lost well over half their market value, falling from $9 billion to $3.65 billion. Berkshire's stake in U.S. Bancorp (USB, Fortune 500) is down by around $800 million.

The good points about 2008 for Berkshire? Well, Buffett had been long looking for places to invest the company's bulging granary of cash, and the tumbling prices in 2008 provided him opportunities (a word obviously not fitting the Conoco purchase). In the fall, inking a deal announced earlier in the year, he put $6.5 billion into Wm. Wrigley Co., by means of 11.45% subordinated notes (that was $4.4 billion of the investment) and preferred stock that pays a 5% dividend ($2.1 billion) and carries upside possibilities that have not been disclosed. The investments helped finance Mars Inc.'s purchase of Wrigley.

The preferred stock opportunities expanded after the financial world fell apart in September. On October 1, Berkshire bought $5 billion of Goldman Sachs preferred paying a 10% dividend and acquired warrants -- exercisable for five years -- to purchase 43.5 million common shares for $5 billion, a price per share of $115. Goldman has been well under that price most of the time since and closed yesterday at $91.

In a similar deal, carried out on October 16, Berkshire purchased $3 billion of General Electric 10% preferred and acquired warrants -- again, good for five years -- to buy 134.8 million common shares of GE for $3 billion, a price per share of $22.25. GE's stock, weighed down by GE Capital (which, in loans, is effectively the fifth-largest bank in the nation), has been a general disaster since and closed yesterday at around $8.50.

To finance all those purchases, store up for a $5 billion acquisition of utility Constellation Energy that fell through, and keep Berkshire's operations well supplied with cash, Buffett felt obliged, he said in his letter, to sell some portions of holdings that he would have preferred to keep. Principally, he said, the stocks sold were Procter & Gamble, Johnson & Johnson, and Conoco. Berkshire's positions in all three were established in the last few years, though the P & G holding materialized when that company merged in 2005 with Gillette, whose stock Berkshire had owned since the early 1990s.

The paradox of Buffett's investment year will be evident: To put Berkshire's pile of cash to work at prices he considered attractive -- "I like those preferreds," he said recently -- he had to endure a terrible stock market that savaged many of the stocks the company already held. He has always declared, though, that he is perfectly content to see Berkshire's stocks fall in price, because that allows him to buy more of them cheaply.

***

CHANGES IN THE ANNUAL MEETING: Buffett also announced in his letter that new procedures will be used in the question periods at Berkshire's annual meeting on May 3, in Omaha. Three journalists will collect questions e-mailed to them by shareholders; choose the most interesting and important; and ask them of Buffett and Berkshire vice chairman Charles Munger, neither of whom will have been told what the questions will be.

The questions the journalists select will be alternated with others asked directly by shareholders chosen by a drawing held the morning of the meeting. Previously, all questions were asked by sleep-deprived shareholders who lined up at the meeting arena until the doors were opened and then raced to microphones to establish a priority position. Buffett said in his letter that he had concluded "sprinting ability" was not a good determinant for who should get to ask questions.

The three journalists are the writer of this article, Carol Loomis of FORTUNE (who, as previously noted, has long edited Buffett's annual report letter -- without pay, by the way); Becky Quick of CNBC; and Andrew Ross Sorkin of The New York Times.

Buffett said in his letter that the new system will ensure that at least half of the questions -- those selected by the journalists -- will be Berkshire-related, which too many have not been in the past. 


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Consumer confidence slumps

NEW YORK (Reuters) -- U.S. consumer confidence fell to a three-month low in February on expectations the recession would grind on throughout this year and the jobless rate will keep rising, a survey showed Friday.

The Reuters/University of Michigan Surveys of Consumers said its final index reading of confidence for February fell to 56.3 from 61.2 in January.

That was marginally higher than the preliminary result of 56.2 announced earlier this month but was the lowest final reading since 55.3 in November 2008.

"Confidence remained unchanged at the same low level recorded at mid-month as consumers found no reason to expect that the recession would end during 2009 and reported record declines in their personal finances and job prospects," the report said.

"Moreover nearly two-thirds of all consumers thought it would be at least five years before the full restoration of favorable economic conditions."

The index's headline number did manage to beat economists' median expectation for a reading of 56.0, which was based on 49 forecasts in a Reuters poll that ranged from 52.0 to 57.0.

Ultimately, sentiment remains severely depressed and is not far from the record low of 51.7 that it hit in May 1980. The University of Michigan confidence index dates back to 1952.

Stocks cut their losses after the report, but mainly due to technical factors after a sharp sell-off in early trade.

Government bonds, when generally benefit from weak economic conditions, cut their gains, but were more closely following stocks than the sentiment report.

"I think it tells you that consumer confidence is still extremely depressed but it was marginally better than expected," said Carl Lantz, U.S. interest rate strategist at Credit Suisse in New York.

Reflecting the grim mood, the index measuring consumers' view of the 12-month economic outlook fell to its lowest since 1980, when the economy was struggling through the stagflation period of shrinking economic activity and rising prices.

The 12-month economic outlook index fell to 31 in February from January's 47. The only consolation was that this was not as bad as the preliminary reading of 27, which would have been the lowest ever.

One-year inflation expectations fell to 1.9% from January's 2.2%. That was the lowest in two months but not as weak as the 1.6% recorded in the mid-month report.

However, five-year inflation expectations rose to 3.1% - their highest since August 2008 - from January's 2.9%. 


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