Top 10 at 10: Gaynor on housing; US Govt bankrupt; US$9 trln deficit blowout; Dilbert

Here are my Top 10 links from around the Internet at 10am. I welcome your additions in the comments below or please send your suggestions for Tuesday's Top 10 at 10 to bernard.hickey@interest.co.nz We don't give imaginary (or any) financial advice at interest.co.nz 1. Brian Gaynor has another go in his NZHerald column at detailing New Zealand's unbalanced investment climate where most savings are put in housing rather than the stock market. He is hoping he Capital Markets Taskforce will pull off a miracle.

Rising house prices are acceptable if they are consistent with the overall performance of the economy and most of the borrowings are sourced from domestic savings. Strong residential property markets can cause major distortions, and problems, for an economy if too many resources are poured into this area and it is substantially supported by offshore borrowings. Finally, there is the issue of where do individuals invest if they don't go into residential property and this question is not easy to answer. New Zealand experienced a dramatic market failure during the sharemarket boom of the 1980s and after the crash a number of inquiries recommended a substantial overhaul of the regulatory regime governing capital markets. These proposals were successfully opposed by a number of influential businessmen, mainly through the Business Roundtable, who strongly advocated that retail investors were free loaders who were not entitled to a protective regulatory regime. Since then, individual investors have turned their backs on financial markets, as reflected by the tiny size of our sharemarket. Those who stayed have had a heap of rubbish hoisted on them, including Blue Chip, Credit Sails, ING yield funds, First Step, Feltex, a host of finance companies that were little more than personal banks for their major shareholders and other dubious investments.

2. China looks like it's planning to tighten capital requirements for banks to slow lending down even more, Bloomberg reports. This is another dampener on the idea China will help pull the world out of recession and a worry for Australia, which depends on demand from China and is our largest trading partner.

The China Banking Regulatory Commission sent draft rule changes to banks on Aug. 19 requiring them to deduct all existing holdings of subordinated and hybrid debt sold by other lenders from supplementary capital, said the people, who have seen the document. Banks have until Aug. 25 to give feedback, said the people, declining to be named as the matter is private. As a result, banks may need to rein in lending or sell shares to lift capital adequacy ratios to the 12 percent mandated by the regulator. Chinese stocks briefly entered a so- called bear market this week on concern the government would stymie new loans that exceeded $1 trillion in the first half. "This move will cut one of the most important funding sources for banks," saidSheng Nan, an analyst at UOB Kayhian Investment Co. in Shanghai. Banks will "have to either raise more equity capital or slow down lending and other capital consuming businesses to stay afloat."

3. Jonathan Weil at Bloomberg has a cracking yarn about changes planned by the Financial Accounting Standards Board (FASB) to rules about accounting for insurers. I'm serious. He points out the FASB is about to recommend that insurers can no longer count 'deferred acquisition costs' as assets. If this gets through Congress many very large insurers will have to wipe gajabillions off their balance sheets.

Look at the asset side of Lincoln National's balance sheet, and you'll see a $10.5 billion item called "deferred acquisition costs," without which the company's shareholder equity of $9.1 billion would disappear. The figure also is larger than the company's stock-market value, now at $7 billion. These costs are just that -- costs. They include sales commissions and other expenses related to acquiring and renewing customers' insurance-policy contracts. At most companies, such costs would have to be recorded as expenses when they are incurred, hitting earnings immediately. Because it's an insurance company selling policies that may last a long time, however, Lincoln is allowed to put them on its books as an asset and write them down slowly -- over periods as long as 30 years in some cases -- under a decades-old set of accounting rules written exclusively for the industry. Those days may be numbered, under a unanimous decision in May by the U.S. Financial Accounting Standards Board that has received little attention in the press. The board is scheduled to release a proposal during the fourth quarter to overhaul its rules for insurance contracts. If all goes according to plan, insurers no longer would be allowed to defer policy-acquisition costs and treat them as assets. The wild card in all this is Congress. Last spring, the insurance industry joined banks and credit unions in getting U.S. House members to pressure the FASB to change its rules on debt securities, including those backed by toxic subprime mortgages, so that companies could keep large writedowns out of their earnings. Because the FASB caved before, it's a safe bet the industry would go that route again. With so much riding on the outcome, we should expect nothing less. What's at stake isn't the real value of the industry's assets, but investors' perceptions of how much they're worth.

4. One in every 8 US mortgages is now either in foreclosure or delinquent, with the fastest growth among prime rather than subprime mortgatges, Barry Ritholz points out at The Big Picture.

Subprime was what drove the boom and eventual bust; the prime foreclosure issue is a function of the deep recession and job losses of the past 2 years.

5. Allan Sloan at Fortune Magazine points out the dirty little secret of the US fiscal outlook: bankrupt Social Security. The chart, which Fortune produced, is a shocker. The article is long but well worth reading for those not familiar with the US social security system. It explains it well. It is something the Chinese government should read. It essentially shows that the US government has been using Social Security surpluses (meant to be saved for the future) to spend on current outlays. All the Social Security fund got was more government paper. HT Gerti32 via email.

Perhaps as early as this year, Social Security, at $680 billion the nation's biggest social program, will be transformed from an operation that's helped finance the rest of the government for 25 years into a cash drain that will need money from the Treasury. In other words, a bailout. To understand why I say that Social Security will soon need a bailout while most people say everything's fine through 2035, we have to examine the trust fund. It currently holds about $2.5 trillion of Treasury securities and is projected to grow to more than $4 trillion, even as Social Security begins to take in far less cash in taxes than it spends in benefits. For instance, in 2023 it projects a cash deficit of $234 billion. However, the trust fund will grow because it will get $245 billion of Treasury IOUs as interest -- the Treasury pays its interest tab with paper, not cash. The cash that Social Security has collected from my wife and me and our employers isn't sitting at Social Security. It's gone. Some went to pay benefits, some to fund the rest of the government. Since 1983, when it suffered a cash crisis, Social Security has been collecting more in taxes each year than it has paid out in benefits. It has used the excess to buy the Treasury securities that go into the trust fund, reducing the Treasury's need to raise money from investors. What happens if Social Security takes in less cash than it needs to pay benefits?

6. So how might the United States deal with this looming Social Security and Medicare crisis? By cutting benefits and rationing healthcare more aggressively. Fabius Maximus at Nouriel Roubini's RGE Monitor points this out in a piece titled: 'Beginning of the end of the Republic's solvency'. How different is New Zealand's own budget situation beyond 2020? Can we afford the current non-means tested and pay-as-you-go (ie current workers pay for retirees pensions and healthcare ) health and pension systems?

For decades the taxes for Medicare and social security exceeded expenditures on those programs.  The government spent this money. Now the boomers are aging.  Expenditures for our social retirement programs has become an inexorable rise.  Their cash flows are no longer funding the rest of the government, but turning into drains.  This is the end of an era.

The end result of all this is that future politicians and health bureaucrats are going to have to make some very uncomfortable decisions about who gets health care. All this is eventually politically explosive. Here's a taste of how explosive from a paper by Obama chief of staff Rahm Emmanuel's brother Ezekial.

We recommend an alternative system"”the complete lives system"”which prioritises younger people who have not yet lived a complete life, and also incorporates prognosis, save the most lives, lottery, and instrumental value principles.

This is the conclusion from Fabius Maximus (got a feeling it's not his real name...)

This is a start at grappling with a serious problem, that about one-quarter of Medicare outlays are during the last year of life "” and much of this neither substantially increases the patient's life nor improves their quality of life.  (From the US Department of Health and Human Services).  As the boomers age we will no longer be able to afford such expenditures.

7. The forecast for the US budget deficit for the next 10 years is set to be increased by US$2 trillion to US$9 trillion, Reuters reported. I hope someone tells the Chinese. When is someone going to finally call the Americans on this insane attempt to borrow and spend their way out of a problem caused by too much borrowing and spending?

Record-breaking deficits have raised concerns about America's ability to finance its debt and whether the United States can maintain its top-tier AAA credit rating. Politically, the deficit has been an albatross for Obama, a Democrat who is pushing forward with plans to overhaul the U.S. healthcare industry -- an initiative that could cost up to $1 trillion over 10 years -- and other promises, including reforming education and how the country handles energy. Treasury markets have been worried all year about the mounting deficit. The United States relies on large foreign buyers such as China and Japan to cheaply finance its debt, and they may demand higher interest rates if they begin to doubt that the government can control its deficits. "It's one of those underlying pieces of news that is liable to haunt the bond market at some point in the future," said Kim Rupert, managing director of global fixed income analysis at Action Economics LLC in San Francisco, referring to the revised 10-year deficit projection.

8. Comments from Federal Reserve Chairman Ben Bernanke about an economic recovery and signs of a stabilisation in the US housing industry boosted US government bond yields. Eventually these moves push up our longer term interest rates too.

"It's the trifecta coming into play," said Kevin Flanagan, a Purchase, New York-based fixed-income strategist for Morgan Stanley Smith Barney. "Bernanke's comments, which were interpreted to be more on the upbeat side than one would have originally thought. The existing home sales figures, adding to that. And you can't dismiss the fact we have supply next week."

9. Four more US regional banks failed or were taken over at the insistence of the US Federal Deposit Insurance Corp over the weekend, including Texan bank Guaranty Financial Group - America's 11th biggest bank failure, Bloomberg reported. Last weekend the sixth biggest failure, Colonial, went down. The FDIC is letting regional banks go bust. They must be furious they're not too big to fail. 10. Rolfe Winkler at Reuters has an excellent piece on the US banking situation, pointing out just how big the current debacle is compared to previous depressions when you include the 'too big to fail' big four banks (Citigroup/JPMorganChase/Wells Fargo/Bank of America Merrill Lynch) that are on governmental life support.  He points out the FDIC has run out of reserves and is about to call on a credit line with the US Treasury. Meanwhile I agree with him that the 'too big to fail' banks should be broken up.

Its (FDIC's) deposit insurance fund had just $13 billion as of March 31. The 56 failures since then will cost it an estimated $16 billion, including nearly $3 billion for Colonial. (That amount excludes Guaranty "“ the FDIC should provide an estimate for those losses later today.) It's an unsettling thought if you have money in a bank. Officially, FDIC backs $4.8 trillion worth of deposits. If you include "temporarily" insured deposits, the total is $6.3 trillion. Yet the insurance fund protecting these deposits is going broke. Soon, the FDIC may have to draw on its credit line at Treasury. It's not surprising, given the sorry state of the Deposit Insurance Fund and the gargantuan heft of the big four, that FDIC is taking a bifurcated approach to bank resolutions. Bair has moved decisively to close small and medium-sized banks. With the monsters, she not only assisted in their bailouts "” providing federal insurance for their debt even as she already insures their deposits "” she also sponsored their continued growth "” putting WaMu in the hands of JPMorgan and pushing Wachovia into the arms of Wells Fargo. The FDIC, which was created to protect society from deposit runs, is no longer able to fulfill its mission because the biggest banks have grown far beyond its grasp. That's why these banks need to be downsized dramatically. A tax on assets is a good idea, but not enough. To break them up, Washington should limit the deposits in any single bank to a threshold far below what the big four currently hold.