Dienstag, März 31, 2009

Modernization and Conservativism, Or How Do We Get Out Of This Nightmare...

Shucks. Decided not to wait.

Toyota's February production numbers went down 56%. Honda is not far behind. We all know the daily stories of this cut back and that.

I read the FT every day as part of my job. There were two editorials in today's FT: one from Michael Skapinker, the other from Eric Dinallo.

First that from Skapinker, "Dangers In A World Of Disillusionment", link here.

Basically, Michael Skapinker says that at least during the last such crisis, there were alternatives: socialism and fascism (he doesn't use the latter word) were at least alternatives back in the 1930s. The utter and complete discreditment of socialism means that this is not a viable option, and of course fascism, the corporate statism kind at least, is even more thoroughly discredited. So what's the alternative?

Skapinker says this, basically: that given the need to rethink the social contract between government and the market, we also need a clear set of goals and a simple story. Instead, we are getting "casting around trying one thing and then another until we find what works", with a bit of die-hard cultural fear/antisemitism tossed, visible in the resentment against foreigners and migrant workers, as well as Jews.He says:

Replacing simple narratives with a pragmatic search for what works requires a grown-up approach. Let us hope we are up to it. The stakes are high.

This is a good turn of phrase: taking a grown-up approach. What does Skapinker really mean, even if he doesn't actually come out and say it?

It's time to return to tried and true methods of dealing with problems, of getting back to the Gods of the Copybook Headings. It's time to grow up.

Huh? Gods of the Copybook Headings?

Kipling, of course. Here.

Let's start at the beginning:

AS I PASS through my incarnations in every age and race,
I make my proper prostrations to the Gods of the Market Place.
Peering through reverent fingers I watch them flourish and fall,
And the Gods of the Copybook Headings, I notice, outlast them all.

He's not talking about markets, that simple, elegant and utterly ruthless mechanism, but rather to the phenomenon of ignoring fundamental truths in order to make a buck.

We were living in trees when they met us. They showed us each in turn
That Water would certainly wet us, as Fire would certainly burn:
But we found them lacking in Uplift, Vision and Breadth of Mind,
So we left them to teach the Gorillas while we followed the March of Mankind.

This is the core of our problem, one that has been with us for a long time and, unfortunately, will continue to plague us: that there are those amongst us who desperately want things to be different. Rather than acknowledging the basic elements of logic and knowledge, they believe their fantasy world to be reality.

We moved as the Spirit listed. They never altered their pace,
Being neither cloud nor wind-borne like the Gods of the Market Place,
But they always caught up with our progress, and presently word would come
That a tribe had been wiped off its icefield, or the lights had gone out in Rome.

In other words, you cannot ignore reality: there are inarguable facts and there are causal chains that always lead to ruin, no matter how many times people claim that this time things are going to be different. I'm expecting a neo-socialist movement, for instance, who will claim that the mixture of the internet and inventory control mechanisms will make control of the means of production feasible for the state...

With the Hopes that our World is built on they were utterly out of touch,
They denied that the Moon was Stilton; they denied she was even Dutch;
They denied that Wishes were Horses; they denied that a Pig had Wings;
So we worshipped the Gods of the Market Who promised these beautiful things.

Like I said: those who desperately want things to be different, not so much because things are so horrible and unjust, but really because to get anywhere, you really have to work at it. There are really no short cuts to wealth besides working yourself half to death and pushing consumption into the future: get-rich-quick schemes always work for those selling the books, but never for those who try the methods.

When the Cambrian measures were forming, They promised perpetual peace.
They swore, if we gave them our weapons, that the wars of the tribes would cease.
But when we disarmed They sold us and delivered us bound to our foe,
And the Gods of the Copybook Headings said: "Stick to the Devil you know."

None of my pacifist friends would ever recognize this: that the price of liberty is the willingness to do violence to protect it.

On the first Feminian Sandstones we were promised the Fuller Life
(Which started by loving our neighbour and ended by loving his wife)
Till our women had no more children and the men lost reason and faith,
And the Gods of the Copybook Headings said: "The Wages of Sin is Death."

There are no short cuts to happiness with a partner besides working hard at the relationship and being faithful: the warning against hedonism - covet not thy neighbor's wife - is one of the 10 commandments.

In the Carboniferous Epoch we were promised abundance for all,
By robbing selected Peter to pay for collective Paul;
But, though we had plenty of money, there was nothing our money could buy,
And the Gods of the Copybook Headings said: "If you don't work you die."

If that isn't a clearer condemnation of the welfare system, both personal and corporate, then I don't know one. You can rant and rail against the laws of economics, against the laws of physics, but you can't ignore them: that way leads invariably to the funeral plain in one way or another.

Then the Gods of the Market tumbled, and their smooth-tongued wizards withdrew
And the hearts of the meanest were humbled and began to believe it was true
That All is not Gold that Glitters, and Two and Two make Four
And the Gods of the Copybook Headings limped up to explain it once more.

Again: Kipling is not talking here of the idea of markets, but rather those who sold themselves off in the market.

As it will be in the future, it was at the birth of Man
There are only four things certain since Social Progress began.
That the Dog returns to his Vomit and the Sow returns to her Mire,
And the burnt Fool's bandaged finger goes wabbling back to the Fire;

And that after this is accomplished, and the brave new world begins
When all men are paid for existing and no man must pay for his sins,
As surely as Water will wet us, as surely as Fire will burn,
The Gods of the Copybook Headings with terror and slaughter return!

Bluntly, the Gods of the Copybook Headings are returning.

Eric Dinallo, the New York Insurance Superintendent, also wrote in th FT, link here.

Many compare this financial crisis to the stock market crash of 1929, but it is closer to the credit freeze and bank panic of 1907. We might have avoided the worst of the current troubles if we had not overturned laws adopted in response to earlier crises. We should have placed more value on the hard-earned lessons of the instability that comes from unregulated markets and gambling on securities prices.

The Gods of the Copybook Headings...can be placated by those who recognize what they are doing wrong and take actions to restore their place in the scheme of things.

There is hope for us yet: but at a cost:

Thus, one of the major causes of the financial crisis was not how lax our regulation, or how hard we enforced, but what we chose not to regulate.

Indeed, what we decided was old fashioned and in need of modernisation was, in fact, an effective check on an activity that for 100 years had been illegal, for good reason. As a result, we modernised ourselves into this ice age.

The fear in 2000 was that if we regulated credit default swaps and required holding sufficient capital, the market would go where unregulated sellers could make more money. We forgot that the biggest competitive advantage of the US financial system has always been safety, security and transparency. If we destroy that perception, the long-term cost to our society is incalculable.

What did we learn at the start of the last century that we then disregarded either through amnesia or hubris? What lessons, now learnt twice, can be gained from all this?

There are basically four ways people hand over money to financial institutions: 1. Bank deposit accounts. You deposit your money and the return of principal and interest is guaranteed. Banks are required to hold enough capital to deliver on that promise. 2. Insurance. If you suffer a loss, you are guaranteed recovery. Insurance companies are required to hold capital to meet that guarantee. 3. Gambling. If your bet wins, you are guaranteed your winnings. Casinos and racetracks are required to hold enough funds to ensure payouts. 4. Investment. There are no guarantees when you invest in a stock or a bond. You could lose everything. Appropriately, investment bank capital requirements are much lower. The first three categories contain guaranteed payments against future events; the fourth is merely aspirational.

We thought we could use alchemy to create a perfect fifth category that allowed guarantees supported by little or no capital, and that would produce hefty profits with no real risk. Instead, we re-created the old bucket shop gambling parlours on steroids and another credit crisis. Financial products should be seen as belonging in one or another of those four categories and regulated appropriately. If there is a guaranteed outcome, then the guarantor must hold sufficient capital to make good on that guarantee. A key lesson of this crisis is the danger of insufficient capital and the risks of alchemy.

And the risk of not listening to the Gods of the Copybook Headings.

In sum, if you offer a guarantee – no matter whether you call it a banking deposit, an insurance policy, or a bet – regulation should ensure you have the capital to deliver. If you offer investments, be transparent, but buyer beware. No one should ever again get to bet the store called the Entire American Economy. And certainly do not assume we are smarter than folks 100 years ago. As Mark Twain is supposed to have said, history may not always repeat itself, but it sure rhymes.

The question should be, rather, what measures must be taken to please the Gods of the Copybook Headings, to assuage their appetite for those who forget the lessons of the past in their delusions.

What both writers are pointing at is something that economists know will happen: a correction. Only that appeases the Gods of the Copybook Headings.

The correction will be a return to those old, staid, boring rules that the Gods of the Copybook Headings enforce so ruthlessly. Hard work trumps slick salesmanship every day. Age and guile will always trump youth and ambition. All those platitudes that get in the way of all the modern-day liberal fantasies will surround exactly those and banish them once again.

In other words, a return to classic values, a return to small-town banking and business practices, or to put more simply...a return to conservative values.

That's how we get out of this nightmare. Not by a magic bullet or some super-secret neato-keeno plan, but by simple hard work and investment, not spending money we don't have and buying things we don't need.

Death seed blind mans greed
Poets starving children bleed
Nothing hes got he really needs
Twenty first century schizoid man

Reality Continues to Intrude...

Reality has intruded a fair amount lately, and it's only slowly starting to get better...

Stay tuned...

Montag, März 23, 2009

We Are Truly Frakked...And Frelled, For That Matter, Too...

Frak and Frell are two replacement words for that lovely anglosaxon word that has, as its bases, the meaning "to thrust, to penetrate". One is from Battlestar Galactica, the other from Farscape, two of my more favorite TV series...

When Paul Krugman, the liberal Nobel-Prize winning economist, says that the Geithner plan is severely and fundamentally flawed, then you know that we're both frakked and frelled.

You can read his column here.

Basically, the Geithner plan is operating under the fantasy that there is a way to get back to the warm and nurturing price levels of the peak of the bubble. Once there, everything falls into place and the world recovers.

That is exactly like the idea that I can go on a wild spending spree and then sell everything on eBay in order to pay off my debts. If I sell enough for more money than I paid, then I am in good shape.

The idiocy is more than simply mind-boggling, and since the beginning of March, the dollar is already starting to tank.

Let's take a look at the key quote:

The Obama administration is now completely wedded to the idea that there's nothing fundamentally wrong with the financial system — that what we're facing is the equivalent of a run on an essentially sound bank. ... there are no bad assets, only misunderstood assets. And if we get investors to understand that toxic waste is really, truly worth much more than anyone is willing to pay for it, all our problems will be solved.

To this end the plan proposes to create funds in which private investors put in a small amount of their own money, and in return get large, non-recourse loans from the taxpayer, with which to buy bad — I mean misunderstood — assets. This is supposed to lead to fair prices because the funds will engage in competitive bidding.

But it's immediately obvious, if you think about it, that these funds will have skewed incentives. In effect, Treasury will be creating — deliberately! — the functional equivalent of Texas S&Ls in the 1980s: financial operations with very little capital but lots of government-guaranteed liabilities. For the private investors, this is an open invitation to play heads I win, tails the taxpayers lose. So sure, these investors will be ready to pay high prices for toxic waste. After all, the stuff might be worth something; and if it isn't, that's someone else's problem.

Or to put it another way, Treasury has decided that what we have is nothing but a confidence problem, which it proposes to cure by creating massive moral hazard.

This plan will produce big gains for banks that didn't actually need any help; it will, however, do little to reassure the public about banks that are seriously undercapitalized. And I fear that when the plan fails, as it almost surely will, the administration will have shot its bolt: it won't be able to come back to Congress for a plan that might actually work.

What an awful mess.

Oy vey. This is recipe for a disaster for the taxpayers and a huge windfall for those - some of them banks - who have the money to spend and who don't need any help.

The last book I read by Krugman I ended up almost throwing down in frustration because the man had become so patently and ridiculously partisan that he had become blind to reality. But since Bush has been out of office, and perhaps more importantly, after he won his Nobel, he's started to revert to the economist he once was.

Read and weep: this is the liberal's liberal economist telling us that the Geithner plan isn't about getting out of the mess: it is part and parcel of the mess.

Remember, unless you are part of the solution, you are part of the problem...

Samstag, März 21, 2009

Slowly It's Becoming Apparent...

This caught my eye as I was working last night...

It's not that it is the end of America: rather, the sheer ineptitude, the sheer incompetence of Obama's administration and the US Congress is matched only be the truly sickening levels of corruption in at least Congress, and it is becoming more and more visible to all but the most puerile and partisan observers.

President Obama so far, to the detriment of the office, has turned out to be an unusually weak leader: he defers to his colleagues in the Congress to an unusual extent, one that borders on subservience. While the President at all times needs to listen to Congress - they are, after all, the folks who decide whether the President gets his budget or not - it's quite another thing to allow Congress to set the agenda when it comes to things that are usually the President's perogative, such as putting together things like the TARP and the stimulus bill.

There's a reason for seperation of powers. Before there was a US Constitution, there was a confederation of states that left one thing perfectly clear in the minds of the Founding Fathers, that a loose confederation of states couldn't make decisions in a timely manner, if they could come to a consensus at all. Hence the creation of the Executive branch in the US trinity of governmental structure: they gave someone the power to make decisions, with Congress as the financier and the judicial as the arbiter of what was allowed and allowable.

But this quote makes it painful to see what has happened:

The AIG bonus firestorm is a diversion from real issues , but it puts the ghastly political classes who make U.S. law on display for what they are: ageing self-serving demagogues who have spent decades warping the U.S. political system for their own ends. We see the system up close, law-making that is riddled with slapdash, incompetence and gamesmanship.

The problem here? I can't find a reason to contradict what Terence Corcoran has written, and that is indeed a sad state of affairs.

If the Democrats aren't hell-bent on destroying the structure of US life, they're hiding it well. Slowly it's becoming apparent that the worst fears are coming true: the destruction of great institutions on the bonfire of political vanities; instilling hopelessness that things will get better; preparing for radicalization; wanting the impoverishment and despair of millions in order to realize their hopelessly incompetent and dysfunctional green utopia ideas; and finally, preparing the destruction of key institutions to further their political goals of a different America.

Slowyl it's becoming apparent that the American voter didn't elect who they thought they were getting.

The problem is that we still don't know who Obama is.

Freitag, März 20, 2009

Ain't That The Truth...

Sorry to be so quiet, reality has intruded and I've been negligent. Unfortunately, this will continue for the next few days.

Here's something that was, however, too good not to pass on:

Perfectly formulated, I have nothing more to add.

Dienstag, März 10, 2009

MBAs, Business Schools and Ignorance...

Today's Times has an interesting mea culpa here.

This is the key quote:

Business schools have shown a remarkable ability to miss the economic catastrophes unfolding before their eyes.

Of course they do: they're not economists.

The real problem is that economists have also shown a remarkable ability to miss the same economic catastrophes. Especially the forecasters.

Now, those who know me also know that I do forecasting: am I saying that I missed it as well?


We all did.

Even those who were convinced a downturn was coming missed it.

The article linked to ut supra also points out the fundamental problem: that most in the profession follow what others in the profession do. And think. And forecast.

Amongst forecasters, there is a convenient benchmark called the Consensus. I've worked with the consensus extensively, and think that orienting forecasts towards the consensus is one of the things that helped lead to this problem: using the consensus as a benchmark means that the forecaster has ceased to critically think about why his forecast looks the way it does. Group-think is also a problem within the forecasting community, and what the author says about MBAs is applicable here as well:

"They can't really step back and take a critical view," he said. "They're totally defined by others and by the outcomes of what they're doing."

The non-academic economics profession is facing an uphill struggle after losing two significant battles: first, the economists have been replaced by the accountants and the lawyers; second, the mathematization of the academic economist has also had its impact on the lowly business economist.

The only problem is that the failure, the abject failure of the MBAs and the lawyers in the current crisis doesn't mean that the business economist will suddenly return to vogue, especially given the power that the accountants and lawyers wield in the companies. Rather, if anything, things will have to become significantly worse before anyone is willing, once again, to listen to economists. It's our task to make that what we say also something worth listening to.

While the ignorance of the lawyers and the accountants to la via economique didn't create the problems we are facing, it helped make them inevitable.

Redlining, Subprimes and Irony...

Oh the irony.

Let's step back and repeat something I've touched upon here.

Let's go back to the establishment of the subprimes.

Back in the 1960s, you had a generation of people who seem determined to find where the wrongs in society were and to correct them. Yound, idealistic, some did some good things.

Others, well intentioned, did some awful things.

For those who decided to get involved in local community politics, the asked why some areas were blighted, apparently permanently so, whilst other areas with not dissimilar incomes thrived and did well. It's a sociological problem, one of urban development, and at least some found out, by asking people living in those areas, what a partial reason for this was: it is called redlining.

Simply put, redlining means that a bank or other lender simply decides that a geographic area - outlined in red on a map, hence the term - was fundamentally a high-risk area and that the bank either would simply not make loans to that area or, if loans were to be made, these loans would command a significant risk factor. While this is fairly sound commercial practice, it was interpreted as how capitalism was exploiting the poor, either refusing them access to capital or, even worse, punishing them for being poor by raising their costs. It's the same reason that you don't find the best stores in low-income neighborhoods: risk is greater there for theft and vandalism, which reduces the potential profit to be made, and stores operating there tend to be higher priced and lower quality (since things are going to be damaged, no sense in investing in something of higher quality when it will be vandalized). These are legitimate commercial decisions, but are, of course, politically distasteful.

Hence the Community Reinvestment Act, the original one: it made redlining very difficult. It didn't stop it, since the banks continue to do geographical analysis to determine which areas are in demand and which ones aren't, which areas are perhaps underpriced and could be targeted for development work, and other commercial considerations based on physical location.

Redlining was generally condemned and amongst the activist left actively demonized.

Which is why this from the WSJ is so wonderfully, wonderfully ironic.

Redlining back in the 1960s had everything to do with the ethnic makeup of neighborhoods and with mortgages, i.e. long-term financial investments. Yes, there was a time when mortgages really were considered to be long-term investments.

Now let's pop back to the current day: redlining is back, back big, and is, just as it was back then, a commercial consideration that has real repercussions.

But now it's not mortgages, but credit card lines of credit. Not debt as such: lines of credit:

...home price depreciation has been a more reliable determinant of consumer behavior than FICO scores. Hence, lenders have reduced credit lines based upon "zip codes," or where home price depreciation has been most acute. Such a strategy carries the obvious hazard of putting good customers in more vulnerable liquidity positions simply because they live in a higher risk zip code. With this, frequency of default is increased. In other words, as lines are pulled and borrowing capacity is reduced, paying borrowers are pushed into vulnerable financial positions along with nonpaying borrowers, and therefore a greater number of defaults in fact occur.

Welcome to the brave new world of redlining: zip code redlining for credit lines of risk.

What are the implications for this?

And fourth, along with many important and necessary mandates regarding fairness to consumers, impending changes to Unfair and Deceptive Acts or Practices (UDAP) regulations risk the very real unintended consequence of cutting off vast amounts of credit to consumers. Specifically, the new UDAP provisions would restrict repricing of risk, which could in turn restrict the availability of credit. If a lender cannot reprice for changing risk on an unsecured loan, the lender simply will not make the loan. This proposal is set to be effective by mid-2010, but talk now is of accelerating its adoption date. Politicians and regulators need to seriously consider what unintended consequences could occur from the implementation of this proposal in current form. Short of the U.S. government becoming a direct credit-card lender, invariably credit will come out of the system.

Lovely: Washington is interfering with the markets once again. The article is complete accurate: if risks cannot be repriced, then there will be no money lent. Period.

Over the past 20 years, Americans have also grown to use their credit card as a cash-flow management tool. For example, 90% of credit-card users revolve a balance (i.e., don't pay it off in full) at least once a year, and over 45% of credit-card users revolve every month. Undeniably, consumers look at their unused credit balances as a "what if" reserve. "What if" my kid needs braces? "What if" my dog gets sick? "What if" I lose one of my jobs? This unused credit portion has grown to be relied on as a source of liquidity and a liquidity management tool for many U.S. consumers. In fact, a relatively small portion of U.S. consumers have actually maxed out their credit cards, and most currently have ample room to spare on their unused credit lines. For example, the industry credit line utilization rate (or percentage of total credit lines outstanding drawn upon) was just 17% at the end of 2008. However, this is in the process of changing dramatically.

Without doubt, credit was extended too freely over the past 15 years, and a rationalization of lending is unavoidable. What is avoidable, however, is taking credit away from people who have the ability to pay their bills. If credit is taken away from what otherwise is an able borrower, that borrower's financial position weakens considerably. With two-thirds of the U.S. economy dependent upon consumer spending, we should tread carefully and act collectively.

Amen to that.

What is happening here? Simple: the bankers/credit card companies are commercial entities that must manage their risk. If risks cannot be repriced - which is, fundamentally, what happened with the subprimes - then these entities will not be interested in taking those risks on: you can't blame them for that.

In the interest of protecting consumers from having changes in their risk profile result in higher risk premiums, the government - in its infinite wisdom - is going to stop those who carry the risk from charging higher risk premiums.

Which will throttle the credit card system.

Which will reduce liquidity for the individual consumer.

Which will move us closer and closer to a cash society, one that lives not on a leveraged cash flow, but only on the cash flow. No more using your credit card for large purchases: save up and pay cash. No more using your line of credit as a puffer zone for unexpected large expenses: better have that money saved up and put in some sort of fast-access short-term account. No longer can you simply drive to the airport and get on the next plane on a Saturday evening if you receive news that a loved one is dying and you need to get there before they die: wait until the banks are open (because you can't get the amount of money you need from your ATM).

No more using your line of credit as a deposit for renting cars, or to avoid the risks of carrying large amounts of cash for a long trip. Unless, of course, you have a job earning a salary in the top 5%, have no outstanding loans, have a proven track record of repaying loans, and really don't need it in the first place.

Talk about unintended consequences: a progressive policy, aimed at protecting consumers from those evil and nasty commercial companies who just want to rip them off, has the effect of forcing all of us to become financial ... conservatives.

Oh, the irony.

Montag, März 09, 2009

Markets, the Left and Capitalism

Reading the editorials of the last few days one could get the feeling that capitalism has failed, that markets don't work, and that the chantings of the Left are now being listened to.

What a crock.

Let's talk first and foremost about markets and what the Left has failed to understand - and appears congenitally incapable of understanding - about how markets work.

First and foremost: markets are ruthless, efficient and really, really don't give a shit about you or how noble or empowered you may be. Markets clear seller's goods from their shelves to meet the demand from the consumers of those goods with simple and ruthless methods: price and availability. Price something too low and it will disappear quickly; price something too high and no one will buy it. If you've only got a few goods, then you'll be able to sell them at a high price if demand allows it; if you've got a huge amount of goods, you'll probably have to drop prices to get rid of them.

The law of supply and demand is ruthless and punishing: price your goods too low and you forgo profits; price them too high and you won't sell. It's really a very simple set of rules that govern the most complex game there is.

Markets invariably work: it's just that they don't always work the way that some people think they should work. I remember working, back in college days, in a food coop to get my groceries cheap. I remember how the folks there would rant and rave about how some of their acquisitions - usually vastly overpriced goods from politically correct countries, such as Nicaragua - didn't sell, that the people buying coffee, for instance, had an obligation to support the coffee growers in Nicaragua directly instead of buying what they liked to drink. They were seriously proposing that when consumers refused to buy an overpriced product (overpriced for political purposes) that it meant that the market didn't work. The same was true for the poorly dyed t-shirts they were selling, as they were dyed using organic dyes and were dyed by a local woman's collective. The truth was that they were so poorly dyed that you had to wash them separately for weeks on end until the dye finally stabilized, and then the damn things were splotchy and looked drab and terrible; you were supposed to wear them to show that you were politically correct. When no one bought them, that was, in their view of the world, a failure of the market.

I can't repeat it enough: markets are ruthless and efficient, but not always in the way that people want them to behave.

And that is the failure of the Left: to claim that markets don't work is to show their fundamental ignorance of what markets are and what they do. Banks are going bankrupt not because of market failures, but rather because the market is ruthless and buyers are putting low values on something that someone paid too much money for. Credit has dried up because the banks are carrying too many bad loans on their portfolio, largely because markets were manipulated and the banks made mistakes based on that.

You see, markets are not magical places where things magically happen: the invisible hand, while invisible in the sense of no one is really able to see exactly how it operates, is still how the market works. Or, more exactly, it's what we use to explain that we can't exactly describe how markets actually function.

Markets are like the brain that way: while lots of neurologists out there like to think they know how the brain works, no one has ever been able to document where the feelings of love that I have for my wife and children are encoded in my brain; we know basic functions, but we don't have the ability to document the details. We know that such things work and do so in ways that no one can figure out, but at least the neurologists - generally - know that if you create a chemical imbalance in the brain, you skew the personality associated with that brain severely. While psychotics and other loonies can be helped by changing back the chemical balances, the basic idea remains: interfere with brain chemistry at your peril. So it is also with economic and financial markets.

There are few markets out there that aren't skewed in one way or another. The market for health-care drugs is strictly regimented to avoid damage to patients from drugs not adequately tested; the market for consumer goods are skewed by safety testing and liability laws; these are interferences into a market to ensure that these markets don't end up providing dangerous pharmaceuticals or toys that kill small children routinely. This kind of interference serves to ensure that the goods traded meet certain requirements and standards.

But then there's interference in markets that try to adjust them to skew their functioning in one way or another. That is where things go really, really wrong.

Capitalism is, to the Left, cruel and unjust, concerned only with profits and not with people.

What the Left doesn't realize is that while Capitalism is the worst of all economic and financial systems in providing some sort of "justice", it is the only way for any working economic system to achieve any sort of political goal. They are making the fatal conceit of associating business with politics, a rather tedious trait of the Left (the incessant and permanent politicization of everything is what makes the Left largely unbearable even in the worst of polite company).

More on capitalism and the errors of the Left to come...

Donnerstag, März 05, 2009

Something To Remember...

In the coming days you'll be bombarded with pundits and opinions on what caused the recession, largely with the story line of "deregulation" and the failures of the Bush Administration. That way the Obama Administration will have someone to blame.

But keep in mind the real reasons behind this world-wide crisis: politically motivated meddling in markets, creating the necessary conditions for what has happened.

Of course, you'll have lots of folks out there who will search for prime causes, someone or something to blame directly. The left is already doing this, blaming deregulation and capitalism for our woes.

But consider this: sometimes things happen not because of a direct, single and simple cause (as much as it stretches the intellectual ability of most on the left to consider this). Instead, they are the result of a chain of events, which may be a comedy of errors or may be rather more sinister than that. Indirect approaches to achieving goals can be subtle and may, in some cases, literally take decades to complete, and one ignores little steps that add up at one's peril.

Hence our troubles aren't based on any one single event, but rather a series of events, in many cases done with good will towards a good cause, but have led us to where we are now.

This editorial at the IBD gives good coverage of why the banks aren't to blame. But that's not the whole story.

The real story, for me, is that there is a real paucity of right and proper economic analysis out there. Sure, there are a lot of people out there writing analysis of what is happening, what has happened, what might happen: the problem is that relatively few of them are actually economists.

The problem is that the role that economists used to play has been largely usurped by non-economists. In the 1980s and well into the 1990s, most larger companies has a corporate economist who would write up analysis of what was going on in markets, what the Fed might do to interest rates, how markets might develop.

Starting in the mid-1990s, these folks slowly disappeared, more or less in conjunction with the increasing quant nature of economics training.

This is the failing of the economics profession, as far as I am concerned (and given that I have no academic aspirations, I also have no fears of upsetting anyone): the fatal conceit that to be a good economist, one must also be an excellent mathematician, mastering calculus and other advanced forms of math in order to build models. The problem with this is that the only ones who are really interested, then, in what you say are other quants or other technicians, rather than the businessmen who actually need your analysis to help them make decisions that make or break companies.

While I may be here, to a certain extent, guilty of perfect hindsight, I do remember, back when the Community Reinvestment Act was first introduced in 1977, being struck by the idea that high-risk loans be covered by higher costs for loans to those with lower risks. What struck me was that rather than subsidize the working poor so that they could buy a house (i.e. removing them from the high risk group that they belonged to), it had been decided to create something that was in and of itself inherently risky, and requiring banks to make such loans.

Now, I'm talking back in 1977 with the original CRA, rather than the later modifications under Clinton. The failure here was the creation of the risky loans, not how this risk was to be carried. Back then I was actually knew Acorn people and thought they were doing a good thing by fighting for those trapped in redlined districts to be able to buy a place to live, rather than be stuck paying rent to a landlord who may or may not have been exploiting the working poor.

And let us remember that these folks were the original target of aid: those who, while working and earning a living wage, were nonetheless severely disadvantaged as building up capital because their living costs failed to build up equity. They were denied loans not because they were a severe risk, but rather because of where they lived: their neighborhood was redlined. Redlining meant that on the local maps up at the local mortgage bank, the areas were marked off in red because the bank had decided that they wouldn't provide mortgages there at all: this might be because of empirical risks, or because the areas involved were slums and hence the banks wouldn't want to own buildings there in case of default, or because the banks had financed the slumlords who effectively had a monopoly on low-income housing in that area and hence a vested interest in keeping tenants in such housing. More often than not, the latter was the real reason for redlining a district after an investor had bought up a large majority of the buildings: this was a common business practice in the real estate business.

The goal was to get the working poor out of bad housing that was rented out at market rates, but with poor maintenance in order to save on costs. This is, after all, the only way to make money on renting to low-income tenants: you have to build cheap, and you have to cut all costs as strongly as possible in order to repay your loans as fast as possible in order to turn a profit on such rental units. Low maintenance meant that the places ran down fairly quickly and vandalism and destruction wasn't fixed in a timely manner (if at all). Increasing wages meant that people could afford to move away, but more often than not increasing wages would be accompanied by increasing rents.

So what was done to alleviate the problem? The Subprime Mortgage was invented, one that required the banks to make the loans to their community based on the makeup of the community, rather than based on the financials and economics of the situation.

And let me make it clear: the basic idea is good. Districts with lots of home owners are invariably cleaner, brighter places to live, in comparison to tenement slums and welfare islands.

But this is where the error was made. The banks kicked and screamed, quite rightly so, but also, when it became law, accepted the burden of the subprimes.

The error wasn't in trying to help the working poor, but rather how this help was achieved. The CRA distorted the market: loans were made to those who did not qualify for them in the traditional sense, but which were subsidized by increasing overall costs of lending monies for mortgages, i.e. the risks were carried by the traditional mortgage user.

This is where the mistake occurred: risky mortgages were created. This is the first sin, as it were, on the road to perdition.

Rather than having created the risky mortgage, other alternatives should have been considered, such as direct subsidies to first-time home buyers in distressed neighborhoods so that their mortgages were no longer risky; rezoning to eliminate tenement slums and encourage home ownership and rent subsidies to ensure that maintenance was properly done. These alternatives would have avoid the creation of risky mortgages, the creation of the subprimes, and would have effectively achieved the same result.

So keep in mind where the mistakes were made: they weren't made by deregulation (as if the banks weren't heavily regulated!), they weren't made by bankers selling off their mortgage portfolios, they weren't made by capitalists.

They were made by serious, ernest people trying to help out the working poor, but who chose to create something risky in order to right what they perceived as a wrong.

That was the failure, and hopefully the lesson to be learned: never chose the path of least resistance but of the greatest risk.

And also remember that decisions made today may first have their repercussions 30 years or more in the future, with changes and addendums done by those with the best of intentions but with no understanding of what they are really doing. The decision to create the subprimes was first and foremost a political decision, and these kinds of politics and economics do not mix.

Why Geithner Got His Job...

According to this report, the reason should be obvious, and it points to what will be coming down the road.

U.S. oil and natural gas producing companies should not receive federal subsidies in the form of tax breaks because their businesses contribute to global warming, U.S. Treasury Secretary Timothy Geithner told Congress on Wednesday.

Will this be the new litmus test, the new benchmark?

Apparently so:

"We don't believe it makes sense to significantly subsidize the production and use of sources of energy (like oil and gas) that are dramatically going to add to our climate change (problem). We don't think that's good economic policy and we think changing those incentives is good for the country," Geithner told the Senate Finance Committee at a hearing on the White House's proposed budget for the 2010 spending year.

This isn't about incentives, this is about punishing the small companies in the business to drive them out of the business. This is what the effect will be: anything else is whitewash.

The Obama administration's budget would levy an excise tax on oil and natural gas produced in the Gulf of Mexico, raising $5.3 billion in revenue from 2011 to 2019.

This new 13 percent tax on all oil and gas production in the Gulf would only affect those companies enjoying a loophole that allows them to avoid paying royalties on the energy supplies they drill. Companies already paying royalties would get a tax credit.

Obama's budget would also place a $4 per acre annual fee on energy leases in the Gulf that are designated as nonproducing. The budget proposal projects the fee would generate $1.2 billion from 2010 to 2019.

This is also known as the "use or lose" provision: this is stupid. Companies lease large tracts because if you don't lease them, your competitor will: nonproducing tracts haven't been explored yet, meaning that all the White House is doing here is telling the companies that if they reserve tracts - an industry practice - that may or may not be productive, they have to do the drilling to determine whether they are productive or not in order to avoid paying a tax on their holding the leases. All this is designed to do is to drive small companies, who live or die according to their ability to drill more producing wells than non-producing wells on unknown tracts, out of the business.

Gee, and I thought the Republicans were the party of Big Business: my bad.

Senator John Cornyn of Texas criticized the tax increases, saying they would hurt independent energy companies that provide a large share of U.S. oil and gas supplies.

"My view is that higher taxes on small and independent producers here in America will make us more dependent on imported oil and gas while we transition to cleaner energy alternatives, a goal we all share," said Cornyn. "And it will also hurt job retention and job creation in the energy sector, which provides an awful lot of jobs in this country."


Geithner said the additional taxes "can be absorbed" by the oil and gas companies, given the billions of dollars they have earned from high energy prices.

Here you can see why Geithner has his job: class envy, let the rich pay, businesses can pay for everything, I don't want to hear about the billions in costs.

"The impact of these subsidies are very small relative to revenues produced by U.S. oil and gas producers," he said.

Ah, but which U.S. oil and gas producers?

Let's look, briefly, at the history of this industry. You start out with a few big players who knew how to game the system and got subsidies to go do their work, persuading enough lawmakers in Congress at some point that This Was A Good Thing.

Smaller companies pop into existence as the subsidies make it possible for them to compete, and not a few of the smaller companies are staffed by folks who left the big companies to go out on their own. They're faster and more efficient than the big companies, who tend to stake claim to huge tracts of land to keep the small guys out. Big companies got deep, deep pockets, not the least because of the subsidies, which favor big companies.

Big companies don't like the small guys because they're horning in on a very profitable business.

So the big companies lobby and spend, and they're happy to find that the ecofreaks of the new Administration, while in some ways smart people, are naive about how the world actually works, and they are able to find ways to kill the subsidies.

Result: small businesses can't compete - no deep pockets, remember - and the large companies go back to the days of practical monopolies and maximizing their profits at the cost of the consumer.

In this case aided and abetted by the ecofreaks of the White House, who think that they're shafting the big companies with the per-acre fees. The big guys just need to have enough money to outlast the little guys, who simply don't have the reserves to pay the fees and remain profitable.

Great example of how big business will get along famously with the Obama Administration.

The losers? The small companies and, above all, the American consumer, who, after all, has to be protected from low energy costs in order to save the environment.


Dienstag, März 03, 2009

Gaza, Naivete and Hamas...

So, donors have pledged no less than $4.5bn for Gaza, but have stipulated that none of the money may go to Hamas.

Wait a second...how is that supposed to work?

It's along the same line of thought that an elderly aunt uses to give money to her niece, but stipulates that the awful husband her niece married can't profit from that money.

How naive. Of course that niece will take the money and her husband will benefit: the idea that you can stipulate a non-benefit from someone in the household is absurd. If the niece buys a flatscreen TV, will the husband not be permitted to watch? If the niece buys a new house, will the husband not profit from that? Duhhhh.

According to the news reports, this money will be given to the Palestinian Authority, led by Mahmoud Abbas, with safeguards to ensure that Hamas doesn't get any of the money.

Fundamentally, it goes further than that: it stipulates that no money may be spent until Hamas is no longer in control of Gaza. And where, you might ask, is the mechanism where Hamas is no longer in control of Gaza?


There is none.

This is naive at best and downright subversive at worst.

Consider this: Hamas, for all its problems, did win the election. It did so because of disgust with the corruption of the PA - and giving them $4.5bn just ensures that the PA will continue to be corrupt - and because of the extreme frustration of the Gaza population with the incompetence of the PA in getting services to actually work, as well as making progress with coming to an understanding with Israel that could actually work. Of course Hamas made sure that the PA in Gaza couldn't work out a deal: anyone recommending one was intimidated into silence or killed. The PA isn't blameless here: if anything, the opposite. Hamas would never have had the success that it has had, especially access to Iranian money, if the PA weren't so venally corrupt and, as a result, pathetically incompetent.

But the only real way forward is for Hamas to be defeated at the polls, defeated in such a way that the Palestinians in Gaza show a clear commitment to an actual peace settlement. I don't recommend investing in that argument, since it simply isn't going to happen as long as the Hamas are less corrupt than the PA.

So what is the point of doing this for the donors?

Zilch. There is no point.

This is nothing less than political grandstanding of the finest: everyone can now pat themselves on the back and say that they've done their job, the money is there, and we're not going to aid Hamas. Style and appearance over substance, but I wouldn't expect anything else from Hillary and the political pundits of the Democratic Party.

In reality, the donors are ensuring that the PA remains corrupt and hence not a challenge to Hamas; they're ensuring that the Palestinian civil war will continue; they're ensuring more years of ignorance, deprivation and poverty; in other words, they're ensuring that nothing will change.

In a related note, the Israelis are upping the pressure: plans to build another 70 000 housing units on the West Bank, adding another 300 000 Israelis living there. Strategically the Israelis are upping the ante, making the establishment of an independent Palestinian state more and more difficult.

So where to go from here? Hamas exists only to destroy Israel and ensure that the Palestinians live under their thumb as human shields; the PA is corrupt and incompetent (otherwise Hamas couldn't have dealt them quite the blows that they did in Gaza); the West and the Arab states, at the end of the day, couldn't care less what happens to the people living in Gaza; Israel is taking the strategic advantage and improving its position; in the meantime, nothing happens.

Well, that's quite a recipe for success.

Montag, März 02, 2009

Could It Be That Snowball Fights Are Breaking Out In Hell?

No, the Cubs haven't won the World Series, nor have the Mullahs decided that a secular society has its advantages.

But a columnist in the FT apologizes to the Republicans in the House and in the Senate.

Yep, you read it right. Clive Crook says, here, and I quote:

Barack Obama's first budget is a revelation. The US president's plans will not come to pass in the form he suggests. Congress writes the laws and will make a hash of it. Still, this first full statement of intentions speaks volumes, and leaves me in a paradoxical position. On one hand, I admire much of what the budget says. On the other, I feel I owe Republicans an apology.

As you recall, in the debate over the fiscal stimulus, Republicans accused the president of presenting a measure they could not support, disguising this with an empty show of co-operation. Bipartisanship, they said, is more than inviting your opponents round for coffee and a chat. I did not buy it: I accused them, in effect, of brainless rejectionism and a refusal to compromise, and congratulated the president for trying to come to terms with the other side.

This budget says the Republicans had Mr Obama right all along. The draft contains no trace of compromise. It makes no gesture, however small, however costless to its larger agenda, of a bipartisan approach to the great questions it addresses. It is a liberal's dream of a new New Deal.

Hah! The Republicans had President Obama right all along.

This happens when you actually bother to listen to what the man says, rather than the spin.

A tip of the hat to Clive Crook for his honesty in this matter: I sincerely, sincerely doubt that any columnist at the New York Times or the Washington Post would have the backbone to write the same words. Perhaps there is still hope for England after all...

And this is too good to ignore:

This is indeed a new social contract: we get, they pay. Liberals never had it so good.

And America never had it worst.

Liberals come from good times, from surpluses and money to spend. They get their contributions from those who are doing well - as the records show, Democrats are the party of big money, not the Republicans - and from those who work in areas that are, at the end of the day, not really all that productive, productive in the classic economic sense of actually making and doing things.

With the recession we're in now - which has the potential to become much worse - the last thing the US needs is more taxes for things that liberals love, but are really luxuries in a time when so many jobs could disappear. GM may well tank into Chapter 12, not "merely" Chapter 11, and that could take 5-7 mn jobs with it (including upstream and downstream impacts): rather than find a way to encourage spending, the President is, instead, proposing a carbon tax to discourage spending on cars.

We get, they pay. Have fun, folks.

Hate to say: told you so.