This past weekend's Wall Street Journal had an editorial by Stan Liebowitz, a professor of economics at the University of Texas in Dallas. He writes a very compelling piece demonstrating that current policy makers are wrong in both their beliefs as to what brought about the mortgage default crisis and what will resolve it.
He wrote,
"Many policy makers and ordinary people blame the rise of foreclosures squarely on subprime mortgage lenders who presumably misled borrowers into taking out complex loans at low initial interest rates. Those hapless individuals were then supposedly unable to make the higher monthly payments when their mortgage rates reset upwards.
But the focus on subprimes ignores the widely available industry facts (reported by the Mortgage Bankers Association) that 51% of all foreclosed homes had prime loans, not subprime, and that the foreclosure rate for prime loans grew by 488% compared to a growth rate of 200% for subprime foreclosures. (These percentages are based on the period since the steep ascent in foreclosures began -- the third quarter of 2006 -- during which more than 4.3 million homes went into foreclosure.)
Sharing the blame in the popular imagination are other loans where lenders were largely at fault -- such as "liar loans," where lenders never attempted to validate a borrower's income or assets.
This common narrative also appears to be wrong, a conclusion that is based on my analysis of loan-level data from McDash Analytics, a component of Lender Processing Services Inc. It is the largest loan-level data source available, covering more than 30 million mortgages.
The analysis indicates that, by far, the most important factor related to foreclosures is the extent to which the homeowner now has or ever had positive equity in a home. The accompanying figure shows how important negative equity or a low Loan-To-Value ratio is in explaining foreclosures (homes in foreclosure during December of 2008 generally entered foreclosure in the second half of 2008). A simple statistic can help make the point: although only 12% of homes had negative equity, they comprised 47% of all foreclosures.
Further, because it is difficult to account for second mortgages in this data, my measurement of negative equity and its impact on foreclosures is probably too low, making my estimates conservative."
Thus, according to Liebowitz' analysis of available data, people defaulted on mortgages mostly because they should never have been in those homes in the first place.
He continues,
"To be sure, many other variables -- such as FICO scores (a measure of creditworthiness), income levels, unemployment rates and whether the house was purchased for speculation -- are related to foreclosures. But liar loans and loans with initial teaser rates had virtually no impact on foreclosures, in spite of the dubious nature of these financial instruments.
Instead, the important factor is whether or not the homeowner currently has or ever had an important financial stake in the house. Yet merely because an individual has a home with negative equity does not imply that he or she cannot make mortgage payments so much as it implies that the borrower is more willing to walk away from the loan.
The difference in policy implications is enormous: A significant reduction in foreclosures will happen when and only when housing prices stop falling and unemployment stops rising (see chart nearby).
Although the government is throwing money -- almost $2 trillion and counting -- at the mortgage markets with the intent of stabilizing house prices, its methods are poorly targeted. While Federal Reserve actions have succeeded in reducing mortgage interest rates, low interest rates induce refinancings more than they do home purchases."
This is a very important point. Once again, goverment meddling in asset prices only prolongs pain and adjustments of the market to the correct price levels. The recent subsidies to promote home purchases simply represent another form of the government actions which facilitated the original mortgage default debacle, i.e., promoting purchases of housing and creating false floors under prices.
Liebowitz concludes by noting,
"Unfortunately, recent attempts by politicians such as Barney Frank (D., Mass.) to again artificially increase homeownership levels might delay this return to sustainable equilibrium prices.
Other government policies are likely to be even less effective in reducing foreclosures. The Obama administration's "Making Homes Affordable" plan focuses on having the government help lower obligation ratios (the share of income devoted to house payments) down to 31% from levels somewhat above 38%. But my analysis finds that mortgages having such obligation ratios at closing did not later experience high foreclosure rates. This suggests that reducing these ratios is not likely to significantly improve the foreclosure problem.
Understanding the causes of the foreclosure explosion is required if we wish to avoid a replay of recent painful events. The suggestions being put forward by the administration and most media outlets -- more stringent regulation of subprime lenders -- would not have prevented the mortgage meltdown regardless of their merit otherwise.
Rather, stronger underwriting standards are needed -- especially a requirement for relatively high down payments. If substantial down payments had been required, the housing price bubble would certainly have been smaller, if it occurred at all, and the incidence of negative equity would have been much smaller even as home prices fell. A further beneficial regulation would be a strengthening, or at least clarifying at a national level, of the recourse that mortgage lenders have if a borrower defaults. Many defaults could be mitigated if homeowners with financial resources know they can't just walk away.
We are at a crossroads where we can undo the damage to the housing market by strengthening underwriting standards in a reasonable way. But to do so political leaders must face up to the actual causes of the mortgage crisis, not fictitious causes that fit political agendas and election strategies."
It's sound advice as we continue to see government intervention in housing finance. Chances are it is all detrimental and distorting, just like Fannie's and Freddie's original market-distorting activities which incented lenders to make imprudent loans on too little buyer equity.
Friday, July 10, 2009
Thursday, July 09, 2009
Boone Pickens' Energy "Plan" A Year Later
I saw Boone Pickens on CNBC Tuesday morning. He was there to mark the one-year anniversary of his non-plan national "energy plan."
Suffice to say, Boone was crowing about Congressional legislation including natural gas. But he begged off commenting on 'cap and trade.'
This seems totally disingenuous to me. He claimed he isn't an expert on that topic, so he refused to comment whatsoever on the bill.
Personally, I don't think that dog hunts. Pickens is smart enough to judge whether or not distorting the prices of energy sources via political machinations is a wise thing.
And nobody has yet explained how we know when we spend "too much" on any one good that requires foreign exchange.
In an unrelated article, for example, I read one pundit ask why spending what the US spends on healthcare is "too much," but continuing to pump dollars into union-run schools isn't?
It's still the same with energy. While it may be unwise to leave so many dollars in the hands of unfriendly powers, that's different than buying a fairly-valued commodity input in the market, to use to create value in the US.
Lastly, if Pickens isn't smart enough to have any opinion on 'cap and tax,' why should we believe he's intelligent enough to propose a sound energy policy/plan?
He can't have it both ways. Either he has informed opinions on energy policy in general, or he doesn't. It can't be a pick and choose thing. Even for Pickens.
Suffice to say, Boone was crowing about Congressional legislation including natural gas. But he begged off commenting on 'cap and trade.'
This seems totally disingenuous to me. He claimed he isn't an expert on that topic, so he refused to comment whatsoever on the bill.
Personally, I don't think that dog hunts. Pickens is smart enough to judge whether or not distorting the prices of energy sources via political machinations is a wise thing.
And nobody has yet explained how we know when we spend "too much" on any one good that requires foreign exchange.
In an unrelated article, for example, I read one pundit ask why spending what the US spends on healthcare is "too much," but continuing to pump dollars into union-run schools isn't?
It's still the same with energy. While it may be unwise to leave so many dollars in the hands of unfriendly powers, that's different than buying a fairly-valued commodity input in the market, to use to create value in the US.
Lastly, if Pickens isn't smart enough to have any opinion on 'cap and tax,' why should we believe he's intelligent enough to propose a sound energy policy/plan?
He can't have it both ways. Either he has informed opinions on energy policy in general, or he doesn't. It can't be a pick and choose thing. Even for Pickens.
Wednesday, July 08, 2009
Morgantown Still Economically Vibrant
Last year at this time, I wrote a post about Morgantown, West Virginia. At that time, I noted that, though many talked of recession, this city certainly didn't exhibit any such signs.
I'm back here in Morgantown again, and the picture looks quite similar.
For example, on a Monday evening, a bit later than the Thursday evening last year, the same Olive Garden restaurant was still busy. Not full, though. It was about half full and we were seated immediately this time.
But there is a new Red Lobster across the parking lot, and people were waiting outside to get into that restaurant when we left after 8pm.
The Wal-Mart was still busy this year. Shopping carts were still being filled, and shelves were fully-stocked.
Traffic in Pennsylvania and Maryland was a bit lighter than last year, which fits the recent survey suggesting a 2% decline in driving over the holiday.
Never the less, the mix of activity I've seen in areas typically viewed as economically challenged, still seems vibrant.
I'm back here in Morgantown again, and the picture looks quite similar.
For example, on a Monday evening, a bit later than the Thursday evening last year, the same Olive Garden restaurant was still busy. Not full, though. It was about half full and we were seated immediately this time.
But there is a new Red Lobster across the parking lot, and people were waiting outside to get into that restaurant when we left after 8pm.
The Wal-Mart was still busy this year. Shopping carts were still being filled, and shelves were fully-stocked.
Traffic in Pennsylvania and Maryland was a bit lighter than last year, which fits the recent survey suggesting a 2% decline in driving over the holiday.
Never the less, the mix of activity I've seen in areas typically viewed as economically challenged, still seems vibrant.
Tuesday, July 07, 2009
More Stimulus?
Unbelievable as it sounds, members of Congress are pleading for another deficit-busting stimulus bill.
Apparently they are worried because the ill-designed first $787B bill didn't work. Much of the spending went to transfer payment programs, some went to temporary road-building jobs, and much is planned for out-years.
There were critics of the bill which warned of this result, but Congress passed it so fast there literally was not enough time from the bill's being written, and then voted on, for any one of them to have actually read the bill.
Meanwhile, last week's unemployment rate went to 9.6%. Far higher than the 8% this administration assumed when it pushed for the stimulus bill.
A common definition of insanity is doing the same thing again, but expecting different results. That's where we seem to be with our economy, unemployment and stimulus bills.
Perhaps, if anything were to be done, it would be to shift existing, unspent so-called stimulus funds to direct income tax rebates, in advance.
At least doing this would insure that the money is spent now, by consumers, rather than politicians.
Apparently they are worried because the ill-designed first $787B bill didn't work. Much of the spending went to transfer payment programs, some went to temporary road-building jobs, and much is planned for out-years.
There were critics of the bill which warned of this result, but Congress passed it so fast there literally was not enough time from the bill's being written, and then voted on, for any one of them to have actually read the bill.
Meanwhile, last week's unemployment rate went to 9.6%. Far higher than the 8% this administration assumed when it pushed for the stimulus bill.
A common definition of insanity is doing the same thing again, but expecting different results. That's where we seem to be with our economy, unemployment and stimulus bills.
Perhaps, if anything were to be done, it would be to shift existing, unspent so-called stimulus funds to direct income tax rebates, in advance.
At least doing this would insure that the money is spent now, by consumers, rather than politicians.
Monday, July 06, 2009
Have Banks Been 'Too Big To Fail' Since 1975?
Holman Jenkins, Jr.'s column in last Wednesday's Wall Street Journal contended that there's really nothing new about large US banks being bailed out by Bernanke's Fed.
After arguing that if BofA shareholders had known about Merrill's worse-than-expected condition, they may have voted down the deal. As it was, Jenkins notes, BofA's Ken Lewis promptly sought Fed financial aid after the deal closed.
Fair enough. But I don't think it's correct to say that US government policy for 30-odd years has been to save all large commercial banks.
The period Jenkins references just about covers the time from when I was in college, so I have a fairly good recollection of the era.
Names which were once prominent, but are no longer with us, include: First Pennsylvania, Seattle First, Texas Commerce, Bank of New England, Continental and Bankers Trust.
In fact, it was just about the mid-1970s when technology was beginning to lead to excess capacity in banking, setting the stage for eventual consolidation.
Usually, I agree with Mr. Jenkins. But not this time.
There hasn't been a 'too big to fail' ethic in US banking for three decades. Rather, it's been more like the last ten years, dating roughly to Greenspan's Fed stage-managing Long Term Capital Management's demise.
So, oddly, I would contend that it wasn't even a commercial bank that was the first instance of the 'too big to fail' doctrine. In today's financial sector, any sufficiently large institution, even a privately-owned one, such as a hedge fund, has enough implicit influence on asset prices, and enough complicated entanglements with other firms, to cause regulatory panic at the thought of failure.
For the most part, though, with size goes mediocrity. Most of the financial utilities- Citigroup, Chase, BofA, to name three- got that way through federally-approved mergers, not organic growth.
These super-sized financial entities are our own governmental creation, rather than that of simple business acumen.
Maybe it's appropriate, given government's permissiveness in allowing these gargantuan banks to merge themselves into existence, that government must clean up the mess when they begin to fail.
After arguing that if BofA shareholders had known about Merrill's worse-than-expected condition, they may have voted down the deal. As it was, Jenkins notes, BofA's Ken Lewis promptly sought Fed financial aid after the deal closed.
Fair enough. But I don't think it's correct to say that US government policy for 30-odd years has been to save all large commercial banks.
The period Jenkins references just about covers the time from when I was in college, so I have a fairly good recollection of the era.
Names which were once prominent, but are no longer with us, include: First Pennsylvania, Seattle First, Texas Commerce, Bank of New England, Continental and Bankers Trust.
In fact, it was just about the mid-1970s when technology was beginning to lead to excess capacity in banking, setting the stage for eventual consolidation.
Usually, I agree with Mr. Jenkins. But not this time.
There hasn't been a 'too big to fail' ethic in US banking for three decades. Rather, it's been more like the last ten years, dating roughly to Greenspan's Fed stage-managing Long Term Capital Management's demise.
So, oddly, I would contend that it wasn't even a commercial bank that was the first instance of the 'too big to fail' doctrine. In today's financial sector, any sufficiently large institution, even a privately-owned one, such as a hedge fund, has enough implicit influence on asset prices, and enough complicated entanglements with other firms, to cause regulatory panic at the thought of failure.
For the most part, though, with size goes mediocrity. Most of the financial utilities- Citigroup, Chase, BofA, to name three- got that way through federally-approved mergers, not organic growth.
These super-sized financial entities are our own governmental creation, rather than that of simple business acumen.
Maybe it's appropriate, given government's permissiveness in allowing these gargantuan banks to merge themselves into existence, that government must clean up the mess when they begin to fail.
Thursday, July 02, 2009
Cap & Trade Details
In reply to this recent post concerning the lack of apparent equity market reaction to Friday's stealth passage by the House of a 'cap and trade' bill, a reader wrote this note to me,
"Re your post on your Reasoned Skeptic blog on the cap and trade bill, I'd be interested in you doing a blog post on your thoughts on allowing a border tax adjustment for imports from countries with lax carbon standards. You may have noticed that the House bill includes a border adjustment provision; it was slipped in late last week, despite arguments against one from the Obama administration. If you're not familiar with border adjustment, attached are comments by Representative Inglis arguing for border adjustment, and slides by AEI on carbon border adjustment (14-18 re border adjustment and carbon; 1-13 re background on border adjustments)."
To be honest, no, I did not know this. I have yet to read the detailed article from last weekend's Wall Street Journal, and this sort of fine point isn't necessarily gleaned from televised coverage, little as there was, given the weekend news cycle and my own aversion to viewing such weekend coverage.
The reader sent me two attachments discussing how such a proposed 'carbon equalization' regime would work, which I appreciated. Suffice to say, as I expected, after quite a bit of dense, mind-numbing detail on these schemes, both documents admitted to the two things I had already guessed, prior to reading them.
First, the sheer implementational difficulties of such a regime are represent real obstacles to their successful operation. Think months'-long delays, if not years, as complicated carbon-usage forms are completed, submitted, and then overwhelm some federal department charged with administration of the whole mess.
That's the optimistic view. The reality, as with our recent experience with mortgage finance 'liar loans,' is likely to be wholesale fraud, deceit, and the employment of various 'consultants' to complete applications in such a manner as to gain favorable treatment, knowing the ability of government to investigate each application and enforce penalties for fraud will be de minimis.
Then there's the real problem- a GATT-based challenge at the WTO. This sort of issue was my first instinct in believing this importation-adjustment process to be practically unenforceable.
To get to the plainly-written crux of the matter, this will come down to a question of whether it's legal, in the context of world trade agreements, for one country to enforce its pollution penalties on producers in other countries importing into the first country.
Similar to the phenomenon of labor-intensive, low-value-added work moving to low-labor-cost countries around the world, despite various attempts of high-wage countries to stop it, it's logical to expect high-carbon-cost countries to lose employment, GDP and tax revenues from both to low-carbon-cost countries, irrespective of attempts to stop this flow.
I just don't believe a lot of complicated US law involving various carbon-usage adjustments is going to fly. Before it's sorted out, the economic uncertainty and resulting loss of jobs and economic activity from the US to poorer, 'dirtier' countries, will probably cause a serious rethink of the whole idea.
"Re your post on your Reasoned Skeptic blog on the cap and trade bill, I'd be interested in you doing a blog post on your thoughts on allowing a border tax adjustment for imports from countries with lax carbon standards. You may have noticed that the House bill includes a border adjustment provision; it was slipped in late last week, despite arguments against one from the Obama administration. If you're not familiar with border adjustment, attached are comments by Representative Inglis arguing for border adjustment, and slides by AEI on carbon border adjustment (14-18 re border adjustment and carbon; 1-13 re background on border adjustments)."
To be honest, no, I did not know this. I have yet to read the detailed article from last weekend's Wall Street Journal, and this sort of fine point isn't necessarily gleaned from televised coverage, little as there was, given the weekend news cycle and my own aversion to viewing such weekend coverage.
The reader sent me two attachments discussing how such a proposed 'carbon equalization' regime would work, which I appreciated. Suffice to say, as I expected, after quite a bit of dense, mind-numbing detail on these schemes, both documents admitted to the two things I had already guessed, prior to reading them.
First, the sheer implementational difficulties of such a regime are represent real obstacles to their successful operation. Think months'-long delays, if not years, as complicated carbon-usage forms are completed, submitted, and then overwhelm some federal department charged with administration of the whole mess.
That's the optimistic view. The reality, as with our recent experience with mortgage finance 'liar loans,' is likely to be wholesale fraud, deceit, and the employment of various 'consultants' to complete applications in such a manner as to gain favorable treatment, knowing the ability of government to investigate each application and enforce penalties for fraud will be de minimis.
Then there's the real problem- a GATT-based challenge at the WTO. This sort of issue was my first instinct in believing this importation-adjustment process to be practically unenforceable.
To get to the plainly-written crux of the matter, this will come down to a question of whether it's legal, in the context of world trade agreements, for one country to enforce its pollution penalties on producers in other countries importing into the first country.
Similar to the phenomenon of labor-intensive, low-value-added work moving to low-labor-cost countries around the world, despite various attempts of high-wage countries to stop it, it's logical to expect high-carbon-cost countries to lose employment, GDP and tax revenues from both to low-carbon-cost countries, irrespective of attempts to stop this flow.
I just don't believe a lot of complicated US law involving various carbon-usage adjustments is going to fly. Before it's sorted out, the economic uncertainty and resulting loss of jobs and economic activity from the US to poorer, 'dirtier' countries, will probably cause a serious rethink of the whole idea.
More Politicizing At The Fed
This morning's Wall Street Journal carried a fascinating piece on the selection of William Dudley as New York Fed President.
Essentially, the piece exposed the raw arm-twisting and intervention by outgoing president, now Treasury Secretary Tim Geithner, in Dudley's favor.
The article portrays Geithner and Bernanke, as well, as putting extremely heavy pressure on the NY Fed's board to choose their preferred candidate.
To the Journal's credit, the piece included some history of the Fed's design, including the regional banks and Fed boards, intended to prevent just this sort of undue influence from Washington.
The manipulation of the NY Fed's board grew so strong that Pepsico CEO Indra Nooyi resigned, using as cover her busy schedule of other duties.
I have lamented, since last fall, the continuing political flavor, content and focus of many of my business blog's posts. This article helps illustrate that it's not my choice to shift so much of my attention to political matters.
It's evident that the very fabric of American business is being heavily politicized and coerced by the federal government. This story concerning the undue influence exercised by Washington over the important regional Fed bank in New York reveals that this is a continuing theme of growing importance in our economy, and it's increasingly managed nature.
Essentially, the piece exposed the raw arm-twisting and intervention by outgoing president, now Treasury Secretary Tim Geithner, in Dudley's favor.
The article portrays Geithner and Bernanke, as well, as putting extremely heavy pressure on the NY Fed's board to choose their preferred candidate.
To the Journal's credit, the piece included some history of the Fed's design, including the regional banks and Fed boards, intended to prevent just this sort of undue influence from Washington.
The manipulation of the NY Fed's board grew so strong that Pepsico CEO Indra Nooyi resigned, using as cover her busy schedule of other duties.
I have lamented, since last fall, the continuing political flavor, content and focus of many of my business blog's posts. This article helps illustrate that it's not my choice to shift so much of my attention to political matters.
It's evident that the very fabric of American business is being heavily politicized and coerced by the federal government. This story concerning the undue influence exercised by Washington over the important regional Fed bank in New York reveals that this is a continuing theme of growing importance in our economy, and it's increasingly managed nature.
Wednesday, July 01, 2009
The Missing 'Cap and Trade' Market Reaction
The House passed a carbon 'cap and trade' bill Friday afternoon by just a 7 vote margin.
Funny how it missed the major news feeds, isn't it?
By scheduling the vote prior to a weekend, and the July 4th holiday recess, the House virtually guaranteed that the average American wouldn't notice the vote. The unplanned coincidence of Michael Jackson's death that afternoon virtually assured the vote's disappearance from major coverage over the weekend.
What has mystified me, though, is the lack of apparent reaction in equity markets of institutional investors. This bill, as currently written, constitutes the most massive tax and wealth transfer probably ever proposed by the US Congress.
Perhaps the lack of investor reaction is due to the Senate's not yet passing a compromised version into law.
Still, I'm just amazed that such a huge tax increase and energy policy rewrite which will radically shift fortunes among US business sectors and regions is only one chamber away from passage, with no observable sign of distress among professional equity investors.
Funny how it missed the major news feeds, isn't it?
By scheduling the vote prior to a weekend, and the July 4th holiday recess, the House virtually guaranteed that the average American wouldn't notice the vote. The unplanned coincidence of Michael Jackson's death that afternoon virtually assured the vote's disappearance from major coverage over the weekend.
What has mystified me, though, is the lack of apparent reaction in equity markets of institutional investors. This bill, as currently written, constitutes the most massive tax and wealth transfer probably ever proposed by the US Congress.
Perhaps the lack of investor reaction is due to the Senate's not yet passing a compromised version into law.
Still, I'm just amazed that such a huge tax increase and energy policy rewrite which will radically shift fortunes among US business sectors and regions is only one chamber away from passage, with no observable sign of distress among professional equity investors.
CNBC's Hidden Advertising
I happened to be watching CNBC earlier this morning, when I saw a guy named Brian Singer, formerly a senior asset management executive at UBS, appear on Squawkbox.
The ostensible reason for having Singer on the program was his former status as the overall manager of $300B when at UBS. But the real reason was essentially to let Singer advertise that he has left UBS and formed a new hedge fund group.
So, in effect, if you are well-connected with CNBC and can provide some apparent newsworthy spin to your self-promotion, you can use their platform for free advertising.
Singer's big news? That he's starting a hedge fund in this time of market turbulence. That he decries 2/20 pricing. Instead, he is offering 1% and, after five years, 20% of the gains above the S&P500.
Actually, that's an old idea. I offered that back when I partnered with a hedge fund a decade ago. What Singer rambled on about for quite some time was something I had succinctly stated in a Powerpoint slide.
Perhaps in the wake of some mediocre performances by the hedge fund community generally, Singer feels he has nothing to lose promising to only take performance fees on above-market gains, since customers are looking more judiciously at the performance for which they are paying.
What was somewhat striking about the whole 5 minute episode, though, is that Singer was basically allowed a free infomercial just for having been a senior executive at a large firm.
I guess it's a 'hide in plain sight' sort of thing. Claiming something is newsworthy allows CNBC to dispense free air time to friends and perhaps repay favors, or offer exposure as a quid pro quo to sources.
How's that for journalistic ethics from a 'news' network?
The ostensible reason for having Singer on the program was his former status as the overall manager of $300B when at UBS. But the real reason was essentially to let Singer advertise that he has left UBS and formed a new hedge fund group.
So, in effect, if you are well-connected with CNBC and can provide some apparent newsworthy spin to your self-promotion, you can use their platform for free advertising.
Singer's big news? That he's starting a hedge fund in this time of market turbulence. That he decries 2/20 pricing. Instead, he is offering 1% and, after five years, 20% of the gains above the S&P500.
Actually, that's an old idea. I offered that back when I partnered with a hedge fund a decade ago. What Singer rambled on about for quite some time was something I had succinctly stated in a Powerpoint slide.
Perhaps in the wake of some mediocre performances by the hedge fund community generally, Singer feels he has nothing to lose promising to only take performance fees on above-market gains, since customers are looking more judiciously at the performance for which they are paying.
What was somewhat striking about the whole 5 minute episode, though, is that Singer was basically allowed a free infomercial just for having been a senior executive at a large firm.
I guess it's a 'hide in plain sight' sort of thing. Claiming something is newsworthy allows CNBC to dispense free air time to friends and perhaps repay favors, or offer exposure as a quid pro quo to sources.
How's that for journalistic ethics from a 'news' network?
Tuesday, June 30, 2009
Forget Responsibility- Let's Just Blame Bernie Madoff
I've written eight other posts concerning the Bernard Madoff investment fraud, all of which may be found by clicking on the 'Madoff' label, in the list along the right side of this page. Of all of them, I think this one, from late December of last year, best captures my feelings on the entire affair.
Of course, since Madoff was sentenced yesterday to 150 years in prison, the topic of his epic fraud was headline news again yesterday.
CNBC and Fox News made much of the wailing of various 'victims' of Madoff's fraud. Once again, the media helped shift responsibility from the so-called sophisticated investors who ignored the many warning signs concerning the fraudulent scheme, and place the entire blame on Madoff.
In contrast, I wrote in that prior post,
"To me, the key observation, which I read in the Journal last week, was that an outside analyst had done a sort of 'back of the envelope' calculation to determine that Madoff's portfolios, according to estimates of the assets he ran being in the tens of billions of dollars, must have had trading activity exceeding the entire market for various index puts or calls. Additionally, experienced clients seemed to think nothing of the fact that blue chip equities showed no decline in prices earlier this year, although they were key to the alleged strategy.
This smacks of convenient denial of reality by so many clients. The suspension of disbelief, and a desire to simply believe that unbelievably good, and not just consistently, but uniformly constantly good results, were real.
As I reviewed the mechanics of Madoff's scheme of undisclosed numbers of individual accounts, rather than a single, explicitly-spotlighted fund, with my partner, my belief that Madoff had long ago discovered loopholes that I, too, observed earlier this decade grew significantly.
The most important element of his fraud, without question, was the lack of independent custodial inventory reports of financial assets held in accounts for clients. I can't emphasize enough that this alone left every one of Madoff's clients vulnerable.
Coupling this with a curious lack of diversification, a/k/a greed or stupidity, and you have the recipe for disaster among so-called 'sophisticated' investors.
How many once-wealthy Americans having millions of dollars of accumulated financial assets are now simply bankrupt? Or nearly so, with almost nothing to show for decades of successful careers?
And all of this....all of it...would have been minimized, if not totally avoided, had each and every investor insisted on receiving a regular asset inventory report from an independent custodian. This would have prohibited false claims of asset ownership, or required an entire custodian's business to be in league with Madoff.
I don't believe any more regulations will prevent a repeat of this type of periodic investment fraud. There are plenty of safeguards required by current regulations. But nobody can prevent a person from simply throwing caution to the winds, trusting in a manager, and his 'special' inner client circle, without any objective, confirming evidence."
Rather than the sort of statements no doubt made by various clients of Madoff's in court, which I'm sure portrayed themselves as victims who bear absolutely no responsibility for what happened to them and their money, I would love to read in this morning's newspapers, and see video on cable news, statements like these:
"I was greedy and failed to diversify my millions of dollars of assets as I have been advised and taught for decades.
I foolishly asked no questions as to how Mr. Madoff could achieve such uniformly-constant, positive returns for decades, when no other manager ever demonstrated such performance perfection.
I took the advice of my friends at face value and asked no questions.
I felt so fortunate to be allowed to give Mr. Madoff all of my assets to manage that I never bothered to ask questions about how he achieved his performance.
Learning that my money would be refused for management by Mr. Madoff if I asked a single probing question, I kept my mouth shut and just wrote the checks.
Despite the fact that Mr. Madoff did not have a publicly-listed mutual fund with an independent accounting firm auditing the accounts, and a custodian of assets, I gave him all of my assets.
I never bothered to demand a quarterly custody report from an independent custodian verifying that Mr. Madoff's firm held the assets claimed in a separate account for my benefit.
I suspended disbelief that anyone could achieve such uniformly perfect investment returns, because I didn't want to discover that this was all a fraudulent scheme.
It never occurred to me to do a rough estimate of whether the options markets were sufficiently large to accommodate Madoff's claimed strategies.
I violated almost every precept of intelligent money management- diversification of instruments and managers, validation of assets held- in my greedy and reckless pursuit of constantly-positive returns from Mr. Madoff."
Alas, I know I won't be reading or seeing those statements from people who lost money in Madoff's scheme. No, they are being portrayed only as victims. Nobody seems to be forcing them to admit to their own greed, bad judgment and denial while they were receiving custom-created reports falsely reporting such amazingly constant gains in the worst equity market in generations.
In fact, I continue to find some humor in ongoing 'searches' for the 'missing billions.'
Haven't people gotten "it" yet? There weren't any 'missing billions.' The totals of those numbers on all those fraudulent, typed-up account statements are themselves fictitious. Madoff never made those profits. He spent them.
People, it's a Ponzi scheme. The gains were illusory. The money people gave Madoff was spent and is either gone, or cleverly hidden in several or many blind accounts, to be eventually accessed by his family after enough time has passed for them to safely recover and launder the money.
So, sure, there's probably a lot of money hidden somewhere. But it's unlikely to be on the scale of what people believe. The false gains which pumped up expectations of Madoff's phantom horde have probably created an equally-false expectation of the size of his remaining illicit plunder.
It's sad that the major lesson of the Madoff fraud is going largely untaught and unreported. By making Madoff the only villain, and excusing the greed and stupidity of his pigeons, the media are fostering the sense that what happened to Madoff's clients could not have been avoided, and involved no amount of naive and inept investing behavior.
Of course, since Madoff was sentenced yesterday to 150 years in prison, the topic of his epic fraud was headline news again yesterday.
CNBC and Fox News made much of the wailing of various 'victims' of Madoff's fraud. Once again, the media helped shift responsibility from the so-called sophisticated investors who ignored the many warning signs concerning the fraudulent scheme, and place the entire blame on Madoff.
In contrast, I wrote in that prior post,
"To me, the key observation, which I read in the Journal last week, was that an outside analyst had done a sort of 'back of the envelope' calculation to determine that Madoff's portfolios, according to estimates of the assets he ran being in the tens of billions of dollars, must have had trading activity exceeding the entire market for various index puts or calls. Additionally, experienced clients seemed to think nothing of the fact that blue chip equities showed no decline in prices earlier this year, although they were key to the alleged strategy.
This smacks of convenient denial of reality by so many clients. The suspension of disbelief, and a desire to simply believe that unbelievably good, and not just consistently, but uniformly constantly good results, were real.
As I reviewed the mechanics of Madoff's scheme of undisclosed numbers of individual accounts, rather than a single, explicitly-spotlighted fund, with my partner, my belief that Madoff had long ago discovered loopholes that I, too, observed earlier this decade grew significantly.
The most important element of his fraud, without question, was the lack of independent custodial inventory reports of financial assets held in accounts for clients. I can't emphasize enough that this alone left every one of Madoff's clients vulnerable.
Coupling this with a curious lack of diversification, a/k/a greed or stupidity, and you have the recipe for disaster among so-called 'sophisticated' investors.
How many once-wealthy Americans having millions of dollars of accumulated financial assets are now simply bankrupt? Or nearly so, with almost nothing to show for decades of successful careers?
And all of this....all of it...would have been minimized, if not totally avoided, had each and every investor insisted on receiving a regular asset inventory report from an independent custodian. This would have prohibited false claims of asset ownership, or required an entire custodian's business to be in league with Madoff.
I don't believe any more regulations will prevent a repeat of this type of periodic investment fraud. There are plenty of safeguards required by current regulations. But nobody can prevent a person from simply throwing caution to the winds, trusting in a manager, and his 'special' inner client circle, without any objective, confirming evidence."
Rather than the sort of statements no doubt made by various clients of Madoff's in court, which I'm sure portrayed themselves as victims who bear absolutely no responsibility for what happened to them and their money, I would love to read in this morning's newspapers, and see video on cable news, statements like these:
"I was greedy and failed to diversify my millions of dollars of assets as I have been advised and taught for decades.
I foolishly asked no questions as to how Mr. Madoff could achieve such uniformly-constant, positive returns for decades, when no other manager ever demonstrated such performance perfection.
I took the advice of my friends at face value and asked no questions.
I felt so fortunate to be allowed to give Mr. Madoff all of my assets to manage that I never bothered to ask questions about how he achieved his performance.
Learning that my money would be refused for management by Mr. Madoff if I asked a single probing question, I kept my mouth shut and just wrote the checks.
Despite the fact that Mr. Madoff did not have a publicly-listed mutual fund with an independent accounting firm auditing the accounts, and a custodian of assets, I gave him all of my assets.
I never bothered to demand a quarterly custody report from an independent custodian verifying that Mr. Madoff's firm held the assets claimed in a separate account for my benefit.
I suspended disbelief that anyone could achieve such uniformly perfect investment returns, because I didn't want to discover that this was all a fraudulent scheme.
It never occurred to me to do a rough estimate of whether the options markets were sufficiently large to accommodate Madoff's claimed strategies.
I violated almost every precept of intelligent money management- diversification of instruments and managers, validation of assets held- in my greedy and reckless pursuit of constantly-positive returns from Mr. Madoff."
Alas, I know I won't be reading or seeing those statements from people who lost money in Madoff's scheme. No, they are being portrayed only as victims. Nobody seems to be forcing them to admit to their own greed, bad judgment and denial while they were receiving custom-created reports falsely reporting such amazingly constant gains in the worst equity market in generations.
In fact, I continue to find some humor in ongoing 'searches' for the 'missing billions.'
Haven't people gotten "it" yet? There weren't any 'missing billions.' The totals of those numbers on all those fraudulent, typed-up account statements are themselves fictitious. Madoff never made those profits. He spent them.
People, it's a Ponzi scheme. The gains were illusory. The money people gave Madoff was spent and is either gone, or cleverly hidden in several or many blind accounts, to be eventually accessed by his family after enough time has passed for them to safely recover and launder the money.
So, sure, there's probably a lot of money hidden somewhere. But it's unlikely to be on the scale of what people believe. The false gains which pumped up expectations of Madoff's phantom horde have probably created an equally-false expectation of the size of his remaining illicit plunder.
It's sad that the major lesson of the Madoff fraud is going largely untaught and unreported. By making Madoff the only villain, and excusing the greed and stupidity of his pigeons, the media are fostering the sense that what happened to Madoff's clients could not have been avoided, and involved no amount of naive and inept investing behavior.
Monday, June 29, 2009
Cable TV Attempts To Fend Off Internet Video
I've written several posts, most recently, here, regarding the efforts of cable television providers to cope with an initially small, but growing segment of viewers who are turning to the internet for all of their video programming.
Last week, the Wall Street Journal carried two separate articles on the response of cable systems to this phenomenon. Basically, they cable system providers are offering their customers access to exclusive video content, and internet access to existing cable video content, in exchange for not disconnecting their cable feeds, and merely keeping their high-speed internet access.
I don't think this will work. It seems to me that people tend to want known content for the lowest price, consistent with their viewing habits or access capabilities. Quite a bit of existing cable content is now available on Hulu, or on an inexpensive, per-episode basis on iTunes.
Like many technologies, there's a growing rift between younger consumer segments and older ones. For example, I prefer to watch most television programming on a large screen, but my children have learned to be fairly ambivalent between a television screen or their laptops.
Promising as-yet-unspecified video content in exchange for very pricey access to content you can access either via Netflix, Amazon, iTunes or Hulu doesn't seem like such a great deal anymore. Further, consumers are learning to accept and use a variety of means by which to access video content.
Finally, as I noted in this post, in February, TiVo is now fully capable of adding a menu of internet URLs to its menu, thus allowing a subscriber to access any internet site for video content. It's not clear to me why TiVo is waiting to do this. Perhaps it's a matter of quid pro quo with content providers continuing to make it easy to use TiVo instead of their proprietary DVRs.
In any case, there are a multitude of paths to video content that don't lead through a paid cable television subscription.
Adding a few exclusive video programs is, in my opinion, unlikely to be a long-term solution for the cable providers. Eventually, they're going to face what music and movie producers have already undergone- technological advances which render their proprietary hold over video content moot and of much less value than it could command in the past.
Last week, the Wall Street Journal carried two separate articles on the response of cable systems to this phenomenon. Basically, they cable system providers are offering their customers access to exclusive video content, and internet access to existing cable video content, in exchange for not disconnecting their cable feeds, and merely keeping their high-speed internet access.
I don't think this will work. It seems to me that people tend to want known content for the lowest price, consistent with their viewing habits or access capabilities. Quite a bit of existing cable content is now available on Hulu, or on an inexpensive, per-episode basis on iTunes.
Like many technologies, there's a growing rift between younger consumer segments and older ones. For example, I prefer to watch most television programming on a large screen, but my children have learned to be fairly ambivalent between a television screen or their laptops.
Promising as-yet-unspecified video content in exchange for very pricey access to content you can access either via Netflix, Amazon, iTunes or Hulu doesn't seem like such a great deal anymore. Further, consumers are learning to accept and use a variety of means by which to access video content.
Finally, as I noted in this post, in February, TiVo is now fully capable of adding a menu of internet URLs to its menu, thus allowing a subscriber to access any internet site for video content. It's not clear to me why TiVo is waiting to do this. Perhaps it's a matter of quid pro quo with content providers continuing to make it easy to use TiVo instead of their proprietary DVRs.
In any case, there are a multitude of paths to video content that don't lead through a paid cable television subscription.
Adding a few exclusive video programs is, in my opinion, unlikely to be a long-term solution for the cable providers. Eventually, they're going to face what music and movie producers have already undergone- technological advances which render their proprietary hold over video content moot and of much less value than it could command in the past.
Friday, June 26, 2009
New Regulations' Effects On US Banking Profitability
This morning's Wall Street Journal featured an article in the Money & Investing section contending that proposed new financial regulations could, by mandating 'plain-vanilla' financial products, such as mortgages and credit cards, result in a reduction in bank profitability.
I think the article's premise is correct. Having worked in one of the nation's large, money-center banks, Chase Manhattan, for years, I can attest to the truth that the more complex, illiquid and/or non-standardized financial products are, the higher their profit margins tend to be.
That's why bond and derivative trading are nice businesses. Without centralized clearing and settlement and/or transparent price quotes, margins stay high. Especially on retail customer transactions.
In product lines like credit cards and mortgages, various fees and the all-important credit card balance-maintaining customers drive the above-bank-average profitability of these businesses.
However, I don't see anything wrong with this particular type of regulatory reform, nor its effects on bank profits.
I've contended for some time that financial services business growth, over time, can't legitimately exceed that of the economy. Financial services is a purely derivative activity. It's done to facilitate other activities, not for its own reward.
Therefore, in order to 'goose' growth and profits, bankers routinely develop new products with extra fees or complexities which allow premium pricing, at least for a while. After seeing how many people failed to understand, or claimed to fail to understand their mortgage documents during the recent mortgage lending problems, it may well be a good idea to mandate simpler, plain 30-year, fixed-rate home loans be available as a default choice for consumers. The same could well be true for credit cards, which also seem prone to misuse and abuse by under- or uneducated consumers.
If these proposed regulations retard bank profit growth or margins, so be it. Better to have a healthier, slower-growing financial services sector with fewer catastrophic losses than what we've seen out of mediocre bank management for the past half-decade.
I think the article's premise is correct. Having worked in one of the nation's large, money-center banks, Chase Manhattan, for years, I can attest to the truth that the more complex, illiquid and/or non-standardized financial products are, the higher their profit margins tend to be.
That's why bond and derivative trading are nice businesses. Without centralized clearing and settlement and/or transparent price quotes, margins stay high. Especially on retail customer transactions.
In product lines like credit cards and mortgages, various fees and the all-important credit card balance-maintaining customers drive the above-bank-average profitability of these businesses.
However, I don't see anything wrong with this particular type of regulatory reform, nor its effects on bank profits.
I've contended for some time that financial services business growth, over time, can't legitimately exceed that of the economy. Financial services is a purely derivative activity. It's done to facilitate other activities, not for its own reward.
Therefore, in order to 'goose' growth and profits, bankers routinely develop new products with extra fees or complexities which allow premium pricing, at least for a while. After seeing how many people failed to understand, or claimed to fail to understand their mortgage documents during the recent mortgage lending problems, it may well be a good idea to mandate simpler, plain 30-year, fixed-rate home loans be available as a default choice for consumers. The same could well be true for credit cards, which also seem prone to misuse and abuse by under- or uneducated consumers.
If these proposed regulations retard bank profit growth or margins, so be it. Better to have a healthier, slower-growing financial services sector with fewer catastrophic losses than what we've seen out of mediocre bank management for the past half-decade.
More "Green Energy" Lies
There's a group named "Repower America" which has been running a series of deceptive ads on cable television for the past few months.
Here's one of them from a few months ago.
They take a craggy-faced actor and dress him up to appear like a real, wizened, concerned old geezer who knows what's right for America, by gosh!
The current ad features the same 'old crag face,' this time alleging that we are borrowing billions to pay for our gasoline. That new ways are necessary, and, of course, the oft-repeated canard that wind and solar power will create lots of new, 'good-paying' jobs.
Of course, what none of these commercials tell you is that the infrastructure expense and effort, not to mention consumer tradeoffs to accept electric cars, are enormous. As I explained, with the help of a Wall Street Journal article, in this recent post, you just cannot feasibly replace locomotion-focused carbon-based energy with a few windmills and solar panels. The author noted,
"The latest data from the U.S. Energy Information Administration show that total solar and wind output for 2008 will likely be about 45,493,000 megawatt-hours. That sounds significant until you consider this number: 4,118,198,000 megawatt-hours. That's the total amount of electricity generated during the rolling 12-month period that ended last November. Solar and wind, in other words, produce about 1.1% of America's total electricity consumption."
The conversion of electricity into oil terms is straightforward: one barrel of oil contains the energy equivalent of 1.64 megawatt-hours of electricity. Thus, 45,493,000 megawatt-hours divided by 1.64 megawatt-hours per barrel of oil equals 27.7 million barrels of oil equivalent from solar and wind for all of 2008.Now divide that 27.7 million barrels by 365 days and you find that solar and wind sources are providing the equivalent of 76,000 barrels of oil per day. America's total primary energy use is about 47.4 million barrels of oil equivalent per day.
Of that 47.4 million barrels of oil equivalent, oil itself has the biggest share -- we consume about 19 million barrels per day. Natural gas is the second-biggest contributor, supplying the equivalent of 11.9 million barrels of oil, while coal provides the equivalent of 11.5 million barrels of oil per day. The balance comes from nuclear power (about 3.8 million barrels per day), and hydropower (about 1.1 million barrels), with smaller contributions coming from wind, solar, geothermal, wood waste, and other sources.
Here's another way to consider the 76,000 barrels of oil equivalent per day that come from solar and wind: It's approximately equal to the raw energy output of one average-sized coal mine." "
After you build some windmills, where are the jobs? And won't ending the use of coal, oil and natural gas put tens of thousands of miners, pipeline workers, refinery workers and drillers out of work? Most of which, I'd guess, make more than a mundane job in a factory producing solar panels or windmill parts.
Finally, I didn't borrow any money to fill my gas tank this week. So I don't know where the people who put the words into ol' crag face's mouth get their facts.
Probably, they are using the following specious logic. America sells debt to investors around the globe. America imports many things. One of those things is oil.
Let's just assume, and say, that all that borrowed money via T-bills is used to pay for imported oil.
Simple, huh? Wrong, but simple and, to the uninformed, scary and powerful.
But you could point to anything and say it is the source of our trade flow imbalances. I noted this in my critique of Boone Picken's flawed arguments in this prior post.
"Repower America" makes deceptive ads and claims on so many levels, it's disgusting. Let's hope people see through the lies and misleading inferences in their commercials.
Here's one of them from a few months ago.
They take a craggy-faced actor and dress him up to appear like a real, wizened, concerned old geezer who knows what's right for America, by gosh!
The current ad features the same 'old crag face,' this time alleging that we are borrowing billions to pay for our gasoline. That new ways are necessary, and, of course, the oft-repeated canard that wind and solar power will create lots of new, 'good-paying' jobs.
Of course, what none of these commercials tell you is that the infrastructure expense and effort, not to mention consumer tradeoffs to accept electric cars, are enormous. As I explained, with the help of a Wall Street Journal article, in this recent post, you just cannot feasibly replace locomotion-focused carbon-based energy with a few windmills and solar panels. The author noted,
"The latest data from the U.S. Energy Information Administration show that total solar and wind output for 2008 will likely be about 45,493,000 megawatt-hours. That sounds significant until you consider this number: 4,118,198,000 megawatt-hours. That's the total amount of electricity generated during the rolling 12-month period that ended last November. Solar and wind, in other words, produce about 1.1% of America's total electricity consumption."
The conversion of electricity into oil terms is straightforward: one barrel of oil contains the energy equivalent of 1.64 megawatt-hours of electricity. Thus, 45,493,000 megawatt-hours divided by 1.64 megawatt-hours per barrel of oil equals 27.7 million barrels of oil equivalent from solar and wind for all of 2008.Now divide that 27.7 million barrels by 365 days and you find that solar and wind sources are providing the equivalent of 76,000 barrels of oil per day. America's total primary energy use is about 47.4 million barrels of oil equivalent per day.
Of that 47.4 million barrels of oil equivalent, oil itself has the biggest share -- we consume about 19 million barrels per day. Natural gas is the second-biggest contributor, supplying the equivalent of 11.9 million barrels of oil, while coal provides the equivalent of 11.5 million barrels of oil per day. The balance comes from nuclear power (about 3.8 million barrels per day), and hydropower (about 1.1 million barrels), with smaller contributions coming from wind, solar, geothermal, wood waste, and other sources.
Here's another way to consider the 76,000 barrels of oil equivalent per day that come from solar and wind: It's approximately equal to the raw energy output of one average-sized coal mine." "
After you build some windmills, where are the jobs? And won't ending the use of coal, oil and natural gas put tens of thousands of miners, pipeline workers, refinery workers and drillers out of work? Most of which, I'd guess, make more than a mundane job in a factory producing solar panels or windmill parts.
Finally, I didn't borrow any money to fill my gas tank this week. So I don't know where the people who put the words into ol' crag face's mouth get their facts.
Probably, they are using the following specious logic. America sells debt to investors around the globe. America imports many things. One of those things is oil.
Let's just assume, and say, that all that borrowed money via T-bills is used to pay for imported oil.
Simple, huh? Wrong, but simple and, to the uninformed, scary and powerful.
But you could point to anything and say it is the source of our trade flow imbalances. I noted this in my critique of Boone Picken's flawed arguments in this prior post.
"Repower America" makes deceptive ads and claims on so many levels, it's disgusting. Let's hope people see through the lies and misleading inferences in their commercials.
Thursday, June 25, 2009
Robert Reich's Flawed Analysis of Public Healthcare
Robert Reich, former Clinton labor secretary and liberal economics professor, now at UC Berkeley, wrote an extensive defensive of a governmental healthcare option in yesterday's Wall Street Journal entitled "Why We Need a Public Health-Care Plan."
My overall reaction to Reich's poorly-reasoned argument is that, if this is an example of his thinking, I can't understand how he managed to receive an academic appointment, let alone a PhD in his field. His logic is flawed and his reasoning is sloppy.
Essentially, the error Reich commits is to assess the impact of a public health option in the future as if vibrant, profitable private healthcare options were still available, which therefore would be carrying much of the burden of the true cost of healthcare not paid by that same public option.
For example, Reich wrote,
"But before we even get to this point, it's important to recognize that those terrifying CBO cost projections significantly overstate the costs. They did not include potential cost savings from the lynchpin of health-care cost containment: a so-called public option that would give people who don't get health care from their employer the choice of a public insurance plan. Why? For the simple reason that the Senate committees hadn't yet agreed on a public option. Yet without a public option, the other parties that comprise America's non-system of health care -- private insurers, doctors, hospitals, drug companies, and medical suppliers -- have little or no incentive to supply high-quality care at a lower cost than they do now."
Reich's final statement in this passage is simply untrue, and displays his ignorance of how business, as opposed to economics, actually works. Implicit in Reich's statement is an accusation of illegal oligopolistic behavior by private healthcare providers. Even without a public option, each healthcare insurer/provider has a motivation to supply lower-cost care in order to secure a larger market share and, thus, enjoy economies of scale and higher profits for shareholders. With each provider attempting to do this, they all have to keep up with each other in competing for healthcare dollars.
Of course, allowing cross-state-line competition would make this motivation even stronger.
Reich later wrote,
"Critics say the public option is really a Trojan horse for a government takeover of all of health insurance. But nothing could be further from the truth. It's an option. No one has to choose it. Individuals and families will merely be invited to compare costs and outcomes. Presumably they will choose the public plan only if it offers them and their families the best deal -- more and better health care for less."
This is highly disingenuous of Reich. He ignores, or fails to understand, that practitioners of medicine, and drug manufacturers, can only give special discounts to the federal government's "public option" so long as they can make up the profits on the private healthcare plans.
In effect, Reich fails completely to realize that subsidization will occur, in part, as a result of government's coercive behavior with providers of medicine and medical care.
Ask yourself this question. If the government did not, itself, provide a 'public option,' but, instead, issued limited-purpose, government back debt specifically to fund a standalone, independent provider of the 'public option,' licensed to do so by the government, but without coercive legislation or other actions, how many pharmaceutical companies, doctors and hospitals would cut special deals with this firm?
Wouldn't that new 'public option' firm's attraction for healthcare deliverers be its potential market share? Why would it have any competitive advantage over existing private firms, other than government coercion?
Reich continues his misleading and wrong-headed reasoning in the following passages,
"But, say the critics, the public plan starts off with an unfair advantage because it's likely to have lower administrative costs. That may be true -- Medicare's administrative costs per enrollee are a small fraction of typical private insurance costs -- but here again, why exactly is this unfair? Isn't one of the goals of health-care cost containment to lower administrative costs? If the public option pushes private plans to trim their bureaucracies and become more efficient, that's fine.
Critics complain that a public plan has an inherent advantage over private plans because the public won't have to show profits. But plenty of private plans are already not-for-profit. And if nonprofit plans can offer high-quality health care more cheaply than for-profit plans, why should for-profit plans be coddled? The public plan would merely force profit-making private plans to take whatever steps were necessary to become more competitive. Once again, that's a plus.
Critics charge that the public plan will be subsidized by the government. Here they have their facts wrong. Under every plan that's being discussed on Capitol Hill, subsidies go to individuals and families who need them in order to afford health care, not to a public plan. Individuals and families use the subsidies to shop for the best care they can find. They're free to choose the public plan, but that's only one option. They could take their subsidy and buy a private plan just as easily. Legislation should also make crystal clear that the public plan, for its part, may not dip into general revenues to cover its costs. It must pay for itself. And any government entity that oversees the health-insurance pool or acts as referee in setting ground rules for all plans must not favor the public plan."
This last paragraph is Reich's most egregious error of logic. He points to a sort of portable voucher which he hypothesizes being given to each consumer, with which to purchase healthcare. But he simply omits, and denies the potential for the 'public option' program to additionally run at a loss, charging below-market prices in order to gain share. Were it a standalone firm, the 'public option' purveyor would be charged with anti-competitive pricing behavior. In anti-trust law, it's called "predatory pricing."
The legislation to which Reich refers is hypothetical, and, in the event, will never have real force. The phrase "it must pay for itself" is laughable, and simply reveals Reich, even with his Washington experience, to be hopelessly naive about how the healthcare plan which he champions will really work.
Honestly, if the terms on which Reich insists a public option were actually used, and enforced, there wouldn't be a problem, because the effort would fail miserably. However, you can be sure that none of Reich's provisos will be included in Congressional legislation or, if included, will not be enforced.
Just consider what a mess Congress made of the mortgage markets by failing to oversee Fannie and Freddie. Thanks to Congress, both parties, by the way, private mortgage conduits were elbowed out of business by GSEs which ran amok and ruined a big chunk of our financial system.
Do you want the same type of results in the healthcare sector?
Reich makes another statement near the end of his editorial,
"As a practical matter, the choice people make between private plans and a public one is likely to function as a check on both. Such competition will encourage private plans to do better -- offering more value at less cost. At the same time, it will encourage the public plan to be as flexible as possible. In this way, private and public plans will offer one another benchmarks of what's possible and desirable."
Again, he's off in academic economic dreamland. This is not what will occur.
Instead, a heavily and stealthily-subsidized federal 'public option' will drive private healthcare insurers out of business by underpricing care and risk. When employers realize that they can more cheaply fund their healthcare benefits by buying the public option, private plans will disappear.
Reich simply ignores that almost all US consumers are covered by third-party payer plans, and, thus, don't even make their own decision about who provides their healthcare insurance.
Why did the Journal even print this naive blather? Perhaps to embarrass and reveal Reich for the misinformed, lazy analyst that he obviously is?
My overall reaction to Reich's poorly-reasoned argument is that, if this is an example of his thinking, I can't understand how he managed to receive an academic appointment, let alone a PhD in his field. His logic is flawed and his reasoning is sloppy.
Essentially, the error Reich commits is to assess the impact of a public health option in the future as if vibrant, profitable private healthcare options were still available, which therefore would be carrying much of the burden of the true cost of healthcare not paid by that same public option.
For example, Reich wrote,
"But before we even get to this point, it's important to recognize that those terrifying CBO cost projections significantly overstate the costs. They did not include potential cost savings from the lynchpin of health-care cost containment: a so-called public option that would give people who don't get health care from their employer the choice of a public insurance plan. Why? For the simple reason that the Senate committees hadn't yet agreed on a public option. Yet without a public option, the other parties that comprise America's non-system of health care -- private insurers, doctors, hospitals, drug companies, and medical suppliers -- have little or no incentive to supply high-quality care at a lower cost than they do now."
Reich's final statement in this passage is simply untrue, and displays his ignorance of how business, as opposed to economics, actually works. Implicit in Reich's statement is an accusation of illegal oligopolistic behavior by private healthcare providers. Even without a public option, each healthcare insurer/provider has a motivation to supply lower-cost care in order to secure a larger market share and, thus, enjoy economies of scale and higher profits for shareholders. With each provider attempting to do this, they all have to keep up with each other in competing for healthcare dollars.
Of course, allowing cross-state-line competition would make this motivation even stronger.
Reich later wrote,
"Critics say the public option is really a Trojan horse for a government takeover of all of health insurance. But nothing could be further from the truth. It's an option. No one has to choose it. Individuals and families will merely be invited to compare costs and outcomes. Presumably they will choose the public plan only if it offers them and their families the best deal -- more and better health care for less."
This is highly disingenuous of Reich. He ignores, or fails to understand, that practitioners of medicine, and drug manufacturers, can only give special discounts to the federal government's "public option" so long as they can make up the profits on the private healthcare plans.
In effect, Reich fails completely to realize that subsidization will occur, in part, as a result of government's coercive behavior with providers of medicine and medical care.
Ask yourself this question. If the government did not, itself, provide a 'public option,' but, instead, issued limited-purpose, government back debt specifically to fund a standalone, independent provider of the 'public option,' licensed to do so by the government, but without coercive legislation or other actions, how many pharmaceutical companies, doctors and hospitals would cut special deals with this firm?
Wouldn't that new 'public option' firm's attraction for healthcare deliverers be its potential market share? Why would it have any competitive advantage over existing private firms, other than government coercion?
Reich continues his misleading and wrong-headed reasoning in the following passages,
"But, say the critics, the public plan starts off with an unfair advantage because it's likely to have lower administrative costs. That may be true -- Medicare's administrative costs per enrollee are a small fraction of typical private insurance costs -- but here again, why exactly is this unfair? Isn't one of the goals of health-care cost containment to lower administrative costs? If the public option pushes private plans to trim their bureaucracies and become more efficient, that's fine.
Critics complain that a public plan has an inherent advantage over private plans because the public won't have to show profits. But plenty of private plans are already not-for-profit. And if nonprofit plans can offer high-quality health care more cheaply than for-profit plans, why should for-profit plans be coddled? The public plan would merely force profit-making private plans to take whatever steps were necessary to become more competitive. Once again, that's a plus.
Critics charge that the public plan will be subsidized by the government. Here they have their facts wrong. Under every plan that's being discussed on Capitol Hill, subsidies go to individuals and families who need them in order to afford health care, not to a public plan. Individuals and families use the subsidies to shop for the best care they can find. They're free to choose the public plan, but that's only one option. They could take their subsidy and buy a private plan just as easily. Legislation should also make crystal clear that the public plan, for its part, may not dip into general revenues to cover its costs. It must pay for itself. And any government entity that oversees the health-insurance pool or acts as referee in setting ground rules for all plans must not favor the public plan."
This last paragraph is Reich's most egregious error of logic. He points to a sort of portable voucher which he hypothesizes being given to each consumer, with which to purchase healthcare. But he simply omits, and denies the potential for the 'public option' program to additionally run at a loss, charging below-market prices in order to gain share. Were it a standalone firm, the 'public option' purveyor would be charged with anti-competitive pricing behavior. In anti-trust law, it's called "predatory pricing."
The legislation to which Reich refers is hypothetical, and, in the event, will never have real force. The phrase "it must pay for itself" is laughable, and simply reveals Reich, even with his Washington experience, to be hopelessly naive about how the healthcare plan which he champions will really work.
Honestly, if the terms on which Reich insists a public option were actually used, and enforced, there wouldn't be a problem, because the effort would fail miserably. However, you can be sure that none of Reich's provisos will be included in Congressional legislation or, if included, will not be enforced.
Just consider what a mess Congress made of the mortgage markets by failing to oversee Fannie and Freddie. Thanks to Congress, both parties, by the way, private mortgage conduits were elbowed out of business by GSEs which ran amok and ruined a big chunk of our financial system.
Do you want the same type of results in the healthcare sector?
Reich makes another statement near the end of his editorial,
"As a practical matter, the choice people make between private plans and a public one is likely to function as a check on both. Such competition will encourage private plans to do better -- offering more value at less cost. At the same time, it will encourage the public plan to be as flexible as possible. In this way, private and public plans will offer one another benchmarks of what's possible and desirable."
Again, he's off in academic economic dreamland. This is not what will occur.
Instead, a heavily and stealthily-subsidized federal 'public option' will drive private healthcare insurers out of business by underpricing care and risk. When employers realize that they can more cheaply fund their healthcare benefits by buying the public option, private plans will disappear.
Reich simply ignores that almost all US consumers are covered by third-party payer plans, and, thus, don't even make their own decision about who provides their healthcare insurance.
Why did the Journal even print this naive blather? Perhaps to embarrass and reveal Reich for the misinformed, lazy analyst that he obviously is?
Wednesday, June 24, 2009
Comments On The Proposed Financial Regulatory "Reforms"
The current administration's blueprint for extensive financial regulatory "reform" was recently released. It's instructive to note the assumptions which must underlie its format.
Specifically, I refer to two aspects of the changes. First, it provides vast new regulatory powers to two federal institutions- the Federal Reserve and the FDIC- which utterly failed to prevent the recent mortgage-related financial collapses of both firms and the entire US financial system.
Second, it calls for a super-regulator to oversee systemic issues and be the locus of ultimate regulatory authority.
It doesn't take a genius to realize how badly flawed these assumptions are.
In the real world, why would you give more power to an institution that just failed at its existing mandate with its current personnel? Rational people would investigate why the organization failed. Was it staff, training, processes, procedures, leadership, or something else?
Was that 'something else' perhaps an outside authority or player? Perhaps named 'Congress?'
Whatever the cause, it has to be discovered, and a specific remedy suggested to reform the existing regulatory body.
Regarding the hope that a single super-cop on the financial beat will somehow permanently eliminate all future financial disasters, it's a pretty naive one.
Only this morning, a former FDIC chairman laughed at the idea, noting that competing regulatory agencies are more likely to discover problems than a single, unchallenged one.
I'd go further. There is, or ought to be, already, between the Fed, FDIC, OTC and other agencies, sufficient information on US financial institutions to provide other, perhaps new regulatory authorities with data to observe and analyze.
Just because the Fed collects bank data does not mean you want to fuzz up and confuse its mission and focus. Only naive and inexperienced systems designers would equate collecting data with necessarily using it as a regulator.
Why not consider, socialize and then organize generally-agreed regulatory panels or organizations which use data from the existing institutions, but each take a particular perspective on oversight, e.g., institutional risk, leverage, counterparty risk, systemic risk, etc.
Ideally, the Fed should focus on managing the nation's money supply. The FDIC should focus on quickly closing ailing banks.
The information the two existing institutions collect could be used by other, new, when necessary, purpose-driven regulators who could then apply specific tools to the data already collected. This would avoid needless blurring of institutional focii, overburdening of staff, and preserve a diversified, multiplicity of observers of various financial system risks and potential problems.
But it's highly unlikely that anything as simple and blunt as just anointing one agency as super-regulator will solve anything. Or prevent a repeat, in a different area, of the mortgage finance-sourced financial problems of recent years.
Specifically, I refer to two aspects of the changes. First, it provides vast new regulatory powers to two federal institutions- the Federal Reserve and the FDIC- which utterly failed to prevent the recent mortgage-related financial collapses of both firms and the entire US financial system.
Second, it calls for a super-regulator to oversee systemic issues and be the locus of ultimate regulatory authority.
It doesn't take a genius to realize how badly flawed these assumptions are.
In the real world, why would you give more power to an institution that just failed at its existing mandate with its current personnel? Rational people would investigate why the organization failed. Was it staff, training, processes, procedures, leadership, or something else?
Was that 'something else' perhaps an outside authority or player? Perhaps named 'Congress?'
Whatever the cause, it has to be discovered, and a specific remedy suggested to reform the existing regulatory body.
Regarding the hope that a single super-cop on the financial beat will somehow permanently eliminate all future financial disasters, it's a pretty naive one.
Only this morning, a former FDIC chairman laughed at the idea, noting that competing regulatory agencies are more likely to discover problems than a single, unchallenged one.
I'd go further. There is, or ought to be, already, between the Fed, FDIC, OTC and other agencies, sufficient information on US financial institutions to provide other, perhaps new regulatory authorities with data to observe and analyze.
Just because the Fed collects bank data does not mean you want to fuzz up and confuse its mission and focus. Only naive and inexperienced systems designers would equate collecting data with necessarily using it as a regulator.
Why not consider, socialize and then organize generally-agreed regulatory panels or organizations which use data from the existing institutions, but each take a particular perspective on oversight, e.g., institutional risk, leverage, counterparty risk, systemic risk, etc.
Ideally, the Fed should focus on managing the nation's money supply. The FDIC should focus on quickly closing ailing banks.
The information the two existing institutions collect could be used by other, new, when necessary, purpose-driven regulators who could then apply specific tools to the data already collected. This would avoid needless blurring of institutional focii, overburdening of staff, and preserve a diversified, multiplicity of observers of various financial system risks and potential problems.
But it's highly unlikely that anything as simple and blunt as just anointing one agency as super-regulator will solve anything. Or prevent a repeat, in a different area, of the mortgage finance-sourced financial problems of recent years.
Tuesday, June 23, 2009
Jack Welch University
Yesterday's Wall Street Journal featured Jack Welch's investment in an online business school and MBA in its Marketplace section.
The former GE CEO has bought a 12% share of the former Myers University, now renamed Chancellor University System, for "more than $2 million."
Welch and his latest wife, whom he married after having an affair with her while married to his prior wife, will both be involved in the venture. Welch's current wife, Suzy, was the editor of the Harvard Business Review until 2002, when her affair with then-married Welch brought about her resignation.
Another figure from Welch's past, Noel Tichy, his adoring biographer and one-time head of GE's Crotonville management center, is to be the online school's new Dean. Tichy was a relatively non-descript management professor in Michigan until he fell into the GE gravy train a few decades ago. The best break he ever had- until now, I suppose.
So, now Welch is going to lend his name to an MBA program and apparently transfer his vast knowledge of how to manage businesses successfully to thousands of MBA students via the internet.
Here's my question.
If Welch has value as an educator, shouldn't we see it in the performance of the company which he led for nearly 30 years, GE? Shouldn't his business and educational acumen have left a team of deeply-talented, well-educated (by Welch) managers to continue Welch's performance at GE?
However, that's not what actually occurred. No, instead, as I've noted in my numerous (labelled) posts about GE and Immelt, and the nearby price chart of GE and the S&P500 Index displays, the company's performance headed into the toilet as soon as Immelt, Welch's hand-picked successor, took the reins in September of 2001.
In fact, Immelt has managed to destroy all the premium, above-equity-index value his predecessor built over several decades Now, you'd have been about as well off owning the S&P since 1963 as you would have been buying and holding GE until the present.
You have to ask yourself, if this is the result of Welch's personally-trained and selected team at GE after his departure, just how effective is the vaunted "Jack Welch way?"
Based on the company's performance under those whom he groomed and chose, I wouldn't be writing checks to Chancellor for either of my children just yet. Or maybe ever.
I've always given Welch credit for his very adept handling of the mess of a company Reg Jones handed off to him in the early 1980s. He coped with inflation, high interest rates and misleading accounting values. Welch's instinctive concentration on businesses in which GE could be among the top three in share and were growing was the right move.
However, as I pointed out to him in a private meeting in the mid-1990s, his performance margin over the equities indices pretty much ended by then. Subsequent events in GE's power business proved Welch wrong in his predictions to me that it was poised to take off. My own advice, that the industrial units, being valued differently than growth businesses, were needlessly weighing on the financial and media properties, proved to be correct.
Further, in the latter years of Welch's tenure, GE's performance rested, I contend, more on Welch's persona and a sort of 'pixie dust' in the eyes of analysts, than on Welch's hard-nosed leadership and management.
After all, how much about GE could really have changed by late 2001, when, under Immelt, the firm's reported performances were savaged by analysts, reserves were called into question, and accounting practices were criticized?
I think you have to see GE's performance subsequent to Welch's departure as an early read on his effectiveness as a manager and teacher, and give him an "F" (hey- that's his middle initial, isn't it!). Hardly an endorsement of Jack's way, is it?
Yes, straight from the gut- Jack's lasting impact on his own chosen few hasn't been very pretty to see.
Granted, though, Professor Jack sounds a helluva lot better than Neutron Jack, doesn't it?
Monday, June 22, 2009
Perspectives On Economic Opportunities, Skills, and Jobs
I had a discussion with a business colleague recently on the topic of how "jobs" are perceived by many non-business people, most often state and federal governmental officials.
For example, we often hear of governors or presidents taking credit for "creating jobs." Or state officials will talk about how many "jobs" are in their state, or leaving their state.
If you think about the references to "jobs" abstractly, these politicians talk as if the term refers to a stock of tangible items to be apportioned out to people.
But that's not what a "job" is at all. I contend these linguistic uses belie a totally incorrect viewpoint and understanding of what a "job" really is.
Here's how I view the context and meaning of a "job."
In a society, people have various skills. Some people also have ideas for developing products and services to sell to other people.
While we all want to have an economy that creates sufficient jobs for the people in our society, jobs are a function of business and economic activity, not the other way around.
For example, long ago, farming and various industrial activities required some number of workers. As time went by and technological advances occurred, the number of "jobs" required to produce a ton of steel, or an acre of wheat, fell. But new "jobs" arose to build the machine tools and farming equipment that saved labor in the older, once labor-intensive sectors.
Economic growth via new businesses and expansion of older ones leads to a need for more workers, thus creating "jobs."
Anything a government does to either stifle business growth, or move it elsewhere, causes "jobs" to move and, thus, be lost to the geography over which that government presides as society's political entity.
If the people in an area don't have the skills to do the work required by a new or expanded existing business, there won't be any new "jobs" there. There might be a need for more workers, but without qualified people, the jobs will appear elsewhere.
Thus the growth of technology firms around Boston in the 1980s, and in Silicon Valley for several decades. Until taxes and other expenses drove firms to add new "jobs" in Oregon, Washington, New Mexico, and even overseas.
Jobs are not a fixed or necessarily growing economic good, able to be traded, 'created' or 'saved' by government.
And economic development and business advancement can cause some 'jobs,' or, really skills, to be no longer necessary. Jobs aren't a static concept or body of things to be simply taxed and relied upon by governments.
They are the by-products of business processes and expansion. Treat business badly, cause it to contract or die, and you remove the production needs which lead to "jobs."
Perhaps my colleague best illustrated the point when he engaged in light discussion with a doctor recently.
His doctor asked what my colleague did for a living and, on hearing he is self-employed with several ventures, observed that "at least you can't be laid off."
"No," my colleague replied, "but I can go bankrupt and lose my businesses."
Jobs aren't just things which you "get" and "keep." They stem from a business' need for work to be done and skills involved in doing that work. If there's a fit with local people, at a price both can afford, then a "job" may be created for that work at that time at that price.
But speaking of jobs in some totally abstract manner, as if they are a constant stock of income-yielding positions to which all Americans, in the aggregate, are entitled, is simply a gross misunderstanding of how business works.
For example, we often hear of governors or presidents taking credit for "creating jobs." Or state officials will talk about how many "jobs" are in their state, or leaving their state.
If you think about the references to "jobs" abstractly, these politicians talk as if the term refers to a stock of tangible items to be apportioned out to people.
But that's not what a "job" is at all. I contend these linguistic uses belie a totally incorrect viewpoint and understanding of what a "job" really is.
Here's how I view the context and meaning of a "job."
In a society, people have various skills. Some people also have ideas for developing products and services to sell to other people.
While we all want to have an economy that creates sufficient jobs for the people in our society, jobs are a function of business and economic activity, not the other way around.
For example, long ago, farming and various industrial activities required some number of workers. As time went by and technological advances occurred, the number of "jobs" required to produce a ton of steel, or an acre of wheat, fell. But new "jobs" arose to build the machine tools and farming equipment that saved labor in the older, once labor-intensive sectors.
Economic growth via new businesses and expansion of older ones leads to a need for more workers, thus creating "jobs."
Anything a government does to either stifle business growth, or move it elsewhere, causes "jobs" to move and, thus, be lost to the geography over which that government presides as society's political entity.
If the people in an area don't have the skills to do the work required by a new or expanded existing business, there won't be any new "jobs" there. There might be a need for more workers, but without qualified people, the jobs will appear elsewhere.
Thus the growth of technology firms around Boston in the 1980s, and in Silicon Valley for several decades. Until taxes and other expenses drove firms to add new "jobs" in Oregon, Washington, New Mexico, and even overseas.
Jobs are not a fixed or necessarily growing economic good, able to be traded, 'created' or 'saved' by government.
And economic development and business advancement can cause some 'jobs,' or, really skills, to be no longer necessary. Jobs aren't a static concept or body of things to be simply taxed and relied upon by governments.
They are the by-products of business processes and expansion. Treat business badly, cause it to contract or die, and you remove the production needs which lead to "jobs."
Perhaps my colleague best illustrated the point when he engaged in light discussion with a doctor recently.
His doctor asked what my colleague did for a living and, on hearing he is self-employed with several ventures, observed that "at least you can't be laid off."
"No," my colleague replied, "but I can go bankrupt and lose my businesses."
Jobs aren't just things which you "get" and "keep." They stem from a business' need for work to be done and skills involved in doing that work. If there's a fit with local people, at a price both can afford, then a "job" may be created for that work at that time at that price.
But speaking of jobs in some totally abstract manner, as if they are a constant stock of income-yielding positions to which all Americans, in the aggregate, are entitled, is simply a gross misunderstanding of how business works.
Sunday, June 21, 2009
Starbuck's Reconsiders The Details
In yet another chapter in Starbuck's continuing struggles to recapture its former luster, the chain is now planning a significant change in what would seem to be a trivial activity. After what has apparently been intensive study of how and when coffees are brewed in the roaster's many stores, management has decided to focus on having fresher pots of coffee always available.
The Wall Street Journal reported, in a recent article,
"Instead of grinding coffee only in the morning, baristas will grind beans each time a new pot is brewed. Timers will buzz to signal when it's time to make a new batch, according to internal Starbucks documents reviewed by The Wall Street Journal.
The changes are part of the Seattle-based company's effort to reinvigorate the "Starbucks experience" in the face of competition from less-expensive rivals such as McDonald's Corp. and 7-Eleven Inc. With Starbucks' changes, customers will be able to hear the whir of grinders and smell the aroma of fresh coffee all day.
Two years ago, Howard Schultz, then chairman of the company, wrote a memo to executives blaming the chain's excessive focus on growth and efficiency for cheapening the coffee-shop experience he long had championed. Mr. Schultz wrote that an earlier switch to preground coffee had taken the "romance and theatre" out of a trip to Starbucks.
"We achieved fresh-roasted bagged coffee, but at what cost? The loss of aroma -- perhaps the most powerful nonverbal signal we had in our stores," he wrote.
Currently, baristas decide when to brew fresh batches "based on multiple signals ranging from demand (quantity), to expiration and timing," the new documents say, explaining that the revamped process "reduces this complexity by eliminating many of these signals."
The documents say that currently, "by using dedicated [containers] to brew coffee, our customers may experience a coffee outage 14 minutes out of every hour, or 23% of the time! This coffee outage occurs for seven minutes during every batch, making brewed coffee unavailable to our customers." As a result, customers can be forced to wait, choose another type of coffee or leave the store empty handed. "To solve the brewed-coffee outage problem, we must change the way we brew coffee," the documents say.
Some baristas said the extra grinding and brewing might slow service and turn off customers with added noise.
But demonstrating to customers that coffee is ground and brewed on the spot could help Starbucks maintain its premium position, especially as rivals tout less-expensive alternatives."
What struck me about Schultz' approach and concerns is that it probably won't attract coffee drinkers the chain hasn't already won over long ago. I'm not a big Starbuck's fan, personally, but I visit their stores with/for my daughters on occasion. The same people are generally in the one we most often frequent.
I honestly don't think more freshly-ground or -brewed coffee aroma will bring (back) Dunkin' Donuts' and McDonalds' coffee drinkers. It's a segmentation issue, and Starbucks long ago sewed up the segment that celebrates expensive coffee and the coffee houses in which one may linger to drink it.
Finally, in these times of government intervention into financial services, auto production and healthcare, I find it instructive how detailed and minute are Schultz' and Starbucks' managers' focus on their business.
Look again at how deeply and precisely the firm's management had studied a specific part of their operation with an eye to customer motivations and need satisfactions.
No governmental civil servant is going to do that. Yet, that's what it takes to succeed in business. Focus on customer wants and needs. Diligent, constant, detailed review of your own business' offerings, strategies, and operations.
Is Schultz right in changing the Starbucks' stores' coffee brewing? I don't know, but I doubt it. Still, he and his managers feel it's an important change to make in order to revive growth, profitability and equity value for the firm.
I just don't see that sort of combination of analytical rigor and imagination from any government hacks trying to oversee, restructure or operate significant portions of the US economy.
The Wall Street Journal reported, in a recent article,
"Instead of grinding coffee only in the morning, baristas will grind beans each time a new pot is brewed. Timers will buzz to signal when it's time to make a new batch, according to internal Starbucks documents reviewed by The Wall Street Journal.
The changes are part of the Seattle-based company's effort to reinvigorate the "Starbucks experience" in the face of competition from less-expensive rivals such as McDonald's Corp. and 7-Eleven Inc. With Starbucks' changes, customers will be able to hear the whir of grinders and smell the aroma of fresh coffee all day.
Two years ago, Howard Schultz, then chairman of the company, wrote a memo to executives blaming the chain's excessive focus on growth and efficiency for cheapening the coffee-shop experience he long had championed. Mr. Schultz wrote that an earlier switch to preground coffee had taken the "romance and theatre" out of a trip to Starbucks.
"We achieved fresh-roasted bagged coffee, but at what cost? The loss of aroma -- perhaps the most powerful nonverbal signal we had in our stores," he wrote.
Currently, baristas decide when to brew fresh batches "based on multiple signals ranging from demand (quantity), to expiration and timing," the new documents say, explaining that the revamped process "reduces this complexity by eliminating many of these signals."
The documents say that currently, "by using dedicated [containers] to brew coffee, our customers may experience a coffee outage 14 minutes out of every hour, or 23% of the time! This coffee outage occurs for seven minutes during every batch, making brewed coffee unavailable to our customers." As a result, customers can be forced to wait, choose another type of coffee or leave the store empty handed. "To solve the brewed-coffee outage problem, we must change the way we brew coffee," the documents say.
Some baristas said the extra grinding and brewing might slow service and turn off customers with added noise.
But demonstrating to customers that coffee is ground and brewed on the spot could help Starbucks maintain its premium position, especially as rivals tout less-expensive alternatives."
What struck me about Schultz' approach and concerns is that it probably won't attract coffee drinkers the chain hasn't already won over long ago. I'm not a big Starbuck's fan, personally, but I visit their stores with/for my daughters on occasion. The same people are generally in the one we most often frequent.
I honestly don't think more freshly-ground or -brewed coffee aroma will bring (back) Dunkin' Donuts' and McDonalds' coffee drinkers. It's a segmentation issue, and Starbucks long ago sewed up the segment that celebrates expensive coffee and the coffee houses in which one may linger to drink it.
Finally, in these times of government intervention into financial services, auto production and healthcare, I find it instructive how detailed and minute are Schultz' and Starbucks' managers' focus on their business.
Look again at how deeply and precisely the firm's management had studied a specific part of their operation with an eye to customer motivations and need satisfactions.
No governmental civil servant is going to do that. Yet, that's what it takes to succeed in business. Focus on customer wants and needs. Diligent, constant, detailed review of your own business' offerings, strategies, and operations.
Is Schultz right in changing the Starbucks' stores' coffee brewing? I don't know, but I doubt it. Still, he and his managers feel it's an important change to make in order to revive growth, profitability and equity value for the firm.
I just don't see that sort of combination of analytical rigor and imagination from any government hacks trying to oversee, restructure or operate significant portions of the US economy.
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