Paul Ingrassia, former Detroit bureau chief of the Wall Street Journal, and Pulitzer Prize-winning author, wrote another excellent editorial in Thursday's edition of the paper, entitled "The Latest Song of Detroit."
The core of Ingrassia's piece are these passages,
"Consider GM, which appears to be in the most immediate danger, and sits "at the epicenter of the auto industry's crisis," in the words of respected Deutsche Bank analyst Rod Lache. General Motors seeks a total of up to $18 billion (including the $4 billion mentioned above), which is a hefty $6 billion more than it had requested just weeks ago.
The company proposes in its "Restructuring Plan for Long-Term Viability" to reduce its distribution network from some 6,500 dealers today to 4,700 in 2012. It also pledges to put its Saab and Saturn brands through a "strategic review," which means a potential sale, in addition to Hummer, which already is under review. Ailing Pontiac would become a niche brand, leaving GM mainly with Chevrolet, Cadillac, GMC and Buick. Additional efficiencies could come through amending contracts with the United Auto Workers union. GM suggests a federal "Oversight Board" to monitor its progress in meeting its "restructuring benchmarks."
But here's the problem: GM, by its own admission, is out of time. The benchmarks, while moving in the right direction, remain too low and too slow. Making Pontiac a niche brand isn't new; that plan has existed for years. Putting the other ailing brands "under review" will mean little unless GM actually can discontinue the brands (and thus end the cost burden they create) if the company is unable to sell them. Negotiating contract changes with the UAW will be a protracted process, and negotiating with dealers to reduce their numbers will be slower still. Even if the company does get down to 4,700 dealers by 2012, it will still have an excess of at least 2,500 dealers -- as compared to the average annual sales volume of Toyota dealers.
That's why an "Oversight Board" isn't enough. What's needed, under the aegis of the board, is a federal restructuring trustee who can lead car companies through a bankruptcy-type process if they opt for federal loans -- which Ford, alone among the Detroit Three, says it might not have to do. A restructuring trustee would have the power to set appropriate compensation for terminated dealer-franchise contracts, which would be invalidated with no value if an auto maker files for Chapter 11 bankruptcy. And the trustee should help find a foreign buyer for Chrysler, which is that company's best hope now.
The trustee also would have the power to impose a new labor contract on the UAW. An excellent model for such a contract already exists at the GM-Toyota joint venture plant in Fremont, Calif. The UAW represents that plant too, but the contract there is shorter, simpler and more flexible in every respect than the union's master contract with the Detroit Three."
He pulls no punches. A Chapter 11 filing, or an equivalent status, must be required for GM in order to receive any more Federal help.
As I discussed this ongoing drama with my business partner yesterday, he noted the front page of a newspaper, probably the NY Times, listing five options for Detroit's auto makers. Bankruptcy wasn't even among the top three, and anything requiring outsider-led reorganization was down the list and assessed as being opposed by the UAW and company managements.
It's taken this to make the strangest bedfellows, UAW chief Gettelfinger and CEOs Wagoner, Mulally and Nardelli. And, this morning, GM executive Bob Lutz, who has worked for all three auto makers, at one time or another.
Lutz and Gettelfinger were each interviewed on CNBC this morning. It was pretty disgusting.
Lutz sang the praises of Wagoner, but, when asked how much the UAW had to give to make things work, he punted. Then he continued by claiming that firing Wagoner was like 'firing the mayor of a town just hit by an earthquake.' According to Lutz, i.e., the company line on this fiasco, all of Detroit's problems have been external. They didn't mismanage themselves, ever.
Nope. The financial crisis and current recession are entirely to blame.
Then Lutz corrected the interviewer, saying something like,
'I don't know why people call this a 'bailout.' It's not a bailout. It's an emergency loan that will be paid back.'
Yeah. Right. A company that can't forecast being profitable under the best case for two more years will pay back an $18B loan on time.
If this were such an attractive financing opportunity, GM would be going to the capital markets, not Congress.
A little later, Ron Gettelfinger, head of the UAW, was interviewed. What's surprising is that Gettelfinger is so craven and desperate that he's singing the same song. When asked about firing Wagoner, Gettelfinger virtually repeated Lutz' argument- that all the trouble GM is in is outside of its control.
When pressed for what the UAW would give to make a reorganization work, Gettelfinger, too, punted, saying everything was on the table, but nothing was sure until he 'saw what everyone else was giving, too.'
When corporate management and their union suddenly begin singing from the same hymnal they are holding together, you should worry.
And put your hand on your wallet. And hope your Congress has its hand on your Federal wallet, too.
It seems that these clowns really believe nobody has noticed how the managements of GM, Ford and Chrysler, together with the greedy UAW 'management' and its workers, have run this sector's US-based companies into the ground. Now, they want $34B of our money to 'tide them over,' as if we'll ever get it back.
Paul Ingrassia, who has followed this industry for decades, making his mark by studying it closely, is right on target. The only way these three companies should receive any more Federal help is in Chapter 11. Period.
Monday, December 08, 2008
Friday, December 05, 2008
The Detroit Pigs Return To The Washington Trough
On Thursday, I wrote this post on my companion political blog discussing those aspects of the current drama being played out on Capitol Hill involving the US-based auto makers.
After I wrote that post, there was still plenty of drama occurring, both in the Congressional hearing room, and outside, as all parties rushed to appear before cameras on CNBC and Fox to attempt to add weight and urgency to their positions.
In this post, I want to address the economic aspects of what was said, and not said, yesterday in testimony and various post-hearing interviews.
Perhaps the most outrageously insidious and disingenuous 'witness' at the hearing was the UAW chief, Ron Gettelfinger.
This union chief stopped at nothing to save his hide, and, parenthetically, his union, too. To hear Ron's view of the world, filing Chapter 11 is unacceptable, because it would cause GM to cease to function.
Of course, that's a lie. But what else can Gettelfinger say? The truth is too awful for him and his union members.
Gettelfinger kept banging away on the theme that millions would become unemployed, national production capacity would be lost, and cars would be unbuilt if GM, Ford and Chrysler file for bankruptcy. And that no consumers would buy a car from a producer in Chapter 11.
Trouble is, Gettelfinger's source on that last contention was hopelessly biased and suspect.
But, listening to the UAW chief, you'd think that filing Chapter 11 was somehow less efficient than having a giant pow-wow, before a filing, in which everyone magically sits down and negotiates in good faith, once you and I have agreed, through Congress, to write checks totally some $30B to the three failed auto makers.
The truth, of course, is that Chapter 11 is crucial to force such negotiations. Gettelfinger is scrambling to hold out for pre-bankruptcy negotiations, because, in bankruptcy, his union will have its benefits and wages slashed unilaterally.
In fact, one Democratic Senator explicitly accused, but not by name, some Republicans and pundits for using Detroit's problems to break the UAW. But the UAW is doing that all on its own. It doesn't need help.
Perhaps the most sickening aspect of the presentations by Wagoner, Mulally, Nardelli and Gettelfinger were their simultaneous claims of two mutually exclusive positions:
-If GM, Ford and Chrysler are not rescued, their failure will mean untold damage to the US economy, so dire is their current predicament. And this predicament, by the way, is only the result of the recent financial crisis, not the woeful mismanagement of the three firms and the UAW for decades.
-If GM, Ford and Chrysler are bailed out, they will magically become the best-managed, most eco-friendly, well-run, successful American companies you ever saw.
Actually, both positions are probably lies.
First, Chapter 11 filings by all three firms would allow them to operate under a Federal bankruptcy referee, who would assist in the pruning of loss-making operations, reorganization of the three firms into fewer, stronger firm(s), and/or sale of attractive operations to other car makers.
Further, shuttering Ford, GM and Chrysler, as we know them now, does not preclude Federal assistance to formerly-employed UAW workers, as citizens, though, not UAW members. Shareholders and creditors may suffer, as they should, but employees need not be totally cast adrift.
Too, if GM, for example, is truly within a month of failure, then it's way too late to claim that a few billion in cash will magically solve all its ills.
Also, the three CEOs attempted to con the Senators at the hearing into believing that it is natural and acceptable to forecast 18-30 month timeframes until which these firms will show a profit again.
No private investor would stand for this. No bank would lend on these terms. But the CEOs could offer no case for rescue, in this situation, other than trying to cause a fear of massive unemployment and national economic ruin, should they fail.
Simply put, the CEOs, and Gettelfinger, all of whom are culpable in having brought the firms, and the US-based auto making sector to this point, attempted to evade responsibility for ruining the three firms, but threaten to make the nation's taxpayers pay a high price for the mistakes of these four leaders, and their predecessors.
The second contention of the four leaders, that, if bailed out, they will magically become better-managed companies, is silly on the face of it.
Without significant change in management, union contracts, and various other vendor arrangements, these companies will never survive to repay the 'loans' they claim to want.
You have to ask yourself, how will GM, Ford and Chrysler, which mismanaged themselves to this point, magically change just by the infusion of tens of billions of dollars of taxpayer money?
They won't.
Finally, there is a lot of emphasis on various surveys purporting to claim that, if in bankruptcy, these firms will lose customers, because, 'nobody will buy a car from a company in bankruptcy proceedings.'
These surveys are, when you carefully evaluate them, specious. Gettelfinger and Wagoner never actually cite the details of the 'survey' on which they rely.
Today, on CNBC, economic misfit Steve Liesman cited the network's own poll as showing that 52% of those questioned would buy a car under those circumstances.
Then the economic idiot claimed he had reversed his own numbers, and the correct value was a lower number. 37%, I believe, with the balance, some 11%, were undecided.
The flaw, of course, in Liesman's figures, is that one would need to carefully consider the sample makeup. To me, the most reasonable universe for these surveys would be current buyers of each company's cars. With such a small market share now, GM is really only worried about current customers, since most car buyers wouldn't take a GM product if you gave it to them.
Thus, it's probably a good idea to totally discount these 'surveys' purporting to show that the firms can't....just can't...be in bankruptcy, or they will sell no cars.
Finally, the CEOs, and supporters, including the Governor of Michigan, would have us believe that, without GM, Ford and Chrysler, valuable non-carbon-based car technology will lapse, and we'll be at the mercy of foreign producers of alternative-fuel vehicles.
Again, this is a red herring, and nothing could be further from the truth. If these technologies are so promising, why would not either other car makers with plants in the US, or simply other companies, buy these patents, technologies, or operations, in order to continue perfecting them?
It's not the assembly of something like GM's oft-heralded, but far-off Volt, that is crucial. It's likely the battery and drive train technology. Parts that a supplier could easily buy and finish developing.
In general, any parts of these companies that are valuable will be preserved and transferred, in Chapter 11, to a better, stronger parent. So will employees needed for ongoing car operations.
In summary, the cases made by Wagoner, Mulally, Nardelli, Gettelfinger, et.al., are deeply flawed, specious, and devoid of merit.
We should all hope that Congress only extends a debtor-in-possession loan to any of the three US auto makers which choose to enter Chapter 11, and then offers focused assistance packages to displaced employees.
To do more would be folly and insanity. Throwing our good taxpayer money after bad, lost shareholder and creditor money.
After I wrote that post, there was still plenty of drama occurring, both in the Congressional hearing room, and outside, as all parties rushed to appear before cameras on CNBC and Fox to attempt to add weight and urgency to their positions.
In this post, I want to address the economic aspects of what was said, and not said, yesterday in testimony and various post-hearing interviews.
Perhaps the most outrageously insidious and disingenuous 'witness' at the hearing was the UAW chief, Ron Gettelfinger.
This union chief stopped at nothing to save his hide, and, parenthetically, his union, too. To hear Ron's view of the world, filing Chapter 11 is unacceptable, because it would cause GM to cease to function.
Of course, that's a lie. But what else can Gettelfinger say? The truth is too awful for him and his union members.
Gettelfinger kept banging away on the theme that millions would become unemployed, national production capacity would be lost, and cars would be unbuilt if GM, Ford and Chrysler file for bankruptcy. And that no consumers would buy a car from a producer in Chapter 11.
Trouble is, Gettelfinger's source on that last contention was hopelessly biased and suspect.
But, listening to the UAW chief, you'd think that filing Chapter 11 was somehow less efficient than having a giant pow-wow, before a filing, in which everyone magically sits down and negotiates in good faith, once you and I have agreed, through Congress, to write checks totally some $30B to the three failed auto makers.
The truth, of course, is that Chapter 11 is crucial to force such negotiations. Gettelfinger is scrambling to hold out for pre-bankruptcy negotiations, because, in bankruptcy, his union will have its benefits and wages slashed unilaterally.
In fact, one Democratic Senator explicitly accused, but not by name, some Republicans and pundits for using Detroit's problems to break the UAW. But the UAW is doing that all on its own. It doesn't need help.
Perhaps the most sickening aspect of the presentations by Wagoner, Mulally, Nardelli and Gettelfinger were their simultaneous claims of two mutually exclusive positions:
-If GM, Ford and Chrysler are not rescued, their failure will mean untold damage to the US economy, so dire is their current predicament. And this predicament, by the way, is only the result of the recent financial crisis, not the woeful mismanagement of the three firms and the UAW for decades.
-If GM, Ford and Chrysler are bailed out, they will magically become the best-managed, most eco-friendly, well-run, successful American companies you ever saw.
Actually, both positions are probably lies.
First, Chapter 11 filings by all three firms would allow them to operate under a Federal bankruptcy referee, who would assist in the pruning of loss-making operations, reorganization of the three firms into fewer, stronger firm(s), and/or sale of attractive operations to other car makers.
Further, shuttering Ford, GM and Chrysler, as we know them now, does not preclude Federal assistance to formerly-employed UAW workers, as citizens, though, not UAW members. Shareholders and creditors may suffer, as they should, but employees need not be totally cast adrift.
Too, if GM, for example, is truly within a month of failure, then it's way too late to claim that a few billion in cash will magically solve all its ills.
Also, the three CEOs attempted to con the Senators at the hearing into believing that it is natural and acceptable to forecast 18-30 month timeframes until which these firms will show a profit again.
No private investor would stand for this. No bank would lend on these terms. But the CEOs could offer no case for rescue, in this situation, other than trying to cause a fear of massive unemployment and national economic ruin, should they fail.
Simply put, the CEOs, and Gettelfinger, all of whom are culpable in having brought the firms, and the US-based auto making sector to this point, attempted to evade responsibility for ruining the three firms, but threaten to make the nation's taxpayers pay a high price for the mistakes of these four leaders, and their predecessors.
The second contention of the four leaders, that, if bailed out, they will magically become better-managed companies, is silly on the face of it.
Without significant change in management, union contracts, and various other vendor arrangements, these companies will never survive to repay the 'loans' they claim to want.
You have to ask yourself, how will GM, Ford and Chrysler, which mismanaged themselves to this point, magically change just by the infusion of tens of billions of dollars of taxpayer money?
They won't.
Finally, there is a lot of emphasis on various surveys purporting to claim that, if in bankruptcy, these firms will lose customers, because, 'nobody will buy a car from a company in bankruptcy proceedings.'
These surveys are, when you carefully evaluate them, specious. Gettelfinger and Wagoner never actually cite the details of the 'survey' on which they rely.
Today, on CNBC, economic misfit Steve Liesman cited the network's own poll as showing that 52% of those questioned would buy a car under those circumstances.
Then the economic idiot claimed he had reversed his own numbers, and the correct value was a lower number. 37%, I believe, with the balance, some 11%, were undecided.
The flaw, of course, in Liesman's figures, is that one would need to carefully consider the sample makeup. To me, the most reasonable universe for these surveys would be current buyers of each company's cars. With such a small market share now, GM is really only worried about current customers, since most car buyers wouldn't take a GM product if you gave it to them.
Thus, it's probably a good idea to totally discount these 'surveys' purporting to show that the firms can't....just can't...be in bankruptcy, or they will sell no cars.
Finally, the CEOs, and supporters, including the Governor of Michigan, would have us believe that, without GM, Ford and Chrysler, valuable non-carbon-based car technology will lapse, and we'll be at the mercy of foreign producers of alternative-fuel vehicles.
Again, this is a red herring, and nothing could be further from the truth. If these technologies are so promising, why would not either other car makers with plants in the US, or simply other companies, buy these patents, technologies, or operations, in order to continue perfecting them?
It's not the assembly of something like GM's oft-heralded, but far-off Volt, that is crucial. It's likely the battery and drive train technology. Parts that a supplier could easily buy and finish developing.
In general, any parts of these companies that are valuable will be preserved and transferred, in Chapter 11, to a better, stronger parent. So will employees needed for ongoing car operations.
In summary, the cases made by Wagoner, Mulally, Nardelli, Gettelfinger, et.al., are deeply flawed, specious, and devoid of merit.
We should all hope that Congress only extends a debtor-in-possession loan to any of the three US auto makers which choose to enter Chapter 11, and then offers focused assistance packages to displaced employees.
To do more would be folly and insanity. Throwing our good taxpayer money after bad, lost shareholder and creditor money.
Thursday, December 04, 2008
Goldman's Online Banking Plans
Yesterday's Wall Street Journal accorded the lead article placement in its Money & Investing section to a piece entitled, "Goldman Considers Online Bank."
It's not April 1st, so I guess we have to take this seriously.
These two recent posts, here and here, discuss my thoughts on how successful Goldman Sachs is likely to be in commercial banking. Yesterday's news doesn't change my thinking.
Yes, an online banking unit would not 'change the culture' at Goldman, per Lloyd Blankfein's self-expressed criterion.
But exactly what is the hook for consumers? I don't even do online banking constantly now. If I did, it would be for DDA account management, not to buy CDs or just place deposits.
In fact, this sort of business inevitably becomes very price-competitive. Hardly the image one has of Goldman, is it?
I don't understand how the Goldman Sachs management team could be so blind as to believe that simply by opening and online facility to take deposits, their long term worries over funding structure have ended.
Just the whole idea of a Goldman Sachs consumer bank strikes me as, well, ridiculous. It's as if they don't see any competition whatsoever in this area when, in fact, many commercial banks have been in this product/service space for years.
It also doesn't change the fact that, even today, Goldman remains an over-levered hedge fund with a bank charter or two. It's only a matter of time before they have to slim down their assets even further to meet either Federal or New York state banking requirements.
With the firm's first-ever quarterly loss reported this week, it hardly bodes well that future earnings will have to come on a smaller asset base amidst a slower market for the firm's main non-trading businesses, M&A and underwriting.
If this is the best Blankfein's team can come up with for Goldman's new operating environment, I feel sorry for the firm's current shareholders.
It's not April 1st, so I guess we have to take this seriously.
These two recent posts, here and here, discuss my thoughts on how successful Goldman Sachs is likely to be in commercial banking. Yesterday's news doesn't change my thinking.
Yes, an online banking unit would not 'change the culture' at Goldman, per Lloyd Blankfein's self-expressed criterion.
But exactly what is the hook for consumers? I don't even do online banking constantly now. If I did, it would be for DDA account management, not to buy CDs or just place deposits.
In fact, this sort of business inevitably becomes very price-competitive. Hardly the image one has of Goldman, is it?
I don't understand how the Goldman Sachs management team could be so blind as to believe that simply by opening and online facility to take deposits, their long term worries over funding structure have ended.
Just the whole idea of a Goldman Sachs consumer bank strikes me as, well, ridiculous. It's as if they don't see any competition whatsoever in this area when, in fact, many commercial banks have been in this product/service space for years.
It also doesn't change the fact that, even today, Goldman remains an over-levered hedge fund with a bank charter or two. It's only a matter of time before they have to slim down their assets even further to meet either Federal or New York state banking requirements.
With the firm's first-ever quarterly loss reported this week, it hardly bodes well that future earnings will have to come on a smaller asset base amidst a slower market for the firm's main non-trading businesses, M&A and underwriting.
If this is the best Blankfein's team can come up with for Goldman's new operating environment, I feel sorry for the firm's current shareholders.
Tuesday, December 02, 2008
Reality TV: Detroit Auto CEOs' Return To Washington This Week
Having been chastised by members of Congress, as I wrote in this post, for using private jets to travel to Washington for last month's hearing at which the CEOs of GM, Ford and Chrysler came begging for public assistance, it appears all have learned their lesson.
Comically so.
Reports have Alan Mulally tooling his way across the Eastern US in a Ford hybrid. Hapless GM CEO Rick Wagoner is doing something similar in one (or more) of his company's newer models.
Chrysler's Bob Nardelli had not, as of yesterday, disclosed his travel mode, other than to assure one and all that it certainly would not be a private jet.
The Detroit Three's second Congressional appearance has now taken on the character of a very bad reality television program.
Next, we'll hear that Mulally's car breaks down, or can't be recharged en route. So he misses the meeting because of frequent gas stops to fill the car's small tank.
Or that GM's Wagoner, inept as always, manages to lose his way and winds up in West Virginia, instead of Washington, D.C. Even his OnStar navigation system will fail him, to the embarrassment of all concerned.
Then Chrysler will reveal that Nardelli, not to be outdone, actually hitchhiked his way to the Congressional hearings. Unbeknownst to him, Mulally will have picked up Nardelli on I-70, south of the Breezewood exit, thinking him to be a drifter in an old, beat up suit, carrying a battered nylon courier bag.
Once before the Congressional panel, the three CEOs will be unexpectedly interrogated regarding their choice of lodging on the trip.
When it is revealed that Wagoner chose a Radisson, angry murmurs will sweep through the gathered lawmakers.
Mulally's selection of a Hampton Inn will be more favorably received, but only because the chain offers a plentiful, self-serve buffet breakfast.
But the assembled Members will rise to cheer and applaud when Nardelli reveals his audacious gamble in setting out for the Capitol on foot, staying overnight in a youth hostel in the Pittsburgh area.
Far from being insulted with the ex-Home Depot CEO's grimy, soiled and unshaven appearance, several Democrats will laud him as having finally gotten 'in touch' with the real spirit of 'hard working Americans' everywhere.
On a more serious note, though, I read yesterday's Wall Street Journal's Marketplace section's lead article, which depicted Alan Mulally's mug beneath the title, "Ford Will Speed Green-Car Launches."
What we are now seeing, sadly, is a group of struggling, near-dead companies offering to engage in whatever product and business strategies a group of equally-inept businessmen and women- Congress- demand of them, in hopes of securing some $30-40B of taxpayer-financed loans which are unlikely to ever be repaid.
Nothing good comes of a situation in which publicly-owned, private corporations set aside their own business plans and strategies, and, instead, simply agree to do public bidding, outside of, perhaps, wartime production agreements.
In this case, Ford and GM are touting what they believe Congress wants to see- a sudden rush to produce and market 'green' cars. No matter that the infrastructure for most of these is still non-existent. Or that they don't actually make economic sense for consumers to buy, if they are priced to make a profit.
By the way, look, next, for Congress to demand fairly rigid, low profit margins on 'green' cars, the better to speed their adoption.
Won't that result in the Detroit-based auto makers jumping from the frying pan of current, unprofitable vehicle manufacture, into the fire of newly-introduced, equally-unprofitable 'green' cars demanded by the Feds?
Probably so.
Simply put, why would anyone think that cars which the public doesn't seem to want in sufficient volume to make them profitable, will suddenly be popular just because a few Democratic members of Congress think, in their infinite wisdom as seasoned business experts, that our nation needs 'green' cars.
In my opinion, whatever happens next to Mulally's Ford, Wagoner's GM and Nardelli's Chrysler is appropriate justice which they will richly deserve. By turning over product planning to Congress, which last was seen architecting the spectacular collapse of Fannie Mae and Freddie Mac, as well as many commercial banks whose mortgage lending practices followed Congressional directives, these CEOs are abdicating what little chance of survival their firms have to a bunch of short-sighted politicians.
In short, Ford, GM and Chrysler are about to make a Faustian bargain with the devil, Congress. By suddenly pushing largely-unwanted, unproven 'green' cars, in exchange for tens of billions of dollars of loans, they will merely become more and more inextricably dependent upon the public trough.
It reminds me of the folly of Walter Wriston and David Rockefeller, then CEOs of Citibank and Chase Manhattan Bank, in the late 1970s. At that time, in the wake of the first oil price shock and Arab embargo, these two bankers were lauded by the Federal government for their vaunted 'recycling' of billions of 'petrodollars' from the Gulf to various third-world countries in need of loans.
The problem was that Walter and David forgot to mark up the interest rates on the resulting flood of 'sovereign loans' to unstable, poor (a/k/a "developing") countries around the globe, and, particularly, in South America.
Thus, only a decade later, in the late 1980s, many of these sovereign loans became non-performing, forcing the largest US money center banks to write off several billion dollars of these loans.
The thanks that Citibank and Chase Manhattan shareholders received for Wriston's and Rockefeller's bad loan and pricing decisions was a sudden loss of value in their investments in the two banks.
So much for private enterprise doing the bidding of government, instead of looking out for their shareholders' welfare and interests.
What happened to the US banks in the late 1980s is probably going to be repeated in Detroit in the next few years. Don't be surprised when the three American-based auto makers end up either as wards of Washington, merged at gunpoint, or on permanent Federal life-support.
Comically so.
Reports have Alan Mulally tooling his way across the Eastern US in a Ford hybrid. Hapless GM CEO Rick Wagoner is doing something similar in one (or more) of his company's newer models.
Chrysler's Bob Nardelli had not, as of yesterday, disclosed his travel mode, other than to assure one and all that it certainly would not be a private jet.
The Detroit Three's second Congressional appearance has now taken on the character of a very bad reality television program.
Next, we'll hear that Mulally's car breaks down, or can't be recharged en route. So he misses the meeting because of frequent gas stops to fill the car's small tank.
Or that GM's Wagoner, inept as always, manages to lose his way and winds up in West Virginia, instead of Washington, D.C. Even his OnStar navigation system will fail him, to the embarrassment of all concerned.
Then Chrysler will reveal that Nardelli, not to be outdone, actually hitchhiked his way to the Congressional hearings. Unbeknownst to him, Mulally will have picked up Nardelli on I-70, south of the Breezewood exit, thinking him to be a drifter in an old, beat up suit, carrying a battered nylon courier bag.
Once before the Congressional panel, the three CEOs will be unexpectedly interrogated regarding their choice of lodging on the trip.
When it is revealed that Wagoner chose a Radisson, angry murmurs will sweep through the gathered lawmakers.
Mulally's selection of a Hampton Inn will be more favorably received, but only because the chain offers a plentiful, self-serve buffet breakfast.
But the assembled Members will rise to cheer and applaud when Nardelli reveals his audacious gamble in setting out for the Capitol on foot, staying overnight in a youth hostel in the Pittsburgh area.
Far from being insulted with the ex-Home Depot CEO's grimy, soiled and unshaven appearance, several Democrats will laud him as having finally gotten 'in touch' with the real spirit of 'hard working Americans' everywhere.
On a more serious note, though, I read yesterday's Wall Street Journal's Marketplace section's lead article, which depicted Alan Mulally's mug beneath the title, "Ford Will Speed Green-Car Launches."
What we are now seeing, sadly, is a group of struggling, near-dead companies offering to engage in whatever product and business strategies a group of equally-inept businessmen and women- Congress- demand of them, in hopes of securing some $30-40B of taxpayer-financed loans which are unlikely to ever be repaid.
Nothing good comes of a situation in which publicly-owned, private corporations set aside their own business plans and strategies, and, instead, simply agree to do public bidding, outside of, perhaps, wartime production agreements.
In this case, Ford and GM are touting what they believe Congress wants to see- a sudden rush to produce and market 'green' cars. No matter that the infrastructure for most of these is still non-existent. Or that they don't actually make economic sense for consumers to buy, if they are priced to make a profit.
By the way, look, next, for Congress to demand fairly rigid, low profit margins on 'green' cars, the better to speed their adoption.
Won't that result in the Detroit-based auto makers jumping from the frying pan of current, unprofitable vehicle manufacture, into the fire of newly-introduced, equally-unprofitable 'green' cars demanded by the Feds?
Probably so.
Simply put, why would anyone think that cars which the public doesn't seem to want in sufficient volume to make them profitable, will suddenly be popular just because a few Democratic members of Congress think, in their infinite wisdom as seasoned business experts, that our nation needs 'green' cars.
In my opinion, whatever happens next to Mulally's Ford, Wagoner's GM and Nardelli's Chrysler is appropriate justice which they will richly deserve. By turning over product planning to Congress, which last was seen architecting the spectacular collapse of Fannie Mae and Freddie Mac, as well as many commercial banks whose mortgage lending practices followed Congressional directives, these CEOs are abdicating what little chance of survival their firms have to a bunch of short-sighted politicians.
In short, Ford, GM and Chrysler are about to make a Faustian bargain with the devil, Congress. By suddenly pushing largely-unwanted, unproven 'green' cars, in exchange for tens of billions of dollars of loans, they will merely become more and more inextricably dependent upon the public trough.
It reminds me of the folly of Walter Wriston and David Rockefeller, then CEOs of Citibank and Chase Manhattan Bank, in the late 1970s. At that time, in the wake of the first oil price shock and Arab embargo, these two bankers were lauded by the Federal government for their vaunted 'recycling' of billions of 'petrodollars' from the Gulf to various third-world countries in need of loans.
The problem was that Walter and David forgot to mark up the interest rates on the resulting flood of 'sovereign loans' to unstable, poor (a/k/a "developing") countries around the globe, and, particularly, in South America.
Thus, only a decade later, in the late 1980s, many of these sovereign loans became non-performing, forcing the largest US money center banks to write off several billion dollars of these loans.
The thanks that Citibank and Chase Manhattan shareholders received for Wriston's and Rockefeller's bad loan and pricing decisions was a sudden loss of value in their investments in the two banks.
So much for private enterprise doing the bidding of government, instead of looking out for their shareholders' welfare and interests.
What happened to the US banks in the late 1980s is probably going to be repeated in Detroit in the next few years. Don't be surprised when the three American-based auto makers end up either as wards of Washington, merged at gunpoint, or on permanent Federal life-support.
Citigroup's Bob Rubin Surfaces At Last
Saturday's Weekend Edition of the Wall Street Journal featured a front-page, below-the-crease article examining Bob Rubin's self-defense of his role as Citigroup Chairman.
I've written six posts mentioning Rubin, the latest and most relevant of which are found here and here. In my second linked post, I closed with,
"It's nice, when you've capped an already-impressive career with an essentially part-time job earning you more than $100MM over about a decade. To be so philosophical about presiding over Citi's $40BB in losses and dramatic loss of shareholder value, though, seems to me to border on reckless.
It's as if Rubin grew bored with the mechanics of 'managing' things and people, but relished the opportunity to pretend he was gambling at the tables at Monte Carlo, or maybe Rick's American Cafe in Cassablanca, with Citigroup shareholders' money. You can almost imagine him turning to Claude Rains after being wiped out on one spin of the roulette wheel, and wistfully intoning, as Rains laments Rubin's total loss of other people's money,
'It'll be what it will be, Claude, like everything in life.' "
The Journal article begins with this paragraph,
"Under fire for his role in the near-collapse of Citigroup Inc., Robert Rubin said its problems were due to the buckling financial system, not its own mistakes, and that his role was peripheral to the bank's main operations even though he was one of its highest-paid officials.
"Nobody was prepared for this," Mr. Rubin said in an interview. He cited former Federal Reserve Chairman Alan Greenspan as another example of someone whose reputation has been unfairly damaged by the crisis."
Personally, I would not choose this moment in time to use Alan Greenspan as someone with whom to compare myself and claim I was innocent. It might cause people to fetch a bucket of hot tar and some feathers.
The next few lines of the piece neatly encapsulate, and restate my own prior writing concerning the case against Rubin,
"Mr. Rubin, senior counselor and a director at Citigroup, acknowledged that he was involved in a board decision to ramp up risk-taking in 2004 and 2005, even though he was warning publicly that investors were taking too much risk. He said if executives had executed the plan properly, the bank's losses would have been less.
Its troubles have put the former Treasury secretary in the awkward position of having to justify $115 million in pay since 1999, excluding stock options, while explaining Citigroup's $20 billion in losses over the past year and a government bailout of at least $45 billion."
So there you have it. Rubin counseled the bank of which he was chairman to increase risk levels, while simultaneously speaking in public that market investors were taking too much risk. For his part in Citi's demise, Rubin took home $115MM in less than ten years.
Rubin's reply?
"Mr. Rubin said his pay was justified and that there were higher-paying opportunities available to him. "I bet there's not a single year where I couldn't have gone somewhere else and made more," he said. He turned down his bonus last year, telling the board the money could be better spent elsewhere.
Asked if he had any regrets, Mr. Rubin said: "I guess that I don't think of it quite that way," adding that "if you look back from now, there's an enormous amount that needs to be learned."
Mr. Rubin's effort to salvage his reputation comes just after Chief Executive Vikram Pandit appeared on PBS's Charlie Rose show. Mr. Pandit, too, blamed the overall financial crisis, not Citigroup, for the problems that led the government to decide to inject money into the bank for a second time this fall.
"This was something that was bigger than Citi," Mr. Pandit said. "It was about confidence in the financial system. It was about stability of the financial system." "
So Rubin looks at everything in monetary terms. No matter he was paid an outrageous amount for a non-executive chairman of one of the nation's then-largest banks. He claims it was okay, because he was worth it, in that he could have easily earned more each year elsewhere.
Bob, can you spell "mercenary." It's like he's saying,
'Hey, Citigroup shareholders, I'm sorry that I helped ruin your bank. But, you know, you were/are lucky to have me as your chairman. Someone else would have gladly paid me more in each of the past nine years to work for them. You should feel fortunate that I helped blow a $20B+ hole in Citi's balance sheet. And chose an inexperienced new CEO, too.'
Pandit, now taking his cue from the guy who handed him the plum job in banking, now also claims he had nothing to do with anything bad at Citi. It was all 'bigger than Citi.'
In attempting to deflect criticism over his role in shaping risk management at Citi, the Journal article reports,
"Mr. Rubin said it is a company's risk-management executives who are responsible for avoiding problems like the ones Citigroup faces. "The board can't run the risk book of a company," he said. "The board as a whole is not going to have a granular knowledge" of operations.
Still, Mr. Rubin was deeply involved in a decision in late 2004 and early 2005 to take on more risk to boost flagging profit growth, according to people familiar with the discussions. They say he would comment that Citigroup's competitors were taking more risks, leading to higher profits. Colleagues deferred to him, as the only board member with experience as a trader or risk manager. "I knew what a CDO was," Mr. Rubin said, referring to collateralized debt obligations, instruments tied to mortgages and other debt that led to many of Citigroup's losses.
Mr. Rubin said the decision to increase risk followed a presentation to the board by a consultant who said the bank had committed less of the capital on its balance sheet, on a risk-adjusted basis, than competitors. "It gave room to do more, assuming you're doing intelligent risk-reward decisions," Mr. Rubin said. He said success would have been based on having "the right people, the right oversight, the right technology."
The decision has been blamed in part for Citigroup's problems, including the growth of its CDO holdings amid signs the mortgage market was unraveling. Mr. Rubin doubts that's true. "It was not an inflection point," he said, but "I just don't know what would have happened" if the decision had been different.
At the time, Mr. Rubin was saying in speeches that most assets were overvalued. He would quote a noted investor he knew as saying that "the only undervalued asset class in the world is risk."
But it wouldn't have been right for the board to act on his concerns, Mr. Rubin said in the interview: "I wouldn't run a financial institution based on someone's view about what markets would do." He noted that the stock market kept rising for more than three years after Mr. Greenspan, in late 1996, wondered aloud about possible "irrational exuberance." "
I'll bet these remarks are a big surprise to Citigroup shareholders. After all, for just what was Rubin being paid more than $10MM per year? If Rubin's sense of global risk in asset prices wasn't worth being followed by Citi, why have him on the board to begin with? Perhaps more importantly, if Rubin is and was so humble regarding his feelings about risk, for what did he think he was being paid over $10MM per year?
It's simply amazing that, every time Rubin's detractors get him cornered on a topic for which Rubin clearly failed his company and shareholders, he turns zen and utters some unfathomable line about not knowing what else might have been, were Citigroup to have acted on his hunches, rather than Rubin letting management soldier on with no comments from him.
The Journal article closes with this passage,
"With Citigroup shares at $8.29, the stock is down 86% from its all-time high about two years ago and 70% since Mr. Rubin came aboard. The recent stock collapse "was a systemic problem of which Citi was a piece," said Mr. Rubin, who added that one cause was short sellers ganging up on the stock, selling borrowed shares in the hope of driving the share price down.
Asked about what he feels he's accomplished, he responded: "It's a funny way to think about it. I think I've been a very constructive part of the Citigroup environment. That has become particularly manifest since August '07. I have been very involved." "
The last quote of Rubin's is just hilarious, isn't it? This guy almost single-handedly led his bank into overly-risky positions in the riskiest asset going, CDOs, and still has the chutzpah to claim he has been a "very constructive part" of the firm's management, even as he contributed to its current ruination.
Further, he has been "very involved" in Citigroup's near-death experience of the past few years. If that's not a self-admitted indictment of failure and culpability, what would be?
I've written six posts mentioning Rubin, the latest and most relevant of which are found here and here. In my second linked post, I closed with,
"It's nice, when you've capped an already-impressive career with an essentially part-time job earning you more than $100MM over about a decade. To be so philosophical about presiding over Citi's $40BB in losses and dramatic loss of shareholder value, though, seems to me to border on reckless.
It's as if Rubin grew bored with the mechanics of 'managing' things and people, but relished the opportunity to pretend he was gambling at the tables at Monte Carlo, or maybe Rick's American Cafe in Cassablanca, with Citigroup shareholders' money. You can almost imagine him turning to Claude Rains after being wiped out on one spin of the roulette wheel, and wistfully intoning, as Rains laments Rubin's total loss of other people's money,
'It'll be what it will be, Claude, like everything in life.' "
The Journal article begins with this paragraph,
"Under fire for his role in the near-collapse of Citigroup Inc., Robert Rubin said its problems were due to the buckling financial system, not its own mistakes, and that his role was peripheral to the bank's main operations even though he was one of its highest-paid officials.
"Nobody was prepared for this," Mr. Rubin said in an interview. He cited former Federal Reserve Chairman Alan Greenspan as another example of someone whose reputation has been unfairly damaged by the crisis."
Personally, I would not choose this moment in time to use Alan Greenspan as someone with whom to compare myself and claim I was innocent. It might cause people to fetch a bucket of hot tar and some feathers.
The next few lines of the piece neatly encapsulate, and restate my own prior writing concerning the case against Rubin,
"Mr. Rubin, senior counselor and a director at Citigroup, acknowledged that he was involved in a board decision to ramp up risk-taking in 2004 and 2005, even though he was warning publicly that investors were taking too much risk. He said if executives had executed the plan properly, the bank's losses would have been less.
Its troubles have put the former Treasury secretary in the awkward position of having to justify $115 million in pay since 1999, excluding stock options, while explaining Citigroup's $20 billion in losses over the past year and a government bailout of at least $45 billion."
So there you have it. Rubin counseled the bank of which he was chairman to increase risk levels, while simultaneously speaking in public that market investors were taking too much risk. For his part in Citi's demise, Rubin took home $115MM in less than ten years.
Rubin's reply?
"Mr. Rubin said his pay was justified and that there were higher-paying opportunities available to him. "I bet there's not a single year where I couldn't have gone somewhere else and made more," he said. He turned down his bonus last year, telling the board the money could be better spent elsewhere.
Asked if he had any regrets, Mr. Rubin said: "I guess that I don't think of it quite that way," adding that "if you look back from now, there's an enormous amount that needs to be learned."
Mr. Rubin's effort to salvage his reputation comes just after Chief Executive Vikram Pandit appeared on PBS's Charlie Rose show. Mr. Pandit, too, blamed the overall financial crisis, not Citigroup, for the problems that led the government to decide to inject money into the bank for a second time this fall.
"This was something that was bigger than Citi," Mr. Pandit said. "It was about confidence in the financial system. It was about stability of the financial system." "
So Rubin looks at everything in monetary terms. No matter he was paid an outrageous amount for a non-executive chairman of one of the nation's then-largest banks. He claims it was okay, because he was worth it, in that he could have easily earned more each year elsewhere.
Bob, can you spell "mercenary." It's like he's saying,
'Hey, Citigroup shareholders, I'm sorry that I helped ruin your bank. But, you know, you were/are lucky to have me as your chairman. Someone else would have gladly paid me more in each of the past nine years to work for them. You should feel fortunate that I helped blow a $20B+ hole in Citi's balance sheet. And chose an inexperienced new CEO, too.'
Pandit, now taking his cue from the guy who handed him the plum job in banking, now also claims he had nothing to do with anything bad at Citi. It was all 'bigger than Citi.'
In attempting to deflect criticism over his role in shaping risk management at Citi, the Journal article reports,
"Mr. Rubin said it is a company's risk-management executives who are responsible for avoiding problems like the ones Citigroup faces. "The board can't run the risk book of a company," he said. "The board as a whole is not going to have a granular knowledge" of operations.
Still, Mr. Rubin was deeply involved in a decision in late 2004 and early 2005 to take on more risk to boost flagging profit growth, according to people familiar with the discussions. They say he would comment that Citigroup's competitors were taking more risks, leading to higher profits. Colleagues deferred to him, as the only board member with experience as a trader or risk manager. "I knew what a CDO was," Mr. Rubin said, referring to collateralized debt obligations, instruments tied to mortgages and other debt that led to many of Citigroup's losses.
Mr. Rubin said the decision to increase risk followed a presentation to the board by a consultant who said the bank had committed less of the capital on its balance sheet, on a risk-adjusted basis, than competitors. "It gave room to do more, assuming you're doing intelligent risk-reward decisions," Mr. Rubin said. He said success would have been based on having "the right people, the right oversight, the right technology."
The decision has been blamed in part for Citigroup's problems, including the growth of its CDO holdings amid signs the mortgage market was unraveling. Mr. Rubin doubts that's true. "It was not an inflection point," he said, but "I just don't know what would have happened" if the decision had been different.
At the time, Mr. Rubin was saying in speeches that most assets were overvalued. He would quote a noted investor he knew as saying that "the only undervalued asset class in the world is risk."
But it wouldn't have been right for the board to act on his concerns, Mr. Rubin said in the interview: "I wouldn't run a financial institution based on someone's view about what markets would do." He noted that the stock market kept rising for more than three years after Mr. Greenspan, in late 1996, wondered aloud about possible "irrational exuberance." "
I'll bet these remarks are a big surprise to Citigroup shareholders. After all, for just what was Rubin being paid more than $10MM per year? If Rubin's sense of global risk in asset prices wasn't worth being followed by Citi, why have him on the board to begin with? Perhaps more importantly, if Rubin is and was so humble regarding his feelings about risk, for what did he think he was being paid over $10MM per year?
It's simply amazing that, every time Rubin's detractors get him cornered on a topic for which Rubin clearly failed his company and shareholders, he turns zen and utters some unfathomable line about not knowing what else might have been, were Citigroup to have acted on his hunches, rather than Rubin letting management soldier on with no comments from him.
The Journal article closes with this passage,
"With Citigroup shares at $8.29, the stock is down 86% from its all-time high about two years ago and 70% since Mr. Rubin came aboard. The recent stock collapse "was a systemic problem of which Citi was a piece," said Mr. Rubin, who added that one cause was short sellers ganging up on the stock, selling borrowed shares in the hope of driving the share price down.
Asked about what he feels he's accomplished, he responded: "It's a funny way to think about it. I think I've been a very constructive part of the Citigroup environment. That has become particularly manifest since August '07. I have been very involved." "
The last quote of Rubin's is just hilarious, isn't it? This guy almost single-handedly led his bank into overly-risky positions in the riskiest asset going, CDOs, and still has the chutzpah to claim he has been a "very constructive part" of the firm's management, even as he contributed to its current ruination.
Further, he has been "very involved" in Citigroup's near-death experience of the past few years. If that's not a self-admitted indictment of failure and culpability, what would be?
Monday, December 01, 2008
Current Economic Disagreements: Recession & Stimulus
Today's statement by the NBER that the US entered a recession at the end of 2007, based upon a consistent pattern of monthly job losses.
On CNBC this afternoon, Larry Kudlow clarified the NBER definition of a recession. As echoed in this article,
"According to the NBER, a recession is "a significant decline in activity spread across the economy, lasting more than a few months, visible in industrial production, employment, real income, and wholesale-retail trade". Those are the four measures it will be examining forensically as 2008 progresses, and it puts employment data at the top of its list of influences since it is the broadest monthly indicator."
Therefore, today's announcement by the NBER conflicts with a quarterly-GDP-based measurement of a recession, but is, evidently, within the NBER's own definitional framework.
As such, this weekend's article by Amity Schlaes, entitled "The Krugman Recipe for Depression," has become much more relevant. With an official seal of approval on the current recession, political powers that be, or will be, are sure to demand more and larger stimulus packages.
Ms. Schlaes begins her piece by noting,
"Paul Krugman of the New York Times has been on the attack lately in regard to the New Deal. His new book "The Return of Depression Economics," emphasizes the importance of New Deal-style spending. He has said the trouble with the New Deal was that it didn't spend enough.
He's also arguing that some writers and economists have been misrepresenting the 1930s to make the effect of FDR's overall policy look worse than it was. I'm interested in part because Mr. Krugman has mentioned me by name. He recently said that I am the one "whose misleading statistics have been widely disseminated on the right." "
The argument between the two highlights the two opposing views of what should be done, or not done, by Congress in the current economic situation. The two camps each base their current recommendations upon their reading of the results of FDR's massive, never-before-or-since equalled, society-changing spending programs of the 1930s.
Krugman, a newly-anointed Nobel Laureate in Economics, has used this position to launch intensely nasty attacks upon the current administration's approach to economics. With his gleaming, newly-minted medal, Krugman is sure to be an oft-quoted and -cited 'expert' for those wishing to pass legislation to spend hundreds of billions of taxpayer dollars in the months ahead.
As Ms. Schlaes puts it,
"Mr. Krugman is a new Nobel Laureate, teaches at Princeton University and writes a column for a nationally prominent newspaper. So what he says is believed to be objective by many people, even when it isn't. But the larger reason we should care about the 1930s employment record is that the cure Roosevelt offered, the New Deal, is on everyone else's mind as well. In a recent "60 Minutes" interview, President-elect Barack Obama said, "keep in mind that 1932, 1933, the unemployment rate was 25%, inching up to 30%." "
Will any of it work?
Schlaes continues in her piece,
"The New Deal is Mr. Obama's context for the giant infrastructure plan his new team is developing. If he proposes FDR-style recovery programs, then it is useful to establish whether those original programs actually brought recovery. The answer is, they didn't. New Deal spending provided jobs but did not get the country back to where it was before.
This reality shows most clearly in the data -- everyone's data. During the Depression the federal government did not survey unemployment routinely as it does today. But a young economist named Stanley Lebergott helped the Bureau of Labor Statistics in Washington compile systematic unemployment data for that key period. He counted up what he called "regular work" such as a job as a school teacher or a job in the private sector. He intentionally did not include temporary jobs in emergency programs -- because to count a short-term, make-work project as a real job was to mask the anxiety of one who really didn't have regular work with long-term prospects.
The result is what we today call the Lebergott/Bureau of Labor Statistics series. They show one man in four was unemployed when Roosevelt took office. They show joblessness overall always above the 14% line from 1931 to 1940. Six years into the New Deal and its programs to create jobs or help organized labor, two in 10 men were unemployed. Mr. Lebergott went on to become one of America's premier economic historians at Wesleyan University. His data are what I cite. So do others, including our president-elect in the "60 Minutes" interview.
Later, Lee Ohanian of UCLA studied New Deal unemployment by the number of hours worked. His picture was similar to Mr. Lebergott's. Even late in 1939, total hours worked by the adult population was down by a fifth from the 1929 level. To be sure, Michael Darby of UCLA has argued that make-work jobs should be counted. Even so, his chart shows that from 1931 to 1940, New Deal joblessness ranges as high as 16% (1934) but never gets below 9%. Nine percent or above is hardly a jobless target to which the Obama administration would aspire."
The evidence Ms. Schlaes cites is pretty unequivocal. One wonders on what Krugman bases his objections. But, there's more.
Schlaes asks why so much Federal 'stimulus' and intervention, for nearly a decade, accomplished so little in terms of employment. Her response,
"What kept the picture so dark so long? Deflation for one, but also the notion that government could engineer economic recovery by favoring the public sector at the expense of the private sector. New Dealers raised taxes again and again to fund spending. The New Dealers also insisted on higher wages when businesses could ill afford them. Roosevelt, for example, signed into law first his National Recovery Administration, whose codes forced businesses to pay an above-market minimum wage, and then the Wagner Act, which gave union workers more power.
As a result of such policy, pay for workers in the later 1930s was well above trend. Mr. Ohanian's research documents this. High wages hurt corporate profits and therefore hiring. The unemployed stayed unemployed. "If you had a job you were all right" -- the phrase we all heard as children about the Depression -- really does capture the period.
Why does all this matter today? Because lawmakers are considering new labor legislation containing "card check," which would strengthen organized labor and so its wage demands. Because employees continue to pressure firms to spend on health care, without considering they may be making the company unable to hire an unemployed friend. Piling on public-sector jobs or raising wages may take away jobs in the private sector, directly or indirectly."
Ms. Schlaes hits the nail on the head. In order to avoid a rerun of the failed economic (and social) policy mistakes of the 1930s, we have to acknowledge what worked, and what did not.
Perhaps, before we get to that stage, we should heed Fed Chairman Ben Bernanke's response to a question after his prepared address in Texas this afternoon. When asked how the current economic situation compares with the Great Depression, Bernanke said they are not even close, and not at all comparable at this time. He then continued by reminding us that, prior to and in the Depression:
-unemployment rose to 25%
-money supply fell by 10% per year for several consecutive years
-GNP fell by roughly a quarter
-about 1/3 of the nation's banks failed
We are nowhere near any of those benchmarks. Thus, Ms. Schlaes' important closing paragraph,
"We know that the new administration is going to spend. But how? It can try to figure out a way to do that without hurting the private sector. Or it can just spend, Krugman-wise, and risk repeating the very depression we seek to avoid."
On CNBC this afternoon, Larry Kudlow clarified the NBER definition of a recession. As echoed in this article,
"According to the NBER, a recession is "a significant decline in activity spread across the economy, lasting more than a few months, visible in industrial production, employment, real income, and wholesale-retail trade". Those are the four measures it will be examining forensically as 2008 progresses, and it puts employment data at the top of its list of influences since it is the broadest monthly indicator."
Therefore, today's announcement by the NBER conflicts with a quarterly-GDP-based measurement of a recession, but is, evidently, within the NBER's own definitional framework.
As such, this weekend's article by Amity Schlaes, entitled "The Krugman Recipe for Depression," has become much more relevant. With an official seal of approval on the current recession, political powers that be, or will be, are sure to demand more and larger stimulus packages.
Ms. Schlaes begins her piece by noting,
"Paul Krugman of the New York Times has been on the attack lately in regard to the New Deal. His new book "The Return of Depression Economics," emphasizes the importance of New Deal-style spending. He has said the trouble with the New Deal was that it didn't spend enough.
He's also arguing that some writers and economists have been misrepresenting the 1930s to make the effect of FDR's overall policy look worse than it was. I'm interested in part because Mr. Krugman has mentioned me by name. He recently said that I am the one "whose misleading statistics have been widely disseminated on the right." "
The argument between the two highlights the two opposing views of what should be done, or not done, by Congress in the current economic situation. The two camps each base their current recommendations upon their reading of the results of FDR's massive, never-before-or-since equalled, society-changing spending programs of the 1930s.
Krugman, a newly-anointed Nobel Laureate in Economics, has used this position to launch intensely nasty attacks upon the current administration's approach to economics. With his gleaming, newly-minted medal, Krugman is sure to be an oft-quoted and -cited 'expert' for those wishing to pass legislation to spend hundreds of billions of taxpayer dollars in the months ahead.
As Ms. Schlaes puts it,
"Mr. Krugman is a new Nobel Laureate, teaches at Princeton University and writes a column for a nationally prominent newspaper. So what he says is believed to be objective by many people, even when it isn't. But the larger reason we should care about the 1930s employment record is that the cure Roosevelt offered, the New Deal, is on everyone else's mind as well. In a recent "60 Minutes" interview, President-elect Barack Obama said, "keep in mind that 1932, 1933, the unemployment rate was 25%, inching up to 30%." "
Will any of it work?
Schlaes continues in her piece,
"The New Deal is Mr. Obama's context for the giant infrastructure plan his new team is developing. If he proposes FDR-style recovery programs, then it is useful to establish whether those original programs actually brought recovery. The answer is, they didn't. New Deal spending provided jobs but did not get the country back to where it was before.
This reality shows most clearly in the data -- everyone's data. During the Depression the federal government did not survey unemployment routinely as it does today. But a young economist named Stanley Lebergott helped the Bureau of Labor Statistics in Washington compile systematic unemployment data for that key period. He counted up what he called "regular work" such as a job as a school teacher or a job in the private sector. He intentionally did not include temporary jobs in emergency programs -- because to count a short-term, make-work project as a real job was to mask the anxiety of one who really didn't have regular work with long-term prospects.
The result is what we today call the Lebergott/Bureau of Labor Statistics series. They show one man in four was unemployed when Roosevelt took office. They show joblessness overall always above the 14% line from 1931 to 1940. Six years into the New Deal and its programs to create jobs or help organized labor, two in 10 men were unemployed. Mr. Lebergott went on to become one of America's premier economic historians at Wesleyan University. His data are what I cite. So do others, including our president-elect in the "60 Minutes" interview.
Later, Lee Ohanian of UCLA studied New Deal unemployment by the number of hours worked. His picture was similar to Mr. Lebergott's. Even late in 1939, total hours worked by the adult population was down by a fifth from the 1929 level. To be sure, Michael Darby of UCLA has argued that make-work jobs should be counted. Even so, his chart shows that from 1931 to 1940, New Deal joblessness ranges as high as 16% (1934) but never gets below 9%. Nine percent or above is hardly a jobless target to which the Obama administration would aspire."
The evidence Ms. Schlaes cites is pretty unequivocal. One wonders on what Krugman bases his objections. But, there's more.
Schlaes asks why so much Federal 'stimulus' and intervention, for nearly a decade, accomplished so little in terms of employment. Her response,
"What kept the picture so dark so long? Deflation for one, but also the notion that government could engineer economic recovery by favoring the public sector at the expense of the private sector. New Dealers raised taxes again and again to fund spending. The New Dealers also insisted on higher wages when businesses could ill afford them. Roosevelt, for example, signed into law first his National Recovery Administration, whose codes forced businesses to pay an above-market minimum wage, and then the Wagner Act, which gave union workers more power.
As a result of such policy, pay for workers in the later 1930s was well above trend. Mr. Ohanian's research documents this. High wages hurt corporate profits and therefore hiring. The unemployed stayed unemployed. "If you had a job you were all right" -- the phrase we all heard as children about the Depression -- really does capture the period.
Why does all this matter today? Because lawmakers are considering new labor legislation containing "card check," which would strengthen organized labor and so its wage demands. Because employees continue to pressure firms to spend on health care, without considering they may be making the company unable to hire an unemployed friend. Piling on public-sector jobs or raising wages may take away jobs in the private sector, directly or indirectly."
Ms. Schlaes hits the nail on the head. In order to avoid a rerun of the failed economic (and social) policy mistakes of the 1930s, we have to acknowledge what worked, and what did not.
Perhaps, before we get to that stage, we should heed Fed Chairman Ben Bernanke's response to a question after his prepared address in Texas this afternoon. When asked how the current economic situation compares with the Great Depression, Bernanke said they are not even close, and not at all comparable at this time. He then continued by reminding us that, prior to and in the Depression:
-unemployment rose to 25%
-money supply fell by 10% per year for several consecutive years
-GNP fell by roughly a quarter
-about 1/3 of the nation's banks failed
We are nowhere near any of those benchmarks. Thus, Ms. Schlaes' important closing paragraph,
"We know that the new administration is going to spend. But how? It can try to figure out a way to do that without hurting the private sector. Or it can just spend, Krugman-wise, and risk repeating the very depression we seek to avoid."
Volatility Measures In Agreement
Today's Wall Street Journal contained an article discussing the VIX's recent and longer-term performance.
Per the article,
"The most popular proxy for market fear is the Chicago Board Options Exchange's Volatility Index, or VIX. It peaked at nearly 81 about two weeks ago, roughly four times its historical average of about 20. Crescendos of fear sometimes mark stock-market bottoms, and on cue, the VIX has fallen sharply since then, and stocks have rallied."
The piece goes on to discuss longer term performance of the series,
"Still, the VIX's closing price Friday of 55.84 was unprecedented before October. Its 50-day moving average, which indicates the trend, is still moving higher; values for days now falling out of the sample were in the 30s. The VIX has exceeded 30, an unusually high level, for the past 54 trading days.
To find volatility so high for so long, one has to look long before the VIX's invention in 1993 by Robert Whaley, now a finance professor at Vanderbilt University.
Christopher Finger, European head of research at RiskMetrics Group, has a model that crunches returns on the Dow Jones Industrial Average into something approaching a VIX going back to 1900. According to his estimates, volatility has hit higher peaks twice since 1900, at the crashes of 1987 and 1929. But in terms of persistently high volatility, only the 1930s were worse than today. Other analysts' models back him up or suggest the current sustained volatility is actually the worst in history."
It's quite comforting to know that our own proprietary volatility measure has displayed the same characteristics. I wrote about the behavior of our own volatility measure in this post in October. As I noted in this passage,
"Seeking historical context, I applied our measure to the S&P500 from 1950 to the present in additional research conducted just last month. That nearby chart shows that the crash of 1987 was even more volatile than our current market situation- so far.
Extending the analysis back to 1928, via the Dow Jones Industrial Average, I found that the market volatility for that crash exceeded even that of 1987.
All of which is to state that the current equity market volatility is the third-highest in 80 years,"
we, too, found what Mr. Finger discovered.
Reviewing the charts I published in the prior, linked post, and the one nearby, I would conclude the same, again, as Mr. Finger, regarding volatility persistence.
While the 1987 crash required several months for volatility to fall to a long-term, healthy value, it fell fairly significantly quite soon after the October crash.
Not so in 1929. In that case, as the chart shows, the decline in volatility was much more gradual.
That's what we are seeing this time, too. In fact, rather than a normal-curve like decline, the current equity market volatility has built a 'shoulder' of fairly constant, high volatility since the second week of last month.
Thus, as I noted to my partner recently, no two market crises are exactly alike.
Despite the rather somber conclusions shared by our volatility measure and the VIX, and another party's extension of a VIX-like volatility measure further back in time, it is, never the less, pleasing for us to see our own findings confirmed by other volatility measures.
Saturday, November 29, 2008
Tax Cuts vs. Spending Stimuli
This past Tuesday's Wall Street Journal featured an editorial by John B. Taylor, former undersecretary for international affairs and an economics professor at Stanford University, entitled "Why Permanent Tax Cuts Are the Best Stimulus."
As pictures are 'worth a thousand words,' consider the graphic on the left which appeared in Prof. Taylor's piece.
It clearly displays that monthly disposable personal income did, in fact, rise due to the recent 'stimulus' checks, but spending did not.
As Taylor writes,
"The argument in favor of these temporary rebate payments was that they would increase consumption, stimulate aggregate demand, and thereby get the economy growing again. What were the results? The chart nearby reveals the answer.
The upper line shows disposable personal income through September. Disposable personal income is what households have left after paying taxes and receiving transfers from the government. The big blip is due to the rebate payments in May through July.
The lower line shows personal consumption expenditures by households. Observe that consumption shows no noticeable increase at the time of the rebate. Hence, by this simple measure, the rebate did little or nothing to stimulate consumption, overall aggregate demand, or the economy.
These results may seem surprising, but they are not. They correspond very closely to what basic economic theory tells us. According to the permanent-income theory of Milton Friedman, or the life-cycle theory of Franco Modigliani, temporary increases in income will not lead to significant increases in consumption. However, if increases are longer-term, as in the case of permanent tax cut, then consumption is increased, and by a significant amount."
Instead, Taylor recommends that any further economic 'aid' by the government meet three criteria:
"- Permanent. The most obvious lesson learned from the first stimulus is that temporary is not a principle to follow if you want to get the economy moving again. Rather than one- or two-year packages, we should be looking for permanent fiscal changes that turn the economy around in a lasting way.
- Pervasive. One argument in favor of "targeting" the first stimulus package was that, by focusing on people who might consume more, the impact would be larger. But the stimulus was ineffective with such targeting. Moreover, targeting implied that increased tax rates, as currently scheduled, will not be a drag on the economy as long as increased payments to the targeted groups are larger than the higher taxes paid by others. But increasing tax rates on businesses or on investments in the current weak economy would increase unemployment and further weaken the economy. Better to seek an across-the-board approach where both employers and employees benefit.
- Predictable. While timeliness is an admirable attribute, it is only one property of good fiscal policy. More important is that policy should be clear and understandable -- that is, predictable -- so that individuals and firms know what to expect."
When you consider the income, tax and spending expectations and plans of an average American household, it's easy to see why Taylor, and others, are right, while the current Congress and incoming President are wrong to have both pushed the first 'stimulus,' and be planning another $500B spending jolt to the economy.
If someone flies over your home and air-drops a $600 check, then departs over the horizon, you treat the money as a one-time gift. It is, in all likelihood, going to be factored into this year's income and affect spending as an additional percent increase in annual earnings. For a couple earning just $60,000 per year, that's only 1%. Hardly enough to make a big difference, before factoring in a 'marginal propensity to consume,' to use Keynesian lingo.
If, instead, you are told that, effective with this tax year, and henceforth, your tax rates will be lower at each income level by a known amount, you have been given a permanent increase in income. In effect, the government, rather than your employer, has given you a raise.
This results in a much different perspective on the government's economic action. With a permanent earnings increase, more spending is likely. Spending which will also be permanent, resulting in a comparable and permanent expansion in business investment and spending to provide supply for the added consumer demand.
Professor Taylor ends his piece by noting,
"Some who promoted the first stimulus package have reacted to its failure by saying that we must now switch to large increases in government spending to stimulate demand. But government spending does not address the causes of the weak economy, which has been pulled down by a housing slump, a financial crisis and a bout of high energy prices, and where expectations of future income and employment growth are low.
The theory that a short-run government spending stimulus will jump-start the economy is based on old-fashioned, largely static Keynesian theories. These approaches do not adequately account for the complex dynamics of a modern international economy, or for expectations of the future that are now built into decisions in virtually every market."
So true.
For example, forget the hoary old Keynesian argument that, because governments run deficits, government "pump-priming" will have a greater impact on the economy than the same amount of money in consumers' hands, because consumers have a higher propensity to save than does the government. In Keynes' day, this may have worked, by assuming fixed exchange rates. Not anymore.
In the modern economic environment, large-scale government borrowing will push rates up and currency values down. Maybe not right away in today's context of financial panic, but eventually, it will.
Additionally, government spending of this sort is of the explicitly programmatic, or 'one-off' variety. Not so a permanent cut in tax rates.
So when we hear new plans for an even larger economic 'stimulus' package by Congress and the newly-elected President, you know the end result will be lower-than-expected and/or later-than-expected consumer spending, accompanied by, in time, higher interest rates on the ballooning Federal deficit.
Why don't the new powers in Washington shelve the added governmental spending plans and simply provide real tax rate cuts across all income levels, for both businesses and consumers?
As pictures are 'worth a thousand words,' consider the graphic on the left which appeared in Prof. Taylor's piece.It clearly displays that monthly disposable personal income did, in fact, rise due to the recent 'stimulus' checks, but spending did not.
As Taylor writes,
"The argument in favor of these temporary rebate payments was that they would increase consumption, stimulate aggregate demand, and thereby get the economy growing again. What were the results? The chart nearby reveals the answer.
The upper line shows disposable personal income through September. Disposable personal income is what households have left after paying taxes and receiving transfers from the government. The big blip is due to the rebate payments in May through July.
The lower line shows personal consumption expenditures by households. Observe that consumption shows no noticeable increase at the time of the rebate. Hence, by this simple measure, the rebate did little or nothing to stimulate consumption, overall aggregate demand, or the economy.
These results may seem surprising, but they are not. They correspond very closely to what basic economic theory tells us. According to the permanent-income theory of Milton Friedman, or the life-cycle theory of Franco Modigliani, temporary increases in income will not lead to significant increases in consumption. However, if increases are longer-term, as in the case of permanent tax cut, then consumption is increased, and by a significant amount."
Instead, Taylor recommends that any further economic 'aid' by the government meet three criteria:
"- Permanent. The most obvious lesson learned from the first stimulus is that temporary is not a principle to follow if you want to get the economy moving again. Rather than one- or two-year packages, we should be looking for permanent fiscal changes that turn the economy around in a lasting way.
- Pervasive. One argument in favor of "targeting" the first stimulus package was that, by focusing on people who might consume more, the impact would be larger. But the stimulus was ineffective with such targeting. Moreover, targeting implied that increased tax rates, as currently scheduled, will not be a drag on the economy as long as increased payments to the targeted groups are larger than the higher taxes paid by others. But increasing tax rates on businesses or on investments in the current weak economy would increase unemployment and further weaken the economy. Better to seek an across-the-board approach where both employers and employees benefit.
- Predictable. While timeliness is an admirable attribute, it is only one property of good fiscal policy. More important is that policy should be clear and understandable -- that is, predictable -- so that individuals and firms know what to expect."
When you consider the income, tax and spending expectations and plans of an average American household, it's easy to see why Taylor, and others, are right, while the current Congress and incoming President are wrong to have both pushed the first 'stimulus,' and be planning another $500B spending jolt to the economy.
If someone flies over your home and air-drops a $600 check, then departs over the horizon, you treat the money as a one-time gift. It is, in all likelihood, going to be factored into this year's income and affect spending as an additional percent increase in annual earnings. For a couple earning just $60,000 per year, that's only 1%. Hardly enough to make a big difference, before factoring in a 'marginal propensity to consume,' to use Keynesian lingo.
If, instead, you are told that, effective with this tax year, and henceforth, your tax rates will be lower at each income level by a known amount, you have been given a permanent increase in income. In effect, the government, rather than your employer, has given you a raise.
This results in a much different perspective on the government's economic action. With a permanent earnings increase, more spending is likely. Spending which will also be permanent, resulting in a comparable and permanent expansion in business investment and spending to provide supply for the added consumer demand.
Professor Taylor ends his piece by noting,
"Some who promoted the first stimulus package have reacted to its failure by saying that we must now switch to large increases in government spending to stimulate demand. But government spending does not address the causes of the weak economy, which has been pulled down by a housing slump, a financial crisis and a bout of high energy prices, and where expectations of future income and employment growth are low.
The theory that a short-run government spending stimulus will jump-start the economy is based on old-fashioned, largely static Keynesian theories. These approaches do not adequately account for the complex dynamics of a modern international economy, or for expectations of the future that are now built into decisions in virtually every market."
So true.
For example, forget the hoary old Keynesian argument that, because governments run deficits, government "pump-priming" will have a greater impact on the economy than the same amount of money in consumers' hands, because consumers have a higher propensity to save than does the government. In Keynes' day, this may have worked, by assuming fixed exchange rates. Not anymore.
In the modern economic environment, large-scale government borrowing will push rates up and currency values down. Maybe not right away in today's context of financial panic, but eventually, it will.
Additionally, government spending of this sort is of the explicitly programmatic, or 'one-off' variety. Not so a permanent cut in tax rates.
So when we hear new plans for an even larger economic 'stimulus' package by Congress and the newly-elected President, you know the end result will be lower-than-expected and/or later-than-expected consumer spending, accompanied by, in time, higher interest rates on the ballooning Federal deficit.
Why don't the new powers in Washington shelve the added governmental spending plans and simply provide real tax rate cuts across all income levels, for both businesses and consumers?
Friday, November 28, 2008
The "Other" US Auto Makers
Last Thursday's November 20th Wall Street Journal contained an article entitled, "South Could Gain as Detroit Struggles."
The article begins,
"As Detroit's auto makers seek a government bailout, the resilience of their foreign rivals could vault the South to the forefront of the U.S. car industry.
Foreign makers have been lured to South Carolina, Alabama and other Southern states over the past decade by generous tax benefits and laws that make it easier to build a largely nonunion work force.
Foreign-owned car makers are adjusting to the sales slump with assembly lines that can make multiple models and labor rules that allow faster downsizing.
That labor flexibility has emerged as a key advantage during the industry downturn, allowing foreign-owned plants to rapidly downshift in ways their unionized U.S. competitors cannot. Looser work rules are allowing German automaker BMW AG to lay off up to 733 employees at its Greer, S.C., plant by the end of the year. And Toyota Motor Corp said Wednesday it plans to let go at least 250 people at a Georgetown, Ky., factory in the first quarter of 2009.
Such moves would be largely out of reach for the Big Three U.S. auto makers, which have been saddled with stricter labor rules as vehicle sales have plummeted. Union rules often guaranteed jobs for workers along with generous benefits and wages that surpass those of most other U.S. manufacturing sectors.
The foreign manufacturers -- which are also reaping benefits of advanced production lines and a more popular lineup of models -- are positioned to grab market share from domestic competitors when demand revives. "If the American car companies died, this is what would replace them," said Laurie Harbour-Felax, an auto industry consultant.
Michigan and Ohio are still dominant centers of U.S. vehicle making, producing more than 38% of all cars and trucks in 2007, but Southern states are making gains as foreign car makers add more plants in that part of the country. Four Southern states were responsible for 24% of U.S. production last year, according to Automotive News, a trade publication.
Volkswagen AG, Toyota and Kia Motors Corp., which collectively will benefit from more than $1 billion in government incentives, are pushing through the downturn to complete new factories in Tennessee, Mississippi, and Georgia.
Foreign makers, which currently operate eight plants in the South, have the firm support of many Southern legislators and governors, who have spent much of the past week giving high-profile denunciations of a Detroit bailout. They argue that buttressing ailing U.S. car companies would create unfair competition to foreign makers that have brought thousands of jobs and billions of dollars in investments to the region.
"We shouldn't reward bad business practices made by competitors to the company that is about to employ 2,500 workers coming to my district," said U.S. Rep. Lynn A. Westmoreland (R, Ga.) in an interview. Rep. Westmoreland represents the area around West Point, Ga., where Kia of Korea is building a $1 billion plant set to open next year. At the same time, General Motors Corp. closed a plant in September in Doraville, Ga., that employed 1,000."
I think this is the missing picture of the US auto sector that many in America overlook. And it's fair to say Wagoner, Mulally and Nardelli would like them to continue to overlook this Southern state auto manufacturing success.
Of course, this success looks different than the Detroit failure. It's non-union. And it's owned by auto makers whose headquarters are in other countries. But these plants still employ American workers. And drive economic prosperity in American towns and states.
The nearby map from the article is fascinating. To me, it shows the completion of the original US worker migration up the middle of the country from the South, Kentucky and Tennessee to Chicago and Detroit in the 1940s for war production.
Now, US manufacturing is thriving in the states that gave up population in that initial, largescale northern war and post-war industrialization.
So, when Michigan Senator Debbie Stabenow contends that to lose the Detroit Three auto makers is to lose US manufacturing, this picture shows how totally wrong she is. Simply put, she's lying.
Further paragraphs in the article discuss the economic realities of these Southern car manufacturers. It's not all sweetness and light, but you don't hear the local and state governments complaining,
"And in Vance, Ala., Daimler AG's Mercedes-Benz factory slowed one of its assembly lines, cut back shifts and offered buyouts to its 4,000 workers. The cutbacks are the most severe for Alabama since the state began attracting foreign car makers, but "flexibility has allowed them to manage their operations in a way that will make them competitive in the long term," said Steve Sewell, executive vice president of the Economic Development Partnership of Alabama.
After a 12% drop in sales in October, Toyota this week said it would suspend assembly work at all North American plants for two days in December and trim output at plants in Indiana, California and Kentucky. Though it could delay the 2010 startup of its $1.3 billion plant in Blue Springs, Miss., which will build the Prius hybrid vehicle instead of the Highlander SUV it was originally meant to produce, "we are committed to the project," said Mike Goss, a spokesman. "The concrete is poured and the roof and walls are up and the equipment has been ordered." "
These US states- Alabama, Mississippi, Georgia, South Carolina, Tennessee- are among those with the lowest incomes, educational levels, and economic opportunities. It is simple Schumpeterian dynamics that US jobs and economic manufacturing activity should flow to those areas most able to compete, and most in need of the opportunities.
Moreover, the fact that these states can provide the necessary labor at lower costs suggests just how unnecessary much of the self-proclaimed value the UAW union workers actually provide a modern auto manufacturer.
It's an eye-opening article and graphic presentation of the shifting sands of US auto production. Even a few billion dollars of uncollectable loans aren't going to change the long term economics of this picture.
Detroit is finished as a viable long term future home of significant US auto production.
Wednesday, November 26, 2008
Regarding Criticism of President Bush's Economic Team
President George Bush and his economic team have been getting all sorts of bad press for the past few months.
First it was Congressional Democrats and Presidential candidates all referring, with various riffs on the main theme, to 'failed economic policies' of the Bush years. And 'deregulation.'
Then, in the weeks since the election, there has been a sudden, mewling outpouring of sentiment that the newly-elected President 'will have a plan,' whereas the Bush administration's team have, to use words of a pundit I heard Monday morning,
'...been working weekends to contain financial market damage. You wonder what new event in financial markets will have occurred to greet you when you awake on any Monday morning.'
I think these criticisms, particularly the latter ones, widely miss the point of governmental action in the face of plummeting consumer or investor confidence and the early stages of a contagion among heretofore-untested linkages between abstruse financial instruments.
For example, I have had many discussions with experienced, educated friends, among whom is my business partner, regarding steps that 'should have' or 'could have' been taken as far back as August of 2007.
For example, my own perfect response, in retrospect, would have included:
-July, 2007: modify 'mark to market' valuation by executive order, in response to the two Bear Stearns' funds collapse due to failure to rollover debt of leveraged funds as the assets failed to find priceable markets.
-August, 2007: no Fed rate cuts, but an announcement of increased audits by all Federal oversight agencies with respect to mortgage loan paperwork, criteria, and loan performance status.
I contend that these two steps, and especially the first, would have avoided the worst of the vaporization of market-valued capital due to the senseless insistence that a lack of current market prices for held-to-term structured financial instruments, necessitated their near-total markdowns. This large-scale vaporization caused the hundreds of billions of dollars of bank asset writedowns, irrespective of the actual performance of the securities, which triggered the credit contraction and led to the ability of the CDS market to wreck AIG and the investment banks.
If these steps had not worked, I'd have preferred Treasury and the Fed to have begun an organized nationalization of the banking sector by early this year.
Most of my friends, however, believe such radical, early steps would have triggered even more panic and loss of confidence in financial markets. They contend that early, large-scale steps would have led to investors having a reaction something like,
'Oh my God! If Bernanke and Paulson are pulling out such radical, sector-shaping solutions NOW, this must be one of the worst financial/economic crises since the Great Depression!'
And, of course, amidst a Presidential election, the out-of-power party would have trumpeted precisely this message. Which it did, anyway, but with much less actual evidence.
As a result, it's clear that Bush, Paulson, Bernanke and Bair preferred to handle each new problem incrementally.
Once the lending functions has seized, as I discussed in this recent post,
"Since leverage, a function of debt, implies confidence in the future returns of loans placed with various enterprises, its unwinding corresponds to a loss of such confidence. The forced reduction in this leverage began, understandably, with the short-term borrowing instruments of both financial and non-financial instruments- commercial paper, most notably.
As this massive de-leveraging of fixed income instruments occurred, the simultaneous drop in real estate values and equity market values caused several consequences.
First, large-scale losses in US, and other nation's market, i.e., societal capital stocks, valued notionally, plunged. Those who previously owned the capital suffered large losses. In the US, the Treasury and Fed moved to support the Federally-registered banks via direct preferred equity purchases and, separately, takeovers of Fannie Mae, Freddie Mac and AIG."
Again, with each new institution's survival in doubt- Bear Stearns, Fannie, Freddie, AIG, Lehman, Merrill, WaMu, Wachovia, Citigroup- Bush's team moved to contain the damage a failure might create.
If, at any time, they had come forth with a stated list of criteria, upon which some action would be taken, you can be sure that large-scale investors, including hedge funds, would promptly take short positions in suspect firms, then drive the criteria over the trigger points, in order to reap their gains.
Anyone who fails to understand this, does not understand markets.
People who criticize Bush's team for 'having no plan,' fail to realize that, in financial markets, such a plan would only result in investors rushing to make the plan reality, while profiting on the downside from having done so.
Amity Schlaes and other researchers have noted that, without Hoover's tentative steps to lessen the damage from the financial market crash and resulting economic recession/depression in 1929-32, FDR could never have launched his massive, but ultimately failed socialistic agenda in 1932-38.
In that same sense, the newly-elected President's team has both an easy target at which to take shots, and a considerable base of effective actions on which to build, thanks to the Bush team's quick responses to each emerging shock in the financial markets during the past eighteen months.
I write 'effective,' because, as of the date of this post, we have avoided the actual rerun of the Great Crash and Depression.
Equity markets are not dead. Banks did not have a 'holiday.' An orderly liquidation of various weak institutions prevented an unchecked spread of loss of confidence in: money market funds, bank deposits, and commercial paper.
I'm quite sure, were the roles reversed, the incoming President would have acted with no more of a long-term plan to 'solve the crisis' than Bush has. Just like the current administration, you can bet that the newly-elected Democrat's team, too, would have acted step by step to minimize each new threat's effect on the nation's financial markets and banking system.
The fact is, unveiling an explicit plan, either last August, or now, to nationalize the banking system and provide a wholesale redesign of the US financial sector, while it is under threat of unraveling, is simply unrealistic.
Bush's team did a good job in an unforeseen, novel situation. And let's be clear, unless Hank Greenberg, Hank Paulson, John Thain or some other financial luminary is elected President, you can be sure that the sitting President is never the one dreaming up the solutions for our financial sector's ills.
This is one area where the President's role as CEO is paramount, in that s/he must wisely choose an effective, intelligent and experienced team of cabinet and other agency officials to advise her/him on what actions to take.
But don't think, for a second, that the incoming President has any more sense of what's going on in financial markets or the banking sector than does our current President, George Bush.
First it was Congressional Democrats and Presidential candidates all referring, with various riffs on the main theme, to 'failed economic policies' of the Bush years. And 'deregulation.'
Then, in the weeks since the election, there has been a sudden, mewling outpouring of sentiment that the newly-elected President 'will have a plan,' whereas the Bush administration's team have, to use words of a pundit I heard Monday morning,
'...been working weekends to contain financial market damage. You wonder what new event in financial markets will have occurred to greet you when you awake on any Monday morning.'
I think these criticisms, particularly the latter ones, widely miss the point of governmental action in the face of plummeting consumer or investor confidence and the early stages of a contagion among heretofore-untested linkages between abstruse financial instruments.
For example, I have had many discussions with experienced, educated friends, among whom is my business partner, regarding steps that 'should have' or 'could have' been taken as far back as August of 2007.
For example, my own perfect response, in retrospect, would have included:
-July, 2007: modify 'mark to market' valuation by executive order, in response to the two Bear Stearns' funds collapse due to failure to rollover debt of leveraged funds as the assets failed to find priceable markets.
-August, 2007: no Fed rate cuts, but an announcement of increased audits by all Federal oversight agencies with respect to mortgage loan paperwork, criteria, and loan performance status.
I contend that these two steps, and especially the first, would have avoided the worst of the vaporization of market-valued capital due to the senseless insistence that a lack of current market prices for held-to-term structured financial instruments, necessitated their near-total markdowns. This large-scale vaporization caused the hundreds of billions of dollars of bank asset writedowns, irrespective of the actual performance of the securities, which triggered the credit contraction and led to the ability of the CDS market to wreck AIG and the investment banks.
If these steps had not worked, I'd have preferred Treasury and the Fed to have begun an organized nationalization of the banking sector by early this year.
Most of my friends, however, believe such radical, early steps would have triggered even more panic and loss of confidence in financial markets. They contend that early, large-scale steps would have led to investors having a reaction something like,
'Oh my God! If Bernanke and Paulson are pulling out such radical, sector-shaping solutions NOW, this must be one of the worst financial/economic crises since the Great Depression!'
And, of course, amidst a Presidential election, the out-of-power party would have trumpeted precisely this message. Which it did, anyway, but with much less actual evidence.
As a result, it's clear that Bush, Paulson, Bernanke and Bair preferred to handle each new problem incrementally.
Once the lending functions has seized, as I discussed in this recent post,
"Since leverage, a function of debt, implies confidence in the future returns of loans placed with various enterprises, its unwinding corresponds to a loss of such confidence. The forced reduction in this leverage began, understandably, with the short-term borrowing instruments of both financial and non-financial instruments- commercial paper, most notably.
As this massive de-leveraging of fixed income instruments occurred, the simultaneous drop in real estate values and equity market values caused several consequences.
First, large-scale losses in US, and other nation's market, i.e., societal capital stocks, valued notionally, plunged. Those who previously owned the capital suffered large losses. In the US, the Treasury and Fed moved to support the Federally-registered banks via direct preferred equity purchases and, separately, takeovers of Fannie Mae, Freddie Mac and AIG."
Again, with each new institution's survival in doubt- Bear Stearns, Fannie, Freddie, AIG, Lehman, Merrill, WaMu, Wachovia, Citigroup- Bush's team moved to contain the damage a failure might create.
If, at any time, they had come forth with a stated list of criteria, upon which some action would be taken, you can be sure that large-scale investors, including hedge funds, would promptly take short positions in suspect firms, then drive the criteria over the trigger points, in order to reap their gains.
Anyone who fails to understand this, does not understand markets.
People who criticize Bush's team for 'having no plan,' fail to realize that, in financial markets, such a plan would only result in investors rushing to make the plan reality, while profiting on the downside from having done so.
Amity Schlaes and other researchers have noted that, without Hoover's tentative steps to lessen the damage from the financial market crash and resulting economic recession/depression in 1929-32, FDR could never have launched his massive, but ultimately failed socialistic agenda in 1932-38.
In that same sense, the newly-elected President's team has both an easy target at which to take shots, and a considerable base of effective actions on which to build, thanks to the Bush team's quick responses to each emerging shock in the financial markets during the past eighteen months.
I write 'effective,' because, as of the date of this post, we have avoided the actual rerun of the Great Crash and Depression.
Equity markets are not dead. Banks did not have a 'holiday.' An orderly liquidation of various weak institutions prevented an unchecked spread of loss of confidence in: money market funds, bank deposits, and commercial paper.
I'm quite sure, were the roles reversed, the incoming President would have acted with no more of a long-term plan to 'solve the crisis' than Bush has. Just like the current administration, you can bet that the newly-elected Democrat's team, too, would have acted step by step to minimize each new threat's effect on the nation's financial markets and banking system.
The fact is, unveiling an explicit plan, either last August, or now, to nationalize the banking system and provide a wholesale redesign of the US financial sector, while it is under threat of unraveling, is simply unrealistic.
Bush's team did a good job in an unforeseen, novel situation. And let's be clear, unless Hank Greenberg, Hank Paulson, John Thain or some other financial luminary is elected President, you can be sure that the sitting President is never the one dreaming up the solutions for our financial sector's ills.
This is one area where the President's role as CEO is paramount, in that s/he must wisely choose an effective, intelligent and experienced team of cabinet and other agency officials to advise her/him on what actions to take.
But don't think, for a second, that the incoming President has any more sense of what's going on in financial markets or the banking sector than does our current President, George Bush.
Dennis Berman's Bad Banking Idea In Yeseterday's WSJ
Dennis Berman, a writer for the Wall Street Journal, typically pens thoughtful, well-reasoned articles. A search of his name on this blog will provide several mentions, most notably this post on his excellent editorial concerning online social networking websites, here, from September of last year. When Berman and I agree, which is more rather than less often, he's usually confirming my earlier insights and conclusions.
Berman's piece in yesterday's Journal is an unusual exception. Entitled, "One Cure for Financial Mistrust: Create New Banks," is one of the worst columns I've ever read. By anyone. Frankly, coming from Berman, I am shocked. Here are the salient portions of his article,
"The financial system is in tatters. It is time to build from scratch.
One provocative, and perhaps inevitable, path is for the government to directly fund the formation of new banks. It could give incentives to private investors to form banks free from the taint of the old economic order.
The benefits of new banks are immediate. They could begin lending at once, freed from the worries of coming write-offs and off-balance-sheet shenanigans that have paralyzed Citigroup and others. They also would represent a psychological turning point, separating the future from our current period of panic. It is the kind of step that seems custom-made for President-elect Obama.
"What we need are new bankers, not new banks," says economic historian Richard Sylla of New York University.
It would, of course, be impossible to instantly duplicate the deposit base and infrastructure of large banks such as Citi or Bank of America. A new bank -- let's call it Hamilton Bank -- could take as long as a year to get off the ground, say bankers.
And there would be plenty of room for Andrew Jackson-style worry about new institutions, especially leverage ratios and management. Perhaps the best path would be to start with two or three government grubstakes of $10 billion, with the hope that private investors would push the capital base to $50 billion each. Leveraging that at a conservative ratio of six or seven times would form a group of solid medium-size banks for attracting deposits. The next step would be to provide incentives to private investors -- with, say, dollar-for-dollar matching sums or tax credits -- to start their own institutions.
Strict deadlines would be necessary to get the banks started quickly. And much like its recent preferred-stock investments, the government would sell its bank stakes over time, eventually returning the banks to private hands."
There are, in my opinion, several serious errors of fact, analysis and judgment in Berman's piece.
Let's begin with the simplest one. It's not at all difficult to start a commercial bank. The sheer number of small and medium-sized banks currently existing, and the large number of financial service consulting and software firms is all the evidence you need to understand this point.
Perhaps the most time-consuming task in beginning a bank from scratch is common to all retail businesses; choosing a site, building the structure, hiring and training employees. Everything else can basically be outsourced and bought turnkey or off the shelf- software, hardware, furnishings, etc. This alone tells you our problem is too many undifferentiated, badly-run banks, not too few.
As for new banks being free of old, bad loans and other purchased toxic waste, new banks are far from necessary to achieve this end. Treasury just used the TARP on Monday to do this for Citigroup, backstopping $306B of asset value. Whether it is formally spun into a separate entity now, or not, hardly matters. What does matter is that the Federal government, as the representative of our entire society, has begun to take possession of hundreds of billions of dollars of questionable assets, the better to free the inept banks which ended up with these assets to continue business without the burdens of their prior, enormous mistakes.
But the most important reason why Berman's idea is flawed involves management. Look at the collapse of Wachovia, Washington Mutual, and Citigroup. These were highly-regarded, large, seemingly-unassailable commercial banks.
If asset concentrations of such size were, in fact, susceptible to inept (mis)management and poor leadership, where are we to magically find new, green executives now suddenly capable of doing a better job? And with taxpayer money, to boot?
If anything, you should worry that Berman's new, small banks will run into massive trouble as the senior executives hurry to grow their new institutions as quickly as possible. This is precisely what led to our current troubles.
Instead, we need, if anything, to simplify the existing banking structures, without government backing, or encourage further concentration of them, with explicit governmental ownership, heavier regulation, and effective conversion of them to financial utilities.
In neither case does Berman's vision of pristine, newly-minted banks run by mystery CEOs with sterling credentials, experience and qualifications, fit the needs of an effective future US banking system.
Berman's piece in yesterday's Journal is an unusual exception. Entitled, "One Cure for Financial Mistrust: Create New Banks," is one of the worst columns I've ever read. By anyone. Frankly, coming from Berman, I am shocked. Here are the salient portions of his article,
"The financial system is in tatters. It is time to build from scratch.
One provocative, and perhaps inevitable, path is for the government to directly fund the formation of new banks. It could give incentives to private investors to form banks free from the taint of the old economic order.
The benefits of new banks are immediate. They could begin lending at once, freed from the worries of coming write-offs and off-balance-sheet shenanigans that have paralyzed Citigroup and others. They also would represent a psychological turning point, separating the future from our current period of panic. It is the kind of step that seems custom-made for President-elect Obama.
"What we need are new bankers, not new banks," says economic historian Richard Sylla of New York University.
It would, of course, be impossible to instantly duplicate the deposit base and infrastructure of large banks such as Citi or Bank of America. A new bank -- let's call it Hamilton Bank -- could take as long as a year to get off the ground, say bankers.
And there would be plenty of room for Andrew Jackson-style worry about new institutions, especially leverage ratios and management. Perhaps the best path would be to start with two or three government grubstakes of $10 billion, with the hope that private investors would push the capital base to $50 billion each. Leveraging that at a conservative ratio of six or seven times would form a group of solid medium-size banks for attracting deposits. The next step would be to provide incentives to private investors -- with, say, dollar-for-dollar matching sums or tax credits -- to start their own institutions.
Strict deadlines would be necessary to get the banks started quickly. And much like its recent preferred-stock investments, the government would sell its bank stakes over time, eventually returning the banks to private hands."
There are, in my opinion, several serious errors of fact, analysis and judgment in Berman's piece.
Let's begin with the simplest one. It's not at all difficult to start a commercial bank. The sheer number of small and medium-sized banks currently existing, and the large number of financial service consulting and software firms is all the evidence you need to understand this point.
Perhaps the most time-consuming task in beginning a bank from scratch is common to all retail businesses; choosing a site, building the structure, hiring and training employees. Everything else can basically be outsourced and bought turnkey or off the shelf- software, hardware, furnishings, etc. This alone tells you our problem is too many undifferentiated, badly-run banks, not too few.
As for new banks being free of old, bad loans and other purchased toxic waste, new banks are far from necessary to achieve this end. Treasury just used the TARP on Monday to do this for Citigroup, backstopping $306B of asset value. Whether it is formally spun into a separate entity now, or not, hardly matters. What does matter is that the Federal government, as the representative of our entire society, has begun to take possession of hundreds of billions of dollars of questionable assets, the better to free the inept banks which ended up with these assets to continue business without the burdens of their prior, enormous mistakes.
But the most important reason why Berman's idea is flawed involves management. Look at the collapse of Wachovia, Washington Mutual, and Citigroup. These were highly-regarded, large, seemingly-unassailable commercial banks.
If asset concentrations of such size were, in fact, susceptible to inept (mis)management and poor leadership, where are we to magically find new, green executives now suddenly capable of doing a better job? And with taxpayer money, to boot?
If anything, you should worry that Berman's new, small banks will run into massive trouble as the senior executives hurry to grow their new institutions as quickly as possible. This is precisely what led to our current troubles.
Instead, we need, if anything, to simplify the existing banking structures, without government backing, or encourage further concentration of them, with explicit governmental ownership, heavier regulation, and effective conversion of them to financial utilities.
In neither case does Berman's vision of pristine, newly-minted banks run by mystery CEOs with sterling credentials, experience and qualifications, fit the needs of an effective future US banking system.
Tuesday, November 25, 2008
Vikram Pandit's Failure At Citigroup
It's a measure of the abject failure of Vikram Pandit's reign as CEO at Citigroup for nearly a year that his most recent measures for fixing the ailing, failing bank, described here, just a week ago, have had the perverse impact of requiring a Federal rescue, as I described here, earlier today.
I wrote, in last week's post,
"Pandit clearly has no clear grasp on the severity of Citigroup's problems. He's been in the job nearly a year, yet look at the firm's performance, as seen in the third Yahoo-sourced chart.
Citigroup has declined by about 70%, while the S&P has lost a relatively modest, by comparison, 40% over the past twelve months.
Citigroup has declined by about 70%, while the S&P has lost a relatively modest, by comparison, 40% over the past twelve months.
Yet Pandit has offered nothing in the way of strategic change at Citigroup. It's entirely possible that, like Rick Wagoner's GM, Pandit's Citigroup won't make it long enough to see those 'future opportunities.'"
By Friday afternoon of last week, as seen in the nearby Yahoo-sourced 5-day price chart, his bank's equity price had fallen more than 50%, while his erstwhile-competitors of size, Chase, Wells Fargo and BofA, held steady with the S&P.
After yesterday's rescue announcement, Citigroup's equity popped back up to only a 20% loss since last week.
What's really amazing is this chart from today's Wall Street Journal article in the 'Heard On The Street' column. Citigroup isn't even in the top four of US banks by market capitalization any more. The almost-unheard of US Bancorp is now ahead of it.
Even newly-minted 'commercial' bank Goldman Sachs, a fraction of the employee and business volume size, is within $6B of Citigroup.The longer term view of Pandit's continued mismanagement of Citigroup, begun under Sandy Weill and left on autopilot by his successor, Chuck Prince, appears below. For the past year, Citigroup again underperforms its (now) larger, one-time rivals, having lost far more than 50% of its value in the timeframe.
Unfortunately, the only thing worse than Pandit's misguided actions at Citigroup- too little action, sans a strategy, too late- is the firm's do-nothing board. Headed by greatly-enriched, do-nothing non-executive chairman, Bob 'he started this mess' Rubin.
A more responsible board would not have handed this overwhelming job to Pandit in the first place. But, having done so, might have at least relieved him this summer, when it was clear he wasn't waking up to the fact that Citigroup is a simply unworkable conglomeration of businesses and assets. Failing that, they would use yesterday's rescue to end Pandit's reign of futility and clear the decks for someone to break the firm up into manageable chunks.As usual, don't hold your breath for that outcome. Instead, count on shareholders continuing to be punished for the board's inaction.
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