One year on from the month of the most severe equity market collapse in twenty years, financial regulatory reform seems to have hit a brick wall.
I wrote quite a few posts concerning financial regulatory reform over the past year. This one, among them, stands out as being concise and pretty exhaustive in its prescriptions. Of course, that post doesn't deal with federal government-initiated problems such as Fannie Mae and Freddie Mac being directed by Congress to securitize too-thinly capitalized, unseasoned adjustable rate mortgages. But, rereading it a year later, I'm still okay with it as a useful set of regulatory solutions.
The recent action has moved from industry competitors to the regulators. With the new administration, much hot air has been spewed arguing for, or against, empowering the Fed to be the single, omnipotent regulator.
Isn't it odd that none of these financial sector regulations have managed to be enacted in the past year? About all we have is income caps on the CEOs of bailed-out banks. Those which have repaid the forced 'loans,' such as Goldman Sachs, are back to paying large bonuses again.
But what of the development of exchanges for derivatives, so that a Bear Stearns of Lehman bankruptcy would no longer imperil long daisy chains of derivatives executions?
What of the packaging of questionable debt into collateralized obligations?
What of the GSE's pumping too-green, too-leveraged mortgage loans into their own securitized issuances?
How about the fact that the FDIC, Fed and OCC all missed what appear, in retrospect, to have been obvious inadequate mortgage loan documentation and/or improper lending to unqualified borrowers?
None of this has been resolved.
It's very curious and disturbing. Some of these regulatory steps would be very helpful in lowering the risk of a rerun of the mortgage lending bubble that did so much financial damage to the US financial sector and economy.
Why has nothing been done in the past year?
Friday, September 11, 2009
Thursday, September 10, 2009
Evidence On Government Spending & Recession Severity
Back on August 21st, the Wall Street Journal published an excellent economic editorial by Alan Reynolds entitled, "Big Government, Big Recession."
As is the case with quite a few of our less partisan economists, Reynolds directly contradicts liberal apologist Paul Krugman. He begins by providing the impetus for his research and resulting editorial,
‘So it seems that we aren’t going to have a second Great Depression after all,” wrote New York Times columnist Paul Krugman last week. “What saved us? The answer, basically, is Big Government. . . . [W]e appear to have averted the worst: utter catastrophe no longer seems likely. And Big Government, run by people who understand its virtues, is the reason why.”
In rebuttal, Reynolds writes,
"This is certainly a novel theory of the business cycle. To be taken seriously, however, any such explanation of recessions and recoveries must be tested against the facts. It is not enough to assert the U.S. economy would have experienced a "second Great Depression" were it not for the Obama stimulus plan.
Proponents of Big Government can't say we avoided the next Great Depression due to hypothetical stimulus money that is mostly unspent. So they argue it's more important that the federal government merely continued spending and didn't "slash" spending as in the early 1930s. But the federal government didn't slash spending in the early '30s. Federal spending rose by 6.2% in 1930, 7.7% in 1931 and 30.2% in 1932. Since prices were falling, real increases in federal spending were huge during the Hoover years.
President Obama clearly believes Big Government is the antidote to this and perhaps all recessions. At his first news conference in February, the president said, "The federal government is the only entity left with the resources to jolt our economy back to life." Yet that raises a key question: If the U.S. economy could not recover without a big "jolt" of deficit spending, then how did the economy recover from recessions in the distant past, when the federal government was very small?
A 1999 study in The Journal of Economic Perspectives by Christina Romer (now head of the Council of Economic Advisers) found that "real macroeconomic indicators have not become dramatically more stable between the pre-World War I and post-World War II eras, and recessions have become only slightly less severe." Ms. Romer also noted that "recessions have not become noticeably shorter" in the era of Big Government. In fact, she found the average length of recessions from 1887 to 1929 was 10.3 months. If the current recession ended in August, then the average postwar recession lasted one month longer—11.3 months. The longest recession from 1887 to 1929 lasted 16 months. But there have been three recessions since 1973 that lasted at least that long."
That's a pretty interesting nugget about Christine Romer, isn't it? Her own academic work concludes that the administration's so-called stimulus plan won't actually alleviate the current recession in any meaningful manner.
But Reynolds goes further,
"In the late 19th and early 20th centuries, nobody thought the government could or should do anything except stand aside and let the mistakes of business and banking be fixed by those who made them. There were no Keynesian plans to borrow and spend our way out of recessions. And bankers had no Federal Reserve to bail them out until 1913. Yet recessions after the Fed was created soon turned out to be much deeper than before (1920-21, 1929-33, 1937-38) and often more persistent.
It's clear that U.S. history does not support the theory that Big Government means shorter and milder recessions. In reality, recessions always ended without government prodding, long before anyone heard of Keynes and long before the Fed existed. What's more, recessions ended more quickly before the New Deal's push for Big Government than they have in the past three decades. The economy's natural recuperative powers before the 1930s proved superior to recent tinkering by Big Government economists, politicians and central bankers."
It's hard to argue with Reynolds, since he bases his conclusions on facts. But Reynolds, again, goes further, looking abroad,
"The chart nearby lists 13 major economies by the size of government spending relative to GDP using OECD figures for 2007 (the U.S. is well above 40% by 2009). Europe's big spenders are at the top, the U.S. and Japan are in the middle, and fiscally frugal countries like China and India are at the bottom.
The last column shows the change in real GDP over the most recent four quarters—ending in the second quarter for the U.S., U.K., Germany, Japan, France, Italy, Sweden and China, but the first for the rest. Four of the five deepest contractions happened in countries with the biggest governments—Sweden, Italy, Germany and the U.K. Japan's government spending in 2007 was about like ours, but Japan's tax rates are far more punitive and the economy has suffered endless "fiscal stimulus" packages. China's central government spent 22% of GDP, but 30%-plus with local government included.
To believe Big Government explains why this extremely long recession was not even longer, we need to find some connection between the size of government and the depth and duration of recessions. There is no such connection in U.S. history, or in recent cyclical experience of other countries."
Again, it's difficult to refute Reynolds' rebuttal of Krugman's emotional contention that only Big Government has saved us this year.
Reynolds then concludes his editorial,
"On the contrary, recessions have become longer as the U.S. government (and the Fed) became larger, more expensive, and more involved in the economy. Foreign countries in which government spending accounts for about half of the economy have also suffered the deepest recessions lately, while economic recovery is well established in countries where government spending is a smaller share of GDP than in the U.S.
In short, bigger government appears to produce only bigger and longer recessions."
Why do you suppose this is true? What is it about large-scale government intervention that causes recessions to be longer and deeper?
I would guess it is two factors.
The first is the distorting effect of government, which is to say, political meddling with price, demand and supply signals in an otherwise-free market for goods and services. Reading Amity Schlaes' excellent history of FDR's economic failure, "The Forgotten Man," brings home how destabilizing and distorting massive government economic intervention is. Investors hold back, worried about the shifting rules governing the context of their investments. Which industries will government punish or radically regulate next?
The second is the nature of recession-based government legislation. Typically, it involves two things- printing or borrowing large amounts of money on the citizens' behalf, and creating or enriching transfer payment schemes.
The first action leads to higher taxes, crowding-out of private investment, and higher interest rates down the road. None of which are necessarily healthy for the private sector, or a country, as a whole.
The second action slowly, inexorably overlays a drag on economic activity, as new claims on behalf of non-producers are made and collected by big government. This saps savings in order to transfer wealth to those who consume without creating value in the economy. This additional marginal tax, in the form of items like FICA, predictably depress marginal economic activity across many income levels.
These transfer payment schemes are rarely reduced or eliminated, so, over time, you probably have an accretion of this economic drag on productive private sector activity.
Seeing as how our federal government, in just a few months of this year, actually doubled US indebtedness from the time of our country's founding to December of last year, it's hard to see how this biggest of all governments can possibly be consistent with an imminent and robust economy recovery in the US.
As is the case with quite a few of our less partisan economists, Reynolds directly contradicts liberal apologist Paul Krugman. He begins by providing the impetus for his research and resulting editorial,
‘So it seems that we aren’t going to have a second Great Depression after all,” wrote New York Times columnist Paul Krugman last week. “What saved us? The answer, basically, is Big Government. . . . [W]e appear to have averted the worst: utter catastrophe no longer seems likely. And Big Government, run by people who understand its virtues, is the reason why.”
In rebuttal, Reynolds writes,
"This is certainly a novel theory of the business cycle. To be taken seriously, however, any such explanation of recessions and recoveries must be tested against the facts. It is not enough to assert the U.S. economy would have experienced a "second Great Depression" were it not for the Obama stimulus plan.
Proponents of Big Government can't say we avoided the next Great Depression due to hypothetical stimulus money that is mostly unspent. So they argue it's more important that the federal government merely continued spending and didn't "slash" spending as in the early 1930s. But the federal government didn't slash spending in the early '30s. Federal spending rose by 6.2% in 1930, 7.7% in 1931 and 30.2% in 1932. Since prices were falling, real increases in federal spending were huge during the Hoover years.
President Obama clearly believes Big Government is the antidote to this and perhaps all recessions. At his first news conference in February, the president said, "The federal government is the only entity left with the resources to jolt our economy back to life." Yet that raises a key question: If the U.S. economy could not recover without a big "jolt" of deficit spending, then how did the economy recover from recessions in the distant past, when the federal government was very small?
A 1999 study in The Journal of Economic Perspectives by Christina Romer (now head of the Council of Economic Advisers) found that "real macroeconomic indicators have not become dramatically more stable between the pre-World War I and post-World War II eras, and recessions have become only slightly less severe." Ms. Romer also noted that "recessions have not become noticeably shorter" in the era of Big Government. In fact, she found the average length of recessions from 1887 to 1929 was 10.3 months. If the current recession ended in August, then the average postwar recession lasted one month longer—11.3 months. The longest recession from 1887 to 1929 lasted 16 months. But there have been three recessions since 1973 that lasted at least that long."
That's a pretty interesting nugget about Christine Romer, isn't it? Her own academic work concludes that the administration's so-called stimulus plan won't actually alleviate the current recession in any meaningful manner.
But Reynolds goes further,
"In the late 19th and early 20th centuries, nobody thought the government could or should do anything except stand aside and let the mistakes of business and banking be fixed by those who made them. There were no Keynesian plans to borrow and spend our way out of recessions. And bankers had no Federal Reserve to bail them out until 1913. Yet recessions after the Fed was created soon turned out to be much deeper than before (1920-21, 1929-33, 1937-38) and often more persistent.
It's clear that U.S. history does not support the theory that Big Government means shorter and milder recessions. In reality, recessions always ended without government prodding, long before anyone heard of Keynes and long before the Fed existed. What's more, recessions ended more quickly before the New Deal's push for Big Government than they have in the past three decades. The economy's natural recuperative powers before the 1930s proved superior to recent tinkering by Big Government economists, politicians and central bankers."
It's hard to argue with Reynolds, since he bases his conclusions on facts. But Reynolds, again, goes further, looking abroad,
"The chart nearby lists 13 major economies by the size of government spending relative to GDP using OECD figures for 2007 (the U.S. is well above 40% by 2009). Europe's big spenders are at the top, the U.S. and Japan are in the middle, and fiscally frugal countries like China and India are at the bottom.
The last column shows the change in real GDP over the most recent four quarters—ending in the second quarter for the U.S., U.K., Germany, Japan, France, Italy, Sweden and China, but the first for the rest. Four of the five deepest contractions happened in countries with the biggest governments—Sweden, Italy, Germany and the U.K. Japan's government spending in 2007 was about like ours, but Japan's tax rates are far more punitive and the economy has suffered endless "fiscal stimulus" packages. China's central government spent 22% of GDP, but 30%-plus with local government included.
To believe Big Government explains why this extremely long recession was not even longer, we need to find some connection between the size of government and the depth and duration of recessions. There is no such connection in U.S. history, or in recent cyclical experience of other countries."
Again, it's difficult to refute Reynolds' rebuttal of Krugman's emotional contention that only Big Government has saved us this year.
Reynolds then concludes his editorial,
"On the contrary, recessions have become longer as the U.S. government (and the Fed) became larger, more expensive, and more involved in the economy. Foreign countries in which government spending accounts for about half of the economy have also suffered the deepest recessions lately, while economic recovery is well established in countries where government spending is a smaller share of GDP than in the U.S.
In short, bigger government appears to produce only bigger and longer recessions."
Why do you suppose this is true? What is it about large-scale government intervention that causes recessions to be longer and deeper?
I would guess it is two factors.
The first is the distorting effect of government, which is to say, political meddling with price, demand and supply signals in an otherwise-free market for goods and services. Reading Amity Schlaes' excellent history of FDR's economic failure, "The Forgotten Man," brings home how destabilizing and distorting massive government economic intervention is. Investors hold back, worried about the shifting rules governing the context of their investments. Which industries will government punish or radically regulate next?
The second is the nature of recession-based government legislation. Typically, it involves two things- printing or borrowing large amounts of money on the citizens' behalf, and creating or enriching transfer payment schemes.
The first action leads to higher taxes, crowding-out of private investment, and higher interest rates down the road. None of which are necessarily healthy for the private sector, or a country, as a whole.
The second action slowly, inexorably overlays a drag on economic activity, as new claims on behalf of non-producers are made and collected by big government. This saps savings in order to transfer wealth to those who consume without creating value in the economy. This additional marginal tax, in the form of items like FICA, predictably depress marginal economic activity across many income levels.
These transfer payment schemes are rarely reduced or eliminated, so, over time, you probably have an accretion of this economic drag on productive private sector activity.
Seeing as how our federal government, in just a few months of this year, actually doubled US indebtedness from the time of our country's founding to December of last year, it's hard to see how this biggest of all governments can possibly be consistent with an imminent and robust economy recovery in the US.
Wednesday, September 09, 2009
The Evolution of the US Economy 1980-2010
Back in late July, I wrote this post contrasting the economic punditry and outlooks of several well-known observers, i.e., Alan Blinder, Dick Hoey and Mortimer Zuckerman. My own conclusion was expressed as follows,
"Who's right?
Personally, I'd put my money on Zuckerman. Leaving aside that Dick Hoey was a fixed income manager back in the day, and his BONY/Mellon/Dreyfus bio doesn't exactly laud him as an economic Nobel Laureate, I don't think Hoey is sufficiently observant of the real differences in the effects of the recent recession on the US labor force from those of recessions prior to 1992."
I continued with this observation,
"That so-called 'jobless recovery' may well have marked a turning point for the US economy which has not yet been captured in various models and adequately observed by pundits-cum-economists like Hoey. Or even Alan Blinder.
Prior to the 1991-92 recession and recovery, you are looking back to 1982-83, the early Reagan years, now very nearly thirty years ago. For perspective, was the 1960 economy different from that of 1930? Very much so. And the 1980 economy was so radically different from that of 1950, thanks to electronics and technological advances in communications as to make forecasting the former with models of the latter seem laughable.
I suspect that's what is happening now. Those analysts and economists harking back to the early 1980s and using conventional models with estimates of consumer spending and labor growth have missed some important transformations in the US economy of 2009."
These passages were what I was referring to in this post of last Friday, when I wrote,
"I personally believe, as I've written in a prior post, that many economists are using inappropriate models and assumptions from over 25 years ago. Models and assumptions which are tied to a different type of economy and workforce than we now have. As such, I don't think they are correctly accounting for today's business IT allowing for previously-unimagined control of overheads and inventories.
If economic recovery is based upon expectations of inventory rebuilds, I just think that's overly optimistic for the next few quarters."
Apparently I thought about this topic a great deal more than wrote about it. Thus, this post.
Though not an economist, as a trained marketing professional, I have been involved with quantitative behavioral modeling and analysis for decades. And, thanks to my business degrees, I've had more economics than most business students, in addition to which, I continually stay abreast of economic thought and opinion in the major business media.
Currently, I believe that what macroeconomic modelling still exists, after the approach lost so much credibility in its early applications forty years ago, remains out of step with our modern US economy.
For starters, the SIC codes were, and are, the underpinnings of most sector-based forecasting. These are now hopelessly outdated.
Employment statistics are warped, thanks to the rise of subchapter-S and LLC entities. This has also served to obscure incomes, as business income for many entrepreneurs now appears on 1040s, rather than corporate returns.
Finally, the entire nature of business operations, being now so heavily dependent upon, and benefiting from computer-based management tools, has changed from 30 years ago.
As an observer who understands economics and business, I find myself wondering just how we can accept economists' references to the jobless recovery from the 1991-92 recession, without explanations as to how this phenomenon has been incorporated into current models.
It's important to know whether economists consider the 1991-92 recession an aberration, or a new paradigm.
A reader commented on my post of last Friday, taking a shorter term, more narrow view of individual recent IT spending by companies. What I meant by my comments in that post was that business has been improving operational information availability for nearly 30 years, with the arrival of the personal computer in 1980. When I was with Andersen Consulting in the mid-1990s, client/server projects were booming, and a sort of internal internet, LotusNotes, was being applied at individual firms.
It's safe to say that business communications and information movement has changed more dramatically and functionally from 1980-2010 than from 1930-1960, or from 1960-1990.
Specifically, the recent period has smoothed supply chain management between companies, so that the holy grail of goods-producing companies, inventory management that is as synchronous with retail sales as possible, has come a lot closer to reality.
Now add to this the rise of outsourcing, both onshore and offshore, and you have corporate employment becoming less sensitive to production volumes. Employment at suppliers becomes more volatile, but those jobs tend to be lower-compensated than the ones they replaced at the larger corporations.
Now add to this mix the public consuming business and markets information via free cable networks, such as CNBC or CNN. Today's consumer can view the reaction of institutional investment managers to some obscure report, previously unknown to consumers, such as durable goods orders, or employment reports, in real time.
Thus, consumer spending and confidence are able to be affected nearly immediately by financial market reactions, which affect the wealth of consumers via asset prices in their various investment accounts.
We probably have a tighter-, faster-linked series of economic phenomena which affect each other as inputs and outputs of information, goods and money flow, than ever before. Certainly far more than thirty years ago.
Is it any wonder that you see employment levels less responsive to economic recoveries in recent decades? Or spending and saving rates affected by generally-available unemployment information?
It is simply stunning to me to read yesterday's Wall Street Journal piece wherein a number of financial pundits were opining on how fast and robust the deep "V-shaped" recovery is going to be.
How do they account for the lack of re-employment of so many recently-unemployed? The defaulting and delinquent home loans? The coming commercial mortgage loan delinquencies and defaults?
Yes, any, or even several of these, in moderation, can be accommodated by a vibrant, recovering economy. But this last recession was, is, different. The scale and breadth of its effects have left conventional financing sources weak and unable to profitably lend at current rates.
There is so much about this recent economic recession, in concert with a financial collapse, that is different from anything the US has experienced in the past 30 years that it's simply difficult for me to trust pundits who rely on conventional econometric models to forecast that the 'usual' recovery has begun, and will surprise us all.
"Who's right?
Personally, I'd put my money on Zuckerman. Leaving aside that Dick Hoey was a fixed income manager back in the day, and his BONY/Mellon/Dreyfus bio doesn't exactly laud him as an economic Nobel Laureate, I don't think Hoey is sufficiently observant of the real differences in the effects of the recent recession on the US labor force from those of recessions prior to 1992."
I continued with this observation,
"That so-called 'jobless recovery' may well have marked a turning point for the US economy which has not yet been captured in various models and adequately observed by pundits-cum-economists like Hoey. Or even Alan Blinder.
Prior to the 1991-92 recession and recovery, you are looking back to 1982-83, the early Reagan years, now very nearly thirty years ago. For perspective, was the 1960 economy different from that of 1930? Very much so. And the 1980 economy was so radically different from that of 1950, thanks to electronics and technological advances in communications as to make forecasting the former with models of the latter seem laughable.
I suspect that's what is happening now. Those analysts and economists harking back to the early 1980s and using conventional models with estimates of consumer spending and labor growth have missed some important transformations in the US economy of 2009."
These passages were what I was referring to in this post of last Friday, when I wrote,
"I personally believe, as I've written in a prior post, that many economists are using inappropriate models and assumptions from over 25 years ago. Models and assumptions which are tied to a different type of economy and workforce than we now have. As such, I don't think they are correctly accounting for today's business IT allowing for previously-unimagined control of overheads and inventories.
If economic recovery is based upon expectations of inventory rebuilds, I just think that's overly optimistic for the next few quarters."
Apparently I thought about this topic a great deal more than wrote about it. Thus, this post.
Though not an economist, as a trained marketing professional, I have been involved with quantitative behavioral modeling and analysis for decades. And, thanks to my business degrees, I've had more economics than most business students, in addition to which, I continually stay abreast of economic thought and opinion in the major business media.
Currently, I believe that what macroeconomic modelling still exists, after the approach lost so much credibility in its early applications forty years ago, remains out of step with our modern US economy.
For starters, the SIC codes were, and are, the underpinnings of most sector-based forecasting. These are now hopelessly outdated.
Employment statistics are warped, thanks to the rise of subchapter-S and LLC entities. This has also served to obscure incomes, as business income for many entrepreneurs now appears on 1040s, rather than corporate returns.
Finally, the entire nature of business operations, being now so heavily dependent upon, and benefiting from computer-based management tools, has changed from 30 years ago.
As an observer who understands economics and business, I find myself wondering just how we can accept economists' references to the jobless recovery from the 1991-92 recession, without explanations as to how this phenomenon has been incorporated into current models.
It's important to know whether economists consider the 1991-92 recession an aberration, or a new paradigm.
A reader commented on my post of last Friday, taking a shorter term, more narrow view of individual recent IT spending by companies. What I meant by my comments in that post was that business has been improving operational information availability for nearly 30 years, with the arrival of the personal computer in 1980. When I was with Andersen Consulting in the mid-1990s, client/server projects were booming, and a sort of internal internet, LotusNotes, was being applied at individual firms.
It's safe to say that business communications and information movement has changed more dramatically and functionally from 1980-2010 than from 1930-1960, or from 1960-1990.
Specifically, the recent period has smoothed supply chain management between companies, so that the holy grail of goods-producing companies, inventory management that is as synchronous with retail sales as possible, has come a lot closer to reality.
Now add to this the rise of outsourcing, both onshore and offshore, and you have corporate employment becoming less sensitive to production volumes. Employment at suppliers becomes more volatile, but those jobs tend to be lower-compensated than the ones they replaced at the larger corporations.
Now add to this mix the public consuming business and markets information via free cable networks, such as CNBC or CNN. Today's consumer can view the reaction of institutional investment managers to some obscure report, previously unknown to consumers, such as durable goods orders, or employment reports, in real time.
Thus, consumer spending and confidence are able to be affected nearly immediately by financial market reactions, which affect the wealth of consumers via asset prices in their various investment accounts.
We probably have a tighter-, faster-linked series of economic phenomena which affect each other as inputs and outputs of information, goods and money flow, than ever before. Certainly far more than thirty years ago.
Is it any wonder that you see employment levels less responsive to economic recoveries in recent decades? Or spending and saving rates affected by generally-available unemployment information?
It is simply stunning to me to read yesterday's Wall Street Journal piece wherein a number of financial pundits were opining on how fast and robust the deep "V-shaped" recovery is going to be.
How do they account for the lack of re-employment of so many recently-unemployed? The defaulting and delinquent home loans? The coming commercial mortgage loan delinquencies and defaults?
Yes, any, or even several of these, in moderation, can be accommodated by a vibrant, recovering economy. But this last recession was, is, different. The scale and breadth of its effects have left conventional financing sources weak and unable to profitably lend at current rates.
There is so much about this recent economic recession, in concert with a financial collapse, that is different from anything the US has experienced in the past 30 years that it's simply difficult for me to trust pundits who rely on conventional econometric models to forecast that the 'usual' recovery has begun, and will surprise us all.
Tuesday, September 08, 2009
Terry McGraw's New Problems At S&P
A little over a year ago, amidst the then-year-old unraveling of mortgage-backed securities which decimated the US banking industry, I wrote this post concerning Terry McGraw's push for growth at his Standard & Poors, McGraw-Hill's rating agency unit.
Now a case is moving through US courts that could spell the beginning of the payback by S&P and McGraw-Hill for its cavalier approach to ratings over the past few years. The Wall Street Journal covered it last week, and I noted to myself, upon reading the article, that it could spell disaster for the firm.
This morning, CNBC had McGraw-Hill CEO Terry McGraw on to defend the company's position. And Terry didn't disappoint. He claimed that the judge had tossed several charges on first amendment bases, and that only one remained, so the company was in great shape.
Ah, not so fast, Terry.
In a move calculated to boost ratings, which is understandable, the program then aired a telephone interview with occasional guest host and periodic guest, Greenlight Capital hedge fund manager David Einhorn.
Einhorn, though far from perfect, is noted for having correctly shorted Lehman last year, publicly dueling with its CFO and questioning the now-defunct firm's valuation of various real estate assets on its balance sheet.
Einhorn confirmed on the air this morning that his fund has shorted McGraw Hill's stock. He went on to give a very detailed explanation of how, in his opinion, Terry McGraw's prior defense was incorrect and overly-optimistic.Basically, the case boils down to this. Publicly-available ratings by agencies are deemed 'protected speech' under the first amendment. You can't sue S&P for their public rating of a bond or CMO issue. Even if it was obviously, in retrospect, flawed and poorly-determined.
However, the case in question involves S&P providing ratings opinions on securities to a non-public investing group. This, the court found, is not protected speech. Thus, possible charges could involve fraud.
Einhorn stressed that S&P has never, in the past, had to worry about being sued for its opinion. The fact that this is now about to happen is a watershed event for it, and its competitors, Moody's and Fitch. He opined that other suits will likely now follow, especially if S&P loses this case.
Then there is the question of damages. Einhorn noted that none of the ratings agencies, similar to what occurred with MBIA's under-reserved financial situation, have the financial depth to actually pay damages on fraudulently-rated securities.
As the 5-year price chart for MHP and the S&P500 Index reveals, Terry McGraw's company has struggled for most of the past five years simply to remain comparable to the index. For the past two years, since late 2007, when the ratings mess began to become public, it's basically been underperforming the index.
It's a decent bet that any serious legal problems at S&P are going to really put pressure on the firm's performance, and maybe, in time, Terry's job. After all, per my post of last August, he was running S&P on a pretty thin funding stream while pushing for massively greater profits and volumes from the unit.
It looks like that strategy is now coming home to roost at the firm, in the form of the investor lawsuit based on the private securitized bonds ratings.
Friday, September 04, 2009
Today's Employment Report
This morning's employment report information provided the headline news that unemployment has now risen to 9.7%.
A little over a month ago, I wrote this piece, comparing the economic outlooks of several well-known pundits. In particular, I focused on Mort Zuckerman's views, which I happen to share,
"Then we have a very detailed, persuasive editorial in last Tuesday's Journal, written by Mort Zuckerman. In his piece, the chairman of US News & World Report, and head of Boston Properties, dwells almost exclusively on the under-representative current unemployment rate of 9.5%.
Zuckerman lists 10 separate, but related points, all of which provide evidence that the demand side of the economy, via consumer spending, will almost certainly be much lower in the next few years than most pundits, analysts and economists realize.
Among his points, Zuckerman cites: underemployed, those no longer even looking for work, workers 'employed' but on unpaid leave, part-time workers who were once full-time, shorter work weeks among the employed, a 65% capacity utilization at US factories, and, finally, the longest average length of official unemployment- 24.5 weeks- since this data item has been tracked back in 1948.
For good measure, Zuckerman adds that low consumer confidence and high debt levels have increased the savings rate which will, of course, dampen any subsequent recovery, as the consumer's 'marginal propensity to consume' will be much lower than in recent years. He laments that now, when a truly job-creating, infrastructure-building federal spending bill would help, it's too late. That's because $787B was allocated for what has been, to date, largely increases in Medicare and other state-based transfer payment programs.
In effect, Zuckerman would conclude that people like Bank of New York's Hoey mistakenly believe that there will be sufficient consumer demand to justify rebuilding inventories, building new cars and houses."
This morning, with the release of the unemployment numbers, CNBC had a brief 'discussion' among some pundits and their usual non-pundit, senior economic idiot Steve Liesman.
Bob Barberra was actually bullish, believing that some rather innocuous elements of the data indicated a recovery was already well underway. Mark Zandi, an economist with S&P, disagreed, but in a manner so subtle that one really had to pay close attention to catch it.
Zandi closed his remarks by noting that, with such high unemployment, some of the hopeful signs others noted, such as hours worked or weekly income, weren't all that significant. Instead, Zandi expressed the view that the still-increasing unemployment rate was going to overwhelm those modest signs of some added consumer spending power.
Rick Santelli closed his own comments by noting that the 9.7% topline unemployment rate would be the headline news for the day and weekend.
I went back to my post concerning Zuckerman's piece to remind myself of something I've only seen him illuminate. That is, much of the continuing unemployment data simply defines away, or omits, the fact that the report's perspective excludes certain classes of the unemployed who no longer look for work, and miscounts or under-represents those effectively now on part-time schedules.
One thing is sure, though. The immensely expensive "stimulus" bill passed early this year has done nothing to mitigate the continued rise in unemployment. We don't yet know for certain whether an economic recovery is underway, but there are collateral signs that it is not.
For example, in today's Wall Street Journal, there is an article detailing the unexpected deterioration of the financial condition of consumer borrowers once rated as prime. Their mortgage and credit card debt is growing delinquent at a faster pace now than subprime loans are continuing to deteriorate.
It doesn't take much logic to see this hitting bank earnings and capital, causing another round of private-sector financial shrinkage. Not to mention dampening consumer demand and affecting consumer sentiment.
I personally believe, as I've written in a prior post, that many economists are using inappropriate models and assumptions from over 25 years ago. Models and assumptions which are tied to a different type of economy and workforce than we now have. As such, I don't think they are correctly accounting for today's business IT allowing for previously-unimagined control of overheads and inventories.
If economic recovery is based upon expectations of inventory rebuilds, I just think that's overly optimistic for the next few quarters.
A little over a month ago, I wrote this piece, comparing the economic outlooks of several well-known pundits. In particular, I focused on Mort Zuckerman's views, which I happen to share,
"Then we have a very detailed, persuasive editorial in last Tuesday's Journal, written by Mort Zuckerman. In his piece, the chairman of US News & World Report, and head of Boston Properties, dwells almost exclusively on the under-representative current unemployment rate of 9.5%.
Zuckerman lists 10 separate, but related points, all of which provide evidence that the demand side of the economy, via consumer spending, will almost certainly be much lower in the next few years than most pundits, analysts and economists realize.
Among his points, Zuckerman cites: underemployed, those no longer even looking for work, workers 'employed' but on unpaid leave, part-time workers who were once full-time, shorter work weeks among the employed, a 65% capacity utilization at US factories, and, finally, the longest average length of official unemployment- 24.5 weeks- since this data item has been tracked back in 1948.
For good measure, Zuckerman adds that low consumer confidence and high debt levels have increased the savings rate which will, of course, dampen any subsequent recovery, as the consumer's 'marginal propensity to consume' will be much lower than in recent years. He laments that now, when a truly job-creating, infrastructure-building federal spending bill would help, it's too late. That's because $787B was allocated for what has been, to date, largely increases in Medicare and other state-based transfer payment programs.
In effect, Zuckerman would conclude that people like Bank of New York's Hoey mistakenly believe that there will be sufficient consumer demand to justify rebuilding inventories, building new cars and houses."
This morning, with the release of the unemployment numbers, CNBC had a brief 'discussion' among some pundits and their usual non-pundit, senior economic idiot Steve Liesman.
Bob Barberra was actually bullish, believing that some rather innocuous elements of the data indicated a recovery was already well underway. Mark Zandi, an economist with S&P, disagreed, but in a manner so subtle that one really had to pay close attention to catch it.
Zandi closed his remarks by noting that, with such high unemployment, some of the hopeful signs others noted, such as hours worked or weekly income, weren't all that significant. Instead, Zandi expressed the view that the still-increasing unemployment rate was going to overwhelm those modest signs of some added consumer spending power.
Rick Santelli closed his own comments by noting that the 9.7% topline unemployment rate would be the headline news for the day and weekend.
I went back to my post concerning Zuckerman's piece to remind myself of something I've only seen him illuminate. That is, much of the continuing unemployment data simply defines away, or omits, the fact that the report's perspective excludes certain classes of the unemployed who no longer look for work, and miscounts or under-represents those effectively now on part-time schedules.
One thing is sure, though. The immensely expensive "stimulus" bill passed early this year has done nothing to mitigate the continued rise in unemployment. We don't yet know for certain whether an economic recovery is underway, but there are collateral signs that it is not.
For example, in today's Wall Street Journal, there is an article detailing the unexpected deterioration of the financial condition of consumer borrowers once rated as prime. Their mortgage and credit card debt is growing delinquent at a faster pace now than subprime loans are continuing to deteriorate.
It doesn't take much logic to see this hitting bank earnings and capital, causing another round of private-sector financial shrinkage. Not to mention dampening consumer demand and affecting consumer sentiment.
I personally believe, as I've written in a prior post, that many economists are using inappropriate models and assumptions from over 25 years ago. Models and assumptions which are tied to a different type of economy and workforce than we now have. As such, I don't think they are correctly accounting for today's business IT allowing for previously-unimagined control of overheads and inventories.
If economic recovery is based upon expectations of inventory rebuilds, I just think that's overly optimistic for the next few quarters.
Thursday, September 03, 2009
What Does The FDIC's Need For Backstopping Imply For America's Financial Power?
Dennis Berman wrote an interesting piece in Tuesday's Wall Street Journal concerning the current cries abroad- yet again- for an end to the role of the US dollar as the international reserve currency.
I've read these pieces for over 20 years now, and, until now, I have always considered them wishful thinking on the part of foreign economic wannabes.
Berman even included the comments of one academic who continues to label this desire wishful thinking.
But there are developments in the US domestic economic and financial situation which could well herald the final coming to feasibility of these calls for an end to US 'economic hegemony.'
For me, they became more thought-provoking and sobering with the recent spate of articles calling attention to, of all things, the FDIC insurance fund's near depletion.
Of all the FDR-era New Deal programs, the FDIC may well be the first to officially crater. And this marks, I believe, a very differential milestone of a very troubling sort for US economic power.
Why? Why this one somewhat innocuous program, rather than, say, Medicare, Social Security or Medicaid?
Precisely because, while those latter three are explicit social wealth transfer payment schemes, the FDIC program was designed to be a private business-funded insurance program to prevent a repeat of the 1930's era bank collapses which caused depositors' funds to simply evaporate.
That Sheila Bair may have to call on Treasury to write a check to replenish this bank sector-financed program is deeply worrying to me. It means that federal regulatory ineptitude has caused the bank deposits insurance program obligations to have outrun its resources, making this promise essentially empty.
Since the US has an outstanding deficit, any funds lent to the FDIC from Treasury must, given money's fungibility, be borrowed from the financial markets. Thus, the promise to safeguard consumer bank deposits- and money market balances, too- is being financed with borrowing.
There is nothing "there" anymore. The deposit insurance promise will now simply be dependent upon market funding appetites.
This was always supposed to be a federally-designed and -managed scheme whereby private commercial banks paid insurance premiums to be used to guarantee the consumer deposits of banks which were declared bankrupt and seized.
Now, the premiums and their income have been overwhelmed by bank failures. The program hasn't worked, although it took some 70 years to occur. Whether the rate was too low, or FDIC bank closures too lenient, poor design and/or mismanagement has resulted in this program failing.
If a privately-financed, government-run scheme from the New Deal era has failed, what is one to imagine has occurred with government-financed, government-run schemes? Because government-financed is now just another term for borrowed funding.
I suspect the longer term implications for the looming FDIC fund insolvency is going to be skyrocketing interest rates on US debt and a consequent impoverishment of Americans due to the gradual, practical, if long term aversion to dollar-denominated obligations by the rest of the world.
Everyone understands government borrowing for impractical social schemes. But when a US private sector-funded program is seen to become unaffordable, it has to call into question the soundness, creativity, ingenuity and superiority of the now-crippled American capitalistic system for wealth creation.
What once was the envy of the world as an economic wealth-creation engine has been severely damaged over the past several years. Perhaps, now, we are seeing, sufficiently seriously to make the rest of the world's investors finally doubt the once-accepted truism that America is the best country for wealth creation on the globe.
I've read these pieces for over 20 years now, and, until now, I have always considered them wishful thinking on the part of foreign economic wannabes.
Berman even included the comments of one academic who continues to label this desire wishful thinking.
But there are developments in the US domestic economic and financial situation which could well herald the final coming to feasibility of these calls for an end to US 'economic hegemony.'
For me, they became more thought-provoking and sobering with the recent spate of articles calling attention to, of all things, the FDIC insurance fund's near depletion.
Of all the FDR-era New Deal programs, the FDIC may well be the first to officially crater. And this marks, I believe, a very differential milestone of a very troubling sort for US economic power.
Why? Why this one somewhat innocuous program, rather than, say, Medicare, Social Security or Medicaid?
Precisely because, while those latter three are explicit social wealth transfer payment schemes, the FDIC program was designed to be a private business-funded insurance program to prevent a repeat of the 1930's era bank collapses which caused depositors' funds to simply evaporate.
That Sheila Bair may have to call on Treasury to write a check to replenish this bank sector-financed program is deeply worrying to me. It means that federal regulatory ineptitude has caused the bank deposits insurance program obligations to have outrun its resources, making this promise essentially empty.
Since the US has an outstanding deficit, any funds lent to the FDIC from Treasury must, given money's fungibility, be borrowed from the financial markets. Thus, the promise to safeguard consumer bank deposits- and money market balances, too- is being financed with borrowing.
There is nothing "there" anymore. The deposit insurance promise will now simply be dependent upon market funding appetites.
This was always supposed to be a federally-designed and -managed scheme whereby private commercial banks paid insurance premiums to be used to guarantee the consumer deposits of banks which were declared bankrupt and seized.
Now, the premiums and their income have been overwhelmed by bank failures. The program hasn't worked, although it took some 70 years to occur. Whether the rate was too low, or FDIC bank closures too lenient, poor design and/or mismanagement has resulted in this program failing.
If a privately-financed, government-run scheme from the New Deal era has failed, what is one to imagine has occurred with government-financed, government-run schemes? Because government-financed is now just another term for borrowed funding.
I suspect the longer term implications for the looming FDIC fund insolvency is going to be skyrocketing interest rates on US debt and a consequent impoverishment of Americans due to the gradual, practical, if long term aversion to dollar-denominated obligations by the rest of the world.
Everyone understands government borrowing for impractical social schemes. But when a US private sector-funded program is seen to become unaffordable, it has to call into question the soundness, creativity, ingenuity and superiority of the now-crippled American capitalistic system for wealth creation.
What once was the envy of the world as an economic wealth-creation engine has been severely damaged over the past several years. Perhaps, now, we are seeing, sufficiently seriously to make the rest of the world's investors finally doubt the once-accepted truism that America is the best country for wealth creation on the globe.
Wednesday, September 02, 2009
Daniel Yergin On The Future of Oil
Daniel Yergin, the esteemed oil analyst, wrote a wonderful editorial in Monday's Wall Street Journal. In it, he reminded us why oil, for all its problems, will still be with us as the world's dominant energy source, for some time to come. Meaning decades.
He noted, in his piece,
"Why this debate about the single most important source of energy—and a very convenient one—that provides 40% of the world's total energy? There are the traditional concerns—energy security, diversification, political risk, and the potential for conflict among nations over resources. The huge shifts in global income flows raise anxieties about the possible impact on the global balance of power. Some worry that physical supply will run out, although examination of the world's resource base—including a new analysis of over 800 oil fields—shows ample physical resources below ground. The politics above ground is a separate question.
But two new factors are now fueling the debate. One is the way in which oil has taken on a second identity. It is no longer only a physical commodity. It has also become a financial asset, along with stocks, bonds, currencies and the rest of the world's financial portfolio. The resulting price volatility—from less than $40 in 2004, to as high as $147.27 in July 2008, back down to $32.40 in December 2008, and now back over $70—has enormous consequences, and not only at the gas station and in terms of public anger. It makes it much more difficult to plan future energy investments, whether in oil and gas or in renewable and alternative fuels. And it can have enormous economic impact; Detroit was sent reeling by what happened at the gas pump in 2007 and 2008 even before the credit crisis. Such volatility can fuel future recessions and inflation."
So much for two key reasons why Americans might wish for oil to be less important than it is. But then Yergin goes on to analyze the likelihood of such change,
"But are big cuts in world oil usage possible? Both the U.S. Department of Energy and the International Energy Agency project that global energy use will increase almost 50% between 2006 and 2030—with oil still providing 30% or more of the world's energy.
The reason is something else that is new—the globalization of demand. No longer are the growth markets for petroleum to be found in North America, Western Europe and Japan. The United States has already hit "peak gasoline demand."
The demand growth has now shifted, massively, to the fast-growing emerging markets—China, India and the Middle East. Between 2000 and 2007, 85% of the growth in world oil demand was in the developing world. This shift continues: This year, more new cars have been sold in China than in the United States. When economic recovery takes hold, what happens in emerging countries will be the defining factor in the path for overall consumption.
There are two obvious ways to temper demand growth—either roll back economic growth, or find new technologies. The former is not acceptable. Thus, the answer has to lie in technology. The challenge is to find alternatives to oil that can be economically competitive—and convenient and reliable—at the massive scale required."
Yet, whatever the breakthroughs, the actual impact on fuel use for the next 20 years will be incremental due to the time it takes to get large-scale mass production up and running and the massive scale of the global auto industry.
My firm, IHS CERA, projects that with aggressive sales volumes and no major bumps in the road (unusual for new technologies), plug-in hybrids and pure electric vehicles could constitute 25% of new car sales by 2030. But because of the slow turn-over of the overall fleet, gasoline consumption would be reduced only modestly below what it would otherwise be. Thereafter, of course, the impact could grow, perhaps very substantially.
But, in the U.S., at least for the next two decades, greater efficiency in the internal combustion engine, advanced diesels, and regular hybrids, combined with second-generation biofuels and new lighter materials, would have a bigger impact sooner. There is, however, a global twist. If small, low-cost electric vehicles really catch on in the auto growth markets in Asia, that would certainly lower the global growth curve for future oil demand."
Again, Yergin points out that developments in, well, the developing countries, e.g., India and China, will have more impact on oil demand than will what happens onshore in America. Precisely because of our mature demand for automobiles, any new, rapid incursion by electrically-powered vehicles won't likely happen in the US. I am presuming that Yergin believes that any draconian federal action to mandate against new gasoline-powered cars will simply result in Americans holding on to the ones they already have for longer, thus further increasing average vehicle life, and reducing turnover. Especially at current prices for electric vehicles, and the non-existent infrastructure for recharging them.
He noted, in his piece,
"Why this debate about the single most important source of energy—and a very convenient one—that provides 40% of the world's total energy? There are the traditional concerns—energy security, diversification, political risk, and the potential for conflict among nations over resources. The huge shifts in global income flows raise anxieties about the possible impact on the global balance of power. Some worry that physical supply will run out, although examination of the world's resource base—including a new analysis of over 800 oil fields—shows ample physical resources below ground. The politics above ground is a separate question.
But two new factors are now fueling the debate. One is the way in which oil has taken on a second identity. It is no longer only a physical commodity. It has also become a financial asset, along with stocks, bonds, currencies and the rest of the world's financial portfolio. The resulting price volatility—from less than $40 in 2004, to as high as $147.27 in July 2008, back down to $32.40 in December 2008, and now back over $70—has enormous consequences, and not only at the gas station and in terms of public anger. It makes it much more difficult to plan future energy investments, whether in oil and gas or in renewable and alternative fuels. And it can have enormous economic impact; Detroit was sent reeling by what happened at the gas pump in 2007 and 2008 even before the credit crisis. Such volatility can fuel future recessions and inflation."
So much for two key reasons why Americans might wish for oil to be less important than it is. But then Yergin goes on to analyze the likelihood of such change,
"But are big cuts in world oil usage possible? Both the U.S. Department of Energy and the International Energy Agency project that global energy use will increase almost 50% between 2006 and 2030—with oil still providing 30% or more of the world's energy.
The reason is something else that is new—the globalization of demand. No longer are the growth markets for petroleum to be found in North America, Western Europe and Japan. The United States has already hit "peak gasoline demand."
The demand growth has now shifted, massively, to the fast-growing emerging markets—China, India and the Middle East. Between 2000 and 2007, 85% of the growth in world oil demand was in the developing world. This shift continues: This year, more new cars have been sold in China than in the United States. When economic recovery takes hold, what happens in emerging countries will be the defining factor in the path for overall consumption.
There are two obvious ways to temper demand growth—either roll back economic growth, or find new technologies. The former is not acceptable. Thus, the answer has to lie in technology. The challenge is to find alternatives to oil that can be economically competitive—and convenient and reliable—at the massive scale required."
Mr. Yergin has basically alerted us to the fact that the marginal uses of oil will now be determined by other countries, not the US. Our own management of demand no longer will determine world prices.
Zeroing in on oil's role in energy even further, Yergin observes,
"For oil, the focus is on transportation. After all, only 2% of America's electricity is generated by oil. Until recently, it appeared that the race between the electric car and the gasoline-powered car had been decided a century ago, with a decisive win by the gasoline-powered car on the basis of cost and performance. But the race is clearly on again.Yet, whatever the breakthroughs, the actual impact on fuel use for the next 20 years will be incremental due to the time it takes to get large-scale mass production up and running and the massive scale of the global auto industry.
My firm, IHS CERA, projects that with aggressive sales volumes and no major bumps in the road (unusual for new technologies), plug-in hybrids and pure electric vehicles could constitute 25% of new car sales by 2030. But because of the slow turn-over of the overall fleet, gasoline consumption would be reduced only modestly below what it would otherwise be. Thereafter, of course, the impact could grow, perhaps very substantially.
But, in the U.S., at least for the next two decades, greater efficiency in the internal combustion engine, advanced diesels, and regular hybrids, combined with second-generation biofuels and new lighter materials, would have a bigger impact sooner. There is, however, a global twist. If small, low-cost electric vehicles really catch on in the auto growth markets in Asia, that would certainly lower the global growth curve for future oil demand."
Again, Yergin points out that developments in, well, the developing countries, e.g., India and China, will have more impact on oil demand than will what happens onshore in America. Precisely because of our mature demand for automobiles, any new, rapid incursion by electrically-powered vehicles won't likely happen in the US. I am presuming that Yergin believes that any draconian federal action to mandate against new gasoline-powered cars will simply result in Americans holding on to the ones they already have for longer, thus further increasing average vehicle life, and reducing turnover. Especially at current prices for electric vehicles, and the non-existent infrastructure for recharging them.
He closes with this passage,
"As to the next 150 years of petroleum, we can hardly even begin to guess. For the next 20 years at least, the unfolding economic saga in emerging markets will continue to make oil a global growth business."
Daniel Yergin doesn't write in the Journal very often, but he never disappoints with the quality and focus of his insights. In this editorial, he reminds us, with factual support, why oil will be powering American vehicles for the next several decades. And why, regardless of our energy policies for the next few years, other countries will have greater impact on the larger issues of vehicular power sources than will Americans for the future.
It puts the current federal government preoccupation with energy policy, cap-and-tax, and other related matters in a whole new light, doesn't it?
If you thought those initiatives were misguided and pointless before, you probably are even more convinced of that position after reading Yergin's thoughts.
Tuesday, September 01, 2009
Earnings vs. Revenues
Sometimes I have difficulty believing how simple and shallow business writers can be. Even at the Wall Street Journal.
Monday's edition carried a Money & Investing Section lead article seriously discussing whether the recent equity market rally, founded upon the belief of an economic recovery, can be sustained on profit increases without concomitant revenue growth.
Duh.
There's no discussion here. The answer is a resounding, absolute "NO."
In my proprietary research on large-cap equities over several decades, I discovered that there is a large and clear-cut fault line between those companies which can grow revenues, and those which cannot.
The latter exist, and some can actually consistently outperform the S&P500 Index for several years at a time. In the past, Colgate's Ruben Mark did this for about a decade- the longest of any slow/no-growth company which I observed.
But, due to the lack of revenue growth, Colgate's margin of total return over the S&P was only a few percentage points per annum. Far, far below the average total return that the most consistent high revenue-growth companies achieved.
It's a stunningly simple theoretical argument which is borne out in empirical results.
While revenue growth allows all of the rest of the income statement, and, thus, balance sheet, to grow at a rapid clip, revenue stagnation or shrinkage does the reverse.
You can't cut 100% of operating expenses. Neither overhead, nor direct labor or materials. It's a long walk on a short pier.
Thus, without steady growth in consumer demand, low-/no-growth companies will quickly reach the end of what gains are feasible using only cost-cutting. After that, margins are pretty much purely a function of volume.
Monday's edition carried a Money & Investing Section lead article seriously discussing whether the recent equity market rally, founded upon the belief of an economic recovery, can be sustained on profit increases without concomitant revenue growth.
Duh.
There's no discussion here. The answer is a resounding, absolute "NO."
In my proprietary research on large-cap equities over several decades, I discovered that there is a large and clear-cut fault line between those companies which can grow revenues, and those which cannot.
The latter exist, and some can actually consistently outperform the S&P500 Index for several years at a time. In the past, Colgate's Ruben Mark did this for about a decade- the longest of any slow/no-growth company which I observed.
But, due to the lack of revenue growth, Colgate's margin of total return over the S&P was only a few percentage points per annum. Far, far below the average total return that the most consistent high revenue-growth companies achieved.
It's a stunningly simple theoretical argument which is borne out in empirical results.
While revenue growth allows all of the rest of the income statement, and, thus, balance sheet, to grow at a rapid clip, revenue stagnation or shrinkage does the reverse.
You can't cut 100% of operating expenses. Neither overhead, nor direct labor or materials. It's a long walk on a short pier.
Thus, without steady growth in consumer demand, low-/no-growth companies will quickly reach the end of what gains are feasible using only cost-cutting. After that, margins are pretty much purely a function of volume.
It's pretty simple. There's no need for a long article or hopeful conjecture.
No, the equity rally of the past few months will not survive another quarter of no revenue growth.
Monday, August 31, 2009
Cerberus Restructures
It took a few years, but private equity group Cerberus' investments in Chrysler and GMAC have finally come home to roost in a big way.
So big that the group was forced to offer its investors an option to exit the their Cerberus positions. According to the weekend edition of the Wall Street Journal, slightly over 70% of investor assets, some $5.5B, are being redeemed.
I wrote two posts, here and here, back in May of 2007 and January of 2008, concerning Cerberus' purchase of Chrysler, then some early performance signs after the buyout. Even that far back, I was sceptical that Cerberus could refine gold out of the dross that had and has become the third-ranked US-based car maker.
Looks like I was correct in my belief that Chrysler was just too far gone to be viable, even if my expectation that high interest rates would eventually be the firm's undoing. Cerberus didn't choke on high interest rates for its highly-leveraged play for Chrysler and GMAC but, instead, failed due to an inability to simply raise private capital for them.
As I mentioned in the May, 2007 post, there's something decidedly ironic and telling about the Schumpeterian aspect of Cerberus' failures. Just because something is cheap doesn't mean it's attractive.
The industry structure of automobile manufacturing has been problematic for at least a decade. Barriers to entry are low, wages in foreign countries require extremely productive US operations if those costs are to be offset, and increasing numbers of subsystems have become outsourced, making auto "manufacturing" more a case of auto "assembly."
Cerberus' senior managers do seem to have become overly-confident and foolishly optimistic. Now, they and their investors are paying a heavy price.
It's pretty eye-opening that more than 2/3 of their investors are going to beat a path out of Cerberus, assuming the private equity group goes ahead with its restructuring plans. That surely is a vote of no confidence whatsoever in the group's ability to both rescue its current slate of investments, and do a better job choosing future ones.
I can't say that I blame those investors. Cerberus has shown an appallingly-bad habit recently of buying mediocre, or worse, properties and being unable to handle them as market conditions deteriorated. This is supposed to be the strong suit of private equity, and, in that, Cerberus has failed.
So big that the group was forced to offer its investors an option to exit the their Cerberus positions. According to the weekend edition of the Wall Street Journal, slightly over 70% of investor assets, some $5.5B, are being redeemed.
I wrote two posts, here and here, back in May of 2007 and January of 2008, concerning Cerberus' purchase of Chrysler, then some early performance signs after the buyout. Even that far back, I was sceptical that Cerberus could refine gold out of the dross that had and has become the third-ranked US-based car maker.
As one would have guessed, Cerberus' investments in the two entities were zeroed out when the private equity group went to the federal government for a rescue.
Looks like I was correct in my belief that Chrysler was just too far gone to be viable, even if my expectation that high interest rates would eventually be the firm's undoing. Cerberus didn't choke on high interest rates for its highly-leveraged play for Chrysler and GMAC but, instead, failed due to an inability to simply raise private capital for them.
As I mentioned in the May, 2007 post, there's something decidedly ironic and telling about the Schumpeterian aspect of Cerberus' failures. Just because something is cheap doesn't mean it's attractive.
The industry structure of automobile manufacturing has been problematic for at least a decade. Barriers to entry are low, wages in foreign countries require extremely productive US operations if those costs are to be offset, and increasing numbers of subsystems have become outsourced, making auto "manufacturing" more a case of auto "assembly."
Cerberus' senior managers do seem to have become overly-confident and foolishly optimistic. Now, they and their investors are paying a heavy price.
It's pretty eye-opening that more than 2/3 of their investors are going to beat a path out of Cerberus, assuming the private equity group goes ahead with its restructuring plans. That surely is a vote of no confidence whatsoever in the group's ability to both rescue its current slate of investments, and do a better job choosing future ones.
I can't say that I blame those investors. Cerberus has shown an appallingly-bad habit recently of buying mediocre, or worse, properties and being unable to handle them as market conditions deteriorated. This is supposed to be the strong suit of private equity, and, in that, Cerberus has failed.
Friday, August 28, 2009
Going Green Goes Bust: Ethanol Businesses In Crisis
Back in late 2007, I wrote this post concerning Congress and energy policy. In that piece, I quoted an article which read, in part,
In its efforts to set the U.S. on the road toward energy independence, Congress may be constructing a detour.The House and Senate have passed separate energy bills and are now working on combining the two into final legislation that could come up for a vote by the end of the year.Both bills are designed to lessen American reliance on foreign oil, in part by mandating far greater use of corn-based ethanol and so-called cellulosic ethanol, which is made from biomass like grasses and wood chips. The Senate bill also calls for higher fuel-economy standards.Here's the catch: Anything that creates uncertainty about demand for gasoline over the long term means less incentive for refiners in the U.S. to expand their capacity. And that means greater reliance on gasoline imports in the near term, at least until ethanol becomes a mainstream fuel. And that, of course, is the opposite of energy independence."
It was thus with some amusement that I read an article in yesterday's Wall Street Journal entitled, "Turmoil in Biofuels Threatens Green Energy Revolution."
Without going into massive detail, the piece notes that several factors have recently coincided to derail the holy grail of replacing oil with ethanol-based fuels for transportation.
Specifically, oil's price decline to the neighborhood of $70/barrel, and a global recession, have completely changed the assumptions initially governing the US government's alternative energy subsidies.
Thus, many of the once-touted green energy initiatives are going bankrupt. Ethanol isn't being produced in the quantities imagined only two years ago.
One of the howlers is that the sanctimonious Silicon Valley mogul, Vinod Khosla, unwittingly backed a scam in which Cello Energy of Alabama produced fuel from conventional petroleum sources and claimed it was green-based. A rather damning passage in the Journal's piece states,
"This year, Khosla representatives took samples of diesel produced at the new Cello plant and sent them off for testing. The results showed no evidence of plant-based fuel: Carbon in the diesel was at least 50,000 years old, marking it as traditional fossil fuel. The EPA wasn't told about the test, and continued to rely on Mr. Boykin's original claims when it asserted in the Federal Register in May that Cello could produce 70% of the cellulosis fuel targets set by Congress that are due to take effect next year."
One other rather comic effect of the biofuel producers' sudden financial woes is the looming prospect of a government bailout of this new sector. Because the current administration made alternative energy such a showcase issue, it may be politically necessary for this third major bailout. It's ironic, of course, because it was thanks to government mandates and subsidies that anyone took this form of energy production seriously in the first place.
I love economics in part because it can't be fooled. Governments can subsidize and legislate to distort returns and costs. But even such actions have costs, and these, too, have to be borne by voters. Eventually, horrendously expensive, wasteful government programs become apparent.
Some, like the dairy and sugar industries' shameful subsidies, continue because the costs/consumer are so small, while the benefits/producer are so large.
But in the case of alternative energy, there are huge new investments and uncertain scaling up of new energy production technologies. And, of course, as the Journal article notes, we still have the distressing fact that if all current US vegetable and animal fat output were used to produce ethanol, it would provide only 7% of diesel fuel used in the country.
The economics are simply against long-term usage of large amounts of vegetable-based energy. It's not as powerful per unit of volume as petroleum, and never will be. You could more easily and efficiently liquefy coal than you can convert foodstuffs into transportation fuel.
Perhaps in this recent era of federal bailouts and massive deficits, the green energy sector will be one too many sectors to save. Especially as it may not be well-enough established to have the political clout on its own to sway federal legislators.
In its efforts to set the U.S. on the road toward energy independence, Congress may be constructing a detour.The House and Senate have passed separate energy bills and are now working on combining the two into final legislation that could come up for a vote by the end of the year.Both bills are designed to lessen American reliance on foreign oil, in part by mandating far greater use of corn-based ethanol and so-called cellulosic ethanol, which is made from biomass like grasses and wood chips. The Senate bill also calls for higher fuel-economy standards.Here's the catch: Anything that creates uncertainty about demand for gasoline over the long term means less incentive for refiners in the U.S. to expand their capacity. And that means greater reliance on gasoline imports in the near term, at least until ethanol becomes a mainstream fuel. And that, of course, is the opposite of energy independence."
It was thus with some amusement that I read an article in yesterday's Wall Street Journal entitled, "Turmoil in Biofuels Threatens Green Energy Revolution."
Without going into massive detail, the piece notes that several factors have recently coincided to derail the holy grail of replacing oil with ethanol-based fuels for transportation.
Specifically, oil's price decline to the neighborhood of $70/barrel, and a global recession, have completely changed the assumptions initially governing the US government's alternative energy subsidies.
Thus, many of the once-touted green energy initiatives are going bankrupt. Ethanol isn't being produced in the quantities imagined only two years ago.
One of the howlers is that the sanctimonious Silicon Valley mogul, Vinod Khosla, unwittingly backed a scam in which Cello Energy of Alabama produced fuel from conventional petroleum sources and claimed it was green-based. A rather damning passage in the Journal's piece states,
"This year, Khosla representatives took samples of diesel produced at the new Cello plant and sent them off for testing. The results showed no evidence of plant-based fuel: Carbon in the diesel was at least 50,000 years old, marking it as traditional fossil fuel. The EPA wasn't told about the test, and continued to rely on Mr. Boykin's original claims when it asserted in the Federal Register in May that Cello could produce 70% of the cellulosis fuel targets set by Congress that are due to take effect next year."
One other rather comic effect of the biofuel producers' sudden financial woes is the looming prospect of a government bailout of this new sector. Because the current administration made alternative energy such a showcase issue, it may be politically necessary for this third major bailout. It's ironic, of course, because it was thanks to government mandates and subsidies that anyone took this form of energy production seriously in the first place.
I love economics in part because it can't be fooled. Governments can subsidize and legislate to distort returns and costs. But even such actions have costs, and these, too, have to be borne by voters. Eventually, horrendously expensive, wasteful government programs become apparent.
Some, like the dairy and sugar industries' shameful subsidies, continue because the costs/consumer are so small, while the benefits/producer are so large.
But in the case of alternative energy, there are huge new investments and uncertain scaling up of new energy production technologies. And, of course, as the Journal article notes, we still have the distressing fact that if all current US vegetable and animal fat output were used to produce ethanol, it would provide only 7% of diesel fuel used in the country.
The economics are simply against long-term usage of large amounts of vegetable-based energy. It's not as powerful per unit of volume as petroleum, and never will be. You could more easily and efficiently liquefy coal than you can convert foodstuffs into transportation fuel.
Perhaps in this recent era of federal bailouts and massive deficits, the green energy sector will be one too many sectors to save. Especially as it may not be well-enough established to have the political clout on its own to sway federal legislators.
Thursday, August 27, 2009
Citigroup's Recent Performance
I recently witnessed a discussion of Citigroup's recent total return, and whether it was now a legitimate investment vehicle. I can't recall the exact timeframe, but the price change cited was something like +300% or more.
Being curious, I produced the nearby Yahoo-sourced price charts for the ailing, government-owned bank and the S&P500 Index prices for the past 6 months and 2 years.For the former, Citi's return looks to have been about +150% since early April. From the 2-year chart, it's clear that the low was prior to that, in March, which would boost that return a bit.
But looking back only through early this year requires an investor to have been engaging in speculation and market-timing.
The 2-year chart, more to my preference in terms of duration, shows the S&P to be a far superior investment, with Citigroup losing between 70% and 80% of its value. Additionally, with a background of the prior two years, the last few months don't look quite so stunning.To me, Citigroup's recent performance is all too typical of the many companies capable of beating the S&P by a wide margin for any single year. The causes of such returns can be many, but I learned years ago, from my proprietary performance research, that one year of outsized total return performance does not an investment make.
That's why I look over a longer term. It's just not statistically significant to look at one-year, or less-than-one-year returns and pronounce a company to be a desirable investment.
Between the government's continued ownership of much of Citigroup, and the overall weakness in both business and consumer lending, plus the largely-intact, dismal management team at Citigroup, I'd stay far away from the company as a candidate for consistently outperforming the S&P for the next few years.
Wednesday, August 26, 2009
Ben Keeps His Job!
The big news yesterday was that Ben Bernanke was nominated to a second term as Fed Chairman.
Of course, the pundits were running wild on air and, today, in print.
But it probably all boils down to what one observer noted in a discussion on CNBC yesterday morning.
Basically, he opined that if Obama had nominated Larry Summers, and the economy didn't straighten out flawlessly, or anything else unexpectedly bad occurred in the financial sector, then the administration would own the result. Period.
This way, the president can try to cling to some last vestige of the prior administration, blaming them and then-, and still-Fed Chairman Bernanke for the mess. The logic is that Ben can stay to clean up the mess that occurred on his watch, with no new problems interjected by the new administration via a new Chairman.
It's a sensible explanation. And, God knows, Bernanke has prostrated himself humbly, and reflated the economy massively, in order to secure that reappointment.
Personally, I'm of the opinion that, because it's a nomination for the Fed Chairman, whether a "renomination," or not, Obama will still own the results.
If bad, one could argue that he should have changed horses from the guy who let things spin so badly out of control through, at the very least, a failure of the Fed's bank oversight function.
But, the die is cast. It would be unlikely, and a very important signal, if a Democratic Senate doesn't confirm Bernanke to another term.
The wait is over. Now, perhaps we'll see the hard work begin- raising interest rates and draining excessive liquidity from the US and worldwide economies.
Of course, the pundits were running wild on air and, today, in print.
But it probably all boils down to what one observer noted in a discussion on CNBC yesterday morning.
Basically, he opined that if Obama had nominated Larry Summers, and the economy didn't straighten out flawlessly, or anything else unexpectedly bad occurred in the financial sector, then the administration would own the result. Period.
This way, the president can try to cling to some last vestige of the prior administration, blaming them and then-, and still-Fed Chairman Bernanke for the mess. The logic is that Ben can stay to clean up the mess that occurred on his watch, with no new problems interjected by the new administration via a new Chairman.
It's a sensible explanation. And, God knows, Bernanke has prostrated himself humbly, and reflated the economy massively, in order to secure that reappointment.
Personally, I'm of the opinion that, because it's a nomination for the Fed Chairman, whether a "renomination," or not, Obama will still own the results.
If bad, one could argue that he should have changed horses from the guy who let things spin so badly out of control through, at the very least, a failure of the Fed's bank oversight function.
But, the die is cast. It would be unlikely, and a very important signal, if a Democratic Senate doesn't confirm Bernanke to another term.
The wait is over. Now, perhaps we'll see the hard work begin- raising interest rates and draining excessive liquidity from the US and worldwide economies.
Tuesday, August 25, 2009
Martin Feldstein On Rationing Health Care
Martin Feldstein wrote a scathing piece in last Wednesday's Wall Street Journal concerning "ObamaCare."
I found Dr. Feldstein's piece particularly illuminating because he noted an important fact which I had heretofore not realized,
"Although administration officials are eager to deny it, rationing health care is central to President Barack Obama's health plan.
One reason the Obama administration is prepared to use rationing to limit health care is to rein in the government's exploding health-care budge. Government now pays for nearly half of all health care in the U.S., primarily through the Medicare and Medicaid programs. The White House predicts that the aging of the population and the current trend in health-care spending per beneficiary would cause government outlays for Medicare and Medicaid to rise to 15% of GDP by 2040 from 6% now. Paying those bills without raising taxes would require cutting other existing social spending programs and shelving the administration's plans for new government transfers and spending programs."
Thus, a flawed approach to government-sponsored medical care from the 1960s haunts us today.
Thank you, LBJ and the Democratic Congress of that era. Logically, Feldstein observes that this wouldn't be a problem, were government to reduce its role in health care funding,
"The rising cost of medical treatments would not be such a large burden on future budgets if the government reduced its share in the financing of health services. Raising the existing Medicare and Medicaid deductibles and coinsurance would slow the growth of these programs without resorting to rationing. Physicians and their patients would continue to decide which tests and other services they believe are worth the cost.
There is, of course, no reason why limiting outlays on Medicare and Medicaid requires cutting health services for the rest of the population. The idea that they must be cut in parallel is just an example of misplaced medical egalitarianism."
Again, Feldstein's logic is sharp and unerring. Why do all of us who pay for our own health insurance and medical care have to suffer just because government is bungling the management of health care for the poor and/or elderly?
Next, Dr. Feldstein attacks the tax-preferenced nature of privately-funded health care,
"While an extra $100 paid to someone who earns $45,000 a year will provide only about $60 of after-tax spendable cash, the employer could instead use that $100 to pay $100 of health-insurance premiums for that same individual. It is therefore not surprising that employers and employees have opted for very generous health insurance with very low copayment rates.
Since a typical 20% copayment rate means that an extra dollar of health services costs the patient only 20 cents at the time of care, patients and their doctors opt for excessive tests and other inappropriately expensive forms of care. The evidence on health-care demand implies that the current tax rules raise private health-care spending by as much as 35%.
The best solution to this problem of private overconsumption of health services would be to eliminate the tax rule that is causing the excessive insurance and the resulting rise in health spending. Alternatively, Congress could strengthen the incentives in the existing law for health savings accounts with high insurance copayments. Either way, the result would be more cost-conscious behavior that would lower health-care spending.
But unlike reductions in care achieved by government rationing, individuals with different preferences about health and about risk could buy the care that best suits their preferences. While we all want better health, the different choices that people make about such things as smoking, weight and exercise show that there are substantial differences in the priority that different people attach to health.
Rationing is bad policy. It forces individuals with different preferences to accept the same care. It also imposes an arbitrary cap on the future growth of spending instead of letting it evolve in response to changes in technology, tastes and income. In my judgment, rationing would be much worse than excessive care."
Thus, Feldstein provides a coherent, sensible, exhaustive economic basis for rejecting the proposed universal, single-payer health care system, and, instead, fixing the current mess by correcting tax-based biases, allowing those who can afford to buy their own health care to do so without suffering due to government funding problems for the poor.
Finally, he reminds us, as the good economist that he is, of the target which we should not fail to keep in sight,
"Those who worry about too much health care cite the Congressional Budget Office's prediction that health-care spending could rise to 30% of GDP in 2035 from 16% now. But during that 25-year period, GDP will rise to about $24 trillion from $14 trillion, implying that the GDP not spent on health will rise to $17 billion in 2035 from $12 billion now. So even if nothing else comes along to slow the growth of health spending during the next 25 years, there would still be a nearly 50% rise in income to spend on other things."
The national economy, if left to grow as it has in the past, will provide income to allow people to afford more health care, should they choose that as a spending option.
A key part of the solution, though, is to quite making government the ultimate payer for all health care, thus requiring rationing of public spending on private health matters, and allowing each person to choose their own health care options using their own money, or that which the public has decided to allot to them.
I found Dr. Feldstein's piece particularly illuminating because he noted an important fact which I had heretofore not realized,
"Although administration officials are eager to deny it, rationing health care is central to President Barack Obama's health plan.
One reason the Obama administration is prepared to use rationing to limit health care is to rein in the government's exploding health-care budge. Government now pays for nearly half of all health care in the U.S., primarily through the Medicare and Medicaid programs. The White House predicts that the aging of the population and the current trend in health-care spending per beneficiary would cause government outlays for Medicare and Medicaid to rise to 15% of GDP by 2040 from 6% now. Paying those bills without raising taxes would require cutting other existing social spending programs and shelving the administration's plans for new government transfers and spending programs."
Thus, a flawed approach to government-sponsored medical care from the 1960s haunts us today.
Thank you, LBJ and the Democratic Congress of that era. Logically, Feldstein observes that this wouldn't be a problem, were government to reduce its role in health care funding,
"The rising cost of medical treatments would not be such a large burden on future budgets if the government reduced its share in the financing of health services. Raising the existing Medicare and Medicaid deductibles and coinsurance would slow the growth of these programs without resorting to rationing. Physicians and their patients would continue to decide which tests and other services they believe are worth the cost.
There is, of course, no reason why limiting outlays on Medicare and Medicaid requires cutting health services for the rest of the population. The idea that they must be cut in parallel is just an example of misplaced medical egalitarianism."
Again, Feldstein's logic is sharp and unerring. Why do all of us who pay for our own health insurance and medical care have to suffer just because government is bungling the management of health care for the poor and/or elderly?
Next, Dr. Feldstein attacks the tax-preferenced nature of privately-funded health care,
"While an extra $100 paid to someone who earns $45,000 a year will provide only about $60 of after-tax spendable cash, the employer could instead use that $100 to pay $100 of health-insurance premiums for that same individual. It is therefore not surprising that employers and employees have opted for very generous health insurance with very low copayment rates.
Since a typical 20% copayment rate means that an extra dollar of health services costs the patient only 20 cents at the time of care, patients and their doctors opt for excessive tests and other inappropriately expensive forms of care. The evidence on health-care demand implies that the current tax rules raise private health-care spending by as much as 35%.
The best solution to this problem of private overconsumption of health services would be to eliminate the tax rule that is causing the excessive insurance and the resulting rise in health spending. Alternatively, Congress could strengthen the incentives in the existing law for health savings accounts with high insurance copayments. Either way, the result would be more cost-conscious behavior that would lower health-care spending.
But unlike reductions in care achieved by government rationing, individuals with different preferences about health and about risk could buy the care that best suits their preferences. While we all want better health, the different choices that people make about such things as smoking, weight and exercise show that there are substantial differences in the priority that different people attach to health.
Rationing is bad policy. It forces individuals with different preferences to accept the same care. It also imposes an arbitrary cap on the future growth of spending instead of letting it evolve in response to changes in technology, tastes and income. In my judgment, rationing would be much worse than excessive care."
Thus, Feldstein provides a coherent, sensible, exhaustive economic basis for rejecting the proposed universal, single-payer health care system, and, instead, fixing the current mess by correcting tax-based biases, allowing those who can afford to buy their own health care to do so without suffering due to government funding problems for the poor.
Finally, he reminds us, as the good economist that he is, of the target which we should not fail to keep in sight,
"Those who worry about too much health care cite the Congressional Budget Office's prediction that health-care spending could rise to 30% of GDP in 2035 from 16% now. But during that 25-year period, GDP will rise to about $24 trillion from $14 trillion, implying that the GDP not spent on health will rise to $17 billion in 2035 from $12 billion now. So even if nothing else comes along to slow the growth of health spending during the next 25 years, there would still be a nearly 50% rise in income to spend on other things."
The national economy, if left to grow as it has in the past, will provide income to allow people to afford more health care, should they choose that as a spending option.
A key part of the solution, though, is to quite making government the ultimate payer for all health care, thus requiring rationing of public spending on private health matters, and allowing each person to choose their own health care options using their own money, or that which the public has decided to allot to them.
Monday, August 24, 2009
Bad Economics Disguised As Healthcare Reform
Several times in the past year or so, I've written critically of Boone Pickens and his ilk crying that Americans spend "too much" on imported oil.
How, may we ask, can Boone know what "too much" is? Price is the economic allocator of scarce resources. Ostensibly, those Americans who have bought petroleum products refined from imported oil did so because they had uses for the oil more valuable than its price.
It's the same with health care.
A recent Wall Street Journal editorial, Craig Karpel claimed we are spending too little on health care, not too much. Why? First, he notes some very sensible economic facts,
"Mr. Obama has said that "the cost of health care has weighed down our economy." No one thinks the 20% of our GDP that's attributable to manufacturing is weighing down the economy, because it's intuitively clear that one person's expenditure on widgets is another person's income. But the same is true of the health-care industry. The $2.4 trillion Americans spend each year for health care doesn't go up in smoke. It's paid to other Americans.
The basic material needs of human beings are food, clothing and shelter. The desire for food and clothing drove hunter-gatherer economies and, subsequently, agricultural economies, for millennia. The Industrial Revolution was driven by the desire for clothing. Thus Richard Arkwright's water frame, James Hargreaves's spinning jenny, Samuel Crompton's spinning mule, Eli Whitney's cotton gin and Elias Howe's sewing machine.
Though it hasn't been widely realized, the desire for shelter was a major driver of the U.S. economy during the second half of the 20th century and the first several years of the 21st. About one-third of the new jobs created during the latter period were directly or indirectly related to housing, as the stupendous ripple effect of the bursting housing bubble should make painfully obvious.
Once these material needs are substantially met, desire for health care—without which there can be no enjoyment of food, clothing or shelter—becomes a significant, perhaps a principal, driver of the economy."
These are important and reasonable statements. It's simply ludicrous for anyone, especially an economically illiterate, newly-elected, politically-immature president to state that any one sector has "too much" spent on it, when that spending is the result of consumer choice.
Then, for the first time in my memory, I actually read a cite of some economic research on the topic. Karpel continues,
"In a 2007 study, Stanford University economists Robert E. Hall (who will take office next year as president of the American Economic Association) and Charles I. Jones reported that modeling they've conducted has found that mid-21st century U.S. health-care expenditures would optimally amount to 30% of GDP or more. They wrote:
"We examine the allocation of resources that maximizes social welfare in our model. We abstract from the complicated institutions that shape spending in the United States and ask a more basic question: from a social welfare standpoint, how much should the nation spend on health care, and what is the time path of optimal health spending? . . .
"Viewed from every angle, our results support the proposition that both historical and future increases in the health spending share are desirable. . . . [W]e believe it likely that maximizing social welfare in the United States will require the development of institutions that are consistent with spending 30 percent or more of GDP on health by the middle of the century." "
As our life expectancy increases, is it not reasonable to expect that we, as a nation, will spend more of our increasing disposable income on health care? More people are more active at older ages than in decades past. Joint replacements are more common.
Why should our government unilaterally decide how much is "too much" health care for Americans to buy?
How, may we ask, can Boone know what "too much" is? Price is the economic allocator of scarce resources. Ostensibly, those Americans who have bought petroleum products refined from imported oil did so because they had uses for the oil more valuable than its price.
It's the same with health care.
A recent Wall Street Journal editorial, Craig Karpel claimed we are spending too little on health care, not too much. Why? First, he notes some very sensible economic facts,
"Mr. Obama has said that "the cost of health care has weighed down our economy." No one thinks the 20% of our GDP that's attributable to manufacturing is weighing down the economy, because it's intuitively clear that one person's expenditure on widgets is another person's income. But the same is true of the health-care industry. The $2.4 trillion Americans spend each year for health care doesn't go up in smoke. It's paid to other Americans.
The basic material needs of human beings are food, clothing and shelter. The desire for food and clothing drove hunter-gatherer economies and, subsequently, agricultural economies, for millennia. The Industrial Revolution was driven by the desire for clothing. Thus Richard Arkwright's water frame, James Hargreaves's spinning jenny, Samuel Crompton's spinning mule, Eli Whitney's cotton gin and Elias Howe's sewing machine.
Though it hasn't been widely realized, the desire for shelter was a major driver of the U.S. economy during the second half of the 20th century and the first several years of the 21st. About one-third of the new jobs created during the latter period were directly or indirectly related to housing, as the stupendous ripple effect of the bursting housing bubble should make painfully obvious.
Once these material needs are substantially met, desire for health care—without which there can be no enjoyment of food, clothing or shelter—becomes a significant, perhaps a principal, driver of the economy."
These are important and reasonable statements. It's simply ludicrous for anyone, especially an economically illiterate, newly-elected, politically-immature president to state that any one sector has "too much" spent on it, when that spending is the result of consumer choice.
Then, for the first time in my memory, I actually read a cite of some economic research on the topic. Karpel continues,
"In a 2007 study, Stanford University economists Robert E. Hall (who will take office next year as president of the American Economic Association) and Charles I. Jones reported that modeling they've conducted has found that mid-21st century U.S. health-care expenditures would optimally amount to 30% of GDP or more. They wrote:
"We examine the allocation of resources that maximizes social welfare in our model. We abstract from the complicated institutions that shape spending in the United States and ask a more basic question: from a social welfare standpoint, how much should the nation spend on health care, and what is the time path of optimal health spending? . . .
"Viewed from every angle, our results support the proposition that both historical and future increases in the health spending share are desirable. . . . [W]e believe it likely that maximizing social welfare in the United States will require the development of institutions that are consistent with spending 30 percent or more of GDP on health by the middle of the century." "
As our life expectancy increases, is it not reasonable to expect that we, as a nation, will spend more of our increasing disposable income on health care? More people are more active at older ages than in decades past. Joint replacements are more common.
Why should our government unilaterally decide how much is "too much" health care for Americans to buy?
Friday, August 21, 2009
Chase Bank Veers Into Government Charity Work Again- At Its Peril
Coincidentally, I saw a Wall Street Journal piece noting Chase Bank's role in providing cash to California to back the state's IOUs on the same day that Glenn Beck revealed Chase CEO's special relationship with Wonderboy.
In both cases, I believe we are witnessing a return to the bad old days of Chase Manhattan, when then-CEO David Rockefeller, along with Citibank CEO Walter Wriston, unwisely became the conduits for recycling petrodollars into sovereign loans to South America, without adequately charging a premium for said sovereign lending.
It was a lesson that came home to roost decades later, during my tenure at Chase Manhattan. In the end, Citibank wrote off, if memory serves, $3B in sovereign loans, while Chase chipped in $1B. It may have been one hundred times those amounts. With the passage of some twenty years, I confess to no longer recalling the exact number of zeros. But it was likely the former numbers.
Now, Jamie Dimon is entering similar waters by lending to deadbeat, broke California. Sovereign lending is always special because your counterparty has the power to simply nullify your loan contract and repudiate the debt. And prevent you from suing to recover in the domicile.
Sure, Chase is getting some underwriting business now. But in time, one has to wonder if an out-of-state bank will continue to receive favorable treatment, when Wells Fargo is headquartered in California.
Then we come to another key link between Chase and a governmental entity.
Glenn Beck revealed that Chase has a special "midwestern director" on its board. None other than Chicago mayor Richard Daley's brother and veteran Democratic political operative, Bill Daley. No chance that Daley is somehow in contact with Wonderboy, is there?
No not much. Hah!
Beck apparently discovered that Dimon has a literal direct phone line to the White House, and noted that Wonderboy has publicly referred to Dimon as a model banker.
Then Beck went further, reaching far back into the bank's past, to describe how, under Rockefeller, Chase bent over backwards for ACORN and/or its forerunners to basically pay financial bribes in order to avoid being victimized by the organization.
Whenever companies stoop to this sort of tactic to ingratiate themselves with government, it usually ends badly. Governments change, and, when in trouble, governments have a nasty habit of turning on any and all businesses whose interests then conflict with their own.
If you thought Dimon's Chase was a safe or smart investment, think again. Dimon is playing with fire by courting various governmental entities and not charging for the risk inherent in that game.
It's likely to come back to haunt him and the bank, just as it did in the 1980s, after Rockefeller's dubious sovereign lending binge of the 1970s.
In both cases, I believe we are witnessing a return to the bad old days of Chase Manhattan, when then-CEO David Rockefeller, along with Citibank CEO Walter Wriston, unwisely became the conduits for recycling petrodollars into sovereign loans to South America, without adequately charging a premium for said sovereign lending.
It was a lesson that came home to roost decades later, during my tenure at Chase Manhattan. In the end, Citibank wrote off, if memory serves, $3B in sovereign loans, while Chase chipped in $1B. It may have been one hundred times those amounts. With the passage of some twenty years, I confess to no longer recalling the exact number of zeros. But it was likely the former numbers.
Now, Jamie Dimon is entering similar waters by lending to deadbeat, broke California. Sovereign lending is always special because your counterparty has the power to simply nullify your loan contract and repudiate the debt. And prevent you from suing to recover in the domicile.
Sure, Chase is getting some underwriting business now. But in time, one has to wonder if an out-of-state bank will continue to receive favorable treatment, when Wells Fargo is headquartered in California.
Then we come to another key link between Chase and a governmental entity.
Glenn Beck revealed that Chase has a special "midwestern director" on its board. None other than Chicago mayor Richard Daley's brother and veteran Democratic political operative, Bill Daley. No chance that Daley is somehow in contact with Wonderboy, is there?
No not much. Hah!
Beck apparently discovered that Dimon has a literal direct phone line to the White House, and noted that Wonderboy has publicly referred to Dimon as a model banker.
Then Beck went further, reaching far back into the bank's past, to describe how, under Rockefeller, Chase bent over backwards for ACORN and/or its forerunners to basically pay financial bribes in order to avoid being victimized by the organization.
Whenever companies stoop to this sort of tactic to ingratiate themselves with government, it usually ends badly. Governments change, and, when in trouble, governments have a nasty habit of turning on any and all businesses whose interests then conflict with their own.
If you thought Dimon's Chase was a safe or smart investment, think again. Dimon is playing with fire by courting various governmental entities and not charging for the risk inherent in that game.
It's likely to come back to haunt him and the bank, just as it did in the 1980s, after Rockefeller's dubious sovereign lending binge of the 1970s.
Thursday, August 20, 2009
When Biased Reporting Goes Too Far And Misinforms
Over the past few weeks, I've noticed something in CNBC's coverage of the health care legislation that constitutes not just sloppy reporting, but genuine misinformation.
Carl Q, the hispanic co-anchor of the network's morning Squawkbox program, now exhibits a rather strange behavior for a news program anchor. Either he is really stupid, and I don't mean that lightly nor euphemistically, or he's been given orders to ignore certain realities.
Here are just two examples, out of several I've seen this month, of what I mean.
A few weeks ago, Carl Q interviewed Virginia Republican Representative Eric Cantor on health care. After Cantor laboriously catalogued several Republican ideas, presented for inclusion in a health care bill, Carlos asked Cantor,
'So, if you defeat this bill, do you declare victory Congressman?'
Anyone watching the interview just saw Cantor say that Republicans know that things must improve in the health care sector, and that he had just ticked off a number of ideas for introducing substantially more competition without government involvement as a provider.
Carl the Q simply ignored these, and, instead, attempted to paint Cantor and his colleagues as purely negative and only wishing to halt any health care reform.
You have to wonder, if Carl were not given instructions to do this, how he can be allowed to remain in his job when he's so obviously mentally impaired. He cannot process statements by his interview subject and respond to them contextually.
Then, just this week, South Carolina Republican Senator Jim DeMint was interviewed by the very same Carl the Q. Once again, the Senator rattled off several ideas which Republicans had offered for health care reform. Once again, Carl the Q responded by totally ignoring DeMint's remarks, saying, to paraphrase,
'So, Senator, is there any possibility Republicans will compromise on cooperatives instead of a single-payer model in the health care bill?'
It's apparently a reflexive response that Carl can't hear his Republican Congressional interview subjects' answers about solutions to health care costs, etc.
A wide range of Republicans now routinely offer a coherent, sensible set of solutions, including:
-medical tort law reform
-interstate insurance competition, ending state-bound regulation and marketing, to increase competition
-relaxing/removing mandates so that consumers may purchase exactly what they choose
-tax-based credits or other treatment to place all consumers on a level field in terms of before- or after-tax basis for health insurance expenses
-a government-funded credit for pre-existing conditions insurance, distinct from that offered by for-profit entities
Why CNBC can't manage to acknowledge these truths is beyond me. Unless, of course, you assume the network, as a matter of policy, simple chooses to tilt the news this dramatically.
Otherwise, one is left to conclude Carl Q is totally unable to do his job, and should be fired for incompetence.
After all, if a news anchor can't reliably and correctly report news and interview newsmakers, of what use is he?
Carl Q, the hispanic co-anchor of the network's morning Squawkbox program, now exhibits a rather strange behavior for a news program anchor. Either he is really stupid, and I don't mean that lightly nor euphemistically, or he's been given orders to ignore certain realities.
Here are just two examples, out of several I've seen this month, of what I mean.
A few weeks ago, Carl Q interviewed Virginia Republican Representative Eric Cantor on health care. After Cantor laboriously catalogued several Republican ideas, presented for inclusion in a health care bill, Carlos asked Cantor,
'So, if you defeat this bill, do you declare victory Congressman?'
Anyone watching the interview just saw Cantor say that Republicans know that things must improve in the health care sector, and that he had just ticked off a number of ideas for introducing substantially more competition without government involvement as a provider.
Carl the Q simply ignored these, and, instead, attempted to paint Cantor and his colleagues as purely negative and only wishing to halt any health care reform.
You have to wonder, if Carl were not given instructions to do this, how he can be allowed to remain in his job when he's so obviously mentally impaired. He cannot process statements by his interview subject and respond to them contextually.
Then, just this week, South Carolina Republican Senator Jim DeMint was interviewed by the very same Carl the Q. Once again, the Senator rattled off several ideas which Republicans had offered for health care reform. Once again, Carl the Q responded by totally ignoring DeMint's remarks, saying, to paraphrase,
'So, Senator, is there any possibility Republicans will compromise on cooperatives instead of a single-payer model in the health care bill?'
It's apparently a reflexive response that Carl can't hear his Republican Congressional interview subjects' answers about solutions to health care costs, etc.
A wide range of Republicans now routinely offer a coherent, sensible set of solutions, including:
-medical tort law reform
-interstate insurance competition, ending state-bound regulation and marketing, to increase competition
-relaxing/removing mandates so that consumers may purchase exactly what they choose
-tax-based credits or other treatment to place all consumers on a level field in terms of before- or after-tax basis for health insurance expenses
-a government-funded credit for pre-existing conditions insurance, distinct from that offered by for-profit entities
Why CNBC can't manage to acknowledge these truths is beyond me. Unless, of course, you assume the network, as a matter of policy, simple chooses to tilt the news this dramatically.
Otherwise, one is left to conclude Carl Q is totally unable to do his job, and should be fired for incompetence.
After all, if a news anchor can't reliably and correctly report news and interview newsmakers, of what use is he?
Wednesday, August 19, 2009
The Coming Bernanke Inflation
A little less than a month ago, Fed Chairman Ben Bernanke took the unusual step of penning an editorial in the Wall Street Journal, on which I wrote this post, entitled, "The Fed's Exit Strategy."
I observed, in my piece,
"Here's the one thing Ben never mentions in his editorial. All of the methods he described involve raising interest rates.
You know what rising interest rates tend to do? Yes, that's right. Choke off recoveries and slow economic growth."
Back about a week before Bernanke's piece, occasional Journal editorialist Andy Kessler wrote a column in which he observed,
"At the end of the day, only one thing has worked- flooding the market with dollars. By buying U.S. Treasuries and mortgages to increase the monetary base by $1 trillion, Fed Chairman Ben Bernanke didn't put money directly into the stock market but he didn't have to. With nowhere else to go, except maybe commodities, inflows into the stock market have been on a tear."
I don't usually find Kessler's financial sector insights very good, but this time was an exception. I think he's right on the money, as it were. Pun intended.
Then Journal staffer and editorialist Kim Strassel chimed in last week, noting that Bernanke has a big job on his hands trying to get renominated and reconfirmed for his job. She observed Congress' rough handling of the Fed Chairman at hearings, wherein he was vaguely accused of perjury for 'forgetting' key conversations with Ken Lewis and then-Treasury Secretary Hank Paulson.
Strassel shrewdly concluded,
"The once hard line between the "independent" Fed and the rest of official Washington has been blurred. Mr. Bernanke's problems are now the Obama team's."
Personally, I am betting on Larry Summers' getting Ben's job. But that won't keep Ben from trying.
And that, unfortunately, means the Fed Chairman won't tighten until after he is sure he is either renominated, or not. And if not, then why bother?
Either way, here's the thing. We are in for easy money for the rest of the year. And when the US economy gets addicted to cheap, or, in this case, nearly no-cost money, watch out.
There is no safe exit to this monetary policy mess that will leave the US economy in healthy shape.
The monetary-based equity rally of the past few months isn't about a recovery. It's about hope for a recovery with low interest rates.
Whether it's tightening or inflation, there's no obvious safe, easy path out of this mess which includes a healthy, growing US economy in the next year.
I observed, in my piece,
"Here's the one thing Ben never mentions in his editorial. All of the methods he described involve raising interest rates.
You know what rising interest rates tend to do? Yes, that's right. Choke off recoveries and slow economic growth."
Back about a week before Bernanke's piece, occasional Journal editorialist Andy Kessler wrote a column in which he observed,
"At the end of the day, only one thing has worked- flooding the market with dollars. By buying U.S. Treasuries and mortgages to increase the monetary base by $1 trillion, Fed Chairman Ben Bernanke didn't put money directly into the stock market but he didn't have to. With nowhere else to go, except maybe commodities, inflows into the stock market have been on a tear."
I don't usually find Kessler's financial sector insights very good, but this time was an exception. I think he's right on the money, as it were. Pun intended.
Then Journal staffer and editorialist Kim Strassel chimed in last week, noting that Bernanke has a big job on his hands trying to get renominated and reconfirmed for his job. She observed Congress' rough handling of the Fed Chairman at hearings, wherein he was vaguely accused of perjury for 'forgetting' key conversations with Ken Lewis and then-Treasury Secretary Hank Paulson.
Strassel shrewdly concluded,
"The once hard line between the "independent" Fed and the rest of official Washington has been blurred. Mr. Bernanke's problems are now the Obama team's."
Personally, I am betting on Larry Summers' getting Ben's job. But that won't keep Ben from trying.
And that, unfortunately, means the Fed Chairman won't tighten until after he is sure he is either renominated, or not. And if not, then why bother?
Either way, here's the thing. We are in for easy money for the rest of the year. And when the US economy gets addicted to cheap, or, in this case, nearly no-cost money, watch out.
There is no safe exit to this monetary policy mess that will leave the US economy in healthy shape.
The monetary-based equity rally of the past few months isn't about a recovery. It's about hope for a recovery with low interest rates.
Whether it's tightening or inflation, there's no obvious safe, easy path out of this mess which includes a healthy, growing US economy in the next year.
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