Monday, February 23, 2009

A Front Row Seat

I can’t help but think that we all have the unique, maybe I’ll say “privilege” of watching a uniquely unqualified president learn on the job. This might be ok if the stakes weren’t so significant. Or if the consequences and grave we’re digging wasn’t so far ranging and deep.

The markets went down to a record low. Oh, but the market’s emotional, who cares what the market does day-to-day? -- says one talking head on a show I was watching. Who cares? Obama gives a good speech. Wall Street deserves a beating. Those greedy leeches brought this on themselves. Didn’t they?

Today Obama warned governors that he will “call them out” if they waste any of the billions coming their way. He did the same to mayors last week. He called them out too. Hey, how about that. It’s quite a scene. It’s quite a show. The people love it. It’s got villains, big stakes, and a sheriff to clean up the town mess. We can only wait to see if the show ends on a high note, the way we Americans love our shows to end.

Tomorrow night Mr. Obama is going to call for renewed vigilance to cut the deficit in half. On the other hand, he’s also rumored to propose expanding universal government run healthcare in tomorrow;s speech. He just signed a bill for $787B. Oh, and that’s a start. We probably need more money for GM and Chrysler. Oh, and TARP and the banks. Don’t forget that. And he’s giving another $15B to states for Medicaid. I can't wait to see government squeeze the savings and generate efficiencies the likes of which the private market could only imagine. Yep, healthcare will be expensive. But medical technology is here to stay now that Obama's here so never fear. It'll work.

I love words. Yes, words are good. Words can be arranged and rearranged in different order. They can play on emotion and make you feel good if they’re delivered eloquently. If the pitch is good and intonations work than words can do wonders.

Maybe words will one day reflect some sort of realistic assessment of what’s happening followed by a realistic prescription to move forward. Words can be powerful things. Words can be dangerous things. With Obama, I suspect words are thrown on the wall with the intent of seeing what sticks. I think he likes the feedback and I think he likes to be liked. The problem with a man who sees himself in that way is that this type of man is not generally who you want in the midst of a crisis. He's just wrong. Well we can only wait and see. You might want to save your money in these rainiest of days.

Tuesday, February 10, 2009

An Ode to ‘Failed Theories’

Last night El Presidente Obama gave a speech in which he referenced the “failed theories” that we have tried in the last 8 years. I wasn’t sure exactly what he was referring to. He does allude to de-regulation as the cause of much evil. But it seems he’s getting at something bigger when he says that.

So what are these failed theories? He ridiculed those who advocate that we do nothing. Our president seems to like setting up strawman arguments. I had to wonder if he was talking about capitalism, free market economics, and limited government ideas. I think that’s what he’s getting at. He said that right now government is the only entity that can fill in the void at this time.

This is horrifying to me on many levels. The free market works because it is dependent on the millions of actions, priorities, and decisions made by individuals. People choose how they invest, spend, save, or work based on a number of factors. They tend to consider price, preferences, and make decisions how to allocate their scarce resources in their short-term and their long-term horizons. Some people work to make as much money as possible, others prefer fulfillment over money, some spend on the ballet, others on classic cars, stamps, or whatever else.

The free market simply gives people more leeway and a broader range of options than in a regulated or government directed economy.

What government planners tend to do is rely on microeconomic theories about behavior to try and incentivize people to engage in activities that the planners prefer. For example, a cigarette tax is intended to discourage smoking by making it relatively more expensive. Or, tax deductions on mortgage interest is intended to incentivize people to buy homes by making it relatively more cheap than would be the case if it were not deductible. If you have $10K in interest paid to the mortgage lender, you can write off the marginal tax you would have paid on that amount, which saves you anywhere from $1,000 to almost $4,000 depending on what you earn. If it there were not a mortage tax deduction you could argue that home prices would go down because people may bid a home to a degree anticipating that deduction.

The problem with government-planned economics is that it assumes the planners can make better value judgments about what people should do with their resources than people. But people should decided what they want to do with their resources based on how they value their time, prices/wages, preferences, etc.

Market economics is thought to have started with Adam Smith. But this is not the case. What Smith did was to formalize these ideas, analyze, and state them in his classic “Wealth of Nations”. He most clearly articulated how a market economy worked. That was his great achievement. But he did not invent it because a form of a free market existed in different societies for many centuries. It is how people relate in a society in which goods and services of all sorts are exchanged. It's level of freedom differs in different times and places. Smith explained why the freer the better. This still holds to be true.

There are times when a market fails to varying degrees. This often happens for a variety of reasons. In the current environment it happened to large extent because of housing. Home prices were bid up, there was an easy money policy, which kept interest rates low and allowed for a lower monthly home payment, and there were mortgage related securities with questionable valuations. In this case, government – both the Federal Reserve and the Fannie Mae and Mac – intervened incorrectly. Planners planned wrong and incentivized behavior that would ordinarily not have been encouraged.

So now we want to add more government because of the record of “failed theories.” This is an error in both the diagnosis and the recommendation. America is in for a decade-wide depression directly attributable to the specific policies that have been advocated starting in September of 2008 and accelerating at this moment. This nation has a decision to make. I am not encouraged by where we’re going.

Friday, February 6, 2009

TARP and "Stimulus" Nonsense

Below are my random thoughts on our future economic depression and the coming catastrophe...
There are many generalities and often a distinction between the "model" and the "real world" on these issues. It's actually not shocking in the model why this happened. Many people, including myself, predicted this. I said it in about the Summer of 2004 and by late 2006 I was convinced of it. I'm shocked it lasted as long as it did. You had a combo of easy money policies, and an asset bubble in the housing market.

What Obama's plan is doing now is turning a recession into a major depression. We're heading for a triple crown of double digit unemployment, inflation, and interest rates at this point. That doesn't need to happen. They're choosing to making it happen and we have to do it NOW! by the way. Who needs to patiently analyze a bill of this magitude when it absolutely has to be done NOW!

You have to let the banks fail, let prices adjust downward, allow for unemployment to run it's course, radically change and simplify the whole tax code to make it more transparent. This would actually increase taxes on the wealthy but improve information. Part of what's happening with unemployment is that companies are over-reacting. Worker productivity numbers increased sharply today indicating there is an underlying demand for labor and that jobs still have to get done. Let industry consolidate where there's overcapacity (banks, autos, retail, luxury goods, etc.). Let prices adjust.

On the other hand, the U.S. selling T-Bonds over the open market will require them to increase interest rates to attract that investment. China and other foreign countries, who already own massive amounts of these things, have indicated they are not standing by ready to snatch up the now $900B. To attract investors you have to raise interest rates. This crowds out private investment and entrepreneurial activity. Plus, OPEC is expected to raise oil prices. So these two things will not help. The best shot is for unemployment to go back to normal, of the three. But Obama's government "grab a shovel" thing ain't gonna work. Plus, the tax cuts are aimed at consumers to prop up demand. This typically lasts a quarter. I didn't like the Bush tax giveaways. I don't like this.

As I mentioned, I've been saying this since 2004. This is mainly Greenspan's fault to be honest. It has nothing to do with "failed theories" as Obama likes to muse on about. I think what's coming is Obama's fault. What he's doing now. That's on him. Like I said, it's bad but it doesn't need to be as bad as I suspect it will now be. It's going from really bad to really, really depressiony-bad.

Nationalizing banks is fraught with all kinds of problems. You either do that entirely or you don't do it at all. You can't nationalize some and not others. It also punishes those banks that aren't failing. Nationalizing all banks is not an option even if you wanted to do it.
There are specific financial industry regulations that should be pushed such as moving bundled real estate cocktails onto an open market and having better oversight of mortgage brokers and sub-prime lenders. There should be higher standards on who gets a home loan based on some realistic ability to pay it back. If you want better regulation, than regulate that. Should or would home prices have gone up that high in a normal situation?

And of course letting things fail is a solution. It happens all the time. What's the alternative: hand out orange vests and shovels? Would you consider that a "real plan"?

Entrepreneurs may see great published interest rates but if the banks won't lend or offer a line of credit it doesn't matter what the rate is. Plus, expectations matter as much as interest rates when you're embarking on a new venture. And shareholders have been taking it on the chin for awhile now given that the value of stock holdings has gone down as much as it has.

I can't promise utopia. It's inherently not my M.O. At some point people suffer, including me with my investments. Of course it sucks. But does Obama, and you people, really think that's going to be avoided by the TARP I, $900B and growing stimulus, and inevitable TARP II and maybe TARP III to come?

There is no clear dichotomy. Punishing banks ends up punishing people. The "American Banking System" is not failing wholesale. Certain banks are failing and should fail and be consolidated and others are doing OK. I suppose that nationalizing banks is a multi-trillion dollar option. It's not one that I've heard as a serious idea though other than as a sort of nuclear option. Nobody is really comfortable with that. Nor should they be. I don't know that "hundreds of millions" of people are going to run on the bank.

What if Bank of America did fail? Do you think that all it's $2.7T in assets will simply vanish into thin air? Be erased from the earth like that meteor threatened to do in Armageddon?
What would happen is that another bank would sift through the mess for the profitable divisions or lines of business with the company. Banks do more than mortgages you know? And some people are still paying their mortgages believe it or not. But even within the loss leaders, like say the mortgage loans so in the news, the acquiring bank would end up having to acquire the distressed properties and sell it off. Or, this is a place, where the government could specifically help, if you're disposed to doing it, is to help minimize the loss to that side of the business. Yes, there would be a relative net loss.

Houses are real assets with a real underlying value. There not just paper figments. Yes, there was/is a problem with the derivatives you and the market you mention. That certainly should have been/be regulated and open. That's a place for oversight. But even if there are 10M foreclosures over the next year and banks have to eat $100K per foreclosure because of a nasty Loan to value ratio per foreclosed home, you still wouldn't require the amounts that are wily-nily being thrown at this. But rather than help on a case-by-case basis with banks, the government gives banks a blank check via TARP.

The running total for money unaccounted for is $78B. It will grow. The $1Trill number from the 10M homes x $100K per home doesn't account for the profits on the other 53 of 54 homes where the mortgage is paid. That is ok for the time being and shows up to counteract the losses thought not enough.

Oh but it's not whether government is too big or too small. No, no, no. Its effectiveness is what matters. The plan was and still is idiotic to begin with. They still don't talk about alocating money to specific cases. Instead, they talk about either expanding TARP or the GOP clowns are talking up fixed 4% rates. These people don't think and it's your money too that's going down the toilet. "If you're not enraged you're not paying attention" - bumper sticker

By the way, I've grossly over-estimated the 10M homes and the $100K per home. I think the actual number of 2008 foreclosed homes was a little less than $3M, and I don't know the exact per home LTV ratio but I doubt the average equity to loan ratio is that drastic. I was making a point about the ludicrisosity of the $1Trill and other figures these soon to be effective government type geniuses, including Mr. Paulson, throw at these things. Both parties deserve to be abolished for this.