Monday, March 30, 2009

Daniel Hannan is Wise

It takes a smart man to learn from his mistakes. It takes a wise man to learn from other people's mistakes. Below is a transcript from U.K. MEP Daniel Hannan's speech directed at British Prime Minister Gordon Brown. President Obama would be wise to note Hanna's conclusions:

"Prime Minister, I see you’ve already mastered the essential craft of the European politician, namely the ability to say one thing in this chamber and a very different thing to your home electorate. You’ve spoken here about free trade, and amen to that. Who would have guessed, listening to you just now, that you were the author of the phrase ‘British jobs for British workers’ and that you have subsidised, where you have not nationalised outright, swathes of our economy, including the car industry and many of the banks? Perhaps you would have more moral authority in this house if your actions matched your words? Perhaps you would have more legitimacy in the councils of the world if the United Kingdom were not going into this recession in the worst condition of any G20 country?

The truth, Prime Minister, is that you have run out of our money. The country as a whole is now in negative equity. Every British child is born owing around £20,000. Servicing the interest on that debt is going to cost more than educating the child. Now, once again today you try to spread the blame around; you spoke about an international recession, international crisis. Well, it is true that we are all sailing together into the squalls. But not every vessel in the convoy is in the same dilapidated condition. Other ships used the good years to caulk their hulls and clear their rigging; in other words – to pay off debt. But you used the good years to raise borrowing yet further. As a consequence, under your captaincy, our hull is pressed deep into the water line under the accumulated weight of your debt We are now running a deficit that touches 10% of GDP, an almost unbelievable figure. More than Pakistan, more than Hungary; countries where the IMF have already been called in. Now, it’s not that you’re not apologising; like everyone else I have long accepted that you’re pathologically incapable of accepting responsibility for these things. It’s that you’re carrying on, wilfully worsening our situation, wantonly spending what little we have left. Last year - in the last twelve months – a hundred thousand private sector jobs have been lost and yet you created thirty thousand public sector jobs.

Prime Minister, you cannot carry on for ever squeezing the productive bit of the economy in order to fund an unprecedented engorgement of the unproductive bit. You cannot spend your way out of recession or borrow your way out of debt. And when you repeat, in that wooden and perfunctory way, that our situation is better than others, that we’re ‘well-placed to weather the storm’, I have to tell you that you sound like a Brezhnev-era apparatchik giving the party line. You know, and we know, and you know that we know that it’s nonsense! Everyone knows that Britain is worse off than any other country as we go into these hard times. The IMF has said so; the European Commission has said so; the markets have said so – which is why our currency has devalued by thirty percent. And soon the voters too will get their chance to say so. They can see what the markets have already seen: that you are the devalued Prime Minister of a devalued government."

Monday, March 9, 2009

To Mark To Market?

Imagine that I'm in the business of selling a peanuts. The highest price the market (you, and any other peanut shopper) that is bidding is $500 per ton. Now, personally, I think a ton of peanuts is worth at least $3,000. If I apply for a loan, and the bank asks for collateral, if I use the mark to market rule, it'd mean that I'd have equivelent of $500 (which is the case if I was to liquidate/sell my peanuts). However, if I don't use Market To Market, I can claim the peanuts are really worth $3,000, and thus be able and borrow $3,000 instead of $500... or can I?

The question becomes, which story does the bank believe? If I was to default on the loan, the bank would have to liquidate/sell the collateral I gave them... and the most they'd get is $500.

Thus, at best, removing mark to market will not change the market's perception about the value of your assets. At worst, removing mark to market will remove transparency, which would only add to more uncertainty, and subsequent risk in the market place. It will be much harder to judge which banks have toxic assets and which don't. In the end, removal of mark to market doesn't change the underlying reality. What removal of mark to market does is far worse -- it gives banks permission to make up the value of their assets as they see fit.

Automakers: Driving Up The Debt

Thomas & Krisher from the Associated Press reported on Obama's auto task force.
"Members of the Obama administration's autos task force will test drive the Chevrolet Volt rechargeable electric car and tour a Chrysler LLC pickup truck
factory when they visit the Detroit area on Monday, an administration official
said Sunday.---GM and Chrysler are living on $17.4 billion in government loans
approved by the Bush administration last year, and they have asked for a total
of $39 billion. Obama appointed the task force to review the automakers'
viability plans and decide if they should get additional aid.

The reason GM went to the government for loans in the first place is because no one else would loan them money. And why should they? GM was losing money, and the perception of lenders was that it will continue to lose money... and so it has. The tax payer dollars that the government 'loaned' to GM will not be paid back if the company goes bankrupt.

Essentially, the government invested tax payer dollars into a company no investor in their right mind was willing to give money to -- a company that had plummeting sales and a negative profit margin.

Now that the first round of loans has run out, GM is back asking for more. The idea behind a couple of people going to test drive a $40,000 car in order to determine whether to loan GM billions of dollars is nothing short of asinine.

People test drive cars to determine whether or not they want to buy it, not whether or not someone else wants to buy it. The fact is, whether or not the Auto Czars like the $40,000 car, there may not be a market for it, if for no other fact than few people can afford a $40,000 car.

Even with the $7,500 tax rebate offered at taxpayer's expense to Volt buyers, it would still be priced at $32,500 -- over $10,000 more than a gas-sipping Toyota Prius.

Giving money to GM is a double edged sword. Not only is that money going down the drain, where an inefficient company continues to produce cars that no one is buying, it also diverts billions of dollars away from other areas of the economy.

As an extension of the bailout programs the government is undertaking, these auto loans only serve to siphon assets away from productive, tax-paying, areas of society and subsequently funneled toward a company that sells cars for less than it costs to make them.

Thursday, March 5, 2009

A Lesson From Bernie

Mark Pittman from Bloomberg on Fed Refusing to Release Bank Lending Data:

"Bloomberg sued Nov. 7 under the U.S. Freedom of
Information Act requesting details about the terms of 11 Fed lending programs.
--- In response to Bloomberg’s request, the Fed said the U.S. is facing
“an unprecedented crisis” in which “loss in confidence in and between financial
institutions can occur with lightning speed and devastating

The question ultimately comes down to, what is confidence based on? Confidence stems from certainty. If you are certain about a particular outcome then your confidence regarding that outcome is high. If uncertainty of an outcome is increased, confidence in that outcome drops. Increase in uncertainty, therefore, increases risk. The less certain you are about a particular outcome, the greater risk you take on.

Therefore, confidence, or lack thereof, ought to be a reflection of perceived risk.

As Bernie Madoff turned his hedge fund into a Ponzi Scheme, he closed off transparency into his fund. Inquisitive managers conducting due dilligince on Madoff's fund were turned away with their concerns marginalized and their questions left unanswered. This decrease in transparency of business operations inherently increased risk to investors, yet for those that invested significant amounts of their wealth with Madoff, their confidence, as judged by their actions, was as high as ever.

What, then, was that confidence based on? As transparency decreased, confidence should have decreased as well. But that's not what happened. Instead, for those that invested with Madoff, confidence became a criterion for investment rather than a byproduct of other factors, like his investment strategy and risk profile of that strategy.

Friends encouraged friends to join, and their confidence, detached from reality as it was, bred confidence in others. This is why Madoff's scheme worked for as long as it did. As long as new investors had confidence -- more aptly, blind faith -- in Madoff, then the cogs could continue going for longer than they fundamentally should have. The added duration of Madoff's ponzi scheme only served to compound the problem to $50 billion.

Those that had their money with Madoff were confident, but that confidence was illusory. When baseless confidence becomes a criterion for action, then risk is no longer being considered when decisions are made.

And therein lies the problem -- our government treats confidence as the underlying source of our woes, when it is really a symptom. Instead of dealing with reality for fear of 'devastating effects' our government continues its 'ponzi scheme' policies and uses faux confidence to continue their destructive actions. This, as with the Madoff debacle, will only serve to compound our problems -- not solve them.

Wednesday, March 4, 2009

United States of Venezuela

Reuters ran a story that looked eerily familiar to economic policies within our own borders. Excerpt:

CARACAS, March 4 (Reuters) -
President Hugo Chavez seized a local unit of American food giant Cargill on
Wednesday and threatened to nationalize Venezuela's largest private company,
Polar, as he demanded industry produce cheaper rice.

The clash with the food companies came less than three weeks after Chavez, a Cuba ally who has nationalized swaths of the Venezuelan economy, won a referendum on allowing him to run for reelection.

"I warn you this revolution means business," said Chavez.

The anti-U.S. president is popular among the poor for pressuring companies to produce cheap goods and for government programs that provide subsidized food in city slums.

In recent days Chavez has seized some Polar rice mills after accusing the food industry of skirting his price controls and failing to produce enough cheap rice.

Replace "cheaper rice" with "affordable housing" and it will become self-evident how misguided American policies are. History has demonstrated, repeatedly, that Government run projects are counterproductive and wasteful. Moreover, government manipulation of market prices causes distortions within the market place which create more problems without solving the underlying objective.

This was the case when Nixon implemented price controls on Oil, which invariably led to massive gas shortages. Even today, price fixing exists in various forms, such as minimum wage, which creates a shortage for many jobs.

Venezuela is a good paradigm for what not to do. Instead, it seems, we're following in their footsteps.