Posted tagged ‘banks’

Economic Growth That Both Parties Made Possible?

December 10, 2012

Employment numbers released Friday showed about 140,000 new jobs were created.  While not a number to be confused with a run away economy, it never the less shows a positive state of affairs.  So, are the Democrats and President Obama responsible?

No, not fully.  The irony is that both parties are responsible.

The GOP has backed wrong headed policies from the get go.  Its hands off, no interference approach would surely have sent the economy into a much deeper recession, if not a depression.  The Democrats, on the other hand, would have panicked when the recession took on its “wide U-shape” instead of the wished for “narrow V-shape” recovery.  Their answer would have undoubtably been to throw more money (borrowed of course) at the recession.  Fortunately, the Washington gridlocked prevented more stimulus and the only course available was to “stay the course”.

Mitt Romney told all who would listen he understood how to create jobs and that President Obama has been a failure.  In hindsight it is easy to see now that these claim were off the mark.  The 2008 recession began when the housing bubble burst and at the same time, the financial sector imploded.  How can anyone fix something unless they know why it is broken?

Building too many houses and trying to sell them to people who cannot afford them has happened before and will undoubtably happen again.  This is an easy to understand problem and with patience, an easy to fix one.

An imploded financial sector is much more opaque.  Clearly financial institutions took too much risk.  But that is not all.  These big banks and investment took an enormous holiday from ethics and fiduciary responsibility.  In essence, they went morally bankrupt.

We all know greed is a human condition and bankers are humans.  If we had returned to 2005-7 conditions quickly, the financial houses would have forgotten their extravagances and resumed business as normal.  Banks would have pumped up consumer and business debt while recording high profits without any reflections.  And this group of money lenders and investors would have shamelessly pushed for more favorable regulations.

The slow recovery, however, has encouraged economic growth on a much broader basis than housing and banking profits.  Although this will take time, the results should make the US far more competitive globally.

It would be nice to assign some form of brilliance to the Obama Administration for engineering a slow recovery.  It would be nice but it would be incorrect.  After the 2010 election, President Obama lacked the Congressional majorities he needed to steer the economic recovery.  He could veto and block legislation he didn’t like but he couldn’t push through policies he favored.  Gridlock.

The US economy does not exist on an island.  It is part of a global marketplace.  When the US does well globally, conditions are ripe for a knock on positive outcome domestically.  It is the global engine that drives the domestic engine.

Since ideology of both parties tends towards extremes, the long term prospects for the US economy will benefit the most from continued gridlock.  The gridlock will produce a deficit reduction plan but not much else.  And given the realities of politics, that’s probably enough.

Of course, both parties could gravitate towards the center and moderate, data driven policy making.  There would be no stopping American, then.  And just as likely, pigs could fly.


February 28, 2011

Here’s one way to do it.  You own a small business which in turns owns a building you partially use.  You go to the bank for a loan and bank says you are already over extended with your building mortgage payments.  What do you do?

You say no problem.  You sell off the building, pay off the mortgage and ask for the loan again.

What you do not tell the bank is that you have signed a 20 year lease with the person to whom you have sold the building.  In all likelihood you have incurred the same amount (or more) liability leasing as when you owned.  In fact accounting rules require businesses to “capitalize” leases which have long term obligations.

So what’s this about?

Big banks like Bank of America, JP Morgan Chase, and Citibank would never let someone get away with a slight of hand like this.  Yet when it comes to their own books, they have been quite creative and equally as misleading.

The game big banks play is to “net” their assets.  Let’s say BoA has a trillion dollars in assets surrounding collateralized debt obligations (like with subprime mortgages).  They decide that if they could lover this amount, they could lend more and therefore make more earnings.  No one seems ready to buy these CDOs.

How to do this?

Magic.  Let’s buy some credit default swaps which insure against these CDO’s defaulting.  BoA will pay the CDS issuer some amount of money each year in return for the CDS issuer agreeing to make BoA whole in case the CDO defaults.  In the minds of the big banks, they have reduced the liability of these CDOs to practically zero and therefore they record zero on their liabilities side of the balance sheet.

In a perfect world, this practice might make prudent sense.  In our actual world, CDOs are of unknown value and the ability of CDS issuers to pay up is very questionable.  The practice of using CDS is not risk free.

So as a user of one of these banks, you should know just how much they are exposed to the unknown.  Today you can’t, but hopefully tomorrow government pressure will force banks to reveal all their assets and liabilities and not allow the practice of netting.


Friendly Towards Business

February 8, 2011

President Obama has mounted a “pro-business” posture.  He has even addressed the Chamber of Commerce, this time carrying a fruit cake.  But why?  Is business the enemy?

Something is very wrong with our thinking. The President cannot directly influence whether any or all businesses will increase hiring.

“Too much uncertainty” is a complaint heard often from corporate offices.  Yet when a policy is announced, some offices cheer and others boo.  I guess the word “uncertainty” really means “not favorable to me”.

The President should be aware (and he is) that businesses create jobs and pay taxes.  They accomplish this by developing, manufacturing, marketing, and distributing something.  In a perfect system, products and services with outstanding features, will be preferred and find many customers.  These companies will grow.  Others will stagnate and eventually die.

The time it takes for a business to learn whether its offering is preferred requires “money” (in the form of credit, debt, or equity infusions) just to keep its doors open.  The 2008 great financial sector collapse sucked much of this liquidity out of easy reach for businesses.  This occurred at the same time as the effects of the burst housing bubble was spreading through the economy.  The combination of a weak market place coupled with a questionable supply of liquidity has caused all sensible businessmen to pause.  There should be no mystery here, and there certainly is no uncertainty.

The “center” of this situation lies in letting natural forces return growth.  Commonsense plays a roll too.  Business with global markets must play on a level field.  Domestic businesses must compete fairly without government rules favoring one set of players versus another.

The missing link, however, is with big banks.  They are playing a much smaller role in facilitating the growth of businesses than the past.  Big banks are much more interested in how to make more profit themselves without regard to how that is accomplished.  They are content to earn money by simply electronically trading faster than you or me.  In essence, we are the chumps and big banks have no difficulty with that.

There is no way government can reign in greed or insure good judgement prevails.  Government can, however, set some boundaries.   If banks cross, it is at their own peril.  Ideas such as taxing transactions, or executives pay (and bonuses) when the top executives earn more than some multiple of the median salary could get banks’ top management’s attention.

The objective is to put banks back in the business of extending prudent credit or debt, or backing capital infusions on the basis of sensible risk.  The free market tug of war should allocate the flow of capital to businesses.  No loans would lower bank risk, but also lower bank earnings.  Lending without sound risk assessment increases short term bank income but may lead to defaults and greater losses.

Oh the other hand, government acquiescence allowing or encouraging banks to trade synthetic securities, backed in some way by the government, will divert their attention from their traditional activities that actually could impact the economy.

As always, it is back to basics.

Writing the Necessary Narrative

November 8, 2010

President Obama has been criticized by many because he (and the Democratic Party) did not create and publicize a grand narrative that described the situation facing the White House in January 2008.  The story goes that without this grand narrative, the actions Obama took were ungrounded and appeared to the public as separate and unconnected.  But I have heard no one lay out such a hypothetical narrative, so here is a try.

“My fellow Americans, you have been screwed.  The last Administration allowed the housing boom to go on far too long.  They further persisted in throwing gasoline onto the housing bubble until there were so many houses that no one could afford to buy.  We will not need to build any new ones for years to come.

The greedy banks, bankers, mortgage originators, and hedge fund managers really screwed you too.  They set up a daisy chain of buyers and sellers who took your mortgage and turned them into something so confusing, no one knows who owns what.  The only thing certain was that each of these guys made a handsome profit and did not give a hoot whether you could ever pay off your mortgage.

Because just screwing you was not enough, the really big bankers and hedge funds peddled these worthless debt instruments around the world and backed them up with pseudo-insurance.  When the economy slowed, the mortgage default rate soared and the world banking system crumbled.  Banks stopped lending and a slow economy teetered on the verge of a depression.

There is no game plan for something this gigantic and rare.  Immediate actions would be necessary and the chance to error was high.  The only outcome, however, that would be worse would be to take no action at all.

My fellow Americans, there is more.  The 2009 federal budget (that President Obama inherited) forecasted a $1.2 trillion deficit (which was about 10% of the entire national debt).  While a slow economy certain will hold back some tax revenues, the major reasons for the deficits were (1) the Bush tax cuts (about $400 billion annually), the expanded department of defense budget (about $200 billion) the excess spending on social security payments (about $100 billion) and the excess spending on medicare and medicaid (about $500 billion).  So without fixing the causes of these expenditures, there will be no way to balance the budget or fund the new investments in America to both keep us safe and build our economy.  We will see an endless sea of unbalanced budgets as far as the eye can see.”

The skilled presidential writers could have molded this narrative into catchy although less direct words.  Later, programs such as the stimulus or loans to banks and investment firms could be explained much more easily as both necessary and urgent.  Aid to General Motors would be a piece of cake to explain when one sees the connection with other jobs.  And even health care reform could be explained since there will be no way to balance the payroll taxes with health care expenditures unless health care costs are truly reduced.

But there was no narrative and the consequences seen last Tuesday rose up from gut level fear and total lack of understanding.



The Banks Fault?

August 30, 2010

Banks are not lending. That is what Americans are being told. Credit is tight and therefore the economy is having a difficult time getting any traction. That’s number two for the Banks. First they precipitated the financial crisis and consequent recession. Now they are doing their best to act righteous and are holding back on credit. Their lack of action is killing the economy.  What should we do with banks?

How can you blame Banks when just a few years ago they were giving out money to anyone (and in many cases with no documents). Banks got burned and received a lot of unfavorable press coverage. Why shouldn’t banks be more prudent on who they loan to?

The answer is Banks should be prudent (and should have been long before the housing bubble burst). A better question might be, what should banks do with funds they receive from FDIC insured deposits? Or, what should big banks do with funds they borrow from the Fed?

In one way or another, these are public funds back by tax payers guarantees. Under this light, these funds should be used only in building a common wealth application (read create jobs). For example, banks using funds from these sources should be encouraged (maybe required but probably an onerous tax penalty could also work) to invest in small businesses and home construction. In essence, money from these sources could  only be used for this type of purpose. It could not be used by banks to buy bonds or any other proprietary trading purpose. Banks, of course, could still  get funds from investors who would not receive FDIC protection, and then invest in what ever they chose. The point here is that Federal cheap money and insurance protection should be only for funds that would be used to make investments in the common wealth (jobs).

So, what if banks still felt they could not find sound deals in the common wealth area? The simple answer is that they should not make deals just to make deals. I suspect, however, that small banks that know the local market much better, could fill in the gap nicely. Anyone who has dealt with the large banks recently has experienced an attitude that screams out their disdain for small business and mortgage loans. It is very possible that the large banks we are familiar with are like General Motors and will not be able to reform until bankruptcy sets in.

In the 2000s, Banks were primarily interested in mortgages and business loans only if they could repackage them and sell them as bonds (or CDOs). It was the resale where they cleared their books of the risk while collecting large fees that was the beef in the sandwich, not the mortgage or loan.

Like when a field is overgrown with weeds, a controlled grass fire will bring back fresh and vibrant growth.

Biggest Losers

February 3, 2010

As one reflects upon the size of the Government’s planned 2010 expenditures (and the size of the deficit), one can’t seriously believe this is sustainable. With defense expenditures close to $900 billion in comparison to a total income tax revenue of $1.1 trillion, one must be blown away about how we can afford anything else.  How can this deficit be narrowed if taxes must decrease (re: Republicans) and no reform in health care is acceptable (also re: Republicans). Who will be the biggest losers?

Our political process fueled by special interests will do nothing until there is an outright crisis. The crisis might come in the form of a severe devaluation of the dollar, skyrocketing interest rates, or grid lock when one party blocks the printing of more money and the government defaults on its obligations. Will the crisis arrive too late to prevent total disaster?

Just looking around, can you predict the losers? Here’s my predictions:

  • The Military-Industrial complex. The Defense budget needs to be trimmed at least in half (if not more) to the $400-450 billion range. This will translate into a lot fewer Generals and a lot less income for defense industry companies. This means unemployment for those involved so the size of the loss will be directly proportional to how quickly these people and equipment can find alternate use.
  • The Health Care Industries. In 2010, the Obama Administration budget projects revenues of $935 billion in Social Security and Medicare taxes, and an outlay of $1.5 trillion, or an almost $600 billion shortfall. While higher taxes work to balance these books, one can not explain why the US should be paying for health care at 50-100% higher rates than Europe and Japan for health care that is no better. For my book, doctors, hospital administration, drug companies, and private insurance companies will all need a reasonably good haircut. While there will be some dislocations, employment can be maintained with everyone taking on more work in the form of providing health care to those currently without insurance.
  • Top executives in Banking and other public companies. In 2007, 30% of all corporate profit was recorded by the financial services sector. Something is very wrong with American when people who make nothing earn more than those who mine, grow, or make. The salaries of more and more executives have blossomed into the obscene range. A remuneration package of $10 million now sounds routine. The problem with these high salaries and bonuses is subtle. First, in my opinion, it takes the eye of the executive off of creating value and instead focuses more attention on simply keeping his/her job. Second, without a corresponding proportional increase in the average workers pay, these high pay packages increases the spread of rich and poor. And the rich simply do not pay enough additional taxes to compensate for all the average earners who cannot pay more.

If you have a chance today and pass by a mirror, I suggest you stop and look into it. There you will see one of the many losers. You may not be in the military, the defense industry, the medical care profession, a banker, or a corporate executive but you are on the ship that is going down. You will not be able to avoid getting wet. Whether you perish or not will be largely determined on what type of public officials you support.

Taxes must go up, the rich must pay more, defense spending must come down, health care must be reformed AND cost less, and we must focus math, science, and engineering education on creating good paying jobs. Otherwise, we all will be losers.

Bank Common Sense

January 27, 2010

Can you hear the rhetoric? Senators Fluster and Bluster along with Representatives Pork and Barrel are running for the microphones to inform the American public of the great danger that lies ahead if we do not create more jobs, and they absolutely decry the thought of regulating Banks. It will be nothing less than the end of free enterprise.

Of course the good Senators and Representatives have it wrong with respect to banks (despite what the Wall Street lobbies have paid them to say).  I wonder whether they realize that no matter what regulations or laws are passed, banks and investment firms (and probably certain insurance companies) will put their teams of lawyers to work and figure new and even more opaque ways to circumvent both the spirit and the letter of any new rules. Greed is the nature of banking and without some common sense rules, greed will hurt everyone (again).

Does it not make sense for you and me who put our savings in the corner bank, that we would expect the bank to have as its first priority keeping our money safe until we wanted it? I recognize that the bank must invest this money in order to earn enough to pay me interest and cover their costs for protecting my money. But there are well know, tried and true, ways to do this.

Does it also not make sense that businesses, large and small, need access to capital in order to run their daily business (meet payrolls, cover inventory and accounts receivable, and to make improvements and expand capacity)?  This is how jobs are created and maintained.

Does it not make sense that in America people should be free to speculate and invest their (but not my) money at whatever risk level they wish?  This has been the spirit that build America.  Success and failure mixed together.

The reality of today’s world is that too many banks have gotten too big and simply do not care about protecting my money.  They prefer to rely on the FDIC (government) for that.  Instead, big banks devote most of their time and attention to the business of making money by hawking all sorts of exotic and opaque investment products to anyone with cash.  Even commercial paper (used daily by most all large businesses) is only a loss leader.  Big banks provide commercial paper as a means to build good will with their corporate customer.  They hope to induce companies’ pension plans to buy these exotic products, or to attract their corporate customers’ IPO, M&A, or other underwriting business.

At the end of the day, does the current behavior of big banks make common sense?  Somehow big banks must be either broken up, or made to play under some set of rules where they are no longer too big to fail.