Banking

American Society / Banking / Executive Compensatio / Financial / Political / Regulation — 0 Comments
2
Mar 10

Goldman and the Winner Take All Society

Finally, Goldman Sachs has gone too far.  In A Reputation as Good as Goldman?  Part I, we discussed Goldman’s selling of mortgage backed securities, and its role in the current Greek budget crisis.  These activities clearly contributed to its self-inflicted reputational damage.

Perhaps the hubris went further.   Does Goldman believe that its status as a favored Federal Reserve “too big to fail” firm will insulate it from government investigation? Last week Ben Bernanke put a dent in Goldman’s Teflon shield:

Ben S. Bernanke, the Federal Reserve chairman, told Congress Thursday that the Fed was ‘looking into a number of questions relating to Goldman Sachs and other companies and their derivatives arrangements with Greece.’

Mr. Bernanke said the Securities and Exchange Commission was also concerned about how derivatives — financial instruments that are largely unregulated and do not trade on public exchanges — have contributed to Greece’s problems. ‘Obviously, using these instruments in a way that intentionally destabilizes a company or a country is counterproductive,’ he said. See In Greece’s Crisis, Fed Studies Wall St.’s Activities.

In Is Goldman Finally About to Be Leashed and Collared? Yves Smith observes and analyzes Goldman’s corporate culture.  As a former employee, she reports on colleagues’ piggish and overly aggressive behavior. But in an otherwise excellent post, I believe she overlooks the role of current compensation systems.

Pay Practices and Reputation

In previously discussing the banking crisis, we pointed out a fundamental principal: you get what you incent.

Banks were interested in generating upfront fees. Incentives were predicated on “making the deal.”  The best way to make a deal was to ignore the creditworthiness of the borrower.  The banker who made the bad loan suffered no personal financial penalty.  There was no “skin in the game.” Why not write as many loans to poor credits as possible? See Hard Truths from the Banking Crisis.

The Goldman culture incents a “winner take all” mentality.  Since it is a public corporation rather than a partnership everyone is an employee.    A highly mobile employee rather than an owner is far less concerned about the firm’s long term reputation.  That employee wants to maximize current compensation; worrying about future consequences is for suckers.  Drawing on this paradigm, we are not shocked by headlines excoriating the firm for trading against its clients’ interests, shorting the municipal bonds it helped underwrite, skirting EU rules, or tanking the housing market.

Goldman operates in a larger Wall Street and indeed general culture that encourages greed at the expense of overall civic good:

  • Successful hedge funds report individual earnings in the hundreds of million dollars per employee.
  • Loyalty is dead.  Employees change firms. Highly paid athletes change teams without a second thought.
  • The media treats great wealth as reason for great celebrity.
  • Compensation validates individual worth.
  • Government backstops losses and allows gains to remain private.
  • The zeitgeist promotes: “I better grab as much as I can now before the economy implodes.”

Does It Have To Be This Way?

Any alert Board of Directors should be asking some difficult questions.  Why aren’t we concerned about the long-term firm reputation?  What do we want the corporate culture to be? Just because we can legally do a transaction should we be doing it?  How do we blend partnership-based personal accountability with a public corporation structure?   How do we get employees to care about the long-term view?  How do we meet the competitive threat of hedge funds and private equity without damaging corporate reputation? How does our compensation system comport with these concerns?

Yves Smith noted that it was as dangerous for anyone to get in the way of a Goldman employee and a profit making opportunity as it was to get between a predatory animal and its kill.  Goldman has managed to get itself between a very worried Obama Administration and a very angry public.  How ironic if the Goldman predatory lion becomes the Administration sacrificial lamb.

GD Star Rating
loading...
  • Share/Bookmark
American Society / Banking / Executive Compensatio / Financial / Political — 0 Comments
19
Feb 10

A Reputation as Good as Goldman Part II

In A Reputation as Good as Goldman Part I, we examined Goldman’s role in exacerbating the housing market collapse, AIG’s demise, and the Greek government debt crisis.  These major stories were the subject of separate front page articles in the New York Times. Mentors had always warned me no to be too clever by half, a lesson Goldman perhaps missed.   Are the Goldman stories symptomatic of behavior for the last ten years on Wall Street?  Was this always the way Wall Street firms and Goldman behaved?

Sydney Weinberg

In 1930, Sydney Weinberg became the head of Goldman Sachs. He ran the firm for the next 39 years.  By 2010 standards, he was an unlikely person for the job. He had left school at 15 (1907) and started at the struggling brokerage firm as a janitor’s assistant.  He then served in the Navy during World War I, returned to the firm and ultimately became co-head of the securities trading group. He is credited with saving Goldman Sachs from bankruptcy during the Depression. See Annals of Business: The Uses of Adversity by Malcolm Gladwell

In 1956, Weinberg managed his greatest corporate coup. Goldman Sachs was selected to handle for the Ford Motor Company the enormously difficult, largest ever until that time, initial public offering.  The effort took two years. The most fascinating part of the transaction was Weinberg’s fee:

When Henry Ford had asked Weinberg at the outset what his fee would be, Weinberg had declined to get specific; he offered to work for a dollar a year until everything was over and then let the family decide what his efforts were really worth.  Far more than the actual fee, Weinberg always said he appreciated an affectionate, handwritten letter he received from Ford which says, along with other flattering things, “Without you, it could not have been accomplished.” Weinberg had the letter framed and hung in his office, where he would proudly direct visitors’ attention to it, saying: “That’s the big payoff as far as I am concerned…” The fee finally paid was estimated at the time to be as high as a million dollars. The actual fee was nowhere near that amount: For two years’ work and a dazzling success, the indispensable man was paid only $250,000. Deeply disappointed, Sidney Weinberg never mentioned the amount.  See The Partnership: The Making of Goldman Sachs by Charles D. Ellis.

Weinberg understood the value of a continuing relationship with Ford Motor Company and was soon appointed to their board.  Moreover, for nearly a half century, Goldman became the chief investment bank for Ford which vaulted the firm into the top tier of Wall Street firms.  To Sydney Weinberg reputation was everything.

Tradition and the Making of a Culture

John Weinberg followed his father Sidney as head of the firm.  The younger Weinberg preserved his father’s ethic and corporate culture.

Once upon a time, Goldman Sachs shunned publicity.  During the period from 1930 to 1969, Sydney Weinberg ran Goldman Sachs where he developed a staunch corporate cultural aversion to publicity.  During the 1970s, a tandem of John Weinberg and John Whitehead assumed the reigns of leadership at Goldman Sachs.  Whitehead left the company in 1984 to enter public life.  John Weinberg carried on in the same vein as his father Sydney – shunning publicity – to the point where he hired a man to keep his name and his firm’s out of the press.  He kept him off the full-time payroll (though he sat full-time at a desk in head office) so that if, improbably, a comment did slip out, it could be honestly dismissed as not coming from a Goldman Sachs employee.  John Weinberg served as sole senior partner and chairman until 1990.  His mantra was to put the client’s interests first and he wouldn’t allow Goldman to be involved in (sic) hostile takeovers. See All Roads Lead to Goldman Sachs.

As a young law student, Ben Stein interviewed with John Weinberg.  He was impressed with Weinberg as a “smart guy,” but also surmised that he inherited the position from his father, Sydney Weinberg:

But what I did not know about John Weinberg was that even though he was rich and well connected, as a young man he joined the Marines to fight the Japanese in the Pacific, then fought again in Korea. That was America’s ruling class then. The scions of the rich went off to fight. See Looking for the Will Beyond the Battlefield

Clearly, John Weinberg believed that honor and service to one’s country mattered.  But in the current Goldman and Wall Street culture, going off to serve one’s country is for the common folk: why do that and miss out on so many deals and great bonuses?

What Changed?

The end of the Weinbergs’ era can be traced to several factors.  First, Goldman Sachs, Morgan Stanley and other large investment firms were partnerships.  This means the partners were investing their personal fortunes.  Moreover, retained capital was extremely important to the future success of the business.  Thus, there was a limit on executive compensation based on capital and personal preservation.  Second, as firms went public, it was easier to convince a less involved board of directors (rather than partners) to pay large bonuses to executives. Third, those same executives became increasingly greedy, and probed and trampled ethical boundaries. Short-term thinking reigned on Wall Street.  Fourth, compliant government officials endorsed and enabled these behaviors instead of regulating them.

Finally, we need to look at the important intersection of law and ethics.  Just because something is legal does not mean one should do it.  A legal thing is not always an ethical thing.  Would the Weinbergs’ have permitted Goldman to take positions against their own clients?   Would they have forced AIG into insolvency? Would they have designed scams to fool the EU? I doubt it.

It will be a long time before Goldman restores its reputation.  And President Obama is not catalyzing any restoration of ethics or reputation by calling the current Goldman CEO a savvy businessman.   By its actions, I doubt if Goldman Sachs cares.

GD Star Rating
loading...
  • Share/Bookmark
American Society / Banking / Financial / Political / Regulation — 0 Comments
18
Feb 10

A Reputation as Good as Goldman? Part I

Part I of II in a series. Part II here.

“It takes 20 years to build a reputation and five minutes to ruin it. If you think about that, you’ll do things differently.”

Warren Buffett

Arguably the greatest living investor, Warren Buffet, clearly valued a person’s or an organization’s reputation.   In 2008 Buffet was the “white knight” investor for a struggling Goldman Sachs, investing $5b in the firm.  A mentor of mine had wise complementary counsel to Buffet’s:  when providing legal advice, be sure that you would be comfortable if that advice were to appear in a New York Times, Washington Post or Wall Street Journal front page article.

We live in  an age of greed, and indeed supreme irony.   Perhaps Mr. Buffet never shared his wise advice with the senior management of Goldman Sachs.  Worse, maybe he did and they ignored him.  In any event, how has Goldman’s reputation fared?  Let’s examine three separate front page New York Times articles.

Banks Bundled Bad Debt, Bet Against It And Won (NY Times, December 24, 2009)

Goldman Sachs sold mortgage-backed debt securities to pension funds and insurance companies. To hedge their position and to profit from a decline in the housing market, Goldman created a synthetic derivative security called Abacus. This second security was a direct bet against the position of their institutional clients. The mortgage-backed debt securities sold to the institutional clients performed poorly, with losses in the billions. Some of the original securities were of such poor quality that losses occurred within months of issue. Goldman created these synthetic securities well in excess of any hedging needs, permitting it to profit handsomely at the expense of its institutional clients.  The obvious ethical problem was succinctly stated:

“The simultaneous selling of securities to customers and shorting them because they believed they were going to default is the most cynical use of credit information that I have ever seen,” said Sylvain R. Raynes, an expert in structured finance at R & R Consulting in New York. “When you buy protection against an event that you have a hand in causing, you are buying fire insurance on someone else’s house and then committing arson.”

The SEC and other governmental agencies are investigating Goldman and other firms to determine whether or not they violated “fair dealing” rules.

Testy Conflict with Goldman Helped Push A.I.G. to Edge (NY Times, February 7, 2010)

AIG insured some of Goldman’s complex mortgage securities.  When the housing crisis deepened, AIG paid Goldman $2b to cover potential losses. AIG later asserted that Goldman had inflated the potential losses and sought monies back. Goldman countered that it was due even more money.  The SEC is now looking into whether or not Goldman’s demands for loss coverage depressed the mortgage market and hastened AIG’s demise.

In another supreme irony, after the government took over AIG, Goldman received an additional $12.9b from taxpayers, one hundred percent of expected losses.

Wall St. Helped to Mask Debt Fueling Europe’s Crisis (NY Times, February 14, 2010)

Goldman’s questionable financial maneuvers were not confined to the United States.

As worries over Greece rattle world markets, records and interviews show that with Wall Street’s help, the nation engaged in a decade-long effort to skirt European debt limits. One deal created by Goldman Sachs helped obscure billions in debt from the budget overseers in Brussels.

Even as the crisis was nearing the flashpoint, banks were searching for ways to help Greece forestall the day of reckoning. In early November — three months before Athens became the epicenter of global financial anxiety — a team from Goldman Sachs arrived in the ancient city with a very modern proposition for a government struggling to pay its bills, according to two people who were briefed on the meeting.

The bankers, led by Goldman’s president, Gary D. Cohn, held out a financing instrument that would have pushed debt from Greece’s health care system far into the future, much as when strapped homeowners take out second mortgages to pay off their credit cards.

European authorities are looking into the role of Goldman and others in skirting EU rules.

Is There Another Way?

Has the American public been lulled into believing that this is an acceptable way of doing business, or do we require the people involved to be publicly excoriated, tried, convicted and jailed before we acknowledge their tactics were shabby?  Is Goldman Sachs an institution now synonymous with crafty machinations and greedy outcomes? Are its tactics symptomatic of a Wall Street “disease?”  Is there an alternative way of doing things?  Does reputation matter?  Part II will examine these issues and possibilities.

GD Star Rating
loading...
  • Share/Bookmark
Banking / Business / Economics / Financial / International Finance / Political — 0 Comments
16
Feb 10

Where Are We Now?

“Where Are We Now?” is my fiftieth blog post.  The purpose of a political and economic blog is to “connect the dots” looking for coherent patterns.  This post will attempt to do just that, warning you that the emerging pattern is disturbing.

Slow Motion Depressions

Policy makers in Washington and other western capitals are recently smug. They proclaim that, through coordinated monetary and fiscal response, we have averted the Second Great Depression.  More bluntly, all we have done is throw a lot of money at the problem through unprecedented monetary easing and a fiscal policy of bailouts and stimulus bills.  The core financial issue remains:  western countries and the US in particular have too much debt and insufficient income to service that debt.  Depressions have their own timetable. In my opinion, government intervention has only slowed the timetable, but definitely has not averted the event.

The Magic Act

Politicians and central bankers are a bit like magicians.  While an observer is firmly focused on the right hand we miss the left hand’s activities, which are hiding in plain sight.   Just look at current economic and financial trends:

  • Increasing Risk of Sovereign Debt Default – In late 2009 a problem arose with the financial solvency of Dubai.  Much like the subprime crisis in the US, financial pundits assured the public that the Dubai default was minor and self contained.  Yesterday, credit protection for Dubai rose to a record high exceeding the November peak. See Dubai CDS Hits 652, Ploughs Through November Highs As Gold Jumps.   Greece too is on the verge of sovereign debt default and is seeking a European Union bailout.  Portugal, Ireland, Italy and Spain are reportedly in dire financial trouble as well.  The United States, Japan and United Kingdom are not immune from talk of default.
  • Crisis at the State Level – The Center for Budget and Politics has projected 48 of 50 states will have budget deficits.  Cumulatively, the Center estimates an $180b shortfall for this fiscal year.  All states with the exception of Vermont have a balanced budget requirement.  Some assistance to the states has been proffered through the American Recovery and Reinvestment Act, but it is questionable whether this aid can continue. See Recession Continues to Batter State Budgets; State Responses Could Slow Recovery. It is more likely that states will follow the lead of newly elected Republican Governor Chris Christie.  Recognizing that the state is on the edge of bankruptcy, Christie has declared a fiscal “state of emergency” and intends to slash $2.2b from the budget. See Chris Christie Declares Fiscal ‘State of Emergency,’ Paving Way for NJ Spending Cuts. The crisis in municipal finance portends trouble in the municipal bond markets.  The unsuspecting public has purchased municipals in search of yield and instead may receive an unpleasant surprise.
  • National Fiscal Irresponsibility – President Obama signed into law a $1.9t increase in the debt ceiling, raising it to $14.2t. As the administration has predicted deficits out to 2020, this ceiling will rise each and every year. Also, it does not include the Christmas Eve bailout of Fannie Mae and Freddie Mac which provided “unlimited financial assistance” to these two entities. We will likely exceed our previous limit of $400b on financial assistance under emergency bailout provisions.  See US Promises Unlimited Financial Assistance to Fannie Mae and Freddie Mac.  Moreover, how can we continue to finance these deficits without an increase in interest rates?  However, such an increase in interest rates could put the US in a “doom loop,” as interest payments become the dominant budget line item crowding out other federal spending programs.
  • China – Recently China has made a number of financial moves that do not bode well for the US and world economy. First, China has ordered its currency managers to withdraw from any US dollar denominated risk assets, such as corporate bonds, equities and only invest in US guaranteed assets.  Second, it has raised its reserve requirements on its own banks to dampen an over-inflated domestic real estate market.   Speculation in Chinese real estate has reached the point that Jim Chanos, a respected investor, predicts an economic collapse.  See Jim Chanos: China Bubble Ready to Burst. Given the size of our deficits, the US desperately needs China to continue purchasing US government securities. The world needs China as a growth engine to continue world trade and prevent a second leg of the recession.

Harbingers of the Economic Unraveling

Before the next phase of an economic crisis there are often clues to impending problems. Some harbingers to consider:

  • Junk Bonds – The Greek crisis has spurred investors to sell junk bonds, highly risky assets, at the fastest rate since 2005.  As a result credit spreads are widening between treasury and higher risk corporate bonds. See Junk Bond Spreads Widening: A Canary in the Coal Mine.
  • Problems in a Treasury Auction – Last week’s US 30-year Treasury bond auction was considered a failure.  Indirect bids, that is, foreign buyers, dried up and the government had to offer a yield of 4.72% compared to an expected yield of 4.687%.  See Dismal $16b 30 Year Auction
  • Credit Card Problems – Capital One, a major credit card issuer, reports that in January delinquencies rose and that expected unrecoverable loans have risen to 10.41% from 10.14% in December. See Capital One: Credit -Card Delinquencies Rose in January.
  • State and Municipal Finance –In its upcoming July 1 fiscal year budget, California expects a $20b shortfall.  Illinois has a $61b pension shortfall, and is borrowing to make contributions.   Harrisburg, Pennsylvania, is contemplating a March 1 bankruptcy filing.  These stories are the proverbial tip of the municipal finance debt iceberg. See Illinois Pension Fund $61b Underwater; State Borrows Money for 2010 Contribution; California $20b in the Hole Again.

Reality

Till now the policy direction of the Obama administration and other western leaders has been to “extend and pretend:”  we will ignore economic realities by permitting banks to suspend “mark to market accounting” and we will send various administration spokesmen to spread the fairy dust of “green shoots” to pacify an anxious public.  Essentially, we have an economic policy of faith and hope that willfully ignores reality.  Economics does respond to the laws of mathematics.  Like a termite that silently eats away the wooden supports of a house, excessive debt has eaten away the structure of the world economy.  There will be more troubled countries like Dubai and states like California before this Depression has run its course.

GD Star Rating
loading...
  • Share/Bookmark
American Society / Banking / Political — 0 Comments
11
Feb 10

Populism and the Modern Cross of Gold

United States history in high school is taught as a series of disconnected facts and snippets.  Students memorize Shay’s Rebellion (1786-87), The Whiskey Rebellion  (1794) and Populist Party presidential candidate William Jennings Bryan “Cross of Gold” speech (1896).

However, if we connect the dots of these disconnected facts we find an underlying strain of populism:

‘Populism” is a political ideology the central tenet of which is the conviction that governments ought to concern themselves with providing the conditions for the greatest good for the greatest number.  Populists typically are opposed to both oligarchy or government by the few, and plutocracy, or governments by the wealthy

Shay’s Rebellion, the Whiskey Rebellion and the formation of the Populist Party had in common legitimate economic grievances.  In each instance farmers and working men were protesting policies of the eastern elites.  For example, Shay’s Rebellion was in response to a wave of western Massachusetts farm foreclosures, high state taxes, governmental salaries and court costs, and an inflexible monetary system that favored eastern Massachusetts banking and commercial interests.  Similarly, the Whiskey Rebellion and the formation of the Populist Party were in response to economic policies that penalized farmers and the working man.  Once again, the rebellion targeted eastern elites, the federal government and national banks.

Modern Day Populism

One modern example of populism is the Tea Party Movement.  This movement has focused on deficit spending, wasteful stimulus spending (“pork”), health care reform, high taxes and threats of increased taxation.  But is this a true grass roots movement?  Some view it as a Republican or conservative public relations initiative designed to pressure and embarrass the Obama administration.

Irrespective of the Tea Party Movement, I believe an authentic strain of populism is alive and well in the United States.  Fuel for populism includes:

  • Dissatisfaction with both major parties:  they are viewed as irresponsible handmaidens of special interests.
  • Taxpayer funds used to bailout banks and other financial and industrial enterprises (American Express, GE, AIG, etc)
  • Favoritism toward the unions in the GM and Chrysler bailouts
  • Record deficit spending
  • A zero interest rate policy that punishes savers and retards economic recovery
  • Bonuses to executives of nearly failed enterprises
  • Health care reform proposals that favor insurers, drug companies and trial lawyers
  • Failure to focus on creating good paying, private sector jobs as real unemployment (U-6) hovers at 17%

Flawed and elitist process has added to populist fervor.  Bank bailouts, stimulus and health care bills were negotiated in secret, favored special interests, disregarded public opinion, and may have bypassed constitutional and legal safeguards.

Cross of Gold Redux

If they dare to come out in the open field and defend the gold standard as a good thing, we shall fight them to the uttermost, having behind us the producing masses of the nation and the world. Having behind us the commercial interests and the laboring interests and all the toiling masses, we shall answer their demands for a gold standard by saying to them, you shall not press down upon the brow of labor this crown of thorns. You shall not crucify mankind upon a cross of gold.

–William Jennings Bryan

Bryan was inveighing against Eastern Banker interests who would not relax the gold standard and allow the currency to inflate to help farmers.  Ironically, we have been off the gold standard since 1971, but the same societal problems of elites prospering at the expense of the remainder of the economy exist.  Despite its liberal trappings the Obama administration is blatantly favoring bankers and Wall Street, who represent the core of the Eastern Ivy League elite, at the expense of the rest of the economy.

Anger is growing.  The Republican and Democratic Party duopoly may face a serious challenge.  A recent voter telephone survey revealed that 35% of respondents favor creation of a new political party because the Republicans and Democrats are too alike.

Seventy-five percent (75%) of voters are at least somewhat angry at the government’s policies, up four points from late November and up nine points since September. The overall figures include 45% who are Very Angry, also a nine-point increase since September. Sixty percent (60%) of voters that neither Republican political leaders nor Democratic political leaders have a good understanding of what is needed today.  Source – Rasmussen Reports.

Modern day elites who dismiss the rising tide of voter discontent do so at their peril.  While I am skeptical about the Tea Party Movement, it may portend an authentic response to a  current broad and deep popular anger.

Now all we need is a credible incarnation of Mr. Bryan to focus the anger on the elites who are crucifying the public on a cross of zero interest rates and endless bailouts.


GD Star Rating
loading...
  • Share/Bookmark
American Society / Banking / Business / Justice System / Political — 0 Comments
27
Jan 10

We Can Handle the Truth

“You can’t handle the truth!” Col. Nathan R.Jessep in A Few Good Men

After his election President Obama had the opportunity to educate the public on the causes of the financial crisis and the necessary steps to help us emerge from it.  Over this past year, he has squandered this chance, and in so doing has created the political backlash that is occurring today.

Policy Making and the Truth

With great fanfare, we inaugurated President Obama against the backdrop of the greatest financial crisis since the Great Depression.  In any new Administration, policy making is never easy and advisors at times seem to operate in virtual echo chambers, hearing only themselves.  They presented Obama with a range of options: nationalize the banks; let them fail and let the bankruptcy courts sort it all out; continue the Bush/Paulson bailout policies.  From the beginning, Obama advisors took the middle of the road policy to continue the bailouts.  As voters and participants in a democracy, we can now see the missing piece in this scenario. President Obama owed the public an explanation of this policy choice.  My guess is that his advisers warned against candor.  I would further conjecture these advisers felt that candor would have made the crisis worse.  Elites always worry about scaring the masses. This was confirmed at today’s Congressional hearings on AIG.  AIG was viewed by both Timothy Geithner and Henry Paulson, as the “end of the financial world as we knew it.”  The Administration and we are now suffering the consequences of this subterfuge.

Back to the Future

President Obama could have made a few simple points that would have educated the public, built a consensus for his policy choice and left open future policy options if the bailout approach failed.

President Obama could have made these simple and direct points:

  • We are facing the greatest financial crisis since the Great Depression
  • We got into this problem by borrowing too much, and producing and saving too little
  • At the center of this crisis are the large money center banks and Wall Street investment firms
  • Using inappropriate levels of borrowing and creating non-transparent products, derivatives, which could not be accurately valued or traded, these banks and firms gambled with our money.
  • Banks, however, are the transmission mechanism for getting money into the economy through check clearing, making loans and other services.
  • We are going to provide enough support for the banks to continue their necessary and transparent functions.
  • There will be a consequence to any bank for needing this ad hoc and unusual government support.
  • Shareholders and creditors of the banks must share in some of the losses.
  • Bank employee bonuses will be severely limited or eliminated until the banks recover.
  • The government will take part ownership in the banks until they return to financial health.
  • I have asked my Attorney General to investigate whether these institutions committed any crimes.  I will ask him to hold indictments in abeyance until we are on our way to recovery.
  • Let me assure you that the government will punish wrongdoing.

We Build Prisons of our Own Making

We know this fictional address to the public did not take place.  The Obama Administration now owns the policies of failed bailouts.  The recovery is precarious and now the government asserts that the health of the stock market hinges on re-appointing Ben Bernanke as Federal Reserve Chairman.  The Massachusetts senatorial election was a wakeup call that the middle class is “mad as hell and isn’t going to take it anymore.” See The President Wakes Up and Smells the Election Results.

In tonight’s State of the Union Address, President Obama scratched the surface of candor. He stated that he hated helping the banks, but that failure to do so would have led to greater unemployment, business closure and lost homes.  President Obama, it is not too late for complete candor. It is not too late to commence investigations and prosecutions.

Col. Jessep was wrong: the American public can handle the truth!

GD Star Rating
loading...
  • Share/Bookmark
American Society / Banking / Business / Executive Compensatio — 0 Comments
19
Jan 10

Citigroup, Branch Rickey and the Theater of the Absurd

In 1951, Pittsburgh Pirate Ralph Kiner led the National League in home runs, but his team lost 112 games and finished last.  In response to Kiner’s request for more money, legendary general manager Branch Rickey said: “We finished last with you; we can finish last without you.”

Where is Branch Rickey when you need him?

Citigroup 2009 Earnings

This morning Citigroup announced that it lost $7.6b in the fourth quarter of 2009 and $1.6b for the full year. The Wall Street Journal pointed out the positives: better than last year’s fourth quarter; narrowing losses in the consumer credit area; greater efficiencies and financial stabilization.

The main stream media seems determined to make poor performance sound better than it is. I guess we don’t want to ruin the self esteem of executives, who are trying really really hard.

What the media fails to point out is that Citigroup has been given every financial advantage.  The government has given it TARP funds, participates in its capital structure with a 34% ownership stake, and has permitted the bank to mint money with a zero interest rate policy.

Citigroup Bonuses

Citigroup announced a bonus pool of $24b and the media again has obfuscated the real story.   The headline in the Times Online (London) is: “Citigroup Cuts Compensation by 20% as Losses Fall.”  Dig into the story a little further and there is virtually no reduction in compensation.  Because of layoffs the compensation pool of eligible executives has been reduced by 18%.  Thus, the compensation pool is virtually flat year over year.  The company has lost $1.6b this year and $29.2b over two years.

The CNBC corporate apologists attempted to justify the bonuses: there was improvement, Citicorp needs to retain executives to remain competitive, and the bonus will be paid in stock.  One commentator did point out that the stock was immediately vested, and therefore indistinguishable from a cash bonus.

There was a Different Time

I have written about disconnecting effort and reward. See What Went Wrong? Disconnecting Effort and Reward. Citigroup results have made me think that we have also disconnected results and rewards.

In a different time, I worked for a company that one year paid no bonuses.  That year we had poor financial results, but did not lose money.  Based on the poor results, the Chairman and CEO engaged in no handwringing, no excuses, no attenuated intellectual justifications nor elaborate proofs. He merely reached the conclusion that poor performance equaled no bonus – amazing in its simplicity.  As a result, very few executives voluntarily left the company, the world did not end, we all worked harder, and did better the next year.

Maybe Mr. Pandit, Citigroup CEO, should channel his inner Branch Rickey and eliminate all bonuses for 2009.  His reply to whining executives who threaten to quit: “we lost $29.2b with you; we probably could have lost $29.2b without you.”

Branch Rickey applied one other perfect aphorism to a non- producing, disruptive ballplayer:

“It was addition by subtraction.”

Too bad Mr. Rickey is not around to advise Citigroup.

GD Star Rating
loading...
  • Share/Bookmark
American Society / Banking / Economics / Financial / Political — 0 Comments
18
Jan 10

Government Intervention and Bowmar Brains

In 1971, Indiana-based Bowmar Instruments introduced the first hand-held LED (Light Emitting Diode) calculator.  The “Bowmar Brain” was a huge success.  Other manufacturers developed cheaper calculators, and when the company could no longer compete, it went bankrupt in 1976.

What if the Government Intervened?

Starting with Chrysler in the 1970’s to GM and Chrysler in 2009 government has intervened to either prevent bankruptcy (Chrysler) or to distort the bankruptcy process (GM and Chrysler).  It has justified its intervention by touting the vital importance of these businesses to economic recovery, the need for jobs in severely depressed Midwestern states or national security.

What if the government had intervened in the Bowmar bankruptcy? After all, the first hand-held LED calculator was economically important to both Texas and Indiana.  Texas Instruments supplied Bowmar’s calculator chips.  Further, the hand-held calculator and LED technologies had important scientific and military importance.

In 2010, it seems absurd to even raise the possibility that government should have “saved” Bowmar.  However, we know from our current circumstance that government is whimsical and has indeed prevented private entities from going bankrupt.  This prompts us to consider “what if?”

In the 1970’s calculators were expensive: more than $100 for a Bowmar and $500 or more for HP business and scientific models.  Government intervention would have kept prices artificially high.  Today calculators are included at no extra cost in the basic Windows computer package and banks give away inexpensive calculators as promotional items.

Government intervention would have stunted development of LED technology. Today LED technology is ubiquitous; it is used in signage, energy efficient illumination and in photo optical applications such as remote controls.  See Wikipedia LED. Would the government have been able to innovate?  I would suggest not.

The Heavy Hand of Government

Today we witness the spectacle of the government intervening in numerous traditionally private activities:

  • Banks
  • Money Market Funds
  • Auto Manufacturers
  • Health Care
  • Mortgage Lending

Even conceding that the current Administration never intended to socialize broad swaths of private industry, the speed and scope of current federal involvement has put us on exactly that road. Financial media and the White House credit these measures with saving the economy and condition us to accept government solutions to private economic problems. This role is more than that of a regulator.  Government has become a major operator in direct competition with other domestic and foreign private enterprises.

What is the Real Cost?

One cost is the recent proposed special tax on large banks who accepted TARP funds. Government largesse is an inappropriate “free lunch,” but even this mistake is not the greatest harm.  Government intervention encourages investment based on political rather than economic considerations.  Did we really solve the problem of costly union collective bargaining agreements when the government took control of Chrysler and GM?  That would have jeopardized union support for Administration policies. See The Greediest Generation – Where Has Shared Sacrifice Gone?

Will these companies produce cars that consumers want to buy, or cars that meet the government’s environmental agenda?  The heavy hand of government will ultimately stifle all industries that it touches.   In the health care industry, this is of more than academic interest. We may pay with our lives.

If current governmental policy was in force in 1976, we all might be using very expensive and very large hand-held Bowmar Brains.  It is a worrisome trend that we should all be concerned about.

GD Star Rating
loading...
  • Share/Bookmark
American Society / Banking / Business / Economics / Media — 0 Comments
4
Jan 10

What Went Wrong? Disconnecting Effort and Reward

A decade of financial frustration has just ended with US equity returns negative for the entire period.  This is the first time this has occurred, and that includes the 1930’s America’s Great Depression.  A grim statistic indeed; what went wrong?

The United States began and thrived as a nation of ideas, imagination, hard work and grit.  Its hallmark has been a population that saved and produced.  Contrary to these admirable national character traits, Alan Greenspan and his protégé Ben Bernanke utilized low interest rates and a “fire hose” of liquidity to solve financial crises. From this folly, we now suffer negative consequences detrimental to the very fabric of American Society. See Shredding the Social Fabric.

The Age of Get Rich Quick Schemes

America has always had a history of “get rich quick schemes:” the California Gold Rush, the Florida land boom and the “roaring”1920’s stock market.  These booms and inevitable busts were damaging, but did not change America’s basic character.  Even the Great Depression did not change our basic values of thrift and hard work.  But the toxic combination of Greenspan’s easy money, and ubiquitous information and spin disseminated via the internet and financial television elevated “get rich quick schemes” to national obsessions.

  • The Internet Boom – A poster child and pitiful example for the boom and bust was MicroStrategy.  From its initial offering in June 1998 it rose to a market cap of $26b.  The founder was found guilty of numerous SEC violations.  Still in business 11 years later the company has a market cap of $1.1b.See Search for Redemption.
  • Day Trading – Closely allied to the internet boom was the wave of day traders who quit their jobs to spend full time trading stocks.  Many achieved temporary riches only to suffer huge losses after the internet boom turned to bust. See Downfall of a Day Trader.
  • House Flipping – To offset the internet stock market crash, the Fed adopted a policy of ultra low interest rates.  In the ensuing housing frenzy from 2002-2007, speculators flipped houses and even raw land.  The disastrous results are now obvious.
  • Credit Derivatives – Experts from Myron Scholes, the Nobel Prize winner for his work on valuing credit derivatives (Black-Scholes model) to Warren Buffet view credit derivatives as financial weapons of mass destruction. These esoteric instruments were key factors in the recent financial crisis and many believe the problem has not been fixed. Indeed derivatives became a source of large profits for Wall Street firms, often at the expense of their own clients.  See Banks Bundled Debt, Bet Against It and Won.
  • Ponzi Schemes – Disregarding obvious warning signs, sophisticated investors lured by consistent above market returns were ultimately defrauded by Ponzi schemers like Bernie Madoff, Allen Stanford and others.
  • Wall Street Bonuses – Instead of holding capital in reserve in anticipation of the next financial crisis, Wall Street firms are paying record bonuses this year equal to fifty percent or more of revenue.  This easy money is even more galling as we used taxpayer money to stave off bankruptcy in these same firms.  The lure of easy money trumped prudent financial strategy. See Wall Street on Track to Award Record Pay.

Disconnecting Effort and Reward

The last decade has made fools out of the average working person.  Why work at a $50,000 a year job, stay out of debt and try to save 10% of your income while others reap outsized rewards with seemingly little effort?   Low cost, virtually unlimited lending enticed many to “day trade”, “house flip” and engage in a consumer orgy.

I have chronicled the obvious problems of too much debt.  We will take a long time, if ever, to work our way out of this morass.  More damaging was the disconnect between effort and reward.  Financial schemes replaced production.  We invested scarce societal savings in these get rich schemes which make economic recovery even more difficult.

And too, our precious human capital has been compromised, as resources were diverted from teaching, engineering and management programs into MBA’s in finance.  A prestigious job on Wall Street became way more attractive than teaching, engineering, entry into a manufacturing company or even law or medicine.  This was not just a financial crisis, but a crisis of American character.  I hope it does not take ten years to return to fundamentals and our core national values.

GD Star Rating
loading...
  • Share/Bookmark
American Society / Banking / British Society / Financial / Political — 0 Comments
31
Dec 09

Shredding the Social Fabric

A continuing barrage of headlines reveals even more government bailouts of private enterprise:

  • GMAC received bailout funds of an additional $3.8b on top of $13.5. (See BBC News report)
  • The Obama Administration on Christmas Eve gave Fannie Mae and Freddie Mac, two government sponsored enterprises, a “blank check.” Previously each of their bailout levels had been capped at $200b.  The New American reported that these two GSEs now have unlimited Treasury bailout funds until 2012.
  • After a fourth bailout this year, AIG received $180b from the Treasury.

Private enterprise awards of obscene amounts of money from the Treasury are indefensible.  No amount of government spin can mask this truth:  private businesses which made massive mistakes in lending and insurance practices are now being given unlimited access to taxpayer funds.  Why “unlimited” bailout funds?  And worse is the Administration’s unknowing and ambivalent response as to future bailouts: “we sure hope not.” This is Viet Nam war thinking applied to the current financial crisis: “We are so far into the bailout now, how can we stop?”

Harbingers of Social Mood

Issac Newton theorized: “to every action there is an equal and opposite reaction.”   Societies function because a broad consensus agrees upon accepted modes of behavior.  Importantly, these behaviors are mostly voluntary rather than state coerced.  The best example in the United States is the payment of taxes, as we have a largely voluntary compliance system, as the IRS cannot audit everyone. Two recent examples rips in the social fabric have appeared:

  • Shoplifting – Father Tim Jones, a parish priest in York, England, encouraged the poor among his congregation to shoplift to feed their families:

‘My advice, as a Christian priest, is to shoplift,’ he said. ‘I do not offer such advice because I think that stealing is a good thing, or because I think it is harmless, for it is neither.’

But he said it was less harmful that prostitution, burglary, or robbery; he further said that the desperate should target large stores rather than small businesses, and take nothing they do not need. He wasn’t, I think, trying to set off a crime wave in his native York. If he resembled any other thoughtful vicar I have known, he was just trying to dramatise the plight of the local, unglamorous poor for a congregation which might prefer the objects of his charity to be on another continent.  See The Guardian

  • Jingle Mail – Jingle mail is the new jargon describing a homeowner’s strategic default and abandonment of his home, in essence mailing his keys back to the bank. Much has been written about mortgage foreclosures.  For 2009 experts project 4.5 million mortgage foreclosures, with 1.5 million of these foreclosures from strategic defaulters.   When a homeowner realizes that the value of his house is significantly below the amount of the mortgage, walking away may be the best financial option.  This strategy would be even more appealing in non-recourse states like California. See Richard Benson, “Jingle Mail, Jingle Mail“

Consequences

Americans will not idly watch without reaction the bailout of private corporations at taxpayer expense.  The preferred reaction would be through electoral changes in November.  But even electoral changes can be subverted through lobbying and financial clout of big, politically connected corporations.  And neither Republicans nor Democrats are immunized against the lobbying disease. Just examine the bi-partisan lobbying of insurance, pharmaceutical companies and financial companies in the health care and financial reform debates.

Hopelessness forces individuals to undertake self-help remedies. Today it is jingle mail and shoplifting.  Tomorrow it could be refusals to pay taxes or credit card bills.  Perpetual institutional bailouts can only be a path to further rips in the social fabric and ultimately to, anarchy.

GD Star Rating
loading...
  • Share/Bookmark