Systemic Risk

Just finished Andrew Sorkin's (540 page behemoth) "Too Big to Fail." It is about the banking crisis of 2008. Far more a narrative than an economics tutorial, its an entertaining read. Apparently, investment bankers use the F-word a lot. It gives you the behind the scenes access to the government and private players, and the day to day, and in some cases minute by minute accounts of the backroom dealings, negotiations, brainstorming and in some cases percieved slights between the executives at these giant banks. Now, I have a lot of opinions on the financial crisis, and there are many things I took away from the book on the topic of investment banking, but a blog about all of that would be daunting. More than anything, what I worry about now is systemic risk.

I know there are a lot of people out there that were against the bank bailout, and against bailouts in general. "First banks, now Detroit.... what's next?" I don't believe they can be compared. There are many different sectors to business, there are 10,000,000 companies in the United States... the auto industry, as large as it is... in terms of the number of people employed by it or related fields... still does not have the impact of banks. Bank credit is the life blood of the economy. They fuel ALL sectors of business. You hear terms like... cash flow... liquidity... equity... reserves... credit... aging report... balance sheet... these are things that ALL business owners deal with... regardless of sector. The financial aspect of running a business. If it were easy to start a business, everyone would do it. These things take capital. And if the capital stops flowing from banks to various sectors of the market... the entire system hemorrages.

I always find it interesting that Republicans run for office. Because, one of their platforms is that government gets in the way of privatization. Let private industry do it better. So, people run for office to not get things done. "I'm here to prevent government from... blah blah blah." They take government jobs just so they can keep government out of the way. Since the late 1970's... and perhaps at its zenith with Reagan in the 1980's... the United States has been deregulating itself. Im going to over-simplify: Things were willy-nilly in the "roaring 20's" for the select few as corporate barons controlled markets and income equality (rich & poor disparities were at their peak). Black Monday hits the stock market in 1929, and some of the responses by the Republican administration are blamed for the severity of the Great Depression in the following years. Democrat FDR takes office in 1933 and government gets huge. Probably because of the pain of the 20's and early 30's, people are not paranoid of big government. And government got very large. Regulation began to take root. There were rules about what businesses in certain sectors could and couldn't do. [The liberal in me would like to also note that this is the period of great economic prosperity for the middle class.] That would last for about 40 years.

Back to today. So, now you have people in office, like Hank Paulson, who was Bush's Treasury Secretary. Before that... he was the CEO of Goldman Sachs. That's right... the person overseeing the economy is the former CEO of a giant investment bank. That's reassuring. To his credit, he finally "got it," and I think his conversion (unlike the Republicans of 1929) helped keep us out of a deep depression, but before he got it... one of his decisions exarcerbated the growing banking crisis. A lot of these investment banks (due to eroded regulation?) had a lot of bad mortgages on their books. Mortgage backed securities are supposed to be billions of dollars worth of equity to a bank, but if you find out CountryWide gave a bunch of low income Starbucks employees 2 story, 5-bedroom homes... how long before that person stops making rent? How long before foreclosure? How valuable is your portfolio after all? Thats the shortest way I can explain the crisis.

Banks make large sums of money off of mortgages. Mortgages have traditionally been safe long term investments, but (due to growing inequality since the 1970's???) with more and more American's struggling, and home developers cooking the books... er... um... I mean... finding interesting ways to financing home buying, and banks choosing not to ask questions... banks were finding out they their assets were not as valuable as they thought. A certain portion of them were downright toxic. The thing about banking... its all about perception. I dont care how much reserve you actually have, if people think you dont have it, and they want their money out, you will collapse. As more and more people want out, if you dont have a certain level of money, you can't open your doors... and especially with banking, if you can't open your doors, even for just one day, you're done. "A run on the banks" is what its called. Those the most heavily entrenched in mortgage backed securities and "derivatives" face the most speculation about their health, and they are the first to feel the strain of market perceptions.

In March 2008, Bear Stearns could no longer open their doors. Federal Reserve Chairman Ben Bernanke and Treasury Secretary Hank Paulson work out a deal, where Bear Stearns is merged into JP Morgan Chase... with government assistance. Then you had the government take over Fannie Mae and Freddie Mac, the housing giants in, I believe... August. This is during a Republican administration mind you... so Treasury and the White House are getting major push back. But the bailout only RE-affirms the magnitude of instability in housing. But the major dominoe was Lehman in September. There was NO political capital for another bailout at the time... because, well... most people are ignorant. Treasury tried and tried to get a merger deal worked out between Lehman Bros and one of the larger investment banks, but noone was interested. These investment banks wanted some guarantee like JP Morgan got in March before they agreed to buy Bear Stearns. So, when the time came, Paulson (trying to show some toughness/fortitude) let Lehman file for bankruptcy. We're not giving out freebies here, was supposed to be the message.

The message that was ACTUALLY recieved was two prong. First and foremost, these mortgage backed securities were complex. In a by-gone era, banks use to buy mortgages and hold them all the way to maturity. I will also point out that if you hold each individual mortage, you'll pay more attention to who you decide to give mortgages and how much you give them. But, those days are gone. In an attempt to dispense risk... mortgages are now diced, and sliced, and split, and scattered and rebundled and repackaged into these securities. The idea being, if we all get a little piece, it will lower risk. Rather than one bank worrying about a complete foreclosure, you can have 56 separate investors each share a very have a small piece of a failure. But, the problem was... investment firms had Lehman "toxic assets" and didn't even know it. Investment banks were being bailed out in Europe because... "surprise, guess what... you got Lehman toxic assets in your portfolio. They're worth crap and noone will buy them, even on the cheap!" Second... trying to secure Merrill-Lynch (the next dominoe in line) didn't work. Paulson thought, if we can't get Lehman without a bailout, lets get Merrill-Lynch secured, and that will show that the REST of the financial community is stable. The idea being, only one dominoe would fall. But, people now knew "wow, a giant American investment bank can fail, let me get my money out of here!"

The risk was systemic. And the market froze. Its still very cold out there... just ask a small business owner about credit. One major problem, outside of just paranoia of each banks inherent stability... noone knew which banks had Lehman assets (remember, Lehman is filing bankruptcy), so not only were people paranoid of banks... banks were paranoid of each other. There is a lot of "interbank" lending that goes on everyday, and they were scared to finance each other. Everyone was trying to batten down the hatch. Banks aren't giving to other banks. Banks aren't giving loans to consumers. Banks aren't giving credit to businesses. Hedge funds, stock holders & private equity firms are trying to withdraw money from banks. Paulson knew that the "the invisible hand of the free market always gets us to equilibrium, government just needs to stay out of the way" sounds find in a classroom, a dinner party, or a Republican fundraiser, but not when you're at the helm of the ship.

Here is the new team. My concern is... they look just like the old team, except Obama replaces Bush. Ben Bernanke is still Federal Reserve Chairman. Tim Geithner moves over from NY Federaral Reserve (which is private) to Treasury Secretary (the government side). As a group... Larry Summers and the rest of the extended team included... they're the same free market guys that fought against regulation of derivatives in the 1990's... when centrist Democrat Clinton agreed to leave those markets unregulated. I would like to hope that last years "Great Recession" helped them find a new religion, but I have seen no sweeping philosophical changes so far. I have seen no new regulatory laws passed by Congress. Unfortunately, it seems Obama just wants to STABILIZE the status quo, not make sweeping reforms to the system like FDR did in the 1930's. Who says the system from the last 10 years is where we want to be? Other than investment bankers, of course? And the scariest question of all for me... if there was systemic risk last year... HOW IS THIS YEAR ANY BETTER?

There are now less giant banks, and they are now BIGGER... more "entrenched" than they were 24 months ago. We need to break them up (like Ma Bell?). We need to make them substantially increase capital reserve requirements... we need to do something. Bear Stearns no longer exists... they were consumed by JP Morgan. Lehman Bros no longer exists... they went bankrupt. Even though you see Merrill-Lynch commercials, it no longer exists... They were consumed by Bank of America. BoA just decided to let that portion of BoA keep the Merrill moniker. Wachovia no longer exists... they were consumed by Well's Fargo. Washington Mutual no longer exists... they were acquired by JP Morgan. Currently, what reason is there... to feel better than we did two years ago... when it comes to systemic risk as relates to giant banks? How can we get accustomed to phrases like... "Too Big to Fail" and yet, SIMULTANEOUSLY watch banks get bigger?

US Recession and Money Preachers

One thing I've mentioned several times in my blogs, because it frustrates me to no end... are how far "right" both of our American political parties are. To be clear, there are huge differences between the two, and I'm very openly Anti-Republican, but don't be mistaken... even "liberal" US fiscal policy is to the right on the world stage. The idea that Democrats could go to Europe and be considered socialists... its so ludicrous, its frustrating. The reason, I bring it up... the "Great Recession" of 2008 was started in America... and because of how interlocked global economies are... our crash began to poison foreign markets. It was also seen by many truly liberal minds around the world... those who are of an anti-free market mentality... as an indictment of US economic policy, and perhaps... a subtle slight at US consumerism and materialism.






I began to wonder... how would an indictment on US materialism correlate with the popular "word of faith" movement, that permeates a certain portion of churches around the country? The Word of Faith movement... a charismatic "Christian" movement... deals with having faith in God and believing that he will provide for your needs. At the core, the leaders of these kind of churches will say the main focus is informing people that God is able to provide for his people's spiritually and emotionally needs, but not surprisingly... material needs do not lag far behind. The idea of being blessed because of one's relationship with God. "You have not because you believe not... and if only you would trust... if you only believed like I believe... and how Sister Jones believes... if only your faith were stronger... you'd recieve more of God's spiritual and financial riches." Have money churches become more or less popular in the last year?






What do word of faith people believe of people in under-developed nations? I never understood this. Is word of faith God's American experiment, or do God's principles on financial blessings reign globally. Can you go to Jakarta... or Somalia... or the poorest part of El Salvador... and tell people that their current economic situation is only because they dont have enough faith in God?

We know how it affects preachers, but in real-life application, how does 'word of faith' affect someone working in the real American economy? The above picture is just a small example of the type of luxury that Creflo Dollar lives in. Imagine the rest of his mansion? People give to him, and he is financially "blessed" for it. How can you sit down with an economist and try to explain the concept of 'manna falling from heaven.' This idea, that... when you, with your REAL job... give to the person convincing you that giving brings money... the guy with no job... if you follow that example... even though your entire economic structure is different than his... you will get the same results. But we dont 'sell dreams' for a living. Why would a secretary who goes to one of these churches believe she's suddenly going to start receiving money like the guy in the pulpit who says he needs to be blessed by his 'flock'. Apropos term though flock is. Will God compel her boss to just write her a check? Will she get a promotion she otherwise wouldn't? Will someone get fired to make a way for her because of her faith? Jobs dont just appear out of thin air. "I believed on God, and the person above me got terminated... so, now I make more money. Praise Jesus!" The clever thing about it, the burden is on you the individual. God is waiting on you... so if you go to one of these churches, and your finances dont change... its not the preachers fault... look at him... he has money... you don't... whats wrong with your faith? What's wrong with you? By the way... in case you were wondering... Creflo Dollar's faith...? giiiiiiiiiiiiiiiiiiinormous.

What is our current American situation, compared to the rest of the world? Compared to the socio-economic situation of 1st century Palestine? Above, I mentioned trying to sell this religious mindset to other poorer parts of the world. How do... most Americans... how does the average American... in their CURRENT condition... stack up against most of the world? There is poverty in all nations... 'the poor will always be with you'... but, I mean... if the goal is to tell Americans making $25-40K how bad they have it...

...then ummmmm... I'm not buying. Things can be better, and the growing American inequality that noone seems to care about is depressing... but, I keep it in perspective. Look at the above chart and you can find MANY more charts like it. How should we take the context of the Roman occupation of Palestinian Jews into consideration, when we read the New Testament writings as they speak about blessings? The point is this... Americans are already financially blessed. You were born in Florida or New York, not Bolivia... not Bangladesh... not Cambodia... not Rwanda... not Sierra Leone. We already have so much.

We spend so much time looking forward at the wealthy few around us... we dont pay attention to the multitude of the impoverished behind us. We spend so much time looking at those ahead of us, do we really understand our current position in line? How a money preacher can look middle class Americans in the eye... and tell them they CAN be financially blessed, if only they had more faith... is beyond me.

This is Joyce Meyer's compound. I could say home, but this looks more like a fortified military installation. In the bottom left corner, I think I see a grotto near the lake. Joyce Meyers has a grotto??? Now, I know what you're thinking... official unemployment rate from the Department of Labor stands over 10%. Probably closer to 15 when you factor in those not looking for work (and thus, out of what is considered, the workforce). You're thinking... why can't Joyce Meyer's hear the cries of the poor. Well... duh... she's in the main building silly. You can't hear poor people from there. I could see if she was part of one of the satellite mansions... then maybe she could see the people living in tents across America. Here's a thought... why can't... the tent people live... in her backyard? She has that lake... they could use it as bath... I mean, if people are blessed when they give money to Joyce Meyers... pfffft!... well... can you imagine how blessed she's going to be... giving homeless people places to pitch their tents?

The world knows this crash was fueled by American Greed. Not just bankers, but consumers. We had to get the big house. We need to get the newest car. The finest clothes. Charge it. We must show that we are living the American dream. But now that the facade has deteriorated... and we can clearly see that our own selfish entitlement caused the biggest plight... since the Great Depression... can there really be preachers jumping around... today... a year later... telling people... they dont have enough... they should be looking for more... waiting for that next blessing? Still... in 2009? These guys are still around talking?

I would love nothing more than to take all of those guys... and put them in any nation that is considered in the bottom 10% of economically prosperous countries. Let them stay there and live as the average person in those nations. Live among them... for 3 years. Away from all their wealth and excess... away from American materialism and entitlement. And let them come back and see how their perspective on American life has changed.

Productivity vs Compensation

Over the last couple weeks, CNBC has reported the last quarter earnings for many American firms. There have been a number of companies that have had surprisingly better than expected earnings, thanks in large part to 'cost cutting.' But what is 'cost cutting' really?

For almost all businesses, the biggest cost the company deals with are wages. Paying the employees makes up the biggest portion of your outgoing expenditures. So, there are several ways to be more efficient, but, when people in the boardroom of a struggling corporation decide to hire a new CEO who is known for making businesses profitable... among other things, they are looking for someone who is going to downsize their workforce.

And downsize they do. For 21 straight months, the US Labor force has experienced negative job growth. More and more Americans are being laid off as companies continue to attempt to control their costs... and profits.

And as people are let go... as quarterly earnings increase, even if sales do not... the executives get the credit... and the bonuses. Such a great leader... having the strength, and will... to do what is necessary... "for the good of the stockholders." Give that man a raise, for his unique and singular vision!

Millions of Americans are being fired. For the more "fortunate"... wages are merely stagnant, and for some... wages are DECLINING. But work still has to be done. How does the declining size of the American workforce affect US productivity? In recent months... we've actually seen a rise in productivity of the American work force (click here). People are being laid off in large numbers, and for those who are still around, they are actually being asked to take on a larger workload. Someone has to help pick up the slack from those empty desks. So, the average American is working harder, and for less money, than he or she made a year or two ago.

My question is... when do executives take pay cuts? Have you ever heard of a company's upper management slicing their million dollar salaries in half when their companies are hurting? When do multimillion dollar executive pay packages get put on hold? It seems the concept of: "sacrifice for the good of the company" tends to be a one way street. From your pocket, and into theirs. Not only is executive compensation not going down, but there has been anger because of the reported bonuses! Its just weird to me how American workers get treated, and yet, how apprehensive and negative a lot of people are about unions. The power of "collective bargaining." Well... RIDDLE ME THIS... Hollywood actors have the Screen Actors' Guild. Hollywood writers have the Screen Writers' Guild. Major League Baseball... the NFL... the NBA... all these organizations of millionaires... they all believe that they need protection from their management, to bargain as a unit, not a bunch of individuals dealing with management individually... but the guy making $45,000... he's not sure thats necessary???

I already know what executives will say. If this company doesn't pay us. We'll go somewhere else. "Brain drain" Where the brightest minds migrate to another location. They might as well talk like teenagers and say... "well... everyone else is doing it. We have to give big bonuses to our stars or they will go to our competitors." There was a report earlier today that the current CEO of AIG (Robert Benmosche) was thinking about resigning because of the current caps on executive pay. For those who haven't read about AIG, last year, they were only DAYS away from bankruptcy. They begged Tim Geithner and the Federal Reserve for intervention. The United States government funneled hundreds of billions of dollars into AIG to keep them filing chapter 11... they can't afford to pay that money back yet... and this dirtbag is considering quitting because he's not making more money? This is the mentality that we're dealing with.

Another problem is the CEO revolving door of success. For the average American, unemployment... particularly in certain parts of the nation, can be the abyss from which its hard to return. Unemployment is so bad right now, the government keeps working to extend the normal duration of unemployment benefits. Seems Republicans aren't always for smaller government when they want a handout, too? Unemployment is welfare. I dont see teabaggers out protesting that government spending. I suppose you can't be a stupid idealogue when you're hungry. Robert Willumstad was the CEO of AIG in September of 2008. He was fired after the bailout to show they weren't just going to keep the same guys who let this AIG debacle happen. He was replaced by Ed Liddy, who was formerly the CEO of Allstate. And a little more than a year later, they are on their third CEO. When Merrill-Lynch sold itself to Bank of America, John Thain, the CEO who agreed to the sell Merrill, had not been in his job a year. And when one of these yo-yos ruins a company and is, subsequently, tossed out of the executive suite's window...?

He is... somehow... able to land safely. God bless free market capitalism...