Sunday, May 31, 2009

Chicago -- That Wonderful Town; Larry -- That Wonderful Man

I had an epiphany yesterday, and right in a Catholic church, too.

It wasn't the beautiful sunlight that struck me as I left St. Gabe's of Glendale, Ohio, after the service;

It wasn't the suprise of brushing against Greg Gumbel, there in person for his friend Larry Skowronek, and then of course giving a flawless remembrance: hilarious, focused, perfect timing, on Larry and his antics on the running track above the gymnasium of Loras College, Dubuque, Iowa, and Larry's first comment to Greg on the football field after the Sophomores had clobbered the Freshmen: "You're the only damn player worth a xxx on your team!"

It wasn't seeing my beloved friends from all around Cincinnati, Hyde Park, and Hamilton;

It wasn't "Amazing Grace," #342, or "Make Me a Channel of Your Peace," #392, or "Shall We Gather at the River, #410, (Larry was big in crew organizations) or even the Recessional, "On Eagle's Wings, #336;

It wasn't the direct, lengthy service: simple beautiful selections and communion, so uplifting, pointing out Larry's now direct seat at the right hand of the Right Hand Up There, as well as his remaining presence here too;

It wasn't the clear Homily by Father David Fay, who really did not know the family but spoke directly to Jody with clarity and meaning;

It wasn't the beautiful writing of the First Reading, Responsorial, Second Reading;

It wasn't the reception at the Glendale Lyceum, so glorious on the sun porch, with all the usual suspects (i.e. the people Larry loved and many of the people I love);

It was the realization, through the baseball references at the funeral, that although I like to think I came to work in Cincinnati after Harvard Law School because of the Reds and their big-city glamour, in my heart I must have been a White Sox fan!

A White Sox fan? Whaa?

Mom's stories of life in Chicago upon arriving from England; the Lakefront. The train from Dayton, Ohio to Camp Miniwanca (at Muskeegon, Michigan) going right by the South Side and Commisky Park and my anticipation of the bulletin board at Camp with the Chicago Tribune sports page showing what the Sox had done, on crisp newspaper with the beautiful logo, facing the mid-day sun, wind scuttling off Stoney Lake.

Larry and Jody are "Iowa" and "Chicago" to me. What do I mean? Let me cornball my way through it, at least a start.

First, Iowa, and Dubuque, is a part of "Chicagoland." Chicago to me is liberation and toleration, hope and the future ("Larry never uttered a judgmental thought against another person in my memory," Larry-John, I think, said in his eulogy).

Herbert -- Subtle But Important

Saturday, May 30, 2009

Baseline Scenerio

The Baseline Scenario
The Risk Of Deflation In The Eurozone
Feel-Good Story of the Day
Sheila Bair Listens to Me
The Risk Of Deflation In The Eurozone
Posted: 29 May 2009 08:29 AM PDT
In January, Lucas Papademos, Vice-President of the European Central Bank ECB), strongly suggested that inflation would not fall much below 2% in the eurozone (see the end of this post). Translated from the language of central bankers, he implied that the risk of deflation in the eurozone was virtually nil.
Now Jean-Claude Trichet, head of the ECB, with reference to the latest eurozone (0%) inflation rate, says that we should disregard the data because a recovery is just around the corner.
Alternatively, we are close to the baseline eurozone view laid out in my January presentation (part of a panel discussion with Mr Papademos). You can break this down into three specifics.
Private sector demand is weak; it’s hard to see who will lead the recovery within the eurozone. In addition, the demand for European exports has fallen much more than expected, as seen – for example – in the big decline in German Q1 output.
The ability of the public sector to offset this decline with discretionary fiscal policy is quite limited, due to balance sheet constraints in some countries (look at the latest credit default swap data from weaker euro sovereigns; CDS primer) and clear policy preferences in others (i.e., how Germany worries about inflation, even when there is none).
Banks look troubled across many eurozone countries, and as the real economy surprises on the downside these problems will increase – with presumed implications for government bailout programs and balance sheets (the IMF was quite negative, see Tables 1.3 and 1.4 on pp.28 and 34 respectively, on European banks before the latest round of bad news). Remember that the European economy depends on banks much more than does the US.
If the world turns around and/or oil prices continue to rebound, the eurozone can presumably avoid deflation. But it’s hard to see inflation rising any time soon due to the eurozone’s own dynamic.
And if deflation takes root, it is hard to see this proving more tractable or less damaging than deflation in Japan during the 1990s. Which part of Japan’s lost decade now looks easy to avoid in Europe?
By Simon Johnson

Feel-Good Story of the Day
Posted: 28 May 2009 07:22 PM PDT
Calculated Risk reports that Citigroup is livid that S&P would have the audacity to downgrade the senior tranches of commercial mortgage-backed securities.
Citigroup commented that the changes were “a complete surprise”, “flawed”, lacked “justification” and the “S&P methodology changes do not seem rational or predictable”. Ouch.
It’s nice to see that the banks – who spent the last decade shopping for favorable ratings from the rating agencies, and overwhelming them with thousands of complicated offerings backed with sophisticated models – and the rating agencies – who spent the last decade giving AAA ratings to the banks’ models and are now claiming that it was all the banks’ fault – are getting along so nicely. Some marriages truly are forever.
By James Kwak

Sheila Bair Listens to Me
Posted: 28 May 2009 04:57 PM PDT
Yesterday I said that Tim Geithner or Sheila Bair should come out and slap down the idea that banks will be allowed to bid on their own assets. And today she did! Rolfe Winkler, in a guest post at naked capitalism, did the hard work transcribing the audio of the press conference.
Although banks cannot buy their own assets, Bair did say, “I think there have been separate issues about whether banks can be buyers on other bank assets and I think that’s an issue that we continue to look at.” As I said yesterday, and as Winkler also said, I think this is also a bad idea. Even if you successfully deter outright collusion, you can still have outcomes where the industry as a whole is using subsidies to overpay for its own assets and shift the loss onto the government.
And no, I don’t actually think that Sheila Bair reads this blog, much less listens to what I have to say.
By James Kwak

Friday, May 29, 2009

Maybe My Best "Hot Air" Blog

The vendor client exchange:

Another Rescue?

Bailing out the municipalities and the VARDOs they bought -- rhymes with "weirdo:"

Judge Posner

A relevant blog:

New Yorker Must Read This Week Explaining the Financial Catastrophe

High finance vs. human nature.
by John Lanchester June 1, 2009
Complex risk engineering ignored emotions like avarice and envy.
Economic Crisis;
“Fool’s Gold” (Free Press; $26);
Gillian Tett;
“A Failure of Capitalism” (Harvard; $23.95);
Richard A. Posner;

The world of banking, it’s becoming clear, operates according to different norms from those of the rest of the business world. Take the offsite corporate weekend. Normal behavior on these occasions consists of punishing the minibar and nursing consequent hangovers, hitting on long-fancied colleagues, and putting embarrassing items, ideally pornographic videos, on one another’s hotel bills. For form’s sake, a few new ideas are cooked up, and then gradually allowed to die a natural death when everyone is back at work and liver-function levels have stabilized.

In June, 1994, when a team from J. P. Morgan went on an off-site weekend to Boca Raton, they conformed to normative behavior in certain respects. Binge drinking occurred; a senior colleague’s nose was broken; somebody charged a trashed Jet Ski and many cheeseburgers to somebody else’s account. Where the J. P. Morgan team broke with tradition was in coming up with a real idea—an idea that changed the entire nature of modern banking, with consequences that are currently rocking the planet.

The new idea was based on an old one, that of the swap. Say you’re in the grocery business, and feel gloomy about your prospects. Your immediate neighbor is in the stationery business, and he feels gloomy about his prospects, less so about yours. You get to talking, and one of you hits on a brilliant idea: why not just swap revenues? You take his earnings for the year, and he takes yours. The actual business doesn’t change hands, making the swap, in banking terminology, “synthetic.” The first currency swap took place in 1981, and allowed I.B.M. to trade surplus Swiss francs and Deutsche marks for dollars held by the World Bank. The two institutions exchanged their obligations to bondholders and their bond earnings without actually exchanging the bonds. The deal, brokered by Salomon Brothers, was worth two hundred and ten million dollars over ten years and ushered in a whole new field of finance. As Gillian Tett tells it in her book “Fool’s Gold” (Free Press; $26), by the time of the Boca Raton off-site, swaps had become a roaringly successful feature of the banking world: the volume of such interest-rate and currency derivatives was worth twelve trillion dollars, more than the entire U.S. economy.

But competition was making those swap deals less profitable. The quest was for a new, and therefore newly lucrative, product to sell. What got the J. P. Morgan team rolling was this thought: instead of swapping bonds or currency or interest rates, why not swap the risk of default? In effect, it could sell the risk that a borrower won’t be able to pay back his debt. Since banking is based on making loans to customers, the risk of default by those customers is a crucial part of the business. A product that made it possible to reduce that risk—by selling it to somebody else—had the potential to create a gigantic new market.

The broad outline of the financial crash is becoming well known. The value of Gillian Tett’s book is in the level of detail with which she tells the story, concentrating on the specific sequence of inventions and innovations that made it possible. Tett, a Financial Times reporter who covered the credit markets, was one of the few people to have seen the implosion coming. A critical factor was that she has a Ph.D. in social anthropology—a “hippie” background, as one banker told her, intending no compliment. It helped her focus on what she calls “social silences” in the world of banking. It’s not always what people say that contains the most important information; often, it’s what they take for granted. To Tett, it was obvious that the banking sector was running irresponsibly large risks in the overexpansion of credit and the overingenuity of its financial engineering. So she was perfectly placed to follow the story as it happened, and to pull together the story of how we got here.

There are a number of different ways of peeling this particular onion; Tett does so through the J. P. Morgan team that helped create the new credit derivatives. These lie at the heart of the current crisis, and Tett’s account of their invention and dispersal makes “Fool’s Gold” a gripping and indispensable book.

The Boca Raton meeting first bore fruit when Exxon needed to open a line of credit to cover potential damages of five billion dollars resulting from the 1989 Exxon Valdez oil spill. J. P. Morgan was reluctant to turn down Exxon, which was an old client, but the deal would tie up a lot of reserve cash to provide for the risk of the loans going bad. The so-called Basel rules, named for the town in Switzerland where they were formulated, required that the banks hold eight per cent of their capital in reserve against the risk of outstanding loans. That limited the amount of lending bankers could do, the amount of risk they could take on, and therefore the amount of profit they could make. But, if the risk of the loans could be sold, it logically followed that the loans were now risk-free; and, if that were the case, what would have been the reserve cash could now be freely loaned out. No need to suck up useful capital.

In late 1994, Blythe Masters, a member of the J. P. Morgan swaps team, pitched the idea of selling the credit risk to the European Bank of Reconstruction and Development. So, if Exxon defaulted, the E.B.R.D. would be on the hook for it—and, in return for taking on the risk, would receive a fee from J. P. Morgan. Exxon would get its credit line, and J. P. Morgan would get to honor its client relationship but also to keep its credit lines intact for sexier activities. The deal was so new that it didn’t even have a name: eventually, the one settled on was “credit-default swap.”

So far, so good for J. P. Morgan. But the deal had been laborious and time-consuming, and the bank wouldn’t be able to make real money out of credit-default swaps until the process became streamlined and industrialized. The invention that allowed all this to happen was securitization. Traditionally, banking involves a case-by-case assessment of the risk of every loan, and it’s hard to industrialize that process. What securitization did was bundle together a package of these loans, and then rely on safety in numbers and the law of averages: even if some loans did default, the others wouldn’t, and would keep the stream of revenue going, thereby diffusing and minimizing the risk of default. So there would be two sources of revenue: one from the sale of the loans, and another from the steady flow of repayments. Then someone had the idea of dividing up the securities into different levels of risk—a technique called tranching—and selling them off accordingly, so that riskier tranches of debt would pay a higher rate of interest than safer ones. Bill Demchak, a “structured finance” star at J. P. Morgan, took the lead in creating bundles of credit-default swaps—insurance against default—and selling them to investors. The investors would get the streams of revenue, according to the risk-and-reward level they chose; the bank would get insurance against its loans, and fees for setting up the deal.

There was one final component to the J. P. Morgan team’s invention. The team set up a kind of offshore shell company, called a Special Purpose Vehicle, to fulfill the role supplied by the European Bank for Reconstruction and Development in the first credit-default swap. The shell company would assume $9.7 billion of J. P. Morgan’s risk (in this case, outstanding loans that the bank had made to some three hundred companies) and sell off that risk to investors, in the form of securities paying differing rates of interest. According to J. P. Morgan’s calculations, the underlying loans were so safe that it needed to collect only seven hundred million dollars in order to cover the $9.7-billion debt. In 1997, the credit agency Moodys agreed, and a whole new era in banking dawned. J. P. Morgan had found a way to shift risk off its books while simultaneously generating income from that risk, and freeing up capital to lend elsewhere. It was magic. The only thing wrong with it was the name, BISTRO, for Broad Index Secured Trust Offering, which made the new rocket-science financial instrument sound like a place you went to for steak frites. The market came to prefer a different term: “synthetic collateralized debt obligations.”

Inevitably, J. P. Morgan’s innovation was taken up by more aggressive and less cautious banks. Mortgage-based versions of collateralized debt obligations were especially profitable. These C.D.O.s involved the techniques that the J. P. Morgan team had developed, but their underlying assets were pools of mortgages—many of them based on the most lucrative mortgages, the now notorious subprime loans, which paid higher than usual rates of interest. (These new instruments could be pretty exotic: some consisted of C.D.O.s of C.D.O.s, pools of pools of debt.) J. P. Morgan was wary of them, as it happens, because it didn’t see how the risks were being engineered down to a safe level. But institutions like Citigroup, U.B.S., and Merrill Lynch plunged in.

The new financial instruments, as clever as they were, had an unfortunate side effect: they broke banking. At its heart, banking is a simple business. Customers deposit money at a bank, in return for interest; the bank lends that money to other people, at a higher rate of interest. This isn’t glamorous or interesting, but banking is not supposed to resemble skydiving or hip-hop; what recommends it is that it’s a good way of making steady money (and of creating credit in the economy), as long as the bank is careful about whom it lends money to. The quality of the loans is critical, because those loans are the bank’s earning assets.

This isn’t some incidental issue; it’s the very core of what banking is. But the model of packaging plus securitization spurned the principle that a bank had to individually assess and monitor every loan. The mathematics of valuation models—horrendously complex equations to assess probabilities and correlations, cooked up in mad-scientist style by the firms’ “quants”—took on the burden of assessing statistical risk. The idea that a banker looks a borrower in the eye and takes a view on whether he can trust him came to seem laughably nineteenth-century. As for the risks? Well, as Lawrence Summers said when he was Deputy Secretary of the Treasury, “The parties to these kinds of contract are largely sophisticated financial institutions that would appear to be eminently capable of protecting themselves from fraud and counterparty insolvencies.”

Alas, Richard A. Posner, a judge on the U.S. Court of Appeals for the Seventh Circuit, observes with pointed restraint, “That turned out not to be true.” The result has been, in the title phrase of Posner’s new book, “A Failure of Capitalism” (Harvard; $23.95). He argues that we are now in a bona-fide depression, which he defines as “a steep reduction in output that causes or threatens to cause deflation and creates widespread public anxiety and, among the political and economic elites, a sense of crisis that evokes extremely costly efforts at remediation.” His book is an attempt to write “a concise, constructive, jargon- and acronym-free, non-technical, unsensational, light-on-anecdote, analytical examination of the major facets of the biggest U.S. economic disaster in my lifetime and that of most people living today.”

Accounts of the banking-and-credit crisis tend to focus their explanations, which usually also means their blame, on one or more of the following four factors: greed, stupidity, government, and the banks. The process resembles a children’s game in which you spin an arrow and it lands on a word. Tett spins twice, and lands on greed and the banks; Posner suggests that he doesn’t know what the word “greed” means, and his spin lands firmly on government. “We are learning from it that we need a more active and intelligent government to keep our model of a capitalist economy from running off the rails,” he writes. “The movement to deregulate the financial industry went too far by exaggerating the resilience—the self-healing powers—of laissez-faire capitalism.”

This isn’t an original conclusion, but the way Posner arrives at it is new and bracing. His first claim to fame was as one of the founders of a school of thought that takes economic ideas and techniques and applies them to the law, as well as to life more generally. He has published nearly twenty books in just the past decade, a superhuman rate of productivity, bearing in mind that Posner is also a practicing judge, a senior lecturer at the University of Chicago, and an energetic blogger (in association with the Nobel Prize-winning economist Gary Becker). He has the rare kind of mind that is a pure pleasure to watch in action, regardless of the subject and the argument being made.

“A Failure of Capitalism” argues that the risks taken by the banks were rational, for two main reasons. First, it’s only with the benefit of hindsight that we can know that a bubble in prices was taking place. Bankers had to assign a probability to the prospect that there was a bubble, and, second, to the prospect that, if there was a bubble and it burst, house prices would fall by twenty per cent or more—this being the decline that precipitated the general crisis of bank insolvency. Now, suppose that the risk of both things happening was one per cent. Whether an event with that likelihood is worth worrying about depends on what its consequences will be. From the larger point of view, the consequences included systemic meltdown; but Posner invites us to focus our attention on what they looked like for individual bankers. They had strong incentives for taking the maximum amount of risks in their lending, since risks are correlated with rewards, and the bankers were so well paid that they didn’t really have to worry about being laid off. “The greater the gains are from taking risks that enable very high short-term profits, and the better cushioned the executive is by his severance package against the cost of losing his job, the more risks he rationally will take,” Posner notes. Besides, if a bank avoids these risks, and its competitors don’t and therefore make more money during the boom, the cautious bank risks going out of business anyway, because its clients will walk away.

People taking out what now look like crazily risky mortgage loans were being rational, too, because they were acting on the widespread assumption that house prices would continue rising. If house prices fell, well, tough luck, they’d walk away from the loan and go bankrupt—but they probably had lousy credit ratings anyway. “Thus the downside of the home buyer’s speculative investment is truncated, making his ‘reckless’ behavior not only rational but also consistent with his being well informed about the risks,” Posner writes. The conclusion: “Risky behavior of the sort I have been describing was individually rational during the bubble. But it was collectively irrational.” As for the idea that the bankers were dumb to get so carried away: “I am skeptical that readily avoidable mistakes, failures of rationality, or the intellectual deficiencies of financial managers whose IQs exceed my own were major factors in the economic collapse. Had the mistakes that brought down the banking industry been readily avoidable, they would have been avoided.”

This is a familiar place for these arguments to end up: economists often find that apparently erratic behavior is, at heart, rational. It helps that the definition of rationality can be stretched to include emotion, which “is not necessarily or even typically irrational,” Posner argues. Reckless greed, incompetent assessments of probability, blindness to the inevitability of downturns, failure to hedge risks so big that they threaten a firm’s very existence: all are rational.

It seems a pity that a man as unflinching as Posner didn’t put his ideas under more pressure from the specifics of what the bankers did. He is willing to criticize those who have criticized bankers—“the distinguished economist Paul Krugman,” for instance, “who should know better”—but no banker is named and blamed. One can regret that Posner didn’t get the chance to read Tett’s book, which offers the opportunity to assess in detail the kind of risks that the bankers were taking.

Blythe Masters, who was in charge of the Exxon Valdez deal, and of selling the very first BISTRO notes, and thus one of the creators of the entire credit-default-swap industry, was among those baffled by the C.D.O. boom. “How are the other banks doing it?” she asked. “How are they making so much money?” The answer, Tett says, is that “she was so steeped in the ways of J. P. Morgan that it never occurred to her that the other banks might simply ignore all the risk controls J. P. Morgan had adhered to. That they might do so was simply outside her cognitive map.”

In particular, those banks had accumulated huge amounts of super-senior debt. In the first BISTRO, remember, only seven hundred million dollars was reserved to cover $9.7 billion of risk. The remainder of the debt was regarded as marvellously safe. Bankers call that kind of debt “super-senior,” i.e., better than AAA grade, safer than U.S. Treasury bills, so secure that it didn’t need to be insured. So what to do with it? Some banks simply let the super-senior debt accumulate on their balance sheets. The amount of this debt “was a closely guarded secret, even within the banks themselves,” Tett writes, and the collapse in their value helped bring down the big banks. It would be interesting to read Posner’s analysis of these specific actions, which to the layman seem, as they seemed to so many of the J. P. Morgan team, insanely reckless.

A common mistake of very smart people is to assume that other people’s minds work in the same way that theirs do. This is a particular problem in economics. Its mathematically based models and assumptions of rational conduct can appear, to non-economists, like toys, entertaining but, by definition, of limited utility. Even Posner, who spent years extending the purview of economic thought, thinks that “the depression is a wake-up call to the economics profession.” It’s no surprise to find the Yale economist Robert J. Shiller as one of the first respondents to that call. Shiller—not content with having predicted the bursting of the dot-com bubble in his book “Irrational Exuberance”; co-creating the standard measure for tracking house prices, the Case-Shiller index; going on the record with worries about the housing bubble as early as 2003; and writing one of the first books on the crash, “The Subprime Solution,” in 2008—has now, with George A. Akerlof, the 2001 Nobel winner in economics, co-written a book on the influence of emotions on economics. “Animal Spirits: How Human Psychology Drives the Economy, and Why It Matters for Global Capitalism” (Princeton; $24.95) takes its title from John Maynard Keynes, who, in a famous passage of his 1936 treatise “The General Theory of Employment, Interest and Money,” mused about how businessmen manage to make decisions, given the level of uncertainty about the future. “Our basis of knowledge for estimating the yield ten years hence of a railway, a copper mine, a textile factory, the goodwill of a patent medicine, an Atlantic liner, a building in the City of London amounts to little and sometimes to nothing,” he wrote. We can’t know the future, and therefore our inclination to act, to do things, “can only be taken as a result of animal spirits—of a spontaneous urge to action rather than inaction.” Akerlof and Shiller extrapolate from this an idea of animal spirits encompassing “noneconomic motives and irrational behaviors,” a slightly broader idea than Keynes’s usage, but one that allows them to study a range of negative impulses as well as the basic urge to optimism about which Keynes was talking.

“Animal Spirits” is addressed to a general reader, but it’s hard not to feel that the book’s real audience is among economists. The general reader needs no persuading about the influence of non-rational, non-economic forces on economic thinking. Within the economic profession, however, the subject of strict rationality is the occasion of a permanent pitched battle. (Posner: “The very existence of warring schools within a field is a clue that the field is weak, however brilliant its practitioners.”) “Animal Spirits,” like “A Failure of Capitalism,” is a campaigning maneuver in this ongoing struggle.

Akerlof and Shiller have a set of specific proposals for how the animal spirits might be incorporated into their science. They set out a framework of factors—Confidence (and the lack thereof), Fairness, Corruption and Bad Faith, Money Illusion (the failure to understand the impact of inflation), and Stories—and then apply their ideas to a series of specific questions. Some of this is very timely, such as a chapter on “The Current Financial Crisis” and one asking “Why Are Financial Prices and Corporate Investments So Volatile?” But it’s clear that the great white whale of modern economics, a thing that would appease the descendants of both Milton Friedman and John Maynard Keynes, is a quantifiable, evidence-based theory of how bubbles are formed, and, hence, how to forestall them. Bubbles are irrefutably clear in hindsight; but an economist who found a way of proving their presence with foresight would be doing humanity a profound favor.

We aren’t there yet, though Akerlof and Shiller’s book does give the profession some suggestions for the search. There is barely a page of “Animal Spirits” without a fascinating fact or insight, and by no means all from a reflexively liberal viewpoint. One of their culprits for the crisis is Andrew Cuomo, who, as Secretary of Housing and Urban Development, sharply increased the mandated lending to underserved communities by Fannie Mae and Freddie Mac, and in the process lowered credit standards, thus making it “easy for mortgage lenders to justify loosening their own lending standards.” Despite the various ideological and methodological differences with Richard Posner, Akerlof and Shiller’s fundamental view of how capitalism should work is similar: “What allows capitalism to function is the regulations,” they write. This should be an enduring lesson of the crisis—an understanding that the rules governing the operating of markets were not handed down on stone tablets but are made by men, and are in constant need of revision, supervision, and active, imaginative enforcement. All these books coincide on this point: human beings make markets. A general recognition of that fact, led by the economic profession and taken to heart by politicians, would be a step so important as to be almost worth what it has cost to be reminded of it. ♦

And the following link is worth following up on for its excellent comments afterward, and comments on comments, especially the weakness of Tett's reasoning and experience in places:

Thursday, May 28, 2009

Baseline Scenerio

Curiouser and curiouser:

The Baseline Scenario
Brazen Tunneling and Inflation
Posted: 28 May 2009 01:00 AM PDT
In most societies it is traditional to be somewhat sneaky in squeezing your shareholders or the government. You might set up a complicated transfer pricing scheme or perhaps you arrange for a family-owned firm to acquire assets on the cheap from the publicly traded corporation that you control. Or you could always arrange for the Kremlin to provide foreign exchange at a “special” price.
In the New United States, life is much simpler and bank tunneling considerably more brazen.
I’m starting a bank blotter. Here are some early entries, from the WSJ on Wednesday:
We’ll pay ourselves very high wages, rather than substantial bonuses (p.C3 in print edition). This is brilliant. These banks are supposed to be recapitalizing themselves, which means earning profit - and this is usually harder to do if you increase wages. Lower wages would mean the exit of employees at some of the world’s least well run firms - entities consistently plagued also by the world’s most blatant agency problems – but the banks simply assert that would be a bad thing.
We’ll use the PPIP money to buy toxic assets from ourselves and thus “participate in the upside” (p.C1 in print edition; reviewed here yesterday). In any decent society, this would set the red flags flying, but the banks have apparently lost all sense of moderation. Look carefully at (perhaps) the most fantastic angle here – these assets will be moved “off balance sheet”, as if that does anyone any good; remember many such assets started off there and moved on balance sheet as the crisis developed. Come to think of it, the complexity inherent in the implicit conflicts of interest in this scam scheme would go over well in Russia.
What does any of this have to do with inflation? If you want to the Fed ever to be able to tighten, you need a healthy enough financial sector – i.e., given what we now know about policymakers’ preferences, banks in the “too big to fail” category better not be close to failing.
Big banks that pay higher wages will have less capital for the next round of difficulties. Banks that keep legacy assets close at hand will likely find out (again) why these loans and securities were called toxic. A weaker set of big banks will encourage the Fed to allow the yield curve to steepen, so monetary tightening happens later and perhaps too late to prevent inflation from taking off. Tunneling makes it harder for the Fed to tighten when inflationary pressures appear.
And if you think that inflation is not possible in the US any time soon, please see my column on NYT’s Economix (usually appears at around 7am Thursday morning, New York time) – post comments there or here.
By Simon Johnson

Swensen Transcript on Consuelo Mack Saturday

Consuelo Mack WealthTrack - May 22, 2009

CONSUELO MACK: This week on WealthTrack: in a television exclusive, Yale's legendary financial wizard David Swensen zaps the mutual fund industry and his endowment model critics and casts his magic spell on diversification, asset allocation, and contrarian investing, next on Consuelo Mack WealthTrack. Hello, and welcome to this edition of WealthTrack. I'm Consuelo Mack. We are breaking precedent on WealthTrack this week and devoting the entire program to one guest, and what a guest we have for you. It's a WealthTrack television exclusive with David Swensen, the truly legendary chief investment officer of Yale's endowment who, you will discover in a moment, pulls no punches in his approach to investment strategy, Wall Street, the mutual fund industry, and just about every other topic you engage him in. Swensen has literally transformed the way university endowments are managed all over the country. He has been so successful and influential that he has set a new standard for a wide array of institutional money managers from pension funds to foundations, and he was recently named to President Obama's new Economic Recovery Advisory Board. How did he do this? His track record tells the story. Under his leadership Yale's endowment generated 20 consecutive years of positive returns from 1988 until June of 2008, the end of its fiscal year. In the decade ended June of last year, the endowment had clocked an average annual return of 16.3%, versus 6.5% for the average college endowment and 2.9% for the S&P 500. That performance put Swensen in the top 1% of all institutional money managers and added an estimated $15 billion to Yale's endowment. Yale did not escape last year's market wrath. As of December, the portfolio lost about $6 billion or 26% of its value. But how did he generate those long-term results? Swensen radically altered what Yale's endowment invests in. From the traditional mix of domestic stocks, bonds, and cask, he and his team switched to alternative investments- their stake in private equity increased from under 4% to over 20%. Real assets like timber and real estate, the allocation increased from 8.5% to 29.3%; and in hedge funds from zero to 25.1%. Meanwhile, the investment in domestic stocks and bonds plunged from over 70% to under 15%. Swensen has literally written the book on university endowment management. His recently revised edition of Pioneering Portfolio Management: An Unconventional Approach to Institutional Investment is considered the bible for institutional money managers. And luckily he has brought his message to individual investors with his book Unconventional Success: A Fundamental Approach to Personal Investment. What should our investment approach be? We're going to ask David Swensen next on Consuelo Mack WealthTrack. We are delighted to welcome in a WealthTrack television exclusive, the Chief Investment Officer of Yale's endowment, David Swensen. It's great to you have here on WealthTrack, thanks for joining us.

DAVID SWENSEN: It's my pleasure, thank you.

CONSUELO MACK: Let me ask you about what you've done at Yale. 24 years ago you arrived at Yale at the tender age of 31, and their endowment was then $1 billion. As I just said, it went up to $22.9 billion and is now down to around $17 billion. But you decided to make some really radical changes in the mix of the portfolio. What was wrong with the old mix? What was it when you got there, and why did you decide to make those changes?

DAVID SWENSEN: So when I arrived at Yale, it was April 1, 1985. There's an April Fool's joke there somewhere.

CONSUELO MACK: Perhaps, yeah.DAVID SWENSEN: I was totally unencumbered with formal investment management experience, and the first thing I did was to look around and see how it was that other institutions invested their funds.


DAVID SWENSEN: I saw colleges and universities had, on average, 50% of their portfolio in U.S. stocks, 40% in U.S. bonds and cash, and 10% in a smattering of alternatives. If you think about that, both from a common sense perspective and from a finance theoretical perspective, it doesn't make any sense. First of all, diversification is a great thing.

CONSUELO MACK: And it was even known back then in 1985 that diversification was a great thing.

DAVID SWENSEN: Even in 1985. Harry Markowitz, probably the father of modern portfolio theory, says diversification is a free lunch. We teach our students in introductory economics, there ain't no such thing as a free lunch, but diversification is, for a given level of risk, you can generate higher returns if you diversify.

CONSUELO MACK: And diversification means a lot of different things to a lot of different people. So in 1985 at Yale and a lot of other endowments, they thought they were diversified, right, or maybe they didn't?

DAVID SWENSEN: Maybe they were diversified when you looked at their holdings of domestic equities and maybe they were diversified if you took a look at their holdings of the bonds, but there's no way that you can argue, having 50% of your assets in a single asset class - U.S. stocks - or having 90% of your assets in U.S. marketable securities represent diversification. The portfolio's simply failed that test.

CONSUELO MACK: So how did you get from you just described to what I just described in my opening remarks, a radically different portfolio, and why did you go the direction that you went? You're really vastly under-weighting the domestic stocks and bonds that you just talked about.

DAVID SWENSEN: There's one other important element that underpins the strategy. And that's that if you have a long investment horizon...

CONSUELO MACK: Which an endowment does.

DAVID SWENSEN: Which an endowment does. And which we do when we when we start our careers, and it becomes increasingly shorter as we get older, but this principle applies to a great many individual investors as well, with a long time horizon you should have an equity orientation.

CONSUELO MACK: An equity orientation because?

DAVID SWENSEN: Because over longer period of time, equities are going to deliver better results. If they don't, then capitalism isn't working. And we could well be at a point where investments and equities are going to produce returns going forward that are higher than what we've seen in the past five or ten years, and we could well be in the position where bonds are priced to produce lower returns. When you see Treasuries with coupons of two, two and a half or three percent, that doesn't really bode well for prospective returns.

CONSUELO MACK: So a lot of people listening out there are going to say, "So what does David Swensen think the returns we are going to get are going to be from equities?" So what do you think, equity returns - what should we expect in returns from equities, in the next 5, 10, 20 years?

DAVID SWENSEN: Those are questions that are really impossible to answer.


DAVID SWENSEN: And one of the difficulties of this current crisis is that we have to think about securities markets more from the top-down basis or a macro basis than is the case when we're not facing the type of crisis that we've lived through in the past six or nine months or a year.

CONSUELO MACK: Right. Is that what you're doing now? Are you looking at the process through a macro screen, essentially? And if so, take us - take us through that process.

DAVID SWENSEN: I'm religiously bottom-up in everything that we do.

CONSUELO MACK: Bottom bottom-up, not top-down.

DAVID SWENSEN: Bottom-up, not top-down. But the crisis forces to you thinktop-down in ways that would, I think, be unproductive in normal circumstances, or absolutely necessary in the midst of a crisis. You have to think about the functioning of the credit system. You have to think about the potential impact of monetary policy on markets over the next 5 or 10 or 15 years. And I guess this is kind of a long way of cycling back to your question about what kind of returns do we expect from equities and perhaps other asset classes going forward, and, you know, I would say with today as a starting point, you could expect over reasonable periods of time to be rewarded for equity exposure. It's certainly a better time to put money in the stock market than a year ago, or three years ago or five years ago because you've got a much more attractive entry point.

CONSUELO MACK: Let me ask you about what we were talking about before as well. You looked at the endowment as it was invested in 1985 and you saw that it really wasn't well diversified, and all the studies, you are absolutely right, show that broad diversification pays off over long periods of time, so, and this is a question you've had many times, but a lot of people are saying now, diversification didn't pay off. And in fact the Yale endowment was down 25% from June to December of last year. You have an answer for that, and that answer is?

DAVID SWENSEN: Well, that I think in the first instance, diversification isn't going to help in the midst of a financial crisis, or at least the type of diversification that you see in institutional portfolios like Yale's. Diversification failed in 1987. It failed in 1998. And it failed again in this current crisis, because in these panics that we experienced in '87 and '98 and the one that we're experiencing currently, only two things matter - risk and safety. And people move away from risk, and they move toward the safety of holdings of Treasury securities. And that causes the price of all risky assets to go down simultaneously. And it also causes the price of Treasuries to go up dramatically. It happened in '87, it happened in '98, and it's happening today in a way that's far more pervasive and far more profound. And you have to move beyond the time, the immediate time of the crisis to see the benefits of diversification.

CONSUELO MACK: So were there any lessons that you learned in the financial crisis that we've just come through and we're still kind of clawing our way out of, investment lessons, anything that you would now do differently in the future than you did you in the past?

DAVID SWENSEN: I'm not sure that the crisis has caused us to conclude that we would do things differently, but it certainly highlighted the importance of liquidity. One of the things that I've said consistently, and I still continue to believe to be true, is that investors get paid unreasonable amounts for accepting illiquidity in their portfolios.

CONSUELO MACK: So hedge funds, private equity funds, right.

DAVID SWENSEN: And even if you look in the government bond market, there are illiquid Treasury securities where you get a substantial premium relative to Treasuries that are liquid or on the run. And then beyond that, there are full faith and credit instruments of the U.S. government that aren't standard Treasury securities that pay you even more. And it's solely a function of liquidity. So almost everywhere in the investment world, you can find illiquid alternatives that will pay a premium rate of return, but you've got to be able to manage the portfolio through a period of crisis, and make sure that you generate the liquidity that you need to support, in this case Yale University, and you've got to be in a position to generate the liquidity that you need to support your portfolio management activities.

CONSUELO MACK: I want to bring this back to the individual as well because I know you're very interested in helping the rest of us, and in Unconventional Success, which is your book for individuals, you stress asset allocation, diversification, how important that is, a couple of major principles. So tell us a little bit about - give us a thumbnail sketch of why diversification for individuals is so important and how we can figure out the appropriate asset allocation as well, which strikes me as difficult.

DAVID SWENSEN: So I think the same basic principles apply to institutions and individuals in terms of the importance of asset allocation and having a diversified and equity-oriented portfolio. When I started writing Unconventional Success what I wanted to do, was take Pioneering Portfolio Management and essentially translate it into a book for individuals that would follow the same type of strategy that we pursued at Yale. But I knew that there would have to be different investment tools.


DAVID SWENSEN: That would be available to individuals because much of what we do at Yale was in vehicles that are only open to institutions. And I was really disappointed to find that I couldn't translate what we do at Yale directly to the portfolios that individuals hold.

CONSUELO MACK: And because you couldn't find the kind of active management available to individuals that you can find, obviously, at Yale.

DAVID SWENSEN: That's exactly it. You couldn't find high-quality active management for all the various asset classes that we've got at Yale for the individual investor. And so I came to the conclusion that the individual has to have a radically different portfolio. I actually came to the conclusion that in the investment world, you need to be on either one end of the continuum or the other end of the continuum. You either need to be very, very active and we are at Yale. I've got 20 investment professionals in the investments office who are devoting their careers to finding these high-quality active management opportunities. Or you should be on the other end of the spectrum, and you should be completely passive.

CONSUELO MACK: And that's where most of us, including myself, you think I belong. But why can't I hire 20 terrific, you know, mutual fund managers, just buy different mutual funds and allocate them among the different asset allocation classes. Why doesn't that work for me but it works for you?DAVID SWENSEN: The problem is the quality of the management in the mutual fund industry is not particularly high, and you pay an extraordinarily high price for that not-very-good management. I cited a study by Rob Arnott in my book and he looks at 20 years worth of mutual fund returns and comes to the conclusion that you have about a 15% chance, 15% chance of beating the market after fees and after taxes. And his study suffers from what all studies suffer from, something called survivor bias. You only get to look at the funds that have been in business for 20 years. But the mortality rate is stunning. There's a center for research and security prices survivorship-free database that has 30,000 mutual funds in it. Well, 20,000 of them are alive and kicking and10,000 of them are dead.

CONSUELO MACK: Why is it in the investment world - we try to, on WealthTrack, try to interview the top investment managers, and many of them are mutual fund managers, the kind of the crème de la crème. Why is it that I can't as an individual pick kind of the best mutual fund managers, just like I would pick the best doctor and best lawyer, in the financial world? Why doesn't it work?

DAVID SWENSEN: Well, there are a number of ways that you can answer the question. So we say after fees, after taxes. Well, fees are too high, right. So that's something that you see throughout the entire industry. And of course we're not talking about the index funds because index funds are--

CONSUELO MACK: Where you think we should be.

DAVID SWENSEN: They're a low-cost way of getting exposure to the market. Why are the tax bills so high? Because turnover's too high. The mutual fund managers are trading the portfolios as if taxes don't matter, and taxes do matter. And they're trading the portfolios as if transaction cost and market impact don't matter, and they do matter, and as they trade the portfolios, basically what's happening is that Wall Street is siphoning off its slice of the pie, and I guess that's a mixed metaphor. Sorry about that. And, you know, that's at the expense of the investor. But even if you end up finding that needle in a haystack, that mutual fund that is going to outperform over a long period of time, you as an investor- and I'm not just talking about individuals, this, unfortunately, is true of institutions as well- are likely to be motivated not by a pure, analytical, rational calculus, but by fear and by greed. Morningstar did a study which I think is absolutely fascinating, 10 years worth of returns for every one of the 17 categories of equity funds that they've got. And they compared dollar-weighted returns to time-weighted returns. Time-weighted returns are the returns you see in the prospectus. They're the returns you see in the advertisements. Dollar-weighted returns take into account investor cash flows. In every one of those 17 categories, dollar-weighted returns were less than the time-weighted returns, which meant that individuals got in after good performances and got out after bad performance. And so they were buying high and selling low. So they take this mutual fund industry, which produces a bunch of products that are not great to start with, and then they screw it up by chasing hot performance and selling after things turn cold.

CONSUELO MACK: It's definitely a problem with individuals.

DAVID SWENSEN: And institutions, too.

CONSUELO MACK: So your recommendation for individuals basically is to invest in index funds?


CONSUELO MACK: And your recommended asset allocation at this point would be for an equity-oriented investor, would be what?

DAVID SWENSEN: 30% in U.S. stocks. 15% in Treasury bonds. 15% in Treasury Inflation-Protected Securities. And then in my book, I talk about 20% in REITs. I've got a 15% allocation to foreign developed equities, and a 5% allocation to emerging markets.

CONSUELO MACK: Which I think you upped to 10%, right, in emerging markets?

DAVID SWENSEN: I think I would probably put some more in emerging markets. Maybe move that from 5 to10 and take the REITs and move it from 20 to 15.

CONSUELO MACK: But that would be a basic equity-oriented, growth-oriented portfolio that you think would provide the diversification you need. Another question, a lot of our viewers are older, either in retirement or nearing retirement. So how does that change the equation? How defensive should we get as we get closer to retirement?

DAVID SWENSEN: So I think that the best way to deal with getting older and moving from, let's say, the accumulation phase to the consumption phase, is simply to keep that risky portfolio intact but have a portfolio that's a blend of the risky portfolio and a riskless asset like cash or treasury inflation protected securities or something like that. And so, you know, when you're in your 30s or 40s or 50s, and you're saving for retirement, it should probably be 100% in the risky portfolio. But then as you grow older and get to the point where you're going to be actually consuming what it is that you've accumulated, to move out of the risky portfolio gradually into a combination of the risky portfolio and cash or Treasuries.

CONSUELO MACK: All right, that's very helpful. So David Swensen, I'm going to have to ask you now for the One Investment, the one thing we should all own some of in a long-term diversified portfolio. What would it be?

DAVID SWENSEN: So we talked earlier about the notion that this current crisis is causing up to think more top-down.


DAVID SWENSEN: And this is an investment that addresses some of the concerns that I have coming out of this crisis. We've had this massive fiscal stimulus, massive monetary stimulus, and it's hard to see how that doesn't translate into pretty substantial inflation, or at least pretty substantial risk of inflation.

CONSUELO MACK: Down the road at some point.

DAVID SWENSEN: Down the road at some point. So Treasury Inflation-ProtectedSecurities would be the One Investment that I would put on the table that should be in every investor's portfolio.

CONSUELO MACK: And another portfolio diversifier as well. Double duty...

DAVID SWENSEN: Absolutely. It does double duty in another way. If you own new-issue Treasury Inflation-Protected Securities they can actually protect you against deflation as well because you're guaranteed that you'll get your principle back. So new issue, Treasury Inflation-Protected Securities can do double duty in the portfolio.

CONSUELO MACK: So David Swensen, Yale's Chief Investment Officer, thank you so much for joining us on WealthTrack.


CONSUELO MACK: And we have to conclude this edition of WealthTrack. To watch this program again, just go to our website, Starting on Monday you can see it as a podcast or as streaming video. And in addition, if you want to hear my extended interview with David Swensen, it will be available to our newsletter subscribers early next week. All you have to do is go to and sign up. It is all free. Thanks so much for visiting with us, and make the week ahead a profitable and a productive one.

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Susan Boyle

From another Myspace or Youtube, so probably the same, but so what; it's compelling:

Oh Oh to Mortgages

Vikram Saxena's article on the bond markets collapse yesterday:

Tech Tips -- Social Security

not really a tech tip, but valuable for a generalist lawyer:'s-Social-Security-Age-Matters?mod=fidelity-livingretirement

Kristof -- Also Clear and Good

Neural indications of Republicans and Democrats:

Collins -- So Clear and Good

Why doesn't the government just make the student loans directly?

Wednesday, May 27, 2009

Baseline Scenerio

Long but worth it:

The Baseline Scenario
The Crisis Is Over, And We Wasted It
Posted: 26 May 2009 06:22 AM PDT
Rahm Emanuel reportedly has a doctrine: Never let a serious crisis go to waste. His point is a good one - vested interests usually block change across a wide range of important issues in the US, and a major financial/economic crisis provides an opportunity to bypass or breakthrough those interests in order to introduce meaningful and substantial change. Emanuel listed (from the 1:40 minute mark) five priority areas for change: health care (cost control and expansion of coverage), energy (independence and alternatives), taxes (fairness and simplicity), education (fundamental changes to effectively train the workforce), and financial regulation (transparency and accountability).
The financial crisis is abating - although the economic costs continue to mount and new problems may still appear (ask California or Ukraine). At least among the people I talk with on Capitol Hill, there is a very real sense that business is returning to usual; certainly, the lobbyists are out in force, they want what they always want, and it’s hard to see many of them as seriously weakened. How much progress have we made on any of Emanuel’s priority areas or, for that matter, along any other public policy dimension that was previously stuck?
The charitable answer would be: this is still a work in progress and you cannot expect miracles overnight. True, but Rahm’s Doctrine (as Larry Summers apparently calls it) says that you should implement irreversible change while you still have the chance. Tell me if I missed something, but has there been any breakthrough of any kind? Was it wrapped up in the fiscal stimulus? Is the credit card bill a bigger blow to vested interests than we have so far recognized? Has there been some secret progress on healthcare (although than a vague and apparently deniable pledge drive)? Were the bank stress tests more subtle than meets the eye?
We discussed this issue on Bill Mayer’s Overtime segment from about the 2:20 minute mark on Friday. Jon Meacham just interviewed President Obama and came away with no clear sense of where the President is really pushing to make fundamental change – although Jon and Bill nicely summarize where he is compromising (from about the 4 minute mark of Overtime).
On financial sector issues, the lobbies look stronger than ever. “You can’t recover without us” appears to be a winning slogan for big banks and their appointees. Tough financial regulation may still appear later this year, but it looks like an uphill struggle – and there is no sense that the administration even wants to break vested interests in this sphere.
Perhaps Rahm’s Doctrine was overly optimistic as a broad aspiration, but at least on the financial front some tangible opportunities went to waste.
By Simon Johnson

What Good Is It, Anyway?
Posted: 25 May 2009 08:26 PM PDT
Behind the ephemeral debates over the financial crisis and the bailouts it has spawned, there is a broader debate about the financial sector as a whole: what good is it, how much of it do we need, and how do we know if it is working?
There are many descriptions of what the financial sector does, but most of them have something to do with moving capital (money) from someone who has more than he needs to someone who could use a bit more. And I think most people would agree that is a good thing, as long as the latter person has some productive use for it. Mike at Rortybomb, in “The Financial Sector We Want,” describes a doctor saving up $1,000 more than she needs for consumption and lending it to a factory, which returns her $1,100 after a year. In real life, we need some kind of a financial sector to get the money from the doctor to the factory, even if it’s just a single local bank. Everyone is happy.
When you start asking how big the financial sector should be, and whether or not it is working properly, things get more complicated. One of the Economist’s Free Exchange bloggers took the position that financial innovation is generally good in and of itself, although it has a high risk of creating “negative spillovers” – a higher risk than for non-financial innovation: “Most financial innovations are positive, and we don’t know ex ante which will be negative, so giving ourselves the power to block certain innovations because they might have negative spillovers is risky.” At first blush, this seems like a reasonable extension from real-world innovation to financial innovation.
However, Mike (Rortybomb) has an interesting counter-argument. Financial innovation, he says, is not like real-world innovation; the former only creates value if it solves an existing market imperfection. Figuring out which factories are worth investing in – so the doctor doesn’t have to worry about it – solves a market imperfection. But his point is that it’s the factory that’s creating the value; the financial sector is helping make that possible. So, he argues, if someone figures out a way to get a higher yield out of a risk-free investment (and that was the point of the CDO boom, where you could create a “super-senior, better-than-AAA” bond that paid a higher yield than Treasuries), then you either have to show what market imperfection it is solving, or it isn’t actually risk-free. In most cases, he suspects, innovation that generates a higher return does so simply by taking on more risk.
So what are we to make of the last quarter-century, when the financial sector got bigger and bigger and the people in it got richer and richer?
An instinctive free-market reaction might be to assume that the financial sector was doing great things, and that the people getting rich deserved to. But from Mike’s perspective, you have to ask: did people suddenly discover how to fix such massive market imperfections that they deserved to make that much money for so long? Ryan Avent put it this way:
Frankly, I have no idea what most of the recent growth in finance was for. . . . To get back to Mike’s original point, when you have a few people taking home billions, that’s a sign of either very good luck or some brilliant new strategy. When you have a lot of people in finance taking home billions, then something has gone badly wrong. Either something unsustainable is building, or there are some serious inefficiencies in the market.
And Felix Salmon, I think, pinpointed the crucial issue. If the financial sector was doing such a good job innovating, then it shouldn’t have continued making so much money.
[O]ne would hope and expect that between sell-side productivity gains and a rise in the sophistication of the buy side, any increase in America’s financing needs would be met without any rise in the percentage of the economy taken up by the financial sector. That it wasn’t is an indication, on its face, that the financial sector in aggregate signally failed to improve at doing its job over the post-war decades — a failure which was then underlined by the excesses of the current decade and the subsequent global economic meltdown.
Ordinarily, if an industry innovates, a few people make a lot of money, and then most of the benefits flow to that industry’s customers. Let’s take one of the greatest examples of recent history: Microsoft and Intel together probably created a handful of billionaires and a few thousand multi-millionaires out of their employees; but for at least the last ten years, no one going there has gotten anything more than a decent salary and a good resume credential. As computers get smaller, cheaper, and faster, the benefits flow overwhelmingly to their customers – to us. And those are near-monopolies. The general pattern in the technology industry is that a few entrepreneurs make a lot of money, and the vast majority of people make a decent salary; even the highly-educated, highly-trained, hard-working software developers, most of whom could have been “financial” engineers, are making less than a banker one year out of business school.
That’s the way innovation is supposed to work. You invent something great, you make a lot of money, then your competitors copy you, prices go down, and the long-term benefits go to the customers. And you and your competitors all get more efficient, meaning that you can do the same amount of stuff at a lower cost than before. If you want to make another killing, you have to invent something new, or at least invent a better way of doing something you already do.
By contrast, the historical pattern of the financial sector – rising revenues, rising profits, and rising average individual compensation – is what you get if there is increasing demand for your services and, instead of competing to lower costs and prices, you limit supply. Sure, prices fell on some financial products, but financial institutions encouraged substitution away from them into new, more expensive products, with the net effect of increasing profitability (and compensation). Why this happened I won’t try to get into here, but it would be worth understanding if we want to reduce the chances of living through this crisis again in our lifetimes.
By James Kwak

The Judicial Nomination of Judge Sotomayor for the US Supreme Court

You should read this NYT article on Obama's choice of Judge Sotomayor this morning, and my comment posted therein, which I repeat here:

Sotomayor’s Rulings Are Exhaustive but Often Narrow
8:11 am

Wednesday, May 27, 2009

News Analysis: Sotomayor’s Rulings Are Exhaustive but Often NarrowBack to Article »
Judge Sonia Sotomayor’s opinions are marked by diligence, depth and unflashy competence, but reveal no larger vision.
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May 27th, 2009 8:10 am
This article, and the discussion of the case that was handled in a cursory fashion, leads to a hitherto unreported shame of the federal courts -- the skirting of the rules to dismiss discrimination cases at the "summary judgment" stage, so that there is no opportunity to have the jury hear and decide the case.

As a trial and appellate lawyer representing individuals who have been discriminated against, and practicing in Cincinnati, where the Sixth Circuit Court of Appeals "resides," (more on "resides" later) I have personally witnessed (and suffered from) this tragedy in case after case, by both Republican and Democratic (and so-called liberal) appointments, and I have attended a Federal Bar Association conference at the Hilton at Weston in Columbus (2005 or so) where the first speaker, speaking mainly to federal judges and corporate defense lawyers, called discrimination cases "the slip and fall cases of the federal bar," thus "educating" the newer attendees that it was all right to throw the cases out, or into the dustbin.

From the federal judge's point of view (I imagine) these cases take a lot of time as each one is fact-intensive and the issue is not simple (to decide)--whether there was "intent" by the employer (to discriminate). Also, once the judge has heard the case at the preliminary stage of summary judgment he becomes bored with the prospect of having to sit through a week trial while the jury hears the same facts, so he dismisses it.

This problem does not exist so much in the state courts on these types of cases, nor in "good cause" cases where there is a public employee or union and a statutory duty of the employer not to dismiss an employee except for good cause. In state courts, however, there are other problems dealing with quality and knowledge-base of the judge.

I am also struck by the articles and interviews (e.g. Charlie Rose last night) over yesterday's appointment, that are ignorant that on the federal circuit courts cases are heard only by a panel of three (out of perhaps 18 judges) and therefore one judge may not sit in on many cases or "know" another given judge. Plus the judges live scattered and separated lives throughout the circuit (usually 3-7 states) territory and only fly in for the week they are hearing cases.

Your article should be read along with the New Yorker's recent piece by Jeffrey Toobin on Justice Roberts. I was especially interested in the obvious fact that Justice Roberts, along with many of the judges in the federal system, have spent their professional lives (pre-appointment) among other millionaire lawyers, in the big cororate law firms (I started out in one myself and know the environment), and cannot even comprehend the environment of the practicing plaintiff's lawyer representing discrimination victims.

Grisham's recent book, "The Associate," has already started to turn heads and the concept of "the chargeable hour." I have taken the time to "Nuance" and therefore quote verbatim a couple of passages from that book on my blog (search for "Grisham" therein).

In one he makes the simple but amazingly correct point that once the top-of-class star is wined and dined the one summer, going to Yankee games, doing simple but interesting tasks, socializing with designated partners, then is hired the following spring (big NY law firm practice), "his life is essentially over." Plain and simple.
— bruce abel, cincinnati
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Tuesday, May 26, 2009

More on "Mum" and "Pup"

After telling people about the interview of Christopher Buckley with Charlie Rose last week, I went back to my blog on this topic (when William F. Buckley died). I now see that there is a wonderful slide show with Christopher's voice-over added:

Burler Crittenden -- San Francisco

Read this comment on this important Opinion piece by Herbert from the NYT this morning.

Monday, May 25, 2009

Susan Boyle and Why You-Tube is Not making Money on Susan Boyle

First, listen to Susan:

After listening to the following version of "Memories" from Cats by Sarah Brightman

after you listen to Susan. Both are great to bring tears on a leafy, sweet, Memorial Day morning in Cincinnati.

Susan takes a while to get into it; Sarah nails it from the start on this, my favorite song.

Read the excellent comments after the Susan Boyle clip.

Roger Cohen -- So Good it Hurts

Krugman --California, a State in Paralysis

In many ways this article is core. After all it limns the proper cause of California's and the Republican's idiotic theories of government and downfall.

Reagan, Rush Limbaugh, deregulation in all its forms, including Proposition 13.

God help the rest of the country too.

Saturday, May 23, 2009

David F. Swensen

A must, must, program on Consuelo Mack this morning. Here's what's available now, with full transcript coming soon:
And here's an analysis which I do not find very good, in from a year and a half ago:


From Christopher Buckley, on Charlie Rose earlier this week, talking about his dad William F.:

"I found this quote by Carlyle: 'Let me have my own way exactly in everything and a sunnier and more pleasant creature does not exist.'"

Best ETF's for a Falling Dollar

Countdown to Closing on May 28, 2009

The Poet of Property

Dian Hymer

This real estate columnist is worth paying $149/year for.

Friday, May 22, 2009

Very Interesting Analysis of Cramer and His Picks

Krugman -- Blue Double Cross

Oh, oh, not so good on the health care front:

Buyer Taking Possession Before Closing


Who is doing the repairs? If the buyer himself, how do we know he will do it properly. That is the situation with 885 Greenville. We met Matt and Becky yesterday at the Steve and Marla Varmuza/then Carol and Paul Beard's Memorial Day and they did a good job and did it themselves with good tools of one of their fathers.

Taking possession of home before closing gets risky
By Dian Hymer
November 29, 2004
Rarely do you find a home to buy that's in exactly the condition you'd like it to be. Even if the home is new, relatively new or well-maintained, you may want to make changes to the decor so that it suits your style preferences and works with your possessions.It would be great if this sort of work could be done before you move in. If the home you're buying is vacant, what's wrong with taking possession early and completing the improvements before closing?
There are risks for both buyers and sellers if a buyer does work before the purchase transaction closes. As a buyer, keep in mind that when you do the work before closing, you're improving a property that belongs to someone else. If the closing doesn't occur for some reason, it may be hard to get your money back.

From the seller's standpoint, what if the buyers back out at the last minute and leave the house in a state of disarray? You then have to complete the buyer's handiwork, or undo it and redo it before you can put the property back on the market. You could also face the threat of mechanics liens from contractors that you didn't hire, but that the buyer didn't pay.
HOUSE HUNTING TIP: Having work done to a property before you move in is a great idea. But, the safest strategy is to line up contractors ahead of time who can start work immediately after closing. Delay your move until the work is done.
A listing that's empty before closing would seem to provide opportunities for buyers who are having trouble juggling their move. Often home sale transactions are linked together with tight time frames between each party's move.


Let's say you've sold your home to someone who is anxious to get into your home because he has sold to someone who has sold his home to yet another buyer. No one can start moving until you move out of your home. If the home you're buying is vacant, why not request permission to move in before closing and help solve everyone's moving dilemma?
One home seller who moved out of her house before closing was badgered by the buyer to let him move in early. She stood firm and said no. The day before closing, the deal fell apart. Apparently, the buyer was divorced and delinquent on his support payments. A lien was slapped on him just before closing that meant he no longer qualified to buy the house. If the seller had let him move in early, she would have ended up with a tenant in the house that she would then have to resell. It can be difficult to get a tenant who is in possession out of a property. And, tenant-occupied properties are usually more difficult to sell.

Rather than move in early, some buyers ask for permission to start moving some of their possessions in early, perhaps just into the garage. This scenario also poses risks for buyers and sellers. Who is responsible if a buyer falls and injures himself on the seller's property while moving his things in? Who's responsible if the buyer's possessions are stolen from the seller's garage? The seller's homeowner's insurance is usually in effect until he ceases to be the owner. But, his insurance may not cover the buyer's possessions.
THE CLOSING: It's better for the buyer to take possession after closing. However, if a buyer does take early possession, there should be an ironclad agreement drafted by an attorney to cover the various what-if scenarios.
Dian Hymer is author of "House Hunting, The Take-Along Workbook for Home Buyers," and "Starting Out, The Complete Home Buyer's Guide," Chronicle Books.
Copyright 2004 Dian Hymer

Brooks Loves Obama

Remember the third grade when girls' notes would be passed around "Bruce loves Nancy," etc.

Well, "Brooks loves Obama."

What a difference from first grade when David Brooks was unabashedly praising Bush. (Actually, in a way he still is -- just not Cheney).

Seize the Day

I "made" $500 yesterday by picking up the phone and holding Schwab to a promise that I had wheedled out of them in February.

As readers of this blog know, I decided in January to start trading again, the investment advisers having failed. (I having failed 8 years ago myself in the "little" world I set aside for trading.)

After opening my account and trading a couple of weeks in February I saw an ad on CNBC which said anyone who is an active trader who opens an account gets 50 free trades, whereas each trade is normally $8.95.

So I called Schwab then and talked to someone who, after some skirmishing over a "slippage" matter that cost me $400, agreed to give me that 50 free trades as soon as I put the minimum $25,000 into my account.

Then I lost my notes of the telephone call and nothing happened although I did put the $25,000 into the account.

Last night as I was preparing to go out I flipped on CNBC and saw the same ad. I called Schwab and explained the situation. After checking my account the good guy said "You've got it."

Pay attention to those ads. Seize the day!