Sunday, March 31, 2013

New Music from Old Men

March delivered several new releases from some older rock stars - David Bowie, Eric Clapton, and Boz Scaggs in particular.  Since Bowie's first album in 10 years naturally got a lot of publicity (has he run through the $55 million he got from securitizing his songs and albums?)  and since Clapton is probably worth more even than Bowie, given his recent sale of a Gerhard Richter painting for $34 million (although you have to deduct Sotheby's commission and taxes to come up with his take, which I would bet does not exceed $15 million), I want to spend a minute on the highlights of Boz Scaggs's release, Memphis.

First, his voice, unlike so many other senior citizens, has held up well over over time (he's 69 this year).  It still is a very distinctive mixture of tenderness and roguishness, Rod Stewart without the sandpaper, or a more limited-range Al Green, and the voice betrays no more breaks or wavers in it than decades ago.

Second, the material on the album plays to Boz's strengths, with several mid-tempo R&B/soul covers, including an Al Green song, naturally enough, where you can hear the similarities between them, and the minor 70's hits "Love On A Two-Way Street" and "Can I Change My Mind", the latter of which I quite like.  He also covers a couple of up-tempo songs from Mink DeVille a minor late 70's garage band, and offers up a strong blues number called "Dry Spell".

I thought the best songs on the album were the tenderly sung folksong "Corrina, Corrina" and his nicely understated version of "Rainy Night in Georgia", a perfect match of material to vocalist.  

I did not know that Boz and his wife have a certified-organic vineyard in the Mt. Veeder Appellation in Napa, where they grow syrah, grenache and mourvedre and make Rhone-style wines. Unfortunately their website provides no information about tastings, but it's something to look into.

Boz is supposed to start touring in support of the album.  Recent review here.

NML v. Argentina, Post 3

Completely unsurprisingly, when four weeks afforded by the Second Circuit's March 1 order  in NML Capital, Ltd. v. Republic of Argentina, ran out, Argentina failed to provide a substantive response to the court's directive that it specify:

(1) how and when it proposes to make current those debt obligations on the
original bonds that have gone unpaid over the last 11 years;

(2) the rate at which it proposes to repay debt obligations on the original bonds going forward; and

(3) what assurances, if any, it can provide that the official government action
necessary to implement its proposal will be taken, and the timetable for such

Instead, Argentina repeated the offer to perform the exchange from which the plaintiff, among others, held out several years ago, along with a few pages of rationalization for doing so, which implicitly means the answer to the Second Circuit is:

(1) no thank you;
(2) none;
(3) not applicable, given (1) & (2).

Presumably, the Second Circuit, which separately last week denied Argentina's request for rehearing en banc, will now deliver the smackdown that Argentina deserves for disrespecting the U.S. legal system so thoroughly.  Argentina will probably file a cert petition, but the issue here is really just one of state law contractual interpretation and doesn't belong in the Supreme Court at all.

I can't imagine how anyone expected anything else from Argentina.  When its senior government officials attended the oral argument at which its counsel took a hardline position, it was obvious that Argentina was perfectly happy to default on the exchange bonds as well.  Under the Kirchner and Fernandez governments,  Argentina has made taking other people's money a core policy.  Here is a summary of their policies prepared by Simon Black, who blogs at Sovereign Man:

Just since 2010, President Cristina Fernandez has–
  • Nationalized private pensions, plundering the retirement savings of her people.
  • Increased tax rates across the board– income, VAT, import duties, etc. as well as imposed a new wealth tax.
  • Inflated Argentina’s money supply, printing currency with wanton abandon; M2 money supply has increased 215% in the past three years.
  • Driven the value and purchasing power of the currency down by 50%. Street-level inflation is now 30%+ per year.
  • Made a mockery of official statistics, comically understating the level of Argentine inflation and unemployment. She even began punishing economists for publishing private estimates of inflation that didn’t jive with the government figures.
  • Taken over control of one industry after another, most notably the nationalization of Spanish oil firm YPF’s Argentine assets.
  • Imposed export controls of agriculture products from beef to grains, forcing growers to sell at artificially lower domestic prices.
  • Imposed capital controls, reducing her citizens’ capability to dump their poorly performing currency and hold gold, dollars, euros, or anything else.
  • Imposed a two month ‘price freeze’ on items in the supermarket, and encouraged retail consumers to rat out any grocer that doesn’t abide by the government order.
  • Imposed controls over the media, most recently ordered an advertising ban in Argentine newspapers (weakening their financial position).
If anything, a court ruling that leads to default is a political windfall for Fernandez: first, her government gets to hold on to the money they would otherwise have paid the exchange bondholders, money they obviously need given their repeated confiscations of other people's money;  second, at home, she can position herself as standing up to the wealthy and the powerful by not backing down one inch; while, third, to investors elsewhere in the world, Argentina can blame the court for the default and claim that they were the reasonable party, and seek to distinguish this incident from its historical practice of unilaterally defaulting. So from her government's perspective, the hardline position has always been the one that made sense politically.

Like several other chief executives throughout South America, Fernandez practices "chavismo-lite", following in the steps of Hugo Chavez by taking private property as necessary to fund government spending, particularly on programs that elicit support from lower-income voters, who turn out to keep the leader in power.  It's undeniable that this drives up annual GDP, but only because GDP is just an estimate of annual transactions in goods and  services, and ignores completely whether anything of lasting value has been created.  (An insight surprisingly printed in the Times yesterday quoting Alistair Thornton, a China economist, speaking about the environmental devastation wrought by China's GDP growth: “Digging a hole and filling it back in again gives you G.D.P. growth. It doesn’t give you economic value. A lot of the activity in China over the last few years has been digging holes to fill them back in again — anything from bailing out failing solar companies to ignoring the ‘externalities’ of economic growth.” Did the editors recognize this as a jab at Paul Krugman, the man who advocates digging up ditches and filling them again?)

The same is true of Argentina and Venezuela's superficial GDP growth.  It's come by confiscating private property, which, for there to be sustainable economic activity, has instead to be protected. As Margaret Thacher famously said, “The problem with socialism is that you eventually run out of other people's money.”  Sooner or later, Argentina and Venezuela will.  And what better way to end a post about Argentina than with a quote from the woman who defeated them in the Falklands?

News from Nita

I got an email from Congresswoman Nita Lowey over the weekend called "News from Nita".  In it, in addition to the usual nonsense politicians spew about all the government spending they're working to bring into their district at someone else's expense, Rep. Lowey wants us to know that "It's time to overturn DOMA because it isn't constitutional and it discriminates against loving, committed same-sex couples by denying them their constitutional rights. The law is simply inconsistent with the principles of freedom, equality, and justice for all." 

What Lowey doesn't bother to report is that she voted for DOMA, along with 341 other members of the House in 1996. She was for it before she was against it. Maybe in 1996 she misunderstood her oath of office and thought she was supposed to be denying Constitutional rights as opposed to voting to uphold them.

A basic aspect of the law of fraud is that there are two ways to commit fraud.  One is to make a statement that contains false information.  The other is to omit information that is necessary to make one's other statements not misleading.  The latter is the reason, for instance, for the recitation of potential side effects that  dominates every pharmaceutical ad; you have to disclose the bad as well as the good.   It's a shame that hack politicians like Lowey aren't held to the same standard as the private sector.

Monday, March 25, 2013

Is Dijsselbloem Trying to Start Bank Runs Across Europe?

Eurogroup chair Jeroen Dijsselbloem, who led the negotiations that produced the initial Cyprus bailout program of haircutting all depositors via a "tax" on deposited amounts, demonstrated this afternoon a gift for consistency, when he told reporters that the revised program, which wipes out more than half the uninsured deposits at the two largest banks, on a combined basis, would serve as a template for further bank restructurings across the Eurozone.  The clarity of which undoubtedly inspired CFOs throughout the Eurozone to begin moving their deposits from Eurozone-regulated banks to those from other jurisdictions.  Because any business of any size is going to have over 100,000 euros on deposit in some bank.

Imagine you're a Mercedes dealer.  100,000 euros is what, two new car sales?  You may do that in a day.  You undoubtedly do more in a week.  Or you sell jet fuel to airlines that land at your local airport and they pay you monthly.  Your account might hold millions on a given day.  Well, Dijsselbloem has most helpfully informed you that you will be bearing the risk of its bank's balance sheet, in addition to your own of course.

I am just stunned at the failure of the people in charge of continental Europe to grasp basic facts about this very large sector of their economy. They moralize at the drop of a hat about derivatives and speculators and get all high & mighty about salary caps on bankers and asset managers, but they don't even understand the most basic facts about banking:  you can't have a banking system without a stable deposit base and none of the businesses in their multi-trillion euro economy can function if they don't have 100% confidence that their cash balances are safe overnight, so they really don't have a modern developed world economy without stable deposits.  There is no real-world scenario in which they have one without the other, whatever fantasies might occasionally bubble up in ideological self-indulgence about free market superiority, or populist rage about "banksters"  This incompetent appears to be putting not just the common currency at risk, about which there are differing views, but their whole economy at risk.  Whoever put him in place needs to find a replacement fast.

Tyler Cowen makes many good points about the situation.

Miscellaneous Links

I've been offline for a week, as household duties took precedence. With my wife and one of our children doing school visits, I was left to manage the other three children, plus four hens, three dogs, two cats and one guinea pig.  All of whom survived my care, which I consider a success. In this area of my life, I like to set the bar low.

To make up for lost time, I'm doing something different, just some links to good stuff and not so much text by me about them:

Sports:  Great analysis showing that Mark Gasol should be Defensive Player of the Year in the NBA. Meanwhile, Charlotte Bobcats get lost driving to the basket.

Finance / Economics:  (1) Great interview with Nassim Nicholas Taleb (author of The Black Swan, Fooled by Randomness and Antifragile) at  Main takeaways: (1) debt is bad, because it is rigid and not flexible like equity; (2) the genius of free markets and capitalism is not only that they show, through profits, where investments should be directed, but that they also show, through failure, where investments should not be directed.  Which government intervention in economic activity screws up (think Fannie and Freddie).

(2) A very good overview of "austerity" and deficit monetization in the UK

Venezuela (also file under Humor):  Interim President Maduro reports that the reason the Catholic Church elected a Pope from Latin America is that Hugo Chavez told God to make it happen: "Sabemos que nuestro Comandante ascendió a las alturas y tuvo un cara-a-cara con Cristo. Algo influenció la elección de un papa sudamericano. Alguien nuevo llegó al lado de Cristo y le dijo: bueno, nos parece que la hora sudamericana ha llegado” [We know our leader ascended to heaven and had a face-to-face meeting with Christ. Something influenced the election of a South American Pope. Someone arrived at Christ's side recently and said to him, "OK, it seems to us that South America's time has arrived"]. Apparently Chavez is smarter than God to his supporters.
Public Policy:  (1) Famously condescending liberal Bill Maher now realizes his tax rate is now over 50%, and that's not right.

(2)  Excellent look from NPR at how the disability part of Social Security has been turned quietly into a perpetual unemployment / welfare substitute for people who are neither disabled nor employable.  Explains how state governments hire private contractors (the "disability industrial complex") who take in tens of millions of dollars a year to push people off of state-funded welfare or unemployment programs onto SSI, which is 100% federally funded. Explains how parents are incentivized to keep their kids underperforming in school so they can keep getting a check from the federal government on account of the kids' "disability"; Nicholas Kristof wrote about this in the Times a couple of months ago as well).   Explains how SSI will run out of money within a generation unless it borrows from the Old-Age portion of Social Security (and thereby bankrupts that fund within two generations).

Troika Plays Russian Roulette in Cyprus; Laiki Takes the Bullet

So Cyprus and the troika have reached an agreement on the terms of the Cyprus bailout / bail-in.  With respect to the financial sector, which is the largest sector of the economy and the root of its insolvency,  the terms amount to a game of Russian roulette (maybe the troika thought the Russians would accept something named after them):

Insured depositors throughout the Cypriot banking sector are left unimpaired (it is ambiguous whether they remain subject to temporary withdrawal limits, as the press release says "Only uninsured deposits at BoC will remain frozen) or the capital controls yet to be determined).   At the two largest banks, referred to in the press release as BoC and Laiki, bondholders and equity appear to be wiped out.   At Laiki, uninsured depositors are also apparently wiped out.  Its performing assets and insured deposits apparently will be transferred to BoC, along with 9 billion euros of Emergency Liquidity Assistance from the ECB, and BoC's uninsured depositors will be equitized in some yet to be determined percentage to bring its capital ratio to 9%.  So one gets liquidated, the other gets reorganized.  Of course, all of this is "after having heard the Boards of Directors of BoC and Laiki" (what are they expected to say - please, allow us as fiduciaries to wipe out our stakeholders voluntarily and save you the trouble? Seriously, what Laiki director in his or her right mind would show up and vote for a complete zero for all of its stakeholders?).

The terms say nothing about any of the stakeholders (other than insured depositors) in other banks in Cyprus.  One cannot tell what the "newly adopted Banking Resolution Framework" consists of.  So for now, subject again to limits on withdrawals, stakeholders at every other bank appears to have escaped the troika's scythe for the time being. while Laiki is summarily executed.  That was the bank holding the pistol when it discharged, I guess.

This reminds me a great deal of the aberrant, ad hoc actions of Treasury Secretary Paulson during 2008. One bank is recapitalized on government dictated terms, supported by government financial aid, a la AIG or Bear Stearns.  Another is put out of business, a la Lehman. Others are left unscathed a la B of A.  No explanation is given what principle was applied to generate these disparate outcomes.

It remains to be seen how this seemingly random selection of winners and losers by distant bureaucrats affects market stability and liquidity even among the seeming winners.  In 2008, we saw significant second-order effects when the unplanned liquidation of Lehman in the US caused its substantial UK operations to freeze billions of dollars of investors' assets and the ripple effect that had on liquidity throughout the financial system worldwide. Already, as Business Insider reports, Laiki's UK affiliate (probably smaller than Lehman's fortunately) has frozen up.  Similarly, in 2008, the government-directed bankruptcy of Lehman promptly led to runs at other holding companies like Morgan Stanley and Wachovia that nearly bankrupted both of them.  I would expect that every depositor above 100,000 euros in every other bank in Cyprus (and even many below) would be trying to get their money out as fast as possible, most likely to send to Hong Kong or Singapore, which of course is why the Eurozone has required Cyprus to institute withdrawal limits and capital controls.  But those will just  cause liquidity issues for those depositors elsewhere in their affairs.  And in the long run, those banks are going to have to liquidate their own assets to meet even the reduced withdrawal demands, since no new money is going to come into them under current terms, except possibly via the Central Bank using funds supplied by ECB, also left unspecified in the term sheet.  And we saw similar liquidations of financial assets by leveraged investors in late 2008 after Lehman was shut down.

In so many ways, this seems a lot like what Paulson did in 2008, to disastrous effect.  The only difference may be (1) size and (2) hopefully many fewer of the depositors in Cyprus banks are not themselves leveraged financial firms, in which case the effects will not spill over as much.  That remains to be seen.

Macro Man translates the Eurogroup press release very nicely:

Monday, March 18, 2013

Elizabeth Warren Profoundly Misunderstands Labor Economics

According to HuffPo, Elizabeth Warren made one of the most nonsensical statements about economics that I have read in a long, long time last week in a hearing on the minimum wage:

"If we started in 1960 and we said that as productivity goes up, that is as workers are producing more, then the minimum wage is going to go up the same. And if that were the case then the minimum wage today would be about $22 an hour ... , with a minimum wage of $7.25 an hour, what happened to the other $14.75? It sure didn't go to the worker."

This shows such a profound misunderstanding of economics I had to write about it.  

Productivity, as used in labor economics, is the quotient that results when output is divided by some measurement of labor - often the number of workers (although it can be divided by a unit of labor, such as the hour, or the cost of workers as well).  Productivity can increase in several ways: (1) a static number of workers do their jobs better and produce more; (2) management figures out a way to generate the same output with less workers; (3) other players in the firm - management, owners, etc. - supply tools that enable the same number of workers to generate more output.  Obviously Warren is myopically implying that all increases in productivity result from actions covered by (1), and implying that the value that workers have heroically created has been inequitably captured by someone else (undoubtedly evil capitalists in the populist world-view that she and her adherents hold). 

This isn't true generally and it certainly isn't true of minimum wage work.  The people stocking shelves, raking leaves and flipping burgers haven't become any more productive than their predecessors 50 years ago.  They're not stocking shelves, raking leaves or flipping burgers 16x faster than was the case 50 years ago. They're not creating any more value now than their predecessors did then.   Applied to minimum wage work, Warren's  thesis is ludicrously absurd.

More generally, it's also wrong.  If operating a farm at one point took 5 people, and 4 of them are replaced with machinery and all you need is one person to hook the machines together, climb on the tractor and go out and do the work, productivity has increased fivefold.  But not because the 5 workers are working 5x harder or smarter, but because you've replace 4 of them!  

If a production line took 50 people before automation, and with robots and lasers and much more precise machines, the same production line can turn out the same output with 5 workers programming the machines and monitoring the line for snafus, productivity has increased tenfold.  Again, that's not because the 50 are working 10 times harder, but because the employer has replaced 90% of them!  

If a company had 6 layers of management and the senior executives flatten the organization and get by with three, productivity doubles.  But it hasn't come about because the same workers are making decisions that are twice as lucrative. management. Rather, half of them are gone! 

Through technological advancement, capital investment or management insights, employers have figured out  ways to get the same results from less people by using available labor more efficiently. There is just less labor needed; i.e., demand goes down.  But because the supply, the population available to work, has not gone down in corresponding fashion, the workforce has much less ability to make claims on the continuing output, populist myths notwithstanding. 

In short, increases in labor productivity have been very much caused by factors other than labor: technology, management, etc.  In fact, there is a strong case to be made that productivity and employment are really in a long-term trend of decoupling; that gains in output will come entirely from the use of more technology, and employment will by default fall into sectors which cannot be made meaningfully more productive.  In some cases - health care, for instance - rising demand for the product may lead to rising incomes for those in the sector, especially if they have distinctive, differentiating skills.  But in other cases, where the population seeking jobs that aren't terribly productive is unskilled, the supply / demand relationship works very much against them.  The sectors of the economy that have become more efficient have been absorbing less of the labor market, shedding them in many cases, so, as new entrants come in to the market, the supply of labor continues to outstrip demand for it. That's just economics, not evil.  

So where has the money "gone" (which is a totally misleading question in that it implies it was the workers to begin with)? Firstly, it's "gone" to the suppliers of technology, both the designers of the technology and the large pool of laborers who produce it, many of whom are in Asia, not the US.  Secondly, to the suppliers of management decisions who figure out ways to generate output in leaner fashion.  And thirdly, to the business owners to invest in the technology and who hire the managers. Because those have been the main sources of productivity increases.  There's no connection at all between productivity increases in the economy at large and the labor that is performed by minimum wage workers. 

Chapter 11 Comes to Cyprus; Depositors Seek Critical Vendor Treatment

Cyprus bailout terms are in flux this morning, but the inclusion, in the terms announced over the weekend, of a one-time tax on depositors of 6.7% to 9.9% of the amount on deposit are producing major concerns over the safety of bank deposits throughout the eurozone and European bank stocks have been hit hard by the worries.

They call it a "tax" but it's also a default and a restructuring.  If you deposit 100 dollars and only get back 93 of them, that's a default in payment.  The mechanics of how that happens is a matter of form, but in substance, there has been a payment default.

Cyprus's banking sector appear to have acted as a financial hub that, in oversimplified fashion, took in deposits from Russian oligarchs far in excess of what could be loaned productively in Cyprus, and invested the surplus in Greek bonds.  Greek being itself insolvent, those bonds were haircut quite a bit in the Greek bailout, because they were held by "the private sector" and here we have the second order effects coming into focus.

It appears deposits up to 100,000 euros were insured but the insurer appears to be a government that is insolvent and unable to pay the insurance it held out.  So the various supranational organizations that are willing to bail Cyprus out are willing to do so in part but are also apparently trying to set an example for the future regarding the moral hazard of a poorly managed financial sector.

One thing that gets overlooked in most of the press reports is that the depositors will receive shares in the bank equal to half the value being deducted from their accounts.  This is why I refer to "Chapter 11" in the title of this post. This is the kind of thing that we might see in a chapter 11 - claims being converted to equity.  This is a very novel and potentially promising development for European restructurings in principle.  There is a lot of outrage being expressed about the confiscation of private property, and to some extent it's well deserved.  A government that borrows money and doesn't pay it back has indeed confiscated it.  But if it replaces the property taken with equal value, that is a different thing entirely so I hope that concept will be preserved in the renegotiation as it will be very useful over the long run of restructurings to come.

The problem, however, is that many depositors are feeling quite offended by the loss of principal, which was not a risk they thought they were taking.  Those of us who work on chapter 11 restructurings know this expression of bewildered outrage over a perceived injustice quite well.  We see it all the time, small investors who did not understand the risks they took in extending credit or buying equity in a firm that becomes insolvent and want special treatment.

The general philosophy of chapter 11 and bankruptcy in general is that special treatment is disfavored and losses should be spread ratably.  So we might say to the depositors, tough, you need to bear your share and you're lucky, frankly, you're not being wiped out much more.

However, some classes of creditors in chapter 11 do get special treatment.  One such class is "critical vendors", those whose continued business dealings with the firm are essential to keep it operating and generate value for other constituencies.  Because deposits are by far the cheapest way to fund a banking sector, and the largest proportion of its funding, I think depositors have a good argument for critical vendor status.  Getting deposits and being able to keep them over the long haul is essential to a bank's ability to lend money and that, for better or worse, is the main way economies function.  If the depository base becomes unstable because of a loss of confidence, whether we are talking about Cyprus or the Eurozone as a whole, then there could be significant harm to the functioning of the banking sector as a whole and thereafter the economy as a whole (in Europe, the financial sector is a much larger proportion of GDP than in the US).

One aspect of chapter 11 that is not being implemented in the Cyprus restructuring is a vote by the depositors on the conversion of some of their debt to equity.  But treating them as critical vendors and leaving them unimpaired would also avoid that sense of unfairness.  

In sum, although I think the idea of transforming claims to equity as part of the bailout is a positive addition to the policymakers' toolbox, I think the same policymakers would be wise to consider the knock-on effects for the banking sector across the Eurozone of the approach being taken to depositors and, as long as they are borrowing US chapter 11 techniques, recognize the utility of the "critical vendor" concept in respect of depositors.

Thursday, March 14, 2013

Vatican City Inks Top Free Agent

NFL free agency began on Tuesday and already the usually quiet Vatican City franchise has made headlines signing Jorge Bergoglio to fill the vacancy in its quarterback position that opened up with the surprise retirement of Benedict XVI, who resigned just hours before a lightning bolt thrown by team owner God The Father struck the basilica of St.Peter's where he was having supper.

In a statement released by the team late Wednesday, team owner God T. Father said "I've owned this team for over 2,000 years, and it's had a lot of successes in that time. I've generally been a hands-off owner --  except when fans pray really, really hard to me for their team to win, I sometime intervene to grant them their wishes, as you know.  But lately the franchise has not been performing up to its potential, and I'm hoping a change at the quarterback position can get us back to a championship level.  If not, I'll just give this guy a fatal illness and find someone else to take his place."

In a related statement, director of player personnel T. Holy Spirit said, "We looked at a lot of candidates, as you have to do when you're filling a position this important.  Tim Tebow was very high on our list, but we wanted a little more experience.  Although Jorge is not the most athletic option available, in our system, we don't need the quarterback to be an athlete.  His job is to put fans in the seats and get them to pay a tithe.  We've also got television channels that aren't producing anywhere near the revenue they should be.  We did a thorough job scouting everyone, reading their thoughts and all that, and considering that roughly half of our fan base is in Latin America, Jorge was a better fit than any other candidate to turn the franchise around and get it back to being the money-making machine it was just a few decades ago. If he doesn't, I'll just drop a few hundreds tongues of flame on his bald head and we'll go in a different direction."

Head coach Jesus Christ was quoted as saying "Jorge has been studying my playbook for several decades and I'm very confident he can step right in and run the offense at a high level right way, even without the benefit of a training camp.  More than anyone, I know the pressure that our owner puts on the quarterback, so I'll do what I can to help him adjust to the higher level of expectations."

The Gods were not available to take questions.

Bergoglio told reporters, "The opportunity to work one-on-one with Coach Christ on a daily basis was too good to pass up. If anyone can help me take my game to the next level, it's Him.  I know we have a passionate fan base and a very committed owner who makes sure we have a top quality worship facility, dedicated private jets, great food in the cafeteria, amazing uniforms, and all the little things that make Vatican City such a great place to play.  I look forward to finishing my career here and bringing God and the fans a whole bunch of championships in the years ahead."

Bergoglio's agent, Drew Rosenhaus, said, "The negotiations were tough but fair, as fair as they can be when you're bargaining with God.  Jorge wanted to be here and God has always been willing to open His checkbook to bring in elite talent, so we were able to work things out.  But let me be clear, it's not just about the money.  Or even the bling, although God knows there's plenty of that in the Vatican.  Jorge has taken a vow of poverty after all.  It's about the respect. Now I've gotta set up another meeting with God to see if He can find a place for T.O. on this roster."

Tuesday, March 12, 2013

Joe Nocera's Piece on the eToys Litigation is Utter Nonsense

Reading one of my favorite blogges, Matt Levene on Dealbreaker, I learned that Joe Nocera of the New York Times had recently gone ballistic about Goldman Sachs favoring investors over the issuer in the last-century IPO of eToys, which raised a lot of money and went out of business shortly thereafter within a few months, without ever making a profit. Apparently the thought behind the lawsuit is their stock had one of those first day of trading pops that happened often in the dot-com boom, and the litigation trustee for the bankruptcy estate contends that some of th rise in price should have been captured for the issuer through a higher IPO price (totally ignoring that, by any honest measure of its business viability, its IPO proceeds should have been 100% less).Nocera contends that "the company had been scammed" because money "that rightly belonged to the company had instead gone to investment clients."

Matt does a good job explaining why Nocera has no grasp of how IPO's work.  I only want to point out two things:  (1) the status of the lawsuit, which Nocera seriously misdescribes, and (2) the total contradiction between Nocera's apoplexy and his views at other times on legal responsibilities in securities offerings. 

True Status

The eToys lawsuit has been kicking around the New York state courts for a long time.  The most recent decision was in 2011 when an intermediate appellate court affirmed summary judgment in favor of Goldman Sachs that it owed no fiduciary duty to eToys. (I don't know if the case has been taken to the Court of Appeals.)

How does Nocera describe these facts?  Does he tell us that Goldman won so far?  Not at all. Here is all he says: "Goldman has argued that, contrary to popular belief, underwriters do not have a fiduciary duty to the companies they are underwriting. In recent years, this argument has held sway in the New York court system, although it has yet to be argued before the Court of Appeals."

That's clearly wrong.  An argument that has lost has not "held sway" in any court system.  And it's no longer just "Goldman argues."  Two levels of the judicial system have so held. 

And as for "popular belief", what in the world is he talking about?  Is there some Gallup poll on underwriters' fiduciary duties?  In fact, prior to writing that column, Nocera's own "popular belief" was pretty much the opposite, that institutions working with issuers are supposed to be looking out for investors in securities offerings.

Nocera's Contradictory Positions

Here's Nocera on PBS in 2010, discussing his book on the financial crisis: "I certainly would put the rating agencies right at the top of my list of bad guys, my list of devils."  "They're supposed to be protecting investors."  And writing in his Times column, Nocera refers to their "absurd conflicts of interest — starting with the fact that the rating agencies are paid by the issuers of the bonds they are rating." So there's the "conflict of interest" that makes them "bad guys": they're "supposed to be protecting investors" but they are "paid by the issuers."

Compare that with underwriters, like Goldman on the eToys IPO.  Underwriters are selected by the issuer, just as rating agencies are.  They sign a contract with the issuer that provides they will be paid out of the proceeds of the offering, reducing the amount of proceeds that the issuer receives.  So, as a practical matter, they too are paid by the issuer. 

Yet the Securities Act of 1933, as historically interpreted and applied, imposes on underwriters of IPO's "an affirmative obligation of due diligence" that "arises out of a securities firm's general obligation to deal fairly with its customers." [Charles Johnson & Joseph McLaughlin, Corproate Finance and the Securities Laws, section 5.02 (2006 ed.)]  As early as 1953, the SEC declared that "an underwriter owes a duty to the investing public." The Second Circuit endorsed this view Chris-Craft Industries, Inc., v. Piper Aircraft Corp., 480 F.2d 341 (2d Cir.), cert. denied, 414 U.S. 910 (1973): "[p]rospective investors look to the underwriter -- a fact well known to all concerned and especially to the underwriter -- to pass on the soundness of the security and the correctness of the registration statement and the prospectus."

So if Nocera were intellectually consistent, he would treat IPO underwriters like rating agencies and say they should put the interests of investors first.  If an issuer with no intrinsic value fails to enrich itself at investors' expense, too bad; next time, put together something with real value for investors.  But instead, he has a story that fits the narrative of "evil, greedy Wall Street" and from that point on, intellectual coherence is just an impediment.

Nocera doesn't tell the reader that the appellate court described the relationship between underwriter and isssuer in a firm commitment underwriting is "adversarial" not fiduciary, because such an underwriter bears all the risk of loss if the offering is a flop.

It's also ludicrous to pretend dot-com issuers were "naive" as Nocera writes, and ignore what they were trying to do, which was get their company public as soon as possible, regardless of how half-baked it was.  They had to know they were in a period of irrational demand and they wanted to go public before the bubble burst. First-day pops were routine and well-reported in the financial media.   IPO allocation criteria were also well known; you can be sure that the decisionmakers at eToys had a "friends and family" allocation that was as self-enriching as anything Goldman is being accused of.  Seriously, can anyone with a straight face say that, if eToys had only known what Goldman and the IPO buyers were saying to each other, that eToys would have canceled the IPO?  Although issuers may not have known precisely the dollars and the names of the institutions involved, they certainly had a general sense that IPOs frequently had large first-day pops and there was money to be made by the IPO buyers by dumping into that pop. As the appellate opinion recites, the deposition "testimony of various eToys executives ... established that eToys was well-aware that underwriters generally offer IPO shares to their most valued customers" and eToys' claims that "Goldman fraudulently promised that eToys shares would be allocated to long-term institutional investors, rather than to known 'flippers' was ... belied by contrary evidence in the record."  Nocera makes no mention of that.  Nor does he acknowledge that the only reason a company like eToys was in a position to go public in the first place was because dozens of precedent IPOs had been done on the same basis as it now complains of.  

Nocera's column is full of snippets from emails produced in the litigation that Nocera says he "came across" Nocera says he "came across ... sitting in a file in the New York County Clerk's office". I doubt these things just happen. I suspect that someone on the plaintiff's side, having a complete loss on their hands after a decade of failed litigation, is desperately trying to get some kind of settlement out of Goldman and has resorted to trying the case in the press so they tipped him to the availability of the file.  If that is the case, he served their purpose, with a one-sided, often completely misleading and certainly incoherent analysis that contradicts his own prior views and fairly settled legal doctrine. But, it fit the narrative the Times wants to put out there, so inside the echo chamber of Times Nation, I suspect it goes unquestioned.

Friday, March 8, 2013

Graham Parker and the Rumour: Three Chords Good

Easily the most criminally under-appreciated musical act in my lifetime has been Graham Parker, whose best work was done with the Rumour as his backing band in the late 1970s.

GP never had the commercial success he so richly deserved.  The Village Voice in 1976 voted his first two albums as the two best albums of that year.  But the sound quality of his third album, "Stick to Me" was ruined when, supposedly, someone spilled something over the master acetate and the record company chose to release it in diminished condition rather than foot the bill to re-master it.  Not surprisingly, it didn't sell well and he changed labels, from Mercury to Arista (memorialized in the song "Mercury Poisoning") and next released what many regard as his greatest album, "Squeezing Out Sparks" (also voted #1 in the Voice), the marketing of which suffered from a backlash against the title song, a politically incorrect lament about abortion.  At which point, I think, the promotion segment of the record industry gave up on his work.  But for the past three decades, unlike so many musical acts who live largely off resales and reperforming work that is sesveral decades old,  GP plugged away, continuing to turn out new, quality albums every year or so, along with releases of live concert recordings from his earlier days.  (He also writes fiction and blogs).

Most recently, he reunited with the Rumour and released their first joint album in 31 years, "Three Chords Good", available through the usual distribution channels.  GP & the Rumour were featured in Judd Apatow's recent film, "This Is 40" and the Kickstarter-funded documentary about GP, "Don't Ask Me Questions," is going to premiere next week on "Radio Times" on BBC 4.

Here is a performance of "Heat Treatment" from GP & the Rumour in their prime in 77. There is lots of music by GP & the Rumour out there, including the new album (and they're also touring). I encourage anyone who is not familiar with them to give them a listen, and hopefully, you'll be as impressed with them as I have been.

Wednesday, March 6, 2013

NML v Argentina, II

This is my second post on NML v Argentina in the 2d Circuit.  I learned from Credit Slips that the 2d Circuit had issued "an order requiring Argentina, by March 29, to specify 'the precise terms of any alternative payment formula and schedule to which it is prepared to commit.'" I am skeptical that Argentina would propose anything the court might find acceptable, even assuming (which is a big assumption) the court thought it had the power to enter an order putting something in place that left contract rights impaired.  There are a lot of reasons why I think this but briefly:

1) The tenor of Argentina's counsel's oral argument (with senior government officials in the court room) was inconsistent with seeking a compromise resolution.  I would expect a counsel seeking such an outcome would try very hard to portray itself as the more reasonable party and its opponent as the unreasonable person.   When counsel told the court its client would disregard the court's order in favor of NML, that comes off, to me, as someone not trying to position the dispute for compromise. 

It's theoretically conceivable that the client could have observed the proceeding and come away with a greater willingness to compromise based on what it observed.  But I would put the odds at that as low.

2) I don't think people in the US appreciate the political strength of an anti-US / anti-North / nationalist posture throughout South America. When Chavez died yesterday, it was announced in front- page, large-type, banner headlines throughout the region.  This for a guy who has made a wreck of social order and economic opportunity in his nation, and delivered little to fulfill the grandiosely populist promises he made throught the years, but he's garnered prominence for his aggressive anti-US chauvinism.  Even Chile, which is run on very different, pro-market principles, declared three days of national mourning on occasion of his death, and its leading newspaper, La Tercera, has, as of the drafting of this post, given over its entire homepage exclusively to content related to Chavez. 

In Argentina, its Minister of Security has gone on record supporting the claim of Chavez's vice-president that Chavez was injected with cancer by "enemigos de la patria".  Noting that other current or recent heads of state in Paraguay and Brazil have also been diagnosed with cancer, the Minister says the coincidence is "suggestive" and warrants a scientific investigation. The Minister is quoted saying [my translation]: "these leaders have been producing  and are producing, profound transformations in Latin America society.  We've gone  through 200 years, since San Martin and Bolivar, of failure to forge a path toward unity due to external factors."

That does not strike me as a government that seems likely to be working things out with U.S. hedge funds or subjecting itself to U.S. court orders.

Tuesday, March 5, 2013

Tide Turning re: Sequester?

A week or so ago, it seemed all you heard about the sequester was how bad it would be and how it was all the Republicans' fault.  Which prompted me to put up a few posts disagreeing with both themes.  Today, though, there are hopeful signs that the tide is turning and more people are beginning to see that the Administration has been overplaying its hand for political purposes and a backlash has emerged.

First, there was the Bob Woodward eruption, although my post last week explained why I think he is wrong on his history, even though I admire his willingness to speak out contrary to the Administration and the majority of the Inside the Beltway elite.

Next came this Saturday Night Live parody of the Administration's parade of horribles, which degenerates into the Village People feeling the pain.

Even the stalwart New York Times on Sunday carried a smackdown in an editorial by former executive editor Bill Keller entitled "Obama's Fault". Keller argues that Obama erred in not embracing Simpson-Bowles in his prior term (love to go back and look at the Times' editorial stance on Simpson-Bowles back then when I find time); and in not letting the Bush tax cuts expire on everyone.

Tom Brokaw went on NBC yesterday and said "Speaker Boehner is right" that the Senate has failed to act, and complained that "the President ... spent entirely too much time in the last two weeks, campaigning, in effect, all around the country."

This morning, echoing Brokaw, Business Insider even set aside the pom-poms it usually carries and ran a post "Why John Boehner Might be Right to Blame Obama for the Sequester".

And the public seems to be catching on, as Gallup's daily poll of the President's job approval rating, which had been above 50% all year on a rolling three-day average, has dropped now to 46% (h/t Big Government). 

It seems pretty clear that the median voter wants to see Washington adopt rational spending discipline, does not share the Administration's preference to keep spending up as long as it is financed by taxes on upper-income earners, and rejects the Administration's scare tactics and bad faith efforts to maximize the pain of the cuts as a political tactic looking towards the 2014 midterm elections. One can only hope the Democrats' internal polling is showing similar themes and they will get out of their tax-and-spend straitjacket and move toward the center by adopting rational spending cuts, as to which I think there are probably enough Republican crossover votes to make such an effort bipartisan.

Saturday, March 2, 2013

Obama Administration Tries to Cut its Way to Universal Health Care - by Getting Medicaid Providers to Lose Money

When President Obama has a national audience, he proclaims his appreciation for hard work and constantly lectures us that we "can't cut our way to prosperity", but at lower levels that receive less media attention, his Administration is putting out the opposite message.  In recent litigation over reimbursement rates under Medicaid, when "patients, doctors, dentists, hospitals, pharmacists and other health care providers in California" complained that a proposed round of 10% cuts would leave many Medicaid reimbursements below cost, the Federal government's response was, "Yeah? Is that a problem?"  As, reports, quoting a brief the Administration filed in the 9th Circuit, the Administration advised the court:
"There is no general mandate under Medicaid to reimburse providers for all or substantially all of their costs."

Apparently, we can't cut our way to prosperity, but somehow we can cut our way to expanding access to health care, by making it uneconomical to provide it.  

I wish more people would wake up to the chasm between the bromides the President spouts of his teleprompter and the utter mathematical, economic and fiscal incoherence of the policies that underlie the rhetoric.

Friday, March 1, 2013

Bob Woodward was Wrong: Obama is not Moving the Goalposts -- He's Always Been Obsessed with Raising Taxes

I'd like to agree with Bob Woodward when he came out and accused President Obama of "moving the goalposts" by demanding that further tax increases be part of alternatives to the sequester, but I can't. He's wrong   The Budget Control Act of 2011 that brought us the sequester was totally driven by the two parties' posture on taxes.

Keith Hennessy, a former Bush 43 official, wrote a series of blog posts when the BCA was being enacted into law, walked through the law at the time and showed how it reflected each party's political calculations on taxes. You may remember that the bill established a "super-commission" equally split between the parties and both houses.  The super-commission process for tax hikes required some Republican consent; so, obviously, everyone knew there weren't going to be any.  And for spending cuts, vice versa -- Democratic consent so again, failure was likely.  What the Democrats won in the negotiations was the spending cut breakdown -- hardly any on entitlements and more defense than non-defense on the discretionary side. As Hennessy explains, the White House was betting that the pressure on the Republicans to prevent the defense cuts would cause them to cave on taxes.  So Woodward is wrong,  Further tax hikes were always the goal of the Administration, however circuitous the route.

Another way to put the Administration's thinking, however, is to recognize that they are so totally obsessed with raising taxes on high-income earners that they are willing to keep the defense budget bloated to do so. What leadership,

We see more of this tax hike obsession today in the President's remarks on the sequester. He continues to demagogue by referring to high income citizens as "special interests" who get "tax breaks" who, he argues, are taking from "the middle class".  The ones who pay pay most of the cost of government that benefits everyone, he says, are taking from the ones who pay less.

By "tax breaks" what he means are the tax deductions that are available to everyone, but result in more revenue reduction when taken by taxpayers in the highest tax brackets, because their income tax rates are higher.  Let me be clear:  these are general, neutral, nondiscriminatory tax breaks for all taxpayers.  But, because of the progressive rate structure, which imposes special tax hikes on upper income taxpayers, the deductions reduce those taxpayers' taxes at the higher rate.  This is not a special tax break, it is a reduction in the special tax burden the progressive rate structure imposes above certain income thresholds. It is the progressive rate structure that is "special" and that is a tax break -- not for the ones subject to it, but for the ones who aren't.

The President also claims in response to a question that he has reduced the deficit by $2.5 trillion.  As I laid out in a post a few days ago, that is false. He is counting only what was done since his party lost the 2010 midterm elections and ignoring (a) the increased deficit his Administration and the 111th Congress enacted from 2009-11, (b) the $4 trillion in deficit increases caused by making the Bush tax cuts permanent for the bulk of taxpayers, and (c) the vast addition to the deficit in the out years caused by Obamacare, that were not measured by CBO because it was limited by law to only 10 year forecasts.

Comics as Propaganda

On, (link via Hot Air), I enjoyed an essay about comic books published over the years by the federal and state governments to convey the government's agenda.  There are some seriously weird examples, including one about the risk of Dagwood Bumstead going postal in the workplace, and how  Blondie responds to it. (Likely only to aggravate the problem, in my estimation).

It reminded me of a remarkable book I read in Spanish classes at Columbia back in the 1970;s, "Para Leer al Pato Donald" (How to Read Donald Duck), which detailed the pro-capitalism message contained in Disney comics made for the Latin American market.