iCount

Projecting the long-term health of Social Security is of necessity subject to uncertainty, the known unknowns if you will. But you can if you like sample the short term health by consulting Treasury's Monthly Trust Fund Reports which gives balances to the penny with a one month lag, and compare them to the various projections of the 2008 Report. If it appears that the balances are coming in ahead of standard Intermediate Cost projections you can conclude that the outlook is by that amount better than expected. If those balances are coming in ahead of (fully funded) Low Cost then you have a limited reason to claim there may be no shortfall at all. On the other hand if the numbers look to not quite making it to IC levels then you want to pay some attention.



So how is Social Security holding up in the face of a recession now officially a year old? Well, looks like we need to pay some attention.



The 2008 Report projected that the year end balance in the OAS (Old Age/Survivors) Trust Fund would be:

Intermediate Cost $2.216 trillion and Low Cost $2.221 trillion up from a starting balance of $2.023 trillion



Actual numbers:

June (half year) $2.140 trillion

Aug (2/3rd) $2.164 trillion

Sept (Q3) $2.177 trillion

Oct $2.187 trillion



In June OAS had a balance up $117 bn from starting, if July to Dec simply duplicated that we would have a year end balance of $2.257 trillion or significantly ahead of even Low Cost numbers. But even then anyone who was paying attention knew there was trouble ahead and as things are playing out we will be lucky to end up within $10 billion of Intermediate Cost and so $15 billion from Low Cost. Not the best news but in perspective it means that our portfolio would only increase by 95% of expectations. (Note that this still translates to a big surplus for 2008, just not as big as we hoped.)



How did DI (Disability Insurance) fare? Well this is a real interesting story. Projections:

Intermediate Cost $219 billion and Low Cost $221 billion up from a starting balance of $214 billion



Actual numbers:

June (half year) $220 billion

Aug (2/3rd) $219 billion

Sept (Q3) $219 billion

Oct $218 billion



At mid-year things were looking pretty good, already the balance was up by some $6 billion and already beating IC projections. Certainly adding another billion and so matching Low Cost by year's end in principle was in reach. Except for those pesky numbers in the business pages. Not only is DI not adding to its balance in the second half of the year, it is losing a good part of the progress made in the first half.



What does all of this mean? Well on my reading it shows that Social Security is a pretty robust system. And this makes certain sense, an increase in unemployment that puts hundreds of thousands of people out of work (say from 5% to 6%) is from another perspective just over 1% of all covered hours (94%/95% = 1.1%). This doesn't mean we want to keep throwing these employment numbers at Social Security for an extended period of time, though I have never had much reason to discuss the more pessimistic High Cost scenario it like Low Cost is 'out there' and we are openly flirting with it right now. But even High Cost looks pretty good when your 401k is 40% plus off its peak.

by Bruce Webb (noreply@blogger.com) on December 02, 2008 06:24 PM

by cactus



My Essential Blogs



Most of us who read blogs have blogs we read regularly. Of those, there might be a handful we consider essential. That list is different for each of us, and no doubt changes over time for each of us.



Last week, I learned what my current list of essential blogs is, as I was traveling outside of the country and often had only sporadic access to the net. As I said, I often read quite a few others, but when I had a mere five minutes, this is the list I made sure I perused:



1. Angry Bear. Granted, I'm biased, but I think Rdan has assembled one heck of a crew and made this is into a great destination.

2. TBogg. Not economics at all, at least usually not, but when he's on, the eponymous TBogg is simply the best writer on the internet if you ask me.

3. Naked Capitalism. I don't know how Yves Smith does it. I simply don't.

4. Calculated Risk. Tanta's death is a loss - few people understood the mortgage banking business and had the talent and the opportunity to write about it to boot. I'm going to miss her writing. But Calculated Risk will one of the best places to get very complex, relevant, and information explained in an easy-to-understand and timely manner because of its founder.



By the way, before going on with this list, I should note that I've had occasion to correspond a couple times with Yves Smith and Calculated Risk. Both are as friendly and helpful as they are smart and incisive. I had one exchange with TBogg too, and he was quite friendly too.



Continuing with the list:



5. Krugman. I haven't always agreed with him (and on occasion, I've been right when I disagreed with him), and on occasion I've been very critical, but when it comes to being clear, incisive, and cutting to the chase, Krugman is the best.

6. Beat the Press. Dean Baker is very, very good.

7. Marginal Revolution. Alex Tabarrok and Tyler Cowen are smart, informative, and entertaining. And they often come at things from an angle I wasn't considering.

8. Economist's View. Mark Thoma is another one man shop who manage to produce way more than I can imagine a person producing. And his daily links are excellent.

9. Eschaton. Atrios' unashamedly liberal news blog is a great round-up of the days events.

10. Washington Monthly's Political Animal. This was a great blog when Kevin Drum ran it. Somehow, its even better now - Hilzoy and Steven Benen make this, in my opinion, the best single source for political analysis on the web.



So there's my essential list. I try to read more blogs than that most days, and many of the ones I read have a different bias. But these are the ones I read when that's all I have time for. What's your list?



The loss of Tanta is a blow to the blogosphere, but even by himself CR does one heck of a job.

________________________________

by cactus

by rdan (noreply@blogger.com) on December 02, 2008 11:43 AM

Boston Globe reports on local conditions for small businesses:

Even as consumer loans become harder to get, many small businesses in Massachusetts report they are still able to borrow money.



In Franklin, Stephen Dunn, president of design and manufacturing firm Core Concepts Inc., says Benjamin Franklin Bank has invited him to renew his $1 million line of credit. In Woburn, Mike Jenoski, president of Duplication Management Inc., a printing and Web services company, says Enterprise Bank is encouraging him to borrow to expand his business. And in Jamaica Plain, Katherine Mainzer, co-owner of Bella Luna Restaurant and the Milky Way Lounge, says she is about to close on a $360,000 loan from Citizens Bank to relocate.



While Mainzer, like other small business owners, is worried about the slumping economy, "We didn't see a clampdown" in lending, she said.



In fact, Massachusetts trade groups and bank executives report a continued flow of borrowing by small businesses, despite the credit crisis that has slowed other lending such as consumer auto loans and mortgages.



Among the 18 publicly traded banks in Massachusetts that have reported their earnings through Sept. 30, 12 said the total value of their loans increased 5.9 percent or more this year, compared with just five banks at the same point a year ago, according to a preliminary analysis by Milton bank analyst Suzanne Moot.



Five reported loan growth above 10 percent, including Danvers Bancorp at 13.3 percent and Enterprise Bank of Lowell at 11.9 percent. Much of the growth is the result of lending to small businesses, executives say.



Moot said it's difficult to draw broader conclusions about local lending until the Federal Deposit Insurance Corp. reports more specific figures for the state next week. Some business borrowers and lenders concede that loan terms have tightened, with banks raising interest rates or demanding more collateral.



Still, the reports filed by the publicly traded banks provide a counterpoint to the national concern that businesses can't borrow because banks are hoarding their cash, Moot said. "All the data we've got doesn't point to a slowdown in lending," she said.



Nationally, some economists have made similar points. In a paper last month for the Minneapolis Federal Reserve, three economists said bank credit continued to rise, at least through Oct. 15, as have the total amounts of loans and leases.



But Harvard Business School professors Victoria Ivashina and David Scharfstein said in their own paper that loan totals are growing partly because companies are drawing down previously arranged lines of credit. Also, several economists at the Federal Reserve Bank of Boston wrote this month that the amount of loans banks keep on their balance sheets is growing because they can no longer sell loans to be packaged into other securities.



Still, local business executives aren't complaining they can't get credit, or even that bank terms are too tight, said Brian Gilmore, executive vice president of Associated Industries of Massachusetts, a trade group representing 7,000 companies in Massachusetts.



"The whole psychology is that the sky is falling, even though it's not," Gilmore said.



Executives at Boston accounting and consulting firm Vitale, Caturano & Co. say the biggest impact of the financial crisis on lending so far is that banks are inspecting company books more closely before agreeing to make loans. "You feel like at least so far we're ducking a lot of the national issues," said Jeff Korzenik, Vitale Caturano's chief investment officer.



Some economists and bankers say smaller banks are picking up customers who aren't top priorities for big banks, which are grappling with subprime mortgages and other problems in their loan portfolios.

FDIC reportQ3 this week.

by rdan (noreply@blogger.com) on December 02, 2008 10:00 AM

forwarded by reader Corev







COMMENTARY:



President-elect Barack Obama wants to phase out coal-based electricity

generation, switch to renewable energy and follow Europe's lead on climate

change. That could prove difficult.



Coal generates half of all U.S. electricity. Wind provides less than 2 percent

of all electricity and cannot be relied on when it's needed. Europe's lead can't

even be defined, much less followed.



Nearly all EU countries signed the Kyoto Protocol and agreed to slash greenhouse

gas emissions to 7 percent below 1990 levels by 2012. As of 2008, however, many

of their emissions are well above their Kyoto targets. Italy's were 14 percent

above, Portugal's 17 percent, Denmark's 19 percent, Austria's 30 percent,

Spain's 37 percent. Whose "environmentally responsible" lead should we follow?



By comparison, U.S. emissions are some 23 percent above target levels we would

have agreed to, had we signed Kyoto. But America's carbon dioxide emission

growth rate has been just 0.2 percent per year since 2000, notes University of

Colorado climatologist Richard Keen.



Last year, the European Union solved its predicament by agreeing to slash

emissions 20 percent by 2020. Now, because of the financial crisis, many EU

countries and industries want to back away from even that. Perhaps they will

agree to 30 percent by 2030 (or 40 percent by 2040). Should America follow this

elastic example?



From Saturday's WaTimes:



(It's a pretty good synopsis of what is going on in the politics, especially EU,

of warming...Corev)

In 2006, Chancellor Angela Merkel promised to eliminate coal and nuclear power

in Germany. Today she wants to keep nuclear power, build new coal-fired plants,

and shield chemical, steel, manufacturing, cement and auto industries, by

reducing emission goals or providing free cap-and-trade permits.



Austria and Italy also want EU climate restrictions eased to help industries

that are struggling with high energy prices, the economic crisis, and

competition from less regulated overseas competitors that rely on coal for power

generation and easily undercut European production costs.



Italian ministers have called the EU climate action plan "politically correct

garbage" that "would kill any economic improvement" and "achieve very modest

environmental benefits" - on the order of reducing projected global warming by

0.1 degrees or less. Prime Minister Silvio Berlusconi insists any EU climate

deal be revisited in late 2009, after its real economic and employment costs

have been fully analyzed.



Poland and other former Eastern Bloc nations strongly oppose any EU climate

change plan that doesn't exempt them, because they depend on coal for up to 90

percent of their electricity and on Russia for up to 97 percent of their natural

gas. They were held back for 50 years under Communist dictators - and now are

loathe to let Brussels dictate future economic development.

Britain is likewise re-examining its commitments, because punitive climate taxes

and energy prices have forced 5.5 million households to live in "fuel poverty" -

and factory managers say they may have to close their doors and furlough workers

all winter, because of high fuel prices.



Following these examples makes sense. But that's probably not what Mr. Obama or

environmentalists have in mind.



Meanwhile, China and India are building new coal-fired power plants every month.

They put reducing rampant poverty ahead of speculative effects of future climate

change - and say they will be better able to adapt to climate changes (natural

or human) if they are rich and technologically advanced.



Impoverished African nations also want abundant, reliable, affordable energy, to

ensure safe water, refrigeration and modern hospitals, and reduce lung and

intestinal disease and death. But U.S. and EU greens say they must be satisfied

with pitiful amounts of intermittent energy from "sustainable" sources such as

wind and solar.



Al Gore prophesies ecological doom - but flies only private jets, owns a fancy

houseboat, and uses more electricity in a week than 28 million Ugandans together

use in a year. NASA climate alarmist James Hansen wants to squelch debate on

global warming science, and compares coal trains to Nazi death camp trains.



In the midst of all this, some Democrats are promoting new cap-and-trade

legislation that could be more damaging than Warner-Lieberman, which even

sponsors admitted would have cost nearly $7 trillion. They oppose oil and gas

drilling, and new coal, nuclear and hydroelectric plants.



Many want to "transform" our energy and economic system - from one that works to

one based on heavily subsidized "renewable" technologies that aren't ready for

prime time, and likely won't make a significant contribution for decades.



The Environmental Protection Agency is preparing regulations that would

micromanage every aspect of our energy system and economy.



Whose policies are more responsible, humanitarian, ethical and sustainable?



Hydrocarbons provide 85 percent of all U.S. energy. They are the foundation of

an economy that has brought us health and prosperity, but has been shaken to its

core. Wind and solar represent less than 1 percent - and provide only

intermittent auxiliary power.



The new "Lights out in 2009?" study warns that the United States "faces

potentially crippling brownouts and blackouts." Regions that experience

prolonged hot spells during summer months are especially vulnerable, because

many have minimal excess generation and transmission capacity.



We need to protect our economies, jobs, poor families and planet. We need

conservation and all forms of energy: whatever works best, at lowest cost, for

particular cities, states, regions and nations.



We can't afford policies that roll back economic and civil rights gains - or

reflect the "leadership" of increasingly isolated EU commissioners who insist

that punitive climate policies must be adhered to, for tiny environmental gains,

even in the midst of a near recession.



The incoming Obama administration should keep this in mind as it seeks to forge

bipartisan energy and economic policies.



Paul Driessen is senior policy adviser for the Congress of Racial Equality and

its Stop the War on the Poor campaign, and author of "Eco-Imperialism: Green

power - Black death."

by rdan (noreply@blogger.com) on December 02, 2008 09:59 AM

There are three regular AB posters who currently are residents of the Great White North.



So, naturally, it's a Brooklyn boy who breaks the news that a plurality is not always a majority:

The Liberals and New Democrats signed an agreement on Monday to form an unprecedented coalition government, with a written pledge of support from the Bloc Québécois, if they are successful in ousting the minority Conservative government in a coming confidence vote.

UPDATE: Apparently, another NYCite (though once and possibly-future Canadian) was on top of this too.



*with Canadian relatives and authors, yes, but still...

by Ken Houghton (noreply@blogger.com) on December 02, 2008 05:16 AM

UPDATE: For those who read here and not at CR, a link for Donations.



We knew she was home with her family, but it was over the U.S. Thanksgiving holiday...

Calculated Risk:



Sad News: Tanta Passes Away: My dear friend and co-blogger Doris “Tanta” Dungey passed away early this morning. I would like to express my deepest condolences to her family and friends...

Tanta was one of the people—along with CR, PGL, DeLong, and Mark Thoma (and probably a few others I've overlooked, such as Max Sawicky**)—who proved early on that long, informative blog posts about issues that might be considered arcane* could find an audience.*** Including people who knew what you were talking about and could provide complementary insights and information.



Via CR, David Streitfeld sums it up:

Thanks in large part to Tanta’s contributions, Calculated Risk became a crucial source of prescient analysis as the housing market at first faltered, then collapsed and finally spawned a full-blown credit crisis.



Tanta used her extensive knowledge of the loan industry to comment, castigate and above all instruct. Her fans ranged from the Nobel laureate Paul Krugman, an Op-Ed columnist for The New York Times who cited her in his blog, to analysts at the Federal Reserve, who cited her in a paper on “Understanding the Securitization of Subprime Mortgage Credit.”

There are a lot of people out there who are saying now that "we all knew there would be a crisis." Tanta is one of the main reasons for that.



She will be is missed.



*Robert Waldmann's investigative series on Credit Products is a current AB example.



**The lack of conservative economists on the list is not my fault; the Mankiws and Tyler Cowens of the world rarely if ever go into detail about the system or the implications surrounding their statements.



***UPDATE: See the Ubernerd posts, collected here.

by Ken Houghton (noreply@blogger.com) on December 02, 2008 04:36 AM

What Child Is This is a very good example of one of the things that I think has allowed Christianity to thrive: it’s complete and unashamed willingness to co-opt any and all cultural touchstones. The tune is actually Greensleeves, an English folk song about being cheated on. The original song is sad and earthy. The Christian version, while retaining the same solemn tune, is a loving tune about the birth of the Savior. This song is a small example of the tendency of Christianity to gleefully incorporate whatever local customs, holidays and folkways it encountered. I think that willingness goes a long way to explain Christianity’s acceptance.

Well, that and the willingness to kill anyone who didn’t convert.

What Child is This

What Child is this who, laid to rest

On Mary’s lap is sleeping?

Whom Angels greet with anthems sweet,

While shepherds watch are keeping?

[CHORUS]

This, this is Christ the King,

Whom shepherds guard and Angels sing;

Haste, haste, to bring Him laud,

The Babe, the Son of Mary.

Why lies He in such mean estate,

Where ox and ass are feeding?

Good Christians, fear, for sinners here

The silent Word is pleading.

[CHORUS]

Nails, spear shall pierce Him through,

The cross be borne for me, for you.

Hail, hail the Word made flesh,

The Babe, the Son of Mary.

[CHORUS]

So bring Him incense, gold and myrrh,

Come peasant, king to own Him;

The King of kings salvation brings,

Let loving hearts enthrone Him.

[CHORUS]

Raise, raise a song on high,

The virgin sings her lullaby.

Joy, joy for Christ is born,

The Babe, the Son of Mary

by Kevin on December 02, 2008 02:34 AM

By Stormy



Thomas Palley has a good take on the consequences of allowing the Big Three to disappear: Their disappearance not only may end any hopes of our closing our enormous trade deficit, but also may trigger a perfect economic storm.

Moreover, the automakers are essential for closing the trade deficit, and their demise could bring another surge in imports. The automakers are also the backbone of American manufacturing, driving advances in manufacturing technology that will be needed if America is to be a world leader in the coming “green” transportation revolution. Additionally, the Big Three are vital to national security, supplying important military transportation assets. Lastly, bankruptcy will impose massive costs on the government’s Pension Benefit Guaranty Corporation (PBGC), potentially undermining its financial stability.

The Big Three are already "huge debtors"

whose liabilities are held throughout the financial system. If they go bankrupt, the insurance industry, which is likely a large holder of these debts may quickly enter a spiral of collapse. Pension funds will also be hit, imposing further costs on corporations and households at a time when they are already financially stressed.

Furthermore,

...the greatest damage may come from the credit default swaps (CDS) market that brought down AIG. Huge bets have undoubtedly been placed on the bonds of GM, Ford, Chrysler, and GMAC, and bankruptcy will be a CDS triggering event requiring repayment of these bonds. Moreover, a Big Three bankruptcy will bankrupt other companies, risking a cascade of financial damage as their bonds and equities fall in value and further CDS events are triggered. This is the nightmare outcome that risks replicating the Crash of 1929.

There are undoubtedly colossal problems in Detroit, and the bosses of the Big Three automakers could never be convicted of an excess of imagination. Economic policy has also contributed to their current condition as trade agreements and an over-valued dollar promoted auto imports, and incoherent energy and environmental policy stifled innovation.

All of this must be fixed. But sacrificing the Big Three automakers will accomplish nothing while risking a tragic economic depression

There are no easy answers any more. We have undoubtably backed ourselves into a corner, with thoughtless tax policies for the rich, incoherent tax policies that might have guided our economic development, and a complete disregard for our manufacturing sector as we celebrated our miserable and miserly banking system that has skimmed, scammed, and leveraged its way to disaster.

by Stormy (noreply@blogger.com) on December 02, 2008 01:52 AM

Brad DeLong suggested a bit before the U.S. election that there was virtually no non-political reason for NBER not to admit the United States was in a recession.*



A little late, but they generally got it right. As Floyd Norris notes:

The National Bureau of Economic Research said today that the current recession began a year ago, in December 2007.



I’ve been arguing for some time that the recession started around then (between October 2007 and January 2008), but for much of that time it was a lonely vigil, with few economists in agreement until things fell apart in September.

I would still argue for October 2007;the "peak" in December was related more to a Certain Holiday than anything real. (It's not called "Black Friday" in honor of workers who get trampled.) But at least they called it, which will make it more difficult to argue that "the recession started on Obama's watch."



Sorry, New Economist.

by Ken Houghton (noreply@blogger.com) on December 01, 2008 06:47 PM

Kevin Drum incidentally mentioned the Nov 1940 collapse of 'Galloping Gertie', otherwise known as the Tacoma Narrows Bridge, in a post about a new technique about generating electricity from river or ocean currents. Which led me to pull up some footage and figure out how to embed it. (No it is not hard. But Old Dog/New Trick). I had not previously seen a color version. The whole thing is 5:56.

Update: Originally I thought this had nothing to do with economics but then realized it is not a bad visual metaphor for the current economic (hopefully only near) collapse. Hoocoodanode? Everybody knew the bridge swayed in high winds, hence the nickname. But no one it seems imagined it would literally encounter the perfect storm and shake itself to bits. RE speculators in Vegas and Riverside stirred up a storm that ended up freezing markets around the world. Hoocoodanode indeed.

by Bruce Webb (noreply@blogger.com) on December 01, 2008 06:21 PM

In memoriam for Tanta .



CR says it best. Tanta offered humor as well as wisdom in her posts she shared with us. She is in my prayers.



Dan

by rdan (noreply@blogger.com) on December 01, 2008 11:25 AM

rdan



hat tip Tim Schilling

by rdan (noreply@blogger.com) on December 01, 2008 10:10 AM

a whittle by ilsm



National Security pork!



I came across this at a National Security blog:



In this case congress is directing that Air Force buy long lead parts to build 20 more F-22 than defense wants. Certainly the fighter mob in Air Force wants more toys, and the industry wants more revenue.



This sets the administration up to wasting the money when the unneeded 20 are not bought. The paradigm in national security is to spend good after bad despite the extension of the losses.

But DoD strategy says there are better things to do than keep a plant profitable for a fighter that is too expensive and has no threat to overcome.



A $200 million super fighter for the war on bin Ladin.



This national security preference to pork and corporate welfare over better uses of the wealth is rather common.



Here is a point of change needed in the new administration, maybe a line item veto. by ilsm



Rdan here:



I would add this NYT picture and article of one man's journey through the revolving door of our protectors.

by rdan (noreply@blogger.com) on December 01, 2008 10:00 AM

By Robert Waldmann



Felix Salmon explains how to make a synthetic bond.

you buy a synthetic IBM five-year bond instead, taking advantage of the much more liquid CDS market. Essentially, you take the $100 million that you were going to spend on IBM bonds, and you put it into a special-purpose entity called, say, Fred. (In reality, it'll be called something really boring like Synthetic Technology Invetments Cayman III Limited, but Fred is easier to remember.) First, Fred takes the $100 million and invests it in 5-year Treasury bonds.



Next thing, Fred goes out and sells $100 million of credit protection on IBM in the CDS market, using the $100 million of Treasury bonds as collateral. The buyer of protection will pay $1.5 million per year (150 basis points) to Fred, and in return Fred promises to pay $100 million to the buyer in the event IBM defaults, less the value of IBM's bonds at the time. The buyer knows that Fred is good for the money, because it's already there, tied up in Treasury bonds.

He ends with teaser which frustrated super senior blogger Kevin Drum



"That's the story of the super-senior tranche, and will have to wait for another day."





Given this story about the use of CDSs, I understand why Felix Salmon is convinced that they are not financial WMDs and why he is so angry that AIG was allowed by counterparties to issue CDSs without posting collateral. I also think that the story is very different from CDS reality.



Over at his blog, I asked Felix Salmon three questions



1) Why wouldn't interest rate swaps serve just as well ?



2) Why set up Fred when Fred's assets must be worth more than Fred's liabilities so there is no obvious point limited liability 100% share ownership of Fred.



3) Also if 100% collateral is posted, how can the notional value of CDSs be greater than the US national debt ?



update: The title was supposed to be a joke "Frederal reserves" but Blogger appears to automatically correct misspelled titles.



Felix Salmon explains thing to me in a comment, which I pull back after the jump.



After the jump, I explain why I find these questions challenging





1) If I want to be long IBM bonds and Own Treasury bonds I can make a synthetic IBM bond with interest rate swaps can't I ? I think the cash flows with my counterparty are exactly the same, if neither of us goes bankrupt. Thus, I think that the immense popularity of CDSs must be based either on bankruptcy law (related to the super senior tranche ?) or on accounting standards and capital requirements, or both.



2) Why set up a a special purpose entity. I mean that has to cost something. They are set up for a reason, either to limit liability or to make balance sheets look better.



3) Clearly not every dollar in CDS was collateralized 100% by US debt. There isn't enough US debt. I think it must be true that most were only partially collateralized. AIG might be an extreme case, but I think it just must be true that CDSs were used to leverage up and not just to synthesize bonds.



OK now my efforts at answers. Remember I am very ignorant and mostly guessing.



On bankruptcy law, you have to realize that it's not your father's bankruptcy code.

Bo Peng explains

Generally speaking, in bankruptcy code, derivatives counterparty claim[s] can go right through Chapter 11 protection and force liquidation. Chicago Fed in fact had a research paper in 2004 (thanks to Seeking Alpha reader emrald) analyzing the original rationale behind and the unintended consequences -- cliche of the month? -- of this exceptional treatment of derivatives.

oh my.



I think this means that if Fred's parent (I'll call it Zeke) goes bankrupt, Fred's counter-party gets to grab the T-bills and no bankruptcy court can stop it. This would not be automatic from the definition of CDS, but Zeke and Fred's counter-party would both benefit from writing the contract that way.



Now if equity in Fred is counted as one of Zeke's assets and Zeke has a binding capital constraint, a fast one has been pulled. These assets are not part of the pool split up among creditors in the case of bankruptcy, because Fred's losses (value of collateral minus value of the CDS) go 100 cents on the dollar to the counter-party. Also if equity in Fred appears on Zeke's balance sheet, then Zeke's creditors may be mislead. If they assume that all equity in special purpose entities is quite likely worthless now, then a whole lot of crisis can be explained.



Clearly not all CDSs were used to make sythetic bonds. For one thing Lehman brothers had liabilities including CDSs on its balance sheet (OK its 10-Q report). For another they were listed at fair market value which was vastly below notional value until recently. Now it seems to me clear that if firms can goose their equity to debt ration they will and clear that CDSs are very useful for that purpose so long as they are not 100% collateralized.



I'd guess that Fred wouldn't own Treasury securities equal to 100% of notional value, but rather a lower ratio with a trigger that if the market price CDS reached ninety something percent of the value of the collateral, the collateral could be seized immediately. This means Fred could suck money out of Zeke or Zeke would have to lose 100-ninety something suddenly. Now a totally unexpected actual default would not be insured by Fred (which would go bankrupt). That is, this use of the CDS market would be to take opposite bets on the CDS price, not to insure risk. But, I mean we know that was going on.



OK finally my guess as to what "the super senior tranche" is. I think this refers to the money counterparties can seize immediately from a firm in Chapter 11 -- the little exception to the bankruptcy code. Since not quite everyone knows about this, it is an excellent way to dilute the positions of bond holders which, ex ante, profits both parties which wrote the financial derivative contract.



Felix answers.

Hi Robert -- I really was just trying to explain synthetic bonds, not anything about the larger CDS market. And synthetic bonds are really a very small part of the CDS market.



I'm not sure how you could possibly create a synthetic IBM bond using interest-rate swaps alone -- where would you get the credit-risk component from?



As for Fred's structure, it's worth remembering that these are synthetic bonds we're talking about here -- and the whole point of a synthetic bond is that it can be bought and sold in the secondary market, just like a normal bond. You can't talk about "Fred's parent" because no one ever needs to know who Fred's shareholder(s) might be.

Felix

So Felix notes that he was just talking about synthetic bonds, not claiming that making them was the main use of CDS. I should have said that I thought his example hinted at a reason for his calm views about CDSs, since the example he had in mind was of a very safe use. I was over psychoanalyzing a blog post, since the example was an answer to a question.



Felix also says that the purpose of the special purpose entity is that Zeke can sell Fred, Fred's assets on Zeke's books would have to be packaged into a SPE (Fred) for sale. It's still not so clear to my why st up the SPE immediately. I mean the story began with Zeke wants to buy IBM bonds, so Zeke creates Fred whose shares are, in effect, IBM bonds. Then Zeke sells Fred, apparently immediately (why pay to set up the SPE in advance of selling its shares ?).

by Robert (noreply@blogger.com) on December 01, 2008 06:15 AM

rdan



I have no idea how this transfer would be done if the funding happens for high mileage gpm and alternative fueled cars ($25 billion), or if it is accurate as an idea. Not having read the bill I would not know if money is restricted to the US. It does make sense to fund the best plants and technology from GM's point of view, and Brazil is clearly ahead.



But I do know it is probably easier for the financial companies who are not being 'micro-managed'. I remind you of cactus's post on welfare.



The Latin American Herald Tribune says the president of GM Brazil reveals plans:

General Motors (GM) plans to invest $1 billion in Brazil to avoid the kind of problems the U.S. automaker is facing in its home market, said the beleaguered car maker.



According to the president of GM Brazil-Mercosur, Jaime Ardila, the funding will come from the package of financial aid that the manufacturer will receive from the U.S. government and will be used to "complete the renovation of the line of products up to 2012."



"It wouldn't be logical to withdraw the investment from where we're growing, and our goal is to protect investments in emerging markets," he said in a statement published by the business daily Gazeta Mercantil.



Meanwhile, he cut the company's revenue forecast for this year by 14% to $9.5 billion from $11 billion, as the economic crisis began to cause rapid slowdowns in sales.



GM already announced three programs of paid leave, and Ardila added that GM Brazil "is going to wait and see how the market behaves in order to know what decision to take" with regard to possible layoffs.



For Ardila, the injection in Brazil's automobile sector of 8 billion reais ($3.51 billion) recently announced by the federal and state governments of Sao Paulo "has already begun to revive sales," which fell by 12% in October.

by rdan (noreply@blogger.com) on December 01, 2008 12:01 AM

I have always had a sentimental attachment to Silent Night. When I was in Catholic grade school, it was the first Christmas song I ever learned. We kindergartners sang in it in that year’s Christmas Assembly. I learned all the versus by heart and my parents assured me I sounded amazing. Later, after I had children of my own, I heard the song and was struck by the fact that it was a tender lullaby as well as a song of worship. It humanizes Mary and her son in a way that is unusual if not unique among Christmas carols. I can almost see Mary crooning something low and gentle, like this song, to her infant.

I used to argue about that hummanity with my second college roommate. Jesus’ sacrifice, I maintained then and now, means nothing if Jesus Christ was not a human being. Without that fear and pain, it is not a sacrifice. There may be verses more important to understanding Jesus and Christianity than Mark 15:34, but they are few in number. Silent Night is the most human among the traditional Chirstmas carols and thus, to my eye, the most Christian.

Silent night, Holy night

All is calm, all is bright

Round yon Virgin Mother and Child

Holy Infant so tender and mild

Sleep in Heavenly peace

Sleep in Heavenly peace

Silent night, Holy night

Shepherds quake at the sight

Glories stream from Heaven afar

Heavenly hosts sing Hallelujah

Christ, the Savior is born

Christ, the Savior is born

Silent night, Holy night

Son of God, love’s pure light

Radiant beams from thy Holy face

With the dawn of redeeming grace

Jesus, Lord, at thy birth

Jesus, Lord, at thy birth

by Kevin on November 30, 2008 11:58 PM

rdan



Financial Times shows us that

One day after announcing strict limits on salaries and bonuses for its top tier of executives, AIG revealed that some of those executives will receive millions in “retention bonuses” next year.



In a regulatory filing on Wednesday, the insurance group disclosed that Jay Wintrob, an executive vice-president, had put off receiving the first installment of his $3m retention bonus from December to April 2009.



He will receive the second installment, originally scheduled to be paid out in December 2009, in April 2010. David Herzog, AIG’s chief financial officer, also opted for the later payment schedule.



The retention bonuses for 130 key executives were disclosed by AIG in September, after the US government rescued the firm from bankruptcy by purchasing 79.9 per cent of the company for $85bn. After the government takeover, Edward Liddy, the former Allstate chairman, was named chief executive and AIG offered retention bonuses to Mr Wintrob, head of AIG’s retirement services division, among others.



In October, AIG’s management was embarrassed by the disclosure that the company spent $440,000 on a weekend retreat in California for senior performers.



The company announced on Tuesday that Mr Liddy would be paid a salary of $1 for 2008 and 2009, and that Paula Rosput Reynolds, who joined AIG as chief restructuring officer in October, would receive no salary or bonus for 2008.



The company said the other five members of AIG’s seven-member leadership group would not receive annual bonuses for 2008 or salary increases through 2009.



AIG also said that the company’s senior partners, about 60 executives, would not earn long-term performance awards in 2008, not earn salary increases in 2009, and that the group’s annual bonuses would be limited.



An AIG spokesman said on Wednesday that retention bonuses were different from the annual bonuses included in Tuesday’s statement. In September, Mr Liddy pledged to sell off significant portions of AIG’s international operations in order to pay back the government loan. The company said at the time that retention bonuses would be necessary to maintain continuity and value at various AIG units.



“Retention bonuses are a better alternative for the repricing of option awards so long as they are reasonable, fully disclosed and truly needed to retain talent,” said Richard Ferlauto, director of corporate governance and pension investment at the American Federation of State, County and Municipal Employees union.



“But in this market we don’t see much clamor for executives who made big bets, cannot make risk and were paid more than they are worth,” he added.

My initial reaction was simply "My God, they just can't help themselves, can they?"



Anybody know how this might be worth it to keep the men? Is inside expertise for the short term of a couple years worthwhile for a transition? How do we separate chaff from the wheat, so to speak? Also see Naked Capitalism.



Update: Comment section cleaned up.

by rdan (noreply@blogger.com) on November 30, 2008 11:21 PM

rdan



Here is a look at the history of limiting paychecks after a bailout...not such a promising outlook for those wanting to do so.



Tax History Project

Too Much: The Historical Link Between Bailouts and Pay Caps

Date: Oct. 6, 2008



Full Text Published by Tax AnalystsTM



by Joseph J. Thorndike



Complaints about outsized executive pay have prompted Congress to include compensation limits in the recently passed Wall Street bailout measure. Are the limits a good idea? Maybe. Will it work? If history is any guide, probably not.



In dollar terms, executive compensation is trivial. Even the huge paychecks common on Wall Street shrink to insignificance when compared to the size of the proposed bailout (or the liabilities of financial firms now in peril). To be sure, some compensation schemes reward short-term profit at the expense of long-term prudence. But the most salient arguments for executive pay caps -- at least in the political arena -- are moral, not practical.



Complaints about outsized paychecks have been a recurring feature of American politics. Sometimes, populist indignation has led to legislative action. But rarely have pay limits had the desired effect. Why else would we keep having the same arguments over and over again?



Still, it can be instructive to revisit past arguments, if only to appreciate current possibilities. In particular, we might look to the early 1930s (isn't everyone these days?). In those early years of the Depression, lawmakers tried to cap pay at companies seeking handouts from the Reconstruction Finance Corporation (RFC), a federal agency created to stabilize markets and rescue ailing banks. Sound familiar?

Follow the link for the complete post.

by rdan (noreply@blogger.com) on November 30, 2008 01:12 PM

Black Friday sales information



Black Friday official sales site



We shall see if the sales, specials, and earlier advertising make a difference with the sentiments of consumers and the shorter season.



I am looking for a good deal on a GPS for Mrs. rdan. Any suggestions?



Update: Friday report on retail for October

by rdan (noreply@blogger.com) on November 30, 2008 01:00 PM

Decline and fall of western civilization provides another look at repo fails in the US Treasury bond market, up to $2 trillion recently.

by rdan (noreply@blogger.com) on November 30, 2008 03:46 AM

By Stormy



That Obama named "Mr. Volcker to lead the President’s Economic Recovery Advisory Board" suggest that trade might finally matter. Consider Fed Chairman Volcker's remarks to the House Banking and Committee in 1986; consider also ex-Fed Chairman's 2005 piece in the Washington Post.



At the time of his remarks to the House Banking Committee in 1986, U.S. trade deficit had dipped sharply to about $125 billion, far less than where it stands now.











Volcker saw the 1986 trade and fiscal deficits as "interrelated." Those "deficits in our budget and trade accounts will take years to correct."

Take for instance, the trade problem. The dollar had risen to extraordinary high levels by early 1985, with the effect of undercutting our trade position vis-à-vis major industrial competitor...The net result was to drive our trade deficit to a rate of close to $150 billion by the end of last year and to about $125 billion for the year as a whole.

In fact, the rate of demand increase, if maintained, would probably be beyond our long-term growth potential. In that sense we continued to live beyond our means, at the expense of a widening trade deficit.

Now consider his remarkable 2005 piece in the Washington Post. To many, those were boom years. For Volcker, there were "disturbing trends: huge imbalances, disequilibria, risks..."

It's all quite comfortable for us. We fill our shops and our garages with goods from abroad, and the competition has been a powerful restraint on our internal prices. It's surely helped keep interest rates exceptionally low despite our vanishing savings and rapid growth.

And it's comfortable for our trading partners and for those supplying the capital. Some, such as China, depend heavily on our expanding domestic markets. And for the most part, the central banks of the emerging world have been willing to hold more and more dollars, which are, after all, the closest thing the world has to a truly international currency

The growth was a mirage; we produced little, imported almost double what we exported. Imports exceeded exports by a 2:1 ratio.

It's not that it is so difficult intellectually to set out a scenario for a "soft landing" and sustained growth. There is a wide area of agreement among establishment economists about a textbook pretty picture: China and other continental Asian economies should permit and encourage a substantial exchange rate appreciation against the dollar. Japan and Europe should work promptly and aggressively toward domestic stimulus and deal more effectively and speedily with structural obstacles to growth. And the United States, by some combination of measures, should forcibly increase its rate of internal saving, thereby reducing its import demand. [Italics mine]

Volcker saw the problem as "intractable"--and perhaps sarcastically recognized the "establishment" solution for what it was: "pretty," not very realistic.

Altogether the circumstances seem to me as dangerous and intractable as any I can remember, and I can remember quite a lot. What really concerns me is that there seems to be so little willingness or capacity to do much about it.

Fond dreams fed such pretty pictures. Did establishment economists really think any of the following would just miraculously happen?

1. Asian economies would permit and encourage a substantial exchange rate appreciation? China had and still has no interest in such an appreciation if that appreciation hurt its exports. (Recently, China tightened its dollar exchange rate to protect some of its sensitive industries.) Furthermore, China is a country with a plan of rapid, non-stop, catch-up industrialization. Exports are its strategy for rapid growth. Import raw materials; export finished goods.
   
   
   
   
2. Japan and Europe would stimulate their economies? Japan, which depends on exports, now is starting to run a trade deficit. Europe, to a lesser extend, had the same problem with China, a growing trade imbalance. Only this part of the picture, however, had any likelihood of occurring.

3. The United States, by some combination of measures, would "forcibly increase its rate of internal savings, thereby reducing its import demand?" Very unlikely, given the corporate and financial honchos now in the U.S. saddle.

This last part of the pretty picture needs elaboration, for it is the part we can control--if we had the will to do so. But first, we should at least recognize some aspects of the game that has been played.

Those parts of corporate American that set up shop in China enjoyed enormous profits, from its great retailers--such as Walmart, which now should proudly and publicly flash it's "Made in China" label--to its great manufacturers of drugs, auto parts, IT, and many others. Did we worry? No. We glowed over the stock market boom.

The yuan peg, together with cheap labor, export tax rebates, no environmental overhead--all of this increased profit margins. Business was good. If a goods could be manufactured where overhead is low and then sold to a country where the currency is much, much stronger, well, what CEO would not pay himself a handsome bonus for the wisdom of seeing that kind of light?



Remember when many complained not so long ago about the loss of our textile industry to China? Schumer demanded reports on the currency mismatch. How quickly that fuss ended. Once the shops were torn up in the U.S. and replanted in China--and the displaced workers were absorbed back into the U.S. work force--, who really cared? Industry after industry have left our shores. It is not that we desperately need a textile industry, but we do need a net trade balance.



Another part of the "pretty picture" we should understand is that our leaders have been primarily focused on the consumer--not the worker. What was Paulson's and other leaders--Democrat and Republican--first response to the present crisis? Send out rebate checks! Get the consumer spending again!



Talk about grabbing the wrong end of the stick. What did Bush want in exchange for support for a loan to the Big Three? Free trade with Columbia! Regardless of how we viable we think our auto industry is, look at the priorities. Can we argue that free trade with drug-ridden, gangland Columbia is going to improve our net trade balance? Did it with Mexico? With no environmental or labor safeguards it failed miserably in Mexico.



In 2007, net trade (millions of dollars) with Mexico was $-77,590; with Columbia $-1,237, with South and Central America, $-106,463; and with the European Union, $-113,936 Again, can anyone argue that our recent trade agreements have improved our net trade balance--or that any subsequent ones will?



Or has anyone come up with an idea of how to force the American consumer to save more? Give him more credit cards? Lower interest rates? Pour money into banks so that the banks can lend more?



An eighty-year old straight-shooting geezer trundles forward, ready, I hope, to tell the truth to the President's panel of Economic Advisors. Oh, to be fly on that wall. No more young pups with fond hopes and pretty pictures. No more squishy, left-wingers painting teary pictures of poor struggling Columbian florists. No more grim-faced, tight-lipped right-wing hard ballers pumping for a stronger dollar, less regulation, and a trade policy that has been a disaster..



Let's take Volcker's old-fashioned view: Think about trade.



Quick globalization has become a terrible mess.



Maybe we should export our financial wizards, our corporate honchos, our lobby-dizzy politicians.

Let them plant rice fields or work for Nike. At least we would be rid of their "get-me-rich-quick" schemes. With them, we should send their Jesuit-style, free trade apologists, those economists who proclaimed that quick globalization promises endless bounty for everyone.



Furthermore, we could finally put those high salaries and stunning bonuses to good use. Those economists could explain to their CEO and financial masters that every CEO working for peanuts in a Chinese Nike plant or painfully planting a Chinese rice field creates thousands of productive jobs in America.

by Stormy (noreply@blogger.com) on November 29, 2008 08:31 PM

Ken Houghton



CR beat me to commenting on this Mankiw whine post, partially because I couldn't think of anything reasonable to say about it. (CR could. That's why he gets the big bucks.)



But now that CR has done the heavy lifting, let's look at the other aspect: Mankiw's standard:

Based a standard ranking of economists' academic accomplishments as of October 2008...[emphasis mine]

11. Larry Summers

21. Greg Mankiw

35. Ben Bernanke

99. Eddie Lazear

132. Glenn Hubbard

249. Harvey Rosen

391. Christy Romer*

653. Austan Goolsbee

[emphases Mankiw's; Bush administration officials]

Leaving aside whether the ranking used makes sense, we ask the next question: What does this have to do the performance of the individual in a government role?



So I realised we've been thinking about the Obama Administration in exactly the wrong way.



Several people are referencing the late David Halberstam's The Best and the Brightest, a biography of the Kennedy Administration's well-educated pedigree and their policy missteps. Krugman used it as a cautionary phrase in the exact post about which Mankiw whimpered. As John McCain once wrote:

The term "best and brightest" has become an insult, not an accolade, thanks largely to Halberstam's magnificent, scabrous epic about the policymaking blunders that swept the United States into Vietnam. This classic work is part of the Vietnam canon, but it is not really about Vietnam; it is very much a Washington book, focused on the surety of the hawks stateside rather than the misery and warfare in Indochina. [italics mine]

But look at (most of*) Obama's picks:

Orszag - Currently at the OMB. Prior experience at CEA, and then as a Special Assistant to the President during the Clinton Administration.

Summers - veteran of the Clinton Administration

Geithner - veteran of the Clinton Administration

Paul Volcker - veteran of the Carter and Reagan Administrations, named Chair of the Federal Reserve by Carter.

Melody Barnes - Eight years as Chief Counsel to Senator Kennedy on the Senate Judiciary Committee

Heather Higginbottom - Eight years as legislative director for Senator Kerry

The list goes on, but what is notable is that—with the exceptions of the Advisors Goolsbee and C. Romer—all have extensive government policy experience.



Let's look at the Bush people:

Mankiw - columnist for Fortune, textbook author. As Bruce Bartlett noted in 2003, "Mankiw endorsed the election of George W. Bush because, unlike Al Gore, he would cut taxes, reform Social Security and antitrust policy, and try to implement school choice." Spent one year as a CEA staff member—twenty years prior to being named CEA Chair.

Lazear - No policy-making experience prior to being named to the CEA.

Hubbard - No policy-making experience prior to being named Chair of the CEA.

Harvey S. Rosen - Deputy Assistant Secretary (Tax Analysis), Department of the Treasury, 1989-91, then no government experience again until named to the CEA in 2003. (Fairness note: the interim is largely a Democratic Administration. No indication what he did from 1991 to 1993, save possibly returning to Princeton to teach). Note that he officially did exactly that in 2005, though he had warned that might happen.

Comparing the actual policy experience of the two Administrations, references to Halberstam's work are much more applicable to the Bush Administration than the incoming Obama Administration.



Despite having a relative disadvantage in looking for people with policy-making experience (eight years with a Democrat in the executive branch over the past 28 years v. Bush's twelve of the previous twenty), the Bush Administration's combined highlights list has less total experience in policy-making than Summers alone.



Knowing how to make sausage is a Comparative Advantage when one is working in a sausage-making environment. Otherwise, you just end up with a "hack."



*Mankiw uses Greg and Ben and Eddie as well, so I assume the use of "Christy" is not meant to pejorative. Firedoglake's mileage may vary.

**Goolsbee is the notable exception, and he is in a Senior Advisory role, specifically the Economic Recovery Advisory Board, where he will be working with Paul Volcker.

by Ken Houghton (noreply@blogger.com) on November 29, 2008 06:59 PM

Robert Waldmann



has become interested in Credit Default Swaps. I'm not just wondering whether they played a major role in destroying the world financial system or were just along for the housing bubble, MBS, CDO ride. I also wonder whether the acronym for the plural should be CDS or CDSs or even CDSes. I'm glad to see I'm not the only one.



But more even that that, I wonder why credit default insurance is called a credit default swap when the contract is as asymmetric as a financial contract can be. I have no information on the history of the term and will just speculate. I assure the impatient reader that this post is not totally pointless (as far as I know) and leads to a practical proposal for regulatory reform.



After the jump, I will argue that the main motivation for the invention of new financial instruments was to evade relax capital requirements, that this relaxation was reasonable in the case of interest rate swaps, that it was unreasonable in the case of credit default swaps and that credit default swaps should be recorded in balance sheets as if they were interest rate swaps (which they are in disguise).









I will start with interest rate swaps, which are clearly swaps. In an interest rate swap contract to entities agree to exchange a constant times interest paid on one bond during the term of the interest rate swap contract for a constant times interest paid on another bond during that period. For old timers, it is as if they were buying and selling coupons not bonds. Why would they do that ?



First it is possible to construct an interest rate swap using a portfolio of older assets, bonds, bond futures, short positions on bonds and short positions on bond futures. Instead of buying interest paid on a bond this year I can buy the bond and sell short the bond a year from now.



My first claim is that the new instruments exist, because if they appear in balance sheets total assets and total debt are smaller numbers -- that is for accounting and regulatory reasons. This is not the most common explanation for the existence of interest rate swaps. The explanation is that corporate bonds are not liquid, that is, the market for them is thin (or illiquid in financial operator speak). This means that if I send huge orders for bonds and short orders for bond futures to the double auction market, I will pay a huge price for the bonds and get a low price for the futures. Thus it is better for each of two firms for them to negotiate a bilateral deal with an agreed price and quantity. This gets us as far as "swap" but doesn't explain why these contracts are written as exchanges of interest payments and not as exchanges of bonds and bond futures. So far, it seems that it would make no difference.



If the firms are banks with binding capital requirements it makes a huge difference. A huge long position in a bond is a huge asset and a huge short position in the futures is a huge liability. A position recorded as a portfolio of bonds and bond futures would imply that a huge amount of wealth must be set aside to satisfy capital requirements. If it is recorded as a much smaller position in interest paid on bonds, then banks are not required to have so much idle capital to satisfy capital requirements.



In this case the new accounting is reasonable. The risk in holding a long term bond for, say, a year is almost entirely in its price at the end of the year. So long as the issuing firm doesn't default in the course of the year, (nominal) interest payments are safe. The the long position in the bond and the short future position are an almost perfect hedge. The two sources of risk cancel. It would make no sense to evaluate the total riskiness of the position at the sum of the two risks as if two almost perfectly correlated positions were uncorrelated.



Now with an acute sense of how existing regulations have nothing to do with portfolio theory or 20th century risk management, regulatory authorities were willing to the innovative accounting.



The next step is almost logical. If interest paid on a bond is scheduled interest (a known constant) minus losses due to default, one could rephrase an interest rate swap as a credit default swap. I pay you the interest paid on Bond A and you pay me the interest paid on bond B = I pay you a constant (which can be negative) plus losses due to default on B and you pay me losses due to default on A. Now that we already have the constant, there is no reason to make the positions in both bond A, so an interest rate swap becomes two credit default insurance contracts. I think this is why credit default insurance is called a credit default swap.



OK so still there is no change in possible financial transactions. CDSs like interest rate swaps are redundant assets which can be created out of portfolios of bonds, futures on bonds and short positions of them. So what is the point ?



Well the accounting innovation has become an accounting innovation squared. As the interest rate swap meant that the value of the bond at the end of the term no longer appears as an asset, the CDS means that scheduled interest payments no longer appear as an asset. The CDS appears in balance sheets at its fair market value, not as a large position in a bond and a short position in cash (or debt of the firm which bought the credit default insurance if its required payments are spread out over time). By introducing interest rate swaps and CDSs into accounting, firms have managed to rewrite immensely huge positions in bonds etc to merely huge positions in interet rate swaps to merely tens of billions in CDSs.



Now this second bit of innovative accounting is totally unreasonable. The part which no longer appears in accounts, the scheduled interest rate, is not an apparent source of risk which is hedged. It is the safe part. Writing a CDS is a way of bearing all the risk with a very small number recorded as the value of liability.



In the case of interest rate swaps, firms had a way to hedge risk which was not automatically recognized as such by accountants and regulators. So they changed the accounts so that large apparent risks which cancelled didn't appear.



With credit default swaps, firms found a way to describe the exact same transaction so that the numbers on their balance sheets were different and so that their required capital was smaller.



Now it is fairly easy to argue financial market innovation is socially useful, but few people would argue with a straight face that we need more innovative approaches to accounting. However, it appears that many people were willing to argue that innovative accounting *was* innovative finance. They convinced Gramm and Clinton went along (who was his treasury secretary at the time ?).



Now to me the reform is obvious. My proposed regulation follows.



People can trade what they want, but accountants must write accounts based on standard assets. New assets can be accepted into accounting only once their risk to value ratio is determined by the Basel III standing committee (Oh and the USA participates in Basel III). CDSs are not standard assets and CDS positions must be rewritten as interest rate swap positions.



An exception to the above shall be allowed. If a firm really insists on putting an unrated asset into its accounts, then it can. However, the number written as "liabilities" must be the present value of the maximum conceivable payments on its position and the number written as "assets" must be the present value of the minimum possible payments it will receive.



Believe me, bankers will find a way to express most new assets as portfolios of standard Basel III acceptable assets.



I admit that, under this plan, an authenticly genuinely new non-redundant instrument will be rated as extremely risky until diplomats and bureaucrats are convinced that it isn't. I consider that a feature not a bug.

by Robert (noreply@blogger.com) on November 29, 2008 02:40 PM

Glenn Greenwald at Salon opines on the nature of BDS and the necessity of having major players agree and augment his statements and viewpoints, including the NYT. BDS has much merit in objective terms on many issues, but as one man, even the President, he hardly did his stuff alone, or against major headwinds from the bosses.



So again, why is Chavez suspicious of the US? Because he is socialist? or because of other things like the US backing a coup to get rid of him? Duh.

by rdan (noreply@blogger.com) on November 29, 2008 02:12 PM

CR reminds us of two lists for failed bank reports, the FDIC home page and the Failed Bank List.

by rdan (noreply@blogger.com) on November 29, 2008 12:53 PM

Follow this link to a "Short Course on Behavioral Economics" at Edge. Be warned I have not viewed the video yet, but was drawn to the names involved, including Thaler and Romer.

by rdan (noreply@blogger.com) on November 29, 2008 12:46 PM

by cactus



General Motors and Social Security - Two Sides of the Same Coin





There's a group of folks out there who are busy pinning the blame for GM's four-decade long implosion on unions. Those folks tend to also bleat the loudest about the crisis with Social Security. People like this miss the point with both situations... and the point is about the same.



First, Social Security. Writers like Bruce Webb and Coberly here at Angry Bear, plus numerous others, have pointed out many times - there is no problem with Social Security. Social Security has accumulated a fortune in IOUs from the rest of the Federal Government, which has happily borrowed that money and promised to pay it back. If there's a problem, its with the rest of the government's ability to pay those IOUs back once Social Security stops running a surplus. The problem is only being exacerbated now, when the government is taking on additional new debt to cover and handing it to the likes of Goldman, Welfare, Queen & Sachs and Citi so they could continue to pay the talent that created the financial crisis. Similarly, since WW2, the problem has generally been made worse under Republican Presidents and been alleviated under Democratic Presidents - debt held by the public as a percentage of GDP has decreased under every Democratic President beginning with Truman, and has increased under every Republican President beginning with Ford. Clearly, bailing out bankers is seen by some as a better option than honoring long-extant promises to the nation's retirees. Tax cuts, gutting regulations, and generally producing slow growth are also more worthwhile goals.



What does all off that have to do with GM and unions, you ask? Well, like the Federal Government, GM had a choice as to how to finance its operations. When it (and the rest of the US auto industry) were producing world beating vehicles back before the world was cursed with knowledge of the Bee Gees, it was doing so in part by asking its employees, especially its unions, to forgo some payment at the time in exchange for some payment later. Put another way, by offering pensions and other benefits, GM got its union employees to accept lower salaries in the 40s and 50s and 60s. It built the world-beating cars of the time by borrowing the future, much like St. Ronald the Reagan and GW Bush "paid" for their "tax cuts." Would GM of the 1950s had been GM of the 1950s if it had paid its employees the future value of their retirement benefits at the time? I am pretty sure the answer is "heck no." Would it have gotten the same work out of its employees without those promises? Again, I'm pretty sure the answer is "heck no." Complaining about GM's obligations to its retirees is essentially saying: "if only GM reneged on its deals, it would have lower costs." No doubt the statement is true, but there's something seriously wrong with anyone who sees that as the way a company should choose to do business.



Of course, its only certain deals that some folks want to see reneged. Nobody would ever suggest that GM should refuse to pay for parts and equipment it has already used, or that the Federal Government should refuse to pay for equipment we transfer to Pakistani intelligence so they could train the new generation of Taliban who are fighting against our troops in Afghanistan. But weaseling out of obligations to folks who worked on assembly lines for decades seems to actually be a good thing. And any suggestion otherwise is class warfare or envy or even socialism.

_________________________________

by cactus

by rdan (noreply@blogger.com) on November 29, 2008 12:40 PM

I am going to start this year with a song that it not only a great Christmas song, but one that follows my favorite song writing convention: really driving, up-tempo music combined with at least semi-depressing lyrics. 99 Red Balloons, of course, is the canonical example (and yes, the English version. The German version doesn’t count because I don’t speak German and thus have no idea how messed up the lyrics actually are.) Christmas isn;t bout you, it is about doing good thing for other people, about loving your fellow man, about giving not reciving, and all those other hoary cliches. But just because they cliches doesn’t men that they are any less true. And this song captures that pretty damn well.

When I was small I believed in santa claus

Though I knew it was my dad

And I would hang up my stocking at christmas

Open my presents and Id be glad

But the last time I played father christmas

I stood outside a department store

A gang of kids came over and mugged me

And knocked my reindeer to the floor

They said:

Father christmas, give us some money

Dont mess around with those silly toys.

Well beat you up if you dont hand it over

We want your bread so dont make us annoyed

Give all the toys to the little rich boys

Dont give my brother a steve austin outfit

Dont give my sister a cuddly toy

We dont want a jigsaw or monopoly money

We only want the real mccoy

Father christmas, give us some money

Well beat you up if you make us annoyed

Father christmas, give us some money

Dont mess around with those silly toys

But give my daddy a job cause he needs one

Hes got lots of mouths to feed

But if youve got one, Ill have a machine gun

So I can scare all the kids down the street

Father christmas, give us some money

We got no time for your silly toys

Well beat you up if you dont hand it over

Give all the toys to the little rich boys

Have yourself a merry merry christmas

Have yourself a good time

But remember the kids who got nothin

While youre drinkin down your wine

Father christmas, give us some money

We got no time for your silly toys

Well beat you up if you dont hand it over

We want your bread, so dont make us annoyed

Give all the toys to the little rich boys

by Kevin on November 28, 2008 02:58 PM

by divorced one like Bush

caution, a long read



I've been reading: Making Government Work by Ernest F. “Fritz” Hollings. Yes, that Hollings of Gramm and Rudman legislation fame. It is kind of rambling read, but I now understand why our congress of the democratic party side has been acting like moderate republicans and not liberal or progressive. I recommend it just as a bit of a fly on the wall experience, be it a southern conservative Democratic fly. He does not like unions. He does not like free trade as currently practiced.



And, as much as he hates unions, he can not see that his fight against GATT and NAFTA in support of the textile industry as jobs moved south and over seas is and was the large version of his attracting jobs from the north east because of the cheap, non-union labor. He understands the impetus of cheap labor found in Mexico and China for business as a problem of “free trade” for our country as currently practiced, but totally fails to see it in his anti-union position. He can see the “fight” between nations for capital in flows due to labor cost advantages and how that is harmful to higher developed nations, but Hollings never indicates an understanding that he helped create the game of pitting one area of people against another by bidding down labor when he promoted the south as a union free area. That is, he sold his state, and thus sold out the northeast and the north midwest auto/rust belt social progress by bidding a lower labor cost. He fails to see his south played and still plays the roll of China to the unionized areas of America.



I mention this as an introduction to a person mentioned in the book who gave testimony in front of his senate committee hearings on GATT and NAFTA 11/15/94: Sir James Goldsmith. I present him and this bit of history as a compliment to Stormy's postings on trade and the related postings regarding ours and the worlds current economic condition. Senator Hollings listened, but he did not hear.



Sir Goldsmith you can imagine, is no small potatoes. Nor is his background of the character one would expect as to be not so much in favor of GATT and NAFTA. Consider:

Anglo-French billionare financier

The Goldschmidts (family name changed to Goldsmith), like their neighbors and relatives the Rothschilds, had been prosperous merchant bankers in Frankfurt since the 16th century.

He was a greenmail corporate raider and asset stripper. (Including US timber companies.)

In 1990, Goldsmith also began a lower-profile, but also profitable, global "private equity style" investment operation. By 1994 executives working in his employ in Hong Kong had built a substantial position in the intermediation of global strategic raw-material flows.

Goldsmith... believed Britain had been victim of a socialist conspiracy and that communists had infiltrated the Labour party and the media.

So, what are you thinking? Money and more money, of the world market...total conservative. Certainly eccentric, if not a little paranoid regarding the communist bogyman. Except, he wrote a book in 1993: The Trap.

From the intro:

We have convinced ourselves that there exists only one valid economic and social model: our own. By attempting to impose it universally, we have exported to almost every corner of the world our diseases: crime, drugs, alcoholism, family breakdown, civil disorder in urban slums, accelerated abuse of the environment and all the other problems that we experience daily."

But, this is the money quote:

"The economy is a tool to serve us. It is not a demi-god to be served by society."

So, with no further ado, I present the Ross Perot of Europe in the epic battle of free trade, Sir James Goldsmith: (the audio of the transcript is at the same site)

I believe in free markets, I believe in free enterprise and I believe the purpose of the economy is not just to improve indices but to improve the state of the nation--yours, mine. So I'm not an anti-free-market man nor an anti-free-enterprise man; quite the contrary.

[regarding a prior witness] What you've heard today is the view from big business, of which I was part. And I believe the view from society in general is totally different.

Let's pause right here and let that statement sink in. Society has a different view of the effects of “free trade” as practiced.

That's nothing to do with productivity, Mr. Chairman; that's moving to get the cheap labour forty times cheaper. And please don't think this is unskilled jobs; these are skilled jobs; these are high-tech jobs going there. Of course there are also the unskilled jobs, but the skilled ones are going to highly skilled people and they are moving offshore; and if you think that's productivity, then I think you would be wrong.



Well, surely the measure of competitiveness is the balance of trade. And as you, Senator, pointed out, if you have the second worst balance of trade in history, 150 billion dollars, that's not being competitive in world markets.



In his [prior witness] testimony he talks about 500 billion dollars to be invested in China. And then what does he say? He says what America needs--and no doubt this is true about Europe as well--is an increased rate of savings. What for? To invest in China?...we can't increase our rates of savings just to invest them elsewhere and where we bleed to death in terms of capital and we bleed to death in terms of jobs.



And this is the big point, Mr. Chairman. What we are witnessing is the divorce of the interests of the major corporations and the interests of society as a whole.

Ok, time out. I just want to make a plug for my coined bit of nomenclature: United Corporations of Global. It's an entirely new nation that has no grounding to any boundaries of the continents and thus no patriotism to any nation. Let's all chant: UCG, UCG, UCG, UCG...



Sir James Goldsmith goes on in his opening to present some figures showing the decline to society's non-GDP measures since free trade has come on the scene. So we'll skip to the closer quote:

Now I'm not here as a bleeding heart liberal; I'm a hard-headed realist and it is my view that if we try and make profits and at the same time destroy our nations, no one will benefit from it--even those who make the profits. (can you say "2008"?)

Returning to the beginning of this post regarding Senator Hollings lack of connection to his own approach to saving the south, I present this comment made during Sir Goldsmiths testimony:

...These thinkers were telling us--in fact I was at [Renaissance] with President Clinton when Michael [Porter] from Harvard was there and he was still lecturing on the comparative advantage, David [Richardo], and I just looked and said, yeah, the comparative advantage, that's why BMW's come to South Carolina. We have never made an automobile in our history. I mean, come on, it's the wage advantage; 30 dollars in Munich, 15 dollars in Spartanburg;

And that, ladies and gentleman, is the display of the disconnect of our thinkers in Washington concerning all issues. The disconnect is the segmentation of thought regarding the mechanisms of relationships when forming a position on an issue. Senator Hollings just laid right out there his selfish thought process. Now, I don't mean this in a derogatory way. Read his book, you will see he always held in desire what is best for the people. Unfortunately, the set called “the people” changes with the focus of the argument. The mechanics of the issue is never seen as being the same at a scale unrelated to the scale of the current set of “the people”. His desire to help his south (small set of “the people”) made him unable to recognize in his approach to improving the economy of the south, the same mechanical principles he was arguing to prevent in the hearings regarding GATT and NAFTA. That is the selfishness unrealized by him. He is anti-union still today.



Returning to Sir Goldsmith's testimony, these are relative to today:

The reason why this time there's been a recovery in indices and GNP despite very substantial pressure, downward pressure, on interest rates and facilitating credit through the banking system is because salaries, earnings, have either gone down or risen very little relative to the period of recovery. And that is the whole philosophy, is we can keep inflation down by keeping wages down; and we have forgotten the purpose of the economy, which is to enrich, to create a stable society, and to include the population, the vast number of people in active life; and instead we believe that if we can reduce salaries we can keep inflation down. That's the wrong way around; we just forgotten what the economy is about, what its purpose is. (Can you say last 8 years? Really, though it has been the last 28 years regarding interest rate decline, wage decline, inflation moderation with rising GDP.)

The alternatives are not just closing the market, becoming protectionist; the alternatives are not saying we are now going into protection and we're going to isolate ourselves from the world, each one of them. The alternative is to have regional trading blocs which have similar economies so we're not trying to make our labour forces compete with people whose labour costs 2 percent of theirs and thereby destroying them--but--and reducing their salaries and eliminating their jobs--but having negotiated bilateral agreements between trading blocs so that each region, each nation, imports those products that it needs, not those products that destroy its jobs.



Senator, when I was young I was taught, as we all were, that if we managed to create extraordinary material prosperity we would solve our problems. And we were brought up in the belief that there was an inevitability of progress: progress of wealth, progress of stability, progress of civilization. Well during the last fifty years, since I've been more or less an adult, we've had the greatest period of economic prosperity, economic growth in history. We have succeeded beyond our wildest dreams...And what has happened? Have we solved our problems? Are our towns more stable? Are our families more stable? Is there less crime, less people in prisons? Less people in--are there more people in permanent and noble employment? What have we done? We have profoundly destabilized our communities. We have done everything that was wrong in social terms; we've deracinated, we've uprooted people from the countrysides, we've shoved them into towns, we haven't given them jobs; we've created ghettoes and underclasses; we've increased crime and drug addiction and family break-down--all this in a period of maximum prosperity. Why? Because we were only interested in economic indices. We forgot that the purpose of the economy is not just to improve the index; it is to improve prosperity along with social stability and social contentment. And GATT is typical of the economic instrument, whose purpose is to increase corporate profits; whose purpose is to increase gross national activity; and whose result will be the destruction of the stability of our society, a continued break-down in family life, a continued increase in crime, impoverishment and all the other ills that we are now suffering.

Read that last part again: ...whose purpose is to increase gross national activity; and whose result will be the destruction of the stability of our society, a continued break-down in family life, a continued increase in crime, impoverishment and all the other ills that we are now suffering.



I think Sir Goldsmith was thinking in linear terms as to the increasing negative effects of the form of free trade being set up. I don't think he imagined the deregulation that would give a false sense of reinforcement to the “free trade” weakening of the foundation. That business was able to shore up the crumbling base via debt against the social decline, just means, as we are now experiencing, that the crumbling of the pyramid will be of a greater energy. That is assuming we can not shore up the breaking of the foundation such that it is a controlled falling of the pyramid. Though, if we are lucky (fingers crossed, salt over shoulder) we may just engineer a solid repair of the base before it all falls down.



Can we broaden the discussion now?

Thank you.

by Divorced one like Bush (noreply@blogger.com) on November 28, 2008 12:57 PM

Financial Times carries this little note on one hedge fund.

SRM Global, the hedge fund run by the former star UBS trader Jon Wood, is suing The Wall Street Journal for publishing allegedly confidential information about its performance, setting up a high-stakes battle over the industry's transparency.



SRM claims the newspaper acted in "flagrant disregard'' of its rights by publishing in August that the fund was down about 85 per cent since its inception in 2006.

by rdan (noreply@blogger.com) on November 28, 2008 11:57 AM

Happy Thanksgiving, everyone. And if you’re making a turkey, don’t forget to save the carcass and make stock. Waste not, want not.

Let’s also take a moment today to remember that for all our differences, what unites us far outweighs what divides us.

by tgirsch on November 27, 2008 07:57 PM

Following up to rdan's two posts below (especially this one), an oldie but goodie:

by Ken Houghton (noreply@blogger.com) on November 27, 2008 05:38 PM

rdan





Have a good day folks. From the Happy Bears.

by rdan (noreply@blogger.com) on November 27, 2008 05:23 PM

The Wampanoag also need remembering today, with care and humbleness, as part of our history and who we are. Can we handle both ideas of Thanksgiving simultaneously? Both the gift and the sacrifice?

by rdan (noreply@blogger.com) on November 27, 2008 02:19 PM

Chris Dillow, beginning a post about legal avenues to reduce prostitution:

If a man wants quick, unfulfilling sex with a woman who despises him, he should get married.

The rest is one of Dillow's usual rational exigeses of the vagaries of "rational" policy making. Tell me again about how Micro makes more sense than Macro.

by Ken Houghton (noreply@blogger.com) on November 27, 2008 01:39 PM

by cactus



How To Bail Out the Economy - A Less Wrong Way



Regular readers know I've had post after post explaining why a bail-out would be a bad idea and would not work, dating to long before the bail-out began. I predicted that the end result would be the further enrichment of some of the very folks who brought us this mess and junior versions of the same folks who were too young to get in on the original crime spree, but otherwise, we'd have nothing to show for the trillions that would get spent.



The supposed "rationale" for this bail-out is to make sure that companies that are willing and able to produce goods and services that consumers wish to purchase are able to do so, and that in turn consumers are willing and able to purchase goods and services that companies want to bring to market. The story line is that this can be accomplished by giving money to the financial sector, that sector of the economy that for the past few years has specialized in selling squirrel meat as fillet mignon. Give those talented folks some money to make up the massive losses pulled off in the past years and they will happily loan money to producers and consumers, we are told.



Its becoming obvious even to the likes of Henry Paulson that no matter how much money gets paid to Goldman, Welfare, Queen & Sachs and Citi and Countrywide and the rest of 'em, the "financial system" of old is gone forever. Compensating buyers of squirrel meat is more than enough burden on the taxpayer, but it seems we're expected to make Goldman, Welfare, Queen & Sachs whole for paying the exorbitant salaries of folks like Henry Paulson in the past, and the current and future generations of Henry Paulson to boot. Clearly this is not only a very, very, indirect way to keep companies producing and consumers buying, its also adding a bunch of layers of unnecessary expenses.



So... if the goal is to stimulate production and/or consumption, why not cut out the unnecessary layers of exorbitant expense? I'm not sure I see the reason for bailing out car companies, but say that was the goal for some reason. In that case, the government could simply buy a $20K car for every single American, every single one, and spend less than the $7 trillion that's been committed so far. That's well over 30 times as many cars as GM made last year. Worldwide. You could bet the car companies would tool up for this, and it would employ a lot of people, and it would stimulate the economy. Additionally, we'd all have another car thrown in. Sure, it might be a GM vehicle, but its still something, which is more than the nothing we're gonna get from pumping it into the Goldman, Welfare, Queen & Sachs black hole. Heck, it doesn't have to be cars - the gubmint could simply commit to spending $20,000 on something, anything each of us picks. You could take your 20 G and spend it on a menu of American made options.



Preposterous, you say? Inflationary, you say? Jingoistic, you say? Sure, I say. Its a stupid idea and I don't like it all. But I think its a much better idea than the current bail-out approach, which I think is worse than taking (for now) $7 trillion and setting it on fire. Giving the money to the likes of Henry Paulson's former employer is simply rewarding bad behavior and sending the wrong message, not to mention preposterous, inflationary, and jingoistic.

___________________________________

by cactus

by rdan (noreply@blogger.com) on November 27, 2008 10:04 AM

I just could not resist posting this latest tidbit about the aging process:

Like our current financial crisis, the aging process might also be a product excessive deregulation.

Nearly a decade ago, Sinclair and colleagues in the Massachusetts Institute of Technology lab of Leonard Guarente found that a particular sirtuin in yeast affected the aging process in two specific ways—it helped regulate gene activity in cells and repair breaks in DNA. As DNA damage accumulated over time, however, the sirtuin became too distracted to properly regulate gene activity, and as a result, characteristics of aging set in.

"Too distracted" is clearly too anthropomorphic a phrase, but in a curious way, it fits the present crisis. But wait.



The researchers have added an "enlightening" twist to the idea of "distraction":

The problem for the cell, however, is that the sirtuin has another important job. When DNA is damaged by UV light or free radicals, sirtuins act as volunteer emergency responders. They leave their genomic guardian posts and aid the DNA repair mechanism at the site of damage.

"Distraction" is now operationally defined.



The marvelous genetic aging metaphor is ready for completion. All we have to do is to define what is presently keeping the overseers of our economic system from paying attention to the real problem.



Once we thought of the world in mechanical terms; now the world of genetics is opening a new way of looking at the world.

by Stormy (noreply@blogger.com) on November 26, 2008 10:38 PM

What fresh hell is THIS?

When I first started studying Social Security in detail sometime late in 1997 I made what to me was kind of an amazing discovery. Social Security 'crisis' then and now tended to be perceived and discussed within the deterministic frame of Boomer Retirement, kind of a 'demography makes destiny' thing. Every Boomer who would ever exist was already on the face of the planet and we had reasonably good data about longevity improvements. Which seem to leave us with an open and shut case: more Boomer retirees living longer vs a declining pool of workers equals crisis down the road. Thus it made some sense to talk and think about Social Security in fixed terms of Boomers becoming eligible for retirement at known points in known numbers resulting in Social Security going 'broke' (however defined) at specific points in the fut