Tag Archives: Wall Street

How NOT to finance public works: The Capital Appreciation Bond Saga

Capital appreciation bonds God help school board members. They don’t get paid for their service, and they certainly aren’t compensated for the bombastic late night calls from irate parents when Little Fauntleroy isn’t selected for the lead in the annual 5th grade play.  That said, let’s explore one more reason for them to go gray while doing their civic duty: Swimming with Financial Sharks.

In late 2012 the Los Angeles Times reported that approximately 200 California school districts and community colleges had been talked into Capital Appreciation Bonds which promised to mitigate the problems associated with financing school construction costs. So, what could go wrong?

“CABs, as the bonds are known, allow schools to borrow large sums without violating state or locally imposed caps on property taxes, at least in the short term. But the lengthy delays in repayment increase interest expenses, in some cases to as much as 10 or 20 times the amount borrowed.”

Only, it wasn’t 10 or 20 times the amount borrowed – given the $500 billion borrowed could turn into $2 trillion in future repayments.

“Wall Street exploited the school boards’ lack of business acumen and proposed the bonds as blank checks written against taxpayers’ pocketbooks. One school administrator described a Wall Street meeting to discuss the system as like “swimming with the big sharks.”

Wall Street has preyed on these school boards because of the millions of dollars in commissions. Banks, financial advisers and credit rating firms have billed California public entities almost $400 million since 2007. Lockyer described this as “part of the ‘new’ Wall Street,” which “has done this kind of thing on the private investor side for years, then the housing market and now its public entities.” [SF.com]

This was lucrative business for such firms as Piper Jaffray, which pocketed some  $31.4 million in fees for brokering 165 CAB deals, or for Goldman Sachs which earned $1.6 million for a single deal in San Diego. [SF.com]

The argument in favor of Capital Appreciation Bonds is deceptively simple.  Most bond issues have steady repayment schedules and are limited to 30 years or less.   Capital Appreciation Bonds assume that the asset will appreciate in value or generate revenue for longer than 30 years or less – so, why not spread out the repayment schedule over a longer period? Here’s why, and here are two things to watch as the sharks circle:

(1) Watch for interestingly engineered estimates of future revenues.  If you are looking at property values that are expected to increase exponentially, then imagine the shark grin facing in your direction.  “Gee,” sayeth the Shark, “The recession can’t last forever, and property values will increase. Therefore, why not spread your borrowing costs over a longer period when you’ll be generating larger incomes?”

(2) Watch for the piling up of fees and interest.  Yes, the repayment schedules were such that school districts in California could construct gyms, classrooms, and other facilities that couldn’t get past voter disapproval of bond issues – but as with all loans the longer the repayment schedule the more interest will be paid. For example, the Savanna School District (Anaheim) took on $239,721 in CAB obligations in 2009 on which it will pay approximately $3.6 million by the 2034 maturity date. [Alter]  There are, unfortunately, other examples in Orange County, CA:

“Over the next 40 years, these bonds are projected to cost districts $2 billion as they repay them at rates of 1.1 times to 15 times the principal, according to figures provided by the state treasurer’s office. Conventional bonds typically carry a 2-to-1 or 3-to-1 debt ratio.” [OCR]

It’s entirely possible to call for more infrastructure construction and asset enhancement without having the specter of the Capital Appreciation Bond salesman showing all fifteen rows of teeth in each jaw.  We should also call this kind of dealing what it is – predatory lending.  The Roosevelt Institute provides a summary:

“The financialization of the United States economy has distorted our social, economic, and political priorities. Cities and states across the country are forced to cut essential community services because they are trapped in predatory municipal finance deals that cost them millions of dollars every year. Wall Street and other big corporations engaged in a systematic effort to suppress taxes, making it difficult for cities and states to advance progressive revenue solutions to properly fund public services. Banks take advantage of this crisis that they helped create by targeting state and local governments with predatory municipal finance deals, just like they targeted cash-strapped homeowners with predatory mortgages during the housing boom. Predatory financing deals prey upon the weaknesses of borrowers, are characterized by high costs and high risks, are typically overly complex, and are often designed to fail.” [RooseveltInst]

High cost, high risk, overly complex, and sold to the school boards as a way to finance capital projects without breaking the “no new taxes” pledges.  The thought of paying out at 15:1 when the debt costs should have been no more than 3:1 is possibly worse than the ranting of Fauntleroy’s mother after the 5th grade play cast was announced. And so we come to the camel’s nose into Nevada’s tent with a recommendation for infrastructure funding:

“Along these same lines, there may be instances where changing legislatively imposed requirements relating to bonding may benefit from increased flexibility. For instance, bonds for capital projects are generally limited to terms of less than 30 years. However, in a limited number of cases, such as projects which generate user fees or for which the useful life of the asset extends beyond 30 years, there may be instances where longer financing terms may be useful to accelerating the timeline of a needed capital project.” [Applied Analysis]

What is Applied Analysis (client list includes Chambers of Commerce) recommending?  “More flexibility” in bonding requirements? This sounds ominously like California’s infamous AB 1388 which launched the CAB craze in our western neighbor.  Lengthen the repayment period to the life of the asset? The average functional life of a school building is 40 years. [NCES] So, a capital appreciation bond could be issued for 40 years – go back to the unfortunate example of the Poway School District, wherein borrowing $150 million ended up costing $1 billion.

School board members, as well as city and county officials, should approach suggestions that they want “more flexibility” and “longer repayment schedules” with exactly the same trepidation they’d approach the water when the shark alert sign goes up.

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Filed under Economy, education, Infrastructure, Nevada economy, nevada education, Nevada politics, nevada taxation

It’s Not Capitalism Anymore, and someone has noticed

Middle Class photo

Jim Tankersley has a series of articles published in the Washington Post which ought to do for Wall Street what Dana Priest and Ann Hull did for the Walter Reed Army Hospital and other veterans’ care centers in previous publications – expose problems at the core of the institution.

“In 2012, economists at the International Monetary Fund analyzed data across years and countries and concluded that in some countries, including America, the financial sector had grown so large that it was slowing economic growth. Using a different methodology, the most prominent researcher on the size and economic value of Wall Street, a New York University economist named Thomas Philippon, estimates that the United States is sinking nearly $300 billion too much annually into finance.” [WaPo]

How could this be? Isn’t the financial sector supposed to be the heart pumping capital through the veins of American enterprise? That would be capitalism, in which money saved (surplus) is channeled into investment (scarcity) and the machine moves smoothly.  What happened?  We’ve heard this before, from those economists who decry the inflation of the financial sector – that the firms (banks) are more interested in devising financial products for their own profit than they are in acting as brokers for financial markets between business and finance.  The result is a drain:

“In perhaps the starkest illustration, economists from Harvard University and the University of Chicago wrote in a recent paper that every dollar a worker earns in a research field spills over to make the economy $5 better off. Every dollar a similar worker earns in finance comes with a drain, making the economy 60 cents worse off.”  [WaPo]

Compounding the problem we have a consumer culture and institutional environment which abet this drain.  In a good old fashioned Capitalist system the financial sector is concerned with creating markets for investment, again that’s moving money (capital) from savings to scarcity.  However, when the financial sector changes function to moving money from scarcity (debt) to revenue for the firm the investment firm (bank) does well but the underpinnings of the economy are weakened.

Savings Rate

We’ve been keeping track of the personal savings rate since 1959.  Notice the general direction of the trend line since 1980.  The ratio of  personal income saved to our personal net disposable income has been tightening. We are, as a nation, saving less than we saved in the decades before 1980.  And, we’re accumulating more debt:

Household Debt trends

Note, again, that the accumulated liability for consumer debts started pulling up in the 1970s and 1980s.  When the savings rate is trending down and the household debt level is trending up how are the bankers and financiers to make money?

Debt is inherently risky.  So, securitize the debt and spread it around. And earn fees for the bank in the process.  In 1970 Ginnie Mae launched the first securitized mortgages, and in 1985 Wall Street securitized the first auto loans.  This situation expanded to include the packaging of credit card backed securities, home equity backed securities, collateralized debt obligations, student loan backed securities, equipment lease backed securities, manufactured housing backed securities, small business loans, and aircraft leases.

Once more with even more feeling: One man’s debt is another man’s asset. Now, one man’s debt can be magically transformed into the assets of several investors.  As long as Americans are willing to accumulate more and more indebtedness, the bankers will be equally willing to create “financial products” to securitize that debt and make money doing so.  The consumer culture and the institutions that profit from all the mortgages, auto loans, credit cards, student loans…. works perfectly well for the financialists.  Gone are the days when savings formed the basis for the health and wealth of Wall Street. Now it’s debt.  And, the corollary of debt: We have put about $300 billion per year too much into the Wall Street Casino.

Even our tax system permits this situation – we tax capital gains at 15% and productive work at levels above that. We have loopholes aplenty for writing off debts incurred by major corporations. We have a tax structure which depreciates work and products while appreciating financial products. If this isn’t bad enough, we’ve based the system on some very tentative valuations.

What is the “fair value” of any package of securitized assets?  This is not only an accounting problem. It’s also an issue for accountants.  [GSBColumbiaEdu pdf]  It’s also an issue for homebuyers who are now being told that the down-payment standards could be reduced to 3%. [MortgageNews]  What do the mortgage lenders want?  Their strategic goal:

“Maintain, in a safe and sound manner, foreclosure prevention activities and credit availability for new and refinanced mortgages to foster liquid, efficient, competitive and resilient national housing finance markets.”

What does Wall Street hear?  More people taking out more mortgages, which can be diced and sliced, warehoused, tranched into pieces, and sold as securitized asset based financial products.  So, what IS the value of one of these products?  After the Housing Bubble Debacle of 2007-08 the Federal Reserve created the Term Asset-Backed Securities Loan Facility which was supposed to help untangle the mess made by the Wall Street Casino.  Two new acronyms entered the financial vocabulary – TALF and CMBS (non-mortgage securities).  When the Office Monetary Policy studied the results of the program it found:

“In terms of benefits, the results point to substantially stronger effects at the market level than at the security level, which suggests that the impact of TALF may have been to calm investors, broadly speaking, about U.S. ABS markets, rather than to subsidize or certify the particular securities that were funded by the program.” [Campbell pdf] 

Okay, the investors felt better, more comfortable, and the government wasn’t at great risk, that’s the good news.  The bad news is that despite the best efforts of algorithm creating quants – there is still no valuation of ABS (asset based securities) which goes much beyond “what they’re worth is what someone is willing to pay.”  From the Campbell Study: “In addition, we find that the program screened out the riskiest deals but attracted somewhat riskier than average deals among the pool of potentially eligible securities.”

Thus we find ourselves with a tax structure which rewards investment gains over productive work, an investment system that rewards the sale of financial products derived from indebtedness, and banking institutions which make investors “more comfortable.” Top this off with  a population far more willing to spend than to save and there’s all manner of potential for yet another Casino Bust.

When does the indebtedness become unsustainable?  In order to create all the ‘wonderful’ products on Wall Street someone has to buy a house, purchase a car, take out a student loan, put items of the household credit card, lease some heavy equipment, lease an aircraft, take out a small business loan, or in some other way accumulate debt which can be transformed into an “asset.” What happens when the stagnation of wages becomes such that there is no more room in the family budget for more debt?

For most workers in the United States their wages haven’t moved significantly for decades.  In the old fashioned Capitalism vernacular, when labor markets tighten, wages will go up.  However, this hasn’t been the case for years. [HuffPo]

“… after adjusting for inflation, today’s average hourly wage has just about the same purchasing power as it did in 1979, following a long slide in the 1980s and early 1990s and bumpy, inconsistent growth since then. In fact, in real terms the average wage peaked more than 40 years ago: The $4.03-an-hour rate recorded in January 1973 has the same purchasing power as $22.41 would today.” [HuffPo] [BLS]

Not to be a complete Grinch in the midst of everyone’s Christmas season, but to suggest that either savings or indebtedness (or both) can sustain a long term healthy growth rate in the U.S. economy is pure lunacy, unless wages and salaries make some significant gains.  Arguing that “we can’t afford” to increase the minimum wage because we’ll be “non-competitive” in world markets is essentially contending that it’s somehow better to risk ending up being nothing. 

The BLS report for December 2013 shows an average hourly wage of $20.35, and an estimated average hourly wage of $$20.74 for 2014.  Both of these numbers show less purchasing power than the January 1973 average hourly wage.  In the long view: Less purchasing power = fewer purchases = less indebtedness for large expenses = fewer asset based securities = less income for financiers, who for the moment give every appearance of believing that short term gains are preferable to long term losses.

If anyone is arguing that the income gap doesn’t really matter, and perhaps it’s just that some people are better at earning than others – and we shouldn’t punish success, then we ought to take a second look at what this philosophical perspective means for long term economic growth.

Income Gap

When more income is siphoned off toward the upper income earners, and the gap continues to expand, the obvious conclusion is that those who earn middle incomes are less likely to … and here we go again … spend money, have disposable income to spend, have the capacity to take out loans and mortgages…  For those who prefer numbers to charts, the Census Bureau has handy downloads.  In 1967 the top 5% had an aggregate of 17.2% of the nation’s income, and the middle category had 17.3%.  As of 2013 the top 5% had 22.2% and the middle category had 14.4%. (Table H2)

How is it possible to sustain, much less grow, an economy in which larger accumulations of income are consistently moving into the hands of fewer consumers?  It may be fine (for the financiers) for families to take on more debt to sustain a middle class lifestyle in the short run, but eventually the pinch has to be felt by the financialists who are benefiting from the situation.

It almost seems as if we have a financial system which has turned old fashioned Capitalism on its head – savings bad, spending good, indebtedness better; a financial system that is feeding off the debts of people who have less capacity to even become indebted as time moves on.  Instead of a vision of Capitalism writ large, we’ve settled for a myopic view of short term gains to satisfy an investor class moving ever so steadily away from the realities of our economic life.

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Filed under Economy, financial regulation, Politics

Wall Street’s Fingers in Charitable Pots

Gordon Gekko Quote

The good news is that charitable giving is up.  The bad news is that once again, the financialist crowd has entered the game.

“Giving to the nation’s biggest and most popular charities grew by nearly 11 percent last year, fueled largely by affluent donors, who are reordering the top ranks of America’s nonprofits, according to The Chronicle of Philanthropy’s annual rankings of the 400 charities that collect the most from private sources. The rankings demonstrate a shake-up in the nonprofit world as groups that raise money primarily from the affluent see their donations soar.” [Philanthropy]

What would “shake up” the charitable realm? Hint: It isn’t just the amount of the donations.  Four of the top ten charities on Philanthropy 400 list are organizations raising money from the upper reaches of the income brackets by offering Donor Advised funds.  So, what is a “donor advised fund?’

The Donor Advised Fund

The donor advised fund isn’t like putting money in the Salvation Army kettle, or writing a check to the charity of your choice.  The DA fund is established at a Wall Street firm, and then the donors advise the firm about which charities to support and how much should be disbursed.   On one hand this arrangement does give donors the option to give during “flush times,” and not worry about tax related deadlines, but on the other hand as Pro Publica points out it’s not a particularly good deal for our society.

For the Ultra Wealthy there’s always the option to establish a private foundation, but the donor advised fund has some advantages.  There are no start up costs, the cash deduction limit is 50% AGI as contrasted to the private foundation limit of 30% of the adjusted gross income, and the tax deduction limits for stock or real property is 30% AGI compared to the 20% AGI for a private foundation.  There are no excise taxes for a donor advised fund; private foundations pay 1-2% annually.  A private foundation must provide full disclosure of grants and other information in public tax returns, in a donor advised trust individual donor names can be kept confidential.

There is one other way the donor advised fund differs from the standard garden variety charitable foundation – the payouts.  A private foundation must pay out 5% of the Fair Market Value of non-charitable use assets annually (with administrative costs included).  There is no such requirement for the donor advised funds.

These donor advised funds have been around for at least 85 years,  but it wasn’t until George W. Bush signed the Pension Protection Act of 2006 that the concept was fully defined. [CalBar]  Both the amount under management and the number of donor advised funds have grown – as of 2011 the total number of DAF accounts reached 177,357, up 17% from 2007; the assets In DAFs as of 2011 were up $5.5 billion. By 2012 the assets in DAFs totaled $7.21 billion. As for total assets under management: “Over the last few years, the donor-advised funds have grabbed significant market share. The total amount of assets under management at donor-advised funds rose to $54 billion in 2013, up 20 percent from $45 billion a year earlier. Fidelity’s alone have skyrocketed to $13.2 billion.” [Trade] The average payout was 16%, compared to the statutory requirement for a private foundation of 5%. [CalBar]   What could possibly go wrong?

The Pay Out Problem

While the current pay out rate is obviously generous, there’s an issue which needs further explication and guidance.   The private foundations must have annual payouts of at least 5% there is no such requirement for the donor advised trust.  Donors can take the tax deduction in a single year, the DAF isn’t required to dispense the money with an immediacy, and the donor could in theory leave their children – and their children’s children – in charge of the legacy in an advisory capacity forever and ever amen. [Trade]

Alan Cantor explains why the increase in DAFs isn’t necessarily good for the general improvement of our philanthropic environment:

“First, if donations to donor-advised funds were dollars that otherwise would not have gone to charity—that is, if the funds facilitated a net plus in donations—then the rise in giving to DAFs would be a positive development.

But there’s no indication that that’s the case. “Giving USA” reports that charitable giving from individuals in recent decades has consistently hovered at around 2 percent of disposable personal income. While overall giving to charity as a percentage of income has remained flat, dollars flowing to DAFs doubled from 2009 to 2012 (reaching $13.7- billion), according to the National Philanthropic Trust’s 2013 Donor-Advised Fund Report, and the percentage of charitable giving going to donor-advised funds also doubled (to 5.7 percent of the $240.6- billion of all giving from individuals, as reported by “Giving USA”). It’s largely a zero-sum game: Money going into DAFs is essentially subtracted from other charitable giving.” (emphasis added)

To put the matter less elegantly – what we have is a situation in which money deducted from taxes as a charitable expense is being warehoused in the DAFs.  Further, those who advocate for DAFs and point to the 16% average distribution rate ignore the fact that many DAFs don’t disperse any funds for years. [Cantor]

The Boston Globe summed up the situation:

“Though legally public charities, they are more like holding tanks that let would-be philanthropists deposit money, collect the tax benefits up front, and then decide later which causes they actually want to give to. Legally, there’s no limit to how long the money can sit there.”

And, yes, there are fees to be earned for the administration of these accounts whether they are active or haven’t dispersed a dime lately. Charles Schwab DFAs of $500,000 or less earn fees of 0.60% of assets; $1,000,000 fees of 0.30%; down to 0.10% of assets on DAFs above $15,000,000.  Fidelity Charitable has both individual and corporate “giving accounts,” which also garner 0.60% fees for accounts of $500,000 or less, or 0.15% (15 basis points) for an account of at least $2,499,999.  Vanguard Charitable also provides for DAF accounts, with administrative fees of the standard 0.60% for a smaller account, reduced to 0.05% in the upper reaches.  (See also: Fidelity Charity guidelines p. 23 pdf)

The Payout Problem could be resolved by requiring the DAFs to disperse money like their private foundation counterparts – at the rate of at least 5% per year.  However, this would mean that those “warehouse” accounts would be required to donate to the approved charities – and the amount distributed wouldn’t be earning fees for the firms managing  the DAF.

The Anonymity Factor

The donor to a DAF can be the epitome of the anonymous donor, and if that’s a family value related to the inherent desirability of anonymous giving so much the better.  However, it’s also an invitation to problems.  There is a darker side:

“DAFs allow for complete anonymity. Grants made from a DAF come from the sponsoring organization, which is not required to reveal the original donor’s name. This might be appealing to people who want to practice humility, be discreet, or avoid communications from nonprofits. But this is not a good thing if people use DAFs to shield their identities and influence from public scrutiny when more transparency would be in the public’s interest.” [Motley Fool]

The anonymity factor creates opacity which may give a charity pause – just who is giving us this money?  Is it a source with which we’d like to be associated?  Imagine for a moment being a charitable organizations board member – Do we accept the donation from XYZ’s DAF? What happens if people start asking questions, especially about a large grant? [NPI]  Are we inadvertently taking money from some “creep?”

Is the Donor Advised Fund being used to hide funding from sources which if publicized would compromise the ‘independent’ nature of the recipient organizations?  The question is a politer way of asking if the DAF is anything from a glorified money laundering scheme to a way to create a network of funding away from appropriate and informative public scrutiny.

Frankly, if the intention is entirely charitable then anonymity can be preserved by having the donor use a “cut out” intermediary to make the donation.  It’s evident that the anonymity issue could be resolved, as in the foundation format, by making all donations subject to reporting.  However, what of the major financial institutions that are earning revenue from their administration of financial products like DAFs?

The Zero Sum Game

There is an argument to be made that the DAFs serve a useful purpose, that they do donate funds to support our charities, and do so at an average rate beyond private foundations.  There is also ample room to question (1) The gamesmanship implicit in donating in one year, taking the full deduction, and then warehousing the money, which might be desperately needed in some quarters; and, (2) The anonymity factor which touches along the spectrum of humanity from utter humility and discretion to invidious intentions.  There is a third factor to consider.  How much of the charitable ground are we willing to cede to financial management?

If philanthropy is a truly free activity, then how do we interpret financial sector management intercession in charitable causes?  This raises two further questions.  First, who determines which charities will receive the donations?  The Fidelity Charity guidelines state:

“Grants can only be made to IRS-qualified public charities. These are organizations that are described in Section 501(c)(3) and 509(a)(1), (a)(2) or (a)(3) of the Code and applicable regulations and IRS authority, or are private operating foundations as described in Section 4942(j)(3) of the Code and applicable regulations and IRS authority. Eligible public charities include the full range of charitable organizations, including hospitals, scientific and medical research organizations, religious organizations and places of worship, environmental and educational organizations, museums and arts organizations, and any other organizations or institutions formed for charitable purposes.”

At this juncture we’d have to ask is an IRS-qualified charity synonymous with an IRS approved charity?  And, what is meant by “any other organization or institution formed for charitable purposes?”

The second issue relates to the general atmosphere in which donations are made.  Heaven help us we do love calculations, and Wall Street is replete with them, including the Return on Societal Investment shorthand.  The very concept incorporates the idea that charitable donations can be inserted in a formula in which we can observe the mathematical impact of a finite input. This notion is a close cousin the of Cost/Benefit Analysis.  It goes beyond telling me that if I donate $20 to the local food bank the money will feed one family of four two meals for X number of days.   It goes beyond telling me that the charity has met 94.5% of its operating expenses. It implies that if I “invest” in some activity there will be a measurable result.

It’s the measurement process that’s disturbing.  We all expect philanthropic organizations to be accountable and subject themselves to periodic financial audits.  However, should we expect a charity to be evaluated by a DAF administrator on the basis of formulaic calculations of the efficacy of funding a wall mural project for kindergarteners?  The Quant mind-set commonly associated with Wall Street, in which winning is calculated by positive gains from point A to point B, doesn’t work all that well when we’re speaking of the impact of a museum’s acquisition of a painting.  Does the painting have to get “X number of looks?” Does patronage need to increase by a specified amount?

How do we calculate the ROSI for a library’s story hour for toddlers?  When do we blur the line between “measurement” and “accomplishment?” [ProPublica]  When this line becomes blurred we’re perilously close to being unable to determine if we are in a game in which the score is anything from Zero to Infinity.

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Filed under Politics

America’s Most Accomplished Looters: The Great Pension Robbery

Pension Fund Robbery The corporate media outlets are ever so fearful that the raw emotions unleashed by the fate of young black men at the hands of the police will lead to vandalism and looting… they are not so attentive to the wholesale looting conservatives have in mind for America’s pension funds.   The retirement savings of millions of Americans — The money scraped together from modest earnings over a life time —  The funds intended to keep elderly Americans out of poverty.

The Financialists’ attack on American pension funds encompasses both the public and private sector, and it is nothing less than A Great Pension Robbery.

The Public Sector  Great Pension Robbery

Those, like the Arnold Foundation, who would like nothing more than to get their financialist mitts on public pension funds must first convince people that it would be “better” for the private sector to handle public employee pension funds, and to do so requires a concerted campaign of mis-information and dis-information about pension funds for public employees which are not associated with Social Security.   This scam incorporates a multi-layered attack.

Layer One: Convince the general public that public sector employees are pigs at the taypayer’s trough.  The evidence for this line of assault is rather blatant.  The media is only too pleased to provide outlier stories of high pensions such as “Retired Doctor Earns Highest Pension in Illinois History,” [Fox Chicago] or “$204,000 per year, Is This Retired Cop’s Pension Too High?” [Atlantic] or “Wall Street Isn’t The Problem, The Benefits Are” [New York Times] and a steady drum beat of propaganda from the conservative think-tank network including the Manhattan Institute, Cato Institute, Heritage Foundation, etc. will eventually lead to headlines like “Half New Jersey Voters Say Pension Are Too High.” [Courier Post]

Layer Two: A coterminous line of attack comes from those who want “transparency,” or say they want “accountability” on the part of public pension funds so that the public will know exactly how much retirees are benefiting from their pensions.  That there may be some very serious breaches of identity and financial information is given far less consideration than the idea that the publication of benefit amounts will result in little gold mines of outlier amounts which can be inserted into articles about “highest pensions,” leaving out the part about average benefits, or the levels of training, education, seniority, and other factors which contributed to the pension.  Nor is it made clear in many articles that the employees themselves have made contributions to the retirement plan.   The impression is left that the taxpayers are footing the entire freight for “outlandish” pension benefits. The impression is false, fallible, but if repeated often enough rather enduring.

Layer Three: Convince the general public that public employee pension obligations are the cause of financial problems in the political subdivisions or governments.  This assault requires that we ignore the gorilla in the corner – that local and state governments are saddled with enormous subsidies and tax breaks for corporations which dwarf the pension short-falls citied in the alarmist publications. [OurFuture]

Cities, counties, and states in this country are subsidizing corporations to the tune of $696 per family. [NYT]  In the state of Nevada that adds up to to nice $33.4 million, or $12 per capita, or more specifically: $16.4 million in sale tax refunds, exemptions, or other sales tax discounts; $10 million in cash grants, loans, or loan guarantees, and $5.54 million in property tax abatements.  State Tax credit, rebate, or reductions over $5 million have gone to Apple Inc., Switch Communications, Amonix, Enel North America Inc, Solargenix Energy LLC, and PowerLight Corporation.  Other reductions have been given to Georgia Pacific, Sherwin-Williams, Western Dairy Specialties, General Motors, PPG Industries, Cardinal Health, Ford, Ocean Spray Cranberries, General Electric, Global Health Management, Ameriprise Financial, Johns Manville, ING Financial Services, Intuit Inc, and  Starbucks Mfg Group.  [NYT]

It’s obvious that the arguments are being framed in terms of why public pension benefits must be cut in order to preserve servicesNOT as public pension benefits must be cut in order to preserve tax credits, abatements, reductions, and rebates for corporations.

Layer Four: Convince the general public that public pensions must be “reformed” into defined contribution plans and that those plans could be more efficiently run by private financial interests.  The predominant theme is that the current plan is “insolvent,” and therefore must be reformed! Not. So. Fast.  From the “If You Can’t Dazzle Them With Facts Baffle Them With Bull Shit” Department, there’s the RJ’s editorial with these three instructive paragraphs:

But the best argument for pension reform is not how Nevada’s fund compares to those of other states. It’s how public employee pension benefits compare to the compensation and retirement options available to the taxpayers who fund the pension system. Which is to say they don’t.

That’s because the defined-benefit pension has all but vanished from the business world. Portable savings plans such as 401(k)s have taken their place, and many companies can no longer afford to provide matching contributions. Workers largely are on their own in saving for retirement, with the insolvent Social Security system as a backstop to poverty.

Yet they’re also on the hook for the retirement of public employees, who can start collecting benefits after as few as 20 years of work. Already, taxpayer-funded pension contributions are squeezing public services such as public safety and education. Those contributions are creeping ever higher to ensure PERS can make good on its generous benefits, which are based on top salaries, not an average of lifetime earnings.

Let us parse:  Having acknowledged that the Nevada system IS, in fact, solvent, the RJ dismisses that and hurries on to the rationalization for the Great Pension Robbery.  Compare the pensions to the “taxpayers who fund the system?”  Wait a minute.   By this standard the public employee would only receive pension benefits equal to or less than the lowest pension benefit available to the general public.  Or, a public employee with a master’s degree in hydrological engineering would be a pig at the trough if he or she were paid benefits greater than a mechanic at Lou’s Garage? On some alien planet this might make sense – just not on this one.

The second paragraph is just as interesting, and we’ll return to it in another context in a moment, but for now we should note that what the editorial is arguing for is that government should adopt not the best practice (defined benefit plan) but the worst (defined contribution plan) and should do so because everyone else is doing it – ignoring the reason WHY it’s being done that way.  Defined contribution plans are good for the shareholders (read: institutional investors) in private corporations because they increase shareholder value – i.e. reduce personnel expenses.  There is no “shareholder value” to be accomplished by slashing or “reforming” public sector employee benefits – there is only “austerity” on steroids, cost cutting so that the subsidies, and tax breaks for the corporations can be maintained.

And, notice once more – the argument is framed as if the pension obligations are squeezing the availability of services, NOT that the pension obligations are making it more difficult to balance a budget wherein revenue is restricted by low tax rates, tax credits, tax rebates, tax reductions, and outright subsidies for corporations.   Those who argue for pension “reform” having no traction on the solvency element appear to be playing the Pig at the Trough Game combined with an unsustainable argument about equity.

The Private Sector Great Pension Robbery

Now that we’ve stuck a toe into the slime of defined contribution plans and 401(k) ‘reforms’ in the business sector, it’s time to take a look at what the financialist robber (barons?) have in mind for those other taxpayers.

Yes, indeed, those 401(k) plans are popular, with the corporations, but that doesn’t mean they are necessarily a good deal for the workers.  Seeking Alpha, a popular financial blog, is a bit pessimistic about these plans:

“But, beginning in the 1980s and accelerating of late, we have gone off into a different direction. Most concerning to this conversation is the death of the pension, and the replacement of pensions with 401ks/IRAs, etc. Why is this concerning? Clearly, when you are forcing people who have no acumen and are hardwired to avoid risk to invest on their own to provide for their old age, that is a recipe for disaster. That would be fine, if the consequences for our society weren’t so devastating.”

All right, the idea of having financial novices in charge of their own pension plans isn’t necessarily a good idea – you can call it ‘Freedom’ if you like, but it boils down to YOYO – you’re on your own.  And, in a world of volatile markets which may or may not be rigged against the little guy, the 401(k) notion is dubious at best.  We might want to take a moment to look at this more closely – why is the 401(k) not the best way to insure the ability of seniors to stay out of poverty in their later years.

Most workers don’t have enough money left over after basic expenses to invest in an individual pension plan, and now we have the numbers to prove it:

“When broken down to the individual level, those numbers add up to nowhere near enough money. According to a recent report issued by the National Institute on Retirement Security, the median amount a family nearing retirement has saved for their post-work lives is $12,000. As for the magical 401(k)? If a household where the earners are between the ages of 55 and 64 does have a retirement account, they barely hit the six-figure mark at $100,000—a far cry from $1 million we’re told we need.”  [Salon]

Anyone who wants to get into the weeds of this argument needs to take the time to read the testimony of John Bogle, founder of the Vanguard group, before the Senate Finance Committee on September 16, 2014. (pdf)  Among Bogle’s suggestions we find, limited participation, and excessive management fees cited as problems for the 401(k) advocates.  This finds support from other voices who note:

“Most middle-class savers end up either undersaving, overtrading, investing in excessively high-fee vehicles or some combination of the three. A small number of highly compensated folks now have lucrative careers offering bad investment products to a middle-class mass market based on their ability to swindle people.” [Slate]

There are a couple of elements in the Great Private Pension Robbery which perhaps need a bit more explication. First, most people have no idea how much they are paying in management fees for their retirements investments. Secondly, most people have no idea how and why that management makes investment decisions on their behalf.

There are two kinds of fees charged, the management fee – usually about 1-2% depending on the size and structure of the plan, and the trading fee, based on the activity of the account.  And most people don’t have a clue how much they are paying and for what. [MJ]  And, we are not speaking of some piddling amount in fees, as the study by Demos discovers:

  • “According to our fee model, a two-earner household, where each partner earns the median income for their gender each year over their working lifetime, will pay an average of $154,794 in 401(k) fees and lost returns.
  • A higher-income dual-earner household, one where each partner earns an income greater than three-quarters of Americans each year can expect to pay an even steeper price: (as much as) $277,969. “

Those fees and the accounts to which they are attached are extremely attractive for the denizens of the Wall Street Casino, and there’s a little secret involved – there are cheaper ways of investing for retirement, but they aren’t likely to be included in the pitch from the investment managers. Why? The explanation requires that the worker know the difference between “active” and “passive” management:

“Most funds are “actively managed” by managers who pick and choose stocks for their funds, and the fees for these services add up to about 0.93 percent on average — again, year after year, every year. Putting your 401(k) money in passive “index” funds, which simply and automatically track the returns of major stock market indexes, can cost as little as 0.14 percent per fund — less than one-fifth the average cost.” [DFIC]

So, how much does an investment advisor have to tell the client?  Not much, and they want to tell you even less.

Now we come to the part where public and private pension plans meet: How much does the management have to disclose to the retirement plan investor?  In the state of Kentucky a public school teacher was summarily informed that he had no right to know the terms of the agreement between the Kentucky Teachers’ Retirement System and the Wall Street wealth management firms handling the actual investments. The management trade group excuses this total lack of transparency saying, “secrecy is necessary and appropriate to protect the financial industry’s commercial interests.” [Moyers]

We might translate “financial industry’s commercial interests,” to something like the financial services industry’s proprietary information including how much they are collecting and for what services rendered.  If system wide information isn’t available then how is the individual investor in a 401(k) plan supposed to find out what is going on?

The stance of financial management gives every appearance of being: Give us your money, and shut up.  We’re the experts here, and please just trust us to do the right thing – except

“One casualty of the House budget talks to avert a government shutdown may be a proposed rule requiring investment advisers to act in the best interests of their clients, according to multiple House Democratic sources.

Labor activists and financial reform experts have heralded the rule as a critical step toward enhancing retirement security. The policy would impose a “fiduciary duty” on financial professionals who oversee retirement accounts, barring them from considering the potential profits of their own firm when choosing investments. Instead, investment managers would have to pick stocks, bonds and other assets based only on what was in the best interest of retirees.” [HuffPo]

Get that?  The financial professional is supposed to exercise a “fiduciary duty” to pick investments on how well the investment is likely to perform and NOT on the fee’s the professional’s firm could rake in.  That simple rule has been drafted, attacked by the lobbyists from the financial sector, and is now a hostage during government funding debates in the House.   Not only are investors in pension plans unaware of the terms and fees attached, they cannot assume that the investments in their plans were made with their best interests in mind.  Just hand over the money – and keep very, very, quiet?

How To Pull Off The Perfect Heist

The elements for the Great American Pension Heist are all in place. On the public side of the ledger – convince the public that pensions and the potential pensioners are the problem – never the Wall Street debacle of 2007-2008 or the tax subsidies gladly handed out to corporations.   Clamor loudly and at length about the need for pension “reform.” Wait for a compliant legislature, city council, or other government entity to hand over the money – and then tell them they have no right to find out the terms of the management operations.  Go quietly and no one will get hurt!

On the private side – Continue to tell workers that they’ll be better off with their “economic freedom” to finance their own retirement plans with “flexibility,” and they can use their money as they want – just make the management fee structure so complicated it takes a degree in Finance to figure it out, and then operate on the happy assumption that the financial professional’s first duty is to his own firm’s bottom line not with no specific obligation to cover the future retiree’s bottom.   Give us your money, pay us the fees, and just trust us!  Go quietly, and no one will get hurt?

Additional information and references:

“Looting the Pension Funds: Wall St. is grabbing money meant for public workers,” Rolling Stone, September 2013.  “The  Plot Against Pensions,” Institute for America’s Future.  “The 401(k) Scam,” Seeking Alpha, September 2014.  “401(k)’s are a sham,” Salon,  August 2013.  Testimony, John Bogle, Vanguard Group, Senate Finance Committee, September 2014. (pdf)  “401(k) Plans are a Rip Off, Mother Jones,  May 2013.  “Hidden 401(k) fees: The Great Retirement Plan Rip Off,”  Daily Finance Investor Center, June 2012.  “The Retirement Savings Drain, Demos, May 2012. “401(k) Fees are Robbing You Blind,” My Daily Finance, April 2013.  “Public Pensions and Hedge funds don’t mix,” Demos, October 2013.

Edit: Sorry for the confusion — “Layer Five” should have been Layer Four! Thanks for the proofreading, and maybe next time I’ll remember the maxim “The Preview Button Is Your Friend!”

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Filed under Economy, public employees, Public Records

The Great Pension Swipe Coming to a State Near You

Burglar

“Elections have consequences” and this time the results may be a disaster for public employee pensions.  The rationale underpinning this contention is simple.  Wall Street is running out of Big Pots of Money.  They’ve already run through the money which flowed in from the earnings of more women in the work force – the Wall Street Casino used up the proceeds from the increasing number of two income families by 2000, when the number of women in the work force increased from 18,389,000 in 1950 to 65,616,000 in 2000.  To add a bit of context here:  In 1950 there were 43,819,000 men in the work force, and 18,389,000 women.  By 2000 there were 75,247,000 men working and 65,616,000 women. [BLS pdf]   Some families were induced to join in the new Money Market Accounts made possible by the Garn-St. Germain Depository Institutions Act of 1982.  This new form of “savings” account allowed the banks to get and keep the deposits.

“Banks are required to discourage customers from exceeding these limits (on withdrawals), either by imposing high fees on customers who do so, or by closing their accounts. Banks are free to impose additional restrictions (for instance: some banks limit their customers to six total transactions). ATM, teller, and bank-by-mail transactions are not counted towards the total.”  [link]

And so, Wall Street had a big pot of money to play with. But enough is never enough.   Wall Street invented more money pots – using securitized assets. These were non-existent before the 1970s.  For review, a securitized asset is something done to create “debt securities, or bonds, whose payment of principal and interest derive from cash flows generated by separate pools of assets.”  [ HFS pdf 2003]  In plainer English this means that Wall Street can use securitization to immediately (and that’s a key word – immediately) make money on any “cash-producing asset” – like trade receivables, leases, auto loans, credit card lines, and, of course, mortgages.

Now the Money Mad Denizens of Wall Street have run through the addition of women’s earnings, the accumulation of funds in money market accounts created thereby, and they mis-managed their money in securitized assets such that the Housing Bubble of the early 2000’s burst and splattered all over their operations.  But enough is never enough.  One former Wall Street trader described the Wealth Addiction rampant in the firms:

“But in the end, it was actually my absurdly wealthy bosses who helped me see the limitations of unlimited wealth. I was in a meeting with one of them, and a few other traders, and they were talking about the new hedge-fund regulations. Most everyone on Wall Street thought they were a bad idea. “But isn’t it better for the system as a whole?” I asked. The room went quiet, and my boss shot me a withering look. I remember his saying, “I don’t have the brain capacity to think about the system as a whole. All I’m concerned with is how this affects our company.” […]

“From that moment on, I started to see Wall Street with new eyes. I noticed the vitriol that traders directed at the government for limiting bonuses after the crash. I heard the fury in their voices at the mention of higher taxes. These traders despised anything or anyone that threatened their bonuses.” [NYT]

What might threaten those bonuses? Not having Big Pots of Money to play with.   There are some money pots out there – and more and more of them are being “touched” by the Wall Street bankers who see them as ways to enhance those precious bonuses.  Pension funds.

How to unlock that next Big Money Pot for the Wealth Addicts of Wall Street?  The strategy has been alarmingly simple.

First, bash public employee unions – the organizations which negotiated defined benefit plans for retiring public employees.  Union bashing has been a staple of Republican politics since time out of mind, so it makes perfect sense to incorporate it into the strategy for raiding public pension funds. Public employees are no longer to be seen as the helpful librarian, or the firefighter who saves the kittens, or the police officer who donates time to direct traffic at the high school football game.  He or she is no longer the person willing to work in frigid temperatures clearing snow from highways at 3:00 A.M. Nor is the public employee to be thought of as the bookkeeper who diligently keeps track of taxes paid, fees assessed, or paper-work properly filled out to prevent fraud.  No! These people are to be seen as “greedy teachers” who think only of job security, “lazy” bureaucrats who create paperwork, and “leagues of over-paid shovel leaners” who don’t care about the snow on the roads…. The cynicism of this is excruciating.  The result is little else than a contemptuous, divisive, misanthropic perspective which divides private sector employees earning $45,000 per year from public sector employees earning $45,000 per year.

Secondly, once the bashing begins the misanthropes add in a measure of jealousy.   Publish the retirement incomes of Everyone, because surely someone is making more money in retirement income than the targeted population of disaffected voters.  Cover this in the banner of Right to Know. “You,” meaning the disenchanted audience, have a “right” to know what “each and every public employee is making” because, “you know” they have been “feeding at the public trough.”  The argument is predicated on the jealousy factor – who else would care what a firefighter, police officer, highway department employee, teacher, librarian, public health nurse, etc. would receive in a year?

That the release of this information would allow personal identity thieves to thrive is of little consequence to the advocates of total transparency – so much transparency that the former public employees have no right to any financial privacy whatsoever.

Third, flat out lie about the sustainability of defined benefits pension plans.  There are three major advantages of a defined benefit plan.  It provides security.  The person who has paid into the plan knows exactly want the financial benefits will be and can do some financial planning accordingly. The person also know exactly how long he or she has to work to be eligible for the benefits.  And, finally, the person knows that the pension is covered by the Pension Benefit Guaranty Corporation.

We know that some public employee pension plans are better administered than others, but the opponents of defined benefit plans are eager, enthusiastic even, about publicizing the problems of some as the characteristics of all.  This is evident in the ALEC assault on public pension funds, all 45 pages of it which blatantly calls for defined benefit plans to be morphed  into “properly defined alternatives, such as defined contribution, cash balance, and hybrid plans.”  Read: The Next Big Money Pot for Wall Street.

Creeping Financialism

The ALEC advocates and associates are only too pleased to discuss the delights of the defined contribution plans.  Most often they are couched in friendly wording such as “you can manage your own plan,” which sounds like “freedom.”  It also sounds like a 401(k).   What they aren’t anxious to publicize is that 401(k) plans have been a bust.

“The 401(k) plan was never meant to be a mainstream pension plan and is a poor substitute for one. It’s a voluntary program that was intended to supplement retirement savings –  one of those quirky little options in the byzantine tax code that employers seized upon as a way to save money while pretending that they were doing the right thing by their employees.” [Forbes]

That’s putting it about as bluntly as possible.  Oops! The 401(k) was never intended to be the main source of retirement funds, and it’s a poor substitute for a defined benefit plan.

“Authors like Helaine Olen have been right on the mark in saying that the financial services industry and employers are all too eager to tell us how little we’re saving, yet don’t serve as honest brokers in maximizing our retirement savings. That would require cutting fees, eliminating middlemen, increasing employer contributions and getting rid of the fee structure that is based on assets under management. And above all, the most dangerous part of this equation: Educating employees on how to invest cost- and risk effectively.”  [Forbes]

And for all this – while the fund administrators collect the fees, hire middlemen, and thrive under the fee structure – the public employee is asked to give up any and all financial privacy, learn to be a financial manager, and forget about the security a defined benefits plan offers. All this so that Wall Street will secure the next Big Money Pot.  And it’s already started.

Creepy Financialists

The unease felt by public employees about their future financial security isn’t merely the result of escalating fiscal paranoia; it’s very real. The Rhode Island Case describes what happens when crony capitalism merges with Wall Street wealth addiction when state treasurer Gina Raimondo issued forth :

“Nor did anyone know that part of Raimondo’s strategy for saving money involved handing more than $1 billion – 14 percent of the state fund – to hedge funds, including a trio of well-known New York-based funds: Dan Loeb’s Third Point Capital was given $66 million, Ken Garschina’s Mason Capital got $64 million and $70 million went to Paul Singer’s Elliott Management. The funds now stood collectively to be paid tens of millions in fees every single year by the already overburdened taxpayers of her ostensibly flat-broke state. Felicitously, Loeb, Garschina and Singer serve on the board of the Manhattan Institute, a prominent conservative think tank with a history of supporting benefit-slashing reforms. The institute named Raimondo its 2011 “Urban Innovator” of the year.

The state’s workers, in other words, were being forced to subsidize their own political disenfranchisement, coughing up at least $200 million to members of a group that had supported anti-labor laws.” [Rolling Stone]

Worse still, the states that were supposed to be making defined contributions didn’t seem to be taking the process very seriously.

Chris Tobe, a former trustee of the Kentucky Retirement Systems who blew the whistle to the SEC on public-fund improprieties in his state and wrote a book called Kentucky Fried Pensions, did a careful study of states and their ARCs. While some states pay 100 percent (or even more) of their required bills, Tobe concluded that in just the past decade, at least 14 states have regularly failed to make their Annual Required Contributions. In 2011, an industry website called 24/7 Wall St. compiled a list of the 10 brokest, most busted public pensions in America. “Eight of those 10 were on my list,” says Tobe.

Among the worst of these offenders are Massachusetts (made just 27 percent of its payments), New Jersey (33 percent, with the teachers’ pension getting just 10 percent of required payments) and Illinois (68 percent). In Kentucky, the state pension fund, the Kentucky Employee Retirement System (KERS), has paid less than 50 percent of its ARCs over the past 10 years, and is now basically butt-broke – the fund is 27 percent funded, which makes bankrupt Detroit, whose city pension is 77 percent full, look like the sultanate of Brunei by comparison.” [Rolling Stone]

However, nothing stops the administrators of the Annual Required Contribution plans from drawing their salaries. Nothing stops the hedge fund managers and wealth managers from earning their money, and nothing stops the hedge funds, wealth funds, and bankers from getting nice bonuses from playing with these new Big Money Pots.

2013 also brought the disclosure of other pension swindles.  A report on North Carolina’s pension plan yielded the most opaque atmosphere surrounding a supposedly transparent pension system, with the Wall Street characters benefiting from the opacity:

“Today, TSERS assets are directly invested in approximately 300 funds and indirectly in hundreds more underlying funds, the names, investment practices, portfolio holdings, investment performances, fees, expenses, regulation, trading and custodian banking arrangements of which are largely unknown to stakeholders, the State Auditor and, indeed, to even the (State) Treasurer and her staff,” he reports. “As a result of the lack of transparency and accountability at TSERS, it is virtually impossible for stakeholders to know the answers to questions as fundamental as who is managing the money, what is it invested in and where is it?” [Salon]

How are the investors in the system (the state, the locality, the employees) supposed to act as “free” administrators of their own pension plans when they can’t discover who is managing the money, what investments have been made, and where the money is?  Much less ask what fees are being paid to the money managers of the new Big Pot?  In the initial example above, Rhode Island, state treasurer Raimondo couldn’t answer the question about the amount paid in fees.

President George W. Bush famously tread on the third rail of American politics, privatizing Social Security in 2005, and just as famously backed away from the precipice.  It seems that Americans have not forgotten what is supposed to be a “mainstream pension plan.”   If continued symbolic acts continue to be promoted by the Cato Institute and if there continue to be the likes of Iowa senator-elect Ernst who call for a hybrid plan in which younger workers are allowed to put a portion of their Social Security into a Retirement Savings Account (read: Wall Street Money Pot) we can’t declare the nation free of schemes to privatize Social Security.  If a state treasurer in Rhode Island who promoted the defined contribution plan in her jurisdiction can’t find out how much is being raked in by money managers, then how do we expect our average “younger worker” to effectively track his or her retirement account.

Thus we can look forward to more proposals for Hybrid Plans – which augment the Big Money Pot, and Defined Contribution Plans – which can’t be tracked and make a mockery of the entire concept of transparency, and more assaults on public employees who might be victims of the latest Great Burglary of their pension systems.  Elections do have consequences, and the last mid term election put more than $100 billion in public pension funds in the hands of financialists turned politicians.

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Filed under Economy, financial regulation, Politics, public employees, Republicans

Bankers Bank On Economic Amnesia

Occupy Wall Street bankers Zillow reports that the current median home value in Nevada is $189,700, up some 16.4% over the past year, and another increase of 6.2% is predicted. The median listed price of a home in Nevada is now $215,000, and the median selling price is now $198,475.  [Zillow] This is good news for Nevadans in Clark County because the median list price as of July 2011 was $118,500. [Movoto]  Bankrate posts mortgage interest rates ranging from 4.1% to $.4% in the Reno area, and a range of 4.05% to 4.4% in the Las Vegas metropolitan region.  [Bankrate]  There’s another factor to consider, especially in southern Nevada, home resale inventories have stabilized, and there’s been no major increases in distress sales (foreclosures and short sales) as a percentage of the total housing market in September. [Movoto]

Mortgage interest rate trends are also interesting because there’s been a decline since January 2005.  The interest rate for a 30 year fixed rate mortgage was about 5.71% in January 2005, 6.15% in January 2006, and 6.22% in January 2007 as the Housing Bubble was about to burst all over everyone.  As the Bubble started to splatter in January 2008 the interest rate was 5.76%, dropping to 5.05% in January 2009. Fast forward to January 2012 and the interest rate had dropped to 3.92%, going down to 3.41% in 2013, and then increasing again in January 2014 back up to 4.43%. [FredMac]

Why are these numbers of any interest?

(1) When homebuyers can get credit they are able to pay prices closer to the original asking price. (2) It’s no longer a buyers’ market when sellers are getting better prices. (3) Someone must be doing a bit better because there seems to be more competition for mortgage money, given that in a free market commodities (in this instance mortgage money) are slightly more costly the higher the demand.  (4) These numbers also highlight the Big Lie that the Wall Street casino operators are trying to sell across the country.

David Dayen, writing for Salon caught the Big Fib and described it as follows:

This is part of a larger myth, blaming government’s efforts to clean up the mortgage market for the slow housing recovery and sluggish economy. This idea that banks are so petrified about burdensome regulations that they’ve decided to scale back their business model of lending to people seems far-fetched.

That’s because it is far fetched.  We can see the whole picture simply by sitting here in one of the states most hard hit by the collapse of Wall Street’s Housing Bubble, and looking at our own numbers.

First, if bankers were so insecure about lending then why have interest rates rebounded since the Bubble burst?  When no one is buying homes rates go down because there simply aren’t enough customers clamoring for loans.  However, in this ‘sand state’ the interest rates have gone up by about 1%.

Secondly, it’s obvious someone is buying something because  the Las Vegas housing market, almost obliterated when the Bubble Burst, has seen an increase in the median price of homes, up by an impressive 16.4%.

It’s a bit difficult to make the case that bankers aren’t lending (because of the icky government financial regulation reform) when median list prices and median selling prices have both increased.  If banks weren’t lending then we’d expect housing prices to flatten out because there weren’t enough bidders for the homes.  Again, Dayen sums up the bankers’ game: “The real motivation here is to roll back regulations and return to the go-go era where anyone who can fog a mirror can get a loan. We know how that turned out the last time.”

Just in case anyone catches the overt fibbing, spinning, and general mendacity of the bankers’ latest pronouncements, they’ve left themselves a bit of wiggle room.  The economic revival is “sluggish.” Translation: If you’d just let us get back to deregulated free for all casino operations we’d be richer. And, “the housing recovery has been slow.”  Translation: Want to get more, and more, and more, mortgages from ‘anyone who can fog a mirror’ to slice, dice, and tranche, into mortgage based securities – upon which we will get richer.

There’s a better reason to explain a sluggish economy and a slowly reviving housing market.  Ordinary people have to have incomes which support major purchases – like homes – and what has happened to the median income in Nevada since the Bubble Burst in 2007-2008 isn’t pretty.

The median HI for Nevadans in 2013 was $51,230, down 9.1% since the Housing Bubble burst in 2008.  The Mean HHI for the top 5% of Nevada income earners was $294,939, which dropped by 2% after the washout of 2007-2008. [Pew]

Given the precipitous drop in median earnings, the question might not be about how “sluggish” the recovery has been, but how we’d experienced any recovery at all.  We might dare to ask the same question about home sales.  Again, given the decrease in median household income it’s a wonder home sales have rebounded – especially if we consider that home values are now up 16.4% with more increases projected.

Once more, Wall Street has demonstrated very clearly it’s profound dependence on debt and volatility, while Main Street remains dependent on consumer spending and stability.   In this instance, as in so many others, it’s important not to conflate what’s good for Wall Street with what’s good for business in general.

It’s great for Wall Street to have bundles and bundles of unregulated mortgages, car loans, and lines of consumer credit to shovel into its deregulated  casino operations and Bubble Factories – it’s not so great for Main Street to have abandoned homes, foreclosures on every street, and too many unemployed construction workers in the community.

Caveat Emptor – the latest Big Lie would have us believe the investment bankers want the very best for all of us – after their last debacle the only way they’ll sell this notion is if the American public gets a bad case of economic amnesia.

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Filed under consumers, Economy, financial regulation, Nevada economy, Nevada politics

Who’s Happy Now?

DBeacon128E As of Friday, August 29, 2014 the S&P 500 stood at a healthy 2,003.37, increased by 6.63 from the day before.  This figure is good news since the S&P was a pathetic 676.53 on March 9, 2009. [WSJ]  S&P uses a weighted average market capitalization to calculate its index, so this must be the most accurate measure of the state of the economy?  Maybe.   Feeling all comfy right now?  Maybe not.  Not to be too much of a bear dancing through the bullishness of the stock market reports, but there’s something troubling about the numbers.  Perhaps we should begin at the beginning.

The Truism of Yesterday Transformed into A Corporate Facade Today

In those days of yesteryear, before the late 1970s, corporations retained most of their earnings and invested them in new technologies, expanded facilities, more employees, or even – pay increases. [WP]  Indeed, in those ancient times the argument worked: If corporations could hold on to more of their earnings then plants would expand, and more workers would be hired.  What our numbers keep telling us now is that this old line is being applied to a new and quite different reality.

Not to put too fine a point to it, but it is as though the Captains of Corporate America are asking us to cling to the old reality while they saw the props out from under average Americans, creating a more profitable system for themselves.   And they have been sawing away vigorously, fueled by the new corporate reality since 1980  which  holds that the primary purpose of a corporation is to maximize shareholder value.

It is one thing to seek to enhance corporate profitability if the  old line is true, and quite another when the goals have changed, and the new line is “Corporate profits are important because they make shareholders richer.”   The pre-1980 truism is now a corporate facade covering a structure which places the demands of shareholders above customers, workers, and almost everyone else.

In some instances the facade is a very real false front inadequately covering the hollowing out of American industry.  Remember  Endicott, NY, the home of IBM?  Some 10,000 employees of IBM worked there in the 1980s, by 2013 employment at IBM was down to 700, and the vacant storefronts in the community bore witness to the diminishment of the real American economy.  [WP]

Since, Ferguson, MO has been in the news of late it’s appropriate to look at the moves made by Emerson Electric  to enhance shareholder value by offshoring  its operations – with its $44.68 billion market cap, and return on equity of 24.38% [YahFin]  Emerson was praised in at least one financial journal for its long term strategy of “transferring costs to a basket of low-cost countries,” yielding the accolade: “Emerson is well known among its peers to have benefited considerably from being earlier and bolder in its pursuit of cost mitigation.”  

That cost mitigation came with a price, but not for Emerson’s shareholders.   On January 18, 2002 Emerson announced it was closing 50 of its plants and offices in the United States and moving the jobs to China, India, and the Philippines. No sooner was the announcement made than Emerson’s stock price increased by 3.4%.  [SunSent]  The Emerson plant in Kennett, MO closed in 2005.  [DDD]  Another plant, in Columbus, NE, closed in 2009. [WOWT]  If it seems counter-intuitive to have share prices increase as people (consumers) are laid off that’s because most people have missed the point: It’s not how many people a corporation employs or how much their wages bring to our economy – it’s how costs can be “mitigated” so that shareholders get an increased portion of the pie being served.

Keeping the Shareholder Satisfied

If a decreasing number of people are enjoying an increasing share of the American economic pie, then why wouldn’t current stock market reports be indicating weakness in the economy?

Same answer.   Shareholders are happy.  One of the reasons for their happiness is that corporations are “mitigating costs” and propping up stock values.  One way to prop up the old shareholder value is to engage in stock buybacks.  Does Corporation X have lots of cash on hand?  The best way to keep those shareholders happy is to use it in a stock buyback which results in a decrease in the number of outstanding shares and drives up the price of the ones which are on offer.   [Forbes]  Yes, that cash could have gone into research and development? Or, plant expansion? Or, even increased wages?  However, those don’t make the shareholders happy, and since 1980 it’s been the primary job of corporations to make the shareholders happy, happier, and happiest.

And who else loves making shareholders happy? Bain Capital Management, which extolled the virtues of corporations which do the hard work of making shareholders, like Bain Capital, happy:

“In studying the offshoring practices of major industrial companies, we’ve found that Continental’s highly modular approach is shared by other supply-chain leaders like General Electric, Honeywell, Siemens International, and Emerson Electric. Rather than think in terms of entire factories when they make offshoring decisions, these companies focus on individual functions and products. They optimize, in a coordinated fashion, the location of every module of their supply chain, capitalizing on regional differences not only in costs but also in skills. As a result, they’ve been able to move quickly and with great agility, shifting activities among a wide array of regions and countries in a way that optimizes the cost and effectiveness of their entire operating system.”  [BainInsights 2005]

It’s worth noting that when Bain speaks of “optimizing costs” it means reducing production and service costs, as in closing factories and offshoring jobs.   Hence, the formula continues: Shareholder Happiness = Cost Mitigation + Propping Up the Stock Price.

The danger in not heeding this formula is the dreaded Takeover.  Should some shareholders find their yields too low, the vultures begin swarming over the still warm victim.

There is a reminder of the perils of the dreaded  takeover in north St. Louis.   The old Rexall Drug Company plant stands at the corner of San Francisco St. and Kingshighway, now the site of an automobile auction company.   The quick part of the  demise began in 1977:

By 1977, Dart Industries had sold all of its Rexall business, including franchised drug stores. A group of investors, including Howard K. Vander Linden, president of Rexall at the time, formed the Rosshall Corporation and bought the manufacturing laboratories in St. Louis and other facilities. [NYT]

As part of the process the Rexall Drug Store franchises were spun off, a familiar drug story could retain the name but now had no affiliation with the parent company.  It didn’t take long for the scheme to fall apart.  The retailers were under pressure from chains like Eckerd, the manufacturing under pressure from various manufacturers, and the grand experiment failed. The St. Louis factory closed, and the Arlington neighborhood lost another industry. Rexall wasn’t the first, nor the last takeover victim, brands like Sunbeam and Singer also changed dramatically in the face of both friendly and hostile takeovers.  The brand most closely associated with recent takeovers which have decimated a corporation remains Hostess, which was destroyed, not by its employees, but by the vulture capitalists who plucked it. [Salon]

True, there are unresponsive companies which fail because of a lack of vision, firms that falter because of poor management, and corporations which are takeover targets because there are some few valuable assets among a conglomeration of acquired flotsam and jetsam.   However, the end game should be the improvement of a company such that it can be profitable, not merely the M&A gamesmanship which too often plays strip and run, leaving little but debris in its wake.   However, those games will continue as long as there is a profit to be made by the investors – how much greater the danger to U.S. corporations in the prospect of upsetting those private investors than of disappointing the shareholders? 

This isn’t our parents (or grandparents) economy.  The days of cash allocation into research and development, plant expansion, higher wages, better facilities is as out of date as a Pontiac Firebird.   These are the days of the F-150, and the maxim: “If the shareholders ain’t happy, ain’t nobody happy” – unless you’re a taxpayer, consumer, salaried or wage worker? 

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