Capitalism, The System of

Given that I call myself The Raging Capitalist, I can't miss an opportunity to provide a good example of what the capitalist spirit is really all about. Such is provided in the linked article by David Brooks, particularly in his discussion of Lincoln and Hamilton. Brooks writes:

They rejected the zero-sum mentality that is at the heart of populism, the belief that economics is a struggle over finite spoils. Instead, they believed in a united national economy — one interlocking system of labor, trade and investment.

In their view, government’s role was not to side with one faction or to wage class war. It was to rouse the energy and industry of people at all levels. It was to enhance competition and make it fair — to make sure that no group, high or low, is able to erect barriers that would deprive Americans of an open field and a fair chance. Theirs was a philosophy that celebrated development, mobility and work, wherever those things might be generated.

Brooks' concern is that populist rage over abuse of the financial system will ultimately lead to the suppression of the capitalist ideals that have been so fundamental to our prosperity as a nation. His concern is valid, and the public's rage needs to be properly addressed, and without focusing that rage on a condemnation of capitalism itself.

Capitalists in no way want to turn a blind eye to those who have corrupted and co-opted our financial system. True capitalists aren't about gaming the system, or buying political influence, or hoodwinking the masses. They believe in the rule of law, creating open and fair playing fields, and allowing funds to easily flow between investors and entrepreneurs. Therefore, it would be high on the typical capitalist's agenda to want to dispense justice to those who have abused the financial system. However, those efforts need to be intelligently targeted and the penalties should be in proportion to the crimes (see my post on Obama's financial crisis fee). Similarly, we must enhance regulation, but we must take care to not strangle the system. We must ensure that risks taken with capital are in-line with investors' intentions, but capital must be allowed to flow freely. We must give the public free and fair access to the resources of the financial system, but we must not do it in such a way that checks and balances are ignored and unintended consequences result.

Importantly, we must remember that capitalism is a system. It has no political or social agenda. It doesn't think, or feel, or have opinions -- no different from the plumbing in your house. Attempts to weave the social agenda into capitalism (e.g., to make housing "affordable") have always failed, as they interfere with the "laws of nature" that apply to capitalism, such as having to live with the risks that you create. It is implicit in the capitalist system that its "users" -- the public -- can decide for themselves how hard they want to work, and how much risk they want to take. Some will succeed, and some will fail. Like Mother Nature herself, capitalism turns a blind eye to personal tragedy and hardship. Some will go out on a limb and run their own businesses, and others will choose to become human resources in those businesses. Capitalism makes no value judgments. Businesses generate profits, and their owners evolve into investors who bankroll the next generation of entrepreneurs. That's the cycle. That's how the system works. For all its harsh realities, capitalism is simple, self-correcting (when not interfered with), elegantly pure, and time-tested. We need to protect it with everything we've got.

Obama's Financial Crisis Fee -- sounds SO good, but oh, SO wrong

President Obama announced plans today to levy a “Financial Crisis Responsibility Fee” on the nation’s largest banks — those with more than $50 billion in assets. Basically, it will be computed as .15% (i.e., 15/100ths of 1%) of the banks’ liabilities, excluding deposits covered by FDIC insurance (because a separate fee is assessed on them).

To a revenge-starved public, this may sound SO right and be SO overdue, but it is SO wrong. Once again, Obama has proposed a solution — as he did with health care reform — that is so lacking in nuance that it is clear that he doesn’t truly understand the problem. Either that, or it’s simply more evidence that he’s in Goldman Sachs’ hip pocket.

So, what’s wrong with this solution? Answer: it penalizes conservative, well run institutions, and once again, lets those who are the real troublemakers off the hook. The troublemakers that are left alive, that is. Keep in mind that most of the institutions that caused the crisis are now out of business or were merged into more responsible firms and are now under new management. By far, the biggest culprit still standing — and thriving, as no financial reforms have yet been implemented — is Goldman Sachs.

Although Obama and the media refer to “banks” as a homogeneous group, it is important to separate routine commercial and consumer lenders from super-large “money center banks” (e.g., Citibank, BofA, Wells Fargo, and JP Morgan Chase) and Wall Street “investment banks,” the latter of which (e.g., Goldman Sachs) were not actually banks at all until the financial bailout. Although they’re called investment banks, they never had bank charters, weren’t regulated as banks, and didn’t have FDIC-insured deposits until Treasury Secretary Hank Paulson allowed them to convert into chartered banks in order for them to qualify for TARP bailout funds. It was a slight of hand to do a solid for his friends on Wall Street, plain and simple. The investment banks are the firms that engage in the most risky trading and derivatives activities, and such activities constitute a huge percentage of their overall businesses. Money center banks also engage in risky investment banking activities — “thanks” (I say facetiously) to the Clinton administration’s successful efforts to repeal the Glass-Steagall Act — but because they are so large and diversified in their activities, such risky activities are a much smaller percentage of their overall businesses. Even among the money center banks, however, some were much less careful than others in managing their risks: Citibank was perhaps the worst, and JP Morgan Chase seems to have been the best. Indeed, despite having a diversified portfolio of low-risk businesses, Citibank was nonetheless almost brought down by its relatively few higher risk businesses. (You remember the old saying about one bad apple, right?) Long story short, banks are very different from one another, and they need to be penalized based on the risks they take, not how big they are.

To illustrate the problem, I downloaded the September 30, 2009 financial statements for Goldman Sachs and a pretty “plain vanilla” large bank, U.S. Bancorp, from the Federal Reserve’s website. The financial statements show how much of the banks’ revenues come from routine banking activities versus high-risk trading operations, which are the “casino” activities that got us into so much trouble. Goldman’s assets as of September 30 were about 3.3 times greater than U.S. Bancorp’s, so I'll need to make some adjustments in my math for that. For the first 9 months of 2009, Goldman generated $28.3 billion of trading revenues and interest on trading assets. Essentially, rolling the dice, albeit, in a casino that they seem to have pretty much rigged most of the time, except for when things go terribly wrong. In comparison, U.S. Bancorp generated a paltry $125 million from trading. This is a staggering differential. Adjusting for the difference in the sizes of the two firms, for every dollar of assets deployed in their businesses, Goldman was conducting about 68 TIMES more casino activity. This helps put the difference in the nature of these two banks into some perspective. Relatively speaking, one is like a plodding old electric utility, whereas the other is a powder keg waiting to explode if any of its risk assumptions prove to be faulty, which is exactly what happened in 2008.

Recall, however, that Obama’s proposed fee will be based on liabilities exclusive of FDIC deposits. Granted, that helps equalize things just a bit, in that such deposits make up a much larger percentage of U.S. Bancorp’s liabilities. In other words, it will get a much larger exclusion from the fee than Goldman precisely because it is a more conservative institution, which is exactly what we want. Even so, however, when looking at casino activities for every dollar of liabilities to be taxed, Goldman is still conducting 25 TIMES more casino activity than U.S. Bancorp. Yet, they will both pay exactly the same fee on each dollar of assessed liability. Not exactly fair, is it? Relative to what it makes on high-risk activities, the fee/tax Goldman will pay will be insignificant.

Granted, I’m a financial professional, but it took me all of about 15 minutes to do this work. Importantly, though, I took the time to validate what I suspected intuitively. As I said in my second paragraph, solutions can sometimes seem so obvious and so clear, and yet be entirely wrong. This is an obvious trap to anyone who has ever done any serious analytical work, so trained professionals are always on the lookout for the biggest booby trap of all: things you think you know, but really don’t. That’s why solutions should be based on real analysis, conducted by bona fide professionals who know how to maintain their objectivity. As I have stated in previous articles, important decisions should not be based on hearsay, anecdotal evidence, or preconceived notions. Popular, but erroneous, decisions may sound good, but they don’t solve anything, they’re often unfair, and they often encourage the exact opposite behaviors of those we really want.

I know I sound like a broken record, but we simply need to demand a higher quality of work from our government.

Big surprise: Geithner lines Wall Street's pockets again

Well, speak of the devil (in reference to my previous post), Tim Geithner comes through again... for Wall Street, not the American people.

Once again, Bill Black provides a cogent narrative of the latest shenanigans. Is Geithner just the most incompetent boob to ever hold an office, or is he the devil incarnate? I'd love to say that time will tell, but somehow I think this guy will always be two steps ahead of the law. No one in Washington seems to be interested in holding him accountable.

Frontline's "The Warning" explains the roots of the financial crisis

PBS's brilliant Frontline really needs to be commended for its work in exposing the causes of the financial crisis. In a time when we can question the motivations of many in the news media, Frontline is not pulling any punches and is clearly party-neutral with respect to identifying the culprits in this calamity.

This week's program, "The Warning," chronicles the efforts of Brooksley Born, then the new head of the Commodity Futures Trading Commission (CFTC), to gain approval in the late 1990s to regulate credit default swaps and other types of complex derivatives that were largely responsible for the recent financial system meltdown. Her efforts were thwarted, however, due to heavy opposition from Clinton's triad of senior financial advisors: Secretary of the Treasury, Robert Rubin, his Deputy Secretary, Larry Summers, and Fed Chairman, Alan Greenspan.

Thanks to documentaries such this, it becomes painfully clearer all the time that we simply don't learn from our mistakes. Even though Ms. Born's concerns were proven to be valid during the very time that Congress was holding hearings on her powers -- thanks to the trillion-dollar meltdown of Long-Term Capital Management, the then-darling of the hedge fund industry -- the CFTC's regulatory authority was never expanded, and now we all know the consequences. Making matters worse, Obama has put virtually the same team that opposed Ms. Born into powerful positions in his own administration. Is there any wonder why more than a year has passed since the meltdown and no financial reforms have been implemented?

Here's a little additional background to keep in mind as you watch the episode:

1. Prior to becoming Sec'y of the Treasury, Robert Rubin was the CEO of Goldman Sachs. Hank Paulson, Bush's last Treasury Secretary, was also the former CEO of Goldman Sachs. Goldman's power and influence in Washington are extensive! Predictably, Goldman Sachs was the largest contributor to the Obama campaign, and continues to be the most blatantly opportunistic firm on Wall Street with respect to taking advantage of the absence of regulatory reform.
2. Two of Rubin's disciples, Tim Geithner and Gary Gensler (also ex-Goldman), are now, respectively, Secretary of the Treasury and head of the CFTC, which, again, is the agency that should be regulating derivatives, but isn't.
3. Rubin moved on from the Treasury to Citigroup, which was one of the sickest of the sick in the meltdown, with the result being the U.S. government supplying $100 billion in emergency aid and taking a 34% equity stake.
4. Following Clinton's final term, Summers moved on to the presidency of Harvard, where he was embroiled in one controversy after another. He was ultimately ousted by the faculty through a vote of no confidence. Too bad they didn't act sooner, though, as Summers' recommendations regarding investments in derivatives cost the Harvard endowment over $1 billion.
5. Summers made over $5 million last year from Wall Street connections, supposedly for doing speaking engagements and consulting approximately one day a week. He is now Obama's senior financial advisor, and frequent mouthpiece on financial policy. (Follow my "Larry Summers" link on the right to read some of my additional thoughts about Summers).
6. Greenspan ultimately retired, with his reputation now in tatters. He admitted this year before Congress that many of his most fundamental beliefs concerning regulation and the self-correcting powers of the markets, upon which his key decisions as Fed chief were based, were simply wrong.
   

Watch "The Warning" and draw your own conclusions. I'm sure you can probably guess, however, how I feel about our current president surrounding himself with a cast of characters who were so toxic to our way of life, and who seem to be in no particular hurry to put fixes in place.

Also outstanding is this video timelime of the events that set the stage for the financial crisis. Again, big kudos to Frontline.

Click here for Frontline's timeline.

It's About Principles: What the Republican Party Must Do

The following are the stated principles of the Republican Party:

• The Republican Party, like our nation's founders, believes that government must be limited so that it never becomes powerful enough to infringe on the rights of individuals.
• The Republican Party supports low taxes because individuals know best how to make their own economic and charitable choices.
• The Republican Party is supportive of logical business regulations that encourage entrepreneurs to start more businesses so more individuals can enjoy the satisfaction and fruits of self-made success.
• The Republican Party is committed to preserving our national strength while working to extend peace, freedom and human rights throughout the world.

I believe strongly in all of these principles, and yet, I have never voted for a Republican presidential candidate. (I haven’t always voted for the Democrat either, instead choosing to let my abstention speak for itself.) One would think that I would be easy game for the GOP, so why haven’t they been able to win me over? It’s not because their core principles are not brilliantly clear, sensible and powerful. Rather, it’s because Republicans never actually make their core principles the foundation of their platform, nor are they ever even able to achieve a unified vision of their platform across the various factions within their party.

The trouble with Republicans is not their passion for their core principles. It’s that they are usually even more passionate as individuals about something else, and they don’t know where to draw the line between beliefs about governance and beliefs about deeply personal life choices. What is especially unsavory to independent moderates about the conflation of these beliefs is that the personal beliefs that are most loudly proclaimed are often based on some form of intolerance, and they reek of hypocrisy in that they typically conflict with the core principles’ themes of individual responsibility, personal freedom, and limited government. Intolerance and hypocrisy also set you up to be a bad joke, as depicted in this video:





Rather than painting a clear picture of how legislation based on their core principles would create a better America, Republicans allow themselves to become fractured over issues concerning, for example, religion, abortion, gay rights, and in the case of Mitt Romney’s candidacy, whether they could accept a Mormon president, as if Mr. Romney’s faith mattered in the least to his potential job performance. Simply put, the Party has been a mess for a very long time, and it can only win the Oval Office when the Democrats hand it to them on a silver platter, as LBJ did with his aimless mishandling of Vietnam, as Carter did with his mishandling of the economy and our national defenses, and as Clinton did with his indiscretions, which elevated “moral values” to the #1 reason why people voted for George Bush in 2000. Winning by unifying against another’s weaknesses simply isn’t a sustainable long-term plan, because you have no strategy once the other guy is gone and you’re in control. You need a vision of your own, which is where core principles come into play. No principles, no identity. It’s that simple.

It took millions of independent moderates to put President Obama into office. I was among them. We all had our reasons for voting for him, but the lack of a good alternative was probably foremost. That, by no means, makes for a strong support base. Indeed, recent polls are showing that millions of independent moderates have withdrawn their support. Again, I am among them. This is going to open a door for Hillary in 2012 and for the GOP.

I believe that a healthy two-party system is critical, and that moderates need a voice within that system. Moderates are the swing vote, yet they are without a home. That needs to change, which is why I would like to see the Republican Party reform. If the GOP is going to become a viable alternative for moderates, it needs to have courage in its convictions and build a fortress around its core principles. Party members need to agree among themselves to shelve the social issues that ultimately divide the party and create an unacceptable environment for moderates. Accordingly, they need to develop a platform that focuses exclusively on matters concerning the prosperity, defense and welfare of the people. The GOP will never win if it is known as the anti-abortion, or anti-gay, or pro-prayer-in-school party. Certain right-wing factions within the Party would love such monikers, but they would be the kiss of death for the GOP. Party leadership needs to take control, purge intolerance from the agenda, and put the focus of the platform on the sound administration of the country. They need to go back to basics and stick to business. If they do, they might have a chance, and we might have an alternative for moderates.

Has the "Obama Bubble" Reached its Peak?

Having endured dot-com mania and the housing/credit crisis, we’re all starting to get pretty good at recognizing the signs of a bubble: lots of hype, no sense of proportion, free-flowing accolades and unearned reverence, irrational behavior, and endless exhibitions of wretched excess. Certainly, some of these bubblelicious signs apply to our president.

I really don’t think President Obama has anguished over how to inflate his image and get himself placed on a pedestal, but that’s precisely where many people, especially those overseas, have placed him. His charisma and promise of hope have bought him a very low bar. I'm sure, upon honest reflection, most people would admit that there has been little objective evaluation of his work thus far. However, we reached a tipping point today. The gap between his image and his qualifications and actual results became too wide and clear to be denied. With his premature “winning” (as if he actually wanted it) of the Nobel Peace Prize today, I think the pitfalls of this leader-as-pop-icon situation that the public has created have finally hit home, even with many of his most devoted supporters. Especially coming on the heels of the IOC "malfunction" in Copenhagen, one can’t help but wonder if today may have been the top for Obama – just like NASDAQ at 5132.52 on March 10th, 2000 – and that it may be all downhill from here. Of course, the Right expressed plenty of outrage today about the win being undeserved. However, I think this eerie feeling that the Obama bubble has been pricked is what’s giving so many others more of a feeling of loss today, rather than outrage. Truly, it’s sad when bubbles finally burst.

I think the obvious-to-all absurdity of today’s award was a wake-up call. It reminds us that we need to be realistic in our expectations and rigorous in our evaluations. Moreover, it reminds us that people in lofty places (e.g., the Nobel judges) can make foolish decisions or ones that are motivated to serve their own political aims, and that the rest of us need to stay awake at the switch in order to detect when they do. President Obama and the rest of our politicians are only human. They have strengths and weaknesses like the rest of us, and as our public servants, we should treat them with respect and realize that they’ll never do everything perfectly. Importantly, however, as we do with employees in the workplace, we must also diligently monitor and evaluate their work, and hold them accountable for their actions. Questioning is not a sign of being unsupportive. It’s helpful, as we learn from it, and it’s essential if we want to be our very best.

With the bloom off the rose a bit now, maybe we can take some of the emotion, dogma, and tribal warfare out of this presidency and get down to the objective administration of this great republic. Today may have actually been an important turning point for the better.

The Whole Foods Health Care Flap

So, this is the article from Whole Foods' CEO that created the big flap. Three main themes: government frugality, individual responsibility, and personal choice. How controversial! In order to consider these ideas some kind of betrayal of Whole Foods' customers' values, it seems to me that those who have their undies in a twist are making some very thin connections: healthy eating = progressiveness = liberalism = blind agreement with Obama's agenda. None of those connections are 1:1 (exclusive). Obviously, Mackey's experience leads him to have a different opinion about how to create a healthier America. Why not respect that, and use it as an input when evaluating our options? At least his experience is based on real-world interactions with real people who have experience using both socialized and free market health care systems. I wish we could say that Obama and Congress have experience grounded in reality, but we know that simply isn't true.

Click here for Wall St. Journal article.