Bad Plan vs Good Plan

Paulson’s $700 bn bailout plan for Wall Street rejected by Congress yesterday seems to be predicated on the basis that, as my father used to say, “Plan beats no Plan”. 

The original version provided:

1. No relief for homeowners even though in many cases the mortgage brokers concerned indulged in misrepresentation, deceit, and even outright fraud contrary to state laws.
2. Buying bad loans off the banks at more than they are worth (by implication at vastly more than they are worth).
3. Doing nothing to restrict the excesses of the bonus culture.

This was only lightly and toothlessly amended in the final form that was put to the vote yesterday.  

To cut through the fog, its effect would therefore be to nationalise the banks accumulated bad debts paying them something like their (fantasy) face value.  But the banks have been very busy filling their boots with bad debts over the last few years; $700bn may well not be enough – it seems generally agreed that the figure was more or less plucked out of thin air so one has to ask, “Would the Chinese, Japanese etc who the money would have to be borrowed from to pay off the bad banks be willing to lend it?.   Its a big ask indeed – especially if the real figure is two or three times higher!

One has to ask whatever happened to moral hazard?  The idea that, in a free country, people should bear the consequences of their own actions – good or bad.  I am near enough to being a libertarian to think that’s rather important.

Paulson’s plan is undoubtedly very good for foolish bulge-bracket bankers but I remain convinced that it is very bad for anyone else.  Call me old-fashioned, but I have a quaint belief that democracy involves government of the people for the people by the people.  That said something must be done, but it must be something that works to relieve the pressure at the point where the shoe pinches in the real economy and for ordinary people. 

The clearest exposition of a good alternative plan I have come across that does exactly comes from John Hussman at Hussman Funds (H/T naked capitalism).  This is well worth the read.

To summarize briefly some highlights: his analysis is that to understand what goes wrong when a bank fails, you have to consider it through the perspective of the balance sheet.  Failure happens when the bank’s bad debt erodes its shareholder equity to near zero.  When this happens depositors begin to make withdrawals forcing the bank to liquidate assets at fire-sale prices.  This kicks off a vicious circle that ends in bankruptcy.  He proposes that the best approach is for the government to interrupt this process by injecting capital directly into the bank in the form of a ’super-bond’.  This would provide an extra layer of protection for depositors and the financial system enabling the good core of any failed bank to be cut out surgically and sold or restarted. 

We are likely to need to do something here in the UK before many more days have passed so we are not entirely spectators here.

Less red tape could get you to Prague

The EU is, it seems, not completely lacking in self-awareness and has some understanding that its bureaucratic burdens impact the real world. 

The High Level Group of Independent Stakeholders on Administrative Burdens (sic) is therefore inviting people to submit any ideas for reducing red tape arising from the EU.  The three entrants with the best ideas will be invited to present them in a ceremony in Prague in May 2009.

Now, I am not against reducing red tape.  Quite the opposite in fact.  But throwing random ideas – however good they may be – at the problem and hoping that some will stick is hardly up to the task.  Governments (here in the UK as in the EU) have long paid lip-service to reducing red tape but in reality they only ever seem to do the opposite.

What we need is a systemic approach, not a scattergun.

One cheer for the HLGISAB!

(H/T Mark Mardell Euroblog)

 

 

 

 

One cheer I think.

Is it fraud?

Just how did the banks manage to loose so much money?  Could it involve fraud, massive fraud a la Enron?  Its beginning to look very much as if it does.

Within days of the Lehman bankruptcy the market price of its bonds collapsed revealing a whopping $110bn black hole in its balance sheet just days after they were saying that a mere $10bn would fix their problem.  As a posting on the Naked Capitalism blog earlier today puts it: 

Now is there a precedent in this history of bankruptcy–excluding cases of accounting fraud–where bonds collapsed like this once a bankruptcy court opened up the books? I’m thinking the answer is ‘no.’ Which then makes you re-evaluate the premise that there wasn’t fraud at [Lehmans] in marking the value of their assets.

Now extrapolate this reasoning across the entire banking system and, voila, you have the seizure of the interbank lending market.

In general banks are quite happy to provide liquidity (in effect a bridging loan) to cover a temporary shortage of ready cash.  Proping up failed enterprises is a different matter altogether; it’s just throwing good money after bad which is why interbank lending has seized up – the banks have good reason to suspect that some of their number have liabilities that far outweigh their assets – in short that they are insolvent, the walking dead, and any loans made to them are unlikely to be repaid.  Unfortunately they don’t know which of their number are in this group.

The suspicion is that some banks have been goosing the mathematical models used to calculate the value of their sub-prime mortgages and the like.  Inevitably this involves forecasting the likely future value of a great many parameters – default rates, interest rates and so on.  Small changes in the assumption about any single one can make a huge difference to the calculated value; when many input parameters are changed simultaneously the calculated value swings wildly.

Could it be that under pressure some banks have decided that ‘in the opinion of the directors’ an optimistic view of ALL input parameters is ‘appropriate’?  You bet!  And of course GIGO.

The policy implications are clear.  There is really no point in central banks pumping vast amounts of liquidity into the system since that is not the issue.  Nor should they attempt to prop up insolvent banks.  What they need to do is identify and take down the bad banks to prevent their contagion spreading.  Then the financial system can be rebooted.

But does this amount to fraud?  Legally speaking, I don’t know – ask a lawyer.  In the court of public opinion, undoubtedly and also guilty of criminal negligence and misrepresentation.  These people have held themselves out as Masters of the Universe with salaries and bonuses to match.  If they are that good then ordinary mortals are entitled to hold them to correspondingly stellar standards of performance and integrity.

Something Biblical this way comes

Recent events seem to have an almost Biblical quality about them.  Let me explain. 

As a youngster I was quite well brought up in matters Biblical.  This included an appreciation of the historical books of the Old Testament as being, in part at least, an account of how the Jewish people were gradually taught the right way to live.  People being people, they periodically fell away from this right path in one way or another with inevitable and disastrous consequences – being carried off to captivity in Babylon, economic collapse, military defeat and so on.

Whether you are a believer or not is, at one level, irrelevant.  You can see this either as divine intervention or simple cause and effect – jump off a cliff without a parachute and, splat!  When societies are operating justly and harmoniously they work, when they operate unjustly and with sectional interests to the fore, they fail.  It’s as simple as that.

Three passages come to mind:

1. Exodus 32: The Israelites make and worship a false God – a golden bull-calf (and this millenia before bull markets).  It ends badly.
2. 1 Kings 12: Rehoboam succeeds his father Solomon as King.  The elders advise him to lighten the tax burden on the people but his contemporaries suggest increasing it.  He goes with the young bloods and as a result looses most of his kingdom splitting the Kingdom of Solomon into two weak kingdoms with dire consequences down the track.
3. Amos 2:vv6-8: Somewhat cryptic but the complaint is that the law is being widely flouted with one law for the rich and another for the poor.  Indeed the law has been perverted into an instrument of oppression.  Archaelogical evidence from the time suggests that in the generation or so before this social inequality had increased sharply.

All of this sounds alarmingly modern.  Clearly human nature has not changed in the last 3,000 years or so, but it does leave me with a problem.

How come that in some of the most overtly Christian countries of the world, these ancient lessons seem to have been so thoroughly forgotten?  How come the New Testament injunctions to love your neighbour and be a peace-maker has been replaced for many with a call to fight, fight, fight?  How has a Gospel of love been changed to a Gospel of fear?

The Bible is clear.  There must be justice or there will be disaster.

Britain: an Economic Sahel

Gordon Brown used to trumpet his success in banishing the ’stop-go’ economy though he’s been strangely quiet on this recently.  Could it be that the difference between real fitness and pumping up with credit steroids is now painfully obvious to all?

Actually, even in his glory years there was another story in the real economy, happening largely beneath the media radar and so mainly unseen.

A friend is a robotic engineer.  He used to be part of a world-beating team of decommissioning experts working for British Nuclear (or whatever it was called at that stage).  His particular expertise was in robots that could decommission old nuclear facilities, going where no human could live – expertise that just has to be transferable to marine, space and goodness knows what other sectors.  I thought that he was well positioned career-wise and told him so only to be proven (temporarily) wrong when he was made redundant in one of the govt’s periodic cost-cutting drives.  The team is now split up and he works abroad.

The govt meanwhile is wondering why it is that young people don’t seem to want to go into science and engineering.  Could it be because they have more sense?

My friend’s experience is only one tiny part of what has happened to the entire UK nuclear industry on both the building and decommissioning sides with the inevitable result that the whole lot has slid into foreign hands.  As the BBC puts it:

…both clean-up and new-build will be dominated by large French companies, which are themselves controlled by the French state.

Something similar happened to railway rolling stock manufacturers under the Conservatives.  During all the prevarications, delays and changes of tack during the privatisation process, orders for new rolling stock dried up causing one of our oldest manufacturing industries to close. 

That is why when Virgin wanted new trains it had to go to Italy to buy the Pendolinos.

I could go on but already the pattern is clear.  Whatever is happening to the economy as a whole, individual sectors have all too often experienced unsurvivable swings in demand that are the industrial equivalent of repeated long droughts.  And it is these frequent draughts that make places like the Sahel so chronically impoverished.

My conclusion: govt needs to raise its game dramatically.  It talks the talk but doesn’t actually deliver.  Am I wrong to think that there are lots of votes in this and that people are far better at detecting BS than the politicians give them credit for?

Another Gordon Brown sell-off

Another cunning plan from Gordon Brown as he sells off British Energy to EDF for £12.4bn.  Pierre Gadonneix is ‘delighted’ with the deal.  I’ll bet!

(Readers may recall that in an earlier cunning plan Gordon Brown sold off 395 tonnes of our official gold reserves at an average of just $275.6 per oz between 1999 and 2002.  As I write gold is $889.)

The background to this is of course that he is increasingly desperate to find a way to keep the lights on after circa 2015 in the complete absence of an energy strategy.  And of course the £4.3bn for the govt’s stake represents a useful bung for his fast-depleting coffers.

So, the grand strategy of privatising the old state-owned CEGB ends up with it back in government hands – except that this time it is a foreign government.  Some libertarians will probably say, “So what?  Ownership per se doesn’t matter.” but I think in this case it does because we are not playing by the same rules.  There is not a cat in hell’s chance that a UK company would ever be allowed to take a controlling stake in French electricity generation, EU or no EU.   Certainly the public is not impressed as the BBC’s ‘Have Your Say’ discovered (click on the ‘Readers Recommended’ tab for the majority view).  I’m with the crowd on this one.

There should be recriprocity; acquisitions here should be allowed only if they would have been allowed the other way round.  That’s fair and transparent.

Back from holiday

What a time to be away!  Labour in near meltdown.  Ditto the World financial system.

We certainly live in interesting times.

Gordon Brown – Management by Crisis

It’s been like watching a slow-motion car crash; you could see it coming but do nothing to stop it.  The government’s prevarication and indecision on energy policy has condemned many people to a tough winter which today’s announcement of a £910 million package of home insulation grants and subsidies to help people with their energy bills will do little to prevent. 

Leaving aside for the moment the specifics of the package, this tells us something important about the way government in this country works; it is mainly reactive – responding to circumstances after the event rather than planning, anticipating and being strategic.  Between episodes of reacting to events it falls back into a control mode, exercising (or trying to exercise) detailed control from the centre. 

In short, it’s management by crisis.

Government needs to be strategic, to spot issues early leaving plenty of time to devise and execute a plan.  Contrast the German approach outlined here which is cutting greenhouse gas emissions, ramping up renewable electricity production and creating lots of jobs.

It could and should be done in Britain too, but it will require a different approach from government.

Regulation: a New Labour pathology

New Labour’s love of regulation and targets as the solution to all known problems has become pathological.

At the start of this month the Early Years Foundation Stage (EYFS) came into force setting out a totally bonkers 69 “learning goals” for under-fives.  The justification from ministers is that it will help to prevent disadvantaged children falling behind educationally though quite how it’s supposed to do this is a mystery since childminders will need to spend more time with their paperwork and less with the kids.  Motivated teachers will be driven away while timeservers and box-tickers will thrive.  In a few years we will be appalled to discover that toddlers are ‘failing’ but, hey, by a stroke of good luck ministers will have the World’s best statistics to document their shortcomings.

Now childminders are usually friends or neighbours – certainly members of the local community – which is surely the perfect context for parents to exercise the educational choice that Labour loves to promote.  The heavy-handed and counter-productive intervention of Whitehall adds nothings but costs a lot.

The explosion of paperwork and regulation is not confined to toddlers.  A police sargeant recently told me that 22 years ago when he joined the force the paperwork arising from an arrest could be done in as little as 20 minutes – or even less if he was about to go off shift.  Now it takes him up to 5 hours.

Similarly with building.  Yesterday I had a local builder round to quote for some minor alterations.  Ill-conceived and poorly-implemented regulation has become a big problem for responsible tradesmen as he told me – some have even been driven out of business.  Yet the cowboys are left to free to prey on the unwary unimpeded by the regulations which of course they ignore.  Another tradesman told me that in his business regulation has become so onerous – and so dead-brain – that in attempting to comply (as he does) his costs are raised to uncompetitive levels driving increased trade to the cowboys.  Insofar as the regulation relates to health and safety this increases overall risk.  Mad!

Meanwhile, over in the City where regulation most certainly is needed ‘light-touch’ regulation (a.k.a. no regulation) has already caused mayhem and is about to cause even worse.   For what the banks discovered a few years ago was that by creative accounting they could wriggle out of the regulatory framework that protects them (and therefore us) from their own foolishness.  The inevitable result: a large part of the City’s activity is now completely unregulated.  And the response of regulators under the political direction of Gordon Brown?  To ignore the problem of course – that is until it blew up.

In short, Labour’s strategy owes much to Parkinson’s Law of Triviality and two conclusions stand out.

Firstly, if Nick Clegg is serious about saving £20bn as reported then he should aim for some pretty heavy-duty pruning in Whitehall and make a bonfire of the regulatory clippings.  Those in the Lib Dems worried that spending cuts might mean service cuts should not worry.  They are more likely to lead to increases in funds for services (or for handing back to taxpayers or whatever) and will certainly lead to improved efficiency in the real world outside of Whitehall.

Secondly, this is an agenda that plays straight to traditional liberal values – power to the people, small government, hands off where ever possible and so on.  So why aren’t we making more of it as a theme?

Sarah Palin and the Political Mind

McCain’s choice of Sarah Palin has certainly stirred up the Democrat-leaning blogosphere and now even the mass-media are moving to question her suitability as VP.

But, as George Lakoff (of Rockridge Institute fame) warns in a fine piece of analysis, elections turn not so much on policy specifics as on how the candidates and their policies are cognitively framed in voters’ minds.

The Democratic responses so far reflect external realities: she is inexperienced, knowing little or nothing about foreign policy or national issues; she is really an anti-feminist, wanting the government to enter women’s lives to block abortion, but not wanting the government to guarantee equal pay for equal work, or provide adequate child health coverage, or child care, or early childhood education; she shills for the oil and gas industry on drilling; she denies the scientific truths of global warming and evolution; she misuses her political authority; she opposes sex education and her daughter is pregnant; and, rather than being a maverick, she is on the whole a radical right-wing ideologue.

All true, so far as we can tell.

But such truths may nonetheless be largely irrelevant to this campaign. That is the lesson Democrats must learn. They must learn the reality of the political mind.

And in understanding this reality Conservative Republicans have a long lead.  Since Reagan they have been framing issues in Conservative ways so that from long repetition these have become familiar, safe and, well, right in the eyes of many voters.  As Lakoff puts it:

She has the image of the ideal conservative mom: pretty, perky, feminine, Bible-toting, and fitting into the ideal conservative family. And she fits the stereotype of America as small-town America. It is Reagan’s morning-in-America image. Where Obama thought of capturing the West, she is running for Sweetheart of the West.

And again:

Yes, the McCain-Palin ticket is weak on the major realities. But it is strong on the symbolic dimension of politics that Republicans are so good at marketing. Just arguing the realities, the issues, the hard truths should be enough in times this bad, but the political mind and its response to symbolism cannot be ignored. The initial Democratic response to Palin — the response based on realities alone — indicates that many Democrats have not learned the lessons of the Reagan and Bush years.

Obama is at long last moving Democrat tanks onto Republican turf by addressing the cognitive dimension of policy. 

Obama is right when he says that America is based on people caring about each other and working together for a better future-empathy, responsibility (both personal and social), and aspiration. These lead to a concept of government based on protection (environmental, consumer, worker, health care, and retirement protection) and empowerment (through infrastructure, public education, the banking system, the stock market, and the courts). Nobody can achieve the American Dream or live an American lifestyle without protection and empowerment by the government.

As a UK-based Lib Dem, this is a framing that very much appeals to me. So what lesson should we draw from this?

Surely, it is that evolving a coherent overarching narrative that operates on voters’ minds at the cognitive level is the beginning of political wisdom.  Yet this is something the Lib Dem establishment has never managed to do; they remain wedded to a policy shopping list approach which supposes that merely having the ‘best’ policies on each and every topic is enough (although the reality is that Lib Dem policies are often far from the ‘best’).  Two or three years ago I heard Chris Rennard espouse precisely this view – identify voters top concerns (typically a very short list including health, education, economy etc) then devise and push policies that focus on these, nothing else really matters. 

Obviously specific policies are needed, but they must fit comfortably into a cognitive framework and must be credible in their own right as each will in turn come under scrutiny from subject specialists.   And, if policies fit into an overarching framework then, almost by definition, they will be ‘joined up’ – justified by their contribution to the whole rather then simply because they look good in isolation.   This would revolutionize Lib Dem thinking. 

This is, of course, not as easy as it sounds.  On the other hand, it is a lot easier if you’re actually trying.