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Saturday, May 14, 2011

Debt and Deficits: The U.S. and E.U. Federal Systems Compared

The willingness of U.S. Government officials to print money rather than tackle tough debt-cutting measures is in sharp contrast to the approaches to relieving the public debts in the E.U.  The state of Ireland, for example, nearly doubled its package of spending cuts and tax increases in 2010 to rein in its huge deficit.  Even so, borrowing costs in the states of Spain, Portugal and Greece spiked upward again in late 2010 and in 2011 amid bailouts by the E.U. via contributions from the state governments. The issues are as much political as economic.

The complete essay is at Essays on Two Federal Empires.

Friday, May 13, 2011

The E.U. States on Bailouts and Immigration: Where Lies the Vulnerability?

The history of the E.U. and its predecessor, the EEC, can be characterized as a series of fits and starts. For example, at one point France vetoed the accession of the U.K. as a state. Before long, Britain was in and the EEC could step forward. At another point, the proposed “constitutional treaty” was voted down in referendums in two states. A few years later, the Lisbon amendment was ratified and the E.U. could adjust, albeit piecemeal, to being larger. Without knowing the overall pattern in this history, one could easily take one of the backward steps for the demise of the union. Even an awareness of the pattern is not sufficient to arrest doubts. Moreover, a back step can be of sufficient symbolic value that it breaks even the “fit and start” pattern with truly dire consequences. Given the overall pattern, however, it is difficult to discern such a baleful symbolic move back.

The full essay is at "Essays on the E.U. Political Economy," available at Amazon.

Wednesday, May 11, 2011

Wall St. Bonuses and TARP: A Tale of Two Cities

Wall Street profits totaled $21.4 billion during the first three quarters of 2010. The prior year's record of $61.4 billion was fueled by the bailout financed by American taxpayers. Wall Street paid out $20.3 billion in bonuses on the 2009 profits. According to New York City Comptroller John Liu, "The astounding recovery of financial firm profitability in 2009 has been followed by a mixed year in 2010, yet total compensation in the industry is expected to be up modestly once year-end bonuses are paid." Goldman Sachs’ CEO Lloyd C. Blankfein and his top subordinate executives collected about $111.3 million in stock in January 2011. It was a delayed payoff from 2009 and the bank’s record-setting 2007 bonuses, according to a Bloomberg News report. Within a year after the bonuses had been approved, Goldman Sachs took $10 billion from the U.S. Treasury, converted to a bank and was borrowing as much as $35.4 billion a day from Federal Reserve emergency programs, Bloomberg reported. In 2010, the bank paid $550 million to settle U.S. regulators’ fraud charges related to a mortgage-security company sold in 2007.

The full essay is at Bonuses and TARP.

Tuesday, May 10, 2011

Amazon.com, Starbucks, McDonalds and Borders: Various Positions on the Technological Wave

From the ten-year chart of Amazon.com's stock, a clear upward trajectory can be discerned from the days of financial panic in the last quarter of 2008 even in spite of the plateau in mid-2010. On May 10, 2011, AMZN was trading at around $204 a share. At the time, Amazon's new "cloud music" service was said to be behind the surge. In general, the general uplift since late 2008 can be ascribed to the company being on the right side of the computer technology changes that were transforming not only industries, but modern society itself. As yet another example, as Amazon.com was benefiting from its move into music, Microsoft was buying Skype for $8.4 billion in order to get into communications. The hefty price tag can itself be taken as a confidence vote in the continuance of the technological shift.

                         10 year Amazon.com stock chart from Investorguide.com

In contrast to Amazon.com and Microsoft, Borders found itself holding paper books, music CDs and movie DVDs even as e-readers such as Kindle, on-line music in Cloud--both at Amazon.com, and on-line delivery of movies at Netflix were growing by leaps and bounds. To be on the heels of momentous technological change is very different indeed from riding the crest of its wave.

Rather than fighting gravity itself, Borders execs would be smart to pivot off reliance on the antiquated forms to expand on the one area that is not doomed to replacement--namely, Borders' cafe. Borders strategists would be wise to think beyond a narrow conception of a particular industry sector. Rather than looking over at Amazon.com and Netflix, Borders executives might study why McDonalds was enaged in a $1 billion face lift designed to move the restaurants closer to Starbucks--a place where customers can buy a beverage, connect to wifi, and hang out. In other words, with Starbucks expanding its food products (even going into consumer packaged foods in grocery stores) and McDonands moving closer to the coffee house model, a hybrid restaurant-coffee shop model was emerging just as Borders was facing an uphill battle in paper books, CDs and DVDs. 

Were Borders execs to speak to customers, the suits would learn that people like Borders for being able to get a latte and some food, find a comfortable seat, and spend an hour or so looking at magazines and books. This customer experience ought to be the basis of Borders' business strategy. That is to say, the chain should drop the CDs and DVDs and reduce its paper books to those that customers would enjoy perusing while using the expanded cafe.  More tables and comfortable chairs (with pivot "desks" for a drink and snack) throughout the store--integrated with the book and magazine areas--would play on strength that is not so much at odds with technology. In fact, flat screen televisions could be mounted in an area of the store, while other areas remain quiet.  Expanding on drink and food products--even going into premium products--would enable Borders to capitalize on this shift. 

Of course, no strategy is problem-free. Increasing food and drink around books could mean that more customers will render books unsaleable by spills or smears on the pages. Also, it could be that the customers would not so much buy books than simply read them in-store. Retaining books could therefore be difficult financially even if they contribute to the in-store experience that singles Borders out. The strategy could mean that Borders would eventually compete directly with McDonalds and Starbucks rather than Amazon.com and Netflix, in which case the books-element would not be part of Borders' strategic competitive advantage. However, if Borders could make the magazines and books work as secondary to the cafe products (the latter perhaps subsizing the former), the company could modify the evolving restaurant-coffee shop model.

In short, a company does well to listen to what consumers really like about it.  Often times, the favorite experience could correspond to something that executives view as supportive or secondary.  Furthermore, companies behind the curve on a technological change would do well to think beyond the industry they have been in to consider more broadly how they could swim cross-wise in the rip-tide and eventually even catch a wave. Amazon.com is clearly a beneficiary of the technological change and companies such as McDonalds and Starbucks are also positioning themselves to play off the change. In contrast, Borders has been on the losing side of the curve, but this need not continue if strategic leadership can recognize a way out. Simply arranging loans of $50 million to pre-pay publishers does not evince such leadership.


Amazon  on Investor Guide

Bruce Horovitz, "McChanges," USA Today, May 8, 2011, p. A1.

See also:

Kit Eaton, "Amazon Sells More E-Books than Paper Ones," Fast Company, May 19, 2011.

CEO Compensation Increases: How Much Is Too Much in a Republic?

The medium value of salaries, bonuses and long-term-incentive awards for the CEOs of 350 major companies increased by 11% in 2010 to $9.3 million, according to the Hay Group.  Corporate net income increased by a medium of 17% and shareholders medium returns, including dividends, increased by 18 percent. Share prices also increased more than the CEO compensation. However, bonuses increased 19.7%, which is just barely more than the percentage increases in corporate profit and shareholder returns.

Of course, comparing percentages can be misleading because the base amounts can differ markedly. Ten percent of 100, for example, is less than ten percent of 1000. The issue regarding CEO compensation may have less to do with comparisons to corporate net income and stockholder returns, as these are different categories, than with the absolute amount of compensation. One might compare, for example, the amounts earned by a typical CEO and a typical worker. In 2000, on average, CEOs at 365 of the largest publicly traded U.S. companies earned $13.1 million, or 531 times what the typical hourly employee earned. The corresponding ratio in 1990 was 85 and in 1980 it was only 42, according to Finfacts. It is unlikely that the contributions, and thus value, of CEOs to corporate bottom lines were increasing accordingly--both in absolute terms and relative to the sweat of hourly employees. In fact, Sarah Anderson points out that many of the executives responsible for the financial crisis of 2008 used it as a springboard financially. Specifically, at ten of the financial firms that received bailout money, executives were awarded stock options when the market was at bottom. After the taxpayer funds helped lift the price of the stocks, "the executives who brought the global economy to the brink of disaster" saw their portfolios increase in value by $90 million.

Furthermore, it is doubtful that American CEOs are more talented than those in Europe and Asia. According to Finfact, income inequality in the U.S. was, as of 2003, greater than anywhere else in the industrialized world. One could be excused for asking whether the highest CEO figures are beyond even what one person could reasonably spend (without giving tens of millions away at a time without a thought) even in a very comfortable life of luxury.
Viacom CEO Philippe Dauman, for example, topped the list at $84.3 million, more than double his 2009 pay. Even if a significant portion of this figure are stock options that cannot be sold for several years, the total amount is so far beyond what a person can use even for luxuries that one might wonder what impact it could have on the CEO. Moreover, the amount dwarfs by many times the salaries even of middle level managers, not to mention workers. The amount itself is sufficient to raise some questions.

For example, can the worth of a particular CEO to a corporation really be worth $84 million?  Is that amount necessary to motivate or sufficiently reward a manager who happens to be the CEO? Is the potential CEO labor market really so limited? Is corporate governance itself at issue? Given the influence that CEOs can have over the boards tasked with overseeing them as well as setting executive compensation, the obscene numbers may be indicative of the conflict of interest.  Where a CEO is chairman of the board too (i.e., duality), the conflict of interest is structural and bears on corporate governance itself. That American CEOs get paid more on average than European CEOs suggests that the American compensation amounts may be due to arrangements pertaining to American corporate governance rather than occurring naturally from a competitive labor market.

From a governmental standpoint in a republic, the high CEO compensation signifies concentrated private power. Such power may be an inherent threat to representative democracy wherein each citizen able to vote has one vote. In other words, the pay may incur systemic risk to the republic itself as a representative democracy. Such concerns can and should constrain even private contracts, for individual transations should not be allowed to put the whole at risk.Yet if concentrated wealth already has bought the mainstream candidates and government officials such that they are in its grip, the high compensation amounts are effectively protected and the republic can be expected to run without contradicting this particular powerful vested interest. The only way out of this negative feedback group is for the people to recognize the manipulation and corruption in the halls of their government and vote accordingly. The problem is that such action is apt to be decentralized unless candidates outside the vested interests can raise above the din of the party lines.


Joann Slublin, “CEO Pay in 2010 Jumped 11%” The Wall Street Journal, May 9, 2011, p. B1.

Michael Hennigan, "Executive Pay and Inequality in the Winner-Take-All Society," Finfacts, August 7, 2005.

Sarah Anderson, "Can Europe Pop the U.S. CEO Pay Bubble?" CommonDreams.org, September 2, 2009.

See related essay: "Wall Street Bonuses and TARP: A Tale of Two Cities"

News to the Wall Street Journal: The E.U. Has a Common Market

The European Union has a common market. This would seem to be news to The Wall Street Journal. This is not to say that the E.U. is a common market.  For instance, the union has governmental institutions, including a parliament, a senate (i.e., the European Council), an executive branch (i.e., the Commission), and a supreme court (i.e., the ECJ).  So it is surprising when journalists forget that the E.U. even has a common market—treating each of the States as having its own economy. To be sure, regions of the E.U. perform differently economically.  In the U.S., the States in the Northeast and California tend to produce more than say South Carolina and Iowa.  Therefore, I contend that The Wall Street Journal errs in applying the concept of contagion to the E.U. financial crisis of 2010. 

A contagion occurs “when a loss of market confidence in one economy transmits to others.” It can occur through trade connections, economic similarities, and financial linkages. There are no “trade connections” within the E.U. because there is a common market within its borders—the E.U.’s borders, that is.  Economic similarities and financial linkages naturally exist within an economy; they need not evince contagion. 

In terms of the E.U. States that are variously suffering from budget deficits, high government debt and low growth, both the problems and solutions can be viewed in systemic terms with respect not only to the state governments, but also to the EU in terms of its common market and governance. Reducing the E.U. to its States misses this point and is antiquated. 

Beyond the financial matters in the E.U., the reporting thereon evinces a problem in itself—that of being excessively rooted in “the same old, same old” at the expense of a changing world.  In other words, our perspectives seem to have a nasty habit of being too sticky or rigid, and this is a problem that may dwarf those facing the E.U.

Source: Tom Lauricella, “Fears of Domino Effect Pervade Europe,” The Wall Street Journal, November 24, 2010, pp. C1-2

Monday, May 9, 2011

A Bear Housing Market as Justly Deserved?

According to The Wall Street Journal, housing prices had fallen for 57 conseccutive months by May 2011. The Huffington Post reports that even though the recession officially ended in June 2009, the real estate market had yet to hit bottom. Since the housing peak in 2006, home values nationally were down 29.5 percent, according to Zillow.com. Compared to the same time a year before, prices were down 8.2 percent in the U.S. markets. In 2010, according to The Wall Street Journal, house price depreciation slowed or stabilized because of tax credits of up to $8000 that expired during the summer. Accordingly, negative equity became even more prevalent in the first quarter of 2011, according to Huffington, when 28.4 percent of all single-family homes with mortgages were "underwater." 

Monthly declines for February and March were "really staggering," according to Stan Humphries, Zillow's chef economist. The Wall Street Journal further quotes him as saying that the declines reflect "the true underlying demand," which was "being completely overwhelmed by supply." Fannie and Freddie sold more than 94,000 foreclosed houses in the quarter--23% more than in the previous quarter. The increase in supply from the foreclosures is at relatively low prices, hence the impact on the market is particularly depressing.

A declining housing prices translates into lost wealth for extant homeowners. When home values decline, the values of mortgages often do not go down as well. Homeowners lose some of their equity, or the stake they have in their home. When equity becomes negative—that is to say, when the value of a mortgage exceeds the value of the property—homeowners become especially vulnerable to default and foreclosure, according to the Huffington Post. “Falling home prices can create a vicious cycle. When a property falls into foreclosure, it tends to depress the values of properties around it, making those homes more likely to experience a similar fate. [In 2010], nearly 2.9 million homes received a foreclosure filing, and more than 2.8 million homes got one in 2009.” based on the data provider RealtyTrac. More foreclosures further reduce the value of residential mortgage-based securities, which reduces the asset-values and returns of investors in the CDOs (collateralized debt obligations) worldwide.

The Huffington Post also reports that the housing market was “plagued by scandal” in the first quarter of 2011. Homeowners and investors filed “numerous lawsuits alleging that big banks misplaced or even faked crucial mortgage documents.” After it was “revealed that companies that processed foreclosures signed thousands of documents daily without even reading them, potentially violating the law, some of the biggest banks temporarily halted their foreclosure proceedings” in the fall of 2010. I suspect, however, that the failure to read is a red herring; most of the sub-prime residential mortgages required no documents proving income or even a job and many of those mortgage applications contained lies known or even encouraged by the brokers. Yet somehow the borrowers should be expected to have resisted the, “It’s ok, really. Trust me.”

The claim made by some mortgage brokers and Wall Street securitization arrangers that the borrowers should have somehow known better than sign low or no-document subprime mortgages with steep ARM resets of up to double-digit interest rates is more than just disingenuous; the brokers had assured the potential homeowners that the “certain” increase in home equity appreciation from the rising housing market would give them the 20 percent equity stake that is necessary to refinance into a fixed mortgage at a decent rate.

The brokers did not care whether the borrowers enabling the double commissions could make the higher ARM (adjustable rate mortgage) payments. Even if the unheard of would happen and the housing market turn bearish, the mortgage servicers will have sold the mortgages to an investment bank such as Lehman Brothers, which would pass the then-securitized mortgage-based bonds on to investors such as Deutsche Bank and the bank of Iceland. Neither companies such as New Century (or Countrywide), nor investment banks like Lehman, would face any risk unless they happened to be holding mortgages when the merry-go-round stopped. Assuming that the horses would keep spinning around, New Century and Lehman both assumed that they would never get caught with their pants down holding toxic mortgages. They were both wrong—oh so wrong. To be so wrong and yet blame the consumer is, at the very least, bad form.

In conclusion, we ought not to be surprised that the years and years of bull market exploited by mortgage servicer companies and Wall Street banks for a quick buck without virtually any concern for the inherent risk takes more than a few years to return to an equilibrium that is reflective of the real-adjusted demand for the extant supply of houses. Our penchant for quick fixes even in the wake of a near-disaster is perhaps even more astonishing than our propensity to deny (and rely on!) bubbles even as they are rising. Although Clinton’s goal of putting poor people in their own homes was laudable, constructing ARM mortgages with resets that low income people could not afford and relying on a rising market to obviate them was a recipe for years of a bear housing market. So rather than act surprised, we might reflect more on what got us into this market. We might conclude that the "professionals" with a vested interest in a steady housing market deserve more than a few years of economic hardship while the foreclosed poor deserve something better.


William Alden, “Home Prices Fall Again in Biggest Drop since 2008,” The Huffington Post, May 9, 2011.

Nick Timiraaos and Dawn Wotapka, "Home Market Takes a Tumble," The Wall Street Journal, May 9, 2011, pp. A1-A2.

Sunday, May 8, 2011

Regulating Smoking in China: An Ethical Conflict of Interest

Government ownership and control of a (or the) means of production is socialism. It can applied to an entire economic system or to particular enterprises. Socialism involves a structural conflict of interest for government when it seeks to regulate that which it owns. Specifically, where a government as owner enjoys the benefit of profit from the enterprise, that government has a financial interest that is antithetical to the restriction of the produced product. Such a restriction could be warranted by public health or safety, for example. In short, the public good can be opposed to a government’s own financial interest even as that government is charged with acting in the public interest. It is the incorporation of a private interest into a government, which is inherently in the public interest, that sets up the conflict of interest. Public health in China provides a case in point.

Three hundred million Chinese smoke. This number is roughly equivalent to the entire U.S. population in 2000. The addiction kills an estimated 3,000 people a day in China. In 2010, there were 1.2 million tobacco-related deaths. One out of three cigarettes smoked worldwide is smoked in China. It is estimated that smoking will kill about a third of Chinese men under 30. On May 1, 2011, the Chinese government banned smoking in indoor public places. However, the law contained no penalties. According to Time magazine, the law is not likely to have any effect.

The reason for the lenient regulation may come down to the powerful China National Tobacco corporation. In 2010, taxes and profits from the state-owned monopoly were roughly 7% of the government’s revenue. That gave government officials a disincentive to issuing regulations that could be expected to reduce the consumption of cigarettes in China.

Even if the government’s expense in covering health-care costs for the 3,000 Chinese a day who die of smoking exceeds 7% of the government’s total revenue, even a partial loss of revenue would likely be resisted by government officials.  Aside from the possibility of kick-backs related to the revenue, attention to revenue can dwarf that to costs where there is no market competition.

Ethically, the government officials otherwise tasked with regulating so as to protect the public health in China and thus prevent deaths from smoking suffer from the structural conflict of interest wherein the government’s financial and public health interests are in conflict. That is to say, the officials not only have their own ethical dilemmas to resolve; there is also a larger institutional problem akin to a house being designed to be at odds with itself. 

As Lincoln said in 1863, a house divided against itself cannot stand. This truth pertains not only to a psyche, but also to an institution (as well as to a system of institutions, such as a political economy). Lest the structural or institutional conflict of interest be ignored or relegated by advocates of “ethical decision-making,” rectifying an institutional conflict of interest can obviate any related individual dilemmas. In contrast, even the person who comes to a conclusion regarding his or her own ethical position within the overview of an ongoing institutional conflict of interest still suffers from the tensions inherent in the larger conflict until it is resolved.


“A Smoking Ban without Teeth,” Time, May 20, 2011.

See related essay: Socialism Where You Might Least Expect It.

Socialism Where You Might Least Expect It: Pruning Back a Partisan "Re-Definition"

On Fox News in the wake of the new law in 2010 that would expand health-insurance to the poor beginning in 2014, Brit Hume and Newt Gingrich (former Speaker of the U.S. House of Representatives) both (re)defined socialism as “government control of private property.” Their rendering falls short, however. According to the Random House Dictionary (via Dictionary.com), socialism is “a theory or system of social organization that advocates the vesting of the ownership and control of the means of production and distribution, of capital, land, etc., in the community as a whole” (italics added). Whereas government regulation of privately-owned means of production and distribution involves some of the control being in the hands of the community as a whole through its government, socialism includes the vesting of both ownership and control (and not a portion thereof) in the community as a whole through its government.

By implication, government ownership without formal control does not constitute socialist enterprise. That ownership and control can indeed be separate in practice even if not formally is persuasively put forth by Bearle and Means in the classic treatise of 1932, The Modern Corporation and Private Property, which is on the separation in modern large corporations. Theoretically, a government could own a company that is controlled by its management. Although if this is as in managements usurping stockholders' control, the control would de facto rather than de jure (i.e., in practice rather than legally) and thus the enterprise in question would be considered socialist legally and privately-controlled in practice. Of course, if a government formally hands over control of an enterprise while retaining ownership, technically that enterprise would not be socialistic.

Therefore, the definition of socialism is more delimited than one might expect from all the chatter from the talking heads. Accordingly, the attempts made by the usual suspects to render the new regulations on health-insurance as somehow socialist must be considered to be specious. Otherwise, we shall have to admit that dictionaries are for naught and that anything goes linguistically. That would be the height of puffed-up arrogance and decadence. Because Gingrich holds a doctorate in history (equivalent to the J.S.D. in law and the D.Sci.M. in medicine), it is reasonable to conclude that he should have known better. A highly educated person intentionally distending the meaning of a word at the expense of clarity for political expediency evinces hypocrisy, if not duplicity. Sadly, the general public is apt to run with such “redefinitions” under the reasonable assumption that hosts and regular guests on news networks having a global audience have a competence deserved by the stature just from being a "celebrity" a major network.

To be sure, the meaning of words can change, but I contend that such shifts are gradual rather than artificially constructed for short-term political use. In the case of socialism, the term has historically applied to an entire system of social organization (political and economic elements folding into it in so far as the government, a political organization standing for a community as a whole, owns the means of economic production and distribution). 

With the fall of the U.S.S.R. and China’s allowance of private enterprise, socialism has manifested in governments owning and controlling particular enterprises rather than every means of production and distribution. For example, the Green Bay Packers’ football team is socialist because the city of Green Bay Wisconsin owns the team. So too is the China National Tobacco Corp. Lest it be objected that the latter is a monopoly whereas the Packers organization is not the only American professional football team, the NFL itself is a monopoly that has obtained an exemption from U.S. anti-trust law. Anyone who buys a ticket to an NFL game can readily feel the pinch of monopoly rents.

In short, socialism can be distinguished from government regulation of privately-owned economic enterprise. Furthermore, socialism can be applied to particular enterprises as well as in theory to an entire economy whose means of production and distribution are owned by the community as a whole (presumably through its government).  

See related essay: Regulating Smoking in China