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Saturday, April 27, 2013

International Banks Lending to the Middle Class in Asia: Profit vs. Planet

In April 2013, debt levels in Asia were reaching record levels as international lenders were extending short-term loans to a growing middle class. Nonmortgage consumer credit in Asia outside of Japan had increased 67% from 2007 to reach $1.66 trillion by the end of 2012. This credit included credit cards and loans for cars, electronic products, and appliances. Outside of Japan, Asian car and motorcycle loans nearly doubled from 2007 to 2012, to reach a record $219.7 billion. Appliance and electronics loans also more than doubled, reaching a high of $10.9 billion. Meanwhile, credit-card loans grew by 90% to reach a record $234.1 billion, according to Euromonitor. The incentive for the banks is not difficult to fathom. By 2020, more than half of the world’s middle class is expected to be in Asia. That translates into more than 100 million more people per year. For the banks, this is an opportunity for growth that was not possible in the European Union or United States from the financial crisis of 2008 to at least well into 2013. Lest the debt-loads go to wherever the banks’ incentives lead, government regulators in China, Malaysia, and Indonesia began reining in mortgage, credit-card and auto/motorcycle lending. Interestingly, the European Commission was also working on regulatory proposals that would limit the incentives of mortgage servicers to produce too many “bubble-creating” mortgages. Two levels of concerns can be extracted from this trend in Asia. I contend that the more immediate concerns are crowding out attention that ought to be paid to the larger but longer-term problems.
One sort of concern posits that the international banks may have been providing too much credit to people entering the middle class. Such borrowers, similar to the sub-prime mortgage borrowers in California, Arizona and Florida, may not be able to handle their new debt-loads. At the beginning of 2013, debt levels relative to individual income in many Asian economies, including Malaysia, China, South Korea, Thailand, Indonesia and India, were up to 30% higher than in the United States. Citigroup’s claim that it was expanding its lending to the middle class in Asia in a “disciplined manner” should be considered in light of the financial growth incentives facing the bank, given the continued weak economies in Europe and North America. The fear that another debt melt-down might trigger another recession is sufficient to focus attention on whether the middle-class borrowers can handle their debt-loads. The baleful consequences that are larger and presumably further off get pushed aside, given the human mind’s preoccupation with today.
The upsurge in auto loans, for example, points to an expansive auto market in Asia. Sometime after 2000, the number of cars in use in China was doubling every year. Meanwhile, the Chinese were building an “interstate” highway system that would dwarf the network of highways in the contiguous United States. Loans enabling an exploding middle class to buy cars increase the global demand for oil, and thus can be expected to result in a higher price at the pump. Indeed, given the magnitude of the surge in projected use of fossil fuel in Asia, it may be that the Earth’s reserves of oil will be fully extracted earlier than expected, perhaps before alternative sources of energy are sufficient to pick up the slack.
                                                                   More people=More cars=More pollution    source: Businessweek
Furthermore, the increased carbon emissions that we can expect can be expected to facilitate global warming. To be sure, it can indeed be argued that the Asian middle class deserves the same freedom and ease provided by owning a car in the twenty-first century that the American and European middle-classes enjoyed in the twentieth century. However, the global climatic threat to the species had not been pressing during the industrial revolution and the ensuing consumerism of the twentieth century. Even though a person starting to smoke at 50 can point to a person starting at 20 and say, “I should be able to have my years of smoking too,” the person who smokes when old faces more health risks than the person who smokes when young because an older body is past its prime. Is it worth a heart attack to a 50 year-old to insist on the right to have five or six years of smoking too?  Similarly, the question of more oil for more cars, as well as more coal-sourced electricity powering electronics and appliances—all being facilitated by the upsurge in loans—can legitimately be answered differently when it is feared that the survival of the species itself hangs in the balance.

                                 As these diverging patterns demonstrate, the threat of over-population is not uniform across the globe.   source: fashionzombie.net
Therefore, taking Citigroup at its word that it is lending in Asia in a “disciplined manner” in spite of the rather unique opportunity for bank profit there, it can be asked whether international banks have a responsibility to society, and even the species itself, to help limit the additional cars put into use in Asia by resisting the temptation to extend more auto loans to the rising middle class. To such a bank, this might seem like muzzling the golden goose, particularly given the soft economies in North America and Europe. Hence, responsibility involves some voluntary restriction on a company’s financial self-interest. Duty is not meant to be convenient; otherwise, it would not operate as a tug on a banker’s conscience.
If corporate social responsibility is not strong enough—owning the forcefulness of the profit motive and the voluntary nature of responsibility—then government regulation may have to pick up the slack. But if industrialization and development is in the interest of the Chinese government, so as to mollify any potential political resistance from the people, the question may be whether the U.N. should be given the authority to construct and enforce international limits on carbon emissions. Put another way, will the absolutist interpretation of national sovereignty have to be compromised in order to the species to survive?  Problematically, the Chinese government holds that interpretation and so much of the increases in carbon emissions come from Chinese cities. There is the rub, one might say.
In conclusion, both corporate social responsibility and government regulation may be insufficient , together or separately, to protect humanity from the econo-climatic repercussions that must someday catch up with the massive growth in global population. The spread of capitalistic industrialization from the developed world to the Asian tigers (i.e., newly industrializing countries), whose strong governments could concentrate enough spending on the infrastructure needed for foreign direct investment by multinational corporations, has allowed the economic and climatic implications of 7 billion people to catch up.


Kathy Chu, “Consumer Loans Surge Across Asia,” The Wall Street Journal, April 22, 2013. 

Thursday, April 25, 2013

Executives and Directors Planning to Unload Shares: A Front for Insider-Trading?

The U.S. Securities and Exchange Commission (SEC) initiated preset-trading arrangements known as 10b5-1 plans in 2000 so corporate executives and nonexecutive directors would have a way to announce their plans to sell shares. According to John Nester, a spokesman for the SEC, the 10b5-1 plan was devised “to give executives a way to sell some shares of their own companies despite being exposed to nonpublic information.” Therefore, the plans must be set up when the executive or director does not possess inside information, so as to obviate any potential charges of insider trading. The question I address here is whether the plans are subject to abuse by non-executive directors. Such abuse could involve the exploitation of a conflict of interest.
The SEC’s intent was not that executives and nonexecutive directors would use the plans to dump massive holdings of stock. Nor was it intended that non-executive directors who are also principals at investment funds would make use of the plans to make their funds money by exploiting the conflict of interest. According to Daniel Donoghue, the largest stockholder of Cardiovascular Systems, “(d)umping an entire fund during a tumultuous earnings period is well outside the bounds” of what the 10b5-1 plan was designed to cover.
It is suspicious, therefore, that from 2008 to 2012 the number of nonexecutive directors making use of the 10b5-1 plan increased 55 percent, according to the Wall Street Journal, as compared to a 36% increase among all other corporate insiders. From 2006 through 2011, nearly a quarter of nonexecutive directors using the plan sold more of their company’s stock in one month than in the surrounding two years. Patrick Sinclair, an assistant U.S. attorney in the eastern district of New York, suspected that those directors may have been using the plan as a cover to trade out of stock positions during times of bad corporate news. If so, the plan is not a sufficient device to thwart insider-trading. That the individual companies, rather than the SEC, approve their own 10b5-1 plans without having to disclose them invites potential insider to insider abuse.
Moreover, even if a given director does not use the plan to profit an investment firm in which the director has a financial state, it could be unethical for the director merely to be in the conflict of interest that he or she could exploit. If so, a director with an interest in an investment firm should strenuously avoid using the 10b5-1 plan at all. This might be good advice even if merely being in a conflict of interest is not inherently unethical. As the case of Dendreon demonstrates, it can be difficult to know if a CEO had access to particular information. Additionally, as the case of Cardiovascular Systems illustrates, it can be difficult to discern the motive of a nonexecutive director dumping shares.
Mitchell Gold, who was CEO of Dendreon through January 2012, set up a 10b5-1 plan to sell hundreds of thousands of shares in December 2010. The company’s stock dropped in August of the next year, according to the Wall Street Journal, “after the company pulled sales guidance for its prostate-cancer treatment Provenge.”
According to a whistleblower and other employees, Dendreon offiicals had been aware by late 2010 that Provenge faced significant problems with sales. “The writing was on the wall,” one of the company’s sales reps said. Even so, the Journal reports that it “isn’t clear how much [Mitchell Gold] knew about the sales results when he set up his trading plan. This means it is difficult to enforce 10b502 plans, so they may not be sufficient to eliminate insider trading. If it is difficult to determine what a company’s executive knew, imagine how difficult it must be to isolate the motive of a nonexecutive director who runs an investment fund.
John Friedman, a principal at Easton Capital Group (a private-equity firm) and a nonexecutive director at Cardiovascular Systems, reported the sale of 330,000 shares for $3.3 million that had been held by one of the funds at Easton. That firm had set up the 10b5-1 plan for the transaction on November 30, 2011, a month or so after some volatility began concerning Cardiovascular’s earnings reports and stock. Six days after the end of Friedman’s selling, more bad news came from Cardiovascular. The fund at Easton had been able to liquidate its holdings “prior to full market disclosure of the extent of the problems at the company,” Donoghue complained. “I am challenging the ‘affirmative defense’ that 10b5-1 trading plans provide against any suspicion of improper trading,” he wrote, “recognizing that these plans are not safe harbors with respect to insider trading.” He may have been jumping to conclusions, however, at least to the extent he was relying on Friedman’s actions at Easton.
The Wall Street Journal reports that the fund at Easton had to sell its stake in Cardiovascular Systems in order to repay a debt. Additionally, another fund at Easton retained its holding of Cardiovascular shares—421,000 in total. Furthermore, Friedman and Cardiovascular attest that he did not have any inside information at the time he sold one of the fund’s holdings. If so, however, why did the Cardiovascular board ask him to resign and then retained him nonetheless after he refused. Couldn’t the fund that sold its holdings in the company have sold its long position in another company to repay the pressing debt? If only the Cardiovascular holdings were sufficient, why would the fund not have diversified more at least in terms of company risk? Moreover, if Friedman had set up that fund in order to load it with Cardiovascular, his conflict of interest would be salient. Of course, he could argue that such a conflict is not a problem as long as it is not exploited, but this begs the question: did he exploit it or was he merely raising funds to cover a debt while allowing another fund at Easton to continue a significant position in the company?
Of course, if simply allowing oneself to be in a conflict of interest is unethical, exploitation need not be proved to justify deconstructing such a conflict at its outset. In a conflict of interest, a person’s or institution’s role wherein the exclusive self-interest of the person or institution is salient compromises or thwarts another role of that person or institution—a role whose legitimacy is based on a responsibility relied on or otherwise impacting other parties. In other words, a less official role conflicts with a more official one. Where exploitation occurs, the self-interest gains at the expense of the interests of others, or society itself. Gain eclipses duty.
If a conflict of interest is inherently unethical, it would be because it is unethical to intentionally make it possible for one’s gain to harm one’s duty. By analogy, one might say it is unethical allow one’s kid to walk along the edge of a skyscraper’s roof-top even if the child does not actually fall because subjecting him or her to the possibility is itself blameworthy. “How dare you put your son in such a dangerous situation,” a detractor might say. “If he falls off, it is his fault,” you might counter. “But you set up the particular condition in which he could,” the ethicist might say. In being culpable, the parent should not have allowed the kid to walk near the ledge. Doing so is thus unethical.
Similarly, Thomas Rohback, a lawyer, says, “If you have someone who is a director on a company’s board and he also runs some type of investment firm, he shouldn’t be trading in that company’s stock because of the appearance of impropriety at the very least. It always appears he has an advantage over other investors.” Put another way, both roles in a conflict of interest should not even be allowed—one of the two must go—because even the appearance of impropriety is unethical. To put a person or institution in a position that has the appearance of impropriety is unethical in itself (as an act). Associating a person with the mere possibility of improper self-enrichment at the expense of others negatively impacts the person even if only in him or her being seen in a sordid spot, or “role structure.” At the very least, the person’s reputation could be expected to suffer.
I submit that even apart from any harm—either to the person in a conflict of interest or to those relying on the person’s official duty—the arrangement itself of a person’s or institution’s roles is unethical if a role oriented primarily to the person’s or organization’s gain is inherently contrary to the duty that is so salient in another role. If my thesis is correct, then the designing of such an arrangement would be an unethical act. It would be even more unethical to enter into or stay in such an arrangement oneself, or to pressure or direct another person or an organization to adopt it. As actual harm comes from actual exploitation of a conflict of interest, actually compromising or thwarting a responsibility in order to gain from doing so would be even more unethical still. The fallacy is to suppose that the validity of the no-harm-based ethical principle means that a design cannot itself be inherently unethical because there is no harm. Put another way, the design itself is harmful because it depicts how gain can compromise duty.   
Therefore, Thomas Rohback was right, I believe, in saying that a director who has an investment firm should not even trade in the stock or bonds of the director’s company. The question of whether the 10b5-1 plan is sufficient to obviate insider-trading would be moot if directors took Rohback’s advice to heart. Ethically speaking, it is better to sacrifice a bit on one’s financial gain than to be associated with a picture whose foreground has gain deciding whether to take a bite out of duty, or to actually take that bite.


Susan Pulliam and Rob Barry, “Directors Take Shelter inTrading Plans,” The Wall Street Journal, April 25, 2013.

Susan Pulliam, Rob Barry, and Scott Patterson, “Insider-Training Probe Trains Lens on Boards,” The Wall Street Journal, April 30, 2013.


Wednesday, April 24, 2013

China’s Yuan To Be More Market-Driven

According to the Wall Street Journal, “China's central bank plans to widen the yuan's trading band in the near future, People's Bank of China Vice Governor Yi Gang said  . . . , suggesting that China's leaders will press ahead with change despite the surprise slowing of the economy. ’The exchange rate is going to be more market-oriented,’ Yi said on a panel at the International Monetary Fund’s 2013 spring meetings in Washington. ‘I think in the near future we are going to increase the floating band even further’.” The yuan had risen 0.9% against the US dollar since the beginning of the year, and 1% the previous year. With exports becoming more expensive as a result, the Wall Street Journal reported in April 2013, “China's economic growth slowed to 7.7% in the first quarter, year-over-year, down from 7.9% in the last quarter of 2012. That was well below expectations, leading to questions of whether leaders would continue to press ahead on fundamental economic change, or pull back to help struggling companies. Mr. Yi's comments are an early indication that China will continue to focus on market-oriented reform even if that might make it tougher for exporters who would prefer a cheaper yuan.” The implications are more profound than merely shrinking exports.
                                    The yuan in 2011. The steadily rising value suggests that the market viewed the currency as being undervalued. 
With labor costs steadily rising in China and the rising prices of crude oil making shipping half way around the world more expensive, some American corporations began to reassess manufacturing domestically. A trend in this direction would reduce American unemployment, and thus the U.S. budget deficits as there would be less demand for unemployment compensation and food-stamps and more tax revenue. It is not as though it could be expected that everyone in the U.S. would participate in a “non-manufacturing” knowledge economy. To reach full employment, an economy must be diversified and thus able to tap into the various types of labor. It is not as though people are clones, having the same aptitudes.
In the U.S., the unemployed would stand to gain while discount store customers would lose the once-cheap Chinese imports. That is to say, a rising yuan is not entirely in Americans’ interest, financially. On the other side of the world, a rising currency is not necessarily contrary to China’s economic interests. In order to move to a more viable economy, the Chinese government had been urging more domestic demand so the economy would not be so dependent on exports. A recession in the U.S. and E.U. could mean a major downturn in an exports-oriented Chinese economy.
From a big-picture perspective, balance or equilibrium in the global economy is in everyone’s financial interest. Keeping a currency artificially low is like a dam keeping waters from reaching a balance. The pressure from the held-up water can be expected to destabilize the global economy. China’s policy to gradually let the yuan’s value be market-determined is thus a prudent step.

Natasha Brereton-Fukui and Bob Davis, “China Vows Wider Yuan Movement,” The Wall Street Journal, April 17, 2013.

Monday, April 22, 2013

The E.U. as Peace-Maker: Bringing in Serbia and Kosovo

Serbia and Kosovo reached an agreement on April 19, 2013 bearing on how much autonomy Kosovo would allow Serb cities in return Serbia’s recognition of Kosovo’s remaining authority in the cities. Kosovo had seceded from Serbia in 2008, and the ensuing conflict kept both states from joining the European Union. As it turned out, the prospect of accession gave both Serbia and Kosovo enough incentive to reach an agreement. Indeed, only a few days after the agreement had been reached, the governments of Serbia and Kosovo approved it. Such swiftness indicates how strong of an incentive accession can be for belligerent republics in Europe. The E.U.’s deployment of this “carrot” is fully in line with the main objective of the European Union: to prevent war in Europe. According to the New York Times, the accord is thus “an important victory” for the E.U.

In the wake of World War II, the European Coal and Steel Cooperative was formed in order to keep an eye on Germany’s use of iron, should the Germans seek to re-militarize. The EEC was also formed to obviate war in Europe, and the E.U. inherited this central aim. Accordingly, it is fitting and proper that, as Kosovo’s deputy minister of foreign affairs, Petrit Selimi put it, “The incentive of joining the E.U. played a huge role in clinching an agreement.” The E.U. thus played a role in forging greater peace in Europe. In fact, the negotiations took place in Brussels, according to Catherine Ashton, the E.U.’s secretary of state. “It is very important,” she told reporters, “that now what we are seeing is a step away from the past and, for both [Kosovo and Serbia], a step closer to Europe.” Days after the agreement was signed, the European Commission recommended to the European Council  that talks start on Serbia’s accession. Belgrade had “taken very significant steps and sustainable improvement in relations with Kosovo,” the Commission announced. The Commission also noted that as Kosovo had met all its “short-term priorities,” talks toward a Stabilization and Association Agreement, a precursor to Kosovo gaining statehood, should commence.

Bringing both Serbia and Kosovo into the Union would represent a more permanent means of forestalling war in Europe. As this depends too on how much power the E.U. has in reconciling conflicts between the states, giving the federal government sufficient competencies in this regard would also represent a step toward sustained peace in Europe. While the prospect of accession has been shown to be enough of an incentive for a meaningful agreement to be reached, better still is the incorporation of trouble spots into the European Union, where more pressure can be brought to bear on any bellicose states such that any nascent conflicts between them can be peaceably resolved. Indeed, the E.U.’s competency, or enumerated power, to remove state obstacles to a common market is in part geared to forestalling potential conflict between discriminating states. This is also a reason behind the interstate commerce clause in the American system.

Lest a fixation on any of the contemporary crises hitting the E.U. inculcates a pessimism that is destructive to the Union and thus ruinous to its more basic purposes, it should be helpful to keep an eye raised to one of those fundamental aims of the project. Given the two major wars in Europe during the first half of the twentieth century, it is wise to keep perspective regarding the role of the E.U., both directly and indirectly, in obviating war.


Dan Bilefsky, “Serbia and Kosovo Reach Agreement on Power-Sharing,” The New York Times, April 20, 2013.

Vanessa Mock and Gordon Fairclough, “Serbia Ready for EU Accession Talks,” The Wall Street Journal, April 22, 2013.

Sunday, April 21, 2013

Britain Challenges the E.U.’s Financial Transactions Tax

In April 2013, the state of Britain mounted a legal challenge at the European Court of Justice against E.U. financial transactions tax (FTT) going into effect in eleven other states. The way in which the challenge was depicted by state officials in Britain suggests that the real challenge was not just to more European integration, but also to the E.U. itself.
The full essay is at "Essays on the E.U. Political Economy," available at Amazon.