Making It Worse?

The big news of the day is that the U.S. unemployment rate rose to 8.1% in February. Obviously not a great help to the confidence of the economy itself, but I wonder how much bigger of a blow the ultra-specific information we can now get on layoffs strikes. Even if the unemployment rate was widely disseminated during past recessions, people didn't have the chance to read about all day on the Internet or watch talking heads rant about it all day on a 24-hour cable TV channel. Not to mention the impact the Internet has had in giving us details about layoffs in every niche, whether its Above the Law reporting about job cuts at law firms before they happen or someone on sportsjournalists.com starting a thread about the latest newspaper to trim its staff. These sorts of layoffs certainly happened during past economic downturns, but I have to imagine the fact people can actually read about them is only helping to make things worse.

The Benefits of a Recession?

Phish's members have decided its their duty as good citizens to reunite. From the New York Times:

As a longtime fan of Depression-era swing bands, he has been thinking about Phish’s role in the current recession. “For people in hard times, we can play long shows of pure physical pleasure,” he said. “They come to dance and forget their troubles. It’s like a service commitment.”

Hey, who knows, maybe this will help the economy out. Demand for tickets is high (Being resold for $1000+). And they've put some lawyers to work. I'm sure this will also increase sales of tie-dyed shirts, hackysacks, and acid*.

* I kid. I actually kind of like Phish.

Fight For Your Share(holders') Rights

The Wall Street Journal wrote a great story yesterday detailing the compensation Merrill Lynch handed some of its employees ahead of its merger with Bank of America. All together, 160 employees made more than $3 million -- 11 of those over $10 million -- despite Merrill losing $27.6 billion for shareholders. Given Merrill’s performance last year, I found most of these payments rephrehensible. But the stonewalling Bank of America has done refusing to reveal the compensation levels is equally outrageous.

Mr. Cuomo is examining the Merrill bonuses to determine whether the firm violated any securities laws related to public disclosure. Bank of America is expected to file a motion on Wednesday in New York State Supreme Court to keep the compensation data from becoming public. Next week, Mr. Cuomo intends to make his case that the data shouldn't be kept confidential. A judge is expected to rule on March 13.

"Merrill Lynch was an independent company for the three-year period covered, and made the decisions on compensation," said a spokesman for Bank of America. "Bank of America continues to be concerned about the right of privacy of any employee."

 (Also take note of the cowardly BoA spokesman who likely told the reporter not to use his name.)

As a taxpayer, I’m entitled to know what my town and state pay their employees. Through a simple database search, I can find out the salary of every Verona employee, from our town manager (who makes $164,008) to a new teacher at my elementary school (who makes $46,245 ). As a shareholder of a company*, why shouldn’t I be given these same privileges? After all, as an owner of a company, these people are my employees. They work for me. Don't I deserve to know how much I'm paying them? 

The board of directors at these firms failed during the last crisis. Shareholders must stand up for their own rights to help us prevent the next one.

*I don't actually own any Bank of America stock, I'm just speaking generally

The Gordon Shumway (aka TALF)

If hadn't seen it, the U.S. government has taken extra steps to help out the market for asset-backed securities through its Term Asset-Backed Securities Loan Facility, or TALF. From the WSJ today:

The U.S. launched a program to finance up to $1 trillion in new lending to consumers and businesses, in an ambitious attempt to jump-start credit for everything from car loans to equipment leases.

The Federal Reserve and the Treasury Department hope to revive the moribund market for so-called securitized lending, which until last year was central to providing consumer and business loans. Starting March 17, large investors -- including hedge funds and private-equity firms -- can obtain cheap credit from the Fed and use the money to buy newly issued securities backed by such loans.


The Fed, which announced the program's outlines in November in tandem with the Treasury, had already expanded the size of the program and on Tuesday further expanded its targets. Originally limited to backing securities for consumer and small-business loans, it now will also target securitized loans for heavy industrial equipment, agricultural-equipment leases and rental-car fleets. And the central bank sweetened some terms to draw investors and debt issuers. For instance, participants won't have to adhere to limits on executive compensation that apply to banks that accept bailout government money. Such restrictions were originally planned for some participants.

A few thoughts:

• Despite their role in the current crisis, asset-backed securities are not, in and of themselves, a horrible financial instrument. They, in theory, should allow borrowers to take advantage of lower interest rates by efficiently distributing the risks of the loans. But because they allow the originator of the loan to sell off the risk of holding it, they create an incentive for lenders to lower their underwriting standards. Only triple-A securities will be eligible for Fed funding, but given the rating agencies' recent performance in this area, I'd want a some more restrictions in place if I were the government.
  
• Unfortunately, I'm not sure how much this will actually help the economy. Is lack of available credit really the reason people aren't spending money? People are petrified about the economy right now. I don't think they're as worried about being able to make a 3% car payment instead of a 4% car payment as they are about losing their job and not being able to make any car payment at all. But maybe the extension beyond consumers will help.
  
• A side benefit to this is it could help out some investment bankers and lawyers that don't have much to do these days. As the chart below shows, issuance fell dramatically last year. That's a lot of lost fees.
  

What a Lame Bunch of (Counter)parties

The U.S. government earlier this week injected another $30 billion into American International Group as part of its ongoing bailout of the firm. As people many people have said, this is more a bailout of AIG's counterparties than AIG. I'm sure if you asked many of those counterparties why they were willing to buy so many credit-default swaps from AIG in the first place, they would tell you that AIG was triple-A, no one could have expected the credit crisis, and so on. I'm not buying it as a good excuse.

As Joe Norcera pointed out in a great column Saturday, AIG essentially sold its triple-A rating to others. But even before the credit crisis, how safe was that triple-A rating anyway? If the study I found is any indication, not very.

In 1989, Moody's rated 24 banks* Aaa, according to a study by Bankim Chadha and David Folkerts-Landau I found in Martin S. Feldstein's International Capital Flows. By 1996, just three banks retained that top rating. Just one -- Rabobank of the Netherlands -- had triple-A marks from all three agencies.

I actually heard a person I considered a fairly astute observer of the financial markets say a few weeks ago that one of the lessons of the current crisis is that counterparty risks actually exist. It seems to me, though, that in some ways, this data would suggest we already had proof that it did.

*Not a perfect substitute for AIG, but as large financial institutions close enough if you ask me.

Dow Jones-ing For Some Good News

Source: Bloomberg

Watching the Dow Jones Industrial Average index move and up and down minute-by-minute in such volatile times is no doubt a good way to make your head explode. Trying to peg every twist and turn to some bit of news, such as a every time a deputy Treasury Secretary (if we even have any of those) picks his nose, is pretty silly if you ask me. After all, it's just an index of 30 stocks that has become even more distorted in the current crisis.

Unfortunately, though, as a Wall Street Journal story today points out, the stock market don't just reflect the economy -- it can actually impact it.

Even for families who don't have any skin in the stock market -- that's about half of the country -- stocks matter. A 1999 paper by Federal Reserve economist Maria Ward Otoo found that changes in stock prices affected the confidence of households surveyed for the University of Michigan's consumer-sentiment index whether or not they owned stocks. She concluded that consumers use the stock market as an indicator of where their wages are headed.

The stock market also influences corporate behavior. In a speech last month, former Fed Chairman Alan Greenspan related how in the late 1950s he found that changes in stock prices led to changes in companies' machinery orders. He recently updated the analysis and found that the relationship between stocks and corporate spending on equipment continues to hold.

"A recovery of the equity market driven largely by a receding of fear may well be a seminal turning point of the current crisis," he said. "The key issue, of course, is when."

As I said the other day, it's important that people regain confidence to get us out of this mess. Bad days in the stock market help perpuatate a negative feedback loop, in which people get even more nervous, spend less, leading to more layoffs, which makes people even more nervous, and so on. So on that note, seeing today's DJIA down 300.11 points sure doesn't help us.

A New Cash Crop?

As economic conditions worsen, California State assemblyman Tom Ammiano, among others, has suggested his state could raise as much as $1.3 billion if it legalizes marijuana and taxes it. This, of course, is not a new argument. Unfortunately, no matter your views on drug legalization, it's still a silly one.

Taxes don't magically create wealth for the government, they just transfer it from consumers and producers.* There's not no benefit to society from a tax. If the government's goal is revenue generation, there's no better reason to legalize drugs to tax them than there is to just tax things people can already do, such as buying bubble gum or potato chips. For that matter, there are plenty of other currently illegal things you could justify legalizing by using the the rationale that we could raise money by taxing people that want to do them. So, while we certainly could raise money by legalizing drugs, it's not really a reason in and of itself -- economically speaking, at least -- we should do it.**


*And leads to deadweight losses.
** If you're interested in reading more, Steven Landsburg goes over a comphrensive cost-benefit analysis of legalizing drugs in his book Armchair Economist: Economics of Everyday Life.