Monday, November 30, 2009

Obama isn't the only one who has lost his way

In an article in the Financial Times (, economist Jeffrey Sachs of Columbia University says that "Obama has lost his way on jobs". Sachs states that the Obama solution is a Keynesian approach which focuses on consumer spending. He notes that consumer and investment demands are too low for full employment. As he states, the administration has "gone about this with a combination of near-zero interest rates, massive Fed financing of mortgages and various consumption incentives, such as rebates for new home buyers and cash for clunkers." I presume he means federal financing of mortgages since the Fed hasn't stooped to that yet. Sachs must think that these are permanent states and he may be right since the administration's policies have been job and investment killers. He also finds the Republican solution of lower taxes to be lacking. The reason is interesting. It is that the amount of money that the federal government collects in taxes only covers the outlays on social security, medicare, medicaid, veterans benefits, defense and interest on the debt. All the other expenditures are financed on borrowed money. He contends that this results in critical areas (all the rest of the budget) being critically underfunded. Therefore a tax cut is impractical. Note that it is reasonable to assume that an increase in taxes would mean that his critical areas would be better funded but the increase in taxation would discourage investment rather than encourage it as he contends. His solution calls for three parts. First, promote greater exports through dollar depreciation. This is astounding since it is precisely what the Bush administration and the Obama administration have been doing. This has led to capital flight from the United States and slowed business investment domestically. Sachs should know this but apparently doesn't. Second, is a "massive expansion of education spending and job training." Well this country has done exactly that over the past three decades. What Sachs wants is even more spending. Instead he should insist that what is spent is spent to achieve the objectives of increasing education and increasing skill levels. We spend enough now. We don't spend it wisely. If the money were spend on schools that work like charter schools or Catholic schools rather than public schools, then we could achieve better results. Third, he favors a spurring of investment in "areas of high social return that are currently blocked by the lack of clear policies. The conversion to a low-carbon economy would create jobs in the short run, a more productive economy in the medium run and US technological leadership in the longer run." Where to begin? One, most studies have shown that "green" jobs are not sustainable and do not provide a long run boost in employment. Two, there is absolutely no evidence that conversion to low-carbon technology is more productive. Rather, most studies show just the opposite - that low carbon technology is higher cost and less productive. Three, US technological superiority stems from the US economic system being profit based rather than government subsidized. Sachs has obviously bought the global warming kool aid and his solutions follow from that. However, when viewed from my perspective, Obama is not the only one who has lost his way.

Monday, November 23, 2009

So what was left out?

Washington Wire
Political Insight and Analysis From The Wall Street Journal's Capital Bureau

President Barack Obama on Wednesday described his proposals as a “sweeping overhaul of the financial regulatory system” on a scale not seen since the Great Depression. The official White House document, titled “A New Foundation: Rebuilding Financial Supervision and Regulation,” runs 89 pages in length. Washington Wire condensed the full proposal to a more manageable series of bullet points.

For the regulation of financial firms, the proposal:

Creates Financial Services Oversight Council, which would coordinate activities among regulators, replacing the President’s Working Group.
Ensures that any financial firm big enough to pose a risk to the financial system would be heavily regulated by the Federal Reserve, including regular stress tests.
Says the Fed will have to “fundamentally adjust” its current supervision to more closely watch for systemic risks.
Allows the Fed to collect reports from all U.S. financial firms that meet “certain minimum size thresholds.”
Gives the Fed oversight over parent companies and all subsidiaries, including unregulated units and those based overseas.
Says the Treasury will re-examine capital standards for banks and bank-holding companies.
Tells regulators to issue guidelines on executive compensation, with the goal of aligning pay with long-term shareholder value, including a re-examination of the utility of golden parachutes.
Creates a new bank agency, the National Bank Supervisor, and kills the Office of Thrift Supervision. The new agency will look over national banks, including federal branches and agencies of foreign banks.
Forces industrial banks, non-bank financial firms and credit-card banks to become more traditional bank holding companies subject to federal oversight.
Kills the SEC program that supervised Wall Street investment banks.
Requires hedge funds, private-equity funds and venture-capital funds to register with the SEC, allowing the agency to collect data from the firms.
Subjects hedge funds to new requirements in areas such as record keeping, disclosure and reporting. The oversight would include assets under management, borrowings, off-balance sheet exposures.
Urges the SEC to give directors of money-market mutual funds the power to suspend redemptions, and take other action to strengthen regulation of money-market mutual funds to prevent runs.
Beefs up oversight of insurance by creating an office within the Treasury to coordinate information and policy.
Kicks off a process by which the Treasury and the Department of Housing and Urban Development will figure out the future of mortgage giants Fannie Mae, Freddie Mac and the federal home-loan banks, which could include winding them down, returning them to the private sector or refashioning them as public utilities.
For the regulation of financial markets, the proposal:

Brings the markets for over-the-counter derivatives and asset-backed securities into a regulatory framework, strengthens regulation of derivatives dealers and forces trades to be executed through public counterparties, such as exchanges
Toughens the regulatory regime, including more conservative capital requirements and tougher rules on counterparty credit exposure.
Strengthens laws designed to protect “unsophisticated parties” from trading derivatives “inappropriately.”
Gives the Fed more power over the infrastructure that governs these markets, such as payment and settlement systems.
Harmonizes the powers and authority of the SEC and CFTC to avoid conflicting rules relating to the same products or time-wasting turf battles over who should regulate what.
Tells the SEC and the CFTC to deliver a progress report by September.
Requires that originators, for example, mortgage brokers, should retain some economic interest in securitized products.
Directs regulators to “align” participants’ compensation with the long-term performance of underlying loans.
Urges the SEC to continue its efforts to improve the transparency and standardization of securitization markets and recommends the SEC have clear authority to require reporting from issuers of asset-back securities.
Urges the SEC to strengthen its regulation of credit-rating firms, including disclosing conflicts of interest, better differentiating between structured and unstructured debt and more clearly stating the risks of financial products.
Tells regulators to reduce their reliance on credit-rating firms.
For regulations protecting consumers and investors, the proposal:

Creates a new agency, the Consumer Financial Protection Agency, with broad authority over consumer-oriented financial products, such as mortgages and credit cards. The new agency would work with state regulators.
Gives the new agency power to write rules and levy fines based on a wide range of existing statutes.
Proposes new authority for the Federal Trade Commission over the banking sector, in areas such as data security.
Creates an outside advisory panel to keep an eye on emerging industry practices.
Says the new agency should play “a leading role” in educating consumers about finance.
Gives the new agency authority to ban or restrict mandatory arbitration clauses.
Improves transparency of consumer products and services disclosures.
Says the new regulator should have authority to define standards for simple “plain vanilla” products, such as mortgages, which would have to be offered “prominently” by companies.
Proposes the government “do more” to promote these simple products.
Beefs up the agency’s power to regulate unfair, deceptive or abusive practices.
Imposes “duties of care” that will have to be followed by financial intermediaries, such as stock brokers and financial advisers.
Regulates overdraft protection plans, treating them more like credit credit-card cash advances.
Promotes access to credit in line with community investment objectives.
Strengthens SEC’s framework for investor protection by expanding the agency’s powers to beef up disclosures to investors, establish a fiduciary duty for broker-dealers who offer advice and expand protection for whistleblowers, including a fund that would pay for certain information.
Requires non-binding shareholder votes on executive compensation packages.
Requires certain employers to offer an “automatic IRA plan” for employee retirement, with investment choices prescribed by regulation or statute.
Urges exploration of ways to improve participation in 401(k) retirement plans

To give the government more tools to manage crises, the proposal:

Creates a mechanism that allows the government to take over and unwind large, failing financial institutions.
Creates a formal process for deciding when to invoke this power, which could be initiated by the Treasury, Fed, FDIC or SEC.
Gives authority to make the final decision to the Treasury, with the backing of other regulators.
Gives the Treasury the authority to decide how to fix such a failing firm, whether through a conservatorship, receivership or some other method.
Taps the FDIC to act as conservator or receiver, except in the case of broker dealers or securities firms, in which case the SEC would take over.
Amends the Fed’s emergency lending powers to require prior written approval by the Treasury Secretary.

In the international sphere, the proposal:

Recommends international regulators strengthen their definition of regulatory capital to improve the quality, quantity, and international consistency of capital.
Recommends that various international bodies implement the Group of 20 recommendations, including requiring banks to hold more capital in good times to protect against downturns.
Urges that national authorities standardize oversight of credit derivatives and markets.
Recommends national authorities improve cooperation on supervision of globally interconnected financial firms.
Recommends regulators improve the way firms are unwound when they straddle borders.
Recommends strengthening the Financial Stability Board.
Urges other countries to follow the U.S. lead and: subject systemically significant companies to stricter oversight; expand regulation of hedge funds; review compensation practices; tighten rules governing credit-rating firms.

Monday, November 2, 2009

Economists have it all wrong

From the Knoxville News-Sentinel November 1, 2009

I read somewhere that 80 percent of economists polled said the recession was over. Experience tells us that if 80 percent of economists agree on something, then they are wrong. Remember when these same economists said that the passage of the stimulus bill would keep unemployment below 8 percent? When have you ever heard it reported that "the results are what economists had predicted?" Never.

Instead, it's "the results are different than what economists had forecast." The obvious conclusion is that the recession is not over.

When asked to explain the dismal employment picture, we are told that this is a "jobless recovery." This is an oxymoron and the last five letters aptly describe those who utter it. There is no such thing as a "jobless recovery." The economy recovers when people go back to work.

What is transpiring now is that businesses are reluctant to hire back workers even with an uptick in demand. It is costly to hire workers and is cheaper to pay current employees overtime. More workers won't be hired until employers are confident that the recovery is not temporary. Employers also are uncertain about the future because of the potential job-killing likelihood embodied in cap-and-trade, some of the proposals bandied about in health care reform, the increase in the minimum wage and increases in marginal tax rates.

I wrote on these pages that the increase in the minimum wage would increase unemployment among those who are paid the minimum wage. So tell black male teenagers that the increase in the minimum wage has made them better off when their unemployment rates increased from 39 percent to 50 percent since its implementation.

One well-known economist in the Obama administration said the stimulus package has created 30,000 jobs. Really? Are they permanent ones? Do they offset the job loss just in the month of August, where large businesses laid off 60,000 workers, medium-sized businesses cut 116,000 jobs and small businesses cut 122,000 jobs?

I know the Obama administration has brought back the Jimmy Carter idea of a $3,000 tax credit to create jobs. But it is doubtful that this will have any impact since the tax credit is only $3,000 for the first year and disappears after the third year. If businesses hire, it will be mainly temporary workers until it is certain that the recovery has some permanence.

So what is to be done? First, the administration should acknowledge that the engine of job creation lies in small business. Small businesses employ 48 million people. Medium-sized businesses employ 42 million and large businesses employ only 17 million. Yet the administration seems to favor large businesses over smaller enterprises.

If the problem is uncertainty, then the administration should remove the uncertain future burdens inherent in its proposals. It should remove some of the costly burdens on business - especially small businesses - from the health care legislation. It should kill cap-and-trade. It should repeal minimum wages. It should keep the Bush tax cuts and not raise marginal personal tax rates. It should drastically cut the payroll tax. Then we will see a strong recovery along with declines in the unemployment rate.

Dr. Harold Black is the James F. Smith Jr. Professor of Finance at the University of Tennessee. He can be reached at

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What in the world is the Fed doing?

Coupled with the pay czar Ken Feinberg's capping executive pay at TARP banks at $500,000 the Fed has weighed in with its own pay plans. The Fed says that it is within its rule-making authority to review and regulate pay packages that threaten the solvency of those it regulates. Although many will say that the Fed is overstepping its authority, in the past the courts have granted it wide latitude in its rule making. This is not unprecedented. When I was at the National Credit Union Administration, we forced some credit unions that based their incentive pay on growth in size to alter those incentives. Naturally, such a package would encourage growth in size which may also encourage increased risk taking. Thus, so long as the Fed adheres to evaluating plans and their impact on risk, I have no problem with what the Fed is doing. Note I did not say that the Fed should determine the salaries. I did not say that the Fed should cap salaries. Those are beyond the purview of the Fed because the Fed does not have a clue as to what those salaries should be. However, I actually believe that all of this is just the Fed showboating. Bernanke has been nominated but will not be confirmed until January. Research has shown that the Fed generally accommodates the administration until the chairman is reconfirmed by the Senate. Since the president hates profits (just listen to his words) and thinks executives are overpaid (again listen to his words) then the Bernanke is going to do all that he can to show he is one of the team - until he is confirmed. Then I expect him to do what all Fed chairmen have done under the same circumstances. That is grow a set, become independent, do what really is best for the economy and hope for a one term president.