Ohio AG Takes On Ratings Agencies

November 20th, 2009 - 1 Comment

“The attorney general of Ohio sued the country’s largest credit rating agencies on Friday, alleging that they had cost state retirement funds some $457 million by approving high-risk Wall Street securities that went bust in the financial collapse,” The New York Times reports. The paper quotes Ohio Attorney General Richard Cordray as saying: “We believe that the credit rating agencies, in exchange for fees, departed from their objective, neutral role as arbiters. At minimum, they were aiding and abetting misconduct by issuers.”

Writing in 2007 for his column on SmartPros.net, Smeal’s Edward Ketz addressed this conflict of interest between rating agencies and the companies they’re supposed to be objectively rating:

Moody’s and the other agencies make money by charging the business entities who are issuing debt.  It doesn’t take a genius to see the conflict of interest.  The credit agencies lean on the issuer for more money or they risk receiving a poor rating.  Payment not only entitles one to a good rating, but also it gives one the privilege of not receiving a downgrade unless bad news becomes public.

… Policy-makers can reduce the problems by reducing the very real conflict of interests that perniciously raises its ugly head from time to time.  The solution is to prohibit credit rating agencies to receive any funds from the issuers.  If the ratings have any merit, then investors will be willing to pay for them.

Tags: Banking, Business Law, Economic Crisis, Ketz

Cuba Policy Needs Updated

November 19th, 2009 - No Comments

The House Foreign Affairs Committee held a hearing today on the federal ban on travel to Cuba. Supporters of the ban claim that allowing U.S. citizens to travel to Cuba would only serve to line the  pockets of Fidel and Raúl Castro, while opponents argue that the ban is an antiquated and failed policy experiment that infringes on the liberties of U.S. citizens.

Smeal’s Terrence Guay agrees with the latter:

U.S. policy toward Cuba is outdated. We have had travel, trade, and investment bans against Cuba for almost 50 years, and they have not achieved their intended purpose—to make the Cuban government more democratic. Economic sanctions usually don’t work unless a large number of countries participate in the process.  But that is not the case with Cuba, where the United States is the only country in the world enforcing sanctions. 

Certainly, Cuba challenged U.S. foreign policy interests during the Cold War, and it would be nice if it were more democratic today.  But the United States allows companies to trade with and invest in dozens of authoritarian countries around the world (China being the most prominent example), and U.S. citizens do not face similar travel restrictions by our own government to other locations.

The policy hurts U.S. interests at two levels.  Economically, it gives companies from other countries (e.g., in Europe and Asia) an advantage over U.S. firms because they can do business in Cuba. Politically, it makes the United States look silly to the rest of the world, particularly in Latin America where the U.S. has important strategic, political, and economic interests.  It would be great to see Congress and President Obama lift not just the travel ban, but all U.S. sanctions toward Cuba.  After all, the belief that economic engagement can lead to political reform has shaped U.S. relations with other countries around the world.  Unfortunately, such a radical shift of policy will be difficult to pull off, even 20 years after the end of the Cold War.

Tags: Globalization, Guay, International Relations, Politics

Applied Ideas Should Be Patentable

November 16th, 2009 - No Comments

The U.S. Supreme Court heard oral arguments last week in the case Bilski v. Kappos, in which Bernard Bilski and Rand Warsaw are appealing a decision by the U.S. Patent and Trademark Office to deny them a patent for a “business method.” Bilski and Warsaw applied  to patent their method of hedging energy prices for weather-related risks, but the Patent Office denied the application by citing previous court rulings stating that patentable processes must involve “a particular machine or apparatus” or transform “a particular article into a different state or thing.”

Smeal’s Daniel Cahoy signed onto an amicus brief filed in the case, which calls upon the court to reject limiting patentable innovations to those involving machines or material transformation, but stops short of supporting Bilski and Warsaw.

From the brief:

This court should reaffirm its precedent allowing the patentability of “anything under the sun that is made by man,” subject to the well-established exceptions incorporated by the abstract idea, law of nature, and natural phenomenon doctrines. Where an idea is claimed as applied, it is eligible for patentability, but if it is claimed merely in the abstract, it is not.

 This test provides ample basis to weed out those patents that attempt to mark not a practical application but instead a fundamental principle, such as the patent at issue in this case. Bilski and Warsaw claim a broad principle of doing business, without tying it to any specific application. For this reason, their claims are merely “abstract ideas” and should be unpatentable. But this court should take care not to sweep away protection for true innovations in an effort to prevent the grant of a patent in this case.

Tags: Business Law, Cahoy

Smart Grid: Smart

November 13th, 2009 - No Comments

President Obama recently announced that Washington will spend $3.4 billion dollars of federal stimulus funds to modernize the nation’s power grid, indentifying 100 projects to make the grid smarter and more efficient. “The aim of the projects, officials said, includes placing ‘smart’ electric meters in homes, automating utility substations, and installing thousands of digital transformers and grid sensors,” The New York Times reports.

According to Smeal’s Gerald Susman, executive director of the college’s Sustainability Council, the nation’s power grid is in need of a major upgrade so that consumers can fully utilize alternative sources of electricity and do so more efficiently:

A new, smarter U.S. power grid is necessary if the country is serious about moving toward reliance on alternative, renewable energy sources like solar and wind.

Intermittency is one of the biggest obstacles facing solar and wind energy. If there is no wind, then there is no electricity. Likewise, it’s impossible to create solar energy at night and it’s less efficient on cloudy days. To bring more solar and wind power into the fold, better technologies must be developed to enable the grid to store this green electricity for later use. In the meantime, a smart grid will be able to anticipate disruptions in wind and solar energy and automatically bring other sources of energy online.

Another important component of this plan is that it gives consumers the information to make smarter energy choices at home. The expansion of time-of-use meters and variable rates will allow consumers to use electricity in ways that make economic and environmental sense. If it costs 15 cents per kilowatt-hour to run a clothes dryer during peak times when energy use is at its highest, but costs half of that to run it at night, consumers will inevitably start making better consumption decisions.

Ultimately, the current grid must be improved to eliminate the disruptions between where and how energy is created and used. Given the scope and complexities of the national grid, it would be nearly impossible to rely solely on individual companies and grid owners to undertake such a modernization on their own. When you consider these complexities along with the economic and environmental boons of a smart grid, it makes sense for the government to subsidize this truly public project.

Tags: Politics, Susman, Sustainability, Utilities

Can Drug Advertising Backfire?

November 12th, 2009 - No Comments

The drug industry spends billions of dollars on advertising each year, but a recent BusinessWeek article claims they may be scaring consumers away. Smeal’s Lisa Bolton uses consumer lay theories to explain how consumers choose between Western medicine and its Eastern counterparts in her study, “Lay Theories of Medicine and a Healthy Lifestyle,” which was recently accepted at the Journal of Consumer Research. “Our findings add to the growing debate over the regulation of health marketing and the delivery of health care, the role of direct-to-consumer advertising, and marketing efforts to promote a healthy lifestyle,” says Bolton.

More from Bolton:

A recent BusinessWeek article describes the results of a research study that suggests patients rarely request drugs by name and concludes that direct-to-consumer (DTC) advertising may be ineffective, and even backfire, at pull-through in the physician’s office.

This study is probably going to get a bit of buzz since it flies in the face of a fair amount of managerial belief and research suggesting that DTC advertising (examining prescription sales rather than talk) is effective. But this article actually caught my eye because it dovetails with my research interests in several ways.

First, I am interested in consumer perceptions of the fairness of pricing. My co-authors and I find that consumers tend to think prices are unfair. I admit that’s not exactly a newsflash by itself! But the reasons why are a little more interesting, and drugs provide a classic illustration. First, consumers may compare (often rising) prices to past prices and when they do, they tend to underestimate inflation and judge prices as unfair. Second, consumers may consider competitor prices (like the price of drugs in other countries) and, as a result, tend to judge prices as unfair. And third, consumers may look inward to costs and, in this case, the promotional costs associated with a product (the “excessive marketing schemes” of drug companies, as Senator Franken calls it) are seen as unfair. In other words, all of the reference points that consumers use to judge price fairness work against drugs—which explains why consumers think drug prices are unfair. So can DTC advertising backfire as the article suggests? You bet.

Second, I am interested in “lay theories of medicine” that may affect consumer preference in the health care domain. In a series of experiments in the U.S., China, and India, my co-authors and I found that consumers utilize lay beliefs about diagnosis and treatment when forming remedy preferences. For example, consumers prefer Traditional Chinese Medicine (over Western medicine) when uncertain about the cause of an illness (i.e., diagnosis uncertainty) because a holistic medicine like TCM tolerates uncertainty better than Western medicine. In turn, these remedy preferences have important consequences for a healthy lifestyle. In our research, we find that Western medicine undermines healthy lifestyle intentions (why bother exercising and eating right? the drug will take care of the problem)—a so-called boomerang effect that does not occur for holistic remedies, like TCM and Ayurvedic Medicine.

For example, in some other research that I am conducting, my co-authors and I find that exposure to DTC advertising for a weight management drug boomerangs and gives consumers “license to lapse” and eat more high-fat foods. So, once again, can drug advertising backfire? You bet. But it can backfire on consumers, not just drug marketers!

Tags: Bolton, Drug Industry Advertising, Marketing

Regulating Energy Inefficient TVs

November 5th, 2009 - 3 Comments

BusinessWeek’s Cliff Edwards reports on California’s plan to regulate the sale of televisions that are not energy-efficient, leaving consumer electronic companies and retailers up in arms. “As early as Nov. 4, the state is expected to set new guidelines that would require retailers by 2011 to sell only sets that consume about a third less power than they do today,” writes Edwards. “Manufacturers and retailers say the new rules could force them to pull large-screen plasma TVs and many other models off store shelves.”

Smeal’s Dan Guide weighs in on the issue and how this impacts consumers:

California’s proposed rules mandating power consumption from TVs are an excellent example of good legislative intentions with bad outcomes for consumers. The bad outcomes are most likely to be increased prices for TVs and reduced choices for consumers in California. Is the real problem that energy prices are too low? If consumers are indifferent to an increase in their energy consumption then there is a strong possibility that sufficiently raising electricity rates will decrease consumption, but at a high societal cost (e.g., older people on fixed incomes unable to afford air conditioning and dying from heat stroke). Consider the impact of $4 or $5 a gallon gasoline prices on fuel-inefficient SUV sales as a recent case in point. Should refrigerators that consume ‘too much’ energy be banned? It seems a no-brainer for those of us with plenty of money, but energy efficiency comes at a price (a more expensive price tag) and we (hopefully) recover our investment in a reasonable period of time. However, if you are worried about paying for the food every week, then buying a more expensive, but energy efficient, refrigerator may be out the question.

The U.S. EPA’s Energy Star Program already rates TVs on power consumption and makes this information easily available via their website. This option allows consumers to vote with their wallets and if consumers don’t buy energy inefficient TVs, then manufacturers will stop selling them. The California commission claims that 38 million Californians would ‘double TV energy consumption’ by 2020. This claim assumes that manufacturers will do nothing to reduce the energy consumption of their future offerings. This isn’t likely since manufacturers have already made marked improvements in plasma TV energy consumption. It seems odd to single out a single luxury item for this type of legislation. What about flat panel monitors for computers?

A related question (that hasn’t been asked) is where the most energy is consumed during the product life cycle. For example, mobile phones and laptop computers sip energy during the use phase, but require enormous amounts of energy during the production phase. To make the problem worse, both of these products have very short life cycles before they are discarded in favor of the newest model (80 percent of Americans replace their mobile phone within a 12 month period). Recycling of both these products is problematic since there are so many mixed materials present. This is a much more difficult problem to address, but with a higher potential payout.

Tags: Energy-Efficient Products, Guide, Supply Chain, Sustainability

Pay Brain Drain?

November 4th, 2009 - 2 Comments

Pay czar Kenneth Feinberg acknowledged concerns on Monday that his mandated executive compensation cuts at bailed out firms may cause some talent to leave these firms for those not facing pay restrictions.

In his latest column, Smeal’s J. Edward Ketz questions this assumption that talented executives will jump ship:

I find it amusing to hear the arguments of bank managers and directors.  Their major complaint is that the administration’s cap on executive salaries will drive talent away.  That is such a self-centered argument!  If they cannot live comfortably on $500,000 per year, then I really feel sorry for them.

But wait—aren’t these the same guys who misunderstood the nature of the derivative instruments that their firms were dealing in?  And didn’t these managers make faulty decisions with respect to the housing market and counter-party risk?  In short, didn’t these executives bring their own firms to the brink of destruction?  Given the foolish and reckless behaviors of these managers, one has to ask what talent they are talking about.  If this is talent, let’s give some untalented people the chance the run these companies.  They couldn’t do worse.

Besides, where would these executives go?  Before these talented people leave their firms, they would desire other positions with salaries greater than $500,000.  I doubt that there are enough open positions that pay that much for so many executives.  The labor market is slim for this end of the pay spectrum.

And there are other people who could easily replace these businessmen and who could do a credible job.  For example, competent university presidents must have great managerial skills.  With a median salary of $427,400, some of them might be willing to accept the new challenges of running a bank.  And take a pay boost.

There are several legitimate concerns about Obama’s intervention into the pay of bank managers and others who accepted government bailouts.  But, concern over the flight of talent is not one of them.

Tags: Executive Compensation, Ketz, Politics

Non-Latin Web Domains

October 30th, 2009 - 2 Comments

“By the middle of next year, Internet surfers will be allowed to use Web addresses written completely in Chinese, Arabic, Korean, and other languages using non-Latin alphabets,” The New York Times reports. “In an action billed as one of the biggest changes in the Web’s history, the board of the Internet Corporation for Assigned Names and Numbers—or Icann—voted Friday during its annual meeting, held in Seoul, to allow such scripts in Internet addresses.”

Smeal’s John Jordan weighs in on the business implications and historical significance of this decision:

The expansion of the Internet domain name system from 37 Latin characters (26 letters, 10 digits, and a hyphen) to include character-based languages is a landmark event for the globalization of communications. More than 100,000 characters will eventually be added, so at one level the decision by Icann to accept the technical challenge (particularly, but not exclusively, at the level of the root name servers) is noteworthy. From a business standpoint, the decision marks a recognition of the growing importance of such character-based languages as Arabic, Chinese, Japanese, and Korean. Billions more people will be able to connect to the Internet using their native language and keyboards.

The decision raises a variety of fascinating questions. Given the rapid adoption of mobile Internet in the developing world, how will the availability of domain names in numerous character sets affect the design of smartphones for these markets? Given that Chinese relies on about 6,000 characters, for example, a RIM Blackberry-style keyboard would be difficult or impossible to implement.  On the marketing front, how will global brands adapt to the wider availability of non-Latin representation online? How will native-language Internet naming affect literacy efforts and measurements? How will a vastly multiplied character set affect security efforts?

At another level, the action is a splendid piece of historical timing: The first Internet message was sent 40 years ago this week, and the Netscape Navigator browser launched 15 years ago this month.  Predicting where the international, mobile Internet will be in even five years is impossible; coping with change of this magnitude at this speed is unprecedented in human experience.

Tags: Globalization, Jordan, Technology

Ten Rules for the New Real Estate Economy

October 29th, 2009 - 2 Comments

With the housing bubble burst and the real estate economy forever changed, Smeal’s Austin Jaffe recently outlined ten principles to consider regarding the new real estate market. From his post on the Pennsylvania Association of Realtors’ blog, Just Listed:

1. The valuation of homes will no longer be a function of the appreciation potential (or growth option) in house prices. We expect an extended period of no price appreciation.

2. In markets where appreciation was a primary selling point, prices have sunk the fastest and declined by the largest percentages. These markets were where speculative fever struck the hardest (e.g., Arizona, California, Nevada and Florida).

3. Mortgage interest deductibility has little, if anything, to do with the returns to owning housing since tax shelter benefits are already capitalized into prices. The opportunity to deduct mortgage interest is likely to have benefitted the initial owners when the tax law was implemented in 1917; subsequent buyers just passed along the premium built into the price.

4. In the next several years, the market for residential real estate will be based primarily on the housing services available to its owners. Housing is all about housing services once again rather than about chasing tax shelter benefits, capital gains and refinancing to free up new equity.

5. Supply constraints on location will remain important. Special locations will continue to be in demand.

6. The decision to purchase a home will be based upon household consumption expectations and needs which are provided by this long-term, depreciating consumer durable. Housing has always been a consumer durable.

7. The real estate business will live on and prosper in this new world since households will continue to spend large portions of their budgets on housing services. The market for housing will remain strong without the inflated financial parameters of the past decade.

8. The speculative fever and over-leveraging of housing budgets, especially by low- and moderate-income households, will largely be a remnant of the past. Easy availability of credit will settle in as  part of the history of the housing bubble.

9. If inflation and inflationary expectations are low, mortgage rates can be low. If economic growth is limited, mortgage rates can also be low. Historically low mortgage interest rates do not mean housing will be a good investment.

10. Over time, real estate prices will not likely change much but there will still be an active market for both new and existing housing stock. Housing will remain a major sector in the U.S.

Tags: Economy, Jaffe, Real Estate

If the Pope Invites, Will They Come?

October 23rd, 2009 - No Comments

“The Vatican announced a stunning decision Tuesday to make it easier for Anglicans to convert, reaching out to those who are disaffected by the election of women and gay bishops to join the Catholic Church’s conservative ranks,” The Associated Press reports. Smeal’s Glen Kreiner, who has conducted several studies on the organizational identity of the Episcopal Church, sees three ways this play out within the Anglican Church:

This week’s offer by the Pope to accept certain Anglican priests into the Catholic Church is an interesting and complicated turn of events.
 
First, and most readily apparent, is that it gives a certain subgroup of disaffected Anglican priests a place to go where they find themselves more “at home” with their beliefs.
 
Second, thinking with a longer-term view, it could provide added incentive for the global Anglican leadership to find palatable solutions for the conservatives in the Communion. Knowing that the Catholic option is on the table might make it even more important to have a viable, attractive option within the Communion.
 
Third, it should be noted that there would be considerable difficulties for the vast majority of Anglican priests to make this shift. Although conservative Anglicans find themselves aligned on many issues with Rome (e.g., homosexuality), there are many substantial issues of dissimilarity, especially that of authority—Anglicans are not accustomed to having a strong, central leader. Additionally, Anglicans cherish their history and identity, and a considerable aspect of that identity is blending elements of Catholicism and Protestantism rather than being one or the other.

Kreiner’s most recent research on the Episcopal Church has just been released as part of the church’s Around One Table initiative, which focuses on the main aspects of Episcopal identity, or what it means to be Episcopalian. Kreiner recently shared the results of another study with Smeal’s Research with Impact Web site. In this study, Kreiner explains how Episcopal priests manage work-life balance and what the rest of us can learn from them.

Tags: Kreiner, Organizations

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