Posts Tagged ‘Politics’

Cuba Policy Needs Updated

Thursday, November 19th, 2009

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U.S. policy toward Cuba is outdated.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
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Smart Grid: Smart

Friday, November 13th, 2009

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
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Pay Brain Drain?

Wednesday, November 4th, 2009

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
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Glass-Steagall Redux

Wednesday, October 21st, 2009

The New York Times reports today that former Fed Chair Paul Volcker’s call to forbid commercial banks from mixing with investment banks is falling on deaf ears within the Obama administration.  Volcker, head of the president’s Economic Recovery Advisory Board, believes keeping banks from owning and trading securities will keep them out of the trouble they have experienced in the current recession.

According to Smeal’s Jean Helwege, Volcker’s plan would likely make future economic crises less costly than this most recent one, however, it won’t keep the Fed from spending taxpayer dollars to bail out poorly run banks in the future.

More from Helwege:

Paul Volcker, former Federal Reserve chairman and adviser to President Obama, recommends that we go back to the good old days when commercial banks and investment banks were kept separate. The logic now, as it was in the 1930s when Glass-Steagall was enacted, is that investment banking is too risky a business to mix with consumer deposits. In a speech earlier this fall Volcker stated, “I do not think it reasonable that public money—taxpayer money—be indirectly available to support risk-prone capital market activities simply because they are housed within a commercial banking organization.” Volcker recognizes that his views are hardly “progressive,” noting that “people say I’m old-fashioned and banks can no longer be separated from nonbank activity.”  But he points out, “That argument brought us to where we are today.”

The $64,000 question is whether we would be where we are today had we pursued different regulatory policies leading up to this recession. Whatever the policies regarding mergers of banks and investment houses, we would have experienced a housing bubble and it would still have popped, bringing massive losses to homeowners across the nation and a retrenchment in homebuilding that would last years. Fannie Mae and Freddie Mac would still be in conservatorship, having overleveraged themselves to peddle the American dream of home ownership. Investors would still have lost money on mortgage-backed securities built on subprime mortgages. Those losses would still have led to concerns that safer mortgages might default, expanding the breadth of losses in the MBS market. We would be in a deep recession as a result of the housing downturn regardless of whether banking activities are segregated.

However, Volcker’s arguments are more geared toward preventing the next near-Great Depression and redefining the policy responses to such crises. If we still had Glass-Steagall, we would not have seen the merger of JPMorgan Chase (a bank) with Bear Stearns (an investment bank) in 2008, which might have prevented people from expecting a similar deal with Lehman and some other commercial bank and thus the fallout when Lehman was dropped like a stone from the list of firms “too big to fail.” If we still had Glass-Steagall, Goldman would never have decided to convert to a bank holding company and potentially would not have received the largesse it did. Nor would Bank of America have had its arm twisted into acquiring Merrill Lynch. Bringing back Glass-Steagall might bring us back to the days of more narrowly defined policy responses by the Federal Reserve. And it might mean that the next crisis will not be worse than today’s now that the investment banks are so strongly encased in the regulatory womb of the Federal Reserve.

Reinstating Glass-Steagall is a simple response to a complex issue.  While simple may be all we can swallow, it remains the case that the Federal Reserve has not been successful in striking a balance between helping out the economy and condoning bad behavior by financial firms.  The Fed identified AIG as strong enough to get a loan (i.e., the Fed was sure it would get paid back) and Lehman as incapable of repaying new funds. It deemed CIT too unimportant to deserve aid but was willing to help out the entire money market mutual fund industry. The Fed’s willingness to extend its hand to all manner of poorly run firms is a concern and Volcker’s efforts to rein in this independent agency may help, but unfortunately it’s more likely that the Fed will find another way to expand its role as lender of last resort regardless of whether we revert to Glass-Steagall.

Tags: Banking, Economic Crisis, Finance, Helwege, Politics
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Tax Credits for Hire

Monday, October 12th, 2009

An editorial in today’s Wall Street Journal takes aim at proposals floating in Washington to offer tax credits to firms that hire new empoyees. “One plan would grant a $3,000 tax credit to employers for each new hire in 2010,” according to the editorial. ”Under another, two-year plan, employers would receive a credit in the first year equal to 15.3 percent of the cost of adding a new worker, an amount that would be reduced to 10.2 percent in the second year and then phased out entirely.”

Smeal’s Charles Enis argues that these tax incentives, which were tried once in the late 1970s resulting in mixed reviews, are unfair to firms who resisted layoffs during the recession, essentially punishing them for keeping their employees working. By making the tax code even more complicated, however, the tax credits will likely succeed in creating some jobs—in tax accounting.

More from Enis:

Imagine buying a car and learning that you could have made the purchase a week later and received a generous rebate. Firms that resisted layoffs may have a similar sentiment if one of the proposed credits is enacted. These credits reward firms that increase the size of their workforce or add significant hours of work. Firms that laid off many workers will likely increase their hiring when the economy improves and thus benefit from the credit. What about firms that absorbed the cost of keeping excess people? What do they get?

The income tax regime is one of many policy tools available to combat economic difficulties. However, the tax code has been summoned to remedy virtually all of our problems (e.g., pollution, health care, energy, etc.). These well intentioned provisions have contributed to the complexity of a tax system described as “a national disgrace” as far back as President Carter.

The tax system as a policy tool raises cost-benefit dilemmas. Straightforward provisions result in benefits to unintended taxpayers at substantial costs to the Treasury relative to the economic goals achieved. Provisions targeted toward intended taxpayers must be laden with many complex features (e.g., phase-outs, caps, restrictions, uncertainties regarding extensions, etc.). Such features frustrate small businesses, which are important job creators. The jobs credit that was enacted for 1977-1978 had a mathematical specification too complex to explain in this short blog post. The former credit was tied to the federal unemployment tax regime, while the proposed credit is tied to the Social Security tax regime, and is likely to be even more complex after it is “tweaked” by political compromises.   

Whether the ’77-‘78 jobs credit was successful depends more on one’s political perspective then on evidence from rigorous economic analyses. The complexity and poor promotion of the ’77-’78 credit rendered the findings of traditional analyses tenuous and mixed. Economists believe that the new hires from the ’77-’78 credit were largely lower-skilled workers, which is not a bad thing. However, the tax code already contains the Work Opportunity Tax Credit, a provision aimed at encouraging businesses to hire individuals who are disadvantaged in the labor market. Is another credit really necessary or can the existing credit be updated?

The enactment of the proposed jobs credit will significantly increase the hours of work for tax practitioners, IRS personnel, tax form printers, HR departments, software writers, and hopefully many otherwise unemployed Americans.

Tags: Economic Crisis, Economy, Enis, Politics, Taxes, Unemployment
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Pay Czar Targets Pay

Wednesday, October 7th, 2009

The Wall Street Journal reports that “the Obama administration’s pay czar is planning to clamp down on compensation at firms receiving large sums of government aid by cutting annual cash salaries for many of the top employees under his authority.”

However, according to Smeal’s Tim Pollock, it’s going to take a cultural shift, not a government edict, to really rein in exorbitant CEO salaries:

The problems with executive compensation can’t be solved with regulation, or by a pay czar, because they are deeply embedded in the culture of Wall Street, in the case of financial services, and in the culture and belief systems of the executive suite and boardroom, more generally.

CEOs and senior executives, while always well compensated, were not always as lavishly compensated as they are today. What we see now largely began in the 80s when stock options began to be used more widely as a consequence of proscriptions derived from the logic of agency theory, which argues that executives will act in a risk averse and self-interested manner unless provided with incentives to behave otherwise.

The problems with stock options are that, unlike actual stock, which can go down in value as well as up, stock options can’t go below zero in value. And until recently they received favored accounting treatments that essentially made them a “free good”. As a consequence of the former problem, executives really face no downside risk from stock options. Thus, rather than take reasonable risks, they are more likely to take excessive risks because they bear no real costs from failure; they just might not (in theory) make any gains. However, even this rarely comes to pass, because boards swoop in to reprice the options, or to give the executives new grants at lower exercise prices, in order to keep them sufficiently “motivated.”

This problem was exacerbated by the Clinton administration’s well-meaning but disastrous attempt to limit executive pay by limiting  its tax deductibility unless it was tied to firm performance, which meant more stock options. Further, the favored-accounting treatment options received made them a cheap form of compensation, so it was easy for boards to load CEOs up with huge option grants that turned into phenomenal amounts of compensation in the 1990s’ bull market, which, by the way, raised all boats, even those of marginal and incompetent CEOs. Because it was easier to ascertain the value of an executive’s compensation package due to the new reporting requirements implemented in 1993, CEO pay packages could be compared to each other, and the executive pay arms race was off and running.

Today, the use of stock options, and the phenomenal levels of pay that CEOs, investment bankers, and traders receive, have become taken-for-granted parts of the corporate landscape. Restricting or modifying the pay of a few executives and firms by the government will not lead to a sustained change in pay practices,  and could lead to the poaching of the competent individuals left at the troubled firms by firms not bound by these restrictions. We’ve already seen that it’s business as usual again at most Wall Street firms.

Until executives feel real pressure from shareholders, and each other, to rein in pay, not much is going to change, I’m afraid. This isn’t going to happen as long as the mantra of “maximize shareholder value” (And what does this even mean? Over what time frame? In what way? If firms compete successfully in delivering the best products and services, won’t this happen anyway?) continues to drive decision making.

Tags: Economic Crisis, Executive Compensation, Politics, Pollock
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Iranian Revelations and Relations

Thursday, October 1st, 2009

Smeal’s Fariborz Ghadar appeared on public television’s “World Focus” recently to discuss Iran’s recently revealed uranium enrichment plant and its implications for today’s talks in Geneva on Tehran’s nuclear ambitions:

 

Tags: Ghadar, International Relations, Politics
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Feel-Good Regulations

Friday, September 18th, 2009

Speaking on Wall Street this week, President Obama renewed his call for a Consumer Financial Protection Agency to “make certain that consumers get information that is clear and concise, and to prevent the worst kinds of abuses” by financial institutions. Smeal’s Edward Ketz, in a forthcoming column, says this proposed new regulatory agency amounts to little more than politics:

What Obama is really trying to do is give American voters the impression that he is in charge, that he cares about them, and that he is improving matters so that the chances of another financial meltdown is infinitesimal.  It is political legerdemain.

As long as managers have perverse incentives to cheat investors and as long as the SEC goes after only the little  guys and ignores managers at Enron, WorldCom, Madoff Investments Securities, and GE, nothing is going to change.  If the Congress and if the president want to improve matters—and I have no idea if they really do—then they must change the set of incentives and disincentives.  To effect real change, the system must punish managers and directors who lie and steal and cover it up with scandalous financial reporting.

More regulation might make society feel better, but that is just an indication that most Americans have little understanding of economics.  They will continue to lose in the stock markets until they insist elected officials do something substantive.

My fear is that Democrats will rally around Obama while Republicans vilify him, similar to the previous administration when Republicans rallied around Bush and Democrats denigrated him.  There is too much partisanship in this country and not enough rational analysis.  Americans need to understand that both presidents have failed us by supporting new legislation and by crippling better enforcement.  (For whatever it is worth, this is one of the reasons I am an Independent.)

Tags: Banking, Economic Crisis, Finance, Ketz, Politics
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The Trouble with Markets and Health Care

Wednesday, September 16th, 2009

In the cover story of September’s The Atlantic, David Goldhill, president and CEO of The Game Show Network, offers the story of his father’s death as a cautionary tale about what Goldhill believes is ailing the U.S. health care system. Smeal’s Dan Cahoy responds to the article on his personal blog, Incentivize!:

[Goldhill's article is] a discussion of the wildly misaligned incentives in the U.S. health care system.  Essentially, the article asserts that a lack of transparency in costs and reimbursement have allowed costs to skyrocket while providing generally poor care. 

… On the topic of health care markets, the underlying conclusion of the article is that many health care costs (at the very least, routine costs) should be paid directly by consumers who can exercise choice and encourage competition.  According the the author, this would solve existing incentive misalignment through a traditional market approach.  The market for LASIK surgery, which is generally not reimbursed by insurance, is used as an example, where costs have significantly decreased since the procedure was introduced.

Total consumer control may not be as attractive as it sounds, as basic health care is not like other markets.  The most important difference is that in many cases we do not want people to choose to forgo treatment, and this may happen if they had to completely internalize the costs.  LASIK is clearly an optional procedure, and people who could benefit from it (like me) lead perfectly happy and healthy lives without it (like me). But prenatal care, hypertension treatments, cancer screening and the like can be demonstrated to positively impact the quality of life and should not be promoted as optional.  Many consumers may not be sophisticated enough to make decisions on heath care spending in every case (like me). In truth, we want a system that encourages people to attain some preventative care and treatments that they might not pay for themselves.  A pure market approach in this context may lead to some undesirable outcomes.

Tags: Cahoy, Health Care, Politics
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Breaking Up Fannie and Freddie

Thursday, September 10th, 2009

The Mortgage Bankers Association last week called for “Congress to transform Fannie Mae and Freddie Mac into several smaller privately held companies that would issue mortgage securities carrying an explicit government guarantee,” The Wall Street Journal reports.

Smeal’s Brent Ambrose, director of the Institute for Real Estate Studies, explains a few of the pros and cons of the industry group’s plan and details some of the issues currently surrounding Fannie and Freddie:

What do we do with Fannie Mae and Freddie Mac? These Government Sponsored Enterprises (GSEs) were created by Congress to provide liquidity and stability to the U.S. mortgage markets. They carry out this mission by purchasing mortgages from originators and then repackaging them into mortgage-backed securities (MBS) or holding them in their retained portfolios. In 2008, Fannie and Freddie purchased 80 percent of all mortgages originated in the United States and the value of their combined mortgage assets was $1.5 trillion (as of June 30, 2008). They were placed into conservatorship by the Federal Housing Finance Agency (FHFA) on September 7, 2008, as a result of the rapid decline in their capital base during the economic turmoil of last summer. As the housing and capital markets weakened last summer, the value of their assets (i.e. their mortgage holdings) declined significantly while the value of their debt issued to purchase these assets remained fixed. Effectively, Fannie and Freddie were insolvent. Unfortunately, as GSEs, the close relation between them and the federal government created the impression among investors that the debt securities issued by Fannie and Freddie were guaranteed by the federal government. Since being placed into conservatorship, the government converted this “implicit” guarantee into an explicit guarantee and Fannie and Freddie have continued to purchase and securitize mortgages. Their actions are a critical link in the Obama administration’s efforts to support the housing market. However, the future of Fannie and Freddie remains uncertain.

(more…)

Tags: Ambrose, Economic Crisis, Politics, Real Estate
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